Form 10-Q
Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

FORM 10-Q

 

 

 

x Quarterly Report Pursuant To Section 13 or 15(d) of the Securities Exchange Act of 1934

For the quarterly period ended December 31, 2012

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 No. 001-33384

 

 

ESSA Bancorp, Inc.

(Exact name of registrant as specified in its charter)

 

 

 

Pennsylvania   20-8023072

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification Number)

 

200 Palmer Street, Stroudsburg, Pennsylvania   18360
(Address of Principal Executive Offices)   (Zip Code)

(570) 421-0531

(Registrant’s telephone number)

N/A

(Former name or former address, if changed since last report)

 

 

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 requirements for the past 90 days.    YES  x    NO  ¨.

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate web site if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    YES  x    NO  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definition of “large accelerated filer” and “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer   ¨    Accelerated filer   x
Non-accelerated filer   ¨    Smaller reporting company   ¨

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 February 5, 2013 there were 13,084,108 shares of the Registrant’s common stock, par value $0.01 per share, outstanding.

 

 

 


Table of Contents

ESSA Bancorp, Inc.

FORM 10-Q

Table of Contents

 

         Page  
Part I. Financial Information   
Item 1.   Financial Statements (unaudited)      1   
Item 2.   Management’s Discussion and Analysis of Financial Condition and Results of Operations      25   
Item 3.   Quantitative and Qualitative Disclosures About Market Risk      32   
Item 4.   Controls and Procedures      32   
Part II. Other Information   
Item 1.   Legal Proceedings      33   
Item 1A.   Risk Factors      33   
Item 2.   Unregistered Sales of Equity Securities and Use of Proceeds      33   
Item 3.   Defaults Upon Senior Securities      33   
Item 4.   Mine Safety Disclosures      33   
Item 5.   Other Information      33   
Item 6.   Exhibits      34   
Signature Page      35   


Table of Contents

Part I. Financial Information

Item 1. Financial Statements

ESSA BANCORP, INC. AND SUBSIDIARY

CONSOLIDATED BALANCE SHEET

(UNAUDITED)

 

     December 31,
2012
    September 30,
2012
 
     (dollars in thousands)  

Cash and due from banks

   $ 12,443      $ 11,034   

Interest-bearing deposits with other institutions

     7,474        4,516   
  

 

 

   

 

 

 

Total cash and cash equivalents

     19,917        15,550   

Certificates of deposit

     1,766        1,266   

Investment securities available for sale, at fair value

     331,525        329,585   

Loans receivable, held for sale

     2,096        346   

Loans receivable (net of allowance for loan losses of $7,555 and $7,302)

     940,275        950,009   

Regulatory stock, at cost

     19,054        21,914   

Premises and equipment, net

     16,100        16,170   

Bank-owned life insurance

     28,075        27,848   

Foreclosed real estate

     2,503        2,998   

Intangible assets, net

     3,207        3,457   

Goodwill

     8,541        8,541   

Deferred income taxes

     11,359        11,336   

Other assets

     21,224        29,766   
  

 

 

   

 

 

 

TOTAL ASSETS

   $ 1,405,642      $ 1,418,786   
  

 

 

   

 

 

 

LIABILITIES

    

Deposits

   $ 967,892      $ 995,634   

Short-term borrowings

     84,500        43,281   

Other borrowings

     159,460        191,460   

Advances by borrowers for taxes and insurance

     6,943        3,432   

Other liabilities

     9,500        9,568   
  

 

 

   

 

 

 

TOTAL LIABILITIES

     1,228,295        1,243,375   
  

 

 

   

 

 

 

STOCKHOLDERS’ EQUITY

    

Preferred Stock ($.01 par value; 10,000,000 shares authorized, none issued)

     —          —     

Common stock ($.01 par value; 40,000,000 shares authorized, 18,133,095 issued; 13,191,008 and 13,229,908 outstanding at December 31, 2012 and September 30, 2012)

     181        181   

Additional paid in capital

     181,748        181,220   

Unallocated common stock held by the Employee Stock Ownership Plan (ESOP)

     (10,872     (10,985

Retained earnings

     67,455        65,181   

Treasury stock, at cost; 4,942,087 and 4,903,187 shares outstanding at December 31, 2012 and September 30, 2012, respectively

     (62,353     (61,944

Accumulated other comprehensive income

     1,188        1,758   
  

 

 

   

 

 

 

TOTAL STOCKHOLDERS’ EQUITY

     177,347        175,411   
  

 

 

   

 

 

 

TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY

   $ 1,405,642      $ 1,418,786   
  

 

 

   

 

 

 

See accompanying notes to the unaudited consolidated financial statements.

 

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Table of Contents

ESSA BANCORP, INC. AND SUBSIDIARY

CONSOLIDATED STATEMENT OF INCOME

(UNAUDITED)

 

     For the Three Months Ended
December 31,
 
     2012     2011  
     (dollars in thousands,
except per share
data)
 

INTEREST INCOME

    

Loans receivable, including fees

   $ 12,237      $ 9,341   

Investment securities:

    

Taxable

     1,630        1,638   

Exempt from federal income tax

     54        48   

Other investment income

     29        2   
  

 

 

   

 

 

 

Total interest income

     13,950        11,029   
  

 

 

   

 

 

 

INTEREST EXPENSE

    

Deposits

     1,971        1,911   

Short-term borrowings

     36        5   

Other borrowings

     1,224        2,405   
  

 

 

   

 

 

 

Total interest expense

     3,231        4,321   
  

 

 

   

 

 

 

NET INTEREST INCOME

     10,719        6,708   

Provision for loan losses

     1,000        500   
  

 

 

   

 

 

 

NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSSES

     9,719        6,208   
  

 

 

   

 

 

 

NONINTEREST INCOME

    

Service fees on deposit accounts

     807        727   

Services charges and fees on loans

     229        184   

Trust and investment fees

     215        215   

Gain on sale of investments, net

     30        —     

Gain on sale of loans, net

     334        —     

Earnings on Bank-owned life insurance

     226        198   

Insurance commissions

     175        191   

Other

     10        9   
  

 

 

   

 

 

 

Total noninterest income

     2,026        1,524   
  

 

 

   

 

 

 

NONINTEREST EXPENSE

    

Compensation and employee benefits

     4,556        3,936   

Occupancy and equipment

     949        756   

Professional fees

     312        490   

Data processing

     663        482   

Advertising

     110        86   

Federal Deposit Insurance Corporation FDIC premiums

     185        162   

Loss (Gain) on foreclosed real estate

     (226     67   

Amortization of intangible assets

     250        81   

Other

     706        602   
  

 

 

   

 

 

 

Total noninterest expense

     7,505        6,662   
  

 

 

   

 

 

 

Income before income taxes

     4,240        1,070   

Income taxes

     1,361        184   
  

 

 

   

 

 

 

NET INCOME

   $ 2,879      $ 886   
  

 

 

   

 

 

 

Earnings per share

    

Basic

   $ 0.24      $ 0.08   

Diluted

   $ 0.24      $ 0.08   

Dividends per share

   $ 0.05      $ 0.05   

See accompanying notes to the unaudited consolidated financial statements.

 

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ESSA BANCORP, INC. AND SUBSIDIARY

CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME (LOSS)

(UNAUDITED)

 

     Three Months  Ended
December 31,
 
     2012     2011  

Net income

   $ 2,879      $ 886   

Other comprehensive loss:

    

Investment securities available for sale:

    

Unrealized holding loss

     (932     (1,871

Tax effect

     318        636   

Reclassification of gains recognized in net income

     (30     —     

Tax effect

     10        —     
  

 

 

   

 

 

 

Net of tax amount

     (634     (1,235

Pension plan adjustment:

    

Related to actuarial losses and prior service cost

     97        119   

Tax effect

     (33     (41
  

 

 

   

 

 

 

Net of tax amount

     64        78   
  

 

 

   

 

 

 

Total other comprehensive loss

     (570     (1,157
  

 

 

   

 

 

 

Comprehensive income (loss)

   $ 2,309      $ (271
  

 

 

   

 

 

 

See accompanying notes to the unaudited consolidated financial statements.

 

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ESSA BANCORP, INC. AND SUBSIDIARY

CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS’ EQUITY

(UNAUDITED)

 

    

 

Common Stock

     Additional
Paid In
Capital
     Unallocated
Common
Stock Held by
the ESOP
    Retained
Earnings
    Treasury
Stock
    Accumulated
Other
Comprehensive
Income (Loss)
    Total
Stockholders’

Equity
 
     Number of
Shares
    Amount                
     (Dollars in thousands)  

Balance, September 30, 2012

     13,229,908      $ 181       $ 181,220       $ (10,985   $ 65,181      $ (61,944   $ 1,758      $ 175,411   

Net income

               2,879            2,879   

Other comprehensive loss:

                  

Unrealized loss on securities available for sale, net of income tax benefit of $327

                   (634     (634

Change in unrecognized pension cost, net of income taxes of $33

                   64        64   

Cash dividends declared ($.05 per share)

               (605         (605

Stock based compensation

          527                 527   

Allocation of ESOP stock

          1         113              114   

Treasury shares purchased

     (38,900               (409       (409
  

 

 

   

 

 

    

 

 

    

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Balance, December 31, 2012

     13,191,008      $ 181       $ 181,748       $ (10,872   $ 67,455      $ (62,353   $ 1,188      $ 177,347   
  

 

 

   

 

 

    

 

 

    

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

See accompanying notes to the unaudited consolidated financial statements.

 

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Table of Contents

ESSA BANCORP, INC. AND SUBSIDIARY

CONSOLIDATED STATEMENT OF CASH FLOWS

(UNAUDITED)

 

     For the Three Months Ended
December 31,
 
     2012     2011  
     (dollars in thousands)  

OPERATING ACTIVITIES

    

Net income

   $ 2,879      $ 886   

Adjustments to reconcile net income to net cash provided by operating activities:

    

Provision for loan losses

     1,000        500   

Provision for depreciation and amortization.

     286        240   

Amortization and accretion of discounts and premiums, net

     369        423   

Net gain on sale of investment securities

     (30     —     

Gain on sale of loans, net

     (334     —     

Origination of mortgage loans sold

     (12,963     —     

Proceeds from sale of mortgage loans originated for sale

     11,547        —     

Compensation expense on ESOP

     114        121   

Stock based compensation

     527        534   

Decrease in accrued interest receivable

     360        326   

(Decrease) Increase in accrued interest payable

     (13     226   

Earnings on bank-owned life insurance

     (226     (198

Deferred federal income taxes

     307        510   

Decrease in prepaid FDIC premiums

     175        146   

(Gain) loss on foreclosed real estate, net

     (226     67   

Amortization of identifiable intangible assets

     250        81   

Other, net

     2,038        51   
  

 

 

   

 

 

 

Net cash provided by operating activities

     6,060        3,913   
  

 

 

   

 

 

 

INVESTING ACTIVITIES

    

Purchase of certificates of deposit

     (500     —     

Investment securities available for sale:

    

Proceeds from sale of investment securities

     1,106        —     

Proceeds from principal repayments and maturities

     37,955        21,253   

Purchases

     (42,306     (32,895

Increase (decrease) in loans receivable, net

     8,214        (4,272

Redemption of FHLB stock

     2,860        844   

Investment in limited partnership

     (110     (945

Proceeds from sale of foreclosed real estate

     1,246        472   

Purchase of premises, equipment, and software

     (245     (221
  

 

 

   

 

 

 

Net cash provided by (used for) investing activities

     8,220        (15,764
  

 

 

   

 

 

 

FINANCING ACTIVITIES

    

(Decrease) increase in deposits, net

     (21,745     2,420   

Net increase in short-term borrowings

     41,219        6,000   

Proceeds from other borrowings

     7,000        —     

Repayment of other borrowings

     (39,000     (11,000

Increase in advances by borrowers for taxes and insurance

     3,511        2,347   

Purchase of treasury stock shares.

     (293     —     

Dividends on common stock

     (605     (546
  

 

 

   

 

 

 

Net cash used for financing activities

     (9,913     (779
  

 

 

   

 

 

 

Increase (decrease) in cash and cash equivalents

     4,367        (12,630

CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD

     15,550        41,694   
  

 

 

   

 

 

 

CASH AND CASH EQUIVALENTS AT END OF PERIOD

   $ 19,917      $ 29,064   
  

 

 

   

 

 

 

SUPPLEMENTAL CASH FLOW DISCLOSURES

    

Cash Paid:

    

Interest

   $ 3,244      $ 4,096   

Income taxes

     5        —     

Noncash items:

    

Transfers from loans to foreclosed real estate

   $ 525      $ 286   

Treasury stock payable

     116        —     

See accompanying notes to the unaudited consolidated financial statements.

 

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ESSA BANCORP, INC. AND SUBSIDIARY

Notes to Consolidated Financial Statements

(unaudited)

 

1. Nature of Operations and Basis of Presentation

The consolidated financial statements include the accounts of ESSA Bancorp, Inc. (the “Company”), and its wholly owned subsidiary, ESSA Bank & Trust (the “Bank”), and the Bank’s wholly owned subsidiaries, ESSACOR, Inc.; Pocono Investments Company; ESSA Advisory Services, LLC; Integrated Financial Corporation; Integrated Delaware, Inc. and Integrated Abstract Incorporated, a wholly owned subsidiary of Integrated Financial Corporation. The primary purpose of the Company is to act as a holding company for the Bank. The Company is subject to regulation and supervision as a savings and loan holding company by the Federal Reserve Board. The Bank is a Pennsylvania-chartered savings association located in Stroudsburg, Pennsylvania. The Bank’s primary business consists of the taking of deposits and granting of loans to customers generally in Monroe, Northampton and Lehigh counties, Pennsylvania. The Bank is subject to regulation and supervision by the Pennsylvania Banking Department and the Federal Deposit Insurance Corporation. The investment in subsidiary on the parent company’s financial statements is carried at the parent company’s equity in the underlying net assets.

ESSACOR, Inc. is a Pennsylvania corporation that has been used to purchase properties at tax sales that represent collateral for delinquent loans of the Bank. Pocono Investment Company is a Delaware corporation formed as an investment company subsidiary to hold and manage certain investments, including certain intellectual property. ESSA Advisory Services, LLC is a Pennsylvania limited liability company owned 100 percent by ESSA Bank & Trust. ESSA Advisory Services, LLC is a full-service insurance benefits consulting company offering group services such as health insurance, life insurance, short-term and long-term disability, dental, vision, and 401(k) retirement planning as well as individual health products. Integrated Financial Corporation is a Pennsylvania Corporation that provided investment advisory services to the general public as a former subsidiary of First Star Bank. The Company acquired First Star Bank in a transaction that closed on July 31, 2012. Integrated Financial Corporation is currently inactive. Integrated Delaware, Inc. is a Delaware Investment Corporation and was previously owned by First Star Bank. Integrated Abstract Incorporated is a Pennsylvania Corporation that provides title insurance services. All significant intercompany accounts and transactions have been eliminated in consolidation.

The unaudited consolidated financial statements reflect all adjustments, which in the opinion of management, are necessary for a fair presentation of the results of the interim periods and are of a normal and recurring nature. Operating results for the three month periods ended December 31, 2012 are not necessarily indicative of the results that may be expected for the year ending September 30, 2013.

 

2. Earnings per Share

The following table sets forth the composition of the weighted-average common shares (denominator) used in the basic and diluted earnings per share computation for the three month period ended December 31, 2012 and 2011.

 

     Three months ended  
     December 31,
2012
    December 31,
2011
 

Weighted-average common shares outstanding

     18,133,095        16,980,900   

Average treasury stock shares

     (4,906,440     (4,871,278

Average unearned ESOP shares

     (1,080,703     (1,125,979

Average unearned non-vested shares

     (57,827     (176,045
  

 

 

   

 

 

 

Weighted average common shares and common stock equivalents used to calculate basic earnings per share

     12,088,125        10,807,598   
  

 

 

   

 

 

 

Additional common stock equivalents (non-vested stock) used to calculate diluted earnings per share

     —          —     

Additional common stock equivalents (stock options) used to calculate diluted earnings per share

     —          —     
  

 

 

   

 

 

 

Weighted average common shares and common stock equivalents used to calculate diluted earnings per share

     12,088,125        10,807,598   
  

 

 

   

 

 

 

 

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At December 31, 2012 and 2011 there were options to purchase 1,458,379 shares of common stock outstanding at a price of $12.35 per share that were not included in the computation of diluted EPS because to do so would have been anti-dilutive. At December 31, 2012 and 2011 there were 47,913 and 165,958 shares, respectively, of nonvested stock outstanding at a price of $12.35 per share that were not included in the computation of diluted EPS because to do so would have been anti-dilutive.

 

3. Use of Estimates in the Preparation of Financial Statements

The accounting principles followed by the Company and its subsidiaries and the methods of applying these principles conform to U.S. generally accepted accounting principles (“GAAP”) and to general practice within the banking industry. 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 Consolidated Balance Sheet date and related revenues and expenses for the period. Actual results could differ significantly from those estimates.

 

4. Recent Accounting Pronouncements:

In May 2011, the FASB issued ASU 2011-04, Fair Value Measurement (Topic 820): Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRSs. The amendments in this Update result in common fair value measurement and disclosure requirements in U.S. GAAP and IFRSs. Consequently, the amendments change the wording used to describe many of the requirements in U.S. GAAP for measuring fair value and for disclosing information about fair value measurements. The amendments in this Update are to be applied prospectively. For public entities, the amendments are effective during interim and annual periods beginning after December 15, 2011. For nonpublic entities, the amendments are effective for annual periods beginning after December 15, 2011. Early application by public entities is not permitted. The Company has provided the necessary disclosure in Note 11 of the Company’s financial statements for the three months ended December 31, 2012.

In June 2011, the FASB issued ASU 2011-05, Comprehensive Income (Topic 220): Presentation of Comprehensive Income. The amendments in this Update improve the comparability, clarity, consistency, and transparency of financial reporting and increase the prominence of items reported in other comprehensive income. To increase the prominence of items reported in other comprehensive income and to facilitate convergence of U.S. GAAP and IFRS, the option to present components of other comprehensive income as part of the statement of changes in stockholders’ equity was eliminated. The amendments require that all non-owner changes in stockholders’ equity be presented either in a single continuous statement of comprehensive income or in two separate but consecutive statements. In the two-statement approach, the first statement should present total net income and its components followed consecutively by a second statement that should present total other comprehensive income, the components of other comprehensive income, and the total of comprehensive income. All entities that report items of comprehensive income, in any period presented, will be affected by the changes in this Update. For public entities, the amendments are effective for fiscal years, and interim periods within those years, beginning after December 15, 2011. For nonpublic entities, the amendments are effective for fiscal years ending after December 15, 2012, and interim and annual periods thereafter. The amendments in this Update should be applied retrospectively, and early adoption is permitted. The Company has provided the necessary disclosure in the Statement of Comprehensive Income.

In December 2011, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2011-10, Property, Plant, and Equipment (Topic 360): Derecognition of in Substance Real Estate – a Scope Clarification. The amendments in this Update affect entities that cease to have a controlling financial interest in a subsidiary that is in substance real estate as a result of default on the subsidiary’s nonrecourse debt. Under the amendments in this Update, when a parent (reporting entity) ceases to have a controlling financial interest in a subsidiary that is in substance real estate as a result of default on the subsidiary’s nonrecourse debt, the reporting entity should apply the guidance in Subtopic 360-20 to determine whether it should derecognize the in substance real estate. Generally, a reporting entity would not satisfy the requirements to derecognize the in substance real estate before the legal transfer of the real estate to the lender and the extinguishment of the related nonrecourse indebtedness. That is, even if the reporting entity ceases to have a controlling financial interest under Subtopic 810-10, the reporting entity would continue to include the real estate, debt, and the results of the subsidiary’s operations

 

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in its consolidated financial statements until legal title to the real estate is transferred to legally satisfy the debt. The amendments in this Update should be applied on a prospective basis to deconsolidation events occurring after the effective date. Prior periods should not be adjusted even if the reporting entity has continuing involvement with previously derecognized in substance real estate entities. For public entities, the amendments in this Update are effective for fiscal years, and interim periods within those years, beginning on or after June 15, 2012. For nonpublic entities, the amendments are effective for fiscal years ending after December 15, 2013, and interim and annual periods thereafter. Early adoption is permitted. This ASU is not expected to have a significant impact on the Company’s financial statements.

In December 2011, the FASB issued ASU 2011-11, Balance Sheet (Topic 210): Disclosures about Offsetting Assets and Liabilities. The amendments in this Update affect all entities that have financial instruments and derivative instruments that are either (1) offset in accordance with either Section 210-20-45 or Section 815-10-45 or (2) subject to an enforceable master netting arrangement or similar agreement. The requirements amend the disclosure requirements on offsetting in Section 210-20-50. This information will enable users of an entity’s financial statements to evaluate the effect or potential effect of netting arrangements on an entity’s financial position, including the effect or potential effect of rights of setoff associated with certain financial instruments and derivative instruments in the scope of this Update. An entity is required to apply the amendments for annual reporting periods beginning on or after January 1, 2013, and interim periods within those annual periods. An entity should provide the disclosures required by those amendments retrospectively for all comparative periods presented. This ASU is not expected to have a significant impact on the Company’s financial statements.

In July, 2012, the FASB issued ASU 2012-02, Intangibles – Goodwill and Other (Topic 350) – Testing Indefinite-Lived Intangible Assets for Impairment. ASU 2012-02 give entities the option to first assess qualitative factors to determine whether the existence of events or circumstances leads to a determination that it is more likely than not that an indefinite-lived intangible asset is impaired. If, after assessing the totality of events or circumstances, an entity determines it is more likely than not that an indefinite-lived intangible asset is impaired, then the entity must perform the quantitative impairment test. If, under the quantitative impairment test, the carrying amount of the intangible asset exceeds its fair value, an entity should recognize an impairment loss in the amount of that excess. Permitting an entity to assess qualitative factors when testing indefinite-lived intangible assets for impairment results in guidance that is similar to the goodwill impairment testing guidance in ASU 2011-08. ASU 2012-02 is effective for annual and interim impairment tests performed for fiscal years beginning after September 15, 2012 (early adoption permitted). This ASU is not expected to have a significant impact on the Company’s financial statements.

In October, 2012, the FASB issued ASU 2012-06, Business Combinations (Topic 805) – Subsequent Accounting for an Indemnification Asset Recognized at the Acquisition Date as a Result of a Government-Assisted Acquisition of a Financial Institution. ASU 2012-06 requires that when a reporting entity recognizes an indemnification asset (in accordance with Subtopic 805-20) as a result of a government assisted acquisition of a financial institution and subsequently a change in the cash flows expected to be collected on the indemnification asset occurs (as a result of a change in cash flows expected to be collected on the assets subject to indemnification), the reporting entity should subsequently account for the change in the measurement of the indemnification asset on the same basis as the change in the assets subject to indemnification. Any amortization of changes in value should be limited to the contractual term of the indemnification agreement (that is, the lesser of the term of the indemnification agreement and the remaining life of the indemnified assets). ASU 2012-06 is effective for fiscal years, and interim periods within those years, beginning on or after December 15, 2012. Early adoption is permitted. The amendments should be applied prospectively to any new indemnification assets acquired after the date of adoption and to indemnification assets existing as of the date of adoption arising from a government-assisted acquisition of a financial institution. This ASU is not expected to have a significant impact on the Company’s financial statements.

 

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5. Investment Securities

The amortized cost and fair value of investment securities available for sale are summarized as follows (in thousands):

 

     December 31, 2012  
     Amortized
Cost
     Gross
Unrealized
Gains
     Gross
Unrealized
Losses
    Fair Value  

Available for Sale

          

Fannie Mae

   $ 123,581       $ 3,940       $ (23   $ 127,498   

Freddie Mac

     49,088         1,618         (24     50,682   

Governmental National Mortgage Association

     46,555         740         (49     47,246   

Other mortgage-backed securities

     4,944         170         —          5,114   
  

 

 

    

 

 

    

 

 

   

 

 

 

Total mortgage-backed securities

     224,168         6,468         (96     230,540   

Obligations of states and political subdivisions

     24,336         955         (22     25,269   

U.S. government agency securities

     55,559         365         (1     55,923   

Corporate obligations

     10,476         193         (22     10,647   

Trust-preferred securities

     4,875         575         —          5,450   

Other debt securities

     1,476         36         —          1,512   
  

 

 

    

 

 

    

 

 

   

 

 

 

Total debt securities

     320,890         8,592         (141     329,341   

Equity securities - financial services

     2,191         12         (19     2,184   
  

 

 

    

 

 

    

 

 

   

 

 

 

Total

   $ 323,081       $ 8,604       $ (160   $ 331,525   
  

 

 

    

 

 

    

 

 

   

 

 

 

 

     September 30, 2012  
     Amortized
Cost
     Gross
Unrealized
Gains
     Gross
Unrealized
Losses
    Fair Value  

Available for Sale

          

Fannie Mae

   $ 111,145       $ 4,652       $ (3   $ 115,794   

Freddie Mac

     48,913         1,952         (11     50,854   

Governmental National Mortgage Association

     43,164         803         (16     43,951   

Other mortgage-backed securities

     5,043         162         —          5,205   
  

 

 

    

 

 

    

 

 

   

 

 

 

Total mortgage-backed securities

     208,265         7,569         (30     215,804   

Obligations of states and political subdivisions

     18,611         906         —          19,517   

U.S. government agency securities

     74,106         379         (1     74,484   

Corporate obligations

     8,602         146         (91     8,657   

Trust-preferred securities

     5,852         382         (1     6,233   

Other debt securities

     1,476         36         —          1,512   
  

 

 

    

 

 

    

 

 

   

 

 

 

Total debt securities

     316,912         9,418         (123     326,207   

Equity securities - financial services

     3,267         111         —          3,378   
  

 

 

    

 

 

    

 

 

   

 

 

 

Total

   $ 320,179       $ 9,529       $ (123   $ 329,585   
  

 

 

    

 

 

    

 

 

   

 

 

 

 

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The amortized cost and fair value of debt securities at December 31, 2012, by contractual maturity, are shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties (in thousands):

 

     Available For Sale  
     Amortized
Cost
     Fair Value  

Due in one year or less

   $ 2,233       $ 2,253   

Due after one year through five years

     49,987         50,534   

Due after five years through ten years

     51,495         52,918   

Due after ten years

     217,175         223,636   
  

 

 

    

 

 

 

Total

   $ 320,890       $ 329,341   
  

 

 

    

 

 

 

For the three months ended December 31, 2012, the Company realized gross gains of $31,000 and gross losses of $1,000 on proceeds from the sale of investment securities of $1.1 million. The Company had no sales of investment securities for the three months ended December 31, 2011.

 

6. Unrealized Losses on Securities

The following table shows the Company’s gross unrealized losses and fair value, aggregated by investment category and length of time that the individual securities have been in a continuous unrealized loss position (in thousands):

 

     December 31, 2012  
     Number of
Securities
     Less than Twelve
Months
    Twelve Months or
Greater
    Total  
        Fair
Value
     Gross
Unrealized
Losses
    Fair
Value
     Gross
Unrealized
Losses
    Fair
Value
     Gross
Unrealized
Losses
 

Fannie Mae

     3       $ 3,991       $ (22   $ 1,345       $ (1   $ 5,336       $ (23

Freddie Mac

     3         5,998         (24     —           —          5,998         (24

Governmental National Mortgage Association

     5         9,087         (49     —           —          9,087         (49

Obligations of states and political subdivisions

     4         5,330         (22     —           —          5,330         (22

U.S. government agency securities

     3         2,905         (1     —           —          2,905         (1

Corporate obligations

     4         2,366         (15     993         (7     3,359         (22

Equity securities-financial services

     1         2,041         (19     —           —          2,041         (19
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total

     23       $ 31,718       $ (152   $ 2,338       $   (8   $ 34,056       $ (160
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

 

     September 30, 2012  
     Number of
Securities
     Less than Twelve
Months
    Twelve Months or
Greater
    Total  
        Fair
Value
     Gross
Unrealized
Losses
    Fair
Value
     Gross
Unrealized
Losses
    Fair
Value
     Gross
Unrealized
Losses
 

Fannie Mae

     3       $ 4,083       $ (3   $ —         $ —        $ 4,083       $ (3

Freddie Mac

     1         2,002         (11     —           —          2,002         (11

Governmental National Mortgage Association

     5         6,090         (16     —           —          6,090         (16

U.S. government agency securities

     1         999         (1     —           —          999         (1

Corporate obligations

     5         1,059         (25     1,434         (66     2,493         (91

Trust-preferred securities

     1         998         (1     —           —          998         (1
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total

     16       $ 15,231       $   (57   $ 1,434       $ (66   $ 16,665       $ (123
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

The Company’s investment securities portfolio contains unrealized losses on securities, including mortgage-related instruments issued or backed by the full faith and credit of the United States government, or generally viewed as having the implied guarantee of the U.S. government, debt obligations of a U.S. state or political subdivision and corporate debt obligations.

 

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Table of Contents

The Company reviews its position quarterly and has asserted that at December 31, 2012, the declines outlined in the above table represent temporary declines and the Company would not be required to sell the security before its anticipated recovery in market value.

The Company has concluded that any impairment of its investment securities portfolio is not other than temporary but is the result of interest rate changes that are not expected to result in the non-collection of principal and interest during the period.

 

7. Loans Receivable, Net and Allowance for Loan Losses

Loans receivable consist of the following (in thousands):

 

     December 31,
2012
     September 30,
2012
 

Held for investment:

     

Real Estate Loans:

     

Residential

   $ 689,622       $ 696,350   

Construction

     3,916         3,805   

Commercial

     160,059         160,192   

Commercial

     11,380         12,818   

Obligations of states and political subdivisions

     34,138         33,736   

Home equity loans and lines of credit

     46,389         47,925   

Other

     2,326         2,485   
  

 

 

    

 

 

 
     947,830         957,311   

Less allowance for loan losses

     7,555         7,302   
  

 

 

    

 

 

 

Net loans

   $ 940,275       $ 950,009   
  

 

 

    

 

 

 

Held for sale:

     

Real Estate Loans:

     

Residential

     2,096         346   

 

    

 

Real Estate Loans

     Commercial
Loans
     Obligations
of States
and Political
Subdivisions
     Home
Equity and
Lines of
Credit
     Other
Loans
     Total  
     Residential      Construction      Commercial                 
            (dollars in
thousands)
                                    

December 31, 2012

                       

Total Loans

   $ 689,622       $ 3,916       $ 160,059       $ 11,380       $ 34,138       $ 46,389       $ 2,326       $ 947,830   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Individually evaluated for impairment

     12,897         —           18,144         263         —           258         —           31,562   

Loans acquired with deteriorated credit quality

     341         —           6,160         533         —           44         17         7,095   

Collectively evaluated for impairment

     676,384         3,916         135,755         10,584         34,138         46,087         2,309         909,173   

 

    

 

Real Estate Loans

     Commercial
Loans
     Obligations
of States
and Political
Subdivisions
     Home
Equity and
Lines of
Credit
     Other
Loans
     Total  
     Residential      Construction      Commercial                 
            (dollars in
thousands)
                                    

September 30, 2012

                       

Total Loans

   $ 696,350       $ 3,805       $ 160,192       $ 12,818       $ 33,736       $ 47,925       $ 2,485       $ 957,311   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Individually evaluated for impairment

     7,942         —           17,415         423         —           191         —           25,971   

Loans acquired with deteriorated credit quality

     271         —           6,159         1,007         —           44         19         7,500   

Collectively evaluated for impairment

     688,137         3,805         136,618         11,388         33,736         47,690         2,466         923,840   

 

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Table of Contents

We maintain a loan review system that allows for a periodic review of our loan portfolio and the early identification of potential impaired loans. Such system takes into consideration, among other things, delinquency status, size of loans, type and market value of collateral and financial condition of the borrowers. Specific loan loss allowances are established for identified losses based on a review of such information. A loan evaluated for impairment is considered to be impaired when, based on current information and events, it is probable that we will be unable to collect all amounts due according to the contractual terms of the loan agreement. All loans identified as impaired are evaluated independently. We do not aggregate such loans for evaluation purposes. Impairment is measured on a loan-by-loan basis for commercial and construction loans by the present value of expected future cash flows discounted at the loan’s effective interest rate, the loan’s obtainable market price, or the fair value of the collateral if the loan is collateral-dependent.

Large groups of smaller balance homogeneous loans are collectively evaluated for impairment. Accordingly, the Company does not separately identify individual consumer and residential mortgage loans for impairment disclosures, unless such loans are part of a larger relationship that is impaired, or are classified as a troubled debt restructuring.

A loan is considered to be a troubled debt restructuring (“TDR”) loan when the Company grants a concession to the borrower because of the borrower’s financial condition that it would not otherwise consider. Such concessions include the reduction of interest rates, forgiveness of principal or interest, or other modifications of interest rates that are less than the current market rate for new obligations with similar risk. TDR loans that are in compliance with their modified terms and that yield a market rate may be removed from the TDR status after a period of performance.

 

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Table of Contents

The following table includes the recorded investment and unpaid principal balances for impaired loans with the associated allowance amount, if applicable. Also presented are the average recorded investments in the impaired loans and the related amount of interest recognized during the time within the period that the impaired loans were impaired.

 

     Recorded
Investment
     Unpaid
Principal
Balance
     Associated
Allowance
     Average
Recorded
Investment
     Interest
Income
Recognized
 

December 31, 2012

              

With no specific allowance recorded:

              

Real Estate Loans

              

Residential

   $ 10,101       $ 10,097       $ —         $ 6,405       $ 34   

Construction

     —           —           —           —           —     

Commercial

     23,073         23,117         —           22,524         171   

Commercial

     752         750         —           1,115         2   

Obligations of states and political subdivisions

     —           —           —           —           —     

Home equity loans and lines of credit

     293         293         —           229         —     

Other

     17         17         —           18         —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

     34,236         34,274         —           30,291         207   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

With an allowance recorded:

              

Real Estate Loans

              

Residential

     3,137         3,135         698         3,052         27   

Construction

     —           —           —           —           —     

Commercial

     1,231         1,234         266         1,244         4   

Commercial

     44         42         11         43         —     

Obligations of states and political subdivisions

     —           —           —           —           —     

Home equity loans and lines of credit

     9         9         2         9         —     

Other

     —           —           —           —           —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

     4,421         4,420         977         4,348         31   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total:

              

Real Estate Loans

              

Residential

     13,238         13,232         698         9,457         61   

Construction

     —           —           —           —           —     

Commercial

     24,304         24,351         266         23,768         175   

Commercial

     796         792         11         1,158         2   

Obligations of states and political subdivisions

     —           —           —           —           —     

Home equity loans and lines of credit

     302         302         2         238         —     

Other

     17         17         —           18         —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total Impaired Loans

   $ 38,657       $ 38,694       $ 977       $ 34,639       $ 238   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

13


Table of Contents
     Recorded
Investment
     Unpaid
Principal
Balance
     Associated
Allowance
     Average
Recorded
Investment
     Interest
Income
Recognized
 

September 30, 2012

              

With no specific allowance recorded:

              

Real Estate Loans

              

Residential

   $ 5,182       $ 5,177       $ —         $ 4,687       $ 82   

Construction

     —           —           —           —           —     

Commercial

     22,290         22,341         —           13,584         457   

Commercial

     1,386         1,385         —           581         28   

Obligations of states and political subdivisions

     —           —           —           —           —     

Home equity loans and lines of credit

     226         226         —           238         —     

Other

     19         19         —           25         —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

     29,103         29,148         —           19,115         567   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

With an allowance recorded:

              

Real Estate Loans

              

Residential

     3,031         3,030         661         1,892         68   

Construction

     —           —           —           —           —     

Commercial

     1,284         1,286         270         1,326         13   

Commercial

     44         44         12         47         —     

Obligations of states and political subdivisions

     —           —           —           —           —     

Home equity loans and lines of credit

     9         9         9         13         1   

Other

     —           —           —           —           —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

     4,368         4,369         952         3,278         82   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total:

              

Real Estate Loans

              

Residential

     8,213         8,207         661         6,579         150   

Construction

     —           —           —           —           —     

Commercial

     23,574         23,627         270         14,910         470   

Commercial

     1,430         1,429         12         628         28   

Obligations of states and political subdivisions

     —           —           —           —           —     

Home equity loans and lines of credit

     235         235         9         251         1   

Other

     19         19         —           25         —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total Impaired Loans

   $ 33,471       $ 33,517       $ 952       $ 22,393       $ 649   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Management uses a ten point internal risk rating system to monitor the credit quality of the overall loan portfolio. The first six categories are considered not criticized, and are aggregated as “Pass” rated. The criticized rating categories utilized by management generally follow bank regulatory definitions. The Special Mention category includes assets that are currently protected but are potentially weak, resulting in an undue and unwarranted credit risk, but not to the point of justifying a Substandard classification. Loans in the Substandard category have well-defined weaknesses that jeopardize the liquidation of the debt, and have a distinct possibility that some loss will be sustained if the weaknesses are not corrected. All loans greater than 90 days past due are considered Substandard. The portion of any loan that represents a specific allocation of the allowance for loan losses is placed in the Doubtful category. Any portion of a loan that has been charged off is placed in the Loss category.

To help ensure that risk ratings are accurate and reflect the present and future capacity of borrowers to repay a loan as agreed, the Bank has a structured loan rating process with several layers of internal and external oversight. Generally, consumer and residential mortgage loans are included in the Pass categories unless a specific action, such as bankruptcy, repossession, or death occurs to raise awareness of a possible credit event. The Bank’s Commercial Loan Officers are responsible for the timely and accurate risk rating of the loans in their portfolios at origination and on an ongoing basis. The Bank’s Commercial Loan Officers perform an annual review of all commercial relationships $250,000 or greater. Confirmation of the appropriate risk grade is included in the review on an ongoing basis. The Bank engages an external consultant to conduct loan reviews on at least a semi-annual basis. Generally, the external consultant reviews commercial relationships greater than $500,000 and/or all criticized relationships. Detailed reviews, including plans for resolution, are performed on loans classified as Substandard on a quarterly basis. Loans in the Special Mention and Substandard categories that are collectively evaluated for impairment are given separate consideration in the determination of the allowance.

 

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Table of Contents

The following tables present the classes of the loan portfolio summarized by the aggregate Pass and the criticized categories of Special Mention, Substandard and Doubtful within the internal risk rating system as of December 31, 2012 and September 30, 2012 (in thousands):

 

 

December 31, 2012    Pass      Special
Mention
     Substandard      Doubtful      Total  

Commercial real estate loans

   $ 132,220       $ 3,900       $ 23,939       $ —         $ 160,059   

Commercial

     10,764         358         258         —           11,380   

Obligations of states and political subdivisions

     34,138         —           —           —           34,138   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 177,122       $ 4,258       $ 24,197       $ —         $ 205,577   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

September 30, 2012    Pass      Special
Mention
     Substandard      Doubtful      Total  

Commercial real estate loans

   $ 132,841       $ 5,502       $ 21,849       $ —         $ 160,192   

Commercial

     12,035         360         423         —           12,818   

Obligations of states and political subdivisions

     33,736         —           —           —           33,736   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 178,612       $ 5,862       $ 22,272       $ —         $ 206,746   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

All other loans are underwritten and structured using standardized criteria and characteristics, primarily payment performance, and are normally risk rated and monitored collectively on a monthly basis. These are typically loans to individuals in the consumer categories and are delineated as either performing or non-performing. The following tables present the risk ratings in the consumer categories of performing and non-performing loans at December 31, 2012 and September 30, 2012 (in thousands):

 

     Performing      Non-performing      Total  

December 31, 2012

        

Real estate loans:

        

Residential

   $ 677,765       $ 11,857       $ 689,622   

Construction

     3,916         —           3,916   

Home Equity loans and lines of credit

     46,069         320         46,389   

Other

     2,309         17         2,326   
  

 

 

    

 

 

    

 

 

 

Total

   $ 730,059       $ 12,194       $ 742,253   
  

 

 

    

 

 

    

 

 

 

 

     Performing      Non-performing      Total  

September 30, 2012

        

Real estate loans:

        

Residential

   $ 685,814       $ 10,536       $ 696,350   

Construction

     3,805         —           3,805   

Home Equity loans and lines of credit

     47,552         373         47,925   

Other

     2,466         19         2,485   
  

 

 

    

 

 

    

 

 

 

Total

   $ 739,637       $ 10,928       $ 750,565   
  

 

 

    

 

 

    

 

 

 

 

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Management further monitors the performance and credit quality of the loan portfolio by analyzing the age of the portfolio as determined by the length of time a recorded payment is past due. The following tables present the classes of the loan portfolio summarized by the aging categories of performing loans and nonaccrual loans as of December 31, 2012 and September 30, 2012 (in thousands):

 

     Current      31-60 Days
Past Due
     61-90 Days
Past Due
     Greater than
90 Days Past
Due and still
accruing
     Non-Accrual      Total Past
Due and
Non-
Accrual
     Total
Loans
 

December 31, 2012

                    

Real estate loans

                    

Residential

   $ 672,854       $ 3,531       $ 1,380       $ —         $ 11,857       $ 16,768       $ 689,622   

Construction

     3,916         —           —           —           —           —           3,916   

Commercial

     146,902         1,142         58         —           11,957         13,157         160,059   

Commercial

     10,043         —           —           —           1,337         1,337         11,380   

Obligations of states and political subdivisions

     34,138         —           —           —           —           —           34,138   

Home equity loans and lines of credit

     45,795         245         29         —           320         594         46,389   

Other

     2,274         35         —           —           17         52         2,326   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 915,922       $ 4,953       $ 1,467       $ —         $ 25,488       $ 31,908       $ 947,830   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

     Current      31-60 Days
Past Due
     61-90 Days
Past Due
     Greater than
90 Days Past
Due and still
accruing
     Non-Accrual      Total Past
Due and
Non-
Accrual
     Total
Loans
 

September 30, 2012

                    

Real estate loans

                    

Residential

   $ 680,876       $ 3,664       $ 1,274       $ —         $ 10,536       $ 15,474       $ 696,350   

Construction

     3,805         —           —           —           —           —           3,805   

Commercial

     142,277         3,658         3,348         —           10,909         17,915         160,192   

Commercial

     10,948         —           —           —           1,870         1,870         12,818   

Obligations of states and political subdivisions

     33,736         —           —           —           —           —           33,736   

Home equity loans and lines of credit

     46,967         447         138         —           373         958         47,925   

Other

     2,452         14         —           —           19         33         2,485   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 921,061       $ 7,783       $ 4,760       $ —         $ 23,707       $ 36,250       $ 957,311   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Our allowance for loan losses is maintained at a level necessary to absorb loan losses that are both probable and reasonably estimable. Management, in determining the allowance for loan losses, considers the losses inherent in its loan portfolio and changes in the nature and volume of loan activities, along with the general economic and real estate market conditions. Our allowance for loan losses consists of two elements: (1) an allocated allowance, which comprises allowances established on specific loans and class allowances based on historical loss experience and current trends, and (2) an allocated allowance based on general economic conditions and other risk factors in our markets and portfolios. We maintain a loan review system, which allows for a periodic review of our loan portfolio and the early identification of potential impaired loans. Such system takes into consideration, among other things, delinquency status, size of loans, type and market value of collateral and financial condition of the borrowers. General loan loss allowances are based upon a combination of factors including, but not limited to, actual loan loss experience, composition of the loan portfolio, current economic conditions, management’s judgment and losses which are probable and reasonably estimable. The allowance is increased through provisions charged against current earnings and recoveries of previously charged-off loans. Loans that are determined to be uncollectible are charged against the allowance. While management uses available information to recognize probable and reasonably estimable loan losses, future loss provisions may be necessary, based on changing economic conditions. Payments received on impaired loans generally are either applied against principal or reported as interest income, according to management’s judgment as to the collectability of principal. The allowance for loan losses as of December 31, 2012 is maintained at a level that represents management’s best estimate of losses inherent in the loan portfolio, and such losses were both probable and reasonably estimable.

In addition, the FDIC and the Pennsylvania Department of Banking, as an integral part of their examination process, have periodically reviewed our allowance for loan losses. The banking regulators may require that we recognize additions to the allowance based on its analysis and review of information available to it at the time of its examination.

Management reviews the loan portfolio on a quarterly basis using a defined, consistently applied process in order to make appropriate and timely adjustments to the ALL. When information confirms all or part of specific loans to be uncollectible, these amounts are promptly charged off against the ALL.

 

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The following table summarizes the primary segments of the ALL, segregated into the amount required for loans individually evaluated for impairment and the amount required for loans collectively evaluated for impairment as of December 31, 2012 (in thousands):

 

    Real Estate Loans     Commercial
Loans
    Obligations of
States and
Political
Subdivisions
    Home
Equity
Loans and
Lines of
Credit
    Other
Loans
    Unallocated     Total  
    Residential     Construction     Commercial              

ALL balance at September 30, 2012

  $ 5,401      $ 29      $ 699      $ 474      $ 127      $ 499      $ 22      $ 51      $ 7,302   

Charge-offs

    (645     —          (106     —          —          (35     —          —          (786

Recoveries

    37        —          1        —          —          1        —          —          39   

Provision

    756        (21     190        (90     (11     (88     111        153        1,000   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

ALL balance at December 31, 2012

  $ 5,549      $ 8      $ 784      $ 384      $ 116      $ 377      $ 133      $ 204      $ 7,555   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

    Real Estate Loans     Commercial
Loans
    Obligations of
States and
Political
Subdivisions
    Home
Equity
Loans and
Lines of
Credit
    Other
Loans
    Unallocated     Total  
    Residential     Construction     Commercial              

ALL balance at September 30, 2011

  $ 5,220      $ 8      $ 1,255      $ 500      $ 74      $ 622      $ 80      $ 411      $ 8,170   

Charge-offs

    (180     —          —          —          —          (114     (3     —          (297

Recoveries

    —          —          —          20        —          —          —          —          20   

Provision

    522        —          193        (13     —          17        58        (277     500   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

ALL balance at December 31, 2011

  $ 5,562      $ 8      $ 1,448      $ 507      $ 74      $ 525      $ 135      $ 134      $ 8,393   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

    Real Estate Loans     Commercial
Loans
    Obligations of
States and
Political
Subdivisions
    Home
Equity
Loans and
Lines of
Credit
    Other
Loans
    Unallocated     Total  
    Residential     Construction     Commercial              

Individually evaluated for impairment

  $ 698      $ —        $ 266      $ 11      $ —        $ 2      $ —        $ —        $ 977   

Collectively evaluated for impairment

    4,851        8        118        773        116        375        133        204        6,578   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

ALL balance at December 31, 2012

  $ 5,549      $ 8      $ 384      $ 784      $ 116      $ 377      $ 133      $ 204      $ 7,555   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

    Real Estate Loans     Commercial
Loans
    Obligations of
States and
Political
Subdivisions
    Home
Equity
Loans and
Lines of
Credit
    Other
Loans
    Unallocated     Total  
    Residential     Construction     Commercial              

Individually evaluated for impairment

  $ 661      $ —        $ 270      $ 12      $ —        $ 9      $ —        $ —        $ 952   

Collectively evaluated for impairment

    4,740        29        429        462        127        490        22        51        6,350   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

ALL balance at September 30, 2012

  $ 5,401      $ 29      $ 699      $ 474      $ 127      $ 499      $ 22      $ 51      $ 7,302   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

The allowance for loan losses is based on estimates, and actual losses will vary from current estimates. Management believes that the granularity of the homogeneous pools and the related historical loss ratios and other qualitative factors, as well as the consistency in the application of assumptions, result in an ALL that is representative of the risk found in the components of the portfolio at any given date. The Company allocated

 

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increased provisions to the residential real estate, commercial real estate and other loan segments for the three month period ending December 31, 2012 due to increased charge off activity and impairment evaluations in those segments. Despite the above allocations, the allowance for loan losses is general in nature and is available to absorb losses from any loan segment.

The following is a summary of troubled debt restructuring granted during the three months ended December 31, 2012 and 2011.

 

     For the Three Months Ended December 31, 2012  
     Number of
Contracts
     Pre-Modification
Outstanding
Recorded
Investment
     Post-Modification
Outstanding
Recorded
Investment
 

Troubled Debt Restructurings

        

Real estate loans:

        

Residential

     1       $ 130       $ 130   

Construction

     —           —           —     

Commercial

     —           —           —     

Commercial

     —           —           —     

Obligations of states and political subdivisions

     —           —           —     

Home equity loans and lines of credit

     —           —           —     

Other

     —           —           —     
  

 

 

    

 

 

    

 

 

 

Total

     1       $ 130       $ 130   
  

 

 

    

 

 

    

 

 

 

 

     For the Three Months Ended December 31, 2011  
     Number of
Contracts
     Recorded
Investment
     Recorded
Investment
 

Troubled Debt Restructurings

        

Real estate loans:

        

Residential

     1       $ 320       $ 320   

Construction

     —           —           —     

Commercial

     5         1,614         1,614   

Commercial

     3         216         217   

Obligations of states and political subdivisions

     —           —           —     

Home equity loans and lines of credit

     —           —           —     

Other

     —           —           —     
  

 

 

    

 

 

    

 

 

 

Total

     9       $ 2,150       $ 2,151   
  

 

 

    

 

 

    

 

 

 

The following is a summary of troubled debt restructurings that have subsequently defaulted within one year of modification.

 

     For the Twelve Months Ended December 31, 2012  
     Number of
Contracts
     Recorded
Investment
 

Troubled Debt Restructurings

     

Real estate loans:

     

Residential

   $ —         $ —     

Construction

     —           —     

Commercial

     —           —     

Commercial

     —           —     

Obligations of states and political subdivisions

     —           —     

Home equity loans and lines of credit

     —           —     

Other

     —           —     
  

 

 

    

 

 

 

Total

   $         $     
  

 

 

    

 

 

 

 

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Table of Contents
8. Deposits

Deposits consist of the following major classifications (in thousands):

 

     December 31,
2012
     September 30,
2012
 

Non-interest bearing demand accounts

   $ 46,971       $ 41,767   

NOW accounts

     103,028         109,923   

Money market accounts

     149,658         155,666   

Savings and club accounts

     104,007         102,143   

Certificates of deposit

     564,228         586,135   
  

 

 

    

 

 

 

Total

   $ 967,892       $ 995,634   
  

 

 

    

 

 

 

 

9. Net Periodic Benefit Cost-Defined Benefit Plan

For a detailed disclosure on the Bank’s pension and employee benefits plans, please refer to Note 13 of the Company’s Consolidated Financial Statements for the year ended September 30, 2012 included in the Company’s Form 10-K.

The following table comprises the components of net periodic benefit cost for the periods ended (in thousands):

 

     Three Months Ended
December 31,
 
     2012     2011  

Service Cost

   $ 176      $ 149   

Interest Cost

     179        178   

Expected return on plan assets

     (258     (203

Amortization of unrecognized loss

     97        119   
  

 

 

   

 

 

 

Net periodic benefit cost

   $ 194      $ 243   
  

 

 

   

 

 

 

The Bank plans to contribute $600,000 to its pension plan in May 2013.

 

10. Equity Incentive Plan

The Company maintains the ESSA Bancorp, Inc. 2007 Equity Incentive Plan (the “Plan”). The Plan provides for a total of 2,377,326 shares of common stock for issuance upon the grant or exercise of awards. Of the shares available under the Plan, 1,698,090 may be issued in connection with the exercise of stock options and 679,236 may be issued as restricted stock. The Plan allows for the granting of non-qualified stock options (“NSOs”), incentive stock options (“ISOs”), and restricted stock. Options are granted at no less than the fair value of the Company’s common stock on the date of the grant.

Certain officers, employees and outside directors were granted in aggregate 1,140,469 NSOs; 317,910 ISOs; and 590,320 shares of restricted stock. In accordance with generally accepted accounting principles for Share-Based Payments, the Company expenses the fair value of all share-based compensation grants over the requisite service periods.

The Company classifies share-based compensation for employees and outside directors within “Compensation and employee benefits” in the consolidated statement of income to correspond with the same line item as compensation paid. Additionally, generally accepted accounting principles require the Company to report: (1) the expense associated with the grants as an adjustment to operating cash flows and (2) any benefits of realized tax deductions in excess of previously recognized tax benefits on compensation expense as a financing cash flow.

Stock options vest over a five-year service period and expire ten years after grant date. The Company recognizes compensation expense for the fair values of these awards, which vest on a straight-line basis over the requisite service period of the awards.

Restricted shares vest over a five-year service period. The product of the number of shares granted and the grant date market price of the Company’s common stock determines the fair value of restricted shares under the Company’s restricted stock plan. The Company recognizes compensation expense for the fair value of restricted shares on a straight-line basis over the requisite service period for the entire award.

 

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Table of Contents

For the three months ended December 31, 2012 and 2011, the Company recorded $527,000 and $534,000 of share-based compensation expense, respectively, comprised of stock option expense of $172,000 and restricted stock expense of $356,000 for the December 31, 2012 period and stock option expense of $172,000 and restricted stock expense of $362,000 for the December 31, 2011 period. Expected future expenses relating to the 288,675 non-vested options outstanding as of December 31, 2012, is $261,000 over the remaining vesting period of 0.42 years. Expected future compensation expense relating to the 115,212 restricted shares at December 31, 2012, is $593,000 over the remaining vesting period of 0.42 years.

The following is a summary of the Company’s stock option activity and related information for its option grants for the three month period ended December 31, 2012.

 

     Number of Stock
Options
     Weighted-
average

Exercise
Price
     Weighted-
average
Remaining
Contractual
Term (in years)
     Aggregate
Intrinsic
Value
(in thousands)
 

Outstanding, September 30, 2012

     1,458,379       $ 12.35         5.67       $ —     

Granted

     —           —           —           —     

Exercised

     —           —           —           —     

Forfeited

     —           —           —           —     
  

 

 

          

Outstanding, December 31, 2012

     1,458,379       $ 12.35         5.42       $ —     
  

 

 

          

Exercisable at December 31, 2012

     1,169,704       $ 12.35         5.42       $ —     
  

 

 

          

The weighted-average grant date fair value of the Company’s non-vested options as of December 31, 2012 and 2011 was $2.38.

The following is a summary of the status of the Company’s restricted stock as of December 31, 2012, and changes therein during the three month period then ended:

 

     Number of
Restricted Stock
     Weighted-
average
Grant Date
Fair Value
 

Nonvested at September 30, 2012

     115,212       $ 12.35   

Granted

     —           —     

Vested

     —           —     

Forfeited

     —           —     
  

 

 

    

Nonvested at December 31, 2012

     115,212       $ 12.35   
  

 

 

    

 

11. Fair Value Measurement

The following disclosures show the hierarchal disclosure framework associated within the level of pricing observations utilized in measuring assets and liabilities at fair value. The definition of fair value maintains the exchange price notion in earlier definitions of fair value but focuses on the exit price of the asset or liability. The exit price is the price that would be received to sell the asset or paid to transfer the liability adjusted for certain inherent risks and restrictions. Expanded disclosures are also required about the use of fair value to measure assets and liabilities.

 

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Table of Contents

The following table presents information about the Company’s securities, other real estate owned and impaired loans measured at fair value as of December 31, 2012 and September 30, 2012 and indicates the fair value hierarchy of the valuation techniques utilized by the Bank to determine such fair value:

 

Fair Value Measurement at December 31, 2012

 

Fair Value Measurements Utilized for the
Company’s Financial Assets (in thousands):

   Quoted Prices in Active
Markets for Identical Assets

(Level 1)
     Significant Other
Observable  Inputs

(Level 2)
     Significant
Unobservable Inputs

(Level 3)
     Balances as of
December 31, 2012
 

Securities available-for-sale measured on a recurring basis

           

Mortgage backed securities

   $ —         $ 230,540       $ —         $ 230,540   

Obligations of states and political subdivisions

     —           25,269         —           25,269   

U.S. government agencies

     —           55,923         —           55,923   

Corporate obligations

     —           10,647         —           10,647   

Trust-preferred securities

     —           3,690         1,760         5,450   

Other debt securities

     —           1,512         —           1,512   

Equity securities-financial services

     2,184         —           —           2,184   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total debt and equity securities

   $ 2,184       $ 327,581       $ 1,760       $ 331,525   

Foreclosed real estate owned measured on a non-recurring basis

   $ —         $ —         $ 2,503       $ 2,503   

Impaired loans measured on a non-recurring basis

   $ —         $ —         $ 37,680       $ 37,680   

 

Fair Value Measurement at September 30, 2012

 

Fair Value Measurements Utilized for the
Company’s Financial Assets (in thousands):

   Quoted Prices in Active
Markets for Identical Assets

(Level 1)
     Significant Other
Observable Inputs

(Level 2)
     Significant
Unobservable Inputs

(Level 3)
     Balances as of
September 30, 2012
 

Securities available-for-sale measured on a recurring basis

           

Mortgage backed securities

   $ —         $ 215,804       $ —         $ 215,804   

Obligations of states and political subdivisions

     —           19,517         —           19,517   

U.S. government agencies

     —           74,484         —           74,484   

Corporate obligations

     —           8,657         —           8,657   

Trust-preferred securities

     —           4,493         1,740         6,233   

Other debt securities

     —           1,512         —           1,512   

Equity securities-financial services

     3,378         —           —           3,378   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total debt and equity securities

   $ 3,378       $ 324,467       $ 1,740       $ 329,585   

Foreclosed real estate owned measured on a non-recurring basis

   $ —         $ —         $ 2,998       $ 2,998   

Impaired loans measured on a non-recurring basis

   $ —         $ —         $ 32,520       $ 32,520   

The following table presents a summary of changes in the fair value of the Company’s Level III investments for the periods ended December 31, 2012 and September 30, 2012.

 

     Fair Value Measurement Using Significant Unobservable Inputs
(Level III)
 
     December 31, 2012      September 30, 2012  

Beginning balance

   $ 1,740       $ —     

Purchases, sales, issuances, settlements, net

     —           1,528   

Total unrealized gain:

     

Included in earnings

     —           —     

Included in other comprehensive income

     20         212   

Transfers in and/or out of Level III

     —           —     
  

 

 

    

 

 

 
   $ 1,760       $ 1,740   
  

 

 

    

 

 

 

Each financial asset and liability is identified as having been valued according to a specified level of input, 1, 2 or 3. Level 1 inputs are quoted prices (unadjusted) in active markets for identical assets or liabilities that the Bank has the ability to access at the measurement date. Fair values determined by Level 2 inputs utilize inputs other than quoted prices included in Level 1 that are observable for the asset, either directly or indirectly. Level 2 inputs include quoted prices for similar assets in active markets, and inputs other than quoted prices that are observable for the asset or liability. Level 3 inputs are unobservable inputs for the asset, and include situations where there is little, if any, market activity for the asset or liability. In certain cases, the inputs used to measure fair value may fall into different levels of the fair value hierarchy. In such cases, the level in the fair value hierarchy, within which the fair value measurement in its entirety falls, has been determined based on the lowest level input that is significant to the fair value measurement in its entirety. The Company’s assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment, and considers factors specific to the asset.

 

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The measurement of fair value should be consistent with one of the following valuation techniques: market approach, income approach, and/or cost approach. The market approach uses prices and other relevant information generated by market transactions involving identical or comparable assets or liabilities (including a business). For example, valuation techniques consistent with the market approach often use market multiples derived from a set of comparables. Multiples might lie in ranges with a different multiple for each comparable. The selection of where within the range the appropriate multiple falls requires judgment, considering factors specific to the measurement (qualitative and quantitative). Valuation techniques consistent with the market approach include matrix pricing. Matrix pricing is a mathematical technique used principally to value debt securities without relying exclusively on quoted prices for the specific securities, but rather by relying on a security’s relationship to other benchmark quoted securities. Most of the securities classified as available for sale are reported at fair value utilizing Level 2 inputs. For these securities, the Company obtains fair value measurements from an independent pricing service. The fair value measurements consider observable data that may include dealer quoted market spreads, cash flows, the U.S. Treasury yield curve, live trading levels, trade execution data, market consensus prepayment speeds, credit information and the bond’s terms and conditions, among other things. Securities reported at fair value utilizing Level 1 inputs are limited to actively traded equity securities whose market price is readily available from the New York Stock Exchange or the NASDAQ exchange. Foreclosed real estate is measured at fair value, less cost to sell at the date of foreclosure, valuations are periodically performed by management and the assets are carried at the lower of carrying amount or fair value, less cost to sell. Income and expenses from operations and changes in valuation allowance are included in the net expenses from foreclosed real estate. Impaired loans are reported at fair value utilizing level three inputs. For these loans, a review of the collateral is conducted and an appropriate allowance for loan losses is allocated to the loan. At December 31, 2012, 220 impaired loans with a carrying value of $38.7 million were reduced by specific valuation allowance totaling $977,000 resulting in a net fair value of $37.7 million based on Level 3 inputs.

The following table presents additional quantitative information about assets measured at fair value on a nonrecurring basis and for which the Company has utilized Level 3 inputs to determine fair value:

 

     Quantitative Information about Level 3 Fair Value  Measurements
(unaudited, in thousands)    Fair Value
Estimate
     Valuation
Techniques
   Unobservable
Input
   Range

December 31, 2012:

           

Impaired loans

     37,680       Appraisal of
collateral (1)
   Appraisal
adjustments (2)
   0% to 30%

Foreclosed real estate owned

     2,503       Appraisal of
collateral (1), (3)
   Appraisal
adjustments (2)
   0% to 30%

 

     Quantitative Information about Level 3 Fair Value  Measurements
(unaudited, in thousands)    Fair Value
Estimate
     Valuation
Techniques
   Unobservable
Input
   Range

September 30, 2012:

           

Impaired loans

     32,520       Appraisal of
collateral (1)
   Appraisal
adjustments (2)
   0% to 30%

Foreclosed real estate owned

     2,998       Appraisal of
collateral (1), (3)
   Appraisal
adjustments (2)
   0% to 30%

  

 

(1) Fair value is generally determined through independent appraisals of the underlying collateral, which generally include various level 3 inputs which are not identifiable.
(2) Appraisals may be adjusted by management for qualitative factors such as economic conditions and estimated liquidation expenses. The range of liquidation expenses and other appraisal adjustments are presented as a percent of the appraisal.
(3) Includes qualitative adjustments by management and estimated liquidation expenses.

 

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The fair values presented represent the Company’s best estimate of fair value using the methodologies discussed below.

Disclosures about Fair Value of Financial Instruments

The fair values presented represent the Company’s best estimate of fair value using the methodologies discussed below.

 

     December 31, 2012  
     Level I      Level II      Level III      Total Fair
Value
 

Financial assets:

           

Cash and cash equivalents

   $ 19,917       $ —         $ —         $ 19,917   

Investment and mortgage backed securities Available for sale

     2,184         327,581         1,760         331,525   

Loans receivable, held for sale, net

     —           —           2,096         2,096   

Loans receivable, net

     —           —           978,499         978,499   

Accrued interest receivable

     4,569         —           —           4,569   

FHLB stock

     19,054         —           —           19,054   

Mortgage servicing rights

     —           —           402         402   

Bank owned life insurance

     28,075         —           —           28,075   

Financial liabilities:

           

Deposits

   $ 398,559       $ —         $ 574,202       $    972,761   

Short-term borrowings

     84,500         —           —           84,500   

Other borrowings

     —           —           162,523         162,523   

Advances by borrowers for taxes and insurance

     6,943         —           —           6,943   

Accrued interest payable

     1,115         —           —           1,115   

 

     September 30, 2012  
     Level I      Level II      Level III      Total Fair
Value
 

Financial assets:

           

Cash and cash equivalents

   $ 15,550       $ —         $ —         $ 15,550   

Investment and mortgage backed securities Available for sale

     3,378         324,467         1,740         329,585   

Loans receivable, held for sale, net

     —           —           346         346   

Loans receivable, net

     —           —           997,685         997,685   

Accrued interest receivable

     4,929         —           —           4,929   

FHLB stock

     21,914         —           —           21,914   

Mortgage servicing rights

     —           —           365         365   

Bank owned life insurance

     27,848         —           —           27,848   

Financial liabilities:

           

Deposits

   $ 409,499       $ 597,028       $ —         $ 1,006,527   

Short-term borrowings

     43,281         —           —           43,281   

Other borrowings

     —           195,636         —           195,636   

Advances by borrowers for taxes and insurance

     3,432         —           —           3,432   

Accrued interest payable

     1,128         —           —           1,128   

 

     December 31, 2012      September 30, 2012  
     Carrying Value      Fair Value      Carrying Value      Fair Value  

Financial assets:

           

Cash and cash equivalents

   $ 19,917       $ 19,917       $ 15,550       $ 15,550   

Investment securities available for sale

     331,525         331,525         329,585         329,585   

Loans receivable, held for sale, net

     2,096         2,096         346         346   

Loans receivable, net

     940,275         978,499         950,009         997,339   

Accrued interest receivable

     4,569         4,569         4,929         4,929   

FHLB stock

     19,054         19,054         21,914         21,914   

Mortgage servicing rights

     402         402         365         365   

Bank owned life insurance

     28,075         28,075         27,848         27,848   

Financial liabilities:

           

Deposits

   $ 967,892       $ 972,761       $ 995,634       $ 1,006,527   

Short-term borrowings

     84,500         84,500         43,281         43,281   

Other borrowings

     159,460         162,523         191,460         195,636   

Advances by borrowers for taxes and insurance

     6,943         6,943         3,432         3,432   

Accrued interest payable

     1,115         1,115         1,128         1,128   

 

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Financial instruments are defined as cash, evidence of an ownership interest in an entity, or a contract which creates an obligation or right to receive or deliver cash or another financial instrument from/to a second entity on potentially favorable or unfavorable terms.

Fair value is defined as the amount at which a financial instrument could be exchanged in a current transaction between willing parties other than in a forced or liquidation sale. If a quoted market price is available for a financial instrument, the fair value would be calculated based upon the market price per trading unit of the instrument.

If no readily available market exists, the fair value for financial instruments should be based upon management’s judgment regarding current economic conditions, interest rate risk, expected cash flows, future estimated losses, and other factors as determined through various option pricing formulas or simulation modeling.

As many of these assumptions result from judgments made by management based upon estimates which are inherently uncertain, the resulting values may not be indicative of the amount realizable in the sale of a particular financial instrument. In addition, changes in the assumptions on which the values are based may have a significant impact on the resulting estimated values.

As certain assets and liabilities, such as deferred tax assets, premises and equipment, and many other operational elements of the Bank, are not considered financial instruments but have value, this fair value of financial instruments would not represent the full market value of the Company.

The Company employed simulation modeling in determining the fair value of financial instruments for which quoted market prices were not available based upon the following assumptions:

Cash and Cash Equivalents, Accrued Interest Receivable, Short-Term Borrowings, Advances by Borrowers for Taxes and Insurance, and Accrued Interest Payable

The fair value approximates the current book value.

Bank-Owned Life Insurance

The fair value is equal to the cash surrender value of the Bank-owned life insurance.

Investment and Mortgage-Backed Securities Available for Sale and FHLB Stock

The fair value of investment and mortgage-backed securities available for sale is equal to the available quoted market price. If no quoted market price is available, fair value is estimated using the quoted market price for similar securities. Since the FHLB stock is not actively traded on a secondary market and held exclusively by member financial institutions, the fair market value approximates the carrying amount.

Loans Receivable

The fair values of loans are estimated using discounted cash flow analyses, using market rates at the balance sheet date that reflect the credit and interest rate-risk inherent in the loans. Projected future cash flows are calculated based upon contractual maturity or call dates, projected repayments and prepayments of principal. Generally, for variable rate loans that reprice frequently and with no significant change in credit risk, fair values are based on carrying values.

Mortgage Servicing Rights

The Company utilizes a third party provider to estimate the fair value of certain loan servicing rights. Fair value for the purpose of this measurement is defined as the amount at which the asset could be exchanged in a current transaction between willing parties, other than in a forced liquidation.

Deposit Liabilities

The fair values disclosed for demand, savings, and money market deposit accounts are valued at the amount payable on demand as of quarter-end. Fair values for time deposits are estimated using a discounted cash flow calculation that applies contractual costs currently being offered in the existing portfolio to current market rates being offered for deposits of similar remaining maturities.

 

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Table of Contents

Other Borrowings

Fair values for other borrowings are estimated using a discounted cash flow calculation that applies contractual costs currently being offered in the existing portfolio to current market rates being offered for other borrowings of similar remaining maturities.

Commitments to Extend Credit

These financial instruments are generally not subject to sale, and fair values are not readily available. The carrying value, represented by the net deferred fee arising from the unrecognized commitment, and the fair value, determined by discounting the remaining contractual fee over the term of the commitment using fees currently charged to enter into similar agreements with similar credit risk, are not considered material for disclosure.

 

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Forward Looking Statements

This quarterly report contains forward-looking statements, which can be identified by the use of such words as estimate, project, believe, intend, anticipate, plan, seek, expect and similar expressions. These forward-looking statements include:

 

   

statements of our goals, intentions and expectations;

 

   

statements regarding our business plans and prospects and growth and operating strategies;

 

   

statements regarding the asset quality of our loan and investment portfolios; and

 

   

estimates of our risks and future costs and benefits.

By identifying these forward-looking statements for you in this manner, we are alerting you to the possibility that our actual results and financial condition may differ, possibly materially, from the anticipated results and financial condition indicated in these forward-looking statements. Important factors that could cause our actual results and financial condition to differ from those indicated in the forward-looking statements include, among others, those discussed under “Risk Factors” in Part I, Item 1A of the Company’s Annual Report on Form 10-K and Part II, Item 1A of this Report on Form 10-Q, as well as the following factors:

 

   

significantly increased competition among depository and other financial institutions;

 

   

inflation and changes in the interest rate environment that reduce our margins or reduce the fair value of financial instruments;

 

   

general economic conditions, either nationally or in our market areas, that are worse than expected;

 

   

adverse changes in the securities markets;

 

   

legislative or regulatory changes that adversely affect our business;

 

   

our ability to enter new markets successfully and take advantage of growth opportunities, and the possible short-term dilutive effect of potential acquisitions or de novo branches, if any;

 

   

changes in consumer spending, borrowing and savings habits;

 

   

changes in accounting policies and practices, as may be adopted by the bank regulatory agencies and the Financial Accounting Standards Board; and

 

   

changes in our organization, compensation and benefit plans.

These risks and uncertainties should be considered in evaluating forward-looking statements and undue reliance should not be placed on such statements.

 

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Table of Contents

Comparison of Financial Condition at December 31, 2012 and September 30, 2012

Total Assets. Total assets decreased by $13.1 million, or 0.9%, to $1,405.6 million at December 31, 2012 from $1,418.7 million at September 30, 2012. Decreases in loans receivable and other assets were offset, in part, by increases in interest bearing deposits with other institutions and investment securities available for sale.

Interest-Bearing Deposits with Other Institutions. Interest-bearing deposits with other institutions increased $3.0 million, or 65.5%, to $7.5 million at December 31, 2012 from $4.5 million at September 30, 2012. This increase was primarily the result of the cash generated from the increase in sales of loans receivable from September 30, 2012 through December 31, 2012.

Net Loans. Net loans decreased $9.7 million, or 1.0%, to $940.3 million at December 31, 2012 from $950.0 million at September 30, 2012. During this period, residential real estate loans outstanding decreased by $6.7 million to $689.6 million. Commercial real estate loans decreased $133,000 to $160.1 million, home equity loans and lines of credit decreased $1.5 million to $46.4 million, and other loans decreased $159,000 to $2.3 million. These decreases were partially offset by increases in construction loans outstanding of $111,000 to $3.9 million and obligations of states and political subdivisions of $402,000 to $34.1 million.

Other Assets. Other assets decreased $8.5 million, or 28.7%, to $21.2 million at December 31, 2012 from $29.8 million at September 30, 2012. The primary reason for the decrease was a decrease in accounts receivable for $6.7 million at December 31, 2012 compared to September 30, 2012. At September 30, 2012, the Company had approximately $6.0 million in accounts receivable for brokered deposits that the Company contracted for prior to September 30, 2012 but for which the funds were not received until October 1, 2012.

Investment Securities Available for Sale. Investment securities available for sale increased $1.9 million, or 0.59%, to $331.5 million at December 31, 2012 from $329.6 million at September 30, 2012. The increase was due primarily to increases in mortgage-backed securities of $14.7 million and municipal bonds of $5.8 million, offset in part, by a decrease in agency bonds of $18.6 million.

Deposits. Deposits decreased $27.7 million, or 2.79%, to $967.9 million at December 31, 2012 from $995.6 million at September 30, 2012. At December 31, 2012 compared to September 30, 2012, certificate of deposit accounts decreased $21.9 million to $564.2 million, NOW accounts decreased $6.9 million to $103.0 million, and money market accounts decreased $6.0 million to $149.7 million. These decreases were offset in part during the same period by an increase in non-interest bearing demand accounts of $5.2 million to $47.0 million and savings and club accounts of $1.9 million to $104.0 million. Included in the certificates of deposit at December 31.2012 was a decrease in brokered certificates of $4.3 million to $152.5 million.

Borrowed Funds. Borrowed funds increased by $9.2 million, or 3.93%, to $244.0 million at December 31, 2012, from $234.7 million at September 30, 2012. The increase in borrowed funds was primarily due to increases in short term FHLBank Pittsburgh borrowings of $41.2 million offset by declines in other borrowings of $32.0 million.

Stockholders’ Equity. Stockholders’ equity increased by $1.9 million, or 1.1%, to $177.3 million at December 31, 2012 from $175.4 million at September 30, 2012. This increase was primarily the result of net income of $2.9 million which was partially offset by a decrease in accumulated other comprehensive income of $570,000 to $1.2 million at December 31, 2012 from $1.8 million at September 30, 2012.

 

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Table of Contents

Average Balance Sheets for the Three Months Ended December 31, 2012 and 2011

The following tables set forth average balance sheets, average yields and costs, and certain other information for the periods indicated. All average balances are daily average balances, the yields set forth below include the effect of deferred fees and discounts and premiums that are amortized or accreted to interest income.

 

     For the Three Months Ended December 31,  
     2012     2011  
     Average
Balance
    Interest
Income/
Expense
    Yield/ Cost     Average
Balance
    Interest
Income/
Expense
    Yield/ Cost  
     (dollars in thousands)  

Interest-earning assets:

            

Loans (1)

   $ 953,090      $ 12,237        5.09   $ 748,215      $ 9,341        4.95

Investment securities

            

Taxable (2)

     96,785        422        1.73     36,771        232        2.50

Exempt from federal income tax (2) (3)

     10,038        54        3.23     7,743        48        3.80
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total investment securities

     106,823        476        1.87     44,514        280        2.73

Mortgage-backed securities

     218,612        1,208        2.19     206,380        1,406        2.70

Federal Home Loan Bank stock

     19,914        24        0.48     16,283        —          0.00

Other

     5,657        5        0.35     21,783        2        0.04
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total interest-earning assets

     1,304,096        13,950        4.25     1,037,175        11,029        4.23

Allowance for loan losses

     (7,408         (8,257    

Noninterest-earning assets

     102,046            62,838       
  

 

 

       

 

 

     

Total assets

   $ 1,398,734          $ 1,091,756       
  

 

 

       

 

 

     

Interest-bearing liabilities:

            

NOW accounts

   $ 95,415        13        0.05   $ 58,932        4        0.03

Money market accounts

     153,302        116        0.30     112,827        80        0.28

Savings and club accounts

     100,692        12        0.05     70,968        24        0.13

Certificates of deposit

     578,902        1,830        1.25     353,897        1,803        2.02

Borrowed funds

     228,709        1,260        2.19     290,416        2,410        3.29
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total interest-bearing liabilities

     1,157,020        3,231        1.11     887,040        4,321        1.93

Non-interest bearing NOW accounts

     48,791            32,242       

Noninterest-bearing liabilities

     15,586            10,594       
  

 

 

       

 

 

     

Total liabilities

     1,221,397            929,876       

Equity

     177,337            161,880       
  

 

 

       

 

 

     

Total liabilities and equity

   $ 1,398,734          $ 1,091,756       
  

 

 

       

 

 

     

Net interest income

     $ 10,719          $ 6,708     
    

 

 

       

 

 

   

Interest rate spread

         3.14         2.30

Net interest-earning assets

   $ 147,076          $ 150,135       
  

 

 

       

 

 

     

Net interest margin (4)

         3.26         2.57

Average interest-earning assets to average interest-bearing liabilities

       112.71         116.93  

 

(1) Non-accruing loans are included in the outstanding loan balances.
(2) Available for sale securities are reported at fair value.
(3) Yields on tax exempt securities have been calculated on a fully tax equivalent basis assuming a tax rate of 34%.
(4) Represents the difference between interest earned and interest paid, divided by average total interest earning assets.

Comparison of Operating Results for the Three Months Ended December 31, 2012 and December 31, 2011

Net Income. Net income increased $2.0 million, or 224.9%, to $2.9 million for the three months ended December 31, 2012 compared to net income of $886,000 for the comparable period in 2011. The increase was due primarily to increases in net interest income and noninterest income, offset in part, by an increase in noninterest expenses.

Net Interest Income. Net interest income increased $4.0 million, or 59.8%, to $10.7 million for the three months ended December 31, 2012 from $6.7 million for the comparable period in 2011. The increase was primarily attributable to an increase in the Company’s interest rate spread to 3.14% for the three months ended December 31, 2012, from 2.30% for the comparable period in 2011, offset in part by a decrease of $3.1 million in the Company’s average net earnings assets.

 

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Table of Contents

Interest Income. Interest income increased $2.9 million, or 26.5%, to $14.0 million for the three months ended December 31, 2012 from $11.0 million for the comparable 2011 period. The increase resulted primarily from additional earning assets added as a result of the merger with First Star Bank in the fourth quarter of 2012. Average interest earning assets increased $266.9 million and the average yield on interest earning assets increased two basis points. The average yield on interest earning assets was 4.25% for the three months ended December 31, 2012, as compared to 4.23% for the comparable 2011 period. Loans increased on average $204.9 million between the two periods. In addition, average investment securities increased $62.3 million, mortgage-backed securities increased $12.2 million, Federal Home Loan Bank stock increased $3.6 million and other interest earning assets decreased $16.1 million. The decrease in other interest earning assets was primarily due to a corresponding decrease in the average balance of cash held at FHLBank Pittsburgh. Interest income for the fiscal first quarter 2013 also includes the recapture of approximately $500,000, before tax, of a previously recorded fair value adjustment to a loan acquired as part of the First Star acquisition. This loan was fully repaid in the first quarter. An additional $473,000, before tax, was recaptured during the quarter related to similar loans that were partially repaid.

Interest Expense. Interest expense decreased $1.1 million, or 25.2%, to $3.2 million for the three months ended December 31, 2012 from $4.3 million for the comparable 2011 period. The decrease resulted from an 82 basis point decrease in the overall cost of interest bearing liabilities to 1.11% for the three months ended December 31, 2012 from 1.93% for the comparable 2011 period, partially offset by a $270.0 million increase in average interest-bearing liabilities. Average interest bearing liabilities increased primarily as a result of the merger with First Star Bank in the fourth quarter of 2012. The yield on borrowed funds declined primarily as a result of the prepayment of $37.0 million in higher yielding borrowings in the fourth quarter of 2012. Yields on certificates of deposits declined due primarily to the replacement of maturing brokered certificates of deposit with shorter duration lower cost certificates of deposit.

Provision for Loan Losses. In evaluating the level of the allowance for loan losses, management considers historical loss experience, the types of loans and the amount of loans in the loan portfolio, adverse situations that may affect a borrower’s ability to repay, the estimated value of any underlying collateral, peer group information and prevailing economic conditions. This evaluation is inherently subjective as it requires estimates that are subject to interpretation and revision as more information becomes available or as future events occur. After an evaluation of these factors, management made a provision for loan losses of $1.0 million for the three month period ended December 31, 2012 as compared to $500,000 for the three month period ended December 31, 2011. The allowance for loan losses was $7.6 million, or 0.80% of loans outstanding, at December 31, 2012, compared to $7.3 million, or 0.76% of loans outstanding at September 30, 2012.

Non-interest Income. Non-interest income increased $502,000, or 32.9%, to $2.0 million for the three months ended December 31, 2012 from $1.5 million for the comparable period in 2011. The primary reasons for the increase were increases in gain on sale of loans, net of $334,000 and service fees on deposit accounts of $80,000 during the 2012 period. As part of its overall interest rate risk management strategy, the Company sold $11.5 million of long-term, fixed-rate mortgage loans during the quarter ended December 31, 2012. There were no loans sold during the comparable 2011 period.

Non-interest Expense. Non-interest expense increased $843,000, or 12.7%, to $7.5 million for the three months ended December 31, 2012 from $6.7 million for the comparable period in 2011. The primary reasons for the increase were increases in compensation and employee benefits of $620,000, occupancy and equipment of $193,000 and data processing expense of $181,000. These increases were partially offset by decreases in the cost to liquidate foreclosed real estate of $293,000 and professional fees of $178,000. The increases in noninterest expense were due primarily to the larger organization in fiscal first quarter 2013 compared with fiscal first quarter 2012 as a result of the First Star merger. The decrease in professional fees was due to a decrease in merger related legal fees.

Income Taxes. Income tax expense increased $1.2 million to $1.4 million for the three months ended December 31, 2012 from $184,000 for the comparable 2011 period. The increase was primarily a result of the increase in income before taxes of $3.2 million for the three months ended December 31, 2012. The effective tax rate was 32.1% for the three months ended December 31, 2012, compared to 17.2% for the 2011 period. The increase in the effective tax rate was primarily due to the decrease in the portion of pre-tax income derived from non-taxable loan and investment income for the three months ended December 31, 2012 compared to the 2011 period.

 

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Table of Contents

Non-Performing Assets

The following table provides information with respect to the Bank’s non-performing assets at the dates indicated. (Dollars in thousands)

 

     December 31,
2012
    September 30,
2012
 

Non-performing assets:

    

Non-accruing loans

   $ 25,488      $ 23,707   

Troubled debt restructures

     531        533   
  

 

 

   

 

 

 

Total non-performing loans

     26,019        24,240   

Foreclosed real estate

     2,503        2,998   
  

 

 

   

 

 

 

Total non-performing assets

   $ 28,522      $ 27,238   
  

 

 

   

 

 

 

Ratio of non-performing loans to total loans

     2.74     2.53

Ratio of non-performing loans to total assets

     1.85     1.71

Ratio of non-performing assets to total assets

     2.03     1.92

Ratio of allowance for loan losses to total loans

     0.80     0.76

Loans are reviewed on a regular basis and are placed on non-accrual status when they become more than 90 days delinquent. When loans are placed on non-accrual status, unpaid accrued interest is fully reserved, and further income is recognized only to the extent received. Non-performing assets increased $1.3 million to $28.5 million at December 31, 2012 from $27.2 million at September 30, 2012. Non-performing loans increased $1.8 million to $26.0 million at December 31, 2012 from $24.2 million at September 30, 2012. The increase was primarily due to an increase of $516,000 in nonperforming commercial loans and $1.3 million in nonperforming residential loans. The increase in commercial loans was primarily due to the addition of one commercial real estate loan. At December 31, 2012 the outstanding balance of this loan was $446,000 and the loan was paying pursuant to its terms. The number of nonperforming residential loans increased to 99 at December 31, 2012, from 79 at September 30, 2012. The $25.5 million of non-accruing loans at December 31, 2012 included 88 residential loans with an aggregate outstanding balance of $10.7 million that were past due 90 or more days at December 31, 2012, 90 commercial and commercial real estate loans with aggregate outstanding balances of $13.3 million and 16 consumer loans with aggregate balances of $337,000. Within the residential loan balance are $1.2 million of loans less than 90 days past due. In the quarter ended December 31, 2012, the Company identified eight residential loans which, although paying as agreed, have a high probability of default. Foreclosed real estate decreased $495,000 to $2.5 million at December 31, 2012 from $3.0 million at September 30, 2012. Foreclosed real estate consists of 28 residential properties, two building lots and one commercial property.

At December 31, 2012 the principal balance of troubled debt restructures was $12.5 million as compared to $13.1 million at September 30, 2012. Of the $12.5 million of troubled debt restructures at December 31, 2012, $7.7 million are performing loans and $4.8 million are non-accrual loans. An additional $531,000 of performing troubled debt restructures are classified as non-performing assets because they were non-performing assets at the time they were restructured.

Of the 72 loans that comprise our troubled debt restructures at December 31, 2012, no loans were granted a rate concession at a below market interest rate. Twelve loans with balances totaling $2.0 million were granted market rate and terms concessions, one loan with a balance of $381,000 was granted an interest rate concession and 59 loans with balances totaling $10.1 million were granted term concessions.

As of December 31, 2012, troubled debt restructures were comprised of 42 residential loans totaling $6.9 million, 24 commercial and commercial real estate loans totaling $5.5 million, and six consumer (home equity loans, home equity lines and credit, and other) totaling $158,000.

For the three month period ended December 31, 2012, three loans totaling $471,000 were removed from TDR status. One loan for $172,000 was transferred to foreclosed real estate, and two loans totaling $299,000 completed 12 months of consecutive on time payments.

We have modified terms of loans that do not meet the definition of a TDR. The vast majority of such loans were rate modifications of residential first mortgage loans in lieu of refinancing. The non-TDR rate modifications

 

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were all performing loans when the rates were reset to current market rates. For the three months ended December 31, 2012, we modified 100 loans ($14.1 million) in this fashion. With regard to commercial loans, including commercial real estate loans, various non-troubled loans were modified, either for the purpose of a rate reduction to reflect current market rates (in lieu of a refinance) or the extension of a loan’s maturity date. In total, there were ten such loans in the three months ended December 31, 2012 with an aggregate balance of approximately $4.9 million.

Liquidity and Capital Resources

We maintain liquid assets at levels we consider adequate to meet both our short-term and long-term liquidity needs. We adjust our liquidity levels to fund deposit outflows, repay our borrowings and to fund loan commitments. We also adjust liquidity as appropriate to meet asset and liability management objectives.

Our primary sources of liquidity are deposits, prepayment and repayment of loans and mortgage-backed securities, maturities of investment securities and other short-term investments, and earnings and funds provided from operations, as well as access to FHLBank advances and other borrowing sources. While scheduled principal repayments on loans and mortgage-backed securities are a relatively predictable source of funds, deposit flows and loan prepayments are greatly influenced by market interest rates, economic conditions, and rates offered by our competition. We set the interest rates on our deposits to maintain a desired level of total deposits.

A portion of our liquidity consists of cash and cash equivalents and borrowings, which are a product of our operating, investing and financing activities. At December 31, 2012, $19.9 million of our assets were invested in cash and cash equivalents. Our primary sources of cash are principal repayments on loans, proceeds from the maturities of investment securities, principal repayments of mortgage-backed securities and increases in deposit accounts. Short-term investment securities (maturing in one year or less) totaled $2.2 million at December 31, 2012. As of December 31, 2012, we had $229.0 million in borrowings outstanding from FHLBank Pittsburgh and $15.0 million in borrowings through repurchase agreements with other financial institutions. We have access to additional FHLBank advances of up to approximately $577.4 million.

At December 31, 2012, we had $74.0 million in loan commitments outstanding, which included, in part, $31.4 million in undisbursed construction loans and land development loans, $31.6 million in unused home equity lines of credit, $4.9 million in commercial lines of credit and commitments to originate commercial loans, $3.2 million in performance standby letters of credit and $2.7 million in other unused commitments which are primarily to originate residential mortgage loans and multifamily loans. Certificates of deposit due within one year of December 31, 2012 totaled $267.3 million, or 47.3% of certificates of deposit. If these maturing deposits do not remain with us, we will be required to seek other sources of funds, including other certificates of deposit and borrowings. Depending on market conditions, we may be required to pay higher rates on such deposits or other borrowings than we currently pay on the certificates of deposit due on or before December 31, 2013. We believe, however, based on past experience that a significant portion of our certificates of deposit will remain with us. We have the ability to attract and retain deposits by adjusting the interest rates offered

As reported in the Consolidated Statements of Cash Flows, our cash flows are classified for financial reporting purposes as operating, investing or financing cash flows. Net cash provided by operating activities was $6.1 million and $3.9 million for the three months ended December 31, 2012 and 2011, respectively. These amounts differ from our net income because of a variety of cash receipts and disbursements that did not affect net income for the respective periods. Net cash provided (used) in investing activities was $8.2 million and $(15.8) million for the three months ended December 31, 2012 and 2011, respectively, principally reflecting our loan and investment security activities. Deposit and borrowing cash flows have comprised most of our financing activities which resulted in net cash used of $9.9 million and $779,000 for the three months ended December 31, 2012 and 2011, respectively.

Critical Accounting Policies

We consider accounting policies that require management to exercise significant judgment or discretion or make significant assumptions that have, or could have, a material impact on the carrying value of certain assets or on income, to be critical accounting policies. We consider the following to be our critical accounting policies:

Allowance for Loan Losses. The allowance for loan losses is the estimated amount considered necessary to cover credit losses inherent in the loan portfolio at the balance sheet date. The allowance is established through the provision for loan losses which is charged against income. In determining the allowance for loan losses,

 

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management makes significant estimates and has identified this policy as one of our most critical. The methodology for determining the allowance for loan losses is considered a critical accounting policy by management due to the high degree of judgment involved, the subjectivity of the assumptions utilized and the potential for changes in the economic environment that could result in changes to the amount of the recorded allowance for loan losses.

As a substantial amount of our loan portfolio is collateralized by real estate, appraisals of the underlying value of property securing loans and discounted cash flow valuations of properties are critical in determining the amount of the allowance required for specific loans. Assumptions for appraisals and discounted cash flow valuations are instrumental in determining the value of properties. Overly optimistic assumptions or negative changes to assumptions could significantly impact the valuation of a property securing a loan and the related allowance determined. The assumptions supporting such appraisals and discounted cash flow valuations are carefully reviewed by management to determine that the resulting values reasonably reflect amounts realizable on the related loans.

Management performs a quarterly evaluation of the adequacy of the allowance for loan losses. Consideration is given to a variety of factors in establishing this estimate including, but not limited to, current economic conditions, delinquency statistics, geographic and industry concentrations, the adequacy of the underlying collateral, the financial strength of the borrower, results of internal and external loan reviews and other relevant factors. This evaluation is inherently subjective, as it requires material estimates that may be susceptible to significant revision based on changes in economic and real estate market conditions.

The analysis of the allowance for loan losses has two components: specific and general allocations. Specific allocations are made for loans that are determined to be impaired. Impairment is measured by determining the present value of expected future cash flows or, for collateral-dependent loans, the fair value of the collateral adjusted for market conditions and selling expenses. The general allocation is determined by segregating the remaining loans by type of loan, risk weighting (if applicable) and payment history. We also analyze historical loss experience, delinquency trends, general economic conditions and geographic and industry concentrations. This analysis establishes factors that are applied to the loan groups to determine the amount of the general allocations. Actual loan losses may be significantly more than the allowance for loan losses we have established which could have a material negative effect on our financial results.

Other-than-Temporary Investment Security Impairment. Securities are evaluated periodically to determine whether a decline in their value is other-than-temporary. Management utilizes criteria such as the magnitude and duration of the decline, in addition to the reasons underlying the decline, to determine whether the loss in value is other-than-temporary. The term “other-than-temporary” is not intended to indicate that the decline is permanent, but indicates that the prospect for a near-term recovery of value is not necessarily favorable, or that there is a lack of evidence to support a realizable value equal to or greater than the carrying value of the investment. Once a decline in value is determined to be other-than-temporary, the value of the security is reduced and a corresponding charge to earnings is recognized.

Deferred Income Taxes. We use the asset and liability method of accounting for income taxes. Under this method, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. If current available information raises doubt as to the realization of the deferred tax assets, a valuation allowance is established. We consider the determination of this valuation allowance to be a critical accounting policy because of the need to exercise significant judgment in evaluating the amount and timing of recognition of deferred tax liabilities and assets, including projections of future taxable income. These judgments and estimates are reviewed on a continual basis as regulatory and business factors change. A valuation allowance for deferred tax assets may be required if the amount of taxes recoverable through loss carryback declines, or if we project lower levels of future taxable income. Such a valuation allowance would be established through a charge to income tax expense which would adversely affect our operating results.

Off-Balance Sheet Arrangements

We do not have any off-balance sheet arrangements (as such term is defined in applicable Securities and Exchange Commission rules) that are reasonably likely to have a current or future material effect on our financial condition, results of operations, liquidity, capital expenditures or capital resources.

 

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Contractual Obligations

During the first three months of fiscal 2013, the Company’s contractual obligations did not change materially from those discussed in the Company’s Financial Statements for the year ended September 30, 2012.

 

Item 3. Quantitative and Qualitative Disclosures About Market Risk

The majority of our assets and liabilities are monetary in nature. Consequently, our most significant form of market risk is interest rate risk. Our assets, consisting primarily of mortgage loans, have longer maturities than our liabilities, consisting primarily of deposits and borrowings. As a result, a principal part of our business strategy is to manage interest rate risk and reduce the exposure of our net interest income to changes in market interest rates. Accordingly, our Board of Directors has approved guidelines for managing the interest rate risk inherent in our assets and liabilities, given our business strategy, operating environment, capital, liquidity and performance objectives. Senior management monitors the level of interest rate risk on a regular basis and the asset/liability committee meets quarterly to review our asset/liability policies and interest rate risk position.

We have sought to manage our interest rate risk in order to minimize the exposure of our earnings and capital to changes in interest rates. The net proceeds from the Company’s stock offering increased our capital and provided management with greater flexibility to manage our interest rate risk. In particular, management used the majority of the capital we received to increase our interest-earning assets. There have been no material changes in our interest rate risk since September 30, 2012.

 

Item 4. Controls and Procedures

Under the supervision and with the participation of our management, including our Principal Executive Officer and Principal Financial Officer, we evaluated the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rule 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934) as of the end of the period covered by this report. Based upon that evaluation, the Principal Executive Officer and Principal Financial Officer concluded that, as of the end of the period covered by this report, our disclosure controls and procedures were effective.

There were no changes made in the Company’s internal controls over financial reporting (as defined by rule 13a-15(f) under the Securities Exchange Act of 1934) or in other factors that could significantly affect, or are reasonably likely to materially affect, the Company’s internal controls over financial reporting during the period covered by this report.

 

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Part II – Other Information

 

Item 1. Legal Proceedings

The Company and its subsidiaries are subject to various legal actions arising in the normal course of business. In the opinion of management, the resolution of these legal actions is not expected to have a material adverse effect on the Company’s financial condition or results of operations.

 

Item 1A. Risk Factors

In addition to the risk factors relating to the Company that were disclosed in response to Item 1A to part I of Form 10-K for the year ended September 30, 2012, the following additional risk factor exists relating to the First Star merger.

The merger of the Company and First Star and the integration of the companies may be more difficult, costly or time consuming than expected. It is possible that the integration process could result in the loss of key employees or disruption of ongoing business or inconsistencies in standards, controls, procedures and policies that adversely affect the Company’s ability to maintain relationships with customers and employees or achieve the anticipated benefits of the merger. As with any member of banking institutions, there may also be business disruptions that cause the Company to lose customers or cause customers to withdraw their deposits from the Company’s banking subsidiaries. The success of the combined company following the merger may depend in large part on the ability to integrate the two business models and cultures. If we are not able to integrate the Company’s and First Star’s operations successfully and in a timely manner, the expected benefits of the merger may not be realized.

The Company may fail to realize the cost savings estimated for the merger. The Company estimates that it will achieve cost savings from the merger when the two companies have been fully integrated, while the Company continues to be comfortable with these expectations, it is possible that the estimates of the potential cost savings could turn out to be incorrect. The cost savings estimates also assume the ability to combine the businesses of the company and First Star in a manner that permits those cost savings to be realized. If the estimates turn out to be incorrect or the company is not able to successfully combine the two companies the anticipated cost savings may not be fully realized or realized at all, or may take longer to realize than expected.

 

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

The following table presents a summary of the company’s share repurchases during the quarter ended December 31, 2012.

Company Purchases of Common Stock

 

Month Ending    Total number of
shares purchased
     Average price
paid per share
     Total number of
shares purchased as
part of publicly
announced plans or
programs
     Maximum number
of shares that may
yet be purchased
under the plans or
programs
 

October 31, 2012 (1)

     —         $ —           —           1,322,991   

November 30, 2012 (2)

     —           —           —           1,322,991   

December 31, 2012 (3)

     38,900         10.51         38,900         1,284,091   
  

 

 

       

 

 

    

Total

     38,900       $ 10.51         38,900      
  

 

 

       

 

 

    

 

Item 3. Defaults Upon Senior Securities

Not applicable.

 

Item 4. Mine Safety Disclosures

Not applicable.

 

Item 5. Other Information

Not applicable.

 

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Item 6. Exhibits

The following exhibits are either filed as part of this report or are incorporated herein by reference:

 

    3.1    Certificate of Incorporation of ESSA Bancorp, Inc.*
    3.2    Bylaws of ESSA Bancorp, Inc.*
    4    Form of Common Stock Certificate of ESSA Bancorp, Inc.*
  10.2    Amended and Restated Employment Agreement for Gary S. Olson**
  10.3    Amended and Restated Employment Agreement for Robert S. Howes**
  10.4    Amended and Restated Employment Agreement for Allan A. Muto**
  10.5    Amended and Restated Employment Agreement for Diane K. Reimer**
  10.6    Amended and Restated Employment Agreement for V. Gail Warner**
  10.7    Supplemental Executive Retirement Plan**
  10.8    Endorsement Split Dollar Life Insurance Agreement for Gary S. Olson**
  10.9    Endorsement Split Dollar Life Insurance Agreement for Robert S. Howes**
  21    Subsidiaries of Registrant*
  31.1    Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
  31.2    Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
  32    Certification of Chief Executive Officer and Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
101    Interactive data files pursuant to Rule 405 of Regulation S-T: (i) the Consolidated Statements of Condition; (ii) the Consolidated Statement of Income; (iii) the Consolidated Statement of Changes in Stockholder Equity; the Consolidated Statement of Cash Flows; and (iv) the Notes to Consolidated Financial Statements. ***

 

* Incorporated by reference to the Registration Statement on Form S-1 of ESSA Bancorp, Inc. (file no. 333-139157), originally filed with the Securities and Exchange Commission on December 7, 2006.
** Incorporated by reference to ESSA Bancorp, Inc.’s current report on Form 8-K filed with the Securities and Exchange Commission on October 6, 2008.
*** As provided in Pub. 406 of Regulation S-T, this information is furnished and not filed for purposes of Sections 11 and 12 of the Securities Act of 1933 and Section 18 of the Securities Exchange Act of 1934.

 

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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.

 

  ESSA BANCORP, INC.
Date: February 11, 2013  

/s/ Gary S. Olson

  Gary S. Olson
  President and Chief Executive Officer
Date: February 11, 2013  

/s/ Allan A. Muto

  Allan A. Muto
  Executive Vice President and Chief Financial Officer

 

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