--------------------------------------------------------------------------------
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[ x ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2008
-------------
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _____________ to _____________
Commission File Number: 000-18464
---------
EMCLAIRE FINANCIAL CORP.
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(Exact name of registrant as specified in its charter)
Pennsylvania 25-1606091
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(State or other jurisdiction (IRS Employer Identification No.)
of incorporation or organization)
612 Main Street, Emlenton, Pennsylvania 16373
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(Address of principal executive offices) (Zip Code)
(724) 867-2311
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(Registrant's telephone number)
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(Former name, former address and former fiscal year, if changed since
last report)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes |X| No |_|
Indicate by check mark whether the registrant is a large accelerated filer,
an accelerated filer, a non-accelerated filer or a smaller reporting company as
defined in Rule 12b-2 of the Exchange Act.
Large accelerated filer |_| Accelerated filer |_| Non-accelerated filer |_|
Smaller reporting company |X|
Indicate by check mark whether the registrant is a shell company (as defined
in Rule 12b-2 of the Exchange Act). Yes |_| No |X|
The number of shares outstanding of the Registrant's common stock was
1,267,835 at August 14, 2008.
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EMCLAIRE FINANCIAL CORP.
INDEX TO QUARTERLY REPORT ON FORM 10-Q
PART I - FINANCIAL INFORMATION
------------------------------
Item 1. Interim Financial Statements (Unaudited)
Consolidated Balance Sheets as of
June 30, 2008 and December 31, 2007.................................1
Consolidated Statements of Income for the three and six
months ended June 30, 2008 and 2007.................................2
Condensed Consolidated Statements of Cash Flows for the six
months ended June 30, 2008 and 2007.................................3
Consolidated Statements of Changes in Stockholders'
Equity for the three and six months ended June 30, 2008 and 2007....4
Notes to Consolidated Financial Statements..........................5
Item 2. Management's Discussion and Analysis
of Financial Condition and Results of Operations...................12
Item 3. Quantitative and Qualitative Disclosures About Market Risk.........23
Item 4T. Controls and Procedures............................................24
PART II - OTHER INFORMATION
---------------------------
Item 1. Legal Proceedings..................................................24
Item 1A. Risk Factors.......................................................25
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds........25
Item 3. Defaults Upon Senior Securities....................................25
Item 4. Submission of Matters to a Vote of Security Holders................25
Item 5. Other Information..................................................25
Item 6. Exhibits...........................................................25
Signatures ...................................................................26
PART I - FINANCIAL INFORMATION
------------------------------
Item 1. Interim Financial Statements
-------------------------------------
Emclaire Financial Corp. and Subsidiary
Consolidated Balance Sheets
As of June 30, 2008 (Unaudited) and December 31, 2007
(Dollar amounts in thousands, except share data)
June 30, December 31,
2008 2007
------------ ------------
Assets
------
Cash and due from banks $ 7,654 $ 10,288
Interest earning deposits with banks 3,463 195
------------ ------------
Cash and cash equivalents 11,117 10,483
Securities available for sale, at fair value 61,942 51,919
Loans receivable, net of allowance for loan losses of $2,301 and $2,157 241,855 229,819
Federal bank stocks, at cost 2,849 2,662
Bank-owned life insurance 5,086 4,987
Accrued interest receivable 1,291 1,365
Premises and equipment, net 8,016 7,904
Goodwill 1,422 1,422
Prepaid expenses and other assets 1,152 1,159
------------ ------------
Total Assets $ 334,730 $ 311,720
============ ============
Liabilities and Stockholders' Equity
------------------------------------
Liabilities:
Deposits:
Non-interest bearing $ 51,427 $ 47,111
Interest bearing 207,606 197,151
------------ ------------
Total deposits 259,033 244,262
Short-term borrowed funds 13,651 5,400
Long-term borrowed funds 35,000 35,000
Accrued interest payable 753 771
Accrued expenses and other liabilities 1,288 1,584
------------ ------------
Total Liabilities 309,725 287,017
------------ ------------
Commitments and Contingencies -- --
Stockholders' Equity:
Preferred stock, $1.00 par value, 3,000,000 shares authorized;
none issued -- --
Common stock, $1.25 par value, 12,000,000 shares authorized;
1,395,852 shares issued; 1,267,835 shares outstanding 1,745 1,745
Additional paid-in capital 10,954 10,902
Treasury stock, at cost; 128,017 shares (2,653) (2,653)
Retained earnings 15,403 15,114
Accumulated other comprehensive loss (444) (405)
------------ ------------
Total Stockholders' Equity 25,005 24,703
------------ ------------
Total Liabilities and Stockholders' Equity $ 334,730 $ 311,720
============ ============
See accompanying notes to consolidated financial statements.
1
Emclaire Financial Corp. and Subsidiary
Consolidated Statements of Income
For the three and six months ended
June 30, 2008 and 2007 (Unaudited)
(Dollar amounts in thousands, except per share data)
For the three months ended For the six months ended
June 30, June 30,
------------------------------ ------------------------------
2008 2007 2008 2007
------------- ------------- ------------- -------------
Interest and dividend income:
Loans receivable, including fees $ 3,929 $ 3,788 $ 7,858 $ 7,392
Securities:
Taxable 412 419 789 783
Exempt from federal income tax 161 172 323 345
Federal bank stocks 25 21 55 71
Deposits with banks 36 16 59 137
------------- ------------- ------------- -------------
Total interest and dividend income 4,563 4,416 9,084 8,728
------------- ------------- ------------- -------------
Interest expense:
Deposits 1,554 1,568 3,126 3,235
Borrowed funds 445 350 851 686
------------- ------------- ------------- -------------
Total interest expense 1,999 1,918 3,977 3,921
------------- ------------- ------------- -------------
Net interest income 2,564 2,498 5,107 4,807
Provision for loan losses 85 30 145 75
------------- ------------- ------------- -------------
Net interest income after provision for loan losses 2,479 2,468 4,962 4,732
------------- ------------- ------------- -------------
Noninterest income:
Fees and service charges 407 391 765 716
Commissions on financial services 127 81 245 243
Net gain (loss) on available for sale securities (275) 118 (275) 176
Net gain (loss) on sales of loans (6) 7 8 7
Earnings on bank-owned life insurance 57 54 113 108
Other 186 121 301 253
------------- ------------- ------------- -------------
Total noninterest income 496 772 1,157 1,503
------------- ------------- ------------- -------------
Noninterest expense:
Compensation and employee benefits 1,283 1,245 2,700 2,550
Premises and equipment 418 401 839 801
Other 592 690 1,169 1,295
------------- ------------- ------------- -------------
Total noninterest expense 2,293 2,336 4,708 4,646
------------- ------------- ------------- -------------
Income before provision for income taxes 682 904 1,411 1,589
Provision for income taxes 141 197 311 331
------------- ------------- ------------- -------------
Net income $ 541 $ 707 $ 1,100 $ 1,258
============= ============= ============= =============
Basic and diluted earnings per share $ 0.43 $ 0.56 $ 0.87 $ 0.99
Average common shares outstanding 1,267,835 1,267,835 1,267,835 1,267,835
See accompanying notes to consolidated financial statements.
2
Emclaire Financial Corp. and Subsidiary
Condensed Consolidated Statements of Cash Flows
For the six months ended June 30, 2008 and 2007 (Unaudited)
(Dollar amounts in thousands)
For the six months ended
June 30,
------------------------
2008 2007
---------- ----------
Cash flows from operating activities
Net income $ 1,100 $ 1,258
Adjustments to reconcile net income to net cash provided
by operating activities:
Depreciation and amortization of premises and equipment 342 332
Provision for loan losses 145 75
Amortization of premiums and accretion of discounts, net (84) 6
Amortization of intangible assets and mortgage servicing rights 5 8
Amortization of deferred loan costs 156 126
Realized (gains) losses on sales of available for sale securities, net 275 (176)
Net gains on sales of loans (8) (7)
Originations of loans sold (1,263) (603)
Proceeds from the sale of loans 1,261 605
Stock compensation expense 52 1
Earnings on bank owned life insurance, net (99) (95)
Decrease (increase) in accrued interest receivable 74 (5)
Decrease (increase) in prepaid expenses and other assets 22 (237)
Decrease in accrued interest payable (18) (104)
Increase (decrease) in accrued expenses and other liabilities (297) 643
---------- ----------
Net cash provided by operating activities 1,663 1,827
---------- ----------
Cash flows from investing activities
Loan originations and principal collections, net (12,331) (7,005)
Available for sale securities:
Sales -- 989
Maturities, repayments and calls 45,440 9,256
Purchases (55,708) (11,693)
Purchase of federal bank stocks (187) (176)
Purchases of premises and equipment (454) (186)
---------- ----------
Net cash used in investing activities (23,240) (8,815)
---------- ----------
Cash flows from financing activities
Net increase (decrease) in deposits 14,771 (4,524)
Net increase in short-term borrowed funds 8,251 1,700
Dividends paid on common stock (811) (735)
---------- ----------
Net cash provided by (used in) financing activities 22,211 (3,559)
---------- ----------
Net increase (decrease) in cash and cash equivalents 634 (10,547)
Cash and cash equivalents at beginning of period 10,483 16,717
---------- ----------
Cash and cash equivalents at end of period $ 11,117 $ 6,170
========== ==========
Supplemental information:
Interest paid $ 3,995 $ 4,025
Income taxes paid 180 126
Supplemental noncash disclosure:
Transfers from loans to foreclosed real estate 44 --
See accompanying notes to consolidated financial statements.
3
Emclaire Financial Corp. and Subsidiary
Consolidated Statements of Changes in
Stockholders' Equity For the three and six
months ended June 30, 2008 and 2007 (Unaudited)
(Dollar amounts in thousands, except per share data)
For the three months ended For the six months ended
June 30, June 30,
------------ ------------ ------------ ------------
2008 2007 2008 2007
------------ ------------ ------------ ------------
Balance at beginning of period $ 25,086 $ 24,069 $ 24,703 $ 23,917
Net income 541 707 1,100 1,258
Other comprehensive income (loss):
Change in net unrealized gains (losses) on available
for sale securities, net of taxes (429) (341) (221) (335)
Less reclassification adjustment for (gains) losses
included in net income, net of taxes 182 (78) 182 (116)
------------ ------------ ------------ ------------
Other comprehensive loss (247) (419) (39) (451)
------------ ------------ ------------ ------------
Total comprehensive income 294 288 1,061 807
Stock compensation expense 31 1 52 1
Dividends declared (406) (368) (811) (735)
------------------------------------------------------------
Balance at end of period $ 25,005 $ 23,990 $ 25,005 $ 23,990
============ ============ ============ ============
Common cash dividend per share $ 0.32 $ 0.29 $ 0.64 $ 0.58
============ ============ ============ ============
See accompanying notes to consolidated financial statements.
4
Emclaire Financial Corp. and Subsidiary
Notes to Consolidated Financial Statements (Unaudited)
1. Nature of Operations and Basis of Presentation.
Emclaire Financial Corp. (the "Corporation") is a Pennsylvania company
organized as the holding company of Farmers National Bank of Emlenton
(the "Bank"). The Corporation provides a variety of financial services
to individuals and businesses through its offices in western
Pennsylvania. Its primary deposit products are checking, savings and
certificate of deposit accounts and its primary lending products are
residential and commercial mortgages, commercial business and consumer
loans.
The consolidated financial statements include the accounts of the
Corporation and its wholly owned subsidiary, the Bank. All intercompany
transactions and balances have been eliminated in preparing the
consolidated financial statements.
The accompanying unaudited consolidated financial statements for the
interim periods include all adjustments, consisting of normal recurring
accruals, which are necessary, in the opinion of management, to fairly
reflect the Corporation's consolidated financial position and results
of operations. Additionally, these consolidated financial statements
for the interim periods have been prepared in accordance with
instructions for the Securities and Exchange Commission's Form 10-Q and
therefore do not include all information or footnotes necessary for a
complete presentation of financial condition, results of operations and
cash flows in conformity with accounting principles generally accepted
in the United States of America. For further information, refer to the
audited consolidated financial statements and footnotes thereto for the
year ended December 31, 2007, as contained in the Corporation's 2007
Annual Report of Form 10-K filed with the Securities and Exchange
Commission.
The balance sheet at December 31, 2007 has been derived from the
audited financial statements at that date but does not include all the
information and footnotes required by generally accepted accounting
principles for complete financial statements.
The preparation of financial statements, in conformity with accounting
principles generally accepted in the United States of America, requires
management to make estimates and assumptions that affect the reported
amounts in the consolidated financial statements and accompanying
notes. Actual results could differ from those estimates. Material
estimates that are particularly susceptible to significant change in
the near term relate to the determination of the allowance for loan
losses. The results of operations for interim quarterly or year to date
periods are not necessarily indicative of the results that may be
expected for the entire year or any other period. Certain amounts
previously reported may have been reclassified to conform to the
current year's financial statement presentation.
2. Earnings per Common Share.
Basic earnings per common share (EPS) excludes dilution and is computed
by dividing net income by the weighted average number of common shares
outstanding during the period. Diluted EPS reflects the potential
dilution that could occur if securities or contracts to issue common
stock were exercised or converted into common stock or resulted in the
issuance of common stock that then shared in the earnings of the
Corporation. Options on 85,000 shares of common stock were not included
in computing diluted earnings per share because their effects were not
dilutive for the three and six months periods ended June 30, 2008 and
2007.
5
3. Securities.
The Corporation's securities as of the respective dates are summarized
as follows:
-------------------------------------------------------------------------------------------------------
(Dollar amounts in thousands) Amortized Unrealized Unrealized Fair
cost gains losses value
-------------------------------------------------------------------------------------------------------
Available for sale:
-------------------
June 30, 2008:
U.S. Government agencies and related entities $ 20,987 $ 114 $ (44) $ 21,057
Mortgage-backed securities 20,485 52 (53) 20,484
Municipal securities 13,686 430 -- 14,116
Corporate securities 3,001 -- (4) 2,997
Equity securities 3,990 -- (702) 3,288
---------- ---------- ---------- ----------
$ 62,149 $ 596 $ (803) $ 61,942
========== ========== ========== ==========
December 31, 2007:
U.S. Government agencies and related entities $ 29,356 $ 37 $ (59) $ 29,334
Mortgage-backed securities 1,932 -- (48) 1,884
Municipal securities 13,685 566 -- 14,251
Corporate securities 2,939 -- -- 2,939
Equity securities 4,156 -- (645) 3,511
---------- ---------- ---------- ----------
$ 52,068 $ 603 $ (752) $ 51,919
========== ========== ========== ==========
-------------------------------------------------------------------------------------------------------
Management evaluates securities for other than temporary impairment at
least on a quarterly basis, and more frequently when economic, market
or other concerns warrant such evaluation. Consideration is given to
(1) the length of time and the extent to which the fair value has been
less than cost, (2) the financial condition and near-term prospects of
the issuer and (3) the intent and ability of the Corporation to retain
its investment in the issuer for a period of time sufficient to allow
for any anticipated recovery in fair value.
Effective June 30, 2008, management evaluated the Corporation's
investment portfolio and determined that a $275,000 other than
temporary impairment existed on two financial industry investments. The
impairment of these securities were considered to be other than
temporary due to recent developments in the financial condition and
near-term prospects of the issuers, a downturn in the economic
conditions affecting the financial services industry and declining book
values of these securities. These securities were written down to their
fair market value as of June 30, 2008 and the resulting impairment
losses were recognized in earnings during the second quarter of 2008.
Management will continue to evaluate the value of these investments and
make any necessary adjustments as conditions dictate.
There were no other unrealized losses that were considered other than
temporary at June 30, 2008.
4. Loans Receivable.
The Corporation's loans receivable as of the respective dates are
summarized as follows:
-------------------------------------------------------------------------------
(Dollar amounts in thousands) June 30, December 31,
2008 2007
-------------------------------------------------------------------------------
Mortgage loans on real estate:
Residential first mortgages $ 65,659 $ 65,706
Home equity loans and lines of credit 53,081 49,426
Commercial real estate 76,637 71,599
------------ ------------
195,377 186,731
Other loans:
Commercial business 39,997 35,566
Consumer 8,782 9,679
------------ ------------
48,779 45,245
------------ ------------
Total loans, gross 244,156 231,976
Less allowance for loan losses 2,301 2,157
------------ ------------
Total loans, net $ 241,855 $ 229,819
============ ============
-------------------------------------------------------------------------------
6
5. Deposits.
The Corporation's deposits as of the respective dates are summarized as
follows:
-----------------------------------------------------------------------------------------
(Dollar amounts in thousands) June 30, 2008 December 31, 2007
-----------------------------------------------------------------------------------------
Type of accounts Amount % Amount %
--------------------------------------------------------------- ----------------------
Non-interest bearing deposits $ 51,427 19.8% $ 47,111 19.3%
Interest bearing demand deposits 91,340 35.3% 77,614 31.8%
Time deposits 116,266 44.9% 119,537 48.9%
--------- --------- --------- ---------
$ 259,033 100.0% $ 244,262 100.0%
========= ========= ========= =========
-----------------------------------------------------------------------------------------
6. Guarantees.
The Corporation does not issue any guarantees that would require
liability recognition or disclosure, other than its standby letters of
credit. Standby letters of credit are conditional commitments issued by
the Corporation to guarantee the performance of a customer to a third
party. Of these letters of credit at June 30, 2008, $85,000 will expire
within the next fourteen months, $798,000 will automatically renew
within the next twelve months and $216,000 will automatically renew
within thirteen to twenty months. The Corporation, generally, holds
collateral and/or personal guarantees supporting these commitments.
Management believes that the proceeds obtained through a liquidation of
collateral and the enforcement of guarantees would be sufficient to
cover the potential amount of future payments required under the
corresponding guarantees. The credit risk involved in issuing letters
of credit is essentially the same as those that are involved in
extending loan facilities to customers. The current amount of the
liability as of June 30, 2008 for guarantees under standby letters of
credit issued is not material.
7. Employee Benefit Plans.
The Corporation maintains a defined contribution 401(k) Plan. Eligible
employees participate by providing tax-deferred contributions up to 20%
of qualified compensation. Employee contributions are vested at all
times. The Corporation provides a matching contribution of up to 4% of
the participant's salary. Matching contributions for the six months
ended June 30, 2008 and 2007 amounted to $76,000 and $67,000,
respectively.
The Corporation provides pension benefits for eligible employees
through a defined benefit pension plan. Substantially all full-time
employees participate in the retirement plan on a non-contributing
basis and are fully vested after three years of service.
The Corporation uses December 31 as the measurement date for its plans.
7
7. Employee Benefit Plans (continued).
The components of the periodic pension cost are as follows:
--------------------------------------------------------------------------------------------------------------
(Dollar amounts in thousands) For the three months ended For the six months ended Year ended
June 30, June 30, December 31,
-------------------------- -------------------------- -----------
2008 2007 2008 2007 2007
-------------------------------------------------- ----------- ----------- ----------- -----------
Service cost $ 63 $ 57 $ 126 $ 114 $ 238
Interest cost 71 65 142 130 262
Expected return on plan assets (79) (77) (158) (154) (303)
Transition asset -- (2) -- (4) --
Prior service costs (8) (8) (16) (16) (31)
Recognized net actuarial (gain) loss 4 7 8 14 31
----------- ----------- ----------- ----------- -----------
Net periodic pension cost $ 51 $ 42 $ 102 $ 84 $ 197
=========== =========== =========== =========== ===========
--------------------------------------------------------------------------------------------------------------
The expected rate of return on plan assets was 8.50% for the periods
ended June 30, 2008 and 2007. The Corporation previously disclosed in
its financial statements for the year ended December 31, 2007 that it
expected to contribute $335,000 to its pension plan in 2008. As of June
30, 2008, there have been no contributions. The Corporation presently
anticipates contributing $335,000 to its pension plan in 2008.
8. Stock Compensation Plans.
In May 2007, the Corporation adopted the 2007 Stock Incentive Plan and
Trust. Under the Plan, the Corporation may grant options to its
directors, officers and employees for up to 177,496 shares of common
stock. Incentive stock options, non-incentive or compensatory stock
options and share awards may be granted under the Plan. The exercise
price of each option shall at least equal the market price of a share
of common stock on the date of grant and have a contractual term of ten
years. Options shall vest and become exercisable at the rate, to the
extent and subject to such limitations as may be specified by the
Corporation. Effective May 2007, the Corporation adopted SFAS No.
123(R), Share-Based Payment, which requires that compensation cost
related to share-based payment transactions be recognized in the
financial statements with measurement based upon the fair value of the
equity or liability instruments issued. For the six-month period ended
June 30, 2008, the Corporation recognized $52,000 in compensation
expense for stock options.
The fair value of each option grant is estimated on the date of grant
using the Black-Scholes option-pricing model with the following
weighted average assumptions:
----------------------------------------------------------------------
For the six months ended
June 30, 2008
----------------------------------------------------------------------
Dividend yield 4.46%
Expected life 10 years
Expected volatility 14.09%
Risk-free interest rate 5.10%
----------------------------------------------------------------------
The expected volatility is based on historical stock price
fluctuations. The risk-free interest rates for periods within the
contractual life of the awards are based on the U.S. Treasury yield
curve in effect at the time of the grant. The expected life is based on
the maximum term of the options. The dividend yield assumption is based
on the Corporation's history and expectation of dividend payouts.
8
8. Stock Compensation Plans (continued).
A summary of option activity under the Plan as of June 30, 2008, and
changes during the period then ended is presented below:
-----------------------------------------------------------------------------------------------------------------------
Weighted-Average
Weighted-Average Aggregate Remaining Term
Options Exercise Price Intrinsic Value (in years)
-----------------------------------------------------------------------------------------------------------------------
Outstanding at the beginning of the year 84,000 $ 26.00 9.0
Granted 5,500 25.90 9.8
Exercised -- -- --
Forfeited 4,500 26.00 --
---------------- ---------------- ---------------- ----------------
Outstanding as of June 30, 2008 85,000 $ 25.99 $ -- 9.0
================ ================ ================ ================
Exercisable as of June 30, 2008 -- $ -- $ -- --
================ ================ ================ ================
-----------------------------------------------------------------------------------------------------------------------
A summary of the status of the Corporation's nonvested shares as of
June 30, 2008, and changes during the period then ended is presented
below:
-------------------------------------------------------------------------------------
Weighted-Average
Options Grant-date Fair Value
-------------------------------------------------------------------------------------
Nonvested at the beginning of the year 84,000 $ 3.39
Granted 5,500 2.90
Vested -- --
Forfeited 4,500 --
--------------------- ---------------------
Nonvested as of June 30, 2008 85,000 $ 3.36
===================== =====================
-------------------------------------------------------------------------------------
As of June 30, 2008, there was $203,000 of total unrecognized
compensation cost related to nonvested share-based compensation
arrangements granted under the Plan. That cost is expected to be
recognized over an average period of 2.0 years.
9. Fair Values of Financial Instruments.
In September 2006, the Financial Accounting Standards Board (FASB)
issued Statement of Financial Accounting Standards (SFAS) No. 157, Fair
Value Measurements (SFAS 157), which defines fair value, establishes a
framework for measuring fair value under generally accepted accounting
principles (GAAP), and expands disclosures about fair value
measurements. SFAS 157 applies to other accounting pronouncements that
require or permit fair value measurements. The new guidance is
effective for financial statements issued for fiscal years beginning
after November 15, 2007, and for interim periods within those fiscal
years. The Corporation adopted SFAS 157 effective January 1, 2008 for
financial assets and liabilities that are measured and reported at fair
value. There was no impact from the adoption of SFAS 157 on the amounts
reported in the consolidated financial statements. The primary effect
of SFAS 157 on the Corporation was to expand the required disclosures
pertaining to the methods used to determine fair values.
SFAS 157 establishes a fair value hierarchy that prioritizes the inputs
to valuation methods used to measure fair value. The hierarchy gives
the highest priority to unadjusted quoted prices in active markets for
identical assets or liabilities (Level 1 measurements) and the lowest
priority to unobservable inputs (Level 3 measurements). The three
levels of the fair value hierarchy under SFAS 157 are as follows:
Level 1: Unadjusted quoted prices in active markets that are
accessible at the measurement date for identical, unrestricted
assets or liabilities.
Level 2: Quoted prices in markets that are not active, or
inputs that are observable either directly or indirectly, for
substantially the full term of the asset or liability.
9
9. Fair Values of Financial Instruments (continued).
Level 3: Prices or valuation techniques that require inputs
that are both significant to the fair value measurement and
unobservable (i.e. supported with little or no market
activity).
An asset or liability's level within the fair value hierarchy is based
on the lowest level of input that is significant to the fair value
measurement.
For assets measured at fair value on a recurring basis, the fair value
measurements by level within the fair value hierarchy used at June 30,
2008 are as follows:
----------------------------------------------------------------------------------------------------------
(Dollar amounts in thousands) (Level 1) (Level 2)
Quoted Prices in Significant (Level 3)
Active Markets Other Significant
for Identical Observable Unobservable
Description June 30, 2008 Assets Inputs Inputs
----------------------------------------------------------------------------------------------------------
Securities available for sale $ 61,942 $ 3,288 $ 58,654 $ --
---------------- ---------------- ---------------- ----------------
$ 61,942 $ 3,288 $ 58,654 $ --
================ ================ ================ ================
----------------------------------------------------------------------------------------------------------
The Corporation's adoption of SFAS 157 applies only to its financial
instruments required to be reported at fair value. The adoption does
not apply to non-financial assets and non-financial liabilities until
January 1, 2009 in accordance with FSP FAS 157-2. The following
valuation technique was used to measure fair value of assets in the
table above on a recurring basis as of June 30, 2008:
Available for sale securities - Fair value on available for sale
securities were based upon a market approach. Prices for securities
that are fixed income instruments that are not quoted on an exchange,
but are traded in active markets, are obtained through third party data
service providers or dealer market participants which the Corporation
has historically transacted both purchases and sales of investment
securities. As of June 30, 2008, all fair values on available for sale
securities were based on prices obtained from these sources and were
based on actual market quotations for each specific security.
10. Adoption of New Accounting Standards.
The Corporation adopted the Financial Accounting Standards Board (FASB)
Statement of Financial Accounting Standards (SFAS) No. 157, Fair Value
Measurements (SFAS 157) effective January 1, 2008 for financial assets
and liabilities that are measured and reported at fair value. There was
no impact from the adoption of SFAS 157 on the amounts reported in the
consolidated financial statements. The primary effect of SFAS 157 on
the Corporation was to expand required disclosures pertaining to the
methods used to determine fair values. See note 9 for further detail.
11. Proposed Merger Conversion
Effective May 22, 2008, the Corporation entered into a definitive
agreement with Elk County Savings and Loan Association (ECSLA),
headquartered in Ridgway, Pennsylvania, to acquire ECSLA in a
conversion merger transaction. At June 30, 2008, ECSLA had total
assets, loans, deposits and equity of $9.4 million, $7.6 million, $7.0
million and $2.4 million, respectively. In connection with this
transaction, the Corporation will offer shares of its common stock to
certain members of ECSLA in a subscription offering. Any stock not
purchased by eligible members of ECSLA in the subscription offering
will then be offered to certain members of the community and to the
general public. Following the closing of the offering of the
Corporation's common stock, ECSLA will merge with and into Farmers
National Bank, with Farmers National Bank as the surviving institution.
The Corporation expects this transaction to be finalized during the
fourth quarter of 2008.
10
12. Effect of Recently Issued Accounting Standards.
In February 2007, the FASB issued SFAS No. 159, The Fair Value Option
for Financial Assets and Financial Liabilities - Including an amendment
of FASB Statement No. 115 (SFAS 159). SFAS 159 permits entities to
choose to measure many financial instruments and certain other items at
fair value. Unrealized gains and losses on items for which the fair
value option has been elected will be recognized in earnings at each
subsequent reporting date. SFAS 159 is effective for the Corporation
January 1, 2008. This new accounting pronouncement had no effect on the
Corporation's consolidated financial statements as the Corporation
elected not to adopt SFAS 159.
In December 2007, the FASB issued SFAS No. 141(R), Business
Combinations (SFAS 141R). SFAS 141R establishes principles and
requirements for how the acquirer of a business recognizes and measures
in its financial statements the identifiable assets acquired, the
liabilities assumed, and any noncontrolling interest in the acquiree.
SFAS 141R also provides guidance for recognizing and measuring the
goodwill acquired in the business combination and determines what
information to disclose to enable users of the financial statements to
evaluate the nature and financial effects of the business combination.
The guidance will become effective for fiscal years beginning after
December 15, 2008. This new pronouncement will impact the Corporation's
accounting for business combinations completed beginning January 1,
2009.
In December 2007, the FASB issued SFAS No. 160, Noncontrolling Interest
in Consolidated Financial Statements - An Amendment of ARB No. 51 (SFAS
160). SFAS 160 establishes accounting and reporting standards for the
noncontrolling interest in a subsidiary and for the deconsolidation of
a subsidiary. The guidance will become effective for fiscal years
beginning after December 15, 2008, which for the Corporation will be
January 1, 2009. The Corporation believes that this new pronouncement
will have an immaterial impact on its consolidated financial
statements.
In April 2008, the FASB issued FASB Staff Position (FSP) FAS 142-3,
Determination of the Useful Life of Intangible Assets. This FSP amends
the factors that should be considered in developing renewal or
extension assumptions used to determine the useful life of a recognized
intangible asset under SFAS 142, Goodwill and Other Intangible Assets.
The intent of this FSP is to improve the consistency between the useful
life of a recognized intangible asset under SFAS 142 and the period of
expected cash flows used to measure the fair value of the asset under
SFAS 141R and other GAAP. This FSP is effective for financial
statements issued for fiscal years beginning after December 15, 2008,
and interim periods within those fiscal years. Early adoption is
prohibited. The Corporation is currently evaluating the potential
impact the new pronouncement will have on its consolidated financial
statements.
In May 2008, the FASB issued SFAS No. 162, The Hierarchy of Generally
Accepted Accounting Principles (SFAS 162). SFAS 162 identifies the
sources of accounting principles and the framework for selecting the
principles used in the preparation of financial statements. This
Statement is effective 60 days following the SEC's approval of the
Public Company Accounting Oversight Board amendments to AU Section 411,
The Meaning of Present Fairly in Conformity with Generally Accepted
Accounting Principles. The Corporation is currently evaluating the
potential impact the new pronouncement will have on its consolidated
financial statements.
In June 2008, the FASB ratified EITF Issue No. 07-5, Determining
Whether an Instrument (or an Embedded Feature) is Indexed to an
Entity's Own Stock (EITF 07-5). EITF 07-5 provides that an entity
should use a two step approach to evaluate whether an equity-linked
financial instrument (or embedded feature) is indexed to its own stock,
including evaluating the instrument's contingent exercise and
settlement provisions. It also clarifies the impact of foreign currency
denominated strike prices and market-based employee stock option
valuation instruments on the evaluation. EITF is effective for fiscal
years beginning after December 15, 2008. The Corporation is currently
evaluating the potential impact the new pronouncement will have on its
consolidated financial statements.
11
Item 2. Management's Discussion and Analysis of Financial Condition and Results
--------------------------------------------------------------------------------
of Operations
-------------
This section discusses the consolidated financial condition and results of
operations of Emclaire Financial Corp. (the "Corporation") and its wholly owned
subsidiary bank, the Farmers National Bank of Emlenton (the "Bank"), for the
three and six months ended June 30, 2008 compared to the same periods in 2007
and should be read in conjunction with the Corporation's December 31, 2007
Annual Report on Form 10-K filed with the Securities and Exchange Commission and
with the accompanying consolidated financial statements and notes presented on
pages 1 through 11 of this Form 10-Q.
The Private Securities Litigation Reform Act of 1995 contains safe harbor
provisions regarding forward-looking statements. When used in this discussion,
the words "believes," "anticipates," "contemplates" and similar expressions are
intended to identify forward-looking statements. Such statements are subject to
certain risks and uncertainties that could cause actual results to differ
materially from those projected. Those risks and uncertainties include changes
in interest rates, the ability to control costs and expenses and general
economic conditions. The Corporation does not undertake, and specifically
disclaims any obligation, to update any forward-looking statements to reflect
occurrences or unanticipated events or circumstances after the date of such
statements.
CHANGES IN FINANCIAL CONDITION
Total assets increased $23.0 million to $334.7 million at June 30, 2008 from
$311.7 million at December 31, 2007. This 7.4% increase resulted from increases
in securities and loans receivable, net of allowance for loan losses, of $10.0
million and $12.0 million, respectively. The increase in the Corporation's
assets was primarily funded by increases in customer deposits and borrowed
funds.
Non-performing assets to total assets decreased to 0.31% at June 30, 2008
compared to 0.35% at December 31, 2007. The Bank has a $2.3 million personal
loan that was not included as a non-performing asset for purposes of the June
30, 2008 calculation that has exhibited credit weaknesses and has been
classified as substandard. This loan is secured by local real property pledged
by an associate of the borrower as well as proceeds from a life insurance
policy. Although the Bank is in negotiations with the borrower, the Bank
believes that it may be required to initiate foreclosure proceedings. However,
due to the low loan to value ratio at the time of the loan origination in March
2006, the Bank does not believe it will incur any material losses on this loan.
Total liabilities increased $22.7 million to $309.7 million at June 30, 2008
from $287.0 million at December 31, 2007, while total stockholders' equity
increased $302,000 to $25.0 million at June 30, 2008 from $24.7 million at
December 31, 2007. The increase in total liabilities resulted primarily from
increases in customer deposits of $14.8 million and borrowed funds of $8.3
million.
RESULTS OF OPERATIONS
Comparison of Results for the Three Month Periods Ended June 30, 2008 and 2007
General. Net income decreased $166,000 or 23.5% to $541,000 for the three months
ended June 30, 2008 from $707,000 for the same period in 2007. This decrease was
the result of an increase in the provision of loan losses of $55,000 and a
decrease in noninterest income of $276,000, partially offset by an increase in
net interest income of $66,000 and decreases in noninterest expense and the
provision for income taxes of $43,000 and $56,000, respectively.
Net interest income. Net interest income on a tax equivalent basis increased
$57,000 or 2.2% to $2.7 million for the three months ended June 30, 2008 from
$2.6 million for the same period in 2007. This net increase can be attributed to
an increase in tax equivalent interest income of $138,000, partially offset by
an increase in interest expense of $81,000.
12
Interest income. Interest income on a tax equivalent basis increased $138,000 or
3.0% to $4.7 million for the three months ended June 30, 2008, compared to $4.5
million for the same period in the prior year. This increase can be attributed
to increases in interest on loans and interest-earning deposits with banks and
dividends on federal bank stocks of $137,000, $20,000 and $4,000, respectively,
partially offset by a decrease in interest on securities of $23,000.
Tax equivalent interest earned on loans receivable increased $137,000 or 3.6% to
$4.0 million for the three months ended June 30, 2008, compared to $3.8 million
for the same period in 2007. This increase resulted primarily from average loans
increasing $21.2 million or 9.7%, accounting for $357,000 in additional loan
interest income. This increase can be primarily attributed to growth in the
Corporation's commercial loan portfolios. Offsetting this volume increase, the
yield on loans receivable decreased 37 basis points to 6.61% for the three
months ended June 30, 2008, versus 6.98% for the same period in 2007, accounting
for a $220,000 decrease in interest income. Contributing to this decrease in
yields on loans receivable was recent decreases in short-term market interest
rates. In addition, the Corporation collected $54,000 of interest due associated
with the payoff of a previously non-performing commercial loan in April 2007
that had been on non-accrual status. In connection with the loan payoff, the
Corporation received all principal and interest due under the contractual terms
of the loan agreement and interest collected was recorded as loan interest
income during the three months ended June 30, 2007.
Interest earned on interest-earning deposit accounts increased $20,000 or 125.0%
to $36,000 for the three months ended June 30, 2008 from $16,000 for the same
period in 2007. The average volume of these assets increased $6.4 million or
183.2%, primarily as a result of an increase in customer deposits, increasing
interest income by $36,000. Offsetting this volume increase, the average yield
on interest-earning deposit accounts decreased 344 basis points to 2.03% for the
three months ended June 30, 2008, compared to 5.47% for the same period in the
prior year, accounting for a $16,000 decrease in interest income. The decrease
in the average yield reflects the recent decreases in short-term market interest
rates. Dividends on federal bank stocks increased $4,000 or 19.0% to $25,000 for
the three month period ended June 30, 2008 from $21,000 for the same period in
2007. The average volume of these assets increased $430,000 or 18.5%, accounting
for the increase in income.
Tax equivalent interest earned on securities decreased $23,000 to $645,000 for
the three months ended June 30, 2008, compared to $668,000 for the same period
in 2007. The average yield on securities decreased 14 basis points to 4.78% for
the three months ended June 30, 2008, versus 4.92% for the same period in 2007,
as a result of certain higher yielding securities maturing. This unfavorable
yield variance accounted for a $21,000 decrease in interest income. In addition,
the average volume of securities decreased $192,000, accounting for a $2,000
decrease in interest income.
Interest expense. Interest expense increased $81,000 or 4.2% to $2.0 million for
the three months ended June 30, 2008, compared to $1.9 million for the same
period in 2007. This increase in interest expense can be attributed to an
increase in interest incurred on borrowed funds of $95,000, partially offset by
a decrease in interest incurred on deposits of $14,000.
Interest expense incurred on borrowed funds increased $95,000 or 27.1% to
$445,000 for the three months ended June 30, 2008, compared to $350,000 for the
same period in the prior year. This increase in interest expense can be
attributed to the increase in the average balance of borrowed funds of $12.5
million or 39.3% to $44.3 million for the three months ended June 30, 2008,
compared to $31.8 million for the same period in the prior year contributing
$128,000 in additional expense. This volume increase was the result of $5.0
million of FHLB long-term borrowings placed in the fourth quarter of 2007 used
primarily to fund loan growth and an average of $9.3 million in short-term
borrowings used to fund security purchases. Partially offsetting this volume
increase, the cost of borrowed funds decreased 38 basis points to 4.04% for the
three months ended June 30, 2008, compared to 4.42% for the same period in 2007
causing a $33,000 decrease in interest expense.
13
Interest expense incurred on deposits decreased $14,000 or 1.0% to $1.6 million
for the three months ended June 30, 2008 compared to the same period in 2007.
The cost of interest-bearing deposits decreased 18 basis points to 3.06% for the
three months ended June 30, 2008, compared to 3.24% for the same period in 2007
causing a $96,000 decrease in interest expense. Partially offsetting this yield
decrease, the average volume of interest-bearing deposits increased $10.4
million to $204.4 million for the three months ended June 30, 2008, compared to
$194.0 million for the same period in 2007 causing an $82,000 increase in
interest expense.
14
Average Balance Sheet and Yield/Rate Analysis. The following table sets forth,
for the periods indicated, information concerning the total dollar amounts of
interest income from interest-earning assets and the resulting average yields,
the total dollar amounts of interest expense on interest-bearing liabilities and
the resulting average costs, net interest income, interest rate spread and the
net interest margin earned on average interest-earning assets. For purposes of
this table, average loan balances include non-accrual loans and exclude the
allowance for loan losses and interest income includes accretion of net deferred
loan fees. Interest and yields on tax-exempt loans and securities (tax-exempt
for federal income tax purposes) are shown on a fully tax equivalent basis. The
information is based on average daily balances during the periods presented.
--------------------------------------------------------------------------------------------------------------------
(Dollar amounts in thousands) Three months ended June 30,
--------------------------------------------------------------------------------------------------------------------
2008 2007
------------------------------ --------------------------------
Average Yield / Average Yield /
Balance Interest Rate Balance Interest Rate
--------------------------------------------------------------------------------------------------------------------
Interest-earning assets:
------------------------
Loans, taxable $ 234,664 $ 3,865 6.62% $ 213,162 $ 3,718 7.00%
Loans, tax exempt 6,072 92 6.12% 6,325 102 6.49%
---------- -------- --------- ---------
Total loans receivable 240,736 3,957 6.61% 219,487 3,820 6.98%
---------- -------- --------- ---------
Securities, taxable 39,934 412 4.15% 39,587 419 4.25%
Securities, tax exempt 14,332 233 6.54% 14,871 249 6.71%
---------- -------- --------- ---------
Total securities 54,266 645 4.78% 54,458 668 4.92%
---------- -------- --------- ---------
Interest-earning deposits with banks 7,148 36 2.03% 1,174 16 5.47%
Federal bank stocks 2,751 25 3.66% 2,321 21 3.68%
---------- -------- --------- ---------
Total interest-earning cash equivalents 9,899 61 2.48% 3,495 37 4.28%
---------- -------- --------- ---------
Total interest-earning assets 304,901 4,663 6.15% 277,440 4,525 6.54%
Cash and due from banks 5,569 5,668
Other noninterest-earning assets 14,590 14,668
---------- ---------
Total Assets $ 325,060 $ 297,776
========== =========
Interest-bearing liabilities:
-----------------------------
Interest-bearing demand deposits $ 87,112 311 1.44% $ 72,859 224 1.23%
Time deposits 117,290 1,243 4.26% 121,095 1,344 4.45%
---------- -------- --------- ---------
Total interest-bearing deposits 204,402 1,554 3.06% 193,954 1,568 3.24%
---------- -------- --------- ---------
Borrowed funds, short-term 9,291 53 2.29% 1,791 25 5.60%
Borrowed funds, long-term 35,000 392 4.50% 30,000 325 4.35%
---------- -------- --------- ---------
Total borrowed funds 44,291 445 4.04% 31,791 350 4.42%
---------- -------- --------- ---------
Total interest-bearing liabilities 248,693 1,999 3.23% 225,745 1,918 3.41%
---------- -------- --------- ---------
Noninterest-bearing demand deposits 48,878 - - 45,088 - -
---------- -------- --------- ---------
Funding and cost of funds 297,571 1,999 2.70% 270,833 1,918 2.84%
Other noninterest-bearing liabilities 2,466 2,851
---------- ---------
Total Liabilities 300,037 273,684
Stockholders' Equity 25,023 24,092
---------- ---------
Total Liabilities and Stockholders' Equity $ 325,060 $ 297,776
========== -------- ========= ---------
Net interest income $ 2,664 $ 2,607
======== =========
Interest rate spread (difference between 2.92% 3.13%
========= ========
weighted average rate on interest-earning
assets and interest-bearing liabilities)
Net interest margin (net interest 3.51% 3.77%
========= ========
income as a percentage of average
interest-earning assets)
--------------------------------------------------------------------------------------------------------------------
15
Analysis of Changes in Net Interest Income. The following table analyzes the
changes in interest income and interest expense in terms of: (1) changes in
volume of interest-earning assets and interest-bearing liabilities and (2)
changes in yields and rates. The table reflects the extent to which changes in
the Corporation's interest income and interest expense are attributable to
changes in rate (change in rate multiplied by prior year volume), changes in
volume (changes in volume multiplied by prior year rate) and changes
attributable to the combined impact of volume/rate (change in rate multiplied by
change in volume). The changes attributable to the combined impact of
volume/rate are allocated on a consistent basis between the volume and rate
variances. Changes in interest income on loans and securities reflect the
changes in interest income on a fully tax equivalent basis.
------------------------------------------------------------------------------
(Dollar amounts in thousands) Three months ended June 30,
2008 versus 2007
Increase (Decrease) due to
------------------------------------------------------------------------------
Volume Rate Total
------------------------------------------------------------------------------
Interest income:
Loans $ 357 $ (220) $ 137
Securities (2) (21) (23)
Interest-earning deposits with banks 36 (16) 20
Federal bank stocks 4 -- 4
-------- -------- --------
Total interest-earning assets 395 (257) 138
-------- -------- --------
Interest expense:
Deposits 82 (96) (14)
Borrowed funds 128 (33) 95
-------- -------- --------
Total interest-bearing liabilities 210 (129) 81
-------- -------- --------
Net interest income $ 185 $ (128) $ 57
======== ======== ========
------------------------------------------------------------------------------
Provision for loan losses. The Corporation records provisions for loan losses to
maintain a level of total allowance for loan losses that management believes, to
the best of its knowledge, covers all known and inherent losses that are both
probable and reasonably estimable at each reporting date. Management considers
historical loss experience, the present and prospective financial condition of
borrowers, current conditions (particularly as they relate to markets where the
Corporation originates loans), the status of non-performing assets, the
estimated underlying value of the collateral and other factors related to the
collectibility of the loan portfolio.
Information pertaining to the allowance for loan losses and non-performing
assets for the quarters ended June 30, 2008 and 2007 is as follows:
---------------------------------------------------------------------------------------
(Dollar amounts in thousands) At or for the three months ended
June 30,
-----------------------------------
2008 2007
---------------------------------------------------------------------------------------
Balance at the beginning of the period $ 2,218 $ 2,078
Provision for loan losses 85 30
Charge-offs (17) (32)
Recoveries 15 10
--------------- ---------------
Balance at the end of the period $ 2,301 $ 2,086
=============== ===============
Non-performing loans $ 986 $ 1,176
Non-performing assets 1,030 1,176
Non-performing loans to total loans 0.40% 0.53%
Non-performing assets to total assets 0.31% 0.39%
Allowance for loan losses to total loans 0.94% 0.94%
Allowance for loan losses to non-performing loans 233.37% 177.36%
---------------------------------------------------------------------------------------
16
The provision for loan losses increased $55,000 or 183.3% to $85,000 for the
three month period ended June 30, 2008 from $30,000 for the same period in the
prior year. Management's evaluation of the loan portfolio, including the
changing composition of the portfolio as well as economic trends, regulatory
considerations and other factors contributed to the recognition of $85,000 in
the provision for loan losses during the three months ended June 30, 2008.
Noninterest income. Noninterest income decreased $276,000 or 35.8% to $496,000
during the three months ended June 30, 2008, compared to $772,000 during the
same period in the prior year. This decrease can be attributed to the negative
variance in gains and losses on securities and decreases in gains on the sale of
loans of $393,000 and $13,000, respectively. Partially offsetting this decrease
in noninterest income were increases in fees and service charges, commissions on
financial services, earnings on bank-owned life insurance and other noninterest
income of $16,000, $46,000, $3,000 and $65,000, respectively.
The Corporation realized security losses of $275,000 in the second quarter of
2008 compared to gains of $118,000 for the same period in 2007. Management
determined that two marketable equity securities were impaired. The impairment
of these financial industry securities were considered to be other than
temporary due to recent developments in the financial condition and near-term
prospects of the issuers, a downturn in the economic conditions affecting the
industry and declining book values of the securities. At June 30, 2008, these
securities were written down to their current fair value. The gain during the
three month periods ended June 30, 2007, was primarily due to the realization of
a gain from the sale of a community bank stock investment as a result of that
bank's merger with a larger financial institution.
Noninterest expense. Noninterest expense decreased $43,000 or 1.8% to $2.3
million during the three months ended June 30, 2008 compared to the same period
in 2007. This decrease in noninterest expense can be attributed to a decrease in
other noninterest expense of $98,000, partially offset by increases in
compensation and employee benefits and premises and equipment of $38,000 and
$17,000, respectively.
Compensation and employee benefits increased $38,000 or 3.1% to $1.3 million for
the three months ended June 30, 2008, compared to $1.2 million for the same
period in the prior year. This increase can be attributed primarily to normal
salary and wage increases and the addition of staff at a new branch location.
Premises and equipment increased $17,000 or 4.2% to $418,000 for the three
months ended June 30, 2008, compared to $401,000 for the same period in the
prior year. This increase can be attributed primarily to costs associated with
an additional branch office which was opened in April 2008.
Other noninterest expense decreased $98,000 or 14.2% to $592,000 during the
three months ended June 30, 2008, compared to $690,000 for the same period in
the prior year. This decrease can be attributed primarily to a decrease in
professional fees relating to Sarbanes-Oxley Section 404 compliance.
Provision for income taxes. The provision for income taxes decreased $56,000 or
28.4% to $141,000 for the three months ended June 30, 2008, compared to $197,000
for the same period in the prior year. This was due to a decrease in pre-tax
earnings of $222,000 or 24.6% to $682,000 for the three months ended June 30,
2008, compared to $904,000 for the same period in the prior year and a decrease
in the effective tax rate to 20.7% for the three months ended June 30, 2008,
compared to 21.8% for the same period in 2007. The difference between the
statutory rate of 34% and the Corporation's effective tax rate is due to
tax-exempt income earned on certain tax-free loans and securities and bank-owned
life insurance.
17
Comparison of Results for the Six Month Periods Ended June 30, 2008 and 2007
General. Net income decreased $158,000 or 12.6% to $1.1 million for the six
months ended June 30, 2008 from $1.3 million for the same period in 2007. This
decrease was a result of increases in the provision for loans losses and
noninterest expense of $70,000 and $62,000, respectively, and a decrease in
noninterest income of $346,000. Partially offsetting this decrease was an
increase in net interest income of $300,000 and a decrease in the provision for
income taxes of $20,000.
Net interest income. Net interest income on a tax equivalent basis increased
$285,000 or 5.7% to $5.3 million for the six months ended June 30, 2008 from
$5.0 million for the same period in 2007. This net increase can be attributed to
an increase in tax equivalent interest income of $341,000, partially offset by a
$56,000 increase in interest expense.
Interest income. Interest income on a tax equivalent basis increased $341,000 or
3.8% to $9.3 million for the six months ended June 30, 2008, compared to $8.9
million for the same period in the prior year. This increase can be attributed
to an increase in interest earned on loans of $461,000, partially offset by
decreases in interest earned on securities, federal bank stocks, and
interest-earning deposits with banks of $26,000, $16,000 and $78,000,
respectively.
Tax equivalent interest earned on loans receivable increased $461,000 or 6.2% to
$7.9 million for the six months ended June 30, 2008, compared to $7.5 million
for the same period in 2007. During that time, average loans increased $19.8
million or 9.1%, accounting for $666,000 in additional loan interest income.
This increase can be primarily attributed to growth in the Corporation's
commercial loan portfolios. Partially offsetting this volume increase, the yield
on loans decreased 21 basis points to 6.71% for the six months ended June 30,
2008, versus 6.92% for the same period in 2007, accounting for a $205,000
decrease in interest income. Contributing to this unfavorable yield variance was
the recent decrease in short-term market interest rates. In addition, the
Corporation collected $54,000 of interest due as a result of the payoff of a
previously commercial loan in April 2007 that had been on non-accrual status. In
connection with the loan payoff, the Corporation received all principal and
interest due under the contractual terms of the loan agreement and interest
collected was recorded as loan interest income during the three months ended
June 30, 2007.
Tax equivalent interest earned on securities decreased $26,000 or 2.0% to $1.3
million for the six months ended June 30, 2008. The average volume of securities
decreased $2.6 million to $50.6 million for the six months ended June 30, 2008,
compared to $53.2 million for the six months ended June 30, 2007, primarily as a
result of the utilization of these funds for loan growth. This resulted in a
$63,000 decline in interest income. Partially offsetting this unfavorable volume
variance, the average yield on securities increased 13 basis points to 4.99% for
the six months ended June 30, 2008, versus 4.86% for the same period in 2007, as
a result of certain lower yielding securities maturing. This favorable yield
variance contributed an additional $37,000 to interest income.
Interest earned on interest-earning deposit accounts decreased $78,000 to
$59,000 for the six months ended June 30, 2008 from $137,000 for the same period
in 2007. The average yield on interest-earning deposit accounts decreased 301
basis points to 2.26% for the six months ended June 30, 2008, compared to 5.27%
for the same period in the prior year, accounting for the decline in interest
income. The decrease in the average yield reflects the recent decreases in
short-term market interest rates. Interest earned on federal bank stocks
decreased $16,000 to $55,000 for the six month period ended June 30, 2008 from
$71,000 for the same period in the prior year as a result of a lower yield. The
lower yield resulted from the recognition of a special dividend on FHLB capital
stock during the six months ended June 30, 2007.
Interest expense. Interest expense increased $56,000 or 1.4% to $4.0 million for
the six months ended June 30, 2008, compared to $3.9 million for the same period
in the prior year. This increase in interest expense can be attributed to an
increase in interest incurred on borrowed funds of $165,000, partially offset by
a decrease in interest incurred on deposits of $109,000.
18
Interest expense incurred on borrowed funds increased $165,000 or 24.1% to
$851,000 for the six months ended June 30, 2008, compared to $686,000 for the
same period in the prior year. This increase in interest expense can be
attributed to the increase in the average balance of borrowed funds of $10.4
million to $41.3 million for the six months ended June 30, 2008, compared to
$30.9 million for the same period in the prior year. This volume increase was
the result of $5.0 million of FHLB long-term borrowings placed in the fourth
quarter of 2007 used primarily to fund loan growth and an average of $6.3
million in short-term borrowings used primarily to fund security purchases. This
volume variance contributed $217,000 in additional expense. Partially offsetting
this volume increase, the cost of borrowed funds decreased 34 basis points to
4.14% for the six months ended June 30, 2008, compared to 4.48% for the same
period in 2007 causing a $52,000 decrease in interest expense.
Interest expense incurred on deposits decreased $109,000 or 3.4% to $3.1 million
for the six months ended June 30, 2008, compared to $3.2 million for the same
period in the prior year. This decrease can be attributed to the cost of
interest-bearing deposits decreasing 17 basis points to 3.14% for the six months
ended June 30, 2008, compared to 3.31% for the same period in 2007 accounting
for a $162,000 decline in interest expense. The decrease in the rate paid on
deposits reflects the recent decreases in short-term market interest rates.
Partially offsetting this favorable yield variance, the average volume of
deposits increased $3.2 million or 1.7% to $200.0 million for the six months
ended June 30, 2008, compared to $196.8 million for the same period in 2007
contributing $53,000 in additional expense.
19
Average Balance Sheet and Yield/Rate Analysis. The following table sets forth,
for the periods indicated, information concerning the total dollar amounts of
interest income from interest-earning assets and the resulting average yields,
the total dollar amounts of interest expense on interest-bearing liabilities and
the resulting average costs, net interest income, interest rate spread and the
net interest margin earned on average interest-earning assets. For purposes of
this table, average loan balances include non-accrual loans and exclude the
allowance for loan losses and interest income includes accretion of net deferred
loan fees. Interest and yields on tax-exempt loans and securities (tax-exempt
for federal income tax purposes) are shown on a fully tax equivalent basis. The
information is based on average daily balances during the periods presented.
------------------------------------------------------------------------------------------------------------
Six months ended June 30,
-------------------------------------------------------------
2008 2007
------------------------------- -----------------------------
Average Yield / Average Yield /
(Dollar amounts in thousands) Balance Interest Rate Balance Interest Rate
--------- ----------- --------- -------- --------- ----------
------------------------------------------------------------------------------------------------------------
Interest-earning assets:
------------------------
Loans, taxable $ 231,135 $ 7,727 6.72% $210,977 $ 7,250 6.93%
Loans, tax exempt 6,078 190 6.29% 6,419 206 6.48%
--------- ----------- --------- -------- --------- ----------
Total loans receivable 237,213 7,917 6.71% 217,396 7,456 6.92%
--------- ----------- --------- -------- --------- ----------
Securities, taxable 36,296 789 4.37% 38,176 783 4.14%
Securities, tax exempt 14,346 468 6.56% 15,046 500 6.70%
--------- ----------- --------- -------- --------- ----------
Total securities 50,642 1,257 4.99% 53,222 1,283 4.86%
--------- ----------- --------- -------- --------- ----------
Interest-earning deposits with banks 5,249 59 2.26% 5,247 137 5.27%
Federal bank stocks 2,635 55 4.20% 2,265 71 6.32%
--------- ----------- --------- -------- --------- ----------
Total interest-earning cash equivalents 7,884 114 2.91% 7,512 208 5.58%
--------- ----------- --------- -------- --------- ----------
Total interest-earning assets 295,739 9,288 6.32% 278,130 8,947 6.49%
Cash and due from banks 5,399 5,913
Other noninterest-earning assets 14,601 14,601
--------- --------
Total assets $ 315,739 $298,644
========= ========
Interest-bearing liabilities:
-----------------------------
Interest-bearing demand deposits $ 83,035 594 1.44% $ 72,513 457 1.27%
Time deposits 117,014 2,532 4.35% 124,291 2,778 4.51%
--------- ----------- --------- -------- --------- ----------
Total interest-bearing deposits 200,049 3,126 3.14% 196,804 3,235 3.31%
--------- ----------- --------- -------- --------- ----------
Borrowed funds, long-term 35,000 782 4.49% 30,000 661 4.44%
Borrowed funds, short-term 6,319 69 2.20% 908 25 5.55%
--------- ----------- --------- -------- --------- ----------
Total borrowed funds 41,319 851 4.14% 30,908 686 4.48%
--------- ----------- --------- -------- --------- ----------
Total interest-bearing liabilities 241,368 3,977 3.31% 227,712 3,921 3.47%
Noninterest-bearing demand deposits 47,018 - - 44,230 - -
--------- ----------- --------- -------- --------- ----------
Funding and cost of funds 288,386 3,977 2.77% 271,942 3,921 2.91%
Other noninterest-bearing liabilities 2,428 2,712
--------- --------
Total liabilities 290,814 274,654
Stockholders' equity 24,925 23,990
--------- --------
Total liabilities and stockholders' equity $ 315,739 $298,644
========= ----------- ======== ---------
Net interest income $ 5,311 $ 5,026
=========== =========
Interest rate spread (difference between 3.00% 3.01%
========= ==========
weighted average rate on interest-earning
assets and interest-bearing liabilities)
Net interest margin (net interest 3.61% 3.64%
========= ==========
income as a percentage of average
interest-earning assets)
20
Analysis of Changes in Net Interest Income. The following table analyzes the
changes in interest income and interest expense in terms of: (1) changes in
volume of interest-earning assets and interest-bearing liabilities and (2)
changes in yields and rates. The table reflects the extent to which changes in
the Corporation's interest income and interest expense are attributable to
changes in rate (change in rate multiplied by prior year volume), changes in
volume (changes in volume multiplied by prior year rate) and changes
attributable to the combined impact of volume/rate (change in rate multiplied by
change in volume). The changes attributable to the combined impact of
volume/rate are allocated on a consistent basis between the volume and rate
variances. Changes in interest income on loans and securities reflect the
changes in interest income on a fully tax equivalent basis.
-----------------------------------------------------------------------------------------
(Dollar amounts in thousands) Six months ended June 30,
2008 versus 2007
Increase (Decrease) due to
------------------------------------------
Volume Rate Total
-----------------------------------------------------------------------------------------
Interest income:
Loans $ 666 $ (205) $ 461
Securities (63) 37 (26)
Interest-earning deposits with banks - (78) (78)
Federal bank stocks 10 (26) (16)
---------- ---------- ----------
Total interest-earning assets 613 (272) 341
---------- ---------- ----------
Interest expense:
Deposits 53 (162) (109)
Borrowed funds 217 (52) 165
---------- ---------- ----------
Total interest-bearing liabilities 270 (214) 56
---------- ---------- ----------
Net interest income $ 343 $ (58) $ 285
========== ========== ==========
-----------------------------------------------------------------------------------------
Provision for loan losses. The Corporation records provisions for loan losses to
maintain a level of total allowance for loan losses that management believes, to
the best of its knowledge, covers all known and inherent losses that are both
probable and reasonably estimable at each reporting date. Management considers
historical loss experience, the present and prospective financial condition of
borrowers, current conditions (particularly as they relate to markets where the
Corporation originates loans), the status of non-performing assets, the
estimated underlying value of the collateral and other factors related to the
collectibility of the loan portfolio.
Information pertaining to the allowance for loan losses and non-performing
assets for the six months ended June 30, 2008 and 2007 is as follows:
-----------------------------------------------------------------------------
At or for
the year
For the six months ended: ended
June 30, December 31,
--------------------------- ------------
(Dollar amounts in thousands) 2008 2007 2007
-----------------------------------------------------------------------------
Balance at the beginning of the
period $ 2,157 $ 2,035 2,035
Provision for loan losses 145 75 256
Charge-offs (27) (47) (164)
Recoveries 26 23 30
------------ ------------ ------------
Balance at the end of the period $ 2,301 $ 2,086 $ 2,157
============ ============ ============
Non-performing loans $ 986 $ 1,176 952
Non-performing assets 1,030 1,176 1,081
Non-performing loans to total
loans 0.40% 0.53% 0.41%
Non-performing assets to total
assets 0.31% 0.39% 0.35%
Allowance for loan losses to total
loans 0.94% 0.94% 0.93%
Allowance for loan losses to non-
performing loans 233.37% 177.36% 226.58%
-----------------------------------------------------------------------------
21
The provision for loan losses increased $70,000 or 93.3% to $145,000 for the six
month period ended June 30, 2008 from $75,000 for the same period in the prior
year. Management's evaluation of the loan portfolio, including the changing
composition of the portfolio as well as economic trends, regulatory
considerations and other factors contributed to the recognition of $145,000 in
the provision for loan losses during the six months ended June 30, 2008.
Noninterest income. Noninterest income decreased $346,000 to $1.2 million for
the six months ended June 30, 2008, compared to $1.5 million for the same period
in the prior year. This decrease can be attributed to a decrease in gains on
securities of $451,000, partially offset by increases in fees and service
charges, commissions earned on financial services, gains on the sale of loans,
earnings on bank-owned life insurance and other noninterest income of $49,000,
$2,000, $1,000, $5,000 and $48,000, respectively.
The Corporation realized security losses of $275,000 during the six months ended
June 30, 2008 compared to gains of $176,000 for the same period in 2007. During
the second quarter of 2008, management determined that two marketable equity
securities were impaired. The impairment of these financial industry securities
were considered to be other than temporary due to recent developments in the
financial condition and near-term prospects of the issuers, a downturn in the
economic conditions affecting the industry and declining book values of the
securities. At June 30, 2008, these securities were written down to their
current fair value. The gain during the six month period ended June 30, 2007,
was primarily due to the realization of a $166,000 gain from the sale of a
community bank stock investment as a result of that bank's merger with a larger
financial institution.
Noninterest expense. Noninterest expense increased $62,000 or 1.3% to $4.7
million during the six months ended June 30, 2008, compared to $4.6 million
during the same period in the prior year. This increase in noninterest expense
can be attributed to increases in compensation and benefits and premises and
equipment of $150,000 and $38,000, respectively, partially offset by a decrease
in other noninterest expense of $126,000.
Compensation and benefits increased $150,000 or 5.9% to $2.7 million during the
six months ended June 30, 2008, compared to $2.6 million for the same period in
the prior year. This increase can be attributed primarily to normal salary and
wage increases and the addition of staff at a new branch location.
Premises and equipment increased $38,000 or 4.7% to $839,000 during the six
months ended June 30, 2008, compared to $801,000 for the same period in the
prior year. This increase can be attributed primarily to costs associated with
an additional branch office which was opened in April 2008.
Other noninterest expense decreased $126,000 or 9.7% to $1.2 million during the
six months ended June 30, 2008, compared to $1.3 million for the same period in
the prior year. This decrease can be attributed primarily to a decrease in
professional fees relating to Sarbanes-Oxley Section 404 compliance.
Provision for income taxes. The provision for income taxes decreased $20,000 or
6.0% to $311,000 for the six months ended June 30, 2008, compared to $331,000
for the same period in the prior year due primarily to the decrease in pre-tax
earnings of $178,000 or 11.2% to $1.4 million for the six months ended June 30,
2008, compared to $1.6 million for the same period in the prior year. Partially
offsetting this favorable variance, the effective tax rate was 22.0% for the six
months ended June 30, 2008, compared to 20.8% for the same period in 2007. The
difference between the statutory rate of 34% and the Corporation's effective tax
rate is due to tax-exempt income earned on loans, securities and bank-owned life
insurance.
LIQUIDITY
The Corporation's primary sources of funds generally have been deposits obtained
through the offices of the Bank, borrowings from the FHLB and amortization and
prepayments of outstanding loans and maturing securities. During the six months
ended June 30, 2008, the Corporation used its sources of funds primarily to fund
loan originations and security purchases. As of such date, the Corporation had
outstanding loan commitments, including undisbursed loans and amounts available
under credit lines, totaling $28.1 million, and standby letters of credit
totaling $1.1 million.
22
At June 30, 2008, time deposits amounted to $116.3 million or 44.9% of the
Corporation's total consolidated deposits, including approximately $47.7 million
of which are scheduled to mature within the next year. Management of the
Corporation believes that it has adequate resources to fund all of its
commitments, that all of its commitments will be funded as required by related
maturity dates and that, based upon past experience and current pricing
policies, it can adjust the rates of time deposits to retain a substantial
portion of maturing liabilities.
Aside from liquidity available from customer deposits or through sales and
maturities of securities, the Corporation has alternative sources of funds such
as a term borrowing capacity from the FHLB and, to a limited and rare extent,
the sale of loans. At June 30, 2008, the Corporation's borrowing capacity with
the FHLB, net of funds borrowed, was $116.1 million.
Management is not aware of any conditions, including any regulatory
recommendations or requirements, which would adversely impact its liquidity or
its ability to meet funding needs in the ordinary course of business.
CRITICAL ACCOUNTING POLICIES
Management views critical accounting policies to be those which are highly
dependent on subjective or complex judgments, estimates and assumptions and
where changes in those estimates and assumptions could have a significant impact
on the financial statements. Management currently views the determination of the
allowance for loan losses and the evaluation of securities for other than
temporary impairment as a critical accounting policies.
The allowance for loan losses provides for an estimate of probable losses in the
loan portfolio. In determining the appropriate level of the allowance for loan
loss, the loan portfolio is separated into risk-rated and homogeneous pools.
Migration analysis/historical loss rates, adjusted for relevant trends, have
been applied to these pools. Qualitative adjustments are then applied to the
portfolio to allow for quality of lending policies and procedures, national and
local economic and business conditions, changes in the nature and volume of the
portfolio, experience, ability and depth of lending management, changes in the
trends, volumes and severity of past due, non-accrual and classified loans and
loss and recovery trends, quality of the Corporation's loan review system,
concentrations of credit, and external factors. The methodology used to
determine the adequacy of the Corporation's allowance for loan losses is
comprehensive and meets regulatory and accounting industry standards for
assessing the allowance, however, it is still an estimate. Loan losses are
charged against the allowance while recoveries of amounts previously charged-off
are credited to the allowance. Loan loss provisions are charged against current
earnings based on management's periodic evaluation and review of the factors
indicated above.
Management evaluates securities for other than temporary impairment at least on
a quarterly basis, and more frequently when economic, market or other concerns
warrant such evaluation. Consideration is given to (1) the length of time and
the extent to which the fair value has been less than cost, (2) the financial
condition and near-term prospects of the issuer and (3) the intent and ability
of the Corporation to retain its investment in the issuer for a period of time
sufficient to allow for any anticipated recovery in fair value.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
-------------------------------------------------------------------
Market risk for the Corporation consists primarily of interest rate risk
exposure and liquidity risk. Since virtually all of the interest-earning assets
and interest-bearing liabilities are at the Bank, virtually all of the interest
rate risk and liquidity risk lies at the Bank level. The Bank is not subject to
currency exchange risk or commodity price risk, and has no trading portfolio,
and therefore, is not subject to any trading risk. In addition, the Bank does
not participate in hedging transactions such as interest rate swaps and caps.
Changes in interest rates will impact both income and expense recorded and also
the market value of long-term interest-earning assets. Interest rate risk and
liquidity risk management is performed at the Bank level. Although the Bank has
a diversified loan portfolio, loans outstanding to individuals and businesses
depend upon the local economic conditions in the immediate trade area.
23
One of the primary functions of the Corporation's asset/liability management
committee is to monitor the level to which the balance sheet is subject to
interest rate risk. The goal of the asset/liability committee is to manage the
relationship between interest rate sensitive assets and liabilities, thereby
minimizing the fluctuations in the net interest margin, which achieves
consistent growth of net interest income during periods of changing interest
rates.
Interest rate sensitivity is the result of differences in the amounts and
repricing dates of the Bank's rate sensitive assets and rate sensitive
liabilities. These differences, or interest rate repricing "gap", provide an
indication of the extent that the Corporation's net interest income is affected
by future changes in interest rates. A gap is considered positive when the
amount of interest rate-sensitive assets exceeds the amount of interest
rate-sensitive liabilities and is considered negative when the amount of
interest rate-sensitive liabilities exceeds the amount of interest
rate-sensitive assets. Generally, during a period of rising interest rates, a
negative gap would adversely affect net interest income while a positive gap
would result in an increase in net interest income. Conversely, during a period
of falling interest rates, a negative gap would result in an increase in net
interest income and a positive gap would adversely affect net interest income.
The closer to zero that gap is maintained, generally, the lesser the impact of
market interest rate changes on net interest income.
Based on certain assumptions provided by a federal regulatory agency, which
management believes most accurately represents the sensitivity of the
Corporation's assets and liabilities to interest rate changes, at June 30, 2008,
the Corporation's interest-earning assets maturing or repricing within one year
totaled $86.3 million while the Corporation's interest-bearing liabilities
maturing or repricing within one-year totaled $99.2 million, providing an excess
of interest-bearing liabilities over interest-earning assets of $12.9 million or
3.9% of total assets. At June 30, 2008, the percentage of the Corporation's
assets to liabilities maturing or repricing within one year was 114.9%.
For more information, see "Market Risk Management" in Exhibit 13 to the
Corporation's Annual Report on Form 10-K for the year ended December 31, 2007.
Item 4T. Controls and Procedures
---------------------------------
The Corporation maintains disclosure controls and procedures that are designed
to ensure that information required to be disclosed in the Corporation's
Exchange Act reports is recorded, processed, summarized and reported within the
time periods specified in the SEC's rules and forms, and that such information
is accumulated and communicated to the Corporation's management, including its
Chief Executive Officer and Chief Financial Officer, as appropriate, to allow
timely decisions regarding required disclosure based on the definition of
"disclosure controls and procedures" in Rule 13a-15(e).
There has been no change made in the Corporation's internal control over
financial reporting during the period covered by this report that has
materially affected, or is reasonably likely to materially affect, the
Corporation's internal control over financial reporting.
As of June 30, 2008, the Corporation carried out an evaluation, under the
supervision and with the participation of the Corporation's management,
including the Corporation's Chief Executive Officer and Chief Financial
Officer, of the effectiveness of the design and operation of the Corporation's
disclosure controls and procedures. Based on the foregoing, the Corporation's
Chief Executive Officer and Chief Financial Officer concluded that the
Corporation's disclosure controls and procedures were effective. There have
been no significant changes in the Corporation's internal controls or in other
factors that could significantly affect the internal controls subsequent to the
date the Corporation completed its evaluation.
PART II - OTHER INFORMATION
---------------------------
Item 1. Legal Proceedings
--------------------------
The Corporation is involved in various legal proceedings occurring in the
ordinary course of business. It is the opinion of management, after consultation
with legal counsel, that these matters will not materially effect the
Corporation's consolidated financial position or results of operations.
24
Item 1A. Risk Factors
----------------------
There have been no material changes in the Corporation's risk factors from those
previously disclosed in the 2007 Form 10-K.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
--------------------------------------------------------------------
None.
Item 3. Defaults Upon Senior Securities
----------------------------------------
None.
Item 4. Submission of Matters to a Vote of Security Holders
------------------------------------------------------------
(a) The annual meeting of stockholders of the Corporation was held April
23, 2008. Of 1,267,835 common shares eligible to vote, 937,632 or 74.0%
were voted in person or by proxy.
(b) The following Class B directors were elected for a three year term
expiring in 2011:
Name Shares For Shares Withheld
---- ---------- ---------------
James M. Crooks 899,862 37,770
Robert L. Hunter 929,184 8,448
John B. Mason 922,406 15,226
In addition to the above listed individuals, the following persons
continue to serve as directors: Ronald L. Ashbaugh, David L. Cox,
George W. Freeman, Mark A. Freemer, J. Michael King, William C. Marsh
and Brian C. McCarrier.
The recommendation of the Board of Directors to ratify the appointment
of Beard Miller Company LLP as the Corporation's independent auditors,
as described in the proxy statement for the annual meeting was approved
with 930,172 shares in favor, 2,258 shares against and 5,202 shares
abstained.
Item 5. Other Information
--------------------------
(a) Not applicable.
(b) Not applicable.
Item 6. Exhibits
-----------------
Exhibit 31.1 Rule 13a-14(a) Certification of Chief Executive Officer
Exhibit 31.2 Rule 13a-14(a) Certification of Chief Financial Officer
Exhibit 32.1 CEO Certification Pursuant to 18 U.S.C. Section 1350
Exhibit 32.2 CFO Certification Pursuant to 18 U.S.C. Section 1350
25
Signatures
----------
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
EMCLAIRE FINANCIAL CORP. AND SUBSIDIARY
Date: August 14, 2008 By: /s/ David L. Cox
-------------------------------------
David L. Cox
Chairman of the Board,
President and Chief Executive Officer
Date: August 14, 2008 By: /s/ William C. Marsh
-------------------------------------
William C. Marsh
Treasurer and Chief Financial Officer
26