UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, DC  20549

 

FORM 10-Q

 

ý		Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
		for the quarterly period ended March 31, 2005 or
o		Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
		for the transition period from                     .

 

No. 000-24601

(Commission File
Number)

 

PSB BANCORP, INC.

(Exact Name of Registrant as Specified in its Charter)

 

Pennsylvania		23-2930740
(State of Incorporation)		(IRS Employer ID Number)

 

1835 Market Street, Philadelphia, PA 19103

(Address of Principal Executive Offices)

 

(215) 979-7900

(Registrant’s Telephone
Number)

 

Indicate by checkmark 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  ý     No  o

 

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act.)

 

Yes  o     No  ý

 

Number of shares outstanding as of March 31, 2005

 

Common Stock (no par value)		4,893,609
(Title of Class)		(Outstanding Shares)

 

 

PSB BANCORP, INC.

FORM 10-Q

FOR THE QUARTER ENDED MARCH 31, 2005

 

TABLE OF CONTENTS

 

PART I.	FINANCIAL INFORMATION
	Item 1.	Financial Statements
		Consolidated Statements of Financial Condition as of March 31, 2005 (unaudited) and December 31, 2004
		Consolidated Statements of Income (unaudited) for the Three Month Periods Ended March 31, 2005 and 2004
		Consolidated Statements of Cash Flows (unaudited) for the Three Month Periods Ended March 31, 2005 and 2004
		Consolidated Statements of Comprehensive Income (unaudited) for the Three Month Periods Ended March 31, 2005 and 2004
		Notes to Consolidated Financial Statements
	Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations
	Item 3.	Quantitative and Qualitative Disclosures about Market Risk
	Item 4.	Controls and Procedures
PART II.	OTHER INFORMATION
	Item 1.	Legal Proceedings
	Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds
	Item 3.	Defaults Upon Senior Securities
	Item 4.	Submission of Matters to a Vote of Security Holders
	Item 5.	Other Information
	Item 6.	Exhibits

 

1

 

PART I.  FINANCIAL INFORMATION

 

Item 1.  Financial Statements.

 

PSB BANCORP, INC. AND SUBSIDIARY

STATEMENTS OF FINANCIAL CONDITION

(In thousands except per share data)

 

		March 31, 2005			December 31, 2004
		(Unaudited)			(Audited)
Assets
Cash and due from banks		$	7,554		$	4,355
Interest-earning deposits with banks		55,715			49,964
Federal funds sold		2,654			331
Total cash and cash equivalents		65,923			54,650
Loans held-for-sale		1,018			3,792
Investment securities available-for-sale, at fair value		89,619			94,112
Investment securities held to maturity (fair value $1,506 and $1,544)		1,510			1,533
Federal Home Loan Bank stock – at cost		1,009			1,308
Federal Reserve Bank stock – at cost		1,187			1,139
Loans		355,411			356,142
Less allowance for possible loans losses		(3,201		)	(3,157		)
Net loans		352,210			352,985
Accrued interest receivable		2,269			2,071
Premises and equipment, net		2,655			2,470
Bank-owned life insurance		12,810			12,696
Other assets		7,338			6,321
		25,072			23,558
Total assets		$	537,548		$	533,077
Liabilities
Deposits
Non-interest bearing		37,497			30,786
Interest bearing		441,835			444,494
Total deposits		479,332			475,280
Securities sold under agreements to repurchase		1,116			1,105
Advances from borrowers for taxes and insurance		2,540			3,114
Other liabilities		2,642			1,421
		6,298			5,640
Total liabilities		485,630			480,920
Shareholders’ equity
Common stock authorized, 15,000,000 shares no par value, 4,890,543 and 4,890,543 shares issued and outstanding on March 31, 2005 and December 31, 2004, respectively		4,893,609			45,270
Retained earnings		9,563			8,989
Accumulated other comprehensive loss		(1,454		)	(440		)
Employee stock ownership plan		(1,198		)	(1,232		)
Treasury stock, at cost, 78,187 and 78,187 on March 31, 2005 and December 31, 2004, respectively		(430		)	(430		)
Total shareholders’ equity		51,918			52,157
Total liabilities and shareholders’ equity		$	537,548		$	533,077

 

The accompanying notes are an integral part of these financial statements

 

2

 

PSB BANCORP, INC. AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF INCOME

(In thousands, except per share data)

 

		Three months ended March 31,
		2005			2004
		(Unaudited)
Interest income
Loans, including fees		$	6,045		$	5,226
Investment securities		834			918
Deposits with banks		309			90
Total interest income		7,188			6,234
Interest expense
Interest on deposits		2,489			1,797
Interest on borrowings		6			6
Total interest expense		2,495			1,803
Net interest income		4,693			4,431
Provision for loan losses		135			0
Net interest income after provision for loan losses		4,558			4,431
Non-interest operating income
Service fees on deposit accounts		322			276
Loss on sale of real estate owned		(38		)	(2		)
Banked owned life insurance		115			76
Gain on sale of Investments Securities		420			—
Other		113			123
		932			473
Non-interest expenses
Salaries and employee benefits		2,488			2,221
Occupancy and equipment		648			564
Other operating		1,572			1,305
Total non-interest expenses		4,708			4,090
Income before net effect of income taxes and Ironbridge consolidation		782			814
Net Effect of Ironbridge consolidation		35			32
Income before net effect of income taxes		817			846
Income taxes		(246		)	(238		)
Net income		$	571		$	608
Net income per common share
Basic:		$	0.12		$	0.14
Diluted:		$	0.10		$	0.14

 

The accompanying notes are an integral part of these financial statements

 

3

 

PSB BANCORP, INC. AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands, except per share data)

 

		Three Months Ended March 31,
		2005			2004
		(Unaudited)
CASH FLOW FROM OPERATING ACTIVITIES
Adjustments to reconcile net income to net cash
Net income		$	571		$	608
Adjustments used in operating activities:
Provision for possible loan losses		135			—
Depreciation and amortization		246			165
Amortization of discounts and accretion of premiums on investment securities		56			(49		)
Restricted Stock		100			—
Loss on sale of real estate owned		38			2
Gain on sale of investment securities		(420		)	—
Proceeds from sale and amortization of loans held-for-sale		9,679			6,369
Originations of loans held-for-sale		(6,905		)	(5,276		)
ESOP expense		100			152
Change in assets and liabilities:
(Increase) decrease in accrued interest receivable		(198		)	189
(Increase) in other assets		(32		)	(1,217		)
(Increase) decrease change in accrued expenses		944			(1275		)
Total Adjustments		3,743			(940		)
Net cash provided by (used in) operating activities		4,314			(332		)
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of investment securities, available-for-sale		(2,198		)	(5,000		)
Proceeds from maturities and calls of investment securities		5,578			13,612
Purchase of Federal Home Loan Bank and Federal Reserve Bank Stock		251			(906		)
Net decrease (increase) in loans		104			(2,581		)
Proceeds from sale of real estate owned		165			36
Purchase of premises and equipment		(430		)	(26		)
Net cash provided by investing activities		3,470			5,135
CASH FLOWS FROM FINANCING ACTIVITIES:
Net increase in deposits		4,052			19,784
Increase in securities sold under agreements to repurchase		11			3
(Decrease) increase in advances for borrowers’ taxes and insurance		(574		)	137
Exercised stock options		—			27
Net cash provided by financing activities		3,489			19,951
NET INCREASE IN CASH AND CASH EQUIVALENTS		11,273			24,754
Cash and cash equivalents, beginning of period		54,650			52,408
CASH AND CASH EQUIVALENTS, END OF PERIOD		$	65,923		$	77,162

 

The accompanying notes are an integral part of these financial statements

 

4

 

PSB BANCORP, INC. AND SUBSIDIARY

CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME

(In thousands)

 

		Three Months Ended March 31,
		2005			2004
		(Unaudited)
Net income		$	571		$	608
Other comprehensive income, net of tax:
Accumulated comprehensive income (loss), investments available for sale		(1,014		)	(713		)
Comprehensive (loss)		$	(443	)	$	(105	)

 

The accompanying notes are an integral part of these financial statements

 

5

 

PSB BANCORP, INC.

NOTES TO FINANCIAL STATEMENTS

MARCH 31, 2005

(Unaudited)

 

1.              Basis of Presentation

 

This quarterly report presents the consolidated financial statements of PSB Bancorp, Inc. (“PSB”) and its subsidiaries.

 

PSB’s financial statements reflect all adjustments and disclosures that management believes are necessary for a fair presentation of interim results.  The result of operation for the quarter presented does not necessarily indicate the results that PSB will achieve for all of 2005.  You should read these interim financial statements in conjunction with the consolidated financial statements and accompanying notes that are presented in the PSB Bancorp, Inc. Annual Report on Form 10-K for the year ended December 31, 2004.

 

The financial information in this quarterly report has been prepared in accordance with PSB’s customary accounting practices; these financial statements have not been audited.  Certain information and footnote disclosures required under generally accepted accounting principles have been condensed or omitted, as permitted by rules and regulations of the Securities and Exchange Commission.

 

2.              Earnings Per Share (EPS)

 

PSB appealed the U.S. District Court for the Eastern District of Pennsylvania’s ruling in favor of the plaintiffs’ motion for summary judgment regarding the validity of 895,240 stock options previously declared void by PSB.  Pending the outcome of the appeal, PSB and the plaintiffs entered into an agreement whereby shares of PSB common stock were issued to the plaintiffs at the strike price of the contested options.  However, both the shares of common stock and the proceeds of the exercise of the options have been escrowed pending the outcome of the appeal.  On February 15, 2005, The United States Court of Appeals for the Third Circuit (the “Appeals Court”) upheld the grant of summary judgment for the plaintiffs.  On February 28, 2005, PSB filed a motion for rehearing with the Appeals Court in which PSB averred that, based on recently discovered information, the court lacked jurisdiction because at least one of the plaintiffs was a Pennsylvania resident and therefore diversity of citizenship, thus jurisdiction, was absent.

 

Subsequent Events

 

On April 1, 2005, the Appeals Court reversed its prior decision for lack of subject matter jurisdiction and remanded the case to the U.S. District Court for the Eastern District of Pennsylvania (the “Court”) with instructions to dismiss the underlying case for lack of subject matter.  On April 26, 2005, the Court dismissed the original case with prejudice for lack of subject matter jurisdiction.

 

The following table illustrates the required disclosure of the numerators and denominators of the basic and diluted EPS computation.  Because the dismissal of plaintiffs’ case did not occur until after the quarter end, the computation of dilutive earnings per share now includes 895,240 shares of the 1,371,200 options which were issued in connection with the 1999 First Bank of Philadelphia acquisition and were originally deemed invalid by management.  These shares are considered to be contingently issuable shares and are required to be included in the calculation of diluted EPS and excluded from the calculation of basic EPS for the three periods ended March 31, 2005 and 2004, because they currently are held in escrow and all or part may be returned pending the outcome of the appeal of the court ruling which rendered the options valid.

 

		Three months ended March 31, 2005
		Income (numerator)			Weighted average shares (denominator)		Per share amount
		(In thousands, except per share data)
Basic earnings per share
Income available to common stockholders		$	571		4,668		$	0.12
Effect of dilutive stock options		—			1,004		—
Diluted earnings per share
Income available to common stockholders plus effect of dilutive securities		$	571		5,672		$	0.10

 

6

 

No options were anti-dilutive at March 31, 2005.

 

		Three months ended March 31, 2004
		Income (numerator)			Weighted average shares (denominator)		Per share amount
		(In thousands, except per share data)
Basic earnings per share
Income available to common stockholders		$	608		4,269		$	0.14
Effect of dilutive stock options		—			145		—
Diluted earnings per share
Income available to common stockholders plus effect of dilutive securities		$	1,511		4,414		$	0.14

 

No options were anti-dilutive at March 31, 2004.

 

3.              New Accounting Pronouncements

 

In December 2004, the FASB issued SFAS No. 123R, “Share-Based Payment” (SFAS 123R).  This statement is a revision of SFAS No. 123, “Accounting for Stock-Based Compensation”, and supersedes APB Opinion No. 25, “Accounting for Stock Issued to Employees.”  SFAS 123R requires all share-based payments to employees, including grants of employee stock options, to be recognized in the financial statements based on their fair values.  The provisions of this statement are effective for interim or annual periods beginning after June 15, 2005.  The Company is currently evaluating the provisions of this revision to determine the impact on its consolidated financial statements.  It is, however, expected to have a negative effect on consolidated net income.

 

In March 2005 the FASB issued Interpretation No. 47, “Accounting for Conditional Asset Retirement Obligations” (FIN 47). FIN 47 requires an entity to recognize a liability for the fair value of a legal obligation to perform asset-retirement activities that are conditional on a future event if the amount can be reasonably estimated. The Interpretation provides guidance to evaluate whether fair value is reasonably estimable.  FIN 47 is effective no later than the end of fiscal years ending after December 15, 2005. FIN 47 is not expected to have a material impact on the Company’s financial position or results of operations.

 

4.              Variable Interest Entities

 

In January 29, 1999, PSB purchased 1,600,000 shares of Series A Convertible Preferred Stock, $.01 par value per share, (the “Preferred Stock”) of McGuire Performance Solutions, Inc. (“MPS”).  PSB purchased the shares for $.78125 per share for a total cost of $1,250,000.  In 2000, MPS changed its name to Iron Bridge Holdings, Inc. (“Iron Bridge”) and formed two new subsidiaries, one adopting the MPS name and the other, Avanti Capital, Inc, a registered investment advisory company.  During the year ended December 31, 2001, PSB purchased an additional 375,000 shares and 500,000 shares, respectively, of the Preferred Stock for $1.00 per share for a total cost $875,000.  On December 27, 2002, the founding shareholders of Iron Bridge purchased from PSB 314,350 shares of preferred stock for $0.88 per share, which was the average cost per share paid by PSB for these shares.  PSB currently owns 87.7% of the Preferred Stock, which represents a 49.9% fully diluted ownership interest in Iron Bridge.  The Iron Bridge subsidiary, MPS, is a nationally recognized firm delivering cost-effective solutions for high performance total balance sheet management to banks, thrifts, credit unions and other financial institutions.

 

7

 

In the first quarter of 2004 PSB adopted FASB interpretation No. 46(R) Consolidation of Variable Interest Entities (“FIN 46(R)”).  In applying FIN 46(R), it was determined that PSB, as the largest shareholder and virtually Iron Bridge’s only financial resource, would absorb a majority of Iron Bridge’s expected losses.  Therefore, it was PSB’s conclusion that in accordance with FIN 46(R), Iron Bridge is a variable interest entity and thus PSB was required to consolidate the financial results of Iron Bridge during the first quarter of 2004.

 

The consolidation of Iron Bridge resulted in PSB recording goodwill of $1.4 million and minority interest of $277,000.  PSB accounts for goodwill in accordance with SFAS 142, “Goodwill and Other Intangible Assets”.  Goodwill is now subject to impairment testing at least annually to determine whether write-downs of the recorded balances are necessary.  PSB tests for impairment based on the goodwill maintained at each defined reporting unit.  A fair value is determined for each reporting unit based on at least one of three various market valuation methodologies.  If the fair value of the reporting unit exceeds its then book value, no write-down of recorded goodwill is necessary.  If the fair value of a reporting unit is less, an expense may be required on PSB’s books to write down the related goodwill to the proper carrying value.  As of March 31, 2005, PSB completed its impairment testing, and determined that no impairment write-off was necessary.  No assurance can be given that future goodwill impairment tests will not result in a charge to earnings.

 

5.              Reclassifications

 

Certain 2004 amounts have been reclassified to conform to the 2005 presentation.

 

8

 

Item 2.           Management’s Discussion and Analysis of the Financial Condition and Results of Operations.

 

RESULTS OF OPERATIONS

 

General

 

PSB’s results of operations depend primarily on the Bank’s net interest income, which is the difference between interest income on interest-earning assets, and interest expense on its interest-bearing liabilities.  The Bank’s interest-earning assets consist primarily of loans receivable and investment securities, while its interest-bearing liabilities consist primarily of deposits and borrowings.  The Bank’s net income is also affected by its provision for loan losses and its level of non-interest income as well as by its non-interest expense, such as salary, employee benefits, occupancy costs, and charges relating to non-performing and other classified assets.

 

Impact of Inflation

 

The financial statements and related financial data presented herein have been prepared in accordance with generally accepted accounting principles that require the measurement of financial position and operating results in terms of historical dollars without considering changes in the relative purchasing power of money over time due to inflation.  The primary impact of inflation on the operation of the Bank is reflected in increased operating costs.  Unlike most industrial companies, virtually all of the assets and liabilities of a financial institution are monetary in nature.  As a result, interest rates have a more significant impact on a financial institution’s performance than the effects of inflation.  Interest rates do not necessarily move in the same direction or in the same magnitude as the price of goods and services.

 

Critical Accounting Policies, Judgments, and Estimates

 

The accounting and reporting policies of the Company and its subsidiaries conform with accounting principles generally accepted in the United States of America (US GAAP) applicable to the financial services industry.  All significant inter-company transactions are eliminated in consolidation and certain reclassifications are made when necessary to conform the previous year’s financial statements to the current year’s presentation.  In preparing the consolidated financial statements, management is required to make estimates and assumptions that affect the reported amount of assets and liabilities as of the dates of the balance sheets and revenues and expenditures for the periods presented.  Therefore, actual results could differ significantly from those estimates.

 

Allowance for Loan Losses-PSB uses the reserve method of accounting for loan losses.  The balance in the allowance for loan losses is determined based on management’s review and evaluation of the loan portfolio in relation to past loss experience, the size and composition of the portfolio, current economic events and conditions, and other pertinent factors, including management’s assumptions as to future delinquencies, recoveries, and losses.  Increases to the allowance for loan losses are made by charges to the provision for loan losses.  Recoveries of previously charged-off amounts are credited to the allowance for loan losses.

 

While management considers the allowance for loan losses to be adequate based on information currently available, future additions to the allowance may be necessary due to changes in economic conditions or management’s assumptions as to future delinquencies, recoveries and losses and management’s intent with regard to the disposition of loans.  In addition, the regulators, as an integral part of their examination process, periodically review the Bank’s allowance for loan losses.  The banking regulators may require the Bank to recognize additions to the allowance for loan losses based on their judgments about information available to them at the time of their examination.

 

Income Taxes—Under the liability method, deferred tax assets and liabilities are determined based on the difference between the financial statement and tax bases of assets and liabilities.  Based upon the review of all components of the deferred tax assets and liabilities, future taxable income of PSB and regulatory guidelines, management has determined that no allowance is deemed necessary at December 31, 2004.  However, circumstances could arise that would require management to revisit the need for such an allowance.

 

PSB accounts for goodwill in accordance with SFAS 142, “Goodwill and Other Intangible Assets”.  Goodwill is now subject to impairment testing at least annually to determine whether write-downs of the recorded balances are necessary.  PSB tests for impairment based on the goodwill maintained at each defined reporting unit.  A fair value is determined for each reporting unit based on at least one of three various market valuation methodologies.  If the fair value of the reporting unit exceeds its then book value, no write-down of recorded goodwill is necessary.  If the fair value of a reporting unit is less, an expense may be required on PSB’s books to write down the related goodwill to the proper carrying value.  As of December 31, 2004, PSB completed its transitional testing, and determined that no impairment write-off was necessary.  No assurance can be given that future goodwill impairment tests will not result in a charge of earnings.

 

Performance Overview

 

PSB’s net income for the first quarter of 2005 was $571,000 or $0.12 and $0.10 on a basic and diluted per share basis, respectively, compared to net income of $608,000 or $0.14 per basic and diluted share for 2004.  The results for the first quarter of 2005 were affected primarily by rising interest rates that decreased the yield on loans and mortgage-backed securities and increased the cost of funds.  Additionally, increases in non-interest expense in the areas of salaries and employee benefits, professional fees and other operating expenses related to the opening of a new branch in the Chinatown section of Philadelphia had a dampening effect on net income.

 

9

 

The Bank’s net interest margin decreased by 33 basis points from 4.03% for the three months ended March 31, 2004 to 3.70% for the same period in 2005.

 

Net Income

 

PSB’s net income totaled $571,000 and $608,000 for the three months ended March 31, 2005 and March 31, 2004, respectively.  PSB’s basic and diluted earnings per share for the three months ended March 31, 2005 were $0.12 and $.0.10 respectively compared to $0.14 and $0.14 for the three months ended March 31, 2004.  The results for the first quarter of 2005 were effected primarily by rising interest rates overall that decreased the yield on loans and mortgage-backed securities and increased the cost of funds particularly on the Bank’s certificates of deposit resulting in a lower interest rate spread.  Increases in non-interest expense in the areas of salaries and employee benefits, professional fess and other operating expenses related to the opening of a new branch in the Chinatown section of Philadelphia also negatively effected net income.

 

Management continues to pursue lending strategies to enhance the growth of consumer home equity, and home equity lines of credit.  The commercial real estate and construction loan departments are seeking to currently become more competitive in the uncertain interest rate market while trying to minimize additional credit risk.

 

Net Interest Income and Average Balances

 

Net interest income is a key component of PSB’s profitability and is managed in coordination with PSB’s interest rate sensitivity position.  Net interest income for the first quarter of 2005 increased 6.82% from $4.4 million in the first quarter of 2004 compared to $4.7 million for the first quarter of 2005.  The increase in net interest income is related to a significant increase in loan volume and interest-earning deposits with banks.

 

Overall, average total interest-earning assets provided a yield of 5.66% for the three months ended March 31, 2005, compared to 5.67% for the same period in 2004.  Average total loans were $356.0 million for the three months ended March 31, 2005, and provided a yield of 6.79% for the period, compared to average total loans of $296.0 million for the three months ended March 31, 2004, which provided a yield of 7.06%.

 

Average total interest-bearing liabilities increased from $385.5 million to $450.6 million or 16.89% for the three months ended March 31, 2005 compared to the three-month period ended March 31, 2004.  The average rate on total interest-bearing liabilities increased 34 basis points from 1.87% for the three months ended March 31, 2004 to 2.21% for the three months ended March 31, 2005.  The increase in interest-bearing liabilities resulted entirely from an increase in certificates of deposit.  The increase in the overall rate paid on interest-bearing liabilities was due to PSB’s decision to increase deposits by offering more competitive interest rates on its certificates of deposit.

 

Although a majority of these new funds were deployed into lending opportunities, because of competitive conditions, the yield on our loan portfolio fell by 27 basis point.  The combination of our increased funding costs and reduced loan yield resulted in the 33 basis point compression of our net interest margin.

 

Provision for Loan Losses

 

The provision for loan losses represents the charge against earnings that is required to fund the allowance for loan losses.  PSB determines the level of the allowance for loan losses through a regular review of the loan portfolio.  Management’s evaluation of the adequacy of the allowance for loan losses is based upon an examination of the portfolio as well as such factors as declining trends, the volume of loan concentrations, adverse situations that may affect the borrower’s ability to pay, prior loss experience within the portfolio, current economic conditions and the results of the most recent regulatory examinations.  PSB made a provision of $135,000 for loan losses during the three months ended March 31, 2005 and made no provision for the three months ended March 31, 2004.  Additionally, PSB had charge-offs against the allowance for loan losses of $132,000 and $64,000 and recoveries of $41,000 and $54,000 during the three month periods ended March 31, 2005 and 2004, respectively.

 

10

 

Average Balance Sheets and Rate/Yield Analysis

 

Net interest income is affected by changes in both average interest rates and average volumes of interest-earning assets and interest-bearing liabilities.  The following tables present the average daily balances of assets, liabilities, and shareholders’ equity and the respective interest earned or paid on interest-earning assets and interest-bearing liabilities, as well as average rates for the period indicated:

 

		Three Months Ended March 31,
		2005								2004
		Average Balance			Interest			Yield/ Rate		Average Balance			Interest			Yield/ Rate
		(Dollars in thousands)
ASSETS
Interest-earning assets:
Interest-earning deposits		$	58,473		$	309		2.11	%	$	43,039		$	90		0.84	%
Investment securities		58,260			468			3.21		54,103			336			2.48
Mortgage-backed securities		34,891			366			4.20		46,896			582			4.96
Loans		356,022			6,045			6.79		295,995			5,226			7.06
Total interest-earning assets		507,646			$	7,188		5.66	%	440,033			$	6,234		5.67	%
Noninterest-earning assets		27,667								40,341
Total assets		$	535,313							$	480,374
LIABILITIES
Interest-bearing liabilities:
Now checking accounts		$	25,900		$	34		0.53	%	$	26,602		$	33		0.50	%
Money market accounts		54,258			162			1.19		68,371			215			1.26
Savings deposits		87,390			239			1.09		91,019			269			1.18
Certificates		281,970			2,054			2.91		198,442			1,280			2.58
Total deposits		449,518			2,489			1.11	%	384,434			1,797			0.93
Borrowed money		1,115			6			2.15		1,101			6			2.18
Total interest-bearing liabilities		450,633			$	2,495		2.21	%	385,535			$	1,803		1.87	%
Non-interest-bearing liabilities		32,642								46,983
Total liabilities		483,275								432,518
Shareholders’ equity		52,038								47,856
Total liabilities and shareholders’ equity		$	535,313							$	480,374
Net interest income					$	4,693							$	4,431
Interest rate spread								3.45	%							3.80	%
Net yield on interest-earning assets								3.70	%							4.03	%
Ratio of interest-earning assets to  interest-bearing liabilities								1.13	x							1.14	x

 

11

 

Allowance for Loan Losses

 

The allowance for loan losses is established through a provision for loan losses charged to expense.  Loans are charged against the allowance for possible loan losses when management believes that the collectibility of the principal is unlikely.  The allowance is an amount that management believes will be adequate to absorb loan losses on existing loans that may become uncollectible based on evaluations of the collectibility of loans and prior loan loss experience.  The evaluations take into consideration such factors as changes in the nature and volume of the loan portfolio, overall portfolio quality, review of specific problem loans and current economic conditions that may affect the borrower’s ability to pay.  These estimates are particularly susceptible to changes that may result in a material adjustment to the allowance for loan losses.  As adjustments become identified, they are reported in earnings for the period in which they become known.  Management believes that it makes an informed judgment based upon available information.

 

It is the objective of PSB’s evaluation process to establish the following components of the allowance for loan losses: a specific allocation for certain identified loans, a general allocation for pools of loans based on risk rating, and a general allocation for inherent loan portfolio losses.  Management performs current evaluations of its criticized and classified loan portfolios and assigns specific reserves that reflect the current risk to PSB.  A general reserve allocation is applied for pools of loans based on risk rating for all loans not specifically reserved for as described previously.  The methodology used to calculate the provision is consistent with the guidance provided in SEC Staff Accounting Bulletin No. 102.  Management reviews the adequacy of its allowance on an ongoing basis and will provide, as management may deem necessary, for additional provisions in future periods.

 

PSB accounts for its impaired loans in accordance with SFAS No. 114, “Accounting by Creditors for Impairment of a Loan”, as amended by SFAS No. 118, “Accounting by Creditors for Impairment of a Loan - - Income Recognition and Disclosures”.  This standard requires that a creditor measure impairment based on the present value of expected future cash flow discounted at the loan’s effective interest rate, except that, as a practical expedient, a creditor may measure impairment based on a loan’s observable market price, or the fair value of the collateral if the loan is collateral dependent.  Regardless of the measurement method, a creditor must measure impairment based on the fair value of the collateral when the creditor determines that foreclosure is probable.

 

Non-interest Income

 

Non-interest income consists of service charges, rental income, other income, and gain on the sale of loans and securities.  Non-interest income for the Bank increased $459,000 or 97.00% to $932,000 for the three months ended March 31, 2005, from $473,000 for the same period in the prior year.  The significant increase in non-interest income in the first quarter of 2005 was almost exclusively attributable to the gain on the sale of investment securities held by PSA Service Corp.

 

The following table provides a summary of non-interest income, by category of income, for the three months ended March 31, 2005, and 2004 (in thousands):

 

		Three months ended March 31,
		2005			2004
		(In thousands)
Service fees on deposit accounts		$	322		$	276
Loss on sale of real estate owned		(38		)	(2		)
Banked owned life insurance		115			76
Gain on sale of investments		420			—
Other		113			123
Total		$	932		$	473

 

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Non-interest Expense

 

Non-interest expense for the Bank increased $618,000 or 14.63%, to $4.7 million for the three months ended March 31, 2005, from $4.1 million for the same period in the prior year.  The primary reasons for the increase in non-interest expense were increases in salaries and employee benefits and occupancy and equipment expense and other operating expenses related to expenditures for the Bank’s new branch in the Chinatown section of Philadelphia.

 

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The following table provides a summary of non-interest expense, by category of expense, for the three months ended March 31, 2005, and 2004:

 

		Three months ended March 31,
		2005			2004
		(In thousands)
Salaries and employment benefits		$	2,448		$	2,221
Rent and occupancy expense		648			564
Professional fees		300			160
FDIC insurance expense		30			48
General insurance		81			82
Advertising		47			34
Data processing fees		100			107
Director fees		68			69
Other operating expense		986			805
Total		$	4,708		$	4,090

 

Provision for Income Taxes

 

Income tax provisions for the three month periods ended March 31, 2005 and 2004 were $246,000 and $238,000, respectively.

 

Liquidity

 

The maintenance of adequate liquidity and the mitigation of interest rate risk are integral to the management of PSB’s balance sheet.  Liquidity represents the ability to meet potential cash outflows resulting from deposit customers who need to withdraw funds or borrowers who need available credit.  PSB’s liquidity is quantified through the use of a standard liquidity ratio of liquid assets (cash and cash equivalents, investment securities available-for-sale, mortgage-backed securities available-for-sale and Federal Home Loan Bank stock) to short-term borrowings plus deposits.

 

PSB’s asset/liability management committee monitors the level of short-term assets and liabilities to maintain an appropriate balance between liquidity, risk, and return.  Liquidity is derived from various sources which include increases in core deposits, sales of certificates of deposits, the amortization, and prepayment of loans and mortgage-backed securities, and maturities of investment securities and other short-term investments.  The liquidity position of PSB is also strengthened by a $201.7 million credit facility with the Federal Home Loan Bank (“FHLB”).  Advances are secured by FHLB stock and qualifying mortgage loans.  PSB had no outstanding borrowings from the FHLB as of March 31, 2005.

 

Maximizing cash flow over time is crucial to the maintenance of adequate liquidity.  PSB’s total cash flow is a product of its operating activities, investing activities and financing activities.  During the three months ended March 31, 2005, net cash provided by operating activities was $4.3 million, compared to net cash used in operating activities of $332,000 for the same period of 2004.  During the three months ended March 31, 2005, net cash provided by investing activities was $3.5 million, compared to net cash provided by investing activities of $5.1 million for the same period of 2004.  Financing activities provided net cash of $11.3 million during the three months ended March 31, 2005, compared to $20.0 million in net cash provided by financing activities for the same period of 2004.  The net result of these items was an $11.3 million increase in cash and cash equivalents for the three months ended March 31, 2005, compared to a $24.8 million increase in cash and cash equivalents for the same period of 2004.

 

Interest Rate Sensitivity

 

Interest rate sensitivity focuses on the impact of fluctuating interest rates and the re-pricing characteristics of rate sensitive assets and liabilities on net interest income.  Interest rate sensitivity is closely related to liquidity since each is directly affected by the maturity of assets and liabilities.  Rate sensitivity also deals with exposure to fluctuations in interest rates and its effect on net interest income.  The primary function of PSB’s interest rate sensitivity management is to reduce exposure to interest rate risk through an appropriate balance between interest-earning assets and interest-bearing liabilities.  The goal is to minimize fluctuations in the net interest margin of PSB due to general changes in interest rates.

 

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The blending of fixed and floating-rate loans and investments to match the re-pricing and maturity characteristics of the various funding sources is a continuous process in an attempt to minimize any significant fluctuations in net interest income.  The composition of the balance sheet is designed to minimize any significant fluctuation in net interest income and to maximize liquidity.  Management believes that the accessibility to FHLB borrowings will provide the flexibility to assist in keeping fluctuations in net interest income under control and to maintain an adequate liquidity position.

 

Capital Adequacy

 

PSB is required to maintain minimum ratios of Tier I and total capital to total “risk weighted” assets and a minimum Tier I leverage ratio, as defined by the banking regulators.  At March 31, 2005, PSB was required to have a minimum Tier I and total capital ratios of 6.0% and 10.0%, respectively, and a minimum Tier I leverage ratio of 5.0%.  PSB’s actual Tier I and total capital ratios at March 31, 2005, were 14.59% and 15.49%, respectively, and PSB’s Tier I leverage ratio was 9.73%.  These ratios exceed the requirements for classification as a “well capitalized” institution, the industry’s highest capital category.

 

On March 31, 2005, PSB was in compliance with regulatory capital requirements as shown in the following table:

 

		Well Capitalized		At March 31, 2005						At December 31, 2004
		Ratios		PSB			Bank			PSB			Bank
		(Dollars in thousands)
Tier I Capital				$	51,940		$	40,768		$	51,207		$	39,938
Tier II Capital				3,201			3,201			3,157			3,157
Total Qualifying Capital				$	55,141		$	43,969		$	54,364		$	43,095
Risk Adjusted Total Assets				$	355,990		$	352,487		$	351,023		$	349,124
Tier I Risk Based Capital Ratio		6.00	%	14.59		%	11.57		%	14.59		%	11.44		%
Total Risk Based Capital Ratio		10.00	%	15.49		%	12.47		%	15.49		%	12.34		%
Leverage Ratio		5.00	%	9.73		%	7.67		%	9.53		%	7.48		%
Average Assets				$	533,907		$	531,509		$	537,232		$	534,026

 

FINANCIAL CONDITION

 

General

 

PSB’s total assets increased $4.4 million from $533.1 at December 31, 2004, to $537.5 million, as of March 31, 2005 an increase of 0.82%.  Net loans outstanding decreased by $775,000 or 0.22%, and cash and cash equivalents grew by 20.48% to $65.9 million during the three months of 2005.  The increase in loans was funded by an increase in deposits primarily through increases in certificates of deposit.  Total deposits equaled $479.3 million, an increase of $4.0 million or 0.84% during 2005.  At March 31, 2005, PSB’s net loan portfolio totaled $352.2 million compared to $353.0 million at December 31, 2004.

 

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The following tables summarize the loan portfolio of PSB by loan category and amount at March 31, 2005, compared to December 31, 2004, respectively.  From time to time, TransNational Mortgage Corp., a subsidiary of PSB, has originated and sold mortgage loans to first party investors within PSB’s financial reporting periods.  Similarly, student loans are frequently originated and sold within PSB’s financial reporting periods.  Such mortgage and student loans are not reflected in the financial tables and financial statements pertaining to a particular period to the extent that such loans were sold prior to any period end.  The loan categories correspond to PSB’s general classifications (Dollars in thousands):

 

		At March 31, 2005					At December 31, 2004
		Amount			Percent		Amount			Percent		Variance			% Change
Real Estate Loans(1):
One-to-four family(2)		$	136,770		38.47	%	$	140,459		39.43	%	$	(3,689	)	(2.63	)%
Construction loans		31,223			8.78	%	21,854			6.13	%	9,369			42.87	%
Five or more family residential		17,586			4.95	%	18,888			5.30	%	(1,302		)	(6.89	)%
Nonresidential		127,286			35.81	%	132,066			37.07	%	(4,780		)	(3.62	)%
Commercial loans		20,819			5.86	%	21,439			6.02	%	(620		)	(2.89	)%
Consumer loans		21,801			6.13	%	21,516			6.04	%	285			1.32	%
Total loans		$	355,485		100.00	%	$	356,222		100.00	%	$	(737	)	(0.21	)%
Less:
Unearned fees and discounts		$	74				$	80
Allowance for loan losses		3,201					3,157
Net Loans		$	352,210				352,985

 

(1)               Real Estate Loans represent loans secured by real estate

 

(2)               Does not include loans held for sale

 

The following table summarizes loan portfolio of PSB by loan type and amount at March 31, 2005, and December 31, 2005.

 

		At March 31 2005					At December 31, 2004
		Amount			Percent		Amount			Percent
Fixed rates		$	248,417		69.88	%	$	252,659		70.93	%
Adjustable rate		107,068			30.12	%	103,563			29.07	%
Total loans		$	355,485		100.00	%	$	356,222		100.00	%

 

Total investment securities decreased $4.5 million, or 4.94%, to $91.1 million at March 31, 2005, from $95.6 million at December 31, 2004.

 

The Bank’s business strategies have been directed to increasing the attractiveness of our core deposit products.  As we continue to execute this strategy we expect that it will provide the Bank with greater flexibility to react to changes in the interest rate environment

 

Asset Quality

 

Non-Performing Assets

 

PSB’s level of non-performing assets decreased $143,000 or 4.87% to $3.9 million at March 31, 2005, from $4.1 million at December 31, 2004.  As a matter of policy, the accrual of loan interest is discontinued if management believes that, after considering economic and business conditions and collection efforts, the borrower’s financial condition is such that collection of interest becomes doubtful.  This is normally done when a loan reaches 90 days delinquent.  At this time, all accrued but unpaid interest is reversed.  There are occasional exceptions if the loans are in the process of collection and the loan is fully secured.

 

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