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CECIL BANCORP INC - Quarter Report: 2012 June (Form 10-Q)

f10q_063012-0424.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 June 30, 2012.

OR

[   ]         TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from __________ to __________

Commission File Number   0-24926

CECIL BANCORP, INC.
(Exact name of Registrant as specified in its charter)

Maryland
 
52-1883546
(State or other jurisdiction of
Incorporation or organization)
 
(I.R.S. Employer Identification No.)

127 North Street, Elkton, Maryland
 
21921
 
(Address of principal executive offices)
 
(Zip Code)
 

(410) 398-1650
(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.
[X] YES                      [   ] NO
 
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
[X] YES                      [   ] NO

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

 
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).
[   ] YES                      [X] NO

APPLICABLE ONLY TO CORPORATE ISSUERS:  Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

At August 3, 2012, there were 7,422,164 shares of common stock outstanding
 
 
Page 1

 

CECIL BANCORP, INC. AND SUBSIDIARIES


CONTENTS


   
PAGE
PART I - FINANCIAL INFORMATION
   
     
    ITEM 1.
Financial Statements (unaudited)
   
       
 
Consolidated Balance Sheets -
 
3
 
June 30, 2012 and December 31, 2011
   
       
 
Consolidated Statements of Operations and Comprehensive Income (Loss)
 
4-5
 
for the Three and Six Months Ended June 30, 2012 and 2011)
   
       
 
Consolidated Statements of Cash Flows
 
6
 
for the Six Months Ended June 30, 2012 and 2011 (Unaudited)
   
       
 
Notes to Consolidated Financial Statements
 
7-25
       
    ITEM 2.
Management’s Discussion and Analysis of Financial Condition
 
26-35
 
and Results of Operations
   
     
    ITEM 3.
Quantitative and Qualitative Disclosure About Market Risk
 
35
     
    ITEM 4.
Controls and Procedures
 
35
     
PART II – OTHER INFORMATION
 
35-37
     
SIGNATURES
 
38
     
CERTIFICATIONS
 
39-42
     

 
 
Page 2

 
 
PART I.    Financial Information
ITEM 1.   Financial Statements

CECIL BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(dollars in thousands, except per share data)

    
June 30,
   
December 31,
 
   
2012
   
2011
 
   
(Unaudited)
       
ASSETS
           
Cash and due from banks
  $ 28,676     $ 19,944  
Interest bearing deposits with banks
    1,829       13,908  
Federal funds sold
    909       559  
  Total cash and cash equivalents
    31,414       34,411  
Investment securities:
               
  Securities available-for-sale at fair value
    26,526       23,656  
  Securities held-to-maturity (fair value of $5,921
               
   in 2012 and $9,736 in 2011)
    5,897       9,745  
Restricted investment securities – at cost
    3,921       4,296  
Loans receivable
    324,190       330,262  
  Less: allowance for loan losses
    (10,908 )     (12,412 )
    Net loans receivable
    313,282       317,850  
Other real estate owned
    41,925       30,966  
Premises and equipment, net
    9,880       10,041  
Accrued interest receivable
    1,541       1,523  
Mortgage servicing rights
    458       467  
Bank owned life insurance
    8,377       8,284  
Deferred tax assets
    9,251       9,318  
Assets held for sale
    -       5,903  
Income taxes receivable
    5,403       5,276  
Other assets
    1,960       1,935  
    TOTAL ASSETS
  $ 459,835     $ 463,671  
LIABILITIES:
               
Deposits
  $ 343,270     $ 339,075  
Other liabilities
    11,758       10,612  
Junior subordinated debentures
    17,000       17,000  
Advances from Federal Home Loan Bank of Atlanta
    53,500       63,500  
Other borrowed funds
    1,169       1,169  
    Total liabilities
    426,697       431,356  
STOCKHOLDERS’ EQUITY:
               
Preferred stock, $.01 par value; authorized 1,000,000 shares
               
  Series A issued and outstanding 11,560 shares, liquidation
               
   preference $1,000 per share, in 2012 and 2011
    11,278       11,200  
  Series B issued and outstanding 164,575 shares, liquidation
               
   preference $17.20 per share, in 2012 and zero in 2011
    2,796       -  
Common stock, $.01 par value; authorized 10,000,000
               
  shares, issued and outstanding 7,422,164 shares in
               
  2012 and 2011
    75       75  
Additional paid in capital
    12,299       12,299  
Retained earnings
    6,568       8,721  
Accumulated other comprehensive income
    122       20  
    Total stockholders’ equity
    33,138       32,315  
    TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY
  $ 459,835     $ 463,671  

See accompanying notes to consolidated financial statements.
 
 
Page 3

 
CECIL BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS) (UNAUDITED)
(dollars in thousands, except per share data)

   
Three Months Ended
June 30,
   
Six Months Ended
June 30,
 
   
2012
   
2011
   
2012
   
2011
 
                         
INTEREST INCOME:
                       
  Interest and fees on loans
  $ 4,806     $ 5,365     $ 9,145     $ 11,191  
  Interest on investment securities
    83       97       183       154  
  Dividends on FHLB and FRB stock
    35       17       56       34  
  Other interest income
    15       15       29       33  
    Total interest income
    4,939       5,494       9,413       11,412  
                                 
                                 
INTEREST EXPENSE:
                               
  Interest expense on deposits
    941       1,125       1,910       2,386  
  Interest expense on junior subordinated debentures
    96       179       258       476  
  Interest expense on advances from FHLB
    543       614       1,156       1,221  
  Interest expense on other borrowed funds
    5       9       20       24  
    Total interest expense
     1,585       1,927       3,344       4,107  
                                 
NET INTEREST INCOME
    3,354       3,567       6,069       7,305  
                                 
PROVISION FOR LOAN LOSSES
    110       4,500       3,060       5,000  
                                 
NET INTEREST INCOME (LOSS) AFTER
                               
  PROVISION FOR LOAN LOSSES
    3,244       (933 )     3,009       2,305  
                                 
NONINTEREST INCOME:
                               
  Deposit account fees
    121       140       236       274  
  ATM fees
    123       117       238       223  
  Commission income
    1       -       1       1  
  Gain on sale of loans
    297       30       1,353       87  
  Loss on sale of other real estate owned
    (15 )     (140 )     (225 )     (145 )
  Loss on investments
    -       -       -       (50 )
  Income from bank owned life insurance
    48       56       92       102  
  Other
    159       75       252       149  
                                 
    Total noninterest income
    734       278       1,947       641  
                                 
NONINTEREST EXPENSE:
                               
  Salaries and employee benefits
    1,157       1,405       2,482       2,689  
  Occupancy expense
    176       177       359       400  
  Equipment and data processing expense
    312       328       634       626  
  FDIC deposit insurance premiums
    243       632       530       824  
  Other real estate owned expense and valuation
    1,407       645       1,842       1,341  
  Professional fees
    404       296       914       463  
  Loan collection expense
    344       199       430       14  
  Other
    414       271       763       570  
    Total noninterest expense
    4,457       3,953       7,954       7,427  
                                 
NET LOSS BEFORE INCOME TAXES
    (479 )     (4,608 )     (2,998 )     (4,481 )
                                 
INCOME TAX BENEFIT
    (208 )     (1,874 )     (1,212 )     (1,833 )
                                 
NET LOSS (CARRIED FORWARD)
  $ (271 )   $ (2,734 )   $ (1,786 )   $ (2,648 )
 
Page 4

 
 
CECIL BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS) (UNAUDITED)
(dollars in thousands, except per share data)



   
Three Months Ended
June 30,
   
Six Months Ended
June 30,
 
   
2012
   
2011
   
2012
   
2011
 
                         
NET LOSS (BROUGHT FORWARD)
  $ (271 )   $ (2,734 )   $ (1,786 )   $ (2,648 )
                                 
OTHER COMPREHENSIVE LOSS
                               
  Unrealized gains (losses) on
                               
   investment securities,
                               
   net of deferred taxes
    97       (36 )     102       (49 )
 
                               
TOTAL COMPREHENSIVE LOSS
  $ (174 )   $ (2,770 )   $ (1,684 )   $ (2,697 )
                                 
                                 
NET LOSS
  $ (271 )   $ (2,734 )   $ (1,786 )   $ (2,648 )
                                 
PREFERRED STOCK DIVIDENDS
                               
  AND DISCOUNT ACCRETION
    (183 )     (181 )     (367 )     (362 )
                                 
NET LOSS AVAILABLE TO
                               
COMMON STOCKHOLDERS
  $ (454 )   $ (2,915 )   $ (2,153 )   $ (3,010 )
                                 
Loss per common share - basic
  $ (0.06 )   $ (0.39 )   $ (0.29 )   $ (0.41 )
                                 
Loss per common share - diluted
  $ (0.06 )   $ (0.39 )   $ (0.29 )   $ (0.41 )
                                 
Dividends declared per common share
  $ 0.00     $ 0.00     $ 0.00     $ 0.00  
See accompanying notes to consolidated financial statements.


 
Page 5

CECIL BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
FOR THE SIX MONTHS ENDED JUNE 30, 2012 AND 2011
(dollars in thousands)
   
2012
   
2011
 
             
CASH FLOWS FROM OPERATING ACTIVITIES:
           
  Net loss
  $ (1,786 )   $ (2,648 )
  Adjustments to reconcile net loss to net cash
               
   provided (used) by operating activities:
               
    Depreciation and amortization
    694       387  
    Provision for loan losses
    3,060       5,000  
    Gain on sale of loans
    (1,353 )     (87 )
    Loss on sale of other real estate owned
    225       145  
    Loss on investments
    -       50  
    Loss (gain) on premises and equipment
    6       (10 )
    Gain on assets held for sale
    (18 )     -  
    Increase in cash surrender value of bank owned life insurance
    (92 )     (102 )
    Valuation allowance on other real estate owned
    1,141       928  
    Excess servicing rights
    (46 )     (48 )
    Origination of loans held for sale
    (18,334 )     (4,002 )
    Proceeds from sales of loans held for sale
    19,679       4,050  
    Net change in:
               
      Accrued interest receivable and other assets
    (40 )     (4,276 )
      Other liabilities
    856       (87 )
     Net cash provided by (used in) operating activities
    3,992       (700 )
                 
CASH FLOWS FROM INVESTING ACTIVITIES:
               
  Purchases of investment securities available-for-sale
    (8,962 )     (4,437 )
  Purchases of investment securities held-to-maturity
    (250 )     (13,834 )
  Proceeds from sales, maturities, calls and principal
               
   payments of investment securities available-for-sale
    5,978       171  
  Proceeds from maturities, calls and principal
               
   payments of investment securities held-to-maturity
    3,998       6,128  
  Net redemption of restricted investment securities
    375       18  
  Net (increase) decrease in loans
    (12,150 )     12,950  
  Proceeds from sale of other real estate owned
    1,220       1,267  
  Proceeds from sale of premises and equipment
    25       19  
  Proceeds from sale of assets held for sale
    5,911       -  
  Purchases of premises and equipment
    (125 )     (199 )
     Net cash (used in) provided by investing activities
    (3,980 )     2,083  
                 
CASH FLOWS FROM FINANCING ACTIVITIES:
               
  Net increase (decrease) in deposits
    4,195       (15,171 )
  Net decrease in advances from Federal Home Loan Bank of Atlanta
    (10,000 )     -  
  Proceeds from issuance of preferred stock
    2,796       -  
  Proceeds from issuance of common stock
    -       21  
     Net cash used in financing activities
    (3,009 )     (15,150 )
DECREASE IN CASH AND CASH EQUIVALENTS
    (2,997 )     (13,767 )
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD
    34,411       51,969  
CASH AND CASH EQUIVALENTS AT END OF PERIOD
  $ 31,414     $ 38,202  
                 
Supplemental disclosure of cash flows information:
               
  Cash paid for income taxes
  $ -     $ 1,355  
  Cash paid for interest
  $ 3,155     $ 3,636  
  Transfer from loans to other real estate owned
  $ 13,666     $ 6,862  
See accompanying notes to consolidated financial statements.
 
Page 6

 

 
CECIL BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2012 AND 2011
 
1.           GENERAL
 
In the opinion of Cecil Bancorp, Inc. and subsidiaries (the “Company”), the accompanying unaudited consolidated financial statements contain all adjustments (consisting of only normal recurring adjustments) necessary to present fairly the financial position as of June 30, 2012 and the results of its operations and cash flows for the three and six months ended June 30, 2012 and 2011.  These statements are condensed and therefore do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements.  The statements should be read in conjunction with the consolidated financial statements and footnotes included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2011.  The results of operations for the three and six months ended June 30, 2012 are not necessarily indicative of the results to be expected for the full year or for any other period.
 
2.           FINANCIAL STATEMENT PREPARATION
 
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period.  Estimates are used when accounting for uncollectible loans, depreciation and amortization, intangible assets, deferred income taxes, and contingencies, among others.  Actual results could differ from those estimates.
 
3.           RECENT ACCOUNTING PRONOUNCEMENTS
 
FASB ASU 2011-05, “Comprehensive Income (Topic 220) – Presentation of Comprehensive Income”
 
                This ASU increases the prominence of other comprehensive income (“OCI”) in financial statements and provides two options for presenting OCI. The ASU eliminates the current placement near the statement of shareholders’ equity or detailed in the Consolidated Statement of Changes in Shareholders’ Equity. The ASU provides for an OCI statement to be included with the net income statement, and together the two will make a statement of total comprehensive income. Alternatively, businesses can have an OCI statement separate from a net income statement, but the two statements will have to appear consecutively within a financial report. The ASU does not affect the calculation of OCI. The ASU is effective for the first interim or annual period beginning on or after December 15, 2011. The adoption of ASU 2011-05 did not have a material impact on the Company’s financial condition or results of operations.
 
FASB ASU 2011-04, “Fair Value Measurement (Topic 820) –Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRSs”
 
                This ASU amends the wording used to describe many of the requirements in GAAP for measuring fair value and for disclosing information about fair value measurements. The ASU clarifies the application of existing fair value measurement requirements and changes the principles or requirements for measuring fair value or for disclosing information about fair value measurements. The ASU will require new disclosures for any transfers between Levels 1 and 2 of the fair value hierarchy, not just significant transfers, and further expands focus on Level 3 measurements, including quantitative information about the significant unobservable inputs used for all Level 3 measurements, a qualitative discussion about the sensitivity of recurring Level 3 measurements to changes in the unobservable inputs disclosed, and a description of the valuation processes. The ASU is effective for reporting periods beginning on or after December 15, 2011. The adoption of ASU 2011-04 did not have a material impact on the Company’s financial condition or results of operations.
 
 
 
Page 7

 
 
FASB ASU 2011-03, “Transfer and Servicing (Topic 860) –Reconsideration of Effective Control of Repurchase Agreements”
 
                This ASU improves the accounting for repurchase agreements and other agreements that entitle and obligate a transferor to repurchase or redeem financial assets before their maturity. The ASU removes from the assessment of effective control: (1) the criterion requiring the transferor to have the ability to repurchase or redeem the financial assets on substantially the agreed terms, even in the event of default by the transferee, and (2) the collateral maintenance implementation related to that criterion. Other criteria applicable to the assessment of effective control are not changed by the amendments in this ASU. The ASU is effective for the first interim or annual period beginning on or after December 15, 2011. The adoption of ASU 2011-03 did not have a material impact on the Company’s financial condition or results of operations.
 
4.           EARNINGS PER SHARE
 
Basic earnings per common share are computed by dividing net income available to common stockholders by the weighted average number of shares of common stock outstanding during the period.  Diluted earnings per share are computed after adjusting the denominator of the basic earnings per share computation for the effects of all dilutive potential common shares outstanding during the period.  The dilutive effects of options, warrants, and their equivalents are computed using the “treasury stock” method.  For the three and six months ended June 30, 2012 and 2011, all 523,076 options and warrants were excluded from the diluted earnings per share calculation because their effect was antidilutive.  All earnings per share calculations have been adjusted to give retroactive effect to the 2-for-1 stock split, effected through a 100% stock dividend, declared by the Board of Directors in May 2011.  The calculation of net (loss) income per common share for the three and six months ended June 30, 2012 and 2011 is as follows:

    
Three Months Ended
June 30, 2012
   
Six Months Ended
June 30, 2012
 
   
2012
   
2011
   
2012
   
2011
 
Basic and diluted:
                       
Net loss
  $ (271,000 )   $ (2,734,000 )   $ (1,786,000 )   $ (2,648,000 )
Preferred stock dividends and discount accretion
    (183,000 )     (181,000 )     (367,000 )     (362,000 )
Net loss available to common stockholders
  $ (454,000 )   $ (2,915,000 )   $ (2,153,000 )   $ (3,010,000 )
                                 
Average common shares outstanding
    7,422,164       7,412,793       7,422,164       7,406,650  
                                 
Basic and diluted loss per common share
  $ (0.06 )   $ (0.39 )   $ (0.29 )   $ (0.41 )

5.       ACCOUNTING FOR STOCK BASED COMPENSATION PLANS
 
    In November 2009, the Company approved the granting of 120,250 restricted stock awards with a fair market value of $2.00 per share.  The awards vest over a period of five years.  All restricted stock awards have been adjusted to give retroactive effect to the 2-for-1 stock split declared by the Board of Directors in May 2011.  A summary of the Company’s activity and related information for restricted stock for the periods indicated is as follows:

  
Six Months Ended
 
Year Ended
 
June 30, 2012
 
December 31, 2011
     
Weighted-
     
Weighted-
     
Average
     
Average
 
Shares
 
Exercise Price
 
Shares
 
Exercise Price
                   
Unvested at beginning of period
111,694
 
$
2.00
 
116,288
 
$
2.00
Forfeited
 —
   
 
(1,926
)
 
 2.00
Awarded
 —
   
 
   
Released
 —
   
 —
 
(2,668
)
 
2.00
Unvested at end of period
111,694
 
$
2.00
 
111,694
 
$
2.00

 
Page 8

 

6.       ASSETS MEASURED AT FAIR VALUE

    The Company applies guidance issued by FASB regarding fair value measurements, which provides a framework for measuring and disclosing fair value under generally accepted accounting principles.  The guidance applies only to fair value measurements required or permitted under current accounting pronouncements, but does not require any new fair value measurements.  Fair value is defined as the price to sell an asset or to transfer a liability in an orderly transaction between willing market participants as of the measurement date.  The guidance also expands disclosures about financial instruments that are measured at fair value and eliminates the use of large position discounts for financial instruments quoted in active markets.  The disclosure’s emphasis is on the inputs used to measure fair value and the effect on the measurement on earnings for the period.  The adoption of the guidance did not have any effect on the Company’s financial position or results of operations.  For Level 1 assets, the Company uses quoted prices in active markets.  For Level 2 assets, the Company uses information from a third party pricing service, which is estimated using market prices of comparable instruments or other methods, such as the present value of future cash flows.  The following table shows the value (in thousands) at June 30, 2012 and December 31, 2011 of each major category of assets measured at fair value on the consolidated balance sheets, which consists solely of investment securities available-for-sale.  The changes in fair value were reflected as a component of other comprehensive income and did not affect net income.

    
Fair Value Measurements at Reporting Date Using
 
Description
 
Carrying
Value
   
Quoted Prices
in Active
Markets For
Identical
Assets
(Level 1)
   
Significant
Other
Observable
Inputs
(Level 2)
   
Significant
Unobservable
Inputs
(Level 3)
 
June 30, 2012
                       
Investment securities available-for-sale
                       
Mutual funds – mortgage securities
  $ 712     $ 712     $     $  
Mutual funds – U.S. Government
                               
   securities
    675       675              
Equity securities
    431       431              
SBA securitized loan pools
    4,080             4,080        
Other debt securities
    1,344             1,344        
Mortgage-backed securities
    19,284             19,284        
                                 
Total investment securities available-for-sale
  $ 26,526     $ 1,818     $ 24,708     $  



 
Page 9

 
 

   
Fair Value Measurements at Reporting Date Using
 
Description
 
Carrying
Value
   
Quoted Prices
in Active
Markets For
Identical
Assets
(Level 1)
   
Significant
Other
Observable
Inputs
(Level 2)
   
Significant
Unobservable
Inputs
(Level 3)
 
December 31, 2011
                       
Investment securities available-for-sale
                       
Mutual funds – mortgage securities
  $ 711     $ 711     $     $  
Mutual funds – U.S. Government
                               
   securities
    674       674              
Equity securities
    362       362              
SBA securitized loan pools
    4,921             4,921        
Other debt securities
    3,167             3,167        
Mortgage-backed securities
    13,821             13,821        
                                 
Total investment securities available-for-sale
  $ 23,656     $ 1,747     $ 21,909     $  

    We may be required from time to time to measure certain other financial assets and liabilities at fair value on a nonrecurring basis.  These adjustments to fair value usually result from application of lower of cost or market accounting or write-downs of individual assets.  For assets measured at fair value on a nonrecurring basis at June 30, 2012 and December 31, 2011, the following table provides in thousands the level of valuation assumptions used to determine each adjustment and the carrying value of the assets.  For both other real estate owned and impaired loans, Level 3 assets are valued at the lesser of the unpaid principal balance of the loan, or the appraised value of the underlying collateral, net of estimated selling costs, as determined by a third party appraiser.  There have been no changes in valuation techniques for the quarter ended June 30, 2012.  There were no transfers between valuation levels for any assets during the quarter ended June 30, 2012.

    
Fair Value Measurements at Reporting Date Using
 
         
Quoted Prices
             
         
In Active
   
Significant
       
         
Markets for
   
Other
   
Significant
 
         
Identical
   
Observable
   
Unobservable
 
   
Carrying
   
Assets
   
Inputs
   
Inputs
 
Description
 
Value
   
(Level 1)
   
(Level 2)
   
(Level 3)
 
June 30, 2012
                       
Other real estate owned:
                       
  Construction & Land Development
  $ 25,248     $ 0     $ 0     $ 25,248  
  1-4 Family Residential
    7,149       0       0       7,149  
  Commercial Real Estate
    9,528       0       0       9,528  
     Total
  $ 41,925     $ 0     $ 0     $ 41,925  
                                 
Impaired loans:
                               
  Construction & Land Development
  $ 8,222     $ 0     $ 0     $ 8,222  
  1-4 Family Residential
    14,303       0       0       14,303  
  Commercial Real Estate
    22,224       0       0       22,224  
  Commercial Business
    225       0       0       225  
     Total
  $ 44,974     $ 0     $ 0     $ 44,974  
                                 

 
Page 10

 

December 31, 2011
                               
Other real estate owned:
                               
  Construction & Land Development
  $ 14,747     $ 0     $ 0     $ 14,747  
  1-4 Family Residential
    7,179       0       0       7,179  
  Commercial Real Estate
    9,040       0       0       9,040  
     Total
  $ 30,966     $ 0     $ 0     $ 30,966  
                                 
Impaired loans:
                               
  Construction & Land Development
  $ 23,266     $ 0     $ 0     $ 23,266  
  1-4 Family Residential
    14,531       0       0       14,531  
  Multi-Family Residential
    286       0       0       286  
  Commercial Real Estate
    23,584       0       0       23,584  
  Commercial Business
    661       0       0       661  
  Consumer
    163       0       0       163  
     Total
  $ 62,491     $ 0     $ 0     $ 62,491  
 
7.           FAIR VALUE OF FINANCIAL INSTRUMENTS

FASB ASC 825-10-50 requires that the Company disclose estimated fair values for both its on and off-balance-sheet financial instruments. The following methods and assumptions were used to estimate the fair value of the Company’s financial instruments. Changes in estimates and assumptions could have a significant impact on these fair values.

Investment Securities - The fair values of investment securities are based on quoted market prices, where available. If a quoted market price is not available, fair value is estimated using quoted market prices of comparable instruments.

Loans receivable - The fair value of the loan portfolio is estimated by evaluating homogeneous categories of loans with similar financial and credit risk characteristics. Loans are segregated by types, such as residential mortgage, commercial real estate and consumer. Each loan category is further segmented into fixed and adjustable-rate interest terms.

The fair values of each loan category are estimated by discounting contractual cash flows adjusted for estimated prepayments. Assumptions regarding prepayment estimates and discount rates are judgmentally determined by using available market information.

Restricted Investment Securities - The fair value of the Company’s investment in stock of the FHLB and FRB approximates its carrying value.

Deposits - The fair values of deposits are estimated using a discounted cash flow calculation, adjusted for estimated decay rates, that applies interest rates currently offered for funding sources with similar maturities. Assumptions regarding discount rates and decay estimates are judgmentally determined by using available market information.

Junior Subordinated Debentures – The fair value was estimated by computing the discounted value of contractual cash flows payable at current interest rates for obligations with similar remaining terms.

Advances from the FHLB - The fair value of FHLB advances was estimated by computing the discounted value of contractual cash flows payable at current interest rates for obligations with similar remaining terms.

Other Borrowed Funds – The fair value was estimated by computing the discounted value of contractual cash flows payable at current interest rates for obligations with similar remaining terms.

Commitments to Extend Credit - The Company charges fees for commitments to extend credit. Interest rates on loans for which these commitments are extended are normally committed for periods of less than one month. Fees charged on standby letters of credit and other financial guarantees are deemed to be immaterial
 
 
Page 11

 
 
and these guarantees are expected to be settled at face amount or expire unused. It is impractical to assign any fair value to these commitments.
 
The estimated fair values of financial instruments (in thousands) at June 30, 2012 are as follows:

         
Fair Value Measurements at Reporting Date Using
 
         
Quoted Prices
         
         
In Active
 
Significant
     
         
Markets for
 
Other
 
Significant
 
         
Identical
 
Observable
 
Unobservable
 
 
Carrying
     
Assets
 
Inputs
 
Inputs
 
 
Value
 
Fair Value
 
(Level 1)
 
(Level 2)
 
(Level 3)
 
Financial assets:
                             
  Investment securities:
                             
      Available-for-sale
  $ 26,526     $ 26,526     $ 1,818     $ 24,708     $  
      Held-to-maturity
    5,897       5,921             5,921        
  Loans receivable
    324,190       365,342                   365,342  
  Restricted investment securities
    3,921       3,921             3,921        
Financial liabilities:
                                       
  Deposits
    343,270       326,641                   326,641  
  Junior subordinated debentures
    17,000       17,004             17,004        
  Advances from FHLB
    53,500       53,552             53,552        
  Other borrowed funds
    1,169       1,168             1,168        


  The estimated fair values of financial instruments (in thousands) at December 31, 2011 are as follows:
 
          
Fair Value Measurements at Reporting Date Using
 
         
Quoted Prices
         
         
In Active
 
Significant
     
         
Markets for
 
Other
 
Significant
 
         
Identical
 
Observable
 
Unobservable
 
 
Carrying
     
Assets
 
Inputs
 
Inputs
 
 
Value
 
Fair Value
 
(Level 1)
 
(Level 2)
 
(Level 3)
 
Financial assets:
                             
  Investment securities:
                             
      Available-for-sale
  $ 23,656     $ 23,656     $ 1,747     $ 21,909     $  
      Held-to-maturity
    9,745       9,736             9,736        
  Loans receivable
    330,262       401,098                   401,098  
  Restricted investment securities
    4,296       4,296             4,296        
Financial liabilities:
                                       
  Deposits
    339,075       322,027                   322,027  
  Junior subordinated debentures
    17,000       14,711             14,711        
  Advances from FHLB
    63,500       63,662             63,662        
  Other borrowed funds
    1,169       1,168             1,168        


 
Page 12

 

8.           INVESTMENT SECURITIES

Investment securities have been classified in the consolidated balance sheets according to management’s intent and ability to hold the investment.  Investment securities at June 30, 2012 and December 31, 2011 are summarized in the following table (in thousands).

    June 30, 2012  
          Gross     Gross     Estimated  
    Amortized     Unrealized     Unrealized     Fair  
    Cost     Gains     Losses     Value  
                         
Available-for-Sale:
                       
Mutual funds - mortgage securities
  $ 747     $ 5     $ 40     $ 712  
Mutual funds - U.S. Government securities
    686             11       675  
Equity securities
    226       205             431  
SBA securitized loan pools
    4,137       3       60       4,080  
Other debt securities
    1,350       2       8       1,344  
Mortgage-backed securities
    19,177       148       41       19,284  
    $ 26,323     $ 363     $ 160     $ 26,526  
                                 
Held-to-Maturity:
                               
SBA securitized loan pools
  $ 1,695     $     $ 20     $ 1,675  
Other debt securities
    500       11             511  
Mortgage-backed securities
    3,452       47       14       3,485  
U. S. Treasury securities and obligations
    250                   250  
    $ 5,897     $ 58     $ 34     $ 5,921  

 
    December 31, 2011  
           Gross      Gross      Estimated  
     Amortized      Unrealized      Unrealized      Fair  
     Cost     Gains       Losses      Value  
Available-for-Sale:
                       
Mutual funds - mortgage securities
  $ 747     $ 5     $ 41     $ 711  
Mutual funds - U.S. Government securities
    686             12       674  
Equity securities
    226       136             362  
SBA securitized loan pools
    4,947       9       35       4,921  
Other debt securities
    3,200       4       37       3,167  
Mortgage-backed securities
    13,817       49       45       13,821  
    $ 23,623     $ 203     $ 170     $ 23,656  
                                 
Held-to-Maturity:
                               
SBA securitized loan pools
  $ 2,161     $       32     $ 2,129  
Other debt securities
    1,500       12             1,512  
Mortgage-backed securities
    5,334       41       30       5,345  
U. S. Treasury securities and obligations
    750                   750  
    $ 9,745     $ 53     $ 62     $ 9,736  


 
Page 13

 


As of June 30, 2012, unrealized losses (in thousands) on securities were comprised of the following based on the length of time that the securities have been in a continuous loss position:

   
Less than 12 Months
   
More than 12 Months
   
Total
 
   
Fair
   
Unrealized
   
Fair
   
Unrealized
   
Fair
   
Unrealized
 
   
Value
   
Losses
   
Value
   
Losses
   
Value
   
Losses
 
Available-for-Sale:
                                   
  Mutual funds – mortgage securities
  $     $     $ 136     $ 40     $ 136     $ 40  
  Mutual funds – US Govt securities
                675       11       675       11  
  SBA securitized loan pools
    1,918       46       1,280       14       3,198       60  
  Other debt securities
    843       8                   843       8  
  Mortgage-backed securities
    4,336       19       624       22       4,960       41  
Held-to-Maturity:
                                               
  SBA securitized loan pools
    327       2       1,299       18       1,626       20  
  Mortgage-backed securities
    286       3       973       11       1,259       14  
    $ 7,710     $ 78     $ 4,987     $ 116     $ 12,697     $ 194  

As of December 31, 2011, unrealized losses (in thousands) on securities were comprised of the following based on the length of time that the securities have been in a continuous loss position:

    
Less than 12 Months
   
More than 12 Months
   
Total
 
   
Fair
   
Unrealized
   
Fair
   
Unrealized
   
Fair
   
Unrealized
 
   
Value
   
Losses
   
Value
   
Losses
   
Value
   
Losses
 
Available-for-Sale:
                                   
  Mutual funds – mortgage securities
  $     $     $ 135     $ 41     $ 135     $ 41  
  Mutual funds – US Govt securities
                674       12       674       12  
  SBA securitized loan pools
    3,892       35                   3,892       35  
  Other debt securities
    913       37                   913       37  
  Mortgage-backed securities
    7,141       41       203       4       7,344       45  
Held-to-Maturity:
                                               
  SBA securitized loan pools
    2,129       32                   2,129       32  
  Mortgage-backed securities
    1,799       30                   1,799       30  
    $ 15,874     $ 175     $ 1,012     $ 57     $ 16,886     $ 232  

The securities with unrealized holding losses are impaired due to declines in fair value resulting from changes in interest rates. None of these securities have exhibited a decline in value due to changes in credit risk. Additionally, the Company has the intent and ability to hold the mortgage-backed securities until they mature, and the equity securities until the foreseeable future, does not expect to realize losses on any of the investments, and it is more likely than not that we will not be required to sell. Therefore, management does not consider the declines in fair value to be other than temporary.

9.           CREDIT QUALITY OF LOANS RECEIVABLE AND ALLOWANCE FOR LOAN LOSSES
 
The Company has segregated its loan portfolio into six segments, including construction and land development, 1-4 family residential, multi-family residential, commercial real estate, commercial business, and consumer.  The Company’s primary market area is in Northeastern Maryland in Cecil and Harford Counties, so exposure to credit risk is significantly affected by changes in these counties.
 
Construction lending primarily involves lending for construction of single family residences, although the Bank does lend funds for the construction of commercial properties and multi-family real estate.  All loans for the construction of speculative sale homes have a loan-to-value ratio of not more than 80%.  The Bank has financed the construction of non-residential properties on a case by case basis.  Loan proceeds are disbursed during the construction phase according to a draw schedule based on the stage of completion.  Construction projects are inspected by contracted inspectors or bank personnel.  
 
Page 14

 
 
Construction loans are underwritten on the basis of the estimated value of the property as completed. The Bank originates loans secured by raw land, which are generally granted to developers have terms of up to three years.  The substantial majority of land loans have a loan-to-value ratio not exceeding 75%.  Land loans have a higher level of risk than loans for the purchase of existing homes since collateral values can only be estimated at the time the loan is approved.  The Bank has sought to minimize this risk by offering such financing primarily to builders and developers to whom the Bank has loaned funds in the past and to persons who have previous experience in such projects.
 
The Bank offers fixed and adjustable rate conventional mortgage loans on one-to-four family residential dwellings.  Most loans are originated in amounts up to $350,000 on properties located in the Bank’s primary market area.  These loans are generally for terms of 15, 20 and 30 years amortized on a monthly basis with interest and principal due each month.  The Bank retains all adjustable rate mortgage loans it originates and sells the majority of fixed rate loans, primarily to FHLMC, with servicing retained by the Bank.  The retention of adjustable rate loans helps reduce the Bank’s exposure to rising interest rates.  However, it is possible that during periods of rising interest rates, the risk of default on adjustable rate mortgage loans may increase due to the upward adjustment of the interest cost to the borrower.
 
The Bank originates multi-family residential loans in its market area.  These loans are generally larger and involve greater risks than one-to-four family residential loans.  Because payments on these loans are often dependent on the successful operation or management of the property, repayment of such loans may be subject to a greater extent to adverse conditions in the real estate market or the economy.  The Bank seeks to minimize these risks in a variety of ways, including limiting the size and loan-to-value ratios.  The loans typically have terms of 20 to 40 years, with rate adjustments every one, three, or five years.  They generally have imbedded interest rate floors, with no interest rate ceilings, and have no interest rate change limitations.
 
The Bank primarily originates commercial real estate loans in its market area.  These loans are generally larger and involve greater risks that one-to-four family residential loans.  Because payments on these loans are often dependent on the successful operation or management of the property, repayment of such loans may be subject to a greater extent to adverse conditions in the real estate market or the economy.  The Bank seeks to minimize these risks in a variety of ways, including limiting the size and loan-to-value ratios.  The loans typically have terms of 20 to 40 years, with rate adjustments every one, three, or five years.  They generally have imbedded interest rate floors, with no interest rate ceilings, and have no interest rate change limitations.  The Bank’s commercial real estate loans are typically secured by retail or wholesale establishments, motels/hotels, service industries, and industrial or warehouse facilities.  During 2011, the Bank began making loans under the Small Business Administration (“SBA”) Section 7(a) program, under which the SBA guarantees up to 75% of loans of up to $5 million for the purchase or expansion of small businesses.  The Bank may sell the guaranteed portion of SBA loans into the secondary market and retain the unguaranteed portion in its portfolio.

The Bank offers secured and unsecured commercial business loans and lines of credit to businesses located in its primary market area.  Most business loans have a one-year term, while lines of credit can remain open for longer periods.  All owners, partners, and officers must sign the loan agreement.  The security for a business loan depends on the amount borrowed, the business involved, and the strength of the borrower’s firm.  Commercial business lending entails significant risk, as the payments on such loans may depend upon the successful operation or management of the business involved.  Although the Bank attempts to limit its risk of loss on such loans by limiting the amount and the term, and by requiring personal guarantees of the principals of the business, the risk of loss on these loans is substantially greater than the risk of loss from residential real estate lending.
 
The Bank’s consumer loans consist of automobile loans, deposit account loans, home improvement loans, and other consumer loans.  The loans are generally offered for terms of up to five years at fixed interest rates.  Consumer loans are generally originated at higher interest rates than residential mortgage loans because of their higher risk.  Repossessed collateral for a defaulted loan may not provide an adequate source of repayment as a result of damage, loss, or depreciation.  In addition, collections are dependent on the borrower’s continuing financial stability, and thus are more likely to be adversely affected by job loss, divorce, illness, or personal bankruptcy.
 
On an ongoing basis, the Bank assigns a grade to each of its loans.  The internal grades are pass, special mention, substandard, doubtful, and loss.  Loans graded pass are loans where the borrower exhibits a strong balance sheet position and good earnings and cash flow history.  Loans graded special mention show potential weaknesses that deserve the Bank’s close attention.  If these potential weaknesses are not corrected, they may result in deterioration of the repayment prospects for the loan in the Bank’s credit position at some future date.  Substandard loans are inadequately protected by the current sound worth and paying capacity of the borrower or of the collateral pledged, if any.  Substandard loans have a well defined weakness that could
 
 
Page 15

 
 
jeopardize the liquidation of the debt.  They are characterized by the distinct possibility that the Bank will sustain some loss if the weaknesses are not corrected.  Loans graded doubtful have all the weaknesses inherent in substandard loans with the added characteristic that the weaknesses make collection or liquidation in full highly improbable.  Assets graded loss are considered uncollectible and of such little value that their continuance as an asset is not warranted.  The classification does not mean the loan has absolutely no recovery value, but that it is not practical to defer charging off the loan even though partial recovery may be effected in the future.
 
In accordance with new standards issued under the Disclosures of Credit Quality of Financing Receivables and the Allowance for Loan Losses, the following tables show credit quality indicators, the aging of receivables, and disaggregated balances of loans receivable and the allowance for loan losses (in thousands) as of June 30, 2012 and December 31, 2011.

Credit Quality Indicators
 
As of June 30, 2012
 
   
Construction
                                     
   
& Land
   
1-4 Family
   
Multi-Family
   
Commercial
   
Commercial
             
   
Development
   
Residential
   
Residential
   
Real Estate
   
Business
   
Consumer
   
Total
 
                                           
Credit risk profile by internally assigned grade:
                                         
                                           
Pass
  $ 16,735     $ 82,917     $ 4,555     $ 127,785     $ 5,034     $ 2,409     $ 239,435  
Special mention
    1,249       4,534       -       3,934       203       5       9,925  
Substandard
    42,729       12,399       -       16,390       3,312       -       74,830  
Total
  $ 60,713     $ 99,850     $ 4,555     $ 148,109     $ 8,549     $ 2,414     $ 324,190  
                                                         
Credit risk profile based on payment activity:
                                                       
                                                         
Performing
  $ 55,410     $ 83,648     $ 4,555     $ 144,159     $ 6,495     $ 2,414     $ 296,681  
Nonperforming
    5,303       16,202       -       3,950       2,054       -       27,509  
Total
  $ 60,713     $ 99,850     $ 4,555     $ 148,109     $ 8,549     $ 2,414     $ 324,190  


Credit Quality Indicators
 
As of December 31, 2011
 
   
Construction
                                     
   
& Land
   
1-4 Family
   
Multi-Family
   
Commercial
   
Commercial
             
   
Development
   
Residential
   
Residential
   
Real Estate
   
Business
   
Consumer
   
Total
 
                                           
Credit risk profile by internally assigned grade:
                                         
                                           
Pass
  $ 28,194     $ 86,467     $ 4,458     $ 118,723     $ 6,359     $ 2,734     $ 246,485  
Special mention
    7,462       11,331       -       7,455       804       6       27,058  
Substandard
    27,342       12,823       -       15,710       686       158       56,719  
Total
  $ 62,998     $ 110,621     $ 4,458     $ 141,438     $ 7,849     $ 2,898     $ 330,262  
                                                         
Credit risk profile based on payment activity:
                                                       
                                                         
Performing
  $ 36,437     $ 94,759     $ 4,458     $ 132,508     $ 7,681     $ 2,892     $ 278,735  
Nonperforming
    26,561       15,862       -       8,930       168       6       51,527  
Total
  $ 62,998     $ 110,621     $ 4,458     $ 141,438     $ 7,849     $ 2,898     $ 330,262  



 
Page 16

 


   
Age Analysis of Past Due Loans Receivable
 
As of June 30, 2012
 
   
Construction
                                     
   
& Land
   
1-4 Family
   
Multi-Family
   
Commercial
   
Commercial
             
   
Development
   
Residential
   
Residential
   
Real Estate
   
Business
   
Consumer
   
Total
 
                                           
30-59 Days Past Due
  $ 855     $ 4,665     $ -     $ 2,612     $ 2,002     $ -     $ 10,134  
60-89 Days Past Due
    330       4,228       -       80       32       -       4,670  
Greater Than 90 Days Past Due
    4,118       7,309       -       1,258       20       -       12,705  
Total Past Due
    5,303       16,202       -       3,950       2,054       -       27,509  
Current
    55,410       83,648       4,555       144,159       6,495       2,414       296,681  
Total Loans Receivable
  $ 60,713     $ 99,850     $ 4,555     $ 148,109     $ 8,549     $ 2,414     $ 324,190  
                                                         
Recorded Investment > 90 Days and Accruing
    -       -       -       -       -       -       -  
 
 
 
Age Analysis of Past Due Loans Receivable
As of December 31, 2011
 
   
Construction
                                     
   
& Land
   
1-4 Family
   
Multi-Family
   
Commercial
   
Commercial
             
   
Development
   
Residential
   
Residential
   
Real Estate
   
Business
   
Consumer
   
Total
 
                                           
30-59 Days Past Due
  $ 630     $ 4,003     $ -     $ 585     $ 7     $ -     $ 5,225  
60-89 Days Past Due
    1,117       4,335       -       2,389       -       1       7,842  
Greater Than 90 Days Past Due
    24,814       7,524       -       5,956       161       5       38,460  
Total Past Due
    26,561       15,862       -       8,930       168       6       51,527  
Current
    36,437       94,759       4,458       132,508       7,681       2,892       278,735  
Total Loans Receivable
  $ 62,998     $ 110,621     $ 4,458     $ 141,438     $ 7,849     $ 2,898     $ 330,262  
                                                         
Recorded Investment > 90 Days and Accruing
    -       -       -       -       -       -       -  


 
Page 17

 


Allowance for Loan Losses
 
For the Three Months Ended June 30, 2012
 
   
Construction
                                           
   
& Land
   
1-4 Family
   
Multi-Family
   
Commercial
   
Commercial
                   
   
Development
   
Residential
   
Residential
   
Real Estate
   
Business
   
Consumer
   
Unallocated
   
Total
 
                                                 
Allowance for loan losses:
                                               
                                                 
Beginning balance
  $ 3,874     $ 2,916     $ 13     $ 4,502     $ 989     $ 164     $ 675     $ 13,133  
Charge-offs
    (1,303 )     (527 )     -       (461 )     (5 )     (164 )     -       (2,460 )
Recoveries
    -       10       -       -       113       2       -       125  
Provision
    1,711       (236 )     7       (1,292 )     (59 )     2       (23 )     110  
Ending balance
  $ 4,282     $ 2,163     $ 20     $ 2,749     $ 1,038     $ 4     $ 652     $ 10,908  
                                                                 
 
Allowance for Loan Losses and Recorded Investment in Loans Receivable
 
For the Six Months Ended June 30, 2012
 
   
Construction
                                           
   
& Land
   
1-4 Family
   
Multi-Family
   
Commercial
   
Commercial
                   
   
Development
   
Residential
   
Residential
   
Real Estate
   
Business
   
Consumer
   
Unallocated
   
Total
 
                                                 
Allowance for loan losses:
                                               
                                                 
Beginning balance
  $ 4,234     $ 2,323     $ 14     $ 4,243     $ 636     $ 169     $ 793     $ 12,412  
Charge-offs
    (2,256 )     (1,241 )     -       (950 )     (149 )     (166 )     -       (4,762 )
Recoveries
    -       15       -       62       116       5       -       198  
Provision
    2,304       1,066       6       (606 )     435       (4 )     (141 )     3,060  
Ending balance
  $ 4,282     $ 2,163     $ 20     $ 2,749     $ 1,038     $ 4     $ 652     $ 10,908  
                                                                 
Ending balance individually evaluated for impairment
  $ 3,602     $ 1,245     $ -     $ 271     $ 989     $ -     $ -     $ 6,107  
                                                                 
Ending balance collectively evaluated for impairment
  $ 680     $ 918     $ 20     $ 2,478     $ 49     $ 4     $ 652     $ 4,801  
                                                                 
Loans receivable:
                                                               
                                                                 
Ending balance
  $ 60,713     $ 99,850     $ 4,555     $ 148,109     $ 8,549     $ 2,414     $ -     $ 324,190  
                                                                 
Ending balance individually evaluated for impairment
  $ 42,729     $ 16,004     $ -     $ 27,898     $ 3,312     $ -     $ -     $ 89,943  
                                                                 
Ending balance collectively evaluated for impairment
  $ 17,984     $ 83,846     $ 4,555     $ 120,211     $ 5,237     $ 2,414     $ -     $ 234,247  


 
Page 18

 


Allowance for Loan Losses
 
For the Three Months Ended June 30, 2011
 
   
Construction
                                           
   
& Land
   
1-4 Family
   
Multi-Family
   
Commercial
   
Commercial
                   
   
Development
   
Residential
   
Residential
   
Real Estate
   
Business
   
Consumer
   
Unallocated
   
Total
 
                                                 
Allowance for loan losses:
                                               
                                                 
Beginning         balance
  $ 7,184     $ 1,944     $ 32     $ 3,858     $ 1,072     $ 174     $ 1,122     $ 15,386  
Charge-offs
    (1,911 )     (552 )     -       (2,384 )     (1,105 )     (4 )     -       (5,956 )
Recoveries
    26       -       -       52       -       2       -       80  
Provision
    (209 )     (70 )     (2 )     962       726       3       3,090       4,500  
Ending balance
  $ 5,090     $ 1,322     $ 30     $ 2,488     $ 693     $ 175     $ 4,212     $ 14,010  
 
 
Allowance for Loan Losses and Recorded Investment in Loans Receivable
 
For the Six Months Ended June 30, 2011
 
   
Construction
                                           
   
& Land
   
1-4 Family
   
Multi-Family
   
Commercial
   
Commercial
                   
   
Development
   
Residential
   
Residential
   
Real Estate
   
Business
   
Consumer
   
Unallocated
   
Total
 
                                                 
Allowance for loan losses:
                                               
                                                 
Beginning balance
  $ 7,268     $ 1,480     $ 51     $ 4,455     $ 637     $ 174     $ 1,012     $ 15,077  
Charge-offs
    (2,036 )     (610 )     -       (2,384 )     (1,115 )     (16 )     -       (6,161 )
Recoveries
    26       8       -       52       -       8       -       94  
Provision
    (168 )     444       (21 )     365       1,171       9       3,200       5,000  
Ending balance
  $ 5,090     $ 1,322     $ 30     $ 2,488     $ 693     $ 175     $ 4,212     $ 14,010  
                                                                 
Ending balance individually evaluated for impairment
  $ 688     $ 172     $ -     $ 33     $ 34     $ 160     $ -     $ 1,087  
                                                                 
Ending balance collectively evaluated for impairment
  $ 4,402     $ 1,150     $ 30     $ 2,455     $ 659     $ 15     $ 4,212     $ 12,923  
                                                                 
Loans receivable:
                                                               
                                                                 
Ending balance
  $ 66,766     $ 114,160     $ 4,710     $ 151,902     $ 12,929     $ 3,612     $ -     $ 354,079  
                                                                 
Ending balance individually evaluated for impairment
  $ 24,702     $ 13,079     $ -     $ 37,963     $ 68     $ 160     $ -     $ 75,972  
                                                                 
Ending balance collectively evaluated for impairment
  $ 42,064     $ 101,081     $ 4,710     $ 113,939     $ 12,861     $ 3,452     $ -     $ 278,107  


 
Page 19

 

 
Loans Receivable on Nonaccrual Status
As of June 30, 2012
 
Construction
           
 
& Land
1-4 Family
Multi-Family
Commercial
Commercial
   
 
Development
Residential
Residential
Real Estate
Business
Consumer
Total
               
Unpaid Principal Balance
$8,519
$9,280
$-
$4,114
$510
$-
$22,423
 
Loans Receivable on Nonaccrual Status
As of December 31, 2011
 
Construction
           
 
& Land
1-4 Family
Multi-Family
Commercial
Commercial
   
 
Development
Residential
Residential
Real Estate
Business
Consumer
Total
               
Unpaid Principal Balance
$23,670
$8,023
$-
$5,956
$161
$5
$37,815
 
 
 
Troubled Debt Restructurings
 
For the Six Months Ended June 30, 2012
 
   
Construction
                                     
   
& Land
   
1-4 Family
   
Multi-Family
   
Commercial
   
Commercial
             
   
Development
   
Residential
   
Residential
   
Real Estate
   
Business
   
Consumer
   
Total
 
                                           
Troubled Debt Restructurings:
                                         
                                           
Number of Loans
    3       6       -       3       -       -       12  
                                                         
Pre-Modification Principal Balance
  $ 4,430     $ 1,645     $ -     $ 1,457     $ -     $ -     $ 7,532  
                                                         
Post-Modification Principal Balance
  $ 2,791     $ 1,604     $ -     $ 1,455     $ -     $ -     $ 5,850  
                                                         
Troubled Debt Restructurings That Subsequently Defaulted:
                                                       
                                                         
Number of Loans
    1       4       -       2       -       -       7  
                                                         
Current Principal Balance
  $ 1,814     $ 1,292     $ -     $ 2,864     $ -     $ -     $ 5,970  
 
 
 
Page 20

 

 
 Troubled Debt Restructurings  
For the Six Months Ended June 30, 2011
 
   
Construction
                                     
   
& Land
   
1-4 Family
   
Multi-Family
   
Commercial
   
Commercial
             
   
Development
   
Residential
   
Residential
   
Real Estate
   
Business
   
Consumer
   
Total
 
                                           
Troubled Debt Restructurings:
                                         
                                           
Number of Loans
    -       9       -       2       -       -       11  
                                                         
Pre-Modification Principal Balance
  $ -     $ 1,726     $ -     $ 11,443     $ -     $ -     $ 13,169  
                                                         
Post-Modification Principal Balance
  $ -     $ 1,660     $ -     $ 11,431     $ -     $ -     $ 13,091  
                                                         
Troubled Debt Restructurings That Subsequently Defaulted:
                                                       
                                                         
Number of Loans
    -       1       -       2       -       -       3  
                                                         
Current Principal Balance
  $ -     $ 673     $ -     $ 1,339     $ -     $ -     $ 2,012  



Troubled Debt Restructurings
 
For the Three Months Ended June 30, 2012
 
   
Construction
                                     
   
& Land
   
1-4 Family
   
Multi-Family
   
Commercial
   
Commercial
             
   
Development
   
Residential
   
Residential
   
Real Estate
   
Business
   
Consumer
   
Total
 
                                           
Troubled Debt Restructurings:
                                         
                                           
Number of Loans
    2       1       -       -       -       -       3  
                                                         
Pre-Modification Principal Balance
  $ 4,163     $ 16     $ -     $ -     $ -     $ -     $ 4,179  
                                                         
Post-Modification Principal Balance
  $ 2,524     $ 16     $ -     $ -     $ -     $ -     $ 2,540  
                                                         
Troubled Debt Restructurings That Subsequently Defaulted:
                                                       
                                                         
Number of Loans
    -       2       -       -       -       -       2  
                                                         
Current Principal Balance
  $ -     $ 280     $ -     $ -     $ -     $ -     $ 280  
 
 
 
Page 21

 
 

 
Troubled Debt Restructurings
 
For the Three Months Ended June 30, 2011
 
   
Construction
                                     
   
& Land
   
1-4 Family
   
Multi-Family
   
Commercial
   
Commercial
             
   
Development
   
Residential
   
Residential
   
Real Estate
   
Business
   
Consumer
   
Total
 
                                           
Troubled Debt Restructurings:
                                         
                                           
Number of Loans
    -       1       -       2       -       -       3  
                                                         
Pre-Modification Principal Balance
  $ -     $ 54     $ -     $ 11,443     $ -     $ -     $ 11,497  
                                                         
Post-Modification Principal Balance
  $ -     $ 54     $ -     $ 11,431     $ -     $ -     $ 11,485  
                                                         
Troubled Debt Restructurings That Subsequently Defaulted:
                                                       
                                                         
Number of Loans
    -       -       -       -       -       -       -  
                                                         
Current Principal Balance
  $ -     $ -     $ -     $ -     $ -     $ -     $ -  

 
Impaired Loans
 
For the Three Months Ended June 30, 2012
 
   
Construction
                                     
   
& Land
   
1-4 Family
   
Multi-Family
   
Commercial
   
Commercial
             
   
Development
   
Residential
   
Residential
   
Real Estate
   
Business
   
Consumer
   
Total
 
                                           
Loans With a Valuation Allowance:
                                         
                                           
Average Recorded Investment
  $ 1,085     $ 470     $ -     $ 495     $ 374     $ 79     $ 2,503  
                                                         
Interest Income Recognized
  $ 14     $ 57     $ -     $ (2 )   $ 3     $ -     $ 72  
                                                         
Loans Without a Valuation Allowance:
                                                       
                                                         
Average Recorded Investment
  $ 655     $ 206     $ -     $ 1,439     $ 10     $ 3     $ 2,313  
                                                         
Interest Income Recognized
  $ (1,202 )   $ 80     $ -     $ 187     $ -     $ -     $ (935 )
                                                         
Totals:
                                                       
                                                         
Average Recorded Investment
  $ 1,740     $ 676     $ -     $ 1,934     $ 384     $ 82     $ 4,816  
                                                         
Interest Income Recognized
  $ (1,188 )   $ 137     $ -     $ 185     $ 3     $ -     $ (863 )


 
Page 22

 

 
   
 
Impaired Loans
 
As of and For the Six Months Ended June 30, 2012
 
   
Construction
                                     
   
& Land
   
1-4 Family
   
Multi-Family
   
Commercial
   
Commercial
             
   
Development
   
Residential
   
Residential
   
Real Estate
   
Business
   
Consumer
   
Total
 
                                           
Loans With a Valuation Allowance:
                                         
                                           
Unpaid Principal Balance
  $ 5,455     $ 3,633     $ -     $ 693     $ 490     $ -     $ 10,271  
                                                         
Related Allowance for Loan Losses
  $ 562     $ 613     $ -     $ 242     $ 285     $ -     $ 1,702  
                                                         
Average Recorded Investment
  $ 909     $ 726     $ -     $ 693     $ 490     $ -     $ 2,818  
                                                         
Interest Income Recognized
  $ 14     $ 77     $ -     $ 4     $ 8     $ -     $ 103  
                                                         
Loans Without a Valuation Allowance:
                                                       
                                                         
Unpaid Principal Balance
  $ 3,329     $ 11,283     $ -     $ 21,773     $ 20     $ -     $ 36,405  
                                                         
Related Allowance for Loan Losses
  $ -     $ -     $ -     $ -     $ -     $ -     $ -  
                                                         
Average Recorded Investment
  $ 277     $ 198     $ -     $ 1,281     $ 20     $ -     $ 1,776  
                                                         
Interest Income Recognized
  $ 18     $ 197     $ -     $ 476     $ -     $ -     $ 691  
                                                         
Totals:
                                                       
                                                         
Unpaid Principal Balance
  $ 8,784     $ 14,916     $ -     $ 22,466     $ 510     $ -     $ 46,676  
                                                         
Related Allowance for Loan Losses
  $ 562     $ 613     $ -     $ 242     $ 285     $ -     $ 1,702  
                                                         
Average Recorded Investment
  $ 1,186     $ 924     $ -     $ 1,974     $ 510     $ -     $ 4,594  
                                                         
Interest Income Recognized
  $ 32     $ 274     $ -     $ 480     $ 8     $ -     $ 794  
 
 
Page 23

 
 
 
Impaired Loans  
As of and For the Year Ended December 31, 2011
 
   
Construction
                                     
   
& Land
   
1-4 Family
   
Multi-Family
   
Commercial
   
Commercial
             
   
Development
   
Residential
   
Residential
   
Real Estate
   
Business
   
Consumer
   
Total
 
                                           
Loans With a Valuation Allowance:
                                         
                                           
Unpaid Principal Balance
  $ 6,214     $ 3,658     $ -     $ 1,013     $ -     $ -     $ 10,885  
                                                         
Related Allowance for Loan Losses
  $ 405     $ 560     $ -     $ 130     $ -     $ -     $ 1,095  
                                                         
Average Recorded Investment
  $ 4,986     $ 2,963     $ -     $ 7,168     $ 260     $ 80     $ 15,457  
                                                         
Interest Income Recognized
  $ 116     $ 179     $ -     $ 50     $ -     $ -     $ 345  
                                                         
Loans Without a Valuation Allowance:
                                                       
                                                         
Unpaid Principal Balance
  $ 17,457     $ 11,433     $ 286     $ 22,701     $ 661     $ 163     $ 52,701  
                                                         
Related Allowance for Loan Losses
  $ -     $ -     $ -     $ -     $ -     $ -     $ -  
                                                         
Average Recorded Investment
  $ 19,828     $ 11,627     $ 288     $ 19,061     $ 330     $ 81     $ 51,215  
                                                         
Interest Income Recognized
  $ 293     $ 551     $ 24     $ 1,112     $ 39     $ 6     $ 2,025  
                                                         
Totals:
                                                       
                                                         
Unpaid Principal Balance
  $ 23,671     $ 15,091     $ 286     $ 23,714     $ 661     $ 163     $ 63,586  
                                                         
Related Allowance for Loan Losses
  $ 405     $ 560     $ -     $ 130     $ -     $ -     $ 1,095  
                                                         
Average Recorded Investment
  $ 24,814     $ 14,590     $ 288     $ 26,229     $ 590     $ 161     $ 66,672  
                                                         
Interest Income Recognized
  $ 409     $ 730     $ 24     $ 1,162     $ 39     $ 6     $ 2,370  
 
 
Page 24

 
 
Impaired Loans
For the Three Months Ended June 30, 2011
 
   
Construction
                                     
   
& Land
   
1-4 Family
   
Multi-Family
   
Commercial
   
Commercial
             
   
Development
   
Residential
   
Residential
   
Real Estate
   
Business
   
Consumer
   
Total
 
                                           
Loans With a Valuation Allowance:
                                         
                                           
Average Recorded Investment
  $ 3,089     $ 1,372     $ -     $ 7,267     $ 111     $ -     $ 11,839  
                                                         
Interest Income Recognized
  $ 25     $ 4     $ -     $ -     $ -     $ -     $ 29  
                                                         
Loans Without a Valuation Allowance:
                                                       
                                                         
Average Recorded Investment
  $ 20,522     $ 6,635     $ -     $ 11,486     $ -     $ -     $ 38,643  
                                                         
Interest Income Recognized
  $ 42     $ 101     $ -     $ (31 )   $ -     $ -     $ 112  
                                                         
Totals:
                                                       
                                                         
Average Recorded Investment
  $ 23,611     $ 8,007     $ -     $ 18,753     $ 111     $ -     $ 50,482  
                                                         
Interest Income Recognized
  $ 67     $ 105     $ -     $ (31 )   $ -     $ -     $ 141  



Impaired Loans
 
As of and For the Six Months Ended June 30, 2011
 
   
Construction
                                     
   
& Land
   
1-4 Family
   
Multi-Family
   
Commercial
   
Commercial
             
   
Development
   
Residential
   
Residential
   
Real Estate
   
Business
   
Consumer
   
Total
 
                                           
Loans With a Valuation Allowance:
                                         
                                           
Unpaid Principal Balance
  $ 1,989     $ 663     $ -     $ -     $ -     $ -     $ 2,652  
                                                         
Related Allowance for Loan Losses
  $ 344     $ 20     $ -     $ -     $ -     $ -     $ 364  
                                                         
Average Recorded Investment
  $ 2,874     $ 1,056     $ -     $ 4,998     $ -     $ -     $ 8,928  
                                                         
Interest Income Recognized
  $ 25     $ 10     $ -     $ -     $ -     $ -     $ 35  
                                                         
Loans Without a Valuation Allowance:
                                                       
                                                         
Unpaid Principal Balance
  $ 16,892     $ 5,769     $ -     $ 13,528     $ -     $ -     $ 36,189  
                                                         
Related Allowance for Loan Losses
  $ -     $ -     $ -     $ -     $ -     $ -     $ -  
                                                         
Average Recorded Investment
  $ 19,053     $ 6,377     $ -     $ 12,275     $ -     $ -     $ 37,705  
                                                         
Interest Income Recognized
  $ 101     $ 101     $ -     $ 28     $ -     $ -     $ 230  
                                                         
Totals:
                                                       
                                                         
Unpaid Principal Balance
  $ 18,881     $ 6,432     $ -     $ 13,528     $ -     $ -     $ 38,841  
                                                         
Related Allowance for Loan Losses
  $ 344     $ 20     $ -     $ -     $ -     $ -     $ 364  
                                                         
Average Recorded Investment
  $ 21,927     $ 7,433     $ -     $ 17,273     $ -     $ -     $ 46,633  
                                                         
Interest Income Recognized
  $ 126     $ 111     $ -     $ 28     $ -     $ -     $ 265  


 
Page 25

 
 
CECIL BANCORP, INC. AND SUBSIDIARIES
ITEM 2: MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS

Forward-Looking Statements.  This Management’s Discussion and Analysis of financial condition and results of operations and other portions of this report include forward-looking statements such as: statements of the Company’s goals, intentions, and expectations; estimates of risks and of future costs and benefits; assessments of loan quality and of possible loan losses; and statements of the Company’s ability to achieve financial and other goals.  These forward-looking statements are subject to significant uncertainties because they are based upon: future interest rates, market behavior, and other economic conditions; future laws and regulations; and a variety of other matters.  Because of these uncertainties, the actual future results may be materially different from the results indicated by these forward-looking statements.  In addition, the Company’s past growth and performance do not necessarily indicate its future results.

You should read this Management’s Discussion and Analysis of the Company’s consolidated financial condition and results of operations in conjunction with the Company’s unaudited consolidated financial statements and the accompanying notes.
 
General
 
Cecil Bancorp, Inc. (the “Company”) is the bank holding company for Cecil Bank (the “Bank”). The Company is subject to regulation by the Federal Reserve System. The Bank is a community-oriented Maryland chartered commercial bank, is a member of the Federal Reserve System and the Federal Home Loan Bank (“FHLB”) of Atlanta, and is an Equal Housing Lender. Its deposits are insured by the Deposit Insurance Fund (“DIF”) of the Federal Deposit Insurance Corporation (“FDIC”). The Bank commenced operations in 1959 as a Federal savings and loan association. On October 1, 2002, the Bank converted from a stock federal savings bank to a commercial bank. Its deposits have been federally insured up to applicable limits, and it has been a member of the FHLB system since 1959.
 
The Bank conducts it business through its main office in Elkton, Maryland, and branches in Elkton, North East, Fair Hill, Rising Sun, Cecilton, Aberdeen, Conowingo, and Havre de Grace, Maryland.
 
The Bank’s business strategy is to operate as an independent community-oriented commercial bank dedicated to real estate, commercial, and consumer lending, funded primarily by retail deposits. The Bank has sought to implement this strategy by (1) continuing to emphasize residential mortgage lending through the origination of adjustable-rate and fixed-rate mortgage loans; (2) investing in adjustable-rate and short-term liquid investments; (3) controlling interest rate risk exposure; (4) maintaining asset quality; (5) containing operating expenses; and (6) maintaining “well capitalized” status. The Bank offers a full range of brokerage and investment services through a relationship with Waterford Investor Services, Inc.
 
On December 23, 2008, as part of the Troubled Asset Relief Program (“TARP”) Capital Purchase Program, the Company sold 11,560 shares of Fixed Rate Cumulative Perpetual Preferred Stock, Series A (the “Series A Preferred Stock”), and a warrant to purchase 523,076 shares of the Company’s common stock (after adjustment for the 2-for-1 stock split approved by the Board of Directors in May 2011) to the United States Department of the Treasury for an aggregate purchase price of $11.560 million in cash, with $37,000 in offering costs, and net proceeds of $11.523 million. The Preferred Stock and the warrant were issued in a private placement exempt from registration pursuant to Section 4(2) of the Securities Act of 1933, as amended.
 
The Series A Preferred Stock qualifies as Tier 1 capital and will pay cumulative dividends at a rate of 5% per annum for the first five years, and 9% per annum thereafter. The Department of Treasury may permit the Company to redeem the Series A Preferred Stock in whole or in part at any time after consultation with the appropriate federal banking agency.  Any partial redemption must involve at least 25% of the Series A Preferred Stock issued.  Upon redemption of the Series A Preferred Stock, the Company will have the right to repurchase the Warrant at its fair market value.
 
The warrant has a 10-year term and is immediately exercisable upon its issuance, with an exercise price, subject to anti-dilution adjustments, equal to $3.315 per share of common stock. The Treasury has agreed not to exercise voting power with respect to any shares of common stock issued upon exercise of the warrant.
 
 
Page 26

 
In the event of any liquidation, dissolution or winding up of the affairs of the Company, whether voluntary or involuntary, holders of the Series A Preferred Stock shall be entitled to receive for each share of the Series A Preferred Stock, out of the assets of the Company or proceeds thereof (whether capital or surplus) available for distribution to stockholders of the Company, subject to the rights of any creditors of the Company, before any distribution of such assets or proceeds is made to or set aside for the holders of common stock and any other stock of the Company ranking junior to the Series A Preferred Stock as to such distribution, payment in full in an amount equal to the sum of (i) the liquidation amount of $1,000 per share and (ii) the amount of any accrued and unpaid dividends, whether or not declared, to the date of payment.
 
In order to conserve cash in the current uncertain economic environment, the Company’s Board of Directors determined that it was in the best interest of the Company and its stockholders to suspend the payment of dividends on the Series A Preferred Stock beginning with the dividend payable February 15, 2010.  We may not declare or pay a dividend or other distribution on our common stock (other than dividends payable solely in common stock), and we generally may not directly or indirectly purchase, redeem or otherwise acquire any shares of common stock unless all accrued and unpaid dividends on the Series A Preferred Stock have been paid in full.  Whenever six or more quarterly dividends, whether or not consecutive, have not been paid, the holders of the Series A Preferred Stock will have the right to elect two directors until all accrued but unpaid dividends have been paid in full.
 
Effective June 29, 2010, the Company and the Bank entered into a written agreement with the Federal Reserve Bank of Richmond (the “Reserve Bank”) and the State of Maryland Commissioner of Financial Regulation (the “Commissioner”) pursuant to which the Company and the Bank have agreed to take various actions.  Under the agreement, both the Company and the Bank have agreed to refrain from declaring or paying dividends without prior regulatory approval.  The Company has agreed that it will not take any other form of payment representing a reduction in the Bank’s capital or make any distributions of interest, principal, or other sums on subordinated debentures or trust preferred securities without prior regulatory approval.  The Company may not incur, increase, or guarantee any debt without prior regulatory approval and has agreed not to purchase or redeem any shares of its stock without prior regulatory approval.

On March 30, 2012, the Company completed the sale of 142,196 shares of Mandatory Convertible Cumulative Junior Preferred Stock, Series B (the “Series B Preferred Stock”) at $17.20 per share in cash for aggregate consideration of approximately $2.5 million, with offering costs of $35,000, and net proceeds of approximately $2.4 million.  In April 2012, an additional 22,379 shares were sold for aggregate consideration of approximately $385,000.  Total gross proceeds of the offering were $2.8 million, with offering costs of $35,000, and net proceeds of approximately $2.8 million.  Upon shareholder approval of an amendment to the Company’s Articles of Incorporation to increase the authorized number of shares of common stock, each share of Series B Preferred Stock will become convertible into ten shares of common stock.
 
The Series B Preferred Stock will pay dividends, if, as and when authorized and declared by the Board of Directors, at a rate of 5% per annum, provided that if stockholders do not approve the amendment to increase the number of authorized shares of common stock within one year of the issue date, the dividend rate will increase to 9%.  No dividends may be paid on the Series B Preferred Stock until all dividends have been paid on our Series A Preferred Stock.  Unpaid dividends will accumulate.
 
In the event of any liquidation, dissolution or winding up of the affairs of the Company, whether voluntary or involuntary, holders of the Series B Preferred Stock shall be entitled to receive for each share of the Series B Preferred Stock, out of the assets of the Company or proceeds thereof (whether capital or surplus) available for distribution to stockholders of the Company, subject to the rights of any creditors of the Company and after payment of liquidation amounts due the holders of Series A Preferred Stock, before any distribution of such assets or proceeds is made to or set aside for the holders of common stock and any other stock of the Company ranking junior to the Series B Preferred Stock as to such distribution, payment in full in an amount equal to the $17.20 liquidation preference amount per share.  To the extent the assets or proceeds available for distribution to stockholders are not sufficient to fully pay the liquidation payments owing to the holders of the Series B Preferred Stock and the holders of any other class or series of our stock ranking equally with the Series B Preferred Stock, the holders of the Series B Preferred Stock and such other stock will share ratably in the distribution.

Each share of the Series B Preferred Stock is convertible at the option of the holder into ten whole shares of common stock plus such number of whole shares that would be obtained by dividing the dollar amount of accrued but unpaid dividends by the conversion price of $1.72.  The minimum conversion price will be adjusted proportionately for stock dividends, stock splits and other corporate actions.  No fractional shares of common stock will be issued on the conversion of the Series B Preferred Stock.  In lieu of fractional shares, holders receive the cash value of such fractional share based on the closing price of the
 
 
Page 27

 
common stock on the date preceding the conversion.  Holders may exercise conversion rights by surrendering the certificates representing the shares of Series B Preferred Stock to be converted to the Company with a letter of transmittal specifying the number of shares of Series B Preferred Stock that the holder wishes to convert and the names and addresses in which the shares of common stock are to be issued.
 
On the earlier of five years from the date of issue or the effective date of a fundamental change in the Company, each share of the Series B Preferred Stock will be automatically converted into ten shares of common stock plus such number of whole shares of common stock that would be obtained by dividing the dollar amount of accrued but unpaid dividends by $1.72.  In lieu of issuing fractional shares, the Company will pay holders cash in an amount equal to $1.72 per share.
 
Asset/Liability Management
 
The ability to maximize net interest income is largely dependent upon the achievement of a positive interest rate spread (the difference between the weighted average interest yields earned on interest-earning assets and the weighted average interest rates paid on interest-bearing liabilities) that can be sustained during fluctuations in prevailing interest rates.  The Company’s asset/liability management policies are designed to reduce the impact of changes in interest rates on its net interest income by achieving a favorable relationship between the maturities or repricing dates of its interest-earning assets and interest-bearing liabilities.  The Bank’s lending policy emphasizes the origination of one-year, three-year, or five-year adjustable rate mortgage loans, adjustable rate commercial loans and lines of credit, and short-term consumer loans.  The Bank is currently originating residential mortgage loans for sale in the secondary market through the Federal Home Loan Mortgage Corporation.  Management has been monitoring the retention of fixed rate loans through its asset/liability management policy.
 
Comparison of Financial Condition at June 30, 2012 and December 31, 2011
 
The Company’s assets decreased by $3.8 million, or 0.8%, to $459.8 million at June 30, 2012 from $463.7 million at December 31, 2011 primarily as a result of decreases in cash and cash equivalents, investment securities, loans receivable, and assets held for sale, partially offset by an increase in other real estate owned.  An increase in deposits and proceeds from the sale of Series B Preferred Stock allowed us to pay off a $10.0 million advance from the Federal Home Loan Bank of Atlanta.
 
Cash and cash equivalents decreased by $3.0 million, or 8.7%, to $31.4 million at June 30, 2012 from $34.4 million at December 31, 2011 primarily due to the repayment of the $10.0 million advance from FHLB, partially offset by cash obtained from an increase in deposits, the sale of Series B Preferred Stock, and the decline in investment securities and assets held for sale.  Investment securities available-for-sale increased by $2.9 million, or 12.1%, to $26.5 million at June 30, 2012 from $23.7 million at December 31, 2011.  Investment securities held-to-maturity decreased by $3.8 million, or 39.5%, to $5.9 million at June 30, 2012 from $9.7 million at December 31, 2011, for a net decrease in investment securities of $1.0 million.  The decrease in securities partially funded the FHLB advance repayment.  Restricted investment securities decreased by $375,000, or 8.7%, to $3.9 million at June 30, 2012 from $4.3 million at December 31, 2011 due to a decline in the balance of FHLB stock required by FHLB, which is based on asset size and outstanding advances.
 
Gross loans receivable decreased by $6.1 million, or 1.8%, to $324.2 million at June 30, 2012 from $330.3 million at December 31, 2011.  The decrease in loans receivable is primarily due to two large credits that were transferred to other real estate owned during the second quarter 2012.  During the period, we realized a $10.8 million (9.7%) decrease in one-to-four family residential and home equity loans, a $2.3 million (3.6%) decrease in construction and land development loans, and a $484,000 (16.7%) decrease in consumer loans.  These declines were partially offset by a $6.7 million (4.7%) increase in commercial real estate loans, a $700,000 (8.9%) increase in commercial business loans, and a $97,000 (2.2%) increase in multi-family residential real estate loans.  The allowance for loan losses decreased by $1.5 million, or 12.1%, to $10.9 million at June 30, 2012 from $12.4 million at December 31, 2011 (see “Analysis of Allowance for Loan Losses” below).
 
Other real estate owned increased by $10.9 million, or 35.4%, to $41.9 million at June 30, 2012 from $31.0 million at December 31, 2011 primarily due to the acquisition of properties in satisfaction of two large loans receivable.  Assets held for sale decreased by $5.9 million to zero at June 30, 2012 from $5.9 million at December 31, 2011 due to the settlement on premises held for sale and our investment in Elkton Senior Apartments LLC.
 
The Company’s liabilities decreased $4.7 million, or 1.1%, to $426.7 million at June 30, 2012 from $431.4 million at December 31, 2011. The $4.2 million, or 1.2%, increase in deposits to $343.3 million at June 30, 2012 from $339.1 million at December 31, 2011, was primarily due to increases in checking accounts (up $3.2 million, or 13.6%), passbook savings accounts (up $1.8 million, or 15.8%),  NOW accounts (up $1.2 million, or 4.1%), IRA certificates of deposit (up $984,000, or 4.1%), statement savings accounts (up $983,000, or 9.3%), money market accounts (up $860,000, or 6.5%), partially offset by decreases in certificates of deposit (down $4.6 million, or 2.1%) and money market certificates (down $397,000, or 5.6%).  Other liabilities
Page 28

increased by $1.1 million, or 10.8%, to $11.8 million at June 30, 2012 from $10.6 million at December 31, 2011 primarily due to increases in accrued FDIC premium, accrued interest payable on junior subordinated debentures, preferred stock dividend payable, and the liability for official checks sold on June 30.
 
The Company’s stockholders’ equity increased by $823,000, or 2.6%, to $33.1 million at June 30, 2012 from $32.3 million at December 31, 2011.  This increase is primarily the result of $2.8 million in net proceeds from the issuance of Series B Preferred Stock, partially offset by the net loss of $1.8 million and $289,000 in cash dividends accrued on preferred stock.
 
Comparison of Results of Operations for the Three Months Ended June 30, 2012 and 2011
 
Net loss for the three month period ended June 30, 2012 decreased $2.5 million, or 90.1% to $271,000 as compared to net loss for the same period in 2011 of $2.7 million. This decrease was primarily the result of a decrease in the provision for loan losses and an increase in noninterest income, partially offset by a decrease in net interest income and increases in noninterest expense and income tax expense.  Net loss available to common stockholders for the three month period ended June 30, 2012 decreased $2.5 million, or 84.4%, to $454,000 as compared to net loss available to common stockholders for the same period in 2011 of $2.9 million.  Net loss available to common stockholders for 2012 and 2011 reflects the net loss for the period, as well as dividend accruals and discount accretion on outstanding Preferred Stock totaling $183,000 and $181,000, respectively.  Basic and diluted loss per common share were both $0.06 for the second quarter of 2012, a decrease of 84.6%, from basic and diluted loss per share of $0.39 for the same period in 2011.  Earnings per share have been adjusted to give retroactive effect to the 2-for-1 stock split approved by the Board of Directors in May 2011.  The annualized return on average assets and annualized return on average equity were -0.23% and -3.29% respectively, for the three-month period ended June 30, 2012. This compares to an annualized return on average assets and annualized return on average equity of -2.30% and -29.26% respectively, for the same period in 2011.
 
Net interest income, the Company’s primary source of income, decreased 6.0%, or $213,000, to $3.4 million for the three months ended June 30, 2012, from $3.6 million over the same period in 2011.  The weighted average yield on interest earning assets decreased to 5.43% for the three months ended June 30, 2012 from 5.56% for the three months ended June 30, 2011.  The weighted average rate paid on interest bearing liabilities decreased to 1.50% for the three months ended June 30, 2012 from 1.80% for the three months ended June 30, 2011.  The net interest margin increased to 3.69% for the three months ended June 30, 2012 as compared to 3.61% for the same period in 2011.
 
Interest and fees on loans decreased by $559,000, or 10.4%, to $4.8 million for the three months ended June 30, 2012 from $5.4 million for the three months ended June 30, 2011.  The decrease is attributable to decreases in the average balance outstanding and the weighted-average yield.  The average balance outstanding decreased by $28.6 million, or 8.2%, to $319.6 million for the three months ended June 30, 2012 from $348.2 million for the three months ended June 30, 2011.  The weighted-average yield decreased to 6.02% for the three months ended June 30, 2012 from 6.16% for the three month period ended June 30, 2011.
 
Interest on investment securities decreased $14,000, or 14.4%, to $83,000 for the three months ended June 30, 2012 from $97,000 for the three months ended June 30, 2011.  The average balance outstanding increased $14.3 million, or 73.2%, to $33.9 million for the three months ended June 30, 2012 from $19.6 million over the three months ended June 30, 2011.  The weighted-average yield decreased to 0.98% for the three months ended June 30, 2012 from 1.97% for the three months ended June 30, 2011.
 
Dividends on Federal Reserve and Federal Home Loan Bank stock increased by $18,000, or 105.9%, to $35,000 for the three months ended June 30, 2012 from $17,000 for the three months ended June 30, 2011.  The average balance outstanding decreased by $225,000, or 5.1%, to $4.2 million for the three months ended June 30, 2012 from $4.4 million for the three months ended June 30, 2011.  The weighted-average yield increased to 3.33% for the three months ended June 30, 2012 from 1.56% for the three months ended June 30, 2011.
 
Interest on deposits decreased $184,000, or 16.4%, to $941,000 for the three months ended June 30, 2012 from $1.1 million for the three months ended June 30, 2011.  The average balance outstanding decreased $1.1 million, or 0.3%, to $345.2 million for the three months ended June 30, 2012 from $346.3 million for the three months ended June 30, 2011.  The weighted-average rate paid decreased to 1.09% for the three months ended June 30, 2012 from 1.30% for the three months ended June 30, 2011.  Interest expense on junior subordinated debentures decreased $83,000, or 46.4%, to $96,000 for the three months ended June 30, 2012 from $179,000 for the three months ended June 30, 2011.  The interest rate on $10.0 million of the junior subordinated debentures began to adjust quarterly on April 1, 2011 to 3-month LIBOR plus 1.38%.  The interest rate on the remaining $7.0 million began to adjust quarterly on March 7, 2012 to 3-month LIBOR plus 1.68%.  The average balance outstanding remained level at $17.0 million and the weighted average rate was 2.26% and 4.20%, respectively, for the three months ended June 30, 2012 and 2011.
 
Page 29

 
The provision for loan losses decreased by $4.4 million to $110,000 for the three months ended June 30, 2012 from $4.5 million over the same period in 2011 (see “Analysis of Allowance for Loan Losses” below).
 
Noninterest income increased 164.0%, or $456,000, to $734,000 for the three months ended June 30, 2012, from $278,000 over the same period in 2011.  Deposit account fees decreased by $19,000, or 13.6%, to $121,000 for the three months ended June 30, 2012 from $140,000 for the same period in 2011.  Gain on sale of loans increased $267,000 to $297,000 for the three months ended June 30, 2012 from $30,000 for the three months ended June 30, 2011 due to the Bank’s new Small Business Administration loan program, the guaranteed portion of which are sold in the secondary market.  Loss on sale of other real estate owned decreased $125,000, or 89.3%, to $15,000 for the three months ended June 30, 2012 from a loss of $140,000 for the three months ended June 30, 2011.  Other income increased $84,000, or 112.0%, to $159,000 for the three months ended June 30, 2012 from $75,000 for the same period in 2011 primarily due to an increase in rental income on other real estate owned.
 
Noninterest expense increased 12.8%, or $504,000, to $4.5 million for the three months ended June 30, 2012, from $4.0 million over the same period in 2011.  Salaries and employee benefits decreased $248,000, or 17.7%, to $1.2 million for the three months ended June 30, 2012, as compared to $1.4 million for the same period in 2011 primarily due to a decline in officer and employee compensation.  Equipment and data processing expense decreased by $16,000, or 4.9%, to $312,000 for the three months ended June 30, 2012 from $328,000 for the three months ended June 30, 2011 primarily due to a decline in small equipment purchases.  FDIC deposit insurance premiums decreased by $389,000, or 61.6%, to $243,000 for the three months ended June 30, 2012 from $632,000 for the three months ended June 30, 2011 due to a change in the assessment base, which is now based on average assets less average equity.  Other real estate owned expense and valuation increased by $762,000 or 118.1% to $1.4 million for the three months ended June 30, 2012 from $645,000 for the three months ended June 30, 2011 due to an increase in the number and balance of properties owned.  Professional fees increased by $108,000, or 36.5%, to $404,000 for the three months ended June 30, 2012 from $296,000 for the same period in 2011 primarily due to legal fees relating to problem asset resolution.  Loan collection expense increased by $145,000, or 72.9%, to $344,000 for the three months ended June 30, 2012 from $199,000 for the three months ended June 30, 2011.  Other noninterest expense increased by $143,000, or 52.8%, to $414,000 for the quarter ended June 30, 2012 from $271,000 for the same period in 2011 primarily due to an increase in loan and insurance expenses.
 
Income tax benefit for the three-month period ended June 30, 2012 was $208,000, as compared to a benefit of $1.9 million for the same period in 2011, which equates to effective tax rates of (43.4)% and (40.7)%, respectively.
 
Comparison of Results of Operations for the Six Months Ended June 30, 2012 and 2011
 
Net loss for the six month period ended June 30, 2012 was $1.8 million as compared to net loss for the same period in 2011 of $2.6 million.  This increase was primarily the result of a decrease in the provision for loan losses and an increase in noninterest income, partially offset by a decrease in net interest income and increases in noninterest expense and income tax expense.  Net loss available to common stockholders for the six month period ended June 30, 2012 was $2.2 million as compared to net loss available to common stockholders for the same period in 2011 of $3.0 million.  Net loss available to common stockholders for the 2012 and 2011 periods reflects $367,000 and $362,000, respectively, in dividends and discount accretion on the outstanding Preferred Stock in addition to the net loss for the period.  Basic and diluted loss per common share were both $0.29 for the six-month period ended June 30, 2012 as compared to a loss per common share of $0.41 for the same period in 2011.  Earnings per share have been adjusted to give retroactive effect to the 2-for-1 stock split approved by the Board of Directors in May 2011.  The annualized return on average assets and annualized return on average equity were -0.77% and               -9.54%, respectively, for the six-month period ended June 30, 2012. This compares to an annualized return on average assets and annualized return on average equity of -1.10% and -14.15%, respectively, for the same period in 2011.
 
Net interest income, the Company’s primary source of income, decreased 16.9%, or $1.2 million, to $6.1 million for the six months ended June 30, 2012, from $7.3 million over the same period in 2011.  The weighted-average yield on interest earning assets decreased to 5.11% for the six months ended June 30, 2012 from 5.70% for the six months ended June 30, 2011.  The weighted-average rate paid on interest bearing liabilities decreased to 1.58% for the six months ended June 30, 2012 from 1.90% for the six months ended June 30, 2011.  The net interest margin was 3.29% for the six months ended June 30, 2012 as compared to 3.65% for the same period in 2011.
 
Interest and fees on loans decreased by $2.0 million, or 18.3%, to $9.1 million for the six months ended June 30, 2012 from $11.2 million for the six months ended June 30, 2011.  The decrease is attributable to decreases in the average balance outstanding and the weighted-average yield.  The average balance outstanding decreased by $33.9 million to $320.6 million for the six months ended June 30, 2012 from $354.5 million for the six months ended June 30, 2011.  The weighted-average yield decreased to 5.71% for the six months ended June 30, 2012 from 6.31% for the six months ended June 30, 2011.
Page 30

 
Interest on investment securities increased $29,000, or 18.8%, to $183,000 for the six months ended June 30, 2012 from $154,000 for the six months ended June 30, 2011.  The average balance outstanding increased $17.7 million, or 110.9%, to $33.7 million for the six months ended June 30, 2012 from $16.0 million for the six months ended June 30, 2011.  The weighted-average yield decreased to 1.09% for the six months ended June 30, 2012 from 1.92% for the six months ended June 30, 2011.
 
Dividends on Federal Reserve and Federal Home Loan Bank stock increased $22,000 to $56,000 for the six months ended June 30, 2012 from $34,000 for the six months ended June 30, 2011.  The average balance outstanding decreased to by $155,000, or 3.5%, to $4.2 million for the six months ended June 30, 2012 from $4.4 million for the six months ended June 30, 2011.  The weighted-average yield increased to 2.63% for the six months ended June 30, 2012 from 1.56% for the six months ended June 30, 2011.
 
Interest on deposits decreased $476,000, or 20.0%, to $1.9 million for the six months ended June 30, 2012 from $2.4 million for the six months ended June 30, 2011.  The average balance outstanding decreased $7.2 million, or 2.1%, to $343.5 million for the six months ended June 30, 2012 from $350.7 million for the six months ended June 30, 2011.  The weighted-average rate paid decreased to 1.11% for the six months ended June 30, 2012 from 1.36% for the six months ended June 30, 2011.  Interest expense on junior subordinated debentures decreased $218,000, or 45.8%, to $258,000 for the six months ended June 30, 2012 from $476,000 for the six months ended June 30, 2011.  The interest rate on $10.0 million of the junior subordinated debentures began to adjust quarterly on April 1, 2011 to 3-month LIBOR plus 1.38%.  The interest rate on the remaining $7.0 million began to adjust quarterly on March 7, 2012 to 3-month LIBOR plus 1.68%.  The average balance outstanding remained level at $17.0 million and the weighted average rate was 3.04% and 5.60%, respectively, for the six months ended June 30, 2012 and 2011.  Interest expense on advances from the Federal Home Loan Bank of Atlanta decreased $65,000, or 5.3%, to $1.1 million for the six months ended June 30, 2012 from $1.2 million for the six months ended June 30, 2011.  The average balance outstanding decreased by $2.8 million, or 4.4%, to $60.7 million for the six months ended June 30, 2012 from $63.5 million for the six months ended June 30, 2011.  The weighted average rate decreased to 3.81% for the six months ended June 30, 2012 from 3.84% for the six months ended June 30, 2011.
 
The provision for loan losses decreased by $1.9 million to $3.1 million for the six months ended June 30, 2012 from $5.0 million over the same period in 2011 (see “Analysis of Allowance for Loan Losses” below).
 
Noninterest income increased 203.7%, or $1.3 million, to $1.9 million for the six months ended June 30, 2012, from $641,000 over the same period in 2011.  Deposit account fees decreased by $38,000, or 13.9%, to $236,000 for the six months ended June 30, 2012 from $274,000 for the six months ended June 30, 2011.  ATM fees increased by $15,000, or 6.7%, to $238,000 for the six months ended June 30, 2012 from $223,000 for the six months ended June 30, 2011 due to increased card interchange fees.  Gain on sale of loans increased $1.3 million to $1.4 million for the six months ended June 30, 2012 from $87,000 for the six months ended June 30, 2011 due to the Bank’s new Small Business Administration loan program, the guaranteed portion of which are sold in the secondary market.  Loss on sale of other real estate owned increased $80,000, or 55.2%, to $225,000 for the six months ended June 30, 2012, as compared to $145,000 for the six months ended June 30, 2011.  There were no gains on investments in the first six months of 2012, as compared to a $50,000 loss on investments in the first six months of 2011.  We fully reserved against our investment in the debt issued by a private company after the investee began experiencing financial difficulties and it became probable that our investment would not be recovered.  Income from bank owned life insurance decreased $10,000 to $92,000 for the six months ended June 30, 2012 from $102,000 for the six months ended June 30, 2011.  Other income increased $103,000, or 69.1%, to $252,000 for the six months ended June 30, 2012 from $149,000 for the same period in 2011, primarily due to an increase in rental income on other real estate owned, as well as the gain on sale of our investment in Elkton Senior Apartments LLC.
 
Noninterest expense increased 7.1%, or $527,000, to $8.0 million for the six months ended June 30, 2012 from $7.4 million over the same period in 2011.  Salaries and employee benefits decreased $207,000, or 7.7%, to $2.5 million for the six months ended June 30, 2012, as compared to $2.7 million for the same period in 2011 primarily due to a decline in officer compensation.  Occupancy expense decreased by $41,000, or 10.3%, to $359,000 for the six months ended June 30, 2012 from $400,000 for the same period in 2011 primarily due to decreases in office building repairs and maintenance and utilities expense.  FDIC deposit insurance premiums decreased by $294,000 to $530,000 for the six months ended June 30, 2012 from $824,000 for the six months ended June 30, 2011 due to a change in the assessment base, which is now based on average assets less average equity.  Other real estate owned expense and valuation increased by $501,000 to $1.8 million for the six months ended June 30, 2012 from $1.3 million for the six months ended June 30, 2011 due to an increase in the number and balance of properties owned, as well as the continued decline in real estate market values.  Professional fees increased by $451,000, or 97.4%, to $914,000 for the six months ended June 30, 2012 from $463,000 for the same period in 2011 primarily due to increases in legal fees relating to problem asset resolution, audit and accounting fees, and loan review and consulting expense.  Other noninterest
 
Page 31

 
expense increased by $193,000, or 33.9%, to $763,000 for the six months ended June 30, 2012 from $570,000 for the six months ended June 30, 2011 primarily due to an increase in loan and insurance expenses.
 
Income tax benefit for the six-month period ended June 30, 2012 was $1.2 million, as compared to $1.8 million for the same period in 2011.
 
Loans Receivable
 
The Company’s lending activities are predominantly conducted in Cecil and Harford Counties in the State of Maryland. The following table shows the composition of the loan portfolio at the indicated dates.
 
    
June 30, 2012
   
December 31, 2011
 
   
Amount
   
Percent
   
Amount
   
Percent
 
Type of Loan
                       
Real estate loans:
                       
  Construction and land development
  $ 60,713       18.73 %   $ 62,998       19.08 %
  1-4 family residential and home equity
    99,850       30.80       110,621       33.49  
  Multi-family residential
    4,555       1.40       4,458       1.35  
  Commercial
    148,109       45.69       141,438       42.83  
     Total real estate loans
    313,227       96.62       319,515       96.75  
Commercial business loans
    8,549       2.64       7,849       2.37  
Consumer loans
    2,414       0.74       2,898       0.88  
     Gross loans
    324,190       100.00 %     330,262       100.00 %
Less:  allowance for loan losses
    (10,908 )             (12,412 )        
     Net loans
  $ 313,282             $ 317,850          

Nonperforming Assets

 
Management reviews and identifies loans and investments that require designation as nonperforming assets.  Nonperforming assets are: loans accounted for on a nonaccrual basis, loans past due by 90 days or more but still accruing, restructured loans, and other real estate owned (assets acquired in settlement of loans).  The following table sets forth certain information with respect to nonperforming assets.
 
 
 
June 30,
   
December 31,
 
 (Dollars in thousands)  
2012
   
2011
 
                              
Nonaccrual loans
  $ 22,423     $ 37,815  
Loans 90 days or more past due and still accruing
    0       0  
Restructured loans
    24,253       25,771  
Total nonperforming loans
    46,676       63,586  
Other real estate owned, net
    41,925       30,966  
Total nonperforming assets
  $ 88,601     $ 94,552  
Nonperforming loans to total loans
    14.40 %     19.25 %
Nonperforming assets to total assets
    19.27       20.39  
Allowance for loan losses to non-performing loans
    23.37       19.52  
                 
 
Analysis of Allowance for Loan Losses
 
The Bank records provisions for loan losses in amounts necessary to maintain the allowance for loan losses at the level deemed appropriate. The allowance for loan losses is provided through charges to income in an amount that management believes will be adequate to absorb losses on existing loans that may become uncollectible, based upon evaluations of the collectibility of loans and prior loan loss experience. The allowance is based on careful, continuous review and evaluation of the credit portfolio and ongoing, quarterly assessments of the probable losses inherent in the loan portfolio.  The Bank employs a systematic methodology for assessing the appropriateness of the allowance, which includes determination of a specific allowance, a formula allowance, and an unallocated allowance.

 
Page 32

 
Specific allowances are established in cases where management has identified significant conditions or circumstances related to a credit that management believes indicate the probability that a loss may be incurred in an amount different from the amount determined by application of the formula allowance.

The formula allowance is calculated by applying loss factors to corresponding categories of outstanding loans, excluding loans for which specific allocations have been made. Allowances are established for credits that do not have specific allowances according to the application of these credit loss factors to groups of loans based upon (a) their credit risk rating, for loans categorized as substandard or doubtful either by the Bank in its ongoing reviews or by bank examiners in their periodic examinations, or (b) by type of loans, for other credits without specific allowances. These factors are set by management to reflect its assessment of the relative level of risk inherent in each category of loans, based primarily on historical charge-off experience.  During regulatory examinations each year, examiners review the credit portfolio, establish credit risk ratings for loans, identify charge-offs, and perform their own calculation of the allowance for loan losses.  Additionally, the Bank engages an independent third party to review a significant portion of our loan portfolio.  These reviews are intended to provide a self-correcting mechanism to reduce differences between estimated and actual observed losses.

The unallocated allowance is based upon management’s evaluation of current economic conditions that may affect borrowers’ ability to pay that are not directly measured in the determination of the specific and formula allowances.  Management has chosen to apply a factor derived from the Board of Governors of the Federal Reserve System’s Principal Economic Indicators, specifically the charge-off and delinquency rates on loans and leases at commercial banks.  This statistical data tracks delinquency ratios on a national level.  While management does not believe the region that the Bank is located in has been hit as hard as others across the nation, this ratio provides a global perspective on delinquency trends.  Management has identified land acquisition and development loans, as well as construction speculation loans, as higher risk due to current economic factors.  These loans are reviewed individually on a quarterly basis for specific impairment.

Determining the amount of the allowance for loan losses requires the use of estimates and assumptions, which is permitted under accounting principles generally accepted in the United States of America.  Actual results could differ significantly from those estimates. While management uses available information to estimate losses on loans, future additions to the allowance may be necessary based on changes in economic conditions.  In addition, as noted above, federal and state financial institution examiners, as an integral part of their examination process, periodically review the Bank’s allowance for loan losses, and may require the Bank to recognize additions to the allowance based on their judgments about information available to them at the time of their examination.

Management determined that the appropriate allowance for loan losses at June 30, 2012 was $10.9 million, (3.36% of total loans), a decrease of $1.5 million from the $12.4 million allowance (3.76% of total loans) at December 31, 2011.  Annualized net charge-offs for the first six months of 2012 were 2.97% of average loans, while net charge-offs were 2.81% of average loans for the year 2011.  The provision for loan losses required for the first six months of 2012 and 2011 was $3.1 million and $5.0 million, respectively.

 
Page 33

 
A summary of activity in the allowance is shown below.

   
Six Months Ended
   
Year Ended
 
(Dollars in thousands)
 
June 30, 2012
   
December 31, 2011
 
             
Balance of allowance, beginning of period
  $ 12,412     $ 15,077  
Loan charge-offs:
               
Real estate
    (4,447 )     (9,439 )
Commercial loans
    (149 )     (982 )
Consumer
    (166 )     (40 )
Total charge-offs
    (4,762 )     (10,461 )
Loan recoveries:
               
Real estate
    77       825  
Commercial loans
    116       0  
Consumer
    5       13  
Total recoveries
    198       838  
Net charge-offs
    (4,564 )     (9,623 )
Provision for loan losses
    3,060       6,958  
Balance of allowance, end of period
  $ 10,908     $ 12,412  
                 
Net charge-offs to average loans
    2.97 %     2.81 %
Allowance to total loans
    3.36       3.76  
Allowance to non-performing loans
    23.37       19.52  

Analysis of Deposits

The following table sets forth the dollar amount (in thousands) of deposits in the various types of accounts offered by the Bank at the dates indicated.
 
    
June 30, 2012
   
December 31, 2011
 
   
Amount
   
Percent
   
Amount
   
Percent
 
                         
Regular checking
  $ 26,393       7.69 %   $ 23,224       6.85 %
NOW accounts
    31,437       9.16       30,188       8.90  
Passbook savings
    13,059       3.80       11,275       3.33  
Statement savings
    11,543       3.36       10,560       3.11  
Money market
    14,080       4.10       13,220       3.90  
Holiday club
    264       0.08       76       0.02  
Certificates of deposit
    214,786       62.57       219,411       64.71  
IRA certificates of deposit
    25,053       7.30       24,069       7.10  
Money market certificates
    6,655       1.94       7,052       2.08  
     Total deposits
  $ 343,270       100.00 %   $ 339,075       100.00 %
 
Capital Adequacy

Capital adequacy refers to the level of capital required to sustain asset growth and to absorb losses.  The Board of Governors of the Federal Reserve System (“Federal Reserve”), which is the Bank’s principal federal regulator, has established requirements for total and tier 1 (core) risk-based capital and tier 1 leverage capital.  The following table sets forth applicable capital ratios of the Bank as of June 30, 2012 and December 31, 2011.
 
 
Page 34

 
               
Regulatory Minimum
 
   
2012
   
2011
   
Well
   
Adequately
 
   
Actual
   
Actual
   
Capitalized
   
Capitalized
 
                         
  
                       
d Total risk-based capital ratio
    12.90 %     13.93 %     10.00 %     8.00 %
                                 
   Tier 1 risk-based capital ratio
    11.62     9.12     6.00     4.00
                                 
   Tier 1 leverage ratio
    9.18     7.04     5.00     4.00
 
 As of June 30, 2012 and December 31, 2011, the Bank exceeded all applicable capital requirements to be classified as a well capitalized institution under the rules promulgated by the Federal Reserve.  Designation as a well capitalized institution under these regulations does not constitute a recommendation or endorsement by the Bank’s regulators.
 
Item 3.  Quantitative and Qualitative Disclosures about Market Risk -
 
Not Applicable
 
Item 4. Controls and Procedures
 
Cecil Bancorp’s management, under the supervision and with the participation of its Chief Executive Officer and its Chief Financial Officer, evaluated as of the last day of the period covered by this report, the effectiveness of the design and operation of the Company’s disclosure controls and procedures, as defined in Rule 13a-15 under the Securities Exchange Act of 1934.  Based on that evaluation, the Chief Executive Officer and the Chief Financial Officer concluded that the Company’s disclosure controls and procedures were effective.  There were no significant changes in the Company’s internal controls over financial reporting (as defined in Rule 13a-15 under the Securities Exchange Act of 1934) during the quarter ended June 30, 2012, that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.
 
PART II.                      Other Information:
 
Item 1.  Legal Proceedings -
 
Not Applicable
 
Item 1A.Risk Factors -
 
Not Applicable
 
Item 2.  Unregistered Sale of Equity Securities and Use of Proceeds -
 
Not Applicable
 
Item 3.  Defaults Upon Senior Securities -
 
The Registrant’s Board of Directors did not declare a dividend on the Registrant’s Fixed Rate Cumulative Perpetual Preferred Stock, Series A for the second quarter of 2012.  As of June 30, 2012, unpaid cumulative dividends on the Fixed Rate Cumulative Perpetual Preferred Stock, Series A were $1.4 million.
 
Item 4.  Mine Safety Disclosures -
 
Not Applicable
 

Item 5.  Other Information -
 
Not Applicable
 
Item 6.   Exhibits -
 
Page 35

 

Exhibit No.
Description
Incorporated by Reference to:
3.1
Articles of Incorporation of Cecil Bancorp, Inc.
Exhibit 3.1 to Quarterly Report on Form 10-Q for the quarter ended June 30, 2008
 
3.2
Bylaws of Cecil  Bancorp, Inc.
Exhibit 3.2 to Current Report on Form 8-K filed November 18, 2011
 
3.3
 
Articles Supplementary for Fixed Rate Cumulative Perpetual Preferred Stock, Series A
Exhibit 3.1 to Current Report on Form 8-K filed December 23, 2008
3.4
Articles Supplementary for Mandatory Convertible Cumulative Junior Preferred Stock, Series B
 
Exhibit 3.1 to Current Report on Form 8-K filed April 2, 2012
4.1
Form of Common Stock Certificate
Exhibit 4 to Registration Statement on Form  S-1 (File No. 33-81374)
 
4.2
Form of Certificate for Fixed Rate Cumulative Perpetual Preferred Stock, Series A
Exhibit 4.1 to Current Report on Form 8-K filed December 23, 2008.
 
4.3
Warrant for Purchase of Shares of Common Stock
Exhibit 4.2 to Current Report on Form 8-K filed December 23, 2008.
 
4.4
Amended and Restated Trust Agreement, dated as of March 23, 2006, among Cecil Bancorp, Inc., as depositor, Wilmington Trust Company, as property and Delaware Trustee, and Charles F. Sposato, Mary B. Halsey and Jennifer Carr, as administrative trustees.
 
Not filed in accordance with the provisions of Item 601(b)(4)(iii) of Regulation S-K. The Registrant agrees to provide a copy of this document to the Commission upon request.
4.5
Junior Subordinated Indenture, dated as of March 23, 2006 between Cecil Bancorp, Inc. and Wilmington Trust Company, as Trustee.
Not filed in accordance with the provisions of Item 601(b)(4)(iii) of Regulation S-K. The Registrant agrees to provide a copy of this document to the Commission upon request.
 
4.6
 
Guarantee Agreement, dated as of March 23, 2006, between Cecil Bancorp, Inc., as Guarantor, and Wilmington Trust Company, as Guarantee Trustee.
 
Not filed in accordance with the provisions of Item 601(b)(4)(iii) of Regulation S-K. The Registrant agrees to provide a copy of this document to the Commission upon request.
 
4.7
Amended and Restated Declaration of Trust, dated as of November 30, 2006 by and among Wilmington Trust Company, as Delaware and institutional trustee, Cecil Bancorp, Inc., as sponsor, and Charles F. Sposato, Mary B. Halsey and Jennifer Carr, as administrators.
 
Exhibit 10.3 to Current Report on Form 8-K filed December 4, 2006.
4.8
Indenture, dated as of November 30, 2006, between Cecil Bancorp, Inc. and Wilmington Trust Company, as trustee.
 
Exhibit 10.1 to Current Report on Form 8-K filed December 4, 2006.
4.9
Guarantee Agreement, dated as of November 30, 2006, between Cecil Bancorp, Inc., as Guarantor, and Wilmington Trust Company, as Guarantee Trustee.
 
Exhibit 10.4 to Current Report on Form 8-K filed December 4, 2006.
4.10
Form of Certificate for Mandatory Convertible Cumulative Junior Preferred Stock, Series B
Exhibit 4.1 to Current Report on Form 8-K filed April 2, 2012
 
 
 
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   Exhibit No.  Description   Incorporated by Reference to:
     
31
Rule 13a-14(a)/15d-14(a) Certifications
 
 
32
18 U.S.C. Section 1350 Certifications
 
 
100
Interactive Data Files *
* Pursuant to Regulation 406T of Regulation S-T, these interactive data files are deemed not filed or part of a registration statement or prospectus for purposes of Section 11 or 12 of the Securities Act of 1933, as amended, or Section 18 of the Securities Exchange Act of 1934, as amended, and are otherwise not subject to liability.

 

 
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SIGNATURES
 

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

   
CECIL BANCORP, INC.
 
 
 
Date:  August 8, 2012
 
By:
/s/ Mary B. Halsey
     
Mary B. Halsey
President and Chief Executive Officer
(Duly Authorized Officer
 
 
 
Date:  August 8, 2012
 
By:
/s/ Robert Lee Whitehead
     
Robert Lee Whitehead
Vice President and Chief Financial Officer
(Principal Financial and Accounting Officer)
 
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