10-Q 1 form10q-62254_stewardship.txt UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended June 30, 2004 ( ) TRANSITION REPORT PURSUANT TO 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from___________to__________ Commission file number 0-21855 Stewardship Financial Corporation --------------------------------------------------------------------- (Exact name of registrant as specified in its charter) New Jersey 22-3351447 ----------------------------------- ------------------------------------ (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization) 630 Godwin Avenue, Midland Park, NJ 07432 ----------------------------------------- ---------------- (Address of principal executive offices) (Zip Code) (201) 444-7100 ---------------------------------------------------- (Registrant's telephone number, including area code) --------------------------------------------------------------------- (Former name, former address and former fiscal year, if changed since last report) Indicate by a checkmark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [X] The number of shares outstanding of the Issuer's Common Stock, no par value, as of August 5, 2004, net of treasury stock, was 3,191,750. Stewardship Financial Corporation INDEX
PAGE NUMBER ------ PART I - CONSOLIDATED FINANCIAL INFORMATION ITEM 1 - CONSOLIDATED FINANCIAL STATEMENTS Consolidated Statements of Financial Condition at June 30, 2004 (Unaudited) and December 31, 2003 ......................... 1 Consolidated Statements of Income for the Six Months ended June 30, 2004 and 2003 (Unaudited) ............................ 2 Consolidated Statements of Income for the Three Months ended June 30, 2004 and 2003 (Unaudited) ............................ 3 Consolidated Statements of Cash Flows for the Six Months ended June 30, 2004 and 2003 (Unaudited) ............................ 4 Consolidated Statement of Changes in Stockholders' Equity for the Six Months ended June 30, 2004 and June 30, 2003 (Unaudited) .................................................. 5 Notes to Consolidated Financial Statements (Unaudited) ..................... 6 - 11 ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS ........................................................... 12 - 24 ITEM 3 - QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK ..................................................... 24 ITEM 4 - CONTROLS AND PROCEDURES ............................................... 24 PART II - OTHER INFORMATION ITEM 6 - EXHIBITS AND REPORTS ON FORM 8-K ......................................... 25 SIGNATURES ........................................................................ 26 - 29
Stewardship Financial Corporation and Subsidiary Consolidated Statements of Financial Condition
June 30, December 31, 2004 2003 ------------- ------------- (Unaudited) Assets Cash and due from banks $ 14,686,000 $ 15,640,000 Other interest-earning assets 2,181,000 2,198,000 Federal funds sold 4,650,000 1,300,000 ------------- ------------- Cash and cash equivalents 21,517,000 19,138,000 Securities available for sale 58,327,000 61,305,000 Securities held to maturity; estimated fair value of $ 43,163,000 (2004) and $53,370,000 (2003) 42,986,000 52,360,000 FHLB-NY stock, at cost 1,643,000 1,322,000 Loans, net of allowance for loan losses of of $ 3,023,000 (2004) and $2,888,000 (2003) 272,335,000 258,776,000 Mortgage loans held for sale 893,000 576,000 Premises and equipment, net 3,509,000 3,637,000 Accrued interest receivable 1,834,000 1,863,000 Intangible assets, net of accumulated amortization of $550,000 (2004) and $530,000 (2003) 200,000 220,000 Other assets 2,682,000 2,571,000 ------------- ------------- Total assets $ 405,926,000 $ 401,768,000 ============= ============= Liabilities and stockholders' equity Liabilities Deposits: Noninterest-bearing $ 81,454,000 $ 80,845,000 Interest-bearing 267,203,000 260,693,000 ------------ ------------- Total deposits 348,657,000 341,538,000 Other borrowings 17,382,000 20,000,000 Subordinated debentures 7,217,000 7,217,000 Securities sold under agreements to repurchase 2,845,000 3,547,000 Accrued expenses and other liabilities 2,021,000 2,317,000 ------------- ------------- Total liabilities 378,122,000 374,619,000 ------------- ------------- Commitments and contingencies -- -- Stockholders' equity Common stock, no par value; 10,000,000 shares authorized; 3,198,102 and 3,165,233 shares issued outstanding at June 30, 2004 and December 31, 2003, respectively 19,961,000 19,552,000 Treasury stock; 12,386 shares outstanding at June 30, 2004 (285,000) -- Retained earnings 8,892,000 7,593,000 Accumulated other comprehensive(loss) income (764,000) 4,000 ------------- ------------- Total stockholders' equity 27,804,000 27,149,000 ------------- ------------- Total liabilities and stockholders' equity $ 405,926,000 $ 401,768,000 ============= =============
See notes to unaudited consolidated financial statements. 1 Stewardship Financial Corporation and Subsidiary Consolidated Statements of Income (Unaudited)
Six Months Ended June 30, --------------------------- 2004 2003 ------------ ----------- Interest income: Loans $ 8,383,000 $ 7,870,000 Securities held to maturity Taxable 539,000 721,000 Non-taxable 321,000 354,000 Securities available for sale 1,067,000 182,000 Other interest-earning assets 25,000 109,000 ------------ ----------- Total interest income 10,335,000 9,236,000 ------------ ----------- Interest expense: Deposits 1,850,000 2,321,000 Borrowed money 591,000 34,000 ------------ ----------- Total interest expense 2,441,000 2,355,000 ------------ ----------- Net interest income before provision for loan losses 7,894,000 6,881,000 Provision for loan losses 240,000 225,000 ------------ ----------- Net interest income after provision for loan losses 7,654,000 6,656,000 ------------ ----------- Noninterest income: Fees and service charges 1,154,000 1,027,000 Gain on sales of mortgage loans 67,000 238,000 (Loss) gain on sales of securities (4,000) 27,000 Miscellaneous 137,000 182,000 ------------ ----------- Total noninterest income 1,354,000 1,474,000 ------------ ----------- Noninterest expenses: Salaries and employee benefits 2,736,000 2,597,000 Occupancy, net 490,000 356,000 Equipment 441,000 365,000 Data processing 495,000 416,000 Advertising 138,000 125,000 FDIC insurance premium 25,000 24,000 Amortization of intangible assets 20,000 21,000 Charitable contributions 262,000 234,000 Stationery and supplies 114,000 102,000 Miscellaneous 1,465,000 1,248,000 ------------ ----------- Total noninterest expenses 6,186,000 5,488,000 ------------ ----------- Income before income tax expense 2,822,000 2,642,000 Income tax expense 1,018,000 927,000 ------------ ----------- Net income $ 1,804,000 $ 1,715,000 ============ =========== Basic earnings per share $ 0.57 $ 0.55 ============ =========== Diluted earnings per share $ 0.56 $ 0.54 ============ =========== Weighted average number of common shares outstanding 3,164,559 3,127,360 ============ =========== Weighted average number of diluted common shares outstanding 3,212,884 3,159,443 ============ ===========
Share data has been restated to reflect a 3 for 2 stock split issued July, 2003 and a 5% stock dividend paid November, 2003. See notes to unaudited consolidated financial statements. 2 Stewardship Financial Corporation and Subsidiary Consolidated Statements of Income (Unaudited)
Three Months Ended June 30, ---------------------------- 2004 2003 ----------- ----------- Interest income: Loans $ 4,211,000 $ 3,988,000 Securities held to maturity Taxable 252,000 326,000 Non-taxable 157,000 176,000 Securities available for sale 533,000 79,000 Other interest-earning assets 14,000 63,000 ----------- ----------- Total interest income 5,167,000 4,632,000 ----------- ----------- Interest expense: Deposits 889,000 1,154,000 Borrowed money 293,000 21,000 ----------- ----------- Total interest expense 1,182,000 1,175,000 ----------- ----------- Net interest income before provision for loan losses 3,985,000 3,457,000 Provision for loan losses 120,000 110,000 ----------- ----------- Net interest income after provision for loan losses 3,865,000 3,347,000 ----------- ----------- Noninterest income: Fees and service charges 616,000 542,000 Gain on sales of mortgage loans 49,000 142,000 (Loss) gain on sales of securities 0 0 Miscellaneous 95,000 94,000 ----------- ----------- Total noninterest income 760,000 778,000 ----------- ----------- Noninterest expenses: Salaries and employee benefits 1,370,000 1,310,000 Occupancy, net 234,000 173,000 Equipment 219,000 186,000 Data processing 250,000 206,000 Advertising 86,000 71,000 FDIC insurance premium 12,000 12,000 Amortization of intangible assets 10,000 10,000 Charitable contributions 134,000 117,000 Stationery and supplies 66,000 59,000 Miscellaneous 772,000 650,000 ----------- ----------- Total noninterest expenses 3,153,000 2,794,000 ----------- ----------- Income before income tax expense 1,472,000 1,331,000 Income tax expense 535,000 469,000 ----------- ----------- Net income $ 937,000 $ 862,000 =========== =========== Basic earnings per share $ 0.30 $ 0.28 =========== =========== Diluted earnings per share $ 0.29 $ 0.27 =========== =========== Weighted average number of common shares outstanding 3,170,149 3,135,350 =========== =========== Weighted average number of diluted common shares outstanding 3,218,824 3,172,435 =========== ===========
Share data has been restated to reflect a 3 for 2 stock split issued July, 2003 and a 5% stock dividend paid November, 2003. See notes to unaudited consolidated financial statements. 3 Consolidated Statements of Cash Flows
Six Months Ended ------------------------------- 2004 2003 ------------- ------------- Cash Flows from operating activities: Net income $ 1,804,000 $ 1,715,000 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization of premises and equipment 392,000 333,000 Amortization of premiums and accretion of discounts, net 322,000 417,000 Accretion of deferred loan fees (58,000) (81,000) Provision for loan losses 240,000 225,000 Originations of mortgage loans held for sale (6,672,000) (20,090,000) Proceeds from sale of mortgage loans 6,422,000 20,838,000 Gain on sale of loans (67,000) (238,000) Loss (gain) on sale of securities available for sale 4,000 (54,000) Gain on sale of fixed assets -- (27,000) Deferred income tax benefit (59,000) (119,000) Amortization of intangible assets 21,000 21,000 Decrease (increase) in accrued interest receivable 29,000 (5,000) Decrease in other assets 431,000 156,000 Decrease in other liabilities (295,000) (114,000) ------------- ------------- Net cash provided by operating activities 2,514,000 2,977,000 ------------- ------------- Cash flows from investing activities: Purchase of securities available for sale (9,915,000) (8,396,000) Proceeds from maturities and principal repayments on securities available for sale 4,495,000 2,731,000 Proceeds from sales and calls on securities available for 6,996,000 2,756,000 sale Purchase of securities held to maturity (767,000) (15,005,000) Proceeds from maturities and principal repayments on securities held to maturity 5,230,000 8,731,000 Proceeds from calls of securities held to maturity 4,735,000 11,375,000 Purchase of FHLB-NY stock (321,000) (263,000) Net increase in loans (13,741,000) (19,574,000) Sales of premises and equipment -- 227,000 Additions to premises and equipment (264,000) (166,000) ------------- ------------- Net cash used in investing activities (3,552,000) (17,584,000) ------------- ------------- Cash flows from financing activities: Net increase in noninterest-bearing deposits 609,000 2,658,000 Net increase in interest-bearing deposits 6,510,000 18,958,000 Net (decrease) increase in securities sold under agreement to repurchase (702,000) 2,526,000 Net decrease in borrowings (2,618,000) -- Cash dividends paid on common stock (506,000) (396,000) Purchase of treasury stock (454,000) -- Exercise of stock options 240,000 48,000 Issuance of common stock 338,000 277,000 ------------- ------------- Net cash provided by financing activities 3,417,000 24,071,000 ------------- ------------- Net increase in cash and cash equivalents 2,379,000 9,464,000 Cash and cash equivalents - beginning 19,138,000 33,418,000 ------------- ------------- Cash and cash equivalents - ending $ 21,517,000 $ 42,882,000 ============= ============= Supplemental disclosures of cash flow information: Cash paid during the year for interest 2,508,000 2,427,000 Cash paid during the year for income taxes 980,000 1,076,000
See notes to unaudited consolidated financial statements. 4 Stewardship Financial Corporation and Subsidiary Consolidated Statement of Changes in Stockholders' Equity (Unaudited)
For The Six Months Ended June 30, 2004 ---------------------------------------------------------------------- Common Stock Treasury Stock Retained Shares Amount Shares Amount Earnings --------- ------------ ------ ---------- ----------- Balance --December 31, 2003 3,165,233 $ 19,552,000 -- $ -- $ 7,593,000 Dividends Paid -- -- -- -- (505,000) Treasury Stock (20,000) (454,000) Common stock issued under stock plans 7,971 170,000 7,614 169,000 -- Exercise of stock options 24,898 239,000 Comprehensive income: Net income for the six months ended June 30, 2004 -- -- -- -- 1,804,000 Unrealized holding losses on securities available for sale arising during the period (net tax benefit of $484,000) -- -- -- -- -- Total comprehensive income, net of tax --------- ------------ ------ ---------- ----------- Balance -- June 30, 2004 3,198,102 $ 19,961,000 (12,386) $ (285,000) $ 8,892,000 ========= ============ ====== ========== =========== For The Six Months Ended June 30, 2004 --------------------------------------- Accumulated Other Comprehensive Income (Loss), Net Total -------------- ------------ Balance--December 31, 2003 $ 4,000 $ 27,149,000 Dividends Paid -- (505,000) Treasury Stock (454,000) Common stock issued under stock plans -- 339,000 Exercise of stock options 239,000 Comprehensive income: Net income for the six months ended June 30, 2004 -- 1,804,000 Unrealized holding losses on securities available for sale arising during the period (net tax benefit of $484,000) (768,000) (768,000) ------------ Total comprehensive income, net of tax 1,036,000 ---------- ------------ Balance -- June 30, 2004 $ (764,000) $ 27,804,000 ========== ============
For The Six Months Ended June 30, 2003 --------------------------------------------------------------------------- Accumulated Other Comprehensive Common Stock Retained Income, Shares Amount Earnings Net Total --------- ------------ ----------- --------- ------------ Balance -- December 31, 2002 2,963,156 $ 15,058,000 $ 8,600,000 $ 159,000 $ 23,817,000 Dividends Paid -- -- (396,000) -- (396,000) Common stock issued under stock plans 22,645 277,000 -- -- 277,000 Exercise of stock options 6,031 48,000 48,000 Tax Benefit - exercise of stock options 81,000 81,000 Comprehensive income: Net income for the six months ended June 30, 2003 -- -- 1,715,000 -- 1,715,000 Unrealized holding losses on securities available for sale arising during the period (net tax benefit of $30,000) -- -- -- (46,000) (46,000) ------------ Total comprehensive income, net of tax 1,669,000 --------- ------------ ----------- --------- ------------ Balance -- June 30, 2003 2,991,832 $ 15,464,000 $ 9,919,000 $ 113,000 $ 25,496,000 ========= ============ =========== ========= ============
See notes to unaudited consolidated financial statements. 5 Stewardship Financial Corporation and Subsidiary Notes to Consolidated Financial Statements (Unaudited) Note 1. Summary of Significant Accounting Policies Certain information and footnote disclosures normally included in the unaudited consolidated financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted pursuant to the rules and regulations of the Securities and Exchange Commission. These unaudited condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Annual Report on Form 10-K for the fiscal year ended December 31, 2003. Principles of consolidation The consolidated financial statements include the accounts of Stewardship Financial Corporation, (the "Corporation") and its wholly owned subsidiary, Atlantic Stewardship Bank (the "Bank"). The Bank includes its wholly owned subsidiary, Stewardship Investment Corp. All significant intercompany accounts and transactions have been eliminated in the consolidated financial statements. Certain prior period amounts have been reclassified to conform to the current presentation. The consolidated financial statements of the Corporation have been prepared in conformity with accounting principles generally accepted in the United States of America. In preparing the 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 statements of financial condition and revenues and expenses during the reporting periods. 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. Management believes that the allowance for loan losses is adequate. 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. Stock-Based Compensation The Corporation has two stock-based employee compensation plans and two director compensation plans. The Corporation accounts for those plans under the recognition and measurement principles of APB Opinion No. 25, Accounting for Stock Issued to Employees, and related Interpretations. For those plans that issue options, no stock-based employee compensation cost is reflected in net income, as all options granted under those plans had an exercise price equal to the market value of the underlying common stock on the date of grant. For the stock issued under the Director Stock Plan, compensation expense is recorded at the fair value of the stock issued and is reflected in net income. The following table illustrates the effect on net income and earnings per share if the Corporation had applied the fair value recognition provisions of FASB Statement No. 123, Accounting for Stock-Based Compensation, to stock-based employee compensation. 6
Three Months Ended Six Months Ended June 30, June 30 2004 2003 2004 2003 -------------------- ----------------- Net Income: Net income as reported $ 937,000 $ 862,000 $ 1,804,000 $ 1,715,000 Stock-based compensation expense included in net income, net of related tax effects 6,000 9,000 11,000 17,000 Total stock-based compensation expense determined under fair value based method for all awards, net of related tax effects (22,000) (23,000) (44,000) (43,000) ----------- ----------- ----------- ------------- Pro forma net income $ 921,000 $ 848,000 $ 1,771,000 $ 1,689,000 =========== =========== =========== ============ Earnings per share: As reported Basic earnings per share $ 0.30 $ 0.28 $ 0.57 $ 0.55 As reported Diluted earnings per share 0.29 0.27 0.56 0.54 Pro forma Basic earnings per share 0.29 0.27 0.56 0.54 Pro forma Diluted earnings per share 0.29 0.27 0.55 0.53
The fair value of options granted for employees and directors is estimated on the date of the grant using the Black-Scholes option pricing model with the following assumptions used:
Employee Directors Employee Employee Employee Stock Options Stock Options Stock Options Stock Options Stock Options 2003 2001 2000 1999 1998 -------------- ------------- -------------- -------------- -------------- Dividend yield 2.02% 1.62% 1.57% 1.25% 1.12% Expected volatility 51.65% 39.76% 20.27% 23.63% 16.24% Risk-free interest rate 3.40% 5.07% 5.16% 6.65% 5.58% Expected Life 7 years 7 years 7 years 7 years 7 years Fair value at grant date $9.19 $4.04 $2.96 $3.46 $2.03
Note 2. Basis of Presentation The interim unaudited consolidated financial statements included herein have been prepared in accordance with instructions for Form 10-Q and the rules and regulations of the Securities and Exchange Commission ("SEC") and, therefore, do not include information or footnotes necessary for a complete presentation of consolidated financial condition, results of operations, and cash flows in conformity with accounting principles generally accepted in the United States of America. However, all adjustments, consisting only of normal recurring adjustments, which in the opinion of management are necessary for a fair presentation of the consolidated financial statements, have been included. The results of operations for the six months ended June 30, 2004 are not necessarily indicative of the results which may be expected for the entire year. All share and per share amounts have been restated for stock splits and stock dividends. 7 Stewardship Financial Corporation and Subsidiary Notes to Consolidated Financial Statements Continued (Unaudited) Note 3. Securities Available for Sale The following table sets forth the amortized cost and carrying value of the Corporation's securities available for sale as of June 30, 2004 and December 31, 2003. In accordance with Statement of Financial Accounting Standards No. 115, "Accounting for Certain Investments in Debt and Equity Securities", securities available for sale are carried at estimated fair value.
June 30, 2004 -------------------------------------------------------- Gross Gross Amortized Unrealized Unrealized Carrying Cost Gains Losses Value ------------ ---------- ------------ ------------ U.S. Treasury securities $ 504,000 $ -- $ 10,000 $ 494,000 U.S. Government agencies 21,598,000 2,000 454,000 21,146,000 Obligations of state and political subdivisions 2,133,000 5,000 52,000 2,086,000 Mortgage-backed securities 35,338,000 35,000 772,000 34,601,000 ------------ -------- ----------- ------------ $ 59,573,000 $ 42,000 $ 1,288,000 $ 58,327,000 ============ ======== =========== ============
December 31, 2003 -------------------------------------------------------- Gross Gross Amortized Unrealized Unrealized Carrying Cost Gains Losses Value ------------ ---------- ------------ ------------ U.S. Treasury securities $ 505,000 $ -- $ 5,000 $ 500,000 U.S. Government agencies 22,210,000 51,000 117,000 22,144,000 Obligations of state and political subdivisions 1,400,000 11,000 5,000 1,406,000 Mortgage-backed securities 37,185,000 212,000 142,000 37,255,000 ------------ --------- --------- ------------ $ 61,300,000 $ 274,000 $ 269,000 $ 61,305,000 ============ ========= ========= ============
Note 4. Securities Held to Maturity The following table sets forth the carrying value and estimated fair value of the Corporation's securities held to maturity as June 30, 2004 and December 31, 2003. Securities held to maturity are stated at cost, adjusted for amortization of premiums and accretion of discounts.
June 30, 2004 --------------------------------------------------------- Gross Gross Carrying Unrealized Unrealized Estimated Value Gains Losses Fair Value ------------ ---------- ------------ ------------ U.S. Treasury securities $ 1,009,000 $ 28,000 $ -- $ 1,037,000 U.S. Government agencies 8,230,000 28,000 115,000 8,143,000 Obligations of state and political subdivisions 15,338,000 144,000 192,000 15,290,000 Mortgage-backed securities 18,409,000 322,000 38,000 18,693,000 ------------ --------- --------- ------------ $ 42,986,000 $ 522,000 $ 345,000 $ 43,163,000 ============ ========= ========= ============
December 31, 2003 ----------------------------------------------------------- Gross Gross Carrying Unrealized Unrealized Estimated Value Gains Losses Fair Value ------------ ---------- ------------ ------------ U.S. Treasury securities $ 1,011,000 $ 56,000 $ -- $ 1,067,000 U.S. Government agencies 12,756,000 74,000 26,000 12,804,000 Obligations of state and political subdivisions 19,686,000 654,000 -- 20,340,000 Mortgage-backed securities 18,907,000 295,000 43,000 19,159,000 ------------ =========== ======== ============ $ 52,360,000 $ 1,079,000 $ 69,000 $ 53,370,000 ============ =========== ======== ============
8 Stewardship Financial Corporation and Subsidiary Notes to Consolidated Financial Statements Continued (Unaudited) Note 5. Loans The Corporation's primary market area for lending is the small and medium sized business and professional community, as well as the individuals residing, working and shopping in Bergen, Passaic and Morris counties, New Jersey. The following table set forth the composition of loans as of the periods indicated.
June 30, December 31, 2004 2003 ------------- --------------- Mortgage Residential $ 41,691,000 $ 44,835,000 Commercial 117,109,000 109,708,000 Commercial 52,096,000 48,950,000 Equity 20,092,000 17,181,000 Installment 44,382,000 41,067,000 Other 300,000 238,000 ------------- --------------- Total loans 275,670,000 261,979,000 ------------- --------------- Less: Deferred loan fees 312,000 315,000 Allowance for loan losses 3,023,000 2,888,000 ------------- --------------- 3,335,000 3,203,000 ------------- --------------- Loans, net $ 272,335,000 $ 258,776,000 ============= ===============
Note 6. Allowance for loan losses
Six Months Ended June 30, 2004 2003 ----------- ----------- Balance, beginning of period $ 2,888,000 $ 2,689,000 Provision charged to operations 240,000 225,000 Recoveries of loans charged off 2,000 -- Loans charged off (107,000) (29,000) ----------- ----------- Balance, end of period $ 3,023,000 $ 2,885,000 =========== ===========
9 Stewardship Financial Corporation and Subsidiary Notes to Consolidated Financial Statements Continued (Unaudited) Note 7. Loan Impairment The Corporation has defined the population of impaired loans to include all nonaccrual loans, loans more than 90 days past due and restructured loans. The following table sets forth information regarding the impaired loans as of the periods indicated.
June 30, December 31, 2004 2003 ----------- ----------- Impaired loans With related allowance for loan losses $ 1,062,000 $ 1,073,000 Without related allowance for loan losses 973,000 17,000 ----------- ----------- Total impaired loans $ 2,035,000 $ 1,090,000 =========== =========== Related allowance for loan losses $ 84,000 $ 100,000 =========== ===========
Impaired loans at June 30, 2004 includes a loan to a borrower in the amount of $940,000 that is considered past due 90 days because the loan matured and has not been renewed. The loan is well collateralized by a lien on the borrower's residence and is expected to be renewed pending resolution of the borrower's legal matters. Monthly interest payments continue to be received. 10 Stewardship Financial Corporation and Subsidiary Notes to Consolidated Financial Statements Continued (Unaudited) Note 8. Earnings Per Share Basic earnings per share is calculated by dividing net income by the average daily number of common shares outstanding during the period. Common stock equivalents are not included in the calculation. Diluted earnings per share is computed similar to that of basic earnings per share except that the denominator is increased to include the number of additional common shares that would have been outstanding if all potential dilutive common shares were issued. The following is a reconciliation of the calculation of basic and diluted earnings per share.
Three Months Six Months Ended June 30, Ended June 30, 2004 2003 2004 2003 ------- ------- ------- ------- Net income $ 937 $ 862 $ 1,804 $ 1,715 Weighted average shares 3,170 3,135 3,165 3,127 Effect of dilutive stock options 49 37 48 32 ------- ------- ------- ------- Total weighted average dilutive shares 3,219 3,172 3,213 3,159 Basic earnings per share $ 0.30 $ 0.28 $ 0.57 $ 0.55 Diluted earnings per share $ 0.29 $ 0.27 $ 0.56 $ 0.54
All share and per share amounts have been restated to reflect a 5% stock dividend paid November 15, 2003 and a 3 for 2 stock split issued in July 2003. Note 9. Comprehensive Income Total comprehensive income includes net income and other comprehensive income which is comprised of unrealized holding gains and losses on securities available for sale, net of taxes. The Corporation's total comprehensive income for the six months ended June 30, 2004 and 2003 was $1.0 million and $1.7 million, respectively. The difference between the Corporation's net income and total comprehensive income for these periods relates to the change in the net unrealized holding gains and losses on securities available for sale during the applicable period of time. 11 Stewardship Financial Corporation Management's Discussion and Analysis of Financial Condition and Results of Operations This Form 10-Q contains certain "forward looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995, and may be identified by the use of such words as "believe," "expect," "anticipate," "should," "planned," "estimated," and "potential." Examples of forward looking statements include, but are not limited to, estimates with respect to the financial condition, results of operations and business of the Corporation that are subject to various factors which could cause actual results to differ materially from these estimates. These factors include: changes in general, economic, and market conditions, legislative and regulatory conditions, or the development of an interest rate environment that adversely affects the Corporation's interest rate spread or other income anticipated from operations and investments. As used in this Form 10-Q, "we" and "us" and "our" refer to Stewardship Financial Corporation and its consolidated subsidiary, Atlantic Stewardship Bank, depending on the context. Critical Accounting Policies and Estimates "Management's Discussion and Analysis of Financial Condition and Results of Operation," as well as disclosures found elsewhere in this Form 10-Q, are based upon the Corporation's consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires the Corporation to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses. Note 1 to the Corporation's Audited Consolidated Financial Statements for the year ended December 31, 2003 included in our Annual Report on Form 10-K for the year ended December 31, 2003, as supplemented by this report, contains a summary of the Corporation's significant accounting policies. Management believes the Corporation's policy with respect to the methodology for the determination of the allowance for loan losses involves a higher degree of complexity and requires management to make difficult and subjective judgments which often require assumptions or estimates about highly uncertain matters. Changes in these judgments, assumptions or estimates could materially impact results of operations. The Audit Committee and the Board of Directors, periodically review this critical policy, and its application. The allowance for loan losses is based upon management's evaluation of the adequacy of the allowance, including an assessment of known and inherent risks in the portfolio, giving consideration to the size and composition of the loan portfolio, actual loan loss experience, level of delinquencies, detailed analysis of individual loans for which full collectibility may not be assured, the existence and estimated net realizable value of any underlying collateral and guarantees securing the loans, and current economic and market conditions. Although management uses the best information available, the level of the allowance for loan losses remains an estimate that is subject to significant judgment and short-term change. Various regulatory agencies, as an integral part of their examination process, periodically review the Corporation's allowance for loan losses. Such agencies may require the Corporation to make additional provisions for loan losses based upon information available to them at the time of their examination. Furthermore, the majority of the Corporation's loans are secured by real estate in the State of New Jersey. Accordingly, the collectibility of a substantial portion of the carrying value of the Corporation's loan portfolio is susceptible to changes in local market conditions and may be adversely affected should real estate values decline or the northern New Jersey area experience an adverse economic shock. Future adjustments to the allowance for loan losses may be necessary due to economic, operating, regulatory and other conditions beyond the Corporation's control. 12 Financial Condition Total assets increased by $4.2 million, or 1.0%, from $401.8 million at December 31, 2003 to $405.9 million at June 30, 2004. Net loans increased $13.6 million, partially offset by a $9.4 million decrease in securities held to maturity. This was caused by an intentional funding of loan growth from calls and principal payments from the investment portfolio. The composition of the loan portfolio is basically unchanged at June 30, 2004 when compared with the portfolio at December 31, 2003. Total deposits totaled $348.7 million at June 30, 2004, an increase of $7.1 million, or 2.1%, from $341.5 million at December 31, 2003. Interest-bearing deposits increased $6.5 million, or 2.5%, to $267.2 million at June 30, 2004 and noninterest-bearing deposits increased $0.6 million, or 0.8%, to $81.5 million at June 30, 2004. The increase in deposits can be attributed to customers being attracted to money market and savings products. The Corporation's main focus during the first six months was to manage its liquidity position by redeploying principal repayments, maturities, and calls in the investment portfolio into the loan portfolio. With the increase in mortgage interest rates, the banking industry has experienced a reduction in loan production as strategies to refinance were deployed by customers in 2003. In order to continue its strong loan production, the Corporation continues to enhance the product line of the Bank. Management introduced a new home equity product, Equity Plus, an interest-only line of credit designed to maximize the equity built up in the home. Marketed to those customers with high credit and collateral standards, this product eliminates the requirement to pay principal during the first five years of the term and is offered at a variable interest rate tied to our base rate. 13 Results of Operations Six Months Ended June 30, 2004 and 2003 General The Corporation reported net income of $1.8 million, or $0.56 diluted earnings per share for the six months ended June 30, 2004, compared to $1.7 million, or $0.54 diluted earnings per share for the same period in 2003. The $89,000 increase was primarily caused by increases in net interest income, partially offset by increases in noninterest expense and a decrease in noninterest income. Net interest income Net interest income increased $1.0 million, or 14.7%, for the six months ended June 30, 2004 as compared with the corresponding period in 2003. The increase was primarily due to an increase in average net interest-earning assets, partially offset by a decrease in the net interest margin. Total interest income on a tax equivalent basis increased $1.1 million, or 11.6%, primarily due to an increase in the average earning assets, offset by a decrease in yields on interest-earning assets. Due to the continued low interest rate environment, tax equivalent yields on interest earning assets fell 28 basis points from 5.84% for the six months ended June 30, 2003 to 5.56% for the same period in 2004. The average balance on interest-earning assets increased $54.9 million, or 16.9%, from $324.6 million for the six months ended June 30, 2003 to $379.5 million for the same period in 2004, primarily caused by an increase to the Corporation's average deposit base and the implementation of a leveraging strategy in December 2003. The leveraging strategy employed the use of $20.0 million in FHLB borrowings to be invested in agencies and mortgage-backed securities. The Corporation continued to experience an increase in loan demand which caused loans on average to increase $35.3 million to an average $267.4 million for the six months ended June 30, 2004, from an average $232.1 million for the comparable period in 2003. The Corporation also increased its taxable investment portfolio $35.9 million to an average $87.4 million at June 30, 2004. Other interest-earning assets decreased $16.6 million to an average $4.4 million as the Corporation redeployed short term assets into its lending portfolio. Interest paid on deposits and borrowed money increased by $86,000, or 3.7%, due primarily to an increase in deposits and borrowed funds, partially offset by a decrease in rates paid on deposits. The average balance of total interest- bearing deposits increased to $262.7 million for the six months ended June 30, 2004 from $243.6 million for the comparable 2003 period, primarily as a result of the Corporation's expanding customer base. Borrowed funds increased due to the employing of the leveraging strategy and the issuance of subordinated debentures for enhancing capital. Yields on deposits and borrowed money decreased from 1.92% for the six month period ended June 30, 2003 to 1.68% for the comparable period in 2004. 14
Analysis of Net Interest Income (Unaudited) For the Six Months Ended June 30, 2004 2003 ----------------------------------- ---------------------------------- Average Average Interest Rates Interest Rates Average Income/ Earned/ Average Income/ Earned/ Balance Expense Paid Balance Expense Paid --------- --------- ------- --------- ------- ---- (Dollars in thousands) Assets Interest-earning assets: Loans (1) $ 267,365 $ 8,384 6.31% $ 232,072 $ 7,870 6.84% Taxable investment securities (1) 87,360 1,586 3.65 51,434 890 3.49 Tax-exempt investment securities (1) (2) 20,452 494 4.86 20,185 528 5.27 Other interest-earning assets 4,351 25 1.16 20,924 109 1.05 --------- -------- --------- ------- ---- Total interest-earning assets 379,528 10,489 5.56 324,615 9,397 5.84 -------- ------- ---- Non-interest-earning assets: Allowance for loan losses (2,990) (2,789) Other assets 23,639 20,729 --------- --------- Total assets $ 400,177 $ 342,555 ========= ========= Liabilities and Stockholders' Equity Interest-bearing liabilities: Interest-bearing demand deposits $ 121,584 $ 389 0.64% $ 109,394 $ 602 1.11% Savings deposits 48,317 191 0.79 39,909 167 0.84 Time deposits 92,820 1,270 2.75 94,322 1,552 3.32 Repurchase agreements 3,249 17 1.05 3,928 34 1.75 FHLB Borrowing 19,672 330 3.37 -- -- Subordinated debenture 7,259 244 6.76 -- -- --------- -------- --------- ------- Total interest-bearing liabilities 292,901 2,441 1.68 247,553 2,355 1.92 -------- ------- Non-interest-bearing liabilities: Demand deposits 77,624 68,198 Other liabilities 1,954 1,988 Stockholders' equity 27,698 24,816 --------- --------- Total liabilities and stockholders' equity $ 400,177 $ 342,555 ========= ========= Net interest income (taxable equivalent basis) $ 8,048 $ 7,042 ======== ======= Net interest spread (taxable equivalent basis) 3.88% 3.92% ==== ==== Net yield on interest-earning assets (taxable equivalent basis) (3) 4.26% 4.37% ==== ====
------------------- (1) For purpose of these calculations, nonaccruing loans are included in the average balance. Fees are included in loan interest. Loans and total interest-earning assets are net of unearned income. Securities are included at amortized cost. (2) The tax equivalent adjustments are based on a marginal tax rate of 34% and the provisions of Section 291 of the Internal Revenue Code. (3) Net interest income (taxable equivalent basis) divided by average interest-earning assets.
2004 2003 (Dollars in thousands) Reconciliation of net interest income (tax equivalent basis): Net interest income 7,894 6,881 Tax equivalent basis adjustment 154 161 ------ ----- Net interest income (tax equivalent basis) 8,048 7,042 ====== =====
15 Provision for loan losses The Corporation maintains an allowance for loan losses at a level considered by management to be adequate to cover the inherent losses associated with its loan portfolio, after giving consideration to changes in general market conditions and in the nature and volume of the Corporation's loan activity. The allowance for loan losses is based on estimates, and provisions are charged to operations during the period in which such additions are deemed necessary. The provision charged to operations totaled $240,000 and $225,000 during the six months ended June 30, 2004 and 2003, respectively. The increase in the provision was primarily due to the continued growth in loans and an increase in nonperforming loans. See "Asset Quality" section for summary of allowance for loan losses and nonperforming assets. The Corporation monitors its loan portfolio and intends to continue to provide for loan loss reserves based on its ongoing periodic review of the loan portfolio and general market conditions. Noninterest income Noninterest income decreased $120,000, or 8.1%, from $1.5 million for the six month period ending June 30, 2003 to $1.4 million for the comparable period in 2004. Deposit related fees increased $127,000 due to an increase in the deposit base and income derived from the merchant credit card processing program. Gain on mortgage loans held for sale decreased $171,000, or 71.8% for the first half of 2004 compared to the comparable period in 2003. 2003 realized record refinancings and with the increase in mortgage rates experienced in 2004 this origination volume hsas declined. During the first quarter of 2003, the Corporation sold a property located in Hawthorne, New Jersey and realized a profit of $54,000. This property had been originally purchased in December 2000 as a strategy to improve our branch facility on Lafayette Avenue, Hawthorne New Jersey. This strategy did not materialize, the Corporation opened a branch on Goffle Road, Hawthorne New Jersey, and management found it no longer could utilize the additional property. In addition, the Corporation realized gains on sales of securities available for sale in the amount of $27,000 during 2003, compared with a loss of $4,000 for 2004. Noninterest expense Noninterest expense increased by approximately $698,000, or 12.7%, to $6.2 million for the six months ended June 30, 2004, compared to $5.5 million for the same 2003 period. Salaries and employee benefits, the major component of noninterest expense, increased $139,000, or 5.4%, during the six months ended June 30, 2004. This increase was due to increases in staffing for the new Wayne branch, opened in November 2004 and general increases for merit and performance. Occupancy and equipment increased $210,000, or 29.1%, primarily due to the increase in the Corporation's branch facilities. Data processing expense increased $79,000, or 19.0%, due to the increase in the Corporation's deposit base, and the implementation of the check imaging upgrade, which occurred in the second quarter of 2003. Miscellaneous expenses increased $217,000, or 17.4% to provide for increase in merchant card processing business and the general growth of the Corporation. 16 Income taxes Income tax expense totaled $1.0 million for the six months ended June 30, 2004, for an effective tax rate of 36.1%. For the six months ended June 30, 2003, income tax expense totaled $927,000, for an effective tax rate of 35.1%. The effective tax rate has increase due to a slight change in the mix of taxable versus nontaxable earning assets. Results of Operations Three Months Ended June 30, 2004 and 2003 General The Corporation reported net income of $937,000, or $0.29 diluted earnings per share for the three months ended June 30, 2004, compared to $862,000, or $0.27 diluted earnings per share for the same period in 2003. The $75,000 increase was primarily caused by increases in net interest income, partially offset by increases in noninterest expense and a decrease in noninterest income. Net interest income Net interest income increased $528,000, or 15.3%, for the three months ended June 30, 2004 as compared with the corresponding period in 2003. The increase was primarily due to an increase in average net interest-earning assets, partially offset by a decrease in the net interest margin. Total interest income on a tax equivalent basis increased $531,000, or 11.3%, primarily due to an increase in the average earning assets, offset by a decrease in yields on interest-earning assets. Due to the continued low interest rate environment, tax equivalent yields on interest earning assets fell 16 basis points from 5.70% for the three months ended June 30, 2003 to 5.54% for the same period in 2004. The average balance of interest-earning assets increased $49.2 million, or 14.8%, from $331.6 million for the three months ended June 30, 2003 to $380.8 million for the same period in 2004, primarily caused by an increase to the Corporation's average deposit base and the implementation of a leveraging strategy in December 2003. The leveraging strategy employed the use of $20.0 million in FHLB borrowings to be invested in agencies and mortgage-backed securities. The Corporation continued to experience an increase in loan demand which caused loans on average to increase $33.8 million to an average $271.0 million for the three months ended June 30, 2004, from an average $237.2 million for the comparable period in 2003. The Corporation also increased its taxable investment portfolio $33.9 million to an average $84.3 million at June 30, 2004. Other interest-earning assets decreased $18.7 million to an average $5.3 million as the Corporation redeployed short term assets into its lending portfolio. 17 Interest paid on deposits and borrowed money increased by $7,000, or 0.6%, due primarily to an increase deposits and borrowed funds, partially offset by a decrease in rates paid on deposits. The average balance of total interest- bearing deposits increased to $263.0 million for the three months ended June 30, 2004 from $248.1 million for the comparable 2003 period, primarily as a result of the Corporation's expanding customer base. Borrowed funds increased due to the employing of the leveraging strategy and the issuance of subordinated debentures for enhancing capital. Yields on deposits and borrowed money decreased from 1.86% for the three month period ended June 30, 2003 to 1.63% for the comparable period in 2004. 18
Analysis of Net Interest Income (Unaudited) For the Three Months Ended June 30, 2004 2003 ---------------------------------- ------------------------------- Average Average Interest Rates Interest Rates Average Income/ Earned/ Average Income/ Earned/ Balance Expense Paid Balance Expense Paid --------- ------- ------ --------- -------- ------- (Dollars in thousands) Assets Interest-earning assets: Loans (1) $ 270,982 $ 4,212 6.25% $ 237,229 $ 3,988 6.74% Taxable investment securities (1) 84,260 774 3.69 50,385 399 3.18 Tax-exempt investment securities (1) (2) 20,238 243 4.83 19,944 263 5.29 Other interest-earning assets 5,315 15 1.14 24,037 63 1.05 --------- ------- ---- --------- ------- ---- Total interest-earning assets 380,795 5,244 5.54 331,595 4,713 5.70 ------- ------- ---- Non-interest-earning assets: Allowance for loan losses (3,025) (2,846) Other assets 24,065 20,853 --------- --------- Total assets $ 401,835 $ 349,602 ========= ========= Liabilities and Stockholders' Equity Interest-bearing liabilities: Interest-bearing demand deposits $ 122,346 $ 182 0.60% $ 112,563 $ 308 1.10% Savings deposits 49,899 100 0.81 41,615 89 0.86 Time deposits 90,792 607 2.69 93,889 757 3.23 Repurchase agreements 2,840 8 1.13 -- -- FHLB Borrowing 19,217 163 3.41 -- -- Subordinated debenture 7,260 122 6.76 4,865 21 1.73 --------- ------- ---- --------- ------- ---- Total interest-bearing liabilities 292,354 1,182 1.63 252,932 1,175 1.86 ------- ---- ------- ---- Non-interest-bearing liabilities: Demand deposits 79,677 69,718 Other liabilities 1,916 1,732 Stockholders' equity 27,888 25,220 --------- --------- Total liabilities and stockholders' equity $ 401,835 $ 349,602 ========= ========= Net interest income (taxable equivalent basis) $ 4,062 $ 3,538 ======= ======= Net interest spread (taxable equivalent basis) 3.91% 3.84% ==== ==== Net yield on interest-earning assets (taxable equivalent basis) (3) 4.29% 4.28% ==== ====
------------------------- (1) For purpose of these calculations, nonaccruing loans are included in the average balance. Fees are included in loan interest. Loans and total interest-earning assets are net of unearned income. Securities are included at amortized cost. (2) The tax equivalent adjustments are based on a marginal tax rate of 34% and the provisions of Section 291 of the Internal Revenue Code. (3) Net interest income (taxable equivalent basis) divided by average interest-earning assets.
2004 2003 ----- ------ (Dollars in thousands) Reconciliation of net interest income (tax equivalent basis): Net interest income 3,985 3,457 Tax equivalent basis adjustment 77 81 ----- ----- Net interest income (tax equivalent basis) 4,062 3,538 ===== =====
19 Provision for loan losses The Corporation maintains an allowance for loan losses at a level considered by management to be adequate to cover the inherent losses associated with its loan portfolio, after giving consideration to changes in general market conditions and in the nature and volume of the Corporation's loan activity. The allowance for loan losses is based on estimates, and provisions are charged to operations during the period in which such additions are deemed necessary. The provision charged to operations totaled $120,000 and $110,000 during the three months ended June 30, 2004 and 2003, respectively. The increase in the provision was primarily due to the continued growth in loans and an increase in nonperforming loans. See "Asset Quality" section for summary of allowance for loan losses and nonperforming assets. The Corporation monitors its loan portfolio and intends to continue to provide for loan loss reserves based on its ongoing periodic review of the loan portfolio and general market conditions. Noninterest income Noninterest income decreased $18,000, or 2.3%, from $778,000 for the three month period ending June 30, 2003 to $760,000 for the comparable period in 2004. Deposit related fees increased $74,000 due to an increase in the deposit base and income derived from the merchant credit card processing program. Mortgage origination volume continues to be lower than the record volume of 2003 due to the high refinances that occurred in 2003. Gain on mortgage loans held for sale decreased $93,000, or 65.5% for the second quarter of 2004 compared to the comparable period in 2003. Noninterest expense Noninterest expense increased by approximately $359,000, or 12.8%, to $3.2 million for the three months ended June 30, 2004, compared to $2.8 million for the same 2003 period. Salaries and employee benefits, the major component of noninterest expense, increased $60,000, or 4.6%, during the three months ended June 30, 2004. This increase was due to increases in staffing for new Wayne branch, opened in November 2004 and general increases for merit and performance. Occupancy and equipment increased $94,000, or 26.2%, primarily due to the increase in the Corporation's branch facilities. Data processing expense increased $44,000, or 21.4%, due to the increase in the Corporation's deposit base, and the implementation of the check imaging upgrade, which occurred in the second quarter of 2003. The Corporation has also begun to deploy the use of fraud detection software in the check processing area. This should help to contain losses due to check fraud. Miscellaneous expenses increased $122,000, or 18.8% to provide for the general growth of the merchant card processing business and the growth of the Corporation. 20 Income taxes Income tax expense totaled $535,000 for the three months ended June 30, 2004, for an effective tax rate of 36.3%. For the three months ended June 30, 2003, income tax expense totaled $469,000, for an effective tax rate of 35.2%. The effective tax rate has increase due to a slight change in the mix of taxable versus nontaxable earning assets. Asset Quality The Corporation's principal earning assets are its loans to businesses and individuals located in northern New Jersey. Inherent in the lending function is the risk of deterioration in the borrower's ability to repay their loans under their existing loan agreements. Risk elements include nonaccrual loans, past due and restructured loans, potential problem loans, loan concentrations and other real estate owned. The following table shows the composition of nonperforming assets at the end of the last four quarters:
06/30/04 03/31/04 12/31/03 09/30/03 -------- -------- -------- -------- (Dollars in Thousands) Nonaccrual loans: (1) $ 164 $ 201 $ 257 $ 245 Loans past due 90 days or more: (2) 1,394 1,320 320 22 Restructured loans: 477 487 513 841 ---------- --------- -------- ------ Total nonperforming loans $ 2,035 $ 2,008 $ 1,090 $1,108 ========== ========= ======== ====== Allowance for loan losses $ 3,023 $ 2,964 $ 2,888 $2,791 ========== ========= ======== ====== Nonaccrual loans to total loans 0.06% 0.07% 0.10% 0.10% Nonperforming loans to total loans 0.74% 0.75% 0.42% 0.44% Nonperforming loans to total assets 0.50% 0.50% 0.27% 0.30% Allowance for loan losses to total loans 1.10% 1.11% 1.10% 1.22%
(1) Generally represents loans to which the payments of interest or principal are in arrears for a period of more than 90 days. Interest previously accrued on these loans and not yet paid is reversed and charged against income during the current period. Interest earned thereafter is only included in income to the extent that it is received in cash. (2) Represents loans to which payments of interest or principal are contractually past due 90 days or more but which are currently accruing income at the contractually stated rates. A determination is made to continue accruing income on those loans which are sufficiently collateralized and on which management believes all interest and principal owed will be collected. There were no loans at June 30, 2004 other than those included in the above table, where the Corporation was aware of any credit conditions of any borrowers that would indicate a strong possibility of the borrowers not complying with the present terms and conditions of repayment and which may result in such loans being included as non-accrual, past due or restructured at a future date. 21 The Corporation's lending activities are concentrated in loans secured by real estate located in northern New Jersey. Accordingly, the collectibility of a substantial portion of the Corporation's loan portfolio is susceptible to changes in real estate market conditions in northern New Jersey. Market Risk The Corporation's primary exposure to market risk arises from changes in market interest rates ("interest rate risk"). The Corporation's profitability is largely dependent upon its ability to manage interest rate risk. Interest rate risk can be defined as the exposure of the Corporation's net interest income to adverse movements in interest rates. Although the Corporation manages other risks, as in credit and liquidity risk, in the normal course of its business, management considers interest rate risk to be its most significant market risk and could potentially have the largest material effect on the Corporation's financial condition. The Corporation manages its interest rate risk by utilizing an asset/liability simulation model and by measuring and managing its interest sensitivity gap. Interest sensitivity gap is determined by analyzing the difference between the amount of interest-earning assets maturing or repricing within a specific time period and the amount of interest-bearing liabilities maturing or repricing within the same period of time. The Asset Liability Committee reviews and discusses these measurements on a monthly basis. The Corporation does not have any material exposure to foreign currency exchange rate risk or commodity price risk. The Corporation did not enter into any market sensitive instruments for trading purposes nor did it engage in any hedging transactions utilizing derivative financial instruments during the six months ended June 30, 2004. The Corporation is, however, 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 instruments, which include commitments to extend credit and standby letters of credit, involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the consolidated statement of condition. 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 and may require collateral from the borrower if deemed necessary by the Corporation. Standby letters of credit are conditional commitments issued by the Corporation to guarantee the performance of a customer to a third party up to a stipulated amount and with specified terms and conditions. Commitments to extend credit and standby letters of credit are not recorded on the Corporation's consolidated balance sheet until the instrument is exercised. 22 Capital Adequacy The Corporation is subject to capital adequacy guidelines promulgated by the Board of Governors of the Federal Reserve System ("FRB"). The Bank is subject to similar capital adequacy requirements imposed by the Federal Deposit Insurance Corporation. The FRB has issued regulations to define the adequacy of capital based upon the sensitivity of assets and off-balance sheet exposures to risk factors. Four categories of risk weights (0%, 20%, 50%, and 100%) were established to be applied to different types of balance sheet assets and off-balance sheet exposures. The aggregate of the risk-weighted items (risk- based assets) is the denominator of the ratio, the numerator is risk-based capital. Under the regulations, risk-based capital has been classified into two categories. Tier 1 capital includes common and qualifying perpetual preferred stockholders' equity less goodwill. Tier 2 capital includes mandatory convertible debt, allowance for loan losses, subject to certain limitations, and certain subordinated and term debt securities. Total qualifying capital consists of Tier 1 capital and Tier 2 capital; however; the amount of Tier 2 capital may not exceed the amount of Tier 1 capital. At June 30, 2004, the minimum risk-based capital requirements to be considered adequately capitalized were 4% for Tier 1 capital and 8% for total capital. Federal banking regulators have also adopted leverage capital guidelines to supplement the risk-based measures. The leverage ratio is determine by dividing Tier 1 capital as defined under the risk-based guidelines by average total assets (non risk-adjusted) for the preceding quarter. At June 30, 2004 the minimum leverage ratio requirement to be considered well capitalized was 4%. The following table reflects the Corporation's capital ratios at June 30, 2004.
Required Actual Excess ----------- ------- -------- Risk-based Capital Tier 1 4.00% 12.84% 8.84% Total 8.00% 13.94% 5.94% Leverage Ratio 4.00% 8.80% 4.80%
Liquidity and Capital Resources The Corporation's primary sources of funds are deposits, amortization and prepayments of loans and mortgage-backed securities, maturities of investment securities and funds provided from operations. While scheduled loan and mortgage-backed securities amortization and maturities of investment securities are a relatively predictable source of funds, deposit flow and prepayments on loans and mortgage-backed securities are greatly influenced by market interest rates, economic conditions and competition. The Corporation's liquidity, represented by cash and cash equivalents, is a product of its operating, investing and financing activities. The primary source of cash from operating activities is net income. Liquidity management is both a daily and long-term function of business management. Excess liquidity is generally invested in short-term investments, such as federal funds sold. The Corporation anticipates that it will have sufficient funds available to meet its current loan commitments. At June 30, 2004, the Corporation has outstanding loan commitments of $17.5 million and unused lines and letters of credit totaling $69.2 million. Certificates of deposit scheduled to mature in one year or less, at June 30, 2004, totaled $52.3 million. Management believes that a significant portion of such deposits will remain with the Corporation. Cash and cash equivalents increased $2.4 million during the first six months of 2004. Operating activities and financing activities provided $2.5 million and $3.4 million, respectively. Net investing activities amounting to $3.6 million partially offset these amounts. 23 ITEM 3. Quantitative and Qualitative Disclosures about Market Risk Disclosure about quantitative and qualitative market risk is located in the Market Risk section of Management's Discussion and Analysis of Financial Condition and Results of Operations. ITEM 4. Controls and Procedures The Corporation's management, with the participation of the Corporation's chief executive officer and principal accounting officer, has evaluated the effectiveness of the Corporation's disclosure controls and procedures as of June 30, 2004. Based on this evaluation, the Corporation's chief executive officer and principal accounting officer concluded that the Corporation disclosure controls and procedures are effective for recording, processing, summarizing and reporting the information the Corporation is required to disclose in the reports it files under the Securities Exchange Act of 1934, within the time periods specified in the SEC's rules and forms. Such evaluation did not identify any change in the Corporation's internal control over financial reporting that occurred during the quarter ended June 30, 2004 that has materially affected, or is reasonably likely to materially affect, the Corporation's internal control over financial reporting. 24 Stewardship Financial Corporation Part II -- Other Information Item 4. Submission of Matters to a Vote of Security Holders The Corporation held an Annual Meeting of Shareholders on May 11, 2004. At that meeting, the Corporation's shareholders elected three directors for a three year term that will expire in May 2007, or until their successors are duly elected and qualified. The voting results were as follows:
Votes for Votes Withheld --------- --------------- Election of Director Harold Dyer 2,336,338 3,500 John J. Murphy 2,242,056 97,781 Abe Van Wingerden 2,336,338 3,500
There were no broker non-votes on any of the above matters. The following individuals whose terms expire in either 2005 or 2006, or until their successors are duly elected and qualified, continue to serve as directors: William C. Hanse, Margo Lane, Arie Leegwater, John L. Steen, Robert J. Turner, William J. Vander Eems, and Paul Van Ostenbridge The Corporation's shareholders voted to amend the Certificate of Incorporation to increase the authorized shares of common stock from 5,000,000 to 10,000,000 shares. The proposal passed as follows: For- 2,129,039 Against- 198,542 Abstain - 12,256. There were no broker non-votes on this matter. Item 6. Exhibits and Reports on Form 8K -------------------------------- (a) Exhibits See exhibit index (b) Reports on Form 8-K 1) On April 23, 2004, the Corporation filed a current report on Form 8-K, attaching a press release reporting results for the quarter ended March 31, 2004. 25 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. Stewardship Financial Corporation Date: August 12, 2004 By: /s/ Paul Van Ostenbridge --------------- ------------------------------ Paul Van Ostenbridge President and Chief Executive Officer (authorized officer on behalf of registrant) Date: August 12, 2004 By: /s/ Julie E. Holland --------------- ------------------------------- Julie E. Holland Vice President and Treasurer (principal accounting officer) 26 EXHIBIT INDEX EXHIBIT NUMBER DESCRIPTION 99.1 Exhibit 31.1 -- Certification of Paul Van Ostenbridge required by Rule 13a-14(a) or Rule 15d-14(a) 99.2 Exhibit 31.2 -- Certification of Julie Holland required by Rule 13a-14(a) or Rule 15d-14(a) 99.3 Exhibit 32.1 -- Certification of Paul Van Ostenbridge and Julie Holland required by Rule 13a-14(b) or Rule 15d-14(b) and Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C. Section 1350