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SFDL > SEC Filings for SFDL > Form 10-Q on 13-Nov-2013All Recent SEC Filings

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Form 10-Q for SECURITY FEDERAL CORP


13-Nov-2013

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 and "Safe Harbor" statement under the Private Securities Litigation Reform Act of 1995

This report contains forward-looking statements, which can be identified by the use of words such as "believes," "intends," "expects," "anticipates," "estimates" or similar expressions. 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 quality of our loan and investment portfolios; and

estimates of our risks and future costs and benefits.

These forward-looking statements are subject to significant risks and uncertainties. Actual results may differ materially from those contemplated by the forward-looking statements due to, among others, the following factors:
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 areas;

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 areas;

secondary market conditions for loans and our ability to sell loans in the secondary market;

results of examinations of the Company by the Federal Reserve, and our bank subsidiary by the FDIC and the South Carolina Board of Financial Institutions 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 changes in regulatory policies and principles, or the interpretation of regulatory capital or other rules;

our ability to attract and retain deposits;

increases in premiums for deposit insurance;

our ability to control operating costs and expenses;

our ability to implement our business strategies

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 have acquired or we may in the future acquire into our operations and our 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 impact of new legislation, including the Dodd-Frank Wall Street Reform and Consumer Protection Act and the implementing regulations, and the recently issued Basel III regulatory capital requirements;

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 or the FASB, including additional guidance and interpretation on accounting issues and details of the implementation of new accounting methods;


SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition and Results of Operations

Future legislative changes and our ability to continue to comply with the requirements of the U.S. Department of Treasury's Community Development Capital Initiative; and

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

Some of these and other factors are discussed in the Company's 2012 Form 10-KT under Item 1A, "Risk Factors." Such developments could have an adverse impact on our financial position and our results of operations.

Any of the forward-looking statements that we make in this quarterly report and in other public statements we make may turn out to be inaccurate as a result of our beliefs and assumptions we make in connection with the factors set forth above or because of other unidentified and unpredictable factors. Because of these and other uncertainties, our actual future results may be materially different from the results indicated by these forward-looking statements and you should not rely on such statements. The Company undertakes no obligation to publish revised forward-looking statements to reflect the occurrence of unanticipated events or circumstances after the date hereof. These risks could cause our actual results for 2013 and beyond to differ materially from those expressed in any forward-looking statements by or on behalf of us, and could negatively affect the Company's financial condition, liquidity and operating and stock price performance.

Financial Condition At September 30, 2013 and December 31, 2012

General - Total assets decreased $37.9 million or 4.3% to $852.4 million at
September 30, 2013 from $890.4 million at December 31, 2012. The primary reason
for the decrease in total assets was a decrease in net loans receivable and
repossessed assets.

Assets - The increases and decreases in total assets were primarily concentrated
in the following asset categories:
                                                                               Increase (Decrease)
                             September 30, 2013      December 31, 2012          Amount       Percent
Cash And Cash Equivalents  $         10,379,990   $         7,903,950      $   2,476,040      31.3%
Investment And Mortgage-
  Backed Securities -
  Available For Sale                426,846,798           354,916,216         71,930,582       20.3
Investment And Mortgage-
  Backed Securities - Held
  To Maturity                                 -            76,072,262        (76,072,262 )   (100.0)
Loans Receivable, Net               364,923,095           397,705,820        (32,782,725 )    (8.2)
Repossessed Assets
  Acquired In
  Settlement Of Loans                 3,492,365             6,754,425         (3,262,060 )    (48.3)
FHLB Stock                            4,674,700             6,178,700         (1,504,000 )    (24.3)
Other Assets                          7,271,219             5,488,960          1,782,259       32.5

Cash and cash equivalents increased $2.5 million or 31.3% to $10.4 million at September 30, 2013 from $7.9 million at December 31, 2012.

Investment and mortgage-backed securities available for sale increased $71.9 million or 20.3% to $426.8 million at September 30, 2013 from $354.9 million at December 31, 2012. On June 30, 2013, the Company transferred all of its investment and mortgage-backed securities classified as held to maturity to available for sale. The amortized cost of the securities that were transfered totaled $72.0 million and the unrealized gain related to these securities totaled $1.4 million on the date of the transfer. The Company also sold 22 securities during the nine months ended September 30, 2013.

Investment and mortgage-backed securities held to maturity decreased to none at September 30, 2013 from $76.1 million at December 31, 2013 as a result of the transfer mentioned above as well as principal repayments on mortgage-backed securities. As a result of the transfer and subsequent sales, the Company believes it has tainted its held to maturity classification and judgment will be required in the future in determining when circumstances have changed such that management can assert with a great degree of credibility that it has the intent and ability to hold debt securities to maturity. Based on this guidance, the Company does not expect to classify any securities as held to maturity within the near future.


SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition and Results of Operations

Loans receivable, net, decreased $32.8 million or 8.2% to $364.9 million at September 30, 2013 from $397.7 million at December 31, 2012. This decrease was a result of increased loan paydowns combined with lower loan demand from creditworthy borrowers. Residential real estate loans decreased $7.0 million or 7.7% to $83.7 million at September 30, 2013 from $90.7 million at December 31, 2012. Consumer loans decreased $3.6 million or 6.3% to $53.0 million at September 30, 2013 compared to $56.6 million at December 31, 2012. Commercial real estate loans and commercial business loans decreased $18.0 million and $985,000, respectively, to $232.9 million and $7.1 million, respectively, at September 30, 2013 from $250.9 million and $8.1 million, respectively, at December 31, 2012. Loans held for sale decreased $3.4 million or 70.9% to $1.4 million at September 30, 2013 from $4.8 million at December 31, 2012.

Repossessed assets acquired in settlement of loans decreased $3.3 million or 48.3% to $3.5 million at September 30, 2013 from $6.8 million at December 31, 2012. At September 30, 2013, the balance of repossessed assets consisted of the following real estate properties: six single-family residences and 11 lots within residential subdivisions located throughout our market areas in South Carolina and Georgia; three parcels of land in South Carolina; one commercial building in South Carolina; eight lots within a subdivision and adjacent 22.96 acres of land in Aiken, South Carolina; and 34.8 acres of land in Bluffton, South Carolina which was originally acquired as a participation loan from another financial institution.

FHLB stock decreased $1.5 million or 24.3% to $4.7 million at September 30, 2013 compared to $6.2 million at December 31, 2012 as a result of stock redemption. The Bank, as a member of the FHLB of Atlanta, is required to acquire and hold shares of capital stock in the FHLB of Atlanta in an amount equal to a membership component, which is 0.15% of total assets plus a transaction component which equals 4.5% of outstanding advances (borrowings) from the FHLB of Atlanta. As total assets and total advances have decreased, so has the Bank's required investment in FHLB stock.

Other assets increased $1.8 million or 32.5% to $7.3 million at September 30, 2013 compared to $5.5 million at December 31, 2012 as a result of an increase in the net deferred tax asset related to available for sale securities of $4.0 million offset partially by a decrease in prepaid FDIC premiums of $1.8 million. The unrealized gain on investment securities available for sale decreased $10.6 million during the nine months ended September 30, 2013 as a result of an increase in market rates. The increase in the deferred tax asset represents the tax impact of this change.

Liabilities
Deposit Accounts - The balances, weighted average rates and increases and
decreases in deposit accounts were as follows:
                                                                                          Balance
                     September 30, 2013                December 31, 2012            Increase (Decrease)
                   Balance      Weighted Rate       Balance      Weighted Rate       Amount        Percent
Demand
Accounts:
Checking      $ 140,136,294         0.04%     $  126,740,707         0.06%     $   13,395,587      10.57%
Money Market    241,699,252         0.28         234,382,412              0.38      7,316,840       3.12
Statement
Savings
  Accounts       24,643,763         0.10          22,411,240         0.20           2,232,523       9.96
Total           406,479,309         0.18         383,534,359              0.26     22,944,950       5.98

Certificate
Accounts
0.00 - 1.99%    230,477,749                      255,422,955                     (24,945,206)      (9.77)
2.00 - 2.99%     30,165,359                       32,975,486                      (2,810,127)      (8.52)
3.00 - 3.99%      1,637,935                        2,380,728                        (742,793)      (31.20)
4.00 - 4.99%        592,668                        1,523,474                        (930,806)      (61.10)
5.00 - 5.99%              -                          501,651                        (501,651)     (100.00)
Total           262,873,711         0.88         292,804,294              1.11   (29,930,583)      (10.22)
Total         $ 669,353,020         0.46%     $  676,338,653         0.63%     $  (6,985,633)      (1.03)%
Deposits


                 SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
   Management's Discussion and Analysis of Financial Condition and Results of
                                   Operations

Included in the certificate accounts above were $25.6 million and $22.6 million
in brokered deposits at September 30, 2013 and December 31, 2012, respectively,
with a weighted average interest rate of 1.23% and 1.47%, respectively.

Advances From FHLB - FHLB advances are summarized by contractual year of
maturity and weighted average interest rate in the table below:
                                                                          Balance
                     September 30, 2013     December 31, 2012            Decrease
Fiscal Year Due:       Balance      Rate      Balance    Rate       Balance       Percent
2013             $            -     0.00% $   22,100,000 2.92% $ (22,100,000)    (100.00)%
2014                 25,244,371     3.06      30,257,182 3.33     (5,012,811)     (16.57)
2015                 15,000,000     4.01      15,000,000 4.01               -      0.00
2016                 20,000,000     4.61      20,000,000 4.60               -      0.00
2017                 12,900,000     4.38      12,900,000 4.38               -      0.00
Thereafter            5,000,000     3.39       5,000,000 3.39               -        -
Total Advances   $   78,144,371     3.88% $  105,257,182 3.72% $ (27,112,811)    (25.76)%

During the nine months ended September 30, 2013, as part of the Company's strategy to lower cost of funds, management elected to prepay $25.0 million in higher rate advances. Advances are secured by a blanket collateral agreement with the FHLB pledging the Bank's portfolio of residential first mortgage loans and investment securities with an amortized cost and fair value of $117.0 million and $110.2 million at September 30, 2013 and $135.7 million and $129.4 million at December 31, 2012, respectively. Advances are subject to prepayment penalties.

The following table shows at September 30, 2013 FHLB advances that are callable as of the dates indicated. These advances are also included in the above table. All callable advances are callable at the option of the FHLB. If an advance is called, the Bank has the option to payoff the advance without penalty, reborrow funds on different terms, or convert the advance to a three-month floating rate advance tied to LIBOR.

                                  As of September 30, 2013
Borrow Date   Maturity Date   Amount      Int. Rate    Type         Call Dates
                   11/23/15   5,000,000      3.993 %   Multi-Call   5/23/08 and quarterly
   11/23/05                                                         thereafter
   07/11/06        07/11/16   5,000,000      4.800     Multi-Call   7/11/08 and quarterly
                                                                    thereafter
   11/29/06        11/29/16   5,000,000      4.025     Multi-Call   5/29/08 and quarterly
                                                                    thereafter
   05/24/07        05/24/17   7,900,000      4.375     Multi-Call   5/27/08 and quarterly
                                                                    thereafter
   07/25/07        07/25/17   5,000,000      4.396     Multi-Call   7/25/08 and quarterly
                                                                    thereafter

Other Borrowings - The Bank had $9.9 million and $9.3 million in other borrowings (non-FHLB advances) at September 30, 2013 and December 31, 2012, respectively. These borrowings consist of short-term repurchase agreements with certain commercial demand deposit customers for sweep accounts. The repurchase agreements typically mature within one to three days and the interest rate paid on these borrowings floats monthly with money market type rates. At September 30, 2013 and December 31, 2012, the interest rate paid on the repurchase agreements was 0.15% and 0.20% respectively. The Bank had pledged as collateral for these repurchase agreements investment and mortgage-backed securities with amortized costs and fair values of $15.2 million and $15.6 million, respectively, at September 30, 2013 and $15.4 million and $16.3 million, respectively, at December 31, 2012.

Junior Subordinated Debentures - On September 21, 2006, Security Federal Statutory Trust (the Trust), issued and sold fixed and floating rate capital securities of the Trust (the "Capital Securities"). The Trust used the net proceeds from the sale of the Capital Securities to purchase a like amount of junior subordinated debentures (the "Debentures") of the Company which are reported on the Consolidated Balance Sheets as junior subordinated debentures, generating proceeds of $5.0 million. The Company used the proceeds for general corporate purposes, primarily to provide capital to the Bank. The Capital Securities qualify as Tier 1 capital under Federal Reserve guidelines. The Debentures are the sole assets of the Trust. The Company's obligations under the Debentures and related documents, taken together, constitute a full and unconditional guarantee by the Company of the obligations of the Trust.


SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition and Results of Operations

The Capital Securities accrue and pay distributions annually at a rate per annum equal to 1.95% at September 30, 2013. Prior to September 2011, one-half of the Capital Securities issued in the transaction had a fixed rate of 6.88% and the remaining half had a floating rate of three-month LIBOR plus 170 basis points. After September 2011, the rate is a floating rate of three month LIBOR plus 170 basis points as the fixed rate portion was converted to the floating rate. The distribution rate payable on the Capital Securities is cumulative and payable quarterly in arrears.

The Company has the right, subject to events of default, to defer payments of interest on the Capital Securities for a period not to exceed 20 consecutive quarterly periods, provided that no extension period may extend beyond the maturity date of December 15, 2036. The Company has no current intention to exercise its right to defer payments of interest on the Capital Securities.

The Capital Securities mature or are mandatorily redeemable upon maturity on December 15, 2036, and or upon earlier optional redemption as provided in the indenture. The Company has the right to redeem the Capital Securities in whole or in part.

Convertible Debentures - Effective December 1, 2009, the Company issued $6.1 million in convertible senior debentures. The debentures will mature on December 1, 2029 and accrue interest at the rate of 8.0% per annum until maturity or earlier redemption or repayment. Interest on the debentures is payable on June 1 and December 1 of each year and commenced on June 1, 2010. The debentures are convertible into the Company's common stock at a conversion price of $20 per share at the option of the holder at any time prior to maturity.

The debentures are redeemable, in whole or in part, at the option of the Company at any time on or after December 1, 2019, at a price equal to 100% of the principal amount of the debentures to be purchased plus any accrued and unpaid interest to, but excluding, the date of redemption. The debentures are unsecured general obligations of the Company ranking equal in right of payment to all of our present and future unsecured indebtedness that is not expressly subordinated.

Equity - Shareholders' equity decreased $5.1 million or 6.2% to $77.5 million at September 30, 2013 from $82.6 million at December 31, 2012. Accumulated other comprehensive income, net of tax, comprised primarily of unrealized losses on securities available for sale, net of tax, decreased $6.6 million or 88.6% to $849,000 at September 30, 2013. Long term interest rates increased sharply in June 2013 as a result of concerns the FRB could reduce its monthly purchases of bonds and mortgage-backed securities sooner than expected. As a result, the market values of municipal bonds, mortgage-backed securities, and other investments, due to their longer term nature, were negatively impacted. In addition, on July 31, 2013, the Company repurchased its outstanding warrant to purchase 137,966 shares of the Company's common stock at $19.57 per share from the U.S. Treasury at a fair market value of $50,000. As a result of the transaction the warrant was canceled which reduced warrants outstanding by $400,000 and increased additional paid in capital by $350,000.

The Company's net income available for common shareholders was $2.2 million for the nine months ended September 30, 2013, after payment of $330,000 in preferred stock dividends. The Board of Directors of the Company declared common stock dividends totaling $707,000 during the nine months ended September 30, 2013. Book value per common share was $18.85 at September 30, 2013 and $20.45 at December 31, 2012.

Results of Operations for the Three Month Periods Ended September 30, 2013 and 2012

Net Income Available to Common Shareholders - Net income available to common shareholders increased $352,000 or 62.9% to $912,000 or $0.31 per diluted common share for the three months ended September 30, 2013 compared to $560,000 or $0.19 per diluted common share for the three months ended September 30, 2012. The increase in net income was primarily the result of a $260,000 increase in non-interest income and a $406,000 decline in general and administrative expense offset partially by a $199,000 decrease in net interest income after the provision for loan losses.

Net Interest Income - The net interest margin increased 21 basis points to 3.04% for the three months ended September 30, 2013 from 2.83% for the comparable period in 2012 as the decline in the average cost of interest-bearing liabilities outpaced the decline in the average yield earned on interest-earning assets. Net interest income increased $101,000 or 1.7% to $5.9 million during the three months ended September 30, 2013, compared to $5.8 million for the same period in 2012. During the three months ended September 30, 2013, average interest earning assets decreased $28.1 million or 3.4% to $804.4 million while average interest-bearing liabilities decreased $48.8 million or 6.3% to $723.5 million.


SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition and Results of Operations

Interest Income - Total tax equivalent interest income decreased $458,000 or 5.5% to $7.9 million during the three months ended September 30, 2013 from $8.4 million for the same period in 2012. This decrease was primarily the result of the decrease in interest-earning assets. Total interest income on loans decreased $603,000 or 10.1% to $5.4 million during the three months ended September 30, 2013 from $6.0 million during the comparable period in 2012 as a result of the average loan portfolio balance decreasing $40.3 million or 9.8% to $369.7 million combined with the yield on the loan portfolio decreasing one basis point to 5.82%. Interest income from mortgage-backed securities decreased $282,000 or 17.2% to $1.4 million from $1.6 million for the same period in 2012 as a result of a 26 basis point decrease in the portfolio yield combined with a $20.5 million decrease in the average balance. Tax equivalent interest income from investment securities increased $427,000 or 58.0% to $1.2 million as a result of an increase of 57 basis points in the yield combined with an increase of $33.7 million in the average balance of the investment securities portfolio.

The following table compares detailed average balances, associated yields, and the resulting changes in interest income for the three months ended September 30, 2013 and 2012:

                                              Three Months Ended September 30,
                                  2013                              2012
                        Average Balance   Yield(1)        Average Balance    Yield(1)       Increase
                                                                                         (Decrease) In
                                                                                          Interest And
                                                                                            Dividend
                                                                                          Income From
                                                                                              2012
Loans Receivable, Net $     369,685,192      5.82 %   $      409,960,775        5.83 % $    (603,380)
Mortgage-Backed             245,876,609      2.21            266,336,834        2.47        (281,577)
Securities
Investment                  183,338,969      2.54            149,601,065        1.97          426,917
Securities(2)
Overnight Time And
  Certificates of
Deposit                       5,487,687      0.16              6,561,662        0.14              (14 )
Total                 $     804,388,457      3.93 %   $      832,460,336        4.02 % $    (458,054)
Interest-Earning
Assets

(1) Annualized
(2) Tax equivalent basis is calculated using an effective tax rate of 34% and amounted to $196,678 and $88,977 for the quarters ended September 30, 2013 and 2012, respectively.

Interest Expense - Total interest expense decreased $667,000 or 27.1% to $1.8 million during the three months ended September 30, 2013 compared to $2.5 million for the same period last year. The decrease in total interest expense was attributable to decreases in interest rates paid and a $48.8 million decrease in the average balance of interest-bearing liabilities. Interest . . .

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