SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2006
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _______ to __________
Commission File Number: 000-25328
FIRST KEYSTONE FINANCIAL, INC.
-------------------------------
(Exact name of registrant as specified in its charter)
Pennsylvania 23-2576479
- --------------------------------------- -----------------------
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification Number)
22 West State Street
Media, Pennsylvania 19063
- --------------------------------------- -----------------------
(Address of principal executive office) (Zip Code)
Registrant's telephone number, including area code: (610) 565-6210
Indicate by check mark whether the Registrant (1) has filed all reports required
by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the Registrant was required
to file such reports) and (2) has been subject to such filing requirements for
the past 90 days. Yes [X] No [ ]
Indicate by check mark whether the Registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer. See definition of "accelerated
filer and large accelerated filer" in Rule 12b-2 of the Exchange Act (check
one):
Large accelerated filer [ ] Accelerated filer [ ] Non-accelerated filer [X]
Indicate by checkmark whether the Registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act). Yes [ ] No [X]
Number of shares of Common Stock outstanding as of August 8, 2006: 2,028,264
FIRST KEYSTONE FINANCIAL, INC.
CONTENTS
PAGE
------
PART I CONDENSED FINANCIAL INFORMATION:
Item 1. Financial Statements
Unaudited Consolidated Statements of Financial Condition as of
June 30, 2006 and September 30, 2005 1
Unaudited Consolidated Statements of Income for the Three and Nine
Months Ended June 30, 2006 and 2005 2
Unaudited Consolidated Statement of Changes in Stockholders' Equity
for the Nine Months Ended June 30, 2006 and 2005 3
Unaudited Consolidated Statements of Cash Flows for the Nine Months
Ended June 30, 2006 and 2005 4
Notes to Unaudited Consolidated Financial Statements 5
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations 14
Item 3. Quantitative and Qualitative Disclosures About Market Risk 23
Item 4. Controls and Procedures 23
PART II OTHER INFORMATION
Item 1. Legal Proceedings 24
Item 1A. Risk Factors 24
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 24
Item 3. Defaults Upon Senior Securities 24
Item 4. Submission of Matters to a Vote of Security Holders 24
Item 5. Other Information 24
Item 6. Exhibits 24
SIGNATURES 26
FIRST KEYSTONE FINANCIAL, INC.
UNAUDITED CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
(dollars in thousands)
June 30, September 30,
2006 2005
---------- -------------
ASSETS
Cash and amounts due from depository institutions $ 5,297 $ 8,321
Interest-bearing deposits with depository institutions 10,453 7,834
---------- ----------
Total cash and cash equivalents 15,750 16,155
Investment securities available for sale 33,065 37,019
Mortgage-related securities available for sale 72,140 67,527
Loans held for sale 128 41
Investment securities held to maturity - at amortized cost
(approximate fair value of $3,201 at June 30, 2006
and $4,290 at September 30, 2005) 3,258 4,267
Mortgage-related securities held to maturity - at amortized cost
(approximate fair value of $38,293 at June 30, 2006
and $45,679 at September 30, 2005) 40,277 46,654
Loans receivable (net of allowance for loan losses of $2,931 and $3,475
at June 30, 2006 and September 30, 2005, respectively) 324,214 301,979
Accrued interest receivable 2,408 2,435
Real estate owned 2,706 760
FHLBank stock, at cost 6,746 9,499
Office properties and equipment, net 4,714 4,782
Deferred income taxes 2,580 2,008
Cash surrender value of life insurance 17,283 16,835
Prepaid expenses and other assets 3,653 8,163
---------- ----------
TOTAL ASSETS $ 528,922 $ 518,124
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities:
Deposits:
Non-interest-bearing $ 18,254 $ 18,001
Interest-bearing 337,924 331,693
---------- ----------
Total deposits 356,178 349,694
Advances from FHLBank and other borrowings 116,554 113,303
Junior subordinated debentures 21,493 21,520
Accrued interest payable 2,076 1,870
Advances from borrowers for taxes and insurance 3,027 839
Accounts payable and accrued expenses 2,337 2,705
---------- ----------
Total liabilities 501,665 489,931
Commitments and contingencies
Stockholders' Equity:
Preferred stock, $.01 par value, 10,000,000 shares authorized; none issued
Common stock, $.01 par value, 20,000,000 shares authorized; issued 2,712,556
shares; outstanding at June 30, 2006 and September 30, 2005, 2,024,074
and 2,023,534 shares, respectively 27 27
Additional paid-in capital 12,977 12,920
Employee stock ownership plan (3,114) (3,185)
Treasury stock at cost: 688,482 shares at June 30, 2006 and 689,022 shares
at September 30, 2005 (10,581) (10,590)
Accumulated other comprehensive loss (1,804) (209)
Retained earnings - partially restricted 29,752 29,230
---------- ----------
Total stockholders' equity 27,257 28,193
---------- ----------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 528,922 $ 518,124
========== ==========
See notes to unaudited consolidated financial statements.
FIRST KEYSTONE FINANCIAL, INC.
UNAUDITED CONSOLIDATED STATEMENTS OF INCOME
(dollars in thousands, except per share data)
Three months ended Nine months ended
June 30, June 30,
---------------------- ----------------------
2006 2005 2006 2005
-------- -------- -------- --------
INTEREST INCOME:
Interest and fees on loans $ 5,106 $ 4,446 $ 14,626 $ 13,317
Interest and dividends on:
Mortgage-related securities 1,323 1,662 3,799 4,615
Investment securities:
Taxable 296 339 889 1,117
Tax-Exempt 187 195 560 568
Dividends 99 105 290 462
Interest-bearing deposits 53 41 145 122
-------- -------- -------- --------
Total interest income 7,064 6,788 20,309 20,201
-------- -------- -------- --------
INTEREST EXPENSE:
Interest on:
Deposits 2,198 1,625 6,025 4,551
Federal Home Loan Bank advances and other borrowings 1,533 1,888 4,387 5,716
Junior subordinated debentures 491 450 1,447 1,328
-------- -------- -------- --------
Total interest expense 4,222 3,963 11,859 11,595
-------- -------- -------- --------
NET INTEREST INCOME 2,842 2,825 8,450 8,606
PROVISION FOR LOAN LOSSES 81 1,645 651 1,735
-------- -------- -------- --------
NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSSES 2,761 1,180 7,799 6,871
-------- -------- -------- --------
NON-INTEREST INCOME:
Service charges and other fees 402 379 1,141 1,176
Net gain (loss) on sales of:
Loans held for sale 15 29 157 66
Investment and mortgage-related securities 3 15 3 539
Real estate owned -- -- 158 (3)
Increase in cash surrender value of life insurance 152 155 448 565
Other income 96 105 335 337
-------- -------- -------- --------
Total non-interest income 668 683 2,242 2,683
-------- -------- -------- --------
NON-INTEREST EXPENSE:
Salaries and employee benefits 1,454 1,398 4,458 4,639
Occupancy and equipment 410 405 1,193 1,150
Professional fees 407 260 1,228 789
Federal deposit insurance premium 38 12 87 37
Data processing 138 138 390 402
Advertising 138 106 346 289
Net cost of operation of other real estate 44 4 46 7
Deposit processing 147 158 457 474
Other 405 465 1,195 1,406
-------- -------- -------- --------
Total non-interest expense 3,181 2,946 9,400 9,196
-------- -------- -------- --------
INCOME (LOSS) BEFORE INCOME TAX BENEFIT 248 (1,083) 641 358
INCOME TAX BENEFIT (19) (470) (89) (190)
-------- -------- -------- --------
NET INCOME (LOSS) $ 267 $ (613) $ 730 $ 548
======== ======== ======== ========
BASIC EARNINGS (LOSS) PER COMMON SHARE $ 0.14 $ (0.33) $ 0.39 $ 0.30
======== ======== ======== ========
DILUTED EARNINGS (LOSS) PER COMMON SHARE $ 0.14 $ (0.32) $ 0.38 $ 0.30
======== ======== ======== ========
See notes to unaudited consolidated financial statements.
-2-
FIRST KEYSTONE FINANCIAL, INC.
UNAUDITED CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
(dollars in thousands)
Employee Accumulated Retained
Additional stock other earnings- Total
Common paid-in ownership Treasury comprehensive partially stockholders'
stock capital plan stock income (loss) restricted equity
-------- ---------- ---------- ---------- ------------- ---------- -------------
BALANCE AT OCTOBER 1, 2004 $ 27 $ 13,609 $ (3,189) $(11,913) $ 1,734 $ 29,430 $ 29,698
Net income -- -- -- -- -- 548 548
Other comprehensive income, net of
tax:
Net unrealized loss on
securities
net of reclassification
adjustment(1) -- -- -- -- (768) -- (768)
-------- -------- -------- -------- -------- -------- --------
Comprehensive loss -- -- -- -- -- -- (220)
-------- -------- -------- -------- -------- -------- --------
Common stock acquired by stock
benefit plans -- -- (72) -- -- -- (72)
ESOP shares committed to be
released -- -- 53 -- -- -- 53
Excess of fair value above cost of
ESOP shares committed to be
released -- 40 -- -- -- -- 40
Purchase of treasury stock -- -- -- (110) -- -- (110)
Exercise of stock options -- (767) -- 1,415 -- -- 648
Dividends declared -- -- -- -- -- (604) (604)
-------- -------- -------- -------- -------- -------- --------
BALANCE AT JUNE 30, 2005 $ 27 $ 12,882 $ (3,208) $(10,608) $ 966 $ 29,374 $ 29,433
======== ======== ======== ======== ======== ======== ========
BALANCE AT OCTOBER 1, 2005 $ 27 $ 12,920 $ (3,185) $(10,590) $ (209) $ 29,230 $ 28,193
Net income -- -- -- -- -- 730 730
Other comprehensive income,
net of tax:
Net unrealized loss
on securities
net of reclassification
adjustment(1) -- -- -- -- (1,595) -- (1,595)
-------- -------- -------- -------- -------- -------- --------
Comprehensive loss -- -- -- -- -- -- (865)
-------- -------- -------- -------- -------- -------- --------
ESOP shares committed to be
released -- -- 71 -- -- -- 71
Excess of fair value above cost of
ESOP shares committed to
be released -- 41 -- -- -- -- 41
Share-based compensation -- 19 -- -- -- -- 19
Exercise of stock options -- (3) -- 9 -- -- 6
Dividends declared -- -- -- -- -- (208) (208)
-------- -------- -------- -------- -------- -------- --------
BALANCE AT JUNE 30, 2006 $ 27 $ 12,977 $ (3,114) $(10,581) $ (1,804) $ 29,752 $ 27,257
======== ======== ======== ======== ======== ======== ========
(1) Disclosure of reclassification amount, net of tax:
June 30,
-------------------------
2006 2005
---------- ----------
Net unrealized depreciation arising during the period $(1,597) $ (1,124)
Less: reclassification adjustment for net gains included in net income
(net of tax of $1 and $183, respectively) 2 356
---------- ---------
Net unrealized loss on securities $(1,595) $ (768)
========== ==========
See notes to unaudited consolidated financial statements.
-3-
FIRST KEYSTONE FINANCIAL, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(dollars in thousands)
Nine months ended
June 30,
---------------------------
2006 2005
------------ ----------
OPERATING ACTIVITIES:
Net income $ 730 $ 548
Adjustments to reconcile net income to net cash provided by (used in)
operating activities:
Provision for depreciation and amortization 400 398
Amortization of premiums and discounts 245 395
Increase in cash surrender value of life insurance (448) (566)
(Gain) loss on sales of:
Loans held for sale (157) (66)
Investment securities (46) (539)
Mortgage-related securities 43 --
Real estate owned (158) 3
Provision for loan losses 651 1,735
Amortization of ESOP 112 93
Deferred income taxes 250 --
Share-based compensation 19 --
Insurance proceeds on real estate owned -- 29
Origination of loans held for sale (4,857) (10,659)
Proceeds from the sale of loans 4,770 10,807
Changes in assets and liabilities which provided (used) cash:
Accrued interest receivable 27 (12)
Prepaid expenses and other assets 4,510 7,684
Accrued interest payable 206 116
Accrued expenses (368) 1,732
------------ ----------
Net cash provided by operating activities 5,929 11,698
------------ ----------
INVESTING ACTIVITIES:
Loans originated (111,166) (96,703)
Purchases of:
Mortgage-related securities available for sale (18,353) (38,890)
Investment securities available for sale (338) (7,700)
Mortgage-related securities held to maturity -- (18,591)
Redemption of FHLBank stock 2,753 1,109
Proceeds from sales of real estate owned 918 252
Proceeds from sales of investment and mortgage-related securities 6,586 26,523
Principal collected on loans 83,676 95,806
Proceeds from maturities, calls, or repayments of:
Investment securities available for sale 590 687
Mortgage-related securities available for sale 10,351 18,912
Mortgage-related securities held to maturity 6,266 6,136
Investment securities held to maturity 1,000 1,000
Expenditures on real estate owned (6) --
Purchase of property and equipment (332) (985)
------------ ----------
Net cash used in investing activities (18,055) (12,444)
------------ ----------
FINANCING ACTIVITIES:
Net increase in deposit accounts 6,484 13,480
Net increase (decrease) in FHLBank advances and other borrowings 3,251 (15,644)
Net increase in advances from borrowers for taxes and insurance 2,188 2,271
Common stock acquired by ESOP -- (72)
Exercise of stock options 6 648
Purchase of treasury stock -- (110)
Cash dividends (208) (604)
------------ ----------
Net cash provided by (used in) financing activities 11,721 (31)
------------ ----------
DECREASE IN CASH AND CASH EQUIVALENTS (405) (777)
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 16,155 17,975
------------ ----------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 15,750 $ 17,198
============ ==========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW AND NON-CASH INFORMATION:
Cash payments for interest on deposits and borrowings $ 11,653 $ 11,479
Transfers of loans receivable into real estate owned 3,337 --
Cash payments of income taxes -- 300
See notes to unaudited consolidated financial statements.
-4-
FIRST KEYSTONE FINANCIAL, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(dollars in thousands, except per share amounts)
1. BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements have been
prepared in accordance with instructions to Form 10-Q. Accordingly, they
do not include all of the information and footnotes required by accounting
principles generally accepted in the United States of America for complete
financial statements. However, such information reflects all adjustments
(consisting solely of normal recurring adjustments) which are, in the
opinion of management, necessary for a fair statement of results for the
periods.
The results of operations for the three and nine month periods ended June
30, 2006 are not necessarily indicative of the results to be expected for
the fiscal year ending September 30, 2006 or any other period. The
consolidated financial statements presented herein should be read in
conjunction with the audited consolidated financial statements and related
notes thereto included in the First Keystone Financial, Inc. (the
"Company") Annual Report on Form 10-K for the year ended September 30,
2005.
The preparation of consolidated financial statements in conformity with
accounting principles generally accepted in the United States of America
requires management to make estimates and assumptions that affect the
reported amounts of assets and liabilities and the disclosure of
contingent assets and liabilities at the dates of the consolidated
financial statements and the reported amounts of income and expense during
the reporting periods. Actual results could differ from those estimates.
2. INVESTMENT SECURITIES
The amortized cost and approximate fair value of investment securities
available for sale and held to maturity, by contractual maturities, are as
follows:
June 30, 2006
---------------------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Approximate
Cost Gain Loss Fair Value
---------- ------------- ---------- -----------
Available for Sale:
U.S. Government and agency bonds:
1 to 5 years $ 2,000 $ -- $ (53) $ 1,947
Municipal obligations:
5 to 10 years 130 1 -- 131
Over 10 years 9,788 181 (47) 9,922
Corporate bonds:
1 to 5 years 1,000 34 -- 1,034
5 to 10 years 2,000 -- (172) 1,828
Over 10 years 7,954 -- (87) 7,867
Mutual funds 9,122 -- (323) 8,799
Other equity investments 1,040 506 (9) 1,537
---------- ------------- ---------- -----------
Total $ 33,034 $ 722 $ (691) $ 33,065
========== ============= ========== ===========
Held to Maturity:
Municipal obligations:
5 to 10 years $ 3,258 $ -- $ (57) $ 3,201
---------- ------------- ---------- -----------
Total $ 3,258 $ -- $ (57) $ 3,201
========== ============= ========== ===========
-5-
Provided below is a summary of investment securities available for sale and held
to maturity which were in an unrealized loss position at June 30, 2006.
Loss Position Loss Position
Less than 12 Months 12 Months or Longer Total
------------------------ ------------------------- -----------------------------
Unrealized Unrealized Unrealized
Fair Value Losses Fair Value Losses Fair Value Losses
---------- ---------- ---------- ---------- ------------- -----------
U.S. Government and agency
bonds $ 1,947 $ (53) $ -- $ -- $ 1,947 $ (53)
Corporate bonds 6,790 (56) 2,905 (203) 9,695 (259)
Municipal bonds 4,154 (104) -- -- 4,154 (104)
Mutual fund -- -- 8,799 (323) 8,799 (323)
Equity securities 53 (9) -- -- 53 (9)
-------- ----- ------- ----- ------- -----
Total $12,944 $(222) $11,704 $(526) $24,648 $(748)
======== ===== ======= ===== ======= =====
At June 30, 2006, investment securities in a gross unrealized loss position for
twelve months or longer consisted of four securities having an aggregate
depreciation of 4.3% from the Company's amortized cost basis. Management
believes that the estimated fair value of the securities disclosed above is
primarily dependent upon the movement in market interest rates particularly
given the limited inherent credit risk associated with these securities. These
investment securities are comprised of securities that are rated investment
grade by at least one bond credit rating service. Mutual funds in an unrealized
loss position for 12 months or longer consisted of two funds primarily invested
in asset-backed securities and had an aggregate depreciation of 3.5%. Although
the fair value will fluctuate as the market interest rates move, management
believes that these fair values will recover as the underlying portfolios mature
and are reinvested in market rate yielding investments. Corporate bonds in an
unrealized loss position for 12 months or longer consisted of two debt
securities and had an aggregate depreciation of 6.5%. The Company has the
ability and intent to hold these securities until such time as the value
recovers or the securities mature. Management does not believe any individual
unrealized loss as of June 30, 2006 represents an other-than-temporary
impairment.
The amortized cost and approximate fair value of investment securities available
for sale and held to maturity, by contractual maturities, are as follows:
September 30, 2005
--------------------------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Approximate
Cost Gain Loss Fair Value
----------- ------------ ------------ --------------
Available for Sale:
U.S. Government bonds:
5 to 10 years $ 1,997 $ -- $ (18) $ 1,979
Municipal obligations:
5 to 10 years 130 4 -- 134
Over 10 years 12,633 494 (18) 13,109
Corporate bonds:
1 to 5 years 1,000 71 -- 1,071
5 to 10 years 2,000 -- (47) 1,953
Over 10 years 7,990 34 (19) 8,005
Asset-backed securities:
1 to 5 years 590 3 -- 593
Mutual funds 8,846 -- (253) 8,593
Other equity investments 978 604 -- 1,582
-------- --------- ------- --------
Total $ 36,164 $ 1,210 $ (355) $ 37,019
======== ========= ======= ========
Held to Maturity:
Municipal obligations:
5 to 10 years $ 3,259 $ 28 $ -- $ 3,287
Corporate bonds:
Less than 1 year 1,008 -- (5) 1,003
-------- --------- ------- --------
Total $ 4,267 $ 28 $ (5) $ 4,290
======== ========= ======= ========
-6-
Provided below is a summary of investment securities available for sale
and held to maturity which were in an unrealized loss position at
September 30, 2005.
Loss Position Loss Position
Less than 12 Months 12 Months or Longer Total
------------------------- -------------------------- --------------------------
Unrealized Unrealized Unrealized
Fair Value Losses Fair Value Losses Fair Value Losses
------------ ---------- ------------- ---------- ------------ -----------
U.S. Government and
agency bonds $ 1,979 $ (18) $ -- $ -- $ 1,979 $ (18)
Corporate bonds 2,642 (24) 1,953 (47) 4,595 (71)
Municipal bonds 983 (18) -- -- 983 (18)
Mutual fund -- -- 8,593 (253) 8,593 (253)
------------ ---------- ------------- ---------- ------------ -----------
Total $ 5,604 $ (60) $ 10,546 $ (300) $ 16,150 $ (360)
============ ========== ============= ========== ============ ===========
3. MORTGAGE-RELATED SECURITIES
Mortgage-related securities available for sale and mortgage-related
securities held to maturity are summarized as follows:
June 30, 2006
------------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Approximate
Cost Gain Loss Fair Value
---------- ---------- ------------ ------------
Available for Sale:
FHLMC pass-through certificates $ 7,646 $ -- $ (250) $ 7,396
FNMA pass-through certificates 29,580 20 (979) 28,621
GNMA pass-through certificates 3,133 2 (91) 3,044
Collateralized mortgage obligations 34,547 23 (1,491) 33,079
---------- ---------- ------------ ------------
Total $ 74,906 $ 45 $ (2,811) $ 72,140
========== ========== ============ ============
Held to Maturity:
FHLMC pass-through certificates $ 15,029 $ -- $ (748) $ 14,281
FNMA pass-through certificates 25,062 1 (1,235) 23,828
Collateralized mortgage obligations 186 -- (2) 184
---------- ---------- ------------ ------------
Total $ 40,277 $ 1 $ (1,985) $ 38,293
========== ========== ============ ============
Provided below is a summary of mortgage-related securities available for
sale and held to maturity which were in an unrealized loss position at
June 30, 2006.
Loss Position Loss Position
Less than 12 Months 12 Months or Longer Total
------------------------- -------------------------- --------------------------
Unrealized Unrealized Unrealized
Fair Value Losses Fair Value Losses Fair Value Losses
------------ ---------- ------------- ---------- ------------ -----------
Pass-through
certificates $ 28,100 $ (917) $ 47,270 $ (2,385) $ 75,370 $ (3,302)
Collateralized
mortgage
obligations 9,275 (311) 23,479 (1,183) 32,754 (1,494)
------------ ---------- ------------- ---------- ------------ -----------
Total $ 37,375 $ (1,228) $ 70,749 $ (3,568) $ 108,124 $ (4,796)
============ ========== ============= ========== ============ ===========
- 7 -
At June 30, 2006, mortgage-related securities in a gross unrealized loss
position for twelve months or longer consisted of 45 securities that at
such date had an aggregate depreciation of 4.8% from the Company's
amortized cost basis. Management does not believe any individual
unrealized loss as of June 30, 2006 represents an other-than-temporary
impairment. The unrealized losses reported for mortgage-related securities
relate primarily to securities issued by the Federal National Mortgage
Association, the Federal Home Loan Mortgage Corporation and various
private issuers. The majority of the unrealized losses associated with
mortgage-related securities are primarily attributable to changes in
interest rates and not due to the deterioration of the creditworthiness of
the issuer. The Company has the ability and intent to hold these
securities until the securities mature or recover in value.
Mortgage-related securities available for sale and mortgage-related
securities held to maturity are summarized as follows:
September 30, 2005
------------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Approximate
Cost Gain Loss Fair Value
---------- ---------- ------------ ------------
Available for Sale:
FHLMC pass-through certificates $ 50 $ 3 $ -- $ 53
FNMA pass-through certificates 23,493 51 (364) 23,180
GNMA pass-through certificates 3,947 12 (39) 3,920
Collateralized mortgage obligations 41,207 23 (856) 40,374
---------- ---------- ------------ ------------
Total $ 68,697 $ 89 $ (1,259) $ 67,527
========== ========== ========= ============
Held to Maturity:
FHLMC pass-through certificates $ 17,267 $ 9 $ (371) $ 16,905
FNMA pass-through certificates 29,084 9 (619) 28,474
Collateralized mortgage obligations 303 -- (3) 300
---------- ---------- ------------ ------------
Total $ 46,654 $ 18 $ (993) $ 45,679
========== ========== ========= ============
Provided below is a summary of mortgage-related securities available for
sale and held to maturity which were in an unrealized loss position at
September 30, 2005. Loss Position Loss Position
Loss Position Loss Position
Less than 12 Months 12 Months or Longer Total
------------------------- -------------------------- --------------------------
Unrealized Unrealized Unrealized
Fair Value Losses Fair Value Losses Fair Value Losses
------------ ---------- ------------- ---------- ------------ -----------
Pass-through
certificates $ 54,321 $ (916) $ 14,893 $ (477) $ 69,214 $ (1,393)
Collateralized
mortgage
obligations 30,206 (485) 9,873 (374) 40,079 (859)
------------ ---------- ------------- ---------- ------------ -----------
Total $ 84,527 $ (1,401) $ 24,766 $ (851) $ 109,293 $ (2,252)
============ ========== ============= ========== ============ ===========
- 8 -
4. LOANS RECEIVABLE
Loans receivable consist of the following:
June 30, September 30,
2006 2005
------------ -------------
Real estate loans:
Single-family $ 145,457 $ 149,237
Construction and land 39,872 36,828
Multi-family and commercial 72,394 69,704
Home equity and lines of credit 57,032 46,748
Consumer loans 1,340 1,376
Commercial loans 23,571 16,085
------------ -------------
Total loans 339,666 319,978
Loans in process (12,632) (14,614)
Allowance for loan losses (2,931) (3,475)
Deferred loan costs 111 90
------------ -------------
Loans receivable - net $ 324,214 $ 301,979
============ =============
At June 30, 2006 and September 30, 2005, non-performing loans (which
include loans in excess of 90 days delinquent) amounted to approximately
$460 and $5,052, respectively. At June 30, 2006, non-performing loans
primarily consisted of single-family residential mortgage loans
aggregating $190, consumer lines of credit aggregating $172, and
commercial business loans aggregating $98.
At June 30, 2006 and September 30, 2005, the Company had impaired loans
with a total recorded investment of $672 and $3,837, respectively, and an
average recorded investment of $2,791 and $1,279, respectively. Interest
income of $47 and $20 was recognized on these impaired loans during the
nine months ended June 30, 2006 and the year ended September 30, 2005,
respectively.
Loans collectively evaluated for impairment include residential real
estate, home equity (including lines of credit) and consumer loans and are
not included in the data that follow:
June 30, September 30,
2006 2005
-------- -------------
Impaired loans with related allowance for loan losses
under SFAS No. 114 $ -- $ 3,837
Impaired loans with no related allowance for loan losses
under SFAS No. 114 672 --
-------- -------------
Total impaired loans $ 672 $ 3,837
======== =============
Valuation allowance related to impaired loans $ -- $ 959
======== =============
The following is an analysis of the allowance for loan losses:
Nine Months Ended
June 30,
--------------------
2006 2005
-------- --------
Balance beginning of period $3,475 $2,039
Provisions charged to income 651 1,735
Charge-offs (1,206) (303)
Recoveries 11 --
-------- --------
Total $2,931 $3,471
======== ========
For the nine months ended June 30, 2006, loans charged-off consisted
primarily of a $1,137 charge off related to the March 31, 2006 transfer to
real estate owned of a property located in Chesapeake City, Maryland that
secured a $3,337 commercial real estate loan and a $500 commercial
business loan. In connection with the property's transfer to real estate
owned, the Company recorded the property at its approximate fair value of
$2,700 resulting in a charge-off of $1,137 against the allowance for loan
losses.
- 9 -
The Company has identified the evaluation of the allowance for loan losses
as a critical accounting estimate where amounts are sensitive to material
variation. The Company is constantly challenging the methodology,
conducting assessments and redefining the process to determine the
appropriate level of allowance for loan losses. Critical accounting
estimates are significantly affected by management's judgment and
uncertainties and there is a likelihood that materially different amounts
would be reported under different, but reasonable, conditions or
assumptions. The allowance for loan losses is considered a critical
accounting estimate because there is a large degree of judgment in (i)
assigning individual loans to specific risk levels (pass, special mention,
substandard, doubtful and loss), (ii) valuing the underlying collateral
securing the loans, (iii) determining the appropriate reserve factor to be
applied to specific risk levels for criticized and classified loans
(special mention, substandard, doubtful and loss) and (iv) determining
reserve factors to be applied to pass loans based upon loan type.
Management reviews the allowance for loan losses generally on a monthly
basis, but at a minimum at least quarterly. To the extent that loans
change risk levels, collateral values change or reserve factors change,
the Company may need to adjust its provision for loan losses which would
impact earnings. In this framework, a series of qualitative factors are
used in a methodology as a measurement of how current circumstances are
affecting the loan portfolio. Included, among other things, in these
qualitative factors are past loss experience, type and volume of loans,
changes in lending policies and procedures, underwriting standards,
collections, charge-offs and recoveries, national and local economic
conditions, concentrations of credit, and the effect of external factors
on the level of estimated credit losses in the current portfolio.
The determination of the allowance for loan losses requires management to
make significant estimates with respect to the amounts and timing of
losses and market and economic conditions. Accordingly, a decline in the
economy could increase loan delinquencies, foreclosures or repossessions
resulting in increased charge-off amounts and the need for additional
provisions to the loan loss allowance in future periods. The Company will
continue to monitor and adjust its allowance for loan losses through the
provision for loan losses as economic conditions and other factors
dictate. Although the Company maintains its allowance for loan losses at
levels considered adequate to provide for the amount of known and inherent
loss in its loan portfolio, there can be no assurance that future losses
will not exceed estimated amounts or that additional provisions for loan
losses will not be required in future periods. In addition, the Company's
determination as to the amount of its allowance for loan losses is subject
to review by its primary federal banking regulator, the Office of Thrift
Supervision (the "OTS"), as part of its examination process, which may
require the recognition of an adjustment to the allowance for loan losses
based on its judgment of information available to it at the time of its
examination. To the extent that actual outcomes differ from management's
estimates, additional provisions to the allowance for loan losses may be
required that would adversely impact earnings in future periods.
5. DEPOSITS
Deposits consist of the following major classifications:
June 30, 2006 September 30, 2005
------------------ ------------------
Amount Percent Amount Percent
-------- ------- -------- -------
Non-interest bearing $ 18,254 5.1% $ 18,001 5.1%
NOW 72,200 20.3 65,688 18.8
Passbook 44,603 12.5 47,139 13.5
Money market demand 42,480 11.9 45,753 13.1
Certificates of deposit 178,641 50.2 173,113 49.5
-------- ------- -------- -------
Total $356,178 100.0% $349,694 100.0%
======== ======= ======== =======
- 10 -
6. EARNINGS PER SHARE
Basic net income per share is based upon the weighted average number of
common shares outstanding, while diluted net income per share is based
upon the weighted average number of common shares outstanding and common
share equivalents that would arise from the exercise of dilutive
securities. All dilutive shares consist of options the exercise price of
which is lower than the market price of the common stock covered thereby
at the dates presented. At June 30, 2006 and 2005, anti-dilutive shares
consisted of options covering 2,221 and 408 shares, respectively.
The calculated basic and diluted earnings per share ("EPS") is as follows:
For the Three Months Ended For the Nine Months Ended
June 30, June 30,
-------------------------- -------------------------
2006 2005 2006 2005
------------ ----------- ----------- -----------
Numerator - Net income (loss) $ 267 $ (613) $ 730 $ 548
Denominators:
Basic shares outstanding 1,892,876 1,874,143 1,890,601 1,827,849
Effect of dilutive securities 22,688 38,636 22,830 18,472
------------ ----------- ----------- -----------
Diluted shares outstanding 1,915,564 1,912,779 1,913,431 1,846,321
============ =========== =========== ===========
EPS:
Basic $ 0.14 $ (0.33) $ 0.39 $ 0.30
Diluted $ 0.14 $ (0.32) $ 0.38 $ 0.30
7. SHARE-BASED COMPENSATION
Effective October 1, 2005, the Company adopted Statement of Financial
Accounting Standard ("SFAS") No. 123 (Revised 2004), "Share-Based Payment"
(SFAS No. 123(R)) using the modified prospective application transition
method. The adoption of SFAS No.123(R) resulted in approximately $6 and
$19 compensation expense for the three and nine month periods ended June
30, 2006, respectively. Pro forma compensation expense for the three and
nine month periods ended June 30, 2005 was $4 and $12, respectively. There
were no new grants of stock options or other share-based payments during
the nine months ended June 30, 2006 and, therefore, additional disclosures
for share-based compensation were omitted due to immateriality.
A summary of award activity under the stock option plans as of June 30,
2006 and changes during the nine month period is presented below:
Number of Weighted Average
Option Exercise Exercise Price per
Shares Price Range share
----------- --------------- ------------------
Outstanding at October 1, 2005 66,177 $ 7.50 - 21.89 $ 13.01
Exercised (540) 10.13 - 12.13 10.64
----------- --------------- ------------------
Outstanding at June 30, 2006 65,637 $ 8.50 - 21.89 $ 13.03
=========== =============== ==================
The weighted average remaining contractual term was approximately 4.6
years for options outstanding and 4.0 years for 56,296 stock options
exercisable as of June 30, 2006.
As of June 30, 2006 there was approximately $59,400 of total unrecognized
compensation cost related to the nonvested options granted under the stock
option plans. That cost is expected to be recognized over a weighted
average period of 4.9 years.
- 11 -
8. RECENT ACCOUNTING PRONOUNCEMENTS
In February 2006, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 155, "Accounting for Certain Hybrid Financial Instruments-an
amendment of FASB Statements No. 133 and 140" ("SFAS No. 155.") SFAS No.
155 amends SFAS No. 133, "Accounting for Derivative Instruments and
Hedging Activities," to permit fair value remeasurement for any hybrid
financial instrument with an embedded derivative that otherwise would
require bifurcation, provided that the whole instrument is accounted for
on a fair value basis. SFAS No. 155 amends SFAS No. 140, "Accounting for
the Impairment or Disposal of Long-Lived Assets", to allow a qualifying
special-purpose entity to hold a derivative financial instrument that
pertains to a beneficial interest other than another derivative financial
instrument. SFAS No. 155 is effective for all financial instruments
acquired or issued after the beginning of an entity's first fiscal year
beginning after September 15, 2006 and is not expected to have a material
impact on the Company's consolidated financial statements.
In March 2006, the FASB issued SFAS No. 156, "Accounting for Servicing of
Financial Assets-an amendment of FASB Statement No. 140," ("SFAS No.
156"). SFAS No. 156 amends SFAS No. 140, "Accounting for Transfers and
Servicing of Financial Assets and Extinguishments of Liabilities," with
respect to the accounting for separately recognized servicing assets and
servicing liabilities. SFAS No. 156 requires an entity to recognize a
servicing asset or servicing liability each time it undertakes an
obligation to service a financial asset by entering into a servicing
contract in certain situations prescribed by SFAS No. 156. All separately
recognized servicing assets and servicing liabilities are to be initially
measured at fair value, if practicable, and SFAS No. 156 permits an entity
to choose either the amortization method or fair value measurement method
for subsequent measurement methods for each class of separately recognized
servicing assets and servicing liabilities. SFAS No. 156 is effective as
of the beginning of an entity's first fiscal year that begins after
September 15, 2006. The requirements for recognition and initial
measurement of servicing assets and servicing liabilities should be
applied prospectively to all transactions after the effective date of this
statement. The Company`s management is evaluating the impact of adopting
SFAS No. 156 on the Company's financial statements.
On November 3, 2005, the FASB issued FASB Staff Position ("FSP") Nos. FAS
115-1 and FAS 124-1, "The Meaning of Other-Than-Temporary Impairment and
Its Application to Certain Investments." This FSP addresses the
determination as to when an investment is considered impaired, whether
that impairment is other than temporary, and the measurement of an
impairment loss. This FSP also includes accounting considerations
subsequent to the recognition of an other-than-temporary impairment and
requires certain disclosures about unrealized losses that have not been
recognized as other-than-temporary impairments. This FSP nullifies certain
requirements of EITF Issue 03-1, "The Meaning of Other-Than-Temporary
Impairment and Its Application to Certain Investments", and supersedes
EITF Topic No. D-44, "Recognition of Other-Than-Temporary Impairment upon
the Planned Sale of a Security Whose Cost Exceeds Fair Value." The
guidance in this FSP amends SFAS Statement No. 115, "Accounting for
Certain Investments in Debt and Equity Securities." The FSP is effective
for reporting periods beginning after December 15, 2005. The Company
adopted this guidance on January 1, 2006 and it did not have a significant
impact on the Company's interim financial statements.
In June 2006, the FASB issued Interpretation No. 48 ("FIN 48"), "FASB
Interpretation No. 48 - Accounting for Uncertainty in Income Taxes - an
interpretation of FASB Statement No. 109". This Interpretation clarifies
the accounting for uncertainty in income taxes recognized in an
enterprise's financial statements in accordance with FASB Statement No.
109, "Accounting for Income Taxes". This Interpretation prescribes a
recognition threshold and measurement attribute for the financial
statement recognition and measurement of a tax position taken or expected
to be taken in a tax return. This Interpretation also provides guidance on
recognition, classification, interest and penalties, accounting in interim
periods, disclosure, and transition. FIN 48 is effective for fiscal years
beginning after December 15, 2006. The Company is currently evaluating the
impact of this pronouncement.
- 12 -
9. SUPERVISORY AGREEMENTS
On February 13, 2006, the Company and the Bank each entered into a
supervisory agreement with the OTS which primarily addressed issues
identified in the OTS' most recent reports of examination of the Company's
and the Bank's operations and financial condition.
Under the terms of the supervisory agreement between the Company and the
OTS, the Company agreed to, among other things, (i) develop and implement
a three-year capital plan designed to support the Company's efforts to
maintain prudent levels of capital and to reduce its debt-to-equity ratio
below 50%; (ii) not incur any additional debt without the prior written
approval of the OTS; and (iii) not repurchase any shares of or pay any
cash dividends on its common stock until certain conditions were complied
with; provided, however, that upon reducing its debt-to-equity below 50%,
the Company may resume the payment of quarterly cash dividends at the
lesser of the dividend rate in effect immediately prior to entering into
the supervisory agreement or 35% of its consolidated net income (on an
annualized basis), provided that the OTS does not object to the payment of
such dividend pursuant to a required prior notice of the Company's intent
to declare such quarterly dividend. In order to comply with the
debt-to-equity ratio requirement, the Company is considering various
alternatives which may include raising additional equity capital combined
with the redemption in the future of a portion of its outstanding
subordinated debt. The Company has filed and received OTS approval of its
capital plan.
Under the terms of the supervisory agreement between the Bank and the OTS,
the Bank agreed to, among other things, (i) not grow in any quarter in
excess of the greater of 3% of total assets (on an annualized basis) or
net interest credited on deposit liabilities during such quarter; (ii)
maintain its core capital and total risk-based capital ratios in excess of
7.5% and 12.5%, respectively; (iii) adopt revised policies and procedures
governing commercial lending; (iv) conduct periodic reviews of its
commercial loan department; (v) conduct periodic internal loan reviews;
(vi) adopt a revised asset classification policy and (vii) not amend,
renew or enter into compensatory arrangements with senior executive
officers and directors, subject to certain exceptions, without the prior
approval of the OTS.
At March 31, 2006 and June 30, 2006 the Bank exceeded the asset growth
limitation contained in the supervisory agreement with the Office of
Thrift Supervision. Subsequent to June 30, 2006, the Bank reduced its
assets sufficiently to below the June 30, 2006 limitation. The OTS has
advised the Bank that it will not take any regulatory action against the
Bank provided it is in compliance as of September 30, 2006.
As noted above, the Company is not permitted to pay dividends to its
stockholders under the terms of the supervisory agreement until certain
conditions are satisfied. Currently, the Company believes it will be able
to resume dividends in the quarter ended March 31, 2007.
As a result of the supervisory agreement, the Bank is not deemed to be
"well-capitalized" for purposes of the prompt corrective action
regulations of the OTS even though the Bank's regulatory capital is in
excess of all regulatory capital requirements.
- 13 -
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
In addition to historical information, this Quarterly Report on Form 10-Q
includes certain "forward-looking statements" based on management's
current expectations. The Company's actual results could differ
materially, as such term is defined in the Securities Act of 1933 and the
Securities Exchange Act of 1934, from management's expectations. Such
forward-looking statements include statements regarding management's
current intentions, beliefs or expectations as well as the assumptions on
which such statements are based. These forward-looking statements are
subject to significant business, economic and competitive uncertainties
and contingencies, many of which are not subject to the Company's control.
Stockholders and potential stockholders are cautioned that any such
forward-looking statements are not guarantees of future performance and
involve risks and uncertainties, and that actual results may differ
materially from those contemplated by such forward-looking statements.
Factors that could cause future results to vary from current management
expectations include, but are not limited to, general economic conditions,
legislative and regulatory changes, monetary and fiscal policies of the
federal government, changes in tax policies, rates and regulations of
federal, state and local tax authorities, changes in interest rates,
deposit flows, the cost of funds, demand for loan products, demand for
financial services, competition, changes in the quality or composition of
the Company's loan and investment portfolios, changes in accounting
principles, policies or guidelines, availability and cost of energy
resources, the effects of the supervisory agreements entered into by the
Company and First Keystone Bank (the "Bank") with the Office of Thrift
Supervision (the "OTS"), and other economic, competitive, governmental and
technological factors affecting the Company's operations, markets,
products, services and fees.
The Company undertakes no obligation to update or revise any
forward-looking statements to reflect changed assumptions, the occurrence
of unanticipated events or changes to future operating results that occur
subsequent to the date such forward-looking statements are made, unless
required to do so under federal securities laws.
GENERAL
The Company is a Pennsylvania corporation and sole stockholder of the
Bank, a federally chartered stock savings bank, which converted to the
stock form of organization in January 1995. The Bank is a
community-oriented bank emphasizing customer service and convenience. The
Bank's primary business is attracting deposits from the general public and
using those funds together with other available sources of funds,
primarily borrowings, to originate loans. The Bank's management remains
focused on its long-term strategic plan to shift the Bank's loan
composition toward commercial business, construction and home equity loans
and lines of credit in order to provide a higher yielding loan portfolio
with generally shorter contractual terms.
CRITICAL ACCOUNTING POLICIES.
Accounting policies involving significant judgments and assumptions by
management, which have, or could have, a material impact on the carrying
value of certain assets or comprehensive income, are considered critical
accounting policies. In management's opinion, the most critical accounting
policy affecting the Company's financial statements is the evaluation of
the allowance for loan losses. The Company maintains an allowance for loan
losses at a level management believes is sufficient to provide for known
and inherent losses in the loan portfolio that were both probable and
reasonable to estimate. The allowance for loan losses is considered a
critical accounting estimate because there is a large degree of judgment
in (i) assigning individual loans to specific risk levels (pass,
substandard, doubtful and loss), (ii) valuing the underlying collateral
securing the loans, (iii) determining the appropriate reserve factor to be
applied to specific risk levels for criticized and classified loans
(substandard, doubtful and loss) and (iv) determining reserve factors to
be applied to pass loans based upon loan type. Accordingly, there is a
likelihood that materially different amounts would be reported under
different, but reasonably plausible conditions or assumptions.
The determination of the allowance for loan losses requires management to
make significant estimates with respect to the amounts and timing of
losses and market and economic conditions. Accordingly, a decline in the
economy could increase loan delinquencies, foreclosures or repossessions
resulting in increased charge-off amounts and the need for additional loan
loss allowances in future periods. The Bank will continue to monitor and
adjust its allowance for loan losses through the provision for loan losses
as economic conditions and other factors dictate. Management reviews the
allowance for loan losses generally on a monthly basis. Although the Bank
maintains its allowance for loan losses at levels considered adequate to
provide for the inherent risk of loss in its loan portfolio, there can be
no assurance that future losses will not exceed estimated amounts or that
additional provisions for loan losses will not be required in future
periods. In addition, the Bank's determination as to the amount of its
allowance for loan losses is subject to review by its primary federal
banking regulator, the OTS, as part of its examination process, which may
result in additional allowances based upon the judgment and review of the
OTS. See "- Provision for Loan Losses."
- 14 -
SUPERVISORY AGREEMENTS.
On February 13, 2006, the Company and the Bank each entered into a
supervisory agreement with the OTS which primarily addressed issues
identified in the OTS' most recent reports of examination of the Company's
and the Bank's operations and financial condition.
Under the terms of the supervisory agreement between the Company and the
OTS, the Company agreed to, among other things, (i) develop and implement
a three-year capital plan designed to support the Company's efforts to
maintain prudent levels of capital and to reduce its debt-to-equity ratio
below 50%; (ii) not incur any additional debt without the prior written
approval of the OTS; and (iii) not repurchase any shares of or pay any
cash dividends on its common stock until certain conditions were complied
with; provided, however, that upon reducing its debt-to-equity below 50%,
the Company may resume the payment of quarterly cash dividends at the
lesser of the dividend rate in effect immediately prior to entering into
the supervisory agreement or 35% of its consolidated net income (on an
annualized basis), provided that the OTS does not object to the payment of
such dividend pursuant to a required prior notice of the Company's intent
to declare such quarterly dividend. In order to comply with the
debt-to-equity ratio requirement, the Company is considering various
alternatives which may include raising additional equity capital combined
with the redemption in the future of a portion of its outstanding
subordinated debt. The Company has filed and received OTS approval of its
capital plan.
Under the terms of the supervisory agreement between the Bank and the OTS,
the Bank agreed to, among other things, (i) not grow in any quarter in
excess of the greater of 3% of total assets (on an annualized basis) or
net interest credited on deposit liabilities during such quarter; (ii)
maintain its core capital and total risk-based capital ratios in excess of
7.5% and 12.5%, respectively; (iii) adopt revised policies and procedures
governing commercial lending; (iv) conduct periodic reviews of its
commercial loan department; (v) conduct periodic internal loan reviews;
(vi) adopt a revised asset classification policy and (vii) not amend,
renew or enter into compensatory arrangements with senior executive
officers and directors, subject to certain exceptions, without the prior
approval of the OTS.
At March 31, 2006 and June 30, 2006 the Bank exceeded the asset growth
limitation contained in the supervisory agreement with the Office of
Thrift Supervision. Subsequent to June 30, 2006, the Bank reduced its
assets sufficiently to below the June 30, 2006 limitation. The OTS has
advised the Bank that it will not take any regulatory action against the
Bank provided it is in compliance as of September 30, 2006.
As noted above, the Company is not permitted to pay dividends to its
stockholders under the terms of the supervisory agreement until certain
conditions are satisfied. Currently, the Company believes it will be able
to resume dividends in the quarter ended March 31, 2007.
As a result of the supervisory agreement, the Bank is not deemed to be
"well-capitalized" for purposes of the prompt corrective action
regulations of the OTS even though the Bank's regulatory capital is in
excess of all regulatory capital requirements.
COMPARISON OF FINANCIAL CONDITION AT JUNE 30, 2006 AND SEPTEMBER 30, 2005
Total assets of the Company increased by $10.8 million, or 2.1%, from
$518.1 million at September 30, 2005 to $528.9 million at June 30, 2006.
Loans receivable increased $22.2 million, or 7.4%, to $324.2 million at
June 30, 2006 as the Company increased the size of its construction,
commercial real estate and commercial business loan portfolios by $13.2
million, or 10.8%, combined with a $10.3 million, or 22.0%, increase in
home equity and lines of credit partially offset by a slight decrease in
single-family residential loans reflecting the continued implementation of
the Company's long-term lending strategy. During the third quarter of
fiscal 2006, the mortgage-related securities portfolio was reduced as part
of the Company's strategy to meet the funding needs of new higher yielding
commercial loans and to assist the Bank in controlling its asset growth as
required by the terms of the supervisory agreement. Prepaid expenses and
other assets decreased $4.7 million due to funds received for settlement
of securities sales. Total deposits increased $6.5 million, or 1.9%, from
$349.7 million at September 30, 2005 to $356.2 million at June 30, 2006
The increase in deposits resulted from a $5.5 million, or 3.2%, increase
in certificates of deposit combined with an increase of $956,000, or 0.5%,
in core deposits (which consist of passbook, money market, NOW and
non-interest-bearing accounts). The increase in certificates of deposit
resulted from a shift in consumers demand for such product. Total
borrowings increased $3.3 million, or 2.9%, to $116.6 million at June 30,
2006 from $113.3 million at September 30, 2005 in order to supplement the
decrease in deposits from March 31, 2006.
Stockholders' equity decreased $936,000 to $27.3 million primarily due to
a $1.6 million increase in the amount of accumulated other comprehensive
loss combined with dividend payments in the first quarter of fiscal 2006
totaling $208,000, partially offset by net income of $730,000 for the nine
months ended June 30, 2006.
- 15 -
COMPARISON OF RESULTS OF OPERATIONS FOR THE THREE AND NINE MONTHS ENDED
JUNE 30, 2006 AND 2005
NET INCOME.
Net income was $267,000, or $0.14 per diluted share, for the quarter ended
June 30, 2006 as compared to net loss of $613,000, or $(0.32) per diluted
share, for the same period in 2005. Net income for the nine months ended
June 30, 2006 was $730,000, or $0.38 per diluted share, an increase of
$182,000, or 33.2%, as compared to $548,000, or $0.30 per diluted share,
for the same period in 2005.
NET INTEREST INCOME.
Net interest income increased $17,000, or 0.6%, to $2.8 million and
decreased $156,000, or 1.8%, to $8.4 million for the three and nine months
ended June 30, 2006, respectively, as compared to the same periods in
2005. The increase for the third quarter of 2006 was primarily due to a
$276,000, or 4.1%, increase in interest income which was partially offset
by an increase in interest expense of $259,000, or 6.5%, for the three
months ended June 30, 2006. The $156,000 decrease in net interest income
for the nine months ended June 30, 2006, was primarily due to an increase
in interest expense of $264,000, or 2.3%, for the nine months ended June
30, 2006, which was partially offset by a $108,000, or 0.5%, increase in
interest income during such period. As a result of the Company's
deleveraging strategy implemented in the fourth quarter of fiscal 2005,
the average balance of interest-earning assets decreased significantly by
$50.4 million and $56.6 million for the three and nine months ended June
30, 2006, respectively, as compared to the same periods in 2005.
Calculated on a tax-equivalent basis, the weighted average yield earned on
interest-earning assets for the three months ended June 30, 2006 increased
75 basis points to 5.87% compared to the 2005 period and 63 basis points
to 5.72% for the nine months ended June 30, 2006. However, partially
offsetting such improvements in the yield were increases in the weighted
average rate paid on interest-bearing liabilities. The weighted average
rate paid on such liabilities increased 47 basis points to 3.45% during
the three months ended June 30, 2006 from 2.98% for the same period in the
prior fiscal year and 39 basis points to 3.29% for the nine months ended
June 30, 2006 as compared to 2.90% for the nine months ended June 30,
2005. The increases in the cost of funds were primarily due to the
continued increase of market rates of interest on the short-term end of
the yield curve which outpaced the increases in the yield on
interest-earning assets. In addition, net interest expense was affected by
a decrease in the average balance of interest-bearing liabilities of $42.6
million and $52.1 million for the three and nine months ended June 30,
2006, respectively, as compared to the same periods in 2005 reflecting the
effects of the deleveraging strategy.
For the three months ended June 30, 2006, the interest rate spread and net
interest margin, on fully tax-equivalent basis, were 2.42% and 2.40%,
respectively, as compared to 2.14% and 2.17%, respectively, for the same
period in 2005. The interest rate spread and net interest margin, on a
fully tax-equivalent basis, were both 2.43% for the nine months ended June
30, 2006 as compared to 2.19% and 2.21%, respectively, for the same period
in 2005. As a result of the deleveraging strategy, the Company improved
its interest rate margin because the yields on interest-earning assets
increased to a greater degree than the rates paid on interest-bearing
liabilities. However, the continued rise in short-term interest rates
could negatively impact the Company's interest rate margin as shorter term
interest-bearing liabilities will reprice faster than the Company's longer
term interest-earning assets.
- 16 -
The following table presents the average balances for various categories
of assets and liabilities, and income and expense related to those assets
and liabilities for the three months and nine months ended June 30, 2006
and 2005. The adjustment of tax-exempt securities to a tax-equivalent
yield in the table below may be considered to include non-GAAP financial
information. Management believes that it is a common practice in the
banking industry to present net interest margin, net interest rate spread
and net interest income on a fully tax-equivalent basis when a significant
proportion of interest-earning assets are tax-free. Therefore, management
believes, these measures provide useful information to investors by
allowing them to make peer comparisons. A GAAP reconciliation also is
included below.
FOR THE THREE MONTHS ENDED
-------------------------------------------------------------------
JUNE 30, 2006 JUNE 30, 2005
-------------------------------- -------------------------------
Average Average
Average Yield/ Average Yield/
(Dollars in thousands) Balance Interest Cost(4) Balance Interest Cost(4)
---------- -------- -------- --------- -------- -------
Interest-earning assets:
Loans receivable(1) (2) $ 315,829 $ 5,106 6.47% $ 304,240 $ 4,446 5.85%
Mortgage-related securities(2) 117,212 1,323 4.51 163,818 1,662 4.06
Investment securities(2) 45,289 668 5.90 57,514 723 5.03
Other interest-earning assets 8,666 53 2.45 11,802 41 1.39
---------- -------- --------- --------
Total interest-earning assets 486,996 $ 7,150 5.87 537,374 $ 6,872 5.12
---------- -------- ------- --------- -------- -------
Non-interest-earning assets 36,841 32,008
---------- ---------
Total assets $ 523,837 $ 569,382
========== =========
Interest-bearing liabilities:
Deposits $ 355,614 $ 2,198 2.47 $ 357,629 $ 1,625 1.82
FHLBank advances and other borrowings 112,458 1,533 5.45 153,418 1,888 4.92
Junior subordinated debentures 21,499 491 9.14 21,535 450 8.36
---------- -------- --------- --------
Total interest-bearing liabilities 489,571 4,222 3.45 532,582 3,963 2.98
---------- -------- ------- --------- -------- -------
Interest rate spread 2.42% 2.14%
======== =======
Non-interest-bearing liabilities 6,933 7,105
---------- ---------
Total liabilities 496,504 539,687
Stockholders' equity 27,333 29,695
---------- ---------
Total liabilities and stockholders'equity $ 523,837 $ 569,382
========== =========
Net interest-earning assets (liabilities) $ (2,575) $ 4,792
========== =========
Net interest income $ 2,928 $ 2,909
======== ========
Net interest margin(3) 2.40% 2.17%
======== =======
Ratio of average interest-earning
assets to average interest-bearing
liabilities 99.47% 100.90%
======== =======
- -----------------
(1) Includes non-accrual loans.
(2) Includes assets classified as either available for sale or held for sale.
(3) Net interest income divided by interest-earning assets.
(4) Presented on a tax-equivalent basis.
- 17 -
FOR THE NINE MONTHS ENDED
-------------------------------------------------------------------
JUNE 30, 2006 JUNE 30, 2005
-------------------------------- -------------------------------
Average Average
Average Yield/ Average Yield/
(Dollars in thousands) Balance Interest Cost(4) Balance Interest Cost(4)
---------- -------- -------- --------- -------- -------
Interest-earning assets:
Loans receivable(1)(2) $ 309,472 $ 14,626 6.30% $ 305,552 $ 13,317 5.81%
Mortgage-related securities(2) 115,142 3,799 4.40 153,983 4,615 4.00
Investment securities(2) 46,138 2,008 5.80 64,444 2,408 4.98
Other interest-earning assets 8,629 145 2.24 12,049 122 1.35
---------- -------- --------- --------
Total interest-earning assets 479,381 $ 20,578 5.72 536,028 $ 20,462 5.09
---------- -------- -------- --------- -------- -------
Non-interest-earning assets 35,339 32,457
---------- ---------
Total assets $ 514,720 $ 568,485
========== =========
Interest-bearing liabilities:
Deposits $ 350,701 $ 6,025 2.29 $ 348,445 $ 4,551 1.74
FHLBank advances and other borrowings 108,389 4,387 5.40 162,720 5,716 4.68
Junior subordinated debentures 21,508 1,447 8.97 21,544 1,328 8.22
---------- -------- --------- --------
Total interest-bearing liabilities 480,598 11,859 3.29 532,709 11,595 2.90
---------- -------- -------- --------- -------- -------
Interest rate spread 2.43% 2.19%
======== =======
Non-interest-bearing liabilities 6,352 6,007
---------- ---------
Total liabilities 486,950 538,716
Stockholders' equity 27,770 29,769
---------- ---------
Total liabilities and stockholders'equity $ 514,720 $ 568,485
========== =========
Net interest-earning assets (liabilities) $ (1,217) $ 3,319
========== =========
Net interest income $ 8,719 $ 8,867
======== ========
Net interest margin(3) 2.43% 2.21%
======== =======
Ratio of average interest-earning
assets to average interest-bearing
liabilities 99.75% 100.62%
======== =======
- ---------------------
(1) Includes non-accrual loans.
(2) Includes assets classified as either available for sale or held for sale.
(3) Net interest income divided by interest-earning assets.
(4) Presented on a tax-equivalent basis.
- 18 -
Although management believes that the above mentioned non-GAAP financial
measures enhance investor's understanding of the Company's business and
performance, these non-GAAP financial measures should not be considered an
alternative to GAAP. The reconciliation of these non-GAAP financial measures
from GAAP to non-GAAP is presented below.
FOR THE THREE MONTHS ENDED
---------------------------------------------
JUNE 30, 2006 JUNE 30, 2005
--------------------- ---------------------
AVERAGE AVERAGE
INTEREST YIELD/COST INTEREST YIELD/COST
(Dollars in thousands) -------- ---------- -------- ----------
Investment securities - nontaxable $ 583 5.15% $ 639 4.44%
Tax equivalent adjustments 85 84
------ -------
Investment securities - nontaxable to a
taxable equivalent yield $ 668 5.90% $ 723 5.03%
====== =======
Net interest income $2,843 $ 2,825
Tax equivalent adjustment 85 84
------ -------
Net interest income, tax equivalent $2,928 $ 2,909
====== =======
Net interest rate spread, no tax adjustment 2.35% 2.08%
Net interest margin, no tax adjustment 2.34% 2.10%
FOR THE NINE MONTHS ENDED
----------------------------------------------
JUNE 30, 2006 JUNE 30, 2005
--------------------- ----------------------
AVERAGE AVERAGE
INTEREST YIELD/COST INTEREST YIELD/COST
(Dollars in thousands) -------- ---------- -------- -----------
Investment securities - nontaxable $1,750 5.06% $2,147 4.44%
Tax equivalent adjustments 258 261
------ ------
Investment securities - nontaxable to a
taxable equivalent yield $2,008 5.80% $2,408 4.98%
====== ======
Net interest income $8,461 $8,606
Tax equivalent adjustment 258 261
------ ------
Net interest income, tax equivalent $8,719 $8,867
====== ======
Net interest rate spread, no tax adjustment 2.36% 2.12%
Net interest margin, no tax adjustment 2.35% 2.14%
PROVISION FOR LOAN LOSSES.
Provisions for loan losses are charged to earnings to maintain the total
allowance for loan losses at a level believed by management sufficient to cover
all known and inherent losses in the loan portfolio which are both probable and
reasonably estimable. Management's analysis includes consideration of the
Company's historical experience, the volume and type of lending conducted by the
Company, the amount of the Company's classified assets, the status of past due
principal and interest payments, general economic conditions, particularly as
they relate to the Company's primary market area, and other factors related to
the collectibility of the Company's loan and loans held for sale portfolios.
For the three months ended June 30, 2006 and 2005, the provision for loan losses
amounted to $81,000 and $1.6 million, respectively. For the three months ended
June 30, 2006, the $81,000 provision for loan losses reflected the analysis of
the $45,000 of net charge-offs incurred during the quarter combined with an
increase in the allowance for loan losses to the level deemed appropriate by
management based on the Company's overall portfolio review. The $1.6 million
provision for loan losses in the 2005 period reflected the establishment of a
reserve for a large commercial real estate loan (which was transferred to real
estate owned in March 2006 and which is discussed below) as well as increases
deemed necessary due to various factors including the level of non-performing
loans and the changing nature of the commercial and multi-family real estate and
commercial business portfolios. The Company focuses on its loan portfolio
management and credit review process to address the risk profile of the
portfolio and
- 19 -
manage troubled credits. This analysis includes evaluations of concentrations of
credit, past loss experience, current economic conditions, the amount and
composition of the loan portfolio, the estimated fair value of underlying
collateral, loan commitments outstanding, delinquencies and other factors.
For the nine months ended June 30, 2006 and 2005, the provision for loan losses
amounted to $651,000 and $1.7 million, respectively. The $651,000 provision for
loan losses for the nine month period in 2006 was primarily due to net
charge-offs totaling $1.2 million incurred during the fiscal year primarily
related to the write down to fair value of a property securing a $3.3 million
commercial real estate loan and a related $500,000 commercial business loan as
well as a determination that an additional provision was required as a result of
the continual evaluation of the classified and pass loan portfolios in order to
maintain the overall allowance for loan losses at a level deemed appropriate.
The coverage ratio, which is the ratio of the allowance for loan losses to
non-performing loans, was 637.18% and 72.38% at June 30, 2006 and September 30,
2005, respectively.
At June 30, 2006, non-performing assets decreased $2.6 million to $3.2 million,
or 0.60%, of total assets, from $5.8 million at September 30, 2005. The decrease
in non-performing assets was primarily the result of a $4.6 million decrease to
$460,000 in non-performing loans partially offset by a $1.9 million increase to
$2.7 million in real estate owned. The decrease in non-performing loans was
primarily due to the transfer of a $3.3 million commercial real estate loan to
real estate owned and the charge-off in full of a related $500,000 commercial
business loan combined with the repayment in full of a $770,000 residential
construction loan. During the second quarter of fiscal 2006, the Company
transferred to real estate owned a property located in Chesapeake City, Maryland
that secured a $3.3 million commercial real estate loan as a result of the
Company taking possession of the property. The Company also had a $500,000
commercial business loan outstanding in connection with this loan relationship.
The Company previously allocated reserves of $959,000 for this lending
relationship as of the quarter ended June 30, 2005. In connection with the
property's transfer to real estate owned, the Company recorded the property at
its approximate fair value of $2.7 million. As a result of the transfer of the
property to real estate owned and the charge-off of the commercial business
loan, the Company charged off $1.1 million against the allowance for loan losses
in the quarter ended March 31, 2006. Offsetting, in part, the increase in real
estate owned was the sale during the second quarter of fiscal 2006 of a
commercial property in which the Company held a 25% participation interest in a
golf facility. The sale of the property, which was carried at a value of
$760,000, resulted in a pre-tax gain of $158,000 during the second quarter of
fiscal 2006.
Management continues to review its loan portfolio to determine the extent, if
any, to which further additional loss provisions may be deemed necessary. There
can be no assurance that the allowance for losses will be adequate to cover
losses which may in fact be realized in the future and that additional
provisions for losses will not be required.
NON-INTEREST INCOME.
For the three months ended June 30, 2006, non-interest income decreased $15,000
or 2.2% to $668,000 as compared to the same period in 2005. The decrease for the
three months ended June 30, 2006 was primarily due to the Company experiencing
decreases of $26,000 and $9,000 on gain on sales of assets and other
non-interest income, respectively, as compared to the same period in 2005. The
decrease in non-interest income was partially offset by a $23,000, or 6.1%,
increase in service charges and other fees.
Non-interest income decreased $441,000 to $2.2 million for the nine months ended
June 30, 2006 by comparison to the same period last year. The decrease for the
nine months ended June 30, 2006 was primarily due to the Company's experiencing
only a $3,000 gain on sales of investment and mortgage-related securities in the
2006 period as compared to $539,000 for the same period in 2005. To a lesser
extent, non-interest income decreased due to a slower appreciation rate during
the first quarter of fiscal 2006 period in the cash surrender value of certain
insurance policies held by the Bank to fund certain supplemental retirement
benefits resulting in a decrease of $117,000 for the nine months ended June 30,
2006 compared to the same period in 2005. In addition, the $35,000 decrease in
the service charges and other fees was mainly due to a decrease in usage of a
deposit service provided to the Bank's checking accounts. The decreases in
various components of non-interest income were partially offset by a $91,000
increase in the gain on sale of loans of commercial business loans through the
Small Business Administration and by a $158,000 pre-tax gain on the sale of a
real estate owned property referenced above.
- 20 -
NON-INTEREST EXPENSE.
Non-interest expense increased $235,000, or 8.0%, during the three months ended
June 30, 2006 compared to the same period in 2005. The increase for the quarter
ended June 30, 2006 was primarily due to increases of $147,000, $26,000, $56,000
and $40,000 in professional fees, federal deposit insurance premiums, salaries
and employee benefits, and real estate operations, respectively, partially
offset by decreases of $11,000 and $60,000 in deposit processing and other
non-interest expense, respectively. Professional fees and federal deposit
insurance premiums were substantially higher in the 2006 period due to expenses
incurred relating to the supervisory agreements. In addition, professional fees
increased due to legal expenses incurred in connection with the commercial real
estate property discussed above which became real estate owned in March 2006.
The increase in real estate operations also was a result of expenses incurred in
connection with the same property. Salaries and employee benefits costs were
higher in the 2006 period due to additional personnel and related medical
benefits. Other non-interest expense decreased due to the completion of a
bank-wide customer service training program in October 2005 as well as decreases
in general administrative expenses.
For the nine months ended June 30, 2006, non-interest expense increased by
$204,000, or 2.2%, primarily due to increases of $439,000, or 55.6%, in
professional fees, partially offset by decreases of $181,000, or 3.9%, and
$211,000, or 15.1%, in salary and employee benefits and other non-interest
expense, respectively, compared to the same period in 2005. Regarding the
decrease in salaries and employee benefits, the 2005 period expenses were higher
due to certain costs incurred as part of a retirement package as well as
accruals for certain incentive programs. Other non-interest expense decreased
and professional fees increased due to the reasons described above.
INCOME TAX BENEFIT.
The Company recognized income tax benefits of $19,000 and $89,000 for the three
and nine months ended June 30, 2006, respectively as compared to income tax
benefits of $470,000 and $190,000, respectively, for the same periods in 2005.
The decrease in the amount of the income tax benefits for the three and nine
months ended June 30, 2006 compared to the same periods in 2005 was primarily
related to the increase in pre-tax income for such periods.
LIQUIDITY AND CAPITAL RESOURCES.
The Company's liquidity, represented by cash and cash equivalents, is a product
of its operating, investing and financing activities. The Company's primary
sources of funds are deposits, amortization, prepayment and maturities of
outstanding loans and mortgage-related securities, sales of loans, maturities of
investment securities and other short-term investments, borrowing and funds
provided from operations. While scheduled payments from the amortization of
loans and mortgage-related securities and maturing investment securities and
short-term investments are relatively predictable sources of funds, deposit
flows and loan and mortgage-related securities prepayments are greatly
influenced by general interest rates, economic conditions and competition. In
addition, the Company invests excess funds in overnight deposits and other
short-term interest-earning assets which provide liquidity to meet lending
requirements. The Company has been able to generate sufficient cash through its
deposits as well as borrowings to satisfy its funding commitments. At June 30,
2006, the Company had short-term borrowings (due within one year or currently
callable by FHLBank) outstanding of $116.1 million, all of which consisted of
advances from FHLBank Pittsburgh.
Liquidity management is both a daily and long-term function of business
management. Excess liquidity is generally invested in short-term investments
such as overnight deposits. On a longer term basis, the Company maintains a
strategy of investing in various lending products, mortgage-related securities
and investment securities. The Company uses its sources of funds primarily to
meet its ongoing commitments, to fund maturing certificates of deposit and
savings withdrawals, fund loan commitments and maintain a portfolio of
mortgage-related and investment securities. At June 30, 2006, total approved
loan commitments outstanding amounted to $6.3 million, not including loans in
process. At the same date, commitments under unused lines of credit amounted to
$41.0 million. Certificates of deposit scheduled to mature in one year or less
at June 30, 2006 totaled $116.2 million. Based upon the Company's historical
experience, management believes that a significant portion of maturing deposits
will remain with the Company.
- 21 -
The Bank is required under applicable federal banking regulations to maintain
tangible capital equal to at least 1.5% of its adjusted total assets, core
capital equal to at least 4.0% of its adjusted total assets and total capital to
at least 8.0% of its risk-weighted assets. At June 30, 2006, the Bank had
tangible capital and core capital equal to 8.9% of adjusted total assets and
total capital equal to 14.6% of risk-weighted assets. Under the terms of the
supervisory agreement discussed above in "Supervisory Agreements," the Bank is
required to maintain core and risk-based capital in excess of 7.5% and 12.5%,
respectively. The Bank is in compliance with such requirements imposed by the
supervisory agreement. In addition, as a result of entering into such agreement,
the Bank is no longer deemed to be "well-capitalized" for purposes of the prompt
corrective action regulations of the OTS.
IMPACT OF INFLATION AND CHANGING PRICES.
The unaudited consolidated financial statements of the Company and related notes
presented herein have been prepared in accordance with generally accepted
accounting principles which requires the measurement of financial position and
operating results in terms of historical dollars, without considering changes in
the relative purchasing power of money over time due to inflation.
Unlike most industrial companies, substantially all of the assets and
liabilities of a financial institution are monetary in nature. As a result,
interest rates have a more significant impact on a financial institution's
performance than the effects of general levels of inflation. Interest rates do
not necessarily move in the same direction or in the same magnitude as the price
of goods and services, since such prices are affected by inflation to a larger
extent than interest rates. In the current interest rate environment, careful
management of the level of liquidity and the maturity structure of the Company's
assets and liabilities are critical to the maintenance of acceptable performance
levels.
- 22 -
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
For a discussion of the Company's asset and liability management policies, see
"Management's Discussion and Analysis of Financial Condition and Results of
Operation" in the Company's Annual Report for the year ended September 30, 2005.
The Company utilizes reports prepared by the OTS to measure interest rate risk.
Using data from the Bank's quarterly thrift financial reports, the OTS models
the net portfolio value ("NPV") of the Bank over a variety of interest rate
scenarios. The NPV is defined as the present value of expected cash flows from
existing assets less the present value of expected cash flows from existing
liabilities plus the present value of net expected cash inflows from existing
off-balance sheet contracts. The model assumes instantaneous, parallel shifts in
the U.S. Treasury Securities yield curve up to 300 basis points, and a decline
of 200 basis points.
The interest rate risk measures used by the OTS include an "Exposure Measure" or
"Post-Shock" NPV ratio and a "Sensitivity Measure". The "Post-Shock" NPV ratio
is the net present value as a percentage of assets over the various yield curve
shifts. A low "Post-Shock" NPV ratio indicates greater exposure to interest rate
risk and can result from a low initial NPV ratio or high sensitivity to changes
in interest rates. The "Sensitivity Measure" is the decline in the NPV ratio, in
basis points, caused by a 2% increase or decrease in rates, whichever produces a
larger decline. The following sets forth the Bank's NPV as of June 30, 2006.
Net Portfolio Value
(Dollars in thousands)
- ------------------------------------------------------------------------------
Changes in Net
Rates in Dollar Percentage Portfolio Value As
Basis Points Amount Change Change a % of Assets Change
- ------------ ------- -------- ---------- ------------------ --------
300 $39,289 $(25,882) (40)% 7.69% (435) bp
200 48,313 (16,858) (26) 9.28 (276) bp
100 57,355 (7,816) (12) 10.80 (124) bp
0 65,171 -- -- 12.04 --
(100) 70,539 5,368 8 12.83 78 bp
(200) 72,719 7,548 12 13.07 102 bp
As of June 30, 2006, the Bank's NPV was $65.2 million or 12.04% of the market
value of assets. Following a 200 basis point increase in interest rates, the
Bank's "post shock" NPV was $48.3 million or 9.28% of the market value of
assets. The change in the NPV ratio or the Bank's sensitivity measure was
(2.76)%.
The above NPV analysis only includes the assets and liabilities of the Bank.
Inclusion of Company-only assets and liabilities would have a non-material
effect on the results presented.
ITEM 4. CONTROLS AND PROCEDURES
Our management evaluated, with the participation of our Chief Executive Officer
and Chief Financial Officer, the effectiveness of our disclosure controls and
procedures (as defined in Rule 13a-15(e) or Rule 15d-15(e) under the Securities
Exchange Act of 1934) as of the end of the period covered by this report. Based
on such evaluation, our Chief Executive Officer and Chief Financial Officer have
concluded that our disclosure controls and procedures are designed to ensure
that information required to be disclosed by us in the reports that we file or
submit under the Securities Exchange Act of 1934 is recorded, processed,
summarized and reported within the time periods specified in the SEC's rules and
regulations and are operating in an effective manner.
No change in our internal control over financial reporting (as defined in Rule
13a-15(f) or Rule 15d-15(f) under the Securities Exchange Act of 1934) occurred
during the most recent fiscal quarter that has materially affected, or is
reasonably likely to materially affect, our internal control over financial
reporting.
- 23 -
PART II
Item 1. Legal Proceedings
No material changes have occurred with respect to the legal
proceedings previously disclosed in Item 3 of the Company's Form
10-K for the year ended September 30, 2005.
Item 1A. Risk Factors
Not applicable
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
(a) - (b) Not applicable
(c) The Company does not have a repurchase program currently in
effect. In addition, pursuant to the terms of the supervisory
agreement between the Company and the OTS, the Company is not
permitted to repurchase shares of common stock. It is also not
permitted to pay dividends until the Company meets certain
limitations. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations - Supervisory
Agreements, in Part I hereof."
Item 3. Defaults Upon Senior Securities
(a) - (b) Not applicable
Item 4. Submission of Matters to a Vote of Security Holders
None
Item 5. Other Information
(a) - (b) Not applicable
Item 6. Exhibits
List of Exhibits
Exhibit
No Description
------- -----------
3.1 Amended and Restated Articles of Incorporation of
First Keystone Financial, Inc. 1
3.2 Amended and Restated Bylaws of First Keystone
Financial, Inc. 1
4.1 Specimen Stock Certificate of First Keystone
Financial, Inc. 1
4.2 Instrument defining the rights of security holders **
10.1 Employment Agreement between First Keystone
Financial, Inc. and Thomas M. Kelly dated December 1,
2004. 2,*
10.2 Severance Agreement between First Keystone Financial,
Inc. and Elizabeth M. Mulcahy dated December 1, 2004.
2,*
10.3 Severance Agreement between First Keystone Financial,
Inc. and Carol Walsh dated December 1, 2004. 2,*
10.4 1995 Stock Option Plan. 3, *
10.5 1995 Recognition and Retention Plan and Trust
Agreement 4,*
10.6 1998 Stock Option Plan 4, *
10.7 Employment Agreement between First Keystone Bank and
Thomas M. Kelly dated December 1, 2004 2, *
10.8 Severance Agreement between First Keystone Bank and
Elizabeth M. Mulcahy dated December 1, 2004 2, *
10.9 Severance Agreement between First Keystone Bank and
Carol Walsh dated December 1, 2004 2, *
- 24 -
10.10 First Keystone Bank Supplemental Executive Retirement
Plan 5,*
10.11 Consulting Agreement between First Keystone Bank and
Edmund Jones 6,*
10.12 Amendment No. 1 to the Employment Agreement between
First Keystone Financial, Inc. and Thomas M. Kelly.
7,*
10.13 Amendment No. 1 to the Employment Agreement between
First Keystone Bank and Thomas M. Kelly. 7,*
10.14 Transition, Consulting, Noncompetition and Retirement
Agreement by and between First Keystone Financial,
Inc., First Keystone Bank and Donald S. Guthrie. 8,*
11 Statement re: computation of per share earnings. See
Note 6 to the Unaudited Consolidated Financial
Statements included in Item 1 hereof.
31.1 Section 302 Certification of Chief Executive Officer
31.2 Section 302 Certification of Chief Financial Officer
32.1 Certification of Chief Executive Officer pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002
32.2 Certification of Chief Financial Officer pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002
99.1 Code of Ethics 9
99.2 Supervisory Agreement between First Keystone
Financial, Inc. and the Office of Thrift Supervision
dated February 13, 2006 10
99.3 Supervisory Agreement between First Keystone Bank and
the Office of Thrift Supervision dated February 13,
2006 10
- ------------
(1) Incorporated by reference from the Registration Statement on Form S-1
(Registration No. 33-84824) filed by the Registrant with the SEC on
October 6, 1994, as amended.
(2) Incorporated by reference from Exhibits 10.5, 10.6, 10.8, 10.14, 10.15
and 10.16, respectively, in the Form 8-K filed by the Registrant with
the SEC on December 7, 2004 (File No. 000-25328).
(3) Incorporated by reference from Exhibit 10.9 in the Form 10-K for the
year ended September 30, 1995 filed by the Registrant with SEC on
December 29, 1995 (File No. 000-25328).
(4) Incorporated from Appendix A of the Registrant's definitive proxy
statement dated December 24, 1998 (File No. 000-25328).
(5) Incorporated by reference from Exhibit 10.17 in the Form 10-Q for the
quarter ended June 30, 2004 filed by the Registrant with the SEC on May
17, 2004.
(6) Incorporated by reference from Exhibit 10.18 in the Form 10-K for the
year ended September 30, 2004 filed by the Registrant with the SEC on
December 29, 2004.
(7) Incorporated by reference from Exhibits 10.19 and 10.20, respectively,
in the Form 8-K filed by the Registrant with the SEC on March 29, 2005.
(8) Incorporated by reference from Exhibit 10.21 in the Form 8-K filed by
the Registrant with the SEC on March 29, 2005.
(9) Incorporated by reference from the Form 10-K for the year ended
September 30, 2004 filed by the Registrant with the SEC on December 23,
2004.
(10) Incorporated by reference from the Form 10-Q for the quarter ended
December 31, 2005 filed by the Registrant with the SEC on February 14,
2006.
(*) Consists of a management contract or compensatory plan
(**) The Company has no instruments defining the rights of holders of
long-term debt where the amount of securities authorized under such
instrument exceeds 10% of the total assets of the Company and its
subsidiaries on a consolidated basis. The Company hereby agrees to
furnish a copy of any such instrument to the SEC upon request.
- 25 -
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
FIRST KEYSTONE FINANCIAL, INC.
Date: August 14, 2006 By: /s/ Thomas M. Kelly
-----------------------------------------
Thomas M. Kelly
President and Chief Executive Officer
Date: August 14, 2006 By: /s/ Rose M. DiMarco
-----------------------------------------
Rose M. DiMarco
Chief Financial Officer
- 26 -