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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
x | QUARTERLY REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended September 30, 2006
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 0-15137
MASSBANK Corp.
(Exact name of registrant as specified in its charter)
Delaware | 04-2930382 | |
(State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification No.) |
123 HAVEN STREET
Reading, Massachusetts 01867
(Address of principal executive offices, including Zip Code)
Registrant’s telephone number, including area code: (781) 662-0100
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No ¨
Indicate by check mark whether the registrant 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 (check one):
Large accelerated filer ¨ Accelerated filer x Non-accelerated filer ¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act) ¨ Yes x No
The number of shares outstanding of the issuer’s classes of common stock, as of the latest practicable date is:
Class: Common stock $1.00 per share.
Outstanding at October 31, 2006: 4,318,004 shares.
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MASSBANK CORP. AND SUBSIDIARIES
INDEX
PART I - FINANCIAL INFORMATION
Page | ||||
ITEM 1. | Financial Statements | |||
Consolidated Balance Sheets as of September 30, 2006 (Unaudited) and December 31, 2005 (Audited) | 3 | |||
4 | ||||
5 | ||||
Consolidated Statements of Changes in Stockholders’ Equity for the nine months ended September 30, 2006 and 2005 (Unaudited) | 6 - 7 | |||
8 - 9 | ||||
10 -17 | ||||
ITEM 2. | Management’s Discussion and Analysis of Financial Condition and Results of Operations | 18 - 44 | ||
ITEM 3. | Quantitative and Qualitative Disclosures About Market Risk | 45 | ||
ITEM 4. | Controls and Procedures | 46 | ||
PART II - OTHER INFORMATION | ||||
ITEM 1. | Legal Proceedings | 47 | ||
ITEM 1A. | Risk Factors | 47 | ||
ITEM 2C. | Share Repurchases | 47 - 48 | ||
ITEM 3. | Defaults Upon Senior Securities | 48 | ||
ITEM 4. | Submission of Matters to a Vote of Security Holders | 48 | ||
ITEM 5. | Other Information | 48 | ||
ITEM 6. | Exhibits | 48 | ||
Signature Page | 49 |
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MASSBANK CORP. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands except share data)
(Unaudited)
September 30, 2006 | December 31, 2005 | |||||||
Assets: | ||||||||
Cash and due from banks | $ | 8,489 | $ | 9,590 | ||||
Short-term investments (Note 5) | 138,854 | 167,787 | ||||||
Total cash and cash equivalents | 147,343 | 177,377 | ||||||
Term federal funds sold | 15,000 | — | ||||||
Interest-bearing deposits in banks | — | 898 | ||||||
Securities available for sale, at market value (amortized cost of $434,564 in 2006 and $458,297 in 2005) | 429,013 | 453,472 | ||||||
Mortgage-backed securities held to maturity, at amortized cost (market value of $5,277 in 2006 and $6,022 in 2005) | 5,416 | 6,137 | ||||||
Trading securities, at market value | 369 | 9,282 | ||||||
Loans: (Note 6) | ||||||||
Mortgage loans | 204,036 | 215,904 | ||||||
Other loans | 9,840 | 9,826 | ||||||
Allowance for loan losses | (1,395 | ) | (1,253 | ) | ||||
Net loans | 212,481 | 224,477 | ||||||
Premises and equipment | 7,476 | 6,525 | ||||||
Accrued interest receivable | 5,573 | 3,898 | ||||||
Goodwill | 1,090 | 1,090 | ||||||
Income tax receivable, net | 246 | — | ||||||
Deferred income tax asset, net | 3,587 | 3,240 | ||||||
Other assets | 18,333 | 12,283 | ||||||
Total assets | $ | 845,927 | $ | 898,679 | ||||
Liabilities and Stockholders’ Equity: | ||||||||
Deposits | $ | 729,411 | $ | 784,728 | ||||
Escrow deposits of borrowers | 992 | 1,059 | ||||||
Current income tax liability, net | — | 35 | ||||||
Allowance for loan losses on off-balance sheet credit exposures | 336 | 517 | ||||||
Other liabilities | 9,286 | 7,076 | ||||||
Total liabilities | 740,025 | 793,415 | ||||||
Stockholders’ Equity: | ||||||||
Preferred stock, par value $1.00 per share; 2,000,000 shares authorized, none issued | — | — | ||||||
Common stock, par value $1.00 per share; 10,000,000 shares authorized, 7,840,167 and 7,811,680 shares issued, respectively | 7,840 | 7,812 | ||||||
Additional paid-in capital | 57,695 | 57,067 | ||||||
Retained earnings | 106,532 | 104,743 | ||||||
172,067 | 169,622 | |||||||
Treasury stock at cost, 3,525,663 and 3,483,163 shares, respectively | (62,672 | ) | (61,281 | ) | ||||
Accumulated other comprehensive loss | (3,493 | ) | (3,077 | ) | ||||
Shares held in rabbi trust at cost, 16,744 and 15,644 shares, respectively (Note 8) | (386 | ) | (351 | ) | ||||
Deferred compensation obligation | 386 | 351 | ||||||
Total stockholders’ equity | 105,902 | 105,264 | ||||||
Total liabilities and stockholders’ equity | $ | 845,927 | $ | 898,679 |
See accompanying condensed notes to consolidated financial statements.
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MASSBANK CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(Unaudited)
Three Months Ended September 30, | ||||||
(In thousands except share data) | 2006 | 2005 | ||||
Interest and dividend income: | ||||||
Mortgage loans | $ | 2,799 | $ | 2,998 | ||
Other loans | 200 | 181 | ||||
Securities available for sale: | ||||||
Mortgage-backed securities | 1,799 | 1,737 | ||||
Other securities | 3,146 | 2,450 | ||||
Mortgage-backed securities held to maturity | 73 | 59 | ||||
Trading securities | 38 | 187 | ||||
Federal funds sold | 1,923 | 1,722 | ||||
Other investments | 74 | 12 | ||||
Total interest and dividend income | 10,052 | 9,346 | ||||
Interest expense: | ||||||
Deposits | 4,872 | 3,878 | ||||
Total interest expense | 4,872 | 3,878 | ||||
Net interest income | 5,180 | 5,468 | ||||
Provision for loan losses | 82 | — | ||||
Net interest income after provision for loan losses | 5,098 | 5,468 | ||||
Non-interest income: | ||||||
Deposit account service fees | 84 | 100 | ||||
Gains on securities available for sale, net | 80 | 177 | ||||
Gains on trading securities, net | 88 | 61 | ||||
Deferred compensation plan income | 48 | 49 | ||||
Other | 147 | 167 | ||||
Total non-interest income | 447 | 554 | ||||
Non-interest expense: | ||||||
Salaries and employee benefits | 1,808 | 1,877 | ||||
Deferred compensation plan expense | 69 | 71 | ||||
Occupancy and equipment | 490 | 521 | ||||
Data processing | 146 | 137 | ||||
Professional services | 113 | 115 | ||||
Advertising and marketing | 46 | 44 | ||||
Deposit insurance | 31 | 35 | ||||
Other | 226 | 376 | ||||
Total non-interest expense | 2,929 | 3,176 | ||||
Income before income taxes | 2,616 | 2,846 | ||||
Income tax expense | 885 | 962 | ||||
Net income | $ | 1,731 | $ | 1,884 | ||
Weighted average common shares outstanding: | ||||||
Basic | 4,315,211 | 4,342,872 | ||||
Diluted | 4,349,187 | 4,397,998 | ||||
Earnings per share (in dollars): | ||||||
Basic | $ | 0.40 | $ | 0.43 | ||
Diluted | 0.40 | 0.43 |
See accompanying condensed notes to consolidated financial statements.
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MASSBANK CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(Unaudited)
Nine Months Ended September 30, | |||||||
(In thousands except share data) | 2006 | 2005 | |||||
Interest and dividend income: | |||||||
Mortgage loans | $ | 8,554 | $ | 9,148 | |||
Other loans | 570 | 507 | |||||
Securities available for sale: | |||||||
Mortgage-backed securities | 5,469 | 5,211 | |||||
Other securities | 9,025 | 7,158 | |||||
Mortgage-backed securities held to maturity | 229 | 181 | |||||
Trading securities | 194 | 620 | |||||
Federal funds sold | 5,727 | 4,310 | |||||
Other investments | 86 | 45 | |||||
Total interest and dividend income | 29,854 | 27,180 | |||||
Interest expense: | |||||||
Deposits | 13,845 | 11,013 | |||||
Total interest expense | 13,845 | 11,013 | |||||
Net interest income | 16,009 | 16,167 | |||||
Provision (credit) for loan losses | 132 | (53 | ) | ||||
Net interest income after provision (credit) for loan losses | 15,877 | 16,220 | |||||
Non-interest income: | |||||||
Deposit account service fees | 258 | 301 | |||||
Gains on securities available for sale, net | 429 | 307 | |||||
Gains on trading securities, net | 109 | 119 | |||||
Deferred compensation plan income | 109 | 59 | |||||
Other | 525 | 550 | |||||
Total non-interest income | 1,430 | 1,336 | |||||
Non-interest expense: | |||||||
Salaries and employee benefits | 5,544 | 5,572 | |||||
Deferred compensation plan expense | 172 | 125 | |||||
Occupancy and equipment | 1,702 | 1,649 | |||||
Data processing | 417 | 404 | |||||
Professional services | 414 | 380 | |||||
Advertising and marketing | 102 | 104 | |||||
Deposit insurance | 96 | 110 | |||||
Other | 821 | 1,035 | |||||
Total non-interest expense | 9,268 | 9,379 | |||||
Income before income taxes | 8,039 | 8,177 | |||||
Income tax expense | 2,743 | 2,742 | |||||
Net income | $ | 5,296 | $ | 5,435 | |||
Weighted average common shares outstanding: | |||||||
Basic | 4,327,930 | 4,377,372 | |||||
Diluted | 4,363,386 | 4,440,659 | |||||
Earnings per share (in dollars): | |||||||
Basic | $ | 1.22 | $ | 1.24 | |||
Diluted | 1.21 | 1.22 |
See accompanying condensed notes to consolidated financial statements.
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MASSBANK CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY
For The Nine Months Ended September 30, 2006 (Unaudited)
(In thousands except share data)
COMMON STOCK | ADDITIONAL PAID-IN CAPITAL | RETAINED EARNINGS | TREASURY STOCK | ACCUMULATED OTHER COMPREHENSIVE LOSS | SHARES HELD IN RABBI TRUST | DEFERRED COMPENSATION OBLIGATION | TOTAL | ||||||||||||||||||||||
Balance at December 31, 2005 | $ | 7,812 | $ | 57,067 | $ | 104,743 | $ | (61,281 | ) | $ | (3,077 | ) | $ | (351 | ) | $ | 351 | $ | 105,264 | ||||||||||
Net Income | — | — | 5,296 | — | — | — | — | 5,296 | |||||||||||||||||||||
Other comprehensive loss, net of tax: | |||||||||||||||||||||||||||||
Unrealized losses on securities, net of reclassification adjustment (Note 10) | — | — | — | — | (416 | ) | — | — | (416 | ) | |||||||||||||||||||
Comprehensive income | 4,880 | ||||||||||||||||||||||||||||
Cash dividends paid ($0.81 per share) | — | — | (3,507 | ) | — | — | — | — | (3,507 | ) | |||||||||||||||||||
Purchase of treasury stock | — | — | — | (1,391 | ) | — | — | — | (1,391 | ) | |||||||||||||||||||
Purchase of company stock for deferred compensation plan | — | — | — | — | — | (35 | ) | 35 | — | ||||||||||||||||||||
Share-based payment compensation | — | 50 | — | — | — | — | — | 50 | |||||||||||||||||||||
Exercise of stock options | 28 | 492 | — | — | — | — | — | 520 | |||||||||||||||||||||
Tax benefit on stock options exercised | — | 86 | — | — | — | — | — | 86 | |||||||||||||||||||||
Balance at September 30, 2006 | $ | 7,840 | $ | 57,695 | $ | 106,532 | $ | (62,672 | ) | $ | (3,493 | ) | $ | (386 | ) | $ | 386 | $ | 105,902 |
See accompanying condensed notes to consolidated financial statements.
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MASSBANK CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY
For The Nine Months Ended September 30, 2005 (Unaudited)
(In thousands except share data)
COMMON STOCK | ADDITIONAL PAID-IN CAPITAL | RETAINED EARNINGS | TREASURY STOCK | ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS) | SHARES HELD IN RABBI TRUST | DEFERRED COMPENSATION OBLIGATION | TOTAL | |||||||||||||||||||||||
Balance at December 31, 2004 | $ | 7,736 | $ | 55,313 | $ | 102,003 | $ | (56,794 | ) | $ | 1,757 | $ | (553 | ) | $ | 553 | $ | 110,015 | ||||||||||||
Net Income | — | — | 5,435 | — | — | — | — | 5,435 | ||||||||||||||||||||||
Other comprehensive loss, net of tax: | ||||||||||||||||||||||||||||||
Unrealized losses on securities, net of reclassification adjustment (Note 10) | — | — | — | — | (3,974 | ) | — | — | (3,974 | ) | ||||||||||||||||||||
Comprehensive income | 1,461 | |||||||||||||||||||||||||||||
Cash dividends paid ($0.78 per share) | — | — | (3,413 | ) | — | — | — | — | (3,413 | ) | ||||||||||||||||||||
Purchase of treasury stock | — | — | — | (4,138 | ) | — | — | — | (4,138 | ) | ||||||||||||||||||||
Purchase of company stock for deferred compensation plan | — | — | — | — | — | (14 | ) | 14 | — | |||||||||||||||||||||
Distribution of company stock from deferred compensation plan | — | — | — | — | — | 232 | (232 | ) | — | |||||||||||||||||||||
Exercise of stock options | 58 | 1,094 | — | — | — | — | — | 1,152 | ||||||||||||||||||||||
Tax benefit on stock options exercised | — | 263 | — | — | — | — | — | 263 | ||||||||||||||||||||||
Balance at September 30, 2005 | $ | 7,794 | $ | 56,670 | $ | 104,025 | $ | (60,932 | ) | $ | (2,217 | ) | $ | (335 | ) | $ | 335 | $ | 105,340 |
See accompanying condensed notes to consolidated financial statements.
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MASSBANK CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
Nine Months Ended September 30, | ||||||||
2006 | 2005 | |||||||
(In thousands) | ||||||||
Cash flows from operating activities: | ||||||||
Net income | $ | 5,296 | $ | 5,435 | ||||
Adjustments to reconcile net income to net cash provided by operating activities: | ||||||||
Depreciation and amortization | 562 | 447 | ||||||
Share-based payment compensation | 50 | — | ||||||
Loan interest capitalized | (8 | ) | (7 | ) | ||||
Increase in accrued interest receivable | (1,675 | ) | (852 | ) | ||||
(Decrease) increase in other liabilities | 226 | (179 | ) | |||||
(Increase) decrease in income tax receivable, net | (246 | ) | 119 | |||||
Amortization of premiums (accretion of discounts) on securities, net | 15 | (33 | ) | |||||
Net trading securities activity | 9,022 | 36,329 | ||||||
Gains on securities available for sale, net | (429 | ) | (307 | ) | ||||
Gains on trading securities, net | (109 | ) | (119 | ) | ||||
Increase in net deferred mortgage loan origination costs, net of amortization | (18 | ) | (86 | ) | ||||
(Increase) decrease in deferred income tax asset, net | (35 | ) | 229 | |||||
Decrease in current tax liability | (35 | ) | — | |||||
Decrease (increase) in other assets | (4,068 | ) | 584 | |||||
Provision (credit) for loan losses | 132 | (53 | ) | |||||
Provision (credit) for loan losses on off-balance sheet credit exposures | (181 | ) | — | |||||
Gain on sale of equipment | (3 | ) | — | |||||
Net cash provided by operating activities | 8,496 | 41,507 | ||||||
Cash flows from investing activities: | ||||||||
Purchases of term federal funds | (15,000 | ) | (15,000 | ) | ||||
Net decrease in interest-bearing bank deposits | 898 | 1,606 | ||||||
Proceeds from sales of investment securities available for sale | 15,565 | 24,732 | ||||||
Proceeds from maturities and redemption of investment securities available for sale | 75,000 | 86,959 | ||||||
Purchases of investment securities available for sale | (70,097 | ) | (95,468 | ) | ||||
Purchases of mortgage-backed securities available for sale | (15,971 | ) | (32,662 | ) | ||||
Principal repayments of mortgage-backed securities | 20,371 | 24,445 | ||||||
Loans originated | (17,096 | ) | (40,009 | ) | ||||
Loan principal payments received | 28,986 | 45,224 | ||||||
Purchases of premises & equipment | (1,513 | ) | (163 | ) | ||||
Proceeds from sale of equipment | 3 | — | ||||||
Net cash provided by (used in) investing activities | 21,146 | (336 | ) | |||||
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MASSBANK CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (continued)
(Unaudited)
Nine Months Ended September 30, | ||||||||
2006 | 2005 | |||||||
(In thousands) | ||||||||
Cash flows from financing activities: | ||||||||
Net decrease in deposits | (55,317 | ) | (46,868 | ) | ||||
Decrease in escrow deposits of borrowers | (67 | ) | (65 | ) | ||||
Payments to acquire treasury stock | (1,391 | ) | (4,138 | ) | ||||
Purchase of company stock for deferred compensation plan | (35 | ) | (14 | ) | ||||
Increase in deferred compensation obligation | 35 | 14 | ||||||
Proceeds from exercise of stock options, including tax benefit | 606 | 1,415 | ||||||
Cash dividends paid on common stock | (3,507 | ) | (3,413 | ) | ||||
Net cash used in financing activities | (59,676 | ) | (53,069 | ) | ||||
Net decrease in cash and cash equivalents | (30,034 | ) | (11,898 | ) | ||||
Cash and cash equivalents at beginning of period | 177,377 | 204,079 | ||||||
Cash and cash equivalents at end of period | $ | 147,343 | $ | 192,181 | ||||
Supplemental cash flow disclosures: | ||||||||
Cash transactions: | ||||||||
Cash paid during the period for interest | $ | 13,840 | $ | 11,059 | ||||
Cash paid during the period for taxes, net of refunds | 2,973 | 2,132 |
See accompanying condensed notes to consolidated financial statements.
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CONDENSED NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(1) Basis of Presentation
The financial condition and results of operations of MASSBANK Corp. (the “Company”) essentially reflect the operations of its subsidiary, MASSBANK (the “Bank”). All significant intercompany balances and transactions have been eliminated in consolidation.
The accompanying financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America and in the opinion of management, include all adjustments of a normal recurring nature necessary for the fair presentation of the financial condition of the Company as of September 30, 2006 and December 31, 2005, and its operating results for the three months and nine months ended September 30, 2006 and 2005, respectively. The results of operations for any interim period are not necessarily indicative of the results to be expected for the entire year.
Certain amounts in the prior year’s consolidated financial statements were reclassified to facilitate comparison with the current fiscal year.
The information in this report should be read in conjunction with the financial statements and related notes included in the Annual Report on Form 10-K for the year ended December 31, 2005.
(2) Share-Based Payment
Effective January 1, 2006, the Company adopted Statement of Financial Accounting Standards No. 123 (revised 2004), “Share-Based Payment” (SFAS 123R) which requires the measurement and recognition of compensation expense for all stock-based awards made to employees and directors, including stock option grants, based on estimated fair values. SFAS 123(R) supersedes previous accounting under Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees” (APB 25) for periods beginning in fiscal year 2006.
SFAS 123(R) requires companies to estimate the fair value of stock-based awards on the date of grant using an option-pricing model. The value of the portion of the award that is ultimately expected to vest is recognized as expense over the requisite service periods in the Consolidated Statements of Income. The Company adopted SFAS 123(R) using the modified prospective transition method that requires the application of the accounting standard starting the first day of the fiscal year, January 1, 2006 for the Company. Under this method, compensation expense is also recognized for stock based awards that are modified after December 31, 2005. The Company’s Consolidated Financial Statements, as of and for the nine months ended September 30, 2006, reflect the impact of SFAS 123(R). Stock-based compensation expense for the nine months ended September 30, 2006 totaled $50,000. This stock-based compensation expense is related to the 35,000 stock options granted to employees and directors in 2006, net of any forfeitures, accounted for under SFAS 123(R) and to the modification of 11,250 stock options in the second quarter of 2006, due to the retirement of a Company Director. Typically, when a Director ceases to be a Director by reason of the director’s retirement after reaching the mandatory retirement age of 72, the Board has voted to extend the date that the director’s outstanding options shall become fully exercisable from a period of three months from the date of termination to a period of five years from the date of retirement or until the expiration date, if earlier. As required by SFAS 123R, the change in fair value as a result of this modification has been included in expense. The stock options that were granted in 2006 were granted at an exercise price equal to the Company’s closing stock price at the date of grant. The stock options issued vest at 20% per year over 5 years and have a contractual term of ten years.
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CONDENSED NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(2) Share-Based Payment (continued)
Prior to the adoption of SFAS 123(R), the Company accounted for stock-based awards to employees and directors using the intrinsic value method in accordance with APB 25 as allowed under Statement of Financial Accounting Standards No. 123, “Accounting for Stock-Based Compensation” (SFAS 123). Under the intrinsic value based method, no stock-based compensation expense for employee stock options was recognized in the Company’s Consolidated Financial Statements, because the exercise price of the stock options granted to the Company’s employees and directors equaled the fair market value of the underlying stock at the date of grant. In accordance with the modified prospective transition method the Company used in adopting SFAS 123(R), the Company’s earnings results prior to fiscal year 2006 have not been restated to reflect, and do not include, the possible impact of SFAS 123(R). Prior to 2006, the stock options issued by the Company had a contractual term of ten years and vested immediately at the time of issuance.
Upon adoption of SFAS 123(R), the Company selected the Black-Scholes option-pricing model as the most appropriate method for determining the estimated fair value for stock-based awards.
The following table illustrates the effect on net income and earnings per share if the Company had applied the fair value recognition provisions of SFAS No. 123 in 2005.
(In thousands except per share and option data) | Three Months Ended September 30, 2005 | Nine Months Ended September 30, 2005 | |||||
Net income, as reported | $ | 1,884 | $ | 5,435 | |||
Less: Total share-based employee compensation expense associated with stock options determined under fair value method for all option awards, net of related tax effects(1) | — | (161 | ) | ||||
Pro forma net income | $ | 1,884 | $ | 5,274 | |||
EARNINGS PER SHARE: | |||||||
Basic – as reported | $ | 0.43 | $ | 1.24 | |||
Basic – pro forma | 0.43 | 1.20 | |||||
Diluted – as reported | 0.43 | 1.22 | |||||
Diluted – pro forma | 0.43 | 1.19 |
(1) | A Black-Scholes option pricing model was used to determine the fair values of the options granted. |
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CONDENSED NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(3) Recent Accounting Pronouncements:
SFAS No. 157,Fair Value Measurements
In September 2006, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 157, Fair Value Measurements, which defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements. The provisions of SFAS No. 157 are effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. The Company is currently evaluating the impact, if any, that SFAS No. 157 will have on its financial position and results of operations.
SFAS No. 158, Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans, an amendment of SFAS Nos. 87, 88, 106 and 132(R)
In September 2006, FASB issued SFAS No. 158, which requires employers to recognize the under-funded or over-funded status of a defined benefit plan as an asset or liability in its statement of financial position. The new reporting requirements and related new footnote disclosure rules of SFAS No. 158 are effective for the years ending after December 15, 2006, with changes in the funded status recognized through comprehensive income in the year in which they occur.
SFAS No. 158 will not change the amount of net periodic benefit expense recognized in an entity’s results of operations. As such, the adoption is not expected to have an impact to the Company’s results of operations in 2006. Adoption of SFAS No. 158 is not expected to have a material impact on the Company’s financial position.
SFAS No. 158 also requires employers to measure the funded status of a plan as of the date of its year-end statement of financial position. The new measurement date requirement applies for fiscal years ending after December 15, 2008.
SAB No. 108, Considering the Effects of Prior Year Misstatements when Qualifying Misstatements in Current Year Financial Statements
In September 2006, the SEC issued Staff Accounting Bulletin (SAB) No. 108 to address diversity in practice in quantifying financial statement misstatements. SAB 108 requires that we quantify misstatements based on their impact on each of the Company’s financial statements and related disclosures. SAB 108 is effective as of the first fiscal year ending after November 15, 2006, allowing a one-time transitional cumulative effect adjustment to retained earnings as of January 1, 2006, for errors that were not previously deemed material, but are material under the guidance in SAB No. 108. The Company is currently evaluating the impact of adopting SAB No. 108 on its results of operations and financial position.
Interpretation No. 48, Accounting for Uncertainty in Income Taxes, an Interpretation of SFAS No. 109
In June 2006, the Financial Accounting Standards Board (“FASB”) issued FASB Interpretation No. 48 (FIN 48), “Accounting for Uncertainty in Income Taxes”, an interpretation of FASB Statement No. 109.
FIN 48 clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements in accordance with FASB Statement No. 109, “Accounting for Income Taxes.” FIN 48 also prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. In addition, FIN 48 provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure and transition. The provisions of FIN 48 are effective for fiscal years beginning after December 15, 2006. The provisions of FIN 48 are to be applied to all tax positions upon initial adoption of this standard. Only tax positions that meet the more-likely-than-not recognition threshold at the effective date may be recognized or continue to be recognized upon adoption of FIN 48. The Company has not yet determined the potential financial impact of adopting FIN 48.
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CONDENSED NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(4) Cash and Cash Equivalents:
For purposes of reporting cash flows, cash and cash equivalents consist of cash and due from banks, and short-term investments with original maturities of less than 90 days.
(5) Short-Term Investments
Short-term investments consist of the following:
(In thousands) | At September 30, 2006 | At December 31, 2005 | ||||
Federal funds sold (overnight) | $ | 115,177 | $ | 152,785 | ||
Term federal funds sold | 15,000 | 15,000 | ||||
Institutional money market funds | 8,674 | — | ||||
Interest-bearing bank money market accounts | 3 | 2 | ||||
Total short-term investments | $ | 138,854 | $ | 167,787 | ||
The investments above are stated at cost, which approximates market value, and have original maturities of less than 90 days.
(6) Commitments
At September 30, 2006, the Company had outstanding commitments to originate mortgage loans and to advance funds for construction loans amounting to $1,964,000 and commitments under existing home equity lines of credit and other loans of approximately $30,864,000 which are not reflected on the consolidated balance sheet. The Bank maintains an allowance for loan losses on off-balance sheet credit exposures. At September 30, 2006 this allowance, which is shown separately on the balance sheet, totaled $336,000.
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CONDENSED NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(7) Earnings Per Common Share
Basic EPS is computed by dividing net income by the weighted average number of shares of common stock outstanding during the period.
Diluted EPS reflects the effect on the weighted average shares outstanding of the number of additional shares outstanding if dilutive stock options were converted into common stock using the treasury stock method.
The shares acquired in connection with the Company’s directors’ deferred compensation plan are considered outstanding in the computation of earnings per share and book value per share.
Earnings per share was calculated as follows:
(In thousands, except per share data) | Three Months Ended September 30, | Nine Months Ended September 30, | ||||||||||
2006 | 2005 | 2006 | 2005 | |||||||||
Denominator for basic earnings per share: | ||||||||||||
Average common shares outstanding | 4,315 | 4,343 | 4,328 | 4,377 | ||||||||
Dilutive common stock options | 34 | 55 | 35 | 64 | ||||||||
Denominator for diluted earnings per share | 4,349 | 4,398 | 4,363 | 4,441 | ||||||||
Numerator: | ||||||||||||
Net income attributable to common shares | $ | 1,731 | $ | 1,884 | $ | 5,296 | $ | 5,435 | ||||
Earnings per share: | ||||||||||||
Basic | $ | 0.40 | $ | 0.43 | $ | 1.22 | $ | 1.24 | ||||
Diluted | 0.40 | 0.43 | 1.21 | 1.22 |
(8) Directors’ Deferred Compensation Plan
In 1988, the Company established a deferred compensation plan for its directors. The Plan allows the Company’s directors to defer receipt of all or a portion of their compensation until (1) their attaining the age of 72, or (2) their termination as a director of the Company. The Plan was later amended to allow the directors’ compensation to be invested in Company stock held in a rabbi trust. At September 30, 2006, the Trust held 16,744 shares of MASSBANK Corp. common stock which were purchased in the open market or in private transactions over a period of time. The deferred compensation obligation of the Plan may be settled only by delivery of the shares of MASSBANK Corp. stock to the directors participating in the Plan. These shares are considered outstanding in the computation of earnings per share and book value per share.
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CONDENSED NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(9) Stock Option Plan
Effective January 1, 2006, the Company adopted SFAS 123(R) using the modified prospective transition method to account for share-based payments to employees and the Company’s Board of Directors.
The only type of share-based payment utilized by the Company to date is stock options. Stock options are awards which allow the employee or director to purchase shares of the Company’s stock at a fixed price. Stock options are granted at an exercise price equal to the Company closing stock price at the date of grant. Prior to 2006, the stock options issued by the Company had a contractual term of ten years and vested immediately at the time of issuance. The stock options issued in 2006 vest at 20% per year over five years and have a contractual term of ten years.
The following tables summarize stock option activity during the first nine months of 2006:
Weighted Average Exercise Price Per Share | Shares Under Option | |||||
Outstanding at December 31, 2005 | $ | 26.95 | 251,637 | |||
Options Granted | 32.79 | 35,500 | ||||
Options Exercised | 18.29 | (28,487 | ) | |||
Options Forfeited | 36.07 | (950 | ) | |||
Outstanding at September 30, 2006 | $ | 28.68 | 257,700 | |||
Exercisable at September 30, 2006 | $ | 28.04 | 222,700 |
At September 30, 2006 | Options Outstanding | Options Exercisable | |||||||||||
Range of Exercise Prices | Number Outstanding | Weighted Avg. Remaining Contractual Life | Weighted Avg. Exercise Price | Number Exercisable | Weighted Avg. Exercise Price | ||||||||
$ | 19.00 to $20.67 | 72,625 | 2.4 years | $ | 19.79 | 72,625 | $ | 19.79 | |||||
25.00 to 27.63 | 49,125 | 3.4 years | 26.09 | 49,125 | 26.09 | ||||||||
28.44 to 29.60 | 44,850 | 2.9 years | 29.14 | 44,850 | 29.14 | ||||||||
32.50 to 32.80 | 35,000 | 9.2 years | 32.79 | — | — | ||||||||
36.70 to 42.90 | 56,100 | 7.2 years | 39.54 | 56,100 | 39.54 | ||||||||
$ | 19.00 to $42.90 | 257,700 | 4.6 years | $ | 28.68 | 222,700 | $ | 28.04 | |||||
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CONDENSED NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(9) Stock Option Plan (continued)
The Company estimates the fair value of stock option grants using the Black-Scholes valuation model. The following table presents the key input assumptions for the Black-Sholes valuation model:
Nine Months Ended September 30, | ||||||||
2006 | 2005 | |||||||
Expected Term (years) | 7.3 years | 7.3 years | ||||||
Volatility | 21.50 | % | 21.20 | % | ||||
Risk-free interest rate | 4.31 | % | 3.97 | % | ||||
Dividend Yield | 3.29 | % | 2.80 | % | ||||
Fair value per share | $ | 6.58 | $ | 8.11 |
The total intrinsic value (amount by which the fair value of the underlying stock exceeds the exercise price of an option on exercise date) of options exercised during the nine months ended September 30, 2006 and 2005, was $408,000 and $938,000, respectively. The total cash received from employees and directors as a result of stock option exercises for the nine months ended September 30, 2006 and 2005 was $520,000 and $1,152,000, respectively. The tax benefit realized as a result of the stock option exercises was $86,000 in the first nine months of 2006 compared to $263,000 for the same period in 2005.
(10) Comprehensive Income (Loss)
Accounting principles generally require that recognized revenue, expenses, gains and losses be included in net income. Although certain changes in assets and liabilities, such as unrealized gains and losses on available for sale securities, are reported as a separate component of the equity section of the balance sheet, such items, along with net income, are components of comprehensive income (loss).
The components of other comprehensive income (loss) and related tax effect for the nine months ended September 30, 2006 and 2005 are as follows:
(In thousands) | Nine Months Ended September 30, | |||||||
2006 | 2005 | |||||||
Unrealized holding losses arising during period | $ | (298 | ) | $ | (6,070 | ) | ||
Less: reclassification adjustment for gains realized in income | 429 | 307 | ||||||
Net unrealized losses | (727 | ) | (6,377 | ) | ||||
Tax (expense) or benefit | 311 | 2,403 | ||||||
Other comprehensive loss | $ | (416 | ) | $ | (3,974 | ) | ||
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CONDENSED NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (continued)
(11) Pension Plan
The Bank sponsors a noncontributory defined benefit pension plan that covers all employees who meet specified age and length of service requirements, which is administered by the Savings Banks Employees Retirement Association (“SBERA”). The plan provides for benefits to be paid to eligible employees at retirement based primarily upon their years of service with the Bank and compensation levels near retirement. Contributions to the plan reflect benefits attributed to employees’ service to date, as well as service expected to be earned in the future.
The following table sets forth the amount of net periodic pension expense recognized for the three months and nine months ended September 30, 2006 and 2005:
Pension Benefits
(In thousands) | Three Months Ended September 30, | Nine Months Ended September 30, | ||||||||||||||
2006 | 2005 | 2006 | 2005 | |||||||||||||
Service cost | $ | 103 | $ | 114 | $ | 310 | $ | 344 | ||||||||
Interest cost | 144 | 136 | 431 | 409 | ||||||||||||
Expected return on plan assets | (164 | ) | (151 | ) | (491 | ) | (455 | ) | ||||||||
Amortization of prior service cost | (3 | ) | (3 | ) | (10 | ) | (10 | ) | ||||||||
Amortization of net (gains) losses | 1 | 12 | 4 | 36 | ||||||||||||
Net periodic pension expense | $ | 81 | $ | 108 | $ | 244 | $ | 324 | ||||||||
The Bank made an annual contribution to its defined benefit pension plan in the amount of $142,000 and $364,000, respectively, in the first quarter of 2006 and 2005.
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MASSBANK CORP. AND SUBSIDIARIES
MANAGEMENT’S DISCUSSION & ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
September 30, 2006
Forward-Looking Statement Disclosure.
This Form 10-Q may contain forward-looking statements. These statements relate to future, not past, events and include, among others, statements with respect to MASSSBANK Corp.’s beliefs, plans, objectives, goals, guidelines, expectations, financial condition, results of operations, future performance and business of the Company. You can identify forward-looking statements by the use of the words “may”, “could”, “should”, “believe”, “expect”, “anticipate”, “intend”, “estimate”, “assume”, “will”, “would”, “plan”, “projects”, “outlook” or similar expressions. These statements are based upon the current beliefs and expectations of the Company’s management and are subject to significant risks and uncertainties. Actual results may differ from those set forth in the forward-looking statements. These forward- looking statements involve certain risks and uncertainties that are subject to change based on various factors (many of which are beyond MASSBANK Corp.’s control).
The following factors, among others, could cause the Company’s performance to differ materially from that expressed in any forward-looking statements: (1) the strength of the United States economy in general and the strength of the local economy in which the Company conducts operations may be different than expected; (2) unexpected fluctuations in market interest rates; (3) adverse conditions in the stock market, the public debt market and other capital markets; (4) an increase in the level of non-performing assets; (5) an increase in the competitive pricing pressures within the Company’s market which may result in an increase in the Company’s cost of funds, a decrease in loan originations, a decrease in deposits and assets; (6) adverse legislative and regulatory developments; (7) a significant decline in residential real estate values in the Company’s market area; (10) the impact of changes in accounting principles; (11) the impact of inflation or deflation; (12) an increase in employee-related costs; (13) MASSBANK Corp.’s success at managing the risks involved in the foregoing and other risk factors described in the Company’s annual report on Form 10-K filed with the Securities and Exchange Commission for the year ended December 31, 2005.
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Critical Accounting Policies
The Company’s consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles. As such, the Company is required to make estimates and assumptions that affect the reported amounts of assets and liabilities at the balance sheet dates and the reported amounts of income and expense during the reporting periods. Actual amounts could differ from such estimates.
The Company believes that the following accounting policies are among the most critical because they involve significant judgments and uncertainties and could potentially result in materially different results under different assumptions and conditions.
Provisions (Credit) for Loan Losses
The provision (credit) for loan losses represents a charge or credit against current earnings and an addition to or deduction from the allowance for loan losses. In determining the amount to provide for loan losses, the key factor is the adequacy of the allowance for loan losses (“loan allowance”). Management uses a methodology to systematically measure the amount of estimated loan loss exposure inherent in the portfolio for purposes of establishing a sufficient loan allowance. The methodology includes three elements: an analysis of individual loans deemed to be impaired, general loss allocations for various types of loans based on loss experience factors, and an unallocated allowance. The unallocated allowance is maintained based on management’s assessment of many factors including the risk characteristics of the portfolio, concentrations of credit, current and anticipated economic conditions that may affect borrowers’ ability to pay, and trends in loan delinquencies and charge-offs.
The provision (credit) for loan losses on off-balance sheet credit exposures represents a charge or credit against current earnings (reported in other non-interest expense) and an addition to or deduction from the allowance for loan losses on off-balance sheet credit exposures (“off-balance sheet exposures”). In determining the amount to provide for off-balance sheet exposures, the key factor is the adequacy of the balance. The balance of the off-balance sheet exposures is maintained based on expected draw downs of committed loans, their loss experience factors, management’s assessment of various other factors including current and anticipated economic conditions that may affect the borrowers’ ability to pay, and trends in loan delinquencies and charge-offs.
Any significant changes in these assumptions and/or conditions could result in higher than estimated losses that could adversely affect the Company’s earnings results. In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Bank’s allowances. Such agencies may require the Bank to recognize additional allowances based on judgments different from those of management, which could also adversely affect the Company’s earnings results.
Investment Securities Other Than Temporarily Impaired
Management judgment is involved in the evaluation of declines in value (“impairment”) of individual investment securities held by the Company. Declines in value that are deemed other than temporary are recognized in the income statement through write-downs in the recorded value of the affected securities. Management considers many factors in their analysis of other than temporarily impaired securities, including industry analyst reports, sector credit ratings, volatility in market price and other relevant information, such as the financial condition, earnings capacity and near term prospects of the company and the length of time and extent to which the market value has been less than cost.
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INVESTMENT SECURITIES OTHER THAN TEMPORARILY IMPAIRED (continued)
Whenever a debt or equity security is deemed to be “other than temporarily impaired” due to a fundamental deterioration in its financial condition as determined by management’s analysis, it is written down to its current fair market value. U.S. Treasury securities and other securities backed by the U.S. Government are never considered impaired due to a fundamental deterioration in financial condition.
If “due to general market conditions” an investment security declines in price from its cost basis by 25% or more for more than a year, between 30% and 40% for more than nine months, between 40% and 50% for more than six months or over 50% for more than ninety days, and in each case the value of the investment security has been below its cost basis for the entire period in question, then the security is considered “other than temporarily impaired” and it is written down to its current fair market value and the loss is recognized in earnings. U.S. Treasury and Government Agency securities fluctuate in value based on changes in market interest rates and other factors; however, they can be redeemed at par value if held to maturity and therefore, if their maturity date is less than one year into the future, regardless of their market value, they are considered only temporarily impaired. Any unfavorable change in general market conditions could cause an increase in the Company’s impairment write downs of investment securities. This would have an adverse effect on the Company’s earnings results. There were no other than temporary impairment write downs of investment securities in the first nine months of 2006 and 2005.
Securities available for sale deemed temporarily impaired are carried at market value in the asset section of the Company’s balance sheet. Any change in value is reflected in accumulated other comprehensive income (loss) in the stockholders’ equity section of the Company’s balance sheet.
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FINANCIAL OVERVIEW
MASSBANK Corp. provides a broad range of banking services through its subsidiary, MASSBANK (“the Bank”). The Bank offers a full range of retail and commercial deposit products through its fifteen banking offices located in Eastern Massachusetts. The Bank’s lending business includes residential and commercial real estate mortgages, construction loans, commercial loans and a variety of consumer loans. The Bank’s loan portfolio is concentrated among borrowers from the municipalities in which it operates banking offices and all of the contiguous cities and towns. The Bank also invests a significant portion of its funds in U.S. Treasury and Government agency securities, mortgage-backed securities, federal funds sold and other authorized investments. The Bank’s earnings depend largely upon net interest income. Securities gains are also an important source of revenue for the Bank.
The Bank faces strong competition from banks and other financial services providers in our market area. The principal methods of competition are through interest rates, financing terms and other customer conveniences. Among the external factors affecting MASSBANK’s operating results are market interest rates, the shape of the U.S. Treasury securities yield curve, the condition of the financial markets and both regional and national economic conditions.
For the quarter ended September 30, 2006, MASSBANK Corp. reported net income of $1,731,000 or $0.40 in basic and diluted earnings per share compared to net income of $1,884,000 or $0.43 in basic and diluted earnings per share in the third quarter of 2005. Return on average assets and return on average equity were 0.82% and 6.72%, respectively, in the third quarter of 2006 compared to 0.82% and 7.06%, respectively, in the same quarter of 2005.
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FINANCIAL OVERVIEW (continued)
The major factors affecting the Company’s earnings results for the third quarter of 2006 compared to the third quarter of 2005 were:
• | The decrease in net interest income of $288,000. |
• | The provision for loan losses in the recent quarter of $82,000 compared to no provision for loan losses in the same quarter last year. |
• | The decrease in net securities gains of $70,000. |
• | The decrease in deferred compensation plan income and other non-interest income of $37,000. |
• | The decrease in non-interest expense of $247,000. |
• | The decrease in income tax expense of $77,000. |
(In thousands) Quarters Ended September 30, | 2006 | 2005 | Variance | |||||||
Income Statement Data | ||||||||||
Total interest and dividend income | $ | 10,052 | $ | 9,346 | $ | 706 | ||||
Total interest expense | 4,872 | 3,878 | (994 | ) | ||||||
Net interest income | 5,180 | 5,468 | (288 | ) | ||||||
Provision (credit) for loan losses | 82 | — | (82 | ) | ||||||
Gains on securities, net | 168 | 238 | (70 | ) | ||||||
Deferred compensation plan income | 48 | 49 | (1 | ) | ||||||
Other non-interest income | 231 | 267 | (36 | ) | ||||||
Non-interest expense | 2,929 | 3,176 | 247 | |||||||
Income tax expense | 885 | 962 | 77 | |||||||
Net income | $ | 1,731 | $ | 1,884 | $ | (153 | ) | |||
Diluted earnings per share | $ | 0.40 | $ | 0.43 | $ | (0.03 | ) | |||
(In thousands) Quarters Ended September 30, | 2006 | 2005 | Variance | |||||||
Average Balance Sheet Data | ||||||||||
Earning assets: | ||||||||||
Mortgage and other loans | $ | 214,885 | $ | 228,626 | $ | (13,741 | ) | |||
Mortgage-backed securities | 138,206 | 135,396 | 2,810 | |||||||
Federal funds sold | 143,922 | 199,336 | (55,414 | ) | ||||||
Short-term investments | 5,750 | 1,345 | 4,405 | |||||||
Other securities available for sale and trading | 319,403 | 332,889 | (13,486 | ) | ||||||
Total earning assets | $ | 822,166 | $ | 897,592 | $ | (75,426 | ) | |||
Total deposits | $ | 741,044 | $ | 809,607 | $ | (68,563 | ) | |||
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FINANCIAL OVERVIEW (Continued)
Condensed Consolidated Balance Sheets
(In thousands) | September 30, 2006 | December 31, 2005 | Variance | |||||||||
Assets: | ||||||||||||
Short-term investments | $ | 138,854 | $ | 167,787 | $ | (28,933 | ) | |||||
Term federal funds sold | 15,000 | — | 15,000 | |||||||||
Interest-bearing deposits in banks | — | 898 | (898 | ) | ||||||||
Securities available for sale, at market value | 429,013 | 453,472 | (24,459 | ) | ||||||||
Securities held to maturity, at amortized cost | 5,416 | 6,137 | (721 | ) | ||||||||
Trading securities, at market value | 369 | 9,282 | (8,913 | ) | ||||||||
Total investments | 588,652 | 637,576 | (48,924 | ) | ||||||||
Total loans | 213,876 | 225,730 | (11,854 | ) | ||||||||
Allowance for loan losses | (1,395 | ) | (1,253 | ) | (142 | ) | ||||||
Net loans | 212,481 | 224,477 | (11,996 | ) | ||||||||
Other assets | 44,794 | 36,626 | 8,168 | |||||||||
Total assets | $ | 845,927 | $ | 898,679 | $ | (52,752 | ) | |||||
Liabilities: | ||||||||||||
Total deposits | $ | 729,411 | $ | 784,728 | $ | (55,317 | ) | |||||
Escrow deposits of borrowers | 992 | 1,059 | (67 | ) | ||||||||
Other liabilities | 9,622 | 7,628 | 1,994 | |||||||||
Total liabilities | 740,025 | 793,415 | (53,390 | ) | ||||||||
Total stockholders’ equity | 105,902 | 105,264 | 638 | |||||||||
Total liabilities and stockholders’ equity | $ | 845,927 | $ | 898,679 | $ | (52,752 | ) |
Financial Condition
The Company’s total assets were $845.9 million at September 30, 2006, compared to $898.7 million at December 31, 2005 reflecting a decrease of $52.8 million. This includes a decrease of $48.9 million in total investments and a decrease of $12.0 million in total loans, partially offset by an increase in other assets of $8.1 million. Deposits, the primary funding source for the Company’s assets, decreased $55.3 million during the first nine months of 2006, due to increased competition for deposits.
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Investments
At September 30, 2006, the Company’s total investments were $588.7 million representing 69.6% of total assets compared to $637.6 million representing 70.9% of total assets at December 31, 2005. Total investments have decreased $48.9 million from year-end 2005. The Company’s total investments were reduced because of the decrease in the Bank’s total deposits during the first nine months of 2006.
The decline in total investments includes a decrease in short-term investments, primarily federal funds sold, of $28.9 million. The Company, however, continues to maintain a strong liquidity position with over 16% of its assets in short-term investments, primarily federal funds sold. This also helps the Bank capitalize on the current inverted yield curve environment (an environment where short-term rates actually exceed long-term rates).
Loans
The loan portfolio, net of allowance for loan losses, decreased $12.0 million or 5.3% in the first nine months of 2006. At September 30, 2006, the loan portfolio, net of allowance for loan losses, totaled $212.5 million representing 25.1% of total assets compared to $224.5 million representing 25.0% of total assets at December 31, 2005. The decrease in loans is due to regular principal payments and prepayments exceeding the volume of new loan originations. New loan originations decreased $22.9 million or approximately 57% to $17.1 million in the first nine months of 2006 from $40.0 million in the same period of 2005. Mortgage loan origination activity (particularly refinancing activity) has decreased significantly in the Bank’s market area due to the rise in market interest rates.
The Bank’s loan portfolio consists predominately of residential mortgages. Residential mortgage loans (excluding residential construction loans) amounted to $197.5 million at September 30, 2006, representing 92.4% of the total loan portfolio. See page 41 of this Form 10-Q for a table setting forth the composition of the loan portfolio at September 30, 2006 and December 31, 2005.
Non-Performing Assets
Non-accrual loans, generally those loans that are 90 days or more delinquent, are at historical lows totaling only $5,000 at September 30, 2006 compared to $257,000 at December 31, 2005 and $267,000 as of September 30, 2005. The Bank had no impaired loans or real estate acquired through foreclosure at September 30, 2006.
Deposits
Deposits have traditionally been the Bank’s primary source of funds for lending and investment activities. MASSBANK attracts deposits within its primary market area by offering a variety of deposit instruments including demand and NOW accounts, money market accounts, different types of savings accounts, certificates of deposit and retirement savings plans. Deposit flows vary significantly and are influenced by prevailing interest rates, market conditions, economic conditions and competition. The Bank’s management attempts to manage its deposits through selective pricing and marketing.
Deposits at September 30, 2006 totaled $729.4 million, reflecting a decrease of $55.3 million or 7.0% from $784.7 million at December 31, 2005. In the first nine months of 2006 there was an outflow of deposits due to increased competition for deposits and some deposits being reinvested in the stock market and other types of investments.
For information concerning deposit balances at September 30, 2006 and December 31, 2005, see page 44 of this Form 10-Q.
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Stockholders’ Equity
Total stockholders’ equity increased $0.6 million to $105.9 million at September 30, 2006, from $105.3 million at December 31, 2005. This represents a book value of $24.55 per share at September 30, 2006, up $0.23 from $24.32 per share at December 31, 2005.
The increase in stockholders’ equity was essentially the result of the following: the Company’s net income for the first nine months of 2006 of $5.3 million and the payments and related tax benefits received from the exercise of stock options by the Company’s officers and directors of $0.6 million. This was essentially offset by the payment of dividends to stockholders of $3.5 million; the Company’s repurchase of treasury stock in the amount of $1.4 million during the first nine months of 2006; and an increase in accumulated other comprehensive loss of $0.4 million due primarily to the decline in market value of the Company’s debt securities portfolio as a result of rising interest rates.
Comparison of Operating Results for the Three Months ended September 30, 2006 and 2005.
Net interest income
Net interest income for the recent quarter decreased by $288,000 or 5.3% to $5,180,000 from $5,468,000 in the same quarter of 2005, as the Bank continued to be challenged by the current inverted yield curve environment (an environment where short-term rates actually exceed long-term rates). Additionally, the market for deposits has become more competitive as financial institutions have been more aggressive in pricing their deposit products to retain deposits. MASSBANK has chosen not to match these competitors’ rates in order to protect its net interest margin.
The decrease in net interest income reflects an improvement in net interest margin offset by the reduction in net interest income resulting from a decrease in average earning assets and average deposits. The Company’s net interest margin in the recent quarter improved 9 basis points to 2.53% from 2.44% in the third quarter of 2005. This is the eighth consecutive quarter that the Company has reported a year-over-year improvement in net interest margin.
Average earning assets for the recent quarter declined $75.4 million to $822.2 million, from $897.6 million in the third quarter of last year. Average total deposits were $741.0 million for the third quarter 2006 compared to $809.6 million for the same quarter of 2005.
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Interest and Dividend Income
Interest and dividend income on a fully taxable equivalent basis for the three months ended September 30, 2006 increased $711,000 or 7.6% to $10,073,000 from $9,362,000 for the three months ended September 30, 2005. The increase in interest and dividend income resulted from an increase in yield on the Company’s average earning assets, partially offset by a decrease in interest income resulting from a decrease of $75.4 million in average earning assets. As reflected in the table on page 27 of this report, the yield on the Company’s average earning assets in the third quarter of 2006 was 4.90%, as compared to 4.17% in the same quarter of 2005. The improvement in yield on the Company’s average earning assets is primarily attributable to an increase in interest income on federal funds sold due to higher short-term interest rates and an increase in interest income on investment securities available for sale, due to higher market interest rates, higher replacement yields on new securities purchased and to a lesser extent, a change in mix of securities in the portfolio.
Interest Expense
Total interest expense for the three months ended September 30, 2006 increased $994,000, or 25.6% to $4,872,000 from $3,878,000 for the three months ended September 30, 2005. The increase in interest expense is due primarily to rising interest rates and the continued shift in the Bank’s deposit mix from savings accounts to certificates of deposit accounts. This has resulted in an increase in the Company’s average cost of funds, from 1.90% in the third quarter of 2005 to 2.61% in the third quarter of 2006. The increase in interest expense resulting from the higher average cost of funds was partially offset by a decrease in interest expense resulting from a decrease in the Company’s average deposits. The Company’s average deposits in the recent quarter, as shown in the table on page 28, decreased $68.6 million or 8.5% to $741.0 million, from $809.6 million in the same quarter of the prior year.
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AVERAGE BALANCE SHEETS Three Months Ended September 30, | ||||||||||||||||||||
2006 | 2005 | |||||||||||||||||||
(In thousands) | Average Balance | Interest Income/ Expense (1) | Average Yield/ Rate | Average Balance | Interest Income/ Expense (1) | Average Yield/ Rate | ||||||||||||||
Assets: | ||||||||||||||||||||
Earning assets: | ||||||||||||||||||||
Federal funds sold | $ | 143,922 | $ | 1,923 | 5.30 | % | $ | 199,336 | $ | 1,722 | 3.43 | % | ||||||||
Short-term investments (4) | 5,750 | 74 | 5.08 | 1,345 | 12 | 3.51 | ||||||||||||||
Securities available for sale: | ||||||||||||||||||||
Other securities (2) | 314,664 | 3,165 | 4.02 | 304,074 | 2,466 | 3.24 | ||||||||||||||
Mortgage-backed securities (2) | 132,667 | 1,799 | 5.42 | 130,809 | 1,737 | 5.31 | ||||||||||||||
Mortgage-backed securities held to maturity | 5,539 | 73 | 5.29 | 4,587 | 59 | 5.08 | ||||||||||||||
Trading securities | 4,739 | 40 | 3.35 | 28,815 | 187 | 2.57 | ||||||||||||||
Mortgage loans (3) | 205,321 | 2,799 | 5.45 | 218,316 | 2,998 | 5.49 | ||||||||||||||
Other loans (3) | 9,564 | 200 | 8.32 | 10,310 | 181 | 6.96 | ||||||||||||||
Total earning assets | 822,166 | $ | 10,073 | 4.90 | % | 897,592 | $ | 9,362 | 4.17 | % | ||||||||||
Allowance for loan losses | (1,302 | ) | (1,253 | ) | ||||||||||||||||
Total earning assets less allowance for loan losses | 820,864 | 896,339 | ||||||||||||||||||
Other assets | 27,753 | 23,946 | ||||||||||||||||||
Total assets | $ | 848,617 | $ | 920,285 | ||||||||||||||||
(1) | Dividend income on equity securities is included on a tax equivalent basis. |
(2) | Average balances include net unrealized gains (losses) on securities available for sale. |
(3) | Loans on non-accrual status are included in the average balance. |
(4) | Short-term investments consist of interest-bearing deposits in banks and investments in institutional money market funds. |
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Table of Contents
AVERAGE BALANCE SHEETS - (continued) Three Months Ended September 30, | ||||||||||||||||||
2006 | 2005 | |||||||||||||||||
(In thousands) | Average Balance | Interest Income/ Expense | Average Yield/ Rate | Average Balance | Interest Income/ Expense | Average Yield/ Rate | ||||||||||||
Liabilities: | ||||||||||||||||||
Deposits: | ||||||||||||||||||
Demand and NOW | $ | 80,129 | $ | 61 | 0.30 | % | $ | 86,239 | $ | 45 | 0.21 | % | ||||||
Savings | 377,669 | 1,750 | 1.84 | 484,754 | 1,967 | 1.61 | ||||||||||||
Time certificates of deposit | 283,246 | 3,061 | 4.29 | 238,614 | 1,866 | 3.10 | ||||||||||||
Total deposits | 741,044 | 4,872 | 2.61 | % | 809,607 | 3,878 | 1.90 | % | ||||||||||
Other liabilities | 4,478 | 4,003 | ||||||||||||||||
Total liabilities | 745,522 | 813,610 | ||||||||||||||||
Stockholders’ equity | 103,095 | 106,675 | ||||||||||||||||
Total liabilities and stockholders’ equity | $ | 848,617 | $ | 920,285 | ||||||||||||||
Net interest income (tax-equivalent basis) | 5,201 | 5,484 | ||||||||||||||||
Less adjustment for tax-exempt interest income | 21 | 16 | ||||||||||||||||
Net interest income | $ | 5,180 | $ | 5,468 | ||||||||||||||
Interest rate spread (5) | 2.29 | % | 2.27 | % | ||||||||||||||
Net interest margin (6) | 2.53 | % | 2.44 | % | ||||||||||||||
(5) | Interest rate spread represents the difference between the yield on earning assets and the cost of the Company’s deposits. |
(6) | Net interest margin represents net interest income (tax equivalent basis) divided by average interest-earning assets. |
28
Table of Contents
Provision (Credit) for Loan Losses
The Bank, in the third quarter of 2006, recorded a provision for loan losses of $82,000 compared to no provision for loan losses in the same quarter of last year. This, however, is offset by a credit of $107,000 to the Bank’s provision for off-balance sheet exposures, which is included in non-interest expense. As loan commitments made to customers are drawn down, loss reserves against such commitments are reduced and loss reserves against outstanding loans are generally increased.
In determining the amount to provide for loan losses, the key factor is the adequacy of the allowance for loan losses. Management uses a methodology to systematically measure the amount of estimated loan loss exposure inherent in the portfolio for the purposes of establishing a sufficient allowance for loan losses. The methodology includes three elements: an analysis of individual loans deemed to be impaired, general loss allocations for various loan types based on loss experience factors, and an unallocated allowance which is maintained based on management’s assessment of many factors including the risk characteristics of the portfolio, concentrations of credit, current and anticipated economic conditions that may affect the borrowers’ ability to pay, and trends in loan delinquencies and charge-offs.
At September 30, 2006, the allowance for loan losses was $1,395,000 representing 0.65% of total loans. This compares to $1,253,000 representing 0.56% of total loans at December 31, 2005. Non-accrual loans totaled only $5,000 at September 30, 2006. This compares to $257,000 at December 31, 2005 and $267,000 a year earlier. Management believes that the allowance for loan losses as of September 30, 2006 is adequate to cover the risks inherent in the loan portfolio under current conditions.
The Bank also maintains an allowance for loan losses on off-balance sheet credit exposures (shown separately on the balance sheet) that totaled $336,000 at September 30, 2006 and $517,000 as of December 31, 2005. This is intended to protect the Bank against losses on loan commitments made to customers that have not yet been drawn down.
Non-Interest Income
Non-interest income consists of deposit account service fees, net gains on securities and other non-interest income.
Non-interest income decreased $107,000 to $447,000 in the third quarter of 2006, from $554,000 in the comparable quarter of the prior year.
In the recent quarter, the Company recorded net gains on securities of $168,000 compared to net securities gains of $238,000 in the same quarter last year. Net securities gains in the recent quarter consisted of net gains on securities available for sale of $80,000 and net gains on trading securities of $88,000. This compares to net gains on securities available for sale of $177,000 and net gains on trading securities of $61,000 in the third quarter of 2005.
The Bank has a supplemental retirement plan for certain executive officers. In the recent quarter, the Bank recorded plan income of $48,000 due primarily to the appreciation in market value of plan assets, compared to plan income of $49,000 in the third quarter of 2005.
The Bank’s deposit account service fees and other non-interest income totaled $84,000 and $147,000, respectively, for the third quarter of 2006. This compares to $100,000 and $167,000, respectively, in the third quarter of 2005. The combined total of these two items decreased $36,000 from the same quarter of the prior year. Deposit account service fees have declined due to a decrease in the number of deposit accounts subject to these types of charges.
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Table of Contents
Non-Interest Expense
Non-interest expense decreased $247,000 or 7.8% to $2,929,000 for the three months ended September 30, 2006 compared to the same period in 2005.
Salaries and employee benefits, the largest component of non-interest expense decreased $69,000 or 3.7% to $1,808,000 in the recent quarter, from $1,877,000 in the comparable quarter of 2005. The decrease is primarily attributable to a decrease in employee salary expense of $45,000 due to a decrease in the number of employees. Additionally, the Company recognized $11,000 in stock-based compensation expense in the recent quarter that is included in salaries and employee benefits expense. The recognition of this expense is required under SFAS 123R which the Company adopted effective January 1, 2006.
Occupancy and equipment expense decreased $31,000 or 6.0% to $490,000 in the recent quarter from $521,000 in the third quarter of 2005. This decrease is primarily attributable to a decrease in equipment depreciation expense as the cost of some of the Bank’s equipment has been fully depreciated.
All other non-interest expenses combined decreased $147,000 or 18.9% to $631,000 for the three months ended September 30, 2006 from $778,000 for the three months ended September 30, 2005. The decrease is primarily attributable to an increase of $111,000 in the credit provision for off-balance sheet credit exposures recorded in the recent quarter, reducing the Bank’s loan loss reserves against outstanding loan commitments.
Income Tax Expense
The Company, the Bank and its subsidiaries file a consolidated federal income tax return. The Parent Company, the Bank and its subsidiaries are subject to a Massachusetts Corporate Excise Tax as calculated in separately filed Massachusetts tax returns.
The Company recorded income tax expense of $885,000 in the third quarter of 2006, a decrease of $77,000 when compared to the same quarter last year. The decrease in income tax expense is due primarily to a decrease in income before income taxes. The Company’s income before income taxes was $2,616,000 in the recent quarter compared to $2,846,000 for the same quarter a year ago. The effective income tax rate for the three months ended September 30, 2006 and 2005 was 33.83% and 33.80%, respectively.
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Comparison of Operating Results for the Nine Months ended September 30, 2006 and 2005.
FINANCIAL OVERVIEW
For the nine months ended September 30, 2006, the Company reported net income of $5,296,000, or $1.21 in diluted earnings per share compared to net income of $5,435,000 or $1.22 in diluted earnings per share for the first nine months of 2005. Basic earnings per share in the first nine months of 2006 were $1.22 per share compared to $1.24 per share in the same period of the prior year. Return on average assets and return on average equity were 0.81% and 6.81%, respectively, in the first nine months of 2006 up from 0.77% and 6.72%, respectively, in the same period of 2005.
The major factors affecting the Company’s earnings results for the first nine months of 2006 compared to the same period of 2005 were:
• | The decrease in net interest income of $158,000. |
• | The provision for loan losses in the first nine months of 2006 of $132,000 compared to a credit provision for loan losses of $53,000 in the same period last year. |
• | The increase in net securities gains of $112,000. |
• | The increase in deferred compensation plan income of $50,000. |
• | The decrease in other non-interest income of $68,000. |
• | The decrease in non-interest expense of $111,000. |
(In thousands) Nine Months Ended September 30, | 2006 | 2005 | Variance | ||||||||
Income Statement Data | |||||||||||
Interest and dividend income: | |||||||||||
Mortgage and other loans | $ | 9,124 | $ | 9,655 | $ | (531 | ) | ||||
Mortgage-backed securities | 5,698 | 5,392 | 306 | ||||||||
Federal funds sold | 5,727 | 4,310 | 1,417 | ||||||||
Other securities and short-term investments | 9,305 | 7,823 | 1,482 | ||||||||
Total interest and dividend income | 29,854 | 27,180 | 2,674 | ||||||||
Total interest expense | 13,845 | 11,013 | (2,832 | ) | |||||||
Net interest income | 16,009 | 16,167 | (158 | ) | |||||||
Provision (credit) for loan losses | 132 | (53 | ) | (185 | ) | ||||||
Gains on securities, net | 538 | 426 | 112 | ||||||||
Deferred compensation plan income | 109 | 59 | 50 | ||||||||
Other non-interest income | 783 | 851 | (68 | ) | |||||||
Non-interest expense | 9,268 | 9,379 | 111 | ||||||||
Income tax expense | 2,743 | 2,742 | (1 | ) | |||||||
Net income | $ | 5,296 | $ | 5,435 | $ | (139 | ) | ||||
Diluted earnings per share | $ | 1.21 | $ | 1.22 | $ | (0.01 | ) | ||||
(In thousands) Nine Months Ended September 30, | 2006 | 2005 | Variance | ||||||||
Average Balance Sheet Data | |||||||||||
Earning assets: | |||||||||||
Mortgage and other loans | $ | 219,179 | $ | 230,774 | $ | (11,595 | ) | ||||
Mortgage-backed securities | 140,752 | 134,255 | 6,497 | ||||||||
Federal funds sold | 157,431 | 196,101 | (38,670 | ) | |||||||
Short-term investments | 2,420 | 1,897 | 523 | ||||||||
Other securities available for sale and trading | 322,515 | 352,142 | (29,627 | ) | |||||||
Total earning assets | $ | 842,297 | $ | 915,169 | $ | (72,872 | ) | ||||
Total deposits | $ | 759,739 | $ | 825,946 | $ | (66,207 | ) | ||||
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Net Interest Income
Net interest income totaled $16,009,000 for the nine months ended September 30, 2006, a decrease of $158,000 from the same period in 2005. The decrease in net interest income reflects a decrease in average earning assets due to a lower deposit base, partially offset by an improvement in net interest margin and net interest spread.
The Company’s net interest spread improved to 2.29% for the first nine months of 2006 from 2.19% in the same period last year. Net interest spread represents the difference between the yield on earning assets and the cost of the Company’s deposits. Net interest margin represents the relationship between net interest income and average earning assets. Net interest margin is affected by several factors, including fluctuations in the overall interest rate environment, funding strategies, and the mix of interest earning assets and interest bearing liabilities. The Company’s net interest margin for the nine months ended September 30, 2006 improved 18 basis points to 2.54% from 2.36% reported in the first nine months of last year. Average earning assets for the nine months ended September 30, 2006 decreased $72.9 million to $842.3 million, from $915.2 million in the same period of 2005.
Interest and Dividend Income
Interest and dividend income on a fully taxable equivalent basis for the nine months ended September 30, 2006 increased $2,685,000 or 9.9% to $29,908,000 from $27,223,000 for the nine months ended September 30, 2005. The increase in interest and dividend income resulted from an increase in yield on the Company’s average earning assets, partially offset by a decrease in interest income resulting from a decrease of $72.9 million in average earning assets. As reflected in the table on page 33 of this report, the yield on the Company’s average earning assets in the first nine months of 2006 was 4.73%, as compared to 3.97% in the same period of 2005. The improvement in yield on the Company’s average earning assets is primarily attributable to an increase in interest income on federal funds sold due to higher short-term interest rates and an increase in interest income on securities available for sale due to higher rates on intermediate and longer term investments. Market rates increased due to the Federal Reserve Bank’s rate setting actions. The Federal Reserve Bank Board’s Federal Open Market Committee (FOMC) raised the target rate for federal funds (the rate for overnight borrowings between banks) by 25 basis points seventeen times from the end of June 2004 to the end of September 2006, increasing the rate from 1.00% to 5.25%.
Interest Expense
Total interest expense for the nine months ended September 30, 2006 increased $2,832,000, or 25.7% to $13,845,000 from $11,013,000 for the nine months ended September 30, 2005. The increase in interest expense is due primarily to the higher interest rate environment in 2006 and the continued shift in the Bank’s deposit mix from savings accounts to certificates of deposit accounts. This has resulted in an increase in the Company’s average cost of funds, from 1.78% in the first nine months of 2005 to 2.44% in the first nine months of 2006. The increase in interest expense resulting from the higher average cost of funds was partially offset by a decrease in interest expense resulting from a decrease in the Company’s average deposits. The Company’s average deposits in the first nine months of 2006, as shown in the table on page 34, decreased $66.2 million or 8.0% to $759.7 million, from $825.9 million in the same period of the prior year.
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AVERAGE BALANCE SHEETS Nine Months Ended September 30, | ||||||||||||||||||||
2006 | 2005 | |||||||||||||||||||
(In thousands) | Average Balance | Interest Income/ Expense (1) | Average Yield/ Rate | Average Balance | Interest Income/ Expense (1) | Average Yield/ Rate | ||||||||||||||
Assets: | ||||||||||||||||||||
Earning assets: | ||||||||||||||||||||
Federal funds sold | $ | 157,431 | $ | 5,727 | 4.86 | % | $ | 196,101 | $ | 4,310 | 2.94 | % | ||||||||
Short-term investments (4) | 2,420 | 86 | 4.76 | 1,897 | 45 | 3.19 | ||||||||||||||
Securities available for sale: | ||||||||||||||||||||
Other securities (2) | 315,231 | 9,073 | 3.84 | 314,980 | 7,201 | 3.05 | ||||||||||||||
Mortgage-backed securities (2) | 134,961 | 5,469 | 5.40 | 129,547 | 5,211 | 5.36 | ||||||||||||||
Mortgage-backed securities held to maturity | 5,791 | 229 | 5.28 | 4,708 | 181 | 5.12 | ||||||||||||||
Trading securities | 7,284 | 200 | 3.67 | 37,162 | 620 | 2.22 | ||||||||||||||
Mortgage loans (3) | 209,602 | 8,554 | 5.44 | 220,690 | 9,148 | 5.53 | ||||||||||||||
Other loans (3) | 9,577 | 570 | 7.96 | 10,084 | 507 | 6.72 | ||||||||||||||
Total earning assets | 842,297 | $ | 29,908 | 4.73 | % | 915,169 | $ | 27,223 | 3.97 | % | ||||||||||
Allowance for loan losses | (1,267 | ) | (1,271 | ) | ||||||||||||||||
Total earning assets less allowance for loan losses | 841,030 | 913,898 | ||||||||||||||||||
Other assets | 26,811 | 25,145 | ||||||||||||||||||
Total assets | $ | 867,841 | $ | 939,043 | ||||||||||||||||
(1) | Dividend income on equity securities is included on a tax equivalent basis. |
(2) | Average balances include net unrealized gains (losses) on securities available for sale. |
(3) | Loans on non-accrual status are included in the average balance. |
(4) | Short-term investments consist of interest-bearing deposits in banks and investments in institutional money market funds. |
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Table of Contents
AVERAGE BALANCE SHEETS - (continued) Nine Months Ended September 30, | ||||||||||||||||||
2006 | 2005 | |||||||||||||||||
(In thousands) | Average Balance | Interest Income/ Expense | Average Yield/ Rate | Average Balance | Interest Income/ Expense | Average Yield/ Rate | ||||||||||||
Liabilities: | ||||||||||||||||||
Deposits: | ||||||||||||||||||
Demand and NOW | $ | 81,428 | $ | 164 | 0.27 | % | $ | 85,808 | $ | 137 | 0.21 | % | ||||||
Savings | 401,614 | 5,362 | 1.78 | 515,216 | 6,022 | 1.56 | ||||||||||||
Time certificates of deposit | 276,697 | 8,319 | 4.02 | 224,922 | 4,854 | 2.89 | ||||||||||||
Total deposits | 759,739 | 13,845 | 2.44 | % | 825,946 | 11,013 | 1.78 | % | ||||||||||
Other liabilities | 4,420 | 5,240 | ||||||||||||||||
Total liabilities | 764,159 | 831,186 | ||||||||||||||||
Stockholders’ equity | 103,682 | 107,857 | ||||||||||||||||
Total liabilities and stockholders’ equity | $ | 867,841 | $ | 939,043 | ||||||||||||||
Net interest income (tax-equivalent basis) | 16,063 | 16,210 | ||||||||||||||||
Less adjustment for tax-exempt interest income | 54 | 43 | ||||||||||||||||
Net interest income | $ | 16,009 | $ | 16,167 | ||||||||||||||
Interest rate spread (5) | 2.29 | % | 2.19 | % | ||||||||||||||
Net interest margin (6) | 2.54 | % | 2.36 | % | ||||||||||||||
(5) | Interest rate spread represents the difference between the yield on earning assets and the cost of the Company’s deposits. |
(6) | Net interest margin represents net interest income (tax equivalent basis) divided by average interest-earning assets. |
34
Table of Contents
Provision (Credit) for Loan Losses
In the first nine months of 2006, the Bank recorded a provision for loan losses of $132,000 compared to a credit provision of $53,000 in the comparable period of 2005. This, however, is offset by a credit of $181,000 to the Bank’s provision for off-balance sheet credit exposures, which is included in non-interest expense. As loan commitments made to customers are drawn down, loss reserves against outstanding loans are generally increased.
In determining the amount to provide for loan losses, the key factor is the adequacy of the allowance for loan losses (“loan allowance”). Management uses a methodology to systematically measure the amount of estimated loan loss exposure inherent in the portfolio for the purposes of establishing a sufficient loan allowance. The methodology includes three elements: an analysis of individual loans deemed to be impaired, general loss allocations for various loan types based on loss experience factors and an unallocated allowance. The unallocated allowance is maintained based on management’s assessment of many factors including the risk characteristics of the portfolio, concentrations of credit, current and anticipated economic conditions that may affect the borrowers’ ability to pay, and trends in loan delinquencies and charge-offs.
At September 30, 2006, the allowance for loan losses was $1,395,000 representing 0.65% of total loans. This compares to $1,253,000 representing 0.56% of total loans at December 31, 2005. Non-accrual loans totaled only $5,000 at September 30, 2006. This compares to $257,000 at December 31, 2005 and $267,000 a year earlier. Management believes that the allowance for loan losses as of September 30, 2006 is adequate to cover the risks inherent in the loan portfolio under current conditions.
The Bank also maintains an allowance for loan losses on off-balance sheet credit exposures (shown separately on the balance sheet) that totaled $336,000 and $517,000 at September 30, 2006 and December 31, 2005, respectively. This is intended to protect the Bank against losses on loan commitments made to customers that have not yet been drawn down.
Non-Interest Income
Non-interest income consists of deposit account service fees, net gains on securities and other non-interest income.
Non-interest income increased $94,000 to $1,430,000 in the nine months ended September 30, 2006, from $1,336,000 in the comparable period of the prior year.
In the first nine months of 2006, the Company’s net securities gains increased $112,000 or 26.3% to $538,000 from $426,000 in the same period last year. Net securities gains in the first nine months of 2006 consisted of net gains on securities available for sale of $429,000 and net gains on trading securities of $109,000. This compares to net gains on securities available for sale of $307,000 and net gains on trading securities of $119,000 in the first nine months of 2005.
The Bank has a supplemental retirement plan for certain executive officers. In the first nine months of 2006, the Bank recorded income of $109,000 due primarily to the appreciation in market value of plan assets, compared to income of $59,000 in the same period last year. This increase is offset by a similar increase in deferred compensation plan expense reported in non-interest expense.
The Bank’s deposit account service fees and other non-interest income totaled $258,000 and $525,000, respectively, for the nine months ended September 30, 2006. This compares to $301,000 and $550,000, respectively, in the nine months ended September 30, 2005. Deposit account service fees have declined due to a decrease in the number of deposit accounts subject to these types of charges.
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Table of Contents
Non-Interest Expense
Non-interest expense decreased $111,000 or 1.2% to $9,268,000 for the nine months ended September 30, 2006 from $9,379,000 for the same period in 2005.
Salaries and employee benefits, the largest component of non-interest expense decreased $28,000 or less than 1.0% to $5,544,000 in the first nine months of 2006, from $5,572,000 for the same period of 2005. The decrease is primarily attributable to a decrease in employee salary expense, due to a decrease in the number of employees and a decrease in the Company’s pension expense. These are partially offset by the share-based payment compensation expense of $50,000 that the Company recognized in the first nine months of 2006. The recognition of this expense is required under SFAS 123R which the Company adopted effective January 1, 2006.
Deferred compensation plan expense related to the Bank’s supplemental retirement plan for certain executive officers increased $47,000 to $172,000 in the first nine months of 2006 compared to the same period last year. This increase is offset by an increase in deferred compensation plan income reported in non-interest income.
Occupancy and equipment expense increased $53,000 or 3.2% to $1,702,000 in the first nine months of 2006 from $1,649,000 in the first nine months of 2005. This increase is primarily attributable to an increase in building depreciation expense. The Bank completed construction of a new branch facility in Everett, Massachusetts and accelerated the depreciation of its former branch facility, which was demolished to make room for a parking lot for the new facility.
All other non-interest expenses combined decreased $183,000 or 9.0% to $1,850,000 for the nine months ended September 30, 2006 from $2,033,000 for the nine months ended September 30, 2005. The decrease is primarily attributable to an increase of $182,000 in the credit provision for off-balance sheet credit exposures recorded in the first nine months of this year compared to the same period last year, reducing the Bank’s loan loss reserves against outstanding loan commitments.
Income Tax Expense
The Company, the Bank and its subsidiaries file a consolidated federal income tax return. The Parent Company, the Bank and its subsidiaries are subject to a Massachusetts Corporate Excise Tax as calculated in separately filed Massachusetts tax returns.
The Company recorded income tax expense of $2,743,000 in the first nine months of 2006, essentially unchanged from the same period last year. The income tax expense reflects a decrease in income before income taxes offset by an increase in effective income tax rate. The Company’s income before income taxes was $8,039,000 in the first nine months of 2006 compared to $8,177,000 for the same period a year ago. The effective income tax rate for the nine months ended September 30, 2006 increased to 34.12% from 33.53% for the same period in 2005.
36
Table of Contents
FINANCIAL CONDITION
INVESTMENT SECURITIES
The amortized cost and market value of investment securities at September 30, 2006 with gross unrealized gains and losses follows:
(In thousands) At September 30, 2006 | Amortized Cost | Gross Unrealized Gains | Gross Unrealized Losses | Market Value | ||||||||||
Securities held to maturity: | ||||||||||||||
Mortgage-backed securities: | ||||||||||||||
Federal National Mortgage Association | $ | 5,416 | $ | — | $ | (139 | ) | $ | 5,277 | |||||
Total securities held to maturity | $ | 5,416 | $ | — | $ | (139 | ) | $ | 5,277 | |||||
Securities available for sale: | ||||||||||||||
Debt securities: | ||||||||||||||
U.S. Treasury obligations | $ | 36,043 | $ | — | $ | (432 | ) | $ | 35,611 | |||||
U.S. Government agency obligations | 257,026 | 30 | (3,640 | ) | 253,416 | |||||||||
Total | 293,069 | 30 | (4,072 | ) | 289,027 | |||||||||
Mortgage-backed securities: | ||||||||||||||
Government National Mortgage Association | 1,876 | 17 | — | 1,893 | ||||||||||
Federal Home Loan Mortgage Corporation | 127,275 | 541 | (1,582 | ) | 126,234 | |||||||||
Federal National Mortgage Association | 2,571 | — | (45 | ) | 2,526 | |||||||||
Collateralized mortgage obligations | 78 | — | — | 78 | ||||||||||
Total mortgage-backed securities | 131,800 | 558 | (1,627 | ) | 130,731 | |||||||||
Total debt securities available for sale | 424,869 | 588 | (5,699 | ) | 419,758 | |||||||||
Equity securities | 9,695 | 481 | (921 | ) | 9,255 | |||||||||
Total securities available for sale | 434,564 | $ | 1,069 | $ | (6,620 | ) | $ | 429,013 | ||||||
Net unrealized losses on securities available for sale | (5,551 | ) | ||||||||||||
Total securities available for sale, net | 429,013 | |||||||||||||
Total investment securities, net | $ | 434,429 | ||||||||||||
TRADING SECURITIES | ||||||||||||||
The market value of trading securities is as follows: | ||||||||||||||
(In thousands) At September 30, 2006 | Market Value | |||||||||||||
Marketable equity securities | $ | 365 | ||||||||||||
Investments in mutual funds | 4 | |||||||||||||
Total trading securities | $ | 369 | ||||||||||||
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Table of Contents
FINANCIAL CONDITION
INVESTMENT SECURITIES (continued)
The amortized cost and market value of investment securities at December 31, 2005 with gross unrealized gains and losses follows:
(In thousands) At December 31, 2005 | Amortized Cost | Gross Unrealized Gains | Gross Unrealized Losses | Market Value | ||||||||||
Securities held to maturity: | ||||||||||||||
Mortgage-backed securities: | ||||||||||||||
Federal National Mortgage Association | $ | 6,137 | $ | — | $ | (115 | ) | $ | 6,022 | |||||
Total | $ | 6,137 | $ | — | $ | (115 | ) | $ | 6,022 | |||||
Securities available for sale: | ||||||||||||||
Debt securities: | ||||||||||||||
U.S. Treasury obligations | $ | 77,051 | $ | — | $ | (935 | ) | $ | 76,116 | |||||
U.S. Government agency obligations | 239,024 | 10 | (4,497 | ) | 234,537 | |||||||||
Total | 316,075 | 10 | (5,432 | ) | 310,653 | |||||||||
Mortgage-backed securities: | ||||||||||||||
Government National Mortgage Association | 3,262 | 89 | — | 3,351 | ||||||||||
Federal Home Loan Mortgage Corporation | 128,942 | 1,003 | (1,058 | ) | 128,887 | |||||||||
Federal National Mortgage Association | 3,138 | 2 | (37 | ) | 3,103 | |||||||||
Collateralized mortgage obligations | 92 | — | (1 | ) | 91 | |||||||||
Total mortgage-backed securities | 135,434 | 1,094 | (1,096 | ) | 135,432 | |||||||||
Total debt securities available for sale | 451,509 | 1,104 | (6,528 | ) | 446,085 | |||||||||
Equity securities | 6,788 | 722 | (123 | ) | 7,387 | |||||||||
Total securities available for sale | 458,297 | $ | 1,826 | $ | (6,651 | ) | $ | 453,472 | ||||||
Net unrealized losses on securities available for sale | (4,825 | ) | ||||||||||||
Total securities available for sale, net | 453,472 | |||||||||||||
Total investment securities, net | $ | 459,609 | ||||||||||||
TRADING SECURITIES | ||||||||||||||
The market value of trading securities is as follows: | ||||||||||||||
(In thousands) At December 31, 2005 | Market Value | |||||||||||||
U.S. Treasury obligations | $ | 7,896 | ||||||||||||
Marketable equity securities | 1,382 | |||||||||||||
Investments in mutual funds | 4 | |||||||||||||
Total trading securities | $ | 9,282 | ||||||||||||
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Investments (continued)
The amortized cost and market value of debt securities available for sale by contractual maturity at September 30, 2006 and December 31, 2005 are shown in the following table. Actual maturities will differ from contractual maturities because of callable government agency securities in the Company’s portfolio that may be called prior to maturity.
The amortized cost and market value of debt securities available for sale by contractual maturity are as follows:
(In thousands) | September 30, 2006 | December 31, 2005 | ||||||||||||
Amortized Cost | Market Value | Amortized Cost | Market Value | |||||||||||
Investment securities available for sale: | ||||||||||||||
U.S. Treasury obligations: | ||||||||||||||
Maturing within 1 year | $ | 24,034 | $ | 23,904 | $ | 50,950 | $ | 50,595 | ||||||
Maturing after 1 year but within 5 years | 12,009 | 11,707 | 26,101 | 25,521 | ||||||||||
Total | 36,043 | 35,611 | 77,051 | 76,116 | ||||||||||
U.S. Government agency obligations: | ||||||||||||||
Maturing within 1 year | 79,000 | 78,463 | 45,999 | 45,612 | ||||||||||
Maturing after 1 year but within 5 years | 152,994 | 150,281 | 171,992 | 168,254 | ||||||||||
Maturing after 5 years but within 10 years | 23,996 | 23,663 | 19,996 | 19,665 | ||||||||||
Maturing after 10 years but within 15 years | 1,036 | 1,009 | 1,037 | 1,006 | ||||||||||
Total | 257,026 | 253,416 | 239,024 | 234,537 | ||||||||||
Mortgage-backed securities: | ||||||||||||||
Maturing within 1 year | 81 | 82 | 19 | 20 | ||||||||||
Maturing after 1 year but within 5 years | 8,162 | 8,280 | 7,238 | 7,451 | ||||||||||
Maturing after 5 years but within 10 years | 18,820 | 19,131 | 22,333 | 22,955 | ||||||||||
Maturing after 10 years but within 15 years | 104,659 | 103,160 | 105,779 | 104,940 | ||||||||||
Maturing after 15 years | 78 | 78 | 65 | 66 | ||||||||||
Total | 131,800 | 130,731 | 135,434 | 135,432 | ||||||||||
Total debt securities available for sale | 424,869 | $ | 419,758 | 451,509 | $ | 446,085 | ||||||||
Net unrealized losses on debt securities available for sale | (5,111 | ) | (5,424 | ) | ||||||||||
Total debt securities available for sale, net carrying value | $ | 419,758 | $ | 446,085 | ||||||||||
Maturities of mortgage-backed securities are shown at final contractual maturity but are expected to have shorter lives because borrowers have the right to prepay obligations without prepayment penalties.
Included in U.S. Government agency obligations are investments that can be called prior to final maturity with an amortized cost of $176.0 million and a market value of $173.2 million at September 30, 2006 and an amortized cost of $193.0 million and a market value of $189.3 million at December 31, 2005.
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INVESTMENT SECURITIES (continued)
The following table presents temporarily impaired investment securities aggregated by category of investments as of September 30, 2006, December 31, 2005, and September 30, 2005.
Temporarily Impaired Investment Securities (Unaudited)
Temporarily Impaired Less Than 12 Months | Temporarily Impaired 12 Months or Longer | Total | |||||||||||||||||||
(In thousands) | Fair Value | Gross Unrealized Losses | Fair Value | Gross Unrealized Losses | Fair Value | Gross Unrealized Losses | |||||||||||||||
At September 30, 2006 Debt Securities: | |||||||||||||||||||||
U.S. Treasury obligations | $ | 995 | $ | (2 | ) | $ | 34,616 | $ | (430 | ) | $ | 35,611 | $ | (432 | ) | ||||||
U.S. Government agency obligations | 73,728 | (271 | ) | 160,622 | (3,369 | ) | 234,350 | (3,640 | ) | ||||||||||||
Mortgaged-backed securities | 47,746 | (434 | ) | 53,028 | (1,332 | ) | 100,774 | (1,766 | ) | ||||||||||||
Total debt securities | 122,469 | (707 | ) | 248,266 | (5,131 | ) | 370,735 | (5,838 | ) | ||||||||||||
Equity securities | 4,306 | (921 | ) | — | — | 4,306 | (921 | ) | |||||||||||||
Total temporarily impaired investment securities at: | |||||||||||||||||||||
September 30, 2006 | $ | 126,775 | $ | (1,628 | ) | $ | 248,266 | $ | (5,131 | ) | $ | 375,041 | $ | (6,759 | ) | ||||||
December 31, 2005 | $ | 248,034 | $ | (2,938 | ) | $ | 156,694 | $ | (3,828 | ) | $ | 404,728 | $ | (6,766 | ) | ||||||
September 30, 2005 | $ | 254,601 | $ | (3,287 | ) | $ | 98,081 | $ | (2,392 | ) | $ | 352,682 | $ | (5,679 | ) | ||||||
As of September 30, 2006 management concluded that the unrealized losses above are temporary in nature since they are not related to the underlying credit quality of the issuers, and the Company has the ability to hold these investments for a time necessary to recover its cost. The unrealized losses above (with the exception of the equity securities) are on securities that have contractual maturity dates and are primarily related to market interest rates.
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LOANS
The composition of the Bank’s loan portfolio is summarized as follows:
(In thousands) | At September 30, 2006 | At December 31, 2005 | ||||
Mortgage loans: | ||||||
Residential | $ | 197,529 | $ | 212,711 | ||
Commercial | 4,647 | 2,335 | ||||
Construction | 1,829 | 845 | ||||
204,005 | 215,891 | |||||
Premium on loans | 2 | 2 | ||||
Deferred mortgage loan origination costs (fees), net | 29 | 11 | ||||
Total mortgage loans | 204,036 | 215,904 | ||||
Other loans: | ||||||
Consumer: | ||||||
Installment | 815 | 245 | ||||
Guaranteed education | 696 | 1,094 | ||||
Other secured | 404 | 499 | ||||
Home equity lines of credit | 7,708 | 7,722 | ||||
Unsecured | 132 | 148 | ||||
Total consumer loans | 9,755 | 9,708 | ||||
Commercial | 85 | 118 | ||||
Total other loans | 9,840 | 9,826 | ||||
Total loans | $ | 213,876 | $ | 225,730 | ||
The Bank’s loan portfolio decreased $11.8 million during the first nine months of 2006, from $225.7 million at December 31, 2005 to $213.9 million at September 30, 2006. This is due to a decrease in mortgage loans.
The Bank’s mortgage lending activity, particularly refinancing activity, has decreased significantly in 2006 compared to the prior year. Loan originations, as a result, decreased to $5.8 million in the recent quarter from $17.5 million in the third quarter of last year. For the first nine months of 2006, loan originations totaled $17.1 million compared to $40.0 million in the first nine months of 2005.
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NON-PERFORMING ASSETS
The following table shows the composition of the Bank’s non-performing assets at September 30, 2006 and 2005, and December 31, 2005:
(In thousands) | At September 30, 2006 | At December 31, 2005 | At September 30, 2005 | |||||||||
Non-Performing Assets: | ||||||||||||
Non-accrual loans | $ | 5 | $ | 257 | $ | 267 | ||||||
Real estate acquired through foreclosure | — | — | — | |||||||||
Total non-performing assets | $ | 5 | $ | 257 | $ | 267 | ||||||
Allowance for loan losses | $ | 1,395 | $ | 1,253 | $ | 1,253 | ||||||
Allowance as a percent of total loans | 0.65 | % | 0.56 | % | 0.54 | % | ||||||
Non-accrual loans as a percent of total loans | 0.00 | % | 0.11 | % | 0.12 | % | ||||||
The Bank generally does not accrue interest on loans which are 90 days or more past due. It is the Bank’s policy to place such loans on non-accrual status and to reverse from income all interest previously accrued but not collected and to discontinue all amortization of deferred loan fees.
The Company’s non-accrual loans are at historical lows totaling only $5,000 at September 30, 2006 down from $257,000 at December 31, 2005 and $267,000 at September 30, 2005.
The Bank did not have any impaired loans as of September 30, 2006, December 31, 2005 or September 30, 2005.
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ALLOWANCE FOR LOAN LOSSES
An analysis of the activity in the allowance for loan losses is as follows:
Nine Months Ended September 30, | ||||||||
2006 | 2005 | |||||||
(In thousands) | ||||||||
Balance at December 31, 2005 and 2004 | $ | 1,253 | $ | 1,307 | ||||
Provision (credit) for loan losses | 132 | (53 | ) | |||||
Recoveries of loans previously charged-off | 19 | — | ||||||
Charge-offs | (9 | ) | (1 | ) | ||||
Balance at September 30, | $ | 1,395 | $ | 1,253 | ||||
The Company maintains an allowance for possible losses that are inherent in the Company’s loan portfolio. The allowance for loan losses is increased by provisions charged to operations based on the estimated loan loss exposure inherent in the portfolio. Management uses a methodology to systematically measure the amount of estimated loan loss exposure inherent in the portfolio for purposes of establishing a sufficient allowance for loan losses. The methodology includes three elements: an analysis of individual loans deemed to be impaired, general loss allocations for various loan types based on loss experience factors and an unallocated allowance which is maintained based on management’s assessment of many factors including the risk characteristics of the portfolio, concentrations of credit, current and anticipated economic conditions that may effect the borrower’s ability to pay, and trends in loan delinquencies and charge-offs. Realized losses, net of recoveries, are charged directly to the allowance. While management uses currently available information in establishing the allowance for loan losses, future adjustments to the allowance may be necessary if economic conditions differ from the assumptions used in making the evaluation. In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Bank’s allowance for loan losses. Such agencies may require the Bank to recognize additions to the allowance based on judgments different from those of management.
At September 30, 2006 the balance of the allowance for loan losses was $1,395,000 representing 0.65% of total loans compared to $1,253,000 representing 0.54% of total loans at September 30, 2005. Management believes that the allowance for loan losses is adequate to cover the risks inherent in the portfolio under current conditions.
The Company also maintains an allowance for possible losses on its outstanding loan commitments that totaled $336,000 and $588,000 at September 30, 2006 and 2005, respectively. The allowance for loan losses on off-balance sheet credit exposures (shown separately on the balance sheet) is maintained based on expected drawdowns of committed loans and their loss experience factors and management’s assessment of various other factors including current and anticipated economic conditions that may effect the borrowers’ ability to pay, and trends in loan delinquencies and charge-offs.
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DEPOSITS
Deposit accounts of all types have traditionally been the primary source of funds for the Bank’s lending and investment activities. The Bank’s deposit flows are influenced by prevailing interest rates, competition and other market conditions. The Bank’s management attempts to manage its deposits through selective pricing and marketing.
The Bank’s total deposits decreased $55.3 million to $729.4 million at September 30, 2006 from $784.7 million at December 31, 2005. The market for deposits has become more competitive as financial institutions have been aggressive in pricing their deposit products to retain deposits. MASSBANK has chosen not to match these competitors’ rates in order to protect its net interest margin.
The composition of the Bank’s total deposits as of the dates shown are summarized as follows:
September 30, 2006 | December 31, 2005 | |||||
(In thousands) | ||||||
Demand and NOW | $ | 77,577 | $ | 82,250 | ||
Savings and money market accounts | 363,610 | 441,541 | ||||
Time certificates of deposit | 288,224 | 260,937 | ||||
Total deposits | $ | 729,411 | $ | 784,728 | ||
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QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market Risk
Market risk is the risk of loss in a financial instrument arising from adverse changes in prices. The Company’s investment securities portfolio includes equity securities with a market value of $9.3 million at September 30, 2006. Movements in equity prices affect the value of the equity portfolio and affect the amount of securities gains or losses that the Company realizes from the sale of equity securities. The Company’s debt securities available for sale portfolio has market value of $419.8 million at September 30, 2006. Interest rate changes affect the value of this portfolio. Rising interest rates would generally reduce the value of the portfolio.
Interest Rate Risk
Interest rate risk represents the sensitivity of earnings to changes in market interest rates. As interest rates change the interest income and expense streams associated with the Company’s financial instruments also change, which impacts net interest income, the primary component of the Company’s earnings. The ongoing monitoring and management of this risk is an important component of the Company’s asset/liability management process. For additional information about the Company’s asset/liability management and interest rate risk, see the Management Discussion and Analysis section of the Company’s Form 10-K for the year ended December 31, 2005.
Liquidity and Capital Resources
The Bank must maintain a sufficient amount of cash and assets which can readily be converted into cash in order to meet cash outflows from normal depositor requirements and loan demands. The Bank’s primary sources of funds are deposits, loan and mortgage-backed securities amortization and prepayments, sales or maturities of investment securities, investment securities called before maturity and income on earning assets. In addition to loan payments and maturing investment securities, which are relatively predictable sources of funds, the Bank maintains a high percentage of its assets invested in overnight federal funds sold and money market funds, which can be immediately converted into cash and United States Treasury and Government agency securities, which can be sold or pledged to raise funds. At September 30, 2006 the Bank had $123.9 million or 14.6% of total assets and $289.0 million or 34.2% of total assets invested, respectively, in overnight federal funds sold and money market funds, and United States Treasury and Government agency obligations.
The Bank is a Federal Deposit Insurance Corporation (“FDIC”) insured institution subject to the FDIC regulatory capital requirements. The FDIC regulations require all FDIC insured institutions to maintain minimum levels of Tier 1 capital. Highly rated banks (i.e., those with a composite rating of 1 under the CAMELS rating system) are required to maintain a minimum leverage ratio of Tier 1 capital to total assets of at least 3.00%. An additional 100 to 200 basis points are required for all but these most highly rated institutions. The Bank is also required to maintain a minimum level of risk-based capital. Under the risk-based capital standards, FDIC insured institutions must maintain a Tier 1 capital to risk-weighted assets ratio of 4.00% and are generally expected to meet a minimum total qualifying capital to risk-weighted assets ratio of 8.00%. The risk-based capital guidelines take into consideration risk factors, as defined by the regulators, associated with various categories of assets, both on and off the balance sheet. Under the guidelines, capital strength is measured in two tiers which are used in conjunction with risk adjusted assets to determine the risk-based capital ratios.
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Liquidity and Capital Resources (continued)
Tier II components include supplemental capital components such as qualifying allowance for loan losses and qualifying subordinated debt and up to 45 percent of the pre-tax net unrealized holding gains on certain available for sale equity securities. Tier I capital plus the Tier II capital components are referred to as total qualifying capital.
The capital ratios of the Bank and the Company currently exceed the minimum regulatory requirements. At September 30, 2006, the Bank had a leverage Tier I capital to average assets ratio of 12.10%, a Tier I capital to risk- weighted assets ratio of 36.20% and a total capital to risk-weighted assets ratio of 36.81%. The Company, on a consolidated basis, had ratios of leverage Tier I capital to average assets of 12.69%, Tier I capital to risk-weighted assets of 37.90% and total capital to risk-weighted assets of 38.50% at September 30, 2006.
Controls and Procedures
(a)Evaluation of disclosure controls and procedures. Our principal executive officer and our principal financial officer have evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended) as of the end of the period covered by this Quarterly Report. Based upon that evaluation, such officers have concluded that our disclosure controls and procedures are effective as of the end of such period.
(b)Changes in internal controls over financial reporting. There have been no changes during the period covered by this Quarterly Report in our internal control over financial reporting that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
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From time to time, MASSBANK Corp. and/or the Bank are involved as a plaintiff or defendant in various legal actions incident to their business. As of September 30, 2006, none of these actions individually or in the aggregate is believed by management to be material to the financial condition of MASSBANK Corp. or the Bank.
There have been no material changes to the Risk Factors previously disclosed in Item 1A of the Company’s Annual Report on Form 10-K for the period ended December 31, 2005.
Issuer Purchases of Equity Securities
The following table sets forth purchases made by the Company of its shares of common stock under the stock repurchase program during the three months ended September 30, 2006:
Period | Total Number of Shares Purchased | Average Price Paid Per Share | Total Number of Shares Purchased as Part of a Publicly Announced Repurchase Program (1) | Maximum Number of Shares That May Yet Be Purchased Under the Repurchase Program | ||||||
June 30, 2006 | 90,217 | (1) | ||||||||
July 1-31, 2006 | 10,000 | $ | 32.60 | 10,000 | 80,217 | |||||
August 1-31, 2006 | — | — | — | 80,217 | ||||||
September 1-30, 2006 | — | — | — | 80,217 | ||||||
10,000 | $ | 32.60 | 10,000 | |||||||
(1) | On October 19, 2005 the Registrant’s Board of Directors extended for another year the stock repurchase program previously authorized. Additionally, the Board approved an increase of 125,000 in the number of shares of the Registrant’s common stock authorized for repurchase in the current program, bringing the total shares available for repurchase to 133,317. In the fourth quarter of 2005 and the first two quarters of 2006, the Company repurchased 43,100 shares further reducing the total shares available for repurchase to 90,217 at June 30, 2006. |
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Item 2(c). (Continued)
In addition, the following number of shares were purchased for the Company’s Employees’ Stock Ownership Plan and Trust during the quarter ended September 30, 2006:
Period | Total Number of Shares Purchased | Average Price Paid Per Share | Total Number of Shares Purchased as Part of a Publicly Announced Repurchase Program (1) | Maximum Number of Shares That May Yet Be Purchased Under the Repurchase Program | |||||
July 1-31, 2006 | 0 | $ | 0.00 | 0 | 0 | ||||
August 1-31, 2006 | 0 | $ | 0.00 | 0 | 0 | ||||
September 1-30, 2006 | 2,100 | $ | 32.58 | 0 | 0 | ||||
2,100 | $ | 32.58 | |||||||
Item 3. Defaults Upon Senior Securities
Not Applicable.
Item 4. Submission of Matters to a Vote of Security Holders
None.
None.
a. | Exhibit Index | |||
31.1 | Section 302 Certification of Chief Executive Officer. (filed herewith) | |||
31.2 | Section 302 Certification of Chief Financial Officer. (filed herewith) | |||
32.1 | Certification pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, signed by Gerard H. Brandi, Chief Executive Officer of the Company. (filed herewith) | |||
32.2 | Certification pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, signed by Reginald E. Cormier, Chief Financial Officer of the Company. (filed herewith) |
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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.
MASSBANK Corp. & Subsidiaries | ||
(Registrant) | ||
Date: November 7, 2006 | /s/Gerard H. Brandi | |
(Signature) | ||
Gerard H. Brandi | ||
President and CEO | ||
Date: November 7, 2006 | /s/Reginald E. Cormier | |
(Signature) | ||
Reginald E. Cormier | ||
Sr. V.P., Treasurer and CFO |
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