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 September 30, 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
Outstanding at
Class November 4, 2004
---------------- ----------------
Common Stock, 12,577,841
par value, $0.01
TABLE OF CONTENTS
PART I -- FINANCIAL INFORMATION
-------------------------------
Item 1. Financial Statements (Unaudited)
Consolidated Balance Sheets at September 30, 2004
and March 31, 2004 ............................................... 1
Consolidated Statements of Income for the Quarter and
Six Months Ended September 30, 2004 and 2003 ..................... 2
Consolidated Statement of Changes in Stockholders' Equity
for the Six Months Ended September 30, 2004 ...................... 3
Consolidated Statements of Cash Flows for the Six Months
Ended September 30, 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 .................... 10
Item 3. Quantitative and Qualitative Disclosures about Market Risk ........ 23
Item 4. Controls and Procedures .......................................... 23
PART II -- OTHER INFORMATION
----------------------------
Item 1. Legal Proceedings ................................................ 24
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds ...... 24
Item 3. Defaults upon Senior Securities .................................. 24
Item 4. Submission of Matters to a Vote of Security Holders .............. 24
Item 5. Other Information ................................................ 24
Item 6. Exhibits ......................................................... 24
Signatures ....................................................... 26
i
Part 1. - FINANCIAL INFORMATION
Item 1. Financial Statements
Sound Federal Bancorp, Inc. and Subsidiary
CONSOLIDATED BALANCE SHEETS
(Unaudited)
(Dollars in thousands)
September 30, March 31,
2004 2004
------------- ---------
Assets
Cash and due from banks $ 10,892 $ 10,455
Federal funds sold and other overnight deposits 21,307 20,756
--------- ---------
Total cash and cash equivalents 32,199 31,211
--------- ---------
Securities:
Available for sale, at fair value (including $36,800 and $38,000 pledged as
collateral for borrowings under repurchase agreements at September 30,
2004 and March 31, 2004, respectively) 316,972 337,730
Held to maturity, at amortized cost (fair value of $41,576) 41,331 --
--------- ---------
Total securities 358,303 337,730
--------- ---------
Loans, net:
Mortgage loans 529,974 477,771
Consumer loans 2,526 3,396
Allowance for loan losses (Note 5) (2,862) (2,712)
--------- ---------
Total loans, net 529,638 478,455
--------- ---------
Accrued interest receivable 4,018 3,623
Federal Home Loan Bank stock 5,738 5,303
Premises and equipment, net 5,667 5,630
Goodwill 13,970 13,970
Bank-owned life insurance 10,252 10,085
Prepaid pension costs 2,480 2,547
Deferred income taxes 1,286 --
Other assets 1,837 1,987
--------- ---------
Total assets $ 965,388 $ 890,541
========= =========
Liabilities and Stockholders' Equity
Liabilities:
Deposits $ 789,794 $ 708,330
Borrowings (Note 6) 38,000 35,000
Mortgagors' escrow funds 2,407 4,522
Due to brokers for securities purchased 4,200 4,000
Accrued expenses and other liabilities 1,548 1,630
--------- ---------
Total liabilities 835,949 753,482
--------- ---------
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 103,063 102,637
Treasury stock, at cost (1,058,329 and 459,297 shares at September 30, 2004 and March 31,
2004, respectively) (15,071) (7,150)
Common stock held by Employee Stock Ownership Plan ("ESOP") (6,304) (6,556)
Unearned stock awards (5,026) (5,618)
Retained earnings 54,069 52,908
Accumulated other comprehensive (loss) income, net of taxes (Note 7) (1,428) 702
--------- ---------
Total stockholders' equity 129,439 137,059
--------- ---------
Total liabilities and stockholders' equity $ 965,388 $ 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 Quarter Ended For the Six Months Ended
September 30, September 30,
---------------------- ------------------------
2004 2003 2004 2003
---- ---- ---- ----
Interest and Dividend Income
Loans $ 7,354 $ 6,490 $14,251 $13,259
Mortgage-backed and other securities 3,024 2,670 5,816 5,507
Federal funds sold and other overnight deposits 73 46 132 174
Other earning assets 34 66 55 123
------- ------- ------- -------
Total interest and dividend income 10,485 9,272 20,254 19,063
------- ------- ------- -------
Interest Expense
Deposits 3,384 2,665 6,325 5,544
Borrowings 390 384 755 749
Other interest-bearing liabilities 5 18 10 35
------- ------- ------- -------
Total interest expense 3,779 3,067 7,090 6,328
------- ------- ------- -------
Net interest income 6,706 6,205 13,164 12,735
Provision for loan losses (Note 5) 75 75 150 125
------- ------- ------- -------
Net interest income after provision for loan losses 6,631 6,130 13,014 12,610
------- ------- ------- -------
Non-Interest Income
Service charges and fees 220 228 496 513
Increase in cash surrender value of bank-owned life insurance 90 -- 166 --
------- ------- ------- -------
Total non-interest income 310 228 662 513
------- ------- ------- -------
Non-Interest Expense
Compensation and benefits 2,462 2,006 4,874 3,998
Occupancy and equipment 661 584 1,294 1,146
Data processing service fees 264 189 564 431
Advertising and promotion 239 137 490 551
Other 975 732 1,671 1,506
------- ------- ------- -------
Total non-interest expense 4,601 3,648 8,893 7,632
------- ------- ------- -------
Income before income tax expense 2,340 2,710 4,783 5,491
Income tax expense 909 1,060 1,855 2,124
------- ------- ------- -------
Net income $ 1,431 $ 1,650 $ 2,928 $ 3,367
======= ======= ======= =======
Earnings per share (Note 4):
Basic earnings per share $ 0.12 $ 0.13 $ 0.25 $ 0.27
======= ======= ======= =======
Diluted earnings per share $ 0.12 $ 0.13 $ 0.25 $ 0.26
======= ======= ======= =======
See accompanying notes to unaudited consolidated financial statements.
2
Sound Federal Bancorp, Inc. and Subsidiary
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
For the Six Months Ended September 30, 2004
(Unaudited)
(Dollars in thousands, except per share data)
Common
Additional Stock Unearned
Common Paid-In Treasury Held By Stock
Stock Capital Stock ESOP Awards
------------ -------------- ------------- ------------- --------------
Balance at March 31, 2004 $136 $102,637 $ (7,150) $(6,556) $(5,618)
Net income -- -- -- -- --
Other comprehensive
loss (Note 7) -- -- -- -- --
Total comprehensive income -- -- -- -- --
Dividends paid ($0.12 per share) -- -- -- -- --
Purchases of treasury stock (627,332 shares) -- -- (8,324) -- --
Reissuance of treasury stock for exercise of
stock options (28,300 shares) -- -- 403 -- --
Tax benefit from exercise of stock options -- 112 -- -- --
Vesting of stock awards -- -- -- -- 592
ESOP shares committed to be released for allocation -- 314 -- 252 --
---- -------- -------- ------- -------
Balance at September 30, 2004 $136 $103,063 $(15,071) $(6,304) $(5,026)
==== ======== ======== ======= =======
Accumulated
Other Total
Retained Comprehensive Stockholders'
Earnings Income (Loss) Equity
--------- ------------- -------------
Balance at March 31, 2004 $ 52,908 $ 702 $ 137,059
Net income 2,928 -- 2,928
Other comprehensive
loss (Note 7) -- (2,130) (2,130)
------
Total comprehensive income -- -- 798
Dividends paid ($0.12 per share) (1,458) -- (1,458)
Purchases of treasury stock (627,332 shares) -- -- (8,324)
Reissuance of treasury stock for exercise of
stock options (28,300 shares) (309) -- 94
Tax benefit from exercise of stock options -- -- 112
Vesting of stock awards -- -- 592
ESOP shares committed to be released for allocation -- -- 566
-------- ------- ---------
Balance at September 30, 2004 $ 54,069 $(1,428) $ 129,439
======== ======= =========
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 Six Months Ended
September 30,
-----------------------------
2004 2003
-------- ---------
OPERATING ACTIVITIES
Net income $ 2,928 $ 3,367
Adjustments to reconcile net income to net cash provided
by operating activities:
Provision for loan losses 150 125
Depreciation, amortization and accretion 1,185 1,131
ESOP and stock award expense 1,158 501
Income taxes 347 933
Other adjustments, net (558) (1,569)
-------- ---------
Net cash provided by operating activities 5,210 4,488
-------- ---------
INVESTING ACTIVITIES
Purchases of securities:
Available for sale (30,015) (171,187)
Held to maturity (38,620) --
Proceeds from principal payments, maturities and calls of securities:
Available for sale 42,783 94,436
Held to maturity 1,489 --
Net disbursements for loan originations and principal repayments (51,608) (10,150)
Purchases of Federal Home Loan Bank stock (435) (1,162)
Purchases of premises and equipment (477) (625)
-------- ---------
Net cash used in investing activities (76,883) (88,688)
-------- ---------
FINANCING ACTIVITIES
Net increase in deposits 81,464 49,135
Proceeds from borrowings 3,000 20,000
Net decrease in mortgagors' escrow funds (2,115) (2,655)
Purchases of treasury stock (8,324) (1,203)
Proceeds from exercise of stock options 94 --
Payment of cash dividends on common stock (1,458) (1,324)
-------- ---------
Net cash provided by financing activities 72,661 63,953
-------- ---------
Increase (decrease) in cash and cash equivalents 988 (20,247)
Cash and cash equivalents at beginning of period 31,211 44,897
-------- ---------
Cash and cash equivalents at end of period $ 32,199 $ 24,650
======== =========
SUPPLEMENTAL INFORMATION
Interest paid $ 7,056 $ 6,402
Income taxes paid 1,450 2,712
Increase in due to brokers for securities purchased 200 10,495
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 June 13, 2002, the respective Boards of Directors of Sound Federal
Bancorp and the Mutual Holding Company adopted a plan to convert from the mutual
holding form of organization to a fully public holding company structure (the
"Conversion"). The Conversion was completed on January 6, 2003. 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. 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 Sound Federal Bancorp, Inc. 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 Sound Federal Bancorp,
Inc. (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.
5
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 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 Six Months Ended
September 30, September 30,
----------------------------------- ------------------------------
2004 2003 2004 2003
--------------- -------------- -------------- ----------
(In thousands, except per share data)
Net income, as reported $ 1,431 $ 1,650 $ 2,928 $ 3,367
Add stock award expense included in reported
net income, net of related tax effects 180 22 361 44
Deduct stock award and stock option expense
determined under the fair-value-based
method, net of related tax effects (296) (40) (609) (79)
--------------- -------------- -------------- ---------
Pro forma net income $ 1,315 $ 1,632 $ 2,680 $ 3,332
=============== ============== ============== =========
Earnings per share:
Basic, as reported $ 0.12 $ 0.13 $ 0.25 $ 0.27
=============== ============== ============== =========
Basic, pro forma $ 0.11 $ 0.13 $ 0.23 $ 0.27
=============== ============== ============== =========
Diluted, as reported $ 0.12 $ 0.13 $ 0.25 $ 0.26
=============== ============== ============== =========
Diluted, pro forma $ 0.11 $ 0.13 $ 0.22 $ 0.26
=============== ============== ============== =========
4. Earnings Per Share
Weighted average common shares used in calculating basic and diluted
earnings per share for the three months ended September 30, 2004 were 11,489,126
and 11,760,206, respectively. For the quarter ended September 30, 2003, weighted
average common shares used in calculating basic and diluted earnings per share
were 12,390,225 and 12,730,942, respectively.
For the six months ended September 30, 2004, weighted average shares used
in calculating basic and diluted earnings per share were 11,673,803 and
11,948,613, respectively. For the six months ended September 30, 2003, the
respective weighted average shares were 12,402,521 and 12,740,223.
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
6
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 Six Months Ended Year Ended
September 30, September 30, March 31,
----------------------- ----------------------- ---------
2004 2003 2004 2003 2004
----------------------- ----------------------- ---------
(In thousands)
Balance at beginning of period $2,787 $ 2,492 $2,712 $ 2,442 $ 2,442
Provision for loan losses 75 75 150 125 275
Charge-offs -- (5) -- (5) (5)
----------------------- ----------------------- ---------
Balance at end of period $2,862 $ 2,562 $2,862 $ 2,562 $ 2,712
======================= ======================= =========
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 September 30, 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 7,000
June 2005 2.47 3,000
March 2006 2.27 6,000
March 2007 2.65 7,000
-------
$38,000
=======
Weighted average interest rate 3.87%
Accrued interest payable $ 169
(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 $14.9 million and mortgage-backed securities available
for sale with a carrying value of $21.9 million. Accrued interest receivable on
the securities was $249,000 at September 30, 2004.
7
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 Six Months Ended
September 30, September 30,
------------------ ------------------
2004 2003 2004 2003
---- ---- ---- ----
(In thousands)
Net unrealized holding gain (loss) arising during
the period on securities available for sale $ 4,689 $(3,536) $(3,520) $(3,167)
Related deferred income tax effect (1,780) 1,441 1,390 1,285
------- ------- ------- -------
Other comprehensive income (loss) $ 2,909 $(2,095) $(2,130) $(1,882)
======= ======= ======= =======
The Company's accumulated other comprehensive (loss) income, which is
included in stockholders' equity, is summarized as follows:
September 30, March 31,
2004 2004
---- ----
(In thousands)
Net unrealized holding (loss) gain on
securities available for sale $(2,377) $ 1,143
Related deferred income taxes 949 (441)
------- -------
Accumulated other comprehensive (loss) income $(1,428) $ 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 $800,000 to the
plans in fiscal 2005. Contributions of $531,000 were made during the six months
ended September 30, 2004.
8
The components of the net periodic expense for the plans were as follows:
Three Months Ended Six Months Ended
September 30, September 30,
------------------ ----------------
2004 2003 2004 2003
------ ------ ------ ------
(In thousands)
Service cost $ 91 $ 65 $ 182 $ 130
Interest cost 160 147 320 294
Expected return on plan assets (225) (150) (450) (300)
Recognized net actuarial loss -- 15 -- 30
Amortization of prior service cost
and net transition obligations 28 3 56 6
----- ----- ----- -----
Net periodic pension expense $ 54 $ 80 $ 108 $ 160
===== ===== ===== =====
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
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 Six Months Ended
September 30, September 30,
---------------- ----------------
2004 2003 2004 2003
----- ----- ----- ----
(In thousands)
Service cost $ 16 $ 3 $ 32 $ 6
Interest cost 24 12 48 24
Recognized net actuarial gain (4) -- (8) --
Amortization of prior service cost 45 20 90 40
---- --- ----- ---
Net periodic expense $ 81 $35 $ 162 $70
==== === ===== ===
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
9
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 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 $965.4 million at September
30, 2004 as compared to $890.5 million at March 31, 2004. The $74.9 million
increase in assets primarily consisted of a $51.2 million increase in net loans
to $529.6 million and a $20.6 million increase in securities to $358.3 million.
Our asset growth was funded principally by an $81.5 million increase in deposits
to $789.8 million.
Liabilities. Total deposits were $789.8 million at September 30, 2004, an
increase of $81.5 million as compared to $708.3 million at March 31, 2004.
Certificates of deposit increased $67.4 million to $513.1
10
million from $445.7 million; savings and club accounts increased $3.1 million to
$151.3 million from $148.2 million; and money market, NOW and commercial
checking accounts increased $11.0 million to $125.4 million from $114.4 million.
Borrowings totaled $38.0 million at September 30, 2004 and $35.0 million at
March 31, 2004.
Stockholders' Equity. Total stockholders' equity decreased $7.7 million to
$129.4 million at September 30, 2004 as compared to $137.1 million at March 31,
2004. The decrease reflects the purchase of shares of our common stock at a cost
of $8.3 million, dividends paid of $1.5 million and a decrease of $2.1 million
attributable to the change in accumulated other comprehensive income (loss),
partially offset by net income of $2.9 million.
The accumulated other comprehensive loss of $1.4 million at September 30,
2004 represents the after-tax net unrealized loss on securities available for
sale ($2.4 million pre-tax). The Company invests primarily in mortgage-backed
securities issued by Ginnie Mae, Fannie Mae and Freddie Mac, as well as U.S.
Government and agency securities. The unrealized losses at September 30, 2004
were caused by increases in market yields 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 September 30, 2004.
11
Comparison of Results of Operations for the Three Months Ended September 30,
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 September 30, 2004 and 2003. The table reflects the average yield
on interest-earning assets and the average cost of interest-bearing liabilities
(derived by dividing 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 adjustments
were made, as the effect thereof was not material. Nonaccrual loans were
included in the computation of average balances, but have been included in the
table as loans having a zero yield. The yields set forth below include the
effect of deferred loan origination fees and cost, and purchase discounts and
premiums that are amortize or accreted to interest income.
For the Three Months Ended September 30,
---------------------------------------------------------------------------------------
2004 2003
---------------------------------------------------------------------------------------
Average Average Average Average
Outstanding Yield/ Outstanding Yield/
Balance Interest Rate Balance Interest Rate
------- -------- ---- ------- -------- ----
(Dollars in thousands)
Interest-earning assets:
Loans (1) $518,127 7,354 5.63% $427,197 6,490 6.03%
Mortgage-backed securities (2) 260,946 2,276 3.46% 245,592 2,139 3.46%
Other securities (2) 92,852 748 3.20% 87,385 531 2.41%
Federal funds sold and other
overnight deposits (3) 28,074 73 1.03% 26,438 46 0.69%
Other (4) 5,826 34 2.32% 5,517 66 4.75%
-------- -------- -------- --------
Total interest-earning assets 905,825 10,485 4.59% 792,129 9,272 4.64%
-------- --------
Non-interest earning assets 41,063 35,854
-------- --------
Total assets $946,888 $827,983
======== ========
Interest-bearing liabilities:
Savings and club accounts $151,682 199 0.52% $144,677 221 0.61%
Money market accounts 46,893 93 0.79% 42,084 83 0.78%
NOW accounts 58,100 36 0.25% 53,254 42 0.31%
Certificates of deposit 498,775 3,056 2.43% 380,579 2,319 2.42%
Borrowings 38,000 390 4.07% 41,986 384 3.63%
Mortgagors' escrow funds 4,582 5 0.43% 4,236 18 1.69%
-------- -------- -------- --------
Total interest-bearing liabilities 798,032 3,779 1.88% 666,816 3,067 1.82%
-------- --------
Non-interest-bearing liabilities 24,295 22,046
-------- --------
Total liabilities 822,327 688,862
Stockholders' equity 124,561 139,121
-------- --------
Total liabilities and
stockholders' equity $946,888 $827,983
======== ========
Net interest income 6,706 6,205
===== ========
Average interest rate spread (5) 2.71% 2.82%
Net earning assets (6) $107,793 $125,313
======== ========
Net interest margin (7) 2.94% 3.11%
Ratio of interest-earning assets
to interest-bearing liabilities 1.14x 1.19x
(1) Balances are net of construction loans in process and 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.
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
12
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 September 30,
2004 vs. 2003
--------------------------------------------
Increase (Decrease) Due to
-------------------------- Total Increase
Volume Rate (Decrease)
--------------------------------------------
(In thousands)
Interest-earning assets:
Loans $ 3,264 $(2,400) $ 864
Mortgage-backed securities 137 -- 137
Other securities 35 182 217
Federal funds and other overnight deposits 3 24 27
Other 24 (56) (32)
------- -------- -------
Total interest-earning assets 3,463 (2,250) 1,213
------- -------- -------
Interest-bearing liabilities:
Savings and club accounts 59 (81) (22)
Money market accounts 9 1 10
NOW accounts 19 (25) (6)
Certificates of deposit 727 10 737
Borrowings (160) 166 6
Mortgage escrow funds 9 (22) (13)
------- -------- -------
Total interest-bearing liabilities 663 49 712
------- -------- -------
Net interest income $ 2,800 $(2,299) $ 501
======= ======= =======
Net Income. Net income amounted to $1.4 million or diluted earnings per
share of $0.12 for the quarter ended September 30, 2004, as compared to $1.7
million or diluted earnings per share of $0.13 for the quarter ended September
30, 2003, a decrease of 13.3% in net income. The decrease in net income for the
quarter ended September 30, 2004 is primarily attributable to a $953,000
increase in non-interest expense, partially offset by a $501,000 increase in net
interest income and a $151,000 decrease in income tax expense.
Interest Income. Interest income increased $1.2 million to $10.5 million
for the quarter ended September 30, 2004, as compared to the same quarter in
2003. The increase reflects a $113.7 million increase in average
interest-earning assets to $905.8 million during the quarter ended September 30,
2004 as compared to $792.1 million for the same quarter in the prior year,
partially offset by a 5 basis point decrease in the average yield on
interest-earning assets to 4.59%. The increase in the average balance of
interest-earning assets was due primarily to a $90.9 million increase in net
loans to $518.1 million and a $20.8 million increase in the average balance of
securities to $353.8 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 declining interest rates.
13
Loans. Interest income on loans increased $864,000 or 13.3% to $7.4
million for the current quarter as compared to $6.5 million for the same quarter
in 2003. This increase is due to a $90.9 million increase in the average balance
of loans to $518.1 million, partially offset by a 40 basis point decrease in the
yield earned to 5.63%.
We originated $57.5 million of new loans during the quarter ended
September 30, 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 quarter ended
September 30, 2004. The yield on the loan portfolio may decrease further as
market interest rates rise. However, 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 September 30, 2004, an
increase of $137,000 from the same quarter in 2003. This increase is due a $15.4
million increase in the average balance of mortgage-backed securities to $260.9
million during the current quarter. The increase in the average balance of
mortgage-backed securities is primarily a result of investing funds from deposit
growth.
Interest on other securities increased $217,000 to $748,000 for the
quarter ended September 30, 2004, as compared to $531,000 for the same quarter
in 2003. The increase is due to a $5.5 million increase in the average balance
of other securities to $92.9 million and a 79 basis point increase in the
average yield to 3.20%.
Federal Funds Sold and Other Overnight Deposits. For the quarter ended
September 30, 2004, interest on Federal funds sold and other overnight deposits
increased $27,000 to $73,000, reflecting a $1.6 million increase in the average
balance to $28.1 million and a 34 basis point increase in the average yield
earned to 1.03%.
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
$34,000 for quarter ended September 30, 2004 as compared to $66,000 for the same
quarter in 2003.
Interest Expense. Interest expense for the quarter ended September 30,
2004 increased $712,000 to $3.8 million, as compared to $3.1 million for the
quarter ended September 30, 2003. The average balance of interest-bearing
liabilities increased $131.2 million to $798.0 million for the quarter ended
September 30, 2004 from $666.8 million for the same quarter in the prior year,
while the average cost of these liabilities increased 6 basis points to 1.88%.
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 the
increase certificates of deposit accounts as a percentage of total deposits. The
average balance of certificates of deposit represented 62.5% of the average
balance of total interest-bearing liabilities for the quarter ended June 30,
2004, as compared to 57.1% for the quarter ended June 30, 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 $3.1 million for
the current quarter as compared to $2.3 million for the same quarter in 2003.
The increase is due primarily to a $118.2 million increase in the average
balance to $498.8 million from $380.6 million for the same quarter last year,
while the average cost of certificates of deposit remained virtually unchanged
at 2.43%.
Interest on savings accounts amounted to $199,000 for the current quarter
as compared to $221,000 for the quarter ended September 30, 2003. This decrease
is the result of a 9 basis point decrease in the average cost of savings
accounts to 0.52% offset partially by a $7.0 million increase in the average
balance of savings accounts to $151.7 million for the quarter ended September
30, 2004 as compared to $144.7 million for the same quarter in 2003.
14
Interest expense on NOW and money market accounts amounted to $129,000 for
quarter ended September 30, 2004 as compared to $125,000 for the same quarter in
the prior year. The average cost decreased 4 basis points to 0.49% and the
average balance of these accounts increased $9.7 million to $105.0 million.
For the quarter ended September 30, 2004, interest expense on borrowings
amounted to $390,000 as compared to $384,000 for the same quarter in 2003. The
average balance of borrowings for the current quarter was $38.0 million and the
average cost was 4.07%, an increase of 44 basis points from the same quarter
last year.
Net Interest Income. Net interest income for the quarter ended September
30, 2004 amounted to $6.7 million, a $501,000 increase from the same quarter in
the prior year. The interest rate spread was 2.71% and 2.82% for the quarters
ended September 30, 2004 and 2003, respectively. The net interest margin for
those periods was 2.94% and 3.11%, 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 75 basis points to 1.75%. 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 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 1.14x for the quarter
ended September 30, 2004 from 1.19x 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. The Company's
interest rate spread and net interest margin may decrease as a result of the
financial statement classification of the BOLI asset and related income. For the
quarter ended September 30, 2004, non-interest income related to the BOLI
amounted to $90,000.
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 86.5% of total loans at September 30, 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 September
30, 2004 and 2003, respectively. Non-performing loans amounted to $963,000 or
0.18% of total loans at September 30, 2004, as compared to $1.8 million or 0.40%
of total loans at September 30, 2003. The allowance for loan losses amounted to
$2.9 million and $2.7 million at September 30, 2004 and March 31, 2004,
respectively. There were no charge-offs or recoveries in the quarter ended
September 30, 2004. For the quarter ended September 30, 2003, charge-offs
amounted to $5,000 (no recoveries). 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.
15
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 $220,000 and
$228,000 for the quarters ended September 30, 2004 and 2003, respectively. The
change in the cash surrender value of the BOLI amounted to $90,000 for the
quarter ended September 30, 2004.
Non-Interest Expense. Non-interest expense totaled $4.6 million for the
quarter ended September 30, 2004 as compared to $3.6 million for the quarter
ended September 30, 2003. This increase is due to increases of $456,000 in
compensation and benefits, $77,000 in occupancy and equipment expense, $75,000
in data processing service fees, $102,000 in advertising and promotion expense,
and $243,000 in other non-interest expense.
The increase in compensation and benefits 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 $163,000 increase in compensation costs. The increase
in compensation costs is due primarily to additional staff to support the growth
in the Company's lending operations and the addition of the Stamford and
Brookfield branches, which opened in September 2003 and June 2004, respectively.
The increase in occupancy and equipment expense is primarily due to these new
branch locations.
Other non-interest expense for the current quarter includes $135,000 of
costs related to the Company's implementation of the provisions of Section 404
of the Sarbanes-Oxley Act of 2002.
Income Taxes. Income tax expense amounted to $909,000 and $1.1 million for
the quarters ended September 30, 2004 and 2003, respectively. The effective tax
rates for those same periods were 38.8% and 39.1%, respectively.
16
Comparison of Results of Operations for the Six Months Ended September 30, 2004
and 2003
Average Balance Sheets. The following table sets forth average balance
sheets, average yields and costs, and certain other information for the six
months ended September 30, 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 September 30,
2004 and 2003".
For the Six Months Ended September 30,
----------------------------------------------------------
2004 2003
----------------------------------------------------------
Average Average Average Average
Outstanding Yield/ Outstanding Yield/
Balance Interest Rate Balance Interest Rate
------- -------- ---- ------- -------- ----
(Dollars in thousands)
Interest-earning assets:
Loans (1) $499,979 14,251 5.69% $424,890 13,259 6.22%
Mortgage-backed securities (2) 256,307 4,434 3.45% 228,862 4,287 3.74%
Other securities (2) 88,673 1,382 3.11% 83,675 1,220 2.91%
Federal funds sold and other
overnight deposits (3) 31,269 132 0.84% 38,726 174 0.90%
Other (4) 5,800 55 1.89% 5,503 123 4.46%
-------- ------ -------- --------
Total interest-earning assets 882,028 20,254 4.58% 781,656 19,063 4.86%
------ --------
Non-interest earning assets 43,313 33,975
-------- --------
Total assets $925,341 $815,631
======== ========
Interest-bearing liabilities:
Savings and club accounts $150,880 391 0.52% $142,252 504 0.71%
Money market accounts 46,402 178 0.77% 41,670 209 1.00%
NOW accounts 57,722 72 0.25% 50,913 104 0.41%
Certificates of deposit 479,469 5,684 2.36% 379,581 4,727 2.48%
Borrowings 36,541 755 4.12% 38,443 749 3.89%
Mortgagors' escrow funds 4,218 10 0.47% 3,955 35 1.77%
-------- -------- -------- --------
Total interest-bearing liabilities 775,232 7,090 1.82% 656,814 6,328 1.92%
-------- --------
Non-interest-bearing liabilities 20,950 21,076
-------- --------
Total liabilities 796,182 677,890
Stockholders' equity 129,159 137,741
-------- --------
Total liabilities and
stockholders' equity $925,341 $815,631
======== ========
Net interest income 13,164 12,735
======== ======
Average interest rate spread (5) 2.76% 2.94%
Net earning assets (6) $106,796 $124,842
======== ========
Net interest margin (7) 2.98% 3.25%
Ratio of interest-earning assets
to interest-bearing liabilities 1.14x 1.19x
(1) Balances are net of construction loans in process and 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.
17
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 September
30, 2004 and 2003".
For the Six Months Ended September 30,
2004 vs. 2003
--------------------------------------
Increase (Decrease) Due to Total
--------------------------- Increase
Volume Rate (Decrease)
-------------------------------------
(In thousands)
Interest-earning assets:
Loans $ 3,708 $(2,716) $ 992
Mortgage-backed securities 895 (748) 147
Other securities 75 87 162
Federal funds and other overnight deposits (31) (11) (42)
Other 18 (86) (68)
------- ------- -------
Total interest-earning assets 4,665 (3,474) 1,191
------- ------- -------
Interest-bearing liabilities:
Savings and club accounts 79 (192) (113)
Money market accounts 53 (84) (31)
NOW accounts 33 (65) (32)
Certificates of deposit 1,577 (620) 957
Borrowings (78) 84 6
Mortgage escrow funds 7 (32) (25)
------- ------- -------
Total interest-bearing liabilities 1,671 (909) 762
------- ------- -------
Net interest income $ 2,994 $(2,565) $ 429
======= ======= =======
Net Income. Net income amounted to $2.9 million or diluted earnings per
share of $0.25 for the six months ended September 30, 2004, as compared to $3.4
million or diluted earnings per share of $0.26 for the six months ended
September 30, 2003, a decrease of 13.0% in net income. The decrease in net
income for the six months ended September 30, 2004 reflects an increase of $1.3
million in non-interest expense, partially offset by an increase of $429,000 in
net interest income and a decrease of $269,000 in income tax expense.
Interest Income. Interest income increased $1.2 million to $20.3 million
for the six months ended September 30, 2004, as compared to $19.1 million for
the same period in 2003. The increase reflects a $100.4 million increase in
average interest-earning assets to $882.0 million during the six months ended
September 30, 2004 as compared to $781.7 million for the same period in the
prior year, partially offset by a 28 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 $75.1 million increase in net
loans to $500.0 million and a $32.4 million increase in the average balance of
securities to $345.0 million, partially offset by a $7.5 million decrease in
average Federal funds sold and other overnight deposits to $31.3 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.
18
Loans. Interest income on loans increased $992,000 or 7.5% to $14.3
million for the six months ended September 30, 2004 as compared to $13.3 million
for the same period in 2003. This increase is due to a $75.1 million increase in
the average balance of loans to $500.0 million, partially offset by a 53 basis
point decrease in the yield earned to 5.69%.
We originated $120.0 million of new loans during the six months ended
September 30, 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 six months ended
September 30, 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 $147,000 to $4.4 million for the six months ended September
30, 2004, as compared to $4.3 million for the same period in 2003. The average
balance of mortgage-backed securities increased $27.4 million to $256.3 million
during the six months ended September 30, 2004, partially offset by a decrease
of 29 basis points in the average yield to 3.45%. 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 $162,000 to $1.4 million for the
six months ended September 30, 2004, as compared to $1.2 million for the same
period in 2003. The increase is due to a 20 basis point increase in the average
yield to 3.11% and a $5.0 million increase in the average balance of other
securities to $88.7 million.
Federal Funds Sold and Other Overnight Deposits. For the six months ended
September 30, 2004, interest on Federal funds sold and other overnight deposits
decreased $42,000 to $132,000, reflecting a $7.5 million decrease in the average
balance to $31.3 million and a 6 basis point decrease in the average yield
earned to 0.84%. The decrease in the average yield is the result of the low
market interest rates during the first half of fiscal 2005.
Other Earning Assets. The Company had an investment of $5.7 million in
FHLB of New York common stock at September 30, 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 $51,000 for six months ended September 30, 2004 as compared to $121,000 for
the same period in 2003.
Interest Expense. Interest expense for the six months ended September 30,
2004 increased $762,000 to $7.1 million as compared to $6.3 million for the same
period in 2003. The average balance of interest-bearing liabilities increased
$118.4 million to $775.2 million for the six months ended September 30, 2004
from $656.8 million for the same period in the prior year, while the average
cost of these liabilities decreased 10 basis points to 1.82%. 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
decrease in the average cost of liabilities is the result of low market interest
rates during recent periods.
Interest expense on certificates of deposit amounted to $5.7 million for
the current period as compared to $4.7 million for the same period in 2003. The
increase is due primarily to a $99.9 million increase in the average balance of
time deposits to $479.5 million from $379.6 million for the same period last
year, offset partially by a 12 basis point decrease in the average cost to
2.36%. The increase in the average balance includes growth in the Bank's new
branch offices as well as in existing branches.
19
Interest on savings accounts amounted to $391,000 for the current period
as compared to $504,000 for the six months ended September 30, 2003. This
decrease is the result of a 19 basis point decrease in the average cost of
savings accounts to 0.52% offset partially by an $8.6 million increase in the
average balance of savings accounts to $150.9 million for the six months ended
September 30, 2004 as compared to $142.3 million for the same period in 2003.
Interest expense on NOW and money market accounts amounted to $250,000 for
six months ended September 30, 2004 as compared to $313,000 for the same period
in the prior year. The average cost decreased 19 basis points to 0.48% and the
average balance of these accounts increased $11.5 million to $104.1 million.
For the six months ended September 30, 2004 and 2003, interest expense on
borrowings amounted to $755,000 and $749,000, respectively. The average balance
of borrowings for the current period was $36.5 million and the average cost
increased 23 basis points to 4.12% as compared to the same period in 2003.
Net Interest Income. Net interest income for the six months ended
September 30, 2004 amounted to $13.2 million, a $429,000 increase from the same
period in the prior year. The interest rate spread was 2.76% and 2.94% for the
six months ended September 30, 2004 and 2003, respectively. The net interest
margin for those periods was 2.98% and 3.25%, 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 1.14x for the six
months ended September 30, 2004 from 1.19x for the same period in 2003,
reflecting treasury stock purchases and an investment in BOLI. For the six
months ended September 30, 2004, non-interest income related to the BOLI
amounted to $166,000.
Provision for Loan Losses. The provision for loan losses was $150,000 for
each of the six-month periods ended September 30, 2004 and 2003. Non-performing
loans amounted to $963,000 or 0.18% of total loans at September 30, 2004, as
compared to $1.8 million or 0.40% of total loans at September 30, 2003. The
allowance for loan losses amounted to $2.9 million and $2.7 million at September
30, 2004 and March 31, 2004, respectively. There were no charge-offs or
recoveries for the six months ended September 30, 2004. Charge-offs amounted to
$5,000 for the six months ended September 30, 2003. There were no recoveries for
this same 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 $496,000 and
$513,000 for the six months ended September 30, 2004 and 2003, respectively. The
change in the cash surrender value of the BOLI amounted to $166,000 for the six
months ended September 30, 2004.
Non-Interest Expense. Non-interest expense totaled $8.9 million for the
six months ended September 30, 2004 as compared to $7.6 million for the six
months ended September 30, 2003. This increase is due primarily to increases of
$876,000 in compensation and benefits, $148,000 in occupancy and equipment
expense, $133,000 in data processing service fees, and $165,000 in other
non-interest expense.
The increase in compensation and benefits is due primarily to a $520,000
increase in expense related to stock awards made pursuant to the Company's 2004
Stock Incentive Plan and a $315,000 increase in compensation costs. The increase
in compensation costs is due primarily to additional staff to support the growth
in the Company's lending operations and the addition of the Stamford and
Brookfield branches, which opened in September 2003 and June 2004, respectively.
The increase in occupancy and equipment expense is primarily due to these new
branch locations.
20
Other non-interest expense for the current six-month period includes
$135,000 of costs related to the Company's implementation of the provisions of
Section 404 of the Sarbanes-Oxley Act of 2002.
Income Taxes. Income tax expense amounted to $1.9 million and $2.1 million
for the six months ended September 30, 2004 and 2003, respectively. The
effective tax rates for those same periods were 38.8% 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,
adjustable-rate mortgage-backed securities and fixed-rate 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 six months ended September 30, 2004, the
Company originated loans totaling $120.0 million and purchased $68.6 million of
securities. These disbursements were funded by $44.3 million in principal
payments, maturities and calls of securities and $69.2 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 September 30, 2004, the Company had outstanding loan commitments of
$83.6 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 September 30, 2004, totaled $293.4 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
September 30, 2004, the Bank exceeded all of the OTS minimum regulatory capital
requirements, and was classified as a well-capitalized institution for
regulatory purposes.
21
The following table sets forth the capital position of the Bank as of
September 30, 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
--------------- -----------------
Minimum Capital Classification as
Bank Actual Adequacy Well Capitalized
----------------- --------------- -----------------
Amount Ratio Amount Ratio Amount Ratio
----------------- --------------- ----------------
(Dollars in thousands)
September 30, 2004
Tangible capital $ 98,592 10.4% $14,224 1.5% $47,412 5.0%
Tier I (core) capital 98,592 10.4 37,931 4.0 56,895 6.0
Risk-based capital:
Tier I 98,592 23.5
Total 101,454 24.1 33,626 8.0 42,032 10.0
March 31, 2004
Tangible capital $ 95,143 10.9% $13,071 1.5% $43,571 5.0%
Tier I (core) capital 95,143 10.9 34,858 4.0 52,285 6.0
Risk-based capital:
Tier I 95,143 24.3
Total 97,855 25.0 31,377 8.0 39,221 10.0
Proposed Accounting Standards
On September 30, 2004, the Financial Accounting Standards Board ("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 delay will be superseded concurrent with the final
issuance of Staff Position No. EITF Issue 03-1-a, which is expected to provide
implementation guidance on matters such as impairment evaluations for declines
in value caused by increases in interest rates and/or sector spreads. As
previously noted, the Company's unrealized losses on securities are attributable
to these rate-related factors. The impact of the final issuance of Staff
Position No. EITF 03-1-a on the Company's financial condition and results of
operations cannot be determined at the present time.
In March 2004, the FASB issued an Exposure Draft, "Share-Based Payment, an
amendment of FASB Statements No. 123 and 95." The Exposure Draft proposes
changes in accounting that would replace existing requirements under FASB
Statement No. 123 and Accounting Principles Board Opinion No. 25, "Accounting
for Stock Issued to Employees." Under the proposal, all forms of share-based
payments to employees, including employee stock options, would be treated the
same as other forms of compensation by recognizing the related cost in the
income statement. The expense of the award would generally be measured at fair
value at the grant date and recognized over the vesting period. Current
accounting literature relating to so-called fixed plan employee stock options
permits an election to disclose the associated expense in the notes to the
financial statements without recognition in the income statement. The proposal
would permit either prospective or retrospective adoption and presently is
proposed to be effective for public companies beginning July 1, 2005.
22
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 September 30, 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 six months ended September 30, 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 September 30, 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.
23
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 September 30, 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)
---------------- --------- -------- -------------------
July 1-July 31 -- -- -- 658,844
August 1-August 31 -- -- -- 658,844
September 1-September 30 -- -- -- 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 September 30, 2004.
Item 3. Defaults upon Senior Securities
None
Item 4. Submission of Matters to a Vote of Security Holders
The Company held its Annual Meeting of Stockholders on August 12, 2004. The
purpose of the meeting was the election of three directors of the Company and
the ratification of the appointment of KPMG LLP as auditors for the Company for
the fiscal year ending March 31, 2005. The results of the votes were as follows:
Proposal 1 - Election of Directors
For Withheld
-------------- --------------
Joseph Dinolfo 11,356,175 552,333
Eldorus Maynard 10,788,050 1,120,458
Samuel T.Telerico 11,414,460 494,048
Proposal 2 - Ratification of Appointment of KPMG LLP
For Against Abstain
------------- ------------- -------------
11,759,692 57,788 91,027
Item 5. Other Information
None
24
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
November 5, 2004
26