SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-K
(Mark One)
[X] Annual report pursuant to section 13 OR 15(d) of the Securities Exchange Act of 1934
For the fiscal year ended June 30, 2005
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- or -
[ ] Transition Report pursuant to section 13 OR 15(d) of the Securities Exchange Act of 1934
For the transition period from to
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Commission Number: 0-51093
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Kearny Financial Corp.
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(Exact name of Registrant as specified in its Charter)
United States 22-3803741
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(State or other jurisdiction of incorporation (I.R.S. Employer
or organization) Identification No.)
120 Passaic Avenue, Fairfield, New Jersey 07004
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(Address of principal executive offices) Zip Code
Registrant's telephone number, including area code: (973) 244-4500
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Securities registered pursuant to Section 12(b) of the Act: None
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Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $0.10 per share
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(Title of Class)
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
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Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [X]
Indicate by check mark whether the registrant is an accelerated filer
(as defined in Exchange Act Rule 12b-2). YES NO X
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The aggregate market value of the voting and non-voting common equity
held by non-affiliates of the Registrant on December 31, 2004 was $0.
As of September 26, 2005 there were issued and outstanding 72,737,500
shares of the Registrant's Common Stock.
DOCUMENTS INCORPORATED BY REFERENCE
1. Portions of the Proxy Statement for the 2005 Annual Meeting of Stockholders.
(Part III)
PART I
Kearny Financial Corp. (the "Company" or the "Registrant") may from
time to time make written or oral "forward-looking statements," including
statements contained in the Company's filings with the Securities and Exchange
Commission (including this Annual Report on Form 10-K and the exhibits thereto),
in its reports to stockholders and in other communications by the Company, which
are made in good faith by the Company pursuant to the "safe harbor" provisions
of the Private Securities Litigation Reform Act of 1995.
These forward-looking statements involve risks and uncertainties, such
as statements of the Company's plans, objectives, expectations, estimates and
intentions, that are subject to change based on various important factors (some
of which are beyond the Company's control). The following factors, among others,
could cause the Company's financial performance to differ materially from the
plans, objectives, expectations, estimates and intentions expressed in such
forward-looking statements: the strength of the United States economy in general
and the strength of the local economy in which the Company conducts operations;
the effects of, and changes in, trade, monetary and fiscal policies and laws,
including interest rate policies of the Board of Governors of the Federal
Reserve System, inflation, interest rates, market and monetary fluctuations; the
impact of changes in financial services' laws and regulations (including laws
concerning taxes, banking, securities and insurance); changes in accounting
policies and practices, as may be adopted by regulatory agencies, the Financial
Accounting Standards Board or the Public Company Accounting Oversight Board;
technological changes; competition among financial services providers; and the
success of the Company at managing the risks involved in the foregoing and
managing its business.
The Company cautions that the foregoing list of important factors is
not exclusive. The Company does not undertake to update any forward-looking
statement, whether written or oral, that may be made from time to time by or on
behalf of the Company.
Item 1. Business
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General
The Company is a federally-chartered corporation that was organized on
March 30, 2001 for the purpose of being a holding company for Kearny Federal
Savings Bank (the "Bank"), a federally-chartered stock savings bank. On February
23, 2005, the Company completed a minority stock offering in which it sold
21,821,250 shares, or 30% of its outstanding common stock. The remaining 70% of
the outstanding common stock, or 50,916,250 shares, are owned by Kearny MHC (the
"MHC"). The MHC is a federally-chartered mutual holding company and is subject
to regulation by the Office of Thrift Supervision. So long as the MHC is in
existence, it will at all times own a majority of the outstanding common stock
of the Company. The MHC and the Company are regulated by the Office of Thrift
Supervision.
The Company is a unitary savings and loan holding company and conducts
no significant business or operations of its own. References in this Annual
Report on Form 10-K to the Company or Registrant generally refer to the Company
and the Bank, unless the context indicates otherwise. References to "we," "us,"
or "our" refer to the Bank or Company, or both, as the context indicates.
The Bank was originally founded in 1884 as a New Jersey mutual building
and loan association. It obtained federal insurance of accounts in 1939 and
received a federal charter in 1941. The Bank's deposits are federally insured by
the Savings Association Insurance Fund as administered by the Federal
1
Deposit Insurance Corporation, and the Bank is regulated by the Office of Thrift
Supervision and the Federal Deposit Insurance Corporation.
Our primary business is attracting retail deposits from the general
public and using those deposits, together with funds generated from operations,
principal repayments on securities and loans and borrowed funds, for our
investing and lending activities. We invest in mortgage-backed securities, U.S.
government obligations, obligations of state and political subdivisions and
other securities. Our loan portfolio consists of one- to four-family residential
mortgage loans, multi-family and commercial mortgage loans, construction loans,
commercial business loans, home equity loans and lines of credit, and other
consumer loans. Our interest-earning assets consist primarily of mortgage-backed
securities and investment securities, which comprised 59.9% of our total assets
while our loan portfolio comprised 26.5% of our total assets at June 30, 2005.
We intend to increase the balance of our loan portfolio relative to the size of
our securities portfolio, however, such a change will take time and, in the near
future, our assets will continue to consist primarily of securities.
Market Area. We currently operate from administrative headquarters in
Fairfield, New Jersey, and twenty-five branch offices located in Bergen, Hudson,
Passaic, Morris, Middlesex, Essex, Union and Ocean Counties, New Jersey. We also
consider Monmouth County, New Jersey to be part of our market area. Our lending
is concentrated in these nine New Jersey counties, and our predominant sources
of deposits are the communities in which our offices are located as well as the
neighboring communities.
Our primary market area is largely urban and suburban with a broad
economic base as is typical with counties in the New York metropolitan area.
Service jobs represent the largest employment sector followed by
wholesale/retail trade.
Our business of attracting deposits and making loans is primarily
conducted within our market area. A downturn in the local economy could reduce
the amount of funds available for deposit and the ability of borrowers to repay
their loans. As a result, our profitability could decrease.
Competition. We operate in a market area with a high concentration of
banking and financial institutions, and we face substantial competition in
attracting deposits and in originating loans. A number of our competitors are
significantly larger institutions with greater financial and managerial
resources and lending limits. Our ability to compete successfully is a
significant factor affecting our growth potential and profitability.
Our competition for deposits and loans historically has come from other
insured financial institutions such as local and regional commercial banks,
savings institutions, and credit unions located in our primary market area. We
also compete with mortgage banking and finance companies for real estate loans
and with commercial banks and savings institutions for consumer loans, and we
face competition for funds from investment products such as mutual funds,
short-term money funds and corporate and government securities. There are large
competitors operating throughout our total market area, including Bank of
America, Commerce Bank, Wachovia Bank and PNC Bank, and we also face strong
competition from other community-based financial institutions.
2
Lending Activities
General. We have traditionally focused on the origination of one- to
four-family loans, which comprise a significant majority of the total loan
portfolio. Our next largest category of lending is commercial lending which
includes multi-family dwellings, mixed-use properties and other commercial real
estate. We also offer consumer loans, primarily composed of home equity loans
and lines of credit. We also originate construction loans and commercial
business loans, generally secured by real estate.
Analysis of Loan Portfolio. Set forth below is selected data relating
to the composition of the Bank's loan portfolio at the dates indicated.
At June 30,
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2005 2004 2003 2002 2001
---------------- --------------- ---------------- --------------- ----------------
Amount Percent Amount Percent Amount Percent Amount Percent Amount Percent
------ ------- ------ ------- ------ ------- ------ ------- ------ -------
(In thousands)
Type of Loans:
Real estate mortgage -
one-to-four family........ $382,766 68.04% $358,241 70.22% $366,391 71.50% $458,969 77.24% $468,846 77.42%
Real estate mortgage -
multi-family and
commercial................. 96,685 17.18 83,426 16.35 71,099 13.88 59,418 10.00 57,013 9.42
Commercial business.......... 2,930 0.52 5,161 1.01 2,353 0.46 6,704 1.13 4,325 0.71
Consumer:
Home equity loans......... 54,199 9.63 37,381 7.33 37,315 7.28 36,750 6.19 39,492 6.52
Home equity lines of
credit.................. 14,850 2.64 15,677 3.07 19,905 3.89 19,183 3.23 12,641 2.09
Passbook or certificate... 2,831 0.50 2,746 0.54 2,895 0.56 3,044 0.51 3,539 0.59
Other..................... 264 0.05 336 0.07 1,273 0.25 1,111 0.18 1,405 0.23
Construction................. 8,094 1.44 7,212 1.41 11,183 2.18 9,030 1.52 18,299 3.02
-------- ------ -------- ------ -------- ------ -------- ------ -------- ------
Total loans............. 562,619 100.00% 510,180 100.00% 512,414 100.00% 594,209 100.00% 605,560 100.00%
-------- ====== -------- ====== -------- ====== -------- ====== -------- ======
Less:
Allowance for loan
losses................. 5,416 5,144 5,180 5,170 5,167
Deferred loan (costs)
and fees, net.......... (815) (758) (1,927) (2,103) (1,789)
-------- -------- -------- -------- --------
4,601 4,386 3,253 3,067 3,378
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Total loans, net........ $558,018 $505,794 $509,161 $591,142 $602,182
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3
Loan Maturity Schedule. The following table sets forth the maturity of
the Bank's loan portfolio at June 30, 2005. Demand loans, loans having no stated
maturity, and overdrafts are shown as due in one year or less. Loans are stated
in the following tables at contractual maturity and actual maturities could
differ due to prepayments.
At June 30, 2005
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Real estate Real estate Home
mortgage - mortgage - Home equity Passbook
one-to-four multi-family Commercial equity lines of or
family and commercial business loans credit certificate Other Construction Total
------ -------------- -------- ----- ------ ----------- ----- ------------ -----
(In thousands)
Amounts Due:
Within 1 Year.............. $ 198 $ 1,383 $2,866 $ 80 $ 47 $2,520 $116 $7,536 $ 14,746
-------- ------- ------ ------- ------- ------ ---- ------ --------
After 1 year:
1 to 3 years............. 4,757 1,034 25 3,772 302 301 53 558 10,802
3 to 5 years............. 5,394 3,853 39 4,699 678 - - - 14,663
5 to 10 years............ 53,720 11,308 - 17,365 1,709 - - - 84,102
10 to 15 years........... 129,951 22,916 - 24,156 8,551 10 95 - 185,679
Over 15 years............ 188,746 56,191 - 4,127 3,563 - - - 252,627
-------- ------- ------ ------- ------- ------ ---- ------ --------
Total due after one year... 382,568 95,302 64 54,119 14,803 311 148 558 547,873
-------- ------- ------ ------- ------- ------ ---- ------ --------
Total amount due........... $382,766 $96,685 $2,930 $54,199 $14,850 $2,831 $264 $8,094 $562,619
======== ======= ====== ======= ======= ====== ==== ====== ========
4
The following table sets forth the dollar amount of all loans at June
30, 2005 that are due after June 30, 2006.
Floating or
Fixed Rates Adjustable Rates Total
----------- ---------------- -----
(In thousands)
Real estate mortgage -
one-to-four family.............. $341,400 $41,168 $382,568
Real estate mortgage -
multi-family and commercial...... 64,826 30,476 95,302
Commercial business................ 39 25 64
Consumer:
Home equity loans............... 54,119 - 54,119
Home equity lines of credit..... 1,605 13,198 14,803
Passbook or certificate......... - 311 311
Other........................... 139 9 148
Construction.................... - 558 558
-------- ------- --------
Total....................... $462,128 $85,745 $547,873
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One- to Four-Family Mortgage Loans. Our primary lending activity
consists of the origination of one- to four-family first mortgage loans, nearly
all of which are secured by property located in New Jersey.
We will originate a one- to four-family mortgage loan on an owner
occupied property with principal amounts up to 95% of the lesser of the
appraised value or the purchase price of the property, with private mortgage
insurance required for loans with a loan to value ratio exceeding 80%. The loan
to value limit on a non-owner occupied property is 75%. Loans in excess of
$750,000 are handled on a case by case basis and are subject to lower loan to
value limits, generally no more than 50%.
Our fixed rate and adjustable rate residential mortgage loans on owner
occupied properties have terms of ten to thirty years. Residential mortgage
loans on non-owner occupied properties have terms up to fifteen years for fixed
rate loans and terms up to twenty years for adjustable rate loans. We also offer
ten-year balloon mortgages with a thirty year amortization schedule on owner
occupied properties and a twenty year amortization schedule on non-owner
occupied properties.
Our adjustable rate loan products provide for an interest rate that is
tied to the one-year Constant Maturity U.S. Treasury index and have terms of up
to thirty years with initial fixed rate periods of one, three, five, seven, or
ten years according to the terms of the loan and annual rate adjustment
thereafter. We also offer an adjustable rate loan with a term up to thirty years
with a rate that adjusts every five years to the five-year Constant Maturity
U.S. Treasury index. There is a 200 basis point limit on the rate adjustment in
any adjustment period, and the rate adjustment limit over the life of the loan
is 600 basis points. We emphasize the origination of adjustable rate loans,
however, as a result of the low interest rate environment of the last several
years, customer demand has recently been primarily for fixed rate loans.
We offer a first time home buyer program for persons who have not
previously owned real estate and are purchasing a one- to four-family property
in Bergen, Passaic, Morris, Essex, Hudson, Middlesex, Monmouth, Ocean and Union
Counties, New Jersey for use as a primary residence. This program is also
available outside these areas only to persons who are existing deposit or loan
customers of Kearny Federal
5
Savings Bank and/or members of their immediate families. The financial
incentives offered under this program are a one-quarter of one percent rate
reduction on all first mortgage loan types and the refund of the application fee
at closing.
The fixed rate mortgage loans that we originate generally meet the
secondary mortgage market standards of the Federal Home Loan Mortgage
Corporation. However, as our focus is on growing the size of the loan portfolio,
we generally do not sell loans in the secondary market and do not currently
anticipate that we will commence doing so in any large capacity. There were no
residential mortgage loan sales during the last three fiscal years.
Substantially all of our residential mortgages include "due on sale"
clauses, which are provisions giving us the right to declare a loan immediately
payable if the borrower sells or otherwise transfers an interest in the property
to a third party. Property appraisals on real estate securing our one- to
four-family residential loans are made by state certified or licensed
independent appraisers approved by the Board of Directors. Appraisals are
performed in accordance with applicable regulations and policies. We require
title insurance policies on all first mortgage real estate loans originated.
Homeowners, liability, fire and, if applicable, flood insurance policies are
also required.
Multi-family and Commercial Real Estate Mortgage Loans. We also
originate mortgage loans on multi-family and commercial real estate properties,
including loans on apartment buildings, retail/service properties, and other
income-producing properties, including mixed-use properties combining
residential and commercial space. Going forward, we intend to increase the size
of this portfolio.
We generally require no less than a 30% down payment or equity position
for mortgage loans on multi-family and commercial real estate properties, and we
require personal guarantees on all such loans. Currently, these loans are made
with a maturity of up to 15 years. We also offer a five year balloon loan with a
twenty year amortization schedule. All of our multi-family and commercial real
estate mortgage loans are on properties within New Jersey.
Multi-family and commercial real estate mortgage loans generally are
considered to entail significantly greater risk than that which is involved with
one- to four-family real estate lending. The repayment of these loans typically
is dependent on the successful operations and income stream of the borrower and
the real estate securing the loan as collateral. These risks can be
significantly affected by economic conditions. In addition, multi-family and
commercial real estate mortgage loans generally carry larger balances to single
borrowers or related groups of borrowers than one- to four-family loans. Multi-
family and commercial real estate lending also generally requires substantially
greater evaluation and oversight efforts compared to residential real estate
lending.
Commercial Business Loans. We also originate commercial term loans and
lines of credit to a variety of professionals, sole proprietorships and small
businesses in our market area. These loans are generally secured by real estate,
and we require personal guarantees on all commercial loans. Marketable
securities are also accepted as collateral on lines of credit, but with a loan
to value limit of 50%. The loan to value limit on secured commercial lines of
credit and term loans is otherwise generally limited to 70%. We also make
unsecured commercial loans in the form of overdraft checking authorization up to
$25,000 and unsecured lines of credit up to $25,000.
Our commercial term loans generally have terms up to fifteen years and
are mostly fixed rate loans. Our commercial lines of credit have terms up to
two years and are mostly adjustable rate loans. We also offer a one-year
interest only commercial line of credit with balloon payment.
6
Unlike single-family residential mortgage loans, which generally are
made on the basis of the borrower's ability to make repayment from his or her
employment and other income and which are secured by real property whose value
tends to be more easily ascertainable, commercial business loans typically are
made on the basis of the borrower's ability to make repayment from the cash flow
of the borrower's business. As a result, the availability of funds for the
repayment of commercial business loans may be substantially dependent on the
success of the business itself and the general economic environment. Commercial
business loans, therefore, have greater credit risk than residential mortgage
loans. In addition, commercial loans generally carry larger balances to single
borrowers or related groups of borrowers than one- to four-family loans.
Commercial lending also generally requires substantially greater evaluation and
oversight efforts compared to residential or non-residential real estate
lending.
Home Equity Loans and Lines of Credit. Our home equity loans are fixed
rate loans for terms of generally up to twenty years. We also offer fixed and
adjustable rate home equity lines of credit with terms up to fifteen years. We
still have in this portfolio a substantial amount of twenty-year home equity
loans originated by Pulaski Savings Bank, which we acquired in 2002. Collateral
value is determined through an Automated Valuation Module (AVM), specifically,
the Freddie Mac's Home Valuation Explorer (HVE), or property value analysis
report (FHLMC Form 704) provided by a state certified or licensed independent
appraiser. In some cases, we determine collateral value by a full appraisal
performed by a state certified or licensed independent appraiser. Home equity
loans and lines of credit do not require title insurance but do require
homeowner, liability, fire and, if applicable, flood insurance policies.
Home equity loans and fixed rate home equity lines of credit are
primarily originated in our market area and are generally made in amounts of up
to 80% of value on term loans and up to 75% of value on home equity adjustable
rate lines of credit. We originate home equity loans secured by either a first
lien or a second lien on the property.
Other Consumer Loans. In addition to home equity loans and lines of
credit, our consumer loan portfolio at June 30, 2005 also included savings
secured (passbook) loans and unsecured personal overdraft loans. We will
generally lend up to 90% of the account balance on a savings secured loan.
Consumer loans entail greater risks than residential mortgage loans,
particularly consumer loans that are unsecured. Consumer loan repayment is
dependent on the borrower's continuing financial stability and is more likely to
be adversely affected by job loss, divorce, illness or personal bankruptcy. The
application of various federal laws, including federal and state bankruptcy and
insolvency laws, may limit the amount which can be recovered on consumer loans
in the event of a default.
Our underwriting standards for consumer loans include a determination
of the applicant's credit history and an assessment of the applicant's ability
to meet existing obligations and payments on the proposed loan. The stability of
the applicant's monthly income may be determined by verification of gross
monthly income from primary employment and any additional verifiable secondary
income.
We previously made student education loans. We sold this portfolio to
Sallie Mae during the year ended June 30, 2003. Additionally, in our
acquisitions of Pulaski Savings Bank and West Essex Bank, we acquired small
portfolios of automobile loans and personal overdraft accounts. The balance of
automobile loans and unsecured personal loans remaining at June 30, 2005 was
$10,300 and $119,200, respectively. We began offering unsecured personal
overdraft loans of up to $2,500 to our customers in September 2004, and
automobile loans of up to $50,000 to our customers in June 2005.
7
Construction Lending. Our construction lending includes loans to
individuals for construction of one- to four-family residences or for major
renovations or improvements to an existing dwelling. Our construction lending
also includes loans to builders and developers for multi-unit buildings or
multi-house projects. All of our construction lending is in New Jersey.
Construction borrowers must hold title to the land free and clear of
any liens. Financing for construction loans is limited to 80% of the anticipated
appraised value of the completed property. Disbursements are made in accordance
with inspection reports by our approved appraisal firms. Terms of financing are
limited to one year with an interest rate tied to the prime rate and may include
a premium of one or more points. In some cases, we convert a construction loan
to a permanent mortgage loan upon completion of construction.
We have no formal limits as to the number of projects a builder has
under construction or development, and make a case by case determination on
loans to builders and developers who have multiple projects under development.
Loans to builders and developers must be approved by the Board of Directors
before the borrower's application can be accepted. We generally do not make
construction loans to builders on a speculative basis, without a contract in
place. Financing is only provided for up to two houses at a time in a
multi-house project, requiring a contract on one of the two houses before
financing for the next house may be obtained.
Construction lending is generally considered to involve a higher degree
of credit risk than mortgage lending. If the estimate of construction cost
proves to be inaccurate, we may be compelled to advance additional funds to
complete the construction with repayment dependent, in part, on the success of
the ultimate project rather than the ability of a borrower or guarantor to repay
the loan. If we are forced to foreclose on a project prior to completion, there
is no assurance that we will be able to recover all of the unpaid portion of the
loan. In addition, we may be required to fund additional amounts to complete a
project and may have to hold the property for an indeterminate period of time.
Loans to One Borrower. Under federal law, savings institutions have,
subject to certain exemptions, lending limits to one borrower in an amount equal
to the greater of $500,000 or 15% of the institution's unimpaired capital and
surplus. Accordingly, as of June 30, 2005, our loans to one borrower limit was
approximately $46.0 million.
At June 30, 2005, our largest single borrower had an aggregate loan
balance of approximately $9.7 million, representing two mortgage loans secured
by commercial real estate. Our second largest single borrower had an aggregate
loan balance of approximately $9.6 million, representing two loans secured by
commercial real estate, one commercial line of credit secured by real estate and
one residential mortgage loan. Our third largest borrower had an aggregate loan
balance of approximately $7.0 million, representing four loans secured by
commercial real estate. At June 30, 2005, all of these lending relationships
were current and performing in accordance with the terms of their loan
agreements.
Loan Originations, Purchases, Sales, Solicitation and Processing. The
following table shows total loans originated, purchased and repaid during the
periods indicated. During the periods indicated, the Bank did not sell any loans
other than the sale of the student loan portfolio to Sallie Mae during the year
ended June 30, 2003.
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For the Year Ended June 30,
--------------------------------
2005 2004 2003
--------- --------- ---------
(In thousands)
Loan originations and purchases:
Loan originations:
Real estate mortgage - one-to-four family............... $ 86,026 $ 69,550 $ 87,545
Real estate mortgage - multi-family and commercial...... 24,622 26,052 17,227
Commercial business..................................... 1,422 5,631 1,714
Construction............................................ 7,378 6,864 7,662
Consumer:
Home equity loans and lines of credit................... 39,598 31,656 45,328
Passbook or certificate................................. 1,618 1,830 2,693
Other................................................... 324 266 101
--------- --------- ---------
Total loan originations................................... 160,988 141,849 162,270
--------- --------- ---------
Loan purchases:
Real estate mortgage - one-to-four family............... 1,500 14,262 -
Real estate mortgage - multi-family and commercial...... - 762 5,687
--------- --------- ---------
Total loan purchases...................................... 1,500 15,024 5,687
--------- --------- ---------
Loans sold (student loan portfolio)....................... - - (338)
Loan principal repayments................................. (111,740) (157,906) (249,414)
--------- --------- ---------
Total loans sold and principal repayments................. (111,740) (157,906) (249,752)
--------- --------- ---------
Increase (decrease) due to other items...................... 1,476 (2,334) (186)
--------- --------- ---------
Net increase (decrease) in loan portfolio................... $ 52,224 $ (3,367) $ (81,981)
========= ========= =========
Our customary sources of loan applications include repeat customers,
referrals from realtors and other professionals and "walk-in" customers. Our
residential loan originations are largely advertising driven. On the commercial
lending side, we have recently hired four experienced business development
officers who focus on commercial loan originations and we expect to further
increase staffing in this area.
We primarily originate our own loans and retain them in our portfolio.
As part of our loan growth strategy, we generally do not sell loans in the
secondary market and do not currently anticipate that we will commence doing so
in any large capacity. There were no whole loan sales during the three years
ended June 30, 2005 other than the sale of the student loan portfolio. Gross
loan originations totaled $161.0 million for the year ended June 30, 2005. Loan
originations exceeded principal repayments by approximately $49.2 million for
the fiscal year ended June 30, 2005.
During the years ended June 30, 2005, 2004 and 2003, we purchased $1.5
million, $14.3 million and $0 of one- to four-family mortgage loans. The
mortgage loans purchased during the year ended June 30, 2005 were adjustable
rate loans. The mortgage loans purchased during the year ended June 30, 2004
consisted mostly of fifteen and twenty year fixed rate loans with servicing
retained by the seller. All loans were purchased with recourse for a limited
period. In accordance with the terms of the loan purchase agreements, for loan
purchases in the years ended June 30, 2005 and 2004, any loan that became
delinquent for 60 days within six months from the date of purchase must be
repurchased by the seller, with a refund to the Bank of the unamortized portion
of the premium paid for that loan. As of June 30, 2005, the recourse period
expired for the purchases made in the year ended June 30, 2004.
In April 2005, the Bank entered into loan purchase agreements with two
mortgage companies, Millenium Home Mortgage Corporation of Parsippany, New
Jersey and Merit Financial Corporation of Montville, New Jersey. The agreement
with Millenium Home Mortgage Corporation calls for the
9
purchase, on a flow basis, of $20 million of adjustable rate and/or 10 or 15
year fixed rate mortgage loans. The Bank will retain servicing for these loans.
The agreement with Merit Financial Corporation calls for the purchase, on a flow
basis, of $20 million of adjustable rate and/or 10 or 15 year fixed rate
mortgage loans. The Bank will retain servicing for these loans. During the year
ended June 30, 2005, a total of $1.5 million adjustable rate loans were
purchased from these two companies.
In addition to purchasing one- to four-family loans, we also
occasionally purchase participations in loans originated by other banks and also
through the Thrift Institutions Community Investment Corporation of New Jersey
("TICIC"). At June 30, 2005, our TICIC participations included multi-family and
commercial real estate properties. The aggregate balance of TICIC participations
at June 30, 2005 was $9.4 million and the average balance on a single
participation was approximately $252,800. At June 30, 2005, we had a total of
six non-TICIC participations with an aggregate balance of $14.8 million,
consisting of loans on commercial real estate properties, including a medical
center, a self storage facility, a shopping plaza and commercial buildings with
a combination of retail and office space.
Loan Approval Procedures and Authority. Our lending policies and loan
approval limits are recommended by senior management and approved by the Board
of Directors. Our Senior Vice President/Chief Lending Officer may approve loans
up to $500,000. Assistant vice presidents of Kearny Federal Savings Bank in the
following positions may approve loans as follows: mortgage loan managers,
mortgage loans up to $250,000; consumer loan managers, consumer loans up to
$100,000; and consumer loan underwriters, consumer loans up to $50,000. In
addition to these principal amount limits, there are established limits for the
different levels of approval authority as to minimum credit scores and maximum
loan to value ratios and debt ratios. Members of the Loan Committee, comprised
of four senior officers, our President and Chief Executive Officer, Senior Vice
President/Chief Financial Officer, Senior Vice President/Treasurer and Senior
Vice President/Chief Lending Officer, each have individual authorization to
approve loans up to $500,000. Loans between $500,000 and $750,000 must be
approved by at least two members of the Loan Committee. Non-conforming mortgage
loans and loans over $750,000 require the approval of the Board of Directors.
Asset Quality
Loan Delinquencies and Collection Procedures. The borrower is notified
by both mail and telephone when a loan is thirty days past due. If the
delinquency continues, subsequent efforts are made to contact the delinquent
borrower and additional collection notices and letters are sent. When a loan is
ninety days delinquent, it is our general practice to refer it to an attorney
for repossession or foreclosure. All reasonable attempts are made to collect
from borrowers prior to referral to an attorney for collection. In certain
instances, we may modify the loan or grant a limited moratorium on loan payments
to enable the borrower to reorganize his or her financial affairs, and we
attempt to work with the borrower to establish a repayment schedule to cure the
delinquency.
As to mortgage loans, if a foreclosure action is taken and the loan is
not reinstated, paid in full or refinanced, the property is sold at judicial
sale at which we may be the buyer if there are no adequate offers to satisfy the
debt. Any property acquired as the result of foreclosure or by deed in lieu of
foreclosure is classified as real estate owned until it is sold or otherwise
disposed of. When real estate owned is acquired, it is recorded at the lower of
the unpaid principal balance of the related loan or its fair market value less
estimated selling costs. The initial writedown of the property is charged to the
allowance for loan losses. Adjustments to the carrying value of the properties
that result from subsequent declines in value are charged to operations in the
period in which the declines occur. At June 30, 2005, we held real estate owned
totaling $209,000, consisting of two parcels of vacant land.
10
Loans are reviewed on a regular basis and are placed on non-accrual
status when they are more than ninety days delinquent, with the exception of a
passbook loan, the outstanding balance of which is collected from the related
passbook account along with accrued interest and a penalty when the loan is 120
days delinquent. Loans may be placed on a non-accrual status at any time if, in
the opinion of management, the collection of additional interest is doubtful.
Interest accrued and unpaid at the time a loan is placed on non-accrual status
is charged against interest income. Subsequent payments are either applied to
the outstanding principal balance or recorded as interest income, depending on
the assessment of the ultimate collectibility of the loan. At June 30, 2005, we
had approximately $1.9 million of loans that were held on a non-accrual basis.
Non-Performing Assets. The following table provides information
regarding the Bank's non- performing loans and other non-performing assets. As
of each of the dates indicated, we did not have any troubled debt
restructurings. At June 30, 2005, the allowance for loan losses totaled $5.4
million, non- performing loans totaled $1.9 million, and the ratio of allowance
for loan losses to non-performing loans was 281.79%.
At June 30,
----------------------------------------------------------
2005 2004 2003 2002 2001
------ ------ ------ ------ ------
(Dollars in thousands)
Loans accounted for on a non-accrual basis:
Real estate mortgage - one-to-four family $ 846 $ 771 $1,571 $1,152 $1,957
Real estate mortgage - multi-family and
commercial.............................. 1,004 1,414 621 897 454
Commercial business........................ 31 39 - - -
Consumer:
Home equity loans....................... 20 65 178 91 92
Home equity lines of credit............. 17 - - - 13
Other................................... 4 - - 21 -
Construction............................... - - - - -
------ ------ ------ ------ ------
Total.................................. 1,922 2,289 2,370 2,161 2,516
------ ------ ------ ------ ------
Accruing loans which are contractually
past due 90 days or more:
Real estate mortgage - one-to-four family - - 423 427 -
Real estate mortgage - multi-family and
commercial.............................. - - - 168 381
Commercial business........................ - - 23 23 -
Consumer:
Home equity loans and lines of credit... - - - 1 -
Passbook or certificate................. - 39 98 - 49
Other................................... - - 2 39 55
Construction............................... - - - 469 218
------ ------ ------ ------ ------
Total.................................. - 39 546 1,127 703
------ ------ ------ ------ ------
Total non-performing loans................... $1,922 $2,328 $2,916 $3,288 $3,219
====== ====== ====== ====== ======
Real estate owned............................ $ 209 $ 209 $ 209 $ 209 $ 361
====== ====== ====== ====== ======
Other non-performing assets.................. $ - $ - $ - $ - $ -
====== ====== ====== ====== ======
Total non-performing assets.................. $2,131 $2,537 $3,125 $3,497 $3,580
====== ====== ====== ====== ======
Total non-performing loans to total loans.... 0.34% 0.46% 0.57% 0.55% 0.53%
====== ====== ====== ====== ======
Total non-performing loans to total assets... 0.09% 0.12% 0.15% 0.17% 0.18%
====== ====== ====== ====== ======
Total non-performing assets to total assets.. 0.10% 0.13% 0.16% 0.18% 0.20%
====== ====== ====== ====== ======
11
During the year ended June 30, 2005, gross interest income of $162,500
would have been recorded on loans accounted for on a non-accrual basis if those
loans had been current, and $68,500 of interest on such loans was included in
income for the year ended June 30, 2005.
Classified Assets. Management, in compliance with Office of Thrift
Supervision guidelines, has instituted an internal loan review program, whereby
non-performing loans are classified as substandard, doubtful or loss. It is our
policy to review the loan portfolio, in accordance with regulatory
classification procedures, on at least a quarterly basis. When a loan is
classified as substandard or doubtful, management is required to evaluate the
loan for impairment. When management classifies a portion of a loan as loss, a
reserve equal to 100% of the loss amount is required to be established or the
loan is to be charged-off.
An asset is considered "substandard" if it is inadequately protected by
the paying capacity and net worth of the obligor or the collateral pledged, if
any. Substandard assets include those characterized by the distinct possibility
that the insured institution will sustain some loss if the deficiencies are not
corrected. Assets classified as "doubtful" have all of the weaknesses inherent
in those classified substandard, with the added characteristic that the
weaknesses present make collection or liquidation in full highly questionable
and improbable, on the basis of currently existing facts, conditions, and
values. Assets, or portions thereof, classified as "loss" are considered
uncollectible and of so little value that their continuance as assets without
the establishment of a specific loss reserve is not warranted. Assets which do
not currently expose the insured institution to a sufficient degree of risk to
warrant classification in one of the aforementioned categories but which have
credit deficiencies or potential weaknesses are required to be designated
"special mention" by management.
Management's classification of assets is reviewed by the Board on a
regular basis and by the regulatory agencies as part of their examination
process. An independent loan review firm performs a review of our residential
and commercial loan portfolios, and we downgrade our classifications to match
those of this reviewing firm if there is disagreement between our assessment and
the independent assessment. The following table discloses our classification of
assets and designation of certain loans as special mention as of June 30, 2005.
At June 30, 2005, all of the classified assets and special mention designated
assets were loans, and approximately 36.5%, or $2.7 million, of the classified
and special mention loans at such date were loans originated through the Thrift
Institutions Community Investment Corporation of New Jersey ("TICIC").
At June 30,
-----------------------------------------
2005 2004 2003
---- ---- ----
(In thousands)
Special Mention.............. $3,161 $ 734 $1,011
Substandard.................. 2,343 6,264 5,129
Doubtful..................... 1,936 1,149 590
Loss......................... 6 - -
------ ------ ------
Total...................... $7,446 $8,147 $6,730
====== ====== ======
At June 30, 2005, none of the loans classified as "special mention" or
"substandard" are included under non-performing assets, as shown in the table on
page 12. At June 30, 2005, none of the loans classified as "doubtful" are
included under non-performing assets, as shown in the table on page 12.
Allowance for Loan Losses. The allowance for loan losses is a valuation
account that reflects our estimation of the losses in our loan portfolio to the
extent they are both probable and reasonable to estimate.
12
The allowance is maintained through provisions for loan losses that are charged
to income in the period they are established. We charge losses on loans against
the allowance for loan losses when we believe the collection of loan principal
is unlikely. Recoveries on loans previously charged-off are added back to the
allowance.
Management, in determining the allowance for loan losses, considers the
losses inherent in the loan portfolio and changes in the nature and volume of
our loan activities, along with general economic and real estate market
conditions. We utilize a two tier approach: (1) identification of impaired loans
and establishment of specific loss allowances on such loans; and (2)
establishment of general valuation allowances on the remainder of our loan
portfolio by type of loan.
A loan evaluated for impairment is deemed to be impaired when, based on
current information and events, it is probable that we will be unable to collect
all amounts due according to the contractual terms of the loan agreement. All
loans identified as impaired are evaluated independently. We do not aggregate
such loans for evaluation purposes. Payments received on impaired loans are
applied first to interest receivable and then to principal.
We maintain a loan review system which allows for a periodic review of
our loan portfolio and the early identification of potential impaired loans.
Such system takes into consideration, among other things, delinquency status,
size of loan, type of collateral and financial condition of the borrower. Large
groups of smaller balance homogeneous loans, such as residential real estate and
home equity and consumer loans, are evaluated in the aggregate using historical
loss factors and current economic conditions. Large balance and/or more complex
loans, such as multi-family and commercial real estate loans, are evaluated
individually for impairment.
Specific loan loss allowances are established for identified loans
based on a review of such information and/or appraisals of the underlying
collateral. General loan loss allowances are based upon a combination of factors
including, but not limited to, actual loan loss experience, composition of the
loan portfolio, current economic conditions and management's judgment.
The estimation of the allowance for loan losses is inherently
subjective as it requires estimates and assumptions that are susceptible to
significant revisions as more information becomes available or as future events
change. Future additions to the allowance for loan losses may be necessary if
economic and other conditions in the future differ substantially from the
current operating environment. In addition, the Office of Thrift Supervision, as
an integral part of its examination process, periodically reviews our loan and
foreclosed real estate portfolios and the related allowance for loan losses and
valuation allowance for foreclosed real estate. The Office of Thrift Supervision
may require the allowance for loan losses or the valuation allowance for
foreclosed real estate to be increased based on its review of information
available at the time of the examination, which would negatively affect our
earnings.
13
The following table sets forth information with respect to the
allowance for loan losses at the dates indicated.
For the Year Ended June 30,
------------------------------------------------------
2005 2004 2003 2002 2001
-------- -------- -------- -------- --------
Allowance balance (at beginning of period)...............$ 5,144 $ 5,180 $ 5,170 $ 5,167 $ 5,093
-------- -------- -------- -------- --------
Provision for loan losses................................ 68 - - 3 162
-------- -------- -------- -------- --------
Charge-offs:
Real estate mortgage - one-to-four family.............. - 12 - - 96
Commercial business.................................... 5 24 - - -
Other.................................................. 4 - - - -
-------- -------- -------- -------- --------
Total charge-offs.................................. 9 36 - - 96
-------- -------- -------- -------- --------
Recoveries:
Real estate mortgage - one-to-four family.............. 213 - 10 - 8
-------- -------- -------- -------- --------
Total recoveries................................... 213 - 10 - 8
-------- -------- -------- -------- --------
Net (charge-offs) recoveries............................. 204 (36) 10 - (88)
-------- -------- -------- -------- --------
Allowance balance (at end of period).....................$ 5,416 $ 5,144 $ 5,180 $ 5,170 $ 5,167
======== ======== ======== ======== ========
Total loans outstanding..................................$562,619 $510,180 $512,414 $594,209 $605,560
======== ======== ======== ======== ========
Average loans outstanding................................$517,746 $499,510 $546,521 $603,131 $612,474
======== ======== ======== ======== ========
Allowance for loan losses as a percent of total loans
outstanding........................................... 0.96% 1.01% 1.01% 0.87% 0.85%
======== ======== ======== ======== ========
Net loans charged off as a percent of average loans
outstanding........................................... 0.00% 0.01% 0.00% 0.00% 0.01%
======== ======== ======== ======== ========
Allowance for loan losses to non-performing loans........ 281.79% 220.96% 177.64% 157.24% 160.52%
======== ======== ======== ======== ========
14
Allocation of Allowance for Loan Losses. The following table sets forth
the allocation of the allowance for loan losses by loan category and the percent
of loans in each category to total loans receivable, net, at the dates
indicated. The portion of the loan loss allowance allocated to each loan
category does not represent the total available for future losses which may
occur within the loan category since the total loan loss allowance is a
valuation reserve applicable to the entire loan portfolio.
At June 30,
---------------------------------------------------------------------------------------------
2005 2004 2003 2002 2001
----------------- ---------------- ----------------- ----------------- ----------------
Percent Percent Percent Percent Percent
of Loans of Loans of Loans of Loans of Loans
to Total to Total to Total to Total to Total
Amount Loans Amount Loans Amount Loans Amount Loans Amount Loans
------ ----- ------ ----- ------ ----- ------ ----- ------ -----
(Dollars in thousands)
At end of period
allocated to:
Real estate mortgage -
one-to-four family....... $1,514 68.04% $1,422 70.22% $1,980 71.50% $2,966 77.24% $2,944 77.42%
Real estate mortgage -
multi-family and
commercial............... 3,368 17.18 3,358 16.35 2,198 13.88 1,184 10.00 725 9.42
Commercial business......... 50 0.52 57 1.01 59 0.46 70 1.13 78 0.71
Consumer:
Home equity loans......... 182 9.63 131 7.33 214 7.28 188 6.19 207 6.52
Home equity lines
of credit.............. 47 2.64 52 3.07 218 3.89 261 3.23 169 2.09
Passbook or certificate... - 0.50 - 0.54 - 0.56 - 0.51 - 0.59
Other..................... 120 0.05 4 0.07 10 0.25 17 0.18 11 0.23
Construction................ 135 1.44 120 1.41 501 2.18 484 1.52 1,033 3.02
------ ------ ------ ------ ------ ------ ------ ------ ------ ------
Total allowance........ $5,416 100.00% $5,144 100.00% $5,180 100.00% $5,170 100.00% $5,167 100.00%
====== ====== ====== ====== ====== ====== ====== ====== ====== ======
15
Securities Portfolio
General. Our deposits have traditionally exceeded our loan
originations, and we have invested these deposits primarily in mortgage-backed
securities and investment securities. Our mortgage-backed securities and
investment securities comprised 59.9% of our total assets at June 30, 2005. We
intend to increase the balance of our loan portfolio relative to the size of our
securities portfolio, however, such a change will take time and in the near
future, our assets will continue to be primarily in securities.
Our investment policy, which is approved by the Board of Directors, is
designed to foster earnings and manage cash flows within prudent interest rate
risk and credit risk guidelines. Generally, our investment policy is to invest
funds in various categories of securities and maturities based upon our
liquidity needs, asset/liability management policies, investment quality,
marketability and performance objectives. Our President and Chief Executive
Officer, Senior Vice President and Chief Financial Officer and Senior Vice
President, Treasurer and Chief Accounting Officer are designated by the Board of
Directors as the officers responsible for securities investment transactions and
all transactions require the approval of at least two of these designated
officers. The Interest Rate Risk Management Committee, currently composed of
Directors Hopkins, Regan, Aanensen, Mazza and Parow, with our Senior Vice
President and Chief Financial Officer participating as a management liaison, is
responsible for the administration of the securities portfolio. This committee
meets quarterly to review the securities portfolio. The results of the
committee's quarterly review are reported to the full Board, which makes
adjustments to the investment policy and strategies as it considers necessary
and appropriate.
All of our securities carry market risk insofar as increases in market
rates of interest may cause a decrease in their market value. Investments in
securities are made based on certain considerations, which include the interest
rate, tax considerations, volatility, yield, settlement date and maturity of the
security, our liquidity position, and anticipated cash needs and sources. The
effect that the proposed security would have on our credit and interest rate
risk and risk-based capital is also considered.
Federally chartered savings banks have the authority to invest in
various types of liquid assets. The investments authorized under the investment
policy approved by our Board of Directors include U.S. government and government
agency obligations, municipal securities (consisting of bank qualified municipal
bond obligations of state and local governments) and mortgage-backed securities
of various U.S. government agencies or government-sponsored entities. On a
short-term basis, our investment policy authorizes investment in securities
purchased under agreements to resell, federal funds, certificates of deposits of
insured banks and savings institutions and Federal Home Loan Bank term deposits.
Statement of Financial Accounting Standards No. 115, "Accounting for
Certain Investments in Debt and Equity Securities," requires that securities be
categorized as "held to maturity," "trading securities" or "available for sale,"
based on management's intent as to the ultimate disposition of each security.
Statement No. 115 allows debt securities to be classified as "held to maturity"
and reported in financial statements at amortized cost only if the reporting
entity has the positive intent and ability to hold these securities to maturity.
Securities that might be sold in response to changes in market interest rates,
changes in the security's prepayment risk, increases in loan demand, or other
similar factors cannot be classified as "held to maturity."
We do not currently use or maintain a trading account. Securities not
classified as "held to maturity" are classified as "available for sale." These
securities are reported at fair value, and unrealized gains and losses on the
securities are excluded from earnings and reported, net of deferred taxes, as a
separate component of equity.
16
At June 30, 2005, our mortgage-backed securities portfolio included
securities issued by the Government National Mortgage Association, the Federal
Home Loan Mortgage Corporation and the Federal National Mortgage Association,
and our investment securities portfolio included U.S. government obligations and
obligations of states and political subdivisions.
At June 30, 2005, we also held the following securities: shares of
common stock of the Federal Home Loan Mortgage Corporation with a carrying value
of $8.6 million; mutual fund shares issued by Dryden Government Income Fund,
Inc. and AMF Adjustable Mortgage Rate Fund with an aggregate carrying value of
$14.1 million; and trust preferred securities with an aggregate carrying value
of $10.9 million. Currently, our policy does not permit new investments in
corporate equity securities beyond what we currently hold, and we do not invest
in mortgage-related securities of private corporate issuers that are not issued
by U.S. government agencies or government-sponsored entities.
At June 30, 2005 our securities portfolio contained mortgage-backed
securities issued by the Federal Home Loan Mortgage Corporation with an
aggregate book value in excess of 10% of our equity. The aggregate book value at
June 30, 2005 of mortgage-backed securities in our portfolio issued by the
Federal National Mortgage Association also exceeded 10% of our equity. The
aggregate book value and aggregate market value for mortgage-backed securities
issued by the Federal Home Loan Mortgage Corporation that we held at June 30,
2005 totaled $305.1 million and $305.8 million, respectively. The aggregate book
value and aggregate market value for mortgage-backed securities issued by the
Federal National Mortgage Association that we held at June 30, 2005 totaled
$389.7 million and $391.9 million, respectively. At June 30, 2005, all of the
securities we hold issued by the Federal Home Loan Mortgage Corporation and the
Federal National Mortgage Association were classified as held to maturity. Other
than securities issued by the U.S. government or its agencies, at June 30, 2005
we did not hold securities of any other issuer having an aggregate book value in
excess of 10% of our equity.
We do not currently participate in hedging programs, interest rate
caps, floors or swaps, or other activities involving the use of off-balance
sheet derivative financial instruments. Further, we do not purchase securities
which are not rated investment grade.
Actual maturities of the securities held by us may differ from
contractual maturities because issuers may have the right to call or prepay
obligations with or without prepayment penalties. At June 30, 2005, we had
$379.5 million of callable securities in our portfolio.
Mortgage-backed Securities. We invest in mortgage-backed securities
issued by U.S. government agencies or government-sponsored entities, such as
Government National Mortgage Association, the Federal Home Loan Mortgage
Corporation and the Federal National Mortgage Association. Mortgage- backed
securities are pass-through securities typically issued with stated principal
amounts, and the securities are backed by pools of mortgages that have loans
with interest rates that are within a specific range and have varying
maturities. The life of a mortgage-backed security thus approximates the life of
the underlying mortgages. We focus primarily on mortgage-backed securities
secured by one- to four- family mortgages. The mortgage originators use
intermediaries (generally government agencies and government-sponsored
enterprises, but also a variety of private corporate issuers) to pool and
repackage the participation interests in the form of securities, with investors
such as us receiving the principal and interest payments on the mortgages. The
characteristics of the underlying pool of mortgages, i.e., fixed- rate or
adjustable-rate, as well as prepayment risk, are passed on to the certificate
holder. Mortgage-backed securities are generally referred to as mortgage
participation certificates or pass-through certificates.
17
We do not currently invest in mortgage-backed securities of private
issuers or collateralized mortgage obligations. Securities issued or sponsored
by U.S. government agencies and government- sponsored entities are guaranteed as
to the payment of principal and interest to investors. Mortgage-backed
securities generally yield less than the mortgage loans underlying such
securities as a result of their payment guarantees or credit enhancements which
offer nominal credit risk to the security holder.
The following table sets forth the carrying value of our securities
portfolio at the dates indicated.
At June 30,
-----------------------------------------------------------------------------
2005 2004 2003 2002 2001
---------- ---------- ---------- ---------- --------
(In thousands)
Securities Available for Sale:
------------------------------
Mutual funds.................................... $ 14,140 $ 13,899 $ 14,196 $ 13,682 $ 13,203
Common stock.................................... 8,551 15,894 12,748 15,367 17,576
U.S. government obligations..................... - - - - 980
Trust preferred securities due
after ten years............................. 10,900 11,771 10,896 10,630 10,608
---------- ---------- ---------- ---------- --------
Total securities available for sale....... 33,591 41,564 37,840 39,679 42,367
---------- ---------- ---------- ---------- --------
Investment Securities Held to Maturity:
---------------------------------------
U.S. government obligations..................... 265,469 274,401 169,968 60,225 145,080
Obligations of states and political
subdivisions................................ 204,629 161,469 117,353 79,221 48,875
---------- ---------- ---------- ---------- --------
Total investment securities
held to maturity..................... 470,098 435,870 287,321 139,446 193,955
---------- ---------- ---------- ---------- --------
Mortgage-Backed Securities Held to Maturity:
--------------------------------------------
Government National Mortgage Association........ 63,399 94,499 150,699 178,220 198,528
Federal Home Loan Mortgage Corporation.......... 305,059 314,221 197,962 302,246 218,116
Federal National Mortgage Association........... 389,663 362,633 331,061 454,552 215,330
Collateralized mortgage obligations
issued by U.S. government agencies.......... - - 1,894 33,494 56,999
Other........................................... - - 3 4 231
---------- ---------- ---------- ---------- --------
Total mortgage-backed securities
held to maturity...................... 758,121 771,353 681,619 968,516 689,204
---------- ---------- ---------- ---------- --------
Total.......................................... $1,261,810 $1,248,787 $1,006,780 $1,147,641 $925,526
========== ========== ========== ========== ========
18
The following table sets forth certain information regarding the
carrying values, weighted average yields and maturities of our securities
portfolio at June 30, 2005. This table shows contractual maturities and does not
reflect repricing or the effect of prepayments. Actual maturities may differ.
At June 30, 2005
--------------------------------------------------------------------------------------------------------
More than Total
One Year or Less One to Five Years Five to Ten Years Ten Years Investment Securities
---------------- ----------------- ----------------- ------------------ ----------------------------
Carrying Average Carrying Average Carrying Average Carrying Average Carrying Average Market
Value Yield Value Yield Value Yield Value Yield Value Yield Value
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
(Dollars in thousands)
Mutual funds........ $14,140 3.72% $ - -% $ - -% $ - -% $ 14,140 3.72% $ 14,140
Common stock........ 8,551 2.15 - - - - - - 8,551 2.15 8,551
Trust preferred
securities
due after
ten years......... - - - - - - 10,900 5.20 10,900 5.20 10,900
U.S. government
obligations....... 17,000 2.02 235,019 3.24 494 10.59 12,956 3.35 265,469 3.18 261,225
Obligations of
states and
political
subdivisions...... 4,202 4.25 16,139 3.35 99,841 3.77 84,447 3.88 204,629 3.79 207,996
Government
National
Mortgage
Association....... 3 8.31 771 7.78 619 11.54 62,006 4.73 63,399 4.83 64,970
Federal Home
Loan Mortgage
Corporation....... 99 7.22 2,560 5.62 2,000 4.86 300,400 4.67 305,059 4.68 305,812
Federal
National
Mortgage
Association....... 19,396 4.48 3,436 4.94 16,341 5.77 350,490 4.74 389,663 4.77 391,948
------- -------- -------- -------- ---------- ----------
Total............. $63,391 3.33% $257,925 3.31% $119,295 4.13% $821,199 4.61% $1,261,810 4.23% $1,265,542
======= ==== ======== ==== ======== ==== ======== ==== ========== ==== ==========
19
Sources of Funds
General. Deposits are our major source of funds for lending and other
investment purposes. In addition, we derive funds from loan and mortgage-backed
securities principal repayments, and proceeds from the maturity and call of
investment securities. Loan and securities payments are a relatively stable
source of funds, while deposit inflows are significantly influenced by general
interest rates and money market conditions. Borrowings (principally from the
Federal Home Loan Bank) are also used to supplement the amount of funds for
lending and investment.
Deposits. Our current deposit products include checking and savings
accounts, certificates of deposit accounts ranging in terms from thirty days to
five years, and individual retirement accounts. Deposit account terms vary,
primarily as to the required minimum balance amount, the amount of time that the
funds must remain on deposit and the applicable interest rate.
Deposits are obtained primarily from within New Jersey. Traditional
methods of advertising are used to attract new customers and deposits, including
radio, print media, direct mail and inserts included with customer statements.
We do not utilize the services of deposit brokers. Premiums or incentives for
opening accounts are sometimes offered. We periodically select particular
certificate of deposit maturities for promotion. We may also offer a twenty-five
basis point premium on certificate accounts with a term of at least one year to
certificate of deposit account holders that have $200,000 or more on deposit
with Kearny Federal Savings Bank. We also offer the opportunity one time during
the term of the certificate to "bump up" the rate paid on all 17-month and
29-month certificates of deposit from the rate set on such certificate to the
current rate being offering by Kearny Federal Savings Bank on certificates of
that particular maturity.
The determination of interest rates is based upon a number of factors,
including: (1) our need for funds based on loan demand, current maturities of
deposits and other cash flow needs; (2) a current survey of a selected group of
competitors' rates for similar products; (3) our current cost of funds, yield on
assets and asset/liability position; and (4) the alternate cost of funds on a
wholesale basis, in particular the cost of advances from the Federal Home Loan
Bank. Interest rates are reviewed by senior management on a weekly basis and
rates are set generally with the intent to be in the top five to ten percent of
the competition.
A large percentage of our deposits are in certificates of deposit,
which totaled 60.4% of total deposits at June 30, 2005. Our liquidity could be
reduced if a significant amount of certificates of deposit maturing within a
short period of time were not renewed. Historically, a significant portion of
the certificates of deposit remain with us after they mature and we believe that
this will continue. At June 30, 2005, $209.6 million, or 22.7%, of our
certificates of deposit were "jumbo" certificates of $100,000 or more. Deposit
inflows are significantly influenced by general interest rates and money market
conditions. The inflow of jumbo certificates of deposit and the retention of
such deposits upon maturity are particularly sensitive to general interest rates
and money market conditions, making jumbo certificates of deposit traditionally
a more volatile source of funding than core deposits. In order to retain jumbo
certificates of deposit, we may have to pay a premium rate, resulting in an
increase in our cost of funds. In a rising rate environment, we may be unwilling
or unable to pay a competitive rate. To the extent that such deposits do not
remain with us, they may need to be replaced with borrowings which could
increase our cost of funds and negatively impact our interest rate spread and
our financial condition.
20
The following tables set forth the distribution of average deposits for
the periods indicated and the weighted average nominal interest rates for each
period on each category of deposits presented.
For the Year Ended June 30,
----------------------------------------------------------------------------------------------
2005 2004 2003
--------------------------------- --------------------------- ----------------------------
Weighted Weighted Weighted
Percent Average Percent Average Percent Average
of Total Nominal of Total Nominal of Total Nominal
Amount Deposits Rate Amount Deposits Rate Amount Deposits Rate
------ -------- ---- ------ -------- ---- ------ -------- ----
(Dollars in thousands)
Non-interest-bearing demand.... $ 55,112 3.52% -% $ 49,797 3.17% -% $ 45,431 2.90% -%
Interest-bearing demand........ 105,503 6.73 0.71 109,830 6.99 0.80 98,926 6.32 1.09
Savings and club............... 533,131 34.01 1.02 448,509 28.55 1.23 417,780 26.71 1.58
Certificates of deposit........ 873,907 55.74 2.33 963,089 61.29 2.25 1,002,229 64.07 3.22
---------- ------ ---------- ------ ---------- -----
Total deposits.............. $1,567,653 100.00% 1.69% $1,571,225 100.00% 1.79% $1,564,366 100.00% 2.55%
========== ====== ========== ====== ========== ======
21
The following table sets forth certificates of deposit classified by
interest rate as of the dates indicated.
At June 30,
-----------------------------------------
2005 2004 2003
-------- -------- ----------
(In thousands)
Interest Rate
0.00-1.99%................... $189,266 $582,665 $ 510,306
2.00-2.99%................... 343,916 173,505 175,775
3.00-3.99%................... 349,320 100,138 146,170
4.00-4.99%................... 32,750 25,956 145,290
5.00-5.99%................... 7,223 11,957 25,724
6.00-6.99%................... 641 2,716 7,504
7.00-7.99%................... - 82 249
-------- -------- ----------
Total...................... $923,116 $897,019 $1,011,018
======== ======== ==========
The following table sets forth the amount and maturities of
certificates of deposit at June 30, 2005.
Amount Due
--------------------------------------------------------------------------------
Within After
Interest Rate 1 year 1-2 years 2-3 years 3-4 years 4-5 years 5 years Total
------------- ------ --------- --------- --------- --------- ------- -----
(In thousands)
0.00-1.99%........ $189,155 $ 8 $ - $ - $ - $103 $189,266
2.00-2.99%........ 292,207 51,437 268 4 - - 343,916
3.00-3.99%........ 213,658 89,087 35,112 9,191 2,271 1 349,320
4.00-4.99%........ 2,723 5,221 6,802 172 17,748 84 32,750
5.00-5.99%........ 3,326 2,804 1,093 - - - 7,223
6.00-6.99%........ 641 - - - - - 641
7.00-7.99%........ - - - - - - -
-------- -------- ------- ------ ------- ---- --------
Total........... $701,710 $148,557 $43,275 $9,367 $20,019 $188 $923,116
======== ======== ======= ====== ======= ==== ========
The following tables show the amount of certificates of deposit of
$100,000 or more by time remaining until maturity as of the dates indicated.
At June 30, 2005
----------------
(In thousands)
Maturity Period
Within three months................................... $ 46,047
Three through six months.............................. 23,735
Six through twelve months............................. 88,153
Over twelve months.................................... 51,617
--------
$209,552
========
Borrowings. To supplement our deposits as a source of funds for lending
or investment, we borrow funds in the form of advances from the Federal Home
Loan Bank. We make use of Federal Home Loan Bank advances as part of our
interest rate risk management, primarily to extend the duration of funding to
match the longer term fixed rate loans held in the loan portfolio as part of our
growth strategy.
22
Advances from the Federal Home Loan Bank are typically secured by the
Federal Home Loan Bank stock we own and a portion of our residential mortgage
loans and may be secured by other assets, mainly securities which are
obligations of or guaranteed by the U.S. government. Additional information
regarding our Federal Home Loan Bank advances is included under Note 12 to the
Company's consolidated financial statements.
Short-term Federal Home Loan Bank advances generally have original
maturities of less than one year. The details of these short-term advances are
presented below for the dates and periods indicated.
At or For the
Year Ended June 30,
------------------------------
2005 2004 2003
------- ------- -------
(Dollars in thousands)
Federal Home Loan Bank Advances:
Average balance outstanding.................. $17,805 $ 1,151 $ 274
Maximum amount outstanding at any
month-end during the period............... $20,000 $30,000 $ -
Balance outstanding at end of period......... $ - $30,000 $ -
Weighted average interest rate during
the period................................ 2.24% 1.43% 1.37%
Weighted average interest rate at end
of period................................. -% 1.43% -%
At June 30, 2005, long-term Federal Home Loan Bank advances totaled
$61.7 million. Advances consist of fixed-rate advances that will mature within
one to seven years. The advances are collateralized by Federal Home Loan Bank
stock and certain first mortgage loans and mortgage-backed securities. These
advances had a weighted average interest rate of 5.47% at June 30, 2005. Unused
overnight lines of credit at the Federal Home Loan Bank at June 30, 2005 were
$100.0 million.
As of June 30, 2005, long-term advances mature as follows:
Twelve Months Ending June 30, (In thousands)
-----------------------------
2006...................................... $ 582
2007...................................... 5,618
2008...................................... 37,487
2009...................................... 8,000
2010...................................... -
Thereafter................................ 10,000
-------
Total.............................. $61,687
=======
Subsidiary Activity
Kearny Financial Corp. has two wholly-owned subsidiaries: Kearny
Federal Savings Bank and Kearny Financial Securities, Inc. Kearny Federal
Savings Bank has two subsidiaries: KFS Financial Services, Inc. and Kearny
Federal Investment Corp.
23
KFS Financial Services, Inc. was incorporated as a New Jersey
corporation in 1994 under the name of South Bergen Financial Services, Inc., was
acquired in Kearny's merger with South Bergen Savings Bank in 1999 and was
renamed KFS Financial Services, Inc. in 2000. It is a service corporation
subsidiary organized for the purpose of selling insurance products, including
annuities, to bank customers and the general public through a third party
networking arrangement. KFS Financial Services, Inc. is not a licensed insurance
agency, and it may only offer insurance products through an agreement with a
licensed insurance agency. KFS Financial Services, Inc. has entered into an
agreement with Savings Bank Life Insurance of Massachusetts, a licensed
insurance agency, through which it offers insurance products.
Kearny Federal Investment Corp. was organized in June 2004 under New
Jersey law as a New Jersey investment company primarily to hold investment
securities. At June 30, 2005, it held assets totaling $555.6 million.
Personnel
As of June 30, 2005, we had 262 full-time employees and 22 part-time
employees. The employees are not represented by a collective bargaining unit. We
believe our relationship with our employees is good.
Regulation
The Bank and the Company operate in a highly regulated industry. This
regulation establishes a comprehensive framework of activities in which a
savings and loan holding company and federal savings bank may engage and is
intended primarily for the protection of the deposit insurance fund and
depositors. Set forth below is a brief description of certain laws that relate
to the regulation of the Bank and the Company. The description does not purport
to be complete and is qualified in its entirety by reference to applicable laws
and regulations.
Regulatory authorities have extensive discretion in connection with
their supervisory and enforcement activities, including the imposition of
restrictions on the operation of an institution and its holding company, the
classification of assets by the institution and the adequacy of an institution's
allowance for loan losses. Any change in such regulation and oversight, whether
in the form of regulatory policy, regulations, or legislation, including changes
in the regulations governing mutual holding companies, could have a material
adverse impact on the Company, the Bank, and their operations. The adoption of
regulations or the enactment of laws that restrict the operations of the Bank
and/or the Company or impose burdensome requirements upon one or both of them
could reduce their profitability and could impair the value of the Bank's
franchise, resulting in negative effects on the trading price of the Company's
common stock.
Regulation of the Bank
General. As a federally chartered, Federal Deposit Insurance
Corporation-insured savings bank, the Bank is subject to extensive regulation by
the Office of Thrift Supervision and the Federal Deposit Insurance Corporation.
This regulatory structure gives the regulatory authorities extensive discretion
in connection with their supervisory and enforcement activities and examination
policies, including policies regarding the classification of assets and the
level of the allowance for loan losses. The activities of federal savings banks
are subject to extensive regulation including restrictions or requirements with
respect to loans to one borrower, the percentage of non-mortgage loans or
investments to total assets, capital distributions, permissible investments and
lending activities, liquidity, transactions with affiliates and community
24
reinvestment. Federal savings banks are also subject to reserve requirements
imposed by the Federal Reserve System. A federal savings bank's relationship
with its depositors and borrowers is regulated by both state and federal law,
especially in such matters as the ownership of savings accounts and the form and
content of the bank's mortgage documents.
The Bank must file reports with the Office of Thrift Supervision
concerning its activities and financial condition, and must obtain regulatory
approvals prior to entering into certain transactions such as mergers with or
acquisitions of other financial institutions. The Office of Thrift Supervision
regularly examines the Bank and prepares reports to the Bank's Board of
Directors on deficiencies, if any, found in its operations. The Office of Thrift
Supervision has substantial discretion to impose enforcement action on an
institution that fails to comply with applicable regulatory requirements,
particularly with respect to its capital requirements. In addition, the Federal
Deposit Insurance Corporation has the authority to recommend to the Director of
the Office of Thrift Supervision that enforcement action be taken with respect
to a particular federally chartered savings bank and, if action is not taken by
the Director, the Federal Deposit Insurance Corporation has authority to take
such action under certain circumstances.
Insurance of Deposit Accounts. The Federal Deposit Insurance
Corporation administers two separate deposit insurance funds. Generally, the
Bank Insurance Fund insures the deposits of commercial banks and the Savings
Association Insurance Fund insures the deposits of savings institutions. The
Bank's deposits are insured by the Savings Association Insurance Fund. The
Federal Deposit Insurance Corporation is authorized to increase deposit
insurance premiums if it determines such increases are appropriate to maintain
the reserves of either the Bank Insurance Fund or the Savings Association
Insurance Fund or to fund the administration of the Federal Deposit Insurance
Corporation. In addition, the Federal Deposit Insurance Corporation is
authorized to levy emergency special assessments on Bank Insurance Fund and
Savings Association Insurance Fund members. The Federal Deposit Insurance
Corporation maintains a risk-based assessment system by which institutions are
assigned to one of three categories based on their capitalization and one of
three subcategories based on examination ratings and other supervisory
information. An institution's assessment rate depends upon the categories to
which it is assigned. Assessment rates are determined semi-annually by the
Federal Deposit Insurance Corporation and currently range from zero basis points
of assessable deposits for the healthiest institutions to 27 basis points of
assessable deposits for the riskiest. The assessment rate for the Bank is
currently 0%.
The Federal Deposit Insurance Corporation has authority to increase
insurance assessments. A material increase in Savings Association Insurance Fund
insurance premiums would likely have an adverse effect on the operating expenses
and results of operations of the Bank. Management cannot predict what insurance
assessment rates will be in the future.
The Federal Deposit Insurance Corporation may terminate an
institution's deposit insurance upon a finding that the institution has engaged
in unsafe or unsound practices, is in an unsafe or unsound condition to continue
operations or has violated any applicable law, regulation, rule, order or
condition imposed by the Federal Deposit Insurance Corporation or the Office of
Thrift Supervision. The management of the Bank does not know of any practice,
condition or violation that might lead to termination of deposit insurance.
In addition, all Federal Deposit Insurance Corporation-insured
institutions are required to pay assessments to the Federal Deposit Insurance
Corporation to fund interest payments on bonds issued by the Financing
Corporation, an agency of the federal government established to recapitalize the
predecessor to the Savings Association Insurance Fund. These assessments will
continue until the Financing Corporation bonds mature in 2017.
25
Regulatory Capital Requirements. Office of Thrift Supervision capital
regulations require savings institutions to meet three minimum capital
standards: (1) tangible capital equal to 1.5% of total adjusted assets, (2)
"Tier 1" or "core" capital equal to at least 4% (3% if the institution has
received the highest possible rating on its most recent examination) of total
adjusted assets, and (3) risk-based capital equal to 8% of total risk-weighted
assets. At June 30, 2005, the Bank was in compliance with the minimum capital
standards and qualified as "well capitalized." For the Bank's compliance with
these regulatory capital standards, see Note 14 to the Company's consolidated
financial statements. In assessing an institution's capital adequacy, the Office
of Thrift Supervision takes into consideration not only these numeric factors
but also qualitative factors as well, and has the authority to establish higher
capital requirements for individual institutions where necessary.
In addition, the Office of Thrift Supervision may require that a
savings institution that has a risk- based capital ratio of less than 8%, a
ratio of Tier 1 capital to risk-weighted assets of less than 4% or a ratio of
Tier 1 capital to total adjusted assets of less than 4% (3% if the institution
has received the highest rating on its most recent examination) take certain
action to increase its capital ratios. If the savings institution's capital is
significantly below the minimum required levels of capital or if it is
unsuccessful in increasing its capital ratios, the Office of Thrift Supervision
may restrict its activities.
For purposes of the Office of Thrift Supervision capital regulations,
tangible capital is defined as core capital less all intangible assets except
for certain mortgage servicing rights. Tier 1 or core capital is defined as
common stockholders' equity, non-cumulative perpetual preferred stock and
related surplus, minority interests in the equity accounts of consolidated
subsidiaries, and certain non-withdrawable accounts and pledged deposits of
mutual savings banks. The Bank does not have any non-withdrawable accounts or
pledged deposits. Tier 1 and core capital are reduced by an institution's
intangible assets, with limited exceptions for certain mortgage and non-mortgage
servicing rights and purchased credit card relationships. Both core and tangible
capital are further reduced by an amount equal to the savings institution's debt
and equity investments in "non-includable" subsidiaries engaged in activities
not permissible for national banks other than subsidiaries engaged in activities
undertaken as agent for customers or in mortgage banking activities and
subsidiary depository institutions or their holding companies.
The risk-based capital standard for savings institutions requires the
maintenance of total capital of 8% of risk-weighted assets. Total capital equals
the sum of core and supplementary capital. The components of supplementary
capital include, among other items, cumulative perpetual preferred stock,
perpetual subordinated debt, mandatory convertible subordinated debt,
intermediate-term preferred stock, the portion of the allowance for loan losses
not designated for specific loan losses and up to 45% of unrealized gains on
equity securities. The portion of the allowance for loan and lease losses
includable in supplementary capital is limited to a maximum of 1.25% of
risk-weighted assets. Overall, supplementary capital is limited to 100% of core
capital. For purposes of determining total capital, a savings institution's
assets are reduced by the amount of capital instruments held by other depository
institutions pursuant to reciprocal arrangements and by the amount of the
institution's equity investments (other than those deducted from core and
tangible capital) and its high loan-to-value ratio land loans and
non-residential construction loans.
A savings institution's risk-based capital requirement is measured
against risk-weighted assets, which equal the sum of each on-balance-sheet asset
and the credit-equivalent amount of each off-balance- sheet item after being
multiplied by an assigned risk weight. These risk weights range from 0% for cash
to 100% for delinquent loans, property acquired through foreclosure, commercial
loans, and certain other assets.
26
The Federal Deposit Insurance Corporation Improvement Act, or FDICIA,
requires that the Office of Thrift Supervision and other federal banking
agencies revise their risk-based capital standards, with appropriate transition
rules, to ensure that they take into account interest rate risk, or IRR,
concentration of risk and the risks of non-traditional activities. The Office of
Thrift Supervision adopted regulations, effective January 1, 1994, that set
forth the methodology for calculating an IRR component to be incorporated into
the Office of Thrift Supervision risk-based capital regulations. On May 10,
2002, the Office of Thrift Supervision adopted an amendment to its capital
regulations which eliminated the IRR component of the risk-based capital
requirement. Pursuant to the amendment, the Office of Thrift Supervision will
continue to monitor the IRR of individual institutions through the Office of
Thrift Supervision requirements for IRR management, the ability of the Office of
Thrift Supervision to impose individual minimum capital requirements on
institutions that exhibit a high degree of IRR, and the requirements of Thrift
Bulletin 13a, which provides guidance on the management of IRR and the
responsibility of boards of directors in that area.
The Office of Thrift Supervision continues to monitor the IRR of
individual institutions through analysis of the change in net portfolio value,
or NPV. NPV is defined as the net present value of the expected future cash
flows of an entity's assets and liabilities and, therefore, hypothetically
represents the value of an institution's net worth. The Office of Thrift
Supervision has also used this NPV analysis as part of its evaluation of certain
applications or notices submitted by thrift institutions. The Office of Thrift
Supervision, through its general oversight of the safety and soundness of
savings associations, retains the right to impose minimum capital requirements
on individual institutions to the extent the institution is not in compliance
with certain written guidelines established by the Office of Thrift Supervision
regarding NPV analysis. The Office of Thrift Supervision has not imposed any
such requirements on the Bank.
Dividend and Other Capital Distribution Limitations. The Office of
Thrift Supervision imposes various restrictions or requirements on the ability
of savings institutions to make capital distributions, including cash dividends.
A savings institution that is a subsidiary of a savings and loan
holding company, such as the Bank, must file an application or a notice with the
Office of Thrift Supervision at least thirty days before making a capital
distribution, such as paying a dividend to the Company. A savings institution
must file an application for prior approval of a capital distribution if: (i) it
is not eligible for expedited treatment under the applications processing rules
of the Office of Thrift Supervision; (ii) the total amount of all capital
distributions, including the proposed capital distribution, for the applicable
calendar year would exceed an amount equal to the savings institution's net
income for that year to date plus the institution's retained net income for the
preceding two years; (iii) it would not adequately be capitalized after the
capital distribution; or (iv) the distribution would violate an agreement with
the Office of Thrift Supervision or applicable regulations.
The Office of Thrift Supervision may disapprove a notice or deny an
application for a capital distribution if: (i) the savings institution would be
undercapitalized following the capital distribution; (ii) the proposed capital
distribution raises safety and soundness concerns; or (iii) the capital
distribution would violate a prohibition contained in any statute, regulation or
agreement. The Bank made a capital distribution to the Company to provide the
cash paid in connection with the acquisition of West Essex Bank, and as a result
it is likely that the Bank will be required to file an application, rather than
a notice, for any capital distributions for a period of time.
Capital distributions by the Company, as a savings and loan holding
company, are not subject to the Office of Thrift Supervision capital
distribution rules. Because the Company retained 50% of the net
27
proceeds of the stock offering completed in February 2005, the likelihood that
the Bank must file an application rather than a notice for capital distributions
is not expected to affect the payment of cash dividends by the Company to its
stockholders or the amount of such dividends.
Qualified Thrift Lender Test. Federal savings institutions must meet a
qualified thrift lender test or they become subject to the business activity
restrictions and branching rules applicable to national banks.
To qualify as a qualified thrift lender, a savings institution must either (i)
be deemed a "domestic building and loan association" under the Internal Revenue
Code by maintaining at least 60% of its total assets in specified types of
assets, including cash, certain government securities, loans secured by and
other assets related to residential real property, educational loans and
investments in premises of the institution or (ii) satisfy the statutory
qualified thrift lender test set forth in the Home Owners' Loan Act by
maintaining at least 65% of its portfolio assets in qualified thrift investments
(defined to include residential mortgages and related equity investments,
certain mortgage-related securities, small business loans, student loans and
credit card loans). For purposes of the statutory qualified thrift lender test,
portfolio assets are defined as total assets minus goodwill and other intangible
assets, the value of property used by the institution in conducting its
business, and specified liquid assets up to 20% of total assets. A savings
institution must maintain its status as a qualified thrift lender on a monthly
basis in at least nine out of every twelve months. The Bank met the qualified
thrift lender test as of June 30, 2005 and in each of the last twelve months
and, therefore, qualifies as a qualified thrift lender.
A savings bank that fails the qualified thrift lender test and does not
convert to a bank charter generally will be prohibited from: (1) engaging in any
new activity not permissible for a national bank, (2) paying dividends not
permissible under national bank regulations, and (3) establishing any new branch
office in a location not permissible for a national bank in the institution's
home state. In addition, if the institution does not requalify under the
qualified thrift lender test within three years after failing the test, the
institution would be prohibited from engaging in any activity not permissible
for a national bank and would have to repay any outstanding advances from the
Federal Home Loan Bank as promptly as possible.
Community Reinvestment Act. Under the Community Reinvestment Act, every
insured depository institution, including the Bank, has a continuing and
affirmative obligation consistent with its safe and sound operation to help meet
the credit needs of its entire community, including low and moderate income
neighborhoods. The Community Reinvestment Act does not establish specific
lending requirements or programs for financial institutions nor does it limit an
institution's discretion to develop the types of products and services that it
believes are best suited to its particular community. The Community Reinvestment
Act requires the Office of Thrift Supervision to assess the depository
institution's record of meeting the credit needs of its community and to take
such record into account in its evaluation of certain applications by such
institution, such as a merger or the establishment of a branch office by the
Bank. An unsatisfactory Community Reinvestment Act examination rating may be
used by the Office of Thrift Supervision as the basis for the denial of an
application. The Bank received a satisfactory Community Reinvestment Act rating
in its most recent Community Reinvestment Act examination by the Office of
Thrift Supervision.
Federal Home Loan Bank System. The Bank is a member of the Federal Home
Loan Bank of New York, which is one of twelve regional Federal Home Loan Banks.
Each Federal Home Loan Bank serves as a reserve or central bank for its members
within its assigned region. It is funded primarily from funds deposited by
financial institutions and proceeds derived from the sale of consolidated
obligations of the Federal Home Loan Bank System. It makes loans to members
pursuant to policies and procedures established by the board of directors of the
Federal Home Loan Bank.
28
As a member, the Bank is required to purchase and maintain stock in the
Federal Home Loan Bank of New York in an amount equal to the greater of 1% of
our aggregate unpaid residential mortgage loans, home purchase contracts or
similar obligations at the beginning of each year or 5% of our outstanding
Federal Home Loan Bank advances. The Bank is in compliance with this requirement
with an investment in Federal Home Loan Bank of New York stock at June 30, 2005
of $11.4 million. The Federal Home Loan Bank imposes various limitations on
advances such as limiting the amount of certain types of real estate related
collateral to 30% of a member's capital and limiting total advances to a member.
The Federal Home Loan Banks are required to provide funds for the
resolution of troubled savings institutions and to contribute to affordable
housing programs through direct loans or interest subsidies on advances targeted
for community investment and low- and moderate-income housing projects. These
contributions have adversely affected the level of Federal Home Loan Bank
dividends paid and could continue to do so in the future. In addition, these
requirements could result in the Federal Home Loan Banks imposing a higher rate
of interest on advances to their members.
Federal Reserve System. The Federal Reserve System requires all
depository institutions to maintain non-interest-bearing reserves at specified
levels against their checking accounts and non-personal certificate accounts. At
June 30, 2005, the Bank was in compliance with such requirements.
Savings institutions have authority to borrow from the Federal Reserve
System "discount window," but Federal Reserve System policy generally requires
savings institutions to exhaust all other sources before borrowing from the
Federal Reserve System.
The USA Patriot Act. The Bank is subject to Office of Thrift
Supervision regulations implementing the Uniting and Strengthening America by
Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act of
2001, or the USA Patriot Act. The USA Patriot Act gives the federal government
powers to address terrorist threats through enhanced domestic security measures,
expanded surveillance powers, increased information sharing and broadened
anti-money laundering requirements. By way of amendments to the Bank Secrecy
Act, Title III of the USA Patriot Act takes measures intended to encourage
information sharing among bank regulatory agencies and law enforcement bodies.
Further, certain provisions of Title III impose affirmative obligations on a
broad range of financial institutions, including banks, thrifts, brokers,
dealers, credit unions, money transfer agents and parties registered under the
Commodity Exchange Act. As of June 30, 2005, management of the Bank believes all
required actions to be taken by the Bank under the USA Patriot Act have been
completed.
Among other requirements, Title III of the USA Patriot Act and the
related regulations of the Office of Thrift Supervision impose the following
requirements with respect to financial institutions:
o Establishment of anti-money laundering programs that include, at
minimum: (i) internal policies, procedures, and controls; (ii) specific
designation of an anti-money laundering compliance officer; (iii)
ongoing employee training programs; and (iv) an independent audit
function to test the anti-money laundering program.
o Establishment of a program specifying procedures for obtaining
identifying information from customers seeking to open new accounts,
including verifying the identity of customers within a reasonable
period of time.
o Establishment of appropriate, specific, and, where necessary, enhanced
due diligence policies, procedures, and controls designed to detect and
report money laundering.
29
o Prohibitions on establishing, maintaining, administering or managing
correspondent accounts for foreign shell banks (foreign banks that do
not have a physical presence in any country), and compliance with
certain record keeping obligations with respect to correspondent
accounts of foreign banks.
Bank regulators are directed to consider a holding company's
effectiveness in combating money laundering when ruling on Federal Reserve Act
and Bank Merger Act applications.
Regulation of the Company
General. The Company is a savings and loan holding company within the
meaning of Section 10 of the Home Owners' Loan Act. It is required to file
reports with the Office of Thrift Supervision and is subject to regulation and
examination by the Office of Thrift Supervision. The Company must also obtain
regulatory approval from the Office of Thrift Supervision before engaging in
certain transactions, such as mergers with or acquisitions of other financial
institutions. In addition, the Office of Thrift Supervision has enforcement
authority over the Company and any non-savings institution subsidiaries. This
permits the Office of Thrift Supervision to restrict or prohibit activities that
it determines to be a serious risk to the Bank. This regulation is intended
primarily for the protection of the depositors and not for the benefit of
stockholders of the Company.
Sarbanes-Oxley Act of 2002. On July 30, 2002, the President signed into
law the Sarbanes-Oxley Act of 2002, or the Act, which implemented legislative
reforms intended to address corporate and accounting fraud. In addition to the
establishment of a new accounting oversight board that will enforce auditing,
quality control and independence standards and will be funded by fees from all
publicly traded companies, the Act places certain restrictions on the scope of
services that may be provided by accounting firms to their public company audit
clients. Any non-audit services being provided to a public company audit client
will require preapproval by the company's audit committee. In addition, the Act
makes certain changes to the requirements for partner rotation after a period of
time. The Act requires chief executive officers and chief financial officers, or
their equivalent, to certify to the accuracy of periodic reports filed with the
Securities and Exchange Commission, subject to civil and criminal penalties if
they knowingly or willingly violate this certification requirement. In addition,
under the Act, counsel will be required to report evidence of a material
violation of the securities laws or a breach of fiduciary duty by a company to
its chief executive officer or its chief legal officer, and, if such officer
does not appropriately respond, to report such evidence to the audit committee
or other similar committee of the board of directors or the board itself.
Under the Act, longer prison terms will apply to corporate executives
who violate federal securities laws; the period during which certain types of
suits can be brought against a company or its officers is extended; and bonuses
issued to top executives prior to restatement of a company's financial
statements are now subject to disgorgement if such restatement was due to
corporate misconduct. Executives are also prohibited from insider trading during
retirement plan "blackout" periods, and loans to company executives (other than
loans by financial institutions permitted by federal rules and regulations) are
restricted. In addition, a provision of the Act directs that civil penalties
levied by the Securities and Exchange Commission as a result of any judicial or
administrative action under the Act be deposited to a fund for the benefit of
harmed investors. The Federal Accounts for Investor Restitution provision also
requires the Securities and Exchange Commission to develop methods of improving
collection rates. The legislation accelerates the time frame for disclosures by
public companies, as they must immediately disclose any material changes in
their financial condition or operations. Directors and executive officers must
also
30
provide information for most changes in ownership in a company's securities
within two business days of the change.
The Act also increases the oversight of, and codifies certain
requirements relating to audit committees of public companies and how they
interact with the company's "registered public accounting firm." Audit committee
members must be independent and are absolutely barred from accepting consulting,
advisory or other compensatory fees from the issuer. In addition, companies must
disclose whether at least one member of the committee is a "financial expert"
(as such term is defined by the Securities and Exchange Commission) and if not,
why not. Under the Act, a company's registered public accounting firm is
prohibited from performing statutorily mandated audit services for a company if
such company's chief executive officer, chief financial officer, comptroller,
chief accounting officer or any person serving in equivalent positions had been
employed by such firm and participated in the audit of such company during the
one-year period preceding the audit initiation date. The Act also prohibits any
officer or director of a company or any other person acting under their
direction from taking any action to fraudulently influence, coerce, manipulate
or mislead any independent accountant engaged in the audit of the company's
financial statements for the purpose of rendering the financial statements
materially misleading. The Act also requires the Securities and Exchange
Commission to prescribe rules requiring inclusion of any internal control report
and assessment by management in the annual report to stockholders. The Act
requires the company's registered public accounting firm that issues the audit
report to attest to and report on management's assessment of the company's
internal controls.
Activities Restrictions. As a savings and loan holding company and as a
subsidiary holding company of a mutual holding company, the Company is subject
to statutory and regulatory restrictions on its business activities. The
non-banking activities of the Company and its non-savings institution
subsidiaries are restricted to certain activities specified by Office of Thrift
Supervision regulation, which include performing services and holding properties
used by a savings institution subsidiary, activities authorized for savings and
loan holding companies as of March 5, 1987, and non-banking activities
permissible for bank holding companies pursuant to the Bank Holding Company Act
of 1956 or authorized for financial holding companies pursuant to the
Gramm-Leach-Bliley Act. Before engaging in any non- banking activity or
acquiring a company engaged in any such activities, the Company must file with
the Office of Thrift Supervision either a prior notice or (in the case of
non-banking activities permissible for bank holding companies) an application
regarding its planned activity or acquisition.
Mergers and Acquisitions. The Company must obtain approval from the
Office of Thrift Supervision before acquiring, directly or indirectly, more than
5% of the voting stock of another savings institution or savings and loan
holding company or acquiring such an institution or holding company by merger,
consolidation or purchase of its assets. Federal law also prohibits a savings
and loan holding company from acquiring more than 5% of a company engaged in
activities other than those authorized for savings and loan holding companies by
federal law; or acquiring or retaining control of a depository institution that
is not insured by the Federal Deposit Insurance Corporation. In evaluating an
application for the Company to acquire control of a savings institution, the
Office of Thrift Supervision would consider the financial and managerial
resources and future prospects of the Company and the target institution, the
effect of the acquisition on the risk to the insurance funds, the convenience
and the needs of the community and competitive factors.
Waivers of Dividends by Kearny MHC (the "MHC"). Office of Thrift
Supervision regulations require the MHC to notify the Office of Thrift
Supervision of any proposed waiver of its receipt of dividends from the Company.
The Office of Thrift Supervision reviews dividend waiver notices on a
case-by-case basis, and, in general, does not object to any such waiver if: (i)
the mutual holding company's
31
board of directors determines that such waiver is consistent with such
directors' fiduciary duties to the mutual holding company's members; (ii) for as
long as the savings association subsidiary is controlled by the mutual holding
company, the dollar amount of dividends waived by the mutual holding company is
considered as a restriction on the retained earnings of the savings association,
which restriction, if material, is disclosed in the public financial statements
of the savings association as a note to the financial statements; (iii) the
amount of any dividend waived by the mutual holding company is available for
declaration as a dividend solely to the mutual holding company, and, in
accordance with Statement of Financial Accounting Standards No. 5, where the
savings association determines that the payment of such dividend to the mutual
holding company is probable, an appropriate dollar amount is recorded as a
liability; and (iv) the amount of any waived dividend is considered as having
been paid by the savings association in evaluating any proposed dividend under
Office of Thrift Supervision capital distribution regulations. We anticipate
that the MHC will waive any dividends paid by the Company.
Conversion of the MHC to Stock Form. Office of Thrift Supervision
regulations permit the MHC to convert from the mutual form of organization to
the capital stock form of organization, commonly referred to as a second step
conversion. In a second step conversion a new holding company would be formed as
the successor to the Company, the MHC's corporate existence would end, and
certain depositors of the Bank would receive the right to subscribe for shares
of the new holding company. In a second step conversion, each share of common
stock held by stockholders other than the MHC would be automatically converted
into a number of shares of common stock of the new holding company determined
pursuant to an exchange ratio that ensures that the Company's stockholders own
the same percentage of common stock in the new holding company as they owned in
the Company immediately prior to the second step conversion. Under Office of
Thrift Supervision regulations, the Company's stockholders would not be diluted
because of any dividends waived by the MHC (and waived dividends would not be
considered in determining an appropriate exchange ratio), in the event the MHC
converts to stock form. The total number of shares held by the Company's
stockholders after a second step conversion also would be increased by any
purchases by the Company's stockholders in the stock offering of the new holding
company conducted as part of the second step conversion.
Acquisition of Control. Under the federal Change in Bank Control Act, a
notice must be submitted to the Office of Thrift Supervision if any person
(including a company), or group acting in concert, seeks to acquire "control" of
a savings and loan holding company or savings association. An acquisition of
"control" can occur upon the acquisition of 10% or more of the voting stock of a
savings and loan holding company or savings institution or as otherwise defined
by the Office of Thrift Supervision. Under the Change in Bank Control Act, the
Office of Thrift Supervision has 60 days from the filing of a complete notice to
act, taking into consideration certain factors, including the financial and
managerial resources of the acquirer and the anti-trust effects of the
acquisition. Any company that so acquires control would then be subject to
regulation as a savings and loan holding company.
Item 2. Properties
--------------------
At June 30, 2005, our net investment in property and equipment totaled
$35.0 million. We use Financial Services, Inc. ("FSI"), an outside service
company headquartered in Glen Rock, New Jersey, for data processing.
Item 3. Legal Proceedings
--------------------------
The Bank, from time to time, is a party to routine litigation which
arises in the normal course of business, such as claims to enforce liens,
condemnation proceedings on properties in which we hold
32
security interests, claims involving the making and servicing of real property
loans, and other issues incident to our business. There were no lawsuits pending
or known to be contemplated against the Company or the Bank at June 30, 2005
that would have a material effect on operations or income.
Item 4. Submission of Matters to a Vote of Security Holders
------------------------------------------------------------
None.
PART II
Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and
--------------------------------------------------------------------------------
Issuer Purchases of Equity Securities
-------------------------------------
Upon completion of the Company's first-step minority stock offering in
February 2005, the Company's common stock commenced trading on the Nasdaq
National Market under the symbol "KRNY." The table below shows the reported high
and low closing prices of the common stock during the periods indicated. The
quotations reflect inter-dealer prices, without retail mark-up, mark-down, or
commission, and may not represent actual transactions.
High Low
---- ---
2005
Third quarter (1) $11.95 $11.08
Fourth quarter 11.95 10.10
__________
(1) Closing of the minority stock offering February 23, 2005. Trading commenced
February 24, 2005.
No dividends were paid during the year ended June 30, 2005. On July 6,
2005, the Company announced that the Board of Directors had declared the
Company's a quarterly cash dividend of $.04 to stockholders of record as of July
18, 2005, paid on July 25, 2005. This was the Company's first dividend since
completing its initial public stock offering in February 2005. Declarations of
dividends by the Board of Directors depend on a number of factors, including
investment opportunities, growth objectives, financial condition, profitability,
tax considerations, minimum capital requirements, regulatory limitations, stock
market characteristics and general economic conditions. The timing, frequency
and amount of dividends is determined by the Board.
The Company's ability to pay dividends may also depend on the receipt
of dividends from the Bank, which is subject to a variety of limitations under
the regulations of the Office of Thrift Supervision on the payment of dividends.
As of September 13, 2005, there were approximately 5,176 holders of
record of the Company's common stock, not including persons who hold stock in
"street" name through various brokerage firms.
33
Set forth below is information regarding the Company's stock
repurchases during the fourth quarter of the fiscal year ended June 30, 2005.
ISSUER PURCHASES OF EQUITY SECURITIES
----------------------------------------------------------------------------------------------------------------------------
(a) (b) (c) (d)
Total Total Number of Maximum Number
Number of Average Shares (or Units) (or Approximate Dollar
Shares Price Paid Purchased as Part of Value) of Shares (or Units)
(or Units) per Share Publicly Announced that May Yet Be Purchased
Period Purchased (or Unit) Plans or Programs Under the Plans or Programs
----------------------------------------------------------------------------------------------------------------------------
Quarter ended June 30, 2005 - 0 - $0 - 0 - 0
----------------------------------------------------------------------------------------------------------------------------
Total - 0 - $0 - 0 - 0
----------------------------------------------------------------------------------------------------------------------------
Item 6. Selected Financial Data
--------------------------------
The following financial information and other data in this section for
the years ended June 30, 2005, 2004 and 2003 is derived from the Company's
audited consolidated financial statements and should be read together with the
consolidated financial statements and the notes thereto contained in this Annual
Report on Form 10-K. The information at and for the year ended June 30, 2001 is
derived from unaudited consolidated financial statements of the Company. The
Company acquired Pulaski Bancorp, Inc. in October 2002 and West Essex Bancorp,
Inc. in July 2003. For an explanation of the accounting treatment of the
acquisitions, see Note 2 to the consolidated financial statements.
At June 30,
----------------------------------------------------------------
2005 2004 2003 2002 2001
---------- ---------- ---------- ---------- ----------
(In thousands)
Balance Sheet Data:
Assets................................... $2,107,005 $1,936,518 $1,996,482 $1,905,638 $1,756,257
Loans receivable, net.................... 558,018 505,794 509,161 591,142 602,182
Mortgage-backed securities
held to maturity....................... 758,121 771,353 681,619 968,516 689,204
Securities available for sale............ 33,591 41,564 37,840 39,679 42,367
Investment securities held to maturity... 470,098 435,870 287,321 139,446 193,955
Cash and cash equivalents................ 139,865 39,488 325,657 97,030 159,901
Goodwill................................. 82,263 82,263 31,746 15,600 17,911
Deposits................................. 1,528,777 1,537,510 1,613,684 1,479,729 1,342,107
Federal Home Loan Bank advances.......... 61,687 94,234 75,749 112,080 112,109
Total stockholders' equity............... 505,482 293,505 295,669 302,454 290,110
34
For the Year Ended June 30,
------------------------------------------------------------------------
2005 2004 2003 2002 2001
----------- --------- -------- --------- ---------
(Dollars in thousands, except per share amounts)
Summary of Operations:
Interest income.......................... $ 82,441 $ 78,654 $ 96,492 $ 106,162 $ 114,566
Interest expense......................... 30,422 32,100 44,695 54,443 67,318
----------- --------- -------- --------- ---------
Net interest income...................... 52,019 46,554 51,797 51,719 47,248
Provision for loan losses................ 68 - - 3 162
----------- --------- -------- --------- ---------
Net interest income after provision
for loan losses........................ 51,951 46,554 51,797 51,716 47,086
Non-interest income, excluding gain on
sale of available for sale securities.. 1,798 1,560 1,847 1,765 1,523
Non-interest income from gain on sale
of available for sale securities...... 7,705 - - - -
Merger related expenses.................. - 592 14,921 619 -
Non-interest expense, excluding
merger related expenses................ 34,862 28,880 29,431 28,446 27,519
----------- --------- -------- --------- ---------
Income before income taxes............... 26,592 18,642 9,292 24,416 21,090
Provisions for income taxes.............. 7,694 5,745 5,237 7,926 6,823
----------- --------- -------- --------- ---------
Net income............................... $ 18,898 $ 12,897 $ 4,055 $ 16,490 $ 14,267
=========== ========= ======== ========= =========
Net income per share - basic............. $ 0.27 $1,289.70 $ 337.52 $1,294.02 $1,119.43
Net income per share - diluted........... $ 0.27 $1,289.70 $ 336.06 $1,287.13 $1,116.48
Weighted average number of common
shares outstanding - basic........... 70,997,978 10,000 12,014 12,743 12,745
Weighted average number of common
shares outstanding - diluted......... 70,997,978 10,000 12,066 12,811 12,779
For the Year Ended June 30,
------------------------------------------------------------------------
2005 2004 2003 2002 2001
----------- --------- -------- --------- ---------
Per Share Data:
Cash dividends per share (1)......... $ - $ - $ 82.07 $ 98.80 $ 79.56
Dividend payout ratio (2)............ 0.00% 0.00% 24.32% 7.63% 7.11%
Performance Ratios:
Return on average assets
(net income divided by
average total assets)............. 0.94% 0.67% 0.21% 0.91% 0.83%
Return on average equity
(net income divided by
average equity).................... 5.40 4.52 1.38 5.55 4.96
Net interest rate spread............. 2.51 2.37 2.36 2.35 2.08
Net interest margin on average
interest-earnings assets........... 2.79 2.59 2.75 2.95 2.86
Average interest-earning
assets to average
interest-bearing liabilities....... 116.93 112.46 116.54 119.58 119.17
Efficiency ratio (Non-interest
expense divided by the sum
of net interest income and
non-interest income)............... 56.67 61.25 82.68 54.34 56.42
35
For the Year Ended June 30,
------------------------------------------------------------------------
2005 2004 2003 2002 2001
----------- --------- -------- --------- ---------
Efficiency ratio (net of gain on sale of
available for sale securities)........ 64.78 61.25 82.68 54.34 56.42
Non-interest expense to 1.73 1.52 2.26 1.60 1.60
average assets.........................
Asset Quality Ratios:(3)
Non-performing loans to total loans...... 0.34 0.46 0.57 0.55 0.53
Non-performing assets to total assets 0.10 0.13 0.16 0.18 0.20
Net charge-offs to average
loans outstanding....................... 0.00 0.01 0.00 0.00 0.01
Allowance for loan losses to
total loans......................... 0.96 1.01 1.01 0.87 0.85
Allowance for loan losses to
non-performing loans................ 281.79 220.96 177.64 157.24 160.52
Capital Ratios:
Average equity to average
assets (average equity divided
by average total assets)............... 17.36 14.73 14.97 16.38 16.70
Equity to assets at period end........... 23.99 15.16 14.81 15.87 16.52
Tangible equity to tangible
assets at period end................ 20.66 11.29 13.31 15.02 15.46
Number of Offices:
Offices (including offices
acquired in mergers)................ 25 25 25 24 23
_____________________
(1) Cash dividends paid per share represents,the aggregate of dividends paid by
Kearny Financial Corp., West Essex Bancorp, Inc., and Pulaski Bancorp, Inc.
to the minority stockholders of West Essex Bancorp, Inc. and Pulaski
Bancorp, Inc. divided by the outstanding shares of Kearny Financial Corp.
common stock.
(2) Represents cash dividends declared per share divided by net income per
common share.
(3) Asset quality ratios are period end ratios.
Item 7. Management's Discussion and Analysis of Financial Condition and Results
--------------------------------------------------------------------------------
of Operations
-------------
General
This discussion and analysis reflects Kearny Financial Corp.'s
consolidated financial statements and other relevant statistical data and is
intended to enhance your understanding of our financial condition and results of
operations. You should read the information in this section in conjunction with
Kearny Financial Corp.'s consolidated financial statements and the notes thereto
contained in this Annual Report on Form 10-K, and the other statistical data
provided herein.
36
Overview
Financial Condition and Results of Operations. Kearny Financial Corp.'s
results of operations depend primarily on its net interest income. Net interest
income is the difference between the interest income we earn on our
interest-earning assets and the interest we pay on our interest-bearing
liabilities. It is a function of the average balances of loans and investments
versus deposits and borrowed funds outstanding in any one period and the yields
earned on those loans and investments and the cost of those deposits and
borrowed funds.
Our interest-earning assets consist primarily of mortgage-backed
securities and investment securities, which comprised 59.9% of total assets at
June 30, 2005 while our loan portfolio comprised 26.5% of total assets. This was
a change from 64.5% and 26.1%, respectively, at June 30, 2004. The largest
change in our interest-earning assets between June 30, 2004 and June 30, 2005
was a $100.4 million, or 254.2%, increase in cash and cash equivalents, due to
the proceeds from the initial public offering completed in February 2005.
Investment securities held to maturity increased $34.2 million and
mortgage-backed securities held to maturity decreased $13.2 million. We invested
some of the offering proceeds in investment securities held to maturity,
particularly tax-exempt securities. Demand for mortgages contributed to the
decrease in mortgage-backed securities, as we used principal and interest
payments to fund mortgage loans, supplemented by the investment of cash and cash
equivalents from the initial public offering.
Our interest-bearing liabilities consist primarily of retail deposits
and borrowings from the Federal Home Loan Bank of New York. At June 30, 2005,
our total deposits were $1.53 billion, compared to $1.54 billion at June 30,
2004, and our Federal Home Loan Bank of New York borrowings were $61.7 million
compared to $94.2 million a year earlier. The primary factor for the decrease in
deposits was the runoff of certificates of deposit due to low interest rates and
a movement by customers to alternative investment opportunities in the
marketplace in the first half of fiscal 2005. However, rising short-term
interest rates reversed the trend during the second half of the year. We also
saw $40.4 million of deposits, net of oversubscriptions, withdrawn to purchase
the Company's common stock during the initial public offering. Federal Home Loan
Bank advances decreased as we replaced short-term advances borrowed earlier in
the year to fund commitments to purchase securities with proceeds from the
initial public offering completed in February 2005.
Our net interest income increased by 11.6%, to $52.0 million for the
year ended June 30, 2005 from $46.6 million for the year ended June 30, 2004.
The net interest rate spread increased to 2.51% for the year ended June 30, 2005
from 2.37% for 2004 as the average cost of interest-bearing liabilities
continued to decrease while the average yield on interest-earning assets
improved slightly. Total interest income increased 4.8% due to a 3.9% increase
in the average balance of interest-earning assets and a four basis point
increase in the average yield thereof, while total interest expense decreased
5.3%, primarily due to a ten basis point decrease in the average cost of
interest-bearing liabilities. Net interest income received a boost from the
investment of stock subscription funds, including oversubscriptions, at a
positive spread versus the interest rate paid on the funds.
Our results of operations also depend on our provision for loan losses,
non-interest income and non-interest expense. Non-interest income includes
service fees and charges, including income generated by Kearny Federal Savings
Bank's ATM network, and income on bank owned life insurance. Non-interest
expense includes salaries and employee benefits, occupancy expenses and other
general and administrative expenses. Non-interest expense increased for 2005
compared to 2004, from $29.5 million for 2004 to $34.9 million for 2005,
primarily because of increases in salaries and employee benefits and higher net
37
occupancy expense of premises and equipment. The increase in salaries and
benefits is from ordinary salary increases, higher pension and health insurance
costs, ESOP compensation expense and the addition of staff, including business
development personnel. Net occupancy expense of premises and equipment increased
primarily due to expenses associated with our new 53,000 square foot
administrative headquarters building in Fairfield, New Jersey, completed and
occupied during the quarter ended December 31, 2004.
Net income for the year ended June 30, 2005 was $18.9 million, an
increase of $6.0 million, or 46.5%, from $12.9 million for 2004. The increase in
net income resulted primarily from the gain on the sale of available for sale
securities, Freddie Mac common stock and a trust-preferred security, which
together contributed $7.7 million, before taxes, to income. The increase in net
interest income of $5.4 million offset the $5.4 million increase in non-interest
expense.
Total assets increased 8.8%, to $2.11 billion at June 30, 2005 from
$1.94 billion at June 30, 2004. Cash and cash equivalents increased $100.4
million year-over-year, due to the proceeds from the initial stock offering
completed in February 2005. An $8.0 million reduction in securities available
for sale, to $33.6 million at the year ended June 30, 2005 from $41.6 million in
2004, was the result of the sale of Freddie Mac common stock and a
trust-preferred security. Cash and cash equivalents generated by the initial
public offering funded the $34.2 million and $52.2 million increases in
investment securities held to maturity and net loans receivable, respectively,
as did principal and interest payments on mortgage- backed securities. We also
used the cash flow from mortgage-backed securities to fund the deposit outflow
and to reduce Federal Home Loan Bank advances.
Stockholders' equity increased $212.0 million, or 72.2%, to $505.5
million at June 30, 2005, from $293.5 million at June 30, 2004. The increase
primarily reflects offering proceeds of $197.1 million, net of $17.5 million in
unearned ESOP shares from the February 2005 initial stock offering, net income
of $18.9 million, along with a decrease of $4.5 million in accumulated other
comprehensive income resulting from the sale of available for sale securities.
Recent Acquisitions. During recent years, we have implemented an
expansion strategy fueled primarily by acquisitions, and have experienced
significant growth with total assets growing from $793.2 million at June 30,
1998 to $2.11 billion at June 30, 2005, securities growing from $596.9 million
at June 30, 1998 to $1.26 billion at June 30, 2005, loans receivable, net
growing from $152.1 million at June 30, 1998 to $558.0 million at June 30, 2005
and total deposits growing from $608.9 million at June 30, 1998 to $1.53 billion
at June 30, 2005. At June 30, 1998, we had five branch offices and 75 employees,
and at June 30, 2005, we had 25 branch offices and 284 employees.
We completed our first whole bank acquisition in March 1999 with the
acquisition of 1st Bergen Bancorp and the merger of South Bergen Savings Bank
into Kearny Federal Savings Bank, adding $274.3 million in assets and four
branch offices, giving Kearny Federal Savings Bank a total of nine branch
offices following completion of this merger. In October 2002, Kearny Financial
Corp. acquired Pulaski Bancorp, Inc., and Pulaski Savings Bank was merged into
Kearny Federal Savings Bank. This transaction added $286.7 million in assets and
seven branch offices. Additionally, we completed one deposit assumption in 1999
and opened a de novo branch in 2002. Our third whole bank acquisition was
completed in July 2003 with Kearny Financial Corp.'s acquisition of West Essex
Bancorp, Inc. and the merger of West Essex Bank into Kearny Federal Savings
Bank, adding $369.3 million in assets and eight branch offices, bringing Kearny
Federal Savings Bank's total offices to twenty-five.
The acquisitions of Pulaski Bancorp, Inc. and West Essex Bancorp, Inc.
involved institutions that were in the mutual holding company form of
organization, with the minority of outstanding shares held by
38
public stockholders and the majority of outstanding shares held by the mutual
holding company. Accordingly, (i) the merger of the mutual holding companies
utilized the pooling-of-interests method accounting, (ii) the acquisition of the
mid-tier stock holding company's minority shareholder interests was accounted
for as the acquisition of non-controlling minority interests, and (iii) the
merger of the mid-tier holding companies was accounted for as a combination of
entities under common control. Under pooling-of-interests accounting, the
recorded assets and liabilities of each of West Essex and Pulaski were carried
forward to the combined corporation at their recorded amounts; income of the
combined corporation includes income of each of West Essex and Pulaski for the
entire fiscal year in which the respective acquisitions occurred. The reported
income of the separate corporations for prior periods were combined and restated
as income of the combined corporation. Expenses incurred in connection with the
acquisitions constituted expenses for the accounting periods subsequent to the
closing of the acquisitions. The amounts paid to minority shareholders of
Pulaski Bancorp, Inc. and West Essex Bancorp, Inc. in excess of their interests
in such companies were recorded as goodwill. For additional information, see
Note 2 to the consolidated financial statements.
We intend to continue to grow. In addition to building our core banking
business through internal growth, we will also actively consider expansion
opportunities such as the acquisition of branches and other financial
institutions. We do not, however, have any current understandings, agreements or
arrangements for expansion by the acquisition of any branches or other financial
institutions. Furthermore, there can be no assurance that we will continue to
experience such rapid growth, or any growth, in the future. We may have
difficulty finding suitable sites for de novo branches and identifying and
successfully acquiring branches or other financial institutions.
Business Strategy. Our current business strategy is to seek to grow and
improve our profitability by:
o increasing the volume of our loan originations and the size of
our loan portfolio relative to our securities portfolio;
o increasing the origination of multi-family and commercial real
estate loans, construction loans and commercial business loans;
o building our core banking business through internal growth and de
novo branching, as well as actively considering expansion
opportunities such as the acquisition of branches and other
financial institutions;
o developing a sales culture by training and encouraging our branch
personnel to promote our existing products and services to our
customers; and
o maintaining high asset quality.
Our deposits have traditionally exceeded our loan originations, and we
have invested these deposits primarily in mortgage-backed securities and
investment securities. Following our acquisition of South Bergen Savings Bank in
1999, we began focusing on growing the size of our loan portfolio. Prior to that
time, our operations were more focused on obtaining deposits from the
communities in which we operated our five branch offices in Bergen and Hudson
counties and investing those funds in mortgage-backed and other securities. A
primary focus of our current business strategy is to increase our volume of loan
originations and the size of our loan portfolio. There can be no assurance,
however, that we will be successful in this effort.
39
In an effort to develop our commercial business, during the year ended
June 30, 2005 we added four experienced business development officers who will
focus on commercial loan originations, and we expect to offer Internet banking
and cash management services to our commercial customers during the quarter
ended December 31, 2005. Our residential loan originations have traditionally
been largely advertising driven, but we added two regional loan originators who
are working in our branch network. We expect to hire additional regional loan
originators in this coming year, seeking to build our residential loan
portfolio.
Critical Accounting Policies
Our accounting policies are integral to understanding the results
reported and are described in detail in Note 1 to the consolidated financial
statements beginning on page F-1 of this document. In preparing the consolidated
financial statements, management is required to make estimates and assumptions
that affect the reported amounts of assets and liabilities as of the dates of
the consolidated statements of financial condition and revenues and expenses for
the periods then ended. Actual results could differ significantly from those
estimates. Material estimates that are particularly susceptible to significant
changes relate to the determination of the allowance for loan losses, the
assessment of prepayment risks associated with mortgage-backed securities, the
evaluation of securities impairment and the impairment testing of goodwill.
Allowance for Loan Losses. The allowance for loan losses represents our
best estimate of losses known and inherent in our loan portfolio that are both
probable and reasonable to estimate. In determining the amount of the allowance
for loan losses, we consider the losses inherent in our loan portfolio and
changes in the nature and volume of our loan activities, along with general
economic and real estate market conditions. We use a two tier approach: (1)
identification of impaired loans and establishment of specific loss allowances
on such loans; and (2) establishment of general valuation allowances on the
remainder of our loan portfolio. We maintain a loan review system which allows
for a periodic review of our loan portfolio and the early identification of
potential impaired loans. Our system takes into consideration, among other
things, delinquency status, size of loans, type of collateral and financial
condition of the borrowers. Specific loan loss allowances are established for
identified loans based on a review of such information and/or appraisals of the
underlying collateral. General loan loss allowances are based upon a combination
of factors including, but not limited to, actual loan loss experience,
composition of the loan portfolio, current economic conditions and management's
judgment.
Although specific and general loan loss allowances are established in
accordance with management's best estimate, actual losses are dependent upon
future events and, as such, further provisions for loan losses may be necessary
in order to increase the level of the allowance for loan losses. For example,
our evaluation of the allowance includes consideration of current economic
conditions, and a change in economic conditions could reduce the ability of our
borrowers to make timely repayments of their loans. This could result in
increased delinquencies and increased non-performing loans, and thus a need to
make increased provisions to the allowance for loan losses, which would be a
charge to income during the period the provision is made, resulting in a
reduction to our earnings. A change in economic conditions could also adversely
affect the value of the properties collateralizing our real estate loans,
resulting in increased charge-offs against the allowance and reduced recoveries,
and thus a need to make increased provisions to the allowance for loan losses.
Furthermore, a change in the composition of our loan portfolio or growth of our
loan portfolio could result in the need for additional provisions.
Historically, we believe our estimates and assumptions in evaluating
the allowance for loan losses and setting the provision have been fairly
accurate. The increase in the ratio of the allowance for loan
40
losses to non-performing loans to 281.79% at June 30, 2005 from 220.96% at June
30, 2004 is a result of a $406,000 decrease in non-performing loans.
Prepayment Risks Associated with Mortgage-backed Securities. At June
30, 2005 and June 30, 2004, net premiums of approximately $3.6 million and $3.6
million, respectively, were included in the carrying amounts of our
mortgage-backed securities. We amortize the premium included in the carrying
amount over the average life of the security. The mortgage-backed securities we
hold in our portfolio are subject to prepayment risk because changes in interest
rates can affect the expected life of these mortgage- backed securities. This
means the level of prepayments must be estimated in order to estimate the
average life of mortgage-backed securities.
We evaluate the estimated average life of mortgage-backed securities on
a monthly basis and adjust the amortization speed to reflect any change in the
average life. Amortizing the premium faster results in a reduction of the yield
on the securities, whereas slowing the amortization increases the yield. A
reduction in the yield decreases our interest income on mortgage-backed
securities, while an increase in the yield increases our interest income on
mortgage-backed securities.
The assessment of the prepayment risks related to mortgage-backed
securities is highly dependent upon the prediction of trends in market interest
rates. A reduction in interest rates generally results in increased prepayments
of mortgage-backed securities, as borrowers refinance their debt in order to
reduce their borrowing cost. Correspondingly, an increase in interest rates
should result in decreased prepayments and fewer refinancings. Because changes
in interest rates can affect the average life of mortgage-backed securities,
this makes the estimation of the prepayment risk difficult. We address this
difficulty by adjusting the amortization speed monthly to reflect the current
average life.
Impairment Testing of Goodwill. Goodwill, representing the excess of
amounts paid over the fair value of net assets of the institutions acquired in
purchase transactions, is recorded at its fair value at the date of acquisition.
Through June 30, 2002, we amortized goodwill using the straight line method over
15 years. Effective July 1, 2002, we adopted the Financial Accounting Standards
Board's Statement of Financial Accounting Standards ("SFAS") No. 141, "Business
Combinations," and SFAS No. 142, "Goodwill and Other Intangible Assets," under
which we no longer amortize goodwill, but test it annually for impairment.
Impairment exists when the carrying value of goodwill exceeds its implied fair
value. We would also test goodwill for impairment between annual tests if an
event occurs or circumstances change that would more likely than not reduce the
fair value of a reporting unit below its carrying amount.
At June 30, 2005 and June 30, 2004, we reported goodwill of $82.3
million. This amount includes goodwill that resulted from our acquisition of
West Essex Bank in which $50.5 million, the amount paid to minority stockholders
of West Essex Bancorp, Inc. in excess of their interest in the fair value of net
assets of West Essex Bancorp, Inc., was recorded as goodwill.
We have tested our goodwill and concluded that no impairment charges
were required to be recorded in the year ended June 30, 2005. Although the value
of the goodwill was determined not to be impaired at the date of the testing,
the value of the goodwill can change in the future. The value of the goodwill
would be expected to decrease if there was a significant decrease in the
franchise value of Kearny Federal Savings Bank. If an impairment loss is
determined in the future, the loss will be reflected as an expense for the
period in which the impairment was determined, meaning that our net income for
that period would be reduced by the amount of the impairment loss. Since
beginning testing for impairment under SFAS 142 effective July 1, 2002, we have
not had any impairment loss, thus we believe that historically, our estimates
and assumptions in evaluating the value of the goodwill have been accurate.
41
Other-than-Temporary Impairment of Securities. We evaluate on a monthly
basis whether any securities are other-than-temporarily impaired. In making this
determination, we consider the extent and duration of the impairment, the nature
and financial health of the issuer, our ability and intent to hold securities
for a period of time sufficient to allow for any anticipated recovery in market
value and other factors relevant to specific securities, such as the credit risk
of the issuer and whether a guarantee or insurance applies to the security. This
evaluation method has not changed during the three fiscal years ended June 30,
2005. If a security is determined to be other-than-temporarily impaired, an
impairment loss is charged to income during the period the impairment loss is
found to exist, resulting in a reduction to our earnings for that period.
As of June 30, 2005, we concluded that any unrealized losses in the
securities available for sale, mortgage-backed securities held to maturity and
investment securities held to maturity portfolios were temporary in nature
because they were primarily related to market interest rates and not related to
the underlying credit quality of the issuers of the securities. Additionally, we
have the intent and ability to hold these investments for the time necessary to
recover the amortized cost. Future events that would materially change this
conclusion and require an impairment loss to be charged to operations include a
change in the credit quality of the issuers. We believe that historically, our
estimates and assumptions in evaluating whether any securities are
other-than-temporarily impaired have been accurate.
Effective June 30, 2004, we adopted Emerging Issues Task Force ("EITF")
Issuance No. 03-1, "The Meaning of Other than Temporary Impairment and Its
Application to Certain Investments," which requires quantitative and qualitative
disclosures for investment securities that are impaired at the balance sheet
date, but for which other-than-temporary impairment has not been recognized.
Under EITF 03-1, individual securities are considered impaired when fair value
is less than amortized cost. Adoption of EITF 03-01 has not changed our policies
for determining whether any securities are other-than-temporarily impaired.
Comparison of Financial Condition at June 30, 2005 and June 30, 2004
Our total assets increased by $170.5 million, or 8.8%, to $2.11 billion
at June 30, 2005 from $1.94 billion at June 30, 2004, primarily due to increases
in cash and cash equivalents, investment securities and net loans receivable,
partially offset by a decrease in mortgage-backed securities.
Cash and cash equivalents were the largest contributor to the increase
in total assets, increasing $100.4 million, or 254.2%, to $139.9 million at June
30, 2005, from $39.5 million at June 30, 2004. Proceeds from the Company's
initial public offering completed in February 2005 provided the growth in cash
and cash equivalents. Use of cash and cash equivalents and monthly principal and
interest payments from mortgage-backed securities funded the increase in
investment securities and net loans receivable as well as the outflow of
deposits and repayment of Federal Home Loan Bank advances.
The carrying value of securities available for sale decreased $8.0
million, or 19.2%, to $33.6 million at June 30, 2005, from $41.6 million at June
30, 2004. Concern about the future of government-sponsored enterprises triggered
the sale of 120,000 shares, or 48% of the Company's Freddie Mac common stock
investment, which were part of the securities available for sale portfolio. We
also sold a trust-preferred security from the securities available for sale
portfolio. Investment securities held to maturity increased $34.2 million, or
7.8%, to $470.1 million at June 30, 2005, from $435.9 million at June 30, 2004.
The growth in the investment securities held to maturity portfolio came in the
tax-exempt category, with an increase of $43.1 million, or 26.7%, to $204.6
million at June 30, 2005, from $161.5 million at June 30, 2004. The taxable
component of investment securities held to maturity portfolio
42
decreased $8.9 million, or 3.2%, to $265.5 million at June 30, 2005, from $274.4
million at June 30, 2004. Maturing taxable investment securities were replaced
with tax-exempt securities, to take advantage of their higher tax equivalent
yield. Mortgage-backed securities held to maturity decreased $13.3 million, or
1.7%, to $758.1 million at June 30, 2005, from $771.4 million at June 30, 2004.
We used the cash flow from mortgage-backed securities to fund the purchase of
tax-exempt investment securities, with their higher tax equivalent yield, as
well as the origination of mortgage loans and to cover the outflow of deposits
and repayment of Federal Home Loan Bank advances.
Net loans receivable increased $52.2 million, or 10.3%, to $558.0
million at June 30, 2005, from $505.8 million at June 30, 2004. Our goal is to
improve the overall ratio of loans to deposits, which increased to 36.5% at June
30, 2005 from 32.9% at June 30, 2004. One-to-four family real estate mortgages
increased $24.6 million, or 6.9%, to $382.8 million at June 30, 2005, from
$358.2 million at June 30, 2004. Multi-family and commercial real estate
mortgages increased $13.3 million, or 15.9%, to $96.7 million at June 30, 2005,
from $83.4 million at June 30, 2004. Our strategy emphasizes growth in this part
of the loan portfolio. Consumer lending, primarily home equity loans and home
equity lines of credit increased $16.0 million, or 28.5%, to $72.1 million at
June 30, 2005, from $56.1 million at June 30, 2004. Construction loans increased
$882,000, or 12.5%, to $8.1 million at June 30, 2005, from $7.2 million at June
30, 2004. The only category to decrease was commercial business lines of credit,
which fell to $2.9 million at June 30, 2005, a decrease of 44.2% from $5.2
million at June 30, 2004. During the year, we added business development
personnel and loan solicitors to assist in growing the commercial portfolio as
well as other loan categories.
Premises and equipment increased $8.4 million, or 31.6%, to $35.0
million at June 30, 2005, from $26.6 million at June 30, 2004. The increase
resulted primarily from the cost associated with our new 53,000 square foot
administrative headquarters building in Fairfield, New Jersey, which we
completed and occupied during the quarter ending December 31, 2004. The Company
is in the process of preparing to lease space vacated by management staff and
administrative operations on their move to the new headquarters, with the first
tenant scheduled to begin occupancy during December 2005. The cost of relocating
a branch in Wanaque, New Jersey and the construction of a de novo branch in
Lacey, New Jersey also contributed to the increase in premises and equipment.
Total deposits decreased by $8.7 million, or 0.56%, to $1.53 billion at
June 30, 2005, from $1.54 billion at June 30, 2004. Non-interest bearing and
interest-bearing demand accounts decreased $3.6 million, or 2.3%, to $155.4
million at June 30, 2005, from $159.0 million at June 30, 2004. Savings and club
accounts decreased $31.3 million, or 6.5%, to $450.2 million at June 30, 2005,
from $481.5 million at June 30, 2004. Certificates of deposit increased $26.1
million, or 2.9%, to $923.1 million at June 30, 2005, from $897.0 million at
June 30, 2004. During the first part of fiscal 2005, there was a runoff of
certificates of deposit due to low interest rates and a movement by customers to
alternative investment opportunities in the marketplace. However, rising
short-term interest rates reversed the trend during the second half of the year.
Most of the decrease in savings and clubs resulted from the $40.4 million of
deposits, net of oversubscriptions, withdrawn to purchase the Company's common
stock during the initial public offering completed in February 2005.
Federal Home Bank of New York advances decreased $32.5 million, or
34.5%, to $61.7 million at June 30, 2005, from $94.2 million at June 30, 2004.
We paid off $30.0 million of fixed rate advances with maturities of less than
one year, borrowed earlier in the year to fund commitments to purchase
securities, but no longer needed due to the availability of cash and cash
equivalents from the initial public offering completed in February 2005. We
retired an additional $2.5 million of borrowings, some of which were on a
quarterly repayment schedule.
43
Stockholders' equity increased $212.0 million, or 72.2%, to $505.5
million at June 30, 2005, from $293.5 million at June 30, 2004. Stockholders'
equity increased primarily due to net proceeds of $214.6 million from the
initial public offering. Initially, $17.5 million in unearned Employee Stock
Ownership Plan ("ESOP") shares reduced stockholders' equity immediately
following the initial public offering. The effect of the ESOP decreased slightly
thereafter, as $485,000 of ESOP shares were released between March and June
2005. Net income recorded during the year contributed an additional $18.9
million to stockholders' equity. Accumulated other comprehensive income
decreased $4.5 million, or 45.0%, to $5.5 million at June 30, 2005, from $10.0
million at June 30, 2004. The decrease in accumulated other comprehensive income
resulted from a reduction in the carrying value, net of taxes, of the Company's
securities available for sale portfolio due to the sales of Freddie Mac common
stock and a trust-preferred security.
Comparison of Operating Results for the Years Ended June 30, 2005 and June 30,
2004
General. Net income for the year ended June 30, 2005 was $18.9 million,
an increase of $6.0 million, or 46.5%, from $12.9 million for 2004. The increase
in net income resulted from the gain on sale of available for sale securities
recorded in 2005. Without the gain on sale, net income for the year ended June
30, 2005 remained virtually unchanged from a year earlier, since an increase in
non-interest expense offset a comparable increase in net interest income.
Net Interest Income. Net interest income increased by $5.4 million, or
11.6%, to $52.0 million for the year ended June 30, 2005, from $46.6 million for
the year ended June 30, 2004. The net interest rate spread increased to 2.51%
for the year ended June 30, 2005, from 2.37% for 2004. The net interest margin
increased 20 basis points to 2.79% for the year ended June 30, 2005, compared
with 2.59% for the year ended June 30, 2004. The net interest rate spread
improved due to a four basis point increase in the average yield on
interest-earning assets complemented by a decrease of ten basis points in the
average cost of interest-bearing liabilities. The increase in net interest
margin resulted from the improvement in the ratio of average interest-earning
assets to average interest-bearing liabilities, 116.93% for the year ended June
30, 2005, compared to 112.46% for the year ended June 30, 2004. Average
interest-earning assets increased $68.8 million, or 3.9%, to $1.86 billion for
the year ended June 30, 2005, from $1.79 billion for the year ended June 30,
2004. Average interest-bearing liabilities remained virtually unchanged,
decreasing by $2.3 million for the year ended June 30, 2005.
Interest Income. Total interest income increased $3.7 million, or 4.7%,
to $82.4 million for the year ended June 30, 2005, from $78.7 million for the
year ended June 30, 2004. The improvement in interest income resulted from both
the increase in the yield on average interest-earning assets as well as the
increase in average interest-earning assets. The average yield on average
interest-earning assets increased four basis points to 4.42% from 4.38%, while
average interest-earning assets increased $68.8 million, or 3.9%, to $1.86
billion from $1.79 billion.
Interest income on loans receivable increased $392,000, or 1.4%, to
$29.3 million for the year ended June 30, 2005, from $28.9 million for the year
ended June 30, 2004. The increase resulted from an increase in the average
balance of loans receivable, net, partially offset by a reduction in the average
yield on loans. The average balance of loans receivable, net, increased $18.2
million, or 3.6%, to $517.7 million for the year ended June 30, 2005, from
$499.5 million for the year ended June 30, 2004. The average yield on loans
decreased 13 basis points, to 5.66% for the year ended June 30, 2005, compared
to 5.79% for 2004. The increased average balance reflects an effort to improve
the ratio of loans to deposits. Net loans receivable increased $52.2 million, or
10.3%, to $558.0 million at June 30, 2005, from $505.8 million at June 30, 2004.
The lower yield reflects generally lower interest rates on originations and
44
downward rate adjustments on adjustable rate and floating rate loans. To
counteract this trend, management's strategy calls for steady growth in the
higher yielding multi-family and commercial real estate categories.
Interest income on mortgage-backed securities held to maturity deceased
$26,000 and was $34.0 million for the year ended June 30, 2005, virtually
unchanged from 2004. Interest income on mortgage-backed securities did not
change as an increase in the average balance outstanding was offset by a
decrease in the average yield. The average balance of mortgage-backed securities
increased $27.0 million, or 3.8%, to $740.4 million for the year ended June 30,
2005, from $713.4 million for the year ended June 30, 2004. At the same time,
the average yield decreased 17 basis points to 4.59% for the year ended June 30,
2005, compared to 4.76% for 2004. The increase in average balance resulted from
the substitution of mortgage-backed securities for loans earlier in the year,
while management launched an advertising campaign designed to increase loan
originations. Mortgage-backed securities actually decreased $13.3 million, or
1.7%, to $758.1 million at June 30, 2005, from $771.4 million at June 30, 2004.
The decline in yield resulted from principal repayments received on older higher
yielding securities being reinvested in a lower interest rate environment.
Additionally, most mortgage-backed securities purchased during the year were
adjustable rate, sacrificing higher yields on fixed rate mortgages in the
short-term for some interest rate risk protection in the future.
Interest income on investment securities available for sale and held to
maturity, both taxable and tax-exempt, increased $2.1 million, or 14.6%, to
$16.5 million for the year ended June 30, 2005, from $14.4 million for the year
ended June 30, 2004. The increase resulted from an increase of $64.9 million, or
15.3%, in the average balance of investment securities to $490.2 million for the
year ended June 30, 2005, from $425.3 million for the year ended June 30, 2004.
A two basis point reduction in the average yield, declining to 3.37% for the
year ended June 30, 2005 from 3.39% for 2004, nominally offset the increase in
the average balance. Interest income on tax-exempt investment securities
increased $1.2 million, or 21.1%, to $6.9 million for the year ended June 30,
2005, from $5.7 million for the year ended June 30, 2004. The increase resulted
from an increase in the average balance partially offset by a decrease in the
average yield. The average balance increased by $38.9 million, or 27.5%, to
$180.5 million for the year ended June 30, 2005, from $141.6 million for the
year ended June 30, 2004, while the average yield decreased by 22 basis points,
to 3.81% for the year ended June 30, 2005, from 4.03% in 2004. Interest income
on taxable investment securities increased $1.0 million, or 11.5%, to $9.7
million for the year ended June 30, 2005, from $8.7 million for the year ended
June 30, 2004, resulting from increases in both average balance and average
yield. The average balance increased $26.0 million, or 9.2%, to $309.7 million
for the year ended June 30, 2005, from $283.7 million for the year ended June
30, 2004. The average yield increased five basis points, to 3.12% for the year
ended June 30, 2005, from 3.07% for 2004. There has been steady growth in both
the tax-exempt and taxable portfolios over the previous three years. Management
gradually shifted assets from those vulnerable to high prepayments such as
mortgage-backed securities, or with low yields, including cash and cash
equivalents and securities purchased under agreements to resell, into higher
yielding investments, particularly tax-exempt securities which offer higher tax
equivalent yields.
Interest income on other interest-earning assets increased $1.3
million, or 100.0%, to $2.6 million for the year ended June 30, 2005, from $1.3
million for the year ended June 30, 2004. There were no securities purchased
under agreements to resell during the year ended June 30, 2005, therefore, the
composition of interest income on other interest-earning assets for 2005
included only interest received from deposits at other banks, specifically the
Federal Home Loan Bank of New York, and dividends paid on Federal Home Loan Bank
of New York capital stock. The increase in interest income resulted from an
increase in average yield, partially offset by a decrease in the average
balance. The average yield increased
45
1.45%, to 2.30% for the year ended June 30, 2005, from 0.85% for 2004 while the
average balance decreased $41.4 million, or 26.5%, to $114.9 million for the
year ended June 30, 2005, from $156.3 million for the year ended June 30, 2004.
The investment of funds received from the purchase of the Company's common
stock, including oversubscriptions held during the subscription period,
contributed to the increase in interest income on other interest-earning assets,
particularly the ability to invest those funds during a period of rising
short-term interest rates.
Interest Expense. Total interest expense decreased $1.7 million, or
5.3%, to $30.4 million for the year ended June 30, 2005, from $32.1 million for
year ended June 30, 2004. The decrease resulted from a decrease in the average
cost of interest-bearing liabilities, with virtually no change in the average
balance of interest-bearing liabilities. The average cost decreased ten basis
points to 1.91% in the year ended June 30, 2005, from 2.01% for 2004. The
average balance of interest-bearing liabilities declined slightly to $1.59
billion during the year ended June 30, 2005, as compared to $1.60 billion during
the year ended June 30, 2004. Average cost decreased due to historically low
market interest rates prevailing during the period, though short-term rates
started climbing as the Federal Reserve raised the federal funds rate by 25
basis point increments.
Interest expense on deposits decreased $1.6 million, or 5.7%, to $26.5
million for the year ended June 30, 2005, from $28.1 million for the year ended
June 30, 2004. Interest expense included $491,000, paid on funds received during
the subscription period of the initial public offering completed in February
2005. The decrease resulted from a decrease in the average cost of
interest-bearing deposits and a slight decrease in the average balance of
interest-bearing deposits. The average cost of interest-bearing deposits
decreased ten basis points to 1.75% for the year ended June 30, 2005, from 1.85%
in 2004. The average cost of certificates of deposit increased to 2.33% from
2.25%, while the average cost of savings and club accounts decreased to 1.02%
from 1.23% and the average cost of interest-bearing demand accounts decreased to
0.71% from 0.80%. Management found it necessary to begin raising certificate of
deposit interest rates, reacting to rising short-term interest rates during the
second half of the year in order to address earlier deposit outflows. The
average balance of interest-bearing deposits decreased $8.9 million to $1.51
billion for the year ended June 30, 2005, from $1.52 billion for the prior year.
The nominal decrease in the average balance partially resulted from the
temporary increase in deposits attributed to funds received during the
subscription period of the initial public offering completed in February 2005
substantially offsetting an overall deposit outflow. Average certificates of
deposit declined to $873.9 million from $963.1 million, average savings and club
accounts increased to $533.1 million from $448.5 million and average
interest-bearing demand deposits decreased to $105.5 million from $109.8
million. The increase in average savings and club accounts reflects the
aforementioned temporary increase in deposits associated with the initial public
offering.
Interest expense on Federal Home Loan Bank advances decreased $128,000,
or 3.2%, to $3.9 million for the year ended June 30, 2005, from $4.0 million for
the year ended June 30, 2004. The decrease in interest expense resulted from a
decrease in the average cost of advances partially offset by an increase in the
average balance of advances. The average cost of advances fell 60 basis points
to 4.80% for the year ended June 30, 2005, from 5.40% for 2004, while the
average balance increased $6.7 million, or 9.0%, to $81.0 million for the year
ended June 30, 2005, from $74.3 million for the year ended June 30, 2004. The
increase in the average balance resulted from short-term advances obtained
earlier in the year to fund the purchase of securities, subsequently paid off
with proceeds from the initial stock offering completed in February 2005. The
relatively low interest rates associated with those advances contributed to
lowering the average cost of borrowed money.
46
Provision for Loan Losses. Provisions for loan losses are charged to
operations at a level required to reflect credit losses in the loan portfolio
that are both probable and reasonable to estimate. Management, in determining
the allowance for loan losses, considers the losses inherent in the loan
portfolio and changes in the nature and volume of our loan activities, along
with the general economic and real estate market conditions. We utilize a
two-tier approach: (1) identification of impaired loans and establishment of
specific loss allowances on such loans; and (2) establishment of general
valuation allowances on the remainder of our loan portfolio. A specific loan
loss allowance is established for an impaired loan based on delinquency status,
size of loan, type of collateral and/or appraisal of the underlying collateral
and financial condition of the borrower. General loan loss allowances are based
upon a combination of factors including, but not limited to, actual loan loss
experience, composition of the loan portfolio, current economic conditions and
management's judgment.
There was a $68,000 provision for loan losses recorded for the year
ended June 30, 2005, but no provision for loan losses in 2004. During the year
ended June 30, 2005, total loans increased to $562.6 million at June 30, 2005,
from $510.2 million at June 30, 2004. Non-performing loans were $1.9 million, or
0.34%, of total loans at June 30, 2005, as compared to $2.3 million, or 0.46%,
of total loans at June 30, 2004. The allowance for loan losses as a percentage
of gross loans outstanding was 0.96% at June 30, 2005, compared to 1.01% at June
30, 2004, reflecting balances of $5.4 million and $5.1 million, respectively.
The ratio of the allowance for loan losses to non-performing loans increased to
281.79% at June 30, 2005, from 220.96% at June 30, 2004. The increase is a
result of a $406,000 decrease in non-performing loans from $2.3 million at June
30, 2004, to $1.9 million at June 30, 2004.
Management assesses the allowance for loan losses monthly. While
management uses available information to recognize losses on loans, future loan
loss provisions may be necessary based on changes in economic conditions. In
addition, regulatory agencies, as an integral part of their examination process,
periodically review the allowance for loan losses and may require us to
recognize additional provisions based on their judgment of information available
to them at the time of their examination. The allowance for loan losses as of
June 30, 2005 was maintained at a level that represented management's best
estimate of losses in the loan portfolio to the extent they were both probable
and reasonably estimable.
Non-interest Income. Non-interest income attributed to fees, service
charges and miscellaneous income and excluding gains on the sale of securities
increased $238,000, or 14.9%, to $1.8 million for the year ended June 30, 2005,
from $1.6 million for the year ended June 30, 2004. The increase resulted
primarily from an increase in fee income from the Bank's retail branch network,
an increase in the cash value of bank owned life insurance and non-recurring
loan fee income. At June 30, 2005, we had a $4.0 million investment in bank
owned life insurance, compared to $3.8 million at June 30, 2004.
Non-interest income attributed to gains on the sale of securities was
$7.7 million in the year ended June 30, 2005, resulting from the sale of 120,000
shares of Freddie Mac common stock and a trust- preferred security with a
carrying value of $1.0 million. There were no sales of securities during 2004.
Concern about the future of government-sponsored enterprises triggered the sale
of approximately 48% of the Company's Freddie Mac common stock investment. Both
the common stock and trust-preferred security were part of the Company's
available for sale investment portfolio.
Non-interest Expense. Non-interest expense increased $5.4 million, or
18.3%, to $34.9 million for the year ended June 30, 2005, from $29.5 million for
the year ended June 30, 2004. The increase in non-interest expense resulted from
increases in salaries and employee benefits, net occupancy expense of premises
and equipment, advertising and miscellaneous expenses. These increases were
offset by the absence of merger related expenses in 2005 as compared to $592,000
of such expense during 2004.
47
Salaries and employee benefits increased $4.3 million, or 26.1%, to
$20.8 million in the year ended June 30, 2005, from $16.5 million in the year
ended June 30, 2004. The compensation component increased $1.4 million, or
12.5%, to $12.6 million for the year ended June 30, 2005, from $11.2 million for
the year ended June 30, 2004. The increase resulted from normal salary increases
plus additional employees, including several business development personnel and
mortgage solicitors hired during the year. Pension plan expense and employee
benefits expense increased $1.7 million and $574,000, respectively, for the year
ended June 30, 2005 compared to 2004. The increase in pension plan expense
resulted from lower than expected investment returns on plan assets and higher
contributions due to the incremental effect of normal salary increases. During
the period March through June 2005, we recorded $466,000 in employee stock
ownership plan ("ESOP") compensation expense. The ESOP commenced immediately
following the initial public offering completed in February 2005, therefore,
there was no such expense recorded in 2004. Benefit expense will increase in the
future if the Company's stockholders approve the establishment of a stock
benefit plan at the 2005 Annual Meeting.
Net occupancy expense of premises and equipment expense increased $1.1
million, or 18.3%, to $7.1 million for the year ended June 30, 2005, from $6.0
million for the year ended June 30, 2004. Net occupancy expense of premises and
equipment expense increased $640,000 and $478,000, respectively, for the year
ended June 30, 2005 compared to 2004. The increase in net occupancy expense of
premises reflects the impact of our new 53,000 square foot administrative
headquarters building in Fairfield, New Jersey. Management staff and
administrative operations began occupying the building in late September and
continued to move in until December 2004. Approximately nine months of operating
expenses and six months of depreciation expense is included in the year ended
June 30, 2005. The Company is in the process of preparing to lease space vacated
by management staff and administrative operations on their move to the new
headquarters, with the first tenant scheduled to begin occupancy during December
2005. This will generate rental income, which will partially offset occupancy
expense of such premises in the future. The increase in equipment expense
resulted from higher depreciation expense and increased costs related to data
processing, ATM support and Internet banking, all of which are outsourced.
Advertising expense increased $315,000, or 36.6%, to $1.2 million for
the year ended June 30, 2005, from $861,000 for the year ended June 30, 2004.
The increase in advertising expense resulted from greater media advertising in
an attempt to increase loan originations, publicize the Bank's retail and
commercial products and refine the Bank's branding. Also, rather than relying
exclusively on the large circulation newspapers, management began focusing
specifically on the eight counties we operate in, through advertisements in
smaller local newspapers.
All other elements of non-interest expense increased $281,000, or 5.4%,
to $5.8 million for the year ended June 30, 2005, from $5.5 million, net of
merger related expenses of $592,000 for the year ended June 30, 2004. Most of
the increase in miscellaneous expenses is due to the increased costs associated
with being a public company, such as periodic reporting, retention of a transfer
agent and professional fees. Professional fees consisting of legal expense and
audit and accounting services expense increased $43,000 and $161,000,
respectively, for the year ended June 30, 2005, compared to 2004. In addition,
as a public company, management currently expects to spend approximately
$112,000 to comply with Sarbanes-Oxley Section 404 during 2006. However, actual
compliance costs could be significantly higher. The Company recorded expense of
approximately $10,000 in 2005 to begin the compliance effort for Section 404.
Provision for Income Taxes. The provision for income taxes increased
$2.0 million, or 35.1%, to $7.7 million for the year ended June 30, 2005, from
$5.7 million for the year ended June 30, 2004. The increase in income tax
expense resulted from an increase in pre-tax income of $8.0 million, or 43.0%,
to
48
$26.6 million in the year ended June 30, 2005, from $18.6 million for the year
ended June 30, 2004. The effective income tax rates were 28.9% for the year
ended June 30, 2005, as compared to 30.8% for the year ended June 30, 2004.
Management attributes the lower effective income tax rate to tax management
strategies, including investing in bank-qualified tax-exempt municipal bonds and
transferring investment securities held to maturity and mortgage-backed
securities held to maturity to a New Jersey investment subsidiary, Kearny
Federal Investment Corp., a wholly-owned subsidiary of the Bank, which commenced
operations in July 2004. Of particular significance, tax-exempt municipal bond
interest reduced the Company's Federal income expense by approximately $2.2
million.
Comparison of Financial Condition at June 30, 2004 and June 30, 2003
Our total assets decreased by $60.0 million, or 3.0%, to $1.94 billion
at June 30, 2004 from $2.0 billion at June 30, 2003, primarily due to a $76.2
million net outflow of deposits, partially offset by an $18.5 million increase
in Federal Home Loan Bank advances.
The decrease in total assets was most pronounced in cash and cash
equivalents, which decreased $286.2 million, or 87.9%, to $39.5 million at June
30, 2004 from $325.7 million at June 30, 2003, in order to offset the
aforementioned deposit outflow and to fund increases in the securities
portfolios. The securities portfolios, including both securities available for
sale and securities held to maturity, increased $242.0 million, or 24.0%, to
$1.25 billion at June 30, 2004, from $1.01 billion at June 30, 2003. Investment
securities held to maturity increased $148.6 million, or 51.7%, to $435.9
million at June 30, 2004, from $287.3 million at June 30, 2003. Mortgage-backed
securities held to maturity increased $89.8 million, or 13.2%, to $771.4 million
at June 30, 2004, from $681.6 million at June 30, 2003. In both cases, the
increases were the result of investing funds previously held in cash equivalents
in order to increase overall yield. We would not expect further similarly large
investments of the funds currently held in cash equivalents into the securities
portfolio since a sufficient amount of cash equivalents is necessary to maintain
sufficient liquidity.
Loans receivable decreased marginally to $505.8 million at June 30,
2004, from $509.2 million at June 30, 2003. One-to -four family residential
mortgage loans decreased by $8.2 million to $358.2 million from $366.4 million,
as repayments exceeded originations and purchases during the year ended June 30,
2004. Multi-family and commercial real estate mortgage loans increased by $12.3
million to $83.4 million, reflecting our strategy to build this part of our loan
portfolio.
The West Essex Bancorp, Inc. merger was consummated on July 1, 2003. As
a result, goodwill increased $50.6 million, or 159.6%, to $82.3 million at June
30, 2004, from $31.7 million at June 30, 2003. The $67.9 million deposit for
acquisition of West Essex Bancorp, Inc. at June 30, 2003 was paid to West Essex
stockholders.
Premises and equipment increased by $6.8 million, or 34.0%, to $26.6
million from $19.9 million. This increase resulted mainly from a $5.9 million
increase in construction in progress in connection with the construction of our
new 53,000 square feet administrative building in Fairfield, New Jersey. We
began moving management staff and administrative operations into parts of this
building in October 2004 and completed the move-in phase in December 2004.
Total deposits decreased by $76.2 million, or 4.7%, to $1.54 billion at
June 30, 2004, from $1.61 billion at June 30, 2003. The primary factor for this
decrease was the runoff of certificates of deposit due to lower interest rates
paid.
49
Federal Home Loan Bank advances increased $18.5 million, or 24.4%, to
$94.2 million at June 30, 2004 from $75.7 million at June 30, 2003. The increase
in Federal Home Loan Bank advances was used to fund the purchase of investment
securities and mortgage-backed securities held-to-maturity. New advances drawn
were fixed rate borrowings with maturities of less than one year.
Stockholders' equity decreased $2.2 million, or 0.7%, to $293.5 million
at June 30, 2004 from $295.7 million at June 30, 2003, primarily reflecting a
$17.3 million reduction related to the purchase, on July 1, 2003, of 100% of the
outstanding minority owned shares of West Essex Bancorp, Inc., partially offset
by net income of $12.9 million for the twelve months ended June 30, 2004, along
with an increase in accumulated other comprehensive income of $2.3 million
reflecting an increase in the unrealized gain on available for sale securities.
Comparison of Operating Results for the Years Ended June 30, 2004 and June 30,
2003
General. Net income for the year ended June 30, 2004 was $12.9 million,
an increase of $8.8 million, or 218.1%, from $4.1 million for 2003. The increase
in net income resulted primarily from a decrease in non-interest expense
primarily due to significantly lower merger related expenses recorded in 2004 as
compared to 2003, partially offset by a decrease in net interest income.
Net Interest Income. Net interest income decreased by $5.2 million, or
10.0%, to $46.6 million for the year ended June 30, 2004 from $51.8 million for
the year ended June 30, 2003. The net interest rate spread increased slightly to
2.37% for the year ended June 30, 2004 from 2.36% for 2003. The net interest
margin decreased 16 basis points to 2.59% for the year ended June 30, 2004
compared with 2.75% for the year ended June 30, 2003. The net interest rate
spread changed little as the 76 basis point reduction in the cost of
interest-bearing liabilities was closely matched by the 75 basis point decline
in the average yield on interest-earning assets. The decrease in the net
interest margin is largely reflective of the decrease in the ratio of
interest-earning assets to interest-bearing liabilities to 112.46% for the year
ended June 30, 2004, from 116.54% for the year ended June 30, 2003.
Interest Income. Total interest income decreased $17.8 million, or
18.5%, to $78.7 million for the year ended June 30, 2004, from $96.5 million for
the year ended June 30, 2003, due to decreases in average interest-earning
assets, which declined $87.3 million, or 4.6%, to $1.79 billion from $1.88
billion, and average yield, which declined to 4.38% from 5.13%.
Interest income on loans receivable decreased $7.8 million, or 21.3%,
to $28.9 million for the year ended June 30, 2004, from $36.7 million for the
year ended June 30, 2003. The primary factor for the decrease in interest income
on loans was a decrease in the average yield on loans to 5.79% for the year
ended June 30, 2004, from 6.71% for the year ended June 30, 2003 which was
accompanied by a $47.0 million decrease in the average balance of loans
receivable from $546.5 million for the year ended June 30, 2003, to $499.5
million for the year ended June 30, 2004. The decreased average balance reflects
the high pace of refinancing and prepayment activity which resulted from the low
interest rate environment and which exceeded origination volume. The lower yield
reflects generally lower interest rates on originations and downward rate
adjustments on adjustable rate and floating rate loans.
Interest income on investment securities, including both taxable and
tax-exempt issues, increased $5.3 million, or 58.2%, to $14.4 million for the
year ended June 30, 2004 from $9.1 million for the year ended June 30, 2003. The
increase resulted from an increase of $171.6 million, or 67.6%, in the average
balance of investment securities to $425.3 million during the year ended June
30, 2004 from $253.7 million during the year ended June 30, 2003, partially
offset by a decrease in the average yield on investment
50
securities to 3.39% during the year ended June 30, 2004 from 3.60% during the
year ended June 30, 2003. The lower yield reflects generally lower interest
rates available on securities purchased during the current year. The increased
average balance reflects the reinvestment of cash flows from repayments of loans
and mortgage-backed securities held to maturity, reflecting management's
decision to shift assets from those vulnerable to high prepayments, as well as
the redeployment of cash and cash equivalents, reflecting management's decision
to move assets from low yielding interest-bearing deposits and securities
purchased under agreements to resell into higher yielding securities.
Interest income on mortgage-backed securities decreased $13.8 million,
or 28.9%, to $34.0 million for the year ended June 30, 2004 from $47.8 million
for the year ended June 30, 2003. This was a result of a $162.9 million, or
18.6%, decrease in the average balance of mortgage-backed securities to $713.4
million during the year ended June 30, 2004 from $876.3 million during the year
ended June 30, 2003, along with a decrease in the average yield to 4.76% during
the year ended June 30, 2004 from 5.45% during the year ended June 30, 2003. The
decrease in the average balance of mortgage-backed securities was due to high
repayment levels due to accelerated prepayments and refinancing of the
underlying mortgage loans, with a significant portion of the cash flows being
reinvested in investment securities. The decline in yield resulted from
principal repayments received on older higher yielding securities while new
purchases were made in a lower interest rate environment.
Interest income on securities purchased under agreements to resell and
other interest-earning assets decreased $1.6 million, or 55.2%, to $1.3 million
for the year ended June 30, 2004 from $2.9 million for the year ended June 30,
2003. This was a result of a $49.0 million, or 23.9%, decrease in the average
balance of these assets to $156.3 million during the year ended June 30, 2004
from $205.3 million during the year ended June 30, 2003, along with a decrease
in the average yield to 0.85% during the year ended June 30, 2004 from 1.42%
during the year ended June 30, 2003. The decrease in the average balance was due
to the use of assets in these categories to invest in higher yielding securities
and to fund deposit outflows. The decline in yield resulted from lower
short-term market interest rates.
Interest Expense. Total interest expense decreased $12.6 million, or
28.2%, to $32.1 million for the year ended June 30, 2004 from $44.7 million for
the year ended June 30, 2003, primarily as a result of a decrease in the average
cost of interest-bearing liabilities to 2.01% during the year ended June 30,
2004 from 2.77% during the year ended June 30, 2003. The average balance of
interest-bearing liabilities declined slightly to $1.60 billion during the year
ended June 30, 2004 as compared to $1.61 billion during the year ended June 30,
2003. Average cost decreased due to lower market interest rates prevailing
during the period.
Interest expense on deposits decreased $11.8 million, or 29.6%, to
$28.1 million for the year ended June 30, 2004 from $39.9 million for the year
ended June 30, 2003, primarily due to a decrease in the average cost of
interest-bearing deposits to 1.85% during the year ended June 30, 2004 from
2.63% during the year ended June 30, 2003. The average cost of certificates of
deposit declined to 2.25% from 3.22%, the average cost of savings and club
accounts declined to 1.23% from 1.58%, and the average cost of interest-bearing
demand accounts declined to 0.80% from 1.09%. The average balance of
interest-bearing deposits remained relatively stable overall at $1.52 billion,
although a shift from certificates of deposit to savings and club and demand
accounts took place. Certificates of deposit declined to $963.1 million from
$1.0 billion, savings and club accounts increased to $448.5 million from $417.8
million, and interest-bearing demand accounts increased to $109.8 million from
$98.9 million. This shift in deposit composition reflects the impact of the
lower interest rate environment.
51
Interest expense on Federal Home Loan Bank advances decreased $769,000,
or 16.1%, to $4.0 million for the year ended June 30, 2004 from $4.8 million for
the year ended June 30, 2003, as a result of a decrease in the average balance
to $74.3 million during the year ended June 30, 2004 from $95.9 million during
the year ended June 30, 2003, which more than offset an increase in the average
cost to 5.40% during the year ended June 30, 2004 from 4.99% during the year
ended June 30, 2003. Both the decline in average balance and the increase in
average cost were the result of the repayment of lower cost short-term debt
during 2004.
Provision for Loan Losses. Provisions for loan losses are charged to
operations at a level required to reflect credit losses in the loan portfolio
that are both probable and reasonable to estimate. Management, in determining
the allowance for loan losses, considers the losses inherent in the loan
portfolio and changes in the nature and volume of our loan activities, along
with the general economic and real estate market conditions. We utilize a two
tier approach: (1) identification of impaired loans and establishment of
specific loss allowances on such loans; and (2) establishment of general
valuation allowances on the remainder of our loan portfolio. A specific loan
loss allowance is established for an impaired loan based on delinquency status,
size of loan, type of collateral and/or appraisal of the underlying collateral
and financial condition of the borrower. General loan loss allowances are based
upon a combination of factors including, but not limited to, actual loan loss
experience, composition of the loan portfolio, current economic conditions and
management's judgment.
There was no provision for loan losses made during the years ended June
30, 2004 and 2003. During the year ended June 30, 2004, total loans decreased
slightly to $510.2 million at June 30, 2004 from $512.4 million at June 30,
2003. Non-performing loans were $2.3 million, or 0.46%, of total loans at June
30, 2004, as compared to $2.9 million, or 0.57%, of total loans at June 30,
2003. The allowance for loan losses as a percentage of gross loans outstanding
was 1.01% at both June 30, 2004 and 2003, reflecting balances of $5.1 million
and $5.2 million, respectively. The increase in the ratio of the allowance for
loan losses to non-performing loans to 220.96% at June 30, 2004 from 177.64% at
June 30, 2003 is a result of a $588,000 decrease in non-performing loans from
$2.9 million at June 30, 2003 to $2.3 million at June 30, 2004.
Management assesses the allowance for loan losses monthly. While
management uses available information to recognize losses on loans, future loan
loss provisions may be necessary based on changes in economic conditions. In
addition, regulatory agencies, as an integral part of their examination process,
periodically review the allowance for loan losses and may require us to
recognize additional provisions based on their judgment of information available
to them at the time of their examination. The allowance for loan losses as of
June 30, 2004 was maintained at a level that represented management's best
estimate of losses in the loan portfolio to the extent they were both probable
and reasonably estimable.
Non-Interest Income. Non-interest income decreased $287,000, or 15.5%,
to $1.6 million for the year ended June 30, 2004 compared to $1.8 million for
the year ended June 30, 2003. The decrease was primarily a result of a reduction
in fees and service charge income due to the deposit outflow experienced during
the year.
At June 30, 2004, we had a $3.8 million investment in bank owned life
insurance. The returns on the investment of the cash value of the policy
generate non-interest income. This investment was acquired in our acquisition of
West Essex Bank in 2003 and covers the former president and chief executive
officer and former chief lending officer of West Essex Bank.
52
Non-Interest Expense. Non-interest expense decreased $14.9 million, or
33.6%, to $29.5 million for the year ended June 30, 2004, from $44.4 million for
the year ended June 30, 2003. The decrease was primarily a result of decreases
of $14.3 million in merger related expenses and $440,000 in salaries and
employee benefits.
Merger related expenses decreased $14.3 million to $592,000 for the
year ended June 30, 2004, from $14.9 million for the year ended June 30, 2003.
Included in the amount recorded during the year ended June 30, 2003 are $12.3
million in expenses related to the payout of employment contracts, unexercised
stock options, supplemental benefit plans and incentive stock awards as a result
of both the Pulaski and West Essex mergers. The expenses recorded for the year
ended June 30, 2004, and the remaining expenses for the year ended June 30,
2003, consisted primarily of fees due to attorneys and financial advisors for
their work related to the mergers.
Salaries and employee benefits decreased $440,000, or 2.6%, to $16.5
million for the year ended June 30, 2004, compared to $17.0 million for the year
ended June 30, 2003. The decrease was the result of the elimination of several
management and non-management positions related to the merger with West Essex,
the impact of which more than offset normal increases in salary and benefit
levels.
All other elements of non-interest expense totaled $12.4 million for
the year ended June 30, 2004, a decrease of $111,000, or 0.9%, from the $12.5
million total for the year ended June 30, 2003. This decrease reflects costs
savings realized as a result of the West Essex merger, partially offset by
normal increases in these elements.
Management expects increased expenses in the future as a result of the
establishment of the employee stock ownership plan and the potential stock
benefit plans, as well as increased costs associated with being a public company
such as periodic reporting, annual meetings, retention of a transfer agent, and
professional fees.
Furthermore, non-interest expense for the year ended June 30, 2004 does
not reflect the impact of our new 53,000 square feet administrative building in
Fairfield, New Jersey. We began moving management staff and administrative
operations into parts of this building in October 2004 and completed the move-in
phase in December 2004. The total cost of this building is expected to be
approximately $13.5 million, which cost will be capitalized and amortized over a
forty-year period. Additionally, it is estimated that the annual operating
expense of this new building, excluding depreciation, will be approximately
$450,000. We expect to open a de novo branch office in Lacey, New Jersey in the
first quarter of 2005, with a total cost of approximately $2.3 million. During
2005, we also plan to replace three office locations with new buildings, at an
estimated cost of approximately $1.9 million per branch. Furthermore, in
December of 2004, we acquired a 3.7 acre parcel of land in West Caldwell, New
Jersey for approximately $2.3 million. We intend to construct a branch office at
this location and subdivide and lease to third parties the portion of land not
used for the branch building. Expenses related to the planned expansion of our
operations through de novo branching and the acquisition of branches or other
financial institutions could also impact earnings in future periods.
Provision for Income Taxes. The provision for income taxes increased
$508,000 to $5.7 million for the year ended June 30, 2004 from $5.2 million for
the year ended June 30, 2003. The effective income tax rates were 30.8% for the
year ended June 30, 2004 as compared to 56.4% for the year ended June 30, 2003.
The income tax expense for the year ended June 30, 2003 was higher than usual
due to the presence of non-deductible merger related costs and excess
compensation expenses, partially offset by a tax benefit related to a former
employee benefit plan. The impact of these items was to increase income tax
expense
53
for the year ended June 30, 2003 by approximately $1.9 million. Excluding these
items, the effective tax rate for the year ended June 30, 2003 would have been
36.2%.
Comparison of Operating Results for the Years Ended June 30, 2003 and June 30,
2002
General. Net income for the year ended June 30, 2003 was $4.1 million,
a decrease of $12.4 million, or 75.4%, from $16.5 million for the year ended
June 30, 2002. The decrease in net income was due to a $15.3 million increase in
non-interest expense, primarily attributable to approximately $12.9 million of
expenses related to the West Essex merger and approximately $2.0 million of
expenses related to the Pulaski merger, partially offset by a $2.7 million
decrease in income taxes.
Net Interest Income. Net interest income increased by $78,000, or 0.2
%, to $51.8 million for the year ended June 30, 2003, from $51.7 million for the
year ended June 30, 2002. The net interest rate spread increased slightly to
2.36% for the year ended June 30, 2003 from 2.35% for the year ended June 30,
2002, while the net interest margin decreased during the period to 2.75% from
2.95%. The net interest rate spread changed little as the 94 basis point
reduction in the cost of interest-bearing liabilities was closely matched by the
93 basis point decline in the average yield on interest-earning assets. The
decrease in the net interest margin is largely reflective of the decrease in the
ratio of interest-earning assets to interest-bearing liabilities to 116.54% for
the year ended June 30, 2003, from 119.58% for the year ended June 30, 2002.
Interest Income. Total interest income decreased by $9.7 million, or
9.1%, to $96.5 million for the year ended June 30, 2003 from $106.2 million for
the year ended June 30, 2002. The primary factor for the decrease in interest
income was a decrease in the average yield of interest-earning assets from 6.06%
for the year ended June 30, 2002 to 5.13% for the year ended June 30, 2003.
Partially offsetting the decreased yield was a $129.0 million, or 7.4%, increase
in the average balance of interest-earning assets. Average yield decreased due
to lower market interest rates prevailing during the period. The increase in
average assets was funded by an overall increase in average deposits.
Interest income on loans receivable decreased $6.6 million, or 15.2%,
to $36.7 million for the year ended June 30, 2003, from $43.3 million for the
year ended June 30, 2002. The primary factors for the decrease in loan interest
income were a decrease of $56.6 million in the average balance of loans
receivable along with a decrease in the average yield on loans receivable to
6.71% from 7.17%. The decrease in average loans was the result of the higher
than normal loan repayments which resulted from the low interest rate
environment and which exceeded origination volume. The decrease in the average
yield on loans receivable reflected decreased market rates of interest on
originations as well as downward interest rate adjustments on floating rate and
adjustable rate loans.
Interest income on investment securities, including both taxable and
tax-exempt issues, decreased $794,000, or 8.0%, to $9.1 million for the year
ended June 30, 2003, from $9.9 million for the year ended June 30, 2002. The
decrease resulted from a decrease in the average yield on investment securities
to 3.60% during the year ended June 30, 2003, from 5.25% during the year ended
June 30, 2002, which was partially offset by an increase of $64.6 million, or
34.2%, in the average balance of investment securities to $253.7 million during
the year ended June 30, 2003, from $189.1 million during the year ended June 30,
2002. The lower yield reflects $108.7 million of maturities and calls of higher
yielding issues, as well as the generally lower interest rates available on the
securities purchased during the year ended June 30, 2003. The increased average
balance reflects the reinvestment of a portion of the cash flow from repayments
of loans and mortgage-backed securities held to maturity.
54
Interest income on mortgage-backed securities decreased $2.4 million,
or 4.8%, to $47.8 million for the year ended June 30, 2003 from $50.2 million
for the year ended June 30, 2002. This decrease was a result of a decrease in
the average yield to 5.45% during the year ended June 30, 2003, from 5.93%
during the year ended June 30, 2002, partially offset by an increase of $28.7
million, or 3.4%, in the average balance of mortgage-backed securities to $876.3
million during the year ended June 30, 2003, from $847.6 million during the year
ended June 30, 2002. The decline in yield resulted from principal repayments
received on older higher yielding securities while new purchases were made in a
lower interest rate environment. The change in average balance was not
considered significant.
Interest income on securities purchased under agreements to resell and
other interest-earning assets increased $170,000, or 6.2%, to $2.92 million for
the year ended June 30, 2003, from $2.75 million for the year ended June 30,
2002. This was a result of a $92.3 million, or 81.7%, increase in the average
balance of these assets to $205.3 million during the year ended June 30, 2003,
from $113.0 million during the year ended June 30, 2002, partially offset by a
decrease in the average yield to 1.42% during the year ended June 30, 2003, from
2.44% during the year ended June 30, 2002. The increase in the average balance
was due to the accumulation of assets in these categories which resulted from
heavy repayments on the securities portfolios. The decline in yield resulted
from lower short-term market interest rates.
Interest Expense. Total interest expense decreased $9.7 million, or
17.8%, to $44.7 million for the year ended June 30, 2003 from $54.4 million for
the year ended June 30, 2002, primarily as a result of a decrease in the average
cost of interest-bearing liabilities to 2.77% during the year ended June 30,
2003, from 3.71% during the year ended June 30, 2002, partially offset by a
$149.0, or 10.2%, increase in the average balance of interest-bearing
liabilities to $1.61 billion during the year ended June 30, 2003, as compared to
$1.47 billion during the year ended June 30, 2002. Average cost decreased due to
lower market interest rates prevailing during the period. The growth in average
interest-bearing liabilities is attributed to the growth of the deposit base.
Interest expense on deposits decreased $9.2 million, or 18.7%, to $39.9
million for the year ended June 30, 2003, from $49.1 million for the year ended
June 30, 2002. The decrease in interest expense on deposits primarily resulted
from a decrease in the average cost to 2.63% for the year ended June 30, 2003,
from 3.61% for the year ended June 30, 2002, partially offset by a $160.6
million, or 11.8 %, increase in the average balance of interest-bearing deposits
to $1.52 billion during the year ended June 30, 2003, as compared to $1.36
billion during the year ended June 30, 2002. The decreased average cost was a
result of the decline in market interest rates from 2002 to 2003. The increase
in the average balance of interest-bearing deposits was the result of both
interest credited to accounts and growth of the deposit base. Certificates of
deposit increased to $1.0 billion from $924.0 million, savings and club accounts
increased to $417.8 million from $340.7 million, and interest-bearing demand
accounts increased to $98.9 million from $93.6 million.
Interest expense on Federal Home Loan Bank advances decreased $587,000,
or 10.9%, to $4.8 million for the year ended June 30, 2003, from $5.4 million
for the year ended June 30, 2002, primarily as a result of a decrease in the
average balance of outstanding advances to $95.9 million for the year ended June
30, 2003, from $107.5 million for the year ended June 30, 2002. The average cost
remained relatively unchanged at 4.99% and 5.00%, respectively.
Provision for Loan Losses. Provisions for loan losses are charged to
operations at a level required to reflect credit losses in the loan portfolio
that are both probable and reasonable to estimate. Management, in determining
the allowance for loan losses, considers the losses inherent in the loan
portfolio and changes in the nature and volume of our loan activities, along
with the general economic and real estate market
55
conditions. We utilize a two tier approach: (1) identification of impaired loans
and establishment of specific loss allowances on such loans; and (2)
establishment of general valuation allowances on the remainder of our loan
portfolio. A specific loan loss allowance is established for an impaired loan
based on delinquency status, size of loan, type of collateral and/or appraisal
of the underlying collateral and financial condition of the borrower. General
loan loss allowances are based upon a combination of factors including, but not
limited to, actual loan loss experience, composition of the loan portfolio,
current economic conditions and management's judgment.
There was no provision for losses for the year ended June 30, 2003, as
compared to $3,000 for the year ended June 30, 2002. The overall loan portfolio
reflected an $81.8 million, or 13.8%, decrease in total loans. The allowance for
loan losses as a percentage of gross loans outstanding increased to 1.01% at
June 30, 2003, from 0.87% at June 30, 2002, reflecting balances of $5.2 million
and $5.2 million, respectively. Non-performing loans as a percentage of gross
loans increased only slightly to 0.57% at June 30, 2003, as compared to 0.55% at
June 30, 2002.
Non-Interest Income. Non-interest income increased $82,000, or 4.6%, to
$1.85 million for the year ended June 30, 2003, as compared to $1.77 million for
the year ended June 30, 2002. This minimal increase in non-interest income for
2003, as compared to 2002, was consistent with management's expectations.
Non-Interest Expense. Non-interest expense increased $15.3 million, or
52.6%, to $44.4 million for the year ended June 30, 2003, from $29.1 million for
the year ended June 30, 2002. The increase was primarily a result of a $14.3
million increase in merger related expenses, partially offset by a $2.3 million
decrease in goodwill and intangible asset amortization.
Merger related expenses increased $14.3 million to $14.9 million for
the year ended June 30, 2003, from $619,000 for the year ended June 30, 2002.
Included in the amount recorded during the year ended June 30, 2003, are $12.3
million in expenses related to the payout of employment contracts, unexercised
stock options, supplemental benefit plans and incentive stock awards as a result
of both the Pulaski and West Essex mergers. The remaining expenses recorded for
the year ended June 30, 2003, and for the year ended June 30, 2002, consisted
primarily of fees due attorneys and financial advisors for their work related to
the mergers.
Goodwill and intangible asset amortization decreased to $636,000 for
the year ended June 30, 2003, from $2.9 million for the year ended June 30,
2002, due to the adoption, effective July 1, 2003, of Statement of Financial
Accounting Standards No. 142, "Goodwill and Other Intangible Assets." Statement
No. 142 eliminated the amortization of goodwill and, accordingly, no goodwill
related amortization expense was recognized during the year ended June 30, 2003.
Goodwill amortization totaled $2.3 million during the year ended June 30, 2002.
All other elements of non-interest expense totaled $28.8 million for
the year ended June 30, 2003, an increase of $3.3 million, or 12.9%, over the
$25.5 million amount for the year ended June 30, 2002. The increases in these
elements are attributable to the growth of the institution and were reflected in
salary and employee benefits, net occupancy expenses, equipment, advertising,
and miscellaneous expenses.
Provision for Income Taxes. The provision for income taxes decreased
$2.7 million to $5.2 million for the year ended June 30, 2003, from $7.9 million
for the year ended June 30, 2002. The effective income tax rates were 56.4% for
the year ended June 30, 2003, as compared to 32.5% for the year ended June 30,
2002. The income tax expense for the year ended June 30, 2003, was higher than
56
usual due to the presence of non-deductible merger related costs and excess
compensation expenses, partially offset by a tax benefit related to a former
employee benefit plan. The impact of these items was to increase income tax
expense for the year ended June 30, 2003, by approximately $1.9 million.
Excluding these items, the effective tax rate for the year ended June 30, 2003,
would have been 36.2%. The effective tax rate for the year ended June 30, 2003,
was expected to be higher than in the preceding year due to the effect of a
change in the New Jersey statutory tax rate whereby the statutory tax rate was
increased from 3% to 9% effective January 1, 2002.
57
Average Balance Sheet. The following table sets forth certain
information relating to Kearny Financial Corp. at and for the periods indicated.
The average yields and costs are derived by dividing income or expense by the
average balance of assets or liabilities, respectively, for the periods
presented. Average balances are derived from daily, weekly and monthly balances.
Management does not believe that the use of other than daily balances has caused
any material differences in the information presented in the table.
For the Year Ended June 30,
At June 30, ---------------------------------------------------------------------------------------
2005 2005 2004 2003
------------- ---------------------------------------------------------------------------------------
Actual Average Average Average
Actual yield/ Average Yield/ Average Yield/ Average Yield/
Balance Cost Balance Interest Cost Balance Interest Cost Balance Interest Cost
------- ---- ------- -------- ---- ------- -------- ---- ------- -------- ----
(Dollars in thousands)
Interest-earning assets:
Loans receivable,
net(1).................$ 558,018 5.59% $ 517,746 $29,311 5.66% $ 499,510 $28,919 5.79% $546,521 $36,673 6.71%
Mortgage-backed
securities held
to maturity............ 758,121 4.74 740,417 33,954 4.59 713,422 33,980 4.76 876,348 47,764 5.45
Investment
securities:(2)
Tax-exempt............ 204,629 3.79 180,513 6,873 3.81 141,630 5,702 4.03 98,626 4,346 4.41
Taxable............... 299,060 3.25 309,740 9,663 3.12 283,708 8,724 3.07 155,051 4,787 3.09
Securities
purchased under
agreements to
resell................. - 0.00 - - 0.00 95,385 982 1.03 118,077 1,577 1.34
Other interest-earning
assets(3)............... 134,543 3.36 114,916 2,642 2.30 60,885 347 0.57 87,238 1,345 1.54
---------- ---------- ------- ---------- ------- ---------- -------
Total
interest-
earning assets...... 1,954,371 4.56 1,863,332 82,443 4.42 1,794,540 78,654 4.38 1,881,861 96,492 5.13
---------- ---------- ------- ---------- ------- ---------- -------
Non-interest-
earning assets.......... 152,634 151,055 144,698 83,357
---------- ---------- ---------- ----------
Total assets..........$2,107,005 $2,014,387 $1,939,238 $1,965,218
========== ========== ========== ==========
Interest-bearing
liabilities:
Interest-bearing
demand.................$ 99,308 0.78 $ 105,503 752 0.71 $ 109,830 882 0.80 98,926 1,074 1.09
Savings and club......... 450,211 1.12 533,131 5,422 1.02 448,509 5,508 1.23 417,780 6,604 1.58
Certificates of
deposit................ 923,116 2.81 873,907 20,360 2.33 963,089 21,692 2.25 1,002,229 32,230 3.22
Federal Home Loan
Bank advances.......... 61,687 5.47 80,990 3,890 4.80 74,340 4,018 5.40 95,853 4,787 4.99
---------- ---------- ------- ---------- ------- ---------- -------
Total interest-
bearing
liabilities......... 1,534,322 2.29 1,593,531 30,424 1.91 1,595,768 32,100 2.01 1,614,788 44,695 2.77
Non-interest-bearing ------- ------- ------
liabilities............ 67,201 71,119 57,846 56,217
---------- ---------- ---------- ----------
Total liabilities..... 1,601,523 1,664,650 1,653,614 1,671,005
Stockholders' equity...... 505,482 349,737 285,624 294,213
---------- ---------- ---------- ----------
Total liabilities
and stockholders'
equity..............$2,107,005 $2,014,387 $1,939,238 $1,965,218
========== ========== ========== ==========
Net interest income....... $52,019 $46,554 $51,797
======= ======= =======
Interest rate
spread(4)............... 2.27% 2.51% 2.37% 2.36%
==== ==== ==== ====
Net yield on
interest-earning
assets(5)............... 2.79% 2.59% 2.75%
==== ==== ====
Ratio of average
interest-earning
assets to average
interest-bearing
liabilities............. 1.27x 1.17x 1.12x 1.17x
==== ==== ==== ====
_________________
(1) Non-accruing loans have been inccluded in loans receivable, and the effect
of such inclusion was not material.
(2) Includes both available for sale and held to maturity securities.
(3) Includes interest-bearing deposits at other banks, federal funds purchased
and Federal Home Loan Bank of New York capital stock.
(4) Interest rate spread represents the difference between the average yield on
interest-earning assets and the average cost of interest-bearing
liabilities.
(5) Net yield on interest-earning assets represents net interest income as a
percentage of average interest-earning assets.
58
Rate/Volume Analysis. The following table reflects the sensitivity of
Kearny Financial Corp.'s interest income and interest expense to changes in
volume and in prevailing interest rates during the periods indicated. Each
category reflects the: (1) changes in volume (changes in volume multiplied by
old rate); (2) changes in rate (changes in rate multiplied by old volume); and
(3) net change. The net change attributable to the combined impact of volume and
rate has been allocated proportionally to the absolute dollar amounts of change
in each.
Year Ended June 30, Year Ended June 30,
-------------------------------- --------------------------------
2005 vs. 2004 2004 vs. 2003
-------------------------------- --------------------------------
Increase (Decrease) Increase (Decrease)
Due to Due to
-------------------------------- --------------------------------
Volume Rate Net Volume Rate Net
-------- -------- -------- -------- -------- --------
(In thousands)
Interest and dividend income:
Loans receivable ................................ $ 1,047 $ (655) $ 392 $ (2,989) $ (4,765) $ (7,754)
Mortgage-backed securities held to maturity ..... 1,234 (1,260) (26) (8,201) (5,583) (13,784)
Investment securities:
Tax-exempt .................................... 1,497 (326) 1,171 1,758 (402) 1,356
Taxable ....................................... 797 142 939 3,968 (31) 3,937
Securities purchased under agreements to resell.. (491) (491) (982) (270) (325) (595)
Other interest-earning assets ................... 519 1,776 2,295 (323) (675) (998)
-------- -------- -------- -------- -------- --------
Total interest-earning assets .................. $ 4,603 $ (814) $ 3,789 $ (6,057) $(11,781) $(17,838)
======== ======== ======== ======== ======== ========
Interest expense:
Interest-bearing demand ......................... $ (34) $ (96) $ (130) $ 112 $ (304) $ (192)
Savings and club ................................ 944 (1,030) (86) 456 (1,552) (1,096)
Certificates of deposit ......................... (2,076) 744 (1,332) (1,210) (9,328) (10,538)
Advances from Federal Home Loan Bank ............ 341 (469) (128) (1,138) 369 (769)
-------- -------- -------- -------- -------- --------
Total interest-bearing liabilities ............ $ (825) $ (851) $ (1,676) $ (1,780) $(10,815) $(12,595)
======== ======== ======== ======== ======== ========
Change in net interest income .................... $ 5,428 $ 37 $ 5,465 $ (4,277) $ (966) $ (5,243)
======== ======== ======== ======== ======== ========
59
Liquidity and Commitments
We are required to have enough investments that qualify as liquid
assets in order to maintain sufficient liquidity to ensure a safe and sound
operation. Liquidity may increase or decrease depending upon the availability of
funds and comparative yields on investments in relation to the return on loans.
Historically, we have maintained liquid assets above levels believed to be
adequate to meet the requirements of normal operations, including potential
deposit outflows. Cash flow projections are regularly reviewed and updated to
assure that adequate liquidity is maintained.
Our liquidity, represented by cash and cash equivalents, is a product
of our operating, investing and financing activities. The largest uses of cash
by investing activities during the year ended June 30, 2005 was to fund a $52.2
million increase in loans receivable, net and the purchase of $34.2 million of
investment securities held to maturity. At June 30, 2005, our cash and cash
equivalents totaled $139.9 million, as compared to $39.5 million at June 30,
2004. Cash and cash equivalents increased $100.4 million, or 254.2%, due to the
proceeds from the initial public offering completed in February 2005. We
invested some of the proceeds in investment securities held to maturity,
particularly tax-exempt securities. Demand for mortgages contributed to the
decrease in mortgage-backed securities, with the reinvestment of principal and
interest payments into mortgage loans, supplemented by the investment of cash
and cash equivalents from the initial public offering.
At June 30, 2005, our total deposits were $1.53 billion, compared to
$1.54 billion at June 30, 2004, and our Federal Home Loan Bank of New York
borrowings were $61.7 million compared to $94.2 million a year earlier. The
primary factor for the decrease in deposits was the runoff of certificates of
deposit due to low interest rates and a movement by customers to alternative
investment opportunities in the marketplace in the first half of fiscal 2005.
However, rising short-term interest rates reversed the trend during the second
half of the year. We also saw $40.4 million of deposits, net of
oversubscriptions withdrawn to purchase the Company's common stock during the
initial public offering. Federal Home Loan Bank advances decreased as we
replaced short-term advances borrowed earlier in the year to fund commitments to
purchase securities, with proceeds from the initial public offering completed in
February 2005.
Our primary sources of funds are deposits, amortization, prepayments
and maturities of mortgage-backed securities and outstanding loans, maturities
of investment securities and other short-term investments and funds provided
from operations. While scheduled payments from the amortization of loans and
mortgage-backed securities and maturing investment securities and short-term
investments are relatively predictable sources of funds, deposit flows and loan
and mortgage-backed securities prepayments are greatly influenced by general
interest rates, economic conditions and competition. In addition, we invest
excess funds in short-term interest-earning assets, which provide liquidity to
meet lending requirements. We also generate cash through borrowings.
Liquidity management is both a daily and long-term function of business
management. Excess liquidity is generally invested in short-term investments
such as overnight deposits or U.S. agency securities. We use our sources of
funds primarily to meet our ongoing commitments, to pay maturing certificates of
deposit and savings withdrawals, to fund loan commitments and to maintain our
portfolio of mortgage-backed securities and investment securities. At June 30,
2005, the total approved loan origination commitments outstanding amounted to
$33.7 million and there were no commitments to purchase participation interests
in loans. At the same date, unused lines of credit were $30.0 million and
construction loans in process were $6.5 million. Certificates of deposit
scheduled to mature in one year or less at June 30, 2005, totaled $701.7
million. The average cost of deposits increased throughout fiscal
60
2005. Management's policy is to maintain deposit rates at levels that are
competitive with other local financial institutions and this caused our average
cost of deposits to increase as short-term interest rates increased during the
year. Based on the competitive rates and on historical experience, management
believes that a significant portion of maturing deposits will remain with Kearny
Federal Savings Bank. At June 30, 2005, the total collateralized borrowing limit
was $106.7 million, of which we had $61.7 million outstanding, giving us the
ability at June 30, 2005, to borrow an additional $45.0 million from the Federal
Home Loan Bank of New York as a funding source to meet commitments and for
liquidity purposes.
If the need for additional borrowing arises, we have the option of
pledging additional collateral to significantly increase our collateralized
borrowing limit and enable us to obtain advances up to a total borrowing limit
of 25% of our assets. For example, in the event that we are unable or unwilling
to pay market rates on the significant amount of certificates of deposit
maturing in one year or less, we could obtain replacement funding by pledging
additional collateral, thus securing a greater borrowing limit and generating
the ability to borrow additional funds from the Federal Home Loan Bank. At June
30, 2005, our total Federal Home Loan Bank borrowing limit was $526.8 million
and we had the ability to pledge additional collateral to increase our
collateralized borrowing limit from $106.7 million to the full $526.8 million
limit. At June 30, 2005, we had $1.26 billion of securities we could pledge as
collateral in order to obtain secured borrowings, of which $106.7 million was
pledged.
As noted above, loan prepayments are greatly influenced by general
interest rates. At June 30, 2005, 82.1% of our loan portfolio consisted of fixed
rate loans with maturities of greater than one year. If a rising interest rate
environment were to occur, we would expect that the rate of prepayments on fixed
rate loans would decrease, thus decreasing the amount of funds coming from
prepayments and reducing our liquidity.
The following table discloses our contractual obligations and
commitments as of June 30, 2005.
Less Than After
Total 1 Year 1-3 Years 4-5 Years 5 Years
----- ------ --------- --------- -------
(In thousands)
Federal Home Loan Bank advances........... $61,687 $582 $43,105 $8,000 $10,000
======= ==== ======= ====== =======
Total................................. $61,687 $582 $43,105 $8,000 $10,000
======= ==== ======= ====== =======
Total
Amounts Less Than Over
Committed 1 Year 1-3 Years 4-5 Years 5 Years
--------- ------ --------- --------- -------
(In thousands)
Lines of credit(1)........................ $27,817 $ 3,059 $ - $ - $24,758
Construction loans in process............. 6,489 6,489 - - -
Other commitments to extend credit(1)..... 35,873 33,573 2,300 - -
------- ------- ------ ------ -------
Total................................. $70,179 $43,121 $2,300 $ - $24,758
======= ======= ====== ====== =======
________________
(1) Represents amounts committed to customers.
Our material capital expenditure plans relate to renovations and
significant improvements to six branch offices, which includes the replacement
of one office location with a new building. Our capital expenditure plans also
include the Lacey, New Jersey de novo branch which is expected to open in
October 2005. We expect to complete such renovations, improvements and
construction by the end of calendar year 2006, and we anticipate approximately
$4.5 million in funds will be required for the plans related to these seven
offices. Furthermore, in December of 2004, we acquired a 3.7 acre parcel of land
in West Caldwell,
61
New Jersey. We intend to construct a branch office at this location and
subdivide and lease to third parties the portion of land not used for the branch
building. Engineering studies continue at this location.
The general business purpose of these expenditures is to maintain and
improve Kearny Federal Savings Bank's facilities. We anticipate that cash flows
from our normal operations will be a sufficient source of funds for these
expenditure plans.
Off-Balance Sheet Arrangements
We are a party to financial instruments with off-balance-sheet risk in
the normal course of our business of investing in loans and securities as well
as in the normal course of maintaining and improving Kearny Federal Savings
Bank's facilities. These financial instruments include significant purchase
commitments, such as commitments related to capital expenditure plans and
commitments to purchase investment securities or mortgage-backed securities, and
commitments to extend credit to meet the financing needs of our customers. At
June 30, 2005, we had no significant off-balance sheet commitments to purchase
securities. Our significant purchase commitments as of June 30, 2005 related to
capital expenditure plans consisted of anticipated post-June 30, 2005
expenditures of approximately $927,000 in connection with the completion of the
de novo branch office in Lacey, New Jersey.
Commitments to extend credit are agreements to lend to a customer as
long as there is no violation of any condition established in the contract.
Commitments generally have fixed expiration dates or other termination clauses
and may require payment of a fee. Our exposure to credit loss in the event of
nonperformance by the other party to the financial instrument for commitments to
extend credit is represented by the contractual notional amount of those
instruments. We use the same credit policies in making commitments and
conditional obligations as we do for on-balance-sheet instruments. At June 30,
2005, the total approved loan origination commitments outstanding amounted to
$33.7 million and commitments to purchase participation interests in loans
totaled $0. At the same date, unused lines of credit were $30.0 million and
construction loans in process were $6.5 million. Since many of the commitments
are expected to expire without being drawn upon, the total commitment amounts do
not necessarily represent future cash requirements. For additional information
regarding our outstanding lending commitments at June 30, 2005, see Note 16 to
the consolidated financial statements contained in this Annual Report on Form
10-K.
Capital
Consistent with its goals to operate a sound and profitable financial
organization, Kearny Federal Savings Bank actively seeks to maintain a well
capitalized institution in accordance with regulatory standards. As of June 30,
2005, Kearny Federal Savings Bank exceeded all capital requirements of the
Office of Thrift Supervision. Kearny Federal Savings Bank's regulatory capital
ratios at June 30, 2005 were as follows: core capital 15.94%; Tier I risk-based
capital 43.92%; and total risk-based capital 45.19%. The regulatory capital
requirements to be considered well capitalized are 5.0%, 6.0% and 10.0%,
respectively.
Impact of Inflation
The financial statements included in this document have been prepared
in accordance with accounting principles generally accepted in the United States
of America. These principles require the measurement of financial position and
operating results in terms of historical dollars, without considering changes in
the relative purchasing power of money over time due to inflation.
62
Our primary assets and liabilities are monetary in nature. As a result,
interest rates have a more significant impact on our performance than the
effects of general levels of inflation. Interest rates, however, do not
necessarily move in the same direction or with the same magnitude as the price
of goods and services, since such prices are affected by inflation. In a period
of rapidly rising interest rates, the liquidity and maturities of our assets and
liabilities are critical to the maintenance of acceptable performance levels.
The principal effect of inflation on earnings, as distinct from levels
of interest rates, is in the area of non-interest expense. Expense items such as
employee compensation, employee benefits and occupancy and equipment costs may
be subject to increases as a result of inflation. An additional effect of
inflation is the possible increase in the dollar value of the collateral
securing loans that we have made. We are unable to determine the extent, if any,
to which properties securing our loans have appreciated in dollar value due to
inflation.
Recent Accounting Pronouncements
Accounting for Stock-Based Payments: In December 2004, the FASB issued
SFAS No. 123 (revised), "Share-Based Payment." SFAS No. 123 (revised) replaces
SFAS No. 123 and supersedes APB Opinion No. 25. SFAS No. 123 (revised) requires
compensation costs related to share-based payment transactions to be recognized
in the financial statements over the period that an employee provides service in
exchange for the award. Public companies are required to adopt the new standard
using a modified prospective method and may elect to restate prior periods using
the modified retrospective method. Under the modified prospective method,
companies are required to record compensation cost for new and modified awards
over the related vesting period of such awards prospectively and record
compensation cost prospectively for the unvested portion at the date of
adoption, of previously issued and outstanding awards over the remaining vesting
period of such awards. No change to prior periods presented is permitted under
the modified prospective method. Under the modified retrospective method,
companies record compensation costs for prior periods retroactively through
restatement of such periods using the exact pro forma amounts disclosed in the
companies' footnotes. Also, in the period of adoption and after, companies
record compensation cost based on the modified prospective method.
On April 14, 2005, the Securities and Exchange Commission (the "SEC")
adopted a new rule that amends the compliance dates for SFAS No. 123 (revised).
Under the new rule, we are required to adopt SFAS No. 123 (revised) in the first
annual period beginning after June 15, 2005. Early application of SFAS No. 123
(revised) is encouraged, but not required. Accordingly, we are required to
record compensation expense for all new awards granted and any awards modified
after July 1, 2006. In addition, the transition rules under SFAS No. 123
(revised) will require that, for all awards outstanding at July 1, 2006, for
which the requisite service has not yet been rendered, compensation cost be
recorded as such service is rendered after July 1, 2006.
The pronouncement related to stock-based payments will not have any
effect on our existing historical consolidated financial statements as we do not
presently have stock-based compensation plans and as restatements of previously
reported periods will not be required.
Accounting For Variable Interest Entities: In December 2003, the FASB
issued a revision to Interpretation 46, "Consolidation of Variable Interest
Entities," which established standards for identifying a variable interest
entity ("VIE") and for determining under what circumstances a VIE should be
consolidated with its primary beneficiary. Application of this interpretation is
required in financial statements of public entities that have interests in
special-purpose entities for periods ending after December
63
15, 2003. Application by public entities, other than small business issuers, for
all other types of VIE is required in financial statements for periods ending
after March 15, 2004. Small business issuers must apply this interpretation to
all other types of VIE at the end of the first reporting period ending after
December 15, 2004. The adoption of this interpretation has not had and is not
expected to have a material effect on our financial position or results of
operations.
Accounting for Certain Financial Instruments with Characteristics of
both Liabilities and Equity: In May 2003, the FASB issued SFAS No. 150,
"Accounting for Certain Financial Instruments with Characteristics of both
Liabilities and Equity." SFAS No. 150 establishes standards for how a company
classifies and measures certain financial instruments with characteristics of
both liabilities and equity as well as their classification in the company's
statement of financial position. It requires that the company classify a
financial instrument that is within its scope as a liability when that
instrument embodies an obligation of the issuer. SFAS No. 150 did not have any
impact on our consolidated financial statements.
Amendment of SFAS No. 133 on Derivative Instruments and Hedging
Activities: On April 30, 2003, the FASB issued SFAS No. 149, "Amendment of
Statement 133 on Derivative Instruments and Hedging Activities." SFAS No. 149
amends and clarifies accounting for derivative instruments, including certain
derivative instruments embedded in other contracts, and for hedging activities
under SFAS No. 133. With a number of exemptions, SFAS No. 149 is effective for
contracts entered into or modified after June 30, 2003. The adoption of SFAS No.
149 did not have a material impact on our consolidated financial statements.
Guarantor's Accounting and Disclosure Requirements for Guarantees,
Including Indirect Guarantees of Indebtedness of Others: In November 2002, the
FASB issued FASB Interpretation No. 45, "Guarantor's Accounting and Disclosure
Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of
Others" ("FIN 45"). FIN 45 requires a guarantor entity, at the inception of a
guarantee covered by the measurement provisions of the interpretation, to record
a liability for the fair value of the obligation undertaken in issuing the
guarantee. In addition, FIN 45 elaborates on previously existing disclosure
requirements for most guarantees, including loan guarantees such as standby
letters of credit. We do not have any financial letters of credit at June 30,
2005 or at December 31, 2004.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
-------------------------------------------------------------------
Management of Interest Rate Risk and Market Risk
Qualitative Analysis. Because the majority of our assets and
liabilities are sensitive to changes in interest rates, a significant form of
market risk for us is interest rate risk, or changes in interest rates.
Notwithstanding the unpredictability of future interest rates, management
expects that changes in interest rates may have a significant, adverse impact on
our net interest income.
Our ability to make a profit largely depends on our net interest
income, which could be negatively affected by changes in interest rates. Net
interest income is the difference between:
o the interest income we earn on our interest-earning assets, such as loans
and securities; and
o the interest expense we pay on our interest-bearing liabilities, such as
deposits and amounts we borrow.
The rates we earn on our assets are generally fixed for a contractual
period of time. We, like many savings institutions, have liabilities that
generally have shorter contractual maturities than our assets, such
64
as certificates of deposit, or have no stated maturity, such as savings and
money market deposits. This imbalance can create significant earnings volatility
because market interest rates change over time. In a period of rising interest
rates, the interest income earned on our assets, which consist primarily of
long- term, fixed-rate securities, may not increase as rapidly as the interest
paid on our liabilities.
We are vulnerable to volatility in our earnings as a result of an
increase in interest rates because the majority of our interest-earning assets
consist of long-term, fixed rate assets. At June 30, 2005, 82.1% of our loans
with contractual maturities of greater than one year had fixed rates of
interest, and 77.9% of our total loans had contractual maturities of ten or more
years. At June 30, 2005, we held $758.1 million of mortgage-backed securities,
representing 36.0% of our assets. We invest generally in fixed-rate securities
and substantially all of our mortgage-backed securities at June 30, 2005 had
contractual maturities of ten or more years. In an increasing rate environment,
our cost of funds is expected to increase more rapidly than the interest earned
on our loan portfolio and securities portfolio because our primary source of
funds is deposits with generally shorter maturities than the maturities on our
loans and investment securities. Having interest-bearing liabilities that
reprice more frequently than interest-earning assets will be detrimental during
periods of rising interest rates and could cause our net interest rate spread to
shrink because the increase in the rates we would earn on our securities and
loan portfolios may be less than the increase in the rates we would pay on
deposits and borrowings.
In a period of falling interest rates, prepayments of loans and
mortgage-backed securities generally will increase as borrowers refinance their
debt in order to reduce their borrowing cost. This causes reinvestment risk,
because in a falling rate environment we are generally not able to reinvest
prepayments at rates that are comparable to the rates we earned on the prepaid
loans or securities. A falling rate environment would result in a decrease in
rates we pay on deposits and borrowings, but the decrease in the cost of our
funds may not be as great as the decrease in the yields on our mortgage-backed
securities and loan portfolios. This could cause a narrowing of our net interest
rate spread and could cause a decrease in our earnings.
The Board of Directors has established an Interest Rate Risk Management
Committee, comprised of Directors Hopkins, Regan, Aanensen, Mazza and Parow,
which is responsible for monitoring interest rate risk. Our Chief Financial
Officer also participates in this committee as a management liaison. The
committee meets quarterly to address management of our assets and liabilities,
including review of our short term liquidity position; loan and deposit pricing
and production volumes and alternative funding sources; current investments;
average lives, durations and repricing frequencies of loans and securities; and
a variety of other asset and liability management topics. The results of the
committee's quarterly review are reported to the full Board, which makes
adjustments to our interest rate risk policy and strategies as it considers
necessary and appropriate.
Quantitative Analysis. The following tables present Kearny Federal
Savings Bank's net portfolio value as of June 30, 2005. The net portfolio values
shown in these tables were calculated by the Office of Thrift Supervision, based
on information provided by Kearny Federal Savings Bank.
65
At June 30, 2005
-----------------------------------------------------------------
Net Portfolio Value
Net Portfolio Value as % of Present Value of Assets
---------------------- ---------------------------------------
Changes in Net Portfolio Basis Point
Rates(1) $ Amount $ Change % Change Value Ratio Change
-------- -------- -------- -------- ----------- ------
(Dollars in thousands)
+300 bp 270,156 -138,711 -34% 14.46% -570 bp
+200 bp 317,332 -91,535 -22% 16.52% -365 bp
+100 bp 364,231 -44,635 -11% 18.44% -173 bp
0 bp 408,866 20.17%
-100 bp 438,355 29,488 +7% 21.23% +106 bp
-200 bp 455,020 46,154 +11% 21.76% +159 bp
__________
(1) The-300bp scenario is not shown due to the low prevailing interest rate
environment.
This analysis also indicated that as of June 30, 2005 an immediate and
permanent 2.0% increase in interest rates would cause an approximately 11%
decrease in our net interest income.
Future interest rates or their effect on net portfolio value or net
interest income are not predictable. Computations of prospective effects of
hypothetical interest rate changes are based on numerous assumptions, including
relative levels of market interest rates, prepayments, and deposit run-offs, and
should not be relied upon as indicative of actual results. Certain shortcomings
are inherent in this type of computation. Although certain assets and
liabilities may have similar maturity or periods of repricing, they may react at
different times and in different degrees to changes in the market interest
rates. The interest rate on certain types of assets and liabilities, such as
demand deposits and savings accounts, may fluctuate in advance of changes in
market interest rates, while rates on other types of assets and liabilities may
lag behind changes in market interest rates. Certain assets, such as adjustable
rate mortgages, generally have features which restrict changes in interest rates
on a short-term basis and over the life of the asset. In the event of a change
in interest rates, prepayments and early withdrawal levels could deviate
significantly from those assumed in making calculations set forth above.
Additionally, an increased credit risk may result as the ability of many
borrowers to service their debt may decrease in the event of an interest rate
increase.
Notwithstanding the discussion above, the quantitative interest rate
analysis presented above indicates that a rapid increase in interest rates would
adversely affect our net interest margin and earnings.
Item 8. Financial Statements and Supplementary Data
----------------------------------------------------
The Company's financial statements are contained in this Annual Report
on Form 10-K immediately following Item 15.
Item 9. Changes In and Disagreements With Accountants on Accounting and
--------------------------------------------------------------------------------
Financial Disclosure
--------------------
Not applicable. There were no disagreements or reportable events as
described in Item 304 of Regulation S-K in connection with the merger of the
Company's former independent auditors, Radics & Co., LLC, into the Company's
current independent auditors, Beard Miller Company LLP.
Item 9A. Controls and Procedures
---------------------------------
(a) Evaluation of disclosure controls and procedures. Based on their
evaluation of the Company's disclosure controls and procedures (as defined in
Rule 13a-15(e) under the Securities Exchange
66
Act of 1934 (the "Exchange Act")), the Company's principal executive officer and
principal financial officer have concluded that as of the end of the period
covered by this Annual Report on Form 10-K such disclosure controls and
procedures are effective to ensure that information required to be disclosed by
the Company in reports that it files or submits under the Exchange Act is
recorded, processed, summarized and reported within the time periods specified
in Securities and Exchange Commission rules and forms.
(b) Changes in internal control over financial reporting. During the
last quarter of the year under report, there was no change in the Company's
internal control over financial reporting that has materially affected, or is
reasonably likely to materially affect, the Company's internal control over
financial reporting.
Item 9B. Other Information
---------------------------
None.
PART III
Item 10. Directors and Executive Officers of the Registrant
------------------------------------------------------------
The information that appears under the headings "Section 16(a)
Beneficial Ownership Reporting Compliance" and "Proposal I - Election of
Directors" in the Registrant's definitive proxy statement for the Registrant's
2005 Annual Meeting of Stockholders (the "Proxy Statement") is incorporated
herein by reference.
The Company has adopted a code of ethics that applies to its principal
executive officer, principal financial officer and principal accounting officer.
A copy of the code of ethics is available without charge upon request to the
Corporate Secretary, Kearny Financial Corp., 120 Passaic Avenue, Fairfield, New
Jersey 07004.
Item 11. Executive Compensation
--------------------------------
The above-captioned information appears under the heading "Director and
Executive Officer Compensation" in the Proxy Statement and is incorporated
herein by reference.
Item 12. Security Ownership of Certain Beneficial Owners and Management and
--------------------------------------------------------------------------------
Related Stockholder Matters
---------------------------
(a) Security Ownership of Certain Beneficial Owners
Information required by this item is incorporated herein by
reference to the section captioned "Voting Securities and
Principal Holders Thereof" in the Proxy Statement.
(b) Security Ownership of Management
Information required by this item is incorporated herein by
reference to the section captioned "Proposal I -- Election of
Directors" in the Proxy Statement.
67
(c) Management of the Company knows of no arrangements, including any
pledge by any person of securities of the Company, the operation
of which may at a subsequent date result in a change in control
of the registrant.
(d) Securities Authorized for Issuance Under Equity Compensation
Plans
As of June 30, 2005, the Registrant had no compensation plans under
which equity securities of the Registrant are authorized for issuance.
Item 13. Certain Relationships and Related Transactions
--------------------------------------------------------
The above-captioned information appears under the heading "Certain
Relationships and Related Transactions" in the Proxy Statement and is
incorporated herein by reference.
Item 14. Principal Accountant Fees and Services
------------------------------------------------
The information relating to this item is incorporated herein by
reference to the information contained under the section captioned "Principal
Accounting Fees and Services" in the Proxy Statement.
PART IV
Item 15. Exhibits and Financial Statement Schedules
----------------------------------------------------
(1) The following financial statements and the independent auditors'
report appear in this Annual Report on Form 10-K immediately after this Item 15:
Report of Independent Registered Public Accounting Firm
Consolidated Statements of Financial Condition as of June 30,
2005 and 2004
Consolidated Statements of Income For the Years Ended June 30,
2005, 2004 and 2003
Consolidated Statements of Changes in Stockholders' Equity for
the Years Ended June 30, 2005, 2004 and 2003
Consolidated Statements of Cash Flows for the Years Ended June
30, 2005, 2004 and 2003
Notes to Consolidated Financial Statements
(2) All schedules are omitted because they are not required or
applicable, or the required information is shown in the consolidated financial
statements or the notes thereto.
(3) The following exhibits are filed as part of this report:
3.1 Charter of Kearny Financial Corp.*
3.2 Bylaws of Kearny Financial Corp.*
4 Stock Certificate of Kearny Financial Corp*
10.1 Employment Agreement between Kearny Federal Savings Bank and John N.
Hopkins*+
10.2 Employment Agreement between Kearny Federal Savings Bank and Allan
Beardslee*+
68
10.3 Employment Agreement between Kearny Federal Savings Bank and Albert E.
Gossweiler*+
10.4 Employment Agreement between Kearny Federal Savings Bank and Sharon
Jones*+
10.5 Employment Agreement between Kearny Federal Savings Bank and William C.
Ledgerwood*+
10.6 Employment Agreement between Kearny Federal Savings Bank and Erika
Sacher*+
10.7 Employment Agreement between Kearny Federal Savings Bank and Patrick M.
Joyce*+
10.8 Directors Consultation and Retirement Plan*+
10.9 Benefit Equalization Plan*+
10.10 Benefit Equalization Plan for Employee Stock Ownership Plan*+
11 Statement regarding computation of earnings per share
21 Subsidiaries of the Registrant (see "Item 1. Business - Subsidiary Activity"
herein)
31 Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32 Certification pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
______________
* Incorporated by reference to the identically numbered exhibit to
the Registrant's Registration Statement on Form S-1 (File No.
333-118815).
+ Management or compensatory plan required to be filed as an
exhibit.
69
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
CONSOLIDATED FINANCIAL REPORT
JUNE 30, 2005
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
TABLE OF CONTENTS
PAGE NO.
CONSOLIDATED FINANCIAL STATEMENTS:
Report of Independent Registered Public Accounting Firm F-1
Consolidated Statements of Financial Condition F-2
Consolidated Statements of Income F-3
Consolidated Statements of Changes in Stockholders' Equity F-4
Consolidated Statements of Cash Flows F-6
Notes to Consolidated Financial Statements F-8
BEARD MILLER COMPANY LLP
--------------------------------------------
Certified Public Accountants and Consultants
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors
Kearny Financial Corp. and Subsidiaries
We have audited the accompanying consolidated statements of financial
condition of Kearny Financial Corp. (the "Company") and Subsidiaries as of June
30, 2005 and 2004, and the related consolidated statements of income, changes in
stockholders' equity and cash flows for each of the years in the three-year
period ended June 30, 2005. These consolidated financial statements are the
responsibility of management. Our responsibility is to express an opinion on
these consolidated financial statements based on our audits.
We conducted our audits in accordance with auditing standards of the
Public Company Accounting Oversight Board (United States). Those standards
require that we plan and perform the audits to obtain reasonable assurance about
whether the consolidated financial statements are free of material misstatement.
An audit includes examining, on a test basis, evidence supporting the amounts
and disclosures in the consolidated financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall consolidated financial statement
presentation. We believe our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to in
the second preceding paragraph present fairly, in all material respects, the
consolidated financial position of Kearny Financial Corp. and Subsidiaries as of
June 30, 2005 and 2004, and the consolidated results of their operations and
cash flows for each of the years in the three-year period ended June 30, 2005,
in conformity with accounting principles generally accepted in the United States
of America.
/s/Beard Miller Company LLP
Pine Brook, New Jersey
July 29, 2005
F-1
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
----------------------------------------------------------------------------------------------------------------------------
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
June 30,
---------------------------
2005 2004
------------- ------------
(In Thousands, Except Share
and Per Share Data)
ASSETS
Cash and amounts due from depository institutions $ 16,683 $ 21,008
Interest-bearing deposits in other banks 123,182 18,480
------------ -----------
Cash and Cash Equivalents 139,865 39,488
Securities available for sale 33,591 41,564
Investment securities held to maturity 470,098 435,870
Loans receivable, including net deferred loan costs 2005 $815; 2004 $758 563,434 510,938
Less allowance for loan losses (5,416) (5,144)
------------ -----------
Net Loans Receivable 558,018 505,794
Mortgage-backed securities held to maturity 758,121 771,353
Premises and equipment 34,977 26,649
Federal Home Loan Bank of New York stock ("FHLB") 11,361 11,392
Interest receivable 10,430 9,861
Goodwill 82,263 82,263
Other assets 8,281 12,284
------------ -----------
Total Assets $ 2,107,005 $ 1,936,518
============ ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES
Deposits:
Non-interest bearing $ 56,142 $ 55,377
Interest bearing 1,472,635 1,482,133
------------ -----------
Total Deposits 1,528,777 1,537,510
Advances from FHLB 61,687 94,234
Advance payments by borrowers for taxes 4,627 4,224
Other liabilities 6,432 7,045
------------ -----------
Total Liabilities 1,601,523 1,643,013
------------ -----------
STOCKHOLDERS' EQUITY
Preferred stock, $0.10 par value; 25,000,000 shares authorized; non-issued and
outstanding - -
Common stock, $0.10 par value; 75,000,000 shares authorized; 2005 72,737,500 shares
and 2004 10,000 shares issued and outstanding 7,274 1
Paid-in capital 207,838 499
Retained earnings - substantially restricted 301,857 282,959
Unearned Employee Stock Ownership Plan shares (16,972) -
Accumulated other comprehensive income 5,485 10,046
------------ -----------
Total Stockholders' Equity 505,482 293,505
--------------- ---------------
Total Liabilities and Stockholders' Equity $ 2,107,005 $ 1,936,518
=============== ===============
See notes to consolidated financial statements.
----------------------------------------------------------------------------------------------------------------------------
F-2
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
----------------------------------------------------------------------------------------------------------------------------
CONSOLIDATED STATEMENTS OF INCOME
Years Ended June 30,
----------------------------------------------------
2005 2004 2003
---------- ---------- ----------
(In Thousands, Except Share and Per Share Data)
INTEREST INCOME
Loans $29,311 $28,919 $36,673
Mortgage-backed securities 33,954 33,980 47,764
Investment and available for sale securities 16,536 14,426 9,133
Other interest-earning assets 2,640 1,329 2,922
---------- --------- --------
Total Interest Income 82,441 78,654 96,492
---------- --------- --------
INTEREST EXPENSE
Deposits 26,532 28,082 39,908
Borrowings 3,890 4,018 4,787
---------- --------- --------
Total Interest Expense 30,422 32,100 44,695
---------- --------- --------
Net Interest Income 52,019 46,554 51,797
PROVISION FOR LOAN LOSSES 68 - -
---------- --------- --------
Net Interest Income after Provision for Loan Losses 51,951 46,554 51,797
---------- --------- --------
NON-INTEREST INCOME
Fees and service charges 712 681 1,002
Gain on sale of available for sale securities 7,705 - -
Miscellaneous 1,086 879 845
---------- --------- --------
Total Non-Interest Income 9,503 1,560 1,847
---------- --------- --------
NON-INTEREST EXPENSES
Salaries and employee benefits 20,790 16,522 16,962
Net occupancy expense of premises 3,163 2,523 2,376
Equipment 3,931 3,453 3,142
Advertising 1,176 861 861
Federal insurance premium 554 587 620
Amortization of intangible assets 636 636 636
Directors' fees 886 827 818
Merger related expenses - 592 14,921
Miscellaneous 3,726 3,471 4,016
---------- --------- --------
Total Non-Interest Expenses 34,862 29,472 44,352
---------- --------- --------
Income before Income Taxes 26,592 18,642 9,292
INCOME TAXES 7,694 5,745 5,237
---------- --------- --------
Net Income $18,898 $12,897 $ 4,055
========== ========= ========
NET INCOME PER COMMON SHARE
Basic $0.27 $1,289.70 $337.52
========== ========= ========
Diluted $0.27 $1,289.70 $336.06
========== ========= ========
WEIGHTED AVERAGE NUMBER OF COMMON SHARES OUTSTANDING
Basic 70,997,978 10,000 12,014
========== ========== ========
Diluted 70,997,978 10,000 12,066
========== ========== ========
See notes to consolidated financial statements.
----------------------------------------------------------------------------------------------------------------------------
F-3
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
------------------------------------------------------------------------------------------------------------------------------------
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
Years Ended June 30, 2005, 2004, and 2003
Retained Accumulated
Common Stock Earnings - Unearned Other
--------------- Paid-In Substantially Unearned Incentive Treasury Comprehensive
Shares Amount Capital Restricted ESOP Shares Plan Shares Stock Income Total
------ ------ ------- ---------- ----------- ----------- ----- ------ -----
(In Thousands)
BALANCE - JUNE 30, 2002 13 $ 1 $27,906 $272,983 $ (811) $(419) $(6,249) $ 9,043 $302,454
--------
Comprehensive income:
Net income - - - 4,055 - - - - 4,055
Unrealized loss
on securities
available for
sale, net of
deferred income
tax benefit of $743 - - - - - - - (1,272) (1,272)
--------
Total Comprehensive
Income 2,783
--------
ESOP shares
committed to be
released - - 459 - 148 - - - 607
Incentive Plan
shares earned - - - - - 182 - - 182
Treasury stock
reissued - - (20) - - - 365 - 345
Cash dividends
declared - - - (986) - - - - (986)
Acquisition of Pulaski
Bancorp, Inc. (1) - (9,850) (2,082) - 44 1,601 - (10,287)
Permanent tax benefit
related to stock
options - - 571 - - - - - 571
------ ------- ------------ ------------- ------------ ---------- ------------ ------------- --------
BALANCE - JUNE 30, 2003 12 1 19,066 273,970 (663) (193) (4,283) 7,771 295,669
--------
Comprehensive income:
Net income - - - 12,897 - - - - 12,897
Unrealized gain
on securities
available for
sale, net of
deferred income
tax expense
of $1,296 - - - - - - - 2,275 2,275
--------
Total Comprehensive
Income 15,172
--------
------------------------------------------------------------------------------------------------------------------------------------
F-4
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
------------------------------------------------------------------------------------------------------------------------------------
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (CONTINUED)
Years Ended June 30, 2005, 2004, and 2003
Retained Accumulated
Common Stock Earnings - Unearned Other
--------------- Paid-In Substantially Unearned Incentive Treasury Comprehensive
Shares Amount Capital Restricted ESOP Shares Plan Shares Stock Income Total
------ ------ -------- ------------- ----------- ----------- -------- ------------- ---------
(In Thousands)
Acquisition of West Essex
Bancorp, Inc. (2) $ - $(18,567) $ (3,908) $ 663 $193 $ 4,283 $ - $(17,336)
---- ------ -------- -------- ------ ---- ------- ------- --------
BALANCE - JUNE 30, 2004 10 1 499 282,959 - - - 10,046 293,505
--------
Comprehensive income:
Net income - - - 18,898 - - - - 18,898
Realized gain
on securities
available for
sale, net of
income tax
of $2,697 - - - - - - - (5,008) (5,008)
Unrealized gain
on securities
available for
sale, net of
deferred income
tax expense of $240 - - - - - - - 447 447
--------
Total Comprehensive
Income 14,337
--------
Initial capitalization
from establishment
of mutual
holding company (10) (1) 1 - - - - - -
Proceeds from common
stock offering 72,738 7,274 207,293 - (17,457) - - - 197,110
ESOP shares committed
to be released - - 45 - 485 - - - 530
------- ------- ----------- -------- -------- ------ ---- ----------- --------
BALANCE - JUNE 30, 2005 72,738 $ 7,274 $207,838 $301,857 $(16,972) $ - $ - $5,485 $505,482
======= ======= =========== ======== ======== ====== ==== =========== ========
See notes to consolidated financial statements.
------------------------------------------------------------------------------------------------------------------------------------
F-5
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
----------------------------------------------------------------------------------------------------------------------------
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended June 30,
------------------------------------------------
2005 2004 2003
--------- --------- --------
(In Thousands)
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 18,898 $ 12,897 $ 4,055
Adjustments to reconcile net income to net cash provided by
operating activities:
Depreciation and amortization of premises and equipment 1,549 1,314 1,279
Net amortization of premiums, discounts and loan fees
and costs 1,035 2,679 2,260
Deferred income taxes 343 556 (734)
Amortization of intangible assets 636 636 636
Provision for loan losses 68 - -
Realized gains on sale of securities available for sale (7,705) - -
(Increase) decrease in interest receivable (569) (1,381) 977
(Increase) decrease in other assets 3,861 (17) (1,461)
(Decrease) in interest payable (57) (376) (375)
Increase (decrease) in other liabilities 1,045 (1,705) 1,944
ESOP expenses 530 - 789
--------- --------- --------
Net Cash Provided by Operating Activities 19,634 14,603 9,370
--------- --------- --------
CASH FLOWS FROM INVESTING ACTIVITIES
Purchases of securities available for sale (202) (152) (180)
Proceeds from sale of securities available for sale 8,866 - -
Purchases of investment securities held to maturity (54,387) (263,187) (261,813)
Proceeds from calls and maturities of investment securities
held to maturity 15,387 111,189 108,705
Proceeds from repayments of investment securities held to maturity 4,797 3,612 73,154
Purchase of loans (1,515) (15,024) (5,687)
Proceeds from sale of student loans - - 338
Net (increase) decrease in loans receivable (50,913) 16,922 86,934
Purchases of mortgage-backed securities held to maturity (163,607) (425,124) (154,799)
Principal repayments on mortgage-backed securities held to
maturity 175,911 334,016 371,915
Additions to premises and equipment (9,877) (8,079) (3,714)
Redemption of FHLB stock 31 2,395 1,954)
Cash paid for acquisition of minority interest in Pulaski
Bancorp, Inc. - - (26,433)
Cash paid for acquisition of minority interest in West Essex
Bancorp, Inc. - - (67,853)
--------- --------- --------
Net Cash Provided by (Used in) Investing Activities (75,509) (243,432) 122,521
--------- --------- --------
See notes to consolidated financial statements.
----------------------------------------------------------------------------------------------------------------------------
F-6
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
-----------------------------------------------------------------------------------------------------------------------------
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
Years Ended June 30,
--------------------------------------------------
2005 2004 2003
--------- --------- --------
(In Thousands)
CASH FLOWS FROM FINANCING ACTIVITIES
Net increase (decrease) in deposits $ (8,714) $(75,836) $134,221
Repayment of FHLB advances (2,547) (11,515) (36,331)
Net change in short-term borrowings from FHLB (30,000) 30,000 -
Increase (decrease) in advance payments by borrowers for taxes 403 11 (445)
Proceeds from issuance of common stock of West Essex
Bancorp, Inc. - - 345
Proceeds from issuance of common stock of Kearny
Financial Corp. 197,110 - -
Dividends paid to minority stockholders of West Essex
Bancorp, Inc. and Pulaski Bancorp, Inc. - - (1,054)
--------- -------- --------
Net Cash Provided by (Used in) Financing Activities 156,252 (57,340) 96,736
--------- -------- --------
Net Increase (Decrease) in Cash and Cash Equivalents 100,377 (286,169) 228,627
CASH AND CASH EQUIVALENTS - BEGINNING 39,488 325,657 97,030
--------- -------- --------
CASH AND CASH EQUIVALENTS - ENDING $139,865 $ 39,488 $325,657
======== ========= ========
SUPPLEMENTAL DISCLOSURES OF CASH FLOWS INFORMATION
Cash paid during the year for:
Income taxes, net of refunds $ 2,090 $ 5,956 $ 6,931
======== ========= ========
Interest $ 30,479 $ 32,476 $ 45,061
======== ========= ========
SUPPLEMENTAL DISCLOSURES OF NON-CASH TRANSACTIONS
Minority interest in consolidated subsidiaries $ - $ 17,336 $ -
======== ========= ========
Goodwill - West Essex acquisition $ - $ 50,517 $ -
======== ========= ========
Deposit for acquisition of West Essex Bancorp, Inc. $ - $ (67,853) $ -
======== ========= ========
See notes to consolidated financial statements.
----------------------------------------------------------------------------------------------------------------------------
F-7
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Financial Statement Presentation
The consolidated financial statements include the accounts of the Company,
its wholly-owned subsidiaries, Kearny Federal Savings Bank (the "Bank") and
Kearny Financial Securities, Inc., and the Bank's wholly-owned
subsidiaries, KFS Financial Services, Inc. and Kearny Federal Investment
Corp., and have been prepared in conformity with accounting principles
generally accepted in the United States of America. All significant
intercompany accounts and transactions have been eliminated in
consolidation.
In preparing the consolidated financial statements, management is required
to make estimates and assumptions that affect the reported amounts of
assets and liabilities as of the dates of the consolidated statements of
financial condition and revenues and expenses for the periods then ended.
Actual results could differ significantly from those estimates. A material
estimate that is particularly susceptible to significant change relates to
the determination of the allowance for loan losses. Management believes
that the allowance for loan losses represents its best estimate of losses
known and inherent in the loan portfolio that are both probable and
reasonable to estimate. While management uses available information to
recognize losses on loans, future additions to the allowance for loan
losses may be necessary based on changes in economic conditions in the
market area.
In addition, various regulatory agencies, as an integral part of their
examination process, periodically review the Bank's allowance for loan
losses. Such agencies may require the recognition of additions to the
allowance based on their judgments about information available to them at
the time of their examination.
Business of the Company and Subsidiaries
The Company's primary business is the ownership and operation of the Bank.
The Bank is principally engaged in the business of attracting deposits from
the general public at its 25 locations in New Jersey and using these
deposits, together with other funds, to invest in securities and to make
loans collateralized by residential and commercial real estate and, to a
lesser extent, consumer loans. The Company's other subsidiary, Kearny
Financial Securities, Inc., was organized in April 2005 under Delaware law
as a Delaware Investment Company primarily to hold investment and
mortgage-backed securities. The Bank's subsidiary, Kearny Federal
Investment Corp. was organized in July 2004 under New Jersey law as a New
Jersey Investment Company primarily to hold investment and mortgage-backed
securities.
Cash and Cash Equivalents
Cash and cash equivalents include cash and amounts due from depository
institutions and interest-bearing deposits in other banks, all with
original maturities of three months or less.
Securities
Investments in debt securities that we have the positive intent and ability
to hold to maturity are classified as held-to-maturity securities and
reported at amortized cost. Debt and equity securities that are bought and
held principally for the purpose of selling them in the near term are
classified as trading securities and reported at fair value, with
unrealized holding gains and losses included in earnings. Debt and equity
securities not classified as trading securities or as held-to-maturity
securities are classified as available for sale securities and reported at
fair value, with unrealized holding gains or losses, net of deferred income
taxes, reported in the accumulated other comprehensive income component of
stockholders' equity.
--------------------------------------------------------------------------------
F-8
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Securities (Continued)
Individual securities are considered impaired when fair value is less than
amortized cost. Management evaluates on a monthly basis whether any
securities are other-than-temporarily impaired. In making this
determination, we consider the extent and duration for the impairment, the
nature and financial health of the issuer, other factors relevant to
specific securities, and our ability and intent to hold securities for a
period of time sufficient to allow for any anticipated recovery in market
value. If a security is determined to be other-than-temporarily impaired,
an impairment loss is charged to operations.
Premiums and discounts on all securities are amortized/accreted to maturity
by use of the level-yield method. Gain or loss on sales of securities is
based on the specific identification method.
Concentration of Risk
The Bank's lending activity is concentrated in loans secured by real estate
located primarily in the State of New Jersey.
Loans Receivable
Loans receivable are stated at unpaid principal balances plus net deferred
loan origination costs and discounts less the allowance for loan losses.
Loan origination fees and certain direct loan origination costs are
deferred and amortized, using the level-yield method, as an adjustment of
yield over the contractual lives of the related loans. Unearned discounts
are accreted by use of the level-yield method over the contractual lives of
the related loans.
Recognition of interest by the accrual method is generally discontinued
when interest or principal payments are ninety days or more in arrears on a
contractual basis, or when other factors indicate that the collection of
such amounts is doubtful. At the time a loan is placed on nonaccrual
status, an allowance for uncollected interest is recorded in the current
period for previously accrued and uncollected interest. Interest on such
loans, if appropriate, is recognized as income when payments are received.
A loan is returned to accrual status when interest or principal payments
are no longer ninety days or more in arrears on a contractual basis and
factors indicating doubtful collectibilty no longer exist.
--------------------------------------------------------------------------------
F-9
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Allowance for Loan Losses
An allowance for loan losses is maintained at a level that represents
management's best estimate of losses known and inherent in the loan
portfolio that are both probable and reasonable to estimate. The allowance
is decreased by loan charge-offs, increased by subsequent recoveries of
loans previously charged off, and then adjusted, via either a charge or
credit to operations, to an amount determined by management to be
necessary. Loans or portions thereof, are charged off when, after
collection efforts are exhausted, they are determined to be uncollectible.
Management of the Bank, in determining the allowance for loan losses,
considers the losses inherent in its loan portfolio and changes in the
nature and volume inherent in its loan activities, along with the general
economic and real estate market conditions. The Bank utilizes a two tier
approach: (1) identification of impaired loans and establishment of
specific loss allowances on such loans; and (2) establishment of general
valuation allowances on the remainder of its loan portfolio. The Bank
maintains a loan review system which allows for a periodic review of its
loan portfolio and the early identification of potential impaired loans.
Such system takes into consideration, among other things, delinquency
status, size of loans, type of collateral and financial condition of the
borrowers. Specific loan loss allowances are established for identified
loans based on a review of such information and/or appraisals of the
underlying collateral. General loan losses are based upon a combination of
factors including, but not limited to, actual loan loss experience,
composition of the loan portfolio, current economic conditions and
management's judgment. Although management believes that specific and
general loan losses are established in accordance with management's best
estimate, actual losses are dependent upon future events and, as such,
further additions to the level of loan loss allowances may be necessary.
A loan evaluated for impairment is deemed to be impaired when, based on
current information and events, it is probable that the Bank will be unable
to collect all amounts due according to the contractual terms of the loan
agreement. All loans identified as impaired are evaluated independently.
The Bank does not aggregate such loans for evaluation purposes. Payments
received on impaired loans are applied first to interest receivable and
then to principal.
Premises and Equipment
Land is carried at cost. Buildings and improvements, furnishings and
equipment and leasehold improvements are carried at cost, less accumulated
depreciation and amortization computed on the straight-line method over the
following estimated useful lives:
Years
------------------
Building and improvements 10 - 50
Furnishings and equipment 4 - 20
Leasehold improvements Shorter of useful
lives or 10
Construction in progress primarily represents facilities under construction
for future use in our business and includes all costs to acquire land and
construct buildings, as well as capitalized interest during the
construction period. Interest is capitalized at the Bank's average cost of
interest-bearing liabilities.
Significant renewals and betterments are charged to the property and
equipment account. Maintenance and repairs are charged to operations in the
year incurred. Rental income is netted against occupancy costs in the
consolidated statements of income.
--------------------------------------------------------------------------------
F-10
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Goodwill and Other Intangible Assets
Goodwill and other intangible assets principally represent the excess cost
over the fair value of the net assets of the institutions acquired in
purchase transactions. Goodwill is evaluated annually by reporting unit and
an impairment loss recorded if indicated. The impairment test is performed
in two phases. The first step of the goodwill impairment test compares the
fair value of the reporting unit with its carrying amount, including
goodwill. If the fair value of the reporting unit exceeds its carrying
amount, goodwill of the reporting unit is considered not impaired; however,
if the carrying amount of the reporting unit exceeds its fair value, an
additional procedure must be performed. That additional procedure compares
the implied fair value of the reporting unit's goodwill (as defined in SFAS
No. 142), with the carrying amount of that goodwill. An impairment loss is
recorded to the extent that the carrying amount of goodwill exceeds its
implied fair value. Fair value is determined by a combination of the
Comparable Transaction and Discounted Cash Flow approaches. No impairment
charges were required to be recorded in the years ended June 30, 2005, 2004
or 2003. If an impairment loss is determined to exist in the future, such
loss will be reflected as an expense in the consolidated statements of
income in the period in which the impairment loss is determined. Separate
intangible assets, including core deposit intangibles that are not deemed
to have indefinite lives, continue to be amortized over their useful lives,
which is estimated to be ten years.
Income Taxes
The Company and its subsidiaries file consolidated federal income tax
returns. Income taxes are allocated based on the contribution of income to
the consolidated income tax returns. Separate state income tax returns are
filed.
Federal and state income taxes have been provided on the basis of the
reported income. The amounts reflected on our tax returns differ from these
provisions due principally to temporary differences in the reporting of
certain items for financial reporting and income tax reporting purposes.
Deferred income taxes are recorded to recognize such temporary differences.
Interest Rate Risk
The Bank is principally engaged in the business of attracting deposits from
the general public and using these deposits, together with other funds, to
purchase securities and to make loans secured by real estate. The potential
for interest-rate risk exists as a result of the generally shorter duration
of interest-sensitive liabilities compared to the generally longer duration
of interest-sensitive assets. In a rising rate environment, liabilities
will reprice faster than assets, thereby reducing net interest income. For
this reason, management regularly monitors the maturity structure of the
Bank's assets and liabilities in order to measure its level of
interest-rate risk and to plan for future volatility.
Net Income per Common Share
Net income per common share is calculated by dividing net income by the
weighted average number of shares of common stock outstanding. Diluted net
income per common share did not differ from basic net income per common
share as there were no contracts or securities exercisable or which could
be converted into common stock. Though the effective date of the Company's
initial public offering was February 23, 2005, the presentation of basic
and diluted net income per share assumes the effective date of the
transaction was July 1, 2004. The calculation of basic and diluted net
income per share includes the 30% of the outstanding shares sold to the
public as well as the 70% of the outstanding shares held by Kearny MHC and
excludes Kearny Federal Savings Bank Employee Stock Ownership Plan (the
"ESOP") shares that have not been previously allocated to participants or
have not been committed to be released for allocation to participants.
--------------------------------------------------------------------------------
F-11
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Reclassification
Certain amounts as of and for the years ended June 30, 2004 and 2003 have
been reclassified to conform to the current year's presentation.
NOTE 2 - BUSINESS COMBINATIONS
On January 10, 2002, the Company and the Bank, entered into a merger agreement
with Pulaski Bancorp, Inc. ("Pulaski") and its subsidiary, Pulaski Savings Bank
(PSB). On October 18, 2002, the Company purchased Pulaski's common stock held by
public stockholders for $32.90 per share, in cash. The purchase of minority
interest shares was recorded as the acquisition of the noncontrolling interests
of a subsidiary utilizing the purchase method of accounting and the immediately
following mergers of the Company and Pulaski, and the Bank and PSB, were
recorded as a combination of entities under common control. The amount paid to
minority shareholders of Pulaski in excess of their interest in Pulaski amounted
to $16,146,000, which was recorded as goodwill.
On September 11, 2002, the Company and the Bank entered into a merger agreement
with West Essex Bancorp, Inc. (West Essex), West Essex Savings Bank (WESB) and
its 100% owned subsidiaries. On July 1, 2003, the Company purchased West Essex's
common stock held by public stockholders for $35.10 per share, in cash. (The
purchase price was transferred to a third party escrow agent as of June 30,
2003.) The purchase of minority interest shares was recorded as the acquisition
of the noncontrolling interests of a subsidiary utilizing the purchase method of
accounting and the immediately following merger of the Company and West Essex,
and the Bank and WESB, were recorded as a combination of entities under common
control. The amount paid to minority shareholders of West Essex in excess of
their interest in West Essex amounted to $50,517,000, which was recorded as
goodwill.
Merger related expenses include the following:
Years Ended June 30,
-----------------------------------
2005 2004 2003
---------- ------- --------
(In Thousands)
Legal, professional, filing fees and other expenses $ - $ 592 $ 2,670
Payments for terminated employment contracts and stock-based
compensation plans for officers - - 10,657
Stock option payment to directors - - 1,594
--------- ------- --------
$ - $ 592 $ 14,921
========= ======= ========
In addition, compensation expense for the year ended June 30, 2003, included
approximately $1,464,000 and $607,000 in pension and ESOP expense, respectively,
of West Essex Bancorp, Inc.
--------------------------------------------------------------------------------
F-12
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 3 - STOCK OFFERING
On June 7, 2004, the Board of Directors of the Company and the Bank adopted a
plan of stock issuance pursuant to which the Company subsequently sold common
stock representing a minority ownership of the estimated pro forma market value
of the Company to eligible depositors of the Bank. On February 23, 2005, the
Company completed the minority stock offering in which it sold 21,821,250
shares, valued at $10.00 per share, representing 30% of its outstanding common
stock. Kearny MHC (the "MHC") owns the remaining 70% of the outstanding common
stock, or 50,916,250 shares. The MHC is a federally-chartered mutual holding
company organized on March 30, 2001, and is subject to regulation by the Office
of Thrift Supervision. So long as the MHC is in existence, it will continue to
own a majority of the outstanding common stock of the Company. The Office of
Thrift Supervision also regulates the Company and the Bank.
Following the sale of common stock, all depositors who had membership or
liquidation rights with respect to the Bank as of the effective date of the
transaction continue to have such rights solely with respect to the MHC as long
as they continue to hold deposit accounts with the Bank. In addition, all
persons who become depositors of the Bank subsequent to the date of the
transaction have such membership and liquidation rights with respect to the
holding company. Borrowers of the Bank as of the date of the transaction have
the same membership rights in the holding company that they had in the Bank
immediately prior to the date of the transaction as long as their borrowings
remain outstanding.
The minority stock offering resulted in net proceeds of $214.6 million, after
expenses of $3.6 million. The Company used 50% of the net proceeds to make a
capital contribution to the Bank. The Company also provided a term loan to the
Bank's Employee Stock Ownership Plan (the "ESOP") to enable it to purchase
1,745,700 shares of the Company's common stock for the plan.
NOTE 4 - SECURITIES AVAILABLE FOR SALE
June 30, 2005
----------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Carrying
Cost Gains Losses Value
-------- ------ ------ --------
(In Thousands)
Common stock $ 128 $8,423 $ - $ 8,551
Mutual funds 14,134 161 155 14,140
Trust preferred securities due after ten years 10,891 200 191 10,900
------- ------ ------ -------
$25,153 $8,784 $ 346 $33,591
======= ====== ====== =======
--------------------------------------------------------------------------------
F-13
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 4 - SECURITIES AVAILABLE FOR SALE (CONTINUED)
June 30, 2004
----------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Carrying
Cost Gains Losses Value
-------- ------ ------ --------
(In Thousands)
Common stock $ 246 $15,648 $ - $15,894
Mutual funds 13,933 63 97 13,899
Trust preferred securities due after ten years 11,929 69 227 11,771
------- ------- ------- -------
$26,108 $15,780 $ 324 $41,564
======= ======= ======= =======
The age of unrealized losses and fair value of related securities available for
sale at June 30, 2005 and 2004 were as follows:
Less than 12 Months 12 Months or More Total
------------------- ------------------------- --------------------------
Fair Unrealized Fair Unrealized Fair Unrealized
Value Losses Value Losses Value Losses
------- ---------- -------- ----------- ---------- ------------
(In Thousands)
June 30, 2005:
Common stock $ - $ - $ - $ - $ - $ -
Mutual funds - - 7,201 155 7,201 155
Trust preferred
securities - - 5,210 191 5,210 191
------ ------ -------- ----- ------- ----
Total $ - $ - $12,411 $ 346 $12,411 $346
====== ====== ======= ===== ======= ====
June 30, 2004:
Common stock $ - $ - $ - $ - $ - $ -
Mutual funds - - 7,057 97 7,057 97
Trust preferred
securities - - 7,577 227 7,577 227
------ ------ ------- ----- ------- ----
Total $ - $ - $14,634 $ 324 $14,634 $324
====== ====== ======= ===== ======= ====
As of June 30, 2005 and 2004, management has concluded that the unrealized
losses are temporary in nature since they are primarily related to market
interest rates and not related to the underlying credit quality of the issuer of
the securities. Additionally, we have the intent and ability to hold these
investments for a time necessary to recover the amortized cost.
During the year ended June 30, 2005, proceeds from sales of securities available
for sale totaled $8,866,000 and resulted in gross gains of $7,705,000. There
were no sales of securities available for sale during the years ended June 30,
2004 and 2003.
--------------------------------------------------------------------------------
F-14
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 5 - INVESTMENT SECURITIES HELD TO MATURITY
June 30, 2005
----------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Carrying
Cost Gains Losses Value
-------- ------ ------ --------
(In Thousands)
Government agencies:
Within one year $ 17,000 $ - $ 152 $ 16,848
After one year but within five years 235,019 4 4,065 230,958
After five years but within ten years 494 81 - 575
After ten years 12,956 - 112 12,844
-------- ------ ------ --------
265,469 85 4,329 261,225
-------- ------ ------ --------
Obligations of states and political subdivisions:
Within one year 4,202 11 3 4,210
After one year but within five years 16,139 216 78 16,277
After five years but within ten years 99,841 2,453 261 102,033
After ten years 84,447 1,327 298 85,476
-------- ------ ------ --------
204,629 4,007 640 207,996
-------- ------ ------ --------
$470,098 $4,092 $4,969 $469,221
======== ====== ====== ========
--------------------------------------------------------------------------------
F-15
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 5 - INVESTMENT SECURITIES HELD TO MATURITY (CONTINUED)
June 30, 2004
----------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Carrying
Cost Gains Losses Value
-------- ------ ------ --------
(In Thousands)
Government agencies:
After one year but within five years $246,259 $ - $5,223 $241,036
After five years but within ten years 10,493 117 62 10,548
After ten years 17,649 11 104 17,556
-------- ------ ------- --------
274,401 128 5,389 269,140
-------- ------ ------- --------
Obligations of states and political subdivisions:
Within one year 5,386 33 - 5,419
After one year but within five years 13,606 369 54 13,921
After five years but within ten years 65,990 922 991 65,921
After ten years 76,487 394 2,507 74,374
-------- ------ ------ --------
161,469 1,718 3,552 159,635
-------- ------ ------ --------
$435,870 $1,846 $8,941 $428,775
======== ====== ====== ========
There were no sales of investment securities held to maturity during the years
ended June 30, 2005, 2004 and 2003. During the years ended June 30, 2005, 2004
and 2003, proceeds from calls of securities totaled $10,000,000, $111,189,000,
and $108,705,000, respectively, resulting in no gains or losses. At June 30,
2005, investment securities held to maturity with a carrying value of
$243,007,000 are callable within one year.
At June 30, 2005 and 2004, all obligations of states and political subdivisions
were guaranteed by insurance policies issued by various insurance companies.
The age of unrealized losses and fair value of related investment securities
held to maturity at June 30, 2005 and 2004 were as follows:
Less than 12 Months 12 Months or More Total
------------------- ------------------------- --------------------------
Fair Unrealized Fair Unrealized Fair Unrealized
Value Losses Value Losses Value Losses
------- ---------- -------- ----------- ---------- ------------
(In Thousands)
June 30, 2005:
Government agencies $ 754 $ 6 $254,116 $4,323 $254,870 $4,329
Obligations of states
and political subdivisions 19,469 221 32,923 419 52,392 640
------- ---- -------- ------ -------- ------
Total $20,223 $227 $287,039 $4,742 $307,262 $4,969
======= ==== ======== ====== ======== ======
--------------------------------------------------------------------------------
F-16
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 5 - INVESTMENT SECURITIES HELD TO MATURITY (CONTINUED)
Less than 12 Months 12 Months or More Total
------------------- ------------------------- --------------------------
Fair Unrealized Fair Unrealized Fair Unrealized
Value Losses Value Losses Value Losses
------- ---------- -------- ----------- ---------- ------------
(In Thousands)
June 30, 2004:
Government agencies $250,973 $5,285 $16,386 $104 $267,359 $5,389
Obligations of states
and political subdivisions 85,620 3,026 7,365 526 92,985 3,552
-------- ------ ------- ---- -------- ------
Total $336,593 $8,311 $23,751 $630 $360,344 $8,941
======== ====== ======= ==== ======== ======
As of June 30, 2005 and 2004, management has concluded that the unrealized
losses are temporary in nature since they are primarily related to market
interest rates and not related to the underlying credit quality of the issuers
of the securities. Additionally, we have the intent and ability to hold these
investments for the time necessary to recover the amortized cost.
NOTE 6 - LOANS RECEIVABLE
June 30,
-------------------------
2005 2004
-------- --------
(In Thousands)
Real estate mortgage $479,451 $441,667
-------- --------
Commercial business 2,930 5,161
-------- --------
Consumer:
Home equity loans 54,199 37,381
Home equity lines of credit 14,850 15,677
Passbook or certificate 2,831 2,746
Other 264 336
-------- --------
72,144 56,140
-------- --------
Construction 8,094 7,212
-------- --------
Total Loans 562,619 510,180
Deferred loan costs and fees, net 815 758
-------- --------
$563,434 $510,938
======== ========
--------------------------------------------------------------------------------
F-17
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 6 - LOANS RECEIVABLE (CONTINUED)
At June 30, 2005 and 2004, real estate mortgage loans included $382,766,000 and
$358,241,000, respectively, of loans secured by one-to-four-family residential
properties.
The Bank has granted loans to officers and directors of the Company and its
Subsidiaries and to their associates. Related party loans are made on
substantially the same terms, including interest rates and collateral, as those
prevailing at the time for comparable transactions with unrelated persons and do
not involve more than normal risk of collectibility. As of June 30, 2005 and
2004 such loans totaled approximately $1,285,000 and $1,633,000, respectively.
During the year ended June 30, 2005, new loans to related parties totaled $-0-
and repayments totaled approximately $348,000.
The activity in the allowance for loan losses is as follows:
Years Ended June 30,
-------------------------------
2005 2004 2003
------- ------- -------
(In Thousands)
Balance - beginning $ 5,144 $ 5,180 $ 5,170
Provisions charged to operations 68 - -
Loans charged off (9) (36) -
Loans recovered 213 - 10
------- ------- -------
Balance - ending $ 5,416 $ 5,144 $ 5,180
======= ======= =======
At June 30, 2005 and 2004, nonaccrual loans for which the accrual of interest
had been discontinued totaled approximately $1,922,000 and $2,289,000,
respectively. Had these loans been performing in accordance with their original
terms, the interest income recognized for the years ended June 30, 2005, 2004
and 2003, would have been $162,000, $177,000, and $178,000, respectively.
Interest income recognized on such loans was $69,000, $118,000, and $102,000,
respectively.
Impaired loans and related amounts recorded in allowance for loan losses are
summarized as follows:
June 30,
--------------
2005 2004
---- ----
(In Thousands)
Recorded investment in impaired loans with recorded allowance $ - $256
Without recorded allowance - -
---- ----
Total Impaired Loans - 256
Related allowance for loan losses - 115
---- ----
Net Impaired Loans $ - $141
==== ====
$88,000, $-0-, and $-0- was received and recognized for these loans during the
years ended June 30, 2005, 2004 and 2003, respectively. The average balance of
impaired loans during the years ended June 30, 2005, 2004 and 2003 approximated
$235,000, $243,000, and $229,000, respectively.
--------------------------------------------------------------------------------
F-18
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 7 - MORTGAGE-BACKED SECURITIES HELD TO MATURITY
June 30, 2005
----------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Carrying
Cost Gains Losses Value
-------- ------ ------ --------
(In Thousands)
Government National Mortgage Association $ 63,399 $1,767 $ 196 $ 64,970
Federal Home Loan Mortgage Corporation 305,059 2,465 1,712 305,812
Federal National Mortgage Association 389,663 3,985 1,700 391,948
-------- ------ ------ --------
$758,121 $8,217 $3,608 $762,730
======== ====== ====== ========
June 30, 2004
----------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Carrying
Cost Gains Losses Value
-------- ------ ------ --------
(In Thousands)
Government National Mortgage Association $ 94,499 $2,507 $1,487 $ 95,519
Federal Home Loan Mortgage Corporation 314,221 2,472 3,505 313,188
Federal National Mortgage Association 362,633 4,670 3,300 364,003
-------- ------ ------ --------
$771,353 $9,649 $8,292 $772,710
======== ====== ====== ========
Net premiums of approximately $3,613,000 and $3,565,000 at June 30, 2005 and
2004, respectively, are included in the carrying amounts of mortgage-backed
securities held to maturity.
There were no sales of mortgage-backed securities held to maturity during the
years ended June 30, 2005, 2004 and 2003. At June 30, 2005 and 2004, securities
with carrying value of approximately $426,000 and $906,000, respectively, was
pledged to secure public funds on deposit.
The age of unrealized losses and fair value of related mortgage-backed
securities held to maturity at June 30, 2005 and 2004 were as follows:
Less than 12 Months 12 Months or More Total
------------------- ------------------------- --------------------------
Fair Unrealized Fair Unrealized Fair Unrealized
Value Losses Value Losses Value Losses
------- ---------- -------- ----------- ---------- ------------
(In Thousands)
June 30, 2005:
Mortgage-backed
securities $143,550 $ 986 $230,786 $2,622 $374,336 $3,608
======== ====== ======== ====== ======== ======
June 30, 2004:
Mortgage-backed
securities $376,245 $7,977 $ 4,126 $ 315 $380,371 $8,292
======== ====== ========= ====== ======== ======
--------------------------------------------------------------------------------
F-19
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 7 - MORTGAGE-BACKED SECURITIES HELD TO MATURITY (CONTINUED)
As of June 30, 2005 and 2004, management has concluded that the unrealized
losses are temporary in nature since they are primarily related to market
interest rates and not related to the underlying credit quality of the issuers
of the securities. Additionally, we have the intent and ability to hold these
investments for the time necessary to recover the amortized cost.
NOTE 8 - PREMISES AND EQUIPMENT
June 30,
---------------------------
2005 2004
------- -------
(In Thousands)
Land $ 8,984 $ 5,689
Buildings and improvements 27,288 15,800
Leasehold improvements 490 422
Furnishings and equipment 9,455 7,203
Construction in progress 516 7,902
------- -------
46,733 37,016
Less accumulated depreciation and amortization 11,756 10,367
------- -------
$34,977 $26,649
======= =======
NOTE 9 - INTEREST RECEIVABLE
June 30,
---------------------------
2005 2004
------- -------
(In Thousands)
Loans $ 2,266 $2,116
Mortgage-backed securities 3,481 3,514
Investments 4,683 4,231
------- ------
$10,430 $9,861
======= ======
--------------------------------------------------------------------------------
F-20
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 10 - GOODWILL AND OTHER INTANGIBLE ASSETS
Net assets of an institution acquired in a purchase transaction prior to July 1,
2001, were recorded at fair value at the date of acquisition. The Bank also has
finite-lived intangible assets, which are included in other assets, in the form
of core deposit intangibles. These intangibles are being amortized on the
straight line basis over their estimated useful lives of ten years.
Core Deposit
Goodwill Intangibles
-------- -----------
(In Thousands)
Balance at June 30, 2002 $15,600 $ 3,472
Pulaski Savings Bank acquisitions (see Note 2) 16,146 -
Amortization - (636)
------- -------
Balance at June 30, 2003 31,746 2,836
Amortization - (636)
West Essex Savings Bank acquisition (see Note 2) 50,517 -
------- -------
Balance at June 30, 2004 82,263 2,200
Amortization - (636)
------- -------
Balance at June 30, 2005 $82,263 $ 1,564
======= =======
The gross carrying amount of core deposit intangibles was $5,987,000 at both
June 30, 2005 and 2004, while accumulated amortization totaled $4,423,000 and
$3,787,000 at June 30, 2005 and 2004, respectively. Amortization is expected to
total $636,000 in each of the years ending June 30, 2006 and 2007, and $292,000
in the year ending June 30, 2008.
NOTE 11 - DEPOSITS
June 30,
-------------------------------------------------------------
2005 2004
--------------------------- ------------------------------
Weighted Weighted
Average Average
Interest Interest
Amount Rate Amount Rate
------ ---- ------ ----
(Dollars In Thousands)
Non-interest bearing demand $ 56,142 - % $ 55,377 - %
Interest-bearing demand 99,308 0.78 103,648 0.75
Savings and club 450,211 1.12 481,466 1.00
Certificates of deposit 923,116 2.81 897,019 1.92
---------- ----------
$1,528,777 2.08 % $1,537,510 1.48 %
========== ==========
--------------------------------------------------------------------------------
F-21
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 11 - DEPOSITS (CONTINUED)
Certificates of deposit with balances of $100,000 or more at June 30, 2005 and
2004, totaled approximately $209,552,000 and $188,009,000, respectively.
Deposits in excess of $100,000 are not insured by the Federal Deposit Insurance
Corporation.
A summary of certificates of deposit by maturity follows:
June 30,
-----------------------------
2005 2004
-------- --------
(In Thousands)
One year or less $701,710 $709,940
After one to two years 148,557 128,837
After two to three years 43,275 31,624
After three years 29,574 26,618
-------- --------
$923,116 $897,019
======== ========
Interest expense on deposits consists of the following:
Years Ended June 30,
--------------------------------------------------
2005 2004 2003
------- ------- -------
(In Thousands)
Demand $ 752 $ 882 $ 1,074
Savings and clubs 5,422 5,508 6,604
Certificates of deposits 20,358 21,692 32,230
------- ------- -------
$26,532 $28,082 $39,908
======= ======= =======
NOTE 12 - ADVANCES FROM FHLB
June 30,
-------------------------------------------------------------
2005 2004
--------------------------- ------------------------------
Weighted Weighted
Average Average
Interest Interest
Amount Rate Amount Rate
------ ---- ------ ----
(Dollars In Thousands)
Due in one year or less $ - - % $32,000 1.75 %
After one to five years 50,000 5.46 % 50,000 5.46 %
After five to ten years 10,000 5.40 % 10,000 5.40 %
Other borrowings, payable in monthly
installments through February 25,
2008 1,687 6.03 % 2,234 6.03 %
------- -------
$61,687 5.47 % $94,234 4.21 %
======= =======
--------------------------------------------------------------------------------
F-22
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 12 - ADVANCES FROM FHLB (CONTINUED)
At June 30, 2005, of the $60,000,000 in advances due after one through ten
years, $57,000,000 are callable, including $47,000,000 which are callable within
one year.
FHLB advances at June 30, 2005 and 2004, are collateralized by the FHLB capital
stock owned by the Bank and investment securities held to maturity with fair
values totaling approximately $74,583,000 and $126,810,000, respectively.
NOTE 13 - BENEFIT PLANS
Employee Stock Ownership Plan
Effective upon completion of the Company's initial public offering in
February 2005, the Bank established an Employee Stock Ownership Plan
("ESOP") for all eligible employees who complete a twelve-month period of
employment with the Bank, have attained the age of 21 and complete at least
1,000 hours of service in a plan year. The ESOP used $17,457,000 in
proceeds from a term loan obtained from the Company to purchase 1,745,700
shares of Company common stock. The term loan principal is payable over 144
equal installments through March 31, 2017. The interest rate on the term
loan is 5.50%. Each year, the Bank intends to make discretionary
contributions to the ESOP, which will be equal to principal and interest
payments required on the term loan. The ESOP may further pay down the loan
with dividends paid, if any, on the Company common stock owned by the ESOP.
Shares purchased with the loan proceeds provide collateral for the term
loan and are held in a suspense account for future allocations among
participants. Base compensation is the basis for allocation to
participants, of contributions to the ESOP and shares released from the
suspense account, as described by the Plan, in the year of allocation.
The ESOP is accounted for in accordance with Statement of Position 93-6,
"Accounting for Employee Stock Ownership Plans," which was issued by the
American Institute of Certified Public Accountants. Accordingly, ESOP
shares pledged as collateral were initially recorded as unearned ESOP
shares in the consolidated statements of financial condition. Thereafter,
on a monthly basis, 12,123 shares are committed to be released,
compensation expense is recorded equal to the number of shares committed to
be released times the monthly average market price of the shares, and the
committed shares become outstanding for basic net income per common share
computations. ESOP compensation expense was approximately $530,000 for the
year ended June 30, 2005.
At June 30, 2005, the ESOP shares were as follows:
Allocated shares -
Shares committed to be released 48,492
Unearned shares 1,697,208
-----------
Total ESOP Shares 1,745,700
===========
Fair value of unearned shares $20,027,054
===========
--------------------------------------------------------------------------------
F-23
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 13 - BENEFIT PLANS
Thrift Plan
The Bank sponsors the Financial Institutions Thrift Plan (the "Plan"),
pursuant to Section 401(k) of the Internal Revenue Code, for all eligible
employees. Employees may elect to save up to 20% of their compensation. The
Bank will contribute a matching contribution up to 3% of the employee
annual compensation. The Plan expense amounted to approximately $281,000,
$264,000, and $183,000 for the years ended June 30, 2005, 2004 and 2003,
respectively.
Retirement Plan
The Bank has a non-contributory multiple-employer pension plan covering all
eligible employees. Significant actuarial assumptions include the projected
unit credit cost valuation method and an annual investment rate of 8.25%,
8.25%, and 8.25% for the years ended June 30, 2005, 2004 and 2003,
respectively. At the date of latest plan review, the net assets available
for plan benefits exceeded the actuarial present value of accumulated plan
benefits. Data for the actuarial present value of accumulated vested and
non-vested benefits is not determinable for this multiple-employer
retirement plan. During the years ended June 30, 2005, 2004 and 2003, total
pension plan expense and contributions to the plan were approximately
$2,538,000, $1,193,000, and $685,000, respectively.
Benefit Equalization Plan ("BEP")
The Bank has an unfunded non-qualified plan to compensate senior officers
of the Bank who participate in the Bank's qualified benefit plans for
certain benefits lost under such plans by reason of benefit limitations
imposed by Sections 415 and 401 of the Internal Revenue Code. There were
approximately $59,000 in contributions made to and benefits paid under the
BEP during each of the years ended June 30, 2005, 2004 and 2003.
The following table sets forth the BEP's funded status and components of
net periodic pension cost:
June 30,
-------------------------
2005 2004
------ ------
(In Thousands)
Change in benefit obligation:
Benefit obligation - beginning $1,831 $1,328
Service cost 42 24
Interest cost 135 98
Actuarial loss - 440
Benefit payments (59) (59)
------ ------
Benefit obligation - ending $1,949 $1,831
====== ======
Change in plan assets:
Fair value of assets - beginning $ - $ -
Actual return on plan assets - -
Settlements 59 59
Contributions (59) (59)
------ ------
Fair value of assets - ending $ - $ -
====== ======
--------------------------------------------------------------------------------
F-24
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 13 - BENEFIT PLANS (CONTINUED)
Benefit Equalization Plan ("BEP") (Continued)
June 30,
-------------------
2005 2004
------- -------
(In Thousands)
Reconciliation of funded status:
Accumulated benefit obligation $(1,209) $ (985)
======= =======
Projected benefit obligation $(1,949) $(1,831)
Fair value of assets - -
------- -------
Funded status (1,949) (1,831)
Unrecognized prior service cost (58) (50)
Unrecognized net actuarial loss 913 1,035
------- -------
Accrued pension cost included in other liabilities $(1,094) $ (846)
======= =======
Value assumptions:
Discount rate 7.50% 7.50%
Salary increase rate 5.50% 5.50%
Years Ended June 30,
------------------------------------
2005 2004 2003
---- ---- ----
(In Thousands)
Net periodic pension expense:
Service cost $ 42 $ 24 $ 12
Interest cost 135 98 72
Amortization of unrecognized past service costs 8 8 8
Amortization of unrecognized net actuarial 122 77 38
------- ------- -------
$ 307 $ 207 $ 130
======= ======= =======
Valuation assumptions:
Discount rate 7.50% 7.50% 7.50%
Salary increase rate 5.50% 5.50% 5.50%
It is estimated that contributions of approximately $72,000 will be made
during the year ending June 30, 2006.
--------------------------------------------------------------------------------
F-25
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 13 - BENEFIT PLANS (CONTINUED)
Benefit Equalization Plan ("BEP") (Continued)
The following benefit payments, which reflect expected future service, as
appropriate, are expected to be paid:
2006 $ 72,000
2007 79,000
2008 93,000
2009 99,000
2010-2014 688,000
Postretirement Welfare Plan
The Bank has a postretirement group term life insurance plan covering all
eligible employees. The benefits are based on age and years of service. The
plan is unfunded. During the years ended June 30, 2005, 2004 and 2003,
contributions and benefits paid totaled $7,000, $6,000, and $5,000,
respectively. The following table sets forth the accrued accumulated
postretirement benefit obligation and the net periodic postretirement
benefit cost:
June 30,
---------------------
2005 2004
------ ------
(In Thousands)
Change in benefit obligation:
Benefit obligation - beginning $ 409 $ 378
Service cost 20 18
Interest cost 27 22
Actuarial (gain) loss 2 (3)
Premiums/claims paid (7) (6)
Plan amendment - -
----- -----
Benefit obligation - ending $ 451 $ 409
===== =====
Change in plan assets:
Fair value of assets - beginning $ - $ -
Actual return on plan assets - -
Premiums/claims paid 7 6
Contributions (7) (6)
----- -----
Fair value of assets - ending $ - $ -
===== =====
--------------------------------------------------------------------------------
F-26
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 13 - BENEFIT PLANS (CONTINUED)
Postretirement Welfare Plan (Continued)
June 30,
----------------
2005 2004
---- ----
(In Thousands)
Reconciliation of funded status:
Accumulated benefit obligation $(451) $(409)
Fair value of assets - -
----- -----
Funded status (451) (409)
Unrecognized net actuarial loss (7) (9)
Unrecognized prior service cost 63 74
----- -----
Accrued postretirement benefit cost included
in other liabilities $(395) $(344)
===== =====
Value assumptions:
Discount rate 5.63% 6.63%
Salary increase rate 3.00% 4.00%
Years Ended June 30,
-----------------------------
2005 2004 2003
---- ---- ----
(In Thousands)
Net periodic postretirement benefit cost:
Service cost $ 20 $ 18 $ 12
Interest cost 27 22 19
Amortization of unrecognized net actuarial
gain - - -
Amortization of unrecognized past service
liability 11 9 4
----- ----- -----
$ 58 $ 49 $ 35
===== ===== =====
Valuation assumptions:
Discount rate 6.63% 5.75% 7.00%
Salary increase rate 4.00% 3.25% 4.25%
--------------------------------------------------------------------------------
F-27
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 13 - BENEFIT PLANS (CONTINUED)
Postretirement Welfare Plan (Continued)
It is estimated that contributions of approximately $8,000 will be made
during the year ending June 30, 2006.
The following benefit payments, which reflect expected future service, as
appropriate, are expected to be paid:
2006 $ 8,000
2007 8,000
2008 7,000
2009 10,000
2010 12,000
2011-2015 69,000
Directors' Consultation and Retirement Plan ("DCRP")
The Bank has an unfunded retirement plan for non-employee directors. The
benefits are payable based on term of service as a director. During the
years ended June 30, 2005, 2004 and 2003, contributions and benefits paid
totaled $89,000, $89,000, and $51,000, respectively.
The following table sets forth the DCRP's funded status and components of
net periodic cost:
June 30,
-------------------------
2005 2004
--------- --------
(In Thousands)
Change in benefit obligation:
Projected benefit obligation - beginning $ 1,561 $ 1,487
Service cost 86 78
Interest cost 99 83
Actuarial loss 157 2
Annuity payments (89) (89)
Plan amendments 335 -
------- -------
Projected benefit obligation - ending $ 2,149 $ 1,561
======= =======
Change in plan assets:
Fair value of assets - beginning $ - $ -
Actual return on plan assets - -
Settlements 89 89
Contributions (89) (89)
------- -------
Fair value of assets - ending $ - $ -
======= =======
--------------------------------------------------------------------------------
F-28
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 13 - BENEFIT PLANS (CONTINUED)
Directors' Consultation and Retirement Plan ("DCRP") (Continued)
June 30,
--------------------
2005 2004
------- -------
(In Thousands)
Reconciliation of funded status:
Accumulated benefit obligation $(1,879) $(1,361)
======= =======
Projected benefit obligation $(2,149) $(1,561)
Fair value of assets - -
------- -------
Fund status (2,149) (1,561)
Unrecognized transition obligation 175 219
Unrealized net actuarial (gain) loss 150 (7)
Unrecognized prior service cost 643 341
------- -------
Accrued cost included in other liabilities $(1,181) $(1,008)
======= =======
Value assumptions:
Discount rate 5.63% 6.63%
Fee increase rate 3.00% 4.00%
Years Ended June 30,
---------------------------------
2005 2004 2003
------ ------ ------
(In Thousands)
Net periodic plan cost:
Service cost $ 86 $ 78 $ 56
Interest cost 99 83 78
Amortization of unrecognized transition
obligation 44 44 44
Amortization of unrecognized net actuarial
gain - - (2)
Amortization of unrecognized past service
liability 33 33 24
------ ------ ------
$ 262 $ 238 $ 200
====== ====== ======
Valuation assumptions:
Discount rate 6.63% 5.75% 7.00%
Fee increase rate 4.00% 3.25% 4.25%
It is estimated that contributions of approximately $157,000 will be made during
the year ending June 30, 2006.
--------------------------------------------------------------------------------
F-29
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 13 - BENEFIT PLANS (CONTINUED)
Directors' Consultation and Retirement Plan ("DCRP") (Continued)
The following benefit payments, which reflect expected future service, as
appropriate, are expected to be paid:
2006 $157,000
2007 168,000
2008 178,000
2009 187,000
2010 194,000
2011-2015 976,000
NOTE 14 - STOCKHOLDERS' EQUITY AND REGULATORY CAPITAL
The Office of Thrift Supervision (the "OTS") imposes various restrictions or
requirements on the ability of savings institutions to make capital
distributions, including cash dividends. A savings institution that is a
subsidiary of a savings and loan holding company, such as the Bank, must file an
application or a notice with the OTS at least thirty days before making a
capital distribution. A savings institution must file an application for prior
approval of a capital distribution if: (i) it is not eligible for expedited
treatment under the applications processing rules of the OTS; (ii) the total
amount of all capital distributions, including the proposed capital
distribution, for the applicable calendar year would exceed an amount equal to
the savings institution's net income for that year to date plus the
institution's retained net income for the preceding two years; (iii) it would
not adequately be capitalized after the capital distribution; or (iv) the
distribution would violate an agreement with the OTS or applicable regulations.
As a result of the dividend paid by the Bank to the Company in connection with
the acquisition of West Essex and its subsidiaries, it is likely that the Bank
will be required to file an application, rather than a notice, for any planned
capital distributions.
The Bank is subject to various regulatory capital requirements administered by
Federal banking agencies. Failure to meet minimum capital requirements can
initiate certain mandatory - and possibly additional discretionary - actions by
regulators that, if undertaken, could have a direct material effect on the
Bank's consolidated financial statements. Under capital adequacy guidelines and
the regulatory framework for prompt corrective action, the Bank must meet
specific capital guidelines that involve quantitative measures of the Bank's
assets, liabilities, and certain of-balance-sheet items as accumulated under
regulatory accounting practices. The Bank's capital amounts and classification
are also subject to qualitative judgments by the regulators about components,
risk weighting, and other factors.
The OTS may disapprove a notice or deny an application for a capital
distribution if: (i) the savings institution would be undercapitalized following
the capital distribution; (ii) the proposed capital distribution raises safety
and soundness concerns; or (iii) the capital distribution would violate a
prohibition contained in any statute, regulation or agreement. The capital
distributions by Kearny Financial Corp., as a savings and loan holding company,
will not be subject to the OTS capital distribution rules.
--------------------------------------------------------------------------------
F-30
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 14 - STOCKHOLDERS' EQUITY AND REGULATORY CAPITAL (CONTINUED)
Quantitative measures established by regulation to ensure capital adequacy
require the Bank to maintain minimum amounts and ratios of Total and Tier 1
capital (as defined in the regulations) to risk-weighted assets (as defined),
and of Tier 1 capital to adjusted total assets (as defined). The following
tables present a reconciliation of capital per accepted principles generally
accepted in the United States of America ("GAAP") and regulatory capital and
information as to the Bank's capital levels at the dates presented:
June 30,
-----------------------------
2005 2004
-------- --------
(In Thousands)
GAAP capital:
Consolidated capital $505,482 $293,505
Less: Unconsolidated capital of the Company (109,653) (1,520)
-------- --------
Bank capital 395,829 291,985
Less: Unrealized gain on securities (5,485) (10,008)
Goodwill (82,263) (82,263)
Intangible assets (1,564) (2,200)
-------- --------
Core and tangible capital 306,517 197,514
Add: General valuation allowance 5,416 5,029
Unrealized gain on equity securities 3,467 7,026
-------- --------
Total regulatory capital $315,400 $209,569
======== ========
To be Well
Capitalized under
For Capital Adequacy Prompt Corrective
Actual Purposes Action Provisions
------------------------- ------------------------- -----------------------
Amount Ratio Amount Ratio Amount Ratio
------ ----- ------ ----- ------ -----
(Dollars in Thousands)
As of June 30, 2005:
Total capital (to risk-weighted
assets) $315,400 45.19% $=>55,833 =>8.00% $=>69,791 =>10.00%
Tier 1 capital (to risk-weighted
assets) 306,517 43.92 - - =>41,875 => 6.00
Core (Tier 1) capital (to adjusted
total assets 306,517 15.94 =>57,672 =>3.00 =>96,119 => 5.00
Tangible capital (to adjusted total
assets) 306,517 15.94 =>28,836 =>1.50 - -
As of June 30, 2004:
Total capital (to risk-weighted
assets) $209,569 32.56% $=>51,490 =>8.00% $=>64,362 =>10.00%
Tier 1 capital (to risk-weighted
assets) 197,514 30.69 - - =>38,617 => 6.00
Core (Tier 1) capital (to adjusted
total assets 197,514 10.76 =>55,068 =>3.00 =>91,780 => 5.00
Tangible capital (to adjusted total
assets) 197,514 10.76 =>27,534 =>1.50 - -
--------------------------------------------------------------------------------
F-31
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 14 - STOCKHOLDERS' EQUITY AND REGULATORY CAPITAL (CONTINUED)
On January 3, 2005, the most recent notification from the OTS, the Bank was
categorized as well capitalized as of September 30, 2004, under the regulatory
framework for prompt corrective action. There are no conditions existing or
events which have occurred since notification that management believes have
changed the Bank's category.
NOTE 15 - INCOME TAXES
The Bank qualifies as a savings institution under the provisions of the Internal
Revenue Code (the "IRC"). Retained earnings at June 30, 2005, includes
approximately $30.5 million of bad debt allowance, pursuant to the IRC, for
which income taxes have not been provided. If such amount is used for purposes
other than or to absorb bad debts, including distributions in liquidation, it
will be subject to income tax at the then current rate.
The components of income taxes are as follows:
Years Ended June 30,
------------------------------
2005 2004 2003
------- ------- -------
(In Thousands)
Current tax expense:
Federal income $ 6,125 $ 3,600 $ 3,319
State income 1,226 1,589 2,652
------- ------- -------
7,351 5,189 5,971
------- ------- -------
Deferred tax (benefit):
Federal income 325 470 (72)
State income 18 86 (662)
------- ------- -------
343 556 (734)
------- ------- -------
$ 7,694 $ 5,745 $ 5,237
======= ======= =======
--------------------------------------------------------------------------------
F-32
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 15 - INCOME TAXES (CONTINUED)
The following table presents reconciliation between the reported income taxes
and the income taxes which would be computed by applying the normal federal
income tax rate of 35% to income before income taxes:
Years Ended June 30,
---------------------------------
2005 2004 2003
(In Thousands)
Federal income tax expense $ 9,307 $ 6,525 $ 3,252
Increases (reductions) in income taxes resulting from:
Tax exempt interest (2,223) (1,780) (1,301)
New Jersey state tax, net of federal income
tax effect 809 1,106 1,314
Compensation in excess of limit - - 1,548
Nondeductible merger expenses - 207 934
Tax benefit on disqualified distribution - - (610)
Other items, net (199) (313) 100
------- ------- -------
Total income tax expense $ 7,694 $ 5,745 $ 5,237
======= ======= =======
Effective income tax rate 28.93% 30.82% 56.36%
======= ======= =======
The effective income tax rate represents total income tax expense divided by
income before income taxes.
The tax effects of existing temporary differences that give rise to deferred
income tax assets and liabilities are as follows:
June 30,
-----------------
2005 2004
------- -------
(In Thousands)
Deferred income tax assets:
Allowance for loan losses $ 2,212 $ 2,108
Goodwill 453 998
Benefit plans 1,184 1,069
Compensation 167 -
Other 61 71
------- -------
4,077 4,246
------- -------
Deferred income tax liabilities:
Unrealized gain on available for sale securities 2,953 5,410
Depreciation 541 377
Other 89 79
------- -------
3,583 5,866
------- -------
Net deferred income tax (liabilities) assets $ 494 $(1,620)
======= =======
--------------------------------------------------------------------------------
F-33
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 16 - COMMITMENTS
The Bank has non-cancellable operating leases for branch offices. Rental
expenses paid during the years ended June 30, 2005, 2004 and 2003, were
approximately $327,000, $343,000, and $352,000, respectively. Future minimum
rental commitments are as follows:
Year Ended June 30:
2006 $ 314,000
2007 271,000
2008 240,000
2009 203,000
2010 187,000
Thereafter 825,000
----------
$2,040,000
==========
The Bank is a party to financial instruments with off-balance-sheet risk in the
normal course of business to meet the financing needs of its customers. These
financial instruments include commitments to extend credit. The Bank's exposure
to credit loss in the event of nonperformance by the other party to the
financial instrument for commitments to extend credit is represented by the
contractual notional amount of those instruments. The Bank uses the same credit
policies in making commitments and conditional obligations as it does for
on-balance-sheet instruments.
The outstanding loan commitments are as follows:
June 30,
-----------------------
2005 2004
------- -------
(In Thousands)
Mortgage loans $30,594 $23,678
Home equity loans 3,089 4,027
Commercial lines of credit - 265
Construction loans 2,300 4,483
Purchase of participations - 607
Construction loans in process 6,489 5,278
Undisbursed funds from approved lines of credit 27,707 23,817
------- -------
$70,179 $62,155
======= =======
At June 30, 2005, the outstanding mortgage loan commitments include $23,673,000
for fixed rate loans with interest rates ranging from 4.50% to 6.75% and
$6,921,000 for adjustable rate loans with an initial rate ranging from 4.00% to
6.13%. Home equity loan commitments include $2,979,000 of fixed rate loans with
interest rates ranging from 4.38% to 7.00% and $110,000 for adjustable rate
loans with an initial rate of 5.50%. Construction loan commitments are for loans
with interest rates ranging from 1.00% to 1.50% above the prime rate published
in the Wall Street Journal. Undisbursed funds from approved lines of credit are
adjustable rate loans with interest rates ranging from 1.00% below to 2.00%
above the prime rate published in the Wall Street Journal.
--------------------------------------------------------------------------------
F-34
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 16 - COMMITMENTS (CONTINUED)
At June 30, 2004, the outstanding mortgage loan commitments include $22,980,000
for fixed rate loans with interest rates ranging from 4.38% to 6.50% and
$1,698,000 for adjustable rate loans with an initial rate ranging from 3.88% to
6.38%. Home equity loan commitments include $3,019,000 for fixed rate loans with
interest rates ranging from 4.63% to 6.25% and $949,000 for adjustable rate
loans with an initial rate of 4.00%. Commercial lines of credit commitments are
for loans with interest rates ranging from 0.50% to 1.00% above the prime rate
published in the Wall Street Journal. Construction loan commitments are for
loans with interest rates ranging from 1.00% to 1.50% above the prime rate
published in the Wall Street Journal. Commitments to purchase participations are
for loans at a fixed rate, set at the funding date, ranging from 1.35% to 1.36%
above the Federal Home Loan Bank of New York CIP advance rate for ten year or 15
year advances. Undisbursed funds from approved lines of credit are adjustable
rate loans with interest rates ranging from 1.00% below to 2.00% above the prime
rate published in the Wall Street Journal.
Commitments to extend credit are agreements to lend to a customer as long as
there is no violation of any condition established in the contract. Commitments
generally have fixed expiration dates or other termination clauses and may
require payment of a fee. Since many of the commitments are expected to expire
without being drawn upon, the total commitment amounts do not necessarily
represent future cash requirements. The Bank evaluates each customer's
creditworthiness on a case-by-case basis. The amount of collateral obtained if
deemed necessary by the Bank upon extension of credit is based on management's
credit evaluation of the counterparty.
The Bank has established an overnight line of credit and companion (DRA)
commitment, each in the amount of $50,000,000, with the Federal Home Loan Bank
of New York, which expire on December 15, 2005. As of June 30, 2005, no funds
were drawn against these credit lines.
At June 30, 2005, the Bank has commitments for building improvements in the
amount of $927,000. In addition, the Bank also has, in the normal course of
business, commitments for servicers and supplies. Management does not anticipate
losses on any of these transactions.
The Company and subsidiaries are also party to litigation which arises primarily
in the ordinary course of business. In the opinion of management, the ultimate
disposition of such litigation should not have a material adverse effect on the
consolidated financial position of the Company.
NOTE 17 - FAIR VALUE OF FINANCIAL INSTRUMENTS
The following methods and assumptions were used to estimate the fair value of
each class of financial instruments:
Cash and Cash Equivalents and Interest Receivable
The carrying amounts for cash and cash equivalents and interest receivable
approximate fair value because they mature in three months or less.
Securities Available for Sale, Investment Securities Held to Maturity and
Mortgage-Backed Securities Held to Maturity
The fair values for securities available for sale, investment securities
held to maturity and mortgage-backed securities held to maturity are based
on quoted market prices when available. If quoted market prices are not
available, fair value is estimated using quoted market prices for similar
securities.
--------------------------------------------------------------------------------
F-35
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 17 - FAIR VALUE OF FINANCIAL INSTRUMENTS (CONTINUED)
Loans Receivable
The fair value of loans receivable is estimated by discounting the future
cash flows, using the current rates at which similar loans would be made to
borrowers with similar credit ratings and for the same remaining
maturities, of such loans.
Deposits
The fair value of demand, savings and club accounts is equal to the amount
payable on demand at the reporting date. The fair value of certificates of
deposit is estimated using rates currently offered for deposits of similar
remaining maturities. The fair value estimates do not include the benefit
that results from the low-cost funding provided by deposit liabilities
compared to the cost of borrowing funds in the market.
Advances from FHLB
Fair value is estimated using rates currently offered for advances of
similar remaining maturities.
Commitments
The fair value of commitments to fund credit lines and originate or
participate in loans is estimated using fees currently charged to enter
into similar agreements taking into account the remaining terms of the
agreements and the present creditworthiness of the counterparties. For
fixed rate loans commitments, fair value also considers the difference
between current levels of interest and the committed rates. The carrying
value, represented by the net deferred fee arising from the unrecognized
commitment, and the fair value, determined by discounting the remaining
contractual fee over the term of the commitment using fees currently
charged to enter into similar agreements with similar credit risk, are not
considered material for disclosure. The contractual amounts of unfunded
commitments are presented in Note 16.
The carrying amounts and estimated fair values of financial instruments
are as follows:
June 30,
------------------------------------------------------------------
2005 2004
------------------------------- ---------------------------------
Estimated Estimated
Carrying Fair Carrying Fair
Amount Value Amount Value
------ ----- ------ -----
(In Thousands)
Financial assets:
Cash and cash equivalents $ 139,865 $ 139,865 $ 39,488 $ 39,488
Securities available for sale 33,591 33,591 41,564 41,564
Investment securities held to maturity 470,098 469,221 435,870 428,775
Loans receivable 558,018 550,655 505,794 510,437
Mortgage-backed securities held to maturity 758,121 762,730 771,353 772,710
Interest receivable 10,430 10,430 9,861 9,861
Financial liabilities:
Deposits 1,528,777 1,528,203 1,537,510 1,540,029
Advances from FHLB 61,687 63,814 94,234 95,217
--------------------------------------------------------------------------------
F-36
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 17 - FAIR VALUE OF FINANCIAL INSTRUMENTS (CONTINUED)
Limitations
Fair value estimates are made at a specific point in time based on relevant
market information and information about the financial instruments. These
estimates do not reflect any premium or discount that could result from
offering for sale at one time the entire holdings of a particular financial
instrument. Because no market value exists for a significant portion of the
financial instrument, fair value estimates are based on judgments regarding
future expected loss experience, current economic conditions, risk
characteristics of various financial instrument and other factors. These
estimates are subjective in nature, involve uncertainties and matters of
judgment and, therefore, cannot be determined with precision. Changes in
assumptions could significantly affect the estimates.
The fair value estimates are based on existing on-and-of balance sheet
financial instruments without attempting the value of anticipated future
business and the value of assets and liabilities that are not considered
financial instruments. Other significant assets and liabilities that are
not considered financial assets and liabilities include premises and
equipment, and advances from borrowers for taxes and insurance. In
addition, the ramifications related to the realization of the unrealized
gains and losses can have a significant effect on fair value estimates and
have not been considered in any of the estimates.
Finally, reasonable comparability between financial institutions may not be
likely due to the wide range of permitted valuation techniques and numerous
estimates which must be made given the absence of active secondary markets
for many of the financial instruments. This lack of uniform valuation
methodologies introduces a greater degree of subjectivity to these
estimated fair values.
NOTE 18 - PARENT ONLY FINANCIAL INFORMATION
Kearny Financial Corp. operates its wholly owned subsidiaries, Kearny Financial
Securities, Inc. and Kearny Federal Savings Bank and its wholly-owned
subsidiaries. The consolidated earnings of the subsidiaries are recognized by
the Company using equity method of accounting. Accordingly, the consolidated
earnings of the subsidiaries are recorded as increase in the Company's
investment in the subsidiaries. The following are the condensed financial
statements for Kearny Financial Corp. (Parent Company only) as June 30, 2005 and
2004, and for each of the years in the three-year period ended June 30, 2005.
CONDENSED STATEMENTS OF FINANCIAL CONDITION
June 30,
-------------------------
2005 2004
-------- --------
(In Thousands)
ASSETS
Cash and amounts due from depository institutions $ 92,305 $ 1,234
Securities available for sale - 1,104
ESOP loan receivable 17,198 -
Accrued interest receivable 79 3
Investment in subsidiaries 395,831 291,985
Other assets 241 283
-------- --------
$505,654 $294,609
======== ========
--------------------------------------------------------------------------------
F-37
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 18 - PARENT ONLY FINANCIAL INFORMATION (CONTINUED)
CONDENSED STATEMENTS OF FINANCIAL CONDITION
June 30,
------------------------------
2005 2004
---------- ----------
(In Thousands)
LIABILITIES AND STOCKHOLDERS' EQUITY
Due to subsidiaries $ 105 $ 1,104
Other liabilities 67 -
Stockholders' equity (A) 505,482 293,505
---------- ----------
$505,654 $294,609
======== ========
(A) At June 30, 2005, the Company was 70% owned by Kearny MHC, a Mutual Holding
Company. At June 30, 2004, the Company was wholly-owned by Kearny MHC.
CONDENSED STATEMENTS OF INCOME
Years Ended June 30,
--------------------------------
2005 2004 2003
-------- -------- ----------
(In Thousands)
Net interest income $ 1,723 $ 110 $ 86
Gain on sale of available for sale securities 71 - -
Equity in undistributed earnings of subsidiaries 17,988 13,442 5,256
-------- -------- --------
19,782 13,552 5,342
-------- -------- --------
Directors' fees 125 67 32
Merger expense - 592 1,176
Other expenses 126 - 74
-------- -------- --------
251 659 1,282
-------- -------- --------
Income before Income Taxes 19,531 12,893 4,060
Income Tax Expense (Benefit) 633 (4) 5
-------- -------- --------
Net income $ 18,898 $ 12,897 $ 4,055
======== ======== ========
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F-38
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 18 - PARENT ONLY FINANCIAL INFORMATION (CONTINUED)
CONDENSED STATEMENTS OF CASH FLOWS
Years Ended June 30,
-----------------------------------
2005 2004 2003
--------- --------- ---------
(In Thousands)
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 18,898 $ 12,897 $ 4,055
Adjustments to reconcile net income to net
cash provided by (used in) operating
activities:
Equity in undistributed earnings of the
subsidiaries (17,988) (13,442) 89,030
Amortization of premiums - 2 4
Realized gain on sale of securities available
for sale (71) - -
(Increase) decrease in accrued interest
receivable (76) - 40
Decrease in intercompany receivable - - 961
Other assets 63 394 (79)
Other liabilities (932) 16 953
Minority interest in consolidated subsidiaries - - 789
--------- --------- ---------
Net Cash Provided by (Used in) Operating
Activities (106) (133) 95,753
--------- --------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES
Purchase of Pulaski minority interest - - (26,433)
Deposit for acquisition of West Essex minority
interest - - (67,853)
Proceeds from sale of securities available
for sale 1,115 - -
Loan to ESOP (17,457) - -
Repayment of loan to ESOP 259 - -
Capital contributions to subsidiaries (107,307) - -
--------- --------- ---------
Net Cash Used in Investing Activities (123,390) - (94,286)
--------- --------- ---------
--------------------------------------------------------------------------------
F-39
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 18 - PARENT ONLY FINANCIAL INFORMATION (CONTINUED)
CONDENSED STATEMENTS OF CASH FLOWS
Years Ended June 30,
------------------------------
2005 2004 2003
-------- -------- -------
(In Thousands)
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from issuance of common stock of
West Essex Bancorp, Inc. $ - $ - $ 345
Proceeds from issuance of common stock of
Kearny Financial Corp. 214,567 - -
Dividends paid to minority stockholders o)
West Essex Bancorp, Inc. and Pulaski
Bancorp, Inc. - - (1,054
-------- -------- --------
Net Cash Provided by (Used in) Financin)
Activities 214,567 - (709
-------- -------- --------
Net Increase (Decrease) in Cash and Cash
Equivalents 91,071 (133) 758
CASH AND CASH EQUIVALENTS - BEGINNING 1,234 1,367 609
-------- -------- --------
CASH AND CASH EQUIVALENTS - ENDING $ 92,305 $ 1,234 $ 1,367
======== ======== ========
SUPPLEMENTARY DISCLOSURE OF NONCASH TRANSACTIONS
Minority interest in consolidated subsidi$ries - $ 17,336 $ -
======== ======== ========
Goodwill - West Essex acquisition $ - $ 50,517 $ -
======== ======== ========
Deposit for acquisition of West Essex $ - $(67,853) $ -
======== ======== ========
--------------------------------------------------------------------------------
F-40
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 19 - RECENT ACCOUNTING PRONOUNCEMENTS
Accounting for Stock-Based Payments: In December 2004, the FASB issued SFAS No.
123 (revised), "Share-Based Payment." SFAS No. 123 (revised) replaces SFAS No.
123 and supersedes APB Opinion No. 25. SFAS No. 123 (revised) requires
compensation costs related to share-based payment transactions to be recognized
in the financial statements over the period that an employee provides service in
exchange for the award. Public companies are required to adopt the new standard
using a modified prospective method and may elect to restate prior periods using
the modified retrospective method. Under the modified prospective method,
companies are required to record compensation cost for new and modified awards
over the related vesting period of such awards prospectively and record
compensation cost prospectively for the unvested portion at the date of
adoption, of previously issued and outstanding awards over the remaining vesting
period of such awards. No change to prior periods presented is permitted under
the modified prospective method. Under the modified retrospective method,
companies record compensation costs for prior periods retroactively through
restatement of such periods using the exact pro forma amounts disclosed in the
companies' footnotes. Also, in the period of adoption and after, companies
record compensation cost based on the modified prospective method.
On April 14, 2005, the Securities and Exchange Commission (the "SEC") adopted a
new rule that amends the compliance dates for SFAS No. 123 (revised). Under the
new rule, we are required to adopt SFAS No. 123 (revised) in the first annual
period beginning after June 15, 2005. Early application of SFAS No. 123
(revised) is encouraged, but not required. Accordingly, we are required to
record compensation expense for all new awards granted and any awards modified
after July 1, 2006. In addition, the transition rules under SFAS No. 123
(revised) will require that, for all awards outstanding at July 1, 2006, for
which the requisite service has not yet been rendered, compensation cost be
recorded as such service is rendered after July 1, 2006.
The pronouncement related to stock-based payments will not have any effect on
our existing historical consolidated financial statements as we do not presently
have stock-based compensation plans and as restatements of previously reported
periods will not be required.
Accounting For Variable Interest Entities: In December 2003, the FASB issued a
revision to Interpretation 46, "Consolidation of Variable Interest Entities,"
which established standards for identifying a variable interest entity ("VIE")
and for determining under what circumstances a VIE should be consolidated with
its primary beneficiary. Application of this interpretation is required in
financial statements of public entities that have interests in special-purpose
entities for periods ending after December 15, 2003. Application by public
entities, other than small business issuers, for all other types of VIE is
required in financial statements for periods ending after March 15, 2004. Small
business issuers must apply this interpretation to all other types of VIE at the
end of the first reporting period ending after December 15, 2004. The adoption
of this interpretation has not had and is not expected to have a material effect
on our financial position or results of operations.
Accounting for Certain Financial Instruments with Characteristics of both
Liabilities and Equity: In May 2003, the FASB issued SFAS No. 150, "Accounting
for Certain Financial Instruments with Characteristics of both Liabilities and
Equity." SFAS No. 150 establishes standards for how a company classifies and
measures certain financial instruments with characteristics of both liabilities
and equity as well as their classification in the company's statement of
financial position. It requires that the company classify a financial instrument
that is within its scope as a liability when that instrument embodies an
obligation of the issuer. SFAS No. 150 did not have any impact on our
consolidated financial statements.
--------------------------------------------------------------------------------
F-41
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 19 - RECENT ACCOUNTING PRONOUNCEMENTS (CONTINUED)
Amendment of SFAS No. 133 on Derivative Instruments and Hedging Activities: On
April 30, 2003, the FASB issued SFAS No. 149, "Amendment of Statement 133 on
Derivative Instruments and Hedging Activities." SFAS No. 149 amends and
clarifies accounting for derivative instruments, including certain derivative
instruments embedded in other contracts, and for hedging activities under SFAS
No. 133. With a number of exemptions, SFAS No. 149 is effective for contracts
entered into or modified after June 30, 2003. The adoption of SFAS No. 149 did
not have a material impact on our consolidated financial statements.
Guarantor's Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others: In November 2002, the FASB issued
FASB Interpretation No. 45, "Guarantor's Accounting and Disclosure Requirements
for Guarantees, Including Indirect Guarantees of Indebtedness of Others" ("FIN
45"). FIN 45 requires a guarantor entity, at the inception of a guarantee
covered by the measurement provisions of the interpretation, to record a
liability for the fair value of the obligation undertaken in issuing the
guarantee. In addition, FIN 45 elaborates on previously existing disclosure
requirements for most guarantees, including loan guarantees such as standby
letters of credit. We do not have any financial letters of credit at June 30,
2005 or at December 31, 2004.
NOTE 20 - QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)
The following is a condensed summary of quarterly results of operations for the
years ended June 30, 2005 and 2004:
Year Ended June 30, 2005
-------------------------------------------------------------------------
First Quarter Second Quarter Third Quarter Fourth Quarter
------------- -------------- ------------- --------------
(In Thousands, Except Per Share Data)
Interest income $19,907 $19,832 $21,078 $21,624
Interest expense 7,103 7,174 7,764 8,381
------- ------- ------- -------
Net Interest Income 12,804 12,658 13,314 13,243
Provision for loan losses 151 (34) (110) 61
------- ------- ------- -------
Net Interest Income after Provision for
Loan Losses 12,653 12,692 13,424 13,182
Noninterest income 494 410 492 8,107
Noninterest expenses 7,789 8,767 8,811 9,495
------- ------- ------- -------
Income before Income Taxes 5,358 4,335 5,105 11,794
Income taxes 1,562 1,143 1,279 3,710
------- ------- ------- -------
Net Income $ 3,796 $ 3,192 $ 3,826 $ 8,084
======= ======= ======= =======
Net income per common share:
Basic $ 0.05 $ 0.05 $ 0.05 $ 0.11
======= ======= ======= =======
Diluted $ 0.05 $ 0.05 $ 0.05 $ 0.11
======= ======= ======= =======
--------------------------------------------------------------------------------
F-42
KEARNY FINANCIAL CORP. AND SUBSIDIARIES
--------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 21 - QUARTERLY RESULTS OF OPERATIONS (UNAUDITED) (CONTINUED)
Year Ended June 30, 2004
-----------------------------------------------------------------------
First Quarter Second Quarter Third Quarter Fourth Quarter
------------- -------------- ------------- --------------
(In Thousands, Except Per Share Data)
Interest income $19,656 $19,664 $19,780 $19,554
Interest expense 9,158 8,198 7,597 7,147
------- ------- ------- -------
Net Interest Income 10,498 11,466 12,183 12,407
Provision for loan losses - - - -
------- ------- ------- -------
Net Interest Income after Provision for
Loan Losses 10,498 11,466 12,183 12,407
Noninterest income 438 355 403 364
Noninterest expenses 7,743 7,093 7,310 7,326
------- ------- ------- -------
Income before Income Taxes 3,193 4,728 5,276 5,445
Income taxes 958 1,418 1,583 1,786
------- ------- ------- -------
Net Income $ 2,235 $ 3,310 $ 3,693 $ 3,659
======= ======= ======= =======
Net income per common share:
Basic $223.50 $331.00 $369.30 $365.90
======= ======= ======= =======
Diluted $223.50 $331.00 $369.30 $365.90
======= ======= ======= =======
F-43
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
KEARNY FINANCIAL CORP.
Dated: September 26, 2005 By: /s/ John N. Hopkins
-------------------------------
John N. Hopkins
President and
Chief Executive Officer
(Duly Authorized Officer)
Pursuant to the requirement of the Securities Exchange Act of 1934,
this Report has been signed below by the following persons on September 26, 2005
on behalf of the Registrant and in the capacities indicated.
By: /s/ John N. Hopkins By: /s/ Albert E. Gossweiler
------------------------------------- -------------------------------
John N. Hopkins Albert E. Gossweiler
President and Chief Executive Officer Senior Vice President and Chief
(Principal Executive Officer) Financial Officer
(Principal Financial Officer)
By: /s/ William C. Ledgerwood By: /s/ Theodore J. Aanensen
------------------------------------- -------------------------------
William C. Ledgerwood Theodore J. Aanensen
Senior Vice President, Treasurer and Director
Chief Accounting Officer
(Principal Accounting Officer)
By: /s/ John J. Mazur, Jr. By: /s/ Joseph P. Mazza
------------------------------------- -------------------------------
John J. Mazur Jr. Joseph P. Mazza
Chairman Director
By: /s/ Matthew T. McClane By: /s/ John F. McGovern
------------------------------------- -------------------------------
Matthew T. McClane John F. McGovern
Director Director
By: /s/ Leopold W. Montanaro By: /s/ John F. Regan
------------------------------------- -------------------------------
Leopold W. Montanaro John F. Regan
Director Director
By: /s/ Henry S. Parow
-------------------------------------
Henry S. Parow
Director