Item 1. Business
WSB Holdings, Inc. (“WSB” or the “Company”) became the holding company of The Washington Savings Bank, F.S.B. (the “Bank”) as of January 3, 2008.
The Bank is a federally chartered, federally insured, stock savings bank which was organized in 1982 as a Maryland-chartered, privately insured savings and loan association. It received federal insurance in 1985 and a federal savings bank charter in 1986. The Bank is a member of the Federal Home Loan Bank (“FHLB”) system and its deposits are insured by the Federal Deposit Insurance Corporation (“FDIC”) to the maximum amount provided by law. We are subject to supervision and regulation by the Office of the Comptroller of the Currency (“OCC”) and the Board of Governors of the Federal Reserve System (the “Federal Reserve Board”).
We have five savings branches in Maryland. They are located in Bowie, Waldorf, Crofton, Millersville and Odenton, all of which are adjacent to the Baltimore-Washington corridor. Also located in our corporate headquarters are our commercial lending group and our retail mortgage group. Our retail mortgage group also has offices in Northern Virginia and in Catonsville, Greenbelt and Annapolis, Maryland.
We are engaged primarily in the business of attracting deposit accounts from the general public and using such funds, together with other borrowed funds, to make first and second mortgage loans, land acquisition and development loans, commercial loans, construction loans, consumer loans, and non-residential mortgage loans, with an emphasis on residential mortgage, commercial and construction lending.
Market Area and Target Market
We consider our current primary market area to consist of the suburban Maryland (Baltimore/Washington, D.C. suburbs) counties of Prince Georges, Anne Arundel and Charles. We generally target middle income individuals and small and middle income businesses.
Lending Activities
General. Lending by the Bank has historically focused on residential mortgage loans and construction loans on residential projects. The following table sets forth information concerning our loan portfolio net of deferred fees at the dates indicated:
(1) Includes $1.9 million, $2.6 million, $1.2 million, $1.5 million and $1.8 million of second mortgage loans at December 31, 2011, 2010, 2009, 2008 and July 31, 2007, respectively.
Contractual Maturities. The following table reflects the approximate schedule of contractual principal repayments of the held-for-investment loan portfolio at December 31, 2011. With respect to adjustable rate loans, the following table reflects the approximate schedule of contractual maturities:
Prepayment Experience. Contractual principal repayment terms do not necessarily reflect the actual repayment experience within the loan portfolio. The average lives of mortgage loans are expected to be substantially less than their contractual terms due to loan prepayments and refinancings. The following table presents estimated maturities of our loan portfolio based upon our historic prepayment experience. With respect to adjustable rate loans, the following table reflects the approximate schedule of contractual maturities:
Origination, Purchase and Sale of Loans. As a federal savings bank, the Bank has authority to originate and purchase loans secured by real estate located throughout the United States. Generally, we make loans in and around our market area, which primarily is the Baltimore-Washington corridor. Historically, we have not engaged in the purchasing of loans.
In addition to accepting loan requests from our customer base, we employ 18 mortgage loan originators compensated primarily on an incentive basis and two commercial loan originators compensated primarily on a salary basis. The loan originators and other members of our management maintain contacts with local builders, developers and realtors, which provide us with additional potential customers. The Bank also enhances its business contacts within the communities it serves by participating in local civic organizations.
The Bank originates residential loans for its portfolio and for sale in the secondary market. Our general practice has been to sell loans on an individual basis to various lenders throughout the country, without retaining loan servicing rights (commonly referred to as “servicing released”). In general, higher interest rate loans, such as commercial loans, second mortgages, construction loans, and construction/permanent loans, are held in the Bank’s portfolio, while conforming first mortgages are sold at or shortly after origination. During this period of slow demand in other areas of lending, we are focusing on increasing mortgage activity in order to reduce balance sheet risk and realize gains on the sale of loans in the secondary market. Due to slow demand in commercial lending, our management has reduced our commercial business and commercial real estate lending department staff during the last two years. This has resulted in a decrease in the portfolios of commercial business, commercial real estate, and residential land development loans to commercial borrowers. We also use available funds to retain certain higher-yielding fixed rate residential mortgage loans in our portfolio in order to improve interest income. During the past two fiscal years, we originated 896 loans with a principal value of approximately $263.6 million. The proceeds from loan sales are used to fund loans held for investment, mortgage-backed securities (“MBS”) and investment securities. We also have approval to sell loans to Fannie Mae (“FNMA”) and Freddie Mac (“FHLMC”), which enhances our ability to sell our mortgage loans and to convert pools of loans into marketable Ginnie Mae (“GNMA”), FNMA and FHLMC participation certificates. See “Mortgage-Backed Securities.”
Loan Underwriting Policies. Under our loan approval policy, all loans approved must comply with federal regulations. Generally, we will make residential mortgage loans in amounts up to the limits established from time to time by FNMA and FHLMC for secondary market resale purposes. This amount for single-family residential loans currently varies from $417,000 up to a maximum of $625,500 for certain high-cost designated areas. We also make residential mortgage loans up to limits established by the Federal Housing Administration (“FHA”) which currently is
$729,500. The Washington, D.C. and Baltimore areas are both considered high-cost designated areas. We will, however, make loans in excess of this amount, if we believe we can sell the loans in the secondary market or that the loans should be held in our portfolio.
We obtain detailed loan applications to determine a borrower’s ability to repay and verify the more significant items on these applications through credit reports, financial statements and confirmations. We also require appraisals of collateral and title insurance on secured real estate loans. Most borrowers must establish a mortgage escrow account for items such as real estate taxes, governmental charges and hazard and private mortgage insurance premiums.
Our lending policy generally requires private mortgage insurance when the loan-to-value ratio exceeds 80%. We generally do not lend in excess of 90% of the appraised value of single-family residential dwellings even when private mortgage insurance is obtained, except for FHA, Veterans Administration (“VA”) and Farmers Home Administration (“FmHA”) loans, which permit higher loan-to-value ratios. Underwriting policies on other types of loans are described below.
Under federal law, the aggregate amount of loans that we may make to any one borrower and related entities is generally limited to 15% of the Bank’s unimpaired capital and unimpaired surplus. Our general lending limit at December 31, 2011 was approximately $8.0 million. We have not made any loans aggregated in excess of this limit.
Single-Family Residential Real Estate Lending. At December 31, 2011, we had a total of $292.3 million in loans receivable and MBS. Loans secured by first or second mortgages on single-family properties, excluding construction loans, were $81.4 million or 27.85% of total loans receivable and MBS. MBS were $80.8 million or 27.65% of total loans receivable and MBS.
Our single-family residential loans have historically consisted of fixed interest rates for terms of up to 30 years. We originate conventional mortgage loans, FHA loans, VA loans, and loans in excess of the FNMA and FHLMC ceilings both for sale in the secondary market and for our own portfolio. We also offer adjustable-rate mortgages, with rates adjusting to external indices in one to ten years. We have also made loans which fully amortize in 15 years and, on investment properties, loans which are due and payable in five years, subject to extension in some circumstances.
Non-Residential Real Estate Lending. We make permanent mortgage loans on various non-residential properties, including office buildings and warehouses. Non-residential loans are made on properties located in or around our market area. Non-residential real estate lending may entail significant additional risks as compared to single-family residential property lending. At December 31, 2011, non-residential real estate loans represented $35.2 million, or 12.06% of total loans receivable and MBS, and lot and land loans represented $7.4 million, or 2.55%, of our total loans receivable and MBS.
Acquisition, Development and Construction Lending. We provide construction loans for single-family and multi-family residences and for non-residential properties. These loans usually include funding for the acquisition and development of unimproved properties to be used for residential or non-residential construction. We may provide permanent financing on the same projects for which we have provided the construction financing.
Acquisition, development and construction lending, while providing higher yields, may also have greater risks of loss than long-term residential mortgage loans on improved, owner-occupied properties. At December 31, 2011, acquisition, development and construction loans represented $4.5 million, or 1.53%, of our total loans receivable and MBS.
The Bank generally is not currently seeking land or land acquisition loans; however, in the past the Bank would generally make land acquisition loans with terms of up to three years and loan to value ratios of up to 65%, and land development loans with terms of up to two years and loan-to value ratios of up to 75%. The Bank is currently focusing on owner occupied residential construction loans with original terms of generally up to one year and loan to-value ratios of up to 80%.
Commercial Lending. Federal laws and regulations permit thrift institutions to lend up to 20% of total assets in commercial loans on an unsecured basis or secured by collateral other than real estate, provided that amounts in excess of 10% of total assets may be used only for small business loans. Prior to 2008, commercial lending was a minor component of our lending portfolio and operations. Since 2008, we expanded this part of our lending business and continue to promote the origination of commercial and commercial real estate lending, but due to slow demand in commercial lending, our commercial portfolio has decreased approximately $15.9 million during 2011 as a result of loan paydowns. We have, however, recently shifted our focus to increasing our mortgage banking activity, primarily loans sold in the secondary market, during this current period of slow demand for commercial lending. At December 31, 2011, commercial loans represented $2.2 million, or 0.77%, of total loans receivable and MBS, which was below the limit permitted by the regulations. Commercial loans secured by real estate represented $80.1 million, or 27.42%, of total loans receivable and MBS at December 31, 2011. In addition, we have issued a limited number of standby letters of credit, generally to development loan customers in connection with development work financed by the Bank.
Consumer Lending. Federal laws and regulations permit a federally chartered thrift institution to make secured and unsecured consumer loans in an aggregate amount up to 35% of the institution’s total assets. The 35% limitation does not include home equity loans (loans secured by the equity in the borrower’s residence, but not necessarily for the purpose of improvement), home improvement loans or loans secured by deposits. We have not actively promoted these kinds of loans. Consumer loans, including loans secured by deposits, represented $504,000, or 0.17%, of total loans receivable and MBS at December 31, 2011.
Loan Fees and Service Charges. In addition to interest earned on loans, we receive income through servicing of loans and certain loan fees in connection with loan originations, loan modifications, loan commitments, late payments, changes of property ownership inspection fees and other services related to our outstanding loans. Income from these activities varies from period to period with the volume and types of loans made and repaid. We charge loan origination fees, which are calculated as a percentage of the amount loaned. The fees received in connection with the origination of construction and mortgage loans have generally been from one to four points (one point being equivalent to 1% of the principal amount of the loan) and are dependent upon market conditions and other factors. Loan origination fees, net of certain costs, are deferred and recognized as a yield adjustment over the lives of the loans primarily utilizing the interest method.
Mortgage-Backed Securities (MBS)
In addition to short-term investments, when management believes favorable interest rate spreads are available, we may invest excess funds in MBS. GNMA participation certificates represent interests in pools of loans which are either insured by the FHA or guaranteed by the VA. FHLMC participation certificates are guaranteed by the FHLMC and FNMA participation certificates are guaranteed by the FNMA. The United States is not obligated to fund either FHLMC’s obligations or FNMA’s obligations. MBS may also be used as collateral for short-term and long-term borrowings, which we may obtain from time to time. We do not generally employ hedging strategies in connection with a MBS portfolio.
The primary risk of holding these securities is the fluctuation of principal value corresponding to changes in interest rates. Although MBS do not alter the overall maturity of our assets as compared to holding a comparable portfolio of whole loans, they are more liquid than whole mortgage loans. At December 31, 2011, we had $80.8 million MBS in our portfolio. The following table sets forth the book value and estimated market value of the MBS portfolio at the dates indicated.
We sold $11.0 million MBS classified as available-for-sale during the year ending December 31, 2011 and experienced $401,000 pre-tax gain, or approximately $243,000 after tax gain, compared to $5.2 million MBS classified as available-for-sale, experiencing a $470,000 pre-tax loss, or approximately $285,000 after tax loss for the twelve months ending December 31, 2010. During the year ended December 31, 2010, we also sold $1.8 million classified as held-to-maturity and experienced a $109,000 pre-tax gain, or approximately $66,000 after tax gain. There were no sales of MBS classified as held-to-maturity for the year ended December 31, 2011 and we had no securities classified as held-to-maturity subsequent to the 2010 sale. At December 31, 2011, we had no non-cash other-than-temporary impairment (“OTTI”) charges recognized in net earnings, related to available-for-sale investments as compared to a charge to the consolidated statement of operations of $2.9 million for one of our private-labeled MBS for the period ending December 31, 2010. The OTTI charge related to a credit loss. For full explanation, please refer to Note 3 of the Notes to Consolidated Financial Statements.
Other Investment Activities
In addition to investment in MBS, excess short-term funds have generally been invested in federal funds, agency callable paper, zero coupon bonds, a certificate of deposit (“CD”) and preferred trust coupon bonds. Our portfolio of investment securities provides a source of liquidity when loan demand exceeds funding capability, provides funding for unexpected savings and CD withdrawals, provides funds for CD maturities, serves as a vehicle for interest rate risk management, and provides a source of income. We are required to maintain certain liquidity ratios and generally do so by investing in securities that qualify as liquid assets under federal regulations. We are also required to hold FHLB stock in specified amounts and to maintain
certain reserves with the Federal Reserve Bank of Richmond. See “Business-Supervision and Regulation”.
The following table sets forth certain information regarding our investment securities (excluding MBS), at carrying value and other interest earning assets at the dates indicated.
The following table sets forth our scheduled maturities on other investments:
Other Investments Scheduled Maturity Table as of December 31, 2011
Prepayments and calls on the FHLB Agencies shorten the actual maturity. FHLB and ACBB stock has been excluded from this table as it has no stated maturity.
Approximately $32.0 million short term investments, callable agencies, were called during the twelve month period ending December 31, 2011. During the twelve month period ending December 31, 2011, we sold approximately $10.0 million in short term agencies. The sale of these securities was used to reinvest in higher yielding investments which included MBS and corporate bonds. This was part of management’s efforts this year to continue to strengthen the balance sheet for the future.
Sources of Funds
General. Deposits are the primary source of the Bank’s funds for use in lending and for other general business purposes. In addition to deposits, we obtain funds from loan amortizations and prepayments and sales of loans, MBS and investment securities. We maintain funding facilities with correspondent banks and the Federal Home Loan Bank of Atlanta, which are
cancelable by the lender and subject to lender discretion. Management has begun investing excess cash liquidity in investment grade securities which offer a ready source of collateral for secured borrowings under existing credit facilities. Structured repurchase agreements (“repos”) are financial transactions in which an organization borrows money by selling securities and simultaneously agreeing to buy the securities back later at a higher price, and they function similarly to a secured loan with the securities serving as collateral. At December 31, 2011, we had borrowings of $84.0 million in the form of advances from the FHLB of Atlanta.
Deposits. Deposits are the primary source of our funds for use in lending and for other general business purposes. We compete with other financial institutions for deposits. Competition for deposits remains high. The receipt and disbursement of deposits are significantly influenced by economic conditions, interest rates, money market conditions and other factors. Our consumer deposits and commercial deposits are attracted from within our primary market areas through the offering of a broad selection of deposit instruments including consumer, small business and commercial demand deposit accounts, interest-bearing checking accounts, money market accounts, regular savings accounts, certificates of deposit and retirement savings plans. These accounts are a source of low-interest cost funds and provide fee income to the Bank.
Information concerning our deposits is set forth in “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Consolidated Financial Condition Analysis - Deposits” and in Note 8 of the Notes to Consolidated Financial Statements.
The change in the mix of our deposits during 2011, as discussed further in the table below, reflects our emphasis on the growth of core deposits, savings accounts, and less emphasis on longer-term CDs. We advertise for CDs from time to time generally when we have the need for deposits of specific maturities. We have received deposits through brokers on an occasional basis in a manner consistent with federal regulations for our current funding obligations, however, we have consciously reduced our reliance on brokered deposits and have focused growth through the branches.
The following table shows the distribution of our deposits by type of deposit, including accrued interest, for the periods indicated.
Our deposits are insured by the FDIC. The Bank’s deposits have FDIC insurance coverage of $250,000 per depositor. The Dodd-Frank Wall Street Reform and Consumer Protection Act signed on July 21, 2010, made permanent the deposit insurance amount of $250,000.
The following table presents, by various interest rate categories, the amounts of time deposit accounts, excluding accrued interest payable of $12,107 at December 31, 2011, which will mature during the periods indicated.
(1)Brokered accounts consisting of individual accounts issued under master certificates in the broker’s name have been included in the total representing balance of $100,000 or less.
The following table contains information pertaining to approximately 176 certificates of deposit accounts held in excess of $100,000 as of December 31, 2011.
Borrowings. At December 31, 2010, total borrowings consisted of $76.0 million in FHLB advances. To meet our funding needs for the fiscal year ending December 31, 2011, FHLB advance consisted of $8.0 million in daily rate credit bringing the balance of our FHLB advances to $84.0 million at December 31, 2011, as shown in the table below.
FHLB Borrowings
Our interest expense on our borrowings decreased approximately $1.4 million and $2.4 million for the periods ending December 31, 2011 and 2010. This decrease is due to the restructuring of our borrowings by which we elected the repayment of $30.0 million of our
reverse repurchase agreements resulting in a pre-payment penalty of approximately $2.0 million during the year ending December 31, 2010.
Subsidiaries
WSB, Inc.
The Bank established a wholly owned service corporation subsidiary, WSB, Inc., in 1985. WSB Inc. became a subsidiary of WSB in the holding company reorganization. WSB, Inc. purchases land to develop into single-family building lots that are offered for sale to third parties. It also builds homes on certain lots on a contract basis. During the years ended December 31, 2011 and 2010, WSB, Inc. did not develop any lots. See Note 5 of Notes to Consolidated Financial Statements.
WSB Realty, LLC
The Bank established a wholly-owned operating subsidiary in January 2009 for the purpose of directly or indirectly, acquiring, owning, holding, leasing, developing, managing, operating, investing in or otherwise dealing with various real and personal property. Management is authorized to take assignment of the right to acquire title to certain properties purchased at foreclosure sales. Management is authorized to take usual and customary activities toward the acquisition, rehabilitation, sale, rental and disposition of these properties. At December 31, 2011, WSB Realty, LLC had assets of approximately $1.4 million consisting primarily of other real estate owned. WSB Realty, LLC reports a net loss of approximately $159,000 for year ending December 31, 2011.
WSB Realty, Inc.
The Bank established a wholly-owned operating subsidiary in September 2010 for the purpose of directly or indirectly, acquiring, owning, holding, leasing, developing, managing, operating, investing in or otherwise dealing with various real and personal property. Management is authorized to take assignment of the right to acquire title to certain properties purchased at foreclosure sales. Management is authorized to take usual and customary activities toward the acquisition, rehabilitation, sale, rental and disposition of these properties. At December 31, 2011, WSB Realty, Inc. had assets of approximately $128,000 consisting primarily of other real estate owned. WSB Realty, Inc. reports a net loss of approximately $35,500 for year ending December 31, 2011.
Employees
We had 95 full-time and 19 part-time employees at December 31, 2011. We provide health and life insurance benefits and an employer matching 401(k) plan. None of the employees are represented by a collective bargaining union. We believe that we enjoy good relations with our employees.
Available Information
WSB’s internet address is www.twsb.com. There we make available, free of charge, our annual report on Form 10-K, proxy statements, quarterly reports on Form 10-Q, current reports on Form 8-K, and any amendments to these reports as soon as practicable after we file or furnish
them with the Securities and Exchange Commission (“SEC”), as well as copies of required Forms 3, 4, and 5 filings for insider security holdings and transactions and copies of our Code of Ethics for our officers, directors and employees as well as our committee charters. Our SEC reports can be accessed through the financial highlights information section of our website. The information on our website is not a part of this or any other report we file with or furnish to the SEC.
Supervision and Regulation
General
As a federal savings bank, the Bank is subject to extensive regulation and periodic examination by the OCC. The lending activities and other investments of the Bank must comply with various federal regulatory requirements and the Bank must periodically file reports with the OCC describing its activities and financial condition. The Bank’s deposits are insured by the FDIC through its Deposit Insurance Fund (“DIF”). The Bank is also subject to regulation for certain matters by the FDIC and for certain other matters by the Federal Reserve Board. This supervision and regulation is intended primarily for the protection of depositors. Certain of these regulatory requirements are referred to below or appear elsewhere herein.
As a savings and loan holding company, WSB is registered with the Federal Reserve Board and is subject to regulation, examination, supervision, and reporting requirements applicable to savings and loan holding companies. In addition, the Federal Reserve Board has enforcement authority over WSB and its subsidiaries. Among other things, this authority permits the Federal Reserve Board to restrict or prohibit activities that are determined to be a serious risk to the subsidiary savings institution. WSB’s status as a savings and loan holding company does not exempt us from certain federal and state laws applicable to Delaware corporations generally, including, without limitation, certain provisions of the federal securities laws.
On June 3, 2011, WSB and the Bank entered into separate Supervisory Agreements (the “Agreements”) with the Office of Thrift Supervision (the “OTS”), their primary banking regulator on such date.
The Agreements, which are formal enforcement actions initiated by the OTS, require WSB and the Bank to take certain measures to improve their safety and soundness and maintain ongoing compliance with applicable laws. During the course of a routine review of the Company by the OTS, examiners identified certain supervisory issues, primarily related to our classified assets. The Supervisory Agreements set forth the actions that WSB, the Bank and their Boards of Directors must undertake to address the issues. Pursuant to regulatory changes instituted by the Dodd-Frank Act, WSB is now regulated by the Federal Reserve Board and the Bank is now regulated by the OCC. As our current regulators, the Agreements will be enforced by the OCC with respect to the Bank and the Federal Reserve Board with respect to WSB. Each Agreement will remain in effect until terminated, modified or suspended by the Federal Reserve Board or OCC, as applicable.
We have adopted many of the requirements required by the Supervisory Agreements and have submitted the information to the appropriate regulators for their approval.
For additional information regarding the Agreements, please see the Company’s Current Report on Form 8-K filed with the SEC on June 6, 2011. The Agreements are also filed as Exhibits 10.12 and 10.13 to our quarterly report for the period ending June 30, 2011.
The following is a summary of certain laws and regulations that are applicable to the Bank. This summary is not a complete description of such laws and regulations, nor does it encompass all such laws and regulations. Any change in the laws and regulations governing the Bank or in the policies of the various regulatory authorities could have a material impact on the Bank, its operations and its stockholders.
Regulatory Reform Legislation. On July 21, 2010, President Obama signed the Dodd-Frank Act into law. The Dodd-Frank Act will have a broad impact on the financial services industry, imposing significant regulatory and compliance changes, including the designation of certain financial companies as systemically significant, the imposition of increased capital, leverage, and liquidity requirements, and numerous other provisions designed to improve supervision and oversight of, and strengthen safety and soundness within, the financial services sector.
The following items provide a brief description of certain provisions of the Dodd-Frank Act.
OTS merged with OCC. The Dodd-Frank Act eliminated the OTS. On July 21, 2011, the OTS effectively merged into the OCC, with the OCC assuming all functions and authority from the OTS relating to federally chartered savings banks, such as the Bank, and the Federal Reserve Board assuming all functions and authority from the OTS relating to holding companies for savings banks, such as WSB. As a result, as of July 21, 2011, the OCC became the Bank’s primary federal regulator and WSB became subject to supervision by the Federal Reserve Board.
· Source of strength. The Dodd-Frank Act extended the Federal Reserve Board’s “source of strength” doctrine to savings and loan holding companies such as WSB. The regulatory agencies must issue regulations requiring that all bank and savings and loan holding companies serve as a source of strength to their subsidiary depository institutions by providing capital, liquidity and other support in times of financial stress. Under this requirement, the Company in the future could be required to provide financial assistance by providing capital, liquidity and other support to the Bank should the Bank experience financial distress.
· Mortgage loan origination and risk retention. The Dodd-Frank Act contains additional regulatory requirements that may affect our operations and result in increased compliance costs. For example, the Dodd-Frank Act imposes new standards for mortgage loan originations on all lenders, including banks, in an effort to require steps to verify a borrower’s ability to repay. In addition, the Dodd-Frank Act generally requires lenders or securitizers to retain an economic interest in the credit risk relating to loans the lender sells or mortgage and other asset-backed securities that the securitizer issues. The risk retention requirement generally will be 5%, but could be increased or decreased by regulation.
· Consumer Financial Protection Bureau (“CFPB”). The Dodd-Frank Act created a new independent CFPB within the Federal Reserve Board. The CFPB is tasked with establishing and implementing rules and regulations under certain federal consumer protection laws with respect to the conduct of providers of certain consumer financial products and services. The CFPB has rulemaking authority over many of the statutes
governing products and services offered to bank consumers, including the authority to prohibit “unfair, deceptive or abusive” acts and practices. For banking organizations with assets under $10 billion, like the Bank, the CFPB has exclusive rulemaking authority, but the Bank’s primary federal regulator will continue to have examination and enforcement authority under federal consumer financial law. In addition, the Dodd-Frank Act permits states to adopt consumer protection laws and regulations that are stricter than those regulations promulgated by the CFPB. Compliance with any such new regulations would increase our cost of operations.
· Deposit insurance. The Dodd-Frank Act made permanent the general $250,000 deposit insurance limit for insured deposits. The Dodd-Frank Act also extends until January 1, 2013, federal deposit insurance coverage for the full net amount held by depositors in non-interest bearing transaction accounts. Amendments to the Federal Deposit Insurance Act also broadened the assessment base against which an insured depository institution’s deposit insurance premiums paid to DIF will be calculated. Under the amendments, the assessment base will no longer be the institution’s deposit base, but rather its average consolidated total assets less its average tangible equity. These provisions could increase the FDIC deposit insurance premiums paid by the Bank.
· Enhanced lending limits. The Dodd-Frank Act strengthened the existing limits on a depository institution’s credit exposure to one borrower. Federal law limits a depository institution’s ability to extend credit to one person (or group of related persons) in an amount exceeding certain thresholds. The Dodd-Frank Act expanded the scope of these restrictions to include credit exposure arising from derivative transactions, repurchase agreements, and securities lending and borrowing transactions.
· Corporate governance. The Dodd-Frank Act addresses many investor protection, corporate governance and executive compensation matters that will affect most U.S. publicly traded companies, including the Company. The Dodd-Frank Act provides the SEC with authority to adopt proxy access rules that would allow stockholders of publicly traded companies to nominate candidates for election as a director and have those nominees included in a company’s proxy materials and directs the SEC and national securities exchanges to adopt rules that (1) provide stockholders of U.S. publicly traded companies an advisory vote on executive compensation; (2) will enhance independence requirements for compensation committee members; and (3) will require companies listed on national securities exchanges to adopt incentive-based compensation clawback policies for executive officers.
Many of the requirements of the Dodd-Frank Act will be implemented over time and most will be subject to regulations implemented over the course of several years. Given the uncertainty associated with the manner in which the provisions of the Dodd-Frank Act will be implemented by the various regulatory agencies and through regulations, the full extent of the impact such requirements will have on our operations is unclear. The changes resulting from the Dodd-Frank Act may impact the profitability of our business activities, require changes to certain of our business practices, impose upon us more stringent capital, liquidity and leverage requirements or otherwise adversely affect our business. These changes may also require us to invest significant management attention and resources to evaluate and make any changes necessary to comply with new statutory and regulatory requirements. Failure to comply with the new requirements may negatively impact our results of operations and financial condition. While we cannot predict what
effect any presently contemplated or future changes in the laws or regulations or their interpretations would have on us, these changes could be materially adverse to our investors.
Liquidity Requirements. As a thrift, the Bank derives its lending and investment authority from the Home Owners’ Loan Act, as amended, and regulations of the OCC thereunder. Those laws and regulations limit the ability of the Bank to invest in certain types of assets and to make certain types of loans. For example, the OCC requires thrifts to maintain sufficient liquidity to ensure their safe and sound operation. Liquid assets are defined to include cash, deposits maintained pursuant to Federal Reserve Board reserve requirements, time deposits in certain institutions and certain savings deposits, obligations of the United States and certain of its agencies and qualifying obligations of the states and political subdivisions thereof, highly rated corporate debt, mutual funds that are restricted by their investment policies to investing only in liquid assets, certain mortgage loans and mortgage-related securities and bankers acceptances. As of December 31, 2011, the Bank had $4.4 million of cash and cash equivalents. Further, the Company had $73.8 million of unpledged investment securities. However, the unpledged securities consist of approximately $15.4 million private label mortgage-backed securities with limited marketability for purposes of liquidity.
Internal sources of operational liquidity used by the Bank are cash, various short-term investments, mortgage-backed securities and loans and investments classified as available-for-sale. Additionally, we may borrow funds from commercial banks or from the FHLB of Atlanta or the Federal Reserve Bank “discount window” after exhausting FHLB sources. Previously, we also have utilized short term borrowings in the form of reverse repurchase agreements from a commercial bank to meet short-term liquidity needs. At December 31, 2011, we had approximately $29.5 million of availability on our FHLB line, and $12.0 million of availability on our secured line of credits with correspondent banks.
Qualified Thrift Lender Test. As a federal savings bank, the Bank must satisfy the qualified thrift lender, or “QTL,” test. To satisfy the QTL test, the Bank must either qualify as a domestic building and loan association under the Internal Revenue Code, or maintain an appropriate level of certain investments, called “Qualified Thrift Investments” (“QTIs”). QTIs include, among other things, a bank’s residential mortgages and related investments, including mortgage-backed securities, Federal Home Loan Bank stock, education loans, small business loans, and loans made through credit cards. QTIs must represent 65% or more of the Bank’s portfolio assets on a monthly average basis in 9 months out of every 12-month period. “Portfolio assets” generally means total assets of a savings bank, less the sum of specified liquid assets up to 20% of total assets, goodwill and other intangible assets, and the value of property used in the conduct of the savings bank’s business. Failure by the Bank to maintain its status as a QTL will result in certain restrictions under the Home Owners’ Loan Act on the Bank’s ability to engage in new activities, to establish new branches and to pay dividends. Additionally, WSB would be required to register as a bank holding company and become subject to the various restrictions applicable to the activities of bank holding companies. The Dodd-Frank Act made noncompliance with the QTL test subject to OCC enforcement action for a violation of law. At December 31, 2011, our QTL ratio was 82%, which exceeded the requirement.
Capital Standards. The Bank is subject to capital standards imposed by the OCC. These standards call for a minimum “leverage ratio” of core capital to adjusted total assets of 4% (3% for savings institutions receiving the highest composite CAMELS rating for safety and soundness), a minimum ratio of tangible capital to adjusted total assets of 1.5%, and a minimum ratio of risk-based capital to risk-weighted assets of 8%. The risk-based capital standard for
savings banks requires the maintenance of Tier 1 (core) and total capital (which is defined as core capital and supplementary capital) to risk-weighted assets of at least 4% and 8%, respectively. In determining the amount of risk-weighted assets, all assets, including certain off-balance sheet assets, are multiplied by a risk-weight factor of 0% to 200%, assigned by the OCC, based on the risks believed inherent in the type of asset. The regulations define both core capital and tangible capital as including common stock (including retained earnings), certain noncumulative perpetual preferred stock and related surplus, minority equity interests in consolidated subsidiaries, and certain non-withdrawable accounts, less intangible assets and certain servicing assets, interest-only strips receivable and investments in subsidiaries. Core capital also includes certain unamortized goodwill and purchased mortgage servicing rights. In addition, purchased credit card relationships may be included among core capital up to an amount equal to the lesser of 90% of the fair market value, or 100% of remaining unamortized book value. At December 31, 2011, the Bank’s ratios exceeded all regulatory capital requirements for well capitalized institutions. See Note 12 of Notes to Consolidated Financial Statements.
The OCC’s regulations also give the agency broad authority to establish minimum capital requirements for specific institutions at levels greater than the regulatory minimums discussed above upon a determination that an institution’s capital is or may become inadequate in view of the circumstances. These circumstances may include an institution receiving special supervisory attention, experiencing losses, experiencing poor liquidity or cash flows, and facing other risks identified by the regulators. The OCC also has broad authority to issue capital directives requiring its institutions to achieve compliance or take a variety of other actions intended to achieve capital compliance, including reducing asset or liability growth and restricting payments of dividends. OCC regulations generally require that subsidiaries of a thrift institution be separately capitalized and that investments in, and extensions of credit to, any subsidiary engaged in activities not permissible for a national bank be deducted from the computation of a thrift institution’s capital. The OCC has not advised us that the Bank is subject to any special capital requirements.
Prompt Corrective Action. The federal banking agencies have established by regulation, for each capital measure, the levels at which an insured institution is well capitalized, adequately capitalized, undercapitalized, significantly undercapitalized or critically undercapitalized. The federal banking agencies are required to take prompt corrective action with respect to insured institutions that fall below the adequately capitalized level. Any insured depository institution that falls below the adequately capitalized level must submit a capital restoration plan, and, if its capital levels further decline or do not increase, will face increased scrutiny and more stringent supervisory action. As of December 31, 2011, we were deemed to be well capitalized.
Interest Rate Risk. The OCC has issued guidelines regarding the management of interest rate risk (“IRR”). The OCC expects all federal savings associations, such as the Bank, to manage their IRR exposure using processes and systems commensurate with their earnings and capital levels; complexity; business model; risk profile; and scope of operations. Savings associations are required to have comprehensive policies and procedures that govern all aspects of their IRR management process and that address the potential impact of changing interest rates on earnings and capital from a short-term and a long-term perspective. Stress testing is an integral component of IRR management. The Bank’s IRR program incorporates a stress-testing process to identify and quantify the Bank’s IRR exposure and potential problem areas.
Deposit Insurance. The DIF of the FDIC insures deposits at FDIC insured financial institutions such as the Bank. Deposit accounts in the Bank are insured by the FDIC generally up to a maximum of $250,000 per separately insured depositor. FDIC-insured depository institutions
are required to pay deposit insurance assessments to the FDIC. The amount of a particular institution’s deposit insurance assessment is based on that institution’s risk classification under an FDIC risk-based assessment system. Under the FDIC’s risk-based assessment system, insured institutions are assigned to one of four risk categories based on supervisory evaluations, regulatory capital levels and certain other risk factors. Rates are based on each institution’s risk category and certain specified risk adjustments. Deposit insurance assessments fund the DIF, which is currently under-funded.
The Dodd-Frank Act changed the way an insured depository institution’s deposit insurance premiums are calculated. The assessment base is no longer the institution’s deposit base, but rather its average consolidated total assets less its average tangible equity. The legislation also permanently increased the maximum amount of deposit insurance for banks, savings institutions and credit unions to $250,000 per depositor, retroactive to January 1, 2008, and noninterest bearing transaction accounts have unlimited deposit insurance through December 31, 2012. The Dodd-Frank Act also made changes to the minimum designated reserve ratio of the DIF, increasing the minimum from 1.15% percent to 1.35% of the estimated amount of total insured deposits, eliminating the upper limit for the reserve ratio designated by the FDIC each year, and eliminating the requirement that the FDIC pay dividends to depository institutions when the reserve ratio exceeds certain thresholds.
As mandated by the Dodd-Frank Act, in February 2011, the FDIC approved a final rule that changes the deposit insurance assessment system from one that is based on domestic deposits to one that is based on average consolidated total assets minus average tangible equity. In addition, the rule adopts a “scorecard” assessment scheme for larger banks and suspends dividend payments indefinitely if the DIF reserve ratio exceeds 1.5% percent, but provides for decreasing assessment rates when the reserve ratio reaches certain thresholds. Under the new rule, larger insured depository institutions generally pay higher assessments than under the old system, which should offset the cost of the assessment increases for institutions with consolidated assets of less than $10 billion, such as the Bank.
In 2009, the FDIC imposed a 5 basis point special assessment on each insured depository institution’s insurance assets minus Tier 1 capital (core capital) as of June 30, 2009, not to exceed 10 basis points of the institution’s domestic deposits. This special assessment was collected on September 30, 2009. The FDIC also adopted a final rule requiring insured institutions to prepay quarterly risk-based assessments for the fourth quarter of 2009, and for all of 2010, 2011 and 2012. The pre-payment allowed the FDIC to strengthen the cash position of the DIF immediately without impacting earnings of the industry. We paid the prepaid assessments, along with our regular quarterly assessment, on December 30, 2009. As of December 31, 2011, $685,000 million in pre-paid deposit insurance assessments is included in other assets in the accompanying consolidated balance sheet.
In addition to FDIC deposit insurance assessments, all FDIC-insured depository institutions must also pay an annual assessment to interest payments on bonds issued by the Financing Corporation, a federal corporation chartered under the authority of the Federal Housing Finance Board. The bonds (commonly referred to as “FICO bonds”) were issued to capitalize the Federal Savings and Loan Insurance Corporation. The Financing Corporation payments will continue until the bonds mature in 2017 through 2019. Our FICO expense payments totaled $742,000 in 2011 and $1.2 million in 2010.
In November 2008, the FDIC adopted the Temporary Liquidity Guarantee Program, or TLGP, pursuant to its authority to prevent “systemic risk” in the U.S. banking system. The TLGP was announced as an initiative to counter the system-wide crisis in the nation’s financial sector. The TLGP included a Debt Guarantee Program and a Transaction Account Guarantee Program. We elected to participate in the TLGP program.
Under the Transaction Account Guarantee Program of the TLGP, or the TAGP, the FDIC fully insured non-interest bearing transaction deposit accounts held at participating FDIC-insured institutions was extended through December 31, 2010. For institutions participating in the TAGP, a ten basis point annualized fee was added to the institution’s quarterly insurance assessment in 2009 for balances in non-interest bearing transaction accounts that exceeded the existing deposit insurance limit of $250,000. We elected to continue to participate in the TAGP through December 31, 2010.
In place of the TAGP which was scheduled to expire on December 31, 2010, and in accordance with certain provisions of the Dodd-Frank Act, the FDIC adopted further rules in November 2010 which provide for temporary unlimited insurance coverage of certain non-interest bearing transaction accounts. On July 21, 2010, the Dodd-Frank Act extended unlimited FDIC insurance to noninterest-bearing transaction deposit accounts. This unlimited FDIC insurance coverage is applicable to all applicable deposits at any FDIC-insured financial institution. Therefore, there is no additional FDIC insurance surcharge related to this coverage after December 31, 2010.
The FDIC may terminate the deposit insurance of any insured depository institution, including the Bank, if it determines after a hearing that the institution has engaged or is engaging in unsafe or unsound practices, is in an unsafe or unsound condition to continue operations, or has violated any applicable law, regulation, order or any condition imposed by an agreement with the FDIC. It also may suspend deposit insurance temporarily during the hearing process for the permanent termination of insurance, if the institution has no tangible capital. If insurance of accounts is terminated, the accounts at the institution at the time of the termination, less subsequent withdrawals, shall continue to be insured for a period of six months to two years, as determined by the FDIC. Our management is not aware of any existing circumstances which would result in termination of our deposit insurance.
Restrictions on Capital Distributions. Thrift institutions are subject to limitations on their ability to make capital distributions such as dividends, stock redemptions or repurchases, cash-out mergers, and other transactions charged to the capital account of a thrift institution. In general, an application to the OCC for prior approval to pay a dividend is required when that dividend, combined with all distributions made during the calendar year, would exceed a thrift institution’s net income year-to-date plus retained net income for the proceeding two years, or that would cause the thrift institution to be less than adequately capitalized. We are currently in compliance with this requirement. Refer to “Market Price of WSB’s Capital Stock and Dividends” for WSB’s current dividend position.
Federal Reserve System.
Pursuant to regulations of the Federal Reserve Board, a thrift institution must maintain non-interest bearing reserves at the Federal Reserve Bank or in a pass-through account at a correspondent institution, calculated daily, equal to 3% of its “low reserve tranche,” currently the first $71.0 million of transaction accounts (less a $11.5 million exclusion). Amounts above $71.0
million require reserves of $1,785,000 plus 10 percent of the amount in excess of $71.0 million. We have consistently met the reserve requirements.
The Federal Reserve Board, through its “discount window,” provides credit to help depository institutions meet temporary liquidity needs. The Federal Reserve Board extends credit, for very short terms generally at approximately one percentage point above the target federal funds rate, as a backup facility for financial institutions that are in generally sound financial condition. A secondary credit program is available for depository institutions that do not qualify for primary credit, at a higher interest rate level. The current discount rate is 75 basis points for primary credit, which increased the spread between the discount rate and federal funds rate to 50 basis points.
Federal Home Loan Bank System. The Bank is a member of the FHLB of Atlanta, which is one of 12 regional Federal Home Loan Banks. FHLB banks provide a central credit facility primarily for member institutions. At December 31, 2011 and 2010, we had advances of $84.0 million and $76.0 million, respectively, from the FHLB of Atlanta. The FHLB borrowings are collateralized by a blanket collateral loan agreement under which we must maintain minimum eligible collateral for the outstanding advances.
As a member, the Bank is also required to acquire and hold shares of capital stock in the FHLB of Atlanta. We were compliant with this requirement with an investment in FHLB of Atlanta stock at December 31, 2011 of $4.5 million.
Safety and Soundness Standards. We are subject to certain standards designed to maintain the safety and soundness of individual banks and the banking system. The OCC has prescribed safety and soundness guidelines relating to: (i) internal controls, information systems and internal audit systems; (ii) loan documentation; (iii) credit underwriting; (iv) interest rate exposure; (v) asset growth, concentration, and quality; (vi) earnings; and (vii) compensation and benefit standards for officers, directors, employees and principal stockholders. A savings institution not meeting one or more of the safety and soundness guidelines may be required to file a compliance plan with the OCC. Failure to implement such a plan can result in further enforcement action, including the issuance of a cease and desist order or the imposition of civil money penalties.
Community Reinvestment Act. In 1977, Congress enacted the Community Reinvestment Act to encourage depository institutions, including thrifts, to help meet the credit needs of their entire communities, including low- and moderate-income areas, consistent with safe and sound banking practices. Because the Bank meets the OCC’s definition of an “intermediate small savings association,” i.e., those with more than $274 million in assets, but less than $1.098 billion in assets as of the end of either of the two previous years, the Bank is subject to somewhat streamlined examinations and reduced data collection and regulatory reporting requirements under the Community Reinvestment Act, relative to large retail savings associations. As a result, the Bank qualifies for the intermediate small institution Community Reinvestment Act examinations, based on its present asset size. Standard Community Reinvestment Act examinations evaluate depository institutions under lending, investment and community service tests. Intermediate small institutions’ examinations, however, focus mainly on the lending activities of depository institutions, and also evaluate community development activities of the institution, such as community development loans, investments, and services.
The Bank received a “satisfactory” Community Reinvestment Act rating in its most recent federal examination.
Loans-to-One-Borrower Limitations. Generally, a federal savings bank may not make a loan or extend credit to a single borrower or related group of borrowers in excess of 15% of unimpaired capital and surplus. An additional amount may be loaned, equal to 10% of unimpaired capital and surplus, if the loan is secured by readily marketable collateral, which generally does not include real estate. As of December 31, 2011, we were in compliance with loans-to-one-borrower limitations.
Transactions with Related Parties. Under Sections 23A and 23B of the Federal Reserve Act, which are applicable to savings banks, extensions of credit and certain asset purchases between a savings bank and its affiliates are restricted. An affiliate of a bank is a company that controls or is under common control with the bank, except, in most instances, subsidiaries of the bank itself. In a holding company context, the parent savings and loan holding company and any companies that are controlled by such savings and loan holding company are affiliates of the subsidiary savings bank. The general purpose of these restrictions is to prevent a savings bank from subsidizing its affiliates that are not insured by the FDIC through transactions that are excessive in amount, on preferential terms, or otherwise unsafe and unsound. Under Section 23A, the Bank is not able to engage in “covered transactions” with any single affiliate if the aggregate amount of its covered transactions with that affiliate exceeds 10% of the Bank’s capital and surplus, or with all of the Bank’s affiliates collectively if the aggregate amount of our covered transactions with all affiliates exceeds 20% of our capital and surplus. A transaction with a third party is deemed to be a covered transaction to the extent that the proceeds of the transaction are used for the benefit of or transferred to an affiliate. The term “covered transaction” includes the making of loans, purchase of assets, issuance of guarantees and other similar transactions. In addition, loans or other extensions of credit by the Bank to an affiliate are required to be collateralized in accordance with regulatory requirements, and the Bank’s transactions with affiliates must be consistent with safe and sound banking practices and may not involve the purchase by the Bank of any low-quality asset. Section 23B applies to covered transactions as well as certain other transactions and requires that all such transactions be on terms substantially the same, or at least as favorable, to the institution or subsidiary as those provided to non-affiliates. Dividends and fees paid by us are not defined as covered transactions and are not subject to section 23A and 23B restrictions, but are subject to the capital distribution restrictions noted above.
Certain transactions with affiliates are prohibited altogether. For example, the Bank may not purchase or invest in securities issued by any of its affiliates. Other transactions are subject to full or partial exemptions. For example, purchasing an asset having a readily identifiable and publicly available market quotation and purchased at or below the asset’s current market quotation is exempt from the quantitative limits, collateral requirements and low-quality asset restrictions of Section 23A.
Section 22(h) of the Federal Reserve Act and Regulation O of the Federal Reserve Board govern extensions of credit made by a bank to its directors, executive officers, and principal stockholders (“insiders”). Among other things, these provisions require that extensions of credit to insiders be made on terms that are substantially the same as, and follow credit underwriting procedures that are not less stringent than those prevailing for comparable transactions with unaffiliated persons and that do not involve more than the normal risk of repayment or present other unfavorable features. Further, such extensions may not exceed certain limitations on the amount of credit extended to such persons, individually and in the aggregate, which limits are based, in part, on the amount of the Bank’s capital. Extensions of credit in excess of certain limits must be also be approved by the board of directors.
Consumer Protection Laws. The Bank is subject to a number of federal and state laws designed to protect borrowers and promote lending to various sectors of the economy. These laws include the Equal Credit Opportunity Act, the Fair Credit Reporting Act, the Fair and Accurate Credit Transactions Act, the Truth in Lending Act, the Home Mortgage Disclosure Act, and the Real Estate Settlement Procedures Act, and various state law counterparts.
In addition, federal law currently contains extensive customer privacy protection provisions. Under these provisions, a financial institution must provide to its customers, at the inception of the customer relationship and annually thereafter, the institution’s policies and procedures regarding the handling of customers’ nonpublic personal financial information. These provisions also provide that, except for certain limited exceptions, a financial institution may not provide such personal information to unaffiliated third parties unless the institution discloses to the customer that such information may be so provided and the customer is given the opportunity to opt out of such disclosure. Further under the “Interagency Guidelines Establishing Information Security Standards,” savings banks must implement a comprehensive information security program that includes administrative, technical, and physical safeguards to ensure the security and confidentiality of customer information. Federal law makes it a criminal offense, except in limited circumstances, to obtain or attempt to obtain customer information of a financial nature by fraudulent or deceptive means.
Other Regulations. Our operations are subject to, among others, the following regulations:
· Right to Financial Privacy Act, which imposes a duty to maintain confidentiality of consumer financial records and prescribes procedures for complying with administrative subpoenas of financial records;
· Electronic Funds Transfer Act and Regulation E promulgated thereunder, which govern electronic deposits to and withdrawals from deposit accounts and customers’ rights and liabilities arising from the use of automated teller machines and other electronic banking services;
· Check Clearing for the 21st Century Act (also known as “Check 21”), which gives “substitute checks,” such as digital check images and copies made from that image, the same legal standing as the original paper check;
· Title III of the Uniting and Strengthening America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act of 2001 (referred to as the “USA PATRIOT Act”), which significantly expanded the responsibilities of financial institutions in preventing the use of the U.S. financial system to fund terrorist activities. Among other provisions, the USA PATRIOT Act and the related regulations of the OCC and the United States Department of Treasury require savings banks operating in the United States to supplement and enhance the anti-money laundering compliance programs, due diligence policies and controls required by the Bank Secrecy Act and Office of Foreign Assets Control Regulations to ensure the detection and reporting of money laundering; and
Holding Company Regulation
General. WSB is registered with the Federal Reserve Board and is subject to regulations, examinations, supervision and reporting requirements applicable to savings and loan holding companies. In addition, the Federal Reserve Board has enforcement authority over WSB and its subsidiaries. Among other things, this authority permits the Federal Reserve Board to restrict or prohibit activities that are determined to be a serious risk to the Bank. The Federal Reserve Board assumed the authority over savings and loan holding companies previously exercised by the OTS on July 21, 2011.
Permissible Activities. Under present law, the business activities of WSB are generally limited to those activities permissible for bank holding companies under Section 4(c)(8) of the Bank Holding Company Act, financial holding companies under Section 4(k) of the Bank Holding Company Act of 1956, as amended, provided certain conditions are met, and certain additional activities authorized by federal regulations.
Savings and loan holding company, such as WSB, may not directly or indirectly, or through one or more subsidiaries, acquire more than 5% of another savings institution or savings and loan holding company, without prior regulatory approval. WSB may not, with certain exceptions, acquire more than 5% of a non-subsidiary company engaged in activities that are not closely related to banking or financial in nature, or acquire or retain control of an institution that is not federally insured. In evaluating applications by holding companies to acquire savings institutions, the Federal Reserve Board must consider the financial and managerial resources, future prospects of the company and institution involved, the effect of the acquisition on the risk to the federal deposit insurance fund, the convenience and needs of the community and competitive factors.
Capital. Savings and loan holding companies are not currently subject to specific regulatory capital requirements. The Dodd-Frank Act, however, requires the Federal Reserve Board to promulgate consolidated capital requirements for depository institution holding companies that are no less stringent, both quantitatively and in terms of components of capital, than those applicable to institutions themselves. Instruments such as cumulative preferred stock and trust preferred securities will no longer be includable as Tier 1 capital, which is currently permitted for bank holding companies. Instruments issued by May 19, 2010 will be grandfathered for companies with consolidated assets of $15 billion or less. There is a five-year transition period (from the July 21, 2010 effective date of the Dodd-Frank Act) before the capital requirements will apply to savings and loan holding companies.
Source of Strength. The Dodd-Frank Act extended the “source of strength” doctrine to savings and loan holding companies. The regulatory agencies must issue regulations requiring that all bank and savings and loan holding companies serve as a source of strength to their subsidiary depository institutions by providing capital, liquidity and other support in times of financial stress.
Dividends. The Bank must notify the Federal Reserve Board 30 days before declaring any dividend to WSB. The Federal Reserve Board may disapprove such dividend, in whole or in part, if it finds that the proposed dividend would, among other things, cause the Bank to be undercapitalized, raises safety or soundness concerns, or violates a prohibition contained in any statute, regulation, enforcement action, or agreement between the Bank or WSB and any Federal banking agency.
Acquisition of WSB
Under the Federal Change in Control Act, a notice must be submitted to the Federal Reserve Board if any person (including a company), or group acting in concert, seeks to acquire direct or indirect “control” of a savings and loan holding company. Under certain circumstances, a change of control may occur, and prior notice is required, upon the acquisition of 10% or more of the company’s outstanding voting stock, unless the Federal Reserve Board has found that the acquisition will not result in control of the company. A change in control definitively occurs upon the acquisition of 25% or more of the company’s outstanding voting stock. Under the Change in Control Act, the Federal Reserve Board generally has 60 days from the filing of a complete notice to act, taking into consideration certain factors, including the financial and managerial resources of the acquirer and the competitive effects of the acquisition.
Proposed Legislation and Regulatory Actions
New regulations and statutes are regularly proposed that contain wide-ranging proposals for altering the structures, regulations, and competitive relationships of the nation’s financial institutions. We cannot predict whether or in what form any proposed regulation or statute will be adopted or the extent to which our business may be affected by any new regulation or statute.
Effect of Governmental Monetary Policies
Our earnings are affected by domestic economic conditions and the monetary and fiscal policies of the United States government and its agencies. The Federal Reserve Board’s monetary policies have had, and are likely to continue to have, an important impact on the operating results of financial institutions through its power to implement national monetary policy in order, among other things, to curb inflation or combat a recession. The monetary policies of the Federal Reserve Board affect the levels of bank loans, investments and deposits through its control over the issuance of United States government securities, its regulation of the discount rate applicable to member banks and its influence over reserve requirements to which member banks are subject. We cannot predict the nature or impact of future changes in monetary and fiscal policies.
Item 1A.
Item 1A. Risk Factors
You should consider carefully the following risks, along with the other information contained in and incorporated into this annual report. The risks and uncertainties described below are not the only ones that may affect us. Additional risks and uncertainties also may adversely affect our business and operations. If any of the following events actually occur, our business and financial results could be materially adversely affected.
If economic conditions should further deteriorate, our results of operations and financial condition could be adversely affected as borrowers’ ability to repay loans declines and the value of the collateral securing our loans decreases.
There has been significant disruption and volatility in the financial and capital markets since 2007. The financial markets and the financial services industry in particular suffered unprecedented disruption, causing a number of institutions to fail or require government intervention to avoid failure. Our financial results may be adversely affected by changes in prevailing economic conditions, including further decreases in real estate values, changes in interest rates which may cause a decrease in interest rate spreads, sustained adverse employment conditions, the monetary and fiscal policies of the federal government and other significant external events. Further, because a significant portion of our loan portfolio is comprised of real estate related loans, additional decreases in real estate values could adversely affect the value of property used as collateral for loans in our portfolio.
As discussed in the Management’s Discussion and Analysis of Financial Condition and Results of Operations section of this report, we have experienced increasing pressure on our margins caused by the lower Federal Reserve Board interest rates and the significant slowdown in loan demand resulting from the stresses in the economy, which included sustained declines in the housing and financial and capital markets over the past four years. For the year ended December 31, 2011, we had $4.3 million in net loan charge-offs, or 2.04% of total loans held for investment. Impaired loans, which includes loans that are 90 days past due, nonaccrual loans and troubled debt restructurings (“TDRs”) renegotiated loans, were $31.3 million or 14.8% of loans held for investment at December 31, 2011 and $38.8 million or 16.6% of loans held for investment at December 31, 2010. Impaired loans at December 31, 2011 consisted of approximately $12.8 million in non-accrual loans and approximately $18.5 million restructured loans. Although there have been some indications of improvement in the economy, it remains unclear when economic conditions will improve to an extent that will impact our borrowers’ ability to repay their loans, and therefore when these negative trends in our loan portfolio will reverse. Continued declines, or even ongoing sustention of recent declines, in real estate values, home sales volumes, and financial stress on borrowers as a result of the uncertain economic environment could have an adverse effect on our borrowers or their customers, which could adversely affect our financial condition and results of operations. A worsening of these conditions would likely exacerbate the adverse effects on the Company and others in the financial institutions industry. As a result, our future earnings continue to be susceptible to further negative or deteriorating economic conditions which may continue to negatively affect our revenues, net income and liquidity.
If U.S. credit markets and economic conditions continue to deteriorate, our liquidity could be adversely affected.
We are required to maintain certain capital levels in accordance with banking regulations. We must also seek to maintain adequate funding sources in the normal course of business to support our lending and investment operations and repay our outstanding liabilities as they become due. Our liquidity may be adversely affected by the current environment of economic uncertainty reducing business activity as a result of, among other factors, disruptions in the financial system in the recent past. Dramatic declines in the housing market during the past four years, with falling real estate prices and increased foreclosures and unemployment, have resulted in significant asset value write-downs by financial institutions, including government-sponsored entities and investment banks. These investment write-downs have caused financial institutions to seek additional capital. If adverse conditions continue, we may be required to raise additional capital as well to maintain adequate capital levels or to otherwise finance our business. Such capital, however, may not be available when we need it or may be available only on unfavorable terms. Our ability to raise additional capital, if needed, will depend on conditions in the capital markets, economic conditions and a number of other factors, many of which are outside our
control, and on our financial performance. Accordingly, we cannot assure you of our ability to raise additional capital if needed or on terms acceptable to us. If we cannot raise additional capital when needed, it may have a material adverse effect on our liquidity, financial condition, results of operations and prospects. Further, if we raise capital by issuing stock, the holdings of our current stockholders would be diluted.
Our failure to meet any applicable regulatory guideline related to our lending activities or any capital requirement otherwise imposed upon us or to satisfy any other regulatory requirement could subject us to certain activity restrictions or to a variety of enforcement remedies available to the regulatory authorities, including limitations on our ability to pay dividends or pursue acquisitions, the issuance by regulatory authorities of a capital directive to increase capital, and the termination of deposit insurance by the FDIC.
We operate in a highly regulated environment and may be adversely affected by changes in laws and regulations.
We are subject to extensive regulation, supervision and examination by the OCC, our current chartering authority (see risk factor below), the Federal Reserve Board and by the FDIC, as insurer of our deposits. Such regulation and supervision govern the activities in which a financial institution may engage and are intended primarily for the protection of the DIF and depositors and are not intended for the protection of holders of our common stock. Regulatory authorities have extensive discretion in connection with their supervisory and enforcement activities, including the imposition of restrictions on the operation of an institution, the classification of assets by the institution and the adequacy of an institution’s allowance for loan losses. Further, regulatory requirements affect our lending practices, capital structure, investment practices, dividend policy and many other aspects of our business. These requirements may constrain our rate of growth.
Any changes in regulation and oversight, whether in the form of regulatory policy, regulations, or legislation, may have a material adverse impact on our operations, and we cannot currently predict the impact of any such potential changes. The cost of compliance with regulatory requirements could increase our costs, limit our ability to pursuant certain business opportunities, increase compliance challenges, and otherwise adversely affect our ability to operate profitably. In addition, the burden imposed by these federal and state regulations may place banks in general, and the Bank specifically, at a competitive disadvantage compared to less regulated competitors.
The Dodd-Frank Act may adversely impact our results of operations, liquidity or financial condition.
On July 21, 2010, President Obama signed into law the Dodd-Frank Act. The Dodd-Frank Act represents a comprehensive overhaul of the U.S. financial services industry. Among other things, the Dodd-Frank Act established the new CFPB, included provisions that impact corporate governance and executive compensation disclosure by all SEC reporting companies, impose new capital requirements on bank and thrift holding companies, allow financial institutions to pay interest on business checking accounts, broaden the base for FDIC insurance assessments, impose additional duties and limitations on mortgage lending activities and restrict how mortgage brokers and loan originators may be compensated, included additional mortgage origination provisions including risk retention, and modified many other regulations applicable to insured depository
institutions. The Dodd-Frank Act also eliminated the OTS, resulting in the Bank being regulated by the OCC and WSB being regulated by the Federal Reserve Board as of July 21, 2011.
The Dodd-Frank Act requires the CFPB and other federal agencies to implement many new and significant rules and regulations to implement its various provisions, and the full impact of the Dodd-Frank Act on our business will not be known for years until regulations implementing the various provisions of the statute are adopted and implemented. As a result, we cannot at this time predict the extent to which the Dodd-Frank Act will impact our business, operations or financial condition. However, compliance with these new laws and regulations may require us to make changes to our business and operations, impose on us more stringent capital, liquidity and leverage requirements or otherwise adversely affect our business. These changes will also likely result in additional costs and a diversion of management’s time from other business activities and may decrease revenues by, for example, limiting the fees we can charge, any of which may adversely impact our results of operations, liquidity or financial condition. Further, if the industry responds to provisions allowing financial institutions to pay interest on business checking accounts by competing for those deposits with interest-bearing accounts, this will put some degree of downward pressure on our net interest margin. The new duties to be imposed on mortgage lenders, including a duty to determine the borrower’s ability to repay the loan and a requirement on mortgage securitizers to retain a minimum level of economic interest in securitized pools of certain mortgage types, may decrease the demand for mortgage loans as well as our ability to sell such loans into the secondary market, which would reduce both our interest and non-interest income, especially in light of our renewed focus on mortgage loans. We may also experience increased expenses as a result of having a different regulator for each of WSB and the Bank and as a result of switching regulators. Any of these consequences, as well as the failure to comply with new requirements or any future changes in laws or regulations, may adversely impact our results of operations, liquidity or financial condition. For a more detailed description of the Dodd-Frank Act, see “Supervision and Regulation-The Dodd-Frank Act.”
Our focus on commercial and real estate loans may increase the risk of credit losses.
We offer a variety of loans including commercial business loans, commercial real estate loans, construction loans, home equity loans and consumer loans. We secure many of our loans with real estate (both residential and commercial) in the Maryland suburbs of Baltimore and Washington, D.C. While we believe our credit underwriting adequately considers the underlying collateral in the evaluation process, continued or further weakness in the real estate market could adversely affect our customers, which in turn could adversely impact us. Further, commercial lending generally carries a higher degree of credit risk than do residential mortgage loans because of several factors including larger loan balances, dependence on the successful operation of a business or a project for repayment, or loan terms with a balloon payment rather than full amortization over the loan term.
We may face increasing pressure from historical purchasers of our residential mortgage loans to repurchase those loans or reimburse purchasers for losses related to those loans.
We sell a portion of the residential mortgage loans we originate in the secondary market. In response to the financial crisis, we believe that purchasers of residential mortgage loans, such as government sponsored entities, are increasing their efforts to seek to require sellers of residential mortgage loans to either repurchase loans previously sold or reimburse purchasers for losses related to loans previously sold when losses are incurred on a loan previously sold due to actual or alleged failure to strictly conform to the purchaser’s purchase criteria. As a result, we may face
increasing pressure from historical purchasers of our residential mortgage loans to repurchase those loans or reimburse purchasers for losses related to those loans and we may face increasing expenses to defend against such claims. If we are required in the future to repurchase loans previously sold, reimburse purchasers for losses related to loans previously sold, or if we incur increasing expenses to defend against such claims, our financial condition and results of operations would be negatively affected.
We face strong competition in our market area, which could hurt our profits and slow growth.
We face strong competition in our market area from many other banks, savings institutions, and other financial organizations, as well as many other companies now offering a broad array of financial services. Many of these competitors have greater financial resources, name recognition, market presence and operating experience than we do and are able to offer services that we cannot. If the Bank cannot attract deposits and make loans at a sufficient level, our operating results will suffer, as will our opportunities for growth.
Because the Bank serves a limited market area in Maryland, an economic downturn in our market area could more adversely affect us than it affects our larger competitors that are more geographically diverse.
Our success is largely dependent on the general economic conditions of our targeted market area of the Baltimore-Washington corridor. Broad geographic diversification is not currently part of our community bank focus. As a result, if our market area continues to suffer an economic downturn, it may more severely affect our business and financial condition than it affects our larger bank competitors. Our larger competitors serve more geographically diverse market areas, parts of which may not be affected by the same economic conditions that may exist in our market area. Further, unexpected changes in the national and local economy may adversely affect our ability to attract deposits and to make loans. Such risks are beyond our control and may have a material adverse effect on our financial condition and results of operations and, in turn, the value of our securities.
Our operations are susceptible to adverse effects of changes in interest rates.
Our operations are substantially dependent on our net interest income, which is the difference between the interest income earned on our interest-earning assets and the interest expense paid on our interest-bearing liabilities. As with most depository institutions, our earnings are affected by changes in market interest rates and other economic factors beyond our control. If our interest-earning assets have longer effective maturities than our interest-bearing liabilities, the yield on our interest-earning assets generally will adjust more slowly than the cost of our interest-bearing liabilities, and, as a result, our net interest income generally will be adversely affected by material and prolonged increases in interest rates and positively affected by comparable declines in interest rates. Conversely, if liabilities reprice more slowly than assets, net interest income would be adversely affected by declining interest rates, and positively affected by increasing interest rates. Currently our average interest rate on interest-earning assets has decreased which has impacted our results of operations. At any time, it is likely that our assets and liabilities will reflect interest rate risk of some degree, and changes in interest rates may therefore have a material adverse affect on our results of operations.
In addition to affecting interest income and expense, changes in interest rates also can affect the value of our interest-earning assets, comprising fixed- and adjustable-rate instruments, as well as the ability to realize gains from the sale of such assets. Generally, the value of fixed-rate instruments fluctuates inversely with changes in interest rates.
Our allowance for loan losses may not be sufficient to cover loan losses and any increase in our allowance for loan losses would adversely affect earnings.
We believe we have established an allowance for loan losses to prudently cover the eventuality of losses inherent in our loan portfolio. However, even under normal economic conditions we cannot predict loan losses with certainty. The unprecedented volatility experienced in the financial and capital markets during the last four years makes this determination even more difficult as processes we use to estimate allowance for loan losses and reserves may no longer be reliable because they rely on complex judgments, including forecasts of economic conditions, which may no longer be capable of accurate estimation. As a result, we cannot assure you that charge offs in future periods will not exceed the allowance for loan losses. In addition, regulatory agencies, as an integral part of their examination process, review our allowance for loan losses and may require additions to the allowance based on their judgment about information available to them at the time of their examination. An increase in our allowance for loan losses could reduce our earnings.
We depend on the services of key personnel. The loss of any of these personnel could disrupt our operations and hurt our business.
Our success depends, in large part, on our ability to attract and retain key people, including Phillip Bowman, our CEO and Kevin Huffman, our President. Competition for the best people in most activities engaged in by us can be intense and we may not be able to hire qualified personnel when we need to do so or to retain them. The unexpected loss of services of one or more of our key personnel could have a material adverse impact on our business because of their skills, knowledge of our market, years of industry experience and the difficulty of promptly finding qualified replacement personnel.
We face limits on our ability to lend.
We are limited in the amount we can loan to a single borrower by the amount of our capital. Generally, under current law, we may lend up to 15% of our unimpaired capital and surplus to any one borrower. As of December 31, 2011, we were able to lend approximately $8.0 million to any one borrower. This amount is significantly less than that of many of our competitors and may discourage potential borrowers who have credit needs in excess of our legal lending limit from doing business with us. We try to accommodate larger loans by selling participations in those loans to other financial institutions, but this strategy is not always available. We may not be able to attract or maintain customers seeking larger loans and we may not be able to sell participations in such loans on terms we consider favorable.
Future increases in our deposit insurance premiums decreased could have a material adverse impact on our future earnings and financial condition.
The FDIC insures deposits at FDIC-insured financial institutions, including the Bank. The FDIC charges insured financial institutions premiums to maintain the DIF at a specific level. The Bank’s FDIC insurance premiums increased substantially beginning in 2009 and we paid
significantly higher premiums, although our premiums decreased in 2011 due to the change in the assessment calculation previously discussed, they are still higher than pre-2009 levels. Current economic conditions have increased bank failures during the last few years and additional failures are expected, all of which decrease the DIF. In order to restore the DIF to its statutorily mandated minimum of 1.15 percent over a period of several years, the FDIC increased deposit insurance premium rates at the beginning of 2009 and imposed a special assessment on June 30, 2009. The FDIC may increase the assessment rates or impose additional special assessments in the future to keep the DIF at the statutory target level. Any increase in our FDIC premiums, whether as a result of an increase in the risk category for the Bank or in the general assessment rates or as a result of special assessments, could have an adverse effect on our profits and financial condition.
Our information systems may experience an interruption or breach in security, which could damage our reputation and negatively impact our financial condition.
We rely heavily on communications and information systems to conduct our business. Any failure, interruption or breach in security of these systems could result in failures or disruptions in our customer relationship management, general ledger, deposit, loan and other systems. While we have policies and procedures designed to prevent or limit the effect of any failure, interruption or security breach of our information systems, there can be no assurance that any such failures, interruptions or security breaches will not occur or, if they do occur, that they will be adequately addressed. The occurrence of any failures, interruptions or security breaches of our information systems could damage our reputation, result in a loss of customer business, subject us to additional regulatory scrutiny, or expose us to civil litigation and possible financial liability, any of which could have a material adverse effect on our financial condition and results of operations.
Our ability to compete effectively and operate profitably may depend on our ability to keep up with technological changes.
The financial services industry is continually undergoing rapid technological change with frequent introductions of new technology-driven products and services. The effective use of technology increases efficiency and enables financial institutions to better serve customers and to reduce costs. Our future success depends, in part, upon our ability to address the needs of our customers by using technology to provide products and services that will satisfy customer demands and to create additional efficiencies in our operations. Many of our competitors have substantially greater resources to invest in technological improvements. We may not be able to effectively implement new technology-driven products and services or be successful in marketing these products and services to its customers. Failure to successfully keep pace with technological change affecting the financial services industry could have a material adverse impact on our business and, in turn, our financial condition and results of operations.
Severe weather, natural disasters, acts of war or terrorism and other external events could significantly impact our business.
Severe weather and natural disasters, both of which may exacerbated by global climate change, acts of war or terrorism and other adverse external events cannot be predicted and could have a significant impact on our ability to conduct business. Such events could also affect the stability of our deposit base, impair the ability of our borrowers to repay outstanding loans, impair the value of collateral securing loans, cause significant property damage, result in loss of revenue and/or cause us to incur additional expenses. Although management has established disaster recovery policies and procedures, the occurrence of any such event could have a material adverse
effect on our business, which, in turn, could have a material adverse effect on our financial condition and results of operations.
Item 1B.
Item 1B. Unresolved Staff Comments
Not applicable.
Item 2.
Item 2. Properties
We operate five savings branch locations in Bowie, Crofton, Millersville, Odenton, and Waldorf, Maryland. Space for three of our branches, Millersville, Odenton and Waldorf, are under long-term leases with third parties. We have exercised our five-year option to extend our Waldorf lease for 2,700 square feet and the lease now expires in April 2017. Our Millersville lease is for a 1,628 square foot parcel of land on which our Millersville office is located. We currently own the Millersville building and the land lease expires in March 2013. Our Odenton lease for 3,167 square feet expires in November 2014. The 570 square foot Crofton branch was purchased by the Bank in July 1995.
Our corporate, administrative, and accounting offices are located in a five-story building in Bowie owned by WSB. We also operate a branch of the Bank at this location. At December 31, 2011, 70% of the Bowie building’s residual space was occupied, of which 27% is tenant occupied and 43% is occupied by WSB staff. Also located in WSB’s corporate headquarters are our Commercial Lending Group and our Retail Mortgage Group.
Item 3.
Item 3. Legal Proceedings
From time to time we may be involved in ordinary routine litigation incidental to our business. We are not, however, involved in any legal proceedings the outcome of which, in management’s opinion, would be material to our financial condition or results operations.
Item 4.
Item 4. Mine Safety Disclosures
Not applicable.
PART II
Item 5.
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
WSB’s common stock is traded on the NASDAQ Global Market under the symbol “WSB.” The following table reflects the high and low closing sale prices for, as well as dividends declared during, the periods presented. Quotations reflect inter-dealer prices, without retail mark-up, mark-down, or commission and may not represent actual transactions.
As of March 14, 2012, WSB had 189 record holders of our common stock.
Cash dividends are subject to determination and declaration by the Board of Directors, which takes into account our financial condition, results of operations, tax considerations, industry standards, economic conditions, and other factors, including regulatory restrictions. Cash dividends are declared and paid in the same calendar quarter. For a discussion of the regulatory restrictions on the declaration and payment of dividends, see “Business-Supervision and Regulation-Restrictions on Capital Distributions.” Due to our losses during 2010 and the continued economic uncertainty, and after review of our capital management plan, including our dividend policy, the Board has determined to suspend dividends for the foreseeable future in order to preserve funds to ensure the continuation of a strong balance sheet. No assurance can be given that dividends will be declared in the future, or if declared, what the amount of dividends will be, or whether such dividends will continue. The Board will continue to review WSB’s dividend practice on a quarterly basis.
Unregistered Sales of Equity Securities and Use of Proceeds
In April 2008, the Board of Directors gave the authority to management to repurchase up to $1.0 million of the outstanding shares of the Company’s stock. There is no stated expiration date for the plan. We did not repurchase any of our securities during the year ending December 31, 2011.
Item 6.
Item 6. Selected Financial Data
Not applicable
Item 7.
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Overview
We operate a general commercial banking business, attracting deposit customers from the general public and using such funds, together with other borrowed funds, to make loans, with an emphasis on residential mortgage, commercial and construction lending. Our results of operations are primarily determined by the difference between the interest income and fees earned on loans, investments and other interest-earning assets and the interest expense paid on deposits and other interest-bearing liabilities. The difference between the average yield earned on interest-earning assets and the average cost of interest-bearing liabilities is known as net interest-rate spread. The principal expense to WSB is the interest it pays on deposits and other borrowings. Our results of operations are primarily determined by the difference between the interest income and fees earned on loans, investments and other interest-earning assets, and the interest expense
paid on deposits, borrowings and other interest-bearing liabilities, which is referred to as “net interest income”. Net interest income is significantly affected by general economic conditions and by policies of state and federal regulatory authorities and the monetary policies of the Federal Reserve Board. WSB’s net income is also affected by the level of its non-interest income, including loan-related fees, deposit-based fees, rental income, operations of its service corporation subsidiary, gain on sale of real estate acquired in settlement of loans, and gain on sale of loans, as well as its non-interest and tax expenses.
Our principal expense is the interest we pay on deposits and borrowings. Net interest income is significantly affected by general economic conditions and by policies of state and federal regulatory authorities and the monetary policies of the Federal Reserve Board. Our net income is also affected by the level of our other income, including loan related fees, gain on sale of loans, deposit-based fees, rental income, operations of the Bank’s service corporation subsidiary, gains on sales of other real estate owned (“OREO”), gains on sales of loans and investment securities as well as operating and tax expenses.
During this period of continued economic slowdown, the effects of which, including declining real estate values resulting in asset impairment and tightening liquidity, has particularly impacted the banking industry in general, management continues to stress credit quality within both our loan and investment portfolios. The Bank originates residential loans for its portfolio and for sale in the secondary market. In this past, we had focused on diversifying our loan portfolio by broadening our lending emphasis to include commercial real estate and commercial and industrial loans. Recently, however, demand for these and other areas of lending have slowed, and we again are focusing on increasing mortgage activity in order to reduce balance sheet risk as well as realizing gains on the sale of loans in the secondary market. As a result, our portfolios of commercial business, commercial real estate, and residential land development loans to commercial borrowers have decreased. We also use available funds to retain certain higher-yielding fixed rate residential mortgage loans in our portfolio in order to improve interest income. Although we intend to again focus on diversifying our loan portfolio when demand for these other areas of loans picks up, we believe that our continued efforts to expand our residential mortgage lending department are important to ensure future profitability based on the current slow demand for commercial lending. Management believes that interest rates and general economic conditions nationally and in our market area are most likely to have a significant impact on our results of operations. We carefully evaluate all loan applications in an attempt to minimize our credit risk exposure by obtaining a thorough application with enhanced approval procedures; however, there is no assurance that this process can reduce lending risks.
Management reviews models and has established benchmark rates and assures that we remain within the limits. If the limits exceed the established benchmark rate, management develops a plan to bring interest rate risk back within the limits.
Our management considers return on average assets and equity as a measure of our earnings performance. Return on average assets measures the ability to utilize our assets to generate income. However, current economic conditions such as unemployment or declining real estate values may have a significant impact on our ability to utilize those assets. Return on average assets and equity. Key measures of earnings performance for periods ending December 31, 2011, 2010 and 2009, respectively, is as follows:
We are continually seeking to increase our core deposits and advertise our lower-cost NOW accounts, no fee checking incentives, overdraft protection program and variable money market savings account priced to current interest rates, as well as the advantages of customer access to ATM networks. During 2011, our interest rates on money market and checking accounts were slightly higher than our competitors, but lower CD rates than in the past negatively affected renewals for CDs as management has focused on lowering deposit costs through lower CD rates and reduced brokered deposits. Our money market and checking accounts increased approximately $30.3 million and our CDs decreased $50.5 million during 2011, which decreased our overall total deposits to $245.0 million at December 31, 2011, an 8.1% decrease in total deposits as compared to $266.6 million at December 31, 2010. The decrease in our CDs is primarily the result of a decrease of $28.5 in brokered deposits. This resulted in a decrease in our interest expense on deposits by approximately $995,800 for 2011 compared to 2010. Our borrowings increased by $8.0 million as a result of a new FHLB advance for $8.0 million in daily rate credit. We took this advance to meet our funding needs as our brokered deposits matured. Our interest expense on our borrowings decreased approximately $1.4 million and $2.4 million for the periods ending December 31, 2011 and 2010. This decrease is due to the restructuring of our borrowings pursuant to which we elected the repayment of $30.0 million of our reverse repurchase agreements, resulting in a pre-payment penalty of approximately $2.0 million, during the year ending December 31, 2010.
Both basic and diluted earnings per share amounts are shown on the Consolidated Statements of Earnings. Per-share references in this report are to “basic earnings per share” unless otherwise stated.
Forward Looking Statements
This report contains forward-looking statements within the meaning of and pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. A forward-looking statement encompasses any estimate, prediction, opinion or statement of belief contained in this report and the underlying management assumptions, including those identified by terminology such as “may,” “will,” “believe,” “expect,” “estimate,” “anticipate,” “continue,” or similar expressions. The statements presented herein with respect to, among other things, our expectations regarding diversifying our loan portfolio as demand for commercial and other non-residential real estate lending improves, the impact of current and expected economic changes and conditions, the allowance for loan losses, settlement of loans committed to be purchased and the potential for losses in connection therewith, expected terms of loans, prepayments and re-financings, use of brokered deposits going forward, the Bank’s continuing to meet its capital requirements, future sources of liquidity, strengthening the balance sheet and future profitability are forward-looking.
Forward-looking statements are based on the Company’s current expectations and assessments of potential developments affecting market conditions, interest rates and other
economic conditions and assumptions and results may ultimately vary from the statements made in this report. Our future results and prospects may be dependent upon a number of factors that could cause our performance to differ from the performance anticipated or projected in these forward-looking statements or to compare unfavorably to prior periods. Among these factors are: (a) ongoing review of our business and operations; (b) implementation of changes in lending practices and lending operations; (c) the Board of Directors ongoing review of our capital management plan; (d) changes in accounting principles; (e) government legislation and regulation, including regulations implemented pursuant to the Dodd-Frank Act; (f) changes in interests rates; (g) further deterioration of economic conditions; (h) credit or other risks of lending activity, such as changes in real estate values and changes in the quality or composition of our loan portfolio; and (i) other expectations, assessments and risks that are specifically mentioned in this report and in such other reports we have filed with the Securities and Exchange Commission. We wish to caution readers not to place undue reliance on any forward-looking statements, which speak only as of the date made, and to advise readers that various factors, including those described above, could affect our financial performance and could cause our actual results or circumstances for future periods to differ materially from those anticipated or projected. Unless required by law, we do not undertake, and specifically disclaim any obligations, to publicly update or revise any forward- looking statements to reflect the occurrence of anticipated or unanticipated events or circumstances after the date of such statements.
Critical Accounting Policies
Our financial statements are prepared in accordance with accounting principles generally accepted in the United States (“GAAP”). The preparation of such financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses and related disclosure of contingent assets and liabilities. The financial information contained within our statements is, to a significant extent, financial information that is based on measures of the financial effects of transactions and events that have already occurred. A variety of factors could affect the ultimate value that is obtained either when earning income, recognizing an expense, recovering an asset or relieving a liability. Certain policies inherently have a greater reliance on the use of estimates, assumptions and judgments and as such have a greater possibility of producing results that could be materially different than originally reported. We use historical loss factors as one factor in determining an inherent loss that may be present in our loan portfolio. Actual losses could differ significantly from the historical factors that we use. In addition, GAAP itself may change from one previously acceptable method to another. Although the economics of our transactions would be the same, the timing of events that would impact our transactions could change.
Allowance for Loan Losses. The allowance for loan and lease losses has two basic components: a general reserve reflecting historical losses by loan category, as adjusted by several factors, the effects of which are not reflected in historical loss ratios, and specific allowances for separately identified loans. Each of these components, and the systematic allowance methodology used to establish them, are described in detail in Note 1 of the Notes to the Consolidated Financial Statements included in this report. The amount of the allowance is reviewed monthly by the Executive Committee of the Board of Directors and formally approved quarterly by the full Board of Directors.
The general reserve portion of the allowance that is based upon historical loss factors, as adjusted, establishes allowances for the major loan categories based upon adjusted historical loss experience over the prior four quarters. The use of these historical loss factors is intended to
reduce the differences between estimated losses inherent in the loan portfolio and actual losses. The challenges caused by the recent recession and continuing high unemployment levels and uncertain real estate valuations, have resulted in the Bank shortening the loss history look back period it uses for the allowance for loan losses from 36 months to 12 months during 2010. The factors used to adjust the historical loss ratios address changes in the risk characteristics of our loan portfolio that are related to (1) trends in delinquencies and other non-performing loans, (2) changes in the risk level of the loan portfolio related to large loans, (3) changes in the categories of loans comprising the loan portfolio, (4) concentrations of loans to specific industry segments, (5) changes in economic conditions on both a local and national level, (6) changes in our credit administration and loan and lease portfolio management processes, and (7) quality of our credit risk identification processes. This general reserve component comprised 52.1% of the total allowance at December 31, 2011 and 44.3% at December 31, 2010.
The specific allowance is used primarily to establish allowances for risk-rated credits on an individual basis, primarily our impaired loans, and accounted for 47.9% of the total allowance at December 31, 2011 and 55.7% December 31, 2010. The actual occurrence and severity of losses involving risk-rated credits can differ substantially from estimates, and some risk-rated credits may not be identified. Our policy is to charge off all or that portion of our investment in an impaired loan upon a determination that it is probable the full amount will not be collected. Our prior primary regulator allowed a specific reserve to be established on our impaired loans, which reduced our reportable principle balances on collateral dependent loans; as a result of the change in the Bank’s primary regulator from the OTS to the OCC, however, the impaired loan balances were reduced to reflect partial charge offs in order to be compliant with OCC guidance now applicable to the Bank, resulting in a reduction of our reserves. This is an ongoing process which will be completed by the end of the first quarter of 2012.
Other-Than-Temporary Impairment of Securities. We review all investment securities with significant declines in fair value for potential other-than-temporary impairment on a periodic basis. We record an impairment charge when we believe an investment has experienced a decline in value that is other than temporary. Generally changes in market interest rates that result in a decline in value of an investment security are considered to be temporary, since the value of such investment can recover in the foreseeable future as market interest rates return to their original levels. However, such declines in value that are due to the underlying credit quality of the issuer or other adverse conditions that cannot be expected to improve in the foreseeable future, may be considered to be other than temporary. Management believes this is a critical accounting policy because this evaluation of the underlying credit or analysis of other conditions contributing to the decline in the value involves a high degree of complexity and requires us to make subjective judgments that often require assumptions or estimates about various matters. The valuation process and OTTI determination, assumptions related to prepayment, default and severity on the collateral supporting the non-agency MBSs are input into an industry standard valuation model.
Voluntary Prepayment Rate
This is based primarily on historical activity. As most of these instruments move toward a voluntary baseline prepayment (VPR) stream from the previous year, recent history gives a good and conservative estimate of future voluntary prepayment results.
Current Default Rates
This is based primarily on the performance of the collateral historical data when considering the performance of both the collateral pool and the entire MBS collateral pool. Estimates for the current default rate (CDR) vectors are based on the status of the loans at the valuation date - current, 30-59 days delinquent, 60-89 days delinquent, 90+ days delinquent, foreclosure or OREO.
Default assumptions are benchmarked to the recent results experienced by major servicers of non-Agency MBS for securities with similar attributes and forecasts from other industry experts and industry research.
Loss Severity Rate
Management obtains the individual security’s historical data. The data will recognize most recent monthly realized loss severity rates (SEV) by issuer and origination year, which are surveyed, then using the most recent severity result to build an assumption.
Management reviews this current information to see if there are any underlying trends with the assumption that the current performance is believed to be the best indicator of future collateral performance. The collateral performance obtained from these Bloomberg screens for each tranche within the security is reviewed to determine the likelihood there will be a credit loss based on the collateral performance. If there has not been any loans in default for a period of time and there are no serious delinquencies, we determine that there is no current OTTI. If however, there is some stress in the underlying collateral (evidenced by losses in the most recent periods and some level of current delinquencies), and considering management’s general knowledge of the trends in the residential mortgage markets, which takes into account current economic conditions and negative credit trends, management determines projected future CDR, SEV and VPR figures, which we then provide to our third party brokerage firm for input into their model. Using these new assumptions, the model determines the future credit loss and the projected loss is then discounted back to the present value based on the current book yield of the investment.
We account for income taxes under the asset/liability method. Deferred tax assets are recognized for the future consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax basis, as well as operating loss and tax credit carry-forwards. 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 in income in the period indicated by the enactment date. A valuation allowance is established for deferred tax assets when, in the judgment of management, it is more likely than not that such deferred tax assets will not become realizable. The judgment about the level of future taxable income is dependent to a great extent on matters that may, at least in part, be beyond our control. It is at least reasonably possible that management’s judgment about the need for a valuation allowance for deferred tax assets could change in the near term.
Results of Operations
General. Net earnings for the year ended December 31, 2011 was $1.2 million, or $0.16 per basic share, compared to net loss of $3.9 million, or $(0.49) per basic share, for the year ended December 31, 2010.
The increase in net earnings for the twelve month period ending December 31, 2011, is primarily the result of adding $200,000 to our allowance for loan losses in the 2011 period compared to $3.4 million during the corresponding 2010 period as well as a $3.0 million increase in non-interest income and a $2.6 million decrease in non-interest expenses in 2011 compared to 2010. Non-interest income reflects a 443% increase primarily as a result of a $2.9 million other than temporary impairment charge on a non-agency mortgage-backed security recognized during third quarter of 2010, for which there was no comparable charge this year. Non-interest expense reflects a 16% decrease primarily as a result of the $2.0 million one-time pre-payment penalty that we recognized during the second quarter of 2010, for which there was no comparable expense this year.
Average Balances, Interest and Yields. The following table sets forth, for the periods indicated, information regarding: (i) the total dollar amounts of interest income from interest-earning assets and the resulting average yields; (ii) the total dollar amounts of interest expense on interest-bearing liabilities and the resulting average costs; (iii) net interest income; (v) interest rate spread; (v) average interest-earning assets and the total yield earned on average interest-earning assets; (vi) average interest-bearing liabilities, the amount of interest paid on such liabilities and the average interest rate paid on interest-bearing liabilities; and (vii) the ratio of total interest-earning assets to total interest-bearing liabilities. Average balances, yields, and costs are calculated on the basis of month-end averages (except deposits, which are on the basis of daily averages) for all periods through December 31, 2011.
Weighted average yields and costs at December 31, 2011 are also indicated. Non-accrual loans are included in total loan balances, lowering the effective yield for the loan portfolio in the aggregate.
(1) There are no tax equivalency adjustments.
(2) This is a weighted average yield.
(3) Interest-rate spread is the arithmetic difference between the average yield on interest-earning assets (expressed as a percentage) and the average cost of interest-bearing liabilities (expressed as a percentage).
(4) Net yield on interest-earning assets is the ratio of net interest income to average interest-earning assets.
Rate/Volume Analysis. The following table shows, for the periods indicated, the changes in interest income and interest expense attributable to: (i) changes in volume (change in volume multiplied by prior period rate); and (ii) changes in rate (change in rate multiplied by current period volume).
(1) Includes approximately $138,000, $159,000, and $152,000 of loan fees earned for calendar 2011, 2010 and 2009, respectively.
Net Interest Income. During 2011, net interest income before the provision for loan losses decreased $55,000 or .5%, to $12.3 million from $12.4 million for 2010. The decrease in interest income of $2.4 million was offset by a decrease of $2.4 million in interest expense during the year ended December 31, 2011.
The decrease in interest income during 2011 is due to a decrease in the average balance and, to a lesser extent, average rates paid on our interest-earning assets during 2011 as compared to 2010. For the year ended December 31, 2011, the average balance of our total interest-earnings assets decreased to $358.8 million from $379.4 million for the year ended December 31, 2010 while the average yield on our interest-earning assets decreased to 5.08% from 5.46% for the year ended December 31, 2010. These decreases are primarily the result of a decrease in the average balance of our mortgage-backed securities and loan portfolio offsetting the increase in our investment securities as compared to the prior year. The decrease in MBS is primarily the result of principal pay-downs and the sale of approximately $11.0 million of our MBS. Our loan portfolio average also decreased as a result of a reduction in our commercial real estate loans. The increase in the available-for-sale investment securities during 2011 was due to the purchase of approximately $65.5 million offset by the sale of $10.0 million and calls of $32.0 million of our investment securities. The sold securities were sold at a premium and we used the proceeds to purchase MBS. The decrease in the average yield is primarily the result of lower interest rates on our MBS portfolio and investment portfolio compared to the prior year due to a lower interest rate environment. In addition, we experienced an increase in our restructured loans compared to the same period last year, which also negatively impacted the yield on our interest-earning assets.
The interest expense decrease during 2011 is attributable to a decrease in the average interest rate on our interest-bearing liabilities, particularly a decrease in the interest rate paid on borrowings, and to a lesser extent a decrease in the average balance of interest-bearing liabilities. The decrease in the average balance and average rate paid on borrowings was primarily due to the restructuring of our FHLB borrowings and repayment of $30.0 million of reverse repurchase agreement during 2010. The average rate paid on deposits decreased during 2011 primarily due to the reduction of interest rates on our CDs. The average cost of deposits decreased to 1.55% during 2011 from 1.96% during 2010 and the average cost of our borrowings decreased to 2.66% during 2011 from 3.45% during 2010 resulting in our average cost of our interest-bearing liabilities decreasing to 1.82% for the year ended December 31, 2011 from 2.40% for the year ended December 31, 2010. In addition, the average balance of interest-bearing liabilities decreased to $329.8 million for the year ended December 31, 2011 as compared to $349.6 million for the year ended December 31, 2010. Average borrowings decreased $21.0 million as the result of the repayment of $30.0 million in reverse repurchase agreements and restructuring of our FHLB advances.
For the year ending December 31, 2011, as compared to the year ending December 31, 2010, total deposits decreased $21.5 million primarily due to a decrease in our CDs partially offset by an increase in savings deposits. The decrease in time deposits was a result of runoff in our brokered deposits due to our not retaining new brokered deposits as existing ones matured. The increase in savings accounts is due to increased rates offered on these products compared to our competitors, which resulted in new customer deposits during the year. At December 31, 2011 compared to December 31, 2010, our time deposits were $103.5 million and $154.0 million, respectively, and the corresponding interest expense on these deposits during 2011 and 2010 was approximately $2.7 million and $3.8 million, respectively. This total at December 31, 2011, included 5 accounts totaling approximately $19.8 million of deposits received through brokers. These funds were primarily used to fund loan originations and purchase investments. These brokered accounts consist of individual accounts issued under master certificates in the broker’s name. These types of accounts are covered by FDIC insurance. We did not retain additional brokered deposits to replace all of the runoff during 2011 as we didn’t need to replenish the lost deposits at that time as a result of having access to other funding sources. The interest rates on these brokered deposits are similar to our posted rates or less than the borrowed fund rates for similar terms. As a result, we anticipate we will increase brokered deposits as a source of funding as needed in the future.
Allowance for Loan Losses. Our loan portfolio is subject to varying degrees of credit risk. We seek to mitigate this risk through portfolio diversification and limiting exposure to any single customer or industry. We maintain an allowance for loan losses to absorb losses inherent in the loan portfolio. The amount of the allowance is based on careful, continuous review and evaluation of the loan portfolio, along with monthly and quarterly assessments of the probable losses inherent in that portfolio. The amount of the allowance is reviewed monthly by the Loan Committee and reviewed and approved monthly by the Bank’s Board of Directors. The methodology for determining the appropriate amount of the allowance includes: (1) a formula allowance reflecting historical losses by credit category, (2) the specific allowance for risk rated credits on an individual or portfolio basis, and (3) a non-specific allowance which considers risk factors not evaluated by the other two components of the methodology. Additions to the allowance are made through periodic charges to income (provision for loan losses), and actual loan losses are charged against the allowance, while recoveries are added to the allowance.
Each of the components of the allowance for loan losses is determined based upon estimates that can and do change when the actual events occur. The specific allowance is used to individually allocate an allowance for loans identified for impairment testing. Impairment testing includes consideration of the borrower’s overall financial condition, resources and payment record, support available from financial guarantors and the fair market value of collateral. These factors are combined to estimate the probability and severity of inherent losses. When an impairment is identified, a specific reserve is established based on our calculation of the loss embedded in the individual loan. Large groups of smaller balance homogeneous loans are collectively evaluated for impairment. Accordingly, we do not separately identify individual consumer and residential loans for impairment. The formula allowance is used for estimating the loss on those loans internally classified as high risk exclusive of those identified for impairment testing. The Bank categorizes its classified assets within four categories: Special Mention, Substandard, Doubtful and Loss. Special Mention loans have potential weaknesses that deserve management’s attention. These loans are not adversely classified and do not expose an institution to sufficient risk to currently warrant adverse classification. Substandard loans are loans that have a well-defined weakness. They are characterized by the distinct possibility that we will sustain some loss if the deficiencies are not corrected. The Doubtful category consists of loans where we expect a loss, but not a total loss. Various subjective factors are considered with the most important consideration being the estimated underlying value of the collateral in determining the loss reserve for these loans. Loans that are classified as “Loss” are fully reserved for on our financial statements, while we establish a prudent allowance for loan losses for loans classified as “Substandard” or “Doubtful” and “Special Mention”. The loans meeting the criteria for classification as special mention, substandard, doubtful and loss, as well as impaired loans are segregated from performing loans within the portfolio. Internally classified loans are then grouped by loan type (commercial, commercial real estate, commercial construction, residential real estate, residential construction or installment). Each loan type is assigned an allowance factor based on management’s estimate of the associated risk, complexity and size of the individual loans within the particular loan category. Classified loans are part of the formula allowance and are assigned a higher allowance factor than non-classified loans due to management’s concerns regarding collectability or management’s knowledge of particular elements surrounding the borrower. Allowance factors grow with the worsening of the internal risk rating. The non-specific formula is used to estimate the loss of non-classified loans and loans identified for impairment testing for which no impairment was identified. These loans are also segregated by loan type and allowance factors are assigned by management based on delinquencies, loss history, trends in volume and terms of loans, effects of changes in lending policy, the experience and depth of management, national and local economic trends, concentrations of credit, quality of loan review system and the effect of external factors (i.e. competition and regulatory requirements). The factors assigned differ by loan type.
We have significant discretion in making the judgments inherent in the determination of the provision and allowance for loan losses, including in connection with the valuation of collateral, a borrower’s prospects of repayment, and in establishing allowance factors on the formula allowance and nonspecific allowance components. The establishment of allowance factors is a continuing exercise, based on management’s continuing assessment of the global factors discussed above and their impact on the portfolio, and allowance factors may change from period to period, resulting in an increase or decrease in the amount of the provision or allowance, based upon the same volume and classification of loans. Changes in allowance factors will have a direct impact on the amount of the provision, and a corresponding effect on net earnings. Errors in management’s perception and assessment of the global factors and their impact on the portfolio
could result in the allowance not being adequate to cover losses in the portfolio, and may result in additional provisions or charge-offs.
The allowance is increased by provisions for loan losses, which are charged to expense. Charge-offs of loan amounts determined by management to be uncollectible or impaired decrease the allowance, while recoveries of loans previously charged-off are added back to the allowance. We make provisions for loan losses in amounts considered by management necessary to maintain the allowance at an appropriate level to cover its estimate of losses inherent and probable in the loan portfolio, as established by use of the allowance methodology. Under the methodology, we consider trends in credit risk against broad categories of homogenous loans, as well as a loan by loan review of loans criticized or classified by the Bank. The provision for loan losses was $200,000 in 2011 compared to $3.4 million in 2010. During 2010, management determined to increase the amount of the allowance as a result of new appraisals that showed a decreased value for the collateral securing some of our loans resulting in a provision of $3.4 million. The challenges caused by the recent recession and continuing high unemployment levels and uncertain real estate valuations resulted in the Bank shortening its loss history look-back period used for the allowance for loan losses from 36 months to 12 months during 2010. During 2011, management again determined that based on updated appraisals on some of our loans, an additional provision was needed of $200,000. As of December 31, 2011, the allowance decreased by $4.1 million, or 40%, to $6.1 million or 2.90% of the loan portfolio from $10.2 million or 4.37% of the loan portfolio at December 31, 2010. The change in the allowance was primarily due to the fact that the risk profile of our loan portfolio has improved as well as the reduction of our loan portfolio balance classified as held-for-investment, particularly our commercial secured by real estate loans. However, approximately $1.6 million of the charge-offs were related to reducing the specific reserve on our collateral dependent loans based on the OCC guidance newly applicable to us.
During the year ended December 31, 2011, charge-offs were approximately $4.4 million and approximately $46,000 was recorded as recoveries for a net charge-off of $4.3 million, compared to charge-offs of approximately $1.8 million and approximately $495,000 recorded as recoveries for a net charge-off of $1.3 million for the year ending December 31, 2010.
We are intent on maintaining a strong credit review system and risk rating process. Management believes its evaluation as to the adequacy of the allowance as of December 31, 2011 is appropriate, however, provisions for 2011 are not necessarily indicative of future provisioning. Subjective judgment is significant in the determination of the provision and allowance for loan losses, manifested in the valuation of collateral, a borrower’s prospects of repayment, and in establishing allowance factors and components for the formula allowance for homogeneous loans. A time lag between the recognition of loss exposure in the evaluation of the adequacy of the allowance and a loan’s ultimate resolution and/or charge-off is normal and to be expected. Future additions to the allowance may be necessary based on changes in the credits comprising the portfolio and changes in the financial condition of borrowers, which may result from changes in economic conditions. In addition, various regulatory agencies, as an integral part of their examination process, periodically review the loan portfolio and the allowance. Such review may result in additional provisions based upon the agencies’ judgments of information available at the time of each examination.
We have developed a comprehensive review process to monitor the adequacy of the allowance for loan losses. The review process and guidelines were developed using guidance
from federal banking regulatory agencies and rely on relevant observable data. The observable data considered in the determination of the allowance is modified if other more relevant data becomes available. The results of this review process support management’s view as to the adequacy of the allowance as of the balance sheet date.
Changes in estimation methods may take place based upon the status of the economy, and the estimate of the value of the property securing loans and as a result, the allowance may increase or decrease. Future adjustments could substantially affect the amount of the allowance.
The current economic environment continues to be a factor increasing our internally criticized loans, the devaluation of real estate collateral used to secure some of these loans and restructuring of these loans; however, these types of loans have remained stable since December 31, 2010. The allowance for loans losses is very subjective in nature, relying significantly on historical loss experience, collateral valuations available to management on specific loans, and economic conditions. The challenges caused by the recent recession and continuing high unemployment levels and uncertain real estate valuations, resulted in the Bank shortening its loss history look-back period used for the allowance for loan losses from 36 months to 12 months during 2010. We continue to be mindful of the continued problems within the economy and its impact on our loan portfolio as well as the inherent risk within the portfolio, and management will make adjustments to the allowance and loan loss provision as necessary.
The $10.2 million loans held-for-sale portfolio has already been committed to be purchased by investors at December 31, 2011 and subsequent to December 31, 2011, all of these loans were purchased by the committed investors. Analysis of our history of sold loans indicates that minimal credit losses have been realized after the sale of loans, and therefore management does not consider these loans in determining the amount of the allowance.
The fair value of impaired loans is estimated using one of several methods, including the collateral value, market value of similar debt, enterprise value, liquidation value and discounted cash flows. Those impaired loans not requiring a specific allowance represent loans for which the fair value of expected repayments or collateral exceed the recorded investment in such loans. At December 31, 2011, substantially all of the impaired loans were evaluated based upon the fair value of the collateral. Management’s analysis of our impaired loans represents a level of reserves of approximately $2.9 million for the period ending December 31, 2011 compared to approximately $5.7 million at December 31, 2010. This balance was reduced in 2011 as compared to 2010 based on the OCC guidance to eliminate specific reserves on collateral dependent loans and charge off these loans by the specific reserve amount.
The following table sets forth certain information as to the allowance for loan losses:
Analysis of the Allowance for Loan Losses
Our loans held-for-investment portfolio decreased $22.6 million, or 9.7% as of December 31, 2011, compared to December 31, 2010. Our average loans held-for-investment also decreased by 6.5% for 2011 compared to 2010. This decrease is primarily the result of a decrease in our commercial real estate mortgage loans secured by other properties due to slow demand in commercial lending and loan payoffs, which has resulted in a decrease in the portfolios of commercial business, commercial real estate, and residential land development loans to commercial borrowers.
The following table sets forth the allocation of the allowance for loan loss to each loan category as of December 31, 2011 and 2010. The allowance established for each category is not necessarily indicative of future losses or charge offs for that category and does not restrict the use of the allowance to absorb losses in any category:
(1) Excludes loans held-for-sale
Non-Performing Assets.
The following table sets forth information as to non-accrual and past due loans. We generally discontinue the accrual of interest on loans after a delinquency of more than four monthly payments, or when, in the opinion of management, the complete recovery of principal and interest is unlikely, at which time all previously accrued but uncollected interest is reversed from income.
Total non-accrual loans decreased by $14.3 million, or 53.6%, to $12.8 million at December 31, 2010, compared to $27.1 million at December 31, 2010. We experienced a decrease in the number of and percentage of the loans in our residential mortgages, construction loans, and in our commercial loan portfolio.
The allowance for loan losses is approximately 47.7% of non-accrual loans as of December 31, 2011, versus 37.7% at December 31, 2010. Significant variation in this ratio may occur from period to period because the amount of non-performing loans depends largely on the condition of a small number of individual credits and borrowers relative to the total loan and lease portfolio.
At December 31, 2011, total impaired loans were $31.3 million, or 14.82% of total loans held for investment, compared to $38.8 million, or 16.57% of total loans held-for-investment, at December 31, 2010. Non-performing loans consisted of $12.8 million that were non-accrual loans at December 31, 2011 and approximately $18.5 million of troubled debt restructured loans. Significant variation in this ratio may occur from period to period because the amount of non-performing loans depends largely on the condition of a small number of individual credits and borrowers relative to the total loan and lease portfolio.
The following table sets forth information as to loans defined as delinquent (three payments past due, less than the four months past due as presented on the previous schedule) on which we continued to accrue interest.
Real estate acquired at or in lieu of foreclosure is classified as OREO until such time as it is sold. Acquired property is recorded at the lower of net acquisition cost or fair value, less estimated costs to sell subsequent to acquisition. Operating expenses of OREO are reflected in non-interest expenses. Any write-down of the property at the acquisition date is charged against the allowance for loan losses with any subsequent additional write-downs reflected in non-interest expenses.
For the year ending December 31, 2011, there was a $266,000 provision for OREO losses compared to a $591,000 provision for OREO losses for the year ended December 31, 2010. This provision is primarily the result of a reduction of the values of our OREO properties. The provision for OREO losses was expensed during the respective period for OREO property as is our practice when information is obtained that indicates the fair value is less than its carrying value. The value of OREO property held due to foreclosures at December 31, 2011 and 2010 were $4.8 million and $6.1 million, respectively. At December 31, 2011, OREO properties consist of $744,000 in residential construction properties, $2.2 million in lot properties, and $543,000 in 1 - 4 residential properties and $1.4 million in commercial real estate properties. Management is actively seeking buyers for these properties.
Non-Interest Income. Total non-interest income for the year ending December 31, 2011 was $3.7 million compared to $683,000 million for the year ending December 31, 2010, an increase of $3.0 million, or 443.2%. The increase in non-interest income for the current twelve month period is attributable to the $2.9 million other than temporary charge recognized during the third quarter of 2010, for which there was no comparable charge this year. In addition gain on sale of loans increased $292,000 and gain on the sale of real estate acquired in settlement of loans increased $75,000. The increases were partially offset by a decrease of $113,000 in the net gain on the sale of MBS and investment securities available for sale.
During the period ending December 31, 2011, we did not recognize a non-cash other than temporary impairment (“OTTI”) as compared to a $2.9 million charge recognized on one of our private-labeled MBS for the year ending December 31, 2010. The OTTI charge related to a credit loss. Credit losses reflect the difference between the present value of the cash flows expected to be collected and the amortized cost. Significant deterioration occurred in the market values on one of our securities. The MBS was subsequently sold in the fourth quarter last year.
Net gain on the sale of mortgage-backed securities and investment securities for the period ending December 31, 2011 included approximately $562,000 pre-tax, $341,000 net of tax, compared to $785,000 pre-tax, $518,000 net of tax, for the same twelve month period last year. Gain on the sale of investments is the result of the Bank selling approximately $11.0 million of our MBS and $42.0 million of our callable agencies, of which included $32.0 million of investments being called prior to maturity. The net gain during the 2010 period resulted from the sale of approximately $7.0 million of our MBS and $14.1 million of our callable agencies
The sale of these securities was used to partially pay off and reduce our brokered deposits. The funds from the called investment securities were used to purchase MBS with a higher interest rate. This was part of management’s continuing efforts during 2011 to strengthen the balance sheet for the future. We currently have five remaining non-agency MBS that have been rated less than investment grade by at least one rating agency. The remaining portfolio is U.S. Government agency securities. We continue to aggressively monitor the performance of these securities and the underlying collateral.
The $75,000 increase on the gain on sale of real estate acquired in settlement of loans during 2011 is due to the gain on the sale of ten properties resulting in a net gain of $36,000 compared to the sale of nine properties resulting in a net loss of $38,000 during 2010.
Gain on the sale of loans increased $292,000 for the year ending December 31, 2011, compared to last year. Gain on sale of loans includes servicing release fees and discount points earned on loans sold. The increase on the gain on sale of loans compared to the same period last year is primarily due to an overall higher premium and increased collection of up-front fees associated with those loans as well as lower costs associated with the origination of these loans. The costs associated with these loans decreased primarily as the result of reducing our expense for our loan origination departments. Our ability to realize gains in future periods will depend largely on interest rates and the demand for mortgage loans.
While production of loans held-for-sale has been negatively impacted nationally by the current market constriction as to non-conforming and non-traditional mortgage offerings, and overall credit tightening, the Bank continues to offer traditional mortgage financing through its mortgage banking operations. Because loans we sell in the secondary market are with recourse, and we could be required to repurchase such loans if the purchasers turn out to be not creditworthy, we continue to monitor the anticipated negative impact and/or exposure of many of the larger secondary market investors, and as such have further reduced or eliminated the selling of loans to investors where liquidity or financial capacity is in question.
Loan-related fees, which consist primarily of late fees, document preparation fees, tax service fees and construction inspection fees, decreased $39,000 during the year ended December 31, 2011, due primarily to the decrease of upfront loan fees. We originated approximately 388 loans that were sold in the secondary market totaling $109.3 million during fiscal 2011, compared to 401 loans totaling $109.6 million during fiscal 2010.
Other income includes primarily fees from our deposit-based operations. The $13,000 increase in other income during 2011 is primarily the result of an increase in miscellaneous and other fee income.
Non-Interest Expenses. Non-interest expenses were $13.8 million and $16.4 million for the years ended December 31, 2011 and 2010, respectively.
The $2.6 million decrease in non-interest expenses during the year ended December 31, 2011 as compared to the year ended December 31, 2010 was primarily due to a $2.0 million pre-payment penalty paid during the second quarter of 2010, for which there was no corresponding expense during 2011. Also contributing to the decrease in non-interest expenses were decreases of $409,000 in deposit insurance premiums and assessments, $250,000 in foreclosure costs, $326,000 in provision for loss on real estate acquired in settlement of loans and $21,000 in other expenses, partially offset by increases of $546,000 in salaries and benefits and $45,000 in service contracts.
The $2.0 million pre-payment penalty was the result of a termination fee that we incurred in 2010 as a result of the early payoff of $30.0 million in other borrowings to a third party. Although this transaction resulted in a pre-payment penalty and therefore increased the net loss for the period ending December 31, 2010, it allowed the Bank to reduce its cost of funds going forward.
The increase in salaries and benefits is the result of annual increases, additional mortgage originators and increased employee benefits expenses. Approximately 30 experienced mortgage loan originators joined WSB during the quarter ending December 31, 2010, but due to reduced originations based on the slowdown in the economy, we elected to terminate the low-performing originators and as of December 31, 2011, we have 18 mortgage loan originators. Benefit costs also increased due to higher medical and life insurance premiums. Salaries and benefit costs fluctuate based on the number of loan originators needed to meet the current loan demand. We cannot anticipate what impact this may have on future earnings.
The decrease in the provision for OREO losses was due to OREO properties with a fair value less than the original carrying value. These decreases are the result of obtaining updated appraisal and/or evaluations on the properties that have been classified as real estate owned, which resulted in fewer write downs of certain properties although continuing declines in real estate prices may affect the carrying OREO balances.
The decrease in deposit insurance premiums is the result of an overall decrease in FDIC assessment rates for smaller institutions. During the third quarter of 2011, FDIC changed the calculation formula to charge assessments on average assets, which resulted in lower premiums for WSB.
Foreclosure costs decreased $250,000 during the period ended December 31, 2011, as a result of a reduction in cost associated with foreclosure of loans which was affected by lower levels of OREO. We continue to monitor our foreclosures and post foreclosures, but cannot anticipate what impact this may have on our statement of financial condition in the future.
Income Taxes. Although we generally provide for income taxes at substantially equivalent statutory rates, the tax effects of certain operations have caused variances in our overall effective tax rates from year to year. As a result, a tax expense of $712,000 was recognized for the year ended December 31, 2011 compared to a tax benefit of $2.9 million for the year ended December 31, 2010. The tax expense was the result of pre-tax earnings of $2.0 million, which included the exclusion of income for the bank owned life insurance and a tax benefit attributable to our investments portfolio which consists of U.S. Agencies. The tax benefit for 2010 was the result of a pre-tax loss of $6.8 million, which included the exclusion of income for the bank owned life insurance and a tax benefit attributable to our investment portfolio which consists of U.S. Agencies as well as the reversal of a portion of a reserve established for an
uncertain tax position resulting from a settlement of an IRS examination. The effective tax rates were 36.3% and (42.7)% for years ended December 31, 2011 and 2010, respectively.
The determination of current and deferred income taxes is a critical accounting estimate which is based on complex analyses of many factors including interpretation of income tax laws, the evaluation of uncertain tax positions, differences between the tax and financial reporting bases of assets and liabilities (temporary differences), estimates of amounts due or owed such as the timing of reversal of temporary differences and current financial accounting standards. Additionally, there can be no assurance that estimates and interpretations used in determining income tax liabilities may not be challenged by taxing authorities. Actual results could differ significantly from the estimates and tax law interpretations used in determining the current and deferred income tax liabilities.
In addition, under generally accepted accounting principles, deferred income tax assets and liabilities are recorded at the income tax rates expected to apply to taxable income in the periods in which the deferred income tax assets or liabilities are expected to be realized. If such rates change, deferred income tax assets and liabilities must be adjusted in the period of change through a charge or credit to the Consolidated Statements of Operations. Also, if current period income tax rates change, the impact on the annual effective income tax rate is applied year-to-date in the period of enactment.
Financial Condition and Liquidity.
General.
Total assets were $385.0 million at December 31, 2011 as compared to $396.0 million at December 31, 2010. The $11.0 million, or 2.8%, decrease in assets at December 31, 2011 was principally attributable to a decrease of $22.3 million in loans held for investment, $19.1 million in cash and cash equivalents and $13.9 million in loans available-for-sale, offsetting an increase of $22.3 million in MBS available-for-sale and $22.8 million in investment securities available-for-sale. As our loan portfolio decreased due to loan payoffs and principle pay-downs, we reduced our brokered deposits and reinvested into highly-rated mortgage-backed securities improving our portfolio yield. The decrease in loans held-for-sale is primarily due to a decrease in our residential mortgage real estate loans which are sold in the secondary market.
Liabilities decreased by $13.6 million, or 4.0%, to $330.7 million at December 31, 2011 as compared to $344.3 million at December 31, 2010, as a result of a decrease of $21.5 million in our total deposits, offsetting the increase of $8.0 million in FHLB borrowings. The decrease in deposits is the result of a decrease in our time deposits as a result of a reduction of $28.5 in brokered CDs offsetting an increase in our savings and NOW accounts. Management directed its focus to increase its core savings and NOW accounts by increasing the rates we offer on these products so that our rate is higher than the rate offered by our competitors. In addition, we decreased our brokered deposits to approximately $19.8 million at December 31, 2011 compared to $48.3 at December 31, 2010. Previously, we had generally sought to lengthen our deposit maturities and decrease the effect of short-term interest rate swings through the pricing of our CDs.
Liquidity. We must meet requirements for liquid assets and for liquidity described in “Part I, Item 1, Business¾Supervision and Regulation¾Liquidity Requirements.” As of December 31, 2011, we had $4.4 million of cash and cash equivalents. Further, we had $95.2 million of
unpledged investment securities. However, the unpledged securities consist of approximately $21.4 million private label MBS with limited marketability for purposes of liquidity. At December 31, 2011, we had approximately $29.5 million of availability on our FHLB line and $12.0 million of availability on our secured lines of credit with correspondent banks.
Funding requirements are impacted by loan originations and maturities of CDs and borrowings. We comply with regulatory guidelines regarding required liquidity levels and monitor our liquidity position. In an effort to reduce exposure to liquidity risk, the Board’s Asset and Liability Committee monitors our sources of funds and our assets and liabilities, which may result in a change of our asset, liability, and off-balance sheet positions. Long-term liquidity is generated through growth in our deposits and long-term debt, while short-term liquidity is generated though federal funds and securities sold under agreement to repurchase.
Credit Commitments. The following table lists our credit commitments as of December 31, 2011. Off-balance sheet financial instruments include commitments to extend credit, standby letters of credit, operating lease obligations and financial guarantees. See Note 16 in our notes to consolidated financial statements contained elsewhere in this report for a complete description of off-balance sheet financial instruments.
Capital. Current statutory provisions and OCC regulations establish standards for capital, require subsidiaries of a federally-chartered thrift institution to be separately capitalized, and require investments in and extension of credit to any subsidiary engaged in activities not permissible for a national bank to be deducted in the computation of an institution’s regulatory capital. The Bank’s regulatory risk-based capital reflects an decrease of $936,000, while its regulatory assets reflect an increase of $1.5 million, both of which represent unrealized gains (after-tax for capital deductions and pre-tax for asset deductions, respectively) on MBS and investment securities classified as available-for-sale. See “Part I, Item 1, Business- Supervision and Regulation”, “Part I, Item 1, Business¾Subsidiaries” and Note 12 of Notes to Consolidated Financial Statements contained in “Part II, Item 8” of this report. The minimum regulatory capital and ratios required, the Bank’s actual regulatory capital and ratios, and the amount by which the Bank’s ratios exceed the minimum regulatory requirements, as of December 31, 2011, are as follows:
Our management believes that, under current regulations, and eliminating the assets of WSB, the Bank remains well capitalized and will continue to meet its minimum capital requirements in the foreseeable future. However, events beyond the control of the Bank, such as a shift in interest rates or a further downturn in the economy in areas where we extend credit, could adversely affect future earnings and, consequently, the ability of the Bank to meet its future minimum capital requirements.
Impact of Inflation and Changing Prices
The Consolidated Financial Statements of WSB and related notes presented elsewhere herein have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”), which require the measurement of financial position and operating results in terms of historical dollars without considering changes in the relative purchasing power of money over time due to inflation.
Unlike those of many industries, most of the assets and liabilities of financial institutions such as this Company are monetary in nature. Monetary items, which are those assets and liabilities that are convertible into a fixed number of dollars regardless of changes in prices, include cash, investments, loans and other receivables, savings accounts, short-term and long-term debt and, as in our case, most of its other liabilities. Virtually all of our assets and liabilities are monetary in nature. Inflation has had an immaterial effect on our operations in the two most recent fiscal years.
Item 7A.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
Not applicable
Item 8.
Item 8. Financial Statements and Supplementary Data
Contents
Page
CONSOLIDATED FINANCIAL STATEMENTS:
Management’s report on internal control over financial reporting
Report of independent registered public accounting firm
Consolidated statements of financial condition
Consolidated statements of operations
Consolidated statements of changes in stockholders’ equity
Consolidated statements of cash flows
Notes to consolidated financial statements
Management’s Report on Internal Control Over Financial Reporting
The management of WSB Holdings, Inc. (“the Company”) is responsible for establishing and maintaining adequate internal control over financial reporting. The internal control process has been designed under our supervision to provide reasonable assurance regarding the reliability of financial reporting and the preparation of the Company’s consolidated financial statements for external reporting purposes in accordance with accounting principles generally accepted in the United States of America.
Management conducted an assessment of the effectiveness of the Company’s internal control over financial reporting as of December 31, 2011, utilizing the framework established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Based on this assessment, management has determined that the Company’s internal control over financial reporting as of December 31, 2011, is effective.
Our internal control over financial reporting includes policies and procedures that pertain to the maintenance of records that accurately and fairly reflect, in reasonable detail, transactions and dispositions of assets; and provide reasonable assurances that (1) transactions are recorded as necessary to permit preparation of financial statements in accordance with accounting principles generally accepted in the United States; (2) receipts and expenditures are being made only in accordance with authorizations of management and the directors of the Company; and (3) unauthorized acquisition, use, or disposition of the Company’s assets that could have a material affect on the Company’s financial statements are prevented or timely detected.
All internal control systems, no matter how well designed, have inherent limitations. Therefore, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
As of result of a provision of the Dodd-Frank Act, which, among other things, permanently exempted non-accelerated filers, such as the Company, from complying with the requirements of Section 404(b) of the Sarbanes-Oxley Act of 2002, which requires an issuer to include an attestation report from an issuer’s independent registered public accounting firm on the issuer’s internal control over financial reporting, this annual report does not include an attestation report of the Company’s independent registered public accounting firm regarding internal control over financial reporting. Management’s report is not subject to attestation by the Company’s independent registered accounting firm.
[Stegman & Company Letterhead]
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholders of
WSB Holdings, Inc.
Bowie, Maryland
We have audited the accompanying consolidated statements of financial condition of WSB Holdings, Inc. (the “Company”) as of December 31, 2011 and 2010, and the related consolidated statements of operations, changes in stockholders’ equity, and cash flows for each of the years in the two-year period ended December 31, 2011. The Company’s management is responsible for these consolidated financial statements. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of the Company as of December 31, 2011 and 2010 and the results of their operations and their cash flows for the years in the two-year period ended December 31, 2011 in conformity with accounting principles generally accepted in the United States of America.
/s/ Stegman & Company
Baltimore, Maryland
March 21, 2012
WSB HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
AS OF DECEMBER 31, 2011 AND DECEMBER 31, 2010
See notes to consolidated financial statements.
WSB HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
See notes to consolidated financial statements.
WSB HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY
FOR THE YEARS ENDED DECEMBER 31, 2011 AND DECEMBER 31, 2010
See notes to consolidated financial statements.
WSB HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
See notes to consolidated financial statements.
WSB HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2011 and DECEMBER 31, 2010
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles of Consolidation - The consolidated financial statements include WSB Holdings, Inc. (“WSB” or “we”) and its wholly owned subsidiaries, The Washington Savings Bank FSB (“the Bank”), WSB, Inc., WSB Realty, LLC and WSB Realty, Inc. (collectively referred to herein, as the “Company”). All significant intercompany balances and transactions between entities have been eliminated.
Nature of Operations - We are primarily engaged in the business of obtaining funds in the form of savings deposits and investing such funds in mortgage loans on residential, construction, and commercial real estate, and various types of consumer and other loans, mortgage-backed securities, and investment and money market securities. We grant loans throughout the Washington DC, Baltimore, Northern Virginia and surrounding metropolitan areas. Borrowers’ ability to repay is dependent upon the economy of these respective areas. WSB, Inc. is primarily engaged in the business of developing single family residential lots. WSB Realty, LLC and WSB Realty, Inc. are both primarily engaged to take assignment of the right to acquire title to certain properties purchased at foreclosure sales. Management is authorized to take usual and customary activities toward the acquisition, rehabilitation, sale, rental and disposition of these properties.
Management Estimates - 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 of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Material estimates that are particularly susceptible to significant changes in the near-term relate to the determination of the allowance for loan losses, the valuation of real estate held for development, and the valuation of real estate acquired in settlement of loans.
Cash and Cash Equivalents - Cash and cash equivalents include demand deposits at other financial institutions, interest bearing deposits at other financial institutions and federal funds sold. All cash equivalents have original maturities of three months or less.
Investment Securities and Mortgage-Backed Securities - Investment Securities and Mortgage-Backed Securities are required to be segregated into the following three categories: trading, held-to-maturity, and available-for-sale. Trading securities are purchased and held principally for the purpose of reselling them within a short period of time with unrealized gains and losses included in earnings. Debt securities classified as held-to-maturity are accounted for at amortized cost and require the Company to have both the positive intent and ability to hold those securities to maturity. Securities not classified as either trading or held-to-maturity are considered to be available-for-sale. The premium or discount associated with these securities are amortized on a level yield to the full term of the securities. Unrealized gains and losses for available-for-sale securities are excluded from earnings and reported, net of income taxes, as other comprehensive income, a separate component of stockholders’ equity, until realized. Management systematically evaluates investment securities for other-than-temporary declines in fair value on a quarterly basis. This analysis requires management to consider various factors, which include (1) duration and magnitude of the decline in value, (2) the financial condition of the issuer or issuers and (3) the structure of the security. An impairment loss is
recognized in earnings only when: (1) we intend to sell the debt security; (2) it is more likely than not that we will be required to sell the security before recovery of its amortized cost basis; or (3) we do not expect to recover the entire amortized cost basis of the security. In situations where we intend to sell or when it is more likely than not that we will be required to sell the security, the entire impairment loss must be recognized in earnings. In all other situations, only the portion of the impairment loss representing the credit loss must be recognized in earnings, with the remaining portion being recognized in stockholders’ equity as a component of other comprehensive income, net of deferred taxes. Credit loss is determined by calculating the present value of future cash flows of the security compared to the amortized cost of the security. Realized gains or losses on the sale of investment and mortgage-backed securities are reported in earnings and determined using the amortized cost of the specific security sold.
Restricted Stock Investments - The Bank, as a member of the Federal Home Loan Bank System, is required to maintain an investment in capital stock of the FHLB in varying amounts based on balances of outstanding home loans and on amounts borrowed from the FHLB. Because no ready market exists for this stock and it has no quoted market value, our investment in this stock is carried at cost.
Loan Origination Fees, Discounts, and Premiums on Loans - Loan origination fees and direct loan origination costs are deferred and recognized as an adjustment to yield over the lives of the related loans utilizing the interest method. The amortization of such deferred fees and costs is adjusted for the prepayment experience on a loan-by-loan basis. Commitment fees to originate or purchase loans are deferred, and if the commitment is exercised, they are recognized over the life of the loan as an adjustment of yield. If the commitment expires unexercised, commitment fees are recognized in income upon expiration of the commitment.
Loans Receivable - We originate mortgage, commercial and consumer loans for portfolio investment and mortgage loans for sale in the secondary market. During the period of origination, mortgage loans are designated as either held-for-sale or held-for-investment purposes. Mortgage loans held-for-sale are carried at the lower of cost or fair value, determined on an individual loan basis. There was no valuation allowance required as of December 31, 2011 or December 31, 2010 on loans held-for-sale. The basis of loans sold include any deferred loan fees and costs. Loans held-for-investment are stated at their principal balance outstanding net of related deferred fees and cost. Transfers of loans held-for-investment to the held-for-sale portfolio are recorded at the lower of cost or market value on the transfer date with any reduction in a loan’s value reflected as a write-down of the recorded investment resulting in a new cost basis with a corresponding charge to the allowance for loan losses.
We enter into commitments to originate residential mortgage loans whereby the interest rate on the loan is determined prior to funding (i.e. rate lock commitments). Such rate lock commitments on mortgage loans to be sold in the secondary market are considered to be derivatives. The period of time between issuance of a loan commitment and closing and sale of the loan generally ranges from 15 to 60 days. We protect our self from changes in interest rates through the use of best efforts forward delivery commitments, whereby, we commit to sell a loan at the time the borrower commits to an interest rate with the intent that the buyer has assumed interest rate risk on the loan. As a result, we are not exposed to losses nor will we realize gains related to our rate lock commitments due to changes in interest rates.
The market values of rate lock commitments and best efforts contracts are not readily ascertainable with precision because rate lock commitments and best efforts contracts are not actively
traded. Because of the high correlation between rate lock commitments and best efforts contracts, no gain or loss occurs on the rate lock commitments.
Income Recognition on Loans Receivable - Interest on loans receivable is credited to income as earned on the principal amount outstanding. For those loans that are carried on non-accrual status, interest income is recognized on the cash basis or cost recovery method. Loans are generally placed on non-accrual status when the collection of principal or interest is four payments or more past due, or earlier, if collection is deemed uncertain. Previously accrued but uncollected interest on these loans is charged against interest income. Loans may be reinstated to accrual status when such loans have been brought current, as to both principal and interest, and the borrower demonstrates the ability to pay and remain current.
Allowance for Loan Losses - The allowance for loan losses represents an amount which, in management’s judgment, reflects probable losses on existing loans and other extensions of credit that may become uncollectible as of the balance sheet date. The allowance for loan losses consists of an allocated component, consisting of both formula and specific allowances, and a non-specific component. The adequacy of the allowance for loan losses is determined through review and evaluation of the loan portfolio along with ongoing monthly assessments of the probable losses inherent in that portfolio, and, to a lesser extent, in unused commitments to provide financing. Loans deemed uncollectible are charged against, while recoveries are credited to, the allowance. Management adjusts the level of the allowance through the provision for loan losses, which is recorded as a current period operating expense. Our methodology for assessing the appropriateness of the allowance consists of several key elements, which include the formula allowance, specific allowances and the non-specific allowance. The amount of the allowance is reviewed monthly by the Loan Committee, and reviewed and approved by the Board of Directors.
The formula allowance is calculated by applying loss factors to corresponding categories of outstanding loans. Loss factors consider our historical loss experience in the various portfolio categories over the prior twelve months. The use of these loss factors is intended to reduce the differences between estimated losses inherent in the portfolio and observed losses.
Specific allowances are established in cases where management has identified significant conditions or circumstances related to a loan that management believes indicate the probability that a loss has been be incurred in an amount different from the amount determined by application of the formula allowance. For other problem-graded credits, allowances are established according to the application of loan risk factors. These factors are set by management to reflect its assessment of the relative level of risk inherent in each grade.
The non-specific allowance is based upon management’s evaluation of various conditions that are not directly measured in the determination of the formula and specific allowances. Such conditions include general economic and business conditions affecting key lending areas, loan quality trends (including trends in delinquencies and nonperforming loans expected to result from existing conditions), loan volumes and concentrations, specific industry conditions within portfolio categories, recent loss experience in particular loan categories, duration of the current business cycle, bank regulatory examinations results and management’s judgment with respect to various other conditions including credit administration and management and the quality of risk identification systems. Executive management reviews these conditions monthly.
Management believes that the allowance for loan losses reflects its best estimate of the probable losses in the held-for-investment loan portfolio as of the respective balance sheet date. However, the determination of the allowance requires significant judgment, and estimates of probable losses
inherent in the loan portfolio can vary significantly from the amounts actually observed. While management uses available information to recognize probable losses, future additions to the allowance may be necessary based on changes in the credits comprising the loan portfolio and changes in the financial condition of borrowers, such as may result from changes in economic conditions. In addition, various regulatory agencies, as an integral part of their examination process, periodically review our loan portfolio and allowance for loan losses. Such review may result in recognition of additions to the allowance for loan losses based on the examiners’ judgments of information available to them at the time of their examination.
Impairment of Loans - We consider a loan impaired when it is probable that we will be unable to collect all interest and principal payments as scheduled in the loan agreement. A loan is tested for impairment once it becomes four payments past due. A loan is not considered impaired during a period of “insignificant delay” in payment if the ultimate collectability of all amounts due is expected. We define an “insignificant delay” in payment as past due less than four payments. A valuation allowance is maintained to the extent that the measure of the impaired loan is less than the recorded investment. Our residential mortgage and consumer loan portfolios are collectively evaluated for impairment. The impairment of a loan is measured based on the present value of expected future cash flows discounted at the loan’s effective interest rate, or the fair value of the collateral if repayment is expected to be provided by the collateral. Generally, our impairment on such loans is measured by reference to the fair value of the collateral. Interest income on impaired loans is recognized on the cash basis.
Real Estate Acquired in Settlement of Loans - Real estate acquired in settlement of loans is carried at the lower of our recorded investment or fair value at the date of acquisition. Write-downs to fair value at the date of acquisition are charged to the allowance for loan losses. Subsequent write downs are included in non-interest expense. Costs relating to the development and improvement of a property are capitalized, whereas those relating to holding the property are charged to expense when incurred. The real estate is carried at the lower of acquisition or fair value net of estimated costs to sell subsequent to acquisition. Operating expenses of real estate owned are reflected in other non-interest expenses.
The amounts we could ultimately recover from real estate acquired in settlement of loans could differ materially from the amounts used in arriving at the net carrying value of the assets because of future market factors beyond our control or changes in our strategy for recovering our investment.
Premises and Equipment - Depreciation on buildings, furniture, and equipment is computed using the straight-line method over each asset’s estimated useful life. Leasehold improvements are amortized using the straight-line method over the lesser of the estimated useful life or the lease term. Such estimated useful lives are as follows:
Mortgage Banking Activities - It is our current practice to sell mortgage loans without retaining loan servicing rights (commonly referred to as “servicing released”). We have not purchased mortgage loans with servicing rights subsequent to 1994. Prior to 1995, we originated and sold some mortgage
loans with servicing retained. The accounting treatment in effect at that time prohibited the capitalization of mortgage rights on internally originated loans that were subsequently sold. Accordingly, there are no capitalized mortgage servicing assets at December 31, 2011 and December 31, 2010.
Advertising Costs - We expense advertising costs as they are incurred.
Income Taxes - We file a consolidated federal income tax return with our subsidiaries. Deferred income tax assets and liabilities are recognized for the future income tax consequences attributed to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Any deferred tax asset is reduced by the amount of any tax benefit that more likely than not will not be realized.
A tax position is recognized in the financial statements only if it is “more likely than not” that the tax position would be sustained in a tax examination, with a tax examination being presumed to occur. The amount recognized is the largest amount of tax benefit that is greater than 50% likely of being realized on examination. For tax positions not meeting the “more likely than not” test, no tax benefit is recorded.
We recognize interest and penalties related to income tax matters in income tax expense.
The tax years before 2008 are no longer subject to U.S. Federal tax examinations.
Earnings Per Share - Basic earnings per share (EPS) is computed by dividing net income available to common stockholders by the weighted average number of common shares outstanding for the period. Diluted EPS reflects the potential dilution that could occur if options to issue common stock were exercised. Potentially dilutive common shares include incremental shares issuable upon exercise or outstanding stock options using the Treasury Stock Method.
Stock-Based Compensation - We have incentive compensation plans that permit the granting of incentive and non-qualified awards in the form of stock options. Generally, the terms of these plans stipulate that the exercise price of options may not be less than the fair market value of our common stock on the date the options are granted. Options predominantly vest over a two year period from the date of grant, and expire not later than ten years from date of grant.
Stock-based compensation is measured based on the grant-date fair value of the awards and the costs are recognized over the period during which an employee is required to provide service in exchange for the award. The fair value of each option grant is estimated on the date of grant using the Black-Scholes option pricing model.
Reclassifications - Certain reclassifications have been made to the prior years’ consolidated financial statements to conform to the 2011 presentation.
Recent Accounting Pronouncements
In April 2011, the FASB amended existing guidance for assisting a creditor in determining whether a restructuring is a troubled debt restructuring. The amendments clarify the guidance for a creditor’s evaluation of whether it has granted a concession and whether a debtor is experiencing financial difficulties. This guidance is effective for interim and annual reporting periods beginning after June 15, 2011, and should be applied retrospectively to the beginning of the annual period of adoption. For purposes of measuring impairment on newly identified troubled debt restructurings, the
amendments should be applied prospectively for the first interim or annual period beginning on or after June 15, 2011. The provisions of ASU No. 2011-02 became effective for the Company for the interim reporting period ended September 30, 2011. The Company adopted this statement with no material impact on its financial condition or results of operations except for additional financial statement disclosures.
In April 2011, the FASB issued ASU No. 2011-03, “Reconsideration of Effective Control for Repurchase Agreements.” ASU No. 2011-03 affects all entities that enter into agreements to transfer financial assets that both entitle and obligate the transferor to repurchase or redeem the financial assets before their maturity. The amendments in ASU No. 2011-03 remove from the assessment of effective control the criterion relating to the transferor’s ability to repurchase or redeem financial assets on substantially the agreed terms, even in the event of default by the transferee. ASU No. 2011-03 also eliminates the requirement to demonstrate that the transferor possesses adequate collateral to fund substantially all the cost of purchasing replacement financial assets. The guidance is effective for the Company’s reporting period ended March 31, 2012. The guidance will be applied prospectively to transactions or modifications of existing transaction that occur on or after January 1, 2012.
In June, 2011, the FASB issued ASU No. 2011-05, “Presentation of Comprehensive Income.” This guidance requires companies to present comprehensive income in a single statement below net income or in a separate statement of comprehensive income immediately following the income statement. The guidance eliminates the option to present the components of other comprehensive income as part of the statement of changes in stockholders’ equity, which is our current presentation. This guidance does not change which items are reported in other comprehensive income or the requirement to report reclassifications of items from other comprehensive income to net income. This guidance is effective for fiscal years and interim periods beginning after December 15, 2011 and will require retrospective application for all periods presented.
In December 2011, the FASB issued an accounting standards update to increase the disclosure requirements surrounding derivative instruments that are offset within the balance sheet pursuant to the provisions of current GAAP. The objective of the update is to provide greater comparability between issuers reporting under U.S. GAAP versus IFRS and provide users the ability to evaluate the effect of netting arrangements on a company’s financial statements. The provisions of the update are effective for annual and interim periods beginning on or after January 1, 2013 and are not expected to add to the Company’s current level of disclosures.
2. LOANS RECEIVABLE
Loans receivable held-for-investment consists of the following:
We originate adjustable and fixed interest rate loans. The adjustable rate loans have interest rate adjustment limitations and are generally indexed to the 1- or 3-year U.S. Treasury index. Future market factors may affect the correlation of the interest rate adjustment with the rates we pay on the short-term deposits that have been primarily utilized to fund these loans. Adjustable interest rate loans at December 31, 2011 and December 31, 2010 were $6.7 million and $5.2 million, respectively.
Allowance for Loan Losses -
Allowance for loan losses and recorded investment in loans for the years ended December 31, 2011 and 2010 is summarized as follows:
The risks associated with each portfolio class are as follows:
First mortgage loans secured by single family residences, secured by 5 or more residential, secured by other properties and second mortgage loans - The primary risks related to this type of lending include; unemployment, deterioration in real estate values, our ability to access the creditworthiness of the customer, deterioration in the borrower’s financial condition (whether the result of personal issues or general economic downturn), the inability of the borrower to maintain occupancy for investment properties, and an appraisal on a property is not reflective of the true property value. Portfolio risk includes condition of the economy, changing demand for these types of loans, large concentration of these types of loans and geographic concentration of these types of loans.
Construction loans - Since this portfolio is substantially owner occupied residential construction loans, the loan specific risks and portfolio risks are the same as described above as first mortgage loans secured by single family residences. However these loans carry the additional risk associated with the builder and the potential for builder cost overruns and/or the builder being unable to complete the construction.
Land development loans and land acquisition loans - The primary loan-specific risk in land and land development are: unemployment, deterioration of the business and/or collateral values, deterioration of the financial condition of the borrowers and/or guarantors creates a risk of default, and that an appraisal on the collateral is not reflective of the true property value. These loans usually include funding for the acquisition and development of unimproved properties to be used for residential or non-residential construction. We may provide permanent financing on the same projects for which we have provided the development and construction financing. Portfolio risk includes condition of the economy, changing demand for these types of loans, large concentration of these types of loans, and geographic concentrations of these types of loans.
Commercial and Commercial secured by real estate - The primary loan-specific risks in these types of loans are: unemployment, general deterioration in the economy, deterioration of the business and/or business cash flows, financial condition of the guarantors, deterioration of collateral values, and that an appraisal on any real estate collateral is not reflective of the true property value. Portfolio risk includes condition of the economy, changing demand for these types of loans, large concentration of these types of loans, and geographic concentration of these types of loans.
Loans secured by savings accounts and consumer installment loans- The primary risks of these loans are: unemployment, and deterioration of the borrower’s financial condition, whether the result of person issues or a general economic downturn. The portfolio risks for these types of loans is the same as for first mortgage loans secured by single family residences as described above.
Credit quality indicators as of December 31, 2011 are as follows:
Pass: Loans classified as pass generally meet or exceed normal credit standards. Factors include repayment source, collateral, borrower cash flows, and performance history.
Special Mention: Loans classified Special Mention loans have potential weaknesses that deserve management’s attention. These loans are not adversely classified and do not expose an institution to sufficient risk to currently warrant adverse classification.
Substandard: Loans classified as substandard are loans that have a well-defined weakness. They are characterized by the distinct possibility that we will sustain some loss if the deficiencies are not corrected. These loans are inadequately protected by the current net worth and paying capacity of the obligor or the collateral pledged as security for the asset.
Doubtful: Loans classified as doubtful consists of loans where we expect a loss, but not a total loss. These loans have all the weaknesses inherent in a substandard asset, in addition, these weaknesses make collection highly questionable or improbable based on the existing circumstances.
Loss: Loans classified as loss are considered uncollectible. A loan classified as a loss does not mean that an asset has no recovery value, but that it is not practical to defer writing off or reserving all or a portion of the asset, even though partial recovery may be collected in the future. Loans that are classified as “Loss” are fully reserved for on our financial statements.
The credit risk profile by internally assigned grade under the Allowance for Loan Losses for the years ended December 31, 2011 and 2010 are as follows:
Information on impaired loans for the years ended December 31, 2011 and 2010 is as follows:
At December 31, 2011 and 2010, nonaccrual loans are $12.8 million and $27.1 million, respectively.
An age analysis of past due loans as of December 31, 2011 and 2010 are as follows:
Loans on which the recognition of interest has been discontinued amounted to approximately $12.8 million and $27.1 million at December 31, 2011 and 2010, respectively. If interest income had been recognized on those loans at their stated rates during the years ending December 31, 2011 and 2010, interest income would have been increased by approximately $1.1 million and $1.6 million, respectively. The total allowance for loan losses on these impaired loans was approximately $2.9 million and $5.7 million at December 31, 2011 and 2010, respectively.
The impaired loans included in the table above were comprised of collateral dependent 1-4 residential real estate, lot loans and commercial real estate loans. The average recorded investment in impaired loans was $32.7 million and $33.5 million at December 31, 2011 and 2010, respectively, which included an average recorded balance in non-performing loans of $19.3 million and $25.0 million at December 31, 2011 and 2010, respectively.
A troubled debt restructure (“TDR”) is when we grant a concession to borrowers that the Bank would not otherwise have considered due to a borrower’s financial difficulties. All TDRs are considered “impaired”. The substantial majority of our residential real estate TDRs involved reducing the interest rate for a specified period. We also have restructured loans involving the restructure of loan terms such as a reduction in the payment requiring interest only payments and/or extending the maturity date of these loans.
We had approximately $20.4 million in TDRs, with approximately $8.3 million added during the twelve month period ending December 31, 2011, the majority of which were on accrual status.
We consider an impaired loan to be performing to its modified terms if the loan is not past due 30 day or more as of the report
date.
The following reflects a summary of TDR loan modifications outstanding and respective performance under the modified terms as of December 31, 2011.
Non-residential real estate loans had an outstanding balance of $35.4 million and $41.3 million at December 31, 2011 and 2010, respectively. These loans are considered by management to have somewhat greater risk of collectability due to the dependence on income production. Additionally, all of our non-residential real estate loans were collateralized by real estate (primarily warehouse and office space) in the Washington, D.C. metropolitan area.
We originate and participate in land and land development loans, real estate construction loans and commercial real estate loans, the proceeds of which are used by the borrower for acquisition, development, and construction purposes. Often the loan arrangements require us to provide, from the loan proceeds, amounts sufficient for payment of loan fees and anticipated costs during acquisition, development, or construction, including interest. This type of lending is considered by management to have higher risks. At December 31, 2011 and 2010, the undisbursed portion of such loans totaled $11.0 million and $19.3 million, respectively.
We have made loans to certain of the Bank’s executive officers and directors. These loans were made on substantially the same terms, including interest rate and collateral requirements, as those prevailing at the time for comparable transactions with unrelated customers. The risk of loss on these loans is considered to be no greater than for loans made to unrelated customers.
The following schedule summarizes changes in amounts of loans outstanding to executive officers and directors:
3. MORTGAGE-BACKED SECURITIES
Mortgage-backed securities consisted of the following:
The portfolio classified as “Available for Sale” is consistent with management’s assessment and intention as to the portfolio. While we have the intent to hold and do not expect to be required to sell the securities until maturity, from time to time or with changing conditions, it may be advantageous to sell certain securities either to take advantage of favorable interest rate changes or to increase liquidity. Securities classified as “Held to Maturity” are not subject to fair value adjustment due to temporary changes in value due to interest rate; while securities classified as “Available for Sale” are subject to adjustment in carrying value through the accumulated comprehensive income line item in stockholders’ equity section of the statement of financial condition.
Gross unrealized losses and fair value by length of time that the individual available-for-sale MBS have been in a continuous unrealized loss position is as follows:
At December 31, 2011, we have four securities in an unrealized loss position. These four securities are in an unrealized loss related to our private labeled mortgage backed securities portfolio.
At December 31, 2011, we had no other-than-temporary impairment losses recognized in net earnings, related to available-for-sale investments. Other-than-temporary impairment loss recognized in net earnings for December 31, 2010 are as follows:
In evaluating whether a security was other than temporarily impaired, we considered the severity and length of time impaired for each security in a loss position. Other qualitative data was also considered including recent developments specific to the organization issuing the security, market liquidity, extension risk, credit rating downgrades as well as analysis of performance of the underlying collateral.
During the year ending December 31, 2010, we recognized total non-cash other than temporary impairment (“OTTI”) pre-tax charges to the consolidated statement of operations for $2.9 million for one of our private-labeled MBS. This security was rated “AAA” by Fitch at origination. The OTTI charge relates to a credit loss. Credit losses reflect the difference between the present value of the cash flows expected to be collected and the amortized cost. After a careful and thorough review of the non-agency mortgage-backed security portfolio, an other than temporary impairment charge was recorded on one of the non-agency mortgage-backed securities. Significant deterioration occurred in the market values on one of our securities. Through analysis, we concluded that the entire decrease in value was the result of credit losses and, since our intention was to sell the MBS, the asset was reduced to the current market value. In November 2010, the Bank sold this MBS, for which $2.9 million in cumulative credit-related OTTI charges had been previously recognized as a charge to non-interest income.
The valuation process and OTTI determination, assumptions related to prepayment, default and severity on the collateral supporting the non-agency MBSs are input into an industry standard valuation model. The valuation is “Level Three” pursuant to FASB ASC - Topic 820- Fair Value Measurements and Disclosures.
We believe that the unrealized losses, other than those included in the table above, are not other-than-temporary. The unrealized losses are driven by market illiquidity causing price deterioration. Because our intention is not to sell the MBS and it is not more likely than not that we will be required to sell the MBS before recovery of their amortized cost bases, which may be maturity, management does not consider these MBS to be other-than-temporarily impaired at December 31, 2011.
We recognized a gain of $401,100 on the sale of mortgage-backed securities during year ending December 31, 2011 compared to a loss of $361,300 for the previous fiscal year. Proceeds from sale of mortgage-backed securities were as follows as of December 31, 2011 and 2010:
4. INVESTMENT SECURITIES
Investment securities consist of the following:
Proceeds from the sale and call of investment securities available-for-sale and proceeds from the called investment securities classified as held-to-maturity were as follows for the respective twelve month periods ending December 31, 2011 and 2010:
Approximately $32.0 million short term investments, callable agencies, were called during the year ending December 31, 2011. During the year ending December 31, 2011, we sold approximately $10.0 million in short term agencies.
In evaluating whether a security was other than temporarily impaired, we considered the severity and length of time impaired for each security in a loss position. Other qualitative data was also considered including recent developments specific to the organization issuing the security and the overall environment of the financial markets.
Gross unrealized losses and fair value by length of time that the individual available-for-sale investment securities have been in a continuous unrealized loss position are as follows:
All of our temporarily impaired securities are defined as impaired due to declines in fair values resulting from increases in interest rates compared to the time they were purchased. None of these securities have exhibited a decline in value due to changes in credit risk. Furthermore, we have the ability to hold these securities for a period of time sufficient to allow for any anticipated recovery in
fair value and do not expect to realize losses on any of these holdings. As such, management does not consider the impairments to be other than temporary.
Maturities for the investment securities are as follows:
5. LAND HELD FOR DEVELOPMENT
WSB’s wholly owned subsidiary, WSB, Inc., previously was established to purchase land in Maryland to develop into single family building lots that were offered for sale to third parties. The subsidiary also built homes on lots on a contract basis. However, due to the current economy, the subsidiary has not purchased or participated in developing homes for the past fiscal years ending December 31, 2011 and 2010.
6. REAL ESTATE ACQUIRED IN SETTLEMENT OF LOANS
Real estate acquired in settlement of loans consists of the following:
7. PREMISES AND EQUIPMENT
Premises and equipment consist of the following:
Depreciation expense totaled $446,770 and $528,533 for the years ending December 31, 2011, and 2010, respectively. Loss on disposal of assets totaled $2,005 and $93 for the years ending December 31, 2011 and 2010, respectively.
The Company has entered into long-term operating leases for certain premises. Some of these leases require payment of real estate taxes and other related expenses, and some contain escalation clauses that provide for increased rental payments under certain circumstances. Certain leases also contain renewal options. Rental expense under leases for the years ended December 31, 2011 and December 31, 2010 was $287,862 and $270,831, respectively.
At December 31, 2011, the minimum rental commitment for the non-cancelable leases is as follows:
8. DEPOSITS
Deposits consist of the following:
Time deposits at December 31, 2011 mature as follows:
Our deposits are insured by the Federal Deposit Insurance Corporation (“FDIC”). The Bank continues to offer FDIC insurance coverage of $250,000 per depositor. The Dodd-Frank Wall Street Reform and Consumer Protection Act signed on July 21, 2010, made permanent the standard maximum deposit insurance amount of $250,000.
As of December 31, 2011, we have approximately 176 time deposits with a balance in excess of $100,000 for a total of $24,241,000, compared to approximately 248 for a total of $80,670,148 at December 31, 2010. These funds were primarily used to fund our loan originations. We currently have 5 accounts totaling approximately $19.8 million that are funds received through brokers. These brokered accounts consist of individual accounts that are not in excess of $100,000 but issued under master certificates in the broker’s name for a combined total exceeding $100,000. These types of accounts meet the FDIC requirements and are federally insured.
The following is a summary of interest expense on deposits:
9. BORROWINGS
Borrowings are as follows:
The fixed rate advances mature as follows:
At December 31, 2010, total borrowings consisted of $76.0 million in FHLB advances. During the fiscal year ending December 31, 2010, we reduced our borrowings by repaying $30.0 million in reverse repurchases and reduced our FHLB advances by $23.0 million, of which resulted in a pre-payment penalty of approximately $2.0 million, reducing our interest expense. To meet our funding needs for the fiscal year ending December 31, 2011, FHLB advance consisted of $8.0 million in daily rate credit bringing the balance of our FHLB advances to $84.0 million at December 31, 2011. Borrowings for fiscal 2011 were as follows:
We are required to maintain collateral against FHLB advances. This collateral consisted of a blanket lien on our 1-to-4 family residential loan portfolio, commercial real estate loan portfolio and multi-family first trust mortgage portfolio, which had a net collateral value of $61,699,987 and $60,563,685 at December 31, 2011 and 2010, respectively.
During the years ended December 31, 2011 and 2010, the maximum month end balance of other borrowings was $86.0 million and $129.0 million, respectively. We currently have an unused secured line of credit of $7.0 million with M & T Bank as well as a $5.0 million unused line of credit with Atlantic Central Bankers Bank which includes $3.0 million unsecured and $2.0 million secured lines of credit.
10. BENEFIT PLANS
Profit Sharing/401(k) Retirement Plan - The Bank has a 401(k) Retirement Plan (“401(k)”). The 401(k) offers a corporate match program of 100% of the first 3% of employee directed contributions and a 50% match up to an additional 2% of employee directed contributions. For the calendar year ending December 31, 2011 and 2010, we recognized expenses of $139,825 and $146,000, respectively.
Stock Option Plans - We have incentive compensation plans that permit the granting of incentive and non-qualified awards in the form of stock options. Generally, the terms of these plans stipulate that the exercise price of options may not be less than the fair market value of WSB’s common stock on the date the options are granted. Options predominantly vest over a two year period from the date of grant, and expire not later than ten years from the date of grant.
All outstanding options are vested and there is currently no unrealized compensation cost related to non-vested share based compensation arrangements.
Equity Incentive Plans - On April 27, 2011, the stockholders of WSB Holdings, Inc. approved the adoption of the WSB Holdings, Inc. 2011 Equity Incentive Plan, which reserve shares of common stock for issuance to certain key employees and non-employee directors. The maximum number of shares of our common stock that be issued with respect to awards granted under the plan is 500,000 plus (i) any shares of common stock that are available under the Washington Savings Bank 2001 Stock Option and Incentive Plan (the “2001 Plan”) as of its termination date (which was April 27, 2011) and (ii) shares of common stock subject to options granted under the 2001 Plan that expire or terminate without having been fully exercised. In no event, however, may the number of shares issuable pursuant to incentive stock options exceed 500,000. The period during which an option granted under the Plan will be exercisable, as determined by the Administrator, will be set forth in the agreement evidencing the option award. However, an incentive stock option may not be exercisable for more than ten years from its date of grant.
Information with respect to stock options is as follows:
A summary of options outstanding and exercisable at December 31, 2011 is as follows:
There were no options granted during 2011 or 2010. The total intrinsic value of options exercised during the years ended December 31, 2011 and 2010 was $6,213 and $36,228 respectively. The aggregate intrinsic value of all options outstanding and exercisable was $0 at December 31, 2011. There was no pre-tax stock-based compensation recognized in the Statements of Operations for the years ended December 31, 2011 and December 31, 2010. All outstanding options are vested and there is currently no unrealized compensation cost related to non-vested share based compensation arrangements.
11. CONTINGENCIES
None
12. STOCKHOLDERS’ EQUITY AND REGULATORY MATTERS
We are insured by the FDIC through its Deposit Insurance Fund (DIF) and regulated by the Office of the Comptroller of the Currency (“OCC”) and the Board of Governors of the Federal Reserve System (the “Federal Reserve Board”). As a condition of maintaining the insurance of accounts, we are required to maintain certain minimum regulatory capital in accordance with a formula provided in FDIC regulations. We may not pay dividends on our stock unless all such capital requirements are met. Failure to meet minimum capital requirements can initiate certain mandatory
and possible additional discretionary actions by regulators that, if undertaken, could have a direct material effect on our financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, we must meet specific capital guidelines that involve quantitative measures of our assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. The Bank’s capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors.
Quantitative measures established by regulation to ensure capital adequacy require the Bank to maintain minimum amounts and ratios (set forth in the table below) of tangible and core capital (as defined in the regulations) to total adjusted assets (as defined), and of total capital (as defined) to risk-weighted assets (as defined). Management believes, as of December 31, 2011, that the Bank meets all capital adequacy requirements to which it is subject.
Our management believes that, under current regulations, and eliminating the assets of WSB, the Bank remains well capitalized and will continue to meet its minimum capital requirements in the foreseeable future. However, events beyond the our control, such as a shift in interest rates or a further, unexpected downturn in the economy in areas where we extend credit, could adversely affect future earnings and, consequently, our ability to meet our future minimum capital requirements.
As of December 31, 2011, the Bank remains well capitalized under the regulatory framework for prompt corrective action. To be categorized as “well-capitalized,” the Bank must maintain minimum core, tier 1 risk-based and total risk-based ratios as set forth in the table. There are no conditions or events since that notification that management believes have changed the Bank’s category. The Bank’s actual capital amounts and ratios as of December 31, 2011 and 2010 are presented in the following tables:
The following table summarizes the reconciliation of stockholders’ equity of the Bank to regulatory capital.
At December 31, 2011 and December 31, 2010, tangible assets used in computing regulatory capital were $375,560,600 and $386,675,832, respectively, and total risk-weighted assets used in the computation were $221,953,097 and $241,370,248, respectively.
13. EARNINGS PER SHARE
Options to purchase 33,875 shares of common stock were not included in the computation of diluted EPS for the period ended December 31, 2011 because their effect would have been anti-dilutive.
There was no dilutive effect on EPS as we experienced a loss for the period ending December 31, 2010. Options to purchase 341,375 shares of common stock were excluded in the computation of diluted EPS for the period ending December 31, 2010 because their effect would have anti-dilutive Average common and common equivalent shares used in the determination of earnings per share were:
14. INCOME TAXES
The provision for income taxes consists of the following:
The provision for income taxes differs from that computed at the statutory corporate tax rate as follows:
Deferred income tax assets and liabilities reflect the net tax effects of temporary differences between the financial reporting and the tax bases of assets and liabilities.
The components of net deferred tax assets as of December 31, 2011 and December 31, 2010 are as follows:
15. FAIR VALUE MEASUREMENTS
The Company applies guidance issued by FASB regarding fair value measurements which provides a framework for measuring and disclosing fair value under generally accepted accounting principles. This guidance requires disclosures about the fair value of assets and liabilities recognized in the balance sheet in periods subsequent to initial recognition, whether the measurements are made on a recurring basis (for example, available-for-sale investment securities) or on a nonrecurring basis (for example, impaired loans).
The guidance defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. The guidance also establishes a fair value hierarchy, which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value.
The Company utilizes fair value measurements to record fair value adjustments to certain assets and to determine fair value disclosures. Securities available for sale are recorded at fair value on a recurring basis. Additionally, from time to time, the Company may be required to record at fair value other assets on a nonrecurring basis, such as loans held for sale, loans held for investment and certain other assets. These nonrecurring fair value adjustments typically involve application of lower of cost or market accounting or write-downs of individual assets.
Under the guidance, the Company groups assets and liabilities at fair value in three levels, based on the markets in which the assets and liabilities are traded and the reliability of the assumptions used to determine the fair value. These hierarchy levels are:
Level 1 inputs - Unadjusted quoted process in active markets for identical assets or liabilities that the entity has the ability to access at the measurement date.
Level 2 inputs - Inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either directly or indirectly. These might include quoted prices for similar assets and liabilities in active markets, and inputs other than quoted prices that are observable for the asset or liability, such as interest rates and yield curves that are observable at commonly quoted intervals.
Level 3 inputs - Unobservable inputs for determining the fair values of assets or liabilities that reflect an entity’s own assumptions about the assumptions that market participants would use in pricing the assets or liabilities.
The following is a description of valuation methodologies used for assets and liabilities recorded at fair value:
Investment Securities Available-for-Sale
Investment securities available-for-sale is recorded at fair value on a recurring basis. Fair value measurement is based upon quoted prices, if available. If quoted prices are not available, fair values are measured using independent pricing models or other model-based valuation techniques such as the present value of future cash flows, adjusted for the security’s credit rating, prepayment assumptions and other factors such as credit loss assumptions. Level 1 securities include those traded on an active exchange such as the New York Stock Exchange, Treasury securities that are traded by dealers or brokers in active over-the-counter markets and money market funds. Level 2 securities include mortgage backed securities issued by government sponsored entities, municipal bonds and corporate debt securities. Securities classified as Level 3 include asset-backed securities in less liquid markets.
Loans
We do not record loans at fair value on a recurring basis, however, from time to time, a loan is considered impaired and an allowance for loan loss is established. Loans for which it is probable that payment of interest and principle will not be made in accordance with the contractual terms of the loan are considered impaired. Once a loan is identified as individually impaired, management measures impairment in accordance with the FASB’s Accounting Standards Codification Receivables Topic. The fair value of impaired loans is estimated using one of several methods, including the collateral value, market value of similar debt, enterprise value, liquidation value and discounted cash flows. Those impaired loans not requiring a specific allowance represent loans for which the fair value of expected repayments or collateral exceed the recorded investment in such loans. At December 31, 2011, a majority of all of the totally impaired loans were evaluated based upon the fair value of the collateral. In accordance with guidance regarding fair value measurements, impaired loans where an allowance is established based on the fair value of collateral require classification in the fair value hierarchy. When the fair value of the collateral is based on an observable market price or a current appraised value, we record the loan as nonrecurring Level 2. When an appraised value is not available or management determines the fair value of the collateral is further impaired below the appraised value and there is no observable market price, we record the loan as nonrecurring Level 3.
Loans Held for Sale- Loans held for sale are value based quotations from the secondary market for similar instruments and are classified as level 2 of the fair value hierarchy.
Real Estate Acquired in Settlement of Loans- We record foreclosed real estate assets at the lower cost or estimated fair value on their acquisition dates and at the lower of such initial amount or estimated fair value less estimated selling costs thereafter. Estimated fair value is generally based upon independent appraisal of the collateral. We consider these collateral values to be estimated using Level 2 inputs.
Assets and Liabilities Measured at Fair Value on a Recurring Basis
The table below presents the recorded amount of assets and liabilities measured at fair value on a recurring basis as of December 31, 2011 and 2010.
(1) The $2.9 million listed in the above column represents an other-than-temporary impairment on one of our mortgage-backed securities of which was sold in fiscal 2010. The net other-than-temporary impairment losses recognized in earnings relate to credit loss.
Loans held-for-sale, which are carried at the lower of cost or market, did not have any impairment charge at December 31, 2011.
Assets included in Level 3 include our private-labeled mortgage-backed securities (“MBS”) due to lack of observable market data due to decreases in market activity for these securities. Our policy is to recognize transfers in and out as of the actual date of the event or change in circumstances that caused the transfer. No assets were transferred to Level 3 during the period ending December 31, 2011. The change in the assets included in Level 3 was due to principal repayments and the change in unrealized gains/losses for the twelve month period ending December 31, 2011. The following assumptions were used for the Level 3 valuations on the five remaining private-labeled MBS:
· Estimated future defaults are derived by an analysis of the performance of the underlying collateral as well as obtaining models from a third party. The model addresses each component of the net present value calculation, which includes loss severity rate, current default rate and current voluntary prepayment rate.
· Each individual security is reviewed and an analysis is prepared for specific credit characteristics of the underlying collateral including recent developments specific to each organization issuing the security, market liquidity, extension risks and credit rating downgrades and an estimate of future defaults is derived.
The table below presents a reconciliation and income statement classification of gains and losses for all assets measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for the periods ended December 31, 2011 and December 31, 2010.
Assets and Liabilities measured at Fair Value on a Nonrecurring Basis
The Company may be required from time to time, to measure certain assets at fair value on a non-recurring basis in accordance with U.S. generally accepted accounting principles. These include assets that are measured at the lower of cost or market that were recognized at fair value below cost at the end of the period. Assets measured at fair value on a nonrecurring basis are included in the tables below:
Impaired loans, which are measured for impairment using the fair value of the collateral for collateral dependent loans, had a principal balance of $31.3 million, with a related valuation allowance of $2.9 million.
Real estate acquired in settlement of loans is carried at the lower of our recorded investment or fair value at the date of acquisition. Write-downs to fair value at the date of acquisition are charged to the allowance for loan losses. Subsequent write downs are included in non-interest expense. Costs relating to the development and improvement of a property are capitalized, whereas those relating to holding the property are charged to expense when incurred. The real estate is carried at the lower of acquisition or fair value net of estimated costs to sell subsequent to acquisition. Operating expenses of real estate owned are reflected in other non-interest expenses. The value of OREO properties held due to foreclosures at December 31, 2011 were $4.8 million, which included a valuation allowance of $266,283.
The following disclosures of the estimated fair value of financial instruments are made in accordance with the requirements of ASC 825, “Disclosures about Fair Value of Financial Instruments”. We have determined the fair value amounts by using available market information and appropriate valuation methodologies. However, considerable judgment is required in interpreting market data to develop the estimates of fair value. Accordingly, the estimates presented herein are not necessarily indicative of the amounts we could realize in a current market exchange. The use of different market assumptions and/or estimation methodologies may have a material effect on the estimated fair value amounts.
Cash and Cash Equivalents - For cash and cash equivalents, the carrying amount is a reasonable estimate of fair value.
Loans Receivable, Net - Loans not having quoted market prices are priced using the discounted cash flow method. The discount rate used is the rate currently offered on similar products. The estimated fair value of loans held-for-sale is based on the terms of the related sale commitments.
Mortgage-Backed Securities - Fair values are based on quoted market prices or dealer quotes. If a quoted market price is not available, fair value is estimated using quoted market prices for similar securities.
Investment Securities - Fair values are based on quoted market prices or dealer quotes. If a quoted market price is not available, fair values are estimated using quoted market prices for similar securities.
Investment in Federal Home Loan Bank Stock - The carrying amount of Federal Home Loan Bank (FHLB) Stock is a reasonable estimate of fair value as FHLB stock does not have a readily available market and can only be sold back to the FHLB at its par value of $100 per share.
Bank Owned Life Insurance - The carrying amount of bank owned life insurance (“BOLI”) purchased on a group of officers is a reasonable estimate of fair value. BOLI is an insurance product that provides an effective way to offset current employee benefit costs.
Deposits - The fair value of non-interest bearing accounts is the amount payable on demand at the reporting date. The fair value of interest-bearing deposits is determined using the discounted cash flow method. The discount rate used is the rate currently offered on similar products.
Borrowings - The fair value of borrowings is determined using the discounted cash flow method. The discount rate used is the rate currently offered on similar products.
Commitments to Grant Loans and Standby Letters of Credit and Financial Guarantees Written - The majority of our commitments to grant loans and standby letters of credit and financial guarantees
written carry current market interest rates if converted to loans. Because commitments to extend credit and letters of credit are generally unassignable by either us or the borrower, they only have value to us and the borrower and therefore it is impractical to assign any value to these commitments.
The fair value estimates presented herein are based on pertinent information available to management as of December 31, 2011 and December 31, 2010. Although management is not aware of any factors that would significantly affect the estimated fair value amounts, such amounts have not been comprehensively reevaluated for purposes of these financial statements since that date and, therefore, current estimates of fair value may differ significantly from the amounts presented herein.
16. FINANCIAL INSTRUMENTS WITH OFF-BALANCE-SHEET RISK
We are party to financial instruments with off-balance-sheet risk in the normal course of our business to meet the financing needs of our customers and to reduce our own exposure to fluctuations in interest rates. These financial instruments include commitments to extend credit, standby letters of credit, and financial guarantees.
These instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the statement of financial position. The contract or notional amounts of those instruments reflect the extent of involvement we have in particular classes of financial instruments.
Our exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit, standby letters of credit, and financial guarantees written is represented by the contractual notional amount of those instruments. We use the same credit policies in making commitments and conditional obligations as we do for on-balance-sheet instruments.
Unless noted otherwise, we do not require collateral or other security to support financial instruments with credit risk.
Commitments to grant mortgage and commercial loans, which include pending applications, are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon or pending applications will be denied, the total commitment amounts do not necessarily represent future cash requirements. Historically, approximately seventy-five percent of the agreements and pending applications are drawn upon. We evaluate each customer’s credit-worthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary upon extension of credit, is based on management’s credit evaluation of the counterparty. Most equity line commitments for the unfunded portion of equity lines are for a term of 12 months and commercial lines of credit are generally renewable on an annual basis.
Standby letters of credit and financial guarantees written are conditional commitments issued by us to guarantee the performance of a customer to a third party. Those guarantees are primarily issued to support construction borrowing. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. We hold cash as collateral supporting those commitments for which collateral is deemed necessary.
17. CONDENSED FINANCIAL STATEMENTS- PARENT COMPANY ONLY
WSB HOLDINGS, INC.
CONDENSED STATEMENTS OF FINANCIAL CONDITION - PARENT COMPANY ONLY
AS OF DECEMBER 31, 2011 AND DECEMBER 31, 2010
WSB HOLDINGS, INC.
CONDENSED STATEMENTS - PARENT COMPANY ONLY
As of December 31, 2011 and 2010
Condensed Statement of Operations
Condensed Statement of Cash Flows
18. QUARTERLY DATA (Unaudited)
Summarized quarterly financial information is as follows (amounts in thousands except per share information):
* * * *
Item 9.
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure.
None.
Item 9A.
Item 9A. Controls and Procedures
Our Chief Executive Officer and Chief Financial Officer have evaluated the effectiveness of the design and operation of our disclosure controls and procedures (as defined under Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934, as amended (“Exchange Act”)) as of the end of the period covered by this report. Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures are effective as of December 31, 2011.
There were no changes in our internal control over financial reporting in connection with the evaluation required by paragraph (d) of Rules 13a-15 or 15d-15 under the Exchange Act that occurred
during the quarter ended December 31, 2011 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
Item 9B.
Item 9B. Other Information
None.
PART III
Item 10.
Item 10. Directors, Executive Officers and Corporate Governance
The text and tables under the captions “Proposal 1 - Election of Directors”, “Corporate Governance,” “Executive Officers of WSB Holdings, Inc.” and “Section 16(a) Beneficial Ownership Reporting Compliance” in WSB’s Proxy Statement for its 2012 Annual Meeting of Stockholders are incorporated herein by reference.
Item 11.
Item 11. Executive Compensation
The text and tables under the captions “Executive Compensation and Other Information,” “Corporate Governance - Compensation of Directors,” “Corporate Governance - Director/Committee Fees,” “Corporate Governance - Incentive Stock Awards” and “Corporate Governance - Health and Welfare” in WSB’s Proxy Statement for its 2012 Annual Meeting of Stockholders are incorporated herein by reference.
Item 12.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Securities Authorized For Issuance Under Equity Compensation Plans
The following table sets forth certain information as of December 31, 2011, with respect to compensation plans under which equity securities of WSB are authorized for issuance:
(1) Includes the 1997 Omnibus Stock Plan, the 2001 Stock Option and Incentive Plan, and the 2011 Equity Incentive Plan. The 2011 Equity Incentive Plan was approved by the stockholders of WSB and the other Plans were approved by security holders of the Bank. Effective January 3, 2008, all of the then stockholders of the Bank became stockholders of WSB.
The information contained in the text and tables under the caption “Beneficial Ownership of Securities” in WSB’s Proxy Statement for its 2012 Annual Meeting of Stockholders is incorporated herein by reference.
Item 13.
Item 13. Certain Relationships and Related Transactions, and Director Independence
The text under the captions “Corporate Governance - Meetings of the Board of Directors; Independence of the Board of Directors” and “Executive Compensation and Other Information - Certain Relationships and Related Person Transactions” in WSB’s Proxy Statement for its 2012 Annual Meeting of Stockholders is incorporated herein by reference.
Item 14.
Item 14. Principal Accounting Fees and Services
The text under the captions “Independent Registered Public Accounting Firm” and “Policy on Audit Committee Pre-Approval of Audit Services and Permissible Non-Audit Services of Independent Registered Public Accounting Firm” in WSB’s Proxy Statement for its 2012 Annual Meeting of Stockholders is incorporated herein by reference.
PART IV
Item 15.
Item 15. Exhibits and Financial Statement Schedules
(a)(1) The following consolidated financial statements of WSB and its subsidiaries are included in Item 8:
Report of Independent Registered Public Accounting Firm
Consolidated Statements of Financial Condition-as of December 31, 2011 and 2010
Consolidated Statements of Operations-Years ended December 31, 2011 and 2010
Consolidated Statements of Changes in Stockholders’ Equity-Years ended December 31, 2011 and 2010
Consolidated Statements of Cash Flows-Years ended December 31, 2011 and 2010
Notes to Consolidated Financial Statements
(a)(2) Financial statements schedules-none applicable or required
(a)(3) The following is an index of the exhibits included in this report:
Exhibit No.
Item
2.1
- Plan of Merger and Reorganization by and among The Washington Savings Bank, F.S.B., Washington Interim Savings Bank and WSB Holdings, Inc. (Incorporated by reference from Amendment No. 1 to WSB’s Registration Statement on Form S-4, filed October 26, 2007, file no. 333-146877).
3.1
- Amended and Restated Certificate of Incorporation of WSB Holdings, Inc. (Incorporated by reference from Amendment No. 1 to WSB’s Registration Statement on Form S-4, filed October 26, 2007, file no. 333-146877).
3.2
- Amended and Restated By-Laws of WSB Holdings, Inc. (Incorporated by reference from Amendment No. 1 to WSB’s Registration Statement on Form S-4, filed October 26, 2007, file no. 333-146877).
10.2
- 1997 Omnibus Stock Plan of WSB. (Incorporated by reference from WSB’s Registration Statement on Form S-4, filed October 23, 2007, file no.333-14687) .
10.2.2
- Amendment No. 1 to the 1997 Omnibus Stock Plan (Incorporated by reference from WSB’s Registration Statement on Form S-8, filed January 18, 2008, file no. 333-148753) .
10.4
- 2001 Stock Option and Incentive Plan. (Incorporated by reference from WSB’s Registration Statement on Form S-4, filed October 23, 2007, file no. 333-14687).
10.4.4
- Amendment No. 1 to the 2001 Stock Option and Incentive Plan (Incorporated by reference from WSB’s Registration Statement on Form S-8, filed January 18, 2008, file no. 333-148753) .
10.5
- Form of Stock Award Agreement for executive officers pursuant to 2001 Stock Option and Incentive Plan. (Incorporated by reference from WSB’s Registration Statement on Form S-4, filed October 23, 2007, file no. 333-14687) .
10.6
- Amended and Restated Employment Agreement dated June 11, 2010 by and among The Washington Savings Bank, F.S.B. and Phillip C. Bowman. (Incorporated by reference from WSB’s Form 10-Q, filed for the quarter ended June 30, 2010) .
10.7
- Form of Stock Option Agreement pursuant to the 1999 Stock Option and Incentive Plan (Incorporated by reference from WSB’s Registration Statement on Form S-4, filed October 23, 2007, file no. 333-14687) .
10.8
- Description of payments due certain officers upon a change-in-control (Incorporated by reference from WSB’s Form 10-K for the year ended December 31, 2008) .
10.9
- Description of compensation arrangement for William J. Harnett for service as Chairman of the Board (Incorporated by reference from WSB’s Form 10-K for the year ended December 31, 2008).
10.10
- WSB Holdings 2011 Equity Incentive Plan (Incorporated by reference from Appendix A to WSB’s Definitive Proxy Statement on Schedule A filed March 22, 2011) .
10.11
- Form of Restricted Stock Agreement under 2011 Equity Incentive Plan (Incorporated by reference to Exhibit 4.2 of the Registrant’s Current Report on Form 8-K filed with the Commission on June 16, 2011) .
10.12
- Form of Qualified Stock Option Agreement under 2011 Equity Incentive Plan (Incorporated by reference from WSB’s Form 8-K filed April 27, 2011) 
10.13
- Form of Non-Qualified Stock Option Agreement under 2011 Equity Incentive Plan (Incorporated by reference from WSB’s Form 8-K filed April 27, 2011) .
10.14
- Supervisory Agreement for WSB Holdings, Inc. dated June 3, 2011 (Incorporated by reference from WSB’s Form 10-Q for the quarter ended June 30, 2011).
10.15
- Supervisory Agreement for The Washington Savings Bank dated June 3, 3011 (Incorporated by reference from WSB’s Form 10-Q for the quarter ended June 30, 2011).
10.16
- Letter to Phillip C. Bowman outlining offer of at-will employment dated April 27, 2011 (Incorporated by reference from WSB’s Form 10-Q for the quarter ended March 31, 2011) .
- Subsidiaries of WSB Holdings, Inc. (filed herewith)
- Consent of Independent Registered Public Accounting Firm (filed herewith).
31.1
- Rule 13a-14(a)/15d - 14(a) Certifications of Chief Executive Officer (filed herewith).
31.2
- Rule 13a-14(a)/15d -14(a) Certifications of Chief Financial Officer (filed herewith).
32.1
- Section 1350 Certifications (furnished herewith).
Management compensatory arrangement.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacity and on the dates indicated.
March 21, 2012
/s/ Phillip C. Bowman
Phillip C. Bowman, Director
March 21, 2012
/s/ George Q. Conover
George Q. Conover, Director
March 21, 2012
/s/ Charles A. Dukes
Charles A. Dukes, Director
March 21, 2012
/s/ William J. Harnett
William J. Harnett, Director
March 21, 2012
/s/ Kevin P. Huffman
Kevin P. Huffman, Director
March 21, 2012
/s/ Eric S. Lodge
Eric S. Lodge, Director
March 21, 2012
/s/ Charles W. McPherson
Charles W. McPherson, Director
March 21, 2012
/s/ Michael J. Sullivan
Michael J. Sullivan, Director