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

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Form 10-Q for SUNSHINE FINANCIAL INC


14-Nov-2012

Quarterly Report


Item 2. Management's Discussion and Analysis of

Financial Condition and Results of Operations

Forward-Looking Statements

When used in this report and in future filings by Sunshine Financial with the SEC, in Sunshine Financial's press releases or other public or shareholder communications, or in oral statements made with the approval of an authorized executive officer, the words or phrases, "anticipate," "believes," "expects," "would be," "will allow," "intends to," "will likely result," "are expected to," "will continue," "is anticipated," "estimated," "projected," or similar expressions are intended to identify forward-looking statements. These forward-looking statements include, but are not limited to:

statements of our goals, intentions and expectations;

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

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

estimates of our risks and future costs and benefits.

These forward-looking statements are based on current beliefs and expectations of our management and are inherently subject to significant business, economic and competitive uncertainties and contingencies, many of which are beyond our control. In addition, these forward-looking statements are subject to assumptions with respect to future business strategies and decisions that are subject to change.

The following factors, among others, could cause actual results to differ materially from the anticipated results or other expectations expressed in the forward-looking statements:

the credit risks of lending activities, including changes in the level and trend of loan delinquencies and write offs and changes in our allowance for loan losses and provision for loan losses that may be impacted by deterioration in the housing and commercial real estate markets;

changes in general economic conditions, either nationally or in our market area;

changes in the levels of general interest rates, and the relative differences between short and long term interest rates, deposit interest rates, our net interest margin and funding sources;

fluctuations in the demand for loans, the number of unsold homes, land and other properties and fluctuations in real estate values in our market area;

results of examinations of us by the Federal Reserve Board, OCC or other regulatory authorities, including the possibility that any such regulatory authority may, among other things, require us to increase our reserve for loan losses, write-down assets, change our regulatory capital position or affect our ability to borrow funds or maintain or increase deposits, which could adversely affect our liquidity and earnings;

legislative or regulatory changes that adversely affect our business including the effect of the Dodd-Frank Act, Basel III, changes in regulatory policies and principles, or the interpretation of regulatory capital or other rules;

our ability to attract and retain deposits;

further increases in premiums for deposit insurance;

SUNSHINE FINANCIAL, INC. AND SUBSIDIARIES

our ability to control operating costs and expenses;

the use of estimates in determining fair value of certain of our assets, which estimates may prove to be incorrect and result in significant declines in valuation;

difficulties in reducing risks associated with the loans on our balance sheet;

staffing fluctuations in response to product demand or the implementation of corporate strategies that affect our workforce and potential associated charges;

computer systems on which we depend could fail or experience a security breach;

our ability to retain key members of our senior management team;

costs and effects of litigation, including settlements and judgments;

our ability to successfully integrate any assets, liabilities, customers, systems, and management personnel we may in the future acquire into our operations and out ability to realize related revenue synergies and cost savings within expected time frames and any goodwill charges related thereto;

increased competitive pressures among financial services companies;

changes in consumer spending, borrowing and savings habits;

the availability of resources to address changes in laws, rules, or regulations or to respond to regulatory actions;

our ability to pay dividends on our common stock;

adverse changes in the securities markets;

inability of key third-party providers to perform their obligations to us;

changes in accounting policies and practices, as may be adopted by the financial institution regulatory agencies, the Public Company Accounting Oversight Board or the Financial Accounting Standards Board, including additional guidance and interpretation on accounting issues and details of the implementation of new accounting methods including relating to fair value accounting and loan loss reserve requirements; and

other economic, competitive, governmental, regulatory, and technological factors affecting our operations, pricing, products and services and the other risks described elsewhere in this report.

Forward-looking statements are based upon management's beliefs and assumptions at the time they are made. We undertake no obligation to publicly update or revise any forward-looking statements included in this report or to update the reasons why actual results could differ from those contained in such statements, whether as a result of new information, future events or otherwise. In light of these risks, uncertainties and assumptions, the forward-looking statements discussed in this report might not occur and you should not put undue reliance on any forward-looking statements.

SUNSHINE FINANCIAL, INC. AND SUBSIDIARIES

General

On July 1, 2007, Sunshine Savings Bank converted its charter from a state-chartered credit union to a federally-chartered savings bank. On that date the name was changed from Sunshine State Credit Union to Sunshine Savings Bank, and we became a taxable organization. In January 2009, we reorganized into a mutual holding company structure, with Sunshine Savings Bank as a wholly-owned subsidiary of Sunshine Financial, Inc., a federal corporation ("Old Sunshine"), which was the wholly-owned subsidiary of Sunshine Savings MHC (the "MHC"). On April 5, 2011, in accordance with a Plan of Conversion and Reorganization (the "Plan") adopted by its Board of Directors and approved by its members, we converted from a mutual to a stock holding company form of organization, with the MHC and Old Sunshine being merged into a new holding company, Sunshine Financial, Inc. ("Sunshine Financial" or the "Holding Company"), and the Bank becoming a wholly-owned subsidiary of the Holding Company. See Notes 1 and 14 to the Notes to Condensed Consolidated Financial Statements. References to we, us and our throughout this document refer to Sunshine Financial and Sunshine Savings Bank, as the context requires.

We currently operate out of four full-service branch offices serving the Tallahassee, Florida metropolitan area. Our principal business consists of attracting retail deposits from the general public and investing those funds in loans secured by first and second mortgages on one- to four-family residences, home equity loans and lines of credit, lot loans, and direct automobile, credit card and other consumer loans.

We offer a variety of deposit accounts, which are our primary source of funding for our lending activities.

The Bank is significantly affected by prevailing economic conditions as well as government policies and regulations concerning, among other things, monetary and fiscal affairs, housing and financial institutions. Deposit flows are influenced by a number of factors, including interest rates paid on competing time deposits, other investments, account maturities, and the overall level of personal income and savings. Lending activities are influenced by the demand for funds, the number and quality of lenders, and regional economic cycles. Sources of funds for lending activities of the Bank include primarily deposits, borrowings, payments on loans and income provided from operations.

Our primary source of pre-tax income is net interest income. Net interest income is the difference between interest income, which is the income that we earn on our loans and investments, and interest expense, which is the interest that we pay on our deposits and borrowings. Changes in levels of interest rates affect our net interest income. A secondary source of income is noninterest income, which includes revenue we receive from providing products and services. Our noninterest expense has typically exceeded our net interest income and we have relied primarily upon noninterest income to supplement our net interest income and to achieve earnings.

Our operating expenses consist primarily of salaries and employee benefits, general and administrative, occupancy and equipment, data processing services, professional services and marketing expenses. Salaries and benefits consist primarily of the salaries and wages paid to our employees, payroll taxes, expenses for retirement and other employee benefits. Occupancy and equipment expenses, which are the fixed and variable costs of building and equipment, consist primarily of lease payments, taxes, depreciation charges, maintenance and costs of utilities.

SUNSHINE FINANCIAL, INC. AND SUBSIDIARIES

Critical Accounting Policies

Certain of our accounting policies are important to the portrayal of our financial condition, since they require management to make difficult, complex or subjective judgments, some of which may relate to matters that are inherently uncertain. Estimates associated with these policies are susceptible to material changes as a result of changes in facts and circumstances. Facts and circumstances which could affect these judgments include, but are not limited to, changes in interest rates, changes in the performance of the economy and changes in the financial condition of borrowers. Management believes that its critical accounting policies include, determining the allowance for loan losses, valuation of foreclosed assets and accounting for deferred income taxes.

Foreclosed Assets. Assets acquired through, or in lieu of, loan foreclosure are held for sale and are initially recorded at fair value less costs to sell at the date of foreclosure, establishing a new cost basis. After foreclosure, valuations are periodically performed by management and the assets are carried at the lower of the new cost basis or fair value less costs to sell. Revenue and expenses from operations are included in the consolidated statements of operations.

Allowance for Loan Losses. The allowance for loan losses is established as losses are estimated to have occurred through a provision for loan losses charged to operations. Loan losses are charged against the allowance when management believes the uncollectability of a loan balance is confirmed. Subsequent recoveries, if any, are credited to the allowance. There were no changes in the Bank's accounting policies or methodology during the period ended September 30, 2012.

The allowance for loan losses is evaluated on a regular basis by management and is based upon management's periodic review of the collectability of the loans in light of historical 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. This evaluation is inherently subjective as it requires estimates that are susceptible to significant revision as more information becomes available.

The allowance consists of specific and general components. The specific component relates to loans that are classified as impaired. For such loans, an allowance is established when the discounted cash flows, collateral value or observable market price of the impaired loan is lower than the carrying value of that loan. The general component covers all other loans and is based on historical industry loss experience adjusted for qualitative factors.

The historical loss component of the allowance is determined by losses recognized by portfolio segment over the preceding year. This is supplemented by the risks for each portfolio segment. Risk factors impacting loans in each of the portfolio segments include changes in property values, changes in consumer and business spending and changes in credit availability. The historical experience is adjusted for qualitative factors such as economic conditions and other trends or uncertainties that could affect management's estimate of probable losses.

SUNSHINE FINANCIAL, INC. AND SUBSIDIARIES

A loan is considered impaired when, based on current information and events, it is probable that the Company will be unable to collect the scheduled payments of principal or interest when due. Factors considered by management in determining impairment include payment status, collateral value, and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower's prior payment record, and the amount of the shortfall in relation to the principal and interest owed. Impairment is measured on a loan by loan basis by either the present value of expected future cash flows discounted at the loan's effective interest rate, the loan's obtainable market price, or the fair value of the collateral if the loan is collateral-dependent.

Deferred Tax Assets. Income taxes are reflected in our financial statements to show the tax effects of the operations and transactions reported in the financial statements and consist of taxes currently payable plus deferred taxes. Generally accepted accounting principles require the asset and liability approach for financial accounting and reporting for deferred income taxes. Deferred tax assets and liabilities result from differences between the financial statement carrying amounts and the tax bases of assets and liabilities. They are reflected at currently enacted income tax rates applicable to the period in which the deferred tax assets or liabilities are expected to be realized or settled and are determined using the assets and liability method of accounting. The deferred income provision represents the difference between net deferred tax asset/liability at the beginning and end of the reported period. In formulating our deferred tax asset, we are required to estimate our income and taxes in the jurisdiction in which we operate. This process involves estimating our actual current tax exposure for the reported period together with assessing temporary differences resulting from differing treatment of items, such as depreciation and the provision for loan losses, for tax and financial reporting purposes. Deferred tax assets and liabilities are the expected future tax amounts for the temporary differences between carrying amounts and tax bases of assets and liabilities, computed using enacted tax rates. The realization of deferred tax assets is dependent on results of future operations. A valuation allowance, if needed, reduces deferred tax assets to the amount expected to be realized.

SUNSHINE FINANCIAL, INC. AND SUBSIDIARIES

Comparison of Financial Condition at September 30, 2012 and December 31, 2011

General. Total assets increased $1.1 million, or 0.7%, to $146.8 million at September 30, 2012 from $145.7 million at December 31, 2011. The increase in total assets was due primarily to increases in federal funds sold and securities held to maturity offset by decreases in loans and interest-bearing deposits with banks. Our federal funds sold increased $8.3 million, securities held to maturity increased $5.6 million, loans decreased $10.2 million, and interest bearing deposits with banks decreased $3.4 million since December 31, 2011.

Loans. Our net loan portfolio decreased $10.2 million, or 10.0%, to $91.8 million at September 30, 2012 from $102.0 million at December 31, 2011. Real estate mortgage loans decreased $5.8 million while consumer loans decreased $3.2 million. The decrease in loans receivable was due primarily to loan amortizations and prepayments exceeding loan originations. The decrease in loan originations was primarily attributable to the weakness in the housing market and the economy. The Bank originates and sells most fixed rate greater than fifteen year residential loans to Freddie Mac in order to generate additional income. For the nine months ended September 30, 2012, the Bank originated and sold $10.2 million in loans to Freddie Mac. In an effort to maintain or increase our loan portfolio and increase interest income, in July 2012 management and the Board approved a program of keeping in portfolio, fifteen year single family mortgage loans that meet certain interest rate parameters and would qualify for sale to Freddie Mac. In addition, the Bank has begun a commercial real estate lending program for owner occupied commercial buildings. At September 30, 2012, the Bank originated and kept $663,000 in fifteen year single family mortgage loans and $2.0 million in owner occupied commercial real estate loans.

Allowance for Loan Losses. Our allowance for loan losses at September 30, 2012 was $1.5 million, or 1.66% of net loans receivable, compared to $1.3 million, or 1.30% of net loans receivable, at December 31, 2011. Nonperforming loans decreased to $2.6 million at September 30, 2012 from $4.6 million at December 31, 2011. Nonperforming loans to total loans decreased to 2.72% at September 30, 2012 from 4.47% at December 31, 2011. This decrease in nonperforming loans was primarily due to transferring loans to real estate owned as a result of foreclosure. Loans on nonaccrual which were less than ninety days past due totaled $220,000 at September 30, 2012 compared to $242,000 at December 31, 2011.

As of September 30, 2012 the Bank had fifteen properties in real estate owned with a fair value of $2.2 million and total unpaid principal balances of $4.0 million. In addition, the Bank was in the process of foreclosure on ten properties with a total fair value of $1.2 million and total unpaid principal balances of $2.0 million. However, only three of these foreclosures were filed in 2012.

Deposits. Total deposits increased $1.4 million, or 1.2%, to $120.8 million at September 30, 2012 from $119.4 million at December 31, 2011. This increase was due primarily to increases in money market, savings and noninterest bearing deposits, offset by decreases in time deposits. These increases were primarily matured time deposits moving to liquid deposit accounts in anticipation of higher rates in the future.

Equity. Total equity decreased $612,000 to $24.8 million at September 30, 2012 from $25.4 million at December 31, 2011. This decrease was due to the net loss of $670,000 during the nine months ended September 30, 2012, offset by Employee Stock Ownership Plan share allocation of $58,000 for the nine months ended September 30, 2012.

SUNSHINE FINANCIAL, INC. AND SUBSIDIARIES

Results of Operations

The following tables set forth, for the periods indicated, information regarding
(i) the total dollar amount of interest and dividend income of the Company from interest-earning assets and the resultant average yields; (ii) the total dollar amount of interest expense on interest-bearing liabilities and the resultant average cost; (iii) net interest income; (iv) interest-rate spread; and (v) net interest margin. Nonaccruing loans have been included in the table as loans carrying a zero yield for the period they have been on nonaccrual.

                                                       Three Months Ended September 30,
                                               2012                                        2011
                                             Interest        Average                     Interest       Average
                               Average          and          Yield/        Average         and          Yield/
                               Balance       Dividends        Rate         Balance       Dividend        Rate
                                                               ($ in thousands)
Interest-earning assets:
  Loans receivable (1)        $  93,452     $     1,392          5.96 %   $ 109,254     $    1,634          5.98 %
  Investments held to
maturity                         11,237              66          2.35        11,171             82          2.94
  Other interest-earning
assets (2)                       27,217              16          0.24        18,067              9          0.20

    Total interest-earning
assets                          131,906           1,474          4.47       138,492          1,725          4.99

Noninterest-earning assets       11,649                                       9,950

    Total assets              $ 143,555                                   $ 148,442

Interest-bearing
liabilities:
  MMDA and statement
savings                          65,277              70          0.43        59,591            109          0.73
  Time deposits                  32,841              58          0.71        40,317             97          0.96

    Total interest-bearing
liabilities                      98,118             128          0.52        99,908            206          0.83

Noninterest-bearing
liabilities                      20,665                                      22,843
Equity                           24,772                                      25,691

    Total liabilities and
equity                        $ 143,555                                   $ 148,442

Net interest income                         $     1,346                                 $    1,519

Net interest-rate spread
(3)                                                              3.95 %                                     4.16 %

Net interest margin (4)                                          4.08 %                                     4.39 %

Ratio of average
interest-earning assets
  to average
interest-bearing
liabilities                        1.34 x                                      1.39 x



(1) Includes nonaccrual loans.
(2) Other interest-earnings assets including federal funds sold, Federal Home Loan Bank stock and interest-bearing deposits.
(3) Interest-rate spread represents the difference between the average yield on interest-earning assets and the average rate of interest-bearing liabilities.
(4) Net interest margin is net interest income divided by average interest-earning assets (annualized).

                   SUNSHINE FINANCIAL, INC. AND SUBSIDIARIES


                                                       Nine Months Ended September 30,
                                               2012                                        2011
                                             Interest        Average                     Interest       Average
                               Average          and          Yield/        Average         and          Yield/
                               Balance       Dividends        Rate         Balance       Dividend        Rate
                                                               ($ in thousands)
Interest-earning assets:
  Loans receivable (1)        $  96,938     $     4,256          5.85 %   $ 112,685     $    5,027          5.95 %
  Investments held to
maturity                          9,747             180          2.46         7,543            192          3.39
  Other interest-earning
assets (2)                       26,033              46          0.24        20,830             31          0.19

    Total interest-earning
assets                          132,718           4,482          4.50       141,058          5,250          4.96

Noninterest-earning assets       10,668                                      10,400

    Total assets              $ 143,386                                   $ 151,458

Interest-bearing
liabilities:
  MMDA and statement
savings                          64,000             250          0.52        59,463            324          0.73
  Time deposits                  33,982             189          0.74        47,792            437          1.22

    Total interest-bearing
liabilities                      97,982             439          0.60       107,255            761          0.95

Noninterest-bearing
liabilities                      20,305                                      22,785
Equity                           25,099                                      21,418

    Total liabilities and
equity                        $ 143,386                                   $ 151,458

Net interest income                         $     4,043                                 $    4,489

Net interest-rate spread
(3)                                                              3.90 %                                     4.01 %

Net interest margin (4)                                          4.06 %                                     4.24 %

Ratio of average
interest-earning assets
  to average
interest-bearing
liabilities                        1.35 x                                      1.32 x



(1) Includes nonaccrual loans.
(2) Other interest-earnings assets including federal funds sold, Federal Home Loan Bank stock and interest-bearing deposits.
(3) Interest-rate spread represents the difference between the average yield on interest-earning assets and the average rate of interest-bearing liabilities.
(4) Net interest margin is net interest income divided by average interest-earning assets (annualized).

SUNSHINE FINANCIAL, INC. AND SUBSIDIARIES

Comparison of the Three Months Ended September 30, 2012 and 2011

General. Net loss for the three months ended September 30, 2012 was $44,000 compared to net earnings of $14,000 for the three months ended September 30, 2011, resulting in an annualized loss on average assets of (0.12)% for the three months ended September 30, 2012 and annualized income of 0.04% for the three months ended September 30, 2011. The decrease in net earnings was due primarily to a decrease in our net interest income, partially offset by an increase in gains on loan sales to FHLMC.

Net Interest Income. Net interest income decreased $173,000, or 11.4%, to $1,346,000 for the three months ended September 30, 2012 from $1,519,000 for the same period in 2011, primarily due to the decline in average balance of our loan portfolio, partially offset by our lower cost of deposits. Our interest rate spread decreased to 3.95% for the three months ended September 30, 2012 from 4.16% for the same period in 2011, while our net interest margin decreased to 4.08% from 4.39%. The ratio of average interest-earning assets to average interest-bearing liabilities for the three months ended September 30, 2012 decreased to 1.34x, from 1.39x for the three months ended September 30, 2011.

Interest Income. Interest income for the three months ended September 30, 2012 decreased $251,000, or 14.5%, to $1,474,000 from $1,725,000 for the same period ended September 30, 2011. The decrease in interest income for the three months ended September 30, 2012 was primarily due to lower average balances of loans receivable. Average interest-earning loans decreased to $93.5 million during the three months ended September 30, 2012 compared to $109.3 million for the three months ended September 30, 2011. In addition, the average yield on average interest earning assets decreased 52 basis points to 4.47% from 4.99% due to a shift in portfolio balance.

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