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EX-31.1 - CERTIFICATION OF CHIEF EXECUTIVE OFFICER PURSUANT TO RULE 13A-14(A)/15D-14(A) - COMMUNITY FINANCIAL SHARES INCdex311.htm
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EX-32.2 - CERTIFICATION OF CHIEF FINANCIAL OFFICER PURSUANT TO 18 U.S.C. SECTION 1350 - COMMUNITY FINANCIAL SHARES INCdex322.htm
EX-32.1 - CERTIFICATION OF CHIEF EXECUTIVE OFFICER PURSUANT TO 18 U.S.C. SECTION 1350 - COMMUNITY FINANCIAL SHARES INCdex321.htm
Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

 

FORM 10-Q

 

 

 

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

For the quarterly period ended September 30, 2009

OR

 

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

For the transition period from              to             

Commission file number: 0-51296

 

 

COMMUNITY FINANCIAL SHARES, INC.

(Exact name of registrant as specified in its charter)

 

 

 

Delaware   36-4387843

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

357 Roosevelt Road

Glen Ellyn, Illinois

  60137
(Address of principal executive offices)   (Zip Code)

(630) 545-0900

(Registrant’s telephone number, including area code)

None

(Former name, former address and former fiscal year, if changed since last report)

 

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No  ¨

Indicate by check mark whether the registrant 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 (Section 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  ¨    No  ¨

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

 

Large Accelerated Filer   ¨    Accelerated Filer   ¨
Non-Accelerated Filer   ¨  (Do not check if a smaller reporting company)    Smaller Reporting Company   x

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

Yes   ¨    No  x

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

 

Class

 

Outstanding at November 10, 2009

Common Stock, no par value per share   1,245,267 shares

 

 

 


Table of Contents

  

 

 

Form 10-Q Quarterly Report

Table of Contents

PART I – FINANCIAL INFORMATION

 

Item 1.

  Financial Statements    3

Item 2.

  Management’s Discussion and Analysis of Financial Condition and Results of Operations    14

Item 3.

  Quantitative and Qualitative Disclosures About Market Risk    25

Item 4(T)

  Controls and Procedures    26
PART II – OTHER INFORMATION

Item 1.

  Legal Proceedings    27

Item 1A.

  Risk Factors    27

Item 2.

  Unregistered Sales of Equity Securities and Use of Proceeds    27

Item 3.

  Defaults Upon Senior Securities    27

Item 4.

  Submission of Matters to a Vote of Security Holders    27

Item 5.

  Other Information    27

Item 6.

  Exhibits    27
  Signatures   

 

 

2

 


Table of Contents

  

 

 

PART I. FINANCIAL INFORMATION

 

ITEM 1. FINANCIAL STATEMENTS

COMMUNITY FINANCIAL SHARES, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(In thousands, except share data)

 

     September 30,
2009
   December 31,
2008
 
     (Unaudited)       

ASSETS

     

Cash and due from banks

   $ 8,163    $ 7,286   

Interest-bearing deposits

     6,223      8,539   
               

Cash and cash equivalents

     14,386      15,825   

Interest-bearing time deposits

     —        992   

Securities available for sale

     41,428      25,972   

Loans held for sale

     2,184      1,410   

Loans, less allowance for loan losses of $3,828 and $3,300 at September 30, 2009 and December 31, 2008, respectively

     231,959      219,615   

Other real estate owned

     2,077      112   

Federal Home Loan Bank stock

     5,398      5,398   

Premises and equipment, net

     15,972      16,112   

Cash value of life insurance

     5,642      5,469   

Interest receivable and other assets

     3,675      3,772   
               

Total assets

   $ 322,721    $ 294,677   
               

LIABILITIES AND SHAREHOLDERS’ EQUITY

     

Deposits

   $ 274,309    $ 253,515   

Federal Home Loan Bank advances

     17,000      17,000   

Other borrowings

     1,900      2,000   

Subordinated debentures

     3,609      3,609   

Interest payable and other liabilities

     2,046      1,940   
               

Total liabilities

     298,864      278,064   

Commitments and contingent liabilities

     

Shareholders’ equity

     

Common stock—no par value, 5,000,000 shares authorized; 1,245,267 and 1,245,267 shares issued and outstanding at September 30, 2009 and December 31, 2008, respectively

     —        —     

Preferred stock—$1.00 par value, 1,000,000 shares authorized; 7,319 shares outstanding at September 30, 2009, no shares outstanding at December 31, 2008

     7      —     

Paid-in capital

     11,860      4,866   

Retained earnings

     11,864      12,201   

Accumulated other comprehensive income (loss)

     126      (454
               

Total shareholders’ equity

     23,857      16,613   
               

Total liabilities and shareholders’ equity

     $322,721    $ 294,677   
               

See Notes to Condensed Consolidated Financial Statements

 

 

3

 


Table of Contents

 

COMMUNITY FINANCIAL SHARES, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

Three and Nine Months Ended September 30, 2009 and 2008

(In thousands, except share and per share data)

(Unaudited)

 

 

     Three Months
Ended September 30,
    Nine Months
Ended September 30,
 
     2009     2008     2009     2008  

Interest income

        

Loans

   $ 3,148      $ 3,314      $ 9,338      $ 10,530   

Securities:

        

Taxable

     339        243        816        717   

Exempt from federal income tax

     129        129        377        391   

Other interest income

     10        2        37        19   
                                

Total interest income

     3,626        3,688        10,568        11,657   

Interest expense

        

Deposits

     1,080        1,275        3,499        4,531   

Federal funds purchased

     —          10        —          51   

Federal Home Loan Bank advances and other borrowed funds

     156        205        437        656   

Subordinated debentures

     20        41        78        138   
                                

Total interest expense

     1,256        1,531        4,014        5,376   
                                

Net interest income

     2,370        2,157        6,554        6,281   

Provision for loan losses

     120        795        1,080        1,625   
                                

Net interest income after provision for loan losses

     2,250        1,362        5,474        4,656   

Non-interest income

        

Service charges on deposit accounts

     149        190        469        507   

Gain on sale of loans

     233        116        803        431   

Gain on sale of securities

     —          —          50        79   

Loss on impairment

     —          (485     —          (485

Gain (loss) on sale of foreclosed assets

     10        —          (44     —     

Other non-interest income

     152        152        494        422   
                                

Total non-interest income

     544        (27     1,772        954   
                                

Non-interest expense

        

Salaries and employee benefits

     1,406        1,292        4,084        3,914   

Net occupancy and equipment expense

     365        353        1,077        1,027   

Data processing expense

     237        218        678        630   

Advertising and promotions

     75        90        214        258   

Professional fees

     164        97        464        282   

FDIC insurance premiums

     166        63        536        204   

Other operating expenses

     353        330        879        1,023   
                                

Total non-interest expense

     2,766        2,443        7,932        7,338   
                                

Income (loss) before income taxes

     28        (1,108     (686     (1,728

Benefit for income taxes

     (58     (308     (464     (682
                                

Net income (loss)

     86        (800     (222     (1,046
                                

Preferred stock dividend and accretion

     (106     —          (163     —     
                                

Net loss available to common shareholders

   $ (20   $ (800   $ (385   $ (1,046
                                

Loss per share

        

Basic

   $ (0.02   $ (0.64   $ (0.31   $ (0.84

Diluted

   $ (0.02   $ (0.64   $ (0.31   $ (0.84

Average shares outstanding basic

     1,245,267        1,245,267        1,245,267        1,246,280   

Average shares outstanding diluted

     1,245,267        1,245,267        1,245,328        1,246,280   

Dividends per share

   $ 0.00      $ 0.00      $ 0.00      $ 0.12   

See Notes to Condensed Consolidated Financial Statements

 

 

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Table of Contents

 

COMMUNITY FINANCIAL SHARES, INC.

CONDENSED CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY

Nine Months Ended September 30, 2009 and 2008

(In thousands, except share and per share data)

(Unaudited)

 

 

     Numbers
of
Common
Shares
    Preferred
Stock
   Paid-In
Capital
    Retained
Earnings
    Accumulated
Other
Comprehensive
Gain (Loss)
    Total
Shareholders’
Equity
 

Balance at January 1, 2009

   1,245,267        —      $ 4,866      $ 12,201      $ (454   $ 16,613   

Net loss

   —          —        —          (222     —          (222

Change in unrealized net gain on securities available for sale, net of reclassifications and tax effects

   —          —        —          —          580        580   
                   

Total comprehensive income

                358   

TARP dividends

   —          —        —          (95     —          (95

Preferred stock issued

   —          7      6,963        —          —          6,970   

Discount on preferred stock

   —          —        20        (20     —          —     

Stock option expense

   —          —        11        —          —          11   
                                             

Balance at September 30, 2009

   1,245,267      $ 7    $ 11,860      $ 11,864      $ 126      $ 23,857   
                                             

Balance at January 1, 2008

   1,250,880        —      $ 4,999      $ 13,630      $ (124   $ 18,505   

Net loss

   —          —        —          (1,046     —          (1,046

Change in unrealized net loss on securities available for sale, net of reclassifications and tax effects

   —          —        —          —          (438     (438
                   

Total comprehensive loss

                (1,484

Cash dividends ($0.12 per share)

   —          —        —          (149     —          (149

Tax benefit of stock options exercised

   —          —        1        —          —          1   

Stock repurchased

   (6,333     —        (165     —          —          (165

Stock option expense

   —          —        13        —          —          13   

Stock options exercised

   720        —        15        —          —          15   
                                             

Balance at September 30, 2008

   1,245,267        —      $ 4,863      $ 12,435      $ (562   $ 16,736   
                                             

See Notes to Condensed Consolidated Financial Statements

 

 

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Table of Contents

 

COMMUNITY FINANCIAL SHARES, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

Nine Months Ended September 30, 2009 and 2008

(In thousands)

(Unaudited)

 

 

     Nine Months
Ended September 30,
 
     2009     2008  

CASH FLOWS FROM OPERATING ACTIVITIES

    

Net loss

   $ (222   $ (1,046

Adjustments to reconcile net loss to net cash from operating activities

    

Amortization on securities, net

     71        12   

Depreciation

     497        505   

Provision for loan losses

     1,080        1,625   

Gain on sale of securities

     (50     (79

Loss on sale of foreclosed assets

     44        —     

Change in other real estate owned

     (1,966     —     

Gain on sale of loans

     (803     (431

Loss on impairment of securities

     —          485   

Originations of loans for sale

     (44,284     (20,276

Proceeds from sales of loans

     45,087        20,708   

Compensation cost of stock options

     11        13   

Change in cash value of life insurance

     (172     (165

Change in interest receivable and other assets

     (314     296   

Change in interest payable and other liabilities

     106        (1,350
                

Net cash from (used in) operating activities

     (915     297   

CASH FLOWS FROM INVESTING ACTIVITIES

    

Purchases of securities available for sale

     (28,660     (9,187

Maturities and calls of securities available for sale

     12,067        11,316   

Proceeds from sales of securities available for sale

     3,054        2,118   

Net change in loans

     (14,198     4,327   

Property and equipment expenditures, net

     (357     (891
                

Net cash from (used in) investing activities

     (28,094     7,683   

CASH FLOWS FROM FINANCING ACTIVITIES

    

Change in:

    

Non-interest bearing and interest bearing demand deposits and savings

     19,213        8,720   

Certificates and other time deposits

     1,582        (14,804

Short term borrowings

     —          (5,500

Proceeds of borrowings

     6,000        10,500   

Repayments of borrowings

     (6,100     (9,000

Proceeds from issuance of preferred stock

     6,970        —     

Purchase of stock

     —          (165

Exercise of stock options

     —          15   

Tax benefit of stock options exercised

     —          1   

Dividends paid on preferred stock

     (95     —     

Dividends paid on common stock

     —          (149
                

Net cash from (used in) financing activities

     27,570        (10,382
                

Change in cash and cash equivalents

     (1,439     (2,402

Cash and cash equivalents at beginning of period

     15,825        7,789   
                

CASH AND CASH EQUIVALENTS AT END OF PERIOD

   $ 14,386      $ 5,387   
                

See Notes to Condensed Consolidated Financial Statements

 

 

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Table of Contents

COMMUNITY FINANCIAL SHARES, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Table dollars in thousands)

September 30, 2009 and 2008

 

NOTE 1 – BASIS OF PRESENTATION

The accounting policies followed in the preparation of the interim condensed consolidated financial statements included in this Quarterly Report on Form 10-Q are consistent with those used in the preparation of annual consolidated financial statements. The interim condensed consolidated financial statements reflect all normal and recurring adjustments, which are necessary, in the opinion of management of Community Financial Shares, Inc. (the “Company”), for a fair statement of results for the interim periods presented. Results for the three and nine months ended September 30, 2009 are not necessarily indicative of the results that may be expected for the year ending December 31, 2009 or any other period.

The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for the interim financial period and with the instructions to Form 10-Q. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. These condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2008, which was filed with the U.S. Securities and Exchange Commission on March 31, 2009. The condensed consolidated balance sheet of the Company as of December 31, 2008 has been derived from the audited consolidated balance sheet as of that date.

NOTE 2 – EARNINGS PER SHARE

The number of shares used to compute basic and diluted earnings per share were as follows:

 

     Three Months Ended
September 30,
    Nine Months Ended
September 30,
 
     2009     2008     2009     2008  

(in thousands)

        

Net income (loss)

   $ 86      $ (800   $ (222   $ (1,046

Less: Accretion of discount on preferred stock

     (10     —          (20     —     

  Dividends on preferred stock

     (96     —          (143     —     
                                

Loss available to common shareholders

   $ (20   $ (800   $ (385   $ (1,046
                                

Weighted Average Shares outstanding

     1,245,267        1,245,267        1,245,267        1,246,280   

Effect of dilutive securities:

        

Stock options

     —          —          —          —     
                                

Shares used to compute diluted loss per share

     1,245,267        1,245,267        1,245,328        1,246,280   
                                

Loss per share:

        

Basic

   $ (0.02   $ (0.64   $ (0.31   $ (0.84

Diluted

     (0.02     (0.64     (0.31     (0.84

There were 32,630 anti-dilutive shares for both the three and nine months ended September 30, 2009 included in the above table. In addition, there were 3,340 and 2,140 anti-dilutive shares for the three and nine months ended September 30, 2008, respectively, included in the above table.

 

 

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Table of Contents

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Table dollars in thousands)

September 30, 2009 and 2008

 

NOTE 3 – CAPITAL RATIOS

At the dates indicated, the capital ratios of Community Bank-Wheaton/Glen Ellyn, the Company’s wholly owned subsidiary (the “Bank”), were as follows:

 

     September 30, 2009     December 31, 2008  
     Amount    Ratio     Amount    Ratio  

Total capital (to risk-weighted assets)

   $ 29,031    11.7   $ 24,930    10.5

Tier I capital (to risk-weighted assets)

     25,928    10.5     21,965    9.3

Tier I capital (to average assets)

     25,928    8.1     21,965    7.6

Without prior approval, current regulations allow the Bank to pay dividends to the Company not exceeding net profits (as defined in such regulations) for the current year plus those for the previous two years. The Bank normally restricts dividends to a lesser amount because of the need to maintain an adequate capital structure. At September 30, 2009, regulatory approval is required for all dividend declarations by both the Bank and the Company. As a result of discussions with the Bank’s regulators, management has agreed to maintain a ratio of total capital to risk-weighted assets of 10.5% at December 31, 2008 and to work towards a ratio of 11.0%, which was exceeded as of September 30, 2009.

At both September 30, 2009 and December 31, 2008, the Bank was categorized by its regulators as well capitalized in accordance with all regulatory capital requirements.

NOTE 4 – SECURITIES AVAILABLE FOR SALE

The fair value of securities available for sale at September 30, 2009 is as follows:

 

     Fair
Value
   Gross
Unrealized
Gains
   Gross
Unrealized
Losses
 

U. S. government agencies

   $ 14,931    $ 68    $ (134

State and political subdivisions

     14,733      366      (254

Mortgage-backed securities

     11,364      152      (6

Preferred stock

     32      17      —     

SBA guaranteed

     368      —        (4
                      
   $ 41,428    $ 603    $ (398
                      

Securities classified as U. S. government agencies include notes issued by government-sponsored enterprises such as the Federal National Mortgage Association, the Federal Home Loan Mortgage Corporation, and the Federal Home Loan Bank. The SBA-guaranteed securities are pools of loans guaranteed by the Small Business Administration.

 

 

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The following table shows gross unrealized losses and fair value, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, at September 30, 2009:

 

     Less than 12 Months     12 Months or More     Total       

Description of

Securities

   Fair Value    Unrealized
Losses
    Fair Value    Unrealized
Losses
    Fair Value    Unrealized
Losses
 

U.S. government agencies

   $ 8,861    $ (134   $ —      $ —        $ 8,861    $ (134

State and political subdivisions

     —        —          4,646      (254     4,646      (254

Mortgage-backed securities

     401      (3     558      (3     959      (6

SBA guaranteed

     —        —          316      (4     316      (4
                                             

Total temporarily impaired securities

   $ 9,262    $ (137   $ 5,520    $ (261   $ 14,782    $ (398
                                             

The unrealized losses on the Company’s investments in direct obligations of U.S. government agencies were caused by changes in interest rates. The contractual terms of those investments do not permit the issuer to settle the securities at a price less than the amortized cost basis of the investments. Because the Company does not intend to sell the investments and it is not more likely than not the Company will be required to sell the investments before recovery of their amortized costs basis, which may be maturity, the Company does not consider those investments to be other-than-temporarily impaired at September 30, 2009.

The unrealized losses on the Company’s investment in mortgage-backed securities were caused by changes in interest rates. The Company expects to recover the amortized cost basis over the term of the securities. Because the decline in market value is attributable to changes in interest rates and not credit quality, and because the Company does not intend to sell the investments and it is not more likely than not the Company will be required to sell the investments before recovery of their amortized cost basis, which may be maturity, the Company does not consider those investments to be other-than-temporarily impaired at September 30, 2009.

Unrealized gains and losses within the investment portfolio are determined to be temporary. The Company has performed an evaluation of its investments for other than temporary impairment and there was no impairment identified during the third quarter of 2009. The entire portfolio is classified as available for sale, however, management has no specific intent to sell any securities, and it is more likely than not that the Company will not have to sell any security before recovery of its amortized cost basis.

Sales activities for securities for the nine months ended September 30, 2009 are shown in the following table. All sales were of securities identified as available for sale.

 

Sales proceeds

   $ 3,054

Gross gains on sales

     50

Loss from other than temporary impairment

     —  

Tax expense

     10

 

 

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The fair values of securities available for sale at September 30, 2009, by contractual maturity, are shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. Securities not due at a single maturity are shown separately.

 

     Amortized
Cost
   Fair
Value

Due in one year or less

   $ 1,120    $ 1,124

Due after one year through five years

     1,184      1,199

Due after five years through ten years

     2,738      2,740

Due after ten years

     24,576      24,601

Mortgage-backed securities

     11,218      11,364

Preferred stock

     15      32

SBA guaranteed

     372      368
             
   $ 41,223    $ 41,428
             

Securities with a carrying value of approximately $15.2 million at September 30, 2009 were pledged to secure public deposits, Federal Home Loan Bank advances and for other purposes as required or permitted by law.

NOTE 5 – ACCUMULATED OTHER COMPREHENSIVE INCOME

Other comprehensive income components and related taxes for the nine months ended September 30, 2009 were as follows:

 

Net unrealized gains on securities available for sale

   $ 946

Tax expense

     366
      

Other comprehensive income

   $ 580
      

The components of accumulated other comprehensive income included in shareholders’ equity at September 30, 2009 were as follows:

 

Net unrealized gains on securities available for sale

   $ 205

Tax expense

     79
      

Other comprehensive income

   $ 126
      

NOTE 6 – DISCLOSURES ABOUT FAIR VALUE OF ASSETS AND LIABILITIES

The Company measures fair value according to the Financial Accounting Standards Board Accounting Standards Codification (ASC) Fair Value Measurements and Disclosures (ASC 820-10). ASC 820-10 establishes a fair value hierarchy that prioritizes the inputs used in valuation techniques, but not the valuation techniques themselves. The fair value hierarchy is designed to indicate the relative reliability of the fair value measure. The highest priority given to quoted prices in active markets and the lowest to unobservable data such as the Company’s internal information. ASC 820-10 defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. There are three levels of inputs into the fair value hierarchy (Level 1 being the highest priority and Level 3 being the lowest priority):

 

Level 1    Quoted prices in active markets for identical assets or liabilities.
Level 2    Observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.

 

 

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Level 3    Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.

The following is a description of the valuation methodologies used for instruments measured at fair value on a recurring basis and recognized in the accompanying balance sheet, as well as the general classification of such instruments pursuant to the valuation hierarchy.

Available for Sale Securities

If quoted market prices are not available, then fair values are estimated by using pricing models, quoted prices of securities with similar characteristics or discounted cash flows. Level 2 securities include certain collateralized mortgage and debt obligations and certain municipal securities. Third party vendors compile prices from various sources and may apply such techniques as matrix pricing to determine the value of identical or similar investment securities (Level 2). Matrix pricing is a mathematical technique widely used in the banking industry to value investment securities without relying exclusively on quoted prices for specific investment securities but rather on the investment securities’ relationship to other benchmark quoted investment securities. The following tables are as of September 30, 2009 and December 31, 2008, respectively:

 

          At September 30, 2009
          Fair Value Measurements Using
     Fair
Value
   Level 1    Level 2    Level 3

Available for sale securities:

           

U.S. government agencies

   $ 14,931       $ 14,931   

State and political subdivisions

     14,733         14,733   

Mortgage-backed securities

     11,364         11,364   

Preferred stock

     32         32   

SBA guaranteed

     368         368   
                   

Total available for sale securities

   $ 41,428    —      $ 41,428    —  
                   

 

          At December 31, 2008
          Fair Value Measurements Using
     Fair
Value
   Level 1    Level 2    Level 3

Available for sale securities:

           

U.S. government agencies

   $ 10,110       $ 10,110   

State and political subdivisions

     10,745         10,745   

Mortgage-backed securities

     4,723         4,723   

Preferred stock

     6         6   

SBA guaranteed

     388         388   
                   

Total available for sale securities

   $ 25,972    —      $ 25,972    —  
                   

The following is a description of the valuation methodologies used for instruments measured at fair value on a non-recurring basis and recognized in the accompanying September 30, 2009 and December 31, 2008 balance sheets, as well as the general classification of such instruments pursuant to the valuation hierarchy.

Impaired Loans

Loan impairment is reported when scheduled payments under contractual terms are deemed uncollectible. Impaired loans are carried at fair value as estimated using current and prior appraisals, discounting factors, the borrower’s financial ability to repay, estimated cash flows from the property and other relevant factors. A portion of the allowance for loan losses is allocated to impaired loans if the value of such loans is deemed to be less than the unpaid balance. Adjustments to the estimated fair value of impaired loans may result in increases or decreases to the

 

 

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provision for loan losses recorded in current earnings. The following tables are as of September 30, 2009 and December 31, 2008, respectively:

 

          At September 30, 2009
          Fair Value Measurements Using
     Fair
Value
   Level 1    Level 2    Level 3

Impaired loans

   $ 3,770    —      —      $ 3,770

 

          At December 31, 2008
          Fair Value Measurements Using
     Fair
Value
   Level 1    Level 2    Level 3

Impaired loans

   $ 2,572    —      —      $ 2,572

The carrying amount and estimated fair value of financial instruments at September 30, 2009 and December 31, 2008 are as follows:

 

     September 30, 2009    December 31, 2008
     Carrying
Value
   Fair
Value
   Carrying
Value
   Fair
Value

Financial assets

           

Cash and cash equivalents

   $ 14,386    $ 14,386    $ 15,825    $ 15,825

Interest bearing time deposits

     —        —        992      992

Securities available for sale

     41,428      41,428      25,972      25,972

Loans held for sale

     2,184      2,184      1,410      1,410

Loans receivable, net

     231,959      232,232      219,615      220,502

Federal Home Loan Bank stock

     5,398      5,398      5,398      5,398

Interest receivable

     1,331      1,331      1,089      1,089

Financial liabilities

           

Deposits

     274,309      280,151      253,515      253,792

Federal Home Loan Bank advances

     17,000      17,223      17,000      17,097

Other borrowings

     1,900      1,900      2,000      2,000

Subordinated debentures

     3,609      3,609      3,609      3,609

Interest payable

     382      382      499      499

The methods and assumptions used to estimate fair value are described as follows:

Carrying amount is the estimated fair value for cash and cash equivalents, loans held for sale, Federal Home Loan Bank stock, interest receivable and payable, deposits due on demand, variable rate loans, other borrowings and subordinated debentures. Security fair values are based on market prices or dealer quotes and, if no such information is available, on the rate and term of the security and information about the issuer. For fixed rate loans and time deposits, fair value is based on discounted cash flows using current market rates applied to the estimated life and credit risk. Fair values for impaired loans are estimated using discounted cash flow analysis or underlying collateral values. The fair value of fixed rate Federal Home Loan Bank advances is based on current rates for similar financing. The fair value of off-balance-sheet items, which is based on the current fees or cost that would be charged to enter into or terminate such arrangements, is immaterial.

 

 

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While the above estimates are based on management’s judgment of the most appropriate factors, there is no assurance that were the Company to have disposed of these items on the respective dates, the fair values would have been achieved, because the market value may differ depending on the circumstances. The estimated fair values at year end should not necessarily be considered to apply at subsequent dates.

Other assets and liabilities that are not financial instruments, such as premises and equipment, are not included in the above disclosures. Also, nonfinancial instruments typically not recognized on the balance sheet may have value but are not included in the above disclosures. These include, among other items, the estimated earnings power of core deposits, the trained workforce, customer goodwill, and similar items.

NOTE 7 – TARP CAPITAL PURCHASE PROGRAM

On May 15, 2009, the Company entered into a Letter Agreement and the related Securities Purchase Agreement, with the United States Department of the Treasury (the “Department of Treasury”) in accordance with the terms of the Department of Treasury’s TARP Capital Purchase Program. Pursuant to the Letter Agreement and Securities Purchase Agreement, the Company issued 6,970 shares of Fixed Rate Cumulative Perpetual Preferred Stock, Series A, and a warrant for the purchase of 349 shares of Fixed Rate Cumulative Perpetual Preferred Stock, Series B, to the Department of Treasury for an aggregate purchase price of $6,970,000 in cash.

The Series A preferred stock qualifies as Tier 1 capital and will pay cumulative dividends at a rate of 5% per annum until February 15, 2014. Beginning February 16, 2014, the dividend rate will increase to 9% per annum. The Series A preferred stock may be redeemed, in whole or in part, at any time from time to time, at the option of the Company, subject to consultation with the Company’s primary federal banking regulator, provided that any partial redemption must be for at least 25% of the issue price of the Series A preferred stock.

As part of the transaction, the Department of Treasury exercised the Warrant and received 349 shares of Series B preferred stock. The Series B preferred stock will pay cumulative dividends at a rate of 9% per annum. The Series B preferred stock may also be redeemed, in whole or in part, at any time from time to time, at the option of the Company, subject to consultation with the Company’s primary federal regulator, provided that any partial redemption must be for at least 25% of the liquidation value of the Series B preferred stock. The Series B preferred stock cannot be redeemed until all of the outstanding shares of Series A preferred stock have been redeemed.

The Purchase Agreement also subjects the Company to certain of the executive compensation limitations included in the Emergency Economic Stabilization Act of 2008 (EESA), as modified by the American Recovery and Reinvestment Act of 2009. The Company will take all necessary action to ensure that its benefit plans with respect to senior executive officers continue to comply with Section 111(b) of the EESA and has agreed to not adopt any benefit plans with respect to, or which cover, its senior executive officers that do not comply with the EESA, and the applicable executives have consented to the foregoing.

NOTE 8 – FUTURE ACCOUNTING PRONOUNCEMENTS

Statement of Financial Accounting Standards No. 166, Accounting for Transfers of Financial Assets, an amendment of FASB Statement No. 140 (“SFAS 166”). On June 12, 2009, the FASB issued SFAS 166 which removes the concept of a qualifying special-purpose entity (“QSPE”) from Statement 140, and eliminates the exception for QSPEs from the consolidation guidance of FASB Interpretation No. 46 (R), Consolidation of Variable Interest Entities (“FIN 46 (R)”). Concurrent with the issuance of SFAS 166, the FASB issued SFAS 167, Amendment to FASB Interpretation No. 46(R) (“SFAS 167”). SFAS 167 addresses the effect of eliminating the QSPE concept from Statement 140 and enhances the transparency of an entity’s involvement in a variable interest entity (“VIE”). SFAS 166 is effective as of the beginning of the Corporation’s first annual reporting period beginning after November 15, 2009. Earlier adoption is prohibited. The Corporation does not expect the adoption of the provisions of SFAS 166 to have a material effect on the Corporation’s financial condition and results of operations.

Statement of Financial Accounting Standards No. 167, Amendment to FASB Interpretation No. 46 (R) (“SFAS 167”). On June 12, 2009, the FASB issued SFAS 167 to address the effects of eliminating the QSPE concept from FASB Statement No. 140, Accounting for Transfers and Servicing of Financial Assets and Liabilities

 

 

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and enhance the transparency of an entity’s involvement in a variable interest entity (“VIE”). SFAS 167 is effective as of the beginning of the Corporation’s first annual reporting period beginning after November 15, 2009. Earlier adoption is prohibited. The Corporation does not expect the adoption of the provisions of SFAS 167 to have a material effect on the Corporation’s financial condition and results of operations.

NOTE 9 – SUBSEQUENT EVENTS

Subsequent events have been evaluated through November 13, 2009, which is the date the Company’s condensed consolidated financial statements included in this Form 10-Q were issued.

 

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion and analysis is intended as a review of significant factors affecting the financial condition and results of operations of the Company for the periods indicated. The discussion should be read in conjunction with the Condensed Consolidated Financial Statements and Notes included in this Form 10-Q. In addition to historical information, the following Management’s Discussion and Analysis of Financial Condition and Results of Operations contains forward-looking statements that involve risks and uncertainties. The Company’s actual results could differ significantly from those anticipated in these forward-looking statements as a result of certain factors discussed elsewhere in this report.

Safe Harbor Statement

This report (including information incorporated herein by reference) contains, and future oral and written statements of the Company and its management may contain, forward-looking statements, within the meaning of such as defined term in the Private Securities Litigation Reform Act of 1995, with respect to the financial condition, results of operations, plans, objectives, future performance and business of the Company. Forward-looking statements, which may be based upon beliefs, expectations and assumptions of the Company’s management and on information currently available to management, are generally identifiable by the use of words such as “believe,” “expect,” “anticipate,” “plan,” “intend,” “estimate,” “may,” “will,” “would,” “could,” “should” or other similar expressions. Additionally, all statements in this document, including forward-looking statements, speak only as of the date they are made, and the Company undertakes no obligation to update any statement in light of new information or future events.

The Company’s ability to predict results or the actual effect of future plans or strategies is inherently uncertain. Factors which could have a material adverse effect on the operations and future prospects of the Company and its subsidiaries include, but are not limited to, the following:

 

   

The strength of the United States economy in general and the strength of the local economies in which the Company conducts its operations which may be less favorable than expected and may result in, among other things, a deterioration in the credit quality and value of the Company’s assets.

 

   

The potential impact of the Company’s participation in the U.S. Department of Treasury’s Troubled Asset Relief Program’s Capital Purchase Program.

 

   

The economic impact of past and any future terrorist attacks, acts of war or threats thereof and the response of the United States to any such threats and attacks.

 

   

The effects of, and changes in, federal, state and local laws, regulations and policies affecting banking, securities, insurance and monetary and financial matters.

 

   

The effects of changes in interest rates (including the effects of changes in the rate of prepayments of the Company’s assets) and the policies of the Board of Governors of the Federal Reserve System.

 

 

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The ability of the Company to compete with other financial institutions as effectively as the Company currently intends due to increases in competitive pressures in the financial services sector.

 

   

The inability of the Company to obtain new customers and to retain existing customers.

 

   

The timely development and acceptance of products and services, including products and services offered through alternative delivery channels such as the Internet.

 

   

Technological changes implemented by the Company and by other parties, including third party vendors, which may be more difficult or more expensive than anticipated or which may have unforeseen consequences to the Company and its customers.

 

   

The ability of the Company to develop and maintain secure and reliable electronic systems.

 

   

The ability of the Company to retain key executives and employees and the difficulty that the Company may experience in replacing key executives and employees in an effective manner.

 

   

Consumer spending and saving habits which may change in a manner that affects the Company’s business adversely.

 

   

Business combinations and the integration of acquired businesses which may be more difficult or expensive than expected.

 

   

The costs, effects and outcomes of existing or future litigation.

 

   

Changes in accounting policies and practices, as may be adopted by state and federal regulatory agencies and the Financial Accounting Standards Board.

 

   

The ability of the Company to manage the risks associated with the foregoing as well as anticipated.

These risks and uncertainties should be considered in evaluating forward-looking statements and undue reliance should not be placed on such statements. Additional information concerning the Company and its business, including other factors that could materially affect the Company’s financial results, is included in the Company’s filings with the Securities and Exchange Commission.

Overview

Community Financial Shares, Inc. (the “Company”) is the holding company for Community Bank- Wheaton/Glen Ellyn (the “Bank”). The Company is headquartered in Glen Ellyn, Illinois and operates four offices in its primary market area, which is comprised of Glen Ellyn, Illinois and Wheaton, Illinois. One location is in Glen Ellyn and three are located in Wheaton.

The Company’s principal business is conducted by the Bank and consists of offering a full range of community-based financial services, including commercial and retail banking services. The profitability of the Company’s operations depends primarily on its net interest income, provision for loan losses, other income, and other expenses. Net interest income is the difference between the income the Company receives on its loan and securities portfolios and its cost of funds, which consists of interest paid on deposits and borrowings. The provision for loan losses reflects the cost of credit risk in the Company’s loan portfolio. Other income consists of service charges on deposit accounts, gains on loan sales, securities gains (losses), and other income. Other expenses include salaries and employee benefits expenses, as well as occupancy and equipment expenses and other noninterest expenses.

 

 

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Net interest income is dependent on the amounts and yields of interest-earning assets as compared to the amounts and rates of interest-bearing liabilities. Net interest income is sensitive to changes in market rates of interest and the Company’s asset/liability management procedures in coping with such changes. The provision for loan losses is dependent upon management’s assessment of the collectibility of the loan portfolio under current economic conditions.

Comparison of Financial Condition at September 30, 2009 and December 31, 2008

Total assets at September 30, 2009 were $322.7 million, which represented an increase of $28.0 million, or 9.5%, compared to $294.7 million at December 31, 2008. The change in total assets was primarily due to increases in investment securities and loans receivable. Investment securities increased by $15.5 million, or 59.5%, to $41.4 million at September 30, 2009. The increase in investment securities is primarily due to a $20.8 million increase in deposits and a decrease in loan demand in early 2009 however, the Company experienced an increase in overall loan demand. Loans receivable increased by $12.4 million, or 5.6%, to $232.0 million at September 30, 2009 from $219.6 million at December 31, 2008. This increase is primarily due to continued strong lending and business relationships within our community maintained by our loan staff. Partially offsetting these increases was a decrease in cash and cash equivalents of $1.4 million, or 9.1%, to $14.4 million at September 30, 2009 from $15.8 million at December 31, 2008.

Total liabilities at September 30, 2009 were $298.9 million, which represented an increase of $20.8 million, or 7.5%, compared to $278.1 million at December 31, 2008. Deposits increased $20.8 million, or 8.2%, to $274.3 million at September 30, 2009 as compared to $253.5 million at December 31, 2008. The increase in deposits primarily consists of increases in the Bank’s core deposit accounts. Interest bearing demand deposit accounts increased by $13.2 million, or 23.7%, to $69.0 million at September 30, 2009 from $55.8 million at December 31, 2008 and money market accounts increased $4.1 million, or 10.6%, to $42.9 million at September 30, 2009 from $38.8 at December 31, 2008. The Bank’s commercial loan staff continues to place an emphasis on developing and maintaining deposit relationships with our current commercial loan clients. The percentage of interest bearing deposit accounts to total deposits increased to 24.9% at September 30, 2009 from 22.0% at December 31, 2008 and the percentage of certificates of deposit decreased to 39.7% at September 30, 2009 from 42.8% at December 31, 2008. Borrowed money, consisting of Federal Home Loan Bank (“FHLB”) advances and other borrowings, decreased $100,000, or 0.53%, to $18.9 million at September 30, 2009 from $19.0 million at December 31, 2009.

Shareholders’ equity increased by $7.3 million, or 43.6%, to $23.9 million at September 30, 2009 as compared to $16.6 million at December 31, 2008. The increase in shareholders’ equity was primarily the result of the receipt of a $6.97 million investment from the U.S. Department of the Treasury in May 2009 in exchange for 6,970 shares of the Company’s preferred stock pursuant to the TARP Capital Purchase Program provided for under the Emergency Economic Stabilization Act of 2008 and an increase of $580,000 in the Company’s accumulated other comprehensive income relating to the change in fair value of its available-for-sale investment portfolio. Partially offsetting these increases was the Company’s net loss for the nine months ended September 30, 2009.

Comparison of Operating Results for the Three Months Ended September 30, 2009 and 2008

General. The Company’s net income (loss) improved $886,000 to $86,000 for the three months ended September 30, 2009, from ($800,000) for the three months ended September 30, 2008. This represents a 96.9% improvement in basic and diluted loss per share to ($0.02) per share for the three months ended September 30, 2009 from ($0.64) per share for the three months ended September 30, 2008. The increase in net income during the third quarter of 2009 is the result of the combined effect of i) a $571,000 increase in non interest income; ii) a $675,000 decrease in the Bank’s provision for loan losses; iii) a $213,000 increase in net interest income and iv) a $323,000 increase in noninterest expenses.

 

 

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Net interest income. The following table summarizes interest and dividend income and interest expense for the three months ended September 30, 2009 and 2008.

 

     Three Months Ended September 30,  
     2009    2008    $ Change     % Change  
     (Dollars in thousands)  

Interest and dividend income:

          

Interest and fees on loans

   $ 3,148    $ 3,314    $ (166   (5.00 %) 

Securities:

          

Taxable

     339      243      96      39.51   

Exempt from federal tax

     129      129      —        —     

Other interest income

     10      2      8      400.00   
                        

Total interest and dividend income

     3,626      3,688      (62   (1.68
                        

Interest expense:

          

Deposits

     1,080      1,275      (195   (15.29

Federal funds purchased

     —        10      (10   (100.00

Federal Home Loan Bank advances and other borrowings

     156      205      (49   (23.90

Subordinated debentures

     20      41      (21   (51.22
                        

Total interest expense

     1,256      1,531      (275   (17.96
                        

Net interest income

   $ 2,370    $ 2,157    $ 213      9.88   
                        

The following table summarizes average balances and annualized average yields or costs for the three months ended September 30, 2009 and 2008.

 

     Three Months Ended September 30,  
     2009     2008  
     Average
Balance
   Interest    Average
Yield/
Cost
    Average
Balance
   Interest    Average
Yield/
Cost
 
     (Dollars in thousands)  

Interest-earning assets:

                

Taxable securities

   $ 30,639    $ 339    4.39   $ 18,868    $ 243    5.10

Tax-exempt securities

     12,092      129    4.21        12,241      129    4.19   

Loan receivables, net

     234,077      3,148    5.34        224,840      3,314    5.85   

Interest-bearing deposits

     12,580      10    0.31        153      2    5.23   

FHLB stock

     5,398      —      0.00        5,398      —      0.00   
                                

Total interest-earning assets

     294,786      3,626    4.88        261,500      3,688    5.60   

Interest-bearing liabilities:

                

NOW accounts

     68,994      175    1.01        48,121      138    1.14   

Regular savings

     24,514      9    0.15        25,745      16    0.25   

Money market accounts

     42,880      157    1.45        39,989      235    2.33   

Certificates of deposit

     110,637      739    2.65        101,862      886    3.45   

FHLB advances and other

     18,966      156    3.25        19,000      205    4.28   

Federal funds purchased

     —        —      —          1,947      10    2.08   

Subordinated debentures

     3,609      20    2.23        3,609      41    4.46   
                                

Total interest-bearing deposits

   $ 269,600      1,256    1.85      $ 240,273      1,531    2.53   

Net interest income

      $ 2,370         $ 2,157   
                        

Net interest spread

         3.03         3.07
                        

Net interest income to average interest-earning assets

         3.19         3.27
                        

 

 

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Interest Income. Interest income decreased $62,000, or 1.7%, to $3.6 million for the three months ended September 30, 2009, compared to $3.7 million for the same period in 2008. This decrease resulted primarily from a decrease in average loan yield, which was primarily the result of a $166,000 decrease in interest income on loans for the three months ended September 30, 2009 compared to the comparable prior year period.

Loan interest income decreased $166,000, or 5.0%, to $3.1 million for the three months ended September 30, 2009, compared to $3.3 million for the comparable prior year period. This decrease resulted from a decrease in the average loan yield of 51 basis points to 5.34% for the three months ended September 30, 2009 from 5.85% for the comparable prior year period. Partially offsetting this decrease was an increase in the average balance of loans of $9.3 million to $234.1 million for the three months ended September 30, 2009 from $224.8 million for the comparable prior year period. There was a 225 basis point decrease in the federal funds interest rate since April 2008, which has negatively impacted interest income due to approximately one half of the Bank’s portfolio being comprised of adjustable rate loans. In addition, interest on taxable securities increased $96,000 for the three months ended September 30, 2009 compared to the comparable prior year period. This increase is primarily due to an increase in the average balance of taxable securities of $11.7 million to $30.6 million for the three months ended September 30, 2009 from $18.9 million for the three months ended September 30, 2008. Partially offsetting the increase in the average balance of loans was a decrease in the average yield on taxable securities of 71 basis points to 4.39% for the three months ended September 30, 2009 from 5.10% for the comparable prior year period.

Interest Expense. Interest expense decreased by $275,000, or 18.0%, to $1.3 million for the three months ended September 30, 2009, from $1.5 million for the three months ended September 30, 2008. This decrease resulted from a decrease in the average rate paid on interest bearing liabilities of 68 basis points to 1.85% for the three months ended September 30, 2009 from 2.53% for the comparable prior year period. This decrease was partially offset by an increase in the average balance of interest bearing liabilities of $29.3 million to $269.6 million for the three months ended September 30, 2009 from $240.3 million for the three months ended September 30, 2008. Interest expense resulting from Federal Home Loan Bank advances and other borrowings decreased $49,000 during the three months ended September 30, 2009. The average cost on these borrowings decreased 103 basis points to 3.25% for the three months ended September 30, 2009 from 4.28% for the comparable period in 2008.

Net Interest Income before Provision for Loan Losses. Net interest income before provision for loan losses increased $213,000, or 9.9%, to $2.4 million for the three months ended September 30, 2009 compared to the comparable period in 2008. The Company’s net interest margin expressed as a percentage of average earning assets decreased to 3.19% for the three months ended September 30, 2009 as compared to 3.27% for the three months ended September 30, 2008. The yield on average earning assets decreased 72 basis points to 4.88% for the three months ended September 30, 2009 from 5.60% for the comparable period ended September 30, 2008. This decrease in the yield on average earning assets was primarily due to a decrease in loan yield, which resulted from the 225 basis point decrease in the federal funds interest rate since April 2008. The yield on average loans decreased to 5.34% for the three months ended September 30, 2009 from 5.85% for the three months ended September 30, 2008. In addition, there was a 68 basis point decrease in the cost of average interest-bearing liabilities to 1.85% for the three months ended September 30, 2009 as compared to 2.53% for the comparable 2008 period.

Provision for Loan Losses. The Bank’s provision for loan losses decreased to $120,000 for the three months ended September 30, 2009 from $795,000 for the comparable period in 2008. The decrease in the provision was the result of management’s quarterly analysis of the allowance for loan loss. At September 30, 2009, December 31, 2008 and September 30, 2008, non-performing loans totaled $10.0 million, $2.8 million and $5.0 million, respectively. At September 30, 2009, the ratio of the allowance for loan losses to non-performing loans was 38.4% compared to 119.7% at December 31, 2008 and 69.8% at September 30, 2008. The ratio of the allowance to total loans was 1.62%, 1.48% and 1.55%, at September 30, 2009, December 31, 2008 and September 30, 2008, respectively.

The amounts of the provision and allowance for loan losses are influenced by a number of factors, including current economic conditions, actual loss experience, industry trends and other factors, including real estate values in the Company’s market area and management’s assessment of current collection risks within the loan portfolio. Should the local economic climate continue to deteriorate, borrowers may experience increased difficulties paying off loans and the level of non-performing loans, charge-offs, and delinquencies could continue to rise, which would require us to further increase the provision. The allowance for loan losses represents

 

 

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management’s estimate of probable incurred losses based on information available as of the date of the financial statements. The allowance for loan losses is based on management’s evaluation of the collectibility of the loan portfolio, including past loan loss experience, known and inherent risks in the nature and volume of the portfolio, information about specific borrower situations and estimated collateral values, and economic conditions. Management believes that, based on information available at September 30, 2009, the Bank’s allowance for loan losses was adequate to cover probable incurred losses inherent in its loan portfolio at that time. However, no assurances can be given that the Bank’s level of allowance for loan losses will be sufficient to cover loan losses incurred by the Bank or that future adjustments to the allowance will not be necessary if economic or other conditions differ substantially from the economic and other conditions used by management to determine the current level of the allowance. In addition, the FDIC as an integral part of its examination processes, periodically reviews the Bank’s allowance for loan losses and may require the Bank to make additional provisions for estimated loan losses based upon judgments different from those of management. The FDIC examines the Bank periodically and, accordingly, as part of this examination the allowance is reviewed utilizing specific guidelines. Based upon its review, the FDIC may accordingly from time to time require reserves in addition to those previously provided.

Noninterest Income

 

     Three Months Ended September 30,  
     2009    2008     $ Change     % Change  
     (Dollars in thousands)  

Non-interest income:

         

Service charges on deposit accounts

   $ 149    $ 190      $ (41   (21.58 %) 

Gain on sale of loans

     233      116        117      100.86   

Loss on impairment

     —        (485     485      (100.00

Other non-interest income

     162      152        10      6.58   
                         

Total non-interest income

   $ 544    $ (27   $ 571      2,114.82   
                         

Noninterest income (loss) totaled $544,000 and ($27,000) for the three months ended September 30, 2009 and 2008, respectively. For the three months ended September 30, 2008 the loss on impairment relates to the $485,000 other than temporary write-down of our investment in Federal Home Loan Mortgage Corporation preferred stock. Gain on sale of loans increased $117,000 to $233,000 for the three months ended September 30, 2009 from $116,000 for the comparable prior year period. The Bank’s mortgage department has experienced an increase in loan applications during the third quarter of 2009 due to the lower interest rate environment for mortgage loans. Partially offsetting these increases was a decrease in service charges on deposit accounts of $41,000 to $149,000 for the three months ended September 30, 2009 from $190,000 for the comparable prior year period. This decrease was primarily due to lower volume of overdraft fees.

Noninterest Expense

 

     Three Months Ended September 30,  
     2009    2008    $ Change     % Change  
     (Dollars in thousands)  

Non-interest expenses:

          

Salaries and employee benefits

   $ 1,406    $ 1,292    $ 114      8.82

Net occupancy and equipment expense

     365      353      12      3.40   

Data processing expense

     237      218      19      8.72   

Advertising and promotions

     75      90      (15   (16.67

FDIC insurance premiums

     166      97      69      71.13   

Professional fees

     164      63      101      160.32   

Other operating expenses

     353      330      23      6.97   
                        

Total non-interest expenses

   $ 2,766    $ 2,443    $ 323      13.22   
                        

Noninterest expense increased by $323,000 to $2.8 million for the three months ended September 30, 2009 from $2.4 million for the comparable prior year period. This increase is partially due to an increase in FDIC premiums of $69,000 for the three months ended September 30, 2009 as compared to the prior year period. Salaries and employee benefits expenses increased by $114,000, or 8.8%, to $1.4 million for the three months ended September 30, 2009. This increase is the result of annual merit increases and higher commissions paid to mortgage department personnel. Professional fees, including legal and audit expenses, increased by $101,000 to $164,000 for

 

 

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the three months ended September 30, 2009. This increase is partially due to higher legal fees associated with foreclosure actions. Other operating expenses, including occupancy, data processing, and marketing and advertising expenses, increased by a net $16,000, or 2.4%, to $677,000 for the three months ended September 30, 2009 from $661,000 for the prior year period. Of this increase, $19,000 is related to data processing expense, which is primarily due to increased volume resulting from deposit account growth, and $12,000 is related to occupancy expense, which is primarily due to higher real estate taxes. These increases were partially offset by lower advertising and promotion expenses, which decreased $15,000 from the prior year period. Management continues to emphasize the importance of expense management and control in order to continue to provide expanded banking services to a growing market base.

Income Tax Expense. Income tax benefit totaled $58,000 and $308,000 for the three months ended September 30, 2009 and 2008, respectively. The decrease in income tax benefit is the result of an increase in income (loss) before income taxes of $1.1 million to $28,000 for the three months ended September 30, 2009 compared to ($1.1 million) for the comparable prior year period.

Comparison of Operating Results for the Nine Months Ended September 30, 2009 and 2008

General. The Company’s net loss improved $824,000 to ($222,000) for the nine months ended September 30, 2009, from ($1.0 million) for the nine months ended September 30, 2008. This represents a 63.1% improvement in basic and diluted loss per share to ($0.31) per share for the nine months ended September 30, 2009 from ($0.84) per share for the nine months ended September 30, 2008. The improvement in net loss during the nine months of 2009 is the result of the combined effect of i) a $818,000 increase in non interest income; ii) a $545,000 decrease in the Bank’s provision for loan losses; iii) a $273,000 increase in net interest income and iv) a $593,000 increase in noninterest expenses.

Net interest income. The following table summarizes interest and dividend income and interest expense for the nine months ended September 30, 2009 and 2008.

 

     Nine Months Ended September 30,  
     2009    2008    $ Change     % Change  
     (Dollars in thousands)  

Interest and dividend income:

          

Interest and fees on loans

   $ 9,338    $ 10,530    $ (1,192   (11.32 %) 

Securities:

          

Taxable

     816      717      99      13.81   

Exempt from federal tax

     377      391      (14   (3.58

Other interest income

     37      19      18      94.74   
                        

Total interest and dividend income

     10,568      11,657      (1,089   (9.34
                        

Interest expense:

          

Deposits

     3,499      4,531      (1,032   (22.78

Federal funds purchased

     —        51      (51   (100.00

Federal Home Loan Bank advances and other borrowings

     437      656      (219   (33.38

Subordinated debentures

     78      138      (60   (43.48
                        

Total interest expense

     4,014      5,376      (1,362   (25.34
                        

Net interest income

   $ 6,554    $ 6,281    $ 273      4.35   
                        

 

 

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The following table summarizes average balances and annualized average yields or costs for the nine months ended September 30, 2009 and 2008.

 

     Nine Months Ended September 30,  
     2009     2008  
     Average
Balance
   Interest    Average
Yield/
Cost
    Average
Balance
   Interest    Average
Yield/
Cost
 
     (Dollars in thousands)  

Interest-earning assets:

                

Taxable securities

   $ 23,968    $ 816    4.55   $ 18,152    $ 717    5.26

Tax-exempt securities

     11,709      377    4.30        12,234      391    4.26   

Loan receivables, net

     225,992      9,338    5.52        229,290      10,530    6.12   

Interest-bearing deposits

     15,932      37    0.31        956      19    2.69   

FHLB stock

     5,398      —      0.00        5,398      —      0.00   
                                

Total interest-earning assets

     282,999      10,568    4.99        266,030      11,657    5.84   

Interest-bearing liabilities:

                

NOW accounts

     65,560      526    1.07        45,346      359    1.05   

Regular savings

     25,092      28    0.15        25,840      58    0.30   

Money market accounts

     40,247      475    1.58        40,280      730    2.41   

Certificates of deposit

     109,592      2,470    3.01        108,873      3,384    4.14   

FHLB advances and other

     18,989      437    3.08        19,189      656    4.55   

Federal funds purchased

     —        —      —          2,373      51    2.86   

Subordinated debentures

     3,609      78    2.88        3,609      138    5.10   
                                

Total interest-bearing deposits

   $ 263,089      4,014    2.04      $ 245,510      5,376    2.92   

Net interest income

      $ 6,554         $ 6,281   
                        

Net interest spread

         2.95         2.92
                        

Net interest income to average interest-earning assets

         3.10         3.15
                        

Interest Income. Interest income decreased $1.1 million, or 9.3%, to $10.6 million for the nine months ended September 30, 2009, compared to $11.7 million for the same period in 2008. This decrease resulted primarily from a decrease in average loan yield, which was primarily the result of a $1.2 million decrease in interest income on loans for the nine months ended September 30, 2009 compared to the comparable prior year period.

Loan interest income decreased $1.2 million, or 11.3%, to $9.3 million for the nine months ended September 30, 2009, compared to $10.5 million for the comparable prior year period. This decrease resulted from a decrease in the average loan yield of 60 basis points to 5.52% for the nine months ended September 30, 2009 from 6.12% for the comparable prior year period and a decrease in the average balance of loans of $3.3 million to $226.0 million for the nine months ended September 30, 2009 from $229.3 million for the comparable prior year period. There was a 225 basis point decrease in the federal funds interest rate since April 2008, which has negatively impacted interest income due to approximately one half of the Bank’s portfolio being comprised of adjustable rate loans. In addition, interest on tax-exempt securities decreased $14,000 for the nine months ended September 30, 2009 compared to the comparable prior year period. This decrease is primarily due to a decrease in the average balance of tax exempt securities of $525,000 to $11.7 million for the nine months ended September 30, 2009 from $12.2 million for the nine months ended September 30, 2008. Partially offsetting this decrease was an increase in the average yield on tax-exempt securities of 4 basis points to 4.30% for the nine months ended September 30, 2009 from 4.26% for the comparable prior year period.

Interest Expense. Interest expense decreased by $1.4 million, or 25.3%, to $4.0 million for the nine months ended September 30, 2009, from $5.4 million for the nine months ended September 30, 2008. This decrease resulted from a decrease in the average rate paid on interest bearing liabilities of 88 basis points to 2.04% for the nine months ended September 30, 2009 from 2.92% for the comparable prior year period. This decrease was partially offset by an increase in the average balance of interest bearing liabilities of $17.6 million to $263.1 million

 

 

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for the nine months ended September 30, 2009 from $245.5 million for the nine months ended September 30, 2008. Interest expense resulting from Federal Home Loan Bank advances and other borrowings decreased $219,000 during the nine months ended September 30, 2009. The average cost on these borrowings decreased 147 basis points to 3.08% for the nine months ended September 30, 2009 from 4.55% for the comparable period in 2008.

Net Interest Income before Provision for Loan Losses. Net interest income before provision for loan losses increased $273,000, or 4.3%, to $6.6 million for the nine months ended September 30, 2009 compared to the comparable period in 2008. The Company’s net interest margin expressed as a percentage of average earning assets decreased to 3.10% for the nine months ended September 30, 2009 as compared to 3.15% for the nine months ended September 30, 2008. The yield on average earning assets decreased 85 basis points to 4.99% for the nine months ended September 30, 2009 from 5.84% for the comparable period ended September 30, 2008. This decrease in the yield on average earning assets was primarily due to a decrease in loan yield, which resulted from the 225 basis point decrease in the federal funds interest rate since April 2008. The yield on average loans decreased to 5.52% for the nine months ended September 30, 2009 from 6.12% for the nine months ended September 30, 2008. In addition, there was an 88 basis point decrease in the cost of interest-bearing liabilities to 2.04% for the nine months ended September 30, 2009 as compared to 2.92% for the comparable 2008 period.

Provision for Loan Losses. The Bank’s provision for loan losses decreased to $1.1 million for the nine months ended September 30, 2009 from $1.6 million for the comparable period in 2008. The decrease in the provision was the result of management’s quarterly analysis of the allowance for loan loss. At September 30, 2009, December 31, 2008 and September 30, 2008, non-performing loans totaled $10.0 million, $2.8 million and $5.0 million, respectively. At September 30, 2009, the ratio of the allowance for loan losses to non-performing loans was 38.4% compared to 119.7% at December 31, 2008 and 69.8% at September 30, 2008. The ratio of the allowance to total loans was 1.62%, 1.48% and 1.55%, at September 30, 2009, December 31, 2008 and September 30, 2008, respectively.

Noninterest Income

 

     Nine Months Ended September 30,  
     2009     2008     $ Change     % Change  
     (Dollars in thousands)  

Non-interest income:

        

Service charges on deposit accounts

   $ 469      $ 507      $ (38   (7.50 %) 

Gain on sale of loans

     803        431        372      86.31   

Gain on sale of securities

     50        79        (29   (36.71

Loss on impairment

     —          (485     485      100.00   

Loss on sale of foreclosed assets

     (44     —          (44   100.00   

Other non-interest income

     494        422        72      17.06   
                          

Total non-interest income

   $ 1,772      $ 954      $ 818      85.74   
                          

Noninterest income totaled $1.8 million and $954,000 for the nine months ended September 30, 2009 and 2008, respectively. For the nine months ended September 30, 2008 the loss on impairment relates to the $485,000 other than temporary write-down of our investment in FHLMC preferred stock. Gain on sale of loans increased $372,000 to $803,000 for the nine months ended September 30, 2009 from $431,000 for the comparable prior year period. The Bank’s mortgage department has experienced an increase in loan applications during the first nine months of 2009 due to the lower interest rate environment for mortgage loans. In addition, fees generated from the Company’s investment center increased $15,000 to $34,000 for the nine months ended September 30, 2008 as compared to $19,000 for the prior year period. Partially offsetting these increases was a decrease in gain on sale of securities of $29,000 to $50,000 for the nine months ended September 30, 2009 from $79,000 for the comparable prior year period.

 

 

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Noninterest Expense

 

     Nine Months Ended September 30,  
     2009    2008    $ Change     % Change  
     (Dollars in thousands)  

Non-interest expenses:

          

Salaries and employee benefits

   $ 4,084    $ 3,914    $ 170      4.34

Net occupancy and equipment expense

     1,077      1,027      50      4.87   

Data processing expense

     678      630      48      7.62   

Advertising and promotions

     214      258      (44   (17.05

FDIC insurance premiums

     536      204      332      162.74   

Professional fees

     464      282      182      64.54   

Other operating expenses

     879      1,023      (144   (14.08
                        

Total non-interest expenses

   $ 7,932    $ 7,338    $ 594      8.10   
                        

Noninterest expense increased by $594,000 to $7.9 million for the nine months ended September 30, 2009 from $7.3 million for the comparable prior year period. This increase is primarily due to an increase in FDIC premiums of $184,000 and a special FDIC assessment totaling $148,000 for the nine months ended September 30, 2009. Salaries and employee benefits expenses increased by $170,000, or 4.3%, to $4.1 million for the nine months ended September 30, 2009. This increase is primarily the result of annual merit increases. Professional fees, including legal and audit expenses, increased by $182,000 to $464,000 for the nine months ended September 30, 2009. This increase is partially due to legal fees associated with the Company’s participation in the TARP Capital Purchase Program. Other operating expenses, including occupancy, data processing, and marketing and advertising expenses, increased slightly by a net $54,000, or 2.8%, during the 2009 period and totaled $2.0 million for the nine months ended September 30, 2009 compared to $1.9 million for the comparable prior year period. Of this increase, $48,000 is related to data processing expense, which is primarily due to increased volume resulting from deposit account growth, and $50,000 is related to occupancy expenses, which is primarily due to higher real estate taxes. These increases were partially offset by lower advertising and promotion expenses, which decreased $44,000 from the prior year period. Management continues to emphasize the importance of expense management and control in order to continue to provide expanded banking services to a growing market base.

Income Tax Expense. Income tax benefit totaled $464,000 and $682,000 for the nine months ended September 30, 2009 and 2008, respectively. The decrease in income tax benefit is the result of an increase in income (loss) before income taxes of $1.0 million to ($686,000) for the nine months ended September 30, 2009 compared to ($1.7 million) for the comparable prior year period.

Critical Accounting Policies

The accounting and reporting policies of the Company are in accordance with accounting principles generally accepted in the United States and conform to general practices within the banking industry. The Company’s significant accounting policies are described in detail in the notes to the consolidated financial statements included in the Company’s Form 10-K for the year ended December 31, 2008, which was filed with the U.S. Securities and Exchange Commission on March 31, 2009. The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions. The financial position and results of operations can be affected by these estimates and assumptions and are integral to the understanding of reported results. Critical accounting policies are those policies that management believes are the most important to the portrayal of the Company’s financial condition and results, and they require management to make estimates that are difficult, subjective, or complex.

Allowance for Credit Losses. The allowance for credit losses provides coverage for probable losses inherent in the Company’s loan portfolio. Management evaluates the adequacy of the allowance for credit losses each quarter based on changes, if any, in underwriting activities, the loan portfolio composition (including product mix and geographic, industry or customer-specific concentrations), trends in loan performance, regulatory guidance and economic factors. This evaluation is inherently subjective, as it requires the use of significant management estimates. Many factors can affect management’s estimates of specific and expected losses, including volatility of default probabilities, rating migrations, loss severity and economic and political conditions. The allowance is increased through provisions charged to operating earnings and reduced by net charge-offs.

 

 

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The Company determines the amount of the allowance based on relative risk characteristics of the loan portfolio. The allowance recorded for commercial loans is based on reviews of individual credit relationships and an analysis of the migration of commercial loans and actual loss experience. The allowance recorded for homogeneous consumer loans is based on an analysis of loan mix, risk characteristics of the portfolio, fraud loss and bankruptcy experiences, and historical losses, adjusted for current trends, for each homogeneous category or group of loans. The allowance for credit losses relating to impaired loans is based on the loan’s observable market price, the collateral for certain collateral-dependent loans, or the discounted cash flows using the loan’s effective interest rate.

Regardless of the extent of the Company’s analysis of customer performance, portfolio trends or risk management processes, certain inherent but undetected losses are probable within the loan portfolio. This is due to several factors including inherent delays in obtaining information regarding a customer’s financial condition or changes in their unique business conditions, the judgmental nature of individual loan evaluations, collateral assessments and the interpretation of economic trends. Volatility of economic or customer-specific conditions affecting the identification and estimation of losses for larger non-homogeneous credits and the sensitivity of assumptions utilized to establish allowances for homogenous groups of loans are among other factors. The Company estimates a range of inherent losses related to the existence of these exposures. The estimates are based upon the Company’s evaluation of imprecision risk associated with the commercial and consumer allowance levels and the estimated impact of the current economic environment.

Liquidity and Capital Resources

The Company’s primary sources of funds are deposits, FHLB advances, and proceeds from principal and interest payments on loans and securities. While maturities, and scheduled amortization of loans and securities, and calls of securities are predictable sources of funds, deposit flows and mortgage prepayments are greatly influenced by general interest rates, economic conditions, and competition. The Company generally manages the pricing of its deposits to be competitive and to increase core deposit relationships.

Liquidity management is both a daily and long-term responsibility of management. The Company adjusts its investments in liquid assets based upon management’s assessment of (i) expected loan demand, (ii) expected deposit flows, (iii) yields available on interest-earning deposits and securities, and (iv) the objectives of its asset/liability management program. Excess liquid assets are invested generally in interest-earning overnight deposits and short- and intermediate-term U.S. government and agency obligations.

The Company’s most liquid assets are cash and short-term investments. The levels of these assets are dependent on the Company’s operating, financing, lending, and investing activities during any given year. The Company has other sources of liquidity if a need for additional funds arises, including securities maturing within one year and the repayment of loans. The Company may also utilize the sale of securities available for sale, federal funds lines of credit from correspondent banks, and borrowings from the Federal Home Loan Bank of Chicago and M&I Bank.

The Company is a separate legal entity from the Bank and must provide for its own liquidity. In addition to its operating expenses, the Company is responsible for paying any dividends declared to its shareholders. The Company’s primary source of income is dividends received from the Bank. The amount of dividends that the Bank may declare and pay to the Company is generally restricted under applicable law to net profits in the current year plus those for the previous two years. At September 30, 2009, the Company had liquid assets of $3.0 million.

 

 

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Contractual Obligations

The following table discloses contractual obligations of the Company as of September 30, 2009:

 

(Dollars in Thousands)

   2009    2010    2011    2012    2013    2014
and after
   Total

Federal Home Loan Bank advances

   $ 4,000    $ 6,500    $ —      $ 2,000    $ 4,500    $ —      $ 17,000

Line of credit

Subordinated debentures

    

 

—  

—  

    

 

—  

—  

    

 

—  

—  

    

 

—  

—  

    

 

1,900

—  

    

 

—  

3,609

    

 

1,900

3,609

Data Processing (1), (2)

     135      561      581      601      —        —        1,878
                                                

Total

   $ 4,135    $ 7,061    $ 581    $ 2,601    $ 6,400    $ 3,609    $ 24,387
                                                

 

(1) Estimated contract amount based on transaction volume. Actual expense was $551,000 and $461,000 in 2008 and 2007, respectively.
(2) Contract expires September 30, 2012.

Off-Balance Sheet Arrangements

In the normal course of operations, we engage in a variety of financial transactions that, in accordance with U.S. generally accepted accounting principles, are not recorded in our financial statements. These transactions involve, to varying degrees, elements of credit, interest rate and liquidity risk. Such transactions are used primarily to manage customers’ requests for funding and take the form of loan commitments, letters of credit and lines of credit. For information about our loan commitments and unused lines of credit, see Note 15 of the notes to the consolidated financial statements included in our Annual Report on Form 10-K for the year ended December 31, 2008, as filed with the SEC on March 31, 2009. We currently have no plans to engage in hedging activities in the future. For the year ended December 31, 2008 and for the nine months ended September 30, 2009, we engaged in no off-balance sheet transactions reasonably likely to have a material effect on our financial condition, results of operations or cash flows.

Impact of Inflation and Changing Prices

The financial statements and related data presented herein have been prepared in accordance with accounting principles generally accepted in the United States of America, which require the measurement of financial position and operating results in terms of historical dollars without considering changes in the relative purchasing power of money over time due to inflation. The primary impact of inflation on the operations of the Company is reflected in increased operating costs. Unlike most industrial companies, virtually all of the assets and liabilities of a financial institution are monetary in nature. As a result, interest rates, generally, have a more significant impact on a financial institution’s performance than does inflation. Interest rates do not necessarily move in the same direction or to the same extent as the prices of goods and services.

 

ITEM 3: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Interest Rate Risk

For a discussion of the potential impact of interest rate changes upon the market value of the Company’s portfolio equity, see Item 7A in the Company’s Annual Report on Form 10-K for the year ended December 31, 2008. Management, as part of its regular practices, performs periodic reviews of the impact of interest rate changes upon net interest income and the market value of the Company’s portfolio equity. Based on, among other factors, such reviews, management believes that there have been no material changes in the market risk of the Company’s asset and liability position since December 31, 2008.

 

 

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ITEM 4(T): CONTROLS AND PROCEDURES

The Company’s management, including the Company’s principal executive officer and principal financial officer, have evaluated the effectiveness of the Company’s “disclosure controls and procedures,” as such term is defined in Rule 13a-15(e) promulgated under the Securities Exchange Act of 1934, as amended (the “Exchange Act”). Based upon their evaluation, the principal executive officer and principal financial officer concluded that, as of the end of the period covered by this report, the Company’s disclosure controls and procedures were effective for the purpose of ensuring that the information required to be disclosed in the reports that the Company files or submits under the Exchange Act with the Securities and Exchange Commission (the “SEC”) (1) is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and (2) is accumulated and communicated to the Company’s management, including its principal executive and principal financial officers, as appropriate to allow timely decisions regarding required disclosure. In addition, based on that evaluation, no change in the Company’s internal control over financial reporting occurred during the nine months ended September 30, 2009 that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

 

 

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PART II

 

ITEM 1. LEGAL PROCEEDINGS

There are no material pending legal proceedings to which the Company or its subsidiaries are a party other than ordinary routine litigation incidental to their respective businesses.

 

ITEM 1A. RISK FACTORS

There are no material changes to the risk factors disclosed in the Company’s Form 10-K for the year ended December 31, 2008.

 

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

None

 

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

None

 

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

None

 

ITEM 5. OTHER INFORMATION

None

 

ITEM 6. EXHIBITS

 

31.1    Certification of Chief Executive Officer Pursuant to Rule 13a-14(a)/15d-14(a)
31.2    Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a)
32.1    Certification of 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 of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

 

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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.

 

COMMUNITY FINANCIAL SHARES, INC.
(Registrant)

/s/ Scott W. Hamer

Scott W. Hamer
Dated: November 13, 2009
President and Chief Executive Officer
(Principal Executive Officer)

/s/ Eric J. Wedeen

Eric J. Wedeen
Dated: November 13, 2009
Chief Financial Officer
(Principal Financial Officer)