The objective of this section is to help potential investors understand our
views on our results of operations and financial condition. You should read this
discussion in conjunction with the financial statements and notes to the
financial statements that appear at the end of this report.
Overview Our principal business is to acquire deposits from individuals and businesses in the communities surrounding our offices and to use these deposits to fund loans. We focus on providing our products and services to two segments of customers: individuals and small businesses. We have experienced net losses of
$763 thousandand $324 thousandfor the years ended March 31, 2014and 2013, respectively. Our profitability has suffered due to lower net interest income resulting from the prolonged low interest rate environment, as well as heightened provisions for loan losses, expenses for real estate owned and other problem loan expenses. For the year ended March 31, 2014, we had net interest income of $3.9 millionand incurred provision expenses of $957 thousand, net real estate owned expenses and losses of $758 thousand, and other problem loan expenses of $210 thousand. For the year ended March 31, 2013, we had net interest income of $4.0 millionand incurred provision expenses of $640 thousand, real estate owned expenses and losses of $340 thousand, and other problem loan expenses of $448 thousand. At March 31, 2014, non-performing assets and troubled debt restructurings totaled $8.0 million, or 6.26% of total assets. Income. Our primary source of pre-tax income is net interest income. Net interest income is the difference between interest income, which is the income that we earn on our loans and investments, and interest expense, which is the interest that we pay on our deposits and borrowings. Changes in levels of interest rates affect our net interest income. Our earnings have been adversely affected by a shrinking net interest margin caused by the protracted low interest rate environment and its impact on earning asset yields. Our net interest margin was 3.33% for the year ended March 31, 2014, as compared to 3.35% for the year ended March 31, 2013. Our average yield on earning assets declined to 3.95% for the year ended March 31, 2014, from 4.22% for the year ended March 31, 2013as higher yielding loans were paid off or refinanced at lower market rates and higher yielding securities were called by the issuer and replaced with lower yielding investments. A secondary source of income is non-interest income, which is revenue that we receive from providing products and services. The majority of our non-interest income generally comes from service charges (mostly from service charges on deposit accounts). In some years, we recognize income from the sale of loans and securities. Our facility in Cinnaminson includes space that we will rent to other businesses. Currently, two of the rental units are occupied. Allowance for Loan Losses. The allowance for loan losses is a valuation allowance for probable losses inherent in the loan portfolio. We evaluate the need to establish allowances against losses on loans on a quarterly basis. When additional allowances are necessary, a provision for loan losses is charged to earnings. Expenses. The noninterest expenses we incur in operating our business consist of salaries and employee benefits expenses, occupancy expenses, loan expenses, data processing expenses and other miscellaneous expenses, such as office supplies, telephone, postage, advertising and professional services. Our largest noninterest expense is salaries and employee benefits, which consist primarily of salaries and wages paid to our employees, payroll taxes, and expenses for health insurance, retirement plans and other employee benefits. We have incurred additional noninterest expenses as a result of operating as a public company. These additional expenses consist primarily of legal and accounting fees and expenses of shareholder communications and meetings. In the future, we may recognize additional annual employee compensation expenses stemming from share-based compensation. We cannot determine the actual amount of this expense at this time because applicable accounting practices require that they be based on the fair market value of the shares of common stock at specific points in the future. 22
Occupancy expenses, which are the fixed and variable costs of buildings and equipment, consist primarily of depreciation charges, furniture and equipment expenses, maintenance, real estate taxes and costs of utilities.
Critical Accounting Policies In the preparation of our consolidated financial statements, we have adopted various accounting policies that govern the application of accounting principles generally accepted in
the United States. Our significant accounting policies are described in the notes to our financial statements. Certain accounting policies involve significant judgments and assumptions by us that have a material impact on the carrying value of certain assets and liabilities. We consider these accounting policies to be critical accounting policies. The judgments and assumptions we use are based on historical experience and other factors, which we believe to be reasonable under the circumstances. Actual results could differ from these judgments and estimates under different conditions, resulting in a change that could have a material impact on the carrying values of our assets and liabilities and our results of operations. Allowance for Loan Losses. We consider the allowance for loan losses to be a critical accounting policy. The allowance for loan losses is the amount estimated by management as necessary to cover losses inherent in the loan portfolio at the balance sheet date. The allowance is established through the provision for loan losses, which is charged to income. Determining the amount of the allowance for loan losses involves a high degree of judgment. Among the material estimates required to establish the allowance are: loss exposure at default; the amount and timing of future cash flows on impacted loans; value of collateral; and determination of loss factors to be applied to the various elements of the portfolio. All of these estimates are susceptible to significant change. Management reviews the level of the allowance at least quarterly and establishes the provision for loan losses based upon an evaluation of the portfolio, past loss experience, current economic conditions and other factors related to the collectability of the loan portfolio. Although we believe that we use the best information available to establish the allowance for loan losses, future adjustments to the allowance may be necessary if economic conditions differ substantially from the assumptions used in making the evaluation. In addition, the OCC, as an integral part of its examination process, periodically reviews our allowance for loan losses. Such agency may require us to recognize adjustments to the allowance based on its judgments about information available to it at the time of its examination. A large loss could deplete the allowance and require increased provisions to replenish the allowance, which would adversely affect earnings. See note 2 to the consolidated financial statements. Deferred Income Taxes. We use the asset and liability method of accounting for income taxes. Under this method, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. If current available information raises doubt as to the realization of the deferred tax assets, a valuation allowance is established. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. We exercise significant judgment in evaluating the amount and timing of recognition of the resulting tax liabilities and assets. These judgments require us to make projections of future taxable income. The judgments and estimates we make in determining our deferred tax assets, which are inherently subjective, are reviewed on a continual basis as regulatory and business factors change. The calculation of deferred taxes for GAAP capital differs from the calculation of deferred taxes for regulatory capital. For regulatory capital, deferred tax assets that are dependent upon future taxable income for realization are limited to the lesser of either the amount of deferred tax assets that the institution expects to realize within one year of the calendar quarter-end date, or 10% of Delanco Federal's Tier I capital. As a result of this variance, our Tier I regulatory capital ratio is lower than our GAAP capital ratio by 1 basis points. Balance Sheet Analysis Overview. Total assets at March 31, 2014were $127.4 million, a decrease of $ 2 million, or 1.6%, from total assets of $129.4 millionat March 31, 2013. The change in the asset composition primarily reflected decreases in outstanding loans offset by an increase in investments. Total liabilities were $113.6 million, a decrease of $4.4 million, or 3.7%, from total liabilities of $118.0 millionat March 31, 2013. The change in liabilities primarily reflected a decrease in higher yielding certificates of deposit as we concentrated on increasing our core deposits and chose not to match competitors' rates on certificates of deposit. Total stockholders' equity increased by $2.4 million, the result of the receipt of net proceeds of $3.4 millionfrom the mutual-to-stock conversion, less the loan made to the ESOP of $189 thousandand the loss for the year of $763 thousand. 23 -------------------------------------------------------------------------------- Loans. At March 31, 2014, total loans, net, were $83.5 million, or 65.6% of total assets. During the year ended March 31, 2014, loans decreased by $2.9 milliondue primarily to payoffs of residential and commercial real estate loans and the transfer of loan assets to other real estate owned. Commercial and multi-family real estate loans decreased by $2.0 million, commercial loans increased by $141 thousandand residential loans decreased by $3.1 million. Net loans have decreased $20.3 millionsince March 31, 2011as we have curtailed our lending activities to focus on working out our problem assets and managing our asset size in order to maintain our capital ratios.
Table 1: Loan Portfolio Analysis
2014 2013 2012 March 31, (Dollars in thousands) Amount Percent Amount Percent Amount Percent Real estate loans: Residential
$ 63,52474.7 % $ 66,59774.4 % $ 70,19269.7 % Commercial and multi-family 10,414 12.2 12,403 13.8 17,130 17.0 Construction 1,009 1.2 83 0.1 839 0.8 Total real estate loans 74,947 88.1 79,083 88.3 88,611 87.5 Commercial loans 1,307 1.5 1,166 1.3 1,480 1.5 Consumer loans: Home equity 8,144 9.6 8,361 9.3 9,987 9.9 Other 686 0.8 960 1.1 1,047 1.1 Total consumer loans 8,830 10.4 9,321 10.4 11,034 11.0 Total loans 85,084 100.0 % 89,570 100.0 % 100,675 100.0 % Net deferred loan fees (97 ) (118 ) (82 ) Allowance for losses (1,448 ) (1,033 ) (1,161 ) Loans, net $ 83,539 $ 88,419 $ 99,432The following table sets forth certain information at March 31, 2014regarding the dollar amount of loan principal repayments becoming due during the periods indicated. The table does not include any estimate of prepayments which significantly shorten the average life of all loans and may cause our actual repayment experience to differ from that shown below. Demand loans having no stated schedule of repayments and no stated maturity are reported as due in one year or less. The amounts shown below exclude applicable loans in process, unearned interest in consumer loans and net deferred loan costs. Our adjustable-rate mortgage loans generally do not provide for downward adjustments below the initial discounted contract rate. When market interest rates rise, the interest rates on these loans may increase based on the contract rate (the index plus the margin) exceeding the initial interest rate floor.
Table 2: Contractual Maturities and Interest Rate Sensitivity
Real Estate Commercial Consumer Total March 31, 2014 (Dollars in thousands) Loans Loans Loans Loans Amounts due in: One year or less
$ 5,067 $ 1,041 $ 642 $ 6,750More than one to five years 4,878 266 3,032 8,176 More than five years 65,002 - 5,156 70,158 Total $ 74,947 $ 1,307 $ 8,830 $ 85,084Interest rate terms on amounts due after one year: Fixed-rate loans $ 66,988 $ 266 $ 3,528 $ 70,782Adjustable-rate loans 2,892 - 4,660 7,552 Total $ 69,880 $ 266 $ 8,188 $ 78,334Securities. The investment securities portfolio was $28.9 million, or 22.7% of total assets, at March 31, 2014. At that date 4.9% of the investment portfolio was invested in mortgage-backed securities, while the remainder was invested primarily in U.S. Governmentagency and other debt securities. The portfolio increased $6.6 millionin the year ended March 31, 2014due to the purchase of U.S. Governmentagency securities. 24 --------------------------------------------------------------------------------
2014 2013 2012 March 31, (Dollars in Amortized Fair Amortized Fair Amortized Fair thousands) Cost Value Cost Value Cost Value Securities available for sale: Government sponsored - - enterprise securities
$ 2,000 $ 1,790 $ 2,000 $ 1,985$ $ Mutual funds 186 183 217 222 237 242 Total available for sale 2,186 1,973 2,217 2,207 237 242 Securities held to maturity: Government sponsored enterprise securities 25,007 23,350 18,035 18,044 14,441 14,401 Municipal securities 547 548 64 64 104 104 Mortgage-backed securities 1,422 1,513 2,039 2,178 2,912 3,101 Total held to maturity 26,976 25,411 20,138 20,286 17,457 17,606 Total $ 29,162 $ 27,384 $ 22,355 $ 22,493 $ 17,694 $ 17,848The following table sets forth the stated maturities and weighted average yields of our investment securities at March 31, 2014. Approximately $578 thousandof mortgage-backed securities have adjustable interest rates and will reprice annually within the various maturity ranges. These re-pricing schedules are not reflected in the table below.
Table 4: Investment Maturities Schedule
One Year or Less More than One More than Five More than Ten Years Total Year to Five Years Years to Ten Years March 31, 2014 Carrying Weighted Carrying Weighted Carrying Weighted Carrying Weighted Carrying Weighted (Dollars in thousands) Value Average Value Average Value Average Value Average Value Average Yield Yield Yield Yield Yield Securities available-for-sale: $ - - % $ - - % $ - - % $ - - % $ - - % Government sponsored enterprise securities - - - - - - 1,790 2.5 1,790 2.5 Mutual funds - - - - - - - - 183 - Total available for sale - - - - - - 1,790 2.5 1,973 - Securities held to maturity: Government sponsored enterprise securities $ - - %
$ 5,9192.1 % $ 17,588
2.6 % 25,007 2.6 % Municipal securities 547 1.8 - - - - - - 547 1.8 Mortgage-backed securities - - 2 9.0 - - 1,420 3.5 1,422 3.5 Total held to maturity 547 1.8 1,502
1.3 5,919 2.1 19,008 2.7 26,976 2.6 Total
$ 5471.8 % $ 1,5021.3 % $ 5,9192.1 % $ 20,7982.7 % $ 28,949- % Deposits. Our deposit base is comprised of demand deposits, money market and passbook accounts and time deposits. We consider demand deposits and money market and passbook accounts to be core deposits. At March 31, 2014, core deposits were 58.2% of total deposits, up from 53.3% at March 31, 2013. We do not have any brokered deposits. Total deposits decreased by $6.4 millionin the year ended March 31, 2014as core deposits increased by $2 millionand certificates of deposit decreased by $8.4 million. During the year ended March 31, 2014, we chose not to match the highest time deposit rates in our market in an effort to reduce our funding costs. 25
-------------------------------------------------------------------------------- Table 5: Deposits 2014 2013 2012 March 31, (Dollars in thousands) Amount Percent Amount Percent Amount Percent Noninterest-bearing demand deposits
$ 7,8527.1 % $ 6,8735.9 % $ 4,6733.8 % Interest-bearing demand deposits 19,638 17.8 14,882 12.7 13,086 10.8 Savings and money market accounts 36,896 33.3 40,596 34.7 39,877 32.8 Certificates of deposit 46,239 41.8 54,683 46.7 63,953 52.6 Total $ 110,625100.0 % $ 117,034100.0 % $ 121,589100.0 %
Table 6: Time Deposit Maturities of
$ 4,052Over three through six months 2,112 Over six through twelve months 6,068 Over twelve months 2,440 Total $ 14,672
Table 7: Time deposits by rate
At March 31, (Dollars in thousands) 2014 2013 2012 0.00 - 0.99%
$ 27,342 $ 25,623 $ 16,3141.00 - 1.99% 12,374 19,220 33,312 2.00 - 2.99% 6,351 8,035 9,821 3.00 - 3.99% 172 1,560 1,899 4.00 - 4.99% - 245 2,607 Total $ 46,239 $ 54,683 $ 63,953
Table 8: Time deposits by rate and maturity
Amount Due More Than More Than More Than More Percent of One Year Two Years Three Years Than Total at Total (Dollars in Less Than to to to Four Four March 31, Certificate thousands) One Year Two Years Three Years Years Years 2013 Accounts 0.00 - 0.99%
$ 21,589 $ 4,988 $ 765- $ - $ - $ 27,34259.13 % 1.00 - 1.99% 4,658 1,782 1,330 2,338 2,266 12,374 26.76 2.00 - 2.99% 1,849 1,998 2,504 - - 6,351 13.74 3.00 - 3.99% 172 - - - - 172 0.37 4.00 - 4.99% - - - - - - - Total $ 28,268 $ 8,768 $ 4,599 $ 2,338 $ 2,266 $ 46,239100 % 26
Borrowings. We have borrowing arrangements with the FHLB and
Table 9: Borrowings
March 31, (Dollars in thousands) 2014 2013
Maximum amount outstanding at any month end during the period: Advances
$ 2,000- $ 2,500Average amount outstanding during the period (1): Advances 458 - 458 Weighted average interest rate during the period (1): Advances 0.43 % - 0.33 % Balance outstanding at end of period: Advances $ 2,000- - Weighted average interest rate at end of period: Advances 0.43 % - - %
(1) Averages are based on month-end balances.
Results of Operations for the Years Ended
Financial Highlights. Net loss for the year ended
March 31, 2014was $763 thousandcompared to net loss of $324 thousandfor the year ended March 31, 2013. Our profitability has suffered due to heightened provisions for loan losses, expenses for real estate owned and other problem loan expenses. In addition, our earnings have been adversely affected by a shrinking net interest margin caused by the protracted low interest rate environment and its impact on earning asset yields. Our net interest margin was 3.33% for the year ended March 31, 2014, as compared to 3.35% for the year ended March 31, 2013. Our average yield on earning assets declined to 3.95% for the year ended March 31, 2014, from 4.22% for the year ended March 31, 2013as higher yielding loans were paid off or refinanced at lower market rates and higher yielding securities were called by the issuer and replaced with lower yielding investments.
Table 10: Summary Income Statements
Year Ended March 31, (Dollars in thousands) 2014 2013 2014 v. 2013 % Change Net interest income
$ 3,939 $ 4,045$ (106 ) (2.7 )% Provision for loan losses 957 640 317 49.5 Noninterest income 191 201 (10 ) (5.0 ) Noninterest expenses 4,337 4,139 198 4.8 Net income (loss) (763 ) (324 ) (439 ) (135.5 )
Return on average equity (6.21 )% (2.8 )% Return on average assets (0.59 ) (0.25 ) Net Interest Income. Net interest income for the year ended
March 31, 2014was $3.9 millioncompared to $4.0 millionfor the year ended March 31, 2013, a decrease of 2.5%. The net interest margin decreased 2 basis points to 3.33% for the year ended March 31, 2014, as average interest-earning assets decreased $2.6 millionwhile average interest-bearing liabilities decreased $6.2 million. Also contributing to the decrease in the net interest margin was a 27 basis point decrease in the average yield on interest-earning assets, which exceeded the 25 basis point decrease in the average cost of interest-bearing liabilities. For the year ended March 31, 2014, interest income declined 8.5% compared to the prior year. Interest income on loans decreased $536 thousandas the average balance declined $7.7 millionand the average yield declined 20 basis points. Partially offsetting lower interest income on loans, interest income on investment securities increased $104 thousand, as growth of the investment portfolio exceeded the impact of lower yields. For the year ended March 31, 2014, interest expense declined 31.0% compared to the prior year, as the average balance of deposits decreased $6.2 millionand the average rate paid decreased 25 basis points. The decrease in deposits was driven by a decrease of $8.4 millionin certificates of deposit, which was partially offset by increases in demand deposits and savings and money market accounts. 27
Table 11: Analysis of Net Interest Income
Year Ended March 31, (Dollars in thousands) 2014 2013 2014 v. 2013 % Change Components of net interest income Loans
$ 3,947 $ 4,483$ (536 ) (11.9 )% Investment securities 721 618 103 16.7 Total interest income 4,668 5,101 (433 ) (8.5 ) Deposits 727 1,057 (330 ) (31.2 ) Borrowings 2 - 2 - Total interest expense 729 1,057 (328 ) (31.0 ) Net interest income 3,939 4,044 (105 ) (2.6 ) Average yields and rates paid Interest-earning assets 3.95 % 4.22 % (27 )bp Interest-bearing liabilities 0.67 0.92 (25 ) Interest rate spread 3.28 3.30 (02 ) Net interest margin 3.33 3.35 (02 ) Average balances Loans $ 85,152 $ 92,900 $ (7,748 )(8.3 )% Investment securities 28,398 22,392 6,006 26.8 Earning assets 118,148 120,754 (2,606 ) (2.2 ) Interest-bearing deposits 108,194 114,389 (6,195 ) (5.4 ) Provision for Loan Losses. The allowance for loan losses is a valuation allowance for probable losses inherent in the loan portfolio. We evaluate the need to establish allowances against losses on loans on a quarterly basis. When additional allowances are necessary, a provision for loan losses is charged to earnings. Provisions for loan losses were $957 thousandin the year ended March 31, 2014compared to $640 thousandin the year ended March 31, 2013. The provision for loan losses was primarily attributable to management's systematic evaluation of risk associated with the loan portfolio. We had $625 thousandin charge-offs in the year ended March 31, 2014, compared to $808 thousandin charge-offs in the year ended March 31, 2013. The allowance for loan losses was $1.4 million, or 1.70% of total loans outstanding as of March 31, 2014as compared with $1.0 million, or 1.15% as of March 31, 2013. An analysis of the changes in the allowance for loan losses is presented under "Risk Management - Analysis and Determination of the Allowance for Loan Losses."
Noninterest Income. Noninterest income was
Table 12: Noninterest Income Summary
% Change Service charges
$ 135 $ 133 $ 21.5 % Rental income 28 29 (1 ) (3.4 ) Income from bank owned life insurance 12 6 6 100.0 Other 16 33 (17 ) (51.5 ) Total $ 191 $ 201 $ (10 )(5.0 )% Noninterest Expense. Noninterest expense was $4.3 millionfor the year ended March 31, 2014compared to $4.1 millionfor the prior year. The decrease in noninterest expense over the prior year was primarily due to decreased loan and real estate owned expenses partially offset by an increase in real estate owned provisions. 28
Table 13: Noninterest Expense Summary
$ 1,582 $ 1,565 $ 171.1 % Advertising 24 22 2 9.1 Office supplies, telephone and postage 76 100 (24 ) (24.0 ) Loan expenses 210 448 (238 ) (53.1 ) Occupancy expense 658 654 4 0.6 Federal deposit insurance premiums 213 216 (3 ) (1.4 ) Real estate owned impairment losses 675 56 619 1105.3 Data processing expenses 229 217 12 5.5 ATM expenses 35 28 7 25.0 Bank charges and fees 69 70 (1 ) (1.4 ) Insurance and surety bond premiums 86 80 6 7.5 Dues and subscriptions 24 23 1 4.3 Professional fees 261 248 13 5.2 Real estate owned expenses, net (3 ) 131 (134 ) (102.3 ) Net loss on sale of real estate owned 86 152 (66 ) (43.4 ) Other 112 129 (17 ) (13.2 ) Total $ 4,337 $ 4,139 $ 1984.8 %
Income Tax Expense (Benefit). The benefit for income taxes was
Average Balance Sheets and Related Yields and Rates
The following table presents information regarding average balances of assets and liabilities, the total dollar amounts of interest income and dividends from average interest-earning assets, the total dollar amounts of interest expense on average interest-bearing liabilities, and the resulting annualized average yields and costs. The yields and costs for the periods indicated are derived by dividing income or expense by the average balances of assets or liabilities, respectively, for the periods presented. For purposes of this table, average balances have been calculated using month-end balances, and nonaccrual loans are included in average balances only. Management does not believe that use of month-end balances instead of daily average balances has caused any material differences in the information presented. Loan fees are included in interest income on loans and are insignificant.
Table 14: Average Balance Tables
2014 2013 Interest Interest Year Ended March 31, Average and Yield/ Average and Yield/ (Dollars in thousands) Balance Dividends Cost Balance Dividends Cost Assets: Interest-earning assets: Loans
$ 85,152 $ 3,9474.63 % $ 92,900 $ 4,4834.83 % Investment securities 28,398 709 2.50 22,392 605 2.70 Other interest-earning assets 4,598 12 0.26 5,462 13 0.24 Total interest-earning assets 118,148 4,668 3.95 120,754 5,101 4.22 Noninterest-earning assets 11,698 11,356 Total assets $ 129,846 $ 132,110Liabilities and equity: Interest-bearing liabilities: Interest-bearing demand deposits $ 18,319 $ 410.22 % $ 13,532 $ 360.27 % Savings and money market accounts 38,889 121 0.31 41,080 186 0.45 Certificates of deposit 50,986 565 1.11 59,777 835 1.40 Total interest-bearing deposits 108,194 727 0.67 114,389 1,057 0.92 FHLB advances 458 2 0.43 - - - Total interest-bearing liabilities 108,652 729 0.67 114,389 1,057 0.92 Noninterest-bearing demand deposits 8 5 Other noninterest-bearing liabilities 8,895 6,127 Total liabilities 117,555 120,521 Retained earnings 12,291 11,589 Total liabilities and retained earnings $ 129,846 $ 132,110Net interest income $ 3,939 $ 4,044Interest rate spread 3.28 % 3.30 % Net interest margin 3.33 3.35 Average interest-earning assets to average interest-bearing liabilities 108.74 % 105.56 % 30
-------------------------------------------------------------------------------- Rate/Volume Analysis. The following tables set forth the effects of changing rates and volumes on our net interest income. The rate column shows the effects attributable to changes in rate (changes in rate multiplied by prior volume). The volume column shows the effects attributable to changes in volume (changes in volume multiplied by prior rate). Changes due to both volume and rate have been allocated proportionally to the volume and rate changes. The net column represents the sum of the prior columns.
Table 15: Net Interest Income - Changes Due to Rate and Volume
2014 Compared to 2013 (Dollars in thousands) Volume Rate Net Interest income: Loans receivable
$ (374 ) $ (162 ) $ (536 )Investment securities 161 (57 ) 104 Other interest-earning assets (2 ) 1 (1 ) Total (215 ) (218 ) (433 ) Interest expense: Deposits (60 ) (270 ) (330 ) FHLB advances 2 - 2 Total (58 ) (270 )
(328 ) Increase (decrease) in net interest income (157 ) 52 (105 )
Risk Management Overview. Managing risk is an essential part of successfully managing a financial institution. Our most prominent risk exposures are credit risk, interest rate risk and market risk. Credit risk is the risk of not collecting the interest and/or the principal balance of a loan or investment when it is due. Interest rate risk is the potential reduction of interest income as a result of changes in interest rates. Market risk arises from fluctuations in interest rates that may result in changes in the values of financial instruments, such as available-for-sale securities that are accounted for on a mark-to-market basis. Other risks that we face are operational risks, liquidity risks and reputation risk. Operational risks include risks related to fraud, regulatory compliance, processing errors, technology and disaster recovery. Liquidity risk is the possible inability to fund obligations to depositors, lenders or borrowers. Reputation risk is the risk that negative publicity or press, whether true or not, could cause a decline in our customer base or revenue. Credit Risk Management. Our strategy for credit risk management focuses on having well-defined credit policies and uniform underwriting criteria and providing prompt attention to potential problem loans. In
January 2013, we engaged an independent third party to conduct periodic loan portfolio reviews. See "Regulation and Supervision-Regulatory Agreement" for further information on certain regulatory directives applicable to our credit functions. When a borrower fails to make a required loan payment, we take a number of steps to have the borrower cure the delinquency and restore the loan to current status, including contacting the borrower by letter and phone at regular intervals. When the borrower is in default, we may commence collection proceedings. If a foreclosure action is instituted and the loan is not brought current, paid in full, or refinanced before the foreclosure sale, the real property securing the loan generally is acquired at foreclosure and subsequently sold. Generally, when a consumer loan becomes 60 days past due, we institute collection proceedings and attempt to repossess any personal property that secures the loan. Management informs the board of directors monthly of the amount of loans delinquent more than 30 days, all loans in foreclosure and repossessed property that we own. Analysis of Nonperforming and Classified Assets. We consider repossessed assets and loans that are 90 days or more past due to be nonperforming assets. Loans are generally placed on nonaccrual status when they become 90 days delinquent at which time the accrual of interest ceases and the allowance for any uncollectible accrued interest is established and charged against operations. Typically, payments received on a nonaccrual loan are applied to the outstanding principal and interest as determined at the time of collection of the loan. Real estate that we acquire as a result of foreclosure or by deed-in-lieu of foreclosure is classified as real estate owned until it is sold. When property is acquired it is recorded at the lower of its cost, which is the unpaid balance of the loan, plus foreclosure costs, or fair market value at the date of foreclosure. Holding costs and declines in fair value after acquisition of the property result in charges against income. 31 --------------------------------------------------------------------------------
Table 16: Nonperforming Assets
March 31, (Dollars in thousands) 2014 2013
Nonaccrual loans: Residential real estate
$ 1,277 $ 992 $ 2,308Commercial and multi-family real estate 981 1,302 2,357 Construction - - - Commercial 107 235 - Home equity 219 287 - Consumer - - - Total 2,584 2,816 4,666 Accruing loans past due 90 days or more: Residential real estate - - - Commercial and multi-family real estate 100 - - Construction - - - Commercial - - - Consumer - - - Total 100 - - Troubled debt restructurings: In nonaccrual status 1,519 1,551 2,578 Performing under modified terms 1,917 1,978 1,387 Total debt restructurings 3,436 3,529 3,965 Total non-performing loans 6,120 6,345 8,631 Real estate owned 1,950 2,470 846 Total nonperforming assets $ 8,070 $ 8,815 $ 9,477Total nonperforming loans to total loans 7.19 % 7.08 % 7.16 % Total nonperforming loans to total assets 4.80 4.90 5.39 Total nonperforming assets and troubled debt 6.33 restructurings to total assets 6.81 7.06 Table 17: Loan Delinquencies March 31, 2014 2013 2012 30-59 60-89 30-59 60-89 30-59 60-89 Days Days Days Days Days Days
(Dollars in thousands) Past Due Past Due Past Due Past Due Past Due Past Due Residential real estate
$ 507 $ 554Commercial real estate 494 870 314 231 572 785 Commercial 199 - - - 269 - Home equity 255 241 204 - - 42 Consumer 79 - 7 - 2 40 Total $ 2,500 $ 1,418 $ 2,271 $ 1,162 $ 1,350 $ 1,421At March 31, 2014, we had 23 loan relationships totaling $4.1 millionin nonaccrual loans as compared to 25 relationships totaling $4.4 millionat March 31, 2013. During the year ended March 31, 2014, we experienced a $264 thousandnet decrease in nonaccrual loans. This change reflects the transfer to real estate owned of ten loans totaling $1.1 million, the partial charge-off of one of the relationships transferred to real estate owned of $69 thousandand the return of three loans totaling $282 thousandto accruing status. The changes were partially offset by the downgrading of 10 loan relationships to nonaccrual status totaling $1.9 millionduring the year ended March 31, 2014. The downgraded loans consisted of six relationships representing residential mortgages and one home equity loan totaling $1.2 millionand three commercial loans totaling $270 thousand. At March 31, 2014, our real estate owned consisted of 31 single family homes with a total carrying value of $1.5 million, one mixed-use property with a total carrying value of $185 thousand, one office building with a carrying value of $118 thousandand a building lot with a total carrying value of $117 thousand. At that same date, we had 23 loans in the process of foreclosure with respect to property that had an appraised value of $5.3 million. Interest income that would have been recorded for the year ended March 31, 2014had non-accruing loans been current according to their original terms amounted to $142 thousand. No uncollected interest related to nonaccrual loans was included in interest income for the year ended March 31, 2014. 32 -------------------------------------------------------------------------------- Federal regulations require us to review and classify our assets on a regular basis. In addition, the OCC has the authority to identify problem assets and, if appropriate, require them to be classified. There are three classifications for problem assets: substandard, doubtful and loss. "Substandard assets" must have one or more defined weaknesses and are characterized by the distinct possibility that we will sustain some loss if the deficiencies are not corrected. This category includes other real estate owned. "Doubtful assets" have the weaknesses of substandard assets with the additional characteristic that the weaknesses make collection or liquidation in full on the basis of currently existing facts, conditions and values questionable, and there is a high possibility of loss. An asset classified "loss" is considered uncollectible and of such little value that continuance as an asset of the institution is not warranted. The regulations also provide for a "special mention" category, described as assets which do not currently expose us to a sufficient degree of risk to warrant classification but do possess credit deficiencies or potential weaknesses deserving our close attention. These are considered criticized assets. If we classify an asset as loss, we charge off an amount equal to 100% of the portion of the asset classified loss.
Table 18: Criticized/Classified Assets
$ 363 $ 902 $ 1,045Substandard assets 8,078 8,249 9,313 Doubtful assets 260 94 - Loss assets - - -
Total criticized/classified assets
Other than disclosed in the above tables, there are no other loans that management has serious doubts about the ability of the borrowers to comply with the present loan repayment terms.
Analysis and Determination of the Allowance for Loan Losses. The allowance for loan losses is a valuation allowance for probable losses inherent in the loan portfolio. We evaluate the need to establish allowances against losses on loans on a quarterly basis. When additional allowances are necessary, a provision for loan losses is charged to earnings. Our methodology for assessing the appropriateness of the allowance for loan losses consists of: (1) a specific valuation allowance on identified problem loans; (2) a general valuation allowance on the remainder of the loan portfolio; and (3) an unallocated component. Although we determine the amount of each element of the allowance separately, the entire allowance for loan losses is available to absorb losses in the loan portfolio. For loans that are classified as impaired, we establish an allowance when the discounted cash flows (or collateral value or observable market price) of the loan is lower than its carrying value. We also establish a specific allowance for classified loans that do not have an individual allowance. The evaluation is based on our asset review and classified loan list. We establish a general allowance for loans that are not classified to recognize the inherent losses associated with lending activities. This general valuation allowance is determined by segregating the loans by loan category and assigning allowance percentages to each category. The allowance percentages have been derived using percentages commonly applied under the regulatory framework for Delanco Federal and other similarly-sized institutions. The percentages may be adjusted for significant factors that, in management's judgment, affect the collectability of the portfolio as of the evaluation date. These significant factors may include changes in lending policies and procedures, changes in existing general economic and business conditions affecting our primary lending areas, credit quality trends, collateral value, loan volumes and concentrations, seasoning of the loan portfolio, recent loss experience in particular segments of the portfolio, duration of the current business cycle and bank regulatory examination results. The applied loss factors are reevaluated periodically to ensure their relevance in the current economic environment. An unallocated component is maintained to cover uncertainties that could affect our estimate of probable losses. We identify loans that may need to be charged off as a loss by reviewing all delinquent loans, classified loans and other loans that management may have concerns about collectability. For individually reviewed loans, the borrower's inability to make payments under the terms of the loan or a shortfall in collateral value would result in our charging off the loan or the portion of the loan that was impaired. 33
The OCC, as an integral part of its examination process, periodically reviews our allowance for loan losses. The OCC may require us to make additional provisions for loan losses based on judgments different from ours.
The following table sets forth the breakdown of the allowance for loan losses by loan category at the dates indicated.
Table 19: Allocation of Allowance of Loan Losses
2014 2013 2012 % of % of % of Loans in Loans in Loans in Category Category Category March 31, (Dollars in to Total to Total to Total thousands) Amount Loans Amount Loans Amount Loans Residential real estate
$ 65674.7 % $ 48574.4 % $ 49569.7 % Commercial and multi-family real estate 635 12.2 378 13.8 469 17.0 Construction 4 1.2 - 0.1 - 0.8 Commercial 58 1.5 45 1.3 41 1.5 Home equity 65 9.6 48 9.3 58 9.9 Consumer 30 0.8 77 1.1 98 1.1 Unallocated - - - - - - Total allowance for loan losses $ 1,448100 % $ 1,033100.0 % $ 1,161100.0 % Although we believe that we use the best information available to establish the allowance for loan losses, future adjustments to the allowance for loan losses may be necessary and our results of operations could be adversely affected if circumstances differ substantially from the assumptions used in making the determinations. Furthermore, while we believe we have established our allowance for loan losses in conformity with generally accepted accounting principles, there can be no assurance that regulators, in reviewing our loan portfolio, will not require us to increase our allowance for loan losses. In addition, because future events affecting borrowers and collateral cannot be predicted with certainty, there can be no assurance that the existing allowance for loan losses is adequate or that increases will not be necessary should the quality of any loans deteriorate as a result of the factors discussed above. Any material increase in the allowance for loan losses may adversely affect our financial condition and results of operations. 34 --------------------------------------------------------------------------------
Table 20: Analysis of Loan Loss Experience
Year Ended March 31, (Dollars in thousands) 2014 2013
Allowance at beginning of period
$ 1,033 $ 1,161 $ 1,286Provision for loan losses 957 640 1,602 Charge offs: Residential real estate loans 100 26 399 Commercial and multi-family real estate 378 loans 606 770 Construction loans - 80 - Commercial loans 127 - 46 Home equity loans 4 29 137 Consumer loans 16 67 401 Total charge-offs 625 808 1,753 Recoveries 83 40 26 Net charge-offs 542 768 1,727 Allowance at end of period $ 1,448 $ 1,033 $ 1,161Allowance to nonperforming loans 23.66 % 16.30 % 13.50 % Allowance to total loans outstanding at the 1.70 end of the period 1.15 1.15 Net charge-offs (recoveries) to average loans outstanding during the period 0.62 0.83 1.68 Interest Rate Risk Management. Our earnings and the market value of our assets and liabilities are subject to fluctuations caused by changes in the level of interest rates. We manage the interest rate sensitivity of our interest-bearing liabilities and interest-earning assets in an effort to minimize the adverse effects of changes in the interest rate environment. Deposit accounts typically react more quickly to changes in market interest rates than mortgage loans because of the shorter maturities of deposits. As a result, sharp increases in interest rates may adversely affect our earnings while decreases in interest rates may beneficially affect our earnings. To reduce the potential volatility of our earnings, we have sought to improve the match between asset and liability maturities and rates, while maintaining an acceptable interest rate spread. Our strategy for managing interest rate risk emphasizes originating balloon loans or loans with adjustable interest rates and promoting core deposit products and short-term time deposits. We have an Asset/Liability Management Committee to coordinate all aspects involving asset/liability management. The committee consists of our President and Chief Executive Officer, Chief Financial Officer, Senior Vice President, two lending officers and the manager of our Cinnaminson office. The committee establishes and monitors the volume, maturities, pricing and mix of assets and funding sources with the objective of managing assets and funding sources to provide results that are consistent with liquidity, growth, risk limits and profitability goals. We use an interest rate sensitivity analysis prepared by a third party vendor to review our level of interest rate risk. Economic Value of Equity (EVE) is a measure of long-term interest rate risk. This analysis measures the difference between the market values of the assets and the liabilities. In this analysis the program calculates the discounted cash flow (market value) of each category on the balance sheet under each of five rate conditions. This analysis assesses the risk of loss in market risk sensitive instruments in the event of a sudden and sustained 100 to 300 basis point increase or a 100 basis point decreases in market interest rates with no effect given to any steps that we might take to counter the effect of that interest rate movement. We measure interest rate risk by modeling the changes in EVE over a variety of interest rate scenarios. The following table presents the change in our EVE at March 31, 2014that would occur in the event of an immediate change in interest rates based on our assumptions, with no effect given to any steps that we might take to counteract that change. 35
Table 21: EVE Analysis Economic Value of Equity Economic Value of Equity as % of (Dollars in thousands) Market Value of Assets
Basis Point("bp") Change in Rates $ Amount $ Change % Change NPV Ratio Change 300 7,194 (4,352 ) (37.7 )% 6.44 % (277 )% 200 8,478 (3,068 ) (26.6 ) 7.31 (190 ) 100 10,613 (933 ) (8.1 ) 8.75 (46 ) 0 11,546 - - 9.21 - (100) 13,652 2,106 18.2 10.57 136 The program uses certain assumptions in assessing the interest rate risk of savings associations. These assumptions relate to interest rates, loan prepayment rates, deposit decay rates, and the market values of certain assets under differing interest rate scenarios, among others. As with any method of measuring interest rate risk, certain shortcomings are inherent in the method of analysis presented in the foregoing table. For example, although certain assets and liabilities may have similar maturities or periods to re-pricing, they may react in different degrees to changes in market interest rates. Also, the interest rates on certain types of assets and liabilities may fluctuate in advance of changes in market interest rates, while interest rates on other types may lag behind changes in market rates. Additionally, certain assets, such as adjustable-rate mortgage loans, have features that restrict changes in interest rates on a short-term basis and over the life of the asset. Further, in the event of a change in interest rates, expected rates of prepayments on loans and early withdrawals from certificates could deviate significantly from those assumed in calculating the table.
Liquidity Management. Liquidity is the ability to meet current and future financial obligations of a short-term nature. Our primary sources of funds consist of deposit inflows, loan repayments, maturities of and payments on investment securities and borrowings from the Federal Home Loan Bank of
We regularly adjust our investments in liquid assets based upon our assessment of (1) expected loan demand, (2) expected deposit flows, (3) yields available on interest-earning deposits and securities and (4) the objectives of our asset/liability management policy. Our most liquid assets are cash and cash equivalents. The levels of these assets depend on our operating, financing, lending and investing activities during any given period. At
March 31, 2014, cash and cash equivalents totaled $3.3 million. At March 31, 2014, we had 2 million in outstanding borrowings and had arrangements to borrow up to $16.4 millionfrom the Federal Home Loan Bank of New Yorkand $1 millionfrom Atlantic Central Bankers Bank. At March 31, 2014, the majority of our investment securities were classified as held to maturity. We have classified our investments in this manner, rather than as available for sale, because they were purchased primarily to provide a source of income and not to provide liquidity. We have designated a portion of our investments as available for sale in order to give us greater flexibility in the management of our investment portfolio. A significant use of our liquidity is the funding of loan originations. At March 31, 2014, we had $896 thousandin loan commitments outstanding. In addition, we had $6.1 millionin unused lines of credit. Historically, many of the lines of credit expire without being fully drawn; therefore, the total commitment amounts do not necessarily represent future cash requirements. Another significant use of our liquidity is the funding of deposit withdrawals. Certificates of deposit due within one year of March 31, 2014totaled $28.3 million, or 61.1% of certificates of deposit. The large percentage of certificates of deposit that mature within one year reflects customers' hesitancy to invest their funds for long periods in the recent low interest rate environment. If these maturing deposits do not remain with us, we will be required to seek other sources of funds, such as other deposits and borrowings. Depending on market conditions, we may be required to pay higher rates on such deposits or other borrowings than we currently pay on the certificates of deposit due on or before March 31, 2015. We believe, however, based on past experience that a significant portion of our certificates of deposit will remain with us. We have the ability to attract and retain deposits by adjusting the interest rates offered. 36 -------------------------------------------------------------------------------- Our primary investing activities are the origination and purchase of loans and the purchase of securities. Our primary financing activities consist of activity in deposit accounts and Federal Home Loan Bankadvances. Deposit flows are affected by the overall level of interest rates, the interest rates and products offered by us and our local competitors and other factors. We generally manage the pricing of our deposits to be competitive. Occasionally, we offer promotional rates on certain deposit products to attract deposits. Delanco Bancorpis a separate entity apart from Delanco Federal and must provide for its own liquidity. As of March 31, 2014, Delanco Bancorphad $716 thousandin cash and cash equivalents compared to $312 thousandas of March 31, 2013. Substantially all of Delanco Bancorp'scash and cash equivalents were obtained from proceeds it retained from the stock offering completed in October 2013. In addition to its operating expenses, Delanco Bancorpmay utilize its cash position for the payment of dividends or to repurchase common stock, subject to applicable restrictions. Delanco Bancorpcan receive dividends from Delanco Federal. Payment of such dividends to Delanco Bancorpby Delanco Federal is limited under federal law. The amount that can be paid in any calendar year, without prior regulatory approval, cannot exceed the retained net earnings (as defined) for the year plus the preceding two calendar years. Under the terms of its written agreement with the OCC, Delanco Federal is not permitted to pay dividends without prior regulatory approval. In addition, at the request of the Federal Reserve, Delanco Bancorphas adopted resolutions that prohibit it from declaring or paying any dividends or taking any dividends or other distributions that would reduce the capital of Delanco Federal without the prior written consent of the Federal Reserve. Capital Management. We are subject to various regulatory capital requirements administered by the OCC, including a risk-based capital measure. The risk-based capital guidelines include both a definition of capital and a framework for calculating risk-weighted assets by assigning balance sheet assets and off-balance sheet items to broad risk categories. See "Regulation and Supervision-Regulation of Federal Savings Associations-Capital Requirements," "Regulation and Supervision-Regulatory Agreement" and note 24 to the consolidated financial statements. Off-Balance Sheet Arrangements. In the normal course of operations, we engage in a variety of financial transactions that, in accordance with generally accepted accounting principles are not recorded in our financial statements. These transactions involve, to varying degrees, elements of credit, interest rate and liquidity risk. Such transactions are used primarily to manage customers' requests for funding and take the form of loan commitments and lines of credit. For information about our loan commitments and unused lines of credit, see note 21 to the consolidated financial statements..
For the year ended