1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[ X ] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended September 30, 2005
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from _____________ to ______________.
Commission file number: 0-26467
GREATER ATLANTIC FINANCIAL CORP.
--------------------------------
(Exact Name of Registrant as Specified in its Charter)
DELAWARE 54-1873112
-------- ----------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
10700 Parkridge Boulevard, Suite P50, Reston, Virginia 20191
------------------------------------------------------ -----
(Address of Principal Executive Offices) (Zip Code)
703-391-1300
------------
(Registrant's Telephone Number, Including Area Code)
Securities registered pursuant to Section 12 (b) of the Act:
None
Securities registered pursuant to Section 12 (g) of the Act:
Common Stock, par value $.01 per share
(Title of class)
Indicate by check mark if the registrant is a well-known seasoned issuer, as
defined in Rule 405 of the Securities Act. Yes [ ] No [ X ].
Indicate by check mark if the registrant is not required to file reports
pursuant to Section 13 of Section 15(d) of the Act. Yes [ ] No [ X ].
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [ X ] No [ ]
Indicate by check mark whether disclosure of delinquent filers pursuant to Item
405 of Regulation S-K (ss.299.405 of this chapter) is not contained herein, and
will not be contained, to the best of registrant's knowledge, in definitive
proxy or information statements incorporated by reference in Part III of this
Form 10-K or any amendment to this Form 10-K. [ X ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act. Yes [ ]. No [ X ].
The aggregate market value of the voting and non-voting common equity held by
non-affiliates of the Registrant computed by reference to the price at which the
common equity was sold, or the average bid and asked prices of such stock, as of
the last business day of the registrant's most recently completed second fiscal
quarter was $19.0 million.
Indicate by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act). Yes [ ] No [ X ]
As of December 19, 2005, there were 3,020,934 shares of the registrant's Common
Stock, par value $0.01 per share, outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
None
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INDEX
PART I Page
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Item 1. Business....................................................................................... 3
Description of Business........................................................................ 3
Market Area and Competition.................................................................... 3
Market Risk.................................................................................... 3
Lending Activities............................................................................. 3
Mortgage Banking Activities.................................................................... 7
Asset Quality.................................................................................. 8
Allowance for Loan Losses...................................................................... 9
Investment Activities.......................................................................... 11
Sources of Funds............................................................................... 14
Subsidiary Activities.......................................................................... 16
Personnel...................................................................................... 16
Regulation and Supervision..................................................................... 17
Federal and State Taxation..................................................................... 22
Item 1A. Risk Factors................................................................................... 22
Item 1B. Unresolved Staff Comments...................................................................... 23
Item 2. Properties..................................................................................... 24
Item 3. Legal Proceedings.............................................................................. 24
Item 4. Submission of Matters to a Vote of Security Holders............................................ 24
PART II
Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of
Equity Securities.............................................................................. 25
Item 6. Selected Financial Data........................................................................ 26
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operation........... 28
Item 7A. Quantitative and Qualitative Disclosures About Market Risk..................................... 43
Item 8. Consolidated Financial Statements and Supplementary Information................................ 43
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure........... 43
Item 9A. Controls and Procedures........................................................................ 43
Item 9B. Other Information.............................................................................. 44
PART III
Item 10. Directors and Executive Officers of the Registrant............................................. 44
Item 11. Executive Compensation......................................................................... 46
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters. 48
Item 13. Certain Relationships and Related Transactions................................................. 51
Item 14. Principal Accountant Fees and Services......................................................... 51
PART IV
Item 15. Exhibits and Financial Statement Schedules..................................................... 51
Signatures ............................................................................................... 52
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PART I
ITEM 1. BUSINESS
DESCRIPTION OF BUSINESS
We are a savings and loan holding company which was organized in June
1997. We conduct substantially all of our business through our wholly-owned
subsidiary, Greater Atlantic Bank ("Bank"), a federally-chartered savings bank,
and its wholly-owned subsidiary, Greater Atlantic Mortgage Corporation ("Greater
Atlantic Mortgage"). We offer traditional banking services to customers through
our bank branches located throughout the greater Washington, DC/Baltimore
metropolitan area. We also originate mortgage loans for sale in the secondary
market through Greater Atlantic Mortgage. We established the Greater Atlantic
Capital Trust I ("Trust") in January 2002 to issue certain convertible preferred
securities which we completed in March 2002.
MARKET AREA AND COMPETITION
We operate in a competitive environment, competing for deposits and
loans with other thrifts, commercial banks and other financial entities.
Numerous mergers and consolidations involving banks in the market in which we
operate have occurred resulting in an intensification of competition in the
banking industry in our geographic market. Many of the financial intermediaries
operating in our market area offer certain services, such as trust, investment
and international banking services, which we do not offer. In addition, banks
with a larger capitalization than ours, and financial intermediaries not subject
to bank regulatory restrictions, have larger lending limits and are thereby able
to serve the needs of larger customers.
MARKET RISK
Market risk is the risk of loss from adverse changes in market prices
and rates. Our market risk arises primarily from interest-rate risk inherent in
our lending and deposit taking activities. To that end, management actively
monitors and manages interest-rate risk exposure. The measurement of market risk
associated with financial instruments is meaningful only when all related and
offsetting on- and off-balance-sheet transactions are aggregated, and the
resulting net positions are identified. Disclosures about the fair value of
financial instruments, which reflect changes in market prices and rates, can be
found in Note 16 of Notes to Consolidated Financial Statements.
Our primary objective in managing interest-rate risk is to minimize the
adverse impact of changes in interest rates on our net interest income and
capital, while adjusting our asset-liability structure to obtain the maximum
yield-cost spread on that structure. We rely primarily on our asset-liability
structure to control interest-rate risk. However, a sudden and substantial
increase in interest rates may adversely impact our earnings, to the extent that
the interest rates borne by assets and liabilities do not change at the same
speed, to the same extent, or on the same basis.
LENDING ACTIVITIES
GENERAL. Net loans receivable at September 30, 2005 were $194.9
million, a decrease of $51.5 million or 20.89% from the $246.4 million held at
September 30, 2004. The decrease in loans consisted of real estate loans secured
by first mortgages on residential properties, commercial business loans,
consumer, and construction and land loans, offset by an increase in commercial
real estate loans. Loans held for sale, net, amounted to $9.5 million at
September 30, 2005 compared to $5.5 million at September 30, 2004, an increase
of $4.0 million. That increase resulted primarily from loan originations
exceeding the sale of loans by Greater Atlantic Mortgage.
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The following table shows the bank's loan originations, purchases, sales and principal repayments during the periods
indicated:
Year Ended September 30,
-----------------------------------------
2005 2004 2003
---------------------------------------------------------------------------------------------------------
(In Thousands)
Total loans at beginning of period (1) $ 262,599 $ 257,247 $ 273,646
Originations of loans for investment:
Single-family residential 6,624 16,202 58,245
Multifamily - 145 1,465
Commercial real estate 9,977 11,265 14,819
Construction 19,991 17,405 8,489
Land loans 10,530 11,543 11,108
Second trust - - -
Commercial business 21,083 38,345 31,790
Consumer 44,205 50,937 49,975
---------------------------------------------------------------------------------------------------------
Total originations and purchases for investment 112,410 145,842 175,891
Loans originated for resale by Greater Atlantic Bank - - -
Loans originated for resale by Greater Atlantic Mortgage 276,038 402,988 722,121
---------------------------------------------------------------------------------------------------------
Total originations 388,448 548,830 898,012
Repayments (154,263) (139,466) (184,386)
Sale of loans originated for resale by Greater Atlantic Bank - - -
Sale of loans originated for resale by Greater Atlantic Mortgage (272,050) (404,013) (730,025)
---------------------------------------------------------------------------------------------------------
Net activity in loans (37,865) 5,351 (16,399)
---------------------------------------------------------------------------------------------------------
Total loans at end of period (1) $ 224,733 $ 262,598 $ 257,247
=========================================================================================================
(1) Includes loans held for sale of $9.5 million and $5.5 million at
September 30, 2005 and 2004, respectively.
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LOAN PORTFOLIO. The following table sets forth the composition of the bank's loan portfolio in dollar
amounts and as a percentage of the portfolio at the dates indicated.
At September 30,
----------------------------------------------------------------------------------------
2005 2004 2003 2002 2001
----------------- ----------------- ----------------- ---------------- ----------------
Amount Percent Amount Percent Amount Percent Amount Percent Amount Percent
----------------------------------------------------------------------------------------
(Dollars in Thousands)
Mortgage loans:
Single-family (1) $ 41,434 19.25% $ 74,620 29.02% $ 95,818 38.20% $122,143 47.11% $ 84,570 47.84%
Multi-family 751 0.35 1,074 0.42 1,445 0.58 536 0.21 634 0.36
Construction 24,273 11.28 16,696 6.49 11,996 4.78 18,993 7.32 19,110 10.81
Commercial real estate 25,531 11.86 23,023 8.95 20,533 8.19 18,932 7.30 17,977 10.17
Land 18,421 8.55 20,668 8.04 17,258 6.88 9,947 3.84 5,431 3.07
-------- ------ -------- ------ -------- ------ -------- ------ -------- ------
Total mortgage loans 110,410 51.29 136,081 52.92 147,050 58.63 170,551 65.78 127,722 72.25
-------- ------ -------- ------ -------- ------ -------- ------ -------- ------
Commercial business and consumer loans:
Commercial business 35,458 16.47 47,654 18.53 39,043 15.57 28,880 11.14 11,675 6.61
Consumer:
Home equity 69,006 32.06 72,814 28.32 63,888 25.47 58,531 22.58 35,353 20.00
Automobile 100 .05 271 0.11 428 0.17 771 0.30 1,269 0.72
Other 274 .13 315 0.12 409 0.16 533 0.20 750 0.42
-------- ------ -------- ------ -------- ------ -------- ------ -------- ------
Total commercial business
and consumer loans 104,838 48.71 121,054 47.08 103,768 41.37 88,715 34.22 49,047 27.75
-------- ------ -------- ------ -------- ------ -------- ------ -------- ------
Total loans 215,248 100.00% 257,135 100.00% 250,818 100.00% 259,266 100.00% 176,769 100.00%
====== ====== ====== ====== ======
Less:
Allowance for loan losses (1,212) (1,600) (1,550) (1,699) (810)
Loans in process (20,386) (10,453) (8,394) (11,103) (11,756)
Unearned premium 1,270 1,305 1,379 1,617 400
-------- -------- -------- -------- --------
Loans receivable, net $194,920 $246,387 $242,253 $248,081 $164,603
======== ======== ======== ======== ========
(1) Includes loans secured by second trusts on single-family residential
property.
LOAN MATURITY. The following table shows the remaining contractual
maturity of the bank's total loans at September 30, 2005. Loans that have
adjustable rates are shown as amortizing when the interest rates are next
subject to change. The table does not include the effect of future principal
prepayments.
At September 30, 2005
---------------------------------------------------------------
Multi- Commercial
One- to Family and Business
Four- Commercial and Total
Family Real Estate Consumer Loans
---------------------------------------------------------------------------------------------------------
(In Thousands)
Amounts due in:
One year or less $ 33,335 $ 14,230 $ 85,619 $133,184
After one year:
More than one year to three years 9,569 1,711 2,936 14,216
More than three years to five years 4,244 6,391 4,626 15,261
More than five years to 15 years 3,825 8,825 5,921 18,571
More than 15 years 7,893 - 5,737 13,630
---------------------------------------------------------------------------------------------------------
Total amount due $ 58,866 $ 31,157 $ 104,839 $194,862
=========================================================================================================
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The following table sets forth, at September 30, 2005, the dollar
amount of loans contractually due after September 30, 2006, identifying whether
such loans have fixed interest rates or adjustable interest rates. At September
30, 2005, the bank had $18.9 million of construction, acquisition and
development, land and commercial business loans that were contractually due
after September 30, 2006.
Due After September 30, 2006
-----------------------------------------------
Fixed Adjustable Total
------------------------------------------------------------------------------------------------------------
(In Thousands)
Real estate loans:
One- to four-family $11,892 $13,640 $25,532
Multi-family and commercial 9,944 6,983 16,927
------------------------------------------------------------------------------------------------------------
Total real estate loans 21,836 20,623 42,459
Commercial business and consumer loans 8,262 10,957 19,219
------------------------------------------------------------------------------------------------------------
Total loans $30,098 $31,580 $61,678
============================================================================================================
ONE- TO FOUR-FAMILY MORTGAGE LENDING. The bank currently offers both
fixed-rate and adjustable-rate mortgage ("ARM") loans with maturities of up to
30 years secured by single-family residences, which term includes real property
containing from one to four residences. At September 30, 2005, the bank's one-
to four-family mortgage loans totaled $41.4 million, or 19.25% of total loans.
Of the one- to four-family mortgage loans outstanding at that date, 28.91% were
fixed-rate loans and 71.09% were ARM loans.
CONSTRUCTION AND DEVELOPMENT LENDING. The bank originates construction
and development loans primarily to finance the construction of one- to
four-family, owner-occupied residential real estate properties located in the
bank's primary market area. The bank also originates land loans to local
contractors and developers for the purpose of making improvements thereon,
including small residential subdivisions in the bank's primary market area or
for the purpose of holding or developing land for sale. At September 30, 2005,
construction and development loans (including land loans) totaled $42.7 million,
or 19.83%, of the bank's total loans, of which, land loans totaled $18.4 million
or 8.55% of total loans. Such loans are secured by a lien on the property, are
limited to 75% of the lower of the acquisition price or the appraised value of
the land and have a term of up to three years with a floating interest rate
generally based on the prime rate as reported in THE WALL STREET Journal. All
the bank's land loans are secured by property in its primary market area.
MULTI-FAMILY AND COMMERCIAL REAL ESTATE LENDING. The bank originates
multi-family and commercial real estate loans that are generally secured by five
or more unit apartment buildings and properties used for business purposes such
as small office buildings or retail facilities located primarily in the bank's
market area. The bank's multi-family and commercial real estate underwriting
policies provide that such real estate loans may be made in amounts of up to
75-80% of the appraised value of the property. The bank's multi-family and
commercial real estate loan portfolio at September 30, 2005 was $26.3 million,
or 12.21% of total loans. The largest multi-family or commercial real estate
loan in the bank's portfolio at September 30, 2005, consisted of two $4.0
million commercial real estate loans secured by real property in South Carolina
and Wisconsin. The Wisconsin property is a skilled nursing facility in which the
bank has a $1 million participation in the $5 million note to another bank. The
South Carolina property is also a skilled nursing facility in which we are a
participant with another bank.
COMMERCIAL BUSINESS LENDING. At September 30, 2005, the bank had $35.5
million in commercial business loans which amounted to 16.47% of total loans.
The bank makes commercial business loans primarily in its market area to a
variety of professionals, sole proprietorships and small businesses. The bank
offers a variety of commercial lending products, including term loans for fixed
assets and working capital, revolving lines of credit and letters of credit.
Term loans are generally offered with initial fixed rates of interest for the
first five years and with terms of up to 7 years. Business lines of credit have
adjustable rates of interest and are payable on demand, subject to annual review
and renewal. Business loans with variable rates of interest adjust on a monthly
basis and are generally indexed to the prime rate as published in THE WALL
STREET JOURNAL.
CONSUMER LENDING. Consumer loans at September 30, 2005 amounted to
$69.4 million or 32.24% of the bank's total loans, and consisted primarily of
home equity loans, home equity lines of credit, and, to a significantly lesser
extent, secured and unsecured personal loans and loans on new and used
automobiles. These loans are generally made to residents of the bank's primary
market area and generally are secured by real estate, deposit accounts and
automobiles. These loans are typically shorter term and generally have higher
interest rates than one- to four-family mortgage loans.
The bank offers home equity loans and home equity lines of credit
(collectively, "home equity loans"). Most of the bank's home equity loans are
secured by second mortgages on one- to four-family residences located in the
bank's primary market area. At September 30, 2005, these loans totaled $69.0
million or 32.06% of the bank's total loans and 65.82% of commercial business
and consumer loans. Other types of consumer loans, primarily consisting of
secured and unsecured personal loans and new and used automobile loans, totaled
$374,000, or 0.18% of the bank's total loans and 0.36% of commercial business
and consumer loans at September 30, 2005.
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MORTGAGE BANKING ACTIVITIES
GENERAL.
The bank's mortgage banking activities primarily consist of mortgage
loans secured by single-family properties. Mortgage banking involves the
origination and sale of mortgage loans for the purpose of generating gains on
sale of loans and fee income on the origination of loans, in addition to loan
interest income. Given current pricing in the mortgage markets, the bank
generally sells the majority of its loans on a servicing-released basis.
Generally, the level of loan sale activity and, therefore, its contribution to
the bank's profitability depends on maintaining a sufficient volume of loan
originations. Changes in the level of interest rates and the local economy
affect the number of loans originated by the bank and, thus, the amount of loan
sales, net interest income and loan fees earned. In recent years, the volume of
Greater Atlantic Mortgage Corporation's originations has been declining,
resulting in losses from mortgage banking operations, which, pursuant to
agreement, the manager had agreed to fund. Greater Atlantic Mortgage originated
$276.0 million, $403.0 million and $722.1 million of loans for sale during
fiscal 2005, 2004 and 2003, respectively and sold $272.1 million, $404.0 million
and $730.0 million of loans during fiscal 2005, 2004 and 2003, respectively.
The bank requires evidence of marketable title, lien position,
loan-to-value, a title insurance policy and appraisals on all properties. The
bank also requires evidence of fire and casualty insurance on the value of
improvements. As stipulated by federal regulations, the bank requires flood
insurance to protect the property securing its interest if such property is
located in a designated flood area.
LOAN COMMITMENTS AND RATE LOCKS
Greater Atlantic Mortgage issues commitments for residential mortgage
loans conditioned upon the occurrence of certain events. Such commitments are
made with specified terms and conditions. Interest rate locks are generally
offered to prospective borrowers for up to a 60-day period. The borrower may
lock in the rate at any time from application until the time they wish to close
the loan. The outstanding commitments of Greater Atlantic Mortgage to originate
loans to be held for sale were $26.5 million at September 30, 2005. When Greater
Atlantic Mortgage issues a commitment to a borrower, there is a risk that a rise
in interest rates will reduce the value of the mortgage before it can be closed
and sold. To control the interest rate risk caused by mortgage banking
activities, the bank uses forward loan sale agreements.
DERIVATIVE ACTIVITIES
Mortgage banking involves the risk that a rise in interest rates will
reduce the value of a mortgage before it can be sold. This type of risk occurs
when a mortgage company commits to an interest rate lock on a borrower's
application during the origination process and interest rates increase before
the loan can be sold. Such interest rate risk also arises when mortgages are
placed in the warehouse (i.e., held for sale) without locking in an interest
rate for their eventual sale in the secondary market. The bank seeks to control
or limit the interest rate risk caused by mortgage banking activities. The
method used to help reduce interest rate risk from its mortgage banking
activities are forward loan sale agreements. At various times, depending on loan
origination volume and management's assessment of projected loan fallout, the
Bank may reduce or increase its derivative positions.
Under forward loan sale agreements the mortgage company is obligated to
sell certain dollar amounts of mortgage loans that meet specific underwriting
and legal criteria before the expiration of the commitment period. These terms
include the maturity of the individual loans, the yield to the purchaser and the
maximum principal amount of the individual loans. Forward loan sales protect
loan sale prices from interest rate fluctuations that may occur from the time
the interest rate of the loan is fixed to the time of its sale. The amounts
contracted for delivery on the delivery date of the forward loan sale
commitments are based upon management's estimates as to the volume of loans that
will close and length of the origination commitment. However, because of the
possibility of fallout (i.e., the failure to close) during the origination
process forward loan sales do not provide complete interest-rate protection.
Differences between the estimated volume and timing of loan originations and the
actual volume and timing of loan originations can expose a mortgage company to
significant losses. If a mortgage company is not able to deliver the mortgage
loans during the appropriate delivery period, the mortgage company may be
required to pay a non-delivery fee or repurchase the delivery commitments at
current market prices. Similarly, if a mortgage company has too many loans to
deliver, the mortgage company must execute additional forward loan sale
commitments at current market prices, which may be unfavorable to the mortgage
company. Generally, Greater Atlantic Mortgage seeks to maintain forward loan
sale agreements equal to the closed loans held for sale plus those applications
that it has rate locked and/or committed to close, as adjusted by the projected
fallout. The ultimate accuracy of such projections will directly bear upon the
amount of interest rate risk incurred by the bank. For the year ended September
30, 2005, the mortgage company had a net gain of $2,000 attributable to the
underlying derivative financial instruments. At September 30, 2005, the mortgage
company had outstanding commitments to sell loans of $28.0 million and
commitments to originate loans of $26.5 million.
The activities described above are managed continually as markets
change; however, there can be no assurance that the bank will be successful in
its effort to eliminate the risk of interest rate fluctuations between the time
origination commitments are issued and the ultimate sale of the loan. The bank's
interest rate risk management activities are conducted in accordance with a
written policy that has been approved by the bank's board of directors, which
covers objectives, functions, instruments to be used, monitoring and internal
controls. The bank does not enter into option positions for trading or
speculative purposes and does not enter into option contracts that could
generate a financial obligation beyond the initial premium paid. The bank does
not apply hedge accounting to its derivative financial instruments; therefore,
all changes in fair value are recorded in earnings.
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ASSET QUALITY
DELINQUENT LOANS AND CLASSIFIED ASSETS. Reports listing all delinquent
accounts are generated and reviewed monthly by management and the board of
directors and all loans or lending relationships delinquent 30 days or more and
all real estate owned ("REO") are reviewed monthly by the board of directors.
The procedures taken by the bank with respect to delinquencies vary depending on
the nature of the loan, the length and cause of delinquency and whether the
borrower has previously been delinquent.
Federal regulations and the bank's Asset Classification Policy require
that the bank utilize an internal asset classification system as a means of
reporting problem and potential problem assets. The bank has incorporated the
internal asset classifications of the Office of Thrift Supervision (the "OTS")
as a part of its credit monitoring system. The bank currently classifies problem
and potential problem assets as "Substandard," "Doubtful" or "Loss" assets. An
asset is considered "Substandard" if it is inadequately protected by the current
net worth and paying capacity of the obligor or of the collateral pledged, if
any. "Substandard" assets include those characterized by the "distinct
possibility" that the insured institution will sustain "some loss" if the
deficiencies are not corrected. Assets classified as "Doubtful" have all of the
weaknesses inherent in those classified "Substandard" with the added
characteristic that the weaknesses present make "collection or liquidation in
full," on the basis of currently existing facts, conditions, and values, "highly
questionable and improbable." Assets classified as "Loss" are those considered
"uncollectible" and of such little value that their continuance as assets
without the establishment of a specific loss reserve is not warranted. Assets
which do not currently expose the insured institution to sufficient risk to
warrant classification in one of the aforementioned categories but possess
weaknesses are required to be designated "Special Mention."
The bank's management reviews and classifies the bank's assets on a
regular basis and the Board of Directors reviews management's reports on a
monthly basis. The bank classifies assets in accordance with the management
guidelines described above. At September 30, 2005, the bank had $1.6 million of
loans designated as Substandard which consisted of three commercial business
loan, four residential loans, one commercial real estate loan, one consumer
loan, two home equity loans, one land loan and one construction loan. At that
same date, the bank had $27,000 of assets classified as Doubtful, consisting of
one commercial business loan. At September 30, 2005, the bank had no loans
classified as Loss. As of September 30, 2005, the bank also had two residential
loan and one commercial real estate loan, totaling $1.9 million, designated as
Special Mention.
The following table sets forth delinquencies in the bank's loans as of
the dates indicated.
At September 30,
------------------------------------------------------------------------------------------------------------
2005 2004 2003
----------------------------------- ---------------------------------- ------------------------------------
60 - 89 Days 90 Days or More 60 - 89 Days 90 Days or More 60 - 89 Days 90 Days or More
------------------ ---------------- ----------------- ----------------- ----------------- ------------------
Number Principal Number Principal Number Principal Number Principal Number Principal Number Principal
of Balance of Balance of Balance of Balance of Balance of Balance
Loans of Loans Loans of Loans Loans of Loans Loans of Loans Loans of Loans Loans of Loans
-----------------------------------------------------------------------------------------------------------
(Dollars in Thousands)
Mortgage loans:
Single-family 2 $ 168 4 $ 10 - $ - 6 $ 563 2 $ 368 5 $ 637
Home equity - - 2 229 1 275 1 96 1 170 - -
Construction & Land - - 2 233 1 118 1 31 1 479 1 34
Commercial real estate - - 1 25 - - 1 29 - - 1 31
Commercial business - - 3 1,105 1 28 1 228 - - 2 744
Consumer - - 1 2 - - 1 6 1 9 - -
-------------------------------------------------------------------------------------------------------------------------------
Total 2 $ 168 13 $ 1,604 3 $ 421 11 $ 953 5 $ 1,026 9 $ 1,446
===============================================================================================================================
NON-PERFORMING ASSETS AND IMPAIRED LOANS. The following table sets
forth information regarding non-accrual loans and REO. The bank's policy is to
cease accruing interest on mortgage loans 90 days or more past due, to cease
accruing interest on consumer loans 60 days or more past due (unless the loan
principal and interest are determined by management to be fully secured and in
the process of collection), and to charge off any accrued and unpaid interest.
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9
At September 30,
--------------------------------------------
2005 2004 2003 2002 2001
-----------------------------------------------------------------------------------------------------------------
(Dollars in Thousands)
Loans accounted for on a non-accrual basis
Mortgage loans:
Single-family $ 10 $ 563 $ 637 $ 388 $ 340
Home equity 229 96 - - -
Commercial real estate 25 29 31 21 36
Construction and Land 233 31 34 - 122
Commercial business 1,105 228 716 45 -
Consumer 2 6 - - 8
-----------------------------------------------------------------------------------------------------------------
Total non-accrual loans 1,604 953 1,418 454 506
Accruing loans which are contractually past due 90 days or more - - 28 343 290
-----------------------------------------------------------------------------------------------------------------
Total of non-accrual and 90 days past due loans 1,604 953 1,446 797 796
Foreclosed real estate, net 232 - - - -
-----------------------------------------------------------------------------------------------------------------
Total non-performing assets $ 1,836 $ 953 $ 1,446 $ 797 $ 796
=================================================================================================================
Non-accrual loans as a percentage of loans 0.82% 0.39% 0.59% 0.18% 0.31%
held for investment, net
=================================================================================================================
Non-accrual and 90 days or more past due loans 0.82% 0.39% 0.60% 0.32% 0.48%
as a percentage of loans held for investment, net
=================================================================================================================
Non-accrual and 90 days or more past due loans 0.47% 0.22% 0.29% 0.16% 0.21%
as a percentage of total assets
=================================================================================================================
Non-performing assets as a percentage of total assets 0.54% 0.22% 0.29% 0.16% 0.21%
=================================================================================================================
During the year ended September 30, 2005, the amount of additional
interest income that would have been recognized on non-accrual loans if such
loans had continued to perform in accordance with their contractual terms was
$133,000.
ALLOWANCE FOR LOAN LOSSES
The allowance for loan losses is established through a provision for
loan losses based on management's evaluation of the risks inherent in its loan
portfolio and the general economy. The allowance for loan losses is maintained
at an amount management considers adequate to cover estimated losses in loans
receivable which are deemed probable and estimable based on information
currently known to management. The allowance is based upon a number of factors,
including current economic conditions, actual loss experience and industry
trends. In addition, various regulatory agencies, as an integral part of their
examination process, periodically review the bank's allowance for loan losses.
Such agencies may require the bank to make additional provisions for estimated
loan losses based upon their judgments about information available to them at
the time of their examination. There can be no assurance that the bank will not
sustain credit losses in future periods, which could be substantial in relation
to the size of the allowance. As of September 30, 2005, the bank's allowance for
loan losses amounted to $1.2 million or 0.56% of total loans. While the
allowance for loan losses to total non-performing loans at September 30, 2005 is
75.56%, the allowance as a percentage of total loans declined 6 basis points
when compared to September 30, 2004. A $219,000 provision for loan losses was
recorded during the year ended September 30, 2005, compared to a provision of
$209,000 during the year ended September 30, 2004. The increase in
non-performing assets from the year ago period was due to the non-performing
status of one of the bank's commercial business loans. The increase in provision
was due primarily to an increase in the required provision for that loan.
9
10
The following table sets forth activity in the bank's allowance for
loan losses for the periods indicated. Where specific loan loss reserves have
been established, any differences between the loss allowances and the amount of
loss realized has been charged or credited to current operations.
Year Ended September 30,
-----------------------------------------------------------
2005 2004 2003 2002 2001
----------------------------------------------------------------------------------------------------------------------------
(Dollars in Thousands)
Balance at beginning of period $ 1,600 $ 1,550 $ 1,699 $ 810 $ 765
Provisions 219 209 855 968 55
Dominion reserves - - - - 100
Charge-offs:
Mortgage loans:
Single-family 33 20 162 64 66
Commercial real estate - - 22 - -
Commercial business 584 177 828 7 53
Consumer 8 3 8 27 12
----------------------------------------------------------------------------------------------------------------------------
Total charge-offs 625 200 1,020 98 131
Recoveries:
Mortgage loans:
Single-family 2 29 6 12 21
Commercial real estate - - - - -
Commercial business 15 10 4 - -
Consumer 1 2 6 7 -
----------------------------------------------------------------------------------------------------------------------------
Total recoveries 18 41 16 19 21
Net charge-offs 607 159 1,004 79 110
----------------------------------------------------------------------------------------------------------------------------
Balance at end of period $ 1,212 $ 1,600 $ 1,550 $ 1,699 $ 810
============================================================================================================================
Ratio of net charge-offs during the period 0.28% 0.06% 0.36% 0.03% 0.07%
to average loans outstanding during the period
============================================================================================================================
Allowance for loan losses to total non-performing
loans at end of period 75.56% 167.89% 109.31% 374.23% 160.08%
============================================================================================================================
Allowance for loan losses to total loans 0.56% 0.62% 0.62% 0.66% 0.46%
============================================================================================================================
10
11
The following table sets forth the bank's allowance for loan losses in
each of the categories listed and the percentage of such amounts to the total
allowance and the percentage of such amounts to total loans. Management believes
that the allowance can be allocated by category only on an approximate basis.
The allocation of the allowance to each category is not necessarily indicative
of future losses and does not restrict the use of the allowance to absorb losses
in any other categories.
At September 30,
---------------------------------------------------------------------------------------------------
2005 2004 2003 2002 2001
------------------- ----------------- -------------------- -------------------- -------------------
Percent of Percent of Percent of Percent of Percent of
Loans in Loans in Loans in Loans in Loans in
Each Each Each Each Each
Category Category Category Category Category
to Total to Total to Total to Total to Total
Amount Loans Amount Loans Amount Loans Amount Loans Amount Loans
- -----------------------------------------------------------------------------------------------------------------------------------
(Dollars in Thousands)
Mortgage loans:
Single-family $ 35 19.25% $ 110 29.02% $ 141 38.20% $ 148 47.11% $ 95 47.84%
Multi-family 6 0.35 8 0.42 11 0.58 4 0.21 5 0.36
Construction 72 11.28 78 6.49 80 4.78 80 7.32 74 10.81
Commercial real estate 328 11.86 233 8.95 208 8.19 219 7.30 195 10.17
Land 155 8.55 175 8.04 132 6.88 72 3.84 53 3.07
- -----------------------------------------------------------------------------------------------------------------------------------
Total mortgage loans 596 51.29 604 52.92 572 58.63 523 65.78 422 72.25
- -----------------------------------------------------------------------------------------------------------------------------------
Commercial and Consumer:
Commercial 407 16.47 515 18.53 770 15.57 1,005 11.14 263 6.61
Consumer:
Home equity 195 32.06 213 28.32 159 25.47 151 22.58 88 20.00
Automobile 5 0.18 9 0.23 13 0.33 20 0.50 31 1.14
- -----------------------------------------------------------------------------------------------------------------------------------
Total commercial and
consumer 607 48.71 737 47.08 942 41.37 1,176 34.22 382 27.75
- -----------------------------------------------------------------------------------------------------------------------------------
Unallocated 9 N/A 259 N/A 36 N/A - N/A 6 N/A
- -----------------------------------------------------------------------------------------------------------------------------------
Total $1,212 100.00% $1,600 100.00% $1,550 100.00% $1,699 100.00% $810 100.00%
====================================================================================================================================
INVESTMENT ACTIVITIES
The investment policy of the bank, as approved by the board of
directors, requires management to maintain adequate liquidity and generate a
favorable return on investments, to complement the bank's lending activities
without incurring undue interest rate and credit risk. The bank primarily
utilizes investments in securities for liquidity management, as a source of
income and as a method of deploying excess funds not utilized for investment in
loans. Securities bought and held principally for sale in the near term,
generally within 90 days, are classified as trading.
At September 30, 2005, the bank had invested $57.3 million in
mortgage-backed securities, or 16.81% of total assets, of which $56.9 million
were classified as available-for-sale and $438,000 were classified as
held-to-maturity. Investments in mortgage-backed securities involve a risk that
actual prepayments will be greater than estimated prepayments over the life of
the security, which may require adjustments to the amortization of any premium
or accretion of any discount relating to such instruments thereby changing the
net yield on such securities. There is also reinvestment risk associated with
the cash flows from such securities or in the event such securities are redeemed
by the issuer. In addition, the market value of such securities may be adversely
affected by changes in interest rates.
11
12
The following table sets forth information regarding the amortized cost
and estimated market value of the bank's investment portfolio at the dates
indicated.
At September 30,
-------------------------------------------------------------------------------
2005 2004 2003
-------------------------- ------------------------ ---------------------------
Estimated Estimated Estimated
Amortized Market Amortized Market Amortized Market
Cost Value Cost Value Cost Value
---------------------------------------------------------------------------------------------------------------
(In Thousands)
Available-for-sale:
Corporate debt securities $ 6,736 $ 6,736 $ 3,923 $ 3,928 $ 2,892 $ 2,918
CMOs 14,446 14,454 9,812 9,823 8,805 8,792
U.S. Government SBA's 30,239 29,781 36,919 36,721 113,431 113,862
FHLMC MBS's 9,044 8,969 14,146 14,085 11,477 11,442
FNMA MBS's 35,548 34,947 61,195 60,302 70,684 70,355
GNMA MBS's 13,097 12,942 17,946 17,853 4,032 4,039
---------------------------------------------------------------------------------------------------------------
Total available-for-sale 109,110 107,829 143,941 142,712 211,321 211,408
---------------------------------------------------------------------------------------------------------------
Held-to-maturity:
Corporate debt securities 1,000 1,020 1,003 1,065 1,012 1,094
U.S. Government SBA's 6,531 6,213 8,810 8,427 11,465 11,121
FHLMC MBS's 236 235 245 247 444 455
FNMA MBS's 202 198 237 235 455 468
---------------------------------------------------------------------------------------------------------------
Total held-to-maturity 7,969 7,666 10,295 9,974 13,376 13,138
---------------------------------------------------------------------------------------------------------------
Total investment
securities $117,079 $115,495 $154,236 $152,686 $224,697 $224,546
===============================================================================================================
Investment securities with:
Fixed rates $ 1,000 $ 1,020 $ 1,003 $ 1,065 $ 1,012 $ 1,122
Adjustable rates 57,952 57,184 59,464 58,899 136,593 136,665
Mortgage-backed securities with:
Fixed rates 393 376 551 541 1,169 1,169
Adjustable rates 57,734 56,915 93,218 92,181 85,923 85,590
---------------------------------------------------------------------------------------------------------------
Total $117,079 $115,495 $154,236 $152,686 $224,697 $224,546
===============================================================================================================
As of September 30, 2005, the bank held investments in available for
sale with unrealized holding losses totaling $1.5 million, all losses are
considered other than temporary, consisting of the following:
Less than 12 months 12 months or more Total
-------------------------- ------------------------- --------------------------
Description of Securities Fair Unrealized Fair Unrealized Fair Unrealized
Value Losses Value Losses Value Losses
---------------------------------------------------------------------------------------------------------------
(In Thousands)
Corporate debt securities $ 5,018 $ 39 $ - $ - $ 5,018 $ 39
CMOs 6,234 25 - - 6,234 25
U.S. Government securities
SBA 21,960 570 - - 21,960 570
GNMA 12,942 155 - - 12,942 155
U.S. Government agency securities:
FHLMC MBS's 5,021 86 - - 5,021 85
FNMA MBS's 28,362 613 353 17 28,715 630
---------------------------------------------------------------------------------------------------------------
Total $ 79,537 $ 1,488 $ 353 $ 17 $ 79,890 $ 1,504
===============================================================================================================
12
13
The table below sets forth certain information regarding the carrying
value, weighted average yields and contractual maturities of the bank's
investment securities available-for-sale and mortgage-backed securities
available-for-sale.
At September 30, 2005
--------------------------------------------------------------------------------------------------
More than One More than Five
One Year or Less Year to Five Years to Ten Years More than Ten Years Total
-------------------------------------------------------------------------------------------------
Weighted Weighted Weighted Weighted Weighted
Carrying Average Carrying Average Carrying Average Carrying Average Carrying Average
Value Yield Value Yield Value Yield Value Yield Value Yield
------------------------------------------------------------------------------------------------------------------------------
(Dollars in Thousands)
Investment securities available-for-sale:
Adjustable-rate securities:
CMO's $ - - % $ - - % $ - -% $ 14,454 3.92% $ 14,454 3.92%
Corporate debt - - - - 2,977 5.50 3,759 3.63 6,736 4.45
U.S. Government SBA's - - 170 4.98 1,063 5.31 28,548 3.99 29,781 4.05
------------------------------------------------------------------------------------------------------------------------------
Total - - 170 4.98 4,040 5.45 46,761 3.94 50,971 4.06
------------------------------------------------------------------------------------------------------------------------------
MBS's available-for-sale:
Adjustable-rate securities:
FHLMC - - - - - - 8,969 3.33 8,969 3.33
FNMA - - - - - - 34,595 2.27 34,595 2.27
GNMA - - 48 3.33 - - 12,893 3.46 12,941 3.46
------------------------------------------------------------------------------------------------------------------------------
Total - - 48 3.33 - - 56,457 2.70 56,505 2.71
------------------------------------------------------------------------------------------------------------------------------
MBS'S fixed-rate:
FNMA - - - - 353 6.54 - - 353 6.54
------------------------------------------------------------------------------------------------------------------------------
Total - - - - 353 6.54 - - 353 6.54
------------------------------------------------------------------------------------------------------------------------------
Total mortgage-backed
securities available-for-sale - - 48 3.33 353 6.54 56,457 2.70 56,858 2.73
------------------------------------------------------------------------------------------------------------------------------
Total investment portfolio $ - - % $218 4.61% $4,393 5.54% $103,218 3.25% $107,829 3.35%
==============================================================================================================================
The table below sets forth certain information regarding the carrying
value, weighted average yields and contractual maturities of the bank's
investment securities held-to-maturity and mortgage-backed securities held to
maturity.
At September 30, 2005
--------------------------------------------------------------------------------------------------
More than One More than Five
One Year or Less Year to Five Years to Ten Years More than Ten Years Total
-------------------------------------------------------------------------------------------------
Weighted Weighted Weighted Weighted Weighted
Carrying Average Carrying Average Carrying Average Carrying Average Carrying Average
Value Yield Value Yield Value Yield Value Yield Value Yield
- -------------------------------------------------------------------------------------------------------------------------------
(Dollars in Thousands)
Investment securities held-to-maturity:
Adjustable-rate securities:
U.S. Government SBA's $ - -% $408 3.87% $253 3.46% $5,870 3.09% $6,531 3.16%
Fixed-rate:
Corporate debt 1,000 7.15 - - - - - - 1,000 7.15
- -------------------------------------------------------------------------------------------------------------------------------
Total investment securities
held-to-maturity 1,000 7.15 408 3.87 253 3.46 5,870 3.09 7,531 3.73
- -------------------------------------------------------------------------------------------------------------------------------
Mortgage-backed securities
held-to-maturity:
Adjustable-rate securities:
FHLMC - - - - - - 236 5.61 236 5.61
FNMA - - - - - - 178 5.65 178 5.65
- -------------------------------------------------------------------------------------------------------------------------------
Total - - - - - - 414 5.63 414 5.63
- -------------------------------------------------------------------------------------------------------------------------------
Fixed-rate:
FNMA - - - - - - 24 6.50 24 6.50
- -------------------------------------------------------------------------------------------------------------------------------
Total - - - - - - 24 6.50 24 6.50
- -------------------------------------------------------------------------------------------------------------------------------
Total mortgage-backed securities
held-to-maturity - - - - - - 438 5.32 438 5.68
- -------------------------------------------------------------------------------------------------------------------------------
Total held-to-maturity
investments $1,000 7.15% $408 3.87% $253 3.46% $6,308 3.29% $7,969 3.85%
===============================================================================================================================
13
14
SOURCES OF FUNDS
GENERAL. Deposits, loan repayments and prepayments, cash flows
generated from operations, Federal Home Loan Bank ("FHLB") advances and reverse
repurchase agreements are the primary sources of the bank's funds for use in
lending, investing and for other general purposes.
DEPOSITS. Deposits are attracted from within the bank's market area by
offering a broad selection of deposit instruments, including checking, savings,
money market and time deposits. Deposit account terms vary, differentiated by
the minimum balance required, the time periods that the funds must remain on
deposit and the interest rate, among other factors. In determining the terms of
its deposit accounts, the bank considers current interest rates, profitability
to the bank, interest rate risk characteristics, competition and its customer
preferences and concerns. The bank may pay above-market interest rates to
attract or retain deposits when less expensive sources of funds are not
available. The bank reviews its deposit composition and pricing weekly.
At September 30, 2005, $99.2 million, or 68.00% of the bank's
certificate of deposit accounts were to mature within one year.
The following table sets forth the distribution and the rates paid on
each category of the bank's deposits.
At September 30,
------------------------------------------------------------------------------
2005 2004
-------------------------------------- ---------------------------------------
Percent of Percent of
Total Rate Total Rate
Balance Deposits Paid Balance Deposits Paid
- --------------------------------------------------------------------------------------------------------------------
(Dollars in Thousands)
Savings accounts $ 8,078 3.40% 0.99% $ 14,266 4.94% 0.98%
Now and money market accounts 66,638 28.02 2.75 74,185 25.67 1.16
Certificates of deposit 145,912 61.36 3.32 182,056 63.01 2.60
Noninterest-bearing deposits:
Demand deposits 17,166 7.22 - 18,449 6.38 -
- --------------------------------------------------------------------------------------------------------------------
Total deposits $237,794 100.00% 2.84% $288,956 100.00% 1.98%
====================================================================================================================
The following table presents information concerning the amounts, the
rates and the periods to maturity of the bank's certificate accounts
outstanding.
At September 30, 2005
-----------------------------
Amount Rate
------------------------------------------------------------------------------------------------
(Dollars in Thousands)
Balance maturing:
Three months or less $ 47,400 3.04%
Three months to one year 51,821 3.12
One year to three years 38,627 3.80
Over three years 8,064 3.99
------------------------------------------------------------------------------------------------
Total $145,912 3.32%
================================================================================================
14
15
At September 30, 2005, the bank had $46.1 million in certificate
accounts in amounts of $100,000 or more maturing as follows:
Maturity Period Weighed
Average
Amount Rate
------------------------------------------------------------------------------------------------
Three months or less $26,778 3.13%
Over 3 through 6 months 4,236 3.05
Over 6 through 12 months 5,095 3.26
Over 12 months 9,974 3.81
------------------------------------------------------------------------------------------------
Total $46,083 3.28%
================================================================================================
The following table sets forth the deposit activity of the bank for the
periods indicated.
At or For the Year Ended September 30,
-------------------------------------------
2005 2004 2003
------------------------------------------------------------------------------------------------
(In Thousands)
Balance at beginning of period $288,956 $297,876 $281,877
Net deposits (withdrawals) before interest credited (57,499) (14,671) 9,326
Interest credited 6,337 5,751 6,673
------------------------------------------------------------------------------------------------
Net increase (decrease) in deposits (51,162) (8,920) 15,999
------------------------------------------------------------------------------------------------
Ending balance $237,794 $288,956 $297,876
================================================================================================
BORROWINGS. At September 30, 2005, borrowings consisted of FHLB
advances and reverse repurchase agreements totaling $76.5 million. FHLB advances
amounted to $38.0 million at September 30, 2005, a decrease from the $51.2
million outstanding at September 30, 2004, and other borrowings (reverse
repurchase agreements) amounted to $38.5 million, a decrease of $26.4 million
compared to $64.9 million at September 30, 2004. During the fiscal year ended
September 30, 2005, all reverse repurchase agreements represented agreements to
repurchase the same securities.
The following table sets forth information regarding the bank's
borrowed funds:
At or For the Year Ended September 30,
------------------------------------------
2005 2004 2003
-----------------------------------------------------------------------------------------------------------------
FHLB Advances:
Average balance outstanding $ 44,422 $ 116,155 $ 102,868
Maximum amount outstanding at any month-end during the period 49,200 142,250 124,150
Balance outstanding at end of period 38,000 51,200 86,800
Weighted average interest rate during the period 4.47% 2.39% 2.58%
Weighted average interest rate at end of period 4.85% 3.93% 2.72%
Reverse repurchase agreements:
Average balance outstanding 58,837 89,734 86,225
Maximum amount outstanding at any month-end during the period 62,846 93,730 89,850
Balance outstanding at end of period 38,479 64,865 77,835
Weighted average interest rate during the period 4.37% 4.26% 4.31%
Weighted average interest rate at end of period 3.69% 1.98% 1.25%
15
16
SUBSIDIARY ACTIVITIES
We have two subsidiaries, the bank and Greater Atlantic Capital Trust
I. We established the Trust in January 2002 to issue certain convertible
preferred securities which we completed in March 2002. See discussion of the
Trust in Note 20 to the financial statements. The bank has one wholly-owned
subsidiary, Greater Atlantic Mortgage Corporation, and, in furtherance of our
community banking focus, we have expanded the operations of Greater Atlantic
Mortgage in order to diversify our revenue stream and support our growth. The
strategy of Greater Atlantic Mortgage is to originate mortgage loans for sale in
the secondary market and to develop profitable niche mortgage products, as had
been done with the Federal Housing Administration ("FHA") streamline
refinancings. Currently, the operations of Greater Atlantic Mortgage employ
approximately 61 persons in Tysons Corner, and Reston, Virginia and Rockville,
Maryland. For the fiscal year ended September 30, 2005, Greater Atlantic
Mortgage originated $276.0 million of single-family residential loans,
respectively, the majority of which consisted of loans insured by the FHA or
partially guaranteed by the Veterans Administration ("VA") which were pre-sold
in the secondary market with servicing released.
PERSONNEL
As of September 30, 2005, we had 115 full-time employees and 14
part-time employees. The employees are not represented by a collective
bargaining unit and the company considers its relationship with its employees to
be good.
16
17
REGULATION AND SUPERVISION
GENERAL
As a savings and loan holding company, the Company is required by
federal law to report to, and otherwise comply with the rules and regulations
of, the Office of Thrift Supervision. The Bank is subject to extensive
regulation, examination and supervision by the Office of Thrift Supervision, as
its primary federal regulator, and the Federal Deposit Insurance Corporation, as
the deposit insurer. The Bank is a member of the Federal Home Loan Bank System
and, with respect to deposit insurance, of the Savings Association Insurance
Fund managed by the Federal Deposit Insurance Corporation. The Bank must file
reports with the Office of Thrift Supervision and the Federal Deposit Insurance
Corporation concerning its activities and financial condition in addition to
obtaining regulatory approvals prior to entering into certain transactions such
as mergers with, or acquisitions of, other savings institutions. The Office of
Thrift Supervision and/or the Federal Deposit Insurance Corporation conduct
periodic examinations to test the Bank's safety and soundness and compliance
with various regulatory requirements. This regulation and supervision
establishes a comprehensive framework of activities in which an institution can
engage and is intended primarily for the protection of the insurance fund and
depositors. The regulatory structure also gives the regulatory authorities
extensive discretion in connection with their supervisory and enforcement
activities and examination policies, including policies with respect to the
classification of assets and the establishment of adequate loan loss reserves
for regulatory purposes. Any change in such regulatory requirements and
policies, whether by the Office of Thrift Supervision, the Federal Deposit
Insurance Corporation or Congress, could have a material adverse impact on the
Company, the Bank and their operations. Certain regulatory requirements
applicable to the Bank and to the Company are referred to below or elsewhere
herein. The description of statutory provisions and regulations applicable to
savings institutions and their holding companies set forth below does not
purport to be a complete description of such statutes and regulations and their
effects on the Bank and the Company.
HOLDING COMPANY REGULATION
The Company is a nondiversified unitary savings and loan holding
company within the meaning of federal law. Under prior law, a unitary savings
and loan holding company, such as the Company, was not generally restricted as
to the types of business activities in which it may engage, provided that the
Bank continued to be a qualified thrift lender. See "FEDERAL SAVINGS INSTITUTION
REGULATION - QTL TEST." The Gramm-Leach-Bliley Act of 1999 provides that no
company may acquire control of a savings institution after May 4, 1999 unless it
engages only in the financial activities permitted for financial holding
companies under the law or for multiple savings and loan holding companies as
described below. Further, the Gramm-Leach-Bliley Act specifies that existing
savings and loan holding companies may only engage in such activities. The
Gramm-Leach-Bliley Act, however, grandfathered the unrestricted authority for
activities with respect to unitary savings and loan holding companies existing
prior to May 4, 1999, so long as the holding company's savings institution
subsidiary continues to comply with the QTL Test. The Company does not qualify
for the grandfathering. Upon any non-supervisory acquisition by the Company of
another savings institution or savings bank that meets the qualified thrift
lender test and is deemed to be a savings institution by the Office of Thrift
Supervision, the Company would become a multiple savings and loan holding
company (if the acquired institution is held as a separate subsidiary) and would
generally be limited to activities permissible for bank holding companies under
Section 4(c)(8) of the Bank Holding Company Act, subject to the prior approval
of the Office of Thrift Supervision, and certain activities authorized by Office
of Thrift Supervision regulation. However, the OTS has issued an interpretation
concluding that multiple savings and loan holding companies may also engage in
activities permitted for financial holding companies.
A savings and loan holding company is prohibited from, directly or
indirectly, acquiring more than 5% of the voting stock of another savings
institution or savings and loan holding company, without prior written approval
of the Office of Thrift Supervision and from acquiring or retaining control of a
depository institution that is not insured by the Federal Deposit Insurance
Corporation. In evaluating applications by holding companies to acquire savings
institutions, the Office of Thrift Supervision considers the financial and
managerial resources and future prospects of the Company and institution
involved, the effect of the acquisition on the risk to the deposit insurance
funds, the convenience and needs of the community and competitive factors.
The Office of Thrift Supervision may not approve any acquisition that
would result in a multiple savings and loan holding company controlling savings
institutions in more than one state, subject to two exceptions: (i) the approval
of interstate supervisory acquisitions by savings and loan holding companies and
(ii) the acquisition of a savings institution in another state if the laws of
the state of the target savings institution specifically permit such
acquisitions. The states vary in the extent to which they permit interstate
savings and loan holding company acquisitions.
17
18
Although savings and loan holding companies are not currently subject
to specific capital requirements or specific restrictions on the payment of
dividends or other capital distributions, federal regulations do prescribe such
restrictions on subsidiary savings institutions as described below. The Bank
must notify the Office of Thrift Supervision (30) days before declaring any
dividend to the Company. In addition, the financial impact of a holding company
on its subsidiary institution is a matter that is evaluated by the Office of
Thrift Supervision and the agency has authority to order cessation of activities
or divestiture of subsidiaries deemed to pose a threat to the safety and
soundness of the institution.
ACQUISITION OF THE COMPANY. Under the Federal Change in Bank Control
Act, a notice must be submitted to the Office of Thrift Supervision if any
person (including a company), or group acting in concert, seeks to acquire
"control" of a savings and loan holding company. Under certain circumstances, a
change of control may occur, and prior notice is required, upon the acquisition
of 10% or more of the Company's outstanding voting stock, unless the Office of
Thrift Supervision has found that the acquisition will not result in a change of
control of the Company. Under the Change in Bank Control Act, the Office of
Thrift Supervision has 60 days from the filing of a complete notice to act,
taking into consideration certain factors, including the financial and
managerial resources of the acquirer and the anti-trust effects of the
acquisition. Any company that acquires control would then be subject to
regulation as a savings and loan holding company.
FEDERAL SAVINGS INSTITUTION REGULATION
BUSINESS ACTIVITIES. The activities of federal savings banks are
governed by federal law and regulations. These laws and regulations delineate
the nature and extent of the activities in which federal savings banks may
engage. In particular, certain lending authority for federal savings banks,
E.G., commercial, non-residential real property loans and consumer loans, is
limited to a specified percentage of the institution's capital or assets.
CAPITAL REQUIREMENTS. The Office of Thrift Supervision capital
regulations require savings institutions to meet three minimum capital
standards: a 1.5% tangible capital to total assets ratio, a 4% leverage ratio
(3% for institutions receiving the highest rating on the CAMELS examination
rating system) and an 8% risk-based capital ratio. In addition, the prompt
corrective action standards discussed below also establish, in effect, a minimum
2% tangible capital standard, a 4% leverage ratio (3% for institutions receiving
the highest rating on the CAMELS system) and, together with the risk-based
capital standard itself, a 4% Tier 1 risk-based capital standard. The Office of
Thrift Supervision regulations also require that, in meeting the tangible,
leverage and risk-based capital standards, institutions must generally deduct
investments in and loans to subsidiaries engaged in activities as principal that
are not permissible for a national bank.
The risk-based capital standard for savings institutions requires the
maintenance of Tier 1 (core) and total capital (which is defined as core capital
and supplementary capital) to risk-weighted assets of at least 4% and 8%,
respectively. In determining the amount of risk-weighted assets, all assets,
including certain off-balance sheet assets, recourse obligations, residual
interests and direct credit substitutes, are multiplied by a risk-weight factor
of 0% to 100%, assigned by the Office of Thrift Supervision capital regulation
based on the risks believed inherent in the type of asset. Core (Tier 1) capital
is defined as common stockholders' equity (including retained earnings), certain
noncumulative perpetual preferred stock and related surplus, and minority
interests in equity accounts of consolidated subsidiaries less intangibles other
than certain mortgage servicing rights and credit card relationships. The
components of supplementary capital currently include cumulative preferred
stock, long-term perpetual preferred stock, mandatory convertible securities,
subordinated debt and intermediate preferred stock, the allowance for loan and
lease losses limited to a maximum of 1.25% of risk-weighted assets and up to 45%
of unrealized gains on available-for-sale equity securities with readily
determinable fair market values. Overall, the amount of supplementary capital
included as part of total capital cannot exceed 100% of core capital.
The Office of Thrift Supervision also has authority to establish
individual minimum capital requirements in appropriate cases upon a
determination that an institution's capital level is or may become inadequate in
light of the particular circumstances. At September 30, 2005, the Bank met each
of its capital requirements.
The following table presents the bank's capital position at September
30, 2005.
Capital
Excess ---------------------------
Actual Required (Deficiency) Actual Required
Capital Capital Amount Percent Percent
---------------------------------------------------------------------------------------------------------------
(Dollars in Thousands)
Tangible $23,814 $ 5,099 $18,715 7.01% 1.50%
Core (Leverage) 23,814 13,598 10,216 7.01 4.00
Risk-based 24,913 17,702 7,211 11.26 8.00
18
19
PROMPT CORRECTIVE REGULATORY ACTION. The Office of Thrift Supervision
is required to take certain supervisory actions against undercapitalized
institutions, the severity of which depends upon the institution's degree of
undercapitalization. Generally, a savings institution that has a ratio of total
capital to risk weighted assets of less than 8%, a ratio of Tier 1 (core)
capital to risk-weighted assets of less than 4% or a ratio of core capital to
total assets of less than 4% (3% or less for institutions with the highest
examination rating) is considered to be "undercapitalized." A savings
institution that has a total risk-based capital ratio less than 6%, a Tier 1
capital ratio of less than 3% or a leverage ratio that is less than 3% is
considered to be "significantly undercapitalized" and a savings institution that
has a tangible capital to assets ratio equal to or less than 2% is deemed to be
"critically undercapitalized." Subject to a narrow exception, the Office of
Thrift Supervision is required to appoint a receiver or conservator within
specified time frames for an institution that is "critically undercapitalized."
The regulation also provides that a capital restoration plan must be filed with
the Office of Thrift Supervision within 45 days of the date a savings
institution receives notice that it is "undercapitalized," "significantly
undercapitalized" or "critically undercapitalized." Compliance with the plan
must be guaranteed by any parent holding company. In addition, numerous
mandatory supervisory actions become immediately applicable to an
undercapitalized institution, including, but not limited to, increased
monitoring by regulators and restrictions on growth, capital distributions and
expansion. The Office of Thrift Supervision could also take any one of a number
of discretionary supervisory actions, including the issuance of a capital
directive and the replacement of senior executive officers and directors.
INSURANCE OF DEPOSIT ACCOUNTS. The Bank is a member of the Savings
Association Insurance Fund. The Federal Deposit Insurance Corporation maintains
a risk-based assessment system by which institutions are assigned to one of
three categories based on their capitalization and one of three subcategories
based on examination ratings and other supervisory information. An institution's
assessment rate depends upon the categories to which it is assigned. Assessment
rates for Savings Association Insurance Fund member institutions are determined
semi-annually by the Federal Deposit Insurance Corporation and currently range
from zero basis points for the healthiest institutions to 27 basis points of
assessable deposits for the riskiest.
In addition to the assessment for deposit insurance, institutions are
required to make payments on bonds issued in the late 1980s by the Financing
Corporation to recapitalize the predecessor to the Savings Association Insurance
Fund. During fiscal 2004, Financing Corporation payments for Savings Association
Insurance Fund members approximated 1.52 basis points of assessable deposits.
The Bank's assessment rate for the fiscal year 2005 was 2.22 basis
points and the total assessment paid for this period (including the FICO
assessment) was $116,575. The Federal Deposit Insurance Corporation has
authority to increase insurance assessments. A significant increase in Savings
Association Insurance Fund insurance premiums would likely have an adverse
effect on the operating expenses and results of operations of the Bank.
Management cannot predict what insurance assessment rates will be in the future.
Insurance of deposits may be terminated by the Federal Deposit
Insurance Corporation upon a finding that the institution has engaged in unsafe
or unsound practices, is in an unsafe or unsound condition to continue
operations or has violated any applicable law, regulation, rule, order or
condition imposed by the Federal Deposit Insurance Corporation or the Office of
Thrift Supervision. The management of the Bank does not know of any practice,
condition or violation that might lead to termination of deposit insurance.
LOANS TO ONE BORROWER. Federal law provides that savings institutions
are generally subject to the limits on loans to one borrower applicable to
national banks. A savings institution may not make a loan or extend credit to a
single or related group of borrowers in excess of 15% of its unimpaired capital
and surplus. An additional amount may be lent, equal to 10% of unimpaired
capital and surplus, if secured by specified readily marketable collateral. At
September 30, 2005, Greater Atlantic's limit on loans to one borrower was $3.8
million, and Greater Atlantic's largest aggregate outstanding loan to one
borrower was $4.0 million. Loans in excess of the loans to one borrower limit
will be sold in the form of a participation.
QTL TEST. The Home Owners' Loan Act requires savings institutions to
meet a qualified thrift lender test. Under the test, a savings association is
required to either qualify as a "domestic building and loan association" under
the Internal Revenue Code or maintain at least 65% of its "portfolio assets"
(total assets less: (i) specified liquid assets up to 20% of total assets; (ii)
intangibles, including goodwill; and (iii) the value of property used to conduct
business) in certain "qualified thrift investments" (primarily residential
mortgages and related investments, including certain mortgage-backed securities)
in at least 9 months out of each 12 month period.
A savings institution that fails the qualified thrift lender test is
subject to certain operating restrictions and may be required to convert to a
bank charter. As of September 30, 2005, Greater Atlantic maintained 82% of its
portfolio assets in qualified thrift investments and, therefore, met the
qualified thrift lender test. Recent legislation has expanded the extent to
which education loans, credit card loans and small business loans may be
considered "qualified thrift investments."
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LIMITATION ON CAPITAL DISTRIBUTIONS. Office of Thrift Supervision
regulations impose limitations upon all capital distributions by a savings
institution, including cash dividends, payments to repurchase its shares and
payments to stockholders of another institution in a cash-out merger. An
application to and the prior approval of the Office of Thrift Supervision is
required prior to any capital distribution if the institution does not meet the
criteria for "expedited treatment" of applications under Office of Thrift
Supervision regulations (I.E., generally, examination ratings in the two top
categories), the total capital distributions for the calendar year exceed net
income for that year plus the amount of retained net income for the preceding
two years, the institution would be undercapitalized following the distribution
or the distribution would otherwise be contrary to a statute, regulation or
agreement with Office of Thrift Supervision. If an application is not required,
the institution must still provide prior notice to Office of Thrift Supervision
of the capital distribution if, like Greater Atlantic, it is a subsidiary of a
holding company. In the event Greater Atlantic's capital fell below its
regulatory requirements or the Office of Thrift Supervision notified it that it
was in need of more than normal supervision, Greater Atlantic's ability to make
capital distributions could be restricted. In addition, the Office of Thrift
Supervision could prohibit a proposed capital distribution by any institution,
which would otherwise be permitted by the regulation, if the Office of Thrift
Supervision determines that such distribution would constitute an unsafe or
unsound practice.
ASSESSMENTS. Savings institutions are required to pay assessments to
the Office of Thrift Supervision to fund the agency's operations. The general
assessments, paid on a semi-annual basis, are computed based upon the savings
institution's total assets, including consolidated subsidiaries, as reported in
Greater Atlantic's latest quarterly thrift financial report. The assessments
paid by Greater Atlantic for the fiscal year ended September 30, 2005, totaled
$144,304.
TRANSACTIONS WITH RELATED PARTIES. Greater Atlantic's authority to
engage in transactions with "affiliates" (E.G., any company that controls or is
under common control with an institution, including Greater Atlantic Financial
and its non-savings institution subsidiaries) is limited by federal law. The
aggregate amount of covered transactions with any individual affiliate is
limited to 10% of the capital and surplus of the savings institution. The
aggregate amount of covered transactions with all affiliates is limited to 20%
of the savings institution's capital and surplus. Certain transactions with
affiliates are required to be secured by collateral in an amount and of a type
described in federal law. The purchase of low quality assets from affiliates is
generally prohibited. The transactions with affiliates must be on terms and
under circumstances, that are at least as favorable to the institution as those
prevailing at the time for comparable transactions with non-affiliated
companies. In addition, savings institutions are prohibited from lending to any
affiliate that is engaged in activities that are not permissible for bank
holding companies and no savings institution may purchase the securities of any
affiliate other than a subsidiary.
The recently enacted Sarbanes-Oxley Act generally prohibits loans by
the Company to its executive officers and directors. However, that act contains
a specific exception for loans by the Bank to its executive officers and
directors in compliance with federal banking laws. Under such laws, the Bank's
authority to extend credit to executive officers, directors and 10% shareholders
("insiders"), as well as entities such persons control, is limited. The law
limits both the individual and aggregate amount of loans the Bank may make to
insiders based, in part, on the Bank's capital position and requires certain
board approval procedures to be followed. Such loans are required to be made on
terms substantially the same as those offered to unaffiliated individuals and
not involve more than the normal risk of repayment. There is an exception for
loans made pursuant to a benefit or compensation program that is widely
available to all employees of the institution and does not give preference to
insiders over other employees.
ENFORCEMENT. The Office of Thrift Supervision has primary enforcement
responsibility over savings institutions and has the authority to bring actions
against the institution and all institution-affiliated parties, including
stockholders, and any attorneys, appraisers and accountants who knowingly or
recklessly participate in wrongful action likely to have an adverse effect on an
insured institution. Formal enforcement action may range from the issuance of a
capital directive or cease and desist order to removal of officers and/or
directors to institution of receivership, conservatorship or termination of
deposit insurance. Civil penalties cover a wide range of violations and can
amount to $25,000 per day, or even $1.0 million per day in especially egregious
cases. The Federal Deposit Insurance Corporation has the authority to recommend
to the Director of the Office of Thrift Supervision that enforcement action be
taken with respect to a particular savings institution. If the Director does not
take action, the Federal Deposit Insurance Corporation has authority to take
such action under certain circumstances. Federal law also establishes criminal
penalties for certain violations.
STANDARDS FOR SAFETY AND SOUNDNESS. The federal banking agencies have
adopted Interagency Guidelines prescribing Standards for Safety and Soundness.
The guidelines set forth the safety and soundness standards that the federal
banking agencies use to identify and address problems at insured depository
institutions before capital becomes impaired. If the Office of Thrift
Supervision determines that a savings institution fails to meet any standard
prescribed by the guidelines, the Office of Thrift Supervision may require the
institution to submit an acceptable plan to achieve compliance with the
standard.
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FEDERAL HOME LOAN BANK SYSTEM
Greater Atlantic is a member of the Federal Home Loan Bank System,
which consists of 12 regional Federal Home Loan Banks. The Federal Home Loan
Bank provides a central credit facility primarily for member institutions.
Greater Atlantic, as a member of the Federal Home Loan Bank, is required to
acquire and hold shares of capital stock in that Federal Home Loan Bank in an
amount at least equal to 1.0% of the aggregate principal amount of its unpaid
residential mortgage loans and similar obligations at the beginning of each
year, or 1/20 of its advances (borrowings) from the Federal Home Loan Bank,
whichever is greater. Greater Atlantic was in compliance with this requirement
with an investment in Federal Home Loan Bank stock at September 30, 2005 of $2.5
million.
The Federal Home Loan Banks are required to provide funds used for the
resolution of insolvent thrifts in the late 1980s and to contribute funds for
affordable housing programs. Those requirements could reduce the amount of
dividends that the Federal Home Loan Banks pay to their members and could also
result in the Federal Home Loan Banks imposing a higher rate of interest on
advances to their members. If dividends were reduced, or interest on future
Federal Home Loan Bank advances increased, Greater Atlantic's net interest
income would likely also be reduced.
FEDERAL RESERVE SYSTEM
The Federal Reserve Board regulations require savings institutions to
maintain non-interest earning reserves against their transaction accounts
(primarily NOW and regular checking accounts). The regulations generally provide
that reserves be maintained against aggregate transaction accounts as follows: a
3% reserve ratio is assessed on net transaction accounts up to $48.3 million;
for $48.3 million the required reserve is $1.2 million, and, for amounts in
excess of $48.3 million the required ratio is 10%. The first $7.8 million of
otherwise reservable balances (subject to adjustments by the Federal Reserve
Board) are exempted from the reserve requirements. The amounts are adjusted
annually. The Bank complies with the foregoing requirements.
COMMUNITY REINVESTMENT ACT
Under the Community Reinvestment Act, as implemented by Office of
Thrift Supervision regulations, a savings association has a continuing and
affirmative obligation consistent with its safe and sound operation to help meet
the credit needs of its entire community, including low and moderate income
neighborhoods. The Community Reinvestment Act does not establish specific
lending requirements or programs for financial institutions nor does it limit an
institution's discretion to develop the types of products and services that it
believes are best suited to its particular community, consistent with the
Community Reinvestment Act. The Community Reinvestment Act requires the Office
of Thrift Supervision, in connection with its examination of an institution, to
assess the institution's record of meeting the credit needs of its community and
to take such record into account in its evaluation of applications by such
institution. The Community Reinvestment Act requires public disclosure of an
institution's Community Reinvestment Act rating. Greater Atlantic's latest
Community Reinvestment Act rating, received from the Office of Thrift
Supervision was "Satisfactory."
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FEDERAL AND STATE TAXATION
GENERAL. The company and the bank report their income on a fiscal year
basis using the accrual method of accounting and are subject to federal income
taxation in the same manner as other corporations with some exceptions. The
following discussion of tax matters is intended only as a summary and does not
purport to be a comprehensive description of the tax rules applicable to the
bank or the company. The bank has not been audited by the IRS or the Virginia
Department of Taxation ("DOT") in the past five years.
DISTRIBUTIONS. To the extent that the bank makes "non-dividend
distributions" to the company that are considered as made (i) from the reserve
for losses on qualifying real property loans, to the extent the reserve for such
losses exceeds the amount that would have been allowed under the experience
method, or (ii) from the supplemental reserve for losses on loans ("Excess
Distributions"), then an amount based on the amount distributed will be included
in the bank's taxable income. Non-dividend distributions include distributions
in excess of the bank's current and accumulated earnings and profits,
distributions in redemption of stock and distributions in partial or complete
liquidation. However, dividends paid out of the bank's current or accumulated
earnings and profits, as calculated for federal income tax purposes, will not be
considered to result in a distribution from the bank's bad debt reserve. Thus,
any dividends to the company that would reduce amounts appropriated to the
bank's bad debt reserve and deducted for federal income tax purposes would
create a tax liability for the bank. The amount of additional taxable income
created by an Excess Distribution is an amount that, when reduced by the tax
attributable to the income, is equal to the amount of the distribution. Thus,
if, after the Conversion, the bank makes a "non-dividend distribution," then
approximately one and one-half times the amount so used would be includable in
gross income for federal income tax purposes, presumably taxed at a 34%
corporate income tax rate (exclusive of state and local taxes). See "Regulation"
and "Dividend Policy" for limits on the payment of dividends of the bank. The
bank does not intend to pay dividends that would result in a recapture of any
portion of its bad debt reserve.
CORPORATE ALTERNATIVE MINIMUM TAX ("AMT"). The Code imposes a tax on
alternative minimum taxable income ("AMTI") at a rate of 20%. Only 90% of AMTI
could be offset by net operating loss carryovers. AMTI is increased by an amount
equal to 75% of the amount by which the bank's adjusted current earnings exceeds
its AMTI (determined without regard to this preference and prior to reduction
for net operating losses). Since the Company and the bank have net operating
losses for the 2005 fiscal year, they do not record a provision for income
taxes.
DIVIDENDS RECEIVED DEDUCTION AND OTHER MATTERS. The company may exclude
from its income 100% of dividends received from the bank as a member of the same
affiliated group of corporations. The corporate dividends received deduction is
generally 70% in the case of dividends received from unaffiliated corporations
with which the company and the bank will not file a consolidated tax return,
except that if the company or the bank owns more than 20% of the stock of a
corporation distributing a dividend then 80% of any dividends received may be
deducted.
STATE AND LOCAL TAXATION
COMMONWEALTH OF VIRGINIA. The Commonwealth of Virginia imposes a tax at
the rate of 6.0% on the "Virginia taxable income" of the company. Virginia
taxable income is equal to federal taxable income with certain adjustments.
Significant modifications include the subtraction from federal taxable income of
interest or dividends on obligations or securities of the United States that are
exempt from state income taxes.
DELAWARE TAXATION. As a Delaware company not earning income in
Delaware, the company is exempt from Delaware corporate income tax but is
required to file an annual report with and pay an annual franchise tax to the
State of Delaware. However, to the extent that the company conducts business
outside of Delaware, the company may be considered doing business and subject to
additional taxing jurisdictions outside of Delaware.
ITEM 1A. RISK FACTORS
ADVERSE IMPACT ON EARNINGS FROM TERMINATION OF A CONTRACT TO MANAGE THE
COMPANY'S MORTGAGE BANKING SUBSIDIARY.
Effective October 1, 2004, Greater Atlantic Mortgage entered into an
agreement with the manager of Greater Atlantic Mortgage designed to reduce the
bank's exposure to losses from mortgage banking operations. The agreement
provided for the manager to reimburse 100% of the losses incurred by Greater
Atlantic Mortgage in return for 80% of net earnings with provision made for
settlement on a quarterly basis. As required by that agreement, the manager
reimbursed Greater Atlantic Mortgage $363,000 and posted $1,300,000 in escrow to
cover Greater Atlantic Mortgage's future losses. The agreement contained a
provision that the manager's obligation to fund losses did not exceed the amount
in the escrow.
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Under the agreement, if Greater Atlantic Mortgage sustained losses in
excess of the amount in the escrow, and the manager did not restore those losses
within 15 days of demand, Greater Atlantic Mortgage's recourse was to terminate
the agreement. At June 30, 2005, the $1,300,000 in the escrow had been depleted,
the manager contributed $108,000 to Greater Atlantic Mortgage to make up the
deficiency and the agreement was continued for three months.
During the three months ended September 30, 2005, the losses at Greater
Atlantic Mortgage continued and reached approximately $993,000. Because the
escrow account was depleted and the manager had not posted sufficient collateral
to securitize the account receivable due from him, the Bank's earnings were
reduced by the $993,000 loss.
The manager expressed concern that Greater Atlantic Mortgage would
terminate the 2004 agreement if it did not make up the loss incurred during the
September 30, 2005 quarter, and, in order to institute negotiations, and obtain
security which would substantially improve Greater Atlantic Mortgage's position,
the manager was provided extensions of time for the payment of the loss
sustained in the September 2005 quarter. During the negotiations, the manager
indicated that he would be willing to make up the loss but only if Greater
Atlantic Mortgage continued operations.
Working under extensions to the existing agreement, Greater Atlantic
Mortgage attempted to obtain an amendment to the agreement and obtain additional
collateral from the manager. Based on the progress of those negotiations, and
the need for the Bank to obtain regulatory approval for any amendment the
Company has concluded that an agreement cannot be reached in a timely fashion
and, therefore, that collection of the receivable is not assured. Accordingly,
at September 30, 2005, the Company set up a reserve for loss and charged
$993,000 against earnings to account for the funds that would otherwise have
been contributed by the manager.
If a satisfactory amended agreement is not entered into, the Company
will consider terminating the existing agreement and recognize an additional
loss for the three months ending December 31, 2005. That loss is currently
estimated to be $775,000 due to the unprofitable operations of the Mortgage
Company.
The Company may at a future date determine to shut down the operations
or sell Greater Atlantic Mortgage. That could result in a further loss to the
Company. While the amount of that loss is not reasonably determinable at this
time, it is estimated that the charge to earnings from the discontinuance or
sale could amount to approximately $1.7 million.
We will continue to negotiate with the manager to obtain an acceptable
agreement and seek regulatory approval. There are no assurances that such an
amended agreement will be entered into or that such approval will be obtained.
ITEM 1B. UNRESOLVED STAFF COMMENTS
The Company has no unresolved staff comments for the period ending
September 30, 2005.
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ITEM 2. PROPERTIES
During fiscal year 2005, we conducted our business from six
full-service banking offices and our administrative office. The following table
sets forth certain information concerning the bank's offices as of September 30,
2005.
Net Book Value
of Property or
Leasehold
Original Improvements
Year Date of at
Leased or Leased or Lease September 30,
Location Owned Acquired Expiration 2005
------------------------------------------------------------------------------------------------------------------
(In Thousands)
ADMINISTRATIVE OFFICES:
10700 Parkridge Boulevard
Reston, Virginia 20191 Leased 1998 01-31-11 $ 170
BRANCH OFFICES:
11834 Rockville Pike
Rockville, Maryland 20852 Leased 1998 06-30-09 12
8070 Ritchie Highway
Pasadena, Maryland 21122 Leased 1998 08-31-08 28
10700 Parkridge Boulevard
Reston, Virginia 20191 Leased 2004 01-31-11 485
43086 Peacock Market Plaza
South Riding, Virginia 20152 Leased 2000 06-30-15 250
1 South Royal Avenue
Front Royal, Virginia 22630 Owned 1977 688
9484 Congress Street
New Market, Virginia 22844 Owned 1989 424
LOAN OFFICE:
2200 Defense Highway
Crofton, Maryland 21114 Leased 2002 11-30-08 1
12530 Parklawn Drive, Suite 170
Rockville, Maryland 20852 Leased 2005 06-30-10 52
GREATER ATLANTIC MORTGAGE OFFICES:
8230 Old Courthouse Road
Vienna, Virginia 22182 Leased 1995 12-31-05 1
11300 Rockville Pike
Rockville, Maryland 20852 Leased 2001 12-31-09 3
11491 Sunset Hills Road, Suite 310
Reston, Virginia 20190 Leased 2005 11-01-07 -
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Total $2,114
==================================================================================================================
The total net book value of the company's furniture, fixtures and
equipment at September 30, 2005 was $4.2 million. The properties are considered
by management to be in good condition.
ITEM 3. LEGAL PROCEEDINGS
The company is not involved in any pending legal proceedings other than
routine legal proceedings occurring in the ordinary course of business. Such
routine legal proceedings, in the aggregate, are believed by management to be
immaterial to the company's financial condition, results of operations or cash
flows.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of the stockholders during the
fourth quarter of the fiscal year ended September 30, 2005, through the
solicitation of proxies or otherwise.
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PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND
ISSUER PURCHASES OF EQUITY SECURITIES
MARKET INFORMATION. The company's stock trades on the NASDAQ Stock
Market (ticker symbol GAFC). At September 30, 2005, there were approximately 440
stockholders of record. The following table sets forth market price information,
based on closing prices, as reported by the NASDAQ for the common stock high and
low closing prices for the periods indicated.
First Quarter Second Fourth Quarter
Ended Quarter Ended Third Quarter Ended
December 31 March 31 Ended June 30 September 30
----------------------------------------------------------------------------------------------------
Fiscal Year 2005
High 7.08 6.46 6.20 5.62
Low 6.01 5.77 5.03 5.10
Fiscal Year 2004
High 8.30 8.20 7.70 6.53
Low 7.50 7.27 6.00 5.78
----------------------------------------------------------------------------------------------------
These market quotations reflect inter-dealer prices, without retail
mark-up, mark-down, or commission and may not necessarily represent actual
transactions. The company has not sold any unregistered securities and did not
repurchase any of its equity securities in the fiscal year ended September 30,
2005.
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ITEM 6. SELECTED FINANCIAL DATA
You should read the following Selected Consolidated Financial Data in
conjunction with our Consolidated Financial Statements and the notes thereto,
the information contained in "Management's Discussion and Analysis of Financial
Condition and Results of Operations" and other financial information included
elsewhere in this Annual Report.
--------------------------------------------------------------------------------------------------------------
At or For the Years Ended September 30, 2005 2004 2003 2002 2001
--------------------------------------------------------------------------------------------------------------
(In Thousands, Except Per Share Data)
Consolidated Statements of Operations Data:
Interest income $17,436 $18,962 $20,987 $21,782 $23,623
Interest expense 10,893 12,355 13,049 13,735 17,247
--------------------------------------------------------------------------------------------------------------
Net interest income 6,543 6,607 7,938 8,047 6,376
Provision for loan losses 219 209 855 968 55
--------------------------------------------------------------------------------------------------------------
Net interest income after provision for loan
losses 6,324 6,398 7,083 7,079 6,321
Noninterest income 8,317 9,929 18,889 6,178 5,707
Noninterest expense 16,199 19,430 23,711 15,839 12,550
--------------------------------------------------------------------------------------------------------------
(Loss) income before taxes (1,558) (3,103) 2,261 (2,582) (522)
Income tax provision (benefit) - 89 - - -
--------------------------------------------------------------------------------------------------------------
Net (loss) income $(1,558) $(3,192) $2,261 $(2,582) $ (522)
==============================================================================================================
Per Share Data:
Net income (loss):
Basic $(0.52) $(1.06) $0.75 $(0.86) $(0.17)
Diluted $(0.52) $(1.06) $0.60 $(0.86) $(0.17)
Book value 5.18 5.65 7.08 6.33 7.04
Tangible book value 5.22 5.59 6.68 5.93 6.80
Weighted average shares outstanding:
Basic 3,015,509 3,012,434 3,012,434 3,010,420 3,007,434
Diluted 3,015,509 3,012,434 4,413,462 3,010,420 3,007,434
Consolidated Statements of Financial Condition Data:
Total assets $340,809 $434,370 $499,354 $502,678 $370,604
Total loans receivable, net 194,920 246,387 242,253 248,081 164,603
Allowance for loan losses 1,212 1,600 1,550 1,699 810
Mortgage-loans held for sale 9,517 5,528 6,554 14,553 14,683
Investment securities (1) 58,502 60,285 138,049 157,247 131,302
Mortgage-backed securities 57,296 92,722 86,735 52,112 39,115
Total deposits 237,794 288,956 297,876 281,877 229,982
FHLB advances 38,000 51,200 86,800 96,500 74,500
Other borrowings 38,479 64,865 77,835 91,010 43,323
Guaranteed convertible preferred securities of
subsidiary trust 9,378 9,369 9,359 9,346 -
Total stockholders' equity 15,642 17,140 21,340 19,063 21,180
Tangible capital 15,781 16,825 20,126 17,865 20,365
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SELECTED CONSOLIDATED FINANCIAL AND OTHER DATA - (CONTINUED)
--------------------------------------------------------------------------------------------------------------
At or For the Years Ended September 30, 2005 2004 2003 2002 2001
--------------------------------------------------------------------------------------------------------------
(In Thousands, Except Per Share Data)
Average Consolidated Statements of Financial
Condition Data
Total assets $382,752 $521,648 $510,684 $449,941 $343,226
Investment securities(1) 70,633 123,198 161,161 155,350 118,320
Mortgage-backed securities(1) 77,424 111,016 51,046 39,320 46,225
Total loans 218,584 268,116 281,574 239,342 164,790
Allowance for loan losses 1,609 1,498 1,696 1,148 800
Total deposits 245,518 275,636 279,469 243,120 207,657
Total stockholders' equity 18,037 21,032 19,709 20,895 21,045
Performance Ratios (2)
Return on average assets (0.41)% (0.61)% 0.44% (0.57)% (0.15)%
Return on average equity (8.64) (15.18) 11.47 (12.36) (2.48)
Equity to assets 4.59 3.95 4.27 3.79 6.13
Net interest margin 1.78 1.32 1.61 1.85 1.94
Efficiency ratio(3) 109.01 117.50 88.38 111.35 103.86
Asset Quality Data:
Non-performing assets to total assets, at
period end 0.54 0.22 0.28 0.09 0.14
Non-performing loans to total loans, at period
end 0.75 0.37 0.57 0.18 0.29
Net charge-offs to average total loans 0.28 0.06 0.36 0.03 0.07
Allowance for loan losses to:
Total loans 0.56% 0.62% 0.62% 0.66% 0.46%
Non-performing loans 75.56 167.89 109.31 374.23 160.08
Non-performing loans $1,604 $953 $1,418 $454 $506
Non-performing assets 1,836 953 1,446 797 796
Allowance for loan losses 1,212 1,600 1,550 1,699 810
Capital Ratios of the Bank:
Leverage ratio 7.01% 5.85% 5.85% 5.01% 5.51%
Tier 1 risk-based capital ratio 10.76 10.24 12.42 11.20 10.94
Total risk-based capital ratio 11.26 10.85 13.03 11.95 11.36
(1) Consists of securities classified as available-for-sale, held-to-maturity
and for trading.
(2) Ratios are presented on an annualized basis where appropriate.
(3) Efficiency ratio consists of noninterest expense divided by net interest
income and noninterest income
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATION
FORWARD-LOOKING STATEMENTS
When used in this Annual Report on Form 10-K and in future filings by
the company with the Securities and Exchange Commission (the "SEC"), in the
company's press releases or other public or shareholder communications, and in
oral statements made with the approval of an authorized executive officer, the
words or phrases "will likely result," "are expected to," "will continue," "is
anticipated," "estimate," "project" or similar expressions are intended to
identify "forward-looking statements" within the meaning of the Private
Securities Litigation Reform Act of 1995. Such statements are subject to certain
risks and uncertainties, including, among other things, changes in economic
conditions in the company's market area, changes in policies by regulatory
agencies, fluctuations in interest rates, demand for loans in the company's
market area and competition, that could cause actual results to differ
materially from historical earnings and those presently anticipated or
projected. The company wishes to advise readers that the factors listed above
could affect the company's financial performance and could cause the company's
actual results for future periods to differ materially from any opinions or
statements expressed with respect to future periods in any current statements.
The company does not undertake and specifically declines any obligation
to publicly release the results of any revisions, which may be made to any
forward-looking statements to reflect events or circumstances after the date of
such statements or to reflect the occurrence of anticipated or unanticipated
events.
GENERAL
The profitability of the company and, more specifically, the
profitability of its primary subsidiary, the bank, depends primarily on its net
interest income. Net interest income is the difference between the interest
income it earns on its loans and investment portfolio, and the interest it pays
on interest-bearing liabilities, which consist mainly of interest paid on
deposits and borrowings.
The level of our non-interest income and operating expenses also
affects our profitability. Non-interest income consists primarily of gains on
sales of loans and available-for-sale investments, service charge fees and
commissions earned by non-bank subsidiaries. Operating expenses consist
primarily of salaries and employee benefits, occupancy-related expenses,
equipment and technology-related expenses and other general operating expenses.
The operations of the bank, and banking institutions in general, are
significantly influenced by general economic conditions and related monetary and
fiscal policies of regulatory agencies. Deposit flows and the cost of deposits
and borrowings are influenced by interest rates on competing investments and
general market rates of interest. Lending activities are affected by the demand
for financing real estate and other types of loans, which in turn are affected
by the interest rates at which such financing may be offered and other factors
affecting loan demand and the availability of funds.
CRITICAL ACCOUNTING POLICIES, ESTIMATES AND JUDGMENTS
The company's financial statements are prepared in accordance with
accounting principles generally accepted in the United States. The preparation
of these financial statements requires management to make estimates and
judgments that affect the reported amounts of assets, liabilities, revenue and
expenses as well as the disclosure of contingent liabilities. Management
continually evaluates its estimates and judgments including those related to the
allowance for loan losses and income taxes. Management bases its estimates and
judgments on historical experience and other factors that are believed to be
reasonable under the circumstances. Actual results may differ from these
estimates under different assumptions or conditions. The company believes that
of its significant accounting policies, the following may involve a higher
degree of judgment or complexity.
ALLOWANCE FOR LOAN LOSSES
The company maintains an allowance for loan losses based on
management's evaluation of the risks inherent in its loan portfolio and the
general economy. Management classifies loans as substandard, doubtful or loss as
required by federal regulations. Management provides a 100% reserve for all
assets classified as loss. Further, management bases its estimates of the
allowance on current economic conditions, actual loss experience and industry
trends. Also, the company discontinues recognizing interest income on loans with
principal and/or interest past due 90 days.
INCOME TAXES
The provision (or benefit) for income taxes is based on taxable income,
tax credits and available net operating losses. The company records deferred tax
assets and liabilities using enacted tax rates for the effect of temporary
differences between the book and tax bases of assets and liabilities. If enacted
tax rates change, the company would adjust the deferred tax assets and
liabilities, through the provision for income taxes in the period of change, to
reflect the enacted tax rate expected to be in effect when the deferred tax
items reverse. The company records a valuation allowance on deferred tax assets
to reflect the expected future tax benefits expected to be realized. In
determining the appropriate valuation allowance, the company considers the
expected level of future taxable income and available tax planning strategies.
At September 30, 2004, the company had deferred tax assets of $2.0 million,
which included a valuation allowance of $3.0 million.
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29
RECENT ACCOUNTING STANDARDS
In April 2003, the FASB issued Statement No. 149, Amendment of
Statement 133 on Derivative Instruments and Hedging Activities. This Statement
amends and clarifies financial accounting and reporting for derivative
instruments, including certain derivative instruments embedded in other
contracts (collectively referred to as derivatives) and for hedging activities
under FASB Statement No. 133, Accounting for Derivative Instruments and Hedging
Activities. We adopted the use of this accounting statement in July 2003.
In December 2003, the FASB issued FIN No. 46R, "Consolidation of
Variable Interest Entities," an interpretation of Accounting Research Bulletin
No. 51. FIN No. 46R requires that variable interest entities be consolidated by
a company if that company is subject to a majority of the risk of loss from the
variable interest entity's activities or is entitled to receive a majority of
the entity's residual returns or both. FIN 46R also requires disclosure about
variable interest entities that companies are not required to consolidate but in
which a company has a significant variable interest. The consolidation
requirements must be adopted no later than the beginning of the first fiscal
year or interim period beginning after March 15, 2004. The adoption of FIN No.
46R did not have a material impact on the Corporation's results of operations,
financial position or cash flows.
The Financial Accounting Standards Board ("FASB") issued Statement of
Financial Accounting Standard ("SFAS") No. 123 (Revised 2004) ("SFAS No. 123R"),
"Share-Based Payment," in December 2004. SFAS No. 123R is a revision of FASB
Statement 123, "Accounting for Stock-Based Compensation" and supersedes APB
Opinion No. 25, "Accounting for Stock Issued to Employees," and its related
implementation guidance. The Statement focuses primarily on accounting for
transactions in which an entity obtains employee services in share-based payment
transactions. SFAS No. 123R requires a public entity to measure the cost of
employee services received in exchange for an award of equity instruments based
on the grant-date fair value of the award (with limited exceptions). That cost
will be recognized over the period during which an employee is required to
provide service in exchange for the award. This statement is effective as of the
beginning of the first annual reporting period that begins after June 15, 2005
and the Company will adopt the standard in the first quarter of fiscal 2006. The
Company has not determined the impact that this statement will have on its
consolidated financial position or results of operations.
FINANCIAL CONDITION
2005 COMPARED TO 2004
At September 30, 2005, the company had total assets of $340.8 million,
a decrease of $93.6 million or 21.53% from the $434.4 million recorded at the
close of the comparable period one-year ago. Investments and mortgage-backed
securities at September 30, 2005, amounted to $115.8 million a decrease of $37.2
million or 24.32% from the $153.0 million held at September 30, 2004, as a
result of prepayments of $59.9 million offset in part by purchases of $$21.6
million. Loans receivable and loans held for sale at September 30, 2005,
amounted to $204.4 million, a decrease of 18.85% from the $251.9 million held at
September 30, 2004, primarily as a result of a $29.2 million decrease in the
bank's single family loan portfolio, coupled with a $16.2 million decline in
commercial and consumer loans outstanding. Those declines were due primarily to
payoffs and lower than anticipated loan originations. Deposits amounted to
$237.8 million at September 30, 2005, a decrease of $51.2 million from the
$289.0 million held one year ago, and was primarily the result of the sale of
three branches located in Washington, D.C., Winchester and Sterling, Virginia.
Those sales accounted for approximately $41.1 million of the decline in deposits
and was coupled with the $11.0 million decline in certificates of deposits of
$100,000 or more, continuing the bank's approach to rely less and less on those
types of deposit.
RESULTS OF OPERATIONS
2005 COMPARED TO 2004
NET INCOME. For the fiscal year ended September 30, 2005, the company
had a net loss of $1.6 million or $0.52 per diluted share compared to a loss of
$3.2 million or $1.06 per diluted share for fiscal year 2004. The $1.6 million
improvement in earnings over the comparable period one-year ago resulted from a
decrease of $3.2 million in non-interest expense and was coupled with a decrease
of $89,000 in provision for income taxes. Those improvements in expenses were
offset in part by a decrease of $1.6 million in non-interest income, a decrease
in net interest income of $64,000 and an increase in provision for loan losses.
The $10,000 increase in the provision for loan losses was due primarily to an
increase in the required allowance for non-performing loans, notwithstanding a
reduction in the required allowance loan losses based on the structure of the
Bank's overall loan portfolio.
NET INTEREST INCOME. An important source of our earnings is net
interest income, which is the difference between income earned on
interest-earning assets, such as loans, investment securities and
mortgage-backed securities, and interest paid on interest-bearing liabilities
such as deposits and borrowings. The level of net interest income is determined
primarily by the relative average balances of interest-earning assets and
interest-bearing liabilities in combination with the yields earned and rates
paid upon them. The correlation between the repricing of interest rates on
assets and on liabilities also influences net interest income.
The following table presents a comparison of the components of interest
income and expense and net interest income.
Years ended September 30, Difference
------------------------------- -------------------------------
2005 2004 Amount %
- ------------------------------------------------------------------------------------------------------------
(Dollars in thousands) Interest income:
Loans $ 12,908 $ 13,506 $ (598) (0.45)%
Investments 4,528 5,456 (928) (17.01)
- ------------------------------------------------------------------------------------------------------------
Total 17,436 18,962 (1,526) (8.05)
- ------------------------------------------------------------------------------------------------------------
Interest expense:
Deposits 6,337 5,751 586 10.19
Borrowings 4,556 6,604 (2,048) (31.01)
- ------------------------------------------------------------------------------------------------------------
Total 10,893 12,355 (1,462) (11.83)
- ------------------------------------------------------------------------------------------------------------
Net interest income $ 6,543 $ 6,607 $ (64) (0.97)%
============================================================================================================
Our decline in net interest income for fiscal year 2005 resulted
primarily from a $135.7 million decrease in the bank's average interest-earning
assets offset in part by a decrease of $132.7 million in the bank's average
interest-bearing liabilities coupled with a 46 basis point increase in net
interest margin (net interest income divided by average interest-earning
assets). The bank's net interest margin increased from 1.32% for fiscal year
ended September 30, 2004 to 1.78% for fiscal year ended September 30, 2005.
Contributing to the improvement in the bank's net interest margin was a $1.5
29
30
million decline in interest expense resulting from payments made on certain
interest rate swap and cap agreements in fiscal year 2005 compared to a charge
of $2.1 million in fiscal 2004. The improvement in net interest margin also
resulted from increasing the average yield on interest-earning assets by 44
basis points more than the increase in the average cost on average
interest-bearing liabilities, but was partially offset by a decrease in the
amount that the bank's average interest-earning assets exceeded the decrease in
average interest-bearing liabilities by $2.9 million.
INTEREST INCOME. Interest income for the fiscal year ended September
30, 2005 decreased $1.5 million compared to fiscal year 2004, primarily as a
result of a decrease in the average outstanding balances of loans and investment
securities. That decrease was partially offset by a 99 basis point increase of
in the average yield earned on interest earning assets.
INTEREST EXPENSE. The $1.5 million decrease in interest expense for
fiscal year 2005 compared to the 2004 period was principally the result of a
$132.7 million decrease in average deposits and borrowed funds. The decrease was
partially offset by a 55 basis point increase in the cost of funds on average
deposits and borrowed funds. The increase in interest expense on deposits was
primarily due to a 49 basis point increase in rates paid on certificates of
deposit, savings and NOW and money market accounts. That increase was partially
offset by a decrease of $30.1 million, in certificates, savings and NOW and
money market accounts from $275.6 million for fiscal 2004 to $245.5 million for
fiscal 2005. The increase in rates was primarily due to market rates moving
rates higher on interest-bearing demand deposits, savings accounts and
certificates and the pricing on new and renewed time deposits.
30
31
COMPARATIVE AVERAGE BALANCES AND INTEREST INCOME ANALYSIS. The
following table presents the total dollar amount of interest income from average
interest-earning assets and the resultant yields, as well as the interest
expense on average interest-bearing liabilities, expressed both in dollars and
annualized rates. No tax-equivalent adjustments were made and all average
balances are average daily balances. Non-accruing loans have been included in
the tables as loans carrying a zero yield.
Year Ended September 30,
---------------------------------------------------------------------------------------------------
2005 2004 2003
-------------------------------- -------------------------------- ----------------------------------
Interest Average Interest Average Interest Average
Average Income/ Yield/ Average Income/ Yield/ Average Income/ Yield/
Balance Expense Rate Balance Expense Rate Balance Expense Rate
---------------------------------------------------------------------------------------------------
(Dollars in Thousands)
Interest-earning assets:
Real estate loans $106,649 $ 6,857 6.43% $152,999 $ 8,582 5.61% $185,270 $10,194 5.50%
Consumer loans 71,817 3,748 5.22 68,268 2,566 3.76 63,548 2,539 4.00
Commercial business
loans 40,118 2,303 5.74 46,849 2,358 5.03 32,756 1,636 4.99
-------- ------- ------ -------- ------- ------- -------- ------- ------
Total loans 218,584 12,908 5.91 268,116 13,506 5.04 281,574 14,369 5.10
Investment securities 70,633 2,414 3.42 123,198 3,077 2.50 161,161 4,899 3.04
Mortgage-backed
securities 77,424 2,114 2.73 111,016 2,379 2.14 51,046 1,719 3.37
-------- ------- ------ -------- ------- ------- -------- ------- ------
Total
interest-earning
assets 366,641 17,436 4.76 502,330 18,962 3.77 493,781 20,987 4.25
------- ------ ------- ------- -------- ------
Non-earning assets 16,111 19,318 16,903
-------- -------- --------
Total assets $382,752 $521,648 $510,684
======== ======== ========
Liabilities and
Stockholders' Equity:
Interest-bearing
liabilities:
Savings accounts $ 10,202 94 0.92 $ 11,978 113 0.94 $ 9,686 122 1.26
Now and money
market accounts 64,723 1,197 1.85 77,981 852 1.09 76,744 1,050 1.37
Certificates of
deposit 170,593 5,046 2.96 185,677 4,786 2.58 193,039 5,501 2.85
-------- ------- ------ -------- ------- ------- -------- ------- ------
Total deposits 245,518 6,337 2.58 275,636 5,751 2.09 279,469 6,673 2.39
FHLB advances 44,422 1,985 4.47 116,155 2,779 2.39 102,868 2,657 2.58
Other borrowings 58,837 2,571 4.37 89,734 3,825 4.26 86,225 3,719 4.31
-------- ------- ------ -------- ------- ------- -------- ------- ------
Total
interest-bearing
liabilities 348,777 10,893 3.12 481,525 12,355 2.57 468,562 13,049 2.78
------- ------ ------- ------- -------- ------
Noninterest-bearing
liabilities:
Noninterest-bearing
demand deposits 14,138 15,243 17,130
Other liabilities 1,800 3,848 5,283
-------- -------- --------
Total liabilities 364,715 500,616 490,975
Stockholders' equity 18,037 21,032 19,709
-------- -------- --------
Total liabilities
and stockholders'
equity $382,752 $521,648 $510,684
======== ======== ========
Net interest income $ 6,543 $ 6,607 $ 7,938
======= ======= =======
Interest rate spread 1.64% 1.21% 1.47%
======= ======= ======
Net interest margin 1.78% 1.32% 1.61%
======= ======= ======
32
RATE/VOLUME ANALYSIS. The following table presents certain information
regarding changes in interest income and interest expense attributable to
changes in interest rates and changes in volume of interest-earning assets and
interest-bearing liabilities for the periods indicated. The change in interest
attributable to both rate and volume has been allocated to the changes in rate
and volume on a pro rata basis.
Year Ended September 30, 2005 Year Ended September 30, 2004
Compared to Year Compared to Year
Ended September 30, 2004 Ended September 30, 2003
Change Attributable to Change Attributable to
-----------------------------------------------------------------------
Volume Rate Total Volume Rate Total
- -----------------------------------------------------------------------------------------------------------
(In Thousands)
Real estate loans $ (2,600) $ 875 $ (1,725) $ (1,776) $ 164 $ (1,612)
Consumer loans 133 1,049 1,182 189 (162) 27
Commercial business loans (339) 284 (55) 704 18 722
- -----------------------------------------------------------------------------------------------------------
Total loans (2,806) 2,208 (598) (883) 20 (863)
Investments (1,313) 650 (663) (1,154) (668) (1,822)
Mortgage-backed securities (720) 455 (265) 2,020 (1,360) 660
- -----------------------------------------------------------------------------------------------------------
Total interest-earning assets $ (4,839) $ 3,313 $ (1,526) $ (17) $(2,008) $ (2,025)
===========================================================================================================
Savings accounts $ (17) $ (2) $ (19) $ 29 $ (38) $ (9)
Now and money market accounts (145) 490 345 17 (215) (198)
Certificates of deposit (389) 649 260 (210) (505) (715)
- -----------------------------------------------------------------------------------------------------------
Total deposits (551) 1,137 586 (164) (758) (922)
FHLB advances (1,716) 922 (794) 343 (221) 122
Other borrowings (1,317) 63 (1,254) 151 (45) 106
- -----------------------------------------------------------------------------------------------------------
Total interest-bearing liabilities $ (3,584) $ 2,122 $ (1,462) $ 330 $(1,024) $ (694)
===========================================================================================================
Change in net interest income $ (1,255) $ 1,191 $ (64) $ (347) $ (984) $ (1,331)
===========================================================================================================
PROVISION FOR LOAN LOSSES. The allowance for loan losses, which is
established through provisions for losses charged to expense, is increased by
recoveries on loans previously charged off and is reduced by charge-offs on
loans. Determining the proper reserve level or allowance involves management's
judgment based upon a review of factors, including the company's internal review
process, which segments the loan portfolio into groups based on loan type.
Management then looks at its classified assets, which are loans 30 days or more
delinquent, and classifies those loans as special mention, substandard or
doubtful, based on the performance of the loans. Those classified loans are then
individually evaluated for impairment. Since the historical three-year loss
experience for the bank is new, those loans that are not classified are not
individually evaluated. Those loans that are not individually evaluated are then
segmented by type and assigned a reserve percentage that reflects the industry
loss experience. The loans individually evaluated for impairment are measured by
either the present value of expected future cash flows, the loans observable
market price, or the fair value of the collateral. Although management utilizes
its best judgment in providing for probable losses, there can be no assurance
that the bank will not have to increase its provisions for loan losses in the
future. An increase in provision may result from an adverse market for real
estate and economic conditions generally in the company's primary market area,
future increases in non-performing assets or for other reasons which would
adversely affect the company's results of operations.
Non-performing assets were $1.8 million or 0.54% of total assets at
September 30, 2005, compared to non-performing assets of $953,000 or 0.22%of
total assets at September 30, 2004. At September 30, 2005, assets of $1.6
million were classified as substandard, $27,000 classified as doubtful and
$232,000 classified as real estate owned. The increase in non-performing assets
from the comparable period one-year ago was due primarily to a $1.0 million home
loan that became non-performing. As a result, the Bank provided an increase of
$46,000 in the required allowance for the Bank's non-performing loans.
Notwithstanding a reduction in the required allowance, based on the structure of
the Bank's overall loan portfolio, the provision for loan losses was increased
due primarily to an increase in the required allowance for non-performing loans.
NON-INTEREST INCOME. Non-interest income decreased $1.6 million during
fiscal 2005, over fiscal 2004. That decrease was primarily the result of a
decrease of $4.5 million in gain on sale of loans. The decrease was partially
offset by increases of $1.1 million in gains on derivatives, $980,000 in other
operating income, $597,000 in gains on sale of investments and $219,000 in
service fee income. The level of gain on sale of loans during fiscal 2005
resulted from lower than anticipated loan origination and sales volumes at the
bank's mortgage banking subsidiary and lower margins on those sales than those
obtained in the year-ago period. The increase in other operating income reflects
the gain of $945,000 recognized from the sale of the bank's Washington D.C.,
Winchester and Sterling, Virginia, branches.
32
33
During fiscal year 2005, disbursements on loans originated for sale
amounted to $276.0 million compared to $403.0 million during fiscal year 2004.
The $127.0 million decrease in loans originated and disbursed was largely
attributable to a decline in originations by the bank's subsidiary mortgage
corporation as originations under its FHA streamline refinancing program
declined. During the year, substantially all loans originated were sold in the
secondary market, in most cases with servicing released. Proceeds from the sale
of loans for fiscal 2005 amounted to $276.8 million compared to $413.2 million
during fiscal year 2004. Sales of loans resulted in gains of $4.7 million and
$9.2 million for fiscal 2005 and fiscal 2004, respectively.
The following table presents a comparison of the components of
non-interest income.
Years Ended September 30, Difference
-------------------------------- ------------------------------------
2005 2004 Amount %
- ------------------------------------------------------------------------------------------------------------------
(Dollars in Thousands)
Noninterest income:
Gain on sale of loans $ 4,720 $ 9,191 $ (4,471) (48.65)%
Service fees on loans 659 237 422 178.06
Service fees on deposits 552 755 (203) (26.89)
Gain (loss) on sale of investment
securities 539 (58) 597 1,029.31
Gain (loss) on derivatives 836 (227) 1,063 468.28
Other operating income 1,011 31 980 3,161.29
- ------------------------------------------------------------------------------------------------------------------
Total noninterest income $ 8,317 $ 9,929 $ (1,612) (16.24)%
==================================================================================================================
NON-INTEREST EXPENSE. Noninterest expense for fiscal 2005 amounted to
$16.2 million, a decrease of $3.2 million or 16.63% from the $19.4 million
incurred in fiscal 2004. The decrease was primarily attributable to a $2.7
million decrease in the mortgage company's non-interest expense from the
comparable period one year ago as a result of decreased loan origination and
sales and a new compensation agreement entered into with the manager of the
mortgage company. The decrease in non-interest expense at the mortgage company
level was primarily $2.3 million in compensation of which $1.8 was an expense
reimbursement by the manager, under the manager's agreement, coupled with
decreases in other operating expenses, data processing and occupancy. The
expense reimbursement by the manager was reduced by $993,000 to $1.8 million,
because his escrow account was depleted and he had not posted sufficient
collateral to securitize the account receivable due from him. Working under
extensions to the existing agreement the mortgage company attempted to obtain an
amendment to the agreement and to obtain additional collateral from the manager.
Based on the progress of those negotiations, and the need for the Bank to obtain
regulatory approval for any amendment, the Company has concluded that an
agreement cannot be reached in a timely fashion and, therefore, that collection
of the receivable is not assured. Accordingly, at September 30, 2005, the
Company set up a reserve for loss and charged $993,000 against earnings to
account for the funds that would otherwise have been contributed to the mortgage
company by the manager. Those decreases were offset by increases in advertising,
furniture fixtures and equipment and professional services. The decrease in the
bank's non-interest expense amounted to $481,000 distributed over various
non-interest expense categories and was primarily due to a decline of $422,000
in occupancy expense.
The following table presents a comparison of the components of
noninterest expense.
Years Ended September 30, Difference
------------------------------ ------------------------------
2005 2004 Amount %
- ---------------------------------------------------------------------------------------------------------------
(Dollars in Thousands)
Noninterest expense:
Compensation and employee benefits $ 5,985 $ 8,401 $ (2,416) (28.76)%
Occupancy 1,698 2,161 (463) (21.43)
Professional services 1,224 917 307 33.48
Advertising 2,759 2,563 196 7.65
Deposit insurance premium 100 44 56 127.27
Furniture, fixtures and equipment 1,088 1,139 (51) (4.48)
Data processing 1,127 1,465 (338) (23.07)
Other operating expense 2,218 2,740 (522) (19.05)
- ---------------------------------------------------------------------------------------------------------------
Total noninterest expense $ 16,199 $ 19,430 $ (3,231) (16.63)%
===============================================================================================================
INCOME TAXES. The company files a consolidated federal income tax
return with its subsidiaries and computes its income tax provision or benefit on
a consolidated basis. The company believes that it will generate future taxable
income to assure utilization of the existing net operating losses.
33
34
Management has provided a valuation allowance for net deferred tax
assets of $3.0 million, due to the timing of the generation of future taxable
income.
At September 30, 2005, the company had net operating loss carryforwards
totaling approximately $6.1 million, which expire in years 2006 to 2022. As a
result of the change in ownership of the bank, approximately $1.5 million of the
total net operating loss carryforwards is subject to an annual usage limitation
of approximately $114,000.
34
35
CONTRACTUAL COMMITMENTS AND OBLIGATIONS
The following summarizes the company's contractual cash obligations and
commercial commitments, including maturing certificates of deposit, as of
September 30, 2005 and the effect such obligations may have on liquidity and
cash flow in future periods.
Less Than Two-Three Four-Five After Five
Total One Year Years Years Years
- -----------------------------------------------------------------------------------------------------------
(In Thousands)
FHLB Advances (1) $ 38,000 $ 7,000 $ 6,000 $ 25,000 $ -
Reverse repurchase agreements 38,479 38,479 - - -
Operating leases: 5,737 1,045 2,101 1,808 783
- -----------------------------------------------------------------------------------------------------------
Total obligations $ 82,216 $46,524 $ 8,101 $ 26,808 $ 783
===========================================================================================================
(1) The company expects to refinance these short and medium-term obligations
under substantially the same terms and conditions.
OTHER COMMERCIAL COMMITMENTS
Less Than Two-Three Four-Five After Five
Total One Year Years Years Years
- -----------------------------------------------------------------------------------------------------------
(In Thousands)
Certificates of deposit maturities(1) $ 145,912 $ 99,221 $ 38,627 $ 8,064 $ -
Loan originations 65,873 65,873 - - -
Unfunded lines of credit 109,203 109,203 - - -
Standby letter of credit 101 101 - - -
- -------------------------------------------------------------------------------------------------------
Total $ 321,089 $274,398 $ 38,627 $ 8,064 $ -
===========================================================================================================
(1) The company expects to retain maturing deposits or replace amounts
maturing with comparable certificates of deposits based on current
market interest rates.
ASSET-LIABILITY MANAGEMENT
The primary objective of asset/liability management is to ensure the
steady growth of the company's primary earnings component, net interest income,
and the maintenance of reasonable levels of capital independent of fluctuating
interest rates. Interest rate risk can be defined as the vulnerability of an
institution's financial condition and/or results of operations to movements in
interest rates. Interest rate risk, or sensitivity, arises when the maturity or
repricing characteristics of assets differ significantly from the maturity or
repricing characteristics of liabilities. Management endeavors to structure the
balance sheet so that repricing opportunities exist for both assets and
liabilities in roughly equivalent amounts at approximately the same time
intervals to maintain interest rate risk at an acceptable level.
Management oversees the asset/liability management function and meets
periodically to monitor and manage the structure of the balance sheet, control
interest rate exposure, and evaluate pricing strategies for the company. The
asset mix of the balance sheet is continually evaluated in terms of several
variables: yield, credit quality, and appropriate funding sources and liquidity.
Management of the liability mix of the balance sheet focuses on expanding the
company's various funding sources. At times, depending on the general level of
interest rates, the relationship between long- and short-term interest rates,
market conditions and competitive factors, the bank may determine to increase
our interest rate risk position in order to increase our net interest margin.
The bank manages its exposure to interest rates by structuring the
balance sheet in the ordinary course of business. The bank currently emphasizes
adjustable rate loans and/or loans that mature in a relatively short period when
compared to single-family residential loans. In addition, to the extent
possible, the bank attempts to attract longer-term deposits. While the bank has
entered into interest rate swaps and caps to assist in managing interest rate
risk, it has not entered into instruments such as leveraged derivatives,
structured notes, financial options, financial futures contracts or forward
delivery contracts to manage interest rate risk.
One of the ways the bank monitors interest rate risk is through an
analysis of the relationship between interest-earning assets and
interest-bearing liabilities to measure the impact that future changes in
interest rates will have on net interest income. An interest rate sensitive
asset or liability is one that, within a defined time period, either matures or
experiences an interest rate change in line with general market interest rates.
The management of interest rate risk is performed by analyzing the maturity and
repricing relationships between interest-earning assets and interest-bearing
liabilities at specific points in time ("GAP") and by analyzing the effects of
interest rate changes on net interest income over specific periods of time by
projecting the performance of the mix of assets and liabilities in varied
interest rate environments.
35
36
The table below to be updated illustrates the maturities or repricing
of the company's assets and liabilities, including noninterest-bearing sources
of funds to specific periods, at September 30, 2005. Estimates and assumptions
concerning allocating prepayment rates of major asset categories are based on
information obtained from Farin and Associates on projected prepayment levels on
mortgage-backed and related securities and decay rates on savings, NOW and money
market accounts. The bank believes that such information is consistent with our
current experience.
-----------------------------------------------------------------------------------------------------------------------
Three
91 Days 181 Days One Year Years to Five
90 Days to 180 to Dne to Three Five Years or
Maturing or Repricing Periods or Less Days Year Years Years More Total
-----------------------------------------------------------------------------------------------------------------------
(Dollars in Thousands)
Interest-earning assets
Loans:
Adjustable and balloon $ 25,848 $ 2,907 $ 9,526 $ 16,841 $ 4,412 $ 541 $ 60,075
Fixed-rate 10,199 674 7,879 3,272 3,419 13,495 38,938
Commercial business 25,526 1,709 1,069 2,103 1,452 2,494 34,353
Consumer 69,054 45 68 134 46 31 69,378
Investment securities 59,443 - 1,000 - - 2,503 62,946
Mortgage-backed securities 12,179 14,724 17,158 12,559 16 6 56,642
-----------------------------------------------------------------------------------------------------------------------
Total 202,249 20,059 36,700 34,909 9,345 19,070 322,332
-----------------------------------------------------------------------------------------------------------------------
Interest-bearing liabilities:
Deposits:
Savings accounts 583 583 1,010 2,716 1,445 1,741 14,266
NOW accounts 975 975 1,816 5,168 3,274 5,666 29,412
Money market accounts 3,494 3,494 6,326 17,157 8,917 9,376 44,772
Certificates of deposit 54,010 - 50,012 34,433 7,457 - 181,924
Borrowings:
FHLB advances 5,000 - - 8,000 - 25,000 51,200
Other borrowings 38,479 - - - - 9,378 74,234
Derivatives matched against
liabilities (34,000) - 3,000 25,000 6,000 - -
-----------------------------------------------------------------------------------------------------------------------
Total 68,541 5,052 62,164 92,474 27,093 51,161 395,808
-----------------------------------------------------------------------------------------------------------------------
GAP $133,708 $ 15,007 $(25,464) $(57,565) $(17,748) $(52,091) $ 15,777
=======================================================================================================================
Cumulative GAP $133,708 $148,715 $123,251 $ 65,686 $ 47,938 $ 15,847
=======================================================================================================================
Ratio of Cumulative GAP
to total interest earning assets 41.48% 46.14% 38.24% 20.38% 14.87% 4.92%
=======================================================================================================================
As indicated in the interest rate sensitivity table, the twelve-month
cumulative gap, representing the total net assets and liabilities that are
projected to re-price over the next twelve months, was asset sensitive in the
amount of $123.3 million at September 30, 2005.
While the GAP position is a useful tool in measuring interest rate risk
and contributes toward effective asset and liability management, it is difficult
to predict the effect of changing interest rates solely on the GAP measure
without accounting for alterations in the maturity or repricing characteristics
of the balance sheet that occur during changes in market interest rates. The GAP
position reflects only the prepayment assumptions pertaining to the current rate
environment, and assets tend to prepay more rapidly during periods of declining
interest rates than they do during periods of rising interest rates.
Management uses two other analyses to manage interest rate risk: (1) an
earnings-at-risk analysis to develop an estimate of the direction and magnitude
of the change in net interest income if rates move up or down 300 basis points;
and (2) a value-at-risk analysis to estimate the direction and magnitude of the
change in net portfolio value if rates move up or down 200 to 300 basis points.
Currently the bank uses a sensitivity of net interest income analysis prepared
by Farin and Associates to measure earnings-at-risk and the OTS Interest Rate
Risk Exposure Report to measure value-at-risk.
36
37
The following table sets forth the earnings at risk analysis that
measures the sensitivity of net interest income to changes in interest rates at
September 30, 2005:
Net Interest Income Sensitivity Analysis
---------------------------------------------------------------------
Changes in Rate Basis Point Percent
by Basis Net Interest Change Change From
Point Margin From Base Base
----------------- --------------- --------------- -----------------
+300 1.94% (0.29)% (13.00)%
+200 2.05% (0.18)% (8.07)%
+100 2.15% (0.08)% (3.59)%
+0 2.23% - -
-100 2.34% 0.11% 4.93%
-200 2.37% 0.14% 6.28%
-300 2.36% 0.13% 5.83%
In a rising rate scenario the bank is not within the limits established
by the board of directors. Management will monitor the situation over the next
several quarters to determine if a change should be made in our position.
The above table indicates that, based on an immediate and sustained 200
basis point increase in market interest rates, net interest margin, as measured
as a percent of total assets, would decrease by 18 basis points or 8.07% and, if
interest rates decrease 200 basis points, net interest margin, as a percent of
total assets, would increase by 14 basis points or 6.28%.
The net interest income sensitivity analysis does not represent a
forecast and should not be relied upon as being indicative of expected operating
results. The estimates used are based upon assumptions as to the nature and
timing of interest rate levels including the shape of the yield curve. Those
estimates have been developed based upon current economic conditions; the
company cannot make any assurances as to the predictive nature of these
assumptions including how customer preferences or competitor influences might
change.
Presented below, as of September 30, 2005, is an analysis of our
interest rate risk as measured by changes in net portfolio value for parallel
shifts of up 300 and down 200 basis points in market interest rates:
Net Portfolio Value as a Percent of
Net Portfolio Value the Present Value of Assets
---------------------------------- --------------------------------------
Changes in Rates Dollar Percent Net Portfolio Change in
(bp) Change Change Value Ratio NPV Ratio
- ----------------------------------------------------------------------------------------------
(Dollars in thousands)
+300 $ (574) (1.78)% 9.34% 0.08%
+200 710 2.21% 9.61% 0.35%
+100 519 1.61 9.48 0.22
+0 - - 9.26 -
-100 (2,050) (6.37) 8.64 (0.62)
-200 (4,422) (13.74) 7.94 (1.32)
The improvement in net portfolio value of $710,000 or 2.21% in the
event of a 200 basis point increase in rates is a result of the current amount
of adjustable rate loans and investments held by the bank as of September 30,
2005. The foregoing increase in net portfolio value, in the event of an increase
in interest rates of 200 basis points, currently exceeds the company's internal
board guidelines.
In addition to the strategies set forth above, in 2002, the bank began
using derivative financial instruments, such as interest rate swaps, to help
manage interest rate risk. The bank does not use derivative financial
instruments for trading or speculative purposes. All derivative financial
instruments are used in accordance with board-approved risk management policies.
The bank enters into interest rate swap agreements principally to
manage its exposure to the impact of rising short-term interest rates on its
earnings and cash flows. Since short-term interest rates have increased since
the inception of the interest rate swap agreements, the change in fair value of
the interest rate swap agreements has resulted in gains of approximately
$199,000 for fiscal 2005. The bank does not foresee any significant changes in
the strategies used to manage interest rate risk in the near future.
37
38
2004 COMPARED TO 2003
NET INCOME. For the fiscal year ended September 30, 2004, the company
sustained net losses of $3.2 million or $1.06 per diluted share, compared to net
earnings of $2.3 million or $0.60 per diluted share for fiscal year 2003. The
$5.5 million decrease in net earnings was primarily due to decreases in
non-interest income and net interest income, which were only partially offset by
a decrease in non-interest expense. A decline in the FHA Streamline refinancing
market, which appears to have peaked in fiscal 2003, led to a decline in loan
originations and sales at the bank's mortgage banking subsidiary and contributed
to the decline in net earnings.
NET INTEREST INCOME. An important source of our earnings is net
interest income, which is the difference between income earned on
interest-earning assets, such as loans, investment securities and
mortgage-backed securities, and interest paid on interest-bearing liabilities
such as deposits and borrowings. The level of net interest income is determined
primarily by the relative average balances of interest-earning assets and
interest-bearing liabilities in combination with the yields earned and rates
paid upon them. The correlation between the repricing of interest rates on
assets and on liabilities also influences net interest income.
The following table presents a comparison of the components of interest
income and expense and net interest income.
Years ended September 30, Difference
------------------------------- -------------------------------
2004 2003 Amount %
- ------------------------------------------------------------------------------------------------------------
(Dollars in thousands) Interest income:
Loans $ 13,506 $ 14,369 $ (863) (6.01)%
Investments 5,456 6,618 (1,162) (17.56)
- ------------------------------------------------------------------------------------------------------------
Total 18,962 20,987 (2,025) (9.65)
- ------------------------------------------------------------------------------------------------------------
Interest expense:
Deposits 5,751 6,673 (922) (13.82)
Borrowings 6,604 6,376 228 3.58
- ------------------------------------------------------------------------------------------------------------
Total 12,355 13,049 (694) (5.32)
- ------------------------------------------------------------------------------------------------------------
Net interest income $ 6,607 $ 7,938 $ (1,331) (16.77)%
============================================================================================================
Our decline in net interest income for fiscal year 2004 resulted
primarily from a 29 basis point decrease in net interest margin (net interest
income divided by average interest-earning assets) from 1.61% for fiscal year
ended September 30, 2003 to 1.32% for fiscal year ended September 30, 2004,
offset in part by an $8.5 million increase in the bank's interest-earning
assets. The decrease in net interest margin resulted from a charge of $2.7
million, representing payments made on certain interest rate swap and cap
agreements, that took effect during fiscal year 2004, and payment on the
company's trust preferred securities compared to a charge of $2.5 million in
fiscal year 2003. That decrease was coupled with increases in average interest
bearing liabilities exceeding increases in average interest earning assets by
$4.4 million and by the average yield on interest earning assets declining 27
basis points more than the average cost on interest bearing liabilities.
INTEREST INCOME. Interest income for the fiscal year ended September
30, 2004 decreased $2.0 million compared to fiscal year 2003, primarily as a
result of a 48 basis point decrease in the average yield earned on interest
earning assets. That decrease was partially offset by an increase of $8.5
million in the average outstanding balances of loans and investment securities.
INTEREST EXPENSE. The $694,000 decrease in interest expense for fiscal
year 2004 compared to fiscal year 2003 was principally the result of a 21 basis
point decrease in the cost of funds on average deposits and borrowed funds. That
decrease was offset by a $13.0 million increase in average deposits and borrowed
funds. The decrease in interest expense on deposits was primarily due to a 30
basis point decrease in rates paid on average certificates of deposit, savings
and NOW and money market accounts and was coupled with a $3.9 million or 1.37%
decrease in certificates, savings and NOW and money market accounts, from $279.5
million for fiscal 2003 to $275.6 million for fiscal 2004. The increase in
borrowing expense was primarily attributable to average borrowings increasing by
$16.8 million. That increase was offset by a decline of 21 basis points in the
average cost of borrowings resulting in an overall increase of $228,000 in the
average borrowing expense.
38
39
COMPARATIVE AVERAGE BALANCES AND INTEREST INCOME ANALYSIS. The
following table presents the total dollar amount of interest income from average
interest-earning assets and the resultant yields, as well as the interest
expense on average interest-bearing liabilities, expressed both in dollars and
annualized rates. No tax-equivalent adjustments were made and all average
balances are average daily balances. Non-accruing loans have been included in
the tables as loans carrying a zero yield.
Year Ended September 30,
---------------------------------------------------------------------------------------------------
2004 2003 2002
---------------------------------------------------------------------------------------------------
Interest Average Interest Average Interest Average
Average Income/ Yield/ Average Income/ Yield/ Average Income/ Yield/
Balance Expense Rate Balance Expense Rate Balance Expense Rate
---------------------------------------------------------------------------------------------------
(Dollars in Thousands)
Interest-earning assets:
Real estate loans $152,999 $ 8,582 5.61% $ 185,270 $10,194 5.50% $165,933 $10,217 6.16%
Consumer loans 68,268 2,566 3.76 63,548 2,539 4.00 49,861 2,305 4.62
Commercial
business loans 46,849 2,358 5.03 32,756 1,636 4.99 23,548 1,517 6.44
-------- ------- ------- --------- ------- ------ -------- ------- ------
Total loans 268,116 13,506 5.04 281,574 14,369 5.10 239,342 14,039 5.87
Investment securities 123,198 3,077 2.50 161,161 4,899 3.04 155,350 5,796 3.73
Mortgage-backed
securities 111,016 2,379 2.14 51,046 1,719 3.37 39,320 1,947 4.95
-------- ------- ------- --------- ------- ------ -------- ------- ------
Total
interest-earning
assets 502,330 18,962 3.77 493,781 20,987 4.25 434,012 21,782 5.02
------- ------- ------- ------ -------- ------
Non-earning assets 19,318 16,903 15,929
-------- --------- --------
Total assets $521,648 $ 510,684 $449,941
======== ========= ========
Liabilities and
Stockholders' Equity:
Interest-bearing
liabilities:
Savings accounts $11,978 113 0.94 $ 9,686 122 1.26 $ 5,852 118 2.02
Now and money
market accounts 77,981 852 1.09 76,744 1,050 1.37 73,505 1,621 2.21
Certificates of
deposit 185,677 4,786 2.58 193,039 5,501 2.85 163,763 6,569 4.01
-------- ------- ------- --------- ------- ------ -------- ------- ------
Total deposits 275,636 5,751 2.09 279,469 6,673 2.39 243,120 8,308 3.42
FHLB advances 116,155 2,779 2.39 102,868 2,657 2.58 99,269 3,074 3.10
Other borrowings 89,734 3,825 4.26 86,225 3,719 4.31 68,577 2,353 3.43
-------- ------- ------- --------- ------- ------ -------- ------- ------
Total
interest-bearing
liabilities 481,525 12,355 2.57 468,562 13,049 2.78 410,966 13,735 3.34
------- ------- ------- ------ -------- ------
Noninterest-bearing
liabilities:
Noninterest-bearing
demand deposits 15,243 17,130 15,291
Other liabilities 3,848 5,283 2,789
-------- --------- --------
Total liabilities 500,616 490,975 429,046
Stockholders' equity 21,032 19,709 20,895
-------- --------- --------
Total liabilities
and stockholders'
equity $ 521,648 $ 510,684 $449,941
========= ========= ========
Net interest income $ 6,607 $ 7,938 $ 8,047
======= ======= =======
Interest rate spread 1.21% 1.47% 1.68%
====== ====== ======
Net interest margin 1.32% 1.61% 1.85%
====== ====== ======
39
40
RATE/VOLUME ANALYSIS. The following table presents certain information
regarding changes in interest income and interest expense attributable to
changes in interest rates and changes in volume of interest-earning assets and
interest-bearing liabilities for the periods indicated. The change in interest
attributable to both rate and volume has been allocated to the changes in rate
and volume on a pro rata basis.
Year Ended September 30, 2004 Year Ended September 30, 2003
Compared to Year Compared to Year
Ended September 30, 2003 Ended September 30, 2002
Change Attributable to Change Attributable to
-----------------------------------------------------------------------
Volume Rate Total Volume Rate Total
- -----------------------------------------------------------------------------------------------------------
(In Thousands)
Real estate loans $ (1,776) $ 164 $ (1,612) $ 1,191 $ (1,214) $ (23)
Consumer loans 189 (162) 27 633 (399) 234
Commercial business loans 704 18 722 593 (474) 119
- -----------------------------------------------------------------------------------------------------------
Total loans (883) 20 (863) 2,417 (2,087) 330
Investments (1,154) (668) (1,822) 217 (1,114) (897)
Mortgage-backed securities 2,020 (1,360) 660 581 (809) (228)
- -----------------------------------------------------------------------------------------------------------
Total interest-earning assets $ (17) $(2,008) $ (2,025) $ 3,215 $(4,010) $ (795)
===========================================================================================================
Savings accounts $ 29 $ (38) $ (9) $ 77 $ (73) $ 4
Now and money market accounts 17 (215) (198) 71 (642) (571)
Certificates of deposit (210) (505) (715) 1,174 (2,242) (1,068)
- -----------------------------------------------------------------------------------------------------------
Total deposits (164) (758) (922) 1,322 (2,957) (1,635)
FHLB advances 343 (221) 122 111 (528) (417)
Other borrowings 151 (45) 106 606 760 1,366
- -----------------------------------------------------------------------------------------------------------
Total interest-bearing liabilities $ 330 $(1,024) $ (694) $ 2,039 $(2,725) $ (686)
===========================================================================================================
Change in net interest income $ (347) $ (984) $ (1,331) $ 1,176 $(1,285) $ (109)
===========================================================================================================
PROVISION FOR LOAN LOSSES. The allowance for loan losses, which is
established through provisions for losses charged to expense, is increased by
recoveries on loans previously charged off and is reduced by charge-offs on
loans. Determining the proper reserve level or allowance involves management's
judgment based upon a review of factors, including the company's internal review
process, which segments the loan portfolio into groups based on loan type.
Management then looks at its classified assets, which are loans 30 days or more
delinquent, and classifies those loans as special mention, substandard or
doubtful, based on the performance of the loans. Those classified loans are then
individually evaluated for impairment. Since the historical three-year loss
experience for the bank is new, those loans that are not classified are not
individually evaluated. Those loans are then segmented by type and assigned a
reserve percentage that reflects the industry loss experience. The loans
individually evaluated for impairment are measured by either the present value
of expected future cash flows, the loans observable market price, or the fair
value of the collateral. Although management utilizes its best judgment in
providing for probable losses, there can be no assurance that the bank will not
have to increase its provisions for loan losses in the future. An increase in
provision may result from an adverse market for real estate and economic
conditions generally in the company's primary market area, future increases in
non-performing assets or for other reasons which would adversely affect the
company's results of operations.
Non-performing assets were $953,000 or 0.22% of total assets at
September 30, 2004, compared to $1.4 million at September 30, 2003, with $1.1
million classified as substandard and $66,000 classified as doubtful.
Non-performing assets decreased $465,000 from the comparable period one year
ago, the provision for loan losses decreased $647,000. The decrease in
non-performing assets from the year ago period was due to the non-performing
status of one of the bank's commercial business loans. The decrease in provision
was due primarily to a reduction in the required provision for that loan since
the bank is in the process of liquidating that loan from the cash flow of the
collateral securing the loan.
NONINTEREST INCOME. Noninterest income decreased $9.0 million during
fiscal 2004 over fiscal 2003. That decrease was primarily the result of the
decrease in gain on sale of loans along with decreases in service charges on
deposits and loans, gains on sale of investment securities and gains on
derivatives. Those decreases were offset by a $34,000 increase in gain on sale
of real estate owned and other operating income. The level of gains on sale of
loans during fiscal 2004 resulted from lower than anticipated loan origination
and sales volumes at the bank's mortgage banking subsidiary and lower margins
than those obtained in fiscal year 2003.
40
41
During fiscal year 2004, disbursements on loans originated for sale
amounted to $403.0 million compared to $722.1 million during fiscal year 2003.
The $319.1 million decrease in loans originated and disbursed was largely
attributable to increases in market interest rates, which resulted in decreased
home mortgage refinancings. During the year, substantially all loans originated
were sold in the secondary market, in most cases with servicing released.
Proceeds from the sale of loans for fiscal 2004 amounted to $413.2 million
compared to $747.4 million during fiscal year 2003. Sales of loans resulted in
gains of $9.2 million and $17.4 million for fiscal 2004 and fiscal 2003,
respectively.
The following table presents a comparison of the components of
non-interest income.
Years Ended September 30, Difference
-------------------------------- ------------------------------------
2004 2003 Amount %
- ------------------------------------------------------------------------------------------------------------------
(Dollars in Thousands)
Noninterest income:
Gain on sale of loans $ 9,191 $ 17,373 $ (8,182) (47.10)%
Service fees on loans 237 706 (469) (66.43)
Service fees on deposits 755 769 (14) (1.82)
Gain on sale of investment securities (58) 35 (93) (265.71)
Gain (loss) on derivatives (227) 9 (236) (2,622.22)
Loss on sale of real estate owned - (24) 24 100.00
Other operating income 31 21 10 47.62
- ------------------------------------------------------------------------------------------------------------------
Total noninterest income $ 9,929 $ 18,889 $ (8,960) (47.44)%
==================================================================================================================
NONINTEREST EXPENSE. Noninterest expense for fiscal 2004 amounted to
$19.4 million, a decrease of $4.3 million or 18.05% from the $23.7 million
incurred in fiscal 2003. The decrease was primarily attributable to a $4.6
million decrease in the mortgage banking subsidiary's noninterest expense as a
result of decreased loan origination and sales activity. That decrease was
primarily in compensation of $5.8 million, professional services and other
operating expenses of $568,000. The increase in the bank's noninterest expense
of $356,000 was primarily in compensation, occupancy and data processing. Those
increases were offset by decreases in professional services, advertising,
depreciation expense on furniture fixtures and equipment, and other operating
expense. The decrease in compensation at the mortgage subsidiary resulted from a
decrease in commissions to loan officers, due to decreased loan production and
the related employee benefit costs associated with the decrease in their
compensation.
The following table presents a comparison of the components of
noninterest expense.
Years Ended September 30, Difference
------------------------------ ------------------------------
2004 2003 Amount %
- ---------------------------------------------------------------------------------------------------------------
(Dollars in Thousands)
Noninterest expense:
Compensation and employee benefits $ 8,401 $ 13,706 $ (5,305) (38.71)%
Occupancy 2,161 1,963 198 10.09
Professional services 917 1,329 (412) (31.00)
Advertising 2,563 1,072 1,491 139.09
Deposit insurance premium 44 46 (2) (4.35)
Furniture, fixtures and equipment 1,139 1,069 70 6.55
Data processing 1,465 1,317 148 11.24
Real estate owned expense - 5 (5) (100.00)
Other operating expense 2,740 3,204 (464) (14.48)
- ---------------------------------------------------------------------------------------------------------------
Total noninterest expense $ 19,430 $ 23,711 $ (4,281) (18.05)%
===============================================================================================================
INCOME TAXES. The company files a consolidated federal income tax
return with its subsidiaries and computes its income tax provision or benefit on
a consolidated basis. The company believes that it will generate future taxable
income to assure utilization of the existing net operating losses.
Management has provided a valuation allowance for net deferred tax
assets of $3.0 million, due to the timing of the generation of future taxable
income.
At September 30, 2004, the company had net operating loss carryforwards
totaling approximately $10.0 million, which expire in years 2006 to 2021. As a
result of the change in ownership of the bank, approximately $1.5 million of the
total net operating loss carryforwards is subject to an annual usage limitation
of approximately $114,000.
41
42
LIQUIDITY AND CAPITAL RESOURCES
LIQUIDITY. The bank's primary sources of funds are deposits, principal
and interest payments on loans, mortgage-backed and investment securities and
borrowings. While maturities and scheduled amortization of loans are predictable
sources of funds, deposit flows and mortgage prepayments are greatly influenced
by general interest rates, economic conditions and competition. The bank has
continued to maintain the levels of liquid assets as previously required by OTS
regulations. The bank manages its liquidity position and demands for funding
primarily by investing excess funds in short-term investments and utilizing FHLB
advance and reverse repurchase agreements in periods when the bank's demands for
liquidity exceed funding from deposit inflows.
The bank's most liquid assets are cash and cash equivalents, interest
bearing deposits and securities available-for-sale. The levels of those assets
are dependent on the bank's operating, financing, lending and investing
activities during any given period. At September 30, 2005, cash and cash
equivalents, interest bearing deposits and securities available-for-sale totaled
$114,531 million, or 33.61% of total assets.
The primary investing activities of the bank are the origination of
residential one- to four-family loans, commercial real estate loans, real estate
construction and development loans, commercial business and consumer loans and
the purchase of United States Treasury and agency securities, mortgage-backed
and mortgage-related securities and other investment securities. During the year
ended September 30, 2005, the bank's loan originations and purchases totaled
$112.4 million. Purchases of United States Treasury and agency securities,
mortgage-backed and mortgage related securities and other investment securities
totaled $24.4 million for the year ended September 30, 2005. During the period
the bank also exchanged loans for $21.5 million of mortgage-backed securities,
which were sold for $21.9 million.
The bank has other sources of liquidity if a need for additional funds
arises. At September 30, 2005, the bank had $38.0 million in advances
outstanding from the FHLB and had an additional overall borrowing capacity from
the FHLB of $69.5 million at that date. Depending on market conditions, the
pricing of deposit products and FHLB advances, the bank may continue to rely on
FHLB borrowings to fund asset growth.
At September 30, 2005, the bank had commitments to fund loans and
unused outstanding lines of credit, unused standby letters of credit and
undisbursed proceeds of construction mortgages totaling $175.2 million. The bank
anticipates that it will have sufficient funds available to meet its current
loan origination commitments. Certificate accounts, including IRA and Keogh
accounts, which are scheduled to mature in less than one year from September 30,
2005, totaled $99.2 million. Based upon experience, management believes the
majority of maturing certificates of deposit will remain with the bank. In
addition, management of the bank believes that it can adjust the rates offered
on certificates of deposit to retain deposits in changing interest rate
environments. In the event that a significant portion of these deposits are not
retained by the bank, the bank would be able to utilize FHLB advances and
reverse repurchase agreements to fund deposit withdrawals, which would result in
an increase in interest expense to the extent that the average rate paid on such
borrowings exceeds the average rate paid on deposits of similar duration.
CAPITAL RESOURCES. At September 30, 2005, the bank exceeded all minimum
regulatory capital requirements with a tangible capital level of $23.8 million,
or 7.01% of total adjusted assets, which exceeds the required level of $5.1
million, or 1.50%; core capital of $23.8 million, or 7.01% of total adjusted
assets, which exceeds the required level of $13.6 million, or 4.00%; and
risk-based capital of $24.9 million, or 11.26% of risk-weighted assets, which
exceeds the required level of $17.7 million, or 8.00%.
On March 20, 2002, Greater Atlantic Capital Trust I (the, "Trust"), a
Delaware statutory business trust and a wholly owned Trust subsidiary of the
company, issued $9.6 million aggregate liquidation amount (963,038 shares) of
6.50% cumulative preferred securities maturing on December 31, 2031, retaining
an option to call the securities on or after December 31, 2003. Conversion of
the preferred securities into the company's common stock may occur at any time
on or after 60 days after the closing of the offering. The company may redeem
the preferred securities, in whole or in part, at any time on or after December
31, 2003. Distributions on the preferred securities are payable quarterly on
March 31, June 30, September 30 and December 31 of each year beginning on June
30, 2002. The Trust also issued 29,762 common securities to the company for
$297,620. The proceeds from the sale of the preferred securities and the
proceeds from the sale of the trust's common securities were utilized to
purchase from the company junior subordinated debt securities of $9,928,000
bearing interest of 6.50% and maturing December 31, 2031.
The Trust was formed for the sole purpose of investing the proceeds
from the sale of the convertible preferred securities in the corresponding
convertible debentures. The company has fully and unconditionally guaranteed the
preferred securities along with all obligations of the trust related thereto.
The sale of the preferred securities yielded $9.2 million after deducting
offering expenses. The company retained approximately $1.5 million of the
proceeds for general corporate purposes, investing the retained funds in
short-term investments. The remaining $8.0 million of the proceeds was invested
in the bank to increase its capital position.
42
43
CHANGES IN LEVELS OF INTEREST RATES MAY ADVERSELY AFFECT US. In
general, market risk is the sensitivity of income to variations in interest
rates and other relevant market rates or prices. The company's market rate
sensitive instruments include interest-earning assets and interest-bearing
liabilities. The company enters into market rate sensitive instruments in
connection with its various business operations, particularly its mortgage
banking activities. Loans originated, and the related commitments to originate
loans that will be sold, represent market risk that is realized in a short
period of time, generally two or three months.
The company's primary source of market risk exposure arises from
changes in United States interest rates and the effects thereof on mortgage
prepayment and closing behavior, as well as depositors' choices ("interest rate
risk"). Changes in these interest rates will result in changes in the company's
earnings and the market value of its assets and liabilities. We expect to
continue to realize income from the differential or "spread" between the
interest earned on loans, securities and other interest-earning assets, and the
interest paid on deposits, borrowings and other interest-bearing liabilities.
That spread is affected by the difference between the maturities and re-pricing
characteristics of interest-earnings assets and interest-bearing liabilities.
Loan volume and yields are affected by market interest rates on loans, and
rising interest rates generally are associated with fewer loan originations.
Management expects that a substantial portion of our assets will continue to be
indexed to changes in market interest rates and we intend to attract a greater
proportion of short-term liabilities, which will help address our interest rate
risk. The lag in implementation of re-pricing terms on our adjustable-rate
assets may result in a decline in net interest income in a rising interest rate
environment. There can be no assurance that our interest rate risk will be
minimized or eliminated. Further, an increase in the general level of interest
rates may adversely affect the ability of certain borrowers to pay the interest
on and principal of their obligations. Accordingly, changes in levels of market
interest rates, (primarily increases in market interest rates), could materially
adversely affect our interest rate spread, asset quality, loan origination
volume and overall financial condition and results of operations.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risk is the risk of loss from adverse changes in market prices
and rates. The company's market risk arises primarily from interest rate risk
inherent in its lending and deposit taking activities. The company has little or
no risk related to trading accounts, commodities or foreign exchange.
To mitigate the impact of changes in market interest rates on our
interest-earning assets and interest-bearing liabilities, we actively manage the
amounts and maturities of these assets and liabilities. A key component of this
strategy is the origination and retention of short-term and adjustable-rate
assets and the origination and sale of fixed-rate loans. We retain short-term
and adjustable-rate assets because they have re-pricing characteristics that
more closely match the re-pricing characteristics of our liabilities.
To further mitigate the risk of timing differences in the re-pricing of
assets and liabilities, our interest-earning assets are matched with
interest-bearing liabilities that have similar re-pricing characteristics. For
example, the interest rate risk of holding fixed-rate loans is managed with
long-term deposits and borrowings, and the risk of holding ARMs is managed with
short-term deposits and borrowings. Periodically, mismatches are identified and
managed by adjusting the re-pricing characteristics of our interest-bearing
liabilities with derivatives, such as interest rate caps and interest rate
swaps.
ITEM 8. CONSOLIDATED FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Please refer to the index on page 53 for the Consolidated Financial
Statements of Greater Atlantic Financial Corp. and subsidiaries, together with
the report thereon by BDO Seidman, LLP.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
There have been no disagreements with the Registrant's accountants on
any matters of accounting principles or practices or financial statement
disclosures.
ITEM 9A. CONTROLS AND PROCEDURES
(a) Evaluation of disclosure controls and procedures. The Company
maintains controls and procedures designed to ensure that information required
to be disclosed in the reports that the Company files or submits under the
Securities Exchange Act of 1934 is recorded, processed, summarized and reported
within the time periods specified in the rules and forms of the Securities and
Exchange Commission. Based upon their evaluation of those controls and
procedures performed within the period, the chief executive and chief financial
officers of the Company concluded that the Company's disclosure controls and
procedures were effective.
(b) Changes in internal controls. The company made no significant
changes in its internal controls or in other factors that could significantly
affect these controls subsequent to the date of the evaluation of those controls
by the Chief Executive and Chief Financial Officers.
43
44
ITEM 9B. OTHER INFORMATION
During the quarter ended September 30, 2005, the Company filed a
Current Report on Form 8-K for all information required to be disclosed in a
report on Form 8-K.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY.
DIRECTORS
The following table sets forth information regarding the board of
directors of the company. Each of the directors of the company is also a
director of the bank.
Director Term
Name Age Position(s) Held With the Company Since Expires
------------------------------ -------- -------------------------------------------------- ---------- ---------
Carroll E. Amos 58 Director, President and Chief Executive Officer 1997 2008
Sidney M. Bresler 51 Director 2003 2007
Charles W. Calomiris 48 Director, Chairman of the Board of Directors 2001 2008
Paul J. Cinquegrana 64 Director 1997 2006
Jeffrey M. Gitelman 61 Director 1997 2007
Jeffrey W. Ochsman 53 Director 1999 2006
James B. Vito 80 Director 1998 2008
EXECUTIVE OFFICERS WHO ARE NOT DIRECTORS
The following table sets forth information regarding the executive
officers of the company and the bank who are not also directors.
Name Age Position(s) Held With the Company
----------------------------- ------- ----------------------------------------------------------------------------------
Edward C. Allen 57 Senior Vice President and Chief Operating Officer, of the Bank and Corporate
Secretary, of the Company and the Bank
Justin R. Golden 55 Senior Vice President, Consumer Lending, of the Bank
Gary L. Hobert 56 Senior Vice President, Commercial Business Lending, of the Bank
Robert W. Neff 58 Senior Vice President, Commercial Real Estate Lending, of the Bank
David E. Ritter 55 Senior Vice President and Chief Financial Officer, of the Company and the Bank
Each of the executive officers of the company and the bank holds his or
her office until his or her successor is elected and qualified or until removed
or replaced. Officers are subject to re-election by the board of directors
annually.
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45
BIOGRAPHICAL INFORMATION
DIRECTORS
Charles W. Calomiris, Chairman of the Board of Directors of the company
and the bank. Mr. Calomiris is currently the Henry Kaufman Professor of Finance
and Economics at the Columbia University Graduate School of Business and a
professor at the School of International and Public Affairs at Columbia. During
the last five years he has served as a consultant to the Federal Reserve Board
as well as to Federal Reserve Banks and the World Bank, to the governments of
states and foreign countries and to major U. S. corporations.
Carroll E. Amos is President and Chief Executive Officer of the company
and of the bank. He is a private investor who until 1996 served as President and
Chief Executive Officer of 1st Washington Bancorp and Washington Federal Saving
Bank.
Sidney M. Bresler is Chief Executive Officer of Bresler & Reiner, Inc.
engaged in residential land development and construction and rental property
ownership and management.
Paul J. Cinquegrana is a Principal of Washington Securities
Corporation, a stock and bond brokerage firm.
Jeffrey M. Gitelman, D.D.S., is an Oral Surgeon and the owner of
Jeffrey M. Gitelman D.D.S., P.C.
Jeffrey W. Ochsman is a partner in the law firm of Friedlander, Misler,
Sloan, Kletzkin & Ochsman, PLLC, Washington, D.C.
James B. Vito is a managing general partner of James Properties,
engaged in the sale and management of property.
EXECUTIVE OFFICERS WHO ARE NOT DIRECTORS
Edward C. Allen joined the bank as a Senior Vice President and Chief
Financial Officer in mid 1996 and became Chief Operating Officer in 1997. Prior
to joining the bank, Mr. Allen was the Chief Financial Officer of Servus
Financial Corp. from 1994 to 1996 and Senior Vice President of NVR Savings Bank
from 1992 to 1994.
Justin R. Golden joined the bank as Senior Vice President of the
Consumer Lending Department in 1998. From 1984 until 1997 he served in various
capacities at Citizens Bank, most recently having responsibility for
reorganizing and operating that bank's home equity lending function.
Gary L. Hobert joined the bank as Senior Vice President of the
Commercial Business Lending Department in 2001. From 2000 until joining the
bank, Mr. Hobert was the Senior Vice President of Adams National Bank. From 1998
until 2000 he served as Executive Vice President and Senior Loan Officer for
Grandbank.
Robert W. Neff joined the bank in 1997 as Senior Vice President,
Commercial Real Estate Lending. Prior to joining the bank, Mr. Neff served as a
Consultant on commercial real estate loan brokerage with the First Financial
Group of Washington after serving from 1984 until 1996 as an Executive Vice
President for Commercial Real Estate Lending at Washington Federal Savings Bank.
David E. Ritter joined the bank and the company as a Senior Vice
President and Chief Financial Officer in 1998. From 1996 to 1997, Mr. Ritter was
a Senior Financial Consultant with Peterson Consulting. From 1988 until 1996, he
was the Executive Vice President and Chief Financial Officer of Washington
Federal Savings Bank.
45
46
COMPLIANCE WITH SECTION 16 (A) OF THE EXCHANGE ACT
Section 16(a) of the Securities and Exchange Act requires the company's
executive officers and directors, and persons who own more than ten percent of a
registered class of the company's equity securities, to file reports of
ownership and changes in ownership with the Securities and Exchange Commission
and the National Association of Securities Dealers, Inc., and to furnish the
company with copies of all Section 16(a) forms they file.
Based solely on its review of the copies of such forms received by it,
or written representations from certain reporting persons that no Forms 5 were
required for those persons, the company believes that all filing requirements
applicable to its executive officers and directors were met during fiscal 2005.
CODE OF ETHICS AND BUSINESS CONDUCT
The Company has adopted a Code of Ethics and Business Conduct
applicable to all employees, officers and directors of the Company and its
subsidiaries. A copy of the Code of Ethics and Business Conduct will be
furnished without charge to stockholders of record upon written request to
Greater Atlantic Financial Corp., Mr. Edward C. Allen, Corporate Secretary,
10700 Parkridge Boulevard, Suite P50, Reston, Virginia 20191.
AUDIT COMMITTEE FINANCIAL EXPERT
No current member of the Audit Committee qualifies as an "audit
committee financial expert" as defined in the rules of the Securities and
Exchange Commission. The Company is currently seeking an additional director who
will qualify as an "audit committee financial expert," but has not found a
qualified candidate who is willing to serve in that capacity.
ITEM 11. EXECUTIVE COMPENSATION
SUMMARY COMPENSATION TABLE. The following table sets forth the cash
compensation paid by the company for services rendered in all capacities during
the fiscal years ended September 30, 2005, 2004 and 2003, to the Chief Executive
Officer, and for each of the other executive officers of the company who
received salary and bonus in excess of $100,000 (collectively, the "Named
Executive Officers").
Securities
Fiscal Underlying
Name and Principal Position Year Salary Bonus Options
----------------------------------- --------- ----------- ---------- ------------
Carroll E. Amos, 2005 $182,000 $ - 75,000
President and Chief 2004 $182,000 $ - 75,000
Executive Officer 2003 $177,850 $ - 65,000
Edward C. Allen 2005 $103,800 $ - 18,000
Senior Vice President and 2004 $100,300 $ - 18,000
Chief Operating Officer
For 2005, 2004 and 2003, there were no (a) perquisites over the lesser
of $50,000 or 10% of the Chief Executive Officer's total salary and bonus for
the year; (b) payments of above-market preferential earnings on deferred
compensation; (c) payments of earnings with respect to long-term incentive plans
prior to settlement or maturation; (d) tax payment reimbursements; or (e)
preferential discounts on stock.
EMPLOYMENT AGREEMENT. The Company has entered into an employment
agreement with Mr. Carroll E. Amos. The Employment Agreement is intended to
ensure that the Bank and the Company will be able to maintain a stable and
competent management base. The continued success of the Bank and the Company
depends to a significant degree on the skills and competence of its executive
officers, particularly the Chief Executive Officer.
The Employment Agreement provides for a three-year term for Mr. Amos
and provides that commencing on the first anniversary date and continuing each
anniversary date thereafter the board of directors may extend the Employment
Agreement for an additional year so that the remaining term shall be three
years, unless written notice of non-renewal is given by the board of directors
after conducting a performance evaluation of Mr. Amos. The Employment Agreement
provides that Mr. Amos's base salary will be reviewed annually. The base salary
provided for in the Employment Agreement for Mr. Amos was increased to $165,400
at the fourth anniversary date and to $182,000 on January 1, 2003. In addition
to the base salary, the Employment Agreement provides for, among other things,
participation in various employee benefit plans and stock-based compensation
programs, as well as furnishing fringe benefits available to similarly situated
executive personnel.
46
47
The Employment Agreement provides for termination by the Bank for cause
(as defined in the Employment Agreement) at any time. In the event the Bank
chooses to terminate Mr. Amos's employment for reasons other than for cause or,
in the event of Mr. Amos's resignation from the Bank upon: (i) failure to
re-elect Mr. Amos to his current office; (ii) a material change in Mr. Amos's
functions, duties or responsibilities; (iii) a relocation of Mr. Amos's
principal place of employment by more than 30 miles; (iv) liquidation or
dissolution of the Bank or the Company; or (v) a breach of the Employment
Agreement by the Bank, Mr. Amos or, in the event of death, Mr. Amos's
beneficiary would be entitled to receive an amount generally equal to the
remaining base salary and bonus payments that would have been paid to Mr. Amos
during the remaining term of the Employment Agreement. The Bank would also
continue and pay for Mr. Amos's life, health and disability coverage for the
remaining term of the Employment Agreement. Upon any termination of Mr. Amos's
employment, Mr. Amos is subject to a covenant not to compete with the Bank for
one year.
Under the Employment Agreement, if involuntary termination or voluntary
termination follows a change in control of the Bank or the Company, Mr. Amos or,
in the event of his death, his beneficiary, would receive a severance payment
generally equal to the greater of: (i) the payments due for the remaining terms
of the agreement, including the value of stock-based incentives previously
awarded to Mr. Amos; or (ii) three times the average of the three preceding
taxable years' annual compensation. The Bank would also continue Mr. Amos's
life, health, and disability coverage for thirty-six months. In the event of a
change in control of the Bank, the total amount of payment due under the
Employment Agreement, based solely on the base salary paid to Mr. Amos, and
excluding any benefits under any employee benefit plan which may otherwise
become payable, would equal approximately $546,000.
All reasonable costs and legal fees paid or incurred by Mr. Amos
pursuant to any dispute or question of interpretation relating to the Employment
Agreement is to be paid by the Bank, if he is successful on the merits pursuant
to a legal judgment, arbitration or settlement. The Employment Agreement also
provides that the Bank will indemnify Mr. Amos to the fullest extent allowable
under federal law.
DIRECTORS' COMPENSATION
FEES. Since the formation of the Company, the executive officers,
directors and other personnel have been compensated for services by the Bank and
have not received additional remuneration from the Company. Beginning on October
1, 1998, the Chairman was made a salaried officer of the Bank and the Company
and in those capacities received compensation at the rate of $3,000 per month.
Since January 1, 2003, each outside directors of the Bank has received $750 for
each Board meeting and $350 for each committee meeting attended.
STOCK OPTION AND WARRANT PLANS
Under the Greater Atlantic Financial Corp. 1997 Stock Option and
Warrant Plan (the "Option Plan"), which was ratified by shareholders in 1997 and
amended in 2000 and 2002, options are granted to employees at the discretion of
a committee comprised of disinterested directors who administer the plan.
There were no options granted to the Chief Executive Officer in fiscal
year 2004.
The following table provides certain information with respect to the
number of shares of Common Stock represented by outstanding stock options held
by the Chief Executive Officer as of September 30, 2005. Also reported are the
values for "in-the-money" options which represent the positive spread between
the exercise price of any such existing stock options and the price of the
Common Stock as of the end of the fiscal year on September 30, 2005.
Fiscal Year-End Options/SAR Values
--------------------------------------------------------------
Number of Securities Value of Unexercised
Underlying Unexercised
Options at Fiscal Year
Shares Value End (#) In-the-Money Options at Fiscal
Acquired on Realized Exercisable/ Year End ($)
Name Exercise (#) ($) Unexercisable Exercisable/Unexercisable
-------------------- ---------------- ------------ --------------------------- ----------------------------------
Carroll E. Amos 0 0 75,000 $11,266
(1) Value of unexercised in-the-money stock options equals the market
value of shares covered by in-the-money options on September 30,
2005 less the option exercise price. Options are in-the-money if
the market value of shares covered by the options is greater than
the exercise price.
47
48
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS
Persons and groups owning in excess of five percent of the Company's
Common Stock are required to file certain reports regarding such ownership with
the Company and with the Securities and Exchange Commission ("SEC"), in
accordance with the Securities Exchange Act of 1934 (the "Exchange Act").
The following table sets forth information regarding persons known to
be beneficial owners of more than five percent of the Company's outstanding
Common Stock as of December 15, 2005.
Amount and Nature of
Name and Address Beneficial Percent
Title of Class of Beneficial Owner Ownership of Class
- ------------------------- ------------------------------------ -------------------------- -------------------
Common Stock Charles W. Calomiris
251 Fox Meadow Road
Scarsdale, New York 10583 176,807 shares(1)(2) 5.85%
Common Stock Robert I. Schattner, DDS
121 Congressional Lane
Rockville, MD 20852 432,328 shares(1)(3) 14.21%
Common Stock The Ochsman Children Trust
1650 Tysons Boulevard
McLean, VA 22102 238,597 shares(1)(4) 7.90%
Common Stock George W. Calomiris
4848 Upton Street, N.W. 199,715 shares(5) 6.41%
Washington, DC 20016
Common Stock Jenifer Calomiris
4919 Upton Street, N.W. 190,438 shares(6) 6.12%
Washington, D.C. 20016
Common Stock Katherine Calomiris Tompros
5100 Van Ness Street, N.W.
Washington, D.C. 20016 190,638 shares(7) 6.13%
- -----------------
(1) Does not include presently exercisable warrants to purchase 9,166, 20,000
and 13,334 shares held, respectively, by Charles W. Calomiris, Dr.
Schattner, and The Ochsman Children Trust under the Greater Atlantic
Financial Corp. 1997 Stock Option Plan, or shares of preferred securities
presently convertible into 114,841, 330,099 and 69,545 shares of common
stock held, respectively, by Charles W. Calomiris Dr. Schattner and the
Ochsman Children Trust.
(2) The information furnished is derived from a Schedule 13D filed by Charles
W. Calomiris on July 25, 2003, and a Form 4 filed on July 24, 2003.
(3) The information furnished is derived from a Schedule 13D and a Form 4
filed by Robert I Schattner filed on September 6, 2005.
(4) The information furnished is derived from a Schedule 13D filed by The
Ochsman Children Trust on April 9, 2002. (5) Includes presently
exercisable warrants to purchase 9,167 shares and shares of preferred
securities
presently convertible into 85,754 shares of common stock held by George
W. Calomiris. The information furnished is derived from a Schedule 13D
filed by George Calomiris on December 7, 2004.
(6) Includes presently exercisable warrants to purchase 9,167 shares and
shares of preferred securities presently convertible into 79,747 shares
of common stock held by Jenifer Calomiris. The information furnished is
derived from a Schedule 13D filed by Jenifer Calomiris on March 21, 2003.
(7) Includes presently exercisable warrants to purchase 9,167 shares and
shares of preferred securities presently convertible into 79,747 shares
of common stock held by Katherine Calomiris Tompros. The information
furnished is derived from a Schedule 13D filed by Katherine Calomiris
Tompros on March 21, 2003.
48
49
INFORMATION WITH RESPECT TO DIRECTORS AND EXECUTIVE OFFICERS
The following table sets forth, as of December 15, 2005, the names of
the directors, and executive officers of the Company as well as their ages; a
brief description of their recent business experience, including present
occupations and employment; certain directorships held by each; the year in
which each became a director of the Company and the year in which his term as
director of the Company expires. This table also sets forth the amount of Common
Stock and the percent thereof beneficially owned as of the December 15, 2005 by
each director and all directors and executive officers as a group as of the
December 15, 2005.
Expiration Shares of
Name and Principal of Common Stock Ownership as of
Occupation at Present Director Term as Beneficial Percent of
and for Past Five Years Age Since (1) Director Owned(1) Class
- ----------------------------------------------- ------- ------------ ------------ ----------------- --------------------
Charles W. Calomiris, Chairman of the 48 2001 2008 176,807(2)(3) 5.85%
Board of the Company, is the Henry Kaufman
Professor of Finance and Economics at the
Columbia University Graduate School of
Business.
Carroll E. Amos, President and Chief 58 1997 2008 44,060(4) 1.46%
Executive Officer of the Company, is a
private investor who until 1996 served
as President and Chief Executive Officer
of 1st Washington Bancorp and
Washington Federal Savings Bank.
James B. Vito is Managing General 80 1998 2008 79,042(2) 2.62%
Partner, James Properties, engaged in the
sale and management of property.
Paul J. Cinquegrana is a Principal of 64 1997 2006 52,134(2) 1.73%
Washington Securities Corporation, stock
and bond brokerage firm.
Jeffrey W. Ochsman is an attorney and 53 1999 2006 500 *
partner of the law firm of Friedlander,
Misler, Sloan, Kletzkin & Ochsman, PLLC.
Jeffrey M. Gitelman, D.D.S., is an Oral 61 1997 2007 84,913(2) 2.81%
Surgeon and the owner of Jeffrey M.
Gitelman - D.D.S., P.C.
Sidney M. Bresler is a Director, Chief 51 2003 2007 500 *
Executive Officer and Chief Operating
Officer of Bresler & Reiner, Inc. engaged
in residential land development and
construction and rental property ownership
and management.
49
50
Shares of
Name and Principal Common Stock
Occupation at Present Beneficially Ownership as A
and for Past Five Years Age Owned(1) Percent of Class
--------------------------------------------------------- ------- ---------------------- --------------------
EXECUTIVE OFFICERS
WHO ARE NOT DIRECTORS
David E. Ritter joined the Bank and the Company as a 55 300(4) *
Senior Vice President and Chief Financial Officer in
1998.
All directors and executive officers as a group (eight 438,256 14.51%
persons)(3)
(1) Each person effectively exercises sole voting or dispositive power as to
shares reported.
(2) Does not include presently exercisable warrants to purchase 9,166, 3,334,
3,334, and 2,000 shares, respectively, held by Messrs. Calomiris, Gitelman,
Cinquegrana, and Vito under the Greater Atlantic Financial Corp. 1997 Stock
Option Plan, or shares of preferred securities presently convertible into
114,841, 34,970, 37,797, 17,387, and 6,431 shares of common stock held,
respectively, by Messrs. Calomiris, Vito, Cinquegrana, Gitelman and Amos.
(3) Includes 128,727 shares held directly, 10,000 shares held by his spouse and
38,080 shares held as custodian for minor children.
(4) Does not include presently exercisable options to purchase 75,000 shares
granted to Mr. Amos or 18,000 granted to Mr. Ritter under the Greater
Atlantic Financial Corp. 1997 Stock Option and Warrant Plan.
o Does not exceed 1.0% of the Company's Common Stock.
The following table summarizes share and exercise price information
about the Company's equity compensation plans as of September 30, 2005.
Number of securities
remaining available for
Number of securities to be future issuance under equity
issued upon exercise of Weighted-average exercise compensation plans
outstanding options, warrants price of outstanding options, (excluding securities
Plan category and rights warrants and rights reflected in column (a))
- --------------------------------------------------------------------------------------------------------------------------------
Equity compensation plans
approved by security holders:
1997 Stock Option and Warrant Plan 431,171 $7.07 70,500
Equity compensation plans not
approved by security holders N/A N/A N/A
- --------------------------------------------------------------------------------------------------------------------------------
Total 431,171 $7.07 70,500
================================================================================================================================
50
51
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Federal regulations require that all loans or extensions of credit to
executive officers and directors must be made on substantially the same terms,
including interest rates and collateral, as those prevailing at the time for
comparable transactions with the general public and must not involve more than
the normal risk of repayment or present other unfavorable features. In addition,
loans made to a director or executive officer in excess of the greater of
$25,000 or 5% of the bank's capital and surplus (up to a maximum of $500,000)
must be approved in advance by a majority of the disinterested members of the
board of directors.
The Bank currently makes loans to its executive officers and directors
on the same terms and conditions offered to the general public. The Bank's
policy provides that all loans made by the Bank to its executive officers and
directors be made in the ordinary course of business, on substantially the same
terms, including collateral, as those prevailing at the time for comparable
transactions with other persons and may not involve more than the normal risk of
collectibility or present other unfavorable features. As of September 30, 2005,
one of the Bank's directors had loans with the bank which had outstanding
balances totaling $113,000. Such loans were made by the bank in the ordinary
course of business, with no favorable terms and do not involve more than the
normal risk of collectibility or present unfavorable features.
The Company's policy is that all transactions between the Company and
its executive officers, directors, holders of 10% or more of the shares of any
class of its common stock and affiliates thereof, will contain terms no less
favorable to the Company than could have been obtained by it in arm's length
negotiations with unaffiliated persons and will be approved by a majority of
independent outside directors of the Company not having any interest in the
transaction.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
AUDIT FEES
BDO Seidman, LLP billed the Company aggregate fees of $185,705 and
$181,907 for professional services rendered for the audit of the Company's
annual consolidated financial statements and for the reviews of the condensed
consolidated financial statements included in the Company's Forms 10-Q for the
fiscal year ended September 30, 2005 and 2004, respectively. The audit committee
has not adopted pre-approved policies and procedures. Before the company or any
subsidiary engages an accountant, the company's audit committee approves the
engagement.
AUDIT-RELATED FEES
BDO Seidman, LLP did not provide any such services to the Company for
the fiscal year ended September 30, 2005 or 2004.
TAX FEES
BDO Seidman billed the Company $19,850 and $17,824 for tax services for
the fiscal year ended September 30, 2005 and 2004, respectively. Tax fees
represented 9.66% of the fees paid to BDO Seidman, LLP in fiscal year 2005 and
8.92% in fiscal year 2004.
PART IV
ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
(a) 1. FINANCIAL STATEMENTS
See Index to Consolidated Financial Statements on page 53
2. FINANCIAL STATEMENT SCHEDULES
All schedules are omitted because they are not required or
applicable, or the required information is shown in the
consolidated financial statements or the notes thereto.
(b) EXHIBITS
23.1 Consent of BDO Seidman, LLP
31.1 Certification of Chief Executive Officer
31.2 Certification of Chief Financial Officer
32.1 Certification of Chief Executive Officer pursuant to
18 U.S.C. 1350
32.2 Certification of Chief Financial Officer pursuant to
18 U.S.C. 1350
51
52
Pursuant to the requirements of Section 13 or 15(d) 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.
GREATER ATLANTIC FINANCIAL CORP.
By: /s/ Carroll E. Amos
-------------------
Carroll E. Amos
Chief Executive Officer and President and Director
Dated: December 29, 2005
Pursuant to the requirements of the Securities and Exchange Act of
1934, this report has been signed by the following persons of the registrant and
in the capacities and on the dates indicated.
Name Title Date
---- ----- ----
/s/ Charles W. Calomiris
------------------------
Charles W. Calomiris Chairman of the Board December 29, 2005
/s/ Carroll E. Amos
------------------- Chief Executive Officer,
Carroll E. Amos And President and Director December 29, 2005
/s/ Sidney M. Bresler
---------------------
Sidney M. Bresler Director December 29, 2005
/s/ Paul J. Cinquegrana
-----------------------
Paul J. Cinquegrana Director December 29, 2005
/s/ Jeffrey M. Gitelman
-----------------------
Jeffrey M. Gitelman Director December 29, 2005
/s/ Jeffrey W. Ochsman
----------------------
Jeffrey W. Ochsman Director December 29, 2005
/s/ James B. Vito
-----------------
James B. Vito Director December 29, 2005
/s/ David E. Ritter
------------------- Senior Vice President and
David E. Ritter Chief Financial Officer December 29, 2005
52
53
CONSOLIDATED FINANCIAL STATEMENTS OF
GREATER ATLANTIC FINANCIAL CORP.
INDEX
Page
----
Report of Independent Registered Public Accounting Firm 54
Consolidated Statements of Financial Condition as of September 30, 2005 and 2004 55
Consolidated Statements of Operations for the Years Ended September 30, 2005, 2004 and 2003 56
Consolidated Statements of Comprehensive Income (Loss) for the Years Ended
September 30, 2005, 2004 and 2003 57
Consolidated Statements of Stockholders' Equity for the Years Ended September 30, 2005, 2004 and 2003 57
Consolidated Statements of Cash Flows for the Years Ended September 30, 2005, 2004 and 2003 58
Notes to Consolidated Financial Statements 60
53
54
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Board of Directors and Stockholders
Greater Atlantic Financial Corp.
Reston, Virginia
We have audited the accompanying consolidated statements of financial condition
of Greater Atlantic Financial Corp. and Subsidiaries as of September 30, 2005
and 2004, and the related consolidated statements of operations, comprehensive
income (loss), stockholders' equity, and cash flows for each of the three years
in the period ended September 30, 2005. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audits to obtain reasonable assurance about whether the
financial statements are free of material misstatement. The Company is not
required to have, nor were we engaged to perform, an audit of its internal
control over financial reporting. Our audits included consideration of internal
control over financial reporting as a basis for designing audit procedures that
are appropriate in the circumstances, but not for the purpose of expressing an
opinion on the effectiveness of the Company's internal control over financial
reporting. Accordingly, we express no such opinion. An audit also includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements, assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Greater Atlantic
Financial Corp. and Subsidiaries at September 30, 2005 and 2004 and the results
of their operations and their cash flows for each of the three years in the
period ended September 30, 2005 in conformity with accounting principles
generally accepted in the United States of America.
/s/ BDO Seidman, LLP
- --------------------
Richmond, Virginia
December 20, 2005
55
GREATER ATLANTIC FINANCIAL CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
September 30,
---------------------------------
2005 2004
----------------------------------------------------------------------------------------------------------------------
(Dollars in Thousands)
Assets
Cash and cash equivalents $ 2,291 $ 2,532
Interest bearing deposits 4,411 8,071
Investment securities
Available-for-sale 107,829 142,712
Held-to-maturity 7,969 10,295
Loans held for sale 9,517 5,528
Loans receivable, net 194,920 246,387
Accrued interest and dividends receivable 1,746 1,940
Deferred income taxes 1,974 2,034
Federal Home Loan Bank stock, at cost 2,503 4,085
Other real estate owned 232 -
Premises and equipment, net 4,198 7,275
Goodwill 956 1,284
Prepaid expenses and other assets 2,263 2,227
----------------------------------------------------------------------------------------------------------------------
Total Assets $340,809 $434,370
======================================================================================================================
Liabilities and stockholders' equity
Liabilities
Deposits $237,794 $288,956
Advance payments from borrowers for taxes and insurance 268 305
Accrued expenses and other liabilities 1,248 2,535
Advances from the FHLB and other borrowings 76,479 116,065
Junior subordinated debt securities 9,378 9,369
----------------------------------------------------------------------------------------------------------------------
Total liabilities 325,167 417,230
----------------------------------------------------------------------------------------------------------------------
Commitments and contingencies
----------------------------------------------------------------------------------------------------------------------
Stockholders' Equity
Preferred stock $.01 par value - 2,500,000 shares authorized, none outstanding - -
Common stock, $.01 par value - 10,000,000
shares authorized; 3,020,934 shares outstanding 30 30
Additional paid-in capital 25,228 25,152
Accumulated deficit (8,521) (6,963)
Accumulated other comprehensive loss (1,095) (1,079)
----------------------------------------------------------------------------------------------------------------------
Total stockholders' equity 15,642 17,140
----------------------------------------------------------------------------------------------------------------------
Total liabilities and stockholders' equity $340,809 $434,370
======================================================================================================================
See accompanying notes to consolidated financial statements.
55
56
GREATER ATLANTIC FINANCIAL CORP. AND SUBSIDIARIES
COENTS OF OPERATIONS
Year Ended September 30,
-------------------------------------------------
2005 2004 2003
--------------------------------------------------------------------------------------------------------------------------
(Dollars in Thousands, Except Per Share Data)
Interest income
Loans $ 12,908 $ 13,506 $ 14,369
Investments 4,528 5,456 6,618
--------------------------------------------------------------------------------------------------------------------------
Total interest income 17,436 18,962 20,987
--------------------------------------------------------------------------------------------------------------------------
Interest expense
Deposits 6,337 5,751 6,673
Borrowed money 4,556 6,604 6,376
--------------------------------------------------------------------------------------------------------------------------
Total interest expense 10,893 12,355 13,049
--------------------------------------------------------------------------------------------------------------------------
Net interest income 6,543 6,607 7,938
Provision for loan losses 219 209 855
--------------------------------------------------------------------------------------------------------------------------
Net interest income after provision for loan losses 6,324 6,398 7,083
--------------------------------------------------------------------------------------------------------------------------
Noninterest income
Fees and service charges 1,211 992 1,475
Gain on sale of loans 4,720 9,191 17,373
Gain (loss)on sale of investment securities 539 (58) 35
Gain (loss) on derivatives 836 (227) 9
Loss on sale of real estate owned - - (24)
Other operating income 1,011 31 21
--------------------------------------------------------------------------------------------------------------------------
Total noninterest income 8,317 9,929 18,889
--------------------------------------------------------------------------------------------------------------------------
Noninterest expense
Compensation and employee benefits 5,985 8,401 13,706
Occupancy 1,698 2,161 1,963
Professional services 1,224 917 1,329
Advertising 2,759 2,563 1,072
Deposit insurance premium 100 44 46
Furniture, fixtures and equipment 1,088 1,139 1,069
Data processing 1,127 1,465 1,317
Other real estate owned expenses - - 5
Other operating expenses 2,218 2,740 3,204
--------------------------------------------------------------------------------------------------------------------------
Total noninterest expense 16,199 19,430 23,711
--------------------------------------------------------------------------------------------------------------------------
Net income (loss) before income tax provision (1,558) (3,103) 2,261
Income tax provision - 89 -
--------------------------------------------------------------------------------------------------------------------------
Net income (loss) $(1,558) $(3,192) $ 2,261
==========================================================================================================================
Basic earnings (loss) per share $ (0.52) $ (1.06) $ 0.75
==========================================================================================================================
Diluted earnings (loss) per share $ (0.52) $ (1.06) $ 0.60
==========================================================================================================================
See accompanying notes to consolidated financial statements.
56
57
GREATER ATLANTIC FINANCIAL CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
Year Ended September 30,
---------------------------------------------
2005 2004 2003
-----------------------------------------------------------------------------------------------------
(In Thousands)
Net (loss) income $ (1,558) $ (3,192) $ 2,261
-----------------------------------------------------------------------------------------------------
Other comprehensive (loss) income, net of tax:
Unrealized (loss) income on securities (16) (1,008) 16
-----------------------------------------------------------------------------------------------------
Other comprehensive (loss) income (16) (1,008) 16
-----------------------------------------------------------------------------------------------------
Comprehensive (loss) income $ (1,574) $ (4,200) $ 2,277
=====================================================================================================
See accompanying notes to consolidated financial statements
GREATER ATLANTIC FINANCIAL CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
- ------------------------------------------------------------------------------------------------------------------------
Accumulated
Additional Accumulated Other Total
Preferred Common Paid-in Earnings Comprehensive Stockholders'
Stock Stock Capital (Deficit) Income (Loss) Equity
- ------------------------------------------------------------------------------------------------------------------------
(In Thousands)
Balance at September 30, 2002 $ - $ 30 $ 25,152 $ (6,032) $ (87) $ 19,063
Other comprehensive income - - - - 16 16
Net income for the period - - - 2,261 - 2,261
- ------------------------------------------------------------------------------------------------------------------------
Balance at September 30, 2003 - 30 25,152 (3,771) (71) 21,340
Other comprehensive income - - - - (1,008) (1,008)
Net loss for the period - - - (3,192) - (3,192)
- ------------------------------------------------------------------------------------------------------------------------
Balance at September 30, 2004 - 30 25,152 (6,963) (1,079) 17,140
Options exercised - - 76 - - 76
Other comprehensive loss - - - - (16) (16)
Net loss for the period - - - (1,558) - (1,558)
- ------------------------------------------------------------------------------------------------------------------------
Balance at September 30, 2005 $ - $30 $ 25,228 $ (8,521) $ (1,095) $ 15,642
========================================================================================================================
See accompanying notes to consolidated financial statements
57
58
GREATER ATLANTIC FINANCIAL CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Year Ended September 30,
----------------------------------------------------
2005 2004 2003
---------------------------------------------------------------------------------------------------------------------------------
(In Thousands)
Cash flow from operating activities
Net income (loss) $ (1,558) $ (3,192) $ 2,261
Adjustments to reconcile net income (loss) to net cash
Provided (used) by operating activities
Provision for loan losses 219 209 855
Amortization of deposit acquisition adjustment - - 23
Amortization of loan acquisition adjustment (27) (27) (18)
Depreciation and amortization 930 986 864
Loss on disposal of fixed assets 91 - 11
Option compensation 42 - -
Proceeds from repayments of trading securities - - -
Realized loss (gain) on trading securities - 135 38
Realized gain on sale of investment securities - (77) (73)
Realized gain on sale of mortgaged-backed securities (539) - -
Loss (gain) on derivatives (836) 227 (9)
Amortization of investment security premiums 853 1,573 1,837
Amortization of mortgage-backed security premiums 937 1,453 740
Amortization of deferred fees (635) (563) (396)
Discount accretion net of premium amortization (361) 628 710
Amortization of convertible preferred stock costs 9 9 13
Loss on sale of foreclosed real estate - - 24
Gain on sale of loans held for sale (4,720) (9,191) (17,373)
(Increase) decrease in assets
Disbursements for origination of loans (276,038) (402,988) (722,121)
Proceeds from sales of loans 276,770 413,204 747,398
Accrued interest and dividend receivable 193 359 560
Prepaid expenses and other assets 360 (261) 425
Deferred loan fees collected, net of deferred costs incurred 172 436 231
Increase (decrease) in liabilities
Accrued expenses and other liabilities (451) (3,382) 1,055
---------------------------------------------------------------------------------------------------------------------------------
Net cash provided by (used) in operating activities $ (4,589) $ (462) $ 17,055
=================================================================================================================================
(Continued)
58
59
GREATER ATLANTIC FINANCIAL CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS - (CONTINUED)
Year Ended September 30,
--------------------------------------
2005 2004 2003
-----------------------------------------------------------------------------------------------------------------------------
(In Thousands)
Cash flow from investing activities
Net decrease (increase) in loans $ 51,867 $ (4,817) $ 4,414
Disposal (purchases) of premises and equipment 2,055 (312) (1,034)
Proceeds from sales of foreclosed real estate - - 104
Purchases of investment securities (21,684) (25,748) (31,113)
Proceeds from sale of investment securities - 67,843 1,035
Proceeds from repayments of investment securities 22,374 33,235 47,808
Purchases of mortgage-backed securities (24,224) (63,056) (61,851)
Proceeds from sale of mortgage-backed securities 21,921 - -
Proceeds from repayments of mortgage-backed securities 37,548 54,932 26,171
Purchases of FHLB stock (5,169) (15,875) (14,488)
Proceeds from sale of FHLB stock 6,751 16,130 15,638
-----------------------------------------------------------------------------------------------------------------------------
Net cash provided by (used) in investing activities 91,439 62,332 (13,316)
-----------------------------------------------------------------------------------------------------------------------------
Cash flow from financing activities
Net (decrease) increase in deposits (51,162) (8,920) 15,976
Net (repayments) advances from FHLB (13,200) (35,600) (9,700)
Net borrowings (repayments) on reverse repurchase agreements and other borrowings (26,386) (12,971) (13,175)
Increase (decrease) in advance payments by borrowers for taxes and insurance (37) 81 (55)
Exercise of stock options 34 - -
-----------------------------------------------------------------------------------------------------------------------------
Net cash (used) in provided by financing activities (90,751) (57,410) (6,954)
-----------------------------------------------------------------------------------------------------------------------------
Increase (decrease) in cash and cash equivalents (3,901) 4,460 (3,215)
-----------------------------------------------------------------------------------------------------------------------------
Cash and cash equivalents, at beginning of period 10,603 6,143 9,358
-----------------------------------------------------------------------------------------------------------------------------
Cash and cash equivalents, at end of period $ 6,702 $10,603 $ 6,143
=============================================================================================================================
See accompanying notes to consolidated financial statements.
59
60
GREATER ATLANTIC FINANCIAL CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
NATURE OF OPERATIONS
Greater Atlantic Financial Corp. (GAFC or the "Company") is a bank
holding company whose principal activity is the ownership and management of
Greater Atlantic Bank (GAB or "the Bank"), and its wholly owned subsidiary,
Greater Atlantic Mortgage Corporation (GAMC). The Bank originates commercial,
mortgage and consumer loans and receives deposits from customers located
primarily in Virginia, Washington, D.C. and Maryland. The Bank operates under a
federal bank charter and provides full banking services.
GAMC was incorporated as a separate entity on June 11, 1998 and began
independent operations on September 1, 1998. GAMC is involved primarily in the
origination and sale of single-family mortgage loans and, to a lesser extent,
multi-family residential and second mortgage loans. GAMC also originates loans
for the Bank's portfolio. In January 2002, GAFC established Greater Atlantic
Capital Trust I to issue certain convertible preferred securities (see Note 20).
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of GAFC and
its wholly owned subsidiaries, GAB and GAMC and Greater Atlantic Capital Trust
I. All significant intercompany accounts and transactions have been eliminated
in consolidation.
RISK AND UNCERTAINTIES
In its normal course of business, the Company encounters two
significant types of risk: economic and regulatory. There are three main
components of economic risk: interest rate risk, credit risk and market risk.
The Company is subject to interest rate risk to the degree that its
interest-bearing liabilities mature or reprice more rapidly, or on a different
basis, than its interest-earning assets. Credit risk is the risk of default on
the Company's loan portfolio that results from the borrowers' inability or
unwillingness to make contractually required payments. Market risk reflects
changes in the value of collateral underlying loans receivable and the valuation
of real estate held by the Company. The determination of the allowance for loan
losses and the valuation of real estate are based on estimates that are
particularly susceptible to significant changes in the economic environment and
market conditions. Management believes that, as of September 30, 2005 and
September 30, 2004, the allowance for loan losses and valuation of real estate
are adequate based on information currently available. A worsening or protracted
economic decline would increase the likelihood of losses due to credit and
market risks and could create the need for substantial additional loan loss
reserves. See discussion of regulatory matters in Note 12.
CONCENTRATION OF CREDIT RISK
The Company's primary business activity is with customers located in
Maryland, Virginia and the District of Columbia. The Company primarily
originates residential loans to customers throughout these areas, most of who
are residents local to the Company's business locations. The Company has a
diversified loan portfolio consisting of residential, commercial and consumer
loans. Commercial and consumer loans generally provide for higher interest rates
and shorter terms, however such loans have a higher degree of credit risk.
Management monitors all loans, including, when possible, making inspections of
the properties, maintaining current operating statements, and performing net
realizable value calculations, with allowances for losses established as
necessary to properly reflect the value of the properties. Management believes
the current loss allowances are sufficient to cover the credit risk estimated to
exist at September 30, 2005.
60
61
GREATER ATLANTIC FINANCIAL CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
INVESTMENT SECURITIES
Investment securities, which the Company has the intent and ability to
hold to maturity, are carried at amortized cost. The amortization of premiums
and accretion of discounts are recorded on the level yield (interest) method,
over the period from the date of purchase to maturity. When sales do occur,
gains and losses are recognized at the time of sale and the determination of
cost of securities sold is based upon the specific identification method.
Investment securities which the Company intends to hold for indefinite periods
of time, use for asset/liability management or that are to be sold in response
to changes in interest rates, prepayment risk, the need to increase regulatory
capital or other similar factors are classified as available-for-sale and
carried at fair value with unrealized gains and losses excluded from earnings
and reported in a separate component of stockholders' equity. If a sale does
occur, gains and losses are recognized as a component of earnings at the time of
the sale. The amortization of premiums and accretion of discounts are recorded
on the level yield (interest) method.
Investment securities that are bought and held principally for the
purpose of selling them in the near term are classified as trading securities
and reported at fair value, with unrealized gains and losses included in
earnings.
LOANS AND ALLOWANCE FOR LOAN LOSSES
Loans receivable are stated at unpaid principal balances, net of
unearned discounts resulting from add-on interest, participation or whole-loan
interests owned by others, undisbursed loans in process, deferred loan fees, and
allowances for loan losses.
Loans are placed on non-accrual status when the principal or interest
is past due more than 90 days or when, in management's opinion, collection of
principal and interest is not likely to be made in accordance with a loan's
contractual terms.
The allowance for loan losses provides for the risk of losses inherent
in the lending process. The allowance for loan losses is based on periodic
reviews and analyses of the loan portfolio which include consideration of such
factors as the risk rating of individual credits, the size and diversity of the
portfolio, economic conditions, prior loss experience and results of periodic
credit reviews of the portfolio. The allowance for loan losses is increased by
provisions for loan losses charged against income and reduced by charge-offs,
net of recoveries. In management's judgment, the allowance for loan losses is
considered adequate to absorb losses inherent in the loan portfolio at September
30, 2005.
The Company considers a loan to be impaired if it is probable that they
will be unable to collect all amounts due (both principal and interest)
according to the contractual terms of the loan agreement. When a loan is deemed
impaired, the Company computes the present value of the loan's future cash
flows, discounted at the effective interest rate. As an expedient, creditors may
account for impaired loans at the fair value of the collateral or at the
observable market price of the loan if one exists. If the present value is less
than the carrying value of the loan, a valuation allowance is recorded. For
collateral dependent loans, the Company uses the fair value of the collateral,
less estimated costs to sell, on a discounted basis, to measure impairment.
Mortgage loans originated and intended for sale are carried at the
lower of cost or estimated market value in the aggregate. Net unrealized losses
are recognized in a valuation allowance by charges to income.
DERIVATIVE FINANCIAL INSTRUMENTS
The Company uses derivative financial instruments to mitigate market
risk from changes in interest rates. Our derivative financial instruments are
contracted in the over-the-counter market and include interest rate swaps.
Derivative financial instruments are accounted for in accordance with Statement
of Financial Accounting Standards No. 133, Accounting for Derivative Instruments
and Hedging Activities (SFAS 133), which requires that all derivative
instruments be recorded on the balance sheet at fair value. Changes in the fair
value of derivatives are recorded each period either in current results of
operations or other comprehensive income (loss). For a derivative designated as
part of a hedge transaction, where it is recorded is dependent on whether it is
a fair value hedge or a cash flow hedge. For a derivative designated as a fair
value hedge, the gain or loss of the derivative in the period of change and the
offsetting loss or gain of the hedged item attributed to the hedged risk are
recognized in results of operations. For a derivative designated as a cash flow
hedge, the effective portion of the derivative's gain or loss is initially
reported as a component of other comprehensive income (loss) and subsequently
reclassified into results of operations when the hedged exposure affects results
of operations. The ineffective portion of the gain or loss of a cash flow hedge
is recognized currently in results of operations. For a derivative not
designated as a hedging instrument, the gain or loss is recognized currently in
results of operations. The bank seeks to control or limit the interest rate risk
caused by mortgage banking activities. The method used to help reduce interest
rate risk from its mortgage banking activities are forward loan sale agreements.
At various times, depending on loan origination volume and management's
assessment of projected loan fallout, the bank may increase or reduce its
derivative position.
61
62
GREATER ATLANTIC FINANCIAL CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MORTGAGE LOAN INCOME, DISCOUNTS AND PREMIUMS
Interest income on loans is recorded on the accrual method. Discounts
and premiums relating to mortgage loans purchased are deferred and amortized
against or accreted into income over the estimated lives of the loans using the
level yield (interest) method. Accrual of interest is discontinued and an
allowance for uncollected interest is established and charged to interest income
for the full amount of accrued interest receivable on loans, which are
delinquent for a period of 90 days or more.
LOAN ORIGINATION AND COMMITMENT FEES
Loan origination and commitment fees and certain incremental direct
loan origination costs are being deferred with the net amount being amortized as
an adjustment of the related loan's yield. The Company is amortizing those
amounts over the contractual life of the related loans as adjusted for
anticipated prepayments using current and past payment trends.
MORTGAGE LOAN SALES AND SERVICING
The Company originates and sells loans and participating interest in
loans generally without retaining servicing rights. Loans are sold to provide
the Company with additional funds and to generate gains from mortgage banking
operations. Loans originated for sale are carried at the lower of cost or
market. When a loan and the related servicing are sold the Company recognizes
any gain or loss at the time of sale.
When servicing is retained on a loan that is sold, the Company
recognizes a gain or loss based on the present value of the difference between
the average constant rate of interest it receives, adjusted for a normal
servicing fee, and the yield it must pay to the purchaser of the loan over the
estimated remaining life of the loan. Any resulting net premium is deferred and
amortized over the estimated life of the loan using a method approximating the
level yield (interest) method. There were no loans sold with servicing rights
retained during the years ended September 30, 2005 and September 30, 2004. The
Company also sells participation interests in loans that it services.
PREMISES AND EQUIPMENT
Premises and equipment are recorded at cost. Depreciation is computed
on the straight-line method over useful lives ranging from five to ten years.
Leasehold improvements are capitalized and amortized using the straight-line
method over the life of the related lease.
FORECLOSED REAL ESTATE
Real estate acquired through foreclosure is recorded at the lower of
cost or fair value less estimated selling costs. Subsequent to the date of
foreclosure, valuation adjustments are made, if required, to the lower of cost
or fair value less estimated selling costs. Costs related to holding the real
estate, net of related income, are reflected in operations when incurred.
Recognition of gains on sale of real estate is dependent upon the transaction
meeting certain criteria relating to the nature of the property sold and the
terms of the sale.
GUARANTEED CONVERTIBLE PREFERRED SECURITIES
On July 1, 2003, the Company adopted Statement of Financial Accounting
Standards No. 150, "Accounting for Mandatorily Redeemable Securities" ("SFAS
150"). SFAS 150 requires that the Company classify redeemable securities with a
mandatory redemption date as liabilities in its balance sheet and classify
distributions related to such securities as interest expense. Also, SFAS 150
requires that the redeemable securities be reflected at fair market value when
reclassified as a liability. Accordingly, the guaranteed convertible preferred
securities have been reclassified as a liability at September 30, 2003. The
Company has consistently accounted for distributions related to these securities
as interest expense, and since the Company sold the securities in a public
offering, there was no fair market value adjustment necessary.
62
63
GREATER ATLANTIC FINANCIAL CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
INCOME TAXES
Income taxes are calculated using the liability method specified by
Statement of Financial Accounting Standards No. 109, "Accounting for Income
Taxes". The net deferred tax asset is reduced, if necessary, by a valuation
allowance for the amount of any tax benefits that, based on available evidence,
are not expected to be realized (See Note 10).
CASH AND CASH EQUIVALENTS
The Company considers cash and interest bearing deposits in other banks
as cash and cash equivalents for purposes of preparing the statement of cash
flows.
USE OF ESTIMATES IN THE PREPARATION OF FINANCIAL STATEMENTS
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
COMPREHENSIVE INCOME
Statement of Financial Accounting Standards No. 130, "Reporting
Comprehensive Income" ("SFAS 130"), establishes standards for the reporting and
display of comprehensive income, its components and accumulated balances.
Comprehensive income is defined to include all changes in equity except those
resulting from investments by owners and distributions to owners. Among other
disclosures, SFAS 130 requires that all items that are required to be recognized
under current accounting standards as components of comprehensive income be
reported in a financial statement that is displayed with the same prominence as
other financial statements. Presently, the Company's comprehensive income and
loss is from unrealized gains and losses on certain investment securities.
STOCK-BASED COMPENSATION
The Company has adopted the disclosure only provisions of Statement of
Financial Accounting Standards No. 123, "Accounting for Stock-Based
Compensation" ("SFAS 123"), but it continues to measure compensation cost for
the stock options using the intrinsic value method prescribed by APB Opinion No.
25. As allowable under SFAS 123, the Company used the Black-Sholes method to
measure the compensation cost of stock options granted in 2005 with the
following assumptions: risk-free interest rate of 4.23%, a dividend payout rate
of zero, and an expected option life of nine years. The volatility is 47%. Using
these assumptions, the fair value of stock options granted during fiscal 2005
was $3.70.
There were no adjustments made in calculating the fair value to account
for vesting provisions, for non-transferability or risk of forfeiture. Because
the Company's employee stock options have characteristics significantly
different from those of traded options, and because changes in the subjective
input assumptions can materially affect the fair value estimate, in management's
opinion, the existing models do not necessarily provide a reliable single
measure of the fair value of its employee stock options.
If the Company had elected to recognize compensation cost based on the
value at the grant dates with the method prescribed by SFAS 123, net income
(loss) and earnings (loss) per share would have been changed to the pro forma
amounts indicated in the following table:
63
64
GREATER ATLANTIC FINANCIAL CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Year Ended September 30,
-------------------------------------------
2005 2004 2003
- -----------------------------------------------------------------------------------------------------------
(In Thousands, Except Per Share Data)
Net (loss) income as reported $ (1,558) $ (3,192) $ 2,261
Deduct: Total stock-based employee compensation expense
determined under fair value based method for all awards, net
of related tax effects (239) (128) -
- -----------------------------------------------------------------------------------------------------------
Pro Forma net income (loss) $ (1,797) $ (3,320) $ 2,261
===========================================================================================================
Basic income (loss) per common share:
As reported $ (0.52) $ (1.06) $ 0.75
Pro Forma (0.60) (1.10) 0.75
- -----------------------------------------------------------------------------------------------------------
Diluted income (loss) per common share:
As reported $ (0.52) $ (1.06) $ 0.60
Pro Forma (0.60) (1.10) 0.60
- -----------------------------------------------------------------------------------------------------------
RECLASSIFICATIONS
Certain prior year amounts have been reclassified to conform to the
current method of presentation. These reclassifications have no effect on the
results of operations previously reported.
64
65
GREATER ATLANTIC FINANCIAL CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
2. INVESTMENTS
Available-for-Sale, September 30, 2005
- --------------------------------------------------------------------------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
-------------------------------------------------------------------------------------------------------------------
(In Thousands)
Investment securities
SBA notes $ 30,239 $ 112 $ 570 $ 29,781
CMOs 14,446 33 25 14,454
Corporate debt securities 6,736 39 39 6,736
-------------------------------------------------------------------------------------------------------------------
51,421 184 634 50,971
-------------------------------------------------------------------------------------------------------------------
Mortgage-backed securities
FNMA notes 35,548 29 630 34,947
GNMA notes 13,097 - 155 12,942
FHLMC notes 9,044 10 85 8,969
-------------------------------------------------------------------------------------------------------------------
57,689 39 870 56,858
-------------------------------------------------------------------------------------------------------------------
$ 109,110 $ 223 $ 1,504 $ 107,829
===================================================================================================================
Held-to-Maturity, September 30, 2005
- --------------------------------------------------------------------------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
- --------------------------------------------------------------------------------------------------------------------
(In Thousands)
Investment securities
SBA notes $ 6,531 $ 1 $ 319 $ 6,213
Corporate debt securities 1,000 20 - 1,020
- --------------------------------------------------------------------------------------------------------------------
7,531 21 319 7,233
- --------------------------------------------------------------------------------------------------------------------
Mortgage-backed securities
FNMA notes 202 - 4 198
FHLMC notes 236 - 1 235
- --------------------------------------------------------------------------------------------------------------------
438 - 5 433
- --------------------------------------------------------------------------------------------------------------------
$ 7,969 $ 21 $ 324 $ 7,666
====================================================================================================================
65
66
GREATER ATLANTIC FINANCIAL CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Available-for-sale, September 30, 2004
- --------------------------------------------------------------------------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
- --------------------------------------------------------------------------------------------------------------------
(In Thousands)
Investment securities
SBA notes $ 36,919 $ 84 $ 282 $ 36,721
CMOs 9,812 17 6 9,823
Corporate debt securities 3,923 42 37 3,928
- --------------------------------------------------------------------------------------------------------------------
50,654 143 325 50,472
- --------------------------------------------------------------------------------------------------------------------
Mortgage-backed securities
FNMA notes 61,195 4 897 60,302
GNMA notes 17,946 - 93 17,853
FHLMC notes 14,146 10 71 14,085
- --------------------------------------------------------------------------------------------------------------------
93,287 14 1,061 92,240
- --------------------------------------------------------------------------------------------------------------------
$ 143,941 $ 157 $ 1,386 $ 142,712
====================================================================================================================
Held-to-maturity, September 30, 2004
- --------------------------------------------------------------------------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
- --------------------------------------------------------------------------------------------------------------------
(In Thousands)
Investment securities
SBA notes $ 8,810 $ - $ 383 $ 8,427
Corporate notes 1,003 62 - 1,065
- --------------------------------------------------------------------------------------------------------------------
9,813 62 383 9,492
- --------------------------------------------------------------------------------------------------------------------
Mortgage-backed securities
FNMA notes 237 - 2 235
FHLMC notes 245 2 - 247
- --------------------------------------------------------------------------------------------------------------------
482 2 2 482
- --------------------------------------------------------------------------------------------------------------------
$ 10,295 $ 64 $ 385 $ 9,974
====================================================================================================================
The weighted average interest rate on investments was 5.33% and 3.70%
for the years ended September 30, 2005 and 2004, respectively.
TRADING ACTIVITIES
The net gains (losses) on trading activities included in earnings are
as follows:
Year Ended September 30,
-----------------------------------
2005 2004 2003
- ------------------------------------------------------------------------------------------------------
(In Thousands)
FHLB notes $ - $ - $ -
Mortgage-backed securities - (135) (38)
- ------------------------------------------------------------------------------------------------------
$ - $ (135) $ (38)
======================================================================================================
66
67
GREATER ATLANTIC FINANCIAL CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Proceeds from the sale of available for sale securities were $21.9
million, $67.8 million and $1.0 million for the years ended September 30, 2005,
2004 and 2003, respectively. Gross realized gains were $539,000, $77,000 and
$73,000 for the year ended September 30, 2005, 2004 and 2003, respectively.
As of September 30, 2005, the bank held investments in available for
sale with unrealized holding losses totaling $1.5 million, consisting of the
following:
Less than 12 months 12 months or more Total
-------------------------- -------------------------- -------------------------
Description of Securities Fair Unrealized Fair Unrealized Fair Unrealized
Value Losses Value Losses Value Losses
- ---------------------------------------------------------------------------------------------------------------
(In Thousands)
Corporate debt securities $ 5,018 $ 39 $ - $ - $ 5,018 $ 39
CMOs 6,234 25 - - 6,234 25
U.S. Government securities
SBA 21,960 570 - - 21,960 570
GNMA 12,942 155 - - 12,942 155
U.S. Government agency securities:
FHLMC MBS's 5,021 86 - - 5,021 84
FNMA MBS's 28,362 613 353 17 28,715 630
- ---------------------------------------------------------------------------------------------------------------
Total $ 79,537 $ 1,488 $ 353 $ 17 $ 79,890 $ 1,504
===============================================================================================================
Such unrealized holding losses are the result of an increase in market
interest rates during fiscal 2005 and are not the result of credit or principal
risk. Based on the nature of the investments and other considerations discussed
above, management concluded that such unrealized losses were not other than
temporary as of September 30, 2005
The amortized cost and estimated fair value of securities at September
30, 2005 and 2004, by contractual maturity, are as follows:
September 30, 2005 September 30, 2004
---------------------------------------------------------
Amortized Fair Amortized Fair
Cost Value Cost Value
- -----------------------------------------------------------------------------------------------------------
(In Thousands)
Available-for-sale:
One year or less $ - $ - $ - $ -
After one year through five years 185 169 411 398
After five years through ten years 4,070 4,041 3,000 2,963
After ten years 47,166 46,761 47,243 47,111
Mortgage-backed securities 57,689 56,858 93,287 92,240
- -----------------------------------------------------------------------------------------------------------
109,110 107,829 143,941 142,712
- -----------------------------------------------------------------------------------------------------------
Held-to-maturity:
One year or less $ 1,000 $ 1,020 $ - $ -
After one year through five years 408 373 1,599 1,624
After five years through ten years 253 231 - -
After ten years 5,870 5,609 8,214 7,868
Mortgage-backed securities 438 433 482 482
- -----------------------------------------------------------------------------------------------------------
7,969 7,666 10,295 9,974
- -----------------------------------------------------------------------------------------------------------
Total investment securities $117,079 $115,495 $154,236 $152,686
===========================================================================================================
Actual maturities may differ from contractual maturities because
issuers may have the right to call or prepay obligations with or without call or
prepayment penalties.
67
68
GREATER ATLANTIC FINANCIAL CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
3. LOANS RECEIVABLE
Loans receivable consists of the following:
September 30,
-----------------------------------
2005 2004
----------------------------------------------------------------------------------------------------
(In Thousands)
Mortgage loans:
Single-family $ 50,919 $ 80,083
Multi-family 751 1,074
Construction 24,273 16,696
Commercial real estate 25,530 23,023
Land loans 18,421 20,668
----------------------------------------------------------------------------------------------------
Total mortgage loans 119,894 141,544
Commercial loans 35,458 47,654
Consumer loans 69,381 73,400
----------------------------------------------------------------------------------------------------
Total loans 224,733 262,598
Less:
Due borrowers on loans-in process (20,386) (10,453)
Deferred loan fees 873 625
Allowance for loan losses (1,212) (1,600)
Unearned (discounts) premium 429 745
----------------------------------------------------------------------------------------------------
$ 204,437 $ 251,915
====================================================================================================
Loans held for sale $ 9,517 $ 5,528
Loans receivable, net 194,920 246,387
----------------------------------------------------------------------------------------------------
$ 204,437 $ 251,915
====================================================================================================
Loans held for sale are all single-family mortgage loans. The activity
in allowance for loan losses is summarized as follows:
Year Ended September 30,
----------------------------------------------------
2005 2004 2003
- --------------------------------------------------------------------------------------------------------------------
(In Thousands)
Balance, beginning $ 1,600 $ 1,550 $ 1,699
Provision for loan losses 219 209 855
Charge-offs (625) (200) (1,020)
Recoveries 18 41 16
- --------------------------------------------------------------------------------------------------------------------
Balance, ending $ 1,212 $ 1,600 $ 1,550
====================================================================================================================
The amount of loans serviced for others totaled $40.0 million and $16.9
million as of September 30, 2005 and September 30, 2004, respectively.
The allowance for uncollected interest, established for mortgage loans
which are delinquent for a period of 90 days or more, amounted to $134,000,
$108,000 and $106,000 as of September 30, 2005, 2004 and September 30, 2003,
respectively. This is the entire amount of interest income that would have been
recorded in these periods under the contractual terms of such loans. Principal
balances of non-performing loans related to reserves for uncollected interest
totaled $1.6 million, $953,000 and $1.4 million as of September 30, 2005, 2004,
and September 30, 2003, respectively.
68
69
GREATER ATLANTIC FINANCIAL CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
4. ACCRUED INTEREST AND DIVIDENDS RECEIVABLE
Accrued interest and dividends receivable consist of the following:
September 30,
-------------------------
2005 2004
--------------------------------------------------------------------------------------------------
(In Thousands)
Investments $ 718 $ 810
Loans receivable 1,005 1,090
Accrued dividends on FHLB stock 23 40
--------------------------------------------------------------------------------------------------
$ 1,746 $ 1,940
==================================================================================================
5. PREMISES AND EQUIPMENT
Premises and equipment consists of the following:
September 30,
-------------------------
2005 2004
- -------------------------------------------------------------------------------------------------
(In Thousands)
Furniture, fixtures and equipment $5,228 $ 5,626
Leasehold improvements 2,836 4,996
Land 377 694
- -------------------------------------------------------------------------------------------------
8,441 11,316
Less: Allowances for depreciation and amortization 4,243 4,041
- -------------------------------------------------------------------------------------------------
$4,198 $ 7,275
=================================================================================================
6. FORECLOSED REAL ESTATE
Foreclosed real estate is summarized as follows.
September 30,
-------------------------------
2005 2004
------------------------------------------------------------------------------------------------------
(In Thousands)
Real estate acquired through settlement of loans $ 232 $ -
======================================================================================================
69
70
GREATER ATLANTIC FINANCIAL CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The cost of operations for foreclosed real consists of the following:
Year Ended September 30,
-----------------------------------------------
2005 2004 2003
------------------------------------------------------------------------------------------------------
(In Thousands)
INCOME:
Gain on sale $ - $ - $ -
------------------------------------------------------------------------------------------------------
EXPENSE:
Loss on sale - - 24
Provision for (recovery of) loss - - -
Operating expenses - - 5
------------------------------------------------------------------------------------------------------
- - 29
------------------------------------------------------------------------------------------------------
Loss $ - $ - $ 29
======================================================================================================
There was no activity in the allowance for losses on foreclosed real
estate in fiscal 2005, 2004 or 2003.
7. DEPOSITS
Deposits are summarized as follows:
September 30, 2005
--------------------------------------------------------------------------------------------------------
Ranges of
Contractual %
Amount Interest Rates of Total
--------------------------------------------------------------------------------------------------------
(In Thousands)
Savings accounts $ 8,078 0.00 - 1.09% 3.4%
NOW/money market accounts 66,638 0.00 - 3.54% 28.0
Certificates of deposit 145,912 0.99 - 9.00% 61.4
Non-interest bearing demand deposits 17,166 0.00% 7.2
--------------------------------------------------------------------------------------------------------
$ 237,794 100.0%
========================================================================================================
September 30, 2004
--------------------------------------------------------------------------------------------------------
Ranges of
Contractual %
Amount Interest Rates of Total
--------------------------------------------------------------------------------------------------------
(In Thousands)
Savings accounts $ 14,266 0.00 - 1.09% 4.9%
NOW/money market accounts 74,185 0.00 - 1.68% 25.7
Certificates of deposit 182,056 0.99 - 9.00% 63.0
Non-interest bearing demand deposits 18,449 0.00% 6.4
--------------------------------------------------------------------------------------------------------
$ 288,956 100.0%
========================================================================================================
70
71
GREATER ATLANTIC FINANCIAL CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Certificates of deposit as of September 30, 2005 mature as follows:
Year ending September 30, Amount
---------------------------------------------------------------------------------------------
(In Thousands)
Thousands
2006 $ 99,221
2007 27,976
2008 10,651
2009 4,222
2010 and after 3,842
---------------------------------------------------------------------------------------------
$ 145,912
=============================================================================================
Interest expense on deposit accounts consists of the following:
Year Ended September 30,
--------------------------------------------
2005 2004 2003
------------------------------------------------------------------------------------------------------------
(In Thousands)
NOW/money market accounts $ 1,197 $ 852 $ 1,050
Savings accounts 94 113 122
Certificates of deposit 5,046 4,786 5,501
------------------------------------------------------------------------------------------------------------
$ 6,337 $ 5,751 $ 6,673
============================================================================================================
Deposits, including certificates of deposit, with balances in excess of
$100,000 totaled $83.7 million and $94.9 million at September 30, 2005, and
September 30, 2004, respectively.
8. DEFERRED COMPENSATION PLAN
On October 30, 1997, the Company adopted a deferred compensation plan.
Under the deferred compensation plan, an employee may elect to participate by
directing that all or part of his or her compensation be credited to a deferral
account. The election must be made prior to the beginning of the calendar year.
The deferral account bears interest at 6% per year. The amounts credited to the
deferral account are payable in preferred stock or cash at the election of the
Board of Directors on the date the Company announces a change in control or the
date three years from the date the participant elects to participate in the
deferred compensation plan. The liability associated with the plan was zero at
September 30, 2005 and 2004, respectively.
71
72
GREATER ATLANTIC FINANCIAL CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
9. ADVANCES FROM FEDERAL HOME LOAN BANK AND OTHER BORROWINGS
The Bank has $107.5 million credit availability as of September 30,
2005 from the Federal Home Loan Bank of Atlanta (FHLB), which it uses to fund
loans originated by Greater Atlantic Mortgage Corporation. Any advances in
excess of $10 million are required to be collateralized with eligible
securities. The credit availability is at the discretion of the FHLB.
The following table sets forth information regarding the Bank's
borrowed funds:
At or For the Year Ended September 30,
--------------------------------------------------
2005 2004 2003
----------------------------------------------------------------------------------------------------------------------
(Dollars in Thousands)
FHLB advances:
Average balance outstanding $ 44,422 $ 116,155 $ 102,868
Maximum amount outstanding at any month-end during the period 49,200 142,250 124,150
Balance outstanding at end of period 38,000 51,200 86,800
Weighted average interest rate during the period 4.47% 2.39% 2.58%
Weighted average interest rate at end of period 4.85% 3.93% 2.72%
Reverse repurchase agreements:
Average balance outstanding 58,837 89,734 86,225
Maximum amount outstanding at any month-end during the period 62,846 93,730 89,850
Balance outstanding at end of period 38,479 64,865 77,835
Weighted average interest rate during the period 4.37% 4.26% 4.31%
Weighted average interest rate at end of period 3.69% 1.98% 1.25%
The Bank has pledged certain investments with carrying values of $42.4
million at September 30, 2005, to collateralize advances from the FHLB.
First mortgage loans in the amount of $30.3 million and HELOC's in the
amount of $34.8 million are also available to be pledged as collateral for the
advances at September 30, 2005.
10. INCOME TAXES
The company had no income tax provision in 2005 and 2003 as its pretax
income was offset by existing net operating losses.
The provision for income taxes differs from the amount of income tax
determined by applying the applicable U.S. statutory federal income tax rate to
pre-tax income (loss) as a result of the following differences:
Year Ended September 30,
--------------------------------------------
2005 2004 2003
----------------------------------------------------------------------------------------------------------
(In Thousands)
Federal tax provision (benefit) $ (530) $ (1,055) $ 776
State tax provision (benefit) (62) (121) 89
(Increase) decrease in provision resulting from:
Valuation changes 586 1,259 (871)
Permanent differences 6 6 6
----------------------------------------------------------------------------------------------------------
Income tax provision $ 0 $ 89 $ -
==========================================================================================================
72
73
GREATER ATLANTIC FINANCIAL CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Significant components of the Company's deferred tax assets and
liabilities are as follows:
September 30,
--------------------------------
2005 2004
---------------------------------------------------------------------------------------------
(In Thousands)
Deferred tax assets
Net operating loss carryforwards $ 4,192 $ 3,810
Unrealized (gains) losses on derivatives (76) 249
Allowance for loan losses 461 532
Available for sale securities 515 589
Core deposit intangible 65 65
Deferred loan fees 177 289
Other 458 87
---------------------------------------------------------------------------------------------
Total deferred tax assets 5,792 5,621
---------------------------------------------------------------------------------------------
Deferred tax liabilities
Tax over book depreciation 535 518
Other 108 106
---------------------------------------------------------------------------------------------
Total deferred tax liabilities 643 624
---------------------------------------------------------------------------------------------
Net deferred tax assets 5,149 4,997
Less: Valuation allowance 3,175 2,963
---------------------------------------------------------------------------------------------
Total $ 1,974 $ 2,034
=============================================================================================
Management has provided a valuation allowance for net deferred tax
assets, due to the timing of the generation of future taxable income.
At September 30, 2005, the Company has net operating loss carryforwards
for federal income tax purposes of approximately $6.1 million, which expire in
the years 2006 to 2022. As a result of the change in ownership of the Bank,
approximately $1.5 million of the total net operating loss carryforwards are
subject to an annual usage limitation of approximately $114,000.
73
74
GREATER ATLANTIC FINANCIAL CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
11. COMMITMENTS AND CONTINGENCIES
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 and to reduce its own exposure to fluctuations in interest rates.
These financial instruments include commitments to extend credit, standby
letters of credit, and financial guarantees. Those instruments involve, to
varying degrees, elements of credit and interest rate risk in excess of the
amount recognized in the balance sheet. The contract or notional amounts of
those instruments reflect the extent of involvement the Company has 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 and
standby letters of credit and financial guarantees written is represented by the
contractual notional amount of those instruments. The Company uses the same
credit policies in making commitments and conditional obligations as it does for
on-balance-sheet instruments.
At September 30, 2005, the Company had outstanding commitments to
originate and purchase loans and undisbursed construction mortgages aggregating
approximately $65.9 million. Fixed rate commitments are at market rates as of
the commitment dates and generally expire within 60 days. In addition, the
Company was contingently liable under unused lines of credit for approximately
$109.2 million and standby letters of credit for approximately $101,000.
RENTAL COMMITMENTS
The Company has entered into lease agreements for the rental of certain
properties expiring on various dates through June 30, 2015. The future minimum
rental commitments as of September 30, 2005, for all non-cancelable lease
agreements, are as follows:
Years ending Rental
September 30, Commitments
-------------------------------------------------------
(In Thousands)
2006 $ 1,045
2007 1,035
2008 1,066
2009 994
2010 814
Thereafter 783
-------------------------------------------------------
Total $ 5,737
=======================================================
Net rent expense for the years ended September 30, 2005, 2004 and
September 30, 2003 was $1.4 million, $1.7 million and $1.6 million,
respectively.
74
75
GREATER ATLANTIC FINANCIAL CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
12. REGULATORY MATTERS
Generally, annual dividends to shareholders are limited to the amount
of current year net income, plus the total net income for the preceding two
years, adjusted for any prior year distributions. Under certain circumstances,
regulatory approval would be required before making a capital distribution. The
Bank did not pay any cash dividends during the year ended September 30, 2005,
2004 or 2003.
The Federal Deposit Insurance Corporation Improvement Act of 1991
(FDICIA) created five categories of financial institutions based on the adequacy
of their regulatory capital level: well capitalized, adequately capitalized,
undercapitalized, significantly undercapitalized and critically
undercapitalized. Under FDICIA, a well-capitalized financial institution is one
with Tier 1 leverage capital of 5%, Tier 1 risk-based capital of 6% and total
risk-based capital of 10%. At September 30, 2005 and September 30, 2004, the
Bank was classified as a well capitalized financial institution.
As part of FDICIA, the minimum capital requirements that the Bank is
subject to are as follows: 1) tangible capital equal to at least 1.5% of
adjusted total assets, 2) core capital equal to at least 4% of adjusted total
assets and 3) total risk-based capital equal to at least 8% of risk-based
assets.
The following presents the Bank's capital position at September 30,
2005 and September 30, 2004:
- -------------------------------------------------------------------------------------------------------------
Required Required Actual Actual
At September 30, 2005 Balance Percent Balance Percent Surplus
- -------------------------------------------------------------------------------------------------------------
(Dollars in Thousands)
Tangible $ 5,099 1.50% $ 23,814 7.01% $ 18,715
Core $ 13,598 4.00% $ 23,814 7.01% $ 10,216
Risk-based $ 17,702 8.00% $ 24,913 11.26% $ 7,211
=============================================================================================================
-------------------------------------------------------------------------------------------------------------
Required Required Actual Actual
At September 30, 2004 Balance Percent Balance Percent Surplus
-------------------------------------------------------------------------------------------------------------
(Dollars in Thousands)
Tangible $ 6,498 1.50% $ 25,335 5.85% $ 18,837
Core $ 17,329 4.00% $ 25,335 5.85% $ 8,006
Risk-based $ 19,790 8.00% $ 26,843 10.85% $ 7,053
=============================================================================================================
75
76
GREATER ATLANTIC FINANCIAL CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The following is a reconciliation of the Bank's net worth as reported
to the OTS on GAAP capital as presented in the accompanying financial
statements.
September 30,
------------------------------
2005 2004
--------------------------------------------------------------------------------------------------
(In Thousands)
GAAP capital $ 16,925 $ 18,480
Guaranteed convertible preferred securities 8,000 8,000
Unrealized losses on available for sale securities 1,095 1,079
Excluded deferred tax asset (1,250) (940)
Goodwill (956) (1,284)
--------------------------------------------------------------------------------------------------
Tangible capital 23,814 25,335
Adjustments - -
--------------------------------------------------------------------------------------------------
Core capital 23,814 25,335
Allowance for general loss reserves 1,212 1,600
Adjustments to arrive at Risk-Weighted Assets (113) (92)
--------------------------------------------------------------------------------------------------
Risk-based capital $ 24,913 $ 26,843
==================================================================================================
Failure to meet any of the three capital requirements causes savings
institutions to be subject to certain regulatory restrictions and limitations
including a limit on asset growth, and the requirement to obtain regulatory
approval before certain transactions or activities are entered into.
13. STOCKHOLDERS' EQUITY
Effective November 14, 1998, the Company established the 1997 Stock
Option and Warrant Plan (the "Plan"). The Plan reserves options for 76,667
shares to employees and warrants for 94,685 shares to stockholders. The Plan was
amended effective March 14, 2000, to increase the number of options available
for grant from 76,667 to 225,000 shares to employees and amended again effective
March 15, 2002, to increase the number of options available for grant from
225,000 to 350,000 shares to employees and to limit its application to officers
and employees. The stock options and warrants vest immediately upon issuance and
carry a maximum term of 10 years. The exercise price for the stock options and
warrants is the fair market value at grant date. As of September 30, 2005,
94,685 warrants were issued.
The following summary represents the activity under the Plan:
------------------------------------------------------------------------------------------------------------
Number Exercise Expiration
of Shares Price Date
------------------------------------------------------------------------------------------------------------
Balance outstanding and exercisable at September 30, 2002 190,000
Options granted - $ -
------------------------------------------------------------------------------------------------------------
Balance outstanding and exercisable at September 30, 2003 190,000
Options granted 36,000 $ 8.50 10-20-13
------------------------------------------------------------------------------------------------------------
Balance outstanding and exercisable at September 30, 2004 226,000
Options granted 104,000 $ 6.75 10-6-14
Options exercised (8,500) $ 4.00
Options expired (55,500) $ 6.52
------------------------------------------------------------------------------------------------------------
Balance outstanding and exercisable at September 30, 2005 266,000 $ 6.91
============================================================================================================
76
77
GREATER ATLANTIC FINANCIAL CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
A summary of the stock options outstanding and exercisable as of
September 30, 2005 is as follows:
---------------------------------------------------------------------------------------------------------------------
Options Outstanding Options Exercisable
----------------------------------------------------------- ------------------------------------------------------
Weighted Weighted Weighted
Average Average Average
Exercise Number Remaining Life Exercise Number Exercise
Prices Outstanding (years) Price Exercisable Price
----------------- --------------------- ------------------- ------------- -------------------- -------------------
$7.50 16,667 2.2 $7.50 16,667 $7.50
$8.38 41,667 3.2 $8.38 41,667 $8.38
$6.00 13,000 4.2 $6.00 13,000 $6.00
$4.00 41,666 5.2 $4.00 41,666 $4.00
$5.31 10,000 5.2 $5.31 10,000 $5.31
$7.00 17,000 6.3 $7.00 17,000 $7.00
$9.00 20,000 6.3 $9.00 20,000 $9.00
$8.50 30,000 8.1 $8.50 30,000 $8.50
$6.75 76,000 9.1 $6.75 76,000 $6.75
----------------- --------------------- ------------------- ------------- -------------------- -------------------
14. EARNINGS (LOSS) PER SHARE OF COMMON STOCK
The Company reports earning per share in accordance with Statement of
Financial Accounting Standards No. 128, "Earnings Per Share" ("SFAS 128"). SFAS
128 requires two presentations of earning per share - "basic" and "diluted."
Basic earnings per share are computed by dividing income available to common
stockholders (the numerator) for the period by the weighted average number of
shares of common stock outstanding during the year (the denominator). The
computation of diluted earnings per share is similar to basic earnings per
share, except that the denominator is increased to include the number of
additional common shares that would have been outstanding if the potentially
dilutive common shares had been issued.
The following table presents a reconciliation between the basic and
diluted earnings (loss) per share for the year ended September 30, 2005, 2004
and 2003:
For the Year Ended September 30,
-----------------------------------------------------------------------------------------------
2005 2004 2003
----------------------------- ----------------------------- -----------------------------
Per Per Per
Share Share Share
Income Shares Amount Income Shares Amount Income Shares Amount
- -------------------------------------------------------------------------------------------------------------------------------
(Dollars in Thousands, Except
Per Share Data)
Basic earnings per share $(1,558) 3,015,509 $(0.52) $(3,192) 3,012,434 $(1.06) $2,261 3,012,434 $0.75
Effect of conversion of
preferred securities 409 1,371,428
Effect of dilutive stock
options - 29,600
- -------------------------------------------------------------------------------------------------------------------------------
Diluted $(1,558) 3,015,509 $(0.52) $(3,192) 3,012,434 $(1.06) $2,670 4,413,462 $0.60
===============================================================================================================================
The effect of the conversion of preferred securities and stock options
were excluded in 2005 and 2004, as they would have been anti-dilutive.
15. RELATED PARTY TRANSACTIONS
The Bank offers loans to its officers, directors, employees and related
parties of such persons. These loans are made in the ordinary course of business
and, in the opinion of management, do not involve more than the normal risk of
collectibility, or present other unfavorable features. Such loans are made on
the same terms as those prevailing at the time for comparable transactions with
non-affiliated persons. The aggregate balance of loans to directors, officers
and other related parties is $204,000 and $916,000 as of September 30, 2005 and
September 30, 2004, respectively.
77
78
GREATER ATLANTIC FINANCIAL CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
16. MARKET VALUE DISCLOSURE OF FINANCIAL INSTRUMENTS
The fair value information for financial instruments, which is provided
below, is based on the requirements of Financial Accounting Standard Board
Statement of Financial Accounting Standards No. 107, "Disclosures about Fair
Value of Financial Instruments," and does not represent the aggregate net fair
value of the Bank.
Much of the information used to determine fair value is subjective and
judgmental in nature; therefore, fair value estimates, especially for less
marketable securities, may vary. The amounts actually realized or paid upon
settlement or maturity could be significantly different.
The following methods and assumptions were used to estimate the fair
value of each class of financial instrument for which it is reasonable to
estimate that value:
A. Cash and interest bearing deposits - Fair value is estimated to be
carrying value.
B. Investment securities - Fair value is estimated using quoted market
prices or market estimates.
C. Loans receivable - Fair value is estimated by discounting future
cash flows using the current rate for similar loans.
D. Deposits - For passbook savings, checking and money market accounts,
fair value is estimated at carrying value. For fixed maturity certificates of
deposit, fair value is estimated by discounting future cash flows at the
currently offered rates for deposits of similar remaining maturities.
E. Advances from the FHLB of Atlanta and reverse repurchase agreements
- - Fair value is estimated by discounting future cash flows at the currently
offered rates for advances of similar remaining maturities.
F. Off-balance sheet instruments - The fair value of commitments is
determined by discounting future cash flows using the current rate for similar
loans. Commitments to extend credit for other types of loans and standby letters
of credit were determined by discounting future cash flows using current rates.
The carrying value and estimated fair value of financial instruments is
summarized as follows:
For the Year Ended September 30,
-----------------------------------------------------------
2005 2004
----------------------------- ----------------------------
Carrying Estimated Carrying Estimated
value fair value value fair value
----------------------------------------------------------------------------------------------------------
(In Thousands)
Assets:
Cash and interest bearing deposits $ 6,702 $ 6,702 $ 10,603 $ 10,603
Investment securities 115,798 115,495 153,007 152,686
Loans receivable 204,437 204,806 251,915 251,988
----------------------------------------------------------------------------------------------------------
Liabilities:
Deposits 237,794 238,620 288,956 289,803
Borrowings 76,479 77,689 116,065 118,713
----------------------------------------------------------------------------------------------------------
Off-balance sheet instruments:
Commitments to extend credit - 1,362 - 821
----------------------------------------------------------------------------------------------------------
17. EMPLOYEE BENEFIT PLANS
The Company operates a 401(k) Retirement Plan covering all full-time
employees meeting the minimum age and service requirements. Contributions to the
Retirement Plan are at the discretion of the Company. The Company made no
contributions for the years ended September 30, 2005 and 2004.
78
79
GREATER ATLANTIC FINANCIAL CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
18. SUPPLEMENTAL CASH FLOW INFORMATION
Year Ended September 30,
----------------------------------------
2005 2004 2003
-----------------------------------------------------------------------------------------------------------
(In Thousands)
Cash paid during period for interest on deposits and borrowings $5,861 $7,777 $8,307
===========================================================================================================
19. SEGMENT REPORTING
The Company has two reportable segments, banking and mortgage banking.
The Bank operates retail deposit branches throughout the greater Washington,
D.C./Baltimore metropolitan area. The banking segment provides retail consumer
and small businesses with deposit products such as demand, transaction, savings
accounts and certificates of deposit and lending products, such as residential
and commercial real estate, construction and development, consumer and
commercial business loans. Further, the banking segment invests in residential
real estate loans purchased from GAMC and others, and also invests in
mortgage-backed and other securities. The mortgage banking segment activities,
which are conducted principally through GAMC, include the origination of
residential real estate loans either for the Bank's portfolio or for sale into
the secondary market with servicing released.
The accounting policies of the segments are the same as those described
in Note 1. The Company evaluates performance based on net interest income,
noninterest income, and noninterest expense. The total of these three items is
the reportable segment's net contribution.
The Company's reportable segments are strategic business units that
offer different services in different geographic areas. They are managed
separately because each segment appeals to different markets and, accordingly,
requires different technology and marketing strategies.
Since the Company derives a significant portion of its revenue from
interest income and interest expense, the segments are reported below using net
interest income. Because the Company also evaluates performance based on
noninterest income and noninterest expense, these measures of segment profit and
loss are also presented.
- --------------------------------------------------------------------------------------------------------------
Total Total
Mortgage Reportable Intersegment Operating
Banking Banking Segments Eliminations Earnings
- --------------------------------------------------------------------------------------------------------------
(In Thousands)
Net interest income (1)
2005 $ 6,192 $ 132 $ 6,324 $ - $ 6,324
2004 $ 5,905 $ 493 $ 6,398 $ - $ 6,398
Noninterest income:
2005 $ 3,187 $ 5,160 $ 8,347 $ (30) $ 8,317
2004 $ 562 $ 9,398 $ 9,960 $ (31) $ 9,929
Noninterest expense:
2005 $ 9,903 $ 6,326 $ 16,229 $ (30) $ 16,199
2004 $ 10,384 $ 9,077 $ 19,461 $ (31) $ 19,430
Net income:
2005 $ (524) $ (1,034) $ (1,558) $ - $ (1,558)
2004 $ (3,917) $ 725 $ (3,192) $ - $ (3,192)
Segment assets:
2005 $348,899 $ 11,175 $360,074 $(19,265) $ 340,809
2004 $439,491 $ 7,869 $447,360 $(12,990) $ 434,370
(1) Segment net interest income reflects income after provision for loan losses.
79
80
GREATER ATLANTIC FINANCIAL CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
20. JUNIOR SUBORDINATED DEBT SECURITIES
On March 20, 2002, Greater Atlantic Capital Trust I (the, "Trust"), a
Delaware statutory business trust and a wholly owned Trust subsidiary of the
Company issued $9.6 million aggregate liquidation amount (963,038 shares) of
6.50% cumulative preferred securities maturing on December 31, 2031, with an
option to call on or after December 31, 2003. Conversion of the preferred
securities into the Company's common stock may occur at any time on or after 60
days after the closing of the offering. The Company may redeem the preferred
securities, in whole or in part, at any time on or after December 31, 2003.
Distributions on the preferred securities are payable quarterly on March 31,
June 30, September 30 and December 31 of each year beginning on June 30, 2002.
The Trust also issued 29,762 common securities to the Company for $297,620. The
Company purchased all the shares of the common stock. The proceeds from the sale
of the preferred securities and the proceeds from the sale of the trust's common
securities were utilized to purchase from the Company junior subordinated debt
securities of $9,928,000 bearing interest of 6.50% and maturing December 31,
2031. All intercompany interest and equity were eliminated in consolidation.
The Trust was formed for the sole purpose of investing the proceeds
from the sale of the convertible preferred securities in the corresponding
convertible debentures. The Company has fully and unconditionally guaranteed the
preferred securities along with all obligations of the trust related thereto.
The sale of the preferred securities yielded $9.3 million after deducting
offering expenses. The Company currently retained approximately $1.3 million of
the proceeds for general corporate purposes. The remaining $8.0 million of the
proceeds was invested in Greater Atlantic Bank to increase its capital position.
To comply with FIN46, the trust preferred subsidiary was deconsolidated
in 2004, and the related securities have been presented as obligations of the
Company and titled "Junior Subordinated Debt Securities" in the financial
statements.
21. DERIVATIVE FINANCIAL INSTRUMENTS
Beginning in fiscal 2002, the Bank utilized derivative financial
instruments to hedge its interest rate risk. Beginning in 2002, the Bank adopted
statement of Financial Accounting Standard No. 133, "Accounting for Derivative
Instruments and Hedging Activities" ("SFAS 133") which requires that an entity
recognize all derivatives as either assets or liabilities and measure those
instruments at fair value. The Bank bases the estimated fair values of these
agreements on the cost of interest-rate exchange agreements with similar terms
at available market prices, excluding accrued interest receivable and payable.
However, active markets do not exist for many types of financial instruments.
Consequently, fair values for these instruments must be estimated using
techniques such as discounted cash flow analysis and comparisons to similar
instruments. Estimates developed using these methods are highly subjective and
require judgments regarding significant matters such as the amount and timing of
future cash flows and the selection of discount rates that appropriately reflect
market and credit risks. Changes in these judgments often have a material effect
on the fair value estimates. Since those estimates are made as of a specific
time, they are susceptible to material near term changes.
The Bank entered into various interest-rate swaps during fiscal year
2003 and 2002 that total $24 million in notional principal. The swaps pay a
fixed rate with the Bank receiving payments based upon one-to three-month
floating rate LIBOR. The capped range is between 1.67% - 3.01%, and expires
between 1 and 5 years. The Bank also entered into various interest rate caps
during fiscal year 2003 and 2002 that total $30 million in notional principal
with terms between four and ten years that limit the float between a floor of
2.00%, and capped between 5.00% - 8.00%. The Bank accounts for these
derivatives, under the guidelines of SFAS 133.
The Company's derivatives do not meet hedge accounting requirements
under SFAS 133, and therefore, the Company carries the derivatives at their fair
value on the balance sheet, recognizing changes in their fair value in
current-period earnings. The Company recognized a gain of $836,000 in fiscal
2005, a loss of $227,000 in fiscal 2004 and a gain of $9,000 in fiscal 2003
related to its derivatives.
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81
GREATER ATLANTIC FINANCIAL CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
22. RECENT ACCOUNTING STANDARDS
In April 2003, the FASB issued Statement No. 149, Amendment of
Statement 133 on Derivative Instruments and Hedging Activities. This Statement
amends and clarifies financial accounting and reporting for derivative
instruments, including certain derivative instruments embedded in other
contracts (collectively referred to as derivatives) and for hedging activities
under FASB Statement No. 133, Accounting for Derivative Instruments and Hedging
Activities. We adopted the use of this accounting statement in July 2003.
In December 2003, the FASB issued FIN No. 46R, "Consolidation of
Variable Interest Entities," an interpretation of Accounting Research Bulletin
No. 51. FIN No. 46R requires that variable interest entities be consolidated by
a company if that company is subject to a majority of the risk of loss from the
variable interest entity's activities or is entitled to receive a majority of
the entity's residual returns or both. FIN 46R also requires disclosure about
variable interest entities that companies are not required to consolidate but in
which a company has a significant variable interest. The consolidation
requirements must be adopted no later than the beginning of the first fiscal
year or interim period beginning after March 15, 2004. The adoption of FIN No.
46R did not have a material impact on the Corporation's results of operations,
financial position or cash flows.
The Financial Accounting Standards Board ("FASB") issued Statement of
Financial Accounting Standard ("SFAS") No. 123 (Revised 2004) ("SFAS No. 123R"),
"Share-Based Payment," in December 2004. SFAS No. 123R is a revision of FASB
Statement 123, "Accounting for Stock-Based Compensation" and supersedes APB
Opinion No. 25, "Accounting for Stock Issued to Employees," and its related
implementation guidance. The Statement focuses primarily on accounting for
transactions in which an entity obtains employee services in share-based payment
transactions. SFAS No. 123R requires a public entity to measure the cost of
employee services received in exchange for an award of equity instruments based
on the grant-date fair value of the award (with limited exceptions). That cost
will be recognized over the period during which an employee is required to
provide service in exchange for the award. This statement is effective as of the
beginning of the first annual reporting period that begins after June 15, 2005
and the Company will adopt the standard in the first quarter of fiscal 2006. The
Company has not determined the impact that this statement will have on its
consolidated financial position or results of operations.
23. PARENT COMPANY - ONLY FINANCIAL STATEMENTS
Parent Company - Only Condensed Statements of Financial Condition
September 30,
-----------------------------------
2005 2004
------------------------------------------------------------------------------------------
(In Thousands)
Assets
Cash and cash equivalents $ 66 $ 14
Loans receivable - -
Investment in subsidiary 26,243 27,833
Prepaid expenses and other assets 304 303
------------------------------------------------------------------------------------------
Total assets $ 26,613 $ 28,150
==========================================================================================
Liabilities and stockholders' equity
Accrued interest payable on subordinated debt $ - $ -
Other liabilities (9) 3
------------------------------------------------------------------------------------------
Total liabilities (9) 3
------------------------------------------------------------------------------------------
Subordinated debt 9,928 9,928
------------------------------------------------------------------------------------------
Stockholders' equity
Common stock 30 30
Additional paid-in capital 25,185 25,152
Accumulated deficit (8,521) (6,963)
------------------------------------------------------------------------------------------
Total stockholders' equity 16,694 18,219
------------------------------------------------------------------------------------------
Total liabilities and stockholders' equity $ 26,613 $ 28,150
==========================================================================================
81
82
Greater Atlantic Financial Corp. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Parent Company - Only Condensed Statements of Operations
Year Ended September 30,
-------------------------------------------
2005 2004 2003
-----------------------------------------------------------------------------------------------------------
(In Thousands)
Interest income $ - $ 2 $ 17
Other income - - -
-----------------------------------------------------------------------------------------------------------
Total interest income - 2 17
-----------------------------------------------------------------------------------------------------------
Interest expense 645 645 645
-----------------------------------------------------------------------------------------------------------
Total interest expense 645 645 645
-----------------------------------------------------------------------------------------------------------
Net interest income (645) (643) (628)
-----------------------------------------------------------------------------------------------------------
Noninterest income
Gain (loss) on sale of investment securities - - -
Other operating income 19 19 19
-----------------------------------------------------------------------------------------------------------
Total noninterest income 19 19 19
-----------------------------------------------------------------------------------------------------------
Noninterest expense
Other operating expense 142 135 109
-----------------------------------------------------------------------------------------------------------
Total noninterest expense 142 135 109
-----------------------------------------------------------------------------------------------------------
Loss before income from subsidiaries (768) (759) (718)
-----------------------------------------------------------------------------------------------------------
Equity (loss) income from subsidiaries (790) (2,433) 2,979
-----------------------------------------------------------------------------------------------------------
Net (loss) income $ (1,558) $ (3,192) $ 2,261
===========================================================================================================
Parent Company - Only Condensed Statements of Cash Flows
Year Ended September 30,
-------------------------------------------
2005 2004 2003
------------------------------------------------------------------------------------------------------------
(In Thousands)
Cash flows from operating activities:
Net income (loss) $ (1,558) $ (3,192) $2,261
Adjustments to reconcile net loss to net cash (used in)
provided by operating activities
(Income) loss from subsidiaries 790 2,433 (2,979)
(Increase) decrease in assets (1) (283) 1
Decrease in other liabilities (12) (9) (170)
------------------------------------------------------------------------------------------------------------
Net cash used in operating activities (781) (1,051) (887)
------------------------------------------------------------------------------------------------------------
Cash flows from investing activities:
Loan originations in excess of repayments - - 125
Investment in subsidiary - - -
------------------------------------------------------------------------------------------------------------
Net cash provided by investing activities - - 125
------------------------------------------------------------------------------------------------------------
Cash flows from financing activities:
Cash dividend from subsidiary 800 500 -
Stock options exercised 33 - -
------------------------------------------------------------------------------------------------------------
Net cash provided by financing activities 833 500 -
------------------------------------------------------------------------------------------------------------
Net (decrease) increase in cash and cash equivalents 52 (551) (762)
Cash and cash equivalents at beginning of period 14 565 1,327
------------------------------------------------------------------------------------------------------------
Cash and cash equivalents at end of period $ 66 $ 14 $ 565
============================================================================================================
82
83
GREATER ATLANTIC FINANCIAL CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
24. QUARTERLY RESULTS OF OPERATIONS (IN THOUSANDS, EXCEPT SHARE INFORMATION)
(UNAUDITED)
The following tables set forth the quarterly financial data, which was
derived from the consolidated financial statements presented in Form 10-Qs, for
the fiscal years ended September 30, 2005 and 2004.
For Fiscal Year 2005
------------------------------------------------------------------------------
For the Year
Ended
September 30, Fourth Third Second First
2005 Quarter Quarter Quarter Quarter
------------------------------------------------------------------------------------------------------------------------
Interest income $ 17,436 $ 4,378 $ 4,512 $ 4,141 $ 4,405
Interest expense 10,893 2,742 2,660 2,674 2,817
------------------------------------------------------------------------------------------------------------------------
Net interest income 6,543 1,636 1,852 1,467 1,588
Provision for loan losses 219 72 144 1 2
------------------------------------------------------------------------------------------------------------------------
Net interest income, after provision 6,324 1,564 1,708 1,466 1,586
for loan losses
Noninterest income 8,317 1,911 1,494 2,413 2,499
Noninterest expense 16,199 4,916 3,845 3,814 3,624
------------------------------------------------------------------------------------------------------------------------
Income (loss) before income taxes (1,558) (1,441) (643) 65 461
Provision for income taxes - - - - -
------------------------------------------------------------------------------------------------------------------------
Net income (loss) $ (1,558) $ (1,441) $ (643) $ 65 $ 461
========================================================================================================================
Basic earnings (loss) per share $ (0.52) $ (0.48) $ (0.21) $ 0.02 $ 0.15
========================================================================================================================
Diluted earnings (loss) per share $ (0.52) $ (0.48) $ (0.21) $ 0.02 $ 0.14
========================================================================================================================
For Fiscal Year 2004
------------------------------------------------------------------------------
For the Year
Ended
September 30, Fourth Third Second First
2005 Quarter Quarter Quarter Quarter
------------------------------------------------------------------------------------------------------------------------
Interest income $ 18,962 $ 4,625 $ 4,811 $ 4,989 $ 4,537
Interest expense 12,355 3,048 3,083 3,097 3,127
------------------------------------------------------------------------------------------------------------------------
Net interest income 6,607 1,577 1,728 1,892 1,410
Provision for loan losses 209 76 52 2 79
------------------------------------------------------------------------------------------------------------------------
Net interest income, after provision 6,398 1,501 1,676 1,890 1,331
for loan losses
Noninterest income 9,929 494 4,967 1,573 2,895
Noninterest expense 19,430 4,409 5,771 4,732 4,518
------------------------------------------------------------------------------------------------------------------------
Income (loss) before income taxes (3,103) (2,414) 872 (1,269) (292)
Provision for income taxes 89 - 89 - -
------------------------------------------------------------------------------------------------------------------------
Net income (loss) $ (3,192) $ (2,414) $ 783 $ (1,269) $ (292)
========================================================================================================================
Basic earnings (loss) per share $ (1.06) $ (0.80) $ 0.26 $ (0.42) $ (0.10)
========================================================================================================================
Diluted earnings (loss) per share $ (1.06) $ (0.80) $ 0.20 $ (0.42) $ (0.10)
========================================================================================================================
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84
Pursuant to the requirements of Section 13 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.
GREATER ATLANTIC FINANCIAL CORP.
By: /s/ Carroll E. Amos
-------------------
Carroll E. Amos
Chief Executive Officer, President and Director
Dated: December 27, 2005
84