Monarch Community Bancorp (MCBF) 10-Q 2007 Q3 Quarterly report

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

FORM 10-Q

þ Quarterly report under Section 13 or 15(d) of the Securities Exchange Act of 1934

For the quarterly period ended September 30, 2007

or

o Transition report under Section 13 or 15(d) of the Exchange Act

For the transition period from                    to                    

Commission file number: 000-49814

MONARCH COMMUNITY BANCORP, INC.

(Exact name of registrant as specified in its charter)

Maryland	04-3627031
(State or other jurisdiction	(I.R.S. employer
of incorporation or organization)	identification no.)

375 North Willowbrook Road, Coldwater, MI 49036
(Address of principal executive offices)

517-278-4566
(Registrant’s telephone number)

Indicate by check mark whether the registrant (1) filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the past 12 months (or for 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:þ No:o

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

Large accelerated filero      Accelerated filero      Non-accelerated filerþ

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes:o No:þ

State the number of shares outstanding of each of the issuer’s classes of common equity, as of the latest practical date: At November 8, 2007 there were 2,459,307 shares of the issuer’s Common Stock outstanding.

Monarch Community Bancorp, Inc.
Index

PART I – FINANCIAL INFORMATION
Item 1 – Condensed Financial Statements:
Condensed Consolidated Balance Sheets – September 30, 2007 and December 31, 2006	1
Condensed Consolidated Statements of Income – Nine Months Ended September 30, 2007 and 2006	2
Condensed Consolidated Statements of Changes in Stockholder’s Equity – Nine Months Ended September 30, 2007 and 2006	3
Condensed Consolidated Statements of Cash Flows – Nine Months Ended September 30, 2007 and 2006	4
Notes to Condensed Consolidated Financial Statements	5 - 7
Item 2 – Management’s Discussion and Analysis of Financial Condition and Results of Operations	7 - 13
Item 3 – Quantitative and Qualitative Disclosures about Market Risk	14
Item 4 - Controls and Procedures	14
PART II – OTHER INFORMATION
Item 1 – Legal Proceedings	15
Item 1A – Risk Factors	15
Item 2 – Unregistered Sales of Equity Securities and Use of Proceeds	15
Item 3 – Defaults Upon Senior Securities	15
Item 4 – Submission of Matters to a Vote of Security Holders	15
Item 5 – Other Information	15
Item 6 – Exhibits	15
SIGNATURES	16
CERTIFICATIONS	17-20
Certification of President and Chief Executive Officer
Certification of Chief Financial Officer
Section 1350 Certification

PART I—FINANCIAL INFORMATION

Item 1. CONDENSED FINANCIAL STATEMENTS

Condensed Consolidated Balance Sheets

	(Unaudited)
	September 30,			December 31,
	2007			2006
	(Dollars in thousands,
	except per share data)
Assets
Cash and due from banks		6,077		$	7,433
Federal Home Loan Bank overnight time and other interest bearing deposits		8,695			7,864
Total cash and cash equivalents		14,772			15,297
Securities — Available for sale		12,532			13,706
Securities — Held to maturity		213			228
Other securities		4,237			4,237
Real estate investment — Limited partnership, at equity		867			979
Loans held for sale		1,284			937
Loans, net		227,642			230,247
Foreclosed assets, net		2,470			1,680
Premises and equipment		4,798			5,261
Goodwill		9,606			9,606
Core deposit intangible		916			1,092
Other assets		6,338			6,717
Total assets	$	285,675		$	289,987
Liabilities and Stockholders’ Equity
Liabilities
Deposits:
Non-interest bearing	$	15,221		$	15,733
Interest bearing		166,270			176,839
Total deposits		181,491			192,572
Federal Home Loan Bank advances		60,476			54,476
Accrued expenses and other liabilities		2,524			2,953
Total liabilities		244,491			250,001
Commitments and Contingencies		—			—
Stockholders’ Equity
Common stock — $0.01 par value, 20,000,000 shares authorized, 2,530,277 shares issued and outstanding at September 30, 2007 and 2,533,781 shares issued and outstanding at December 31, 2006		25			25
Additional paid-in capital		26,218			26,191
Retained earnings		16,217			15,319
Accumulated other comprehensive income		(7	)		(63	)
Unearned compensation		(1,269	)		(1,486	)
Total stockholders’ equity		41,184			39,986
Total liabilities and stockholders’ equity	$	285,675		$	289,987

See accompanying notes to condensed consolidated financial statements.

1

Condensed Consolidated Statements of Income (Unaudited)

	Three Months		Three Months			Nine Months			Nine Months
	Ended		Ended			Ended			Ended
	Sept 30,		Sept 30,			Sept 30,			Sept 30,
	2007		2006			2007			2006
	(Dollars in thousands, except per share data)
Interest Income
Loans, including fees	$	4,102	$	4,150		$	12,251		$	11,806
Investment securities		193		190			605			598
Federal funds sold and overnight deposits		82		75			344			277
Total interest income		4,377		4,415			13,200			12,681
Interest Expense
Deposits		1,461		1,406			4,631			3,824
Federal Home Loan Bank advances		843		849			2,334			2,396
Total interest expense		2,304		2,255			6,965			6,220
Net Interest Income		2,073		2,160			6,235			6,461
Provision for Loan Losses		219		—			689			—
Net Interest Income After Provision for Loan Losses		1,854		2,160			5,546			6,461
Non-interest Income
Fees and service charges		653		580			1,881			1,617
Loan servicing fees		108		109			329			338
Net gain on sale of loans		139		59			470			219
Net gain (loss) on sale of securities		—		(20	)		(19	)		(20	)
Net gain (loss) on sale of fixed assets		71		—			71			—
Other income		69		15			277			144
Total non-interest income		1,040		743			3,009			2,298
Non-interest Expense
Salaries and employee benefits		1,065		1,215			3,205			3,702
Occupancy and equipment		250		256			763			770
Data processing		180		176			546			526
Amortization of mortgage servicing rights		92		88			265			293
Professional services		180		90			430			347
Amortization of core deposit intangible		54		68			176			223
NOW account processing		42		42			133			126
ATM/Debit card processing		51		64			144			183
Foreclosed property expense		86		83			125			238
Other general and administrative		266		356			862			1,035
Total non-interest expense		2,266		2,438			6,649			7,443
Income — Before income taxes		628		465			1,906			1,316
Income Taxes		157		133			477			338
Net Income	$	471	$	332		$	1,429		$	978
Earnings Per Share
Basic	$	0.19	$	0.14		$	0.59		$	0.39
Diluted	$	0.19	$	0.14		$	0.59		$	0.39

See accompanying notes to condensed consolidated financial statements.

2

Condensed Consolidated Statements of Changes in Stockholders’ Equity (Unaudited)

	Common Stock												Accumulated
	Number						Additional						Other
	of						Paid in			Retained			Comprehensive			Unearned
	Shares			Amount			Capital			Earnings			Income			Compensation			Total
Balance- January 1, 2006		2,710		$	27		$	28,150		$	14,401		$	(155	)	$	(1,847	)	$	40,576
Issuance of 3,884 shares of common stock at an average price of $12.03/share in connection with Restricted Stock Plan		4						46									(46	)		—
Vesting of restricted shares																	215			215
180,578 shares repurchased at $11.89/share		(180	)	$	(2	)		(2,145	)								—			(2,147	)
Stock option expenses								65												65
Comprehensive Income:
Net Income											978									978
Change in unrealized loss on securities available-for-sale,														65						65
Total comprehensive income																				1,043
Dividends paid ($0.12/share)		—			—			—			(478	)		—			—			(478	)
Balance- September 30, 2006		2,534		$	25		$	26,116		$	14,901		$	(90	)	$	(1,678	)	$	39,274
Balance- January 1, 2007		2,534		$	25		$	26,191		$	15,319		$	(63	)	$	(1,486	)	$	39,986
Vesting of restricted shares																	217			217
3,204 shares repurchased at $11.95/share		(3	)	$	—			(38	)											(38	)
Stock option expenses								65												65
Comprehensive Income:
Net Income											1,429									1,429
Change in unrealized loss on securities available-for-sale,														56						56
Total comprehensive income																				1,485
Dividends paid ($0.14/share)		—			—			—			(531	)		—			—			(531	)
Balance- September 30, 2007		2,531		$	25		$	26,218		$	16,217		$	(7	)	$	(1,269	)	$	41,184

See accompanying notes to condensed consolidated financial statements.

3

Condensed Consolidated Statements of Cash Flows (Unaudited)

	Nine Months Ended
	September, 30
	2007			2006
	(Dollars in thousands)
Cash Flows From Operating Activities
Net Income	$	1,429		$	978
Adjustments to reconcile net income to net cash from operating activities
Depreciation and amortization		826			953
Provision for loan losses		689			—
Stock option expense		65			65
(Gain) loss on sale of investments		—			20
Gain on sale of foreclosed assets		(131	)		11
Mortgage loans originated for sale		(20,548	)		(10,095	)
Proceeds from sale of mortgage loans		20,671			10,412
Gain on sale of mortgage loans		(470	)		(219	)
Loss on sale of available for sale securities		19			—
Earned stock compensation		217			215
Gain on disposal of equipment		(70	)		—
Net change in:
Deferred loan fees		10			(56	)
Accrued interest receivable		18			(95	)
Other assets		195			846
Accrued expenses and other liabilities		(422	)		637
Net cash provided by operating activities		2,498			3,672
Cash Flows From Investing Activities
Activity in available-for-sale securities:
Purchases		(3,819	)		(4,755	)
Proceeds from sales of securities		2,928			5,478
Proceeds from maturities of securities		2,091			—
Activity in held-to-maturity securities:
Purchases		—			(4	)
Proceeds from maturities of securities		15			10
Procceeds from redemption of FHLB stock		—			395
Loan originations and principal collections, net		393			(22,807	)
Proceeds from sale of foreclosed assets		846			2,542
Proceeds from sale of premises and equipment		283			—
Purchase of premises and equipment		(112	)		(104	)
Net cash provided by (used in) investing activities		2,625			(19,245	)
Cash Flows From Financing Activities
Net increase in deposits		(11,080	)		17,450
Repurchase of common stock		(37	)		(2,148	)
Dividends paid		(531	)		(478	)
Proceeds from FHLB advances		33,500			22,500
Repayment of FHLB advances		(27,500	)		(21,945	)
Net cash provided by financing activities		(5,648	)		15,379
Net Increase in Cash and Cash Equivalents		(525	)		(194	)
Cash and Cash Equivalents— Beginning		15,297			16,286
Cash and Cash Equivalents —End	$	14,772		$	16,092
Supplemental Cash Flow Information:
Cash paid for:
Interest		6,961			6,133
Income taxes		600			—
Noncash investing activities:
Loans transferred to foreclosed assets		1,513			1,997
Issuance of common stock in connection with the 2003 RRP		—			46

See accompanying notes to condensed consolidated financial statements.

4

MONARCH COMMUNITY BANCORP, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

ORGANIZATION

Monarch Community Bancorp, Inc. (the “Corporation”) was incorporated in 2002 under Maryland law to hold all of the common stock of Monarch Community Bank (the “Bank”), formerly known as Branch County Federal Savings and Loan Association. The Bank converted to a stock savings institution effective August 29, 2002. In connection with the conversion, the Corporation sold 2,314,375 shares of its common stock in a subscription offering.

Monarch Community Bank provides a broad range of banking services to its primary market area of Branch, Calhoun and Hillsdale counties in Michigan. The Bank operates five full service offices and one drive-through only office. The Bank owns 100% of First Insurance Agency. First Insurance Agency is a licensed insurance agency established to allow for the receipt of fees on insurance services provided to the Bank’s customers. The Bank also owns a 24.98% interest in a limited partnership formed to construct and operate multi-family housing units.

BASIS OF PRESENTATION

The condensed consolidated financial statements of the Corporation include the accounts of Monarch Community Bank and First Insurance Agency. All significant intercompany balances and transactions have been eliminated in consolidation. The condensed consolidated financial statements for interim periods are unaudited; however, in the opinion of the Corporation’s management, all adjustments, consisting only of normal recurring accruals, necessary for a fair presentation of the Corporation’s financial position and results of operations have been included.

The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements. Actual results could differ from those estimates and assumptions.

The accompanying financial statements have been prepared in accordance with the instructions for Form 10-Q and, therefore, do not include all information and footnotes required by generally accepted accounting principles in annual consolidated financial statements. These condensed consolidated financial statements should be read in conjunction with the Corporation’s Form 10-K for the year ended December 31, 2006 filed with the Securities and Exchange Commission.

The results of operations for the nine month period ended September 30, 2007 are not necessarily indicative of the results to be expected for the full year period.

ALLOWANCE FOR LOAN LOSSES

The appropriateness of the allowance for loan losses is reviewed by management based upon our evaluation of then-existing economic conditions affecting our key lending areas and other conditions, such as credit quality trends (including trends in delinquencies, nonperforming loans and foreclosed assets expected to result from existing conditions), collateral values, loan volumes and concentrations, specific industry conditions within portfolio segments and recent loss experience in particular segments of the portfolio that existed as of the balance sheet date and the impact that these conditions were believed to have had on the collectibility of the loan. Senior management reviews these conditions at least quarterly.

To the extent that any of these conditions is evidenced by a specifically identifiable problem credit or portfolio segment as of the evaluation date, management’s estimate of the effect of this condition may be reflected as a specific allowance applicable to this credit or portfolio segment.

The allowance for loan losses is based on estimates of losses inherent in the loan portfolio. Actual losses can vary significantly from the estimated amounts. Our methodology as described permits adjustments to any loss factor used in the computation of the formula allowance in the event that, in management’s judgment, significant factors which affect the collectibility of the portfolio as of the evaluation date are not reflected in the loss factors. By assessing the estimated losses inherent in the loan portfolio on a quarterly basis, we are able to adjust specific and inherent loss estimates based upon any more recent information that has become available.

RECLASSIFICATIONS

Certain 2006 amounts have been reclassified to conform to the 2007 presentation.

5

EARNINGS PER SHARE

A reconciliation of the numerators and denominators used in the computation of the basic earnings per share and diluted earnings per share is presented below (000s omitted except per share data):

	Three Months			Three Months			Nine Months			Nine Months
	Ended			Ended			Ended			Ended
	September 30, 2007			September 30, 2006			September 30, 2007			September 30, 2006
Basic earnings per share
Numerator:
Net income	$	471		$	332		$	1,429		$	978
Denominator:
Weighted average common shares outstanding		2,531			2,627			2,532			2,657
Less: Average unallocated ESOP shares		(93	)		(111	)		(93	)		(111	)
Less: Average non-vested RRP shares		(28	)		(60	)		(35	)		(59	)
Weighted average common shares outstanding for basic earnings per share		2,410			2,456			2,404			2,487
Basic earnings per share	$	0.19		$	0.14		$	0.59		$	0.39
Diluted earnings per share
Numerator:
Net income	$	471		$	332		$	1,429		$	978
Denominator:
Weighted average common shares outstanding for basic earnings per share		2,410			2,456			2,404			2,487
Add: Dilutive effects of restricted stock and stock options		—			—			—			—
Weighted average common shares and dilutive potential common shares outstanding		2,410			2,456			2,404			2,487
Diluted earnings per share	$	0.19		$	0.14		$	0.59		$	0.39

RECENT ACCOUNTING PRONOUNCEMENTS

None.

6

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion and analysis should be read in conjunction with the condensed consolidated financial statements of the Corporation and the accompanying notes.

The Corporation is not aware of any market or institutional trends, events, or circumstances that will have or are likely to have a material effect on liquidity, capital resources, or results of operations except as discussed herein. Also, the Corporation is not aware of any current recommendations by regulatory authorities that will have such effect if implemented.

FORWARD-LOOKING STATEMENTS

In addition to historical information, the following discussion contains “forward-looking statements” that involve risks and uncertainties. All statements regarding the expected financial position, business and strategies are forward-looking statements and the Corporation intends for them to be covered by the safe harbor provisions for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995. The words “anticipates,” “believes,” “estimates,” “seeks,” “expects,” “plans,” “intends,” and similar expressions, as they relate to the Corporation or management, are intended to identify forward-looking statements. The Corporation believes that the expectations reflected in these forward-looking statements are reasonable based on our current beliefs and assumptions; however, these expectations may prove to be incorrect.

Factors which could have a material adverse effect on our operations include, but are not limited to, changes in interest rates, changes in the relative difference between short and long-term interest rates, general economic conditions, legislative/regulatory changes, monetary and fiscal policies of the U.S. Government, including policies of the U.S. Treasury and the Federal Reserve Board, the quality or composition of the loan or investment portfolios, including levels of non-performing assets, demand for loan products, deposit flows, competition, demand for financial services in our market area, our operating costs and accounting principles and guidelines. These risks and uncertainties should be considered in evaluating forward-looking statements and you should not rely too much on these statements.

CRITICAL ACCOUNTING POLICIES

The nature of the financial services industry is such that, other than described below, the use of estimates and management judgment is not likely to present a material risk to the financial statements. In cases where estimates or management judgment are required, internal controls and processes are established to provide assurance that such estimates and management judgments are materially correct to the best of management’s knowledge.

Allowance for Loan Losses. Accounting for loan classifications, accrual status, and determination of the allowance for loan losses is based on regulatory guidance. This guidance includes, but is not limited to, generally accepted accounting principles, the uniform retail credit classification and account management policy issued by the Federal Financial Institutions Examination Council, the Interagency Policy Statement on the Allowance for Loan and Lease Losses issued by the Federal Financial Institutions Examination Council and guidance issued by the Securities and Exchange Commission. Accordingly, the allowance for loan losses includes a reserve calculation based on an evaluation of loans determined to be impaired, risk ratings, historical losses, loans past due, collateral values and cost of disposal and other subjective factors.

Foreclosed Assets.Assets acquired through, or in lieu of, loan foreclosure are held for sale and are initially recorded at fair value at the date of the foreclosure, establishing a new cost basis. Subsequent to foreclosure, valuations are periodically performed by management and the assets are carried at the lower of carrying amount or fair value less estimated selling expenses, which consist primarily of commissions that will be paid to an independent real estate agent upon sale of the property. Revenue and expenses from operations and changes in the valuation allowance are included in net expenses from foreclosed assets.

Goodwill and Other Intangible Assets. Goodwill represents the excess of the cost of an acquisition over the fair value of net identifiable tangible and intangible assets acquired. Under the provisions of SFAS 142, goodwill is no longer amortized into the income statement over an estimated life, but rather is tested at least annually for impairment. Impairment of goodwill is evaluated by reporting unit and is based on a comparison of the recorded balance of goodwill to the applicable market value or discounted cash flows. To the extent that impairment may exist, the current carrying amount is reduced by the estimated shortfall. Intangible assets which have finite lives are amortized over their estimated useful lives and are subject to impairment testing.

7

FINANCIAL CONDITION

Assets

Total assets decreased 1.5%, to $285.7 million at September 30, 2007 compared to $290.0 million at December 31, 2006. Management attributes this decrease to a reduction in the loan portfolio as a result of efforts to originate mortgage loans to be sold in the secondary market and the brokering of loans to third parties.

Securities

Securities decreased to $12.7 million at September 30, 2007 compared to $13.9 million at December 31, 2006. The decrease was attributable to the maturity and sales of $5.0 million in securities which was offset by purchases of $3.8 million in securities.

Loans

The Bank’s net loan portfolio decreased by $2.6 million, or 1.1%, from $230.2 million at December 31, 2006 to $227.6 million at September 30, 2007. The following table presents information concerning the composition of our loan portfolio in dollar amounts and in percentages as of the dates indicated:

	September 30, 2007					December 31, 2006
	Amount		Percent			Amount		Percent
	(Dollars in thousands)
Real Estate Loans:
One-to-four family	$	128,904		56.0		$	141,679		60.8	%
Multi-family		5,622		2.5			6,008		2.6
Commercial		56,211		24.4			44,513		19.1
Construction or development		7,360		3.2			9,529		4.1
Total real estate loans		198,097		86.1			201,729		86.6
Other loans:
Consumer loans:
Automobile		1,014		0.4			1,509		0.6
Home equity		20,600		9.0			19,077		8.3
Manufactured housing		419		0.2			495		0.2
Other		6,043		2.6			7,083		3.0
Total consumer loans		28,076		12.2			28,164		12.1
Commercial Business Loans		3,906		1.7			2,969		1.3
Total other loans		31,982		13.9			31,133		13.4
Total Loans		230,079		100.0	%		232,862		100.0	%
Less:
Allowance for loan losses		1,864					2,024
Net deferred loan fees		573					591
Loans in process		—					—
Total Loans, net	$	227,642				$	230,247

One-to-four family loans decreased $12.8 million represented by an $8.6 million decrease in adjustable rate mortgages and a $4.2 million decrease in all other mortgages (including fixed rate and balloon mortgages). This is the result of the Bank focusing its residential lending efforts on originating loans to be sold on the secondary market or brokered to third parties. The decrease in mortgage loans is partially offset by an increase of $11.7 million in commercial real estate loans. The Bank expects future loan growth to come primarily from commercial real estate lending. Commercial business loans increased $937,000, or 32%. While the current level of commercial business loans is relatively small, the Bank expects to increase its portfolio of these types of loans as opportunities within its market area present themselves.

The allowance for loan losses was $1,864,000 at September 30, 2007 and $2,024,000 at December 31, 2006, a decrease of $160,000. This is due to provisions for loan losses during the first nine months of 2007 ($689,000) offsetting net charge offs ($849,000). See “Provision for Loan Losses” below for further explanation regarding charge-offs and the allowance for loan losses.

8

Deposits

Total deposits decreased $11.1 million, or 5.8%, from $192.6 million at December 31, 2006 to $181.4 million at September 30, 2007. The decrease can be attributed to a $12.7 million decrease in certificates of deposit and a $2.7 million decrease in savings accounts offset by increases of $4.4 million in money markets. The decrease in certificates of deposit was primarily a result of less reliance on brokered deposits and additional borrowings. Brokered deposits have been managed to provide additional liquidity or reduce excess liquidity depending on current conditions. Management expects future deposit growth to come from increased sales and marketing efforts to attract lower cost local savings and checking accounts as well as product enhancement.

Federal Home Loan Bank Advances

Total Federal Home Loan Bank (FHLB) advances increased from $54.5 million at December 31, 2006 to $60.5 million at September 30, 2007. Repayments were offset by additional borrowings necessitated by the decrease in brokered deposits as mentioned above. Management is attempting to reduce its reliance on borrowed funds through the growth of core deposits. Should this strategy not succeed, management anticipates the need for future borrowings to fund loan growth. See “Net Interest Income” below, and also see “Liquidity” later in this report regarding available borrowings.

Equity

Total equity was $41.2 million at September 30, 2007 compared to $40.0 million at December 31, 2006. This represents 14.4% and 13.8% of total assets at September 30, 2007 and December 31, 2006, respectively. The increase in equity primarily resulted from $1,429,000 in year-to-date net income offsetting $531,000 in dividend payments. Management considers its equity position to be excessive and intends to reduce equity thru future dividends and stock repurchases.

RESULTS OF OPERATIONS

Net Interest Income

Net interest income before the provision for loan losses for the three months ended September 30, 2007 decreased $87,000, or 4.0%, compared to the same period one year ago. The Bank’s net interest margin decreased to 3.26% for the three months ended September 30, 2007 from 3.38% for the three months ended September 30, 2006 as a result of the Bank’s cost of funds increasing more than its yields on earning assets. Interest income from loans represented 93.7% of total interest income for the quarter ended September 30, 2007 compared to 94.0% for the same period in 2006.

Net interest income before the provision for loan losses for the nine months ended September 30, 2007 decreased $226,000, or 3.5%, compared to the same period one year ago. The decrease came primarily from an $807,000 increase in deposit interest expense offset by a $519,000 increase in total interest income and a $62,000 decrease in interest expense on FHLB advances. The Bank’s net interest margin decreased to 3.26% for the nine months ended September 30, 2007 from 3.44% for the nine months ended September 30, 2006 as our deposit and borrowing costs increased more than our asset yields.

Our net interest margin decreased primarily from offering certificates of deposit and money market accounts at higher interest rates than could be offset by increasing asset yields. Interest income from loans represented 92.8% of total interest income for the nine months ended September 30, 2007 compared to 93.1% for the same period in 2006. The Bank’s ability to maintain its net interest margin is heavily dependent on future loan demand and its ability to attract core deposits to offset the effect of higher cost certificates of deposit and borrowings.

9

The following table presents, for the periods indicated, the total dollar amount of interest income from average interest-earning assets and the resultant yields, as well as the interest expense on average interest-bearing liabilities, expressed both in dollars and rates. No tax equivalent adjustments were made.

	Nine Months Ended September 30, 2007						Nine Months Ended September 30, 2006
	Average		Interest				Average		Interest
	Outstanding		Earned/		Yield/		Outstanding		Earned/		Yield/
	Balance		Paid		Rate		Balance		Paid		Rate
	(dollars in thousands)
Fed Funds and overnight deposits	$	9,387	$	344		4.90	$	6,429	$	277		5.76	%
Investment securities		13,465		464		4.61		13,514		424		4.19
Other securities		4,174		141		4.52		4,669		174		4.98
Loans receivable		228,099		12,251		7.18		225,495		11,806		7.00
Total earning assets	$	255,125	$	13,200		6.92	$	250,107	$	12,681		6.78
Demand and NOW Accounts	$	33,205	$	53		0.21	$	29,950	$	53		0.24
Money market accounts		24,897		666		3.58		18,150		406		2.99
Savings accounts		21,621		69		0.43		25,813		81		0.42
Certificates of deposit		104,394		3,843		4.92		105,085		3,284		4.18
Federal Home Loan Bank Advances		56,775		2,334		5.50		58,510		2,396		5.48
Total interest bearing liabilities	$	240,892		6,965		3.87	$	237,508		6,220		3.50
Net interest income			$	6,235					$	6,461
Net interest spread						3.05						3.28	%
Net interest margin						3.26						3.44	%

Provision for Loan Losses

The Bank recorded a $219,000 provision for loan losses for the three months ended September 30, 2007 whereas the Bank recorded no provision for loan losses for the three months ended September 30, 2006. Net charge-offs for the three months ended September 30, 2007 totaled $537,000 compared to $34,000 for the three months ended September 30, 2006. During the three months ended September 30, 2007, the Bank sold loans totaling $1.5 million, resulting in a charge-off of $283,000. These were loans that were on the Bank’s Watch List, considered impaired and for which specific loan loss allowances of $453,000 had previously been established.

The Bank recorded a $689,000 provision for loan losses for the nine months September 30, 2007 whereas the Bank recorded no provision for loan losses for the nine months ended September 30, 2006. The level of non-performing assets, (see table to follow) net charge-offs and additional loan impairment were primary considerations in determining the need for the provision. Net charge-offs for the nine months ended September 30, 2007 totaled $849,000 compared to $339,000 for the nine months ended September 30, 2006. Net charge-offs for the nine months ended September 30, 2007 included $471,000 of one-to-four family mortgage loans, $142,000 of consumer loans (including overdrafts) and $214,000 of commercial real estate loans.

The following table presents non-performing assets and certain asset quality ratios at September 30, 2007 and December 31, 2006.

	September 30, 2007			December 31, 2006
	(In thousands)
Non-performing loans	$	859		$	468
Real estate in judgement		1,396			895
Foreclosed and repossessed assets		1,073			785
Total non-performing assets	$	3,328		$	2,148
Non-performing loans to total loans		0.37	%		0.20	%
Non-performing assets to total assets		1.17	%		0.74	%
Allowance for loan losses to non-performing loans		217.00	%		432.48	%
Allowance for loan losses to net loans receiveable		0.81	%		0.88	%

The increase in non-performing loans from December 31, 2006 to September 30, 2007 is the result of an increase in problem loans within the Bank’s residential and commercial real estate portfolio. While Management believes its loan underwriting has improved significantly over the last several years, the poor local economy has had a negative impact on the loan portfolio. The Bank had 12 non-performing loan relationships as of September 30, 2007 compared to 10 non-performing loan relationships as of December 31, 2006. Despite the increase in nonperforming assets, Management believes the current level of the allowance for loan losses is

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adequate. The amount of specific loan loss allowances necessary for impaired loans has been reduced by the loan sale mentioned above. The allowances for all performing loans changed as of September 30, 2007 compared to December 31, 2006 as Management adjusted estimated loss ratios based on loss history and other factors. The amount of unallocated allowance was reduced as Management felt more certain that problem loans have been identified and after the loan sale and charge offs that have occurred through the first nine months of 2007. If the level of non-performing assets or net charge-offs significantly increases, additional provisions for loan losses may be needed. The improvement of asset quality remains a high priority for management.

Non-interest Income

Noninterest income increased $297,000, or 40%, to $1 million for the three months ended September 30, 2007 as compared to $743,000 for the three months ended September 30, 2006. Fees and service charges increased to $653,000 from $580,000 for the same period a year ago primarily as a result of an increase of $85,000 in NSF fees. Fees related to the brokering of residential mortgage loans increased $11,000 while other deposit account related fees decreased $7,000 and other loan related fees decreased $17,000. Gain on sale of loans increased to $139,000 from $59,000 for the same quarter a year ago as mortgage banking activities increased compared to the same quarter in 2006 due to continued emphasis on originating loans to be sold in the secondary market. Net gain on sale of fixed assets increased $71,000 primarily as a result of the Bank closing and disposing of a branch office that was considered underperforming and redundant given the other bank offices in the area. Other income increased by $54,000 primarily as a result of an increase in income from the sale of foreclosed properties of $36,000.

Noninterest income increased $711,000, or 30.9%, to $3.0 million for the nine months ended September 30, 2007 as compared to $2.3 million for the nine months ended September 30, 2006. Fees and service charges increased to $1.9 million, from $1.6 million for the same period a year ago primarily due to a $167,000 increase in NSF fees. Fees related to the brokering of residential mortgage loans increased $115,000 while other deposit account related fees increased $3,000 and other loan related fees decreased $33,000. Gain on sale of loans increased $251,000 from the same nine months a year ago as mortgage banking activities have been an emphasis in 2007. Other income increased $133,000 for the nine months ended September 30, 2007 compared to the same period in 2006 primarily due to an increase in income from the sale of foreclosed assets of $141,000.

Non-interest Expense

Noninterest expense decreased $172,000 or 7.1%, for the three months ended September 30, 2007 compared to the three months ended September 30, 2006. Salaries and employee benefits decreased $150,000 due to decreases in nearly all categories of wage and benefits, a continued result of staff reductions and benefit modifications accomplished during the fourth quarter of 2006. Professional service expense increased $90,000 due mainly to the Company’s efforts to go private which was rejected by shareholders at the October 9, 2007 Special Meeting. Other general and administrative expense decreased $90,000 primarily due to a decrease in marketing and advertising expenses of $62,000, a $12,000 decrease in supplies and forms, and a $23,000 decrease in bad check write offs. The change in bad check write offs was due to a recovery of $14,000 during the three months ended September 30, 2007.

Noninterest expense decreased $794,000, or 10.7%, for the nine months ended September 30, 2007 compared to the nine months ended September 30, 2006. Salaries and employee benefits decreased $497,000 for the reasons mentioned above. The Bank has 80 full-time equivalent employees as of September 30, 2007 compared to 90 full-time equivalent employees as of September 30, 2006. ATM/Debit card processing decreased $39,000 due to renegotiation of the fees paid to the third party service provider. Foreclosed property expense decreased $113,000 for the nine months ended September 30, 2007 compared to the same period in 2006 due mainly to a $72,000 impairment writedown taken in 2006 that did not repeat in 2007. Professional service expense increased $83,000 due to the reason mentioned above. Other general and administrative expense decreased $173,000 primarily due to a $134,000 reduction in advertising and promotion expense due to a reduced marketing effort in 2007. FDIC insurance decreased $26,000 but is expected to increase in 2008. Expense control and revenue enhancement continue to be priorities for management and efforts continue on improving efficiency.

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Federal Income Tax Expense

The Company’s provision for federal income taxes increased $24,000 for the three months ended September 30, 2007 compared to the same period in 2006. The effective tax rate for the three months ended September 30, 2007 was 25.0% of income before tax as compared to 28.6% for the same period in 2006.

The Company’s provision for federal income taxes increased $139,000 for the nine months ended September 30, 2007 compared to the same period in 2006 as our net income before taxes increased $590,000. The effective tax rate for the nine months ended September 30, 2007 was 25.0% of income before tax as compared to 25.7% for the same period in 2006. The difference between the effective tax rates and the federal corporate income tax rate of 34% is attributable to the low income housing credits available to the Bank from the investment in the limited partnership as well as fluctuation of permanent book and tax differences such as non-taxable income and non-deductible expenses.

LIQUIDITY

The Bank’s liquidity, represented by cash, overnight funds and investments, is a product of our operating, investing, and financing activities. The Bank’s primary sources of funds are deposits, amortization, prepayments and maturities of outstanding loans, and funds provided from operations. While scheduled payments from the amortization of loans are a relatively predictable source of funds, deposit flows and loan prepayments are greatly influenced by general interest rates, economic conditions and competition. The Bank also generates cash through borrowings. The Bank utilizes Federal Home Loan Bank advances to leverage its capital base and provide funds for its lending and investment activities, and to enhance its interest rate risk management.

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. On a longer-term basis, the Bank maintains a strategy of investing in various investments and lending products. The Bank uses its sources of funds primarily to meet its ongoing commitments, to pay maturing certificates of deposit and savings withdrawals and to fund loan commitments. Certificates of deposit scheduled to mature in one year or less at September 30, 2007 totaled $62.6 million. Management believes that a significant portion of these certificates of deposit will remain with the Bank provided the Bank pays a rate of interest that is competitive both in the local and national markets.

If necessary, additional funding sources include additional deposits and Federal Home Loan Bank advances. Deposits can be obtained in the local market area and from out of market sources; however, this may require the Bank to offer interest rates higher than those of the competition. At September 30, 2007 and based on current collateral levels, the Bank could borrow an additional $13.0 million from the Federal Home Loan Bank at prevailing interest rates. This borrowing capacity can be increased in the future if the Bank pledges additional collateral to the Federal Home Loan Bank. The Company anticipates that it will continue to have sufficient funds, through deposits and borrowings, to meet its current commitments.

The Bank’s total cash and cash equivalents decreased by $525,000 million during the nine months ended September 30, 2007 compared to a $194,000 million decrease for the same period in 2006. The primary sources of cash for the nine months ended September 30, 2007 were $6 million net proceeds from FHLB advances, $2.6 million from operations and $1.2 million net from securities repayments and maturities. The primary use of cash for the nine months ended September 30, 2007 was an $11.1 million decrease in deposits. Management expects cash flows for the remainder of 2007 to follow a similar pattern to what has occurred in the first nine months, with the exception of an outflow of cash to repurchase shares of the Company’s stock in open market transactions.

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CONTRACTUAL OBLIGATIONS

The Corporation has certain obligations and commitments to make future payments under contracts. At September 30, 2007, the aggregate contractual obligations and commitments are:

Contractual Obligations	Payments Due by Period
			Less than		1-3		3-5		After
	Total		1 year		years		years		5 years
	(Dollars in Thousands)
Certificates of deposit	$	97,327	$	60,611	$	28,455	$	8,261	$	—
FHLB advances		60,476		14,146		21,813		19,342		5,175
Total	$	157,803	$	74,757	$	50,268	$	27,603	$	5,175

Other Commitments	Amount of commitment expiration per period
			Less than		1-3		3-5		After
	Total		1 year		years		years		5 years
	(Dollars in Thousands)
Commitments to grant loans	$	4,759	$	4,759	$	—	$	—	$	—
Unfunded commitments under HELOCs		16,180		1,144		3,976		4,388		6,672
Unfunded commitments under Commercial LOCs		4,165		1,894		937		888		446
Letters of credit		9		9		—		—		—
Total	$	21,150	$	5,912	$	4,053	$	4,513	$	6,672

Commitments to grant loans are governed by the Bank’s credit underwriting standards, as established by the Bank’s Loan Policy. The Bank’s policy is to grant Home Equity Lines of Credits (HELOCs) for periods of up to 15 years.

CAPITAL RESOURCES

The Bank is subject to various regulatory capital requirements. As of September 30, 2007, the Bank met the regulatory standards to be classified as “well capitalized.” The Bank’s regulatory capital ratios as of September 30, 2007 were as follows: Tier 1 leverage ratio 10.94%, Tier 1 risk-based capital ratio 14.26%; and total risk-based capital, 15.16%. The regulatory capital requirements to be considered well capitalized are 5.0%, 6.0%, and 10.0%, respectively.

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ITEM 3. QUANTITATIVE AND QUALITIVE DISCLOSURES ABOUT MARKET RISK

The Corporation’s primary market risk exposure is interest rate risk (“IRR”). Interest rate risk refers to the risk that changes in market interest rates might adversely affect the Corporation’s net interest income or the economic value of its portfolio of assets, liabilities, and off-balance sheet contracts. Interest rate risk is primarily the result of an imbalance between the price sensitivity of the Corporation’s assets and its liabilities (including off-balance sheet contracts). Such imbalances can be caused by differences in the maturity, repricing and coupon characteristics of assets and liabilities, and options, such as loan prepayment options, interest rate caps and floors, and deposit withdrawal options. These imbalances, in combination with movement in interest rates, will alter the pattern of the Corporation’s cash inflows and outflows, affecting the earnings and economic value of the Corporation.

The Corporation’s primary tool for assessing IRR is a model that uses scenario analysis to evaluate the IRR exposure of the Bank by estimating the sensitivity of the Bank’s portfolios of assets, liabilities, and off-balance sheet contracts to changes in market interest rates. To measure the sensitivity of the Bank’s NPV to changes in interest rates, the NPV model estimates what would happen to the economic value of each type of asset, liability, and off-balance sheet contract under six different interest rate scenarios. The model estimates the NPV that would result following instantaneous, parallel shifts in the Treasury yield curve of -300, -200, -100, +100, +200, +300 basis points. Management considers the IRR of the Corporation to be moderate as of September 30, 2007.

ITEM 4. CONTROLS AND PROCEDURES

An evaluation of the Corporation’s disclosure controls and procedures (as defined in Rule 13a-15(e) of the Securities Exchange Act of 1934 (the “Exchange Act”)) as of September 30, 2007 was carried out under the supervision and with the participation of the Corporation’s Chief Executive Officer, Chief Financial Officer and several other members of the Corporation’s senior management. The Company’s Chief Executive Officer and Chief Financial Officer concluded that the Corporation’s disclosure controls and procedures as currently in effect are effective in ensuring that the information required to be disclosed by the Corporation in the reports it files or submits under the Exchange Act is (i) accumulated and communicated to the Corporation’s management (including the Chief Executive Officer and Chief Financial Officer) in a timely manner, and (ii) recorded, processed, summarized and reported within time periods specified in the SEC’s rules and forms. There have been no changes in our internal control over financial reporting (as defined in Rule 13a-15(f) of the Exchange Act) that occurred during the quarter ended September 30, 2007, that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

The Corporation intends to continually review and evaluate the design and effectiveness of its disclosure controls and procedures and to improve its controls and procedures over time and to correct any deficiencies that it may discover in the future. The goal is to ensure that senior management has timely access to all material financial and non-financial information concerning the Corporation’s business. While the Corporation believes the present design of its disclosure controls and procedures is effective to achieve its goal, future events affecting its business may cause the Corporation to modify its disclosure controls and procedures.

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PART II — OTHER INFORMATION

Item 1. LEGAL PROCEEDINGS

The Corporation and the Bank are from time-to-time involved in legal proceedings arising out of, and incidental to, their business. Management, based on its review with counsel of all actions and proceedings affecting the Corporation and the Bank, has concluded that the aggregate loss, if any, resulting from the disposition of these proceedings should not be material to the Corporation’s financial condition or results of operations.

Item 1A. RISK FACTORS

In addition to the other information set forth in this report, you should carefully consider the factors discussed in Part I, “Item 1A. Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2006, which could materially affect our business, financial condition or future results. The risks described in our Annual Report on Form 10-K are not the only risks facing our Corporation. Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial also may materially adversely affect our business, financial condition and/or operating results.

Item 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

None

Item 3. DEFAULTS UPON SENIOR SECURITIES

Not applicable

Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

Not applicable

Item 5. OTHER INFORMATION

Not applicable

Item 6. EXHIBITS

See the index to exhibits.

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SIGNATURES

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

		MONARCH COMMUNITY BANCORP, INC.
Date: November 14, 2007	By:		/s/ Donald L. Denney
			Donald L. Denney President and Chief Executive Officer
Date: November 14, 2007	And:		/s/ William C. Kurtz
			William C. Kurtz Senior Vice President, Chief Financial Officer (Principal Financial Officer)

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INDEX TO EXHIBITS

Exhibit No.	Description of Exhibit
31.1	Rule 13a-14(a) Certification of the Corporation’s President and Chief Executive Officer.
31.2	Rule 13a-14(a) Certification of the Corporation’s Chief Financial Officer.
32	Section 1350 Certification.

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