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CBNJ > SEC Filings for CBNJ > Form 10-K on 11-Mar-2014All Recent SEC Filings

Show all filings for CAPE BANCORP, INC.

Form 10-K for CAPE BANCORP, INC.


11-Mar-2014

Annual Report


ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Overview/Business Strategy

Cape Bank was organized in 1923. Over the years, we have expanded primarily through internal growth. On January 31, 2008, we completed our mutual-to-stock conversion and initial public stock offering, and our acquisition of Boardwalk Bancorp and Boardwalk Bank. The merger resulted in a well-capitalized community oriented bank with a significant commercial loan presence and an experienced executive management team. For the three years prior to the merger both banks had experienced strong asset quality and financial performance. The severe economic recession affected the merged financial institution as a whole, as well as the loan portfolios of each of the constituent banks to the merger. At December 31, 2013, we had total assets of $1.093 billion.

Our principal business is acquiring deposits from individuals and businesses in the communities surrounding our offices and using these deposits to fund loans and other investments. More specifically, we offer personal and business checking accounts, commercial mortgage loans, construction loans, home equity loans and lines of credit and other types of commercial and consumer loans. Our customers consist primarily of individuals and small and mid-sized businesses. At December 31, 2013, our retail market area primarily included the area surrounding our 15 offices located in Cape May and Atlantic Counties, New Jersey.

During 2014, Cape Bank will focus on the following initiatives:

- Core deposit gathering , both retail and commercial

- Continue building commercial loan relationships

- Continue efforts to effectively manage the Bank's capital

- Build core earnings

- Continue efforts to reduce nonperforming assets

- Effectively utilize new core processors functionality with an emphasis on digital delivery

Core deposit gathering, both retail and commercial:

The Company recognizes the value associated with strong core deposits and has built company-wide incentive programs to achieve this initiative. Both retail and commercial deposits will be focused on through advertising, branch programs, commercial loan calling officers and digital media. Deposit products will be designed to attract new deposit customers and retain existing ones.

Continue building commercial loan relationships:

Cape Bank has had good success in building strong commercial loan relationships during the past several years. This has been the result of building a seasoned group professional and knowledgeable staff combined with market driven products. The Company's expansion into Burlington County in 2010 and the Philadelphia metro market in 2013 has produced better than anticipated results. Efforts will be made to continue to attract quality commercial lending staff as well as maximizing the efforts of the existing staff, while remaining flexible with product structure to adapt to market conditions.

Continue efforts to effectively manage the Company's capital:

Despite the Company's problems with credit since the recession, we were able to maintain a strong capital position. With troubled assets posing a reduced concern, the Company reassessed the level of capital and believed a continued active management would be appropriate. The Company began paying a quarterly cash dividend in the fourth quarter of 2012 and increased that dividend from $.05 per share to $.06 per share in the fourth quarter of 2013. Additionally, during 2013, the Company completed two 5% stock buyback programs and announced a third 5% buyback program in December 2013. On January 20, 2014, the Company, with the approval of the regulators, declared a $0.06 per common share cash dividend to shareholders of record on February 3, 2014. The dividend was paid on February 17, 2014.

Build core earnings:

During the economic downturn, Bank values were often a reflection of the perceived adequacy of equity often through the metric of tangible book value. Uncertainty with the economy in general, and with credit in particular, made capital a handy heuristic to gauge the soundness of a Bank.


These macro concerns have been receding as more institutions have gotten on sounder footing. As a result, valuations have begun to focus on earnings as a driver of value. In particular, core earnings are becoming an increasingly important metric.

Management recognizes this development and has made growth in core earnings an integral part of the 2014 Strategic Plan.

Continue efforts to reduce non-performing assets:

Management was able to reduce the level of non-performing assets during 2013 and believes that continued efforts to reduce them further will provide value to the shareholders. Several of the larger troubled credits have moved to OREO as the Bank attempts to move these properties promptly. This area will continue to receive attention in 2014.

Effectively utilize new core processors functionality with an emphasis on digital delivery:

The Bank made a smooth transition to our new core processor, FISERV, in the 4th quarter of 2013. The Bank believes that customers are requiring access to and communication from their financial service providers through a multitude of both physical and electronic delivery channels. During 2014, the Bank will maximize its opportunities to provide products and services via multiple delivery channels offered through FISERV and other available sources.

2014 Outlook

Our market area has been affected by the recession and the modest recovery. There has been a number of economic indicators that have shown improvement in 2013 when compared to 2012. Such as; unemployment in Atlantic and Cape May County was 10.4% and 13.0%, respectively, as of December 2013, an improvement from 2012 levels of 14.3% and 16.2%, respectively. Residential real estate values remained relatively flat in 2013 compared to 2012, in both Atlantic and Cape May Counties. Additionally, the number of residential building permits issued increased in both number and amounts in both Atlantic and Cape May Counties.

Income. Our primary source of 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 market interest rates affect our net interest income.

The Bank's net interest margin was 3.76% for 2013. This was achieved through active management of deposit pricing and steps taken to restructure borrowings during 2012.. Throughout the recession and the recovery, FOMC policy has been effective in keeping short term interest rates low while long term rates have been at historically low rates, arguably aided by the FOMC quantitative easing programs. We have taken advantage of these lower rates and have reduced deposit costs on both term deposits and transaction accounts. For the year ended December 31, 2013, the Bank's cost of deposits was 0.42%, down from 0.65% for the year ended December 31, 2012. We anticipate that 2014 will not see any further reduction in the cost of deposits as the Bank has exhausted these opportunities and has begun to see some pricing pressure given the demand for deposits throughout the industry.

While the yield curve afforded opportunity to dramatically reduce the cost of liabilities, it also had the impact of reducing the yield on earning assets. During 2013, the yield on earning assets declined from 4.61% for the year ended December 31, 2012 to 4.32% for the year ended December 31, 2013. We plan on continuing to grow the Bank's commercial loan portfolio and thus increasing earning assets in 2014. The very competitive market will lessen our ability to price loans at the levels we would prefer.

The Bank's non-interest income comes predominately from fees on deposit products. We expect to maintain our current fee structure in 2014 and anticipate a level of income comparable to our 2013 performance.

Allowance for Loan Losses. The amount of the allowance for loan losses is based on management's judgment of probable losses, and the ultimate losses may vary from such estimates as more information becomes available or conditions change.

Expenses. The non-interest expenses we incur in operating our business consist of salaries and employee benefits expenses, data processing expenses, occupancy expenses, depreciation, amortization and maintenance expenses and other miscellaneous expenses, such as advertising, insurance, professional services and printing and supplies expenses.

Our largest non-interest expense is salaries and employee benefits, which consist primarily of salaries and wages paid to our employees, payroll taxes, and expenses for health insurance, retirement plans and other employee benefits. We will recognize additional annual employee compensation expenses from our employee stock ownership plan, our Equity Incentive Plan and any additional stock-based benefit plans that we may adopt in the future.


We anticipate costs savings during 2014, and beyond, as a result of the converting our core processing system to FISERV during Q4 of 2013. Additionally, we will save in compensation expense as a result of closing the residential mortgage loan origination function in Q4 of 2013, which resulted in the reduction of 18 full time equivalents.

Growth and Expansion. In 2014, we have limited plans for expansion, with no new market development offices ("MDOs") planned at this time. The Bank will be opportunistic if circumstance arise that would be of potential value to the Bank. The Bank has enjoyed success from the opening of a MDO in Burlington County, New Jersey in late 2010. This office has become the customer prototype for MDOs. In addition to our Burlington MDO, we opened an MDO in Radnor, Pennsylvania (March 2013).

Critical Accounting Policies

In the preparation of our consolidated financial statements, we have adopted various accounting policies that govern the application of accounting principles generally accepted in the United States. Our significant accounting policies are described in Note 2 of the Notes to Consolidated Financial Statements.

Certain accounting policies involve significant judgments and assumptions by us that have a material impact on the carrying value of certain assets and liabilities. We consider these accounting policies to be critical accounting policies. The judgments and assumptions we use are based on historical experience and other factors, which we believe to be reasonable under the circumstances. Actual results could differ from these judgments and estimates under different conditions, resulting in a change that could have a material impact on the carrying values of our assets and liabilities and our results of operations.

Allowance for Loan Losses. We consider the allowance for loan losses to be a critical accounting policy. The allowance for loan losses is the amount estimated by management as necessary to cover losses inherent in the loan portfolio at the balance sheet date. The allowance is established through the provision for loan losses, which is charged to income. Determining the amount of the allowance for loan losses necessarily involves a high degree of judgment.

In evaluating the allowance for loan losses, management considers historical loss factors, the mix of the loan portfolio (types of loans and amounts), geographic and industry concentrations, current national and local economic conditions and other factors related to the collectability of the loan portfolio, including underlying collateral values and estimated future cash flows. All of these estimates are susceptible to significant change. Groups of homogenous loans are evaluated in the aggregate under FASB ASC Topic No. 450 Contingencies, using historical loss factors adjusted for economic conditions and other environmental factors. Other environmental factors include trends in delinquencies and classified loans, loan concentrations by loan category and by property type, seasonality of the portfolio, internal and external analysis of credit quality, and single and total credit exposure. Certain loans that indicate underlying credit or collateral concerns may be evaluated individually for impairment in accordance with FASB ASC Topic No. 310 Receivables. If a loan is impaired and repayment is expected solely from the collateral, the difference between the outstanding balance and the value of the collateral will be charged off. For potentially impaired loans where the source of repayment may include other sources of repayment from third parties, the evaluation may include these potential sources of repayment and indicate the need for a specific reserve for any potential shortfall. This evaluation is inherently subjective, as it requires estimates that are susceptible to significant revision as more information becomes available or as projected events change.

Management reviews the level of the allowance quarterly. Although we believe that we use the best information available to establish the allowance for loan losses, future adjustments to the allowance may be necessary if economic conditions differ substantially from the assumptions used in making the evaluation. In addition, the FDIC and the New Jersey Department of Banking and Insurance, as an integral part of their examination process, periodically review our allowance for loan losses. Such agencies may require us to recognize adjustments to the allowance based on judgments about information available to them at the time of their examination. A large loss could deplete the allowance and require increased provisions to replenish the allowance, which would adversely affect earnings. See Note 2 - Summary of Significant Accounting Policies of the Notes to Consolidated Financial Statements.

Securities Impairment. Beginning 2013, the Company's investment portfolio included twenty-two securities in pooled trust preferred collateralized debt obligations, fourteen of which had been principally issued by bank holding companies, and eight of which had been principally issued by insurance companies.. All of the aforementioned securities had below investment grade credit ratings.

Through December 31, 2012, all fourteen of the bank-issued pooled trust preferred collateralized debt obligation securities had OTTI recognized in earnings due to credit impairment. Of those securities, eleven have been completely written-off and the three remaining bank-issued CDOs had a total book value of $524,000 and a fair value of $564,000 at December 31, 2012. At December 31, 2012, the CDO securities principally issued by insurance companies, none of which have had OTTI charges, had an aggregate book value of $7.7 million and a fair value of $4.1million.


In December 2013 the Bank sold all of the CDO securities principally issued by insurance companies as well as the three remaining CDO securities that had been principally issued by bank holding companies. At the time of sale, these securities had an aggregate book value of $8.3 million and the Bank recorded an $851,000 loss on the sale. Additionally, in February 2014, the Bank sold the eleven CDO securities that had been fully written-off for $1.9 million.

Income Taxes. The Company is subject to the income and other tax laws of the United States and the State of New Jersey. These laws are complex and are subject to different interpretations by the taxpayer and the various taxing authorities. In determining the provisions for income and other taxes, management must make judgments and estimates about the application of these inherently complex laws, related regulations and case law. In the process of preparing the Company provision and tax returns, management attempts to make reasonable interpretations of applicable tax laws. These interpretations are subject to challenge by the taxing authorities upon audit or to reinterpretation based on management's ongoing assessment of facts and evolving case law.

The Company and its subsidiaries file a consolidated federal income tax return and separate entity state income tax returns. The provision for federal and state income taxes is based on income and expenses, as reported in the consolidated financial statements, rather than amounts reported on the Company's federal and state income tax returns. When income and expenses are recognized in different periods for tax purposes than for book purposes, applicable deferred tax assets and liabilities are recognized for the future tax consequences attributable to the differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized as income or expense in the period that includes the enactment date.

On a quarterly basis, management assesses the reasonableness of its effective federal and state tax rate based upon its current best estimate of net income and the applicable taxes expected for the full year.

Comparison of Financial Condition at December 31, 2013 and December 31, 2012

The Company's total assets at December 31, 2013 totaled $1.093 billion, an increase of $52.0 million, or 5.00%, from the December 31, 2012 level of $1.041 billion. The increase was primarily attributable to an increase in net loans of $65.7 million. Investment securities decreased $4.6 million.

Cash and cash equivalents increased $633,000, or 2.61%, to $24.9 million at December 31, 2013 from $24.2 million at December 31, 2012. Interest-bearing time deposits decreased $74,000 or 0.80%, to $9.2 million at December 31, 2013 from $9.3 million at December 31, 2012. The Company invests in time deposits of other banks generally for terms ranging from one to two years and not to exceed $250,000, which is the amount currently insured by the Federal Deposit Insurance Corporation.

Total loans increased $65.2 million, or 9.00%, to $789.5 million at December 31, 2013 from $724.2 million at December 31, 2012. Net loans increased $65.7 million, net of a decrease in the allowance for loan losses of $522,000. Commercial loans increased $44.6 million, or 10.12% and residential mortgage loans increased $22.7 million, or 9.61%, as the Bank retained approximately 68% of originations made during the year. An increase in commercial loan activity within our market resulted in net growth of $44.6 million. Consumer loans declined $2.1 million.

At December 31, 2013, the Company had $7.3 million in non-performing loans, or 0.93% of total loans, compared to $19.4 million, or 2.67% of total loans, at December 31, 2012. Included in non-performing loans are troubled debt restructurings totaling $881,000 at December 31, 2013 and $3.5 million at December 31, 2012, respectively. At December 31, 2013, non-performing loans by loan portfolio category were as follows: $5.2 million of commercial mortgage loans; $1.1 million of residential mortgage loans; $498,000 of commercial business loans; and $461,000 of home equity loans. Loan charge-offs and write-downs on loans transferred to HFS for the year ended December 31, 2013 totaled $2.8 million. Loans transferred to OREO during 2013 totaled $6.5 million. Delinquent loans decreased $6.15 million to $9.83 million or 1.24% of total gross loans at December 31, 2013 from $15.98 million, or 2.20% of total loans at December 31, 2012. Total delinquent loans by portfolio at December 31, 2013 were $6.0 million of commercial mortgages, $2.3 million of residential mortgages, $497,000 of commercial business loans, $1.0 million of home equity loans, and $7,000 of other consumer loans. Delinquent loan balances by number of days delinquent were: 31 to 59 days - $896,000; 60 to 89 days - $2.2 million; and 90 days and greater - $6.7 million.

At December 31, 2013, non-performing commercial loans had collateral type concentrations of $3.4 million (8 loans or 59%) secured by retail stores; $885,000 (5 loans or 16%) secured by residential, duplex and multi-family properties; $563,000 (1 loan or 10%) secured by B&B and hotels; $365,000 (1 loan or 6%) secured by commercial buildings and equipment; $336,000 (1 loan or 6%) secured by restaurant properties; and $198,000 (2 loans or 3%) secured by land and building lots. The three largest relationships in this category of non-performing loans are $1.8 million, $563,000, and $374,000.


We believe we have appropriately charged-off, written-down or established adequate loss reserves on problem loans that we have identified. For 2014, we anticipate a gradual decrease in the amount of problem assets as we have disposed of assets collateralizing loans that have gone through foreclosure. We are aggressively managing all loan relationships, and where necessary, we will continue to apply our loan work-out experience to protect our collateral position and actively negotiate with mortgagors to resolve these non-performing loans.

Total investment securities decreased $4.6 million, or 2.68%, to $166.3 million at December 31, 2013 from $170.9 million at December 31, 2012. At December 31, 2013, AFS securities totaled $157.2 million and HTM securities totaled $9.1 million. Investment securities are classified as HTM when management has the positive intent and ability to hold them to maturity. In September 2013, the Bank reclassified a portion of the AFS securities as HTM, as these securities may be particularly susceptible to changes in fair value in the near term as a result of market volatility. At December 31, 2012, all of the Company's investment securities totaling $170.9 million were classified as AFS. The decrease in the portfolio is primarily a result of investment security sales including the December 2013 sale of the remaining trust preferred CDO securities that had a book balance of greater than zero. The Company also experienced additional OTTI related to its bank-issued CDOs portfolio during the year ended December 31, 2012 and recorded an $8,000 charge to earnings related to the credit loss portion of impairment. There was no additional OTTI recorded for the year 2013. On February 27, 2014, the Company sold its remaining CDO portfolio which had a book balance of zero, and, as a result, recorded a $1.9 million pre-tax gain on the sale.

Total deposits increased $13.8 million, or 1.76%, to $798.4 million at December 31, 2013, from $784.6 million at December 31, 2012. The increase is attributable to a $30.6 million, or 12.81%, increase in certificates of deposit from $238.6 million at December 31, 2012 to $269.2 million at December 31, 2013, partially offset by a decrease of $16.0 million in core deposits. Interest-bearing checking accounts and money market accounts increased $12.8 million, or 3.53%, to $350.7 million at December 31, 2013 from $363.5 million at December 31, 2012. This decrease was attributable to decreases in personal money market deposit accounts of $26.0 million primarily resulting from a decline in interest rates paid and decreases in commercial money market accounts of $11.3 million primarily resulting from fluctuations in large balance accounts, partially offset by increases in municipal interest-bearing checking accounts of $9.6 million, or 12.08%, commercial interest-bearing checking of $8.4 million, or 50.14%, and increases in personal interest bearing checking accounts of $6.5 million, or 7.13%. Non-interest bearing checking accounts decreased $3.0 million, or 3.62%, to $79.7 million at December 31, 2013 from $82.7 million at December 31, 2012. Savings deposit accounts totaled $96.0 million at December 31, 2013 and $96.2 million at December 31, 2012.

Total borrowings increased $46.0 million, or 46.92%, to $143.9 million at December 31, 2013 from $98.0 million at December 31, 2012. This primarily resulted from an increase in the FHLB overnight borrowing of $60.0 million. In June 2012, the Company extinguished $20.0 million in FHLB of NY fixed rate term borrowings which had a weighted average rate of 3.44% and maturity dates ranging from August 2013 through February 2014. The prepayment of these borrowings will be accretive to net interest income through the first quarter of 2014. In addition, in August 2012, the Company restructured an additional $54.0 million in borrowings, significantly lowering the cost of funds. As a result of both restructurings, net interest income is projected to increase by $1.3 million annually and the net interest margin will benefit by 22 basis points annually. At December 31, 2013, our borrowings to assets ratio increased to 13.2% from 9.4% at December 31, 2012 primarily resulting from the previously mentioned increase in the overnight borrowing. Borrowings to total liabilities increased to 15.1% at December 31, 2013 from 11.0% at December 31, 2012.

Stockholders' equity decreased $10.4 million, or 6.89%, to $140.4 million at December 31, 2013, from $150.8 million at December 31, 2012. The decrease in equity was primarily attributable to $12.0 million decrease related to the Company's stock repurchase programs and an increase of $2.3 million in the accumulated other comprehensive loss, partially offset by a net increase of $3.1 million (earnings less dividends declared) in retained earnings. At December 31, 2013, stockholders' equity totaled $140.4 million, or 12.85% of total assets, and tangible equity totaled $117.6 million or 10.99% of total tangible assets.

Comparison of Operating Results for the Years Ended December 31, 2013 and 2012

General. The Company recorded net income of $5.6 million, or $0.47 per common share and $0.46 per fully diluted share for the year ended December 31, 2013 compared to net income of $4.6 million, or $0.37 per common and fully diluted share for the year ended December 31, 2012. Pre-tax income increased $2.6 million year-over-year primarily resulting from a reduction in the loan loss provision of $2.5 million., an increase in net interest income of $265,000, increases in net gains on the sale of loans of $799,000, net gains on the sale of OREO of $341,000, lower OREO expenses of $809,000, lower loan related expenses of $686,000, and a reduction of $485,000 in Federal deposit insurance premiums. In addition, the full year 2012 included a $921,000 prepayment penalty of related to the previously disclosed debt extinguishment in the second quarter of 2012. These positive factors were partially offset by net securities losses of $561,000 in 2013 compared to net securities gains totaling $1.6 million for the same 2012 period, a reduction in the gain on sale of bank premises of $425,000, and an increase in salaries and employee benefits totaling $1.5 million primarily attributable to incentive based compensation programs, the expansion of the commercial loan functions and severance costs related to the exiting of our residential mortgage loan origination business.


Interest Income. Interest income decreased $2.6 million, or 6.06%, to $41.0 million for the year ended December 31, 2013, from $43.7 million for the year ended December 31, 2012. The decrease for the year resulted from a $1.8 million, or 4.67%, decrease in interest income on loans. Average loan balances for the year ended December 31, 2013 increased $13.3 million, or 1.80% to $748.7 million from $735.4 million for the year ended December 31, 2012. However, the average yield on loans declined 34 basis points to 4.95% for the year ended December 31, 2013 compared to 5.29% for the year ended December 31, 2012, reflecting a lower interest rate environment and the impact of non-accruing loans on interest income. For the year ended December 31, 2013, loan charge-offs totaled $2.8 million and loans transferred to OREO totaled $6.5 million. The amount of interest income that would have been recorded had our non-accruing loans been current in accordance with their original terms approximated $719,000 for the year ended December 31, 2013 compared to $1.3 million for the year ended December 31, 2012.

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