1
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[ X ] QUARTERLY REPORT UNDER 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: 0-26467
GREATER ATLANTIC FINANCIAL CORP.
---------------------------------------------
(Exact Name of Registrant as Specified in its Charter)
DELAWARE 54-1873112
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
10700 PARKRIDGE BOULEVARD, SUITE P50 703-391-1300
RESTON, VIRGINIA 20191 (Registrant's Telephone Number,
---------------------- -------------------------------
(Address of Principal Executive Offices) Including Area Code
- ---------------------------------------- -------------------
(Zip Code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such 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 Exchange Act): Yes ___ No X
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's classes of
common stock as of the latest practicable date:
At February 11, 2005, there were 3,012,434 shares of the registrant's
Common Stock, par value $0.01 per share outstanding
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GREATER ATLANTIC FINANCIAL CORP.
QUARTERLY REPORT ON FORM 10-Q
FOR THE QUARTER ENDED DECEMBER 31, 2004
TABLE OF CONTENTS
PART I. FINANCIAL INFORMATION PAGE NO.
- ------------------------------ --------
Item 1. Financial Statements
Consolidated Statements of Financial Condition
As of December 31, 2004 (unaudited) and September 30, 2004 (audited)..............................................3
Consolidated Statements of Operations (unaudited) for the three months
ended December 31, 2004 and December 31, 2003.....................................................................4
Consolidated Statements of Comprehensive Income (Loss) (unaudited) for the
three months ended December 31, 2004 and December 31, 2003........................................................5
Consolidated Statements of Changes in Stockholders' Equity (unaudited) for
the three months ended December 31, 2004 and December 31, 2003....................................................5
Consolidated Statements of Cash Flows (unaudited) for the three months
ended December 31, 2004 and December 31, 2003.....................................................................6
Notes to Consolidated Financial Statements........................................................................8
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations.........................14
Item 3. Quantitative and Qualitative Disclosures about Market Risk....................................................22
Item 4. Controls and Procedures.......................................................................................23
PART II. OTHER INFORMATION
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Item 1. Legal Proceedings.............................................................................................23
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds...................................................23
Item 3. Defaults Upon Senior Securities...............................................................................23
Item 4. Submission of Matters to a Vote of Security Holders...........................................................23
Item 5. Other Information.............................................................................................23
Item 6. Exhibits......................................................................................................23
SIGNATURES.............................................................................................................24
CERTIFICATIONS.........................................................................................................25
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GREATER ATLANTIC FINANCIAL CORP.
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
December 31, September 30,
---------------------------------
2004 2004
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(Unaudited)
(Dollars in Thousands)
Assets
Cash and cash equivalents $ 2,697 $ 2,532
Interest bearing deposits 9,295 8,071
Investment securities
Available-for-sale 136,749 142,712
Held-to-maturity 9,114 10,295
Loans held for sale 3,414 5,528
Loans receivable, net 217,474 246,387
Accrued interest and dividends receivable 1,760 1,940
Deferred income taxes 2,015 2,034
Federal Home Loan Bank stock, at cost 2,904 4,085
Premises and equipment, net 6,859 7,275
Goodwill 1,284 1,284
Prepaid expenses and other assets 2,603 2,227
-----------------------------------------------------------------------------------------------------------
Total assets $ 396,168 $ 434,370
===========================================================================================================
Liabilities and stockholders' equity
Liabilities
Deposits $ 274,125 $ 288,956
Advance payments from borrowers for taxes and insurance 920 305
Accrued expenses and other liabilities 3,920 2,535
Advances from the FHLB and other borrowings 90,176 116,065
Junior subordinated debt securities 9,371 9,369
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Total liabilities 378,512 417,230
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Commitments and contingencies
-----------------------------------------------------------------------------------------------------------
Stockholders' Equity
Preferred stock $.01 par value - 2,500,000 shares authorized,
none outstanding - -
Common stock, $.01 par value - 10,000,000
shares authorized; 3,012,434 shares outstanding 30 30
Additional paid-in capital 25,175 25,152
Accumulated deficit (6,502) (6,963)
Accumulated other comprehensive loss (1,047) (1,079)
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Total stockholders' equity 17,656 17,140
-----------------------------------------------------------------------------------------------------------
Total liabilities and stockholders' equity $ 396,168 $ 434,370
===========================================================================================================
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GREATER ATLANTIC FINANCIAL CORP.
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
Three Months Ended
December 31,
---------------------------
2004 2003
--------------------------------------------------------------------------------------
(Dollars in Thousands, Except Per Share Data)
Interest income
Loans $ 3,303 $ 3,142
Investments 1,102 1,395
--------------------------------------------------------------------------------------
Total interest income 4,405 4,537
--------------------------------------------------------------------------------------
Interest expense
Deposits 1,514 1,467
Borrowed money 1,303 1,660
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Total interest expense 2,817 3,127
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Net interest income 1,588 1,410
Provision for loan losses 2 79
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Net interest income after provision for loan losses 1,586 1,331
--------------------------------------------------------------------------------------
Noninterest income
Fees and service charges 235 234
Gain on sale of loans 1,078 1,956
Gain on sale of investment securities 538 312
Gain on derivatives 363 388
Other operating income 285 5
--------------------------------------------------------------------------------------
Total noninterest income 2,499 2,895
--------------------------------------------------------------------------------------
Noninterest expense
Compensation and employee benefits 1,231 1,994
Occupancy 461 501
Professional services 221 288
Advertising 559 421
Deposit insurance premium 11 11
Furniture, fixtures and equipment 300 258
Data processing 324 350
Other operating expenses 517 695
--------------------------------------------------------------------------------------
Total noninterest expense 3,624 4,518
--------------------------------------------------------------------------------------
Net income (loss) before income tax provision 461 (292)
Income tax provision - -
--------------------------------------------------------------------------------------
Net income (loss) $ 461 $ (292)
======================================================================================
Earnings (loss) per common share
Basic $ 0.15 $ (0.10)
Diluted $ 0.14 $ (0.10)
Weighted average common shares outstanding
Basic 3,012,434 3,012,434
Diluted 4,408,362 3,012,434
See accompanying notes to consolidated financial statements
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GREATER ATLANTIC FINANCIAL CORP.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) (UNAUDITED)
Three months ended December 31,
-------------------------------------
2004 2003
----------------- ------------------
(In Thousands)
-------------------------------------------------------------------------------------------
Net earnings (loss) $ 461 $ (292)
-------------------------------------------------------------------------------------------
Other comprehensive income (loss), net of tax
Unrealized gain (loss) on securities 32 (832)
-------------------------------------------------------------------------------------------
Other comprehensive income (loss) 32 (832)
-------------------------------------------------------------------------------------------
Comprehensive income (loss) $ 493 $(1,124)
===========================================================================================
GREATER ATLANTIC FINANCIAL CORP.
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (UNAUDITED)
FOR THE THREE MONTHS ENDED DECEMBER 31, 2004 AND 2003
- ------------------------------------------------------------------------------------------------------------------------------
Accumulated
Additional Accumulated Other Total
Preferred Common Paid-in Earnings Comprehensive Stockholders'
Stock Stock Capital (Deficit) Income (Loss) Equity
- ------------------------------------------------------------------------------------------------------------------------------
(In Thousands)
Balance at September 30, 2003 $- $ 30 $ 25,152 $ (3,771) $ (71) $ 21,340
Other comprehensive loss - - - - (832) (832)
Net loss for the period - - - (292) - (292)
- ------------------------------------------------------------------------------------------------------------------------------
Balance at December 31, 2003 $- $ 30 $ 25,152 $ (4,063) $ (903) $ 20,216
==============================================================================================================================
Balance at September 30, 2004 $- $ 30 $ 25,152 $ (6,963) $(1,079) $ 17,140
Option compensation - - 23 - - 23
Other comprehensive loss - - - - 32 32
Net income for the period - - - 461 - 461
- ------------------------------------------------------------------------------------------------------------------------------
Balance at December 31, 2004 $- $ 30 $ 25,175 $ (6,502) $(1,047) $ 17,656
==============================================================================================================================
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GREATER ATLANTIC FINANCIAL CORP.
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
Three months ended December 31,
------------------------------------
2004 2003
- ----------------------------------------------------------------------------------------------------------------
(In Thousands)
Cash flow from operating activities
Net income (loss) $ 461 $ (292)
Adjustments to reconcile net (loss) income to net cash
provided by (used in) operating activities
Provision for loan loss 2 79
Amortization of loan acquisition adjustment (7) (7)
Depreciation and amortization 267 223
Option compensation 23 -
Proceeds from sale of trading securities - (8)
Net loss on trading securities - 8
Realized gain on sale of investment securities (538) (320)
(Gain) loss on derivatives (363) (388)
Amortization of investment security premiums 196 426
Amortization of mortgage-backed securities premiums 224 418
Amortization of deferred fees (219) (98)
Discount accretion net of premium amortization (103) (173)
Amortization of convertible preferred stock costs 2 2
Gain on sale of loans held for sale (1,078) (1,956)
(Increase) decrease in assets
Disbursements for origination of loans (49,993) (108,171)
Proceeds from sales of loans 53,185 108,196
Accrued interest and dividend receivable 180 12
Prepaid expenses and other assets (376) 151
Deferred loan fees collected, net of deferred costs incurred 12 106
Increase (decrease) in liabilities
Accrued expenses and other liabilities 1,384 (2,478)
- ----------------------------------------------------------------------------------------------------------------
Net cash provided by (used in) operating activities 3,259 (4,270)
- ----------------------------------------------------------------------------------------------------------------
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GREATER ATLANTIC FINANCIAL CORP.
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) - (CONTINUED)
Three months ended December 31,
-----------------------------------
2004 2003
- -----------------------------------------------------------------------------------------------------------
(In Thousands)
Cash flow from investing activities
Net decrease (increase) in loans $ 29,229 $ (12,209)
Purchases of premises and equipment 148 (488)
Purchases of investment securities (6,834) (5,000)
Proceeds from sale of investment securities - 14,176
Proceeds from repayments of investment securities 5,604 10,361
Purchases of mortgage-backed securities (23,861) (45,621)
Proceeds from repayments of mortgage-backed securities 10,848 15,553
Proceeds from the sale of mortgage-backed securities 21,920 -
Purchases of FHLB stock (2,064) (5,450)
Proceeds from sale of FHLB stock 3,245 3,118
- -----------------------------------------------------------------------------------------------------------
Net cash provided by (used in) investing activities 38,235 (25,560)
- -----------------------------------------------------------------------------------------------------------
Cash flow from financing activities
Net decrease in deposits (14,832) (13,833)
Net advances from FHLB (10,200) 43,150
Net borrowings on reverse repurchase agreements (15,688) 4,572
Increase (decrease) in advance payments by borrowers
for taxes and insurance 615 (107)
- -----------------------------------------------------------------------------------------------------------
Net cash provided by (used in) financing activities (40,105) 33,782
- -----------------------------------------------------------------------------------------------------------
Increase (decrease) in cash and cash equivalents 1,389 3,952
- -----------------------------------------------------------------------------------------------------------
Cash and cash equivalents, at beginning of period 10,603 6,143
- -----------------------------------------------------------------------------------------------------------
Cash and cash equivalents, at end of period $ 11,992 $ 10,095
===========================================================================================================
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GREATER ATLANTIC FINANCIAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
INFORMATION AS OF DECEMBER 31, 2004 AND FOR THE THREE MONTHS
THEN ENDED IS UNAUDITED
(1) BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements, which
include the accounts of Greater Atlantic Financial Corp. ("the company") and its
wholly owned subsidiary, Greater Atlantic Bank ("the bank") and its wholly owned
subsidiary, Greater Atlantic Mortgage Corp. ("GAMC"), have been prepared in
accordance with the instructions for Form 10-Q. Certain information and note
disclosures normally included in financial statements prepared in accordance
with accounting principles generally accepted in the United States of America
have been omitted pursuant to the rules and regulations of the Securities and
Exchange Commission ("SEC") with respect to interim financial reporting. All
adjustments which, in the opinion of management, are necessary to a fair
presentation of the results for the interim periods presented (consisting of
normal recurring adjustments) have been made. It is recommended that these
unaudited consolidated financial statements be read in conjunction with the
audited consolidated financial statements and notes thereto included in the
Corporation's Annual Report on Form 10-K for the year ended September 30, 2004.
The results of operations for the three months ended December 31, 2004 are not
necessarily indicative of the results of operations that may be expected for the
year ending September 30, 2005 or any future periods.
(2) LOAN IMPAIRMENT AND LOAN LOSSES
In accordance with guidance in the Statements of Financial Accounting
Standards Nos. 114 and 118, the company prepares a quarterly review to determine
the adequacy of the allowance for loan losses and to identify and value impaired
loans. An analysis of the change in the allowance for loan losses follows:
At or for the three months
ended December 31,
------------------------------------
2004 2003
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(Dollars in Thousands)
Balance at beginning of period $ 1,600 $ 1,550
Provisions 2 79
Total charge-offs (20) (136)
Total recoveries 8 7
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Net charge-offs (12) (129)
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Balance at end of period $ 1,590 $ 1,500
============================================================================================
Ratio of net charge-offs during the period
to average loans outstanding during the period 0.01% 0.05%
============================================================================================
Allowance for loan losses to total non-performing
loans at end of period 170.78% 136.49%
============================================================================================
Allowance for loan losses to total loans 0.68% 0.57%
============================================================================================
(3) REGULATORY MATTERS
The capital distribution regulation of the OTS requires that the institution
provide the applicable OTS District Director with a 30-day advance written
notice of all proposed capital distributions whether or not advance approval is
required. The bank paid dividends of $655,000 to the company during the year
ended September 30, 2004 and $164,000 to the company during the quarter ended
December 31, 2004.
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GREATER ATLANTIC FINANCIAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -
(CONTINUED) INFORMATION AS OF DECEMBER 31, 2004 AND FOR THE THREE
MONTHS THEN ENDED IS UNAUDITED
The Federal Deposit Insurance Corporation Improvement Act of 1991
(FDICIA) created five categories of financial institutions based on the adequacy
of their regulatory capital levels: well capitalized, adequately capitalized,
undercapitalized, significantly undercapitalized and critically
undercapitalized. Under FDICIA, a well-capitalized financial institution is one
with Tier 1 leverage capital of 5%, Tier 1 risk-based capital of 6% and total
risk-based capital of 10%. At December 31, 2004, the bank was classified as a
well-capitalized financial institution.
The following presents the bank's capital position at December 31,
2004:
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Required Required Actual Actual Surplus
Balance Percent Balance Percent
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(Dollars in Thousands)
Leverage $19,770 5.00% $25,832 6.53% $ 6,062
Tier 1 Risk-based $14,206 6.00% $25,832 10.91% $11,626
Total Risk-based $23,677 10.00% $27,354 11.55% $ 3,677
===============================================================================================================
(4) STOCK OPTIONS
Effective November 14, 1998, the Company established the 1997 Stock
Option and Warrant Plan (the "Plan"). The Plan reserves options for 76,667
shares to employees and warrants for 94,685 shares to stockholders. The Plan was
amended effective March 14, 2000, to increase the number of options available
for grant to employees from 76,667 to 225,000 shares and amended again effective
March 15, 2002, to increase the number of options available for grant to
employees from 225,000 to 350,000 shares and to limit its application to
officers and employees. The stock options and warrants vest immediately upon
issuance and carry a maximum term of 10 years. The exercise price for the stock
options and warrants is the fair market value at grant date. As of December 31,
2004, 94,685 warrants were issued.
The following summary represents the activity under the Plan:
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Number of Exercise Expiration
Shares Price Date
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Balance outstanding and exercisable at September 30, 2002 190,000
Options granted -
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Balance outstanding and exercisable at September 30, 2003 190,000
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Options granted 36,000 $ 8.50 10-20-2013
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Balance outstanding and exercisable at September 30, 2004 226,000
Options granted -
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Balance outstanding and exercisable at December 31, 2004 226,000
===============================================================================================================
The Company has adopted the disclosure only provisions of Statement of
Financial Accounting Standards No. 123, "Accounting for Stock-Based
Compensation" ("SFAS 123"), but it continues to measure compensation cost for
the stock options using the intrinsic value method prescribed by APB Opinion No.
25. As allowable under SFAS 123, the Company used the Black-Scholes method to
measure the compensation cost of stock options granted in the first quarter of
fiscal 2004 with the following assumptions: risk free interest rate of 2.37%, a
dividend payout rate of zero, and an expected option life of seven years. The
volatility is 45%. Using those assumptions, the average weighted fair value of
the stock options granted during fiscal 2004 was $3.59.
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GREATER ATLANTIC FINANCIAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
INFORMATION AS OF DECEMBER 31, 2004 AND FOR THE THREE MONTHS
THEN ENDED IS UNAUDITED
Because the Company's employee stock options have characteristics
significantly different from those of traded options, and because changes in the
subjective input assumptions can materially affect the fair value estimate, in
management's opinion, the existing models do not necessarily provide a reliable
single measure of the fair value of its employee stock options.
If the Company had elected to recognize compensation cost based on the
value at the grant dates with the method prescribed by SFAS 123, net income
(loss) would have been changed to the pro forma amounts indicated below:
Three months ended
December 31,
---------------------------
2004 2003
-------------------------------------------------------------------------------------------------
(In Thousands, except per share data)
Net earnings (loss) $ 461 $ (292)
Deduct: Total stock-based employee compensation expense - (129)
-------------------------------------------------------------------------------------------------
Pro forma net earnings (loss) attributable to common stockholders $ 461 $ (421)
=================================================================================================
Earnings (loss) per common share
Basic $ 0.15 $ (0.10)
Diluted $ 0.14 $ (0.10)
Earnings (loss) per common share, pro forma
Basic $ 0.15 $ (0.14)
Diluted $ 0.14 $ (0.14)
(5) EARNINGS PER SHARE
Earnings per share is based on the weighted average number of shares of
common stock and dilutive common stock equivalents outstanding. Basic earnings
per share includes no dilution and is computed by dividing income available to
common shareholders by the weighted average number of common shares outstanding
for the period. Diluted earnings per share reflects the potential dilution of
securities that could share in the earnings of an entity. The following table
presents a reconciliation between the weighted average shares outstanding for
basic and diluted earnings per share for the three months ended December 31,
2004. The effect of the conversion of preferred securities and the impact of
stock options were antidilutive for the period ended December 31, 2003.
Three months ended December 31,
-----------------------------------
2004 2003
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(Dollars in Thousands, except per share data)
Net earnings $ 461 $ (292)
Effect of conversion of preferred securities 164 161
Diluted earnings per share 625 (131)
Weighted average common shares outstanding 3,012,434 3,012,434
Effect of conversion of preferred securities 1,371,429 1,371,429
Common stock equivalents due to dilutive effect of stock options 24,499 39,601
Total weighted average common shares and common
share equivalents outstanding 4,408,362 4,423,464
Basic earnings per common share $ 0.15 $ (0.10)
Diluted earnings per common share $ 0.14 $ (0.10)
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GREATER ATLANTIC FINANCIAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -
(CONTINUED) INFORMATION AS OF DECEMBER 31, 2004 AND FOR THE
THREE MONTHS THEN ENDED IS UNAUDITED
(6) SEGMENT REPORTING
The company has two reportable segments, banking and mortgage banking.
The bank operates retail deposit branches in the greater Washington,
D.C./Baltimore metropolitan area. The banking segment provides retail consumers
and small businesses with deposit products such as demand, transaction, savings
accounts and certificates of deposit and lending products, such as residential
and commercial real estate, construction and development, consumer and
commercial business loans. Further, the banking segment invests in residential
real estate loans purchased from GAMC and others, and also invests in
mortgage-backed and other securities. The mortgage banking segment activities,
which are conducted principally through GAMC, include the origination of
residential real estate loans either for the bank's portfolio or for sale into
the secondary market with servicing released.
The company evaluates performance based on net interest income,
noninterest income, and noninterest expense. The total of these three items is
the reportable segment's net contribution. The company's reportable segments are
strategic business units that offer different services in different geographic
areas. They are managed separately because each segment appeals to different
markets and, accordingly, requires different technology and marketing
strategies.
Since the company derives a significant portion of its banking revenue
from interest income as offset by interest expense, the segments are reported
below using net interest income. Because the company also evaluates performance
based on noninterest income and noninterest expense, these measures of segment
profit and loss are also presented.
- --------------------------------------------------------------------------------------------------------------------
Total Total
Mortgage Reportable Intersegment Operating
For the three months ended December 31, Banking Banking Segments Eliminations Earnings
- --------------------------------------------------------------------------------------------------------------------
(In Thousands)
Net interest income: (1)
2004 $ 1,537 $ 49 $ 1,586 $ - $ 1,586
2003 1,200 131 1,331 - 1,331
Noninterest income:
2004 $ 1,451 $ 1,059 $ 2,510 $ (11) $ 2,499
2003 879 2,020 2,899 (4) 2,895
Noninterest expense:
2004 $ 2,504 $ 1,131 $ 3,635 $ (11) $ 3,624
2003 2,493 2,029 4,522 (4) 4,518
Net income (loss):
2004 $ 485 $ (24) $ 461 $ - $ 461
2003 (414) 122 (292) - (292)
Segment assets:
2004 $393,875 $ 5,509 $399,384 $(3,216) $396,168
2003 511,051 24,033 535,084 (5,950) 529,134
(1) Segment net interest income reflects income after provisions for loan losses.
The bank has entered into a new management agreement with its manager of
the mortgage-banking subsidiary. Under the agreement the manager will reimburse
operating expenses equal to approximately 100% of any operating loss in return
for an increase in his share of net earnings from 40% to 80%. Reflected in the
mortgage banking non-interest expense for 2004 of $1.1 million is a reduction of
$571,000 by the manager of the mortgage company.
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GREATER ATLANTIC FINANCIAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -
(CONTINUED) INFORMATION AS OF DECEMBER 31, 2004 AND FOR THE THREE
MONTHS THEN ENDED IS UNAUDITED
(7) RECENT ACCOUNTING STANDARDS
SFAS No. 123 (Revised 2004), "Share-Based Payment," issued in
December 2004, is a revision of FASB Statement 123, "Accounting for Stock-Based
Compensation" and supersedes APB Opinion No. 25, "Accounting for Stock Issued to
Employees," and its related implementation guidance. The Statement focuses
primarily on accounting for transactions in which an entity obtains employee
services in share-based payment transactions. SFAS No. 123 (Revised 2004)
requires a public entity 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). That cost will be recognized over the
period during which an employee is required to provide service in exchange for
the award. This statement is effective as of the beginning of the first interim
or annual reporting period that begins after June 15, 2005 and the Company will
adopt the standard in the fourth quarter of fiscal 2005.
(8) JUNIOR SUBORDINATED DEBT SECURITIES
On March 20, 2002, Greater Atlantic Capital Trust I (the, "Trust"), a
Delaware statutory business trust and a wholly owned Trust subsidiary of the
company, issued $9.6 million aggregate liquidation amount (963,038 shares) of
6.50% cumulative preferred securities maturing on December 31, 2031, retaining
an option to call the securities on or after December 31, 2003. Conversion of
the preferred securities into the company's common stock may occur at any time
on or after 60 days after the closing of the offering. The company may redeem
the preferred securities, in whole or in part, at any time on or after December
31, 2003. Distributions on the preferred securities are payable quarterly on
March 31, June 30, September 30 and December 31 of each year beginning on June
30, 2002. The Trust also issued 29,762 common securities to the company for
$297,620. The proceeds from the sale of the preferred securities and the
proceeds from the sale of the trust's common securities were utilized to
purchase from the company junior subordinated debt securities of $9,928,000
bearing interest of 6.50% and maturing December 31, 2031. All intercompany
interest and equity were eliminated in consolidation.
The Trust was formed for the sole purpose of investing the proceeds
from the sale of the convertible preferred securities in the corresponding
convertible debentures. The company has fully and unconditionally guaranteed the
preferred securities along with all obligations of the trust related thereto.
The sale of the preferred securities yielded $9.2 million after deducting
offering expenses. The company retained approximately $1.5 million of the
proceeds for general corporate purposes, investing the retained funds in
short-term investments. The remaining $8.0 million of the proceeds was invested
in the bank to increase its capital position.
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GREATER ATLANTIC FINANCIAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
INFORMATION AS OF DECEMBER 31, 2004 AND FOR THE THREE MONTHS
THEN ENDED IS UNAUDITED
(9) DERIVATIVE FINANCIAL INSTRUMENTS
Beginning in fiscal 2002, the Bank utilized derivative financial
instruments to hedge its interest rate risk. Beginning in 2002, the Bank adopted
statement of Financial Accounting Standard No. 133, "Accounting for Derivative
Instruments and Hedging Activities" ("SFAS 133") which requires that an entity
recognize all derivatives as either assets or liabilities and measure those
instruments at fair value. The Bank bases the estimated fair values of these
agreements on the cost of interest-rate exchange agreements with similar terms
at available market prices, excluding accrued interest receivable and payable.
However, active markets do not exist for many types of financial instruments.
Consequently, fair values for these instruments must be estimated using
techniques such as discounted cash flow analysis and comparisons to similar
instruments. Estimates developed using these methods are highly subjective and
require judgments regarding significant matters such as the amount and timing of
future cash flows and the selection of discount rates that appropriately reflect
market and credit risks. Changes in these judgments often have a material effect
on the fair value estimates. Since those estimates are made as of a specific
time, they are susceptible to material near term changes.
The bank entered into various interest-rate swaps that total $62
million in notional principal. The swaps pay a fixed rate with the bank
receiving payments based upon one- to three-month floating rate LIBOR. The
capped range is between 1.31% - 4.53%, and expires between 1 and 6 years. The
bank also entered into various interest rate caps that total $30 million in
notional principal with terms between four and ten years that limit the float
between a floor of 2.00%, and capped between 5.00% - 8.00%. The bank accounts
for these derivatives, under the guidelines of SFAS 133.
Realized and unrealized gains and losses on those derivatives which
meet hedge accounting requirements are deferred and recognized when the hedge
transaction occurs. In the event hedge accounting requirements are not met gains
and losses on such instruments are included currently in the statement of
operations. During the three months ended December 31, 2004 and 2003 the
instruments did not meet hedge accounting requirements. The statement of
operations includes net gains of $363,000 and of $388,000 for the three months
ended December 31, 2004 and 2003, respectively.
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion and analysis should be read in conjunction
with the Consolidated Financial Statements and Notes presented elsewhere in this
report.
This report contains forward-looking statements. When used in this 10-Q
report and in future filings by the company with the Securities and Exchange
Commission (the "SEC"), in the company's press releases or other public or
shareholder communications, and in oral statements made with the approval of an
authorized executive officer, 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 are subject to certain risks and uncertainties, including, among
other things, changes in economic conditions in the company's market area,
changes in policies by regulatory agencies, fluctuations in interest rates,
demand for loans in the company's market area and competition that could cause
actual results to differ materially from historical earnings and those presently
anticipated or projected. 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 any
opinions or statements expressed with respect to future periods in any current
statements.
The company does not undertake and specifically declines any obligation
to publicly release the result of any revisions which may be made to any
forward-looking statements to reflect events or circumstances after the date of
such statements or to reflect the occurrence of anticipated or unanticipated
events.
MORTGAGE BANKING ACTIVITIES
The company adopted new accounting requirements relating to SFAS No.
149 which requires that mortgage loan commitments related to loans originated
for sale be accounted for as derivative instruments. In addition, forward loan
sale agreements also meet the definition of a derivative instrument under SFAS
No. 133.
Our mortgage banking activities include loans in our pipeline (from
application through sale). Loans in our pipeline are considered commitments once
the customers accept a rate lock. In a rate lock commitment, clients while in
the process of obtaining approval for residential loans can, at their own
determination, fix or "lock in" the rate on the loan. Those commitments are
generally for periods of 30 to 90 days and are at market rates. We generally
enter into forward sales contracts on rate lock commitments on either a best
efforts or mandatory basis.
Mortgage loans originated and intended for sale are carried at the
lower of aggregate cost or market value. To deliver closed loans and to control
interest rate risk prior to sale, the company enters into agreements to sell the
loans while the loans are still in the pipeline. Loan commitments related to the
origination of mortgage loans held for sale and the corresponding sales
contracts are considered derivative instruments. At December 31, 2004, the bank
had $33.0 million of loans held for sale and commitments outstanding related to
loans being originated for sale to investors. The value of the interest rate
locks and related forward commitments were immaterial to the financial
statements at December 31, 2004.
GENERAL
We are a savings and loan holding company, which was organized in June
1997. We conduct substantially all of our business through our wholly owned
subsidiary, Greater Atlantic Bank, a federally chartered savings bank, and its
wholly owned subsidiary, Greater Atlantic Mortgage Corp. Greater Atlantic Bank
is a member of the Federal Home Loan Bank system and its deposits are insured up
to applicable limits by the Savings Association Insurance Fund of the Federal
Deposit Insurance Corporation. We offer traditional banking services to
customers through eight Greater Atlantic Bank branches located throughout the
greater Washington, D.C./Baltimore metropolitan area. We also originate mortgage
loans for sale in the secondary market through Greater Atlantic Mortgage Corp.
14
15
The profitability of the company, and more specifically, the
profitability of its primary subsidiary Greater Atlantic Bank, depends primarily
on its non-interest income and net interest income. Net interest income is the
difference between the interest income it earns on its loans and investment
portfolio, and the interest it pays on interest-bearing liabilities, which
consist mainly of interest paid on deposits and borrowings. Non-interest income
consists primarily of gain on sales of loans and available-for-sale investments,
service charge fees and commissions earned by non-bank subsidiaries
The level of its operating expenses also affects the company's
profitability. Operating expenses consist primarily of salaries and employee
benefits, occupancy-related expenses, equipment and technology-related expenses
and other general operating expenses.
At December 31, 2004 the company's total assets were $396.2 million,
compared to the $434.4 million held at September 30, 2004, representing a
decrease of 8.79%. Both the bank's overall asset size and customer base
decreased during the period and that decline is reflected in the consolidated
statements of financial condition and statements of operations. Net loans
receivable at December 31, 2004 were $217.5 million, a decrease of $28.9 million
or 11.73% from the $246.4 million held at September 30, 2004. The decrease in
loans consisted primarily of single-family and commercial business loans. At
December 31, 2004, investment securities were $145.9 million, a decrease of $7.1
million or 4.67% from the $153.0 million held at September 30, 2004. Deposits at
December 31, 2004 were $274.1 million, a decrease of $14.8 million, which
resulted primarily from the sale of the bank's branch office located in
Washington, D.C.
CRITICAL ACCOUNTING POLICIES, ESTIMATES AND JUDGMENTS
The company's financial statements are prepared in accordance with
accounting principles generally accepted in the United States. The preparation
of those financial statements requires management to make estimates and
judgments that affect the reported amounts of assets, liabilities, revenue and
expenses as well as the disclosure of contingent liabilities. Management
continually evaluates its estimates and judgments including those related to the
allowance for loan losses and income taxes. Management bases its estimates and
judgments on historical experience and other factors that are believed to be
reasonable under the circumstances. Actual results may differ from those
estimates under different assumptions or conditions. The company believes that,
of its significant accounting policies, the most critical accounting policies we
apply are those related to the valuation of the loan portfolio.
A variety of factors impact the carrying value of the loan portfolio
including the calculation of the allowance for loan losses, valuation of
underlying collateral, the timing of loan charge-offs and the amount and
amortization of loan fees and deferred origination costs. The allowance for loan
losses is the most difficult and subjective judgment. The allowance is
established and maintained at a level that we believe is adequate to cover
losses resulting from the inability of borrowers to make required payments on
loans. Estimates for loan losses are arrived at by analyzing risks associated
with specific loans and the loan portfolio, current trends in delinquencies and
charge-offs, the views of our regulators, changes in the size and composition of
the loan portfolio and peer comparisons. The analysis also requires
consideration of the economic climate and direction, change in the interest rate
environment, which may impact a borrower's ability to pay, legislation impacting
the banking industry and economic conditions specific to our service area.
Because the calculation of the allowance for loan losses relies on estimates and
judgments relating to inherently uncertain events, results may differ from our
estimates.
15
16
COMPARISON OF RESULTS OF OPERATIONS FOR THE THREE MONTHS ENDED
DECEMBER 31, 2004 AND DECEMBER 31, 2003
NET INCOME. For the three months ended December 31, 2004, the company
had net earnings of $461,000 or $0.14 per diluted share compared to losses of
$292,000 or $0.10 per diluted share for the three months ended December 31,
2003. The improvement in earnings of $753,000 over the comparable period
one-year ago was positively impacted by an increase in net interest income, a
decrease in non-interest expense and a decrease in the provision for loan
losses. Those improvements were offset by a decrease in non-interest income.
NET INTEREST INCOME. An important source of our earnings is net
interest income, which is the difference between income earned on
interest-earning assets, such as loans, investment securities and
mortgage-backed securities, and interest paid on interest-bearing liabilities
such as deposits and borrowings. The level of net interest income is determined
primarily by the relative average balances of interest-earning assets and
interest-bearing liabilities in combination with the yields earned and rates
paid upon them. The correlation between the re-pricing of interest rates on
assets and on liabilities also influences net interest income.
The following table presents a comparison of the components of interest
income and expense and net interest income.
Difference
-------------------------------
Three Months Ended December 31, 2004 2003 Amount %
- ---------------------------------------------------------------------------------------------------------------------
(Dollars in Thousands)
Interest income:
Loans $ 3,303 $ 3,142 $ 161 5.12%
Investments 1,102 1,395 (293) (21.00)
- ---------------------------------------------------------------------------------------------------------------------
Total 4,405 4,537 (132) (2.91)
- ---------------------------------------------------------------------------------------------------------------------
Interest expense:
Deposits 1,514 1,467 47 3.20
Borrowings 1,303 1,660 (357) (21.51)
- ---------------------------------------------------------------------------------------------------------------------
Total 2,817 3,127 (310) (9.91)
- ---------------------------------------------------------------------------------------------------------------------
Net interest income $ 1,588 $ 1,410 $ 178 12.62%
=====================================================================================================================
The increase in net interest income during the quarter ended December
31, 2004, resulted primarily from a 48 basis point increase in net interest
margin (net interest income divided by average interest-earning assets) from
1.11% for the quarter ended December 31, 2003 to 1.59% for the quarter ended
December 31, 2004, offset in part by a $108.9 million decrease in the bank's
interest-earning assets. Contributing to the increase in the net interest margin
was a $256,000 decline in interest expense resulting from payments made on
certain interest rate swap and cap agreements compared to a charge of $180,000
in the comparable period one year ago. That increase in net interest margin also
resulted from the average yield on interest-earning assets increasing 48 basis
points more than the increase in the average cost on interest-bearing
liabilities and was partially offset by an increase in the bank's average
interest-bearing liabilities exceeding the increase in average interest earning
assets by $6.2 million.
INTEREST INCOME. Interest income for the three months ended December
31, 2004 decreased $132,000 compared to the three months ended December 31,
2003, primarily as a result of a decrease in the average outstanding balances of
loans and investment securities. That decrease was partially offset by an
increase of 85 basis points in the average yield earned on interest earning
assets.
16
17
INTEREST EXPENSE. The $310,000 decrease in interest expense for the
three months ended December 31, 2004 compared to the 2003 period was principally
the result of a $102.7 million decrease in average deposits and borrowed funds.
The decrease in the cost of those funds was partially offset by a 37 basis point
increase in the cost of funds on average deposits and borrowed funds. The
increase in interest expense on deposits was primarily due to a 17 basis point
increase in rates paid on certificates of deposit, savings and NOW and money
market accounts. That increase was partially offset by a decrease of $12.3
million, in certificates, savings and NOW and money market accounts from $281.7
million for the three months ended December 31, 2003 to $269.4 million for the
three months ended December 31, 2004. The increase in rates was primarily due to
higher rates paid on interest-bearing demand deposits, savings accounts and
certificates and elevated pricing on new and renewed time deposits.
The decrease in interest expense on borrowings for the three months
ended December 31, 2004 compared to the 2003 period was principally the result
of a $90.3 million decrease in average borrowed funds and was partially offset
by a 132 basis point increase in the cost of borrowed funds. Components
accountable for the decrease of $357,000 in interest expense on borrowings were
a $634,000 decrease relating to average volume, offset by a $277,000 increase
relating to average cost
17
18
COMPARATIVE AVERAGE BALANCES AND INTEREST INCOME ANALYSIS. The
following table presents the total dollar amount of interest income from average
interest-earning assets and the resultant yields, as well as the interest
expense on average interest-bearing liabilities, expressed both in dollars and
annualized rates. No tax-equivalent adjustments were made and all average
balances are average daily balances. Non-accruing loans have been included in
the tables as loans carrying a zero yield.
FOR THE THREE MONTHS ENDED DECEMBER 31,
------------------------------------------------------------------------------
2004 2003
-------------------------------------- -------------------------------------
INTEREST INTEREST AVERAGE
AVERAGE INCOME/ AVERAGE AVERAGE INCOME/ YIELD/
BALANCE EXPENSE YIELD/ RATE BALANCE EXPENSE RATE
------------ ---------- ------------- ---------- ----------- ----------
ASSETS: (DOLLARS IN THOUSANDS)
Interest-earning assets:
Real estate loans $ 114,610 $ 1,847 6.45% $ 150,602 $ 2,036 5.41%
Consumer loans 73,211 833 4.55 65,822 622 3.78
Commercial business loans 45,933 623 5.43 39,907 484 4.85
----------- -------- ---------- ----------- ---------- ---------
Total loans 233,754 3,303 5.65 256,331 3,142 4.90
Investment securities 71,840 509 2.83 143,505 899 2.51
Mortgage-backed securities 93,357 593 2.54 107,974 496 1.84
----------- -------- ---------- ----------- ---------- ---------
Total interest-earning assets 398,951 4,405 4.42 507,810 4,537 3.57
-------- ---------- ---------- ---------
Non-earning assets 21,766 17,201
----------- -----------
Total assets $ 420,717 $ 525,011
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY:
Interest-bearing liabilities:
Savings accounts $ 13,139 32 0.97 $ 10,964 25 0.91
Now and money market accounts 72,798 230 1.26 77,076 208 1.08
Certificates of deposit 183,419 1,252 2.73 193,683 1,234 2.55
----------- -------- ---------- ----------- ---------- ---------
Total deposits 269,356 1,514 2.25 281,723 1,467 2.08
FHLB advances 46,089 488 4.24 116,250 680 2.34
Other borrowings 68,310 815 4.77 88,452 980 4.43
----------- -------- ---------- ----------- ---------- ---------
Total interest-bearing
liabilities 383,755 2,817 2.94 486,425 3,127 2.57
-------- ---------- ---------- ---------
Noninterest-bearing liabilities:
Noninterest-bearing demand deposits 15,499 12,682
Other liabilities 1,988 4,951
----------- -----------
Total liabilities 401,242 504,058
Stockholders' equity 19,475 20,953
----------- -----------
Total liabilities and
stockholders' Equity $ 420,717 $ 525,011
=========== ===========
Net interest income $ 1,588 $ 1,410
======== ==========
Interest rate spread 1.48% 1.00%
========== ==========
Net interest margin 1.59% 1.11%
========== ==========
18
19
RATE/VOLUME ANALYSIS. The following table presents certain information
regarding changes in interest income and interest expense attributable to
changes in interest rates and changes in volume of interest-earning assets and
interest-bearing liabilities for the periods indicated. The change in interest
attributable to both rate and volume has been allocated to the changes in rate
and volume on a pro rata basis.
THREE MONTHS ENDED
DECEMBER 31, 2004 COMPARED TO
DECEMBER 31, 2003
-----------------------------------------------
CHANGE ATTRIBUTABLE TO
-----------------------------------------------
VOLUME RATE TOTAL
-----------------------------------------------
(IN THOUSANDS)
Real estate loans $ (487) $ 298 $ (189)
Consumer loans 70 141 211
Commercial business loans 73 66 139
---------------- -------------- --------------
Total loans (344) 505 161
Investments (449) 59 (390)
Mortgage-backed securities (67) 164 97
---------------- -------------- --------------
Total interest-earning assets $ (860) $ 728 $ (132)
================ ============== ==============
Savings accounts $ 5 $ 2 $ 7
Now and money market accounts (12) 34 22
Certificates of deposit (65) 83 18
---------------- -------------- --------------
Total deposits (72) 119 47
FHLB advances (411) 219 (192)
Other borrowings (223) 58 (165)
---------------- -------------- --------------
Total interest-bearing liabilities (706) 396 (310)
================ ============== ==============
Change in net interest income $ (154) $ 332 $ 178
================ ============== ==============
PROVISION FOR LOAN LOSSES. The allowance for loan losses, which is
established through provisions for losses charged to expense, is increased by
recoveries on loans previously charged off and is reduced by charge-offs on
loans. Determining the proper reserve level or allowance involves management's
judgment based upon a review of factors, including the company's internal review
process, which segments the loan portfolio into groups, based on loan type and
assigns to them a reserve percentage that reflects the industry standard.
Management then looks at its classified assets, which are loans 30 days or more
delinquent, and classifies those loans as special mention, substandard, doubtful
or loss based on the performance of the loans. Those classified loans are then
individually evaluated for impairment and measured by either the present value
of expected future cash flows, the loans observable market price, or the fair
value of the collateral. They are then segmented by type and assigned a reserve
percentage that reflects the underlying quality of the loan. Although management
utilizes its best judgment in providing for probable losses, there can be no
assurance that the bank will not have to increase its provisions for loan losses
in the future. An increase in provision may result from an adverse market for
real estate and economic conditions generally in the company's primary market
area, future increases in non-performing assets or for other reasons which would
adversely affect the company's results of operations.
Non-performing assets were $931,000 or 0.24% of total assets at
December 31, 2004, with $850,000 classified as substandard, $51,000 classified
as doubtful and none classified as loss compared to $1.1 million or 0.21% at
December 31, 2003. Non-performing assets decreased $168,000 from the comparable
period one year ago, and the company decreased the provision for loan losses by
$77,000. The decrease in non-performing assets from the year ago period was due
to the reduction of the outstanding balance of one of the bank's commercial
business loans. The decrease in provision was due primarily to a reduction in
the required provision for that loan.
NON-INTEREST INCOME. Non-interest income decreased $396,000 during the
quarter ended December 31, 2004, over the comparable period one year ago. That
decrease was primarily the result of a decrease of $878,000 in gain on gain on
sale of loans and was partially offset by increases of $226,000 and $280,000 in
gain on sale of investments and other operating income, respectively. The level
of gain on sale of loans during the quarter ended
19
20
December 31, 2004 resulted from lower than anticipated loan origination and
sales volumes at the bank's mortgage banking subsidiary and lower margins than
those obtained in the year-ago period. During the period, the bank exchanged
single-family loans for mortgage-backed securities, which were sold during the
quarter, recognizing $331,000 in gain on sale. The $280,000 increase in other
operating income reflects the gain recognized from the sale of the bank's
Washington, D.C. branch.
The following table presents a comparison of the components of
non-interest income.
Difference
--------------------------------------
Three Months Ended December 31, 2004 2003 Amount %
- -------------------------------------------------------------------------------------------------------------------
(Dollars in Thousands)
Non-interest income:
Gain on sale of loans $ 1,078 $ 1,956 $ (878) (44.89)%
Service fees on loans 66 59 7 11.86
Service fees on deposits 169 175 (6) (3.43)
Gain on sale of investment securities 538 312 226 72.44
Gain on derivatives 363 388 (25) (6.44)
Other operating income 285 5 280 5,600.00
- -------------------------------------------------------------------------------------------------------------------
Total non-interest income $ 2,499 $ 2,895 $ (396) (13.68)%
===================================================================================================================
NON-INTEREST EXPENSE. Non-interest expense decreased $894,000 from $4.5
million for the quarter ended December 31, 2003 to $3.6 million for the first
quarter in the current fiscal year. The decrease was primarily attributable to a
$905,000 decrease in the mortgage company's non-interest expense from that
incurred in the comparable period one year ago. The decrease in non-interest
expense at the mortgage company level was primarily $780,000 in compensation of
which $571,000 was an expense reimbursement by the manager, coupled with
decreases in other operating expenses, professional services, data processing
and occupancy. Those decreases were offset by increases in advertising and
furniture fixtures and equipment. Mortgage related expenses should continue to
decline because of the lag in timing of such expenses compared to the decline in
origination and sales volumes and with the new compensation agreement entered
into with the manager of the mortgage banking subsidiary. Under the new
compensation agreement, the manager will absorb 100% of any operating loss in
return for an increase in his share of net earnings from 40% to 80%. The
increase in the bank's non-interest expense was $10,000 distributed over various
non-interest expense categories.
The following table presents a comparison of the components of
non-interest expense.
Difference
---------------------------------
Three Months Ended December 31, 2004 2003 Amount %
--------------------------------------------------------------------------------------------------------------------
(Dollars in Thousands)
Non-interest expense:
Compensation and employee benefits $ 1,231 $ 1,994 $ (763) (38.26)%
Occupancy 461 501 (40) (7.98)
Professional services 221 288 (67) (23.26)
Advertising 559 421 138 32.78
Deposit insurance premium 11 11 - -
Furniture, fixtures and equipment 300 258 42 16.28
Data processing 324 350 (26) (7.43)
Other operating expense 517 695 (178) (25.61)
--------------------------------------------------------------------------------------------------------------------
Total non-interest expense $ 3,624 $ 4,518 $ (894) (19.79)%
====================================================================================================================
INCOME TAXES. The company files a consolidated federal income tax
return with its subsidiaries and computes its income tax provision or benefit on
a consolidated basis. Based on recent tax legislation, the company expects to
offset all taxable income in fiscal 2005 with existing net operating losses
carried forward from prior years. The company believes that it will continue to
generate taxable income for the foreseeable future, which will assure the use of
existing net operating losses.
20
21
Contractual Obligations and Off-Balance Sheet Financing Arrangements
The following table summarizes the bank's contractual obligations at
December 31, 2004 and the effect these obligations are expected to have on the
bank's liquidity and cash flows in future periods.
--------------------------------------------------------------------------------------------------------------
Less Than Two - Four - Five After Five
Total One Year Three Years Years Years
--------------------------------------------------------------------------------------------------------------
(In thousands)
FHLB Advances (1) $ 41,000 $ 8,000 $ 8,000 $ - $ 25,000
Reverse repurchase agreements 49,176 49,176 - - -
Operating leases 8,086 1,140 2,146 2,097 2,703
-----------------------------------------------------------------------------------------------------------------
Total obligations $ 98,262 $ 58,316 $ 10,146 $ 2,097 $ 27,703
=================================================================================================================
(1) The company expects to refinance these short and medium-term obligations under substantially
the same terms and conditions.
Other Commercial Commitments
-----------------------------------------------------------------------------------------------------------------
Less Than Two - Four - Five After Five
Total One Year Three Years Years Years
-----------------------------------------------------------------------------------------------------------------
(In Thousands)
Certificate of deposit maturities (1) $ 178,743 $ 113,874 $ 53,418 $ 11,358 $ 93
Loan originations 80,244 80,244 - - -
Unfunded lines of credit 103,566 103,566 - - -
Standby letters of credit 511 511 - - -
-----------------------------------------------------------------------------------------------------------------
Total $ 363,064 $ 298,195 $ 53,418 $ 11,358 $ 93
=================================================================================================================
(1) The company expects to retain maturing deposits or replace amounts
maturing with comparable certificates of deposits based on current market
interest rates.
LIQUIDITY AND CAPITAL RESOURCES. The bank's primary sources of funds
are deposits, principal and interest payments on loans, mortgage-backed and
investment securities and borrowings. While maturities and scheduled
amortization of loans are predictable sources of funds, deposit flows and
mortgage prepayments are greatly influenced by general interest rates, economic
conditions and competition. The bank has continued to maintain the levels of
liquid assets as previously required by OTS regulations. The bank manages its
liquidity position and demands for funding primarily by investing excess funds
in short-term investments and utilizing FHLB advances and reverse repurchase
agreements in periods when the bank's demands for liquidity exceed funding from
deposit inflows.
The bank's most liquid assets are cash and cash equivalents and
securities available-for-sale. The levels of those assets are dependent on the
bank's operating, financing, lending and investing activities during any given
period. At December 31, 2004, cash and cash equivalents, interest bearing
deposits and securities available-for-sale totaled $148,741 million or 37.54% of
total assets.
The primary investing activities of the bank are the origination of
residential one- to four-family loans, commercial real estate loans, real estate
construction and development loans, commercial borrowing and consumer loans and
the purchase of United States Treasury and agency securities, mortgage-backed
and mortgage-related securities and other investment securities. During the
three months ended December 31, 2004, the bank's loan purchases and originations
totaled $36.2 million. Purchases of United States Treasury and agency
securities, mortgage-backed and mortgage related securities and other investment
securities totaled $31.1 million for the three months ended December 31, 2004.
The bank has other sources of liquidity if a need for additional funds
arises. At December 31, 2004, the bank had $41.0 million in advances outstanding
from the FHLB and had an additional overall borrowing capacity from the FHLB of
$117.5 million. Depending on market conditions, the pricing of deposit products
and the pricing of FHLB advances, the bank may continue to rely on FHLB
borrowings to fund asset growth.
21
22
At December 31, 2004, the bank had commitments to fund loans and unused
outstanding lines of credit, unused standby letters of credit and undisbursed
proceeds of construction mortgages totaling $184.3 million. The bank anticipates
that it will have sufficient funds available to meet its current loan
origination commitments. Certificate accounts, including IRA and Keogh accounts,
which are scheduled to mature in less than one year from December 31, 2004,
totaled $50.7 million. Based upon experience, management believes the majority
of maturing certificates of deposit will remain with the bank. In addition,
management of the bank believes that it can adjust the rates offered on
certificates of deposit to retain deposits in changing interest rate
environments. In the event that a significant portion of these deposits are not
retained by the bank, the bank would be able to utilize FHLB advances and
reverse repurchase agreements to fund deposit withdrawals, which would result in
an increase in interest expense to the extent that the average rate paid on such
borrowings exceeds the average rate paid on deposits of similar duration.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risk is the risk of loss from adverse changes in market prices
and rates. The company's market risk arises primarily from interest rate risk
inherent in its lending and deposit taking activities. The company has little or
no risk related to trading accounts, commodities or foreign exchange. In
general, market risk reflects the sensitivity of income to variations in
interest rates and other relevant market rates or prices. The company's market
rate sensitive instruments include interest-earning assets and interest-bearing
liabilities. The company enters into market rate sensitive instruments in
connection with its various business operations, particularly its mortgage
banking activities. Loans originated, and the related commitments to originate
loans that will be sold, represent market risk that is realized in a short
period of time, generally two or three months.
The company's primary source of market risk exposure arises from
changes in United States interest rates and the effects thereof on mortgage
prepayment and closing behavior, as well as depositors' choices ("interest rate
risk"). Changes in those interest rates will result in changes in the company's
earnings and the market value of its assets and liabilities. We expect to
continue to realize income from the differential or "spread" between the
interest earned on loans, securities and other interest-earning assets, and the
interest paid on deposits, borrowings and other interest-bearing liabilities.
That spread is affected by the difference between the maturities and re-pricing
characteristics of interest-earnings assets and interest-bearing liabilities.
Loan volume and yields are affected by market interest rates on loans, and
rising interest rates generally are associated with fewer loan originations.
Management expects that a substantial portion of our assets will continue to be
indexed to changes in market interest rates and we intend to attract a greater
proportion of short-term liabilities, which will help us address our interest
rate risk. The lag in implementation of re-pricing terms on our adjustable-rate
assets may result in a decline in net interest income in a rising interest rate
environment. There can be no assurance that our interest rate risk will be
minimized or eliminated. Further, an increase in the general level of interest
rates may adversely affect the ability of certain borrowers to pay the interest
on and principal of their obligations. Accordingly, changes in levels of market
interest rates, (primarily increases in market interest rates), could materially
adversely affect our interest rate spread, asset quality, loan origination
volume and overall financial condition and results of operations.
To mitigate the impact of changes in market interest rates on our
interest-earning assets and interest-bearing liabilities, we actively manage the
amounts and maturities of these assets and liabilities. A key component of this
strategy is the origination and retention of short-term and adjustable-rate
assets and the origination and sale of fixed-rate loans. We retain short-term
and adjustable-rate assets because they have re-pricing characteristics that
more closely match the re-pricing characteristics of our liabilities.
To further mitigate the risk of timing differences in the re-pricing of
assets and liabilities, our interest-earning assets are matched with
interest-bearing liabilities that have similar re-pricing characteristics. For
example, the interest rate risk of holding fixed-rate loans is managed with
long-term deposits and borrowings, and the risk of holding ARMs is managed with
short-term deposits and borrowings. Periodically, mismatches are identified and
managed by adjusting the re-pricing characteristics of our interest-bearing
liabilities with derivatives, such as interest rate caps and interest rate
swaps.
Through the use of these derivative instruments, management attempts to
reduce or offset increases in interest expense related to deposits and
borrowings. We use interest rate caps and pay-fixed interest rate swaps to
protect against rising interest rates.
22
23
The interest rate caps and pay-fixed interest rate swaps are designed
to provide an additional layer of protection should interest rates on deposits
and borrowings rise, by effectively lengthening the re-pricing period. At
December 31, 2004, we held an aggregate notional value of $30 million of caps
and $62 million of swaps that pay-a fixed interest rate. None of the interest
rate caps had strike rates that were in effect at December 31, 2004, as current
LIBOR rates were below the strike rates.
We are also striving to increase the proportion of transaction deposits
to total deposits to diminish our exposure to adverse changes in interest rates.
In particular, non-interest-bearing checking accounts and custodial accounts are
less sensitive to interest rate fluctuations and provide a growing source of
non-interest income through depositor and other retail banking fees.
ITEM 4. CONTROLS AND PROCEDURES
(a). Evaluation of disclosure controls and procedures. The Company
------------------------------------------------
maintains controls and procedures designed to ensure that information required
to be disclosed in the reports that the Company files or submits under the
Securities Exchange Act of 1934 is recorded, processed, summarized and reported
within the time periods specified in the rules and forms of the Securities and
Exchange Commission. Based upon their evaluation of those controls and
procedures performed within the period, the chief executive and chief financial
officers of the Company concluded that the Company's disclosure controls and
procedures were adequate.
(b). Changes in internal control. The company made no significant
---------------------------
changes in its internal controls or in other factors that could significantly
affect these controls subsequent to the date of the evaluation of those controls
by the Chief Executive and Chief Financial officers.
PART II. OTHER INFORMATION
ITEM 1. Legal Proceedings
Not applicable.
ITEM 2. Unregistered Sales of Equity Securities and Use of Proceeds
Not applicable.
ITEM 3. Defaults Upon Senior Securities
Not applicable.
ITEM 4. Submission of Matters to a Vote of Security Holders
Not applicable
ITEM 5. Other Information
Not applicable.
ITEM 6. Exhibits
(a) Exhibits
31.1 Certification of Chief Executive Officer pursuant to Section 302
of Sarbanes-Oxley Act of 2002
31.2 Certification of Chief Financial Officer pursuant to Section 302
of Sarbanes-Oxley Act of 2002
32.1 Certification of Chief Executive Officer pursuant to Section 906
of Sarbanes-Oxley Act of 2002
32.2 Certification of Chief Financial Officer pursuant to Section 906
of Sarbanes-Oxley Act of 2002
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GREATER ATLANTIC FINANCIAL CORP.
SIGNATURES
Pursuant to the requirement of the Securities and Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
GREATER ATLANTIC FINANCIAL CORP.
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(Registrant)
By: /s/ Carroll E. Amos
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Carroll E. Amos
President and Chief Executive Officer
By: /s/ David E. Ritter
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David E. Ritter
Senior Vice President and Chief Financial
Officer
Date: February 14, 2005
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