The accompanying unaudited condensed and consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and notes required by accounting principles generally accepted in the United States of America for complete financial statements. In the opinion of management, the accompanying consolidated financial statements contain all adjustments (consisting principally of normal recurring accruals) considered necessary for a fair presentation of the Company's financial position at March 31, 2009, the results of operations for the three and nine month periods ended March 31, 2009 and 2008, the changes in stockholders' equity for the nine month periods ended March 31, 2009 and 2008, and the cash flows for the nine month periods ended March 31, 2009 and 2008. Operating results for the nine month period ended March 31, 2009 are not necessarily indicative of the results that may be expected for the fiscal year ending June 30, 2009. For further information, refer to the audited consolidated financial statements and notes thereto for the fiscal year ended June 30, 2008 included in the Company's Annual Report on Form 10-K. Certain June 30, 2008 amounts have been reclassified to be consistent with the March 31, 2009 financial statements.
NBN Capital Trust II and NBN Capital Trust III were created in December 2003. NBN Capital Trust IV was created in December 2004. Each such trust is a Delaware statutory trust (together, the "Private Trusts"). The exclusive purpose of the Private Trusts was (i) issuing and selling Common Securities and Preferred Securities in a private placement offering, (ii) using the proceeds of the sale of the Private Trust Securities to acquire Junior Subordinated Deferrable Interest Notes ("Junior Subordinated Debentures"); and (iii) engaging only in those other activities necessary, convenient or incidental thereto. Accordingly the Junior Subordinated Debentures are the sole assets of each of the Private Trusts.
The following table summarizes the junior subordinated debentures issued by the Company to each affiliated trust and the trust preferred and common securities issued by each affiliated trust at March 31, 2009. Amounts include the junior subordinated debentures acquired by the affiliated trusts from the Company with the capital contributed by the Company in exchange for the common securities of such trust. The trust preferred securities were sold in two separate private placement offerings. The Company has the right to redeem the junior subordinated debentures, in whole or in part, on or after March 30, 2009, for NBN Capital Trust II and III, and on or after February 23, 2010, for NBN Capital Trust IV, at the redemption price specified in the Indenture plus accrued but unpaid interest to the redemption date.
NBN Capital Trust II and III pay a variable rate based on three month LIBOR plus 2.80% and NBN Capital Trust IV pays a 5.88% fixed rate until February 23, 2010 when the rate changes to a variable rate based on three month LIBOR plus 1.89%. Accordingly, the Preferred Securities of the Private Trusts currently pay quarterly distributions at an annual rate of 4.01% for the stated liquidation amount of $1,000 per Preferred Security for NBN Capital Trust II and III and an annual rate of 5.88% for the stated liquidation amount of $1,000 per Preferred Security for NBN Capital Trust IV. The Company has fully and unconditionally guaranteed all of the obligations of each trust. The guaranty covers the quarterly distributions and payments on liquidation or redemption of the Private Trust Preferred Securities, but only to the extent of funds held by the trusts. Based on the current rates, the annual interest expense on the trust preferred securities is approximately $854,000.
Securities available-for-sale at cost and approximate fair values and maturities at March 31, 2009 and June 30, 2008 are summarized below:
The cost and market values of available-for-sale debt securities at March 31, 2009 and June 30, 2008, by contractual maturity, are shown below. Actual maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.
The Federal Home Loan Bank has the option to call $33,000,000 of the outstanding advances at March 31, 2009. The options are continuously callable quarterly until maturity.
In a leveraging strategy during the nine months ended March 31, 2009, the Company borrowed $25,000,000.
Payments would be received on the interest rate caps when three month LIBOR exceeded the strike rate on the quarterly reset date. Payments would be made on the sold interest rate floors when three month LIBOR was below the strike rate on the quarterly reset date. The amount of the payment would be equal to the difference between the strike rate and three month LIBOR multiplied by the notional amount of the cap or floor and be made 90 days after the reset date. Payments are being made on the sold interest rate floors, increasing the interest rate to 7.96% from 3.98% on the structured repurchase agreement maturing August 28, 2012.
The collateral pledged was FNMA, FHLMC and GNMA issued mortgage-backed securities with a fair value of $72,533,001 as of March 31, 2009.
In fiscal 2008, the Company recognized a capital lease obligation for the building occupied by the Spence & Matthews Insurance Agency located at 4 Sullivan Square, Berwick, Maine, which was acquired by Northeast Bank Insurance Group, Inc. on November 30, 2007. The present value of the annual lease payments of $38,880 over the remaining twenty-one year term exceeded 90% of the fair value of this building. The Spence & Matthews Insurance Agency occupies the entire building. In fiscal 2006, the Company recognized a capital lease obligation for its new headquarters known as the Southern Gateway building located at 500 Canal Street in Lewiston, Maine. The present value of the lease payments over fifteen years ($264,262 per year for each of the initial ten years of the lease term and $305,987 per year for each of the last five years) exceeded 90% of the fair value of the Southern Gateway building. Northeast Bank's commercial lending and underwriting, consumer loan underwriting, loan servicing, deposit operations, accounting, human resources, risk management, and executive administration departments occupy the approximately 27,000 square feet of space. The capital lease obligation was $2,780,961 and $2,891,022 at March 31, 2009 and June 30, 2008, respectively. The capital lease asset is being amortized over the lease term.
10. Insurance Agency Acquisitions
Northeast Bank Insurance Group, Inc. has pending the acquisition of the Goodrich Insurance Associates of Berwick, Maine for $715,000, structured as a purchase of assets for cash. Following the acquisition, the Goodrich personnel and customer records will be moved to the existing Spence & Matthews office in Berwick. Northeast Bank Insurance Group, Inc. acquired three insurance agencies in fiscal 2008 and four insurance agencies in fiscal 2007. Each acquisition was structured as a purchase of assets for cash and a note, except the Palmer Insurance Agency, which was the purchase of stock for cash and a note. The details of each purchase appear below, including the acquisition date and the agency’s location in Maine. Each agency operates at its existing location except Hartford, which was relocated to our agency office in Auburn, Maine, and Russell, which was relocated to the agency office in Anson, Maine. Spence & Matthews has an office in Rochester, NH.
All acquisitions were accounted for using the purchase method and resulted in increases in goodwill and customer list and non-compete intangibles on the consolidated balance sheet. All purchase and sale agreements, except those pertaining to the Russell Insurance Agency and Hartford Insurance Agency, call for a reduction in the purchase price should the stipulated minimum commission revenue levels not be attained over periods of one to three years from the purchase date. During the year ended June 30, 2008, other borrowings and goodwill related to the Southern Maine acquisition were reduced by $98,332 in accordance with this stipulation. The customer list intangibles and estimated useful lives are based on estimates from a third-party appraiser. The useful lives of these intangibles range from eleven to nineteen years. Non-compete intangible useful lives are amortized over a range of ten to fifteen years.
The debt incurred in each transaction is due to the seller of each agency. Each note bears an interest rate of 6.50% over terms as follows: Palmer debt is payable over a term of seven years; the Sturtevant debt is payable over a term of three years; the Southern Maine debt is payable over a term of four years; and the Russell debt is payable over a term of two years. Hartford, Spence & Matthews, and Hyler are payable over a term of seven years. Hartford, Spence & Matthews, and Hyler have debt of $100,000, $800,000, and $200,000, respectively, that bears no interest and has been recorded at its present value assuming a discount rate of 6.50%. Northeast Bank guaranteed the debt repayment to each seller.
Northeast Bank Insurance Group, Inc. leases the office locations for Sturtevant, Southern Maine, and Hyler, which are operating leases. We also lease both office locations for Spence & Matthews. The Berwick office is recorded as a capital lease. The Rochester, NH lease is an operating lease. Northeast Bank acquired Palmer’s agency building and land in January, 2007.
The results of operations of all agencies have been included in the consolidated financial statements since their acquisition date. There is no pro-forma disclosure included because the agencies individually and in aggregate were not considered significant acquisitions.
$2,902,501 of the total goodwill acquired is expected to be deductible for tax purposes.
Northeast Bank Insurance Group, Inc. acquired Solon-Anson Insurance Agency, Inc. on September 29, 2004. This acquisition used purchase accounting and resulted in a customer list intangible asset of $2,081,500, which is being amortized over twelve years.
The Company adopted FAS No. 157 “Fair Value Measurements” in the first quarter of fiscal 2009. SFAS No. 157 defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. SFAS No. 157 also establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. SFAS No. 157 describes three levels of inputs that may be used to measure fair value (with the highest priority given to Level 1, as these are the most transparent or reliable):
Level 2 – Significant other observable inputs, such as quoted prices for similar assets or liabilities in active markets; quoted prices for identical or similar assets or liabilities in markets that are not active; and modeled-derived valuation in which all significant inputs are observable in active markets.
Level 3 – Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. Level 3 assets and liabilities include financial instruments whose value is determined using pricing models, discounted cash flow methodologies, or similar techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation.
The Company is responsible for the valuation process and as part of this process may use data from outside sources in establishing fair market value. The Company performs due diligence to understand the inputs used or how the data was calculated or derived.
To estimate the market value of its available-for-sale securities, the Bank obtains current market pricing from quoted market sources or uses pricing for similar securities. Assets measured at fair value on a recurring basis are summarized below.
Certain impaired loans are reported at fair value of the underlying collateral if repayment is expected solely from collateral. Collateral values are estimated using Level 2 inputs based on appraisal of similar properties obtained from a third party valuation service. For Level 3 inputs, collateral values were based on management’s estimates pending appraisals from third party valuation services or imminent sale of the collateral.
Item 2. Management's Discussion and Analysis of Results of Operations and Financial Condition
This Management's Discussion and Analysis of Results of Operations and Financial Condition presents a review of the results of operations for the three and nine months ended March 31, 2009 and 2008 and the financial condition at March 31, 2009 and June 30, 2008. This discussion and analysis is intended to assist in understanding the results of operations and financial condition of Northeast Bancorp and its wholly-owned subsidiary, Northeast Bank. Accordingly, this section should be read in conjunction with the consolidated financial statements and the related notes and other statistical information contained herein. See our annual report on Form 10-K for the fiscal year ended June 30, 2008 for discussion of the critical accounting policies of the Company. Certain amounts in the prior year have been reclassified to conform to the current-year presentation.
A Note about Forward Looking Statements
This report contains certain "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, such as statements relating to our financial condition, prospective results of operations, future performance or expectations, plans, objectives, prospects, loan loss allowance adequacy, simulation of changes in interest rates, capital spending and finance sources, and revenue sources. These statements relate to expectations concerning matters that are not historical facts. Accordingly, statements that are based on management's projections, estimates, assumptions, and judgments constitute forward-looking statements. These forward-looking statements, which are based on various assumptions (some of which are beyond the Company's control), may be identified by reference to a future period or periods, or by the use of forward-looking terminology such as "believe", "expect", "estimate", "anticipate", "continue", "plan", "approximately", "intend", "objective", "goal", "project", or other similar terms or variations on those terms, or the future or conditional verbs such as "will", "may", "should", "could", and "would". In addition, the Company may from time to time make such oral or written "forward-looking statements" in future filings with the Securities and Exchange Commission (including exhibits thereto), in its reports to shareholders, and in other communications made by or with the approval of the Company.
Such forward-looking statements reflect our current views and expectations based largely on information currently available to our management, and on our current expectations, assumptions, plans, estimates, judgments, and projections about our business and our industry, and they involve inherent risks and uncertainties. Although we believe that these forward-looking statements are based on reasonable estimates and assumptions, they are not guarantees of future performance and are subject to known and unknown risks, uncertainties, contingencies, and other factors. Accordingly, we cannot give you any assurance that our expectations will, in fact, occur or that our estimates or assumptions will be correct. We caution you that actual results could differ materially from those expressed or implied by such forward-looking statements due to a variety of factors, including, but not limited to, those related to the current disruptions in the financial and credit markets, the economic environment, particularly in the market areas in which the Company operates, competitive products and pricing, fiscal and monetary policies of the U.S. Government, changes in government regulations affecting financial institutions, including regulatory fees and capital requirements, changes in prevailing interest rates, acquisitions and the integration of acquired businesses, credit risk management, asset/liability management, changes in technology, changes in the securities markets, deposit insurance premiums and the availability of and the costs associated with sources of liquidity. Accordingly, investors and others are cautioned not to place undue reliance on such forward-looking statements. For a more complete discussion of certain risks and uncertainties affecting the Company, please see "Item 1. Business - Forward-Looking Statements and Risk Factors" set forth in our Form 10-K for the fiscal year ended June 30, 2008 and the additional risk factors in Part II of this 10-Q. These forward-looking statements speak only as of the date of this report and we do not undertake any obligation to update or revise any of these forward-looking statements to reflect events or circumstances occurring after the date of this report or to reflect the occurrence of unanticipated events.
Overview of Operations
This Overview is intended to provide a context for the following Management's Discussion and Analysis of the Results of Operations and Financial Condition, and should be read in conjunction with our unaudited consolidated financial statements, including the notes thereto, in this quarterly report on Form 10-Q, as well as our audited consolidated financial statements for the year ended June 30, 2008 as filed on Form 10-K with the SEC. We have attempted to identify the most important matters on which our management focuses in evaluating our financial condition and operating performance and the short-term and long-term opportunities, challenges, and risks (including material trends and uncertainties) which we face. We also discuss the action we are taking to address these opportunities, challenges, and risks. The Overview is not intended as a summary of, or a substitute for review of, Management's Discussion and Analysis of the Results of Operations and Financial Condition.
Northeast Bank is faced with following challenges: growing loans, improving net interest margins and net interest income, executing our plan of increasing noninterest income, and improving the efficiency ratio.
Loans have decreased compared to June 30, 2008, due principally to a decrease in commercial and consumer loans. We stopped originating indirect automobile and RV loans in October, 2008 due to increasing delinquencies and credit losses. We continue to offer auto and other consumer loans through our branch system. Competition for commercial loans is intense, and we are not competing for relationships where we believe transaction pricing or structure does not properly reflect risk.
Net interest margins are expected to continue to increase modestly over the near term, due to anticipated decreases in cost of funds as the mix changes to overnight funding as term advances from the Federal Home Loan Bank of Boston (“FHLB”) mature. We also have decreased the interest rates paid on non-maturing, interest-bearing deposit accounts and continue to decrease rates on certificates of deposits. Since our balance sheet was liability sensitive at December 31, 2008 (our most recent ALCO review), the cost of interest-bearing liabilities reprice more quickly than the yield of interest-bearing assets and would generally be expected to result in an increase in net interest income during a period of falling interest rates (and a decrease in net interest income during a period of rising interest rates). The prospect of additional decreases in prime rate in the immediate future is unlikely because the Federal Reserve Bank has lowered the federal funds rate to virtually zero percent. Thus, any significant improvement in net interest income would require an increased volume of new loan originations in addition to the changes in market rates.
To improve net interest income, during the nine months ending March 21, 2009, we leveraged our balance sheet by purchasing FNMA and FHLMC mortgage-backed securities funded with structured repurchase agreements. The structured repurchase agreements have imbedded purchased interest rate caps that are intended to hedge our risk to rising interest rates. See note 8 to our unaudited financial statements for additional information.
Management believes that the allowance for loan losses as of March 31, 2009 was adequate, under present conditions, for the known credit risk in the loan portfolio. While the loan portfolio decreased during the nine months ended March 31, 2009 as compared to June 30, 2008, we increased our allowance for loan losses by $22,000, to $5,678,000, because loan delinquencies and net credit losses increased.
Noninterest income decreased for the quarter ended March 31, 2009 compared to the quarter ended March 31, 2008. Insurance commission revenue decreased compared to the quarter ended March 31, 2008 primarily due to lower contingent bonus payments from higher losses experienced in calendar 2008. Investment brokerage income also decreased due to the declines in the stock markets which have slowed the volume of securities transactions handled by our investment brokerage group compared to the quarter ended March 31, 2008. However, gains on the sales of residential real estate loans increased 400% as lower interest rates increased the volume of residential real estate loans being refinanced. We expect to improve noninterest income primarily from increases in consumer and commercial property and casualty insurance policies sold by Northeast Bank Insurance Agency, Inc. through cross-sales to bank customers and sales to new customers, thereby increasing insurance commission revenue. Northeast Bank Insurance Group, Inc. will also be acquiring the Goodrich Agency in May, 2009 and merging their operations into our Berwick agency which will increase commission revenue annually by approximately $700,000. As the stock market recovers, we expect investment brokerage sales volume to increase.
Our efficiency ratio, calculated by dividing noninterest expense by the sum of net interest income and noninterest income, was 85% and 83% for the three months ended March 31, 2009 and 2008, respectively. The ratio has increased due to the increase in noninterest expense as compared to the same period from the prior fiscal year.
Description of Operations
Northeast Bancorp (the "Company") is a Maine corporation and a bank holding company registered with the Federal Reserve Bank of Boston ("FRB") under the Bank Holding Company Act of 1956. The FRB is the primary regulator of the Company and it supervises and examines our activities. The Company also is a registered Maine financial institution holding company under Maine law and is subject to regulation and examination by the Superintendent of Maine Bureau of Financial Institutions. We conduct business from our headquarters in Lewiston, Maine and, as of March 31, 2009, we had eleven banking offices, fourteen insurance offices located in western and south-central Maine and southeastern New Hampshire, a financial services office in Maine and a mortgage loan production office in New Hampshire. At March 31, 2009, we had consolidated assets of $607.2 million and consolidated stockholders' equity of $48.3 million.
The Company's principal asset is all the capital stock of Northeast Bank (the "Bank"), a Maine state-chartered universal bank. Accordingly, the Company's results of operations are primarily dependent on the results of the operations of the Bank. The Bank's 11 offices are located in Auburn, Augusta, Bethel, Brunswick, Buckfield, Harrison, Lewiston (2), Mechanic Falls, Portland, and South Paris, Maine. The Bank's investment brokerage division offers investment, insurance and financial planning products and services from its office in Falmouth, Maine. We established a mortgage loan production office in Portsmouth, NH in the quarter ended December 31, 2008.
The Bank's wholly owned subsidiary, Northeast Bank Insurance Group Inc., is our insurance agency. Its 14 offices are located in Anson, Auburn, Augusta, Berwick, Bethel, Jackman, Livermore Falls, Mexico, Rangeley (its headquarters), Thomaston, Turner, Scarborough, and South Paris, Maine and Rochester, New Hampshire. Seven agencies have been acquired in the past twenty-four months: Hyler Agency of Thomaston, Maine was acquired on December 11, 2008; Spence & Matthews, Inc. of Berwick, Maine and Rochester, New Hampshire, was acquired on November 30, 2008; Hartford Insurance Agency of Lewiston, Maine was acquired on August 30, 2008; Russell Agency of Madison, Maine was acquired on June 28, 2008; Southern Maine Insurance Agency of Scarborough, Maine was acquired on March 30, 2008; Sturtevant and Ham, Inc. of Livermore, Maine was acquired on December 1, 2006; and Palmer Insurance of Turner, Maine was acquired on November 28, 2006. Following the acquisitions, the Russell Agency was moved to our existing agency office in Anson, Maine and the Hartford Insurance Agency was moved to our existing agency office in Auburn, Maine. All of our insurance agencies offer personal and commercial property and casualty insurance products. Acquisition of the Goodrich Agency in Berwick, Maine will close May 15, 2009 and be merged into our existing Berwick agency. See Note 6 in our June 30, 2008 audited consolidated financial statements and Note 10 of the March 31, 2009 unaudited consolidated financial statements for more information regarding our insurance agency acquisitions.
Bank Strategy
The principal business of the Bank consists of attracting deposits from the general public and applying those funds to originate or acquire residential mortgage loans, commercial loans, commercial real estate loans and a variety of consumer loans. The Bank sells, from time to time, fixed rate residential mortgage loans into the secondary market. The Bank also invests in mortgage-backed securities, securities issued by United States government-sponsored enterprises, and corporate and municipal securities. The Bank's profitability depends primarily on net interest income. It continues to be our largest source of revenue and is affected by the level of interest rates, changes in interest rates, and by changes in the amount and composition of interest-earning assets(i.e. loans and investments) and interest-bearing liabilities(i.e. customer deposits and borrowed funds). The Bank also emphasizes the growth of non-interest sources of income from investment and insurance brokerage, trust management and financial planning to reduce its dependency on net interest income.
Our goal is to continue modest, but profitable, growth by increasing our loan and deposit market share in our existing markets in western and south-central Maine, closely managing the yields on interest-earning assets and rates on interest-bearing liabilities, introducing new financial products and services, increasing the number of bank services sold to each household, increasing non-interest income from expanded trust services, investment and insurance brokerage services and controlling the growth of non-interest expenses. It also is part of our business strategy to make targeted acquisitions in our current market areas from time to time when opportunities present themselves.
Results of Operations
Comparison of the three and nine months ended March 31, 2009 and 2008
General
The Company reported consolidated net income of $387,370, or $0.14 per diluted share, for the three months ended March 31, 2009 compared to $672,169, or $0.29 per diluted share, for the three months ended March 31, 2008, a decrease of $284,799, or 42%. Net interest and dividend income increased $828,277, or 24%, as a result of a net interest margin increase combined with increased earning assets. The provision for loan losses increased $330,911, or 115%, due to higher net credit losses. Noninterest income decreased $609,150, or 17%, primarily from decreased securities gains, investment brokerage commissions and insurance commissions. Noninterest expense increased $323,558, or 6%, primarily due to increased other noninterest expenses related to group medical benefits, FDIC insurance and collections expense.
Annualized return on average equity ("ROE") and return on average assets ("ROA") were 3.27% and 0.26%, respectively, for the quarter ended March 31, 2009 as compared to 6.45% and 0.46%, respectively, for the quarter ended March 31, 2008. The decreases in the returns on average equity and average assets were primarily due to lower net income for the most recent quarter.
The Company reported consolidated net income of $750,060, or $0.29 per diluted share, for the nine months ended March 31, 2009 compared to $1,505,162, or $0.63 per diluted share, for the nine months ended March 31, 2008, a decrease of $755,102, or 50%. Net interest and dividend income increased $1,933,987, or 18%, as a result of an increased net interest margin and increase in average earning assets. The provision for loan losses increased $985,260, or 150%, due to an increase in net credit losses. Noninterest income increased $316,167, or 4%, primarily from increased gains on sale of loans and insurance commission revenue. Noninterest expense increased $2,431,268, or 15%, from the full period impact of three insurance agencies acquired in the nine months ended March 31, 2008, group medical benefits expense, increase in FDIC insurance assessments, collection expenses and realized impairment expense on investment securities.
The annualized ROE and ROA were 2.30% and 0.16%, respectively, for the nine months ended March 31, 2009 as compared to 4.83% and 0.35%, respectively, for the nine months ended March 31, 2008. The decreases in the returns on average equity and average assets were primarily due to lower net income for nine months ended March 31, 2009.
Net Interest and Dividend Income
Net interest and dividend income for the three months ended March 31, 2009 increased to $4,230,947, as compared to $3,402,670 for the same period in 2008. The increase in net interest and dividend income of $828,277, or 24%, was primarily due to a 47 basis point increase in net interest margin, on a tax equivalent basis, and an increase in average earning assets of $30,000,595, or 6%, for the quarter ended March 31, 2009 as compared to the quarter ended March 31, 2008. The increase in average earning assets was primarily due to an increase in average available-for-sale securities of $32,195,456, or 25%, from the purchase of mortgage-backed securities combined with an increase in average interest-bearing deposits and regulatory stock of $1,493,243, or 21%, partially offset by a decrease in average loans of $3,688,104, or 1%. Average loans as a percentage of average earning assets were 71% and 75% for quarters ended March 31, 2009 and 2008, respectively. Our net interest margin, on a tax equivalent basis, was 3.02% and 2.55% for the quarters ended March 31, 2009 and 2008, respectively. Our net interest spread, on a tax equivalent basis, for the three months ended March 31, 2009 was 2.70%, an increase of 47 basis points from 2.23% for the same period a year ago. Comparing the three months ended March 31, 2009 and 2008, the yields on earning assets decreased 66 basis points and the cost of interest-bearing liabilities decreased 113 basis points. Our balance sheet has been liability sensitive, with interest-bearing liabilities repricing more quickly than interest-bearing assets, causing our cost of funds to decrease more quickly than our yield on interest-earning assets. Specifically, our certificate of deposits and FHLB advances rolled over at maturity with lower interest rates and our non-maturing, interest-bearing deposit accounts decreased generally following the 400 basis point decrease in federal funds rate from March 31, 2008 to March 31, 2009. The decreases in our yield on earning assets reflected the decreased yields on loans with prime rate based interest rates, which also decreased 400 basis points over the twelve months ended March 31, 2009 and decreases in yields on regulatory stock and on interest- bearing deposits.
The changes in net interest and dividend income, on a tax equivalent basis, are presented in the schedule below, which compares the three months ended March 31, 2009 and 2008.
| | | Difference Due to | | | | |
| | | Volume | | | Rate | | | Total | |
| | $ | 415,882 | | | $ | (25,475 | ) | | $ | 390,407 | |
| | | (63,676 | ) | | | (789,416 | ) | | | (853,092 | ) |
| | | 8,458 | | | | (5,994 | ) | | | 2,464 | |
Total Interest-earnings Assets | | | 360,664 | | | | (820,885 | ) | | | (460,221 | ) |
| | | | | | | | | | | | | |
| | | 62,191 | | | | (1,179,004 | ) | | | (1,116,813 | ) |
Securities sold under Repurchase Agreements | | | 30,282 | | | | (148,918 | ) | | | (118,636 | ) |
| | | 128,464 | | | | (181,183 | ) | | | (52,719 | ) |
Total Interest-bearing Liabilities | | | 220,937 | | | | (1,509,105 | ) | | | (1,288,168 | ) |
Net Interest and Dividend Income | | $ | 139,727 | | | $ | 688,220 | | | $ | 827,947 | |
| | | | | | | | | | | | | |
Rate/volume amounts which are partly attributable to rate and volume are spread proportionately between volume and rate based on the direct change attributable to rate and volume. Borrowings in the table include junior subordinated notes, FHLB borrowings, structured repurchase agreements, capital lease obligations and other borrowings. The adjustment to interest income and yield on a fully tax equivalent basis was $50,436 and $50,766 for the three months ended March 31, 2009 and 2008, respectively. | |
Net interest and dividend income for the nine months ended March 31, 2009 increased to $12,498,798, as compared to $10,564,811 for the same period in 2008. The increase in net interest and dividend income of $1,933,987, or 18%, was primarily due to a 31 basis point increase in net interest margin, on a tax equivalent basis, and an increase in average earning assets of $29,782,544, or 6%, for the quarter ended March 31, 2009 as compared to the quarter ended March 31, 2008. The increase in average earning assets was primarily due to an increase in average investment securities of $37,212,799, or 33%, from the purchase of mortgage-backed securities and an increase in average interest-bearing deposits and regulatory stock of $1,505,240, or 18%, partially offset by a decrease in average loans of $8,935,495, or 2%. Average loans as a percentage of average earning assets was 72% and 78% for quarters ended March 31, 2009 and 2008, respectively. Our net interest margin, on a tax equivalent basis, was 2.97% and 2.66% for the nine months ended March 31, 2009 and 2008, respectively. Our net interest spread, on a tax equivalent basis, for the nine months ended March 31, 2009 was 2.74%, an increase of 38 basis points from 2.36% for the same period a year ago. Comparing the nine months ended March 31, 2009 and 2008, the yields on earning assets decreased 64 basis point compared to a 101 basis point decrease in the cost of interest-bearing liabilities. The decreases in our yield on earning assets and in the cost of interest-bearing liabilities reflect the general decrease in interest rates. Prime rate and federal funds rate have decreased 400 basis points over the twelve months ended March 31, 2009. Our liability sensitive balance sheet has allowed us to reduce our cost of funds more rapidly than the decrease in the yield on earning assets, improving our net interest margin and net interest spread.
The changes in net interest and dividend income, on a tax equivalent basis, are presented in the schedule below, which compares the nine months ended March 31, 2009 and 2008.
| | | Difference Due to | | | | |
| | | Volume | | | Rate | | | Total | |
| | $ | 1,459,912 | | | $ | 87,749 | | | $ | 1,547,661 | |
| | | (472,779 | ) | | | (2,274,917 | ) | | | (2,747,696 | ) |
| | | 33,788 | | | | (74,896 | ) | | | (41,108 | ) |
Total Interest-earnings Assets | | | 1,020,921 | | | | (2,262,064 | ) | | | (1,241,143 | ) |
| | | | | | | | | | | | | |
| | | 48,843 | | | | (3,079,255 | ) | | | (3,030,412 | ) |
Securities sold under repurchase Agreements | | | 59,556 | | | | (512,136 | ) | | | (452,580 | ) |
| | | 771,856 | | | | (464,616 | ) | | | 307,240 | |
Total Interest-bearing Liabilities | | | 880,255 | | | | (4,056,007 | ) | | | (3,175,752 | ) |
Net Interest and Dividend Income | | $ | 140,666 | | | $ | 1,793,943 | | | $ | 1,934,609 | |
| | | | | | | | | | | | | |
Rate/volume amounts which are partly attributable to rate and volume are spread proportionately between volume and rate based on the direct change attributable to rate and volume. Borrowings in the table include junior subordinated notes, FHLB borrowings, structured repurchase agreements, capital lease obligation and other borrowings. The adjustment to interest income and yield on a fully tax equivalent basis was $152,434 and $151,812 for the nine months ended March 31, 2009 and 2008, respectively. | |
The Company's business primarily consists of the commercial banking activities of the Bank. The success of the Company is largely dependent on its ability to manage interest rate risk and, as a result, changes in interest rates, as well as fluctuations in the level of assets and liabilities, affect net interest and dividend income. Interest rate risk arises primarily in our core banking activities: lending and deposit gathering. In addition to directly impacting net interest and dividend income, changes in interest rates can also affect the amount of loans originated and sold by the Bank, the ability of borrowers to repay adjustable or variable rate loans, the average maturity of loans, the rate of amortization of premiums and discounts paid on securities, the amount of unrealized gains and losses on securities available-for-sale and the fair value of our saleable assets and the resultant ability to realize gains. The interest sensitivity of the Bank's balance sheet has a liability sensitive position, where the costs of interest-bearing liabilities reprice more quickly than the yield of interest-bearing assets. As a result, the Bank is generally expected to experience a decrease in its net interest margin during a period of increasing interest rates, and an increase in its net interest margin during a period of decreasing interest rates.
As of March 31, 2009 and 2008, 47% and 43%, respectively, of the Bank's loan portfolio was composed of adjustable rate loans based on a prime rate index or short-term rate indices such as the one-year U.S. Treasury bill. Interest income on these existing loans would increase if short-term interest rates increase. An increase in short-term interest rates would also increase deposit and FHLB advance rates, increasing the Company's interest expense. The impact on future net interest and dividend income from changes in market interest rates will depend on, among other things, actual rates charged on the Bank's loan portfolio, deposit and advance rates paid by the Bank and loan volume.
Provision for Loan Losses
The provision for loan losses for the three months ended March 31, 2009 was $618,536, an increase of $330,911, or 115%, from $287,625 for the three months ended March 31, 2008. For the nine months ended March 31, 2009 and 2008, the provision for loans losses was $1,642,821 and $657,561, respectively, an increase of $985,260, or 150%. We have maintained our allowance for loan losses virtually flat to June 30, 2008 by recognizing a provision equal to net charge-offs. The provision was increased, due to the increase in net charge-offs, $661,537 for the three months ended March 31, 2009 compared to $287,625 for the same period in 2008 and $1,620,821 for the nine months ended March 31, 2009 compared to $657,561 for the same period in 2008 and increasing the allowance for loan losses compared to its June 30, 2008 balance to reflect increasing credit risk in the loan portfolio. For our internal analysis of the adequacy of the allowance, we considered the decrease in loans for the nine months ended March 31, 2009, the increase in net credit losses for the quarter and nine months ended March 31, 2009 compared to the same periods in the prior year, an increase in loan delinquency (4.59% at March 31, 2009 compared to 3.03% at June 30, 2008 and 3.90% at March 31, 2008) an increase in nonaccrual loans compared to June 30, 2008 of $974,000, to $8,677,000, and an increase in internal classified and criticized commercial and commercial real estate loans. Management deemed the allowance for loan losses adequate for the risk in the loan portfolio. See Financial Condition for a discussion of the Allowance for Loan Losses and the factors impacting the provision for loan losses. The allowance as a percentage of outstanding loans increased to 1.42% at March 31, 2009 compared to 1.35% at June 30, 2008 and virtually flat to 1.41% at March 31, 2008.
Noninterest Income
Total noninterest income was $3,031,683 for the three months ended March 31, 2009, a decrease of $609,150, or 17%, from $3,640,833 for the three months ended March 31, 2008. This decrease reflected the combined impact of a $267,147 decrease in gains on securities sales, a $433,531, or 64%, decrease in investment brokerage revenue from lower sales volume attributed to the decline in the stock market and the current economic recession, and a $464,490, or 23%, decrease in insurance agency commissions due to increased losses experienced by the insurance companies resulting in a decrease in contingent bonus payments received, partially offset by a $519,729, or 428%, increase in gains on sale of loans due to a significant increase in residential real estate mortgage refinance activity compared to one year ago and a $50,920 increase in other noninterest income, primarily from mortgage servicing revenue.
For the nine months ended March 31, 2009 and 2008, total noninterest income was $8,343,258 and $8,027,091, respectively, an increase of $316,167, or 4%. This increase was primarily due to insurance agency commissions which increased $518,705, or 13%, due to the full year impact of the Hartford, Spence & Matthews, and Hyler agencies acquired in the six months ended December 31, 2007. We also had an increase of $468,023, or 118%, on gains on the sale of loans as refinance activity increased the volume of residential real estate loans sold. Fees for other services to customers increased $27,876, or 3%, from better management of overdraft fees. These increases were partially offset by a decrease in net securities gains of $341,478 and a decrease in investment brokerage commission of $389,700, or 23%, due to lower sales volume.
Noninterest Expense
Total noninterest expense for the three months ended March 31, 2009 was $6,169,926, an increase of $323,558, or 6%, from $5,846,368 for the three months ended March 31, 2008. Of this increase, $364,420 was from the Bank’s operations other than insurance and was attributable to an increase of $120,173 for our self-insured group medical benefits plans due to higher claims, an increase of $139,669 for FDIC insurance accruals for the temporary increased deposit insurance coverage, and an increase of $164,969 in collections expense incurred on a higher volume of workout loans and net credit losses. The quarters ended March 31, 2009 and 2008 had a comparable number of insurance agency offices. The $40,862 offset to the balance of the $323,558 increase was due to lower occupancy, advertising, supplies, dues and subscription and other expenses associated with our insurance agency.
For the nine months ended March 31, 2009 and 2008, total noninterest expense was $18,400,089 and $15,968,821, respectively, an increase of $2,431,268, or 15%. The full year impact of the three insurance agencies acquired in the nine months ended March 31, 2008 accounted for $910,197 of this increase, which was comprised of a $739,138 increase in salaries and employee benefits, $42,956 increase in computer services, $131,847 increase in intangible asset amortization and $72,428 in other noninterest expense. The $1,521,071 balance of the $2,431,268 increase was related to bank operations other than insurance. Of this $1,521,071 increase, employee benefits expense increased $392,012 from increased claims in our self-insurance medical benefits plan and the employee bank-wide incentive plan. Occupancy expense increased $19,762 from increases in building depreciation, ground maintenance and utilities. Equipment expense increased $46,594 due to increases in depreciation expense for computer hardware and software and software licensing fees. Other noninterest expense increased $1,062,703 which included $75,210 of increased professional fees related to the conversion to new Internet banking software and marketing of repossessed collateral, $267,444 of increased FDIC insurance due to the loss of one-time assessment credits, $277,891 of increased loan collections expense, $91,704 of increased postage expense and $267,853 of increased impairment expense.
For the three and nine months ended March 31, 2009, the decrease in income tax expense was primarily due to the decrease in income before income taxes as compared to the same periods in 2008.
Our efficiency ratio, which is total noninterest expense as a percentage of the sum of net interest and dividend income and non-interest income, was 85% and 83% for the three months ended March 31, 2009 and 2008, respectively. The slight increase in the efficiency ratio was due to the increase in noninterest expense. For the nine months ended March 31, 2009 and 2008, the efficiency ratio was 88% and 86%, respectively. The increase in the efficiency ratio was due, in part, to the increase in noninterest expenses from acquired insurance agencies and FDIC insurance premium, collections and impairment expense.
Financial Condition
Our consolidated assets were $607,201,232 and $598,273,650 as of March 31, 2009 and June 30, 2008, respectively, an increase of $8,927,582, or 1%. This increase was primarily due to an increase of $25,458,906, or 19%, in available-for-sale securities, partially offset by a decrease of $3,875,551, or 43%, in cash and due from banks, $1,397,986, or 40%, in interest-bearing deposits, $151,765, or 31%, in loans held-for-sale, and $9,892,170, or 2%, in loans, primarily commercial and consumer loans, a decrease in intangible assets of $564,621 from amortization and a decrease of $1,395,843 in other assets due to a decrease in net deferred income taxes. For the three months ended March 31, 2009, average total assets were $615,890,899, an increase of $29,258,551, or 5%, from $586,632,348 for the same period in 2008. This increase in average assets was primarily attributable to an increase in available-for-sale securities.
Total stockholders' equity was $48,313,998 and $40,273,312 at March 31, 2009 and June 30, 2008, respectively, an increase of $8,040,686, or 20%, due to receipt of $4,210,480 million of preferred stock and common stock warrants sold to the US Treasury under the Capital Purchase Program, net of expenses, net income for the nine months ended March 31, 2009 and an increase in accumulated other comprehensive income of $3,699,642, partially offset by dividends paid. Tangible book value per outstanding common share was $13.71 at March 31, 2009 and $11.85 at June 30, 2008. Book value per outstanding common share was $19.00 at March 31, 2009 and $17.40 at June 30, 2008.
Investment Activities
The available-for-sale investment portfolio was $159,941,883 as of March 31, 2009, an increase of $25,458,906, or 19%, from $134,482,977 as of June 30, 2008. This increase was due to leveraging transactions carried out in July and September, 2008 under which we acquired $22 million of mortgage-backed securities which were funded through available funds and structured repurchase agreements of $20 million with an average rate of 4.37% and a spread of approximately 1.34%. To reduce our risk to rising interest rates, $20 million of purchased interest rate caps were imbedded in these transactions with a strike rate based on three month LIBOR. See note 7 for additional information. In addition to the leveraging strategy, we continued to purchase other mortgage-backed securities to pre-invest the estimated cash flow from our indirect loan portfolio.
The investment portfolio as of March 31, 2009 consisted of debt securities issued by U.S. government-sponsored enterprises and corporations, mortgage-backed securities, municipal securities and equity securities. Generally, funds retained by the Bank as a result of increases in deposits or decreases in loans which are not immediately used by the Bank are invested in securities held in its investment portfolio. The investment portfolio is used as a source of liquidity for the Bank. The investment portfolio is structured so that it provides for an ongoing source of funds for meeting loan and deposit demands and for reinvestment opportunities to take advantage of changes in the interest rate environment. The investment portfolio averaged $160,117,732 for the three months ended March 31, 2009 as compared to $127,922,276 for the three months ended March 31, 2008, an increase of $32,195,456, or 25%. This increase was due primarily to the leveraging transactions described above which included purchasing of mortgage-backed securities.
Our entire investment portfolio is classified as available-for-sale at March 31, 2009 and June 30, 2008, and is carried at market value. Changes in market value, net of applicable income taxes, are reported as a separate component of stockholders' equity. Gains and losses on the sale of securities are recognized at the time of the sale using the specific identification method. The amortized cost and market value of available-for-sale securities at March 31, 2009 were $156,312,231 and $159,941,883, respectively. The difference between the carrying value and the cost of the securities of $3,629,652 was primarily attributable to the increase in market value of mortgage-backed securities above their cost. The net unrealized loss on equity securities was $1,218,082 and the net unrealized gains on U.S. government-sponsored enterprises, corporate debt, mortgage-backed, and municipal securities were $4,847,734 at March 31, 2009. The U.S. government-sponsored enterprises, corporate debt, and mortgage-backed securities have increased in market value due to the decreases in long-term interest rates as compared to June 30, 2008. Substantially all of the U.S. government-sponsored enterprises, corporate debt, mortgage-backed and municipal securities held in our portfolio are high investment grade securities. Management believes that the yields currently received on this portfolio are satisfactory. Management reviews the portfolio of investments on an ongoing basis to determine if there have been any other than temporary declines in value. Some of the considerations management takes into account in making this determination are market valuations of particular securities and an economic analysis of the securities' sustainable market values based on the underlying company's profitability. Management plans to hold the equity, U.S. government-sponsored enterprises, corporate debt, mortgage-backed and municipal securities which have market values below cost until a recovery of market value occurs or until maturity.
Loan Portfolio
Total loans, including loans held-for-sale, of $399,635,614 as of March 31, 2009 decreased $10,043,935, or 2%, from $409,679,549 as of June 30, 2008. Compared to June 30, 2008, construction and commercial real estate loans increased, while loans held for sale, residential real estate, commercial loans and consumer loans decreased. Residential real estate loans decreased $2,535,173, or 2%, reflecting residential real estate originated for sale during the nine months ended March 31, 2009. Construction loans increased $7,648,070, or 169%, due to advances on previously approved construction loans during the nine months ended March 31, 2009. Commercial real estate loans increased $3,577,072, or 3%, reflecting opportunities in our market. Commercial loans decreased $4,497,985, or 13%, from loan payoffs. Consumer loans decreased $13,776,748, or 12%, due to our decision to stop originating indirect recreational vehicle and indirect auto loans in October 2008. Net deferred loan origination costs decreased $459,171, or 17%, primarily from pay down of principal of indirect loans. The total loan portfolio averaged $406,755,506 for the three months ended March 31, 2009, a decrease of $3,688,104, or 1%, compared to the three months ended March 31, 2008.
The Bank primarily lends within its local market areas, which management believes helps it to better evaluate credit risk. The Bank's loan portfolio as of March 31, 2009 had a mix change with increases in real estate secured loans which were more than offset by decreases in consumer and commercial loans when compared to June 30, 2008. The Bank's local market continues to be very competitive for loan volume.
Residential real estate loans consisting of primarily owner-occupied residential loans as a percentage of total loans were 35%, 34% and 35% as of March 31, 2009, June 30, 2008 and March 31, 2008, respectively. Variable rate loans as a percentage of total residential real estate loans was 36% as of March 31, 2009 and 34% as of both June 30, 2008 and March 31, 2008, respectively. Generally, management has pursued a strategy of increasing the percentage of variable rate loans as a percentage of the total loan portfolio to help manage interest rate risk. We currently plan to continue to sell all newly originated fixed-rate residential real estate loans into the secondary market to manage interest rate risk. Average residential real estate loans, including loans held-for-sale, of $142,105,416 for the three months ended March 31, 2009 decreased $2,802,214, or 2%, from the three months ended March 31, 2008. This decrease was due to the origination of more fixed rate loans for sale. Purchased loans included in our loan portfolio are pools of residential real estate loans acquired from and serviced by other financial institutions. These loan pools are an alternative to mortgage-backed securities, and represented 3% of residential real estate loans at March 31, 2009. The Bank has not pursued a similar strategy recently.
In light of increases in delinquencies and classified and criticized loans in the commercial real estate loan and commercial loan portfolios, the Bank applied its underwriting standards in a manner that reflected the additional risk due to current economic conditions; as a result, fewer of these loans were originated. To the extent these types of loans were originated, the interest rates reflected the additional risk involved in light of the current economic conditions. Commercial real estate loans as a percentage of total loans were 29%, 27%, and 26% as of March 31, 2009, June 30, 2008 and March 31, 2008, respectively. Commercial real estate loans have minimal interest rate risk because the portfolio consists primarily of variable rate products. Variable rate loans in this portfolio as a percentage of total commercial real estate loans were 95% as of March 31, 2009, June 30, 2008 and March 31, 2008, respectively. The Bank tries to mitigate credit risk by lending in its market area, as well as by maintaining a well-collateralized position in real estate. Average commercial real estate loans of $115,816,063 for the three months ended March 31, 2009 increased $11,160,985, or 11%, from the same period in 2008.
Construction loans as a percentage of total loans were 3%, 1%, and 1% as of March 31, 2009, June 30, 2008 and March 31, 2008, respectively. Limiting disbursements to the percentage of construction completed controls risk. An independent consultant or appraiser verifies the construction progress. Construction loans have maturity dates of less than one year. Variable rate products as a percentage of total construction loans were 66%, 37%, and 50% for the same periods, respectively. Average construction loans were $9,380,160 and $5,631,120 for the three months ended March 31, 2009 and 2008, respectively, an increase of $3,749,040, or 66%.
Commercial loans as a percentage of total loans were 7%, 8% and 9% as of March 31, 2009, June 30, 2008 and March 31, 2008, respectively. The variable rate products as a percentage of total commercial loans were 69%, 67%, and 63% for the same periods, respectively. The repayment ability of commercial loan customers is highly dependent on the cash flow of the customer's business. The Bank mitigates losses by strictly adhering to the Company's underwriting and credit policies. Average commercial loans of $29,253,267 for the three months ended March 31, 2009 decreased $5,517,095, or 16%, from $34,770,362, for the same period in 2008.
Consumer and other loans as a percentage of total loans were 26%, 30%, and 29% for the periods ended March 31, 2009, June 30, 2008, and March 31, 2008, respectively. At both June 30, 2008 and March 31, 2009, indirect auto, indirect recreational vehicle, and indirect mobile home loans represented 29%, 47%, and 19% of total consumer loans, respectively. Since these loans are primarily fixed rate products, they have interest rate risk when market rates increase. Prior to our decision to no longer originate indirect loans, the consumer loan department underwrote all the indirect automobile, recreational vehicle loans and mobile home loans to mitigate credit risk. The Bank typically paid a one-time origination fee to dealers of indirect loans. The fees were deferred and amortized over the life of the loans as a yield adjustment. Management attempted to mitigate credit and interest rate risk by keeping the products with average lives of no longer than five years, receiving a rate of return commensurate with the risk, and lending to individuals in the Bank's market areas. Average consumer and other loans were $107,916,923 and $117,795,962 for the three months ended March 31, 2009 and 2008, respectively. The $9,879,039, or 8%, decrease in the portfolio was due to our decision to no longer originate indirect recreational vehicle and auto lending in October, 2008. The composition of consumer loans is detailed in the following table.
| | | Consumer Loans as of | |
| | | March 31, 2009 | | | June 30, 2008 | |
| | $ | 29,515,848 | | | | 29 | % | | $ | 34,980,847 | | | | 30 | % |
| | | 49,005,078 | | | | 47 | % | | | 54,915,583 | | | | 47 | % |
| | | 19,717,641 | | | | 19 | % | | | 21,759,537 | | | | 18 | % |
| | | 98,238,567 | | | | 95 | % | | | 111,655,967 | | | | 95 | % |
| | | 5,031,444 | | | | 5 | % | | | 5,390,792 | | | | 5 | % |
| | $ | 103,270,011 | | | | 100 | % | | $ | 117,046,759 | | | | 100 | % |
Classification of Assets
Loans are classified as non-performing when they are more than 90 days delinquent or when they are less than 90 days past due but, based on our judgment, the loan is likely to present future principal and/or interest repayment problems. In both situations, we cease accruing interest. The Bank had non-performing loans totaling $8,677,000 and $7,703,000 at March 31, 2009 and June 30, 2008, respectively, or 2.17% and 1.88% of total loans, respectively. The Bank's allowance for loan losses was equal to 65% and 73% of the total non-performing loans at March 31, 2009 and June 30, 2008, respectively. The following table represents the Bank's non-performing loans as of March 31, 2009 and June 30, 2008:
Non-performing loans increased $974,000, or 13%, for the nine months ended March 31, 2009 compared to June 30, 2008. Of total non-performing loans at March 31, 2009, $2,053,000 of these loans were current and paying as agreed compared to $2,510,000 at June 30, 2008, a decrease of $457,000. The commercial real estate and commercial non-performing loans are subject to a loan-by-loan review to determine the risk of loss based on the estimated distressed sale value of collateral. This risk of loss assessment was incorporated in determining the adequacy of the allowance for loan losses.
At March 31, 2009, the Bank had $1,853,000 in loans classified special mention or substandard that management believes could potentially become non-performing due to delinquencies or marginal cash flows. These special mention and substandard loans decreased by $827,000 when compared to the level of $2,680,000 at June 30, 2008.
The following table reflects the quarterly trend of total delinquencies 30 days or more past due and non-performing loans for the Bank as a percentage of total loans:
| 3-31-09 | | 12-31-08 | | 9-30-08 | | 6-30-08 | | 3-31-08 |
| 5.10% | | 4.35% | | 3.43% | | 3.64% | | 4.41% |
Loans classified as non-performing remain on such status until the borrower has demonstrated a sustainable period of performance. Excluding loans classified as non-performing but whose contractual principal and interest payment are current, the Bank's total delinquencies 30 days or more past due, as a percentage of total loans, would be 4.59% as of March 31, 2009 compared to 3.03% at June 30, 2008.
Allowance for Loan Losses
The Bank's allowance for loan losses was $5,678,000 as of March 31, 2009, an increase of $22,000 from $5,656,000 at June 30, 2008 representing 1.42% and 1.38%, respectively, of total loans for each of the periods. Management maintains this allowance at a level that it believes is reasonable for the overall probable losses inherent in the loan portfolio. The allowance for loan losses represents management's estimate of this risk in the loan portfolio. This evaluation process is subject to numerous estimates and judgments. The frequency of default, risk ratings, and the loss recovery rates, among other things, are considered in making this evaluation, as are the size of individual large credits. Changes in these estimates could have a direct impact on the provision and could result in a change in the allowance. The larger the provision for loan losses, the greater the negative impact on our net income. Larger balance, commercial and commercial real estate loans representing significant individual credit exposures are evaluated based upon: the borrower's overall financial condition, resources and payment record; the prospects for support from any financially responsible guarantors; and, if appropriate, the realizable value of any collateral. The allowance for loan losses attributed to these loans is established through a process that includes: estimates of historical and projected default rates and loss severities; internal risk ratings; and geographic, industry, and other environmental factors. Management also considers overall portfolio indicators, including trends in internally risk-rated loans, classified loans, non accrual loans, and historical and forecasted write-offs and a review of industry, geographic, and portfolio concentrations, including current developments. In addition, management considers the current business strategy and credit process, including credit limit setting and compliance, credit approvals, loan underwriting criteria, and loan workout procedures. Within the allowance for loan losses, amounts are specified for larger-balance, commercial and commercial real estate loans that have been individually determined to be impaired. These specific reserves consider all available evidence, including, as appropriate, the present value of the expected future cash flows, discounted at the loan's contractual effective rate, and the fair value of collateral. Each portfolio of smaller balance, residential real estate and consumer loans is collectively evaluated for impairment. The allowance for loan losses is established pursuant to a process that includes historical delinquency and credit loss experience, together with analyses that reflect current trends and conditions. Management also considers overall portfolio indicators including: historical credit losses; delinquent, non-performing and classified loans; trends in volumes; terms of loans; an evaluation of overall credit quality and the credit process, including lending policies and procedures; and economic factors. For the nine months ended March 31, 2009, we have not changed our approach in the determination of the allowance for loan losses. There have been no material changes in the assumptions or estimation techniques as compared to prior periods in determining the adequacy of the allowance for loan losses.
Management believes that the allowance for loan losses as of March 31, 2009 was adequate considering the level of risk in the loan portfolio. While management believes that it uses the best information available to make its determinations with respect to the allowance, there can be no assurance that the Company will not have to increase its provision for loan losses in the future as a result of changing economic conditions, adverse markets for real estate or other factors. In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Bank's allowance for loan losses. These agencies may require the Bank to recognize additions to the allowance for loan losses based on their judgments about information available to them at the time of their examination. The Bank's most recent joint examination by the Federal Reserve Bank of Boston and the Maine Bureau of Financial Institutions was completed in March, 2009. At the time of the examination, the regulators proposed no adjustments to the allowance for loan losses.
Other Assets
Bank owned life insurance (BOLI) is invested in the general account of three insurance companies and in separate accounts of a fourth insurance company. We rely on the creditworthiness of each insurance company for general account BOLI policies. For separate account BOLI policies, the insurance company holds the underlying bond and stock investments in a trust for the Bank. Standard and Poor's rated these companies A+ or better at March 31, 2009. The rating for the separate account insurance company was downgraded during the quarter ended March 31, 2009 from AA- to A+. Interest earnings, net of mortality costs, increase cash surrender value. These interest earnings are based on interest rates reset at least annually, subject to minimum interest rates. These increases were recognized in other income and are not subject to income taxes. Borrowing on or surrendering the policy may subject the Bank to income tax expense on the increase in cash surrender value. For this reason, management considers BOLI an illiquid asset. BOLI represented 24.7% of the Bank’s Tier 2 capital as of March 31, 2009, which is below our 25% policy limit. Northeast Bancorp contributed the net proceeds from the US Treasury Capital Purchase Program to the Bank, increasing its capital and reducing the ratio from the 26.8% reported at June 30, 2008.
Goodwill of $4,390,340 as of March 31, 2009 was unchanged compared to June 30, 2008. This asset resulted from consideration paid in excess of identified tangible and intangible assets from the seven insurance agency acquisitions that occurred in fiscal 2007 and 2008.
Intangible assets of $7,879,803 as of March 31, 2009 decreased $564,621, from $8,444,424 as of June 30, 2008. This decrease represents the normal amortization for the nine months ended March 31, 2009. This asset consists of customer lists and non-compete intangibles from the insurance agency acquisitions. See Note 1 of the audited consolidated financial statements as of June 30, 2008 for additional information on intangible assets.
Capital Resources and Liquidity
The Bank continues to attract new local core deposits and certificates of deposit relationships. As alternative sources of funds, the Bank utilizes FHLB advances and brokered time deposits ("brokered deposits") when their respective interest rates are less than the interest rates on local market deposits. FHLB advances are used to fund short-term liquidity demands and supplement the growth in earning assets.
Total deposits of $369,650,787 as of March 31, 2009 increased $6,277,016, or 2%, from $363,373,771 as of June 30, 2008. Excluding the decrease in brokered deposits, customer deposits increased $7,579,012, or 2%. Brokered deposits decreased $1,301,996, or 10%, representing repayment at maturity. As a result of a direct mail promotion of a tiered money market account, money market accounts increased $12,528,904, or 57%. Certificates of deposit decreased $5,080,126, or 2%, reflecting the impact of interest rates offered in the middle of the range in our market as balances rolled over at maturity. However, a promotion of 9 month certificates with a rate of 2.00% mitigated the decrease. Demand accounts decreased $5,029,328, or 14%, NOW accounts decreased $4,721,703, or 10%, and savings accounts decreased $278,987, or 1%, during the nine months ended March 31, 2009 compared to June 30, 2008. Interest rates on all interest-bearing, non-maturing deposit accounts were reduced during the nine months ended March 31, 2009 as the federal funds rate was decreased by the Open Market Committee of the Federal Reserve. Management's continuing strategy is to offer certificate of deposit rates for maturities one year and less with interest rates near the top of the market to attract new relationships and cross sell additional deposit accounts and other bank services.
Total average deposits of $368,405,552 for the three months ended March 31, 2009 increased $6,236,926, or 2%, compared to the average for the three months ended March 31, 2008 of $362,168,626. This increase in total average deposits compared to March 31, 2008 was attributable to an increase in average money market accounts of $14,574,762, or 89%, and an increase in certificates of deposit of $1,418,477, or 1%. These increases were partially offset by a decrease in average demand deposit accounts of $208,264, or 1%, average NOW accounts of $5,040,645, or 10%, a decrease in average savings of $669,903, or 3%, and a decrease in average brokered time deposits of $3,837,501, or 20%. These decreases in core account balances reflect customers moving funds to higher yielding money market accounts. Excluding average brokered deposits, average customer deposits increased $10,074,427, or 3%, for the three months ended March 31, 2009 compared to the same period one year ago.
All interest-bearing non-maturing deposit accounts have market interest rates. Like other companies in the banking industry, the Bank will be challenged to maintain or increase its core deposits, and improve its net interest margin as the mix of deposits shifts to deposit accounts with higher interest rates.
We use brokered deposits as part of our overall funding strategy and as an alternative to customer certificates of deposits, FHLB advances and junior subordinated debentures to fund the growth of our earning assets. Policy limits the use of brokered deposits to 25% of total assets. We use five national brokerage firms to source brokered deposits. Each brokerage company utilizes a system of agents who solicit customers throughout the United States. The terms of these deposits allow for withdrawal prior to maturity only in the case of the depositor's death, have maturities generally beyond one year, have individual maturities no greater than $5 million in any one month and bear interest rates equal to or slightly above comparable FHLB advance rates. Brokered deposits carry similar risk as local certificates of deposit, in that both are interest rate sensitive with respect to the Bank's ability to retain the funds. At March 31, 2009, brokered time deposits as a percentage of total assets was 1.9% compared to 2.1% at June 30, 2008 and 2.3% at March 31, 2008. The weighted average maturity for the brokered deposits was approximately 1.5 years.
Advances from the Federal Home Loan Bank (FHLB) were $50,325,000 as of March 31, 2009, a decrease of $40,250,000, or 44%, from $90,575,000 as of June 30, 2008. This decrease was due, in part, to moving overnight advances of $15,000,000 to the Fed Discount Window. At March 31, 2009, we had pledged U.S. government agency and mortgage-backed securities of $37,113,886 as collateral for FHLB advances. We plan to continue to purchase additional U.S. government agency and mortgage-backed securities to pledge as collateral for advances. These purchases will be funded from the cash flow from mortgage-backed securities and residential real estate loan principal and interest payments, and promotion of certificate of deposit accounts and brokered deposits. Newly originated adjustable residential real estate loans will be held in portfolio and will qualify as collateral. In addition to U.S. government agency and mortgage-backed securities, residential real estate loans, certain commercial real estate loans, and certain FHLB deposits free of liens, pledges and encumbrances are required to be pledged to secure FHLB advances. Municipal securities cannot be pledged. Average advances from the FHLB were $61,124,033 for the three months ended March 31, 2009, a decrease of $22,100,484, or 27%, compared to $83,224,517 average for the same period last year.
Structured repurchase agreements were $65,000,000 at March 31, 2009, an increase of $25,000,000, or 62%, from $40,000,000 at June 30, 2008. This increase was due to transactions of $5,000,000 in March, 2009 bearing an interest rate of 2.86% and $10,000,000 each in July and September, 2008 bearing interest rates of 4.30% and 4.44%, respectively. For the outstanding structured repurchase agreements at March 31, 2009, we pledged $72,533,001 of mortgage-backed securities as collateral. The structured repurchase agreements for the quarter ended March 31, 2009 bear an overall interest rate of 4.87%, which reflects the cost of a $10,000,000 with an imbedded sold interest rate floor and an effective interest rate of 7.96% because three month LIBOR rate at the last reset date is below the strike rate of 4.86%. Interest is paid quarterly. See note 7 for additional information. Average structured repurchase agreements were $60,277,778 for the three months ended March 31, 2009, an increase of $20,277,778, or 51%, compared to $40,000,000 average for the same period last year.
Short-term borrowings, consisting of securities sold under repurchase agreements and other sweep accounts, were $33,286,109 as of March 31, 2009, an increase of $445,272, or 1%, from $32,840,837 as of June 30, 2008. Market interest rates are offered on this product. At March 31, 2009, we had pledged U.S. government agency and mortgage-backed securities of $34,771,984 as collateral for repurchase agreements. We have replaced excess deposit insurance on public deposit sweep accounts with a letter of credit issued by the Federal Home Loan Bank of Boston. Our excess deposit insurance company no longer offers this product. Average securities sold under repurchase agreements were $36,625,204 for the three months ended March 31, 2009, an increase of $4,231,946, or 13%, compared to the average for the three months ended March 31, 2008 of $32,393,258.
The Federal Discount Window Borrower-in-Custody program advances were $15,000,000 at March 31, 2009. There was no outstanding balance at June 30, 2008 or March 31, 2008. The advance term was 90 days and carries a variable rate equal to the current federal funds plus 0.25%. Under the terms of this credit line, the Bank has pledged $23,995,887 of its indirect auto loans and $9,947,730 of municipal bonds. Average FRB Borrower-in-Custody was $15,000,000 for the quarter ended March 31, 2009.
The following table is a summary of the liquidity the Bank has the ability to access as of March 31, 2009 in addition to the traditional retail deposit products:
| | Subject to policy limitation of 25% of total assets |
Federal Home Loan Bank of Boston
| | Unused advance capacity subject to eligible and qualified
collateral |
Federal Reserve Bank Discount Window Borrower-in-Custody | | Unused credit line subject to the pledge of indirect auto loans
and municipal bonds |
Total Unused Borrowing Capacity | | |
Brokered time deposits, retail deposits and FHLB advances are used by the Bank to manage its overall liquidity position. While we closely monitor and forecast our liquidity position, it is affected by asset growth, deposit withdrawals and meeting other contractual obligations and commitments. The accuracy of our forecast assumptions may increase or decrease the level of brokered time deposits.
Management believes that there are adequate funding sources to meet its liquidity needs for the foreseeable future. Primary among these funding sources are the repayment of principal and interest on loans, the renewal of time deposits, the potential growth in the deposit base, and the credit availability from the Federal Home Loan Bank of Boston and the Fed Discount Window Borrower-in-Custody program. Management does not believe that the terms and conditions that will be present at the renewal of these funding sources will significantly impact the Company's operations, due to its management of the maturities of its assets and liabilities.
The following table summarizes the outstanding junior subordinated notes as of March 31, 2009:
| Affiliated Trusts | | Outstanding Balance | | Rate | | First Call Date |
| | | | | | |
| | | | | | |
| | | | | | |
| | | | | | |
We do not expect to call NBN Capital Trust II and III on the first call date, in whole or in part, due to the general unavailability of similar funding. The excess funds raised from the issuance of trust preferred securities are available for capital contributions to the Bank. The annual interest expense is approximately $854,000 based on the current interest rates.
See Note 2 for more information on NBN Capital Trusts II, III and IV and the related junior subordinated debt.
Under the terms of the US Treasury Capital Purchase Program, the Company must have the consent of the US Treasury to redeem, purchase, or acquire any shares of our common stock or other equity or capital securities, other than in connection with benefit plans consistent with past practice and certain other circumstances specified in the Purchase Agreement. The Board of Directors extended the 2006 Stock Repurchase Plan to permit stock repurchases in connection with benefit plans. The stock repurchase plan allows the Company to purchase up to 200,000 shares of its common stock from time to time in the open market at prevailing prices. Common stock repurchased pursuant to the plan will be classified as authorized but un-issued shares of common stock available for future issuance as determined by the Board of Directors, from time to time. For the three and nine months ended March 31, 2009, the Company did not repurchase any shares of stock. The remaining repurchase capacity of the plan was 58,400 shares at quarter end. Total stock repurchases under the 2006 Plan since inception were 141,600 shares for $2,232,274, an average of $15.76 per share, through March 31, 2009. Management believes that these and future purchases have not and will not have a significant effect on the Company's liquidity. The repurchase program may be discontinued by the Company at any time.
Total stockholders' equity of the Company was $48,313,998 as of March 31, 2009, as compared to $40,273,312 at June 30, 2008. The increase of $8,040,686, or 20%, was due to proceeds from the preferred stock and common stock warrants sold to the US Treasury under the Capital Purchase Program, net of issuance costs, of $4,200,994, net income for the nine months ended March 31, 2009 of $750,060, an increase in other comprehensive income of $3,699,642, stock options exercised of $50,500 and a stock grant of $1,728 that was partially offset by the payment of dividends of $662,238. Book value per common share was $19.00 as of March 31, 2009, as compared to $17.40 at June 30, 2008. Tier 1 capital to total average assets of the Company was 8.19% as of March 31, 2009 and 7.31% at June 30, 2008.
The Company's net cash used by operating activities was $2,451,767 during the nine months ended March 31, 2009, which was a $176,478 increase compared to the same period in 2008, and was primarily attributable to a decrease in loans held for sale for the nine months ended March 31, 2009. Investing activities were a net use of cash primarily due to purchasing investment securities during the nine months ended March 31, 2009 as compared to the same period in 2008. Financing activities resulted in a net source of cash from sale of preferred stock, structured repurchase agreements and advances from the Fed Discount Window Borrower-in-Custody program partially offset by a decrease in FHLB advances compared to the same period in 2008. Overall, the Company's cash and cash equivalents decreased by $5,273,537 during the nine months ended March 31, 2009.
The Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA"), contains various provisions intended to capitalize the Bank Insurance Fund ("BIF") and also affects a number of regulatory reforms that impact all insured depository institutions, regardless of the insurance fund in which they participate. Among other things, FDICIA grants the FRB broader regulatory authority to take prompt corrective action against insured institutions that do not meet capital requirements, including placing undercapitalized institutions into conservatorship or receivership. FDICIA also grants the FRB broader regulatory authority to take corrective action against insured institutions that are otherwise operating in an unsafe and unsound manner.
FDICIA defines specific capital categories based on an institution's capital ratios. Regulations require a minimum Tier 1 capital equal to 4.0% of adjusted total average assets, Tier 1 risk-based capital of 4.0% and a total risk-based capital standard of 8.0%. The prompt corrective action regulations define specific capital categories based on an institution's capital ratios. The capital categories, in declining order are "well capitalized", "adequately capitalized", "under capitalized", "significantly undercapitalized", and "critically undercapitalized". As of March 31, 2009, the most recent notification from the FRB categorized the Bank as well capitalized. There are no conditions or events since that notification that management believes has changed the institution's category.
At March 31, 2009, the Company's and Bank's regulatory capital was in compliance with regulatory capital requirements as follows:
Northeast Bancorp | | Actual | | | Required For Capital Adequacy Purposes | | | Required To Be "Well Capitalized" Under Prompt Corrective Action Provisions | |
| (Dollars in Thousands) | | Amount | | | Ratio | | | Amount | | | Ratio | | | Amount | | | Ratio | |
| As of March 31, 2009: | | | | | | | | | | | | | | | | | | |
Total capital to risk weighted assets | | $ | 54,816 | | | | 13.26 | % | | $ | 33,065 | | | | > 8.00 | % | | $ | 41,332 | | | | > 10.00 | % |
Tier 1 capital to risk weighted assets | | $ | 49,282 | | | | 11.92 | % | | $ | 16,533 | | | | > 4.00 | % | | $ | 24,799 | | | | > 6.00 | % |
Tier 1 capital to total average assets | | $ | 49,282 | | | | 8.19 | % | | $ | 24,060 | | | | > 4.00 | % | | $ | 30,075 | | | | > 5.00 | % |
Northeast Bank | | Actual | | | Required For Capital Adequacy Purposes | | | Required To Be "Well Capitalized" Under Prompt Corrective Action Provisions | |
| (Dollars in Thousands) | | Amount | | | Ratio | | | Amount | | | Ratio | | | Amount | | | Ratio | |
| As of March 31, 2009: | | | | | | | | | | | | | | | | | | |
Total capital to risk weighted assets | | $ | 51,256 | | | | 12.48 | % | | $ | 32,864 | | | | > 8.00 | % | | $ | 41,081 | | | | > 10.00 | % |
Tier 1 capital to risk weighted assets | | $ | 46,114 | | | | 11.23 | % | | $ | 16,432 | | | | > 4.00 | % | | $ | 24,648 | | | | > 6.00 | % |
Tier 1 capital to total average assets | | $ | 46,114 | | | | 7.70 | % | | $ | 23,968 | | | | > 4.00 | % | | $ | 29,959 | | | | > 5.00 | % |
Off-balance Sheet Arrangements and Aggregate Contractual Obligations
The Company is a party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit, unused lines of credit and standby letters of credit. These instruments involve, to varying degrees, elements of credit and interest-rate risk in excess of the amounts recognized in the condensed consolidated balance sheet. The contract, or notional amounts, of these instruments reflect the extent of the Company's involvement in particular classes of financial instruments.
The Company's exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit, unused lines of credit and standby letters of credit is represented by the contractual amount of those instruments. To control the credit risk associated with entering into commitments and issuing letters of credit, the Company uses the same credit quality, collateral policies, and monitoring controls in making commitments and letters of credit as it does with its lending activities. The Company evaluates each customer's creditworthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by the Company upon extension of credit, is based on management's credit evaluation.
Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total committed amounts do not necessarily represent future cash requirements.
Standby letters of credit are conditional commitments issued by the Company to guarantee the performance of a customer to a third party. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loans to customers.
Unused lines of credit and commitments to extend credit typically result in loans with a market interest rate.
A summary of the amounts of the Company's (a) contractual obligations, and (b) other commitments with off-balance sheet risk, both at March 31, 2009, follows:
| | | | | | Payments Due by Period | |
| | | | | | Less Than | | | | | | | | | After 5 | |
| Contractual Obligations | | Total | | | 1 Year | | | 1-3 Years | | | 4-5 Years | | | Years | |
| FHLB advances | | $ | 50,325,000 | | | $ | 12,325,000 | | | $ | 8,000,000 | | | $ | 15,000,000 | | | $ | 15,000,000 | |
| Structured repurchase agreements | | | 65,000,000 | | | | 30,000,000 | | | | 20,000,000 | | | | 15,000,000 | | | | - | |
| FRB borrower-in-custody account | | | 15,000,000 | | | | 15,000,000 | | | | - | | | | - | | | | - | |
| Junior subordinated notes | | | 16,496,000 | | | | 16,496,000 | | | | - | | | | - | | | | - | |
| Capital lease obligation | | | 2,780,961 | | | | 153,661 | | | | 331,974 | | | | 368,756 | | | | 1,926,570 | |
| Other borrowings | | | 3,431,432 | | | | 634,157 | | | | 1,191,914 | | | | 1,161,785 | | | | 443,576 | |
| Total long-term debt | | | 153,033,393 | | | | 74,608,818 | | | | 29,523,888 | | | | 31,530,541 | | | | 17,370,146 | |
| | | | | | | | | | | | | | | | | | | | | |
| Operating lease obligations (1) | | | 1,803,162 | | | | 454,170 | | | | 760,326 | | | | 383,001 | | | | 205,665 | |
| Total contractual obligations | | $ | 154,836,555 | | | $ | 75,062,988 | | | $ | 30,284,214 | | | $ | 31,913,542 | | | $ | 17,575,811 | |
| | | | | | | | | | | | | | | | |
| | | | | | Less Than | | | | | | | | | After 5 | |
| Commitments with off-balance sheet risk | | Total | | | 1 Year | | | 1-3 Years | | | 4-5 Years | | | Years | |
| Commitments to extend credit (2)(4) | | $ | 27,674,193 | | | $ | 27,565,469 | | | $ | 108,724 | | | $ | - | | | $ | - | |
Commitments related to loans held for sale(3) | | | 5,769,960 | | | | 5,769,960 | | | | - | | | | - | | | | - | |
| Unused lines of credit (4)(5) | | | 40,615,927 | | | | 17,252,922 | | | | 1,422,814 | | | | 1,980,934 | | | | 19,959,257 | |
Standby letters of credit (6) | | | 1,202,698 | | | | 1,045,649 | | | | 157,049 | | | | - | | | | - | |
| | | $ | 75,262,778 | | | $ | 51,634,000 | | | $ | 1,688,587 | | | $ | 1,980,934 | | | $ | 19,959,257 | |
| (1) | Represents an off-balance sheet obligation. |
| (2) | Represents commitments outstanding for residential real estate, commercial real estate, and commercial loans. |
| (3) | Commitments of residential real estate loans that will be held for sale. |
| (4) | Loan commitments and unused lines of credit for commercial and construction loans expire or are subject to renewal in twelve months or less. |
| (5) | Represents unused lines of credit from commercial, construction, and home equity loans. |
| (6) | Standby letters of credit generally expire in twelve months. |
Management believes that the Company has adequate resources to fund all of its commitments.
The Bank has written options limited to those residential real estate loans designated for sale in the secondary market and subject to a rate lock. These rate-locked loan commitments are used for trading activities, not as a hedge. The fair value of the outstanding written options at March 31, 2009 was a gain of $13,717.
Impact of Inflation
The consolidated financial statements and related notes herein have been presented in terms of historic dollars without considering changes in the relative purchasing power of money over time due to inflation. Unlike industrial companies, substantially all of the assets and virtually all of the liabilities of the Company are monetary in nature. As a result, interest rates have a more significant impact on the Company's performance than the general level of inflation. Over short periods of time, interest rates may not necessarily move in the same direction or in the same magnitude as inflation.
Item 3. Quantitative and Qualitative Disclosure about Market Risk
There have been no material changes in the Company's market risk from June 30, 2008. For information regarding the Company's market risk, refer to the Company's Annual Report on Form 10-K for the fiscal year ended June 30, 2008.
Item 4. Controls and Procedures
The Company maintains controls and procedures designed to ensure that information required to be disclosed in the reports the Company files or submits under the Securities Exchange Act of 1934 ("Exchange Act") is recorded, processed, summarized and reported within the time periods specified in the rules and forms of the Securities and Exchange Commission, and that such information is accumulated and communicated to the Company's management, including our Chief Executive Officer and Chief Financial Officer (the Company's principal executive officer and principal financial officer, respectively), as appropriate to allow for timely decisions regarding timely disclosure. In designing and evaluating disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management is required to apply its judgment in evaluating the cost/benefit relationship of possible controls and procedures.
Our management, with the participation of the Company's Chief Executive Officer and Chief 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 Exchange Act) as of the end of the period covered by this Form 10-Q.
Based on this evaluation of our disclosure controls and procedures, our Chief Executive Officer and Chief Financial Officer have concluded that these disclosure controls and procedures were effective as of March 31, 2009.
There were no significant changes in our internal controls over financial reporting (as defined in Rule 13a - 15(f) of the Exchange Act) that occurred during the first nine months of our 2009 fiscal year that has materially affected, or in other factors that could affect, the Company's internal controls over financial reporting.
Part II - Other Information
| Item 1. | Legal Proceedings None. |
| | |
| Item 1. a. | Risk Factors The following risk factors are in addition to those risk factors set forth in our Annual Report on Form10-K for the fiscal year ended June 30, 2008. Difficult Conditions in the Capital Markets and the Economy Generally May Materially Adversely Affect Our Business and Results of Operations and We Do Not Expect These Conditions to Improve in the Near Future Our results of operations are materially affected by conditions in the capital markets and the economy generally. The capital and credit markets have been experiencing extreme volatility and disruption for more than twelve months. The volatility and disruption have reached unprecedented levels. In many cases, these markets have produced downward pressure on stock prices of, and credit availability to, certain companies without regard to those companies’ underlying financial strength. Recently, concerns over inflation, energy costs, geopolitical issues, the availability and cost of credit, the U.S. mortgage market and a declining U.S. real estate market have contributed to increased volatility and diminished expectations for the economy and the capital and credit markets going forward. These factors, combined with volatile oil prices, declining business and consumer confidence and increased unemployment, have precipitated an economic slowdown and induced fears of a possible recession. In addition, the fixed-income markets are experiencing a period of extreme volatility which has negatively impacted market liquidity conditions. Initially, the concerns on the part of market participants were focused on the subprime segment of the mortgage-backed securities market. However, these concerns have since expanded to include a broad range of mortgage-and asset-backed and other fixed income securities, including those rated investment grade, the U.S. and international credit and interbank money markets generally, and a wide range of financial institutions and markets, asset classes and sectors. As a result, the market for fixed income instruments has experienced decreased liquidity, increased price volatility, credit downgrade events, and increased probability of default. Securities that are less liquid are more difficult to value and may be hard to dispose of. Domestic and international equity markets have also been experiencing heightened volatility and turmoil, with issuers (such as our company) that have exposure to the real estate, mortgage and credit markets particularly affected. These events and the continuing market upheavals, may have an adverse effect on us, in part because we have a large investment portfolio and also because we are dependent upon customer behavior. Our revenues are likely to decline in such circumstances, and our profit margins could erode. In addition, in the event of extreme and prolonged market events, such as the global credit crisis, we could incur significant losses. Even in the absence of a market downturn, we are exposed to substantial risk of loss due to market volatility. Factors such as consumer spending, business investment, government spending, the volatility and strength of the capital markets, and inflation all affect the business and economic environment and, ultimately, the amount and profitability of our business. In an economic downturn characterized by higher unemployment, lower family income, lower corporate earnings, lower business investment and lower consumer spending, the demand for our financial products could be adversely affected. Adverse changes in the economy could affect earnings negatively and could have a material adverse effect on our business, results of operations and financial condition. The current mortgage crisis has also raised the possibility of future legislative and regulatory actions in addition to the recent enactment of the Emergency Economic Stabilization Act of 2008 (the “EESA”) that could further impact our business. We cannot predict whether or when such actions may occur, or what impact, if any, such actions could have on our business, results of operations and financial condition. Recent Negative Developments In The Financial Industry And The Credit Markets May Subject Us To Additional Regulation. As a result of the recent global financial crisis, the potential exists for new federal or state laws and regulations regarding lending and funding practices and liquidity standards to be promulgated, and bank regulatory agencies are expected to be active in responding to concerns and trends identified in examinations, including the expected issuance of many formal enforcement orders. Negative developments in the financial industry and the domestic and international credit markets, and the impact of new legislation in response to those developments, may negatively impact our operations by restricting our business operations, including our ability to originate or sell loans, and adversely impact our financial performance. Our Future Growth May Require Us To Raise Additional Capital In The Future, But That Capital May Not Be Available When It Is Needed. We are required by regulatory authorities to maintain adequate levels of capital to support our operations. We anticipate that our current capital levels will satisfy our regulatory requirements for the foreseeable future. We may at some point, however, need to raise additional capital to support our continued growth. Our ability to raise additional capital will depend, in part, on conditions in the capital markets at that time, which are outside our control, and our financial performance. Accordingly, we may be unable to raise additional capital, if and when needed, on terms acceptable to us, or at all. If we cannot raise additional capital when needed, our ability to further expand our operations through internal growth and acquisitions could be materially impaired. In addition, if we decide to raise additional equity capital, your interest could be diluted. The FDIC deposit insurance assessments that we are required to pay may materially increase in the future, which would have an adverse effect on our earnings. As a member institution of the FDIC, we are required to pay quarterly deposit insurance premium assessments to the FDIC. Due to the recent failure of several unaffiliated FDIC insurance depository institutions and the increased deposit account insurance limit, we anticipate that the deposit insurance premium assessments paid by all banks will increase. If the deposit insurance premium assessment rate applicable to us increases, our earnings could be adversely impacted. |
| | |
| Item 2.(c) | Unregistered Sales of Equity Securities and Use of Proceeds The following table provides information on the purchases made by or on behalf of the Company of shares of Northeast Bancorp common stock during the indicated periods. |
| | Period (1) | Total Number Of Shares Purchased (2) | Average Price Paid per Share | Total Number of Shares Purchased as Part of Publicly Announced Program | Maximum Number of Shares that May Yet be Purchased Under The Program (3) |
| | Jan. 1 – Jan. 31 | - | - | - | 58,400 |
| | Feb 1 – Feb. 28 | - | - | - | 58,400 |
| | Mar. 1 – Mar. 31 | - | - | - | 58,400 |
| | | | | | |
| (1) | Based on trade date, not settlement date. |
| (2) | Represents shares purchased in open-market transactions pursuant to the Company's 2006 Stock Repurchase Plan. |
| (3) | On December 15, 2006, the Company announced that the Board of Directors of the Company approved the 2006 Stock Repurchase Plan pursuant to which the Company is authorized to repurchase in open-market transactions up to 200,000 shares from time to time until the plan expires on December 31, 2009, unless extended. |
| | |
| Item 3. | Defaults Upon Senior Securities None |
| | |
| Item 4. | Submission of Matters to a Vote of Security Holders None |
| | |
| Item 5. | Other Information None. |
| | |
| Item 6. | Exhibits |
| | List of Exhibits: |
| | Exhibits No. | Description |
| | 3.1 | Articles (incorporated by reference to the Company’s June 30, 2007 10K filed on September 27, 2007) |
| | 3.2 | Bylaws (incorporated by reference to the Company’s June 30, 2007 10K filed on September 27, 2007) |
| | 11 | Statement Regarding Computation of Per Share Earnings. |
| | 31.1 | Certification of the Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (Rule 13a-14(a)). |
| | 31.2 | Certification of the Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (Rule 13a-14(a)). |
| | 32.1 | Certificate of the Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (Rule 13a-14(b)). |
| | 32.2 | Certificate of the Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (Rule 13a-14(b)). |
SIGNATURES
Pursuant to the requirements of the Securities Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
| Date: May 13, 2009 | | NORTHEAST BANCORP |
| | By: | /s/ James D. Delamater |
| | | James D. Delamater |
| | | President and CEO |
| | | |
| | By: | /s/ Robert S. Johnson |
| | | Robert S. Johnson |
| | | Chief Financial Officer |
| | | |
NORTHEAST BANCORP
Index to Exhibits
| EXHIBIT NUMBER | DESCRIPTION |
| 3.1 | Articles (incorporated by reference to the Company’s June 30, 2007 10K filed on September 27, 2007) |
| 3.2 | Bylaws (incorporated by reference to the Company’s June 30, 2007 10K filed on September 27, 2007) |
| 11 | Statement Regarding Computation of Per Share Earnings |
| 31.1 | Certification of the Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (Rule 13a-14(a)). |
| 31.2 | Certification of the Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (Rule 13a-14(a)). |
| 32.1 | Certificate of the Chief Executive Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (Rule 13a-14(b)). |
| 32.2 | Certificate of the Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (Rule 13a-14(b)). |
