BORD Boardwalk Bancorp (MM)

 

 

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

Form 10-Q

þ		QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended: September 30, 2007

o		TRANSACTION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

609-601-0600

N/A

     Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes þ No o

     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 o Accelerated filer o Non-accelerated filer þ

     Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No þ

     Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date: 4,300,975 shares as of November 9, 2007.

 

 

PART I

The accompanying notes are an integral part of the financial statements

The accompanying notes are an integral part of the financial statements

NOTES TO FINANCIAL STATEMENTS (Unaudited)

Use of Estimates

     In preparing the financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from such estimates. Material estimates that are particularly susceptible to significant change in the near term include the determination of the allowance for loan losses.

Investment Securities

     Debt and equity securities are classified as either held to maturity (“HTM”), available for sale (“AFS”) or at fair market value (“Trading”). Investment securities that we have the positive intent and ability to hold to maturity are classified as HTM securities and reported at amortized cost. Investment securities not classified as HTM nor held for the purpose of trading in the near term are classified as AFS securities and reported at fair value, with unrealized gains and losses excluded from earnings and reported as accumulated other comprehensive income/(loss), a separate component of stockholders’ equity, net of tax. Investments accounted for at fair market value (“Trading”) are reported at fair value with unrealized gains and losses reported in earnings. We currently do not engage in any trading activities. Management determines the appropriate classification of securities at the time of purchase. In addition, management reviews the existing portfolio classifications for appropriateness.

     AFS securities include securities that management intends to use as part of its asset/liability management strategy and that may be sold in response to changes in market interest rates and related changes in the securities’ prepayment or credit risk or to meet liquidity needs.

     Amortization of premiums and accretion of discounts on debt securities are recognized in interest income using a constant yield method. Gains and losses on sales of investment securities are computed as of the settlement date on the specific identification basis and included in non-interest income. The unrealized gain or loss at the time a security is transferred from available for sale to held to maturity is amortized over the remaining life of that security.

     We recently undertook a balance sheet restructuring program designed to reduce interest rate risk and improve net interest margin. We initially intended to elect early adoption of Statement of Financial Accounting Standards No. 159, “The Fair Value Option for Financial Assets and Liabilities” (“SFAS 159”) and account for the restructuring under the transition provisions of SFAS 159.  Subsequent to the Company’s original decision to early adopt SFAS 159, clarifications of the interpretation of the application of that Statement by applicable regulatory and industry bodies, including the AICPA’s Center for Audit Quality, led us to conclude that the application of SFAS 159 to our transactions might be inconsistent with the intent and spirit of the statement.  Consequently, we decided not to early-adopt SFAS 159.  Based on our current understanding of the views of applicable regulatory agencies and bodies, we have reported the investment securities in our restructuring program that were designated for sale at March 31, 2007 and subsequently sold in April 2007 as being other-than-temporarily impaired at March 31, 2007.  Accordingly, we have recognized a charge to earnings for other than temporary impairment of $1,524,000 for the three-month period ended March 31, 2007, to reflect the difference between book carrying value and market value. Changes in market values of the investment securities sold in our restructuring program between March 31, 2007 and the actual sale date in April 2007 resulted in net gains on sale of $95,035.  

Accounts Receivable

     Accounts Receivable includes a program called Business Manager/Med Cash. Business Manager/Med Cash is a program that enables us to purchase at a discount and manage the accounts receivable of credit-worthy merchants with required repurchase of delinquent accounts by the merchant and with the merchant’s repurchase obligation supported by a cash collateral account. The purchase of the merchant’s accounts receivable is recognized as accounts receivable in our financial statements.

Other Assets

     Other Assets include prepaid accounts and deferred tax asset accounts.

Borrowings

     Borrowings are reverse repurchase agreements with brokers or reverse repurchase agreements and advances with the Federal Home Loan Bank of New York (“FHLBNY”).

Loans

     Loans are stated at the principal amount outstanding, net of deferred loan fees and costs. Interest income is accrued on the principal amount outstanding using the interest method. Loan origination fees and related direct costs are deferred and amortized to income over the term of the respective loan and loan commitment period as a yield adjustment.

     Non-accrual loans are those on which the accrual of interest has ceased. Non-consumer loans are generally placed on non-accrual status if, in the opinion of management, collection is doubtful, or when principal or interest is past due 90 days or more and collateral is insufficient to cover principal and interest. Interest accrued, but not collected at the date a loan is placed on non-accrual status, is reversed and charged against interest income. Subsequent cash receipts are applied either to the outstanding principal or recorded as interest income, depending on management’s assessment of ultimate collectibility of principal and interest. Loans are returned to an accrual status when the borrower’s ability to make periodic principal and interest payments has returned to normal (i.e. brought current with respect to principal or interest or restructured) and the paying capacity of the borrower and/or the underlying collateral is deemed sufficient to cover principal and interest. Consumer loans are not automatically placed on non-accrual status when principal or interest payments are 90 days past due, but in most instances, are charged-off when deemed uncollectible or after reaching 120 days past due.

     Impaired loans are measured based on the present value of expected future discounted cash flows, the market price of the loan or the fair value of the underlying collateral if the loan is collateral dependent. The recognition of interest income on impaired loans is the same as for non-accrual loans discussed above. We had no impaired loans at September 30, 2007 or December 31, 2006.

Allowance for Loan Losses

     The provision for loan losses charged to operating expense reflects the amount deemed appropriate by management to provide for known and inherent losses of the existing loan portfolio. Management’s judgment is based on the evaluation of individual loans, past experience, the assessment of current economic conditions, and other relevant factors. Based on all of these factors, loans are grouped by relative risk and risk factors assigned to each category. Appropriate reserves are determined for each category based on the risk factors established for that category. Loans or borrowers exhibiting credit deterioration are excluded from these calculations and are assigned specific reserves based on their risk classification.

     All commercial borrowers, consumer loans and residential mortgage loans are periodically reviewed for any evidence of credit quality deterioration. Such factors as delinquencies, late payment history, company earnings performance and cash flow, downturns in a particular industry and specific changes in the local business environment that may affect a particular business are all considered in identifying weakening credit situations. Results of each assessment are assigned a risk rating, reported in terms of a classification (Superior, Pass, Management Attention, Special Mention, Substandard, Doubtful and Loss). Associated with each classification is a defined set of characteristics that are reflective of the particular level of risk. These defined characteristics provide a common bank-wide basis for quantifying risk so that each loan receives equal assessment.

     A third party loan review is conducted annually on all loans over $500,000.

     Loan losses are charged directly against the allowance for loan losses and recoveries on previously charged-off loans are added to the allowance.

     Management relies significantly on estimates to determine the allowance for loan losses. Consideration is given to a variety of factors in establishing these estimates including current economic conditions, diversification of the loan portfolio, delinquency statistics, borrowers’ perceived financial and managerial strengths, the adequacy of underlying collateral, if collateral dependent, or present value of future cash flows, and other relevant factors. Since the allowance for loan losses is dependent, to a great extent, on conditions that may be beyond our control, it is at least reasonably possible that management’s estimates of the allowance for loan losses and actual results could differ in the near term.

     In addition, regulatory authorities, as an integral part of their examinations, periodically review the allowance for loan losses. They may require additions to the allowance based upon their judgments about information available to them at the time of examination.

Premises and Equipment

     Premises and equipment are stated at cost, less accumulated depreciation and amortization. Depreciation and amortization are calculated on a straight-line basis over the estimated useful lives of the assets as follows: buildings — 39 years; equipment and

computer hardware — 3 to 10 years; and software — 3 years. Expenditures for maintenance and repairs are charged to operations as incurred. Gains or losses upon disposition are reflected in earnings as realized. Land is carried at cost.

Other Real Estate Owned

     Other real estate owned is comprised of properties acquired through foreclosure proceedings or acceptance of a deed in lieu of foreclosure. Other real estate owned is recorded at the lower of the carrying value of the loan or the fair value of the property, net of estimated selling costs. Costs relating to the development or improvement of the properties are capitalized while expenses related to the operation and maintenance of properties are expensed as incurred. Gains and losses upon disposition are reflected in earnings as realized.

Income Taxes

     Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases, as well as operating loss carry forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. A valuation allowance is established against deferred tax assets when, in the judgment of management, it is more likely than not that such deferred tax assets will not become realizable.

Earnings Per Share

     Basic earnings per share is calculated on the basis of the weighted average number of shares outstanding. Diluted earnings per share is calculated on the basis of the weighted average number of shares outstanding plus the weighted average number of additional dilutive shares.

Stock Options

     Prior to the formation of Bancorp, the Bank maintained two stock option compensation plans, a non-qualified plan for the original members of the board of directors of the Bank and a qualified plan for the employees of the Bank. Prior to January 1, 2006, we accounted for these plans under the recognition and measurement principles of APB Opinion No. 25, Accounting for Stock Issued to Employees, and related interpretations. No stock-based employee compensation cost was reflected in net income, as all options granted under those plans had an exercise price equal to the market value of the underlying common stock on the date of the grant. The plans were assumed by Bancorp upon its formation. Options to purchase Bank common stock were converted to options to purchase Bancorp common stock.

     We sold 1,165,000 warrants to purchase our common stock during 2003. At June 30, 2006 these warrants were dilutive and expired on December 31, 2006.

     In December 2004, the Bank paid a 5% stock dividend that resulted in adjustments to the outstanding options. Each option is now convertible to 1.05 shares of Bancorp common stock.

     The fair value of each option granted in 2004 using the Black Scholes option pricing model was $4.93. Significant assumptions used in the model included a risk-free rate of return of 3.9667%, expected option life of ten years, a 20.515% volatility rate, and annual dividend of $.10. For the options granted in 2002 using the Black Scholes option pricing model the fair value of each option was $3.60. Significant assumptions used in the model included a risk-free rate of return of 3.817%, expected option life of ten years, a 24% volatility rate, and annual dividend of $.075. The fair value of each option granted in 2000 using the Black Scholes option pricing model was $3.12. Significant assumptions used in the model included a risk-free rate of return of 4.891%, a .01% volatility rate, expected option life of ten years and no dividends.

     We adopted FASB 123R for financial statements beginning January 1, 2006. FASB 123R requires that expenses attributed to vesting options be accrued throughout the vesting period.

     At the Bank’s annual meeting on April 27, 2006, in connection with the formation of the holding company, shareholders of the Bank approved the Boardwalk Bancorp, Inc. 2006 Stock Incentive Plan (the “2006 Plan”). The 2006 Plan authorizes the issuance of 433,155 shares of common stock, subject to certain annual increases, in the form of equity awards to employees and non-employee directors of Bancorp and its subsidiaries. On January 22, 2007, Bancorp granted 400,000 options with a vesting term of nine and a half years and an expiration date of January 19, 2017. Vesting of the options accelerates in the event of a change of control of Bancorp. The

The following table presents compensation expense and the related tax impacts for equity awards recognized in the consolidated income statements.

NOTE 4 — REGULATORY RESTRICTIONS

     We are subject to various regulatory capital requirements of federal and state banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on our financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, we must meet specific capital guidelines that involve quantitative measures of assets, liabilities, and certain off-balance sheet items as calculated under accounting practices. Capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors.

     We must maintain certain minimum capital amounts and ratios to be considered adequately capitalized as set forth in the table below. Management believes that we meet, as of September 30, 2007, all capital adequacy requirements to which we are subject. Management believes that we are well capitalized at September 30, 2007 under the regulatory framework for prompt corrective action provisions of Section 3b of the Federal Deposit Insurance Act.

										Per Regulatory Guidelines
		Actual								Minimum								“Well Capitalized”
		Amount				Ratio				Amount				Ratio				Amount				Ratio
September 30, 2007
Risk based capital ratios:
Tier I		$	41,378				10.58	%		$	15,644				4.00	%		$	23,466				6.00	%
Total capital		$	45,070				11.53	%		$	31,271				8.00	%		$	39,089				10.00	%
Leverage ratio		$	41,378				9.16	%		$	18,069				4.00	%		$	22,586				5.00	%
December 31, 2006
Risk based capital ratios:
Tier I		$	39,921				10.96	%		$	14,570				4.00	%		$	21,855				6.00	%
Total capital		$	43,194				11.86	%		$	29,136				8.00	%		$	36,420				10.00	%
Leverage ratio		$	39,921				8.86	%		$	18,023				4.00	%		$	22,529				5.00	%

     Dividend payments by the Bank to Bancorp are subject to certain regulatory restrictions which are discussed below in “Dividend Policy.”

Item 2 – Management’s Discussion and Analysis of Financial Condition and Results of Operations

Overview

     In addition to historical information, this management discussion and analysis contains forward-looking statements. Forward-looking statements are subject to certain risks and uncertainties that could cause actual results to differ materially from those projected. We caution readers not to place undue reliance on these forward-looking statements, which reflect management’s analysis only as of this date. We are not obligated to publicly revise or update these forward-looking statements to reflect events or circumstances that arise after this date. Readers should carefully review the risk factors described in other documents we file from time to time with the SEC, including annual reports on Form 10-K, quarterly reports on Form 10-Q, and any current reports on Form 8-K.

General

     Boardwalk Bancorp, Inc. is a New Jersey business corporation and was organized as a bank holding company effective July 1, 2006. Its subsidiary, Boardwalk Bank, is a New Jersey state chartered commercial bank headquartered in Linwood, Atlantic County, New Jersey, in the southern Atlantic shore region of the state. We conduct business from our main office in Linwood and branch offices in Galloway Township, Margate City, Egg Harbor Township, Cape May Court House, and Cape May City, New Jersey and lending offices in Linwood and Vineland, New Jersey and, on a limited basis, on the Internet. Our second branch in Egg Harbor Township, New Jersey opened October 30, 2006. At September 30, 2007, we had total assets of $445,343,000, total deposits of $311,249,000 and shareholders’ equity of $49,885,000.

     We are a member of the FHLBNY, and our deposits are insured up to the applicable limits by the FDIC. The address of our principal executive office is 201 Shore Road, Linwood, New Jersey 08221, and our telephone number is (609) 601-0600. Our website is www.boardwalkbank.com.

     Our revenues are derived principally from interest on our loan and security portfolios. Our primary sources of funds are deposits, capital, repayments, prepayments and maturities of loans, repayments, prepayments and maturities of mortgage-backed and investment securities, and borrowed funds. We face significant competition from other financial institutions, many of which are larger organizations with more resources and locations.

     Our results of operations are dependent primarily on net interest income, which is the difference between the interest income earned on our interest-earning assets, such as loans and securities, and the interest expense paid on our interest-bearing liabilities, such as deposits and borrowed money. We also generate non-interest income such as service charges, income from bank owned life insurance, income from Business Manager/Med Cash and other fees. Our non-interest expenses primarily consist of employee compensation and benefits, occupancy expenses, marketing, data processing costs and other operating expenses. We are subject to losses from our loan portfolio if borrowers fail to meet their obligations. Our results of operations are also significantly affected by general economic and competitive conditions, particularly changes in market interest rates, government policies and actions of regulatory agencies.

Pending Merger

     Given the increasingly competitive nature of the banking industry as a whole, our Board of Directors believes the merger with Cape Bancorp is in the best interests of our customers, employees and shareholders. We believe that the Boardwalk Bank approach to community banking can be greatly enhanced by partnering with another outstanding community bank which has a long history of providing quality financial products and services to the communities and markets it serves. This transaction combines two well-respected community banking organizations creating a combined franchise with over $1 billion in total assets.

     The following discussion focuses on the major components of our operations and our intention to conduct business in the usual, regular and ordinary course during the interim period between the execution of the Merger Agreement and completion of the Merger. This discussion section should be read in conjunction with the Financial Statements and accompanying notes. Current performance may not be indicative of future performance.

Management Strategy

     We established Boardwalk Bank based on the belief that there was and continues to be excellent potential for a locally owned and managed commercial bank in our market area. As a result of increased bank consolidations and mergers in recent years in New Jersey, many local banks have been acquired by larger and out-of-state institutions. For example, some of the largest commercial banks in New Jersey in terms of deposit market share have their headquarters in other states. We believe that this consolidation and merger activity has made it more difficult for small and mid-sized businesses to obtain prompt service and access to decision-makers in many financial institutions. We address this need by offering quality, personalized, and friendly service traditionally associated with local community banks.

     Our business objective is to be recognized as a reliable and responsive provider of high quality banking services to retail customers, small and mid-sized businesses and professional practices, such as medical doctors and lawyers, located in our target market area of Atlantic, Cape May and Cumberland counties, New Jersey. We actively pursue business relationships with our targeted clientele through diligent calling efforts and by capitalizing on our extensive knowledge of our market’s communities and the businesses serving these communities. The members of our Board of Directors and our loan officers have widespread business experience and contacts in our marketplace and are an important source of new business opportunities. This combined in-depth knowledge of our lending markets has contributed to our superior loan portfolio credit quality since the inception of the Bank. We also offer customized products to meet the needs of our customers, such as loans with variable payment features to account for the seasonal

nature of certain of our customers’ businesses and courier service for deposit pickup. Our goal is to establish deposit and lending relationships that are based on service, will result in long-standing relationships and will lead to referrals from our satisfied customers.

          Retail customer relationships are also important. We actively pursue retail deposit relationships by designing our deposit products to meet our retail customers’ needs and price these products to be amongst the most competitive in our markets.

          An important element of our strategy is to hire bankers who have prior experience as well as pre-existing business relationships in our markets. Our team of lenders and branch personnel has prior experience at community banks and regional banks in our market. It is a fundamental belief of management that having knowledge of our local markets is a critical element in making sound credit decisions. This extensive knowledge of our local markets has allowed us to develop and implement a highly focused and disciplined approach to lending to the vacation-related and other businesses in our market area. We face a substantial challenge as we continue to expand our commercial lending portfolio to find additional lending personnel with experience in our market area. Management believes that the Bank is currently adequately staffed but also believes that the Atlantic, Cape May and Cumberland counties labor pool for experienced commercial lenders is limited. For this reason, we have developed an in-house lender training program.

          We believe that our approach to building our customer base and our emphasis on service, when combined with the application of sound banking principles, will create value for our shareholders.

Critical Accounting Matters

          The discussion and analysis of the financial condition and results of operations are based on the Consolidated Financial Statements, which are prepared in conformity with U.S. generally accepted accounting principles. The preparation of these financial statements requires management to make estimates and assumptions affecting the reported amounts of assets, liabilities, revenue and expenses. Management evaluates the estimates and assumptions on an ongoing basis, including those related to the allowance for loan losses and deferred taxes. Management bases its estimates on historical experience and various other factors and assumptions that are believed to be reasonable under the circumstances. These form the basis for making judgments on the carrying value of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.

          The following is the critical accounting policy that involves more significant judgment and estimates:

Allowance for Loan Losses

          The provision for loan losses charged to operating expense reflects the amount deemed appropriate by management to provide for known and inherent losses in the existing loan portfolio. Loan losses are charged directly against the allowance for loan losses and recoveries on previously charged-off loans are added to the allowance.

          Management relies significantly on estimates to determine the allowance for loan losses. Consideration is given to a variety of factors in establishing these estimates including current economic conditions, diversification of the loan portfolio, delinquency statistics, borrowers’ perceived financial and managerial strengths, the adequacy of underlying collateral, if collateral dependent, or present value of future cash flows, and other relevant factors. Since the allowance for loan losses is dependent, to a great extent, on conditions that may be beyond our control, it is at least reasonably possible that management’s estimates of the allowance for loan losses and actual results could differ in the near term.

          In addition, regulatory authorities, as an integral part of their examinations, periodically review the allowance for loan losses. They may require additions to the allowance based upon their judgments about information available to them at the time of examination.

Income Taxes

     Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases, as well as operating loss carry forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. A valuation allowance is established against deferred tax assets when, in the judgment of management, it is more likely than not that such deferred tax assets will not become realizable.

Results of Operations

          We reported a decrease of $237,000 or 30.0% in net income to $553,000 or $0.13 per diluted share for the three months ended September 30, 2007 from $790,000 or $0.22 per diluted share for the three months ended September 30, 2006.   

     Net income for the three months ended September 30, 2007 benefited from growth in loans and a resultant growth in interest income that was offset by approximately $273,000, net of taxes, of expenses associated with the merger with Cape Savings Bank. Interest income improved by $570,000 or 8.4% to $7,375,000 for the three months ended September 30, 2007 from $6,805,000 in the same quarter of 2006. The increase in interest income included a 13.3% increase in interest on loans to $5,627,000 for the three months ended September 30, 2007 from $4,966,000 for the three months ended September 30, 2006. Continuing deposit competition and growth in interest bearing deposits contributed to an increase in deposit interest expense. The cost of interest bearing deposits increased from 3.93% for the three month period ended September 30, 2006 to 4.29% for the three month period ended September 30, 2007. Deposit interest expense increased by $312,000 to $3,197,000 for the third quarter of 2007 from $2,885,000 during the third quarter of 2006. Despite the increase in deposit interest expense we experienced improved net interest margin as a result of our first quarter asset restructuring that enabled us to reduce rates on certificates of deposit and fund associated disintermediation (see Net Interest Margin and Rate/Volume Analysis below). Interest expense on borrowings decreased as the Bank used proceeds from the first quarter asset restructuring program to reduce borrowings. Interest expense on borrowings decreased to $829,000 for the three months ended September 30, 2007 from $888,000 for the three months ended September 30, 2006. There was no provision for loan losses for the three month period ended September 30, 2007 as loan growth during this period experienced a greater than usual seasonal decline. The provision for the third quarter of 2006 was $75,000. Non-interest income increased to $485,000 for the three months ended September 30, 2007 from $307,000 for the three months ended September 30, 2006. This increase is attributable to additional purchase of BOLI and an increase in BOLI income of $30,000 and increases in fee income of $148,000.

     The Bank reported a decrease of $1,676,000 in net income to $646,000 or $0.15 per diluted share for the nine months ended September 30, 2007 from $2,322,000 or $0.65 per diluted share for the nine months ended September 30, 2006, primarily as the result of the asset-restructuring program during the first quarter of 2007, increases in operating expenses associated with growth of the bank and merger related expenses. Net income for the nine months ended September 30, 2007 was driven by growth in interest income resulting from continued loan growth. Interest income improved by $2,287,000 or 11.8% to $21,657,000 for the nine months ended September 30, 2007 from $19,370,000 for the nine months ended September 30, 2006. The increase in interest income included a 15.6% increase in interest on loans to $16,286,000 for the nine months ended September 30, 2007 from $14,092,000 for the nine months ended September 30, 2006. Rising deposit rates and, to a lesser degree, deposit growth contributed to an increase in deposit interest expense. The cost of interest bearing deposits increased from 3.61% for the nine month period ending September 30, 2006 to 4.26% for the nine month period ending September 30, 2007. Deposit interest expense increased by $1,597,000 to $9,167,000 for the nine months ended September 30, 2007 from $7,570,000 during the nine months ended September 30, 2006. Interest expense on borrowings also increased as the Bank used borrowings to support asset growth during the first and second quarters of 2007. Interest expense on borrowings increased to $2,754,000 for the nine months ended September 30, 2007 from $2,584,000 for the nine months ended September 30, 2006. The provision for loan losses for the nine month period ended September 30, 2007 was $422,000 reflecting the growth in loans. Non-interest income decreased to ($422,000) for the nine months ended September 30, 2007 from $879,000 for the nine months ended September 30, 2006. Our asset-restructuring program, designed to reduce interest rate risk and improve net interest margin, resulted in pre-tax losses of $1,758,000 for the first and second quarters of 2007. Assets in our restructuring program that were designated for sale at March 31, 2007 and subsequently sold in April 2007 were reported as other than temporarily impaired at March 31, 2007 (see above; NOTE 2 — SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, Investment Securities ). Other than temporary impairment treatment requires us to value these investments at market value with the difference between book carrying value and market value being recognized as a component of current earnings for the three month period ended March 31, 2007. Changes in market values of the investment securities sold in our restructuring program between March 31, 2007 and the actual sale date in April 2007 resulted in net gains on sale of $95,035.

Net Interest Income

          Net interest income is the most significant component of our operating income. Net interest income depends upon the levels of interest-earning assets and interest-bearing liabilities and the difference or “spread” between the respective yields earned and rates paid. The interest rate spread is influenced by the overall interest rate environment and by competition. Net interest margin is the interest income earned on interest earning assets less interest expense paid on interest bearing liabilities, expressed as a percentage of earning assets.

          Net interest income for the quarter ended September 30, 2007 grew from the quarter ended September 30, 2006 reflecting the strengthening of our core earnings from continued loan growth. Net interest income before provisions for loan losses increased $317,000 or 10.5% to $3,349,000 for the three months ended September 30, 2007 from $3,032,000 for the three months ended September 30, 2006. Increases in interest bearing liability costs as a result of increases in rates exceeded increases from growth in

interest bearing account balances as strong deposit competition in the southern New Jersey market continued to keep pressure on deposit rates (see Net Interest Margin and Rate/Volume Analysis below). Volume growth in loans combined with yield improvements in investments from the restructuring more than offset the decline in investment income and contributed to interest income growth. Deposit interest expense increased by $312,000 to $3,197,000 for the third quarter of 2007 from $2,885,000 during the third quarter of 2006. Increases in deposit interest expense were impacted by continued strong deposit competition. Interest expense on borrowings decreased from declines in the amount of borrowed funds. Interest expense on borrowings decreased to $829,000 for the three months ended September 30, 2007 from $888,000 for the three months ended September 30, 2006.

          Improvements in net interest income for the nine months ended September 30, 2007 were primarily the result of growth in loans combined with changes in interest rates on both loans and investments and despite declines in investment volumes. Net interest income before provisions for loan losses increased $520,000 or 5.6% to $9,736,000 for the nine months ended September 30, 2007 from $9,216,000 for the nine months ended September 30, 2006. Growth in earning assets out-weighed increases in interest expense from growth of deposits and borrowings for the nine months ended September 30, 2007. Increases in volume of loans added $1,814,000 to interest income while growth in interest bearing liabilities added $583,000 to interest expense. Increases in rates on deposits and borrowings exceeded improvements in rates on investments and loans. Increases in rates on loans and investments of $1,055,000 were eclipsed by an additional $1,184,000 from increases in rates on deposits and borrowings. Changes in rates on investments were positively impacted by portfolio restructuring. The net impact of changes in interest rates for the same periods was ($129,000).

Net Interest Margin and Rate/Volume Analysis

          Our net interest margin improved during the three months ended September 30, 2007 from the same period in the previous year. For the three months ended September 30, 2007, net interest margin rose to 3.17% from 2.93% for the comparable period in the prior year. This improvement in net interest margin reflects the yield improvements achieved as a result of the investment portfolio restructuring and a consistent effort to reduce deposit interest rates. Yields on loans have also had a positive impact on net interest margin, but to a lesser extent than the yield on investments.

          Average total loans were $301,721,000 for the three months ended September 30, 2007 compared to $268,850,000 for the three months ended September 30, 2006 an increase of 12.2%. Growth in deposits and reductions in investments were utilized to fund loan growth. Adjustments in the mix of deposits and reductions in borrowings were utilized to help improve net interest margin. Average interest-bearing liabilities were $374,894,000 for the three months ended September 30, 2007 down from $378,369,000 for the three months ended September 30, 2006.

          Increases in interest income for the three months ended September 30, 2007 were driven principally by loan growth and, to a lesser degree, by improved investment rates, offset by declines in investment volumes. Total interest income for the three months ended September 30, 2007 increased $236,000 as a result of growth in asset balances (volume) and $334,000 from increases in average interest rates. Net interest margin improvement for the three months ended September 30, 2007 was supported by investment restructuring and more conservative certificate of deposit pricing. Yields on interest-earning assets rose by 41 basis points from 6.57% in the third quarter of 2006 to 6.98% for the third quarter of 2007. Continued competitive deposit pricing was the primary cause of the cost of interest-bearing liabilities increasing by 30 basis points from 3.96% in the third quarter of 2006 to 4.26% for the third quarter of 2007.

          During the third quarter of 2007 significant strides were made to improve net interest rate margin from the first quarter of 2007. For the three months ended September 30, 2007 net interest margin increased to 3.17% from 2.93% for the three months ended September 30, 2006 reflecting the positive impacts of the investment portfolio restructuring and consistent efforts to reduce deposit costs. Deposit costs were reduced by lowering certificate of deposit rates and introducing a highly successful personal money market account.

     Net interest margin increased for the nine months ended September 30, 2007 from the same period in the previous year. For the nine months ended September 30, 2007, net interest margin rose to 3.10% from 3.08% for the comparable period in the prior year. Yields on interest-earning assets rose by 44 basis points to 6.90% for the first nine months of 2007 from 6.46% in the first nine months of 2006 while the cost of interest-bearing liabilities rose by 56 basis points to 4.24% for the first nine months of 2007 from 3.68% in the first nine months of 2006. Loan yields rose as a result of significant loan growth and higher loan rates on new loans.

          Increases in total net interest income for the nine months ended September 30, 2007 from the nine months ended September 30, 2006 can be attributed primarily to growth in net earning assets as $649,000 of net interest income growth was the result of growth in average volumes and a decline of $129,000 is attributable to changes in average rates. An increase in deposit and borrowing rates

offset all of the improvements in rates on earning assets. Increases in deposit and borrowings average balances increased interest costs by $583,000 and increases in interest bearing liability rates raised interest expense by $1,184,000 for the nine months ended September 30, 2007 from the nine months ended September 30, 2006.

     Average interest-earning assets as a percent of total assets rose, as we added no new branches to our branch network while experiencing significant growth in our loan portfolio. As a result of this asset mix change, the ratio of average interest-earning assets to average interest-bearing liabilities increased to 111.64% for the nine months ended September 30, 2007 from 108.63% for the same period in 2006.

     The following table sets forth, for the three month periods ended September 30, 2007 and September 30, 2006, information regarding average balances of assets and liabilities, the total dollar amounts of interest income from interest earning assets, interest expense on interest bearing liabilities, resultant yields or costs, net interest income, net interest spread, net interest margin and the ratio of interest earning assets to interest bearing liabilities. Non accrual loans are included in the average loan balance.

		For the Three Months Ended September 30,
		2007												2006
						Interest												Interest
		Average				Income/				Average				Average				Income/				Average
		Balance				Expense				Yield				Balance				Expense				Yield
		(Dollars in thousands)
Interest Earning Assets
Interest bearing deposits		$	12,253			$	163				5.28	%		$	9,119			$	116				5.05	%
Investments			105,048				1,585				5.99	%			132,844				1,723				5.15	%
Loans			301,721				5,627				7.40	%			268,850				4,966				7.33	%
Total interest earning assets			419,022			$	7,375				6.98	%			410,813			$	6,805				6.57	%
Non-interest earning assets			36,365												32,022
Allowance for loan losses			(3,700	)											(3,135	)
Total assets		$	451,687											$	439,700
Interest Bearing Liabilities
Interest bearing demand accounts		$	25,484			$	110				1.71	%		$	33,286			$	150				1.79	%
Savings accounts			6,776				25				1.46	%			7,779				26				1.33	%
Corporate money market accounts			18,823				101				2.13	%			21,218				113				2.11	%
Personal money market accounts			20,019				207				4.10	%			—				—				0.00	%
Certificates of deposit			224,539				2,753				4.86	%			229,179				2,596				4.49	%
FHLB borrowings			79,253				829				4.15	%			86,907				888				4.05	%
Total interest bearing liabilities			374,894			$	4,025				4.26	%			378,369			$	3,773				3.96	%
Non-interest bearing deposits			24,807												22,893
Other liabilities			1,588												953
Total liabilities			401,289												402,215
Shareholders’ equity			50,398												37,485
Total liabilities & shareholders’ equity		$	451,687				—							$	439,700				—
Net interest income						$	3,350											$	3,032
Net interest spread											2.72	%											2.61	%
Net interest margin											3.17	%											2.93	%
Net interest income and margin (tax equivalent basis)(1)							3,401				3.22	%							3,096				2.99	%
Ratio of average interest earning assets to average interest bearing liabilities			111.77	%											108.57	%

     The following table sets forth, for the nine month periods ended September 30, 2007 and September 30, 2006, information regarding average balances of assets and liabilities, the total dollar amounts of interest income from interest earning assets, interest expense on interest bearing liabilities, resultant yields or costs, net interest income, net interest spread, net interest margin and the ratio of interest earning assets to interest bearing liabilities. Non accrual loans are included in the average loan balance.

		For the Nine Months Ended September 30,
		2007												2006
						Interest												Interest
		Average				Income/				Average				Average				Income/				Average
		Balance				Expense				Yield				Balance				Expense				Yield
Interest Earning Assets
Interest bearing deposits		$	9,809				390				5.32	%		$	11,450			$	403				4.71	%
Investments			116,500				4,981				5.72	%			128,592				4,875				5.07	%
Loans			293,300				16,286				7.42	%			260,634				14,092				7.23	%
Total interest earning assets			419,609				21,657				6.90	%			400,676				19,370				6.46	%
Non-interest earning assets			34,645												30,436
Allowance for loan losses			(3,530	)											(3,047	)
Total assets		$	450,724											$	428,065
Interest Bearing Liabilities
Interest bearing demand accounts		$	27,201				349				1.72	%		$	36,636			$	498				1.82	%
Savings accounts			6,734				72				1.43	%			7,813				78				1.33	%
Corporate money market accounts			16,813				266				2.12	%			23,710				378				2.13	%
Personal money market accounts			11,144				344				4.13	%			—				—				0.00	%
Certificates of deposit			225,827				8,136				4.82	%			211,929				6,616				4.17	%
FHLB borrowings			88,131				2,754				4.18	%			88,759				2,584				3.89	%
Total interest bearing liabilities			375,850				11,921				4.24	%			368,847				10,154				3.68	%
Non-interest bearing deposits			23,573												21,783
Other liabilities			1,311												1,074
Total liabilities			400,734												391,704
Stockholders’ equity			49,990												36,361
Total liabilities & stockholders’ equity		$	450,724				—							$	428,065				—
Net interest income							9,736											$	9,216
Net interest spread											2.66	%											2.78	%
Net interest margin											3.10	%											3.08	%
Net interest income and margin (tax equivalent basis)(1)							9,912				3.16	%							9,381				3.13	%
Ratio of average interest earning assets to average interest bearing liabilities			111.64	%											108.63	%

Rate/Volume Analysis

     The following tables analyze the dollar amount changes in interest income and interest expense for major components of interest earning assets and interest bearing liabilities. The tables distinguish between (i) changes attributable to volume (changes in volume multiplied by prior period’s rate), (ii) changes attributable to rate (changes in rate multiplied by the prior period’s volume), and (iii) net change (the sum of the Average Volume columns and the Average Rate columns). The change attributable to both rate and volume (changes in rate multiplied by changes in volume) has been allocated to the change attributable to volume.

		For the Three Months Ended September 30, 2007
		Compared to September 30, 2006
		Increase (Decrease) due to changes in:
		Average Volume				Average Rate				Net Change
		(i)				(ii)				(iii)
		(In thousands)
Interest Earning Assets
Interest bearing deposits		$	41			$	6			$	47
Investments			(419	)			281				(138	)
Loans			613				48				661
Total interest income		$	235			$	335			$	570
Interest Bearing Liabilities
Interest bearing demand accounts		$	(34	)		$	(6	)		$	(40	)
Savings accounts			(4	)			3				(1	)
Corporate money market accounts			(13	)			1				(12	)
Personal money market accounts			207				—				207
Certificates of deposit			(57	)			214				157
FHLB borrowings			(80	)			21				(59	)
Total interest expense			19				233				252
Total net interest income		$	216			$	102			$	318