SEC Filing | Northeast Bank

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Table of Contents

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

Quarterly report pursuant to Section 13 or 15 (d) of the Securities Exchange Act of 1934

For the quarterly period ended December 31, 2013

Commission File Number: 1-14588

Northeast Bancorp

(Exact name of registrant as specified in its charter)

Maine		01-0425066
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)

500 Canal Street, Lewiston, Maine		04240
(Address of Principal executive offices)		(Zip Code)

(207) 786-3245

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 subjected 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 (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No o

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

Large accelerated filer o	Accelerated filer o

Non-accelerated filer o	Smaller Reporting Company x

Indicate by check mark whether the registrant is a shell company (as defined by Rule 12b-2 of the Exchange Act). Yes o No x

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date. As of January 31, 2014 the registrant had outstanding 9,551,531 shares of voting common stock, $1.00 par value per share and 880,963 shares of non-voting common stock, $1.00 par value per share.

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Part I.	Financial Information
	Item 1.	Financial Statements (unaudited)
		Consolidated Balance Sheets December 31, 2013 and June 30, 2013

		Consolidated Statements of Income Three Months Ended December 31, 2013 and 2012 Six Months Ended December 31, 2013 and 2012

		Consolidated Statements of Comprehensive Income Three Months Ended December 31, 2013 and 2012 Six Months Ended December 31, 2013 and 2012

		Consolidated Statements of Changes in Stockholders’ Equity Six Months Ended December 31, 2013 and 2012

		Consolidated Statements of Cash Flows Six Months Ended December 31, 2013 and 2012

		Notes to Consolidated Financial Statements

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

	Item 3.	Quantitative and Qualitative Disclosure about Market Risk

	Item 4.	Controls and Procedures

Part II.	Other Information

	Item 1.	Legal Proceedings

	Item 1A.	Risk Factors

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

	Item 3.	Defaults Upon Senior Securities

	Item 4.	Mine Safety Disclosures

	Item 5.	Other Information

	Item 6.	Exhibits

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PART 1- FINANCIAL INFORMATION

Item 1. Financial Statements (Unaudited)

NORTHEAST BANCORP AND SUBSIDIARY

CONSOLIDATED BALANCE SHEETS

(Unaudited)

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

	December 31, 2013			June 30, 2013
Assets
Cash and due from banks	$	2,948		$	3,238
Short-term investments	60,479			62,696
Total cash and cash equivalents	63,427			65,934

Available-for-sale securities, at fair value	114,717			121,597
Loans held for sale	6,826			8,594

Loans	501,709			435,376
Less: Allowance for loan losses	1,350			1,143
Loans, net	500,359			434,233

Premises and equipment, net	9,624			10,075
Real estate owned and other possessed collateral, net	3,211			2,134
Federal Home Loan Bank and Federal Reserve Bank stock, at cost	5,721			5,721
Intangible assets, net	3,124			3,544
Bank owned life insurance	14,619			14,385
Other assets	10,997			4,422
Total assets	$	732,625		$	670,639

Liabilities and Stockholders’ Equity
Deposits
Demand	$	47,015		$	46,425
Savings and interest checking	93,394			90,970
Money market	88,156			84,416
Time	307,957			262,812
Total deposits	536,522			484,623

Federal Home Loan Bank advances	42,931			28,040
Wholesale repurchase agreements	15,290			25,397
Short-term borrowings	2,468			625
Junior subordinated debentures issued to affiliated trusts	8,352			8,268
Capital lease obligation	1,650			1,739
Other liabilities	11,029			8,145
Total liabilities	618,242			556,837

Commitments and contingencies	—			—

Stockholders’ equity
Preferred stock, $1.00 par value, 1,000,000 shares authorized; no shares issued and outstanding at December 31, 2013 and June 30, 2013	—			—
Voting common stock, $1.00 par value, 25,000,000 shares authorized; 9,551,531 and 9,565,680 shares issued and outstanding at December 31, 2013 and June 30, 2013, respectively	9,552			9,566
Non-voting common stock, $1.00 par value, 3,000,000 shares authorized; 880,963 shares issued and outstanding at December 31, 2013 and June 30, 2013	881			881
Additional paid-in capital	93,230			92,745
Retained earnings	12,358			12,524
Accumulated other comprehensive loss	(1,638		)	(1,914		)
Total stockholders’ equity	114,383			113,802
Total liabilities and stockholders’ equity	$	732,625		$	670,639

The accompanying notes are an integral part of these unaudited consolidated financial statements.

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NORTHEAST BANCORP AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF INCOME

(Unaudited)

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

	Three Months Ended December 31,					Six Months Ended December 31,
	2013			2012		2013			2012
Interest and dividend income:
Interest on loans	$	10,282		$	8,267	$	18,739		$	15,608
Interest on available-for-sale securities	262			348		544			695
Other interest and dividend income	96			109		147			198
Total interest and dividend income	10,640			8,724		19,430			16,501

Interest expense:
Deposits	979			1,028		2,026			2,006
Federal Home Loan Bank advances	327			259		651			518
Wholesale repurchase agreements	98			161		192			380
Short-term borrowings	6			5		11			11
Junior subordinated debentures issued to affiliated trusts	192			191		385			384
Obligation under capital lease agreements	21			23		43			47
Total interest expense	1,623			1,667		3,308			3,346

Net interest and dividend income before provision for loan losses	9,017			7,057		16,122			13,155
Provision for loan losses	151			247		227			475
Net interest and dividend income after provision for loan losses	8,866			6,810		15,895			12,680

Noninterest income:
Fees for other services to customers	421			462		861			772
Net securities gains	—			—		—			792
Gain on sales of loans held for sale	341			914		880			1,670
Gain on sales of portfolio loans	13			998		230			998
(Loss) gain recognized on real estate owned and other repossessed collateral, net	(77		)	—		(115		)	451
Bank-owned life insurance income	116			358		234			481
Other noninterest income	21			13		34			56
Total noninterest income	835			2,745		2,124			5,220

Noninterest expense:
Salaries and employee benefits	4,253			3,843		8,885			7,483
Occupancy and equipment expense	1,311			1,104		2,625			2,123
Professional fees	323			399		749			822
Data processing fees	256			220		513			432
Marketing expense	103			247		139			429
Loan acquisition and collection expense	290			479		763			933
FDIC insurance premiums	117			122		227			239
Intangible asset amortization	210			265		420			530
Legal settlement recovery	—			—		(250		)	—
Other noninterest expense	751			738		1,395			1,368
Total noninterest expense	7,614			7,417		15,466			14,359

Income from continuing operations before income tax expense	2,087			2,138		2,553			3,541
Income tax expense	676			676		832			1,121
Net income from continuing operations	1,411			1,462		1,721			2,420

(Loss) income from discontinued operations before tax (benefit) expense	(27		)	84		(12		)	198
Income tax (benefit) expense	(9		)	29		(4		)	68
Net (loss) income from discontinued operations	(18		)	55		(8		)	130
Net income	$	1,393		$	1,517	$	1,713		$	2,550
Net income available to common stockholders	$	1,393		$	1,259	$	1,713		$	2,195

Weighted-average shares outstanding:
Basic	10,432,833			10,383,441		10,436,673			10,383,441
Diluted	10,432,833			10,383,441		10,436,673			10,383,441
Earnings per common share:
Basic:
Income from continuing operations	$	0.13		$	0.11	$	0.16		$	0.20
Income from discontinued operations	—			0.01		—			0.01
Net Income	$	0.13		$	0.12	$	0.16		$	0.21
Diluted:
Income from continuing operations	$	0.13		$	0.11	$	0.16		$	0.20
Income from discontinued operations	—			0.01		—			0.01
Net income	$	0.13		$	0.12	$	0.16		$	0.21
Cash dividends declared per common share	$	0.09		$	0.09	$	0.18		$	0.18

The accompanying notes are an integral part of these unaudited consolidated financial statements.

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NORTHEAST BANCORP AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(Unaudited)

(Dollars in thousands)

	Three Months Ended December 31,						Six Months Ended December 31,
	2013			2012			2013			2012

Net income	$	1,393		$	1,517		$	1,713		$	2,550

Other comprehensive income (loss), before tax:
Available-for-sale securities:
Change in net unrealized gain or loss on available-for-sale securities	(647		)	(311		)	(130		)	(154		)
Reclassification adjustment for net gains included in net income	—			—			—			(792		)
Total available-for-sale securities	(647		)	(311		)	(130		)	(946		)
Derivatives and hedging activities:
Change in accumulated loss on effective cash flow hedges	565			59			584			65
Reclassification adjustments for net gains included in net income	(17		)	(19		)	(36		)	(37		)
Total derivatives and hedging activities	548			40			548			28
Total other comprehensive (loss) income, before tax	(99		)	(271		)	418			(918		)
Income tax expense (benefit) related to other comprehensive (loss) income	(34		)	(93		)	142			(313		)
Other comprehensive (loss) income, net of tax	(65		)	(178		)	276			(605		)
Comprehensive income	$	1,328		$	1,339		$	1,989		$	1,945

The accompanying notes are an integral part of these unaudited consolidated financial statements.

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NORTHEAST BANCORP AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY

(Unaudited)

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

																						Accumulated
																						Other			Total
	Preferred Stock					Voting Common Stock					Non-voting Common Stock					Additional			Retained			Comprehensive			Stockholders’
	Shares		Amount			Shares		Amount			Shares		Amount			Paid-in Capital			Earnings			Income (Loss)			Equity

Balance at June 30, 2012	4,227		$	4		9,307,127		$	9,307		1,076,314		$	1,076		$	96,359		$	12,235		$	158		$	119,139
Net income	—		—			—		—			—		—			—			2,550			—			2,550
Other comprehensive loss, net of tax	—		—			—		—			—		—			—			—			(605		)	(605		)
Conversion of non-voting common stock to voting common stock	—		—			160,245		160			(160,245	)	(160		)	—			—			—			—
Dividends on preferred stock	—		—			—		—			—		—			—			(113		)	—			(113		)
Dividends on common stock at $0.18 per share	—		—			—		—			—		—			—			(1,870		)	—			(1,870		)
Offering costs	—		—			—		—			—		—			(60		)	—			—			(60		)
Stock-based compensation	—		—			—		—			—		—			212			—			—			212
Redemption of preferred stock and warrants	(4,227	)	(4		)	—		—			—		—			(4,318		)	—			—			(4,322		)
Accretion of preferred stock	—		—			—		—			—		—			268			(268		)	—			—
Balance at December 31, 2012	—		$	—		9,467,372		$	9,467		916,069		$	916		$	92,461		$	12,534		$	(447	)	$	114,931

Balance at June 30, 2013	—		$	—		9,565,680		$	9,566		880,963		$	881		$	92,745		$	12,524		$	(1,914	)	$	113,802
Net income	—		—			—		—			—		—			—			1,713			—			1,713
Other comprehensive income, net of tax	—		—			—		—			—		—			—			—			276			276
Dividends on common stock at $0.18 per share	—		—			—		—			—		—			—			(1,879		)	—			(1,879		)
Stock-based compensation	—		—			—		—			—		—			471			—			—			471
Forfeiture of restricted common stock	—		—			(14,149	)	(14		)	—		—			14			—			—			—
Balance at December 31, 2013	—		$	—		9,551,531		$	9,552		880,963		$	881		$	93,230		$	12,358		$	(1,638	)	$	114,383

The accompanying notes are an integral part of these unaudited consolidated financial statements.

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NORTHEAST BANCORP AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

(Dollars in thousands)

	Six Months Ended December 31,
	2013			2012
Operating activities:
Net income	$	1,713		$	2,550
Adjustments to reconcile net income to net cash (used in) provided by operating activities:
Provision for loan losses	227			475
Loss (gain) on sale and impairment of real estate owned and other repossessed collateral, net	115			(451		)
Accretion of fair value adjustments on loans, net	(4,099		)	(3,505		)
Accretion of fair value adjustments on deposits, net	(415		)	(537		)
Accretion of fair value adjustments on borrowings, net	(132		)	(703		)
Originations of loans held for sale	(44,651		)	(73,982		)
Net proceeds from sales of loans held for sale	47,299			77,272
Gain on sales of loans held for sale	(880		)	(1,670		)
Gain on sales of portfolio loans	(230		)	(998		)
Amortization of intangible assets	420			530
Bank-owned life insurance income, net	(234		)	(481		)
Depreciation of premises and equipment	1,035			842
Gain on sale of premises and equipment	(1		)	—
Net gain on sale of available-for-sale securities	—			(792		)
Stock-based compensation	471			212
Amortization of securities, net	668			794
Changes in other assets and liabilities:
Other assets	(6,568		)	932
Other liabilities	3,290			1,159
Net cash (used in) provided by operating activities	(1,972		)	1,647

Investing activities:
Proceeds from sales of available-for-sale securities	—			159,579
Purchases of available-for-sale securities	(12,083		)	(167,294		)
Proceeds from maturities and principal payments on available-for-sale securities	18,165			6,668
Loan purchases	(29,967		)	(63,887		)
Loan originations and principal collections, net	(34,000		)	24,193
Purchases of premises and equipment	(594		)	(2,071		)
Proceeds from sales of premises and equipment	11			—
Proceeds from sales of real estate owned and other repossessed collateral	528			907
Proceeds from life insurance benefits	—			628
Proceeds from sales of portfolio loans	216			5,189
Net cash used in investing activities	(57,724		)	(36,088		)

Financing activities:
Net increase in deposits	52,314			79,867
Net decrease in short-term borrowings	1,843			361
Dividends paid on preferred stock	—			(113		)
Dividends paid on common stock	(1,879		)	(1,870		)
Proceeds from FHLB advances	15,000			—
Stock offering costs	—			(60		)
Repayment of wholesale repurchase agreements	(10,000		)	(40,000		)
Redemption of preferred stock and warrants	—			(4,322		)
Repayment of capital lease obligation	(89		)	(84		)
Net cash provided by financing activities	57,189			33,779

Net decrease in cash and cash equivalents	(2,507		)	(662		)
Cash and cash equivalents, beginning of period	65,934			128,274
Cash and cash equivalents, end of period	$	63,427		$	127,612

Supplemental schedule of noncash investing and financing activities:
Transfers from loans to real estate owned and other repossessed collateral	$	1,727		$	3,310
Transfers from real estate owned and other repossessed collateral to loans	—			1,055

The accompanying notes are an integral part of these unaudited consolidated financial statements.

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NORTHEAST BANCORP AND SUBSIDIARY

Notes to Unaudited Consolidated Financial Statements

December 31, 2013

1. Basis of Presentation

The accompanying unaudited condensed and consolidated interim financial statements include the accounts of Northeast Bancorp (“Northeast” or the “Company”) and its wholly-owned subsidiary, Northeast Bank (the “Bank”).

These financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and notes required by GAAP for complete financial statements. In the opinion of management, the accompanying consolidated financial statements contain all adjustments (consisting principally of normal recurring accruals) considered necessary for a fair presentation of the Company’s financial position, results of operations, and cash flows for the interim periods presented. These financial statements and notes should be read in conjunction with the audited consolidated financial statements and notes thereto for the fiscal year ended June 30, 2013 (“Fiscal 2013”) included in the Company’s Annual Report on Form 10-K filed with the Securities and Exchange Commission.

2. Recent Accounting Pronouncements

In December 2011, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2011-11, Balance Sheet (Topic 210): Disclosures about Offsetting Assets and Liabilities (“ASU 2011-11”). The update requires entities to disclose information about offsetting and related arrangements of financial instruments and derivative instruments. The amendments require enhanced disclosures by requiring improved information about financial instruments and derivative instruments that are either (i) offset in accordance with current literature or (ii) subject to an enforceable master netting arrangement or similar agreement, irrespective of whether they are offset in accordance with current literature. ASU 2011-11 is effective for fiscal years, and interim periods within those years, beginning on or after January 1, 2013. The adoption of this guidance did not have a material impact on the consolidated financial statements.

In January 2013, the FASB issued ASU No. 2013-01, Balance Sheet (Topic 210): Disclosures about Offsetting Assets and Liabilities (“ASU 2013-01”). The amendments clarify that the scope of Update 2011-11 applies to derivatives accounted for in accordance with Topic 815, Derivatives and Hedging, including bifurcated embedded derivatives, repurchase agreements and reverse repurchase agreements, and securities borrowing and securities lending transactions that are either offset in accordance with Section 210-20-45 or Section 815-10-45 or subject to an enforceable master netting arrangement or similar agreement. The new standards are effective for annual periods beginning January 1, 2013 and for interim periods within those annual periods. Retrospective application is required. The adoption of this guidance did not have a material impact on the consolidated financial statements.

In July 2013, the FASB issued ASU No. 2013-10, Derivatives and Hedging (Topic 815): Inclusion of the Fed Funds Effective Swap Rate (or Overnight Index Swap Rate) as a Benchmark Interest Rate for Hedge Accounting Purposes (“ASU 2013-30”). The amendments in ASU 2013-30 permit the Fed Funds Effective Swap Rate (OIS) to be used as a U.S. benchmark interest rate for hedge accounting purposes under Topic 815, in addition to UST and LIBOR. The amendments also remove the restriction on using different benchmark rates for similar hedges. The amendments are effective prospectively for qualifying new or redesignated hedging relationships entered into on or after July 17, 2013. ASU 2013-30 may impact the accounting for interest rate hedging relationships entered into after July 17, 2013.

In January 2014, the FASB issued ASU No. 2014-04, Receivables (Topic 310): Troubled Debt Restructurings by Creditors (“ASU 2014-04”). The amendments clarify that when an in substance repossession or foreclosure occurs, a creditor is considered to have received physical possession of residential real estate property collateralizing a consumer mortgage loan, upon either (1) the creditor obtaining legal title to the residential real estate property upon completion of a foreclosure or (2) the borrower conveying all interest in the residential real estate property to the creditor to satisfy that loan through completion of a deed in lieu of foreclosure or through a similar legal agreement. Additionally, the amendments require interim and annual disclosure of both (1) the amount of foreclosed residential real estate property held by the creditor and (2) the recorded investment in consumer mortgage loans collateralized by residential real estate property that are in the process of foreclosure according to local requirements of the applicable jurisdiction. The amendments ASU 2013-04 are effective for annual periods, and interim periods within those annual periods, beginning after December 15, 2014. An entity can elect to adopt the amendments in ASU 2014-04 using either a modified retrospective transition method or a prospective transition method. Under the modified retrospective transition method, an entity should apply the amendments by means of a cumulative-effect adjustment to residential consumer mortgage loans and foreclosed residential real estate properties existing as of the beginning of the annual period for which the amendments are effective. The Company does not expect ASU 2014-04 to have material impact on the consolidated financial statements.

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3. Securities Available-for-Sale

The following presents a summary of the amortized cost, gross unrealized holding gains and losses, and fair value of securities available for sale.

	December 31, 2013
	Amortized		Gross Unrealized		Gross Unrealized			Fair
	Cost		Gains		Losses			Value
	(Dollars in thousands)
U.S. Government agency securities	$	45,152	$	13	$	(22	)	$	45,143
Agency mortgage-backed securities	72,331		—		(2,757		)	69,574
	$	117,483	$	13	$	(2,779	)	$	114,717

	June 30, 2013
	Amortized		Gross Unrealized		Gross Unrealized			Fair
	Cost		Gains		Losses			Value
	(Dollars in thousands)
U.S. Government agency securities	$	45,289	$	44	$	—		$	45,333
Agency mortgage-backed securities	78,944		—		(2,680		)	76,264
	$	124,233	$	44	$	(2,680	)	$	121,597

When securities are sold, the adjusted cost of the specific security sold is used to compute the gain or loss on sale. The following table summarizes realized gains and losses on available-for-sale securities.

	Three Months Ended December 31,				Six Months Ended December 31,
	2013		2012		2013		2012
	(Dollars in thousands)				(Dollars in thousands)
Gross realized gains	$	—	$	—	$	—	$	831
Gross realized losses	—		—		—		(39		)
Net security gains	$	—	$	—	$	—	$	792

At December 31, 2013, investment securities with a fair value of approximately $42.0 million were pledged as collateral to secure outstanding borrowings.

The following summarizes the Company’s gross unrealized losses and fair values aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position.

	December 31,2013
	Less than 12 Months					More than 12 Months					Total
	Fair		Unrealized			Fair		Unrealized			Fair		Unrealized
	Value		Losses			Value		Losses			Value		Losses
	(Dollars in thousands)
U.S. Government agency securities	$	9,056	$	(22	)	$	—	$	—		$	9,056	$	(22	)
Agency mortgage-backed securities	33,623		(884		)	35,951		(1,873		)	69,574		(2,757		)
	$	42,679	$	(906	)	$	35,951	$	(1,873	)	$	78,630	$	(2,779	)

	June 30, 2013
	Less than 12 Months					More than 12 Months				Total
	Fair		Unrealized			Fair		Unrealized		Fair		Unrealized
	Value		Losses			Value		Losses		Value		Losses
	(Dollars in thousands)
U.S. Government agency securities	$	—	$	—		$	—	$	—	$	—	$	—
Agency mortgage-backed securities	76,264		(2,680		)	—		—		76,264		(2,680		)
	$	76,264	$	(2,680	)	$	—	$	—	$	76,264	$	(2,680	)

There were no other-than-temporary impairment losses on securities during the three and six months ended December 31, 2013 or 2012.

At December 31, 2013, the Company had eleven securities in a continuous loss position for greater than twelve months. At December 31, 2013, all of the Company’s available-for-sale securities were issued or guaranteed by either government agencies or government-sponsored enterprises. The decline in fair value of the Company’s available-for-sale securities at December 31, 2013 is attributable to changes in interest rates.

Management of the Company, in addition to considering current trends and economic conditions that may affect the quality of individual securities within the Company’s investment portfolio, also considers the Company’s ability and intent to hold such securities to maturity or recovery of cost. Management does not believe any of the Company’s available-for-sale securities are other-than-temporarily impaired at December 31, 2013.

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The amortized cost and fair values of available-for-sale debt securities by contractual maturity are shown below as of December 31, 2013. Actual maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.

	Amortized		Fair
	Cost		Value
	(Dollars in thousands)
Due within one year	$	33,070	$	33,082
Due after one year through five years	12,081		12,061
Due after five years through ten years	37,599		36,684
Due after ten years	34,733		32,890
	$	117,483	$	114,717

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4. Loans, Allowance for Loan Losses and Credit Quality

Loans are carried at the principal amounts outstanding, or amortized acquired fair value in the case of acquired loans, adjusted by partial charge-offs and net of deferred loan costs or fees. Loan fees and certain direct origination costs are deferred and amortized into interest income over the expected term of the loan using the level-yield method. When a loan is paid off, the unamortized portion is recognized in interest income. Interest income is accrued based upon the daily principal amount outstanding except for loans on nonaccrual status.

Loans purchased by the Company are accounted for under ASC 310-30, Receivables — Loans and Debt Securities Acquired with Deteriorated Credit Quality (“ASC 310-30”). At acquisition, the effective interest rate is determined based on the discount rate that equates the present value of the Company’s estimate of cash flows with the purchase price of the loan. Prepayments are not assumed in determining a purchased loan’s effective interest rate and income accretion. The application of ASC 310-30 limits the yield that may be accreted on the purchased loan, or the “accretable yield,” to the excess of the Company’s estimate, at acquisition, of the expected undiscounted principal, interest, and other cash flows over the Company’s initial investment in the loan. The excess of contractually required payments receivable over the cash flows expected to be collected on the loan represents the purchased loan’s “nonaccretable difference.” Subsequent improvements in expected cash flows of loans with nonaccretable differences result in a prospective increase to the loan’s effective yield through a reclassification of some, or all, of the nonaccretable difference to accretable yield. The effect of subsequent declines in expected cash flows of purchased loans are recorded through a specific allocation in the allowance for loan losses.

Loans are generally placed on nonaccrual status when they are past due 90 days as to either principal or interest, or when in management’s judgment the collectability of interest or principal of the loan has been significantly impaired. Loans accounted for under ASC 310-30 are placed on nonaccrual when it is not possible to reach a reasonable expectation of the timing and amount of cash flows to be collected on the loan. When a loan has been placed on nonaccrual status, previously accrued and uncollected interest is reversed against interest on loans. Interest on nonaccrual loans is accounted for on a cash-basis or using the cost-recovery method when collectability is doubtful. A loan is returned to accrual status when collectability of principal is reasonably assured and the loan has performed for a reasonable period of time.

In cases where a borrower experiences financial difficulties and the Company makes certain concessionary modifications to contractual terms, the loan is classified as a troubled debt restructuring (“TDR”), and therefore by definition is an impaired loan. Concessionary modifications may include adjustments to interest rates, extensions of maturity, and other actions intended to minimize economic loss and avoid foreclosure or repossession of collateral. For loans accounted for under ASC 310-30, the Company evaluates whether it has granted a concession by comparing the restructured debt terms to the expected cash flows at acquisition plus any additional cash flows expected to be collected arising from changes in estimate after acquisition. As a result, if an ASC 310-30 loan is modified to be consistent with, or better than, the Company’s expectations at acquisition, the loan would not qualify as a TDR. Nonaccrual loans that are restructured generally remain on nonaccrual status for a minimum period of six months to demonstrate that the borrower can meet the restructured terms. If the restructured loan is on accrual status prior to being modified, it is reviewed to determine if the modified loan should remain on accrual status. If the borrower’s ability to meet the revised payment schedule is not reasonably assured, the loan is classified as a nonaccrual loan. With limited exceptions, loans classified as TDRs remain classified as such until the loan is paid off.

The composition of the Company’s loan portfolio follows.

	December 31, 2013						June 30, 2013
	Originated		Purchased		Total		Originated		Purchased		Total
	(Dollars in thousands)
Residential real estate	$	120,814	$	2,606	$	123,420	$	89,734	$	2,706	$	92,440
Home equity	30,065		—		30,065		35,389		—		35,389
Commercial real estate	117,986		174,816		292,802		100,402		164,046		264,448
Construction	—		—		—		42		—		42
Commercial business	43,687		13		43,700		29,686		34		29,720
Consumer	11,722		—		11,722		13,337		—		13,337
Total loans	$	324,274	$	177,435	$	501,709	$	268,590	$	166,786	$	435,376

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Allowance for Loan Losses and Impaired Loans

The allowance for loan losses is established as losses are estimated to have occurred through a provision for loan losses charged to earnings. For residential and consumer loans, a charge-off is recorded no later than the point at which a loan is 180 days past due if the loan balance exceeds the fair value of the collateral, less costs to sell. For commercial loans, a charge-off is recorded on a case-by-case basis when all or a portion of the loan is deemed to be uncollectible. Subsequent recoveries, if any, are credited to the allowance.

The allowance for loan losses consists of general, specific, and unallocated reserves and reflects management’s estimate of probable loan losses inherent in the loan portfolio at the balance sheet date. Management uses a consistent and systematic process and methodology to evaluate the adequacy of the allowance for loan losses on a quarterly basis. The calculation of the allowance for loan losses is segregated by portfolio segments, which include: commercial real estate, commercial business, consumer, residential real estate, and purchased loans. Risk characteristics relevant to each portfolio segment are as follows:

Residential real estate: All loans in this segment are collateralized by residential real estate and repayment is primarily dependent on the credit quality of the individual borrower. The overall health of the economy, particularly unemployment rates and housing prices, has a significant effect on the credit quality in this segment. For purposes of the Company’s allowance for loan loss calculation, home equity loans and lines of credit are included in residential real estate.

Commercial real estate: Loans in this segment are primarily income-producing properties. For owner-occupied properties, the cash flows are derived from an operating business, and the underlying cash flows may be adversely affected by deterioration in the financial condition of the operating business. The underlying cash flows generated by non-owner occupied properties may be adversely affected by increased vacancy rates. Management periodically obtains rent rolls, with which it monitors the cash flows of these loans. Adverse developments in either of these areas will have an adverse effect on the credit quality of this segment. For purposes of the allowance for loan losses, this segment also includes construction loans.

Commercial business: Loans in this segment are made to businesses and are generally secured by the assets of the business. Repayment is expected from the cash flows of the business. Continued weakness in national or regional economic conditions, and a corresponding weakness in consumer or business spending, will have an adverse effect on the credit quality of this segment.

Consumer: Loans in this segment are generally secured, and repayment is dependent on the credit quality of the individual borrower. Repayment of consumer loans is generally based on the earnings of individual borrowers, which may be adversely impacted by regional labor market conditions.

Purchased: Loans in this segment are typically secured by commercial real estate, multi-family residential real estate, or business assets and have been acquired by the Bank’s Loan Acquisition and Servicing Group (“LASG”). Loans acquired by the LASG are, with limited exceptions, performing loans at the date of purchase. Loans in this segment acquired with specific material credit deterioration since origination are identified as purchased credit-impaired. Repayment of loans in this segment is largely dependent on cash flow from the successful operation of the property, in the case of non-owner occupied property, or operating business, in the case of owner-occupied property. Loan performance may be adversely affected by factors affecting the general economy or conditions specific to the real estate market, such as geographic location or property type.

The general component of the allowance for loan losses is based on historical loss experience adjusted for qualitative factors stratified by loan segment. The Company does not weight periods used in that analysis to determine the average loss rate in each portfolio segment. This historical loss factor is adjusted for the following qualitative factors:

· Levels and trends in delinquencies and nonperforming loans

· Trends in the volume and nature of loans

· Trends in credit terms and policies, including underwriting standards, procedures and practices, and the experience and ability of lending management and staff

· Trends in portfolio concentration

· National and local economic trends and conditions

· Effects of changes or trends in internal risk ratings

· Other effects resulting from trends in the valuation of underlying collateral

There were no significant changes in the Company’s policies or methodology pertaining to the general component of the allowance for loan losses during the three and six months ended December 31, 2013 or 2012.

The allocated component of the allowance for loan losses relates to loans that are classified as impaired. Impairment is measured on a loan-by-loan basis for commercial business and commercial real estate loans by either the present value of expected future cash flows discounted at the loan’s effective interest rate or the fair value of the collateral if the loan is collateral dependent. An allowance is established when the discounted cash flows or collateral value of the impaired loan is lower than the carrying value of that loan. Large groups of smaller-balance homogeneous loans, such as consumer and residential real estate loans are collectively evaluated for impairment based on the group’s historical loss experience adjusted for qualitative factors. Accordingly, the Company does not

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separately identify individual consumer and residential loans for individual impairment and disclosure. However, all TDRs are individually reviewed for impairment.

For all portfolio segments, except loans accounted for under ASC 310-30, a loan is considered impaired when, based on current information and events, it is probable that the Company will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record, and the amount of the shortfall in relation to the principal and interest owed. For the purchased loan segment, a loan is considered impaired when, based on current information and events, it is probable that the Company will be unable to realize cash flows as estimated at acquisition. For loans accounted for under ASC 310-30, loan impairment is measured based on the decrease in expected cash flows from those estimated at acquisition, excluding changes due to changes in interest rate indices and other non-credit related factors, discounted at the loan’s effective rate assumed at acquisition. Factors considered by management in determining impairment include payment status, collateral value, and the probability of the collecting scheduled principal and interest payments when due.

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The following table sets forth activity in the Company’s allowance for loan losses.

	Three Months Ended December 31, 2013
	Residential			Commercial		Commercial
	Real Estate			Real Estate		Business		Consumer			Purchased		Unallocated			Total
	(Dollars in thousands)
Beginning balance	$	695		$	163	$	50	$	148		$	101	$	67		$	1,224
Provision	(33		)	158		2		(24		)	106		(58		)	151
Recoveries	—			—		—		12			—		—			12
Charge-offs	(13		)	—		—		(24		)	—		—			(37		)
Ending balance	$	649		$	321	$	52	$	112		$	207	$	9		$	1,350

	Three Months Ended December 31, 2012
	Residential			Commercial			Commercial
	Real Estate			Real Estate			Business			Consumer			Purchased		Unallocated		Total
	(Dollars in thousands)
Beginning balance	$	301		$	71		$	53		$	243		$	—	$	—	$	668
Provision	199			32			(6		)	22			—		—		247
Recoveries	—			—			—			5			—		—		5
Charge-offs	(8		)	(1		)	—			(36		)	—		—		(45		)
Ending balance	$	492		$	102		$	47		$	234		$	—	$	—	875

	Six Months Ended December 31, 2013
	Residential			Commercial		Commercial
	Real Estate			Real Estate		Business			Consumer			Purchased		Unallocated			Total
	(Dollars in thousands)
Beginning balance	$	594		$	173	$	70		$	189		$	76	$	41		$	1,143
Provision	82			148		(24		)	(78		)	131		(32		)	227
Recoveries	6			—		6			31			—		—			43
Charge-offs	(33		)	—		—			(30		)	—		—			(63		)
Ending balance	$	649		$	321	$	52		$	112		$	207	$	9		$	1,350

	Six Months Ended December 31, 2012
	Residential			Commercial		Commercial
	Real Estate			Real Estate		Business			Consumer			Purchased		Unallocated		Total
	(Dollars in thousands)
Beginning balance	$	214		$	93	$	292		$	225		$	—	$	—	$	824
Provision	412			9		(42		)	96			—		—		475
Recoveries	1			—		—			7			—		—		8
Charge-offs	(135		)	—		(203		)	(94		)	—		—		(432		)
Ending balance	$	492		$	102	$	47		$	234		$	—	$	—	875

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The following table sets forth information regarding the allowance for loan losses by portfolio segment and impairment methodology.

	December 31, 2013
	Residential		Commercial		Commercial
	Real Estate		Real Estate		Business		Consumer		Purchased		Unallocated		Total
	(Dollars in thousands)
Allowance for loan losses:
Individually evaluated	$	189	$	108	$	44	$	4	$	86	$	—	$	431
Collectively evaluated	460		213		8		108		—		9		798
ASC 310-30	—		—		—		—		121		—		121
Total	$	649	$	321	$	52	$	112	$	207	$	9	$	1,350

Loans:
Individually evaluated	$	2,208	$	1,637	$	108	$	224	$	5,255	$	—	$	9,432
Collectively evaluated	148,671		116,349		43,579		11,498		—		—		320,097
ASC 310-30	—		—		—		—		172,180		—		172,180
Total	$	150,879	$	117,986	$	43,687	$	11,722	$	177,435	$	—	$	501,709

	June 30, 2013
	Residential		Commercial		Commercial
	Real Estate		Real Estate		Business		Consumer		Purchased		Unallocated		Total
	(Dollars in thousands)
Allowance for loan losses:
Individually evaluated	$	235	$	85	$	63	$	23	$	65	$	—	$	471
Collectively evaluated	359		88		7		166		—		41		661
ASC 310-30	—		—		—		—		11		—		11
Total	$	594	$	173	$	70	$	189	$	76	$	41	$	1,143