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EX-32 - EXHIBIT 32 - FLATBUSH FEDERAL BANCORP INCex32.htm
10-K - FORM 10-K - FLATBUSH FEDERAL BANCORP INCform10k-106677_fltb.htm
EX-21 - EXHIBIT 21 - FLATBUSH FEDERAL BANCORP INCex21.htm
EX-23 - EXHIBIT 23 - FLATBUSH FEDERAL BANCORP INCex23.htm
EX-31.1 - EXHIBIT 31.1 - FLATBUSH FEDERAL BANCORP INCex31_1.htm
EX-31.2 - EXHIBIT 31.2 - FLATBUSH FEDERAL BANCORP INCex31_2.htm

 
 
 
EXHIBIT 13

ANNUAL REPORT TO STOCKHOLDERS
 
 

 
 

 
 
Selected Consolidated Financial Information And Other Data

The following information is derived from the audited consolidated financial statements of Flatbush Federal Bancorp, Inc.  For additional information about Flatbush Federal Bancorp, Inc. and Flatbush Federal Savings and Loan Association, a more detailed presentation is made in the “Management’s Discussion and Analysis,” the Consolidated Financial Statements of Flatbush Federal Bancorp, Inc. and the related notes included in this Annual Report.

Selected Financial Condition Data:
  At December 31,  
(In thousands)
 
2009
   
2008
 
             
Total assets
  $ 155,979     $ 149,651  
Loans receivable, net (1)
    110,988       98,241  
Mortgage-backed securities (2)
    28,340       32,926  
Cash and cash equivalents
    5,458       7,678  
Deposits
    115,168       101,676  
Borrowings
    22,851       28,593  
Stockholders’ equity
    15,233       14,634  

___________________________________
(1) Net of allowance for loan losses and deferred loan fees.
(2) Mortgage-backed securities are classified as held to maturity.

Selected Operating Data:
 
For the Years Ended
December 31,
 
(In thousands, except per share data)
 
2009
   
2008
 
             
Total interest income
  $ 8,250     $ 7,954  
Total interest expense
    3,255       3,617  
Net interest income
    4,995       4,337  
Provision for  loan losses
    649       -  
                 
Non-interest income
    261       327  
Non-interest expense
    4,280       4,448  
Income taxes
    132       67  
Net income
  $ 195     $ 149  
                 
Net income per common share – basic and diluted
  $ 0.07     $ 0.06  
 
 
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Selected Financial Ratios and Other Data:
           
   
At or for the Years
 
   
Ended December 31,
 
   
2009
   
2008
 
Performance Ratios:
           
             
Return on average assets (1)
    0.13 %     0.10 %
Return on average equity
    1.29 %     0.96 %
Net yield on average interest-earning assets
    5.73 %     5.93 %
Net yield on average interest-bearing liabilities
    2.47 %     2.95 %
Net interest rate spread (2)
    3.26 %     2.98 %
Net interest margin (3)
    3.47 %     3.23 %
Average interest-earning assets to average interest-
               
bearing liabilities
    1.09 x     1.09 x
                 
Capital Ratios:
               
Average stockholders equity to average assets
    9.72 %     10.72 %
Tier 1 core ratio (to adjusted total assets)
    10.42 %     10.86 %
Total risk-based capital ratio
    18.66 %     20.45 %
                 
Asset Quality Ratios:
               
Allowance for loan losses to gross loans outstanding
    0.75 %     0.19 %
Non-performing loans to total assets
    2.57 %     0.55 %
                 
Other Data:
               
Number of full-service offices
    3       3  

___________________________________
(1) Ratio of net income to average total assets.
(2) The difference between the yield on average interest-earning assets and the cost of average interest-bearing liabilities.
(3) Net interest income divided by average interest-earning assets.

 
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Management’s Discussion and Analysis of Financial Condition
and Results of Operation

Flatbush Federal Bancorp, Inc. (the “Company”) is a federal corporation, which was organized in 2003 as part of the mutual holding company reorganization of Flatbush Federal Savings & Loan Association.  The Company’s principal asset is its investment in Flatbush Federal Savings & Loan Association.  The Company is a majority owned subsidiary of Flatbush Federal Bancorp, MHC, a federally chartered mutual holding company. At December 31, 2009, 1,484,208 shares of the Company’s common stock were held by its mutual holding company parent, and 1,252,699 shares were held by shareholders other than its mutual holding company parent.  At December 31, 2009, Flatbush Federal Bancorp, Inc. had consolidated assets of $156.0 million, deposits of $115.2 million and stockholders’ equity of $15.2 million.

General

The results of operations depend primarily on the Company’s net interest income.  Net interest income is the difference between the interest income earned on interest-earning assets, consisting primarily of loans, investment securities, mortgage-backed securities and other interest-earning assets (primarily cash and cash equivalents), and the interest paid on interest-bearing liabilities, consisting of NOW accounts, passbook and club accounts, savings accounts, time deposits and borrowings. The results of operations also are affected by provisions for loan losses, non-interest income and non-interest expense.  Non-interest income currently consists primarily of fees and service charges, increases to the cash surrender value of bank owned life insurance and miscellaneous other income (consisting of fees for minimum balance requirements, dormant deposit accounts, fees charged to third parties for document requests and sale of money orders and travelers checks).  Non-interest expense currently consists primarily of salaries and employee benefits, equipment, occupancy costs, data processing, deposit insurance premiums, other insurance premiums, and other operating expenses (consisting of legal fees, director compensation, postage, stationery, professional fees and other operational expenses).  The Company’s results of operations also may be affected significantly by general and local economic and competitive conditions, changes in market interest rates, governmental policies and actions of regulatory authorities.

Critical Accounting Policies

The Company considers accounting policies involving significant judgments and assumptions by management that have, or could have, a material impact on the carrying value of certain assets or on income to be critical accounting policies.  The Company considers allowance for loan losses, benefit plan assumptions and deferred income taxes to be critical accounting policies.

Allowance for Loan Losses. The allowance for loan losses is the estimated amount considered necessary to cover credit losses inherent in the loan portfolio at the balance sheet date.  The allowance is established through the provision for loan losses which is charged against income.  In determining the allowance for loan losses, management makes significant estimates and has identified this policy as one of the most critical for the Company.

Management performs a quarterly evaluation of the adequacy of the allowance for loan losses.  Consideration is given to a variety of factors in establishing this estimate including, but not limited to, current economic conditions, delinquency statistics, geographic and industry concentrations, the adequacy of the underlying collateral, the financial strength of the borrower, results of internal loan reviews and other relevant factors.  This evaluation is inherently subjective as it requires material estimates that may be susceptible to significant change.

 
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The analysis has two components, specific and general allocations.  Specific allocations are made for loans that are determined to be impaired.  Impairment is measured by determining the present value of expected future cash flows or, for collateral-dependent loans, the fair value of the collateral adjusted for market conditions and selling expenses.  The general allocation is determined by segregating the remaining loans by type of loan, risk weighting (if applicable) and payment history.  The Company also analyzes historical loss experience, delinquency trends, general economic conditions and geographic and industry concentrations.  This analysis establishes factors that are applied to the loan groups to determine the amount of the general allowance.  Actual loan losses may be significantly more than the loan loss allowance established which could have a material negative effect on the Company’s financial results.

Pension Plan Assumptions. Our pension plan costs are calculated using actuarial concepts, as required under accounting for defined pension benefit and other post retirement plans. Pension expense and the determination of our projected pension liability are based upon two critical assumptions; the discount rate and the expected return on plan assets. We evaluate each of these critical assumptions annually. Other assumptions impact the determination of pension expense and the projected liability including the primary employee demographics, such as retirement patterns, employee turnover, mortality rates, and estimated employer compensation increases. These factors, along with the critical assumptions, are carefully reviewed by management each year in consultation with our pension plan consultants and actuaries. Further information about our pension plan assumptions, the plan’s funded status, and other plan information is included in Note 11 to Consolidated Financial Statements.

Deferred Income Taxes.  The Company uses the asset and liability method of accounting for income taxes.  Under this method, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases.  If current available information raises doubt as to the realization of the deferred tax assets, a valuation allowance is established.  Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled.  The Company exercises significant judgment in evaluating the amount and timing of recognition of the resulting tax liabilities and assets, including projections of future taxable income.  These judgments are reviewed on a continual basis as regulatory and business factors change.
 
Comparison of Financial Condition at December 31, 2009 and 2008

The Company’s total assets at December 31, 2009 were $156.0 million compared to $149.7 million at December 31, 2008, an increase of $6.3 million, or 4.2%. Loans receivable increased $12.8 million, or 13.0%, to $111.0 million at December 31, 2009 from $98.2 million at December 31, 2008. As a partial offset, mortgage-backed securities decreased $4.6 million, or 14.0%, to $28.3 million at December 31, 2009 from $32.9 million as of December 31, 2008. Cash and cash equivalents decreased $2.2 million, or 28.6%, to $5.5 million at December 31, 2009 from $7.7 million at December 31, 2008.

Total deposits increased $13.5 million, or 13.3%, to $115.2 million at December 31, 2009 from $101.7 million at December 31, 2008.  Borrowings from the Federal Home Loan Bank of New York decreased $5.7 million, or 19.9%, to $22.9 million at December 31, 2009 from $28.6 million at December 31, 2008.  The Company borrows from the Federal Home Loan Bank of New York to fund loan commitments, securities purchases and savings withdrawals.

Total stockholders’ equity increased $599,000, or 4.1%, to $15.2 million at December 31, 2009 from $14.6 million at December 31, 2008.  The increase to stockholders’ equity reflects net income of $195,000, a reduction of $306,000 of accumulated other comprehensive loss, amortization of $19,000 of unearned ESOP shares, amortization of $41,000 of restricted stock awards for the Company’s Stock-Based Incentive Program (the “Plan”) and amortization of $42,000 of stock option awards. This was partially offset by $4,000 of repurchases of shares under the stock repurchase program.

 
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On June 30, 2005, the Company approved a stock repurchase program and authorized the repurchase of up to 50,000 shares of the Company’s outstanding shares of common stock. This repurchase program was completed on December 7, 2007 with 50,000 shares repurchased.  On August 30, 2007, the Company approved a second stock repurchase program and authorized the repurchase of up to an additional 50,000 shares of the Company’s outstanding shares of common stock.  Stock repurchases will be made from time to time and may be effected through open market purchases, block trades and in privately negotiated transactions.  Repurchased stock will be held as treasury stock and will be available for general corporate purposes.  As of December 31, 2009, a total of 12,750 shares have been acquired at a weighted average price of $4.44 per share pursuant to the second stock repurchase program.

Comparison of Operating Results for the Years Ended December 31, 2009 and 2008

General.  Net income increased by $46,000, or 30.9%, to $195,000 for the year ended December 31, 2009 from $149,000 for the year ended December 31, 2008. Lower cost of deposits and borrowings, partially offset by lower yield on interest earning assets, caused the Company’s net interest margin to increase by 24 basis points from 3.23% in 2008 to 3.47% in 2009.

Interest Income.  Interest income increased by $296,000 or 3.7%, to $8.25 million for the year ended December 31, 2009 from $7.95 million for the year ended December 31, 2008.  The increase in interest income resulted from increases of $273,000 from loans receivable and $319,000 from mortgage-backed securities, partially offset by decreases of $191,000 from investments and $105,000 from other interest earning assets.  More generally, the increase in interest income was attributable to an increase of $9.9 million in the average balance of interest earning assets to $144.0 million for the year ended December 31, 2009 from $134.1 million for the year ended December 31, 2008 and a 48 basis point decrease in the average cost of interest-bearing liabilities, partially offset by a decrease of 20 basis points in the average yield on interest earning assets.
 
Interest income on loans receivable increased $273,000 or 4.5%, to $6.4 million for the year ended December 31, 2009 from $6.1 million for the comparable period in 2008.  The increase resulted from a higher average balance of $104.5 million for the year ended December 31, 2009, from an average balance of $97.3 million for the year ended December 31, 2008, partially offset by a lower average yield of 6.13% for the year ended December 31, 2009 from an average yield of 6.30% for the year ended December 31, 2008.

Interest income from mortgage-backed securities increased $319,000, or 22.0%, to $1.8 million for the year ended December 31, 2009 from $1.5 million for the year ended December 31, 2008.  This increase reflects a $4.1 million increase in the average balance of mortgage-backed securities to $31.2 million for the year ended December 31, 2009 from $27.1 million for the same period in 2008 and an increase in the average yield of 32 basis points to 5.68% for the year ended December 31, 2009 from 5.36% for the year ended December 31, 2008.

Interest income from investment securities decreased $191,000, or 73.5%, to $69,000 for the year ended December 31, 2009 from $260,000 for the year ended December 31, 2008.  The decrease resulted from a decrease of $2.5 million in the average balance in investment securities to $1.3 million for the year ended December 31, 2009 from an average balance of $3.8 million for the year ended December 31, 2008 and a decrease of 161 basis points to 5.21% in the average yield for the year ended December 31, 2009 from an average yield of 6.82 for the year ended December 31, 2008.

 
13-5

 
 
Interest income on other interest-earning assets, primarily interest-earning deposits and federal funds sold, decreased $105,000, or 93.8%, to $7,000 for the year ended December 31, 2009 from $112,000 for the year ended December 31, 2008.  The decrease was attributable to the 178 basis points decrease in average yield on other interest earning assets 0.10% for the year ended December 31, 2009 from 1.88% for the year ended December 31, 2008 and a decrease of $1.1 million in the average balance of interest earning deposits of $7.0 million for the year ended December 31, 2009 from $5.9 million for the year ended December 31, 2008.

Interest Expense.  Total interest expense decreased $362,000, or 10.0%, to $3.3 million for the year ended December 31, 2009 from $3.6 million for the year ended December 31, 2008.  The decrease in interest expense resulted from a decrease of 38 basis points in the average cost of deposits to 2.19% for the year ended December 31, 2009 from 2.57% for the year ended December 31, 2008, partially offset by a $11.1 million increase in the average balance of interest-bearing deposits to $107.7 million for the year ended December 31, 2009 from $96.6 million for the year ended December 31, 2008. In addition, the decrease in interest expense resulted from a decrease of $1.9 million in the average balance of Federal Home Loan Bank of New York advances to $24.0 million, with an average cost of 3.74%, for the year ended December 31, 2009, compared to $25.9 million and 4.36% for the year ended  December 31, 2008.  The average balance of certificates of deposit increased by $11.7 million to $73.3 million with an average cost of 3.06% in 2009, as compared with an average balance of $61.6 million with an average cost of 3.84% in 2008.  The average balance for savings and club accounts decreased by $523,000 to $34.0 million with an average cost of 0.34% in 2009, as compared to $34.6 million with an average cost of 0.34% in 2008.  The average balance of interest-bearing demand deposits decreased by $4,000 to $433,000 with an average cost of 0.35% in 2009 from $437,000 with an average cost of 0.35% in 2008.

Net Interest Income.  Net interest income increased $658,000, or 15.2%, to $5.0 million for 2009 from $4.3 million for 2008.  The Company’s interest rate spread increased by 28 basis points to 3.26% in 2009 from 2.98% in 2008.  Additionally, the Company’s interest margin increased by 24 basis points to 3.47% in 2009 from 3.23% in 2008.

Provision for Loan Losses.  The Company establishes provisions for loan losses, which are charged to operations, at a level necessary to absorb known and inherent losses that are both probable and reasonably estimable at the date of the financial statements.  In evaluating the level of the allowance for loan losses, management considers historical loss experience, the types of loans and the amount of loans in the loan portfolio, adverse situations that may affect the borrower’s ability to repay, the estimated value of any underlying collateral, peer group information, and prevailing economic conditions.  This evaluation is inherently subjective as it requires estimates that are susceptible to significant revision as more information becomes available or as future events change.  Based on its evaluation of these factors, management made a provision of $649,000 for the year ended December 31, 2009, as compared to a provision of $65 for the year ended December 31, 2008. The increase in provision for loan loss during the year was primarily due to one specific loan loss reserve of $463,000 on a $1.5 million construction loan participation. This loan was classified as substandard during the quarter ended December 31, 2009. The remaining $186,000 in the provision provided for an increased allowance for loan loss considered appropriate due to the increase of non-performing loans and to address inherent losses that are probable and estimable in the larger loan portfolio. For the same period during 2009, loans receivable increased $12.8 million, which includes an increase in one to four family residential loans of $1.8 million, an increase in multi-family residential loans of $2.4 million, an increase of $10.0 million in commercial real estate loans and a decrease in construction loans of $5.1 million.  Management used the same methodology and generally similar assumptions in assessing the allowance for both years.  The allowance

 
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for loan losses was $829,000, or 0.75% of loans outstanding at December 31, 2009, as compared with $191,000, or 0.19% of loans outstanding at December 31, 2008. Non-performing loans to total assets increased by 202 basis points to 2.57% on December 31, 2009, from 0.55% on December 31, 2008, and 83 basis points from 1.74% on September 30, 2009.  The level of the allowance is based on estimates, and the ultimate losses may vary from the estimates.

Management evaluates the allowance for loan losses on a quarterly basis and makes provisions for loan losses as necessary in order to maintain the adequacy of the allowance.  Although management believes that it uses the best information available to establish the allowance for loan losses, future additions to the allowance may be necessary based on estimates that are susceptible to change as a result of changes in economic conditions and other factors.  In addition, the Office of Thrift Supervision, as an integral part of its examination process, periodically reviews the allowance for loan losses.  The Office of Thrift Supervision may require the Company to make adjustments to the allowance based on its judgments about information available to it at the time of its examination.

Non-Interest Income.  Non-interest income decreased by $66,000, or 20.2%, to $261,000 in 2009 from $327,000 in 2008. This decrease was primarily due to decreases in fees and service charges of $22,000 and miscellaneous income of $45,000. In 2009, the Company experienced diminished activity in fee generating transactions, such as ATM and other transactions.
 
Non-Interest Expense.  Non-interest expense decreased by $168,000, or 3.8% to $4.3 million in 2009 from $4.4 million in 2008.  The decrease was caused primarily by decreases in salary and employee benefits to $1.9 million in 2009 from $2.3 million in 2008, director’s compensation to $179,000 in 2009 from $191,000 in 2008, net occupancy expense to $457,000 from $476,000 and other expense to $471,000 in 2009 from $492,000 in 2008; partially offset by increases in professional fees to $373,000 in 2009 from $308,000 in 2008 and federal deposit insurance premiums to $228,000 in 2009 from $26,000 in 2008. Salary and employee benefits decreased $384,000, or 16.6%, to $1.9 million for the year ended December 31, 2009, from $2.3 million for the same period in 2008. The decrease to salary and employee benefits was primarily due to a pre-tax curtailment credit of $416,000, net of actuarial expense resulting from the freezing of the defined benefit pension plan.  Federal deposit insurance premiums increased $202,000 due to an increase in premium assessment rates and a one-time special assessment in the second quarter of 2009. Professional fees increased $65,000, primarily due to additional audit and accounting fees.
 
Income Tax Expense.  The provision for income taxes increased $65,000 to $132,000 in 2009 from $67,000 in 2008.  The increase in the income tax expense is primarily due to the increase in income before taxes of $112,000 to $327,000 in 2009 from $215,000 in 2008 and the increase in the effective tax rate to 40.26% in 2009 from 31.04 % in 2008 due to higher state and local alternative tax base.

 
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Average Balance Sheet

The following table presents for the periods indicated 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 rates.  No tax equivalent adjustments were made.  All average balances are monthly average balances.  Non-accruing loans have been included in the table as loans carrying a zero yield.  The amortization of loan fees is included in computing interest income; however, such fees are not material.

         
Years Ended December 31,
 
   
At December 31, 2009
   
2009
   
2008
 
   
Outstanding Balance
   
Yield/Rate
   
Average Outstanding Balance
    Interest Earned/ Paid     Yield/ Rate    
Average Outstanding Balance
   
Interest Earned/ Paid
   
Yield/ Rate
 
   
(Dollars in thousands)
 
Interest-earning assets:
                                               
Loans receivable(1)
  $ 110,988       6.16 %   $ 104,528     $ 6,403       6.13 %   $ 97,312     $ 6,130       6.30 %
Mortgage-backed securities
    28,340       5.30 %     31,164       1,771       5.68 %     27,073       1,452       5.36 %
Investment securities(2) (3)
    1,275       - %     1,323       69       5.21 %     3,819       260       6.82 %
Other interest-earning assets
    3,611       0.08 %     6,985       7       0.10 %     5,936       112       1.88 %
Total interest-earning assets
    144,214       5.78 %     144,000       8,250       5.73 %     134,140       7,954       5.93 %
                                                                 
Non-interest earning assets
    11,765               11,479                       10,672                  
                                                                 
Total assets
  $ 155,979             $ 155,479                     $ 144,812                  
                                                                 
Interest-bearing liabilities:
                                                               
NOW accounts
  $ 415       0.30 %   $ 433       2       0.35 %   $ 437       2       0.35 %
Savings and club
    34,118       0.34 %     34,032       116       0.34 %     34,555       118       0.34 %
Certificates of deposit
    74,772       2.47 %     73,266       2,241       3.06 %     61,634       2,366       3.84 %
Total interest-bearing deposits..
    109,305       1.80 %     107,731       2,359       2.19 %     96,626       2,486       2.57 %
                                                                 
Federal Home Loan Bank Advances
    22,851       1.67 %     23,990       896       3.74 %     25,927       1,131       4.36 %
Total interest-bearing liabilities
    132,156       1.77 %     131,721       3,255       2.47 %     122,553       3,617       2.95 %
                                                                 
Non-interest bearing liabilities:
                                                               
Demand deposit
    5,863               5,246                       3,909                  
Other liabilities
    2,727               3,404                       2,833                  
Total non-interest-bearing liabilities
    8,590               8,650                       6,742                  
Total liabilities
    140,746               140,371                       129,295                  
                                                                 
Stockholders’ Equity
    15,233               15,108                       15,517                  
Total liabilities and equity
  $ 155,979             $ 155,479                     $ 144,812                  
Net interest income
                          $ 4,995                     $ 4,337          
Interest rate spread(4)
            4.01 %                     3.26 %                     2.98 %
Net interest-earning assets
  $ 12,057             $ 12,279                     $ 11,588                  
Net interest margin(5)
                                    3.47 %                     3.23 %
Ratio of interest earning assets to interest bearing liabilities
                            1.09 x                     1.09 x        
_________________________________
(1)
Loans receivable are net of the allowance for loan losses.
(2)
None of the reported income is exempt from Federal income taxes.
(3)
Includes stock in Federal Home Loan Bank of New York which has no stated dividend yield.
(4)
Net interest rate spread represents the difference between the average yield on interest earning assets and the average cost of interest bearing liabilities.
(5)   Net interest margin represents net interest income as a percentage of interest earning assets.

 
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Rate/Volume Analysis

The following table presents the dollar amount of changes in interest income and interest expense for major components of interest-earning assets and interest-bearing liabilities.  It distinguishes between the changes related to changes in outstanding balances and those due to the changes in interest rates.  For each category of interest-earning assets and interest-bearing liabilities, information is provided on changes attributable to (i) changes in volume (i.e., changes in volume multiplied by old rate) and (ii) changes in rate (i.e., changes in rate multiplied by old volume).  For purposes of this table, changes attributable to both rate and volume, which cannot be segregated, have been allocated proportionately to the change due to volume and the change due to rate.

   
Years Ended December 31,
   
2009 vs. 2008
   
Increase/(Decrease)
Due to
   
Total
Increase
   
Volume
   
Rate
   
(Decrease)
   
(In thousands)
Interest income:
           
Loans receivable
  $ 429     $ (156 )   $ 273  
Mortgage-backed securities
    229       90       319  
Investment securities
    (140 )     (51 )     (191 )
Other interest-earning assets
    23       (128 )     (105 )
                         
Total interest income
    541       (245 )     296  
                         
Interest expense:
                       
Demand deposits
    -       -       -  
Passbook and club accounts
    (2 )     -       (2 )
Certificates of deposit
    472       (597 )     (125 )
Federal Home Loan Bank advances...
    (81 )     (154 )     (235 )
                         
Total interest expense
    389       (751 )     (362 )
                         
Net interest income
  $ 152     $ 506     $ 658  

Management of Market Risk

General.  The majority of the Company’s assets and liabilities are monetary in nature.  Consequently, the most significant form of market risk is interest rate risk.  The Company’s assets, consisting primarily of mortgage loans, have longer maturities than its liabilities, consisting primarily of deposits and borrowings.  As a result, a principal part of the business strategy is to manage interest rate risk and reduce the exposure of net interest income to changes in market interest rates.  Accordingly, the board of directors has established an Asset/Liability Management Committee which is responsible for evaluating the interest rate risk inherent in the assets and liabilities, for determining the level of risk that is appropriate given the business strategy, operating environment, capital, liquidity and performance objectives, and for managing this risk consistent with the guidelines approved by the board of directors.  Senior management monitors the level of interest rate risk on a regular basis and the Asset/Liability Management Committee, which consists of senior management operating under a policy adopted by the board of directors, meets as needed to review the asset/liability policies and interest rate risk position.

The Company has sought to manage its interest rate risk in order to minimize the exposure of  earnings and capital to changes in interest rates.  During the low interest rate environment that has existed in recent years, the Company has implemented the following strategies to manage its interest rate risk: (i) maintaining a high level of liquid interest-earning assets invested in cash and cash equivalents; (ii) offering a variety of adjustable rate loan products, including one year adjustable rate mortgage loans and construction loans, and short-term fixed rate home equity loans. Cash and cash equivalents, deposits and borrowings from the Federal Home Loan Bank may be used to fund loan commitments, investments and other general corporate purposes.  By investing in short-term, liquid instruments, management believes the Company is better positioned to react to increases in market interest rates.  However, investments in shorter-term securities and cash and cash equivalents generally bear lower yields than longer term investments.  Thus, during the recent sustained period of low interest rates, the strategy of investment in liquid instruments has resulted in lower levels of interest income than would have been obtained by investing in longer-term loans and investments.

 
13-9

 
 
Net Portfolio Value. The Office of Thrift Supervision requires the computation of amounts by which the net present value of an institution’s cash flow from assets, liabilities and off-balance sheet items (the institution’s net portfolio value or “NPV”) would change in the event of a range of assumed changes in market interest rates.  The Office of Thrift Supervision provides all institutions that file a Consolidated Maturity/Rate Schedule as a part of their quarterly Thrift Financial Report with an interest rate sensitivity report of net portfolio value.  The Office of Thrift Supervision simulation model uses a discounted cash flow analysis and an option-based pricing approach to measure the interest rate sensitivity of net portfolio value.  Historically, the Office of Thrift Supervision model estimated the economic value of each type of asset, liability and off-balance sheet contract under the assumption that the United States Treasury yield curve increases or decreases instantaneously by 100 to 300 basis points in 100 basis point increments.  However, given the current low level of market interest rates, the Company did not receive a NPV calculation for an interest rate decrease of greater than 100 basis points.  A basis point equals one-hundredth of one percent, and 100 basis points equals one percent.  An increase in interest rates from 3% to 4% would mean, for example, a 100 basis point increase in the “Change in Interest Rates” column below.  The Office of Thrift Supervision provides the results of the interest rate sensitivity model, which is based on information provided to the Office of Thrift Supervision to estimate the sensitivity of the Company’s net portfolio value.

The table below sets forth, as of December 31, 2009 an interest rate sensitivity report of net portfolio value and the estimated changes in the net portfolio value that would result from the designated instantaneous changes in the United States Treasury yield curve.

Change in
   
Net Portfolio Value
   
Net Portfolio Value as a Percentage of Present Value of Assets
 
Interest Rates
(basis points)
   
Estimated
NPV
   
Amount of
Change
   
Percent of
Change
   
NPV Ratio
   
Change in Basis
Points
 
     
(Dollars in Thousands)
 
                                 
+300     $ 10,220     $ (11,426 )     (53 )%     6.75 %     -636 bp
+200     $ 14,440     $ (7,206 )     (33 )%     9.23 %     -387 bp
+100     $ 18,418     $ (3,228 )     (15 )%     11.43 %     -168 bp
+50     $ 20,176     $ (1,469 )     (7 )%     12.35 %     -75 bp
0     $ 21,646       -       -       13.10 %     -  
-50     $ 22,911     $ 1,265       6 %     13.73 %     63 bp
-100     $ 23,726     $ 2,080       10 %     14.12 %     102 bp

The table above indicates that at December 31, 2009, in the event of a 100 basis point decrease in interest rates, the Company would experience a 10% increase in net portfolio value.  In the event of a 100 basis point increase in interest rates, the Company would experience a 15% decrease in net portfolio value.

 
13-10

 
 
Certain shortcomings are inherent in the methodology used in the above interest rate risk measurement.  Modeling changes in net portfolio value require making certain assumptions that may or may not reflect the manner in which actual yields and costs respond to changes in market interest rates.  In this regard, the net portfolio value table presented assumes that the composition of interest-sensitive assets and liabilities existing at the beginning of a period remains constant over the period being measured and assumes that a particular change in interest rates is reflected uniformly across the yield curve regardless of the duration or repricing of specific assets and liabilities.  Accordingly, although the net portfolio value table provides an indication of  interest rate risk exposure at a particular point in time, such measurements are not intended to and do not provide a precise forecast of the effect of changes in market interest rates on its net interest income and will differ from actual results.

Liquidity.  The Company maintains liquid assets at levels considered adequate to meet its liquidity needs.  The liquidity ratio averaged 7.9% for the year ended December 31, 2009.  Liquidity levels are adjusted to fund deposit outflows, pay real estate taxes on mortgage loans, fund loan commitments and take advantage of investment opportunities.  As appropriate, the Company also adjusts liquidity to meet asset and liability management objectives. At December 31, 2009, cash and cash equivalents totaled $5.5 million.

The Company’s primary sources of liquidity are deposits, borrowings, amortization and prepayment of loans and mortgage-backed securities, maturities of investment securities and other short-term investments, and earnings and funds provided from operations.  While scheduled principal repayments on loans and mortgage-backed securities are a relatively predictable source of funds, deposit flows and loan prepayments are greatly influenced by market interest rates, economic conditions, and rates offered by competition.  Interest rates on deposits are set to maintain a desired level of total deposits.  In addition, excess funds are invested in short-term interest-earning assets, which provide liquidity to meet lending requirements.

A significant portion of the Company’s liquidity consists of cash and cash equivalents, which are a product of management’s operating, investing and financing activities.  At December 31, 2009, $5.5 million of assets were invested in cash and cash equivalents.  The primary sources of cash are principal repayments on loans, proceeds from the calls and maturities of investment securities, principal repayments of mortgage-backed securities and increases in deposit accounts.  As of December 31, 2009, there were no short-term investment securities.

Deposit flows are generally affected by the level of interest rates, the interest rates and products offered by local competitors, and other factors. Total deposits increased $13.5 million to $115.2 million at December 31, 2009 from $101.7 million as of December 31, 2008.

Liquidity management is both a daily and long-term function of business management.  If the Company requires funds beyond its ability to generate them internally, borrowing agreements exist with the Federal Home Loan Bank of New York which provides an additional source of funds.  At December 31, 2009, the Company had $22.9 million in advances from the Federal Home Loan Bank of New York, and had an available borrowing limit of $71.9 million.

At December 31, 2009, the Company had outstanding commitments to originate loans of $5.4 million. At December 31, 2009, certificates of deposit scheduled to mature in less than one year totaled $60.7 million.  Based on prior experience, management believes that a significant portion of such deposits will remain, although there can be no assurance that this will be the case.  In the event a significant portion of deposits are not retained, management will have to utilize other funding sources, such as Federal Home Loan Bank of New York advances in order to maintain the Company’s level of assets.  Alternatively, management could reduce the level of liquid assets, such as cash and cash equivalents.  In addition, the cost of such deposits may be significantly higher if market interest rates are higher at the time of renewal.

 
13-11

 
 
Contractual Obligations and Off-Balance Sheet Arrangements

The following table sets forth the Company’s contractual obligations at December 31, 2009. Amounts shown do not include interest in FHLB Advances at a weighted average cost of 1.67% and Certificates of Deposit at a weighted average cost of 2.47%, and an anticipated contribution to the Defined Benefit Pension Plan of $53,000:
 
   
Payment Due by Period
 
Contractual Obligations
 
 
 
Total
 
   
Less than One year
 
   
More than One year to Three years
 
   
More than Three years to Five years
 
   
More than Five years
 
 
   
(in thousands)
 
FHLB
                             
Advances
  $ 22,851     $ 18,309     $ 4,495     $ 47     $ -  
                                         
Certificates of Deposit
    74,772       60,667       10,513       2,971       621  
                                         
Lease Obligations
    634       94       192       197       151  
                                         
Total
  $ 98,257     $ 79,070     $ 15,200     $ 3,215    
$772_
 

In the normal course of business, the Bank enters into off-balance sheet arrangements consisting of commitments to fund loans. These commitments totaled $5.4 million, which expire in three months or less. See Note 14 to the Consolidated Financial Statements for more information.


Impact of Inflation and Changing Prices

The consolidated financial statements and related notes of the Company have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”).  GAAP generally requires the measurement of financial position and operating results in terms of historical dollars without consideration for changes in the relative purchasing power of money over time due to inflation.  The impact of inflation is reflected in the increased cost of the Company’s operations.  Unlike industrial companies, the Company’s assets and liabilities are primarily monetary in nature.  As a result, changes in market interest rates have a greater impact on performance than the effects of inflation.

 
13-12

 
 
Graphic
 
Report of Independent Registered Public Accounting Firm
 
To the Board of Directors and Stockholders Flatbush Federal Bancorp, Inc. Brooklyn, New York
 
We have audited the accompanying consolidated statements of financial condition of Flatbush Federal Bancorp, Inc. (the "Company") and Subsidiaries as of December 31, 2009 and 2008, and the related consolidated statements of income, stockholders' equity and cash flows for the years in the two-year period ended December 31, 2009. The Company’s management is responsible for these consolidated financial statements. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.
 
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. An audit includes consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company's internal control over financial reporting. Accordingly, we express no such opinion. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
 
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of Flatbush Federal Bancorp, Inc. and Subsidiaries as of December 31, 2009 and 2008, and the results of their operations and their cash flows for the two year period ended December 31, 2009, in conformity with accounting principles generally accepted in the United States of America.
 
  /s/ ParenteBeard LLC  
   
ParenteBeard LLC
Clark, New Jersey
March 29, 2010

 
13-13

 
 
Flatbush Federal Bancorp, Inc. and Subsidiaries

Consolidated Statements of Financial Condition
   
December 31,
 
   
2009
   
2008
 
Assets
           
             
Cash and amounts due from depository institutions
  $ 1,846,911     $ 2,611,611  
Interest-earning deposits in other banks
    1,861,116       2,966,877  
Federal funds sold
    1,750,000       2,100,000  
                 
Cash and Cash Equivalents
    5,458,027       7,678,488  
                 
Mortgage-backed securities held to maturity, fair value of $29,566,571 in 2009 and $33,975,054 in 2008
    28,340,092       32,926,053  
Loans receivable, net of allowance for loan losses of $828,534 in 2009 and $190,630 in 2008
    110,987,520       98,240,898  
Premises and equipment
    2,440,313       2,616,747  
Federal Home Loan Bank of New York stock
    1,274,900       1,521,600  
Accrued interest receivable
    657,552       617,235  
Bank owned life insurance
    4,219,982       4,060,415  
Other assets
    2,601,027       1,989,544  
                 
Total Assets
  $ 155,979,413     $ 149,650,980  
                 
Liabilities and Stockholders’ Equity
               
                 
Liabilities
               
Deposits:
               
Non-interest bearing
  $ 5,862,496     $ 3,868,320  
Interest bearing
    109,305,224       97,807,392  
Total Deposits
    115,167,720       101,675,712  
Advances from Federal Home Loan Bank of New York
    22,851,481       28,592,884  
Advance payments by borrowers for taxes and insurance
    292,581       764,797  
Other liabilities
    2,434,678       3,983,403  
                 
Total Liabilities
    140,746,460       135,016,796  
                 
Commitments and Contingencies
    -       -  
                 
Stockholders’ Equity
               
Preferred stock, $0.01 par value; 1,000,000 shares authorized;
none issued and outstanding
    -       -  
Common stock, $0.01 par value; authorized 9,000,000 shares;
issued  2,799,657 shares; outstanding (2009) 2,736,907 shares and (2008) 2,737,907 shares
    27,998       27,998  
Paid-in capital
    12,581,519       12,514,942  
Retained earnings
    5,349,941       5,154,812  
Unearned employees’ stock ownership plan (ESOP) shares
    (478,857 )     (513,731 )
Treasury stock, 62,750 and 61,750 shares, respectively
    (446,534 )     (442,984 )
Accumulated other comprehensive loss
    (1,801,114 )      (2,106,853 )
                 
Total Stockholders’ Equity
    15,232,953       14,634,184  
                 
Total Liabilities and Stockholders’ Equity
  $ 155,979,413     $ 149,650,980  
 
 
13-14

 
 
Flatbush Federal Bancorp, Inc. and Subsidiaries

Consolidated Statements of Income
 
   
Years Ended December 31,
 
   
2009
   
2008
 
Interest Income
           
Loans, including fees
  $ 6,403,000     $ 6,130,270  
Investment securities
    69,003       260,272  
Mortgage-backed securities held to maturity
    1,770,514       1,451,774  
Other interest-earning assets
    6,982       111,457  
                 
Total Interest Income
    8,249,499       7,953,773  
                 
Interest Expense
               
Deposits
    2,358,423       2,486,096  
Borrowings
    896,211       1,131,043  
                 
Total Interest Expense
    3,254,634       3,617,139  
                 
Net Interest Income
    4,994,865       4,336,634  
                 
Provision for Loan Losses
    649,398       65  
                 
Net Interest Income after Provision for Loan Losses
    4,345,467       4,336,569  
                 
Non-Interest Income
               
Fees and service charges
    97,943       119,864  
Bank owned life insurance
    159,567       158,791  
Other
    3,548       48,344  
                 
Total Non-Interest Income
    261,058       326,999  
                 
Non-Interest Expenses
               
Salaries and employee benefits
    1,930,166       2,314,616  
Net occupancy expense of premises
    457,004       476,426  
Equipment
    502,863       498,502  
Directors’ compensation
    179,217       190,889  
Professional fees
    372,625       308,115  
Insurance premiums
    139,356       141,639  
Federal deposit insurance premiums
    227,984       25,883  
Other
    470,659       492,080  
                 
Total Non-Interest Expenses
    4,279,874       4,448,150  
                 
Income before Income Taxes
    326,652       215,418  
                 
Income Taxes
    131,523       66,860  
                 
Net Income
  $ 195,129     $ 148,558  
                 
Net Income per Common Share
               
Basic and diluted
  $ 0.07     $ 0.06  
                 
Weighted Average Number of Shares Outstanding
               
Basic and diluted
    2,661,744       2,663,633  
 
 
13-15

 

Flatbush Federal Bancorp, Inc. and Subsidiaries

Consolidated Statements of Stockholders’ Equity
Years Ended December 31, 2009 and 2008

   
Common Stock
   
Paid-In Capital
   
Retained Earnings
   
Unearned ESOP Shares
   
Treasury Stock
   
Accumulated Other Comprehensive Loss
   
Total
 
                                           
Balance  December 31, 2007
  $ 27,998     $ 12,441,913     $ 5,117,100     $ (548,605 )   $ (418,650 )   $ (1,058,138 )   $ 15,561,618  
                                                         
Comprehensive Loss:
                                                       
Net income
    -       -       148,558       -       -       -       148,558  
Benefit Plans, net of deferred income taxes of $754,732
    -       -       -       -       -       (1,048,715 )     (1,048,715 )
Comprehensive loss
                                                    (900,157 )
Purchase of 6,690 shares of treasury stock
    -       -       -       -       (24,334 )     -       (24,334 )
Amortization of MRP
    -       40,584       -       -       -       -       40,584  
Stock Option expense
    -       41,664       -       -       -       -       41,664  
ESOP shares committed to be released
    -       (9,219 )     -       34,874       -       -       25,655  
Split dollar benefit
    -       -       (110,846 )     -       -       -       (110,846 )
Balance  December 31, 2008
    27,998       12,514,942       5,154,812       (513,731 )     (442,984 )     (2,106,853 )     14,634,184  
                                                         
Comprehensive Income:
                                                       
Net income
    -       -       195,129       -       -       -       195,129  
Benefit Plans, net of deferred income taxes of $220,032
    -       -       -       -       -       305,739       305,739  
Comprehensive income
    -       -       -       -       -       -       500,868  
Purchase of 1,000 shares of treasury stock
    -       -       -       -       (3,550 )     -       (3,550 )
Amortization of MRP
    -       40,584       -       -       -       -       40,584  
Stock Option expense
    -       41,643       -       -       -       -       41,643  
ESOP shares committed to be released
    -       (15,650 )     -       34,874       -       -       19,224  
                                                         
Balance  December 31, 2009
  $ 27,998     $ 12,581,519     $ 5,349,941     $ (478,857 )   $ (446,534 )   $ (1,801,114 )   $ 15,232,953  
 
 
13-16

 

Flatbush Federal Bancorp, Inc. and Subsidiaries

Consolidated Statements of Cash Flows

   
Years Ended December 31,
 
   
2009
   
2008
 
Cash Flows from Operating Activities
           
Net income
  $ 195,129     $ 148,558  
Adjustments to reconcile net income to net cash (used in) provided by operating activities:
               
Depreciation and amortization of premises and equipment
    182,690       182,591  
Net (accretion) amortization of premiums, discounts and deferred loan fees          and costs
    (146,951 )     54,101  
Increase in deferred income taxes
    90,838       (119,273 )
Provision for loan losses
    649,398       65  
ESOP shares committed to be released
    19,224       25,655  
MRP amortization
    40,584       40,584  
Stock option expense
    41,643       41,664  
(Increase) decrease in accrued interest receivable
    (40,317 )     81,035  
Increase in cash surrender value of bank owned life insurance
    (159,567 )     (158,791 )
(Increase) decrease in other assets
    (922,353 )     539,705  
Increase (decrease) in other liabilities
    (1,022,954 )     137,235  
                 
Net Cash (Used in) Provided by Operating Activities
    (1,072,636 )     973,129  
                 
Cash Flows from Investing Activities
               
Proceeds from calls and maturities of investment securities held to maturity
    -       6,500,000  
Principal repayments on mortgage-backed securities held to maturity
    5,598,393       3,148,324  
Purchase of mortgage-backed securities held to maturity
    (906,261 )     (10,815,749 )
Purchase of loan participation interests
    (3,299,549 )     (6,092,804 )
Net change in loans receivable
    (10,055,691 )     9,363,818  
Additions to premises and equipment
    (6,256 )     (21,161 )
Redemption (purchase) of Federal Home Loan Bank of New York stock
    246,700       (8,700 )
                 
Net Cash (Used in) Provided by  Investing Activities
    (8,422,664 )     2,073,728  
                 
Cash Flows from Financing Activities
               
Net increase (decrease) in deposits
    13,492,008       (995,813 )
Advances from Federal Home Loan Bank of New York
    -       8,000,000  
Repayment of advances from Federal Home Loan Bank of New York
    (17,241,403 )     (7,659,200 )
Net change to short-term borrowings
    11,500,000       -  
(Decrease) increase in advance payments by borrowers for taxes and insurance
    (472,216 )     343,398  
Purchase of treasury stock
    (3,550 )     (24,334 )
                 
Net Cash Provided by (used in)  Financing Activities
    7,274,839       (335,949 )
                 
Net (Decrease) Increase in Cash and Cash Equivalents
    (2,220,461 )     2,710,908  
                 
Cash and Cash Equivalents – Beginning
    7,678,488       4,967,580  
                 
Cash and Cash Equivalents – Ending
  $ 5,458,027     $ 7,678,488  
Supplementary Cash Flows Information
               
Interest paid
  $ 3,347,512     $ 3,617,552  
                 
Income taxes, net of refunds
  $ 278,059     $ 13,569  
 
 
13-17

 
 
Note 1 - Summary of Significant Accounting Policies
 
Nature of Operations and Basis of Financial Statement Presentation
 
The consolidated financial statements include accounts of Flatbush Bancorp Inc. (the “Company”), Flatbush Federal Savings and Loan Association (the “Association”) and the Association’s subsidiary, Flatbush REIT, Inc. (the “REIT”), a corporation principally engaged in investing in loans secured by real estate.  The consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America (“GAAP”).  All significant intercompany accounts and transactions have been eliminated in consolidation.  At December 31, 2009 and 2008, 54.23.% and 54.21%, respectively, of the Company’s common stock is owned by Flatbush Federal MHC, a mutual holding company.
 
The Company’s primary business is the ownership and operation of the Association.  The Association’s principal business consists of attracting retail deposits from the general public in the areas surrounding its various locations in Brooklyn, New York and investing those deposits, together with funds generated from operations and borrowings, primarily in one-to four-family residential mortgage loans, real estate construction loans and various securities.  One-to-four family residential real estate in the Association’s market areas is characterized by a large number of attached and semi-detached homes, including a number of two-and three-family homes and cooperative apartments.  Revenues are derived principally from interest on loans and securities, loan origination and servicing fees, and service charges and fees collected on deposit accounts.  The primary sources of funds are deposits, principal and interest payments on loans and securities, and borrowings.
 
The Association’s lending area is concentrated in the neighborhoods surrounding the Association’s office locations in Brooklyn, New York.  Most of the deposit customers are residents of the greater New York metropolitan area.
 
In preparing the consolidated financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the dates of the consolidated statements of financial condition and revenues and expenses for the periods then ended. Actual results could differ significantly from those estimates.
 
Material estimates that are particularly susceptible to significant change relate to the determination of the allowance for loan losses, the determination of the projected pension liabilities and the amount of deferred taxes which are more likely than not to be realized.  Management believes that the allowance for loan losses and projected pension liability are adequate and that all deferred taxes are more likely than not to be realized.  While management uses available information to recognize losses on loans, future additions to the allowance for loan losses may be necessary based on changes in economic conditions in the market area.  The determination of the projected pension liability and related pension expense is based upon assumptions regarding the discount rate and expected return on plan assets, as well as employee demographics, such as retirement patterns, employee turnover, mortality rates and estimated employee compensation increases. The assessment of the amount of deferred tax assets more likely than not to be realized is based upon projected future taxable income, which is subject to continual revisions for updated information.
 
In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Association’s allowance for loan losses.  Such agencies may require the Association to recognize additions to the allowance based on their judgments about information available to them at the time of their examination.
 
 
13-18

 
 
Note 1 - Summary of Significant Accounting Policies (Continued)
 
Effective April 1, 2009, the Company adopted the Financial Accounting Standards Board (“FASB”) guidance on subsequent events, which establishes general standards for accounting for and disclosure of events that occur after the balance sheet date but before the financial statements are issued. The guidance sets forth the period after the balance sheet date during which management of the reporting entity, should evaluate events or transactions that may occur for potential recognition in the financial statements, identifies the circumstances under which an entity should recognize events or transactions occurring after the balance sheet date in its financial statements, and the disclosure that should be made about events or transactions that occur after the balance sheet date. In preparing these consolidated financial statements, the Company evaluated the events that occurred between January 1, 2010 and the date these consolidated financial statements were issued.
 
Cash and Cash Equivalents
 
Cash and cash equivalents include cash and amounts due from depository institutions, interest-bearing deposits in other banks, term deposits with original maturities of three months or less, and federal funds sold.  Generally, federal funds are sold for one-day periods.
 
Investments and Mortgage-Backed Securities
 
Investments in debt securities that the Association has the positive intent and ability to hold to maturity are classified as held to maturity securities and reported at amortized cost.  Debt and equity securities that are bought and held principally for the purpose of selling them in the near term are classified as trading securities and reported at fair value, with unrealized holding gains and losses included in earnings.  Debt and equity securities not classified as trading securities nor as held to maturity securities are classified as available for sale securities and reported at fair value, with unrealized holding gains or losses, net of deferred income taxes, reported in the accumulated other comprehensive loss component of stockholders’ equity. The Company has no securities classified as available for sale or trading securities.
 
Premiums and discounts on all securities are amortized/accreted using the interest method.  Interest income on securities, which includes amortization of premiums and accretion of discounts, is recognized in the consolidated financial statements when earned.  The adjusted cost basis of an identified security sold or called is used for determining security gains and losses recognized in the consolidated statements of income.
 
Individual securities are considered impaired when the fair value of such security is less than its amortized cost. The Company evaluates all securities with unrealized losses quarterly to determine if such impairments are temporary or “other-than-temporary” in accordance with applicable accounting guidance. The Company accounts for temporary impairments based upon security classification as either available for sale or held to maturity. Temporary impairments on available for sale securities are recognized on a tax-effected basis, through other comprehensive income (loss) with offsetting entries adjusting the carrying value of the securities and the balance of deferred income taxes. Temporary impairments of held to maturity securities are not recognized in the consolidated financial
statements; however information concerning the amount and duration of impairments on held to maturity securities is disclosed in the notes to the consolidated financial statements.

Other-than-temporary impairments on securities that the Company has decided to sell or will more likely than not be required to sell prior to the full recovery of their fair value to a level

 
13-19

 
 
Note 1 - Summary of Significant Accounting Policies (Continued)
 
to, or exceeding amortized cost are recognized in earnings. Otherwise, the other-than-temporary impairment is bifurcated into credit related and noncredit-related components. The credit related impairment generally represents the amount by which the present value of the cash flows expected to be collected on a debt security falls below its amortized cost. The noncredit-related component represents the remaining portion of the impairment not otherwise designated as credit-related. Credit related other-than-temporary impairments are recognized in earnings while noncredit-related other-than-temporary impairments are recognized, net of deferred income taxes, in other comprehensive income (loss).

Federal Home Loan Bank of New York Stock
 
Federal Home Loan Bank of New York (“FHLB”) stock, which represents required investment in the common stock of a correspondent bank, is carried at cost and as of December 31, 2009 and 2008, consists of the common stock of FHLB.
 
Management evaluates the FHLB stock for impairment in accordance with guidance on accounting by certain entities that lend to or finance the activities of others.  Management’s determination of whether this investment is impaired is based on their assessment of the ultimate recoverability of their cost rather than by recognizing temporary declines in value.  The determination of whether a decline affects the ultimate recoverability of their cost is influenced by criteria such as (1) the significance of the decline in net assets of the FHLB as compared to the capital stock amount for the FHLB and the length of time this situation has persisted, (2) commitments by the FHLB to make payments required by law or regulation and the level of such payments in relation to the operating performance of the FHLB, and (3) the impact of legislative and regulatory changes on institutions and, accordingly, on the customer base of the FHLB.
 
Management believes no impairment charge is necessary related to the FHLB stock as of December 31, 2009.
 
Loans Receivable
 
Loans receivable are stated at unpaid principal balances, less the allowance for loan losses and net deferred loan origination fees and costs.  The Association defers loan origination fees and certain direct loan origination costs and accretes/amortizes such amounts as an adjustment of yield over the contractual lives of the related loans.
 
Interest is recognized by use of the accrual method.  An allowance for uncollectible interest on loans is maintained based on management’s evaluation of collectibility.  The allowance is established by a charge to interest income.  Income is subsequently recognized only to the extent that cash payments are received until, in management’s judgment, the borrower’s ability to make periodic interest and principal payments is probable, in which case the loan is returned to an accrual status.
 
Allowance for Loan Losses
 
An allowance for loan losses is maintained at a level necessary to absorb loan losses which are both probable and reasonably estimable.  Management, in determining the allowance for loan losses, considers the losses inherent in its loan portfolio and changes in the nature and volume of its loan activities, along with general economic and real estate market conditions.  The Association utilizes a two tier approach: (1) identification of impaired loans and establishment of specific loss allowances on such loans; and (2) establishment of general valuation allowances on the remainder of its loan
 
 
13-20

 
 
Note 1 - Summary of Significant Accounting Policies (Continued)
 
portfolio.  The Association maintains a loan review system which allows for a periodic review of its loan portfolio and the early identification of potential impaired loans.  Such system takes into consideration, among other things, delinquency status, size of loans, types of collateral and financial condition of the borrowers.  Specific loan loss allowances are established for identified loans based on a review of such information.  A loan evaluated for impairment is deemed to be impaired when, based on current information and events, it is probable that the Association will be unable to collect all amounts due according to the contractual terms of the loan agreement.  All loans identified as impaired are evaluated independently.  The Association does not aggregate such loans for evaluation purposes.  Loan impairment is measured based on the present value of expected future cash flows discounted at the loan’s effective interest rate or, as a practical expedient, at the loan’s observable market price or the fair value of the collateral if the loan is collateral dependent. General loan loss allowances are based upon a combination of factors including, but not limited to, actual loan loss experience, composition of the loan portfolio, current economic conditions and management’s judgment.
 
The allowance is increased through provisions charged against current earnings and recoveries of previously charged off loans.  Loans which are determined to be uncollectible are charged against the allowance.  Although management believes that specific and general loan loss allowances are established to absorb losses which are both probable and reasonably estimable, actual losses are dependent upon future events and, as such, further additions to the level of specific and general loan loss allowances may be necessary.
 
Payments received on impaired are applied to principal. The Association had three loans deemed to be impaired at December 31, 2009 and had no loans deemed to be impaired at December 31, 2008.
 
Concentration of Risk
 
The Association’s lending activities are concentrated in loans secured by real estate located in the State of New York.
 
Advertising
 
Advertising expense, in the amount of $17,000 and $21,000, is recorded as incurred during the years ended December 31, 2009 and 2008, respectively, and included in other non-interest expenses.
 
Premises and Equipment
 
Premises and equipment are comprised of land, at cost, and building, building improvements, leasehold improvements and furniture, fixtures and equipment, at cost, less accumulated depreciation and amortization computed on the straight-line method over the following estimated useful lives:
 
   
Years
 
Building and improvements
    5 – 50  
Leasehold improvements
 
Shorter of term of lease or useful life
 
Furniture, fixtures and equipment
    5 – 10  
 
 
13-21

 
 
Note 1 - Summary of Significant Accounting Policies (Continued)
 
Significant renewals and betterments are charged to the premises and equipment account.  Maintenance and repairs are charged to expense in the year incurred.  Rental income is netted against occupancy expense in the consolidated statements of income.
 
Bank Owned Life Insurance (BOLI)
 
The Company invested $3,600,000 in BOLI to help offset the rising cost of employee benefits.  BOLI is accounted for using the cash surrender value method and is recorded at its realizable value.  The change in the net asset of approximately $160,000 and $159,000 for the years ended December 31, 2009 and 2008, respectively, was recorded as other non-interest income.
 
On January 1, 2008, the Company changed its accounting policy and recognized a cumulative effect adjustment to retained earning totaling $110,846 related to accounting for certain endorsement split-dollar life insurance arrangements in connection with the adoption of accounting guidance on  deferred compensation and postretirement benefit aspects of endorsement split dollar life insurance arrangements.
 
Income Taxes
 
The Company and the Association file consolidated federal, state and city income tax returns. Income taxes are allocated to the Company and the Association based upon the contribution of their respective income or loss to the consolidated return.  The REIT files a separate federal, state and city income tax return and pays its own taxes.
 
Federal, state and city income taxes have been provided on the basis of reported income. The amounts reflected on the tax return differ from these provisions due principally to temporary differences in the reporting of certain items for financial reporting and income tax reporting purposes. The tax effect of these temporary differences is accounted as deferred taxes applicable to future periods. Deferred income tax expense or benefit is determined by recognizing deferred tax assets and liabilities for the estimated future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in earnings in the period that includes the enactment date. The realization of deferred tax assets is assessed and a valuation allowance provided, when necessary, for that portion of the asset which is not likely to be realized.
 
The Company accounts for uncertainty in income taxes recognized in the consolidated financial statements in accordance with accounting guidance which prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return, and also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure and transition.  As a result of the Company’s evaluation, no significant income tax uncertainties have been identified.  Therefore, the Company recognized no adjustment for unrecognized income tax benefits for the years ended December 31, 2009 and 2008.  Our policy is to recognize interest and penalties on unrecognized tax benefits in income tax expense in the Consolidated Statements of Income.  The amount of interest and penalties for the years ended December 31, 2009 and 2008 was immaterial.  The tax years subject to examination by the taxing authorities are the years ended December 31, 2008, 2007, 2006, 2005, and 2004.
 
 
13-22

 
 
Note 1 - Summary of Significant Accounting Policies (Continued)
 
Benefit Plans
 
The Company has a non-contributory defined benefit pension plan covering all eligible employees.  The benefits are based on years of service and employees’ compensation.  The benefit plan is funded in conformance with funding requirements of applicable government regulations.  Prior services costs for the defined plan generally are amortized over the estimated remaining service periods of employees.  The Company also has an unfunded Postretirement Benefit Plan, Supplemental Retirement Plan for executives and a Directors Retirement plan.
 
The Company uses the corridor approach in the valuation of the defined benefit plan and other plans.  The corridor approach defers all actuarial gains and losses resulting from variances between actual results and economic estimates or actuarial assumptions.  For the defined benefit pension plan, these unrecognized gains and losses are amortized when net gains and losses exceed 10% of the greater of the market-related value of plan assets or the projected benefit obligation at the beginning of the year.
 
Stock-Based Compensation Plans
 
The Company has two stock-related compensation plans, including stock options and restricted stock plans, which are described in Note 11 to the Company’s Consolidated Financial Statements.  The Company expenses the fair value of all share-based compensation granted over its requisite service periods.
 
Options vest over an eight-year service period.  Upon exercise of vested options, management expects to draw on treasury stock as the source of shares.  The fair values relating to all options granted were estimated using the Black-Scholes option pricing model.  Expected volatilities are based on historical volatility of our stock and other factors, such as implied market volatility.  The Company used historical exercise dates based on the age at grant of the option holder to estimate the options’ expected term, which represent the period of time that the options granted are expected to be outstanding. The Company anticipated the future option holding periods to be similar to the historical option holding periods.  The risk-free rate for periods within the contractual life of the option is based on the U.S. Treasury yield curve in effect at the time of grant. The expected dividend yield was based on the Company’s history and expectations of dividend payouts. The Company recognizes compensation expense for the fair values of these awards, which have graded vesting, on a straight-line basis over the requisite service period of the awards.  There were no options granted during the years ended December 31, 2009 and 2008.
 
Interest-Rate Risk
 
The Association is principally engaged in the business of attracting deposits from the general public and using these deposits, together with other funds, to make loans secured by real estate and, to a lesser extent, to purchase investment and mortgage-backed securities.  The potential for interest-rate risk exists as a result of the generally shorter duration of interest-sensitive liabilities compared to the generally longer duration of interest-sensitive assets.  In a rising rate environment, liabilities will reprice faster than assets, thereby reducing net interest income.  For this reason, management regularly monitors the maturity structure of the Association’s interest-earning assets and interest-bearing liabilities in order to measure its level of interest-rate risk and to plan for future volatility.
 
 
13-23

 
 
Note 1 - Summary of Significant Accounting Policies (Continued)
 
Net Income per Common Share
 
Basic net income per common share was computed by dividing net income by the weighted average number of shares of common stock outstanding, adjusted for unearned shares of the ESOP.  Stock options and restricted stock awards granted are considered common stock equivalents and therefore considered in diluted net income per common share calculations, if dilutive, using the treasury stock method.
 
Transfer of Financial Assets
 
Transfer of financial assets, including loan participation sales, are accounted for as sales, when control over the assets has been surrendered. Control over transferred assets is deemed to be surrendered when (1) the assets have been isolated from the Association, (2) the transferee obtains the right (free of conditions that constrain it from taking advantage of that right) to pledge or exchange the transferred assets and (3) the Association does not maintain effective control over the transferred assets through an agreement to repurchase them before their maturity.
 
Off-Balance Sheet Financial Instruments
 
In the ordinary course of business, the Association has entered into off-balance sheet financial instruments consisting of commitments to extend credit.  Such financial instruments are recorded in the consolidated statements of financial condition when they are funded.
 
Comprehensive Income
 
Accounting principles generally accepted in the United States of America require that recognized revenue, expenses, gains and losses be included in net income.  Although certain changes in assets and liabilities, such as unrecognized net loss or gain, unrecognized past service cost or unrecognized past transition obligation on defined benefit plans and post retirement plans, are reported as a separate component of the equity section of the consolidated statements of financial condition, such items, along with net income are components of comprehensive income.
 
Reclassification
 
Certain amounts as of and for the year ended December 31, 2008 have been reclassified to conform to the current year’s presentation. These reclassifications had no impact on net income.
 
 
13-24

 

Note 2 - Mortgage-Backed Securities Held to Maturity
 
   
December 31, 2009
 
   
Amortized Cost
   
Gross
Unrealized
Gains
   
Gross
Unrealized
Losses
   
Estimated Fair
Value
 
                         
Government National Mortgage Association
  $ 2,587,153     $ 101,800     $ 7,233     $ 2,681,720  
Federal National Mortgage Association
    20,126,402       997,964       -       21,124,366  
Federal Home Loan Mortgage Corporation
    5,626,537       151,058       17,110       5,760,485  
                                 
    $ 28,340,092     $ 1,250,822     $ 24,343     $ 29,566,571  

 
   
December 31, 2008
 
   
Amortized Cost
   
Gross
Unrealized
Gains
   
Gross
Unrealized
Losses
   
Estimated Fair
Value
 
                         
Government National Mortgage Association
  $ 3,202,284     $ 89,276     $ 16,043     $ 3,275,517  
Federal National Mortgage Association
    23,379,580       823,094       76       24,202,598  
Federal Home Loan Mortgage Corporation
    6,344,189       166,039       13,289       6,496,939  
                                 
    $ 32,926,053     $ 1,078,409     $ 29,408     $ 33,975,054  

The age of unrealized losses and fair value of related mortgage-backed securities held to maturity are as follows:
 
   
Less than 12 Months
   
12 Months or More
   
Total
 
   
Fair
Value
   
Unrealized Losses
   
Fair
Value
   
Unrealized Losses
   
Fair
Value
   
Unrealized Losses
 
                                     
December 31, 2009:
                                   
Government National Mortgage Association
  $ 359,809     $ 7,233     $ -     $ -     $ 359,809     $ 7,233  
Federal Home Loan Mortgage Corporation
    1,041,073       14,952       319,344       2,158       1,360,417       17,110  
                                                 
    $ 1,400,882     $ 22,185     $ 319,344     $ 2,158     $ 1,720,226     $ 24,343