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SSFN > SEC Filings for SSFN > Form 10-Q on 9-Nov-2012All Recent SEC Filings

Show all filings for STEWARDSHIP FINANCIAL CORP

Form 10-Q for STEWARDSHIP FINANCIAL CORP


9-Nov-2012

Quarterly Report


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

Cautionary Note Regarding Forward-Looking Statements

This Quarterly Report on Form 10-Q contains certain "forward looking statements" with respect to Stewardship Financial Corporation (the "Corporation") within the meaning of the Private Securities Litigation Reform Act of 1995, which forward looking statements may be identified by the use of such words as "believe," "expect," "anticipate," "should," "plan," "estimate," and "potential." Examples of forward looking statements include, but are not limited to, estimates with respect to the financial condition, results of operations and business of the Corporation that are subject to various factors which could cause actual results to differ materially from these estimates. These factors include: changes in general, economic and market conditions, legislative and regulatory conditions, or the development of an interest rate environment that adversely affects the Corporation's interest rate spread or other income anticipated from operations and investments. As used in this Form 10-Q, "we", "us" and "our" refer to Stewardship Financial Corporation and its consolidated subsidiary, Atlantic Stewardship Bank, depending on the context.

Recent Storm Related Events

We are in the process of assessing the impact of Hurricane Sandy that occurred in late October. The storm resulted in considerable damage throughout our market area, and may have adversely affected the collateral of some of our borrowers and their ability to repay their obligations to the Bank. In addition, the power outages caused by the storm temporarily interrupted our ability to open some of our branches. These impacts could adversely affect our future earnings.

Critical Accounting Policies and Estimates

"Management's Discussion and Analysis of Financial Condition and Results of Operations," as well as disclosures found elsewhere in this Quarterly Report on Form 10-Q, are based upon the Corporation's consolidated financial statements, which have been prepared in conformity with U.S. generally accepted accounting principles ("GAAP"). The preparation of these financial statements requires the Corporation to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses. Note 1 to the Corporation's Audited Consolidated Financial Statements for the year ended December 31, 2011 included in the 2011 Annual Report contains a summary of the Corporation's significant accounting policies. Management believes the Corporation's policy with respect to the methodology for the determination of the allowance for loan losses involves a higher degree of complexity and requires management to make difficult and subjective judgments, which often require assumptions or estimates about highly uncertain matters. Changes in these judgments, assumptions or estimates could materially impact results of operations. This critical policy and its application are periodically reviewed with the Audit Committee and the Board of Directors.

The allowance for loan losses is based upon management's evaluation of the adequacy of the allowance, including an assessment of known and inherent risks in the portfolio, giving consideration to the size and composition of the loan portfolio, actual loan loss experience, level of delinquencies, detailed analysis of individual loans for which full collectability may not be assured, the existence and estimated net realizable value of any underlying collateral and guarantees securing the loans, and current economic and market conditions. Although management uses the best information available, the level of the allowance for loan losses remains an estimate, which is subject to significant judgment and short-term change. Various regulatory agencies, as an integral part of their examination process, periodically review the Corporation's allowance for loan losses. Such agencies may require the Corporation to make additional provisions for loan losses based upon information available to them at the time of their examination. Furthermore, the majority of the Corporation's loans are secured by real estate in the State of New Jersey. Accordingly, the collectability of a substantial portion of the carrying value of the Corporation's loan portfolio is susceptible to changes in local market conditions and may be adversely affected should real estate values decline or the northern New Jersey area experience adverse economic changes. Future adjustments to the allowance for loan losses may be necessary due to economic, operating, regulatory and other conditions beyond the Corporation's control.

Financial Condition

Total assets decreased $25.0 million to $683.8 million at September 30, 2012 from $708.8 million at December 31, 2011. Cash and cash equivalents increased $3.7 million to $17.4 million at September 30, 2012 from $13.7 million at December 31, 2011. Securities available for sale increased $3.1 million to $174.0 million while securities held to maturity decreased $6.5 million to $31.9 million. Net loans decreased $19.3 million from $444.8 million at December 31, 2011 to $425.5 million at September 30, 2012. Increases due to new loans originated were more than offset by regular principal payments and payoffs in the first nine months of 2012. In addition, $2.8 million of loans were transferred to other real estate owned (OREO). Loans held for sale totaled $938,000 at September 30, 2012, a decrease from $3.8 million at December 31, 2011. OREO reflected a net decline of $2.3 million primarily reflecting sales of properties partially offset by the foreclosure on additional properties.

Deposits totaled $583.4 million at September 30, 2012, a decrease of $10.1 million from $593.5 million at December 31, 2011. The change in total deposits consisted of a $9.3 million increase in noninterest-bearing accounts offset by a $19.4 million decrease in interest-bearing accounts.

Index

FHLB - NY advances were $25.0 million at September 30, 2012 compared to $32.7 million at December 31, 2011. The decrease in these borrowings was primarily the result of a decrease in assets. In addition, securities sold under agreements to repurchase declined $7.0 million reflecting the early repayment of a portion of a wholesale repurchase agreement.

Results of Operations

General

The Corporation reported net income of $328,000, or $0.04 per diluted common share for the three months ended September 30, 2012, compared to net income of $578,000, or $0.06 diluted earnings per common share for the three months ended September 30, 2011. For the nine months ended September 30, 2012, the Corporation reported net income of $780,000, or $0.09 diluted earnings per common share. These results compare to net income of $1.6 million, or $0.19 per diluted common share, for the nine months ended September 30, 2011.

Net Interest Income

Net interest income for the three and nine months ended September 30, 2012 was $5.9 million and $17.9 million, respectively, compared to $6.3 million and $18.5 million recorded in the prior year periods. For the three months ended September 30, 2012, average interest-earning assets were relatively unchanged. However, the current nine month period reflects an increase in average interest-earning assets. The current year periods both include declines in the cost of interest bearing liabilities offset by declines in the yield on interest-earning assets. The net interest rate spread and net yield on interest-earning assets for the three months ended September 30, 2012 were 3.41% and 3.62%, respectively, compared to 3.61% and 3.87% for the three months ended September 30, 2011. For the nine months ended September 30, 2012, the net interest rate spread and net yield on interest-earning assets were 3.45% and 3.67%, respectively, compared to 3.61% and 3.86% for the nine months ended September 30, 2011. The net interest rate spread and net yield on interest-earning assets for the current year period reflects a decline in loan interest rates and yields on securities as well as a decline in the interest rates on deposits. The Corporation continues in its efforts to proactively manage deposit costs in an effort to mitigate the lower asset yields earned. The reduced yields on assets reflect both an elevated level of nonperforming loans as well as the historically low market rates in the current environment.

The following table reflects the components of the Corporation's net interest income for the three and nine months ended September 30, 2012 and 2011 including: (1) average assets, liabilities and stockholders' equity based on average daily balances, (2) interest income earned on interest-earning assets and interest expense paid on interest-bearing liabilities, (3) average yields earned on interest-earning assets and average rates paid on interest-bearing liabilities, and (4) net yield on interest-earning assets. Nontaxable income from investment securities and loans is presented on a tax-equivalent basis assuming a statutory tax rate of 34% for the periods presented. This was accomplished by adjusting non-taxable income upward to make it equivalent to the level of taxable income required to earn the same amount after taxes.

Index

                 Analysis of Net Interest Income (Unaudited)

                    For the Three Months Ended September 30,



                                                                  2012                                       2011
                                                                               Average                                    Average
                                                                Interest        Rates                      Interest        Rates
                                                  Average       Income/        Earned/       Average       Income/        Earned/
                                                  Balance       Expense         Paid         Balance       Expense         Paid
                                                         (Dollars in thousands)                     (Dollars in thousands)

Assets

Interest-earning assets:
Loans (1) (2)                                    $ 445,722     $    5,962          5.31 %   $ 464,838     $    6,735          5.75 %
Taxable investment securities (1)                  176,773            882          1.98       161,874          1,007          2.47
Tax-exempt investment securities (1) (2)            35,670            410          4.56        32,275            408          5.02
Other interest-earning assets                          658             11          6.63           883             12          5.84
Total interest-earning assets                      658,823          7,265          4.37       659,870          8,162          4.91

Non-interest-earning assets:
Allowance for loan losses                          (12,351 )                                  (11,630 )
Other assets                                        55,923                                     58,265
Total assets                                     $ 702,395                                  $ 706,505


Liabilities and Stockholders' Equity

Interest-bearing liabilities:
Interest-bearing demand deposits                 $ 243,105     $      236          0.39 %   $ 249,030     $      426          0.68 %
Savings deposits                                    64,532             23          0.14        53,283             35          0.26
Time deposits                                      161,551            543          1.33       171,842            744          1.72
Repurchase agreements                               13,885            179          5.11        15,257            186          4.81
FHLB-NY borrowing                                   25,096            151          2.39        33,000            214          2.57
Subordinated debenture                               7,217            127          6.98         7,217            127          6.98
Total interest-bearing liabilities                 515,386          1,259          0.97       529,629          1,732          1.30
Non-interest-bearing liabilities:
Demand deposits                                    125,443                                    115,313
Other liabilities                                    3,105                                      5,252
Stockholders' equity                                58,461                                     56,311
Total liabilities and stockholders' equity       $ 702,395                                  $ 706,505

Net interest income (taxable equivalent basis)                      6,006                                      6,430
Tax Equivalent adjustment                                            (145 )                                     (144 )
Net interest income                                            $    5,861                                 $    6,286

Net interest spread (taxable equivalent basis)                                     3.40 %                                     3.61 %

Net yield on interest-earning
 assets (taxable equivalent basis) (3)                                             3.62 %                                     3.87 %

(1) For purpose of these calculations, nonaccruing loans are included in the average balance. Loans and total interest-earning assets are net of unearned income. Securities are included at amortized cost.

(2) The tax equivalent adjustments are based on a marginal tax rate of 34%.

(3) Net interest income (taxable equivalent basis) divided by average interest-earning assets.

Index

                 Analysis of Net Interest Income (Unaudited)

                   For the Nine Months Ended September 30,



                                                                 2012                                      2011
                                                                              Average                                   Average
                                                               Interest        Rates                     Interest        Rates
                                                  Average       Income/       Earned/       Average       Income/       Earned/
                                                  Balance       Expense        Paid         Balance       Expense        Paid
                                                        (Dollars in thousands)                    (Dollars in thousands)

Assets

Interest-earning assets:
Loans (1) (2)                                    $ 452,664     $  18,328          5.39 %   $ 461,718     $  19,863          5.75 %
Taxable investment securities (1)                  176,088         2,816          2.13       159,074         3,152          2.65
Tax-exempt investment securities (1) (2)            34,030         1,210          4.74        31,732         1,209          5.09
Other interest-earning assets                          998            28          3.87           782            29          4.96
Total interest-earning assets                      663,780        22,382          4.49       653,306        24,253          4.96

Non-interest-earning assets:
Allowance for loan losses                          (12,574 )                                 (10,237 )
Other assets                                        54,286                                    53,696
Total assets                                     $ 705,492                                 $ 696,765


Liabilities and Stockholders' Equity

Interest-bearing liabilities:
Interest-bearing demand deposits                 $ 248,095     $     847          0.45 %   $ 248,906     $   1,385          0.74 %
Savings deposits                                    61,674            84          0.18        51,323           100          0.26
Time deposits                                      163,954         1,748          1.42       173,549         2,289          1.76
Repurchase agreements                               14,188           543          5.10        15,445           551          4.76
FHLB-NY borrowing                                   27,428           480          2.33        33,748           668          2.65
Subordinated debenture                               7,217           379          7.00         7,217           377          6.98
Total interest-bearing liabilities                 522,556         4,081          1.04       530,188         5,370          1.35
Non-interest-bearing liabilities:
Demand deposits                                    121,320                                   108,850
Other liabilities                                    3,027                                     3,634
Stockholders' equity                                58,589                                    54,093
Total liabilities and stockholders' equity       $ 705,492                                 $ 696,765

Net interest income (taxable equivalent basis)                    18,301                                    18,883
Tax Equivalent adjustment                                           (429 )                                    (427 )
Net interest income                                            $  17,872                                 $  18,456

Net interest spread (taxable equivalent basis)                                    3.45 %                                    3.61 %

Net yield on interest-earning
 assets (taxable equivalent basis) (3)                                            3.67 %                                    3.86 %

(1) For purpose of these calculations, nonaccruing loans are included in the average balance. Loans and total interest-earning assets are net of unearned income. Securities are included at amortized cost.

(2) The tax equivalent adjustments are based on a marginal tax rate of 34%.

(3) Net interest income (taxable equivalent basis) divided by average interest-earning assets.

Index

For the three months ended September 30, 2012, total interest income, on a tax equivalent basis, decreased $897,000 to $7.3 million, or 11.0%, when compared to the same prior year period. The decrease was due to a decrease in yields on interest-earning assets. Total interest income on a tax equivalent basis decreased $1.9 million to $22.4 million for the nine months ended September 30, 2012, or 7.7%, compared to the same period for 2011. The decrease in the current nine month period is due to a decrease in the overall yield on interest-earning assets, partially offset by an increase in the average interest-earning assets. The average rate earned on interest-earning assets was 4.37% and 4.49% for the three and nine months ended September 30, 2012, respectively, compared to an average rate of 4.91 and 4.96% for the three and nine months ended September 30, 2011, respectively. The decline in the asset yield reflects the effect of a prolonged low interest rate environment as well as the impact of nonaccrual loans. Average interest-earning assets decreased $1.0 million but increased $10.5 million for the three and nine months ended September 30, 2012, respectively, compared to the same prior year periods. When compared to the prior year period, the change in average interest-earning assets for the nine months ended September 30, 2012 reflects an increase in average investment securities of $19.3 million partially offset by a decrease of $9.1 million in average loans.

Interest paid on deposits and borrowed money decreased $473,000 and $1.3 million for the three and nine months ended September 30, 2012, respectively, compared to the same periods for 2011. The decline is due to general decreases in rates paid on deposits and borrowings coupled with decreases in average interest-bearing liabilities. For the three months ended September 30, 2012, the total cost for interest-bearing liabilities declined to 0.97% representing a 33 basis point decline when compared to the same prior year period. The cost for deposits and borrowed money decreased 31 basis points from 1.35% for the nine month period ended September 30, 2011 to 1.04% for the comparable period in 2012. The average balance of total interest-bearing deposits and borrowings decreased $14.2 million and $7.6 million for the three months and nine months ended September 30, 2012, respectively, from the comparable 2011 periods.

Provision for Loan Losses

The Corporation maintains an allowance for loan losses at a level considered by management to be adequate to cover the probable incurred losses associated with its loan portfolio. On an ongoing basis, management analyzes the adequacy of this allowance by considering the nature and volume of the Corporation's loan activity, financial condition of the borrower, fair market value of the underlying collateral, and changes in general market conditions. Additions to the allowance for loan losses are charged to operations in the appropriate period. Actual loan losses, net of recoveries, serve to reduce the allowance. The appropriate level of the allowance for loan losses is based on estimates, and ultimate losses may vary from current estimates.

The loan loss provision totaled $2.000 million and $6.665 million for the three and nine months ended September 30, 2012, respectively, compared to $2.330 million and $5.920 million for the three and nine months ended September 30, 2011, respectively. Nonaccrual loans of $25.0 million at September 30, 2012 reflected a decrease from $27.7 million of nonaccrual loans at December 31, 2011. The allowance for loan losses related to the impaired loans increased from $3.1 million at December 31, 2011 to $3.6 million at September 30, 2012. During the first nine months of 2012, the Corporation charged off $5.9 million of loan balances and recovered $224,000 in previously charged off loans compared to $2.1 million and $33,000, respectively, during the same period in 2011.

The current period loan loss provision primarily is indicative of continuing economic conditions that have contributed to an increase in loan delinquencies and the softness in the real estate market. The Corporation monitors its loan portfolio and intends to continue to provide for loan loss reserves based on its ongoing periodic review of the loan portfolio and general market conditions.

See "Asset Quality" section below for a summary of the allowance for loan losses and nonperforming assets.

Index

Noninterest Income

Noninterest income was $1.7 million and $4.2 million for the three and nine months ended September 30, 2012, respectively, compared to $1.4 million and $3.4 million for the comparable prior year periods, respectively. The increase is primarily due to higher gains on calls and sales of securities for the current year periods. Current year noninterest income includes gains on calls and sales of securities of $891,000 and $1.3 million for the three and nine months ended September 30, 2012, respectively, greater than those realized for the three and nine months ended September 30, 2011 of $454,000 and $475,000, respectively. The gain for the three months ended September reflects a transaction executed to lower the Company's risk exposure to rising interest rates and delever the balance sheet through the partial repayment of a higher costing wholesale repurchase agreement. A resulting gain was partially offset by a prepayment penalty discussed below.

Noninterest Expense

Noninterest expenses for the three and nine months ended September 30, 2012 was $5.2 million and $14.4 million, respectively, compared to $4.6 million and $13.8 million in the comparable prior year periods. Included in noninterest expense for the current year periods is $691,000 related to a prepayment premium resulting from the repayment of $7 million of a wholesale repurchase agreement.

Income Tax Expense

Income tax expense totaled $46,000 and $193,000 for the three and nine months ended September 30, 2012, respectively, compared to $113,000 and $432,000 for the same prior year periods. The effective tax rate for the three and nine months ended September 30, 2012 of 12.3% and 19.8%, respectively, reflects a decrease in our overall projected effective tax rate as a result of our tax exempt income representing a larger percentage of pretax income due to lower projected earnings. Likewise, the effective tax rate for the three and nine months ended September 30, 2011 was 16.4% and 20.87%, respectively.

Asset Quality

The Corporation's principal earning asset is its loan portfolio. Inherent in the lending function is the risk of deterioration in the borrowers' ability to repay loans under existing loan agreements. To address this risk, reserves are maintained to absorb probable incurred loan losses. In determining the adequacy of the allowance for loan losses, management of the Corporation considers the risks inherent in its loan portfolio and changes in the nature and volume of its loan activities, along with general economic and real estate market conditions. Although management attempts to establish a reserve sufficient to offset probable incurred losses in the portfolio, changes in economic conditions, regulatory policies and borrowers' performance could require future changes to the allowance.

Risk elements include nonaccrual loans, past due and restructured loans, potential problem loans, loan concentrations and other real estate owned. The following table shows the composition of nonperforming assets at the end of the last four quarters:

Index

                                                   September 30,      June 30,       March 31,       December 31,
                                                       2012             2012           2012              2011
                                                                       (Dollars in thousands)

Nonaccrual loans (1)                              $        24,960     $  29,541     $    26,823     $       27,736
Loans past due 90 days or more and accruing (2)                75           200               -                  -
Total nonperforming loans                                  25,035        29,741          26,823             27,736

Other real estate owned                                     2,985         1,991           3,840              5,288
Total nonperforming assets                        $        28,020     $  31,732     $    30,663     $       33,024

Performing restructured loans (3)                 $         7,176     $   3,716     $     5,847     $        5,979

Allowance for loan losses                         $        12,598     $  11,934     $    13,097     $       11,604

Nonperforming loans to total gross loans                     5.72 %        6.68 %          5.91 %             6.08 %
Nonperforming assets to total assets                         4.10 %        4.53 %          4.31 %             4.66 %
Allowance for loan losses to total gross loans               2.88 %        2.68 %          2.89 %             2.54 %
Allowance for loan losses to
nonperforming loans                                         50.32 %       40.13 %         48.83 %            41.84 %

(1) Generally represents loans as to which the payment of principal or interest is in arrears for a period of more than 90 days. Interest previously accrued on these loans and not yet paid is reversed and charged against income during the current period. Interest earned thereafter is only included in income to the extent that it is received in cash.

(2) Represents loans as to which payment of principal or interest is contractually past due 90 days or more but which are currently accruing income at the contractually stated rates. A determination is made to continue accruing income on those loans which are sufficiently collateralized and on which management believes all interest and principal owed will be collected.

(3) Any restructured loans that are on nonaccrual status are only reported in nonaccrual loans and not reflected in restructured loans.

A loan is generally placed on nonaccrual when, based on current information and events, it is probable that the Corporation will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. The identification of nonaccrual loans . . .

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