Attached files

file filename
EX-32.2 - EXHIBIT 32.2 - UNITED BANCSHARES INC /PAex32-2.htm
EX-31.2 - EXHIBIT 31.2 - UNITED BANCSHARES INC /PAex31-2.htm
EX-32.1 - EXHIBIT 32.1 - UNITED BANCSHARES INC /PAex32-1.htm
EX-31.1 - EXHIBIT 31.1 - UNITED BANCSHARES INC /PAex31-1.htm
 

SECURITIES AND EXCHANGE COMMISSION
Washington, D.C.
FORM 10-Q
 
(Mark One)
 
 
_X_
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2011 OR
 
 
___
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM ______________ TO _____________
 
UNITED BANCSHARES, INC.
 
(Exact name of registrant as specified in its charter)
 
0-25976
 
Commission File Number
     Pennsylvania
23-2802415
(State or other jurisdiction of
(I.R.S. Employer
Incorporation or organization)
Identification No.)

30 S. 15th Street, Suite 1200, Philadelphia, PA
19102
(Address of principal executive office)
(Zip Code)
 
(215) 351-4600
 
(Registrant's telephone number, including area code)
 
N/A
 
(Former name, former address and former fiscal year, if changed since last report)
 
Indicate by check mark whether registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding twelve months (or such shorter period that the registrant was required to filed such reports), and (2) has been subject to such filing requirements for the past 90 day. Yes _X_ No____
 
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Registration S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).        Yes ____ No____
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer.  See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one)
Large accelerated filer___
Accelerated filer___
Non-accelerated filer__
Smaller Reporting Company _X__
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act. Yes_____ No_X__
 
 
 
 
1

 
 
 
APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY PROCEEDINGS DURING THE PRECEDING FIVE YEARS:
 
Indicate by check mark whether the registrant has filed all documents and reports required to be filed by Sections 12, 13, or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court. Yes _____ No _____  Not Applicable.
 
Applicable only to corporate issuers:
 
Indicate the number of shares outstanding of each of the issuer's classes of common stock as of the latest practicable date.
 
United Bancshares, Inc. (sometimes herein also referred to as the “Company” or “UBS”) has two classes of capital stock authorized - 2,000,000 shares of $.01 par value Common Stock and 500,000 shares of $0.01 par value Series A Preferred Stock.
 
The Board of Directors designated a subclass of the common stock, Class B Common Stock, by filing of Articles of Amendment to its Articles of Incorporation on September 30, 1998.  This Class B Common Stock has all of the rights and privileges of Common Stock with the exception of voting rights.  Of the 2,000,000 shares of authorized Common Stock, 250,000 have been designated Class B Common Stock.  There is no market for the Common Stock.  As of November 3, 2011, the aggregate number of the shares of the Registrant’s Common Stock issued was 1,068,588 (including 191,667 Class B non-voting).
 
The Series Preferred Stock consists of 500,000 authorized shares of stock of which 250,000 have been designated as Series A Preferred stock of which 136,842 shares are issued as of November 3, 2011.

 
 
 
2

 
 
 
 
FORM 10-Q
 

 
Index
 
Item No.
Page
PART I-FINANCIAL INFORMATION
 
1.
Financial Statements
 
       
2.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
 
       
3.
Quantitative and Qualitative Disclosures about Market Risk
 
       
4.
Controls and Procedures
 
       
PART II-OTHER INFORMATION
 
1.
Legal Proceedings
 
       
1A.
Risk Factors
 
       
2.
Unregistered Sales of Equity Securities and Use of Proceeds
 
       
3.
Defaults upon Senior Securities
 
       
4
Reserved
 
       
5.
Other Information
 
       
6.
Exhibits
 

 

 
 
3

 

 

 

 
Item 1.  Consolidated Statements of Condition (unaudited)
 
   
September 30,
   
December 31,
 
   
2011
   
2010
 
Assets
           
Cash and due from banks
  $ 2,108,251     $ 2,144,390  
Interest bearing deposits with banks
    305,233       304,721  
Federal funds sold
    12,455,000       6,247,000  
Cash & cash equivalents
    14,868,484       8,696,111  
                 
Investment securities:
               
  Held-to-maturity, at amortized cost (fair value of $17,917,930   and $15,242,856. at September 30, 2011 and December 31, 2010, respectively)
    17,365,854       15,138,389  
 Available-for-sale, at fair value
    1,343,816       1,338,898  
                 
Loans , net of unearned discount
    41,642,955       45,612,217  
Less: allowance for loan losses
    (799,097 )     (925,905 )
Net loans
    40,843,858       44,686,312  
                 
Bank premises & equipment, net
    1,043,395       1,143,347  
Accrued interest receivable
    357,430       363,348  
Other real estate owned
    1,284,390       1,416,543  
Core deposit intangible
    358,331       491,889  
Prepaid expenses and other assets
    550,034       690,878  
Total Assets
  $ 78,015,592     $ 73,965,715  
 
               
Liabilities & Shareholders' Equity
               
Demand deposits, non-interest bearing
  $ 13,675,378     $ 13,528,781  
Demand deposits, interest bearing
    17,893,654       13,802,602  
Savings deposits
    14,590,335       13,856,033  
Time deposits, $100,000 and over
    18,179,695       17,975,595  
Time deposits
    7,779,102       8,047,679  
 
    72,118,164       67,210,690  
                 
Accrued interest payable
    46,604       56,907  
Accrued expenses and other liabilities
    316,743       400,702  
Total Liabilities
    72,481,511       67,668,299  
                 
Shareholders' equity:
               
Preferred Stock, Series A, non-cumulative, 6%, $.01 par value, 500,000 shares authorized, 136,842 issued
    1,368       1,368  
Common stock, $.01 par value; 2,000,000 shares authorized;876,921 shares issued and outstanding
    8,769       8,769  
 
               
Class B Non-voting common stock; 250,000 shares authorized; $0.01 par value;191,667 shares issued and outstanding
    1,917       1,917  
 
               
 Additional-paid-in-capital
    14,749,852       14,749,852  
 Accumulated deficit
    (9,266,398 )     (8,508,591 )
 Net unrealized gain on available-for-sale securities
    38,573       44,101  
Total shareholders' equity
    5,534,081       6,297,416  
 
  $ 78,015,592     $ 73,965,715  
 
See Accompanying Notes to Consolidated Financial Statements which are an integral part of the unaudited consolidated financial statements.




 
4

 


Consolidated Statements of Operation (unaudited)

 
 
Quarter ended
   
Quarter ended
   
Nine months ended
   
Nine months ended
 
 
 
September
   
September
   
September
   
September
 
   
2011
   
2010
   
2011
   
2010
 
Interest Income:
       
 
             
     Interest and fees on loans
  $ 654,573     $ 723,383     $ 1,974,564     $ 2,105,123  
     Interest on investment securities
    157,717       151,636       467,805       423,794  
     Interest on federal funds sold
    6,164       3,380       13,479       8,369  
     Interest on time deposits with other banks
    175       179       521       1,081  
Total interest income
    818,629       878,578       2,456,369       2,538,367  
                                 
Interest Expense:
                               
     Interest on time deposits
    37,208       53,102       115,751       158,740  
     Interest on demand deposits
    20,184       17,673       57,641       57,178  
     Interest on savings deposits
    2,680       3,595       9,571       10,914  
Total interest expense
    60,072       74,370       182,963       226,832  
                                 
Net interest income
    758,557       804,208       2,273,406       2,311,535  
                                 
Provision for loan losses
    30,000       70,000       100,000       477,000  
Net interest income less provision for
                         
     loan losses
    728,557       734,208       2,173,406       1,834,535  
                                 
Noninterest income:
                               
    Customer service fees
    93,319       107,859       286,654       326,025  
    ATM activity fees
    88,535       92,767       265,314       278,440  
    Loan syndication fees
    -       -       80,000       80,000  
    Net gain on sale of other real estate
    -       -       111,291       -  
Grant income
    -       394,400       -       394,400  
    Other income
    16,930       19,808       68,556       104,517  
Total noninterest income
    198,784       614,834       811,815       1,183,382  
                                 
Non-interest expense
                               
     Salaries, wages, and employee benefits
    417,229       428,283       1,262,393       1,298,635  
    Occupancy and equipment
    273,563       249,502       821,232       758,742  
    Office operations and supplies
    76,585       76,496       229,167       218,432  
    Marketing and public relations
    14,323       6,059       72,748       18,808  
    Professional services
    56,405       70,312       199,187       237,365  
    Data processing
    117,964       119,912       368,394       352,805  
    Deposit insurance assessments
    40,892       36,186       125,122       107,339  
    Loan and collection expense
    34,642       141,610       141,364       235,340  
    Other noninterest expense
    176,792       174,667       523,421       496,270  
Total non-interest expense
    1,208,395       1,303,027       3,743,028       3,723,736  
                                 
     Net (loss) income
  $ (281,054 )   $ 46,015     $ (757,807 )   $ (705,819 )
                                 
     (Loss) earnings per share-basic
    (0.26 )     0.04       (0.71 )     (0.66 )
     (Loss) earnings  per share-diluted
    (0.26 )     0.04       (0.71 )     (0.66 )
                                 
Weighted average number of shares
    1,065,088       1,065,088       1,065,088       1,065,088  
                                 
 
 
See Accompanying Notes to Consolidated Financial Statements which are an integral part of the unaudited consolidated financial statements.
 
 
 
5

 
 
 
Consolidated Statements of Cash Flows (unaudited)
 
     
Nine Months
   
Nine Months
 
     
September 30,2011
   
September 30,2010
 
Cash flows from operating activities
           
Net loss
    $ (757,807 )   $ (705,820 )
Adjustments to reconcile net loss to net cash
               
used in operating activities:
               
 
Provision for loan losses
    100,000       477,000  
 
Gain on sale of OREO property
    111,291       -  
 
Depreciation expense
    188,113       204,971  
 
Amortization expense
    176,809       168,706  
 
Decrease (increase) in accrued interest receivable and other assets
    146,762       (199,181 )
 
Decrease in accrued interest payable and other liabilites
    (94,262 )     (59,298 )
Net cash used in operating activities
    (129,094 )     (113,622 )
                   
Cash flows from investing activities
               
Purchase of investments-held-to-maturity
    (9,912,036 )     (14,596,763 )
Purchase of investments-available-for sale
    (262,041 )     -  
Proceeds from maturity and principal reductions of investments-available-for-sale
    251,656       437,726  
Proceeds from maturity and principal reductions of investments-held-to-maturity
    7,662,121       9,809,082  
Net decrease(increase) in loans
    3,742,454       (457,889 )
Purchase of premises and equipment
    (88,161 )     (57,927 )
Net cash provided by (used in) investing activities
    1,393,993       (4,865,771 )
                   
Cash flows from financing activities
               
Net increase in deposits
    4,907,474       8,170,625  
Net cash provided by financing activities
    4,907,474       8,170,625  
                   
Increase in cash and cash equivalents
    6,172,373       3,191,232  
                   
Cash and cash equivalents at beginning of period
    8,696,111       6,289,844  
                   
Cash and cash equivalents at end of period
  $ 14,868,484     $ 9,481,076  
                   
Supplemental disclosures of cash flow information
               
Cash paid during the period for interest
  $ 193,266     $ 218,391  
Noncash transfer of loans to other real estate owned
  $ 602,100     $ 1,633,947  
                   
 
See Accompanying Notes to Consolidated Financial Statements which are an integral part of the unaudited consolidated financial statements.
 

 
6

 
 

 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(unaudited)
 
1. Significant Accounting Policies
 
 
United Bancshares, Inc. (the "Company") is a bank holding company registered under the Bank Holding Company Act of 1956.  The Company's principal activity is the ownership and management of its wholly owned subsidiary, United Bank of Philadelphia (the "Bank").

During interim periods, the Company follows the accounting policies set forth in its Annual Report on Form 10-K filed with the Securities and Exchange Commission.  Readers are encouraged to refer to the Company's Form 10-K for the fiscal year ended December 31, 2010 when reviewing this Form 10-Q.  Quarterly results reported herein are not necessarily indicative of results to be expected for other quarters.

In the opinion of management, the accompanying unaudited consolidated financial statements contain all adjustments (consisting of normal recurring adjustments) considered necessary to present fairly the Company's consolidated financial position as of September 30, 2011 and December 31, 2010 and the consolidated results of its operations for the three and nine month periods ended September 30, 2011 and 2010, and its consolidated cash flows for the three and nine month periods ended September 30, 2011 and 2010.

Management’s Use of Estimates
The preparation of the financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes.  Actual results could differ from those estimates.  Material estimates which are particularly susceptible to significant change in the near term relate to the fair value of investment securities, the determination of the allowance for loan losses, valuation allowance for deferred tax assets and consideration of impairment of other intangible assets.

Commitments
In the general course of business, there are various outstanding commitments to extend credit, such as letters of credit and un-advanced loan commitments, which are not reflected in the accompanying financial statements. Management does not anticipate any material losses as a result of these commitments.

Contingencies
The Company is from time to time a party to routine litigation in the normal course of its business. Management does not believe that the resolution of this litigation will have a material adverse effect on the financial condition or results of operations of the Company. However, the ultimate outcome of any such litigation, as with litigation generally, is inherently uncertain and it is possible that some litigation matters may be resolved adversely to the Company.
 
Non-accrual and Past Due Loans.
Loans are considered past due if the required principal and interest payments have not been received 30 days as of the date such payments were due.  The Bank generally places a loan on non-accrual status when interest or principal is past due 90 days or more.  If it otherwise appears doubtful that the loan will be repaid, management may place the loan on nonaccrual status before the lapse of 90 days. Interest on loans past due 90 days or more ceases to accrue except for loans that are well collateralized and in the process of collection.  When a loan is placed on nonaccrual status, previously accrued and unpaid interest is reversed out of income.  Loans are returned to accrual status when all the principal and interest amounts contractually due are brought current and future payments are reasonably assured.
 
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.  Deferred tax assets are subject to management’s judgment based upon available evidence that future realization is more likely than not.   For financial reporting purposes, a valuation allowance of 100% of the net deferred tax asset has been recognized to offset the net deferred tax assets related to cumulative temporary differences and tax loss carryforwards.  If management determines that the Company may be able to realize all or part of the deferred tax asset in the future, an income tax benefit may be required to increase the recorded value of the net deferred tax asset to the expected realizable amount.
 
 
 
7

 
 
 
 
When tax returns are filed, it is highly certain that some positions taken would be sustained upon examination by the taxing authorities, while others are subject to uncertainty about the merits of the position taken or the amount of the position that ultimately would be sustained. The benefit of a tax position is recognized in the financial statements in the period during which, based on all available evidence, management believes it is more-likely-than not that the position will be sustained upon examination, including the resolution of appeals or litigation processes, if any. The evaluation of a tax position taken is considered by itself and not offset or aggregated with other positions. Tax positions that meet the more-likely-than not recognition threshold are measured as the largest amount of tax benefit that is more than 50 percent likely of being realized upon settlement with the applicable taxing authority. The portion of benefits associated with tax positions taken that exceeds the amount measured as described above is reflected as a liability for unrecognized tax benefits in the accompanying balance sheet along with any associated interest and penalties that would be payable to the taxing authorities upon examination.
 
Interest and penalties associated with unrecognized tax benefits, if any, would be recognized in income tax expense in the consolidated statements of operations.
 
2.  Comprehensive (Loss) Income
 
Total comprehensive (loss) income includes net (loss) income and other comprehensive income or loss that is comprised of unrealized gains and losses on investment securities available for sale, net of taxes.  The Company’s total comprehensive (loss) income for the three months ended September 30, 2011 and 2010 was $(285,106) and $44,324, respectively. The Company’s total comprehensive loss for the nine months ended September 30, 2011 and 2010 was $(763,335) and $(709,200), respectively.  The difference between the Company’s net loss and total comprehensive loss for these periods relates to the change in net unrealized gains and losses on investment securities available for sale during the applicable period of time.
 
3. Net (Loss) Income Per Share
 
The calculation of net (loss) income per share follows:

 
Three Months Ended September 30, 2011
Three Months Ended September 30, 2010
Nine Months Ended September 30, 2011
 
Nine Months Ended September 30, 2010
 
Basic:
       
Net (loss) income available to common shareholders
($281,054)
$46,015
($757,807)
($705,819)
Average common shares outstanding-basic
1,065,588
1,065,588
1,065,588
1,065,588
Net (loss) income per share-basic
($0.26)
$0.04
($0.71)
($0.66)
Diluted:
       
Average common shares-diluted
1,065,588
1,065,588
1,065,588
1,065,588
Net (loss) income per share-diluted
($0.26)
$0.04
($0.71)
($0.66)
 
 
 
 
8

 
 
 
The preferred stock is non cumulative and the Company is restricted from paying dividends.  Therefore, no effect of the preferred stock is included in the loss per share calculations.
 
4.      New Authoritative Accounting Guidance

In April 2011, the FASB issued Accounting Standards Update No. 2011-02, Receivables (Topic 310): A Creditor’s Determination of Whether a Restructuring Is a Troubled Debt Restructuring. The FASB believes the guidance in this ASU will improve financial reporting by creating greater consistency in the way GAAP is applied for various types of debt restructurings.  The ASU clarifies which loan modifications constitute troubled debt restructurings. It is intended to assist creditors in determining whether a modification of the terms of a receivable meets the criteria to be considered a troubled debt restructuring, both for purposes of recording an impairment loss and for disclosure of troubled debt restructurings.  In evaluating whether a restructuring constitutes a troubled debt restructuring, a creditor must separately conclude that both of the following exist: (a) the restructuring constitutes a concession; and (b) the debtor is experiencing financial difficulties. The amendments to FASB ASC Topic 310, Receivables, clarify the guidance on a creditor’s evaluation of whether it has granted a concession and whether a debtor is experiencing financial difficulties.  For public companies, the new guidance is effective for interim and annual periods beginning on or after June 15, 2011, and applies retrospectively to restructurings occurring on or after the beginning of the fiscal year of adoption.  The Company's adoption of this ASU on July 1, 2011 did not have a material impact on the Company's consolidated financial position or results of operations.

ASU No. 2011-03, in May 2011, the FASB issued Accounting Standards Update (ASU) No. 2011-04, Fair Value Measurement (Topic 820): Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRSs. This ASU represents the converged guidance of the FASB and the International Accounting Standards Board (the “Boards”) on fair value measurement. The collective efforts of the Boards and their staffs, reflected in ASU 2011-04, have resulted in common requirements for measuring fair value and for disclosing information about fair value measurements, including a consistent meaning of the term “fair value.” The Boards have concluded the common requirements will result in greater comparability of fair value measurements presented and disclosed in financial statements prepared in accordance with U.S. GAAP and International Financial Reporting Standards. The amendments to the Codification in ASU 2011-04 are to be applied prospectively. For public entities, the amendments are effective during interim and annual periods beginning after December 15, 2011.  The Company is evaluating the impact of ASU 2011-04 on its consolidated financial statements.
 
In June 2011, the FASB issued Accounting Standards Update (ASU) No. 2011-05, Comprehensive Income (Topic 220): Presentation of Comprehensive Income. This ASU amends the Codification to allow an entity the option to present the total of comprehensive income, the components of net income, and the components of other comprehensive income either in a single continuous statement of comprehensive income or in two separate but consecutive statements. In both choices, an entity is required to present each component of net income along with total net income, each component of other comprehensive income along with a total for other comprehensive income, and a total amount for comprehensive income. ASU 2011-05 eliminates the option to present the components of other comprehensive income as part of the statement of changes in stockholders' equity. The amendments to the Codification in ASU 2011-05 do not change the items that must be reported in other comprehensive income or when an item of other comprehensive income must be reclassified to net income.  ASU 2011-05 should be applied retrospectively. For public entities, the amendments are effective for fiscal years, and interim periods within those years, beginning after December 15, 2011. The Company is evaluating the impact of ASU 2011-05 on the presentation of its consolidated financial statements.

 
 
 
9

 
 
 
5.  Investment Securities
 
The following is a summary of the Company's investment portfolio as of September 30, 2011: 
 
(In 000’s)
 
 
 
Amortized Cost
   
 
Gross unrealized gains
   
 
Gross unrealized losses
   
 
 
Fair Value
 
Available-for-sale:
                       
Government Sponsored Enterprises residential mortgage-backed securities
  $ 1,157     $ 58     $  -     $ 1,215  
Investments in mutual funds
    129       -       -       129  
    $ 1,286     $ 58       -     $ 1,344  
Held-to-maturity:
                               
U.S. government agencies
  $ 7,527     $ 170     $ -     $ 7,697  
Government Sponsored Enterprises residential mortgage-backed securities
       9,839         387       (4 )       10,222  
 
  $ 17,366     $ 557     $ ( 4 )   $ 17,919  
 
The following is a summary of the Company's investment portfolio as of December 31, 2010: 
 
(In 000’s)
                       
   
Amortized Cost
   
Gross unrealized gains
   
Gross unrealized losses
   
Fair Value
 
Available-for-sale:
                       
Government Sponsored Enterprises residential mortgage-backed securities
  $ 1,144     $ 66     $  -     $ 1,210  
Investments in mutual funds
    129       -       -       129  
    $ 1,273     $ 66     $ -     $ 1,339  
Held-to-maturity:
                               
U.S. government agencies
  $ 10,402     $ 90     $ (145 )   $ 10,347  
Government Sponsored Enterprises residential mortgage-backed securities
      4,736         166       (6 )       4,896  
    $ 15,138     $ 256     $ (151 )   $ 15,243  
 
 
 
 
10

 
 
 
 
The amortized cost and fair value of debt securities classified as available-for-sale and held-to-maturity, by contractual maturity, as of September 30, 2011, are as follows:
 
(In 000’s)
     
   
Amortized Cost
   
Fair Value
 
Available-for-Sale
           
Due within one year
  $ -     $ -  
Due after one year through three years
    -       -  
Due after three years through five years
    -       -  
Due five years through ten years
    -       -  
Due  after 10 years
    -       -  
Government Sponsored Enterprises residential mortgage-backed securities
    1,157       1,215  
     Total debt securities
  $ 1,157     $ 1,215  
                 
Held-to-maturity
               
Due within one year
  $ -     $ -  
Due after one year through three years
    -       -  
Due after three years through five years
    250       253  
Due five years through ten years
    6,499     $ 6,662  
Due  after 10 years
    778       783  
Government Sponsored Enterprises residential mortgage-backed securities
    9,839       10,222  
    $ 17,366     $ 17,919  
 
Expected maturities will differ from contractual maturities because the issuers of certain debt securities have the right to call or prepay their obligations without any penalties.
 
The table below indicates the length of time individual securities have been in a continuous unrealized loss position at September 30, 2011:
 
(in 000’s)
 
Less Than 12 Months
   
12 Months or Greater
   
Total
 
Description of Securities
 
Fair
Value
   
Unrealized
Losses
   
Fair
Value
   
Unrealized
Losses
   
Fair
Value
   
Unrealized
Losses
 
Held-to-maturity:
                                   
Government Sponsored Enterprises residential mortgage-backed securities
  $ 517     $ (4 )   $ -     $ -     $ 517     $ (4 )
     Total
  $ 517     $ (4 )   $ -     $ -     $ 517     $  (4 )
                                                 
 
The table below indicates the length of time individual securities have been in a continuous unrealized loss position at December 31, 2010:
 
(in 000’s)
 
Less Than 12 Months
   
12 Months or Greater
   
Total
 
Description of Securities
 
Fair
Value
   
Unrealized
Losses
   
Fair
Value
   
Unrealized
Losses
   
Fair
Value
   
Unrealized
Losses
 
Held-to-maturity:
                                   
U.S. government agencies
  $ 5,398     $ (145 )   $ -     $ -     $ 5,398     $ (145 )
Government Sponsored Enterprises residential mortgage-backed securities
    536       (6 )      -        -       536       (6 )
     Total
  $ 5,934     $ (151 )   $ -     $ -     $ 5,934     $ (151 )
 
U.S. government agencies. Unrealized losses on the Company’s investments in direct obligations of U.S. government agencies were caused by interest rate increases. The contractual terms of those investments do not permit the issuer to settle the securities at a price less than the amortized cost bases of the investments. Because the Company does not intend to sell the investments and it is not more likely than not that the Company will be required to sell the investments before recovery of their amortized cost bases, which may be maturity, the Company does not consider those investments to be other-than-temporarily impaired at September 30, 2011.
 
 
 
 
11

 
 
 
 
Government Sponsored Enterprises residential mortgage-backed securities. Unrealized losses on the Company’s investment in federal agency mortgage-backed securities were caused by interest rate increases. The Company purchased those investments at a discount relative to their face amount, and the contractual cash flows of those investments are guaranteed by an agency of the U.S. government. Accordingly, it is expected that the securities would not be settled at a price less than the amortized cost bases of the Company’s investments. Because the decline in fair value is attributable to changes in interest rates and not credit quality, and because the Company does not intend to sell the investments and it is not more likely than not that the Company will be required to sell the investments before recovery of their amortized cost bases, which may be maturity, the Company does not consider those investments to be other-than-temporarily impaired at September 30, 2011.
 
The Company has a process in place to identify debt securities that could potentially have a credit impairment that is other than temporary.  This process involves monitoring late payments, pricing levels, downgrades by rating agencies, key financial ratios, financial statements, revenue forecasts and cash flow projections as indicators of credit issues.  On a quarterly basis, the Company reviews all securities to determine whether an other-than-temporary decline in value exists and whether losses should be recognized. The Company considers relevant facts and circumstances in evaluating whether a credit or interest rate-related impairment of a security is other than temporary. Relevant facts and circumstances considered include: (1) the extent and length of time the fair value has been below cost; (2) the reasons for the decline in value; (3) the financial position and access to capital of the issuer, including the current and future impact of any specific events and (4) for fixed maturity securities, the intent to sell a security or whether it is more likely than not the Company will be required to sell the security before the recovery of its amortized cost which, in some cases, may extend to maturity and for equity securities, the Company’s ability and intent to hold the security for a period of time that allows for the recovery in value.
 
6. Allowance for Loan Losses
 
The determination of the allowance for loan losses involves a higher degree of judgment and complexity than its other significant accounting policies. The allowance is the accumulation of three components that are calculated based on various independent methodologies that are based on management’s estimates.  The three components are as follows:
 
 
·
Specific Loan Evaluation Component – Includes the specific evaluation of impaired loans.  
 
 
·
Historical Charge-Off Component – Applies a rolling, twelve-quarter historical charge-off rate to all pools of non-classified loans.
 
 
·
Qualitative Factors Component – The loan portfolio is broken down into multiple homogenous sub classifications, upon which multiple factors (such as delinquency trends, economic conditions, concentrations, growth/volume trends, and management/staff ability) are evaluated, resulting in an allowance amount for each of the sub classifications. The sum of these amounts comprises the Qualitative Factors Component.
 
All of these factors may be susceptible to significant change.   There has been no change in qualitative factors during the nine months ended September 30, 2011.  However, the average 3-year net loss factors have declined during the period in each portfolio segment as a result of a lower level of net charge-offs in 2011.  To the extent actual outcomes differ from management’s estimates, additional provisions for loan losses may be required that would adversely impact earnings in future periods.
 
 
 
12

 
 
 
The following table presents an analysis of the allowance for loan losses. 
 
(in 000's)
  For the nine months ended September 30, 2011  
   
Commercial and industrial
   
Commercial real estate
   
Consumer real estate
   
Consumer loans other
   
Total
 
Beginning balance
  $ 301     $ 553     $ 52     $ 20     $ 926  
Provision for loan losses
    55       23       15       7     $ 100  
                                         
Charge-offs
    (62 )     (148 )     -       (42 )     (252 )
Recoveries
    1       5       4       15       25  
Net charge-offs
    (61 )     (143 )     4       (27 )     (227 )
                                         
Ending balance
  $ 295     $ 433     $ 71     $ -     $ 799  
                                         
Period-end amount allocated to:
                                       
                                         
 Loans indivdually evaluated for impairment
  $ 250     $ -     $ -     $ -     $ 250  
 Loans collectively  evaluated for impairment
    45       433       71       -       549  
    $ 295     $ 433     $ 71     $ -     $ 799  
                                         
Loans, ending balance:
                                       
 Loans indivdually evaluated for impairment
  $ 614     $ 1,137     $ -     $ -     $ 1,751  
 Loans collectively  evaluated for impairment
    3,135       28,959       5,792       2,006       39,892  
Total
  $ 3,749     $ 30,096     $ 5,792     $ 2,006     $ 41,643  
                                         
              For the nine months ended September 30, 2010  
Allowance for credit losses
                                       
Beginning balance
                                  $ 727  
Charge-offs:
                                    (462 )
Recoveries:
                                    29  
    Net charge-offs
                                    (433 )
    Provisions for loan losses
                                    477  
Ending balance
                                  $ 771  
 
 
(in 000's)
   For the Quarter ended September 30, 2011  
   
Commercial and industrial
   
Commercial real estate
   
Consumer real estate
   
Consumer loans other
   
Total
 
Beginning balance
  $ 280     $ 432     $ 55     $ -     $ 767  
Provision for loan losses
    15       -       15       -     $ 30  
                                         
Charge-offs
    -       -       -       (5 )     (5 )
Recoveries
    -       1       1       5       7  
Net charge-offs
    -       1       1       -       2  
                                         
Ending balance
  $ 295     $ 433     $ 71     $ -     $ 799  
                                         
Period-end amount allocated to:
                                       
                                         
 Loans indivdually evaluated for impairment
  $ 250     $ -     $ -     $ -     $ 250  
 Loans collectively  evaluated for impairment
    45       433       71       -       549  
    $ 295     $ 433     $ 71     $ -     $ 799  
                                         
Loans, ending balance:
                                       
 Loans indivdually evaluated for impairment
  $ 614     $ 1,137     $ -     $ -     $ 1,751  
 Loans collectively  evaluated for impairment
    3,135       28,959       5,792       2,006       39,892  
Total
  $ 3,749     $ 30,096     $ 5,792     $ 2,006     $ 41,643  
                                         
                For the Quarter ended September 30, 2010  
Allowance for credit losses
                                       
Beginning balance
                                  $ 845  
Charge-offs:
                                    (153 )
Recoveries:
                                    9  
    Net charge-offs
                                    (144 )
    Provisions for loan losses
                                    70  
Ending balance
                                  $ 771  
 
 
 
13

 

 
Nonperforming and Nonaccrual and Past Due Loans
 
An age analysis of past due loans, segregated by class of loans, as of September 30, 2011 follows:

(In 000's)
       
Accruing
                         
   
Loans
   
Loans 90 or
   
 
                   
   
30-89 Days
   
More Days
         
Total Past
   
Current
       
   
Past Due
   
Past Due
   
Nonaccrual
   
Due Loans
   
Loans
   
Total Loans
 
Commercial and industrial:
                                   
     Commercial
  $ 34     $ -     $ 495       529     $ 1,001     $ 1,530  
     SBA loans
    -       -       18       18       236       254  
     Asset-based
    -       -       101       101       1,864       1,965  
        Total Commercial and industrial
    34       -       615       649       3,100       3,749  
                                                 
Commercial real estate:
                                               
     Commercial mortgages
    38       -       646       684       14,167       14,851  
     SBA loans
    -       -       58       58       482       540  
     Construction
    -       -       -       -       1,002       1,002  
     Religious organizations
    -       173       433       606       13,097       13,703  
         Total Commercial real estate
    38       173       1,137       1,348       28,748       30,096  
                                                 
Consumer real estate:
                                               
     Home equity loans
    342       -       128       470       1,295       1,765  
     Home equity lines of credit
    -       -       38       38       511       549  
     1-4 family residential mortgages
    -       -       302       302       3,176       3,478  
         Total consumer real estate
    342       -       468       810       4,982       5,792  
                                                 
Total real estate
    380       173       1,605       2,158       33,730       35,888  
                                                 
Consumer and other:
                                               
     Consumer installment
    -       -       1       1       54       55  
     Student loans
    57       7       -       64       1,719       1,783  
     Other
    6       -       -       6       162       168  
         Total consumer and other
    63       7       1       71       1,935       2,006  
                                                 
         Total loans
  $ 477     $ 180     $ 2,220     $ 2,877     $ 38,766     $ 41,643  
                                                 
 
 
 
14

 
 

An age analysis of past due loans, segregated by class of loans, as of December 31, 2010 follows:
 
(In 000's)
       
Accruing
                         
   
Loans
   
Loans 90 or
   
 
                   
 
 
30-89 Days
   
More Days
         
Total Past
   
Current
    Total  
   
Past Due
   
Past Due
   
Nonaccrual
   
Due Loans
   
Loans
   
Loans
 
Commercial and industrial:
                                   
Commercial
  $ 442     $ -     $ 505       946     $ 2,187     $ 3,133  
SBA loans
    12       -       18       30       199       229  
Asset-based
    -       -               -       2,367       2,367  
Total commercial and industrial
    454       -       523       976       4,753       5,729  
                                                 
Commercial real estate:
                                               
Commercial mortgages
    125       -       1,495       1,620       14,154       15,774  
SBA loans
                    58       58       1,253       1,311  
Religious organizations
    126       -       315       441       13,213       13,653  
Total commercial real estate
    251       -       1,868       2,119       28,620       30,738  
                                                 
Consumer real estate:
                                               
Home equity loans
    155       142       130       427       1,386       1,813  
Home equity lines of credit
    -       -       -       -       714       714  
1-4 family residential mortgages
    -       -       261       261       4,171       4,432  
Total consumer real estate
    155       142       391       688       6,271       6,959  
                                                 
Total real estate
    406       142       2,258       2,806       34,891       37,697  
                                                 
Consumer and other:
                                               
Consumer installment
    8       -       -       8       74       82  
Student loans
    87       44       -       131       1,781       1,912  
Other
    13       19       -       32       160       192  
Total consumer and other
    108       63       -       171       2,016       2,186  
                                                 
Total loans
  $ 967     $ 205     $ 2,781     $ 3,953     $ 41,660     $ 45,613  
 
Loan Origination/Risk Management.  The Bank has lending policies and procedures in place to maximize loan income within an acceptable level of risk.  Management reviews and approves these policies and procedures on a regular basis.  A reporting system supplements the review process by providing management with periodic reports related to loan origination, asset quality, concentrations of credit, loan delinquencies and non-performing and emerging problem loans.  Diversification in the portfolio is a means of managing risk with fluctuations in economic conditions.
 
Credit Quality Indicators.  For commercial loans, management uses internally assigned risk ratings as the best indicator of credit quality.  Each loan’s internal risk weighting is assigned at origination and updated at least annually and more frequently if circumstances warrant a change in risk rating.  The Bank uses a 1 through 7 loan grading system that follows regulatory accepted definitions as follows:

 
·
Risk ratings of “1” through “3” are used for loans that are performing and meet and are expected to continue to meet all of the terms and conditions set forth in the original loan documentation and are generally current on principal and interest payments.  Loans with these risk ratings are reflected as “Good/Excellent” and “Satisfactory” in the following table.
 
·
Risk ratings of “4” are assigned to “Pass/Watch” loans which may require a higher degree of regular, careful attention.  Borrowers may be exhibiting weaker balance sheets and positive but inconsistent cash flow coverage. Borrowers in this classification generally exhibit a higher level of credit risk and are not adversely classified and do not expose the Bank to sufficient risk to warrant adverse classification. Loans with this rating would not normally be acceptable as new credits unless they are adequately secured and/or carry substantial guarantors. Loans with this rating are reflected as “Pass” in the following table.
 
·
Risk ratings of “5” are assigned to “Special Mention” loans that do not presently expose the Bank to a significant degree of risks, but have potential weaknesses/deficiencies deserving Management’s closer attention.  If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the asset or in the Bank’s credit position at some future date. No loss of principal or interest is envisioned.  Borrower is experiencing adverse operating trends, which potentially could impair debt, services capacity and may necessitate restructuring of credit.  Secondary sources of repayment are accessible and considered adequate to cover the Bank's exposure. However, a restructuring of the debt should result in repayment.  The asset is currently protected, but is potentially weak.  This category may include credits with inadequate loan agreements, control over the collateral or an unbalanced position in the balance sheet which has not reached a point where the liquidation is jeopardized but exceptions are considered material. These borrowers would have limited ability to obtain credit elsewhere.
 
 
 
 
15

 
 
 
 
 
·
Risk ratings of “6” are assigned to “Substandard” loans which are inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any. Assets must have a well-defined weakness. They are characterized by the distinct possibility that some loss is possible if the deficiencies are not corrected. The borrower’s recent performance indicated an inability to repay the debt, even if restructured. Primary source of repayment is gone or severely impaired and the Bank may have to rely upon the secondary source. Secondary sources of repayment (e.g., guarantors and collateral) should be adequate for a full recovery. Flaws in documentation may leave the bank in a subordinated or unsecured position when the collateral is needed for the repayment.
 
·
Risk ratings of “7” are assigned to “Doubtful” loans which have all the weaknesses inherent in those classified “Substandard” with the added characteristic that the weakness makes the collection or liquidation in full, on the basis of current existing facts, conditions, and values, highly questionable and improbable.  The borrower's recent performance indicates an inability to repay the debt.  Recovery from secondary sources is uncertain.  The possibility of a loss is extremely high, but because of certain important and reasonably- specific pending factors, its classification as a loss is deferred.
 
·
Risk rating of “8” are assigned to “Loss” loans which are considered non-collectible and do not warrant classification as active assets.  They are recommended for charge-off if attempts to recover will be long term in nature.  This classification does not mean that an asset has no recovery or salvage value, but rather, that it is not practical or desirable to defer writing off the loss, although a future recovery may be possible.  Loss should always be taken in the period in which they surface and are identified as non-collectible as a result there is no tabular presentation.
 
For consumer and residential mortgage loans, management uses performing versus nonperforming as the best indicator of credit quality.  Nonperforming loans consist of loans that are not accruing interest (nonaccrual loans) as a result of principal or interest being in default for a period of 90 days or more or when the ability to collect principal and interest according to contractual terms is in doubt.  These credit quality indicators are updated on an ongoing basis.  A loan is placed on nonaccrual status as soon as management believes there is doubt as to the ultimate ability to collect interest on a loan, but no later than 90 days past due.
 
 
 
 
16

 
 
 
The tables below detail the Bank’s loans by class according to their credit quality indictors discussed above.
 
(In 000's)
    September 30, 2011  
   
Good/Excellent
   
Satisfactory
   
Pass
   
Special Mention
   
Subtandard
   
Doubtful
   
Total
 
                                           
                                           
         
 
                               
Commercial and industrial:
                                         
    Commercial
  $ 379     $ 576     $ 45     $ 35     $ 269     $ 226     $ 1,531  
    SBA loans
    -       130       56       -       68               254  
Asset-based
    -       1,794       70       -       101               1,965  
      379       2,500       171       35       438       226       3,749  
Commercial real estate:
                                                       
Commercial mortgages
    -       13,309       158       -       1,384               14,851  
SBA Loans
    -       474       -       -       66               541  
Construction
    -       1,002       -       -       -               1,002  
Religious organizations
    -       9,864       2,957       -       882               13,703  
      -       24,650       3,115       -       2,332               30,097  
                                                         
Total commercial loans
  $ 379     $ 27,149     $ 3,286     $ 35     $ 2,770     $ 226     $ 33,846  
                                                         
                                                         
      September 30,2011  
   
Residential Mortgage & Consumer Loans- Performing/Nonperforming
         
   
Performing
               Nonperforming
 
     
Total
                 
                                                         
Consumer Real Estate:
                                                       
Home equity
  $ 1,637             $ 128             $ 1,765                  
Home equity line of credit
    511               38               549                  
1-4 family residential mortgages
    3,176               302               3,478                  
      5,324               468               5,792                  
                                                         
Consumer Other:
                                                       
Consumer Installment
    54               1               55                  
Student loans
    1,783               -               1,783                  
Other
    168               -               168                  
      2,005               1               2,006                  
                                                         
Total  consumer loans
  $ 7,329             $ 469             $ 7,798                  
                                                         
Total loans
                                                  $ 41,644  
 
 
17

 
 
 

 
(In 000's)
  December 31, 2010  
   
Good/Excellent
   
Satisfactory
   
Pass
   
Special Mention
   
Subtandard
   
Total
 
                                     
                                     
         
 
                         
Commercial and industrial:
                                   
Commercial
  $ 379     $ 2,079     $ 72     $ 98     $ 505     $ 3,133  
SBA loans
    -       90       71       -       68       229  
Asset-based
    -       2,083       184       100       -       2,367  
      379       4,252       327       198       573       5,729  
Commercial real estate:
                                               
Commercial mortgages
    -       13,902       264       -       1,608       15,774  
SBA Loans
            1,241       -       -       70       1,311  
Religious organizations
    -       9,920       2,932       360       441       13,653  
      -       25,063       3,196       360       2,119       30,738  
                                                 
Total commercial loans
  $ 379     $ 29,315     $ 3,523     $ 558     $ 2,692     $ 36,467  
                                                 
                                                 
    December 31, 2010  
   
Residential Mortgage & Consumer Loans- Performing/Nonperforming
                 
   
Performing
           
Nonperforming
           
Total
         
                                                 
Consumer Real Estate:
                                               
Home equity
  $ 1,683             $ 130             $ 1,813          
Home equity line of credit
    714               -               714          
1-4 family residential mortgages
    4,171               261               4,432          
      6,568               391               6,959          
                                                 
Consumer Other:
                                               
Consumer Installment
    82               -               82          
Student loans
    1,912               -               1,912          
Other
    192               -               192          
      2,186               -               2,186          
                                                 
Total  consumer loans
  $ 8,754             $ 391             $ 9,145          
                                                 
Total loans
                                          $ 45,612  

 
Impaired Loans. The Bank identifies a loan as impaired when it is probable that interest and principal will not be collected according to the contractual terms of the loan agreement. The Bank recognizes interest income on impaired loans under the cash basis when the collateral on the loan is sufficient to cover the outstanding obligation to the Bank.   If these factors do not exist, the Bank will record interest payments on the cost recovery basis.
 
In accordance with guidance provided by ASC 310-10, Accounting by Creditors for Impairment of a Loan, management employs one of three methods to determine and measure impairment: the Present Value of Future Cash Flow Method; the Fair Value of Collateral Method; or the Observable Market Price of a Loan Method.  To perform an impairment analysis, the Company reviews a loan’s internally assigned grade, its outstanding balance, guarantors, collateral, strategy, and a current report of the action being implemented. Based on the nature of the specific loans, one of the impairment methods is chosen for the respective loan and any impairment is determined, based on criteria established in ASC 310-10.
 
The Company makes partial charge-offs of impaired loans when the impairment is deemed permanent and is considered a loss.  To date, these charge-offs have only included the unguaranteed portion of Small Business Administration (“SBA”) loans.  Specific reserves are allocated to cover “other-than-permanent” impairment for which the underlying collateral value may fluctuate with market conditions. During the nine months ended September 30, 2011, there were no partial charge-offs of impaired loans.  During the nine months ended September 30, 2010, the Company charged-off approximately $13,000 related to the unguaranteed portion on one impaired SBA loan that had no significant impact on credit loss ratios and/or asset quality trends.
 
Consumer real estate and other loans are not individually evaluated for impairment, but collectively evaluated, because they are pools of smaller balance homogeneous loans.
 
 
 
18

 
 
 
 
Impaired loans as of September 30, 2011 are set forth in the following table.
 
(In 000's)
 
Unpaid
   
Recorded
   
Recorded
               
 
     Interest  
   
Contractual
   
Investment
   
Investment
   
Total
         
Average
   
recognized
 
   
Principal
   
With No
   
With
   
Recorded
   
Related
   
Recorded
   
on impaired
 
   
Balance
   
Allowance
   
Allowance
   
Investment
   
Allowance
   
Investment
   
loans
 
                                           
Commercial and industrial:
       
 
                               
Commercial
  $ 495     $ 78     $ 417     $ 495     $ 250     $ 479     $ -  
SBA  loans
    18       18       -       18       -       18       -  
Asset-based
    101       101       -       101       -       45       -  
Total Commercial and industrial
    614       197       417       614       250       542       -  
                                                         
Commercial real estate:
                                                       
Commercial mortgages
    646       646       -       646       -       846       -  
SBA  Loans
    58       58       -       58       -       58       -  
Religious Organizations
    433       433       -       433       -       439       3  
Total Commercial real estate
    1,137       1,137       -       1,137       -       1,343       3  
                                                         
Total Loans
  $ 1,751     $ 1,334     $ 417     $ 1,751     $ 250     $ 1,885     $ 3  
 
Impaired loans as of December 31, 2010 are set forth in the following table.
 
   
Unpaid
   
Recorded
   
Recorded
               
 
       
   
Contractual
   
Investment
   
Investment
   
Total
         
Average
   
Interst Collected
 
 
 
Principal
   
With No
   
With
   
Recorded
   
Related
   
Recorded
   
on impaired
 
   
Balance
   
Allowance
   
Allowance
   
Investment
   
Allowance
   
Investment
   
loans
 
                                           
Commercial and industrial:
                                         
Commercial
  $ 505     $ 422     $ 83     $ 505     $ 83     $ 73     $ 21  
SBA  loans
    21       18       -     $ 18       -       20       -  
Asset-based
    -       -       -       -       -       20       -  
Total commercial and industrial
    526       440       83       523       83       113       21  
                                                         
Commercial real estate:
                                                       
Commercial mortgages
    1,412       577       835       1,412       156       1,700       25  
SBA  loans
    150       140       -       140       -       289       -  
Construction
    -       -       -       -       -       338       -  
Religious organizations
    441       441       -       441       -       312       17  
Total commercial real estate
    2,003       1,158       835       1,993       156       2,639       42  
                                                         
Total Loans
  $ 2,529     $ 1,598     $ 918     $ 2,516     $ 238     $ 2,752     $ 63  
 
Troubled debt restructurings (“TDRs”).  TDRs occur when a creditor, for economic or legal reasons related to a debtor’s financial condition, grants a concession to the debtor that it would not otherwise consider, such as a below market interest rate, extending the maturity of a loan, or a combination of both. The Company made modifications to certain loans in its commercial loan portfolio that included the term out of lines of credit to begin the amortization of principal.  The terms of these loans do not include any financial concessions and are consistent with the current market.  Management reviews all loan modifications to determine whether the modification qualifies as a troubled debt restructuring (i.e. whether the creditor has been granted a concession or is experiencing financial difficulties).  Based on this review and evaluation, none of the modified loans met the criteria of a troubled debt restructuring.  Therefore, the Company had no troubled debt restructurings at September 30, 2011 and December 31, 2010.
 
7.  Fair Value
 
Fair Value Measurement
 
The Company uses fair value measurements to record fair value adjustments to certain assets and liabilities and to determine fair value disclosures. In accordance with the Fair Value Measurements and Disclosures topic of ASC 820, the fair value of a financial instrument is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Fair value is best determined based upon quoted market prices. However, in many instances, there are no quoted market prices for the Company's various financial instruments. In cases where quoted market prices are not available, fair values are based on estimates using present value or other valuation techniques. Those techniques are significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. Accordingly, the fair value estimates may not be realized in an immediate settlement of the instrument.
 
 
 
 
19

 
 
 
The fair value guidance in FASB ASC 820 provides a consistent definition of fair value, which focuses on exit price in an orderly transaction (that is, not a forced liquidation or distressed sale) between market participants at the measurement date under current market conditions. If there has been a significant decrease in the volume and level of activity for the asset or liability, a change in valuation technique or the use of multiple valuation techniques may be appropriate. In such instances, determining the price at which willing market participants would transact at the measurement date under current market conditions depends on the facts and circumstances and requires the use of significant judgment. The fair value is a reasonable point within the range that is most representative of fair value under current market conditions. In accordance with this guidance, the Company groups its assets and liabilities carried at fair value in three levels as follows:
 
Level 1
 
·
Unadjusted quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities.

Level 2
 
·
Quoted prices for similar assets or liabilities in active markets.
 
·
Quoted prices for identical or similar assets or liabilities in markets that are not active.
 
·
Inputs other than quoted prices that are observable, either directly or indirectly, for the term of the asset or liability (e.g., interest rates, yield curves, credit risks, prepayment speeds or volatilities) or “market corroborated inputs.”

Level 3
 
·
Prices or valuation techniques that require inputs that are both unobservable (i.e., supported by little or no market activity) and that are significant to the fair value of the assets or liabilities.
 
·
These assets and liabilities include financial instruments whose value is determined using pricing models, discounted cash flow methodologies, or similar techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation.
 
 
A financial instrument’s categorization within the valuation hierarchy is based on the lowest level of input that is significant to the fair value measurement.
 
Fair Value on a Recurring Basis

Securities Available for Sale (“AFS”):  Where quoted prices are available in an active market, securities would be classified within Level 1 of the valuation hierarchy. Level 1 securities include highly liquid government bonds and mutual funds. If quoted market prices are not available, then fair values are estimated by using pricing models, quoted prices of securities with similar characteristics, or discounted cash flow models. Level 2 securities include U.S. agency securities and mortgage backed agency securities.  In certain cases where there is limited activity or less transparency around inputs to the valuation, securities are classified within Level 3 of the valuation hierarchy.
 
Assets on the consolidated statements of condition measured at fair value on a recurring basis are summarized below.
 
(in 000’s)
       
Fair Value Measurements at Reporting Date Using:
 
   
Assets Measured at Fair Value at September 30, 2011
   
Quoted Prices in Active Markets for Identical Assets (Level 1)
   
Significant Other Observable Inputs (Level 2)
   
Significant Unobservable Inputs (Level 3)
 
 
Investment securities available-for-sale:
                       
                         
Government Sponsored Enterprises residential mortgage-backed securities     
  $       1,215     $       -     $       1,215     $        -  
                                 
Mutual Funds
    129       129       -    
-
 
                               
    Total   $ 1,344     $ 129     $ 1,215     $ -  
                                 
 
 
 
 
20

 
 
 

(in 000’s)
       
Fair Value Measurements at Reporting Date Using:
 
   
Assets Measured at Fair Value at December 31, 2010
   
Quoted Prices in Active Markets for Identical Assets (Level 1)
   
Significant Other Observable Inputs (Level 2)
   
Significant Unobservable Inputs (Level 3)
 
Investment securities available-for-sale:
             
 
 
   
 
 
                         
Government Sponsored Enterprises residential mortgage-backed securities
  $ 1,210     $ -     $ 1,210     $ -  
                                 
Mutual Funds
    129       129       -       -  
                                 
Total   $ 1,339     $ 129     $ 1,210     $ -  
                                 
 
As of September 30, 2011, the fair value of the Bank’s AFS securities portfolio was approximately $1,344,000.  Over 90% of the portfolio consisted of residential mortgage-backed securities, which had a fair value of $1,215,000 at September 30, 2011.  All the residential mortgage-backed securities were issued or guaranteed by the Government National Mortgage Association (“GNMA”), the Federal National Mortgage Association (“FNMA”) or the Federal Home Loan Mortgage Corporation (“FHLMC”).  The underlying loans for these securities are residential mortgages that are geographically dispersed throughout the United States.  The majority of the AFS securities were classified as level 2 assets at September 30, 2011.  The valuation of AFS securities using Level 2 inputs was primarily determined using the market approach, which uses quoted prices for similar instruments and all relevant information.  There were no transfers between Level 1 and Level 2 assets during the period ended September 30, 2011 and year ended December 31, 2010.
 
Fair Value on a Nonrecurring Basis
 
Certain assets and liabilities are not measured at fair value on an ongoing basis but are subject to fair value adjustments in certain circumstances (for example, when there is evidence of impairment).  The following table presents the assets carried on the consolidated statements of condition by level within the hierarchy as of September 30, 2011 and December 31, 2010, for which a nonrecurring change in fair value has been recorded during the nine months ended September 30, 2011 and year ended December 31, 2010.

 Carrying Value at September 30, 2011:
(in 000’s)
 
 
 
Total
   
Quoted Prices in Active markets for Identical Assets
(Level 1)
   
Significant Other Observable Inputs
(Level 2)
   
Significant Unobservable Inputs
(Level 3)
   
Total fair value gain (loss) during 9 months ended
September 30, 2011
 
Impaired Loans
  $ 167       -       -     $ -     $ (223 )
                                         
Other real estate owned (“OREO”)
    -       -       -       -       -  

Carrying Value at December 31, 2010:
(in 000’s)
 
 
 
Total
   
Quoted Prices in Active markets for Identical Assets
(Level 1)
   
Significant Other Observable Inputs
(Level 2)
   
Significant Unobservable Inputs
 (Level 3)
   
Total fair value gain (loss) during 12 months ended
December 31, 2010
 
Impaired Loans
  $ 679       -       -     $ 679     $ (238 )
                                         
Other real estate owned (“OREO”)
    1,417       -       -       1,417       -  

 
The measured impairment for collateral dependent of impaired loans is determined by the fair value of the collateral less estimated liquidation costs.  Collateral values for loans and OREO are determined by annual or more frequent appraisals if warranted by volatile market conditions, which may be discounted based upon management’s review.  No appraisals were discounted or adjusted during the quarter ended September 30, 2011.  The valuation allowance for impaired loans is adjusted as necessary based on changes in the value of collateral as well as the cost of liquidation.  It is included in the allowance for loan losses in the consolidated statements of condition. The valuation allowance for impaired loans at September 30, 2011 was approximately $250,000.  The valuation allowance for impaired loans at December 31, 2010 was approximately $238,000.
 
 
 
 
21

 
 
 
Fair Value of Financial Instruments
 
FASB ASC Topic 825 requires disclosure of the fair value of financial assets and financial liabilities, including those financial assets and financial liabilities that are not measured and reported at fair value on a recurring basis or non-recurring basis.
 
The following methods and assumptions were used by the Company in estimating its fair value disclosures for financial instruments:
 
Cash and cash equivalents: The carrying amounts reported in the statement of condition for cash and cash equivalents approximate those assets’ fair values.
 
Investment securities: Fair values for investment securities available-for-sale are as described above.  Investment securities held-to-maturity are based on quoted market prices, where available.  If quoted market prices are not available, fair values are based on quoted market prices of comparable instruments.  The carrying amount of accrued interest receivable approximates fair value.
 
Loans: The fair value of loans was estimated using a discounted cash flow analysis, which considered estimated pre­payments, amortizations, and non performance risk.  Prepayments and discount rates were based on current marketplace estimates and pricing.  Residential mortgage loans were discounted at the current effective yield, including fees, of conventional loans, adjusted for their maturities with a spread to the Treasury yield curve.  The carrying amount of accrued interest receivable approximates fair value. The fair value for nonperforming/impaired loans is determined by using discounted cashflow analysis or underlying collateral values, where applicable.
 
Deposit liabilities: The fair values disclosed for demand deposits (e.g., interest and noninterest checking, passbook savings, and certain types of money market accounts) are equal to the amounts payable on demand at the reporting date (e.g., their carrying amounts).  The carrying amounts for variable-rate, fixed-term money market accounts and certificates of deposit approximate the fair values at the reporting date.  Fair values for fixed-rate certificates of deposit are estimated using a discounted cash flow calculation.  The Treasury yield curve was utilized for discounting cash flows as it approximates the average marketplace certificate of deposit rates across the relevant maturity spectrum.
 
Accrued interest payable:  The carrying amounts of accrued interest payable approximate fair value.
 
Commitments to extend credit: The carrying amounts for commitments to extend credit approximate fair value as such commitments are not substantially different from the fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the present creditworthiness of the counterparts.  The carrying amount of accrued interest payable approximates fair market value.
 
The fair value of assets and liabilities are depicted below:
 
    September 30, 2011     December 31, 2010   
(in 000’s)
 
Carrying
   
Fair
   
Carrying
   
Fair
 
   
Amount
   
Value
   
Amount
   
Value
 
(Dollars in thousands)
                       
Assets:
                       
Cash and cash equivalents
  $ 14,868     $ 14,868     $ 8,696     $ 8,696  
Investment securities
    18,709       19,262       16,477       16,582  
Loans, net of allowance for loan losses
    40,844       40,644       44,686       44,698  
Accrued interest receivable
    357       357       363       363  
Liabilities:
                               
Demand deposits
    31,569       31,569       27,331       27,331  
Savings deposits
    14,590       14,590       13,856       13,856  
Time deposits
    25,959       25,959       26,023       26,023  
Accrued interest payable
    47       47       57       57  

 
 
 
22

 
 

 

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

United Bancshares, Inc. (the "Company") is a bank holding company registered under the Bank Holding Company Act of 1956.  The Company's principal activity is the ownership and management of its wholly owned subsidiary, United Bank of Philadelphia (the "Bank").


Special Cautionary Notice Regarding Forward-looking Statements

Certain of the matters discussed in this document and the documents incorporated by reference herein, including matters discussed under the caption “Management’s Discussion and Analysis of Financial Condition and Results of Operations” may constitute forward looking statements for the purposes of the Securities Act of 1933, as amended and the Securities Exchange Act of 1934, as amended, and may involve known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of United Bancshares, Inc (“UBS”) to be materially different from future results, performance or achievements expressed or implied by such forward looking statements.  The words “expect,” “anticipate,” “intended,” “plan,” “believe,” “seek,” “estimate,” “may,” and similar expressions are intended to identify such forward-looking statements.  These forward looking statements include: (a) statements of goals, intentions and expectations; and (b) statements regarding business prospects, asset quality, credit risk, reserve adequacy and liquidity.  UBS’ actual results may differ materially from the results anticipated by the forward-looking statements due to a variety of factors, including without limitation: (a) the effects of future economic conditions on UBS and its customers, including economic factors which affect consumer confidence in the securities markets, wealth creation, investment and consumer saving patterns; (b) UBS interest rate risk exposure and credit risk; (c) changes in the securities markets with respect to the market values of financial assets and the stability of particular securities markets; (d) governmental monetary and fiscal policies, as well as legislation and regulatory changes; (e) changes in interest rates on the level and composition of deposits, loan demand, and the values of loan collateral and securities, as well as interest-rate risks; (f) changes in accounting requirements or interpretations; (g) the effects of competition from other commercial banks, thrifts, mortgage companies, consumer finance companies, credit unions securities brokerage firms, insurance company’s, money-market and mutual funds and other financial institutions operating in the UBS’ trade market area and elsewhere including institutions operating locally, regionally, nationally and internationally, together with such competitors offering banking products and services by mail, telephone, computer and the internet; (h) any extraordinary events (such as the September 11, 2001 events), the war on terrorism and the U.S. Government’s response to those events or the U.S. Government becoming involved in a conflict in a foreign country including the war in Iraq; (i) the failure of assumptions underlying the establishment of reserves for loan losses and estimates in the value of collateral, and various financial assets and liabilities and technological changes being more difficult or expensive than anticipated; (j) UBS’ success in generating new business in its existing markets, as well as its success in identifying and penetrating targeted markets and generating a profit in those markets in a reasonable time; (k) UBS’ timely development of competitive new products and services in a changing environment and the acceptance of such products and services by its customers; (l) the recent downgrade , and any future downgrades, in the credit rating of the United States Government and federal agencies; (m) changes in technology being more expensive or difficult than expected; (n) the ability of key third party providers to perform their obligations to UBS and; (o) the Bank and UBS’ success in managing the risks involved in the foregoing.

All written or oral forward-looking statements attributed to UBS are expressly qualified in their entirety by use of the foregoing cautionary statements.  All forward-looking statements included in this Report are based upon information presently available, and UBS assumes no obligation to update any forward-looking statement.
 
 
 
 
 
23

 
 
 
Overview
The Company reported a net loss of approximately $281,000 ($0.26 per common share) for the quarter ended September 30, 2011 compared to net income of approximately $46,000 ($0.04 per common share) for the quarter ended September 30, 2010.  The Company reported a net loss of approximately $758,000 ($0.71 per common share) for the nine months ended September 30, 2011 compared to a net loss of approximately $706,000 ($0.66 per common share) for the nine months ended September 30, 2010.  The decrease for the current quarter compared to 2010 is primarily the result of a Community Development Financial Institutions (“CDFI”) Fund of the U.S. Department of Treasury grant received in 2010 that was not received in 2011.
 
Management believes that the following actions are crucial to enhancing the Company’s future financial performance:
 
Enhancing capital to support growth.   Capital declined primarily as a result of net losses.  Net losses as well as growth in the average assets of the Company resulted in a reduction in the Tier I leverage ratio, however, this ratio as well as, core, and risk-based capital ratios exceed the threshold for “minimum” and “well capitalized” for regulatory capital requirements. Management recognizes the importance of establishing and maintaining capital levels to support the Bank’s growth and to remain in compliance with regulatory requirements.  Therefore, a concentrated effort will be made to raise additional capital from potential corporate and institutional partners in the region to support its community development activities including increased lending within economically distressed low to moderate income communities.
 
Controlling and managing the net interest margin.  The Bank’s net interest margin continues to decline. Margin compression has been created by a decline in loans outstanding as well as the continued low interest rate environment that has resulted in lower yields on loans, federal funds sold and investment securities. Although improving, the relative high level of non-accrual loans also contributes to the compression. While management actively manages the rates paid on deposit products to “average” market rates in attempt to mitigate the effect of the reduction in yield on earning assets, deposit rates have generally “bottomed out”. Management will continue to focus on growing the Bank’s loan portfolio and reducing the level of nonaccrual loans to increase net interest income.
 
Controlling and managing noninterest expense.   The Company’s noninterest expense continues to be high as a result of core deposit amortization expense, occupancy expense related to its three branch structure, and increased marketing expense.  Also, unlike other similar sized community banks, the Bank incurs a higher level of professional service fees (audit and legal) because of Securities and Exchange (“SEC”) filing requirements as a result of having in excess of 500 shareholders. While there has been some improvement in noninterest expense compared to the quarter ending September 30, 2010, management continues to seek savings and efficiencies where possible including the review of the existing branch structure and personnel utilization.
 
Proactive management of asset quality to minimize credit losses.  Progress has been made in the Bank’s collection, underwriting, and customer relationship management practices. Evidence of these improvements can be seen in the reduction of the level of impaired/nonperforming loans and a decline in the delinquency ratio.  Non-performing/impaired loans have been affected by charge-offs and transfers to OREO. During 2011, management expects to make further progress in reducing the level of non-performing loans and non-performing assets and anticipates that credit quality costs, including loan collection and OREO-related costs, will continue to affect reported earnings as the Bank diligently works to reduce the outstanding investment in these assets.
 
Significant Accounting Policies
The preparation of consolidated financial statements requires management 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 from these estimates.
 
The Company considers that the determination of the allowance for loan losses involves a higher degree of judgment and complexity than its other significant accounting policies.   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.   All of these factors may be susceptible to significant change.   To the extent actual outcomes differ from management’s estimates, additional provisions for loan losses may be required that would adversely impact earnings in future periods.
 
 
 
 
24

 
 
 
The Company’s significant accounting policies are presented in Note 1 to the  Company’s audited consolidated financial statements filed as part of the 2010 Annual Report on Form 10-K and in the footnotes to the Company’s unaudited financial statements filed as part of this Form 10-Q.
 
Selected Financial Data
The following table sets forth selected financial data for each of the following periods:
 
(Thousands of dollars, except per share data)
 
 
Quarter ended
September 30, 2011
 
 
Quarter ended
September 30, 2010
 
Nine Months ended
September 30, 2011
 
Nine Months ended
September 30, 2010
Statement of income information:
       
Net interest income
$759
$804
$2,273
$2,312
Provision for loan losses
30
70
100
477
Noninterest income
199
615
812
1,183
Noninterest expense
1,208
1,303
3,743
3,723
Net (loss) income
(281)
46
(758)
(706)
Net (loss) income per share-basic and diluted
(0.26)
0.04
(0.71)
(0.66)
         
Statement of condition information:
September 30, 2011
December 31, 2010
   
Total assets
$78,016
$73,966
   
Loans, net
$40,844
$44,686
   
Investment securities
$18,710
$16,477
   
Deposits
$72,118
$67,211
   
Shareholders' equity
$5,534
$6,297
   
         
Ratios*:
Quarter ended
September 30, 2011
Quarter ended
September 30, 2010
   
Return on assets
(1.47%)
 0.25%
   
Return on equity
(20.26%)
2.92
   
*annualized

Financial Condition

Sources and Uses of Funds
The financial condition of the Bank can be evaluated in terms of trends in its sources and uses of funds.  The comparison of average balances in the following table indicates how the Bank has managed these elements. Average funding uses increased approximately $3,451,000, or 4.89% during the quarter ended September 30, 2011 compared to the quarter ended June 30, 2011. Average funding sources increased approximately $3,159,000, or 4.54%, during the quarter ended September 30, 2011 compared to the quarter ended June 30, 2011.

Sources and Uses of Funds Trends
(Thousands of Dollars, except
percentages)
September 30, 2011
   
June 30, 2011
 
Average
Increase (Decrease)
Increase (Decrease)
Average
 
 Balance
Amount
%
 Balance
Funding uses:
       
Loans
$41,569
($224)
(0.54)%
$41,793
Investment securities
       
Held-to-maturity
18,446
1,501
8.86
16,945
Available-for-sale
1,273
93
7.88
1,180
Federal funds sold
12,438
2,081
20.09
10,357
Balances with other banks
305
-
-
305
Total  uses
$74,031
$3,451
4.89%
$70,580
Funding sources:
       
Demand deposits
       
Noninterest-bearing
$14,350
($443)
(2.99)%
$14,793
Interest-bearing
18,147
3,700
25.61
14,447
Savings deposits
14,113
(6)
(0.04)
14,119
Time deposits
26,171
(92)
(0.35)
26,263
Total sources
$72,781
$3,159
4.54%
$69,622

Loans
Average loans declined approximately $224,000, or 0.54%, during the quarter ended September 30, 2011.  Market demand for loans remains “soft” as some borrowers are slow to seek financing as a result of continued economic uncertainty. While the Bank has funded more than $2.3 million in commercial loans during 2011, they were offset by payoffs/paydowns, charge-offs and transfers to OREO. Focused and aggressive business development efforts targeting small businesses will be employed in effort to increase commercial and industrial lending activity (i.e. working capital, receivables, etc.) for which credit enhancements through the Small Business Administration or other loan guaranty programs may be available to mitigate credit risk.  Relationships with attorneys, accountants, and Small Business Development Centers will be utilized as referral sources for these loans.
 
 
 
 
25

 
 
 
The Bank’s loan portfolio continues to be concentrated in commercial real estate loans that comprise approximately $30.1 million, or 72.27%, of total loans at September 30, 2011 of which approximately $16 million are owner occupied.  The Bank continues to have a strong niche in lending to religious organizations for which total loans at September 30, 2011 were approximately $13.7 million, or 49%, of the commercial real estate portfolio.   Management closely monitors this concentration to proactively identify and manage credit risk in light of the high level of unemployment that could impact the level of tithes and offerings that provide cash flow for repayment.  The composition of the net loans is as follows:
 
   
September 30,
   
December 31,
 
(In 000's)
 
2011
   
2010
 
             
             
Commercial and industrial:
           
Commercial
  $ 1,530     $ 3,133  
SBA loans
    254       229  
Assets-based
    1,965       2,367  
Total commercial and industrial
    3,748       5,730  
                 
Commercial real estate:
               
                 
Commercial mortgages
    14,851       15,774  
SBA loans
    540       1,311  
Construction
    1,002       -  
Religious organizations
    13,703       13,653  
Total commercial real estate
    30,096       30,738  
                 
Consumer real estate:
               
Home equity loans
    1,765       1,813  
Home equity lines of credit
    549       714  
1-4 family residential mortgages
    3,478       4,432  
Total consumer real estate
    5,792       6,959  
                 
Total real estate
    35,888       37,698  
                 
Consumer and other:
               
Consumer installment
    55       82  
Student loans
    1,783       1,912  
Other
    168       192  
Total consumer and other
    2,006       2,186  
                 
Loans, net
  $ 41,642     $ 45,613  

 
26

 
 
Allowance for Loan Losses
The allowance for loan losses reflects management’s continuing evaluation of the loan portfolio, the diversification and size of the portfolio, and adequacy of collateral. Provisions are made to the allowance for loan losses in accordance with a detailed periodic analysis.  This analysis includes specific reserves allocated to impaired loans based on underlying recovery values as well as a general reserve based on charge-off history and various qualitative factors including delinquency trends, loan terms, regulatory environment, economic conditions, concentrations of credit risk and other relevant data. The allowance for loan losses as a percentage of total loans was 1.92% at September 30, 2011, compared to 2.03% at December 31, 2010.  During the nine months ended September 30, 2011 provisions for loan losses totaled $100,000.  During 2011, the Company charged-off approximately $252,000 primarily related to several impaired loans for which collection efforts had been exhausted and specific reserves were allocated at December 31, 2010.

Loans deemed “impaired” are those for which borrowers are no longer able to pay in accordance with the terms of their loan agreements.  The Bank’s source of repayment is generally the net liquidation value of the underlying collateral.  The level of impaired loans declined from approximately $2.5 million at December 31, 2010 to approximately $1.7 million at September 30, 2011.  The decline is primarily related to foreclosure activity totaling approximately $602,000 and charge-offs totaling approximately $252,000.  Specific reserves related to impaired loans totaled approximately $250,000 and $238,000 at September 30, 2011 and December 31, 2010, respectively. Strategies continue to be implemented to maximize collection on impaired loans including forbearance agreements, foreclosure and other collection strategies.

At September 30, 2011 and December 31, 2010, loans to religious organizations represented approximately $433,000 and $440,000, respectively, of total impaired loans. Management continues to work closely with its attorneys and the leadership of these organizations in an attempt to develop suitable repayment plans to avoid foreclosure.  In general, loans to religious organizations are being monitored closely to proactively identify potential weaknesses in this area of high concentration.

Management uses all available information to recognize losses on loans; however, future additions may be necessary based on further deterioration in economic conditions and market conditions affecting underlying real estate collateral values.  In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Bank’s allowance for loan losses.  Such agencies may require the Bank to recognize additions to the allowance based on their judgments of information available to them at the time of the examination. Although management uses the best information available, the level of the allowance for loan losses remains an estimate that is subject to significant judgment and short-term change.

The percentage of allowance to nonperforming loans has improved from 33.30% at December 31, 2010 to 35.99% at September 30, 2011 primarily as a result of foreclosure-related activity that reduced the level of impaired/nonperforming loans.  The following table sets forth information concerning nonperforming loans and nonperforming assets.
 


 
27

 
 
(In 000's)
 
September 30,2011
   
December 31, 2010
 
Commercial and industrial:
           
     Commercial
  $ 495     $ 505  
     SBA loans
    18       18  
     Asset-based
    101       -  
        Total Commercial and industrial
    614       523  
                 
Commercial real estate:
               
     Commercial mortgages
    646       1,495  
     SBA loans
    58       58  
     Religious organizations
    433       315  
         Total Commercial real estate
    1,137       1,868  
                 
Consumer real estate:
               
     Home equity loans
    128       130  
     Home equity lines of credit
    38       -  
     1-4 family residential mortgages
    302       261  
         Total consumer real estate
    468       391  
                 
Total real estate
    1,605       2,259  
                 
Consumer and other:
               
     Consumer installment
    1       -  
     Student loans
    -       -  
     Other
    -       -  
         Total consumer and other
    1       -  
                 
         Total nonperforming loans
  $ 2,220     $ 2,782  
         OREO
    1,284       1,417  
         Total nonperforming assets
  $ 3,504     $ 4,199  
                 
Past due 90 days or more and still accruing interest:
               
Commercial and industrial:
               
     Commercial
  $ -     $ -  
     SBA loans
    -       -  
     Asset-based
    -       -  
        Total Commercial and industrial
    -       -  
                 
Commercial real estate:
               
     Commercial mortgages
            -  
     SBA loans
    -       -  
     Construction
    -       -  
     Construction
    -          
     SBA loans
    -       -  
     Religious organizations
    173       -  
         Total Commercial real estate
    173       -  
                 
Consumer real estate:
               
     Home equity loans
    -       142  
     Home equity lines of credit
    -       -  
     1-4 family residential mortgages
    -       -  
         Total consumer real estate
    -       142  
                 
Total real estate
    173       142  
                 
Consumer and other:
               
     Consumer installment
    -       -  
     Student loans
    7       44  
     Other
    -       19  
         Total consumer and other
    7       63  
                 
         Total
  $ 180     $ 205  
                 
Nonperforming loans to total loans
    4.87 %     6.10 %
Nonperforming assets to total loans and OREO
    7.47 %     8.93 %
Nonperforming assets to total assets
    4.49 %     5.66 %
SBA Loans guaranteed
    2,601       3,452  
                 
Allowance for loan losses as a percentage of:
               
     Total Loans
    1.92 %     2.03 %
     Total nonperforming loans
    35.99 %     33.29 %
 
 
 
28

 
 
 
Investment Securities and Other Short-term Investments
Average investment securities increased by approximately $1,594,000, or 8.79%, during the quarter ended September 30, 2011. The increase was primarily related to an increase in investable funds because of loan payoffs and increased deposit levels during the quarter.
 
The yield on the investment portfolio declined to 3.32% at September 30, 2011 compared to 3.79% at December 31, 2010 as a result the purchase of securities to serve as collateral for governmental deposits as well as the call of higher yielding agency securities during the period.  The duration of the portfolio has extended to 2.6 years at September 30, 2011 compared to 2.0 years at December 31, 2010 as a result of the purchase of callable agency securities with longer terms as well as amortizing 15 and 20 year government sponsored agency (GSA) mortgage-backed pass-through securities that serve to generate monthly cash flow.   The payments of principal and interest on these pools of GSA loans are guaranteed by these entities that bear the risk of default.  The Bank’s risk is prepayment risk when defaults accelerate the repayment activity.  These loans have longer-term con­tractual maturities but are sometimes paid off/down before maturity or have repricing characteristics that occur before final maturity. Management’s goal is to maintain a portfolio with a short duration to allow for adequate cash flow to fund loan origination activity and to manage interest rate risk.

Deposits
During the quarter ended September 30, 2011 average deposits increased approximately $3,159,000, or 4.54%. There was a decrease of approximately $433,000, or 2.99%, in noninterest checking account balances offset by an increase of approximately $3,700,000, or 25.61%, in interest-bearing checking balances (including money market accounts). This increase was primarily the result of a $2.3 million City of Philadelphia money market deposit as well an influx of funds related to depository relationships with several not-for-profit and contractor-type customers that receive periodic payments on receivables.

Savings account balances decreased on average by approximately $6,000, or 0.04%, during the quarter ended September 30, 2011.  Management continues its efforts to grow and stabilize its core savings accounts utilizing new marketing materials that encourage financial preparedness and increased savings through direct deposit.

Certificates of deposit decreased on average by approximately $92,000, or 0.35%, during the quarter ended September 30, 2011. The decrease is related to the maturity and non-renewal of several certificates of deposit with another financial institution.  The Bank has approximately $18.2 million in certificates of deposit in excess of $100,000. Approximately $13.0 million, or 71%, of these deposits are governmental or quasi-governmental relationships that have a long history with the Bank and are considered stable and core.

Commitments and Lines of Credit
The Bank is a party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers.  These financial instruments include commitments to extend credit and letters of credit, which are conditional commitments issued by the Bank to guarantee the performance of an obligation of a customer to a third party. Commitments to extend credit fluctuate with the completion and conversion of construction lines of credit to permanent commercial mortgage loans and/or the closing of loans approved but not funded from one period to another.

Many of the commitments are expected to expire without being drawn upon. The total commitment amounts do not necessarily represent future cash requirements.  Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Standby letters of credit are conditional commitments issued by the Company to guarantee the performance of a customer to a third party.  The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers.  Management believes the Bank has adequate liquidity to support the funding of unused commitments.  The Bank's financial instrument commitments are summarized below:
 
 
 
September 30,
2011
December 31,
2010
Commitments to extend credit
$7,482,000
 $7,531,000
Standby letters of credit
711,000
695,000
 
 
 
 
29

 
 

 
The level of commitments at September 30, 2011 was relatively unchanged from $8.2 million at December 31, 2010 and primarily consists of unused lines of credit with Fortune 500 corporations for which the Bank leads and/or participates in syndications that are not expected to be drawn upon.

Liquidity
The primary functions of asset/liability management are to assure adequate liquidity and maintain appropriate balance between interest-sensitive earning assets and interest-bearing liabilities.  Liquidity management involves the ability to meet cash flow requirements of customers who may be either depositors wanting to withdraw funds or borrowers needing assurance that sufficient funds will be available to meet their credit needs.  Interest rate sensitivity management seeks to avoid fluctuating net interest margins and to enhance consistent growth of net interest income through periods of changing interest rates.

The Bank's principal sources of asset liquidity include investment securities consisting principally of U.S. Government and agency issues, particularly those of shorter maturities, and mortgage-backed securities with monthly repayments of principal and interest.  Other types of assets such as federal funds sold, as well as maturing loans, are also sources of liquidity.  Approximately $10 million in loans are scheduled to mature within one year.
 
By policy, the Bank’s minimum level of liquidity is 6.00% of total assets.  At September 30, 2011, the Bank had total short-term liquidity, including cash and federal funds sold, of approximately $14.9 million, or 19.06% of total assets, compared to $8.7 million, or 11.7%, at December 31, 2010. The increase primarily relates to increased deposits, loan payoffs, and proceeds from the sale of OREO.  The portion of the Bank’s investment portfolio classified as available-for-sale could also provide liquidity. However, the majority of these securities are pledged as collateral for deposits of governmental/quasi-governmental agencies as well as the Discount Window at the Federal Reserve Bank.  Therefore, they are restricted from use to fund loans or to meet other liquidity requirements.  To ensure the ongoing adequacy of liquidity, the following strategies will be utilized in order of priority, if necessary:

 
·
Seek additional non-public deposits from existing private sector customers
 
·
Sell participations of existing commercial credits to other financial institutions in the region

The Bank’s contingent funding sources  include the Discount Window at the Federal Reserve Bank for which it currently has $1.75 million in securities pledged that result in borrowing capacity of $1.5 million. Liquidity will continue to be closely monitored and managed to minimize risk and ensure that adequate funds are available to meet daily customer requirements and loan demand.

Interest rate sensitivity
Interest rate sensitivity varies with different types of interest-earning assets and interest-bearing liabilities.  Overnight federal funds on which rates change daily and loans which are tied to prime or other short term indices differ considerably from long-term investment securities and fixed-rate loans.  Similarly, time deposits are much more interest sensitive than passbook savings accounts.  The shorter-term interest rate sensitivities are critical to measuring the interest sensitivity gap, or excess earning assets over interest-bearing liabilities.  Management of interest sensitivity involves matching repricing dates of interest-earning assets with interest-bearing liabilities in a manner designed to optimize net interest income within the limits imposed by regulatory authorities, liquidity determinations and capital considerations.

At September 30, 2011, a positive gap position is maintained on a cumulative basis through 1 year of 10.85% that is within the Bank’s policy guidelines of +/- 15% on a cumulative 1-year basis. This position makes the Bank’s net interest income more favorable in a rising interest rate environment.  The positive gap position increased during the quarter as a result of increased deposits and loan payoffs that resulted in a higher level of Federal Funds Sold that reprice immediately.  As these funds are deployed, management will review and monitor the structure and rates on investment purchases, new loan originations and renewals to achieve a more balanced interest rate risk profile.

While using the interest sensitivity gap analysis is a useful management tool as it considers the quantity of assets and liabilities subject to repricing in a given time period, it does not consider the relative sensitivity to market interest rate changes that are characteristic of various interest rate-sensitive assets and liabilities.  A simulation model is used to estimate the impact of various changes, both upward and downward, in market interest rates and volumes of assets and liabilities on the net income of the Bank.  This model produces an interest rate exposure report that forecasts changes in the market value of portfolio equity under alternative interest rate environments.  The market value of portfolio equity is defined as the present value of the Company’s existing assets, liabilities and off-balance-sheet instruments.  At September 30, 2011, the change in the market value of equity in a +200 basis point interest rate change is -6.30%, within the Bank’s policy limit of 25% and -36.70 % in a +400 basis point interest rate change, within the policy limit of 50%.    The limit   became better aligned with policy during the quarter as a result of the increase in federal funds sold, loan payoffs, and the purchase of amortizing mortgage-backed securities. Management will continue to mitigate this risk by originating more variable rate loans and purchasing variable rate MBS securities.  Based on these models, interest-rate exposure is not considered significant and is within the policy limits of the Bank on all measures at September 30, 2011.
 
 
 
 
30

 
 

Capital Resources
Total shareholders' equity decreased approximately $763,000 compared to December 31, 2010 as a result of a net loss of approximately $758,000 during the nine months ended September 30, 2011 and other comprehensive loss of approximately $5,000 from a decrease in unrealized gains on investment securities classified as available-for-sale. As reflected in the table below, the Company’s risk-based capital ratios are above the minimum regulatory requirements.  While capital levels have declined, at September 30, 2011, the Company is deemed "well capitalized."  The Company does not anticipate paying dividends in the near future because of regulatory imposed dividend restrictions. The Company will seek to maintain the requisite minimum regulatory capital levels by internal capital generation (retained earnings) and by monitoring its asset growth.
Because the Company is a CDFI, it has the ability to utilize programs of the U.S. Treasury’s CDFI Fund to supplement capital.  The Bank Enterprise Award (BEA) Program was created in 1994 to support FDIC-insured financial institutions, like the Company, around the country that are dedicated to financing and supporting community and economic development activities. The BEA Program complements the community development activities of insured depository institutions (i.e., banks and thrifts) by providing financial incentives to expand investments in CDFIs and to increase lending, investment, and service activities within economically distressed communities. In 2011, the Company applied for a BEA grant based on lending activity but did not qualify.  Management will continue to seek funding from available CDFI programs in the future to supplement capital and support growth.

The Company and the Bank’s actual capital amounts and ratios are as follows:
 
 

                                                                                                                                                                                                  
(in 000’s)  Actual
For capital
Adequacy purposes
 To be well capitalized under
Prompt corrective actions provisions
September 30, 2011
Amount
Ratio
Amount
Ratio
Amount
Ratio
Total capital to risk-weighted assets:
           
Consolidated
$5,692
12.92%
$3,529
8.00%
N/A
 
Bank
5,640
12.80%
3,525
8.00%
$4,406
10.00%
Tier I capital to risk-weighted assets:
           
Consolidated
5,138
11.66%
1,765
4.00%
N/A
 
Bank
5,086
11.54%
1,762
4.00%
$2,643
6.00%
Tier I capital to average assets:
           
Consolidated
5,138
6.55%
3,140
4.00%
N/A
 
Bank
5,086
6.48%
3,137
4.00%
$3,922
5.00%

                                                                                                       
 (in 000’s)   Actual  
 For capital 
Adequacy purposes          
 To be well capitalized under
Prompt corrective actions provisions
December 31, 2010
Amount
Ratio
Amount
Ratio
Amount
Ratio
Total capital to risk-weighted assets:
           
Consolidated
$6,338
13.91%
$3,652
8.00%
N/A
 
Bank
 6,268
13.75%
3,646
8.00%
$4,558
10.00%
Tier I capital to risk-weighted assets:
           
Consolidated
5,761
12.64%
1,826
4.00%
N/A
 
Bank
5,691
12.49%
1,823
4.00%
$2,735
6.00%
Tier I capital to average assets:
           
Consolidated
5,761
7.63%
3,024
4.00%
N/A
 
Bank
5,691
7.53%
3,022
4.00%
$3,777
5.00%

 
 
 
31

 
 
 
Results of Operations

Summary
The Company reported a net loss of approximately $281,000 ($0.26 per common share) for the quarter ended September 30, 2011 compared to net income of approximately $46,000 ($0.04 per common share) for the quarter ended September 30, 2010.  The Company reported a net loss of approximately $758,000 ($0.71 per common share) for the nine months ended September 30, 2011 compared to a net loss of approximately $706,000 ($0.66 per common share) for the nine months ended September 30, 2010.  The decrease for the quarter compared to the same quarter in 2010 is primarily the result of a CDFI Fund grant received in 2010 which was not received in 2011.  A detailed explanation of each component of earnings is included in the sections below.

Net Interest Income
Net interest income is an effective measure of how well management has balanced the Bank’s interest rate-sensitive assets and liabilities.  Net interest income, the difference between (a) interest and fees on interest-earning assets and (b) interest paid on interest-bearing liabilities, is a significant component of the Bank’s earnings.  Changes in net interest income result primarily from increases or decreases in the average balances of interest-earning assets, the availability of particular sources of funds and changes in prevailing interest rates.

Average Balances, Rates, and Interest Income and Expense Summary
   
Three months
ended
September  30, 2011
   
Three months
ended
September 30, 2010
 
(in 000’s)
Average Balance
Interest
Yield/Rate
Average Balance
Interest
Yield/Rate
             
Assets:
           
Interest-earning assets:
           
     Loans
$41,569
655
6.30%
$46,497
$723
6.22%
     Investment securities-HTM
18,446
147
3.19
15,146
139
3.67
     Investments securities-AFS
1,273
10
3.14
1,416
13
3.67
     Federal funds sold
12,438
6
0.19
6,044
3
0.20
     Interest bearing balances with other banks
305
1
1.31
304
1
0.26
        Total interest-earning assets
74,031
819
4.43
69,407
878
5.00
Interest-bearing liabilities
           
     Demand deposits
18,147
20
0.44
13,541
17
0.50
     Savings deposits
14,113
3
0.09
14,398
4
0.11
     Time deposits
26,171
37
0.57
25,782
53
0.82
          Total interest-bearing liabilities
58,431
60
0.41
53,721
74
0.55
Net interest earnings
 
$759
   
$804
 
Spread
   
4.02%
   
4.45%
Net yield on interest-earning assets
   
4.10%
   
4.63%
 
For purposes of computing the average balance, loans are not reduced for nonperforming loans.  Loan fee income is included in interest income on loans but is not considered material.
   
Nine  months ended
September 30, 2011
   
Nine  months ended
September 30, 2010
 
(in 000’s)
Average Balance
Interest
Yield/Rate
Average Balance
Interest
Yield/Rate
             
Assets:
           
Interest-earning assets:
           
     Loans
$42,306
$1,974
6.22%
$47,057
$2,105
5.96%
     Investment securities-HTM
16,943
438
3.45
13,245
379
3.82
     Investments securities-AFS
1,232
30
3.25
1,528
45
3.93
     Federal funds sold
10,565
13
0.16
4,840
8
0.22
     Interest bearing balances with other banks
305
1
0.44
304
1
0.44
          Total interest-earning assets
71,351
2,456
4.59
66,974
2,538
5.05
Interest-bearing liabilities
           
     Demand deposits
15,441
58
0.50
11,781
57
0.65
     Savings deposits
14,069
9
0.09
14,570
11
0.10
     Time deposits
26,130
116
0.59
23,919
159
0.89
          Total interest-bearing liabilities
55,640
183
0.44
50,270
227
0.60
Net interest earnings
 
$2,273
   
$2,311
 
Spread
   
4.15%
   
4.45%
Net yield on interest-earning assets
   
4.25%
   
4.60%
 
For purposes of computing the average balance, loans are not reduced for nonperforming loans.  Loan fee income is included in interest income on loans but is not considered material.
 
Net interest income declined approximately $45,000, or 5.68%, for the quarter ended September 30, 2011 compared to the quarter ended September 30, 2010. Net interest income declined approximately $38,000, or 1.65%, for the nine months ended September 30, 2011 compared to the nine months ended September 30, 2010. The net yield on interest-earning assets for the quarter ended September 30, 2011 declined to 4.10% from 4.63% for the same quarter in 2010 and declined to 4.25% for the nine months ended September 30, 2011 compared to 4.60% for the same period in 2010.  Although the yield on loans increased as a result of the transfer of more than $2 million in nonaccrual loans to OREO and the imposition of default interest rates for several borrowers for noncompliance with note requirements to provide annual financial statements, the overall yield on interest-bearing assets declined.  This decline was the result of a reduction in average outstanding loans because of slow origination activity and payoffs that resulted in a shift in earning assets from loans to lower yielding federal funds sold and other investments. The reduction in yield on federal funds sold and other investments was also a contributing factor in the decline.
 
 
32

 
 
 
The cost of interest-bearing liabilities fell 14 basis points compared to the quarter ended September 30, 2010 and 16 basis points for the nine months September 30, 2011 compared to the same period in 2010 as a result of rate reductions made on the Bank’s deposit products to follow market conditions. However, deposit rates have relatively “bottomed-out”, leaving little room to make further downward adjustments.
 
For the nine months ended September 30, 2011 compared to the same period in 2010, there was a decrease in net interest income of approximately $183,000 due to changes in volume and an increase of approximately $145,000 due to changes in rate.
 
Rate-Volume Analysis of Changes in Net Interest Income
   
Nine months ended September 30, 2011 compared to 2010
 
   
Increase (decrease) due to
 
(Dollars in thousands)
 
Volume
   
Rate
   
Net
 
Interest earned on:
                 
Loans
  $ (254 )   $ 122     $ (131 )
Investment securities held-to-maturity
    108       (49 )     59  
Investment securities available-for-sale
    (5 )     (10 )     (15 )
Interest-bearing deposits with other banks
    (1 )     1       -  
    Federal funds sold
    15       (10 )     5  
Total Interest-earning assets
    137       54       (82 )
Interest paid on:
                       
Demand deposits
    19       (18 )     1  
Savings deposits
    (1 )     (1 )     (2 )
Time deposits
    29       (72 )     (43 )
Total interest-bearing liabilities
    47       (91 )     (44 )
Net interest income
  $ (183 )   $ 145     $ (38 )
 
While average earning assets increased by approximately $2.7 million, both the decline in loan volume as well as the inability to significantly decrease deposit rates did not allow for growth in the net interest income.   Management’s focus is on increasing loan origination activity to boost the net interest margin.

Provision for Loan Losses
The provision for loan losses was $30,000 for the three months ended September 30, 2011 compared to $70,000 for the same quarter in 2010. The provision for loan losses was $100,000 for the nine months ended September 30, 2011 compared to $477,000 for the same period in 2010. In general, provision requirements are based on credit losses inherent in the loan portfolio and the review and analysis of the loan portfolio in accordance with the Bank’s Allowance for Loan Loss policies and procedures. During 2010, the Bank experienced a significant increase in its impaired loans for which specific reserves were required. During 2011, the level of impaired loans declined and delinquency trends have improved. (Refer to Allowance for Loan Losses above for discussion and analysis of credit quality.)

Noninterest Income
The amount of the Bank's noninterest income generally reflects the volume of the transactional and other accounts handled by the Bank and includes such fees and charges as low balance account fees, overdrafts, account analysis, ATM fees and other customer service fees.  Noninterest income declined approximately $416,000, or 67.67%, for the quarter ended September 30, 2011, compared to the same quarter in 2010 and declined approximately $372,000, or 31.40%, for the nine months ended September 30, 2011, compared to the same period in 2010. The decrease compared to 2010 is primarily the result of the receipt of a grant in 2010 from the CDFI Fund of the U.S. Department of Treasury.
 
 
 
33

 
 
 

 
Customer service fees declined by approximately $15,000, or 13.48%, for the quarter ended September 30, 2011 compared to 2010 and decreased approximately $39,000, or 12.08%, for the nine months ended September 30, 2011 compared to the same period in 2010.  The decline was primarily a result of a reduction in overdraft and other activity fees on deposit accounts.
 
ATM fees declined approximately $4,000, or 4.56%, for the quarter ended September 30, 2011 compared to 2010 and declined approximately $13,000, or 4.71%, for the nine months ended September 30, 2011 compared to the same period in 2010.   The Bank’s ATM network continues to experience a reduction in volume because of ATM saturation in the marketplace by both financial and non-financial competitors.  Also, consistent with trends in the industry, ATM usage has declined as consumers continue to move to electronic payment methods utilizing debit and credit cards versus cash.  In March 2011, the Bank increased its surcharge fee for noncustomer use of ATMs to be consistent with the marketplace and enhance profitability of the network; however, improvement has been negated by declining volume.  Methods to reduce cost and increase revenues associated with the ATM network continue to be evaluated including a more cost effective network communication system that will be implemented as ATM hardware upgrades are made to meet American Disabilities Act requirements during the remainder of 2011 and 2012.

In September 2010, the Bank received a $394,400 Bank Enterprise Award (“BEA”) grant from the CDFI Fund of the U.S. Treasury for its small business lending activity.  This grant was fully recognized, as all conditions required by the grant had been fulfilled, and included as grant income for the quarter ended September 30, 2010.  This grant was not received in 2011
 
The Bank serves as arranger/agent for loan syndications for several major corporations throughout the country.  In this capacity, the Bank arranges back-up lines/letters of credit with other minority banks for which it receives agent/administrative fees.  For the nine months ended September 30, 2011 and 2010, these fees totaled $80,000.    Another corporate facility closed in October 2011 for which the Bank received fee income of $60,000.  Management will seek to expand this line of business with other corporations in the region to increase its noninterest income.

Noninterest Expense
Salaries and benefits decreased approximately $11,000, or 2.58%, for the quarter ended September 30, 2011 compared to 2010 and decreased approximately $36,000, or 2.79%, for the nine months ended September 30, 2011 compared to the same period in 2010.  This decline is the result of the severance of unproductive personnel in the lending/credit administration area of the Bank in April 2011. Management continues to review the organizational structure to maximize efficiencies, increase utilization/productivity and increase business development activity.
 
Occupancy expense increased approximately $24,000, or 9.64%, for the quarter ended September 30, 2011 compared to 2010 and increased approximately $62,000, or 8.24%, for the nine months ended September 30, 2011 compared to the same period in 2010.   The increase in 2011 is attributable to the September 2010 expiration of a sublease the Company had for a retail space it leases at its corporate headquarters for which a replacement tenant has not been secured.  Also, there was an increase in common area maintenance expense in 2011 related to general repairs and maintenance charges for leased facilities.

Office operations and supplies expense was relatively unchanged for the quarter ended September 30, 2011 compared to 2010 and increased approximately $11,000, or 4.91% for the nine months ended September 30, 2011 compared to the same period in 2010. The increase is related to the cost of branch capture-compatible forms and checks required in conjunction with the implementation of Check 21 technology in October 2010. During the quarter, a less costly supplier was selected to fulfill general supplies requirements of branch and backroom operations in effort to reduce expenses.   Additional savings are expected to be realized for the remainder of 2011.  Management continues to review all office operations expenses including supplies, storage, security, etc. to achieve cost reductions.
 
Marketing and public relations expense increased approximately $8,000, or 136.36%, for the quarter ended September 30, 2011 compared to 2010 and increased approximately $54,000, or 286.79%, for the nine months ended September 30, 2011 compared to the same period in 2010.  In 2011, the Company began to push out its new branding message, “So Much More Than Banking” utilizing newspaper and magazine ads, bus depots, and other relevant marketing strategies.

Professional services expense decreased approximately $14,000, or 19.78%, for the quarter ended September 30, 2011 compared to 2010 and decreased approximately $38,000, or 16.08%, for the nine months ended September 30, 2011 compared to the same period in 2010.  The decrease is primarily related to lower consulting fees.  In 2010, the Bank utilized a consultant to assist with the preparation of its strategic plan.
 
 
 
 
34

 
 

 
Data processing expenses decreased approximately $2,000, or 1.62%, for the quarter ended September 30, 2011 compared to 2010 but increased approximately $16,000, or 4.42% for the nine months ended September 30, 2011 compared to the same period in 2010 as a result of the implementation of an enhanced e-banking platform (including e-statements), 3% annual escalation in core processing fees and increased credit card processing charges.
 
Federal deposit insurance assessments increased approximately $5,000, or 13.01%, for the quarter ended September 30, 2011 compared to 2010 and increased approximately $18,000, or 16.57%, for the nine months ended September 30, 2011 compared to the same period in 2010. Assessments are based on many factors including the Bank’s deposit size and composition and its current regulatory ratings.   The increase is primarily related to growth in deposits compared to the prior year.
 
Loan and collection expenses decreased approximately $107,000, or 75.54%, for the quarter ended September 30, 2011 compared to 2010 and decreased approximately $94,000, or 39.93%, for the nine months ended September 30, 2011 compared to the same period in 2010.  The decrease is directly related to a reduction in the level foreclosure activity in 2011.  In 2010, the Bank incurred a significant level of legal and other collection cost associated with the acquisition of OREO properties.
 
Dividend Restrictions
The Company has never declared or paid any cash or stock dividends.  The Pennsylvania Banking Code of 1965, as amended, provides that cash dividends may be declared and paid only from accumulated net earnings and that, prior to the declaration of any dividend, if the surplus of a bank is less than the amount of its capital, the bank shall, until surplus is equal to such amount, transfer to surplus an amount which is at least ten percent (10%) of the net earnings of the bank for the period since the end of the last fiscal year or any shorter period since the declaration of a dividend.  If the surplus of a bank is less than fifty percent (50%) of the amount of its capital, no dividend may be declared or paid by the Bank without the prior approval of the Pennsylvania Department of Banking.
 
Under the Federal Reserve Act, the Federal Reserve Board has the power to prohibit the payment of cash dividends by a bank holding company if it determines that such a payment would be an unsafe or unsound practice or constitutes a serious risk to the financial soundness or stability of the subsidiary bank.  As a result of these laws and regulations, the Bank, and therefore the Company, whose only source of income is dividends from the Bank, will be unable to pay any dividends while an accumulated deficit exists.  The Company does not anticipate that dividends will be paid for the foreseeable future.
 
Item 3.  Quantitative and Qualitative Disclosures about Market Risk

Not applicable.
 
Item 4.  Controls and Procedures
 
As of the end of the period covered by the report, the Company carried out an evaluation, under the supervision and with the participation of the Company’s management, including the Company’s Chief Executive Officer, Evelyn F. Smalls, and Chief Financial Officer, Brenda M. Hudson-Nelson, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures pursuant to Exchange Act Rules 13a-15(e) and 15d-15(e).  Based upon the evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures are effective in timely alerting them to material information relating to the Company (including its consolidated subsidiaries) required to be included in the Company’s periodic Securities and Exchange Commission filings.
 
As of the date of this report, there have not been any changes in the Company’s internal controls over financial reporting during the quarterly period covered by this report that have materially affected or are reasonably likely to materially affect its internal controls over financial reporting.
 
 
 
 
35

 
 
 
PART II - OTHER INFORMATION
 
Item 1. Legal Proceedings.
 
None.
 
Item 1A. Risk Factors.
 
There have not been any material changes to the risk factors disclosed in the Company’s 2010 Annual Report on Form 10-K except as disclosed below.  The risk factors disclosed in the Company’s 2010 Annual Report on Form 10-K are not the only risks that we face.  Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial also may materially adversely affect our business, financial condition and/or operating results.
 
The Dodd-Frank Wall Street Reform and Consumer Protection Act may adversely impact our business
 
On July 21, 2010, President Obama signed into law the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”) which provides for a broad range of financial reform and will result in a number of new regulations which could significantly impact regulatory compliance costs and the operations of community banks and bank holding companies.  The Dodd-Frank Act, among other things, broadens the base for FDIC insurance assessments which may increase our FDIC insurance premiums; repeals the prohibition on a bank’s payment of interest on demand deposit accounts of commercial clients beginning one year after the date of enactment; and contains provisions affecting corporate governance and executive compensation for publicly traded companies.  The Dodd-Frank Act also creates a new Bureau of Consumer Financial Protection with broad authority to develop and implement rules regarding most consumer financial products.  Although many of the details of the Dodd-Frank Act and the full impact it will have on our business will not be known for many months or years in part because many of the provisions require the adoption of implementing rules and regulations, we expect compliance with the new law and its rules and regulations to result in additional costs, including increased compliance costs.  These changes may also require us to invest significant management attention and resources to make any necessary changes to our operations in order to comply.  These changes may adversely affect our business, financial condition and results of operations.
 
The Standard & Poors Downgrade in U.S. Government and Federal Agency Securities may Adversely Impact our Business.
 
 On August 5, 2011, S&P downgraded the United States long term debt ratings from its AAA rating to AA+ and downgraded the credit ratings of certain long term debt instruments issued by Fannie Mae and Freddie Mac and other U.S. government agencies linked to long term U.S. debt.  The federal bank regulatory agencies issued guidance on August 5, 2011 regarding the impact of the S&P downgrade upon risk based capital treatment.  The agencies advised banks that for risk based capital purposes, the risk rates for Treasury securities and other securities issued or guaranteed by the U.S. government, government agencies and government sponsored entities will not change.  The downgrade could adversely affect the market value of U.S. government and federal agency securities on our balance sheet and could adversely affect the ability of those securities to serve as collateral for borrowing, as well as have other material adverse affects on the operation of our business and our financial results and condition.
 
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.
 
 None
 
Item 3.  Defaults Upon Senior Securities.
 
None
 
Item 4. Reserved.
 
None
 
 
 
 
36

 
 
 
Item 5.  Other Information.
 
None
 
Item 6. Exhibits.
 
a)           Exhibits.
 
 
 
 
 
 
 
 
37

 
 
 
 
 
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
 
 

 
UNITED BANCSHARES, INC.
   
Date: November 14, 2011
/s/ Evelyn F. Smalls
 
Evelyn F. Smalls
 
President & Chief Executive Officer
   
   
Date: November 14, 2011
/s/ Brenda M. Hudson-Nelson
 
Brenda Hudson-Nelson
 
Executive Vice President/Chief Financial Officer
 
 
 
 
 
38

 
 

 
 
Index to Exhibits-FORM 10-Q