lsbk 20180630 10Q





United States

Securities and Exchange Commission

Washington, D.C. 20549

FORM 10-Q

(Mark One)

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2018



TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission File No.:  000-51821





 

 

LAKE SHORE BANCORP, INC.

(Exact name of registrant as specified in its charter)



 

 

United States

 

20-4729288

(State or other jurisdiction of incorporation or organization)

 

(I.R.S. Employer Identification Number)



 

 

31 East Fourth Street, Dunkirk, New York

 

14048

(Address of principal executive offices)

 

(Zip code)



 

 

(716) 366-4070

(Registrant’s telephone number, including area code)



Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months,  and (2) has been subject to such filing requirements for the past 90 days.

Yes  [X]No  [ ]

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

Yes  [X]No  [ ]

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company.  See definition of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.





 

Large accelerated filer

Accelerated filer

Non-accelerated filer (Do not check if a smaller reporting company)

Smaller reporting company

Emerging growth company

 



If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. 



Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).



Yes  [  ]        No  [X]



Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practical date:



There were 6,055,519 shares of the registrant’s common stock, $0.01 par value per share, outstanding at August 8, 2018.



 


 







 

 

 



 

TABLE OF CONTENTS

 



 

 

 

ITEM

 

PART I

PAGE



 

 

 

1

FINANCIAL STATEMENTS

 



-

Consolidated Statements of Financial Condition as of June 30, 2018 (Unaudited) and December 31, 2017

1



-

Consolidated Statements of Income for the Three and Six Months Ended June 30, 2018 and 2017 (Unaudited)

2



-

Consolidated Statements of Comprehensive Income for the Three and Six Months Ended June 30, 2018 and 2017 (Unaudited)

3



-

Consolidated Statements of Stockholders’ Equity for the Six Months Ended June 30, 2018 and  2017 (Unaudited)

4



-

Consolidated Statements of Cash Flows for the Six Months Ended June 30, 2018 and  2017 (Unaudited)

5



-

Notes to Unaudited Consolidated Financial Statements

6

2

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

33

3

QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

51

4

CONTROLS AND PROCEDURES

51



 

 

 



 

PART II

 



 

 

 

1A

RISK FACTORS

51

2

UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

51

6

EXHIBITS 

52

SIGNATURES

 

 

52



 

 





 

 


 

PART I Financial Information

Item 1. Financial Statements

Lake Shore Bancorp, Inc. and Subsidiary











 

 

 

 

 

 

Consolidated Statements of Financial Condition

 

 

 

 

 

 



 

 

 

 

 

 



 

June 30,

 

December 31,



 

2018

 

2017



 

(Unaudited)



 

(Dollars in thousands, except share data)



 

 

 

 

 

 

Assets

 

 

 

 

 

 

Cash and due from banks

 

$

7,245 

 

$

7,709 

Interest earning deposits

 

 

829 

 

 

6,570 

Federal funds sold

 

 

35,049 

 

 

26,634 

Cash and Cash Equivalents

 

 

43,123 

 

 

40,913 

Securities available for sale

 

 

84,926 

 

 

80,421 

Federal Home Loan Bank stock, at cost

 

 

1,545 

 

 

1,631 

Loans receivable, net of allowance for loan losses 2018 $3,474;  2017 $3,283

 

 

382,319 

 

 

365,063 

Premises and equipment, net

 

 

9,368 

 

 

9,373 

Accrued interest receivable

 

 

1,828 

 

 

1,801 

Bank owned life insurance

 

 

18,247 

 

 

18,077 

Other assets

 

 

1,963 

 

 

1,698 

Total Assets

 

$

543,319 

 

$

518,977 

Liabilities and Stockholders' Equity

 

 

 

 

 

 

Liabilities

 

 

 

 

 

 

Deposits:

 

 

 

 

 

 

              Interest bearing

 

$

375,337 

 

$

350,535 

              Non-interest bearing

 

 

56,974 

 

 

54,618 

Total Deposits

 

 

432,311 

 

 

405,153 

Long-term debt

 

 

24,650 

 

 

26,950 

Advances from borrowers for taxes and insurance

 

 

3,028 

 

 

3,000 

Other liabilities

 

 

4,801 

 

 

5,499 

Total Liabilities

 

$

464,790 

 

$

440,602 

Stockholders' Equity

 

 

 

 

 

 

Common stock, $0.01 par value per share, 25,000,000 shares authorized; 6,827,741 shares issued and 6,059,714 shares outstanding at June 30, 2018 and 6,827,741 shares issued and 6,098,323 shares outstanding at December 31, 2017

 

$

68 

 

$

68 

Additional paid-in capital

 

 

30,819 

 

 

30,719 

Treasury stock, at cost (768,027 shares at June 30, 2018 and 729,418 shares at December 31, 2017)

 

 

(7,921)

 

 

(7,309)

Unearned shares held by ESOP

 

 

(1,492)

 

 

(1,535)

Unearned shares held by compensation plans

 

 

(353)

 

 

(540)

Retained earnings

 

 

57,509 

 

 

56,181 

Accumulated other comprehensive (loss) income

 

 

(101)

 

 

791 

Total Stockholders' Equity

 

 

78,529 

 

 

78,375 

Total Liabilities and Stockholders' Equity

 

$

543,319 

 

$

518,977 



 

 

 

 

 

 

See notes to consolidated financial statements.

 

 

 



 









1


 

Lake Shore Bancorp, Inc. and Subsidiary



 

 

 

 

 

 

 

 

 

 

 

 

Consolidated Statements of Income

 

 

 

 

 

 

 

 

 

 

 

 



 

Three Months Ended June 30,

 

Six Months Ended June 30,



 

2018

 

 

2017

 

2018

 

2017



(Unaudited)



(Dollars in thousands, except per share data)

Interest Income

 

 

 

 

 

 

 

 

 

 

 

 

   Loans, including fees

 

$

4,445 

 

$

4,105 

 

$

8,817 

 

$

8,167 

   Investment securities, taxable

 

 

256 

 

 

198 

 

 

486 

 

 

408 

   Investment securities, tax-exempt

 

 

397 

 

 

423 

 

 

790 

 

 

871 

   Other

 

 

169 

 

 

48 

 

 

282 

 

 

86 

         Total Interest Income

 

 

5,267 

 

 

4,774 

 

 

10,375 

 

 

9,532 

Interest Expense

 

 

 

 

 

 

 

 

 

 

 

 

   Deposits

 

 

701 

 

 

499 

 

 

1,318 

 

 

976 

   Long-term debt

 

 

140 

 

 

97 

 

 

279 

 

 

189 

   Other

 

 

19 

 

 

21 

 

 

39 

 

 

42 

         Total Interest Expense

 

 

860 

 

 

617 

 

 

1,636 

 

 

1,207 

         Net Interest Income

 

 

4,407 

 

 

4,157 

 

 

8,739 

 

 

8,325 

Provision for Loan Losses

 

 

115 

 

 

25 

 

 

190 

 

 

375 

         Net Interest Income after Provision for Loan Losses

 

 

4,292 

 

 

4,132 

 

 

8,549 

 

 

7,950 

Non-Interest Income

 

 

 

 

 

 

 

 

 

 

 

 

   Service charges and fees

 

 

463 

 

 

465 

 

 

914 

 

 

912 

   Earnings on bank owned life insurance

 

 

86 

 

 

90 

 

 

170 

 

 

177 

   Unrealized gain on equity securities

 

 

 

 

 -

 

 

14 

 

 

 -

   Recovery on previously impaired investment securities

 

 

68 

 

 

32 

 

 

90 

 

 

71 

   Gain on sale of securities available for sale

 

 

 -

 

 

197 

 

 

 -

 

 

222 

   Net gain on sale of loans

 

 

 

 

 

 

 

 

   Other

 

 

30 

 

 

21 

 

 

53 

 

 

46 

         Total Non-Interest Income

 

 

657 

 

 

807 

 

 

1,247 

 

 

1,437 

Non-Interest Expenses

 

 

 

 

 

 

 

 

 

 

 

 

   Salaries and employee benefits

 

 

2,034 

 

 

1,822 

 

 

4,099 

 

 

3,712 

   Occupancy and equipment

 

 

561 

 

 

565 

 

 

1,148 

 

 

1,175 

   Data processing

 

 

335 

 

 

310 

 

 

663 

 

 

617 

   Professional services

 

 

255 

 

 

245 

 

 

479 

 

 

472 

   Advertising

 

 

169 

 

 

145 

 

 

322 

 

 

312 

   Postage and supplies

 

 

54 

 

 

81 

 

 

118 

 

 

144 

   FDIC Insurance

 

 

36 

 

 

37 

 

 

74 

 

 

73 

   Other

 

 

338 

 

 

297 

 

 

637 

 

 

574 

         Total Non-Interest Expenses

 

 

3,782 

 

 

3,502 

 

 

7,540 

 

 

7,079 

         Income before Income Taxes

 

 

1,167 

 

 

1,437 

 

 

2,256 

 

 

2,308 

Income Tax Expense

 

 

161 

 

 

295 

 

 

314 

 

 

450 

         Net Income

 

$

1,006 

 

$

1,142 

 

$

1,942 

 

$

1,858 

Basic earnings per common share

 

$

0.17 

 

$

0.19 

 

$

0.32 

 

$

0.30 

Diluted earnings per common share

 

$

0.16 

 

$

0.19 

 

$

0.32 

 

$

0.30 

Dividends declared per share

 

$

0.10 

 

$

0.08 

 

$

0.20 

 

$

0.16 



 

 

 

 

 

 

 

 

 

 

 

 

See notes to consolidated financial statements.

 

 

 





















2


 

Lake Shore Bancorp, Inc. and Subsidiary

Consolidated Statements of Comprehensive Income









 

 

 

 

 

 

 



 

 

Three Months Ended June 30,



 

 

2018

 

2017



 

 

(Unaudited)



 

 

(Dollars in thousands)

Net Income

 

 

$

1,006 

 

 

1,142 

Other Comprehensive Loss, net of tax benefit:

 

 

 

 

 

 

 

Unrealized holding (losses) gains on securities available for sale, net of tax benefit (expense)

 

 

 

(297)

 

 

66 

Reclassification adjustments related to:

 

 

 

 

 

 

 

Recovery on  previously impaired investment securities included in net income, net of tax expense

 

 

 

(54)

 

 

(21)

Net gain on sale of securities included in net income, net of tax expense

 

 

 

 -

 

 

(130)

Total Other Comprehensive Loss

 

 

 

(351)

 

 

(85)

Total Comprehensive Income

 

 

$

655 

 

$

1,057 



 

 

 

 

 

 

 



 

 

 

 

 

 

 



 

 

Six Months Ended June 30,



 

 

2018

 

2017



 

 

(Unaudited)



 

 

(Dollars in thousands)

Net Income

 

 

$

1,942 

 

$

1,858 

Other Comprehensive Loss, net of tax benefit:

 

 

 

 

 

 

 

Unrealized holding (losses) gains on securities available for sale, net of tax benefit (expense)

 

 

 

(977)

 

 

26 

Reclassification adjustments related to:

 

 

 

 

 

 

 

Recovery on  previously impaired investment securities included in net income, net of tax expense

 

 

 

(71)

 

 

(47)

Net gain on sale of securities included in net income, net of tax expense

 

 

 

 -

 

 

(146)

Total Other Comprehensive Loss

 

 

 

(1,048)

 

 

(167)

Total Comprehensive Income

 

 

$

894 

 

$

1,691 



 

 

 

 

 

 

 

See notes to consolidated financial statements.

 

 

 

 





3


 

Lake Shore Bancorp, Inc. and Subsidiary

Consolidated Statements of Stockholders’ Equity

Six Months Ended June 30, 2018 and 2017 (Unaudited)







 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 



 

 

 

 

 

 

 

 

 

 

Unearned

 

Unearned Shares

 

 

 

 

Accumulated

 

 

 



 

 

 

 

Additional

 

 

 

 

Shares

 

Held by

 

 

 

 

Other

 

 

 



 

Common

 

Paid-In

 

Treasury

 

Held by

 

Compensation

 

Retained

 

Comprehensive

 

 

 



 

Stock

 

Capital

 

Stock

 

ESOP

 

Plans

 

Earnings

 

Income (Loss)

 

Total



 

(Dollars in thousands, except share and per share data)

Balance - January 1, 2017

 

$

68 

 

$

30,532 

 

$

(7,300)

 

$

(1,620)

 

$

(578)

 

$

53,546 

 

$

1,382 

 

$

76,030 

Net income

 

 

 -

 

 

 -

 

 

 -

 

 

 -

 

 

 -

 

 

1,858 

 

 

 -

 

 

1,858 

Other comprehensive loss, net of tax benefit of $86

 

 

 -

 

 

 -

 

 

 -

 

 

 -

 

 

 -

 

 

 -

 

 

(167)

 

 

(167)

ESOP shares earned (3,968 shares)

 

 

 -

 

 

20 

 

 

 -

 

 

43 

 

 

 -

 

 

 -

 

 

 -

 

 

63 

Stock based compensation

 

 

 -

 

 

22 

 

 

 -

 

 

 -

 

 

 -

 

 

 -

 

 

 -

 

 

22 

Compensation plan shares granted (27,348 shares)

 

 

 -

 

 

 -

 

 

270 

 

 

 -

 

 

(270)

 

 

 -

 

 

 -

 

 

 -

Compensation plan shares forfeited (200 shares)

 

 

 -

 

 

 -

 

 

(2)

 

 

 -

 

 

 

 

 -

 

 

 -

 

 

 -

Compensation plan shares earned (13,321 shares)

 

 

 -

 

 

45 

 

 

 -

 

 

 -

 

 

142 

 

 

 -

 

 

 -

 

 

187 

Purchase of treasury stock, at cost (13,500 shares)

 

 

 -

 

 

 -

 

 

(212)

 

 

 -

 

 

 -

 

 

 -

 

 

 -

 

 

(212)

Cash dividends declared ($0.16 per share)

 

 

 -

 

 

 -

 

 

 -

 

 

 -

 

 

 -

 

 

(373)

 

 

 -

 

 

(373)

Balance - June 30, 2017

 

$

68 

 

$

30,619 

 

$

(7,244)

 

$

(1,577)

 

$

(704)

 

$

55,031 

 

$

1,215 

 

$

77,408 



 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance - January 1, 2018

 

$

68 

 

$

30,719 

 

$

(7,309)

 

$

(1,535)

 

$

(540)

 

$

56,181 

 

$

791 

 

$

78,375 

Net income

 

 

 -

 

 

 -

 

 

 -

 

 

 -

 

 

 -

 

 

1,942 

 

 

 -

 

 

1,942 

Other comprehensive loss, net of tax benefit of $278

 

 

 -

 

 

 -

 

 

 -

 

 

 -

 

 

 -

 

 

 -

 

 

(1,048)

 

 

(1,048)

Reclassification of the Income Tax Effects of the Tax Cuts and Jobs Act from AOCI

 

 

 -

 

 

 -

 

 

 -

 

 

 -

 

 

 -

 

 

(156)

 

 

156 

 

 

 -

ESOP shares earned (3,968 shares)

 

 

 -

 

 

24 

 

 

 -

 

 

43 

 

 

 -

 

 

 -

 

 

 -

 

 

67 

Stock based compensation

 

 

 -

 

 

22 

 

 

 -

 

 

 -

 

 

 -

 

 

 -

 

 

 -

 

 

22 

Compensation plan shares granted (5,329 shares)

 

 

 -

 

 

 -

 

 

51 

 

 

 -

 

 

(51)

 

 

 -

 

 

 -

 

 

 -

Compensation plan shares forfeited (9,638 shares)

 

 

 -

 

 

 -

 

 

(91)

 

 

 -

 

 

91 

 

 

 -

 

 

 -

 

 

 -

Compensation plan shares earned (13,942 shares)

 

 

 -

 

 

54 

 

 

 -

 

 

 -

 

 

147 

 

 

 -

 

 

 -

 

 

201 

Purchase of treasury stock, at cost (34,300 shares)

 

 

 -

 

 

 -

 

 

(572)

 

 

 -

 

 

 -

 

 

 -

 

 

 -

 

 

(572)

Cash dividends declared ($0.20 per share)

 

 

 -

 

 

 -

 

 

 -

 

 

 -

 

 

 -

 

 

(458)

 

 

 -

 

 

(458)

Balance - June 30, 2018

 

$

68 

 

$

30,819 

 

$

(7,921)

 

$

(1,492)

 

$

(353)

 

$

57,509 

 

$

(101)

 

$

78,529 



 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

See notes to consolidated financial statements.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 































4


 

Lake Shore Bancorp, Inc. and Subsidiary

Consolidated Statements of Cash Flows



 

 

 

 

 

 



 

Six Months Ended June 30,



 

2018

 

2017



 

(Unaudited)



 

(Dollars in thousands)

CASH FLOWS FROM OPERATING ACTIVITIES

 

 

 

 

 

 

Net income

 

$

1,942 

 

$

1,858 

Adjustments to reconcile net income to net cash provided by operating activities:

 

 

 

 

 

 

Net amortization of investment securities

 

 

46 

 

 

61 

Net amortization of deferred loan costs

 

 

277 

 

 

287 

Provision for loan losses

 

 

190 

 

 

375 

Recovery on previously impaired investment securities

 

 

(90)

 

 

(71)

Unrealized gain on equity securities

 

 

(14)

 

 

 -

Gain on sale of investment securities

 

 

 -

 

 

(222)

Originations of loans held for sale

 

 

(434)

 

 

(672)

Proceeds from sales of loans held for sale

 

 

440 

 

 

681 

Gain on sale of loans

 

 

(6)

 

 

(9)

Depreciation and amortization

 

 

384 

 

 

441 

Increase in bank owned life insurance, net

 

 

(170)

 

 

(177)

ESOP shares committed to be released

 

 

67 

 

 

63 

Stock based compensation expense

 

 

223 

 

 

209 

Increase in accrued interest receivable

 

 

(27)

 

 

(31)

Decrease in other assets

 

 

95 

 

 

105 

Decrease in other liabilities

 

 

(698)

 

 

(279)

Net Cash Provided by Operating Activities

 

 

2,225 

 

 

2,619 

CASH FLOWS FROM INVESTING ACTIVITIES

 

 

 

 

 

 

Activity in available for sale securities:

 

 

 

 

 

 

Sales

 

 

 -

 

 

5,445 

Maturities, prepayments and calls

 

 

4,299 

 

 

6,764 

Purchases

 

 

(10,072)

 

 

(1,714)

Purchases of Federal Home Loan Bank Stock

 

 

(20)

 

 

(375)

Redemptions of Federal Home Loan Bank Stock

 

 

106 

 

 

 -

Loan origination and principal collections, net

 

 

(17,805)

 

 

(38,347)

Additions to premises and equipment

 

 

(379)

 

 

(967)

Net Cash Used in Investing Activities

 

 

(23,871)

 

 

(29,194)

CASH FLOWS FROM FINANCING ACTIVITIES

 

 

 

 

 

 

Net increase in deposits

 

 

27,158 

 

 

6,787 

Net increase (decrease) in advances from borrowers for taxes and insurance

 

 

28 

 

 

(138)

Proceeds from issuance of long-term debt

 

 

1,500 

 

 

9,700 

Repayment of long-term debt

 

 

(3,800)

 

 

(1,700)

Purchase of treasury stock

 

 

(572)

 

 

(212)

Cash dividends paid

 

 

(458)

 

 

(373)

Net Cash Provided by Financing Activities

 

 

23,856 

 

 

14,064 

Net  Increase (Decrease) in Cash and Cash Equivalents

 

 

2,210 

 

 

(12,511)

CASH AND CASH EQUIVALENTS - BEGINNING

 

 

40,913 

 

 

45,479 

CASH AND CASH EQUIVALENTS - ENDING

 

$

43,123 

 

$

32,968 

SUPPLEMENTARY CASH FLOWS INFORMATION

 

 

 

 

 

 

Interest paid

 

$

1,619 

 

$

1,202 

Income taxes paid

 

$

277 

 

$

440 



 

 

 

 

 

 

SUPPLEMENTARY SCHEDULE OF NONCASH INVESTING ACTIVITIES

 

 

 

 

 

 

Securities purchased and not settled

 

$

82 

 

$

45 



 

 

 

 

 

 

See notes to consolidated financial statements.

 

 

 

5


 



Lake Shore Bancorp, Inc. and Subsidiary

Notes to Consolidated Financial Statements (Unaudited)



Note 1 – Basis of Presentation



The interim consolidated financial statements include the accounts of Lake Shore Bancorp, Inc. (the “Company”, “us”, “our”, or “we”) and Lake Shore Savings Bank (the “Bank”), its wholly owned subsidiary.  All intercompany accounts and transactions of the consolidated subsidiary have been eliminated in consolidation.



The interim consolidated financial statements included herein as of June 30, 2018 and for the three and six months ended June 30, 2018 and 2017 have been prepared by the Company, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission, and therefore, do not include all information or footnotes necessary for a complete presentation of the consolidated statements of financial condition, results of operations and cash flows in conformity with accounting principles generally accepted in the United States of America (“GAAP”).  The consolidated statement of financial condition at December 31, 2017 has been derived from the audited consolidated financial statements at that date, but does not include all of the information and footnotes required by GAAP for complete consolidated financial statements.  The consolidated financial statements reflect all adjustments that are, in the opinion of management, necessary for a fair statement of such information and to make the financial statements not misleading.  These interim consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the audited consolidated financial statements included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2017.  The consolidated statements of income for the three and six months ended June 30, 2018 are not necessarily indicative of the results for any subsequent period or the entire year ending December 31, 2018.



To prepare these consolidated financial statements in conformity with GAAP, management of the Company made a number of estimates and assumptions relating to the reporting of assets and liabilities and the reporting of revenue and expenses.  Actual results could differ from those estimates.  Material estimates that are particularly susceptible to significant change in the near term relate to the determination of the allowance for loan losses, securities valuation estimates, evaluation of impairment of securities and income taxes.



The Company has evaluated events and transactions occurring subsequent to the statement of financial condition as of June 30, 2018 for items that should potentially be recognized or disclosed in these consolidated financial statements.  The evaluation was conducted through the date these consolidated financial statements were issued.



Note 2 – New Accounting Standards



The Company adopted FASB ASU 2018-02, “Income Statement – Reporting Comprehensive Income (Topic 220):  Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income” (ASU 2018-02) on January 1, 2018.  ASU 2018-02 was issued to address the income tax accounting treatment of the stranded tax effects within other comprehensive income.  This issue came about from the enactment of the Tax Cuts and Jobs Act (the “Tax Act”) on December 22, 2017 that changed the Company’s tax rate from 34% to 21%.  ASU 2018-02 allows an entity to elect a reclassification from accumulated other comprehensive income (“AOCI”) to retained earnings for stranded tax effects resulting from the Tax Act.  The amount of that reclassification should include the effect of tax rate changes on the deferred tax amount, any related valuation allowance and other income tax effects on the items in AOCI. Upon adoption of ASU 2018-02, the Company reclassified the income tax effect of the Tax Act from AOCI to retained earnings. The reclassification increased AOCI and decreased retained earnings by $156,000, with zero net effect on total shareholders’ equity. The Company uses the individual security approach for all available for sale securities when releasing income tax effects remaining in AOCI.



6


 

Note 3 – Investment Securities

Debt Securities



The amortized cost and fair value of securities are as follows:



 

 

 

 

 

 

 

 

 

 

 

 



 

June 30, 2018



 

 

 

 

Gross

 

Gross

 

 

 



 

Amortized

 

Unrealized

 

Unrealized

 

Fair



 

Cost

 

Gains

 

Losses

 

Value



 

 

(Dollars in thousands)

SECURITIES AVAILABLE FOR SALE:

 

 

 

 

 

 

 

 

 

 

 

 

Debt Securities

 

 

 

 

 

 

 

 

 

 

 

 

U.S. Government Agencies

 

$

2,012 

 

$

 -

 

$

(94)

 

$

1,918 

Municipal bonds

 

 

45,427 

 

 

736 

 

 

(116)

 

 

46,047 

Mortgage-backed securities:

 

 

 

 

 

 

 

 

 

 

 

 

Collateralized mortgage obligations-private label

 

 

28 

 

 

 -

 

 

 -

 

 

28 

Collateralized mortgage obligations-government sponsored entities

 

 

33,315 

 

 

13 

 

 

(984)

 

 

32,344 

Government National Mortgage Association

 

 

204 

 

 

 

 

 -

 

 

212 

Federal National Mortgage Association

 

 

2,596 

 

 

46 

 

 

(28)

 

 

2,614 

Federal Home Loan Mortgage Corporation

 

 

1,386 

 

 

14 

 

 

(21)

 

 

1,379 

Asset-backed securities-private label

 

 

 -

 

 

296 

 

 

 -

 

 

296 

Asset-backed securities-government sponsored entities

 

 

50 

 

 

 

 

 -

 

 

52 

Total Debt Securities

 

$

85,018 

 

$

1,115 

 

$

(1,243)

 

$

84,890 

Equity Securities

 

 

22 

 

 

14 

 

 

 -

 

 

36 

Total Securities Available for Sale

 

$

85,040 

 

$

1,129 

 

$

(1,243)

 

$

84,926 





7


 



 

 

 

 

 

 

 

 

 

 

 

 



 

December 31, 2017



 

 

 

 

Gross

 

Gross

 

 

 



 

Amortized

 

Unrealized

 

Unrealized

 

Fair



 

Cost

 

Gains

 

Losses

 

Value



 

 

(Dollars in thousands)

SECURITIES AVAILABLE FOR SALE:

 

 

 

 

 

 

 

 

 

 

 

 

Debt Securities

 

 

 

 

 

 

 

 

 

 

 

 

U.S. Government Agencies

 

$

2,013 

 

$

 -

 

$

(26)

 

$

1,987 

Municipal bonds

 

 

44,256 

 

 

1,312 

 

 

(6)

 

 

45,562 

Mortgage-backed securities:

 

 

 

 

 

 

 

 

 

 

 

 

Collateralized mortgage obligations-private label

 

 

30 

 

 

 -

 

 

 -

 

 

30 

Collateralized mortgage obligations-government sponsored entities

 

 

28,195 

 

 

28 

 

 

(569)

 

 

27,654 

Government National Mortgage Association

 

 

229 

 

 

16 

 

 

 -

 

 

245 

Federal National Mortgage Association

 

 

2,834 

 

 

95 

 

 

 -

 

 

2,929 

Federal Home Loan Mortgage Corporation

 

 

1,518 

 

 

35 

 

 

 -

 

 

1,553 

Asset-backed securities-private label

 

 

69 

 

 

276 

 

 

(1)

 

 

344 

Asset-backed securities-government sponsored entities

 

 

57 

 

 

 

 

 -

 

 

60 

Total Debt Securities

 

$

79,201 

 

$

1,765 

 

$

(602)

 

$

80,364 

Equity Securities

 

 

22 

 

 

35 

 

 

 -

 

 

57 

Total Securities Available for Sale

 

$

79,223 

 

$

1,800 

 

$

(602)

 

$

80,421 



Debt Securities

All of our collateralized mortgage obligations are backed by one- to four-family residential mortgages.

At June 30, 2018, thirty-two municipal bonds with a cost of $11.0 million and fair value of $11.2 million were pledged under a collateral agreement with the Federal Reserve Bank (“FRB”) of New York for liquidity borrowing. At December 31, 2017, thirty-three municipal bonds with a cost of $11.3 million and fair value of $11.7 million were pledged with the FRB. In addition, at June 30, 2018, twenty-two municipal bonds with a cost and fair value of $5.6 million were pledged as collateral for customer deposits in excess of the Federal Deposit Insurance Corporation (“FDIC”) insurance limits. At December 31, 2017, twenty municipal bonds with a cost of $5.1 million and fair value of $5.3 million were pledged as collateral for customer deposits in excess of the FDIC insurance limits.            

8


 

The following table sets forth the Company’s investment in debt securities available for sale with gross unrealized losses of less than twelve months and gross unrealized losses of twelve months or more and associated fair values as of the dates indicated:



 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 



 

Less than 12 months

 

12 months or more

 

Total



 

 

 

 

Gross

 

 

 

 

Gross

 

 

 

 

Gross



 

 

 

 

Unrealized

 

 

 

 

Unrealized

 

 

 

 

Unrealized



 

Fair Value

 

Losses

 

Fair Value

 

Losses

 

Fair Value

 

Losses



 

(Dollars in thousands)

June 30, 2018

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. Government Agencies

 

$

1,918 

 

$

(94)

 

$

 -

 

$

 -

 

$

1,918 

 

$

(94)

Municipal bonds

 

 

4,597 

 

 

(112)

 

 

561 

 

 

(4)

 

 

5,158 

 

 

(116)

Mortgage-backed securities

 

 

14,508 

 

 

(275)

 

 

15,881 

 

 

(758)

 

 

30,389 

 

 

(1,033)



 

$

21,023 

 

$

(481)

 

$

16,442 

 

$

(762)

 

$

37,465 

 

$

(1,243)











 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

December 31, 2017

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. Government Agencies

 

$

1,987 

 

$

(26)

 

$

 -

 

$

 -

 

$

1,987 

 

$

(26)

Municipal bonds

 

 

491 

 

 

(6)

 

 

 -

 

 

 -

 

 

491 

 

 

(6)

Mortgage-backed securities

 

 

7,547 

 

 

(57)

 

 

17,602 

 

 

(512)

 

 

25,149 

 

 

(569)

Asset-backed securities -private label

 

 

68 

 

 

(1)

 

 

 -

 

 

 -

 

 

68 

 

 

(1)



 

$

10,093 

 

$

(90)

 

$

17,602 

 

$

(512)

 

$

27,695 

 

$

(602)



The Company reviews all investment securities on an ongoing basis for the presence of other-than-temporary impairment (“OTTI”) with formal reviews performed quarterly. 



At June 30, 2018, the Company’s investment portfolio included several debt securities in the “unrealized losses less than twelve months” category. The debt securities were not evaluated further for OTTI as the unrealized losses on the individual debt securities were less than 20% of book value, which management deemed to be immaterial, the securities were issued by government sponsored enterprises and management has the intent and ability to hold these securities.



At June 30, 2018, the Company had several debt securities in the “unrealized losses twelve months or more” category. These securities were not evaluated further for OTTI, as the unrealized losses were less than 20% of book value and management has the intent and ability to hold these securities until unrealized losses have recovered. Management believes the temporary impairments were due to declines in fair value resulting from changes in interest rates and/or increased credit liquidity spreads since the securities were purchased.

Management completed an OTTI analysis for three private label asset-backed securities, which did not have unrealized losses as of June 30, 2018.  Management concluded that there was a limited risk of principal losses for these securities and that additional OTTI charges were not required as of June 30, 2018 on these securities.  

The unrealized losses on debt securities shown in the previous tables were recorded as a component of other comprehensive loss, net of tax benefit on the Company’s Consolidated Statements of Stockholders’ Equity.

9


 

The following table presents a summary of the credit-related OTTI charges recognized as components of income:



 

 

 

 

 

 



 

For The Six Months Ended June 30,



 

2018

 

2017



 

(Dollars in thousands)

Beginning balance

 

$

435 

 

$

554 

Additions:

 

 

 

 

 

 

Credit loss not previously recognized

 

 

 -

 

 

 -

Reductions:

 

 

 

 

 

 

Losses realized during the period on OTTI previously recognized

 

 

 -

 

 

 -

Receipt of cash flows on previously recorded OTTI

 

 

(48)

 

 

(71)

Ending balance

 

$

387 

 

$

483 



A deterioration in credit quality and/or other factors that may limit the liquidity of a security in our portfolio might adversely affect the fair values of the Company’s investment portfolio and may increase the potential that certain unrealized losses will be designated as “other-than-temporary” and that the Company may incur additional write-downs in future periods.



During the six months ended June 30, 2018, the Company did not sell any available for sale debt securities. During the six months ended June 30, 2017, the Company sold fourteen municipal bonds for total proceeds of $5.4 million resulting in gross realized gains of $222,000.



Equity Securities



At June 30, 2018 and December 31, 2017, available for sale equity securities consisted of 22,368 shares of Federal Home Loan Mortgage Corporation (“FHLMC”) common stock. During the six months ended June 30, 2018, the Company recognized an unrealized gain of $14,000 on the equity securities, which was recorded in noninterest income in the consolidated statements of income. There were no sales of equity securities during the six months ended June 30, 2018.



Scheduled contractual maturities of available for sale securities are as follows:





 

 

 

 

 

 



 

Amortized

 

Fair



 

Cost

 

Value



 

(Dollars in thousands)

June 30, 2018:

 

 

 

 

 

 

After one year through five years

 

$

5,473 

 

$

5,608 

After five years through ten years

 

 

22,871 

 

 

23,273 

After ten years

 

 

19,095 

 

 

19,084 

Mortgage-backed securities

 

 

37,529 

 

 

36,577 

Asset-backed securities

 

 

50 

 

 

348 

Equity securities

 

 

22 

 

 

36 



 

$

85,040 

 

$

84,926 

               

Note 4 - Allowance for Loan Losses



Management segregates the loan portfolio into loan types and analyzes the risk level for each loan type when determining its allowance for loan losses.  The loan types are as follows:



Real Estate Loans:

·

One- to Four-Family – are loans secured by first lien collateral on residential real estate primarily held in the Western New York region.  These loans can be affected by economic conditions and the value of underlying properties.  Western New York’s housing market has consistently demonstrated

10


 

stability in home prices despite economic conditions. Furthermore, the Company has conservative underwriting standards and its residential lending policies and procedures ensure that its one- to four-family residential mortgage loans generally conform to secondary market guidelines.  

·

Home Equity - are loans or lines of credit secured by first or second liens on owner-occupied residential real estate primarily held in the Western New York region.  These loans can also be affected by economic conditions and the values of underlying properties. Home equity loans may have increased risk of loss if the Company does not hold the first mortgage resulting in the Company being in a secondary position in the event of collateral liquidation.  The Company does not originate interest only home equity loans.  

·

Commercial Real Estate – are loans used to finance the purchase of real property, which generally consists of developed real estate that is held as first lien collateral for the loan.  These loans are secured by real estate properties that are primarily held in the Western New York region.  Commercial real estate lending involves additional risks compared with one- to four-family residential lending, because payments on loans secured by commercial real estate properties are often dependent on the successful operation or management of the properties, and/or the collateral value of the commercial real estate securing the loan, and repayment of such loans may be subject to adverse conditions in the real estate market or economic conditions to a greater extent than one- to four-family residential mortgage loans.  Also, commercial real estate loans typically involve relatively large loan balances concentrated with single borrowers or groups of related borrowers.

·

Construction – are loans to finance the construction of either one- to four-family owner occupied homes or commercial real estate.  At the end of the construction period, the loan automatically converts to either a one- to four-family or commercial mortgage, as applicable.  Risk of loss on a construction loan depends largely upon the accuracy of the initial estimate of the value of the property at completion compared to the actual cost of construction. The Company limits its risk during construction as disbursements are not made until the required work for each advance has been completed and an updated lien search is performed.  The completion of the construction progress is verified by a Company loan officer or inspections performed by an independent appraisal firm.  Construction loans also expose us to the risk of construction delays which may impair the borrower’s ability to repay the loan.



Other Loans:

·

Commercial – includes business installment loans, lines of credit, and other commercial loans.  Most of our commercial loans have fixed interest rates, and are for terms generally not in excess of 5 years.  Whenever possible, we collateralize these loans with a lien on business assets and equipment and require the personal guarantees from principals of the borrower.  Commercial loans generally involve a higher degree of credit risk because the collateral underlying the loans may be in the form of intangible assets and/or inventory subject to market obsolescence.  Commercial loans can also involve relatively large loan balances to a single borrower or groups of related borrowers, with the repayment of such loans typically dependent on the successful operation of the commercial business and the income stream of the borrower.  Such risks can be significantly affected by economic conditions.  Although commercial loans may be collateralized by equipment or other business assets, the liquidation of collateral in the event of a borrower default may be an insufficient source of repayment because the equipment or other business assets may be obsolete or of limited use, among other things. Accordingly, the repayment of a commercial loan depends primarily on the credit worthiness of the borrowers (and any guarantors), while liquidation of collateral is a secondary and often insufficient source of repayment.

·

Consumer – consist of loans secured by collateral such as an automobile or a deposit account, unsecured loans and lines of credit.  Consumer loans tend to have a higher credit risk due to the loans being either unsecured or secured by rapidly depreciable assets.  Furthermore, consumer loan payments are dependent on the borrower’s continuing financial stability, and therefore are more likely to be adversely affected by job loss, divorce, illness or personal bankruptcy.



The allowance for loan losses is a valuation account that reflects the Company’s evaluation of the losses inherent in its loan portfolio. In order to determine the adequacy of the allowance for loan losses, the Company estimates losses by loan type using historical loss factors, as well as other environmental factors, such as trends in loan volume and loan type, loan concentrations, changes in the experience, ability and depth

11


 

of the Company’s lending management, and national and local economic conditions. The Company's determination as to the classification of loans and the amount of loss allowances are subject to review by bank regulators, which can require the establishment of additional loss allowances.



The Company also reviews all loans on which the collectability of principal may not be reasonably assured, by reviewing payment status, financial conditions and estimated value of loan collateral. These loans are assigned an internal loan grade, and the Company assigns an amount of loss allowances to these classified loans based on loan grade.



The following tables summarize the activity in the allowance for loan losses for the three and six months ended June 30, 2018 and 2017 and the distribution of the allowance for loan losses and loans receivable by loan portfolio class and impairment method as of June 30, 2018 and December 31, 2017:







 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 



 

Real Estate Loans

 

Other Loans

 

 

 

 

 

 



 

One- to Four-Family(2)

 

Home Equity

 

Commercial

 

Construction - Commercial

 

Commercial

 

Consumer

 

Unallocated

 

Total



 

(Dollars in thousands)

June 30, 2018

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Allowance for Loan Losses:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance – April 1, 2018

 

$

476 

 

$

128 

 

$

1,705 

 

$

350 

 

$

630 

 

$

30 

 

$

48 

 

$

3,367 

  Charge-offs

 

 

 -

 

 

 -

 

 

 -

 

 

 -

 

 

 -

 

 

(11)

 

 

 -

 

 

(11)

  Recoveries

 

 

 -

 

 

 

 

 -

 

 

 -

 

 

 

 

 

 

 -

 

 

  Provision (Credit)

 

 

(36)

 

 

(43)

 

 

182 

 

 

(21)

 

 

27 

 

 

10 

 

 

(4)

 

 

115 

Balance – June 30, 2018

 

$

440 

 

$

86 

 

$

1,887 

 

$

329 

 

$

658 

 

$

30 

 

$

44 

 

$

3,474 



 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance – January 1, 2018

 

$

511 

 

$

122 

 

$

1,663 

 

$

347 

 

$

544 

 

$

35 

 

$

61 

 

$

3,283 

  Charge-offs

 

 

 -

 

 

 -

 

 

 -

 

 

 -

 

 

 -

 

 

(23)

 

 

 -

 

 

(23)

  Recoveries

 

 

18 

 

 

 

 

 -

 

 

 -

 

 

 

 

 

 

 -

 

 

24 

  Provision (Credit)

 

 

(89)

 

 

(37)

 

 

224 

 

 

(18)

 

 

113 

 

 

14 

 

 

(17)

 

 

190 

Balance – June 30, 2018

 

$

440 

 

$

86 

 

$

1,887 

 

$

329 

 

$

658 

 

$

30 

 

$

44 

 

$

3,474 

Ending balance: individually evaluated for impairment

 

$

 -

 

$

 -

 

$

90 

 

$

 -

 

$

 -

 

$

 -

 

$

 -

 

$

90 

Ending balance: collectively evaluated for impairment

 

$

440 

 

$

86 

 

$

1,797 

 

$

329 

 

$

658 

 

$

30 

 

$

44 

 

$

3,384 



 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross Loans Receivable (1):

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending balance

 

$

145,415 

 

$

39,957 

 

$

136,902 

 

$

29,248 

 

$

29,713 

 

$

1,365 

 

$

 -

 

$

382,600 

Ending balance: individually evaluated for impairment

 

$

181 

 

$

19 

 

$

2,111 

 

$

 -

 

$

61 

 

$

 -

 

$

 -

 

$

2,372 

Ending balance: collectively evaluated for impairment

 

$

145,234 

 

$

39,938 

 

$

134,791 

 

$

29,248 

 

$

29,652 

 

$

1,365 

 

$

 -

 

$

380,228 



(1)

Gross Loans Receivable does not include allowance for loan losses of $(3,474) or deferred loan costs of $3,193.

(2)

Includes one- to four-family construction loans.



12


 





 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 



 

Real Estate Loans

 

Other Loans

 

 

 

 

 

 



 

One- to Four-Family(1)

 

Home Equity

 

Commercial

 

Construction - Commercial

 

Commercial

 

Consumer

 

Unallocated

 

Total



 

(Dollars in thousands)

June 30, 2017

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Allowance for Loan Losses:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance – April 1, 2017

 

$

462 

 

$

117 

 

$

1,968 

 

$

191 

 

$

381 

 

$

21 

 

$

58 

 

$

3,198 

  Charge-offs

 

 

 -

 

 

(3)

 

 

 -

 

 

 -

 

 

 -

 

 

(6)

 

 

 -

 

 

(9)

  Recoveries

 

 

 -

 

 

 

 

 -

 

 

 -

 

 

 -

 

 

 

 

 -

 

 

  Provision (Credit)

 

 

 

 

 

 

(80)

 

 

111 

 

 

(50)

 

 

11 

 

 

17 

 

 

25 

Balance – June 30, 2017

 

$

471 

 

$

124 

 

$

1,888 

 

$

302 

 

$

331 

 

$

32 

 

$

75 

 

$

3,223 



 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance – January 1, 2017

 

$

432 

 

$

114 

 

$

1,803 

 

$

149 

 

$

338 

 

$

28 

 

$

18 

 

$

2,882 

  Charge-offs

 

 

 -

 

 

(3)

 

 

 -

 

 

 -

 

 

(18)

 

 

(28)

 

 

 -

 

 

(49)

  Recoveries

 

 

 

 

 

 

 -

 

 

 -

 

 

 

 

10 

 

 

 -

 

 

15 

  Provision (Credit)

 

 

38 

 

 

10 

 

 

85 

 

 

153 

 

 

10 

 

 

22 

 

 

57 

 

 

375 

Balance – June 30, 2017

 

$

471 

 

$

124 

 

$

1,888 

 

$

302 

 

$

331 

 

$

32 

 

$

75 

 

$

3,223 



(1)

Includes one– to four- family construction loans.







 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 



 

Real Estate Loans

 

 

Other Loans

 

 

 

 

 

 



 

One- to Four-Family(2)

 

Home Equity

 

Commercial

 

Construction - Commercial

 

Commercial

 

Consumer

 

Unallocated

 

Total



 

(Dollars in thousands)



 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

December 31, 2017

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Allowance for Loan Losses:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance – December 31, 2017

 

$

511 

 

$

122 

 

$

1,663 

 

$

347 

 

$

544 

 

$

35 

 

$

61 

 

$

3,283 

Ending balance: individually evaluated for impairment

 

$

 -

 

$

 -

 

$

 -

 

$

 -

 

$

 -

 

$

 -

 

$

 -

 

$

 -

Ending balance: collectively evaluated for impairment

 

$

511 

 

$

122 

 

$

1,663 

 

$

347 

 

$

544 

 

$

35 

 

$

61 

 

$

3,283 



 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross Loans Receivable (1):

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending Balance

 

$

144,614 

 

$

38,078 

 

$

122,747 

 

$

30,802 

 

$

27,612 

 

$

1,355 

 

$

 -

 

$

365,208 

Ending balance: individually evaluated for impairment

 

$

184 

 

$

21 

 

$

1,498 

 

$

 -

 

$

54 

 

$

 -

 

$

 -

 

$

1,757 

Ending balance: collectively evaluated for impairment

 

$

144,430 

 

$

38,057 

 

$

121,249 

 

$

30,802 

 

$

27,558 

 

$

1,355 

 

$

 -

 

$

363,451 



(1)

Gross Loans Receivable does not include allowance for loan losses of $(3,283) or deferred loan costs of $3,138.

(2)

Includes one– to four- family construction loans.



Although the allocations noted above are by loan type, the allowance for loan losses is general in nature and is available to offset losses from any loan in the Company’s portfolio. The unallocated component of the

13


 

allowance for loan losses reflects the margin of imprecision inherent in the underlying assumptions used in the methodologies for existing specific and general losses in the portfolio.



A loan is considered impaired when, based on current information and events, it is probable that the Company will not be able to collect the scheduled payments of principal and interest when due according to the contractual terms of the loan agreement. Factors considered in determining impairment include payment status, collateral value and the probability of collecting scheduled payments when due. Impairment is measured on a loan-by-loan basis for commercial real estate loans and commercial loans. Larger groups of smaller balance homogeneous loans are collectively evaluated for impairment. Accordingly, the Company does not separately identify individual consumer, home equity, or one- to four-family loans for impairment disclosure, unless they are subject to a troubled debt restructuring. 



The following is a summary of information pertaining to impaired loans at or for the periods indicated:



 

 

 

 

 

 

 

 

 

 

 

 

 

 

 



 

 

 

 

Unpaid

 

 

 

 

Average

 

Interest



 

Recorded

 

Principal

 

Related

 

Recorded

 

Income



 

Investment

 

Balance

 

Allowance

 

Investment

 

Recognized



 

 

 

 

 

 

 

 

 

 

For the Six Months Ended



 

At June 30, 2018

 

June 30, 2018



 

(Dollars in thousands)

With no related allowance recorded:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Residential, one- to four-family

 

$

181 

 

$

181 

 

$

 -

 

$

182 

 

$

Home equity

 

 

19 

 

 

19 

 

 

 -

 

 

20 

 

 

 -

Commercial real estate

 

 

411 

 

 

411 

 

 

 -

 

 

414 

 

 

Commercial loans

 

 

61 

 

 

61 

 

 

 -

 

 

80 

 

 

Total impaired loans with no related allowance

 

 

672 

 

 

672 

 

 

 -

 

 

696 

 

 

12 



 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

With an allowance recorded:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial real estate

 

 

1,700 

 

 

1,700 

 

 

90 

 

 

1,618 

 

 

Total impaired loans with an allowance

 

 

1,700 

 

 

1,700 

 

 

90 

 

 

1,618 

 

 



 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total of impaired loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Residential, one- to four-family

 

 

181 

 

 

181 

 

 

 -

 

 

182 

 

 

Home equity

 

 

19 

 

 

19 

 

 

 -

 

 

20 

 

 

 -

Commercial real estate

 

 

2,111 

 

 

2,111 

 

 

90 

 

 

2,032 

 

 

13 

Commercial loans

 

 

61 

 

 

61 

 

 

 -

 

 

80 

 

 

Total impaired loans

 

$

2,372 

 

$

2,372 

 

$

90 

 

$

2,314 

 

$

21 







































 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

14


 



 

 

 

 

Unpaid

 

 

 

 

Average

 

Interest



 

Recorded

 

Principal

 

Related

 

Recorded

 

Income



 

Investment

 

Balance

 

Allowance

 

Investment

 

Recognized



 

 

 

 

 

 

 

 

 

 

For the Year Ended



 

At December 31, 2017

 

December 31, 2017



 

(Dollars in thousands)

With no related allowance recorded:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Residential, one- to four-family

 

$

184 

 

$

184 

 

$

 -

 

$

197 

 

$

15 

Home equity

 

 

21 

 

 

21 

 

 

 -

 

 

21 

 

 

 -

Commercial real estate

 

 

1,498 

 

 

1,498 

 

 

 -

 

 

1,674 

 

 

222 

Commercial loans

 

 

54 

 

 

54 

 

 

 -

 

 

54 

 

 

 -

Total impaired loans with no related allowance

 

 

1,757 

 

 

1,757 

 

 

 -

 

 

1,946 

 

 

237 



 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

With an allowance recorded:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial real estate(1)

 

 

 -

 

 

 -

 

 

 -

 

 

230 

 

 

 -

Commercial loans(2)

 

 

 -

 

 

 -

 

 

 -

 

 

50 

 

 

Total impaired loans with an allowance

 

 

 -

 

 

 -

 

 

 -

 

 

280 

 

 



 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total of impaired loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Residential, one- to four-family

 

 

184 

 

 

184 

 

 

 -

 

 

197 

 

 

15 

Home equity

 

 

21 

 

 

21 

 

 

 -

 

 

21 

 

 

 -

Commercial real estate

 

 

1,498 

 

 

1,498 

 

 

 -

 

 

1,904 

 

 

222 

Commercial loans

 

 

54 

 

 

54 

 

 

 -

 

 

104 

 

 

Total impaired loans

 

$

1,757 

 

$

1,757 

 

$

 -

 

$

2,226 

 

$

243 



(1)This loan was foreclosed upon during the year ended December 31, 2017 and was recorded in other assets at December 31, 2017.

(2)This loan was paid off during the year ended December 31, 2017.



15


 

The following tables provide an analysis of past due loans and non-accruing loans as of the dates indicated:





 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 



 

30-59 Days

 

60-89 Days

 

90 Days or More

 

Total Past

 

 

Current

 

Total Loans

 

Loans on Non-



 

Past Due

 

Past Due

 

Past Due

 

Due

 

 

Due

 

Receivable

 

Accrual



 

(Dollars in thousands)

June 30, 2018:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Real Estate Loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Residential, one- to four-family

 

$

1,019 

 

$

92 

 

$

1,035 

 

$

2,146 

 

$

143,028 

 

$

145,174 

 

$

2,161 

Home equity

 

 

144 

 

 

10 

 

 

272 

 

 

426 

 

 

39,531 

 

 

39,957 

 

 

273 

Commercial

 

 

172 

 

 

 -

 

 

1,860 

 

 

2,032 

 

 

134,870 

 

 

136,902 

 

 

2,111 

Construction - Commercial

 

 

 -

 

 

 -

 

 

 -

 

 

 -

 

 

29,248 

 

 

29,248 

 

 

 -

Construction - Residential, one- to four-family

 

 

 -

 

 

 -

 

 

 -

 

 

 -

 

 

241 

 

 

241 

 

 

 -

Other Loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

 

55 

 

 

 -

 

 

76 

 

 

131 

 

 

29,582 

 

 

29,713 

 

 

76 

Consumer

 

 

 

 

10 

 

 

21 

 

 

39 

 

 

1,326 

 

 

1,365 

 

 

22 

Total

 

$

1,398 

 

$

112 

 

$

3,264 

 

$

4,774 

 

$

377,826 

 

$

382,600 

 

$

4,643 



 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 



 

30-59 Days

 

60-89 Days

 

90 Days or More

 

Total Past

 

 

Current

 

Total Loans

 

Loans on Non-



 

Past Due

 

Past Due

 

Past Due

 

Due

 

 

Due

 

Receivable

 

Accrual



 

(Dollars in thousands)

December 31, 2017:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Real Estate Loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Residential, one- to four-family

 

$

692 

 

$

942 

 

$

1,233 

 

$

2,867 

 

$

141,698 

 

$

144,565 

 

$

2,196 

Home equity

 

 

27 

 

 

59 

 

 

212 

 

 

298 

 

 

37,780 

 

 

38,078 

 

 

235 

Commercial

 

 

411 

 

 

 -

 

 

1,265 

 

 

1,676 

 

 

121,071 

 

 

122,747 

 

 

1,323 

Construction - Commercial

 

 

 -

 

 

 -

 

 

 -

 

 

 -

 

 

30,802 

 

 

30,802 

 

 

 -

Construction - Residential, one- to four-family

 

 

 -

 

 

 -

 

 

 -

 

 

 -

 

 

49 

 

 

49 

 

 

 -

Other Loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

 

61 

 

 

 

 

54 

 

 

123 

 

 

27,489 

 

 

27,612 

 

 

54 

Consumer

 

 

22 

 

 

 

 

22 

 

 

46 

 

 

1,309 

 

 

1,355 

 

 

25 

Total

 

$

1,213 

 

$

1,011 

 

$

2,786 

 

$

5,010 

 

$

360,198 

 

$

365,208 

 

$

3,833 

 

The accrual of interest on loans is discontinued when, in management’s opinion, the borrower may be unable to meet payments as they become due. A loan does not have to be 90 days delinquent in order to be classified as non-accrual. When interest accrual is discontinued, all unpaid accrued interest is reversed. If ultimate collection of principal is in doubt, all cash receipts on impaired loans are applied to reduce the principal balance.  Interest income not recognized on non-accrual loans during the six month periods ended June 30, 2018 and 2017 was $143,000 and $147,000, respectively

The Company’s policies provide for the classification of loans as follows:

·

Pass/Performing;

·

Special Mention – does not currently expose the Company to a sufficient degree of risk but does possess credit deficiencies or potential weaknesses deserving the Company’s close attention;

·

Substandard – has one or more well-defined weaknesses and are characterized by the distinct possibility that the Company will sustain some loss if the deficiencies are not corrected. A substandard asset would be one inadequately protected by the current net worth and paying capacity of the obligor or pledged collateral, if applicable;

·

Doubtful – has all the weaknesses inherent in substandard loans with the additional characteristic that the weaknesses present make collection or liquidation in full on the basis of currently existing facts, conditions and values questionable, and there is a high possibility of loss; and

·

Loss – loan is considered uncollectible and continuance without the establishment of a specific valuation reserve is not warranted.



16


 

The Company’s Asset Classification Committee is responsible for monitoring risk ratings and making changes as deemed appropriate.  Each commercial loan is individually assigned a loan classification.  The Company’s consumer loans, including residential one- to four-family loans and home equity loans, are not classified as described above.  Instead, the Company uses the delinquency status as the basis for classifying these loans.  Generally, all consumer loans more than 90 days past due are classified and placed in non-accrual. Such loans that are well-secured and in the process of collection will remain in accrual status.



The following tables summarize the internal loan grades applied to the Company’s loan portfolio as of June 30, 2018 and December 31, 2017:





 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 



 

Pass/Performing

 

Special Mention

 

Substandard

 

Doubtful

 

Loss

 

Total



 

(Dollars in thousands)

June 30, 2018

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Real Estate Loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Residential, one- to four-family

 

$

142,374 

 

$

-

 

$

2,800 

 

$

-

 

$

-

 

$

145,174 

Home equity

 

 

39,476 

 

 

-

 

 

481 

 

 

-

 

 

-

 

 

39,957 

Commercial

 

 

132,718 

 

 

739 

 

 

3,445 

 

 

-

 

 

-

 

 

136,902 

Construction - Commercial

 

 

29,248 

 

 

-

 

 

-

 

 

-

 

 

-

 

 

29,248 

Construction - Residential, one- to four-family

 

 

241 

 

 

-

 

 

-

 

 

-

 

 

-

 

 

241 

Other Loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

 

28,305 

 

 

63 

 

 

1,345 

 

 

-

 

 

-

 

 

29,713 

Consumer

 

 

1,357 

 

 

-

 

 

 

 

-

 

 

 

 

1,365 

            Total

 

$

373,719 

 

$

802 

 

$

8,078 

 

$

-

 

$

 

$

382,600 







 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 



 

Pass/Performing

 

Special Mention

 

Substandard

 

Doubtful

 

Loss

 

Total



 

(Dollars in thousands)

December 31, 2017

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Real Estate Loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Residential, one- to four-family

 

$

141,751 

 

$

-

 

$

2,814 

 

$

-

 

$

-

 

$

144,565 

Home equity

 

 

37,611 

 

 

-

 

 

467 

 

 

-

 

 

-

 

 

38,078 

Commercial

 

 

118,977 

 

 

866 

 

 

2,904 

 

 

-

 

 

-

 

 

122,747 

Construction - Commercial

 

 

30,802 

 

 

-

 

 

-

 

 

-

 

 

-

 

 

30,802 

Construction - Residential, one- to four-family

 

 

49 

 

 

-

 

 

-

 

 

-

 

 

-

 

 

49 

Other Loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

 

26,165 

 

 

1,093 

 

 

354 

 

 

-

 

 

-

 

 

27,612 

Consumer

 

 

1,342 

 

 

-

 

 

11 

 

 

-

 

 

 

 

1,355 

            Total

 

$

356,697 

 

$

1,959 

 

$

6,550 

 

$

-

 

$

 

$

365,208 

 



Troubled debt restructurings (“TDRs”) occur when we grant borrowers concessions that we would not otherwise grant but for economic or legal reasons pertaining to the borrower’s financial difficulties. A concession is made when the terms of the loan modification are more favorable than the terms the borrower would have received in the current market under similar financial difficulties. These concessions may include, but are not limited to, modifications of the terms of the debt, the transfer of assets or the issuance of an equity interest by the borrower to satisfy all or part of the debt, or the addition of borrower(s). The Company identifies loans for potential TDRs primarily through direct communication with the borrower and evaluation of the borrower’s financial statements, revenue projections, tax returns, and credit reports.  Even if the borrower is not presently in default, management will consider the likelihood that cash flow shortages, adverse economic conditions, and negative trends may result in a payment default in the near future. Generally, we will not return a TDR to accrual status until the borrower has demonstrated the ability to make principal and interest payments under the restructured terms for at least six consecutive months. The Company’s TDRs are impaired loans, which may result in specific allocations and subsequent charge-offs if appropriate.



17


 

The following table summarizes the loans that were classified as TDRs as of the dates indicated:







 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 



 

 

 

 

 

 

Non-Accruing

 

Accruing

 

TDRs That Have Defaulted on Modified Terms Year to Date



Number of Loans

 

Recorded Investment

 

Number of Loans

 

Recorded Investment

 

Number of Loans

 

Recorded Investment

 

Number of Loans

 

Recorded Investment



(Dollars in thousands)

At June 30, 2018

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Real Estate Loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Residential, one- to four-family

 

 

$

181 

 

 

-

 

$

-

 

 

 

$

181 

 

 

-

 

$

-

Home equity

 

 

 

19 

 

 

 

 

19 

 

 

-

 

 

-

 

 

-

 

 

-

            Total

 

 

$

200 

 

 

 

$

19 

 

 

 

$

181 

 

 

-

 

$

-



 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 



 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

At December 31, 2017

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Real Estate Loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Residential, one- to four-family

 

 

$

184 

 

 

-

 

$

-

 

 

 

$

184 

 

 

-

 

$

-

Home equity

 

 

 

21 

 

 

 

 

19 

 

 

 

 

 

 

-

 

 

-

            Total

 

 

$

205 

 

 

 

$

19 

 

 

 

$

186 

 

 

-

 

$

-



No additional loan commitments were outstanding to these borrowers at June 30, 2018 and December 31, 2017.

There were no loans restructured and classified as TDRs during the three and six month periods ended June 30, 2018 and June 30, 2017, respectively.



Some loan modifications classified as TDRs may not ultimately result in full collection of principal and interest, as modified, which may result in potential losses.  These potential losses have been factored into our overall estimate of the allowance for loan losses.



Foreclosed real estate consists of property acquired in settlement of loans which is carried at its fair value less estimated selling costs. Write-downs from cost to fair value less estimated selling costs are recorded at the date of acquisition or repossession and are charged to the allowance for loan losses. Foreclosed real estate was $479,000 and $435,000 at June 30, 2018 and December 31, 2017, respectively, and was included as a component of other assets on the consolidated statements of financial condition. The recorded investment of consumer loans secured by residential real estate properties for which formal foreclosure proceedings are in process according to local requirements of the applicable jurisdiction was $1.2 million and $965,000 at June 30, 2018 and December 31, 2017, respectively.

   

Note 5 – Earnings per Share

 

Earnings per share was calculated for the three and six months ended June 30, 2018 and 2017, respectively. Basic earnings per share is based upon the weighted average number of common shares outstanding, exclusive of unearned shares held by the Employee Stock Ownership Plan of Lake Shore Bancorp, Inc. (the “ESOP”), unearned shares held by the Lake Shore Bancorp, Inc. 2006 Recognition and Retention Plan (“RRP”), and unearned shares held by the Lake Shore Bancorp, Inc. 2012 Equity Incentive Plan (“EIP”). Diluted earnings per share is based upon the weighted average number of common shares outstanding and common share equivalents that would arise from the exercise of dilutive securities. Stock options are regarded as potential common stock and are considered in the diluted earnings per share calculations to the extent they would be dilutive and computed using the treasury stock method.

18


 

The calculated basic and diluted earnings per share are as follows:



 

 

 

 

 

 



 

Three Months Ended June 30,



 

2018

 

2017

Numerator – net income

 

$

1,006,000 

 

$

1,142,000 

Denominator:

 

 

 

 

 

 

Basic weighted average shares outstanding

 

 

6,084,737 

 

 

6,122,800 

Increase in weighted average shares outstanding due to:

 

 

 

 

 

 

Stock options

 

 

14,838 

 

 

9,081 

Diluted weighted average shares outstanding (1)

 

 

6,099,575 

 

 

6,131,881 



 

 

 

 

 

 

Earnings per share:

 

 

 

 

 

 

Basic

 

$

0.17 

 

$

0.19 

Diluted

 

$

0.16 

 

$

0.19 



 

 

 

 

 

 



 

Six Months Ended June 30,



 

2018

 

2017

Numerator – net income

 

$

1,942,000 

 

$

1,858,000 

Denominator:

 

 

 

 

 

 

Basic weighted average shares outstanding

 

 

6,092,041 

 

 

6,106,585 

Increase in weighted average shares outstanding due to:

 

 

 

 

 

 

Stock options

 

 

13,078 

 

 

9,088 

Diluted weighted average shares outstanding (1)

 

 

6,105,119 

 

 

6,115,673 



 

 

 

 

 

 

Earnings per share:

 

 

 

 

 

 

Basic

 

$

0.32 

 

$

0.30 

Diluted

 

$

0.32 

 

$

0.30 



(1)

Stock options to purchase 64,547 shares under the Company’s 2006 Stock Option Plan and 20,000 shares under the EIP at $14.38 for each plan were outstanding during the three and six month periods ended June 30, 2017, but were not included in the calculation of diluted earnings per share because to do so would have been anti-dilutive.







Note 6 – Commitments to Extend Credit



The Company has commitments to extend credit with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. Such commitments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the consolidated statements of financial condition.

The Company’s exposure to credit loss is represented by the contractual amount of these commitments.  There were no loss reserves associated with these commitments at June 30, 2018 and December 31, 2017. The Company follows the same credit policies in making commitments as it does for on-balance sheet instruments.

19


 

The following commitments to extend credit were outstanding as of the dates specified:



 

 

 

 

 

 



 

Contract Amount



 

June 30,

 

December 31,



 

2018

 

2017



 

(Dollars in thousands)



 

 

 

 

 

 

Commitments to grant loans

 

$

34,340 

 

$

16,426 

Unfunded commitments under lines of credit

 

$

43,963 

 

$

41,395 



Commitments to extend credit 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. The commitments for lines of credit may expire without being drawn upon. Therefore, the total commitment amounts do not necessarily represent future cash requirements. The amount of collateral obtained, if it is deemed necessary by the Company, is based on management’s credit evaluation of the customer. At June 30, 2018 and December 31, 2017, the Company’s loan commitments with fixed interest rates for the next five years totaled $7.0 million and $7.9 million, respectively. The range of interest rates on these fixed rate commitments was 3.375% to 6.25% at June 30, 2018.



Note 7 – Stock-based Compensation

As of June 30, 2018, the Company had four stock-based compensation plans, which are described below. The compensation cost that has been recorded under salary and benefits expense in the non-interest expense section of the consolidated statements of income for these plans was $152,000 and $149,000 for the three months ended June 30, 2018 and 2017, respectively. The compensation cost that has been recorded for the six months ended June 30, 2018 and 2017 was $290,000 and $272,000, respectively.           

2006 Stock Option Plan

The Company’s 2006 Stock Option Plan (the “Stock Option Plan”), which was approved by the Company’s stockholders, permitted the grant of options to its employees and non-employee directors for up to 297,562 shares of common stock. The Stock Option Plan expired on October 24, 2016, and grants of options can no longer be awarded.

Both incentive stock options and non-qualified stock options have been granted under the Stock Option Plan. The exercise price of each stock option equals the market price of the Company’s common stock on the date of grant and an option’s maximum term is ten years. The stock options generally vest over a five year period.



A summary of the status of the Stock Option Plan during the six months ended June 30, 2018 and 2017 is presented below:

:



 

 

 

 

 

 

 

 

 

 



June 30, 2018

June 30, 2017



Options

 

 

Weighted Average Exercise Price

Remaining Contractual Life

Options

 

 

Weighted Average Exercise Price

Remaining Contractual Life

Outstanding at beginning of year

82,321 

 

$

12.98 

 

82,826 

 

$

12.95 

 

Granted

 -

 

 

 -

 

 -

 

 

 -

 

Exercised

 -

 

 

 -

 

 -

 

 

 -

 

Forfeited

 -

 

 

 -

 

 -

 

 

 -

 

Outstanding at end of period

82,321 

 

$

12.98 

6.9 years

82,826 

 

$

12.95 

7.8 years



 

 

 

 

 

 

 

 

 

 

Options exercisable at end of period

30,681 

 

$

10.61 

6.9 years

18,279 

 

$

7.88 

7.8 years



 

 

 

 

 

 

 

 

 

 

Fair value of options granted

 

 

$

 -

 

 

 

$

 -

 



20


 

At June 30, 2018, stock options outstanding had an intrinsic value of $344,000 and there were no remaining options available for grant under the Stock Option Plan. There were no stock options exercised during the three and six months ended June 30, 2018 and 2017. Compensation expense related to the Stock Option Plan for the three month period ended June 30, 2018 and 2017 was $8,000, respectively. Compensation expense related to the Stock Option Plan for the six month period ended June 30, 2018 and 2017 was $17,000, respectively. At June 30, 2018, $113,000 of unrecognized compensation cost related to the Stock Option Plan is expected to be recognized over a period of 40 months.            



2006 Recognition and Retention Plan

The Company’s 2006 Recognition and Retention Plan (“RRP”), which was approved by the Company’s stockholders, permitted the grant of restricted stock awards (“Awards”) to employees and non-employee directors for up to 119,025 shares of common stock. The RRP expired on October 24, 2016, and as of October 24, 2016 all shares permitted under the plan have been granted.

As of June 30, 2018, there were 101,906 shares vested or distributed to eligible participants under the RRP. Compensation expense amounted to $22,000 for the three months ended June 30, 2018 and 2017, respectively. Compensation expense amounted to $44,000 for the six months ended June 30, 2018 and 2017, respectively. At June 30, 2018, $152,000 of unrecognized compensation cost related to the RRP is expected to be recognized over a period of 40 months.

A summary of the status of unvested shares under the RRP for the six months ended June 30, 2018 and 2017 is as follows:



 

 

 

 

 

 

 

 

 

 



 

2018

 

 

Weighted Average Grant Price (per Share)

 

2017

 

 

Weighted Average Grant Price (per Share)

Unvested shares outstanding at beginning of year

 

17,119 

 

$

13.06 

 

24,110 

 

$

12.96 

Granted

 

 -

 

 

 -

 

 -

 

 

 -

Vested

 

 -

 

 

 -

 

 -

 

 

 -

Forfeited

 

 -

 

 

 -

 

 -

 

 

 -

Unvested shares outstanding at end of period

 

17,119 

 

$

13.06 

 

24,110 

 

$

12.96 



2012 Equity Incentive Plan



The Company’s 2012 Equity Incentive Plan (the “EIP”), which was approved by the Company’s stockholders on May 23, 2012, authorizes the issuance of up to 180,000 shares of common stock pursuant to grants of restricted stock awards and up to 20,000 shares of common stock pursuant to grants of incentive stock options and non-qualified stock options, subject to permitted adjustments for certain corporate transactions. Employees and directors of Lake Shore Bancorp or its subsidiaries are eligible to receive awards under the EIP, except that non-employees may not be granted incentive stock options.



21


 

The Board of Directors granted restricted stock awards under the EIP during the six months ended June 30, 2018 as follows:





 

 

 

 

 

 

 

 

 

Grant Date

 

Number of Restricted Stock Awards

 

Vesting

 

 

Fair Value per Share of Award on Grant Date

 

Awardees



 

 

 

 

 

 

 

 

 

February 7, 2018

 

5,285 

 

100% on December 14, 2018

 

$

17.00 

 

Non-employee directors

April 24, 2018

 

44 

 

100% on December 14, 2018

 

 

16.88 

 

Non-employee director



 

 

 

 

 

 

 

 

 



A summary of the status of unvested restricted stock awards under the EIP for the six months ended June 30, 2018 and 2017 is as follows:



 

 

 

 

 

 

 

 

 

 



 

2018

 

 

Weighted Average Grant Price (per Share)

 

2017

 

 

Weighted Average Grant Price (per Share)

Unvested shares outstanding at beginning of year

 

42,915 

 

$

14.40 

 

26,072 

 

$

12.77 

Granted

 

5,329 

 

 

17.00 

 

27,348 

 

 

15.90 

Vested

 

 -

 

 

 -

 

 -

 

 

 -

Forfeited

 

 -

 

 

 -

 

(100)

 

 

13.35 

Unvested shares outstanding at end of period

 

48,244 

 

$

14.69 

 

53,320 

 

$

14.38 



As of June 30, 2018, there were 31,797 shares vested or distributed to eligible participants under the EIP. Compensation expense related to restricted stock awards under the EIP amounted to $85,000 and $84,000 for the three months ended June 30, 2018 and 2017, respectively. Compensation expense related to EIP restricted stock awards during the six months ended June 30, 2018 and 2017 was $157,000 and $143,000, respectively. At June 30, 2018, $308,000 of unrecognized compensation cost related to unvested restricted stock awards is expected to be recognized over a period of 18 months.



A summary of the status of stock options under the EIP for the six months ended June 30, 2018 and 2017 is presented below:



 

 

 

 

 

 

 

 

 

 



June 30, 2018

June 30, 2017



Options

 

 

Exercise Price

Remaining Contractual Life

Options

 

 

Exercise Price

Remaining Contractual Life

Outstanding at beginning of year

20,000 

 

$

14.38 

 

20,000 

 

$

14.38 

 

Granted

 -

 

 

 -

 

 -

 

 

 -

 

Exercised

 -

 

 

 -

 

 -

 

 

 -

 

Forfeited

 -

 

 

 -

 

 -

 

 

 -

 

Outstanding at end of period

20,000 

 

$

14.38 

8.3 years

20,000 

 

$

14.38 

9.3 years



 

 

 

 

 

 

 

 

 

 

Options exercisable at end of period

3,998 

 

$

14.38 

8.3 years

 -

 

$

 -

 



 

 

 

 

 

 

 

 

 

 

Fair value of options granted

 

 

 

 -

 

 

 

 

 -

 



At June 30, 2018, stock options outstanding had an intrinsic value of $55,000 and there were no remaining options available for grant under the EIP. Compensation expense related to stock options outstanding under the EIP amounted to $3,000 for the three months ended June 30, 2018 and 2017, respectively, and amounted to $5,000 for the six months ended June 30, 2018 and 2017, respectively. At June 30, 2018, $35,000 of unrecognized compensation cost related to unvested stock options is expected to be recognized over a period of 40 months.

22


 



Employee Stock Ownership Plan (“ESOP”)

The Company established the ESOP for the benefit of eligible employees of the Company and Bank. All Company and Bank employees meeting certain age and service requirements are eligible to participate in the ESOP. Participants’ benefits become fully vested after five years of service once the employee is eligible to participate in the ESOP. The Company utilized $2.6 million of the proceeds of its 2006 stock offering to extend a loan to the ESOP and the ESOP used such proceeds to purchase 238,050 shares of stock on the open market at an average price of $10.70 per share, plus commission expenses. As a result of the purchase of shares by the ESOP, total stockholders’ equity of the Company was reduced by $2.6 million. As of June 30, 2018, the balance of the loan to the ESOP was $1.6 million and the fair value of unallocated shares was $2.4 million. As of June 30, 2018, there were 70,031 allocated shares and 142,830 unallocated shares compared to 64,200 allocated shares and 150,765 unallocated shares at June 30, 2017. The ESOP compensation expense was $34,000 for the three months ended June 30, 2018 and $32,000 for the three months ended June 30, 2017 based on 1,984 shares earned in each of those quarters. The ESOP compensation expense was $67,000 for the six months ended June 30, 2018 and $63,000 for the six months ended June 30, 2017 based on 3,968 shares earned in each of those periods.         



Note 8 - Fair Value of Financial Instruments

Management uses its best judgment in estimating the fair value of the Company’s financial instruments; however, there are inherent weaknesses in any estimation technique.  Therefore, for substantially all financial instruments, the fair value estimates herein are not necessarily indicative of the amounts the Company could have realized in a sale transaction on the dates indicated.  The estimated fair value amounts have been measured as of June 30, 2018 and December 31, 2017 and have not been re-evaluated or updated for purposes of these consolidated financial statements subsequent to those respective dates.  The estimated fair values of these financial instruments subsequent to the respective reporting dates may be different than the amounts reported here.



The measurement of fair value under FASB ASC Topic 820, “Fair Value Measurements and Disclosures” (“ASC Topic 820”) establishes a fair value hierarchy that prioritizes the inputs to valuation methods used to measure fair value.  The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities measurements (Level 1) and the lowest priority to unobservable input measurements (Level 3).  The three levels of the fair value hierarchy under ASC Topic 820 are as follows:



Level 1:  Unadjusted quoted prices in active markets for identical assets or liabilities that the reporting entity can access at the measurement date.



Level 2:  Inputs other than quoted prices included in Level 1 that are observable for the asset or liability either directly or indirectly.



Level 3:  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.



An asset’s or liability’s level within the fair value hierarchy is based on the lowest level of input that is significant to the fair value measurement.



23


 

For assets measured at fair value on a recurring basis, the fair value measurements by level within the fair value hierarchy used at June 30, 2018 and December 31, 2017 were as follows:





 

 

 

 

 

 

 

 

 

 

 

 



 

Fair Value Measurements at June 30, 2018



 

 

 

Quoted Prices in Active Markets for Identical Assets

 

Significant Other Observable Inputs

 

Significant Other Unobservable Inputs



 

Fair Value

 

(Level 1)

 

(Level 2)

 

(Level 3)



 

 

(Dollars in thousands)

Measured at fair value on a recurring basis:

 

 

 

 

 

 

 

 

 

 

 

 

Securities available for sale:

 

 

 

 

 

 

 

 

 

 

 

 

Debt Securities

 

 

 

 

 

 

 

 

 

 

 

 

U.S. Government Agencies

 

$

1,918 

 

$

1,918 

 

$

 -

 

$

 -

Municipal bonds

 

 

46,047 

 

 

 -

 

 

46,047 

 

 

 -

Mortgage-backed securities:

 

 

 

 

 

 

 

 

 

 

 

 

Collateralized mortgage obligations-private label

 

 

28 

 

 

 -

 

 

28 

 

 

 -

Collateralized mortgage obligations-government sponsored entities

 

 

32,344 

 

 

 -

 

 

32,344 

 

 

 -

Government National Mortgage Association

 

 

212 

 

 

 -

 

 

212 

 

 

 -

Federal National Mortgage Association

 

 

2,614 

 

 

 -

 

 

2,614 

 

 

 -

Federal Home Loan Mortgage Corporation

 

 

1,379 

 

 

 -

 

 

1,379 

 

 

 -

Asset-backed securities:

 

 

 

 

 

 

 

 

 

 

 

 

Private label

 

 

296 

 

 

 -

 

 

296 

 

 

 -

  Government sponsored entities

 

 

52 

 

 

 -

 

 

52 

 

 

 -

Total Debt Securities

 

$

84,890 

 

$

1,918 

 

$

82,972 

 

$

 -

Equity Securities

 

 

36 

 

 

 -

 

 

36 

 

 

 -

Total Securities Available for Sale

 

$

84,926 

 

$

1,918 

 

$

83,008 

 

$

 -





24


 



 

 

 

 

 

 

 

 

 

 

 

 



 

Fair Value Measurements at December 31, 2017



 

 

 

Quoted Prices in Active Markets for Identical Assets

 

Significant Other Observable Inputs

 

Significant Other Unobservable Inputs



 

Fair Value

 

(Level 1)

 

(Level 2)

 

(Level 3)



 

 

(Dollars in thousands)

Measured at fair value on a recurring basis:

 

 

 

 

 

 

 

 

 

 

 

 

Securities available for sale:

 

 

 

 

 

 

 

 

 

 

 

 

Debt Securities

 

 

 

 

 

 

 

 

 

 

 

 

U.S. Government Agencies

 

$

1,987 

 

$

1,987 

 

$

 -

 

$

 -

Municipal bonds

 

 

45,562 

 

 

 -

 

 

45,562 

 

 

 -

Mortgage-backed securities:

 

 

 

 

 

 

 

 

 

 

 

 

Collateralized mortgage obligations-private label

 

 

30 

 

 

 -

 

 

30 

 

 

 -

Collateralized mortgage obligations-government sponsored entities

 

 

27,654 

 

 

 -

 

 

27,654 

 

 

 -

Government National Mortgage Association

 

 

245 

 

 

 -

 

 

245 

 

 

 -

Federal National Mortgage Association

 

 

2,929 

 

 

 -

 

 

2,929 

 

 

 -

Federal Home Loan Mortgage Corporation

 

 

1,553 

 

 

 -

 

 

1,553 

 

 

 -

Asset-backed securities:

 

 

 

 

 

 

 

 

 

 

 

 

Private label

 

 

344 

 

 

 -

 

 

 -

 

 

344 

Government sponsored entities

 

 

60 

 

 

 -

 

 

60 

 

 

 -

Total Debt Securities

 

$

80,364 

 

$

1,987 

 

$

78,033 

 

$

344 

Equity Securities

 

 

57 

 

 

 -

 

 

57 

 

 

 -

Total Securities Available for Sale

 

$

80,421 

 

$

1,987 

 

$

78,090 

 

$

344 



Any transfers between levels would be recognized as of the actual date of event or change in circumstances that caused the transfer.  There were no reclassifications between the Level 1 and Level 2 categories for the six months ended June 30, 2018 and for the year ended December 31, 2017.  During the six months ended June 30, 2018, asset-backed securities – private label were transferred from the Level 3 category to the Level 2 category. These securities were transferred to Level 2 because the Company changed its method of valuing these securities and that method now uses Level 2 inputs.



Level 2 inputs for assets or liabilities measured at fair value on a recurring basis might include quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active, inputs other than quoted prices that are observable for the asset or liability (such as interest rates, volatilities, prepayment speeds, credit risks, etc.) or inputs that are derived principally from or corroborated by market data by correlation or other means.



The fair value of securities available for sale are determined by obtaining quoted market prices on nationally recognized securities exchanges (Level 1) or matrix pricing (Level 2), which is a mathematical technique used widely in the industry to value debt securities without relying exclusively on quoted market prices for the specific securities, but rather by relying on the securities’ relationship to other benchmark quoted prices. The fair value measurements consider observable data that may include dealer quotes, market spreads, cash flows, the U.S. treasury yield curve, live trading levels, trade execution date, market consensus prepayment speeds, credit information and the security’s terms and conditions, among other things.  Level 2 securities which are fixed income instruments that are not quoted on an exchange, but are traded in active markets, are valued using prices obtained from our custodian, who use third party data service providers.  Securities available for

25


 

sale measured within the Level 3 category as of December 31, 2017 consisted of private label asset-backed securities.



The following table presents a reconciliation of the securities available for sale measured at fair value on a recurring basis using significant unobservable inputs (Level 3), specifically, asset-backed securities - private label, for the six months ended June 30, 2018 and 2017:



 

 

 

 

 

 



 

2018

 

2017



 

 

(Dollars in thousands)

Beginning Balance

 

$

344 

 

$

832 

Total gains - realized/unrealized:

 

 

 

 

 

 

Included in earnings

 

 

 -

 

 

 -

Included in other comprehensive loss

 

 

 -

 

 

Total losses - realized/unrealized:

 

 

 -

 

 

 

Included in earnings

 

 

 -

 

 

 -

Included in other comprehensive loss

 

 

 -

 

 

(44)

Sales

 

 

 -

 

 

 -

Principal paydowns

 

 

 -

 

 

(287)

Transfers to (out of) Level 3

 

 

(344)

 

 

 -

Ending Balance

 

$

 -

 

$

510 



Both observable and unobservable inputs may be used to determine the fair value of assets and liabilities measured on a recurring basis that the Company has classified within the Level 3 category. As a result, any unrealized gains and losses for assets within the Level 3 category may include changes in fair value attributable to both observable (e.g., changes in market interest rates) and unobservable (e.g., changes in unobservable long-dated volatilities) inputs. 



The following table presents additional quantitative information about the Level 3 inputs for the asset-backed securities - private label category.  The fair values for this category were developed using the discounted cash flow technique with the following unobservable input ranges as of December 31, 2017 (dollars in thousands):





 

 

 

 

 

 

 

 

 

 

 

 

 



 

 

 

 

 

 

 

 

Unobservable Inputs

Security Category

 

Fair Value

 

Loan Type/Collateral

 

Credit Ratings

 

Constant Prepayment Speed (CPR)

 

Probability of  Default (Annual Default Rate)

 

Loss Severity



 

 

 

 

 

 

 

 

 

 

 

 

 

December 31, 2017

 

 

 

 

 

 

 

 

 

 

 

 

 

Asset-backed securities - private label

 

$

344 

 

Sub-prime First and Prime Second Lien - Residential Real Estate

 

B- thru D

 

5-12

 

3.0-5.0%

 

75.0% - 100.0%



At December 31, 2017, Level 3 inputs were determined by the Company’s management using inputs from its third party financial advisor on a quarterly basis. The significant unobservable inputs used in the fair value measurement of the reporting entity’s asset-backed, private label securities are prepayment rates, probability of default and loss severity in the event of default. Significant increases or decreases in any of those inputs in isolation would result in a significantly lower or higher fair value measurement. Generally, a change in the assumption used for the probability of default is accompanied by a directionally similar change in the assumption used for the loss severity and a directionally opposite change in the assumption used for prepayment rates.



In addition to disclosure of the fair value of assets on a recurring basis, ASC Topic 820 requires disclosures for assets and liabilities measured at fair value on a non-recurring basis, such as impaired assets and

26


 

foreclosed real estate. Loans are generally not recorded at fair value on a recurring basis. Periodically, the Company records non-recurring adjustments to the carrying value of loans based on fair value measurements for partial charge-offs of the uncollectible portions of these loans. Non-recurring adjustments also include certain impairment amounts for collateral-dependent loans calculated as required by ASC Topic 310, “Receivables – Loan Impairment,” when establishing the allowance for loan losses. An impaired loan is carried at fair value based on either a recent appraisal less estimated selling costs of underlying collateral or discounted cash flows based on current market conditions.



For assets measured at fair value on a non-recurring basis, the fair value measurements by level within the fair value hierarchy used at June 30, 2018 and December 31, 2017 were as follows:





 

 

 

 

 

 

 

 

 

 

 

 



 

Fair Value Measurements



 

 

 

Quoted Prices in Active Markets for Identical Assets

 

Significant Other Observable Inputs

 

Significant Other Unobservable Inputs



 

Fair Value

 

(Level 1)

 

(Level 2)

 

(Level 3)



 

 

(Dollars in thousands)

Measured at fair value on a non-recurring basis:

 

 

 

 

 

 

 

 

 

 

 

 



 

 

 

 

 

 

 

 

 

 

 

 

At June 30, 2018

 

 

 

 

 

 

 

 

 

 

 

 

Impaired loans

 

$

1,643 

 

$

 -

 

$

 -

 

$

1,643 

Foreclosed real estate

 

 

397 

 

 

 -

 

 

 -

 

 

397 



 

 

 

 

 

 

 

 

 

 

 

 

At December 31, 2017

 

 

 

 

 

 

 

 

 

 

 

 

Impaired loans

 

$

35 

 

$

 -

 

$

 -

 

$

35 

Foreclosed real estate

 

 

438 

 

 

 -

 

 

 -

 

 

438 



The following table presents additional quantitative information about assets measured at fair value on a non-recurring basis and for which the Company has utilized Level 3 inputs to determine fair value:





 

 

 

 

 

 

 

 



Quantitative Information about Level 3 Fair Value Measurements

(Dollars in thousands)

Fair Value Estimate

 

Valuation Technique

 

Unobservable Input

 

Range

At June 30, 2018

 

 

 

 

 

 

 

 

Impaired loans

$

1,643 

 

Market valuation of underlying collateral (1)

 

Direct Disposal Costs (2)

 

7.00-15.80%

Foreclosed real estate

 

397 

 

Market valuation of property (1)

 

Direct Disposal Costs (2)

 

3.90-7.00%

At December 31, 2017

 

 

 

 

 

 

 

 

Impaired loans

$

35 

 

Market valuation of underlying collateral (1)

 

Direct Disposal Costs (2)

 

7.00% 

Foreclosed real estate

 

438 

 

Market valuation of property (1)

 

Direct Disposal Costs (2)

 

7.00-16.80%



(1)

Fair value is generally determined through independent third-party appraisals of the underlying collateral, which generally includes various Level 3 inputs which are not observable.

(2)

The fair value basis of impaired loans and foreclosed real estate may be adjusted to reflect management estimates of disposal costs including, but not necessarily limited to, real estate brokerage commissions, legal fees, and delinquent property taxes.



At June 30, 2018, impaired loans valued using Level 3 inputs had a carrying amount of $1.7 million and valuation allowances of $90,000. By comparison at December 31, 2017, impaired loans valued using Level 3 inputs had a carrying amount of $35,000 and no valuation allowances.  

27


 



Once a loan is determined to be impaired, the fair value of the loan continues to be evaluated based upon the market value of the underlying collateral securing the loan or by using a discounted future cash flow method if the loan is not collateral dependent. At June 30, 2018, impaired loans with a carrying amount that had been written down utilizing Level 3 inputs during the six months ended June 30, 2018 comprised of three loans with a fair value of $1.7 million and resulted in an additional provision for loan loss of $90,000.



At June 30, 2018, foreclosed real estate valued using Level 3 inputs had a carrying amount of $509,000 and valuation allowances of $112,000. By comparison at December 31, 2017, foreclosed real estate valued using Level 3 inputs had a carrying amount of $557,000 and valuation allowances of $119,000.



Once a loan is foreclosed, the fair value of the real estate owned continues to be evaluated based upon the market value of the repossessed real estate originally securing the loan. At June 30, 2018, foreclosed real estate with a carrying value that had been written down utilizing Level 3 inputs during the six months ended June 30, 2018 comprised of one property with a fair value of $350,000 and resulted in a subsequent write-down recorded in non-interest expense of $21,000. At December 31, 2017, foreclosed real estate with a  carrying value that had been written down utilizing Level 3 inputs during the year ended December 31, 2017 comprised of two properties with a fair value of $399,000 and resulted in an additional provision for loan losses of $75,000 and subsequent write-downs recorded in non-interest expense of $15,000.



The carrying amount and estimated fair value of the Company’s financial instruments, whether carried at cost or fair value, are as follows:





 

 

 

 

 

 

 

 

 

 

 

 

 

 

 



 

Fair Value Measurements at June 30, 2018



 

Carrying

 

Estimated

 

Quoted Prices in Active Markets for Identical Assets

 

Significant Other Observable Inputs

 

Significant Other Unobservable Inputs



 

Amount

 

Fair Value

 

(Level 1)

 

(Level 2)

 

(Level 3)



 

(Dollars in thousands)

Financial assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

43,123 

 

$

43,123 

 

$

43,123 

 

$

 -

 

$

 -

Securities available for sale

 

 

84,926 

 

 

84,926 

 

 

1,918 

 

 

83,008 

 

 

 -

Federal Home Loan Bank stock

 

 

1,545 

 

 

1,545 

 

 

 -

 

 

1,545 

 

 

 -

Loans receivable, net

 

 

382,319 

 

 

366,743 

 

 

 -

 

 

 -

 

 

366,743 

Accrued interest receivable

 

 

1,828 

 

 

1,828 

 

 

 -

 

 

1,828 

 

 

 -

Financial liabilities:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deposits

 

 

432,311 

 

 

435,116 

 

 

 -

 

 

435,116 

 

 

 -

Long-term debt

 

 

24,650 

 

 

24,114 

 

 

 -

 

 

24,114 

 

 

 -

Accrued interest payable

 

 

74 

 

 

74 

 

 

 -

 

 

74 

 

 

 -

Off-balance-sheet financial instruments

 

 

 -

 

 

 -

 

 

 -

 

 

 -

 

 

 -





28


 



 

 

 

 

 

 

 

 

 

 

 

 

 

 

 



 

Fair Value Measurements at December 31, 2017



 

Carrying

 

Estimated

 

Quoted Prices in Active Markets for Identical Assets

 

Significant Other Observable Inputs

 

Significant Other Unobservable Inputs



 

Amount

 

Fair Value

 

(Level 1)

 

(Level 2)

 

(Level 3)



 

(Dollars in thousands)

Financial assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

40,913 

 

$

40,913 

 

$

40,913 

 

$

 -

 

$

 -

Securities available for sale

 

 

80,421 

 

 

80,421 

 

 

1,987 

 

 

78,090 

 

 

344 

Federal Home Loan Bank stock

 

 

1,631 

 

 

1,631 

 

 

 -

 

 

1,631 

 

 

 -

Loans receivable, net

 

 

365,063 

 

 

356,275 

 

 

 -

 

 

 -

 

 

356,275 

Accrued interest receivable

 

 

1,801 

 

 

1,801 

 

 

 -

 

 

1,801 

 

 

 -

Financial liabilities:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deposits

 

 

405,153 

 

 

408,348 

 

 

 -

 

 

408,348 

 

 

 -

Long-term debt

 

 

26,950 

 

 

26,634 

 

 

 -

 

 

26,634 

 

 

 -

Accrued interest payable

 

 

57 

 

 

57 

 

 

 -

 

 

57 

 

 

 -

Off-balance-sheet financial instruments

 

 

 -

 

 

 -

 

 

 -

 

 

 -

 

 

 -



Note 9 – Treasury Stock

 

During the three months ended June 30, 2018, the Company repurchased 14,300 shares of common stock at an average cost of $16.94 per share. During the six months ended June 30, 2018, the Company repurchased 34,300 shares of common stock at an average cost of $16.66 per share. These shares were repurchased pursuant to the Company’s publicly announced common stock repurchase program. As of June 30, 2018, there were 120,190 shares remaining to be repurchased under the existing stock repurchase program. During the six months ended June 30, 2018, the Company transferred 5,329 shares of common stock out of treasury stock reserved for the 2012 Equity Incentive Plan, at an average cost of $9.39 per share to fund awards that had been granted under the plan. During the six months ended June 30, 2018, there were 9,368 shares transferred back into treasury stock reserved for the 2012 Equity Incentive Plan at an average cost of $9.39 per share due to stock forfeitures.



During the three and six months ended June 30, 2017, the Company repurchased 13,500 shares of common stock at an average cost of $15.72 per share. These shares were repurchased pursuant to the Company’s publicly announced common stock repurchase program. As of June 30, 2017, there were 71,001 shares remaining to be repurchased under the existing stock repurchase program. During the six months ended June 30, 2017, the Company transferred 27,348 shares of common stock out of the treasury stock reserved for the 2012 Equity Incentive Plan, at an average cost of $9.88 per share to fund awards that had been granted under the plan. During the six months ended June 30, 2017, there were 200 shares transferred back into treasury stock reserved for the 2012 Equity Incentive Plan at an average cost of $9.55 per share due to stock forfeitures.



29


 

Note 10 – Other Comprehensive Loss



In addition to presenting the Consolidated Statements of Comprehensive Income herein, the following table shows the tax effects allocated to the Company’s single component of other comprehensive loss for the periods presented:







 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 



 

For the Three Months Ended June 30, 2018

 

 

For The Three Months Ended June 30, 2017



 

Pre-Tax Amount

 

Tax Benefit

 

Net of Tax Amount

 

Pre-Tax Amount

 

Tax Benefit

 

Net of Tax Amount



 

(Unaudited)



 

(Dollars in thousands)

Net unrealized (losses) gains on securities available for sale:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

  Net unrealized (losses) gains arising during the period

 

$

(376)

 

$

79 

 

$

(297)

 

$

100 

 

$

(34)

 

$

66 

Less: reclassification adjustment related to:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Recovery on  previously impaired investment securities included in net income

 

 

(68)

 

 

14 

 

 

(54)

 

 

(32)

 

 

11 

 

 

(21)

Gain on sale of securities included in net income

 

 

 -

 

 

 -

 

 

 -

 

 

(197)

 

 

67 

 

 

(130)

Total Other Comprehensive Loss

 

$

(444)

 

$

93 

 

$

(351)

 

$

(129)

 

$

44 

 

$

(85)

 





 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 



 

For the Six Months Ended June 30, 2018

 

 

For The Six Months Ended June 30, 2017



 

Pre-Tax Amount

 

Tax Benefit

 

Net of Tax Amount

 

 

Pre-Tax Amount

Tax Benefit

 

 

Net of Tax Amount



 

(Dollars in thousands)

 

 

 

 

 

 

 

 

 

Net unrealized (losses) gains on securities available for sale:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

  Net unrealized (losses) gains arising during the period

 

$

(1,236)

 

$

259 

 

$

(977)

 

$

40 

 

$

(14)

 

$

26 

Less: reclassification adjustment related to:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Recovery on previously impaired investment securities included in net income

 

 

(90)

 

 

19 

 

 

(71)

 

 

(71)

 

 

24 

 

 

(47)

Gain on sale of securities included in net income

 

 

 -

 

 

 -

 

 

 -

 

 

(222)

 

 

76 

 

 

(146)

Total Other Comprehensive Loss

 

$

(1,326)

 

$

278 

 

$

(1,048)

 

$

(253)

 

$

86 

 

$

(167)



The following table presents the amounts reclassified out of the single component of the Company’s accumulated other comprehensive loss for the indicated periods:







 

 

 

 

 

 

 



Amounts Reclassified from Accumulated

 

 

Details about Accumulated Other

Other Comprehensive Loss

 

Affected Line Item

Comprehensive Loss

for the three months ended June 30,

 

on the Consolidated

Components

2018

 

2017

 

Statements of Income



(Dollars in thousands)

 

 

Net unrealized gains and losses on securities available for sale:

 

 

 

 

 

 

 

Recovery on  previously impaired investment securities

$

(68)

 

$

(32)

 

Recovery on previously impaired investment securities

Sale of securities

 

 -

 

 

(197)

 

Gain on sale of securities available for sale



 

(68)

 

 

(229)

 

 

Provision for income tax benefit

 

14 

 

 

78 

 

Income Tax Expense

Total reclassification for the period

$

(54)

 

$

(151)

 

Net Income

30


 









 

 

 

 

 

 

 



Amounts Reclassified from Accumulated

 

 

Details about Accumulated Other

Other Comprehensive Loss

 

Affected Line Item

Comprehensive Loss

for the six months ended June 30,

 

on the Consolidated

Components

2018

 

2017

 

Statements of Income



(Dollars in thousands)

 

 

Net unrealized gains and losses on securities available for sale:

 

 

 

 

 

 

 

Recovery on  previously impaired investment securities

$

(90)

 

$

(71)

 

Recovery on previously impaired investment securities

Sale of securities

 

 -

 

 

(222)

 

Gain on sale of securities available for sale



 

(90)

 

 

(293)

 

 

Provision for income tax benefit

 

19 

 

 

100 

 

Income Tax Expense

Total reclassification for the period

$

(71)

 

$

(193)

 

Net Income

















Note 11 – Revenue Recognition



As of January 1, 2018, the Company adopted FASB ASU 2014-09 “Revenue from Contracts with Customers (Topic 606)” (“ASU 2014-09”) for non-interest revenue streams.   The Company has elected to apply ASU 2014-09 using the modified retrospective method.  The implementation of the new standard did not have a material impact on the measurement or recognition of revenue; and as such, a cumulative effect adjustment to retained earnings was not deemed necessary under the modified retrospective implementation method.  The adoption of ASU 2014-09 did, however, require additional disclosures.



The Company’s non-interest revenue streams primarily result from services it provides to its deposit customers.  When a customer makes a deposit, the Company records a liability under ASC 405 because the Company has an obligation to deliver cash to its customer on demand. A contract between the Company and a deposit account customer is typically documented in writing and is often terminable at will by the customer alone or by both the customer and the Company without penalty. The term of a deposit contract between a customer and the Company will likely be day-to-day or minute-to-minute, and the termination clause is likely similar to a renewal right where each day or minute represents the renewal of the contract. The Company generally fully satisfies its performance obligations on its contracts with customers as services are rendered and the transaction prices are typically fixed; charged either on a periodic basis or based on activity. Because performance obligations are satisfied as services are rendered and the transaction prices are fixed, there is little judgment involved in applying Topic 606 that significantly affects the determination of the amount and timing of revenue from contracts with customers. The Company’s primary non-interest revenue streams within the scope of ASU 2014-09 are described in further detail below.  The Company has no material unsatisfied performance obligations as of June 30, 2018. 



Service Charges on Deposit Accounts

Service charges and fees on deposit accounts consist of transaction-based fees, account maintenance fees, and overdraft service fees for various retail and business deposit customers.   Transaction-based fees, such as stop payment charges, are recognized at the time the Company fulfills the customer’s request.  Account maintenance fees, which relate primarily to monthly maintenance, are earned over the course of a month, representing the period over which the Company satisfies the performance obligation.  Overdraft fees are recognized at the point in time that the overdraft occurs.  Service charges on deposits are withdrawn directly from the customer’s account balance.



Fees, Interchange Income, and Other Service Charges

Fees, interchange income, and other service charges are primarily comprised of debit card income, ATM fees, merchant services income and other service charges.  Debit card income is primarily comprised of interchange fees earned whenever the Company’s debit cards are used to purchase goods or services from a merchant via a card payment network, such as MasterCard.  Interchange fees from cardholder transactions

31


 

represent a percentage of the underlying transaction value.  ATM fees are comprised of fees earned whenever a Company’s ATM or debit card is used at a non-Company ATM or a non-Company cardholder uses a Company ATM.  ATM fees represent a fixed fee for the convenience to cardholders for accessibility of funds.  Merchant services income mainly represents fees charged to merchants serviced by a third party vendor under contract with the Company for debit or credit card processing, and represents a percentage of the underlying transaction value.  Other service charges include revenue from services provided to our retail or business customers, which may include fees for wire transfer processing, bill pay services, cashier’s checks and other services. The Company’s performance obligation for fees, interchange income and other service charges are largely satisfied, and related revenue recognized, when the services are rendered or upon completion. Payment is typically immediately or in the following month.



Other

Other non-interest income consists of safe deposit rental fees and other miscellaneous revenue streams. Safe deposit box rental fees are charged to the customer on an annual basis and recognized upon receipt of payment. The Company determined that since rentals and renewals occur fairly consistently over time, revenue is recognized on a basis consistent with the duration of the performance obligation.



Gain/Losses on Sale of OREO

The Company records a gain or loss from the sale of OREO when control of the property transfers to the buyer, which generally occurs at the time of an executed deed. When the Company finances the sale of OREO to the buyer, the Company assesses whether the buyer is committed to perform their obligations under the contract and whether collectability of the transaction price is probable.  Once these criteria are met, the OREO asset is derecognized and the gain or loss on sale is recorded upon the transfer of control of the property to the buyer.  In determining the gain or loss on the sale, the Company adjusts the transaction price and related gain (loss) on sale if a significant financing component is present.  There were no sales of OREO in which the Company financed the sale during the three and six months ended June 30, 2018.

Contract Balances



The Company’s non-interest revenue streams are largely based on transactional activity. Consideration is often received immediately or shortly after the Company satisfies its performance obligation and revenue is recognized. The Company does not typically enter into long-term revenue contracts with customers, and therefore, does not experience significant contract balances. As of June 30, 2018 and December 31, 2017, the Company did not have any significant contract balances.



The following presents non-interest income, segregated by revenue streams in-scope and out-of-scope of Topic 606, for the three and six months ended June 30, 2018 and 2017:



 

 

 

 

 

 

 

 

 

 

 

 



 

For the Three Months Ended

 

For the Six Months Ended



 

June 30, 2018

 

June 30, 2017

 

June 30, 2018

 

June 30, 2017



 

(Dollars in thousands)

Non-Interest Income

 

 

 

 

 

 

 

 

 

 

 

 

In-Scope of Topic 606:

 

 

 

 

 

 

 

 

 

 

 

 

  Service charges on deposit accounts

 

$

219 

 

$

232 

 

$

437 

 

$

469 

  Fees, interchange income and other service charges

 

 

206 

 

 

192 

 

 

392 

 

 

365 

  Other

 

 

38 

 

 

41 

 

 

85 

 

 

78 

Non-interest Income (in-scope of Topic 606)

 

 

463 

 

 

465 

 

 

914 

 

 

912 

Non-interest Income (out of scope of Topic 606)

 

 

194 

 

 

342 

 

 

333 

 

 

525 

Total Non-Interest Income

 

$

657 

 

$

807 

 

$

1,247 

 

$

1,437 







32


 

Note 12 – Subsequent Events



On July 25, 2018, the Board of Directors declared a quarterly cash dividend of $0.10 per share on the Company’s common stock, payable on August 21, 2018 to shareholders of record as of August 7, 2018. Lake Shore, MHC (the “MHC”), which holds 3,636,875 shares, or approximately 60.1% of the Company’s total outstanding stock, elected to waive its right to receive this cash dividend of approximately $364,000. On March 9, 2018, the MHC received the non-objection of the Federal Reserve Bank of Philadelphia to waive its right to receive dividends paid by the Company during the twelve months ending February 7, 2019, aggregating up to $0.40 per share. The MHC waived $364,000 of dividends during the three months ended June 30, 2018 and $728,000 during the six months ended June 30, 2018. Cumulatively, Lake Shore, MHC has waived approximately $10.1 million of cash dividends as of June 30, 2018. The dividends waived by Lake Shore, MHC are considered a restriction on the retained earnings of the Company.



Item 2.  Management’s Discussion and Analysis of Financial Condition and Results of Operations.



Forward-Looking Statements



This Quarterly Report on Form 10-Q contains certain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.  Such statements may be identified by words such as “believe,” “will,” “expect,” “project,” “may,” “could,” “anticipate,” “estimate,” “intend,” “plan,” “targets” and similar expressions.  These statements are based upon our current beliefs and expectations and are subject to significant risks and uncertainties.  Actual results may differ materially from those set forth in the forward-looking statements as a result of numerous factors.



The following factors, including the factors set forth in Part II, Item 1A of this Quarterly Report on Form 10-Q (if applicable) and in Part I, Item 1A of the Company’s Annual Report on Form 10-K for the year ended December 31, 2017, among others, could cause actual results to differ materially from the anticipated results or other expectations expressed in our forward-looking statements:



·

general and local economic conditions;



·

changes in interest rates, deposit flows, demand for mortgages and other loans, real estate values and competition;



·

the ability of our customers to make loan payments;



·

our ability to continue to control costs and expenses;



·

changes in accounting principles, policies or guidelines;



·

our success in managing the risks involved in our business;



·

inflation, and market and monetary fluctuations;



·

the impact of more stringent capital requirements being imposed by banking regulators;



·

changes in legislation or regulation, including the implementation of the Dodd-Frank Act; and



·

other economic, competitive, governmental, regulatory and technological factors affecting our operations, pricing, products and services.



Any or all of our forward-looking statements in this Quarterly Report on Form 10-Q and in any other public statements we make may differ from actual outcomes.  They can be affected by inaccurate assumptions we might make or known or unknown risks and uncertainties.  Consequently, no forward-looking statements can

33


 

be guaranteed.  We undertake no obligation to publicly update any forward looking statement, whether as a result of new information, future events or otherwise.



Overview

The following discussion and analysis is presented to assist in the understanding and evaluation of our consolidated financial condition and results of operations.  It is intended to complement the unaudited consolidated financial statements and notes thereto appearing elsewhere in this Form 10-Q and should be read in conjunction therewith.  The detailed discussion focuses on our consolidated financial condition as of June 30, 2018 compared to the consolidated financial condition as of December 31, 2017 and the consolidated results of operations for the three and six months ended June 30, 2018 and 2017.

Our results of operations depend primarily on our net interest income, which is the difference between the interest income we earn on loans and investments and the interest expense we pay on deposits, borrowings and other interest-bearing liabilities.  Net interest income is affected by the relative amounts of interest-earning assets and interest-bearing liabilities and the interest rates we earn or pay on these balances.  

Our operations are also affected by non-interest income, such as service charges and fees and gains and losses on the sales of securities and loans, our provision for loan losses and non-interest expenses which include salaries and employee benefits, occupancy and equipment costs, data processing, professional services, advertising and other general and administrative expenses. 

Financial institutions like us, in general, are significantly affected by economic conditions, competition, and the monetary and fiscal policies of the federal government.  Lending activities are influenced by the demand for and supply of housing and commercial real estate, competition among lenders, interest rate conditions, and funds availability.  Our operations and lending are principally concentrated in the Western New York area, and our operations and earnings are influenced by local economic conditions.  Deposit balances and cost of funds are influenced by prevailing market rates on competing investments, customer preferences, and levels of personal income and savings in our primary market area. Operations are also significantly impacted by government policies and actions of regulatory authorities. Future changes in applicable law, regulations or government policies may materially impact the Company.  



To operate successfully, we must manage various types of risk, including but not limited to, interest rate risk, credit risk, liquidity risk, operational and information technology risks, strategic risk, reputation risk and compliance risk.   A significant form of market risk for the Company is interest rate risk, as the Company’s assets and liabilities are sensitive to changes in interest rates.  Interest rate risk is the exposure of our net interest income to adverse movements in interest rates. Net interest income is our primary source of revenue and interest rate risk is a significant non-credit related risk to which our Company is exposed. Net interest income is affected by changes in interest rates as well as fluctuations in the level and duration of our assets and liabilities. In addition to directly impacting net interest income, changes in interest rates can also affect the amount of new loan originations, the ability of borrowers and debt issuers to repay loans and debt securities, the volume of loan repayments and refinancing, the flow and mix of deposits and the fair value of available for sale securities.  In recent years, the Company has adjusted its strategies to manage interest rate risk by originating a greater volume of shorter-term, adjustable rate commercial real estate and commercial business loans and increasing its concentration of core deposits, which are less interest rate sensitive.

Credit risk is the risk to our earnings and stockholders’ equity that results from customers, to whom loans have been made, and from issuers of debt securities in which the Company has invested, failing to repay their obligations. The magnitude of this risk depends on the capacity and willingness of borrowers and debt issuers to repay and the sufficiency of the value of collateral obtained to secure the loans made or investments purchased.  This risk is managed by policies approved by the Company’s Board of Directors, review of compliance with the policies and periodic reporting and evaluation of loans or securities that are non-performing or demonstrate other characteristics of potential loss.



34


 

Management Strategy

There have been no material changes in the Company’s management strategy from what was disclosed in the Company’s Annual Report on Form 10-K for the year ended December 31, 2017.



Critical Accounting Policies

Disclosure of the Company’s significant accounting policies is included in the notes to the consolidated financial statements of the Company’s Annual Report on Form 10-K for the year ended December 31, 2017. Some of these policies require significant judgment, estimates and assumptions to be made by management, most particularly in connection with determining the provision for loan losses and the appropriate level of the allowance for loan losses, as well as management’s evaluation of securities valuation, impairment of securities and income taxes. There have been no material changes in critical accounting policies since December 31, 2017.  



Analysis of Net Interest Income

Net interest income represents the difference between the interest we earn on our interest-earning assets, such as commercial loans, residential mortgage loans and investment securities, and the expense we pay on interest-bearing liabilities, such as deposits and borrowings.  Net interest income depends on both the volume of our interest-earning assets and interest-bearing liabilities and the interest rates we earn or pay on them.



Average Balances, Interest and Average Yields. The following tables set forth certain information relating to our average balance sheet and reflect the average yield on interest-earning assets and average cost of interest-bearing liabilities, interest earned and interest paid for the periods indicated. Such yields and costs are derived by dividing interest income or expense by the average balance of interest-earning assets or interest-bearing liabilities, respectively, for the periods indicated. Average balances are derived from daily balances over the periods indicated. The average balances for loans are net of allowance for loan losses, but include non-accrual loans. Interest income on securities does not include a tax equivalent adjustment for bank qualified municipal bonds.





 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

35


 



 

For the Three Months Ended

 

For the Three Months Ended



 

June 30, 2018

 

June 30, 2017



 

Average

 

Interest Income/

 

Yield/

 

Average

 

Interest Income/

 

Yield/



 

Balance

 

Expense

 

Rate

 

Balance

 

Expense

 

Rate



 

(Dollars in thousands)

Interest-earning assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest-earning deposits & federal funds sold

 

$

39,577 

 

$

169 

 

1.71% 

 

$

28,326 

 

$

48 

 

0.68% 

Securities(1)

 

 

83,831 

 

 

653 

 

3.12% 

 

 

82,126 

 

 

621 

 

3.02% 

Loans

 

 

374,571 

 

 

4,445 

 

4.75% 

 

 

348,486 

 

 

4,105 

 

4.71% 

Total interest-earning assets

 

 

497,979 

 

 

5,267 

 

4.23% 

 

 

458,938 

 

 

4,774 

 

4.16% 

Other assets

 

 

38,219 

 

 

 

 

 

 

 

37,252 

 

 

 

 

 

Total assets

 

$

536,198 

 

 

 

 

 

 

$

496,190 

 

 

 

 

 



 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest-bearing liabilities

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Demand & NOW accounts

 

$

50,581 

 

$

14 

 

0.11% 

 

$

50,820 

 

$

16 

 

0.13% 

Money market accounts

 

 

115,484 

 

 

198 

 

0.69% 

 

 

83,763 

 

 

59 

 

0.28% 

Savings accounts

 

 

53,769 

 

 

 

0.05% 

 

 

54,435 

 

 

 

0.05% 

Time deposits

 

 

149,216 

 

 

482 

 

1.29% 

 

 

148,250 

 

 

417 

 

1.13% 

Borrowed funds

 

 

26,446 

 

 

140 

 

2.12% 

 

 

19,390 

 

 

97 

 

2.00% 

Other interest-bearing liabilities

 

 

827 

 

 

19 

 

9.19% 

 

 

886 

 

 

21 

 

9.48% 

Total interest-bearing liabilities

 

 

396,323 

 

 

860 

 

0.87% 

 

 

357,544 

 

 

617 

 

0.69% 

Other non-interest bearing liabilities

 

 

61,258 

 

 

 

 

 

 

 

61,201 

 

 

 

 

 

Stockholders' equity

 

 

78,617 

 

 

 

 

 

 

 

77,445 

 

 

 

 

 

Total liabilities & stockholders' equity

 

$

536,198 

 

 

 

 

 

 

$

496,190 

 

 

 

 

 

Net interest income

 

 

 

 

$

4,407 

 

 

 

 

 

 

$

4,157 

 

 

Interest rate spread

 

 

 

 

 

 

 

3.36% 

 

 

 

 

 

 

 

3.47% 

Net interest margin

 

 

 

 

 

 

 

3.54% 

 

 

 

 

 

 

 

3.62% 



(1)

The tax equivalent adjustment for bank qualified municipal securities results in rates of 3.62% and 4.09% for the three months ended June 30, 2018 and 2017, respectively.







 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

36


 



 

For the Six Months Ended

 

For the Six Months Ended



 

June 30, 2018

 

June 30, 2017



 

Average

 

Interest Income/

 

Yield/

 

Average

 

Interest Income/

 

Yield/



 

Balance

 

Expense

 

Rate

 

Balance

 

Expense

 

Rate



 

(Dollars in thousands)

Interest-earning assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest-earning deposits & federal funds sold

 

$

36,034 

 

$

282 

 

1.57% 

 

$

28,950 

 

$

86 

 

0.59% 

Securities(1)

 

 

82,304 

 

 

1,276 

 

3.10% 

 

 

84,309 

 

 

1,279 

 

3.03% 

Loans

 

 

372,014 

 

 

8,817 

 

4.74% 

 

 

341,863 

 

 

8,167 

 

4.78% 

Total interest-earning assets

 

 

490,352 

 

 

10,375 

 

4.23% 

 

 

455,122 

 

 

9,532 

 

4.19% 

Other assets

 

 

38,075 

 

 

 

 

 

 

 

37,021 

 

 

 

 

 

Total assets

 

$

528,427 

 

 

 

 

 

 

$

492,143 

 

 

 

 

 



 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest-bearing liabilities

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Demand & NOW accounts

 

$

50,081 

 

$

27 

 

0.11% 

 

$

51,114 

 

$

32 

 

0.13% 

Money market accounts

 

 

109,789 

 

 

334 

 

0.61% 

 

 

81,964 

 

 

111 

 

0.27% 

Savings accounts

 

 

53,195 

 

 

15 

 

0.06% 

 

 

53,791 

 

 

15 

 

0.06% 

Time deposits

 

 

149,323 

 

 

942 

 

1.26% 

 

 

148,008 

 

 

818 

 

1.11% 

Borrowed funds

 

 

26,696 

 

 

279 

 

2.09% 

 

 

19,171 

 

 

189 

 

1.97% 

Other interest-bearing liabilities

 

 

832 

 

 

39 

 

9.38% 

 

 

901 

 

 

42 

 

9.32% 

Total interest-bearing liabilities

 

 

389,916 

 

 

1,636 

 

0.84% 

 

 

354,949 

 

 

1,207 

 

0.68% 

Other non-interest bearing liabilities

 

 

59,889 

 

 

 

 

 

 

 

60,073 

 

 

 

 

 

Stockholders' equity

 

 

78,622 

 

 

 

 

 

 

 

77,121 

 

 

 

 

 

Total liabilities & stockholders' equity

 

$

528,427 

 

 

 

 

 

 

$

492,143 

 

 

 

 

 

Net interest income

 

 

 

 

$

8,739 

 

 

 

 

 

 

$

8,325 

 

 

Interest rate spread

 

 

 

 

 

 

 

3.39% 

 

 

 

 

 

 

 

3.51% 

Net interest margin

 

 

 

 

 

 

 

3.56% 

 

 

 

 

 

 

 

3.66% 



(1)

The tax equivalent adjustment for bank qualified municipal securities results in rates of 3.61% and 4.10% for the six months ended June 30, 2018 and 2017, respectively.









Rate Volume Analysis.  The following tables analyze the dollar amount of changes in interest income and interest expense for major components of interest-earning assets and interest-bearing liabilities.  The tables show the amount of the change in interest income or expense caused by either changes in outstanding balances (volume) or changes in interest rates.  The effect of a change in volume is measured by applying the average rate during the first period to the volume change between the two periods.  The effect of changes in rate is measured by applying the change in rate between the two periods to the average volume during the first period. Changes attributable to both rate and volume, which cannot be segregated, have been allocated proportionately to the absolute value of the change due to volume and the change due to rate.









 

 

 

 

 

 

 

 

 

37


 



 

Three Months Ended June 30, 2018



 

Compared to



 

Three Months Ended June 30, 2017



 

Rate

 

Volume

 

Net Change



 

 

(Dollars in thousands)

Interest-earning assets:

 

 

 

 

 

 

 

 

 

Interest-earning deposits & federal funds sold

 

$

96 

 

$

25 

 

$

121 

Securities

 

 

19 

 

 

13 

 

 

32 

Loans, including fees

 

 

31 

 

 

309 

 

 

340 

Total interest-earning assets

 

 

146 

 

 

347 

 

 

493 

Interest-bearing liabilities:

 

 

 

 

 

 

 

 

 

Demand & NOW accounts

 

 

(2)

 

 

 -

 

 

(2)

Money market accounts

 

 

110 

 

 

29 

 

 

139 

Savings accounts

 

 

 -

 

 

 -

 

 

 -

Time deposits

 

 

62 

 

 

 

 

65 

Total deposits

 

 

170 

 

 

32 

 

 

202 

Other interest-bearing liabilities:

 

 

 

 

 

 

 

 

 

Borrowed funds & other interest-bearing liabilities

 

 

 

 

36 

 

 

41 

Total interest-bearing liabilities

 

 

175 

 

 

68 

 

 

243 

Total change in net interest income

 

$

(29)

 

$

279 

 

$

250 

 

 

 

 

 

 

 

 

 

 







 

 

 

 

 

 

 

 

 



 

Six Months Ended June 30, 2018



 

Compared to



 

Six Months Ended June 30, 2017



 

Rate

 

Volume

 

 

Net Change



 

(Dollars in thousands)

Interest-earning assets:

 

 

 

 

 

 

 

 

 

Interest-earning deposits & federal funds sold

 

$

170 

 

$

26 

 

$

196 

Securities

 

 

28 

 

 

(31)

 

 

(3)

Loans, including fees

 

 

(65)

 

 

715 

 

 

650 

Total interest-earning assets

 

 

133 

 

 

710 

 

 

843 

Interest-bearing liabilities:

 

 

 

 

 

 

 

 

 

Demand & NOW accounts

 

 

(4)

 

 

(1)

 

 

(5)

Money market accounts

 

 

175 

 

 

48 

 

 

223 

Savings accounts

 

 

 -

 

 

 -

 

 

 -

Time deposits

 

 

117 

 

 

 

 

124 

Total deposits

 

 

288 

 

 

54 

 

 

342 

Other interest-bearing liabilities:

 

 

 

 

 

 

 

 

 

Borrowed funds & other interest-bearing liabilities

 

 

12 

 

 

75 

 

 

87 

Total interest-bearing liabilities

 

 

300 

 

 

129 

 

 

429 

Total change in net interest income

 

$

(167)

 

$

581 

 

$

414 



















The average balance of the loan portfolio increased by $26.1 million, or 7.5%, during the three months ended June 30, 2018 as compared to the second quarter of 2017. This increase was primarily due to an increase in the average balance of higher yielding commercial real estate, home equity and commercial business loans, which had a positive impact on the overall average yield of interest-earning assets during the second quarter of 2018, which increased by seven basis points. The 18 basis points increase in the average interest rate paid

38


 

on interest bearing liabilities during the three month period ended June 30, 2018 as compared to second quarter 2017 was primarily due to an increase in the average interest rates being paid as a result of an increase in market rates and competition for deposit accounts.  The net interest margin and interest rate spread decreased by eight basis points and eleven basis points, respectively, for the three months ended June 30, 2018 as compared to the three months ended June 30, 2017, primarily due to the increase in average interest rates being paid on interest bearing liabilities during the second quarter of 2018.



The average balance of the loan portfolio increased by $30.2 million, or 8.8%, during the six months ended June 30, 2018 as compared to the same six month period in 2017. The increase in the average balance of the loan portfolio was primarily due to an increase in the average balance of higher yielding commercial real estate, home equity and commercial business loans.  The decrease in the average yield of the loan portfolio during the six months ended June 30, 2018, when compared to the same period in the prior year, was partially due to the prior year receipt of $202,000 of interest income on one non-performing commercial real estate loan which paid off during the six months ended June 30, 2017. The increase in the average interest rate paid on interest bearing liabilities during the six months ended June 30, 2018 as compared to the same period in 2017 was primarily due to an increase in the average interest rates being paid on money market accounts, time deposit accounts and borrowings as a result of an increase in market rates and competition for deposit accounts.  The  increase in average interest rates being paid on interest bearing liabilities and the prior year receipt of $202,000 of loan interest income on one non-performing commercial real estate loan which paid off during the first six months of 2017 resulted in a decrease in the net interest margin and interest rate spread. The net interest margin and interest rate spread decreased by ten basis points and twelve basis points, respectively, for the six months ended June 30, 2018 as compared to the six months ended June 30, 2017, primarily due to the increase in average interest rates being paid on interest bearing liabilities during the six months ended June 30, 2018.



Comparison of Financial Condition at June 30, 2018 and December 30, 2017



Total assets at June 30, 2018 were $543.3 million, an increase of $24.3 million, or 4.7%, from $519.0 million at December 31, 2017.  The increase in total assets was primarily due to a $17.3 million increase in loans receivable, a $4.5 million increase in securities available for sale and a $2.2 million increase in cash and cash equivalents.

Cash and cash equivalents increased by $2.2 million, or 5.4%, from $40.9 million at December 31, 2017 to $43.1 million at June 30, 2018.  The increase was primarily due to a $27.2 million increase in deposits, partially offset by a net cash outflow of $17.8 million relating to net loan originations and principal collections and a net outflow of $5.8 million for purchases, sales and maturities on the investment portfolio during the six months ended June 30, 2018. 

Securities available for sale increased by $4.5 million, or 5.6%, to $84.9 million at June 30, 2018 compared to $80.4 million at December 31, 2017.  The increase was primarily due to $10.0 million of new securities purchased, partially offset by the receipt of $4.3 million for maturities, prepayments and calls of securities and a $1.3 million decrease in unrealized gains on the securities portfolio during the six months ended June 30, 2018. The decrease in unrealized gains on the securities portfolio was primarily due to an increase in market interest rates during the first six months of 2018.



39


 

Net loans receivable increased during the six months ended June 30, 2018 as shown in the table below:





 

 

 

 

 

 

 

 

 

 

 

 



 

At June 30,

 

At December 31,

 

Change



 

2018

 

2017

 

$

 

%



 

(Dollars in thousands)

Real Estate Loans:

 

 

 

 

 

 

 

 

 

 

 

 

Residential, one- to four-family

 

$

145,174 

 

$

144,565 

 

$

609 

 

0.4 

%

Home equity

 

 

39,957 

 

 

38,078 

 

 

1,879 

 

4.9 

%

Commercial

 

 

136,902 

 

 

122,747 

 

 

14,155 

 

11.5 

%

Construction - Commercial

 

 

29,248 

 

 

30,802 

 

 

(1,554)

 

(5.0)

%

Construction - Residential, one- to four-family

 

 

241 

 

 

49 

 

 

192 

 

391.8 

%

Total real estate loans

 

 

351,522 

 

 

336,241 

 

 

15,281 

 

4.5 

%

Other Loans:

 

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

 

29,713 

 

 

27,612 

 

 

2,101 

 

7.6 

%

Consumer

 

 

1,365 

 

 

1,355 

 

 

10 

 

0.7 

%

Total gross loans

 

 

382,600 

 

 

365,208 

 

 

17,392 

 

4.8 

%

Allowance for loan losses

 

 

(3,474)

 

 

(3,283)

 

 

(191)

 

5.8 

%

Net deferred loan costs

 

 

3,193 

 

 

3,138 

 

 

55 

 

1.8 

%

Loans receivable, net

 

$

382,319 

 

$

365,063 

 

$

17,256 

 

4.7 

%



As fixed rate one- to four-family residential real estate loans present additional interest rate risk to our loan portfolio as a result of the longer duration of these types of assets, we remain strategically focused in 2018 on originating shorter duration commercial real estate and commercial business loans to diversify our asset mix, to reduce interest rate risk, to take advantage of the opportunities available to serve small businesses in our market area, and to increase our net interest margin.



40


 

Loans Past Due and Non-Performing Assets.  The following table presents information regarding our non-accrual loans, accruing loans delinquent 90 days or more, non-performing loans, foreclosed real estate, and non-performing and performing loans classified as troubled debt restructurings, as of the dates indicated.

























 

 

 

 

 

 

 



 

At June 30,

 

At December 31,

 



 

2018

 

2017

 



 

(Dollars in thousands)

 

Loans past due 90 days or more but still accruing:

 

 

 

 

 

 

 

Real estate loans:

 

 

 

 

 

 

 

Residential, one- to four-family

 

$

120 

 

$

 -

 

Home equity

 

 

 

 

 -

 

Commercial

 

 

 -

 

 

 -

 

Construction – Commercial and Residential, one- to four-family

 

 

 -

 

 

 -

 

Other loans:

 

 

 

 

 

 

 

Commercial

 

 

 -

 

 

 -

 

Consumer

 

 

 -

 

 

 -

 

Total

 

$

124 

 

$

 -

 

Loans accounted for on a non-accrual basis:

 

 

 

 

 

 

 

Real estate loans:

 

 

 

 

 

 

 

Residential, one- to four-family

 

$

2,161 

 

$

2,196 

 

Home equity

 

 

273 

 

 

235 

 

Commercial

 

 

2,111 

 

 

1,323 

 

Construction – Commercial and Residential, one- to four-family

 

 

 -

 

 

 -

 

Other loans:

 

 

 

 

 

 

 

Commercial

 

 

76 

 

 

54 

 

Consumer

 

 

22 

 

 

25 

 

Total non-accrual loans

 

 

4,643 

 

 

3,833 

 

Total non-performing loans

 

 

4,767 

 

 

3,833 

 

Foreclosed real estate

 

 

479 

 

 

435 

 

Total non-performing assets

 

$

5,246 

 

$

4,268 

 

Ratios:

 

 

 

 

 

 

 

Non-performing loans as a percent of total loans:

 

 

1.25 

%

 

1.05 

%

Non-performing assets as a percent of total assets:

 

 

0.97 

%

 

0.82 

%

Troubled debt restructuring:

 

 

 

 

 

 

 

Loans accounted for on a non-accrual basis

 

 

 

 

 

 

 

Real estate loans:

 

 

 

 

 

 

 

Home equity

 

$

19 

 

$

19 

 

Performing loans

 

 

 

 

 

 

 

Real estate loans:

 

 

 

 

 

 

 

Residential, one- to four-family

 

$

181 

 

$

184 

 

Home equity

 

 

 -

 

 

 











Total non-performing loans increased by $934,000, or 24.4%, to $4.8 million at June 30, 2018 from $3.8 million at December 31, 2017, primarily due to an increase in non-performing commercial real estate loans. Management is actively pursuing all actions necessary to collect the outstanding balance on all non-performing loans, which may include foreclosure on the related properties.





41


 

The following table sets forth activity in our allowance for loan losses and other ratios at or for the dates indicated.



 

 

 

 

 

 



 

At or for the Six Months Ended June 30,



 

2018

 

2017



 

(Dollars in thousands)

Balance at beginning of period

 

$

3,283 

 

$

2,882 

Provision for loan losses

 

  

190 

 

  

375 

Charge-offs:

 

  

 

 

  

 

Real estate loans:

 

  

 

 

  

 

Residential, one- to four-family

 

  

 -

 

  

 -

Home equity

 

  

 -

 

  

(3)

Commercial

 

  

 -

 

  

 -

Construction – Commercial and Residential, one- to four-family

 

  

 -

 

  

 -

Other loans:

 

  

 

 

  

 

Commercial

 

  

 -

 

  

(18)

Consumer

 

  

(23)

 

  

(28)

Total charge-offs

 

  

(23)

 

  

(49)

Recoveries:

 

  

 

 

  

 

Real estate loans:

 

  

 

 

  

 

Residential, one- to four-family

 

  

18 

 

  

Home equity

 

  

 

  

Commercial

 

  

 -

 

  

 -

Construction – Commercial and Residential, one- to four-family

 

  

 -

 

  

 -

Other loans:

 

  

 

 

  

 

Commercial

 

  

 

  

Consumer

 

  

 

  

10 

Total recoveries

 

  

24 

 

  

15 

Net recoveries (charge-offs)

 

  

 

  

(34)

Balance at end of period

 

$

3,474 

 

$

3,223 

Average loans outstanding

 

$

372,014 

 

$

341,863 

Allowance for loan losses as a percent of total net loans

 

 

0.91% 

 

 

0.89% 

Allowance for loan losses as a percent of non-performing loans

 

 

72.88% 

 

 

78.10% 

Ratio of net charge-offs to average loans outstanding(1)

 

  

0.00% 

 

  

(0.02)%



(1) Annualized

42


 

The table below shows changes in deposit balances by type of deposit account between June 30, 2018 and December 31, 2017:





 

 

 

 

 

 

 

 

 

 

 

 



 

At June 30,

 

At December 31,

 

Change



 

2018

 

2017

 

$

 

%



 

(Dollars in thousands)

Core Deposits

 

 

 

 

 

 

 

 

 

 

 

 

Demand deposits and NOW accounts:

 

 

 

 

 

 

 

 

 

 

 

 

Non-interest bearing

 

$

56,974 

 

$

54,618 

 

$

2,356 

 

4.3 

%

Interest bearing

 

 

52,600 

 

 

49,869 

 

 

2,731 

 

5.5 

%

Money market

 

 

121,038 

 

 

99,305 

 

 

21,733 

 

21.9 

%

Savings

 

 

53,334 

 

 

52,922 

 

 

412 

 

0.8 

%

Total core deposits

 

 

283,946 

 

 

256,714 

 

 

27,232 

 

10.6 

%

Non-core Deposits

 

 

 

 

 

 

 

 

 

 

 

 

Time deposits

 

 

148,365 

 

 

148,439 

 

 

(74)

 

 -

%

Total deposits

 

$

432,311 

 

$

405,153 

 

$

27,158 

 

6.7 

%



The increase in total deposits was primarily due to growth in core deposits. The growth in core deposits was the result of the Company’s continued strategic focus on growing lower-cost core deposits among its retail and commercial customers in an effort to manage interest expense and strengthen customer relationships.



Our borrowings, consisting of advances from the Federal Home Loan Bank of New York (“FHLBNY”), decreased by $2.3 million, or 8.5%, from $27.0 million at December 31, 2017 to $24.7 million at June 30, 2018. Excess liquidity was used to pay off long-term debt which matured during the first six months of 2018.

Total stockholders’ equity increased $154,000, or 0.2%, from $78.4 million at December 31, 2017 to $78.5 million at June 30, 2018.  The increase in stockholders’ equity was primarily attributed to net income of $1.9 million and a $100,000 increase in additional paid in capital attributed to stock based compensation, partially offset by $892,000 in other comprehensive losses, $572,000 of stock repurchases and $458,000 in cash dividends paid during the first six months of 2018.



Comparison of Results of Operations for the Three Months Ended June 30, 2018 and 2017

General. Net income was $1.0 million for the three months ended June 30, 2018, or $0.16 per diluted share, a decrease of $136,000, or 11.9%, compared to net income of $1.1 million, or $0.19 per diluted share, for the three months ended June 30, 2017.  Net income for the three months ended June 30, 2018 reflected a $280,000 increase in non-interest expenses, a $150,000 decrease in non-interest income and a $90,000 increase in provision for loan losses which was partially offset by a $250,000 increase in net interest income and a $134,000 decrease in income tax expense.

Interest Income.    Interest income increased by $493,000, or 10.3%, for the three months ended June 30, 2018 compared to the three months ended June 30, 2017 primarily due to an increase in loan interest income. Loan interest income increased by $340,000, or 8.3%, to $4.4 million for the three months ended June 30, 2018 compared to the three months ended June 30, 2017, primarily due to an increase in the average balance of the loan portfolio by $26.1 million, or 7.5%, from $348.5 million for the three months ended June 30, 2017 to $374.6 million for the three months ended June 30, 2018. The average yield on the loan portfolio increased from 4.71% for the three months ended June 30, 2017 to 4.75% for the three months ended June 30, 2018. The increase in the average balance and average yield of loans was primarily due to an increase in the average balance of higher yielding commercial real estate, home equity and commercial business loans.

Investment interest income increased $32,000, or 5.2%, for the three months ended June 30, 2018 compared to the three months ended June 30, 2017.  The average yield on the investment portfolio increased from

43


 

3.02% for the three months ended June 30, 2017 to 3.12% for the three months ended June 30, 2018. The increase in the average yield was primarily due to the purchase of higher yielding securities and the paydowns and sales of lower yielding securities. The average balance of the investment portfolio increased from $82.1 million for the three months ended June 30, 2017 to $83.8 million for the three months ended June 30, 2018. The increase was primarily due to the purchase of securities, which was partially offset by sales proceeds and paydowns received on the securities portfolio since June 30, 2017.

Other interest income was $169,000 for the three months ended June 30, 2018, a $121,000, or 252.1%, increase as compared to the three months ended June 30, 2017.  This increase was primarily due to a 103 basis points increase in the average yield on the interest-earning deposits and federal funds sold portfolio. The average yield increased from 0.68% for the three months ended June 30, 2017 to 1.71% for the three months ended June 30, 2018. The average yield increased as a result of a 75 basis points increase in the fed funds rate since June 30, 2017. The average balance of the interest-earning deposits and federal funds sold portfolio increased by $11.3 million, or 39.7%, from $28.3 million for the three months ended June 30, 2017 to $39.6 million for the three months ended June 30, 2018. The increase in the average balance was primarily due to an increase in deposits that have not yet been utilized to fund loan originations or securities purchases.

Interest Expense.    Interest expense increased $243,000, or 39.4%, to $860,000 for the three months ended June 30, 2018 compared to $617,000 for the three months ended June 30, 2017.   Interest paid on deposits increased by $202,000, or 40.5%, to $701,000 for the three months ended June 30, 2018 when compared to the three months ended June 30, 2017. Interest expense was primarily impacted by a 41 and 16 basis points increase, respectively, in the average interest rates paid on money market and time deposit accounts as a result of the increase in short term market interest rates since June 30, 2017. The increase was also due to a $30.8 million increase in average core deposits for the three months ended June 30, 2018 as compared to the three months ended June 30, 2017 as a result of the Company’s continued strategic focus on growing lower cost core deposits. The average balance of deposits for the three months ended June 30, 2018 was $369.1 million with an average rate of 0.76% compared to the average balance of deposits of $337.3 million and an average rate of 0.59% for the three months ended June 30, 2017.

The interest expense related to advances from the FHLBNY increased $43,000, or 44.3%, to $140,000 for the three months ended June 30, 2018 when compared to the three months ended June 30, 2017, as a result of an increase in the average balance and average rate of FHLBNY advances. The average balance of advances from the FHLBNY for the three months ended June 30, 2018 was $26.4 million with an average rate of 2.12% compared to an average balance of $19.4 million and an average rate of 2.00% for the three months ended June 30, 2017. The increase in the average balance was due to additional borrowings that allowed the Bank to take advantage of low fixed-rates to fund loan growth and the increase in the average rate paid was primarily due to the increase in market interest rates since the three months ended June 30, 2017.

Provision for Loan Losses.  An $115,000 provision to the allowance for loan losses was recorded during the three months ended June 30, 2018, which was a $90,000, or 360.0%, increase in comparison to the provision recorded during the three months ended June 30, 2017. The increase in the provision expense was primarily due to the downgrade in loan classification for one commercial business loan and an increase in reserves associated with impaired commercial real estate loans during the three months ended June 30, 2018. 

The $115,000 provision recorded during the three months ended June 30, 2018 was a result of a comprehensive quarterly evaluation.  The evaluation reflects analyses of individual borrowers and historical loss experience, supplemented as necessary by credit judgment that considers observable trends, conditions, and other relevant environmental and economic factors.  The quarterly evaluation consisted of the following:



·

$182,000 provision for commercial real estate loans, which included a:

o

$122,000 general allowance on performing commercial real estate loans, primarily due to a $10.6 million increase in the loan portfolio during the second quarter of 2018 to reflect inherent losses within the portfolio;

o

$60,000 provision for an increase in reserves associated with impaired commercial real estate loans during the three months ended June 30, 2018; 

·

$27,000 net provision for commercial business loans which included a:

44


 

o

$72,000 provision to reflect the downgrade of one commercial business loan; which was partially offset by a

o

$45,000 credit provision for changes in the related environmental factors used to qualitatively assess inherent loan losses on commercial business loans;

·

$90,000 net credit for one-to four-family, home equity, consumer and construction commercial loans, which included a:

o

$69,000 credit provision for changes in the related environmental factors used to qualitatively assess inherent loan losses on one-to four-family and home equity loans; and 

o

$21,000 decrease in general allowance on performing commercial - construction loans, primarily due to a $1.8 million decrease in the loan portfolio during the second quarter of 2018; and

·

$4,000 unallocated credit to the provision for loan losses, to reflect the margin of imprecision inherent in the underlying assumptions used in the methodologies for estimating allocated and general losses in the portfolio.



During the three months ended June 30, 2017, the Company recorded a $25,000 provision to the allowance for loan losses.  The provision primarily consisted of the following: 

·

$80,000 net credit provision for commercial real estate loans which included a:

o

$140,000 credit provision attributed to a net decrease in reserves being set aside for impaired loans.  This was primarily due to an increase in the estimated value of the collateral for one impaired commercial real estate loan, as a result of an increase in the occupancy rate; which was partially offset by

o

$60,000 provision to record probable inherent losses on commercial real estate loans originated during the quarter. The commercial real estate loan portfolio increased by $5.3 million, or 4.5%, during the three months ended June 30, 2017;

·

$110,000 provision on performing construction loans primarily due to a $9.9 million, or 55.2%, increase in the construction loan portfolio during the three months ended June 30, 2017, to reflect inherent losses within the portfolio;

·

$50,000 credit provision for commercial business loans primarily related to changes in the environmental factors used to qualitatively assess inherent loan losses;

·

$28,000 provision on one-to four-family, home equity and consumer loans primarily to reflect an increase in classified loans during the three months ended June 30, 2017; and

·

$17,000 provision to reflect the margin of imprecision inherent in the underlying assumptions used in the methodologies for estimating allocated and general losses in the portfolio.



Refer to Note 4 of the Notes to the Consolidated Financial Statements for additional details on the provision for loan losses.

Non-interest Income.    Non-interest income decreased by $150,000, or 18.6%, to $657,000 for the three months ended June 30, 2018 as compared to $807,000 for the three months ended June 30, 2017. The decrease was primarily attributed to a $197,000 pre-tax realized gain on the sale of securities during the second quarter of 2017 as compared to there being no sales of securities during the second quarter of 2018. The decrease was partially offset by a $36,000 increase in recoveries on previously impaired investment securities during the three months ended June 30, 2018 as compared to the three months ended June 30, 2017.  



Non-interest Expenses.  Non-interest expenses increased $280,000, or 8.0%, from $3.5 million for the three months ended June 30, 2017 to $3.8 million for the three months ended June 30, 2018.  Salaries and employee benefits increased $212,000, or 11.6%, primarily due to annual salary increases and higher expenses related to health insurance, retirement benefits and stock compensation awards.  Other expenses increased $41,000, or 13.8%, primarily due to an increase in charitable donations. Data processing expenses increased $25,000, or 8.1%, due to implementation of new technology and growth in deposit and loan accounts.  Advertising expenses increased $24,000, or 16.6%, primarily due to the development of new marketing campaigns during the second quarter of 2018.  These increases were partially offset by a decrease in expenses for postage and supplies of $27,000, or 33.3%.    

45


 

Income Taxes ExpenseIncome tax expense decreased by $134,000, or 45.4%, from $295,000 for the three months ended June 30, 2017 to $161,000 for the three months ended June 30, 2018.  The income tax expense decreased primarily due to a decrease in the effective tax rate and a decrease in income before taxes.  The effective tax rate for the three months ended June 30, 2018 was 13.8%, while the effective tax rate for the three months ended June 30, 2017 was 20.5%.  The decrease in the effective tax rate was primarily due to the Tax Cuts and Jobs Act (“Tax Act”) which lowered the federal corporate tax rate from 34% to 21% as of January 1, 2018. The impact of the lower corporate tax rate was partially offset by a decrease in the projected mix of tax-exempt income derived from our municipal bond portfolio and bank-owned life insurance in relation to our projection of pre-tax income for the current year.

Comparison of Results of Operations for the Six Months Ended June 30, 2018 and 2017

General.    Net income was $1.94 million for the six months ended June 30, 2018, or $0.32 per diluted share, an increase of $84,000, or 4.5%, compared to net income of $1.86 million, or $0.30 per diluted share, for the six months ended June 30, 2017.  Net income for the six months ended June 30, 2018 reflected a $414,000 increase in net interest income, an $185,000 decrease in provision for loan losses and a $136,000 decrease in income tax expense which was partially offset by a $461,000 increase in non-interest expenses and a $190,000 decrease in non-interest income.

Interest Income.    Interest income increased by $843,000, or 8.4%, for the six months ended June 30, 2018 compared to the six months ended June 30, 2017 primarily due to an increase in loan interest income. Loan interest income increased by $650,000, or 8.0%, to $10.4 million for the six months ended June 30, 2018 compared to the six months ended June 30, 2017, primarily due to an increase in the average balance of the loan portfolio by $30.2 million, or 8.8%, from $341.9 million for the six months ended June 30, 2017 to $372.0 million for the six months ended June 30, 2018. The increase in the average balance was primarily due to an increase in the average balance of higher yielding commercial real estate, home equity and commercial business loans. The average yield on the loan portfolio decreased from 4.78% for the six months ended June 30, 2017 to 4.74% for the six months ended June 30, 2018. The decrease in the average yield on the loan portfolio was primarily due to the prior year receipt of $202,000 of interest income on one non-performing commercial real estate loan which paid off during the first six months of 2017. The average yield on the loan portfolio would have been 4.66% for the six months ended June 30, 2017 if the $202,000 of interest income received on the non-performing loan payoff was excluded.

Investment interest income decreased $3,000, or 0.2%, for the six months ended June 30, 2018 compared to the six months ended June 30, 2017. The average yield on the investment portfolio increased from 3.03% for the six months ended June 30, 2017 to 3.10% for the six months ended June 30, 2018. The increase in the average yield was primarily due to the purchase of higher yielding securities and the paydowns and sales of lower yielding securities. The average balance of the investment portfolio decreased from $84.3 million for the six months ended June 30, 2017 to $82.3 million for the six months ended June 30, 2018. The decrease was primarily due to sales proceeds and paydowns received on the securities portfolio, partially offset by securities purchases since June 30, 2017.

Other interest income was $282,000 for the six months ended June 30, 2018, which was a $196,000, or 227.9%, increase when compared to the six months ended June 30, 2017.  This increase was primarily due to a 98 basis points increase in the average yield on the interest-earning deposits and federal funds sold portfolio. The average yield increased from 0.59% for the six months ended June 30, 2017 to 1.57% for the six months ended June 30, 2018. The average yield increased as a result of a 75 basis points increase in the fed funds rate since June 30, 2017. The average balance of the interest-earning deposits and federal funds sold portfolio increased by $7.1 million, or 24.5%, from $29.0 million for the six months ended June 30, 2017 to $36.0 million for the six months ended June 30, 2018. The increase in the average balance was primarily due to an increase in deposits that have not yet been used to fund loan originations or securities purchases.

Interest Expense.    Interest expense increased $429,000, or 35.5%, to $1.6 million for the six months ended June 30, 2018 compared to $1.2 million for the six months ended June 30, 2017.   Interest paid on deposits increased by $342,000, or 35.0%, to $1.3 million for the six months ended June 30, 2018 when compared to the six months ended June 30, 2017. Interest expense was primarily impacted by a 34 and 15 basis points

46


 

increase, respectively, in the average interest rates paid on money market and time deposit accounts as a result of the increase in short term market interest rates since June 30, 2017. The increase was also due to a $26.2 million increase in average core deposits for the six months ended June 30, 2018 as compared to the six months ended June 30, 2017 as a result of the Company’s continued strategic focus on growing lower cost core deposits. The average balance of deposits for the six months ended June 30, 2018 was $362.4 million with an average rate of 0.73% compared to the average balance of deposits of $334.9 million and an average rate of 0.58% for the six months ended June 30, 2017.

The interest expense related to advances from the FHLBNY increased $90,000, or 47.6%, to $279,000 for the six months ended June 30, 2018 when compared to the six months ended June 30, 2017, as a result of an increase in the average balance and average rate of FHLBNY advances. The average balance of advances from the FHLBNY for the six months ended June 30, 2018 was $26.7 million with an average rate of 2.09% compared to an average balance of $19.2 million and an average rate of 1.97% for the six months ended June 30, 2017. The increase in the average balance was due to additional borrowings that allowed the Bank to take advantage of low fixed-rates to fund loan growth and the increase in the average rate paid was primarily due to the increase in market interest rates since the six months ended June 30, 2017.

Provision for Loan Losses.  A $190,000 provision to the allowance for loan losses was recorded during the six months ended June 30, 2018, which was an $185,000, or 49.3%, decrease in comparison to the provision recorded during the six months ended June 30, 2017. The decrease in provision expense was primarily due to a higher provision being recorded for the downgrade in loan classification for two commercial loan relationships during the six months ended June 30, 2017.  As of June 30, 2018, these specific commercial loans were performing, and well collateralized by commercial real estate, as well as by fixtures and equipment.

The $190,000 provision recorded during the six months ended June 30, 2018 was a result of a comprehensive quarterly evaluation.  The evaluation reflects analyses of individual borrowers and historical loss experience, supplemented as necessary by credit judgment that considers observable trends, conditions, and other relevant environmental and economic factors.  The quarterly evaluations consisted of the following:



·

$224,000 net provision for commercial real estate loans, which included a:

o

$155,000 general allowance on performing commercial real estate loans, primarily due to a $14.2 million, or 11.5%, increase in the loan portfolio since December 31, 2017, to reflect inherent losses within the portfolio;

o

$90,000 provision for a commercial real estate loan which became impaired during the six months ended June 30, 2018;  which was partially offset by a

o

$21,000 credit to reflect a $199,000 decrease in criticized and classified commercial real estate loans during the six months ended June 30, 2018;

·

$113,000 net provision for commercial business loans which included a:

o

$68,000 net provision for increased reserves on criticized and classified commercial business loans;

o

$39,000 provision for changes in the related environmental factors used to qualitatively assess inherent loan losses on commercial business loans;

o

$37,000 provision to reflect inherent risk associated with growth in commercial business loan originations. The commercial business loan portfolio increased by $2.1 million, or 7.6%, since December 31, 2017; which was partially offset by a

o

$31,000 credit to reflect a decrease in the historical average net charge-offs for this loan type over the last five years;

·

$130,000 credit for one-to four-family, home equity, construction - commercial, and consumer loans which included a:

o

$72,000 credit provision for changes in the related environmental factors used to qualitatively assess inherent loan losses on one-to four-family, home equity loans and consumer loans;

o

$40,000 credit for one-to four-family, home equity, construction and consumer loans primarily to reflect a decrease in the historical average net charge-offs for these loan

47


 

types over the last five years and for net recoveries recorded during the six months ended June 30, 2018;

o

$18,000 decrease in general allowance on performing commercial - construction loans, primarily due to a $1.8 million decrease in the loan portfolio during the six months ended June 30, 2018; and

·

$17,000 unallocated credit to the provision for loan losses, to reflect the margin of imprecision inherent in the underlying assumptions used in the methodologies for estimating allocated and general losses in the portfolio.

During the six months ended June 30, 2017, the Company recorded a $375,000 provision to the allowance for loan losses.  The provision consisted of the following: 

·

$153,000 provision on performing construction loans primarily due to a $9.9 million, or 55.2%, increase in the construction loan portfolio during the six months ended June 30, 2017, to reflect inherent losses within the portfolio;

·

$85,000 net provision for commercial real estate loans consisting of:

o

$215,000 provision was recorded to appropriately reflect risk associated with growth in commercial real estate loan originations. The commercial real estate loan portfolio increased by $15.7 million, or 14.7%, since December 31, 2016;

o

$186,000 provision was recorded due to the downgrade of two performing commercial loan relationships from a special mention to substandard classification. These two loan relationships totaled $1.2 million as of June 30, 2017 with a loan to value ratio of 49.3% and 63.3%, respectively; which was partially offset by a

o

$176,000 credit provision related to changes in the related environmental factors used to qualitatively assess inherent loan losses on commercial real estate loans; and

o

$140,000 credit provision related to reserves set aside for impaired loans. The decrease in impaired reserves was primarily due to an increase in the estimated value of the collateral for one impaired commercial real estate loan, as a result of an increase in the occupancy rate;

o

$80,000 provision for one-to four family, home equity, commercial business and consumer loans to reflect an increase in the historical average net charge-offs for these loans types over the last five years and due to net charge-offs during the six months ended June 30, 2017;

o

$57,000 provision to reflect the margin of imprecision inherent in the underlying assumptions used in the methodologies for estimating allocated and general losses in the portfolio.



Refer to Note 4 of the Notes to the Consolidated Financial Statements for additional details on the provision for loan losses.

Non-interest Income.    Non-interest income decreased by $190,000, or 13.2%, to $1.2 million for the six months ended June 30, 2018 as compared to $1.4 million for the six months ended June 30, 2017. The decrease was primarily attributed to a $222,000 pre-tax realized gain on the sale of securities during the six months ended June 30, 2017 as compared to there being no sales of securities during the six months ended June 30, 2018. The decrease was partially offset by a $19,000 increase in recoveries on previously impaired investment securities and a $14,000 increase on unrealized gains on equity securities during the six months ended June 30, 2018 as compared to the six months ended June 30, 2017.  



Non-interest Expenses.  Non-interest expenses increased $461,000, or 6.5%, from $7.1 million for the six months ended June 30, 2017 to $7.5 million for the six months ended June 30, 2018.  Salaries and employee benefits increased $387,000, or 10.4%, primarily due to annual salary increases and higher expenses related to health insurance, retirement benefits and stock compensation awards.  Other expenses increased $63,000, or 11.0%, primarily due to an increase in charitable donations and loan related origination costs. Data processing expenses increased $46,000, or 7.5%, due to implementation of new technology and growth in deposit and loan accounts.  These increases were partially offset by a decrease in expense for occupancy and equipment of $27,000, or 2.3%, and a decrease in expenses for postage and supplies of $26,000, or 18.1%.  

48


 

Income Taxes ExpenseIncome tax expense decreased by $136,000, or 30.2%, from $450,000 for the six months ended June 30, 2017 to $314,000 for the six months ended June 30, 2018.  The income tax expense decreased primarily due to a decrease in the effective tax rate.  The effective tax rate for the six months ended June 30, 2018 was 13.9%, while the effective tax rate for the six months ended June 30, 2017 was 19.5%.  The decrease in the effective tax rate was primarily due to the Tax Act which lowered the federal corporate tax rate from 34% to 21% as of January 1, 2018. The impact of the lower corporate tax rate was partially offset by a decrease in the projected mix of tax-exempt income derived from our municipal bond portfolio and bank-owned life insurance in relation to our projection of pre-tax income for the current year.

Liquidity and Capital Resources

Liquidity describes our ability to meet the financial obligations that arise during the ordinary course of business. Liquidity is primarily needed to fund loan commitments, to pay the deposit withdrawal requirements of our customers as well as to fund current and planned expenditures. Our primary sources of funds consist of deposits, fed funds balances, scheduled amortization and prepayments of loans and securities, maturities and sales of investments and loans, interest earning deposits at other financial institutions and funds provided from operations. We have written agreements with the FHLBNY, which allows us to borrow the maximum lending values designated by the type of collateral pledged. As of June 30, 2018, the maximum amount that we can borrow from the FHLBNY was $104.0 million and was collateralized by a pledge of certain fixed-rate residential, one- to four-family loans. At June 30, 2018, we had outstanding advances under this agreement of $24.7 million. We have a written agreement with the Federal Reserve Bank discount window for overnight borrowings which is collateralized by a pledge of our securities, and allows us to borrow up to the value of the securities pledged, which was equal to a book value of $11.0 million and a fair value of $11.2 million as of June 30, 2018. There were no balances outstanding with the Federal Reserve Bank at June 30, 2018. We have also established lines of credits with correspondent banks for $22.0 million, of which $20.0 million is unsecured and the remaining $2.0 million will be secured by a pledge of our securities when a draw is made. There were no borrowings on these lines as of June 30, 2018.

Historically, loan repayments and maturing investment securities were a relatively predictable source of funds. However, deposit flows, calls of investment securities, and prepayments of loans and mortgage-backed securities are strongly influenced by interest rates, general and local economic conditions, and competition in the marketplace. These factors reduce the predictability of the timing of these sources of funds. To the extent possible, the Bank manages the cash flows of its loan and deposit portfolios by the rates it offers customers.

Our primary investing activities include the origination of loans and the purchase of investment securities.  For the six months ended June 30, 2018, we originated loans of approximately $54.9 million as compared to approximately $73.8 million of loans originated during the six months ended June 30, 2017. Loan originations exceeded principal repayments and other deductions during the first six months of 2018 by $17.8 million. The loan originations were funded through principal payments received on loans and securities, proceeds from the sale of securities, customer deposits, borrowings and cash reserves. Purchases of investment securities totaled $10.1 million and $1.7 million during the six months ended June 30, 2018 and 2017, respectively.

At June 30, 2018, we had loan commitments to borrowers of approximately $34.3 million and overdraft lines of protection, unused home equity lines of credit and unused commercial lines of credit of approximately $44.0 million. Total deposits were $432.3 million at June 30, 2018, as compared to $405.2 million at December 31, 2017. The increase in total deposits was primarily due to growth in core deposits during the first six months of 2018. The Company’s strategic focus is on growing lower-cost core deposits among its retail and commercial customers in an effort to manage interest expenses. Time deposit accounts scheduled to mature within one year were $58.7 million at June 30, 2018. Based on our deposit retention experience, current pricing strategy, and competitive pricing policies, we anticipate that a significant portion of these time deposits will remain with us following their maturity.

We are committed to maintaining a strong liquidity position; therefore, we monitor our liquidity position on a daily basis. We anticipate that we will have sufficient funds to meet our current funding commitments. The marginal cost of new funding, however, whether from deposits or borrowings from the FHLBNY, will be

49


 

carefully considered as we monitor our liquidity needs. Therefore, in order to minimize our cost of funds, we may consider additional borrowings from the FHLBNY in the future.

We do not anticipate any material capital expenditures in 2018. We do not have any balloon or other payments due on any long-term obligations or any off-balance sheet items other than loan commitments as described in Note 6 in the Notes to our Consolidated Financial Statements and the borrowing agreements noted above.

Capital

 

As of January 1, 2015, new regulations that substantially amended the bank capital requirements became applicable to us.  These regulations implement the Basel III regulatory capital reforms and changes required by the Dodd-Frank Act, as discussed in the “Supervision and Regulation – Federal Banking Regulation – Capital Requirements” section included in our Annual Report on Form 10-K for the year ended December 31, 2017.

As a result of the recently enacted Economic Growth, Regulatory Relief, and Consumer Protection Act, the federal banking agencies are required to develop a “Community Bank Leverage Ratio” (the ratio of a bank’s tangible equity capital to average total consolidated assets) for financial institutions with assets of less than $10 billion.  A “qualifying community bank” that exceeds this ratio will be deemed to be in compliance with all other capital and leverage requirements, including the capital requirements to be considered “well capitalized” under Prompt Corrective Action statutes.  The federal banking agencies may consider a financial institution’s risk profile when evaluating whether it qualifies as a community bank for purposes of the capital ratio requirement. The federal banking agencies must set the minimum capital for the new Community Bank Leverage Ratio at not less than 8% and not more than 10%.  A financial institution can elect to be subject to this new definition.

As of June 30, 2018, as shown in the table below, the Bank’s Tier 1 and risk-based capital levels exceeded levels necessary to be considered “Well Capitalized” under Prompt Corrective Action provisions, as determined by the Office of the Comptroller of the Currency (the “OCC”), our primary regulator.

The Bank’s actual capital amounts and ratios and those required by the regulatory standards in effect as of the dates presented are as follows:



 

 

 

 

 

 

 

 

 

 

 

At June 30, 2018

 

Actual Ratio

 

Minimum For Capital Adequacy Purposes

 

To Be Well Capitalized Under Prompt Corrective Action Provisions

Common Equity Tier 1 ("CET1") capital (to risk-weighted assets)

 

19.55 

%

 

>=

4.50 

%

 

>=

6.50 

%

Tier 1 capital (to risk-weighted assets)

 

19.55 

%

 

>=

6.00 

%

 

>=

8.00 

%

Total capital (to risk-weighted assets)

 

20.47 

%

 

>=

8.00 

%

 

>=

10.00 

%

Tier 1 Leverage (to adjusted total assets)

 

13.81 

%

 

>=

4.00 

%

 

>=

5.00 

%

At December 31, 2017

 

Actual Ratio

 

Minimum For Capital Adequacy Purposes

 

To Be Well Capitalized Under Prompt Corrective Action Provisions

CET 1 capital (to risk-weighted assets)

 

20.82 

%

 

>=

4.50 

%

 

>=

6.50 

%

Tier 1 capital (to risk-weighted assets)

 

20.82 

%

 

>=

6.00 

%

 

>=

8.00 

%

Total capital (to risk-weighted assets)

 

21.75 

%

 

>=

8.00 

%

 

>=

10.00 

%

Tier 1 Leverage (to adjusted total assets)

 

14.40 

%

 

>=

4.00 

%

 

>=

5.00 

%



In order to avoid limitations on distributions, including dividend payments, and certain discretionary bonus payments to executive officers, an institution must hold a capital conservation buffer above its minimum risk-based capital requirements. As of June 30, 2018, the Bank's capital conservation buffer was 12.47% exceeding the minimum of 1.875% for 2018.



50


 

Off-Balance Sheet Arrangements

Other than loan commitments, we do not have any off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, revenues or expenses, results of operations, liquidity, capital expenditures, or capital resources that is material to investors.  Refer to Note 6 in the Notes to our Consolidated Financial Statements for a summary of loan commitments outstanding as of June 30, 2018.



Item 3.  Quantitative and Qualitative Disclosures About Market Risk



Not applicable as the Company is a smaller reporting company.



Item 4.  Controls and Procedures. 

Disclosure Controls and Procedures



The Company’s management, with the participation of its Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of the Company’s disclosure controls and procedures (as defined in Rules 13(a)-15(e) and 15d-15(e) under the Securities Exchange Act of 1934) as of the end of the period covered by this report.  Based upon such evaluation, the Company’s Chief Executive Officer and Chief Financial Officer have concluded that, as of the end of such period, the Company’s disclosure controls and procedures were effective.



Changes in Internal Control over Financial Reporting



There have not been any changes in the Company’s internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934) during the quarter ended June 30, 2018 that have materially affected, or are reasonably likely to materially affect, internal control over financial reporting.



PART II

Item 1A.  Risk Factors.



There have been no material changes in the Company’s risk factors from those disclosed in its Annual Report on Form 10-K.



Item 2.  Unregistered Sales of Equity Securities and Use of Proceeds

The following table reports information regarding repurchases by Lake Shore Bancorp of its common stock in each month of the quarter ended June 30, 2018:



COMPANY PURCHASES OF EQUITY SECURITIES





 

 

 

 

 

 

 

 

 



 

 

 

 

 

 

 

 

 

Period

 

Total Number of Shares Purchased

 

 

Average Price Paid per Share

 

Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs

 

Maximum Number of Shares that May Yet be Purchased Under the Plans or Programs (1)



 

 

 

 

 

 

 

 

 

April 1 through April 30, 2018

 

10,000 

 

$

16.93 

 

10,000 

 

37,401 

May 1 through May 31, 2018

 

3,300 

 

 

16.90 

 

3,300 

 

34,101 

June 1 through June 30, 2018

 

1,000 

 

 

17.20 

 

1,000 

 

120,190 

Total

 

14,300 

 

$

16.94 

 

14,300 

 

120,190 

(1)

On May 16, 2018, our Board of Directors approved a new stock repurchase plan pursuant to which we can repurchase up to 121,190 shares of our outstanding common stock. This amount represented approximately 5% of our outstanding common stock not owned by the MHC as of May 16, 2018. The repurchase plan does not have an expiration date and superseded all of the prior stock repurchase programs. This plan superseded the prior Board of Directors approved stock repurchase plan from December 11, 2015 which had 34,101 shares available to purchase at May 15, 2018.

51


 



Item 6.  Exhibits





 

 

 

 

 



 

 

 

 

 



 

 

31.1

 

Certification by the Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002*



 

 

31.2

 

Certification by the Chief Financial Officer Pursuant to Section 302 of the Sarbanes- Oxley Act of 2002*



 

 

32.1

 

Certification by the Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002*



 

 

32.2

 

Certification by the Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002*



 

 

101.INS

 

XBRL Instance Document*



 

 

101.SCH

 

XBRL Taxonomy Extension Schema Document*



 

 

101.CAL

 

XBRL Taxonomy Calculation Linkbase Document*



 

 

101.DEF

 

XBRL Taxonomy Extension Definition Linkbase Document*



 

 

101.LAB

 

XBRL Taxonomy Label Linkbase Document*



 

 

101.PRE

 

XBRL Taxonomy Presentation Linkbase Document*

________________

*Filed herewith.

SIGNATURES



Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.





 

 



 

LAKE SHORE BANCORP, INC.



 

(Registrant)



 

 

August 10, 2018

By:

/s/ Daniel P. Reininga



 

Daniel P. Reininga



 

President and Chief Executive Officer



 

(Principal Executive Officer)



 

 

August 10, 2018

By:

/s/ Rachel A. Foley



 

Rachel A. Foley



 

Chief Financial Officer



 

(Principal Financial and Accounting Officer)



52