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EX-32 - EXHIBIT 32 - Hampden Bancorp, Inc.a6605188_ex32.htm
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EX-31.1 - EXHIBIT 31.1 - Hampden Bancorp, Inc.a6605188_ex311.htm
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
 
FORM 10-Q
 
þ  
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
FOR THE QUARTERLY PERIOD ENDED DECEMBER 31, 2010
or
 
o
 
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 : 333-137359
 
Hampden Bancorp, Inc.
(Exact name of registrant as specified in its charter)
 
Delaware
(State or other jurisdiction of incorporation or organization)
 
20-5714154
(IRS Employer Identification No.)
 
19 Harrison Ave.
Springfield, Massachusetts 01102
(Address of principal executive offices) (Zip Code)
 
(413) 736-1812
(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 (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 þ No o.

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 (Sec. 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  o No o.

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 “accelerated filer”, “large accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act (check one):
 
Large accelerated filer  o
Accelerated Filer o
 
 Non-accelerated filer   o
Smaller reporting company þ
 
(Do not check if a smaller reporting company)
   
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12(b)-2 of the Exchange Act). Yes o No þ

As of February 3, 2011, there were 6,802,675 shares of the registrant’s common stock outstanding.
 
 
 

 
 
HAMPDEN BANCORP, INC.
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS OF
HAMPDEN BANCORP, INC. AND SUBSIDIARIES

   
Page No.
 
       
         
       
         
   
3
 
         
   
        4
 
         
   
5
 
         
   
6-7
 
         
   
8
 
         
   
18
 
         
   
34
 
         
   
34
 
         
       
         
   
35
 
         
   
35
 
         
   
35
 
         
   
35
 
         
   
35
 
         
   
35
 
         
   
35
 
         
   
37
 
 
 
2

 
 
PART 1 – FINANCIAL INFORMATION
Item 1: Financial Statements of Hampden Bancorp, Inc. and Subsidiaries

HAMPDEN BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Dollars in thousands)
 
ASSETS
           
   
December 31,
   
June 30,
 
   
2010
   
2010
 
   
(Unaudited)
 
Cash and due from banks
  $ 18,529     $ 20,770  
Federal funds sold and other short-term investments
    10,231       9,263  
Cash and cash equivalents
    28,760       30,033  
                 
Securities available for sale, at fair value
    111,334       111,379  
Federal Home Loan Bank of Boston stock, at cost
    5,233       5,233  
Loans held for sale
    1,139       933  
Loans, net of allowance for loan losses of $6,074
               
at December 31, 2010 and $6,314 at June 30, 2010
    393,536       412,614  
Other real estate owned
    989       911  
Premises and equipment, net
    5,336       5,097  
Accrued interest receivable
    1,583       1,751  
Deferred tax asset, net
    3,721       3,420  
Bank-owned life insurance
    10,536       10,325  
Other assets
    3,123       2,343  
    $ 565,290     $ 584,039  
                 
LIABILITIES AND STOCKHOLDERS' EQUITY
               
                 
Deposits
  $ 411,080     $ 420,060  
Securities sold under agreements to repurchase
    9,705       6,806  
Long-term debt
    46,340       58,196  
Mortgagors' escrow accounts
    881       849  
Accrued expenses and other liabilities
    4,578       3,355  
Total liabilities
    472,584       489,266  
                 
Commitments and contingencies (Note 5)
               
                 
Preferred stock ($.01 par value, 5,000,000 shares authorized, none issued or outstanding)
    -       -  
Common stock ($.01 par value, 25,000,000 shares authorized, 7,949,879 issued;
               
6,821,944 outstanding at December 31, 2010 and 7,117,274 at June 30, 2010)
    79       79  
Additional paid-in-capital
    78,241       77,959  
Unearned compensation - ESOP (466,394 shares unallocated at December 31, 2010 and
         
487,594 shares unallocated at June 30, 2010)
    (4,664 )     (4,876 )
Unearned compensation - equity incentive plan
    (1,224 )     (1,450 )
Retained earnings
    30,428       29,781  
Accumulated other comprehensive income
    1,411       1,869  
Treasury stock, at cost (1,127,935 shares at December 31, 2010 and 832,605 shares at June 30, 2010)
    (11,565 )     (8,589 )
Total stockholders' equity
    92,706       94,773  
    $ 565,290     $ 584,039  
 
See accompanying notes to unaudited consolidated financial statements.
 
 
3

 
 
HAMPDEN BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(Dollars in thousands, except per share data)
 
   
Three Months Ended
December 31,
   
Six Months Ended
December 31,
 
   
2010
   
2009
   
2010
   
2009
 
   
(Unaudited)
   
(Unaudited)
 
Interest and dividend income:
                       
Loans, including fees
  $ 5,648     $ 5,895     $ 11,464     $ 11,691  
Debt securities
    782       1,058       1,626       2,181  
Dividends
    2       4       3       7  
Federal funds sold and other short-term investments
    15       6       26       12  
Total interest and dividend income
    6,447       6,963       13,119       13,891  
                                 
Interest expense:
                               
Deposits
    1,429       1,829       3,020       3,760  
Borrowings
    521       679       1,099       1,417  
Total interest expense
    1,950       2,508       4,119       5,177  
                                 
Net interest income
    4,497       4,455       9,000       8,714  
Provision for loan losses
    300       1,800       600       2,642  
Net interest income, after provision for loan losses
    4,197       2,655       8,400       6,072  
                                 
Non-interest income:
                               
Customer service fees
    449       488       932       961  
Gain on sales or calls of securities, net
    1       12       8       14  
Gain on sales of loans, net
    208       17       390       45  
Increase in cash surrender value of life insurance
    105       106       211       212  
Other
    44       54       99       108  
Total non-interest income
    807       677       1,640       1,340  
                                 
Non-interest expense:
                               
Salaries and employee benefits
    2,443       2,369       4,875       4,762  
Occupancy and equipment
    443       440       897       850  
Data processing services
    178       236       348       466  
Advertising
    183       289       356       492  
Write-down of (gain on) Other Real Estate Owned
    -       28       (15 )     253  
FDIC insurance and assessment expenses
    150       135       308       270  
Other general and administrative
    850       833       1,670       1,549  
Total non-interest expense
    4,247       4,330       8,439       8,642  
                                 
Income (loss) before income taxes
    757       (998 )     1,601       (1,230 )
                                 
Income tax provision (benefit)
    266       (328 )     567       (398 )
                                 
Net income (loss)
  $ 491     $ (670 )   $ 1,034     $ (832 )
                                 
Earnings (loss) per share
                               
Basic
  $ 0.08     $ (0.10 )   $ 0.16     $ (0.13 )
Diluted
  $ 0.08     $ (0.10 )   $ 0.16     $ (0.13 )
                                 
Weighted average shares outstanding
                               
                Basic
    6,187,615       6,515,262       6,282,785       6,558,873  
                Diluted
    6,241,092       6,515,262       6,326,979       6,558,873  
 
See accompanying notes to unaudited consolidated financial statements.
 
 
4

 
 
HAMPDEN BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY
 (Dollars in thousands)
 
                                           
               
 
                               
                     
Unearned
         
Accumulated
       
         
Additional
   
Unearned
   
Compensation -
         
Other
       
   
Common Stock
   
Paid-in
   
Compensation
   
Equity
   
Retained
   
Comprehensive
   
Treasury
 
   
Shares
   
Amount
   
Capital
   
ESOP
   
Incentive Plan
   
Earnings
   
Income (Loss)
   
Stock
   
Total
 
   
(Unaudited)
 
Balance at June 30, 2009
    7,446,752     $ 79     $ 77,603     $ (5,300 )   $ (2,127 )   $ 30,986     $ 507     $ (5,090 )   $ 96,658  
                                                                         
Comprehensive loss:
                                                                       
    Net loss
    -       -       -       -       -       (832 )     -       -       (832 )
Net unrealized gain on securities
                                                                 
available for sale, net of reclassification
                                                               
adjustment and tax effects
  -       -       -       -       -       -       680       -       680  
Total comprehensive loss
                                                              (152 )
Cash dividends paid ($0.06 per share)
    -       -       -       -       -       (406 )     -       -       (406 )
Common stock repurchased
    (198,300 )     -       -       -       -       -       -       (2,141 )     (2,141 )
Stock-based compensation
    -       -       168       -       320       -       -       -       488  
ESOP shares committed to be
                                                                       
allocated (21,200 shares)
    -       -       9       212       -       -       -       -       221  
Balance at December 31, 2009
    7,248,452     $ 79     $ 77,780     $ (5,088 )   $ (1,807 )   $ 29,748     $ 1,187     $ (7,231 )     94,668  
                                                                         
Balance at June 30, 2010
    7,117,274     $ 79     $ 77,959     $ (4,876 )   $ (1,450 )   $ 29,781     $ 1,869     $ (8,589 )   $ 94,773  
Comprehensive income:
                                                                       
    Net income
    -       -       -       -       -       1,034       -       -       1,034  
Net unrealized loss on securities
                                                                 
available for sale, net of reclassification
                                                               
adjustment and tax effects
  -       -       -       -       -       -       (458 )     -       (458 )
Total comprehensive income
                                                              576  
Cash dividends paid ($0.06 per share)
    -       -       -       -       -       (387 )     -       -       (387 )
Common stock repurchased
    (295,330 )     -       -       -       -       -       -       (2,976 )     (2,976 )
Stock-based compensation
    -       -       283       -       226       -       -       -       509  
ESOP shares allocated or                                                                        
committed to be allocated                                                                         
(21,200 shares)
    -       -       (1 )     212       -       -       -       -       211  
Balance at December 31, 2010
    6,821,944     $ 79     $ 78,241     $ (4,664 )   $ (1,224 )   $ 30,428     $ 1,411     $ (11,565 )   $ 92,706  
 
See accompanying notes to unaudited consolidated financial statements.
 
 
5

 
 
HAMPDEN BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in thousands)
 
   
Six Months Ended
December 31,
 
   
2010
   
2009
 
   
(Unaudited)
 
Cash flows from operating activities:
           
Net income (loss)
  $ 1,034     $ (832 )
Adjustments to reconcile net income (loss) to net cash
               
provided by operating activities:
               
Provision for loan losses
    600       2,642  
Net amortization of securities
    67       74  
Depreciation and amortization
    383       363  
Gain on sales or calls of securities, net
    (8 )     (14 )
Loans originated for sale
    (14,031 )     (10,098 )
Proceeds from loan sales
    14,215       10,810  
Gain on sales of loans, net
    (390 )     (45 )
Write-down of (gain on) other real estate owned
    (15 )     253  
Increase in cash surrender value of bank-owned
               
life insurance
    (211 )     (212 )
Deferred tax benefit
    -       2  
Employee Stock Ownership Plan expense
    212       221  
Stock-based compensation
    508       488  
Net change in:
               
Accrued interest receivable
    168       12  
Other assets
    (780 )     (1,655 )
Accrued expenses and other liabilities
    1,223       (1,671 )
Net cash provided by operating activities
    2,975       338  
                 
Cash flows from investing activities:
               
Activity in available-for-sale securities:
               
Sales
    -       359  
Maturities and calls
    26,318       6,482  
Principal payments
    16,191       16,411  
Purchases
    (43,282 )     (14,473 )
Purchase of loans
    -       (2,357 )
Proceeds from sale of Other Real Estate Owned
    375       232  
Loan originations, net of principal payments
    18,040       (22,756 )
Purchase of premises and equipment
    (622 )     (822 )
Net cash provided (used) by investing activities
    17,020       (16,924 )
 
(continued)
 
See accompanying notes to unaudited consolidated financial statements.
 
 
6

 
 
HAMPDEN BANCORP, INC AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (Concluded)
(Dollars in thousands)
 
   
Six Months Ended
December 31,
 
   
2010
   
2009
 
   
(Unaudited)
 
Cash flows from financing activities:
           
Net change in deposits
    (8,980 )     22,940  
Net change in repurchase agreements
    2,899       (773 )
Net change in short-term borrowings
    -       (1,500 )
Repayment of long-term debt
    (11,856 )     (9,857 )
Net change in mortgagors' escrow accounts
    32       96  
Repurchase of common stock
    (2,976 )     (2,141 )
Payment of dividends on common stock
    (387 )     (406 )
Net cash provided (used) by financing activities
    (21,268 )     8,359  
                 
Net change in cash and cash equivalents
    (1,273 )     (8,227 )
                 
Cash and cash equivalents at beginning of period
    30,033       36,248  
                 
Cash and cash equivalents at end of period
  $ 28,760     $ 28,021  
                 
Supplemental cash flow information:
               
Interest paid on deposits
  $ 3,021     $ 3,760  
Interest paid on borrowings
    1,127       1,448  
Income taxes paid
    48       272  
Transfer from loans to OREO
    438       56  
 
See accompanying notes to unaudited consolidated financial statements.
 
 
7

 
 
HAMPDEN BANCORP, INC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
 
 
1. Basis of presentation and consolidation
 
The consolidated financial statements include the accounts of Hampden Bancorp, Inc. (the “Company”) and its wholly-owned subsidiaries, Hampden Bank (the “Bank”) and Hampden LS, Inc.  Hampden Bank is a Massachusetts chartered stock savings bank. The Company contributed funds to Hampden LS, Inc. to enable it to make a 15-year loan to the employee stock ownership plan (the “ESOP”) to allow it to purchase shares of the Company’s common stock as part of the completion of the initial public offering. Hampden Bank has two wholly-owned subsidiaries, Hampden Investment Corporation, which engages in buying, selling, holding and otherwise dealing in securities, and Hampden Insurance Agency, which ceased selling insurance products in November of 2000 and remains inactive.  All significant intercompany accounts and transactions have been eliminated in consolidation.

These financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial statements and the instructions for Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. In the opinion of management the information reflects all adjustments (consisting solely of normal recurring adjustments) that are necessary for a fair presentation. The results shown for the interim period ended December 31, 2010 are not necessarily indicative of the results to be obtained for a full year. These consolidated interim financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto for the year ended June 30, 2010 included in the Company’s most recent Annual Report on Form 10-K filed by the Company  with the Securities and Exchange Commission (SEC”) on September 7, 2010.

In preparing the consolidated interim financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities, and disclosures of contingent assets and liabilities, as of the date of the statement of financial condition and reported amounts of revenues and expenses for the periods presented. 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, deferred income taxes, and other-than-temporary impairment of investment securities.

2. Recent Accounting Pronouncements

 In June 2009, the FASB issued Accounting Standards Update (“ASU”) 2009-16, Accounting for Transfers of Financial Assets. This update is designed to improve the relevance, representational faithfulness, and comparability of the information that a reporting entity provides in its financial reports about a transfer of financial assets; the effects of a transfer on its financial position, financial performance, and cash flows; and a transferor’s continuing involvement in transferred financial assets. This Statement is effective as of the beginning of each reporting entity’s first annual reporting period that begins after November 15, 2009, for interim periods within the first annual reporting period, and for interim and annual reporting periods thereafter. Earlier application is prohibited. The recognition and measurement provisions of the statement are to be applied to transfers that occur on or after the effective date. This guidance was adopted as of July 1, 2010 and did not have a material impact on the Company’s consolidated financial statements.
 
In April 2010, the FASB issued ASU 2010-18, Effect of a Loan Modification When the Loan Is Part of a Pool That is Accounted for as a Single Asset.  This update is effective for modifications of loans accounted for with pools in the first interim or annual period ending on or after July 15, 2010.  This update provides guidance on accounting for acquired loans that have evidence of credit deterioration upon acquisition.  It allows acquired assets with common risk characteristics to be accounted for in the aggregate as a pool.  This update has no impact on the Company’s consolidated financial statements.
 
In May 2010, the FASB issued ASU 2010-11, Scope Exception Related to Embedded Credit Derivatives, This is an update to Accounting Standards Codification (“ASC”) Topic 815 Derivatives and Hedging and is effective for fiscal quarters beginning after June 15, 2010. This ASU clarifies that the scope exception in Paragraphs 815-15-15-8 through 15-9 only applies to the transfer of credit risk in the form of subordination of one financial instrument to another.  This would apply to a securitization that is issued in several tranches and one tranche is subordinate to another tranche of the same securitization. Under these circumstances the embedded credit derivative does not have to be analyzed under the above paragraphs for possible bifurcation.  This update did not have a material impact on the Company’s consolidated financial statements.
 
In July 2010, the FASB issued ASU No. 2010-20, Receivables (Topic 310), Disclosures about the Credit Quality of Financing Receivables and the Allowance for Credit Losses. This Update requires an entity to provide disclosures that facilitate financial statement users’ evaluation of (1) the nature of credit risk inherent in the entity’s loan portfolio, (2) how that risk is analyzed and assessed in arriving at the allowance for loan and lease losses, and (3) the changes and reasons for those changes in the allowance for loan and lease losses. For public entities, the disclosures as of the end of a reporting period are effective for interim and annual reporting periods ending on or after December 15, 2010, and were adopted by the Company as of December 31, 2010. The disclosures about activity that occurs during a reporting period are effective for interim and annual reporting periods beginning on or after December 15, 2010, and were adopted by the Company as of January 1, 2011. The FASB, in January 2011, has issued ASU 2011-01, Receivables (Topic 310): Deferral of the Effective Date of Disclosures about Troubled Debt Restructurings in Update No. 2010-20. The amendments temporarily delays the effective date of the disclosures about troubled debt restructurings in ASU 2010-20 for public entities. The delay is intended to allow the FASB time to complete its deliberations on what constitutes a troubled debt restructuring. The effective date of the new disclosures about troubled debt restructurings for public entities and the guidance for determining what constitutes a troubled debt restructuring will then be coordinated. Currently, that guidance is anticipated to be effective for interim and annual periods ending after June 15, 2011.
 
 
8

 
 
3. Earnings Per Share

Basic earnings per share (“EPS”) excludes dilution and is calculated by dividing net income available to common stockholders by the weighted-average number of shares of common stock outstanding during the period. Diluted EPS is computed in a manner similar to that of basic EPS except that the weighted-average number of common shares outstanding is increased to include the number of incremental common shares (computed using the treasury stock method) that would have been outstanding if all potentially dilutive common stock equivalents (such as stock options and unvested restricted stock) were issued during the period. Unallocated common shares held by the ESOP are shown as a reduction in stockholders' equity and are included in the weighted-average number of common shares outstanding for both basic and diluted EPS calculations as they are committed to be released.
 
Earnings per share for the three and six month periods ended December 31, 2010 and 2009 have been computed as follows:
 
   
Three Months Ended December 31,
   
Six Months Ended December 31,
 
   
2010
   
2009
   
2010
   
2009
 
                         
Net income (loss) applicable to common stock (in thousands)
  $ 491     $ (670 )   $ 1,034     $ (832 )
                                 
Average number of shares issued
    7,949,879       7,949,879       7,949,879       7,949,879  
Less: average unallocated ESOP shares
    (473,347 )     (515,748 )     (478,665 )     (521,066 )
Less: average treasury stock
    (1,103,781 )     (666,702 )     (1,005,445 )     (617,773 )
Less: average unvested restricted stock awards
    (185,136 )     (252,167 )     (182,984 )     (252,167 )
Average number of basic shares outstanding
    6,187,615       6,515,262       6,282,785       6,558,873  
                                 
Plus: dilutive unvested restricted stock awards
    53,477       -       44,194       -  
Plus: dilutive stock option shares
    -       -       -       -  
Average number of diluted shares outstanding
    6,241,092       6,515,262       6,326,979       6,558,873  
                                 
Basic earnings (loss) per share
  $ 0.08     $ (0.10 )   $ 0.16     $ (0.13 )
Diluted earnings (loss) per share
  $ 0.08     $ (0.10 )   $ 0.16     $ (0.13 )
 
There were 558,000 stock options for the three and six months ended December 31, 2010 and 553,000 stock options for the three and six months ended December 31, 2009 that were excluded from the diluted earnings per share because their effect is anti-dilutive. There were 317,996 shares of restricted stock for the three and six months ending December 31, 2009 that were excluded from the diluted earnings per share because their effect is anti-dilutive.

4. Dividends

On November 2, 2010, the Company declared a cash dividend of $0.03 per common share which was paid on November 29, 2010 to stockholders of record as of the close of business on November 12, 2010.

On February 1, 2011, the Company declared a cash dividend of $0.03 per common share which is payable on February 25, 2011 to stockholders of record as of the close of business on February 11, 2011.
 
5. Loan Commitments
 
Outstanding loan commitments totaled $78.3 million at December 31, 2010, compared to $74.8 million as of June 30, 2010. Loan commitments and other contingencies primarily consist of commitments to originate new loans as well as the outstanding unused portions of home equity, business and other lines of credit, and unused portions of construction loans.

6. Fair Value of Financial Assets and Liabilities
 
GAAP 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. GAAP establishes a fair value hierarchy that prioritizes the use of inputs used in valuation methodologies into the following three levels:
 
Level 1:
  
Inputs to the valuation methodology are quoted prices, unadjusted, for identical assets or liabilities in active markets. A quoted price in an active market provides the most reliable evidence of fair value and shall be used to measure fair value whenever available.
 
 
9

 
 
Level 2:
  
Inputs to the valuation methodology include quoted prices for similar assets or liabilities in active markets; and  quoted prices for identical or similar assets or liabilities in markets that are not active; or inputs to the valuation methodology  are derived principally from or can be corroborated by observable market data by correlation or other means.
   
Level 3:
  
Inputs to the valuation methodology are unobservable and significant to the fair value measurement. Level 3 assets and liabilities include financial instruments whose value is determined using discounted cash flow methodologies, as well as instruments for which the determination of fair value requires significant management judgment or estimation.
 
 
The following methods and assumptions were used by the Company in estimating fair value disclosures for financial instruments:
 
Cash and cash equivalents: The carrying amounts of cash and federal funds sold and other short-term investments approximate fair values.
 
Securities available for sale: The securities measured at fair value utilizing Level 1 and Level 2 inputs are government-sponsored enterprises, corporate bonds and other obligations, residential mortgage-backed securities and marketable equity securities. The fair values used by the Company are obtained from an independent pricing service, which represents either quoted market prices for identical securities, quoted market prices for comparable securities or fair values determined by pricing models that consider observable market data, such as interest rate volatilities, credit spreads and prices from market makers and live trading systems and other market indicators, industry and economic events.  These values are not adjusted by the Company.
 
Federal Home Loan Bank of Boston Stock: The carrying amount of Federal Home Loan Bank (“FHLB”) stock approximates fair value based upon the redemption provisions of the FHLB.
 
Loans held for sale: Fair value of loans held for sale are estimated based on commitments on hand from investors or prevailing market prices.
 
Loans: Fair values for loans are estimated using discounted cash flow analyses, using market interest rates currently being offered for loans with similar terms to borrowers of similar credit quality. This analysis assumes no prepayment. Fair values for non-performing loans are estimated using discounted cash flow analyses or underlying collateral values, where applicable.
 
Mortgage servicing rights: Mortgage servicing rights (“MSR”) are the rights of a mortgage servicer to collect mortgage payments and forward them, after deducting a fee, to the mortgage lender. The fair value of servicing rights is estimated using a present value cash flow model. The fair value of MSR is highly sensitive to changes in assumptions. Changes in prepayment speed assumptions generally have the most significant impact on the fair value of our MSR. Generally, as interest rates decline, mortgage loan prepayments accelerate due to increased refinance activity, which results in a decrease in the fair value of MSR. As interest rates rise, mortgage loan prepayments slow down, which results in an increase in the fair value of MSR. Thus, any measurement of the fair value of our MSR is limited by the conditions existing and the assumptions utilized as of a particular point in time, and those assumptions may not be appropriate if they are applied at a different point in time.
 
Deposits and mortgage escrow accounts: The fair values for non-certificate accounts and mortgage escrow accounts are, by definition, equal to the amounts payable on demand at the reporting date (i.e., their carrying amounts). Fair values for certificate accounts are estimated using a discounted cash flow calculation that applies market interest rates currently being offered on certificates to a schedule of aggregated expected monthly maturities of time deposits.
 
Securities sold under agreements to repurchase: The carrying amount of repurchase agreements approximates fair value based on the short duration of the agreements
 
Long-term debt: The fair values of the Company's advances are estimated using discounted cash flow analyses based on the Company's current incremental borrowing rates for similar types of borrowing arrangements.
 
Accrued interest: The carrying amounts of accrued interest approximate fair value.
 
Off-balance-sheet instruments: Fair values for off-balance-sheet lending commitments are based on fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the counterparties' credit standing. The estimated fair value of off-balance sheet financial instruments at December 31, 2010 and June 30, 2010 was not material.
 
 
10

 
 
The Company does not measure any liabilities at fair value on either a recurring or non-recurring basis.
 
The following table presents the balances of assets measured at fair value on a recurring basis as of December 31, 2010:
 
   
Quoted Prices in
Active Markets for Identical Assets
(Level 1)
   
Significant Other Observable Inputs
(Level 2)
   
Significant
Unobservable
Inputs (Level 3)
   
Total
 
   
(Dollars in thousands)
 
Debt securities:
                       
Government-sponsored enterprises
  $ -     $ 4,502     $ -     $ 4,502  
Corporate bonds
    -       989       -       989  
Residential mortgage-backed securities:
                         
Agency
    -       97,491       -       97,491  
Non-agency
    -       7,417       -       7,417  
Total debt securities
    -       110,399       -       110,399  
Marketable equity securities
    935       -       -       935  
Mortgage servicing rights
    -       437       -       437  
Total assets at fair value
  $ 935     $ 110,836     $ -     $ 111,771  
 
The following table presents the balances of assets measured at fair value on a recurring basis as of June 30, 2010.
 
   
Quoted Prices in
Active Markets for Identical Assets
(Level 1)
   
Significant Other Observable Inputs
(Level 2)
   
Significant
Unobservable Inputs
(Level 3)
   
Total
 
   
(Dollars in thousands)
 
Debt securities:
                       
Government-sponsored enterprises
  $ -     $ 10,027     $ -     $ 10,027  
Residential mortgage-backed securities:
                         
Agency
    -       91,876       -       91,876  
Non-agency
    -       9,097       -       9,097  
Total debt securities
    -       111,000       -       111,000  
Marketable equity securities
    379       -       -       379  
Mortgage servicing rights
    -       501       -       501  
Total assets at fair value
  $ 379     $ 111,501     $ -     $ 111,880  
 
Also, the Company may be required, from time to time, to measure certain other financial assets on a non-recurring basis in accordance with generally accepted accounting principles (“GAAP”).  These adjustments to fair value usually result from the application of lower-of-cost-or-market accounting or write-downs of individual assets. The following table summarizes the fair value hierarchy used to determine each adjustment and the carrying value of the related individual assets as of December 31, 2010.
 
                     
Gains (Losses)
   
Gains (Losses)
 
                     
Three Months Ended
   
Six Months Ended
 
   
Level 1
   
Level 2
   
Level 3
   
December 31, 2010
   
December 31, 2010
 
   
(Dollars in thousands)
 
Impaired loans
  $ -     $ -     $ 3,280     $ 245     $ (201 )
Other real estate owned
    -       -       989       -       -  
Total assets
  $ -     $ -     $ 4,269     $ 245     $ (201 )
 
 
11

 
 
The following table summarizes the fair value hierarchy used to determine each adjustment and the carrying value of the related individual assets as of December 31, 2009.
 
                     
Gains (Losses)
   
Gains (Losses)
 
                     
Three Months Ended
   
Six Months Ended
 
   
Level 1
   
Level 2
   
Level 3
   
December 31, 2009
   
December 31, 2009
 
   
(Dollars in thousands)
 
Impaired loans
  $ -     $ -     $ 5,718     $ (1,507 )   $ (1,887 )
Other real estate owned
    -       -       933       (21 )     (21 )
Total assets
  $ -     $ -     $ 6,651     $ (1,528 )   $ (1,908 )
 
During the three and six months ended December 31, 2010 and 2009 there were no transfers from levels 1, 2, or 3.
 
The amount of impaired loans represents the carrying value of loans that include adjustments which are based on the estimated fair value of the underlying collateral. The fair value of collateral used by the Company represents the amount expected to be received from the sale of the property, net of selling costs, as determined by an independent, licensed or certified appraiser using observable market data. This data includes information such as selling price of similar properties, expected future cash flows or earnings of the subject property based on current market expectations, as well as relevant legal, physical and economic factors. The resulting loss was recognized in earnings through the provision for loan loss.
 
 The Company classifies property acquired through foreclosure or acceptance of a deed in lieu of foreclosure as other real estate owned (“OREO”) in its consolidated financial statements. When property is placed into OREO, it is recorded at the fair value less estimated costs to sell at the date of foreclosure or acceptance of deed in lieu of foreclosure. At the time of transfer to OREO, any excess of carrying value over fair value is charged to the allowance for loan losses. Management, or its designee, inspects all OREO property periodically. Holding costs and declines in fair value result in charges to expense after the property is acquired.

The fair value of a financial instrument is the current amount that would be exchanged between willing parties, other than in a forced liquidation. Fair value is best determined based upon quoted market prices. However, in many instances, there are no quoted market prices for the Company's various financial instruments. In cases where quoted market prices are not available, fair values are based on estimates using present value or other valuation techniques. Those techniques are significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. Accordingly, the fair value estimates may not be realized in an immediate settlement of the instrument. Certain financial instruments and all non-financial instruments are exempt from disclosure requirements. Accordingly, the aggregate fair value amounts presented herein may not necessarily represent the underlying fair value of the Company.

The estimated fair values, and related carrying or notional amounts, of the Company’s financial instruments are as follows:
 
   
December 31,
   
June 30,
 
   
2010
   
2010
 
   
Carrying
Amount
   
Fair Value
   
Carrying
Amount
   
Fair Value
 
   
(In Thousands)
 
Financial assets:
                       
Cash and cash equivalents
  $ 28,760     $ 28,760     $ 30,033     $ 30,033  
Securities available for sale
    111,334       111,334       111,379       111,379  
Federal Home Loan Bank stock
    5,233       5,233       5,233       5,233  
Loans held for sale
    1,139       1,139       933       933  
Loans, net
    393,536       408,778       412,614       432,845  
Accrued interest receivable
    1,583       1,583       1,751       1,751  
Mortgage servicing rights (1)
    437       437       501       501  
                                 
Financial liabilities:
                               
Deposits
    411,080       414,652       420,060       422,968  
Securities sold under agreements to repurchase
    9,705       9,705       6,806       6,806  
Long-term debt
    46,340       48,933       58,196       61,459  
Mortgagors' escrow accounts
    881       881       849       849  
                                 
(1) Included in other assets.
                               
 
 
12

 
 
7. Securities Available For Sale

 The amortized cost and estimated fair value of securities available for sale, with gross unrealized gains and losses, are as follows:
 
   
December 31, 2010
 
   
Amortized
Cost
   
Gross
Unrealized
Gains
   
Gross
Unrealized
Losses
   
Fair Value
 
   
(In Thousands)
 
Debt securities:
                       
Government-sponsored enterprise obligations
  $ 4,500     $ 7     $ 5     $ 4,502  
Corporate bonds
    995       -       6       989  
Residential mortgage-backed securities:
                               
Agency
    95,123       2,631       263       97,491  
Non-agency
    7,450       114       147       7,417  
Total debt securities
    108,068       2,752       421       110,399  
Marketable equity securities
    1,066       1       132       935  
Total securities available for sale
  $ 109,134     $ 2,753     $ 553     $ 111,334  
                                 
                                 
   
June 30, 2010
 
   
Amortized
Cost
     
Gross
Unrealized
Gains
     
Gross
Unrealized
Losses
     
Fair Value
 
   
(In Thousands)
 
Debt securities:
                               
Government-sponsored enterprise obligations
  $ 9,992     $ 35     $ -     $ 10,027  
Residential mortgage-backed securities:
                               
Agency
    88,842       3,050       (16 )     91,876  
Non-agency
    9,024       184       (111 )     9,097  
Total debt securities
    107,858       3,269       (127 )     111,000  
Marketable equity securities
    561       -       (182 )     379  
Total securities available for sale
  $ 108,419     $ 3,269     $ (309 )   $ 111,379  
 
The amortized cost and estimated fair value of debt securities by contractual maturity at December 31, 2010 is set forth below. Expected maturities will differ from contractual maturities because the issuer may have the right to call or prepay obligations with or without call or prepayment penalties.
 
   
December 31, 2010
 
   
Amortized
Cost
   
Fair
Value
 
   
(In Thousands)
 
Within 1 year
  $ -     $ -  
Over 1 year through 5 years
    5,495       5,491  
Total bonds and obligations
    5,495       5,491  
Residential mortgage-backed securities:
         
Agency
    95,123       97,491  
Non-agency
    7,450       7,417  
Total debt securities
  $ 108,068     $ 110,399  
 
At December 31, 2010 and June 30, 2010, the carrying value of securities pledged to secure repurchase agreements was $11,652,000 and $8,265,000, respectively.
 
 
13

 
 
The industries represented by our marketable equity securities portfolio are as follows:
   
December 31, 2010
 
   
Amortized
Cost
   
Fair Value
 
   
(In Thousands)
 
     Aerospace/Defense
  $ 49     $ 49  
     Banks
    100       59  
     Biotechnology
    56       38  
     Cosmetics/Personal
    51       52  
     Electronics
    52       50  
     Environmental
    51       52  
     Food
    102       100  
     Healthcare - products
    127       98  
     Household products
    50       51  
     Insurance
    77       62  
     Media
    50       46  
     Pharmaceuticals
    50       50  
     Retail
    201       178  
     Telecommunications
    50       50  
         Total equity securities
  $ 1,066     $ 935  
  
Information pertaining to securities with gross unrealized losses at December 31, 2010 and June 30, 2010, aggregated by investment category and length of time that individual securities have been in a continuous loss position, are as follows:
 
   
Less Than Twelve Months
   
Over Twelve Months
 
   
Gross
Unrealized
Losses
   
Fair Value
   
Gross
Unrealized
Losses
   
Fair Value
 
   
(In Thousands)
 
December 31, 2010:
                       
Government-sponsored enterprise obligations
  $ 5     $ 2,495     $ -     $ -  
Corporate bonds
    6       989       -       -  
Residential mortgage-backed securities:
                               
    Agency
    259       21,278       4       830  
    Non-agency
    -       -       147       2,988  
Marketable equity securities
    3       349       129       432  
    $ 273     $ 25,111     $ 280     $ 4,250  
                                 
June 30, 2010:
                               
Residential mortgage-backed securities:
                               
    Agency
  $ 9     $ 1,031     $ 7     $ 1,309  
    Non-agency
    42       591       69       3,002  
Marketable equity securities
    -       -       182       379  
    $ 51     $ 1,622     $ 258     $ 4,690  
 
Management conducts, at least on a quarterly basis, a review of our investment securities to determine if the value of any security has declined below its cost or amortized cost and whether such decline represents other-than-temporary impairment (“OTTI”). There were no impairment charges recognized for the three or six months ended December 31, 2010 and December 31, 2009.
 
At December 31, 2010, twenty-five debt securities had unrealized losses with aggregate depreciation of 1.5% from the Company's amortized cost basis. In analyzing an issuer's financial condition, management considers whether the securities are issued by the federal government or its agencies, whether downgrades by bond rating agencies have occurred, and industry analyst's reports. Because the majority of these securities have been issued by the Federal government or its agencies and as management has not decided to sell these securities, nor is it likely that the Company will be required to sell these securities, no declines are deemed to be other than temporary. At December 31, 2010, we held twenty-two securities issued by private mortgage originators that had an amortized cost of $7.5 million and a fair value of $7.4 million. All of these investments are “Senior” Class tranches and have underlying credit enhancement.  These securities were originated in the period 2002-2005 and are performing in accordance with contractual terms. The majority of the decrease in the fair value of these securities is attributed to changes in market interest rates.  Management estimates the loss projections for each security by evaluating the industry rating, amount of delinquencies, amount of foreclosure, amount of other real estate owned, average credit scores, average amortized loan to value and credit enhancement.  Based on this review, management determines whether other-than-temporary impairment existed. Management has determined that no other-than-temporary impairment existed as of December 31, 2010. We will continue to evaluate these securities for other-than-temporary impairment, which could result in a future non-cash charge to earnings.
 
 
14

 
 
        At December 31, 2010, sixteen marketable equity securities had unrealized losses with aggregate depreciation of 14.5% from the Company's cost basis. The majority of these unrealized losses relate to the banking, retail, healthcare, and insurance industries. In analyzing the issuer's financial condition, management considers industry analysts’ reports and financial performance. Because management has the intent and ability to hold equity securities for a reasonable period for recovery, no declines are deemed to be other than temporary.
 
8. Loans
 
The following is a summary of past due and non-accrual loans at December 31, 2010:

   
December 31, 2010
 
                     
Past Due 90
       
   
30-89 Days
   
90 Days
   
Total
   
Days or More
   
Loans on
 
   
Past Due
   
or Greater
   
Past Due
   
and Still Accruing
   
Non-accrual
 
   
(In Thousands)
 
Mortgage loans on real estate:
                             
    1-4 family residential
  $ 337     $ 2,271     $ 2,608     $ -     $ 2,902  
    Commercial real estate
    4,751       2,943       7,694       -       3,194  
Home equity:
                                       
    First lien
    -       50       50       -       104  
    Second lien
    29       402       431       -       595  
Construction:
                                       
     Residential construction
    -       -       -       -       -  
     Commercial construction
    -       -       -       -       -  
Commercial
    439       320       759       -       1,722  
Consumer:
                                       
     Manufactured homes
    127       -       127       -       30  
     Other
    5       -       5       -       6  
Total
  $ 5,688     $ 5,986     $ 11,674     $ -     $ 8,553  

As of December 31, 2010 loans on non-accrual totaled $8.6 million which consisted of $6.0 million in loans that were 90 days or greater past due, $2.3 million in loans that are current or less than 30 days past due and $295,000 in loans that are 30-89 days past due. The loans that are less than 90 days past due were previously on non-accrual and it is the Company’s policy to keep loans on non-accrual status until the borrower can demonstrate their ability to make payments according to their loan terms. Commercial non-accrual loans less than 90 days past due were $1.4 million, 1-4 family residential non-accrual loans less than 90 days past due were $632,000, commercial real estate non-accrual loans less than 90 days past due were $251,000, home equity second lien non-accrual loans less than 90 days past due were $193,000, home equity first lien non-accrual loans less than 90 days past due were $54,000, manufactured home non-accrual loans less than 90 days past due were $30,000 and other consumer non-accrual loans less than 90 days past due were $6,000.
 
 
15

 

The following is a summary of impaired loans at December 31, 2010:

   
December 31, 2010
 
   
Recorded
Investment
   
Unpaid Principal Balance
   
Related
Allowance
 
   
(In Thousands)
 
Impaired loans without a valuation allowance:
                 
Mortgage loans on real estate:
                 
    1-4 family residential
  $ 1,011     $ 1,011     $ -  
    Commercial real estate
    2,273       2,273       -  
Home equity:
                       
    Second lien
    184       184       -  
Construction:
                       
    Commercial construction
    1,736       1,736       -  
Other loans:
                       
    Commercial
    3,822       3,822       -  
             Total
    9,026       9,026       -  
                         
Impaired loans with a valuation allowance:
                       
Mortgage loans on real estate:
                       
    1-4 family residential
    934       1,155       221  
    Commercial real estate
    4,606       5,415       809  
Home equity:
                       
    First lien
    25       50       25  
    Second lien
    -       37       37  
Other loans:
                       
    Commercial
    1,659       1,758       99  
             Total
    7,224       8,415       1,191  
                         
             Total impaired loans
  $ 16,250     $ 17,441     $ 1,191  

No additional funds are committed to be advanced in connection with impaired loans. The $17.4 million of impaired loans above include $8.6 million of non-accrual loans and $4.7 million of accruing troubled debt restructured loans as of December 31, 2010. The remaining $4.2 million are loans that the Company believes based on current information and events it is probable that the Company will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement.

The Company has transferred a portion of its originated commercial real estate and commercial loans to participating lenders. The amounts transferred have been accounted for as sales and are therefore not included in the Company’s accompanying consolidated balance sheets. The Company and participating lenders share ratably in any gains or losses that may result from a borrower’s lack of compliance with contractual terms of the loan. The Company continues to service the loans on behalf of the participating lenders and, as such, collects cash payments from the borrowers, remits payments (net of servicing fees) to participating lenders and disburses required escrow funds to relevant parties. At December 31, 2010 and June 30, 2010, the Company was servicing loans for participants aggregating $29,757,000 and $29,645,000, respectively.
 
 
16

 
 
Information pertaining to the allowance for loan losses at December 31, 2010 follows:

   
1-4 Family Residential
   
Commercial
Real Estate
   
Home Equity
First Lien
   
Home Equity Second Lien
   
Residential Construction
   
Commercial Construction
   
Commercial
   
Manufactured Homes
   
Other
Consumer
 
   
(In Thousands)
 
Amount of allowance for loan losses for loans deemed to be impaired
  $ 221     $ 809     $ 25     $ 37     $ -     $ -     $ 98     $ -     $ -  
                                                                         
Amount of allowance for loan losses for loans not deemed to be impaired
    794       2,023       168       334       44       267       1,188       -       65  
                                                                         
Loans deemed to be impaired as of December 31, 2010
    2,166       7,688       50       221       -       1,736       5,580       -       -  
                                                                         
Loans not deemed to be impaired as of December 31, 2010
    117,912       126,542       23,191       40,148       4,108       13,822       29,713       19,874       4,174  

Credit Quality Information

The Company utilizes a nine grade internal loan rating system for all loans as follows:

Loans rated 1 – 5: Loans in these categories are considered “pass” rated loans with low to average risk.

Loans rated 6: Loans in this category are considered “special mention.” These loans are starting to show signs of potential weakness and are being closely monitored by management.

Loans rated 7: Loans in this category are considered “substandard.” Generally, a loan is considered substandard if it is inadequately protected by the current net worth and paying capacity of the obligors and/or the collateral pledged. There is a distinct possibility that the Company will sustain some loss if the weakness is not corrected.

Loans rated 8: Loans in this category are considered “doubtful.” Loans classified as doubtful have all the weaknesses inherent in those classified substandard with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently existing facts, highly questionable and improbable.

Loans rated 9: Loans in this category are considered uncollectible (“loss”) and of such little value that their continuance as loans is not warranted.

On an annual basis, or more often if needed, the Company formally reviews the ratings on all commercial real estate, commercial construction and commercial loans. Semi-annually, the Company engages an independent third-party to review a significant portion of loans within these segments. Management uses the results of these reviews as part of its annual review process. All credits rated 6 or worse are reviewed on a quarterly basis by management. At origination, management assigns risk ratings to 1-4 family residential loans, home equity loans, residential construction loans, manufactured home loans, and other consumer loans. The Company updates these risk ratings as needed.
 
 
17

 
 
The following table presents the Company’s loans by risk rating at December 31, 2010:

   
1-4 Family Residential
   
Commercial
 Real Estate
   
Commercial Construction
   
Commercial
   
Residential Construction
 
Loans rated 1-5
  $ 116,756     $ 105,110     $ 13,822     $ 25,085     $ 4,108  
Loans rated 6
    794       15,404       1,426       4,817       -  
Loans rated 7
    1,601       10,631       310       5,023       -  
Loans rated 8
    927       3,085       -       368       -  
Loans rated 9
    -       -       -       -       -  
    $ 120,078     $ 134,230     $ 15,558     $ 35,293     $ 4,108  

   
Manufactured
Homes
   
Home Equity
 First Lien
   
Home Equity
 Second Lien
   
Consumer
 
Loans rated 1-5
  $ 19,509     $ 23,021     $ 39,585     $ 4,137  
Loans rated 6
    302       135       246       36  
Loans rated 7
    63       35       408       -  
Loans rated 8
    -       50       130       1  
Loans rated 9
    -       -       -       -  
    $ 19,874     $ 23,241     $ 40,369     $ 4,174  
 
Item 2: Management’s Discussion and Analysis of Financial Condition and Results of Operations (unaudited)
 
This section is intended to help investors understand the financial performance of Hampden Bancorp, Inc. and its subsidiaries, through a discussion of the factors affecting our financial condition at December 31, 2010 and June 30, 2010 and our consolidated results of operations for the three months and six months ended December 31, 2010 and  2009, and should be read in conjunction with the Company’s unaudited consolidated interim financial statements and notes thereto, appearing in Part I, Item 1 of this document.

Forward-Looking Statements
 
Certain statements herein constitute "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. These statements are based on the beliefs and expectations of management, as well as the assumptions made using information currently available to management. Since these statements reflect the views of management concerning future events, these statements involve risks, uncertainties and assumptions. As a result, actual results may differ from those contemplated by these statements. Forward-looking statements can be identified by the fact that they do not relate strictly to historical or current facts. They often include words like "believe", "expect", "anticipate", "estimate", and "intend" or future or conditional verbs such as "will", "would", "should", "could", or "may." Certain factors that could have a material adverse affect on the operations Hampden Bank include, but are not limited to, increased competitive pressure among financial service companies, national and regional economic conditions, changes in interest rates, changes in consumer spending, borrowing and savings habits, legislative and regulatory changes, monetary and fiscal policies of the U.S. Government, including policies of the U.S. Treasury and Federal Reserve Board, adverse changes in the securities markets, inability of key third-party providers to perform their obligations to Hampden Bank, changes in relevant accounting principles and guidelines and our ability to successfully implement our branch expansion strategy. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date of this Quarterly Report on Form 10-Q. The Company disclaims any intent or obligation to update any forward-looking statements, whether in response to new information, future events or otherwise. These risks and uncertainties should be considered in evaluating forward-looking statements and undue reliance should not be placed on such statements. The Company’s actual results could differ materially from those anticipated in these forward-looking statements as a result of certain important factors, including those set forth below under Item 2 –“Management’s Discussion and Analysis of Financial Condition and Results of Operations,” Part II, Item 1A –“Risk Factors” and elsewhere in this the Quarterly Report on Form 10-Q, as well as in the Company’s Annual Report on Form 10-K for the fiscal year ended June 30, 2010. You should carefully review those factors and also carefully review the risks outlined in other documents that the Company files from time to time with the SEC.  The Company undertakes no obligation to update or revise any forward-looking statements, whether as a result of new information, future events, or otherwise, except as may be required under applicable securities laws.
 
Critical Accounting Policies
 
We consider accounting policies that require management to exercise significant judgment or discretion, or make significant assumptions that have or could have a material impact on the carrying value of certain assets, liabilities, revenue, expenses, or related disclosures, to be critical accounting policies.  

Management believes that the following accounting estimates are the most critical to aid in fully understanding and evaluating our reported financial results, and they require management’s most difficult, subjective or complex judgments, resulting from the need to make estimates about the effect of matters that are inherently uncertain. Management has reviewed these critical accounting estimates and related disclosures with the Audit Committee of our Board.
 
 
18

 

Other-Than-Temporary Impairment of Investment Securities.
 
   Critical Estimates. One of the significant estimates related to available for sale securities is the evaluation of investments for other-than-temporary impairment. If a decline in the fair value of an equity security is judged to be other-than-temporary, a charge is recorded equal to the difference between the fair value and cost or amortized cost basis of the security. Following such write-down in value, the fair value of the other-than-temporarily impaired investment becomes its new cost basis.

In estimating other-than-temporary impairment losses for equity securities, management considers (1) the length of time and the extent to which the fair value has been less than cost, (2) the financial condition and near-term prospects of the issuer, and (3) the intent and ability of the Company to retain its investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value. For those debt securities for which (1) the fair value of the security is less than its amortized cost, (2) the Company does not intend to sell such security and (3) it is likely that it will not be required to sell such security prior to the recovery of its amortized cost basis less any credit losses, GAAP requires that the credit component of the other-than-temporary impairment losses be recognized in earnings while the noncredit component is recognized in other comprehensive loss, net of related taxes. For all impaired debt securities that the Company intends to sell, or more likely than not will be required to sell, the full amount of the depreciation in value is recognized in earnings.
 
Judgment and Uncertainties. The evaluation of securities for impairment is a quantitative and qualitative process, which is subject to risks and uncertainties and is intended to determine whether declines in the fair value of investments should be recognized in current period earnings. The risks and uncertainties include changes in general economic conditions, the issuer’s financial condition or future prospects, the effects of changes in interest rates or credit spreads and the expected recovery period. Management evaluates securities for other-than-temporary impairment at least on a quarterly basis and more frequently when economic or market conditions warrant such evaluation.
 
Effect if Actual Results Differ from Assumptions. If actual results are not consistent with management’s estimates or assumptions, we may be exposed to a other-than-temporary impairment loss that could be material and could have a negative impact on the company’s earnings.

Allowance for loan losses

Critical Estimates. The allowance for loan losses is the estimated amount considered necessary to cover credit losses inherent in the loan portfolio at the balance sheet date. The allowance is established through the provision for loan losses that is charged against income. In determining the allowance for loan losses, we make significant estimates and therefore, have identified the allowance as a critical accounting policy. The methodology for determining the allowance for loan losses is considered a critical accounting policy by management because of the high degree of judgment involved, the subjectivity of the assumptions used, and the potential for changes in the economic environment that could result in changes to the amount of the recorded allowance for loan losses.
 
The allowance for loan losses has been determined in accordance with U.S. GAAP, under which we are required to maintain an allowance for probable losses at the balance sheet date. We are responsible for the timely and periodic determination of the amount of the allowance required. We believe that our allowance for loan losses is adequate to cover specifically identifiable losses, as well as estimated losses inherent in our portfolio for which certain losses are probable but not specifically identifiable.

Management performs a quarterly evaluation of the adequacy of the allowance for loan losses. The analysis of the allowance for loan losses has two components: specific and general allocations, which are further described below.

Specific allocation

Specific allocations are made for loans determined to be impaired. Impairment is measured by determining the present value of expected future cash flows or, for collateral-dependent loans, the fair value of the collateral adjusted for market conditions and selling expenses.

General allocation

The general allocation is determined by segregating the remaining loans, by type of loan and payment history. We also analyze historical loss experience, delinquency trends, changes in our underwriting standards as well as in lending policies, procedures and practices, experience and depth of management and lending staff, and general economic conditions. This analysis establishes factors that are applied to the loan groups to determine the amount of the general allocations. This evaluation is inherently subjective as it requires material estimates that may be susceptible to significant revisions based upon changes in economic and real estate market conditions. Actual loan losses may be significantly more than the allowance for loan losses we have established which could have a material negative effect on our financial results. There were no changes in the Company’s policies or methodology pertaining to the general component of the allowance for loan losses during the six months ended December 31, 2010.

The qualitative factors are determined based on the various risk characteristics of each loan segment. Risk characteristics relevant to each portfolio segment are as follows:
 
 
19

 

Residential real estate – The Company generally does not originate loans with a loan-to-value ratio greater than 80 percent and does not grant subprime loans. All loans in this segment are collateralized by 1-4 family residential real estate and repayment is dependent on the credit quality of the individual borrower. The overall health of the economy, including unemployment rates and housing prices, will have an effect on the credit quality in this segment.

Commercial real estate – Loans in this segment are primarily income-producing properties throughout Massachusetts and Connecticut. The underlying cash flows generated by the properties are adversely impacted by a downturn in the economy as evidenced by increased vacancy rates, which in turn, will have an effect on the credit quality in this segment. Management requires annual borrower financial statements, obtains rent rolls annually and continually monitors the cash flows of these loans.

Home equity loans - Loans in this segment are secured by first or second mortgages on 1-4 family owner occupied properties, and were generally underwritten in amounts such that the combined first and second mortgage balances generally do not exceed 90% of the value of the property serving as collateral at time of origination. Under our current underwriting standards, loan originations are made in amounts such that balances do not exceed 85% of the value of the property serving as collateral at time of origination. The lines-of-credit are available to be drawn upon for 10 to 20 years, at the end of which time they become term loans amortized over 5 to 10 years. Interest rates on home equity lines normally adjust based on the month-end prime rate published in the Wall Street Journal.

Residential construction loans – Loans in this segment primarily include non-speculative real estate loans. All loans in this segment are collateralized by 1-4 family residential real estate and repayment is dependent on the credit quality of the individual borrower. The overall health of the economy, including unemployment rates and housing prices, will have an effect on the credit quality in this segment.

Commercial construction loans – Loans in this segment primarily include non-speculative real estate loans. The underlying cash flows generated by the properties are adversely impacted by a downturn in the economy as evidenced by increased vacancy rates, which in turn, will have an effect on the credit quality in this segment.

Commercial loans – Loans in this segment are made to businesses and are generally secured by assets of the business. Repayment is expected from the cash flows of the business. A weakened economy, and resultant decreased consumer spending, will have an effect on the credit quality in this segment.

Manufactured home loans – Loans in this segment are generally secured by first liens on properties located primarily in the Northeast. Repayment is dependent on the credit quality of the individual borrower. The overall health of the economy, including unemployment rates, will have an effect on the credit quality in this segment. The Company has a cash reserve account for manufactured home loans that can be used for any pre-payments and losses.

Other consumer loans – Loans in this segment are generally unsecured and repayment is dependent on the credit quality of the individual borrower.

On a quarterly basis, management’s Loan Review Committee reviews the current status of various loan assets in order to evaluate the adequacy of the allowance for loan losses. In this evaluation process, specific loans are analyzed to determine their potential risk of loss. This process concentrates on non-accrual and classified loans. Any loan determined to be impaired is evaluated for potential loss exposure. Any shortfall results in a recommendation of a specific allowance or possible charge-off if the likelihood of loss is evaluated as probable. To determine the adequacy of collateral on a particular loan, an estimate of the fair market value of the collateral is based on the most current appraised value, discounted cash flow valuation or other available information.

The results of this quarterly process are summarized by, and appropriate recommendations and loan loss allowances are approved by, the Loan Review Committee. All supporting documentation with regard to the evaluation process, loan loss experience, allowance levels and the schedules of classified loans is maintained by the Company. The Committee is chaired by the Company’s Chief Financial Officer. The allowance for loan loss calculation is presented to the Board of Directors on a quarterly basis with recommendations on its adequacy.
 
Judgment and Uncertainties. Management determines the adequacy of the allowance for loan losses by analyzing and estimating losses inherent in the portfolio. The allowance for loan losses contains uncertainties because the calculation requires management to use historical information as well as current economic data to make judgments on the adequacy of the allowance. This evaluation requires estimates that are susceptible to significant revision as more information becomes available.

Our primary lending emphasis has been the origination and purchase of residential mortgage loans, commercial real estate mortgages and commercial credits. We also originate home equity loans and home equity lines of credit and look to purchase manufactured home loans from a third party. As a local community bank within a small footprint, these activities result in a loan concentration in mortgages secured by real property located in Western Massachusetts and Northern Connecticut. Based on the composition of our loan portfolio, we believe the primary risks to loan losses are increases in interest rates, a decline in the general economy, and a decline in real estate market values and values of local businesses in Western Massachusetts. Any one or combination of these events may adversely affect our loan portfolio resulting in increased delinquencies, loan losses and future levels of loan loss provisions. As a substantial amount of our loan portfolio is collateralized by real estate, appraisals of the underlying value of property securing loans are critical in determining the amount of the allowance required for specific loans. Assumptions for appraisal valuations are instrumental in determining the value of properties. Overly optimistic assumptions or negative changes to assumptions could significantly impact the valuation of a property securing a loan and the related allowance determined. The assumptions supporting such appraisals are carefully reviewed by the Company to determine that the resulting values reasonably reflect amounts realizable on the related loans.
 
 
20

 

   Effect if Actual Results Differ from Assumptions. Although we believe we have established and maintained the allowance for loan losses at adequate levels, additions may be necessary if the current operating environment changes. Management uses the best information available; however, the level of the allowance for loan losses remains an estimate that is subject to significant judgment and short-term change. In addition, the Federal Deposit Insurance Corporation and the Massachusetts Department of Banking, as an integral part of their examination process, will periodically review our allowance for loan losses. Such agencies may require us to recognize adjustments to the allowance based on their judgments about information available to them at the time of their examination.

Income taxes

Critical Estimates. Deferred tax assets and liabilities are reflected at currently enacted income tax rates applicable to the period in which the deferred tax assets or liabilities are expected to be realized or settled.   Quarterly, management reviews the deferred tax asset to identify any uncertainties to the collectability of the components of the deferred tax asset.

Judgment and Uncertainties. In determining the deferred tax asset valuation allowance, we use historical and forecasted operating results, based upon approved business plans, including a review of the eligible carry forward periods, tax planning opportunities and other relevant considerations. Management believes that the accounting estimate related to the valuation allowance is a critical accounting estimate because the underlying assumptions can change from period to period. For example, tax law changes or variances in future projected operating performance could result in a change in the valuation allowance.

Effect if Actual Results Differ from Assumptions. Should actual factors and conditions differ materially from those used by management, the actual realization of net deferred tax assets or deferred tax liabilities could differ materially from the amounts recorded in the financial statements. If we were not able to realize all or part of our net deferred tax asset in the future, an adjustment to our deferred tax assets valuation allowance would be charged to income tax expense in the period such determination was made and could have a negative impact on the Company’s earnings. In addition, if actual factors and conditions differ materially from those used by management, the Company could incur penalties and interest imposed by the Internal Revenue Service.

Other Real Estate Owned

Critical Estimates. Other Real Estate Owned (OREO) consists of all real estate, other than Company premises, actually owned or controlled by the Company and its consolidated subsidiaries, including real estate acquired through foreclosure, even if the Company has not yet received title to the property.  OREO also includes certain direct and indirect investments in real estate ventures, property originally acquired for future expansion but no longer intended to be used for that purpose, and foreclosed real estate sold under contract and accounted for under the deposit method of accounting under FASB guidance.

The Company is permitted to acquire and hold real property used in the operation of the Company or as the Company may acquire (by foreclosure or other transfer in lieu of foreclosure) in satisfaction of all or a part of a loan or in satisfaction of a judgment or decree in its favor.  If the Company acquires real property by foreclosure or other transfer in lieu of foreclosure, it carries such real property on its books as OREO.  OREO acquired by the Company is subject to certain regulatory requirements that limit the time such property can be held by the Company, require that information regarding the property be reported to the Company’s federal regulator, subject the acquisition of such property to federal appraisal requirements, restrict the use of such property, and govern the treatment of any disposal of the property. It is the policy of the Company to sell any real property acquired through the collection of debts due it within a reasonable period of time.  During the time that the Company holds the real property, the Company shall charge-off the real property based upon the current appraised value of the property.

GAAP provides that foreclosed real estate received in full satisfaction of a loan, provided that the real estate will be sold, is to be recorded at the time of foreclosure at its fair value less estimated costs to sell.  This amount becomes the “cost” of the foreclosed real estate.  According to FASB guidance, estimated costs to sell are the incremental direct costs to transact a sale, which include broker commissions, legal and title transfer fees, and closing costs that must be incurred before legal title can be transferred.  When foreclosed real estate is received in full satisfaction of a loan, the amount, if any, by which the recorded amount of the loan exceeds the fair value less estimated costs to sell the property, the difference is a loss which must be charged to the Bank’s allowance for loan losses at the time of foreclosure.  The recorded amount of the loan at the time of foreclosure is the unpaid balance of the defaulted loan adjusted for any unamortized premium or discount and unamortized loan fees or costs, less any amount previously charged off, plus recorded accrued interest.  The amount of any senior debt (principal and accrued interest) to which foreclosed real estate is subject at the time of foreclosure must be reported as a liability in the Financial Statements as “other borrowed money."  If the fair value (less estimated costs to sell) of the property exceeds the recorded amount of the loan, the excess is to be reported as a recovery of a previous charge-off or in current earnings, as appropriate.  Real estate received in partial satisfaction of a loan is to be similarly accounted for and the recorded amount of the loan is to be reduced by the fair value (less estimated costs to sell) of the asset received at the time of foreclosure.  Legal fees and other direct costs incurred by the Bank in a foreclosure are to be included in expenses when they are incurred.
 
 
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FASB guidance, which applies to all transactions in which the seller provides financing to the buyer of real estate, establishes five methods to account for the disposition of OREO. If a profit is involved in the sale of real estate, each method sets forth the manner in which the profit is to be recognized based on the terms of the sale.  However, regardless of which method is used, any loss on the disposition of OREO is to be recognized immediately.

Judgment and Uncertainties. The Company obtains a new or updated valuation of OREO at the time of acquisition, including periodic reappraisals (at least annually) thereafter to ensure any material change in market conditions or the physical aspects of the property are recognized.  To ensure the general validity of such appraised values, it is the responsibility of loan officers to compare sale prices and appraised values of properties previously held for their respective portfolio.  Each parcel of OREO is to be reviewed and valued by loan officers on its own merits.  The sale of OREO is also supported by this appraisal. A careful evaluation of all the relevant factors should enable the loan officer to make an accurate and reliable judgment with regard to classification.  Any portion of the carrying value in excess of appraised value should be classified as a loss.

Effect if Actual Results Differ from Assumptions.  Should any subsequent appraisals of the property indicate that a decrease in value has occurred since the initial acquisition, one of the following actions should be taken:

1.  
A write-down of the recorded investment (book value) to fair value less estimated costs to sell; or

2.  
An addition to the valuation reserve in an amount equal to or greater than the excess of recorded investment over fair value less estimated costs to sell should be established.

Comparison of Financial Condition (unaudited) at December 31, 2010 and June 30, 2010

Overview

Total Assets. The Company’s total assets decreased $18.7 million or 3.2% from $584.0 million at June 30, 2010 to $565.3 million at December 31, 2010. Net loans, including loans held for sale, decreased $18.9 million or 4.6% to $394.7 million at December 31, 2010, and security balances remained consistent as of December 31, 2010 compared to June 30, 2010. Cash and cash equivalents decreased $1.3 million or 4.2% from $30.0 million at June 30, 2010 to $28.8 million at December 31, 2010.  The decrease in loans was partially related to the payoff of two loans, one that had a balance of $6.7 million and another problem credit that had a $1.5 million balance.

Total deposits decreased $9.0 million or 2.1% from $420.1 at June 30, 2010 to $411.1 million at December 31, 2010, long-term debt decreased $11.9 million or 20.4% from $58.2 million at June 30, 2010 to $46.3 million at December 31, 2010 and total stockholders’ equity decreased $2.1 million or 2.2% from $94.8 million at June 30, 2010 to $92.7 million at December 31, 2010. The primary reason for the decrease in deposits was due to the payout of one certificate which totaled $6.7 million.
 
 
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Investment Activities. Securities available for sale decreased $46,000 to $111.3 million at December 31, 2010. Obligations issued by government-sponsored enterprises decreased at December 31, 2010. Corporate bonds and other obligations, mortgage-backed securities and common stock increased at December 31, 2010.  The following table sets forth at the dates indicated information regarding the amortized cost and fair values of the Company’s investment securities.

   
At December 31,
   
At June 30,
 
   
2010
   
2010
 
   
Amortized
Cost
   
Fair Value
   
Amortized
Cost
   
Fair Value
 
   
(In Thousands)
 
Securities available for sale:
                       
Government-sponsored enterprises
  $ 4,500     $ 4,502     $ 9,992     $ 10,027  
Corporate bonds
    995       989       -       -  
Residential mortgage-backed securities:
                               
      Agency
    95,123       97,491       88,842       91,876  
      Non-agency
    7,450       7,417       9,024       9,097  
Total debt securities
    108,068       110,399       107,858       111,000  
                                 
                                 
Marketable equity securities
    1,066       935       561       379  
Total securities available for sale
    109,134       111,334       108,419       111,379  
Restricted equity securites:
                               
Federal Home Loan Bank of Boston stock
    5,233       5,233       5,233       5,233  
Total securities
  $ 114,367     $ 116,567     $ 113,652     $ 116,612  
 
Net Loans. Total net loans, at December 31, 2010 were $393.5 million, a decrease of $19.1 million or 4.6% from $412.6 million at June 30, 2010. The following table sets forth the composition of the Company’s loan portfolio (not including loans held for sale) in dollar amounts and as a percentage of the total loan portfolio at the dates indicated.

   
At December 31, 2010
   
At June 30, 2010
 
   
Amount
   
Percent
   
Amount
   
Percent
 
   
(Dollars In Thousands)
 
Mortgage loans on real estate:
                       
    1-4 family residential
  $ 120,078       30.25 %   $ 130,977       31.49 %
    Commercial real estate
    134,230       33.82       138,746       33.35  
Home equity:
                               
    First lien
    23,241       5.86       22,600       5.43  
    Second lien
    40,369       10.17       42,406       10.19  
Construction:
                               
     Residential construction
    4,108       1.03       3,730       0.90  
     Commercial construction
    15,558       3.92       9,730       2.34  
Total mortgage loans on real estate
    337,584       85.05       348,189       83.70  
                                 
Other loans:
                               
Commercial
    35,293       8.89       42,539       10.23  
Consumer:
                               
     Manufactured homes
    19,874       5.01       20,997       5.05  
     Other
    4,174       1.05       4,260       1.02  
Total other loans
    59,341       14.95       67,796       16.30  
Total loans
    396,925       100.00 %     415,985       100.00 %
Other items:
                               
Net deferred loan costs
    2,685               2,943          
Allowance for loan losses
    (6,074 )             (6,314 )        
Total loans, net
  $ 393,536             $ 412,614          

 
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Residential real estate loans decreased $10.9 million or 8.3%, to $120.1 million, commercial loans decreased $7.2 million or 17.0%, to $35.3 million, commercial real estate loans decreased $4.5 million or 3.3%, to $134.2 million, home equity second lien loans decreased $2.0 million, or 4.8%, to $40.4 million and manufactured home loans decreased $1.1 million, or 5.3%, to $19.9 million at December 31, 2010 as compared to June 30, 2010. The decrease in commercial loans was primarily related to the payoff of two loans, one that had a balance of $6.7 million and a problem credit that had a $1.5 million balance.  Commercial construction loans increased $5.8 million or 59.9%, to $15.6 million, home equity first lien loans increased $641,000, or 2.8%, to $23.2 million and residential construction loans increased $378,000 or 10.1%, to $4.1 million at December 31, 2010 as compared to June 30, 2010. The decrease in commercial real estate loans, home equity second lien loans and consumer loans is due to a decrease in loan demand.  The increase in construction loans is due to new non-speculative loans which will be financed by the Company at the end of the construction period and scheduled advances on existing loans.

During the origination of fixed rate mortgages, each loan is analyzed to determine if the loan will be sold into the secondary market or held in portfolio. The Company retains servicing for loans sold to Fannie Mae and earns a fee equal to 0.25% of the loan amount outstanding for providing these services.  Loans which the Company originates to the standards of the buyer, which may differ from the Company’s underwriting standards, are generally sold to a third party along with the servicing rights without recourse. For the six months ended December 31, 2010, loans sold totaled $14.0 million. Of the $14.0 million sold, $3.2 million were sold on a servicing released basis, and $10.8 million were sold on a servicing retained basis.

Non-Performing Assets. The following table sets forth the amounts and categories of our non-performing assets at the dates indicated:

   
At December 31,
   
At June 30,
 
   
2010
   
2010
 
   
(Dollars in Thousands)
 
Non-accrual loans:
           
Mortgage loans on real estate:
           
    1-4 family residential
  $ 2,902     $ 2,763  
    Commercial real estate
    3,194       1,200  
Home equity:
               
    First lien
    104       155  
    Second lien
    595       506  
Commercial
    1,722       936  
Consumer:
               
     Manufactured homes
    30       123  
     Other
    6       9  
Total non-accrual loans
    8,553       5,692  
                 
Total loans 90 days delinquent and still accruing
    -       -  
Total non-performing loans
    8,553       5,692  
Other real estate owned
    989       911  
Total non-performing assets
  $ 9,542     $ 6,603  
                 
Troubled debt restructurings, not reported above
  $ 4,703     $ 4,836  
                 
Ratios:
               
Non-performing loans to total loans
    2.15 %     1.37 %
Non-performing assets to total assets
     1.69      1.13
 
Generally, loans are placed on non-accrual status either when reasonable doubt exists as to the full collection of interest and principal or when a loan becomes 90 days past due, unless an evaluation clearly indicates that the loan is well-secured and in the process of collection. Non-performing assets totaled $9.5 million or 1.69% of total assets, at December 31, 2010 compared to $6.6 million, or 1.13% of total assets, at June 30, 2010. Total non-performing assets at December 31, 2010 included $8.6 million of non-performing loans and $989,000 of other real estate owned. From June 30, 2010 to December 31, 2010, commercial real estate non-performing loans have increased $2.0 million, commercial non-performing loans have increased $786,000, residential mortgage loans have increased $139,000 and a partial offset to these increases was a decrease in consumer non-performing loans of $58,000. At December 31, 2010, the Company had nine troubled debt restructurings (loans for which a portion of interest or principal has been forgiven, or the loans have been modified to lower the interest rate or extend the original term) totaling approximately $5.2 million, of which $508,000 is on non-accrual status. The interest income recorded from these loans amounted to approximately $151,000 for the six month period ended December 31, 2010. At June 30, 2010, the Company had ten troubled debt restructurings consisting of commercial and mortgage loans totaling approximately $5.5 million, of which $712,000 was on non-accrual status. The interest income recorded from the restructured loans amounted to approximately $264,000 for the year ended June 30, 2010.
 
 
24

 
 
A loan is considered impaired when, based on current information and events, it is probable that the Company will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered by management in determining impairment include payment status, the nature of collateral, and the probability of collecting scheduled principal and interest payments when due. Impairment is measured on a loan-by-loan basis for commercial loans by either the present value of expected future cash flows discounted at the loan’s effective interest rate or the fair value of the collateral if the loan is collateral dependent. Impaired loans increased to $17.4 million at December 31, 2010 from $ 16.3 million at June 30, 2010 as a result of the continuing economic downturn in the greater Springfield Area as evidenced by poor payment performance and current financial information received from borrowers. The Company established specific reserves aggregating $1.2 million and $1.4 million for impaired loans at December 31, 2010 and June 30, 2010, respectively.  Such reserves relate to fourteen impaired loans with a carrying value of $8.4 million, and are based on management’s analysis of estimated underlying collateral values or the expected cash flows and include $266,000 related to troubled debt restructurings at December 31, 2010.
 
We believe that the determination of our allowance for loan losses, including amounts required for impaired loans, is consistent with generally accepted accounting principles and current regulatory guidance. While the Company believes that it has established adequate specifically allocated and general allowances for losses on loans, adjustments to the allowance may be necessary if future conditions differ substantially from the information used in making the evaluations. In addition, as an integral part of their examination process, the Company’s regulators periodically review the allowance for loan losses. These regulatory agencies may require the Company to recognize additions to the allowance based on their judgments of information available to them at the time of their examination, thereby negatively affecting the Company’s financial condition and earnings. It is also possible that, in this current economic environment, additional loans will become impaired in future periods.
 
The Company classifies property acquired through foreclosure or acceptance of a deed in lieu of foreclosure as other real estate owned (“OREO”) in its consolidated financial statements. When property is placed into OREO, it is recorded at the fair value less estimated costs to sell at the date of foreclosure or acceptance of deed in lieu of foreclosure. At the time of transfer to OREO, any excess of carrying value over fair value is charged to the allowance for loan losses. Management, or its designee, inspects all OREO property periodically. Holding costs and declines in fair value result in charges to expense after the property is acquired. At December 31, 2010, the Company had eight properties with a carrying value of $989,000 classified as OREO. Two of these properties were commercial real estate properties valued at $475,000, and one property was a commercial construction project valued at $315,000. Five properties were manufactured homes valued at $312,000, however, there is a specific valuation reserve of $113,000 with respect to such properties. Any losses on the manufactured housing portfolio would only impact the cash reserve specifically maintained for manufactured housing loans.

 
25

 
 
Allowance for Loan Losses. The following table sets forth activity in the Company’s allowance for loan losses for the periods indicated:

   
Three Months Ended
December 31,
   
Six Months Ended
December 31,
 
   
2010
   
2009
   
2010
   
2009
 
   
(Dollars in Thousands)
   
(Dollars in Thousands)
 
Balance at beginning of period
  $ 6,328     $ 4,587     $ 6,314     $ 3,742  
Charge-offs:
                               
    Mortgage loans on real estate
            (39 )             (39 )
    Other loans:
                               
    Commercial business
    (535 )     (65 )     (821 )     (65 )
    Consumer and other
    (20 )     (28 )     (22 )     (28 )
    Total other loans
    (555 )     (93 )     (843 )     (93 )
    Total charge-offs
    (555 )     (132 )     (843 )     (132 )
Recoveries:
                               
    Mortgage loans on real estate
    -       -       2       -  
    Other loans:
                               
    Commercial business
    -       -               3  
    Consumer and other
    1       1       1       1  
    Total other loans
    1       1       1       4  
    Total recoveries
    1       1       3       4  
Net charge-offs
    (554 )     (131 )     (840 )     (128 )
Provision for loan losses
    300       1,800       600       2,642  
                                 
Balance at end of period
  $ 6,074     $ 6,256     $ 6,074     $ 6,256  
                                 
Ratios:
                               
Net charge-offs to average loans outstanding
    0.14 %     0.03 %     0.21 %     0.03 %
Allowance for loan losses to non-performing loans at end of period
    71.02 %     66.04 %     71.02 %     66.04 %
Allowance for loan losses to total loans at end of period
     1.53      1.52      1.53      1.52

For the six months ended December 31, 2010, total charge-offs were $843,000. These charge-offs were primarily due to four commercial loan relationships. The allowance for loan losses to non-performing loans has increased from 66.0% at December 31, 2009 to 71.0% at December 31, 2010. The allowance for loan losses to total loans has increased slightly from 1.52% at December 31, 2009 to 1.53% at December 31, 2010

Loan Servicing.  In the ordinary course of business, the Company sells real estate loans to the secondary market.  The Company retains servicing on loans sold and earns servicing fees of .25% per annum based on the monthly outstanding balance of the loans serviced.  The company recognizes servicing assets each time it undertakes an obligation to service loans sold.  Calculation of the fair value of mortgage servicing assets is based on Service Release Premium (“SRP”) rates for conforming fixed rate mortgages obtained from an independent third party.  SRP rates vary based on the outstanding balances of the mortgages and are periodically adjusted based on mortgage prepayments and market conditions.
 
The changes in servicing assets measured using fair value are as follows:
 
   
Three Months Ended December 31,
   
Six Months Ended December 31,
 
   
2010
   
2009
   
2010
   
2009
 
   
(In thousands)
 
Fair value at beginning of period
  $ 481     $ 662     $ 501     $ 656  
Capitalized servicing assets
    36       5       71       38  
Changes in fair value
    (80 )     (71 )     (135 )     (98 )
Fair value at end of period
  $ 437     $ 596     $ 437     $ 596  
 
There are no recourse provisions for the loans that are serviced for others.  The risks inherent in mortgage servicing assets relate primarily to changes in prepayments that result from shifts in mortgage interest rates. For the three month periods ended December 31, 2010, and 2009, amounts recognized for loans servicing fees amounted to $81,000, and $72,000, respectively, which are included in other non-interest income in the statement of operations.  For the six month periods ended December 31, 2010, and 2009, amounts recognized for loans servicing fees amounted to $144,000, and $99,000, respectively. The unpaid principal balance of mortgages serviced for others was $54.3 million and $49.8 million at December 31, 2010 and June 30, 2010, respectively.
 
 
26

 

Deposits and Borrowed Funds. The following table sets forth the Company’s deposit accounts (excluding escrow deposits) for the periods indicated.

   
At December 31,
   
At June 30,
 
   
2010
   
2010
 
   
Balance
   
Percent
   
Balance
   
Percent
 
   
(Dollars in Thousands)
 
Deposit type:
                       
Demand deposits
  $ 52,462       12.76 %   $ 52,090       12.40 %
Savings deposits
    79,015       19.22       82,040       19.53  
Money market
    49,483       12.04       43,414       10.34  
NOW accounts
    29,552       7.19       29,578       7.04  
Total transaction accounts
    210,512       51.21       207,122       49.31  
Certificates of deposit
    200,568       48.79       212,938       50.69  
                                 
Total deposits
  $ 411,080       100.00 %   $ 420,060       100.00 %
 
Deposits decreased $9.0 million, or 2.1%, to $411.1 million at December 31, 2010 from $420.1 million at June 30, 2010. Certificates of deposit decreased $12.4 million savings accounts decreased $3.0 million and NOW accounts decreased $26,000. A partial offset to these decreases was an increase in money market accounts of $6.1 million, and an increase in demand deposits of $372,000. The primary reason for the decrease in certificates of deposit was due to the payout of one certificate which totaled $6.7 million.  This certificate was collateral for a commercial loan which has been paid off.

Borrowings include advances from the Federal Home Loan Bank of Boston (“FHLB”), as well as securities sold under agreements to repurchase, and have decreased $9.0 million, or 13.8%, to $56.0 million at December 31, 2010 from $65.0 million at June 30, 2010. Repayments of advances from the FHLB were $11.9 million and repurchase agreements increased $2.9 million.

Stockholders’ Equity. In June 2010, the Company announced that its Board of Directors authorized a third stock repurchase program for the purchase of up to 357,573 shares of the Company’s common stock, or approximately 5% of its outstanding common stock (the “Repurchase Program”). Stockholders’ equity decreased $2.1 million, or 2.2%, to $92.7 million at December 31, 2010 from $94.8 million at June 30, 2010. Between June 30, 2010 and December 31, 2010 the Company repurchased 284,830 shares of Company’s common stock for $3.0 million, at an average price of $10.08 per share pursuant to the Company’s third Stock Repurchase Program. In addition the Company purchased 10,500 shares of Company stock, at $9.95 per share, from Hampden Bank Charitable Foundation in the first quarter of fiscal 2011. The decrease due to stock repurchased was partially offset by the net income for the six months of $1.0 million.  Our ratio of capital to total assets increased slightly to 16.4% as of December 31, 2010 from 16.2% at June 30, 2010.

Comparison of Operating Results (unaudited) for the Three Months Ended December 31, 2010 and December 31, 2009
 
Net Income. The Company had net income for the three months ended December 31, 2010 of $491,000, or $0.08 per basic and fully diluted share, as compared to a net loss of $670,000, or $(0.10) per basic and fully diluted share, for the same period in 2009. The reason for the increase in net income was due to a decrease in the provision for loan losses of $1.5 million, or 83.3%, for the three months ended December 31, 2010 compared to the three months ended December 31, 2009. Also, for the three month period ended December 31, 2010, interest expense decreased by $558,000 compared to the three month period ended December 31, 2009. This decrease in interest expense was due to a decrease in deposit interest expense of $400,000 and a decrease in borrowing interest expense of $158,000 for the three months ended December 31, 2010 compared to the three months ended December 31, 2009. A partial offset to this was a decrease in interest and dividend income, including fees, of $516,000, or 7.4%, for the three months ended December 31, 2010 compared to the three months ended December 31, 2009. This decrease in interest income was mainly due to a decrease in debt securities income of $276,000 and a decrease in loan income of $247,000 for the three months ended December 31, 2010 compared to the three months ended December 31, 2009.

Analysis of Net Interest Income.

Net interest income represents the difference between income on interest-earning assets and expense on interest-bearing liabilities. Net interest income depends upon the relative amounts of interest-earning assets and interest-bearing liabilities and the interest rates earned or paid on them.

The following table sets forth average balance sheets, average yields and costs, and certain other information for the periods indicated. All average balances are daily average balances. The yields set forth below include the effect of deferred fees, and discounts and premiums that are amortized or accreted to interest income or expense. The Company does not accrue interest on loans on non-accrual status, however, the balance of these loans is included in the total average balance, which has the effect of lowering average loan yields.
 
 
27

 
 
   
Three Months Ended December 31,
 
   
2010
   
2009
 
   
Average
Outstanding
Balance
   
Interest
   
Yield
/Rate (1)
   
Average
Outstanding
Balance
   
Interest
   
Yield
/Rate (1)
 
   
(Dollars in Thousands)
 
Interest-earning assets:
                                   
   Loans (2)
  $ 398,164     $ 5,648       5.67 %   $ 410,136     $ 5,895       5.75 %
   Investment securities
    104,030       784       3.01 %     113,038       1,062       3.76 %
   Federal funds sold and other
   short-term investments
    13,669       15       0.44 %     13,495       6       0.18 %
       Total interest earning assets
    515,863       6,447       5.00 %     536,669       6,963       5.19 %
Non-interest earning assets
    53,417                       37,508                  
Total assets
  $ 569,280                     $ 574,177                  
                                                 
Interest-bearing liabilities:
                                               
   Savings deposits
  $ 80,589       92       0.46 %   $ 75,107       170       0.91 %
   Money market
    46,463       66       0.57 %     45,667       112       0.98 %
   NOW and other checking accounts
    81,941       45       0.22 %     68,599       65       0.38 %
   Certificates of deposit
    202,522       1,226       2.42 %     207,467       1,482       2.86 %
       Total deposits
    411,515       1,429       1.39 %     396,840       1,829       1.84 %
Borrowed funds
    50,862       521       4.10 %     74,538       679       3.64 %
       Total interest-bearing liabilities
    462,377       1,950       1.69 %     471,378       2,508       2.13 %
Non-interest bearing liabilities
    13,619                       6,537                  
Total liabilities
    475,996                       477,915                  
Equity
    93,284                       96,262                  
Total Liabilities and equity
  $ 569,280                     $ 574,177                  
                                                 
                                                 
Net interest income
          $ 4,497                     $ 4,455          
Net interest rate spread (3)
                    3.31 %                     3.06 %
Net interest-earning assets (4)
  $ 53,486                     $ 65,291                  
                                                 
Net interest margin (5)
                    3.49 %                     3.32 %
Average interest-earning assets to interest-bearing liabilities
                     111.57                      113.85

(1) 
Yields and rates for the three months ended December 31, 2010 and 2009 are annualized.
(2) 
Includes loans held for sale.
(3) 
Net interest rate spread represents the difference between the yield on interest-earning assets and the cost of
 
interest-bearing liabilities for the period indicated.
(4) 
Net interest-earning assets represents total interest-earning assets less total interest-bearing liabilities.
(5) 
Net interest margin represents net interest income divided by average total interest-earning assets.
 
The following table presents the dollar amount of changes in interest income and interest expense for the major categories of the Company’s interest-earning assets and interest-bearing liabilities. Information is provided for each category of interest-earning assets and interest-bearing liabilities with respect to (i) changes attributable to changes in volume (i.e., changes in average balances multiplied by the prior-period average rate) and (ii) changes attributable to rate (i.e., changes in average rate multiplied by prior-period average balances). The changes attributable to the combined impact of volume and rate have been allocated proportionately to the changes due to volume and the changes due to rate.
 
 
28

 

   
Three Months Ended December 31,
2010 vs. 2009
 
   
Increase
(Decrease) Due to
   
Total Increase
 
   
Volume
   
Rate
    (Decrease)  
   
(Dollars in Thousands)
 
Interest income:
                 
Loans (1)
  $ (171 )   $ (76 )   $ (247 )
Investment securities
    (80 )     (198 )     (278 )
Federal funds sold and other short-term investments
    0       9       9  
Total interest income
    (250 )     (266 )     (516 )
                         
Interest expense:
                       
Savings deposits
    12       (90 )     (78 )
Money market
    2       (48 )     (46 )
NOW and other checking accounts
    11       (31 )     (20 )
Certificates of deposits
    (35 )     (221 )     (256 )
Total deposits
    (9 )     (391 )     (400 )
Borrowed funds
    (235 )     77       (158 )
Total interest expense
    (245 )     (313 )     (558 )
Change in net interest income
  $ (6 )   $ 48     $ 42  
                         
(1) Includes loans held for sale.
                 

Net interest income. Net interest income for the three months ended December 31, 2010 was $4.5 million, an increase of $42,000 or 0.9%, over the same period of 2009. This was primarily due to a decrease in the average cost of deposits of 45 basis points to 1.39% for the three months ended December 31, 2010 over the same period in 2009, as well as a decrease in interest income of $516,000 for the three months ended December 31, 2010 and a decrease of $23.7 million in the average balance of borrowings or the three months ended December 31, 2010 over the same period in 2009.

Interest income. Interest income for the three months ended December 31, 2010 decreased $516,000, or 7.4%, to $6.4 million over the same period of 2009. For the three months ended December 31, 2010, average outstanding loans decreased $12.0 million, or 2.9%, from the average for the three month period ended December 31, 2009. Due to interest rate risk, the Company has decided to sell some of its current originations of fixed rate mortgages, which is contributing to the decrease in average outstanding loans as well as the decrease in interest income. For the three months ended December 31, 2010, average outstanding investment securities decreased $9.0 million or 8.0% from the average for the three month period ended December 31, 2009.  The average yield on interest earning assets decreased 19 basis points to 5.00% for the three months ended December 31, 2010, compared to 5.19% for the same period in 2009.

Interest Expense. Interest expense decreased $558,000, or 22.3%, to $2.0 million for the three months ended December 31, 2010. This decrease was primarily due to a decrease in rates of deposits and a decrease in the average balance of borrowed funds due to the Company paying off some higher rate borrowings. The average cost of funds decreased to 1.69% for the three months ended December 31, 2010, a decrease of 44 basis points from a cost of funds of 2.13% for the same period in 2009. The decrease in the cost of funds is due to the result of the current low interest rate environment as well as an increase in transaction and money market deposit accounts.

Provision for Loan Losses. The Company’s provision for loan loss expense was $300,000 for the three months ended December 31, 2010 compared to $1.8 million for the three months ended December 31, 2009.  The reason for the large provision in loan loss expense for the three months ended December 31, 2009 was primarily due to our concern over one large lending relationship, as well as increases in loan delinquencies, increases in non-accrual loans, increases in impaired loans, growth in the loan portfolio, and general economic conditions. As of December 31, 2010, the Company’s total allowance for loan losses of $6.1 million decreased slightly from $6.3 million at June 30, 2010. The change in the allowance is because the Company charged-off loan balances totaling $555,000 during the three month period ended December 31, 2010 and $843,000 during the six month period ended December 31, 2010.  The allowance for loan losses remained relatively unchanged at 1.53% of total loans as of December 31, 2010 compared to 1.52% of total loans as of December 31, 2009 as a result of decreased allowance for loan loss and a decrease in gross loans outstanding.

            Non-interest Income. Total non-interest income totaled $807,000 for the three months ended December 31, 2010, an increase of $130,000 from the same period a year ago. This increase is due to an increase in gain on sales of loans of $191,000 for the three months ended December 31, 2010 compared to the same period a year ago. Due to interest rate risk, the Company has decided to sell some of its current originations of fixed rate mortgages.
 
 
29

 
 
Non-interest Expense. Non-interest expense decreased $83,000, or 1.9%, to $4.2 million for the three months ended December 31, 2010 compared to the same period for 2009. This decrease was largely due to a decrease in advertising expense of $106,000, a decrease in data processing services of $58,000 and a decrease in write-down on the sale of other real estate owned of $28,000,.  These decreases were offset by increases in salary and employee benefit expense of $74,000, other general and administrative expense of $17,000, FDIC insurance and assessment expenses of $15,000 and occupancy and equipment expense of $3,000.
 
Income Taxes. Income tax expense increased $594,000 for the three months ended December 31, 2010 compared to the same period for 2009. Our combined federal and state effective tax rate was 35.1% for the three months ended December 31, 2010 compared to 32.9% for the three months ended December 31, 2009. The primary reason for the increase in income tax expense and effective tax rate was due to the change in the estimated effective state tax rate in fiscal 2010 decreasing the December 31, 2009 effective rate.

Comparison of Operating Results (unaudited) for the Six Months Ended December 31, 2010 and December 31, 2009
 
Net Income. The Company had net income for the six months ended December 31, 2010 of $1.0 million, or $0.16 per basic and fully diluted share, as compared to a net loss of $832,000, or $(0.13) per basic and fully diluted share, for the same period in 2009. The reason for the increase in net income was due to a decrease in the provision for loan losses of $2.0 million, or 77.3%, for the six months ended December 31, 2010 compared to the six months ended December 31, 2009. Also, for the six month period ended December 31, 2010, interest expense decreased by $1.1 million compared to the six month period ended December 31, 2009. This decrease in interest expense was due to a decrease in deposit interest expense of $740,000 and a decrease in borrowing interest expense of $318,000 for the six months ended December 31, 2010 compared to the six months ended December 31, 2009. A partial offset to this was a decrease in interest and dividend income, including fees, of $772,000, or 5.6%, for the six months ended December 31, 2010 compared to the six months ended December 31, 2009. This decrease in interest income was mainly due to a decrease in debt securities income of $554,000 and a decrease in loan income of $228,000 for the six months ended December 31, 2010 compared to the six months ended December 31, 2009.

Analysis of Net Interest Income.

Net interest income represents the difference between income on interest-earning assets and expense on interest-bearing liabilities. Net interest income depends upon the relative amounts of interest-earning assets and interest-bearing liabilities and the interest rates earned or paid on them.

The following table sets forth average balance sheets, average yields and costs, and certain other information for the periods indicated. All average balances are daily average balances. The yields set forth below include the effect of deferred fees, and discounts and premiums that are amortized or accreted to interest income or expense. The Company does not accrue interest on loans on non-accrual status, however, the balance of these loans is included in the total average balance, which has the effect of lowering average loan yields.
 
 
30

 
 
   
Six Months Ended December 31,
 
   
2010
   
2009
 
   
Average
Outstanding
Balance
   
Interest
   
Yield
/Rate (1)
   
Average
Outstanding
Balance
   
Interest
   
Yield
/Rate (1)
 
   
(Dollars in Thousands)
 
Interest-earning assets:
                                   
   Loans (2)
  $ 406,172     $ 11,463       5.64 %   $ 404,470     $ 11,691       5.78 %
   Investment securities
    105,664       1,630       3.09 %     114,119       2,188       3.83 %
   Federal funds sold and other
   short-term investments
    12,332       26       0.42 %     14,547       12       0.16 %
       Total interest earning assets
    524,168       13,119       5.01 %     533,136       13,891       5.21 %
Non-interest earning assets
    50,461                       36,107                  
Total assets
  $ 574,629                     $ 569,243                  
                                                 
Interest-bearing liabilities:
                                               
   Savings deposits
  $ 81,019       208       0.51 %   $ 74,156       358       0.97 %
   Money market
    44,535       134       0.60 %     44,281       229       1.03 %
   NOW and other checking accounts
    80,969       94       0.23 %     66,236       127       0.38 %
   Certificates of deposit
    207,352       2,584       2.49 %     204,595       3,046       2.98 %
       Total deposits
    413,875       3,020       1.46 %     389,268       3,760       1.93 %
Borrowed funds
    53,786       1,099       4.09 %     76,850       1,417       3.69 %
       Total interest-bearing liabilities
    467,661       4,119       1.76 %     466,118       5,177       2.22 %
Non-interest bearing liabilities
    12,904                       6,590                  
Total liabilities
    480,565                       472,708                  
Equity
    94,064                       96,535                  
Total Liabilities and equity
  $ 574,629                     $ 569,243                  
                                                 
                                                 
Net interest income
          $ 9,000                     $ 8,714          
Net interest rate spread (3)
                    3.24 %                     2.99 %
Net interest-earning assets (4)
  $ 56,507                     $ 67,018                  
                                                 
Net interest margin (5)
                    3.43 %                     3.27 %
Average interest-earning assets to interest-bearing liabilities
                     112.08                      114.38

(1) 
Yields and rates for the six months ended December 31, 2010 and 2009 are annualized.
(2) 
Includes loans held for sale.
(3) 
Net interest rate spread represents the difference between the yield on interest-earning assets and the cost of
 
interest-bearing liabilities for the period indicated.
(4) 
Net interest-earning assets represents total interest-earning assets less total interest-bearing liabilities.
(5) 
Net interest margin represents net interest income divided by average total interest-earning assets.
 
The following table presents the dollar amount of changes in interest income and interest expense for the major categories of the Company’s interest-earning assets and interest-bearing liabilities. Information is provided for each category of interest-earning assets and interest-bearing liabilities with respect to (i) changes attributable to changes in volume (i.e., changes in average balances multiplied by the prior-period average rate) and (ii) changes attributable to rate (i.e., changes in average rate multiplied by prior-period average balances). The changes attributable to the combined impact of volume and rate have been allocated proportionately to the changes due to volume and the changes due to rate.
 
 
31

 
 
   
Six Months Ended December 31,
2010 vs. 2009
 
   
Increase
(Decrease) Due to
   
Total Increase
 
   
Volume
   
Rate
    (Decrease)  
   
(Dollars in Thousands)
 
Interest income:
                 
Loans (1)
  $ 49     $ (277 )   $ (228 )
Investment securities
    (153 )     (405 )     (558 )
Federal funds sold and other
    (2 )     16       14  
Total interest income
    (106 )     (666 )     (772 )
                         
Interest expense:
                       
Savings deposits
    31       (181 )     (150 )
Money market
    1       (96 )     (95 )
NOW and other checking accounts
    24       (57 )     (33 )
Certificates of deposits
    41       (503 )     (462 )
Total deposits
    98       (838 )     (740 )
Borrowed funds
    (459 )     141       (318 )
Total interest expense
    (362 )     (696 )     (1,058 )
Change in net interest income
  $ 255     $ 31     $ 286  
                         
(1) Includes loans held for sale.
                 
 
Net interest income. Net interest income for the six months ended December 31, 2010 was $9.0 million, an increase of $286,000 or 3.3%, over the same period of 2009. This was primarily due to a decrease in the average cost of deposits of 47 basis points to 1.46% for the six months ended December 31, 2010 over the same period in 2009, as well as a decrease in interest income of $772,000 for the six months ended December 31, 2010 over the same period in 2009.
 
Interest income. Interest income for the six months ended December 31, 2010 decreased $772,000, or 5.6%, to $13.1 million over the same period of 2009. For the six months ended December 31, 2010, average outstanding loans increased $1.7 million, or 0.4%, from the average for the six month period ended December 31, 2009. For the six months ended December 31, 2010, average outstanding investment securities decreased $8.5 million or 7.4% from the average for the six month period ended December 31, 2009.  The average yield on interest earning assets decreased 20 basis points to 5.01% for the six months ended December 31, 2010, compared to 5.21% for the same period in 2009.
 
Interest Expense. Interest expense decreased $1.1 million, or 20.4%, to $4.1 million for the six months ended December 31, 2010. This decrease was primarily due to a decrease in rates of deposits and a decrease in the average balance of borrowed funds due to the Company paying off some higher rate borrowings. The average cost of funds decreased to 1.76% for the six months ended December 31, 2010, a decrease of 46 basis points from a cost of funds of 2.22% for the same period in 2009.

Provision for Loan Losses. The Company’s provision for loan loss expense was $600,000 for the six months ended December 31, 2010 compared to $2.6 million for the six months ended December 31, 2009.  The reason for the large provision in loan loss expense for the six months ended December 31, 2009 was primarily due to our concern over one large lending relationship, as well as increases in loan delinquencies, increases in non-accrual loans, increases in impaired loans, growth in the loan portfolio, and general economic conditions. As of December 31, 2010, the Company’s total allowance for loan losses of $6.1 million decreased slightly from $6.3 million at June 30, 2010.  This is because the Company charged off loan balances totaling $843,000 during the six month period ended December 31, 2010.  The allowance for loan losses remained relatively unchanged at 1.53% of total loans as of December 31, 2010 compared to 1.52% of total loans as of December 31, 2009 as a result of decreased allowance for loan loss and a decrease in gross loans outstanding.

            Non-interest Income. Total non-interest income totaled $1.6 million for the six months ended December 31, 2010, an increase of $300,000 from the same period a year ago. This increase is due to an increase in gain on sales of loans of $345,000 for the six months ended December 31, 2010 compared to the same period a year ago. Due to interest rate risk, the Company has decided to sell some of its current originations of fixed rate mortgages.
 
Non-interest Expense. Non-interest expense decreased $203,000, or 2.4%, to $8.4 million for the six months ended December 31, 2010 compared to the same period for 2009. This decrease was largely due to a decrease in write-down on the sale of other real estate owned of $268,000, a decrease in advertising expense of $136,000 and a decrease in data processing services of $118,000.  These decreases were offset by increases in other general and administrative expense of $121,000, salary and employee benefit expense of $113,000, occupancy and equipment expense of $47,000 and FDIC insurance and assessment expenses of $38,000.
 
 
32

 
 
Income Taxes. Income tax expense increased $965,000 for the six months ended December 31, 2010 compared to the same period for 2009. Our combined federal and state effective tax rate was 35.4% for the six months ended December 31, 2010 compared to 32.4% for the six months ended December 31, 2009. The primary reason for the increase in income tax expense and effective tax rate was due to the change in the estimated effective state tax rate in fiscal 2010 decreasing the December 31, 2009 effective rate.

Minimum Regulatory Capital Requirements. As of December 31, 2010, the most recent notification from the Federal Deposit Insurance Corporation categorized Hampden Bank as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized, an institution must maintain minimum total risk-based, Tier 1 risk-based, and Tier 1 leverage ratios as set forth in the following table. There are no conditions or events since that notification that management believes has changed Hampden Bank’s category. The Company’s and Bank’s capital amounts and ratios as of December 31, 2010 (unaudited) and June 30, 2010 are presented in the table below.

                           
Minimum
 
                           
To Be Well
 
               
Minimum
   
Capitalized Under
 
               
For Capital
   
Prompt Corrective
 
   
Actual
   
Adequacy Purposes
   
Action Provisions
 
   
Amount
   
Ratio
   
Amount
   
Ratio
   
Amount
   
Ratio
 
   
(Dollars in Thousands)
 
As of December 31, 2010:
                                   
                                     
Total capital (to risk weighted assets):
                               
      Consolidated
  $ 96,065       24.3 %   $ 31,555       8.0 %     N/A       N/A  
      Bank
    76,636       19.6       31,243       8.0     $ 39,054       10.0  
                                                 
Tier 1 capital (to risk weighted assets):
                                         
      Consolidated
    91,120       23.1     $ 15,777       4.0       N/A       N/A  
      Bank
    71,740       18.4       15,622       4.0       23,432       6.0  
                                                 
Tier 1 capital (to average assets):
                                         
      Consolidated
    91,120       16.0     $ 22,771       4.0       N/A       N/A  
      Bank
    71,740       12.9       22,181       4.0       27,726       5.0  
                                                 
As of June 30, 2010:
                                               
                                                 
Total capital (to risk weighted assets):
                                         
      Consolidated
  $ 96,860       23.4 %   $ 33,145       8.0 %     N/A       N/A  
      Bank
    73,989       18.1       32,643       8.0     $ 40,803       10.0  
                                                 
Tier 1 capital (to risk weighted assets):
                                         
      Consolidated
    91,667       22.1       16,573       4.0       N/A       N/A  
      Bank
    68,874       16.9       16,321       4.0       24,482       6.0  
                                                 
Tier 1 capital (to average assets):
                                         
      Consolidated
    91,667       15.8       23,152       4.0       N/A       N/A  
      Bank
    68,874       12.4       22,305       4.0       27,882       5.0  

Liquidity Risk Management. Liquidity risk, or the risk to earnings and capital arising from an organization’s inability to meet its obligations without incurring unacceptable losses, is managed by the Company’s Chief Financial Officer, who monitors on a daily basis the adequacy of the Company’s liquidity position. Oversight is provided by the Asset/Liability Committee, which reviews the Company’s liquidity on a monthly basis, and by the Board of Directors of the Company, which reviews the adequacy of our liquidity resources on a quarterly basis.

The Company’s primary sources of funds are from deposits, amortization of loans, prepayments and the maturity of mortgage-backed securities and other investments, and other funds provided by operations. While scheduled payments from the amortization of loans and mortgage-backed securities and maturing loans and investment securities are relatively predictable sources of funds, deposit flows and loan prepayments can be greatly influenced by general interest rates, economic conditions and competition. We maintain excess funds in cash and short-term interest-bearing assets that provide additional liquidity. At December 31, 2010, cash and cash equivalents totaled $28.8 million, or 5.1% of total assets.
 
 
33

 

The Company also relies on outside borrowings from the FHLB as an additional funding source. The Company uses FHLB borrowings to fund growth in the balance sheet and to assist in the management of its interest rate risk by match funding longer term fixed rate loans.

The Company uses it’s liquidity to fund existing and future loan commitments, to fund maturing certificates of deposit and borrowings, to fund other deposit withdrawals, to invest in other interest-earning assets and to meet operating expenses. The Company anticipates that it will continue to have sufficient funds and alternative funding sources to meet its commitments.
 
Off-Balance Sheet Arrangements: In the normal course of business, there are outstanding commitments which are not reflected in the accompanying consolidated balance sheets. 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 and generally have fixed expiration dates or other termination clauses. The following table presents certain information about the Company’s loan commitments and other contingencies outstanding as of December 31, 2010 and June 30, 2010.
 
   
December 31, 2010
   
June 30, 2010
 
   
(Dollars in Thousands)
 
Commitments to grant loans (1)
  $ 15,177     $ 9,719  
Commercial loan lines-of-credit (2)
    24,647       23,262  
Unused portions of home equity lines-of-credit (3)
    30,893       30,074  
Unused portion of construction loans (4)
    3,276       7,333  
Unused portion of mortgage loans
    191       210  
Unused portion of personal lines-of-credit (5)
    1,933       1,983  
Standby letters of credit (6)
    2,135       2,200  
Total loan commitments
  $ 78,252     $ 74,781  
 
(1) 
Commitments for loans are generally extended to customers for up to 60 days after which they expire.
(2) 
The majority of C&I loans are written on a demand basis.
(3) 
Unused portions of home equity lines of credit are available to the borrower for up to 20 years.
(4) 
Unused portions of construction loans are available to the borrower for up to eighteen months
 
for development loans and up to one year for other construction loans.
(5) 
Unused portions of personal lines-of-credit are available to customers in "good standing" indefinitely.
(6) 
Standby letters of credit are generally available for one year or less.
 
Item 3: Quantitative and Qualitative Disclosures About Market Risks
 
There have been no material changes in the Company’s market risk during the six months ended December 31, 2010. See the discussion and analysis of quantitative and qualitative disclosures about market risk provided in the section entitled “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in the Company’s Annual Report on Form 10-K for the year ended June 30, 2010 for a general discussion of the qualitative aspects of market risk and discussion of the simulation model used by the Company to measure its interest rate risk.

Item 4: Controls and Procedures
 
Evaluation of Disclosure Controls and Procedures. Our principal executive officer and principal financial officer, after evaluating the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) as of the end of the period covered by this Quarterly Report on Form 10-Q, have concluded that, based on such evaluation, our disclosure controls and procedures were effective and designed to provide reasonable assurance that the information required to be disclosed by us is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms and is accumulated and communicated to our management, including our principal executive officer and principal financial officer, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure. In designing and evaluating our disclosure controls and procedures, our management recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and our management necessarily was required to apply this judgment in evaluating the cost-benefit relationship of possible controls and procedures.

Internal Control Over Financial Reporting. There were no changes in the Company’s internal control over financial reporting (as defined in Rules 13a-15(f) or 15d-15(f) under the Exchange Act) during the fiscal quarter to which this report relates that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.
 
 
34

 
PART II — OTHER INFORMATION

Item 1. Legal Proceedings

The Company is not involved in any pending legal proceedings other than routine legal proceedings occurring in the ordinary course of business. Such routine legal proceedings, in the aggregate, are believed by management to be immaterial to the financial condition and results of operations of the Company.

Item 1A. Risk Factors

There have been no material changes in the Company’s risk factors during the six months ended December 31, 2010. See the discussion and analysis of risk factors, in the section entitled “Risk Factors” in the Company’s Annual Report on Form 10-K for the year ended June 30, 2010.

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

(a)  
Unregistered Sales of Equity Securities – Not applicable

(b)  
Use of Proceeds – Not applicable

(c)  
Repurchase of Our Equity Securities –In June 2010,  the Company announced that its Board of Directors authorized a third stock repurchase program (“Repurchase Program”) for the purchase of up to 357,573 shares of the Company’s common stock or approximately 5% of its outstanding common stock. The Company purchased 123,230 of its shares in the open market in the quarter ended December 31, 2010 at an average price of $10.12 per share.

 
On December 22, 2010, the Company announced that its Board of Directors authorized a fourth stock repurchase program (the “Stock Repurchase Program”) for the purchase of up to 339,170 shares of the Company’s common stock or approximately 5% of its outstanding common stock. The Company will commence its fourth stock repurchase program immediately upon the completion of its third repurchase program.  Any repurchases under the Stock Repurchase Program will be made through open market purchase transactions from time to time. The amount and exact timing of any repurchases will depend on market conditions and other factors, at the discretion of management of the Company, and it is intended that the Stock Repurchase Program will complete all repurchases within twelve months after its commencement. There is no assurance that the Company will repurchase shares during any period.
 
 
Period
 
(a)
Total Number of
Shares Purchased
   
(b)
Average Price Paid
per Share
   
(c)
Total Number of Shares
Purchased as Part of
Publicly announced
Plans or Programs
   
(d)
Maximum Number or
Appropriate Dollar Value
of Shares that May Yet Be
Purchased Under the Plans
or Programs
 
October 1, 2010 - October 31, 2010
    109,430     $ 10.11       109,430       52,343  
November 1, 2010 - November 30, 2010
    9,200     $ 10.20       9,200       43,143  
December 1, 2010 - December 31, 2010
    4,600     $ 10.22       4,600       38,543  
      123,230     $ 10.12       123,230          
 
 
Item 3. Defaults Upon Senior Securities
 
None.

Item 4. (Removed and Reserved)
 
Item 5. Other Information

Not applicable.

Item 6. Exhibits

3.1
 
Certificate of Incorporation of Hampden Bancorp, Inc. (1)
     
3.2
 
Amended and Restated Bylaws of Hampden Bancorp, Inc. (2)
     
3.3
 
Text of Amendment to Amended and Restated Bylaws of Hampden Bancorp, Inc. (3)
 
 
35

 
 
4.1
 
Stock Certificate of Hampden Bancorp, Inc. (1)
     
10.1
 
Hampden Bank Employee Stock Ownership Plan and Trust Agreement (4)
     
10.2.1
 
Hampden Bank Employee Stock Ownership Plan Loan Agreement (5)
     
10.2.2
 
Pledge Agreement (5)
     
10.2.3
 
Promissory Note (5)
     
10.3
 
Hampden Bank 401(k) Profit Sharing Plan and Trust (1)
     
10.4
 
Hampden Bank SBERA Pension Plan (1)
     
10.5.1
 
Employment Agreement between Hampden Bank and Thomas R. Burton (5)
     
10.5.2
 
Employment Agreement between Hampden Bank and Glenn S. Welch (5)
     
10.6.2
 
Form of 2010 Hampden Bank Change in Control Agreement (11)
     
10.7
 
Executive Salary Continuation Agreement between Hampden Bank and Thomas R. Burton (1)
     
10.8
 
Form of Executive Salary Continuation Agreement between Hampden Bank and certain specific  officers (1)
     
10.9
 
Form of Director Supplemental Retirement Agreements between Hampden Bank and certain directors (1)
     
10.10.1
 
Executive Split Dollar Life Insurance Agreement between Hampden Bank and Thomas R. Burton (1)
     
10.10.2
 
Executive Split Dollar Life Insurance Agreement between Hampden Bank and Robert S. Michel (1)
     
10.11
 
Amended and Restated Executive Salary Continuation Agreement between Hampden Bank and Thomas R. Burton (7)
     
10.12
 
2008 Equity Incentive Plan (8)
     
10.13
 
Form of Restricted Stock Agreement (9)
     
10.14
 
Form of Stock Option Grant Notice and Stock Option Agreement (9)
     
21.0
 
List of Subsidiaries (10)
     
31.1
 
Certification pursuant to Rule 13a-14(a)/15d-14(a) of Thomas R. Burton
     
31.2
 
Certification pursuant to Rule 13a-14(a)/15d-14(a) of Robert A. Massey
     
32.0
 
Section 1350 Certification of Chief Executive Officer and Chief Financial Officer
     

(1)
Incorporated by reference to the Company's Registration Statement on Form S-1 (File No. 333-137359), as amended, initially filed with the SEC on September 15, 2006.
(2)
Incorporated by reference to the Company's Current Report on Form 8-K (File No. 001-33144) as filed with the SEC on August 3, 2007.
(3)
Incorporated by reference to the Company’s Current Report on form 8-K (File No. 001-33144), as filed with the SEC on September 14, 2009.
(4)
Incorporated by reference to the Company's Quarterly Report on Form 10-Q (File No. 001-33144) for the quarter ended September 30, 2006.
(5)
Incorporated by reference to the Company's Current Report on Form 8-K (File No. 001-33144) as filed with the SEC on January 19, 2007.
(6)
Incorporated by reference to the Company’s Current Report on Form 8-K (File No. 001-33144), as filed with the SEC on November 9, 2009.
(7) 
 Incorporated by reference to the Company’s Annual Report on Form 10-K (File No. 001-33144) for the year ended June 20, 2007.
(8)
Incorporated by reference to the Company’s Proxy Statement on Form DEF 14A (File No. 001-33144), as filed with the SEC on December 27, 2007.
(9)
Incorporated by reference to the Company's Quarterly Report on Form 10-Q (File No. 001-33144) for the quarter ended September 30, 2008.
(10)
Incorporated by reference to the Company’s Annual Report on Form 10-K (File No. 001-33144) for the year ended June 30, 2010.
(11)
Incorporated by reference to the Company's Current Report on Form 8-K (File No. 001-33144) as filed with the SEC on November 4, 2010.

 
36

 
 
 
     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.

     
 
HAMPDEN BANCORP, INC.
 
     
Date: February 11, 2011
/s/ Thomas R. Burton
 
 
Thomas R. Burton
 
President and Chief Executive Officer
     
Date: February 11, 2011
/s/ Robert A. Massey
 
 
Robert A. Massey
 
Chief Financial Officer, Senior Vice President and Treasurer
 
 
37