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FCLF > SEC Filings for FCLF > Form 10-Q on 14-Nov-2012All Recent SEC Filings

Show all filings for FIRST CLOVER LEAF FINANCIAL CORP. | Request a Trial to NEW EDGAR Online Pro

Form 10-Q for FIRST CLOVER LEAF FINANCIAL CORP.


14-Nov-2012

Quarterly Report

Management's Discussion and Analysis of Financial Condition and Results of Operations

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

Forward-Looking Statements

When used in this Form 10-Q, the words or phrases "will likely result," "are expected to," "will continue," "is anticipated," "estimate," "project" or similar expressions are intended to identify "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. Such statements are subject to certain risks and uncertainties including, but not limited to changes in general economic conditions, either nationally or in our market areas, that are worse than expected; 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; adverse changes in the securities markets; changes in laws or government regulations or policies affecting financial institutions, including changes in regulatory fees, capital requirements and allowance for loan losses requirements; our ability to enter new markets successfully and capitalize on growth opportunities; our ability to successfully integrate acquired entities, 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, the Financial Accounting Standards Board, the Securities and Exchange Commission and the Public Company Accounting Oversight Board; changes in our organization, compensation and benefit plans; changes in our financial condition or results of operations that reduce capital available to pay dividends; and changes in the financial condition or future prospects of issuers of securities that we own, that could cause actual results to differ materially from historical earnings and those presently anticipated or projected. The Company wishes to caution you not to place undue reliance on any such forward-looking statements, which only speak as of the date made. The Company wishes to advise you that the factors listed above could affect the Company's financial performance and could cause the Company's actual results for future periods to differ materially from any opinions or statements expressed with respect to future periods in any current statements.

The Company does not undertake, and specifically disclaims any obligation, to publicly release the result of any revisions which may be made to any forward-looking statements to reflect events or circumstances after the date of such statements or to reflect the occurrence of anticipated or unanticipated events.

Critical Accounting Policies

We consider accounting policies involving significant judgments and assumptions by management that have, or could have, a material impact on the carrying value of certain assets or on income to be critical accounting policies. Management makes significant estimates and has identified the allowance for loan losses and goodwill and other intangible assets as critical accounting policies due to the higher degree of judgment and complexity than its other significant accounting estimates.

Allowance for loan losses. The allowance for loan losses is a valuation account that reflects our evaluation of the probable incurred credit losses inherent in our loan portfolio. We maintain the allowance through provisions for loan losses that we charge to income. We charge losses on loans against the allowance for loan losses when we believe the collection of loan principal is unlikely. Subsequent recoveries, if any, are credited to the allowance.

Our evaluation of risk in maintaining the allowance for loan losses includes the review of all loans on which the collectibility of principal may not be reasonably assured. We consider the following factors as part of this evaluation: our historical loan loss experience, the nature and volume of the loan portfolio, adverse situations that may affect the borrower's ability to repay, estimated value of any underlying collateral, and prevailing economic conditions. Management evaluates the total balance of the allowance for loan losses based on several factors that are not loan specific but are reflective of the probable incurred losses in the loan portfolio, including management's periodic review of loan collectibility in light of historical experience, the nature and volume of the loan portfolio, prevailing economic conditions such as housing trends, inflation rates and unemployment rates, and geographic concentrations of loans within First Clover Leaf Bank's immediate market area.


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There may be other factors that may warrant our consideration in maintaining an allowance at a level sufficient to provide for probable incurred losses. This evaluation is inherently subjective as it requires estimates that are susceptible to significant revision as more information becomes available or as future events change.

In addition, the Office of the Comptroller of the Currency ("OCC"), as an integral part of its examination process, periodically reviews our loan portfolio and the related allowance for loan losses. The OCC may require us to increase the allowance for loan losses based on its judgments of information available to it at the time of its examination, thereby adversely affecting our results of operations.

Goodwill and Other Intangible Assets. Historically, First Clover Leaf has grown through acquisitions accounted for under the purchase method of accounting in effect at the time of the acquisitions. Under the purchase method, First Clover Leaf was required to allocate the cost of an acquired company to the assets acquired, including identified intangible assets, and liabilities assumed based on their estimated fair values at the date of acquisition. The excess cost over the net assets acquired represents goodwill, which is not subject to periodic amortization.

Customer relationship intangibles are required to be amortized over their estimated useful lives. The method of amortization reflects the pattern in which the economic benefits of these intangible assets are estimated to be consumed or otherwise used up. Our customer relationship intangibles are being amortized over 7.6 and 9.7 years using the double declining balance method. Since First Clover Leaf's acquired customer relationships are subject to routine customer attrition, the relationships are more likely to produce greater benefits in the near-term than in the long-term, which typically supports the use of an accelerated method of amortization for the related intangible assets. Management is required to evaluate the useful life of customer relationship intangibles to determine if events or circumstances warrant a change in the estimated life. Should management determine that the estimated life of any intangible asset is shorter than originally estimated, First Clover Leaf would adjust the amortization of that asset, which could increase future amortization expense.

Goodwill arising from business combinations represents the value attributable to unidentifiable intangible elements in the business acquired. Goodwill recorded by First Clover Leaf in connection with its acquisitions relates to the inherent value in the businesses acquired, and this value is dependent upon First Clover Leaf's ability to provide quality, cost effective services in a competitive market place. The continued value of recorded goodwill is impacted by the value of our stock and continued profitability of the organization. In the event that the stock price experiences significant declines or the operations of the company lack profitability, an impairment of goodwill may need to be recognized. Any impairment recognized would adversely impact earnings in the period in which it is recognized.

First Clover Leaf utilizes a two step valuation approach to test for goodwill impairment under the guidance of ASU 2011-08, Topic 350. This guidance also allows for a qualitative assessment of the reporting unit. A qualitative assessment may be performed if in the prior period two-step impairment test the fair value was greater than the carrying value by a substantial margin. If in the prior period two-step test goodwill was impaired or fair value was not greater than the carrying amount by a substantial margin, First Clover Leaf would go straight to the two-step impairment test. In step one, we estimate the fair value of our single reporting unit as of the measurement date utilizing two valuation methodologies including the comparable transactions approach, and the control premium approach which utilizes the Company's stock price. We then compare the estimated fair value of the reporting unit to the current carrying value of the reporting unit to determine if goodwill impairment had occurred as of the measurement date. During 2012, at our annual impairment assessment date of September 30, our analysis indicated that no impairment existed. Future events, such as adverse changes to First Clover Leaf's business or changes in the economic market, could cause management to conclude that impairment indicators exist and require management to re-evaluate goodwill. Should such re-evaluation determine goodwill is impaired; the resulting impairment loss recognized could have a material, adverse impact on First Clover Leaf's financial condition and results of operations. In accordance with current accounting guidance, management has determined that the Company has only one reporting unit for purposes of evaluating goodwill. See Item 1, Note 4 for additional information on goodwill impairment.


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Overview

First Clover Leaf had net income of $1.3 million for the three months ended September 30, 2012 compared to net income of $854,000 for the same period in 2011. The increase was primarily due to a reduction in provision for loan losses and an increase in gain on sale of loans offset by a reduction in gain on sale of securities and increases in non-interest expense and taxes. Basic and diluted earnings per share was $0.17 for the three-month period ended September 30, 2012 and $0.11 for the comparable period in 2011.

Net income for the nine months ended September 30, 2012 was $3.0 million compared to $2.8 million for the same period in 2011. The increase was primarily due to an increase in gain on sale of loans and a reduction in provision for loan losses offset by an increase in non-interest expenses and a reduction in gain on sale of securities. Basic and diluted earnings per share was $0.39 for the nine months ended September 30, 2012 and $0.36 for the same period in 2011.

Financial Condition

Total Assets. Total assets decreased to $552.2 million at September 30, 2012 from $562.7 million at December 31, 2011. Total cash and cash equivalents decreased $596,000 to $38.8 million at September 30, 2012 from $39.4 million at December 31, 2011.

Securities available for sale decreased to $78.9 million at September 30, 2012 from $85.6 million at December 31, 2011. The decrease was due primarily to calls, maturities and pay-downs of $37.9 million and sales of $4.3 million partially offset by purchases of $34.6 million.

Federal Home Loan Bank stock decreased to $3.1 million at September 30, 2012 from $6.3 million at December 31, 2011. Prior to the first quarter of 2012 the Federal Home Loan Bank of Chicago was prohibited from redeeming excess voluntary stock. However, it has since started a program to redeem the stock in increments. The Company elected to have $3.2 million of excess voluntary stock redeemed during the nine months ended September 30, 2012. The Company is currently required to hold $2.0 million in Federal Home Loan Bank of Chicago stock in order to be a member bank. This amount is based annually on the greater of 1% of mortgage-related assets or 5% of outstanding Federal Home Loan Bank of Chicago advances.

Net loans remained at $387.6 million as of September 30, 2012 and December 31, 2011. This was primarily due to new loan originations exceeding loan paydowns and maturities by $3.4 million offset by $2.5 million in loan transfers to other real estate and provision expense of $1.2 million.

Foreclosed assets increased to $6.5 million at September 30, 2012 from $5.8 million at December 31, 2011. During the three months ended September 30, 2012, we transferred two loans totaling $316,000 into foreclosed assets and incurred a write-off of $40,000. We transferred seven loans into foreclosed assets during the nine months ended September 30, 2012. During the same time period we incurred write-offs of $370,000 and received proceeds of $1.3 million from the sale of 10 properties that had been classified as foreclosed assets.

Total Liabilities. Total liabilities decreased to $473.4 million at September 30, 2012 from $485.0 million at December 31, 2011. Deposits increased to $420.3 million at September 30, 2012 from $414.8 million at December 31, 2011. Non-interest bearing deposits increased $10.3 million to $49.5 million at September 30, 2012 from $39.3 million at December 31, 2011 due to normal fluctuations in business deposit accounts. Interest bearing deposits decreased $4.7 million, totaling $370.8 million at September 30, 2012 compared to $375.5 million at December 31, 2011. This decrease was primarily due to a decrease of $7.6 million in brokered deposits as we were able to reduce our reliance on higher rate deposits due to reduced loan demand. Securities sold under agreements to repurchase decreased $17.3 million to $19.6 million at September 30, 2012 from $36.9 million at December 31, 2011. This decrease was due primarily


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to normal fluctuations in one customer's account. Due to the nature of this customer's business, large fluctuations in its accounts are a normal occurrence.

Stockholders' Equity. Stockholders' equity increased to $78.8 million at September 30, 2012 from $77.7 million at December 31, 2011, principally as a result of $3.0 million in net income partially offset by the payment of cash dividends of $1.4 million and repurchases of common stock of $761,000 during the nine months ended September 30, 2012.

Asset Quality



The following tables set forth information with respect to the Company's
non-performing and impaired loans at the dates indicated:



                                                     September 30,    December 31,
                                                         2012             2011

Loans 90 days or more past due and still accruing   $        26,817   $     404,984
Non-accrual loans(1)                                     10,968,641      11,166,843
Other impaired loans                                        107,772       8,017,158
Total non-performing loans                               11,103,230      19,588,985
Foreclosed assets                                         6,471,334       5,822,864
Total non-performing assets                         $    17,574,564   $  25,411,849



(1) Non-accrual loans includes $10,734,985 and $11,166,843 classified as impaired as of September 30, 2012 and December 31, 2011, respectively.

                                                    September 30,   December 31,
                                                        2012            2011
Non-performing assets to total assets                        3.18 %         4.52 %
Non-performing loans to total loans                          2.86           5.05
Allowance for loan losses to non-performing loans           51.06          39.76
Allowance for loan losses to total loans                     1.46           2.01

Non-Performing, Impaired Loans and Non-Performing Assets. As of September 30, 2012, our total non-performing and impaired loans and non-performing assets were $17.6 million compared to $25.4 million at December 31, 2011.

At September 30, 2012, the Company's non-accrual loans decreased $200,000 to $11.0 million from $11.2 million at December 31, 2011. At September 30, 2012, First Clover Leaf Bank had five relationships classified as non-accrual with balances in excess of $1.0 million. The largest non-accrual relationship is a $2.8 million credit to a real estate investor. This credit was placed in non-accrual status during the three months ended June 30, 2012. The investor is experiencing cash flow difficulties due to higher vacancy rates and the need for property repairs. A $600,000 payment was received on this loan during the third quarter of 2012. A property manager is overseeing the daily operations, and all non-rented properties have been listed for sale. We believe the collateral on this loan is sufficient to cover the majority of the outstanding balance and that sufficient allowances have been set aside for the remaining outstanding balance. The second relationship is a $1.7 million commercial credit secured by a retail strip center. The investor was experiencing cash flow difficulties due to high vacancy rates as the center recently experienced a great deal of tenant turnover. The building is currently fully leased. A restructuring of the loan was completed during the third quarter, and the borrowers are paying as agreed.


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The loan will be considered for upgrade after an acceptable period of payment performance in accordance with our loan policy. A deficiency note was signed for the remaining balance. The third credit is a $1.1 million credit secured by a subdivision development. The credit was placed on non-accrual status during the three-months ended September 30, 2012. The development was experiencing very limited lot sales, and the cash flow was not sufficient to cover the principal and interest payments. The Company is working with the developer on a plan to increase lot sales. Currently the collateral is sufficient to cover the outstanding loan balance. The fourth credit is a $1.0 million credit to a real estate investor. The collateral for this credit is primarily a mobile home park along with several small commercial buildings. Currently the mobile home park is struggling with vacancies and cash flow is limited. The Company has recently restructured this loan into a two-note structure with the requirement that all rents from the mobile home park are deposited directly into an account at the Company. The two commercial buildings making up the remainder of the collateral are currently listed for sale. The fifth credit is a $1.0 million development credit for a subdivision with excess inventory that is selling slowly due to the economic slowdown. A charge-off of $843,000 of specific reserves was recorded on this relationship during the first quarter of 2012. A $630,000 pay-down was received during the third quarter of 2012 from the sale of excess acreage associated with this project. The borrower recently signed a forbearance agreement on this credit. Currently the collateral is sufficient to cover the outstanding loan balance.

In addition to the non-accrual loans in the previous paragraph, we have loans that are still accruing interest that we categorize as impaired due to observed credit deterioration that we believe in the future may impact our ability to collect all principal and interest according to the current contractual terms. We have elected to downgrade these loans to impaired status and will individually evaluate them for our allowance for loan losses. At September 30, 2012, our total other impaired loans amounted to $108,000 compared to $8.0 million at December 31, 2011. The decrease in other impaired loans is primarily due to $4.5 million in credits moving to non-accrual status and $2.5 million in credits with an improved status which are no longer considered impaired. The credit in excess of $500,000 with the pending contract at the quarter ended June 30, 2012, sold during the third quarter of 2012. There are no credits in this category with an outstanding balance greater than $500,000.

Overall, total non-performing loans have decreased since December 31, 2011. The largest changes have occurred in the construction and land portfolio. As of September 30, 2012 the total of substandard and doubtful loans in the construction and land portfolio was $10.0 million, or 28% of the portfolio. As of December 31, 2011 the total of substandard and doubtful loans in the construction and land portfolio was $17.3 million or 39% of the portfolio. The decrease in substandard loans was due in-part to sales of $1.5 million, charge-offs of $3.4 million and $1.8 million in credits moving to foreclosed property.

Another event impacting the construction and land portfolio at September 30, 2012 was the downgrade of a $6.3 million credit to special mention from being categorized as a pass credit at December 31, 2011. This credit is categorized as special mention while it is being restructured to include additional collateral. The Company expects the credit to return to pass status before year end. The overall total of the construction and land portfolio has declined to $35.9 million at September 30, 2012, compared to $44.2 million at December 31, 2011 as a result of the above mentioned sales, charge-offs and increases to foreclosed property. In addition, the related provision expense for the construction and land portfolio has also decreased for the above mentioned reasons.

Another portfolio with a decrease in provision expense for the three and nine months ended September 30, 2012 is the multi-family portfolio. The reduced expense is primarily due to an overall decline in the portfolio balance as well as a decline in the loss factor applied to this portfolio.

The allowance for loan losses to non-performing loans increased to 51.06% at September 30, 2012 compared to 39.76% at December 31, 2011. The increase in this ratio is primarily the result of a decline of $8.5 million of non-performing loans to $11.1 million at September 30, 2012 compared to $19.6 million at December 31, 2011. The allowance for loan losses to total loans decreased to 1.46% at


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September 30, 2012 compared to 2.01% at December 31, 2011. The primary reason for the decline in this percentage was a directive by the Office of the Comptroller of the Currency which required all specific valuation allowances on collateral-dependent loans (valuation allowances established when the recorded investment in an impaired loan exceeded the measured value of the collateral) maintained by savings institutions to be charged-off by March 31, 2012. The Company adopted this methodology effective for the quarter ended March 31, 2012. As a result, reported loan charge-offs of $2.7 million for the quarter ended March 31, 2012 were impacted by the charge-off of specific valuation allowances of $2.4 million on these collateral-dependent loans. This one time charge-off has decreased the amount of our specific reserves which totaled $723,000 at September 30, 2012, compared to $3.1 million at December 31, 2011. The general allocation was not materially impacted by the charge-offs and totaled $4.9 million at September 30, 2012 compared to $4.7 million at December 31, 2011. These charge-offs resulted in the decline in the allowance for loan losses to total loans at September 30, 2012.

At September 30, 2012, First Clover Leaf Bank had 15 properties classified as foreclosed assets with a value of $6.5 million. The collateral on these properties consisted of a commercial mobile-home site, a commercial development site, farmland, three residential lot developments, and nine single-family residences. All of these properties were transferred into foreclosed assets at the property's fair value, less estimated costs of disposal, at the date of foreclosure.

Results of Operations

General. Net income increased to $1.3 million for the three months ended September 30, 2012 from $854,000 for the same period in 2011. Net income for the nine months ended September 30, 2012 was $3.0 million compared to $2.8 million for the same period in 2011. The increase was primarily due to an increase in gain on sale of loans and a reduction in provision for loan losses offset by an increase in non-interest expenses and a reduction in gain on sale of securities. Basic and diluted earnings per share was $0.39 for the nine months ended September 30, 2012 and $0.36 for the same period in 2011.

The overall net interest rate spread and net interest margin increased to 3.26% from 3.06% and to 3.44% from 3.27%, respectively for the nine months ended September 30, 2012 compared to the same period in 2011. Yields on loans and securities continued to decline for the nine months ended September 30, 2012 compared to the same period in 2011. The increase in the interest rate spread was attributable to the cost of funds declining faster than the yield on interest-earning assets. However, our ability to lower rates paid on deposits is limited due to the already low deposit rates and the competitive environment in which we operate. In addition, a significant number of our interest-bearing deposits are time deposits, which are fixed-rate contracts until maturity that do not allow for immediate re-pricing as rates fluctuate.

Net interest income. Net interest income remained at $4.3 million for the three months ended September 30, 2012 and 2011. Net interest income increased to $13.0 million for the nine months ended September 30, 2012 from $12.9 million for the same period last year. Net average interest-earning assets, which represent our average total interest-earning assets less our average total interest-bearing liabilities, were $81.0 million for the nine months ended September 30, 2012, compared to $72.2 million for the same period in 2011. The ratio of interest-earning assets to interest-bearing liabilities increased to 119.12% for the nine months ended September 30, 2012 from 115.87% for the same period in 2011. The net interest rate spread increased to 3.26% for the nine months ended September 30, 2012, compared to 3.06% for the comparable period in 2011. The average rate earned on interest-earning assets decreased by 19 basis points for the nine months ended September 30, 2012 to 4.35% from 4.54% for the same period in 2011, while the average rate paid on interest-bearing liabilities decreased by 39 basis points during these periods to 1.09% from 1.48%.


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The following tables set forth the average balance sheets, average yields and cost of funds, and certain other information for the periods indicated. No tax-equivalent yield adjustments were made, as the effect thereof was not material. All average balances are daily average balances. Non-accrual loans were included in the computation of average balances, but have been reflected in the table as loans carrying a zero yield. The yields set forth below include the effect of deferred loan fees, discounts and premiums that are amortized or accreted to interest income or expense. Yields and rates have been annualized.

                                      Three Months Ended September 30,              Three Months Ended September 30,
                                                    2012                                          2011
                                    Average                                       Average
. . .
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