Historically, there have been two widely-used methods for quantifying the effects of financial statement misstatements. These methods are referred to as the “roll-over” and “iron curtain” method. The roll-over method quantifies the amount by which the current year income statement is misstated. Exclusive reliance on an income statement approach can result in the accumulation of errors on the balance sheet that may not have been material to any individual income statement, but which may misstate one or more balance sheet accounts. The iron curtain method quantifies the error as the cumulative amount by which the current year balance sheet is misstated. Exclusive reliance on a balance sheet approach can result in disregarding the effects of errors in the current year income statement that results from the correction of an error existing in previously issued financial statements. We currently use the roll-over method for quantifying identified financial statement misstatements.
SAB 108 established an approach that requires quantification of financial statement misstatements based on the effects of the misstatement on each of the company’s financial statements and the related financial statement disclosures. This approach is commonly referred to as the “dual approach” because it requires quantification of errors under both the roll-over and iron curtain methods.
SAB 108 allows registrants to initially apply the dual approach either by (1) retroactively adjusting prior financial statements as if the dual approach had always been used, or by (2) recording the cumulative effect of initially applying the dual approach as adjustments to the carrying values of assets and liabilities as of July 1, 2006, with an offsetting adjustment recorded to the opening balance of retained earnings as of that date. Use of this “cumulative effect” transition method requires detailed disclosure of the nature and amount of each individual error being corrected through the cumulative adjustment and how and when it arose.
Management is currently evaluating the requirements of SAB 108 but does not expect it to have a material adverse effect on the Company’s financial position or results of operations.
In July 2006, the FASB issued FASB Interpretation No. 48 (“FIN 48”), “Accounting for Uncertainty in Income Taxes.” The interpretation clarifies the accounting for uncertainty in income taxes recognized in a company’s financial statements in accordance with SFAS No. 109, “Accounting for Income Taxes.” Specifically, FIN 48 prescribes a recognition threshold and a measurement attribute for the financial statement recognition and measurement of a tax provision taken or expected to be taken on a tax return. FIN 48 also provides guidance on the related derecognition, classification, interest and penalties, accounting for interim periods, disclosure, and transition of uncertain tax positions. FIN 48 is effective for fiscal years beginning after December 15, 2006, or July 1, 2007 as to the Company. The Company is currently evaluating the requirements of FIN 48 and has not quantified the possible effects of adoption, if any.
In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements.” This Statement defines fair value, establishes a framework for measuring fair value and expands disclosures about fair value measurements. This Statement emphasizes that fair value is a market-based measurement and should be determined based on assumptions that a market participant would use when pricing an asset or liability. This Statement clarifies that market participant assumptions should include assumptions about risk as well as the effect of a restriction on the sale or use of an asset. Additionally, this Statement establishes a fair value hierarchy that provides the highest priority to quoted prices in active markets and the lowest priority to unobservable data. This Statement is effective for fiscal years beginning after November 15, 2007, or July 1, 2008 for the Company. The adoption of this Statement is not expected to have a material effect on the Company’s Consolidated Financial Statements.
Kentucky First Federal Bancorp
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Forward-Looking Statements
Certain statements contained in this report that are not historical facts are forward-looking statements that are subject to certain risks and uncertainties. When used herein, the terms “anticipates,” “plans,” “expects,” “believes,” and similar expressions as they relate to Kentucky First Federal Bancorp or its management are intended to identify such forward looking statements. Kentucky First Federal Bancorp’s actual results, performance or achievements may materially differ from those expressed or implied in the forward-looking statements. Risks and uncertainties that could cause or contribute to such material differences include, but are not limited to, general economic conditions, prices for real estate in the Company’s market areas, interest rate environment, competitive conditions in the financial services industry, changes in law, governmental policies and regulations, and rapidly changing technology affecting financial services.
Discussion of Financial Condition Changes from June 30, 2006 to September 30, 2006
Assets: At September 30, 2006, the Company’s assets totaled $266.5 million, an increase of $4.6 million, or 1.7%, from total assets at June 30, 2006. The primary reason for the increase in assets was an increase of $5.3 million, or 3.4%, in loans receivable, which increased to $160.7 million at September 30, 2006. The increase in assets was primarily funded by an increase in short term Federal Home Loan Bank advances. It is anticipated that such advances will be repaid as the Company’s short-term, lower-yielding investment securities mature over the next three years. Management has emphasized the origination and retention of adjustable rate mortgage loans and, as the ability to make such loans changes with market conditions, believes it is prudent to continue to originate such loans with the funding that is available.
Cash and cash equivalents: Cash and cash equivalents decreased by $518,000 or 22.6%. It is the Company’s preference to minimize the level of cash and cash equivalents and invest liquidity into higher-yielding assets, when possible. Cash was drawn down to partially fund the overall increase in loans which is discussed more fully under “Loans.”
Loans: Loans receivable, net, increased to $160.7 million at September 30, 2006, an increase of $5.3 million or 3.4%. Management believes that the successful redeployment of the Company’s funds from lower-yielding cash, cash equivalents and investment securities to higher-yielding mortgage loans is important for the long-term success of the Company. The Company will continue to emphasize loan originations to the extent that it is profitable and prudent.
Non-Performing Assets: At September 30, 2006, the Company had approximately $1.4 million (0.9% of net loans) in loans 90 days or more past due, the same as at June 30, 2006. At September 30, 2006, the Company’s allowance for loan losses of $720,000 represented 53.0% of nonperforming loans and 0.5% of total loans.
The Company had $1.7 million in loans classified as substandard for regulatory purposes at September 30, 2006. On a percentage basis, classified loans remained constant at 1.1% of net loans at both June 30, 2006 and September 30, 2006. Substandard assets included 32 single-family home loans with loan-to-value ratios (percentage of loan balance to the original or an updated appraisal) ranging from 20% to 90%; two home equity lines of credit secured by single-family homes; and two single-family homes acquired through foreclosure (with a combined fair value of $51,000). At September 30, 2006, the Company had $685,000 in loans classified as special mention. This category includes assets which do not currently expose us to a sufficient degree of risk to warrant classification, but do possess credit deficiencies or potential weaknesses deserving our close attention.
At September 30, 2006, no loans were classified as doubtful or loss for regulatory purposes.
14
Kentucky First Federal Bancorp
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Discussion of Financial Condition Changes from June 30, 2006 to September 30, 2006 (continued)
Investment and Mortgage-Backed Securities: At September 30, 2006, the Company’s investment and mortgage-backed securities had decreased $513,000 or 0.7% to $76.9 million. This decrease was due primarily to repayment of principal on mortgage-backed securities and was partially offset by an increase of $265,000 in the market value of those investments and mortgage-backed securities held as available for sale. Approximately $44.9 million of the Company’s investment and agency securities are scheduled to mature within the next three years with another $5.0 million scheduled to mature within five years.
Liabilities: At September 30, 2006, the Company’s liabilities totaled $202.9 million, an increase of $4.9 million, or 2.5%, from total liabilities at June 30, 2006. The increase in liabilities was attributed primarily to an $8.0 million, or 14.5%, increase in Federal Home Loan Bank advances, which increased to $62.8 million at September 30, 2006. Advances were utilized to fund the increase in loans during the period as well as offset a reduction of $4.3 million, or 3.1% in deposits, which totaled to $136.9 million at September 30, 2006. Deposits have decreased as market interest rates have increased. At times, the Company has chosen not to meet market rates if the deposits cannot be invested profitably in interest-earning assets. As stated previously, management anticipates reducing the level of Federal Home Loan Bank advances as lower-yielding investment securities mature over the next three years.
Shareholders’ Equity: At September 30, 2006, the Company’s shareholders’ equity totaled $63.6 million, a decrease of $323,000 or 0.5% from the June 30, 2006 total. The primary reason for the decrease in shareholders’ equity is the acquisition of $425,000 of treasury shares at an average cost of $10.31, which were added to the Company’s treasury.
Comparison of Operating Results for the Three-Month Periods Ended September 30, 2006 and 2005
General
Net earnings totaled $234,000 for the three months ended September 30, 2006, a decrease of $257,000, or 52.3% from the $491,000 in net earnings for the same period in 2005. The decrease was primarily attributable to a decline in net interest income and an increase in general, administrative and other expense.
Net Interest Income
Net interest income declined $251,000 or 14.9% to $1.4 million for the three month period ended September 30, 2006, compared to the 2005 period, due to increased cost of funds. Interest income increased by $9,000, or 0.3%, while interest expense increased $260,000 or 17.0% to $1.8 million for the three months ended September 30, 2006. The growth in interest expense was attributable to increased costs for both deposits and advances.
Interest expense on deposits increased $155,000 or 16.3% to $1.1 million, while interest expense on advances increased $105,000, or 18.2%, to $681,000 for the 2006 quarter compared to the prior year quarter. The increase in interest expense on deposits was due an increase in the average rate paid on deposits, as the average balance of deposits outstanding declined year over year. The average rate paid on deposits increased 98 basis points to 3.12% for the three month period ended September 30, 2006, while the average balance outstanding declined 15.9% to $142.1 million for the current quarter. The increase in interest expense on advances was related primarily to an increase of $7.2 million or 14.1% in the average balance of advances outstanding, which increased to $58.0 million for the three month period ended September 30, 2006. Also contributing to the increase in interest expense on advances was a 17 basis point increase in the average rate paid on those borrowings, which increased to 4.7% for the 2006 quarter.
15
Kentucky First Federal Bancorp
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Comparison of Operating Results for the Three-Month Periods Ended September 30, 2006 and 2005 (continued)
Net Interest Income (continued)
Net interest margin decreased by 32 basis points to 2.35% for the three months ended September 30, 2006, compared to 2.67% for the comparable 2005 quarter.
Provision for Losses on Loans
The Company charges a provision for losses on loans to earnings to bring the total allowance for loan losses to a level considered appropriate by management based on historical experience, the volume and type of lending conducted by the Banks, the status of past due principal and interest payments, general economic conditions, particularly as such conditions relate to the Banks’ market areas and other factors related to the collectibility of the Banks’ loan portfolio. The Company recorded no provision for losses on loans during the three months ended September 30, 2006, compared to a provision of $14,000, for the comparable three-month period in 2005. The lack of a provision for the most recent period was predicated on the factors set forth above. There can be no assurance that the loan loss allowance will be adequate to absorb unidentified losses on loans in the portfolio, which could adversely affect the Company’s results of operations.
Other Income
Other income totaled $36,000 for the three months ended September 30, 2006, a decrease of $23,000 from the same period in 2005. The decrease in the 2006 period is attributable to a decline of $17,000 of gain on the sale of loans.
General, Administrative and Other Expense
General, administrative and other expense totaled $1.1 million for the three months ended September 30, 2006, an increase of $98,000, or 9.6%, compared to the same period in 2005. This increase was due primarily to an increase in employee compensation and benefits, which totaled $803,000 for the three months ended September 30, 2006, an increase of $147,000, or 22.4%, from the same period in 2005. The increase in employee compenation and benefits is primarily related to expenses associated with the Company’s 2005 Equity Incentive Plan and increased costs associated with retirement plans. The expenses associated with the Equity Incentive Plan totaled $103,000 for the recent quarterly period, compared to no expense for the prior year period, while expenses associated with the Company’s defined benefit retirement plans increased $65,000 or 89.7% to $138,000 for the three month period ended September 30, 2006.
Federal Income Taxes
The provision for federal income taxes totaled $112,000 for the three months ended September 30, 2006, a decrease of $101,000, or 47.4%, compared to the same period in 2005. The effective tax rates were 32.4% and 30.3% for the three-month periods ended September 30, 2006 and 2005, respectively.
16
Kentucky First Federal Bancorp
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
ITEM 3: Quantitative and Qualitative Disclosures About Market Risk
There has been no material change in the Company’s market risk since the disclosure included under the heading “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Asset and Liability Management” in the Company’s Form 10-K filed September 28, 2006.
ITEM 4: Controls and Procedures
The Company’s Chief Executive Officer and Chief Financial Officer have evaluated the Company’s disclosure controls and procedures (as defined under Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934, as amended) as of the end of the period covered by this report. Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer have concluded that the Company’s disclosure controls and procedures are effective. During the quarterly period ended September 30, 2006, there were no changes in the Company’s internal control over financial reporting which materially affected, or are reasonably likely to materially affect, the Company’s internal controls over financial reporting.
17
Kentucky First Federal Bancorp
PART II
ITEM 1. | Legal Proceedings |
| |
| Not applicable. |
| |
ITEM 1A. | Risk Factors |
| |
| The Registrant’s risk factors have not changed from those set forth in the Annual Report on Form 10-K. |
| |
ITEM 2. | Unregistered Sales of Equity Securities and Use of Proceeds |
| |
| (c) | The following table sets forth information regarding Company’s repurchases of its common stock during the quarter ended September 30, 2006. |
Period | | Total # of
shares
purchased | | Average
price paid
per share
(incl commissions) | | Total # of
shares as part of publicly announced plans or programs | | Maximum # of shares that may yet be purchased under the plans or programs | |
| |
|
| |
|
| |
|
| |
|
| |
July 1-31, 2006 | | | — | | $ | — | | | — | | | 156,117 | |
August 1-31, 2006 | | | 24,125 | | $ | 10.31 | | | 24,125 | | | 131,992 | |
September 1-30, 2006 | | | 17,000 | | $ | 10.31 | | | 17,000 | | | 122,492 | |
| (1) On December 14, 2005, the Company announced a program to repurchase up to 168,486 shares of its Common Stock. This program was completed on June 1, 2006 when the Company completed the repurchase of substantially all shares authorized under this program, and announced another program to repurchase up to 193,000 shares of its Common Stock. |
| |
ITEM 3. | Defaults Upon Senior Securities |
| |
| Not applicable. |
| |
ITEM 4. | Submission of Matters to a Vote of Security Holders |
| |
| None. |
| |
ITEM 5. | Other Information |
| |
| None. |
| |
ITEM 6. | Exhibits |
| 31.1 | CEO Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
| | |
| 31.2 | CFO Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
| | |
| 32.1 | CEO Certification Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
| | |
| 32.2 | CFO Certification Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
18
Kentucky First Federal Bancorp
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.
| KENTUCKY FIRST FEDERAL BANCORP |
| | |
| | |
Date: November 14, 2006 | By: | /s/ Tony D. Whitaker |
| |
|
| | Tony D. Whitaker |
| | Chairman of the Board and Chief Executive Officer |
| | |
| | |
Date: November 14, 2006 | By: | /s/ R. Clay Hulette |
| |
|
| | R. Clay Hulette |
| | Vice President and Chief Financial Officer |
19
