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| CWLZ > SEC Filings for CWLZ > Form 10-Q on 14-Nov-2008 | All Recent SEC Filings |
14-Nov-2008
Quarterly Report
Critical Accounting Estimates
The Company's most critical accounting estimate is related to the allowance for credit losses. The Company utilizes both quantitative and qualitative considerations in establishing an allowance for credit losses believed to be appropriate as of each reporting date.
Quantitative factors include:
· the volume and severity of non-performing loans and adversely classified credits,
· the level of net charge-offs experienced on previously classified loans,
· the nature and value of collateral securing the loans,
· the trend in loan growth and the percentage of change,
· the level of geographic and/or industry concentration,
· the relationship and trend over the past several years of recoveries in relation to charge-offs, and
· other known factors regarding specific loans.
Qualitative factors include:
· the effectiveness of credit administration,
· the adequacy of loan review,
· the adequacy of loan operations personnel and processes,
· the effect of competitive issues that impact loan underwriting and structure,
· the impact of economic conditions, including interest rate trends,
· the introduction of new loan products or specific marketing efforts,
· large credit exposure and trends, and
· industry segments that are exhibiting stress.
Changes in the above factors could significantly affect the determination of the adequacy of the allowance for credit losses. Management performs a full analysis, no less often than quarterly, to ensure that changes in estimated loan loss levels are adjusted on a timely basis. For further discussion of this significant management estimate, see "Allowance for Credit Losses."
Another critical accounting estimate of the Company is that related to the carrying value of goodwill. Impairment analysis of the fair value of goodwill involves a substantial amount of judgment. Under Statement of Financial Accounting Standards No. 142, "Goodwill and Other Intangible Assets" (SFAS No. 142), the Company ceased amortization of goodwill on January 1, 2002 and periodically tests goodwill for impairment.
Results of Operations for the Three and Nine Months Ended September 30, 2008 and 2007
Overview
The Company's net loss for the quarter ended September 30, 2008 was $1.6 million, or ($0.31) per share, compared with net income of $1.3 million, or $0.25 per diluted share during the same period of 2007. For the first nine months of 2008, the Company's net loss was $8.8 million, compared with net income of $3.2 million for the same period of 2007.
Net interest income was $5.6 million in the third quarter of 2008, compared with $5.7 million in the same period in 2007. For the first nine months of 2008, net interest income was down $0.2 million from the same period in 2007. Average earning assets were $496.7 million in the third quarter of 2008, compared with $459.3 million in the third quarter of 2007. The increase in average earning assets related primarily to higher loan balances. Average interest-bearing liabilities in the third quarter of 2008 were $403.8 million, compared with $340.1 million in the third quarter of 2007, as deposits were the primary source of funds to support loan growth.
The provision for credit losses was $2.3 million in the third quarter of 2008 compared with $725,000 in the third quarter of 2007. For the nine month period ended September 30, 2008, the provision for credit losses was $15.9 million compared with $1.0 million in the same period of 2007. The higher provision in 2008 reflected primarily unfavorable conditions in the residential real estate market that affected home builders and developers and resulted in an increase in loans charged-off during the period. A slowdown in home buying has resulted in slower sales and rapidly declining real estate valuations, which have significantly affected these borrowers' liquidity and ability to repay loans.
At September 30, 2008, total assets were $565.3 million, an increase of $51.2 million, or 10%, from December 31, 2007. Total loans increased 10% to $436.7 million, from $397.3 million at December 31, 2007. Loans grew at an annualized rate of 13% in the first nine months of 2008. Total deposits increased 13.6% to $501.4 million at September 30, 2008 from $441.2 million at December 31, 2007.
The Company maintained capital ratios in excess of defined regulatory levels required to be "well-capitalized" as of September 30, 2008. In addition, management believes the Company has adequate amounts of liquidity readily available.
The Emergency Economic Stabilization Act of 2008, signed into law on October 3, 2008, provides authority to the United States Department of the Treasury to, among other things, purchase up to $700 billion of mortgages, mortgage backed securities and certain other financial instruments from financial institutions. On October 14, 2008, the Treasury Department announced it will offer certain selected financial institutions the opportunity to issue and sell preferred stock, along with warrants to purchase common stock, to the US government, acting through the Treasury, on terms specified by the government. This program is known as the Capital Purchase Program, which is part of the larger Troubled Asset Relief Program announced.
In addition, the Federal Deposit Insurance Corporation has initiated the Temporary Liquidity Guarantee Program that will provide a 100 percent guarantee for a limited period of time to newly issued senior unsecured debt and non-interest bearing transaction deposits. Coverage under the Temporary Liquidity Guarantee Program is available for 30 days without charge and thereafter at a cost of 75 basis points per annum for senior unsecured debt and 10 basis points per annum for non-interest bearing transaction deposits. Management is currently evaluating participation in the Liquidity Guarantee Programs.
Analysis of Net Interest Income
The primary component of the Company's earnings is net interest income. Net interest income is the difference between interest income, principally from loans and the investment securities portfolio, and interest expense, principally on customer deposits and borrowings. Changes in net interest income, net interest spread, and net interest margin result from changes in asset and liability volume and mix, and to rates earned or paid. Net interest spread refers to the difference between the yield on interest-earning assets and the cost of interest-bearing liabilities. Net interest margin is the ratio of net interest income to total interest-earning assets and is influenced by the volume and relative mix of interest-earning assets and interest-bearing liabilities. Volume refers to the dollar level of interest-earning assets and interest-bearing liabilities.
Interest income from certain of the Company's earning assets is non-taxable. The following tables present interest income and expense, including adjustments for non-taxable interest income, and the resulting tax-adjusted yields earned, rates paid, interest rate spread, and net interest margin for the periods indicated on an annualized basis.
For Three Months Ended September 30,
2008 2007
Average Interest Average Interest
Outstanding Earned/ Yield/ Outstanding Earned/ Yield/
(dollars in thousands) Balance Paid Rate Balance Paid Rate
Assets
Interest-earning assets:
Loans (1) (2) (3) $ 436,770 $ 8,341 7.60 % $ 393,133 $ 8,564 8.64 %
Taxable securities 19,036 264 5.52 % 32,622 451 5.48 %
Non-taxable securities (2) 23,946 396 6.58 % 21,157 340 6.38 %
Temporary investments 16,938 78 1.83 % 12,435 139 4.43 %
Total interest-earning
assets (2) 496,690 $ 9,079 7.27 % 459,347 $ 9,494 8.20 %
Allowance for loan losses (13,511 ) (5,076 )
Other assets 56,786 47,785
Total assets $ 539,965 $ 502,056
Liabilities and
shareholders' equity
Interest-bearing
liabilities:
Savings, money market and
interest-bearing demand
deposits $ 104,718 $ 376 1.43 % $ 112,200 $ 708 2.50 %
Certificates of deposit 285,733 2,787 3.88 % 214,305 2,747 5.09 %
Federal funds purchased 950 5 2.09 % 1,042 13 4.95 %
Junior subordinated
debentures 12,372 138 4.44 % 12,372 220 7.05 %
FHLB and other borrowings 76 2 8.20 % 161 3 7.80 %
Total interest-bearing
liabilities 403,849 $ 3,308 3.26 % 340,080 $ 3,691 4.31 %
Non-interest-bearing
deposits 84,111 102,219
Other liabilities 4,128 5,300
Total liabilities 492,088 447,599
Shareholders' equity 47,877 54,457
Total liabilities and
shareholders' equity $ 539,965 $ 502,056
Net interest income (2) $ 5,771 $ 5,803
Net interest spread 4.01 % 3.89 %
Yield on average interest-earning assets 7.27 % 8.20 %
Interest expense to
average interest-earning
assets 2.65 % 3.19 %
Net interest income to
average interest-earning
assets (net interest
margin) 4.62 % 5.01 %
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(1) Loans include loans on which the accrual of interest has been discontinued.
(2) Interest earned on non-taxable securities and loans has been computed on a 34 percent tax-equivalent basis.
(3) Loan interest income includes net loan fee income of $312,300 and $409,700 for 2008 and 2007, respectively.
For Nine Months Ended September 30,
2008 2007
Average Interest Average Interest
Outstanding Earned/ Yield/ Outstanding Earned/ Yield/
(dollars in thousands) Balance Paid Rate Balance Paid Rate
Assets
Interest-earning assets:
Loans (1) (2) (3) $ 425,177 $ 25,051 7.87 % $ 377,579 $ 24,880 8.81 %
Taxable securities 23,800 969 5.44 % 34,048 1,394 5.47 %
Non-taxable securities
(2) 24,253 1,187 6.54 % 21,327 1,011 6.34 %
Temporary investments 13,999 241 2.30 % 7,901 259 4.38 %
Total interest-earning
assets (2) 487,229 $ 27,448 7.53 % 440,855 $ 27,544 8.35 %
Allowance for loan losses (9,276 ) (4,919 )
Other assets 55,759 47,228
Total assets $ 533,712 $ 483,164
Liabilities and
shareholders' equity
Interest-bearing
liabilities:
Savings, money market and
interest-bearing demand
deposits $ 113,908 $ 1,425 1.67 % $ 98,759 $ 1,508 2.04 %
Certificates of deposit 258,711 8,310 4.29 % 210,858 7,953 5.04 %
Federal funds purchased 1,939 40 2.76 % 1,696 68 5.36 %
Junior subordinated
debentures 12,372 469 5.06 % 12,372 651 7.04 %
FHLB and other borrowings 95 6 7.90 % 188 11 7.82 %
Total interest-bearing
liabilities 387,025 $ 10,250 3.54 % 323,873 $ 10,191 4.21 %
Non-interest-bearing
deposits 88,932 101,145
Other liabilities 4,016 5,167
Total liabilities 479,973 430,185
Shareholders' equity 53,739 52,979
Total liabilities and
shareholders' equity $ 533,712 $ 483,164
Net interest income (2) $ 17,198 $ 17,353
Net interest spread 3.99 % 4.14 %
Yield on average interest-earning assets 7.53 % 8.35 %
Interest expense to
average interest-earning
assets 2.81 % 3.09 %
Net interest income to
average interest-earning
assets (net interest
margin) 4.71 % 5.26 %
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(1) Loans include loans on which the accrual of interest has been discontinued.
(2) Interest earned on non-taxable securities and loans has been computed on a 34 percent tax-equivalent basis.
(3) Loan interest income includes net loan fee income of $1,201,700 and $1,322,100 for 2008 and 2007, respectively.
The net interest margin as a percentage was 4.62% in the third quarter of 2008, compared with 5.01% in the same quarter last year and 4.71% and 5.26% for the nine months ended September 30, 2008 and 2007, respectively. Tax-equivalent net interest income for the three and nine month periods ended September 30, 2008 were comparable to the respective periods in 2007. Increases in average interest-earning assets of $37.3 million and $46.4 million for the three and nine-month periods, respectively, were funded primarily by increases in interest-bearing deposits. The net interest margin in 2008 relative to the net interest margin in 2007 was affected by several factors, including rate cuts by the Federal Reserve of approximately 300 basis points over the last 12 months, continued competitive market pricing on both sides of the balance sheet, the level of nonperforming loans and a lower level of noninterest-bearing demand deposit accounts year-over-year. Interest reversals on nonaccrual loans of $118,000 and $248,000 for the three and nine-month periods ended September 30, 2008 reduced net interest margin by 10 and 7 bps, respectively
The net interest margin for the nine-months ended September 30, 2008 was also affected by the Company's election to redeem $45.1 million in callable certificates of deposit, with $21.5 million settling in March of 2008 and the balance in the second quarter of 2008. Newly issued certificates of deposit have an approximately 150 basis point lower average cost and a slightly longer duration than the certificates of deposits redeemed. In connection with the redemptions, the Company wrote off all unamortized premiums associated with those deposits of $185,000. The deposit premium write-off increased the average cost of interest-bearing liabilities by approximately 7 basis points and decreased the net interest margin by approximately 5 basis points.
Provision for Credit Losses
The Company recorded a provision for credit losses of $2.3 million and $15.9 million for the three and nine-month periods ended September 30, 2008, compared with $725,000 and $1.0 million in the same periods of 2007. The amount of the allowance for credit losses is analyzed by management on a regular basis to ensure that it is adequate to absorb losses inherent in the loan portfolio as of the reporting date. When a provision for credit losses is recorded, the amount is based on the current volume of loans and commitments to extend credit, anticipated changes in loan volumes, past charge-off experience, management's assessment of the risk of loss on current loans, the level of non-performing and impaired loans, evaluation of future economic trends in the Company's market area, and other factors relevant to the loan portfolio. An internal loan risk grading system is used to evaluate probable losses of individual loans. The Company does not, as part of its analysis, group loans together by loan type to assign risk. See "Allowance for Credit Losses" below for a more detailed discussion.
Non-Interest Income
Non-interest income consists of the following components:
Three Months Ended Nine Months Ended
September 30, September 30,
(dollars in thousands) 2008 2007 2008 2007
Service charges on deposit
accounts $ 221 $ 171 $ 564 $ 508
International trade fees 126 146 461 425
Fiduciary income 143 165 479 529
Increase in cash surrender value
of bank-owned life insurance 154 142 460 415
Wire fees 85 93 250 268
Mortgage brokerage fees 50 77 158 210
Securities losses (1,412 ) - (1,844 ) -
Other income 113 116 361 370
Total non-interest income $ (520 ) $ 910 $ 889 $ 2,725
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Total non-interest income for the third quarter of 2008 reflected a loss of $520,000 compared with income of $910,000 in the same quarter of last year. Securities losses in the three and nine month periods ended September 30, 2008 were $1.4 million and $1.8 million, respectively, compared to no losses in the same periods in 2007. The loss in the third quarter of 2008 was due to the recognition of an increase in the other-than-temporary impairment (OTTI) charge on 70,000 shares of FNMA investment grade perpetual callable preferred stock, reflecting the extraordinarily unsettled equity market for this government-sponsored enterprise (GSE) following the federal government's actions to place the GSE under conservatorship and suspend preferred stock dividends. The Company recognized an OTTI charge of $232,000 on its FNMA preferred securities in the second quarter of 2008.
Non-Interest Expense
Non-interest expense consists of the following components:
Three Months Ended Nine Months Ended
September 30, September 30,
(dollars in thousands) 2008 2007 2008 2007
Salaries and employee benefits $ 2,333 $ 2,391 $ 7,340 $ 7,306
Net occupancy and equipment 641 592 1,888 1,684
Professional services 390 454 861 1,225
Data processing and communications 264 248 710 718
Business taxes 112 115 354 325
Interest rate contracts adjustments (242 ) (245 ) 75 388
Federal deposit insurance 94 11 281 35
Foreclosed asset expense, net 373 - 2,247 422
Other expense 762 626 2,505 2,275
Total non-interest expense $ 4,727 $ 4,192 $ 16,261 $ 14,378
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Non-interest expenses in the three and nine month periods ended September 30, 2008 were $4.7 million and $16.3 million, compared with $4.2 million and $14.4 million in the same periods of 2007. The most significant items affecting comparability of the totals were costs related to foreclosed assets and amounts related to interest rate contracts. Foreclosed asset expenses were $373,000 in the third quarter of 2008, compared with none in the third quarter of 2007, and $2.2 million in the first nine months of 2008 compared with $422,000 in the same period of 2007. The Company recorded non-cash credits of $242,000 and $245,000 in the three month periods ended September 30, 2008 and 2007, respectively and non-cash charges of $75,000 and $388,000 in the nine month periods ended September 2008 and 2007, respectively, related to the ineffective portion of the change in fair value of the Company's cash flow hedges.
Salaries and employee benefits for the three and nine-month periods of 2008 were approximately equal to the amounts in the same periods of 2007. In the first quarter of 2008, the Company substantially completed a planned reduction of approximately 7% in its workforce primarily through attrition and better matching of staffing levels to customer traffic flows, as well as job eliminations. The number of full-time equivalent employees was 130 at September 30, 2008, compared with 137 at September 30, 2007.
On a year-to-date basis, net occupancy and equipment expenses in the first nine months of 2008 were higher than the same period in 2007 primarily due to higher levels of depreciation related to branch remodeling and related asset acquisitions in mid-2007. Professional services were down significantly in the first nine months of 2008 compared with the first nine months of 2007. The Company's legal costs related to nonperforming loans were higher by approximately $50,000 in 2008 compared with the same period in 2007, while costs associated with Sarbanes-Oxley compliance efforts were lower by approximately $255,000 than in the same period of 2007. Federal deposit insurance premiums were $281,000 in the first nine months of 2008, compared with $35,000 in the first nine months of 2007. In the third quarter of 2007, the Company fully utilized its remaining one-time credits towards FDIC assessments.
Income Taxes
The Company's effective tax benefit rate for the first nine months of 2008 was 40%, compared with 25% for the first nine months of 2007. The Company's effective benefit rate for the first six months of 2008 was 43%. The change in the effective tax benefit rate to 40% at September 30, 2008 caused the third quarter 2008 tax benefit rate to be 19%. When the Company incurs a pre-tax loss, its effective tax rate is higher than the Federal statutory rate of 35% primarily due to tax-exempt income related to its municipal securities portfolio and investments in bank-owned life insurance. The Company's effective tax rate for interim periods is based on projections of taxable income or loss for the full year and is affected by the relative amounts of taxable and non-taxable income and the amount of available tax credits.
Financial Condition
Investment Securities
The following table presents the composition and carrying value of the Company's
available for sale investment portfolio:
September 30, December 31,
(dollars in thousands) 2008 2007
Mortgage-backed securities 18,407 27,263
Municipal bonds 21,779 22,801
Agency securities 126 1,514
Other investments 500 -
$ 40,812 $ 51,578
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Total investment securities as of September 30, 2008 were $40.8 million, compared with $51.6 million at December 31, 2007. The decrease in total securities from year-end 2007 primarily reflected the sale of four non-agency mortgage-backed securities, as well as scheduled principal payments. In addition, an other-than-temporary impairment charge of $1.6 million was recorded on its investment in FNMA preferred stock in 2008. The Company's securities, classified as available for sale, are used by management as part of its asset/liability management strategy and may be sold in response to changes in interest rates or significant prepayment risk.
Loans
Total loans outstanding were $436.7 million and $397.3 million at September 30,
2008 and December 31, 2007, respectively. Unfunded loan commitments were $81.8
million at September 30, 2008 and $96.3 million at December 31, 2007.
The following table presents the composition of the Company's loan portfolio, in
accordance with bank regulatory guidelines, at the dates indicated:
September 30, 2008 December 31, 2007
(dollars in thousands) Amount Percent Amount Percent
Commercial $ 123,582 28.2 % $ 109,846 27.6 %
Real estate:
Construction 101,420 23.2 % 83,766 21.0 %
Residential 1-4 family 35,014 8.0 % 32,480 8.1 %
Multifamily 3,325 0.8 % 6,298 1.6 %
Commercial 170,954 39.0 % 162,344 40.7 %
Installment and other consumer 3,595 0.8 % 3,785 1.0 %
Total loans, gross 437,890 100.0 % 398,519 100.0 %
Deferred loan fees (1,206 ) (1,194 )
Loans, net of deferred loan fees $ 436,684 $ 397,325
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Allowance for Credit Losses
The allowance for credit losses represents management's estimate of potential losses as of the date of the financial statements. The loan portfolio is regularly reviewed to evaluate the adequacy of the allowance for credit losses. In determining the level of the allowance, the Company estimates losses inherent in all loans and commitments to make loans, and evaluates non-performing loans to determine the amount, if any, necessary for a specific reserve. An important element in determining the adequacy of the allowance for credit losses is an analysis of loans by loan risk-rating categories. At a loan's inception and periodically throughout the life of the loan, management evaluates the credit risk by using a risk-rating system. This grading system currently includes eleven levels of risk. Risk ratings range from "1" for the strongest credits to "10" for the weakest. A "10" rated loan would normally represent a loss. All . . .
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