**UNITED STATESSECURITIES AND EXCHANGE COMMISSIONWashington, D.C. 20429**

**FORM 10-QSB**

**[X]  QUARTERLY REPORT UNDER SECTION 13 OR 15(d)OF THE SECURITIES EXCHANGE ACT OF 1934**

For the Quarterly Period Ended September 30, 2004

** **

**[   ]  TRANSITION REPORT UNDER SECTION 13 OR 15(d)OF THE EXCHANGE ACT**

For the Transition Period from                  to             

Commission File number 000-25267

| Oconee Financial Corporation                           |
|--------------------------------------------------------|
| (Exact name of registrant as specified in its charter) |

 

| Georgia                                    |                               | 58-2442250                           |
|--------------------------------------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------------------------------------|
| (State of Incorporation)                   |                                                                                                                                                                           | (I.R.S. Employer Identification No.) |
|                                       |                                                                                                                                                                           |                                 |
|                                       |                                                                                                                                                                           |                                 |
| 35 North Main Street Watkinsville, Georgia |                                                                                                                                                                           | 30677                                |
| (Address of principal executive offices)   |                                                                                                                                                                           | (Zip Code)                           |

706-769-6611(Telephone Number)

            Check whether the issuer (1) filed all reports required to befiled by Section 13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter period that the registrant wasrequired to file such reports), and (2) has been subject to such filing requirements for the past 90 days.               Yes   S                     No   ̈

State the number of shares outstanding of each of the issuer’s classes of common equity, as of the latest practicabledate: 899,885 shares of Common Stock, par value $2.00, outstanding as ofNovember 10, 2004.

----

###### OCONEE FINANCIAL CORPORATION AND SUBSIDIARY

###### INDEX

|   |                            |                                                                                           | Page No. |
|--------|--------------------------------------------------------------------------------------------------------------------------------------------------------------|------------------------------------------------------------------------------------------------|----------|
|   | PART I                                                                                                                                                       | FINANCIAL INFORMATION                                                                          |     |
|   |                                                                                                                                                         |                                                                                           |     |
|   | Item 1.                                                                                                                                            | Financial Statements                                                                           |     |
|   |                                                                                                                                                         |                                                                                           |     |
|   |                                                                                                                                                         | Consolidated Balance Sheet (unaudited) at September 30, 2004 and December 31, 2003             | 3        |
|   |                                                                                                                                                         |                                                                                           |     |
|   |                                                                                                                                                         | Consolidated Statements of Earnings (unaudited) for the Three Months and theNine Months        |     |
|   |                                                                                                                                                         |        Ended September 30, 2004 and 2003                    | 4        |
|   |                                                                                                                                                         |                                                                                           |     |
|   |                                                                                                                                                         | Consolidated Statements of Comprehensive Income (Loss) (unaudited) for the Three Months        |     |
|   |                                                                                                                                                         |        and the Nine Months EndedSeptember 30, 2004 and 2003 | 5        |
|   |                                                                                                                                                         |                                                                                           |     |
|   |                                                                                                                                                         | Consolidated Statements of Cash Flows (unaudited) for the Nine Months                          |     |
|   |                                                                                                                                                         |        Ended September 30, 2004 and 2003                    | 6-7      |
|   |                                                                                                                                                         |                                                                                           |     |
|   |                                                                                                                                                         | Notes to Financial Statements (unaudited)                                                      | 8-9      |
|   |                                                                                                                                                         |                                                                                           |     |
|   | Item 2.                                                                                                                                            | Management's Discussion and Analysis of Financial                                              |     |
|   |                                                                                                                                                         |        Condition and Results of Operations                  | 10-13    |
|   |                                                                                                                                                         |                                                                                           |     |
|   | Item 3.                                                                                                                                            | Controls and Procedures                                                                        | 14       |
|   |                                                                                                                                                         |                                                                                           |     |
|   | PART II                                                                                                                                                      | OTHER INFORMATION                                                                              |     |
|   |                                                                                                                                                         |                                                                                           |     |
|   | Item 1.                                                                                                                                            | Legal Proceedings                                                                              | 15       |
|   |                                                                                                                                                         |                                                                                           |     |
|   | Item 2.                                                                                                                                            | Unregistered Sales of Equity Securities and Use of Proceeds                                    | 15       |
|   |                                                                                                                                                         |                                                                                           |     |
|   | Item 3.                                                                                                                                            | Defaults Upon Senior Securities                                                                | 15       |
|   |                                                                                                                                                         |                                                                                           |     |
|   | Item 4.                                                                                                                                            | Submission of Matters to a Vote of Security Holders                                            | 15       |
|   |                                                                                                                                                         |                                                                                           |     |
|   | Item 5.                                                                                                                                            | Other Information                                                                              | 15       |
|   |                                                                                                                                                         |                                                                                           |     |
|   | Item 6.                                                                                                                                            | Exhibits                                                                                       | 15       |

 

----

###### **PART I.  FINANCIAL INFORMATION**

Item 1.  Financial Statements

**OCONEE FINANCIAL CORPORATION AND SUBSIDIARY**

Consolidated Balance SheetSeptember 30, 2004 and December 31, 2003(Unaudited)

|                                                                                                                                                              | **September 30, 2004**                                                                 |           | **December 31, 2003**                                                            |
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------|----------------------------------------------------------------------------------------|--------------------------------------------------------|----------------------------------------------------------------------------------|
| Assets                                                                                                                                                            |
|                                                                                                                                                              |
| Cash and due from banks, including reserve requirements of     $3,419,000 and$3,766,000                                                  | $                                                                                      | 6,546,516                                              |                                                                             | 9,206,802 |
| Federal funds sold                                                                                                                                                |          -       |                                                   | 8,788,000                                                                        |
|                                                                                                                                                              |                                                                                   |                                                   |                                                                             |
|                    Cash and cashequivalents                             | 6,546,516                                                                              |                                                   | 17,994,802                                                                       |
|                                                                                                                                                              |                                                                                   |                                                   |                                                                             |
| Investment securities available for sale                                                                                                                          | 43,513,744                                                                             |                                                   | 53,474,899                                                                       |
| Other investments                                                                                                                                                 | 708,629                                                                                |                                                   | 765,429                                                                          |
| Mortgage loans held for sale                                                                                                                                      | 641,000                                                                                |                                                   | 3,162,971                                                                        |
|                                                                                                                                                              |                                                                                   |                                                   |                                                                             |
| Loans                                                                                                                                                             | 184,506,052                                                                            |                                                   | 171,150,798                                                                      |
| Less: Allowance for loan losses                                                                                                                                   | 2,795,770                                                                              |                                                   | 2,669,204                                                                        |
|                                                                                                                                                              |                                                                                   |                                                   |                                                                             |
|                    Loans,net                                       | 181,710,282                                                                            |                                                   | 168,481,594                                                                      |
|                                                                                                                                                              |                                                                                   |                                                   |                                                                             |
| Premises and equipment, net                                                                                                                                       | 6,118,205                                                                              |                                                   | 4,521,644                                                                        |
| Accrued interest receivable and other assets                                                                                                                      | 3,540,604                                                                              |                                                   | 3,555,051                                                                        |
|                                                                                                                                                              |                                                                                   |                                                   |                                                                             |
|                    Totalassets                                     | $                                                                                      | 242,778,980                                            |                                                                             | 251,956,390 |
|                                                                                                                                                              |                                                                                   |                                                   |                                                                             |
| Liabilities and Stockholders’ Equity                                                                                                                        |
| Liabilities:                                                                                                                                                      |                                                                                   |                                                   |                                                                             |
|        Deposit*s*                                                                                                              |                                                                                   |                                                   |                                                                             |
|             Noninterest-bearing                                                                       | $                                                                                      | 28,010,388                                             |                                                                             | 27,575,073 |
|             Interest-bearing                                                                          | 186,576,021                                                                            |                                                   | 201,045,499                                                                      |
|                                                                                                                                                              |                                                                                   |                                                   |                                                                             |
|                    Totaldeposits                                   | 214,586,409                                                                            |                                                   | 228,620,572                                                                      |
|                                                                                                                                                              |                                                                                   |                                                   |                                                                             |
|        Securities sold under repurchaseagreements                                                                              | 1,985,917                                                                              |                                                   | 898,468                                                                          |
|        Federal funds purchased                                                                                                      | 2,368,000                                                                              |                                                   |        -        |
|        Accrued interest payable and otherliabilities                                                                           | 1,210,910                                                                              |                                                   | 1,683,688                                                                        |
|                                                                                                                                                              |                                                                                   |                                                   |                                                                             |
|                    Totalliabilities                                | 220,151,236                                                                            |                                                   | 231,202,728                                                                      |
|                                                                                                                                                              |                                                                                   |                                                   |                                                                             |
| Stockholders’ equity:                                                                                                                                       |                                                                                   |                                                   |                                                                             |
|        Common stock, $2 par value;                                                                                             |                                                                                   |                                                   |                                                                             |
|              authorized1,500,000 shares;                                                         |                                                                                   |                                                   |                                                                             |
|              issued andoutstanding 899,885 shares                                                | 1,799,770                                                                              |                                                   | 1,799,770                                                                        |
|        Additional paid-in capital                                                                                              | 4,246,832                                                                              |                                                   | 4,246,832                                                                        |
|        Retained earnings                                                                                                       | 16,043,803                                                                             |                                                   | 14,161,577                                                                       |
|        Accumulated other comprehensiveincome                                                                                   | 537,339                                                                                |                                                   | 545,483                                                                          |
|                                                                                                                                                              |                                                                                   |                                                   |                                                                             |
|                    Totalstockholders’ equity                 | 22,627,744                                                                             |                                                   | 20,753,662                                                                       |
|                                                                                                                                                              |                                                                                   |                                                   |                                                                             |
|                    Totalliabilities and stockholders’ equity | $                                                                                      | 242,778,980                                            |                                                                             | 251,956,390 |

See accompanying notes to financial statements.

3
**OCONEE FINANCIAL CORPORATION AND SUBSIDIARY**

Consolidated Statements of EarningsFor the Three Months and the Nine Months Ended September 30, 2004 and 2003(Unaudited)

 

** **

**Three Months Ended**

** **

**Nine Months Ended**

 

** **

**2004**

**        **

**2003**

**        **

**2004**

**        **

**2003**

Interest Income:

 

 

 

 

 

 

 

 

     Loans

 $

2,842,313
 
3,084,974  
 
8,481,583 
 
9,562,684

     Investment securities:

 
           
          Tax exempt

 

198,674
 
  200,879
 
608,240
 
575,838

          Taxable

 

302,947
 
261,398
 
958,082
 
698,832

     Federal funds sold and other

 

20,134
 
60,656
 
71,055
 
164,697

             Total interestincome

 

3,364,068
 
3,607,907
 
10,118,960
 
11,002,051

 

 
       
Interest Expense:

 
        
     Deposits

 

825,854
 
1,191,778
 
2,665,554
 
3,799,850

     Other

 

7,005
 
132,527
 
16,222
 
565,231

             Total interestexpense

 

832,859
 
1,324,305
 
2,681,776
 
4,365,081

 

 
      
             Net interestincome

 

2,531,209
 
2,283,602
 
7,437,184
 
6,636,970

 

 
       
Provision for loan losses

 

94,000
 
171,000
 
274,000
 
513,000

 

 
       
                   Netinterest income after provision for loan losses

 

2,437,209
 
2,112,602
 
7,163,184
 
6,123,970

 

 
       
Other Income:

 
       
 

 
       
     Service charges on deposit accounts

 

271,966
 
263,643
 
775,095
 
809,208

     Mortgage banking income

 

96,294
 
430,994
 
365,880
 
1,298,086

     Securities gains, net

 

22,661
 
    -
 
46,798
 
    -

     Gains on sales of premises and equipment
 
70,501
 
    -
 
196,621
 
    -

     Other operating income

 

134,313
 
125,824
 
398,152
 
334,177

             Total otherincome

 

595,735
 
820,461
 
1,782,546
 
2,441,471

 

 
       
 Other Expense:

 
       
     Salaries and other personnel expense

 

1,245,709
 
1,182,546
 
3,777,720
 
3,649,732

     Net occupancy and equipment expense

 

334,994
 
247,913
 
947,220
 
741,328

     Other operating expense

 

504,086
 
468,163
 
1,595,172
 
1,382,773

             Total otherexpense

 

2,084,789
 
1,898,622
 
6,320,112
 
5,773,833

 

 
       
             Earnings beforeincome taxes

 

948,155
 
1,034,441
 
2,625,618
 
2,791,608

 

 
       
Income taxes

 

275,194
 
311,506
 
743,392
 
834,251

 

 
       
             Netearnings 

 $

672,961
 
722,935
 
1,882,226
 
1,957,357

 

 
       
Earnings per common share based on average

 
       
     outstanding shares of 899,885 in 2004 and 2003:

 $

0.75
 
0.80
 
2.09
 
2.18

See accompanying notes to financial statements.

4
**OCONEE FINANCIAL CORPORATION AND SUBSIDIARY**

Consolidated Statements of Comprehensive Income

For the Three Months and the Nine Months Ended September 30, 2004 and2003(Unaudited)

 

** **

**Three Months Ended**

** **

**Nine Months Ended**

 

** **

**2004**

**      **

**2003**

 

**2004**

**        **

**2003**

 

 

 

 

 

        

 

 

 

Net earnings 

$

672,961 
 
722,935 
 
1,882,226 
 
1,957,357 

 

 
       
Other comprehensive income, net of tax:

 
       
     Unrealized gains on securities available for sale:

 
       
          Holding gains (losses) arisingduring period, net of tax (benefit)

 
       
             of $441,562, ($335,286), $10,761, and ($70,887)

 

749,781 
 
(547,975)
 
20,889 
 
(115,854)

          Reclassification adjustments forgains included in net 

 
       
             earnings, net oftax of $8,609, $0, $17,765, and $0

 

(14,052)
 
-      
 
(29,033)
 
-      

 

 
       
          Total other comprehensive income(loss)

 

735,729 
 
(547,975)
 
(8,144)
 
(115,854)

 

 
       
         Comprehensive income

$

1,408,690 
 
174,960 
 
1,874,082 
 
1,841,503 

See accompanying notes to financial statements.

5
**OCONEE FINANCIAL CORPORATION AND SUBSIDIARY**

Consolidated Statements of Cash Flows

For the Nine Months Ended September 30, 2004 and 2003(Unaudited)
 
** **

**2004**

**        **

**2003**

Cash flows from operating activities:

 
 
 
 
     Net earnings

$

1,882,226 
 
1,957,357 

         Adjustments to reconcile netearnings to net

 
   
            cash provided byoperating activities:

 
   
                Provision for loanlosses

 

274,000 
 
513,000 

                Depreciation, amortizationand accretion

 

652,613 
 
356,835 

                Gain on sale of premises andequipment
 
(196,621)
 
-       

                Gain on sale of investmentsecurities

 

(46,798)
 
-       

                Gain on sale of other realestate owned
 
(27,906)
 
-       

                Change in assets andliabilities:
    
                    Interestreceivable and other assets

 

(474,993)
 
634,270 

                    Interestpayable and other liabilities

 

427,107 
 
(222,846)

                    Mortgageloans held for sale

 

2,521,971 
 
3,968,277 
 
 
   
                           Netcash provided by operating activities

 

5,011,599 
   
7,206,893 
 
 
   
Cash flows from investing activities:

 
   
     Proceeds from sale of investment securities

 

2,950,468 
 
-       

     Proceeds from calls, maturities, and paydowns of

 
   
         investment securities available forsale
 
14,594,532 
 
36,679,302 

     Purchases of investment securities available forsale

 

(7,679,327)
 
(39,533,894)

     Net change in loans

 

(13,502,688)
 
4,800,236 

     Proceeds from sale of premises and equipment
 
392,532 
 
-       

     Purchases of premises and equipment

 

(2,259,134)
 
(993,439)

     Proceeds from sale of other real estate owned
 
522,331 
 
209,715 
 
 
   
                           Net cash (used) provided by investing activities

 

(4,981,286)
 
1,161,920 
 
 
   
Cash flows from financing activities:

 
   
     Net change in deposits

 

(14,034,163)
 
15,366,858 

     Net change in securities sold under repurchaseagreements

 

1,087,449 
 
102,635 

Net change in federal funds purchased
 
2,368,000 
  
Repayment of Federal Home Loan Bank advance
 
-       
 
(13,300,000)

     Dividends paid

 

(899,885)
 
(899,885)
 
 
   
                           Netcash (used) provided by financing activities

 

(11,478,599)
 
1,269,608 
 
 
   
Net (decrease) increase in cash and cash equivalents

 

(11,448,286)
 
9,638,421 
 
 
   
Cash and cash equivalents at beginning of period

 

17,994,802 
 
15,865,399 
 
 
   
Cash and cash equivalents at end of period

$

6,546,516 
 
25,503,820 

 
6
**OCONEE FINANCIAL CORPORATION AND SUBSIDIARY**

Consolidated Statements of Cash Flows, continued

For the Nine Months Ended September 30, 2004 and 2003(Unaudited)

 

** **

**2004**

**        **

**2003**

 

 

 

 

 

 

 

 

 

 

Supplemental cash flow information:

 

 

 

 

     Cash paid for interest

$

2,772,043 

$

4,411,626 

     Cash paid for taxes

$

754,000 

$

949,500 
     
Noncash investing and financing activities:
    
Transfer from loans to other real estate owned

$

781,608 

$

796,216 

Financed sale of other real estate owned

$

0 

$

46,965 

Change in dividends payable

$

899,885 

$

899,885 

Change in net unrealized gain on investment securities
    
        available for sale, net of tax

$

(8,144)

$

(115,854)

****

See accompanying notes to financial statements.

7 
**OCONEE FINANCIAL CORPORATION AND SUBSIDIARY**

Notes to Consolidated Financial Statements(Unaudited)

(1)             Basis ofPresentation

The financial statements include the accounts of Oconee Financial Corporation (the“Corporation”) and its wholly-owned subsidiary, Oconee State Bank (the “Bank”).  All significantintercompany accounts and transactions have been eliminated in consolidation.

The consolidated financial information furnished herein reflects all adjustments whichare, in the opinion of management, necessary to present a fair statement of the results of operations and financial position forthe periods covered herein.  All such adjustments are of a normal recurring nature.

Operating results for the three-month and nine-month period ended September 30, 2004 arenot necessarily indicative of the results that may be expected for the year ending December 31, 2004.  For furtherinformation, refer to the financial statements and footnotes included in the Corporation’s annual report included on Form10-KSB for the year ended December 31, 2003.

Critical Accounting Policies

The Corporation’s accounting policies are fundamental to understandingmanagement’s discussion and analysis of results of operations and financial condition.  Some of the Corporation’saccounting policies require significant judgment regarding valuation of assets and liabilities and/or significant interpretation ofthe specific accounting guidance.  A description of the Corporation’s significant accounting policies can be found inNote 1 of the Notes to Consolidated Financial Statements in the Company’s 10-KSB for the year ended December 31,2003. 

Many of the Corporation’s assets and liabilities are recorded using variousvaluation techniques that require significant judgment as to recoverability.  The collectibility of loans is reflected throughthe Corporation’s estimate of the allowance for loan losses.  The Corporation performs periodic detailed reviews of itsloan portfolio in order to assess the adequacy of the allowance for loan losses in light of anticipated risks and loanlosses.  In addition, investment securities and mortgage loans available or held for sale are reflected at their estimatedfair value in the consolidated financial statements.  Such amounts are based on either quoted market prices or estimatedvalues derived by the Corporation using dealer quotes or marketcomparisons.             
(2)          NetEarnings Per Common Share
Net earnings per common share are based on the weighted average number of common sharesoutstanding during the period.  The Company has no common stock equivalents outstanding.

8 
**OCONEE FINANCIAL CORPORATION AND SUBSIDIARY**

Notes to Consolidated Financial Statements, continued(Unaudited)

(3)           Allowance for LoanLosses

Changes in theallowance for loan losses were as follows:

 

** **

**2004**

**        **

** 2003**

 

 

 

 

 

Balance at beginning of year

$

2,669,204 
 
2,098,691 

Amounts charged off

 

(325,855) 
 
(98,773)

Recoveries on amounts previously charged off

 

178,421 
 
22,188 

Provision for loan losses

 

274,000 
 
513,000 

 

 
     
Balance at September 30

$

2,795,770 
 
2,535,106 

 

9
Item 2.

**MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIALCONDITION AND RESULTS OF OPERATIONS**
**Forward-Looking Statements**
**               **Thisdiscussion contains forward-looking statements under the private Securities Litigation Reform Act of 1995 that involve risk anduncertainties.  Although the Corporation believes that the assumptions underlying the forward-looking statements contained inthe discussion are reasonable, any of the assumptions could be inaccurate, and therefore, no assurance can be made that any of theforward-looking statements included in this discussion will be accurate.  Factors that could cause actual results to differfrom results discussed in forward-looking statements include, but are not limited to: economic conditions (both generally and inthe markets where the Corporation operates); competition from other providers of financial services offered by the Corporation;government regulations and legislation; changes in interest rates; and material unforeseen changes in the financial stability andliquidity of the Corporation’s credit customers, all of which are difficult to predict and which may be beyond the control ofthe Corporation.  The Corporation undertakes no obligation to revise forward-looking statements to reflect events or changesafter the date of this discussion or to reflect the occurrence of unanticipated events.

**Financial Condition**

                Total assets at September 30,2004 were $242,779,000, representing a $9,177,000 (3.64%) decrease from December 31, 2003.  Deposits decreased $14,035,000(6.14%) from December 31, 2003.  The decline in deposits is attributable to decreases in time deposit accounts of $10,555,000,money market accounts of $5,065,000, and interest-bearing checking accounts of $4,964,000, offset in part by increases in savingsaccounts of $6,114,000 and non interest-bearing checking accounts of $435,000.  Loans increased $13,355,000 (7.80%) fromDecember 31, 2003. Investment securities decreased $9,961,000 (18.63%) from December 31, 2003.  The allowance for loan lossesat September 30, 2004 was $2,796,000, compared to the December 31, 2003 balance of $2,669,204, representing 1.52% of total loans atSeptember 30, 2004, compared to 1.56% of total loans at December 31, 2003. Cash and cash equivalents decreased $11,448,000 fromDecember 31, 2003.   

               The total amount of nonperforming assets, which includes nonaccruing loans, other real estate owned, repossessed collateral andloans for which payments are more than 90 days past due was $3,578,000 at September 30, 2004,representing an increase of $415,000 (13.12%) from December 31, 2003.  This increase is attributable to decreases of $845,000 in nonaccrual loans and $58,000 in repossessed collateral, offset by increases of $1,228,000 in loans more than 90 dayspast due and  $89,000 in other real estate owned.  As a result of the increase, total nonperforming assets were 1.94% oftotal loans at September 30, 2004 compared to 1.85% of total loans at December 31, 2003. Nonperforming assets represented 1.47% of total assets at September 30, 2004, compared to 1.26% of totalassets at December 31, 2003.  Nonaccrual loans represented 0.36% of total loans outstanding at September30, 2004, compared to 0.88% of total loans outstanding at December 31, 2003.  At September 30, 2004, there was $48,000of interest accrued on loans more than 90 days past due.  At September 30,the Corporation had $1,812,000 in loans more than 90 days past due.  Ofthis total, $1,642,000 represents the outstanding balance of the loan.  There were no related party loans which were considered to benonperforming at September 30, 2004.

                At September 30, 2004, theCorporation had loan concentrations in the housing industry and in the hotel and motelindustry.  As of September 30, 2004, the Corporation had total commitments for necessary construction and development loans of$74,871,000, of which $44,893,000 was funded and outstanding.  Total funded and unfunded commitment amounts for hotel andmotel loans were $24,919,000 at September 30, 2004.  Of the total commitments for hotel and motel loans, $24,608,000 wasfunded and outstanding at September 30, 2004.  Of the $24,608,000 funded and outstanding balances at September 30, 2004,$5,986,000 was adversely classified by regulatory examiners.  The Corporation monitors theseconcentrations on a monthly basis.  The primary risks relating to the concentration in the housing industry are a downturn inthe economy which would adversely affect construction of new homes and developments of new housing communities and a significantincrease in interest rates.  The Corporation’s construction and development lending slowedsomewhat during 2003 and the first three quarters of 2004.  The Corporation’s primary riskrelating to the hotel and motel industry is a slowdown in the travel and tourism industry.  The Corporation  has established $30,000,000 as the maximum dollar amount of hotel and motel loans that it is willing tofund. 

10
**Results of Operations**

                Net interest income increased$800,000 (12.06%) in the first nine months of 2004 compared to the same period for 2003, primarily as a result of improvedmargins.  Interest income for the first nine months of 2004 was $10,119,000, representing a decrease of $883,000 (8.03%) ascompared to the same period in 2003.  Interest expense for the first nine months of 2004 decreased  $1,683,000(38.56%)compared to the same period in 2003.  The decrease in interest incomeduring the first nine months of 2004 compared to the same period in 2003 is primarily attributable to a decrease in averagebalances of outstanding loans as well as the effect of lower interest rates earned on outstanding loans offset by higher averagebalances of investment securities during 2004.  The decrease in interest expense is primarily attributable to the payoff of aFederal Home Loan Bank advance of $13,300,000 in August 2003 as well as a decline in interest-bearing deposits.

                The Bank’s net interestmargin for the first nine months of 2004 was 4.42%, compared to 3.70% for the same time period during 2003.  Yield on interestearning assets for the nine-month period ending September 30, 2004 was 5.96%, compared to 6.03% for the nine-month period endingSeptember 30, 2003.  Average rate paid on interest bearing liabilities was 1.83% for the nine months ending September 30,2004, compared to 2.75% for the same period during 2003.  The primary reason for the reduction in the rate paid on interestbearing liabilities is the payoff of the Federal Home Loan Bank advance of $13,300,000 which was at a rate of 6.34%.

               The Bank analyzes its allowance for loan losses on a monthly basis.  Additions to the allowance for loan losses are made bycharges to the provision for loan losses.  Loans deemed to be uncollectible are charged against theallowance for loan losses.  Recoveries of previously charged off amounts are credited to the allowance for loan losses. For the nine months ended September 30, 2004, the provision for loan losses was $274,000, compared to $513,000 for the same period in 2003.** **The provision for loanlosses charged to earnings is based upon management's judgment of the amount necessary to maintain the allowance at a leveladequate to absorb probable losses. The amount attributable to each period is dependent upon many factors including growth and changes in thecomposition of the loan portfolio, net charge-offs, delinquencies, management's assessment of loan portfolio quality, the value ofcollateral, and economic factors and trends. The evaluation of these factors is performed through an analysis of the adequacy ofthe allowance for loan losses.

               Reviews of non-performing loans, past due loans and larger credits, designed toidentify potential charges to the allowance for loan losses, as well asdetermine the adequacy of the allowance, are conducted on a regular basis duringthe year.  These reviews are performed by the responsible lending officers,as well as an independent loan review firm, and consider such factors as thefinancial strength of borrowers, the value of the applicable collateral, pastloan loss experience, anticipated loan losses, growth in the loan portfolio,prevailing economic conditions and other factors.

               Other income for the first nine months of 2004 decreased $658,000 (26.96%) compared to the first ninemonths of 2003.  This decrease is primarily attributable to a $932,000 decrease in fee income on mortgageloans originated and sold and a decrease in service charges of $34,000 offset by an increase in income and fees from ATM’s of$58,000, gains on the sales of investment securities of $47,000, and gains on the sales of premises and equipment of$197,000.  The decrease in fee income on mortgage loans is due to a decrease in the volume of mortgage loans that the Bankoriginated during the first nine months of 2004 as a result of a slowdown in the demand for refinancing.  This slowdown wasanticipated as loan volumes returned to more normal levels coming off of record volumes of loans in the two previous years. The demand for both purchase money mortgage financing as well as refinancing has slowed to more traditional levels.  The gainson the sales of premises and equipment were a result of the Bank selling three office condominiums which were previously used tohouse operational support personnel.  The condominiums became expendable upon the completion of an operations center to houseall of the Bank’s backroom support personnel.  The operations center was completed and occupied by the Bank during May2004. 

                Other expenses for the first ninemonths of 2004 increased $546,000 (9.46%) compared to the first nine months in 2003. The increase is primarily attributable to a $128,000 (3.51%) increase in salaries and benefits expenseprimarily due to merit increases for employees based on performance and an increase of $206,000 in occupancy and equipment expenseprimarily due to the completion of the operations center and moving expenses associated with the relocation ofemployees.

                The Bank’s effective taxrate was 28% and 30% for the nine months ended September 30, 2004 and 2003, respectively.  The reduction in the Company’seffective tax rate is due to a higher level of nontaxable interest.

11
**Interest rate sensitivity**

               Interest rate sensitivity is a function of the repricing characteristics of the Bank’s portfolio of assets andliabilities.  These repricing characteristics are the time frames within which the interest earning assets and liabilities aresubject to change in interest rates either at replacement, repricing or maturity during the life of the instruments.  Onemethod to measure interest rate sensitivity is through a repricing gap.  The gap is calculated by taking all assets thatreprice or mature within a given time frame and subtracting all liabilities that reprice or mature during that time frame.  Anegative gap (more liabilities repricing than assets) generally indicates that the Bank’s net interest income will decreaseif interest rates rise and will increase if interest rates fall.  A positive gap generally indicates that the Bank’s netinterest income will decrease if rates fall and will increase if rates rise. 

           The Bank also measures its short-term exposure to interest rate risk by simulating the impact to net interest income underseveral rate change levels.  Interest-earning assets and interest-bearing liabilities are rate shocked to stress test theimpact to the Bank’s net interest income and margin.  The rate shock levels span three 100 basis point increments up anddown from current interest rates.  This information is used to monitor interest rate exposure risk relative to anticipatedinterest rate trends.  Asset/liability management strategies are developed based on this analysis in an effort to limit theBank’s exposure to interest rate risk.

               The Bank tracks its interest rate sensitivity on a monthly basis using a model, which applies betas to various types ofinterest-bearing deposit accounts.  The betas represent the Bank’s inclination to reprice deposit rates based onhistorical data provided from a call report driven database.  The betas are used because it is not likely that deposit rateswould change the full amount of a prime rate increase ordecrease.           

               At September 30, 2004, the difference between the Bank’s assets and liabilities repricing ormaturing within one year, after applying the betas, was $86,335,000, indicating that the Bank was asset sensitive.  Rate shockdata show that the Bank’s net interest income would increase $374,000 on an annual basis if rates increased 100 basis points,and would decrease $379,000 on an annual basis if rates fell 100 basis points.

               Certain shortcomings are inherent in the method of analysis presented in the foregoing paragraph.  For example, althoughcertain assets and liabilities may have similar maturities or periods to repricing, they may react in different degrees or atdifferent points in time to changes in market interest rates.  Additionally, certain assets, such as adjustable-ratemortgages, have features that restrict changes in interest rates, both on a short-term basis and over the life of the asset. Changes in interest rates, prepayment rates, early withdrawal levels and the ability of borrowers to service their debt, amongother factors, may change significantly from the assumptions made above.  In addition, significant rate decreases would notlikely be reflected in the liability repricing and therefore would make the Bank more sensitive in a falling rateenvironment.
**Liquidity**
                The Corporation must maintain, ona daily basis, sufficient funds to cover the withdrawals from depositors’ accounts and to supply new borrowers withfunds.  To meet these obligations, the Corporation keeps cash on hand, maintains account balances with its correspondentbanks, and purchases and sells federal funds and other short-term investments.  Asset and liability maturities are monitoredin an attempt to match these to meet liquidity needs.  It is the policy of the Corporation to monitor its liquidity to meetregulatory requirements and its local funding requirements.

                The Corporation monitors itsliquidity position daily and performs a detailed analysis of its liquidity position monthly.  The primary tool used in thisanalysis is an internal calculation of a liquidity ratio.  This ratio is calculated by dividing the Corporation’sshort-term and marketable assets, including cash, federal funds sold, and unpledged investment securities by the sum of theCorporation’s deposit liabilities and securities sold under agreements to repurchase.  At September 30, theCorporation’s liquidity ratio was 12.1%.  This level of liquidity is not within the Bank’s stated guidelines of15-25%, however, the Bank has taken steps to raise this ratio to a level that is within the guidelines.  Steps that have beentaken subsequent to the end of the quarter include securing a commitment to deliver brokered certificates of deposits ofapproximately $5,000,000 as well as increasing interest rates on certificates of deposits in an effort to attract additionalfunds.

                The Corporation maintainsrelationships with correspondent banks that can provide funds to it on short notice, if needed.  Presently, the Corporationhas arrangements with a commercial bank for short term unsecured advances up to $5,600,000.  At September 30, 2004, theCompany had Federal Funds advances of $2,368,000 outstanding.  Additional liquidity is provided to the Corporation throughavailable Federal Home Loan Bank advances, none of which were outstanding at September 30, 2004.

12
               During the first nine months of 2004, cash and cash equivalents decreased $11,448,000 to a total of $6,547,000at September 30, 2004.  Cash inflows from operations totaled $5,012,000 during the first nine months of 2004, while outflowsfrom financing activities totaled $11,479,000, most of which were net deposit decreases during the first nine months of $14,034,000 as well as cash dividends paid during the first nine months of 2004 of $899,885.

                Investing activities used$4,981,000 of cash and cash equivalents, consisting of purchases of investment securities of $7,679,000 and purchases of premisesand equipment of $2,259,000 as well as net advances of loans to customers of $13,503,000, offset by proceeds from the sales, calls,maturities and paydowns of investment securities totaling $17,545,000.  At September 30, 2004, the Bank had $43,514,000 ofinvestment securities available for sale.
**Contractual Obligations and Commitments**
               The Corporation is party to financial instruments with off-balance sheet risk in the normal course ofbusiness to meet the financing needs of its customers.  These financial instruments include commitments to extend credit,standby letters of credit and financial guarantees.  These instruments involve, to varying degrees, elements of credit risk inexcess of the amount recognized on the balance sheet.  The contract amounts of these instruments reflect the extent ofinvolvement the Corporation has in particular classes of financial instruments.  AtSeptember 30, 2004, the contractual amounts of the Corporation’s commitments to extend creditand standby letters of credit were $32,745,000 and $807,000,respectively.

                Commitments to extend credit areagreements to lend to a customer as long as there is no violation of any condition established in the contract.  Commitmentsgenerally have fixed expiration dates and because they may expire without being drawn upon, the total commitment amount of$32,745,000 does not necessarily represent future cash requirements.  Standby letters of credit and financial guaranteeswritten are conditional commitments issued by the Corporation to guarantee the performance of a customer to a thirdparty.

**Capital**

               The following tables present the Bank’s regulatory capital position at September 30, 2004,based on the regulatory capital requirements of federal banking agencies.  The capital ratios of the Corporation areessentially the same as those of the Bank at September 30, 2004 and therefore only the Bank’sratios are presented.

Risk-Based Capital Ratios

 

Tier 1 Capital, Actual

 

11.1%

Tier 1 Capital minimum requirement

 

4.0%

 

 

 

Excess

 

7.1%

 

 

 

Total Capital, Actual

 

12.3%

Total Capital minimum requirement

 

8.0%

 

 

 

Excess

 

4.3%

 

 

 

Leverage Ratio

 

 

 

 

 

Tier 1 Capital to adjusted total assets

 

9.1%

Minimum leverage requirement

 

 3.0%

 

 

 

Excess

 

6.1%

 
 
13
Item 3.

**CONTROLS AND PROCEDURES**

               Our management, including our principal executive officer and principal financial officer, supervised and participated in anevaluation of our disclosure controls and procedures (as defined in federal securities rules) and pursuant to such evaluation,concluded that our disclosure controls and procedures are effective as ofSeptember 30, 2004. Disclosure controls and procedures are those controls and procedures which ensure that information required to be disclosed in thisfiling is accumulated and communicated to management and is recorded, processed, summarized and reported in a timely manner and inaccordance with Securities and Exchange Commission rules and regulations.

               There were no significant changes in our internal controls or in other factors that could significantly affect these controlssubsequent to the date of their evaluation.
 
 

 

 

 

 

 

14
**PART II.  OTHER INFORMATION**

**OCONEE FINANCIAL CORPORATION AND SUBSIDIARY**

Item 1.     LegalProceedings

                         None

Item 2.    Unregistered Sales of Equity Securities and Use of Proceeds

                         None

Item 3.     Defaults UponSenior Securities

                         None

Item 4.    Submission ofMatters to a Vote of SecurityHolders 

                         None 

Item 5.     OtherInformation

                         None

Item 6.    Exhibits

(a)  

Exhibits

 

 

31.1

Certification by B. Amrey Harden, CEO and President of the Corporation, asadopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

 

31.2

Certification by Jerry K. Wages, Senior Executive Vice President and ChiefFinancial Officer of the Corporation, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

 

32

Joint Certification of the Chief Executive Officer and the Chief Financial Officerpursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

 
15
**OCONEE FINANCIAL CORPORATION AND SUBSIDIARY**

**SIGNATURES**

****

               In accordance with the requirements of the Exchange Act, the registrant has caused this report to be signed on its behalf by theundersigned, thereunto duly authorized.

 

          OCONEE FINANCIALCORPORATION

 

 

By:  /s/ B. Amry Harden                                                   B. Amrey Harden, President and CEO        (Principal Executive Officer)

 Date:      November 10, 2004                                      

 

By:  /s/ Jerry K. Wages                                                   Jerry K. Wages        Senior Executive Vice-President and CFO        (Principal Accounting Officer)

 

Date:      November 10, 2004