Bear State Financial 10-Q 2006 Q2 Quarterly report

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

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

For the quarterly period ended June 30, 2006

OR

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

For the transition period from _____________ to ____________

Commission File Number 0-28312

FIRST FEDERAL BANCSHARES OF ARKANSAS, INC.

(Exact name of registrant as specified in its charter)

Texas	71-0785261
(State or other jurisdiction of incorporation	(I.R.S. Employer
or organization)	Identification Number)
1401 Highway 62-65 North
Harrison, Arkansas	72601
(Address of principal executive office)	(Zip Code)
(870) 741-7641
(Registrant’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  o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer or a non-accelerated filer.

Large accelerated filer  o      Accelerated filer  x      Non-accelerated filer  o  

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes  o   No  x

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date:  As of July 25, 2006, there were issued and outstanding 5,020,256 shares of the Registrant’s Common Stock, par value $.01 per share.

FIRST FEDERAL BANCSHARES OF ARKANSAS, INC.

TABLE OF CONTENTS

Part I.	Financial Information
Item 1.	Consolidated Financial Statements
	Consolidated Statements of Financial Condition as of June 30, 2006 and December 31, 2005 (unaudited)
	Consolidated Statements of Income for the three and six months ended June 30, 2006 and 2005 (unaudited)
	Consolidated Statement of Stockholders’ Equity for the six months ended June 30, 2006 (unaudited)
	Consolidated Statements of Cash Flows for the six months ended June 30, 2006 and 2005 (unaudited)
	Notes to Unaudited Consolidated Financial Statements
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations
Item 3.	Quantitative and Qualitative Disclosures About Market Risk
Item 4.	Controls and Procedures
Part II.	Other Information
Item 1.	Legal Proceedings
Item 1A.	Risk Factors
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds
Item 3.	Defaults Upon Senior Securities
Item 4.	Submission of Matters to a Vote of Security Holders
Item 5.	Other Information
Item 6.	Exhibits
Signatures
Exhibits
31.1	Certification of Chief Executive Officer pursuant to Rule 13a-14(a) of Exchange Act, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2	Certification of Chief Financial Officer pursuant to Rule 13a-14(a) of Exchange Act, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1	Section 906 Certification of the CEO
32.2	Section 906 Certification of the CFO

FIRST FEDERAL BANCSHARES OF ARKANSAS, INC.

CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION

(In thousands, except share data)

(Unaudited)

	June 30, 2006			December 31, 2005
ASSETS
Cash and cash equivalents	$	25,812		$	21,109
Investment securities held to maturity	60,534			56,695
Federal Home Loan Bank stock	8,228			8,412
Loans receivable, net	738,665			719,214
Accrued interest receivable	9,627			7,490
Real estate acquired in settlement of loans, net	569			892
Office properties and equipment, net	19,172			18,522
Cash surrender value of life insurance	19,023			18,654
Prepaid expenses and other assets	1,436			1,423
TOTAL ASSETS	$	883,066		$	852,411
LIABILITIES AND STOCKHOLDERS’ EQUITY
LIABILITIES:
Deposits	$	630,790		$	611,667
Federal Home Loan Bank advances	168,452			158,240
Advance payments by borrowers for taxes and insurance	450			847
Other liabilities	4,404			3,815
Total liabilities	804,096			774,569
STOCKHOLDERS’ EQUITY:
Preferred stock, no par value, 5,000,000 shares authorized, none issued
Common stock, $.01 par value, 20,000,000 shares authorized, 10,307,502 shares issued, 5,020,256 and 5,048,662 shares outstanding at June 30, 2006 and December 31, 2005, respectively	103			103
Additional paid-in capital	56,728			56,252
Employee stock benefit plans	(95		)	(140		)
Retained earnings-substantially restricted	86,430			83,584
	143,166			139,799
Treasury stock, at cost, 5,287,246 and 5,258,840 shares at June 30, 2006 and December 31, 2005, respectively	(64,196		)	(61,957		)
Total stockholders’ equity	78,970			77,842
TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY	$	883,066		$	852,411

See notes to unaudited consolidated financial statements.

1

FIRST FEDERAL BANCSHARES OF ARKANSAS, INC.

CONSOLIDATED STATEMENTS OF INCOME

(In thousands, except share data)

(Unaudited)

	Three Months Ended				Six Months Ended
	June 30, 2006		June 30, 2005		June 30, 2006		June 30, 2005
INTEREST INCOME:
Loans receivable	$	12,849	$	10,266	$	25,075	$	20,150
Investment securities:
Taxable	623		532		1,203		1,050
Nontaxable	187		178		373		358
Other	78		25		175		39
Total interest income	13,737		11,001		26,826		21,597
INTEREST EXPENSE:
Deposits	4,926		3,480		9,371		6,764
Other borrowings	1,778		1,108		3,520		1,952
Total interest expense	6,704		4,588		12,891		8,716
NET INTEREST INCOME	7,033		6,413		13,935		12,881
PROVISION FOR LOAN LOSSES	359		287		643		536
NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSSES	6,674		6,126		13,292		12,345
NONINTEREST INCOME:
Deposit fee income	1,237		1,105		2,315		2,114
Earnings on life insurance policies	185		191		369		389
Gain on sale of loans	278		182		475		316
Other	385		246		1,243		475
Total noninterest income	2,085		1,724		4,402		3,294
NONINTEREST EXPENSES:
Salaries and employee benefits	3,259		3,013		6,979		6,016
Net occupancy expense	582		506		1,171		1,005
Data processing	320		412		764		752
Professional fees	90		105		195		220
Advertising and public relations	317		241		640		482
Postage and supplies	196		190		417		380
Other	614		512		1,234		1,021
Total noninterest expenses	5,378		4,979		11,400		9,876
INCOME BEFORE INCOME TAXES	3,381		2,871		6,294		5,763
INCOME TAX PROVISION	1,106		922		2,034		1,850
NET INCOME	$	2,275	$	1,949	$	4,260	$	3,913
EARNINGS PER SHARE:
Basic	$	0.45	$	0.39	$	0.85	$	0.79
Diluted	$	0.44	$	0.37	$	0.83	$	0.75
Cash Dividends Declared	$	0.14	$	0.12	$	0.28	$	0.24

See notes to unaudited consolidated financial statements.

2

FIRST FEDERAL BANCSHARES OF ARKANSAS, INC.

CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY

FOR THE SIX MONTHS ENDED JUNE 30, 2006

(In thousands, except share data)

(Unaudited)

	Issued Common Stock			Additional Paid-In			Employee Stock Benefit			Retained
	Shares	Amount		Capital			Plans			Earnings
Balance, January 1, 2006	10,307,502	$	103	$	56,252		$	(140	)	$	83,584
Net income										4,260
Release of ESOP shares				407			104
Tax effect of stock compensation plan				249
Treasury shares reissued due to exercise of stock options				(239		)
Purchase of treasury stock, at cost
Stock compensation expense				59			(59		)
Dividends paid										(1,414		)
Balance, June 30, 2006	10,307,502	$	103	$	56,728		$	(95	)	$	86,430

	Treasury Stock					Total Stockholders’
	Shares		Amount			Equity
Balance, January 1, 2006	5,258,840		$	(61,957	)	$	77,842
Net income						4,260
Release of ESOP shares						511
Tax effect of stock compensation plan						249
Treasury shares reissued due to exercise of stock options	(97,731	)	982			743
Purchase of treasury stock, at cost	130,137		(3,267		)	(3,267		)
Stock compensation expense	(4,000	)	46			46
Dividends paid						(1,414		)
Balance, June 30, 2006	5,287,246		$	(64,196	)	$	78,970

See notes to unaudited consolidated financial statements.

3

FIRST FEDERAL BANCSHARES OF ARKANSAS, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(In Thousands)

(Unaudited)

	Six Months Ended June 30,
	2006			2005
OPERATING ACTIVITIES:
Net income	$	4,260		$	3,913
Adjustments to reconcile net income to net cash provided by operating activities:
Provision for loan losses	643			536
Provision for real estate losses	—			24
Deferred tax (benefit) provision	47			(91		)
Accretion of discounts on investment securities, net	(4		)	(1		)
Federal Home Loan Bank stock dividends	(193		)	(95		)
Loss (gain) on disposition of office properties and equipment	(235		)	3
Gain on sale of repossessed assets, net	(81		)	(15		)
Originations of loans held for sale	(35,722		)	(24,087		)
Proceeds from sales of loans held for sale	33,508			23,559
Gain on sale of loans originated to sell	(475		)	(316		)
Depreciation	637			585
Amortization of deferred loan fees, net	105			80
Release of ESOP shares	511			1,000
Stock compensation expense	46			13
Earnings on life insurance policies	(369		)	(389		)
Changes in operating assets and liabilities:
Accrued interest receivable	(2,137		)	(998		)
Prepaid expenses and other assets	19			85
Other liabilities	(209		)	(17		)
Net cash provided by operating activities	351			3,789
INVESTING ACTIVITIES:
Purchases of investment securities held to maturity	(3,125		)	(1,640		)
Proceeds from maturities/calls of investment securities held to maturity	290			3,416
Purchases of FHLB stock	—			(2,153		)
Redemptions of FHLB stock	377			—
Loan participations sold	3,419			1,787
Loan originations, net of repayments	(22,257		)	(53,514		)
Proceeds from sales of repossessed assets	1,700			471
Proceeds from sales of office properties and equipment	251			—
Purchases of office properties and equipment	(1,303		)	(2,000		)
Net cash used in investing activities	(20,648		)	(53,633		)
FINANCING ACTIVITIES:
Net increase in deposits	19,123			2,594
Advances from FHLB	55,000			88,423
Repayment of advances from FHLB	(44,788		)	(38,128		)
Net decrease in advance payments by borrowers for taxes and insurance	(397		)	(238		)
Purchase of treasury stock	(3,267		)	(5,215		)
Reissued treasury stock	743			1,667
Dividends paid	(1,414		)	(1,215		)
Net cash provided by financing activities	25,000			47,888
Net increase (decrease) in cash and cash equivalents	4,703			(1,956		)

(Continued)

4

	Six Months Ended June 30,
	2006		2005
CASH AND CASH EQUIVALENTS:
Beginning of period	$	21,109	$	16,003
End of period	$	25,812	$	14,047
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid for:
Interest	$	12,789	$	8,467
Income taxes	$	1,371	$	1,132
SUPPLEMENTAL SCHEDULE OF NONCASH INVESTING ACTIVITIES:
Real estate and other assets acquired in settlement of loans	$	1,328	$	233
Loans to facilitate sales of real estate owned	$	—	$	—
Investment securities traded, recorded in investments not yet settled in cash	$	1,000	$	1,000

(Concluded)

See notes to unaudited consolidated financial statements.

5

FIRST FEDERAL BANCSHARES OF ARKANSAS, INC.

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

Note 1 - Basis of Presentation and Principles of Consolidation

First Federal Bancshares of Arkansas, Inc. (the “Company”) is a unitary holding company which owns all of the stock of First Federal Bank (the “Bank”).  The Bank provides a broad line of financial products to individuals and small- to medium-sized businesses.  The unaudited consolidated financial statements also include the accounts of the Bank’s wholly-owned subsidiary, First Harrison Service Corporation (“FHSC”), which is inactive.

The accompanying unaudited consolidated financial statements of the Company have been prepared in accordance with instructions to Form 10-Q.  Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements.  However, such information reflects all adjustments which are, in the opinion of management, necessary for a fair statement of results for the interim periods.

The accompanying unaudited consolidated financial statements include the accounts of the Company and the Bank.  All material intercompany transactions have been eliminated in consolidation.

The results of operations for the six months ended June 30, 2006, are not necessarily indicative of the results to be expected for the year ending December 31, 2006.  The unaudited consolidated financial statements and notes thereto should be read in conjunction with the audited financial statements and notes thereto for the year ended December 31, 2005, contained in the Company’s 2005 Annual Report to Stockholders.

Certain amounts in the June 30, 2005, unaudited consolidated financial statements have been reclassified to conform to the classifications adopted for reporting in 2006.

Note 1 - Recently Adopted Accounting Standard

We adopted SFAS No. 123(R), Share-Based Payment, as of January 1, 2006, using the modified prospective approach.  The adoption of this Statement did not have a material effect on the financial statements of the Company nor is it expected to have a material effect on any future periods.

Note 2 - Earnings per Share

The weighted average number of common shares used to calculate earnings per share for the periods ended June 30, 2006 and 2005 were as follows:

	Three months ended June 30,		Six months ended June 30,
	2006	2005	2006	2005
Basic weighted - average shares	5,024,563	4,975,893	5,028,420	4,981,529
Effect of dilutive securities	118,702	250,552	130,796	265,657
Diluted weighted - average shares	5,143,265	5,226,445	5,159,216	5,247,186

6

MANAGEMENT’S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

CRITICAL ACCOUNTING POLICIES

Various elements of our accounting policies, by their nature, are inherently subject to estimation techniques, valuation assumptions and other subjective assessments.  In particular, the methodology for the determination of our allowance for loan losses, due to the judgments, estimates and assumptions inherent in that policy, is critical to preparation of our financial statements.  This policy and the judgments, estimates and assumptions are described in greater detail in subsequent sections of Management’s Discussion and Analysis and in the notes to the unaudited financial statements included herein.  We believe that the judgments, estimates and assumptions used in the preparation of our financial statements are appropriate given the factual circumstances at the time.  However, given the sensitivity of our financial statements to this critical accounting policy, the use of other judgments, estimates and assumptions could result in material differences in our financial condition or results of operations.

In estimating the amount of credit losses inherent in our loan portfolio, various judgments and assumptions are made.  For example, when assessing the condition of the overall economic environment, assumptions are made regarding future market conditions and their impact on the loan portfolio.  In the event the local or national economy were to sustain a prolonged downturn, the loss factors applied to our portfolios may need to be revised, which may significantly impact the measurement of the allowance for loan losses.  For impaired loans that are collateral-dependent, the estimated fair value of the collateral may deviate significantly from the proceeds received when the collateral is sold.

CHANGES IN FINANCIAL CONDITION

Changes in financial condition between June 30, 2006 and December 31, 2005 are presented in the following table (dollars in thousands).  Material changes between the periods are discussed in the sections which follow the table.

	June 30, 2006		December 31, 2005		Increase (Decrease)			Percentage Change
ASSETS
Cash and cash equivalents	$	25,812	$	21,109	$	4,703		22.3	%
Investment securities held to maturity	60,534		56,695		3,839			6.8	%
Federal Home Loan Bank stock	8,228		8,412		(184		)	(2.2	)%
Loans receivable, net	738,665		719,214		19,451			2.7	%
Accrued interest receivable	9,627		7,490		2,137			28.5	%
Office properties and equipment, net	19,172		18,522		650			3.5	%
Prepaid expenses and other assets	21,028		20,969		59			0.3	%
TOTAL	$	883,066	$	852,411	$	30,655		3.6	%
LIABILITIES AND STOCKHOLDERS’ EQUITY
LIABILITIES:
Deposits	$	630,790	$	611,667	$	19,123		3.1	%
Federal Home Loan Bank advances	168,452		158,240		10,212			6.5	%
Other liabilities	4,854		4,662		192			4.1	%
Total liabilities	804,096		774,569		29,527			3.8	%
STOCKHOLDERS’ EQUITY	78,970		77,842		1,128			1.5	%
TOTAL	$	883,066	$	852,411	$	30,655		3.6	%
BOOK VALUE PER SHARE	$	15.73	$	15.42
EQUITY TO ASSETS	8.9%		9.1%

7

Loans Receivable.  Changes in loan composition between June 30, 2006 and December 31, 2005 are presented in the following table (dollars in thousands).

	June 30, 2006			December 31, 2005			Increase (Decrease)			Percentage Change
One- to four-family residences	$	263,628		$	269,660		$	(6,032	)
Multi-family	12,085			12,900			(815		)
Commercial real estate	120,342			119,323			1,019
Land	39,879			38,355			1,524
Construction:
One-to four-family residences	45,704			51,579			(5,875		)
Speculative one-to four-family residences	106,997			104,001			2,996
Multi-family	19,237			20,919			(1,682		)
Commercial real estate	23,998			22,331			1,667
Land development	50,010			40,232			9,778
Total first mortgage loans	681,880			679,300			2,580			0.4	%
Commercial	36,702			32,693			4,009			12.3	%
Home equity and second mortgage	53,993			49,680			4,313
Automobile	13,433			15,748			(2,315		)
Other	13,783			13,149			634
Total consumer	81,209			78,577			2,632			3.3	%
Total loans receivable	799,791			790,570			9,221			1.2	%
Less:
Undisbursed construction loan funds	(58,686		)	(69,086		)	10,400
Unearned discounts and net deferred loan fees	8			(156		)	164
Allowance for loan losses	(2,448		)	(2,114		)	(334		)
Loans receivable, net	$	738,665		$	719,214		$	19,451		2.7	%

The growth in the Bank’s loan portfolio was primarily due to a $17.3 million increase in construction loans, including undisbursed construction loan funds, resulting from opportunities afforded by the economic growth in the Northwest Arkansas area. However, loan growth in the first and second quarters of 2006 occurred at a slower rate than in previous quarters, with annualized loan growth as of June 30, 2006 of 5.4% compared to actual loan growth for the year ended December 31, 2005 of 13.4%.

The Bank will continue to emphasize commercial real estate lending, construction lending, and commercial lending to take advantage of market opportunities in these types of loans, as well as to provide opportunities to cross-sell its other banking products, as long as prudent lending opportunities are available.  The Bank also emphasizes originations of single-family loans for sale in the secondary market in order to generate non-interest income.  Originations of single-family loans for sale in the secondary market increased from $24.1 million for the six months ended June 30, 2005, to $35.7 million for the six months ended June 30, 2006.

8

Asset Quality.  The following table sets forth the amounts and categories of the Bank’s nonperforming assets at the dates indicated.

	June 30, 2006		December 31, 2005
	(Dollars in Thousands)
Nonaccrual loans:
One- to four-family residential	$	2,628	$	2,630
Construction loans	2,040		1,177
Commercial real estate	—		707
Commercial loans	268		236
Consumer loans	1,248		556
Total nonaccrual loans	6,184		5,306
Accruing loans 90 days or more past due	1,232		1,600
Restructured loans	6,221		6,264
Real estate owned	569		892
Total nonperforming assets	$	14,206	$	14,062
Total nonaccrual, accruing loans 90 days or more past due and restructured loans as a percentage of total loans receivable	1.70%		1.67%
Total nonperforming assets as a percentage of total assets	1.61%		1.65%

The increase in nonaccrual loans of approximately $878,000 is primarily due to increases in the construction and consumer loan categories.  This increase includes two borrowers with loans totaling $1.4 million.

One borrower is a builder with speculative construction loans on two properties totaling $822,000.  We have estimated losses on these properties based on estimated costs to complete the homes and the most recent appraisals and as a result have provided $285,000 of specific loan loss allowances against these loans.

The other borrower has loans totaling $589,000 on a primary residence and two duplexes.  We have commenced foreclosure proceedings on the properties.  Based on the appraised values of the properties, we estimate that we will incur no loss on the sale of these properties.

At June 30, 2006 and December 31, 2005, restructured loans consisted of commercial and commercial real estate loans to two borrowers.  At June 30, 2006, $3.5 million of the restructured loans were current and $2.7 million were over 60 days past due.  Based on facts and circumstances at June 30, 2006, including market conditions, we believe we will not incur a loss on either relationship.

9

Allowance for Loan Losses.  A summary of the activity in the allowance for loan losses is as follows (in thousands):

	Three Months Ended June 30,						Six Months Ended June 30,
	2006			2005			2006			2005
Balance at beginning of period	$	2,251		$	1,950		$	2,114		$	1,846
Provisions for estimated losses	359			287			643			536
Recoveries	37			25			85			51
Losses charged off	(199		)	(240		)	(394		)	(411		)
Balance at end of period	$	2,448		$	2,022		$	2,448		$	2,022

Changes in the composition of the allowance for loan losses between June 30, 2006 and December 31, 2005 are presented in the following table (in thousands):

	June 30, 2006		December 31, 2005		Increase (Decrease)
General	$	1,899	$	1,831	$	68
Specific	486		183		303
Unallocated	63		100		(37		)
	$	2,448	$	2,114	$	334

The general component of the allowance for loan losses increased due to loan growth.  The specific component of the allowance for loan losses increased primarily due to specific allowances on speculative single-family construction loans on four properties.

The allowance for loan losses is evaluated on a regular basis by management and is based upon management’s periodic review of the collectibility of the loans in light of historical experience, the nature and volume of the loan portfolio, adverse situations that may affect the borrower’s ability to repay, the estimated value of any underlying collateral and prevailing economic conditions.  This evaluation is inherently subjective as it requires estimates that are susceptible to significant revision as conditions change and more information becomes available.

The allowance consists of specific, general and unallocated components. The specific component relates to loans that are classified as loss, doubtful, substandard or special mention. For such loans that are also 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 non-classified loans and is based primarily on historical loss experience. 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.

The Bank reviews its non-homogeneous loans for impairment on a quarterly basis.  The Bank considers commercial real estate, construction, multi-family, and commercial loans to be non-homogeneous loans.  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, the loan’s obtainable market price, or the fair value of the collateral if the loan is collateral dependent.

10

Large groups of smaller balance homogeneous loans are collectively evaluated for impairment.  Accordingly, the Bank does not separately identify individual consumer and residential loans for impairment disclosures.  Homogeneous loans are those that are considered to have common characteristics that provide for evaluation on an aggregate or pool basis.  The Bank considers the characteristics of (1) one- to- four family residential first mortgage loans; (2) unsecured consumer loans; and (3) collateralized consumer loans to permit consideration of the appropriateness of the allowance for losses of each group of loans on a pool basis.  The primary methodology used to determine the appropriateness of the allowance for losses includes segregating certain specific, poorly performing loans based on their performance characteristics from the pools of loans as to type, valuing these loans, and then applying a loss factor to the remaining pool balance based on several factors, including past loss experience, inherent risks, and economic conditions in the primary market areas.

In estimating the amount of credit losses inherent in our loan portfolio, various judgments and assumptions are made.  For example, when assessing the condition of the overall economic environment, assumptions are made regarding future market conditions and their impact on the loan portfolio.  In the event the national economy were to sustain a prolonged downturn, the loss factors applied to our portfolios may need to be revised, which may significantly impact the measurement of the allowance for loan losses.  For impaired loans that are collateral-dependent, the estimated fair value of the collateral may deviate significantly from the proceeds received when the collateral is sold.

Although we consider the allowance for loan losses of approximately $2.4 million appropriate and adequate to cover losses inherent in our loan portfolio at June 30, 2006, no assurance can be given that we will not sustain loan losses that are significantly different from the amount provided, or that subsequent evaluations of the loan portfolio, in light of factors then prevailing, would not result in a significant change in the allowance for loan losses.

Investment Securities.  Changes in the composition of investment securities held to maturity between June 30, 2006 and December 31, 2005 are presented in the following table (in thousands).

	June 30, 2006		December 31, 2005		Increase (Decrease)
U.S. Government and agency obligations	$	44,038	$	40,034	$	4,004
Municipal securities	16,496		16,661		(165		)
Total	$	60,534	$	56,695	$	3,839

During the first six months of 2006, investment securities totaling $4.1 million were purchased and $290,000 matured or were called.

At June 30, 2006, estimated fair values of investment securities held to maturity were as follows (in thousands):

	Amortized Cost		Fair Value
U.S. Government and agency obligations	$	44,038	$	41,857
Municipal securities	16,496		16,274
Total	$	60,534	$	58,131

Accrued Interest Receivable.   The increase in accrued interest receivable was primarily due to an increase in the number of days accrued as well as an increase in the loan yield at June 30, 2006 compared to December 31, 2005.

11

Deposits.  Changes in the composition of deposits between June 30, 2006 and December 31, 2005 are presented in the following table (dollars in thousands).

	June 30, 2006		December 31, 2005		Increase (Decrease)			Percentage Change
DDA and NOW accounts	$	141,235	$	125,397	$	15,838		12.6	%
Money Market accounts	56,348		64,021		(7,673		)	(12.0	)%
Savings accounts	30,173		30,521		(348		)	(1.1	)%
Certificates of deposit	403,034		391,728		11,306			2.9	%
Total deposits	$	630,790	$	611,667	$	19,123		3.1	%

Deposits increased in the comparison period, primarily due to an increase in public unit accounts, focused marketing efforts to increase checking accounts and the offering of CD specials.  During the period, DDA and NOW account balances increased by $15.8 million and the number of such accounts increased by 3.1%.  The Bank will continue to aggressively promote checking accounts by targeting households and small- and medium-sized business accounts with its direct mail campaign and “thank you” gifts.   Checking accounts are an attractive source of funds for the Bank as they offer low-interest deposits, fee income potential, and the opportunity to cross-sell other financial services.

Certificates of deposit have continued to increase as interest rates continue to rise.  Further, the Bank has advertised several CD products with special rates and terms ranging from 7 to 40 months.  The cost of deposit funds increased from 2.85% at December 31, 2005 to 3.24% at June 30, 2006.

Federal Home Loan Bank Advances.  The Bank experienced growth of $10.2 million or 6.5% in FHLB of Dallas advances during the first six months of 2006.  The advances were used primarily to fund loan growth during the year.  The balance of advances at June 30, 2006 of $168.5 million consisted of $104.7 million of fixed rate advances with an average cost of 4.2% and $63.8 million of floating rate advances with an average cost of 5.3%.

Stockholders’ Equity.  Stockholders’ equity increased $1.1 million from December 31, 2005 to June 30, 2006.  The increase in stockholders’ equity was primarily due to net income of $4.3 million and the issuance of treasury stock due to proceeds received from the exercise of stock options of $743,000, offset by the purchase of treasury stock totaling $3.3 million during the first six months of 2006.  In addition, during the six months ended June 30, 2006, cash dividends of $1.4 million were paid.  See the Unaudited Consolidated Statement of Stockholders’ Equity for the six months ended June 30, 2006 for more detail.

12

Average Balance Sheets

The following table sets forth certain information relating to the Company’s average balance sheets and reflects the average yield on assets and average cost of liabilities for the periods indicated and the yields earned and rates paid at June 30, 2006.  Such yields and costs are derived by dividing income or expense by the average balance of assets or liabilities, respectively, for the periods presented and outstanding balances at June 30, 2006.  Average balances are based on daily balances during the period.

	June 30,		Three Months Ended June 30,
	2006		2006						2005
	Yield/Cost		Average Balance		Interest		Average Yield/ Cost		Average Balance		Interest		Average Yield/ Cost
	(Dollars in Thousands)
Interest-earning assets:
Loans receivable(1)	7.13	%	$	740,135	$	12,849	6.94	%	$	678,547	$	10,266	6.05	%
Investment securities(2)	4.83		67,136		810		4.82		61,237		710		4.64
Other interest-earning assets	5.14		6,624		78		4.70		3,529		25		2.86
Total interest-earning assets	6.92		813,895		13,737		6.75		743,313		11,001		5.92
Noninterest-earning assets			61,082						52,997
Total assets			$	874,977					$	796,310
Interest-bearing liabilities:
Deposits	3.24		630,727		4,926		3.12		589,009		3,480		2.36
FHLB advances	4.62		159,596		1,778		4.46		126,229		1,108		3.51
Total interest-bearing liabilities	3.53		790,323		6,704		3.39		715,238		4,588		2.57
Noninterest-bearing liabilities			5,989						5,155
Total liabilities			796,312						720,393
Stockholders’ equity			78,665						75,917
Total liabilities and stockholders’ equity			$	874,977					$	796,310
Net interest income					$	7,033					$	6,413
Net earning assets			$	23,572					$	28,075
Interest rate spread	3.39	%					3.36	%					3.35	%
Net interest margin							3.46	%					3.45	%
Ratio of interest-earning assets to interest-bearing liabilities							102.98	%					103.93	%

	Six Months Ended June 30,
	2006						2005
	Average Balance		Interest		Average Yield/ Cost		Average Balance		Interest		Average Yield/ Cost
	(Dollars in Thousands)
Interest-earning assets:
Loans receivable(1)	$	735,448	$	25,075	6.82	%	$	665,064	$	20,150	6.06	%
Investment securities(2)	66,128		1,576		4.77		61,510		1,408		4.58
Other interest-earning assets	7,667		175		4.54		2,939		39		2.64
Total interest-earning assets	809,243		26,826		6.63		729,513		21,597		5.92
Noninterest-earning assets	60,570						51,956
Total assets	$	869,813					$	781,469
Interest-bearing liabilities:
Deposits	622,495		9,371		3.01		585,715		6,764		2.31
FHLB advances	162,846		3,520		4.32		114,886		1,952		3.40
Total interest-bearing liabilities	785,341		12,891		3.28		700,601		8,716		2.49
Noninterest-bearing liabilities	6,183						5,164
Total liabilities	791,524						705,765
Stockholders’ equity	78,289						75,704
Total liabilities and stockholders’ equity	$	869,813					$	781,469
Net interest income			$	13,935					$	12,881
Net earning assets	$	23,902					$	28,912
Interest rate spread					3.35	%					3.43	%
Net interest margin					3.44	%					3.53	%
Ratio of interest-earning assets to interest-bearing liabilities					103.04	%					104.13	%

(1)Includes nonaccrual loans.

(2)Includes FHLB of Dallas stock.

13

Rate/Volume Analysis

The table below sets forth certain information regarding changes in interest income and interest expense of the Company for the periods indicated.  For each category of interest-earning assets and interest-bearing liabilities, information is provided on changes attributable to (i) changes in volume (changes in average volume multiplied by prior rate); (ii) changes in rate (change in rate multiplied by prior average volume); (iii) changes in rate-volume (changes in rate multiplied by the change in average volume); and (iv) the net change.

	Three Months Ended June 30, 2006 vs. 2005
	Increase (Decrease) Due to
	Volume		Rate		Rate/ Volume			Total Increase
	(In Thousands)
Interest income:
Loans receivable	$	932	$	1,514	$	137		$	2,583
Investment securities	68		29		3			100
Other interest-earning assets	22		16		15			53
Total interest-earning assets	1,022		1,559		155			2,736
Interest expense:
Deposits	247		1,119		80			1,446
FHLB advances	293		299		78			670
Total interest-bearing liabilities	540		1,418		158			2,116
Net change in net interest income	$	482	$	141	$	(3	)	$	620

	Six Months Ended June 30, 2006 vs. 2005
	Increase (Decrease) Due to
	Volume		Rate		Rate/ Volume			Total Increase
	(In Thousands)
Interest income:
Loans receivable	$	2,132	$	2,526	$	267		$	4,925
Investment securities	105		59		4			168
Other interest-earning assets	63		28		45			136
Total interest-earning assets	2,300		2,613		316			5,229
Interest expense:
Deposits	424		2,054		129			2,607
FHLB advances	815		531		222			1,568
Total interest-bearing liabilities	1,239		2,585		351			4,175
Net change in net interest income	$	1,061	$	28	$	(35	)	$	1,054

14

CHANGES IN RESULTS OF OPERATIONS

The table below presents a comparison of results of operations for the three months ended June 30, 2006 and 2005 (dollars in thousands).  Specific changes in captions are discussed in the sections which follow the table.

	Three Months Ended June 30,						Increase (Decrease)		Percentage Change
	2006			2005			2006 vs 2005		2006 vs 2005
Interest income:
Loans receivable	$	12,849		$	10,266		$	2,583	25.2	%
Investment securities	810			710			100		14.1	%
Other	78			25			53		212.0	%
Total interest income	13,737			11,001			2,736		24.9	%
Interest expense:
Deposits	4,926			3,480			1,446		41.6	%
Other borrowings	1,778			1,108			670		60.5	%
Total interest expense	6,704			4,588			2,116		46.1	%
Net interest income before provision for loan losses	7,033			6,413			620		9.7	%
Provision for loan losses	359			287			72		25.1	%
Net interest income after provision for loan losses	6,674			6,126			548		9.0	%
Noninterest income:
Deposit fee income	1,237			1,105			132		12.0	%
Gain on sale of loans	278			182			96		52.7	%
Other	570			437			133		30.4	%
Total noninterest income	2,085			1,724			361		20.9	%
Noninterest expenses:
Salaries and employee benefits	3,259			3,013			246		8.2	%
Net occupancy expense	582			506			76		15.0	%
Advertising and public relations	317			241			76		31.5	%
Other	1,220			1,219			1		0.1	%
Total noninterest expenses	5,378			4,979			399		8.0	%
Income before income taxes	3,381			2,871			510		17.8	%
Provision for income taxes	1,106			922			184		20.0	%
Net income	$	2,275		$	1,949		$	326	16.7	%
Basic earnings per share	$	0.45		$	0.39		$	0.06	15.4	%
Diluted earnings per share	$	0.44		$	0.37		$	0.07	18.9	%
Interest rate spread	3.36		%	3.35		%
Net interest margin	3.46		%	3.45		%
Full-time equivalents	303.8			261.5
Full-service offices	18			15

15

The table below presents a comparison of results of operations for the six months ended June 30, 2006 and 2005 (dollars in thousands).  Specific changes in captions are discussed in the sections which follow the table.

	Six Months Ended June 30,						Increase (Decrease)		Percentage Change
	2006			2005			2006 vs 2005		2006 vs 2005
Interest income:
Loans receivable	$	25,075		$	20,150		$	4,925	24.4	%
Investment securities	1,576			1,408			168		11.9	%
Other	175			39			136		348.7	%
Total interest income	26,826			21,597			5,229		24.2	%
Interest expense:
Deposits	9,371			6,764			2,607		38.5	%
Other borrowings	3,520			1,952			1,568		80.3	%
Total interest expense	12,891			8,716			4,175		47.9	%
Net interest income before provision for loan losses	13,935			12,881			1,054		8.2	%
Provision for loan losses	643			536			107		20.0	%
Net interest income after provision for loan losses	13,292			12,345			947		7.7	%
Noninterest income:
Deposit fee income	2,315			2,114			201		9.5	%
Gain on sale of loans	475			316			159		50.3	%
Other	1,612			864			748		86.6	%
Total noninterest income	4,402			3,294			1,108		33.6	%
Noninterest expenses:
Salaries and employee benefits	6,979			6,016			963		16.0	%
Net occupancy expense	1,171			1,005			166		16.5	%
Advertising and public relations	640			482			158		32.8	%
Other	2,610			2,373			237		10.0	%
Total noninterest expenses	11,400			9,876			1,524		15.4	%
Income before income taxes	6,294			5,763			531		9.2	%
Provision for income taxes	2,034			1,850			184		10.0	%
Net income	$	4,260		$	3,913		$	347	8.9	%
Basic earnings per share	$	0.85		$	0.79		$	0.06	7.6	%
Diluted earnings per share	$	0.83		$	0.75		$	0.08	10.7	%
Interest rate spread	3.35		%	3.43		%
Net interest margin	3.44		%	3.53		%
Average full-time equivalents	303.8			254.4
Full-service offices	18			15

16

Net Interest Income.  Net interest income is determined by the Company’s interest rate spread (i.e., the difference between the yields earned on its interest-earning assets and the rates paid on its interest-bearing liabilities) and the relative amounts of interest-earning assets and interest-bearing liabilities.

INTEREST INCOME AND INTEREST EXPENSE

Dollar changes in interest income and interest expense for the comparison periods are presented in the Rate/Volume Analysis table which appears on a previous page.

Interest Income.  The increase in interest income for the three and six month comparative periods was primarily due to an increase in the average balance of loans and an increase in the average yield earned on loans.  The increase in the average yield earned on loans was due to increased rates on new loans, particularly construction loans, in conjunction with recent increases in market interest rates.  The average balance of loans increased primarily due to increased construction loan origination activity.

Interest Expense.   The increase in interest expense for the three and six month comparative periods was primarily due to an increase in the average rate paid on deposits and an increase in the average balance of and rate paid on  FHLB advances.  The increase in the average rates paid on deposit accounts reflects both the shift in deposits from money market accounts to higher rate certificates of deposit as well as increases in market interest rates.  The average balance of FHLB advances increased due to advances being used to fund loan growth.  The rates paid on FHLB advances increased due to increases in market interest rates.

Provision for Loan Losses.  The provision for loan losses includes charges to maintain an allowance for loan losses adequate to cover probable credit losses related to specifically identified loans as well as probable credit losses inherent in the remainder of the loan portfolio that have been incurred as of the balance sheet date.  Such provision and the adequacy of the allowance for loan losses is evaluated quarterly by management of the Bank based on the Bank’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 and current economic conditions.

The increase in the provision for loan losses in the three and six month comparative periods was due primarily to an increase in specific loan loss allowances related to speculative construction loans.

Noninterest Income.  Deposit fee income increased for both the three and six month comparative periods as a result of the Bank’s continued promotion of Bounce ProtectionTM overdraft service as well as an increase in the number of checking accounts.  The number of checking accounts increased approximately 5.6% from June 30, 2005 to June 30, 2006.  The Bank plans to continue to aggressively promote checking accounts in 2006 through direct mail campaigns to expand its checking accounts and increase deposit fee income.

Gain on sale of loans increased for the three and six month comparative period due to an increase in volume of loans sold.

The increase in other noninterest income for the six month comparative period was primarily due to nonrecurring gains on the sales of two properties totaling approximately $528,000 during the first quarter.  These properties represented excess land and a building adjacent to two existing branches.

17

Noninterest Expense

Salaries and Employee Benefits.  The changes in the composition of this line item are presented below (in thousands):

	Three Months Ended June 30,				Increase (Decrease)			Six Months Ended June 30,				Increase (Decrease)
	2006		2005		2006 vs 2005			2006		2005		2006 vs 2005
Salaries	$	2,606	$	2,027	$	579		$	5,125	$	4,005	$	1,120
Payroll taxes	211		174		37			467		408		59
Insurance	173		153		20			344		300		44
ESOP (1)	—		495		(495		)	508		975		(467		)
401(k)	22		—		22			22		—		22
Stock compensation (2)	12		7		5			42		13		29
Defined benefit plan contribution	196		122		74			393		245		148
Other	39		35		4			78		70		8
Total	$	3,259	$	3,013	$	246		$	6,979	$	6,016	$	963

(1)Employee Stock Ownership Plan

(2)Includes stock options and Management Recognition and Retention Plan (“MRP”) expense.

The increases in salaries for the three and six months ended June 30, 2006 compared to the same periods in 2005, were due primarily to an increase in the number of employees and normal salary and merit increases.  Payroll taxes increased during the periods due to the increase in salaries.  The decreases in employee stock ownership plan expense during the three and six month comparative periods were due to the plan shares becoming fully allocated as of March 31, 2006.  Defined benefit plan expense increased due to an increase in the required contribution to our multi-employer plan primarily resulting from an increase in amortization cost.

The Company implemented a 401(k) Plan on June 1, 2006.  Employer matching of employee 401(k) contributions averages approximately 2.5% of salary expense compared to ESOP expense of approximately 20% of salary expense for the quarter ended March 31, 2006.

Net Occupancy Expense.  Net occupancy expense increased in the three and six month periods ended June 30 due to the opening of three new branches since the second quarter of 2005.

Advertising and Public Relations.  Advertising and public relations increased for the three and six months ended June 30, 2006, compared to the same periods in 2005, primarily due to increased costs in 2006 associated with the checking account marketing program, including direct mail, “thank you” gifts, marketing brochures, posters and billboards, and the business account marketing program that began in the second quarter of 2005.

Other Expenses.  The changes in the composition of this line item are presented below (in thousands):

	Three Months Ended June 30,				Increase (Decrease)			Six Months Ended June 30,				Increase
	2006		2005		2006 vs 2005			2006		2005		2006 vs 2005
Data processing expense	$	320	$	412	$	(92	)	$	764	$	752	$	12
Other	900		807		93			1,846		1,621		225
Total	$	1,220	$	1,219	$	1		$	2,610	$	2,373	$	237

Other expenses increased in the three and six month comparative periods due to expenses associated with the start up of new branches. Data processing expense decreased in the three month comparative period due to credits received in the second quarter of 2006 related to the renegotiation of the Bank’s contract with its service provider.  Similar credits were received in the first quarter of 2005, which explains why the six month period balances were comparable.

18

Income Taxes.  The increase in income tax expense for the three and six month comparable periods ended June 30 was primarily due to an increase in taxable income.

OFF-BALANCE SHEET ARRANGEMENTS

The Company, in the normal course of business, makes commitments to buy or sell assets or to incur or fund liabilities.  Commitments include, but are not limited to:

·the origination, purchase or sale of loans;

·the fulfillment of commitments under letters-of-credit, extensions of credit on home equity lines of credit, construction loans, and predetermined overdraft protection limits; and

·the commitment to fund withdrawals of certificates of deposit at maturity.

At June 30, 2006, the Bank’s off-balance sheet arrangements principally included lending commitments, which are described below.  At June 30, 2006, the Company had no interests in non-consolidated special purpose entities.

At June 30, 2006, commitments included:

·total approved commitments to originate loans amounting to $9.0 million, including $1.6 million of loans committed to sell;

·rate lock agreements with customers of $9.3 million, all of which have been locked with an investor;

·funded mortgage loans committed to sell of $5.3 million;

·unadvanced portion of construction loans of $58.7 million;

·unused lines of credit of $33.6 million;

·outstanding standby letters of credit of approximately $4.0 million;

·total predetermined overdraft protection limits of $10.9 million; and

·certificates of deposit scheduled to mature in one year or less totaling $276.7 million.

Total unfunded commitments to originate loans for sale and the related commitments to sell of $9.3 million meet the definition of a derivative financial instrument.  The related asset and liability are considered immaterial at June 30, 2006.

Historically, a very small percentage of predetermined overdraft limits have been used.  At June 30, 2006, overdrafts of accounts with Bounce ProtectionTM represented usage of 2.5% of the limit.  We expect utilization of these overdraft limits to remain at comparable levels in the future.

Based on historical experience, management believes that a significant portion of maturing deposits will remain with the Bank.  We anticipate that we will continue to have sufficient funds, through repayments, deposits and borrowings, to meet our current commitments.

LIQUIDITY AND CAPITAL RESOURCES

The Bank’s liquidity, represented by cash and cash equivalents and eligible investment securities, is a product of its operating, investing and financing activities.  The Bank’s primary sources of funds are deposits, borrowings, collections on outstanding loans, maturities and calls of investment securities and other short-term investments and funds provided from operations.  While scheduled loan amortization and maturing investment securities and short-term investments are relatively predictable sources of funds, deposit flows and loan prepayments are greatly influenced by general interest rates, economic conditions and competition.  The Bank manages the pricing of its deposits to maintain a steady deposit balance.  In addition, the Bank invests excess funds in overnight deposits and other short-term interest-earning assets which provide liquidity to meet lending requirements.  During 2006, the use of FHLB advances increased due to increased demand for the Bank’s loan products.  At June 30, 2006, available borrowing capacity with the FHLB was in excess of $111.7 million.

19

Liquidity management is both a daily and long-term function of business management.  Excess liquidity is generally invested in short-term investments such as overnight deposits and certificates of deposit.  On a longer-term basis, the Bank maintains a strategy of investing in various lending products.   The Bank uses its sources of funds primarily to meet its ongoing commitments, to pay maturing savings certificates and savings withdrawals, to repay maturing FHLB of Dallas advances, and to fund loan commitments.

As of June 30, 2006, the Bank’s regulatory capital was in excess of all applicable regulatory requirements.  At June 30, 2006, the Bank’s tangible, core and risk-based capital ratios amounted to 8.77%, 8.77% and 11.86%, respectively, compared to regulatory requirements of 1.5%, 4.0% and 8.0%, respectively.

IMPACT OF INFLATION AND CHANGING PRICES

The financial statements and related financial data presented herein have been prepared in accordance with generally accepted accounting principles, which require the measurement of financial position and operating results in terms of historical dollars, without considering changes in relative purchasing power over time due to inflation.

Unlike most industrial companies, virtually all of the Bank’s assets and liabilities are monetary in nature.  As a result, interest rates generally have a more significant impact on a financial institution’s performance than does the effect of inflation.

FORWARD-LOOKING STATEMENTS

The Company’s Quarterly Report on Form 10-Q contains certain forward-looking statements and information relating to the Company that are based on the beliefs of management as well as assumptions made by and information currently available to management.  In addition, in this document, the words “anticipate”, “believe,” “estimate,” “expect,” “intend,” “should” and similar expressions, or the negative thereof, as they relate to the Company or the Company’s management, are intended to identify forward-looking statements.  Such statements reflect the current views of the Company with respect to future looking events and are subject to certain risks, uncertainties and assumptions.  Should one or more of these risks or uncertainties materialize or should underlying assumptions prove incorrect, actual results may vary materially from those described herein as anticipated, believed, estimated, expected or intended.  The Company does not intend to update these forward-looking statements.

QUANTITATIVE AND QUALITATIVE DISCLOSURES
ABOUT MARKET RISK

There has been no material change in the market value of the Bank’s portfolio equity since December 31, 2005.  Similarly, while there has been no material change in the Company’s asset and liability position since such time, the Bank’s negative gap position has adversely impacted net income as interest expense during the six months ended June 30, 2006 increased at a greater pace than the comparable increase in interest income.  Correspondingly, the Bank’s net interest margin decreased from 3.53% for the six months ended June 30, 2005 to 3.44% for the same period in 2006.   Based on the current market interest rate environment and increased competition, management anticipates continued pressure on the Bank’s interest rate spread and interest margin for the third quarter of 2006.

CONTROLS AND PROCEDURES

Our management evaluated, with the participation of our Chief Executive Officer and Chief Financial Officer, the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e)) under the Securities Exchange Act of 1934) as of the end of the period covered by this report.  Based on such evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures are designed to ensure that information required to be disclosed by us in the reports that we file or submit under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and regulations and are operating in an effective manner.

No change in the Company’s internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f)) under the Securities Exchange Act) occurred during the most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

20

FIRST FEDERAL BANCSHARES OF ARKANSAS, INC.

Part II

Item 1.Legal Proceedings

Neither the Company nor the Bank is involved in any pending legal proceedings other than non-material legal proceedings occurring in the ordinary course of business.

Item 1A.Risk Factors

There have been no material changes in the Company’s risk factors from those previously disclosed in the Company’s Form 10-K for the year ended December 31, 2005.

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

ISSUER PURCHASES OF EQUITY SECURITIES

	(a) Total Number of Shares Purchased	(b) Average Price Paid per Share		(c) Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs	(d) Maximum Number of Shares that May Yet Be Purchased Under the Plans or Programs
April 1, to April 30, 2006	—	—		—	—
May 1, to May 31, 2006	—	—		—	—
June 1, to June 30, 2006	5,236	$	22.40	—	111,084

The Company is in its 18th announced repurchase program, which was approved by the board of directors on July 28, 2005, and publicly announced on December 2, 2005.  Total shares approved to be purchased in this program are 248,316 of which 137,232 have been purchased as of June 30, 2006.

Item 3.Defaults Upon Senior Securities

Not applicable.

21

Item 4.Submission of Matters to a Vote of Security Holders

On April 25, 2006, the Corporation held an annual meeting of stockholders for the following purposes:

(1)To elect two directors for a term of three years; and

(2)To ratify the appointment by the Board of Directors of Deloitte and Touche LLP as the Corporation’s independent auditors for the year ending December 31, 2006.

The results of the voting are set forth below:

Proposal One (Election of Director):

NAME	FOR	AGAINST/ WITHHELD	NOT VOTED
Jeffrey L. Brandt	4,150,864	37,756	891,490
John P. Hammerschmidt	4,147,790	40,830	891,490

Proposal Two (Ratification of Auditors):

FOR	AGAINST	ABSTAIN	NOT VOTED
4,175,113	1,611	11,896	891,490

Item 5.Other Information

None.

Item 6.Exhibits

Exhibit 31.1 — Certification of Chief Executive Officer,

Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (18 U.S.C. 1350)

Exhibit 31.2 — Certification of Chief Financial Officer,

Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (18 U.S.C. 1350)

Exhibit 32.1 — Certification of Chief Executive Officer,

Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (18 U.S.C. 1350)

Exhibit 32.2 — Certification of Chief Financial Officer,

Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (18 U.S.C. 1350)

22

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.

FIRST FEDERAL BANCSHARES OF ARKANSAS, INC.

Date: July 25, 2006	By:	/s/ Larry J. Brandt
		Larry J. Brandt CEO
Date: July 25, 2006	By:	/s/ Sherri R. Billings
		Sherri R. Billings CFO

23