10-Q 1 form10q-53773_hfb.txt UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-QSB |X| QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended June 30, 2003 OR |_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 Commission File No. 0-20956 HFB FINANCIAL CORPORATION A Tennessee Corporation I.R.S. Employer Identification No. 61-1228266 Address Telephone Number 1602 Cumberland Avenue (606) 248-1095 Middlesboro, Kentucky 40965 Indicate by check mark whether the registrant (1) has filed all reports required by Section 13 or 15(d) of the Securities and Exchange Act of 1934 during the preceding twelve 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 |_|. The number of shares of the registrant's $1 par value common stock outstanding at August 11, 2003 was 1,301,101. There are a total of 19 pages filed in this document. HFB FINANCIAL CORPORATION I N D E X PAGE NO ------- PART I - FINANCIAL INFORMATION Item 1. Financial Statements (unaudited) Condensed Consolidated Balance Sheets 3 Condensed Consolidated Statements of Income 4 Condensed Consolidated Statement of Stockholders' Equity 5 Condensed Consolidated Statements of Cash Flows 6 Notes to Condensed Consolidated Financial Statements 7-8 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 8-13 PART II - OTHER INFORMATION 14 SIGNATURES 15 CEO Certification under Section 302 of the Sarbanes-Oxley Act 16 CFO Certification under Section 302 of the Sarbanes-Oxley Act 17 Exhibit 32.1 18 Exhibit 32.2 19 2 HFB FINANCIAL CORPORATION AND SUBSIDIARY Consolidated Balance Sheets

See notes to condensed consolidated financial statements. 3 HFB FINANCIAL CORPORATION AND SUBSIDIARY Condensed Consolidated Statements of Income (Unaudited)

See notes to condensed consolidated financial statements. 4 HFB FINANCIAL CORPORATION AND SUBSIDIARY Condensed Consolidated Statement of Stockholders' Equity Six-months ended June 30, 2003

See notes to condensed consolidated financial statements. 5 HFB FINANCIAL CORPORATION AND SUBSIDIARY Condensed Consolidated Statements of Cash Flows (unaudited)

See notes to condensed consolidated financial statements. 6 HFB FINANCIAL CORPORATION Notes to Condensed Consolidated Financial Statements (Unaudited) 1. Basis of Presentation The unaudited condensed consolidated financial information for the three-month periods ended June 30, 2003 and 2002 includes the results of operations of HFB Financial Corporation (the "Company") and its wholly owned subsidiary Home Federal Bank Corporation ("Home Federal" or the "Bank"). The accompanying unaudited financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial statements and with the instructions to Form 10-QSB. Certain information and note disclosures normally included in the company's annual financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted. It is suggested that these statements and notes be read in conjunction with the financial statements and notes thereto included in the Company's annual report for the year ended December 31, 2002 on Form 10-KSB filed with the Securities and Exchange Commission. In the opinion of management, the financial information reflects all adjustments (consisting only of normal recurring adjustments), which are necessary for a fair presentation of the financial position, results of operations and cash flows of the Company but should not be considered as indicative of results for a full year. The condensed consolidated balance sheet of the Company as of December 31, 2002 has been derived from the audited consolidated balance sheet of the Company as of that date. 2. Non-performing Loans and Problem Assets The following sets forth the activity in the Company's allowance for loan losses for the three-months ended June 30, 2003 and 2002: Dollars in thousands) 2003 2002 ---- ---- Balance January 1 $1,192 $ 780 Charge offs (11) (65) Recoveries -- 38 Provision for loan losses 210 222 ------ ------ Balance June 30 $1,391 $ 975 ====== ====== Information on impaired loans is summarized below At June 30 2003 2002 ---- ---- Impaired loans with an allowance $ 604 $1,122 Allowance for impaired loans (included in the Company's allowance for loan losses) $ 134 $ 365 7 Six-months ended June 30 2003 2002 ---- ---- Average balance of impaired loans $ 605 $1,521 Interest income recognized on impaired loans $ 0 $ 0 Cash-basis interest received $ 0 $ 0 3. Earnings per Share Earnings per share (EPS) were computed as follows: Three Months Ended June 30, 2003 ------------------------------------- Income Weighted- Per Share Average Shares Amount ------------------------------------- Net income $ 617,251 --------- Basic earnings per share Income available to common stockholders $ 617,251 1,259,488 $ 0.49 ========= Effect of dilutive securities Stock options -- 4,988 --------- --------- Diluted earnings per share Income available to common stockholders and assumed conversions $ 617,251 1,264,486 $ 0.49 ========= ========= ========= Three Months Ended June 30, 2002 ------------------------------------- Income Weighted- Per Share Average Shares Amount ------------------------------------- Net income $ 369,456 --------- Basic earnings per share Income available to common stockholders $ 369,456 $ 0.30 ========= ========= Effect of dilutive securities Stock options -- 1,246,604 --------- --------- Diluted earnings per share Income available to common stockholders and assumed conversions $ 369,456 3,124 $ 0.30 ========= ========= ========= 4. Stock Options At June 30, 2003 the Company has a stock-based compensation plan which is described more fully in the notes to the Company's December 31, 2002 audited financial statements contained in the Company's annual report. The Company accounts for this plan under the recognition and measurement principles of APB Opinion No. 25, Accounting for Stock Issued to Employees, and 8 related Interpretations. No stock-based employee compensation cost is reflected in net income, as all options granted under those plans had an exercise price that was equal to or greater than the market value of the underlying common stock on the grant date. Proforma information is not presented since all options granted by the Company were granted and vested in periods previous to those presented. Therefore, no expense would be recognized for the periods presented had the Company applied the fair value provisions of FASB statement No. 123, Accounting for Stock-Based Compensation, to stock-based employee compensation. 5. Reclassifications Reclassifications of certain amounts in the June 30, 2002 consolidated statement have been made to conform to the June 30, 2003 presentation. These reclassifications had no effect on net income. Item 2 - Management's Discussion and Analysis of Financial Condition and Results of Operations Special Note Regarding Forward-Looking Statements Certain matters discussed in this Quarterly Report on Form 10-QSB are "forward-looking statements" intended to qualify for the safe harbors from liability established by the Private Securities Litigation Reform Act of 1995. These forward-looking statements can generally be identified as such because the context of the statement will include words such as the Company "believes", "anticipates", "expects", "estimates" or words of similar import. Similarly, statements that describe the Company's future plans, objectives or goals are also forward-looking statements. Such forward-looking statements are subject to certain risks and uncertainties, which are described in, close proximity to such statements and which could cause actual results to differ materially from those anticipated as of the date of this report. Shareholders, potential investors and other readers are urged to consider these factors in evaluating the forward-looking statements and are cautioned not to place undue reliance on such forward-looking statements. The forward-looking statements included herein are only made as of the date of this report and the Company undertakes no obligation to publicly update such forward-looking statements to reflect subsequent events or circumstances. General: HFB Financial Corporation, a Tennessee Corporation, was formed in September 1992 at the direction of Home Federal Bank, Federal Savings Bank for the purpose of becoming a holding company for the Bank as part of its conversion from mutual to stock form. The Company's primary operation is its investment in the common stock of the Bank. The Bank is principally engaged in the business of accepting deposits from the general public and originating permanent loans, which are secured by one-to-four family residential properties located in its market area. The Bank also originates consumer loans and commercial real estate loans, and maintains a substantial investment portfolio of mortgage-backed and other investment securities. During the quarter ended December 31, 2001, the Bank converted from a federal thrift charter to a state chartered commercial bank as a means for management to focus more on commercial lending and other activities permissible for commercial banks. The operations of Home Federal are significantly influenced by general economic conditions and the monetary and fiscal policies of government regulatory agencies. Deposit flows and costs of funds are influenced by interest rates on competing investments and prevailing market rates of interest. Lending activities are affected by the demand for financing real estate and other types of loans, which in turn are influenced by the interest rates at which such financing may be offered and other factors related to loan demand and the availability of funds. Financial Condition The Corporation's assets increased by 2.37% to $259.5 million at June 30, 2003 compared to $253.5 million at December 31, 2002. The majority of this increase is reflected in increases in loans. The increase was financed primarily by increases deposits and long-term borrowings and decreases in investment securities. 9 Investment securities, available for sale, decreased $11.8 million to $58.6 million at June 30, 2003 from $70.4 million at December 31, 2002 primarily as the result of increased prepayments on mortgage backed securities "MBSs". Loans, net, increased by $17.3 million to $183.6 million at June 30, 2003 from $166.3 million at December 31, 2002 as the result of continued 1-4 family mortgage loan demand and an increase in commercial real estate loans. Since the Bank's conversion to a commercial bank, Management has focused on originating commercial real estate loans. At June 30, 2003, the allowance for loan losses was $1.4 million or .76% of loans receivable compared to $1.2 million or .71% of loans receivable at December 31, 2002. Total deposits increased by $4.4 million to $203.7 million at June 30, 2003 from $199.3 million at December 31, 2002. During the three months ended June 30, 2003, certificates of deposit increased $1.3 million and NOW accounts and savings deposits increased $3.1 million. Long-term borrowings increased by $2.8 million to $29.1 million at June 30, 2003 from $26.3 million at December 31, 2002. These proceeds were from 10 year advances and were used to fund the purchase of municipal securities with an average maturity of 15 years. At June 30, 2003, the Bank met all regulatory requirements. Tier I capital to averaged assets was 8.7%. Tier I capital to risk-weighted assets was 14.0% and total capital to risk-weighted assets was 14.7% at June 30, 2003 compared to 8.4%, 14.5% and 15.3%, respectively, at December 31, 2002. Results of Operations for the Three-months Ended June 30, 2003 and 2002 Net income increased by $248,000 to $617,000 for the three-month period ended June 30, 2003 from $369,000 for the three-month period ended June 30, 2002. The primary reasons for the increase were a $268,000 increase in net interest income, a $49,000 decrease in the provision for loan losses and a $68,000 decrease in other expense offset by a $9,000 decrease in other income and a $128,000 increase in income tax expense. Interest income decreased by $159,000 for the three-month period ended June 30, 2003 as compared to the three-month period ended June 30, 2002, primarily a result of lower yields on earning assets during the three months ended June 30, 2003. Interest on loans increased by $220,000 to $3.212 million for the three-month period ended June 30, 2003 as compared to $2.992 million for the three-month period ended June 30, 2002. This increase is mainly attributable to a higher average balance of loans during the three months ended June 30, 2003 even though the weighted-average yield was lower than that of the quarter ended June 30, 2002. Interest on investment securities, other dividend income and interest on deposits with financial institutions decreased by $379,000 to $671,000 for the three-month period ended June 30, 2003 from $1.050 million for the three-month period ended June 30, 2002. This decrease is primarily the result of a lower average balance of investments during the three months ended June 30, 2003. The weighted average yield on investments during the same period was also lower than that of the three months ended June 30, 2002. Interest expense on deposits decreased by $497,000 to $1.120 million for the three-month period ended June 30, 2003 from $1.617 million for the three-month period ended June 30, 2002 as a result of a significant drop in rates paid on deposit accounts. Interest expense on short-term and long-term debt increased by $70,000 to $319,000 for the three-month period ended June 30, 2003 from $249,000 for the three-month period ended June 30, 2002, primarily due to a higher level of long-term debt outstanding during the three months ended June 30, 2003. 10 The provision for loan losses decreased by $49,000 for the three-month period ended June 30, 2003 as compared to the same period in 2002. The provision was the result of management's evaluation of the adequacy of the allowance for loan losses including consideration of recoveries of loans previously charged off, the perceived risk exposure among loan types, actual loss experience, delinquency rates, and current economic conditions. The Bank's allowance for loan losses as a percent of total loans at June 30, 2003 was 0.76%. Non-interest income decreased by $9,000 to $325,000 for the three-month period ended June 30, 2003 as compared to $334,000 for the same period in 2002. The decrease was largely attributable to an increase of $67,000 in service charges on deposits, an increase of $28,000 in other customer fees offset by a $100,000 decrease in other income. The decrease in other income was primarily due to a $88,000 decrease in gain on the sale of real estate and equipment. Non-interest expense decreased by $68,000 to $1.757 million for the three-month period ended June 30, 2003 as compared to $1.825 million for the same period in 2002. Compensation and benefits increased by $146,000 to $921,000 for the three-month period ended June 30, 2003 as compared to $775,000 for the three-months ended June 30, 2002 primarily as the result of annual increases in salaries, wages and commissions and a $15,000 increase in the cost of funding the Banks retirement plan. In addition, the Banks staffing was increased due to growth and the opening of a branch office in Jacksboro, Tennessee in January 2003. At June 30, 2003, the Bank had 75 full time equivalent employees compared to 63 at June 30, 2002. Data processing expenses increased by $20,000 to $81,000 for the three-month period ended June 30, 2003 as compared to $61,000 for the three-months ended June 30, 2002 as the result of the addition of a new branch office and other specialized programming requests. Legal and professional fees decreased by $28,000 to $150,000 for the three-month period ended June 30, 2003 from $178,000 for the three-month period ended June 30, 2002 primarily due to a decrease in legal expenses for the three-months ended June 30, 2003. Advertising expense increased by $5,000 to $66,000 for the quarter ended June 30, 2003 compared to $61,000 for the quarter ended June 30, 2002 primarily due to a higher level of advertising activity in the current period. State deposit and franchise taxes increased by $42,000 to $51,000 for the quarter ended June 30, 2003 compared to $9,000 for the quarter ended June 30, 2002. As a result of the Banks recent conversion from a thrift to a commercial bank and determining the differences in the method of taxation between banks and thrifts, deposit and franchise taxes were over accrued during the quarter ended June 30, 2002. Other expenses decreased by $251,000 to $249,000 for the three-month period ended June 30, 2003 from $500,000 for the three-month period ended June 30, 2002, primarily due to a $308,000 decrease in expenses associated with the acquisition and sale of other real estate owned, a $20,000 increase in printing supplies resulting from a systems conversion, a $24,000 increase in other services and fees and a $15,000 increase in telephone expense due to duplicate service used during the conversion to a new system. Income tax expense increased by $128,000 to $289,000 for the three-month period ended June 30, 2003 compared to $161,000 for the three-months ended June 30, 2002 due a higher level of taxable income. The effective tax rate for the Three-months ended June 30, 2003 was 31.92% compared to 30.44% for the same period in 2002. Results of Operations for the Six-months Ended June 30, 2003 and 2002 Net income increased by $420,000 to $1.267 million for the six-month period ended June 30, 2003 from $847,000 for the six-month period ended June 30, 2002. The primary reasons for the increase were a $788,000 increase in net interest income, a $12,000 decrease in the provision for loan losses and a $22,000 increase in other income offset by a $221,000 increase in other expense and a $181,000 increase in income tax expense. 11 Interest income decreased by $65,000 for the six-month period ended June 30, 2003 as compared to the six-month period ended June 30, 2002, primarily a result of lower yields on earning assets during the six months ended June 30, 2003. Interest on loans increased by $476,000 to $6.392 million for the six-month period ended June 30, 2003 as compared to $5.916 million for the six-month period ended June 30, 2002. This increase is mainly attributable to a higher average balance of loans during the six months ended June 30, 2003 even though the weighted-average yield was lower than that of the quarter ended June 30, 2002. Interest on investment securities, other dividend income and interest on deposits with financial institutions decreased by $541,000 to $1.470 million for the six-month period ended June 30, 2003 from $2.011 million for the six-month period ended June 30, 2002. This decrease is primarily the result of a lower average balance of investments during the six months ended June 30, 2003. The weighted average yield on investments during the same period was also lower than that of the six months ended June 30, 2002. Interest expense on deposits decreased by $999,000 to $2.340 million for the six-month period ended June 30, 2003 from $3.339 million for the six-month period ended June 30, 2002 as a result of a significant drop in rates paid on deposit accounts. Interest expense on short-term and long-term debt increased by $145,000 to $621,000 for the six-month period ended June 30, 2003 from $476,000 for the six-month period ended June 30, 2002, primarily due to a higher level of long-term debt outstanding during the six months ended June 30, 2003. The provision for loan losses decreased by $12,000 for the six-month period ended June 30, 2003 as compared to the same period in 2002. The provision was the result of management's evaluation of the adequacy of the allowance for loan losses including consideration of recoveries of loans previously charged off, the perceived risk exposure among loan types, actual loss experience, delinquency rates, and current economic conditions. The Bank's allowance for loan losses as a percent of total loans at June 30, 2003 was 0.76%. Non-interest income increased by $22,000 to $639,000 for the six-month period ended June 30, 2003 as compared to $617,000 for the same period in 2002. The decrease was mainly attributable to an increase of $127,000 in service charges on deposits, an increase of $25,000 in other customer fees offset by a $130,000 decrease in other income. The decrease in other income was primarily due to a $108,000 decrease in gain on the sale of real estate and equipment. Non-interest expense increased by $221,000 to $3.490 million for the six-month period ended June 30, 2003 as compared to $3.269 million for the same period in 2002. Compensation and benefits increased by $381,000 to $1.809 million for the six-month period ended June 30, 2003 as compared to $1.428 million for the six-months ended June 30, 2002 primarily as the result of annual increases in salaries, wages and commissions and a $30,000 increase in the cost of funding the Banks retirement plan. In addition, the Banks staffing was increased due to growth and the opening of a branch office in Jacksboro, Tennessee in January 2003. At June 30, 2003, the Bank had 78 full time equivalent employees compared to 63 at June 30, 2002. Data processing expenses increased by $23,000 to $144,000 for the six-month period ended June 30, 2003 as compared to $121,000 for the six-months ended June 30, 2002 as the result of the addition of a new branch office and other specialized programming requests. Legal and professional fees decreased by $43,000 to $264,000 for the six-month period ended June 30, 2003 from $307,000 for the six-month period ended June 30, 2002 primarily due to a decrease in legal expenses for the six-months ended June 30, 2003. Advertising expense increased by $11,000 to $132,000 for the quarter ended June 30, 2003 compared to $121,000 for the quarter ended June 30, 2002 primarily due to a higher level of advertising activity in the current period. 12 State deposit and franchise taxes increased by $36,000 to $103,000 for the quarter ended June 30, 2003 compared to $67,000 for the quarter ended June 30, 2002. As a result of the Banks recent conversion from a thrift to a commercial bank and determining the differences in the method of taxation between banks and thrifts, deposit and franchise taxes were over accrued during the quarter ended June 30, 2002. Other expenses decreased by $184,000 to $564,000 for the six-month period ended June 30, 2003 from $748,000 for the six-month period ended June 30, 2002, primarily due to a $288,000 decrease in expenses associated with the acquisition and sale of other real estate owned, a $33,000 increase in printing supplies resulting from a systems conversion, a $30,000 increase in other services and fees and a $26,000 increase in telephone expense due to duplicate service used during the conversion to a new system. Income tax expense increased by $181,000 to $571,000 for the six-month period ended June 30, 2003 compared to $390,000 for the six-months ended June 30, 2002 due a higher level of taxable income. The effective tax rate for the six-months ended June 30, 2003 was 31.09% compared to 31.55% for the same period in 2002. Critical Accounting Policies Allowance for Loan Losses The allowance for loan losses is established as losses are estimated to have occurred through a provision for loan losses charged to income. Loan losses are charged against the allowance when management believes the uncollectibility of a loan balance is confirmed. Subsequent recoveries, if any, are credited to the allowance. The allowance for loan losses is evaluated on a regular basis by management and is based upon management's periodic review of the collectibility of the loans in light of historical experience, the nature and volume of the loan portfolio, adverse situations that may affect the borrower's ability to repay, estimated value of any underlying collateral and prevailing economic conditions. This evaluation is inherently subjective as it requires estimates that are susceptible to significant revision as more information becomes available. A loan is considered impaired when, based on current information and events, it is probable that the Bank will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower's prior payment record and the amount of the shortfall in relation to the principal and interest owed. Impairment is measured on a loan-by-loan basis for commercial and construction loans by either the present value of expected future cash flows discounted at the loan's effective interest rate, the loan's obtainable market price or the fair value of the collateral if the loan is collateral dependent. 13 HFB FINANCIAL CORPORATION PART II OTHER INFORMATION Item 1. Legal Proceedings None Item 2. Changes in Securities None Item 3. Defaults upon Senior Securities None Item 4. Submission of Matters to a Vote of Security Holders No matters were submitted to a vote of Security Holders during the quarter ended June 30, 2003. Item 5. Other Information None Item 6. Exhibits and Reports on Form 8-K a. Exhibits 32.1 CEO Certification under Section 906 of the Sarbanes-Oxley Act 32.2 CFO Certification under Section 906 of the Sarbanes-Oxley Act b. Reports on Form 8-K On August 11, 2003, the Company filed a form 8-K announcing that earnings for the quarter ended June 30, 2003 were released on August 8, 2003. Item 7. Controls and Procedures A review and evaluation was performed by the Company's management, including the Company's Chief Executive Officer (the "CEO") and Chief Financial Officer (the "CFO"), of the effectiveness of the design and operation of the Company's disclosure controls and procedures as of a date within 90 days prior to the filing of this quarterly report pursuant to Rule 13a-14 of the Securities Act of 1934. Based on that review and evaluation, the CEO and CFO have concluded that the Company's current disclosure controls and procedures, as designed and implemented, were effective. There have been no significant changes in the Company's internal controls or in other factors that could significantly affect the Company's internal controls subsequent to the date of their evaluation. There were no significant material weaknesses identified in the course of such review and evaluation and, therefore, no corrective measures were taken by the Company. 14 HFB FINANCIAL CORPORATION Signatures Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed in its behalf by the undersigned, thereunto duly authorized. HFB FINANCIAL CORPORATION By: /s/ David B. Cook --------------------------- David B. Cook President and Chief Executive Officer By: /s/ Stanley Alexander, Jr. ---------------------------- Stanley Alexander, Jr. Chief Financial Officer Dated August 11, 2003 15

HFB FINANCIAL CORP 10-Q