EX-13 2 ex13.htm GUARANTY FEDERAL BANCSHARES INC. 2005 ANNUAL REPORT Guaranty Federal Bancshares Inc. 2005 Annual Report

 
CONTENTS
 

COMMON STOCK PRICES & DIVIDENDS

The common stock of Guaranty Federal Bancshares, Inc. (the “Company”) is traded in the over-the-counter market and quoted on the NASDAQ National Market under the symbol “GFED”. As of March 8, 2006, there were approximately 1,668 stockholders. At that date the Company had 6,607,250 shares of common stock issued and 2,954,728 shares of common stock outstanding.

During the year ended December 31, 2005, the Company paid dividends of (i) $0.16 per share on April 14, 2005, to stockholders of record as of March 30, 2005, (ii) $0.16 per share on July 15, 2005 to stockholders of record as of July 1, 2005, and (iii) $0.165 per share on October 14, 2005, to stockholders of record as of October 1, 2005, and also declared a cash dividend of $0.165 per share on December 22, 2005, which was paid on January 20, 2006, to stockholders of record on January 6, 2006. During the year ended December 31, 2004, the Company paid dividends of (i) $0.155 per share on April 14, 2004, to stockholders of record as of March 30, 2004, (ii) $0.155 per share on July 15, 2004 to stockholders of record as of July 1, 2004, and (iii) $0.16 per share on October 15, 2004, to stockholders of record as of October 1, 2004, and also declared a cash dividend of $0.16 per share on December 16, 2004, which was paid on January 21, 2005, to stockholders of record on January 7, 2005. The Company also paid a cash dividend of $0.155 per share on January 23, 2004 to stockholders of record on January 9, 2004. The Company’s Board of Directors anticipates paying dividends on comparable dates during fiscal year ended December 31, 2006 to the payment dates during the fiscal year ended December 31, 2005. Such future dividends, if any, will be at the discretion of the Company’s Board of Directors and will depend on, among other things, the Company’s results of operations, cash requirements and surplus, financial condition and other factors that the Company’s Board of Directors may consider relevant.

The table below reflects the range of common stock high and low closing prices per the NASDAQ Stock Market by quarter for the years ended December 31, 2005 and 2004.

 
Year ended
  
Year ended
 
December 31, 2005
  
December 31, 2004
 
High
  
Low
  
High
  
Low
Quarter ended:
              
March 31
$24.06
 
22.55
 
19.95
 
18.70
June 30
23.73
 
21.93
 
19.95
 
18.81
September 30
27.25
 
23.00
 
20.01
 
19.11
December 31
28.25
 
26.10
 
24.15
 
20.00

ANNUAL MEETING OF STOCKHOLDERS: The Annual Meeting of Stockholders of the Company will be held Wednesday, May 24, 2006 at 6:00 p.m., local time, at the Clarion Hotel, 3333 S. Glenstone, Springfield, Missouri.
ANNUAL REPORT ON FORM 10-K:  Copies of the Company’s Annual Report on Form 10-K filed with the Securities and Exchange Commission are available without charge upon written request to: Lorene Thomas, Secretary, Guaranty Federal Bancshares, Inc., 1341 W. Battlefield St., Springfield, MO 65807-4181.
TRANSFER AGENT: Registrar and Transfer Company, 10 Commerce Drive, Cranford, NJ 07016
STOCK TRADING INFORMATION: Over-the Counter Symbol: GFED
SPECIAL LEGAL COUNSEL: Blackwell Sanders Peper Martin, LLP, 901 St. Louis St., Suite 1900, Springfield, MO 65806
INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM: BKD, LLP, 901 St. Louis St., PO Box 1190, Springfield, MO 65801-1190
STOCKHOLDER AND FINANCIAL INFORMATION: Bruce Winston, Senior Vice President, Chief Financial Officer: 417-520-0206

1

Guaranty Federal Bancshares, Inc.                                                                                                                                    President's Message
 

We are pleased to present in this 2005 Annual Report another record year of operating results for Guaranty Federal Bancshares, Inc.

The Company continued its steady growth ending the year with assets totaling $481.0 million, up $40.4 million or 9.1% from the prior year. Fueling this growth is the Company’s focus in the commercial lending area. Strong loan demand in construction and commercial real estate resulted in loans outstanding at year end of $435.5 million, an increase of $43.2 million or 11.0% from the prior year. While experiencing this growth, Guaranty maintained its high standard of credit quality.

Our positive earnings trend continued with net income for 2005 totaling $5.9 million or $2.03 per diluted share compared to $1.47 per diluted share for the previous year, a 38.1% increase. The two-year improvement raised the Company’s return on assets and return on equity ratios to 1.28% and 14.12%, respectively, at December 31, 2005. Quality asset growth and improvement in our net interest margin were keys to our strong increase in earnings in 2005.

The performance of our stock continued to increase, beginning the year at $24.06 per share and reaching a high during the year of $28.25 on November 29, 2005, while closing at $27.90 on December 31, 2005. The closing price on March 29, 2006 was another record high at $30.24, an increase of 8.4% from December 31, 2005. More significantly, over the past five years the price of our stock has increased over 140%. Since inception of the Company, the annual dividend per share has increased from $0.31 per share in 1998 to $0.645 per share in 2005. This was the eighth consecutive year in which the annual dividend payment has increased.

The financial improvements achieved during the past two years are the result of our associates focusing on the positive aspects of the many changes at Guaranty Bank. The Board of Directors and new management team have made significant investments in people, products, facilities and technology. These investments combined with the dedication and commitment of our associates to deliver exemplary service,  have resulted in a substantial increase in shareholder value.

On behalf of the management, staff and Board of Directors, I want to express my heartfelt thanks to Gary Lipscomb for his service to the Company. After 15 years of dedicated service as a member of our Board of Directors, Gary will retire at the expiration of his current term later this year. We sincerely appreciate his valuable advice and counsel and wish him the very best in his retirement.

We are excited about our future, and on behalf of everyone at Guaranty, I want to thank you, our shareholders, for your confidence and support.

Sincerely,
       
                            
 
/s/ Shaun A. Burke
President & CEO
Guaranty Federal Bancshares, Inc.


2

Guaranty Federal Bancshares, Inc.
Selected Consolidated Financial and Other Data
 
 
The following tables include certain information concerning the financial position of Guaranty Federal Bancshares, Inc. (including consolidated data from operations of subsidiaries) as of the dates indicated. Dollar amounts are expressed in thousands except per share data.
 

Summary Statement of Income
 
Year ended
 
Year ended
 
Six months ended
 
   
December 31,  
    
December 31,
   
December 31,
 
     
2005
    
2004
    
2003
  
                     
Interest income
 
$
27,283
    
20,539
   
9,846
 
Interest expense
   
11,860
   
8,446
   
4,491
 
Net interest income
   
15,423
   
12,093
   
5,355
 
Provision for loan losses
   
945
   
864
   
1,162
 
Net interest income after provision
                   
for loan losses
   
14,478
   
11,229
   
4,193
 
Noninterest income
   
3,597
   
3,616
   
2,089
 
Noninterest expense
   
8,670
   
8,248
   
3,994
 
Income before income taxes
   
9,406
   
6,597
   
2,288
 
Provision for income taxes
   
3,507
   
2,313
   
788
 
                     
Net income
 
$
5,899
    
4,284
   
1,500
 
                     
Basic
 
$
2.12
    
1.53
   
0.54
 
Diluted
 
$
2.03
    
1.47
   
0.52
 
                     
 
 Six months ended  
    
Year ended
       
   
December 31,  
    
June 30,
       
     
2002
    
2003
        
   
(Unaudited) 
              
Interest income
  
$
11,290
    
21,782
       
Interest expense
   
6,086
   
11,445
       
Net interest income
   
5,204
   
10,337
       
Provision for loan losses
   
205
   
610
       
Net interest income after provision
                   
for loan losses
   
4,999
   
9,727
       
Noninterest income
   
1,752
   
3,688
       
Noninterest expense
   
4,060
   
8,179
       
Income before income taxes
   
2,691
   
5,236
       
Provision for income taxes
   
927
   
1,656
       
Net income
 
$
1,764
    
3,580
       
                     
Basic
 
$
0.63
    
1.28
       
Diluted
 
$
0.62
    
1.26
       

3

Guaranty Federal Bancshares, Inc.
Selected Consolidated Financial and Other Data
 
 


Summary Balance Sheet
As of December 31,
As of June 30,
 
   
2005
  
2004
  
2003 (1)
 
2003
  
ASSETS
                 
Cash and cash equivalents
$
20,506
  
15,896
 
22,657
 
19,015
 
Investment securities
 
12,681
 
21,553
 
16,731
 
15,522
 
Loans receivable, net
 
435,528
 
392,333
 
332,130
 
336,838
 
Accrued interest receivable
 
2,089
 
1,570
 
1,306
 
1,430
 
Prepaids and other assets
 
2,717
 
1,976
 
7,351
 
10,455
 
Foreclosed assets
 
27
 
78
 
6
 
182
 
Premises and equipment
 
7,453
 
7,189
 
6,576
 
6,709
 
 
$
481,001
  
440,597
 
386,757
 
390,151
 
LIABILITIES
              
Deposits
$
320,059
  
296,388
 
237,131
 
235,677
 
Federal Home Loan Bank advances
 
100,000
 
100,000
 
108,837
 
114,619
 
Subordinated debentures
 
15,465
 
-
 
-
 
-
 
Other liabilities
 
3,385
 
3,436
 
2,811
 
3,313
 
   
438,909
 
399,824
 
348,779
 
353,609
 
                   
STOCKHOLDERS' EQUITY
  
42,092
 
40,773
 
37,978
 
36,542
 
 
$
481,001
  
440,597
 
386,757
 
390,151
 
                   
Supplemental Data
 
As of December 31,
 
As of June 30,
 
   
2005
  
2004
  
2003 (1
)
2003
  
Number of full-service offices
 
7
 
7
 
9
 
9
 
Cash dividends per share
$
0.65
  
0.63
 
0.31
 
0.60
 
 
(1) In 2003, the Company determined to change its fiscal year end from June 30 to a calendar year end of December 31. As a result, the Company reported a six-month transition period ended December 31, 2003 in order to change to this new calendar year end.
 

 

4

Guaranty Federal Bancshares, Inc.
Management’s Discussion and Analysis of Financial Condition
And Results of Operations


Guaranty Federal Bancshares, Inc. (the “Company”) is a Delaware corporation organized on December 30, 1997 for the purpose of becoming the holding company of Guaranty Federal Savings Bank, a stock savings bank (the “Bank”). The Bank is a wholly-owned subsidiary of the Company.
 
In April 1995, Guaranty Federal Savings & Loan Association reorganized from a federally chartered mutual savings and loan association into a mutual holding company, Guaranty Federal Bancshares, M. H. C. (the “MHC”). Concurrent with the reorganization, the Bank was chartered. In December 1997, the Company completed the conversion and reorganization of the Bank and the former MHC by selling common stock to depositors of the Bank and a benefit plan of the Bank. In addition, all shares of common stock of the Bank held by public stockholders were exchanged for shares of common stock of the Company.

On June 27, 2003, the Bank converted to a state-chartered trust company with banking powers in Missouri, and the Company became a one-bank holding company. The name of the Bank was changed from Guaranty Federal Savings Bank to Guaranty Bank.

In 2003, the Company also determined to change its fiscal year end from June 30 to a calendar year end of December 31. The six-month period ended December 31, 2003, transitions between the Company’s old and new fiscal year ends. As a result, the Company reported a six-month transition period ended December 31, 2003 in order to change to this new calendar year end.

The primary activity of the Company is to oversee its investment in the Bank. The Company engages in few other activities, and the Company has no significant assets other than its investment in the Bank. For this reason, unless otherwise specified, references to the Company include the operations of the Bank. The Company’s principal business consists of attracting deposits from the general public and using such deposits to originate mortgage loans secured by one- to four-family residences, multi-family, construction and commercial real estate loans and consumer and business loans. The Company also uses these funds to purchase loans secured by one- to four-family residences, mortgage-backed securities, US government and agency obligations, and other permissible securities. When cash outflows exceed inflows, the Company uses borrowings and brokered deposits as additional financing sources.

The Company derives revenues principally from interest earned on loans and investments and, to a lesser extent, from fees charged for services. General economic conditions and policies of the financial institution regulatory agencies, including the Missouri Division of Finance and the Federal Deposit Insurance Corporation (“FDIC”) significantly influence the Company’s operations. Interest rates on competing investments and general market interest rates influence the Company’s cost of funds. Lending activities are affected by the interest rates at which such financing may be offered. The Company intends to focus on one- to four-family residential, consumer, and commercial real estate lending throughout southwestern Missouri.
 
    The Company has two wholly-owned subsidiaries other than the Bank, its principal subsidiary: (i) Guaranty Statutory Trust I, a Delaware statutory trust (“Trust I”); and (ii) Guaranty Statutory Trust II, a Delaware statutory trust. These Trusts were formed in December 2005 for the exclusive purpose of issuing trust preferred securities to acquire junior subordinated debentures issued by the Company. The Company’s banking operation conducted through the Bank is the Company’s only reportable segment. See also the discussion contained in the section captioned “Segment Information” in Note 1 to the Consolidated Financial Statements in this report.

The discussion set forth below, and in any other portion of this report, may contain forward-looking statements. Such statements are based upon the information currently available to management of the Company and management’s perception thereof as of the date of this report. When used in this document, words such as “anticipates,” “estimates,” “believes,” “expects,” and similar expressions are intended to identify forward-looking statements but are not the exclusive means of identifying such statements. Such statements are subject to risks and uncertainties. Actual results of the Company’s operations could materially differ from those forward-looking comments. The differences could be caused by a number of factors or combination of factors including, but not limited to: changes in demand for banking services; changes in portfolio composition; changes in management strategy; increased competition from both bank and non-bank companies; changes in the general level of interest rates; and other factors set forth in reports and other documents filed by the Company with the Securities and Exchange Commission from time to time.

5

Guaranty Federal Bancshares, Inc.
Management’s Discussion and Analysis of Financial Condition
And Results of Operations
FINANCIAL CONDITION

From December 31, 2004 to December 31, 2005, the Company’s total assets increased $40,404,140 (9%) to $481,000,668, liabilities increased $39,085,254 (10%) to $438,908,519, and stockholders' equity increased $1,318,886 (3%) to $42,092,149. The ratio of stockholders’ equity to total assets decreased to 8.8% during this period, compared to 9% as of December 31, 2004.

From December 31, 2004 to December 31, 2005, securities available-for-sale decreased $8,344,621 (55%).  During December 2005 the Company restructured its investment portfolio by selling its 40,000 shares in Fannie Mae preferred stock, at a loss of $526,000 and investments in trust preferred securities totaling $6.6 million at a gain of $58,663.  The net loss from these sales was offset with sales of shares of FHLMC stock as discussed further below. The Company currently owns 48,600 shares of Federal Home Loan Mortgage Corporation (“FHLMC”) stock with an amortized cost of $47,595 in the securities available-for-sale category.  As of December 31, 2005, the gross unrealized gain on the stock is $3,176,010, a decrease of $1,209,020 from the gross unrealized gain at December 31, 2004.  This decrease is primarily due to the sale of 19,400 shares of the FHLMC stock in 2005.  In addition the stock price of FHLMC stock decreased from $73.70 per share as of December 31, 2004 to $66.35 per share as of December 31, 2005.  See also discussion under “Results of Operations - Comparison of Year Ended December 31, 2005 and December 31, 2004 - Non-Interest Income.” 
 
From December 31, 2004 to December 31, 2005, securities held-to-maturity decreased $360,434 (28%) to $944,724 due to repayments received during the period, and stock of the Federal Home Loan Bank of Des Moines (“FHLB”) was reduced by $167,700 (3%) to $4,978,800 due to the sale of stock which exceeded the FHLB requirements.  The Bank is required to own stock in the FHLB equal to 0.12% of assets plus 4.45% of advances.

From December 31, 2004 to December 31, 2005, net loans receivable increased by $44,692,637 (11%) to $433,435,429. During this period, permanent loans secured by both owner and non-owner occupied one to four unit residential real estate decreased $16,275,648 (14%), consumer installment loans decreased $908,546 (4%), multi-family permanent loans increased $1,371,702 (3%), construction loans increased $25,299,646 (56%), permanent loans secured by commercial real estate increased $25,334,281 (26%) and other commercial loans increased $10,764,037 (19%). During this period the Company continued to increase its emphasis on commercial lending, while selling the majority of conforming single family loan production on the secondary market. Loans sold on the secondary market are sold both servicing retained, whereby the Bank continues to service the loan and servicing released, whereby the third party who purchases the loan provides the servicing. Recently, the majority of the loans sold on the secondary market have been sold servicing released. As a result of these loan sales, loans serviced for others decreased $10,543,585 (8%).

From December 31, 2004 to December 31, 2005, loans past due 90 days or more increased $302,075 to $721,540 (0.2% of net loans). As of December 31, 2005, management considers loans totaling $4,626,260 as impaired with a related allowance for loan losses of $532,811. Single-family homes collateralize the majority of the impaired loans. The Bank recognizes interest income on impaired loans as payments are received. Management believes the loss allowances recorded for these loans are sufficient to liquidate the collateral without further loss.

From December 31, 2004 to December 31, 2005, the allowance for loan losses increased $863,000 to $5,399,654. In addition to the provision for loan loss of $945,000 recorded by the Company during year ended December 31, 2005 loan charge-offs exceeded recoveries by $82,000 for the twelve months ended December 31, 2005. The allowance for loan losses as of December 31, 2005 and December 31, 2004 was 1.2% and 1.2% of net loans outstanding, respectively. As of December 31,2005, the allowance for loan losses was 117% of impaired loans versus 75% as of December 31, 2004.

As of December 31, 2005, foreclosed assets held for sale consisted of four vehicles. This represents a decrease from December 31, 2004 primarily resulting from the Company’s sale during 2005 of the single family residence which was held for sale as of December 31, 2004.

From December 31, 2004 to December 31, 2005, premises and equipment increased $263,931 (4%) to $7,452,798. This increase is primarily due the addition of a new branch location and new equipment.

6

Guaranty Federal Bancshares, Inc.
Management’s Discussion and Analysis of Financial Condition
And Results of Operations
 
From December 31, 2004 to December 31, 2005, deposits increased $23,671,209 (8%) to $320,058,951. During this period, core deposit accounts increased by $2,901,337 (2%) to 41% of total deposits and certificates of deposit increased by $20,769,872 (12%) to $189,806,318. Included in the certificates of deposit total is $57,629,088 in deposits placed by brokers, a decrease from $68,374,919 as of December 31, 2004. Management considers brokered deposits to be an effective source of funds that cost less at the margin than increasing rates on retail deposits in our local market.

From December 31, 2004 to December 31, 2005, the Company’s borrowings from the Federal Home Loan Bank (“FHLB”) remained the same, at $100,000,000, which satisfies the Company’s requirement to comply with the FHLB advances limitation of 35% of total assets.

As of December 31, 2005, the Company had $15,465,000 of junior subordinated debentures that were comprised of $5,155,000 issued to Guaranty Statutory Trust I and $10,310,000 issued to Guaranty Statutory Trust II. During the year ended December 31, 2004, the Company did not issue or have outstanding any subordinated debentures. On December 15, 2005, the Company completed an offering of $15 million of trust preferred securities (”Trust Securities”). The Company formed Guaranty Statutory Trust I and Guaranty Statutory Trust II as wholly-owned subsidiaries and Delaware statutory trusts for the purpose of issuing the Trust Securities. The proceeds of the sale of Trust Securities issued by Guaranty Statutory Trust I, together with the proceeds of the Trust’s sale of its common securities issued to the Company, were used by the Trust to purchase 30-year junior subordinated deferrable interest debentures from the Company in the principal amount of $5,155,000 (“Trust I Debentures”). The proceeds of the sale of Trust Securities issued by Guaranty Statutory Trust II, together with the proceeds of the Trust’s sale of its common securities issued to the Company, were used by the Trust to purchase 30-year junior subordinated deferrable interest debentures from the Company in the principal amount of $10,310,000 (“Trust II Debentures”, and collectively with the Trust I Debentures, the “Debentures”). Both the Trust I Debentures and the Trust II Debentures were issued pursuant to the terms of Indentures dated December 15, 2005 by and between the Company and Wilmington Trust Company, as trustee. The Trust I Debentures bear interest at a fixed rate of 6.92%, payable quarterly. The Trust II Debentures bear interest at a fixed rate of 6.47% for 5 years, payable quarterly, after issuance and thereafter at a floating rate equal to the three month LIBOR plus 1.45%. The interest payments by the Company to the Trusts will be used to pay the dividends payable by the Trusts to the holders of the Trust Securities.
 
The Debentures mature on February 23, 2036. Subject to prior approval by the Federal Reserve Board, the Debentures and the Trust Securities are each callable by the Company or the Trusts, respectively and as applicable, at its option after five years from issuance, and sooner in the case of a special redemption at a special redemption price ranging up to 103.2% of the principal amount thereof, and upon the occurrence of certain events, such as a change in the regulatory capital treatment of the Trust Securities, either Trust being deemed an investment company or the occurrence of certain adverse tax events. In addition, the Company and the Trusts may defer interest and dividend payments, respectively, for up to five consecutive years without resulting in a default. An event of default may occur if the Company declares bankruptcy, fails to make the required payments within 30 days or breaches certain covenants under the Debentures. The Debentures are subordinated to the prior payment of any other indebtedness of the Company.
 
The Company invested $13,970,000 from the proceeds of the sale of the trust preferred securities in its banking subsidiary, where the funds were used primarily to restructure the investment portfolio, fund loan growth and repay FHLB advances.
 
Stockholders’ equity (including unrealized appreciation on securities available-for-sale, net of tax) increased $1,318,886 (3%) to $42,092,149 as of December 31, 2005. Net income for the period ended December 31, 2005 exceeded cash dividends paid or declared by $4,096,207. The Company repurchased 146,542 shares as treasury stock at a cost of $3,563,011, at an average price of $24.31 per share. As of December 31, 2005, 38,543 shares remain to be repurchased under the repurchase plan announced November 22, 2002. The decrease in unrealized appreciation on securities available-for-sale, net of tax, decreased stockholders’ equity by $843,903. Stockholders’ equity also increased as a result of exercises of stock options to purchase the Company’s Common Stock and the release of shares of the Company’s Common Stock held by the Bank sponsored Employee Stock Ownership Plan. On a per share basis, stockholders’ equity increased $0.72 (5%) from $14.45 as of December 31, 2004 to $15.17 as of December 31, 2005.
 
7

Guaranty Federal Bancshares, Inc.
Management’s Discussion and Analysis of Financial Condition
And Results of Operations
 
AVERAGE BALANCES, INTEREST AND AVERAGE YIELDS

The following table shows the balances as of December 31, 2005 of various categories of interest-earning assets and interest-bearing liabilities and the corresponding yields and costs, and, for the periods indicated: (1) the average monthly balances of various categories of interest-earning assets and interest-bearing liabilities, (2) the total interest earned or paid thereon, and (3) the resulting weighted average yields and costs. In addition, the table shows the Company’s rate spreads and net yields. Average balances are based on daily balances. Tax-free income is not material; accordingly, interest income and related average yields have not been calculated on a tax equivalent basis. Average loan balances include non-accrual loans. Dollar amounts are expressed in thousands.
 

 
As of 
    
Year Ended
   
Year Ended
 
 
December 31, 2005 
    
December 31, 2005
   
December 31, 2004
 
                                           
 
  
Balance  
    
Yield / Cost
    
Average Balance
   
Interest
 
Yield / Cost
    
Average Balance
 
Interest
 
Yield / Cost
  
ASSETS
                                         
Interest-earning:
                                         
Loans
$
435,528
    
6.88
%
$
419,552
  
$
26,553
  
6.33
%
$
366,696
  
19,990
  
5.45
%
Investment securities
 
4,526
   
5.23
%
  
9,905
   
432
 
4.36
%
  
10,076
 
289
 
2.87
%
Other assets
 
10,670
   
3.04
%
  
11,681
   
299
 
2.56
%
  
14,508
 
260
 
1.79
%
Total interest-earning
 
450,724
   
6.77
%
  
441,138
   
27,284
 
6.18
%
  
391,280
 
20,539
 
5.25
%
Noninterest-earning
 
30,277
         
20,205
             
20,812
         
 
$
481,001
        
$
461,343
            
$
412,092
          
                                           
LIABILITIES AND STOCKHOLDERS' EQUITY
                                         
Interest-bearing:
                                         
Savings accounts
$
14,298
    
1.80
%
$
14,931
    
201
 
1.35
%
$
16,607
  
140
 
0.84
%
Transaction accounts
 
79,761
   
1.24
%
  
84,776
   
1,300
 
1.53
%
  
80,001
 
793
 
0.99
%
Certificates of deposit
 
189,807
   
3.66
%
  
178,301
   
5,788
 
3.25
%
  
139,264
 
3,986
 
2.86
%
FHLB advances
 
100,000
   
4.55
%
  
111,104
   
4,494
 
4.04
%
  
111,169
 
3,519
 
3.17
%
Subordinated debentures
 
15,465
   
6.62
%
  
701
   
47
 
6.70
%
  
-
 
-
 
-
  
Other borrowed funds
 
1,594
   
2.55
%
  
1,395
   
31
 
2.22
%
  
987
 
7
 
0.71
%
Total interest-bearing
 
400,925
   
3.44
%
  
391,208
   
11,861
 
3.03
%
  
348,029
 
8,446
 
2.43
%
Noninterest-bearing
 
37,984
         
28,374
             
24,173
         
Total liabilities
 
438,909
         
419,582
           
372,202
       
Stockholders' equity
 
42,092
         
41,761
             
39,891
         
 
$
481,001
        
$
461,343
            
$
412,092
          
Net earning balance
$
49,799
        
$
49,930
            
$
43,252
          
Earning yield less costing rate
       
3.33
%
            
3.15
%
          
2.82
%
Net interest income, and
                                         
net yield spread on
                                         
interest-earning assets
                 
$
15,423
  
3.50
%
      
12,094
  
3.09
%
Ratio of interest-earning assets to
                                         
interest-bearing liabilities
 
112
%
        
113
%
            
112
%
        

8
Guaranty Federal Bancshares, Inc.
Management’s Discussion and Analysis of Financial Condition
And Results of Operations

 
Six Months Ended
 
Six Months Ended
 
Year Ended
 
December 31, 2003
 
December 31, 2002
 
June 30, 2003
             
(Unaudited)
       
 
  
 Average Balance  
    
Interest
 
Yield / Cost
    
Average Balance
 
Interest
 
Yield / Cost
    
Average Balance
 
Interest
 
Yield / Cost
  
ASSETS
                                       
Interest-earning:
                                           
Loans
$
334,071
  
$
9,567
  
5.73
%
$
323,292
  
10,827
  
6.70
%
$
326,441
  
20,928
  
6.41
%
Investment securities
 
9,899
   
135
 
2.73
%
  
11,988
 
231
 
3.85
%
  
11,103
 
419
 
3.77
%
Other assets
 
13,867
   
144
 
2.08
%
  
24,800
 
232
 
1.87
%
  
18,864
 
434
 
2.30
%
Total interest-earning
 
357,837
   
9,846
 
5.50
%
  
360,080
 
11,290
 
6.27
%
  
356,408
 
21,781
 
6.11
%
Noninterest-earning
 
20,821
             
13,990
           
19,368
         
 
$
378,658
            
$
374,070
          
$
375,776
          
                                             
LIABILITIES AND STOCKHOLDERS' EQUITY
                                           
Interest-bearing:
                                           
Savings accounts
$
17,483
    
70
 
0.80
%
$
17,507
  
132
 
1.51
%
$
17,390
  
221
 
1.27
%
Transaction accounts
 
74,578
   
327
 
0.88
%
  
67,002
 
460
 
1.37
%
  
67,614
 
814
 
1.20
%
Certificates of deposit
 
121,926
   
1,971
 
3.23
%
  
127,218
 
2,530
 
3.98
%
  
126,376
 
4,768
 
3.77
%
FHLB advances
 
101,841
   
2,121
 
4.17
%
  
107,612
 
2,959
 
5.50
%
  
108,020
 
5,634
 
5.22
%
Other borrowed funds
 
907
   
2
 
0.44
%
  
971
 
5
 
1.03
%
  
832
 
7
 
0.84
%
Total interest-bearing
 
316,735
   
4,491
 
2.84
%
  
320,310
 
6,086
 
3.80
%
  
320,232
 
11,444
 
3.57
%
Noninterest-bearing
 
24,038
             
17,390
           
18,946
         
Total liabilities
 
340,773
           
337,700
           
339,178
       
Stockholders' equity
 
37,885
             
36,370
           
36,598
         
 
$
378,658
            
$
374,070
          
$
375,776
          
Net earning balance
$
41,102
            
$
39,770
          
$
36,176
          
Earning yield less costing rate
           
2.66
%
          
2.47
%
          
2.54
%
Net interest income, and
                                           
net yield spread on
                                           
interest-earning assets
     
$
5,355
  
2.99
%
      
5,204
  
2.89
%
      
10,337
  
2.90
%
Ratio of interest-earning assets to
                                           
interest-bearing liabilities
 
113
%
            
112
%
          
111
%
        
9

Guaranty Federal Bancshares, Inc.
Management’s Discussion and Analysis of Financial Condition
And Results of Operations
The following table sets forth information regarding changes in interest income and interest expense for the periods indicated resulting from changes in average balances and average rates shown in the previous table. For each category of interest-earning assets and interest-bearing liabilities information is provided with respect to changes attributable to: (i) changes in balance (change in balance multiplied by the old rate), (ii) changes in interest rates (change in rate multiplied by the old balance); and (iii) the combined effect of changes in balance and interest rates (change in balance multiplied by change in rate). Dollar amounts are expressed in thousands.


 
Year ended  
    
Year ended
 
           December 31, 2005 versus December 31, 2004  
    
December 31, 2004 versus June 30, 2003
 
 
Average Balance  
    
Interest Rate
 
Rate & Balance
 
Total
   
Average Balance
 
Interest Rate
 
Rate & Balance
 
Total
 
Interest income:
                                     
Loans
$
2,881
    
3,218
 
464
 
6,563
 
$
2,581
  
(3,133
)
(386
)
(938
)
Investment securitites
 
(5
)
  
150
 
(2
)
143
   
(39
)
(100
)
9
 
(130
)
Other assets
 
(50
)
  
111
 
(22
)
39
   
(100
)
(96
)
22
 
(174
)
Net change in interest income
 
2,826
   
3,479
 
440
 
6,745
   
2,442
 
(3,329
)
(355
)
(1,242
)
                                       
Interest expense:
                                     
Savings accounts
 
(14
)
  
84
 
(9
)
61
   
(10
)
(75
)
4
 
(81
)
Transaction accounts
 
47
   
433
 
26
 
506
   
149
 
(143
)
(27
)
(21
)
Certificates of deposit
 
1,117
   
535
 
150
 
1,802
   
486
 
(1,151
)
(117
)
(782
)
Advances
 
(2
)
  
977
 
(1
)
974
   
164
 
(2,214
)
(65
)
(2,115
)
Subordinated debentures
 
47
   
-
 
-
 
47
   
-
 
-
 
-
 
-
 
Other borrowed funds
 
3
   
15
 
6
 
24
   
1
 
(1
)
-
 
-
 
Net change in interest expense
 
1,198
   
2,044
 
172
 
3,414
   
790
 
(3,584
)
(205
)
(2,999
)
Change in net interest income
$
1,628
    
1,435
 
268
 
3,331
 
$
1,652
  
255
 
(150
)
1,757
 
RESULTS OF OPERATIONS - COMPARISON OF YEAR ENDED DECEMBER 31, 2005 AND DECEMBER 31, 2004

 
 
Prime
 
Ten-Year Treasury
 
One-Year Treasury
 
December 31, 2005
  
6.19
%
  
4.29
%
  
3.62
%
December 31, 2004
  
4.34
%
  
4.27
%
  
1.88
%
Change in rates
  
1.85
%
  
0.02
%
  
1.74
%
 
Interest Rates. The Bank charges borrowers and pays depositors interest rates that are largely a function of the general level of interest rates. The above table sets forth the weekly average interest rates for the 52 weeks ending December 31, 2005 and December 31, 2004 as reported by the Federal Reserve. The Bank typically indexes its adjustable rate commercial loans to prime and its adjustable rate mortgage loans to the one-year treasury rate. The ten-year treasury rate is a proxy for 30-year fixed rate home mortgage loans.

Rates trended upward during 2004 as the FOMC increased the discount rates 25 basis points after five consecutive meetings from June to December 2004. As of year-end 2004, the prime rate was 5.25% up from 4.00% where it was quoted from June 2003 to June 2004. This trend continued in 2005 as the FOMC increased the discount rates 25 basis points after eight consecutive meetings from January 2005 to December 2005. As of year-end 2005 the prime rate was 7.25%.

 

10

Guaranty Federal Bancshares, Inc.
Management’s Discussion and Analysis of Financial Condition
And Results of Operations


Interest Income. Total interest income increased $6,744,135 (33%) as the average balance of interest-earning assets increased $49,858,000 (12%). In addition, the yield on average interest earning assets increased 93 basis points to 6.18%.

Interest on loans increased $6,562,743 (33%) and the average loan receivable balance increased $52,856,000 (14%) while the average yield increased 88 basis points to 6.33%. The increase in loan yield is the result of the combination of new loans at higher rates, a reduction in prepayments, and an increase of interest rates on adjustable rate loans.

Interest Expense. Total interest expense increased $3,414,774 (40%) as the average balance of interest-bearing liabilities increased $43,179,000 (12%). In addition, the average cost of interest-bearing liabilities increased 60 basis points to 3.03%.

Interest expense on deposits increased $2,368,909 (48%) as the average balance of interest bearing deposits increased $42,136,000 (18%) and the average interest rate paid to depositors increased 54 basis points to 2.62%. The average balance of interest bearing core deposit accounts increased $3,099,000 (3%) and the average balance of certificates of deposit increased $39,037,000 (28%).

In compliance with the FHLB limitation of advances to 35% of assets, the Company’s borrowings from the FHLB remained the same at $100,000,000. The average cost of those advances increased 87 basis points to 4.04%. As a result, interest expense on these advances increased $974,604 (28%). As of December 31, 2005 FHLB advances are 21% of total assets, compared to 23% of total assets as of December 31, 2004.

Net Interest Income. The Company’s net interest income increased $3,329,361 (28%). During the year ended December 31, 2005, the average balance of interest-earning assets exceeded the average balance of interest-bearing liabilities by $49,930,000, resulting in an increase in the average net earning balance of $49,858,000 (12%). In addition, the Company’s spread between the average yield on interest-earning assets and the average cost of interest-bearing liabilities increased by 33 basis points from 2.82% to 3.15%.

Provision for Loan Losses. Provisions for loan losses are charged or credited to earnings to bring the total allowance for loan losses to a level considered adequate by the Company to provide for potential loan losses in the existing loan portfolio. When making its assessment, the Company considers prior loss experience, volume and type of lending, local banking trends and past due loans in the Company’s loan portfolio. In addition, the Company considers general economic conditions and other factors related to collectiability of the Company’s loan portfolio.

During year ended December 31, 2005, the Company experienced loan charge-offs in excess of recoveries of $82,000 and, based on a review as discussed above, elected to record a provision for loan loss of $945,000 to increase the allowance for loan losses to $5,399,654 as of December 31, 2005. The provision for loan losses recorded by the Company during year ended December 31, 2004 was $863,830. Management of the Company anticipates the need to continue increasing the loan loss allowance in the future through charges to provision for loan losses based on the anticipated growth in its loan portfolio and the shift in the Company’s emphasis from primarily single-family loans to a mix of single-family and commercial loans.

Non-Interest Income. Non-interest income decreased $19,115 (1%). The gain on sale of loans of $623,252 for 2005, compared to $484,920 for 2004, was the result of mortgage banking activities related to the sale of single-family conforming residential loans in the secondary market. The Bank attempts to minimize its risk of price changes by committing to sell loans while the loans are in the origination process. The gain on sale of investments for year ended December 31, 2005 was $743,335, compared to $742,608 for year ended December 31, 2004.  In 2005, this gain was primarily attributed to the gain of $1,210,672, arising from the sale of 19,400 shares of FHLMC stock, which was offset by the loss of $526,000 incurred with the sale of all of its shares of Fannie Mae preferred.    Deposit service charges decreased $234,396 (12%) due to decreases in insufficient funds and overdraft charges on the Bank’s checking accounts. In addition, late charges and other fees decreased $89,239 (25%) primarily due to a decrease in prepayment penalties collected during the year ended December 31, 2005.

11

Guaranty Federal Bancshares, Inc.
Management’s Discussion and Analysis of Financial Condition
And Results of Operations
 
Non-Interest Expense. Non-interest expense increased $421,630 (5%). This increase was primarily due to increases in salaries and employee benefits of $313,328 (7%) and occupancy expense of $78,298 (6%). The increase in compensation was due to normal salary and benefits increases for the Bank’s employees, along with an increase in the number of employees. The staff increased from 115 full-time equivalent employees as of December 31, 2004 to 125 full-time equivalent employees as of December 31, 2005. In August 2005, the Company opened a new full-service branch in Nixa, Missouri. In addition, the full-service branch located on West Kearney was in operation for the entire year of 2005.

Income Taxes. The increase in income tax expense is a direct result of the increase in the Company’s taxable income for the period ended December 31, 2005 as compared to the period ended December 31, 2004.

Cash Dividends Paid. The Company paid dividends of $0.16 per share on April 14, 2005, to stockholders’ of record as of March 30, 2005, and $0.16 per share on July 15, 2005 to stockholders’ of record as of July 1, 2005, and $0.165 per share on October 14, 2005, to stockholders’ of record as of October 1, 2005. The Company declared a cash dividend of $0.165 per share on December 22, 2005, which was paid on January 20, 2006, to stockholders of record on January 6, 2006.

RESULTS OF OPERATIONS - COMPARISON OF YEAR ENDED DECEMBER 31, 2004 AND FISCAL YEAR ENDED JUNE 30, 2003

 
Prime
 
Ten-Year Treasury
 
One-Year Treasury
 
December 31, 2004
  
4.34
%
  
4.27
%
  
1.88
%
June 30, 2003
  
4.43
%
  
3.96
%
  
1.46
%
Change in rates
  
-0.09
%
  
0.31
%
  
0.42
%

Interest Rates. The Bank charges borrowers and pays depositors interest rates that are largely a function of the general level of interest rates. The above table sets forth the weekly average interest rates for the 52 weeks ending December 31, 2004 and June 30, 2003 as reported by the Federal Reserve. The Bank typically indexes its adjustable rate commercial loans to prime and its adjustable rate mortgage loans to the one-year treasury rate. The ten-year treasury rate is a proxy for 30-year fixed rate home mortgage loans.

During 2003, interest rates were relatively stable achieving cycle low in June 2003 when the Federal Reserve Open Market Committee (“FOMC”) reduced the discount rate 25 basis points. After that rate cut, longer-term interest rates began to increase and the mortgage loan refinancing activity began to slow. Rates trended upward during 2004 as the FOMC increased the discount rates 25 basis points after five consecutive meetings from June to December 2004. As of year-end 2004, the prime rate was 5.25% up from 4.00% where it was quoted from June 2003 to June 2004.

Interest Income. Total interest income decreased $1,242,447 (11%) as the average balance of interest-earning assets increased $34,872,000 (10%). The yield on average interest earning assets, however, decreased 85 basis points to 5.46%, which, despite the increase in interest-earning assets, resulted in the overall decrease in interest income.

Interest on loans decreased $938,539 (9%) as the average loan receivable balance increased $40,255,000 (12%) while the average yield decreased 96 basis points to 5.45%. The decrease in loan yield is the result of the combination of new loans at lower rates, repayments of higher yielding loans, and the roll down of adjustable rate loans. Interest on investment securities decreased $129,810 (31%) as the average balance decreased $1,027,000 (9%) and the average yield decreased 90 basis points to 2.87.


12

 
Guaranty Federal Bancshares, Inc.
Management’s Discussion and Analysis of Financial Condition
And Results of Operations
 
Interest Expense. Total interest expense decreased $2,998,783 (26%) as the average balance of interest-bearing liabilities increased $27,797,000 (9%). In addition, the average cost of interest-bearing liabilities decreased 114 basis points to 2.43%.

Interest expense on deposits decreased $883,281 (15%) as the average balance of interest bearing deposits increased $24,492,000 (7%) while the average interest rate paid to depositors decreased 66 basis points to 2.09%. The average balance of interest bearing core deposit accounts increased $11,604,000 (13%) and the average balance of certificates of deposit increased $12,888,000 (10%).

In order to comply with the FHLB limitation of advances to 35% of assets, the Company decreased its borrowings from the FHLB. The average balance of FHLB advances decreased by $3,149,000 (2%) and the average cost of those advances decreased 205 basis points to 3.17%. As a result, interest expense on advances decreased $2,115,091 (38%). As of December 31, 2004, FHLB advances are 23% of total assets, compared to 29% of total assets as of June 30, 2003.

Net Interest Income. The Company’s net interest income increased $1,756,335 (17%). During the year ended December 31, 2004, the average balance of interest-earning assets exceeded the average balance of interest-bearing liabilities by $43,251,000, resulting in a increase in the average net earning balance of $34,872,000 (10%). The Company’s spread between the average yield on interest-earning assets and the average cost of interest-bearing liabilities increased by 28 basis points from 2.54% to 2.82%.

Provision for Loan Losses. Provisions for loan losses are charged or credited to earnings to bring the total allowance for loan losses to a level considered adequate by the Company to provide for potential loan losses in the Company’s existing loan portfolio. When making its assessment, the Company considers prior loss experience, volume and type of lending, local banking trends and past due loans in the Company’s loan portfolio. In addition, the Company considers general economic conditions and other factors related to collectability of the Company’s loan portfolio.

During year ended December 31, 2004, the Company experienced loan charge-offs in excess of recoveries of $213,312 and, based on a review as discussed above, elected to record a provision for loan loss of $863,830 to increase the allowance for loan losses to $4,536,654 as of December 31, 2004. The provision for loan losses recorded by the Company during year ended June 30, 2003 was $610,000. Management of the Company anticipates the need to continue increasing the loan loss allowance in the future through charges to provision for loan losses based on the anticipated growth in its loan portfolio and the shift in the Company’s emphasis from primarily single-family loans to a mix of single-family and commercial loans.

Non-Interest Income. Non-interest income decreased $72,155 (2%). The gain on sale of loans of $1,544,037 for fiscal year 2003 was the result of mortgage banking activities related to the sale of single-family conforming residential loans in the secondary market. Due to increases in interest rates and a decrease in refinances, gain on sale of loans decreased by $1,059,117 (158%) for the year ended December 31, 2004. The Bank attempts to minimize its risk of price changes by committing to sell loans while the loans are in the origination process. The gain on sale of investments for year ended December 31, 2004 was $742,608. This was a result of the sale of 1,000 shares of FHLMC stock each month in 2004. There were no profits on sale of investments for fiscal year ended June 30, 2003. Deposit service charges increased $99,563 (6%) due to increases in insufficient funds and overdraft changes on the Bank’s checking accounts. In addition, late charges and other fees increased $163,576 (86%) primarily due to an increase in prepayment penalties collected during the year ended December 31, 2004.

Non-Interest Expense. Non-interest expense increased $67,884 (1%). There were slight increases in salaries, employee benefits and advertising. These increases were offset by decreases in occupancy and data processing expense.

Income Taxes. The increase in income tax expense is a direct result of the increase in the Company’s taxable income for the period ended December 31, 2004, as compared to period ended June 30, 2003.


13

Guaranty Federal Bancshares, Inc.
Management’s Discussion and Analysis of Financial Condition
And Results of Operations
Cash Dividends Paid. The Company paid dividends of $0.155 per share on April 14, 2004, to stockholders’ of record as of March 30, 2004, and $0.155 per share on July 15, 2004 to stockholders’ of record as of July 1, 2004, and $0.16 per share on October 15, 2004, to stockholders’ of record as of October 1, 2004. The Company declared a cash dividend of $0.16 per share on December 16, 2004, which was paid on January 21, 2005, to stockholders of record on January 7, 2005.

RESULTS OF OPERATIONS - TRANSITION PERIOD - COMPARISON OF SIX MONTHS ENDED DECEMBER 31, 2003 (AUDITED) AND 2002 (UNAUDITED)

 
Prime
 
Ten-Year Treasury
 
One-Year Treasury
 
December 31, 2003
  
4.12
%
  
4.01
%
  
1.25
%
December 31, 2002
  
4.68
%
  
4.63
%
  
2.01
%
Change in rates
  
-0.56
%
  
-0.62
%
  
-0.76
%

Interest Rates. The above table sets forth the weekly average interest rates for the 26 weeks for the six month periods ending December 31, 2003 and 2002 as reported by the Federal Reserve. As stated previously, the Bank charges borrowers and pays depositors interest rates that are largely a function of the general level of interest rates, and the Bank typically indexes its adjustable rate commercial loans to prime and its adjustable rate mortgage loans to the one-year treasury rate. The ten-year treasury rate is a proxy for 30-year fixed rate home mortgage loans.

Interest rates continued their cyclical decline though out 2002. The FOMC reduced the discount rate 50 basis points in November 2002 and 25 basis points in June 2003. The prime rate began 2002 at 4.75%, cut to 4.25% in November 2002 and cut again to 4.00% in June 2003 where it stayed for the remainder of the year.

Interest Income. Total interest income decreased $1,444,518 (13%) as the average balance of interest-earning assets decreased $2,243,000 (1%). In addition, the yield on average interest earning assets decreased 77 basis points to 5.50%.

Interest on loans decreased $1,260,103 (12%) as the average loan receivable balance increased $10,779,000 (3%) while the average yield decreased 97 basis points to 5.73%. The decrease in loan yield is the result of the combination of new loans at lower rates, repayments of higher yielding loans, and the roll down of adjustable rate loans. Interest on investment securities decreased $95,970 (42%) as the average balance decreased $2,089,000 (17%) and the average yield decreased 112 basis points to 2.73%. As long as interest rates remain at historical low levels, our customers will benefit from loan rates adjusting downward and from refinancing to fixed-rate mortgages to lock-in the lower rates. These adjustments and refinances will negatively impact portfolio loan yields in future quarters.

Interest Expense. Total interest expense decreased $1,594,531 (26%) as the average balance of interest-bearing liabilities decreased $3,575,000 (1%). In addition, the average cost of interest-bearing liabilities decreased 96 basis points to 2.84%.

Interest expense on deposits decreased $752,975 (24%) despite the average balance of interest bearing deposits increasing $2,260,000 (1%) because the average interest rate paid to depositors decreased 74 basis points to 2.21%. The average balance of interest bearing core deposit accounts increased $7,552,000 (9%) and the average balance of certificates of deposit decreased $5,292,000 (4%).

Interest expense on FHLB advances decreased $838,337 (28%). In order to comply with the FHLB limitation of advances to 35% of assets, the Company decreased its borrowings from the FHLB. The average balance of FHLB advances decreased by $5,771,000 (5%) and the average cost of those advances decreased 133 basis points to 4.17%. As of December 31, 2003, FHLB advances are 28% of total assets.

14

 
Guaranty Federal Bancshares, Inc.
Management’s Discussion and Analysis of Financial Condition
And Results of Operations


Net Interest Income. The Company’s net interest income increased $150,013 (3%). During the six months ended December 31, 2003 and December 31, 2002, the average balance of interest-earning assets exceeded the average balance of interest-bearing liabilities by $41,102,000 and $39,770,000, respectively, resulting in an increase in the average net earning balance of $1,332,000 (3%). The Company’s spread between the average yield on interest-earning assets and the average cost of interest-bearing liabilities increased by 19 basis points from 2.47% to 2.66%.

Provision for Loan Losses. Provisions for loan losses are charged or credited to earnings to bring the total allowance for loan losses to a level considered adequate by the Company to provide for potential loan losses in the Company’s existing loan portfolio. When making its assessment, the Company considers prior loss experience, volume and type of lending, local banking trends and past due loans in the Company’s loan portfolio. In addition, the Company considers general economic conditions and other factors related to collectability of the Company’s loan portfolio.

During the six month period ended December 31, 2003, the Company experienced loan charge-offs in excess of recoveries of only $51,183. However, as of December 31, 2003, the Bank classified a group of approximately 150 loans totaling approximately $9 million. These loans were classified because, pursuant to a normal regulatory examination, it was deemed that the loan files relating to these loans did not contain sufficient information to effectively evaluate the credits. With the addition of these loans to classified assets, the Company determined to increase the provision for loan losses by $800,000. Prior to this increase, the Company had recorded a provision for loan loss during the six-month transition period ended December 31, 2003 of $362,000 (resulting in an aggregate provision for loan losses during this period of $1,162,000) based on the growth in its loan portfolio and the shift in the Company’s emphasis from primarily single-family loans to a mix of single-family and commercial loans. The provision for loan loss recorded during the six month period ended December 31, 2002 was $205,000. Management of the Company anticipates the need to continue increasing the loan loss allowance in the future through charges to provision for loan losses based on the factors described in the previous sentence.

Non-Interest Income. Non-interest income increased $337,137 (19%). The gain on sale of loans increased by $88,842 as a result of mortgage banking activities related to the sale of single-family conforming residential loans in the secondary market. The Bank attempts to minimize its risk of price changes by committing to sell loans while the loans are in the origination process. Gain on sale of investments increased by $105,461. This was a result of the sale of 2,000 shares of FHLMC stock during the six months ended December 31, 2003. There were no profits on sale of investments for the same period in 2002. Deposit service charges increased $67,392 (8%) due to the continued growth in the Bank’s checking accounts. The amortization expense on originated mortgage servicing rights increased $90,616. The Bank recaptured $271,406 in loss on impairment of these rights based on the Bank’s fair value assessment of such rights.

Non-Interest Expense. Non-interest expense decreased $66,523 (2%). Data processing expense decreased $161, 541, primarily due to the full amortization prior to or during the six months ended December 31, 2003 of start up expenses in connection with the conversion to an “in-house” computer system that was completed in September of 2000. In addition, occupancy expense decreased by $69,579. This was partially offset by an increase in advertising of $116,023.

Income Taxes. The decrease in income tax expense is a direct result of the decrease in the Company’s taxable income for the six month period ended December 31, 2003, as compared to the six month period ended December 31, 2002.

Cash Dividends Paid. The Company paid cash dividends of $0.15 per share on July 15, 2003, to the stockholders of record on July 1, 2003 (as declared on June 27, 2003), and $0.155 per share on October 17, 2003, to the stockholders of record as of October 3, 2003. The Company declared a cash dividend of $0.155 per share on December 19, 2003, to be paid on January 23, 2004, to stockholders of record on January 9, 2004.

15

Guaranty Federal Bancshares, Inc.
Management’s Discussion and Analysis of Financial Condition
And Results of Operations

ASSET / LIABILITY MANAGEMENT

The goal of the Bank’s asset/liability policy is to manage interest rate risk so as to maximize net interest income over time in changing interest rate environments. Management monitors the Bank’s net interest spreads (the difference between yields received on assets and paid on liabilities) and, although constrained by market conditions, economic conditions, and prudent underwriting standards, it offers deposit rates and loan rates that maximize net interest income. Management also attempts to fund the Bank’s assets with liabilities of a comparable duration to minimize the impact of changing interest rates on the Bank’s net interest income. This matching is especially difficult because the residential mortgage loans that comprise a significant portion of the Bank’s assets give the borrower the right to prepay at any time. These borrowers act in their economic self-interest and refinance higher rate loans when rates are low. Since the relative spread between financial assets and liabilities is constantly changing, the Bank’s current net interest income may not be an indication of future net interest income.

As a part of its asset and liability management strategy, the Bank implemented an adjustable rate mortgage loan (“ARM”) program beginning in the early 1980s. Throughout the past several years, the Bank has continued to emphasize the origination of adjustable-rate, one- to four-family residential loans and adjustable-rate or relatively short-term commercial real estate, construction, commercial business, home equity and consumer loans, while originating fixed-rate, one- to four-family residential loans primarily for immediate resale in the secondary market.
The Bank is also managing interest rate risk by the origination of construction loans. As of December 31, 2005, such loans, net of loans in process, constitute 16% of the Bank’s loan portfolio. In general, these loans have higher yields, shorter maturities, and greater interest rate sensitivity than other real estate loans.

The Bank constantly monitors its deposits in an effort to decrease their interest rate sensitivity. Rates of interest paid on deposits at the Bank are priced competitively in order to meet the Bank’s asset/liability management objectives and spread requirements. As of December 31, 2005 and December 31, 2004, the Bank’s savings accounts, checking accounts, and money market deposit accounts totaled $130,252,633 or 41% of its total deposits and $127,351,296 or 43% of total deposits, respectively. The weighted average rate paid on these accounts increased 11 basis points from 1.01% on December 31, 2004 to 1.12% on December 31, 2005. The Bank believes, based on historical experience, that a substantial portion of such accounts represents non-interest rate sensitive, core deposits. During the year ending December 31, 2006, the FHLB has the option to call $11.0 million of advances with a weighted average rate of 5.43% and a remaining life of 2.7 years.

16

Guaranty Federal Bancshares, Inc.
Management’s Discussion and Analysis of Financial Condition
And Results of Operations

 
INTEREST RATE SENSITIVITY ANALYSIS

The following table sets forth as of December 31, 2005, management’s estimates of the projected changes in net portfolio value (“NPV”) in the event of 100, 200, and 300 basis point (“bp”) instantaneous and permanent increases and decreases in market interest rates. Dollar amounts are expressed in thousands.

 
BP Change
  
Estimated Net Portfolio Value
   
NPV as % of PV of Assets
 
in Rates
$
Amount
  
$
Change
    
% Change
   
NPV Ratio
   
Change
 
+300
  
52,322
   
(3,595
)
  
-6
%
  
12.55
%
  
-0.61
%
+200
  
54,356
   
(1,561
)
  
-3
%
  
12.96
%
  
-0.20
%
+100
  
55,803
   
(114
)
  
0
%
  
13.22
%
  
0.06
%
NC
  
55,917
               
13.16
%
    
-100
  
55,218
   
(699
)
  
-1
%
  
12.90
%
  
-0.26
%
-200
  
53,941
   
(1,976
)
  
-4
%
  
12.50
%
  
-0.66
%
-300
  
52,252
   
(3,665
)
  
-7
%
  
12.00
%
  
-1.16
%
 
    Computations of prospective effects of hypothetical interest rate changes are based on an internally generated model using actual maturity and repricing schedules for the Bank’s loans and deposits, and are based on numerous assumptions, including relative levels of market interest rates, loan repayments and deposit run-offs, and should not be relied upon as indicative of actual results. Further, the computations do not contemplate any actions the Bank may undertake in response to changes in interest rates.

Management cannot predict future interest rates or their effect on the Bank’s NPV in the future. Certain shortcomings are inherent in the method of analysis presented in the computation of NPV. For example, although certain assets and liabilities may have similar maturities or periods to repricing, they may react in differing degrees to changes in market interest rates. Additionally, certain assets, such as adjustable-rate loans, which represent the Bank’s primary loan product, have an initial fixed rate period typically from one to five years and over the remaining life of the asset changes in the interest rate are restricted. In addition, the proportion of adjustable-rate loans in the Bank’s loan portfolio could decrease in future periods due to refinancing activity if market interest rates remain constant or decrease in the future. Further, in the event of a change in interest rates, prepayment and early withdrawal levels could deviate significantly from those assumed in the table. Finally, the ability of many borrowers to service their adjustable-rate debt may decrease in the event of an interest rate increase.

The Bank’s Board of Directors is responsible for reviewing the Bank’s asset and liability policies. The Bank’s management is responsible for administering the policies and determinations of the Board of Directors with respect to the Bank’s asset and liability goals and strategies. Management expects that the Bank’s asset and liability policies and strategies will continue as described above so long as competitive and regulatory conditions in the financial institution industry and market interest rates continue as they have in recent years.

LIQUIDITY AND CAPITAL RESOURCES

The Company’s principal sources of funds for investments and operations are net income from operations, deposits from its primary market area, FHLB advances, principal and interest payments on loans and mortgage-backed securities, proceeds from maturing investment securities, and the issuance of subordinated debentures. The Company considers deposits and FHLB advances as its primary sources of funds.

The Company’s most liquid assets are cash and cash equivalents, which are cash on hand, amounts due from financial institutions, and certificates of deposit with other financial institutions that have an original maturity of three months or less. The levels of such assets are dependent on the Bank’s operating, financing, and investment activities at any given time. The Company’s cash and cash equivalents totaled $20,506,478 as of December 31, 2005 and $15,896,458 as of December 31, 2004, representing an increase of

17

Guaranty Federal Bancshares, Inc.
Management’s Discussion and Analysis of Financial Condition
And Results of Operations
 
$4,610,020. The variations in levels of cash and cash equivalents are influenced by deposit flows and anticipated future deposit flows, which are subject to, and influenced by, many factors.
 
In addition to the capital necessary to meet the Company’s conditional commitments discussed under the caption “Off-Balance Sheet Arrangements” below, the Bank also has $133,708,307 in certificates of deposit that are scheduled to mature in one year or less. Management anticipates that the majority of these certificates will renew in the normal course of operations. Based on existing collateral as well as the FHLB’s limitation of advances to 35% of assets, the Bank has the ability to borrow an additional $34,772,000 from the FHLB, as of December 31, 2005. The Bank plans to maintain its FHLB borrowings to a level that will provide a borrowing capacity sufficient to provide for contingencies.

The Company’s regulatory capital position of $51,040,000 is 10.6% of total assets as of December 31, 2005. The Company has an excess of $31,957,000, $34,744,000, and $28,809,000 of required regulatory levels of tangible, core, and risk-based capital, respectively. Under current regulatory guidelines, the Bank is classified as well capitalized. See also additional information provided under the caption “Regulatory Matters” in Note 1 of the Notes to Consolidated Financial Statements.

During the year ended December 31, 2005, the Company declared dividends of $0.65 per share and paid dividends of $0.645 per share, compared to dividends declared of $0.63 per share and paid of $0.625 per share during the year ended December 31, 2004. The Board of Directors of the Company meets regularly to consider the level and the timing of dividend payments. Dividends declared but unpaid at December 31, 2005 ($0.165 per share), were paid to shareholders on January 20, 2006.

During the year ended December 31, 2004, the Company purchased 51,333 shares of common stock in open market transactions and 4,776 from the Company’s Recognition and Retention Plan at an average price of $20.73 to place in the treasury account. During the year ended December 31, 2005, the Company purchased 146,542 shares of common stock in open market transactions at an average price of $24.31 to place in the treasury account. The Company intends to monitor the common stock price and, with regulatory approval, may from time to time initiate further stock repurchases in order to improve the Company’s long-term earnings per share while at the same time maintaining an adequate level of stockholders’ equity. The Company has a repurchase plan which was announced on November 22, 2002, and as of December 31, 2005, a total of 38,543 shares of the Company’s common stock may be purchased under this plan.

On December 15, 2005, the Company issued $15 million of trust preferred securities (”Trust Securities”) in a private placement. The proceeds of the sale of Trust Securities issued by Guaranty Statutory Trust I and Guaranty Statutory Trust II, together with the proceeds of the Trust’s sale of their common securities issued to the Company, were used by the Trusts to purchase 30-year junior subordinated deferrable interest debentures from the Company in the principal amount of $5,155,000 (“Trust I Debentures”) and $10,310,000 (“Trust II Debentures”), respectively. The Trust I Debentures bear interest at a fixed rate of 6.92%, payable quarterly. The Trust II Debentures bear interest at a fixed rate of 6.47% for 5 years, payable quarterly, after issuance and thereafter at a floating rate equal to the three month LIBOR plus 1.45%. The Company intends to use the proceeds of the sale of the Trust Securities for general corporate purposes which may include investment in the Bank (including funding of the Bank’s loan portfolio growth), acquisitions, investments, payment of dividends and repurchases of its outstanding Common Stock.

 
OFF-BALANCE SHEET ARRANGEMENTS
 
Various commitments and contingent liabilities arise in the normal course of business, which are not required to be recorded on the balance sheet. The most significant of these are loan commitments, lines of credit and standby letters of credit. 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. As of December 31, 2005 and 2004, the Bank had outstanding commitments to originate loans of approximately $2,285,000 and $15,712,000, respectively. Lines of credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. As of December 31, 2005 and 2004, unused lines of credit to borrowers aggregated approximately $77,725,000 and $64,051,000 for commercial lines and $18,180,000 and $16,578,000 for open-end consumer lines. Since a portion of the loan commitment and line of credit may expire without being drawn upon, the total unused commitments and lines do not necessarily represent future cash requirements.

18

Guaranty Federal Bancshares, Inc.
Management’s Discussion and Analysis of Financial Condition
And Results of Operations

 
 
Standby letters of credit are irrevocable conditional commitments issued by the Bank to guarantee the performance of a customer to a third party. The credit risk involved in issuing standby letters of credit is essentially the same at that involved in extending loans to customers. The Bank had total outstanding standby letters of credit amounting to $9,731,000 and $1,314,000 as of December 31, 2005 and 2004, respectively. Forward commitments to sell mortgage loans are obligations to deliver loans at a specified price on or before a specified date. As of December 31, 2005 and 2004, the Bank had approximately $0 and $2,695,000, respectively, of forward commitments outstanding.

In connection with the Company’s issuance of the Trust Securities and pursuant to two guarantee agreements by and between the Company and Wilmington Trust Company, the Company issued a limited, irrevocable guarantee of the obligations of each Trust under the Trust Securities whereby the Company has guaranteed any and all payment obligations of the Trusts related to the Trust Securities including distributions on, and the liquidation or redemption price of, the Trust Securities to the extent each Trust does not have funds available.

AGGREGATE CONTRACTUAL OBLIGATIONS

The following table summarizes the Company’s fixed and determinable contractual obligations by payment date as of December 31, 2005. Dollar amounts are expressed in thousands.

 
Payments Due By Period 
                     
       
One Year
  
One to
 
Three to
  
More than
Contractual Obligations
   
Total
 
or less
   
Three Years
   
Five Years
   
Five Years
 
                               
Deposits without stated maturity
  
$
130,253
  
130,253
   
-
   
-
   
-
 
Time and brokered certificates of deposit
    
189,806
 
133,708
   
49,834
   
5,786
   
478
 
Short-term borrowings
    
1,594
 
1,594
   
-
   
-
   
-
 
Federal Home Loan Bank advances
    
100,000
 
72,414
   
19,650
   
3,386
   
4,550
 
Subordinated debentures
    
15,465
 
-
   
-
   
-
   
15,465
 
Operating leases
    
553
 
96
   
207
   
167
   
83
 
Purchase obligations
    
-
 
-
   
-
   
-
   
-
 
Other long term obligations
    
62
 
12
   
25
   
25
   
-
 
Total
  
$
437,733
  
338,077
   
69,716
   
9,364
   
20,576
 
IMPACT OF INFLATION AND CHANGING PRICES

The Company prepared the consolidated financial statements and related data presented herein in accordance with accounting principles generally accepted in the United States of America which 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.

Unlike most companies, the assets and liabilities of a financial institution are primarily monetary in nature. As a result, interest rates have a more significant impact on a financial institution’s performance than the effects of general levels of inflation. Interest rates do not necessarily move in the same direction or in the same magnitude as the price of goods and services, since such prices are affected by inflation. In the current interest rate environment, liquidity and the maturity structure of the Bank’s assets and liabilities are critical to the maintenance of acceptable performance levels.



19

Guaranty Federal Bancshares, Inc.
Management’s Discussion and Analysis of Financial Condition
And Results of Operations
CRITICAL ACCOUNTING POLICIES
“Management’s Discussion and Analysis of Financial Condition and Results of Operations” is based upon the Company’s consolidated financial statements and the notes thereto, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires management to make estimates and judgments that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reported periods. On an on-going basis, management evaluates its estimates and judgments.

Management bases its estimates and judgments on historical experience and on various other factors that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. There can be no assurance that actual results will not differ from those estimates. If actual results are different than management’s judgements and estimates, the Company’s financial results could change, and such change could be material to the Company.

Material estimates and judgments that are particularly susceptible to significant change relate to the determination of the allowance for loan losses. In connection with the determination of the allowance for loan losses, management obtains independent appraisals for significant properties.
 
The Company has identified the accounting policies for the allowance for loan losses and related significant estimates and judgments as critical to its business operations and the understanding of its results of operations. For a detailed discussion on the application of these significant estimates and judgments and our accounting policies, also see Note 1 of the notes to consolidated financial statements in this report.

IMPACT OF NEW ACCOUNTING PRONOUNCEMENTS
 
The Emerging Issues Task Force (EITF) of the Financial Accounting Standards Board (FASB) previously issued EITF Issue 03-1, The Meaning of Other-Than-Temporary Impairment and its Application to Certain Investments. EITF Issue 03-1 provides guidance on the meaning of the phrase “other-than-temporary impairment” and its application to several types of investments, including debt securities classified as held-to-maturity and available-for-sale under FASB Statement No. 115, Accounting for Certain Investments in Debt and Equity Securities. EITF Issue 03-1 provides guidance on whether impairment losses should be recognized on available-for-sale securities prior to sale of the securities. It provides guidance for evaluating whether and when unrealized losses should be deemed “other-than-temporary”, requiring immediate recognition of those losses through earnings. In addition, EITF Issue 03-1 requires financial statement disclosure for impaired securities on which an impairment loss has not been recognized, including the amount of unrealized loss and the term of that impairment. The portions of EITF Issue 03-1 dealing with determining when losses are other-than-temporary have been delayed in order for the FASB staff to provide implementation guidance and reconsider issues that were raised by interested parties during the public comment period.

FASB issued Staff Position (FSP) FAS 115-1 and FAS 124-1, The Meaning of Other-Than-Temporary Impairment and its Application to Certain Investments, in November 2005. This FSP provides guidance on determining when investments in certain debt and equity securities are considered impaired, whether the impairment is “other-than-temporary” and the measurement of the impairment loss. This FSP also includes accounting for investments subsequent to the recognition of an impairment loss and requires certain disclosures about unrealized losses that have not been recognized. The FSP is effective for reporting periods beginning after December 15, 2005, with earlier application permitted. The Company does not believe that adoption of the FSP will have a material impact on the financial condition or operating results of the Company.



20

Guaranty Federal Bancshares, Inc.
Management’s Discussion and Analysis of Financial Condition
And Results of Operations
 
In December 2004, the FASB issued a revision to FASB Statement No. 123, Accounting for Stock Based Compensation (SFAS 123). FASB Statement No. 123R, Share Based Payment (SFAS 123R), supersedes Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees (APB 25), and its related implementation guidance. SFAS 123R established standards for the accounting for transactions in which an entity exchanges its equity instruments for goods or services that are based on the fair value of the entity’s equity instruments or that may be settled by the issuance of the equity instruments. The impact to the Company of SFAS 123R focuses primarily on accounting for transactions in which a company obtains employee services in share-based payment transactions. The Company currently accounts for its stock-based compensation using the intrinsic method as defined in APB 25 and, accordingly, has not recognized any expense for stock option plans in the Consolidated Financial Statements (See Note 1 and Note 12 of the Notes to Consolidated Financial Statements for additional information regarding the Company’s accounting for stock-based compensation). The SEC delayed the original required implementation date of SFAS 123R for public companies. Implementation of SFAS 123R is now required for the Company beginning in the interim period ending March 31, 2006. The Company does not believe the impact of applying the new statement will be material to the financial statements. Note 1 of the Notes to Consolidated Financial Statements discloses the effect on net income and earnings per share if the Company had applied the fair value provisions of SFAS 123.


The FASB issued an exposure draft in January 2006, The Fair Value Option for Financial Assets and Financial Liabilities - Including an amendment of FASB Statement No. 115. The purpose of the exposure draft is to reduce the complexity of accounting for financial assets and liabilities and to reduce the volatility in earnings caused by the existing accounting rules. Under the provisions in the exposure draft, companies would have the option to report certain financial assets and liabilities at fair value with the
changes in fair value included in earnings. Entities would be able to measure at fair value financial assets and liabilities selected on a contract-by-contract basis. Any contracts measured under these provisions would be shown separately than those measured under different attributes on the face of the balance sheet. The exposure draft also would require more disclosure information to help users of the financial statements more easily understand the effect on earnings. The Company is evaluating the exposure draft to determine the impact, if adopted, on its financial statements.


21

Guaranty Federal Bancshares, Inc.
Management’s Discussion and Analysis of Financial Condition
And Results of Operations
 
SUMMARY OF UNAUDITED QUARTERLY OPERATING RESULTS



 
Year Ended December 31, 2005, Quarter ended
 
Mar-05 
  
Jun-05
 
Sep-05
 
Dec-05
 
Interest income
$
5,900,919
  
6,560,914
 
7,091,488
 
7,730,086
 
Interest expense
 
2,457,208
 
2,783,379
 
3,129,687
 
3,490,130
 
Net interest income
 
3,443,711
 
3,777,535
 
3,961,801
 
4,239,956
 
Provision for loan losses
 
225,000
 
240,000
 
240,000
 
240,000
 
Gain on sale of loans and investment securities
 
337,736
 
304,288
 
390,684
 
333,879
 
Other noninterest income, net
 
546,174
 
536,916
 
567,108
 
580,274
 
Noninterest expense
 
2,180,393
 
2,065,697
 
2,157,256
 
2,266,155
 
Income before income taxes
 
1,922,228
 
2,313,042
 
2,522,337
 
2,647,954
 
Provision for income taxes
 
707,454
 
864,327
 
935,076
 
999,734
 
Net income
$
1,214,774
  
1,448,715
 
1,587,261
 
1,648,220
 
Basic earnings per share
$
0.43
  
0.53
 
0.57
 
0.59
 
Diluted earnings per share
$
0.41
  
0.50
 
0.55
 
0.57
 
 
  
Year Ended December 31, 2004, Quarter ended  
  
 
Mar-04 
  
Jun-04
 
Sep-04
  
Dec-04
  
Interest income
$
4,841,117
  
4,872,149
 
5,192,334
 
5,633,673
 
Interest expense
 
2,050,298
 
1,934,800
 
2,123,222
 
2,337,309
 
Net interest income
 
2,790,819
 
2,937,349
 
3,069,111
 
3,296,363
 
Provision for loan losses
 
188,830
 
225,000
 
225,000
 
225,000
 
Gain on sale of loans and investment securities
 
299,569
 
247,956
 
309,109
 
370,894
 
Other noninterest income, net
 
550,694
 
628,678
 
648,125
 
561,150
 
Noninterest expense
 
2,042,996
 
2,079,394
 
2,043,422
 
2,082,059
 
Income before income taxes
 
1,409,256
 
1,509,589
 
1,757,923
 
1,921,348
 
Provision for income taxes
 
439,880
 
494,797
 
601,549
 
777,117
 
Net income
$
969,376
  
1,014,792
 
1,156,374
 
1,144,231
 
Basic earnings per share
$
0.35
  
0.36
 
0.41
 
0.41
 
Diluted earnings per share
$
0.33
  
0.35
 
0.40
 
0.39
 


22

Guaranty Federal Bancshares, Inc.
Consolidated Balance Sheets
December 31, 2005, 2004 and 2003

 
 
December 31,
 
December 31,
December 31,
 
 
2005
  
2004
2003
  
             
Cash
$
17,990,774
  
14,087,915
 
20,686,276
 
Interest-bearing deposits in other financial institutions
 
2,515,704
 
1,808,543
 
1,970,518
 
Cash and cash equivalents
 
20,506,478
 
15,896,458
 
22,656,794
 
Available-for-sale securities
 
6,757,147
 
15,101,768
 
14,863,826
 
Held-to-maturity securities
 
944,724
 
1,305,158
 
1,867,594
 
Stock in Federal Home Loan Bank, at cost
 
4,978,800
 
5,146,500
 
5,294,200
 
Mortgage loans held for sale
 
2,092,279
 
3,590,536
 
1,268,064
 
Loans receivable, net of allowance for loan losses of
         
December 31, 2005, 2004 and 2003, $5,399,654, $4,536,654
             
and $3,886,137, respectively
 
433,435,429
 
388,742,792
 
330,861,875
 
Accrued interest receivable:
           
Loans
 
2,040,872
 
1,500,170
 
1,242,683
 
Investments
 
48,255
 
69,845
 
63,045
 
Prepaid expenses and other assets
 
2,604,425
 
1,976,284
 
2,057,195
 
Foreclosed assets held for sale
 
26,775
 
78,150
 
5,975
 
Premises and equipment
 
7,452,798
 
7,188,867
 
6,576,003
 
Deferred income taxes
 
112,686
 
-
 
-
 
 
$
481,000,668
  
440,596,528
 
386,757,254
 
               
LIABILITIES AND STOCKHOLDERS' EQUITY
              
               
LIABILITIES
             
Deposits
$
320,058,951
  
296,387,742
 
237,130,744
 
Federal Home Loan Bank advances
 
100,000,000
 
100,000,000
 
108,836,948
 
Securities sold under agreements to repurchase
 
1,594,258
 
1,264,020
 
738,399
 
Subordinated debentures
 
15,465,000
 
-
 
-
 
Advances from borrowers for taxes and insurance
 
212,320
 
271,796
 
259,267
 
Accrued expenses and other liabilities
 
288,587
 
234,818
 
308,497
 
Accrued interest payable
 
508,164
 
361,516
 
200,770
 
Dividend payable
 
459,074
 
450,868
 
432,513
 
Income taxes payable
 
322,165
 
220,046
 
227,495
 
Deferred income taxes
 
-
 
632,459
 
644,500
 
   
438,908,519
 
399,823,265
 
348,779,133
 
STOCKHOLDERS' EQUITY
             
Common Stock:
             
$0.10 par value; authorized 10,000,000 shares; issued;
             
December 31, 2005, 2004 and 2003 - 6,571,348, 6,493,861
             
and 6,462,902 shares, respectively
 
657,135
 
649,386
 
642,890
 
Additional paid-in capital
 
53,778,686
 
52,384,842
 
51,330,202
 
Unearned ESOP shares
 
(1,572,930
)
(1,800,930
)
(2,030,930
)
Retained earnings, substantially restricted
 
36,533,338
 
32,437,131
 
29,919,695
 
Accumulated other comprehensive income
             
Unrealized appreciation on available-for-sale securities,
             
net of income taxes; December 31, 2005, 2004 and 2003 - $1,158,114,
             
$1,653,740 and $1,565,830, respectively
 
1,971,925
 
2,815,828
 
2,666,143
 
   
91,368,154
 
86,486,257
 
82,528,000
 
Treasury stock, at cost;
             
December 31, 2005, 2004 and 2003 - 3,639,301, 3,492,759
             
and 3,436,650 shares, respectively
 
(49,276,005
)
(45,712,994
)
(44,549,879
)
   
42,092,149
 
40,773,263
 
37,978,121
 
 
$
481,000,668
  
440,596,528
 
386,757,254
 

See Notes to Consolidated Financial Statements
23

Guaranty Federal Bancshares, Inc.
Consolidated Statements of Income
Years Ended December 31, 2005 and 2004 and June 30, 2003 and
Six Months Ended December 31, 2003 and 2002

 
 
Years ended
Six months ended
Year ended
 
December 31,
December 31,
June 30,
 
2005
  
2004
2003
2002
2003
         
(Unaudited)
  
INTEREST INCOME
                     
Loans
$
26,552,595
  
19,989,852
 
9,566,716
 
10,826,819
 
20,928,391
 
Investment securities
 
431,863
 
289,335
 
135,100
 
231,070
 
419,145
 
Other
 
298,949
 
260,085
 
143,862
 
232,307
 
434,184
 
   
27,283,407
 
20,539,272
 
9,845,678
 
11,290,196
 
21,781,720
 
INTEREST EXPENSE
               
Deposits
 
7,288,073
 
4,919,164
 
2,368,200
 
3,121,175
 
5,802,445
 
Federal Home Loan Bank advances
 
4,493,997
 
3,519,393
 
2,120,876
 
2,959,213
 
5,634,484
 
Subordinated debentures
 
47,683
 
-
 
-
 
-
 
-
 
Other
 
30,651
 
7,073
 
1,969
 
5,188
 
7,484
 
   
11,860,404
 
8,445,630
 
4,491,045
 
6,085,576
 
11,444,413
 
NET INTEREST INCOME
 
15,423,003
 
12,093,642
 
5,354,633
 
5,204,620
 
10,337,307
 
PROVISION FOR LOAN LOSSES
 
945,000
 
863,830
 
1,162,000
 
205,000
 
610,000
 
NET INTEREST INCOME AFTER
                     
PROVISION FOR LOAN LOSSES
 
14,478,003
 
11,229,812
 
4,192,633
 
4,999,620
 
9,727,307
 
NONINTEREST INCOME
                 
Service charges
 
1,643,433
 
1,877,829
 
951,524
 
884,132
 
1,778,267
 
Late charges and other fees
 
264,360
 
353,689
 
187,407
 
65,238
 
190,113
 
Gain on sale of investment securities
 
743,335
 
742,608
 
105,461
 
-
 
-
 
Gain on sale of loans
 
623,252
 
484,920
 
758,062
 
669,220
 
1,544,037
 
Income (loss) on foreclosed assets
 
(1,617
)
(3,157
)
5,726
 
19,865
 
10,830
 
Other income
 
324,296
 
160,285
 
80,691
 
113,279
 
165,082
 
   
3,597,059
 
3,616,174
 
2,088,871
 
1,751,734
 
3,688,329
 
NONINTEREST EXPENSE
                   
Salaries and employee benefits
 
4,884,869
 
4,571,541
 
2,246,993
 
2,238,783
 
4,557,376
 
Occupancy
 
1,365,559
 
1,287,261
 
604,268
 
673,847
 
1,322,790
 
FDIC deposit insurance premiums
 
39,796
 
36,038
 
17,928
 
19,416
 
37,950
 
Data processing
 
440,411
 
399,891
 
133,435
 
294,976
 
487,786
 
Advertising
 
230,254
 
287,594
 
220,233
 
104,210
 
217,066
 
Other expense
 
1,708,612
 
1,665,544
 
770,486
 
729,092
 
1,557,019
 
   
8,669,501
 
8,247,871
 
3,993,343
 
4,060,324
 
8,179,987
 
INCOME BEFORE INCOME TAXES
 
9,405,561
 
6,598,115
 
2,288,161
 
2,691,030
 
5,235,649
 
PROVISION FOR INCOME TAXES
 
3,506,591
 
2,313,342
 
788,000
 
927,000
 
1,656,000
 
NET INCOME
$
5,898,970
  
4,284,773
 
1,500,161
 
1,764,030
 
3,579,649
 
                       
BASIC EARNINGS PER SHARE
$
2.12
  
1.53
 
0.54
 
0.63
 
1.28
 
DILUTED EARNINGS PER SHARE
$
2.03
  
1.47
 
0.52
 
0.62
 
1.26
 


See Notes to Consolidated Financial Statements
24
Guaranty Federal Bancshares, Inc.
Consolidated Statements of Cash Flows
Years Ended December 31, 2005 and 2004 and June 30, 2003
Six Months Ended December 31, 2003 and 2002




 
Year ended
Six months ended
Year ended
 
December 31,
December 31,
June 30,
 
2005
  
2004
2003
2002
2003
         
(Unaudited)
  
CASH FLOWS FROM OPERATING ACTIVITIES
           
Net income
$
5,898,970
  
4,284,773
 
1,500,161
 
1,764,030
 
3,579,649
 
Items not requiring (providing) cash:
                     
Deferred income taxes
 
(249,519
)
(99,952
)
(267,750
)
168,917
 
(154,815
)
Depreciation
 
759,931
 
670,096
 
339,101
 
404,498
 
783,933
 
Provision for loan losses
 
945,000
 
863,830
 
1,162,000
 
205,000
 
610,000
 
Gain on sale of loans and investment securities
 
(1,366,587
)
(1,227,528
)
(863,524
)
(669,220
)
(1,544,037
)
Loss on sale of premises and equipment
 
3,055
 
11,517
 
-
 
-
 
37,761
 
Gain on sale of foreclosed assets
 
(1,323
)
(1,724
)
(13,226
)
(26,218
)
(12,310
)
Amortization of deferred income,
               
premiums and discounts
 
(48,305
)
78,148
 
(18,862
)
(80,575
)
(99,192
)
Stock award plan expense
 
45,694
 
63,200
 
30,952
 
177,810
 
353,004
 
Origination of loans held for sale
 
(45,528,012
)
(30,561,273
)
(31,454,990
)
(34,910,348
)
(77,775,788
)
Proceeds from sale of loans held for sale
 
47,649,521
 
28,723,721
 
40,700,091
 
33,444,629
 
72,695,861
 
Release of ESOP shares
 
564,980
 
461,512
 
225,154
 
180,244
 
373,724
 
Changes in:
                   
Accrued interest receivable
 
(519,112
)
(264,287
)
124,397
 
219,733
 
224,386
 
Prepaid expenses and other assets
 
(628,141
)
80,912
 
(201,927
)
(181,342
)
(55,508
)
Accrued expenses and other liabilities
 
200,417
 
105,421
 
(5,666
)
(67,971
)
(348,159
)
Income taxes payable
 
89,638
 
7,484
 
34,578
 
205,676
 
69,278
 
Net cash provided by (used in) operating activities
 
7,816,207
 
3,195,850
 
11,290,489
 
834,863
 
(1,262,213
)
                 
CASH FLOWS FROM INVESTING ACTIVITIES
                     
Net increase in loans
 
(45,967,115
)
(59,380,244
)
(5,060,371
)
(3,172,569
)
(11,171,690
)
Principal payments on held-to-maturity securities
 
358,395
 
574,920
 
379,245
 
406,222
 
995,693
 
Principal payments on available-for-sale securities
 
-
 
-
 
-
 
172,835
 
172,835
 
Purchase of available-for-sale securities
 
(10,516,958
)
(5,971,840
)
(1,989,685
)
(2,978,928
)
(4,968,371
)
Purchase of premises and equipment
 
(1,032,777
)
(1,300,977
)
(206,108
)
(138,129
)
(174,592
)
Proceeds from sale of premises and equipment
 
5,860
 
6,500
 
-
 
-
 
-
 
Proceeds from sales of available-for-sale securities
 
9,345,564
 
754,355
 
107,419
 
-
 
-
 
Proceeds from maturities of available-for-sale securities
 
9,000,000
 
6,000,000
 
1,500,000
 
4,000,000
 
6,500,000
 
Proceeds from sale of FHLB stock
 
167,700
 
147,700
 
3,306,200
 
-
 
-
 
Proceeds from sale of foreclosed assets
 
352,341
 
434,161
 
315,291
 
863,367
 
801,677
 
Purchase of other investments
 
-
 
-
 
-
 
-
 
(106,000
)
Net cash used in investing activities
 
(38,286,990
)
(58,735,425
)
(1,648,009
)
(847,202
)
(7,950,448
)



See Notes to Consolidated Financial Statements
25
Guaranty Federal Bancshares, Inc.
Consolidated Statements of Cash Flows (continued)
Years Ended December 31, 2005 and 2004, and June 30, 2003 and
Six Months Ended December 31, 2003 and 2002




 
December 31,
December 31,
  
June 30,
 
 
2005
  
2004
2003
  
2002
  
2003
  
           
(Unaudited)
      
CASH FLOWS FROM FINANCING ACTIVITIES
     
 
          
Stock options exercised
 
1,031,400
 
751,274
 
107,638
   
113,554
   
556,869
 
Cash dividends paid
 
(1,794,557
)
(1,767,337
)
(844,151
)
  
(764,854
)
  
(1,604,042
)
Cash dividends received on RRP Stock
 
-
 
217
 
292
   
1,322
   
2,387
 
Net increase in demand deposits,
                   
NOW accounts and savings accounts
 
2,901,337
 
10,307,199
 
4,617,104
   
8,403,811
   
18,725,158
 
Net increase (decrease) in certificates of deposit and
                         
securities sold under agreements to repurchase
 
21,100,110
 
49,475,420
 
(3,127,182
)
  
(3,819,504
)
  
(8,723,005
)
Proceeds from FHLB advances
 
1,322,664,000
 
201,614,000
 
124,500,000
   
12,000,000
   
121,500,000
 
Repayments of FHLB advances
 
(1,322,664,000
)
(210,450,948
)
(130,281,946
)
  
(18,714,871
)
  
(117,964,269
)
Proceeds from issuance of subordinated debentures
 
15,465,000
 
-
 
-
   
-
   
-
 
Advances from borrowers for taxes and insurance
 
(59,476
)
12,529
 
(691,411
)
  
(724,015
)
  
(97,619
)
Treasury stock purchased
 
(3,563,011
)
(1,163,115
)
(280,558
)
  
(235,770
)
  
(1,131,792
)
Net cash provided by (used in) financing activities
 
35,080,803
 
48,779,239
 
(6,000,214
)
  
(3,740,327
)
  
11,263,687
 
                       
INCREASE (DECREASE) IN CASH
                         
AND CASH EQUIVALENTS
 
4,610,020
 
(6,760,336
)
3,642,266
   
(3,752,666
)
  
2,051,026
 
                     
CASH AND CASH EQUIVALENTS,
                       
BEGINNING OF PERIOD
 
15,896,458
 
22,656,794
 
19,014,528
   
16,963,502
   
16,963,502
 
                           
CASH AND CASH EQUIVALENTS,
                         
END OF PERIOD
$
20,506,478
  
15,896,458
 
22,656,794
   
13,210,836
   
19,014,528
 
                           
Supplemental Cash Flows Information
                       
                           
Real estate acquired in settlement of loans
$
299,643
  
466,670
 
120,000
   
153,820
   
368,296
 
                         
Interest paid
$
11,713,756
  
8,445,630
 
4,493,513
   
6,102,303
   
12,000,275
 
                         
Income taxes paid
$
3,506,591
  
2,313,342
 
1,026,224
   
672,466
   
1,742,466
 
                         
Dividend declared and unpaid
$
459,074
  
450,868
 
432,513
   
420,430
   
415,414
 
                           

See Notes to Consolidated Financial Statements
 
26
Guaranty Federal Bancshares, Inc.
Consolidated Statements of Stockholders’ Equity
Years Ended December 31, 2005 and 2004 and June 30, 2003 and
Six Months Ended December 31, 2003



 
Common Stock
 
Additional Paid-In Capital
Unearned ESOP Shares
Treasury Stock
Retained Earnings
Accumulated Other Comprehensive Income
Total
 
Balance, July 1, 2002
 
636,540
 
49,842,032
 
(2,406,070
)
(42,958,147
)
27,372,935
 
2,947,587
 
35,434,877
 
Comprehensive income
                             
Net income
 
-
 
-
 
-
 
-
 
3,579,649
 
-
 
3,579,649
 
Change in unrealized appreciation
                             
on available-for-sale securitites, net
                             
of income taxes of ($568,257)
 
-
 
-
 
-
 
-
 
-
 
(967,574
)
(967,574
)
Total comprehensive income
                         
2,612,075
 
Dividends ($0.60 per share)
 
-
 
-
 
-
 
-
 
(1,671,800
)
-
 
(1,671,800
)
Stock award plans
 
-
 
547,241
 
-
 
-
 
-
 
-
 
547,241
 
Stock options exercised
 
5,145
 
551,724
 
-
 
-
 
-
 
-
 
556,869
 
Release of ESOP shares
 
-
 
124,584
 
249,140
 
-
 
-
 
-
 
373,724
 
Treasury stock purchased
 
-
 
-
 
-
 
(1,311,174
)
-
 
-
 
(1,311,174
)
Balance, June 30, 2003
 
641,685
 
51,065,581
 
(2,156,930
)
(44,269,321
)
29,280,784
 
1,980,013
 
36,541,812
 
Comprehensive income
                             
Net income
 
-
 
-
 
-
 
-
 
1,500,161
 
-
 
1,500,161
 
Change in unrealized appreciation
                             
on available-for-sale securitites, net
                             
of income taxes of $402,965
 
-
 
-
 
-
 
-
 
-
 
686,130
 
686,130
 
Total comprehensive income
                         
2,186,291
 
Dividends ($0.31 per share)
 
-
 
-
 
-
 
-
 
(861,250
)
-
 
(861,250
)
Stock award plans
 
-
 
59,034
 
-
 
-
 
-
 
-
 
59,034
 
Stock options exercised
 
1,205
 
106,433
 
-
 
-
 
-
 
-
 
107,638
 
Release of ESOP shares
 
-
 
99,154
 
126,000
 
-
 
-
 
-
 
225,154
 
Treasury stock purchased
 
-
 
-
 
-
 
(280,558
)
-
 
-
 
(280,558
)
Balance, December 31, 2003
 
642,890
 
51,330,202
 
(2,030,930
)
(44,549,879
)
29,919,695
 
2,666,143
 
37,978,121
 
Comprehensive income
                             
Net income
 
-
 
-
 
-
 
-
 
4,284,773
 
-
 
4,284,773
 
Change in unrealized appreciation
                             
on available-for-sale securitites, net
                             
of income taxes of $87,911
 
-
 
-
 
-
 
-
 
-
 
149,685
 
149,685
 
Total comprehensive income
                         
4,434,458
 
Dividends ($0.64 per share)
 
-
 
-
 
-
 
-
 
(1,767,337
)
-
 
(1,767,337
)
Stock award plans
 
-
 
78,350
 
-
 
-
 
-
 
-
 
78,350
 
Stock options exercised
 
6,496
 
744,778
 
-
 
-
 
-
 
-
 
751,274
 
Release of ESOP shares
 
-
 
231,512
 
230,000
 
-
 
-
 
-
 
461,512
 
Treasury stock purchased
 
-
 
-
 
-
 
(1,163,115
)
-
 
-
 
(1,163,115
)
Balance, December 31, 2004
 
649,386
 
52,384,842
 
(1,800,930
)
(45,712,994
)
32,437,131
 
2,815,828
 
40,773,263
 
Comprehensive income
                             
Net income
 
-
 
-
 
-
 
-
 
5,898,970
 
-
 
5,898,970
 
Change in unrealized appreciation
                             
on available-for-sale securitites, net
                             
of income taxes of ($495,626)
 
-
 
-
 
-
 
-
 
-
 
(843,903
)
(843,903
)
Total comprehensive income
                         
5,055,067
 
Dividends ($0.65 per share)
 
-
 
-
 
-
 
-
 
(1,802,763
)
-
 
(1,802,763
)
Stock award plans
 
-
 
33,213
 
-
 
-
 
-
 
-
 
33,213
 
Stock options exercised
 
7,749
 
1,023,651
 
-
 
-
 
-
 
-
 
1,031,400
 
Release of ESOP shares
 
-
 
336,980
 
228,000
 
-
 
-
 
-
 
564,980
 
Treasury stock purchased
 
-
 
-
 
-
 
(3,563,011
)
-
 
-
 
(3,563,011
)
Balance, December 31, 2005
$
657,135
  
53,778,686
 
(1,572,930
)
(49,276,005
)
36,533,338
 
1,971,925
 
42,092,149
 

See Notes to Consolidated Financial Statements
27

Guaranty Federal Bancshares, Inc.
Notes to Consolidated Financial Statements

NOTE 1: NATURE OF OPERATIONS AND SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES

Organization
In April 1995, Guaranty Federal Savings & Loan Association reorganized from a federally chartered mutual savings and loan association into a mutual holding company, Guaranty Federal Bancshares, M. H. C. (the "MHC"). Concurrent with the reorganization, Guaranty Federal Savings Bank (the "Bank"), a stock savings bank was chartered. The Bank issued 3,125,000 shares of common stock in connection with the reorganization, the majority of which were owned by the MHC.

On December 30, 1997, the MHC converted to Guaranty Federal Bancshares, Inc. (the “Company”), a Delaware-chartered stock corporation. In connection with the conversion and reorganization, the shares of the Bank held by the mutual holding company were extinguished along with the mutual holding company and the shares of the Bank held by the public were exchanged for 1,880,710 shares of the Company. Additional shares of the Company were sold to certain depositors of the Bank and to the trust of the employee stock ownership plan of the Bank as of December 30, 1997.

On June 27, 2003, the Bank converted to a state-chartered trust company with banking powers, and the Company became a one-bank holding company. The name of the Bank was changed from Guaranty Federal Savings Bank to Guaranty Bank.

Fiscal Year Change
In 2003, the Company changed its fiscal year ended June 30 to a fiscal year ended December 31. The six-month period ended December 31, 2003, transitions between the Company’s old and new fiscal year ends.

Nature of Operations
The Company operates as a one-bank holding company. The Bank is primarily engaged in providing a full range of banking and mortgage services to individual and corporate customers in southwest Missouri. The Bank is subject to competition from other financial institutions. The Company and the Bank are also subject to the regulation of certain federal and state agencies and receive periodic examinations by those regulatory authorities.

Principles of Consolidation
The consolidated financial statements include the accounts of the Company and its wholly owned subsidiary, the Bank. All significant intercompany profits, transactions and balances have been eliminated in consolidation.

Use of Estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

Material estimates that are particularly susceptible to significant change in the near term relate to the determination of the allowance for loan losses and the valuation of real estate acquired in connection with foreclosures or in satisfaction of loans. In connection with the determination of the allowance for loan losses and the valuation of foreclosed assets held for sale, management obtains independent appraisals for significant properties.

28

Guaranty Federal Bancshares, Inc.
Notes to Consolidated Financial Statements
Securities
Available-for-sale securities, which include any security for which the Company or the Bank has no immediate plan to sell but which may be sold in the future, are carried at fair value. Unrealized gains and losses are recorded, net of related income tax effects, in other comprehensive income

Held-to-maturity securities, which include any security for which the Company or the Bank has the positive intent and ability to hold until maturity, are carried at historical cost adjusted for amortization of premiums and accretion of discounts.
 
Amortization of premiums and accretion of discounts are recorded as interest income from securities. Realized gains and losses are recorded as interest income from securities. Realized gains and losses are recorded as net security gains (losses). Gains and losses on sales of securities are determined on the specific identification method.
 
Mortgage Loans Held for Sale
Mortgage loans held for sale are carried at the lower of cost or fair value, determined using an aggregate basis. Write-downs to fair value are recognized as a charge to earnings at the time the decline in value occurs. Forward commitments to sell mortgage loans are sometimes acquired to reduce market risk on mortgage loans in the process of origination and mortgage loans held for sale. Gains and losses resulting from sales of mortgage loans are recognized when the respective loans are sold to investors. Gains and losses are determined by the difference between the selling price plus the value of retained servicing rights and the carrying amount of the loans sold, net of discounts collected or paid and considering a normal servicing rate. Fees received from borrowers to guarantee the funding of mortgage loans held for sale and fees paid to investors to ensure the ultimate sale of such mortgage loans are recognized as income or expense when the loans are sold or when it becomes evident that the commitment will not be used.

Loans
Loans that management has the intent and ability to hold for the foreseeable future or until maturity or pay-offs are reported at their outstanding principal balances adjusted for any charge-offs, the allowance for loan losses, any deferred fees or costs on originated loans and unamortized premiums or discounts on purchased loans. Interest income is reported on the interest method, and includes amortization of net deferred loan fees and costs over the loan term. Generally, loans are placed on non-accrual status at ninety days past due and interest is considered a loss, unless the loan is well-secured and in the process of collection.

Loan Servicing
The cost of originated mortgage-servicing rights is amortized over the shorter of the actual or contractual loan life. Impairment of mortgage-servicing rights is assessed based on the fair value of those rights. Fair values are estimated by discounting expected cash flows. For purposes of measuring impairment, the rights are stratified based on the loan type, remaining term to maturity and interest rate. The key assumptions used in the valuation include discount rates, prepayment speeds and servicing costs. The amount of impairment recognized is the amount by which the capitalized mortgage servicing rights exceeds their fair value.

Allowance for Loan Losses
The allowance for loan losses is established as losses are estimated to have occurred through a provision for loan losses charged to income. Loan losses are charged against the allowance when management believes the uncollectibility of a loan balance is confirmed. Subsequent recoveries, if any, are credited to the allowance.
 
The allowance for loan losses is evaluated on a regular basis by management and is based upon management’s periodic review of the collectibility of the loans in light of historical experience, the nature and volume of the loan portfolio, adverse situations that may affect the borrower’s ability to repay, estimated value of any underlying collateral and prevailing economic conditions. This evaluation is inherently subjective as it requires estimates that are susceptible to significant revision as more information becomes available.
 
29

Guaranty Federal Bancshares, Inc.
Notes to Consolidated Financial Statements
 
A loan is considered impaired when, based on current information and events, it is probable that the Bank will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record and the amount of the shortfall in relation to the principal and interest owed. Impairment is measured on a loan-by-loan basis for commercial and construction loans by either the present value of expected future cash flows discounted at the loan’s effective interest rate, the loan’s obtainable market price or the fair value of the collateral if the loan is collateral dependent.
 
Foreclosed Assets Held for Sale
Assets acquired through, or in lieu of, loan foreclosure are held for sale and are initially recorded at fair value at the date of foreclosure, establishing a new cost basis. Subsequent to foreclosure, valuations are periodically performed by management and the assets are carried at the lower of carrying amount or fair value less estimated cost to sell. Revenue and expenses from operations and changes in the valuation allowance are included in net expenses from foreclosed assets.

Premises and Equipment
Depreciable assets are stated at cost less accumulated depreciation. Depreciation is charged to expense using the straight-line and accelerated methods over the estimated useful lives of the assets.

Income Taxes
Deferred tax liabilities and assets are recognized for the tax effects of differences between the financial statement and tax bases of assets and liabilities. A valuation allowance is established to reduce deferred tax assets if it is more likely than not that a deferred tax asset will not be realized.

Cash Equivalents
The Company considers all highly liquid interest-bearing deposits in other financial institutions with an initial maturity of three months or less to be cash equivalents.

Regulatory Matters
The Company and the Bank are subject to various regulatory capital requirements administered by the 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 and material effect on the Company's financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company and the Bank must meet specific capital guidelines that involve quantitative measures of assets, liabilities and certain off-balance-sheet items as calculated under regulatory accounting practices. The capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings and other factors.

Quantitative measures established by regulation to ensure capital adequacy require the Company and the Bank to maintain minimum amounts and ratios (set forth in the table below). Management believes, as of December 31, 2005, that the Company and the Bank meet all capital adequacy requirements to which they are subject.

As of December 31, 2005, the most recent notification from the Missouri Division of Finance categorized the Bank as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized the Bank must maintain minimum total risk-based, Tier I risk-based and Tier I leverage ratios as set forth in the following table. There are no conditions or events since that notification that management believes have changed the Company’s or the Bank’s category.

30

Guaranty Federal Bancshares, Inc.
Notes to Consolidated Financial Statements
The Company’s and the Bank's actual capital amounts and ratios are also presented in the table. No amount was deducted from capital for interest-rate risk. Dollar amounts are expressed in thousands.


               
To Be Well Capitalized
         
For Capital
 
Under Prompt Corrective
 
Actual
 
Adequacy Purposes
 
Action Provisions
 
Amount
 
Ratio
  
Amount
Ratio
  
Amount
Ratio
As of December 31, 2005
                             
                               
Tier 1 (core) capital, and
                             
ratio to adjusted total assets
                             
Company
$
51,040
  
10.7
%
$
19,083
  
4.0
%
  
n/a
 
n/a
 
Bank
$
53,796
  
11.3
%
$
19,010
  
4.0
%
$
23,762
  
5.0
%
                               
Tier 1 (core) capital, and
                             
ratio to risk-weighted assets
                             
Company
$
51,040
  
12.5
%
$
16,296
  
4.0
%
  
n/a
 
n/a
 
Bank
$
53,796
  
13.2
%
$
16,276
  
4.0
%
$
24,414
  
6.0
%
                               
Total risk-based capital, and
                             
ratio to risk-weighted assets
                             
Company
$
57,544
  
14.1
%
$
32,592
  
8.0
%
  
n/a
 
n/a
 
Bank
$
60,294
  
14.8
%
$
32,552
  
8.0
%
$
40,690
  
10.0
%



31

Guaranty Federal Bancshares, Inc.
Notes to Consolidated Financial Statements


               
To Be Well Capitalized
         
For Capital
 
Under Prompt Corrective
 
Actual
 
Adequacy Purposes
 
Action Provisions
 
Amount
 
Ratio
  
Amount
Ratio
  
Amount
Ratio
As of December 31, 2004
                             
                               
Tier 1 (core) capital, and
                             
ratio to adjusted total assets
                             
Company
$
37,938
  
8.7
%
$
17,485
  
4.0
%
  
n/a
 
n/a
 
Bank
$
36,869
  
8.4
%
$
17,470
  
4.0
%
$
21,838
  
5.0
%
                               
Tier 1 (core) capital, and
                             
ratio to risk-weighted assets
                             
Company
$
37,938
  
10.6
%
$
14,367
  
4.0
%
  
n/a
 
n/a
 
Bank
$
36,869
  
10.3
%
$
14,371
  
4.0
%
$
21,556
  
6.0
%
                               
Total risk-based capital, and
                             
ratio to risk-weighted assets
                             
Company
$
44,401
  
12.4
%
$
28,735
  
8.0
%
  
n/a
 
n/a
 
Bank
$
43,253
  
12.0
%
$
28,742
  
8.0
%
$
35,927
  
10.0
%
                               
 
 
 		                  
To Be Well Capitalized  
  
 
  
 
 		        
For Capital  
    
Under Prompt Corrective
 
 
Actual  
    
Adequacy Purposes
   
Action Provisions
 
 
Amount  
  
Ratio
    
Amount
 
Ratio
    
Amount
 
Ratio
  
As of December 31, 2003
                             
                               
Tier 1 (core) capital, and
                             
ratio to adjusted total assets
                             
Company
$
35,181
  
9.4
%
$
15,108
  
4.0
%
  
n/a
 
n/a
 
Bank
$
34,476
  
9.2
%
$
15,045
  
4.0
%
$
18,807
  
5.0
%
                               
Tier 1 (core) capital, and
                             
ratio to risk-weighted assets
                             
Company
$
35,181
  
12.2
%
$
11,624
  
4.0
%
  
n/a
 
n/a
 
Bank
$
34,476
  
11.9
%
$
11,570
  
4.0
%
$
17,355
  
6.0
%
                               
Total risk-based capital, and
                             
ratio to risk-weighted assets
                             
Company
$
40,185
  
13.9
%
$
23,248
  
8.0
%
  
n/a
 
n/a
 
Bank
$
39,480
  
13.6
%
$
23,141
  
8.0
%
$
28,926
  
10.0
%
 
The amount of dividends that the Bank may pay is subject to various regulatory limitations. As of December 31, 2005, 2004, and 2003, the Bank exceeded their minimum capital requirements. The Bank may not pay dividends which would reduce capital below the minimum requirements shown above.

32

Guaranty Federal Bancshares, Inc.
Notes to Consolidated Financial Statements

 
Earnings Per Share

The computation for earnings per share for years ended December 31, 2005 and 2004 and six months ended December 31, 2003 and 2002, and year ended June 30, 2003 is as follows:


 
Year Ended
 
Year Ended
Six Months Ended
 
December 31, 2005
 
December 31, 2004
December 31, 2003
         
Net income
$
5,898,970
  
4,284,773
 
1,500,161
 
Average common shares outstanding
 
2,780,249
 
2,808,412
 
2,782,788
 
Effect of stock options outstanding
 
126,885
 
113,425
 
103,555
 
Average diluted shares outstanding
 
2,907,134
 
2,921,837
 
2,886,343
 
Earnings per share - basic
$
2.12
  
1.53
 
0.54
 
Earnings per share - diluted
$
2.03
  
1.47
 
0.52
 
               
 Six Months Ended  
  
Year Ended
     
 
 December 31, 2002  
  
June 30, 2003
     
 
(unaudited)  
          
Net income
$
1,764,030
  
3,579,649
     
Average common shares outstanding
 
2,797,202
 
2,794,032
     
Effect of stock options outstanding
 
51,446
 
57,525
     
Average diluted shares outstanding
 
2,848,648
 
2,851,557
     
Earnings per share - basic
$
0.63
  
1.28
     
Earnings per share - diluted
$
0.62
  
1.26
     
 
    All outstanding options to purchase common stock were included in the computation of diluted earning per share for the six months ended December 31, 2003 and December 31, 2002. Options to purchase 21,500, 10,000, and 10,000 shares of common stock were outstanding during the years ended December 31, 2005 and 2004, and June 30, 2003, respectively, but were not included in the computation of diluted earnings per share because the options’ exercise price was greater than the average market price of the common shares.

33

Guaranty Federal Bancshares, Inc.
Notes to Consolidated Financial Statements
 
Stock Option Plans

The Company accounts for its stock option plan under the recognition and measurement principles of APB Opinion No. 25, “Accounting for Stock Issued to Employees”, and related Interpretations. 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 grant date. The following table illustrates the effect on net income and earnings per share if the Company had applied the fair value provisions of FASB Statement No. 123, ”Accounting for Stock-Based Compensation”, to stock-based employee compensation.


 
Year Ended
 
Year Ended
Six Months
 
December 31, 2005
  
December 31, 2004
December 31, 2003
         
Net income, as reported
$
5,898,970
  
4,284,773
 
1,500,161
 
Less: Total stock-based employee
             
compensation cost determined
             
under the fair value-based
             
method, net of income taxes
 
(51,516
)
(35,949
)
(18,085
)
               
Pro forma net income
$
5,847,454
  
4,248,824
 
1,482,076
 
               
Earnings per share:
             
Basic - as reported
$
2.12
  
1.53
 
0.54
 
Basic - pro forma
$
2.10
  
1.51
 
0.53
 
Diluted - as reported
$
2.03
  
1.47
 
0.52
 
Diluted - pro forma
$
2.01
  
1.45
 
0.51
 
               
 
 Six Months  
  
Year Ended
     
 December 31, 2002 
  
June 30, 2003
     
 
(Unaudited) 
          
Net income, as reported
$
1,764,030
  
3,579,649
     
Less: Total stock-based employee
             
compensation cost determined
             
under the fair value-based
             
method, net of income taxes
 
(89,950
)
(174,412
)
    
               
Pro forma net income
$
1,674,080
  
3,405,237
     
               
Earnings per share:
             
Basic - as reported
$
0.63
  
1.28
     
Basic - pro forma
$
0.60
  
1.22
     
Diluted - as reported
$
0.62
  
1.26
     
Diluted - pro forma
$
0.59
  
1.19
     
 
34

Guaranty Federal Bancshares, Inc.
Notes to Consolidated Financial Statements
Segment Information

The principal business of the Company is overseeing the business of the Bank. The Company has no significant assets other than its investment in the Bank. The banking operation is the Company’s only reportable segment. The banking segment is principally engaged in the business of originating mortgage loans secured by one-to-four family residences, multi-family, construction, commercial and consumer loans. These loans are funded primarily through the attraction of deposits from the general public, borrowings from the Federal Home Loan Bank and brokered deposits. Selected information is not presented separately for the Company’s reportable segment, as there is no material difference between that information and the corresponding information in the consolidated financial statements.

NOTE 2: SECURITIES

The amortized cost and approximate fair values of securities classified as available-for-sale securities are as follows:



   
Amortized Cost
 
Gross Unrealized Gains
 
Gross Unrealized (Losses)
 
Approximate Fair Value
 
As of December 31, 2005
                 
Equity Securities:
                         
FHLMC stock
 
$
47,595
    
3,128,415
   
-
   
3,176,010
 
Debt Securities:
                         
U. S. government agencies
   
3,579,513
   
2,021
   
(397
)
  
3,581,137
 
   
$
3,627,108
    
3,130,436
   
(397
)
  
6,757,147
 
As of December 31, 2004
                         
Equity Securities:
                         
FHLMC stock
 
$
66,588
    
4,945,012
   
-
   
5,011,600
 
Other stock
   
2,000,000
   
-
   
(560,000
)
  
1,440,000
 
Debt Securities:
                         
Trust preferred securities
   
6,570,814
   
84,468
   
-
   
6,655,282
 
U. S. government agencies
   
1,994,798
   
88
   
-
   
1,994,886
 
   
$
10,632,200
    
5,029,568
   
(560,000
)
  
15,101,768
 
As of December 31, 2003
                         
Equity Securities:
                         
FHLMC stock
 
$
78,336
    
4,587,264
   
-
   
4,665,600
 
Other stock
   
2,000,000
   
-
   
(326,000
)
  
1,674,000
 
Debt Securities:
                         
Trust preferred securities
   
6,557,201
   
11,071
   
(40,840
)
  
6,527,432
 
U. S. government agencies
   
1,996,317
   
477
   
-
   
1,996,794
 
   
$
10,631,854
    
4,598,812
   
(366,840
)
  
14,863,826
 

35
Guaranty Federal Bancshares, Inc.
Notes to Consolidated Financial Statements


Maturities of available-for-sale debt securities as of December 31, 2005:


 
Amortized Cost
 
Approximate Fair Value
Within one year
$
499,512
    
499,429
2-5 years
 
3,080,001
   
3,081,708
 
$
3,579,513
    
3,581,137
 
The amortized cost and approximate fair values of securities classified as held to maturity are as follows:


 
Amortized Cost
 
Gross Unrealized Gains
Gross Unrealized (Losses)
Approximate Fair Value
As of December 31, 2005
               
Debt Securities:
               
U. S. government agencies
$
189,974
  
-
 
(2,478
)
187,496
Mortgage-backed securities
 
754,750
 
39,550
 
-
 
794,300
 
$
944,724
  
39,550
 
(2,478
)
981,796
As of December 31, 2004
               
Debt Securities:
               
U. S. government agencies
$
228,807
  
375
 
-
 
229,182
Mortgage-backed securities
 
1,076,351
 
77,737
 
-
 
1,154,088
 
$
1,305,158
  
78,112
 
-
 
1,383,270
As of December 31, 2003
               
Debt Securities:
               
U. S. government agencies
$
256,142
  
78
 
-
 
256,220
Mortgage-backed securities
 
1,611,452
 
81,240
 
-
 
1,692,692
 
$
1,867,594
  
81,318
 
-
 
1,948,912
Maturities of held-to-maturity securities as of December 31, 2005:


 
Amortized Cost  
  
Approximate Fair Value
After ten years
$
189,974
  
187,496
Mortgage-backed securities not due on a
     
single maturity date
 
754,750
 
794,300
 
$
944,724
  
981,796

The book value of securities pledged as collateral, to secure public deposits and for other purposes, amounted to $381,115, $31,875 and $42,096 as of December 31, 2005, 2004 and 2003, respectively. The approximate fair value of pledged securities amounted to $385,439, $31,950 and $41,061 as of December 31, 2005, 2004 and 2003, respectively.

Gross gains of $1,269,396, $742,608, $105,461, $0 and $0 and gross losses of $526,061, $0, $0, $0 and $0 resulting from sale of available-for-sale securities were realized for the years ended December 31, 2005 and 2004, the six months ended December 31, 2003 and 2002, and the year ended June 30, 2003, respectively.

36
Guaranty Federal Bancshares, Inc.
Notes to Consolidated Financial Statements
 
Certain investments in debt and marketable equity securities are reported in the financial statements at an amount less than their historical cost. Total fair value of these investments at December 31, 2005, 2004 and 2003, was $1,186,612, $1,440,000 and $6,379,261, which is approximately 15%, 9% and 38% of the Company’s investment portfolio, respectively. These declines primarily resulted from changes in market interest rates and failure of certain investments to meet projected earnings targets.

Based of evaluation of available evidence including recent changes in interest rates and other information obtained from regulatory filings, management believes the declines in fair value for these securities are temporary.

Should the impairment of any of these securities become other than temporary, the cost basis of the investment will be reduced and the resulting loss recognized in net income in the period the other-than-temporary impairment is identified.

The following table shows our investments’ gross unrealized losses and fair value, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position at December 31, 2005, 2004 and 2003.


 
December 31, 2005
 
Less than 12 Months
12 Months or More
Total
Description of Securities
Fair Value
 
Unrealized Losses
Fair Value
Unrealized Losses
Fair Value
Unrealized Losses
 
              
U. S. Government Agencies
$
1,186,612
  
(2,875
)
-
 
-
 
1,186,612
 
(2,875
)
                           
 
December 31, 2004 
  
 
Less than 12 Months  
  
12 Months or More
 
Total
 
Description of Securities
 
Fair Value
 
Unrealized Losses
Fair Value
 
Unrealized Losses
Fair Value
 
Unrealized Losses
 
                          
Equity Securities
$
-
  
-
 
1,440,000
 
(560,000
)
1,440,000
 
(560,000
)
                           
 
December 31, 2003 
 
Less than 12 Months  
12 Months or More
 
Total
 
Description of Securities
 
Fair Value
 
Unrealized Losses
Fair Value
 
Unrealized Losses
Fair Value
 
Unrealized Losses
 
                          
Equity Securities
$
-
  
-
 
1,674,000
 
(326,000
)
1,674,000
 
(326,000
)
Debt Securities
 
-
 
-
 
4,705,261
 
(40,840
)
4,705,261
 
(40,840
)
 
  $
-
  
-
 
6,379,261
 
(366,840
)
6,379,261
 
(366,840
)

37
Guaranty Federal Bancshares, Inc.
Notes to Consolidated Financial Statements
NOTE 3: LOANS AND ALLOWANCE FOR LOAN LOSSES

Categories of loans at December 31, 2005, 2004 and 2003 include:


 
December 31,
 
2005
  
2004
2003
Real estate - residential mortgage:
             
One to four family units
$
101,440,261
  
117,715,909
 
128,209,462
 
Multi-family
 
53,630,562
 
52,258,859
 
44,241,683
 
Real estate - construction
 
70,389,903
 
45,090,258
 
49,814,316
 
Real estate - commercial
 
122,884,052
 
97,549,770
 
72,104,911
 
Commercial loans
 
66,370,227
 
55,606,190
 
24,618,265
 
Installment loans
 
24,264,069
 
25,172,615
 
25,441,295
 
Total loans
 
438,979,074
 
393,393,601
 
344,429,932
 
Less:
             
Undisbursed portion of loans-in-process
 
-
 
-
 
(9,425,318
)
Allowance for loan losses
 
(5,399,654
)
(4,536,654
)
(3,886,137
)
Unearned discounts
 
(2,512
)
(7,734
)
(19,296
)
Deferred loan fees/costs, net
 
(141,479
)
(106,421
)
(237,306
)
Net loans
$
433,435,429
  
388,742,792
 
330,861,875
 

Impaired loans totaled $5,123,042, $6,083,635 and $7,159,100 as of December 31, 2005, 2004 and 2003, respectively with a related allowance for loan losses of $532,810, $928,857 and $1,110,130 respectively. As of December 31, 2005, 2004 and 2003, respectively, impaired loans of $3,404,200, $1,995,593 and $736,542 had no related allowance for loan losses.

Interest of $615,628, $686,939, $153,685 and $198,196 was recognized on average impaired loans of $4,805,205, $7,659,179, $4,748,587 and $661,746 for the year ended December 31, 2005 and 2004, the six months ended December 31, 2003 and the year ended June 30, 2003, respectively. Interest of $600,288, $694,169, $143,948 and $191,040 was recognized on impaired loans on a cash basis during the years ended December 31, 2005 and 2004 and six months ended December 31, 2003 and the year ended June 30, 2003, respectively.

At December 31, 2005, 2004 and 2003 there were no accruing loans delinquent 90 days or more. Non-accruing loans at December 31, 2005, 2004 and 2003 were $722,000, $419,000 and $743,000, respectively.


38
Guaranty Federal Bancshares, Inc.
Notes to Consolidated Financial Statements

 
Activity in the allowance for loan losses was as follows:


 
Years ended
 
Six months ended
 
Year ended
 
December 31,
 
December 31,
 
June 30,
 
2005
  
2004
  
2003
  
2002
  
2003
             
(Unaudited)
    
Balance, beginning of period
$
4,536,654
  
3,886,137
   
2,775,320
   
2,649,872
   
2,649,872
 
Provision charged to expense
 
945,000
 
863,830
   
1,162,000
   
205,000
   
610,000
 
Losses charged off net of recoveries
                           
of $71,385 and $17,761 for the years ended
                           
December 31, 2005 and 2004 and $3,323 and
                           
$150 for the six months ended December 31,
                           
2003 and 2002, and $52,015 for year ended
                           
June 30, 2003
 
(82,000
)
(213,313
)
  
(51,183
)
  
(215,320
)
  
(484,552
)
Balance, end of period
$
5,399,654
  
4,536,654
   
3,886,137
   
2,639,552
   
2,775,320
 
 
    The weighted average interest rate on loans as of December 31, 2005, 2004 and 2003, was 6.88% and 5.64%, and 5.39%, respectively.

The Bank serviced mortgage loans for others amounting to $110,511,321, $123,466,113, and $128,875,871 as of December 31, 2005, 2004 and 2003, respectively. The Bank serviced commercial loans for others amounting to $4,149,438, $1,738,961 and $1,072,449 as of December 31, 2005, 2004 and 2003, respectively.

NOTE 4: PREMISES AND EQUIPMENT

Major classifications of premises and equipment, stated at cost, are as follows:



 
  
December 31,  
    
December 31,
   
December 31,
 
   
2005
    
2004
    
2003
  
Land
$
1,250,789
    
1,250,789
   
1,250,789
 
Buildings and improvements
 
7,349,536
   
6,748,579
   
6,468,609
 
Furniture, fixtures and equipment
 
4,913,877
   
4,658,904
   
3,672,063
 
Leasehold improvements
 
130,905
   
157,905
   
217,948
 
   
13,645,108
   
12,816,177
   
11,609,409
 
Less accumulated depreciation
 
(6,192,310
)
  
(5,627,298
)
  
(5,033,406
)
Net premises and equipment
$
7,452,798
    
7,188,879
   
6,576,003
 

Depreciation expense was $759,931 and $669,479 for the years ended December 31, 2005 and 2004, $339,101 and $404,498, for the six months ended December 31, 2003 and 2002 and $783,933 for the year ended June 30, 2003, respectively.

39
Guaranty Federal Bancshares, Inc.
Notes to Consolidated Financial Statements
 
NOTE 5: OTHER COMPREHENSIVE INCOME (LOSS)

Other comprehensive income (loss) components and related taxes were as follows:


 
  
Year ended  
  
Six months ended
 
Year ended
 
 
December 31,  
  
December 31,
 
June 30,
 
   
2005
  
2004
  
2003
  
2002
  
2003
  
             
(Unaudited)
      
Unrealized gains (losses) on
                     
available-for-sale securities
$
(596,194
)
980,204
 
1,194,556
 
(536,987
)
(1,535,831
)
Less: Reclassification adjustment for
                     
realized gains included in income
 
(743,335
)
(742,608
)
(105,461
)
-
 
-
 
Other comprehensive income (loss),
                     
before tax effect
 
(1,339,529
)
237,596
 
1,089,095
 
(536,987
)
(1,535,831
)
Tax expense (benefit)
 
(495,626
)
87,911
 
402,965
 
(198,685
)
(568,257
)
Other comprehensive income (loss)
$
(843,903
)
149,685
 
686,130
 
(338,302
)
(967,574
)
NOTE 6: DEPOSITS


December 31, 2005 
  
December 31, 2004
  
December 31, 2003
  
Weighted Average Rate  
    
Balance
 
Percentage of Deposits
 
Weighted Average Rate
 
Balance
 
Percentage of Deposits
 
Weighted Average Rate
 
Balance
 
Percentage of Deposits
 
 
                                    
Demand
0.00
%
$
36,193,467
  
11.3
%
0.00
%
25,583,803
 
8.6
%
0.00
%
23,335,707
 
9.8
%
NOW
0.33
%
  
35,864,150
 
11.2
%
0.53
%
34,604,789
 
11.7
%
0.30
%
34,256,771
 
14.5
%
Money market
2.47
%
  
43,896,563
 
13.7
%
1.81
%
52,009,761
 
17.6
%
1.34
%
42,231,015
 
17.8
%
Savings
1.80
%
  
14,298,452
 
4.5
%
1.08
%
15,152,943
 
5.1
%
0.81
%
17,220,605
 
7.3
%
 
1.12
%
  
130,252,633
 
40.7
%
1.01
%
127,351,296
 
43.0
%
0.69
%
117,044,097
 
49.4
%
Certificates:
                                   
0% - 3.99%
3.25
%
  
121,299,785
 
37.9
%
2.46
%
151,753,139
 
51.2
%
2.21
%
85,237,827
 
35.9
%
4.00% - 5.99%
4.35
%
  
67,779,251
 
21.2
%
4.95
%
14,934,483
 
5.0
%
5.07
%
31,062,415
 
13.1
%
6.00% - 7.99%
6.17
%
  
727,283
 
0.2
%
6.51
%
2,348,823
 
0.8
%
6.46
%
3,786,404
 
1.6
%
 
3.66
%
  
189,806,318
 
59.3
%
2.74
%
169,036,446
 
57.0
%
3.08
%
120,086,647
 
50.6
%
Total Deposits
2.62
%
$
320,058,951
  
100.0
%
2.00
%
296,387,742
 
100.0
%
1.90
%
237,130,744
 
100.0
%
 
    The aggregate amount of certificates of deposit with a minimum balance of $100,000 was approximately $30,305,000, $12,070,000, and $11,841,000, as of December 31, 2005, 2004 and 2003, respectively.

40
Guaranty Federal Bancshares, Inc.
Notes to Consolidated Financial Statements

A summary of certificates of deposit by maturity as of December 31, 2005, is as follows:


2006
$
133,708,307
2007
  
41,846,244
2008
  
7,987,443
2009
  
4,264,490
2010
  
1,521,871
Thereafter
 
477,964
 
$
189,806,318

A summary of interest expense on deposits is as follows:


 
Years ended
Six months ended
Year ended
 
December 31,
December 31,
June 30,
   
2005
  
2004
  
2003
  
2002
  
2003
  
 
              
(Unaudited)
      
NOW and Money Market accounts
$
1,299,800
  
793,432
 
327,245
 
459,869
 
813,619
 
Savings accounts
 
200,509
 
139,890
 
70,339
 
131,337
 
221,264
 
Certificate accounts
 
5,814,064
 
4,012,780
 
1,981,806
 
2,546,358
 
4,792,812
 
Early withdrawal penalties
 
(26,300
)
(26,938
)
(11,190
)
(16,389
)
(25,250
)
 
$
7,288,073
  
4,919,164
 
2,368,200
 
3,121,175
 
5,802,445
 
 
    The Bank utilizes brokered deposits as an additional funding source. The aggregate amount of brokered deposits was approximately $ 57,629,000, $68,375,000 and $24,505,000 as of December 31, 2005, 2004 and 2003, respectively.


41
Guaranty Federal Bancshares, Inc.
Notes to Consolidated Financial Statements
 
NOTE 7: FEDERAL HOME LOAN BANK ADVANCES

Federal Home Loan Bank advances consist of the following:


   
December 31, 2005
  
December 31, 2004
  
Maturity Date
   
Amount
   
Weighted Average Rate
   
Amount
 
Weighted Average Rate
 
2005
  
$
-
    
-
 
$
61,264,000
  
2.73
%
2006
    
72,414,000
   
4.33
%
  
12,500,000
 
4.62
%
2007
    
3,000,000
   
2.83
%
  
3,000,000
 
2.83
%
2008
    
16,650,000
   
5.22
%
  
16,650,000
 
5.22
%
2009
    
386,000
   
7.21
%
  
386,000
 
7.21
%
2010
    
3,000,000
   
6.37
%
  
3,000,000
 
6.37
%
Thereafter
   
4,550,000
   
5.39
%
  
3,200,000
 
5.96
%
   
$
100,000,000
    
4.55
%
$
100,000,000
  
3.58
%
                         
   
December 31, 2003 
          
Maturity Date
   
Amount
   
Weighted Average Rate
           
2004
  
$
63,290,000
    
2.34
%
          
2005
    
7,850,000
   
4.51
%
          
2006
    
10,500,000
   
5.12
%
          
2007
    
1,000,000
   
3.47
%
          
2008
    
14,950,000
   
5.54
%
          
2009
    
386,000
   
7.21
%
          
Thereafter
   
10,860,948
   
5.78
%
          
   
$
108,836,948
    
3.58
%
          
 
    In the year ending December 31, 2006, the Bank has advances equal to $11,000,000 with a weighted average rate of 5.43% callable between January 20, 2006 and January 30, 2006 at the FHLB’s option with a maturity date between July 30, 2008 and October 20, 2008.

The FHLB requires the Bank to maintain collateral equal to outstanding balances of advances. For collateral purposes, the FHLB values mortgage loans free of other pledges, liens and encumbrances at 80% of their fair value, and investment securities free of other pledges, liens and encumbrances at 95% of their fair value.


42
Guaranty Federal Bancshares, Inc.
Notes to Consolidated Financial Statements
 
NOTE 8: SUBORDINATED DEBENTURES

During 2005, the Company formed two wholly owned grantor trust subsidiaries, Guaranty Statutory Trust I and Guaranty Statutory Trust II, to issue preferred securities representing undivided beneficial interests in the assets of the trusts and to invest the gross proceeds of the preferred securities in notes of the Company. Trust I issued $5,000,000 of preferred securities and Trust II issued $10,000,000 of preferred securities. The sole assets of Trust I were originally $5,155,000 aggregate principal amount of the Company’s fixed rate subordinated debenture notes due 2036, which are redeemable beginning in 2011. The sole assets of Trust II were originally $10,310,000 aggregate principal amount of the Company’s fixed/variable rate subordinated debenture notes due 2036, which are redeemable beginning in 2011. Trust II subordinated debenture notes bear interest at a fixed rate for five years and thereafter at a floating rate based on LIBOR. The preferred securities qualify as either Tier I or Tier II capital for regulatory purposes, subject to certain limitations.

NOTE 9: INCOME TAXES

The Company files a consolidated federal income tax return. In computing federal income taxes for taxable years prior to July 1, 1996, the Bank has been allowed an 8% deduction from otherwise taxable income as a statutory bad debt deduction, subject to limitations based on aggregate loans and savings balances.

As of December 31, 2005, 2004 and 2003, retained earnings included approximately $5,075,000 for which no deferred income tax liability has been recognized. This amount represents an allocation of income to bad debt deductions for tax purposes only. Reduction of amounts so allocated for purposes other than tax bad debt losses or adjustments arising from carryback of net operating losses would create income for tax purposes only, which would be subject to the then current corporate income tax rate. The unrecorded deferred income tax liability on the above amount was approximately $1,878,000 as of December 31, 2005, 2004 and 2003.

The provision for income taxes consists of:


 
Years Ended
Six Months Ended
Year Ended
 
December 31,  
  
December 31,
 
June 30,
 
   
2005
  
2004
  
2003
  
2002
  
2003
  
             
(Unaudited) 
      
Taxes currently payable
$
3,756,110
  
2,413,294
 
1,055,750
 
758,083
 
1,810,815
 
Deferred income taxes
 
(249,519
)
(99,952
)
(267,750
)
168,917
 
(154,815
)
 
$
3,506,591
  
2,313,342
 
788,000
 
927,000
 
1,656,000
 

43
Guaranty Federal Bancshares, Inc.
Notes to Consolidated Financial Statements
 
The tax effects of temporary differences related to deferred taxes shown on the December 31, 2005, 2004 and 2003 balance sheets are:


   
December 31,
 
December 31,
 
December 31,
 
   
2005
  
2004
  
2003
  
Deferred tax assets:
                   
Allowances for loan and foreclosed asset losses
 
$
1,997,872
    
1,678,562
   
1,441,871
 
Accrued compensated absences and bonuses
   
14,538
   
12,524
   
11,749
 
Unrealized loss on loans held for sale
   
929
   
2,862
   
7,140
 
RRP expense
   
18,417
   
13,450
   
11,559
 
Deferred loan fees/costs
   
18,393
   
39,376
   
87,803
 
State tax credits
   
-
   
-
   
64,049
 
Other
   
-
   
-
   
20,127
 
     
2,050,149
   
1,746,774
   
1,644,298
 
Deferred tax liabilities:
                   
FHLB stock dividends
   
(124,683
)
  
(128,262
)
  
(128,262
)
Mortgage servicing rights
   
(315,557
)
  
(365,768
)
  
(365,110
)
Unrealized appreciation on available-for-sale securities
   
(1,158,114
)
  
(1,653,740
)
  
(1,565,830
)
Accumulated depreciation
   
(253,373
)
  
(163,879
)
  
(173,592
)
Other
   
(85,736
)
  
(67,584
)
  
(56,004
)
     
(1,937,463
)
  
(2,379,233
)
  
(2,288,798
)
Net deferred tax asset (liability)
 
$
112,686
    
(632,459
)
  
(644,500
)
 
    A reconciliation of income tax expense at the statutory rate to income tax expense at the Company’s effective rate is shown below:


   
Years ended
Six months ended
Year ended
 
   
December 31,
December 31,
June 30,
 
           
(Unaudited)
   
     
2005
  
2004
  
2003
  
2002
  
2003
  
Computed at statutory rate
   
34.0
%
34.0
%
34.0
%
34.0
%
34.0
%
Increase (reduction) in taxes resulting from:
                       
State financial institution tax
   
1.8
%
1.0
%
2.2
%
3.9
%
-2.4
%
ESOP
   
1.2
%
1.2
%
1.2
%
1.0
%
1.0
%
Other
   
0.3
%
-1.1
%
-2.2
%
-4.4
%
-1.0
%
Actual tax provision
   
37.3
%
35.1
%
35.2
%
34.5
%
31.6
%
Missouri law provides that banks will be taxed based on an annual privilege tax of 7% of net income. The privilege tax is included in provision for income taxes.


44
Guaranty Federal Bancshares, Inc.
Notes to Consolidated Financial Statements
 
NOTE 10: DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS

The following table presents estimated fair values of the Company’s financial instruments. The fair values of certain of these instruments were calculated by discounting expected cash flows, which involves significant judgments by management and uncertainties. Fair value is the estimated amount at which financial assets or liabilities could be exchanged in a current transaction between willing parties, other than in a forced or liquidation sale. Because no market exists for certain of these financial instruments and because management does not intend to sell these financial instruments, the Company does not know whether the fair values shown below represent values at which the respective financial instruments could be sold individually or in the aggregate.


 
December 31, 2005
  
December 31, 2004
  
December 31, 2003
 
Carrying Amount
 
Fair Value
 
Carrying Amount
 
Fair Value
 
Carrying Amount
 
Fair Value
 
Financial assets:
                                   
Cash and cash equivalents
$
20,506,478
    
20,506,478
   
15,896,458
   
15,896,458
   
22,656,794
   
22,656,794
 
Available-for-sale securities
 
6,757,147
   
6,757,147
   
15,101,768
   
15,101,768
   
14,863,826
   
14,863,826
 
Held-to-maturity securities
 
944,724
   
981,796
   
1,305,158
   
1,383,270
   
1,867,594
   
1,948,912
 
Mortgage loans held-for-sale
 
2,092,279
   
2,092,279
   
3,590,536
   
3,590,536
   
1,268,064
   
1,268,064
 
Loans, net
 
433,435,429
   
435,477,000
   
388,742,792
   
389,853,000
   
330,861,875
   
334,344,000
 
Federal Home Loan Bank stock
 
4,978,800
   
4,978,800
   
5,146,500
   
5,146,500
   
5,294,200
   
5,294,200
 
Interest receivable
 
2,089,127
   
2,089,127
   
1,570,015
   
1,570,015
   
1,305,728
   
1,305,728
 
Financial liabilities:
                                   
Deposits
 
320,058,951
   
318,829,000
   
296,387,742
   
295,760,000
   
237,130,744
   
237,500,000
 
Federal Home Loan Bank advances
 
100,000,000
   
100,610,000
   
100,000,000
   
101,962,000
   
108,836,948
   
113,099,000
 
Securities sold under agreements
                                   
to repurchase
 
1,594,258
   
1,594,258
   
1,264,020
   
1,264,020
   
738,399
   
738,399
 
Subordinated debentures
 
15,465,000
   
15,465,000
   
-
   
-
   
-
   
-
 
Interest payable
 
508,164
   
508,164
   
361,516
   
361,516
   
200,770
   
200,770
 
Dividend payable
 
459,074
   
459,074
   
450,868
   
450,868
   
432,513
   
432,513
 
Unrecognized financial instruments
                                   
(net of contractual value):
                                   
Commitments to extend credit
 
-
   
-
   
-
   
-
   
-
   
-
 
Unused lines of credit
 
-
   
-
   
-
   
-
   
-
   
-
 
 
    The following methods and assumptions were used to estimate the fair value of each class of financial instruments:

Cash and Cash Equivalents and Federal Home Loan Bank stock
The carrying amounts reported in the balance sheets for cash and cash equivalents approximate those assets' fair value.

Investment Securities
Fair values for investment securities equal quoted market prices, if available. If quoted market prices are not available, fair values are estimated based on quoted market prices of similar securities.

Interest Receivable
The carrying amount of interest receivable approximates its fair value.

45
Guaranty Federal Bancshares, Inc.
Notes to Consolidated Financial Statements
 
Mortgage Loans Held for Sale
Fair value is estimated using the quoted market prices for securities backed by similar loans, adjusted for differences in loan characteristics.
 
Loans
The fair value of loans 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. Loans with similar characteristics are aggregated for purposes of the calculations.

Deposits
The fair value of demand deposits and savings accounts is the amount payable on demand at the reporting date (i.e., their carrying amounts). The fair value of fixed-maturity certificates of deposit is estimated using a discounted cash flow calculation that applies the rates currently offered for deposits of similar remaining maturities.
 
Federal Home Loan Bank Advances and Subordinated Debentures
Rates currently available to the Bank for debt with similar terms and remaining maturities are used to estimate fair value of existing advances and subordinated debentures.

Securities Sold under Agreements to Repurchase
For these short-term instruments, the carrying amount is a reasonable estimate of fair value.

Interest and Dividend Payable
The carrying amounts of interest payable and dividend payable approximates their fair value.

Commitments to Extend Credit, Letters of Credit and Lines of Credit
The fair value of commitments is estimated using the fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the present credit worthiness of the counterparties. For fixed-rate loan commitments, fair value also considers the difference between current levels of interest rates and the committed rates. The fair value of letters of credit is based on fees currently charged for similar agreements or on the estimated cost to terminate them or otherwise settle the obligations with the counterparties at the reporting date.

NOTE 11: SIGNIFICANT ESTIMATES AND CONCENTRATIONS

Accounting principles generally accepted in the United States of America require disclosure of certain significant estimates and current vulnerabilities due to certain concentrations. Estimates related to the allowance for loan losses are reflected in the footnote regarding loans. Current vulnerabilities due to certain concentrations of credit risk are discussed in the footnote on commitments and credit risk. Other significant estimates and concentrations not discussed in those footnotes include:

At December 31, 2005, approximately 30% of the Bank's total time deposits consisted of certificates of deposit which were issued through a broker and had minimum denominations in excess of $100,000.

NOTE 12: EMPLOYEE BENEFIT PLANS

Stock Award Plans
The Company has established four stock award plans for the benefit of certain directors, officers and employees of the Bank and its subsidiary. The plans provide a proprietary interest in the Company in a manner designed to encourage these individuals to remain with the Bank. A committee of the Bank’s Board of Directors administers the plans. The Company accounts for the cost of share purchases under the plans as a reduction of stockholders' equity. The awards vest at the rate of 20% per year over a five-year period. Compensation expense is recognized based on the Company’s stock price on the date the shares are awarded to employees.
At the annual stockholders’ meeting on October 18, 1995, the Bank’s stockholders approved the Recognition and Retention Plan (the “RRP”). Following approval of the Plan, the Bank contributed $464,643 to a separate trust to purchase the 75,106 shares of the Company’s common stock in the RRP. As of December 31, 2005 all shares in this plan have vested.

46
Guaranty Federal Bancshares, Inc.
Notes to Consolidated Financial Statements
 
At a special stockholders’ meeting on July 22, 1998, the Company’s stockholders approved the Restricted Stock Plan (the “RSP”). Following approval of the Plan, the Company contributed $2,373,065 to a separate trust to purchase the 173,632 shares in the RSP. As of December 31, 2005 there are 1,400 shares in this plan that are not vested.

During the year ended June 30, 2000, the directors of the Company established the Stock Compensation Plan (the “2000 SCP”) with both a stock award component and a stock option component. Under the stock award component of this plan, the Committee awarded 7,125 shares of the Company’s common stock. Following approval of the Plan, the Company contributed $85,945 to a separate trust to purchase the 7,125 shares in the SCP. As of December 31, 2005 all shares in this plan have vested.

During the year ended June 30, 2001, the directors of the Company established the Stock Compensation Plan (the “2001 SCP”) with both a stock award component and a stock option component. Under the stock award component of this plan, the Committee awarded 10,239 shares of the Company’s common stock. The shares for this plan were taken from forfeited shares in the RSP. As of December 31, 2005 there are 2,047 shares in this plan that are not vested.

The Bank recognized $45,694, $63,200, $30,952, $177,810 and $353,004 of expense under these stock award plans in the years ended December 31, 2005 and 2004, the six months ended December 31, 2003 and 2002 and the year ended June 30, 2003, respectively.

Stock Option Plans
The Company has established four stock option plans for the benefit of certain directors, officers and employees of the Bank and its subsidiary. A committee of the Company’s Board of Directors administers the plans. The stock options under these plans may be either incentive stock options or nonqualified stock options. Incentive stock options can be granted only to participants who are employees of the Bank or its subsidiary. The option price must not be less than the market value of the Company stock on the date of grant. All options expire no later than ten years from the date of grant. The options vest at the rate of 20% per year over a five-year period.

At the annual stockholders’ meeting on October 18, 1995, the Bank’s stockholders approved the 1994 Stock Option and Incentive Plan for the benefit of certain directors, officers and employees of the Bank and its subsidiary. Under this Plan, the Committee may grant stock options for up to 187,764 shares of the Company’s common stock.

At a special stockholders’ meeting on July 22, 1998, the Company’s stockholders approved the 1998 Stock Option and Incentive Plan. Under this plan, the Committee may grant stock options for up to 434,081 shares of the Company’s common stock.

Under the stock option component of the 2000 SCP, the Committee granted nonqualified stock options for 17,875 shares of the Company’s common stock.

Under the stock option component of the 2001 SCP, the Committee had granted no nonqualified stock options as of December 31, 2003.
 
     During the six months ended December 31, 2003, the directors of the Company authorized the issuance of 5,000 stock options as an employment inducement to a new officer of the Bank pursuant to a stock option agreement. Stock options awarded under this agreement are considered non-qualified for federal income tax purposes.
 
 
47
Guaranty Federal Bancshares, Inc.
Notes to Consolidated Financial Statements
 
During the year ended December 31, 2004, the directors of the Company authorized the issuance of 25,000 stock options as an employment inducement to a new officer of the Bank pursuant to a stock option agreement. Stock options awarded under this agreement are considered non-qualified for federal income tax purposes.

On May 19, 2004, the Company’s stockholders voted to approve a 2004 Stock Option Plan (“2004 SOP”). The purpose of the plan is to attract and retain qualified personnel for positions of substantial responsibility. The aggregate number of shares with respect to options issued under this plan shall not exceed 250,000 shares. To date 20,000 stock options have been granted under this plan.

The table below summarizes transactions under the Company’s stock option plans:


   
Number of shares
      
   
Incentive Stock Option
 
Non-Incentive Stock Option
 
Weighted Average Exercise Price
 
               
Balance outstanding as of July 1, 2002
   
271,337
   
158,720
   
12.39
 
Granted
   
-
   
10,000
   
15.31
 
Exercised
   
(19,698
)
  
(31,746
)
  
10.82
 
Forfeited
   
(4,277
)
  
(13,360
)
  
12.47
 
Balance outstanding as of June 30, 2003
   
247,362
   
123,614
   
12.68
 
Granted
   
-
   
55,000
   
16.70
 
Exercised
   
(12,054
)
  
-
   
8.93
 
Forfeited
   
-
   
-
   
-
 
Balance outstanding as of December 31, 2003
   
235,308
   
178,614
   
13.32
 
Granted
   
12,500
   
25,000
   
19.93
 
Exercised
   
(32,436
)
  
(32,523
)
  
11.57
 
Forfeited
   
(1,600
)
  
-
   
10.02
 
Balance outstanding as of December 31, 2004
   
213,772
   
171,091
   
14.27
 
Granted
   
42,500
   
-
   
25.11
 
Exercised
   
(66,487
)
  
(11,000
)
  
13.31
 
Forfeited
   
(10,000
)
  
-
   
20.88
 
Balance outstanding as of December 31, 2005
   
179,785
   
160,091
   
15.65
 
Options exercisable as of December 31, 2005
   
129,560
   
93,111
   
13.48
 
 
    
48
Guaranty Federal Bancshares, Inc.
Notes to Consolidated Financial Statements

     The fair value of each option granted is estimated on the date of the grant using the Black-Scholes pricing model with the following weighted-average assumptions:

 
 
  
 December 31, 2005 
    
December 31, 2004
    
December 31, 2003
  
Dividends per share
 
$
0.64
  
$
0.64
  
$
0.31
  
Risk-free interest rate
   
4.00
%
  
3.03
%
  
2.73
%
Expected life of options
   
5 years
   
5 years
   
5 years
 
Weighted-average fair value
                   
of options granted during year
 
$
3.30
  
$
1.84
  
$
0.64
  

The following table summarizes information about stock options under the plans outstanding as of December 31, 2005:


Exercise Price
 
Number Outstanding
 
Number Exercisable
 
Remaining Contractual Life
 
$ 6.08
 
2,170
   
2,170
   
0.5 years
10.50
 
10,875
   
10,875
   
4.1 years
11.05
 
400
   
-
   
5.5 years
12.13
 
3,000
   
2,400
   
5.2 years
12.50
 
12,510
   
7,405
   
5.6 years
12.75
 
6,800
   
5,200
   
5.1 years
13.44
 
173,121
   
173,121
   
2.6 years
13.89
 
6,000
   
-
   
6.1 years
15.31
 
6,000
   
-
   
7.1 years
16.65
 
50,000
   
20,000
   
7.6 years
17.20
 
4,000
   
1,000
   
7.7 years
19.27
 
2,500
   
500
   
8.7 years
19.62
 
20,000
   
-
   
8.1 years
23.20
 
10,000
   
-
   
9.2 years
23.50
 
11,000
   
-
   
9.1 years
25.59
 
10,000
   
-
   
9.6 years
26.50
 
1,500
   
-
   
9.6 years
28.12
 
10,000
   
-
   
10.0 years
$ 15.66
 
339,876
   
222,671
     
 
Employee Stock Ownership Plan
The Bank sponsors an internally-leveraged Employee Stock Ownership Plan (ESOP). All employees are eligible to participate after they attain age twenty-one and complete twelve consecutive months of service during which they work at least 1,000 hours. The ESOP borrowed $3,444,540 from the Company and purchased 344,454 shares of the common stock of the Company. The ESOP debt is secured by shares of the Company. The loan will be repaid from contributions to the ESOP as approved annually by the Bank’s Board of Directors. As the debt is repaid, shares are released from collateral and allocated to employees’ accounts. The shares pledged as collateral are reported as unearned ESOP shares in the consolidated balance sheet. When shares are committed for release, the shares become outstanding for earnings per share computations. Dividends on allocated ESOP shares are recorded as a reduction of retained earnings and may be paid directly to participants or credited to their account; dividends are not paid on unallocated ESOP shares. Compensation expense is recognized ratably based on the average fair value of shares committed to be released. Compensation expense attributed to the ESOP was $564,980, $461,512, $225,154, $180,244 and $373,724 for the years ended December 31, 2005 and 2004, six months ended December 31, 2003 and 2002 and the year ended June 30, 2003, respectively.

49
Guaranty Federal Bancshares, Inc.
Notes to Consolidated Financial Statements
The following is a summary of ESOP shares as of December 31, 2005:


Beginning ESOP shares
   
344,454
 
Released shares
   
(162,525
)
Shares committed for release
   
(24,636
)
Unreleased shares
   
157,293
 
         
Fair value of unreleased shares
 
$
4,388,475
  
 
NOTE 13: RELATED PARTY TRANSACTIONS

Certain directors and executive officers of the Company and the Bank were customers of and had transactions with the Bank in the ordinary course of business. As of December 31, 2005, 2004 and 2003, loans outstanding to these directors and executive officers amounted to $3,270,812, $747,903, and $565,066, respectively.

In management's opinion, such loans and other extensions of credit and deposits were made in the ordinary course of business and were made on substantially the same terms  as those prevailing at the time for comparable transactions with other persons. Further, in management's opinion, these loans did not involve more than normal risk of collectability or present other unfavorable features.

NOTE 14: COMMITMENTS AND CREDIT RISK

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 a portion of the commitments may expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The Bank evaluates each customer's credit worthiness 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. Collateral held varies but may include accounts receivable, inventory, property and equipment, commercial real estate and residential real estate.

As of December 31, 2005, 2004 and 2003, the Bank had outstanding commitments to originate loans of approximately $2,285,000, $15,712,000 and $24,414,000, respectively. The commitments extend over varying periods of time with the majority being disbursed within a thirty-day period. As of December 31, 2005, 2004 and 2003, commitments of $2,058,000, $4,879,000 and $721,000, respectively, were at fixed rates and $227,000, $10,833,000 and $23,693,000, respectively, were at floating market rates.

Forward commitments to sell mortgage loans are obligations to deliver loans at a specified price on or before a specified date. The Bank acquires such commitments to reduce market risk on mortgage loans in the process of origination and mortgage loans held for sale. As of December 31, 2005, 2004 and 2003, the Bank had approximately $0, $2,695,000, and $0, respectively, of commitments outstanding.

Standby letters of credit are irrevocable conditional commitments issued by the Bank’s to guarantee the performance of a customer to a third party. Financial standby letters of credit are primarily issued to support public and private borrowing arrangements, including commercial paper, bond financing and similar transactions. Performance standby letters of credit are issued to guarantee performance of certain customers under non-financial contractual obligations. The credit risk involved in issuing standby letters of credit is essentially the same at that involved in extending loans to customers. Fees for letters of credit issued after December 31, 2002 are initially recorded by the Bank as deferred revenue and are included in earnings at the termination of the respective agreements. Should the Bank be obligated to perform under the standby letters of credit, the Bank may seek recourse from the customer for reimbursement of amounts paid.

50
Guaranty Federal Bancshares, Inc.
Notes to Consolidated Financial Statements
The Bank had total outstanding standby letters of credit amounting to $9,731,000, $1,314,000 and $1,189,000 as of December 31, 2005, 2004 and 2003, respectively, with terms ranging from 30 days to 2 years.

Lines of credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Lines of credit generally have fixed expiration dates. Since a portion of the line may expire without being drawn upon, the total unused lines do not necessarily represent future cash requirements. Each customer's credit worthiness is evaluated on a case-by-case basis. The amount of collateral obtained, if deemed necessary, is based on management's credit evaluation of the counterparty. Collateral held varies but may include accounts receivable, inventory, property and equipment, commercial real estate and residential real estate. Management uses the same credit policies in granting lines of credit as it does for on balance sheet instruments.

As of December 31, 2005, 2004 and 2003, unused lines of credit to borrowers aggregated approximately $77,725,000, $64,051,000 and $50,941,000 for commercial lines and $18,180,000, $16,578,000 and $13,245,000 for open-end consumer lines.

NOTE 15: FUTURE CHANGE IN ACCOUNTING PRINCIPLE

In December 2004, the FASB issued a revision to FASB Statement No. 123, Accounting for Stock Based Compensation (SFAS 123). FASB Statement No. 123R, Share Based Payment (SFAS 123R), supersedes Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees (APB 25), and its related implementation guidance. SFAS 123R established standards for the accounting for transactions in which an entity exchanges its equity instruments for goods or services that are based on the fair value of the entity’s equity instruments or that may be settled by the issuance of the equity instruments. The impact to the Company of SFAS 123R focuses primarily on accounting for transactions in which a company obtains employee services in share-based payment transactions. The Company currently accounts for its stock-based compensation using the intrinsic method as defined in APB 25 and, accordingly, has not recognized any expense for stock option plans in the Consolidated Financial Statements (See Note 1 and Note 12 of the Notes to Consolidated Financial Statements for additional information regarding the Company’s accounting for stock-based compensation). The SEC delayed the original required implementation date of SFAS 123R for public companies. Implementation of SFAS 123R is now required for the Company beginning in the interim period ending March 31, 2006. The Company does not believe the impact of applying the new statement will be material to the financial statements.

51
Guaranty Federal Bancshares, Inc.
Notes to Consolidated Financial Statements
 
NOTE 16: CONDENSED PARENT COMPANY STATEMENTS

The condensed balance sheets as of December 31, 2005, 2004 and 2003, and statements of income and cash flows for the years ended December 31, 2005 and 2004, the six months ended December 31, 2003 and 2002, and the year ended June 30, 2003, for the parent company, Guaranty Federal Bancshares, Inc., are as follows:


Balance Sheets
 
As of
 
As of
 
As of
 
   
December 31,
 
December 31,
 
December 31,
 
   
2005
  
2004
  
2003
  
Assets
                   
Cash
 
$
1,128,911
    
208,337
   
31,177
 
Due from subsidiary
   
-
   
574,000
   
563,219
 
Investment in subsidiary
   
55,863,320
   
39,804,931
   
37,272,723
 
Investment in Capital Trust I & II
   
466,434
   
-
   
-
 
Prepaid expenses and other assets
   
476,029
   
439,622
   
448,612
 
Refundable income taxes
   
207,153
   
224,860
   
94,903
 
   
$
58,141,847
    
41,251,750
   
38,410,634
 
Liabilities
                   
Subordinated debentures
 
$
15,465,000
    
-
   
-
 
Accrued expenses and other liabilities
   
125,624
   
27,619
   
-
 
Dividend payable
   
459,074
   
450,868
   
432,513
 
Stockholders' equity
                   
Common stock
   
657,135
   
649,386
   
642,890
 
Additional paid-in capital
   
53,778,686
   
52,384,842
   
51,330,202
 
Unearned ESOP shares
   
(1,572,930
)
  
(1,800,930
)
  
(2,030,930
)
Retained earnings
   
36,533,338
   
32,437,131
   
29,919,695
 
Unrealized appreciation on
                   
available-for-sale securities, net
   
1,971,925
   
2,815,828
   
2,666,143
 
Treasury stock
   
(49,276,005
)
  
(45,712,994
)
  
(44,549,879
)
   
$
58,141,847
    
41,251,750
   
38,410,634
 

 
52
Guaranty Federal Bancshares, Inc.
Notes to Consolidated Financial Statements


Income Statements
 
Years ended
 
For the six months ended
 
Year ended
 
   
December 31,
 
December 31,
 
June 30,
 
   
2005
  
2004
  
2003
  
2002
  
2003
  
 
                      
(Unaudited) 
        
Income
                             
Dividends from subsidiary bank
 
$
3,540,000
    
2,334,714
   
1,099,000
   
452,291
   
1,750,468
 
Interest income:
                             
Related party
   
127,786
   
100,275
   
50,703
   
66,491
   
121,542
 
Other
   
3
   
21
   
-
   
-
   
-
 
     
3,667,789
   
2,435,010
   
1,149,703
   
518,782
   
1,872,010
 
Expense
                               
Interest expense:
                               
Related party
   
47,683
   
-
   
-
   
-
   
-
 
Occupancy
   
2,400
   
2,400
   
1,200
   
1,200
   
2,400
 
Other
   
759,722
   
581,566
   
219,947
   
84,731
   
190,491
 
     
809,805
   
583,966
   
221,147
   
85,931
   
192,891
 
Income before income taxes
                               
and equity in undistributed
   
 
    
 
    
 
    
 
    
 
  
earnings of subsidiaries
   
2,857,984 
    
1,851,044 
    
928,556 
    
432,851 
    
1,679,119 
  
Provision (credit) for income taxes
   
(117,312
)
  
(129,555
)
  
(63,274
)
  
(7,217
)
  
(26,487
)
Income before equity in undistributed
                               
earnings of subsidiaries
   
2,975,296
   
1,980,599
   
991,830
   
440,068
   
1,705,606
 
Equity in undistributed
                               
earnings of subsidiaries
   
2,923,674
   
2,304,174
   
508,331
   
1,323,962
   
1,874,043
 
Net income
 
$
5,898,970
    
4,284,773
   
1,500,161
   
1,764,030
   
3,579,649
 

 
 
53
Guaranty Federal Bancshares, Inc.
Notes to Consolidated Financial Statements


Statements of Cash Flows
 
For the
 
For the
 
For the
 
   
years ended
 
six months ended
 
year ended
 
   
December 31,
 
December 31,
 
June 30,
 
   
2005
  
2004
  
2003
  
2002
  
2003
  
               
(Unaudited)
      
Cash Flows From Operating Activities
                               
                                 
Net income
 
$
5,898,970
    
4,284,773
   
1,500,161
   
1,764,030
   
3,579,649
 
Items not requiring (providing) cash:
                               
Equity in undistributed earnings of subsidiaries
   
(2,923,674
)
  
(2,304,174
)
  
(508,331
)
  
(1,323,962
)
  
(1,874,043
)
Release of ESOP shares
   
564,980
   
461,512
   
225,154
   
125,000
   
249,140
 
Stock award plan expense
   
23,161
   
-
   
-
   
-
   
-
 
Changes in:
                             
Accrued interest receivable
   
-
   
-
   
-
   
3,377
   
3,377
 
Prepaid expenses and other assets
   
(36,407
)
  
8,990
   
(11,226
)
  
409,266
   
(18,944
)
Income taxes payable/refundable
   
17,707
   
(129,957
)
  
(57,708
)
  
98,685
   
79,014
 
Accrued expenses
   
98,005
   
27,619
   
(11,338
)
  
(46,062
)
  
(34,724
)
Net cash provided by operating activities
   
3,642,742
   
2,348,763
   
1,136,712
   
1,030,334
   
1,983,469
 
                             
Cash Flows From Investing Activities
                               
Capital contribution to subsidiary bank
   
(13,970,000
)
  
-
   
-
   
-
   
-
 
Purchase of loans
   
-
   
-
   
-
   
291,402
   
-
 
Purchase of investment in capital trusts
   
(465,000
)
  
-
   
-
   
-
   
-
 
Net collections of loans
   
-
   
-
   
-
   
(822
)
  
-
 
Proceeds from sale of loans
   
-
   
-
   
-
   
-
   
290,580
 
Net (increase) decrease in advance to subsidiary
   
574,000
   
(10,780
)
  
(553,814
)
  
(421,463
)
  
8,079
 
Net cash provided by (used in) investing activities
   
(13,861,000
)
  
(10,780
)
  
(553,814
)
  
(130,883
)
  
298,659
 
                                 
Cash Flows From Financing Activities
                               
Stock options exercised
   
1,031,400
   
751,274
   
107,638
   
113,554
   
556,869
 
Cash dividends paid
   
(1,794,557
)
  
(1,748,982
)
  
(844,151
)
  
(764,854
)
  
(1,604,042
)
Treasury stock purchased
   
(3,563,011
)
  
(1,163,115
)
  
(280,558
)
  
(235,770
)
  
(1,131,792
)
Proceeds from issuance of subordinated debentures
   
15,465,000
   
-
   
-
   
-
   
-
 
Net cash provided by (used in) financing activities
   
11,138,832
   
(2,160,823
)
  
(1,017,071
)
  
(887,070
)
  
(2,178,965
)
                             
Increase (decrease) in cash
   
920,574
   
177,160
   
(434,173
)
  
12,381
   
103,163
 
                                 
Cash, beginning of period
   
208,337
   
31,177
   
465,350
   
362,187
   
362,187
 
                                 
Cash, end of period
 
$
1,128,911
    
208,337
   
31,177
   
374,568
   
465,350
 

 
 
54
Report of Independent Registered Public Accounting Firm



Audit Committee, Board of Directors
and Stockholders
Guaranty Federal Bancshares, Inc.
Springfield, Missouri


We have audited the accompanying consolidated balance sheets of Guaranty Federal Bancshares, Inc. as of December 31, 2005, 2004 and 2003, and the related statements of income, stockholders’ equity and cash flows for the years ended December 31, 2005 and 2004, the six-month period ended December 31, 2003, and for the year ended June 30, 2003. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Guaranty Federal Bancshares, Inc. as of December 31, 2005, 2004 and 2003, and the results of its operations and its cash flows for the years ended December 31, 2005 and 2004, the six-month period ended December 31, 2003, and for the year ended June 30, 2003, in conformity with accounting principles generally accepted in the United States of America.


/s/BKD, LLP


February 3, 2006
Springfield, Missouri

55
 
 
 
 
 
 

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