UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(MARK ONE)
( X ) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended March 31, 2006
OR
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to .
------------------ --------
Commission File Number 0-25923
EAGLE BANCORP, INC
(Exact name of registrant as specified in its charter)
Maryland 52-2061461
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
7815 Woodmont Avenue, Bethesda, Maryland 20814
(Address of principal executive offices) (Zip Code)
(301) 986-1800
(Registrant's telephone number, including area code)
N/A
(Former name, former address and former fiscal year,
if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes (x) No ( )
----- --- ---
Indicate by check mark whether the registrant is a large accelerated filer, an
accelerated filer or a non-accelerated filer. See definition of "accelerated
filer and large accelerated filer" in Rule 12b-2 of the Exchange Act.
Large accelerated filer [ ] Accelerated filer [X] Non-accelerated filer [ ]
Indicate by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act Yes____ No (x)
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
As of April 25, 2006, the registrant had 7,248,392 shares of
Common Stock outstanding.
Item 1 - Financial Statements
EAGLE BANCORP, INC.
Consolidated Balance Sheets
March 31, 2006 and December 31, 2005
(dollars in thousands)
March 31,
ASSETS 2006 December 31,
(unaudited) 2005
----------- ------------
Cash and due from banks $ 16,689 $ 16,662
Interest bearing deposits with banks and other short term investments 1,718 11,231
Federal funds sold 31,630 6,103
Investment securities available for sale, at fair value 69,954 68,050
Loans held for sale 3,010 2,924
Loans 552,375 549,212
Less allowance for credit losses (6,085) (5,985)
--------- ---------
Loans, net 546,290 543,227
Premises and equipment, net 5,852 5,774
Accrued interest, deferred taxes and other assets 19,423 18,281
--------- ---------
TOTAL ASSETS $ 694,566 $ 672,252
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES
Deposits:
Noninterest bearing demand $ 149,778 $ 165,103
Interest bearing transaction 66,309 73,666
Savings and money market 140,697 142,879
Time, $100,000 or more 140,482 122,571
Other time 73,979 64,674
--------- ---------
Total deposits 571,245 568,893
Customer repurchase agreements
and federal funds purchased 31,549 32,139
Other short-term borrowings 20,000 -
Other liabilities 4,531 6,256
--------- ---------
Total liabilities 627,325 607,288
--------- ---------
STOCKHOLDERS' EQUITY
Common stock, $.01 par value; shares authorized 20,000,000, shares
issued and outstanding 7,233,864 (2006) and 7,184,891 (2005) 72 72
Additional paid in capital 49,419 48,594
Retained earnings 18,394 16,918
Accumulated other comprehensive (loss) (644) (620)
--------- ---------
Total stockholders' equity 67,241 64,964
--------- ---------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 694,566 $ 672,252
========= =========
2
EAGLE BANCORP, INC.
Consolidated Statements of Operations
For the Three Month Periods Ended March 31, 2006 and 2005 (unaudited)
(dollars in thousands, except per share data)
2006 2005
INTEREST INCOME ------- -------
Interest and fees on loans $10,328 $ 6,997
Interest and dividends on investment securities 701 487
Interest on balances with other banks - 42
Interest on federal funds sold 195 184
------- -------
Total interest income 11,224 7,710
------- -------
INTEREST EXPENSE
Interest on deposits 2,959 1,141
Interest on customer repurchase agreements and
federal funds purchased 189 33
Interest on other short-term borrowings 232 61
------- -------
Total interest expense 3,380 1,235
------- -------
NET INTEREST INCOME 7,844 6,475
PROVISION FOR CREDIT LOSSES 115 417
------- -------
NET INTEREST INCOME AFTER PROVISION FOR CREDIT LOSSES 7,729 6,058
------- -------
NONINTEREST INCOME
Service charges on deposits 324 269
Gain on sale of loans 176 495
Other income 340 275
------- -------
Total noninterest income 840 1,039
------- -------
NONINTEREST EXPENSE
Salaries and employee benefits 2,974 2,560
Premises and equipment expenses 869 801
Advertising 119 96
Outside data processing 228 181
Other expenses 1,033 837
------- -------
Total noninterest expense 5,223 4,475
------- -------
INCOME BEFORE INCOME TAX EXPENSE 3,346 2,622
INCOME TAX EXPENSE 1,363 969
------- -------
NET INCOME $ 1,983 $ 1,653
======= =======
EARNINGS PER SHARE
Basic $ 0.27 $ 0.23
Diluted $ 0.26 $ 0.22
DIVIDENDS DECLARED PER SHARE $ 0.07 $ 0.07
See notes to consolidated financial statements.
3
EAGLE BANCORP, INC.
Consolidated Statements of Cash Flows
For the Three Month Periods Ended March 31, 2006 and 2005 (unaudited)
(dollars in thousands)
2006 2005
-------- --------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 1,983 $ 1,653
Adjustments to reconcile net income to net cash
provided by (used in) operating activities:
Provision for credit losses 115 417
Depreciation and amortization 261 260
Gains on sale of loans (176) (495)
Origination of loans held for sale (10,838) (10,661)
Proceeds from sale of loans held for sale 10,928 9,693
Stock based compensation expense 170 -
Tax benefit from exercise of non-qualified stock options 191 58
Increase in other assets (921) (640)
(Decrease) / increase in other liabilities (1,916) 95
-------- --------
Net cash provided (used) by operating activities (203) 380
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Increase / (decrease) in interest bearing deposits with banks
and other short term investments 9,513 (7,910)
Purchases of available for sale investment securities (5,104) (3,349)
Proceeds from maturities of available for sale securities 3,146 1,293
Net increase in loans (3,178) (21,602)
Bank premises and equipment acquired (339) (710)
-------- --------
Net cash provided (used) in investing activities 4,038 (32,278)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Increase in deposits 2,352 20,623
(Decrease) / increase in customer repurchase agreements and
federal funds purchased (590) 15,515
Increase / (decrease) in other short-term borrowings 20,000 (1,000)
Issuance of common stock 464 382
Payment of dividends (507) (500)
-------- --------
Net cash provided by financing activities 21,719 35,020
-------- --------
NET INCREASE IN CASH 25,554 3,122
CASH AND DUE FROM BANKS AT BEGINNING OF PERIOD 22,765 46,135
-------- --------
CASH AND DUE FROM BANKS AT END OF PERIOD $ 48,319 $ 49,257
======== ========
SUPPLEMENTAL CASH FLOWS INFORMATION:
Interest paid $ 3,136 $ 1,180
======== ========
Income taxes paid $ 100 $ 710
======== ========
See notes to consolidated financial statements.
4
EAGLE BANCORP, INC.
Consolidated Statements of Changes in Stockholders' Equity
(dollars in thousands)
Accumulated
Additional Other Total
Common Paid Retained Comprehensive Stockholders'
Stock in Capital Earnings Income (Loss) Equity
----------- ------------- ------------- --------------- ------------
Balance, January 1, 2006 $ 72 $ 48,594 $ 16,918 $ (620) $ 64,964
Comprehensive Income
Net Income 1,983 1,983
Other comprehensive income:
Unrealized loss on securities
available for sale (net of taxes) (24) (24)
------------------------------
Total Comprehensive Income (24) (24)
Cash Dividend ($ .07 per share) (507) (507)
Stock based compensation 170 170
Exercise of options for 54,531 shares
of common stock 464 464
Tax benefit on non-qualified options exercise 191 $ 191
----------- ------------- ------------- --------------- ------------
Balance, March 31, 2006 $ 72 $ 49,419 $ 18,394 $ (644) $ 67,241
=========== ============= ============= =============== ============
Balance, January 1, 2005 $ 54 $ 47,014 $ 11,368 $ 98 $ 58,534
Comprehensive Income
Net Income 1,653 1,653
Other comprehensive income:
Unrealized loss on securities
available for sale (net of taxes) (487) (487)
------------------------------
Total Comprehensive Income ` (487) (487)
Cash Dividend ($ .07 per share) (4) (496) (500)
1.3 to one stock split in the form
of a 30% stock dividend 17 (17) -
Exercise of options for 41,468 shares
of common stock 382 382
Tax benefit on non-qualified options
exercise 58 58
----------- ------------- ------------- --------------- ------------
Balance, March 31, 2005 $ 71 $ 47,433 $ 12,525 $ (389) $ 59,640
=========== ============= ============= =============== ============
See notes to consolidated financial statements.
5
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
For the three months ended March 31, 2006 and 2005
(unaudited)
1. BASIS OF PRESENTATION
General - The financial statements of Eagle Bancorp, Inc. (the "Company")
included herein are unaudited; however, they reflect all adjustments
consisting only of normal recurring accruals that, in the opinion of
Management, are necessary to present fairly the results for the periods
presented. The amounts as of December 31, 2005 were derived from audited
consolidated financial statements. Certain information and note disclosures
normally included in financial statements prepared in accordance with
accounting principles generally accepted in the United States of America
have been condensed or omitted pursuant to the rules and regulations of the
Securities and Exchange Commission. There have been no significant changes
to the Company's Accounting Policies as disclosed in the Company's Annual
Report on Form 10-K for the year ended December 31, 2005. The Company
believes that the disclosures are adequate to make the information
presented not misleading. The results of operations for the three months
ended March 31, 2006 are not necessarily indicative of the results of
operations to be expected for the remainder of the year, or for any other
period. Certain reclassifications have been made to amounts previously
reported to conform to the classification made in 2006.
2. NATURE OF OPERATIONS
The Company, through its bank subsidiary, provides domestic financial
services primarily in Montgomery County, Maryland and Washington, DC. The
primary financial services include real estate, commercial and consumer
lending, as well as traditional deposit and repurchase agreement products.
The Bank is also active in the origination and sale of residential
mortgages and small business loans. A noninterest income business was
organized in the first quarter of 2005, which provides title and attendant
services.
3. CASH FLOWS
For purposes of reporting cash flows, cash and cash equivalents include
cash and due from banks, and federal funds sold (items with an original
maturity of three months or less).
4. INVESTMENT SECURITIES
Amortized cost and estimated fair value of securities available for sale
are summarized as follows: (in thousands)
6
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
MARCH 31, 2006 Cost Gains Losses Value
-------------- ---------------------------------------------------------
U. S. Government agency securities $ 45,445 $ - $ 702 $ 44,743
Mortgage backed securities 20,814 - 624 20,190
Federal Reserve and Federal Home Loan Bank stock 3,379 - - 3,379
Other equity investments 1,380 262 - 1,642
---------------------------------------------------------
$ 71,018 $ 262 $ 1,326 $ 69,954
=========================================================
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
DECEMBER 31, 2005 Cost Gains Losses Value
----------------- ---------------------------------------------------------
U. S. Government agency securities $ 47,652 $ - $ 654 $ 46,998
Mortgage backed securities 17,798 - 558 17,240
Federal Reserve and Federal Home Loan Bank stock 2,230 - - 2,230
Other equity investments 1,380 214 12 1,582
---------------------------------------------------------
$ 69,060 $ 214 $ 1,224 $ 68,050
=========================================================
Gross unrealized losses and fair value by length of time that the individual
available securities have been in a continuous unrealized loss position as of
March 31, 2006 are as follows:
Estimated Less than More than Gross
Fair 12 months 12 months Unrealized
MARCH 31, 2006 Value Losses
-------------- ---------------------------------------------------------
U. S. Government agency securities $ 44,743 $ 301 $ 401 $ 702
Mortgage backed securities 20,190 69 555 624
Federal Reserve and Federal Home Loan Bank stock 3,379 - - -
Other equity investments 1,642 - - -
---------------------------------------------------------
$ 69,954 $ 370 $ 956 $ 1,326
=========================================================
Estimated Less than More than Gross
Fair 12 months 12 months Unrealized
DECEMBER 31, 2005 Value Losses
----------------- ---------------------------------------------------------
U. S. Treasury securities
U. S. Government agency securities $ 46,998 $ 218 $ 436 $ 654
Mortgage backed securities 17,240 - 558 558
Federal Reserve and Federal Home Loan Bank stock 2,230 - - -
Other equity investments 1,582 12 - 12
---------------------------------------------------------
$ 68,050 $ 230 $ 994 $ 1,224
=========================================================
The unrealized losses that exist are the result of changes in market interest
rates since original purchases. All of the bonds are rated AAA. The weighted
average life of debt securities, which comprise 93% of total investment
securities is relatively short at 2.3 years. These factors, coupled with the
Company's ability and intent to hold these investments for a period of time
sufficient to allow for any anticipated recovery in fair value substantiates
that the unrealized losses are temporary in nature.
7
5. INCOME TAXES
The Company employs the liability method of accounting for income taxes as
required by Statement of Financial Accounting Standards No. 109 (SFAS109),
"Accounting for Income Taxes." Under the liability method, deferred-tax
assets and liabilities are determined based on differences between the
financial statement carrying amounts and the tax bases of existing assets
and liabilities (i.e., temporary differences) and are measured at the
enacted rates that will be in effect when these differences reverse.
6. EARNINGS PER SHARE
Earnings per common share are computed by dividing net income by the
weighted average number of common shares outstanding during the period.
Diluted net income per common share is computed by dividing net income by
the weighted average number of common shares outstanding during the period,
including any potential dilutive common shares outstanding, such as stock
options. As of March 31, 2006 there were 59,250 shares excluded from the
diluted net income per share computation because their inclusion would be
anti-dilutive.
7. SHARE-BASED COMPENSATION
The Company maintains the 1998 Stock Option Plan (the "1998 Plan"). The 1998
Plan provides for the periodic granting of incentive and non-qualifying options
to selected key employees and members of the Board. Options for not more than
1,142,732 shares of common stock may be granted under the Plan and the term of
such options shall not exceed ten years. Option awards are made with an exercise
price equal to the market price of the Company's shares at the date of grant.
The option grants generally vest over a period of one to two years.
The Company also maintains the 2004 Employee Stock Purchase Plan (the "ESPP").
Under the ESPP, a total of 195,000 shares of common stock, were reserved for
issuance to eligible employees at a price equal to at least 85% of the fair
market value of the shares of common stock on the date of grant. Grants each
year expire no later than the last business day of January in the calendar year
following the year in which the grant is made.
The Company believes that such awards better align the interests of its
employees with those of its shareholders.
The fair value of each option grant is estimated on the date of grant using the
Black-Scholes option pricing model with the following weighted average
assumptions used for grants during the quarter ended March 31, 2006 and the year
ended December 31, 2005. For periods prior to 2006, the Company used the average
of the option term and the vesting period to estimate the life of the option.
The options granted in the first quarter of 2006 were for 34,099 shares under
the ESPP which have a one-year term and vest immediately upon grant, and for
1,500 shares granted under the 1998 Plan.
Quarter ended Year ended
March 31, December 31,
2006 2005
-------------------------------
Dividend yield 1.42% 1.63%
Expected volatility 21.83% 22.94%
Weighted average risk free interest rate 4.45% 4.27%
Expected lives (in years) 1.0 6.5
8
Following is a summary of changes in shares under option (split adjusted) for
the quarter and year indicated:
Quarter ended March Year ended December
31, 2006 31, 2005
----------------------- ------------------------
(shares in thousands) Weighted Weighted
Average Number Average
Number Exercise of Exercise
of Shares Price Shares Price
---------- ------------ --------- -------------
Outstanding at beginning of period 753 $10.13 690 $7.63
Granted 36 19.66 208 17.42
Exercised (55) (8.51) (137) (8.41)
Cancelled / Expired (11) (13.77) (8) (12.98)
---------- ---------
Outstanding at end of period 723 $10.66 753 $10.13
========== =========
Shares exercisable at period end 686 $10.07 661 $9.06
---------- ---------
Non-vested shares 37 92
---------- ---------
Weighted average fair value of options
granted during the period $4.34 $4.94
------------ ------------
Weighted average remaining contract life 5.2 years 5.5 years
------------ ------------
Weighted Average Weighted
Remaining Average
Contract Life (in Exercise
Range of Exercise Price Number years) Price
------------------------------------------- ------------- ------------------- -------------
$ 4.26-$8.75 365,032 3.7 $5.23
$8.76-$13.26 37,683 6.8 10.48
$13.27-$17.77 226,572 8.2 14.76
$17.78-$23.28 94,152 3.4 21.94
-------------
723,439 $10.66
============= =============
As of December 31, 2005, there was $128 thousand of total unrecognized
compensation cost related to non-vested shares under the 1988 Plan. There was no
unrecognized compensation cost under the ESPP. The $128 thousand cost is being
amortized ratably over calendar year 2006 based on the remaining vesting period.
Through March 31, 2006, $32 thousand has been recognized in compensation cost
related to those grants. In February 2006, the Company granted options for
34,099 shares under the ESPP. These awards were vested 100% at grant and the
fair value of the awards was expensed in the quarter ended March 31, 2006. This
amount was $138 thousand. In February, the Company granted 1,500 shares under
the 1998 Plan.
In total, the Company recognized $170 thousand in share based compensation
expense for the first quarter of 2006 ($0.02 per share) as compared to $0
compensation expense recognized for the first quarter of 2005, as a new
accounting rule under FAS123R was adopted as of January 1, 2006.
Prior to January 1, 2006, share based compensation at the Company was disclosed
in a footnote, as pro-forma information, in accordance with generally accepted
accounting principles as opposed to recognition within the Statement of
Operations. For the first quarter of 2005, the pro-forma share based
compensation amount was $432 thousand ($0.06 per share).
Item 2 - Management's Discussion and Analysis of Financial Condition and Results
of Operation.
The following discussion provides information about the results of
operations, and financial condition, liquidity, and capital resources of the
Company and its subsidiaries. This discussion and analysis should be read in
conjunction with the unaudited Consolidated Financial Statements and Notes
thereto, appearing elsewhere in this report and the Management Discussion and
Analysis in the Company's Annual Report on Form 10-K for the year ended December
31, 2005.
9
This report contains forward looking statements within the meaning of
the Securities Exchange Act of 1934, as amended, including statements of goals,
intentions, and expectations as to future trends, plans, events or results of
Company operations and policies and regarding general economic conditions. In
some cases, forward looking statements can be identified by use of such words as
"may", "will", "anticipate", "believes", "expects", "plans", "estimates",
"potential", "continue", "should", and similar words or phases. These statements
are based upon current and anticipated economic conditions, nationally and in
the Company's market, interest rates and interest rate policy, competitive
factors and other conditions which, by their nature, are not susceptible to
accurate forecast, and are subject to significant uncertainty. Because of these
uncertainties and the assumptions on which this discussion and the forward
looking statements are based, actual future operations and results in the future
may differ materially from those indicated herein. Readers are cautioned against
placing undue reliance on any such forward looking statements.
GENERAL
Eagle Bancorp, Inc. is a growth oriented, one-bank holding company
headquartered in Bethesda, Maryland. We provide general commercial and consumer
banking services through our wholly owned banking subsidiary EagleBank, a
Maryland chartered bank which is a member of the Federal Reserve System. We were
organized in October 1997, to be the holding company for the Bank. The Bank was
organized as an independent, community oriented, full service banking
alternative to the super regional financial institutions, which dominate our
primary market area. Our philosophy is to provide superior, personalized service
to our customers. We focus on relationship banking, providing each customer with
a number of services, becoming familiar with and addressing customer needs in a
proactive, personalized fashion. The Bank currently has five offices serving
Montgomery County and three offices in the District of Columbia. The Company
expects to open its ninth community banking office in the second quarter 2006 in
Chevy Chase, Montgomery County, Maryland. In February 2005, Eagle Land Title,
LLC, a Bank subsidiary which performs title and attendant services commenced
operations.
The Company offers a broad range of commercial banking services to our
business and professional clients as well as full service consumer banking
services to individuals living and/or working in the service area. We emphasize
providing commercial banking services to sole proprietors, small and
medium-sized businesses, partnerships, corporations, non-profit organizations
and associations, and investors living and working in and near our primary
service area. A full range of retail banking services are offered to accommodate
the individual needs of both corporate customers as well as the community we
serve. These services include the usual deposit functions of commercial banks,
including business and personal checking accounts, "NOW" accounts and money
market and savings accounts, business, construction, and commercial loans,
equipment leasing, residential mortgages and consumer loans and cash management
services. We have developed significant expertise and commitment as an SBA
lender, have been designated a Preferred Lender by the Small Business
Administration (SBA), and are the leading community bank SBA lenders in the
Washington D.C. district.
CRITICAL ACCOUNTING POLICIES
The Company's consolidated financial statements are prepared in
accordance with accounting principles generally accepted in the United States of
America ("GAAP") and follow general practices within the banking industry.
Application of these principles requires management to make estimates,
assumptions, and judgments that affect the amounts reported in the financial
statements and accompanying notes. These estimates, assumptions and judgments
are based on information available as of the date of the consolidated financial
statements; accordingly, as this information changes, the consolidated financial
statements could reflect different estimates, assumptions, and judgments.
Certain policies inherently have a greater reliance on the use of estimates,
assumptions and judgments and as such have a greater possibility of producing
results that could be materially different than originally reported. Estimates,
assumptions, and judgments are necessary when assets and liabilities are
required to be recorded at fair value, when a decline in the value of an asset
not carried on the financial statements at fair value warrants an impairment
write-down or valuation reserve to be established, or when an asset or liability
needs to be recorded contingent upon a future event. Carrying assets and
liabilities at fair value inherently results in more financial statement
volatility. The fair values and the information used to record valuation
adjustments for certain assets and liabilities are based either on quoted market
prices or are provided by other third-party sources, when available.
10
The allowance for credit losses is an estimate of the losses that may
be sustained in our loan portfolio. The allowance is based on two principles of
accounting: (a) Statement on Financial Accounting Standards ("SFAS") 5,
"Accounting for Contingencies", which requires that losses be accrued when they
are probable of occurring and are estimable and (b) SFAS No. 114, "Accounting by
Creditors for Impairment of a Loan", which requires that losses be accrued when
it is probable that the Company will not collect all principal and interest
payments according to the contractual terms of the loan. The loss, if any, can
be determined by the difference between the loan balance and the value of
collateral, the present value of expected future cash flows, or values
observable in the secondary markets.
Three components comprise our allowance for credit losses: a specific
allowance, a formula allowance and a nonspecific or environmental factors
allowance. Each component is determined based on estimates that can and do
change when actual events occur.
The specific allowance allocates an allowance to identified loans. A
loan for which reserves are individually allocated may show deficiencies in the
borrower's overall financial condition, payment record, support available from
financial guarantors and or the fair market value of collateral. When a loan is
identified as impaired, a specific reserve is established based on the Company's
assessment of the loss that may be associated with the individual loan.
The formula allowance is used to estimate the loss on internally risk
rated loans, exclusive of those identified as requiring specific reserves. Loans
identified in the risk rating evaluation as substandard, doubtful and loss, are
segregated from non-classified loans. Classified loans are assigned allowance
factors based on an impairment analysis. Allowance factors relate to the level
of the internal risk rating.
The nonspecific or environmental factors allowance is an estimate of
potential loss of the remaining loans (those not identified as either requiring
specific reserves or having classified risk ratings). The loss estimates are
based on more global factors, such as delinquency trends, loss history, trends
in the volume and size of individual credits, effects of changes in lending
policy, the experience and depth of management, national and local economic
trends, any concentrations of credit, the quality of the loan review system and
the effect of external factors such as competition and regulatory requirements.
The environmental factors allowance captures losses whose impact on the
portfolio may have occurred but have yet to be recognized in the formula.
Management has significant discretion in making the judgments inherent
in the determination of the provision and allowance for credit losses,
including, in connection with the valuation of collateral, a borrower's
prospects of repayment, and in establishing allowance factors on the formula
allowance and nonspecific allowance components of the allowance. The
establishment of allowance factors is a continuing evaluation, based on
management's ongoing assessment of the global factors discussed above and their
impact on the portfolio. The allowance factors may change from period to period,
resulting in an increase or decrease in the amount of the provision or
allowance, based upon the same volume and classification of loans. Changes in
allowance factors will have a direct impact on the amount of the provision, and
a related, after tax effect on net income. Errors in management's perception and
assessment of the global factors and their impact on the portfolio could result
in the allowance not being adequate to cover losses in the portfolio, and may
result in additional provisions or charge-offs. Alternatively, errors in
management's perception and assessment of the global factors and their impact on
the portfolio could result in the allowance being in excess of amounts necessary
to cover losses in the portfolio, and may result in lower provisioning in the
future. For additional information regarding the allowance for credit losses,
refer to the discussion under the caption "Allowance for Credit Losses" below.
RESULTS OF OPERATIONS
The Company reported net income of $2.0 million for the three months
ended March 31, 2006, as compared to net income of $1.7 million for the three
months ended March 31, 2005, an increase of 20%. Income per basic share was
$0.27 for the three months ended March 31, 2006, as compared to $0.23 same
period in 2005. Income per diluted share was $0.26 for the three months ended
March 31, 2006, as compared to $0.22 for the same period in 2005.
11
The Company had an annualized return on average assets of 1.20% for
both the first three months of 2006 and 2005 and an annualized return on average
equity of 12.08% for the first three months of 2006, as compared to a return on
average equity of 11.32% for the same three months of 2005. The return on equity
increase resulted from additional leveraging of the equity position. The ratio
of average equity to average assets declined from 10.57% for the first quarter
of 2005 to 9.93% for the first quarter of 2006. As discussed below, the capital
ratios of the Bank and Company remain above well capitalized levels.
The increase in net income for the three months ended March 31, 2006 as
compared to the same period in 2005, can be attributed substantially to an
increase of 21% in net interest income, resulting from an increase of 20% in
average earning assets and a modest increase in the net interest margin of three
basis points between the comparable periods to 5.01%. The net interest margin
increase was due to the increased value of non-interest funding sources during a
period of substantial increases in market interest rates. Since March 2005, the
Federal Reserve Bank has increased the federal funds target rate by 2.00% to
4.75% in eight interest rate increases of 25 basis points. Since the Company's
non-interest funding sources comprise approximately 30% of average earning
assets, this effect has been substantial. The value of non-interest sources
(defined as the difference between the net interest margin and the net interest
spread) increased to 89 basis points for the first quarter of 2006 from 40 basis
points for the first quarter of 2005, while the average growth of noninterest
sources funding earning assets amounted to $26 million or 17% between the first
quarter of 2006 and 2005. While the net interest margin has increased due to the
favorable position of noninterest funding sources, the net interest spread
(defined as the difference between the yield on earning assets and the cost of
interest bearing liabilities) declined for the first quarter of 2006 as compared
to the same period in 2005 from 4.58% to 4.12%. While the interest rate on
earning assets has risen by 125 basis points for the first quarter of 2006 as
compared to 2005, the cost of interest bearing liabilities has increased by 171
basis points, due to the proportion of average time deposits funding average
earning assets increasing to 31% for the first quarter of 2006 from 27% for the
first quarter of 2005. The Company has acquired these higher levels of average
time deposits to fund a portion of its average loan growth in the first quarter
of 2006 over 2005. As a result of competitive pressures and growth objectives,
the rates paid on interest bearing deposits and interest bearing liabilities may
result in a higher cost of funding in future periods, which may not be offset by
further increases in interest rates on earning assets. As a result of such
potential margin compression, the Company's earnings could be adversely
affected.
Loans, which generally have higher yields than securities and other
earning assets, increased from 81% of average earning assets in the first three
months of 2005 to 86% of average earning assets for the same period of 2006.
Investment securities in the first quarter of 2006 amounted to 11% of average
earning assets as compared to 12% for the first three months in 2005. This
decline was directly related to average loan growth over the past twelve month
period exceeding the growth of average deposit and other funding sources.
The provision for credit losses was $115 thousand for the first quarter
in 2006 as compared to $417 thousand for the same period in 2005. This decrease
was attributable to the lower rate of growth in the loan portfolio in the first
quarter of 2006 which was 1%, as compared to the first quarter of 2005, which
growth was 5%. As discussed in the section on Allowance for Credit Losses, the
Company had just $15 thousand of net charge-offs in the first quarter of 2006.
This compared to net recoveries on previously charged-off loans of $6 thousand
for the first three months of 2005. At March 31, 2006, the allowance for credit
losses was $6.1 million or 1.10% of total loans, as compared to $4.7 million or
1.07% of total loans at March 31, 2005 and $6.0 million or 1.09% of total loans
at December 31, 2005.
Noninterest income decreased 19%, to $840 thousand for the first three
months of 2006, from $1.0 million in the same period of 2005. The decline was
attributed primarily to lower amounts of gains on the sale of SBA loans which
amounted to $138 thousand in the first quarter of 2006 as compared to $385
thousand for the same period in 2005. Activity in SBA loan sales to secondary
markets can vary widely from quarter to quarter. EagleBank has been recognized
as the leading community bank SBA lender in its marketplace and continued
emphasis in this business is anticipated. The decline in gains on the sale of
SBA loans was partially offset by an increase in deposit service charges, which
amounted to $324 thousand in the initial quarter of 2006, as compared to $269
thousand for the same period in 2005, a 20% increase. These service charge
increases are associated primarily with new relationships acquired in the first
quarter of 2006. Gains on the sale of residential mortgage loans were $38
thousand for the first quarter of 2006, as compared to $110 thousand for the
same period in 2005. The Company is in the process of renewing its efforts to
expand residential mortgage lending and associated sale of these assets on a
servicing
12
released basis. Other noninterest income increased to $340 thousand in the first
quarter of 2006 as compared to $275 thousand for the same quarter in 2005, a 24%
increase, due primarily to higher loan prepayment and commitment fees.
Non-interest expenses were $5.2 million for the first quarter of 2006,
as compared to $4.5 million for 2005, a 17% increase. The primary reasons for
this increase were increases in staff levels and related personnel cost,
director fees, $170 thousand of costs associated with share based compensation
under new accounting expensing rules, occupancy cost increases, and higher data
processing, licensing, and other professional fees associated with a larger
organization. The efficiency ratio, which is a measure of the level of
noninterest expenses to revenue, was only slightly higher in the first quarter
of 2006 at 60.14%, as compared to 59.56% for the same period in 2005. The
company emphasizes the efficiency ratio as a measure of noninterest expense
control.
The combination of increases in net interest income, primarily from
increased amounts of average loans in the first quarter of 2006 as compared to
2005, a reduced provision for credit losses due to a lower rate of growth in
loans in the first three months of 2006, lower amounts of noninterest income and
increases in noninterest expenses, resulted in an improvement in reported income
for the first quarter of 2006 versus 2005.
Net Interest Income and Net Interest Margin
Net interest income is the difference between interest income on
earning assets and the cost of funds supporting those assets. Earning assets are
composed primarily of loans and investment securities. The cost of funds
represents interest expense on deposits, customer repurchase agreements and
other borrowings. Noninterest bearing deposits and capital are other components
representing funding sources, which factors have been significant in the first
quarter of 2006 versus 2005 (refer to discussion above under Results of
Operations). Changes in the volume and mix of assets and funding sources, along
with the changes in yields earned and rates paid, determine changes in net
interest income. Net interest income for the first three months of 2006 was $7.8
million compared to $6.5 million for the first three months of 2005, a 21%
increase.
The table below labeled "Average Balances, Interest Yields and Rates
and Net Interest Margin" presents the average balances and rates of the various
categories of the Company's assets and liabilities. Included in the table is a
measurement of interest rate spread and margin. Interest spread is the
difference (expressed as a percentage) between the interest rate earned on
earning assets less the interest expense on interest bearing liabilities. While
net interest spread provides a quick comparison of earnings rates versus cost of
funds, management believes that margin provides a better measurement of
performance. Margin includes the effect of noninterest bearing sources in its
calculation and is net interest income expressed as a percentage of average
earning assets.
13
AVERAGE BALANCES, INTEREST YIELDS AND RATES, AND NET INTEREST MARGIN
(dollars in thousands)
--------------------------------------------------------------------------
Three Months Ended March 31
--------------------------------------------------------------------------
2006 2005
--------------------------------------------------------------------------
Average Average Average Average
Balance Interest Yield/Rate Balance Interest Yield/Rate
------------------------------------ -----------------------------------
ASSETS:
Interest earning assets:
Interest bearing deposits with other banks and
other short-term investments $ 3,146 $ 30 3.87% $ 7,280 $ 42 2.34%
Loans (1) 545,594 10,328 7.68% 429,095 6,997 6.61%
Investment securities available for sale 67,771 671 4.02% 63,536 487 3.11%
Federal funds sold 17,960 195 4.40% 27,380 184 2.73%
------------------------ ----------------------
Total interest earning assets 634,471 11,224 7.18% 527,291 7,710 5.93%
------------------------ ----------------------
Total noninterest earning assets 42,222 37,065
Less: allowance for credit losses 6,029 4,375
------------- ------------
Total noninterest earning assets 36,193 32,690
------------- ------------
TOTAL ASSETS $ 670,664 $559,981
============= ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Interest bearing liabilities:
Interest bearing transaction $ 87,419 $ 36 0.17% $ 52,278 $ 19 0.15%
Savings and money market 119,248 1,142 3.88% 136,155 338 1.01%
Time deposits 194,458 1,781 3.71% 144,617 784 2.20%
Customer repurchase agreements and federal
funds purchased 32,567 189 2.35% 27,754 33 0.48%
Other short-term borrowings 14,611 232 6.44% 6,756 61 3.66%
------------------------ ----------------------
Total interest bearing liabilities 448,303 3,380 3.06% 367,560 1,235 1.35%
------------------------ ----------------------
Noninterest bearing liabilities:
Noninterest bearing demand 152,344 130,254
Other liabilities 3,390 2,959
------------- ------------
Total noninterest bearing liabilities 155,734 133,213
Stockholders' equity 66,627 59,208
------------- ------------
TOTAL LIABILITIES AND STOCKHOLDERS EQUITY $ 670,664 $559,981
============= ============
Net interest income $ 7,844 $6,475
=========== ==========
Net interest spread 4.12% 4.58%
Net interest margin 5.01% 4.98%
(1) Includes Loans held for Sale
14
Allowance for Credit Losses
The provision for credit losses represents the amount of expense
charged to current earnings to fund the allowance for credit losses. The amount
of the allowance for credit losses is based on many factors which reflect
management's assessment of the risk in the loan portfolio. Those factors include
economic conditions and trends, the value and adequacy of collateral, volume and
mix of the portfolio, performance of the portfolio, and internal loan processes
of the Company and Bank.
Management has developed a comprehensive analytical process to monitor
the adequacy of the allowance for credit losses. This process and guidelines
were developed utilizing among other factors, the guidance from federal banking
regulatory agencies. The results of this process, in combination with
conclusions of the Bank's outside loan review consultant, support management's
assessment as to the adequacy of the allowance at the balance sheet date. Please
refer to the discussion under the caption "Critical Accounting Policies" for an
overview of the methodology management employs on a quarterly basis to assess
the adequacy of the allowance and the provisions charged to expense. Also, refer
to the following table which reflects the comparative charge-offs and recoveries
of prior loan charge-offs information.
During the first three months of 2006, a provision for credit losses
was made in the amount of $115 thousand and the allowance for credit losses
increased $100 thousand, including the impact of $15 thousand in net charge-offs
during the period. The provision for credit losses of $115 thousand in the first
three months of 2006 compared to a provision for credit losses of $417 thousand
in the first three months of 2005. The lower level of the provision in 2006 is
primarily attributable to a slower rate of loan growth in the loan portfolio in
the first quarter of 2006.
At March 31, 2006, the Company had $6.2 million of loans classified as
nonaccrual as compared to $491 thousand at December 31, 2005 and $151 thousand
at March 31, 2005. The Company had no restructured loans at either, March 31,
2006, December 31, 2005 or March 31, 2005. Significant variation in these
amounts may occur from period to period because the amount of nonperforming
loans depends largely on the condition of a small number of individual credits
and borrowers relative to the total loan portfolio. The Company had no other
real estate owned (OREO) properties at March 31, 2006, December 31, 2005 or
March 31, 2005. The balance of impaired loans was $409 thousand at March 31,
2006, with specific reserves against those loans of $260 thousand, compared to
$151 thousand at March 31, 2005 with specific reserves of $57 thousand. The
significant increase in non-accrual loans in the first quarter of 2006 was due
principally to two real estate loans placed on non-accrual status in first
quarter, which management has been monitoring closely, believes are well secured
and for which no principal loss is anticipated. The allowance for loan losses
represented 1.10% of total loans at March 31, 2006 as compared to 1.09% at
December 31, 2005. This increase in the ratio of the allowance in the first
quarter was due to a slight increase in the environmental factors of the
non-specific reserve component related to various factors including potential
impacts of higher interest rates on debt service capacity and on real estate
values.
As part of its comprehensive loan review process, the Company's Board
of Directors and the Bank Director's Loan Committee and or Board of Director's
Credit Review Committees carefully evaluates loans which are past due 30 days or
more. The Committee(s) make a thorough assessment of the conditions and
circumstances surrounding each delinquent loan. The Bank's loan policy requires
that loans be placed on nonaccrual if they are ninety days past due, unless they
are well secured and in the process of collection.
The maintenance of a high quality loan portfolio, with an adequate
allowance for possible loan losses will continue to be a primary management
objective in the Company.
15
The following table sets forth activity in the allowance for credit
losses for the periods indicated.
Three Months Ended
(dollars in thousands) March 31,
-------------------------
2006 2005
----------- ---------
Balance at beginning of year $ 5,985 $ 4,240
Charge-offs:
Commercial - -
Real estate - commercial - -
Construction - -
Home equity - -
Other consumer 15 -
------- -------
Total 15 0
------- -------
Recoveries:
Commercial - 6
Real estate - commercial - -
Construction - -
Home equity - -
Other consumer - -
------- -------
Total - 6
------- -------
Net (charge-offs) recoveries (15) 6
------- -------
Additions charged to operations 115 417
------- -------
Balance at end of period $ 6,085 $ 4,663
======= =======
Annualized ratio of net
charge-offs during the period to
average loans outstanding during
the period .01% (.01)%
------- -------
The following table reflects the allocation of the allowance for credit
losses at the dates indicated. The allocation of the allowance to each category
is not necessarily indicative of future losses or charge-offs and does not
restrict the use of the allowance to absorb losses in any category.
ALLOCATIONS
As of March 31, As of December 31,
(dollars in thousands) 2006 2005
Amount % (1) Amount % (1)
------------------------------------------------------
Commercial $ 2,484 22% $ 2,594 22%
Real estate - commercial 2,578 53% 2,395 52%
Real estate - residential 34 0% 48 0%
Construction - commercial and residential 664 15% 602 16%
Home equity 182 9% 176 9%
Other consumer 83 1% 84 1%
Unallocated 60 86
------------------------------------------------------
Total loans $ 6,085 100% $ 5,985 100%
======================================================
(1) Represents the percent of loans in each category to total loans
16
Nonperforming Assets
The Company's nonperforming assets, which are comprised of loans
delinquent 90 days or more, non-accrual loans, restructured loans and other real
estate owned, totaled $6.2 million at March 31, 2006 compared to $151 thousand
at March 31, 2005. The percentage of nonperforming loans to total loans was
1.12% at March 31, 2006, compared to 0.03% at March 31, 2005.
The following table shows the amounts of nonperforming assets at the
dates indicated.
March 31, December 31
------------------------ --------------
(dollars in thousands) 2006 2005 2005
---------- ---------- --------------
Nonaccrual Loans
Commercial $ 416 $ 151 $ 362
Consumer 129 - 129
Real estate 5,610 - -
Accrual loans-past due 90 days
Commercial - - -
Consumer - - -
Real estate - - -
Restructured loans - - -
Real estate owned - - -
---------- ---------- --------------
Total non-performing assets $ 6,155 $ 151 $ 491
========== ========== ==============
As noted above, the Company experienced an increase in the level of
nonaccrual loans in the first quarter of 2006 resulting primarily from the
addition of two commercial loans, both of which are secured by real estate. The
loans were placed on nonaccrual due to past due status, construction cost
overruns, and/or delays in completion of the associated projects. The Company
continues to monitor these credits. Based upon the Company's review of third
party appraisals of the underlying collateral, the addition of supplementary
collateral, guarantors, and additional equity contributions, the Company
believes it will not incur a principal loss in connection with the resolution of
these loans.
At March 31, 2006, there were an additional $1.1 million of performing
loans considered potential problem loans, defined as loans which are not
included in the past due, nonaccrual or restructured categories, but for which
known information about possible credit problems causes management to be
uncertain as to the ability of the borrowers to comply with the present loan
repayment terms which may in the future result in disclosure in the past due,
nonaccrual or restructured loan categories.
Noninterest Income
Noninterest income consists primarily of deposit account service
charges, gains on the sale of SBA and residential mortgage loans, other
noninterest loan fees, income from bank owned life insurance ("BOLI") and other
service fees. For the three months ended March 31, 2006, noninterest income was
$840 thousand. This compared to $1.0 million of noninterest income for the three
months ended March 31, 2005, a decline of 19% due primarily to a lower amount of
gains on the sale of SBA loans. There were no investment gains or losses in
either the first quarter of 2006 or 2005.
The Company is an active originator of SBA loans and its current
practice is to sell the insured portion of those loans at a premium. Income from
this source was $138 thousand for the three months ended March 31, 2006 compared
to $385 thousand for the three months ended March 31, 2005. Activity in SBA loan
sales to secondary markets can vary widely from quarter to quarter. EagleBank
has been recognized as the leading community bank SBA lender in its marketplace
and continued emphasis is anticipated. The Company also originates residential
mortgage loans on a pre-sold basis, servicing released. Sales of these mortgage
loans yielded gains of $38 thousand in the first three months of 2006 compared
to $110 thousand in the same period in 2005. The Company is in the
17
process of renewing its efforts to expand residential mortgage lending and
associated sale of these assets on a servicing released basis. Income for the
three months ended March 31, 2006 was $324 thousand from deposit account service
charges, $62 thousand from SBA loan service fees and $97 thousand from BOLI,
versus $269 thousand from deposit account service charges, $46 thousand from SBA
service fees and $101 thousand from BOLI for the three months ended March 31,
2005. Other noninterest income amounted to $181 thousand for the first three
months of 2006, as compared to $127 thousand in the first quarter of 2005. The
increase in deposit services was primarily related to new relationships. The
increase in other non-interest income was due primarily to loan prepayment and
commitment fees.
Noninterest Expense
Noninterest expense was $5.2 million for the three months ended March
31, 2006 compared to $4.5 million for the three months ended March 31, 2005, an
increase of 17%.
Salaries and benefits were $3.0 million for the first quarter of 2006,
as compared to $2.6 million for 2005, a 16% increase. This increase was due to
staff additions and related personnel costs, as well as to share based
compensation under new accounting expensing rules which commenced January 1,
2006, and which amounted to $170 thousand for the first three months of 2006 as
compared to no expense in 2005. Refer to Note 6 above under "Share Based
Compensation" for further details on this expense. At March 31, 2006, the
Company staff numbered approximately 149, as compared to 130 at March 31, 2005.
Premises and equipment expenses amounted to $869 thousand for the
quarter ended March 31, 2006 versus $801 thousand for the same period in 2005.
This increase of 8% was due to a full quarter's operation of a new banking
office opened in late January 2005 and to ongoing operating expense increases
associated with the Company's facilities, all of which are leased, and to
increased equipment costs.
Advertising costs increased from $96 thousand in the quarter ended
March 31, 2005 to $119 thousand in the same period in 2006, the increases
associated primarily with increased ongoing product promotions.
Outside data processing costs were $228 thousand for the initial
quarter in 2006, as compared to $181 thousand in 2005, or an increase of 25%.
The increase was due to increases in numbers of accounts and services.
Other expenses, increased from $837 thousand in the first quarter of
2005 to $1.0 million for the three months ended March 31, 2006, or an increase
of 22%. The major components of costs in this category include professional
fees, including audit and accounting, ATM expenses, telephone, courier,
printing, business development, office supplies, charitable contributions,
director fees and dues. For the first quarter of 2006, as compared to 2005, the
significant increases in this category were primarily director fees and special
audit engagement services.
Income Tax Expense
The Company's ratio of income tax expense to pre-tax income (termed
effective tax rate) increased to 40.7% in the first quarter of 2006 as compared
to 37.0% for the same period in 2005. This increase was due to the expensing of
stock based compensation in the first quarter of 2006, which is non-deductible,
and to the use of a 35% marginal federal income tax rate in 2006 as compared to
a 34% marginal federal income tax rate in 2005.
FINANCIAL CONDITION
Summary
At March 31, 2006, assets were $694.6 million, loans were $552.4
million, deposits were $571.2 million and stockholders' equity was $67.2
million. As compared to December 31, 2005, assets grew by $22.3 million (3.3%),
loans by $3.1 million (1.0%), deposits by $2.4 million (1.0%) and stockholders'
equity by $2.3 million (3.5%).
18
The Company paid a cash dividend of $ .07 per share in both the first
quarter of 2006 and 2005
Loans
Loans, net of amortized deferred fees and costs, at March 31, 2006,
December 31, 2005 and March 31, 2005 by major category are summarized below:
As of March 31, As of December 31, As of March 31,
(dollars in thousands) 2006 2005 2005
---------------------------------------------------------------------------------
Amount % Amount % Amount %
---------------------------------------------------------------------------------
Commercial $ 120,435 22% $ 118,928 22% $ 111,055 25%
Real estate mortgage - commercial (1) 289,377 53% 284,667 52% 209,210 48%
eal estate mortgage - residential 1,135 0% 1,130 0% 1,366 0%
Construction - commercial and residential 85,167 15% 90,035 16% 63,636 15%
Home equity 52,471 9% 50,776 9% 47,360 11%
Other consumer 3,790 1% 3,676 1% 4,490 1%
---------------------------------------------------------------------------------
Total loans 552,375 100% $ 549,212 100% 437,117 100%
Less: Allowance for Credit Losses (6,085) (5,985) (4,663)
---------------------------------------------------------------------------------
Net Loans and Leases $ 546,290 $ 543,227 $ 432,454
=================================================================================
(1) includes loans for land acquisition and development
Deposits and Other Borrowings
The principal sources of funds for the Bank are core deposits,
consisting of demand deposits, NOW accounts, money market accounts, savings
accounts and certificates of deposits from the local market areas surrounding
the Bank's offices. The deposit base includes transaction accounts, time and
savings accounts and accounts which customers use for cash management and which
provide the Bank with a source of fee income and cross-marketing opportunities,
as well as an attractive source of lower cost funds. Time and savings accounts,
including money market deposit accounts, also provide a relatively stable and
low-cost source of funding.
For the three months ending March 31, 2006, noninterest bearing
deposits declined $15.3 million due to seasonal factors, while interest bearing
deposits increased by $17.7 million, primarily due to growth in time deposits.
Approximately 37% of the Bank's deposits at March 31, 2006 are made up
of time deposits, which are generally the most expensive form of deposit because
of their fixed rate and term. Certificates of deposit in denominations of $100
thousand or more can be more volatile and more expensive than certificates of
less than $100 thousand. However, because the Bank focuses on relationship
banking, its historical experience has been that large certificates of deposit
have not been more volatile or significantly more expensive than smaller
denomination certificates. It has been the practice of the Bank to pay posted
rates on its certificates of deposit whether under or over $100 thousand,
although some exceptions have been made for large deposit transactions. From
time to time, when appropriate in order to fund strong loan demand, the Bank
accepts certificates of deposits, generally in denominations of less than $100
thousand from bank and credit union subscribers to a wholesale deposit rate
line. These deposits amounted to approximately $9 million or 2% of total
deposits at March 31, 2006, as compared to approximately $16 million of deposits
at March 31, 2005 and approximately $11 million at December 31, 2005. The Bank
has found rates on these deposits to be generally competitive with rates in our
market given the speed and minimal noninterest cost at which deposits can be
acquired.
At March 31, 2006, the Company had approximately $150 million in
noninterest bearing demand deposits, representing 26% of total deposits. This
compared to approximately $165 million of these deposits at December 31, 2005,
the lower balances due to seasonal declines in commercial deposits. These
deposits are primarily business checking accounts on which the payment of
interest is prohibited by regulations of the Federal Reserve. Proposed
19
legislation has been introduced in each of the last several sessions of Congress
which would permit banks to pay interest on checking and demand deposit accounts
established by businesses. If legislation effectively permitting the payment of
interest on business demand deposits is enacted, of which there can be no
assurance, it is likely that we may be required to pay interest on some portion
of our noninterest bearing deposits in order to compete with other banks.
Payment of interest on these deposits could have a significant negative impact
on our net interest income and net interest margin, net income, and the return
on assets and equity.
As an enhancement to the basic noninterest bearing demand deposit
account, the Company offers a sweep account, or "customer repurchase agreement",
allowing qualifying businesses to earn interest on short term excess funds which
are not suited for either a CD investment or a money market account. The
balances in these accounts were $31.5 million at March 31, 2006 compared to
$32.1 million at December 31, 2005. Customer repurchase agreements are not
deposits and are not insured but are collateralized by U.S. government agency
securities. These accounts are particularly suitable to businesses with
significant fluctuation in the levels of cash flows. Attorney and title company
escrow accounts are an example of accounts which can benefit from this product,
as are customers who may require collateral for deposits in excess of $100
thousand but do not qualify for other pledging arrangements. This program
requires the Company to maintain a sufficient investment securities level to
accommodate the fluctuations in balances which may occur in these accounts.
At March 31, 2006, the Company had no outstanding balances under its
lines of credit provided by a correspondent bank. The Bank had $20.0 million of
FHLB borrowings, as compared to no balances outstanding at December 31, 2005.
These advances are secured primarily by a blanket lien on qualifying loans in
the Bank's commercial mortgage loan portfolio. The Bank obtained advances during
the first quarter of 2006 to compensate for weaker seasonal flows in core
deposits.
Liquidity Management
Liquidity is a measure of the Bank's ability to meet loan demand and to
satisfy depositor withdrawal requirements in an orderly manner. The Bank's
primary sources of liquidity consist of cash and cash balances due from
correspondent banks, loan repayments, federal funds sold and other short-term
investments, maturities and sales of investment securities and income from
operations. The Bank's entire investment securities portfolio is in an
available-for-sale status which allows it flexibility to generate cash from
sales as needed to meet ongoing loan demand. These sources of liquidity are
primary and are supplemented by the ability of the Company and Bank to borrow
funds, which are termed secondary sources. The Company maintains secondary
sources of liquidity, which includes a $10 million line of credit with a
correspondent bank, against which there were no amounts outstanding at March 31,
2006. Additionally, the Bank can purchase up to $37 million in federal funds on
an unsecured basis and $5.5 million on a secured basis from its correspondents,
against which there were no borrowings outstanding at March 31, 2006. At March
31, 2006, the Bank was also eligible to take advances from the FHLB up to $79
million based on collateral at the FHLB, of which it had $20 million of advances
outstanding at March 31, 2006. Also, the Bank may enter into repurchase
agreements as well as obtaining additional borrowing capabilities from the FHLB
provided adequate collateral exists to secure these lending relationships.
The loss of deposits, through disintermediation, is one of the greater
risks to liquidity. Disintermediation occurs most commonly when rates rise and
depositors withdraw deposits seeking higher rates in alternative savings and
investment sources than the Bank may offer. The Bank was founded under a
philosophy of relationship banking and, therefore, believes that it has less of
an exposure to disintermediation and resultant liquidity concerns than do many
banks. There is, however, a risk that some deposits would be lost if rates were
to increase and the Bank elected not to remain competitive with its deposit
rates. Under those conditions, the Bank believes that it is well positioned to
use other sources of funds such as FHLB borrowings, customer repurchase
agreements and Bank lines of credit to offset a decline in deposits in the short
run. Over the long-term, an adjustment in assets and change in business emphasis
could compensate for a potential loss of deposits. The Bank also maintains a
marketable investment portfolio to provide flexibility in the event of
significant liquidity needs. The Bank Board's Asset Liability Committee has
adopted policy guidelines which emphasize the importance of core deposits and
their continued growth.
20
At March 31, 2006, under the Bank's liquidity formula, it had $208
million of primary and secondary liquidity sources, which was deemed adequate to
meet current and projected funding needs.
The following is a schedule of significant funding commitments at March
31, 2006:
(in thousands)
Unused lines of credit (consumer) $ 62,507
Other commitments to extend credit 157,917
Standby letters of credit 4,041
---------
Total $ 224,465
=========
Asset/Liability Management and Quantitative and Qualitative Disclosure about
Market Risk
A fundamental risk in banking is exposure to market risk, or interest
rate risk, since a bank's net income is largely dependent on net interest
income. The Bank's Asset Liability Committee ("ALCO") of the Board of Directors
formulates and monitors the management of interest rate risk through policies
and guidelines established by it and the full Board of Directors. In its
consideration of risk limits, the ALCO considers the impact on earnings and
capital, the level and direction of interest rates, liquidity, local economic
conditions, outside threats and other factors. Banking is generally a business
of managing the maturity and re-pricing mismatch inherent in its asset and
liability cash flows and to provide net interest income growth consistent with
the Company's profit objectives.
The Company, through its ALCO, monitors the interest rate environment
in which it operates and adjusts the rates and maturities of its assets and
liabilities to remain competitive and to achieve its overall financial
objectives subject to established risk limits. In the current interest rate
environment, the Company is managing its assets to be either variably priced or
with relatively short maturities, so as to mitigate the risk to earnings and
capital should interest rates increase from current levels. At the same time,
the Bank seeks to acquire longer-term core deposits to lock in relatively lower
cost funds. In the current market, due to competitive factors and customer
preferences, the effort to attract longer-term fixed priced liabilities has not
been as successful as the Company's best case asset liability mix would prefer.
There can be no assurance that the Company will be able to successfully achieve
its optimal asset liability mix, as a result of competitive pressures, customer
preferences and the inability to perfectly forecast future interest rates.
One of the tools used by the Company to manage its interest rate risk
is a static GAP analysis presented below. The Company also uses an earnings
simulation model (simulation analysis) on a quarterly basis to monitor its
interest rate sensitivity and risk and to model its balance sheet cash flows and
its income statement effects in different interest rate scenarios. The model
utilizes current balance sheet data and attributes and is adjusted for
assumptions as to investment maturities (calls), loan prepayments, interest
rates, the level of noninterest income and noninterest expense. The data is then
subjected to a "shock test", which assumes a simultaneous change in interest
rate up 100 and 200 basis points or down 100 and 200 basis points, along the
entire yield curve, but not below zero. The results are analyzed as to the
impact on net interest income, and net income over the next twelve and twenty
four month periods and to the market value of equity impact. The Company
analysis at March 31, 2006 shows a positive effect on income when interest rates
are shocked up 100 and 200 basis points, due to the significant level of
variable rate loans. A negative impact occurs if rates were to decline based on
the Company's asset sensitive position. Interest rate declines would reduce
income on earning assets more than the benefit of reductions in the cost of
funds, potentially resulting in net interest margin contraction. The Company
concluded in the second quarter of 2005, based on market factors and its recent
experience, that larger increases in its retail deposit rate assumptions would
likely occur in a rising interest rate environment and modified its model
assumptions to reflect more rate sensitivity within the core deposit base. While
the impact of higher interest rates continues to be viewed as positive to future
net interest income and market values of equity, this assumption change
moderated the benefits of such higher interest rates assumptions, as compared to
earlier analysis.
21
The following table reflects the result of a shock simulation on the
March 31, 2006 balances.
Percentage change in
Change in interest Percentage change in net Percentage change in Market Value of
rates (basis points) interest income net income Portfolio Equity
-------------------- ------------------------ -------------------- ---------------------
+200 + 3.0% +8.1% + .8%
+100 +1.5% +4.2% +1.3%
0 - - -
-100 -2.7% -7.5% -3.0%
-200 -6.5% -17.6% -7.1%
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 repricing periods, 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 limit changes in interest rates on a short-term basis
and over the life of the loan. Further, in the event of a change in interest
rates, prepayment and early withdrawal levels could deviate significantly from
those assumed in calculating the tables. Finally, the ability of many borrowers
to service their debt may decrease in the event of a significant interest rate
increase.
Gap
Banks and other financial institutions earnings are significantly
dependent upon net interest income, which is the difference between interest
earned on earning assets and interest expense on interest bearing liabilities.
In falling interest rate environments, net interest income is maximized
with longer term, higher yielding assets being funded by lower yielding
short-term funds, or what is referred to as a negative mismatch or GAP.
Conversely, in a rising interest rate environment, net interest income is
maximized with shorter term, higher yielding assets being funded by longer-term
liabilities or what is referred to as a positive mismatch or GAP.
The current interest rate environment is signaling higher interest
rates. Management has been emphasizing the acquisition of variable rate and
shorter term assets and has been attempting to secure longer-term core deposits.
While management believes that this overall position creates a good balance in
managing its interest rate risk and maximizing its net interest margin within
plan objectives, there can be no assurance as to actual results.
The GAP position, which is a measure of the difference in maturity and
re-pricing volume between assets and liabilities, is a means of monitoring the
sensitivity of a financial institution to changes in interest rates. The chart
below provides an indication of the rate sensitivity of the Company. A negative
GAP indicates the degree to which the volume of repriceable liabilities exceeds
repriceable assets in given time periods. At March 31, 2006, the Company had a
positive cumulative GAP position of approximately 14% out to three months and a
negative cumulative GAP position of -1% out to twelve months, as compared to a
three month positive GAP of 9% and a cumulative twelve month positive GAP of 3%
at December 31, 2005. The change in the GAP position at March 31, 2006 as
compared to December 31, 2005 relates primarily to a change in the mix of
deposits toward more time deposits with maturities within 12 months. The current
position is within guideline limits established by ALCO.
If interest rates continue to rise, as many forecasters are predicting,
the Bank's interest income and margin are expected to be stable because of the
present positive mismatch position combined with a more competitive business
environment for both deposits and loans. Because competitive market behavior
does not necessarily track the trend of interest rates but at times moves ahead
of financial market influences, the rise in the cost of liabilities may be
greater than anticipated by the GAP model. If this were to occur, the benefits
of a rising interest rate environment may not be in accordance with management's
expectations. Management has carefully considered its strategy to maximize
interest income by reviewing interest rate levels, economic indicators and call
features within its investment portfolio. These factors have been discussed with
the ALCO and management believes that current strategies are appropriate to
current economic and interest rate trends.
22
GAP ANALYSIS
MARCH 31, 2006
(dollars in thousand)
Total Rate Non- Total
Repriceable in: 0-3 mos 4-12 mos 13-36 mos 37-60 mos over 60 mos Sensitive sensitive Assets
------------------------------------------------------------------------------------------------
RATE SENSITIVE ASSETS:
----------------------
Investments and bank deposits $ 7,541 $ 14,445 $ 27,511 $ 14,118 $ 6,339 $ 69,954
Loans (1) 298,474 60,932 106,097 72,561 17,321 555,385
Fed funds and other
short-term investments 33,348 - - - - 33,348
Other earning assets - 11,219 - - - 11,219
------------------------------------------------------------------------
Total $ 339,363 $ 86,596 $133,608 $ 86,679 $ 23,660 $669,906 $24,660 $694,566
------------------------------------------------------------------------
RATE SENSITIVE LIABILITIES:
---------------------------
Noninterest bearing demand $ 6,447 $ 20,262 $ 36,521 $ 31,017 $ 55,531 $149,778
Interest bearing transaction 19,892 - 13,262 13,262 19,893 66,309
Savings and money market 137,795 - 622 415 1,865 140,697
Time deposits 34,850 161,576 17,212 823 - 214,461
Customer repurchase agreements 31,549 - - - - 31,549
Other short-term borrowings 10,000 10,000 - - - 20,000
------------------------------------------------------------------------
Total $ 240,533 $ 191,838 $ 67,617 $ 45,517 $ 77,289 $622,794 $ 4,531 $627,325
------------------------------------------------------------------------
GAP $ 98,830 $(105,242) $ 65,991 $ 41,162 $(53,629) $ 47,112
Cumulative GAP $ 98,830 $ (6,412) $ 59,579 $100,741 $ 47,112
Cumulative gap as percent
of total assets 14.23% (0.92)% 8.58% 14.50% 6.78%
(1) Includes loans held for sale
Although NOW and MMA accounts are subject to immediate repricing, the
Bank's GAP model has incorporated a repricing schedule to account for a lag in
rate changes based on our experience, as measured by the amount of those deposit
rate changes relative to the amount of rate change in assets.
CAPITAL RESOURCES AND ADEQUACY
The assessment of capital adequacy depends on a number of factors such
as asset quality, liquidity, earnings performance, changing competitive
conditions and economic forces, and the overall level of growth. The adequacy of
the Company's current and future capital needs is monitored by management on an
ongoing basis. Management seeks to maintain a capital structure that will assure
an adequate level of capital to support anticipated asset growth and to absorb
potential losses.
The capital position of both the Company and the Bank continues to
exceed regulatory requirements to be considered well-capitalized. The primary
indicators used by bank regulators in measuring the capital position are the
tier 1 risk-based capital ratio, the total risk-based capital ratio, and the
tier 1 leverage ratio. Tier 1 capital consists of common and qualifying
preferred stockholders' equity less intangibles. Total risk-based capital
consists of tier 1 capital, qualifying subordinated debt, and a portion of the
allowance for credit losses. Risk-based capital ratios are calculated with
reference to risk-weighted assets. The tier 1 leverage ratio measures the ratio
of tier 1 capital to total average assets for the most recent three month
period.
The ability of the Company to continue to grow is dependent on its
earnings and the ability to obtain additional funds for contribution to the
Bank's capital, through additional borrowing, the sale of additional common
stock, the sale of preferred stock, or through the issuance of additional
qualifying equity equivalents, such as subordinated debt or trust preferred
securities.
23
Capital
The actual capital amounts and ratios for the Company and Bank as of March 31,
2006 and March 31, 2005 are presented in the table below:
Well Capitalized
For Capital Ratio Under
Company Company Bank Bank Adequacy Prompt Corrective
Actual Actual Actual Actual Purposes Action Provisions**
Dollars in thousands Amount Ratio Amount Ratio Ratio Ratio
------ ----- ------ ------ ----------- -------------------
As of March 31, 2006
Total capital to risk-weighted
assets $73,970 12.4% $64,853 11.0% 8.00% 10.00%
Tier 1 capital to risk-weighted
assets $67,885 11.4% $58,833 10.0% 4.00% 6.00%
Tier 1 capital to average assets
(leverage) $67,885 10.1% $58,833 8.9% 3.00% 5.00%
As of March 31, 2005
Total capital to risk-weighted
assets $64,692 13.0% $51,660 10.7% 8.00% 10.00%
Tier 1 to risk-weighted assets $60,029 12.1% $47,012 9.7% 4.00% 6.00%
Tier 1 capital to average assets
(leverage) $60,029 10.7% $47,012 8.7% 3.00% 5.00%
** Applies to Bank only
Bank and holding company regulations, as well as Maryland law, impose
certain restrictions on dividend payments by the Bank, as well as restricting
extension of credit and transfers of assets between the Bank and the Company. At
March 31, 2006, the Bank could pay dividends to the parent to the extent of its
earnings so long as it maintained required capital ratios.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Please refer to Item 2 of this report, "Management's Discussion and
Analysis of Financial Condition and Results of Operations", under the caption
"Asset/Liability Management and Quantitative and Qualitative Disclosure About
Market Risk".
Item 4. Controls and Procedures
The Company's management, under the supervision and with the
participation of the Company's Chief Executive Officer and Chief Financial
Officer, evaluated as of the last day of the period covered by this report the
effectiveness of the operation of the Company's disclosure controls and
procedures, as defined in Rule 13a-14 under the Securities and Exchange Act of
1934. Based on that evaluation, the Chief Executive Officer and Chief Financial
Officer concluded that the Company's disclosure controls and procedures were
effective.
24
Part II Other Information
Item 1. Legal Proceedings
From time to time the Company may become involved in legal proceedings.
At the present time there are no proceedings which the Company believes will
have an adverse impact on the financial condition or earnings of the Company.
Item 1A. Risk Factors
There have been no material changes as of March 31, 2006 in the risk
factors from those disclosed in the Company's Annual Report on Form 10-K for the
year ended December 31, 2005.
Item 2 Unregistered Sales of Equity Securities and Use of Proceeds
(a) Sales of Unregistered Securities. None
(b) Use of Proceeds. Not Applicable.
(c) Issuer Purchases of Securities. None
Item 3 Defaults Upon Senior Securities None
Item 4 Submission of Matters to a Vote of Security Holders None
Item 5 Other Information None.
(a) Required 8-K Disclosures None
(b) Changes in Procedures for Director Nominations None
Item 6 Exhibits
Exhibit No. Description of Exhibit
----------- ----------------------
3(a) Certificate of Incorporation of the Company, as amended (1)
3(b) Bylaws of the Company (2)
10.1 1998 Stock Option Plan (3)
10.2 Employment Agreement between Michael T. Flynn and the Company (4)
10.3 Employment Agreement between Thomas D. Murphy and the Bank (4)
10.4 Employment Agreement between Ronald D. Paul and the Company (4)
10.5 Director Fee Agreement between Leonard L. Abel and the Company (4)
10.6 Employment Agreement between Susan G. Riel and the Bank (4)
10.7 Employment Agreement between Martha F. Tonat and the Bank (4)
10.8 Employment Agreement between Wilmer L. Tinley and the Bank (4)
10.9 Employee Agreement for James H. Langmead (5)
10.10 Employee Stock Purchase Plan (6)
11 Statement Regarding Computation of Per Share Income
21 Subsidiaries of the Registrant
31.1 Rule 13a-14(a) Certification of Ronald D. Paul
31.2 Rule 13a-14(a) Certification of Wilmer L. Tinley
31.3 Rule 13a-14(a) Certification of Michael T. Flynn
32.1 Section 1350 Certification of Ronald D. Paul
25
32.2 Section 1350 Certification of Wilmer L. Tinley
32.3 Section 1350 Certification of Michael T. Flynn
32.4 Section 1350 Certification of James H. Langmead
--------------------------------------------------------------------------------
(1) Incorporated by reference to the exhibit of the same number to the
Company's Quarterly Report on Form 10-QSB for the period ended
September 30, 2002.
(2) Incorporated by reference to Exhibit 3(b) to the Company's Registration
Statement on Form SB-2, dated December 12, 1997.
(3) Incorporated by reference to Exhibit 10.1 to the Company's Annual
Report on Form 10-KSB for the year ended December 31, 1998. (4)
Incorporated by reference to exhibits of the same number to the
Company's Annual Report on Form 10-K for the year ended December 31,
2003.
(5) Incorporated by reference to exhibits of the same number to the
Company's Annual Report on Form 10-K for the year ended December 31,
2004
(6) Incorporated by reference to Exhibit 4 to the Company's Registration
Statement on Form S-8 (No. 333-116352)
26
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
EAGLE BANCORP, INC.
Date: May 5, 2006 By: /s/ Ronald D. Paul
--------------------------------------------
Ronald D. Paul, President and CEO
Date: May 5, 2006 By: /s/ Wilmer L. Tinley
--------------------------------------------
Wilmer L. Tinley, Senior Vice President and
Chief Financial Officer
27