FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
(Mark One)
(checked box) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended MARCH 31, 2006
OR
(box) 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: 0-26480
PSB HOLDINGS, INC.
(Exact name of registrant as specified in charter)
WISCONSIN 39-1804877
(State of incorporation) (I.R.S. Employer Identification Number)
1905 WEST STEWART AVENUE
WAUSAU, WISCONSIN 54401
(Address of principal executive office)
Registrant's telephone number, including area code: 715-842-2191
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 report), and (2) has been subject to such
filing requirements for the past 90 days.
Yes (checked box) No (box)
Indicate by check mark whether the registrant is a large accelerated
filer, an accelerated filer, or a non-accelerated filer. See definition of
"accelerated filer and large accelerated filer" in Rule 12b-2 of the Exchange
Act.
Large accelerated filer (box) Accelerated filer (box)
Non-accelerated filer (checked box)
Indicate by check mark whether the registrant is a shell company (as
defined in Rule 12b-2 of the Exchange Act).
Yes (box) No (checked box)
The number of common shares outstanding at May 2, 2006 was 1,702,748.
PSB HOLDINGS, INC.
FORM 10-Q
Quarter Ended March 31, 2006
Page No.
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets
March 31, 2006 (unaudited) and December 31,
2005 (derived from audited financial statements) 1
Consolidated Statements of Income
Three Months Ended March 31, 2006 and 2005 (unaudited) 2
Consolidated Statement of Changes in Stockholders' Equity
Three Months Ended March 31, 2006 (unaudited) 3
Consolidated Statements of Cash Flows
Three Months Ended March 31, 2006 and 2005 (unaudited) 4
Notes to Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 10
Item 3. Quantitative and Qualitative Disclosures About Market Risk 26
Item 4. Controls and Procedures 26
PART II. OTHER INFORMATION
Item 1A. Risk Factors 27
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 27
Item 6. Exhibits 27
i
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
PSB HOLDINGS, INC.
CONSOLIDATED BALANCE SHEETS
March 31, 2006 unaudited, December 31, 2005 derived from audited financial
statements
March 31, December 31,
(dollars in thousands, except per share data) 2006 2005
ASSETS
Cash and due from banks $ 10,314 $ 15,708
Interest-bearing deposits and money market funds 1,400 988
Federal funds sold - 9,908
Cash and cash equivalents 11,714 26,604
Securities available for sale (at fair value) 83,896 81,501
Loans held for sale - -
Loans receivable, net of allowance for loan losses of $4,324
and $4,180, respectively 378,635 372,411
Accrued interest receivable 2,368 2,245
Foreclosed assets 882 373
Premises and equipment 12,454 12,632
Mortgage servicing rights, net 893 880
Federal Home Loan Bank stock (at cost) 3,017 3,017
Cash surrender value of bank-owned life insurance 4,851 4,805
Other assets 1,621 1,690
TOTAL ASSETS $500,331 $506,158
LIABILITIES
Non-interest-bearing deposits $ 55,746 $ 61,345
Interest-bearing deposits 340,088 339,191
Total deposits 395,834 400,536
Federal Home Loan Bank advances 52,000 54,000
Other borrowings 5,941 4,497
Junior subordinated debentures 7,732 7,732
Accrued expenses and other liabilities 2,844 3,908
Total liabilities 464,351 470,673
STOCKHOLDERS' EQUITY
Common stock - no par value with a stated value of $1 per share:
Authorized - 3,000,000 shares
Issued - 1,887,179 shares 1,887 1,887
Additional paid-in capital 9,647 9,655
Retained earnings 29,299 28,561
Accumulated other comprehensive loss (680) (542)
Treasury stock, at cost - 184,431 and 181,608 shares, respectively (4,173) (4,076)
Total stockholders' equity 35,980 35,485
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $500,331 $506,158
1
PSB HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF INCOME
Three Months Ended
March 31,
(dollars in thousands, except per share data) - Unaudited 2006 2005
Interest and dividend income:
Loans, including fees $6,111 $5,203
Securities:
Taxable 604 452
Tax-exempt 254 241
Other interest and dividends 107 68
Total interest and dividend income 7,076 5,964
Interest expense:
Deposits 2,936 1,811
FHLB advances 534 550
Other borrowings 28 83
Junior subordinated debentures 113 -
Total interest expense 3,611 2,444
Net interest income 3,465 3,520
Provision for loan losses 135 150
Net interest income after provision for loan losses 3,330 3,370
Noninterest income:
Service fees 295 260
Mortgage banking 207 155
Investment and insurance sales commissions 135 170
Net gain on sale of securities - 6
Increase in cash surrender value of life insurance 46 20
Change in fair value of interest rate swap (205) -
Other noninterest income 144 192
Total noninterest income 622 803
Noninterest expense:
Salaries and employee benefits 1,814 1,629
Occupancy and facilities 472 445
Data processing and other office operations 180 172
Advertising and promotion 43 63
Other noninterest expenses 433 331
Total noninterest expense 2,942 2,640
Income before provision for income taxes 1,010 1,533
Provision for income taxes 272 493
Net income $ 738 $1,040
Basic earnings per share $ 0.43 $ 0.60
Diluted earnings per share $ 0.43 $ 0.60
2
PSB HOLDINGS, INC.
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
Three months ended March 31, 2006 - Unaudited
Accumulated
Additional Other
Common Paid-in Retained Comprehensive Treasury
(dollars in thousands) Stock Capital Earnings Loss Stock Totals
Balance January 1, 2006 $1,887 $9,655 $28,561 $(542) $(4,076) $35,485
Comprehensive income:
Net income 738 738
Unrealized loss on securities
available for sale, net of tax (138) (138)
Total comprehensive income 600
Purchase of treasury stock (123) (123)
Proceeds from stock options issued
out of treasury (8) 26 18
Balance March 31, 2006 $1,887 $9,647 $29,299 $(680) $(4,173) $35,980
3
PSB HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
Three months ended March 31, 2006 and 2005 - Unaudited
(dollars in thousands) 2006 2005
Cash flows from operating activities:
Net income $ 738 $ 1,040
Adjustments to reconcile net income to net
cash provided by operating activities:
Provision for depreciation and net amortization 421 396
Provision for loan losses 135 150
Deferred net loan origination costs (131) (137)
Gain on sale of loans (89) (110)
Provision for servicing right valuation allowance (13) 13
Gain on sale of premises and equipment (1) (2)
Gain on sale of foreclosed assets - (2)
Gain on sale of securities - (6)
Increase in cash surrender value of life insurance (46) (20)
FHLB stock dividends - (39)
Changes in operating assets and liabilities:
Accrued interest receivable (123) (199)
Other assets 136 (250)
Other liabilities (1,064) (238)
Net cash provided by (used in) operating activities (37) 596
Cash flows from investing activities:
Proceeds from sale and maturities of:
Securities available for sale 1,793 3,476
Payment for purchase of:
Securities available for sale (4,407) (6,598)
Net increase in loans (6,825) (18,210)
Capital expenditures (52) (346)
Proceeds from sale of premises and equipment 1 2
Proceeds from sale of foreclosed assets - 2
Purchase of bank-owned life insurance - (4,562)
Net cash used in investing activities (9,490) (26,236)
4
CONSOLIDATED STATEMENTS OF CASH FLOWS, CONTINUED
Cash flows from financing activities:
Net decrease in non-interest-bearing deposits (5,599) (3,177)
Net increase in interest-bearing deposits 897 10,336
Proceeds from long-term FHLB advances 4,000 8,000
Repayments of long-term FHLB advances (6,000) (8,000)
Net increase in other borrowings 1,444 6,479
Proceeds from issuance of stock options 18 48
Purchase of treasury stock (123) (192)
Net cash provided by (used in) financing activities (5,363) 13,494
Net decrease in cash and cash equivalents (14,890) (12,146)
Cash and cash equivalents at beginning 26,604 23,324
Cash and cash equivalents at end $ 11,714 $ 11,178
Supplemental cash flow information:
Cash paid during the period for:
Interest $ 3,560 $ 2,339
Income taxes 435 135
Noncash investing and financing activities:
Loans charged off $ 1 $ 6
Loans transferred to foreclosed assets 509 281
5
PSB Holdings, Inc.
Notes to Consolidated Financial Statements
NOTE 1 - GENERAL
In the opinion of management, the accompanying unaudited consolidated financial
statements contain all adjustments necessary to present fairly PSB Holdings,
Inc.'s ("PSB") financial position, results of its operations, and cash flows
for the periods presented, and all such adjustments are of a normal recurring
nature. The consolidated financial statements include the accounts of all
subsidiaries. All material intercompany transactions and balances are
eliminated. The results of operations for the interim periods are not
necessarily indicative of the results to be expected for the full year. Any
reference to "PSB" refers to the consolidated or individual operations of PSB
Holdings, Inc. and its subsidiary Peoples State Bank.
These interim consolidated financial statements have been prepared according to
the rules and regulations of the Securities and Exchange Commission and,
therefore, certain information and footnote disclosures normally presented in
accordance with generally accepted accounting principles have been omitted or
abbreviated. The information contained in the consolidated financial
statements and footnotes in PSB's Annual Report on Form 10-K for the year ended
December 31, 2005, should be referred to in connection with the reading of
these unaudited interim financial statements.
In preparing the consolidated financial statements, management is required to
make estimates and assumptions that affect the reported amounts of assets and
liabilities as of the date of the balance sheet and revenues and expenses for
the period. Actual results could differ significantly from those estimates.
Estimates that are susceptible to significant change include the determination
of the allowance for loan losses, mortgage servicing right assets, and the
valuation of investment securities.
NOTE 2 - STOCK-BASED COMPENSATION
Under the terms of an incentive stock option plan adopted during 2001, shares
of unissued common stock were reserved for options to officers and key
employees at prices not less than the fair market value of the shares at the
date of the grant. These options expire 10 years after the grant date with the
first options scheduled to expire beginning in the year 2011. No additional
shares of common stock remain reserved for future grants under the option plan
approved by the shareholders. As of March 31, 2006, 19,794 options were
outstanding and eligible to be exercised at a weighted average exercise price
of $16.07 per share.
NOTE 3 - EARNINGS PER SHARE
Basic earnings per share of common stock are based on the weighted average
number of common shares outstanding during the period. Diluted earnings per
share is calculated by dividing net income by the weighted average number of
shares adjusted for the dilutive effect of outstanding stock options.
6
Presented below are the calculations for basic and diluted earnings per share:
Three months ended
March 31,
(dollars in thousands, except per share data) - Unaudited 2006 2005
Net income $ 738 $ 1,040
Weighted average shares outstanding 1,705,290 1,721,058
Effect of dilutive stock options outstanding 9,831 10,558
Diluted weighted average shares outstanding 1,715,121 1,731,616
Basic earnings per share $ 0.43 $ 0.60
Diluted earnings per share $ 0.43 $ 0.60
NOTE 4 - COMPREHENSIVE INCOME
Comprehensive income as defined by current accounting standards for the three
months ended March 31, 2006 and 2005 is as follows:
Three months ended
March 31,
(dollars in thousands) - Unaudited 2006 2005
Net income $ 738 $ 1,040
Unrealized loss on securities
available for sale, net of tax (138) (574)
Reclassification adjustment for security
gain included in net income, net of tax - (4)
Comprehensive income $ 600 $ 462
NOTE 5 - LOANS RECEIVABLE AND ALLOWANCE FOR LOAN LOSSES
Loans receivable are stated at unpaid principal balances plus net deferred loan
origination costs less loans in process and the allowance for loan losses.
Interest on loans is credited to income as earned. Interest income is not
accrued on loans where management has determined collection of such interest is
doubtful or those loans which are past due 90 days or more as to principal or
interest payments. When a loan is placed on nonaccrual status, previously
accrued but unpaid interest deemed uncollectible is reversed and charged
against current income. After being placed on nonaccrual status, additional
income is recorded only to the extent that payments are received or the
collection of principal becomes reasonably assured. Interest income
recognition on loans considered to be impaired under current accounting
standards is consistent with the recognition on all other loans.
7
Loan origination fees and certain direct loan origination costs are deferred
and amortized to income over the contractual life of the underlying loan.
The allowance for loan losses is established through a provision for loan
losses charged to expense. Loans are charged against the allowance for loan
losses when management believes that the collectibility of the principal is
unlikely. Management believes the allowance for loan losses is adequate to
cover probable credit losses relating to specifically identified loans, as well
as probable credit losses inherent in the balance of the loan portfolio. In
accordance with current accounting standards, the allowance is provided for
losses that have been incurred as of the balance sheet date. The allowance is
based on past events and current economic conditions, and does not include the
effects of expected losses on specific loans or groups of loans that are
related to future events or expected changes in economic conditions. While
management uses the best information available to make its evaluation, future
adjustments to the allowance may be necessary if there are significant changes
in economic conditions.
The allowance for loan losses includes specific allowances related to loans
which have been judged to be impaired as defined by current accounting
standards. A loan is impaired when, based on current information, it is
probable that PSB will not collect all amounts due in accordance with the
contractual terms of the loan agreement. Management has determined that
commercial, financial, agricultural, and commercial real estate loans that have
a nonaccrual status or have had their terms restructured meet this definition.
Large groups of homogenous loans, such as residential mortgage and consumer
loans, are collectively evaluated for impairment. Specific allowances are
based on discounted cash flows of expected future payments using the loan's
initial effective interest rate or the fair value of collateral if the loan is
collateral dependent.
In addition, various regulatory agencies periodically review the allowance for
loan losses. These agencies may require PSB to make additions to the allowance
for loan losses based on their judgments of collectibility based on information
available to them at the time of their examination.
Mortgage loans originated and intended for sale in the secondary market are
carried at the lower of cost or estimated market value in the aggregate and are
carried as "Loans held for sale" on the balance sheet. Net unrealized losses
are recognized through a valuation allowance by charges to income. Gains and
losses on the sale of loans held for sale are determined using the specific
identification method using quoted market prices.
NOTE 6 - FORECLOSED REAL ESTATE
Real estate properties acquired through, or in lieu of, loan foreclosure are to
be sold and are initially recorded at fair value (after deducting estimated
costs to sell) at the date of foreclosure, establishing a new cost basis.
Costs related to development and improvement of property are capitalized,
whereas costs related to holding property are expensed. After foreclosure,
valuations are periodically performed by management and the real estate is
carried at the lower of carrying amount or fair value less estimated costs to
sell. Revenue and expenses from operations and changes in any valuation
allowance are included in loss on foreclosed real estate.
8
NOTE 7 - INCOME TAXES
The Internal Revenue Service (IRS) has audited PSB's federal income tax returns
for 1999 through 2002, and has disallowed a portion of Peoples State Bank's
(the "Bank") interest deductions for such years. The IRS asserts that PSB owes
an additional $184,000 of tax and interest (computed with interest through
November 15, 2005). The IRS's contention is that municipal bonds owned by the
Bank's Nevada investment subsidiary should be treated as owned by the Bank for
purposes of computing the Bank's allowable interest expense. The IRS has made
the same adjustment for other Wisconsin banks that have Nevada investment
subsidiaries. In August 2005, PSB filed a petition with the United States Tax
Court contesting such adjustment. PSB believes all tax returns are correct as
filed and, at this time, no additional tax expense for this adjustment has been
recorded.
NOTE 8 - DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES
All derivative instruments are recorded at their fair values. If derivative
instruments are designated as hedges of fair values, both the change in the
fair value of the hedge and the hedged item are included in current earnings.
Fair value adjustments related to cash flow hedges are recorded in other
comprehensive income and reclassified to earnings when the hedged transaction
is reflected in earnings. Ineffective portions of hedges are reflected in
income.
NOTE 9 - CONTINGENCIES
In the normal course of business, PSB is involved in various legal proceedings.
In the opinion of management, any liability resulting from such proceedings
would not have a material adverse effect on the consolidated financial
statements.
9
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following discussion and analysis is presented to assist in the
understanding and evaluation of PSB's financial condition and results of
operations. It is intended to complement the unaudited financial statements,
footnotes, and supplemental financial data appearing elsewhere in this Form 10-
Q and should be read in conjunction therewith. Dollar amounts are in
thousands, except per share amounts. This Quarterly Report on Form 10-Q
describes the business of PSB Holdings, Inc. and its subsidiary Peoples State
Bank as in effect on March 31, 2006, and any reference to "PSB" refers to the
consolidated or individual operations of PSB Holdings, Inc. and Peoples State
Bank.
Forward-looking statements have been made in this document that are subject to
risks and uncertainties. While PSB believes these forward-looking statements
are based on reasonable assumptions, all such statements involve risk and
uncertainties that could cause actual results to differ materially from those
contemplated in this report. The assumptions, risks, and uncertainties
relating to the forward-looking statements in this report include those
described under the caption "Forward-Looking Statements" in Item I of PSB's
Form 10-K for the year ended December 31, 2005 ("2005 Form 10-K") and, from
time to time, in PSB's other filings with the Securities and Exchange
Commission. PSB does not intend to update forward-looking statements.
Additional risk factors relating to an investment in PSB common stock are
described under Item 1A of the 2005 Form 10-K.
EXECUTIVE OVERVIEW
This overview summarizes PSB's financial trends and the primary opportunities
and challenges faced by management. It is intended to assist the reader in
better understanding these trends and management's plan to address them. In
addition, the near-term issues on which management is most focused are outlined
in general terms as a backdrop for more detailed statistical analysis presented
in this Quarterly Report on Form 10-Q.
2006 first quarter net income was $.43 per diluted share, or $738, as compared
to $.60 per diluted share, or $1,040, in the first quarter of 2005. Earnings
for the quarter ended March 31, 2006 included a special item from recording an
interest rate swap at fair value without the ability to offset the liability
against the hedged certificate of deposit. Marking the swap to fair value
added $205 of expense. The net effect of this item was a decrease of $.07 per
share, or $124. Excluding this item, diluted earnings per share would have
been $.50 for the quarter ended March 31, 2006.
Earnings for the prior year quarter ended March 31, 2005 included two special
items. First, a pre-tax realized gain of $70 was realized on sale of Pulse ATM
stock. Secondly, collection expenses were reduced $101 from a recovery of
collection expenses recorded in 2004. The net effect of these items was an
increase of $.06 per share, or $104. Without these items, diluted earnings per
share would have been $.54 for the quarter ended March 31, 2005.
Including all special items, return on average assets based on net income for
the first quarter 2006 was .60% as compared to .91% for the same period in
2005. Return on equity based on net income for the first quarter 2006 was
8.34% as compared to 12.41% for March 2005.
PSB's provision for loan losses was $135 in the first quarter of 2006, versus
$150 in the same period last year. Credit quality remained stable during the
March 2006 quarter, but provisions for loan losses increased over those seen
during the June 2005 through December 2005 quarters due to loan growth. During
2005, provisions were low due in part to favorable resolution of some long-term
problem loans that carried specific loss reserves. Going forward, quarterly
provisions for loan losses are expected to be similar to that recorded in the
March 2006 quarter. During the quarter ended March 31, 2006, a loan
relationship of $748 was placed on nonaccrual status, representing 30% of
nonaccrual loans at quarter-end. Other real estate owned increased $509 during
the March 2006 quarter from the addition of two unrelated properties previously
reported as nonaccrual loans.
10
Cash levels declined during the March 2006 quarter as loans and securities
increased while maturing wholesale funds and FHLB advances were not renewed.
This activity eliminated the federal funds sold excess position that was
carried for much of the past nine months. Going forward, investment securities
are expected to remain flat with net loan growth expected to remain similar to
the March 2006 quarter. Funding of loan growth is expected to come from a mix
of local deposits and wholesale borrowings as dictated by local market
conditions. If loan growth exceeds the pace seen during the March 2006 quarter
and competition prevents substantial increases in local deposits, use of
wholesale funding will increase, lowering the amount of available but unused
liquidity as a percent of assets compared to prior years. Increased use of
wholesale funding would also place pressure on net interest margin on future
net earning asset growth.
PSB's commercial treasury management initiative has increased average non-
interest bearing and interest bearing demand deposits and savings by 16.0% in
the March 2006 quarter compared to March 2005. During this period, average
assets increased 8.0%. However, many of these deposits are in newly marketed
high yield accounts that have provided funds at a cost less than wholesale
funds, but substantially greater than on PSB's other core deposits.
Improvements in cost of funds from these local deposits compared to wholesale
funding have not yet offset the impact of accompanying thinly priced commercial
loan growth.
Tax adjusted net interest margin was 3.10% during the March 2006 quarter
compared to 3.09% in the December 2005 quarter and 3.40% during the March 2005
quarter. The March 2006 quarter saw an increasing margin for the first time in
eight previous quarters. However, net margin is expected to remain under
pressure despite rising Federal Reserve discount rates due to competitive
deposit pricing pressures, effects of the flat yield curve, and shifts in the
deposit mix to higher yielding core accounts. The March 2006 quarter saw
certain deposits from existing customers migrate to PSB's new, higher yielding
money market account. Loan yield in the quarter ended March 31, 2006 was 6.55%
compared to 5.91% a year ago, an increase of 64 basis points. Cost of
interest-bearing deposits was 3.44% during the first quarter 2006 compared to
2.30% a year ago, an increase of 114 basis points.
During 2005, PSB entered into an interest rate swap to convert its fixed rate
liability for a $10,000 brokered certificate of deposit to a variable rate.
During 2005, PSB applied the "short-cut method" of fair value hedge accounting
under Statement of Financial Accounting Standard No. 133, Accounting for
Derivative Instruments and Hedging Activities ("FAS 133"). During the March
2006 quarter, PSB determined this swap did not qualify for the "short-cut
method" because in retrospect the related broker fee paid by the swap
counterparty was determined to have caused the swap not to have a zero value at
inception (which is required under FAS 133 to qualify for the "short-cut
method"). Fair value hedge accounting allows a company to record the change in
fair value of the hedged item, in this case, the brokered certificate, as an
offset to the mark-to-market adjustment on the related interest rate swap.
Hedge accounting under FAS 133 is not allowed for 2005 because the hedge
documentation required for the "long-haul method" was not in place at the
inception of the hedge. In addition, because current and prospective hedge
effectiveness testing does not show the hedge to be "highly effective" in
offsetting the change in fair value of the certificate, management determined
the use of hedge accounting will likely not be allowed in future periods.
Eliminating the application of fair value hedge accounting in the March 2006
quarter reversed the fair value adjustment that was made to the brokered
certificate, generating a charge of $205 ($124 after tax benefits) during the
quarter. Approximately $168 of this charge ($102 after tax benefits) was
related to activity during 2005 which was not restated to prior periods due to
the insignificant impact on previously reported 2005 results. The swap
continues to be economically effective and any swap liability provision to
expense represents a temporary non-cash timing difference to be recovered in
future periods before swap maturity in October 2008.
Declining net income compared to prior quarters is due to rising non-interest
expenses while income remains flat. Wage and benefits expense has driven non-
interest expense growth as all other expenses except wages and benefits have
been stable compared to the previous three quarters. Wages and benefits during
the March
11
2006 quarter were $154, or 9.3% greater than the average for the prior three
quarters ending December 31, 2005. This increase has been driven by an
increase in total FTEs of 13 positions since March 2005 to a total of 147 FTEs
at March 31, 2006, and a 60% increase (increase of $86 per quarter) in
health insurance expense compared to the prior three quarters ended December
31, 2005. PSB will soon complete a formal review of all employee positions.
This initiative has already resulted in some employee attrition primarily in
non-customer contact positions and additional attrition is likely to occur.
DETAILED MANAGEMENT DISCUSSION AND ANALYSIS
BALANCE SHEET
At March 31, 2006, total assets were $500,331, an decrease of $5,827, or 1.2%,
under December 31, 2005. Changes in assets since December 31, 2005 consisted
of:
Three months ended
Increase (decrease) in assets ($000s) March 31, 2006
$ %
Commercial, industrial and agricultural loans $ 6,729 7.8%
Investment securities 2,395 2.9%
Other assets (various categories) 759 2.1%
Residential real estate mortgage loans 636 0.7%
Bank-owned life insurance 46 1.0%
Commercial real estate mortgage loans (1,502) -0.9%
Cash and cash equivalents (14,890) -56.0%
Total decrease in assets $ (5,827) -1.2%
Net loans increased $6,224 during March 2006 over December 31, 2005, a growth
rate of 1.7%. The decline in total assets was from a reduction in federal
funds sold as certain wholesale funding maturities were not renewed. Increases
in net loans are expected to drive asset growth during the remainder of 2006.
PSB continued to emphasize non real estate commercial loans during the first
quarter 2006, and growth in this type of loan represented approximately 78% of
the total net increase in loans and securities during the quarter. Commercial
lending growth as a percent of total asset growth is not anticipated to
continue at this pace during all of 2006.
The decrease in net assets impacted funding sources since December 31, 2005 as
follows:
Three months ended
Increase (decrease) in liabilities and equity ($000s) March 31, 2006
$ %
Other borrowings $ 1,444 32.1%
Retail certificates of deposit > $100 536 1.0%
Stockholders' equity 495 1.4%
Other liabilities (various categories) (1,064) -27.2%
FHLB advances (2,000) -3.7%
Core deposits (including MMDA) (2,413) -0.9%
Wholesale certificates of deposit (2,825) -4.1%
Total decrease in liabilities and stockholders' equity $ (5,827) -1.2%
12
During the quarter, seasonal local deposit growth from municipalities allowed
certain FHLB advances and brokered certificates to mature without being
renewed. However, as loans grow during 2006, wholesale borrowings are expected
to increase as competitive pressures make substantial local deposit growth
difficult in future quarters.
Table 1: Period-End Loan Composition
March 31, March 31, December 31, 2005
Dollars Dollars Percentage of total Percentage
(dollars in thousands) 2006 2005 2006 2005 Dollars of total
Commercial, industrial and agricultural $ 92,799 $ 83,483 24.2% 22.8% $ 86,070 22.9%
Commercial real estate mortgage 174,091 169,108 45.5% 46.2% 175,593 46.5%
Residential real estate mortgage 96,587 95,006 25.2% 25.9% 95,951 25.5%
Residential real estate loans held for sale - 274 0.0% 0.1% - 0.0%
Consumer home equity 12,724 12,203 3.3% 3.3% 13,058 3.5%
Consumer and installment 6,758 6,379 1.8% 1.7% 5,919 1.6%
Totals $382,959 $366,453 100.0% 100.0% $376,591 100.0%
The loan portfolio is PSB's primary asset subject to credit risk. PSB's
process for monitoring credit risks includes quarterly analysis of loan
quality, delinquencies, nonperforming assets, and potential problem loans.
Loans are placed on a nonaccrual status when they become contractually past due
90 days or more as to interest or principal payments. All interest accrued but
not collected for loans (including applicable impaired loans) that are placed
on nonaccrual or charged off is reversed against interest income. The interest
on these loans is accounted for on the cash basis until qualifying for return
to accrual status. Loans are returned to accrual status when all the principal
and interest amounts contractually due have been collected and there is
reasonable assurance that repayment according to the contractual terms will
continue.
The aggregate amount of nonperforming assets increased $507 (16.1%) to $3,655
at March 31, 2006 from $3,148 at December 31, 2005. Nonperforming loans also
include restructured loans until six consecutive monthly payments are received
under the new loan terms. Total nonperforming assets as a percentage of total
assets increased to .73% from .62% at December 31, 2005, and increased from
..64% at March 31, 2005. PSB also tracks delinquencies on a contractual basis
quarter to quarter. Loans contractually delinquent 30 days or more as a
percentage of gross loans were .75% at March 31, 2006 compared to .98% at
December 31, 2005, and .59% at March 31, 2005. The allowance for loan losses
was 1.13% of gross loans at March 31, 2006 compared to 1.11% at December 31,
2005, and 1.18% at March 31, 2005. During the March 2006 quarter, a loan
relationship of $748 was placed on nonaccrual status, representing 30% of total
nonaccrual loans at March 31, 2006.
Table 2: Allowance for Loan Losses
Three months ended
March 31,
(dollars in thousands) 2006 2005
Allowance for loan losses at beginning $ 4,180 $ 4,157
Provision for loan losses 135 150
Recoveries on loans previously charged-off 10 2
Loans charged off (1) (6)
Allowance for loan losses at end $ 4,324 $ 4,303
13
Nonperforming assets include: 1) loans that are either contractually past due
90 days or more as to interest or principal payments, on a nonaccrual status,
or the terms of which have been renegotiated to provide a reduction or deferral
of interest or principal (restructured loans), and 2) foreclosed assets.
Table 3: Nonperforming Assets
March 31, Dec. 31,
(dollars in thousands) 2006 2005 2005
Nonaccrual loans $ 2,457 $ 2,148 $ 2,393
Accruing loans past due 90 days or more - - -
Restructured loans not on nonaccrual 316 576 382
Total nonperforming loans 2,773 2,724 2,775
Foreclosed assets 882 287 373
Total nonperforming assets $ 3,655 $ 3,011 $ 3,148
Nonperforming loans as a % of gross loans receivable 0.72% 0.74% 0.74%
Total nonperforming assets as a % of total assets 0.73% 0.64% 0.62%
LIQUIDITY
Liquidity refers to the ability of PSB to generate adequate amounts of cash to
meet PSB's need for cash at a reasonable cost. PSB manages its liquidity to
provide adequate funds to support borrowing needs and deposit flow of its
customers. Management views liquidity as the ability to raise cash at a
reasonable cost or with a minimum of loss and as a measure of balance sheet
flexibility to react to marketplace, regulatory, and competitive changes.
Deposit growth is the primary source of funding. Retail and local deposits
continue to comprise the bulk of asset funding and were 65.9% of total assets
at March 31, 2006 compared to 65.5% of total assets at December 31, 2005 and
66.2% at March 31, 2005. Federal Home Loan Bank advances and broker and
national certificates of deposit continue to represent a significant portion of
PSB's total funding ability, and are expected to increase as a percentage of
assets during the remainder of 2006.
Table 4: Period-end Deposit Composition
March 31, December 31,
(dollars in thousands) 2006 2005 2005
$ % $ % $ %
Non-interest bearing demand $ 55,746 14.1% $ 48,458 13.3% $ 61,345 15.3%
Interest-bearing demand and savings 84,11 421.2% 72,276 19.8% 79,644 19.9%
Money market deposits 64,704 16.3% 67,576 18.4% 66,625 16.6%
Retail time deposits less than $100 69,835 17.6% 65,975 18.1% 69,198 17.3%
Total core deposits 274,399 69.2% 254,285 69.6% 276,812 69.1%
Retail time deposits $100 and over 55,137 13.9% 55,884 15.3% 54,601 13.6%
Broker & national time deposits
less than $100 1,529 0.4% 3,507 1.0% 1,727 0.4%
Broker & national time deposits $100
and over 64,769 16.5% 51,708 14.1% 67,396 16.9%
Totals $395,834 100.0% $365,384 100.0% $400,536 100.0%
14
A significant portion of the increase in core deposits over the prior periods
came from high yield interest bearing demand (NOW) and money market deposits
from local governments, companies, and private individuals. Some of these
deposits are required to be collateralized and all carry an interest rate that
adjusts with the overall market. Because the local governmental entities are
dependent on local tax revenue and state funding for operations, balances
within these accounts may be cyclical during the year. However, high-yield NOW
and money market deposits increased $17,022, or 39% to $60,688 at March 31,
2006 from $43,666 at March 31, 2005. These high yield accounts have tiered
interest rates which pay the highest rate only on account balances generally in
excess of $100, but such highest rates are less than equivalent wholesale
funding offerings.
PSB originates retail certificates of deposit with local depositors under a
program known as the Certificate of Deposit Account Registry System (CDARS) in
which PSB customer deposits (with participation of other banks in the CDARS
network) are able to obtain levels of FDIC deposit insurance coverage in
amounts greater than traditional limits. For purposes of Table 4 above, these
certificates are included in retail time deposits $100 and over and totaled
$11,077 at March 31, 2006, $10,697 at December 31, 2005, and $7,671 at
March 31, 2005. Although classified as retail time deposits in the table
above, these balances are required to be classified as broker deposits on PSB's
quarterly regulatory call reports.
PSB's policy is to limit broker and national time (not including CDARS)
deposits to 20% of total assets. Broker and national deposits as a percentage
of total assets was 13.3%, 13.7%, and 11.8% at March 31, 2006, December 31,
2005, and March 31, 2005, respectively. The majority of the percentage
increase in brokered certificates since March 31, 2005 was from one $10,000
transaction closed during April 2005. Broker deposits as a percentage of total
assets is expected to increase for the remainder of 2006 as local deposit
growth is not expected to fund anticipated loan growth.
Table 5: Summary of Balance by Significant Deposit Source
March 31, Dec. 31,
(dollars in thousands) 2006 2005 2005
Total time deposits $100 and over $119,906 $107,592 $121,997
Total broker and national time deposits 66,298 55,215 69,123
Total retail time deposits 124,972 121,859 123,799
Core deposits, including money market deposits 274,399 254,285 276,812
Table 6: Change in March 31, 2006 Deposit Balance since Prior Period Ended
March 31, 2005 December 31, 2005
(dollars in thousands) $ % $ %
Total time deposits $100 and over $12,314 11.4% $(2,091) -1.7%
Total broker and national time deposits 11,083 20.1% (2,825) -4.1%
Total retail time deposits 3,113 2.6% 1,173 0.9%
Core deposits, including money market deposits 20,114 7.9% (2,413) -0.9%
15
Table 7: Available but Unused Funding Sources other than Retail Deposits:
March 31, 2006 December 31, 2005
Unused, but Amount Unused, but Amount
(dollars in thousands) Available Used Available Used
Overnight federal funds purchased $ 30,088 $ 2,412 $ 32,500 $ -
FHLB advances under blanket mortgage lien 29,556 52,000 27,616 54,000
Repurchase agreements 10,318 3,529 27,081 4,497
Wholesale market time deposits 33,768 66,298 32,109 69,123
Total available but unused funds $103,730 $124,239 $119,306 $127,620
Funding as a percent of total assets 20.7% 24.8% 23.6% 25.2%
Total FHLB advances in excess of approximately $60,000 require the purchase of
additional FHLB stock equal to 5% of the advance amount. Under the FHLB's
current capital plan, FHLB stock dividends have declined to a return near 3% of
outstanding stock par value. Therefore, significant additional FHLB advances
may carry additional cost relative to other wholesale borrowing alternatives
due to the lower than market stock dividend rate currently paid.
Table 8 below presents maturity repricing information as of March 31, 2006.
The following repricing methodologies should be noted:
1. Money market deposit accounts are considered fully repriced within 90
days. Certain NOW and savings accounts are considered "core" deposits as they
are generally insensitive to interest rate changes. These deposits are
generally considered to reprice beyond five years.
2. Nonaccrual loans are considered to reprice beyond five years.
3. Assets and liabilities with contractual calls or prepayment options are
repriced according to the likelihood of the call or prepayment being exercised
in the current interest rate environment.
4. Impact of rising or falling interest rates is based on a parallel yield
curve change that is fully implemented within a 12-month time horizon.
16
Table 8: Interest Rate Sensitivity Gap Analysis
March 31, 2006
(dollars in thousands) 0-90 days 91-180 days 181-365 days 1-2 yrs Beyond 2-5 yrs Beyond 5 yrs Total
Earning assets:
Loans $144,277 $ 33,717 $ 47,650 $ 59,270 $ 78,433 $ 19,612 $382,959
Securities 4,795 2,033 10,027 17,969 35,125 13,947 83,896
FHLB stock 3,017 3,017
CSV bank-owned life ins. 4,851 4,851
Other earning assets 1,400 1,400
Total $153,489 $ 35,750 $ 57,677 $ 77,239 $113,558 $ 38,410 $476,123
Cumulative rate
sensitive assets $153,489 $189,239 $246,916 $324,155 $437,713 $476,123
Interest-bearing liabilities
Interest-bearing deposits $153,202 $ 36,486 $ 45,507 $ 28,988 $ 38,153 $ 37,752 $340,088
FHLB advances 3,000 7,000 11,000 31,000 52,000
Other borrowings 4,160 617 1,164 5,941
Junior subordinated
debentures 7,732 7,732
Total $157,362 $ 39,486 $ 52,507 $ 40,605 $ 78,049 $ 37,752 $405,761
Cumulative interest
sensitive liabilities $157,362 $196,848 $249,355 $289,960 $368,009 $405,761
Interest sensitivity gap for
the individual period $ (3,873) $ (3,736) $ 5,170 $ 36,634 $ 35,509 $ 658
Ratio of rate sensitive assets
to rate sensitive liabilities
for the individual period 97.5% 90.5% 109.8% 190.2% 145.5% 101.7%
Cumulative interest
sensitivity gap $ (3,873) $ (7,609) $ (2,439) $ 34,195 $ 69,704 $ 70,362
Cumulative ratio of rate
sensitive assets to rate
sensitive liabilities 97.5% 96.1% 99.0% 111.8% 118.9% 117.3%
The Asset/Liability Committee uses financial modeling techniques that measure
the interest rate risk. Policies established by PSB's Asset/Liability
Committee are intended to limit exposure of earnings at risk. A formal
liquidity contingency plan exists that directs management to the least
expensive liquidity sources to fund sudden and unanticipated liquidity needs.
PSB also uses various policy measures to assess the adequacy of PSB's liquidity
and interest rate risk as described below.
Basic Surplus
PSB measures basic surplus as the amount of existing net liquid assets (after
deducting short-term liabilities and coverage for anticipated deposit funding
outflows during the next 30 days) divided by total assets. The basic surplus
calculation does not consider unused but available correspondent bank federal
funds purchased, as those funds are subject to availability based on the
correspondent bank's own liquidity needs and therefore are not guaranteed
contractual funds. PSB's basic surplus, including available open line of
credit FHLB advances not yet utilized at March 31, 2006, December 31, 2005, and
March 31, 2005, was 5.4%, 10.6%, and 3.5% respectively. During the quarter
ended March 31, 2006, basic surplus declined due in large part to pledging of
securities for deposits from governmental entities, which reduced available net
liquid assets. During the second quarter of 2006, increased FHLB borrowings by
PSB are expected to be offset by increased
17
available security collateral from a decline in seasonal municipal deposits and
PSB anticipates a basic surplus near 5% at June 30, 2006.
Interest Rate Risk Limits
PSB balances the need for liquidity with the opportunity for increased net
interest income available from longer term loans held for investment and
securities. To measure the impact on net interest income from interest rate
changes, PSB models interest rate simulations on a quarterly basis. Company
policy is that projected net interest income over the next 12 months will not
be reduced by more than 15% given a change in interest rates of up to 200 basis
points. The following table presents the projected impact to net interest
income by certain rate change scenarios and the change to the one year
cumulative ratio of rate sensitive assets to rate sensitive liabilities.
Table 9: Net Interest Margin Rate Simulation Impacts
Period Ended: March 06 Dec 05 March 05
Cumulative 1 year gap ratio
Base 99% 107% 97%
Up 200 97% 105% 94%
Down 200 107% 117% 102%
Change in Net Interest Income - Year 1
Up 200 during the year -1.18% 0.69% 1.28%
Down 200 during the year -1.03% -3.34% -0.56%
Change in Net Interest Income - Year 2
No rate change (base case) 5.36% 2.85% -1.96%
Following up 200 in year 1 3.57% 6.36% 2.46%
Following down 200 in year 1 1.15% -7.71% -5.18%
Core Funding Utilization
To assess whether interest rate sensitivity beyond one year helps mitigate or
exacerbate the short-term rate sensitive position, a quarterly measure of core
funding utilization is made. Core funding is defined as liabilities with a
maturity in excess of 60 months and capital. "Core" deposits including certain
DDA, NOW, and non-maturity savings accounts (except money market accounts) are
also considered core long-term funding sources. The core funding utilization
ratio is defined as assets with a maturity in excess of 60 months divided by
core funding. PSB's target for the core funding utilization ratio is to remain
at 80% or below given the same 200 basis point changes in rates that apply to
the guidelines for interest rate risk limits exposure described previously. At
March 31, 2006, December 31, 2005, and March 31, 2005, PSB's core funding
utilization ratio was projected to be 51%, 51% and 49%, respectively, after a
rate increase of 200 basis points and was therefore within policy requirements.
CAPITAL RESOURCES
Stockholders' equity at March 31, 2006 increased $495 to $35,980, or 1.4% from
$35,485 at December 31, 2005. After stockholder stock buybacks of $123, net
income retained during the three months ended March 31, 2006 was $615.
However, capital decreased $138 since December 31, 2005 from an increase in the
unrealized loss on securities available for sale (net of tax effects) as
increases in short-term rates reduced the value of fixed rate debt securities.
Stockholders' equity included unrealized losses on securities available for
sale, net of their tax effect, of $680 at March 31, 2006, compared to
unrealized losses of $542 at December 31, 2005. All other net increases in
capital totaled $18.
18
The adequacy of PSB's capital is regularly reviewed to ensure sufficient
capital is available for current and future needs and is in compliance with
regulatory guidelines. As of March 31, 2006 and December 31, 2005, PSB's
subsidiary bank's Tier 1 risk-based capital ratio, total risk-based capital,
and Tier 1 leverage ratio were in excess of regulatory minimums and were
classified as "well-capitalized." Failure to remain well-capitalized would
prevent PSB from obtaining future wholesale broker time deposits which have
been an important source of funding during the past several years. Average
tangible capital to average assets was 7.24% during the March 2006 quarter,
7.24% during the December 2005 quarter, and 7.25% during the March 2005
quarter.
PSB maintains an annual, ongoing share repurchase program of up to 1% of
outstanding shares per year and 4,000 shares at $30.75 per share were purchased
under this program during the quarter ended March 31, 2006. 1,177 shares of
treasury stock were re-issued to fund an exercise of employee stock options,
exercised at a price of $15.81 per share. PSB anticipates that it will
purchase another 13,000 shares as part of the ongoing program during 2006 on
the open market at prices then in effect.
Table 10: Capital Ratios - Consolidated Holding Company
March 31, Dec. 31,
(dollars in thousands) 2006 2005 2005
Stockholders' equity $ 35,980 $ 33,937 $ 35,485
Junior subordinated debentures, net 7,500 - 7,500
Disallowed mortgage servicing right assets (89) (82) (88)
Unrealized loss on securities available for sale 680 194 542
Tier 1 regulatory capital 44,071 34,049 43,439
Add: allowance for loan losses 4,324 4,303 4,180
Total regulatory capital $ 48,395 $ 38,352 $ 47,619
Total assets $500,331 $468,692 $506,158
Disallowed mortgage servicing right assets (89) (82) (88)
Unrealized loss on securities available for sale 680 194 542
Tangible assets $500,922 $468,804 $506,612
Risk-weighted assets (as defined by current regulations) $393,001 $368,398 $392,790
Tier 1 capital to average tangible assets (leverage ratio) 8.77% 7.33% 8.71%
Tier 1 capital to risk-weighted assets 11.21% 9.24% 11.06%
Total capital to risk-weighted assets 12.31% 10.41% 12.12%
19
RESULTS OF OPERATIONS
Net income for the quarter ended March 31, 2006 was $738, or $.43 for basic and
diluted earnings per share. Comparatively, net income for the quarter ended
March 31, 2005 was $1,040, or $.60 per share for basic and diluted earnings per
share. The March 2006 quarter saw declining earnings led by a $205 charge to
record an interest rate swap at fair value. It was determined during the
quarter that the hedge accounting previously applied on the swap and hedged
broker certificate did not meet the requirements under current accounting
rules. Therefore, the swap was marked to fair value while the hedged
certificate was retained at net book value. After tax benefits, this charge
decreased earnings $124. Quarterly net income before this special item was
$862 in March 2006. Operating results for the first quarter of 2006 generated
an annualized return on average assets of .60% (.70% before the swap
adjustment) and an annualized return on average equity of 8.34% (9.75% before
the swap adjustment), compared to .91% and 12.41% for the March 2005 quarter.
The quarter ended March 31, 2005 benefited from two special items. The first
was a large recovery of collection expenses on a problem loan that increased
net income $61. In addition, a payout of PSB's investment on the sale of the
Pulse ATM system (a cooperative) to Discover Financial Services increased net
income $42. Quarterly net income before these special collection items and all
gains on sale of investment securities was $937 in March 2005.
The following Table 11 presents PSB's consolidated quarterly summary financial
data.
20
Table 11: Financial Summary
Quarter ended
March 31, Dec. 31 Sept 30, June 30, March 31,
(dollars in thousands, except per share data) 2006 2005 2005 2005 2005
EARNINGS AND DIVIDENDS:
Net interest income $ 3,465 $ 3,499 $ 3,508 $ 3,582 $ 3,520
Provision for loan losses $ 135 $ 30 $ (50) $ 30 $ 150
Other noninterest income $ 622 $ 812 $ 906 $ 947 $ 803
Other noninterest expense $ 2,942 $ 2,736 $ 2,884 $ 2,780 $ 2,640
Net income $ 738 $ 1,063 $ 1,066 $ 1,171 $ 1,040
Basic earnings per share(3) $ 0.43 $ 0.62 $ 0.62 $ 0.68 $ 0.60
Diluted earnings per share(3) $ 0.43 $ 0.62 $ 0.62 $ 0.68 $ 0.60
Dividends declared per share(3) $ - $ 0.31 $ - $ 0.31 $ -
Net book value per share $ 21.13 $ 20.81 $ 20.81 $ 20.27 $ 19.77
Semi-annual dividend payout ratio n/a 24.83% n/a 24.06% n/a
Average common shares outstanding 1,705,290 1,710,720 1,712,771 1,714,134 1,721,058
BALANCE SHEET - AVERAGE BALANCES:
Loans receivable, net of allowances for loss $ 375,179 $ 366,224 $ 369,489 $ 367,948 $ 354,136
Assets $ 502,194 $ 498,429 $ 493,035 $ 480,325 $ 465,083
Deposits $ 398,707 $ 394,161 $ 387,969 $ 376,252 $ 367,394
Stockholders' equity $ 35,867 $ 35,756 $ 35,143 $ 34,665 $ 33,989
PERFORMANCE RATIOS:
Return on average assets(1) 0.60% 0.85% 0.86% 0.98% 0.91%
Return on average stockholders' equity(1) 8.34% 11.79% 12.03% 13.55% 12.41%
Average tangible stockholders' equity to
average assets(4) 7.24% 7.24% 7.14% 7.22% 7.25%
Net loan charge-offs to average loans 0.00% 0.01% 0.02% 0.01% 0.00%
Nonperforming loans to gross loans 0.72% 0.74% 0.71% 0.60% 0.74%
Allowance for loan losses to gross loans 1.13% 1.11% 1.14% 1.15% 1.18%
Net interest rate margin(1)(2) 3.10% 3.09% 3.14% 3.32% 3.40%
Net interest rate spread(1)(2) 2.63% 2.61% 2.72% 2.96% 3.05%
Service fee revenue as a percent of
average demand deposits(1) 2.29% 2.10% 2.10% 2.56% 2.19%
Noninterest income as a percent
of gross revenue 8.08% 10.59% 12.06% 13.00% 11.87%
Efficiency ratio(2) 69.42% 61.35% 63.25% 59.53% 59.11%
Noninterest expenses to average assets(1) 2.38% 2.18% 2.32% 2.32% 2.30%
STOCK PRICE INFORMATION:
High $ 31.05 $ 30.70 $ 32.00 $ 31.85 $ 32.20
Low $ 30.50 $ 29.75 $ 30.65 $ 30.63 $ 31.85
Market value at quarter-end $ 30.80 $ 30.70 $ 30.70 $ 30.75 $ 31.85
<FN>
(1) Annualized
(2) The yield on tax-exempt loans and securities is computed on a tax-equivalent basis using a tax rate of 34%.
(3) Due to rounding, cumulative quarterly per share performance may not equal annual per share totals.
(4) Tangible stockholders' equity excludes the impact of cumulative other comprehensive income (loss).
21
NET INTEREST INCOME
Net interest income is the most significant component of earnings. Tax
adjusted net interest income decreased $47 (1.3%) from $3,663 for the quarter
ended March 31, 2005 to $3,616 for the current quarter ended March 31, 2006,
and declined $32 from $3,648 for the quarter ended December 31, 2005. Net
interest income has been negatively impacted by a flat yield curve and local
competitive pressures on deposit rates while loan growth consisted of lower
margin high quality local commercial loans. Margin on earning assets declined
from 3.40% in the March 2005 quarter to 3.10% during the March 2006 quarter
compared to 3.09% in the recent December 2005 quarter. Asset yields have not
kept pace with interest bearing funding yields which has decreased margin from
a year earlier. Earning asset yields increased and were 6.20% at March 2006,
5.93% at December 2005, and 5.66% at March 2005. However, the cost of
interest-bearing liabilities increased from 2.61% at March 2005 to 3.32% at
December 2005, and 3.57% at March 2006.
The increase in funding costs has been led by interest-bearing core deposits
(excluding retail certificates of deposit), whose rate increased from 1.30% at
March 2005 to 2.19% at December 2005 to 2.70% at March 2006, an increase of 140
basis points compared to one year ago (the Federal Reserve discount rate
increased 200 basis points during this same period). This increase in the cost
of core deposits is due to several factors in addition to rising short term
market rates. Sale of high yield, high balance accounts has increased such
balances to approximately 41% of total interest-bearing demand and money market
balances at March 31, 2006 compared to approximately 31% of such balances at
March 31, 2005. The high yield accounts carry rates significantly greater than
standard retail core accounts. In addition, approximately 47% of the growth in
the high yield accounts during this period replaced run-off in traditional core
accounts, significantly increasing the cost of such existing deposits. The
majority of the run-off in traditional accounts was simply a repositioning by
customers into the new high yield accounts. The pace of repositioning by
existing customers to the high yield accounts appears to be slowing after
significant movement during the March 2006 quarter.
During the March 2006 quarter, loans repriced at a pace approximating the
changes in the 2 year to 5 year portion of the yield curve for the period.
This was a substantial improvement relative to the overall market compared to
the December 2005 and September 2005 quarters. Taken with anticipated deposit
funding cost increases, the net interest margin is expected to remain similar
to that seen during the March 2006 and December 2005 quarters for the remainder
of 2006 at a targeted earning asset growth rate near 6% to 8% for the entire
year.
22
Table 12: Net Interest Income Analysis
Quarter ended March 31, 2006 Quarter ended March 31, 2005
Average Yield/ Average Yield/
(dollars in thousands) Balance Interest Rate Balance Interest Rate
Assets
Interest-earning assets:
Loans(1)(2) $379,428 $6,131 6.55% $358,351 $5,222 5.91%
Taxable securities 56,458 604 4.34% 46,739 452 3.92%
Tax-exempt securities(2) 25,791 385 6.05% 24,511 365 6.04%
FHLB stock 3,017 19 2.55% 2,900 40 5.59%
Other 7,909 88 4.51% 4,734 28 2.40%
Total(2) 472,603 7,227 6.20% 437,235 6,107 5.66%
Non-interest-earning assets:
Cash and due from banks 11,317 13,473
Premises and equipment, net 12,554 12,517
Cash surrender value insurance 4,822 2,728
Other assets 5,147 3,345
Allowance for loan losses (4,249) (4,215)
Total $502,194 $465,083
Liabilities & stockholders' equity
Interest-bearing liabilities:
Savings and demand deposits $ 87,754 $595 2.75% $ 72,611 $ 239 1.33%
Money market deposits 66,580 433 2.64% 71,681 222 1.26%
Time deposits 192,059 1,908 4.03% 174,939 1,350 3.13%
FHLB borrowings 52,533 534 4.12% 48,889 550 4.56%
Other borrowings 3,928 28 2.89% 12,283 83 2.74%
Junior subordinated debentures 7,732 113 5.93%
Total 410,586 3,611 3.57% 380,403 2,444 2.61%
Non-interest-bearing liabilities:
Demand deposits 52,314 48,163
Other liabilities 3,427 2,528
Stockholders' equity 35,867 33,989
Total $502,194 $465,083
Net interest income $3,616 $3,663
Rate spread 2.63% 3.05%
Net yield on interest-earning assets 3.10% 3.40%
<FN>
(1) Nonaccrual loans are included in the daily average loan balances outstanding.
(2) The yield on tax-exempt loans and securities is computed on a tax- equivalent
basis using a tax rate of 34%.
23
Table 13: Interest Expense and Expense Volume and Rate Analysis (Quarter)
2006 compared to 2005
increase (decrease) due to (1)
(dollars in thousands) Volume Rate Net
Interest earned on:
Loans(2) $ 340 $ 569 $ 909
Taxable securities 104 48 152
Tax-exempt securities(2) 19 1 20
FHLB stock 1 (22) (21)
Other interest income 35 25 60
Total 499 621 1,120
Interest paid on:
Savings and demand deposits 103 253 356
Money market deposits (33) 244 211
Time deposits 170 388 558
FHLB borrowings 37 (53) (16)
Other borrowings (60) 5 (55)
Junior subordinated debentures 113 - 113
Total 330 837 1,167
Net interest earnings $ 169 $ (216) $ (47)
<FN>
(1) The change in interest due to both rate and volume has been allocated to
volume and rate changes in proportion to the relationship of the absolute
dollar amounts of the change in each.
(2) The yield on tax-exempt loans and investment securities has been adjusted
to its fully taxable equivalent using a 34% tax rate.
PROVISION FOR LOAN LOSSES
Management determines the adequacy of the provision for loan losses based on
past loan experience, current economic conditions, and composition of the loan
portfolio. Accordingly, the amount charged to expense is based on management's
evaluation of the loan portfolio. It is PSB's policy that when available
information confirms that specific loans and leases, or portions thereof,
including impaired loans, are uncollectible, these amounts are promptly charged
off against the allowance. The provision for loan losses was $135 for the
three months ended March 31, 2006, and $150 for the three months ended March
31, 2005. Net charge-offs as a percentage of average loans outstanding were
..00% during the three months ended March 31, 2006 and 2005.
Nonperforming loans are reviewed to determine exposure for potential loss
within each loan category. The adequacy of the allowance for loan losses is
assessed based on credit quality and other pertinent loan portfolio
information. The adequacy of the allowance and the provision for loan losses
is consistent with the composition of the loan portfolio and recent credit
quality history. The current quarterly level of loan loss provision is
expected to continue during the remainder of 2006.
NONINTEREST INCOME
Quarterly noninterest income decreased $181 in the March 2006 quarter to $622
compared to $803 in March 2005. However, both periods included special items.
Noninterest income was $827 for March 2006 before a $205 expense to adjust an
interest rate swap to fair value. March 2005 noninterest income was $733
before a one-time income item of $70 received from Discover Financial Services
on their purchase of the Pulse ATM system (in which PSB was a cooperative
member). Before these special items, noninterest income increased
24
$94, or 12.8% over March 2005. Approximately one half of this increase was
from $52 greater mortgage banking income during the quarter. The remainder of
the increase was due primarily from additional service fee income and an
increase in cash surrender value of life insurance. Service fees will be
updated effective May 5, 2006 and are expected to increase service fee income
modestly during the remainder of 2006.
As a FHLB Mortgage Partnership Finance (MPF) loan servicer, PSB has provided a
credit enhancement guarantee to reimburse the FHLB for foreclosure losses in
excess of 1% of the original loan principal sold to the FHLB on an aggregate
pool basis. The following table summarizes loan principal serviced for the
FHLB by the MPF program as of March 31, 2006.
Table 14: FHLB Mortgage Partnership Financing (MPF) Program Servicing
PSB Credit FHLB Mortgage
Principal Enhancement Funded First Servicing
As of March 31, 2006 ($000s) Serviced Guarantee Loss Account Right, net
MPF 100 Program (agent program) $ 96,986 $ 499 $ 2,494 $ 442
MPF125 Program (closed loan program) 73,186 702 850 451
Total FHLB MPF serviced loans $170,172 $1,201 $ 3,344 $ 893
FHLB MPF Program elements as a percentage of principal serviced:
As of March 31, 2006: MPF 100 MPF 125
PSB credit enhancement guarantee 0.51% 0.96%
FHLB funded first loss account 2.57% 1.16%
Mortgage servicing right, net 0.46% 0.62%
PSB ceased originating loans under the MPF 100 program during November 2003.
Since that time all originations have been through the FHLB MPF 125 closed loan
program. Due to historical strength of mortgage borrowers in our markets, the
original 1% of principal loss pool provided by the FHLB, and current economic
conditions, management believes the possibility of losses under guarantees to
the FHLB to be remote. Accordingly, no provision for a recourse liability has
been made for this recourse obligation on loans currently serviced by PSB.
NONINTEREST EXPENSE
Noninterest operating expenses increased $302, or 11.4% to $2,942 in the
quarter ended March 2006 compared to $2,640 during the quarter ended March
2005. However, during the March 2005 quarter, a reimbursement of collection
fees on a problem loan was recovered, which decreased other noninterest
expenses by $101. March 2005 noninterest expense before this special item was
$2,741. Before the special item, noninterest expense in March 2006 was $201 or
7.3% greater than for March 2005.
Increases in salaries and wages of $185 made up nearly all of the increase in
noninterest expense over March 2005. Approximately $95 of the increase was in
wages to fund growth in full time equivalent staffing, and $90 of the increase
was in health insurance costs.
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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
There has been no material change in the information provided in response to
Item 7A of PSB's Form 10-K for the year ended December 31, 2005.
ITEM 4. CONTROLS AND PROCEDURES
As of the end of the period covered by this report, management, under the
supervision, and with the participation, of PSB's President and Chief Executive
Officer and the Chief Financial Officer, evaluated the effectiveness of the
design and operation of PSB's disclosure controls and procedures pursuant to
Rule 13a-15(c) under the Securities Exchange Act of 1934. Based upon, and as
of the date of such evaluation, the President and Chief Executive Officer and
the Chief Financial Officer concluded that PSB's disclosure controls and
procedures were effective in all material respects. There was no change in
PSB's internal control over financial reporting that occurred during the fiscal
quarter covered by this report that materially affected, or is reasonably
likely to materially affect, PSB's internal control over financial reporting.
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PART II - OTHER INFORMATION
ITEM 1A. RISK FACTORS
In addition to the other information set forth in this report, this report
should be considered in light of the risk factors discussed in Part I, "Item
1A. Risk Factors" in PSB's Annual Report on Form 10-K for the year ended
December 31, 2005, which could materially affect PSB's business, financial
condition, or future results of operations. The risks described in PSB's
Annual Report on Form 10-K are not the only risks facing PSB. Additional risks
and uncertainties not currently known to PSB or that it currently deems to be
immaterial also may materially adversely affect PSB's business, financial
condition, and/or operating results.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
Purchases of Equity Securities
Maximum number
Total number (or approximate
of shares (or dollar value) of
Total number units) purchased shares (or units)
of shares Average price as part of publicly that may yet be
(or units) paid per share announced plans purchased under the
purchased (or unit) or programs plans or programs
Period (a) (b) (c) (d)
January 2006
February 2006
March 2006 4,500(1) $30.75 4,000 13,000
Quarterly Totals 4,500(1) $30.75 4,000 13,000
<FN>
(1) During March 2006, a Company officer purchased 500 shares of PSB for his
personal accounts on the open market, at an average price of $30.75 per share.
ITEM 6. EXHIBITS
Exhibits required by Item 601 of Regulation S-K.
Exhibit
Number Description
31.1 Certification of CEO under Section 302 of Sarbanes-Oxley Act of
2002
31.2 Certification of CFO under Section 302 of Sarbanes-Oxley Act of
2002
32.1 Certifications under Section 906 of Sarbanes-Oxley Act of 2002
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
PSB HOLDINGS, INC.
May 15, 2006 SCOTT M. CATTANACH
Scott M. Cattanach
Treasurer
(On behalf of the Registrant and as
Principal Financial Officer)
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EXHIBIT INDEX
TO
FORM 10-Q
OF
PSB HOLDINGS, INC.
FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2006
PURSUANT TO SECTION 102(D) OF REGULATION S-T
(17 C.F.R. Section 232.102(D))
The following exhibits are filed as part this report:
31.1 Certification of CEO under Section 302 of Sarbanes-Oxley Act of 2002
31.2 Certification of CFO under Section 302 of Sarbanes-Oxley Act of 2002
32.1 Certifications under Section 906 of Sarbanes-Oxley Act of 2002