f10q_033112-5468.htm
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
___________________________________

FORM 10-Q
(Mark One)
     
X
 
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
   
EXCHANGE ACT OF 1934
     
For the quarterly period ended
March 31, 2012
     
OR
     
   
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
   
EXCHANGE ACT OF 1934
     
For the transition period from
 
to
     
     
Commission File Number  001-33246
     
MSB FINANCIAL CORP.
(Exact name of registrant as specified in its charter)
     
UNITED STATES
 
34-1981437
(State or other jurisdiction of
 
(I.R.S. Employer
incorporation or organization)
 
Identification Number)
     
1902 Long Hill Road, Millington, New Jersey
 
07946-0417
(Address of principal executive offices)
 
(Zip Code)
     
Registrant’s telephone number, including area code
(908) 647-4000
     
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 (§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]
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).     Yes [  ] No  [X]
 
The number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date: May 8, 2012:
     
$0.10 par value common stock 5,085,792 shares outstanding
 
 
 

 


MSB FINANCIAL CORP. AND SUBSIDIARIES

INDEX

   
Page
   
Number
PART I - FINANCIAL INFORMATION
   
     
Item 1:
Consolidated Financial Statements (Unaudited)
   
       
 
    Consolidated Statements of Financial Condition
   
 
    at March 31, 2012 and June 30, 2011
 
2
       
 
    Consolidated Statements of Income and Comprehensive Income for the
   
 
    Three and Nine Months Ended March 31, 2012 and 2011
 
3
       
 
    Consolidated Statements of Cash Flows for the Nine Months
   
 
    Ended March 31, 2012 and 2011
 
4
       
 
Notes to Consolidated Financial Statements (Unaudited)
 
5
       
Item 2:
Management’s Discussion and Analysis of
 
32
 
Financial Condition and Results of Operations
   
       
Item 3:
Quantitative and Qualitative Disclosures About Market Risk
 
39
       
Item 4:
Controls and Procedures
 
39
     
     
PART II - OTHER INFORMATION
   
     
Item 1:
Legal Proceedings
 
39
       
Item 1A:
Risk Factors
 
39
       
Item 2:
Unregistered Sales of Equity Securities and Use of Proceeds
 
39
       
Item 3:
Defaults Upon Senior Securities
 
39
       
Item 4:
Mine Safety Disclosures
 
40
       
Item 5:
Other Information
 
40
       
Item 6:
Exhibits
 
40
     
SIGNATURES
 
41
     
CERTIFICATIONS
   




 
 

 

ITEM 1 – CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

MSB FINANCIAL CORP AND SUBSIDARIES
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
(Unaudited)
   
March 31,
   
June 30,
 
   
2012
   
2011
 
   
(Dollars in thousands,
except per share amount)
 
                 
Cash and due from banks
 
$
12,264
   
$
22,117
 
Interest-earning demand deposits with banks
   
8,339
     
8,859
 
                 
Cash and Cash Equivalents
   
20,603
     
30,976
 
                 
Trading securities
   
58
     
60
 
Securities held to maturity (fair value of $61,712 and $41,602,
  respectively)
   
61,178
     
41,693
 
Loans receivable, net of allowance for loan losses of $2,874 and
  $2,170, respectively
   
243,669
     
253,251
 
Other real estate owned
   
350
     
861
 
Premises and equipment
   
9,542
     
9,838
 
Federal Home Loan Bank of New York stock, at cost
   
1,384
     
1,384
 
Bank owned life insurance
   
6,064
     
5,913
 
Accrued interest receivable
   
1,409
     
1,334
 
Other assets
   
3,573
     
4,149
 
                 
Total Assets
 
$
347,830
   
$
349,459
 
                 
Liabilities and Stockholders’ Equity
               
Liabilities
               
Deposits:
               
Non-interest bearing
 
$
16,709
   
$
17,494
 
Interest bearing
   
267,760
     
268,681
 
                 
Total Deposits
   
284,469
     
286,175
 
                 
Advances from Federal Home Loan Bank of New York
   
20,000
     
20,000
 
Advance payments by borrowers for taxes and insurance
   
29
     
177
 
Other liabilities
   
2,359
     
2,427
 
                 
Total Liabilities
   
306,857
     
308,779
 
                 
Commitments and Contingencies
   
     
 
Stockholders’ Equity
               
Common stock, par value $0.10; 10,000,000 shares authorized; 5,620,625 issued; 5,086,792
  and 5,166,503 shares outstanding, respectively
   
562
     
562
 
Paid-in capital
   
24,144
     
23,940
 
Retained earnings
   
22,246
     
21,880
 
Unallocated common stock held by ESOP (113,817 and 126,463 shares, respectively)
   
(1,138
)
   
(1,265
)
Treasury stock, at cost, 533,833 and 454,122 shares, respectively
   
(4,759
)
   
(4,345
)
Accumulated other comprehensive loss
   
(82
)
   
(92
)
                 
Total Stockholders’ Equity
   
40,973
     
40,680
 
                 
Total Liabilities and Stockholders’ Equity
 
$
347,830
   
$
349,459
 

See notes to consolidated financial statements.
 
2

 
MSB FINANCIAL CORP AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME
(Unaudited)

    
Three Months Ended
   
Nine Months Ended
 
   
March 31,
   
March 31,
 
   
2012
   
2011
   
2012
   
2011
 
   
(In thousands, except per share amounts)
 
Interest Income:
                       
  Loans receivable, including fees
  $ 2,876     $ 3,314     $ 8,989     $ 10,132  
  Securities held to maturity
    471       437       1,474       1,290  
  Other
    23       25       67       83  
Total Interest Income
    3,370       3,776       10,530       11,505  
                                 
Interest Expense
                               
  Deposits
    617       838       2,067       2,758  
  Borrowings
    170       169       515       514  
Total Interest Expense
    787       1,007       2,582       3,272  
                                 
Net Interest Income
    2,583       2,769       7,948       8,233  
                                 
Provision for Loan Losses
    471       400       1,459       1,225  
 
                               
Net Interest Income after Provision for Loan Losses
    2,112       2,369       6,489       7,008  
                                 
Non-Interest Income
                               
  Fees and service charges
    80       100       245       378  
  Income from bank owned life insurance
    50       48       151       146  
  Unrealized gain (loss) on trading securities
    9       (1 )     (2 )     17  
  Other
    21       21       83       73  
Total Non-Interest Income
    160       168       477       614  
                                 
Non-Interest Expenses
                               
  Salaries and employee benefits
    932       971       2,874       2,924  
  Directors compensation
    130       112       361       332  
  Occupancy and equipment
    351       447       1,138       1,252  
  Service bureau fees
    117       94       333       300  
  Advertising
    43       45       139       163  
  FDIC assessment
    74       133       222       386  
  Professional services
    106       135       368       371  
  Other
    209       266       646       995  
Total Non-Interest Expenses
    1,962       2,203       6,081       6,723  
                                 
Income before Income Taxes
    310       334       885       899  
Income Taxes
    116       127       356       357  
Net Income
    194       207       529       542  
Amortization component of net periodic pension cost,
                               
net of tax
    3       -       10       1  
                                 
Total Comprehensive Income
  $ 197     $ 207     $ 539     $ 543  
Weighted average number of shares of common stock
                               
outstanding - basic and diluted
    4,973       5,041       5,010       5,041  
Earnings per common share - basic and diluted
  $ 0.04     $ 0.04     $ 0.11     $ 0.11  
Dividends declared per common share
  $ 0.03     $ 0.03     $ 0.12     $ 0.12  
See notes to consolidated financial statements.
 
3

 
MSB Financial Corp and Subsidiaries
Consolidated Statements of Cash Flows
(Unaudited)
    
 
Nine Months Ended March 31,
 
   
2012
   
2011
 
   
(In thousands)
 
Cash Flows from operating activities:
           
  Net Income
  $ 529     $ 542  
  Adjustments to reconcile net income to net
               
cash provided by operating activities:
               
     Net accretion of securities discounts and deferred loan fees and costs
    (109 )     (50 )
     Depreciation and amortization of premises and equipment
    452       490  
     Stock based compensation and allocation of ESOP stock
    331       345  
     Provision for loan losses
    1,459       1,225  
     (Gain) loss on sale of other real estate owned
    (9 )     71  
     Income from bank owned life insurance
    (151 )     (146 )
     Unrealized (gain) loss on trading securities
    2       (17 )
     Increase in accrued interest receivable
    (75 )     (131 )
     Decrease (increase) decrease in other assets
    576       (309 )
     (Decrease) increase in other liabilities
    (58 )     198  
    Net Cash Provided by Operating Activities
    2,947       2,218  
 
               
Cash Flows from Investing Activities:
               
     Activity in held to maturity securities:
               
      Purchases
    (53,970 )     (21,247 )
      Maturities, calls and principal repayments
    34,514       21,954  
     Net decrease in loans receivable
    7,853       6,816  
     Purchase of premises and equipment
    (156 )     (70 )
             Proceeds from the sale of other real estate owned
    870       1,557  
    Net Cash Provided by (Used in) Investing Activities
    (10,889 )     9,010  
 
               
Cash Flows from Financing Activities:
               
     Net decrease in deposits
    (1,706 )     (9,925 )
     Decrease in advance payments by borrowers for taxes and insurance
    (148 )     (181 )
     Dividends paid to minority shareholders
    (163 )     (164 )
     Purchase of treasury stock
    (414 )     (67 )
    Net Cash Used in Financing Activities
    (2,431 )     (10,337 )
                 
    Net increase (decrease) in Cash and Cash Equivalents
    (10,373 )     891  
Cash and Cash Equivalents – Beginning
    30,976       21,144  
Cash and Cash Equivalents – Ending
  $ 20,603     $ 22,035  
                 
Supplementary Cash Flows Information
               
Interest paid
  $ 2,577     $ 3,271  
Income taxes paid
  $ 41     $ 392  
Loan receivable transferred to other real estate owned
  $ 350     $ 930  
 
See notes to consolidated financial statements.
 
4

 

MSB FINANCIAL CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)


Note 1 – Organization and Business

MSB Financial Corp. (the “Company”) is a federally-chartered corporation organized in 2004 for the purpose of acquiring all of the capital stock that Millington Savings Bank (the “Savings Bank”) issued in its mutual holding company reorganization. The Company’s principal executive offices are located at 1902 Long Hill Road, Millington, New Jersey 07946-0417 and its telephone number at that address is (908) 647-4000.

A Registration Statement on Form S-1 (File No. 333-137294), as amended, was filed by the Company with the Securities and Exchange Commission pursuant to the Securities Act of 1933, as amended, relating to the offer for sale of up to 2,199,375 shares (subject to increase to 2,529,281 shares) of its common stock at $10.00 per share. The offering closed on January 4, 2007 and 2,529,281 shares were sold for gross proceeds of $25,292,810, including 202,342 shares sold to the Savings Bank’s newly established Employee Stock Ownership Plan (“ESOP”). Net proceeds of the offering totaled approximately $24.5 million. Concurrent with closing of the offering, the MHC received 3,091,344 shares of Company stock in exchange for the 10,000 shares previously owned by the MHC. The MHC is the majority stockholder of the Company owning 60.77% of the outstanding common stock at March 31, 2012.

MSB Financial, MHC (the “MHC”) is a federally-chartered mutual holding company that was formed in 2004 in connection with the mutual holding company reorganization.  The MHC has not engaged in any significant business since its formation. So long as MHC is in existence, it will at all times own a majority of the outstanding stock of the Company.

The Savings Bank is regulated by the New Jersey Department of Banking and Insurance and the Federal Deposit Insurance Corporation.  The MHC and the Company are now regulated as savings and loan holding companies by the Board of Governors of the Federal Reserve System (“FRB”), as successor to the Office of Thrift Supervision (“OTS”) under the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”).

Note 2 – Basis of Consolidated Financial Statement Presentation

The consolidated financial statements include the accounts of the Company, its wholly-owned subsidiary, the Savings Bank, and the Savings Bank’s wholly-owned subsidiary, Millington Savings Service Corp. All significant inter-company accounts and transactions have been eliminated in consolidation. These consolidated financial statements were prepared in accordance with instructions for Form 10-Q and Regulation S-X, and therefore, do not include information or notes necessary for a complete presentation of financial condition, results of operations, and cash flows in conformity with accounting principles generally accepted in the United States of America (“GAAP”).  Millington Savings Service Corp. is inactive.

In the opinion of management, all adjustments, consisting of only normal recurring adjustments or accruals, which are necessary for a fair presentation of the consolidated financial statements have been made at March 31, 2012 and June 30, 2011 and for the three and nine months ended March 31, 2012 and 2011. The results of operations for the three and nine months ended March 31, 2012 are not necessarily indicative of the results which may be expected for an entire fiscal year or other interim periods.

 
5

 
The data in the consolidated statement of financial condition for June 30, 2011 was derived from the Company’s audited consolidated financial statements as of and for the year then ended. That data, along with the interim financial information presented in the consolidated statements of financial position, income and comprehensive income, and cash flows should be read in conjunction with the audited consolidated financial statements as of and for the year ended June 30, 2011, including the notes thereto included in the Company’s Annual Report on Form 10-K.

The consolidated financial statements contained herein have been prepared in conformity with GAAP. In preparing the consolidated financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated statements of financial position, and revenues and expenses for the periods then ended. Actual results could differ significantly from those estimates.

A material estimate for the Company that is particularly susceptible to significant change relates to the determination of the allowance for loan losses. The allowance for loan losses represents management’s best estimate of losses known and inherent in the portfolio that are both probable and reasonable to estimate. While management uses the most current information available to estimate losses on loans, actual losses are dependent on future events and, as such, increases in the allowance for loan losses may be necessary.  In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Savings Bank’s allowance for loan losses. Such agencies may require the Company to recognize additions to the allowance for loan losses based on their judgments about information available to them at the time of their examinations.

Note 3 – Subsequent Events

In accordance with Financial Accounting Standards Board (the “FASB”) Accounting Standards Codification (the “ASC”) Topic 855, Subsequent Events, management has evaluated potential subsequent events through the date the consolidated financial statements were issued.

Note 4 – Earnings Per Share

Basic earnings per share is computed by dividing net income by the weighted average number of common shares outstanding during the period, exclusive of the unallocated shares held by the Employee Stock Ownership Plan (“ESOP”) and unvested shares of restricted stock. Diluted earnings per share reflects the potential dilution that could occur if securities or other contracts to issue common stock, such as outstanding stock options, were exercised or converted into common stock or resulted in the issuance of common stock that then shared in the earnings of the Company. Diluted earnings per share is calculated by adjusting the weighted average number of shares of common stock outstanding to include the effect of contracts or securities exercisable (such as stock options) or which could be converted into common stock, if dilutive, using the treasury stock method. Diluted earnings per share did not differ from basic earnings per share for the three and nine months ended March 31, 2012 and 2011, as the 275,410 weighted average number of outstanding stock options were all anti-dilutive.

Note 5 – Stock Based Compensation

On March 10, 2008 the Company’s stockholders approved the 2008 Stock Compensation and Incentive Plan. This plan permits the granting of up to 275,410 options to purchase Company common stock. Pursuant to this plan, on May 9, 2008, the Board of Directors granted 275,410 options having an exercise price of $10.75 per share, the fair market value of the shares at the grant date. The grant date fair value of the options was estimated to be $2.99 per share based on the Black-Scholes option pricing
 
 
6

 
model. Options are exercisable for 10 years from date of grant.  At March 31, 2012, stock based compensation expense not yet recognized in income amounted to $213,000 which is expected to be recognized over a weighted average remaining period of 1.1 years.  The Company recognized stock based compensation expense related to these awards of $41,000 and $123,000 for the three and nine month periods ended March 31, 2012 and 2011, respectively.

On November 9, 2009 the Company’s stockholders approved an Amendment to the 2008 Stock Compensation and Incentive Plan. The primary purpose of the Amendment to the 2008 Plan was to increase the number of shares of Company common stock authorized for issuance under the 2008 Plan from 275,410 to 385,574; with such additional shares to be available for awards in the form of restricted stock awards.  Such restricted stock awards may be granted to officers, employees and directors of the Company or its subsidiary, the Savings Bank. On November 24, 2009, the Company re-purchased 110,164 shares of the Company common stock for an aggregate purchase price of $932,000.  On December 14, 2009, the Board of Directors granted the 110,164 shares to certain employees and directors.  The restricted stock awards are to be vested over a five year period and expensed over that time based on the fair value of the Company’s common stock at the date of grant.  During the three and nine month periods ended March 31, 2012, the Company recognized stock based compensation expense related to these awards of $45,000 and $135,000, with tax benefits of $18,000 and $54,000, respectively.  As of March 31, 2012, $486,000 in stock based compensation expense related to these awards remains to be recognized.
 
Note 6 - Fair Value Measurements
 
The Company uses fair value measurements to record fair value adjustments to certain assets and to determined fair value disclosures.
 
GAAP defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. A fair value measurement assumes that the transaction to sell the asset or transfer the liability occurs in the principal market for the asset or liability or, in the absence of a principal market, the most advantageous market for the asset or liability. The price in the principal (or most advantageous) market used to measure the fair value of the asset or liability shall not be adjusted for transaction costs. An orderly transaction is a transaction that assumes exposure to the market for a period prior to the measurement date to allow for marketing activities that are usual and customary for transactions involving such assets and liabilities; it is not a forced transaction. Market participants are buyers and sellers in the principal market that are (i) independent, (ii) knowledgeable, (iii) able to transact and (iv) willing to transact.
 
GAAP requires the use of valuation techniques that are consistent with the market approach, the income approach and/or the cost approach. The market approach uses prices and other relevant information generated by market transactions involving identical or comparable assets and liabilities. The income approach uses valuation techniques to convert future amounts, such as cash flows or earnings, to a single present amount on a discounted basis. The cost approach is based on the amount that currently would be required to replace the service capacity of an asset (replacement cost). Valuation techniques should be consistently applied. Inputs to valuation techniques refer to the assumptions that market participants would use in pricing the asset or liability. Inputs may be observable, meaning those that reflect the assumptions market participants would use in pricing the asset or liability developed based on market data obtained from independent sources, or unobservable, meaning those that reflect the reporting entity’s own assumptions about the assumptions market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. In that regard, GAAP establishes a fair value hierarchy for valuation inputs that gives the highest priority to quoted prices in active
 
 
7

 
markets for identical assets or liabilities and the lowest priority to unobservable inputs. The fair value hierarchy is as follows:
 
    ·  
Level 1 Inputs – Unadjusted quoted prices in active markets for identical assets or liabilities that the reporting entity has the ability to access at the measurement date.
 
    ·  
Level 2 Inputs – Inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either directly or indirectly. These might include quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active, inputs other than quoted prices that are observable for the asset or liability (such as interest rates, volatilities, prepayment speeds, credit risks, etc.) or inputs that are derived principally from or corroborated by market data by correlation or other means.
 
    ·  
Level 3 Inputs – Unobservable inputs for determining the fair values of assets or liabilities that reflect an entity’s own assumptions about the assumptions that market participants would use in pricing the assets or liabilities.
 
A description of the valuation methodologies used for instruments measured at fair value, as well as the general classification of such instruments pursuant to the valuation hierarchy, is set forth below.  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 general, fair value is based upon quoted market prices, where available. If such quoted market prices are not available, fair value is based upon internally developed models that primarily use, as inputs, observable market-based parameters. Valuation adjustments may be made to ensure that financial instruments are recorded at fair value. These adjustments may include amounts to reflect counterparty credit quality, among other things, as well as unobservable parameters. Any such valuation adjustments are applied consistently over time. The Company’s valuation methodologies may produce a fair value calculation that may not be indicative of net realizable value or reflective of future values. While management believes the Company’s valuation methodologies 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.
 
Assets and Liabilities Measured at Fair Value on a Recurring Basis
 
The following table summarizes financial assets measured at fair value on a recurring basis as of March 31, 2012 and June 30, 2011, segregated by the level of the valuation inputs within the fair value hierarchy utilized to measure fair value:

 
March 31, 2012
   
 
Level 1
Inputs
 
Level 2
Inputs
 
Level 3
Inputs
 
Total Fair
Value
   
 
(In thousands)
 
 
                       
Trading securities
  $ 58     $     $     $ 58  


 
June 30, 2011
   
 
Level 1
Inputs
 
Level 2
Inputs
 
Level 3
Inputs
 
Total Fair
Value
   
 
(In thousands)
 
                         
Trading securities
  $ 60     $     $     $ 60  
 
 
8

 
 
Securities classified as trading securities are reported at fair value utilizing Level 1 inputs. For these securities, the Company arrives at the fair value based upon the quoted market price at the close of business on the last business day on or prior to the statement of financial position date.

Assets and Liabilities Measured at Fair Value on a Non-Recurring Basis

Certain financial and non-financial assets are measured at fair value on a non-recurring basis; that is, the instruments are not measured at fair value on an ongoing basis but are subject to fair value adjustments in certain circumstances (for example, when there is evidence of impairment).
 
The following table summaries those assets measured at fair value on a non-recurring basis as of March 31, 2012 and June 30, 2011:

   
March 31, 2012
   
   
Level 1
Inputs
   
Level 2
Inputs
   
Level 3
Inputs
   
Total Fair
Value
   
   
(In thousands)
 
Impaired loans
  $     $     $ 9,407     $ 9,407  

   
June 30, 2011
   
   
Level 1
Inputs
   
Level 2
Inputs
   
Level 3
Inputs
   
Total Fair
Value
   
   
(In thousands)
 
Impaired loans
  $     $     $ 2,918     $ 2,918  

For Level 3 assets measured at fair value on non-recurring basis as of March 31, 2012, the significant unobservable inputs used in fair value measurements were as follows:

      Fair Value     Valuation   Unobservable   Range (Weighted)  
       Estimate     Techniques   Input    Average)  
      (Dollars in thousands)  
                               
Impaired loans
   
$
9,407
   
 
Appraisal of
   
    Appraisal
       
               
collateral
   
    adjustments
   
0% to - 16.0% (-5.8%)
 
                     
    Liquidation
       
                     
    expense
   
-4.6% to -22.2% (-8.9%)
 

An impaired loan is measured for impairment at the time the loan is identified as impaired.  Loans are considered impaired when based on current information and events it is probable that payments of interest and principal will not be made in accordance with the contractual terms of the loan agreement.  The Company’s impaired loans are generally collateral dependent and, as such, are carried at the lower of cost or estimated fair value less estimated selling costs.  Fair values are estimated through current appraisals and adjusted as necessary to reflect current market conditions and as such are classified as Level 3.

Other real estate owned is carried at the lower of cost or fair value less estimated selling costs.  The fair value of other real estate is determined based upon independent third-party appraisals of the properties.  These assets are included as Level 3 fair values, based upon the lowest level of input that is significant to the fair value measurements.  As of March 31, 2012 and June 30, 2011 there was no further impairment of the other real estate owned balance below the cost basis established at the time the other real estate owned was originally recognized.  Accordingly, the table above does not include other real estate owned.
 
 
9

 
 
 
Disclosure about Fair Value of Financial Instruments
 
Fair value of a financial instrument is defined above. Significant estimates were used for the purposes of disclosing fair values. Estimated fair values have been determined using the best available data and estimation methodology suitable for each category of 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 sales transaction on the dates indicated. The estimated fair value amounts have been measured as of their respective reporting dates, and have not been reevaluated or updated for purposes of these consolidated 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.
 
The following presents the carrying amount and the fair value as of March 31, 2012 and June 30, 2011, and placement in the fair value hierarchy as of March 31, 2012, of the Company’s financial instruments which are carried on the consolidated statement of financial condition at cost and are not measured or recorded at fair value on a recurring basis.  This table excludes financial instruments for which carrying amount approximates fair value, which includes cash and cash equivalents, Federal Home Loan Bank stock, accrued interest receivable, interest and non-interest bearing demand, savings and club deposits, and accrued interest payable.
 
   
Carrying
   
Estimated
   
Level 1
   
Level 2
   
Level 3
 
As of March 31, 2012  
Amount
   
Fair Value
   
Inputs
   
Inputs
   
Inputs
 
   
(In thousands)
 
Financial assets:
                             
Securities held to maturity
  $ 61,178     $ 61,712     $ -     $ 61,712     $ -  
Loans receivable (1)
    243,669       248,482       -       -       248,482  
                                         
Financial liabilities:
                                       
Certificate of deposits
    117,841       120,381       -       120,381       -  
Advances from Federal Home Loan Bank of New York
    20,000       22,850       -       22,850       -  
                                         
As of June 30, 2011
                                       
Financial assets:
                                       
Securities held to maturity
    41,693       41,602                          
Loans receivable (1)
    253,251       259,165                          
                                         
Financial liabilities:
                                       
Certificate of deposits
    122,064       124,696                          
Advances from Federal Home Loan Bank of New York
    20,000       19,917                          
                                         
(1) Includes impaired loans measured at fair value on a non-recurring basis as discussed above.
 
Methods and assumptions used to estimate fair values of financial instruments not previously disclosed are as follows:
 
Cash and Cash Equivalents
 
For cash and cash equivalents, the carrying amount is a reasonable estimate of fair value.
 
 
10

 
 
Securities Held to Maturity
 
The fair value for securities held to maturity is based on quoted market prices, where available. If quoted market prices are not available, fair value is estimated using quoted market prices for similar securities.
 
Loans Receivable
 
The fair value of loans is based upon a multitude of sources, including assumed current market rates by category and the Company’s current offering rates.  Both fixed and variable rate loan fair values are derived at using a discounted cash flow methodology.  For variable rate loans, repricing term, including next reprice date, reprice frequency and reprice rate are factored into the discounted cash flow formula.
 
Federal Home Loan Bank of New York Stock
 
The carrying amount of Federal Home Loan Bank of New York stock approximates fair value since the Company is generally able to redeem this stock at par.
 
Accrued Interest Receivable and Payable
 
The carrying amounts of accrued interest receivable and payable approximate fair value due to the short term nature of these instruments.
 
Deposits
 
Fair values for demand and savings and club accounts are, by definition, equal to the amount payable on demand at the reporting date. Fair values of certificates of deposit are estimated using a discounted cash flow calculation that applies interest rates currently being offered on similar instruments with similar maturities.
 
Advances from Federal Home Loan Bank of New York
 
Fair values of advances are estimated using discounted cash flow analyses, based on rates currently available to the Company for advances from the Federal Home Loan Bank of New York with similar terms and remaining maturities.
 
Off-Balance Sheet Financial Instruments
 
Fair values of commitments to extend credit are estimated using the fees currently charged to enter into similar agreements, taking into account market interest rates, the remaining terms, and the present credit worthiness of the counterparties.  As of March 31, 2012 and June 30, 2011, the fair value of the commitments to extend credit was not considered to be material.
 
 
11

 

Note 7 - Loans Receivable and Allowance for Credit Losses
 
The composition of loans receivable at March 31, 2012 and June 30, 2011 was as follows:
 

 
March 31, 2012
   
June 30, 2011
 
 
(In thousands)
 
Residential mortgage:
             
One-to-four family
$
143,540
   
$
149,399
 
Home equity
 
50,501
     
50,240
 
               
   
194,041
     
199,639
 
               
 Commercial real estate
 
31,661
     
32,559
 
 Construction
 
11,450
     
16,633
 
 Commercial and industrial
 
10,739
     
9,325
 
Consumer:
             
Deposit accounts
 
729
     
491
 
Automobile
 
229
     
236
 
Personal
 
16
     
20
 
Overdraft protection
 
180
     
194
 
               
   
1,154
     
941
 
               
   
249,045
     
259,097
 
               
Loans in process
 
(2,171
)
   
(3,452
)
Deferred loan fees
 
(331
)
   
(224
)
               
 
$
246,543
   
$
255,421
 
 
Loans are stated at their outstanding unpaid principal balances, net of an allowance for loan losses and any deferred fees or costs. Interest income is accrued on the unpaid principal balance. Loan origination fees, net of certain direct loan origination costs, are deferred and recognized as an adjustment of the yield (interest income) of the related loans. The Company is generally amortizing these amounts over the contractual life of the loan.
 
For all classes of loans receivable, the accrual of interest is discontinued when the contractual payment of principal or interest has become 90 days past due or management has serious doubts about further collectability of principal or interest, even though the loan is currently performing. Certain loans may remain on accrual status if they are in the process of collection and are either guaranteed or well secured. When a loan is placed on nonaccrual status, unpaid interest credited to income in the current year is reversed and unpaid interest accrued in prior years is charged against the allowance for loan losses. Interest received on nonaccrual loans, including impaired loans, generally is either applied against principal or reported as interest income, according to management’s judgment as to the collectability of principal. Generally, loans are restored to accrual status when the obligation is brought current, has performed in accordance with the contractual terms for a reasonable period of time (generally six months) and the ultimate collectability of the total contractual principal and interest is no longer in doubt.  The past due status of all classes of loans receivable is determined based on contractual due dates for loan payments.

The allowance for credit losses consists of the allowance for loan losses and the reserve for unfunded lending commitments. The allowance for loan losses represents management’s estimate of
 
 
12

 
 losses inherent in the loan portfolio as of the statement of financial condition date and is recorded as a reduction to loans. The reserve for unfunded lending commitments represents management’s estimate of losses inherent in its unfunded loan commitments and is recorded in other liabilities, when required, on the consolidated statement of financial condition. The allowance for credit losses is increased by the provision for loan losses, and decreased by charge-offs, net of recoveries. All, or part, of the principal balance of loans receivable that are deemed uncollectible are charged against the allowance when management determines that the repayment of that amount is highly unlikely.  Any subsequent recoveries are credited to the allowance.  Non-residential consumer loans are generally charged off no later than 120 days past due on a contractual basis, earlier in the event of bankruptcy, or if there is an amount deemed uncollectible.  

The allowance for loan losses is maintained at a level considered adequate to provide for losses that can be reasonably anticipated. Management performs a quarterly evaluation of the adequacy of the allowance.  The allowance is based on the Company’s past loan loss experience, known and inherent risks in the portfolio, adverse situations that may affect the borrower’s ability to repay, the estimated value of any underlying collateral, composition of the loan portfolio, current economic conditions and other relevant factors. This evaluation is inherently subjective as it requires material estimates that may be susceptible to significant revision as more information becomes available.
 
The allowance calculation methodology includes segregation of the total loan portfolio into segments. The Company’s loans receivable portfolio is comprised of the following segments: residential mortgage, commercial real estate, construction, commercial and industrial and consumer.  Some segments of the Company’s loan receivable portfolio are further disaggregated into classes which allows management to better monitor risk and performance.
 
The residential mortgage loan segment is disaggregated into two classes: one-to-four family loans, which are primarily first liens, and home equity loans, which consist of first and second liens.  The commercial real estate loan segment includes owner and non owner occupied loans which have medium risk based on historical experience with these type loans.  The construction loan segment is further disaggregated into two classes: one-to-four family owner occupied, which includes land loans, whereby the owner is known and there is less risk, and other, whereby the property is generally under development and tends to have more risk than the one-to-four family owner occupied loans.  The commercial and industrial loan segment consists of loans made for the purpose of financing the activities of commercial customers. The majority of commercial and industrial loans are secured by real estate and thus carry a lower risk than traditional commercial and industrial loans.  The consumer loan segment consists primarily of installment loans (direct and indirect) and overdraft lines of credit connected with customer deposit accounts.

The allowance consists of specific, general and unallocated components. The specific component relates to loans that are classified as impaired. For loans that are classified as impaired, an allowance is established when the discounted cash flows (or collateral value or observable market price) of the impaired loan is lower than the carrying value of that loan. The general component covers pools of loans by loan class. These pools of loans are evaluated for loss exposure based upon historical loss rates for each of these classes of loans, adjusted for qualitative factors.  These qualitative risk factors include:

1.
Lending policies and procedures, including underwriting standards and collection, charge-off, and recovery practices.
2.
National, regional, and local economic and business conditions as well as the condition of various market segments, including the value of underlying collateral for collateral dependent loans.
3.
Nature and volume of the portfolio and terms of loans.
4.
Experience, ability, and depth of lending management and staff.
 
 
 
13

 
 
5.
Volume and severity of past due, classified and nonaccrual loans as well as and other loan modifications.
6.
Quality of the Company’s loan review system, and the degree of oversight by the Company’s Board of Directors.
7.
Existence and effect of any concentrations of credit and changes in the level of such concentrations.
8.
Effect of external factors, such as competition and legal and regulatory requirements.

Each factor is assigned a value to reflect improving, stable or declining conditions based on management’s best judgment using relevant information available at the time of the evaluation.

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 specific and general losses in the portfolio.
 
Impaired Loans
 
Management evaluates individual loans in all of the loan segments (including loans in residential mortgage and consumer segments) for possible impairment if the loan is greater than $200,000 and if the loan is either in nonaccrual status or is risk rated Substandard or worse.  A loan is considered impaired when, based on current information and events, it is probable that the Company 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.
 
Loans whose terms are modified are classified as troubled debt restructurings (“TDRs”) if the Company grants such borrowers concessions and it is deemed that those borrowers are experiencing financial difficulty. Concessions granted under a TDR generally involve a reduction in interest rate or an extension of a loan’s stated maturity date. Non-accrual TDRs are restored to accrual status if principal and interest payments, under the modified terms, are current for six consecutive months after modification.  Loans classified asTDRs are designated as impaired until they are ultimately repaid in full or foreclosed and sold.  The nature and extent of impairment of TDRs, including those which experienced a subsequent default, is considered in the determination of an appropriate level of allowance for loan losses.
 
Once the determination has been made that a loan is impaired, impairment is measured by comparing the recorded investment in the loan to one of the following: (a) present value of expected cash flows (discounted at the loan’s effective interest rate), (b) the loan’s observable market price or (c) the fair value of collateral adjusted for expected selling costs.  The method is selected on a loan by loan basis with management primarily utilizing the fair value of collateral method.
 
The estimated fair values of the real estate collateral are determined primarily through third-party appraisals. When a real estate secured loan becomes impaired, a decision is made regarding whether an updated certified appraisal of the real estate is necessary. This decision is based on various considerations, including the age of the most recent appraisal, the loan-to-value ratio based on the original appraisal and the condition of the property. Appraised values are discounted to arrive at the estimated selling price of the collateral, which is considered to be the estimated fair value. The discounts also include estimated costs to sell the property.
 
 
14

 
The estimated fair values of the non-real estate collateral, such as accounts receivable, inventory and equipment, are determined based on the borrower’s financial statements, inventory reports, accounts receivable agings or equipment appraisals or invoices. Indications of value from these sources are generally discounted based on the age of the financial information or the quality of the assets.
 
The evaluation of the need and amount of the allowance for impaired loans and whether a loan can be removed from impairment status is made on a quarterly basis.  The Company’s policy for recognizing interest income on impaired loans does not differ from its overall policy for interest recognition.
 
 
15

 
 
The following tables present impaired loans by class, segregated by those for which a related allowance was required and those for which a related allowance was not necessary as of March 31, 2012 and June 30, 2011.  The average recorded investment and interest income recognized is presented for the three month periods ended March 31, 2012 and 2011 and nine month period ended March 31, 2012.


   
March 31, 2012
   
June 30, 2011
 
         
Unpaid
               
Unpaid
       
   
Recorded
   
Principal
   
Related
   
Recorded
   
Principal
   
Related
 
   
Investment
   
Balance
   
Allowance
   
Investment
   
Balance
   
Allowance
 
   
(In thousands)
 
With no related allowance recorded:
                                   
   Residential mortgage
                                   
        One-to-four family
  $ 10,244     $ 10,404     $ -     $ 6,833     $ 7,671     $ -  
        Home equity
    2,835       2,926       -       1,074       1,267       -  
   Commercial real estate
    3,300       3,315       -       3,618       3,633       -  
   Construction
                                               
        Other
    225       225       -       -       -       -  
   Commercial and industrial
    343       343       -       142       142       -  
      16,947       17,213       -       11,667       12,713       -  
With an allowance recorded:
                                               
   Residential mortgage
                                               
        One-to-four family
    5,181       5,947       315       1,290       1,357       113  
        Home equity
    1,094       1,626       298       786       1,031       149  
   Commercial real estate
    459       459       37       -       -       -  
   Construction
                                               
        One-to-four family occupied
    1,940       1,940       105       -       -       -  
        Other
    1,030       1,007       164       1,027       1,014       323  
   Commercial and industrial
    731       731       109       500       500       100  
      10,435       11,710       1,028       3,603       3,902       685  
Total:
                                               
   Residential mortgage
                                               
        One-to-four family
    15,425       16,351       315       8,123       9,028       113  
        Home equity
    3,929       4,552       298       1,860       2,298       149  
   Commercial real estate
    3,759       3,774       37       3,618       3,633       -  
   Construction
                                               
        One-to-four family occupied
    1,940       1,940       105       -       -       -  
        Other
    1,255       1,232       164       1,027       1,014       323  
   Commercial and industrial
    1,074       1,074       109       642       642       100  
    $ 27,382     $ 28,923     $ 1,028     $ 15,270     $ 16,615     $ 685  
                                                 
 
(1) As of March 31, 2012, impaired loans listed above included $14.9 million of loans previously modified in TDRs and as such are considered impaired under GAAP.  As of March 31, 2012, $9.8 million of these loans have been performing in accordance with their modified terms for an extended period of time and as such removed from non-accrual status and considered performing.
 


 
16

 


 

   
Three Months Ended
March 31, 2012
   
Three Months Ended
March 31, 2011
   
Nine Months Ended
March 31, 2012
 
   
Average
   
Interest
   
Average
   
Interest
   
Average
   
Interest
 
   
Recorded
   
Income
   
Recorded
   
Income
   
Recorded
   
Income
 
   
Investment
   
Recognized
   
Investment
   
Recognized
   
Investment
   
Recognized
 
   
(In thousands)
 
With no related allowance recorded:
                                   
   Residential
                                   
        One-to-four family
  $ 10,513     $ 81     $ 4,104     $ 82     $ 9,624     $ 249  
        Home equity
    2,851       33       567       1       2,396       100  
   Commercial real estate
    3,006       16       3,498       34       3,296       73  
   Construction
                                               
        One-to-four family occupied
    -       -       -       -       -       -  
        Other
    112       -       -       -       56       -  
   Commercial and industrial
    343       3       -       -       326       7  
      16,825       133       8,169       117       15,698       429  
With an allowance recorded:
                                               
   Residential mortgage
                                               
        One-to-four family
    4,144       19       3,780       14       3,661       57  
        Home equity
    1,097       2       2,207       5       1,061       4  
   Commercial real estate
    459       6       320       -       344       19  
   Construction
                                               
        One-to-four family occupied
    1,940       21       -       -       970       63  
        Other
    1,029       -       946       -       1,513       -  
   Commercial and industrial
    735       2       507       -       681       9  
   Consumer
    -       -       2       -       -       -  
      9,404       50       7,762       19       8,230       152  
Total:
                                               
   Residential mortgage
                                               
        One-to-four family
    14,657       100       7,884       96       13,285       306  
        Home equity
    3,948       35       2,774       6       3,457       104  
   Commercial real estate
    3,465       22       3,818       34       3,640       92  
   Construction
                                               
        One-to-four family occupied
    1,940       21       -       -       970       63  
        Other
    1,141       -       946       -       1,569       -  
   Commercial and industrial
    1,078       5       507       -       1,007       16  
   Consumer
    -       -       2       -       -       -  
    $ 26,229     $ 183     $ 15,931       136     $ 23,928     $ 581  
                                                 

 
17

 


 
Credit Quality Indicators
 
Management uses a ten point internal risk rating system to monitor the credit quality of the loans in the Company’s commercial real estate, construction and commercial and industrial loan segments.  The borrower’s overall financial condition, repayment sources, guarantors and value of collateral, if appropriate, are evaluated annually or when credit deficiencies, such as delinquent loan payments, arise. The criticized rating categories utilized by management generally follow bank regulatory definitions. The first six risk rating categories are considered not criticized, and are aggregated as “Pass” rated.  The “Special Mention” category includes assets that are currently protected, but are potentially weak, resulting in increased credit risk and deserving management’s close attention.  If uncorrected, the potential weaknesses may result in deterioration of the repayment prospects.  Loans classified “Substandard” have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt and have a distinct possibility that some loss will be sustained if the weaknesses are not corrected.  These include loans that are inadequately protected by the current sound net worth and paying capacity of the obligor or of the collateral pledged, if any.  Loans classified “Doubtful” have all the weaknesses inherent in loans classified “Substandard” with the added characteristic that collection or liquidation in full, on the basis of current conditions and facts, is highly improbable.  Loans classified as a “Loss” are considered uncollectible and subsequently charged off.
 
 
 

 
18

 


The following tables present the classes of the loans receivable portfolio summarized by the aggregate “Pass” and the criticized categories of “Special Mention”, “Substandard”, “Doubtful” and “Loss” within the internal risk rating system as of March 31, 2012 and June 30, 2011:
 
 As of March 31, 2012
 
Pass
   
Special Mention
   
Substandard
   
Doubtful
   
Loss
   
Total
 
   
(In thousands)
 
Commercial real estate
 
$
26,444
   
$
893
   
$
3,884
   
$
365
   
$
37
   
$
31,623
 
Construction
                                               
One-to-four family owner occupied
   
2,007
     
-
     
1,836
     
-
     
104
     
3,947
 
Other
   
4,317
     
-
     
-
     
843
     
164
     
5,324
 
Commercial and Industrial
   
9,285
     
189
     
209
     
926
     
109
     
10,718
 
                                                 
Total
 
$
42,053
   
$
1,082
   
$
5,929
   
$
2,134
   
$
414
   
$
51,612
 


 
As of June 30, 2011
 
Pass
   
Special Mention
   
Substandard
   
Doubtful
   
Loss
   
Total
 
   
(In thousands)
 
Commercial real estate
 
$
28,017
   
$
900
   
$
3,144
   
$
474
   
$
-
   
$
32,535
 
Construction
                                               
One-to-four family owner occupied
   
7,113
     
-
     
-
     
-
     
-
     
7,113
 
Other
   
306
     
-
     
4,726
     
704
     
323
     
6,059
 
Commercial and Industrial
   
8,220
     
327
     
264
     
401
     
99
     
9,311
 
                                                 
Total
 
$
43,656
   
$
1,227
   
$
8,134
   
$
1,579
   
$
422
   
$
55,018
 

 
 
19

 
 
 
Management further monitors the performance and credit quality of the loan receivable portfolio by analyzing the age of the portfolio as determined by the length of time a recorded payment is past due.  The following tables represent the classes of the loans receivable portfolio summarized by aging categories of performing loans and non-accrual loans as of March 31, 2012 and June 30, 2011:
 
 As of  March 31, 2012
 
30-59 Days
Past Due
   
60-89 Days
Past Due
   
Greater
than 90
Days
   
Total
Past Due
   
Current
   
Total Loans
Receivables
   
Nonaccrual
Loans
   
Loans
Receivable
>90 Days and
Accruing
 
   
(In thousands)
 
Residential Mortgage
                                               
One-to-four family
 
$
1,500
     
3,057
     
9,424
     
13,981
   
$
129,295
   
$
143,276
   
$
9,342
   
$
1,105
 
Home equity
   
775
     
985
     
1,285
     
3,045
     
47,456
     
50,501
     
824
     
872
 
Commercial real estate
   
409
     
-
     
2,354
     
2,763
     
28,860
     
31,623
     
2,354
         
Construction
                                                               
One-to-four family owner
occupied
   
1,150
     
-
     
-
     
1,150
     
2,797
     
3,947
     
-
         
Other
   
-
     
-
     
1,256
     
1,256
     
4,068
     
5,324
     
1,255
         
Commercial and industrial
   
21
     
234
     
935
     
1,190
     
9,528
     
10,718
     
-
         
Consumer
   
10
     
5
     
-
     
15
     
1,139
     
1,154
     
936
         
Total
 
$
3,865
   
$
4,281
   
$
15,254
   
$
23,400
   
$
223,143
   
$
246,543
   
$
14,711
   
$
1,977
 



 
20

 



As of  June  30, 2011
 
30-59 Days
Past Due
   
60-89 Days
Past Due
   
Greater
than 90
Days
   
Total
Past Due
   
Current
   
Total Loans
Receivables
   
Nonaccrual
Loans
   
Loans
Receivable
>
90 Days and
Accruing
 
   
(In thousands)
 
Residential Mortgage
                                               
One-to-four family
 
$
2,896
     
501
     
8,065
     
11,462
   
$
137,761
   
$
149,223
   
$
8,317
   
$
1,369
 
Home equity
   
594
     
42
     
1,315
     
1,951
     
48,288
     
50,239
     
950
     
934
 
Commercial real estate
   
1,856
     
-
     
1,628
     
3,484
     
29,051
     
32,535
     
3,132
     
-
 
Construction
                                                               
One-to-four family owner
occupied
   
-
     
-
     
-
     
-
     
7,113
     
7,113
     
-
     
-
 
Other
   
-
     
-
     
1,027
     
1,027
     
5,032
     
6,059
     
1,027
     
-
 
Commercial and industrial
   
165
     
-
     
642
     
807
     
8,504
     
9,311
     
642
     
-
 
Consumer
   
7
     
6
     
-
     
13
     
928
     
941
     
2
     
-
 
Total
 
$
5,518
   
$
549
   
$
12,677
   
$