News Column

CITIZENS COMMUNITY BANCORP INC. - 10-Q - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

May 12, 2014

FORWARD-LOOKING STATEMENTS Certain statements contained in this report are considered "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. These statements may be identified by the use of forward-looking words or phrases such as "anticipate," "believe," "could," "expect," "intend," "may," "planned," "potential," "should," "will," "would," or the negative of those terms or other words of similar meaning. Such forward-looking statements in this report are inherently subject to many uncertainties arising in the Company's operations and business environment. These uncertainties include general economic conditions, in particular, relating to consumer demand for the Bank's products and services; the Bank's ability to maintain current deposit and loan levels at current interest rates; competitive and technological developments; deteriorating credit quality, including changes in the interest rate environment reducing interest margins; prepayment speeds, loan origination and sale volumes, charge-offs and loan loss provisions; the Bank's ability to maintain required capital levels and adequate sources of funding and liquidity; maintaining capital requirements may limit the Bank's operations and potential growth; changes and trends in capital markets; competitive pressures among depository institutions; effects of critical 25 -------------------------------------------------------------------------------- accounting estimates and judgments; changes in accounting policies or procedures as may be required by the Financial Accounting Standards Board (FASB) or other regulatory agencies overseeing the Bank; the Bank's ability to implement its cost-savings and revenue enhancement initiatives; legislative or regulatory changes or actions, or significant litigation, adversely affecting the Bank or the Company; fluctuation of the Company's stock price; the Bank's ability to attract and retain key personnel; the Bank's ability to secure confidential information through the use of computer systems and telecommunications networks; and the impact of reputational risk created by these developments on such matters as business generation and retention, funding and liquidity. Shareholders, potential investors and other readers are urged to consider these factors carefully in evaluating the forward-looking statements and are cautioned not to place undue reliance on such forward-looking statements. Such uncertainties and other risks that may affect the Company's performance are discussed further in Part I, Item 1A, "Risk Factors," in the Company's Form 10-K, for the year ended September 30, 2013 filed with the Securities and Exchange Commission on December 9, 2013. The Company undertakes no obligation to make any revisions to the forward-looking statements contained in this report or to update them to reflect events or circumstances occurring after the date of this report. GENERAL The following discussion sets forth management's discussion and analysis of our consolidated financial condition as of March 31, 2014, and the consolidated results of operations for the six months ended March 31, 2014, compared to the same period in the prior fiscal year for the six months ended March 31, 2013. This discussion should be read in conjunction with the interim consolidated financial statements and the condensed notes thereto included with this report and with Management's Discussion and Analysis of Financial Condition and Results of Operations and the financial statements and notes related thereto included in the Company's annual report on Form 10-K filed with the Securities and Exchange Commission on December 9, 2013. Unless otherwise stated, all monetary amounts in this Management's Discussion and Analysis of Financial Condition and Results of Operations, other than share, per share and capital ratio amounts, are stated in thousands. PERFORMANCE SUMMARY The following table sets forth our results of operations and related summary information for the three and six month periods ended March 31, 2014 and 2013, respectively: Three Months Ended Six Months Ended March 31, March 31, 2014 2013 2014 2013 Net income as reported $ 321$ 333$ 624$ 593 EPS - basic, as reported $ 0.06$ 0.06$ 0.12$ 0.12 EPS - diluted, as reported $ 0.06$ 0.06$ 0.12$ 0.12 Cash dividends paid $ 0.04$ 0.02$ 0.04$ 0.02 Return on average assets (annualized) 0.24 % 0.25 % 0.23 % 0.22 % Return on average equity (annualized) 2.38 % 2.45 % 2.28 % 2.16 % Efficiency ratio, as reported (1) 78.73 % 73.32 % 76.57 %



72.51 %

(1) The efficiency ratio is calculated as non-interest expense minus branch

closure costs divided by the sum of net interest income plus non-interest

income, excluding net impairment losses recognized in earnings. A lower

ratio indicates greater efficiency.

The following is a brief summary of some of the significant factors that affected our operating results in the three and six month periods ended March 31, 2014 and 2013. See the remainder of this section for a more thorough discussion. We reported net income of $321 for the three months ended March 31, 2014, compared to $333 for the three months ended March 31, 2013. We reported net income of $624 for the six months ended March 31, 2014, compared to $593 for the six months ended March 31, 2013. Both basic and diluted earnings per share were $0.06 and $0.12 for the three and six months ended March 31, 2014 and 2013, respectively. The return on average assets for the three months ended March 31, 2014 and 2013 was 0.24% and 0.25%, respectively. The return on average assets for the six months ended March 31, 2014 and 2013 was 0.23% and 0.22% , respectively. The return on average equity for the three months ended March 31, 2014 and 2013 was 2.38% and 2.45%, respectively. The return on average equity for the six months ended March 31, 2014 and 2013 was 2.28% and 2.16%, respectively 26 -------------------------------------------------------------------------------- Our efficiency ratio increased to 78.73% and 76.57% for the three and six months ended March 31, 2014, compared to 73.32% and 72.51% for the three and six months ended March 31, 2013, primarily due to an insurance settlement reimbursement for legal fees incurred during the quarter ended March 31, 2013. Our fiscal to date efficiency ratio has been negatively impacted by branch operating costs associated with the closure of certain of our branches. An annual cash dividend in the amount of $0.04 was declared and paid in the three month period ended March 31, 2014. An annual cash dividend in the amount of $0.02 was declared in the three month period ended March 31, 2013 and paid on April 18, 2013. Key factors behind these results were: • Net interest income was $4,832 for the three month period ended March 31,



2014, an increase of $63 or 1.32% from the three month period ended

March 31, 2013. Net interest income was $9,812 for the six month period

ended March 31, 2014, an increase of $82 or 0.84% from the prior year period.



• The net interest margin of 3.62% for the three months ended March 31, 2014

represents a 4 bp decrease from a net interest margin of 3.66% for the

three months ended March 31, 2013. The net interest margin of 3.63% for the

six months ended March 31, 2014 represents a 8 bp decrease from a net interest margin of 3.71% from the prior year period. • Total loans were $443,214 at March 31, 2014, an increase of $2,351, or 0.53% from their balances at September 30, 2013. Total deposits were $434,458 at March 31, 2014, a decrease of $12,940 or 2.89% from their balances at September 30, 2013. • Net loan charge-offs decreased from $1,480 for the six months ended



March 31, 2013 to $964 for the six months ended March 31, 2014. Continued

lower levels of net loan charge-offs led to a decreased provision for loan

losses of $1,080 for the six month period ended March 31, 2014, compared to

$1,665 for the six months ended March 31, 2013. Annualized net loan

charge-offs as a percentage of average loans were 0.44% for the six months

ended March 31, 2014, compared to 0.70% for the six months ended March 31,

2013.

• Non-interest income, including valuation losses, decreased from $696 for

the three months ended March 31, 2013 to $632 for the three months ended

March 31, 2014, mainly due to the loss on sale of the remaining non-agency

MBS investments in the amount of $183 occurring during the current year quarter. Non-interest income, including valuation losses, increased from



$1,456 for the six months ended March 31, 2013 to $1,508 for the six months

ended March 31, 2014, mainly due to an increase in fee income from new deposit products and services.



• Non-interest expense increased $322, from $4,157 to $4,479 for the three

month period ending March 31, 2014 compared to the three month period

ending March 31, 2013. Non-interest expense increased $711, from $8,549 to

$9,260 for the six month period ending March 31, 2014 compared to the prior

year period. The increase in non-interest expense in the current year

period was primarily attributable to branch closure costs in the amount of

$393 and an insurance settlement reimbursement during the 2013 second quarter for legal fees incurred which reduced non-interest expense in fiscal 2013. CRITICAL ACCOUNTING ESTIMATES Our consolidated financial statements are prepared in accordance with GAAP. In connection with the preparation of our financial statements, we are required to make assumptions and estimates about future events, and apply judgments that affect the reported amount of assets, liabilities, revenue, expenses and their related disclosures. We base our assumptions, estimates and judgments on historical experience, current trends and other factors that management believes to be relevant at the time our consolidated financial statements are prepared. Some of these estimates are more critical than others. In addition to the policies included in Note 1, "Nature of Business and Summary of Significant Accounting Policies," to the Consolidated Financial Statements included as an exhibit to our Form 10-K annual report for the fiscal year ending September 30, 2013, our critical accounting estimates are as follows: Allowance for Loan Losses. We maintain an allowance for loan losses to absorb probable incurred losses in our loan portfolio. The allowance is based on ongoing, quarterly assessments of the estimated probable incurred losses in our loan portfolio. In evaluating the level of the allowance for loan loss, we consider the types of loans and the amount of loans in our loan portfolio, historical loss experience, adverse situations that may affect the borrower's ability to repay, the estimated value of any underlying collateral and prevailing economic conditions. We follow all applicable regulatory guidance, including the "Interagency Policy Statement on 27 -------------------------------------------------------------------------------- the Allowance for Loan and Lease Losses," issued by the Federal Financial Institutions Examination Council (FFIEC). We believe that the Bank's Allowance for Loan Losses Policy conforms to all applicable regulatory requirements. However, based on periodic examinations by regulators, the amount of the allowance for loan losses recorded during a particular period may be adjusted. Our determination of the allowance for loan losses is based on (1) specific allowances for specifically identified and evaluated impaired loans and their corresponding estimated loss based on likelihood of default, payment history, and net realizable value of underlying collateral; and (2) a general allowance on loans not specifically identified in (1) above, based on historical loss ratios which are adjusted for qualitative and general economic factors. We continue to refine our allowance for loan losses methodology, with an increased emphasis on historical performance adjusted for applicable economic and qualitative factors. Assessing the allowance for loan losses is inherently subjective as it requires making material estimates, including the amount and timing of future cash flows expected to be received on impaired loans, any of which estimates may be susceptible to significant change. In our opinion, the allowance, when taken as a whole, reflects estimated probable loan losses in our loan portfolio. Investment Securities. Management determines the appropriate classification of investment securities at the time of purchase and reevaluates such designation as of each statement of financial position date. Securities are classified as held to maturity when the Company has the positive intent and ability to hold the securities to maturity. Held to maturity securities are stated at amortized cost. Investment securities not classified as held to maturity are classified as available for sale. Securities classified as available for sale are carried at fair value, with unrealized gains and losses reported in other comprehensive income (loss). Amortization of premiums and accretion of discounts are recognized in interest income using the interest method over the estimated lives of the securities. We evaluate all investment securities on a quarterly basis, and more frequently when economic conditions warrant, to determine if other-than-temporary impairment exists. Management's evaluation of the portfolio is based on the following three criteria: (1) Bonds with an unrealized loss greater than 10 percent of the bond's book value, (2) bonds with an unrealized loss greater than 5 percent and less than 10 percent of book value with a greater than 5 percent unrealized loss for 12 consecutive months, and (3) bonds with an unrealized loss greater than 5 percent for less than 12 months. Current authoritative guidance provides that some portion of unrealized losses may be other-than-temporary and a credit loss is deemed to exist if the present value of the expected future cash flows is less than the amortized cost basis of the debt security. The credit loss component is recorded in earnings as a component of other-than-temporary impairment in the consolidated statements of operations, while the loss component related to other market factors is recognized in other comprehensive income (loss), provided the Bank does not intend to sell the underlying debt security and it is "more likely than not" that the Bank will not have to sell the debt security prior to recovery of the unrealized loss. We consider the following factors in determining whether a credit loss exists and the period over which the debt security is expected to recover: • The length of time, and extent to which, the fair value has been less than the amortized cost.



• Adverse conditions specifically related to the security, industry or

geographic area.

• The historical and implied volatility of the fair value of the security. • The payment structure of the debt security and the likelihood of the issuer or underlying borrowers being able to make payments that may increase in the future.



• The failure of the issuer of the security or the underlying borrowers to

make scheduled interest or principal payments.

• Any changes to the rating of the security by a rating agency.

• Recoveries or additional declines in fair value subsequent to the balance sheet date. Interest income on securities for which other-than-temporary impairment has been recognized in earnings is recognized at a rate commensurate with the expected future cash flows and amortized cost basis of the securities after the impairment. Gains and losses on the sale of securities are recorded on the trade date and determined using the specific-identification method. 28 -------------------------------------------------------------------------------- To determine if other-than-temporary impairment exists on a debt security, the Bank first determines if (1) it intends to sell the security or (2) it is more likely than not that it will be required to sell the security before its anticipated recovery. If either of the foregoing conditions is met, the Bank will recognize other-than-temporary impairment in earnings equal to the difference between the security's fair value and its adjusted cost basis. If neither of the foregoing conditions is met, the Bank determines (a) the amount of the impairment related to credit loss and (b) the amount of the impairment due to all other factors. The difference between the present values of the cash flows expected to be collected and the amortized cost basis is the credit loss. The credit loss is the amount of the other-than-temporary impairment that is recognized in earnings and is a reduction to the cost basis of the security. The amount of the total impairment related to all other factors (excluding credit loss) is included in other comprehensive income (loss). We monitor our portfolio investments on an on-going basis and we have historically obtained quarterly independent valuations of our non-agency residential mortgage-backed securities. This analysis was utilized to ascertain whether any decline in market value was other-than-temporary. In determining whether an impairment is other-than-temporary, we consider the following factors: the length of time and the extent to which the market value has been below cost; recent events specific to the issuer including investment downgrades by rating agencies and economic conditions within the issuer's industry; whether it is more likely than not that we will be required to sell the security before there would be a recovery in value; and the credit performance of the underlying collateral backing the securities, including delinquency rates, cumulative losses to date, and prepayment speed. The independent valuation process included: • Obtaining individual loan level data directly from servicers and



trustees, and making assumptions regarding the frequency of foreclosure,

loss severity and conditional prepayment rate (for both the entire pool and the loan group pertaining to the bond we hold).



• Projecting cash flows based on these assumptions and stressing the cash

flows under different time periods and requirements based on the class structure and credit enhancement features of the bond we hold.



• Identifying various price/yield scenarios based on the Bank's book value

and valuations based on both hold-to-maturity and current free market

trade scenarios. Discount rates were determined based on the volatility

and complexity of the security and the yields demanded by buyers in the market at the time of the valuation. For securities that are considered other-than-temporarily impaired and for which we have the ability and intent to hold these securities until the recovery of our amortized cost basis, we recognize other-than-temporary impairment in accordance with accounting principles generally accepted in the United States. Under these principles, we separate the amount of the other-than-temporary impairment into the amount that is credit related and the amount due to all other factors. The credit loss component is recognized in earnings and is the difference between the security's amortized cost basis and the present value of expected future cash flows. The amount due to other factors is recognized in other comprehensive income (loss). Income Taxes. The assessment of tax assets and liabilities involves the use of estimates, assumptions, interpretations, and judgments concerning certain accounting pronouncements and federal and state tax codes. There can be no assurance that future events, such as court decisions or positions of federal and state taxing authorities, will not differ from management's current assessment, the impact of which could be material to our consolidated results of our operations and reported earnings. We believe that the tax assets and liabilities are adequate and properly recorded in the accompanying consolidated financial statements. As of March 31, 2014, management does not believe a valuation allowance related to the realizability of its deferred tax assets is necessary. STATEMENT OF OPERATIONS ANALYSIS Net Interest Income. Net interest income represents the difference between the dollar amount of interest earned on interest-bearing assets and the dollar amount of interest paid on interest bearing liabilities. The interest income and expense of financial institutions (including those of the Bank) are significantly affected by general economic conditions, competition, policies of regulatory authorities and other factors. Interest rate spread and net interest margin are used to measure and explain changes in net interest income. Interest rate spread is the difference between the yield on interest earning assets and the rate paid for interest-bearing liabilities that fund those assets. Net interest margin is expressed as the percentage of net interest income to average interest earning assets. Net interest margin currently exceeds interest rate spread because non-interest bearing sources of funds ("net free funds"), principally demand deposits and stockholders' equity, also support interest earning assets. The narrative below discusses net interest income, interest rate spread, and net interest margin for the three and six month periods ended March 31, 2014 and 2013, respectively. 29 -------------------------------------------------------------------------------- Net interest income was $4,832 and $9,812 for the three and six months ended March 31, 2014, compared to $4,769 and $9,730, respectively, for the three and six months ended March 31, 2013. The net interest margin for the three and six month period ended March 31, 2014 was 3.62% and 3.63% compared to 3.66% and 3.71% for the three and six month period ended March 31, 2013. As shown in the rate/volume analysis in the following pages, volume changes resulted in an increase of $238 and $490 for the three and six month periods ended March 31, 2014, respectively, compared to the comparable prior year periods. The increase and changes in the composition of interest earning assets resulted in an increase of $260 and $549 for the three and six month periods ended March 31, 2014, compared to the same periods in the prior year. Rate changes on interest earning assets decreased interest income by $484 and $1,060 for the three and six month periods ended March 31, 2014. This decrease was partially offset by rate changes on interest-bearing liabilities that decreased interest expense by $309 and $652 over the same period in the prior year, resulting in a net decrease of $175 and $408 in net interest income due to changes in interest rates during the three and six month periods ended March 31, 2014. The increase in our balance of loan outstandings over the current year periods is the primary factor affecting volume changes during this same period. Rate decreases on all asset and deposit categories are reflective of the overall lower market interest rate environment versus historic levels. We have remained liability sensitive in the short term during the most recent two fiscal years, in which interest rates have declined to historically low levels. A continuing low interest rate environment will enable us to experience a further reduction in our cost of funds while loans continue to prepay at faster than historical speeds. Average Balances, Net Interest Income, Yields Earned and Rates Paid. The following Net Interest Income Analysis table presents interest income from average interest earning assets, expressed in dollars and yields, and interest expense on average interest-bearing liabilities, expressed in dollars and rates. Shown below, is the weighted average yield on interest earning assets, rates paid on interest-bearing liabilities and the resultant spread at or during the three and six month periods ended March 31, 2014, and for the comparable prior year three and six month periods. No tax equivalent adjustments were made. Non-accruing loans have been included in the table as loans carrying a zero yield. Average interest earning assets were $540,787 and $541,712 for the three and six month periods ended March 31, 2014, compared to $528,955 and $525,844 for the comparable prior year periods. Interest income on interest earning assets was $5,874 and $11,957 for the three and six month periods ended March 31, 2014, compared to $6,098 and $12,468 for the same periods in the prior year. Interest income is comprised primarily of interest income on loans and interest income on investment securities. Interest income on loans was $5,519 and $11,241 for the three and six month periods ended March 31, 2014, compared to $5,707 and $11,702 for the comparable prior year periods. Interest income on investment securities was $345 and $696 for the three and six month periods ended March 31, 2014, compared to $374 and $735 for the similar prior year periods. The decrease in loan interest income in the current year three and six month periods was primarily due to a continued lower interest rate environment. The decrease in interest income on investment securities was primarily due to decreased rates and lower yields due to higher than expected prepayments. Average interest bearing liabilities were $494,428 and $495,388 for the three and six month periods ended March 31, 2014, compared to $479,070 and $475,945 for the similar prior year periods. Interest expense on interest bearing liabilities was $1,042 and $2,145 for the three and six month periods ended March 31, 2014, compared to $1,329 and $2,738 for the same periods in the prior year. Interest expense is comprised primarily of interest expense accrued on money market accounts, certificates of deposit and FHLB advances. The decrease in interest expense during the current year three and six month periods was primarily due to lower interest rates paid on money market accounts and certificates of deposit. For the three and six months ended March 31, 2014, interest expense on interest bearing deposits increased $0 and $19 from volume and mix changes and decreased $342 and $649 from the impact of the rate environment, resulting in an aggregate decrease of $342 and $630 in interest expense on interest bearing deposits during such periods. Interest expense on FHLB advances increased $22 from volume and mix changes and increased $33 from the impact of the rate environment during the three months ended March 31, 2014 for an aggregate increase in the amount of $55. Interest expense on FHLB advances increased $40 from volume and mix changes and decreased $3 from the impact of the rate environment during the six months ended March 31, 2014. The resulting aggregate increase was $37 in interest expense on FHLB advances for the six month period ended March 31, 2014. The increases were primarily due to new longer term FHLB borrowings at higher interest rates. 30 -------------------------------------------------------------------------------- NET INTEREST INCOME ANALYSIS (Dollar amounts in thousands)



Three months ended March 31, 2014 compared to the three months ended March 31, 2013:

Three months ended March 31, 2014 Three months ended March 31, 2013 Interest Average Interest Average Average Income/ Yield/ Average Income/ Yield/ Balance Expense Rate Balance Expense Rate

Average interest earning assets: Cash and cash equivalents $ 20,186$ 7 0.14 % $ 25,894$ 10 0.16 % Loans 441,801 5,519 5.07 % 420,848 5,707 5.50 % Interest-bearing deposits 245 1 1.66 % 2,241 4 0.72 % Investment securities 75,255 345 1.86 % 76,422 374 1.98 % FHLB stock 3,300 2 0.25 % 3,550 3 0.34 % Total interest earning assets $ 540,787$ 5,874 4.41 % $ 528,955$ 6,098 4.68 % Average interest bearing liabilities: Savings accounts $ 24,854$ 4 0.07 % $ 23,561$ 4 0.07 % Demand deposits 35,413 19 0.22 % 29,495 1 0.01 % Money market 142,894 129 0.37 % 143,719 204 0.58 % CD's 212,078 664 1.27 % 210,448 920 1.77 % IRA's 21,766 63 1.17 % 23,522 92 1.59 % Total deposits $ 437,005$ 879 0.82 % $ 430,745$ 1,221 1.15 % FHLB Advances 57,423 163 1.15 % 48,325 108 0.91 % Total interest bearing liabilities $ 494,428$ 1,042 0.85 % $ 479,070$ 1,329 1.13 % Net interest income $ 4,832$ 4,769 Interest rate spread 3.56 % 3.55 % Net interest margin 3.62 % 3.66 % Average interest-earning assets to average interest-bearing liabilities 1.09 1.10 31

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Six months ended March 31, 2014 compared to the six months ended March 31, 2013:

Six months ended March 31, 2014



Six months ended March 31, 2013

Interest Average Interest Average Average Income/ Yield/ Average Income/ Yield/ Balance Expense Rate Balance Expense Rate Average interest-earning assets: Cash and cash equivalents $ 18,471$ 12 0.13 % $ 24,458$ 19 0.16 % Loans 442,280 11,241 5.10 % 422,837 11,702 5.55 % Interest-bearing deposits 814 4 0.99 % 1,530 6 0.79 % Investment securities 76,847 696 1.82 % 73,362 735 2.01 % FHLB stock 3,300 4 0.24 % 3,657 6 0.33 % Total interest earning assets $ 541,712$ 11,957 4.43 % $ 525,844$ 12,468 4.76 % Average interest-bearing liabilities: Savings accounts $ 24,917$ 7 0.06 % $ 23,628$ 7 0.06 % Demand deposits 34,767 33 0.19 % 28,812 1 0.01 % Money market 146,956 284 0.39 % 142,136 395 0.56 % CD's 211,394 1,370 1.30 % 209,189 1,866 1.79 % IRA's 21,827 133 1.22 % 23,616 188 1.60 % Total deposits $ 439,861$ 1,827 0.83 % $ 427,381$ 2,457 1.15 % FHLB Advances 55,527 318 1.15 % 48,564 281 1.16 % Total interest bearing liabilities $ 495,388$ 2,145 0.87 % $ 475,945$ 2,738 1.15 % Net interest income $ 9,812$ 9,730 Interest rate spread 3.56 % 3.61 % Net interest margin 3.63 % 3.71 % Average interest-earning assets to average interest-bearing liabilities 1.09 1.10 Rate/Volume Analysis. The following table presents the dollar amount of changes in interest income and interest expense for the components of interest-earning assets and interest-bearing liabilities that are presented in the preceding table. For each category of interest-earning assets and interest-bearing liabilities, information is provided on changes attributable to: (1) changes in volume, which are changes in the average outstanding balances multiplied by the prior period rate (i.e. holding the initial rate constant); and (2) changes in rate, which are changes in average interest rates multiplied by the prior period volume (i.e. holding the initial balance constant). Changes due to both rate and volume which cannot be segregated have been allocated in proportion to the relationship of the dollar amounts of the change in each category. 32 -------------------------------------------------------------------------------- RATE / VOLUME ANALYSIS (1) (Dollar amounts in thousands) Three months ended March 31, 2014 compared to the three months ended March 31, 2013: Increase (decrease) due to Volume Rate Net Interest income: Cash and cash equivalents $ (2 )$ (1 )$ (3 ) Loans 276 (464 ) (188 ) Interest-bearing deposits (8 ) 5 (3 ) Investment securities (6 ) (23 ) (29 ) FHLB stock - (1 ) (1 ) Total interest earning assets $ 260$ (484 )$ (224 ) Interest expense: Savings accounts - - - Demand deposits - 18 18 Money market accounts (1 ) (74 ) (75 ) CD's 7 (263 ) (256 ) IRA's (6 ) (23 ) (29 ) Total deposits $ - $ (342 )$ (342 ) FHLB Advances 22 33 55



Total interest bearing liabilities $ 22$ (309 )$ (287 ) Net interest income (loss) $ 238$ (175 )$ 63

Six months ended March 31, 2014 compared to the six months ended March 31, 2013: Increase (decrease) due to Volume Rate Net Interest income: Cash and cash equivalents $ (4 )$ (3 )$ (7 ) Loans 523 (984 ) (461 ) Interest-bearing deposits (3 ) 1 (2 ) Investment securities 34 (73 ) (39 ) FHLB stock (1 ) (1 ) (2 ) Total interest earning assets $ 549$ (1,060 )$ (511 ) Interest expense: Savings accounts - - - Demand deposits - 32 32 Money market accounts 13 (124 ) (111 ) CD's 19 (515 ) (496 ) IRA's (13 ) (42 ) (55 ) Total deposits $ 19$ (649 )$ (630 ) FHLB Advances 40 (3 ) 37



Total interest bearing liabilities $ 59$ (652 )$ (593 ) Net interest loss

$ 490$ (408 )$ 82 (1) the change in interest due to both rate and volume has been allocated in proportion to the relationship to the dollar amounts of the change in each category.



Provision for Loan Losses. We determine our provision for loan losses ("provision", or "PLL") based on our desire to provide an adequate allowance for loan losses ("ALL") to reflect probable incurred credit losses in our loan portfolio. Prior to the past 15 months, higher charge off levels and the negative influence of certain qualitative and general economic factors

33 -------------------------------------------------------------------------------- discussed above under "Critical Accounting Estimates-Allowance for Loan Losses", made it necessary to increase our provision to ensure an adequate ALL. Within the last year, we have experienced lower levels of charge-offs. With both local and national unemployment rates improving slightly in recent quarters and improved asset quality due to stricter underwriting standards, we anticipate our actual charge-off experience to continue to decline throughout the fiscal year ending September 30, 2014. Net loan charge-offs for the six month period ended March 31, 2014 were $964, compared to $1,480, for the comparable prior year period. Annualized net charge-offs to average loans were 0.44% for the six months ended March 31, 2014, compared to 0.70% for the comparable period in the prior year. Non-accrual loans were $1,308 at March 31, 2014, compared to $2,125 at September 30, 2013. Refer to the "Allowance for Loan Losses" and "Nonperforming Loans, Potential Problem Loans and Foreclosed Properties" sections below for more information related to non-performing loans. We recorded a provision for loan losses of $480 and $1,080, respectively, for the three and six month periods ended March 31, 2014, compared to $765 and $1,665, respectively, for the comparable prior year periods. Management believes that the provision taken for the current year three and six month periods is adequate in view of the present condition of our loan portfolio and the sufficiency of collateral supporting our non-performing loans. We continually monitor non-performing loan relationships and will make provisions, as necessary, if changing facts and circumstances require a change in the ALL. In addition, a decline in the quality of our loan portfolio as a result of general economic conditions, factors affecting particular borrowers or our market areas, or otherwise, could all affect the adequacy of our ALL. If there are significant charge-offs against the ALL, or we otherwise determine that the ALL is inadequate, we will need to record an additional PLL in the future. See the section below captioned "Allowance for Loan Losses" in this discussion for further analysis of the provision for loan losses. Non-interest Income (Loss). The following table reflects the various components of non-interest income for the three and six month periods ended March 31, 2014 and 2013, respectively. Three months ended March 31, % Six months ended March 31, % 2014 2013 Change 2014 2013 Change Non-interest Income: Net impairment gains (losses) recognized in earnings $ (141 ) $ 27

100% $ (220 )$ (56 ) < 100% Service charges on deposit accounts

450 333 35.14 1,003 723 38.73 % Loan fees and service charges 137 163 (15.95 ) 354 457 (22.54 )% Other 186 173 7.51 371 332 11.75 % Total non-interest income $ 632 $ 696



(9.20 )% $ 1,508$ 1,456 3.57 %

Non-interest income was $632 and $1,508, respectively, for the three and six month periods ended March 31, 2014 compared to $696 and $1,456, respectively, for the comparable prior year periods. The decrease of $64 during the current year three month period ended March 31, 2014, was mainly due to the loss on sale of the two remaining non-agency MBS investments in the amount of $183, which is included in net impairment gains (losses) recognized in earnings above. The increase of $52 during the current year six month period ended March 31, 2014, was in part, due to increased revenue derived from deposit products and services and an increase in commercial loan origination fees. Consumer loan mortgage fee income decreased during the current six months ended March 31, 2014 over the same period in the prior year due to a decline in mortgage loan refinancing as a result of the increase in longer term rates. 34 -------------------------------------------------------------------------------- Non-interest Expense. The following table reflects the various components of non-interest expense for the three and six month periods ended March 31, 2014 and 2013, respectively. Three months ended March 31, % Six months ended March 31, % 2014 2013 Change 2014 2013 Change Non-interest Expense: Salaries and related benefits $ 2,375$ 2,235 6.26 % $ 4,644$ 4,430 4.83 % Occupancy - net 635 628 1.11 1,270 1,238 2.58 Office 279 432 (35.42 ) 660 729 (9.47 ) Data processing 381 409 (6.85 ) 745 793 (6.05 ) Amortization of core deposit intangible 14 14 - 29 28 3.57 Advertising, marketing and public relations 69 46 50.00 144 87 65.52 FDIC premium assessment 104 177 (41.24 ) 209 352 (40.63 ) Professional services 213 (139 ) 253.24 431 227 89.87 Other 409 355 15.21 1,128 665 69.62 Total non-interest expense $ 4,479$ 4,157 7.75 % $ 9,260$ 8,549 8.32 % Non-interest expense (annualized) / Average assets 3.25 % 3.09 % 5.22 % 3.35 % 3.19 % 5.13 % Professional services expense increased in the current year three and six month period, primarily due to an insurance settlement reimbursement for legal fees incurred during the 2013 second quarter which reduced our professional services expense in the fiscal 2013 periods shown above. Salaries and related benefits have continued to increase as we bolster our benefits package to attract and retain skilled employees. Advertising, marketing and public relations expense increased in the current year three and six month periods due to the advertising costs for new deposit products, as well as advertising costs for the new traditional branch that was opened in December 2013. Other expenses increased in the current year six month period primarily due to branch closure costs in the amount of $393. Ongoing efforts to improve efficiency and cost-effectiveness in delivering banking products to our customers through a mix of traditional branch offices and online or mobile banking options is a priority of the board and management. Non-interest expense increased $322 or 7.75% and $711 or 8.32% for the three and six month periods ended March 31, 2014, compared to the comparable prior year periods. The non-interest expense (annualized) to average assets ratio was 3.25% and 3.35% for the three and six month periods ended March 31, 2014, compared to 3.09% and 3.19% for the same prior year periods. The increase in non-interest expense in the current six month period, over the prior year period, was primarily attributable to the branch closure and sale costs for three of our in-store branch offices in the amount of $393. These costs are recorded in other non-interest expense. Income Taxes. Income tax expense was $184 and $356 for the three and six months ended March 31, 2014 compared to $210 and $379 for the comparable prior year period. BALANCE SHEET ANALYSIS Loans. Loans increased by $2,351, or 0.53%, to $443,214 as of March 31, 2014 from $440,863 at September 30, 2013. At March 31, 2014, the loan portfolio was comprised of $266,869 of loans secured by real estate, or 60.2% of total loans including $27,261 in commercial and agricultural real estate loans, and $176,345 of consumer and other loans, or 39.8% of total loans, including $897 of C&I loans. At September 30, 2013, the loan portfolio mix included real estate loans of $264,388, or 60.0% of total loans including $12,531 in commercial and agricultural real estate loans, and consumer and other loans of $176,475, or 40.0% of total loans, including $154 of C&I loans. In the most recent quarter, our loan portfolio increased by $2,351 due to commercial real estate loan growth of $14,730 and purchased indirect consumer loan growth in the amount of $5,336. The increases were partially offset by loan reductions in the form of payments, payoffs and problem loans being charged-off or transferred to foreclosed and repossessed assets. Allowance for Loan Losses. The loan portfolio is our primary asset subject to credit risk. To address this credit risk, we maintain an ALL for probable and inherent credit losses through periodic charges to our earnings. These charges are shown in our consolidated statements of operations as PLL. See "Provision for Loan Losses" earlier in this Report. We attempt to 35 -------------------------------------------------------------------------------- control, monitor and minimize credit risk through the use of prudent lending standards, a thorough review of potential borrowers prior to lending and ongoing and timely review of payment performance. Asset quality administration, including early identification of loans performing in a substandard manner, as well as timely and active resolution of problems, further enhances management of credit risk and minimization of loan losses. Any losses that occur and that are charged off against the ALL are periodically reviewed with specific efforts focused on achieving maximum recovery of both principal and interest. At least quarterly, we review the adequacy of the ALL. Based on an estimate computed pursuant to the requirements of ASC 450-10, "Accounting for Contingencies" and ASC 310-10, "Accounting by Creditors for Impairment of a Loan", the analysis of the ALL consists of three components: (i) specific credit allocation established for expected losses relating to specific individual loans for which the recorded investment in the loan exceeds its fair value; (ii) general portfolio allocation based on historical loan loss experience for significant loan categories; and (iii) general portfolio allocation based on qualitative factors such as economic conditions and other relevant factors specific to the markets in which we operate. We continue to refine our ALL methodology by introducing a greater level of granularity to our loan portfolio. We currently segregate loans into pools based on common risk characteristics for purposes of allocating the ALL. The additional segmentation of the portfolio is intended to provide a more effective basis for the determination of qualitative factors affecting our ALL. In addition, management continually evaluates our ALL methodology to assess whether modifications in our methodology are appropriate in light of underwriting practices, market conditions, identifiable trends, regulatory pronouncements or other factors. We believe that any modifications or changes to the ALL methodology would be to enhance the ALL. However, any such modifications could result in materially different ALL levels in future periods. The specific credit allocation for the ALL is based on a regular analysis of all loans that are considered impaired. In compliance with ASC 310-10, the fair value of the loan is determined based on either the present value of expected cash flows discounted at the loan's effective interest rate, the market price of the loan, or, if the loan is collateral dependent, the fair value of the underlying collateral less the cost of sale. At March 31, 2014, we had 120 such loans, all secured by real estate or personal property with an aggregate recorded investment of $6,677. The total for the 52 such individual loans where estimated fair value was less than their book value (i.e. we deemed impairment to exist) was $3,683 for which $838 in specific ALL was recorded as of March 31, 2014. At March 31, 2014, there were 88 individual substandard loans, not considered TDRs, with an aggregate recorded investment of $2,447. The total for the 28 such individual loans where estimated fair value was less than their book value (i.e. we deemed impairment to exist) was $227 for which $66 in specific ALL was recorded as of March 31, 2014. At March 31, 2014, the ALL was $6,296, or 1.42% of our total loan portfolio, compared to ALL of $6,180, or 1.40% of the total loan portfolio at September 30, 2013. At March 31, 2014 the ALL was 1.51% of our total loan portfolio less the third party purchased consumer loans, compared to 1.47% of the total loan portfolio less the third party purchased consumer loans at September 30, 2013. This level was based on our analysis of the loan portfolio risk at March 31, 2014, taking into account the factors discussed above. All of the factors we take into account in determining the ALL in general categories are subject to change; thus the allocations are management's estimate of the loan loss categories in which the probable and inherent loss has occurred as of the date of our assessment. Currently, management especially focuses on local and national unemployment rates and home prices, as management believes these factors currently have the most impact on our customers' ability to repay loans and our ability to recover potential losses through collateral sales. As loan balances and estimated losses in a particular loan type decrease or increase and as the factors and resulting allocations are monitored by management, changes in the risk profile of the various parts of the loan portfolio may be reflected in the allowance allocated. The general component covers non-impaired loans and is based on historical loss experience adjusted for qualitative factors. In addition, management continues to refine the ALL estimation process as new information becomes available. These refinements could also cause increases or decreases in the ALL. The unallocated portion of the ALL is intended to account for imprecision in the estimation process or relevant current information that may not have been considered in the process. Nonperforming Loans, Potential Problem Loans and Foreclosed Properties. We practice early identification of non-accrual and problem loans in order to minimize the Bank's risk of loss. Non-performing loans are defined as non-accrual loans and restructured loans that were 90 days or more past due at the time of their restructure, or when management determines that such classification is warranted. The accrual of interest income is discontinued according to the following schedule: •Commercial Loans, including Agricultural and C&I loans, past due 90 days or more; •Closed end consumer loans past due 120 days or more; and •Real estate loans and open ended consumer loans past due 180 days or more. 36 -------------------------------------------------------------------------------- When interest accruals are discontinued, interest credited to income is reversed. If collection is in doubt, cash receipts on non-accrual loans are used to reduce principal rather than being recorded as interest income. Restructuring a TDR loan typically involves the granting of some concession to the borrower involving a loan modification, such as modifying the payment schedule or making interest rate changes. TDR loans may involve loans that have had a charge-off taken against the loan to reduce the carrying amount of the loan to fair market value as determined pursuant to ASC 310-10. The following table identifies the various components of non-performing assets and other balance sheet information as of the dates indicated below and changes in the ALL for the periods then ended: March 31, 2014 September 30, 2013 and Six Months and Twelve Months Then Ended Then Ended Nonperforming assets: Nonaccrual loans $ 1,308 $ 2,125 Accruing loans past due 90 days or more 360



483

Total nonperforming loans ("NPLs") 1,668 2,608 Other real estate owned 1,565 873 Other collateral owned 63 155 Total nonperforming assets ("NPAs") $ 3,296 $



3,636

Troubled Debt Restructurings ("TDRs") $ 6,677 $



8,618

Nonaccrual TDRs 422



1,108

Average outstanding loan balance 442,039 434,326 Loans, end of period (1) 443,214 440,863 Total assets, end of period 550,637 554,521 ALL, at beginning of period 6,180 5,745 Loans charged off: Real estate loans (695 ) (1,525 ) Consumer and other loans (413 ) (1,494 ) Total loans charged off $ (1,108 ) $ (3,019 ) Recoveries of loans previously charged off: Real estate loans $ 17 $



36

Consumer and other loans 127



275

Total recoveries of loans previously charged off: $ 144 $



311

Net loans charged off ("NCOs") $ (964 ) $ (2,708 ) Additions to ALL via provision for loan losses charged to operations $ 1,080 $ 3,143 ALL, at end of period $ 6,296 $ 6,180 Ratios: ALL to NCOs (annualized) 326.56 % 228.21 % NCOs (annualized) to average loans 0.44 % 0.62 % ALL to total loans 1.42 % 1.40 % NPLs to total loans 0.38 % 0.59 % NPAs to total assets 0.60 % 0.66 % Total Assets: $ 550,637 $ 554,521 (1) Total loans at March 31, 2014, include $25,314 in consumer and other loans purchased from a third party. See Note 3 in the accompanying Condensed Consolidated Financial Statements regarding the separate restricted reserve account established for these purchased consumer loans. Non-performing loans of $1,668 at March 31, 2014, which included $422 of non-accrual troubled debt restructured loans, reflected a reduction of $940 from the non-performing loans balance of $2,608 at September 30, 2013. These non-performing loan relationships are secured primarily by collateral including residential real estate or the consumer assets financed by the loans. 37 -------------------------------------------------------------------------------- Our non-performing assets were $3,296 at March 31, 2014, or 0.60% of total assets, compared to $3,636, or 0.66% of total assets at September 30, 2013. The decrease in non-performing assets since September 30, 2013 was primarily a result of a decrease in non-performing loans as a result of overall credit quality improvement within the loan portfolio. Other real estate owned (OREO) increased by $692, from $873 at September 30, 2013 to $1,565 at March 31, 2014. Other collateral owned decreased $92 during the six months ended March 31, 2014 to $63 from the September 30, 2013 balance of $155. The increase in other real estate owned was largely due to in substance foreclosures, which we believe is a temporary increase that will carry through the next quarter. We continue to aggressively liquidate OREO and other collateral owned as part of our overall credit risk strategy. Loans 30 to 90 days past due have decreased significantly during the six month period ended March 31, 2014 compared to the comparable prior year period, which management believes is indicative of a decreasing likelihood of loans migrating toward nonaccrual or nonperforming status in the future. We believe our improved credit and underwriting policies are supporting more effective lending decisions by the Bank, which increases the likelihood of improved loan quality going forward. Moreover, we believe the favorable trends noted in previous quarters regarding our nonperforming loans and nonperforming assets reflect our continued adherence to improved underwriting criteria and practices along with improvements in macroeconomic factors in our credit markets. We believe our current ALL is adequate to cover probable losses in our current loan portfolio. Net charge offs for the six month period ended March 31, 2014 were $964, compared to $1,480 for the same prior year period. The ratio of annualized net charge-offs to average loans receivable was 0.44% for the six month period ended March 31, 2014, compared to 0.62% for the twelve months ended September 30, 2013. Improved net charge-offs during the current year to date period were primarily a result of overall credit quality improvement within the loan portfolio. Investment Securities. We manage our securities portfolio in an effort to enhance income, improve liquidity, and meet the Qualified Thrift Lender test established by our banking regulators. Our Investment portfolio is comprised of securities available for sale and securities held to maturity. Securities held to maturity were $8,534 at March 31, 2014, compared with $0 at September 30, 2013. Securities available for sale, which represent the majority of our investment portfolio, were $64,405 at March 31, 2014, compared with $79,695 at September 30, 2013. The securities that were in our non-agency residential mortgage-backed securities (MBS) portfolio were originally purchased throughout 2007 and early 2008 and were generally secured by prime 1-4 family residential mortgage loans. These securities were all rated "AAA" or the equivalent by major credit rating agencies at the time of their original purchase, but had been downgraded from investment grade to below investment grade in recent years. During the quarter ended March 31, 2014, the entire remaining book value of our non-agency residential MBS portfolio, which consisted of two remaining securities and totaled $1,504, was sold. The market for these securities recently improved due to general economic conditions. Taking into consideration these developments and other factors, we determined that it was still likely the Bank would not collect all amounts due according to the contractual terms of these securities. Therefore, the remaining non-agency residential mortgage-backed securities (MBS) portfolio was sold at a loss of $183 during the quarter ended March 31, 2014, which is included in net (loss) gain on sale of available for sale securities in the total non-interest income section of our consolidated statements of operations. As part of our asset and liability management activities, we had previously reviewed our non-agency MBS portfolio on a quarterly basis. We analyzed credit risk, i.e. the likelihood of potential future OTTI adjustments and current market prices relative to our current book value. We also analyzed the impact of these securities on our regulatory risk-based capital requirements. As a result of our analysis, we recorded $0 and $91 of additional OTTI during the three and six month periods ended March 31, 2014. The amortized cost and market values of our available for sale securities by asset categories as of the periods indicated below were as follows: 38 -------------------------------------------------------------------------------- Amortized Fair Securities available for sale Cost Value March 31, 2014 U.S. government agency obligations $ 25,590$ 24,006



Obligations of states and political subdivisions 11,694 11,190 Mortgage-backed securities

29,725 29,143 Non-agency mortgage-backed securities - - Federal Agricultural Mortgage Corporation 71 66 Totals $ 67,080$ 64,405 September 30, 2013 U.S. government agency obligations $ 29,702$ 27,866



Obligations of states and political subdivisions 11,647 10,970 Mortgage-backed securities

40,378 39,633 Non-agency mortgage-backed securities 1,842 1,226 Totals $ 83,569$ 79,695



The amortized cost and fair value of our held to maturity securities by asset categories as of the date noted below were as follows:

Amortized Fair Securities held to maturity Cost Value



March 31, 2014 Obligations of states and political subdivisions $ 1,477$ 1,477 Mortgage-backed securities

$ 7,057$ 7,035 Totals $ 8,534$ 8,512



September 30, 2013 Obligations of states and political subdivisions $ - $ - Mortgage-backed securities

$ - $ - Totals $ - $ -



The composition of our available for sale portfolios by credit rating as of the periods indicated was as follows:

March 31, 2014September 30,



2013

Amortized Fair Amortized



Fair

Securities available for sale Cost Value Cost Value Agency $ 55,315$ 53,149$ 70,080$ 67,499 AAA 1,136 1,093 1,441 1,342 AA 8,441 8,086 8,685 8,196 A 1,758 1,659 1,192 1,119 BBB - - - - Below investment grade - - 1,842 1,226 Non-rated 430 418 329 313 Total $ 67,080$ 64,405$ 83,569$ 79,695



The composition of our held to maturity portfolio by credit rating as of the periods indicated was as follows:

39 -------------------------------------------------------------------------------- March 31, 2014 September 30, 2013 Amortized Fair Amortized Fair Securities held to maturity Cost Value Cost Value Agency $ 7,057$ 7,035 $ - $ - AAA - - - - AA 892 891 - - A 235 234 - - BBB - - - - Below investment grade - - - - Non-rated 350 352 - - Total $ 8,534$ 8,512 $ - $ - At March 31, 2014, the approximate aggregate fair value of the two remaining non-agency MBS securities, for which other-than-temporary impairment of $1,341 had been previously recorded, was $0 as a result of the sale of these securities during the period. The following table is a roll forward of the amount of other-than-temporary impairment, related to credit losses, recognized in earnings. Beginning balance of the amount of OTTI related to credit losses $ 1,250 Credit portion of OTTI on securities for which OTTI was not previously recognized



91

Cash payments received on a security in excess of the security's book value adjusted for the previously recognized credit portion of OTTI

(13 ) Credit portion of OTTI on securities in default for which OTTI was previously recognized

-

Credit portion of OTTI previously recognized on securities sold during the period

(1,328 ) Ending balance of the amount of OTTI related to credit losses $



-

During the quarter ended March 31, 2013, the Bank recognized $372 of other-than-temporary impairment in earnings on a non-agency MBS, which brought the amortized cost of this specific non-agency MBS to $0. To date, the Bank had recognized $2,171 of other-than-temporary impairment in earnings on this specific aforementioned non-agency mortgage-backed security. During the six months ended March 31, 2014, the Bank received $13 in cash payments from this specific non-agency MBS that was in default. During the quarter ended March 31, 2014, the Bank sold the entire remaining balance of the non-agency mortgage-backed security portfolio consisting of two securities, which had a book value of $1,500, and recognized a loss of $182 in earnings. To date, the Bank had recognized $1,328 of other-than-temporary impairment in earnings on these two remaining non-agency mortgage-backed securities. At March 31, 2014, securities in the amount of $12,112 were pledged against a line of credit with the Federal Reserve Bank of Minneapolis. As of March 31, 2014, this line of credit had a zero balance. Deposits. Deposits decreased to $434,458 at March 31, 2014, from $447,398 at September 30, 2013, largely due to in-store branch closures and the sale of deposits associated with the Wisconsin Dells Branch occurring during the quarter ended March 31, 2014. Deposit activity by product and generated by in-store versus traditional branch locations as of March 31, 2014 was as follows: In-store Traditional Institutional Total Non-CD deposits $ (9,981 )$ (4,148 ) $ - $ (14,129 ) CD deposits - customer (4,903 ) 952 - (3,951 ) CD deposits - institutional - - 5,140 5,140 Total change in deposits $ (14,884 )$ (3,196 ) $ 5,140 $ (12,940 ) Through execution of our branch deposit sales strategy, and by expanding our deposit product offerings, we continue to pursue core deposit relationships at current market rates. Institutional certificates of deposit as a funding source increased for the six months ended March 31, 2014 from their balance as of September 30, 2013. Institutional certificates of deposit remain an important part of our deposit mix, as we continue to pursue funding sources to lower the Bank's cost of funds. 40

-------------------------------------------------------------------------------- The Bank had $498 in brokered deposits at both March 31, 2014 and September 30, 2013. Brokered deposit levels are within all regulatory directives thereon. Federal Home Loan Bank (FHLB) advances (borrowings). FHLB advances increased from $50,000 as of September 30, 2013, to $57,730 as of March 31, 2014, as we continue to utilize these advances, as necessary, to supplement core deposits to meet our funding and liquidity needs, and as we evaluate all options to lower the Bank's cost of funds. Stockholders' Equity. Total stockholders' equity was $55,355 at March 31, 2014, compared to $54,185 at September 30, 2013. Total stockholders' equity increased by $1,170, primarily as a result of an increase in other comprehensive income and earnings during the six months ended March 31, 2014. The increase in other comprehensive income was primarily the net affect of adjustments for realized gain and unrealized losses on available for sale securities. Liquidity and Asset / Liability Management. Liquidity management refers to our ability to ensure cash is available in a timely manner to meet loan demand and depositors' needs, and meet other financial obligations as they become due without undue cost, risk or disruption to normal operating activities. Asset / liability management refers to our ability to efficiently and effectively utilize customer deposits and other funding sources to generate sufficient risk-weighted yields on interest earning assets. We manage and monitor our short-term and long-term liquidity positions and needs through a regular review of maturity profiles, funding sources, and loan and deposit forecasts to minimize funding risk. A key metric we monitor is our liquidity ratio, calculated as cash and investments with maturities less than one-year divided by deposits with maturities less than one-year. At March 31, 2014, our liquidity ratio was 10.85%, which was above our targeted liquidity ratio of 10%. Our primary sources of funds are deposits; amortization, prepayments and maturities of outstanding loans; other short-term investments; and funds provided from operations. We use our sources of funds primarily to meet ongoing commitments, to pay maturing certificates of deposit and savings withdrawals, and to fund loan commitments. While scheduled payments from the amortization of loans and maturing short-term investments are relatively predictable sources of funds, deposit flows and loan prepayments are greatly influenced by general interest rates, economic conditions and competition. Although $85,526 of our $231,816 (36.9%) CD portfolio as of March 31, 2014 will mature within the next 12 months, we have historically retained over 70% of our maturing CD's. Through new deposit product offerings to our branch customers, we are currently attempting to strengthen customer relationships while lengthening deposit maturities. In the present interest rate environment, and based on maturing yields this should also improve our cost of funds. While we believe that our branch network attracts core deposits and enhances the Bank's long-term liquidity, a key component to our broader liquidity management strategy, we continue to analyze the profitability of our branch network. We maintain access to additional sources of funds including FHLB borrowings and lines of credit with the Federal Reserve Bank, US Bank and Bankers' Bank. We utilize FHLB borrowings to leverage our capital base, to provide funds for our lending and investment activities, and to manage our interest rate risk. Our borrowing arrangement with the FHLB calls for pledging certain qualified real estate loans, and borrowing up to 75% of the value of those loans, not to exceed 35% of the Bank's total assets. Currently, we have approximately $112,205 available under this arrangement. We also maintain lines of credit of $9,300 with the Federal Reserve Bank, $5,000 with US Bank and $13,500 with Bankers' Bank as part of our contingency funding plan. The Federal Reserve Bank line of credit is based on 80% of the collateral value of the agency securities being held at the Federal Reserve Bank. The Bankers' Bank line of credit is a discretionary line of credit. As of March 31, 2014, our line of credit balance with the Federal Home Loan Bank was $57,730. As of the same date, our line of credit balance with the Federal Reserve Bank, US Bank and Bankers' Bank was $0. Off-Balance Sheet Liabilities. Some of our financial instruments have off-balance sheet risk. These instruments include unused commitments for lines of credit, overdraft protection lines of credit and home equity lines of credit, as well as commitments to extend credit. As of March 31, 2014, the Company had $14,179 in unused commitments, compared to $12,678 in unused commitments as of September 30, 2013. Capital Resources. As of March 31, 2014, our Tier 1 and Risk-based capital levels exceeded levels necessary to be considered "Well Capitalized" under Prompt Corrective Action provisions. Current Office of the Comptroller of Currency ("OCC") guidance required the Bank to apply significantly increased risk weighting factors to certain non-agency mortgage-backed securities previously owned, whose prevailing bond agency ratings had been downgraded due to perceived increases in credit risk. This resulted in required risk based capital levels that were, in some cases, many times greater than the adjusted par value of the securities. 41

--------------------------------------------------------------------------------

To Be Well Capitalized For Capital Adequacy Under Prompt Corrective Actual Purposes Action Provisions Amount Ratio Amount Ratio Amount Ratio As of March 31, 2014 (Unaudited) Total capital (to risk weighted assets) $ 59,719,000 17.2 % $ 27,710,000 >= 8.0 % $ 34,637,000 >= 10.0 % Tier 1 capital (to risk weighted assets) 55,365,000 16.0 % 13,855,000 >= 4.0 % 20,782,000 >= 6.0 % Tier 1 capital (to adjusted total assets) 55,365,000 10.0 % 22,036,000 >= 4.0 % 27,545,000 >= 5.0 % As of September 30, 2013 (Audited) Total capital (to risk weighted assets) $ 59,297,000 16.3 % $ 29,182,000 >= 8.0 % $ 36,478,000 >= 10.0 % Tier 1 capital (to risk weighted assets) 54,717,000 15.0 % 14,591,000 >= 4.0 % 21,887,000 >= 6.0 % Tier 1 capital (to adjusted total assets) 54,717,000 9.9 % 22,220,000 >= 4.0 % 27,775,000 >= 5.0 %



At March 31, 2014, the Bank was categorized as "Well Capitalized" under Prompt Corrective Action Provisions, as determined by the OCC, our primary regulator.


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