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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
----------
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended December 31, 2004
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ____________ to ____________
Commission file number 000-24811
SOUND FEDERAL BANCORP, INC.
(Exact name of registrant as specified in its charter)
Delaware 22-3887679
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1311 Mamaroneck Ave., White Plains, New York 10605
(Address of principal executive offices)
(Zip Code)
(914) 761-3636
(Registrant's telephone number including area code)
N/A
----------------------------------------------------
(Former name, former address and former fiscal year,
if changed from last Report)
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 twelve months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [_].
Indicate by check mark whether the Registrant is an accelerated filer (as
defined in Rule 12b-2 of the Securities Exchange Act of 1934). Yes X No .
Indicate the number of shares outstanding of each of the issuer's classes
of common stock as of the latest practicable date.
Shares
Class Outstanding at
---------------- February 4, 2005
Common Stock, ----------------
par value, $0.01 12,592,841
TABLE OF CONTENTS
PART I -- FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited)
Consolidated Balance Sheets at December 31, 2004 and
March 31, 2004....................................................... 1
Consolidated Statements of Income for the Quarter and
Nine Months Ended December 31, 2004 and 2003......................... 2
Consolidated Statement of Changes in Stockholders' Equity
for the Nine Months Ended December 31, 2004.......................... 3
Consolidated Statements of Cash Flows for the Nine Months
Ended December 31, 2004 and 2003..................................... 4
Notes to Unaudited Consolidated Financial Statements................. 5
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations............................................ 11
Item 3. Quantitative and Qualitative Disclosures about Market Risk........... 24
Item 4. Controls and Procedures.............................................. 24
PART II -- OTHER INFORMATION
Item 1. Legal Proceedings.................................................... 25
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.......... 25
Item 3. Defaults upon Senior Securities...................................... 25
Item 4. Submission of Matters to a Vote of Security Holders.................. 25
Item 5. Other Information.................................................... 25
Item 6. Exhibits............................................................. 25
Signatures........................................................... 26
i
Part 1. - FINANCIAL INFORMATION
Item 1. Financial Statements
Sound Federal Bancorp, Inc. and Subsidiary
CONSOLIDATED BALANCE SHEETS
(Unaudited)
(Dollars in thousands, except per share data)
December 31, March 31,
2004 2004
------------ ---------
Assets
Cash and due from banks $ 10,493 $ 10,455
Federal funds sold and other overnight deposits 21,150 20,756
--------- ---------
Total cash and cash equivalents 31,643 31,211
--------- ---------
Securities:
Available for sale, at fair value (including $36,298 and $38,000 pledged as
collateral for borrowings under repurchase agreements at December 31, 2004
and March 31, 2004, respectively) 295,497 337,730
Held to maturity, at amortized cost (fair value of $69,434) 69,430 --
--------- ---------
Total securities 364,927 337,730
--------- ---------
Loans, net:
Mortgage loans 542,135 477,771
Consumer loans 2,757 3,396
Allowance for loan losses (Note 5) (2,937) (2,712)
--------- ---------
Total loans, net 541,955 478,455
--------- ---------
Accrued interest receivable 3,857 3,623
Federal Home Loan Bank stock 5,738 5,303
Premises and equipment, net 5,969 5,630
Goodwill 13,970 13,970
Bank-owned life insurance 10,373 10,085
Prepaid pension costs 2,954 2,547
Deferred income taxes 1,091 --
Other assets 1,895 1,987
--------- ---------
Total assets $ 984,372 $ 890,541
========= =========
Liabilities and Stockholders' Equity
Liabilities:
Deposits $ 802,990 $ 708,330
Borrowings (Note 6) 38,000 35,000
Mortgagors' escrow funds 6,012 4,522
Due to brokers for securities purchased 3,916 4,000
Accrued expenses and other liabilities 2,320 1,630
--------- ---------
Total liabilities 853,238 753,482
--------- ---------
Stockholders' equity:
Preferred stock ($0.01 par value; 1,000,000 shares authorized; none issued
and outstanding) -- --
Common stock ($0.01 par value; 24,000,000 shares authorized; 13,636,170
shares issued) 136 136
Additional paid-in capital 103,372 102,637
Treasury stock, at cost (1,028,329 and 459,297 shares at December 31, 2004
and March 31, 2004, respectively) (14,644) (7,150)
Common stock held by Employee Stock Ownership Plan ("ESOP") (6,178) (6,556)
Unearned stock awards (4,731) (5,618)
Retained earnings 54,448 52,908
Accumulated other comprehensive (loss) income, net of taxes (Note 7) (1,269) 702
--------- ---------
Total stockholders' equity 131,134 137,059
--------- ---------
Total liabilities and stockholders' equity $ 984,372 $ 890,541
========= =========
See accompanying notes to unaudited consolidated financial statements.
1
Sound Federal Bancorp, Inc. and Subsidiary
CONSOLIDATED STATEMENTS OF INCOME
(Unaudited)
(In thousands, except per share data)
For the Three Months Ended For the Nine Months Ended
December 31, December 31,
-------------------------- -------------------------
2004 2003 2004 2003
---- ---- ---- ----
Interest and Dividend Income
Loans $ 7,482 $ 6,641 $ 21,733 $ 19,900
Mortgage-backed and other securities 3,101 3,186 $ 8,917 8,693
Federal funds sold and other overnight deposits 113 46 245 220
Other earning assets 32 -- 87 123
------- ------- -------- --------
Total interest and dividend income 10,728 9,873 30,982 28,936
------- ------- -------- --------
Interest Expense
Deposits 3,677 2,798 10,002 8,342
Borrowings 371 381 1,126 1,130
Other interest-bearing liabilities 5 7 15 42
------- ------- -------- --------
Total interest expense 4,053 3,186 11,143 9,514
------- ------- -------- --------
Net interest income 6,675 6,687 19,839 19,422
Provision for loan losses (Note 5) 75 75 225 200
------- ------- -------- --------
Net interest income after provision for loan losses 6,600 6,612 19,614 19,222
------- ------- -------- --------
Non-Interest Income
Service charges and fees 244 252 740 765
Increase in cash surrender value of bank-owned
life insurance 121 -- 287 --
Gain on sales of mortgage loans 17 -- 17 --
------- ------- -------- --------
Total non-interest income 382 252 1,044 765
------- ------- -------- --------
Non-Interest Expense
Compensation and benefits 2,538 2,107 7,412 6,105
Occupancy and equipment 673 553 1,967 1,699
Data processing service fees 314 320 878 751
Advertising and promotion 189 231 679 782
Other 886 725 2,557 2,231
------- ------- -------- --------
Total non-interest expense 4,600 3,936 13,493 11,568
------- ------- -------- --------
Income before income tax expense 2,382 2,928 7,165 8,419
Income tax expense 956 1,133 2,811 3,257
------- ------- -------- --------
Net income $ 1,426 $ 1,795 $ 4,354 $ 5,162
======= ======= ======= =======
Earnings per share (Note 4):
Basic earnings per share $ 0.12 $ 0.15 $ 0.37 $ 0.42
======= ======= ======= =======
Diluted earnings per share $ 0.12 $ 0.14 $ 0.36 $ 0.41
======= ======= ======= =======
See accompanying notes to unaudited consolidated financial statements.
2
Sound Federal Bancorp, Inc. and Subsidiary
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
For the Nine Months Ended December 31, 2004
(Unaudited)
(Dollars in thousands, except per share data)
Accumulated
Common Other
Additional Stock Unearned Comprehensive Total
Common Paid-In Treasury Held By Stock Retained Income Stockholders'
Stock Capital Stock ESOP Awards Earnings (Loss) Equity
-------- ---------- ---------- --------- ---------- --------- ------------ -------------
Balance at March 31, 2004 $ 136 $ 102,637 $ (7,150) $ (6,556) $ (5,618) $ 52,908 $ 702 $ 137,059
Net income -- -- -- -- -- 4,354 -- 4,354
Other comprehensive loss
(Note 7) -- -- -- -- -- -- (1,971) (1,971)
---------
Total comprehensive income -- -- -- -- -- -- -- 2,383
Dividends paid ($0.18 per share) -- -- -- -- -- (2,177) -- (2,177)
Purchases of treasury stock
(627,332 shares) -- -- (8,324) -- -- -- -- (8,324)
Reissuance of treasury stock
for exercise of stock
options (58,300 shares) -- -- 830 -- -- (637) -- 193
Tax benefit from exercise of
stock options -- 250 -- -- -- -- -- 250
Vesting of stock awards -- (19) -- -- 887 -- -- 868
ESOP shares committed to be
released for allocation -- 504 -- 378 -- -- -- 882
-------- --------- --------- -------- --------- --------- --------- ---------
Balance at December 31, 2004 $ 136 $ 103,372 $ (14,644) $ (6,178) $ (4,731) $ 54,448 $ (1,269) $ 131,134
======== ========= ========= ======== ========= ========= ========= =========
See accompanying notes to unaudited consolidated financial statements.
3
Sound Federal Bancorp, Inc. and Subsidiary
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(In thousands)
For the Nine Months Ended
December 31,
-----------------------------
2004 2003
--------- ---------
OPERATING ACTIVITIES
Net income $ 4,354 $ 5,162
Adjustments to reconcile net income to net cash provided
by operating activities:
Provision for loan losses 225 200
Depreciation, amortization and accretion 1,830 1,801
ESOP and stock award expense 1,769 777
Income taxes 525 (902)
Gain on sales of mortgage loans (17) --
Origination of loans held for sale (777) --
Proceeds from sales of loans held for sale 794 --
Other adjustments, net (248) (234)
--------- ---------
Net cash provided by operating activities 8,455 6,804
--------- ---------
INVESTING ACTIVITIES
Purchases of securities:
Available for sale (31,015) (189,246)
Held to maturity (68,620) --
Proceeds from principal payments, maturities and calls of securities:
Available for sale 65,263 121,557
Held to maturity 3,092 --
Net disbursements for loan originations and principal repayments (64,137) (34,742)
Purchase of bank-owned life insurance -- (10,000)
Purchases of Federal Home Loan Bank stock (435) (1,162)
Purchases of premises and equipment (1,013) (746)
--------- ---------
Net cash used in investing activities (96,865) (114,339)
--------- ---------
FINANCING ACTIVITIES
Net increase in deposits 94,660 94,156
Proceeds from borrowings 3,000 20,000
Repayment of borrowings -- (20,000)
Net increase in mortgagors' escrow funds 1,490 573
Purchases of treasury stock (8,324) (7,400)
Proceeds from exercise of stock options 193 101
Payment of cash dividends on common stock (2,177) (1,940)
--------- ---------
Net cash provided by financing activities 88,842 85,490
--------- ---------
Increase (decrease) in cash and cash equivalents 432 (22,045)
Cash and cash equivalents at beginning of period 31,211 44,897
--------- ---------
Cash and cash equivalents at end of period $ 31,643 $ 22,852
========= =========
SUPPLEMENTAL INFORMATION
Interest paid $ 11,102 $ 9,604
Income taxes paid 2,270 4,122
Decrease in due to brokers for securities purchased (84) (1,027)
See accompanying notes to unaudited consolidated financial statements.
4
Sound Federal Bancorp, Inc. and Subsidiary
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
1. Reorganization and Stock Offerings
On October 8, 1998, Sound Federal Bancorp issued shares of its common
stock in connection with a Plan of Reorganization ("the "Reorganization") and
related Subscription and Community Offering. In the Reorganization, Sound
Federal Savings and Loan Association converted from a federally chartered mutual
savings association to a federally chartered stock savings association. Sound
Federal Savings and Loan Association became the wholly-owned subsidiary of Sound
Federal Bancorp, which became the majority-owned subsidiary of Sound Federal,
MHC (the "Mutual Holding Company").
On January 6, 2003, Sound Federal Bancorp and the Mutual Holding Company
completed its conversion to a fully public holding company structure. At that
time, the Mutual Holding Company merged into Sound Federal Savings and Loan
Association, and no longer exists. Sound Federal Bancorp was succeeded by a new
Delaware corporation named Sound Federal Bancorp, Inc. (the "Holding Company").
Shares of common stock representing the ownership interest of the Mutual Holding
Company were sold in a subscription offering and a community offering. Shares
owned by public shareholders (shareholders other than the Mutual Holding
Company) were converted into the right to receive new shares of Holding Company
common stock determined pursuant to an exchange ratio. As part of these
transactions, Sound Federal Savings and Loan Association changed its name to
Sound Federal Savings (the "Bank"), which is now a wholly-owned subsidiary of
the Holding Company. The Bank and the Holding Company are referred to herein as
"the Company".
2. Basis of Presentation
The consolidated financial statements included herein have been prepared
by the Company without audit. In the opinion of management, the unaudited
consolidated financial statements include all adjustments, consisting of normal
recurring accruals, necessary for a fair presentation of the financial position
and results of operations for the periods presented. Certain information and
footnote disclosures normally included in conformity with U.S. generally
accepted accounting principles have been condensed or omitted pursuant to the
rules and regulations of the Securities and Exchange Commission; however, the
Company believes that the disclosures are adequate to make the information
presented not misleading. The operating results for the periods presented are
not necessarily indicative of results to be expected for any other interim
period or for the entire fiscal year ending March 31, 2005.
The consolidated financial statements have been prepared in conformity
with U.S. generally accepted accounting principles. In preparing the
consolidated financial statements, management is required to make estimates and
assumptions that affect the reported amounts of assets, liabilities, income and
expense. Actual results could differ significantly from these estimates. A
material estimate that is particularly susceptible to near-term change is the
allowance for loan losses, which is discussed in Note 5.
The unaudited interim consolidated financial statements presented herein
should be read in conjunction with the annual audited consolidated financial
statements of the Company for the fiscal year ended March 31, 2004, included in
the Company's 2004 Annual Report on Form 10-K.
3. Stock-Based Compensation
Statement of Financial Accounting Standards ("SFAS") No. 123, Accounting
for Stock-Based Compensation, encourages the use of a fair-value-based method of
accounting for employee stock compensation plans, but permits the continued use
of the intrinsic-value-based method of accounting prescribed by Accounting
Principles Board ("APB") Opinion No. 25. Under SFAS No. 123, the grant-date
5
fair value of options is recognized as compensation expense over the vesting
period. The Company has elected to continue to apply APB Opinion No. 25 and
disclose the pro forma information required by SFAS No. 123.
Had stock-based compensation expense been recognized in accordance with
SFAS No. 123, the Company's net income and earnings per share would have been
adjusted to the following pro forma amounts:
Three Months Ended Nine Months Ended
December 31, December 31,
------------------------- ---------------------
2004 2003 2004 2003
----------- ---------- ---------- -------
(In thousands, except per share data)
Net income, as reported $ 1,426 $ 1,795 $ 4,354 $ 5,162
Add stock award expense included in reported
net income, net of related tax effects 181 17 542 61
Deduct stock award and stock option expense
determined under the fair-value-based
method, net of related tax effects (296) (32) (905) (111)
----------- ---------- ---------- -------
Pro forma net income $ 1,311 $ 1,780 $ 3,991 5,112
=========== ========== ========== =======
Earnings per share:
Basic, as reported $ 0.12 $ 0.15 $ 0.37 $ 0.42
=========== ========== ========== =======
Basic, pro forma $ 0.11 $ 0.15 $ 0.34 $ 0.41
=========== ========== ========== =======
Diluted, as reported $ 0.12 $ 0.14 $ 0.36 $ 0.41
=========== ========== ========== =======
Diluted, pro forma $ 0.11 $ 0.14 $ 0.33 $ 0.40
=========== ========== ========== =======
In December 2004, the Financial Accounting Standards Board (the "FASB")
issued SFAS No. 123 (revised 2004), "Share-Based Payment" ("SFAS No. 123R"),
which requires entities to measure the cost of employee services received in
exchange for an award of equity instruments based on the grant-date fair value
of the award (with limited exceptions). The cost is recognized as an expense
over the period during which the employee is required to provide service in
exchange for the award, which is usually the vesting period. The scope of SFAS
No. 123R includes the Company's Incentive Stock Benefit Plan (the "ISB Plan")
which provides for stock awards and stock option grants. For stock awards under
the ISB Plan, the grant-date fair value of the shares will be recognized as
compensation expense on a straight-line basis over the applicable vesting
period, which is the same accounting previously required under APB Opinion No.
25. For options granted under the ISB Plan, the Company will recognize the
grant-date fair value of options as compensation expense on a straight-line
basis over the applicable vesting period. This accounting treatment differs
significantly from the previous accounting for fixed stock options under APB
Opinion No. 25 which generally required expense recognition only when the
exercise price of the option was less than the market price of the underlying
stock on the grant date. As required by SFAS No. 123R, the Company will estimate
the fair value of stock options on each grant date, using an appropriate
valuation approach such as the Black-Scholes option pricing model. SFAS No. 123R
did not change existing accounting principles applicable to employee stock
ownership plans.
SFAS No. 123R applies to all awards granted after its effective date and
to awards modified, repurchased, or cancelled after that date. SFAS No. 123R is
effective as of the beginning of the first interim or annual reporting period
beginning after June 15, 2005 (i.e., the quarter beginning July 1, 2005). The
standard permits different transition methods. The Company expects to adopt SFAS
No. 123R by recognizing compensation expense for (i) all new awards granted
after July 1, 2005 and (ii) the portion of outstanding awards for which the
requisite service had not been rendered as of July 1, 2005, based on the
grant-date fair value of those awards calculated for purposes of SFAS No. 123
pro forma disclosures. The additional compensation cost for the Company's stock
options outstanding at December 31, 2004 that is expected to be recognized
during the first twelve months after adoption of SFAS No. 123R is approximately
$557,000 before taxes.
6
4. Earnings Per Share
Weighted average common shares used in calculating basic and diluted
earnings per share for the three months ended December 31, 2004 were 11,558,608
and 11,815,966, respectively. For the quarter ended December 31, 2003, weighted
average common shares used in calculating basic and diluted earnings per share
were 12,219,933 and 12,552,442, respectively.
For the nine months ended December 31, 2004, weighted average shares used
in calculating basic and diluted earnings per share were 11,662,230 and
11,931,624, respectively. For the nine months ended December 31, 2003, the
respective weighted average shares were 12,360,180 and 12,695,304.
5. Allowance for Loan Losses
The allowance for loan losses is increased by provisions for loan losses
charged to income and by recoveries of prior charge-offs, and is decreased by
current charge-offs. Losses are charged to the allowance when all or a portion
of a loan is deemed to be uncollectible. Recoveries of loans previously
charged-off are credited to the allowance for loan losses when realized.
Management's periodic determination of the allowance is based on continuing
reviews of the portfolio, using a consistently-applied methodology. The
allowance for loan losses consists of losses that are both probable and
estimable at the date of the financial statements. In determining the allowance
for loan losses, management considers factors such as the Company's past loan
loss experience, known risks in the portfolio, adverse situations affecting a
borrower's ability to repay, the estimated value of underlying collateral, and
current economic conditions.
Determining the allowance for loan losses involves significant management
judgments utilizing the best information available. Those judgments are subject
to further review by various sources, including the Company's regulators.
Changes in the allowance may be necessary in the future based on changes in
economic and real estate market conditions, new information obtained regarding
known problem loans, the identification of additional problem loans and other
factors, certain of which are outside of management's control.
Activity in the allowance for loan losses for the periods indicated is
summarized as follows:
Three Months Ended Nine Months Ended Year Ended
December 31, December 31, March 31,
------------------------ ------------------------- ---------
2004 2003 2004 2003 2004
------------------------ ------------------------- ---------
(In thousands)
Balance at beginning of period $ 2,862 $ 2,562 $ 2,712 $ 2,442 $ 2,442
Provision for loan losses 75 75 225 200 275
Charge-offs -- -- -- (5) (5)
------------------------ ------------------------- ---------
Balance at end of period $ 2,937 $ 2,637 $ 2,937 $ 2,637 $ 2,712
======================== ========================= =========
7
6. Borrowings
The Company had the following outstanding borrowings under securities
repurchase agreements with the Federal Home Loan Bank of New York (the "FHLB")
at December 31, 2004:
Maturity Date Coupon Rate Borrowings
------------- ----------- ----------
(dollars in thousands)
January 2008(1) 5.42% $ 10,000
December 2008(1) 4.72 5,000
March 2005 4.22 6,000
June 2005 2.47 3,000
March 2006 2.27 7,000
March 2007 2.65 7,000
--------
$ 38,000
========
Weighted average interest rate 3.82%
Accrued interest payable $ 171
(1) Callable quarterly
The securities transferred to the FHLB subject to the repurchase
agreements consist of U.S. Government and agency securities available for sale
with a carrying value of $15.3 million and mortgage-backed securities available
for sale with a carrying value of $21.0 million. Accrued interest receivable on
the securities was $178,000 at December 31, 2004.
7. Comprehensive Income (Loss)
Comprehensive income or loss represents the sum of net income and items of
"other comprehensive income or loss" that are reported directly in stockholders'
equity, such as the change during the period in the after-tax net unrealized
gain or loss on securities available for sale. The Company reports its total
comprehensive income (loss) in the consolidated statement of changes in
stockholders' equity.
The Company's other comprehensive income (loss) is summarized as follows:
Three Months Ended Nine Months Ended
December 31, December 31,
------------------------- ----------------------
2004 2003 2004 2003
(In thousands)
Net unrealized holding gain (loss) arising during
the period on securities available for sale $ 264 $ (1,843) $ (3,256) $(5,010)
Related deferred income tax effect (105) 650 1,285 1,935
--------- --------- --------- -------
Other comprehensive income (loss) $ 159 $ (1,193) $ (1,971) $(3,075)
========= ========= ========= =======
8
The Company's accumulated other comprehensive (loss) income, which is
included in stockholders' equity, is summarized as follows:
December 31, March 31,
2004 2004
------------ ---------
(In thousands)
Net unrealized holding (loss) gain on
securities available for sale $ (2,113) $ 1,143
Related deferred income taxes 844 (441)
--------- --------
Accumulated other comprehensive (loss) income $ (1,269) $ 702
========= ========
8. Postretirement Plans
Pension Plans
The Company maintains two non-contributory defined benefit pension plans
that cover substantially all full-time employees who meet certain age and
service requirements. Benefits are based on the employee's years of accredited
service and average compensation for the three consecutive years that produce
the highest average. The Company's funding policy is to contribute the amounts
required by applicable regulations, although additional amounts may be
contributed from time to time. The Company expects to contribute $727,000 to the
plans in fiscal 2005. Contributions of $577,000 were made during the nine months
ended December 31, 2004.
Plan assets are invested in the Guaranteed Deposit Account ("GDA") of the
General Account at the Connecticut Life Insurance Company. The GDA is invested
primarily in publicly-traded and privately-placed debt securities and mortgage
loans. The GDA also invests in real estate and equity investments.
The components of the net periodic expense for the plans were as follows:
Three Months Ended Nine Months Ended
December 31, December 31,
------------------ -----------------
2004 2003 2004 2003
----- ----- ----- ------
(In thousands)
Service cost $ 91 $ 65 $ 273 $ 195
Interest cost 160 147 480 441
Expected return on plan assets (225) (150) (675) (450)
Recognized net actuarial loss -- 15 -- 45
Amortization of prior service cost
and net transition obligations 28 3 84 9
----- ----- ----- -----
Net periodic pension expense $ 54 $ 80 $ 162 $ 240
===== ===== ===== =====
Director Retirement Plan
The Company maintains a non-qualified, unfunded Director Retirement Plan
which is an amendment and restatement of the former Director Emeritus Plan.
Under the Director Retirement Plan, any person who was a director on January 1,
2004, who retires or dies after age 70 and who completes 15 years of continuous
service as a director becomes entitled to an annual retirement benefit for the
longer of 20 years or his/her lifetime, equal to the amount of annual fees paid
for attendance at regular monthly board meetings during the preceding twelve
months, plus the amount of any annual stipend paid to such director in that
year. The Director Retirement Plan also provides for benefits in the event of
early retirement or disability. In the event of a change in control, directors
will be credited with years of service as if they had remained members of the
9
Board of Directors until age 70 and be entitled to benefits payable in a lump
sum, at the time of the change in control. A retired director will receive the
present value of the remaining benefit, paid in a lump sum at the time of a
change in control.
The components of the net periodic expense for the plan were as follows:
Three Months Ended Nine Months Ended
December 31, December 31,
----------------- ------------------
2004 2003 2004 2003
----- ----- ----- ------
(In thousands)
Service cost $ 16 $ 3 $ 48 $ 9
Interest cost 24 12 72 36
Recognized net actuarial gain (4) -- (12) --
Amortization of prior service cost 45 20 135 60
----- ----- ----- -----
Net periodic expense $ 81 $ 35 $ 243 $ 105
===== ===== ===== =====
10
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
General
Our principal business has historically consisted of offering savings and
other deposits to the general public and using the funds from these deposits to
make loans secured by residential real estate. Our net income depends primarily
upon our net interest income, which is the difference between interest income
earned on interest-earning assets, such as loans and investments, and the
interest expense paid on deposits and borrowings. To a much lesser degree, our
net income is affected by non-interest income, such as banking service charges
and fees. Net income is also affected by, among other things, provisions for
loan losses and non-interest expenses. Our principal non-interest expenses
consist of compensation and benefits, occupancy and equipment, data processing
service fees, advertising and promotion and other expenses, such as ATM
expenses, professional fees and insurance premiums. Our net income also is
affected significantly by general economic and competitive conditions,
particularly changes in market interest rates; government legislation and
policies affecting fiscal affairs, housing and financial institutions; monetary
policies of the Federal Reserve System; and the actions of bank regulatory
authorities.
Forward-Looking Statements
When used in this report on Form 10-Q, the words or phrases "will likely
result," "are expected to," "will continue," "is anticipated," "estimate,"
"project" or similar expressions are intended to identify "forward-looking
statements" within the meaning of the Private Securities Litigation Reform Act
of 1995. Such statements reflect our current view with respect to future-looking
events and are subject to certain risks and uncertainties that could cause
actual results to differ materially from Management's current expectations.
Among others, these risks and uncertainties include changes in general economic
conditions, changes in policies by regulatory agencies, hostilities involving
the United States, fluctuations in interest rates, demand for loans in the
Company's market area, changes in the quality or composition of the Company's
loan and investment portfolios, changes in accounting principles, policies or
guidelines and other economic, competitive, governmental and technological
factors affecting our operations, markets and products. The Company wishes to
caution readers not to place undue reliance on any such forward-looking
statements, which speak only as of the date made. The Company wishes to advise
readers that the factors listed above could affect the Company's financial
performance and could cause the Company's actual results for future periods to
differ materially from its forward-looking statements. We do not intend to
update these forward-looking statements.
Critical Accounting Policies
Accounting policies considered particularly critical to our financial
results include the allowance for loan losses, accounting for goodwill and the
recognition of interest income and interest expense. The methodology for
determining the allowance for loan losses is considered a critical accounting
policy by management due to the high degree of judgment involved, the
subjectivity of the assumptions utilized and the potential for changes in the
economic environment that could result in changes to the amount of the allowance
for loan losses considered necessary. Management considers accounting for
goodwill to be a critical policy because goodwill must be tested for impairment
at least annually using an approach that involves the estimation of fair values.
Estimating fair values involves a high degree of judgment and subjectivity in
the assumptions utilized. Interest income on loans, securities and other
interest-earning assets is accrued monthly unless management considers the
collection of interest to be doubtful. When loans are placed on nonaccrual
status (contractually past due 90 days or more), unpaid interest is reversed by
charging interest income and crediting an allowance for uncollected interest.
Interest payments received on nonaccrual loans (including impaired loans) are
recognized as income unless future collections are doubtful. Loans are returned
to accrual status when collectibility is no longer considered
11
doubtful (generally, when all payments have been brought current). Interest
expense on deposits, borrowings and other interest-bearing liabilities is
accrued monthly.
Financial Condition
Assets. The Company's total assets amounted to $984.4 million at December
31, 2004 as compared to $890.5 million at March 31, 2004. The $93.9 million
increase in assets primarily consisted of a $63.5 million increase in net loans
to $542.0 million and a $27.2 million increase in securities to $364.9 million.
The increase in securities consisted of a $69.4 million increase in securities
classified as held to maturity and a $42.2 million decrease in securities
classified as available for sale. In June 2004, the Company began to classify
substantially all securities purchases as held to maturity. This decision was
based on the size of the portfolio classified as available for sale relative to
interest-earning assets and stockholders' equity, the Company's liquidity
position, which allows the Company to hold securities until maturity and an
increase in market interest rates. As these factors change, the Company will
evaluate the classification of future securities purchases.
Liabilities. Total deposits were $803.0 million at December 31, 2004, an
increase of $94.7 million as compared to $708.3 million at March 31, 2004.
Certificates of deposit increased $80.0 million to $525.7 million from $445.7
million; savings and club accounts increased $3.4 million to $151.6 million from
$148.2 million; and money market, NOW and commercial checking accounts increased
$11.3 million to $125.7 million from $114.4 million. The increase in deposits is
due primarily to deposit growth in the Stamford branch, which opened in
September 2003, and the Brookfield branch, which opened in June 2004, as well as
growth in existing branches as a result of marketing campaigns. Borrowings
totaled $38.0 million at December 31, 2004 and $35.0 million at March 31, 2004.
Stockholders' Equity. Total stockholders' equity decreased $5.9 million to
$131.1 million at December 31, 2004 as compared to $137.1 million at March 31,
2004. The decrease reflects treasury stock purchases at a cost of $8.3 million,
dividends paid of $2.2 million and a decrease of $2.0 million attributable to
the change in accumulated other comprehensive income or loss, partially offset
by net income of $4.4 million.
The accumulated other comprehensive loss of $1.3 million at December 31,
2004 represents the after-tax net unrealized loss on securities available for
sale ($2.1 million pre-tax). The Company invests primarily in mortgage-backed
securities guaranteed by Ginnie Mae, Fannie Mae and Freddie Mac, as well as U.S.
Government and Agency securities. The unrealized losses at December 31, 2004
were caused by increases in market interest rates subsequent to purchase. There
were no debt securities past due or securities for which the Company currently
believes it is not probable that it will collect all amounts due according to
the contractual terms of the security. Because the Company has the ability to
hold securities with unrealized losses until a market price recovery (which, for
debt securities may be until maturity), the Company did not consider these
securities to be other-than-temporarily impaired at December 31, 2004.
12
Comparison of Results of Operations for the Three Months Ended December 31, 2004
and 2003
Average Balance Sheets. The following table sets forth average balance
sheets, average yields and costs, and certain other information for the three
months ended December 31, 2004 and 2003. The table reflects the annualized
average yield on interest-earning assets and the annualized average cost of
interest-bearing liabilities (derived by dividing the annualized interest income
or expense by the monthly average balance of interest-earning assets or
interest-bearing liabilities, respectively), as well as the net yield on
interest-earning assets. No tax-equivalent yield adjustments were made, as the
effect thereof was not material. Nonaccrual loans were included in the
computation of average balances and therefore have a zero yield. The yields set
forth below include the effect of deferred loan origination fees and costs, and
purchase discounts and premiums that are amortized or accreted to interest
income. Interest on loans for the 2004 and 2003 periods includes amortization of
net deferred loan origination costs of $136,000 and $270,000, respectively.
Interest on mortgage-backed securities includes amortization of net purchase
premiums of $245,000 and $196,000 for those same respective periods.
For the Three Months ended December 31,
----------------------------------------------------------------------------------------
2004 2003
----------------------------------------------------------------------------------------
Average Average
Outstanding Average Outstaning Average
Balance Interest Yield/Rate Balance Interest Yield/Rate
------- -------- ---------- ------- -------- ----------
(Dollars in thousands)
Interest-earning assets:
Loans (1) $534,924 7,482 5.55% $452,145 6,641 5.83%
Mortgage-backed securities (2) 262,272 2,319 3.51% 259,632 2,439 3.73%
Other securities (2) 95,115 782 3.26% 91,309 747 3.25%
Federal funds sold and other
overnight deposits (3) 30,436 113 1.47% 28,430 46 0.64%
Other (4) 5,871 32 2.16% 5,516 -- 0.00%
------------------------ -----------------------
Total interest-earning assets 928,618 10,728 4.58% 837,032 9,873 4.68%
-------- -----
Non-interest earning assets 45,253 33,602
-------- --------
Total assets $973,871 $870,634
======== ========
Interest-bearing liabilities:
Savings and club accounts $152,068 205 0.53% $143,754 193 0.53%
Money market accounts 47,346 97 0.81% 43,184 83 0.76%
NOW accounts 60,880 38 0.25% 57,258 34 0.24%
Certificates of deposit 520,719 3,337 2.54% 427,819 2,488 2.31%
Borrowings 38,000 371 3.87% 41,459 381 3.65%
Mortgagors' escrow funds 4,458 5 0.44% 3,739 7 0.74%
------------------------ -----------------------
Total interest-bearing liabilities 823,471 4,053 1.95% 717,213 3,186 1.76%
-------- -----
Non-interest-bearing liabilities 21,316 17,913
-------- --------
Total liabilities 844,787 735,126
Stockholders' equity 129,084 135,508
-------- --------
Total liabilities and
stockholders' equity $973,871 $870,634
======== ========
Net interest income 6,675 6,687
======== =====
Net interest rate spread (5) 2.63% 2.92%
Net earning assets (6) $105,147 $119,819
======== ========
Net interest margin (7) 2.85% 3.17%
Ratio of interest-earning assets
to interest-bearing liabilities 1.13x 1.17x
(1) Balances are net of the allowance for loan losses.
(2) Average outstanding balances are based on amortized cost. As a result, the
average balances and yields do not include the effect of changes in fair value
of securities available for sale.
(3) Other overnight deposits represent an interest-earning demand account at the
Federal Home Loan Bank of New York.
(4) Consists primarily of Federal Home Loan Bank stock. The Federal Home Loan
Bank suspended dividend payments in October 2003 and resumed paying quarterly
dividends in January 2004.
(5) Net interest rate spread represents the difference between the yield on
average interest-earning assets and the cost of average interest-bearing
liabilities.
(6) Net earning assets represent total interest-earning assets less total
interest-bearing liabilities.
(7) Net interest margin represents net interest income divided by average total
interest-earning assets.
13
Rate/Volume Analysis. The following table presents the dollar amount of
changes in interest income and interest expense for the major categories of
interest-earning assets and interest-bearing liabilities, with respect to (i)
changes attributable to changes in volume (i.e., changes in balances multiplied
by the prior-period rate) and (ii) changes attributable to rate (i.e., changes
in rate multiplied by prior-period balances). For purposes of this table,
changes attributable to both rate and volume, which cannot be segregated, have
been allocated proportionately to the change due to volume and the change due to
rate.
For the Three Months Ended December 31,
2004 vs. 2003
---------------------------------------
Increase (Decrease)
Due to
---------------------- Total Increase
Volume Rate (Decrease)
-----------------------------------
(In thousands)
Interest-earning assets:
Loans $ 2,672 $ (1,831) $ 841
Mortgage-backed securities 150 (270) (120)
Other securities 33 2 35
Federal funds and other overnight
deposits 3 64 67
Other -- 32 32
-------- -------- -------
Total interest-earning assets 2,858 (2,003) 855
-------- -------- -------
Interest-bearing liabilities:
Savings and club accounts 12 -- 12
Money market accounts 8 6 14
NOW accounts 2 2 4
Certificates of deposit 582 267 849
Borrowings (111) 101 (10)
Mortgage escrow funds 6 (8) (2)
-------- -------- -------
Total interest-bearing liabilities 499 368 867
-------- -------- -------
Net interest income $ 2,359 $ (2,371) $ (12)
======== ======== =======
Net Income. Net income amounted to $1.4 million or diluted earnings per
share of $0.12 for the quarter ended December 31, 2004, as compared to $1.8
million or diluted earnings per share of $0.14 for the quarter ended December
31, 2003, a decrease of 20.6% in net income. The decrease in net income for the
quarter ended December 31, 2004 is primarily attributable to a $664,000 increase
in non-interest expense, partially offset by a $177,000 decrease in income tax
expense.
Interest Income. Interest income increased $855,000 to $10.7 million for
the quarter ended December 31, 2004, as compared to the same quarter in 2003.
The increase reflects a $91.6 million increase in average interest-earning
assets to $928.6 million during the quarter ended December 31, 2004 as compared
to $837.0 million for the same quarter in the prior year, partially offset by a
10 basis point decrease in the average yield on interest-earning assets to
4.58%. The increase in the average balance of interest-earning assets was due
primarily to an $82.8 million increase in net loans to $534.9 million and a $6.4
million increase in the average balance of total securities to $357.4 million.
The increase in average interest-earning assets was funded principally by
deposit growth in the Bank's branches. The decrease in the average yield on
interest-earning assets reflects the origination of loans at lower rates than
the existing portfolio, the purchase of securities at
14
lower rates than the existing portfolio and the downward repricing of
adjustable-rate securities during recent periods of declining interest rates.
Loans. Interest income on loans increased $841,000 or 12.7% to $7.5
million for the quarter ended December 31, 2004 as compared to $6.6 million for
the same quarter in 2003. This increase is due to an $82.8 million increase in
the average balance of loans to $534.9 million, partially offset by a 28 basis
point decrease in the yield earned to 5.55%. Loans originated during the quarter
ended December 31, 2004 amounted to $43.0 million. The decrease in the yield
earned is primarily a result of loan originations during the first nine months
of fiscal 2005 and during fiscal 2004 that were at rates lower than the average
yield being earned on the loan portfolio during those periods. As market
interest rates increase, the volume of loans originated may decrease which would
result in slower growth or a decrease in the loan portfolio.
Mortgage-Backed and Other Securities. Interest on mortgage-backed
securities totaled $2.3 million for the quarter ended December 31, 2004, a
decrease of $120,000 from the same quarter in 2003. This decrease is due to a 22
basis decrease in the average yield to 3.51%, partially offset by a $2.6 million
increase in the average balance of mortgage-backed securities to $262.3 million
during the current quarter.
Interest on other securities increased $35,000 to $782,000 for the quarter
ended December 31, 2004, as compared to $747,000 for the same quarter in 2003.
The increase is due to a $3.8 million increase in the average balance of other
securities to $95.1 million and a 1 basis point increase in the average yield to
3.26%.
Federal Funds Sold and Other Overnight Deposits. For the quarter ended
December 31, 2004, interest on Federal funds sold and other overnight deposits
increased $67,000 to $113,000, reflecting a $2.0 million increase in the average
balance to $30.4 million and an 83 basis point increase in the average yield to
1.47%.
Other Earning Assets. Other earning assets consist primarily of FHLB of
New York common stock. Dividends on FHLB of New York common stock amounted to
$32,000 for quarter ended December 31, 2004. There was no dividend income in the
quarter ended December 31, 2003, as the FHLB of New York suspended dividend
payments in October 2003. Quarterly dividend payments were resumed in January
2004.
Interest Expense. Interest expense for the quarter ended December 31, 2004
increased $867,000 to $4.1 million, as compared to $3.2 million for the quarter
ended December 31, 2003. The average balance of interest-bearing liabilities
increased $106.3 million to $823.5 million for the quarter ended December 31,
2004 from $717.2 million for the same quarter in the prior year, while the
average cost of these liabilities increased 19 basis points to 1.95%. The
increase in the average balance of interest-bearing liabilities includes deposit
growth in the Stamford branch, which opened in September 2003, and the
Brookfield branch, which opened in June 2004, as well as growth in the existing
branches. The increase in the average cost of liabilities is a result of
increasing short-term market interest rates and an increase in certificates of
deposit accounts as a percentage of total deposits. The average balance of
certificates of deposit represented 63.2% of the average balance of total
interest-bearing liabilities for the quarter ended December 31, 2004, as
compared to 59.7% for the quarter ended December 31, 2003. Certificates of
deposit are generally offered at higher rates than savings accounts and we have
used these accounts to attract customers to the new branches.
Interest expense on certificates of deposit amounted to $3.3 million for
the current quarter as compared to $2.5 million for the same quarter in 2003.
The increase is due primarily to a $92.9 million increase in the average balance
to $520.7 million from $427.8 million for the same quarter last year, while the
average cost of certificates of deposit increased 23 basis points to 2.54%.
Interest on savings accounts amounted to $205,000 for the current quarter
as compared to $193,000 for the quarter ended December 31, 2003. This increase
is the result of an $8.3 million increase in the average balance of savings
accounts to $152.1 million for the quarter ended December 31, 2004 as compared
to $143.8 million for the same quarter in 2003, while the average cost of
savings accounts remained unchanged at 0.53%.
15
Interest expense on NOW and money market accounts amounted to $135,000 for
quarter ended December 31, 2004 as compared to $117,000 for the same quarter in
the prior year. The average cost increased 3 basis points to 0.49% and the
average balance of these accounts increased $7.8 million to $108.2 million.
For the quarter ended December 31, 2004, interest expense on borrowings
amounted to $371,000 as compared to $381,000 for the same quarter in 2003. The
average balance of borrowings for the current quarter was $38.0 million and the
average cost was 3.87%, an increase of 22 basis points from the same quarter
last year.
Net Interest Income. Net interest income for the quarter ended December
31, 2004 remained relatively unchanged at $6.7 million as compared to the same
quarter in the prior year. The net interest rate spread was 2.63% and 2.92% for
the quarters ended December 31, 2004 and 2003, respectively. The net interest
margin for those periods was 2.85% and 3.17%, respectively. The decreases in
interest rate spread and net interest margin are primarily the result of the
effect of mortgage refinancings and lower returns on our investment portfolio as
interest rates remained near 40-year lows. During the current quarter, the
Federal Reserve raised the Federal funds rate by 50 basis points to 2.25%.
However, long term rates have remained substantially unchanged, resulting in a
flattening yield curve. As short-term interest rates rise, the cost of our
interest-bearing liabilities will increase faster than the yield on
interest-earning assets which are affected by longer-term interest rates. As a
result, our net interest rate spread and net interest margin may decrease. The
decrease in net interest rate spread and net interest margin was also a result
of the decrease in the ratio of interest-earning assets to interest-bearing
liabilities to 1.13x for the quarter ended December 31, 2004 from 1.17x for the
same quarter in 2003, reflecting treasury stock purchases and an investment in
bank-owned life insurance ("BOLI").
In December 2003, the Company purchased a BOLI product for $10.0 million.
The BOLI purchase was funded from interest-earning assets; however, the BOLI
asset is classified separately from interest-earning assets on the consolidated
balance sheet, resulting in a decrease in the ratio of average interest-earning
assets to average interest-bearing liabilities. The changes in the cash
surrender value of the BOLI are recognized as non-interest income.
Provision for Loan Losses. Management regularly reviews the loan portfolio
and makes provisions for loan losses in amounts required to maintain the
allowance for loan losses in accordance with generally accepted accounting
principles. The allowance consists of losses that are both probable and
estimable at the date of the financial statements. The allowance for loan losses
consists of amounts allocated to specific nonperforming loans and to loans in
each major portfolio category. Loan categories such as single-family residential
mortgage loans, which represented 86.4% of total loans at December 31, 2004, are
generally evaluated on an aggregate or "pool" basis. Our allowance for loan
losses is predominately determined on a pool basis by applying loss factors to
the current balances of the various loan categories. The loss factors are
determined by management based on an evaluation of our historical loss
experience, delinquency trends, volume and type of lending conducted, and the
impact of current economic conditions in our market area.
The provision for loan losses was $75,000 for the quarters ended December
31, 2004 and 2003. Non-performing loans amounted to $734,000 or 0.14% of total
loans at December 31, 2004, as compared to $1.3 million or 0.28% of total loans
at December 31, 2003. The allowance for loan losses amounted to $2.9 million and
$2.7 million at December 31, 2004 and March 31, 2004, respectively. There were
no charge-offs or recoveries in the quarters ended December 31, 2004 and 2003.
The increase in the allowance for loan losses is primarily due to an increase in
the origination of adjustable rate mortgage loans, commercial mortgage loans and
commercial loans (not secured by real estate) as well as overall portfolio
growth.
Non-Interest Income. Non-interest income consists principally of service
charges on deposit accounts, fees earned on the sale of investment products,
late charges on loans, various other service fees and changes in the cash
surrender value of the BOLI. Service charges and fees totaled $244,000 and
$252,000 for
16
the quarters ended December 31, 2004 and 2003, respectively. The increase in the
cash surrender value of the BOLI amounted to $121,000 for the quarter ended
December 31, 2004.
Non-Interest Expense. Non-interest expense totaled $4.6 million for the
quarter ended December 31, 2004 as compared to $3.9 million for the quarter
ended December 31, 2003. This increase is due to increases of $431,000 in
compensation and benefits, $120,000 in occupancy and equipment expense, and
$161,000 in other non-interest expense, partially offset by a $42,000 decrease
in advertising and promotion expense.
The increase in compensation and benefits expense is due primarily to a
$260,000 increase in expense related to stock awards made pursuant to the
Company's 2004 Stock Incentive Plan and a $116,000 increase in compensation
costs due primarily to additional staff to support the growth in the Company's
lending operations and the addition of the Brookfield branch, which opened in
June 2004. At December 31, 2004, we had 124 full-time equivalent employees as
compared to 119 at December 31, 2003. The adoption of SFAS No. 123R will result
in additional compensation costs beginning in the second quarter of fiscal 2006.
See Note 3 of the Notes to Unaudited Consolidated Financial Statements in Item 1
for a discussion of SFAS No. 123R, which will result in a change in the
Company's accounting for stock options beginning July 1, 2005.
Other non-interest expense for the current quarter includes $135,000 of
costs related to the Company's implementation of the internal control reporting
provisions of Section 404 of the Sarbanes-Oxley Act of 2002. There were no
comparable costs in the prior year.
Income Taxes. Income tax expense amounted to $956,000 and $1.1 million for
the quarters ended December 31, 2004 and 2003, respectively. The effective tax
rates for those same periods were 40.1% and 38.7%, respectively.
In January 2005, the Governor of the State of New York proposed
legislation that would eliminate the dividends received deduction with respect
to dividends received from certain subsidiary real estate investment trusts.
This proposed change in the state tax law would be effective as of January 1,
2005. Elimination of the deduction would result in an increase in the Company's
effective tax rate.
17
Comparison of Results of Operations for the Nine Months Ended December 31, 2004
and 2003
Average Balance Sheets. The following table sets forth average balance
sheets, annualized average yields and costs, and certain other information for
the nine months ended December 31, 2004 and 2003. This information was prepared
on the same basis as the average balance sheets for the quarterly period. See
"Comparison of Results of Operations for the Three Months Ended December 31,
2004 and 2003". Interest on loans for the 2004 and 2003 periods includes
amortization of net deferred loan origination costs of $412,000 and $753,000,
respectively. Interest on mortgage-backed securities includes amortization of
net purchase premiums of $742,000 and $609,000 for those same respective
periods.
For the Nine Months ended December 31,
-------------------------------------------------------------------------------------
2004 2003
-------------------------------------------------------------------------------------
Average Average
Outstanding Average Outstaning Average
Balance Interest Yield/Rate Balance Interest Yield/Rate
------- -------- ---------- ------- -------- ----------
(Dollars in thousands)
Interest-earning assets:
Loans (1) $ 511,669 21,733 5.64% $ 434,003 19,900 6.09%
Mortgage-backed securities (2) 258,305 6,753 3.47% 239,159 6,725 3.73%
Other securities (2) 90,827 2,164 3.16% 86,227 1,968 3.03%
Federal funds sold and other
overnight deposits (3) 30,991 245 1.05% 35,271 220 0.83%
Other (4) 5,824 87 1.98% 5,507 123 2.96%
--------------------- --------------------
Total interest-earning assets 897,616 30,982 4.58% 800,167 28,936 4.80%
------ ------
Non-interest earning assets 43,960 32,233
--------- ---------
Total assets $ 941,576 $ 832,400
========= =========
Interest-bearing liabilities:
Savings and club accounts $ 151,278 596 0.52% $ 142,757 697 0.65%
Money market accounts 46,717 275 0.78% 42,177 292 0.92%
NOW accounts 58,783 110 0.25% 53,031 139 0.35%
Certificates of deposit 493,267 9,021 2.43% 395,685 7,214 2.42%
Borrowings 37,029 1,126 4.04% 39,473 1,130 3.80%
Mortgagors' escrow funds 4,299 15 0.46% 3,883 42 1.44%
--------------------- --------------------
Total interest-bearing liabilities 791,373 11,143 1.87% 677,006 9,514 1.87%
------ ------
Non-interest-bearing liabilities 21,069 17,653
--------- ---------
Total liabilities 812,442 694,659
Stockholders' equity 129,134 137,741
--------- ---------
Total liabilities and
stockholders' equity $ 941,576 $ 832,400
========= =========
Net interest income 19,839 19,422
====== ======
Net interest rate spread (5) 2.71% 2.93%
Net earning assets (6) $ 106,243 $ 123,161
========= =========
Net interest margin (7) 2.93% 3.22%
Ratio of interest-earning assets
to interest-bearing liabilities 1.13x 1.18x
(1) Balances are net of the allowance for loan losses.
(2) Average outstanding balances are based on amortized cost. As a result, the
average balances and yields do not include the effect of changes in fair value
of securities available for sale.
(3) Other overnight deposits represent an interest-earning demand account at the
Federal Home Loan Bank of New York.
(4) Consists primarily of Federal Home Loan Bank stock.
(5) Net interest rate spread represents the difference between the yield on
average interest-earning assets and the cost of average interest-bearing
liabilities.
(6) Net earning assets represent total interest- earning assets less total
interest-bearing liabilities.
(7) Net interest margin represents net interest income divided by average total
interest-earning assets.
18
Rate/Volume Analysis. The following table presents the dollar amount of
changes in interest income and interest expense for the major categories of
interest-earning assets and interest-bearing liabilities. This information was
prepared on the same basis as the rate/volume analysis for the quarterly period.
See "Comparison of Results of Operations for the Three Months Ended December 31,
2004 and 2003".
For the Nine Months Ended December 31,
2004 vs. 2003
--------------------------------------
Increase (Decrease)
Due to Total
-------------------- Increase
Volume Rate (Decrease)
------------------------------------
(In thousands)
Interest-earning assets:
Loans $ 4,062 (2,229) $ 1,833
Mortgage-backed securities 680 (652) 28
Other securities 109 87 196
Federal funds and other overnight
deposits (41) 66 25
Other 10 (46) (36)
------- ------ -------
Total interest-earning assets 4,820 (2,774) 2,046
------- ------ -------
Interest-bearing liabilities:
Savings and club accounts 62 (163) (101)
Money market accounts 42 (59) (17)
NOW accounts 21 (50) (29)
Certificates of deposit 1,777 30 1,807
Borrowings (96) 92 (4)
Mortgage escrow funds 7 (34) (27)
------- ------ -------
Total interest-bearing liabilities 1,813 (184) 1,629
------- ------ -------
Net interest income $ 3,007 (2,590) $ 417
======= ====== =======
Net Income. Net income amounted to $4.4 million or diluted earnings per
share of $0.36 for the nine months ended December 31, 2004, as compared to $5.2
million or diluted earnings per share of $0.41 for the nine months ended
December 31, 2003, a decrease of 15.7% in net income. The decrease in net income
for the nine months ended December 31, 2004 reflects an increase of $1.9 million
in non-interest expense, partially offset by an increase of $417,000 in net
interest income and a decrease of $446,000 in income tax expense.
Interest Income. Interest income increased $2.1 million to $31.0 million
for the nine months ended December 31, 2004, as compared to $28.9 million for
the same period in 2003. The increase reflects a $97.4 million increase in
average interest-earning assets to $897.6 million during the nine months ended
December 31, 2004 as compared to $800.2 million for the same period in the prior
year, partially offset by a 22 basis point decrease in the average yield on
interest-earning assets to 4.58%. The increase in the average balance of
interest-earning assets was due primarily to a $77.7 million increase in net
loans to $511.7 million and a $23.7 million increase in the average balance of
total securities to $349.1 million, partially offset by a $4.3 million decrease
in average Federal funds sold and other overnight deposits to $31.0 million. The
increase in average interest-earning assets was funded principally by deposit
growth in the Bank's branches. The decrease in the average yield on
interest-earning assets reflects the origination of loans at lower rates than
the existing portfolio, the purchase of securities at lower rates than the
existing portfolio and the downward repricing of adjustable-rate securities
during recent periods of low market interest rates.
19
Loans. Interest income on loans increased $1.8 million or 9.2% to $21.7
million for the nine months ended December 31, 2004 as compared to $19.9 million
for the same period in 2003. This increase is due to a $77.7 million increase in
the average balance of loans to $511.7 million, partially offset by a 45 basis
point decrease in the yield earned to 5.64%.
We originated $163.0 million of new loans during the nine months ended
December 31, 2004. These loans were originated at rates lower than the average
yield being earned on the existing loan portfolio. As a result, the decline in
average yield earned on the loan portfolio continued during the nine months
ended December 31, 2004. The yield on the loan portfolio may decrease further
until interest rates on loan products begin to rise. However, as these interest
rates increase, the volume of loans originated may decrease which would result
in slower growth or a decrease in the loan portfolio.
Mortgage-Backed and Other Securities. Interest on mortgage-backed
securities increased $28,000 to $6.8 million for the nine months ended December
31, 2004, as compared to $6.7 million for the same period in 2003. The average
balance of mortgage-backed securities increased $19.1 million to $258.3 million
during the nine months ended December 31, 2004, partially offset by a decrease
of 26 basis points in the average yield to 3.47%. The increase in the average
balance of mortgage-backed securities is primarily a result of investing funds
from deposit growth. The decrease in the average yield is a result of the
downward repricing of adjustable rate mortgage-backed securities and new
purchases of mortgage-backed securities that are at lower rates than the
existing portfolio.
Interest on other securities increased $196,000 to $2.2 million for the
nine months ended December 31, 2004, as compared to $2.0 million for the same
period in 2003. The increase is due to a 13 basis point increase in the average
yield to 3.16% and a $4.6 million increase in the average balance of other
securities to $90.8 million.
Federal Funds Sold and Other Overnight Deposits. For the nine months ended
December 31, 2004, interest on Federal funds sold and other overnight deposits
increased $25,000 to $245,000, reflecting a 22 basis point increase in the
average yield earned to 1.05%, partially offset by a $4.3 million decrease in
the average balance to $31.0 million.
Other Earning Assets. The Company had an investment of $5.7 million in
FHLB of New York common stock at December 31, 2004. The FHLB of New York
suspended the October 2003 dividend payment on this stock. The FHLB announced in
January 2004 that it was resuming a quarterly dividend but for amounts less than
the amounts previously paid. Dividends on FHLB of New York common stock amounted
to $82,000 for nine months ended December 31, 2004 as compared to $121,000 for
the same period in 2003.
Interest Expense. Interest expense for the nine months ended December 31,
2004 increased $1.6 million to $11.1 million as compared to $9.5 million for the
same period in 2003. The average balance of interest-bearing liabilities
increased $114.4 million to $791.4 million for the nine months ended December
31, 2004 from $677.0 million for the same period in the prior year, while the
average cost of these liabilities remained unchanged at 1.87%. The increase in
the average balance of interest-bearing liabilities includes deposit growth in
the Stamford branch, which opened in September 2003, and the Brookfield branch,
which opened in June 2004, as well as growth in the existing branches.
Interest expense on certificates of deposit amounted to $9.0 million for
the current period as compared to $7.2 million for the same period in 2003. The
increase is due primarily to a $97.6 million increase in the average balance of
time deposits to $493.3 million from $395.7 million for the same period last
year, and a 1 basis point increase in the average cost to 2.43%. The increase in
the average balance includes growth in the Bank's new branch offices as well as
in existing branches.
Interest on savings accounts amounted to $596,000 for the current period
as compared to $697,000 for the nine months ended December 31, 2003. This
decrease is the result of a 13 basis point decrease in the
20
average cost of savings accounts to 0.52% offset partially by an $8.5 million
increase in the average balance of savings accounts to $151.3 million for the
nine months ended December 31, 2004 as compared to $142.8 million for the same
period in 2003.
Interest expense on NOW and money market accounts amounted to $385,000 for
the nine months ended December 31, 2004 as compared to $431,000 for the same
period in the prior year. The average cost decreased 12 basis points to 0.48%
and the average balance of these accounts increased $10.3 million to $105.5
million.
For the nine months ended December 31, 2004 and 2003, interest expense on
borrowings amounted to $1.1 million. The average balance of borrowings for the
nine months ended December 31, 2004 was $37.0 million and the average cost
increased 24 basis points to 4.04% as compared to the same period in 2003.
Net Interest Income. Net interest income for the nine months ended
December 31, 2004 amounted to $19.8 million, a $417,000 increase from the same
period in the prior year. The interest rate spread was 2.71% and 2.93% for the
nine months ended December 31, 2004 and 2003, respectively. The net interest
margin for those periods was 2.93% and 3.22%, respectively. The decreases in
interest rate spread and net interest margin are primarily the result of the
effect of mortgage refinancings and lower returns on our investment portfolio as
interest rates remained near 40-year lows. As interest rates rise, the cost of
our interest-bearing liabilities will increase faster than the yield on
interest-earning assets. As a result, our net interest rate spread and net
interest margin may decrease. The decrease in interest rate spread and net
interest margin was also a result of the decrease in the ratio of
interest-earning assets to interest-bearing liabilities to 1.13x for the nine
months ended December 31, 2004 from 1.18x for the same period in 2003,
reflecting treasury stock purchases and an investment in BOLI.
Provision for Loan Losses. The provision for loan losses was $225,000 and
$200,000 for the nine months ended December 31, 2004 and 2003, respectively.
Non-performing loans amounted to $734,000 or 0.14% of total loans at December
31, 2004, as compared to $1.3 million or 0.28% of total loans at December 31,
2003. The allowance for loan losses amounted to $2.9 million and $2.7 million at
December 31, 2004 and March 31, 2004, respectively. There were no charge-offs or
recoveries for the nine months ended December 31, 2004. Charge-offs amounted to
$5,000 for the nine months ended December 31, 2003. There were no recoveries for
this period. The increase in the allowance for loan losses is primarily due to
an increase in the origination of adjustable rate mortgage loans, commercial
mortgage loans and commercial loans (not secured by real estate) as well as
overall portfolio growth.
Non-Interest Income. Service charges and fees totaled $740,000 and
$765,000 for the nine months ended December 31, 2004 and 2003, respectively. The
increase in the cash surrender value of the BOLI amounted to $287,000 for the
nine months ended December 31, 2004.
Non-Interest Expense. Non-interest expense totaled $13.5 million for the
nine months ended December 31, 2004 as compared to $11.6 million for the nine
months ended December 31, 2003. This increase is due primarily to increases of
$1.3 million in compensation and benefits, $268,000 in occupancy and equipment
expense, $127,000 in data processing service fees, and $326,000 in other
non-interest expense, partially offset by a decrease of $103,000 in advertising
and promotion expense.
The increase in compensation and benefits expense for the nine month
period is due primarily to a $779,000 increase in expense related to stock
awards and a $431,000 increase in compensation costs.
The increase in occupancy and equipment expense is primarily due to the
addition of the Stamford and Brookfield branches, which opened in September 2003
and June 2004, respectively. The decrease in advertising and promotion expense
is primarily due to the timing of the marketing campaigns for the new branch
locations.
21
Other non-interest expense for the nine months ended December 31, 2004
includes $270,000 of costs related to the Company's implementation of the
provisions of Section 404 of the Sarbanes-Oxley Act of 2002. There were no
comparable costs in the same period a year ago.
Income Taxes. Income tax expense amounted to $2.8 million and $3.3 million
for the nine months ended December 31, 2004 and 2003, respectively. The
effective tax rates for those same periods were 39.2% and 38.7%, respectively.
Liquidity and Capital Resources
The Company's primary sources of funds are deposits, the proceeds from
principal and interest payments on loans and mortgage-backed securities, and the
proceeds from maturities of investments. While maturities and scheduled
amortization of loans and securities are a predictable source of funds, deposit
flows and mortgage prepayments are greatly influenced by general interest rates,
economic conditions and competition.
The Company's primary investing activities are the origination of mortgage
loans, and the purchase of short-term investments, government agency bonds,
mortgage-backed securities and collateralized mortgage obligations. These
activities are funded primarily by deposit growth and principal repayments on
loans, mortgage-backed securities and other investment securities. During the
nine months ended December 31, 2004, the Company originated loans totaling
$163.0 million and purchased $99.6 million of securities. These disbursements
were funded by $68.4 million in principal payments, maturities and calls of
securities and $99.8 million in loan principal repayments. During the year ended
March 31, 2004, the Company originated $186.7 million of loans and purchased
$198.7 million of securities.
Liquidity management for the Company is both a daily and long-term process
which is part of the Company's overall management strategy. Excess funds are
generally invested in short-term investments such as Federal funds and
certificates of deposit. In the event that the Bank should require additional
sources of funds, it could borrow from the FHLB under an available line of
credit.
At December 31, 2004, the Company had outstanding loan commitments of
$73.8 million. The Company anticipates that it will have sufficient funds
available to meet its current loan commitments. Time deposits scheduled to
mature in one year or less from December 31, 2004, totaled $242.6 million.
Management believes that a significant portion of such deposits will remain with
the Company.
The Bank is subject to certain minimum leverage, tangible and risk-based
capital requirements established by regulations of the OTS. These regulations
require savings associations to meet three minimum capital standards: a tangible
capital ratio requirement of 1.5% of total assets as adjusted under the OTS
regulations; a leverage ratio requirement of 4.0% of core capital to such
adjusted total assets; and a risk-based capital ratio requirement of 8.0% of
core and supplementary capital to total risk-based assets. The OTS prompt
corrective action regulations impose a 4.0% core capital requirement for
categorization as an "adequately capitalized" thrift and a 5.0% core capital
requirement for categorization as a "well capitalized" thrift. Goodwill and most
other intangible assets are deducted in determining regulatory capital for
purposes of all capital ratios. In determining the amount of risk-weighted
assets for purposes of the risk-based capital requirement, a savings association
must compute its risk-based assets by multiplying its assets and certain
off-balance sheet items by risk-weights, which range from 0% for cash and
obligations issued by the United States Government or its agencies to 100% for
consumer and commercial loans, as assigned by the OTS capital regulations. At
December 31, 2004, the Bank exceeded all of the OTS minimum regulatory capital
requirements, and was classified as a well-capitalized institution for
regulatory purposes.
22
The following table sets forth the capital position of the Bank as of
December 31, 2004 and March 31, 2004. The actual capital amounts and ratios set
forth below are for the Bank only and, accordingly, do not include additional
capital retained by the Holding Company.
OTS Requirements
-------------------------------------------------------
Classification as
Bank Actual Minimum Capital Adequacy Well Capitalized
------------------------- -------------------------- ---------------------
Amount Ratio Amount Ratio Amount Ratio
------------------------- -------------------------- ---------------------
(Dollars in thousands)
December 31, 2004
- -----------------
Tangible capital $ 100,340 10.4% $ 14,509 1.5%
Tier I (core) capital 100,340 10.4 38,693 4.0 $ 48,365 5.0%
Risk-based capital:
Tier I 100,340 23.5 17,091 4.0 25,637 6.0
Total 103,277 24.2 34,182 8.0 42,728 10.0
March 31, 2004
- --------------
Tangible capital $ 95,143 10.9% $ 13,071 1.5%
Tier I (core) capital 95,143 10.9 34,858 4.0 $ 43,571 5.0%
Risk-based capital:
Tier I 95,143 24.3 15,689 4.0 23,533 6.0
Total 97,855 25.0 31,377 8.0 39,221 10.0
Accounting Standards
See Note 3 of the Notes to Unaudited Consolidated Financial Statements in
Item 1 for a discussion of SFAS No. 123R, which will result in a change in the
Company's accounting for stock options beginning July 1, 2005.
On September 30, 2004, the FASB issued Staff Position No. EITF Issue
03-1-1, "Effective Date of Paragraphs 10-20 of EITF Issue No. 03-1, The Meaning
of Other-Than-Temporary Impairment and Its Application to Certain Investments,"
which delays the effective date for the measurement and recognition guidance
contained in Emerging Issues Task Force ("EITF") Issue No. 03-1. EITF Issue No.
03-1 provides guidance for evaluating whether an investment is
other-than-temporarily impaired and was originally to be effective for
other-than-temporary impairment evaluations made in reporting periods beginning
after June 15, 2004 (July 1, 2004 for the Company). The delay in the effective
date for the measurement and recognition guidance contained in EITF Issue No.
03-1 does not suspend the requirement to recognize other-than-temporary
impairments as required by existing authoritative literature. The disclosure
guidance in paragraphs 21 and 22 of EITF Issue 03-1 remains effective. The FASB
also issued a proposal, Staff Position No. EITF Issue 03-1-a, to provide
implementation guidance on matters such as impairment evaluations for declines
in value caused by increases in interest rates and/or sector spreads.
Subsequently, the FASB announced that it would begin a full reconsideration of
authoritative literature relating to other-than-temporary impairment of
securities. The impact of this reconsideration on the Company's financial
condition and results of operations cannot be predicted at the present time.
23
Item 3. Quantitative and Qualitative Disclosures about Market Risk
The Company's most significant form of market risk is interest rate risk,
as the majority of the Company's assets and liabilities are sensitive to changes
in interest rates. The Company's assets consist primarily of fixed rate mortgage
loans, which have longer maturities than the Company's liabilities which consist
primarily of deposits. The Company's mortgage loan portfolio, consisting
primarily of loans secured by residential real property located in Westchester
County, New York and Fairfield County, Connecticut, is also subject to risks
associated with the local economy. The Company does not own any trading assets.
At December 31, 2004, the Company did not have any hedging transactions in
place, such as interest rate swaps and caps. The Company's interest rate risk
management program focuses primarily on evaluating and managing the composition
of the Company's assets and liabilities in the context of various interest rate
scenarios. Factors beyond management's control, such as market interest rates
and competition, also have an impact on interest income and interest expense.
During the nine months ended December 31, 2004, there were no significant
changes in the Company's assessment of market risk.
Item 4. Controls and Procedures
The Company's management, including the Chief Executive Officer and Chief
Financial Officer, evaluated the effectiveness of the design and operation of
the Company's disclosure controls and procedures (as defined in Rule 13a-14(c)
under the Securities Exchange Act of 1934, as amended) (the "Exchange Act") as
of December 31, 2004 (the "Evaluation Date"). Based upon that evaluation, the
Company's management, including the Chief Executive Officer and Chief Financial
Officer, concluded that, as of the Evaluation Date, the Company's disclosure
controls and procedures were effective in timely alerting them to any material
information relating to the Company and its subsidiaries required to be included
in the Company's Exchange Act filings.
There were no significant changes made in the Company's internal controls
or in other factors that could significantly affect these internal controls
during the period covered by this report.
24
Part II - OTHER INFORMATION
Item 1. Legal Proceedings
The Company is not involved in any pending legal proceedings other than
routine legal proceedings occurring in the ordinary course of business. Such
routine legal proceedings in the aggregate are believed by management to be
immaterial to the Company's financial condition and results of operations.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
Information regarding Company purchases of its equity securities (common
stock) during the three months ended December 31, 2004 is summarized below:
Total number of
shares purchased Maximum number of
under a publicly shares that may yet
Total number of Average price paid announced repurchase be purchased under
shares purchased per share plan (1) repurchase plan (1)
---------------- ------------------ -------------------- -------------------
October 1-October 31 -- -- -- 658,844
November 1-November 30 -- -- -- 658,844
December 1-December 31 -- -- -- 658,844
(1) On June 11, 2004, the Company announced a program to repurchase up to
658,844 shares of its common stock. This program has no expiration date. There
were no purchases under this program through December 31, 2004.
Item 3. Defaults upon Senior Securities
None
Item 4. Submission of Matters to a Vote of Security Holders
None
Item 5. Other Information
None
Item 6. Exhibits
(a) Exhibit 31.1 - Certification of Chief Executive Officer pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002.
(b) Exhibit 31.2 - Certification of Chief Financial Officer pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002.
(c) Exhibit 32.1 - Certification pursuant to 18 U.S.C. Section 1350, as
adopted pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002.
25
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Sound Federal Bancorp, Inc.
---------------------------
(Registrant)
By: /s/ Anthony J. Fabiano
----------------------
Anthony J. Fabiano
Duly Authorized and Chief Financial and
Accounting Officer
February 8, 2005
26