-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, BYDK/rhyvanqo05XNn1u/kd7zruJyIKUVPaccowFF38BNoMhAeW9xNbRdozuZcR3 sur7KllghWlj61v+Tmx99w== 0000893220-06-000297.txt : 20060214 0000893220-06-000297.hdr.sgml : 20060214 20060214170347 ACCESSION NUMBER: 0000893220-06-000297 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 7 CONFORMED PERIOD OF REPORT: 20051231 FILED AS OF DATE: 20060214 DATE AS OF CHANGE: 20060214 FILER: COMPANY DATA: COMPANY CONFORMED NAME: FIRST KEYSTONE FINANCIAL INC CENTRAL INDEX KEY: 0000856751 STANDARD INDUSTRIAL CLASSIFICATION: SAVINGS INSTITUTION, FEDERALLY CHARTERED [6035] IRS NUMBER: 232576479 FISCAL YEAR END: 0930 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 000-25328 FILM NUMBER: 06616771 BUSINESS ADDRESS: STREET 1: 22 WEST STATE ST CITY: MEDIA STATE: PA ZIP: 19063 BUSINESS PHONE: 610 565-6210 MAIL ADDRESS: STREET 1: 22 WEST STATE ST CITY: MEDIA STATE: PA ZIP: 19063 10-Q 1 w17573e10vq.txt FORM 10-Q FIRST KEYSTONE FINANCIAL, INC. SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended December 31, 2005 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from ____________ to ____________ Commission File Number: 000-25328 FIRST KEYSTONE FINANCIAL, INC. (Exact name of registrant as specified in its charter) Pennsylvania 23-0469351 (State or other jurisdiction (I.R.S. Employer of incorporation or organization) Identification Number)
22 West State Street Media, Pennsylvania 19063 (Address of principal executive office) (Zip Code)
Registrant's telephone number, including area code: (610) 565-6210 Indicate by check mark whether the Registrant (1) has filed all reports required by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days. Yes X No ----- ----- Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of "accelerated filer and large accelerated filer" in Rule 12b-2 of the Exchange Act (check one): Large accelerated filer [ ] Accelerated filer [ ] Non-accelerated filer [X] Indicate by checkmark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes No X ----- ----- Number of shares of Common Stock outstanding as of February 9, 2006: 2,023,874 Transitional Small Business Disclosure Format Yes No X ----- ----- FIRST KEYSTONE FINANCIAL, INC. CONTENTS
PAGE ---- PART I FINANCIAL INFORMATION: Item 1. Financial Statements Unaudited Consolidated Statements of Financial Condition as of December 31, 2005 and September 30, 2005 1 Unaudited Consolidated Statements of Income for the Three Months Ended December 31, 2005 and 2004 2 Unaudited Consolidated Statement of Changes in Stockholders' Equity for the Three Months Ended December 31, 2005 3 Unaudited Consolidated Statements of Cash Flows for the Three Months Ended December 31, 2005 and 2004 4 Notes to Unaudited Consolidated Financial Statements 5 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations. 12 Item 3. Quantitative and Qualitative Disclosures About Market Risk. 17 Item 4. Controls and Procedures 18 PART II OTHER INFORMATION Item 1. Legal Proceedings 19 Item 1A Risk Factors 19 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 19 Item 3. Defaults Upon Senior Securities 19 Item 4. Submission of Matters to a Vote of Security Holders 19 Item 5. Other Information 19 Item 6. Exhibits 20 SIGNATURES 22
-i- FIRST KEYSTONE FINANCIAL, INC. UNAUDITED CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION (dollars in thousands)
December 31 September 30 2005 2005 ----------- ------------ ASSETS Cash and amounts due from depository institutions $ 10,391 $ 8,321 Interest-bearing deposits with depository institutions 9,253 7,834 -------- -------- Total cash and cash equivalents 19,644 16,155 Investment securities available for sale 36,153 37,019 Mortgage-related securities available for sale 67,444 67,527 Loans held for sale 211 41 Investment securities held to maturity - at amortized cost (approximate fair value of $4,246 at December 31, 2005 and $4,290 at September 30, 2005) 4,262 4,267 Mortgage-related securities held to maturity - at amortized cost (approximate fair value of $42,921 at December 31, 2005 and $45,679 at September 30, 2005) 44,196 46,654 Loans receivable (net of allowance for loan loss of $3,525 and $3,475 at December 31, 2005 and September 30, 2005, respectively) 306,432 301,979 Accrued interest receivable 2,319 2,435 Real estate owned 760 760 Federal Home Loan Bank stock, at cost 6,264 9,499 Office properties and equipment, net 4,723 4,782 Deferred income taxes 2,310 2,008 Cash surrender value of life insurance 16,988 16,835 Prepaid expenses and other assets 3,142 8,163 -------- -------- TOTAL ASSETS $514,848 $518,124 ======== ======== LIABILITIES AND STOCKHOLDERS' EQUITY Liabilities: Deposits: Non-interest-bearing $ 18,987 $ 18,001 Interest-bearing 334,166 331,693 -------- -------- Total deposits 353,153 349,694 Advances from Federal Home Loan Bank and other borrowings 105,790 113,303 Junior subordinated debentures 21,511 21,520 Accrued interest payable 2,131 1,870 Advances from borrowers for taxes and insurance 1,908 839 Accounts payable and accrued expenses 2,465 2,705 -------- -------- Total liabilities 486,958 489,931 Commitments and contingencies Stockholders' Equity: Preferred stock, $.01 par value, 10,000,000 shares authorized; none issued Common stock, $.01 par value, 20,000,000 shares authorized; issued 2,712,556 shares; outstanding at December 31, 2005 and September 30, 2005, 2,023,874 and 2,023,534 shares, respectively 27 27 Additional paid-in capital 12,939 12,920 Employee stock ownership plan (3,162) (3,185) Treasury stock at cost: 688,682 shares at December 31, 2005 and 689,022 shares at September 30, 2005 (10,585) (10,590) Accumulated other comprehensive loss (796) (209) Retained earnings - partially restricted 29,467 29,230 -------- -------- Total stockholders' equity 27,890 28,193 -------- -------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $514,848 $518,124 ======== ========
See notes to unaudited consolidated financial statements. -1- FIRST KEYSTONE FINANCIAL, INC. UNAUDITED CONSOLIDATED STATEMENTS OF INCOME (dollars in thousands, except per share data)
Three months ended December 31 ----------------------- 2005 2004 ---------- ---------- INTEREST INCOME: Interest and fees on loans $ 4,699 $ 4,463 Interest and dividends on: Mortgage-related securities 1,200 1,402 Investment securities: Taxable 296 435 Tax-exempt 187 208 Dividends 117 86 Interest-bearing deposits 51 41 ---------- ---------- Total interest income 6,550 6,635 ---------- ---------- INTEREST EXPENSE: Interest on: Deposits 1,869 1,453 Federal Home Loan Bank advances and other borrowings 1,429 1,928 Junior subordinated debentures 472 434 ---------- ---------- Total interest expense 3,770 3,815 ---------- ---------- Net interest income 2,780 2,820 PROVISION FOR LOAN LOSSES 45 45 ---------- ---------- Net interest income after provision for loan losses 2,735 2,775 ---------- ---------- NON-INTEREST INCOME: Service charges and other fees 380 420 Net gain on sales of: Loans held for sale 125 19 Investment securities -- 75 Increase in cash surrender value 153 260 Other income 117 125 ---------- ---------- Total non-interest income 775 899 ---------- ---------- NON-INTEREST EXPENSE: Salaries and employee benefits 1,502 1,530 Occupancy and equipment 389 362 Professional fees 268 245 Federal deposit insurance premium 12 13 Data processing 120 128 Advertising 106 96 Deposit processing 155 162 Other 441 510 ---------- ---------- Total non-interest expense 2,993 3,046 ---------- ---------- Income before income tax expense 517 628 Income tax expense 72 105 ---------- ---------- Net income $ 445 $ 523 ========== ========== Earnings per common share: Basic $ 0.24 $ 0.29 Diluted $ 0.23 $ 0.28 Weighted average shares - basic 1,888,344 1,785,415 Weighted average shares - diluted 1,915,801 1,890,068
See notes to unaudited consolidated financial statements. -2- FIRST KEYSTONE FINANCIAL, INC. UNAUDITED CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY (dollars in thousands)
Employee Accumulated Retained Additional stock other earnings- Total Common paid-in ownership Treasury comprehensive partially stockholders' stock capital plan stock income (loss) restricted equity ------ ---------- --------- -------- ------------- ---------- ------------- BALANCE AT OCTOBER 1, 2004 $27 $13,609 $(3,189) $(11,913) $1,734 $29,430 $29,698 Net income -- -- -- -- -- 523 523 Other comprehensive income, net of tax: Net unrealized loss on securities net of reclassification adjustment(1) -- -- -- -- (345) -- (345) --- ------- ------- -------- ------ ------- ------- Comprehensive income -- -- -- -- -- -- 178 --- ------- ------- -------- ------ ------- ------- ESOP shares committed to be released -- -- 7 -- -- -- 7 Common stock acquired by stock benefit plan -- -- (72) -- -- -- (72) Excess of fair value above cost of ESOP shares committed to be released -- 9 -- -- -- -- 9 Exercise of stock options -- (10) -- 46 -- -- 36 Dividends paid -- -- -- -- -- (195) (195) --- ------- ------- -------- ------ ------- ------- BALANCE AT DECEMBER 31, 2004 $27 $13,608 $(3,254) $(11,867) $1,389 $29,758 $29,661 === ======= ======= ======== ====== ======= ======= BALANCE AT OCTOBER 1, 2005 $27 $12,920 $(3,185) $(10,590) $(209) $29,230 $28,193 Net income -- -- -- -- -- 445 445 Other comprehensive income, net of tax: Net unrealized loss on securities net of reclassification adjustment(1) -- -- -- -- (587) -- (587) --- ------- ------- -------- ------ ------- ------- Comprehensive loss -- -- -- -- -- -- (142) --- ------- ------- -------- ------ ------- ------- ESOP shares committed to be released -- -- 23 -- -- -- 23 Share-based compensation -- 6 -- -- -- -- 6 Excess of fair value above cost of ESOP shares committed to be released -- 14 -- -- -- -- 14 Exercise of stock options -- (1) -- 5 -- -- 4 Dividends paid -- -- -- -- -- (208) (208) --- ------- ------- -------- ------ ------- ------- BALANCE AT DECEMBER 31, 2005 $27 $12,939 $(3,162) $(10,585) $(796) $29,467 $27,890 === ======= ======= ======== ====== ======= =======
(1) Disclosure of reclassification amount, net of tax:
December 31, ------------- 2005 2004 ----- ----- Net unrealized depreciation arising during the period $(587) $(395) Less: reclassification adjustment for net gains included in net income (net of tax of $0 and $25, respectively) 0 50 ----- ----- Net unrealized loss on securities $(587) $(345) ===== =====
See notes to unaudited consolidated financial statements. -3- FIRST KEYSTONE FINANCIAL, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) (dollars in thousands)
Three months ended December 31 ------------------- 2005 2004 -------- -------- OPERATING ACTIVITIES: Net income $ 445 $ 523 Adjustments to reconcile net income to net cash provided by (used in) operating activities: Provision for depreciation and amortization 134 125 Amortization of premiums and discounts 100 75 Increase in cash surrender value of life insurance (153) (260) Gain on sales of: Loans held for sale (125) (19) Investment securities available for sale -- (75) Provision for loan losses 45 45 Amortization of ESOP 37 16 Share-based compensation 6 -- Insurance proceeds on real estate owned -- 29 Changes in assets and liabilities which provided (used) cash: Origination of loans held for sale (3,312) (2,722) Proceeds from the sale of loans 3,142 2,894 Accrued interest receivable 116 114 Prepaid expenses and other assets 5,021 8,423 Accrued interest payable 261 (24) Accrued expenses (240) 617 -------- -------- Net cash provided by operating activities 5,477 9,761 -------- -------- INVESTING ACTIVITIES: Loans originated (33,712) (28,351) Purchases of: Mortgage-related securities available for sale (4,068) (8,256) Investment securities available for sale (149) (1,673) Mortgage-related securities held to maturity -- (18,591) Redemption (purchase) of FHLB stock 3,235 (53) Proceeds from sales of investment securities available for sale -- 16,075 Principal collected on loans 29,330 28,183 Proceeds from maturities, calls, or repayments of: Investment securities available for sale 590 201 Mortgage-related securities available for sale 3,636 6,072 Mortgage-related securities held to maturity 2,414 1,417 Purchase of property and equipment (75) (855) ------- ------- Net cash provided by (used in) investing activities 1,201 (5,831) ------- -------- FINANCING ACTIVITIES: Net increase (decrease) in deposit accounts 3,459 (1,866) Net decrease in FHLB advances and other borrowings (7,513) (2,806) Net increase in advances from borrowers for taxes and insurance 1,069 1,088 Exercise of stock options 4 36 Common stock acquired by ESOP -- (72) Cash dividend (208) (195) -------- -------- Net cash used in financing activities (3,189) (3,815) -------- -------- INCREASE IN CASH AND CASH EQUIVALENTS 3,489 115 CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 16,155 17,975 -------- -------- CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 19,644 $ 18,090 ======== ======== SUPPLEMENTAL DISCLOSURE OF CASH FLOW AND NON-CASH INFORMATION: Cash payments for interest on deposits and borrowings $ 3,509 $ 3,546 Cash refund of income taxes -- (255)
See notes to unaudited consolidated financial statements. -4- FIRST KEYSTONE FINANCIAL, INC. NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (dollars in thousands, except per share amounts) 1. BASIS OF PRESENTATION The accompanying unaudited consolidated financial statements have been prepared in accordance with instructions to Form 10-Q. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. However, such information reflects all adjustments (consisting solely of normal recurring adjustments) which are, in the opinion of management, necessary for a fair statement of results for the periods. The results of operations for the three month period ended December 31, 2005 are not necessarily indicative of the results to be expected for the fiscal year ending September 30, 2006 or any other period. The consolidated financial statements presented herein should be read in conjunction with the audited consolidated financial statements and related notes thereto included in the First Keystone Financial, Inc. (the "Company") Annual Report on Form 10-K for the year ended September 30, 2005. 2. INVESTMENT SECURITIES The amortized cost and approximate fair value of investment securities available for sale and held to maturity, by contractual maturities, are as follows:
December 31, 2005 ------------------------------------------------- Gross Gross Amortized Unrealized Unrealized Approximate Cost Gain Loss Fair Value --------- ---------- ---------- ----------- Available for Sale: U.S. Government and agency bonds: 5 to 10 years $ 1,999 $ -- $ (32) $ 1,967 Municipal obligations: 5 to 10 years 130 3 -- 133 Over 10 years 12,633 408 (27) 13,014 Corporate bonds: 1 to 5 years 1,000 60 -- 1,060 5 to 10 years 2,000 -- (119) 1,881 Over 10 years 7,978 1 (61) 7,918 Mutual funds 8,933 -- (274) 8,659 Other equity investments 1,040 502 (21) 1,521 ------- ---- ----- ------- Total $35,713 $974 $(534) $36,153 ======= ==== ===== ======= Held to Maturity: Municipal obligations: 5 to 10 years $ 3,258 $ 4 $ (8) $ 3,254 Corporate bonds: Less than 1 year 1,004 -- (12) 992 ------- ---- ----- ------- Total $ 4,262 $ 4 $ (20) $ 4,246 ======= ==== ===== =======
-5- Provided below is a summary of investment securities available for sale and held to maturity which were in an unrealized loss position at December 31, 2005.
Loss Position Loss Position Less than 12 Months 12 Months or Longer Total ----------------------- ----------------------- ----------------------- Unrealized Unrealized Unrealized Fair Value Losses Fair Value Losses Fair Value Losses ---------- ---------- ---------- ---------- ---------- ---------- U.S. Government and agency bonds $ 1,967 $ (32) $ -- $ -- $ 1,967 $ (32) Corporate bonds 4,712 (43) 2,966 (149) 7,678 (192) Municipal bonds 2,999 (35) -- -- 2,999 (35) Mutual fund -- -- 8,659 (274) 8,659 (274) Equity securities 556 (21) -- -- 556 (21) ------- ----- ------- ----- ------- ----- Total $10,234 $(131) $11,625 $(423) $21,859 $(554) ======= ===== ======= ===== ======= =====
At December 31, 2005, investment securities in a gross unrealized loss position for twelve months or longer consisted of four securities having an aggregate depreciation of 3.6% from the Company's amortized cost basis. Management believes that the estimated fair value of the securities disclosed above is primarily dependent upon the movement in market interest rates particularly given the negligible inherent credit risk associated with these securities. These investment securities are comprised of securities that are rated investment grade by at least one bond credit rating service. Although the fair value will fluctuate as the market interest rates move, management believes that these fair values will recover as the underlying portfolios mature and are reinvested in market rate yielding investments. Mutual funds in an unrealized loss position for 12 months or longer consist of two funds primarily invested in asset-backed securities and have an aggregate depreciation of 3.1%. Corporate bonds in an unrealized loss position for 12 months or longer consist of two debt securities and have an aggregate depreciation of 5.0%. The Company has the ability and intent to hold these securities until such time as the value recovers or the securities mature. Management does not believe any individual unrealized loss as of December 31, 2005 represents an other-than-temporary impairment. The amortized cost and approximate fair value of investment securities available for sale and held to maturity, by contractual maturities, are as follows:
September 30, 2005 ------------------------------------------------- Gross Gross Amortized Unrealized Unrealized Approximate Cost Gain Loss Fair Value --------- ---------- ---------- ----------- Available for Sale: U.S. Government bonds: 5 to 10 years $ 1,997 $ -- $ (18) $ 1,979 Municipal obligations: 5 to 10 years 130 4 -- 134 Over 10 years 12,633 494 (18) 13,109 Corporate bonds: 1 to 5 years 1,000 71 -- 1,071 5 to 10 years 2,000 -- (47) 1,953 Over 10 years 7,990 34 (19) 8,005 Asset-backed securities: 1 to 5 years 590 3 -- 593 Mutual funds 8,846 -- (253) 8,593 Other equity investments 978 604 -- 1,582 ------- ------ ----- ------- Total $36,164 $1,210 $(355) $37,019 ======= ====== ===== ======= Held to Maturity: Municipal obligations: 5 to 10 years $ 3,259 $ 28 $ -- $ 3,287 Corporate bonds: Less than 1 year 1,008 -- (5) 1,003 ------- ------ ----- ------- Total $ 4,267 $ 28 $ (5) $ 4,290 ======= ====== ===== =======
-6- Provided below is a summary of investment securities available for sale and held to maturity which were in an unrealized loss position at September 30, 2005.
Loss Position Loss Position Less than 12 Months 12 Months or Longer Total ----------------------- ----------------------- ----------------------- Unrealized Unrealized Unrealized Fair Value Losses Fair Value Losses Fair Value Losses ---------- ---------- ---------- ---------- ---------- ---------- U.S. Government and agency bonds $1,979 $(18) $ -- $ -- $ 1,979 $ (18) Corporate bonds 2,642 (24) 1,953 (47) 4,595 (71) Municipal bonds 983 (18) -- -- 983 (18) Mutual fund -- -- 8,593 (253) 8,593 (253) ------ ---- ------- ----- ------- ----- Total $5,604 $(60) $10,546 $(300) $16,150 $(360) ====== ==== ======= ===== ======= =====
3. MORTGAGE-RELATED SECURITIES Mortgage-related securities available for sale and mortgage-related securities held to maturity are summarized as follows:
December 31, 2005 ------------------------------------------------- Gross Gross Amortized Unrealized Unrealized Approximate Cost Gain Loss Fair Value --------- ---------- ---------- ----------- Available for Sale: FHLMC pass-through certificates $ 4,058 $ 2 $ (27) $ 4,033 FNMA pass-through certificates 22,236 43 (491) 21,788 GNMA pass-through certificates 3,551 5 (63) 3,493 Collateralized mortgage obligations 39,246 24 (1,140) 38,130 ------- --- ------- ------- Total $69,091 $74 $(1,721) $67,444 ======= === ======= ======= Held to Maturity: FHLMC pass-through certificates $16,442 $ 6 $ (491) $15,957 FNMA pass-through certificates 27,495 5 (791) 26,709 Collateralized mortgage obligations 259 -- (4) 255 ------- --- ------- ------- Total $44,196 $11 $(1,286) $42,921 ======= === ======= =======
Provided below is a summary of mortgage-related securities available for sale and held to maturity which were in an unrealized loss position at December 31, 2005.
Loss Position Loss Position Less than 12 Months 12 Months or Longer Total ----------------------- ----------------------- ----------------------- Unrealized Unrealized Unrealized Fair Value Losses Fair Value Losses Fair Value Losses ---------- ---------- ---------- ---------- ---------- ---------- Pass-through certificates $30,827 $ (589) $38,544 $(1,274) $ 69,371 $ (1,863) Collateralized mortgage obligations 25,960 (619) 11,866 (525) 37,826 (1,144) ------- ------- ------- ------- -------- ------- Total $56,787 $(1,208) $50,410 $(1,799) $107,197 $(3,007) ======= ======= ======= ======= ======== =======
-7- At December 31, 2005, mortgage-related securities in a gross unrealized loss position for twelve months or longer consisted of thirty securities that at such date had an aggregate depreciation of 3.5% from the Company's amortized cost basis. Management does not believe any individual unrealized loss as of December 31, 2005 represents an other-than-temporary impairment. The unrealized losses reported for mortgage-related securities relate primarily to securities issued by the Federal National Mortgage Association, the Federal Home Loan Mortgage Corporation and private institutions. The majority of the unrealized losses associated with mortgage-related securities are primarily attributable to changes in interest rates and not due to the deterioration of the creditworthiness of the issuer. The Company has the ability and intent to hold these securities until the securities mature or recover in value. Mortgage-related securities available for sale and mortgage-related securities held to maturity are summarized as follows:
September 30, 2005 ------------------------------------------------- Gross Gross Amortized Unrealized Unrealized Approximate Cost Gain Loss Fair Value --------- ---------- ---------- ----------- Available for Sale: FHLMC pass-through certificates $ 50 $ 3 $ -- $ 53 FNMA pass-through certificates 23,493 51 (364) 23,180 GNMA pass-through certificates 3,947 12 (39) 3,920 Collateralized mortgage obligations 41,207 3 (856) 40,374 ------- --- ------- ------- Total $68,697 $69 $(1,259) $67,527 ======= === ======= ======= Held to Maturity: FHLMC pass-through certificates $17,267 $ 9 $ (371) $16,905 FNMA pass-through certificates 29,084 9 (619) 28,474 Collateralized mortgage obligations 303 -- (3) 300 ------- --- ------- ------- Total $46,654 $18 $ (993) $45,679 ======= === ======= =======
Provided below is a summary of mortgage-related securities available for sale and held to maturity which were in an unrealized loss position at September 30, 2005.
Loss Position Loss Position Less than 12 Months 12 Months or Longer Total ----------------------- ----------------------- ----------------------- Unrealized Unrealized Unrealized Fair Value Losses Fair Value Losses Fair Value Losses ---------- ---------- ---------- ---------- ---------- ---------- Pass-through certificates $54,321 $ (916) $14,893 $(477) $ 69,214 $(1,393) Collateralized mortgage obligations 30,206 (485) 9,873 (374) 40,079 (859) ------- ------- ------- ----- -------- ------- Total $84,527 $(1,401) $24,766 $(851) $109,293 $(2,252) ======= ======= ======= ===== ======== =======
-8- 4. LOANS RECEIVABLE Loans receivable consist of the following:
December 31 September 30 2005 2005 ----------- ------------ Real estate loans: Single-family $146,287 $ 149,237 Construction and land 37,468 36,828 Multi-family and commercial 69,376 69,704 Home equity and lines of credit 49,598 46,748 Consumer loans 1,451 1,376 Commercial loans 18,039 16,085 -------- --------- Total loans 322,219 319,978 Loans in process (12,360) (14,614) Allowance for loan losses (3,525) (3,475) Deferred loan costs 98 90 -------- --------- Loans receivable - net $306,432 $ 301,979 ======== =========
At December 31, 2005 and September 30, 2005, non-performing loans (which include loans in excess of 90 days delinquent) amounted to approximately $4,215 and $5,052, respectively. At December 31, 2005, non-performing loans primarily consisted of single-family residential mortgage loans aggregating $173, one commercial real estate loan in the amount of $3,337 and commercial business loans aggregating $505. At December 31, 2005 and September 30, 2005, the Company had impaired loans with a total recorded investment of $4,734 and $3,837, respectively. Interest income of $17 was recognized on these impaired loans during the three months ended December 31, 2005. Interest income of approximately $115 was not recognized as interest income due to the non-accrual status of loans for the three months ended December 31, 2005. Loans collectively evaluated for impairment include residential real estate, home equity (including lines of credit) and consumer loans and are not included in the data that follow:
December 31, ------------- 2005 2004 ------ ---- Impaired loans with related allowance for loan losses $3,837 $-- under SFAS No. 114 Impaired loans with no related allowance for loan losses under SFAS No. 114 897 -- ------ --- Total impaired loans $4,734 $-- ====== === Valuation allowance related to impaired loans $ 959 $-- ====== ===
The following is an analysis of the allowance for loan losses:
Three Months Ended December 31 ------------------ 2005 2004 ------ ------ Balance beginning of period $3,475 $2,039 Provisions charged to income 45 45 Charge-offs (4) (21) Recoveries 9 -- ------ ------ Total $3,525 $2,063 ====== ======
The Company has identified the evaluation of the allowance for loan losses as a critical accounting estimate where amounts are sensitive to material variation. The Company is constantly challenging the methodology, conducting assessments and redefining the process to determine the appropriate level of allowance for loan losses. Critical accounting estimates are significantly affected by management's judgment and uncertainties and there is a likelihood that materially different amounts would be reported -9- under different, but reasonable, conditions or assumptions. The allowance for loan losses is considered a critical accounting estimate because there is a large degree of judgment in (i) assigning individual loans to specific risk levels (pass, special mention, substandard, doubtful and loss), (ii) valuing the underlying collateral securing the loans, (iii) determining the appropriate reserve factor to be applied to specific risk levels for criticized and classified loans (special mention, substandard, doubtful and loss) and (iv) determining reserve factors to be applied to pass loans based upon loan type. Management reviews the allowance for loan losses generally on a monthly basis, but at a minimum of at least quarterly. To the extent that loans change risk levels, collateral values change or reserve factors change, the Company may need to adjust its provision for loan losses which would impact earnings. In this framework, a series of qualitative factors are used in a methodology as a measurement of how current circumstances are affecting the loan portfolio. Included, among other things, in these qualitative factors are past loss experience, type and volume of loans, changes in lending policies and procedures, underwriting standards, collections, charge-offs and recoveries, national and local economic conditions, concentrations of credit, and the effect of external factors on the level of estimated credit losses in the current portfolio. The determination of the allowance for loan losses requires management to make significant estimates with respect to the amounts and timing of losses and market and economic conditions. Accordingly, a decline in the economy could increase loan delinquencies, foreclosures or repossessions resulting in increased charge-off amounts and the need for additional provisions to the loan loss allowance in future periods. The Company will continue to monitor and adjust its allowance for loan losses through the provision for loan losses as economic conditions and other factors dictate. Although the Company maintains its allowance for loan losses at levels considered adequate to provide for the amount of known and inherent loss in its loan portfolio, there can be no assurance that future losses will not exceed estimated amounts or that additional provisions for loan losses will not be required in future periods. In addition, the Company's determination as to the amount of its allowance for loan losses is subject to review by its primary regulator, the Office of Thrift Supervision (the "OTS"), as part of its examination process, which may require the recognition of an adjustment to the allowance for loan losses based on its judgment of information available to it at the time of its examination. To the extent that actual outcomes differ from management's estimates, additional provisions to the allowance for loan losses may be required that would adversely impact earnings in future periods. 5. DEPOSITS Deposits consist of the following major classifications:
December 31 2005 September 30 2005 ------------------ ------------------ Amount Percent Amount Percent -------- ------- -------- ------- Non-interest bearing $ 18,987 5.4% $ 18,001 5.1% NOW 65,115 18.4 65,688 18.8 Passbook 45,996 13.0 47,139 13.5 Money market demand 44,833 12.7 45,753 13.1 Certificates of deposit 178,222 50.5 173,113 49.5 -------- ----- -------- ----- Total $353,153 100.0% $349,694 100.0% ======== ===== ======== =====
6. EARNINGS PER SHARE Basic net income per share is based upon the weighted average number of common shares outstanding, while diluted net income per share is based upon the weighted average number of common shares outstanding and common share equivalents that would arise from the exercise of dilutive securities. All dilutive shares consist of options the exercise price of which is lower than the market price of the common stock covered thereby at the dates presented. At December 31, 2005, anti-dilutive shares consisted of options covering 2,221 shares. No anti-dilutive shares existed at December 31, 2004. -10- The calculated basic and diluted earnings per share ("EPS") is as follows:
Three Months Ended December 31 ----------------------- 2005 2004 ---------- ---------- Numerator $ 445 $ 523 Denominators: Basic shares outstanding 1,888,344 1,785,415 Effect of dilutive securities 27,457 104,653 ---------- ---------- Dilutive shares outstanding 1,915,801 1,890,068 ========== ========== Earnings per share: Basic $ 0.24 $ 0.29 Diluted $ 0.23 $ 0.28
7. SHARE-BASED COMPENSATION Effective October 1, 2005, the Company adopted Statement of Financial Accounting Standards ("SFAS") No. 123 (Revised 2004), "Share-Based Payment" (SFAS No. 123(R)) using the modified prospective application transition method. The adoption of SFAS No.123(R) resulted in approximately $6 compensation expense for the three-month period ended December 31, 2005. Proforma compensation expense for the three-month period ended December 31, 2004 was $4. There were no new grants of stock options or other share-based payments during the three months ended December 31, 2005 and therefore additional disclosures for share-based compensation were omitted due to immateriality. 8. SUBSEQUENT EVENT On February 13, 2006, the Company and the Bank entered into separate supervisory agreements with the OTS governing a number of operational matters including, among other things, the requirement to (i) adopt a capital plan designed to maintain the Company's capital at prudent levels as well as reduce its debt-to-equity ratio below 50%; (ii) cease the repurchase of and payment of cash dividends on its common stock unless certain conditions are met; (iii) maintain the Bank's core and total risk-based capital in excess of 7.5% and 12.5%, respectively; (iv) not grow the Bank in any given quarter in excess of the greater of 3% of assets (on an annualized basis) or net interest credited for such quarter; and (v) adopt various revised lending policies and procedures. For more information, see Item 5(a) of Part II hereof. -11- ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS In addition to historical information, this Quarterly Report on Form 10-Q includes certain "forward-looking statements" based on management's current expectations. The Company's actual results could differ materially, as such term is defined in the Securities Act of 1933 and the Securities Exchange Act of 1934, from management's expectations. Such forward-looking statements include statements regarding management's current intentions, beliefs or expectations as well as the assumptions on which such statements are based. These forward-looking statements are subject to significant business, economic and competitive uncertainties and contingencies, many of which are not subject to the Company's control. Stockholders and potential stockholders are cautioned that any such forward-looking statements are not guarantees of future performance and involve risks and uncertainties, and that actual results may differ materially from those contemplated by such forward-looking statements. Factors that could cause future results to vary from current management expectations include, but are not limited to, general economic conditions, legislative and regulatory changes, monetary and fiscal policies of the federal government, changes in tax policies, rates and regulations of federal, state and local tax authorities, changes in interest rates, deposit flows, the cost of funds, demand for loan products, demand for financial services, competition, changes in the quality or composition of the Company's loan and investment portfolios, changes in accounting principles, policies or guidelines, availability and cost of energy resources and other economic, competitive, governmental and technological factors affecting the Company's operations, markets, products, services and fees. The Company undertakes no obligation to update or revise any forward-looking statements to reflect changed assumptions, the occurrence of unanticipated events or changes to future operating results that occur subsequent to the date such forward-looking statements are made. GENERAL The Company is a Pennsylvania corporation and sole stockholder of First Keystone Bank, a federally chartered stock savings bank (the "Bank"), which converted to the stock form of organization in January 1995. The Bank is a community-oriented bank emphasizing customer service and convenience. The Bank's primary business is attracting deposits from the general public and using those funds together with other available sources of funds, primarily borrowings, to originate loans. The Bank's management remains focused on its long-term strategic plan to continue to shift the Bank's loan composition toward commercial business, construction and home equity loans and lines of credit in order to provide a higher yielding loan portfolio with generally shorter contractual terms. CRITICAL ACCOUNTING POLICIES. Accounting policies involving significant judgments and assumptions by management, which have, or could have, a material impact on the carrying value of certain assets or comprehensive income, are considered critical accounting policies. In management's opinion, the most critical accounting policy affecting the Company's financial statements is the evaluation of the allowance for loan losses. The Company maintains an allowance for loan losses at a level management believes is sufficient to provide for known and inherent losses in the loan portfolio that were both probable and reasonable to estimate. The allowance for loan losses is considered a critical accounting estimate because there is a large degree of judgment in (i) assigning individual loans to specific risk levels (pass, substandard, doubtful and loss), (ii) valuing the underlying collateral securing the loans, (iii) determining the appropriate reserve factor to be applied to specific risk levels for criticized and classified loans (substandard, doubtful and loss) and (iv) determining reserve factors to be applied to pass loans based upon loan type. Accordingly, there is a likelihood that materially different amounts would be reported under different, but reasonably plausible conditions or assumptions. -12- The determination of the allowance for loan losses requires management to make significant estimates with respect to the amounts and timing of losses and market and economic conditions. Accordingly, a decline in the economy could increase loan delinquencies, foreclosures or repossessions resulting in increased charge-off amounts and the need for additional loan loss allowances in future periods. The Bank will continue to monitor and adjust its allowance for loan losses through the provision for loan losses as economic conditions and other factors dictate. Management reviews the allowance for loan losses generally on a monthly basis. Although the Bank maintains its allowance for loan losses at levels considered adequate to provide for the inherent risk of loss in its loan portfolio, there can be no assurance that future losses will not exceed estimated amounts or that additional provisions for loan losses will not be required in future periods. In addition, the Bank's determination as to the amount of its allowance for loan losses is subject to review by its primary regulator, the OTS, as part of its examination process, which may result in additional allowances based upon the judgment and review of the OTS. COMPARISON OF FINANCIAL CONDITION AT DECEMBER 31, 2005 AND SEPTEMBER 30, 2005 Total assets of the Company decreased by $3.3 million from $518.1 million at September 30, 2005 to $514.8 million at December 31, 2005. Loans receivable increased slightly to $306.4 million at December 31, 2005 as the Company continued to modestly increase the percentage of its portfolio consisting of commercial, construction and home equity and lines of credit, partially offset by a decrease in single-family residential loans. Prepaid expenses and other assets decreased $5.0 million due to funds received for settlement of securities sales. Deposits increased $3.5 million, or 1.0%, from $349.7 million at September 30, 2005 to $353.2 million at December 31, 2005, while borrowings decreased $7.5 million, or 6.6%, from $113.3 million at September 30, 2005. The increase in deposits resulted from a $5.1 million, or 3.0% increase in certificates of deposit partially offset by decreases of $1.7 million, or 0.9%, in core deposits (which consist of passbook, money market, NOW and non-interest bearing accounts). The decline in core deposits reflected the effects of competition as local competitors offered higher rates on these products. Stockholders' equity decreased $303,000 to $27.9 million primarily due to the decrease of $587,000 in the amount of accumulated other comprehensive income combined with dividend payments totaling $208,000, partially offset by net income of $445,000. COMPARISON OF RESULTS OF OPERATIONS FOR THE THREE MONTHS ENDED DECEMBER 31, 2005 AND 2004 NET INCOME. Net income was $445,000 for the three months ended December 31, 2005 as compared to $523,000 for the same period in 2004. The $78,000, or 14.9%, decrease in net income for the three months ended December 31, 2005 was primarily due to a $40,000 decrease in net interest income, a $124,000 decrease in non-interest income partially offset by a $53,000 decrease in non-interest expense combined with a $33,000 decrease in income tax expense. NET INTEREST INCOME. Net interest income decreased $40,000, or 1.4%, to $2.8 million for the three months ended December 31, 2005 as compared to the same period in 2004. The decrease was primarily due to a $85,000, or 1.3%, decrease in interest income which was primarily due to a decrease of $64.0 million, or 11.9%, in the average balance of interest-earning assets for the three months ended December 31, 2005 as compared to the same period in 2004. In the fourth quarter of fiscal 2005, the Company implemented a deleveraging strategy involving the sale of $47.5 million of various low-yielding securities and the repayment of $46.0 million in FHLB convertible advances and overnight borrowings. The decline in the average balance of interest-earning assets was a result of this strategy partially offset by a 60 basis point (on a fully tax-equivalent basis) increase in the weighted yield earned on the Company's interest-earning assets. However, the decrease in interest income was partially offset by a $45,000, or 1.2%, decrease in interest expense which was primarily due to a decrease of $61.1 million, or 11.4%, in the average balance of such liabilities for the three months ended December 31, 2005 as compared to the same period in 2004 partially offset by a 33 basis point (on a fully tax-equivalent basis) increase in the weighted average rate paid on interest-bearing liabilities. -13- The interest rate spread and net interest margin, on a fully tax equivalent basis, were 2.42% and 2.42%, respectively, for the three months ended December 31, 2005 as compared to 2.15% and 2.16%, respectively, for the same period in 2004. As a result of the deleveraging strategy, the Company improved its interest rate margin because the yields on interest-earning assets increased to a greater degree than the rates paid on interest-bearing liabilities. However, the continued rise in short-term interest rates could negatively impact the Company's interest rate margin as shorter term interest-bearing liabilities will reprice faster than the Company's longer term interest-earning assets. The following table presents the average balances for various categories of assets and liabilities, and income and expense related to those assets and liabilities for the three months ended December 31, 2005 and 2004. The adjustment of tax exempt securities to a tax equivalent yield in the table below may be considered to include non-GAAP financial information. Management believes that it is a common practice in the banking industry to present net interest margin, net interest rate spread and net interest income on a fully tax equivalent basis when a significant proportion of interest-earning assets are tax-free. Therefore, management believes, these measures provide useful information to investors by allowing them to make peer comparisons. A GAAP reconciliation also is included below.
FOR THE THREE MONTHS ENDED ------------------------------------------------------------- DECEMBER 31, 2005 DECEMBER 31, 2004 ------------------------------------------------------------- Average Average Average Yield/ Average Yield/ (Dollars in thousands) Balance Interest Cost(4) Balance Interest Cost(4) -------- -------- ------- -------- -------- ------- Interest-earning assets: Loans receivable(1) (2) $304,455 $4,699 6.17% $306,002 $4,463 5.83% Mortgage-related securities(2) 112,542 1,200 4.27 142,387 1,402 3.94 Investment securities(4) 47,226 686 5.81 75,389 813 4.31 Other interest-earning assets 9,624 51 2.12 14,037 41 1.17 -------- ------ -------- ------ Total interest-earning assets 473,847 6,636 5.60 537,815 6,719 5.00 -------- ------ -------- ------ Non-interest-earning assets 34,642 32,471 -------- -------- Total assets $508,489 $570,286 ======== ======== Interest-bearing liabilities: Deposits $347,338 1,869 2.15 $343,454 $1,453 1.69 FHLB advances and other borrowings 105,850 1,429 5.40 170,770 1,928 4.52 Junior subordinated debentures 21,517 472 8.77 21,553 434 8.05 -------- ------ -------- ------ Total interest-bearing liabilities 474,705 3,770 3.18 535,777 3,815 2.85 -------- ------ -------- ------ Interest rate spread 2.42% 2.15% ===== ====== Non-interest-bearing liabilities 5,829 4,903 -------- -------- Total liabilities 480,534 540,680 Stockholders' equity 27,955 29,606 -------- -------- Total liabilities and stockholders' equity $508,489 $570,286 ======== ======== Net interest-earning assets $ (858) $ 2,038 ======== ======== Net interest income(4) $2,866 $2,904 ====== ====== Net interest margin(3) 2.42% 2.16% ===== ====== Ratio of average interest-earning assets to average interest-bearing liabilities 99.82% 100.38% ===== ======
- ---------- (1) Includes non-accrual loans. (2) Includes assets classified as either available for sale or held for sale. (3) Net interest income divided by interest-earning assets. (4) Presented on a tax-equivalent basis. -14- Although management believes that the above mentioned non-GAAP financial measures enhance investor's understanding of the Company's business and performance, these non-GAAP financials measures should not be considered an alternative to GAAP. The reconciliation of these non-GAAP financials measures from GAAP to non-GAAP is presented below.
FOR THE THREE MONTHS ENDED --------------------------------------------- DECEMBER 31, 2005 DECEMBER 31, 2004 --------------------- --------------------- AVERAGE AVERAGE INTEREST YIELD/COST INTEREST YIELD/COST -------- ---------- -------- ---------- (Dollars in thousands) Investment securities - nontaxable $ 600 5.08% $ 729 3.87% Tax equivalent adjustments 86 84 ------ ------ Investment securities - nontaxable to a taxable equivalent yield $ 686 5.81% $ 813 4.31% ====== ====== Net interest income $2,780 $2,820 Tax equivalent adjustment 86 84 ------ ------ Net interest income, tax equivalent $2,866 $2,904 ====== ====== Net interest rate spread, no tax adjustment 2.35% 2.09% Net interest margin, no tax adjustment 2.35% 2.10%
PROVISION FOR LOAN LOSSES. Provisions for loan losses are charged to earnings to maintain the total allowance for loan losses at a level believed by management sufficient to cover all known and inherent losses in the loan portfolio which are both probable and reasonably estimable. Management's analysis includes consideration of the Company's historical experience, the volume and type of lending conducted by the Company, the amount of the Company's classified assets, the status of past due principal and interest payments, general economic conditions, particularly as they relate to the Company's primary market area, and other factors related to the collectibility of the Company's loan and loans held for sale portfolios. For the three months ended December 31, 2005 and 2004, the provision for loan losses amounted to $45,000 for each respective quarter. The provision for loan loss was based on the Company's monthly review of the credit quality of its loan portfolio, the net charge-offs during the first quarter of fiscal 2006 and other factors. At December 31, 2005, non-performing assets decreased $837,000 to $5.0 million, or 1.0%, of total assets, from $5.8 million at September 30, 2005. The decrease in non-performing assets was primarily the result of a $770,000 construction loan returning to current status. The coverage ratio, which is the ratio of the allowance for loan losses to non-performing loans, was 86.6% and 68.8% at December 31, 2005 and September 30, 2005, respectively. Included in non-performing assets was $760,000 of real estate owned which consisted primarily of a commercial real estate property. The Bank owns a 25% participation interest in an 18-hole golf course and a golf house located in Avondale, Pennsylvania. Subsequent to December 31, 2005, the property was sold and will result in the recognition of a pre-tax gain on sale of $158,000 for the quarter ended March 31, 2006. Included in non-performing loans at December 31, 2005 was a $3.8 million commercial loan relationship comprised of a $3.3 million non-accrual commercial real estate loan and a $500,000 non-accrual commercial business loan. The loans are secured by a restaurant in Chesapeake City, Maryland. Although the Company received an updated appraisal of the property during fiscal 2005, upon review of the appraisal, a number of factors concerning the loans and the unique nature of the property as well as the results of the recent examination by the OTS, significant issues as to the collectibility of the loans were deemed to exist. As a result, the Company determined to classify these loans as "doubtful" and establish a significant reserve related to them. Subsequent to December 31, 2005, the restaurant ceased operations. The borrower has filed for bankruptcy and, as part of those proceedings, the property will be sold at auction. Management continues to review its loan portfolio to determine the extent, if any, to which further additional loss provisions may be deemed necessary. There can be no assurance that the allowance for losses will be adequate to cover losses which may in fact be realized in the future and that additional provisions for losses will not be required. -15- NON-INTEREST INCOME. Non-interest income decreased $124,000 or 13.8% to $775,000 for the three months ended December 31, 2005 as compared to the same period in 2004. The decrease for the three months ended December 31, 2005 was primarily due to a slower appreciation rate during the 2005 period in the cash surrender value of certain insurance policies held by the Bank to fund certain supplemental retirement benefits resulting in a decrease of $107,000 compared to the same period in 2004. In addition, the Company did not experience any gain on sale of investment securities as compared to $75,000 in gain on sale of investment securities in the first quarter of fiscal 2005 resulting from the implementation of certain asset/liability strategies in fiscal year 2005. In addition, the $40,000 decrease in the service charges and other fees was mainly due to a decrease in fee-based deposit transactions. The decrease in non-interest income was partially offset by a $106,000 increase in the gain on sale of commercial business loans through the Small Business Administration Program. NON-INTEREST EXPENSE. Non-interest expense decreased $53,000 or 1.7% during the three months ended December 31, 2005 compared to the same period in 2004. The decrease was primarily due to decreases of $69,000 and $28,000 in other non-interest expense and salaries and employee benefits, respectively, partially offset by a $27,000 increase in occupancy and equipment expense. Other non-interest expense decreased primarily due to the completion of a bankwide customer service training program in October 2005. The increase in occupancy and equipment was related to the branch expansion which occurred in the fourth quarter of 2004. The decrease in non-interest expense was partially offset by increases of $23,000 and $10,000 in professional fees and advertising expenses, respectively. INCOME TAX EXPENSE. Income tax expense decreased $33,000 to $72,000 during the three months ended December 31, 2005 as compared to the same period in 2004. The decrease reflected the decrease in income before income taxes as compared to the same period in 2004. The effective tax rate decreased to 13.9% for the three months ended December 31, 2005 from 16.7% for the same period in 2004 due to the effect of tax-free investments. LIQUIDITY AND CAPITAL RESOURCES. The Company's liquidity, represented by cash and cash equivalents, is a product of its operating, investing and financing activities. The Company's primary sources of funds are deposits, amortization, prepayment and maturities of outstanding loans and mortgage-related securities, sales of loans, maturities of investment securities and other short-term investments, borrowing and funds provided from operations. While scheduled payments from the amortization of loans and mortgage-related securities and maturing investment securities and short-term investments are relatively predictable sources of funds, deposit flows and loan prepayments are greatly influenced by general interest rates, economic conditions and competition. In addition, the Company invests excess funds in overnight deposits and other short-term interest-earning assets which provide liquidity to meet lending requirements. The Company has been able to generate sufficient cash through its deposits as well as borrowings to satisfy its funding commitments. At December 31, 2005, the Company had short-term borrowings (due within one year or currently callable by the FHLB) outstanding of $105.7 million, all of which consisted of advances from the FHLB of Pittsburgh. Liquidity management is both a daily and long-term function of business management. Excess liquidity is generally invested in short-term investments such as overnight deposits. On a longer term basis, the Company maintains a strategy of investing in various lending products, mortgage-related securities and investment securities. The Company uses its sources of funds primarily to meet its ongoing commitments, to fund maturing certificates of deposit and savings withdrawals, fund loan commitments and maintain a portfolio of mortgage-related and investment securities. At December 31, 2005, total approved loan commitments outstanding amounted to $14.5 million, not including loans in process. At the same date, commitments under unused lines of credit amounted to $36.5 million. Certificates of deposit scheduled to mature in one year or less at December 31, 2005 totaled $111.9 million. Based upon the Company's historical experience, management believes that a significant portion of maturing deposits will remain with the Company. -16- The Bank is required under applicable federal banking regulations to maintain tangible capital equal to at least 1.5% of its adjusted total assets, core capital equal to at least 4.0% of its adjusted total assets and total capital to at least 8.0% of its risk-weighted assets. At December 31, 2005, the Bank had tangible capital and core capital equal to 9.0% of adjusted total assets and total capital equal to 15.4% of risk-weighted assets. However, as a result of the supervisory agreement discussed in Item 5(a) of Part II hereof, the Bank is required to maintain core and risk-based capital in excess of 7.5% and 12.5%, respectively. The Bank is in compliance with such requirements imposed by the supervisory agreement. In addition, as a result of entering into such agreement, the Bank is no longer deemed to be "well-capitalized" for purposes of the prompt corrective action regulations of the OTS. IMPACT OF INFLATION AND CHANGING PRICES. The Consolidated Financial Statements of the Company and related notes presented herein have been prepared in accordance with generally accepted accounting principles which requires 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 industrial companies, substantially all of the assets and liabilities of a financial institution are 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 to a larger extent than interest rates. In the current interest rate environment, liquidity and the maturity structure of the Company's assets and liabilities are critical to the maintenance of acceptable performance levels. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK For a discussion of the Company's asset and liability management policies, see "Management's Discussion and Analysis of Financial Condition and Results of Operation" in the Company's Annual Report for the year ended September 30, 2005. The Company utilizes reports prepared by the OTS to measure interest rate risk. Using data from the Bank's quarterly thrift financial reports, the OTS models the net portfolio value ("NPV") of the Bank over a variety of interest rate scenarios. The NPV is defined as the present value of expected cash flows from existing assets less the present value of expected cash flows from existing liabilities plus the present value of net expected cash inflows from existing off-balance sheet contracts. The model assumes instantaneous, parallel shifts in the U.S. Treasury Securities yield curve up to 300 basis points, and a decline of 200 basis points. The interest rate risk measures used by the OTS include an "Exposure Measure" or "Post-Shock" NPV ratio and a "Sensitivity Measure". The "Post-Shock" NPV ratio is the net present value as a percentage of assets over the various yield curve shifts. A low "Post-Shock" NPV ratio indicates greater exposure to interest rate risk and can result from a low initial NPV ratio or high sensitivity to changes in interest rates. The "Sensitivity Measure" is the decline in the NPV ratio, in basis points, caused by a 2% increase or decrease in rates, whichever produces a larger decline. The following sets forth the Bank's NPV as of December 31, 2005.
Net Portfolio Value (Dollars in thousands) - ------------------------------------------------------------------------------ Changes in Net Rates in Dollar Percentage Portfolio Value As Basis Points Amount Change Change a % of Assets Change - ------------ ------- -------- ---------- ------------------ -------- 300 $43,558 $(21,840) (33)% 8.71% (363) bp 200 51,816 (13,582) (21) 10.16 (218) bp 100 59,420 (5,979) (9) 11.43 (92) bp 0 65,398 -- -- 12.35 -- (100) 68,084 2,686 4 12.67 33 bp (200) 67,008 (1,610) 2 12.37 3 bp
-17- As of December 31, 2005, the Company's NPV was $65.4 million or 12.35% of the market value of assets. Following a 200 basis point increase in interest rates, the Company's "post shock" NPV was $51.8 million or 10.16% of the market value of assets. The change in the NPV ratio or the Company's sensitivity measure was (2.18)%. ITEM 4. CONTROLS AND PROCEDURES Our management evaluated, with the participation of our Chief Executive Officer and Chief Financial Officer, the effectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934) as of the end of the period covered by this report. Based on such evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures are designed to ensure that information required to be disclosed by us in the reports that we file or submit under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and regulations and are operating in an effective manner. No change in our internal control over financial reporting (as defined in Rule 13a-15(f) under the Securities Exchange Act of 1934) occurred during the most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting. -18- PART II Item 1. Legal Proceedings No material changes in the legal proceedings previously disclosed in Item 3 of the Company's Form 10-K for the year ended September 30, 2005. Item 1A. Risk Factors Not applicable Item 2. Unregistered Sales of Equity Securities and Use of Proceeds (a) - (b) Not applicable (c) Not applicable Item 3. Defaults Upon Senior Securities Not applicable Item 4. Submission of Matters to a Vote of Security Holders On January 25, 2006, the Annual Meeting of Stockholders of the Company was held to elect management's nominees for director and to ratify the appointment of Deloitte & Touche LLP as the Company's independent registered public accounting firm. No other nominations for directors were submitted. With respect to the election of directors, the results were as follows:
Votes -------------------- Nominee For Withheld ------- --------- -------- Edward Calderoni 1,465,190 370,716 William J. O' Donnell 1,468,788 367,118
With respect to the ratification of Deloitte & Touche LLP as the Company's independent registered public accounting firm for the fiscal year ending September 30, 2006, the results were as follows: 1,835,455 votes for, 217 votes against and 234 votes abstaining. Item 5. Other Information (a) On February 13, 2006, the Company and the Bank each entered into supervisory agreements with the OTS which primarily addressed issues identified in the OTS' most recent reports of examination of the Company's and the Bank's operations and financial condition. Under the terms of the supervisory agreement between the Company and the OTS, the Company agreed to, among other things, (i) develop and implement a three-year capital plan designed to support the Company's efforts to maintain prudent levels of capital and to reduce its debt-to-equity ratio below 50%; (ii) not incur any additional debt without the prior written approval of the OTS; and (iii) not repurchase any shares of or pay any cash dividends on its common stock until certain conditions were complied with; provided, however, that upon reducing its debt-to-equity below 50%, the Company may resume the payment of quarterly cash dividends at the lesser of the dividend rate in effect immediately prior to entering into the supervisory agreement or 35% of its consolidated net income (on an annualized basis), provided that the OTS does not object to the payment of such dividend pursuant to a required prior notice of the Company's intent to declare such quarterly dividend. In order to comply with the debt-to-equity ratio requirement, the Company is considering various alternatives which may include raising additional equity capital combined with the redemption in the future of a portion of its outstanding subordinated debt. Under the terms of the supervisory agreement between the Bank and the OTS, the Bank agreed to, among other things, (i) not grow in any quarter in excess of the greater of 3% of total assets (on an annualized basis) or net interest credited on deposit liabilities during such quarter; (ii) maintain its core capital and total risk-based capital ratios in excess of 7.5% and 12.5%, respectively; (iii) adopt revised -19- policies and procedures governing commercial lending; (iv) conduct periodic reviews of its commercial loan department; (v) conduct periodic internal loan reviews; (vi) adopt a revised asset classification policy and (vii) not amend, renew or enter into compensatory arrangements with senior executive officers and directors, subject to certain exceptions, without the prior approval of the OTS. The Company and the Bank have already taken a number of steps which they believe will render them in substantial compliance with a majority of the terms of the supervisory agreements. In addition, the Company is working with its advisors to address the capital plan requirements. As a result of the supervisory agreement, even though the Bank's regulatory capital is in excess of all regulatory capital requirements, the Bank will not be deemed to be "well-capitalized" for purposes of the prompt corrective action regulations of the OTS. The supervisory agreements are filed herewith as Exhibits 99.2 and 99.3 and are incorporated by reference herein. The foregoing description of the supervisory agreements is qualified in its entirety by reference to the text of the supervisory agreements. (b) No changes in procedures. Item 6. Exhibits List of Exhibits
Exhibit No Description - ------- ----------- 3.1 Amended and Restated Articles of Incorporation of First Keystone Financial, Inc. (1) 3.2 Amended and Restated Bylaws of First Keystone Financial, Inc. (1) 4.1 Specimen Stock Certificate of First Keystone Financial, Inc. (1) 4.2 Instrument defining the rights of security holders ** 10.1 Employment Agreement between First Keystone Financial, Inc. and Thomas M. Kelly dated December 1, 2004. (2), * 10.2 Severance Agreement between First Keystone Financial, Inc. and Elizabeth M. Mulcahy dated December 1, 2004. (2),* 10.3 Severance Agreement between First Keystone Financial, Inc. and Carol Walsh dated December 1, 2004. (2),* 10.4 1995 Stock Option Plan. (3), * 10.5 1995 Recognition and Retention Plan and Trust Agreement (4), * 10.6 1998 Stock Option Plan (4), * 10.7 Employment Agreement between First Keystone Bank and Thomas M. Kelly dated December 1, 2004. (2), * 10.8 Severance Agreement between First Keystone Bank and Elizabeth M. Mulcahy dated December 1, 2004. (2), * 10.9 Severance Agreement between First Keystone Bank and Carol Walsh dated December 1, 2004. (2), * 10.10 First Keystone Bank Supplemental Executive Retirement Plan (5),* 10.11 Consulting Agreement between First Keystone Bank and Edmund Jones (6), * 10.12 Amendment No. 1 to the Employment Agreement between First Keystone Financial, Inc. and Thomas M. Kelly. (7), * 10.13 Amendment No. 1 to the Employment Agreement between First Keystone Bank and Thomas M. Kelly. (7), * 10.14 Transition, Consulting, Noncompetition and Retirement Agreement by and between First Keystone Financial, Inc., First Keystone Bank and Donald S. Guthrie. (8), * 11 Statement re: computation of per share earnings. See Note 6 to the Unaudited Consolidated Financial Statements included in Item 1 hereof. 31.1 Section 302 Certification of Chief Executive Officer 31.2 Section 302 Certification of Chief Financial Officer 32.1 Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
-20- 32.2 Certification of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 99.1 Codes of Ethics (9) 99.2 Supervisory Agreement between First Keystone Financial, Inc. and the Office of Thrift Supervision dated February 13, 2006. 99.3 Supervisory Agreement between First Keystone Bank and the Office of Thrift Supervision dated February 13, 2006.
- ---------- (1) Incorporated by reference from the Registration Statement on Form S-1 (Registration No. 33-84824) filed by the Registrant with the SEC on October 6, 1994, as amended. (2) Incorporated by reference from Exhibits 10.5, 10.6, 10.8, 10.14, 10.15 and 10.16, respectively, in the Form 8-K filed by the Registrant with the SEC on December 7, 2004 (File No. 000-25328). (3) Incorporated by reference from Exhibit 10.9 in the Form 10-K filed by the Registrant with SEC on December 29, 1995 (File No. 000-25328). (4) Incorporated from Appendix A of the Registrant's definitive proxy statement dated December 24, 1998 (File No. 000-25328). (5) Incorporated by reference from Exhibit 10.17 in the Form 10-Q filed by the Registrant with the SEC on May 17, 2004. (6) Incorporated by reference from Exhibit 10.18 in the Form 10-K filed by the Registrant with the SEC on December 29, 2004. (7) Incorporated by reference from Exhibits 10.19 and 10.20, respectively, in the Form 8-K filed by the Registrant with the SEC on March 29, 2005. (8) Incorporated by reference from Exhibit 10.21 in the Form 8-K filed by the Registrant with the SEC on March 29, 2005. (9) Incorporated by reference from the Form 10-K filed by the Registrant with the SEC on December 23, 2004. (*) Consists of a management contract or compensatory plan (**) The Company has no instruments defining the rights of holders of long-term debt where the amount of securities authorized under such instrument exceeds 10% of the total assets of the Company and its subsidiaries on a consolidated basis. The Company hereby agrees to furnish a copy of any such instrument to the SEC upon request. -21- SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. FIRST KEYSTONE FINANCIAL, INC. Date: February 14, 2006 By: /s/ Thomas M. Kelly ---------------------------------------- Thomas M. Kelly President and Chief Executive Officer Date: February 14, 2006 By: /s/ Rose M. DiMarco ---------------------------------------- Rose M. DiMarco Chief Financial Officer -22- EX-31.1 2 w17573exv31w1.txt SECTION 302 CERTIFICATION OF CHIEF EXECUTIVE OFFICER EXHIBIT 31.1 CERTIFICATION OF THE CHIEF EXECUTIVE OFFICER PURSUANT TO RULES 13A-14 AND 15D-14 OF THE SECURITIES EXCHANGE ACT OF 1934 AND SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002 I, Thomas M. Kelly certify that: 1. I have reviewed this quarterly report on Form 10-Q of First Keystone Financial, Inc. (the "Registrant"); 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the Registrant as of, and for, the periods presented in this report; 4. The Registrant's other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the Registrant and have: (a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the Registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; (b) Evaluated the effectiveness of the Registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and (c) Disclosed in this report any change in the Registrant's internal control over financial reporting that occurred during the Registrant's most recent fiscal quarter (the Registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the Registrant's internal control over financial reporting; and 5. The Registrant's other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the Registrant's auditors and the audit committee of Registrant's board of directors (or persons performing the equivalent functions): (a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the Registrant's ability to record, process, summarize and report financial information; and (b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the Registrant's internal control over financial reporting. Date: February 14, 2006 /s/ Thomas M. Kelly ---------------------------------------- Thomas M. Kelly President and Chief Executive Officer -23- EX-31.2 3 w17573exv31w2.txt SECTION 302 CERTIFICATION OF CHIEF FINANCIAL OFFICER EXHIBIT 31.2 CERTIFICATION OF THE CHIEF FINANCIAL OFFICER PURSUANT TO RULES 13A-14 AND 15D-14 OF THE SECURITIES EXCHANGE ACT OF 1934 AND SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002 I, Rose M. DiMarco, certify that: 1. I have reviewed this quarterly report on Form 10-Q of First Keystone Financial, Inc. (the "Registrant"); 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the Registrant as of, and for, the periods presented in this report; 4. The Registrant's other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the Registrant and have: (a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the Registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; (b) Evaluated the effectiveness of the Registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and (c) Disclosed in this report any change in the Registrant's internal control over financial reporting that occurred during the Registrant's most recent fiscal quarter (the Registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the Registrant's internal control over financial reporting; and 5. The Registrant's other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the Registrant's auditors and the audit committee of Registrant's board of directors (or persons performing the equivalent functions): (a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the Registrant's ability to record, process, summarize and report financial information; and (b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the Registrant's internal control over financial reporting. Date: February 14, 2006 /s/ Rose M. DiMarco ---------------------------------------- Rose M. DiMarco Chief Financial Officer -1- EX-32.1 4 w17573exv32w1.txt CERTIFICATION OF CHIEF EXECUTIVE OFFICER PURSUANT TO SECTION 906 EXHIBIT 32.1 CERTIFICATION OF CHIEF EXECUTIVE OFFICER PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 (18 U.S.C. 1350) The undersigned Chief Executive Officer of First Keystone Financial, Inc. (the "Registrant") hereby certifies that the Registrant's Form 10-Q for the quarter ended December 31, 2005 fully complies with the requirements of Section 13(a) of the Securities Exchange Act of 1934 and that the information contained therein fairly presents, in all material respects, the financial condition and results of operations of the Registrant. /s/ Thomas M. Kelly ---------------------------------------- Name: Thomas M. Kelly Title: President and Chief Executive Officer Date: February 14, 2006 A signed original of this written statement required by Section 906 of the Sarbanes-Oxley Act has been provided to First Keystone Financial, Inc. and will be retained by First Keystone Financial, Inc. and furnished to the Securities and Exchange Commission or its staff upon request. -1- EX-32.2 5 w17573exv32w2.txt CERTIFICATION OF CHIEF FINANCIAL OFFICER PURSUANT TO SECTION 906 EXHIBIT 32.2 CERTIFICATION OF CHIEF FINANCIAL OFFICER PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 (18 U.S.C. 1350) The undersigned Chief Financial Officer of First Keystone Financial, Inc. (the "Registrant") hereby certifies that the Registrant's Form 10-Q for the quarter ended December 31, 2005 fully complies with the requirements of Section 13(a) of the Securities Exchange Act of 1934 and that the information contained therein fairly presents, in all material respects, the financial condition and results of operations of the Registrant. /s/ Rose M. DiMarco ---------------------------------------- Name: Rose M. DiMarco Title: Chief Financial Officer Date: February 14, 2006 A signed original of this written statement required by Section 906 of the Sarbanes-Oxley Act has been provided to First Keystone Financial, Inc. and will be retained by First Keystone Financial, Inc. and furnished to the Securities and Exchange Commission or its staff upon request. -1- EX-99.2 6 w17573exv99w2.txt SUPERVISORY AGREEMENT BETWEEN FIRST KEYSTONE FINANCIAL, INC AND THE OFFICE OF THRIFT SUPERVISION Exhibit 99.2 SUPERVISORY AGREEMENT OTS Docket No. H-1616 This written Supervisory Agreement ("Agreement") is made as of February 13, 2006 (the "Effective Date"), by and between FIRST KEYSTONE FINANCIAL, INC. (the "Holding Company," OTS Docket No. H-1616), a savings and loan holding company having its main office at 22 W. State Street, Media, Pennsylvania 19063-3311, which owns and controls First Keystone Bank, Media, Pennsylvania (the "Bank"), a federally chartered savings bank, and the OFFICE OF THRIFT SUPERVISION ("OTS"), a federal bank regulatory agency within the United States Department of the Treasury, acting through its Northeast Regional Director or his designee ("Regional Director") and maintaining its Northeast Regional Office at Harborside Financial Center Plaza Five, Suite 1600, Jersey City, New Jersey 07311. WHEREAS, the OTS, pursuant to 12 U.S.C. Sections 1818 and 1467a(g), has statutory authority to require the Holding Company to take actions to correct matters of regulatory concern; and WHEREAS, the OTS and the Board of Directors of the Holding Company (the "Board") mutually agree that the Holding Company should take actions to address the concerns described in OTS's report of the holding company examination of First Keystone Financial, Inc. started on July 7, 2005 (the "2005 Exam Report"). NOW THEREFORE, in consideration of the above premises and the mutual undertakings set forth herein, the parties hereto agree as follows: I. Restrictions Relating to Dividends and Other Capital Distributions. (A) The Holding Company shall not, directly or indirectly, purchase or redeem any shares of its stock, or declare or pay any dividends to any holders of its equity securities, unless either - (1) the Holding Company is, and after completion of the proposed action would remain, in full compliance with an OTS-approved plan submitted and adopted pursuant to Section III hereof, and the Bank's capital levels after completion of the proposed action would satisfy all legal requirements; or (2) the Regional Director gives prior specific written approval for the action in response to a request from the Holding Company. Notwithstanding the forgoing, once the Holding Company achieves a debt-to-equity ratio(1) of less than 50%, the Holding Company may resume the payment of quarterly cash dividends in an amount not to exceed the lesser of the dividend rate in existence immediately prior to the Effective Date or 35% of consolidated net income (on an annualized basis); provided that the Regional Director: (i) is given no less than 10 days advance notice of the Holding Company's intent to declare a dividend and (ii) has not notified the Holding Company in writing that there are significant concerns that the payment of such dividend would significantly jeopardize the Holding Company's ability to maintain prudent levels of capital. II. Restrictions on Incurrence of Debt. The Holding Company shall not, directly or indirectly, incur any debt without the prior written approval of the Regional Director. All Holding Company requests for such prior written approval shall contain, but not be limited to, a statement describing the purpose of the proposed debt, describing and analyzing the terms of the proposed debt, the planned source(s) for repayment of the proposed debt, and an analysis of the Holding Company's cash flow resources available to meet such debt repayment. III. Plan for Enhancing Capital and Reducing Leverage. (A) The Holding Company shall develop and implement a written 3-year plan ("Plan") that is acceptable to the Regional Director and is designed (1) to support the Holding Company's efforts to maintain prudent levels of capital, (2) to control and reduce the Holding Company's leverage ratios,(2) and (3) to service the Holding Company's current debt without its incurrence of additional debt. (B) The Plan must be submitted to OTS's Northeast Regional Office within 60 days of the Effective Date, and at a minimum shall state and analyze in a format of successive calendar quarters: (1) the Bank's and the Holding Company's present and future capital needs, taking into account their respective current and projected earnings performances and risk profiles; (2) a comprehensive pro-forma cash flow projection for the Holding Company, detailing all anticipated sources and uses of - ---------- (1) For purposes of this Agreement, the debt-to-equity ratio shall be computed using: (i) Total Unconsolidated Debt of the Holding Company as the numerator and (ii) Consolidated Stockholders' Equity (adjusted for unrealized gains or losses) as the denominator. (2) See OTS Holding Company Handbook, section 300 at 300.4-300.6. 2 funds; and (3) the Holding Company's intentions and plans to solicit additional common equity capital, and to take other steps, to preserve and increase its existing equity capital. (C) The Plan shall also require the Holding Company to prepare, on a quarterly basis, a written variance analysis ("Variance Analysis") that addresses each element of the Plan separately and in detail, and which at a minimum (1) compares how the Holding Company's actual experience during the preceding calendar quarter differed from its Plan projections for that quarter, and (2) assesses the effects and implications of those variances for the remainder of the period covered by the Plan. A copy of each Variance Analysis must be submitted to OTS within 30 days after the end of each calendar quarter. IV. Board and Management Changes. The Holding Company is subject to the requirements and limitations set out in Subpart H of Part 563 of the OTS's regulations (12 C.F.R. Sections 563.550 - ..590). Without limitation on such requirements and limitations, this means, among other things, that, except as otherwise permitted by 12 C.F.R. Section 563.590, no person shall be appointed to the position of or be hired as a member of the Board or as a senior executive officer of the Holding Company unless -- (A) the Holding Company (or the individual, if appropriate) has previously filed with the OTS an appropriate and complete notice pursuant to 12 C.F.R. Part 563, Subpart H; and (B) the person's commencement of service on behalf of the Holding Company is permissible under 12 C.F.R. Section 563.585 and 12 U.S.C. Section 1831i. V. Severance and Indemnification Payments and Agreements to Make Such Payments. The restrictions in 12 C.F.R. Part 359 are applicable to the Holding Company. Such restrictions concern the making of agreements (including employment agreements) with severance provisions, "golden parachute payments," and "prohibited indemnification payments." Without limitation on the generality of the foregoing, this means, inter alia, that the Holding Company shall not make or agree to make any "golden parachute payment," as that term is defined in 12 U.S.C. Section 1828(k) and 12 C.F.R. Part 359, except as may be permitted by the preceding statutory and regulatory provisions. VI. Compliance With Agreement. (A) The Board and officers of the Holding Company shall take immediate action to cause the Holding Company to comply with the terms of this Agreement and thereafter shall take all actions necessary or appropriate to cause the Holding Company to continue to carry out the provisions of 3 this Agreement. (B) Within 15 days after the Effective Date, the Board shall appoint a committee (the "Compliance Committee") comprised of 3 or more directors, the majority of whom shall be outside directors, to monitor and coordinate the Holding Company's compliance with the provisions of this Agreement. For purposes of this subsection (B), "outside directors" shall mean members of the Board who are not officers, employees, or principal stockholders of the Holding Company, its subsidiaries, or its affiliates, and who do not have any material business dealings with the Holding Company, its subsidiaries, or its affiliates. (C) Within 30 days after the end of each calendar quarter following the date of this Agreement (March 31, June 30, September 30, and December 31), the Compliance Committee shall submit a written progress report to the Board detailing the actions taken to comply with each provision of this Agreement and the results of those actions. (D) Within 15 days after its receipt from the Compliance Committee, the Board shall forward a copy of the quarterly progress report described in this subsection, with any additional comments made by the Board, to the Regional Director and shall certify in writing that each director has reviewed the report. VII. Submission of Documents to OTS/Compliance with Plans, Policies, and Procedures. (A) When required by this Agreement to submit documents to OTS, the Holding Company shall submit them as follows: The original to: Robert C. Albanese, Regional Director Office of Thrift Supervision Harborside Financial Center Plaza Five Suite 1600 Jersey City, New Jersey 07311 A copy to: Martin J. Lavelle, Assistant Director Office of Thrift Supervision Harborside Financial Center Plaza Five Suite 1600 Jersey City, New Jersey 07311 (B) With respect to any plan, policy, or procedure that is timely filed and prepared with reasonable diligence by the Holding Company, but nevertheless requires modification to accommodate input by OTS occurring after the due date, no violation will be found to exist for so long as the Holding Company (1) makes diligent and good faith efforts to incorporate such modifications, and (2) complies with subsequent OTS direction concerning the due dates for 4 implementing such modifications; provided, however, that OTS will consider whether events outside the control of the Holding Company contributed to an inability to comply with a specific commitment made in such plans, policies or procedures in determining whether a violation exists. (C) During the term of this Agreement, any plans, policies, and procedures that have been submitted to OTS for its approval or non-objection, and have been approved or deemed to be not objectionable by OTS, shall not be amended or rescinded without the prior written approval of the Regional Director. VIII. Definitions. All technical words or terms used in this Agreement for which meanings are not specified or otherwise provided by the provisions of this Agreement shall, insofar as applicable, have meanings as defined in Chapter V of Title 12 of the Code of Federal Regulations, the Home Owners' Loan Act ("HOLA"), the Federal Deposit Insurance Act ("FDI Act"), the Federal Reserve Act ("FR Act"), and published OTS guidance (including the Examination Handbook and Memoranda). Any such technical words or terms used in this Agreement and undefined in said Code of Federal Regulations, HOLA, FDI Act, FR Act, or published OTS guidance shall have meanings that accord with the best custom and usage in the savings and loan/banking industry. IX. Successor Statutes, Regulations, Guidance, Amendments. Reference in this Agreement to provisions of federal and state statutes, regulations, and published OTS guidance shall be deemed to include references to all amendments to such provisions that have been made as of the Effective Date and references to successor provisions as they become applicable. X. Time Limits. Time limitations for compliance with the terms of this Agreement run from the Effective Date, unless otherwise noted. XI. Rules of Interpretation. (A) Nothing in this Agreement shall be construed as allowing the Holding Company to violate any law, rule, regulation, or policy statement to which it is subject. 5 (B) The paragraph headings herein are for convenience only and shall not affect the construction hereof. (C) In case any provision in this Agreement is ruled to be invalid, illegal, or unenforceable by the decision of any court of competent jurisdiction, the validity, legality, and enforceability of the remaining provisions hereof shall not in any way be affected or impaired thereby, unless OTS determines otherwise in the exercise of its discretion. XII. Integration Clause; Relationship to Other Regulatory Actions. This Agreement represents, as of the Effective Date, the final written agreement of the parties with respect to the subject matter hereof and constitutes the sole agreement of the parties, as of the Effective Date. XIII. Successors In Interest/Benefit. The terms and provisions of this Agreement shall be binding upon, and inure to the benefit of, the parties hereto and their successors in interest. Nothing in this Agreement, expressed or implied, shall give to any person or entity, other than the parties hereto, the Federal Deposit Insurance Corporation, and their successors hereunder, any benefit or any legal or equitable right, remedy, or claim under this Agreement. XIV. Enforceability of Agreement; Director Attestation. The Holding Company represents and warrants that this Agreement has been duly authorized, executed, and delivered, and constitutes, in accordance with its terms, a valid and binding agreement of the Holding Company. Each director signing this Agreement at Appendix A hereto attests, by such act, that she or he, as the case may be, voted in favor of the Board resolutions (copies submitted to the OTS) authorizing the execution of this Agreement by the Holding Company. XV. Effective Date; Duration; Termination or Suspension of Agreement. This Agreement shall be effective and enforceable as of the Effective Date, which appears on the first page of this Agreement. This Agreement shall remain in effect until terminated, modified, or suspended in writing by OTS, acting by and through its Regional Director or other authorized representatives. OTS may suspend any or all provisions of this Agreement by providing written notice of such action to the Holding Company. 6 XVI. No Bar or Estoppel. The provisions of this Agreement shall not bar, estop, or otherwise prevent OTS from taking any other action (including, without limitation, any type of supervisory, enforcement, or resolution action) affecting the Holding Company or any of its current or former institution-affiliated parties. XVII. Statutory Basis for Agreement. This Agreement is a "written agreement" for purposes of section 8 of the FDI Act, 12 U.S.C. Section 1818. XVIII. Counterparts. This Agreement may be executed in separate counterparts, each of which shall be an original and all of which, taken together, shall constitute one and the same instrument. [Remainder of this page intentionally left blank] 7 IN WITNESS WHEREOF, the parties hereby execute this Agreement. FIRST KEYSTONE FINANCIAL, INC. OFFICE OF THRIFT SUPERVISION By: /s/ Thomas M. Kelly By: /s/ Robert C. Albanese --------------------------------- ------------------------------------ Thomas M. Kelly Robert C. Albanese President & Chief Executive Regional Director, Northeast Region Officer Date: February 13, 2006 Date: The Effective Date shown on page 1 8 APPENDIX A TO SUPERVISORY AGREEMENT The undersigned individuals, each being a director of FIRST KEYSTONE FINANCIAL, INC., acknowledge that each, following his/her review and consideration of the foregoing Agreement, has voted in favor of the Board resolutions authorizing the Holding Company to execute the foregoing Agreement and to perform the responsibilities required by the Agreement. /s/ Edward Calderoni /s/ Jerry A. Naessens - ------------------------------------- ---------------------------------------- Edward Calderoni Jerry A. Naessens /s/ Donald S. Guthrie /s/ William J. O'Donnell - ------------------------------------- ---------------------------------------- Donald S. Guthrie William J. O'Donnell /s/ Edmund Jones /s/ Bruce C. Hendrixson - ------------------------------------- ---------------------------------------- Edmund Jones Bruce C. Hendrixson /s/ Thomas M. Kelly /s/ Donald G. Hosier, Jr. - ------------------------------------- ---------------------------------------- Thomas M. Kelly Donald G. Hosier, Jr. /s/ Marshall J. Soss - ------------------------------------- Marshall J. Soss 9 EX-99.3 7 w17573exv99w3.txt SUPERVISORY AGREEMENT BETWEEN FIRST KEYSTONE BANK AND THE OFFICE OF THRIFT SUPERVISION. Exhibit 99.3 SUPERVISORY AGREEMENT OTS Docket No.: 03346 This Supervisory Agreement ("Agreement") is made as of February 13, 2006 (the "Effective Date"), by and between FIRST KEYSTONE BANK (the "Bank," OTS Docket No. 03346), a federally chartered savings bank having its main office at 22 W. State Street, Media, Pennsylvania 19063-3311, and the OFFICE OF THRIFT SUPERVISION ("OTS"), a federal bank regulatory agency within the United States Department of the Treasury, acting through its Northeast Regional Director or his designee ("Regional Director") and maintaining its Northeast Regional Office at Harborside Financial Center Plaza Five, Suite 1600, Jersey City, New Jersey 07311. WHEREAS, OTS is the primary federal regulator of the Bank pursuant to the Home Owners' Loan Act ("HOLA"), 12 U.S.C. Sections 1461 et seq., and is the Bank's appropriate Federal banking agency for purposes of the Federal Deposit Insurance Act ("FDI Act"), 12 U.S.C. Sections 1811 et seq.;(1) and WHEREAS, based on the findings set out in the Report of Examination pertaining to OTS's regulatory examination of the Bank started on May 23, 2005 (the "2005 Report of Examination"), OTS is of the opinion that the Bank has violated regulations and engaged in acts and practices that are considered to be unsafe and unsound; and WHEREAS, OTS is of the opinion that grounds exist for the initiation of administrative proceedings against the Bank; and WHEREAS, OTS is of the view that it is appropriate to take measures intended to ensure that the Bank will comply with applicable laws and regulations and engage in safe and sound practices; and WHEREAS, the Bank, acting through its Board of Directors (the "Board"), without admitting or denying any unsafe and unsound practices or regulatory violations, wishes to cooperate with OTS and to evidence its commitment to operate prudently and to comply with all applicable laws and regulations. - ---------- (1) All references herein to the United States Code (U.S.C.) and the Code of Federal Regulations (C.F.R.) are as amended, unless otherwise indicated. NOW THEREFORE, in consideration of the above premises and the mutual undertakings set forth herein, the parties hereto agree as follows: I. Compliance with Laws and Regulations. The Bank shall comply fully with the following laws and regulations: (A) 12 C.F.R. Section 560.1(b) (concerning general lending standards); (B) 12 C.F.R. Section 560.101 (concerning real estate lending standards); (C) 12 C.F.R. Section 560.160 (concerning asset classification); (D) 12 C.F.R. Section 560.170 (concerning records for lending transactions); and (E) 12 C.F.R. Sections 562.2 and 563.180 (concerning the filing of accurate regulatory reports, including TFRs). II. Commercial Lending. (A) Policies. Within ninety (90) calendar days after the Effective Date hereof, the Board shall review and revise the Bank's Commercial Loan Policies so that they address the critical elements set forth in Section 214 of OTS's Examination Handbook and all weaknesses identified in the 2005 Report of Examination. The revised Commercial Loan Policies must be acceptable to OTS and must require, among other things: (1) That the Bank shall not directly or indirectly make, invest in, purchase, refinance, extend, or otherwise materially modify, or commit to make, invest in, purchase, refinance, extend, release collateral from, or otherwise materially modify any commercial loan, unless: (a) It first obtains current, signed financial statements for the borrower and each co-borrower, guarantor, and related entity; obtains current Dun & Bradstreet reports, when available, for each borrower, co-borrower, and guarantor to enable the Commercial Lending Department to determine how borrower trade lines have performed, particularly when considering whether or not to make an asset-based loan; uses reasonable efforts to confirm that all tax returns are copies of returns that have been signed and actually filed; and confirms that all questionable financial data has been documented; (b) It first prepares a documented analysis of the financial statements/credit reports obtained; 2 (c) It first documents the expected primary (and, if applicable, each secondary) source of repayment; (d) If the contemplated loan is to an existing borrower, it first prepares a narrative analysis of the borrower's overall credit relationship with the Bank. Such analysis must include a schedule of each outstanding loan and a discussion of the payment history concerning that loan; (e) It first documents whether or not the loan/overall lending relationship complies with all approved lending policies; (f) If the contemplated loan/overall lending relationship does not conform to approved lending policies, the transaction is approved by two officers and/or directors other than an individual preparing a required analysis or the Bank's Loan Committee; (g) If the loan is to be made to a financially weak borrower, or a borrower with a less than satisfactory credit history, the credit terms reflect the credit risk and the loan is appropriately rated; and (2) The reporting of commercial borrowers and guarantors to a credit-reporting bureau. Notwithstanding anything to the contrary in Section II(A), with respect to loans in existence on the Effective Date, the Bank may provide a borrower with a reasonable period of time from the due date of a commercial loan (not to exceed 90 days) to provide the required documentation; provided, further, if at the time of renewal of an existing commercial loan the Bank improves the credit quality of a loan through receipt of new guarantees or new collateral and fully documents and supports the improved credit quality and collectability of the loan, the Bank may extend or refinance a loan, provided that no additional funds are disbursed. Immediately following the Board's adoption of revised Commercial Loan Policies, the Bank shall submit copies to OTS for its non-objection. If OTS provides written notice that the revised Commercial Loan Policies are not acceptable, the Bank shall promptly make such changes as are necessary to address OTS objections. 3 (B) Department Performance Evaluation The Board shall formally evaluate the performance of the Commercial Loan Department no less frequently than semiannually, which shall include a review of the performance of officers operating within the Commercial Loan Department. The first such report shall be completed and submitted to the OTS by July 15, 2006 covering the six-month period ending June 30, 2006 and subsequent reports shall be submitted no later than January 15 (covering each six-month period ending December 31) and July 15 (covering each six-month period ending June 30). Such reports shall be documented in the Board minutes and describe both the evaluation process and the conclusions resulting therefrom. III. Internal Loan Review Program. (A) For the quarter ending March 31, 2006, and not less frequently than quarterly thereafter, the Bank must perform an internal loan review to determine compliance with Board-approved lending policies, underwriting standards, and loan administration requirements. (B) The Bank's Internal Audit Manager shall supervise the internal loan reviews. The internal loan reviews may be conducted by a qualified service provider or by qualified Bank staff, who must be independent of the Bank's lending function. (C) The quarterly loan reviews must be based on: (i) a sample review of new loans made during the previous quarter, (ii) all loans and lending relationships exceeding $750,000, except for loans that are secured by single family, owner-occupied real estate, and (iii) a sample of loans from the Bank's existing loan portfolio. (D) As part of its Internal Loan Review Program, the Bank shall develop, adopt, and implement a risk rating system for all high risk loans. Risk ratings should reflect, among other things, quarterly classified assets shown on the Bank's Thrift Financial Report ("TFR"), and must be updated at least quarterly to reflect any change in risk. (E) On a quarterly basis, the Bank's Internal Audit Manager must provide the Board with, and the Board must review and evaluate, a written report documenting the findings and recommendations relating to the internal loan reviews. The written report about the internal loan 4 reviews must conform to the standards set out in OTS's "Director's Guide to Management Reports,"(2) and at a minimum, such report must provide information about: (1) Each loan that represents an exception to applicable Bank loan policies and procedures (including each loan that was not properly approved) and the nature of the exception; (2) Each high risk loan for which the risk rating has changed since the last written report because of an increase in risk; (3) Each loan file lacking complete documentation (as required by the Bank's lending policies, underwriting standards, loan-servicing procedures, or other applicable guidance) and the nature of the exception; and (4) The current status of action taken to obtain missing or required loan documentation. IV. Asset Classification. Within sixty (60) days after the Effective Date hereof, the Board shall adopt, and the Bank shall implement, a revised formal written program to identify and classify problem assets that satisfies the requirements of: (A) 12 C.F.R. Section 560.160; (B) section II.G. of the Part 570 Safety and Soundness Standards; and (C) the Interagency Policy Statement on the Allowance for Loan and Lease Losses Methodologies and Documentation for Banks and Savings Institutions, dated July 2, 2001 (66 Fed. Reg. 35629, published on July 6, 2001).(3) Among other things, the program must: (A) be supervised by the Bank's Chief Financial Officer or another designated management official who: (1) has no independent loan origination or approval authority, (2) is independent of the appraisal preparation process, and (3) reports directly to the Board or the Audit Committee thereof concerning the program; (B) effectively identify risk in the various types of loans the Bank holds; - ---------- (2) The "Director's Guide" is currently available on the OTS' web site at http://www.ots.treas.gov/docs/4/48091.pdf. (3) The OTS distributed copies of the Interagency Policy Statement to savings institutions under cover of OTS CEO Memorandum 142, and a copy is currently available on the OTS' web site at http://www.ots.treas.gov/docs/2/25142.pdf. 5 (C) ensure the proper identification of assets as "loss," "doubtful," "substandard," or "special mention" (collectively referred to as "Criticized Assets") and the accurate reporting of each such asset to the Board at least quarterly, to coincide with the preparation of the Bank's TFR. Loan classifications shall be based on an assessment of all pertinent factors affecting the likelihood that the loan will be repaid according to its terms, including, without limitation, deficiencies uncovered in the Internal Loan Review process required by Section IV above; (D) provide for the maintenance of an adequate allowance for loan and lease losses ("ALLL") to reflect credit risk in the Bank's loan and lease portfolio; (E) ensure the prompt charge-off of loans, or portions of loans, that available information indicates are uncollectible, or when applicable regulations or guidance require that action; (F) require the timely and accurate reporting of Criticized Assets, ALLL, and charge-offs in the Bank's TFRs. V. Capital Level Requirements. The Bank shall not permit its Tier 1 (Core) Capital Ratio to fall below 7.50 percent, and it shall not permit its Total Risk-Based Capital ratio to fall below 12.50 percent. VI. Accuracy of Thrift Financial Reports. (A) No later than thirty (30) days after the Effective Date, the Bank shall provide a written report to OTS identifying the steps the Bank has taken and will take to: (1) ensure and confirm that all commercial loans are correctly coded, properly identified, promptly and accurately entered in the Bank's loan software system(s), and accurately reported in the Bank's TFRs; (2) ensure that all criticized and adversely classified loans are properly identified and accurately reported in the Bank's TFRs; (3) ensure the accuracy of the Bank's TFRs in all respects; and (4) avoid a recurrence of the types of financial reporting errors detailed in the 2005 Report of Examination. (B) Within one hundred twenty (120) days after the Effective Date, the Internal Audit Manager shall (1) perform a complete review of the Bank's information and data-gathering system used in preparing the Bank's TFRs, and (2) shall provide a written report to the Board stating and discussing the results of that review. (C) The Bank's internal audit scope shall include a review of the accuracy of its TFR reporting. 6 VII. Restriction on Asset Growth. Unless otherwise previously permitted in writing by OTS's Regional Director, the Bank shall limit its asset growth in any quarter to an amount not to exceed the greater of (i) net interest credited on deposit liabilities during the quarter or (ii) three percent of total assets (annualized), consistent with the October 28, 2005 submission by the Bank to the OTS. See OTS Regulatory Bulletin 3b. VIII. Board and Management Changes. The Bank is subject to the requirements and limitations set out in Subpart H of Part 563 of OTS regulations (12 C.F.R. Sections 563.550 - .590). Without limitation on such requirements and limitations, this means, among other things, that, except as otherwise permitted by 12 C.F.R. Section 563.590, no person shall be appointed to the position of or be hired as a member of the Board or as a senior executive officer of the Bank unless -- (A) the Bank (or the individual, if appropriate) has previously filed with the OTS an appropriate and complete notice pursuant to 12 C.F.R. Part 563, Subpart H; and (B) the person's commencement of service on behalf of the Bank is permissible under 12 C.F.R. Section 563.585 and 12 U.S.C. Section 1831i. IX. Compensation and Benefit Arrangements. The Bank shall not enter into, renew, extend, or revise any arrangement related to compensation or benefits of any director or senior executive officer of the Bank unless the Bank first -- (A) provides a minimum of 30 days' advance written notice of the proposed transaction to OTS and (B) receives a written notice of non-objection from OTS. This Section X is intended to implement the OTS policies set out in OTS Regulatory Bulletin 27b and OTS Examination Handbook Section 310 at page 310.7 ("Prior Approval of Employment Contracts"). Notwithstanding the foregoing, the Bank may amend any compensation or benefit arrangement which is subject to the recently enacted Section 409A of the Internal Revenue Code of 1986, as amended, by December 31, 2006 without the prior approval of the OTS, provided such amendment is solely to achieve compliance with Section 409A and will not result in an increase in the benefits due the individual(s) subject to such compensation arrangement. A copy of any such amendment adopted by the Bank will be provided to the OTS. 7 X. Severance and Indemnification Payments and Agreements to Make Such Payments. The restrictions in 12 C.F.R. Part 359 are applicable to the Bank. Such restrictions concern the making of agreements (including employment agreements) with severance provisions, "golden parachute payments," and "prohibited indemnification payments." Without limitation on the generality of the foregoing, this means, inter alia, that the Bank shall not make or agree to make any "golden parachute payment," as that term is defined in 12 U.S.C. Section 1828(k) and 12 C.F.R. Part 359, except as may be permitted by the preceding statutory and regulatory provisions. XI. Compliance With Agreement. (A) The Board and officers of the Bank shall take immediate action to cause the Bank to comply with the terms of this Agreement and thereafter shall take all actions necessary or appropriate to cause the Bank to continue to carry out the provisions of this Agreement. (B) Within 15 days after the Effective Date, the Board shall appoint a committee (the "Compliance Committee") comprised of 3 or more directors, the majority of whom shall be outside directors, to monitor and coordinate the Bank's compliance with the provisions of this Agreement. For purposes of this subsection (B), "outside directors" shall mean members of the Board who are not officers, employees, or principal stockholders of the Bank, its subsidiaries, or its affiliates, and who do not have any material business dealings with the Bank, its subsidiaries, or its affiliates. (C) Within 30 days after the end of each calendar quarter following the date of this Agreement (March 31, June 30, September 30, and December 31), the Compliance Committee shall submit a written progress report to the Board detailing the actions taken to comply with each provision of this Agreement and the results of those actions. (D) Within 15 days after its receipt from the Compliance Committee, the Board shall forward a copy of the quarterly progress report described in this subsection, with any additional comments made by the Board, to the Regional Director and shall certify in writing that each director has reviewed the report. 8 XII. Submission of Documents to OTS/Compliance with Plans, Policies, and Procedures. (A) When required by this Agreement to submit documents to OTS, the Bank shall submit them as follows: The original to: A copy to: Robert C. Albanese, Regional Director Martin J. Lavelle, Assistant Director Office of Thrift Supervision Office of Thrift Supervision Harborside Financial Center Plaza Five Harborside Financial Center Plaza Five Suite 1600 Suite 1600 Jersey City, New Jersey 07311 Jersey City, New Jersey 07311
(B) With respect to any plan, policy, or procedure that is timely filed and prepared with reasonable diligence by the Bank, but nevertheless requires modification to accommodate input by OTS occurring after the due date, no violation will be found to exist for so long as the Bank (1) makes diligent and good faith efforts to incorporate such modifications, and (2) complies with subsequent OTS direction concerning the due dates for implementing such modifications, provided, however, that OTS will consider whether events outside the control of the Bank contributed to an inability to comply with a specific commitment made in such plans, policies or procedures in determining whether a violation exists. (C) During the term of this Agreement, any plans, policies, and procedures that have been submitted to OTS for its approval or non-objection, and have been approved or deemed to be not objectionable by OTS, shall not be amended or rescinded without the prior written approval of the Regional Director. XIII. Definitions. All technical words or terms used in this Agreement for which meanings are not specified or otherwise provided by the provisions of this Agreement shall, insofar as applicable, have meanings as defined in Chapter V of Title 12 of the Code of Federal Regulations, the Home Owners' Loan Act ("HOLA"), the Federal Deposit Insurance Act ("FDI Act"), the Federal Reserve Act ("FR Act"), and published OTS guidance (including the Examination Handbook and Memoranda). Any such technical words or terms used in this Agreement and undefined in said Code of Federal Regulations, HOLA, FDI Act, FR Act, or published OTS guidance shall 9 have meanings that accord with the best custom and usage in the savings and loan/banking industry. XIV. Successor Statutes, Regulations, Guidance, Amendments. Reference in this Agreement to provisions of federal and state statutes, regulations, and published OTS guidance shall be deemed to include references to all amendments to such provisions that have been made as of the Effective Date and references to successor provisions as they become applicable. XV. Time Limits. Time limitations for compliance with the terms of this Agreement run from the Effective Date, unless otherwise noted. XVI. Rules of Interpretation. (A) Nothing in this Agreement shall be construed as allowing the Bank to violate any law, rule, regulation, or policy statement to which it is subject. (B) The paragraph headings herein are for convenience only and shall not affect the construction hereof. (C) In case any provision in this Agreement is ruled to be invalid, illegal, or unenforceable by the decision of any court of competent jurisdiction, the validity, legality, and enforceability of the remaining provisions hereof shall not in any way be affected or impaired thereby, unless OTS determines otherwise in the exercise of its discretion. XVII. Integration Clause; Relationship to Other Regulatory Actions. This Agreement represents, as of the Effective Date, the final written agreement of the parties with respect to the subject matter hereof and constitutes the sole agreement of the parties, as of the Effective Date. XVIII. Successors In Interest/Benefit. The terms and provisions of this Agreement shall be binding upon, and inure to the benefit of, the parties hereto and their successors in interest. Nothing in this Agreement, expressed or implied, shall give to any person or entity, other than the parties hereto, the Federal Deposit Insurance Corporation, and their successors hereunder, any benefit or any legal or equitable right, remedy, or claim under this Agreement. 10 XIX. Enforceability of Agreement; Director Attestation. The Bank represents and warrants that this Agreement has been duly authorized, executed, and delivered, and constitutes, in accordance with its terms, a valid and binding agreement of the Bank. Each director signing this Agreement at Appendix A hereto attests, by such act, that she or he, as the case may be, voted in favor of the Board resolutions (copies submitted to the OTS) authorizing the execution of this Agreement by the Bank. XX. Effective Date; Duration; Termination or Suspension of Agreement. This Agreement shall be effective and enforceable as of the Effective Date, which appears on the first page of this Agreement. This Agreement shall remain in effect until terminated, modified, or suspended in writing by OTS, acting by and through its Regional Director or other authorized representatives. OTS may suspend any or all provisions of this Agreement by providing written notice of such action to the Bank. XXI. No Bar or Estoppel. The provisions of this Agreement shall not bar, estop, or otherwise prevent OTS from taking any other action (including, without limitation, any type of supervisory, enforcement, or resolution action) affecting the Bank or any of its current or former institution-affiliated parties. XXII. Statutory Basis for Agreement. This Agreement is a "written agreement" for purposes of section 8 of the FDI Act, 12 U.S.C. Section 1818. XXIII. Counterparts. This Agreement may be executed in separate counterparts, each of which shall be an original and all of which, taken together, shall constitute one and the same instrument. [Remainder of this page intentionally left blank] 11 IN WITNESS WHEREOF, the parties hereby execute this Agreement. FIRST KEYSTONE BANK OFFICE OF THRIFT SUPERVISION By: /s/ THOMAS M. KELLY By: /s/ ROBERT C. ALBANESE --------------------------------- ------------------------------------ Thomas M. Kelly Robert C. Albanese President & Chief Regional Director, Northeast Region Executive Officer Date: February 13, 2006 Date: The Effective Date shown on page 1 12 APPENDIX A TO SUPERVISORY AGREEMENT The undersigned individuals, each being a director of FIRST KEYSTONE BANK, acknowledge that each, following his/her review and consideration of the foregoing Agreement, has voted in favor of the Board resolutions authorizing the Bank to execute the foregoing Agreement and to perform the responsibilities required by the Agreement. /s/ Edward Calderoni /s/ Jerry A. Naessens - ------------------------------------- ---------------------------------------- Edward Calderoni Jerry A. Naessens /s/ Donald S. Guthrie /s/ William J. O'Donnell - ------------------------------------- ---------------------------------------- Donald S. Guthrie William J. O'Donnell /s/ Edmund Jones /s/ Donald A. Purdy - ------------------------------------- ---------------------------------------- Edmund Jones Donald A. Purdy /s/ Thomas M. Kelly /s/ Joan G. Taylor - ------------------------------------- ---------------------------------------- Thomas M. Kelly Joan G. Taylor 13 -----END PRIVACY-ENHANCED MESSAGE-----