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

Show all filings for OHIO LEGACY CORP

Form 10-Q for OHIO LEGACY CORP


14-Nov-2012

Quarterly Report


Item 2. Management's Discussion and Analysis.

In the following section, management presents an analysis of Ohio Legacy Corp's financial condition as of September 30, 2012, and results of operations as of and for the three months and nine months ended September 30, 2012 and 2011. This discussion is provided to give shareholders a more comprehensive review of the issues facing management than could be obtained from an examination of the financial statements alone. This analysis should be read in conjunction with the consolidated financial statements and the accompanying notes included in this Form 10-Q and the Company's annual report on Form 10-K for the year ended December 31, 2011.

CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS

This Form 10-Q, including Management's Discussion and Analysis of Financial Condition and Results of Operations, includes "forward-looking statements" within the meaning of Section 27A of the Securities Act and Section 21E of the Exchange Act which can be identified by the use of forward-looking terminology, such as "may", "might", "could", "would", "believe", "expect", "intend", "plan", "seek", "anticipate", "estimate", "project" or "continue" or the negative version of such terms or comparable terminology. All statements other than statements of historical fact included in this Form 10-Q, including statements regarding our outlook, financial position, results of operation, liquidity, capital resources and interest rate sensitivity are forward-looking statements.

The Private Securities Litigation Reform Act provides a "safe harbor" for forward-looking statements to encourage companies to provide prospective information so long as those statements are identified as forward-looking and are accompanied by meaningful cautionary statements identifying important factors that could cause actual results to differ materially from those discussed in the forward-looking statements. We desire to take advantage of the "safe harbor" provisions of that Act.

Forward-looking statements speak only as of the date on which they are made and, except as may be required by law, we undertake no obligation to update any forward-looking statement to reflect events or circumstances occurring after the date on which the statement is made.

Forward-looking statements involve known and unknown risks, uncertainties and other factors which may cause our actual results to be materially different from any future results expressed or implied by such forward-looking statements. Although we believe the assumptions, judgments and expectations reflected in such forward-looking statements are reasonable, we can give no assurance such assumptions, judgments and expectations will prove to have been correct. Important factors that could cause actual results to differ materially from those in the forward-looking statements included in this Form 10-Q include, but are not limited to:

competition in the industry and markets in which we operate;

rapid changes in technology affecting the financial services industry;

changes in government regulation;

general economic and business conditions;

changes in industry conditions created by state and federal legislation and regulations;

changes in general interest rates and the impact of future interest rate changes on our profitability, capital adequacy and the fair value of our financial assets and liabilities;

our ability to retain existing customers and attract new customers;

our development of new products and services and their success in the marketplace;

our ability to seek additional capital in the future;

the adequacy of our allowance for loan losses; and

our anticipated loan and deposit account growth, expense levels, liquidity and capital resources and projections of earnings.

OVERVIEW OF STRATEGIC DEVELOPMENTS

The Company's management has focused on a number of initiatives including the following:

Evaluate the markets where the Company's branch network operates to determine whether the operating costs and demographics fit with the Bank's business plan. As a result, the following events occurred:

o A full service branch office was opened in February 2012 in St. Clairsville, Ohio expanding services offered to current and prospective clients at this Belmont County location. The branch office is located in the same plaza as the Bank's Wealth office.

o Deposits totaling $74.3 million and net loans totaling $9.1 million, including criticized loans of $2.3 million, for two branch offices located in Wayne County, Ohio, were sold in October 2011.

Develop fee-based revenue through the wealth management business started by the Bank in April 2010.

o Assets under management by the trust department totaled $118 million at September 30, 2012 and $105 million at year-end 2011.

Evaluate the core processing system to reduce costs while expanding product offerings to remain competitive through advances in technology.

o The Bank completed a core processing system conversion in April 2012. The second phase of product implementation is underway including imaging, customer relationship management software and other back-office initiatives.

Deliver efficient and premier service and products for current and prospective clients and develop a sales culture throughout the Company.

In October 2011, Premier Bank & Trust completed the sale of two branch offices located in Wooster, Ohio, to The Commercial and Savings Bank of Millersburg, Ohio ("CSB"), a wholly owned subsidiary of CSB Bancorp, Inc., under an agreement (the "Agreement") entered into during June 2011. Under the terms of the Agreement, CSB purchased approximately $9 million in loans, net of an allocation of the Allowance for Loan and Lease Losses totaling $600,000, real estate, fixtures and equipment associated with the branch locations, and deposits and other liabilities of $75 million. CSB paid a premium of $3.5 million, or 5% of the average amount of assumed deposits during the ten day period prior to and the day of closing less a fixed stated amount of $166,000. In addition to the loans, real estate, and fixed assets sold to CSB, the transaction was funded with approximately $42 million in cash and $19 million in borrowings from the Federal Home Loan Bank. This transaction positions the Company to focus on our core market of Stark and Belmont Counties in Ohio, and provides future expansion potential. The impact of the branch sale is evident when comparing the results for the reported periods of 2012 with to the same period of 2011 particularly for deposit related noninterest income and overhead expenses.

The following key factors summarize the Company's financial condition at September 30, 2012 compared to December 31, 2011:

Total assets increased $25.0 million to $171.6 million from $146.6 million.

Net loans increased $26.7 million to $135.0 million, and loans held for sale increased $9.5 million to $10.4 million.

Total deposits increased $13.3 million to $117.2 million.

Excess liquidity, higher deposit balances, and short-term borrowings from the Federal Home Loan Bank funded loan growth resulting in a $13.4 million reduction to cash and cash equivalents to $6.6 million compared to $20.0 million at year-end.

Total shareholders' equity increased $56,000 to $18.6 million. The increase in capital was the result of stock-based compensation expense of $148,000 which was partially offset by an operating loss of $45,000 for the nine months ended September 30, 2012 and other comprehensive loss of $47,000.

The following key factors summarize our results of operations for the three months ended September 30, 2012:

The Company recorded net income of $137,220 for the third quarter of 2012 compared to a loss of $280,069 for the same period in 2011.

Net interest income improved $256,579 for the third quarter of 2012 compared to the same period in 2011.

The loan loss provision for the third quarter of 2012 was $117,375 compared to a negative loan loss provision of $108,874 for the year-ago quarter. The Company has benefited from improvements to the historical loss rates used in its estimate of the allowance for loan loss during both periods. Net recoveries of approximately $312,000 for the third quarter of 2011 enabled the Company to record a negative loan loss provision during that period.

Noninterest income decreased $273,718 as gains on sales of securities declined by $270,016 and service charges and other deposit related fee income declined by $86,718 resulting from the sale deposits for two branch offices in October 2011.

Noninterest expense decreased by $531,731 principally due to the elimination of overhead associated with the sold branches and the absence of branch disposal expenses totaling $166,687 incurred during the year-ago quarter.

The following key factors summarize our results of operations for the nine months ended September 30, 2012:

The Company recorded a net loss of $44,715 for the first nine months of 2012 compared to a net loss of $987,580 for the same period of 2011.

Net interest income improved $397,372 for the period in 2012 compared to the same period in 2011.

The loan loss provision for 2012 was $109,818 compared to a negative loan loss provision of $135,069 for the year-ago quarter.

Noninterest income decreased $364,410 driven by a reduction in service charges and other deposit related fee income of approximately $270,000 from the sale of two branch offices in October 2011 and by a reduction in securities gains which were lower by $303,014 for the comparative periods. Trust and brokerage fee income increased $138,269.

Noninterest expense decreased by $1,170,167. The decline was partly driven by the elimination of overhead associated with the sold branches and lower expenses for professional fees, data processing, and loan expenses including other real estate owned costs.

The following forward-looking statements describe our near term outlook:

Margins may decline as interest earning assets continue to adjust to lower rates given the Federal Open Market Committee's expectation to maintain a highly accommodative stance for monetary policy to support a stronger economic recovery. The FOMC has maintained the target range for the federal funds rate at 0 to percent and currently anticipates that exceptionally low levels for the federal funds rate are likely to be warranted at least through mid-2015. The FOMC also has the ability to influence longer term interest rates through its open market operations.

It will be difficult to reduce our cost of funds significantly below current levels.

Commercial lending, with an emphasis on commercial and industrial lending, and new services in trust, brokerage and wealth management are expected to expand;

Credit quality will remain a primary focus of the Company, and costs associated with credit administration and collection efforts will remain high;

The Bank's costs associated with its regulatory risk profile including FDIC insurance and regulatory examination costs will remain elevated until asset quality and earnings improve.

CRITICAL ACCOUNTING POLICIES

The preparation of consolidated financial statements and related disclosures in accordance with U.S. generally accepted accounting principles requires us to make judgments, assumptions and estimates at a specific point in time that affect the amounts reported in the accompanying consolidated financial statements and related notes. In preparing these financial statements, we have utilized available information including our past history, industry standards and the current economic environment, among other factors, in forming our estimates and judgments of certain amounts included in the consolidated financial statements, giving due consideration to materiality. It is possible that the ultimate outcome as anticipated by management in formulating our estimates inherent in these financial statements may not materialize. Application of the critical accounting policies described below involves the exercise of judgment and the use of assumptions as to future uncertainties and, as a result, actual results could differ from these estimates. In addition, other companies may utilize different estimates, which may impact the comparability of our results of operation to similar businesses.

Allowance for loan losses. The allowance for loan losses is a valuation allowance for probable incurred credit losses, increased by the provision for loan losses and recoveries and decreased by charge-offs. We estimate the allowance balance by considering the nature and volume of the portfolio, information about specific borrower situations and estimated collateral values, economic conditions and other factors. Allocations of the allowance may be made for specific loans, but the entire allowance is available for any loan that, in our judgment, should be charged off. Loan losses are charged against the allowance when we believe the loan balance cannot be collected.

We consider various factors, including portfolio risk, economic environment and loan delinquencies, when determining the level of the provision for loan losses. We monitor loan quality monthly and engage an independent third party each quarter to help monitor and confirm our loan grading conclusions.

Valuation allowance for deferred tax assets. Another critical accounting policy relates to valuation of the deferred tax asset for net operating losses. Net operating loss carryforwards of approximately $7,246,000 will expire as follows:
$1,257,000 on December 31, 2027, $132,000 on December 31, 2028, $3,801,000 on December 31, 2029, and $2,056,000 on December 31, 2030. A valuation allowance has been recorded for the related deferred tax asset for these carryforwards and other net deferred tax assets recorded by the Company to reduce the carrying amount of these assets to zero. Additional information is included in Note 9 to the consolidated financial statements.

FINANCIAL CONDITION - September 30, 2012 compared to December 31, 2011

Assets. At September 30, 2012, total assets increased to $171.6 million, up $25.0 million from $146.6 million at December 31, 2011. The asset increase was principally due to an increase in funds provided by an increase in deposits of $13.3 million and a $12 million increase in short-term borrowings from the Federal Home Loan Bank.

Cash and Cash Equivalents. Cash and cash equivalents decreased to $6.6 million at September 30, 2012, down $13.4 million from year-end 2011. The decrease in cash and cash equivalents was due to an increase in lending activities.

Securities. Total securities available for sale had an estimated fair value of $12.3 million at September 30, 2012, compared to $10.7 million at year-end 2011. One security was sold during the nine months ended September 30, 2012 for a gain of $55,016. The net unrealized gain on the securities portfolio was $405,971 at September 30, 2012 compared to a net unrealized gain of $452,816 at December 31, 2011.

Loans Held for Sale. Loans held for sale increased to $10.4 million at September 30, 2012 compared to approximately $896,000 at year-end 2011. The increase was driven primarily by a mortgage purchase participation ("MPP") program whereby the Bank purchases a 50% interest in mortgage loans originated by brokers outside of the Bank's market from another financial institution. At September 30, 2012, the balance of loans purchased through the MPP program totaled $8.4 million.

Loans and Asset Quality. Total loans, net of the allowance for loan loss and deferred loan fees, increased $26.7 million to $135.0 million, an increase of 24.6%. Loans criticized by management as special mention or substandard and not deemed impaired represented 5.3% of total loans at September 30, 2012, compared to 5.0% at December 31, 2011. Impaired loans on nonaccrual status represented 1.1% of total loans and totaled $1,457,796 at September 30, 2012, compared to $1,335,298, or 1.2% of total loans at December 31, 2011. Improving asset quality continues to be a prime objective for management. Outstanding loan balances are expected to increase over the remainder of the year through business development efforts. However expected loan growth may be constrained by continued economic weakness in the markets served by the Company and competitive pressure.

At September 30, 2012, owner occupied, commercial real estate classified as special mention included a $2.3 million participation loan originated in 2007 that had matured. Since the loan was past maturity, it was downgraded from a pass grade during the third quarter because the participating banks had not agreed on renewal terms for the borrower. The participation agreement requires approval of 100% of the sixty-six participating banks to renew the loan. This loan is also included in the 60-89 days past due category and is the principal reason that total past due loans increased to $4.2 million at September 30, 2012 from $1.7 million at December 31, 2012.

Allowance for loan losses. The balance of the allowance for loan losses at September 30, 2012, was $2,514,913 compared to $2,484,478 at year-end 2011. Loan loss provision expense of $117,375 was recorded for the three months ended September 30, 2012 and loan loss provision expense of $109,818 was recorded for the first nine months of 2012. Recoveries on loans previously charged-off totaled $149,717 and loans charged off totaled $229,100 for the nine months ended September 30, 2012. A negative loan loss provision of $108,874 was recorded for the three months ended September 30, 2011 and a negative loan loss provision of $135,069 was recorded for the first nine months of 2011. Recoveries on loans previously charged-off totaled $371,180 and loans charged off totaled $327,234 for the nine months ended September 30, 2011. The amount of the allowance for loan loss is based on a combination of actual experiential factors such as historical losses for each category of loans, information about specific borrowers, and other factors, including delinquencies, general economic conditions and the outlook for specific industries, which are more subjective in nature.

Historical loan loss rates are regularly updated to reflect the most recent three years of loss experience. Loss rates have declined as loan charge offs recorded during the first nine months of 2009 have begun to roll out of the loan loss experience rate calculation for 2012. Reductions to the estimate of incurred losses in the loan portfolio for lower loss rates resulted in a reduction to the allowance for loan losses of approximately $1,047,000 at September 30, 2012 compared to year-end 2011. The specific allowance allocated to impaired loans declined approximately $36,000. These reductions were partially offset by the allowance for loan losses set aside for loan growth in the portfolio totaling approximately $508,000 and an increase in other subjective factors totaling approximately $605,000.

The general allowance allocated to loans not criticized by management totaled 1.85% of non-criticized loans at September 30, 2012, compared to 1.75% at year-end 2011. As a percentage of total loans, the allowance decreased to 1.83% at September 30, 2012, compared to 2.24% at year-end 2011. The allowance for loan loss as a percentage of loans not individually identified as impaired and that excludes the amount of the allowance specifically allocated to impaired loans totaled 1.83% at September 30, 2012, compared to 2.22% at year-end 2011. Specific allocations of the allowance for impaired loans decreased to $83,430 at September 30, 2012 compared to $119,080 at year-end 2011.

Assets acquired in settlement of loans. These assets include other real estate owned ("OREO") and an interest in a limited liability company acquired during 2010 that owns the real estate and operations of an indoor water park and resort obtained through a U.S. Bankruptcy Code 363 sale. The limited liability company was formed by the lead bank for the banks participating in the project financing to acquire title to the real estate, conduct the operation of the facility, and market the real estate and the operations of the business for sale. The carrying value of its interest is approximately $1.3 million and is based upon the estimated fair value of the real estate less costs to sell.

Other real estate owned consisted of eight properties and totaled approximately $883,000 at September 30, 2012 compared to nine properties with a carrying value of $757,000 at year-end 2011. Five properties were sold for a gain of $4,036, and two properties were transferred to OREO during the nine months ended September 30, 2012. Direct valuation write-downs were recorded on four properties totaling $87,636 for the nine months ended September 30, 2012.

Deposits. Total deposits increased $13.3 million to $117.2 million compared to year-end 2011. Certificates of deposit at September 30, 2012 included $16.9 million in deposits acquired from financial institutions subscribing to a national time deposit rate listing service compared to $15.5 million on deposit through this service at year-end 2011, an increase of $1.4 million. While this funding source is typically a less expensive source of funds than for comparable funds raised through the retail time deposit market, there is no opportunity to cross-sell other products and services to these depositors. It has also allowed the Bank to better manage the average term of its time deposits since retail depositors have migrated into money market funds as customers tend to be unwilling to lengthen time deposit maturities given the current low interest rate environment. It has partially replaced deposits sold through the branch sale during the fourth quarter of 2011.

Federal Home Loan Bank Advances. Federal Home Loan Bank advances totaling $19 million were used as a funding source following the sale of two branches during the fourth quarter of 2011. Since year-end, the Company has used short-term advances principally to fund the increase in mortgage loans held for sale.

Shareholders' Equity. Shareholders' Equity increased $56,000 to $18.6 million at September 30, 2012. This modest increase was the result of stock-based compensation expense of $148,000-a non-cash expense added back to shareholders' equity so that it is capital neutral. This was partially offset by an operating loss of $45,000 for the nine months ended September 30, 2012 and other comprehensive loss of $47,000.

RESULTS OF OPERATIONS - THREE MONTHS ENDED SEPTEMBER 30, 2012

The Company recorded net income of $137,220, or $0.07 per share, for the three months ended September 30, 2012, compared to a net loss of $280,069, or a loss of $0.14 per share, during the third quarter of 2011. Average shares outstanding totaled 1,971,453 for 2012 and 1,971,456 for 2011. Share and per share amounts are retroactively restated to reflect the effect of a 1 for 10 reverse stock split completed during the third quarter of 2012.

The following table sets forth information relating to the average balance sheet and reflects the average yield on interest-earning assets and the average cost of interest-bearing liabilities for the periods indicated. These yields and costs are derived by dividing income or expense, on an annualized basis, by the average balances of interest-earning assets or interest-bearing liabilities for the periods presented.

                                                      Three Months Ended September 30,
                                               2012                                       2011
                                             Interest                                   Interest
                               Average       Earned/        Yield/        Average       Earned/        Yield/
(Dollars in Thousands)         Balance         Paid          Rate         Balance         Paid          Rate
Assets
Interest-earning assets:
Interest-bearing deposits
in other financial
institutions and federal
funds sold                    $   5,376     $        3          0.23 %   $  44,476     $       25          0.22 %
Securities available for
sale                             12,537             69          2.18 %      13,480             90          2.67 %
Securities held to maturity           0              0          0.00 %           0              0          0.00 %
Federal agency stock              1,578             19          4.85 %       1,518             18          4.65 %
Loans (1)                       135,327          1,591          4.68 %     109,007          1,409          5.13 %
Total interest-earning
assets                          154,818          1,682          4.32 %     168,481          1,542          3.63 %
Noninterest-earning assets        5,687                                      7,849
Total assets                  $ 160,505                                  $ 176,330

Liabilities and
Shareholders' Equity
Interest-bearing
liabilities:
Interest-bearing demand
deposits                      $   5,841     $        4          0.25 %   $   9,712     $        6          0.26 %
Savings accounts                  5,880              5          0.35 %      13,359             12          0.35 %
Money market accounts            32,054             36          0.44 %      51,082             71          0.56 %
Certificates of deposit          46,373            108          0.93 %      55,989            181          1.28 %
Total interest-bearing
deposits                         90,148            153          0.67 %     130,142            270          0.82 %
Other borrowings                 26,915             19          0.29 %       4,967             19          1.48 %
 Total Interest-bearing
liabilities                     117,063            172          0.59 %     135,109            289          0.85 %
Noninterest-bearing demand
deposits                         24,277                                     24,529
Noninterest-bearing
liabilities                         617                                        700
Total liabilities               141,957                                    160,338
Shareholders' equity             18,548                                     15,992
 Total liabilities and
shareholders' equity          $ 160,505                                  $ 176,330

Net interest income;
interest rate spread (2)                    $    1,510          3.73 %                 $    1,253          2.78 %
Net earning assets            $  37,755                                  $  33,372
Net interest margin (3)                                         3.88 %                                     2.95 %

Average interest-earning
assets to interest-bearing
liabilities                         1.3              X                         1.2              X

(1) Net of net deferred loan fees and costs and loans in process. Non-accrual loans are reported in non-interest earning assets in this table.

(2) Interest rate spread represents the difference between the yield on interest earning assets and the cost of interest bearing liabilities.

(3) Net interest margin represents net interest income, annualized, divided by average interest-earning assets.

Net interest income. For the three months ending September 30, 2012, net interest income was $1,509,672, up $256,579 from the same period in 2011 while average total interest earning assets were down $13.7 million. Loans and liquid assets used to fund deposits sold during the third quarter of 2011 reduced the balance of earning assets. The yield on earning assets increased 69 basis points to 4.32% for the third quarter of 2012 from 3.63% for the comparable period of 2011. The yield on interest-bearing liabilities declined 26 basis points to 0.59% for the third quarter of 2012 from 0.85% for the same period in 2011. The net interest margin increased to 3.88% from 2.95%.

Interest Income. Total interest income for the third quarter of 2012 was $1.7 million, up approximately $140,000 from the third quarter of 2011. Average loans increased by $26 million for the comparative quarters which enabled the Company to improve interest income despite the decrease in earning assets and lower interest rates. The increase in loan balances was the major contributor to higher interest income. The volume change contributed approximately $293,000 toward interest income for the quarter. However, interest-bearing assets, including adjustable rate loans, continue to reprice downward as low interest . . .

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