Somerset Hills Bancorp (SOMH) 10-Q 2005 Q1 Quarterly report

SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549

FORM 10-QSB

(Mark One)

	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934
	For the quarterly period ended March 31, 2005
	or
	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934
	For the transition period from _______________________ to _____________________
	Commission file number 0-50055

SOMERSET HILLS BANCORP

(Exact name of Registrant as Specified in Its Charter)

NEW JERSEY

(State or other jurisdiction of incorporation or organization)

22-3768777

(I.R.S. Employer Identification Number)

155 MORRISTOWN ROAD
BERNARDSVILLE, NEW JERSEY 07924

(Address of Principal Executive Offices)

(908) 221-0100

(Issuer’s Telephone Number, including area code)

(Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report)

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 and 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    No 

Indicate by check mark whether the registrant is an accelerated filer (as defined in rule 12(b)-2 of the Securities and Exchange Act of 1934. Yes    No 

As of May 6, 2004 there were 3,052,849 shares of common stock, no par value, outstanding.

SOMERSET HILLS BANCORP
FORM 10-QSB

INDEX

Part I – Financial Information		Page(s)
Item I.	Financial Statements
	Consolidated Balance Sheets As of March 31, 2005 (unaudited) and December 31, 2004	3
	Consolidated Statements of Income for the Three months ended March 31, 2005 and 2004 (Unaudited)	4
	Consolidated Statements of Changes in Stockholders’ Equity For the three months ended March 31, 2005 (Unaudited)	5
	Consolidated Statements of Cash Flows for the Three months Ended March 31, 2005 and 2004 (Unaudited)	6
	Notes to Consolidated Financial Statements (Unaudited)	7
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	10-14
Item 3.	Controls and Procedures	14
Part II – Other Information
Item 1.	Legal Proceedings	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		17-18
Exhibit 32		19

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PART I – FINANCIAL INFORMATION

ITEM 1 – FINANCIAL STATEMENTS

SOMERSET HILLS BANCORP
CONSOLIDATED BALANCE SHEETS
(In thousands, except share data)

ASSETS	March 31, 2005			December 31, 2004
	(Unaudited)
Cash and due from banks	$	5,067		$	5,000
Interest bearing deposits at other banks		1,230			85
Federal funds sold		9,500			—
Total cash and cash equivalents		15,797			5,085
Loans held for sale		11,835			10,328
Investment securities held to maturity (Approximate market value of $4,757 in 2005 and $5,862 in 2004)		4,838			5,847
Investment securities available-for-sale		18,534			17,484
Loans receivable		131,771			132,871
Less: allowance for Loan Losses		(1,628	)		(1,634	)
Deferred fees		(148	)		(198	)
Net loans receivable		129,995			131,039
Premises and equipment, net		4,168			4,231
Goodwill, net		1,191			1,191
Bank owned life insurance		5,389			5,341
Accrued interest receivable		710			652
Other assets		739			678
Total assets	$	193,196		$	181,876
LIABILITIES AND STOCKHOLDERS’ EQUITY
LIABILITIES
Deposits:
Non-interest bearing deposits-demand	$	34,732		$	37,061
Interest bearing deposits-NOW, money market and savings		109,131			94,066
Certificates of deposit, under $100,000		17,013			16,819
Certificates of deposit, $100,000 and over		7,390			6,929
Total deposits		168,266			154,875
Federal Home Loan Bank advances		1,000			3,200
Accrued interest payable		102			88
Other liabilities		681			665
Total Liabilities		170,049			158,828
STOCKHOLDERS’ EQUITY:
Preferred stock – 1,000,000 shares authorized, none issued		—			—
Common Stock-authorized 9,000,000 Shares of no par value; issued and outstanding, 3,205,509 shares in 2005 and 3,201,920 in 2004		23,967			23,940
Accumulated deficit		(565	)		(827	)
Accumulated other comprehensive loss		(255	)		(65	)
Total stockholders’ equity		23,147			23,048
Total liabilities and stockholders’ equity	$	193,196		$	181,876

See accompanying notes to unaudited consolidated financial statements

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SOMERSET HILLS BANCORP
CONSOLIDATED STATEMENTS OF INCOME
(In thousands except per share data)
(Unaudited)

	Three Months Ended March 31
	2005		2004
INTEREST INCOME
Loans, including fees	$	2,096	$	1,561
Investment securities		194		251
Federal funds sold		47		21
Interest bearing deposits with other banks		5		1
Total interest income		2,342		1,834
INTEREST EXPENSE
Deposits		566		504
Federal Home Loan Bank advances		12		12
Total interest expense		578		516
Net interest income		1,764		1,318
Provision for loan losses		—		—
Net interest income after provision for loan losses		1,764		1,318
NON-INTEREST INCOME
Service fees on deposit accounts		69		67
Gains on sales of mortgage loans, net		420		409
Other income		92		85
Total non-interest income		581		561
NON-INTEREST EXPENSE
Salaries and employee benefits		1,002		866
Occupancy expense		363		294
Advertising and business promotion		121		94
Stationery and supplies		57		45
Data Processing		83		67
Other operating expense		407		291
Total Non-Interest Expense		2,033		1,657
Income before provision for taxes		312		222
Provision for Income Taxes		50		—
Net income	$	262	$	222
Per share data
Net income basic	$	0.08	$	0.07
Net income diluted	$	0.07	$	0.06

See accompanying notes to unaudited consolidated financial statements

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CONSOLIDATED STATEMENT OF
STOCKHOLDERS’ EQUITY
(In thousands except share data)
(Unaudited)

	Common Stock		Accumulated Deficit			Accumulated Other Comprehensive Loss			Comprehensive Income			Total Stockholders’ Equity
Balance December 31, 2004	$	23,940	$	(827	)	$	(65	)		—		$	23,048
Exercise of common stock warrants and options		27		—			—			—			27
Net income for the period		—		262			—		$	262			262
Other comprehensive loss, net of reclassification adjustment		—		—			(190	)		(190	)		(190	)
Total comprehensive Income									$	72
Balance March 31, 2005	$	23,967	$	(565	)	$	(255	)				$	23,147

See accompanying notes to unaudited consolidated financial statements

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SOMERSET HILLS BANCORP
CONSOLIDATED STATEMENTS
OF CASH FLOWS
(In thousands)
(Unaudited)

	Three Months Ended March 31,
	2005			2004
OPERATING ACTIVITIES:
Net income	$	262		$	222
Adjustments to reconcile net income to net cash used in operating activities:
Depreciation and amortization		156			118
Mortgage loans originated for sale		(55,623	)		(52,379	)
Proceeds from mortgage loan sales		54,536			44,809
Gain on sale of mortgage loans		(420	)		(409	)
Increase in accrued interest receivable		(58	)		(48	)
Increase in other assets		(61	)		(218	)
Increase in accrued interest payable		14			10
Increase (decrease) in other liabilities		16			(781	)
Net cash used in operating activities		(1,178	)		(8,676	)
INVESTING ACTIVITIES:
Purchases of investment securities available-for-sale		(2,000	)		(9,902	)
Purchases of investment securities held to maturity		—			(1,142	)
Maturity and payments of investment securities available-for-sale		751			3,022
Maturity and payments of investment securities held to maturity		1,000			7
Net decrease in loans receivable		1,044			425
Increase in bank owned life insurance		(48	)		(60	)
Purchases of premises and equipment		(75	)		(45	)
Net cash provided by (used in) investing activities		672			(7,695	)
FINANCING ACTIVITIES:
Net increase in demand deposit and savings accounts		12,736			2,344
Net increase (decrease) in certificates of deposit		655			(1,169	)
Repayment of Federal Home Loan Bank advances		(2,200	)		—
Net proceeds from sale of common stock, options and warrants		27			10
Net cash provided by financing activities		11,218			1,185
Net increase (decrease) in cash and cash equivalents		10,712			(15,186	)
Cash and cash equivalents at beginning of period		5,085			24,767
Cash and cash equivalents at end of period	$	15,797		$	9,581
Supplemental information:
Cash paid during the year for:
Interest	$	564		$	506
Income taxes	$	75		$	73

See accompanying notes to unaudited consolidated financial statements

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SOMERSET HILLS BANCORP AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

1.	Summary of Significant Accounting Policies
a)	Basis of Presentation

Somerset Hills Bancorp ("the Company") is a bank holding company, formed in January 2001 to own all the common stock of Somerset Hills Bank (“the Bank”), a New Jersey chartered commercial bank that opened for business in Bernardsville, Somerset County, New Jersey in December 1998. The only activity of Somerset Hills Bancorp is ownership of Somerset Hills Bank and its subsidiaries. At March 31, 2005, the Bank operates four banking offices: its main office, located in Somerset County, New Jersey, two branch offices in Morris County, New Jersey and one branch office in Union County, New Jersey. The Bank operates a licensed mortgage company subsidiary, Sullivan Financial Services, Inc. The Bank also operates a wealth management subsidiary, Somerset Hills Wealth Management, LLC. The Bank is also a 50% owner of Somerset Hills Title Group, LLC., a full service title agency based in Morristown, New Jersey. The Company is subject to the supervision and regulation of the Board of Governors of the Federal Reserve System (the "FRB"). The Bank’s deposits are insured by the Bank Insurance Fund ("BIF") of the Federal Deposit Insurance Corporation ("FDIC") up to applicable limits. The operations of the Company and the Bank are subject to the supervision and regulation of the FRB, FDIC and the New Jersey Department of Banking and Insurance (the "Department"). The operations of Somerset Hills Wealth Management, LLC are subject to the supervision and regulation of the New Jersey Department of Banking and Insurance. The operations of Sullivan Financial Services are subject to the supervision and regulation by the U. S. Department of Housing and Urban Development (HUD), the Veterans Administration, the Department of Banking and Insurance in New Jersey and the Banking Departments in New York, Pennsylvania and Florida.

The accompanying unaudited consolidated financial statements included herein have been prepared by the Company in accordance with accounting principles generally accepted in the United States of America and pursuant to the rules and regulations of the Securities and Exchange Commission and reflect all adjustments which, in the opinion of management, are considered necessary for a fair presentation of the financial condition and results of operations for the periods presented. All adjustments made were of a normal and recurring nature. Operating results for the three months ended March 31, 2005 are not necessarily indicative of the results that may be expected for the year ended December 31, 2005. These unaudited interim consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto, included in the Company’s Annual Report on Form 10-KSB for the year ended December 31, 2004.

b) Net Income Per Common Share

Basic net income per share of common stock is calculated by dividing net income by the weighted average number of shares of common stock outstanding during the period. Diluted net income per share is calculated by dividing net income by the weighted average number of shares of common stock outstanding during the period plus the dilutive effect of potential common shares.

The following tables set forth the computations of basic and diluted earnings per share (dollars and share data in thousands):

	Three Months Ended, March 31, 2005						Three Months Ended, March 31, 2004
	Income (Numerator)		Shares (Denominator)		Per Share Amount		Income (Numerator)		Shares (Denominator)		Per Share Amount
Basic earnings per share:
Net income applicable to common Stockholders	$	262		3,206	$	0.08	$	222		3,192	$	0.07
Effect of dilutive securities:
Options/warrants		—		570				—		473
Diluted EPS:
Net income applicable to common stock-Holders and assumed conversions	$	262		3,776	$	0.07	$	222		3,665	$	0.06

Share data has been adjusted to reflect a 5% stock distribution declared on April 27, 2005 and payable on June 30, 2005.

c) Comprehensive Income

The components of other comprehensive income for the three months ended March 31, 2005 and 2004 are as follows (in thousands):

	Three Months Ended March 31
	2005			2004
Net income	$	262		$	222
Change in unrealized holding (losses) gains on available for sale securities		(190	)		109
Less: reclassification adjustments for gains included in net income		—			—
Net unrealized (loss) gain		(190	)		109
Other comprehensive income	$	72		$	331

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d) Stock-Based Compensation

At March 31, 2005, the Company has three stock-based plans. The Company accounts for those plans under the recognition and measurements principles of APB Opinion No. 25, Accounting for Stock Issued to Employees, and related Interpretations. No stock-based employee compensation cost is reflected in the net income, as all options granted under those plans had an exercise price equal to the market value of the underlying common stock on the date of grant. The following table illustrates the effect on net income and earnings per share if the Company had applied the fair value recognition provisions of FASB Statement No. 123, Accounting for Stock-Based Compensation, to stock-based employee compensation.

	Three Months Ended March 31 (Dollars in Thousands)
	2005			2004
Net income, as reported	$	262		$	222
Deduct: Total stock-based compensation expense determined under fair value based method for all awards, net of related tax effect		(21	)		(15	)
Pro forma net income	$	241		$	207
Net income per share:
Basic-as reported	$	0.08		$	0.07
Basic-pro forma	$	0.08		$	0.06
Diluted-as reported	$	0.07		$	0.06
Diluted-pro forma	$	0.06		$	0.06

There were no stock options granted during the first quarter of 2005 and 2004.

e) Recent Accounting Pronouncements

On April 14, 2005 the Securities and Exchange Commission amended the compliance dates for the Financial Accounting Standard Board’s Statement of Financial Accounting Standards No. 123 (revised 2004), Share-Based Payment (Statement No. 123R). The Commissions new rule allows companies to implement Statement No. 123R at the beginning of the next fiscal year, instead of the next reporting period, that begins after June 15, 2005, or December 15, 2005 for small business issuers. The Commissions new rule does not change the accounting required by Statement No. 123R; it changes only the dates for compliance with the standard. The Company has evaluated the impact of implementation of Statement No. 123R and does not believe that it will be material.

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2. Segment Information

The Company’s mortgage operations are managed separately from the traditional banking and related financial services that the Company also offers. The mortgage company originates, for resale in the secondary market, conventional and non-conventional 1-4 family residential mortgages, Veteran Administration guaranteed mortgages, Department of Housing and Urban Development guaranteed mortgages and non-conventional programs, such as jumbo mortgages and a wide variety of adjustable products.

The following table sets forth certain information about and the reconciliation of reported net income for each of the reportable segments for the three months ended March 31, 2005 (in thousands)

	The Bank and The Bancorp		Sullivan Financial Services, Inc.			Eliminating entries			Consolidated
Interest income	$	2,337	$	99		$	(94	)	$	2,342
Interest expense		578		94			(94	)		578
Provision for loan losses		—		—			—			—
Non-interest income		182		420			(21	)		581
Non-interest expense		1,629		475			(21	)		2,083
Net income (loss)		312		(50	)		—			262
Total assets	$	192,205	$	18,519		$	(17,528	)	$	193,196

The following table sets forth certain information about and the reconciliation of reported net income for each of the reportable segments for the three months ended March 31, 2004 (in thousands)

	The Bank and The Bancorp		Sullivan Financial Services, Inc.			Eliminating Entries			Consolidated
Interest income	$	1,810	$	83		$	(59	)	$	1,834
Interest expense		516		59			(59	)		516
Provision for loan losses		—		—			—			—
Non-interest income		173		409			(21	)		561
Non-interest expense		1,212		466			(21	)		1,657
Net income (loss)		255		(33	)		—			222
Total assets	$	171,318	$	17,654		$	(18,548	)	$	170,424

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

RESULTS OF OPERATIONS

Three Months ended March 31, 2005 and March 31, 2004

CRITICAL ACCOUNTING POLICIES

Disclosure of the Company’s significant accounting policies is included in Note 1 to the consolidated financial statements of the Company for the year ended December 31, 2004 included in its Annual Report Form 10-KSB filed under the Securities Exchange Act of 1934. Some of these policies are particularly sensitive, requiring significant judgments, estimates and assumptions to be made by management. Management believes the Company’s policy with respect to the methodology for the determination of the allowance for loan losses involves a higher degree of complexity and requires management to make difficult and subjective judgments which often require assumptions or estimates about highly uncertain matters. Changes in these judgments, assumptions or estimates could materially impact results of operations. This critical policy and its application is periodically reviewed with the Audit Committee and the Board of Directors of the Company. The allowance for loan losses is based upon management’s evaluation of the adequacy of the allowance, including an assessment of known and inherent risks in the portfolio, giving consideration to the size and composition of the loan portfolio, actual loan loss experience, level of delinquencies, detailed analysis of individual loans for which full collectibility may not be assured, the existence and estimated net realizable value of any underlying collateral and guarantees securing the loans, and current economic and market conditions. Although management uses the best information available, the level of the allowance for loan losses remains an estimate, which is subject to significant judgment and short- term change. Various regulatory agencies, as an integral part of their examination process, periodically review the Company’s allowance for loan losses. Such agencies may require the Company to make additional provisions for loan losses based upon information available to them at the time of their examination. Furthermore, the majority of the Company’s loans are secured by real estate in the state of New Jersey. Accordingly, the collectibility of a substantial portion of the carrying value of the Company’s loan portfolio is susceptible to changes in local market conditions and may be adversely affected should real estate values decline or the Central New Jersey area experience an adverse economic shock. Future adjustments to the allowance for loan losses may be necessary due to economic, operating, regulatory and other conditions beyond the Company’s control. Additional information is contained on pages 11 and 14 of this Form 10-QSB for the provision and allowance for loan losses.

OVERVIEW

For the three months ended March 31, 2005, the Company realized a $40 thousand increase in net income. For the three months ended March 31, 2005, net income was $262 thousand or $0.08 basic and $0.07 diluted earnings per share compared to $222 thousand or $0.07 per basic and $0.06 diluted share for the same period in 2004.

The results reflect a substantial increase in interest income due to an increase in the average yield on interest earning assets. We also recognized an increase in non-interest income. These increases in interest income were partially off-set by an increase in non-interest expense.

At March 31, 2005, total assets were $193.2 million, an increase of $11.3 million from total assets of $181.9 million at year end 2004. The increase reflects an increase in federal funds sold of $9.5 million, an increase of $15.7 million in interest bearing deposits, an increase of $1.5 million in loans held for sale and an increase of $1.1 million in investment securities held for sale. These increases were partially off-set by decreases of $1.1 million in loans receivable and a decrease of $1.0 million in investment securities held to maturity.

RESULTS OF OPERATIONS

Interest Income. Total interest income increased $508 thousand, or 27.7% to $2.3 million for the quarter ended March 31, 2005 from $1.8 million for the same period in 2004. There was an increase of $15.9 million in average first quarter interest earning assets from $154.1 million in 2004 to $170.0 million in 2005. Augmenting the increase in average earning assets was an 80 basis point increase in average rate earned from 4.79% during the first quarter of 2004 to 5.59% in the first quarter of 2005. The increase in rates had the greatest effect on loans and federal funds sold. The average rate earned on loans increased by 71 basis points to 6.14% in the first quarter of 2005 from 5.43% during the first quarter of 2004. The rate earned on federal funds sold increased 154 basis points to 2.45% in the first quarter of 2005 from 0.91% during the first quarter of 2004. The average rate earned on due from banks increased 145 basis points to 2.25% for the first quarter of 2005 from 0.80% in the first quarter of 2004. The increase in rates were augmented by increases in volume as the average loan balance increased 20.4% from $109.6 million to $131.9 million from the first quarter 2004 to first quarter 2005. The average balance of investment securities decreased by $6.4 million, or 22.4%, to $22.3 million in the first quarter of 2005 from $28.7 million in the first quarter of 2004, as paydowns and maturities were used to fund new loan originations. The average balance of federal funds sold decreased $1.3 million, or 14.2%, to $7.8 million during the first quarter of 2005 compared to $9.1 million during the first quarter of 2004. The average rate earned on investment securities increased 2 basis points to 3.53% for the first quarter of 2005 from 3.51% for the first quarter of 2004. The average rate earned on loans held for sale increased by 3 basis points for the first quarter of 2005 to 5.63%, from 5.60% for the first quarter of 2004. The increase in rates earned reflects the current market trend of higher interest rates.

Interest Expense. The Company’s interest expense for the first quarter of 2005 increased $62 thousand, or 12.0% to $578 thousand from $516 thousand in the first quarter of 2004. This increase was the result of an increase in the average balance of interest bearing liabilities of $7.3 million, or 6% to $128.8 million during the first quarter of 2005 from $121.5 million in the same period of 2004. The average cost of funds increased 11 basis points to 1.82% for the first quarter of 2005 from 1.71% in the first quarter of 2004. Interest expense on interest bearing demand deposits increased $122 thousand or 59.5% to $327 thousand in the first quarter of 2005 from $205 thousand in the first quarter in 2004. Interest expense on savings deposits increased $8 thousand or 200.0% while interest expense on money market deposits increased $15 thousand or 100%. Interest expense on time deposits decreased $83 thousand or 29.6% in the first quarter of 2005 compared to the same period in 2004 and the average rate declined to 3.30% in the current period from 3.73% in the first quarter of 2004, reflecting the repricing of the time deposit portfolio to lower rates as time deposits originated during prior promotions matured. As a result of our continued marketing promotion for low cost deposits, which began in April of 2001, NOW deposit average balances have grown $9.4 million, or 12.0%, from $78.5 million during the first quarter of 2004 to $87.9 million in the first quarter of 2005. The interest expense on NOW deposits increased $122 thousand from the first quarter of 2004, while the average interest rate paid increased 46 basis points from 1.05% to 1.51% during the same periods. Average savings deposits reflect an increase of $1.5 million, or 38.6%, in average balances while the average rate paid increased 43 basis points from 0.43% in the first quarter of 2004 to 0.86% in the first quarter of 2005. Average borrowed funds increased to $1.1 million in the first quarter of 2005 from $1.0 million in the first quarter of 2004. The interest expense on money market deposits increased $15 thousand from the first quarter of 2004 to the first quarter of 2005 while the average interest rate paid increased 41 basis points to 1.18% during the first quarter of 2005 from 0.77% in the first quarter of 2004. The average balance increased $2.3 million to $10.2 million from $7.9 million during the same period.

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The following table presents a summary of the Company’s interest-earning assets and their average yields, and interest-bearing liabilities and their average costs and shareholders’ equity for the three months ended March 31, 2005 and 2004. The average balances are derived from average daily balances. The average balance of loans includes non-accrual loans, and associated yields include loan fees, which are considered adjustment to yields.

Comparative Average
Balance Sheets
Three Months Ended March 31,

	2005								2004
	Average Balance			Interest Income/Expense		Average Rates Earned/Paid			Average Balance			Interest Income/Expense		Average Rates Earned/Paid
Assets	(Dollars in Thousands)
Cash and due from banks	$	915		$	5		2.25	%	$	791		$	1		0.80	%
Loans		131,862			1,997		6.14	%		109,551			1,478		5.43	%
Loans held for sale		7,116			99		5.63	%		5,961			83		5.60	%
Investment securities (1)		22,291			194		3.53	%		28,714			251		3.51	%
Fed funds sold		7,824			47		2.45	%		9,123			21		0.91	%
Total interest earning assets	$	170,008		$	2,342		5.59	%	$	154,140		$	1,834		4.79	%
Non-interest earning assets		17,622								15,535
Allowance for loan losses		(1,639	)							(1,414	)
Total Assets	$	185,991							$	168,261
Liabilities and Equity
Interest bearing demand deposits	$	87,885		$	327		1.51	%	$	78,481		$	205		1.05	%
Savings		5,439			12		.86	%		3,923			4		0.43	%
Money Market		10,186			30		1.18	%		7,895			15		0.77	%
Certificates of deposits		24,209			197		3.30	%		30,191			280		3.73	%
FHLB advances/ other borrowings		1,090			12		4.48	%		1,000			12		4.68	%
Total interest bearing liabilities		128,809			578		1.82	%		121,490			516		1.71	%
Non-Interest Bearing Liabilities:
Non-interest bearing deposits		33,135								24,050
Other liabilities		745								859
Total Liabilities		162,689								146,399
Stockholders’ Equity		23,302								21,862
Total Liabilities and Stockholders’ Equity	$	185,991							$	168,261
Net Interest Income				$	1,764							$	1,318
Net Interest Spread							3.77	%							3.08	%
Net Interest Margin							4.21	%							3.44	%

(1) Includes FHLB stock

Net-Interest Income. The net interest income for the first quarter of 2005 increased $446 thousand over the same period last year. This increase was the result of the Company’s ability to add interest earning assets at a faster pace than interest bearing liabilities in a rising market rate environment and the Company’s ability to shift its average balances to lower costing interest bearing liabilities, thereby further reducing its cost of funds. The net interest spread increased by 69 basis points to 3.77% and the net yield on interest-earning assets increased 80 basis points to 5.59%. The yield on interest bearing liabilities increased 11 basis points to 1.82% in the first quarter of 2005 compared to the same period last year.

Provision for Loan Losses. For the three months ended March 31, 2005 and 2004 the provision for loan losses was $0. The provision for loan losses reflects management’s judgment concerning the risks inherent in the Company’s existing portfolio and the size of the allowance necessary to absorb the risks, as well as in the average balance of the portfolio over both periods. Management reviews the adequacy of its allowance on an ongoing basis and will provide for additional provision in future periods, as management may deem necessary.

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Non-Interest Income. Non-interest income increased by 3.6% or $20 thousand in the first quarter of 2005 to $581 thousand from $561 thousand in the first quarter of 2004. The increase in non-interest income in the first quarter of 2005 compared to the same period last year is attributable to an increase in gains on the sale of mortgage loans. Gains on sale of mortgage loans increased $11 thousand, or 2.7% to $420 thousand in the first quarter of 2005 compared to $409 thousand in the first quarter of 2004. This increase is attributable to the increase in mortgage loans originated for sale by the mortgage company. Mortgage loans originated for sale increased $3.2 million to $55.6 million in the first quarter of 2005 compared to $52.4 million in the first quarter of 2004. Other components of non-interest income include fees on deposit accounts, which increased $2 thousand or 3.0% to $69 thousand in the first quarter of 2005 from $67 thousand in the first quarter of 2004. Other income increased $7 thousand, to $92 thousand in the first quarter of 2005 compared to $85 thousand in the first quarter of 2004. The increases were primarily due to increases in transactional volume at the Bank.

Non-Interest Expense. For the quarter ended March 31, 2005, non-interest expense increased $376 thousand from the same period last year. The increase in non-interest expense in the first quarter 2005, was attributable to an increase of $136 thousand in salaries and benefits, $116 thousand in other operating expense, $69 thousand in occupancy expense, $27 thousand in advertising and business promotion, $16 thousand in data processing and $12 thousand in stationery and supplies for the comparable period. These increases are attributable to our continued growth and our branch expansion in the fourth quarter of 2004.

Income Taxes. Income tax expense increased $50 thousand to $50 thousand for the three months ended March 31, 2005 as compared to $0 for the same period in 2004. The increase is a result of the Company having exhausted all of the NOL carryover credits from prior years.

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FINANCIAL CONDITION

March 31, 2005 as compared to December 31, 2004

Total assets increased $11.3 million at March 31, 2005 to $193.2 million from total assets of $181.9 million at December 31, 2004. Increases in total assets include increases of $9.5 million in federal funds sold, $1.1 million in interest bearing deposits, $1.5 million in loans held for sale and $1.0 million investment securities available for sale. These increases were partially offset by a $1.1 million reduction in loans receivable and a $1.0 million decrease in investment securities held to maturity. Total deposits increased $13.4 million from $154.9 million at year-end 2004 to $168.3 million on March 31, 2005. Federal Home Loan Bank advances decreased by $2.2 million to $1.0 million for the first quarter of 2005 from $3.2 million at December 31, 2004.

Total loans at March 31, 2005 decreased $1.1 million to $131.8 million from $132.9 million at year-end 2004. The decrease in and composition of the loan portfolio, by category, as of March 31, 2005 from December 31, 2004 is as follows: Commercial loans decreased by $1.0 million or 1.4% to $65.6 million, consumer and installment loans decreased $216 thousand or 18.7%, home equity loans decreased by $1.2 million, or 4.2% to $27.3 million and commercial real estate loans increased by $1.3 million, or 3.9%, to $34.3 million. Residential mortgage loans remained unchanged at $3.7 million for the comparable period.

The following schedule presents the components of loans, net of unearned income, for each period presented:

	March 31, 2005					December 31, 2004
	Amount		Percent			Amount		Percent
	(Dollars In Thousands)
Commercial and Industrial	$	65,589		49.8	%	$	66,552		50.1	%
Real Estate-Non Residential Properties		34,254		26.0	%		32,953		24.8	%
Residential Properties (1-4 Family)		3,720		2.8	%		3,745		2.8	%
Consumer and installment		941		0.7	%		1,157		0.9	%
Home equity		27,267		20.7	%		28,464		21.4	%
Gross loans		131,771		100.0	%		132,871		100.0	%
Less: Net deferred fees		148					198
Total loans		131,623					132,673
Less: Allowance for loan losses		1,628					1,634
Net Loans	$	129,995				$	131,039

Federal funds sold increased by $9.5 million to $9.5 million at March 31, 2005 from $0 at December 31, 2004. During 2005, deposits grew faster than loans and these funds were mostly invested in Federal funds sold and interest bearing deposits in other banks.

Securities available for sale increased $1.0 million, or 6.0 %, from $17.5 million at year-end 2004 to $18.5 million at March 31, 2005. Securities held to maturity decreased $1.0 million, or 17.3%, from $5.8 million at December 31, 2004 to $4.8 million at March 31, 2005. The Company purchased $2.0 million in new securities in the first three months of 2005 and $1.8 million in securities matured, were called or were prepaid. There were $255 thousand in recorded unrealized losses in the available for sale portfolio and $18 thousand in net amortization expenses during the first three months of 2005.

Total year to date average deposits increased $7.5 million, or 4.9%, to $160.9 million during the first three months of 2005 from the twelve-month average of $153.4 million for the year ended December 31, 2004. NOW deposits increased by $3.5 million, savings deposits increased by $476 thousand, money market deposits increased $1.8 million and demand deposits increased by $3.5 million. Time deposits decreased $1.9 million. As discussed earlier, the increase in demand and NOW deposits was due to an ongoing deposit promotion that began in the second quarter of 2001. After aggressively pricing time deposits in 2002, many of those deposits have since repriced at lower market rates of interest or left the Bank and the decrease in the average rate of time deposits during 2005 reflects the reduction of interest expense of time deposits. Management continues to monitor the shift in deposits through its Investment and Asset/Liability Committee.

ASSET QUALITY

At March 31, 2005 and December 31, 2004 the Company had no non-accrual loans. Management continues to monitor the Company’s asset quality and believes that the allowance for loan losses is adequate to provide for losses inherent in the portfolio.

The following table provides information regarding risk elements in the loan portfolio:

	March 31, 2005			December 31, 2004
	(dollars in thousands)
Non-accrual loans	$	—		$	—
Non-accrual loans to total loans		0.00	%		0.00	%
Non-performing assets to total assets		0.00	%		0.00	%
Allowance for loan losses as a % of non-performing loans		NM			NM
Allowance for loan losses to total loans		1.24	%		1.23	%

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Non-Performing Assets

Loans are considered to be non-performing if they are (i) on a non-accrual basis, (ii) are past due ninety (90) days or more and still accruing interest, or (iii) have been renegotiated to provide a reduction of deferral of interest because of a weakening in the financial position of the borrowers. A loan which is past due ninety (90) days or more and still accruing interest remains on accrual status only when it is both adequately secured as to principal and is in the process of collection. The Bank did not have any non-performing loans at March 31, 2005 and December 31, 2004.

ALLOWANCE FOR LOAN LOSSES

The allowance for loan losses is maintained at a level considered adequate to provide for potential loan losses. The level of the allowance is based on management’s evaluation of estimated losses in the portfolio, after consideration of risk characteristics of the loans and prevailing and anticipated economic conditions. Provisions are charged to expense and the allowance is reduced by charge-offs, net of recoveries, and is increased by the provision. Although management strives to maintain an allowance it deems adequate, future economic changes, deterioration of borrowers’ creditworthiness, and the impact of examinations by regulatory agencies all could cause changes to the Company’s allowance for loan losses.

At March 31, 2005, the allowance for loan losses remained consistent at $1.6 million compared to year-end 2004. There were $13 thousand in charge offs and $7 thousand in recoveries reported in the first three months of 2005. The allowance for loan losses as a percentage of total loans was 1.24% at March 31, 2005 compared to 1.23% at December 31, 2004.

LIQUIDITY MANAGEMENT

At March 31, 2005, the amount of liquid assets remained at a level management deemed adequate to ensure that contractual liabilities, depositors’ withdrawal requirements, and other operational and customer credit needs could be satisfied.

At March 31, 2005, liquid assets (cash and due from banks, federal funds sold, and investment securities available for sale) were approximately $34.3 million, which represents 17.8% of total assets and 20.3% of total deposits and borrowings.

It is management’s intent to fund future loan demand primarily with deposits. In addition, the Bank is a member of the Federal Home Loan Bank of New York and has the ability to borrow a total of $48.3 million (subject to available qualified collateral, with current borrowings of $1.0 outstanding at March 31, 2005). At March 31, 2005 outstanding commitments to extend credit were $82.5 million and available line of credit balances totaled $17.5 million. Management believes that our combined aggregate liquidity position is sufficient to meet the funding requirements of loan demand and deposit maturities and withdrawals over the next twelve months.

Total stockholders’ equity increased to $23.1 million at March 31, 2005. Activity in stockholder’s equity consisted of a decrease in accumulated deficit of $262 thousand which represents the net income earned during the first three months of 2005 and an increase in accumulated comprehensive loss resulting from a net change in unrealized loss on securities available for sale of $190 thousand. Common stock also increased by $27 thousand from the exercise of warrants and stock options during the first three months of 2005.

At March 31, 2005 the Company and the Bank exceeded each of the regulatory capital requirements applicable to them. The table below presents the capital ratios at March 31, 2005, for the Company and the Bank, as well as the minimum regulatory requirements.

	Amount		Ratio			Amount		Minimum Ratio
The Bank:
Leverage Capital	$	18,110		9.80	%	$	7,392		4	%
Tier 1-Risk Based	$	18,110		10.42	%	$	6,949		4	%
Total Risk-Based	$	19,738		11.36	%	$	13,898		8	%
The Company:
Leverage Capital	$	22,212		12.02	%	$	7,392		4	%
Tier 1-Risk Based	$	22,212		12.79	%	$	6,949		4	%
Total Risk-Based	$	23,840		13.72	%	$	13,898		8	%

ITEM 3 – CONTROLS AND PROCEDURES

(a)	Evaluation of disclosure controls and procedures
	The Company carried out an evaluation, under the supervision and with the participation of the Company’s management, including the Company’s Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures pursuant to Exchange Act Rule 13a-15. Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that as of the end of the period reported on in this report, the Company’s disclosure controls and procedures are effective in timely alerting them to material information relating to the Company (including its consolidated subsidiaries) required to be included in the Company’s periodic SEC filings.
(b)	Changes in internal controls.
	Not applicable

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Part II Other Information

Item 1. Legal Proceedings

The Company and the Bank are periodically involved in various legal proceedings as a normal incident to their businesses. In the opinion of management, no material loss is expected from any such pending lawsuit.

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

Not applicable – the Registrant did not repurchase any equity securities during the quarter ended March 31, 2005, and has no repurchase plans in effect.

Item 3. Defaults Upon Senior Securities

Not applicable

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

No matters were submitted to a vote of security holders during the quarter reported on.

Item 5. Other Information

Not applicable

Item 6. Exhibits

Exhibits

Exhibit 31.1 – Certification of Stewart E. McClure, Jr. pursuant to SEC Rule 13a-14(a)

Exhibit 31.2 – Certification of Gerard Riker pursuant to SEC Rule 13a-14(a)

Exhibit 32 – Certification Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

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SIGNATURE

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.

	SOMERSET HILLS BANCORP
Date: May 6, 2005	By:	/s/ Gerard Riker
		GERARD RIKER
		Executive Vice President and
		Chief Financial Officer

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