UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

FORM 10-Q

 

 

x

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended September 30, 2016

 

OR

 

¨

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from _______ to _______

 

 

FSB BANCORP, INC.

(Exact Name of Company as Specified in its Charter)

 

 

Maryland	001-37831	81-2509654
(State of Other Jurisdiction of	(Commission File No.)	(I.R.S. Employer Identification No.)
Incorporation)

 

45 South Main Street, Fairport, NY 14450

(Address of Principal Executive Office) (Zip Code)

 

(585) 377-8970

(Issuer's Telephone Number including area code)

 

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

YES x             NO ¨

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (Section 232.405 of this Chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

YES x             NO ¨

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer¨     Accelerated filer¨        Non-accelerated filer¨          Smaller reporting company x

(Do not check if a smaller reporting company)

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). YES ¨      NO x

 

As of November 14, 2016, there were 1,941,688 shares issued and outstanding of the registrant’s common stock.

 

 

 

FSB BANCORP, INC.

INDEX

 

			PAGE NO.
PART I - FINANCIAL INFORMATION
Item 1.	Consolidated Financial Statements (Unaudited)
	Consolidated Balance Sheets		3
	Consolidated Statements of Income		4-5
	Consolidated Statements of Comprehensive Income		6-7
	Consolidated Statements of Stockholders’ Equity		8
	Consolidated Statements of Cash Flows		9
	Notes to Consolidated Financial Statements		10
Item 2.	Management's Discussion and Analysis of Financial Condition and Results of Operations		25
Item 3.	Quantitative and Qualitative Disclosures About Market Risk		42
Item 4.	Controls and Procedures		42
PART II - OTHER INFORMATION
Item 1.	Legal Proceedings		43
Item 1A.	Risk Factors		43
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds		43
Item 3.	Defaults Upon Senior Securities		43
Item 4.	Mine Safety Disclosures		43
Item 5.	Other Information		43
Item 6.	Exhibits		43
SIGNATURES			44

 

 

PART I - FINANCIAL INFORMATION

Item 1 – Consolidated Financial Statements

 

FSB Bancorp, Inc.

Consolidated Balance Sheets

(Unaudited)

 

		September 30,				December 31,
(In thousands, except share and per share data)		2016				2015
ASSETS:
Cash and due from banks		$	1,285			$	1,550
Interest earning demand deposits			3,545				4,597
Total cash and cash equivalents			4,830				6,147
Available-for-sale securities, at fair value			17,652				19,968
Held-to-maturity securities, at amortized cost (fair value of $6,489 and $13,222, respectively)			6,369				12,979
Investment in Federal Home Loan Bank stock, at cost			2,480				2,388
Loans held for sale			5,602				3,880
Loans			214,477				202,641
Less: Allowance for loan losses			(945	)			(811	)
Loans receivable, net			213,532				201,830
Bank owned life insurance			3,679				3,629
Accrued interest receivable			642				655
Premises and equipment, net			3,077				2,744
Other assets			1,860				1,587
Total assets		$	259,723			$	255,807
LIABILITIES AND STOCKHOLDERS' EQUITY:
Deposits:
Non-interest bearing		$	7,305			$	6,974
Interest bearing			171,223				178,587
Total deposits			178,528				185,561
Short-term borrowings			4,000				-
Long-term borrowings			43,780				46,092
Official bank checks			495				1,114
Other liabilities			1,465				1,280
Total liabilities			228,268				234,047
Stockholders' equity:
Preferred stock – par value $0.01 and no par value; 25,000,000  and 1,000,000 shares authorized, no shares issued and outstanding			-				-
Common stock, par value $0.01 and $0.10; 50,000,000 and 10,000,000 authorized shares;  1,941,688 and 1,785,000 shares issued and 1,941,688 and 1,779,472 shares outstanding			19				179
Paid-in capital			16,349				7,239
Retained earnings			15,424				14,985
Accumulated other comprehensive income (loss)			22				(212	)
Treasury stock at cost, 2016-0 shares, 2015- 5,528 shares			-				(46	)
Unearned ESOP shares, at cost			(359	)			(385	)
Total stockholders’ equity			31,455				21,760
Total liabilities and stockholders' equity		$	259,723			$	255,807

 

The accompanying notes are an integral part of the consolidated financial statements.

 

 

FSB Bancorp, Inc.

Consolidated Statements of Income

(Unaudited)

 

		For the three				For the three
		months ended				months ended
(In thousands, except per share data)		September 30, 2016				September 30, 2015
Interest and dividend income:
Loans, including fees		$	2,221			$	2,084
Securities:
Taxable			52				111
Tax-exempt			25				25
Mortgage-backed securities			50				45
Other			10				1
Total interest and dividend income			2,358				2,266
Interest expense:
Interest on deposits			348				325
Interest on short-term borrowings			1				4
Interest on long-term borrowings			165				185
Total interest expense			514				514
Net interest income			1,844				1,752
Provision for loan losses			45				37
Net interest income after provision for loan losses			1,799				1,715
Other income:
Service fees			45				40
Fee income			35				44
Realized gain on sale of securities			36				106
Increase in cash surrender value of bank owned life insurance			17				18
Realized gain on sale of loans			749				468
Mortgage fee income			240				201
Other			40				40
Total other income			1,162				917
Other expense:
Salaries and employee benefits			1,626				1,349
Occupancy			248				256
Data processing costs			52				40
Advertising			28				27
Equipment			153				155
Electronic banking			27				32
Directors’ fees			65				40
Mortgage fees and taxes			123				99
FDIC premium expense			42				39
Audits and tax services			48				30
Other			207				195
Total other expenses			2,619				2,262
Income before income taxes			342				370
Provision for income taxes			90				109
Net income		$	252			$	261
Earnings per common share - basic		$	0.13			$	0.14

 

The accompanying notes are an integral part of the consolidated financial statements.

 

 

FSB Bancorp, Inc.

Consolidated Statements of Income

(Unaudited)

 

		For the nine				For the nine
		months ended				months ended
(In thousands, except per share data)		September 30, 2016				September 30, 2015
Interest and dividend income:
Loans, including fees		$	6,466			$	6,041
Securities:
Taxable			218				369
Tax-exempt			71				70
Mortgage-backed securities			161				179
Other			21				4
Total interest and dividend income			6,937				6,663
Interest expense:
Interest on deposits			1,077				895
Interest on short-term borrowings			1				6
Interest on long-term borrowings			528				559
Total interest expense			1,606				1,460
Net interest income			5,331				5,203
Provision for loan losses			135				112
Net interest income after provision for loan losses			5,196				5,091
Other income:
Service fees			116				117
Fee income			135				132
Realized gain on sale of securities			36				106
Increase in cash surrender value of bank owned life insurance			50				55
Realized gain on sale of loans			1,609				985
Mortgage fee income			586				459
Other			120				117
Total other income			2,652				1,971
Other expense:
Salaries and employee benefits			4,452				3,934
Occupancy			747				757
Data processing costs			149				113
Advertising			83				93
Equipment			451				446
Electronic banking			83				75
Directors’ fees			188				135
Mortgage fees and taxes			336				291
FDIC premium expense			127				115
Audits and tax services			112				51
Other			557				574
Total other expenses			7,285				6,584
Income before income taxes			563				478
Provision for income taxes			124				99
Net income		$	439			$	379
Earnings per common share - basic		$	0.23			$	0.20

 

The accompanying notes are an integral part of the consolidated financial statements.

 

 

FSB Bancorp, Inc.

Consolidated Statements of Comprehensive Income

(Unaudited)

 

		For the three months ended
(In thousands)		September 30, 2016				September 30, 2015
Net Income		$	252			$	261
Other Comprehensive Income
Unrealized holding losses on available-for-sale securities
Unrealized holding gains (losses) arising during the period			(45	)			47
Reclassification adjustment for net gains included in net income on securities available-for-sale			(24	)			(64	)
Reclassification adjustment for net gains included in net income on securities held-to-maturity			(12	)			(42	)
Net unrealized loss on available for sale securities			(81	)			(59	)
Accretion of net unrealized loss on securities transferred to held-to-maturity(1)			68				(20	)
Other comprehensive loss, before tax			(13	)			(79	)
Tax effect			(5	)			(143	)
Other comprehensive income (loss), net of tax			(8	)			64
Comprehensive income		$	244			$	325
Tax Effect Allocated to Each Component of Other Comprehensive Income
Unrealized holding gains (losses) arising during the period		$	16			$	(16	)
Reclassification adjustment for net gains included in net income on securities available-for-sale			8				22
Reclassification adjustment for net gains included in net income on securities held-to-maturity			4				14
Accretion of net unrealized loss on securities transferred to held-to-maturity			(23	)			123
Income tax effect related to other comprehensive income		$	5			$	143

 

The accompanying notes are an integral part of the consolidated financial statements.

 

(1)

The accretion of the unrealized holding losses in accumulated other comprehensive income at the date of transfer partially offsets the amortization of the difference between the par value and the fair value of the investment securities at the date of transfer, and is an adjustment of yield.

 

 

FSB Bancorp, Inc.

Consolidated Statements of Comprehensive Income

(Unaudited)

 

		For the nine months ended
(In thousands)		September 30, 2016				September 30, 2015
Net Income		$	439			$	379
Other Comprehensive Income
Unrealized holding gains (losses) on available for sale securities
Unrealized holding gains arising during the period			75				27
Reclassification adjustment for net gains included in net income on securities available-for-sale			(24	)			(64	)
Reclassification adjustment for net gains included in net income on securities held-to-maturity			(12	)			(42	)
Net unrealized gain (loss) on available for sale securities			39				(79	)
Accretion of net unrealized loss on securities transferred to held-to-maturity(1)			323				(6	)
Other comprehensive income (loss), before tax			362				(85	)
Tax effect			128				150
Other comprehensive income, net of tax			234				65
Comprehensive income		$	673			$	444
Tax Effect Allocated to Each Component of Other Comprehensive Income
Unrealized holding gains (losses) arising during the period		$	(25	)		$	(9	)
Reclassification adjustment for net gains included in net income on securities available-for-sale			8				22
Reclassification adjustment for net gains included in net income on securities held-to-maturity			4				14
Accretion of net unrealized loss on securities transferred to held-to-maturity			(115	)			123
Income tax effect related to other comprehensive income		$	(128	)		$	150

 

The accompanying notes are an integral part of the consolidated financial statements.

 

(1)

The accretion of the unrealized holding losses in accumulated other comprehensive income at the date of transfer partially offsets the amortization of the difference between the par value and the fair value of the investment securities at the date of transfer, and is an adjustment of yield.

 

 

FSB Bancorp, Inc.

Consolidated Statements of Stockholders’ Equity

(Unaudited)

 

														Accumulated Other
		Common				Paid in				Retained				Comprehensive				Treasury				Unearned
(In thousands, except share and per share data)		Stock				Capital				Earnings				Income (Loss)				Stock				ESOP				Total
Balance, January 1, 2016		$	179			$	7,239			$	14,985			$	(212	)		$	(46	)		$	(385	)		$	21,760
Net income			-				-				439				-				-				-				439
Other comprehensive income, net of tax			-				-				-				234				-				-				234
Effect of the employee stock ownership plan, net			-				-				-				-				-				-				-
ESOP shares committed to be released			-				6				-				-				-				26				32
Proceeds of common stock offering and conversion of existing shares, net of expenses			(159	)			9,149				-				-				-				-				8,990
Cancel 5,528 treasury shares			(1	)			(45	)			-				-				46				-				-
Balance, September 30, 2016		$	19			$	16,349			$	15,424			$	22			$	-			$	(359	)		$	31,455
Balance, January 1, 2015		$	179			$	7,239			$	14,472			$	(226	)		$	(40	)		$	(420	)		$	21,204
Net income			-				-				379				-				-				-				379
Other comprehensive income, net of tax			-				-				-				65				-				-				65
Effect of the employee stock ownership plan, net			-				-				-				-				(6	)			-				(6	)
ESOP shares committed to be released			-				(1	)			-				-				-				26				25
Cancel treasury shares			-				-				-				-				-				-				-
Balance, September 30, 2015		$	179			$	7,238			$	14,851			$	(161	)		$	(46	)		$	(394	)			$ 21, 667

 

The accompanying notes are an integral part of the consolidated financial statements.

 

 

FSB Bancorp, Inc.

Consolidated Statements of Cash Flows

(Unaudited)

  

		For the Nine Months Ended September 30,
(In thousands)		2016				2015
OPERATING ACTIVITIES
Net income		$	439			$	379
Adjustments to reconcile net income to net cash flows from operating activities:
Net amortization of premiums and accretion of discounts on investments			296				351
Gain on sales of securities			(36	)			(106	)
Gain on sale of loans			(1,609	)			(985	)
Proceeds from loans sold			24,188				17,277
Loans originated for sale			(24,301	)			(18,993	)
Amortization of net deferred loan origination costs			174				127
Depreciation and amortization			332				337
Provision for loan losses			135				112
Expense related to ESOP			32				25
Deferred income tax benefit			(120	)			(132	)
Earnings on investment in bank owned life insurance			(50	)			(55	)
Decrease in accrued interest receivable			13				3
Increase in other assets			(273	)			(680	)
Increase in other liabilities			293				504
Net cash flows from operating activities			(487	)			(1,836	)
INVESTING ACTIVITIES
Purchases of securities available-for-sale			(11,579	)			(4,000	)
Proceeds from maturities and calls of securities available-for-sale			9,096				3,000
Proceeds from sales of securities available-for-sale			2,213				2,574
Proceeds from principal paydowns on securities available-for-sale			2,572				3,217
Purchases of securities held-to-maturity			(932	)			(919	)
Proceeds from maturities and calls of securities held-to-maturity			6,798				2,129
Proceeds from sales of securities held-to-maturity			393				856
Proceeds from principal paydowns on securities held-to-maturity			351				516
Net increase in loans			(12,011	)			(10,118	)
Redemption (Purchase) of Federal Home Loan Bank stock, net			(92	)			2
Purchase of premises and equipment			(665	)			(330	)
Net cash flows from investing activities			(3,856	)			(3,073	)
FINANCING ACTIVITIES
Net increase (decrease) in deposits			(7,033	)			4,832
Proceeds from long-term borrowings			9,500				11,000
Repayments on long-term borrowings			(11,812	)			(11,518	)
Proceeds from short-term borrowings, net			4,000				-
Net increase (decrease) in official bank checks			(619	)			374
Net proceeds from stock conversion and offering			8,990				-
Purchase of treasury stock			-				(6	)
Net cash flows from financing activities			3,026				4,682
Change in cash and cash equivalents			(1,317	)			(227	)
Cash and cash equivalents at beginning of period			6,147				4,335
Cash and cash equivalents at end of period		$	4,830			$	4,108
CASH PAID DURING THE PERIOD FOR:
Interest		$	1,612			$	1,460
Income taxes		$	113			$	28

 

The accompanying notes are an integral part of the consolidated financial statements.

 

 

Notes to Consolidated Financial Statements (Unaudited)

 

Note 1:   Basis of Presentation

 

The accompanying unaudited consolidated financial statements of FSB Bancorp, Inc., (“FSB Bancorp”), FSB Community Bankshares, Inc. (“FSB Community”), Fairport Savings Bank (the “Bank”) and its other wholly owned subsidiary, Fairport Wealth Management (collectively, the “Company”), have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information, the instructions for Form 10-Q and Article 8 of Regulation S-X. Accordingly, they do not include all of the information and footnotes necessary for a complete presentation of consolidated financial condition, results of operations and cash flows in conformity with generally accepted accounting principles. In the opinion of management, all adjustments, consisting of normal recurring accruals considered necessary for a fair presentation, have been included. The results are not necessarily indicative of the results that may be expected for the year ending December 31, 2016 or for any future period. References to the Company prior to July 13, 2016 include FSB Community and not FSB Bancorp, whereas after July 13, 2016 references to the Company include FSB Bancorp and not FSB Community.

 

The Company's consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States and follow practices within the banking industry. Application of these principles requires management to make estimates, assumptions, and judgments that affect the amounts reported in the consolidated financial statements and accompanying notes. These estimates, assumptions, and judgments are based on information available as of the date of the financial statements; accordingly, as this information changes, the financial statements could reflect different estimates, assumptions, and judgments. Certain policies inherently have a greater reliance on the use of estimates, assumptions, and judgments and as such have a greater possibility of producing results that could be materially different than originally reported. Estimates, assumptions, and judgments are necessary when assets and liabilities are required to be recorded at fair value or when an asset or liability needs to be recorded contingent upon a future event. Carrying assets and liabilities at fair value inherently results in more financial statement volatility. The fair values and information used to record valuation adjustments for certain assets and liabilities are based on quoted market prices or are provided by other third-party sources, when available. When third party information is not available, valuation adjustments are estimated in good faith by management.

 

FSB Bancorp is a Maryland Corporation headquartered in Fairport, New York. On July 13, 2016, FSB Bancorp, completed the conversion and reorganization pursuant to which FSB Community Bankshares, MHC converted to the stock holding company form of organization. FSB Bancorp, the new stock holding company for Fairport Savings Bank, sold 1,034,649 shares of common stock, par value $0.01 per share, at $10.00 per share, for gross offering proceeds of $10.3 million in its stock offering. Additionally, after accounting for conversion related expenses of $1.4 million, which offset gross proceeds, the Company received $8.9 million in net proceeds.

 

Concurrent with the completion of the conversion and reorganization, shares of common stock of FSB Community owned by public stockholders were exchanged for shares of FSB Bancorp’s common stock so that the former public stockholders of FSB Community owned approximately the same percentage of FSB Bancorp’s common stock as they owned of FSB Community’s common stock immediately prior to the conversion, subject to adjustment as disclosed in the prospectus. Stockholders of FSB Community received 1.0884 shares of FSB Bancorp’s common stock for each share of FSB Community’s stock they owned immediately prior to completion of the transaction. Cash in lieu of fractional shares was paid based on the offering price of $10.00 per share. All share and per share information in this report for periods prior to the conversion have been revised to reflect the 1.0884:1 conversion ratio on shares outstanding, including shares held by FSB Community Bankshares, MHC that were not publicly traded.

 

Note 2:   New Accounting Pronouncements

 

On August 19, 2016, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) No. 2016-15, Statement of Cash Flows (Topic 230), Classification of Certain Cash Receipts and Cash Payments. This ASU specifically addresses the disclosure requirements on prepared statements of cash flow for eight types of cash receipt or cash payment transactions engaged in by business entities.  The FASB considers this Update to be an improvement on current standards as there is diversity at this time in practice in how these types of cash receipts and cash payments are presented and classified in the statement of cash flows. The new guidance is intended to reduce the current diversity in practice of how the following eight types of transactions are classified in the statement of cash flows:

 

 

·

Debt prepayment or debt extinguishment costs;

·

Settlement of zero-coupon debt instruments or other debt instruments with coupon interest rates that are insignificant in relation to the effective interest rate of the borrowing;

·

Contingent consideration payments made after a business combination;

·

Proceeds from the settlement of insurance claims;

·

Proceeds from the settlement of corporate-owned life insurance policies, including bank-owned life insurance policies;

·

Distributions received from equity method investees;

·

Beneficial interests in securitization transactions;

·

Separately identifiable cash flows and application of the Predominance Principle.

 

For public business entities, such as the Company, the standard is effective for financial statements issued for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years. Early adoption is permitted, provided that all of the amendments are adopted in the same period. The guidance requires application using a retrospective transition method.  The Company does not expect a material impact on its consolidated financial statements of condition, results of operations, or cash flows as a result of the adoption of this Update.

 

Note 3:   Earnings per Common Share

 

Basic earnings per share is calculated by dividing net income available to common stockholders by the weighted average number of common shares outstanding during the period. Net income available to common stockholders is net income to FSB Bancorp, Inc. The Company has not granted any restricted stock awards or stock options and, during the three and nine month periods ended September 30, 2016 and 2015, had no potentially dilutive common stock equivalents. Unallocated common shares held by the ESOP are not included in the weighted-average number of common shares outstanding for purposes of calculating earnings per common share until they are committed to be released.

 

The following tables set forth the calculation of basic earnings per share. Historical share and per share data have been adjusted by the exchange ratio of 1.0884 used in the conversion and offering.

 

		Three months ended
		September 30,
(In thousands, except per share data)		2016				2015
Basic Earnings Per Common Share
Net income available to common stockholders		$	252			$	261
Weighted average common shares outstanding			1,905				1,893
Basic earnings per common share		$	0.13			$	0.14

 

		Nine months ended
		September 30,
(In thousands, except per share data)		2016				2015
Basic Earnings Per Common Share
Net income available to common stockholders		$	439			$	379
Weighted average common shares outstanding			1,899				1,893
Basic earnings per common share		$	0.23			$	0.20

 

 

Note 4:   Investment Securities

 

The amortized cost and estimated fair value of investment securities are summarized as follows:

 

		September 30, 2016
						Gross				Gross
		Amortized				Unrealized				Unrealized				Fair
(In thousands)		Cost				Gains				Losses				Value
Available-for-Sale Portfolio
U.S. Government and agency obligations		$	7,106			$	5			$	(4	)		$	7,107
Mortgage-backed securities – residential			10,514				55				(24	)			10,545
Total available-for-sale		$	17,620			$	60			$	(28	)		$	17,652
Held-to-Maturity Portfolio
Mortgage-backed securities – residential		$	802			$	18			$	-			$	820
U.S. Government and agency obligations			-				-				-				-
State and municipal securities			5,567				104				(2	)			5,669
Total held-to-maturity		$	6,369			$	122			$	(2	)		$	6,489

 

		December 31, 2015
						Gross				Gross
		Amortized				Unrealized				Unrealized				Fair
(In thousands)		Cost				Gains				Losses				Value
Available-for-Sale Portfolio
U.S. Government and agency obligations		$	6,000			$	-			$	(32	)		$	5,968
Mortgage-backed securities – residential			13,974				101				(75	)			14,000
Total available-for-sale		$	19,974			$	101			$	(107	)		$	19,968
Held-to-Maturity Portfolio
Mortgage-backed securities – residential		$	1,535			$	39			$	-			$	1,574
U.S. Government and agency obligations			6,793				129				-				6,922
State and municipal securities			4,651				76				(1	)			4,726
Total held-to-maturity		$	12,979			$	244			$	(1	)		$	13,222

 

 

The amortized cost and estimated fair value of debt investments at September 30, 2016 by contractual maturity are shown below. Expected maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without penalties.

 

		Available-for-Sale								Held-to-Maturity
		Amortized								Amortized
(In thousands)		Cost				Fair Value				Cost				Fair Value
Due in one year or less		$	-			$	-			$	371			$	371
Due after one year through five years			6,106				6,102				3,193				3,247
Due after five years through ten years			-				-				2,003				2,051
Due after ten years			1,000				1,005				-				-
Sub-total		$	7,106			$	7,107			$	5,567			$	5,669
Mortgage-backed securities – residential			10,514				10,545				802				820
Totals		$	17,620			$	17,652			$	6,369			$	6,489

 

The Company’s investment securities’ gross unrealized losses and fair value, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, are as follows:

 

		September 30, 2016
		Less than Twelve Months												Twelve Months or More												Total
		Number of												Number of												Number of
		Individual				Unrealized				Fair				Individual				Unrealized				Fair				Individual				Unrealized				Fair
(Dollars in thousands)		Securities				Losses				Value				Securities				Losses				Value				Securities				Losses				Value
Available-for-Sale
U.S. Government and agency obligations			3			$	4			$	4,102				-			$	-			$	-				3			$	4			$	4,102
Mortgage-backed securities - residential			2				9				3,021				2				15				1,092				4				24				4,113
Totals			5			$	13			$	7,123				2			$	15			$	1,092				7			$	28			$	8,215
Held-to-Maturity
State and municipal securities(1)			3			$	2			$	560				1			$	-			$	45				4			$	2			$	605
Totals			3			$	2			$	560				1			$	-			$	45				4			$	2			$	605

 

		December 31, 2015
		Less than Twelve Months												Twelve Months or More												Total
		Number of												Number of												Number of
		Individual				Unrealized				Fair				Individual				Unrealized				Fair				Individual				Unrealized				Fair
(Dollars in thousands)		Securities				Losses				Value				Securities				Losses				Value				Securities				Losses				Value
Available-for-Sale
U.S. Government and agency obligations			6			$	32			$	5,968				-			$	-			$	-				6			$	32			$	5,968
Mortgage-backed securities - residential			5				61				6,283				1				14				821				6				75				7,104
Totals			11			$	93			$	12,251				1			$	14			$	821				12			$	107			$	13,072
Held-to-Maturity
State and municipal securities(1)			2			$	-			$	455				2			$	1			$	126				4			$	1			$	581
Totals			2			$	-			$	455				2			$	1			$	126				4			$	1			$	581

 

⁽¹⁾ Aggregate unrealized loss position of these securities is less than $500.

 

The Company conducts a formal review of investment securities on a quarterly basis for the presence of other-than-temporary impairment (“OTTI”). The Company assesses whether OTTI is present when the fair value of a debt security is less than its amortized cost basis at the statement of condition date. Under these circumstances, OTTI is considered to have occurred (1) if we intend to sell the security; (2) if it is “more likely than not” we will be required to sell the security before recovery of its amortized cost basis; or (3) the present value of expected cash flows is not anticipated to be sufficient to recover the entire amortized cost basis. The guidance requires that credit-related OTTI is recognized in

 

 

earnings while non-credit-related OTTI on securities not expected to be sold is recognized in other comprehensive income (“OCI”). Non-credit-related OTTI is based on other factors, including illiquidity and changes in the general interest rate environment. Presentation of OTTI is made in the consolidated statement of income on a gross basis, including both the portion recognized in earnings as well as the portion recorded in OCI. The gross OTTI would then be offset by the amount of non-credit-related OTTI, showing the net as the impact on earnings.

 

There were 11 securities in an unrealized loss position at September 30, 2016, of which three have been in loss positions for a period greater than twelve months and eight have been in loss positions for a period less than twelve months. This compares to 16 securities in an unrealized loss position at December 31, 2015, of which three had been in loss positions for a period greater than twelve months and 13 had been in loss positions for a period less than twelve months. These issuing entities are currently rated Aaa by Moody’s Investor Services and AA+ by Standard and Poors. Among the three securities in loss positions for a period greater than twelve months at September 30, 2016, two were mortgage-backed securities issued by GNMA and guaranteed by the United States Government. The remaining security that has been in a loss position for a period greater than twelve months was issued by a state subdivision. The unrealized losses reflected are primarily attributable to changes in interest rates since the securities were acquired.

 

Among the eight securities in an unrealized loss position at September 30, 2016 for less than twelve months, five were either direct issuances of, or mortgage-backed securities or collateralized mortgage obligations issued by, the following entities sponsored and guaranteed by the United States Government: FNMA, FHLMC, FHLB and FFCB. The remaining three securities were issued by a state or political subdivision. The unrealized losses reflected are primarily attributable to changes in interest rates since the securities were acquired. The Company does not intend to sell these securities, nor is it more likely than not, that the Company will be required to sell these securities prior to recovery of the amortized cost. As such, management does not believe any individual unrealized loss as of September 30, 2016 represents OTTI.

 

There were $24,000 of gross realized gains on sales of securities available-for-sale and $12,000 of gross realized gains on sales of securities held-to-maturity resulting from proceeds of $2,606,000 for the three months and nine months ended September 30, 2016. There were $64,000 of gross realized gains on sales of securities available-for-sale and $42,000 of gross realized gains on sales of securities held-to-maturity resulting from proceeds of $3,430,000 for the three months and nine months ended September 30, 2015. In accordance with accounting guidance, the Company was able to sell securities classified as held-to-maturity after the Company had already collected a substantial portion (at least 85%) of the principal outstanding at acquisition due either to prepayments or to scheduled principal and interest payments on debt securities.

 

As of September 30, 2016 and December 31, 2015, no securities were pledged to secure public deposits or for any other purpose required or permitted by law.

 

Management has reviewed its loan and mortgage-backed securities portfolios and determined that, to the best of its knowledge, little or no exposure exists to sub-prime or other high-risk residential mortgages. The Company is not in the practice of investing in, or originating, these types of investments or loans.

 

 

Note 5:   Loans

 

Major classifications of loans at the indicated dates are as follows:

 

		September 30,				December 31,
(In thousands)		2016				2015
Real estate loans:
Secured by one-to-four family residences		$	179,322			$	177,037
Secured by multi-family residences			5,156				5,146
Construction			5,454				1,251
Commercial real estate			6,492				3,522
Home equity lines of credit			15,854				14,523
Total real estate loans			212,278				201,479
Commercial and industrial loans			1,931				853
Other loans			82				61
Total loans			214,291				202,393
Net deferred loan origination costs			186				248
Less allowance for loan losses			(945	)			(811	)
Loans receivable, net		$	213,532			$	201,830

 

The Company originates residential mortgage, commercial, and consumer loans largely to customers throughout Monroe county and the surrounding western New York counties of Erie, Livingston, Ontario, Orleans, Jefferson and Wayne. Although the Company has a diversified loan portfolio, a substantial portion of its borrowers’ abilities to honor their loan contracts is dependent upon the counties’ employment and economic conditions.

 

As of September 30, 2016 and December 31, 2015, residential mortgage loans with a carrying value of $166.0 million and $168.2 million, respectively, have been pledged by the Company to the Federal Home Loan Bank of New York (“FHLBNY”) under a blanket collateral agreement to secure the Company’s line of credit and term borrowings. The Company retains the servicing on most fixed-rate mortgage loans sold and receives a fee based on the principal balance outstanding. Loans serviced for others totaled $108.4 million and $85.9 million at September 30, 2016 and December 31, 2015, respectively. Loan servicing rights are recorded at fair value when loans are sold with servicing rights retained. The fair value of the mortgage servicing rights (“MSRs”) is determined using a method which utilizes servicing income, discount rates, and prepayment speeds relative to the Bank’s portfolio for MSRs and are amortized over the life of the loan. MSRs amounted to $731,000 and $561,000 at September 30, 2016 and December 31, 2015, respectively, and are included in other assets on the consolidated balance sheets.

 

Loan Origination / Risk Management

 

The Company’s lending policies and procedures are presented in Note 3 to the consolidated financial statements included in FSB Bancorp’s Registration Statement on Form S-1 declared effective by the Securities and Exchange Commission on May 13, 2016 and have not changed.

 

To develop and document a systematic methodology for determining the allowance for loan losses, the Company has divided the loan portfolio into two portfolio segments, each with different risk characteristics but with similar methodologies for assessing risk.  Each portfolio segment is broken down into loan classes where appropriate.  Loan classes contain unique measurement attributes, risk characteristics, and methods for monitoring and assessing risk that are necessary to develop the allowance for loan losses. Unique characteristics such as borrower type, loan type, collateral type, and risk characteristics define each class. 

 

 

The following table illustrates the portfolio segments and classes for the Company’s loan portfolio:

 

Portfolio Segment	Class
Real Estate Loans	Secured by one-to-four family residences
	Secured by multi-family residences
	Construction Commercial real estate Home equity lines of credit
Other Loans	Commercial and industrial
	Other loans

 

The following tables present the classes of the loan portfolio, not including net deferred loan fees, summarized by the aggregate pass rating and the classified ratings of special mention, substandard and doubtful within the Company's internal risk rating system as of the dates indicated:

 

		As of September 30, 2016
						Special
(In thousands)		Pass				Mention				Substandard				Doubtful				Total
Real estate loans:
Secured by one-to-four family residences		$	177,919			$	-			$	1,403			$	-			$	179,322
Secured by multi-family residences			5,156				-				-				-				5,156
Construction			5,454				-				-				-				5,454
Commercial real estate			6,492				-				-				-				6,492
Home equity lines of credit			15,552				-				302				-				15,854
Total real estate loans			210,573				-				1,705				-				212,278
Commercial & industrial loans			1,931				-				-				-				1,931
Other loans			82				-				-				-				82
Total loans		$	212,586			$	-			$	1,705			$	-			$	214,291

 

		As of December 31, 2015
						Special
(In thousands)		Pass				Mention				Substandard				Doubtful				Total
Real estate loans:
Secured by one-to-four family residences		$	175,885			$	-			$	1,152			$	-			$	177,037
Secured by multi-family residences			5,146				-				-				-				5,146
Construction			1,251				-				-				-				1,251
Commercial real estate			3,522				-				-				-				3,522
Home equity lines of credit			14,223				-				300				-				14,523
Total real estate loans			200,027				-				1,452				-				201,479
Commercial & industrial loans			853				-				-				-				853
Other loans			60				-				-				1				61
Total loans		$	200,940			$	-			$	1,452			$	1			$	202,393

 

Management has reviewed its loan portfolio and determined that, to the best of its knowledge, no exposure exists to sub-prime or other high-risk residential mortgages. The Company is not in the practice of originating these types of loans.

 

 

Nonaccrual and Past Due Loans

 

Loans are placed on nonaccrual when the contractual payment of principal and interest has become 90 days past due or management has serious doubts about further collectability of principal or interest, even though the loan may be currently performing.

 

Loans are considered past due if the required principal and interest payments have not been received within thirty days of the payment due date. An age analysis of past due loans, segregated by portfolio segment and class of loans, as of September 30, 2016 and December 31, 2015, are detailed in the following tables:

 

		As of September 30, 2016
		30-59 Days				60-89 Days
		Past Due				Past Due				90 Days				Total								Total Loans
(In thousands)		And Accruing				And Accruing				and Over				Past Due				Current				Receivable
Real estate loans:
Secured by one-to-four family residences		$	-			$	-			$	-			$	-			$	179,322			$	179,322
Secured by multi-family residences			-				-				-				-				5,156				5,156
Construction			-				-				-				-				5,454				5,454
Commercial			-				-				-				-				6,492				6,492
Home equity lines of credit			12				-				18				30				15,824				15,854
Total real estate loans			12				-				18				30				212,248				212,278
Commercial & industrial loans			-				-				-				-				1,931				1,931
Other loans			-				-				-				-				82				82
Total loans		$	12			$	-			$	18			$	30			$	214,261			$	214,291

 

		As of December 31, 2015
		30-59 Days				60-89 Days
		Past Due				Past Due				90 Days				Total								Total Loans
(In thousands)		And Accruing				And Accruing				and Over				Past Due				Current				Receivable
Real estate loans:
Secured by one-to-four family residences		$	118			$	-			$	63			$	181			$	176,856			$	177,037
Secured by multi-family residences			-				-				-				-				5,146				5,146
Construction			-				-				-				-				1,251				1,251
Commercial			-				-				-				-				3,522				3,522
Home equity lines of credit			-				-				18				18				14,505				14,523
Total real estate loans			118				-				81				199				201,280				201,479
Commercial & industrial loans			-				-				-				-				853				853
Other loans			9				-				1				10				51				61
Total loans		$	127			$	-			$	82			$	209			$	202,184			$	202,393

 

At September 30, 2016, the Company had one nonaccrual home equity line of credit for $18,000. At December 31, 2015, the Company had one nonaccrual residential mortgage loan for $63,000, one nonaccrual home equity line of credit for $18,000, and one nonaccrual checking line of credit for $1,000.

 

 

There were no loans that were past due 90 days or more and still accruing interest at September 30, 2016 or December 31, 2015. At September 30, 2016 and December 31, 2015, there were no loans considered to be impaired and no troubled debt restructurings.

 

Note 6:   Allowance for Loan Losses and Foreclosed Real Estate

 

Summarized in the tables below are changes in the allowance for loan losses for the indicated periods and information pertaining to the allocation of the allowance for loan losses, balances of the allowance for loan losses, loans receivable based on individual, and collective impairment evaluation by loan portfolio class. An allocation of a portion of the allowance to a given portfolio class does not limit the Company’s ability to absorb losses in another portfolio class.

 

For the three months ended September 30, 2016
		Secured by				Secured by
		one-to-four				multi-family												Home equity
		family residences				residences				Construction				Commercial				lines of credit				Commercial				Other/
(In thousands)		real estate loans				real estate loans				real estate loans				real estate loans				real estate loans				& industrial				Unallocated				Total
Allowance for loan losses:
Beginning Balance		$	569			$	39			$	18			$	47			$	105			$	13			$	109			$	900
Charge-offs			-				-				-				-				-				-				-				-
Recoveries			-				-				-				-				-				-				-				-
Provisions			(15	)			-				9				18				3				11				19				45
Ending balance		$	554			$	39			$	27			$	65			$	108			$	24			$	128			$	945

 

For the three months ended September 30, 2015
		Secured by				Secured by
		one-to-four				multi-family												Home equity
		family residences				residences				Construction				Commercial				lines of credit				Commercial				Other/
(In thousands)		real estate loans				real estate loans				real estate loans				real estate loans				real estate loans				& industrial				Unallocated				Total
Allowance for loan losses:
Beginning Balance		$	513			$	28			$	7			$	22			$	98			$	2			$	58			$	728
Charge-offs			-				-				-				-				-				-				-				-
Recoveries			-				-				-				-				-				-				-				-
Provisions			4				3				1				-				2				12				15				37
Ending balance		$	517			$	31			$	8			$	22			$	100			$	14			$	73			$	765

 

For the nine months ended September 30, 2016
		Secured by				Secured by
		one-to-four				multi-family												Home equity
		family residences				residences				Construction				Commercial				lines of credit				Commercial				Other/
(In thousands)		real estate loans				real estate loans				real estate loans				real estate loans				real estate loans				& industrial				Unallocated				Total
Allowance for loan losses:
Beginning Balance		$	524			$	39			$	6			$	35			$	101			$	11			$	95			$	811
Charge-offs			-				-				-				-				-				-				(1	)			(1	)
Recoveries			-				-				-				-				-				-				-				-
Provisions			30				-				21				30				7				13				34				135
Ending balance		$	554			$	39			$	27			$	65			$	108			$	24			$	128			$	945

 

 

For the nine months ended September 30, 2015
		Secured by				Secured by
		one-to-four				multi-family												Home equity
		family residences				residences				Construction				Commercial				lines of credit				Commercial				Other/
(In thousands)		real estate loans				real estate loans				real estate loans				real estate loans				real estate loans				& industrial				Unallocated				Total
Allowance for loan losses:
Beginning Balance		$	448			$	29			$	6			$	14			$	87			$	1			$	68			$	653
Charge-offs			-				-				-				-				-				-				-				-
Recoveries			-				-				-				-				-				-				-				-
Provisions			69				2				2				8			$	13				13				5				112
Ending balance		$	517			$	31			$	8			$	22			$	100			$	14			$	73			$	765

 

The Company had no foreclosed real estate at September 30, 2016 or December 31, 2015.

 

At September 30, 2016 and December 31, 2015, the Company did not have any residential real estate loans in the process of foreclosure.

 

Note 7:  Fair Value Measurements

 

Accounting guidance related to fair value measurements and disclosures specifies a hierarchy of valuation techniques based on whether the inputs to those valuation techniques are observable or unobservable. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect the Company’s market assumptions. These two types of inputs have created the following fair value hierarchy:

 

Level 1 – Quoted prices (unadjusted) for identical assets or liabilities in active markets that the entity has the ability to access as of the measurement date.

 

Level 2 – Quoted prices for similar assets and liabilities in active markets; quoted prices for identical or similar assets or liabilities in markets that are not active; and model-derived valuations in which all significant inputs and significant value drivers are observable in active markets.

 

Level 3 – Model-derived valuations in which one or more significant inputs or significant value drivers are unobservable.

 

An asset’s or liability’s level within the fair value hierarchy is based on the lowest level of input that is significant to the fair value measurement.

 

In determining fair value, the Company utilizes valuation techniques that maximize the use of observable inputs, minimize the use of unobservable inputs, to the extent possible, and considers counterparty credit risk in its assessment of fair value.

 

 

The following tables summarize assets measured at fair value on a recurring basis as of the indicated dates, segregated by the level of valuation inputs within the hierarchy utilized to measure fair value:

 

		September 30, 2016
(In thousands)		Level 1				Level 2				Level 3				Total Fair Value
Available-for-sale portfolio
U.S. Government and agency obligations		$	-			$	7,107			$	-			$	7,107
Mortgage-backed securities – residential			-				10,545				-				10,545
Total available-for-sale securities		$	-			$	17,652			$	-			$	17,652

 

		December 31, 2015
(In thousands)		Level 1				Level 2				Level 3				Total Fair Value
Available-for-sale portfolio
U.S. Government and agency obligations		$	-			$	5,968			$	-			$	5,968
Mortgage-backed securities – residential			-				14,000				-				14,000
Total available-for-sale securities		$	-			$	19,968			$	-			$	19,968

 

There have been no transfers of assets into or out of any fair value measurement level during the quarter ended September 30, 2016.

 

Required disclosures include fair value information of financial instruments, whether or not recognized in the consolidated statement of condition, for which it is practicable to estimate that value. 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. In that regard, the derived fair value estimates cannot be substantiated by comparison to independent markets and, in many cases, could not be realized in immediate settlement of the instrument.

 

The Company has various processes and controls in place to ensure that fair value is reasonably estimated. The Company performs due diligence procedures over third-party pricing service providers in order to support their use in the valuation process. 

 

While the Company believes its valuation methods are appropriate and consistent with other market participants, the use of different methodologies or assumptions to determine the fair value of certain financial instruments could result in a different estimate of fair value at the reporting date.

 

Management uses its best judgment in estimating the fair value of the Company’s financial instruments; however, there are inherent weaknesses in any estimation technique. Therefore, for substantially all financial instruments, the fair value estimates herein are not necessarily indicative of the amounts the Company could have realized in a sale transaction on the dates indicated. The estimated fair value amounts have been measured as of their respective period-ends, and have not been re-evaluated or updated for purposes of these financial statements subsequent to those respective dates. As such, the estimated fair values of these financial instruments subsequent to the respective reporting dates may be different than the amounts reported at each period-end.

 

The following information should not be interpreted as an estimate of the fair value of the entire Company since a fair value calculation is only provided for a limited portion of the Company’s assets and liabilities. Due to a wide range of valuation techniques and the degree of subjectivity used in making the estimates, comparisons between the Company’s disclosures and those of other companies may not be meaningful. The Company, in estimating its fair value disclosures for financial instruments, used the following methods and assumptions:

 

 

Cash, Due from Banks, and Interest Bearing Demand Deposits

 

The carrying amounts of these assets approximate their fair values.

 

Investment Securities

 

The fair value of securities available for sale (carried at fair value) and held to maturity (carried at amortized cost) are determined by matrix pricing, which is a mathematical technique used widely in the industry to value debt securities without relying exclusively on quoted market prices for the specific securities but rather relying on the securities’ relationship to other benchmark quoted prices and is considered to be a Level 2 measurement.

 

Investment in FHLB Stock

 

The carrying value of FHLB stock approximates its fair value based on the redemption provisions of the FHLB stock, resulting in a Level 2 classification.

 

Loans

 

The fair values of loans held in portfolio are estimated using discounted cash flow analyses, using market rates at the balance sheet date that reflect the credit and interest rate-risk inherent in the loans, resulting in a Level 3 classification. Projected future cash flows are calculated based upon contractual maturity or call dates, projected repayments and prepayments of principal. Generally, for variable rate loans that reprice frequently and with no significant change in credit risk, fair values are based on carrying values.

 

Mortgage loans held for sale in the secondary market are carried at the lower of cost or fair value, resulting in a Level 2 classification. Separate determinations of fair value for residential and commercial loans are made on an aggregate basis. Fair value is determined based solely on the effect of changes in secondary market interest rates and yield requirements from the commitment date to the date of the financial statements.

 

Accrued Interest Receivable and Payable

 

The carrying amount of accrued interest receivable and payable approximates fair value.

 

Deposits

 

The fair values disclosed for demand deposits (e.g., NOW accounts, non-interest checking, regular savings and certain types of money market accounts) are, by definition, equal to the amount payable on demand at the reporting date (i.e., their carrying amounts), resulting in a Level 1 classification. The carrying amounts for variable-rate certificates of deposit approximate their fair values at the reporting date, resulting in a Level 1 classification. Fair values for fixed-rate certificates of deposit are estimated using a discounted cash flow calculation that applies market interest rates currently being offered on certificates to a schedule of aggregated expected monthly maturities on time deposits, resulting in a Level 2 classification.

 

Borrowings

 

The fair values of FHLB long-term borrowings are estimated using discounted cash flow analyses, based on the quoted rates for new FHLB advances with similar credit risk characteristics, terms and remaining maturity, resulting in a Level 2 classification.

 

 

The carrying amounts and fair values of the Company’s financial instruments as of the indicated dates are presented in the following table:

 

				September 30, 2016								December 31, 2015
		Fair Value		Carrying				Estimated				Carrying				Estimated
(In thousands)		Hierarchy		Amounts				Fair Values				Amounts				Fair Values
Financial assets:
Cash and due from banks		1		$	1,285			$	1,285			$	1,550			$	1,550
Interest earning demand deposits		1			3,545				3,545				4,597				4,597
Securities - available-for-sale		2			17,652				17,652				19,968				19,968
Securities - held-to-maturity		2			6,369				6,489				12,979				13,222
Investment in FHLB stock		2			2,480				2,480				2,388				2,388
Loans held for sale		2			5,602				5,602				3,880				3,880
Loans, net		3			213,532				244,911				201,830				201,886
Accrued interest receivable		1			642				642				655				655
Financial liabilities:
Demand Deposits, Savings, NOW and MMDA		1			87,857				87,857				84,060				84,060
Time Deposits		2			90,671				90,507				101,501				101,272
Borrowings		2			47,780				47,505				46,092				46,447
Accrued interest payable		1			54				54				60				60

 

Note 8:   Accumulated Other Comprehensive Income (Loss)

 

Changes in the components of accumulated other comprehensive income (loss) (“AOCI”), net of tax, for the periods indicated are summarized in the table below.

 

		For the three months ended September 30, 2016
(In thousands)		Unrealized Gains and Losses on Available-for-Sale Securities				Unrealized Loss on Securities Transferred to  Held-to-Maturity				Total
Beginning balance		$	75			$	(45	)		$	30
Other comprehensive income before reclassifications			(53	)			45				(8	)
Ending balance		$	22			$	-			$	22

 

		For the three months September 30, 2015
(In thousands)		Unrealized Gains and Losses on Available-for-Sale Securities				Securities reclassified from AFS to HTM				Total
Beginning balance		$	116			$	(341	)		$	(225	)
Other comprehensive income before reclassifications			(38	)			102				64
Ending balance		$	78			$	(239	)		$	(161	)

 

 

For the three months ended September 30,
Details about AOCI		2016				2015				Affected Line Item in the Statement of Income
Available for sale securities		$	24			$	64			Realized gain on sale of securities
Held to maturity securities			12				42			Realized gain on sale of securities
			(12	)			(36	)		Provision for Income Taxes
		$	24			$	70			Net Income

 

		For the nine months ended September 30, 2016
(In thousands)		Unrealized Gains and Losses on Available- for-Sale Securities				Unrealized Loss on Securities Transferred to Held-to-Maturity				Total
Beginning balance		$	(4	)		$	(208	)		$	(212	)
Other comprehensive income before reclassifications			26				208				234
Ending balance		$	22			$	-			$	22

 

		For the nine months ended September 30, 2015
(In thousands)		Unrealized Gains and Losses on Available-for-Sale Securities				Securities reclassified from AFS to HTM				Total
Beginning balance		$	129			$	(355	)		$	(226	)
Other comprehensive income before reclassifications			(51	)			116				65
Ending balance		$	78			$	(239	)		$	(161	)

 

For the nine months ended September 30,
Details about AOCI		2016				2015				Affected Line Item in the Statement of Income
Available for sale securities		$	24			$	64			Realized gain on sale of securities
Held to maturity securities			12				42			Realized gain on sale of securities
			(12	)			(36	)		Provision for Income Taxes
		$	24			$	70			Net Income

 

Note 9:   Conversion and Reorganization

 

On July 13, 2016, the Company completed the conversion and reorganization pursuant to which FSB Community Bankshares, MHC (the “MHC”) converted to the stock holding company form of organization under a "second step" conversion (the "Conversion"), and the Bank reorganized from the two-tier mutual holding company structure to the stock holding company structure. Prior to the completion of the Conversion, the MHC owned approximately 53.0% of the common stock of the Company. FSB Bancorp, the new stock holding company for Fairport Savings Bank, sold 1,034,649 shares of common stock at $10.00 per share, for gross offering proceeds of $10.3 million in its stock offering.

 

Concurrent with the completion of the offering, shares of common stock of FSB Community owned by the public were exchanged for shares of FSB Bancorp's common stock so that the stockholders own approximately the same percentage of

 

 

FSB Bancorp's common stock as they owned of FSB Community's common stock immediately prior to the Conversion, subject to adjustment as disclosed in the prospectus. Stockholders of the Company received 1.0884 shares of FSB Bancorp's common stock for each share of FSB Community's common stock they owned immediately prior to completion of the transaction. Cash in lieu of fractional shares was paid based on the offering price of $10.00 per share. Common shares held by the Company's ESOP prior to the Conversion were also exchanged using the conversion ratio of 1.0884. As a result of the offering and the exchange of shares, FSB Bancorp has 1,941,688 shares outstanding.

 

The Conversion was accounted for as a change in corporate form with no resulting change in the historical basis of the Company's assets, liabilities, and equity. Costs related to the offering were primarily marketing fees paid to the Company's investment banking firm, legal and professional fees, registration fees, printing and mailing costs and totaled $1.4 million. Accordingly, net proceeds were $8.9 million. As a result of the Conversion and Offering, FSB Community Bankshares, Inc., a federal corporation, was succeeded by a new fully public Maryland corporation, FSB Bancorp, Inc., and the MHC ceased to exist.

 

The shares of common stock sold in the offering and issued began trading on the Nasdaq Capital Market on July 14, 2016 under the trading symbol "FSBC."

 

 

 

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

 

Statement Regarding Forward-Looking Statements

 

Certain statements contained herein are “forward looking statements” within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These forward-looking statements are generally identified by use of the words "believe," "expect," "intend," "anticipate," "estimate," "project" or similar expressions. The Company's ability to predict results or the actual effect of future plans or strategies is inherently uncertain. Factors which could have a material adverse effect on the operations of the Company and its subsidiaries include, but are not limited to:

·

Credit quality and the effect of credit quality on the adequacy of our allowance for loan losses;

·

Deterioration in financial markets that may result in impairment charges relating to our securities portfolio;

·

Competition in our primary market areas;

·

Changes in interest rates and national or regional economic conditions;

·

Changes in monetary and fiscal policies of the U.S. Government, including policies of the U.S. Treasury and the Federal Reserve Board;

·

Significant government regulations, legislation and potential changes thereto;

·

A reduction in our ability to generate or originate revenue-producing assets as a result of compliance with heightened capital standards;

·

Increased cost of operations due to greater regulatory oversight, supervision and examination of banks and bank holding companies, and higher deposit insurance premiums;

·

Limitations on our ability to expand consumer product and service offerings due to anticipated stricter consumer protection laws and regulations; and

·

Other risks described herein and in the other reports and statements we file with the SEC.

 

The Company disclaims any obligation to revise or update any forward-looking statements contained in this Form 10-Q to reflect future events or developments.

 

Overview

 

The following discussion reviews the Company's financial condition at September 30, 2016 and the results of operations for the three and nine month periods ended September 30, 2016 and 2015. Operating results for the three and nine months ended September 30, 2016 are not necessarily indicative of the results that may be expected for the year ending December 31, 2016.

 

Our business has traditionally focused on originating one- to four-family residential real estate mortgage loans and home equity lines of credit, and offering retail deposit accounts. Our primary market area consists of Monroe County and the surrounding western New York counties of Erie, Livingston, Ontario, Orleans, Jefferson and Wayne. In 2015, we began to expand our commercial lending activities in an effort to improve our interest rate risk exposure through the origination of shorter duration commercial loan products. Also in March 2015, we expanded our mortgage origination footprint, and opened a new mortgage loan origination office in Buffalo, New York. In the low interest rate environment which continued to be experienced throughout 2015 and 2016, management continued to generally sell all of the fixed-rate residential real estate loans with terms of 15 years or greater that we originated in order to manage interest rate risk. The current low interest rate environment also resulted in management’s decision to decrease the amount of investment securities and to redeploy the funds available from the decrease in the investment portfolio into higher yielding assets, primarily shorter duration or adjustable rate one- to four-family mortgage loans, commercial real estate loans, and commercial and industrial loans in 2016.

 

Our results of operations depend primarily on our net interest income and, to a lesser extent, other income. Net interest income is the difference between the interest income we earn on our interest-earning assets, consisting primarily of loans, investment securities and other interest-earning assets (primarily cash and cash equivalents), and the interest we pay on our interest-bearing liabilities, consisting primarily of savings accounts, NOW accounts, money market accounts, time deposits and borrowings. Other income consists primarily of realized gain on sale of loans, mortgage fee income, fees and service charges from deposit products, fee income from our financial services subsidiary, earnings on bank owned life insurance and miscellaneous other income. Our results of operations also are affected by our provision for loan losses and other expenses. Other expenses consist primarily of salaries and employee benefits, occupancy, equipment, electronic

 

 

banking, data processing costs, mortgage fees and taxes, advertising, directors’ fees, FDIC deposit insurance premium expense, audit and tax services, and other miscellaneous expenses. Our results of operations also may be affected significantly by general and local economic and competitive conditions, changes in market interest rates, government policies and actions of regulatory authorities.

 

Critical Accounting Policies

 

Critical accounting policies are defined as those that involve significant judgments and uncertainties, and could potentially result in materially different results under different assumptions and conditions. The most significant accounting policies followed by the Company are presented in FSB Bancorp's Registration Statement on Form S-1 declared effective by the Securities and Exchange Commission on May 13, 2016. These policies, along with the disclosures presented in the other financial statement notes filed with the SEC and in this discussion, provide information on how significant assets and liabilities are valued in the consolidated financial statements and how those values are determined. We believe that the most critical accounting policies upon which our financial condition and results of operations depend, involve the most complex subjective decisions or assessments including our policies with respect to our allowance for loan losses, deferred tax assets and the estimation of fair values for accounting and disclosure purposes. These areas could be the most subject to revision as new information becomes available.

 

Allowance for Loan Losses. The allowance for loan losses is the amount estimated by management as necessary to absorb credit losses incurred in the loan portfolio that are both probable and reasonably estimable at the balance sheet date. The amount of the allowance is based on significant estimates, and the ultimate losses may vary from such estimates as more information becomes available or conditions change. The methodology for determining the allowance for loan losses is considered a critical accounting policy by management due to the high degree of judgment involved, the subjectivity of the assumptions used and the potential for changes in the economic environment that could result in changes to the amount of the recorded allowance for loan losses.

 

As a substantial percentage of our loan portfolio is collateralized by real estate, appraisals of the underlying value of property securing loans are critical in determining the amount of the allowance required for specific loans. Assumptions are instrumental in determining the value of properties. Overly optimistic assumptions or negative changes to assumptions could significantly affect the valuation of a property securing a loan and the related allowance determined. Management carefully reviews the assumptions supporting such appraisals to determine that the resulting values reasonably reflect amounts realizable on the related loans.

 

Management performs an evaluation of the adequacy of the allowance for loan losses at least quarterly. We consider a variety of factors in establishing this estimate including, but not limited to, current economic conditions, delinquency statistics, geographic concentrations, the adequacy of the underlying collateral, the financial strength of the borrower, results of internal loan reviews and other relevant factors. This evaluation is inherently subjective as it requires material estimates by management that may be susceptible to significant change based on changes in economic and real estate market conditions.

 

The evaluation has specific, general, and unallocated components. The specific component relates to loans that are deemed to be impaired and classified as special mention, substandard, doubtful, or loss. For such loans that are also classified as impaired, an allowance is generally established when the collateral value of the impaired loan is lower than the carrying value of that loan. The general component covers non-classified loans and is based on historical loss experience adjusted for qualitative factors. An unallocated component is maintained to cover uncertainties that could affect management’s estimate of probable losses. The unallocated component of the allowance reflects the margin of imprecision inherent in the underlying assumptions used in the methodologies for estimating known and inherent losses in the portfolio.

 

Actual loan losses may be significantly more than the allowance we have established which could have a material negative effect on our financial results.

 

Deferred Tax Assets. The deferred tax assets and liabilities represent the future tax return consequences of the temporary differences, which will either be taxable or deductible when the assets and liabilities are recovered or settled. Deferred tax assets are reduced by a valuation allowance when, in the opinion of management, it is more likely than not that some portion of the deferred tax assets will not be realized. Deferred tax assets and liabilities are reflected at income tax rates

 

 

applicable to the period in which the deferred tax assets and liabilities are expected to be realized or settled. As changes in tax laws or rates are enacted, deferred tax assets and liabilities are adjusted through the provision for income taxes.

 

Estimation of Fair Values. Fair values for securities available-for-sale are obtained from an independent third party pricing service. Where available, fair values are based on quoted prices on a nationally recognized securities exchange. If quoted prices are not available, fair values are measured using quoted market prices for similar benchmark securities. Management generally makes no adjustments to the fair value quotes provided by the pricing source. The fair values of foreclosed real estate and the underlying collateral value of impaired loans are typically determined based on evaluations by third parties, less estimated costs to sell. When necessary, appraisals are updated to reflect changes in market conditions.

 

Recent Events

 

On July 13, 2016, FSB Bancorp completed the conversion and reorganization pursuant to which FSB Community Bankshares, MHC converted to the stock holding company form of organization. FSB Bancorp, the new stock holding company for Fairport Savings Bank, sold 1,034,649 shares of common stock, par value $0.01 per share, at $10.00 per share, for gross offering proceeds of $10.3 million in its stock offering. Additionally, after accounting for conversion related expenses of $1.4 million, which offset gross proceeds, the Company received $8.9 million in net proceeds.

 

Concurrent with the completion of the conversion and reorganization, shares of common stock of FSB Community owned by public stockholders were exchanged for shares of FSB Bancorp’s common stock so that the former public stockholders of FSB Community owned approximately the same percentage of FSB Bancorp’s common stock as they owned of FSB Community’s common stock immediately prior to the conversion, subject to adjustment as disclosed in the prospectus. Stockholders of FSB Community received 1.0884 shares of FSB Bancorp’s common stock for each share of FSB Community’s stock they owned immediately prior to completion of the transaction. Cash in lieu of fractional shares was paid based on the offering price of $10.00 per share.

 

Comparison of Financial Condition at September 30, 2016 and at December 31, 2015

 

Total Assets. Total assets increased $3.9 million, or 1.5%, to $259.7 million at September 30, 2016 from $255.8 million at December 31, 2015, reflecting an increase in net loans receivable, partially offset by decreases in securities held-to-maturity, securities available-for-sale, and cash and cash equivalents.

 

Cash and cash equivalents, primarily interest-earning deposits at the Federal Reserve Bank and the Federal Home Loan Bank, decreased by $1.3 million, or 21.4%, to $4.8 million at September 30, 2016 from $6.1 million at December 31, 2015, as a result of funding loan growth which reduced cash and cash equivalents during the nine months ended September 30, 2016.

 

Net loans receivable increased $11.7 million, or 5.8%, to $213.5 million at September 30, 2016 from $201.8 million at December 31, 2015. The Bank continues to focus on loan production as we continue to grow our one-to four-family residential mortgage, construction, commercial real estate, commercial and industrial loan, and home equity lines of credit portfolios at a measured pace while still maintaining our exceptional credit quality and strict underwriting standards. One-to four-family residential mortgage loans increased $2.3 million, or 1.3%, to $179.3 million at September 30, 2016 from $177.0 million at December 31, 2015. The Bank originated $77.4 million of residential mortgage loans and sold $50.7 million of such loans in the secondary market as a balance sheet management strategy during the first nine months of 2016 to reduce interest rate risk. The Bank sold these loans at a gain of $1.6 million which was recorded in other income. At September 30, 2016, the Bank was servicing $108.4 million in residential mortgage loans sold to third parties and will realize servicing income on these loans as long as they remain outstanding. At September 30, 2016, the Bank had $5.6 million in loans held for sale, comprised of one- to four-family residential fixed rate conventional, FHA, and VA mortgage loans originated and closed by the Bank in the third quarter of 2016 that have been committed for sale in the secondary market, and will be delivered and sold in the fourth quarter of 2016. Mortgage servicing rights increased $170,000, or 30.3%, to $731,000 at September 30, 2016 compared to $561,000 at December 31, 2015, and are included in other assets on the consolidated balance sheets. Construction loans increased $4.2 million, or 336.0%, to $5.5 million at September 30, 2016 from $1.3 million at December 31, 2015 primarily due to construction loan volume generated from our mortgage origination office in Buffalo. Commercial real estate loans increased $3.0 million, or 84.3%, to $6.5 million at September 30, 2016 from $3.5 million at December 31, 2015. Commercial and industrial loans increased $1.1 million, or 126.4%, to $1.9 million at September 30,

 

 

2016 from $853,000 at December 31, 2015. Our seasoned commercial lending team is successfully executing our commercial loan growth strategy with positive results in both commercial real estate and commercial and industrial loan production in 2016. Home equity lines of credit increased $1.3 million, or 9.2%, to $15.9 million at September 30, 2016 from $14.5 million at December 31, 2015.

 

Securities available-for-sale decreased by $2.3 million, or 11.6%, to $17.7 million at September 30, 2016 from $20.0 million at December 31, 2015. The decrease was primarily due to calls and principal repayments of $11.7 million, sales of mortgage-backed securities of $2.2 million, and amortization of $77,000, partially offset by purchases of $11.6 million in new securities, primarily U.S. Government and agency obligations and mortgage backed securities, and an increase in the fair market value of available-for-sale securities of $33,000 during the first nine months of 2016.

 

Securities held-to-maturity decreased $6.6 million, or 50.9%, to $6.4 million at September 30, 2016 from $13.0 million at December 31, 2015 due to calls and principal repayments of $7.1 million, sales of mortgage-backed securities of $393,000, and amortization of $12,000, partially offset by purchases of $932,000 in municipal bonds during the first nine months of 2016.

 

Deposits and Borrowings. Total deposits decreased $7.0 million, or 3.8%, to $178.5 million at September 30, 2016 from $185.6 million at December 31, 2015, primarily single service time deposits, as a result of management’s prudent pricing of lower rates for non-relationship customers in the continued low interest rate environment. Total borrowings from the Federal Home Loan Bank of New York increased $1.7 million, or 3.7%, to $47.8 million at September 30, 2016 from $46.1 million at December 31, 2015 due to $13.5 million in new advances partially offset by principal repayments on our amortizing advances and maturities of $11.8 million. The Company increased its short-term borrowings to $4.0 million at September 30, 2016 compared to no short-term borrowings at December 31, 2015. Long-term borrowings decreased $2.3 million, or 5.0% to $43.8 million at September 30, 2016 from $46.1 million at December 31, 2015.

 

Stockholders’ Equity. Stockholders’ equity increased $9.7 million, or 44.6%, to $31.5 million at September 30, 2016 from $21.8 million at December 31, 2015. The increase resulted from an increase in additional paid in capital of $9.1 million from net proceeds from our common stock offering, $439,000 in net income, an increase of $234,000 in accumulated other comprehensive income, an increase in $46,000 from canceling of treasury stock shares associated with our common stock offering, and an increase of $26,000 resulting from the release of ESOP shares from the suspense account, partially offset by a decrease of $160,000 in common stock to adjust to the par value of the newly formed FSB Bancorp Inc. stock to $0.01 per share from the original $0.10 per share par value of FSB Community Bankshares, Inc. stock as required by Maryland State law.

 

Comparison of Operating Results for the Three Months Ended September 30, 2016 and 2015

 

General. Net income decreased $9,000, or 3.5%, to $252,000 for the quarter ended September 30, 2016 from $261,000 for the quarter ended September 30, 2015. The quarter over quarter decrease was attributable to an increase in other expense of $357,000, and an increase in the provision for loan losses of $8,000, partially offset by an increase in other income of $245,000, and an increase in net interest income of $92,000, and a decrease in income taxes of $19,000.

 

Interest and Dividend Income. Total interest and dividend income increased $92,000, or 4.1%, to $2.4 million for the quarter ended September 30, 2016 from $2.3 million for the quarter ended September 30, 2015. The increase resulted from a $8.4 million increase quarter over quarter in average interest-earning assets, primarily higher yielding loans, resulting in a two basis point increase in the average yield earned on interest-earning assets from 3.74% for the three months ended September 30, 2015 to 3.76% for the three months ended September 30, 2016.

 

Interest income on loans increased $137,000, or 6.6%, to $2.2 million for the quarter ended September 30, 2016 from $2.1 million for the quarter ended September 30, 2015, reflecting a $14.8 million increase in the average balance of loans to $217.3 million for the three months ended September 30, 2016 from $202.5 million for the three months ended September 30, 2015, partially offset by a three basis point decrease in the average yield earned on loans for the three months ended September 30, 2016 as compared to the same period in 2015. The increase in the average balance of loans was due to our focus on increasing our portfolios of one- to four-family adjustable-rate residential mortgages, construction, commercial real estate and commercial and industrial loans, home equity lines of credit, and to a lesser extent, one- to four-family fixed-rate mortgages during the three months ended September 30, 2016 as compared to the same period in 2015. The average yield on loans decreased to 4.09% for the three months ended September 30, 2016 from 4.12% for the three months ended September 30, 2015, reflecting decreases in market interest rates on loan products, primarily residential mortgages.

 

 

Interest income on taxable investment securities decreased $59,000 to $52,000 for the three months ended September 30, 2016, from $111,000 for the three months ended September 30, 2015. The average balance of taxable investment securities decreased $8.4 million, or 49.9%, to $8.4 million for the three months ended September 30, 2016 from $16.8 million for the three months ended September 30, 2015 as a portion of the cash flow from this portfolio was redeployed to fund loan growth. The average yield on taxable investment securities decreased 18 basis points to 2.47% during the quarter ended September 30, 2016 as compared to 2.65% for the quarter ended September 30, 2015. Interest income on mortgage-backed securities increased $5,000 to $50,000 for the three months ended September 30, 2016, from $45,000 for the three months ended September 30, 2015, reflecting an increase in the average yield on mortgage-backed securities of 33 basis points to 1.50% for the three months ended September 30, 2016 from 1.17% for the three months ended September 30, 2015 despite a decrease in the average balance of mortgage-backed securities of $2.0 million, or 12.7%, to $13.4 million for the three months ended September 30, 2016 from $15.4 million for the three months ended September 30, 2015. The increase in yield on mortgage-backed securities was primarily attributable to shorter prepayment speeds on the pools of mortgage-backed securities held in the three months ended September 30, 2016 compared to the three months ended September 30, 2015. Mortgage-backed securities average balances decreased primarily due to sales of this type of investment during the three months ended September 30, 2016 as compared to the same period in 2015. Interest income on tax-exempt state and municipal securities was $25,000 for both the quarter ended September 30, 2016 and the quarter ended September 30, 2015. The average balance of state and municipal securities increased by $168,000, or 3.1%, from $5.4 million for the three months ended September 30, 2015 to $5.6 million for the three months ended September, 30, 2016, partially offset as the average tax equivalent yield decreased by seven basis points to 2.73% for the three months ended September 30, 2016 from 2.80% for the three months ended September 30, 2015, as higher yielding state and municipal securities matured and were replaced by modestly lower yielding state and municipal securities.

 

Total Interest Expense. Total interest expense was $514,000 for both quarters ended September 30, 2016 and September 30, 2015. Total interest expense reflected an increase in interest expense on the deposits of $23,000, offset with a decrease in the interest expense on borrowings of $23,000 when comparing the quarters ended September 30, 2016 and September 30, 2015. The total interest expense reflected an increase in the average cost of interest-bearing liabilities of two basis points from 0.93% for the three months ended September 30, 2015 to 0.95% for the three months ended September 30, 2016, partially offset with a decrease of $4.8 million in average interest-bearing liabilities.

 

Interest expense on deposits increased $23,000, or 7.1%, to $348,000 for the three months September 30, 2016 from $325,000 for the three months ended September 30, 2015. The average balance of deposits increased $1.7 million, or 1.0%, from $171.8 million for the three months ended September 30, 2015 to $173.5 million for the three months ended September 30, 2016. The average cost of deposits increased to 0.80% for the three months ended September 30, 2016 from 0.76% for the three months ended September 30, 2015, primarily reflecting higher average balances on promotional higher rate certificates of deposit and a promotional NOW account offering during the third quarter of 2016. The average cost of certificates of deposit (including individual retirement accounts) increased by eight basis points to 1.21% during the three months ended September 30, 2016 from 1.13% during the three months ended September 30, 2015. The average balance of certificates of deposit (including individual retirement accounts) decreased by $860,000 to $91.7 million for the three months ended September 30, 2016 from $92.6 million for the three months ended September 30, 2015. The average balance of transaction accounts, traditionally our lower cost non-time deposit accounts, increased by $10.9 million to $97.5 million for the three months ended September 30, 2016 from $86.6 million for the three months ended September 30, 2015, partially offset by a modest decrease in the average cost of transaction accounts of one basis point to 0.29% for the three months ended September 30, 2016 from 0.30% for the three months ended September 30, 2015.

 

At September 30, 2016, we had $15.4 million of certificates of deposit, including individual retirement accounts, scheduled to mature throughout the remainder of 2016. Based on current market interest rates, we expect that the cost of these deposits upon renewal will be at a similar cost to us as their current contractual rates.

 

Interest expense on borrowings decreased $23,000 from $189,000 for the quarter ended September 30, 2015 to $166,000 for the quarter ended September 30, 2016, due to a $6.5 million decrease in our average balance of borrowings with the Federal Home Loan Bank from $50.4 million for the three months ended September 30, 2015 compared to $43.9 million for the three months ended September 30, 2016, partially offset by an increase in the average cost of these funds from 1.50% for the three months ended September 30, 2015 to 1.52% for the three months ended September 30, 2016.

 

Net Interest Income. Net interest income increased $92,000, or 5.3%, to $1.8 million for the quarter ended September 30, 2016 as compared to $1.8 million for the quarter ended September 30, 2015. Net interest income increased primarily due to an

 

 

increase of $13.2 million in net interest-earning assets to $34.5 million for the quarter ended September 30, 2016 from $21.7 million for the same period in 2015. Our net interest rate spread was flat at 2.81% for the both quarters ended September 30, 2016 and September 30, 2015. There was a two basis point increase in the average cost of interest-bearing liabilities to 0.95% for the three months ended September 30, 2016 from 0.93% for the three months ended September 30, 2015, offset by an increase in the average yield on our interest-earning assets of two basis points from 3.74% for the three months ended September 30, 2015 to 3.76% for the three months ended September 30, 2016. Our net interest margin increased four basis points from 2.90% during the three months ended September 30, 2015 to 2.94% during the three months ended September 30, 2016.

 

Provision for Loan Losses. We establish provisions for loan losses which are charged to operations in order to maintain the allowance for loan losses at a level we consider necessary to absorb credit losses inherent in the loan portfolio that are both probable and reasonably estimable at the balance sheet date. In determining the level of the allowance for loan losses, we consider past and current loss experience, evaluations of real estate collateral, current economic conditions, volume and type of lending, adverse situations that may affect a borrower’s ability to repay a loan, and the levels of non-performing and other classified loans. The amount of the allowance is based on estimates and the ultimate losses may vary from such estimates as more information becomes available or conditions change. We assess the allowance for loan losses on at least a quarterly basis and make provisions for loan losses in order to maintain the allowance.

 

Based on our evaluation of the above factors, we recorded a $45,000 provision for loan losses for the quarter ended September 30, 2016, compared to a $37,000 provision for loan losses recorded for the quarter ended September 30, 2015. The increase in the three months ended September 30, 2016 was the result of additional general provisions deemed necessary to support an increased balance of loans receivable, primarily commercial real estate and commercial and industrial loans, and to a lesser extent, one- to four-family residential real estate and construction loans, as well as a potentially weaker economy. The allowance for loan losses was $945,000, or 0.44% of net loans outstanding at September 30, 2016 compared to $766,000, or 0.39% of net loans outstanding, at September 30, 2015.

 

Other Income. Other income increased by $245,000, or 26.7%, to $1.2 million for the three months ended September 30, 2016 compared to $917,000 for the three months ended September 30, 2015. The increase in other income was primarily due to increases in realized gains on sales of loans and mortgage fee income, partially offset by decreases in realized gain on sale of securities and fee income. A substantial portion of the increase in other income was the result of gain on sale of loans which increased $281,000, or 60.0%, to $749,000 for the three months ended September 30, 2016 from $468,000 for the three months ended September 30, 2015. Mortgage fee income increased $39,000, or 19.4%, to $240,000 for the three months ended September 30, 2016 from $201,000 for the three months ended September 30, 2015. Higher mortgage loan origination volume, including loans originated for sale, in the three months ended September 30, 2016 compared to the same period in 2015 produced an increase in both mortgage fee income and realized gain on sales of loans. Realized gain on sale of securities decreased $70,000, or 66.0%, to $36,000 for the three months ended September 30, 2016 compared to $106,000 for the three months ended September 30, 2015 due to a larger gain on sale in the third quarter of 2015. Fee income from Fairport Wealth Management decreased by $9,000, or 20.5%, to $35,000 for the three months ended September 30, 2016 compared to $44,000 for the three months ended September 30, 2015 due to a modest decrease in non-deposit investment product sales.

 

Other Expense. Other expense increased $357,000, or 15.8%, to $2.6 million for the three months ended September 30, 2016 from $2.3 million for the three months ended September 30, 2015. The increase in other expense was primarily attributable to increases in salaries and employee benefits of $277,000, directors’ fees of $25,000, mortgage fees and taxes of $24,000, and audit and tax services of $18,000. Salaries and employee benefits increased $277,000, or 20.5% to $1.6 million for the three months ended September 30, 2016 from $1.3 million for the three months ended September 30, 2015 primarily due to normal annual increases for existing staff, increased salary and commission costs associated with additional processing and mortgage origination staff, and an increase in incentive accruals due to projections to achieve financial targets for 2016 compared to lower incentive accruals that were projected in 2015. Directors’ fees increased $25,000, or 62.5% to $65,000 for the three months ended September 30, 2016 compared to $40,000 for the three months ended September 30, 2015 due to the addition of three new directors at the end of 2015. Mortgage fees and taxes increased $24,000, or 24.2%, to $123,000 for the three months ended September 30, 2016 compared to $99,000 for the three months ended September 30, 2015 due to higher mortgage tax expense associated with higher mortgage volume in the third quarter of 2016. Audit and tax services increased $18,000, or 60.0%, to $48,000 for the three months ended September 30, 2016 from $30,000 for the three months ended

 

 

September 30, 2015 due to outsourcing our internal audit function in 2016, and increased external auditor expense associated with our stock offering and becoming an SEC reporting company in the third quarter of 2016.

 

Income Taxes. Income tax expense decreased $19,000, or 17.4%, to $90,000 for the quarter ended September 30, 2016, from $109,000 for the quarter ended September 30, 2015. The effective tax rate was 26.3% for the three months ended September 30, 2016 compared to 29.5% for the three months ended September 30, 2015. The decrease in income tax expense and effective tax rate for the three months ended September 30, 2016 as compared to the same period in 2015 was due to less income before taxes, and the impact of interest and dividends from tax-exempt securities as well as a partial reversal of a component of the deferred tax asset valuation allowance.

 

Comparison of Operating Results for the Nine Months Ended September 30, 2016 and 2015

 

General. Net income increased $60,000, or 15.8%, to $439,000 for the nine months ended September 30, 2016 from $379,000 for the nine months ended September 30, 2015. The year over year nine month increase was attributable to a $681,000 increase in other income and an increase in net interest income of $128,000, partially offset by an increase in other expense of $701,000, a $23,000 increase in the provision for loan losses, and an increase in income taxes of $25,000.

 

Interest and Dividend Income. Total interest and dividend income increased $274,000, or 4.1%, to $6.9 million for the nine months ended September 30, 2016 from $6.7 million for the nine months ended September 30, 2015. The increase resulted from a $11.2 million increase year over year in average interest-earning assets, primarily loans, partially offset by a two basis point decrease in the average yield earned on interest-earning assets from 3.74% for the nine months ended September 30, 2015 to 3.72% for the nine months ended September 30, 2016.

 

Interest income on loans increased $425,000, or 7.0%, to $6.5 million for the nine months ended September 30, 2016 from $6.0 million for the nine months ended September 30, 2015, reflecting a $16.1 million increase in the average balance of loans to $211.9 million for the nine months ended September 30, 2016 from $195.8 million for the nine months ended September 30, 2015, partially offset by a four basis point decrease in the average yield earned on loans from 4.11% for the nine months ended September 30, 2015 to 4.07% for the nine months ended September 30, 2016 reflecting decreases in market interest rates on loan products, primarily residential mortgages. The increase in the average balance of loans was due to management’s decision to focus on adding higher yielding assets to the balance sheet by increasing our portfolio of one- to four-family adjustable-rate residential mortgages, commercial real estate, commercial and industrial loans, home equity lines of credit, and to a lesser extent, one- to four-family fixed-rate mortgages during the nine months ended September 30, 2016 as compared to the same period in 2015.

 

Interest income on taxable investment securities decreased $151,000, or 40.9% to $218,000 for the nine months ended September 30, 2016, from $369,000 for the nine months ended September 30, 2015. The average balance of taxable investment securities decreased $6.7 million to $11.0 million for the nine months ended September 30, 2016 from $17.7 million for the nine months ended September 30, 2015 as a portion of the cash flow from this portfolio was redeployed to fund higher yielding assets, primarily loan growth. The average yield on taxable securities decreased 13 basis points to 2.65% for the nine months ended September 30, 2016 compared to 2.78% for the nine months ended September 30, 2015 due to reinvestment of called taxable securities into lower yielding taxable securities in this low interest rate environment. Interest income on mortgage-backed securities decreased $18,000, or 10.1%, to $161,000 for the nine months ended September 30, 2016, from $179,000 for the nine months ended September 30, 2015, reflecting a decrease in the average balance of mortgage-backed securities of $2.6 million to $14.3 million for the nine months ended September 30, 2016 from $16.9 million for the nine months ended September 30, 2015, partially offset by an increase in the average yield on mortgage-backed securities of nine basis points to 1.50% for the nine months ended September 30, 2016 from 1.41% for the nine months ended September 30, 2015. Average mortgage-backed securities balances decreased primarily due to sales of these securities in 2016. Interest income on tax-exempt state and municipal securities increased $1,000, or 1.4% to $71,000 for nine months ended September 30, 2016 from $70,000 for the nine months ended September 30, 2015. The average tax equivalent yield increased by four basis points to 2.87% for the nine months ended September 30, 2016 from 2.83% for the nine months ended September 30, 2015. The average balance of state and municipal securities increased by $16,000 to $5.0 million for the nine months ended September 30, 2016.

 

Total Interest Expense. Total interest expense increased $146,000, or 10.0%, to $1.6 million for the nine months ended September 30, 2016 from $1.5 million for the nine months ended September 30, 2015. The increase in total interest expense

 

 

reflected an increase in the average balance of interest-bearing liabilities of $4.5 million, combined with an increase in the average cost of interest-bearing liabilities of seven basis points from 0.89% for the nine months ended September 30, 2015 to 0.96% for the nine months ended September 30, 2016 largely as a result of higher market interest rates paid on deposits, primarily promotional certificates of deposit and a promotional NOW account offered during 2016.

 

Interest expense on deposits increased $182,000, or 20.3%, to $1.1 million for the nine months ended September 30, 2016 from $895,000 for the nine months ended September 30, 2015. The average cost of deposits increased to 0.81% for the nine months ended September 30, 2016 from 0.71% for the nine months ended September 30, 2015, primarily reflecting higher rates paid on promotional certificates of deposit made during 2016. The average cost of certificates of deposit (including individual retirement accounts) increased by 16 basis points to 1.22% during the nine months ended September 30, 2016 from 1.06% during the nine months ended September 30, 2015. The average balance of certificates of deposit (including individual retirement accounts) increased by $6.0 million to $97.5 million for the nine months ended September 30, 2016 from $91.5 million for the nine months ended September 30, 2015. The average balance of transaction accounts, traditionally our lower cost non-time deposit accounts, increased by $7.1 million to $91.1 million for the nine months ended September 30, 2016 from $84.0 million for the nine months ended September 30, 2015, although the average cost of transaction accounts remained at 27 basis points for the nine months ended September 30, 2016 and 2015.

 

Interest expense on borrowings decreased $36,000 from $565,000 for the nine months ended September 30, 2015 to $529,000 for the nine months ended September 30, 2016, due to a $3.9 million decrease in our average balance of borrowings with the Federal Home Loan Bank from $49.2 million for the nine months ended September 30, 2015 compared to $45.3 million for the nine months ended September 30, 2016, despite an increase in the average cost of borrowings of three basis points from 1.53% for the nine months ended September 30, 2015 to 1.56% for the nine months ended September 30, 2016.

 

Net Interest Income. Net interest income increased $128,000, or 2.5%, to $5.3 million for the nine months ended September 30, 2016 compared to $5.2 million for the nine months ended September 30, 2015. Net interest income increased primarily due to an increase of $6.7 million in net interest-earning assets to $27.3 million for the nine months ended September 30, 2016 from $20.6 million for the same period in 2015. Our net interest rate spread decreased nine basis points to 2.76% for the nine months ended September 30, 2016 from 2.85% for the nine months ended September 30, 2015, due to a seven basis point increase in the average cost of interest-bearing liabilities to 0.96% for the nine months ended September 30, 2016 from 0.89% for the nine months ended September 30, 2015, in addition to a decrease in the average yield on our interest-earning assets of two basis points from 3.74% for the nine months ended September 30, 2015 to 3.72% for the nine months ended September 30, 2016. Our net interest margin decreased six basis points from 2.92% during the nine months ended September 30, 2015 to 2.86% during the nine months ended September 30, 2016.

 

Provision for Loan Losses. We establish provisions for loan losses which are charged to operations in order to maintain the allowance for loan losses at a level we consider necessary to absorb credit losses inherent in the loan portfolio that are both probable and reasonably estimable at the balance sheet date. In determining the level of the allowance for loan losses, we consider past and current loss experience, evaluations of real estate collateral, current economic conditions, volume and type of lending, adverse situations that may affect a borrower’s ability to repay a loan, and the levels of non-performing and other classified loans. The amount of the allowance is based on estimates and the ultimate losses may vary from such estimates as more information becomes available or conditions change. We assess the allowance for loan losses on at least a quarterly basis and make provisions for loan losses in order to maintain the allowance.

 

Based on our evaluation of the above factors, we recorded a $135,000 provision for loan losses for the nine months ended September 30, 2016, compared to a $112,000 provision for loan losses recorded for the nine months ended September 30, 2015. The increase in the nine months ended September 30, 2016 was the result of additional general provisions deemed necessary to support an increased balance of loans receivable, primarily commercial real estate, commercial and industrial loans, and to a lesser extent, one- to four-family residential real estate and construction loans, as well as a potentially weaker economy. The allowance for loan losses was $945,000, or 0.44% of net loans outstanding, at September 30, 2016 compared to $766,000, or 0.39% of net loans outstanding at September 30, 2015.

 

Other Income. Other income increased by $681,000, or 34.6%, to $2.7 million for the nine months ended September 30, 2016 compared to $2.0 million for the nine months ended September 30, 2015. The increase in other income resulted primarily from increases in realized gains on sales of loans and mortgage fee income, partially offset by a decrease in realized gain on sale of securities. A substantial portion of the increase in other income was the result of gain on sale of loans which

 

 

increased $624,000, or 63.4%, to $1.6 million for the nine months ended September 30, 2016 from $985,000 for the nine months ended September 30, 2015. Mortgage fee income increased $127,000, or 27.7%, to $586,000 for the nine months ended September 30, 2016 from $459,000 for the nine months ended September 30, 2015. Higher mortgage loan origination volume, including loans originated for sale, in the nine months ended September 30, 2016 compared to the same period in 2015 produced an increase in both mortgage fee income and realized gain on sale of loans. Realized gain on sale of securities decreased $70,000, or 66.0%, during the nine months ended September 30, 2016 as compared to the nine months ended September 30, 2015 due to a larger gain on sale in 2015.

 

Other Expense. Other expense increased $701,000, or 10.6%, to $7.3 million for the nine months ended September 30, 2016 from $6.6 million for the nine months ended September 30, 2015. The increase was primarily the result of increases in salaries and employee benefits expense of $518,000, audit and tax services of $61,000, directors’ fees of $53,000, mortgage fees and taxes of $45,000, and data processing costs of $36,000. The $518,000, or 13.2%, increase in salaries and employee benefits expense from $3.9 million for the nine months ended September 30, 2015 compared to $4.5 million for the nine months ended September 30, 2016 was primarily due to normal annual increases for existing staff, the increased salary and commission costs associated with additional processing and mortgage origination staff, and an increase in incentive accruals due to projections to achieve financial targets for 2016 compared to lower incentive accruals that were projected in 2015. Audit and tax services increased $61,000, or 119.6%, from $51,000 for the nine months ended September 30, 2015 compared to $112,000 for the nine months ended September 30, 2016 due to outsourcing internal audit in the first nine months of 2016, and increased external auditor expense associated with our stock offering and becoming an SEC reporting company in the third quarter of 2016. Directors’ fees increased $53,000, or 39.3%, from $135,000 for the nine months ended September 30, 2015 to $188,000 for the nine months ended September 30, 2016 due to the addition of three new directors at the end of 2015. Mortgage fees and taxes increased $45,000, or 15.5%, from $291,000 for the nine months ended September 30, 2015 to $336,000 for the nine months ended September 30, 2016 due to the additional volume of mortgage originations for the nine months ended September 30, 2016 as compared to the nine months ended September 30, 2015. Data processing increased $36,000, or 31.9%, from $113,000 for the nine months ended September 30, 2015 to $149,000 for the nine months ended September 30, 2016 due to the increased costs related to mobile banking and online account opening capabilities period over period.

 

Income Taxes. Income taxes increased $25,000 for the nine months ended September 30, 2016, from $99,000 for the nine months ended September 30, 2015 to $124,000 for the nine months ended September 30, 2016. The effective tax rate was 22.0% for the nine months ended September 30, 2016 compared to 20.7% for the nine months ended September 30, 2015. The increase in income tax expense and effective tax rate in the nine months ended September 30, 2016 as compared to the same period in 2015 was due to higher income before income taxes, and the impact of interest and dividends from tax-exempt securities as well as a partial reversal of a component of the deferred tax asset valuation allowance.

 

 

Average balances and yields. The following tables set forth average balance sheets, average yields and costs and certain other information for the periods indicated. All average balances are daily average balances. Non-accrual loans were included in the computation of average balances, but have been reflected in the table as loans carrying a zero yield. The yields set forth below include the effect of deferred fees, discounts and premiums that are accreted or amortized to interest income or interest expense. 

 

		For the three months ended September 30,
		2016												2015
										Average												Average
		Average								Yield /				Average								Yield /
(Dollars in thousands)		Balance				Interest				Cost(5)				Balance				Interest				Cost(5)
Interest-earning assets:
Loans		$	217,293			$	2,221				4.09	%		$	202,511			$	2,084				4.12	%
Federal funds sold			7,523				10				0.53				3,741				1				0.14
Taxable investment securities			8,414				52				2.47				16,795				111				2.65
Mortgage-backed securities			13,448				50				1.50				15,405				45				1.17
State and municipal securities(1)			5,571				38				2.73				5,403				38				2.80
Total interest-earning assets		$	252,249			$	2,371				3.76	%		$	243,855			$	2,279				3.74	%
Noninterest-earning assets:
Other assets		$	10,409											$	9,448
Total assets		$	262,658											$	253,303
Interest-bearing liabilities:
NOW accounts		$	29,028			$	21				0.29	%		$	27,510			$	9				0.14	%
Passbook savings			28,720				32				0.44				30,082				39				0.52
Money market savings			24,050				18				0.30				21,643				16				0.30
Individual retirement accounts			7,338				15				0.83				9,541				25				1.03
Certificates of deposit			84,360				262				1.24				83,017				236				1.14
Federal Home Loan Bank advances			43,859				166				1.52				50,388				189				1.50
Total interest-bearing liabilities		$	217,355			$	514				0.95	%		$	222,181			$	514				0.93	%
Noninterest-bearing liabilities:
Demand deposits		$	15,658											$	7,339
Other liabilities			4,335												2,290
Total liabilities		$	237,348											$	231,810
Stockholders' equity		$	25,310											$	21,493
Total liabilities & stockholders' equity		$	262,658											$	253,303
Net interest income						$	1,857											$	1,765
Interest rate spread(2)											2.81	%											2.81	%
Net interest-earning assets(3)		$	34,894											$	21,674
Net interest margin(4)							2.94	%											2.90	%
Ratio of average interest-earning assets to average interest-bearing liabilities			116.05	%											109.76	%

 

(1)

Tax-exempt interest income is presented on a tax equivalent basis using a 34% federal tax rate. The unadjusted average yield on tax-exempt securities was 1.80% and 1.85% for the quarters ended September 30, 2016, and 2015, respectively. The unadjusted interest income on tax-exempt securities was $25,000 for both quarters ended September 30, 2016 and 2015.

(2)

Interest rate spread represents the difference between the yield on average interest-earning assets and the cost of average interest-bearing liabilities.

(3)

Net interest-earning assets represent total interest-earning assets less total interest-bearing liabilities.

(4)

Net interest margin represents net interest income divided by total interest-earning assets.

(5)

Annualized.

 

 

		For the nine months ended September 30,
		2016												2015
										Average												Average
		Average								Yield /				Average								Yield /
(Dollars in thousands)		Balance				Interest				Cost(5)				Balance				Interest				Cost(5)
Interest-earning assets:
Loans		$	211,853			$	6,466				4.07	%		$	195,762			$	6,041				4.11	%
Federal funds sold			7,671				21				0.36				3,315				4				0.16
Taxable investment securities			10,967				218				2.65				17,683				369				2.78
Mortgage-backed securities			14,300				161				1.50				16,883				179				1.41
State and municipal securities(1)			5,028				108				2.87				5,012				106				2.83
Total interest-earning assets		$	249,819			$	6,974				3.72	%		$	238,655			$	6,700				3.74	%
Noninterest-earning assets:
Other assets		$	9,974											$	9,385
Total assets		$	259,792											$	248,040
Interest-bearing liabilities:
NOW accounts		$	28,133			$	54				0.25	%		$	26,567			$	27				0.14	%
Passbook savings			27,822				80				0.39				29,193				97				0.44
Money market savings			23,736				51				0.29				21,563				47				0.29
Individual retirement accounts			7,583				50				0.88				10,424				85				1.09
Certificates of deposit			89,902				842				1.25				81,038				639				1.05
Federal Home Loan Bank advances			45,303				529				1.56				49,238				565				1.53
Total interest-bearing liabilities		$	222,479			$	1,606				0.96	%		$	218,023			$	1,460				0.89	%
Noninterest-bearing liabilities:
Demand deposits		$	11,457											$	6,676
Other liabilities			2,462												1,737
Total liabilities		$	236,398											$	226,436
Stockholders' equity		$	23,395											$	21,604
Total liabilities & stockholders' equity		$	259,793											$	248,040
Net interest income						$	5,368											$	5,240
Interest rate spread(2)											2.76	%											2.85	%
Net interest-earning assets(3)		$	27,340											$	20,632
Net interest margin(4)							2.86	%											2.92	%
Ratio of average interest-earning assets to average interest-bearing liabilities			112.29	%											109.46	%

 

(1)

Tax-exempt interest income is presented on a tax equivalent basis using a 34% federal tax rate. The unadjusted average yield on tax-exempt securities was 1.90% and 1.87% for the nine months ended September 30, 2016, and 2015, respectively. The unadjusted interest income on tax-exempt securities was $71,000 and $70,000 for the nine months ended September 30, 2016, and 2015, respectively.

(2)

Interest rate spread represents the difference between the yield on average interest-earning assets and the cost of average interest-bearing liabilities.

(3)

Net interest-earning assets represent total interest-earning assets less total interest-bearing liabilities.

(4)

Net interest margin represents net interest income divided by total interest-earning assets.

(5)

Annualized.

 

 

Rate/Volume Analysis

 

The following tables present the effects of changing rates and volumes on our net interest income for the periods indicated. The rate column shows the effects attributable to changes in rate (changes in rate multiplied by prior volume). The volume column shows the effects attributable to changes in volume (changes in volume multiplied by prior rate). The net column represents the sum of the prior columns. For purposes of these tables, changes attributable to both rate and volume, which cannot be segregated, have been allocated proportionately, based on the changes due to rate and the changes due to volume.

 

		Three months ended September 30,
		2016 vs. 2015
		Increase/(Decrease) Due to
										Total
										Increase
(In thousands)		Volume				Rate				(Decrease)
Interest and dividend income:
Loans		$	147			$	(10	)		$	137
Federal funds sold			1				8				9
Taxable investment securities			(52	)			(7	)			(59	)
Mortgage-backed securities			(10	)			15				5
State and municipal securities			1				(1	)			-
Total interest and dividend income			87				5				92
Interest expense:
NOW accounts			1				11				12
Passbook savings			(11	)			3				(8	)
Money market savings			1				2				3
Individual retirement accounts			(6	)			(4	)			(10	)
Certificates of deposit			3				23				26
Federal home loan bank advances			(38	)			15				(23	)
Total interest expense			(50	)			50				-
Net change in net interest income		$	137			$	(45	)		$	92

  

 

		Nine months ended September 30,
		2016 vs. 2015
		Increase/(Decrease) Due to
										Total
										Increase
(In thousands)		Volume				Rate				(Decrease)
Interest and dividend income:
Loans		$	482			$	(57	)		$	425
Federal funds sold			9				8				17
Taxable investment securities			(133	)			(18	)			(151	)
Mortgage-backed securities			(31	)			13				(18	)
State and municipal securities			-				1				1
Total interest and dividend income			327				(53	)			274
Interest expense:
NOW accounts			2				25				27
Passbook savings			(5	)			(12	)			(17	)
Money market savings			4				-				4
Individual retirement accounts			(21	)			(14	)			(35	)
Certificates of deposit			74				129				203
Federal home loan bank advances			(48	)			12				(36	)
Total interest expense			6				140				146
Net change in net interest income		$	321			$	(193	)		$	128

  

Loan and Asset Quality and Allowance for Loan Losses

 

The following table represents information concerning the aggregate amount of nonperforming assets at the indicated dates:

 

		September 30,				December 31,				September 30,
(Dollars In thousands)		2016				2015				2015
Nonaccrual loans:
Residential mortgage loans		$	-			$	63			$	-
Home equity lines of credit			18				18				-
Other loans			-				1				-
Total nonaccrual loans			18				82				-
Total nonperforming loans			18				82				-
Total nonperforming assets		$	18			$	82			$	-
Nonperforming loans to total loans			0.01	%			0.04	%			0.00	%
Nonperforming assets to total assets			0.01	%			0.03	%			0.00	%

 

Nonperforming assets include nonaccrual loans and foreclosed real estate. The Company generally places a loan on nonaccrual status and ceases accruing interest when loan payment performance is deemed unsatisfactory and the loan is past due 90 days or more. There are no loans that are past due 90 days or more and still accruing interest. Loans are considered modified in a TDR when, due to a borrower’s financial difficulties, the Company makes a concession(s) to the borrower that it would not otherwise consider. These modifications may include, among others, an extension of the term of the loan, and granting a period when interest-only payments can be made, with the principal payments made over the remaining term of the loan or at maturity. At the dates indicated above, the Company had no TDRs outstanding.

 

As indicated in the table above, nonperforming assets at September 30, 2016 were $18,000, a decrease of $64,000 from the $82,000 balance reported at December 31, 2015. At September 30, 2016, the Company had one non-performing

 

 

home equity line of credit for $18,000 and at December 31, 2015, the Company had one non-performing residential mortgage loan for $63,000, one non-performing home equity line of credit for $18,000, and one non-performing checking line of credit for $1,000. At the date indicated above, the Company had no foreclosed real estate.

 

The allowance for loan losses represents management’s estimate of the probable losses inherent in the loan portfolio as of the date of the balance sheet. The allowance for loan losses was $945,000 and $811,000 at September 30, 2016 and December 31, 2015, respectively. The Company reported an increase in the ratio of the allowance for loan losses to gross loans to 0.44% at September 30, 2016 as compared to 0.40% at December 31, 2015. Management performs a quarterly evaluation of the allowance for loan losses based on quantitative and qualitative factors and has determined that the current level of the allowance for loan losses is adequate to absorb the losses in the loan portfolio as of September 30, 2016.

 

A loan is considered impaired when, based on current information and events, it is probable that the Bank will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value, and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record, and the amount of the shortfall in relation to the principal and interest owed. Impairment is measured on a loan by loan basis by either the present value of expected future cash flows discounted at the loan’s effective interest rate or the fair value of the collateral if the loan is collateral dependent.

 

Large groups of smaller balance homogeneous loans are collectively evaluated for impairment. Accordingly, the Company does not separately identify individual consumer and residential loans for impairment disclosures unless subject to a troubled debt restructuring.

 

At September 30, 2016 and December 31, 2015, the Company did not have loans which were deemed to be impaired.

 

Management has identified potential credit problems which may result in the borrowers not being able to comply with the current loan repayment terms and which may result in it being included in future impaired loan reporting. Management has identified potential problem loans totaling $1.7 million as of September 30, 2016 as compared to $1.5 million at December 31, 2015. These loans have been internally classified as special mention, substandard, or doubtful, yet are not currently considered impaired. Total potential problem loans increased between these two dates, as the Company reported an increase of $253,000 in loans rated substandard. The increase in loans classified as substandard was due to three residential mortgage loans and one home equity line of credit which were newly categorized as such during the nine months ended September 30, 2016. These loans were not criticized as of December 31, 2015. Based on current information available at September 30, 2016, these loans were re-evaluated for their range of potential losses and reclassified accordingly.

 

Liquidity and Capital Resources

 

Liquidity is the ability to meet current and future financial obligations of a short-term nature. Our cash flows are derived from operating activities, investing activities and financing activities as reported in our consolidated statements of cash flows included in our consolidated financial statements.

 

Our primary sources of funds consist of deposit inflows, loan repayments, borrowings from the Federal Home Loan Bank of New York, maturities and principal repayments of securities, and loan and securities sales. While maturities and scheduled amortization of loans and securities are predictable sources of funds, deposit flows and mortgage prepayments are greatly influenced by general interest rates, economic conditions and competition. Our asset/liability management committee is responsible for establishing and monitoring our liquidity targets and strategies in order to ensure that sufficient liquidity exists for meeting the borrowing needs and deposit withdrawals of our customers as well as unanticipated contingencies. We seek to maintain a liquidity ratio of 20.0% or greater. For the quarter ended September 30, 2016, our liquidity ratio averaged

 

 

31.7%. We believe that we have enough sources of liquidity to satisfy our short and long-term liquidity needs as of September 30, 2016.

 

We regularly adjust our investments in liquid assets based upon our assessment of:

 

(i)

expected loan demand;

 

(ii)

expected deposit flows;

 

(iii)

yields available on interest-earning deposits and securities; and

 

(iv)

the objectives of our asset/liability management program.

 

Excess liquid assets are invested generally in interest-earning deposits, short and intermediate-term securities and federal funds sold. Our most liquid assets are cash and cash equivalents. The levels of these assets are dependent on our operating, financing, lending and investing activities during any given period. At September 30, 2016, cash and cash equivalents totaled $4.8 million.

 

At September 30, 2016, we had $21.1 million in loan commitments outstanding. In addition to commitments to originate loans, we had $17.5 million in unused lines of credit outstanding to borrowers. Certificates of deposit (including individual retirement accounts comprised solely of certificates of deposit), due within one year of September 30, 2016 totaled $68.4 million, or 75.4% of our certificates of deposit (including individual retirement accounts) and 38.3% of total deposits. If these deposits do not remain with us, we will be required to seek other sources of funds, including loan sales, other deposit products, and Federal Home Loan Bank borrowings. Depending on market conditions, we may be required to pay higher rates on such deposits or other borrowings than we currently pay on the existing certificates of deposit due on or before September 30, 2017. We believe, however, based on past experience that a significant portion of such deposits will remain with us. We have the ability to attract and retain deposits by adjusting the interest rates offered.

 

Liquidity management is both a daily and long-term function of business management. If we require funds beyond our ability to generate them internally, borrowing agreements exist with the Federal Home Loan Bank of New York, which provides an additional source of funds. Federal Home Loan Bank borrowings increased by $1.7 million, to $47.8 million at September 30, 2016, from $46.1 million at December 31, 2015. At September 30, 2016, we had the ability to borrow approximately $144.4 million from the Federal Home Loan Bank of New York, of which $47.8 million had been advanced.

 

We also have a repurchase agreement with Raymond James Financial providing an additional $10.0 million in liquidity.  Funds obtained under the repurchase agreement are secured by our U.S Government and agency obligations.  There were no advances outstanding under the repurchase agreement at September 30, 2016 or December 31, 2015.

 

 

Capital

 

Fairport Savings Bank is subject to various regulatory capital requirements, including a risk-based capital measure. The risk-based capital guidelines include both a definition of capital and a framework for calculating risk-weighted assets by assigning balance sheet assets and off-balance sheet items to broad risk categories. At September 30, 2016, Fairport Savings Bank exceeded all regulatory capital requirements and was considered “well capitalized” under regulatory guidelines.

 

In addition to establishing the minimum regulatory capital requirements, the regulations limit capital distributions and certain discretionary bonus payments to management if the institution does not hold a "capital conservation buffer" consisting of 2.5% of common equity Tier 1 capital to risk-weighted assets above the amount necessary to meet its minimum risk-based capital requirements.  The capital conservation buffer requirement is being phased in beginning January 1, 2016 at 0.625% of risk-weighted assets and increasing each year until fully implemented at 2.5% on January 1, 2019. 

 

Fairport Savings Bank’s capital amounts and ratios as of the indicated dates are presented in the following table.

 

Minimum

To Be "Well-

Minimum

Capitalized"

Well-Capitalized

For Capital

Under Prompt

With Buffer, Fully

Actual

Adequacy Purposes

Corrective Provisions

Phased in for 2019

(Dollars in thousands)

Amount

Ratio

Amount

Ratio

Amount

Ratio

Amount

Ratio

As of September 30, 2016

Total Core Capital (to Risk-Weighted Assets)

$

28,671

18.90

%

$

³12,136

³8.0

%

$

³15,171

³10.0

%

$

³15,929

³10.5

%

Tier 1 Capital (to Risk-Weighted Assets)

27,726

18.28

³9,102

³6.0

³12,136

³8.0

³12,895

³8.5

Tier 1 Common Equity (to Risk-Weighted Assets)

27,726

18.28

³6,827

³4.5

³9,861

³6.5

³10,619

³7.0

Tier 1 Capital (to Assets)

27,726

10.65

³10,418

³4.0

³13,023

³5.0

³13,023

³5.0

As of December 31, 2015:

Total Core Capital (to Risk-Weighted Assets)

$

20,757

15.12

%

$

³10,980

³8.0

%

$

³13,725

³10.0

%

Tier 1 Capital (to Risk-Weighted Assets)

19,946

14.53

³8,235

³6.0

³10,980

³8.0

Tier 1 Common Equity (to Risk-Weighted Assets)

19,946

14.53

³6,176

³4.5

³8,921

³6.5

Tier 1 Capital (to Assets)

19,946

7.85

³10,167

³4.0

³12,709

³5.0

 

Off-Balance Sheet Arrangements

 

In the ordinary course of business, Fairport Savings Bank is a party to credit-related financial instruments with off-balance sheet risk to meet the financing needs of our customers. These financial instruments include commitments to extend credit. We follow the same credit policies in making commitments as we do for on-balance sheet instruments.

 

Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. The commitments for equity lines of credit may expire without being drawn upon. Therefore, the total commitment amounts do not necessarily represent future cash requirements. The amount of collateral obtained, if it is deemed necessary by us, is based on our credit evaluation of the customer.

 

At September 30, 2016 and December 31, 2015, we had $21.1 million and $11.8 million, respectively, of commitments to grant loans, and $17.5 million and $15.8 million, respectively, of unfunded commitments under lines of

 

 

credit. We had two commercial letters of credit for $417,000 at September 30, 2016 and one commercial letter of credit for $299,000 at December 31, 2015.

 

Impact of Inflation and Changing Prices

 

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

 

 

Item 3 – Quantitative and Qualitative Disclosures About Market Risk

 

A smaller reporting company is not required to provide the information relating to this item.

 

Item 4 – Controls and Procedures

 

Under the supervision and with the participation of the Company’s management, including our Chief Executive Officer and Chief Financial Officer, the Company has evaluated the effectiveness of the design and operation of its disclosure controls and procedures (as defined in Rule 13a-15(e) and 15d-15(e) under the Exchange Act) as of the end of the period covered by this quarterly report. Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that, as of the end of the period covered by this report, the Company’s disclosure controls and procedures are effective to ensure that information required to be disclosed in the reports that the Company files or submits under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported, within the time periods specified in the Securities and Exchange Commission’s rules and forms.

 

There has been no change in the Company’s internal control over financial reporting during the most recent fiscal quarter that has materially affected, or is reasonable likely to materially affect, the Company’s internal control over financial reporting.

 

 

PART II – OTHER INFORMATION

 

Item 1 – Legal Proceedings

 

As of September 30, 2016, the Company is not currently a named party in a legal proceeding, the outcome of which would have a material effect on the financial condition or results of operations of the Company.

 

Item 1A – Risk Factors

 

A smaller reporting company is not required to provide the information relating to this item.

 

Item 2 – Unregistered Sales of Equity Securities and Use of Proceeds

 

None

 

Item 3 – Defaults Upon Senior Securities

 

None

 

Item 4 – Mine Safety Disclosures

 

Not applicable

 

Item 5 – Other Information

 

None

 

Item 6 – Exhibits

 

Exhibit No.		Description
31.1		Rule 13a-14(a) / 15d-14(a) Certification of the Chief Executive Officer
31.2		Rule 13a-14(a) / 15d-14(a) Certification of the Chief Financial Officer
32		Section 1350 Certification of the Chief Executive Officer and Chief Financial Officer
101		The following materials from FSB Bancorp, Inc. Form 10-Q for the quarter ended September 30, 2016, formatted in Extensible Business Reporting Language (XBRL): (i) the Consolidated Statements of Income, (ii) the Consolidated Statements of Financial Condition, (iii) Consolidated Statements of Cash Flows, and (iv) related notes

 

 

SIGNATURES

 

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

 

	FSB BANCORP, INC.
	(registrant)

 

November 14, 2016	/s/ Dana C. Gavenda
	Dana C. Gavenda
	President and Chief Executive Officer
November 14, 2016	/s/ Kevin D. Maroney
	Kevin D. Maroney
	Chief Financial Officer and Chief Operating Officer