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EX-32.1 - EXHIBIT 32.1 - META FINANCIAL GROUP INCex32_1.htm
EX-32.2 - EXHIBIT 32.2 - META FINANCIAL GROUP INCex32_2.htm
EX-31.2 - EXHIBIT 31.2 - META FINANCIAL GROUP INCex31_2.htm
EX-31.1 - EXHIBIT 31.1 - META FINANCIAL GROUP INCex31_1.htm


UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C.  20549
 
FORM 10-Q
 
x  QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the quarterly period ended March 31, 2011
 
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:  0-22140
 
META FINANCIAL GROUP, INC. ®
(Exact name of registrant as specified in its charter)
 
Delaware   42-1406262
(State or other jurisdiction of
(I.R.S. Employer Identification No.)
incorporation or organization)
 
 
121 East Fifth Street, Storm Lake, Iowa 50588
(Address of principal executive offices)

(712) 732-4117
(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 x    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 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.  (Check one):
 
Large accelerated filer o Accelerated filer o Non-accelerated filer o Smaller Reporting Company x
 
Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). o YES x NO
 
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.
 
Class:
Outstanding at May 6, 2011:
Common Stock, $.01 par value
3,117,363 Common Shares
 



META FINANCIAL GROUP, INC.
FORM 10-Q
 
     Page No. 
Part I. Financial Information  
     
Item 1.
Financial Statements (Unaudited):
 
     
 
1
     
 
2
     
 
3
     
 
4
     
 
5
     
 
6
     
31
     
44
     
46
     
Part II. Other Information  
     
47
     
47
     
47
     
47
     
47
     
47
     
47
     
 
48
 
 
META FINANCIAL GROUP, INC.
AND SUBSIDIARIES
(Dollars in Thousands, Except Share and Per Share Data)
 
ASSETS
 
March 31, 2011
   
September 30, 2010
 
                 
Cash and cash equivalents
  $ 158,708     $ 87,503  
Investment securities available for sale
    23,836       21,467  
Mortgage-backed securities available for sale
    601,953       485,385  
Loans receivable - net of allowance for loan losses of $4,741 at March 31, 2011 and $5,234 at September 30, 2010
    330,084       366,045  
Federal Home Loan Bank Stock, at cost
    5,194       5,283  
Accrued interest receivable
    4,447       4,759  
Bond insurance receivable
    4,192       3,683  
Premises, furniture, and equipment, net
    18,410       19,377  
Bank-owned life insurance
    14,059       13,796  
Foreclosed real estate and repossessed assets
    933       1,295  
Goodwill and intangible assets
    1,190       2,663  
MPS accounts receivable
    7,620       8,085  
Other assets
    12,777       10,425  
                 
Total assets
  $ 1,183,403     $ 1,029,766  
                 
LIABILITIES AND SHAREHOLDERS’ EQUITY
               
                 
LIABILITIES
               
Non-interest-bearing checking
  $ 847,812     $ 675,163  
Interest-bearing checking
    34,041       29,976  
Savings deposits
    11,517       10,821  
Money market deposits
    35,015       35,422  
Time certificates of deposit
    118,660       146,072  
Total deposits
    1,047,045       897,454  
Advances from Federal Home Loan Bank
    22,000       22,000  
Securities sold under agreements to repurchase
    11,787       8,904  
Subordinated debentures
    10,310       10,310  
Accrued interest payable
    241       392  
Contingent liability
    3,212       3,983  
Accrued expenses and other liabilities
    15,878       14,679  
Total liabilities
    1,110,473       957,722  
                 
SHAREHOLDERS’ EQUITY
               
Preferred stock, 800,000 shares authorized, no shares issued or outstanding
           
Common stock, $.01 par value; 5,200,000 shares authorized, 3,372,999 shares issued, 3,117,363 and 3,111,413 shares outstanding at March 31, 2011 and September 30, 2010, respectively
    34       34  
Additional paid-in capital
    32,411       32,381  
Retained earnings - substantially restricted
    45,133       42,475  
Accumulated other comprehensive income (loss)
    (326 )     1,599  
Treasury stock, 255,636 and 261,586 common shares, at cost, at March 31, 2011 and September 30, 2010, respectively
    (4,322 )     (4,445 )
Total shareholders’ equity
    72,930       72,044  
                 
Total liabilities and shareholders’ equity
  $ 1,183,403     $ 1,029,766  
 
See Notes to Condensed Consolidated Financial Statements.

 
META FINANCIAL GROUP, INC.
AND SUBSIDIARIES
(Dollars in Thousands, Except Share and Per Share Data)
 
   
Three Months Ended
   
Six Months Ended
 
   
March 31,
   
March 31,
 
                         
   
2011
   
2010
   
2011
   
2010
 
                         
Interest and dividend income:
                       
Loans receivable, including fees
  $ 4,909     $ 7,376     $ 10,356     $ 14,101  
Mortgage-backed securities
    4,433       2,827       8,351       4,982  
Other investments
    238       180       493       364  
      9,580       10,383       19,200       19,447  
Interest expense:
                               
Deposits
    753       949       1,642       2,037  
FHLB advances and other borrowings
    410       433       863       1,090  
      1,163       1,382       2,505       3,127  
Net interest income
    8,417       9,001       16,695       16,320  
Provision for loan losses
    214       9,478       186       14,169  
                                 
Net interest income after provision for loan losses
    8,203       (477 )     16,509       2,151  
Non-interest income:
                               
Card fees
    18,392       37,116       32,466       56,660  
Gain on sale of securities available for sale, net
    632             1,158       1,854  
Deposit fees
    163       190       344       394  
Loan fees
    85       65       286       178  
Bank-owned life insurance income
    130       132       263       262  
Other income
    68       133       259       326  
Total non-interest income
    19,470       37,636       34,776       59,674  
Non-interest expense:
                               
Compensation and benefits
    8,188       8,861       15,984       17,532  
Card processing expense
    8,120       14,095       13,343       22,447  
Occupancy and equipment expense
    2,168       2,159       4,210       4,234  
Legal and consulting expense
    1,339       835       2,750       1,826  
Goodwill impairment
                1,508        
Marketing
    411       483       672       838  
Data processing expense
    273       177       546       369  
Other expense
    2,752       2,256       5,856       4,423  
Total non-interest expense
    23,251       28,866       44,869       51,669  
                                 
Income before income tax expense
    4,422       8,293       6,416       10,156  
Income tax expense
    1,675       3,119       2,948       3,790  
                                 
Net income
  $ 2,747     $ 5,174     $ 3,468     $ 6,366  
                                 
Earnings per common share:
                               
Basic
  $ 0.88     $ 1.76     $ 1.11     $ 2.29  
Diluted
  $ 0.88     $ 1.74     $ 1.11     $ 2.26  
                                 
Dividends declared per common share:
  $ 0.13     $ 0.13     $ 0.26     $ 0.26  
 
See Notes to Condensed Consolidated Financial Statements.
 
 
META FINANCIAL GROUP, INC.®
AND SUBSIDIARIES
(Dollars in Thousands)
 
   
Three Months Ended
   
Six Months Ended
 
   
March 31,
   
March 31,
 
                         
   
2011
   
2010
   
2011
   
2010
 
                         
Net income
  $ 2,747     $ 5,174     $ 3,468     $ 6,366  
                                 
Other comprehensive income (loss):
                               
Change in net unrealized gains (losses) on securities available for sale
    (1,006 )     1,525       (4,276 )     (3,301 )
Gains realized in net income
    632             1,158       1,854  
      (374 )     1,525       (3,118 )     (1,447 )
Deferred income tax effect
    (145 )     569       (1,193 )     (539 )
Total other comprehensive income (loss)
    (229 )     956       (1,925 )     (908 )
Total comprehensive income
  $ 2,518     $ 6,130     $ 1,543     $ 5,458  
 
See Notes to Condensed Consolidated Financial Statements.
 
 
META FINANCIAL GROUP, INC.®
AND SUBSIDIARIES
Condensed Consolidated Statements of Changes in Shareholders Equity (Unaudited)
For the Six Months Ended March 31, 2011 and 2010
(Dollars in Thousands, Except Share and Per Share Data)
 
   
Common
Stock
   
Additional
Paid-in
Capital
   
Retained
Earnings
   
Accumulated
Other
Comprehensive
Income (Loss),
Net of Tax
   
Treasury
Stock
   
Total
Shareholders’
Equity
 
                                     
Balance, September 30, 2009
  $ 30     $ 23,551     $ 31,626     $ (1,838 )   $ (6,024 )   $ 47,345  
                                                 
Cash dividends declared on common stock ($.26 per share)
                (741 )                 (741 )
                                                 
Issuance of 415,000 common shares from the sales of equity securities
    4       8,571                         8,575  
                                                 
Issuance of 23,287 common shares from treasury stock due to issuance of restricted stock and exercise of stock options
          (271 )                 661       390  
                                                 
Stock compensation
          91                         91  
                                                 
Change in net unrealized losses on securities available for sale
                      (908 )           (908 )
                                                 
Net income for six months ended March 31, 2010
                6,366                   6,366  
                                                 
Balance, March 31, 2010
  $ 34     $ 31,942     $ 37,251     $ (2,746 )   $ (5,363 )   $ 61,118  
                                                 
Balance, September 30, 2010
  $ 34     $ 32,381     $ 42,475     $ 1,599     $ (4,445 )   $ 72,044  
                                                 
Cash dividends declared on common stock ($.26 per share)
                (810 )                 (810 )
                                                 
Issuance of 5,950 common shares from treasury stock due to issuance of restricted stock and exercise of stock options
          (12 )                 123       111  
                                                 
Stock compensation
          42                         42  
                                                 
Change in net unrealized losses on securities available for sale
                      (1,925 )           (1,925 )
                                                 
Net income for six months ended March 31, 2011
                3,468                   3,468  
                                                 
Balance, March 31, 2011
  $ 34     $ 32,411     $ 45,133     $ (326 )   $ (4,322 )   $ 72,930  
 
See Notes to Condensed Consolidated Financial Statements.
 
 
META FINANCIAL GROUP, INC.®
AND SUBSIDIARIES
Condensed Consolidated Statements of Cash Flows (Unaudited)
(Dollars in Thousands)
 
   
Six Months Ended March 31,
 
   
2011
   
2010
 
             
Cash flows from operating activities:
           
Net income
  $ 3,468     $ 6,366  
Adjustments to reconcile net income to net cash provided by operating activities:
               
Depreciation, amortization and accretion, net
    5,166       6,053  
Provision for loan losses
    186       14,169  
Gain on sale of securities available for sale, net
    (1,158 )     (1,854 )
Net change in accrued interest receivable
    312       14  
Goodwill impairment
    1,508        
Net change in other assets
    (2,822 )     (9,028 )
Net change in accrued interest payable
    (151 )     (109 )
Net change in accrued expenses and other liabilities
    428       8,619  
Net cash provided by operating activities
    6,937       24,230  
                 
Cash flows from investing activities:
               
Purchase of securities available for sale
    (238,464 )     (287,973 )
Net change in federal funds sold
          9  
Proceeds from sales of securities available for sale
    46,239       38,401  
Proceeds from maturities and principal repayments of securities available for sale
    68,066       107,379  
Loans purchased
    (1,039 )     (392 )
Net change in loans receivable
    36,960       (4,653 )
Proceeds from sales of foreclosed real estate
    362       807  
Net change in Federal Home Loan Bank stock
    89       89  
Proceeds from the sale of premises and equipment
           
Purchase of premises and equipment
    (955 )     (1,199 )
Other, net
    1,193       539  
Net cash used in investing activities
    (87,549 )     (146,993 )
                 
Cash flows from financing activities:
               
Net change in checking, savings, and money market deposits
    177,003       146,962  
Net change in time deposits
    (27,412 )     (21,333 )
Net change in advances from Federal Home Loan Bank
          (1,500 )
Net change in securities sold under agreements to repurchase
    2,883       721  
Cash dividends paid
    (810 )     (741 )
Proceeds from issuance of equity securities
          8,575  
Stock compensation
    42       91  
Proceeds from exercise of stock options
    111       390  
Net cash provided by financing activities
    151,817       133,165  
                 
Net increase in cash and cash equivalents
    71,205       10,402  
                 
Cash and cash equivalents at beginning of period
    87,503       6,168  
Cash and cash equivalents at end of period
  $ 158,708     $ 16,570  
                 
Supplemental disclosure of cash flow information
               
Cash paid during the period for:
               
Interest
  $ 2,655     $ 3,235  
Income taxes
    1,834       64  
 
See Notes to Condensed Consolidated Financial Statements.
 
 
META FINANCIAL GROUP, INC. ®
AND SUBSIDIARIES
 
NOTE 1.  BASIS OF PRESENTATION
 
The interim unaudited condensed consolidated financial statements contained herein should be read in conjunction with the audited consolidated financial statements and accompanying notes to the consolidated financial statements for the fiscal year ended September 30, 2010 included in Meta Financial Group, Inc.’s (“Meta Financial” or the “Company”) Annual Report on Form 10-K filed with the Securities and Exchange Commission (“SEC”) on December 13, 2010.  Accordingly, footnote disclosures, which would substantially duplicate the disclosure contained in the audited consolidated financial statements, have been omitted.
 
The financial information of the Company included herein has been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) for interim financial reporting and has been prepared pursuant to the rules and regulations for reporting on Form 10-Q and Rule 10-01 of Regulation S-X.  Such information reflects all adjustments (consisting of normal recurring adjustments), that are, in the opinion of management, necessary for a fair presentation of the financial position and results of operations for the periods presented. The results of the interim period ended March 31, 2011, are not necessarily indicative of the results expected for the year ending September 30, 2011.
 
 
NOTE 2.  CREDIT DISCLOSURES
 
The Allowance for Loan Losses and Recorded Investment in loans at March 31, 2011 and September 30, 2010 are as follows:
 
   
1-4 Family
Residential
   
Commercial and
Multi Family
Real Estate
   
Agricultural
Real Estate
   
Consumer
   
Commercial
Business
   
Agricultural
Operating
   
Unallocated
   
Total
 
                                                 
Three Months Ended March 31, 2011
                                               
                                                 
Allowance for loan losses:
                                               
Beginning balance
  $ 47     $ 3,174     $ 25     $ 370     $ 110     $ 102     $ 935     $ 4,763  
Provision charged to expense
    76       274       13       (142 )     (3 )     (34 )     30       214  
Losses charged off
    (41 )                 (258 )     (15 )                 (314 )
Recoveries
                      78                         78  
Ending balance
  $ 82     $ 3,448     $ 38     $ 48     $ 92     $ 68     $ 965     $ 4,741  
                                                                 
Six Months Ended March 31, 2011
                                                               
                                                                 
Allowance for loan losses:
                                                               
Beginning balance
  $ 50     $ 3,053     $ 111     $ 738     $ 131     $ 125     $ 1,026     $ 5,234  
Provision charged to expense
    73       410       (73 )     (82 )     (24 )     (57 )     (61 )     186  
Losses charged off
    (41 )     (15 )           (758 )     (15 )                 (829 )
Recoveries
                      150                         150  
Ending balance
  $ 82     $ 3,448     $ 38     $ 48     $ 92     $ 68     $ 965     $ 4,741  
                                                                 
Ending balance: individually evaluated for impairment
  $     $ 1,410     $ 14     $ 39     $ 69     $     $     $ 1,532  
Ending balance: collectively evaluated for impairment
  $ 82     $ 2,038     $ 24     $ 9     $ 23     $ 68     $ 965     $ 3,209  
Ending balance: loans acquired with deteriorated credit quality
  $     $     $     $     $     $     $     $  
                                                                 
Loans:
                                                               
Ending balance: individually evaluated for impairment
  $     $ 16,228     $ 1,364     $ 96     $ 152     $     $     $ 17,840  
Ending balance: collectively evaluated for impairment
  $ 36,334     $ 184,142     $ 17,931     $ 38,770     $ 14,786     $ 25,022     $     $ 316,985  
Ending balance: loans acquired with deteriorated credit quality
  $     $     $     $     $     $     $     $  

 
The Asset Classification at March 31, 2011 and September 30, 2010 are as follows:
   
1-4 Family
Residential
   
Commercial and
Multi Family
Real Estate
     
Agricultural
Real Estate
     
Consumer
     
Commercial
Business
     
Agricultural
Operating
 
March 31, 2011
                                   
Pass
  $ 35,350     $ 158,623     $ 15,525     $ 38,286     $ 13,683     $ 18,189  
Watch
    739       21,311       2,387       295       1,096       6,833  
Special Mention
    245       4,208       19       190       7        
Substandard
          14,428       1,363       56       119        
Doubtful
          1,800             39       34        
    $ 36,334     $ 200,370     $ 19,294     $ 38,866     $ 14,939     $ 25,022  

 
     
1-4 Family
Residential
    Commercial and
Multi Family
Real Estate
     
Agricultural
Real Estate
     
Consumer
     
Commercial
Business
     
Agricultural
Operating
 
September 30, 2010
                                   
Pass
  $ 39,464     $ 182,812     $ 19,752     $ 47,349     $ 18,501     $ 22,874  
Watch
    750       4,869       3,094       119       710       8,261  
Special Mention
          7,109             197       108       1,393  
Substandard
          8,081       3,050       259       390        
Doubtful
          1,949             189              
    $ 40,214     $ 204,820     $ 25,896     $ 48,113     $ 19,709     $ 32,528  
 
One- to Four-Family Residential Mortgage Lending.  One- to four-family residential mortgage loan originations are generated by the Company’s marketing efforts, its present customers, walk-in customers and referrals.  The Company offers fixed-rate and ARM loans for both permanent structures and those under construction.  The Company’s one- to four-family residential mortgage originations are secured primarily by properties located in its primary market area and surrounding areas.
 
The Company originates one- to four-family residential mortgage loans with terms up to a maximum of 30-years and with loan-to-value ratios up to 100% of the lesser of the appraised value of the security property or the contract price.  The Company generally requires that private mortgage insurance be obtained in an amount sufficient to reduce the Company’s exposure to at or below the 80% loan-to-value level, unless the loan is insured by the Federal Housing Administration, guaranteed by Veterans Affairs or guaranteed by the Rural Housing Administration.  Residential loans generally do not include prepayment penalties.
 
The Company currently offers one, three, five, seven and ten year ARM loans.  These loans have a fixed-rate for the stated period and, thereafter, such loans adjust annually.  These loans generally provide for an annual cap of up to a 200 basis points and a lifetime cap of 600 basis points over the initial rate.  As a consequence of using an initial fixed-rate and caps, the interest rates on these loans may not be as rate sensitive as is the Company’s cost of funds.  The Company’s ARMs do not permit negative amortization of principal and are not convertible into a fixed rate loan.  The Company’s delinquency experience on its ARM loans has generally been similar to its experience on fixed rate residential loans.  Current market conditions make ARM loans unattractive and very few are originated.
 
Due to consumer demand, the Company also offers fixed-rate mortgage loans with terms up to 30 years, most of which conform to secondary market, i.e., Fannie Mae, Ginnie Mae, and Freddie Mac standards.  Interest rates charged on these fixed-rate loans are competitively priced according to market conditions.  The Company currently sells most, but not all, of its fixed-rate loans with terms greater than 15 years.
 
 
In underwriting one- to four-family residential real estate loans, the Company evaluates both the borrower’s ability to make monthly payments and the value of the property securing the loan.  Most properties securing real estate loans made by the Company are appraised by independent fee appraisers approved by the Board of Directors.  The Company generally requires borrowers to obtain an attorney’s title opinion or title insurance, and fire and property insurance (including flood insurance, if necessary) in an amount not less than the amount of the loan.  Real estate loans originated by the Company generally contain a “due on sale” clause allowing the Company to declare the unpaid principal balance due and payable upon the sale of the security property.  The Company has not engaged in sub-prime residential mortgage originations.
 
Commercial and Multi-Family Real Estate Lending.  The Company engages in commercial and multi-family real estate lending in its primary market area and surrounding areas and has purchased whole loan and participation interests in loans from other financial institutions.  The purchased loans and loan participation interests are generally secured by properties located in the Midwest and West.
 
The Company’s commercial and multi-family real estate loan portfolio is secured primarily by apartment buildings, office buildings, and hotels.  Commercial and multi-family real estate loans generally have terms that do not exceed 20 years, have loan-to-value ratios of up to 80% of the appraised value of the security property, and are typically secured by personal guarantees of the borrowers.  The Company has a variety of rate adjustment features and other terms in its commercial and multi-family real estate loan portfolio.  Commercial and multi-family real estate loans provide for a margin over a number of different indices.  In underwriting these loans, the Company currently analyzes the financial condition of the borrower, the borrower’s credit history, and the reliability and predictability of the cash flow generated by the property securing the loan.  Appraisals on properties securing commercial real estate loans originated by the Company are performed by independent appraisers.
 
Commercial and multi-family real estate loans generally present a higher level of risk than loans secured by one- to four-family residences.  This greater risk is due to several factors, including the concentration of principal in a limited number of loans and borrowers, the effect of general economic conditions on income producing properties and the increased difficulty of evaluating and monitoring these types of loans.  Furthermore, the repayment of loans secured by commercial and multi-family real estate is typically dependent upon the successful operation of the related real estate project.  If the cash flow from the project is reduced (for example, if leases are not obtained or renewed, or a bankruptcy court modifies a lease term, or a major tenant is unable to fulfill its lease obligations), the borrower’s ability to repay the loan may be impaired.
 
Agricultural Lending.  The Company originates loans to finance the purchase of farmland, livestock, farm machinery and equipment, seed, fertilizer and other farm related products.  Agricultural operating loans are originated at either an adjustable or fixed rate of interest for up to a one year term or, in the case of livestock, upon sale.  Most agricultural operating loans have terms of one year or less.  Such loans provide for payments of principal and interest at least annually or a lump sum payment upon maturity if the original term is less than one year.  Loans secured by agricultural machinery are generally originated as fixed-rate loans with terms of up to seven years.
 
Agricultural real estate loans are frequently originated with adjustable rates of interest.  Generally, such loans provide for a fixed rate of interest for the first one to five years, which then balloon or adjust annually thereafter.  In addition, such loans generally amortize over a period of ten to 20 years.  Adjustable-rate agricultural real estate loans provide for a margin over the yields on the corresponding U.S. Treasury security or prime rate.  Fixed-rate agricultural real estate loans generally have terms up to five years.  Agricultural real estate loans are generally limited to 75% of the value of the property securing the loan.
 
 
Agricultural lending affords the Company the opportunity to earn yields higher than those obtainable on one- to four-family residential lending.  Nevertheless, agricultural lending involves a greater degree of risk than one- to four-family residential mortgage loans because of the typically larger loan amount.  In addition, payments on loans are dependent on the successful operation or management of the farm property securing the loan or for which an operating loan is utilized.  The success of the loan may also be affected by many factors outside the control of the farm borrower.
 
Weather presents one of the greatest risks as hail, drought, floods, or other conditions, can severely limit crop yields and thus impair loan repayments and the value of the underlying collateral.  This risk can be reduced by the farmer with a variety of insurance coverages which can help to ensure loan repayment.  Government support programs and the Company generally require that farmers procure crop insurance coverage.  Grain and livestock prices also present a risk as prices may decline prior to sale resulting in a failure to cover production costs.  These risks may be reduced by the farmer with the use of futures contracts or options to mitigate price risk.  The Company frequently requires borrowers to use future contracts or options to reduce price risk and help ensure loan repayment.  Another risk is the uncertainty of government programs and other regulations.  During periods of low commodity prices, the income from government programs can be a significant source of cash to make loan payments and if these programs are discontinued or significantly changed, cash flow problems or defaults could result.  Finally, many farms are dependent on a limited number of key individuals upon whose injury or death may result in an inability to successfully operate the farm.
 
Consumer Lending- Retail Bank.  The Retail Bank offers a variety of secured consumer loans, including home equity, home improvement, automobile, boat and loans secured by savings deposits.  In addition, the Retail Bank offers other secured and unsecured consumer loans.  The Retail Bank currently originates most of its consumer loans in its primary market area and surrounding areas.  The Retail Bank originates consumer loans on both a direct and indirect basis.
 
The largest component of the Retail Bank’s consumer loan portfolio consists of home equity loans and lines of credit.  Substantially all of the Retail Bank’s home equity loans and lines of credit are secured by second mortgages on principal residences.  The Retail Bank will lend amounts which, together with all prior liens, typically may be up to 100% of the appraised value of the property securing the loan.  Home equity loans and lines of credit generally have maximum terms of five years.
 
The Retail Bank primarily originates automobile loans on a direct basis, but also originates indirect automobile loans on a very limited basis.  Direct loans are loans made when the Retail Bank extends credit directly to the borrower, as opposed to indirect loans, which are made when the Retail Bank purchases loan contracts, often at a discount, from automobile dealers which have extended credit to their customers.  The Retail Bank’s automobile loans typically are originated at fixed interest rates with terms up to 60 months for new and used vehicles.  Loans secured by automobiles are generally originated for up to 80% of the N.A.D.A. book value of the automobile securing the loan.
 
Consumer loan terms vary according to the type and value of collateral, length of contract and creditworthiness of the borrower.  The underwriting standards employed by the Company for consumer loans include an application, a determination of the applicant’s payment history on other debts and an assessment of ability to meet existing obligations and payments on the proposed loan.  Although creditworthiness of the applicant is a primary consideration, the underwriting process also includes a comparison of the value of the security, if any, in relation to the proposed loan amount.
 
Consumer loans may entail greater credit risk than do residential mortgage loans, particularly in the case of consumer loans which are unsecured or are secured by rapidly depreciable assets, such as automobiles or recreational equipment.  In such cases, any repossessed collateral for a defaulted consumer loan may not provide an adequate source of repayment of the outstanding loan balance as a result of the greater likelihood of damage, loss or depreciation.  In addition, consumer loan collections are dependent on the borrower’s continuing financial stability, and thus are more likely to be affected by adverse personal circumstances.  Furthermore, the application of various federal and state laws, including bankruptcy and insolvency laws, may limit the amount which can be recovered on such loans.
 
 
Consumer Lending- Meta Payment Systems (MPS).  MPS offers credit products on a nationwide basis in the following categories (1) sponsorship lending and (2) portfolio lending.  In a sponsorship lending model, MPS typically originates loans and sells (without recourse) the resulting receivables to third party investors.  In portfolio lending, the Company retains some or all receivables and relies on the borrower as the underlying source of repayment.
 
Consumer loan collections are dependent on the borrower’s continuing financial stability, and thus are more likely to be affected by adverse personal circumstances.
 
The Company monitors concentrations of credit that may naturally occur and may take the form of a large volume of related loans to an individual, a specific industry, a geographic location or an occupation.
 
Commercial Business Lending.  The Company also originates commercial business loans.  Most of the Company’s commercial business loans have been extended to finance local and regional businesses and include short-term loans to finance machinery and equipment purchases, inventory and accounts receivable.  Commercial loans also involve the extension of revolving credit for a combination of equipment acquisitions and working capital in expanding companies.
 
The maximum term for loans extended on machinery and equipment is based on the projected useful life of such machinery and equipment.  Generally, the maximum term on non-mortgage lines of credit is one year.  The loan-to-value ratio on such loans and lines of credit generally may not exceed 80% of the value of the collateral securing the loan.  The Company’s commercial business lending policy includes credit file documentation and analysis of the borrower’s character, capacity to repay the loan, the adequacy of the borrower’s capital and collateral as well as an evaluation of conditions affecting the borrower.  Analysis of the borrower’s past, present and future cash flows is also an important aspect of the Company’s current credit analysis.  Nonetheless, such loans are believed to carry higher credit risk than more traditional investments.
 
Unlike residential mortgage loans, which generally are made on the basis of the borrower’s ability to make repayment from his or her employment and other income and which are secured by real property whose value tends to be more easily ascertainable, commercial business loans typically are made on the basis of the borrower’s ability to make repayment from the cash flow of the borrower’s business.  As a result, the availability of funds for the repayment of commercial business loans may be substantially dependent on the success of the business itself (which, in turn, is likely to be dependent upon the general economic environment).  The Company’s commercial business loans are usually, but not always, secured by business assets and personal guarantees.  However, the collateral securing the loans may depreciate over time, may be difficult to appraise and may fluctuate in value based on the success of the business.  Commercial business loans have been a declining percentage of the Company’s loan portfolio since 2005.
 
Classified Assets.  Federal regulations provide for the classification of loans and other assets such as debt and equity securities considered by the Office of Thrift Supervision (the “OTS”) to be of lesser quality as “substandard,” “doubtful” or “loss.”  An asset is considered “substandard” if it is inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any.  “Substandard” assets include those characterized by the “distinct possibility” that the savings association will sustain “some loss” if the deficiencies are not corrected.  Assets classified as “doubtful” have all of the weaknesses inherent in those classified “substandard,” with the added characteristic that the weaknesses present make “collection or liquidation in full,” on the basis of currently existing facts, conditions, and values, “highly questionable and improbable.”  Assets classified as “loss” are those considered “uncollectible” and of such minimal value that their continuance as assets without the establishment of a specific loss reserve is not warranted. 
 
 
When assets are classified as either substandard or doubtful, the Bank may establish general or specific allowances for loan losses in an amount deemed prudent by management.  General allowances represent loss allowances which have been established to recognize the inherent risk associated with lending activities, but which, unlike specific allowances, have not been allocated to particular problem assets.  When assets are classified as “loss,” the Bank is required either to establish a specific allowance for losses equal to 100% of that portion of the asset so classified or to charge-off such amount.  The Bank’s determinations as to the classification of their assets and the amount of their valuation allowances are subject to review by their regulatory authorities, who may order the establishment of additional general or specific loss allowances.
 
Past due loans at March 31, 2011 and September 30, 2010 are as follows:

 
 
30-59 Days
Past Due
   
60-89 Days
Past Due
   
Greater Than
90 Days
   
Total Past
Due
   
Current
   
Total Loans
Receivable
   
Loans > 90 Days
and Accruing
 
March 31, 2011
                                         
Residential 1-4 Family
  $ 57     $ 128     $ 187     $ 372     $ 35,962     $ 36,334     $ 80  
Commercial Real Estate and Multi Family
    773             15,427       16,200       184,170       200,370       7,540  
Agricultural Real Estate
          657       929       1,586       17,708       19,294        
Consumer
    13       16       43       72       38,794       38,866       43  
Commercial Operating
                61       61       14,878       14,939        
Agricultural Real Operating
    794                   794       24,228       25,022        
Total
  $ 1,637     $ 801     $ 16,647     $ 19,085     $ 315,740     $ 334,825     $ 7,663  
                                                         
September 30, 2010
                                                       
                                                         
Residential 1-4 Family
  $ 192     $ 9     $ 443     $ 644     $ 39,570     $ 40,214     $ 404  
Commercial Real Estate and Multi Family
    3,900       746       4,394       9,040       195,780       204,820       257  
Agricultural Real Estate
                2,196       2,196       23,700       25,896        
Consumer
    192       38       124       354       47,759       48,113       124  
Commercial Operating
    329             202       531       19,178       19,709        
Agricultural Real Operating
                400       400       32,128       32,528        
Total
  $ 4,613     $ 793     $ 7,759     $ 13,165     $ 358,115     $ 371,280     $ 785  
 
 
Impaired loans at March 31, 2011 and September 30, 2010 are as follows:
                               
   
Recorded
Balance
   
Unpaid Principal
Balance
   
Specific
Allowance
   
Average Investment
in Impaired Loans
   
Interest Income
Recognized
 
March 31, 2011
                             
                               
Loans without a specific valuation allowance                              
Residential 1-4 Family
  $ 1,219     $ 1,219     $     $ 597     $ 126  
Commercial Real Estate and Multi Family
    25,500       25,500             18,285       303  
Agricultural Real Estate
    2,406       2,406             4,025       186  
Consumer
    485       485             359       5  
Commercial Operating
    887       887             775       12  
Agricultural Real Operating
    6,833       6,833             8,062       79  
Total
  $ 37,330     $ 37,330     $     $ 32,103     $ 711  
Loans with a specific valuation allowance                                        
Residential 1-4 Family
  $     $     $     $ 6     $  
Commercial Real Estate and Multi Family
    16,228       21,630       1,410       10,067       442  
Agricultural Real Estate
    1,364       1,364       14       1,259        
Consumer
    96       142       39       280       1  
Commercial Operating
    152       167       69       697       2  
Agricultural Real Operating
                      69        
Total
  $ 17,840     $ 23,303     $ 1,532     $ 12,378     $ 445  
                                         
September 30, 2010
                                       
                                         
Loans without a specific valuation allowance                                        
Residential 1-4 Family
  $ 849     $ 849     $     $ 510     $ 101  
Commercial Real Estate and Multi Family
    11,878       11,878             13,419       166  
Agricultural Real Estate
    4,297       4,297             4,455       272  
Consumer
    316       316             512       3  
Commercial Operating
    818       818             1,175       6  
Agricultural Real Operating
    8,452       8,452             6,801       310  
Total
  $ 26,610     $ 26,610     $     $ 26,872     $ 858  
Loans with a specific valuation allowance                                         
Residential 1-4 Family
  $     $     $     $ 48     $  
Commercial Real Estate and Multi Family
    10,030       15,578       827       9,772       60  
Agricultural Real Estate
    3,050       3,050       81       626        
Consumer
    448       448       13       325       3  
Commercial Operating
    390       390       101       1,284       2  
Agricultural Real Operating
                      1,140        
Total
  $ 13,918     $ 19,466     $ 1,022     $ 13,195     $ 65  

 
Troubled debt restructured loans at March 31, 2011 and September 30, 2010 are as follows:
 
      March 31, 2011       September 30, 2010  
     
Number of
Loans
     
Pre-Modification
Outstanding
Recorded Balance
     
Post-Modification
Outstanding
Recorded Balance
     
Number of
Loans
     
Pre-Modification
Outstanding
Recorded Balance
     
Post-Modification
Outstanding
Recorded Balance
 
                                     
Residential 1-4 Family
    1     $ 43     $ 43       1     $ 45     $ 45  
Commercial Real Estate and Multi Family
    5       3,910       3,910       2       377       377  
Agricultural Real Estate
                                   
Consumer
                                   
Commercial Operating
    1       34       49                    
Agricultural Real Operating
                                   
 
NOTE 3.  ALLOWANCE FOR LOAN LOSSES
 
At March 31, 2011, the Company’s allowance for loan losses was $4.7 million, a decrease of $0.5 million from $5.2 million at September 30, 2010.  During the six months ended March 31, 2011 the Company recorded a provision for loan losses of $0.2 million. 
 
During the six months ended March 31, 2011, the Company recorded a retail bank provision in the amount of $0.3 million due to increases in the general reserves and in the historical loss rates for commercial real estate and multi-family loans.
 
During the three months ended March 31, 2011, the Company recorded a provision for loan losses in the amount of $0.2 million, consisting of a negative provision of $0.1 million related to the discontinuance of the MPS iAdvance loan program and a provision of $0.3 million primarily related to increases in non-performing loans.  The Company’s total net charge-offs for the three and six months ended March 31, 2011 were $0.2 million and $0.7 million, respectively.  Further discussion of this change in the allowance is included in “Financial Condition - Non-performing Assets and Allowance for Loan Losses” in Management’s Discussion and Analysis of Financial Condition and Results of Operations.
 
The Company establishes its provision for loan losses, and evaluates the adequacy of its allowance for loan losses based upon a systematic methodology consisting of a number of factors including, among others, historic loss experience, the overall level of classified assets and non-performing loans, the composition of its loan portfolio and the general economic environment within which the Company and its borrowers operate.
 
Management closely monitors economic developments both regionally and nationwide, and considers these factors when assessing the adequacy of its allowance for loan losses.
 
NOTE 4.  EARNINGS PER COMMON SHARE (“EPS”)
 
Basic EPS is computed by dividing income (loss) available to common shareholders (the numerator) by the weighted average number of common shares outstanding (the denominator) during the period. Shares issued during the period and shares reacquired during the period are weighted for the portion of the period that they were outstanding.  Diluted EPS shows the dilutive effect of additional common shares issuable pursuant to stock option agreements.
 
 
A reconciliation of the income and common stock share amounts used in the computation of basic and diluted EPS for the three and six months ended March 31, 2011 and 2010 is presented below.
 
Three Months Ended March 31,
 
2011
   
2010
 
(Dollars in Thousands, Except Share and Per Share Data)
           
             
Earnings
           
Net Income
  $ 2,747     $ 5,174  
                 
Basic EPS
               
Weighted average common shares outstanding
    3,115,640       2,942,383  
Less weighted average unallocated ESOP and nonvested shares
    (1,667 )     (3,334 )
Weighted average common shares outstanding
    3,113,973       2,939,049  
                 
Earnings Per Common Share
               
Basic
  $ 0.88     $ 1.76  
                 
Diluted EPS
               
Weighted average common shares outstanding for basic earnings per common share
    3,113,973       2,939,049  
Add dilutive effect of assumed exercises of stock options, net of tax benefits
    1,896       33,710  
Weighted average common and dilutive potential common shares outstanding
    3,115,869       2,972,759  
                 
Earnings Per Common Share
               
Diluted
  $ 0.88     $ 1.74  
                 
Six Months Ended March 31,
   2011      2010  
(Dollars in Thousands, Except Share and Per Share Data)
               
                 
Earnings
               
Net Income
  $ 3,468     $ 6,366  
                 
Basic EPS
               
Weighted average common shares outstanding
    3,113,756       2,788,866  
Less weighted average unallocated ESOP and nonvested shares
    (1,667 )     (3,334 )
Weighted average common shares outstanding
    3,112,089       2,785,532  
                 
Earnings Per Common Share
               
Basic
  $ 1.11     $ 2.29  
                 
Diluted EPS
               
Weighted average common shares outstanding for basic earnings per common share
    3,112,089       2,785,532  
Add dilutive effect of assumed exercises of stock options, net of tax benefits
          36,630  
Weighted average common and dilutive potential common shares outstanding
    3,112,089       2,822,162  
                 
Earnings Per Common Share
               
Diluted
  $ 1.11     $ 2.26  
 
 
Stock options totaling 364,478 and 364,907 were not considered in computing diluted EPS for the three and six months ended March 31, 2011, respectively, because they were not dilutive.  Stock options totaling 363,464 and 348,014 were not considered in computing diluted EPS for the three and six months ended March 31, 2010, respectively, because they were not dilutive.  The calculation of the diluted EPS for the six months ended March 31, 2011 does not reflect the assumed exercise of 6,028 stock options because the effect would have been anti-dilutive for the period. 
 
NOTE 5.  SECURITIES
 
The amortized cost, gross unrealized gains and losses and estimated fair values of available for sale securities at March 31, 2011 and September 30, 2010 are presented below.
 
 
 
AMORTIZED
COST
   
GROSS
UNREALIZED
GAINS
   
GROSS
UNREALIZED
(LOSSES)
   
FAIR
VALUE
 
         
(Dollars in Thousands)
       
March 31, 2011
                       
Debt securities
                       
Trust preferred and corporate securities
  $ 24,971     $ 150     $ (5,758 )   $ 19,363  
Obligations of states and political subdivisions
    4,460       93       (80 )     4,473  
Mortgage-backed securities
    596,885       7,254       (2,186 )     601,953  
Total debt securities
  $ 626,316     $ 7,497     $ (8,024 )   $ 625,789  
                                 
 
 
AMORTIZED
COST
   
GROSS
UNREALIZED
GAINS
   
GROSS
UNREALIZED
(LOSSES)
   
FAIR
VALUE
 
           
(Dollars in Thousands)
         
September 30, 2010
                               
Debt securities
                               
Trust preferred and corporate securities
  $ 25,466     $ 7     $ (7,922 )   $ 17,551  
Obligations of states and political subdivisions
    3,769       155       (8 )     3,916  
Mortgage-backed securities
    475,026       10,671       (312 )     485,385  
Total debt securities
  $ 504,261     $ 10,833     $ (8,242 )   $ 506,852  

 
Gross unrealized losses and fair value, aggregated by investment category and length of time that individual securities have been in continuous unrealized loss position at March 31, 2011 and September 30, 2010 are as follows:
 
 
LESS THAN 12 MONTHS
 
OVER 12 MONTHS
 
TOTAL
 
 
Fair
Value
 
Unrealized
(Losses)
 
Fair
Value
 
Unrealized
(Losses)
 
Fair
Value
 
Unrealized
(Losses)
 
 
(Dollars in Thousands)
 
March 31, 2011
                                   
Debt securities
                                   
Trust preferred and corporate securities
  $     $     $ 19,063     $ (5,758 )   $ 19,063     $ (5,758 )
Obligations of states and political subdivisions
    1,836       (80 )               $ 1,836     $ (80 )
Mortgage-backed securities
    213,377       (2,186 )                 213,377       (2,186 )
Total debt securities
  $ 215,213     $ (2,266 )   $ 19,063     $ (5,758 )   $ 234,276     $ (8,024 )

   
LESS THAN 12 MONTHS
   
OVER 12 MONTHS
   
TOTAL
 
 
 
Fair
Value
   
Unrealized
(Losses)
   
Fair
Value
   
Unrealized
(Losses)
   
Fair
Value
   
Unrealized
(Losses)
 
   
(Dollars in Thousands)
 
September 30, 2010
                                   
Debt securities
                                   
Trust preferred and corporate securities
  $     $     $ 17,551     $ (7,922 )   $ 17,551     $ (7,922 )
Obligations of states and political subdivisions
    1,110       (8 )                 1,110       (8 )
Mortgage-backed securities
    67,227       (312 )                 67,227       (312 )
Total debt securities
  $ 68,337     $ (320 )   $ 17,551     $ (7,922 )   $ 85,888     $ (8,242 )
 
The Company’s management reviews the status and potential other than temporary impairment of the trust preferred securities on a monthly basis.  In its review, management discusses duration of unrealized losses and reviews credit rating changes.  Other factors, but not necessarily all, considered are: that the risk of loss is minimized and easier to determine due to the single-issuer, rather than pooled, nature of the securities, the condition of the five banks listed, and whether there have been any payment deferrals or defaults to-date.  Such factors are subject to change over time.
 
At March 31, 2011, the investment portfolio included securities with current unrealized losses which have existed for longer than one year.  All of these securities are considered to be acceptable credit risks.  Because the declines in fair value were due to changes in market interest rates, not in estimated cash flows, no other-than-temporary impairment was recorded at March 31, 2011.  In addition, the Company has the intent and ability to hold these investment securities for a period of time sufficient to allow for an anticipated recovery.
 
NOTE 6.  COMMITMENTS AND CONTINGENCIES
 
At March 31, 2011 and September 30, 2010, the Company had outstanding commitments to originate and purchase loans and unused lines of credit totaling $35.2 million and $37.8 million, respectively.  It is expected that outstanding loan commitments will be funded with existing liquid assets.  At March 31, 2011, the Company had no commitments to purchase or sell securities available for sale.
 
 
Legal Proceedings
 
Lawsuits against MetaBank involving the sale of purported MetaBank certificates of deposit continue to be addressed.  In all, nine cases have been filed to date, and of those nine, three have been dismissed, and four have been settled for payments that the Company deemed reasonable under the circumstances, including the costs of litigation.  Of the two remaining cases, one is a class action case.  On May 5, 2010, in that class action, Guardian Angel Credit Union v. MetaBank et al., Case No. 08-cv-261-PB (USDC, District of NH), the court granted the plaintiff’s motion to certify the class.  Additionally, a lawsuit relating to this matter has been filed by Airline Pilots Assoc Federal Credit Union in the Iowa District court for Polk County, Case No. CL-118792.  The underlying matter was first disclosed in the Company’s quarterly report for the period ended December 31, 2007, which stated that an employee of the Bank had sold fraudulent CDs for her own benefit.  The unauthorized and illegal actions of the employee have since prompted a number of demands and lawsuits seeking recovery on the fraudulent CDs to be filed against the Bank, which have been disclosed in subsequent filings.  The employee was prosecuted, convicted and, on June 2, 2010, sentenced to more than seven years in federal prison and ordered to pay more than $4 million in restitution.  Notwithstanding the nature of her crimes, which were unknown by the Bank and its management, plaintiffs in the two remaining cases seek to impose liability on the Bank under a number of legal theories with respect to the remaining $3.6 million of fraudulent CDs that were issued by the former employee.  The Bank and its insurer, which has assumed defense of the action and which is advancing defense costs subject to a reservation of rights, continue to vigorously contest liability in the remaining actions.  The Company’s estimate of a range of possible losses is approximately $0 to $0.4 million as of the filing date of this report.
 
Cedar Rapids Bank & Trust Company v MetaBank, Case No. LACV007196.  In a separate matter, on November 3, 2009, Cedar Rapids Bank & Trust Company (“CRBT”) filed a Petition against MetaBank in the Iowa District Court in and for Linn County claiming an unspecified amount of money damages against MetaBank arising from CRBT’s participation in loans originated by MetaBank to companies owned or controlled by Dan Nelson.  The complaint states that the Nelson companies eventually filed for bankruptcy and the loans, including CRBT’s portion, were not fully repaid.  Under a variety of theories, CRBT claims that MetaBank had material negative information about Dan Nelson, his companies and the loans that it did not share with CRBT prior to CRBT taking a participation interestMetaBank believes that CRBT’s loss of principal was limited to approximately $0.2 million, and in any event intends to vigorously defend the case.   The Company’s estimate of a range of losses is approximately $0 to $0.2 million as of the filing date of this report.
 
In re Meta Financial Group, Inc., Securities Litigation, No. 10-4108-MWB.  In October and November, 2010, former stockholders Thirumalesh Bhat and Alaa M. Elgaouni filed separate purported class action lawsuits in the United States District Court for the Northern District of Iowa against the Company and  certain of its officers alleging violations of certain federal securities laws.  The lawsuits, which purport to be brought on behalf of those who purchased the Company's stock between May 14, 2009 and October 15, 2010, allege that the Company and the named officers violated Sections 10(b) and 20(a) of the Securities Exchange Act and SEC Rule 10b-5 in connection with certain allegedly false and misleading public statements allegedly made during this period by the Company and its officers.  On December 15, 2010, Mr. Bhat voluntarily dismissed his complaint.  In the remaining matter, renamed by the Court as In re Meta Financial Group, Inc., Securities Litigation, former stockholder Eden Partnership was named lead plaintiff on January 12, 2011.  On April 11, 2011 Defendants moved to dismiss all claims against them.  Briefing on Defendants' motion is expected to be complete by May 30, 2011 and a ruling by the Court on Defendants' motion to dismiss is expected some time thereafter.  All discovery is stayed during pendency of Defendants' motion to dismiss pursuant to provisions of the Private Securities Litigation Reform Act of 1995. The complaint does not specify an amount of damages sought. The Company denies the allegations in the complaint and intends to vigorously pursue its defense.  An estimate of the Company’s possible loss cannot be made because of the early stage of the litigation.
 
 
There have been three lawsuits recently filed in 2011 concerning automated teller machines sponsored by MetaBank, each of which involves claims that a notification required to be placed upon an automated teller machine was absent on a specific date, in violation of Regulation E of the Electronic Fund Transfer Act:  Nicholas Martin, on behalf of himself and a class, v. Automated Financial, LLC, MetaBank, and Does 1-5, Case No. 1:11-cv-00525, filed in the United States District Court for the Northern District of Illinois; Ulysse Louisma, individually and on behalf of all others similarly situated, v. Automated Financial, LLC, and MetaBank, d/b/a Meta Payment Systems, a division of MetaBank, Case No. 1:11-cv-02104, filed in the United States District Court for the Northern District of Illinois; and Jordan Rosenfeld, individually and on behalf of all others similarly situated, v. MetaBank, Meta Payment Systems, and Does 1-10, inclusive, Case No. 3:11-cv-00779-W, filed in the United States District Court for the Southern District of California. The Martin case has already been dismissed voluntarily by the Plaintiff.  The Company denies liability in the Louisma and Rosenfeld matters, and will contest these lawsuits with the ATM operators, Automated Financial LLC (in the Louisma matter) and Swipe USA, LLC (in the Rosenfeld matter), which are each obligated to indemnify the Company for losses, costs and expenses in these matters.  The Company’s possible loss cannot be estimated at this stage of the litigation because the extent of the Company’s indemnification by Automated Financial, LLC is unknown.
 
Patrick Finn and Light House Management Group, Inc. as Receiver for First United Funding, LLC and Corey N. Johnson v. MetaBank etal, Case 5:11-cv-04041.  On May 4, 2011, Patrick Finn and Light House Management Group, Inc. as Receivers for First United Funding, LLC and Corey N. Johnson (“Receivers”) filed a Complaint against MetaBank in the United States District Court for the Northern District of Iowa requesting judgment avoiding approximately $1.5 million of transfers that allegedly resulted in a profit to MetaBank arising from MetaBank’s participation in loans originated by First United Funding, LLC.  Similar complaints have been filed by the Receivers against other lenders who purchased participation interests in the same or similar loans originated by First United Funding, LLC.  The complaint states that First United Funding, LLC and Corey N. Johnston were involved in a criminal enterprise to defraud creditors.  Under a variety of theories, Receivers claim that loan repayments to MetaBank constitute fraudulent transfers and MetaBank was unjustly enriched to the detriment of these creditorsMetaBank intends to vigorously defend the case.   An estimate of the Company’s possible loss cannot be made as of the filing date because of the early stage of the dispute.
  
See Note 12 – OTS Supervisory Directive and Related Matters and Item 1. “Business – Bank Supervision and Regulation – OTS Supervisory Directives and Related Matters” of our Annual Report on Form 10-K for the year ended September 30, 2010 for a discussion of existing OTS enforcement matters and future corrective actions.  As discussed in Note 12, because of the stage of discussions with the OTS, an estimate of the Company’s possible loss cannot be made as of the filing date of this report.
 
The Bank utilizes various third parties for, among other things, its processing needs, both with respect to standard bank operations and with respect to its MPS division.  MPS was notified in April 2008 by one of the processors that the processor’s computer system had been breached, which led to the unauthorized load and spending of funds from Bank-issued cards.  The Bank believes the amount in question to be approximately $2.0 million.  The processor and program manager both have agreements with the Bank to indemnify it for any losses as a result of such unauthorized activity, and the matter is reflected as such in its financial statements.  In addition, the Bank has given notice to its own insurer.  The Bank has been notified by the processor that its insurer has denied the claim filed.  The Bank made demand for payment and filed a demand for arbitration to recover the unauthorized loading and spending amounts and certain damages.  The Bank has settled its claim with the program manager, and has received an arbitration award against the processor.  That arbitration has been entered as a judgment in the State of South Dakota, which judgment has been transferred to Florida for garnishment proceedings against the processor and its insurer.  The Company’s possible loss cannot be estimated because of the uncertainty of the amount of indemnification which may be collected by the Company and the Company’s insurance coverage.
 
Certain corporate clients of an unrelated company named Springbok Services, Inc. requested through counsel a mediation as a means of reaching a settlement in lieu of commencing litigation against MetaBank.  The results of that mediation have not led to a settlement.  These claimants purchased MetaBank prepaid reward cards from Springbok, prior to Springbok’s bankruptcy.  As a result of Springbok’s bankruptcy and cessation of business, some of the rewards cards which had been purchased were never activated or funded.  Counsel for these companies have indicated that they are prepared to assert claims totaling approximately $1.5 million against MetaBank based on principal/agency or failure to supervise theories.  The Company denies liability with respect to these claims.  An estimate of the Company’s possible loss cannot be estimated because of the early stage of the dispute and the extent of the Company’s insurance coverage.
 
Other than the matters set forth above, there are no other new material pending legal proceedings or updates to which the Company or its subsidiaries is a party other than ordinary litigation routine to their respective businesses.
 
NOTE 7. 
STOCK OPTION PLAN
 
The Company maintains the 2002 Omnibus Incentive Plan, which, among other things, provides for the awarding of stock options and nonvested (restricted) shares to certain officers and directors of the Company.  Awards are granted by the Stock Option Committee of the Board of Directors based on the performance of the award recipients or other relevant factors.
 
 
In accordance with ASC 718, compensation expense for share based awards is recorded over the vesting period at the fair value of the award at the time of grant.  The exercise price of options or fair value of nonvested shares granted under the Company’s incentive plans is equal to the fair market value of the underlying stock at the grant date.  The Company assumes no projected forfeitures on its stock based compensation, since actual historical forfeiture rates on its stock based incentive awards has been negligible.
 
A summary of option activity for the six months ended March 31, 2011 is presented below:
 
   
Number
of
Shares
   
Weighted
Average
Exercise
Price
   
Weighted
Average
Remaining
Contractual
Term (Yrs)
   
Aggregate
Intrinsic
Value
 
   
(Dollars in Thousands, Except Share and Per Share Data)
 
                         
Options outstanding, September 30, 2010
    490,993     $ 23.39       6.49     $ 4,579  
Granted
                           
Exercised
                           
Forfeited or expired
    (1,000 )     23.05                  
Options outstanding, March 31, 2011
    489,993     $ 23.39       5.99     $ 210  
                                 
Options exercisable, March 31, 2011
    454,793     $ 23.34       5.97     $ 156  
 
A summary of nonvested share activity for the six months ended March 31, 2011 is presented below:
 
     
Number of
Shares
   
Weighted
Average Fair
Value at Grant
 
(Dollars in Thousands, Except Share and Per Share Data)            
             
Nonvested shares outstanding, September 30, 2010
    1,667     $ 24.43  
Granted
    1,050       31.79  
Vested
    (1,050 )     31.79  
Forfeited or expired
           
Nonvested shares outstanding, March 31, 2011
    1,667     $ 24.43  
 
At March 31, 2011, stock based compensation expense not yet recognized in income totaled $94,000 which is expected to be recognized over a weighted average remaining period of 0.91 years.
 
 
NOTE 8.
SEGMENT INFORMATION
 
An operating segment is generally defined as a component of a business for which discrete financial information is available and whose results are reviewed by the chief operating decision-maker. Operating segments are aggregated into reportable segments if certain criteria are met.  The Company has determined that it has two reportable segments.  The first reportable segment, Traditional Banking, consists of its banking subsidiary, MetaBank.  The Bank operates as a traditional community bank providing deposit, loan and other related products to individuals and small businesses, primarily in the communities where their offices are located.  MPS, the second reportable segment, provides a number of products and services to financial institutions and other businesses.  These products and services include issuance of prepaid debit cards, such as payroll programs, gift card programs, rebate programs, travel programs and tax related programs, sponsorship of ATMs into the debit networks and credit programs and ACH origination services.  The remaining grouping under the caption “All Others” consists of the operations of Meta Financial Group, Inc. and inter-segment eliminations.  Transactions between affiliates, the resulting revenues of which are shown in the intersegment revenue category, are conducted at market prices, meaning prices that would be paid if the companies were not affiliates.  The following tables present segment data for the Company for the three and six months ended March 31, 2011 and 2010, respectively.
 
   
Traditional
Banking
   
Meta Payment
Systems®
   
All Others
   
Total
 
                         
Three Months Ended March 31, 2011
                       
Interest income
  $ 6,568     $ 3,012     $     $ 9,580  
Interest expense
    1,008       40       115       1,163  
Net interest income (loss)
    5,560       2,972       (115 )     8,417  
Provision for loan losses
    300       (86 )           214  
Non-interest income
    1,137       18,320       13       19,470  
Non-interest expense
    5,274       17,875       102       23,251  
Income (loss) before tax
    1,123       3,503       (204 )     4,422  
Income tax expense (benefit)
    431       1,327       (83 )     1,675  
Net income (loss)
  $ 692     $ 2,176     $ (121 )   $ 2,747  
                                 
Inter-segment revenue (expense)
  $ 2,584     $ (2,584 )   $     $  
Total assets
    310,905       870,443       2,055       1,183,403  
Total deposits
    219,460       828,332       (747 )     1,047,045  

   
Traditional
Banking
   
Meta Payment
Systems®
   
All Others
   
Total
 
                         
Three Months Ended March 31, 2010
                       
Interest income
  $ 5,944     $ 4,445     $ (6 )   $ 10,383  
Interest expense
    1,132       136       114       1,382  
Net interest income (loss)
    4,812       4,309       (120 )     9,001  
Provision for loan losses
    2,000       7,478             9,478  
Non-interest income
    483       37,122       31       37,636  
Non-interest expense
    5,044       23,587       235       28,866  
Income (loss) before tax
    (1,749 )     10,366       (324 )     8,293  
Income tax expense (benefit)
    (673 )     3,903       (111 )     3,119  
Net income (loss)
  $ (1,076 )   $ 6,463     $ (213 )   $ 5,174  
                                 
Inter-segment revenue (expense)
  $ 2,577     $ (2,577 )   $     $  
Total assets
    384,032       596,918       960       981,910  
Total deposits
    210,725       570,898       (2,247 )     779,376  
 
 
   
Traditional
Banking
   
Meta Payment
Systems®
   
All Others
   
Total
 
                         
Six Months Ended March 31, 2011
                       
Interest income
  $ 13,164     $ 6,030     $ 6     $ 19,200  
Interest expense
    2,181       87       237       2,505  
Net interest income (loss)
    10,983       5,943       (231 )     16,695  
Provision for loan losses
    300       (114 )           186  
Non-interest income
    2,409       32,344       23       34,776  
Non-interest expense
    12,218       32,360       291       44,869  
Income (loss) before tax
    874       6,041       (499 )     6,416  
Income tax expense (benefit)
    855       2,285       (192 )     2,948  
Net income (loss)
  $ 19     $ 3,756     $ (307 )   $ 3,468  
                                 
Inter-segment revenue (expense)
  $ 4,888     $ (4,888 )   $     $  
Total assets
    310,905       870,443       2,055       1,183,403  
Total deposits
    219,460       828,332       (747 )     1,047,045  

   
Traditional
Banking
   
Meta Payment
Systems®
   
All Others
   
Total
 
                         
Six Months Ended March 31, 2010
                       
Interest income
  $ 11,608     $ 7,825     $ 14     $ 19,447  
Interest expense
    2,668       216       243       3,127  
Net interest income (loss)
    8,940       7,609       (229 )     16,320  
Provision for loan losses
    3,100       11,069             14,169  
Non-interest income
    2,975       56,644       55       59,674  
Non-interest expense
    9,825       41,443       401       51,669  
Income (loss) before tax
    (1,010 )     11,741       (575 )     10,156  
Income tax expense (benefit)
    (389 )     4,377       (198 )     3,790  
Net income (loss)
  $ (621 )   $ 7,364     $ (377 )   $ 6,366  
                                 
Inter-segment revenue (expense)
  $ 4,952     $ (4,952 )   $     $  
Total assets
    384,032       596,918       960       981,910  
Total deposits
    210,725       570,898       (2,247 )     779,376  
 
 
The following tables present gross profit data for MPS for the three and six months ended March 31, 2011 and 2010, respectively.

Three Months Ended March 31,
 
2011
   
2010
 
             
Interest income
  $ 3,012     $ 4,445  
Interest expense
    40       136  
Net interest income
    2,972       4,309  
                 
Provision for loan losses
    (86 )     7,478  
Non-interest income
    18,320       37,122  
Card processing expense
    8,120       14,095  
Gross Profit
    13,258       19,858  
                 
Other non-interest expense
    9,755       9,492  
                 
Income from operations before tax
    3,503       10,366  
Income tax expense
    1,327       3,903  
Income from operations
  $ 2,176     $ 6,463  
 
Six Months Ended March 31,
 
2011
   
2010
 
             
Interest income
  $ 6,030     $ 7,825  
Interest expense
    87       216  
Net interest income
    5,943       7,609  
                 
Provision for loan losses
    (114 )     11,069  
Non-interest income
    32,344       56,644  
Card processing expense
    13,343       22,447  
Gross Profit
    25,058       30,737  
                 
Other non-interest expense
    19,017       18,996  
                 
Income from operations before tax
    6,041       11,741  
Income tax expense
    2,285       4,377  
Income from operations
  $ 3,756     $ 7,364  
 
NOTE 9.
NEW ACCOUNTING PRONOUNCEMENTS
 
In April 2010, FASB issued ASU No. 2010-18, Effect of a Loan Modification When the Loan Is Part of a Pool That Is Accounted for as a Single Asset. As a result of this update, modifications of loans that are accounted for within a pool under Subtopic 310-30 do not result in the removal of those loans from the pool even if the modification of those loans would otherwise be considered a troubled debt restructuring. An entity will continue to be required to consider whether the pool of assets in which the loan is included is impaired if expected cash flows for the pool change. ASU No. 2010-18 is effective for the Company in the first interim period of fiscal 2011 (December 31, 2010) and the annual reporting period beginning September 30, 2011. The Company adopted ASU 2010-18 quarter ended December 31, 2010 with no material impact on the Company’s financial position, results of operation or cash flows.
 
 
In July 2010, FASB issued ASU 2010-20, Disclosures about the Credit Quality of Financing Receivables and the Allowance for Credit Losses (ASC Topic 310). This guidance will expand disclosures by requiring additional disaggregated information related to the current disclosures. It will also require additional disclosures to provide information based on credit quality, past due aging information, trouble debt restructuring information, and significant purchases and sales of financing receivables. ASU 2010-20 is effective for the Company for interim and annual reporting periods ending after December 15, 2010. The Company adopted ASU 2010-20 quarter ended December 31, 2010 with no material impact on the Company’s financial position, results of operation or cash flows.
 
In April 2011, the FASB issued ASU 2011-02, A Creditor’s Determination of Whether a Restructuring Is a Troubled Debt Restructuring (ASC Topic 310), which modifies guidance for identifying restructurings of receivables that constitute a troubled debt restructuring (“TDR”).  Upon adoption, ASU 2011-02 requires retrospective application to all restructurings occurring during 2011 along with disclosure of certain additional information. The ASU is expected to cause more loan modifications to be classified as TDRs and the Company is evaluating its modification programs and practices in light of the new ASU.  The Company will adopt ASU 2011-02 for the interim and annual period ending September 30, 2011.
 
NOTE 10. FAIR VALUE MEASUREMENTS
 
ASC 820, Fair Value Measurements defines fair value, establishes a framework for measuring the fair value of assets and liabilities using a hierarchy system and expands disclosures about fair value measurement.  It clarifies that fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants in the market in which the reporting entity transacts.
 
The fair value hierarchy is as follows:
 
Level 1 Inputs – Valuation is based upon quoted prices for identical instruments traded in active markets that the Company has the ability to access at measurement date.
 
Level 2 Inputs – Valuation is based upon quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in active markets and model-based valuation techniques for which significant assumptions are observable in the market.
 
Level 3 Inputs – Valuation is generated from model-based techniques that use significant assumptions not observable in the market and are used only to the extent that observable inputs are not available.  These unobservable assumptions reflect the Company’s own estimates of assumptions that market participants would use in pricing the asset or liability.  Valuation techniques include use of option pricing models, discounted cash flow models and similar techniques.
 
A description of the valuation methodologies used for instruments measured at fair value, as well as the general classification of such instruments pursuant to the valuation hierarchy, is set forth below.
 
Securities Available for Sale.  Securities available for sale are recorded at fair value on a recurring basis.  Fair value measurement is based upon quoted prices, if available.  If quoted prices are not available, fair values are measured using an independent pricing service.  Level 1 securities include those traded on an active exchange, such as the New York Stock Exchange, as well as U.S. Treasury and other U.S. government and agency securities that are traded by dealers or brokers in active over-the-counter markets.  The Company had no Level 1 securities at March 31, 2011.  Level 2 securities include agency mortgage-backed securities and private collateralized mortgage obligations, municipal bonds and corporate debt securities.
 
 
The following table summarizes the assets of the Company for which fair values are determined on a recurring basis at March 31, 2011.
 
   
Fair Value at March 31, 2011
 
(Dollars in Thousands)
 
Total
   
Level 1
   
Level 2
 
Level 3
 
                         
Investment securities available for sale
  $ 625,789     $     $ 625,789     $  

   
Fair Value at September 30, 2010
 
                         
Investment securities available for sale
  $ 506,852     $     $ 506,852     $  
 
Included in securities available for sale are trust preferred securities as follows:
 
At March 31, 2011
                       
Issuer(1)
 
Book Value
   
Fair Value
   
Unrealized
Gain (Loss)
 
S&P
Credit Rating
 
Moody
Credit Rating
   
(Dollars in Thousands)
       
                         
Key Corp. Capital I
  $ 4,982     $ 3,754     $ (1,228 )
BB
 
Baa3
Huntington Capital Trust II SE
    4,971       3,550       (1,421 )
BB-
 
Ba1
Bank Boston Capital Trust IV(2)
    4,964       3,850       (1,114 )
BB+
 
Baa3
Bank America Capital III
    4,952       3,850       (1,102 )
BB+
 
Baa3
PNC Capital Trust
    4,952       4,059       (893 )
BBB
 
Baa2
                               
Cascade Capital Trust I 144A(3)
    150       300       150        
Total
  $ 24,971     $ 19,363     $ (5,608 )      
 

 
(1)
Trust preferred securities are single-issuance.  There are no known interest deferrals, defaults or excess subordination, except for Cascade Capital Trust I 144A.
(2)
Bank Boston was acquired by Bank of America.
(3)
Security not rated and in deferral of interest.
 
The Company’s management reviews the status and potential impairment of the trust preferred securities on a monthly basis.  In its review, management discusses duration of unrealized losses and reviews credit rating changes.  Other factors, but not necessarily all, considered are:  that the risk of loss is minimized and easier to determine due to the single-issuer, rather than pooled, nature of the securities, the condition of the banks listed, and whether there have been any payment deferrals or defaults to-date.  Such factors are subject to change over time.
 
Foreclosed Real Estate and Repossessed Assets.  Real estate properties and repossessed assets are initially recorded at the lower of cost or fair value less selling costs at the date of foreclosure, establishing a new cost basis.
 
 
Loans.  The Company does not record loans at fair value on a recurring basis.  However, if a loan is considered impaired, an allowance for loan losses is established.  Once a loan is identified as individually impaired, management measures impairment in accordance with ASC 310, Accounting for Creditors for Impairment of a Loan.  When the fair value of the collateral is based on an observable market price or current appraised value, the Company records the impaired loan as non-recurring level 2.
 
The following table summarizes the assets of the Company for which fair values are determined on a non-recurring basis at March 31, 2011.

   
Fair Value at March 31, 2011
 
(Dollars in Thousands)
 
Total
   
Level 1
   
Level 2
   
Level 3
 
                         
Foreclosed Assets, net
  $ 933     $     $ 933     $  
Loans
    17,839                   17,839  
Total
  $ 18,772     $     $ 933     $ 17,839  

   
Fair Value at September 30, 2010
 
(Dollars in Thousands)
 
Total
   
Level 1
   
Level 2
   
Level 3
 
                         
Foreclosed Assets, net
  $ 1,295     $     $ 1,295     $  
Loans
    13,919                   13,919  
Total
  $ 15,214     $     $ 1,295     $ 13,919  
 
The following table discloses the Company’s estimated fair value amounts of its financial instruments.  It is management’s belief that the fair values presented below are reasonable based on the valuation techniques and data available to the Company at March 31, 2011 and September 30, 2010, as more fully described below.  The operations of the Company are man­aged from a going concern basis and not a liquidation basis.  As a result, the ultimate value realized for the finan­cial instruments presented could be substantially different when actually recognized over time through the normal course of operations.  Additionally, a substantial portion of the Company’s inherent value is the Bank’s capitalization and franchise value.  Neither of these components have been given consideration in the presentation of fair values below.
 
 
The following presents the carrying amount and estimated fair value of the financial instruments held by the Company at March 31, 2011 and September 30, 2010.  The information presented is subject to change over time based on a variety of factors.
                         
   
March 31, 2011
   
September 30, 2010
 
   
Carrying
Amount
   
Estimated
Fair Value
   
Carrying
Amount
   
Estimated
Fair Value
 
   
(Dollars in Thousands)
 
Financial assets
                       
Cash and cash equivalents
  $ 158,708     $ 158,708     $ 87,503     $ 87,503  
Securities available for sale
    625,789       625,789       506,852       506,852  
Loans receivable, net
    330,084       338,019       366,045       369,301  
FHLB stock
    5,194       5,194       5,283       5,283  
Accrued interest receivable
    4,447       4,447       4,759       4,759  
                                 
Financial liabilities
                               
Noninterest bearing demand deposits
    847,812       847,812       675,163       675,163  
Interest bearing demand deposits, savings, and money markets
    80,573       80,573       76,219       76,219  
Certificates of deposit
    118,660       120,514       146,072       148,490  
Total deposits
    1,047,045       1,048,899       897,454       899,872  
                                 
Advances from FHLB
    22,000       24,510       22,000       25,563  
Securities sold under agreements to repurchase
    11,787       11,787       8,904       8,904  
Subordinated debentures
    10,310       10,316       10,310       10,294  
Accrued interest payable
    241       241       392       392  
                                 
Off-balance-sheet instruments, loan commitments                        
 
The following sets forth the methods and assumptions used in determining the fair value estimates for the Company’s financial instruments at March 31, 2011 and September 30, 2010.
 
CASH AND CASH EQUIVALENTS
The carrying amount of cash and short-term investments is assumed to approximate the fair value.
 
SECURITIES AVAILABLE FOR SALE
To the extent available, quoted market prices or dealer quotes were used to determine the fair value of securities available for sale.  For those securities which are thinly traded, or for which market data was not available, management estimated fair value using other available data.  The amount of securities for which quoted market prices were not available is not material to the portfolio as a whole.
 
LOANS RECEIVABLE, NET
The fair value of loans is estimated using a historical or replacement cost basis concept (i.e., and entrance price concept).  The fair value of loans was estimated by discounting the future cash flows using the current rates at which similar loans would be made to borrowers with similar credit ratings and for similar remaining maturities.  When using the discounting method to determine fair value, loans were gathered by homogeneous groups with similar terms and conditions and discounted at a target rate at which similar loans would be made to borrowers at March 31, 2011 and September 30, 2010.  In addition, when computing the estimated fair value for all loans, allowances for loan losses have been subtracted from the calculated fair value for consideration of credit quality.
 
 
FEDERAL HOME LOAN BANK (THE “FHLB”) STOCK
The fair value of such stock is assumed to approximate book value since the Company is generally able to redeem this stock at par value.
 
ACCRUED INTEREST RECEIVABLE
The carrying amount of accrued interest receivable is assumed to approximate the fair value.
 
DEPOSITS
The carrying values of non-interest bearing checking deposits, interest bearing checking deposits, savings, and money markets is assumed to approximate fair value, since such deposits are immediately withdrawable without penalty.  The fair value of time certificates of deposit was estimated by discounting expected future cash flows by the current rates offered on certificates of deposit with similar remaining maturities.
 
In accordance with ASC 825, no value has been assigned to the Company’s long-term relationships with its deposit customers (core value of deposits intangible) since such intangible is not a financial instrument as defined under ASC 825.
 
ADVANCES FROM FHLB
The fair value of such advances was estimated by discounting the expected future cash flows using current interest rates at March 31, 2011 and September 30, 2010 for advances with similar terms and remaining maturities.
 
SECURITIES SOLD UNDER AGREEMENTS TO REPURCHASE AND SUBORDINATED
DEBENTURES
The fair value of these instruments was estimated by discounting the expected future cash flows using derived interest rates approximating market at March 31, 2011 and September 30, 2010 over the contractual maturity of such borrowings.
 
ACCRUED INTEREST PAYABLE
The carrying amount of accrued interest payable is assumed to approximate the fair value.
 
LOAN COMMITMENTS
The commitments to originate and purchase loans have terms that are consistent with current market terms.  Accordingly, the Company estimates that the fair values of these commitments are not significant.
 
LIMITATIONS
It must be noted that fair value estimates are made at a specific point in time, based on relevant market information about the financial instrument.  Additionally, fair value estimates are based on existing on- and off-balance sheet financial instruments without attempting to estimate the value of anticipated future business, customer relationships and the value of assets and liabilities that are not considered financial instruments.  These estimates do not reflect any premium or discount that could result from offering the Company’s entire holdings of a particular financial instrument for sale at one time.  Furthermore, since no market exists for certain of the Company’s financial instruments, fair value estimates may be based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments and other factors.  These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with a high level of precision.  Changes in assumptions as well as tax considerations could significantly affect the estimates.  Accordingly, based on the limitations described above, the aggregate fair value estimates are not intended to represent the underlying value of the Company, on either a going concern or a liquidation basis.
 
 
NOTE 11. GOODWILL AND INTANGIBLE ASSETS
 
The changes in the carrying amount of the Company’s goodwill and intangible assets for the six months ended March 31, 2011 and 2010 are as follows:
 
   
Traditional
Banking
Goodwill
   
Meta Payment
Systems®
Patents
   
Meta Payment
Systems®
Other
   
Total
 
         
(Dollars in Thousands)
       
                         
Balance as of September 30, 2010
  $ 1,508     $ 1,078     $ 77     $ 2,663  
                                 
Acquisitions during the period
          112             112  
                                 
Amortizations during the period
                (77 )     (77 )
                                 
Write-offs during the period
    (1,508 )                 (1,508 )
                                 
Balance as of March 31, 2011
  $     $ 1,190     $     $ 1,190  

   
Traditional
Banking
Goodwill
   
Meta Payment
Systems®
Patents
   
Meta Payment
Systems®
Other
   
Total
 
         
(Dollars in Thousands)
       
                         
Balance as of September 30, 2009
  $ 1,508     $ 707     $     $ 2,215  
                                 
Acquisitions during the period
          313       230       543  
                                 
Amortizations during the period
                (38 )     (38 )
                                 
Balance as of March 31, 2010
  $ 1,508     $ 1,020     $ 192     $ 2,720  
 
The Company had no amortizable assets at March 31, 2011 and one amortizable intangible asset recorded at March 31, 2010.
 
The Company tests goodwill and intangible assets for impairment at least annually or more often if conditions indicate a possible impairment.  There was an impairment to goodwill during the three months ended December 31, 2010.  The Company wrote-off $1.5 million of goodwill through the income statement during the three months ended December 31, 2010 due primarily to the decline in the stock price of the Company at that time.
 
NOTE 12.  OTS SUPERVISORY DIRECTIVES AND RELATED MATTERS

As described in the Company’s Form 10-K for the fiscal year ended September 30, 2010, the OTS had issued Supervisory Directives to the Bank based on the OTS’ assessment of the Bank’s third-party relationship risk, enterprise risk management, and rapid growth (in the MPS division) and had also advised that the OTS had determined that the Bank engaged in unfair or deceptive acts or practices in violation of Section 5 of the Federal Trade Commission Act and the OTS Advertising Regulation in connection with the Bank’s operation of the iAdvance line of credit program.
 
 
Related to these enforcement actions, we previously disclosed that the OTS advised the Company and the Bank that the OTS:

 
·
is presently preparing a Cease and Desist Order for presentation to each of the Company and the Bank,

 
·
will require the Bank to reimburse iAdvance customers in an amount to be determined, and

 
·
is currently considering the need to assess civil money penalties against the Bank.

As also previously disclosed, the Company and the Bank have been cooperating with the OTS to correct those aspects of our operations that have been determined by OTS to be deficient, and believe we have made substantial progress. The Company and the Bank are discussing the terms of the Cease and Desist Orders as well as the reimbursement with the OTS in connection with the OTS’ final determinations. If the Company and the Bank enter into Stipulations and Consents to Issuance of Orders to Cease and Desist (the “Cease and Desist Orders"), we expect that the Cease and Desist Orders will include provisions, among others, which will require the Company and the Bank to submit to the OTS various management and compliance plans and programs to address the matters identified in the Supervisory Directives as well as plans for enhancing Company and Bank capital and require OTS non-objection for Company cash dividends, distributions, share repurchases, payments of interest or principal on debt and incurrence of debt. With respect to these future OTS actions, we cannot predict responses by our customers or program managers or whether there will be a material effect on our results of operations or financial condition, although legal and compliance costs of the Company and the Bank have increased and may remain at elevated levels.

By letter dated December 28, 2010, the OTS also directed the Bank not to increase the amount of brokered deposits from the amount it held at December 28, 2010 without the prior written non-objection of the OTS Regional Director. The Bank believes it did not hold any brokered deposits on December 28, 2010, and therefore does not anticipate seeking OTS approval to hold any.  At the direction of the OTS, the Bank has requested the Federal Deposit Insurance Corporation (the “FDIC”) to confirm the Bank’s position that it does not hold any brokered deposits.
 
 
Part I.        Financial Information
Item 2.      Management’s Discussion and Analysis of Financial Condition and Results of Operations
 
META FINANCIAL GROUP, INC®.
AND SUBSIDIARIES
 
FORWARD LOOKING STATEMENTS
 
Meta Financial Group, Inc.®, (“Meta Financial” or “the Company”) and its wholly-owned subsidiary, MetaBank (the “Bank”), may from time to time make written or oral “forward-looking statements,” including statements contained in its filings with the Securities and Exchange Commission (“SEC”), in its reports to stockholders, and in other communications by the Company, which are made in good faith by the Company pursuant to the “safe harbor” provisions of the Private Securities Litigation Reform Act of 1995.
 
These forward-looking statements include statements with respect to the Company’s beliefs, expectations, estimates, and intentions that are subject to significant risks and uncertainties, and are subject to change based on various factors, some of which are beyond the Company’s control.  Such statements address, among others, the following subjects: future operating results; customer retention; loan and other product demand; important components of the Company’s balance sheet and income statements; growth and expansion; new products and services, such as those offered by the Bank or Meta Payment Systems® (“MPS”), a division of the Bank; credit quality and adequacy of reserves; technology; and our employees.  The following factors, among others, could cause the Company’s financial performance to differ materially from the expectations, estimates, and intentions expressed in such forward-looking statements:  the strength of the United States economy in general and the strength of the local economies in which the Company conducts operations; the effects of, and changes in, trade, monetary, and fiscal policies and laws, including interest rate policies of the Board of Governors of the Federal Reserve System (the “Federal Reserve”, the “FRB” or the “Board”), as well as efforts of the United States Treasury in conjunction with bank regulatory agencies to stimulate the economy and protect the financial system; inflation, interest rate, market, and monetary fluctuations; the timely development of and acceptance of new products and services offered by the Company as well as risks (including reputational and litigation) attendant thereto and the perceived overall value of these products and services by users; the risks of dealing with or utilizing third-party vendors; the scope of restrictions and compliance requirements and penalties of enforcement actions that are related to the OTS supervisory directives in August, October and December of 2010 and any other such actions which may be initiated; the impact of changes in financial services’ laws and regulations; technological changes, including but not limited to the protection of electronic files or databases; acquisitions; litigation risk in general, including but not limited to those risks involving the MPS division; the growth of the Company’s business as well as expenses related thereto; changes in consumer spending and saving habits; and the success of the Company at managing and collecting assets of borrowers in default.
 
The foregoing list of factors is not exclusive.  Additional discussions of factors affecting the Company’s business and prospects are contained in the Company’s periodic filings with the SEC.  The Company expressly disclaims any intent or obligation to update any forward-looking statement, whether written or oral, that may be made from time to time by or on behalf of the Company or its subsidiaries.
 
GENERAL
 
The Company, a registered unitary savings and loan holding company, is a Delaware corporation, the principal assets of which are all the issued and outstanding shares of the Bank, a federal savings bank.  Unless the context otherwise requires, references herein to the Company include Meta Financial and the Bank, and all subsidiaries of Meta Financial, direct or indirect, on a consolidated basis.
 
The Company’s stock trades on the NASDAQ Global Market under the symbol “CASH.”
 
 
The following discussion focuses on the consolidated financial condition of the Company and its subsidiaries, at March 31, 2011, compared to September 30, 2010, and the consolidated results of operations for the three and six months ended March 31, 2011 and 2010. This discussion should be read in conjunction with the Company’s consolidated financial statements, and notes thereto, for the year ended September 30, 2010.
 
CORPORATE DEVELOPMENTS AND OVERVIEW
 
MPS 2011 second quarter net income was $2.2 million compared to $6.5 million in the 2010 quarter.  While non-interest income decreased by $18.8 million in 2011, expenses and loan loss provision expense declined by $13.4 million.  The change in this quarter compared to the 2010 quarter was primarily due to the discontinuance of iAdvance in October 2010 and certain income tax-related  programs previously disclosed in our Annual Report on Form 10-K for the year ended September 30, 2010. See Note 12 of the “Notes to Condensed Consolidated Financial Statements,” which is included in Part I. Financial Information of this Report for an update on the OTS Supervisory Directives and Related Matters.
 
The traditional bank segment focuses primarily on establishing lending and deposit relationships with commercial accounts and consumers.  The bank currently operates 12 retail banking branches: in Brookings (1) and Sioux Falls (3), South Dakota, in Des Moines (6) and Storm Lake (2), Iowa.  Retail bank checking balances continued to grow from $42.4 million at March 31, 2010 to $54.5 million, or 29%, at March 31, 2011.  During the six months ended March 31, 2011, the traditional bank segment recognized a goodwill impairment charge of $1.5 million due primarily to the decline in stock price of the Company at that time. The original goodwill asset represented the excess of acquisition costs over the fair value of the net assets acquired in an earlier bank acquisition.  Excluding the charge, the traditional bank net income was $1.6 million for the six months ended March 31, 2011.
 
FINANCIAL CONDITION
 
At March 31, 2011, the Company’s assets grew by $153.6 million, or 14.9%, to $1.2 billion compared to $1.0 billion at September 30, 2010.  The increase in assets was reflected primarily in increases in the Company’s mortgage-backed securities available for sale and to a lesser extent cash and cash equivalents, offset in part by a decrease in the Company’s net loans receivable.
 
Total cash and cash equivalents were $158.7 million at March 31, 2011, an increase of $71.2 million from $87.5 million at September 30, 2010.  The growth primarily was the result of the Company’s additional liquidity due to seasonal deposits generated by MPS from existing programs.  In general, the Company maintains its cash investments in interest-bearing overnight deposits with the FHLB and the FRB.  Federal funds sold deposits may be maintained at the FHLB.  At March 31, 2011, the Company did not have any federal funds sold.
 
The total of mortgage-backed securities and investment securities available for sale increased $118.9 million, or 23.5%, to $625.8 million at March 31, 2011, as purchases exceeded investment maturities, sales, and principal paydowns.  The Company’s portfolio of securities available for sale consists primarily of mortgage-backed securities, which have relatively short expected lives.  During the six month period ended March 31, 2011, the Company purchased $237.7 million of mortgage-backed securities with average lives of five years or less and stated maturities of 30 years or less.
 
The Company’s portfolio of net loans receivable decreased $35.9 million, or 9.8%, to $330.1 million at March 31, 2011.  All loan categories decreased to lower demand in the Company’s markets and a reduction in the level of purchased loans.
 
Goodwill and intangible assets decreased $1.5 million, or 55.3%, to $1.2 million at March 31, 2011.  Based upon the Company’s periodic goodwill impairment testing, it was determined that the Traditional Bank goodwill was impaired.  The Company wrote-off the entire amount of $1.5 million during the first quarter of fiscal 2011 due primarily to the decline in stock price of the Company at that time.
 
 
Other assets increased by $2.4 million, or 22.6%, to $12.8 million at March 31, 2011.  This increase primarily relates to an increase in deferred taxes of $1.5 million resulting from the unfavorable change in unrealized gain on the Company’s securities available for sale portfolio.
 
Total deposits increased $149.6 million, or 16.7%, to $1.0 billion at March 31, 2011.  The Company continues to grow its low- and no-cost deposit portfolio.  Deposits attributable to MPS were up $173.1 million, or 26.4%, at March 31, 2011, as compared to September 30, 2010.  This increase results from growth in prepaid card programs and seasonal activity.  Offsetting the above increases was a $27.4 million decrease in certificates of deposits primarily related to a decrease in public funds.
 
Total borrowings increased $2.9 million, or 7.0%, from $41.2 million at September 30, 2010 to $44.1 million at March 31, 2011 and is primarily due to the growth of deposits.
 
At March 31, 2011, the Company’s shareholders’ equity totaled $72.9 million, up $0.9 million from $72.0 million at September 30, 2010.  The increase was related to net income and was partially offset by an unfavorable change in the accumulated other comprehensive loss on the Company’s securities available for sale portfolio and, to a lesser extent, by the payment of dividends on the Company’s common stock (see “Results of Operations” below).  At March 31, 2011, the Bank continues to exceed all regulatory requirements for classification as a well-capitalized institution.  See “Liquidity and Capital Resources” for further information.
 
Non-performing Assets and Allowance for Loan Losses
 
Generally, when a loan becomes delinquent 90 days or more or when the collection of principal or interest becomes doubtful, the Company will place the loan on a non-accrual status and, as a result of this action, previously accrued interest income on the loan is taken out of current income.  The loan will remain on non-accrual status until the loan has been brought current or until other circumstances occur that provide adequate assurance of full repayment of interest and principal.
 
The Company believes that the level of allowance for loan losses at March 31, 2011 adequately reflects potential risks related to these loans; however, there can be no assurance that all loans will be fully collectible or that the present level of the allowance will be adequate in the future.  See “Allowance for Loan Losses.”
 
The table below sets forth the amounts and categories of non-performing assets in the Company’s portfolio.  Foreclosed assets include assets acquired in settlement of loans.
 
 
   
Non-Performing Assets As Of
 
   
March 31, 2011
   
September 30, 2010
 
 
 
(Dollars in Thousands)
 
Non-Performing Loans
           
             
Non-Accruing Loans:
           
1-4 Family
  $ 107     $ 39  
Commercial & Multi Family
    7,887       4,137  
Agricultural Real Estate
    1,383       2,650  
Consumer
           
Agricultural Operating
          400  
Commercial Business
    95       241  
Total
    9,472       7,467  
                 
Accruing Loans Delinquent 90 Days or More
               
1-4 Family
    80       404  
Commercial & Multi Family
    7,540       257  
Consumer
    43       124  
Total
    7,663       785  
                 
Total Non-Performing Loans
    17,135       8,252  
                 
Other Assets
               
                 
Non-Accruing Investments:
               
Trust Preferred Securities
    150       150  
Total
    150       150  
                 
Foreclosed Assets:
               
1-4 Family
    119       143  
Commercial & Multi Family
    515       606  
Consumer
           
Commercial Business
    299       546  
Total
    933       1,295  
                 
Total Other Assets
    1,083       1,445  
                 
Total Non-Performing Assets
  $ 18,218     $ 9,697  
Total as a Percentage of Total Assets
    1.54 %     0.94 %
 
The increase in non-performing loans primarily relates to four commercial relationships.  Three of the four have now been placed on a revised payment plan and are abiding by those terms.
 
Classified Assets.  Federal regulations provide for the classification of loans and other assets such as debt and equity securities considered by the OTS to be of lessor quality as “substandard”, “doubtful” or “loss.”  An asset is considered “substandard” if it is inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any.  “Substandard” assets include those characterized by the “distinct possibility” that the savings association will sustain “some loss” if the deficiencies are not corrected.  Assets classified as “doubtful” have all the weaknesses inherent in those classified as “substandard,” with the added characteristic that the weaknesses present make “collection or liquidation in full,” on the basis of currently existing facts, conditions and values, “highly questionable and improbable.”  Assets classified as “loss” are those considered “uncollectible” and of such minimal value that their continuance as assets without the establishment of a specific reserve is not warranted.
 
 
When assets are classified as either substandard or doubtful, the Bank may establish general or specific allowances for loan losses in an amount deemed prudent by management.  General allowances represent loss allowances which have been established to recognize the inherent risk associated with lending activities, but which, unlike specific allowances, have not been allocated to particular problem assets.  When assets are classified as “loss,” the Bank is required either to establish a specific allowance for loan losses equal to 100% of that portion of the asset so classified or to charge-off such amount. The Bank’s determination as to the classification of its assets and the amount of its valuation allowances are subject to review by its regulatory authorities, who may overrule the Bank’s classifications and require the establishment of additional general or specific loss allowances.  The discovery of additional information in the future may also affect both the level of classification and the amount of loss allowances.
 
On the basis of management’s review of its loans and other assets, at March 31, 2011, the Company had classified a total of $26.9 million of its assets as substandard, $1.9 million as doubtful and none as loss.  This compares to classifications at September 30, 2010 of $33.1 million as substandard, $2.1 million as doubtful and none as loss.  At March 31, 2011, $10.0 million out of a total of $26.9 million of substandard assets is attributable to the trust preferred securities.  See Note 10 to the Notes to Condensed Consolidated Financial Statements.
 
Allowance for Loan Losses.  The Company establishes its provision for loan losses, and evaluates the adequacy of its allowance for loan losses based upon a systematic methodology consisting of a number of factors including, among others, historic loss experience, the overall level of classified assets and non-performing loans, the composition of its loan portfolio and the general economic environment within which the Company and its borrowers operate.
 
Management closely monitors economic developments both regionally and nationwide, and considers these factors when assessing the adequacy of its allowance for loan losses. While the Company has no direct exposure to sub-prime mortgage loans, management reiterates and restates its concern that developments in the sub-prime mortgage market may have a direct effect on residential real estate prices and an indirect effect on the economy in general.  In addition, the economic slowdown is straining the financial condition of some borrowers.  Management therefore believes that future losses in the residential portfolio may be somewhat higher than historical experience.  Over the past five years, loss rates in the commercial and multi-family real estate market have remained moderate.  Management concludes that future losses in this portfolio may be somewhat higher than recent historical experience, excluding loan losses related to fraud by borrowers.  On the other hand, current trends in agricultural markets continue to be mostly positive.  Higher commodity prices as well as above average yields created positive economic conditions for most farmers in our markets.  Nonetheless, management still expects that future losses in this portfolio, which have been very low, could be higher than recent historical experience.  Management believes the continuing recessionary economic environment may also negatively impact consumers’ repayment capacities.  Additionally, a sizable portion of the Company’s consumer loan portfolio is secured by residential real estate, as discussed above, which is an area to be closely monitored by management in view of its stated concerns.
 
At March 31, 2011, the Company has established an allowance for loan losses totaling $4.7 million compared to $5.2 million at September 30, 2010.  A reduction in balances in the MPS loan portfolio is due to the discontinuance of iAdvance in October 2010 and tax-related loan programs which resulted in a lower allowance for loan loss.  Management believes that, based on a detailed review of the loan portfolio, historic loan losses, current economic conditions, the size of the loan portfolio, and other factors, the current level of the allowance for loan losses at March 31, 2011 reflects an adequate allowance against probable losses from the loan portfolio.  Although the Company maintains its allowance for loan losses at a level that it considers to be adequate, investors and others are cautioned that there can be no assurance that future losses will not exceed estimated amounts, or that additional provisions for loan losses will not be required in future periods.  In addition, the Company’s determination of the allowance for loan losses is subject to review by its regulatory agencies, which can require the establishment of additional general or specific allowances.
 
 
The allowance for loan losses reflects management’s best estimate of probable losses inherent in the portfolio based on currently available information.  In addition to the factors mentioned above, future additions to the allowance for loan losses may become necessary based upon changing economic conditions, increased loan balances or changes in the underlying collateral of the loan portfolio.
 
CRITICAL ACCOUNTING POLICIES
 
The Company’s financial statements are prepared in accordance with GAAP.  The financial information contained within these statements is, to a significant extent, financial information that is based on approximate measures of the financial effects of transactions and events that have already occurred.  Based on its consideration of accounting policies that: (i) involve the most complex and subjective decisions and assessments which may be uncertain at the time the estimate was made, and (ii) different estimates that reasonably could have been used in the current period, or changes in the accounting estimate that are reasonably likely to occur from period to period, would have a material impact on the financial statements, management has identified the policies described below as Critical Accounting Policies.  This discussion and analysis should be read in conjunction with the Company’s financial statements and the accompanying notes presented in Part II, Item 8 “Consolidated Financial Statements and Supplementary Data” of its Annual Report on Form 10-K for the year ended September 30, 2010 and information contained herein.
 
Allowance for Loan Losses.  The Company’s allowance for loan loss methodology incorporates a variety of risk considerations, both quantitative and qualitative, in establishing an allowance for loan loss that management believes is appropriate at each reporting date.  Quantitative factors include the Company’s historical loss experience, delinquency and charge-off trends, collateral values, changes in non-performing loans, and other factors.  Quantitative factors also incorporate known information about individual loans, including borrowers’ sensitivity to interest rate movements.  Qualitative factors include the general economic environment in the Company’s markets, including economic conditions throughout the Midwest and, in particular, the state of certain industries.  Size and complexity of individual credits in relation to loan structure, existing loan policies, and pace of portfolio growth are other qualitative factors that are considered in the methodology.  As the Company adds new products and increases the complexity of its loan portfolio, it will enhance its methodology accordingly.  Management may have reported a materially different amount for the provision for loan losses in the statement of operations to change the allowance for loan losses if its assessment of the above factors were different.  Although management believes the levels of the allowance at both March 31, 2011 and September 30, 2010 were adequate to absorb probable losses inherent in the loan portfolio, a decline in local economic conditions or other factors could result in increasing losses.
 
 
Intangible Assets.   Intangible assets include patents filed by the MPS Division.  Intangible assets are tested annually for impairment or more often if conditions indicate a possible impairment.  Determining the fair value of a reporting unit involves the use of significant estimates and assumptions.  These estimates and assumptions include revenue growth rates and operating margins used to calculate future cash flows, risk-adjusted discount rates, future economic and market conditions, comparison of the Company’s market value to book value and determination of appropriate market comparables.  Actual future results may differ from those estimates.
 
Each quarter the Company evaluates the estimated useful lives of intangible assets and whether events or changes in circumstances warrant a revision to the remaining periods of amortization.  In accordance with ASC 350, Accounting for the Impairment or Disposal of Long-Lived Assets, recoverability of these assets is measured by comparison of the carrying amount of the asset to the future undiscounted cash flows the asset is expected to generate. If the asset is considered to be impaired, the amount of any impairment is measured as the difference between the carrying value and the fair value of the impaired asset.
 
Assumptions and estimates about future values and remaining useful lives of the Company’s intangible and other long-lived assets are complex and subjective. They can be affected by a variety of factors, including external factors such as industry and economic trends, and internal factors such as changes in the Company’s business strategy and internal forecasts. Although the Company believes the historical assumptions and estimates used are reasonable and appropriate, different assumptions and estimates could materially impact the reported financial results.
 
During the six months ended March 31, 2011, an impairment charge recognized in earnings related to goodwill was $1.5 million due primarily to the decline in stock price of the Company during the first fiscal quarter of 2011.
 
Self-Insurance.  The Company has a self-insured healthcare plan for its employees up to certain limits.  To mitigate a portion of these risks, the Company has a stop-loss insurance policy through a commercial insurance carrier for coverage in excess of $55,000 per individual occurrence with an unlimited lifetime maximum.  The estimate of self-insurance liability is based upon known claims and an estimate of incurred, but not reported (“IBNR”) claims.  IBNR claims are estimated using historical claims lag information received by a third party claims administrator.  Although management believes it uses the best information available to determine the accrual, unforeseen health claims could result in adjustments to the accrual.
 
Deferred Tax Assets.  The Company accounts for income taxes according to the asset and liability method.  Under this method, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax basis.  Deferred tax assets and liabilities are measured using the enacted tax rates applicable to income for the years in which those temporary differences are expected to be recovered or settled.  Deferred tax assets are recognized subject to management’s judgment that realization is more-likely-than-not.  An estimate of probable income tax benefits that will not be realized in future years is required in determining the necessity for a valuation allowance.
 
 
Security Impairment. Management continually monitors the investment security portfolio for impairment on a security by security basis.  Management has a process in place to identify securities that could potentially have a credit impairment that is other than temporary.  This process involves the length of time and extent to which the fair value has been less than the amortized cost basis, review of available information regarding the financial position of the issuer, monitoring the rating of the security, cash flow projections, and the Company’s intent to sell a security or whether it is more likely than not the Company will be required to sell the security before the recovery of its amortized cost which, in some cases, may extend to maturity. To the extent we determine that a security is deemed to be other-than-temporarily impaired, an impairment loss is recognized. If the Company intends to sell a security or it is more likely than not that the Company would be required to sell a security before the recovery of its amortized cost, less any current period credit loss, the Company recognizes an other-than-temporary impairment in earnings for the difference between amortized cost and fair value. If we do not expect to recover the amortized cost basis, we do not plan to sell the security and if it is not more likely than not that the Company would be required to sell a security before the recovery of it amortized cost, less any current period credit loss, the recognition of the other-than-temporary impairment is bifurcated. For those securities, the Company separates the total impairment into a credit loss component recognized in earnings, and the amount of the loss related to other factors is recognized in other comprehensive income net of taxes.
 
The amount of the credit loss component of a debt security impairment is estimated as the difference between amortized cost and the present value of the expected cash flows of the security. The present value is determined using the best estimate cash flows discounted at the effective interest rate implicit to the security at the date of purchase or the current yield to accrete an asset- backed or floating rate security. Cash flow estimates for trust preferred securities are derived from scenario-based outcomes of forecasted default rates, loss severity, prepayment speeds and structural support.
 
Other-Than-Temporary Impairment.  Management evaluates the Company’s available for sale securities for other-than-temporary impairment at least on a quarterly basis, and more often if economic or market concerns warrant such evaluation.  Such factors management uses to determine impairment are:  (i) the length of time and extent to which the market value has been less than cost, (ii) the financial condition and near-term prospects of the issuer including specific events, (iii) the Company’s intent and ability to hold the investment to the earlier of maturity or recovery in fair value, (iv) the implied and historical volatility of the security, and (v) any downgrades by rating agencies.
 
RESULTS OF OPERATIONS
 
General.  The Company recorded net income of $2.7 million, or $0.88 per diluted share, for the three months ended March 31, 2011 compared to net income of $5.2 million, or $1.74 per diluted share, for the same period in fiscal year 2010.  The change in net income in the current period compared to the second quarter in fiscal 2010 was primarily due to a decrease in non-interest income of $18.2 million which was partially offset by a decrease in the provision for loan losses of $9.3 million and a decrease in non-interest expense of $5.6 million.
 
The Company recorded net income of $3.5 million, or $1.11 per diluted share, for the six months ended March 31, 2011 compared to $6.4 million, or $2.26 per diluted share, for the same period in fiscal year 2010.  Net earnings for the six month period ended March 31, 2011 were primarily impacted by the aforementioned factors and an increase in goodwill impairment for the six months ended March 31, 2011 of $1.5 million.
 
Net Interest Income.  Net interest income for the 2011 fiscal second quarter decreased by $0.6 million, or 6.5%, to $8.4 million from $9.0 million for the same period in the prior fiscal year.  Net interest margin decreased to 2.97% for the second quarter of 2011 as compared to 3.66% for the same period in 2010.  Overall, asset yields declined by 84 basis points due primarily to a change in asset mix to more government guaranteed mortgage-backed securities.  Our government guaranteed mortgage-backed securities comprise 48% of average interest earning assets compared to 38% one year ago.  Additionally, the prior year quarter also included the effect of tax-related loans which were not present for the current year quarter.
 
Overall, rates on all deposits and interest-bearing liabilities decreased by 16 basis points from 0.58% in the 2010 quarter to 0.42% in 2011.  At March 31, 2011, low- and no-cost checking deposits represented 88% of total deposits compared to 83% one year earlier.  The increase was driven by growth of $257.4 million, or 45%, in deposits generated by MPS at March 31, 2011 as compared to one year earlier.
 
 
For the six months ended March 31, 2011, net interest income was $16.7 million compared to $16.3 million for the same period in the prior fiscal year.  Contributing to this increase was a 25 basis point decrease in rates paid on interest-bearing liabilities, a $27.6 million reduction in the average balances of interest-bearing liabilities, and a 14% increase in earning assets.  These were partially offset by asset yields that decreased 57 basis points, in part, due to faster prepayment speeds in the Company’s mortgage-backed securities portfolio as compared to the prior fiscal year.
 

The following tables present, for the periods indicated, the Company’s total dollar amount of interest income from average interest-earning assets and the resulting yields, as well as the interest expense on average interest-bearing liabilities, expressed both in dollars and rates.  No tax equivalent adjustments have been made.  Non-accruing loans have been included in the table as loans carrying a zero yield.
 
Three Months Ended March 31,
       
2011
               
2010
       
(Dollars in Thousands)
 
Average
Outstanding
Balance
   
Interest
Earned /
Paid
   
Yield /
Rate
   
Average
Outstanding
Balance
   
Interest
Earned /
Paid
   
Yield /
Rate
 
Interest-earning assets:
                                   
Loans receivable
  $ 345,310     $ 4,909       5.77 %   $ 428,073     $ 7,376       6.99 %
Mortgage-backed securities
    549,802       4,433       3.27 %     378,884       2,827       3.03 %
Other investments and fed funds sold
    254,879       238       0.38 %     191,585       180       0.38 %
Total interest-earning assets
    1,149,991     $ 9,580       3.38 %     998,542     $ 10,383       4.22 %
Non-interest-earning assets
    51,407                       42,720                  
Total assets
  $ 1,201,398                     $ 1,041,262                  
                                                 
Non-interest bearing deposits
  $ 877,061     $       0.00 %   $ 716,826     $       0.00 %
Interest-bearing liabilities:
                                               
Interest-bearing checking
    34,352       106       1.25 %     19,126       45       0.95 %
Savings
    11,073       10       0.37 %     10,362       9       0.35 %
Money markets
    35,053       63       0.73 %     34,900       72       0.84 %
Time deposits
    112,887       574       2.06 %     126,937       823       2.63 %
FHLB advances
    28,021       287       4.15 %     40,289       309       3.11 %
Other borrowings
    16,425       123       3.04 %     18,065       124       2.78 %
Total interest-bearing liabilities
    237,811       1,163       1.98 %     249,679       1,382       2.24 %
Total deposits and interest-bearing liabilities
    1,114,872     $ 1,163       0.42 %     966,505     $ 1,382       0.58 %
Other non-interest bearing liabilities
    16,332                       18,484                  
Total liabilities
    1,131,204                       984,989                  
Shareholders equity
    70,194                       56,273                  
Total liabilities and shareholders’ equity
  $ 1,201,398                     $ 1,041,262                  
Net interest income and net interest rate spread including non-interest bearing deposits
          $ 8,417       2.96 %           $ 9,001       3.64 %
                                                 
Net interest margin
                    2.97 %                     3.66 %

 
Six Months Ended March 31,
       
2011
               
2010
       
(Dollars in Thousands)
 
Average
Outstanding
Balance
   
Interest
Earned /
Paid
   
Yield /
Rate
   
Average
Outstanding
Balance
   
Interest
Earned /
Paid
   
Yield /
Rate
 
Interest-earning assets:
                                   
Loans receivable
  $ 352,730     $ 10,356       5.89 %   $ 419,204     $ 14,101       6.75 %
Mortgage-backed securities
    511,709       8,351       3.27 %     359,204       4,982       2.78 %
Other investments and fed funds sold
    206,452       493       0.48 %     156,996       364       0.46 %
Total interest-earning assets
    1,070,891     $ 19,200       3.60 %     935,404     $ 19,447       4.17 %
Non-interest-earning assets
    69,078                       46,109                  
Total assets
  $ 1,139,969                     $ 981,513                  
                                                 
Non-interest bearing deposits
  $ 781,686     $       0.00 %   $ 629,115     $       0.00 %
Interest-bearing liabilities:
                                               
Interest-bearing checking
    32,896       239       1.46 %     17,689       66       0.75 %
Savings
    10,917       20       0.37 %     10,151       17       0.34 %
Money markets
    34,613       132       0.76 %     35,167       148       0.84 %
Time deposits
    121,865       1,251       2.06 %     134,261       1,806       2.70 %
FHLB advances
    39,418       610       3.10 %     58,211       814       2.80 %
Other borrowings
    16,851       253       3.01 %     28,650       276       1.93 %
Total interest-bearing liabilities
    256,560       2,505       1.96 %     284,129       3,127       2.21 %
Total deposits and interest-bearing liabilities
    1,038,246     $ 2,505       0.48 %     913,244     $ 3,127       0.69 %
Other non-interest bearing liabilities
    16,503                       15,282                  
Total liabilities
    1,054,749                       928,526                  
Shareholders’ equity
    85,220                       52,987                  
Total liabilities and shareholders’ equity
  $ 1,139,969                     $ 981,513                  
Net interest income and net interest rate spread including non-interest bearing deposits
          $ 16,695       3.12 %           $ 16,320       3.48 %
                                                 
Net interest margin
                    3.13 %                     3.50 %
 
 
Provision for Loan Loss.  The Company recognized a provision for loan losses in the second quarter of fiscal year 2011 of $0.2 million compared to a provision of $9.5 million for the same period in the prior fiscal year. The decline in this quarter was primarily due to the discontinuance of the iAdvance in October 2010 and tax-related loan programs in the MPS segment and adequate coverage for the traditional bank segment as it concerns the allowance for loan losses and non-performing assets.
 
For the six months ended March 31, 2011, the Company recorded a provision of $0.2 million compared to a provision of $14.2 million for the same period in the prior fiscal year due to the aforementioned factors.  Also see Note 3 to the Notes to Condensed Consolidated Financial Statements and “Financial Condition - Non-performing Assets and Allowance for Loan Losses” herein for further discussion.
 
Non-Interest Income.  Non-interest income decreased by $18.1 million, or 48.3%, to $19.5 million from $37.6 million in the prior fiscal year second quarter.  Fees earned on MPS-related programs were $18.4 million for the second quarter of fiscal year 2011, compared to $37.1 million for the same quarter in fiscal year 2010.  The decline in this quarter was primarily due to the discontinuance of the iAdvance and certain tax-related programs in the MPS segment.  For the six months ended March 31, 2011, non-interest income decreased by $24.9 million, or 41.7%, to $34.8 million from $59.7 million for the same period in the prior fiscal year.  Fees earned on prepaid debit cards, income tax-related programs and other payment systems products and services were $32.5 million for the six months ended March 31, 2011, compared to $56.7 million for the same period in fiscal year 2010.
 
In addition, the Bank sold mortgage-backed securities resulting in a 2011 fiscal second quarter gain on sale of available for sale securities in the amount of $0.6 million and sold no securities in the prior fiscal year second quarter.  For the six months ended March 31, 2011 and 2010, the Bank sold mortgage-backed securities resulting in a gain on sale of available for sale securities in the amount of $1.2 million and $1.9 million, respectively.
 
Non-Interest Expense.  Non-interest expense decreased by $5.6 million, or 19.5%, to $23.3 million for the second quarter of fiscal year 2011 from $28.9 million for the same quarter in fiscal year 2010.  Non-interest expense decreased by $6.8 million, or 13.2%, to $44.9 million for the six months ended March 31, 2011 from $51.7 million for the same period in fiscal year 2010.
 
The reduction was primarily attributable to a reduction in card processing expense, which declined $6.0 million from $14.1 million in the second quarter of fiscal year 2010 to $8.1 million in the current quarter due to the discontinuance of the iAdvance and tax-related programs that were previously disclosed in the Company’s Form 8-K filings on October 12 and October 18, 2010.  For the six months ended March 31, 2011, card processing expense totaled $13.3 million, compared to $22.4 million for the same period in the prior fiscal year.
 
Compensation expense decreased $0.7 million to $8.2 million for the three months ended March 31, 2011 as compared to $8.9 million for the same period in fiscal 2010.  For the six months ended March 31, 2011, compensation expense totaled $16.0 million, compared to $17.5 million for the same period in the prior fiscal year.  Overall staffing is 2% lower than at March 31, 2010.
 
Goodwill impairment expense increased for the six months ended March 31, 2011 by $1.5 million due to the traditional bank segment’s write off of goodwill due to impairment related primarily to the recent decline in stock price of the company.  This write off occurred in the quarter ended December 31, 2010.  There was no goodwill impairment expense due to impairment in the six months ended March 31, 2010.
 
On December 9, 2010, the Bank discovered that two wire transfers in the amount of approximately $1.1 million had been fraudulently initiated several days before through identify theft.  The Bank recorded a loss of $0.6 million at December 31, 2010.  After investigation, in March 2011, the Bank established a bond insurance receivable of $0.5 million for the balance of the fraud.
 
 
Income Tax Expense. Income tax expense for the second quarter of fiscal year 2011 was $1.7 million, or an effective tax rate of 37.9%, compared to $3.1 million, or an effective tax rate of 37.6%, for the same period in the prior fiscal year.  For the six months ended March 31, 2011, the Company recorded an income tax expense in the amount of $2.9 million, or an effective tax rate of 45.9%, compared to $3.8 million, or an effective tax rate of 37.3% for the same period in the prior fiscal year.  The Company’s recorded income tax expense and the effective tax rate was impacted by permanent differences between book and taxable income primarily related to the write off of goodwill of $1.5 million.
 
LIQUIDITY AND CAPITAL RESOURCES
 
The Company’s primary sources of funds are deposits, borrowings, principal and interest payments on loans and mortgage-backed securities, and maturing investment activities. While scheduled loan repayments and maturing investments are relatively predictable, deposit flows, prepayments on mortgage-backed securities and early loan repayments are influenced by the level of interest rates, general economic conditions, and competition.
 
The Company uses its capital resources principally to meet ongoing commitments to fund maturing certificates of deposits and loan commitments, to maintain liquidity, and to meet operating expenses.  At March 31, 2011, the Company had commitments to originate and purchase loans and unused lines of credit totaling $35.2 million.  The Company believes that loan repayment and other sources of funds will be adequate to meet its foreseeable short- and long-term liquidity needs.
 
Regulations require the Bank to maintain minimum amounts and ratios of total risk-based capital and Tier 1 capital to risk-weighted assets, and a leverage ratio consisting of Tier 1 capital to average assets.  The following table sets forth the Bank’s actual capital and required capital amounts and ratios at March 31, 2011 which, at that date, exceeded the minimum capital adequacy requirements.

   
Actual
   
Minimum
Requirement For
Capital Adequacy
Purposes
   
Minimum
Requirement to Be
Well Capitalized
Under Prompt
Corrective Action
Provisions
 
At March 31, 2011
 
Amount
   
Ratio
   
Amount
   
Ratio
   
Amount
   
Ratio
 
    (Dollars in Thousands)  
                                     
MetaBank
                                   
Tangible capital (to tangible assets)
  $ 79,890       6.76 %   $ 17,726       1.50 %   $ n/a       n/a %
Tier 1 (core) capital (to adjusted total assets)
    79,890       6.76       47,269       4.00       59,086       5.00  
Tier 1 (core) capital (to risk-weighted assets)
    79,890       18.43       17,337       4.00       26,006       6.00  
Total risk-based capital (to risk-weighted assets)
    84,631       19.53       34,674       8.00       43,343       10.00  
 
See Note 12 of the “Notes to Condensed Consolidated Financial Statements,” which is included in Part I. Financial Information of this Report for an update on the OTS Supervisory Directives and Related Matters related to OTS enforcement actions which could materially adversely affect the capital resources of the Company and the Bank.
 
The Federal Deposit Insurance Corporation Improvement Act of 1991 (FDICIA) established five regulatory capital categories and authorized the banking regulators to take prompt corrective action with respect to institutions in an undercapitalized category.  At March 31, 2011, the Bank exceeded all requirements for the well capitalized category.
 
 
Part I.           Financial Information
 
 
MARKET RISK
 
The Company is exposed to the impact of interest rate changes and changes in the market value of its investments.
 
The Company originates predominantly adjustable-rate loans and fixed-rate loans up to ten years.  Long-term fixed-rate residential mortgages are generally sold into the secondary market.  As a result of its lending practices, the Company’s loan portfolio is relatively short in duration and yields respond quickly to the overall level of interest rates.
 
The Company’s primary objective for its investment portfolio is to provide the liquidity necessary to meet the Company’s cash demands.  This portfolio may also be used in the ongoing management of interest rate risk.  As a result, funds may be invested among various categories of security types and maturities based upon the Company’s need for liquidity and its desire to create an economic hedge against the effects changes in interest rates may have on the overall market value of the Company.
 
The Company offers a full range of deposit products which are generally short term in nature.  Interest-bearing checking, savings, and money market accounts generally provide a stable source of funds for the bank and also respond relatively quickly to changes in short term interest rates.  The Company offers certificates of deposit with maturities of three months through five years, which serve to extend the duration of the overall deposit portfolio.  A significant and increasing portion of the Company’s deposit portfolio is concentrated in non-interest-bearing checking accounts.  These accounts serve to decrease the Company’s overall cost of funds and reduce its sensitivity to changes in short term interest rates.
 
The Company also maintains a portfolio of wholesale borrowings, predominantly advances from the FHLB and FRB, including both overnight advances and advances that carry fixed terms and fixed rates of interest.  The Company utilizes this portfolio to manage liquidity demands and also, when appropriate, in the ongoing management of interest rate risk.
 
The Board of Directors, as well as the OTS, has established limits on the level of acceptable interest rate risk for the Bank.  There can be no assurance, however, that, in the event of an adverse change in interest rates, the Company’s efforts to limit interest rate risk will be successful.
 
Net Portfolio Value.  The Company uses a Net Portfolio Value (“NPV”) approach to the quantification of interest rate risk.  This approach calculates the difference between the present value of expected cash flows from assets and the present value of expected cash flows from liabilities, as well as cash flows from any off-balance sheet contracts.  Management of the Company’s assets and liabilities is performed within the context of the marketplace, but also within limits established by the Board of Directors on the amount of change in NPV that is acceptable given certain interest rate changes.
 
Presented below, at March 31, 2011 and September 30, 2010, is an analysis of the Company’s interest rate risk as measured by changes in NPV for an instantaneous and sustained parallel shift in the yield curve, in 100 basis point increments, up and down 200 basis points.  Down 100 basis points and down 200 basis points are not presented for March 31, 2011 and September 30, 2010 due to the extremely low rate environment.  At both March 31, 2011 and September 30, 2010, the Company’s interest rate risk profile was within the interest sensitivity limits set by the Board of Directors.  At March 31, 2011, the Bank’s interest rate risk profile was within the limits set forth by the OTS.
 
 
  March 31, 2011       September 30, 2010  
         
Estimated Increase
               
Estimated Increase
 
   
Estimated
   
(Decrease) in NPV
         
Estimated
   
(Decrease) in NPV
 
Change in
 
NPV
               
Change in
   
NPV
             
Interest Rates
 
Amount
   
Amount
   
Percent
   
Interest Rates
   
Amount
   
Amount
   
Percent
 
   
(Dollars in Thousands)
         
(Dollars in Thousands)
 
Basis Points
                   
Basis Points
                   
+200 bp
    105,519       (13,181 )     -11.10 %     +200 bp       79,622       7,624       10.59 %
+100 bp
    115,841       (2,859 )     -2.41 %     +100 bp       83,851       11,853       16.46 %
    118,700                         71,998              
 
Certain shortcomings are inherent in the method of analysis presented in the preceding table. For example, although certain assets and liabilities may have similar maturities or periods to repricing, they may react in different degrees to changes in market interest rates. Also, the interest rates on certain types of assets and liabilities may fluctuate in advance of changes in market interest rates, while interest rates on other types may lag behind changes in market rates. Additionally, certain assets, such as adjustable-rate mortgage loans, have features that restrict changes in interest rates on a short-term basis and over the life of the asset. Furthermore, although management has estimated changes in the levels of prepayments and early withdrawal in these rate environments, such levels would likely deviate from those assumed in calculating the table. Finally, the ability of some borrowers to service their debt may decrease in the event of an interest rate increase.
 
In addition to the NPV approach, the Company also reviews gap reports, which measure the differences in assets and liabilities repricing in given time periods, and net income simulations to assess its interest rate risk profile. Management reviews its interest rate risk profile on a quarterly basis.


Part I.           Financial Information
 
CONTROLS AND PROCEDURES
 
Any control system, no matter how well designed and operated, can provide only reasonable (not absolute) assurance that its objectives will be met.  Furthermore, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, have been detected.
 
DISCLOSURE CONTROLS AND PROCEDURES
 
The Company’s management, with the participation of the Company’s Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of the Company’s “disclosure controls and procedures”, as such term is defined in Rules 13a – 15(e) and 15d – 15(e) of the Securities Exchange Act of 1934 (“Exchange Act”) at the end of the period covered by the report.
 
Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that, at March 31, 2011, the Company’s disclosure controls and procedures were effective to provide reasonable assurance that (i) the information required to be disclosed by us in this Report was recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and (ii) information required to be disclosed by us in our reports that we file or submit under the Exchange Act is accumulated and communicated to our management, including our principal executive and principal financial officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure.
 
INTERNAL CONTROL OVER FINANCIAL REPORTING
 
With the participation of the Company’s management, including its Chief Executive Officer and Chief Financial Officer, the Company also conducted an evaluation of the Company’s internal control over financial reporting to determine whether any changes occurred during the Company’s fiscal quarter ended March 31, 2011, that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.  Based on such evaluation, management concluded that, as of the end of the period covered by this report, there have not been any changes in the Company’s internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the 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.
 
 
META FINANCIAL GROUP, INC.
 
PART II - OTHER INFORMATION
 
FORM 10-Q
 
Legal Proceedings – See “Legal Proceedings” of Note 6 to the Notes to Condensed Consolidated Financial Statements, which is incorporated herein by reference.
 
Risk Factors - In addition to the other information set forth in this report, you should carefully consider the factors discussed in Part I, “Item 1A. Risk Factors” in our Annual Report on Form 10-K for the year ended September 30, 2010.  Additional risks and uncertainties not currently known to us or that we currently deem immaterial may also materially and adversely affect us in the future.
 
Unregistered Sales of Equity Securities and Use of Proceeds - None
 
Defaults Upon Senior Securities – None
 
Removed and Reserved
                 
Other Information - None
 
Exhibits
 
 
See Index to Exhibits.
 
 
META FINANCIAL GROUP, INC.
 
 
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.
 
  META FINANCIAL GROUP, INC.  
       
Date:      May 10, 2011
By:
/s/ J. Tyler Haahr  
    J. Tyler Haahr, President,  
        and Chief Executive Officer  
       
Date:      May 10, 2011 By:  /s/ David W. Leedom  
    David W. Leedom, Executive Vice President  
        and Chief Financial Officer  
 
 
INDEX TO EXHIBITS
 
Exhibit
Number
Description
   
Section 302 certification of Chief Executive Officer.
   
Section 302 certification of Chief Financial Officer.
   
Section 906 certification of Chief Executive Officer.
   
Section 906 certification of Chief Financial Officer.