Table ofContents

 

 

 

**UnitedStates**

**Securitiesand Exchange Commission**

**Washington, D.C. 20549**

 

# **FORM 10-Q**

# ** **

| **x** | ** ** | **QUARTERLY  REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF  1934** |
|-------|------------|---------------------------------------------------------------------------------------------------|

 

**For thequarterly period ended September 30, 2009**

 
| **o** | ** ** | **TRANSITION  REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE ACT** |
|-------|------------|--------------------------------------------------------------------------------|

 

**For the transition period from                      to                      **

 

**Commission File Number 333-140448**

 

**MANHATTAN BANCORP**

(Exact name of smaller reporting company as specified in its charter)

 

| **California**                  | ** ** | **20-5344927**      |
|---------------------------------|------------|---------------------|
| (State or other jurisdiction of |       | (I.R.S. Employer    |
| incorporation or organization)  |       | Identification No.) |

 

----

 

**2141 Rosecrans Avenue, Suite 1160**

**El Segundo, California  90245**

 

----

 

(Address of principal executive offices) (Zip Code)

 

Issuer’s telephone number: **(310) 606-8000**

 

Indicate by a check mark whether the registrant (1) filed allreports required to be filed by Section 13 or 15(d) of the ExchangeAct during the past 12 months (or for such shorter period that the registrantwas required to file such reports), and (2) has been subject to suchfiling requirements for the past 90 days. Yes x  No o

 

Indicate by check markwhether or not registrant has submitted electronically and posted on itscorporate Website, if any, every Interactive Data File required to be submittedand posted pursuant to Rule 405 or Regulation S-T during the preceding 12months (or for such shorter period that the registrant was required to submitand post such files).  o Yes  o No (not yet applicable toregistrant)

 

Indicate by check mark whether the registrant is a large acceleratedfiler, an accelerated filer, a non-accelerated filer, or a smaller reportingcompany. See the definition of “large accelerated filer,” “accelerated filer”and “smaller reporting company” in Rule 12b-2 of the Exchange Act

 

| Large accelerated filer £                |   | Accelerated filer £    |
|-----------------------------------------------|--------|-----------------------------|
|                                          |   |                        |
| Non-accelerated filer o                       |   | Smaller reporting company x |
| (Do not check if a smaller reporting company) |   |                        |

 

Indicate by check mark whether the registrant is a shell company (asdefined in Rule 12b-2 of the Exchange Act).  £ Yes  x No

 

As of October 30, 2009, there were 3,987,631 shares of the issuer’scommon stock outstanding

 

 

 

----

Table of Contents

 

**Manhattan Bancorp**

**QUARTERLY REPORT ON FORM 10-Q**

**FOR**

**THE QUARTER ENDED SEPTEMBER 30, 2009**

 

**TABLE OF CONTENTS**

 
| ** **                           | **PAGE**                                                                                    |
|--------------------------------------|---------------------------------------------------------------------------------------------|
| PART I -  FINANCIAL INFORMATION |                                                                                        |
|                                 |                                                                                        |   |
| Item  1.                             | FINANCIAL STATEMENTS (Unaudited,  except for Balance Sheet as of 12/31/2008)                |   |
|                                 |                                                                                        |   |
|                                 | CONSOLIDATED  BALANCE SHEETS                                                                | 3 |
|                                 |                                                                                        |   |
|                                 | CONSOLIDATED  STATEMENTS OF OPERATIONS                                                      | 4 |
|                                 |                                                                                        |   |
|                                 | CONSOLIDATED  STATEMENT OF STOCKHOLDERS’ EQUITY                                        | 5 |
|                                 |                                                                                        |   |
|                                 | CONSOLIDATED STATEMENTS OF CASH FLOWS                                                       | 6 |
|                                 |                                                                                        |   |
|                                 | NOTES TO FINANCIAL STATEMENTS                                                               | 7 |
|                                 |                                                                                        |   |
| Item 2.                              | MANAGEMENT’S  DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS | 17 |
|                                 |                                                                                        |   |
| Item 3.                              | QUANTITATIVE  AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK                                 | 34 |
|                                 |                                                                                        |   |
| Item 4T.                             | CONTROLS AND  PROCEDURES                                                                    | 36 |
|                                 |                                                                                        |   |
| PART II - OTHER  INFORMATION    |                                                                                        |
|                                 |                                                                                        |   |
| Item 1.                              | LEGAL PROCEEDINGS                                                                           | 37 |
|                                 |                                                                                        |   |
| Item 1A.                             | RISK FACTORS                                                                                | 37 |
|                                 |                                                                                        |   |
| Item 2.                              | UNREGISTERED  SALES OF EQUITY SECURITIES AND USE OF PROCEEDS                                | 37 |
|                                 |                                                                                        |   |
| Item 3.                              | DEFAULTS ON  SENIOR SECURITIES                                                              | 37 |
|                                 |                                                                                        |   |
| Item 4.                              | SUBMISSION  OF MATTERS TO A VOTE OF SECURITY HOLDERS                                        | 37 |
|                                 |                                                                                        |   |
| Item 5.                              | OTHER INFORMATION                                                                           | 37 |
|                                 |                                                                                        |   |
| Item  6.                             | EXHIBITS                                                                                    | 37 |
|                                 |                                                                                        |   |
| SIGNATURES                           |                                                                                        | 38 |

 

2

----

Table of Contents

 

***PART I –FINANCIAL INFORMATION***

 

***Item 1 –Financial Information***

 

**ManhattanBancorp and Subsidiaries**

**ConsolidatedBalance Sheets**

 
| ** **                                                                                                                                                            | ** ** | **(Unaudited)**             | ** **  | ** **                 | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------------------|-------------|----------------------------|------------|
| ** **                                                                                                                                                            | ** ** | **September 30, 2009** | ** **  | **December 31, 2008** | ** ** |
| **Assets**                                                                                                                                                            |       |                        |        |                       |       |
| Cash  and due from banks                                                                                                                                              |       | $                           | 1,143,368   |                       | $          | 19,710,235 |   |
| Federal  funds sold/interest-bearing demand funds                                                                                                                     |       | 23,536,168                  |        | —                     |       |
| Total  cash and cash equivalents                                                                                                                                      |       | 24,679,536                  |        | 19,710,235                 |       |
| Time  deposits-other financial institutions                                                                                                                           |       | 3,016,000                   |        | 4,198,000                  |       |
| Investments  securities-available for sale                                                                                                                            |       | 6,224,220                   |        | 7,413,824                  |       |
| Investments  securities-held to maturity                                                                                                                              |       | 993,085                     |        | 990,533                    |       |
|                                                                                                                                                                  |       |                        |        |                       |       |
| Loans                                                                                                                                                                 |       | 73,057,810                  |        | 57,441,936                 |       |
| Allowance  for loan losses                                                                                                                                            |       | (1,095,000                  | )           | (975,000                   | )          |
| Net  loans                                                                                                                                                            |       | 71,962,810                  |        | 56,466,936                 |       |
|                                                                                                                                                                  |       |                        |        |                       |       |
| Property  and equipment, net                                                                                                                                          |       | 1,154,623                   |        | 1,357,276                  |       |
| Stock  in other financial institutions                                                                                                                                |       | 1,676,150                   |        | 1,445,050                  |       |
| Accrued  interest receivable and other assets                                                                                                                         |       | 563,444                     |        | 457,841                    |       |
|                                                                                                                                                                  |       |                        |        |                       |       |
| Total  assets                                                                                                                                                         |       | $                           | 110,269,868 |                       | $          | 92,039,695 |   |
|                                                                                                                                                                  |       |                        |        |                       |       |
| **Liabilities and Stockholders’ Equity**                                                                                                                         |       |                        |        |                       |       |
| Deposits:                                                                                                                                                             |       |                        |        |                       |       |
| Non-interest  bearing demand                                                                                                                                          |       | $                           | 20,907,544  |                       | $          | 15,379,258 |   |
| Interest  bearing:                                                                                                                                                    |       |                        |        |                       |       |
| Demand                                                                                                                                                                |       | 2,554,290                   |        | 1,734,425                  |       |
| Savings  and money market                                                                                                                                             |       | 16,843,556                  |        | 8,226,974                  |       |
| Certificates  of deposit equal to or greater than $100,000                                                                                                            |       | 23,855,333                  |        | 18,144,355                 |       |
| Certificates  of deposit less than $100,000                                                                                                                           |       | 4,592,219                   |        | 4,505,838                  |       |
| Total  deposits                                                                                                                                                       |       | 68,752,942                  |        | 47,990,850                 |       |
| FHLB  advances                                                                                                                                                        |       | 11,500,000                  |        | 9,500,000                  |       |
| Accrued  interest payable and other liabilities                                                                                                                       |       | 875,568                     |        | 261,317                    |       |
| Total  liabilities                                                                                                                                                    |       | 81,128,510                  |        | 57,752,167                 |       |
|                                                                                                                                                                  |       |                        |        |                       |       |
| Commitments  and contingencies                                                                                                                                        |       | —                      |        | —                     |       |
|                                                                                                                                                                  |       |                        |        |                       |       |
| Stockholders’  equity                                                                                                                                            |       |                        |        |                       |       |
| Serial  preferred stock-no par value; 10,000,000 shares authorized:issued and outstanding,  none as of September 30, 2009 and 1,700 as of December 31, 2008 |       | —                      |        | 1,558,517                  |       |
| Common  stock-no par value; 10,000,000 shares authorized;issued and outstanding, 3,987,631 as of  September 30, 2009 and December 31, 2008                  |       | 38,977,282                  |        | 38,977,282                 |       |
| Common  stock warrant                                                                                                                                                 |       | —                      |        | 120,417                    |       |
| Additional  paid in capital                                                                                                                                           |       | 1,523,872                   |        | 957,825                    |       |
| Unrealized  gain on available-for-sale securities                                                                                                                     |       | 301,821                     |        | 307,488                    |       |
| Accumulated  deficit                                                                                                                                                  |       | (11,661,617                 | )           | (7,634,001                 | )          |
|                                                                                                                                                                  |       |                        |        |                       |       |
| Total  stockholders’ equity                                                                                                                                      |       | 29,141,358                  |        | 34,287,528                 |       |
|                                                                                                                                                                  |       |                        |        |                       |       |
| Total  liabilities and stockholders’ equity                                                                                                                      |       | $                           | 110,269,868 |                       | $          | 92,039,695 |   |

 

The accompanying notes are an integral part of this financialstatement.

 

3

----

Table of Contents

 

**Manhattan Bancorp and Subsidiaries**

**Consolidated Statements of Operations**

**(Unaudited)**

 
| ** **                                                         | ** ** | **For the three months**     | ** ** | **For the nine months**      | ** ** |
|--------------------------------------------------------------------|------------|------------------------------|------------|------------------------------|------------|
| ** **                                                         | ** ** | **ended September 30,** | ** ** | **ended September 30,** | ** ** |
| ** **                                                         | ** ** | **2009**                     | ** ** | **2008**                     | ** ** | **2009** | ** ** | **2008** | ** ** |
| **Interest income**                                                |       |                         |       |                         |       |   |   |   |   |
| Interest  and fees on loans                                        |       | $                            | 1,084,097  |                         | $          | 702,348 |   | $ | 2,822,969 |   | $ | 1,632,554 |   |
| Interest  on investment securities                                 |       | 93,163                       |       | 91,170                       |       | 325,936 |   | 301,093 |   |
| Interest  on federal funds sold                                    |       | 7,410                        |       | 86,244                       |       | 22,112 |   | 164,941 |   |
| Interest  on time deposits-other financial institutions            |       | 19,070                       |       | 28,828                       |       | 92,281 |   | 65,911 |   |
|                                                               |       |                         |       |                         |       |   |   |   |   |
| Total  interest income                                             |       | 1,203,740                    |       | 908,590                      |       | 3,263,298 |   | 2,164,499 |   |
|                                                               |       |                         |       |                         |       |   |   |   |   |
| **Interest expense**                                               |       |                         |       |                         |       |   |   |   |   |
| NOW,  money market and savings                                     |       | 42,810                       |       | 32,780                       |       | 113,676 |   | 83,089 |   |
| Time  deposits                                                     |       | 106,423                      |       | 226,946                      |       | 331,268 |   | 444,060 |   |
| FHLB  advances                                                     |       | 50,389                       |       | 50,377                       |       | 149,555 |   | 52,567 |   |
|                                                               |       |                         |       |                         |       |   |   |   |   |
| Total  interest expense                                            |       | 199,622                      |       | 310,103                      |       | 594,499 |   | 579,716 |   |
|                                                               |       |                         |       |                         |       |   |   |   |   |
| Net  interest income                                               |       | 1,004,118                    |       | 598,487                      |       | 2,668,799 |   | 1,584,783 |   |
|                                                               |       |                         |       |                         |       |   |   |   |   |
| Provision  for loan losses                                         |       | 468,650                      |       | 102,000                      |       | 1,096,281 |   | 431,000 |   |
|                                                               |       |                         |       |                         |       |   |   |   |   |
| Net  interest income after provision for loan losses               |       | 535,468                      |       | 496,487                      |       | 1,572,518 |   | 1,153,783 |   |
|                                                               |       |                         |       |                         |       |   |   |   |   |
| **Non-interest income**                                            |       | 47,321                       |       | 18,033                       |       | 98,301 |   | 41,582 |   |
|                                                               |       |                         |       |                         |       |   |   |   |   |
| **Non-interest expense**                                           |       |                         |       |                         |       |   |   |   |   |
| Compensation  and benefits                                         |       | 1,118,738                    |       | 963,767                      |       | 3,245,781 |   | 2,881,714 |   |
| Occupancy  and equipment                                           |       | 175,774                      |       | 174,233                      |       | 515,241 |   | 495,398 |   |
| Technology  and communication                                      |       | 154,759                      |       | 134,490                      |       | 428,458 |   | 384,433 |   |
| Professional  and administrative expenses                          |       | 273,344                      |       | 106,663                      |       | 1,077,188 |   | 370,868 |   |
| Other  non-interest expenses                                       |       | 133,992                      |       | 133,839                      |       | 363,820 |   | 379,547 |   |
|                                                               |       |                         |       |                         |       |   |   |   |   |
| Total  non-interest expenses                                       |       | 1,856,607                    |       | 1,512,992                    |       | 5,630,488 |   | 4,511,960 |   |
|                                                               |       |                         |       |                         |       |   |   |   |   |
| Loss  before income taxes                                          |       | (1,273,818                   | )          | (998,472                     | )          | (3,959,669 | ) | (3,316,595 | ) |
|                                                               |       |                         |       |                         |       |   |   |   |   |
| Provision  for income taxes                                        |       | —                       |       | —                       |       | 1,600 |   | 1,600 |   |
|                                                               |       |                         |       |                         |       |   |   |   |   |
| Net  loss                                                          |       | $                            | (1,273,818 | )                            | $          | (998,472 | ) | $ | (3,961,269 | ) | $ | (3,318,195 | ) |
|                                                               |       |                         |       |                         |       |   |   |   |   |
| Weighted  average number of shares outstanding (basic and diluted) |       | 3,987,631                    |       | 2,615,806                    |       | 3,987,631 |   | 2,502,420 |   |
|                                                               |       |                         |       |                         |       |   |   |   |   |
| Basic  and diluted loss per share                                  |       | $                            | (0.32      | )                            | $          | (0.38 | ) | $ | (0.99 | ) | $ | (1.33 | ) |

 

Theaccompanying notes are an integral part of this financial statement.

 

4

----

Table ofContents

 

**Manhattan Bancorp and Subsidiaries**

**Consolidated Statement of Stockholders’ Equity (Unaudited)**

**September 30, 2009 and 2008**

 
| ** **                                     | ** ** | ** **    | ** ** | ** **       | ** ** | ** ** | ** ** | **Common**  | ** ** | **Additional**    | ** ** | ** **        | ** ** | ** **        | ** ** | **Accumulated  Other** | ** ** | ** ** | ** **  |
|------------------------------------------------|------------|---------------|------------|------------------|------------|------------|------------|-------------|------------|-------------------|------------|-------------------|------------|-------------------|------------|------------------------|------------|------------|-------------|
| ** **                                     | ** ** | **Preferred** | ** ** | **Common Stock** | ** ** | **Stock**  | ** ** | **Paid-in** | ** ** | **Comprehensive** | ** ** | **Accumulated**   | ** ** | **Comprehensive** | ** ** | ** **             | ** ** |
| ** **                                     | ** ** | **Stock**     | ** ** | **Shares**       | ** ** | **Amount** | ** ** | **Warrant** | ** ** | **Capital**       | ** ** | **Income (Loss)** | ** ** | **Deficit**       | ** ** | **Income (Loss)**      | ** ** | **Total**  | ** **  |
| **Balance at December 31, 2007**          |       | $             | —     |             | 2,487,631  |       | $          | 24,078,828  |       | $                 | —     |              | $          | 266,908           |       | $                      | —     |       | $           | (3,214,960 | ) | $ | 58,158 |   | $ | 21,188,934 |   |
| Issuance  of common stock in private placement |       |          |       | 128,175          |       | 1,265,881  |       |        |       |              |       |              |       |              |       |                   |       | 1,265,881  |        |
| Share-based  compensation expense              |       |          |       |             |       |       |       |        |       | 511,549           |       |              |       |              |       |                   |       | 511,549    |        |
| Unrealized  gain on investment securities      |       |          |       |             |       |       |       |        |       |              |       | 18,694            |       |              |       | 18,694                 |       | 18,694     |        |
| Net  loss                                      |       |          |       |             |       |       |       |        |       |              |       | (3,318,195        | )          | (3,318,195        | )          |                   |       | (3,318,195 | )           |
| Total  comprehensive loss                      |       |          |       |             |       |       |       |        |       |              |       | $                 | (3,299,501 | )                 |       |                   |       |       |        |   |
| **Balance at September 30, 2008**         |       | $             | —     |             | 2,615,806  |       | $          | 25,344,709  |       | $                 | —     |              | $          | 778,457           |       |                   |       | $          | (6,533,155  | ) | $ | 76,852 |   | $ | 19,666,863 |   |
|                                           |       |          |       |             |       |       |       |        |       |              |       |              |       |              |       |                   |       |       |        |
| **Balance at December 31, 2008**          |       | $             | 1,558,517  |             | 3,987,631  |       | $          | 38,977,282  |       | $                 | 120,417    |              | $          | 957,825           |       | $                      | —     |       | $           | (7,634,001 | ) | $ | 307,488 |   | $ | 34,287,528 |   |
| Accretion  of preferred stock discount         |       | 18,063        |       |             |       |       |       | (18,063     | )          |              |       |              |       |              |       |                   |       | —     |        |
| Reduction  to repurchase of preferred stock    |       | (1,576,580    | )          |             |       |       |       | (102,354    | )          | $                 | (21,066    | )                 |       |              |       |                   |       |       | (1,700,000  | ) |
| Dividend  on preferred stock                   |       |          |       |             |       |       |       |        |       |              |       |              |       | (66,347           | )          |                   |       | (66,347    | )           |
| Share-based  compensation expense              |       |          |       |             |       |       |       |        |       | 587,113           |       |              |       |              |       |                   |       | 587,113    |        |
| Unrealized  loss on investment securities      |       |          |       |             |       |       |       |        |       |              |       | (5,667            | )          |              |       | (5,667                 | )          | (5,667     | )           |
| Net  loss                                      |       |          |       |             |       |       |       |        |       |              |       | (3,961,269        | )          | $                 | (3,961,269 | )                      |       |       | (3,961,269  | ) |
| Total  comprehensive loss                      |       |          |       |             |       |       |       |        |       |              |       | $                 | (3,966,936 | )                 |       |                   |       |       |        |   |
| **Balance at September 30, 2009**         |       | $             | —     |             | 3,987,631  |       | $          | 38,977,282  |       | $                 | —     |              | $          | 1,523,872         |       |                   |       | $          | (11,661,617 | ) | $ | 301,821 |   | $ | 29,141,358 |   |

 

Theaccompanying notes are an integral part of this financial statement.

 

5

----

Table ofContents

 

**ManhattanBancorp and Subsidiaries**

**ConsolidatedStatements of Cash Flows**

**(Unaudited)**

 
| ** **                                                           | ** ** | **For the nine month period  ended September 30,** | ** ** |
|----------------------------------------------------------------------|------------|---------------------------------------------------------|------------|
| ** **                                                           | ** ** | **2009**                                                | ** ** | **2008** | ** ** |
| **Cash flows from operating activities**                             |       |                                                    |       |   |   |
| Net  loss                                                            |       | $                                                       | (3,961,269 | ) | $ | (3,318,195 | ) |
| Depreciation  and amortization                                       |       | 230,610                                                 |       | 224,314 |   |
| Provision  for loan losses                                           |       | 1,096,281                                               |       | 431,000 |   |
| Share-based  compensation                                            |       | 587,113                                                 |       | 511,549 |   |
| (Increase)  in accrued interest receivable and other assets          |       | (125,308                                                | )          | (190,671 | ) |
| Increase  in accrued interest payable and other liabilities          |       | 614,251                                                 |       | 248,914 |   |
|                                                                 |       |                                                    |       |   |   |
| Net  cash used in operating activities                               |       | (1,558,322                                              | )          | (2,093,089 | ) |
|                                                                 |       |                                                    |       |   |   |
| **Cash flows from investing activities**                             |       |                                                    |       |   |   |
| Net  (increase) in loans                                             |       | (16,606,169                                             | )          | (30,495,350 | ) |
| Allowance  for loan and lease loss recoveries                        |       | 14,014                                                  |       | — |   |
| (Increase)  decrease in time deposits - other financial institutions |       | 1,182,000                                               |       | (4,208,000 | ) |
| Proceeds  from repayment and maturities from investment securities   |       | 1,201,090                                               |       | 568,347 |   |
| Deposit  pending purchase of FHLB stock                              |       | —                                                  |       | (987,812 | ) |
| Purchase  of stock in other financial institutions                   |       | (281,500                                                | )          | (212,200 | ) |
| Proceeds  from the sale of stock in other financial institutions     |       | 50,050                                                  |       | 22,850 |   |
| Purchase  of premises and equipment                                  |       | (27,957                                                 | )          | (62,373 | ) |
|                                                                 |       |                                                    |       |   |   |
| Net  cash used in investing activities                               |       | (14,468,472                                             | )          | (35,374,538 | ) |
|                                                                 |       |                                                    |       |   |   |
| **Cash flows from financing activities**                             |       |                                                    |       |   |   |
| Net  increase in:                                                    |       |                                                    |       |   |   |
| Demand  deposits                                                     |       | 5,528,286                                               |       | 7,728,948 |   |
| Interest  bearing demand deposits                                    |       | 819,865                                                 |       | 453,180 |   |
| Savings  and money market deposits                                   |       | 8,616,582                                               |       | 4,790,128 |   |
| Certificates  of deposit equal to or greater than $100,000           |       | 5,710,978                                               |       | 12,251,728 |   |
| Certificates  of deposit less than $100,000                          |       | 86,381                                                  |       | 3,988,195 |   |
| Increase  from borrowings                                            |       | 2,000,000                                               |       | 4,500,000 |   |
| Repurchase  of preferred stock                                       |       | (1,700,000                                              | )          | — |   |
| Net  proceeds from issuance of common stock                          |       | —                                                  |       | 1,265,881 |   |
| Cash  dividend paid on preferred stock                               |       | (66,347                                                 | )          | — |   |
|                                                                 |       |                                                    |       |   |   |
| Net  cash provided by financing activities                           |       | 20,995,745                                              |       | 34,978,060 |   |
|                                                                 |       |                                                    |       |   |   |
| Net  decrease in cash and cash equivalents                           |       | 4,968,951                                               |       | (2,489,567 | ) |
|                                                                 |       |                                                    |       |   |   |
| **Cash and cash equivalents at beginning of period**                 |       | 19,710,235                                              |       | 8,963,333 |   |
|                                                                 |       |                                                    |       |   |   |
| **Cash and cash equivalents at end of period**                       |       | $                                                       | 24,679,186 |   | $ | 6,473,766 |   |
|                                                                 |       |                                                    |       |   |   |
| **Supplementary information**                                        |       |                                                    |       |   |   |
|                                                                 |       |                                                    |       |   |   |
| Interest  paid on deposits                                           |       | $                                                       | 548,409    |   | $ | 511,713 |   |
|                                                                 |       |                                                    |       |   |   |
| Income  taxes paid                                                   |       | $                                                       | 1,600      |   | $ | 1,600 |   |

 

6

----

Table of Contents

 

**MANHATTAN BANCORP AND SUBSIDIARIES**

**NOTES TOFINANCIAL STATEMENTS**

**SEPTEMBER 30, 2009**

 

**Note 1.     CONSOLIDATED FINANCIAL STATEMENTS**

 

The accompanying unaudited condensed consolidatedfinancial statements of Manhattan Bancorp (the “Bancorp”) and its wholly-ownedsubsidiaries, Bank of Manhattan, N.A. (the “Bank”) and MBFS Holdings, Inc.,(“MBFS”),  together referred to as the “Company”have been prepared in accordance with the instructions to Form 10-Q and Article 8of Regulation S-X.  Accordingly, certaininformation and notes required by accounting principles generally accepted inthe United States of America for annual financial statements are not includedherein.  In the opinion of Management,all adjustments considered necessary for a fair presentation of results for theinterim periods presented have been included. These interim condensed consolidated financial statements should be readin conjunction with the financial statements and related notes contained in theCompany’s 2008 Annual Report on Form 10-K.

 

The preparation of condensed consolidated financialstatements in conformity with the accounting principles generally accepted inthe United States of America requires Management to make estimates andassumptions.  These estimates and assumptionsaffect the reported amounts of assets and liabilities, the disclosure ofcontingent assets and liabilities at the date of the consolidated financialstatements, and the reported amounts of revenues and expenses during thereporting period.   Actual results coulddiffer from these estimates. All material intercompany accounts andtransactions have been eliminated in consolidation.

 

Certain amounts in prior presentations may have beenreclassified to conform to the current presentation.  These reclassifications, if any, had noeffect on stockholders’ equity, net loss or loss-per-share amounts.

 

**Note 2.      RECENTACCOUNTING STANDARDS UPDATE**

 

***Business Combinations***:   On January 1, 2009, the Company adopteda new standard which requires, among other things, the acquiring entity in abusiness combination to recognize all (and only) the assets acquired andliabilities assumed in the transaction; establishes the acquisition date fairvalue as the measurement objective for all assets acquired and liabilitiesassumed; and requires the acquirer to disclose to investors and other users allof the information they need to evaluate and understand the nature andfinancial effect of the business combination. The adoption of this standard hadno effect on the Company’s financial statements.

 

***Noncontrolling Interest in ConsolidatedFinancial Statements: ***On January 1,2009, the Company adopted a new standard whose objective is to improve therelevance, comparability, and transparency of the financial information that areporting entity provides in its consolidated financial statements byestablishing accounting and reporting standards for the noncontrolling interestin a subsidiary. The adoption of this standard will effect the presentation ofthe Company’s financial statements in the fourth quarter of 2009.

 

7

----

Table ofContents

 

**MANHATTAN BANCORP AND SUBSIDIARIES**

**NOTES TO FINANCIAL STATEMENTS**

 

**Note 2.      RECENTACCOUNTING STANDARDS UPDATE-Continued**

 

***Subsequent Events:  ***In May, 2009, the Companyadopted a new standard which establishes accounting for and disclosure ofevents that occur after the balance sheet date but before financial statements areissued or available to be issued. The standard defines (i) the periodafter the balance sheet date during which a reporting entity’s managementshould evaluate events or transactions that may occur for potential recognitionor disclosure in the financial statements (ii) the circumstances underwhich an entity should recognize events or transactions occurring after thebalance sheet date in its financial statements, and (iii) the disclosuresan entity should make about events or transactions that occurred after thebalance sheet date. The adoption of this standard had no effect on the Company’sfinancial statements.

 

***Accounting for Transfers of FinancialAssets:  ***This newstandard enhances reporting about transfers of financial assets, includingsecuritizations, and where companies have continuing exposure to the risksrelated to transferred financial assets. It eliminates the concept of a “qualifyingspecial-purpose entity” and changes the requirements for derecognizingfinancial assets. It also requires additional disclosures about all continuinginvolvements with transferred financial assets including information aboutgains and losses resulting from transfers during the period. The standard willbe effective January 1, 2010 and is not expected to have an impact on theCompany’s financial statements.

 

***Accounting Standards Codification and theHierarchy of Generally Accepted Accounting Principles:***On September 30,2009, the Company adopted a new standard that makes the Financial AccountingStandards Board’s Accounting Standards Codification (the “Codification”) as thesource of authoritative accounting principles recognized by the FASB to beapplied by non-governmental entities in the preparation of financial statementsin conformity with GAAP. Rules and interpretive releases of the Securitiesand Exchange Commission (SEC) under authority of federal securities laws arealso sources of authoritative guidance for SEC registrants. All guidancecontained in the Codification carries an equal level of authority. Allnon-grandfathered, non-SEC accounting literature not included in theCodification is superseded and deemed non-authoritative. The Codification doesnot change or alter existing GAAP and, therefore, the adoption of this standardhad no effect on the Company’s financial statements, other than to eliminateprevious references to accounting pronouncements that are no longer applicableas a result of this new codification scheme.

 

**Impairment:  **On January 1,2009, the Company adopted a new standard whose objective is to achieve moreconsistent determinations of whether OTTI has occurred. The adoption of thisstandard had no effect on the Company’s financial statements.

 

**Fair Value Measurements and Impairments of Securities: ** On June 30, 2009, the Company adopted newaccounting standards that provide additional application guidance and enhancedisclosures regarding fair value measurements and impairments of securities, aswell as clarity and consistency in accounting for and presenting impairmentlosses on securities. The standards give guidance to determining fair valueswhen there is no active market or where the price inputs being used representdistressed sales. It reaffirms the need to use judgment to ascertain if aformerly active market has become inactive and in determining fair values whenmarkets have become inactive. The standards also relate to fair valuedisclosures for any financial instruments that are not currently reflected onthe balance sheet of companies at fair value. Previously, fair values for theseassets and liabilities were only disclosed once a year, These disclosures arenow required on a quarterly basis to provide qualitative and quantitativeinformation about fair value estimates for all those financial instruments notmeasured on the balance sheet at fair value. Guidance on OTTI is intended tobring greater consistency to the timing of impairment recognition, and provide

 

8

----

Table ofContents

 

**MANHATTAN BANCORP AND SUBSIDIARIES**

**NOTES TO FINANCIAL STATEMENTS**

 

**Note 2.      RECENTACCOUNTING STANDARDS UPDATE-Continued**

 

greaterclarity to investors about the credit and noncredit components of impaired debtsecurities that are not expected to be sold. The measure of impairment incomprehensive income remains fair value. The standard also requires increasedand timelier disclosures sought by investors regarding expected cash flows,credit losses, and an aging of securities with unrealized losses. The adoptionof this standard had no impact on the Company’s financial statements.

 

**Note 3.   INTEREST-EARNING ASSETS WITH OTHER FINANCIAL INSTITUTIONS**

 

At September 30, 2009, the Company hadinterest-earning deposits with other financial institutions of $3.0 million,with a weighted average yield of 2.14%, and an average weighted remaining lifeof approximately four months.

 

**Note 4.    INVESTMENTSECURITIES**

 

Investment securities have been classified in thebalance sheet according to management’s intent. The following table sets forththe investment securities at their amortized cost and estimated fair value withgross unrealized gains and losses as of September 30, 2009 and December 31,2008.

 
| ** **                                 | ** ** | ** **          | ** ** | **Gross**      | ** ** | **Gross**      | ** ** | ** ** | ** ** |
|--------------------------------------------|------------|---------------------|------------|----------------|------------|----------------|------------|------------|------------|
| ** **                                 | ** ** | **Amortized**       | ** ** | **Unrealized** | ** ** | **Unrealized** | ** ** | **Fair**   | ** ** |
| **September 30, 2009****(unaudited)** | ** ** | **Cost**            | ** ** | **Gains**      | ** ** | **Losses**     | ** ** | **Value**  | ** ** |
| ** **                                 | ** ** | **(in  thousands)** | ** ** |
| **Available-for-sale securities:**         |       |                |       |           |       |           |       |       |       |
| U.S.  government and agency securities     |       | $                   | 980        |           | $          | 5              |       | $          | —     |   | $ | 985 |   |
| Mortgage-backed  securities                |       | 4,942               |       | 297            |       | —         |       | 5,239      |       |
| **Total available-for-sale securities**    |       | $                   | 5,922      |           | $          | 302            |       | $          | —     |   | $ | 6,224 |   |
|                                       |       |                |       |           |       |           |       |       |       |
| **Held-to-maturity securities:**           |       |                |       |           |       |           |       |       |       |
| State  and municipal securities            |       | $                   | 993        |           | $          | 8              |       | $          | —     |   | $ | 1,001 |   |

 
| ** **                              | ** ** | ** **          | ** ** | **Gross**      | ** ** | **Gross**      | ** ** | ** ** | ** ** |
|-----------------------------------------|------------|---------------------|------------|----------------|------------|----------------|------------|------------|------------|
| ** **                              | ** ** | **Amortized**       | ** ** | **Unrealized** | ** ** | **Unrealized** | ** ** | **Fair**   | ** ** |
| **December 31, 2008****(audited)** | ** ** | **Cost**            | ** ** | **Gains**      | ** ** | **Losses**     | ** ** | **Value**  | ** ** |
| ** **                              | ** ** | **(in  thousands)** | ** ** |
| **Available-for-sale securities:**      |       |                |       |           |       |           |       |       |       |
| U.S.  government and agency securities  |       | $                   | 980        |           | $          | 28             |       | $          | —     |   | $ | 1,008 |   |
| Mortgage-backed  securities             |       | 6,127               |       | 279            |       | —         |       | 6,406      |       |
| **Total available-for-sale securities** |       | $                   | 7,107      |           | $          | 307            |       | $          | —     |   | $ | 7,414 |   |
|                                    |       |                |       |           |       |           |       |       |       |
| **Held-to-maturity securities:**        |       |                |       |           |       |           |       |       |       |
| State  and municipal securities         |       | $                   | 991        |           | $          | 1              |       | $          | 5          |   | $ | 987 |   |

 

The fair value of these securities is based uponquoted market prices unless otherwise indicated in Note 7, which talks aboutacceptable methods of establishing fair value*.*

 

9

----

Table of Contents

 

**MANHATTAN BANCORP AND SUBSIDIARIES**

**NOTES TO FINANCIAL STATEMENTS**

 

**Note 4.    INVESTMENTSECURITIES-Continued**

 

There were no realized gains or losses for thenine-month period ended September 30, 2009.   The change in net unrealized loss onavailable-for-sale securities included in accumulated other comprehensiveincome was approximately $6,000 for the nine-month period ended September 30,2009. The comparable figure for the nine-month period ended September 30,2008 was a gain of approximately $19,000. Available-for-sale securities with anamortized cost of approximately $4.9 million (fair value of approximately $5.1million) were pledged as collateral for Federal Home Loan Bank advances as of September 30,2009.

 

Management does not believe that any of the Company’sinvestment securities are impaired due to reasons of credit quality.  Declines in the fair value ofavailable-for-sale securities below their cost, that are deemed to beother-than-temporary, are reflected in earnings as realized losses.  In estimating other-than-temporary losses,management considers among other things: (i) the length of time and theextent to which the fair value has been less than cost; (ii) the financialcondition and near-term prospects of the issuer; and (iii) the intent andability of the Company to retain its investment in the issuer for a period oftime sufficient to allow for any anticipated recovery in fair value.

 

At September 30, 2009, the Company had nosecurities with unrealized losses. Accordingly, there were no securities in a continual loss position for anyof the required reporting periods at September 30, 2009.

 

Any intra-period declines in market values wereattributable to changes in market rates of interest rather than creditquality.  Moreover, because the Companyhas the ability and intent to hold all of its investments until a recovery offair value, which may be at maturity, the Company considers none of itsinvestments to be temporarily impaired at September 30, 2009.

 

The amortized cost, estimated fair value and averageyield of debt securities at September 30, 2009 are shown below.  In the case of available-for-sale securities,the average yields are based on effective rates of book balances atyear-end.  Yields are derived by dividinginterest income, adjusted for amortization of premiums and accretion ofdiscounts, by total amortized cost. Mortgage-backed securities are classified in accordance with estimatedlives.  Expected maturities may differfrom contractual maturities because borrowers have the right to prepayobligations.

 
| ** **                                | ** ** | **Available-for-Sale  Securities** | ** ** | **Held-to-Maturity  Securities** | ** ** |
|-------------------------------------------|------------|------------------------------------|------------|----------------------------------|------------|
| ** **                                | ** ** | ** **                         | ** ** | ** **                       | ** ** | **Weighted** | ** ** | ** ** | ** ** | ** ** | ** ** | **Weighted** | ** ** |
| **(dollars in thousands)****(unaudited)** | ** ** | **Amortized  Cost**                | ** ** | **Fair  Value**                  | ** ** | **Average  Yield** | ** ** | **Amortized  Cost** | ** ** | **Fair  Value** | ** ** | **Average  Yield** | ** ** |
| Due  in One Year or Less                  |       | $                                  | 1,170      |                             | $          | 1,238 |   | 5.18 | % | $ | 993 |   | $ | 1,001 |   | 4.86 | % |
| Due  from One Year to Five Years          |       | 2,780                              |       | 2,932                            |       | 5.19 | % |   |   |   |   |   |   |
| Due  from Five Years to Ten Years         |       | 1,845                              |       | 1,919                            |       | 5.19 | % |   |   |   |   |   |   |
| Due  after Ten Years                      |       | 127                                |       | 135                              |       | 5.34 | % |   |   |   |   |   |   |
|                                      |       | $                                  | 5,922      |                             | $          | 6,224 |   | 5.19 | % | $ | 993 |   | $ | 1,001 |   | 4.86 | % |

 

10

----

Table ofContents

 

**MANHATTAN BANCORP AND SUBSIDIARIES**

**NOTES TO FINANCIALSTATEMENTS**

 

**Note 5.     LOANS ANDALLOWANCE FOR LOAN LOSSES**

 

Loans are summarized as follows:

 
| ** **                            | ** ** | **September 30,  2009 (unaudited)** | ** ** | **December 31,  2008 (audited)** | ** ** |
|---------------------------------------|------------|------------------------------------------|------------|---------------------------------------|------------|
| ** **                            | ** ** | **Amount**                               | ** ** | **Percentage  of**                    | ** ** | **Amount** | ** ** | **Percentage  of** | ** ** |
| **(dollars  in thousands)**           | ** ** | **Outstanding**                          | ** ** | **Total**                             | ** ** | **Outstanding** | ** ** | **Total** | ** ** |
| Commercial  loans                     |       | $                                        | 26,140     |                                  | 35.8       | % | $ | 18,319 |   | 31.9 | % |
| Real  estate loans                    |       | 39,082                                   |       | 53.5                                  | %          | 32,956 |   | 57.4 | % |
| Other  loans                          |       | 7,836                                    |       | 10.7                                  | %          | 6,167 |   | 10.7 | % |
| Total  loans, including net loan fees |       | 73,058                                   |       | 100.0                                 | %          | 57,442 |   | 100.0 | % |
| Less  : allowance for loan losses     |       | (1,095                                   | )          |                                  |       | (975 | ) |   |   |
| Net  loans                            |       | $                                        | 71,963     |                                  |       |   | $ | 56,467 |   |   |   |

 

At September 30, 2009, the Company had noimpaired or non-accrual loans.  Therewere no loans past due 90 days or more in either interest or principal as of September 30,2009 and December 31, 2008.

 

In the Bank’s period review of the loan portfolio,the Bank recognizes that credit losses will be experienced and the risk of losswill vary with, among other things, general economic conditions, the types ofloans being made, the creditworthiness of the borrower over the term of theloan and, in the case of a collateralized loan, the quality of the collateralof that loan.  The allowance for loanlosses represents the Bank’s estimate of the potential losses in thatportfolio.  In making that determination,the Bank analyzes the ultimate ability to collect the loans in its portfoliowithin the contracted time and at the contracted amounts.  Comments on loan quality are provided byinternal loan staff, independent loan reviews and examinations performed byregulatory agencies.  As a part of thatongoing monthly analysis, the Bank recognized recent changes in the ultimatecollectability of some of its loans, even among those that were stillperforming as agreed.  Among those loans,the Bank charged off certain loans totaling approximately $478,000 for thethird quarter of 2009.

 

The following table presents an analysis of changesin the allowance for loan losses during the periods indicated:

 
| ** **                                     | ** ** | **For  the three months ended** | ** ** | **For  the nine months ended** | ** ** |
|------------------------------------------------|------------|---------------------------------|------------|--------------------------------|------------|
| ** **                                     | ** ** | **September 30,**          | ** ** | **September 30,**         | ** ** |
| **(Unaudited)**                                | ** ** | **2009**                        | ** ** | **2008**                       | ** ** | **2009** | ** ** | **2008** | ** ** |
| ** **                                     | ** ** | **(in  thousands)**             | ** ** | **(in  thousands)**            | ** ** | **(in  thousands)** | ** ** | **(in  thousands)** | ** ** |
| Balance  at beginning of period                |       | $                               | 1,090      |                           | $          | 598 |   | $ | 975 |   | $ | 269 |   |
| Additions  to the allowance charged to expense |       | 469                             |       | 102                            |       | 1,096 |   | 431 |   |
| Recoveries                                     |       | 14                              |       | —                         |       | 14 |   | — |   |
|                                           |       | 1,573                           |       | 700                            |       | 2,085 |   | 700 |   |
| Less  loans charged-off                        |       | 478                             |       | —                         |       | 990 |   | — |   |
|                                           |       |                            |       |                           |       |   |   |   |   |
| Balance  at end of period                      |       | $                               | 1,095      |                           | $          | 700 |   | $ | 1,095 |   | $ | 700 |   |

 

11

----

Table ofContents

 

**MANHATTAN BANCORP AND SUBSIDIARIES**

**NOTES TO FINANCIALSTATEMENTS**

 

**Note 6.     SHARE-BASEDCOMPENSATION**

 

The following table presents the recorded andunrecognized share-based compensation expenses for the periods indicated:

 
| ** **                        | ** ** | **For  the three months ended** | ** ** | **For  the nine months ended** | ** ** |
|-----------------------------------|------------|---------------------------------|------------|--------------------------------|------------|
| ** **                        | ** ** | **September 30,**          | ** ** | **September 30,**         | ** ** |
| **(unaudited)**                   | ** ** | **2009**                        | ** ** | **2008**                       | ** ** | **2009** | ** ** | **2008** | ** ** |
| ** **                        | ** ** | **(in  thousands)**             | ** ** | **(in  thousands)**            | ** ** | **(in  thousands)** | ** ** | **(in  thousands)** | ** ** |
| Share-based  compensation expense |       | $                               | 196        |                           | $          | 176 |   | $ | 587 |   | $ | 512 |   |
|                                   |            |                                 |            |                                |            |  |  |  |  |  |  |  |  |

 
| ** **                                     | ** ** | **As of**              | ** ** |
|------------------------------------------------|------------|------------------------|------------|
| ** **                                     | ** ** | **September 30,** | ** ** |
| ** **                                     | ** ** | **2009**               | ** ** | **2008** | ** ** |
| ** **                                     | ** ** | **(in  thousands)**    | ** ** | **(in  thousands)** | ** ** |
| Unrecognized  share-based compensation expense |       |                   |       |   |   |
| Remainder  of 2008                             |       | $                      | —     |   | $ | 176 |   |
| Remainder  of 2009                             |       | 196                    |       | 692 |   |
| 2010                                           |       | 557                    |       | 444 |   |
| 2011                                           |       | 208                    |       | 22 |   |
| 2012                                           |       | 5                      |       | — |   |
| Total                                          |       | $                      | 966        |   | $ | 1,334 |   |

 

TheCompany uses the Black-Scholes option valuation model to determine the fairvalue of options.  The Company utilizesassumptions on expected life, risk-free rate, expected volatility and dividendyield to determine such values.  Ifgrants were to occur, the Company would estimate the life of the options bycalculating the average of the vesting period and the contractual life.   The risk-free rate would be based upontreasury instruments in effect at the time of the grant whose terms areconsistent with the expected life of the Company’s stock options.  Expected volatility would be based onhistorical volatility of other financial institutions within the Company’soperating area as the Company has limited market history.

 

Thefollowing table summarizes the weighted average assumptions utilized for stockoptions granted for the period presented:

 
| ** **            | ** ** | **Period  Ended**      | ** ** |
|-----------------------|------------|------------------------|------------|
| ** **            | ** ** | **September 30,** | ** ** |
| **(unaudited)**       | ** ** | **2009**               | ** ** | **2008** | ** ** |
| Risk-free  rate       |       | 2.24                   | %          | 3.32 | % |
| Expected  term        |       | 6  years               |       | 6  years |   |
| Expected  volatility  |       | 26.16                  | %          | 36.27 | % |
| Dividend  yield       |       | 0.00                   | %          | 0.00 | % |
| Fair  value per share |       | $                      | 0.74       |   | $ | 3.54 |   |
|                       |            |                        |            |  |  |  |  |

 

12

----

Table ofContents

 

**MANHATTAN BANCORP AND SUBSIDIARIES**

**NOTES TO FINANCIALSTATEMENTS**

 

**Note 6.     SHARE-BASEDCOMPENSATION-Continued**

 

Thefollowing table summarizes the stock option activity under the plan for theperiods indicated:

 
| ** **                                      | ** ** | ** ** | ** ** | **Weighted  Average** | ** ** | **Weighted  Average  Remaining** | ** ** | **Aggregate  Intrinsic** | ** ** |
|-------------------------------------------------|------------|------------|------------|-----------------------|------------|----------------------------------|------------|--------------------------|------------|
| **(unaudited)**                                 | ** ** | **Shares** | ** ** | **Exercise  Price**   | ** ** | **Contractual  Life**            | ** ** | **Value**                | ** ** |
| **2008**                                        |       |       |       |                  |       |                             |       |                     |       |
| Outstanding  at December 31, 2007          |       | 531,770    |       | $                     | 9.99       |                             |       |                     |       |   |
| Granted                                         |       | 53,550     |       | $                     | 8.68       |                             |       |                     |       |   |
| Exercised                                       |       | —     |       | —                |       |                             |       |                     |       |
| Expired                                         |       | —     |       | —                |       |                             |       |                     |       |
| Forfeited                                       |       | 39,114     |       | $                     | 9.99       |                             |       |                     |       |   |
| Outstanding  at September 30, 2008         |       | 546,206    |       | $                     | 9.85       |                             | 8.97       |                     | $          | 22,625 |   |
| Options  exercisable at September 30, 2008 |       | 157,796    |       | $                     | 10.00      |                             | 8.88       |                     | $          | — |   |
| Options  unvested at September 30, 2008    |       | 388,410    |       | $                     | 9.78       |                             | 9.00       |                     | $          | 22,625 |   |
|                                            |       |       |       |                  |       |                             |       |                     |       |
| **2009**                                        |       |       |       |                  |       |                             |       |                     |       |
| Outstanding  at December 31, 2008          |       | 657,480    |       | $                     | 9.99       |                             |       |                     |       |   |
| Granted                                         |       | 42,250     |       | $                     | 8.25       |                             |       |                     |       |   |
| Exercised                                       |       | —     |       | —                |       |                             |       |                     |       |
| Expired                                         |       | —     |       | —                |       |                             |       |                     |       |
| Forfeited                                       |       | 12,755     |       | $                     | 9.96       |                             |       |                     |       |   |
| Outstanding  at September 30, 2009         |       | 686,975    |       | $                     | 9.42       |                             | 8.31       |                     | $          | — |   |
| Options  exercisable at September 30, 2009 |       | 314,889    |       | $                     | 9.91       |                             | 7.93       |                     | $          | — |   |
| Options  unvested at September 30, 2009    |       | 372,086    |       | $                     | 9.00       |                             | 8.60       |                     | $          | — |   |

 

**Note 7.     FAIR VALUEMEASUREMENTS**

 

Currentaccounting rules defines the fair value of a financial instrument as theamount at which the asset or obligation could be exchanged in a currenttransaction between willing parties, other than in a forced or liquidationsale.   Fair value estimates are made ata specific point in time based upon relevant market information and informationabout the financial instrument.  Theseestimates do not reflect any premium or discount that could result fromoffering for sale at one time the entire holdings of a particular financialinstrument.  Because no market valueexists for a significant portion of the financial instruments, fair valueestimates are based on judgments regarding future expected loss experience,current economic conditions, risk characteristics of various financialinstruments, and other factors.  Theseestimates are subjective in nature, involve uncertainties and matters ofjudgment, and therefore cannot be determined with precision.  Changes in assumptions could significantlyaffect the estimates.

 

Fairvalue estimates are based on financial instruments both on and off the balancesheet without attempting to estimate the value of anticipated future businessand the value of assets andliabilities that are notconsidered financial instruments. Additionally, tax consequences related to the realization of theunrealized gains and losses can have a potential effect on fair value estimatesand have not been considered in many of the estimates. The following methodsand assumptions were used to estimate the fair value of significant financialinstruments.

 

13

----

Table ofContents

 

**MANHATTAN BANCORP AND SUBSIDIARIES**

**NOTES TO FINANCIALSTATEMENTS**

 

**Note 7.     FAIR VALUEMEASUREMENTS-Continued**

 

*FinancialAssets*

 

Thecarrying amount of cash and short-term investments is considered to approximatefair value.  Short-term investments includefederal funds sold and interest-bearing deposits with other financialinstitutions.  The fair value ofinvestment securities is generally based upon quoted market prices.  The fair value of loans is estimated using acombination of techniques, including discounting estimated future cash flowsand quoted market prices of similar instruments where available.

 

*FinancialLiabilities*

 

Thecarrying amount of deposit liabilities payable on demand is considered toapproximate fair value.  For fixedmaturity deposits, fair value is estimated by discounting estimated future cashflows using currently offered rates for deposits of similar remainingmaturities.  The fair value of long-termdebt is based upon rates currently available to the Company for debt withsimilar terms and remaining maturities.

 

*Off-BalanceSheet Financial Instruments*

 

Thefair value of commitments to extend credit and standby letters of credit isestimated using the fees currently charged to enter into similaragreements.  The fair value of thesefinancial instruments is not material.

 

Theestimated fair value of financial instruments at September 30, 2009 and December 31,2008 is summarized as follows (dollar amount in thousands):

 
| ** **                                           | ** ** | **September 30,  2009** | ** ** | **December 31,  2008** | ** ** |
|------------------------------------------------------|------------|------------------------------|------------|-----------------------------|------------|
| ** **                                           | ** ** | **Carrying**                 | ** ** | **Estimated  Fair**         | ** ** | **Carrying** | ** ** | **Estimated  Fair** | ** ** |
| **(unaudited)**                                      | ** ** | **Value**                    | ** ** | **Value**                   | ** ** | **Value** | ** ** | **Value** | ** ** |
| **Financial Assets:**                                |       |                         |       |                        |       |   |   |   |   |
| Cash  and due from banks                             |       | $                            | 1,144      |                        | $          | 1,144 |   | $ | 19,710 |   | $ | 19,710 |   |
| Federal  funds sold/interest-bearing demand balances |       | 23,536                       |       | 23,536                      |       | — |   | — |   |
| Time  deposits-other financial institutions          |       | 3,016                        |       | 3,016                       |       | 4,198 |   | 4,198 |   |
| Investment  Securities                               |       | 7,217                        |       | 7,225                       |       | 8,404 |   | 8,400 |   |
| Loans,  net                                          |       | 71,963                       |       | 77,097                      |       | 56,467 |   | 62,133 |   |
| Non-marketable  stocks                               |       | 1,676                        |       | 1,676                       |       | 1,445 |   | 1,445 |   |
| Accrued  interest receivable                         |       | 352                          |       | 352                         |       | 284 |   | 284 |   |
| **Financial Liabilities:**                           |       |                         |       |                        |       |   |   |   |   |
| Non-interest  bearing deposits                       |       | 20,908                       |       | 20,908                      |       | 15,379 |   | 15,379 |   |
| Interest-bearing  deposits                           |       | 47,845                       |       | 47,555                      |       | 32,612 |   | 32,594 |   |
| Accrued  interest payable                            |       | 83                           |       | 83                          |       | 37 |   | 37 |   |
| FHLB  advances                                       |       | 11,500                       |       | 11,466                      |       | 9,500 |   | 9,462 |   |
|                                                      |            |                              |            |                             |            |  |  |  |  |  |  |  |  |

 

EffectiveJanuary 1, 2008, the Company adopted the accounting practice whichclarifies the definition of fair value, describes methods used to appropriatelymeasure fair value in accordance with generally accepted accounting principlesin the United States of America, and expands fair value disclosurerequirements.  This practice applieswhenever other accounting pronouncements require or permit fair valuemeasurements.  The fair value hierarchythis practice prioritizes the inputs to valuation techniques used to measurefair value into three broad levels (Level 1, Level 2, and Level 3).  Level 1 inputs are unadjusted quoted pricesin active markets (as defined) for identical assets or liabilities that thereporting entity has the ability to access at the measurement date.  Level 2 inputs are inputs other than quotedprices

 

14

----

Table ofContents

 

**MANHATTAN BANCORP AND SUBSIDIARIES**

**NOTES TO FINANCIALSTATEMENTS**

 

**Note 7.     FAIR VALUEMEASUREMENTS-Continued**

 

includedwithin Level 1, which are observable for the asset or liability, eitherdirectly or indirectly.  Level 3 inputsare observable inputs for the asset or liability and reflect the reportingentity’s own assumptions about the assumptions that market participants woulduse in pricing the asset or liability(including assumptions about risk).

 

The Company performs fair-value measurements oncertain assets using methods which are most relevant to providing a reasonablevaluation.  Some fair-value measurements,such as for available-for-sale securities, are performed on a recurring basis.

 

The following table summarizes the Company’s assetsand liabilities, if any, which were measured at fair value on a recurring basisduring the period, with dollars reported in thousands:

 
| ** **                           | ** ** | ** **             | ** ** | **Quoted  Price in** | ** ** | **Significant** | ** ** | ** **       | ** ** |
|--------------------------------------|------------|------------------------|------------|----------------------|------------|-----------------|------------|------------------|------------|
| ** **                           | ** ** | ** **             | ** ** | **Active  Markets**  | ** ** | **Other**       | ** ** | **Significant**  | ** ** |
| ** **                           | ** ** | ** **             | ** ** | **for  Identical**   | ** ** | **Observable**  | ** ** | **Unobservable** | ** ** |
| **(unaudited)**                      | ** ** | **September 30,** | ** ** | **Assets**           | ** ** | **Inputs**      | ** ** | **Inputs**       | ** ** |
| **Description  of Asset/Liabiltity** | ** ** | **2009**               | ** ** | **(Level  1)**       | ** ** | **(Level  2)**  | ** ** | **(Level  3)**   | ** ** |
| Available-for-sale  securities       |       | $                      | 6,224      |                 | $          | —          |       | $                | 6,224      |   | $ | — |   |
|                                      |            |                        |            |                      |            |                 |            |                  |            |  |  |  |  |

 

Available-for-sale securities are valued based uponinputs derived principally from observable market data.  Changes in fair market value are recorded inother comprehensive income as the securities are available for sale.

 

**Note 8.     OTHERBORROWINGS**

 

At September 30, 2009, the Company had acollateralized line of credit with the Federal Home Loan Bank (“FHLB”) totaling$15.6 million, against which it had outstanding $4.5 million consisting of aFHLB five-year fixed rate advance at 4.38% maturing on June 27, 2013 and$7.0 million consisting of a FHLB overnight variable rate advance at 0.10%maturing on October 1, 2009.

 

**Note 9.     EARNINGS(LOSS) PER SHARE**

 

Basicearnings (loss) per share represents income available (loss reported) to commonstock divided by the weighted average number of common shares outstandingduring the period reported on the Statement of Operations. Diluted earnings(loss) per share reflect additional common shares that would have beenoutstanding if dilutive potential common shares had been issued, as well as anyadjustment to income that would result from the assumed conversion. There were nodilutive potential common shares outstanding for any periods reported on theStatement of Operations.

 

15

----

Table ofContents

 

**MANHATTAN BANCORP AND SUBSIDIARIES**

**NOTES TO FINANCIALSTATEMENTS**

 

**Note 10.     SUBSEQUENTEVENTS**

 

Subsequentevents* *are events ortransactions that occur after the balance sheet date but before financialstatements are issued. Recognized subsequent events are events or transactionsthat provide additional evidence about conditions that existed at the date ofthe balance sheet, including the estimates inherent in the process of preparingfinancial statements.  Nonrecognized subsequent events are eventsthat provide evidence about conditions that did not exist at the date of thebalance sheet but arose after that date.  Management has reviewed events occurringthrough November 12, 2009, the date the financial statements wereissued.  There were no recognizedsubsequent events requiring accrual.  However, a nonrecognized subsequent event occurred as of October 9,2009, when the United States Department of the Treasury (“Treasury”) notifiedthe Company of the Treasury’s acceptance of the Company’s offer to repurchasethe outstanding Warrant (the “Warrant”) for 29,480 shares of the Company’sstock at a total price of $63,364.  Therepurchase of the Warrant occurred on October 14, 2009 and fullyeliminates all restrictions and reporting requirements under the TARPregulations.

 

TheWarrant was originally issued in conjunction with the Company’s Fixed RateCumulative Perpetual Stock, Series A (the “Preferred Stock”), which wasrepurchased on September 16, 2009, details of which can be found in aCurrent Report on Form 8-K filed on September 16, 2009.

 

OnOctober 1, 2009, the Company completed its acquisition of BOM Capital, LLCthrough its wholly-owned subsidiary MBFS Holdings, Inc.

 

16

----

Table ofContents

 

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

 

***Forward-Looking Statements***

 

**The statements contained in this Quarterly Report on Form 10-Q,that are not historical facts, are forward-looking statements within themeaning of the Private Securities Litigation Reform Act of 1995, and are basedupon management’s current expectations and beliefs concerning furtherdevelopments and their potential effects on Manhattan Bancorp and itssubsidiary.  The Company’sforward-looking statements involve risks and uncertainties, including the risksand uncertainties described in the Company’s December 31, 2008 10-K ITEM1A. Risk Factors.  There can be noassurance that future developments affecting Manhattan Bancorp will be the sameas those anticipated by management, and actual results may differ from thoseprojected in the forward-looking statements. Statements regarding policies and procedures are not intended, andshould not be interpreted to mean, that such policies and procedures will notbe amended, modified, or repealed at any time in the future.**

 

***The Company***

 

Manhattan Bancorp (“Bancorp”) is a bankholding company, which was incorporated in August 2006 in order to acquireBank of Manhattan, N.A. (the “Bank”), a de novo bank which was acquired on August 14,2007.  The Bank is a nationally-charteredbanking association which was organized under the laws of the United States on August 15,2007.  The Bank is located in El Segundo,California and as of September 30, 2009 had $110.0 million in assets,$71.7 million in net loans receivable and $74.9 million in deposits. Through theperiod covered by this report, the Bancorp operated primarily through the Bank,and the capital stock of the Bank was its principal assets.  On October 1, 2009, MBFS Holdings, Inc.,a recently-formed wholly-owned subsidiary of the Bancorp, acquired a 70%ownership interest in BOM Capital, LLC (“BOM”). BOM engages in the “riskless principal” securities tradingbusiness.  Unless the context requiresotherwise, references in this Form 10-Q to the “Company,” “we” or “us”refer to the Bancorp and its consolidated subsidiaries, the Bank and MBFS.

 

Management’s discussion and analysis of financialcondition and results of operation is intended to provide a betterunderstanding of the significant changes in trends relating to the Company’sfinancial condition, results of operation, liquidity and interest ratesensitivity.  The following discussionand analysis should be read in conjunction with the unaudited financialstatements contained within this report including the notes thereto.

 

***Earnings and Financial Condition Overview***

 

For the three months ended September 30, 2009,the Company recorded a loss of $1,274,000 or $0.32 per basic share of commonstock.   Comparing the Company’s 2008third-quarter loss of $998,000 or $0.38 per basic share of common stock withthe current operating quarter reflects an approximate 27.6% increase in thereported comparable quarterly loss for 2009. Similarly, the nine-month recordedloss for the period ended September 30, 2009 was $3,961,000 or $0.99 perbasic share of common stock reflecting a 19.4% increase in the reportedcomparable nine-month loss of $3,318,000 or $1.33 per share for the first ninemonths of 2008.

 

Outstanding gross loans reflect a modest growth inthe third quarter of 2009 over the more robust growth experienced in thepreceding quarter.  The Company’s loanportfolio as of September 30, 2009 contains no delinquent loans in excessof thirty days or loans on non-accrual. The reduction in the dollar size of loans with recognized creditconcerns has allowed the Company to maintain the allowance for loan losses 

 

17

----

Table of Contents

 

at acceptable levels, although the percentage of theallowance has decreased from 1.70% as of December 31, 2008 to 1.50% as of September 30,2009.  The allowance for loan lossespercentage, as reported in both December 31, 2008 and March 31, 2009,reflected the potential deficiency associated with certain credits, wherespecific reserves were set aside to acknowledge the possible shortfall.  The recognition of the loss, even though thecredits were technically still performing, removed the need for a specificreserve, thus allowing the allowance to return to the level noted above.

 

The provision for loan losses for the three-monthperiod ended September 30, 2009 was $469,000 compared to only $102,000 forthe same three-month period ended September 30, 2008.  Similarly, the provision for the nine-monthperiod ended September 30, 2009 was $1,096,000 compared to only $431,000for the similar nine-month period ended September 30, 2008.  The recognition of losses of approximately$990,000 is reflected in the higher 2009 provisions.

 

Net interest income after provision for loan lossesfor the three-month period ended September 30, 2009 was approximately$535,000, an increase of approximately $39,000 over the prior year’sthree-month period ended September 30, 2008.  This was an 8% improvement in net interestincome, despite the recognition of the third quarter loan loss.  This was possible because of a significantincrease in interest income, up approximately $295,000 (32%), coupled with asignificant decrease in interest expense, down approximately $110,000 (36%),for the comparable three-month period ended September 30, 2009 over thesame period in 2008.

 

Net interest income after provision for loan lossesfor the nine-month period ended September 30, 2009 was approximately$1,573,000, an increase of approximately $419,000 over the prior year’snine-month period ended September 30, 2008.  This was a 36% improvement in net-interestincome, despite the recognition of the loan losses, and was possible because ofan increase in interest income, up approximately $1,099,000 (51%) for thecomparable nine-month period ended September 30, 2009 over the same periodin 2008.   Interest expense alsoincreased but by a smaller percentage (3%) for the comparable nine-month periodended September 30, 2009 over September 30, 2008 with the actualdollar amount only increasing approximately $15,000.

 

Non-interest expense for the three-month periodsended September 30, 2009 compared to September 30, 2008 increased byapproximately $344,000 or 23%. Non-interest expense for the nine-month periods ended September 30,2009 compared to September 30, 2008 increased by approximately $1,119,000or 25%.  A detailed analysis is foundunder *Non-Interest Expense.*

 

As of September 30, 2009, total assets of theCompany were approximately $110.3 million. This represents an increase of approximately $18.2 million or 19.8% overthe amount reported as of December 31, 2008.  The growth in total assets can be attributedto an increase of approximately $15.6 million in gross loan balances or 27.2%from the approximately $57.4 million reported as of December 31, 2008.

 

Funding for the loan growth was obtained primarilyfrom deposit growth and advances from the Federal Home Loan Bank.  At September 30, 2009, total depositswere approximately $68.8 million compared with the balance of approximately$48.0 million as of December 31, 2008. This represents an approximately $20.8 million increase or 43.3%.  A net increase of $2.0 million in overnightFederal Home Loan Bank advances provided another source of funding.

 

In December 2008, the Company issued1,700 shares of its Series A Preferred Stock and a warrant to purchase29,480 shares of the Company’s common stock to the United States Department ofthe Treasury (“Treasury”) in connection with Treasury’s TARP Capital PurchaseProgram for a total price of $1,700,000. In August, 2009, the Company’s Board authorized the Company to redeemthe preferred stock for $1,700,000 plus all accrued and unpaid dividends on thepreferred stock.  The redemption of the 

 

18

----

Table of Contents

 

preferred stock was approved by both Treasuryand the Federal Reserve Board, the Company’s primary federal banking regulator,and the preferred stock was redeemed on September 16, 2009.  On September 29, 2009 the Companyinformed the Treasury of its intent to repurchase the warrant at a purchaseprice to be agreed upon by the Company and Treasury.  Upon acceptance of the Company’s valuation ofthe warrant by the Treasury on October 9, 2009, the warrant wasrepurchased by the Company on October 14, 2009 at the agreed-upon price ofapproximately $63,000.

 

The following table provides selected financial datathat highlights the Company’s financial performance for each of the eight fullquarters that it has been in operation:

 
| ** **                                             | ** ** | **For the  three months ended** | ** ** |
|--------------------------------------------------------|------------|---------------------------------|------------|
| ** **                                             | ** ** | **9/30/2009**                   | ** ** | **6/30/2009** | ** ** | **3/31/2009** | ** ** | **12/31/2008** | ** ** | **9/30/2008** | ** ** | **6/30/2008** | ** ** | **3/31/2008** | ** ** | **12/31/2007** | ** ** |
| ** **                                             | ** ** | **(Unaudited)**                 | ** ** | **(Unaudited)** | ** ** | **(Unaudited)** | ** ** | **(Audited)** | ** ** | **(Unaudited)** | ** ** | **(Unaudited)** | ** ** | **(Unaudited)** | ** ** | **(Audited)** | ** ** |
| **Statements  of Operations:**                         |       |                            |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Interest income                                        |       | $                               | 1,204      |   | $ | 1,109 |   | $ | 951 |   | $ | 909 |   | $ | 909 |   | $ | 696 |   | $ | 560 |   | $ | 453 |   |
| Interest expense                                       |       | 200                             |       | 179 |   | 216 |   | 248 |   | 310 |   | 140 |   | 130 |   | 86 |   |
|                                                   |       |                            |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Net interest income                                    |       | 1,004                           |       | 930 |   | 735 |   | 661 |   | 599 |   | 556 |   | 430 |   | 367 |   |
| Provision for loan  losses                             |       | 468                             |       | 454 |   | 174 |   | 275 |   | 102 |   | 163 |   | 166 |   | 167 |   |
|                                                   |       |                            |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Net interest income  after provision                   |       | 536                             |       | 476 |   | 561 |   | 386 |   | 497 |   | 393 |   | 264 |   | 200 |   |
|                                                   |       |                            |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Non-interest income                                    |       | 47                              |       | 34 |   | 17 |   | 11 |   | 18 |   | 11 |   | 13 |   | 1 |   |
| Non-interest expense                                   |       | 1,857                           |       | 1,964 |   | 1,811 |   | 1,498 |   | 1,513 |   | 1,557 |   | 1,444 |   | 1,484 |   |
|                                                   |       |                            |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Net loss from operations                               |       | $                               | (1,274     | ) | $ | (1,454 | ) | $ | (1,233 | ) | $ | (1,101 | ) | $ | (998 | ) | $ | (1,153 | ) | $ | (1,167 | ) | $ | (1,283 | ) |
|                                                   |       |                            |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| **Per  Share and Other Data:**                         |       |                            |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Basic and diluted loss  per share                      |       | $                               | (0.32      | ) | $ | (0.36 | ) | $ | (0.31 | ) | $ | (0.42 | ) | $ | (0.38 | ) | $ | (0.46 | ) | $ | (0.47 | ) | $ | (0.52 | ) |
| Book value per common  share- period end               |       | $                               | 7.31       |   | $ | 7.61 |   | $ | 7.94 |   | $ | 8.21 |   | $ | 7.52 |   | $ | 7.80 |   | $ | 8.17 |   | $ | 8.52 |   |
| Weighted average shares  outstanding basic and diluted |       | 3,988                           |       | 3,988 |   | 3,988 |   | 2,646 |   | 2,616 |   | 2,517 |   | 2,487 |   | 2,487 |   |
|                                                   |       |                            |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| **Balance  Sheet Data:**                               |       |                            |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Investments and fed  funds sold                        |       | $                               | 33,770     |   | $ | 27,114 |   | $ | 17,085 |   | $ | 12,603 |   | $ | 19,898 |   | $ | 13,760 |   | $ | 12,915 |   | $ | 18,087 |   |
| Loans, net                                             |       | $                               | 71,963     |   | $ | 71,154 |   | $ | 60,810 |   | $ | 56,467 |   | $ | 47,994 |   | $ | 41,769 |   | $ | 31,758 |   | $ | 17,930 |   |
| Assets                                                 |       | $                               | 110,270    |   | $ | 103,835 |   | $ | 97,221 |   | $ | 92,040 |   | $ | 71,806 |   | $ | 60,067 |   | $ | 48,526 |   | $ | 39,367 |   |
| Deposits                                               |       | $                               | 68,753     |   | $ | 59,650 |   | $ | 51,891 |   | $ | 47,991 |   | $ | 47,074 |   | $ | 34,727 |   | $ | 27,861 |   | $ | 17,862 |   |
| Shareholders’ equity                              |       | $                               | 29,141     |   | $ | 31,899 |   | $ | 33,244 |   | $ | 34,288 |   | $ | 19,667 |   | $ | 20,393 |   | $ | 20,314 |   | $ | 21,189 |   |
|                                                   |       |                            |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| **Selected  Financial Ratios**                         |       |                            |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Net loss as a percentage  of average assets            |       | -5.15                           | %          | -6.53 | % | -5.71 | % | -5.98 | % | -5.07 | % | -8.92 | % | -10.73 | % | -14.46 | % |
| Net loss as a percentage  of average equity            |       | -16.14                          | %          | -17.75 | % | -14.75 | % | -21.73 | % | -19.85 | % | -22.84 | % | -22.54 | % | -23.39 | % |
| Dividend payout ratio                                  |       | —                          |       | — |   | — |   | — |   | — |   | — |   | — |   | — |   |
| Equity to asset ratio                                  |       | 26.43                           | %          | 30.72 | % | 34.19 | % | 37.25 | % | 27.39 | % | 33.95 | % | 41.86 | % | 53.82 | % |
| Net interest margin                                    |       | 4.26                            | %          | 4.42 | % | 3.60 | % | 3.82 | % | 3.21 | % | 4.71 | % | 4.34 | % | 4.56 | % |
|                                                   |       |                            |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| **Credit  Quality**                                    |       |                            |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Allowance for loan  losses                             |       | $                               | 1,095      |   | $ | 1,090 |   | $ | 1,149 |   | $ | 975 |   | $ | 700 |   | $ | 598 |   | $ | 435 |   | $ | 269 |   |
| Allowance /total loans                                 |       | 1.50                            | %          | 1.51 | % | 1.85 | % | 1.70 | % | 1.44 | % | 1.41 | % | 1.35 | % | 1.48 | % |
| Non-performing loans                                   |       | $                               | —     |   | $ | — |   | $ | — |   | $ | — |   | $ | — |   | $ | — |   | $ | — |   | $ | — |   |
| Net (recoveries)  charge-offs                          |       | $                               | 464        |   | $ | 513 |   | $ | — |   | $ | — |   | $ | — |   | $ | — |   | $ | — |   | $ | — |   |

 

19

----

Table of Contents

 

***RESULTS OF OPERATIONS***

 

***Net Interest Income***

 

The Company’s earningsdepend largely upon our net interest income, which is the difference betweenthe income we earn on interest-bearing assets, such as loans, and the interestwe pay on deposits and borrowed funds. Net interest income is related to (i) the relative amounts ofinterest-earning assets and interest-bearing liabilities and (ii) theinterest rates earned and paid upon these balances.  Total interest income canfluctuate based upon the mix of earning assets among loans, investments andfederal funds sold and the related rates associated with their balances.  Some of the funding sources for these assetsalso have an interest cost which can fluctuate based upon the mix ofinterest-bearing liabilities and the related rates associated with their balances.

 

The interest rate spread represents the differencebetween the weighted average yield on interest-earning assets and the weightedaverage rate paid on interest-bearing liabilities.  The interest rate spread increased from 2.16%for the three-month period ended September 30, 2008 to 3.43% for thethree-month period ended September 30, 2009. Similarly, the interest ratespread increased from 2.49% for the nine-month period ended September 30,2008 to 3.09% for the nine-month period ended September 30, 2009.  The increases in both periods wereattributable to the larger decline in effective interest rates associated withinterest-bearing liabilities over interest-bearing assets.

 

Net interest margin is net interest income expressedas a percentage of average total interest-earning assets, allowing for thesources and the relative size of funding to be used as factors in thecalculation.   During the comparablethird quarterly period, while the interest rate spread increased by 127 basispoints, the net interest margin increased by only 105 basis points, from 3.21%to 4.26%, reflecting the fact that a higher percentage of the sources of thefunding were from interest-bearing liabilities.    Similarly, the interest rate spread for thecomparable first nine-month periods of 2009 and 2008 reflects an increase of 60basis points; the net interest margin increased by only 17 basis points, from3.92% to 4.09%.  The noted decline in thenet interest margin between both the third quarters and the first nine-monthperiods of 2009 and 2008 reflects the fact that a higher percentage of thesources of funds originates from interest-bearing liabilities.

 

Net interest margin is affected by changes in theyields earned on assets and rates paid on liabilities, referred to as ratechanges, and changes in the relative amounts of interest-earning assets andinterest- bearing liabilities, referred to as volume changes.  Interest rates earned and paid are affectedprincipally by our competition, general economic conditions and other factorsbeyond the Company’s control, such as federal economic policies, the generalsupply of money in the economy, legislative tax policies, governmentalbudgetary matters and the actions of the Federal Reserve Board.

 

The following table sets forth interest income,interest expense, net interest income before provision for loan losses and netinterest margin for the periods presented:

 

20

----

Table ofContents

 
| ** **                                            | ** ** | **Three  Months Ended**     | ** ** | **Nine  Months Ended**      | ** ** |
|-------------------------------------------------------|------------|-----------------------------|------------|-----------------------------|------------|
| ** **                                            | ** ** | **September 30,**      | ** ** | **Dollar**                  | ** ** | **Percent** | ** ** | **September 30,** | ** ** | **Dollar** | ** ** | **Percent** | ** ** |
|                                                  |       | **2009**                    | ** ** | **2008**                    | ** ** | **Change** | ** ** | **Change** | ** ** | **2009** | ** ** | **2008** | ** ** | **Change** | ** ** | **Change** | ** ** |
| ** **                                            | ** ** | **(Unaudited)**             | ** ** | **(Unaudited)**             | ** ** |
| ** **                                            | ** ** | **(Dollars  in thousands)** | ** ** | **(Dollars  in thousands)** | ** ** |
| Interest  income                                      |       | $                           | 1,204      |                        | $          | 909 |   | $ | 295 |   | 32.45 | % | $ | 3,263 |   | $ | 2,165 |   | $ | 1,098 |   | 50.72 | % |
| Interest  expense                                     |       | 200                         |       | 311                         |       | (111 | ) | -35.69 | % | 594 |   | 580 |   | 14 |   | 2.41 | % |
| Net  interest income before provision for loan losses |       | $                           | 1,004      |                        | $          | 598 |   | $ | 406 |   | 67.89 | % | $ | 2,669 |   | $ | 1,585 |   | $ | 1,084 |   | 68.39 | % |
| Net  interest margin                                  |       | 4.26                        | %          | 3.21                        | %          |   |   | 32.80 | % | 4.09 | % | 3.92 | % |   |   | 4.26 | % |

 

The following tables present the weighted averageyield on each specified category of interest-earning assets, the weightedaverage rate paid on each specified category of interest-bearing liabilities,the resulting interest rate spread, and the net interest margin for thecomparable third-quarter periods indicated:

 

**ANALYSIS OF NET INTEREST INCOME**

 
| ** **                                              | ** ** | **(Unaudited)**                           | ** ** |
|---------------------------------------------------------|------------|-------------------------------------------|------------|
| ** **                                              | ** ** | **Three months ended September 30,** | ** ** |
| ** **                                              | ** ** | **2009**                                  | ** ** | **2008** | ** ** |
| ** **                                              | ** ** | ** **                                | ** ** | ** ** | ** ** | **Weighted** | ** ** | ** ** | ** ** | ** ** | ** ** | **Weighted** | ** ** |
| ** **                                              | ** ** | ** **                                | ** ** | **Interest** | ** ** | **Average** | ** ** | ** ** | ** ** | **Interest** | ** ** | **Average** | ** ** |
| ** **                                              | ** ** | **Average**                               | ** ** | **Income/** | ** ** | **Rate** | ** ** | **Average** | ** ** | **Income/** | ** ** | **Rate** | ** ** |
| ** **                                              | ** ** | **Balance**                               | ** ** | **Expense** | ** ** | **Earned/Paid** | ** ** | **Balance** | ** ** | **Expense** | ** ** | **Earned/Paid** | ** ** |
| ** **                                              | ** ** | **(Dollars in thousands)**                | ** ** |
| **Interest-earning assets:**                            |       |                                      |       |   |   |   |   |   |   |   |   |   |   |
| Federal  funds sold/Interest-bearing demand funds       |       | $                                         | 11,873     |   | $ | 8 |   | 0.27 | % | $ | 17,528 |   | $ | 86 |   | 1.95 | % |
| Deposits  with other financial institutions             |       | 3,433                                     |       | 19 |   | 2.20 | % | 3,813 |   | 29 |   | 3.03 | % |
| Investments                                             |       | 7,366                                     |       | 93 |   | 5.01 | % | 7,051 |   | 91 |   | 5.13 | % |
| Loans(1)                                                |       | 70,830                                    |       | 1,084 |   | 6.07 | % | 45,820 |   | 703 |   | 6.10 | % |
| Total  interest-earning assets                          |       | 93,502                                    |       | 1,204 |   | 5.11 | % | 74,212 |   | 909 |   | 4.87 | % |
| Non-interest-earning  assets                            |       | 4,725                                     |       |   |   |   |   | 4,096 |   |   |   |   |   |
| Total  assets                                           |       | $                                         | 98,227     |   |   |   |   |   | $ | 78,308 |   |   |   |   |   |
|                                                    |       |                                      |       |   |   |   |   |   |   |   |   |   |   |
| **Interest-bearing liabilities:**                       |       |                                      |       |   |   |   |   |   |   |   |   |   |   |
| Demand                                                  |       | $                                         | 2,287      |   | 1 |   | 0.10 | % | $ | 1,499 |   | 0 |   | 0.10 | % |
| Savings  and money market                               |       | 14,790                                    |       | 42 |   | 1.13 | % | 7,239 |   | 33 |   | 1.81 | % |
| Certificates  of deposit                                |       | 25,593                                    |       | 106 |   | 1.64 | % | 32,261 |   | 227 |   | 2.80 | % |
| FHLB  advances                                          |       | 4,576                                     |       | 51 |   | 4.36 | % | 4,501 |   | 50 |   | 4.38 | % |
| Total  interest-bearing liabilities                     |       | 47,246                                    |       | 200 |   | 1.68 | % | 45,500 |   | 311 |   | 2.72 | % |
| Non-interest-bearing  demand deposits                   |       | 14,246                                    |       |   |   |   |   | 12,256 |   |   |   |   |   |
| Total  funding sources                                  |       | 61,492                                    |       |   |   | 1.29 | % | 57,756 |   |   |   | 2.14 | % |
| Non-interest-bearing  liabilities                       |       | 5,425                                     |       |   |   |   |   | 537 |   |   |   |   |   |
| Shareholders’  equity                              |       | 31,310                                    |       |   |   |   |   | 20,015 |   |   |   |   |   |
| Total  liabilities and shareholders’ equity        |       | $                                         | 98,227     |   |   |   |   |   | $ | 78,308 |   |   |   |   |   |
|                                                    |       |                                      |       |   |   |   |   |   |   |   |   |   |   |
| Excess  of interest-earning assets over funding sources |       | $                                         | 32,010     |   |   |   |   |   | $ | 16,456 |   |   |   |   |   |
| Net  interest income                                    |       |                                      |       | $ | 1,004 |   |   |   |   |   | $ | 598 |   |   |   |
| Net  interest rate spread                               |       |                                      |       |   |   | 3.43 | % |   |   |   |   | 2.16 | % |
| Net  interest margin                                    |       |                                      |       |   |   | 4.26 | % |   |   |   |   | 3.21 | % |

 

----

(1)          The average balance of loans is calculated net of deferred loanfees/cost, but would include non-accrual loans, if any, with a zero yield.   Loan fees net of amortized costs wereapproximately $21,000 for the three-month period ended September 30,2009.   Loan costs net of amortized feesincluded in total net income were approximately $14,000 for the three-monthperiod ended September 30, 2008.

 

The table below sets forth changes for thecomparable three-month periods ended September 30, 2009 and September 30,2008 for average earning assets, average interest-bearing liabilities, andtheir respective rates:

 

21

----

Table of Contents

 
| ** **                                  | ** ** | **VARIANCE IN BALANCES AND RATES** | ** ** | ** **   | ** ** | ** **             | ** ** | ** **                     | ** ** |
|---------------------------------------------|------------|------------------------------------|------------|--------------|------------|------------------------|------------|--------------------------------|------------|
| ** **                                  | ** ** | **Average Balance**                | ** ** | ** **   | ** ** | ** **             | ** ** | **Average Yield/Rate**         | ** ** | ** ** | ** ** |
| ** **                                  | ** ** | **for the three months ended**     | ** ** | ** **   | ** ** | ** **             | ** ** | **for the three months ended** | ** ** | ** ** | ** ** |
| ** **                                  | ** ** | **September 30,**             | ** ** | **Variance** | ** ** | **September 30,** | ** ** | ** **                     | ** ** |
| **(dollars in thousands)**                  | ** ** | **2009**                           | ** ** | **2008**     | ** ** | **dollar**             | ** ** | **percent**                    | ** ** | **2009** | ** ** | **2008** | ** ** | **Variance** | ** ** |
| ** **                                  | ** ** | **(Unaudited)**                    | ** ** |
| **Interest-earning  assets:**               |       |                               |       |         |       |                   |       |                           |       |   |   |   |   |   |   |
| Federal funds  sold/Interest-bearing demand |       | $                                  | 11,873     |         | $          | 17,528                 |       | $                              | (5,655     | ) | -32.26 | % | 0.27 | % | 1.95 | % | -1.68 | % |
| Deposits with other  financial institutions |       | 3,433                              |       | 3,813        |       | (380                   | )          | -9.97                          | %          | 2.20 | % | 3.03 | % | -0.83 | % |
| Investments                                 |       | 7,366                              |       | 7,051        |       | 315                    |       | 4.47                           | %          | 5.01 | % | 5.13 | % | -0.13 | % |
| Loans                                       |       | 70,830                             |       | 45,820       |       | 25,010                 |       | 54.58                          | %          | 6.07 | % | 6.10 | % | -0.03 | % |
| Total interest-earning  assets              |       | $                                  | 93,502     |         | $          | 74,212                 |       | $                              | 19,290     |   | 25.99 | % | 5.11 | % | 4.87 | % | 0.24 | % |
|                                        |       |                               |       |         |       |                   |       |                           |       |   |   |   |   |   |   |
|                                        |       |                               |       |         |       |                   |       |                           |       |   |   |   |   |   |   |
| **Interest-bearing  liabilities:**          |       |                               |       |         |       |                   |       |                           |       |   |   |   |   |   |   |
| Interest-bearing demand                     |       | $                                  | 2,287      |         | $          | 1,499                  |       | $                              | 788        |   | 52.57 | % | 0.10 | % | 0.10 | % | 0.00 | % |
| Savings and money market                    |       | 14,790                             |       | 7,239        |       | 7,551                  |       | 104.31                         | %          | 1.13 | % | 1.81 | % | -0.68 | % |
| Certificates of deposit                     |       | 25,593                             |       | 32,261       |       | (6,668                 | )          | -20.67                         | %          | 1.64 | % | 2.80 | % | -1.16 | % |
| FHLB advances                               |       | 4,576                              |       | 4,501        |       | 75                     |       | 1.67                           | %          | 4.36 | % | 4.38 | % | -0.02 | % |
| Total interest-bearing  liabilities         |       | $                                  | 47,246     |         | $          | 45,500                 |       | $                              | 1,746      |   | 3.84 | % | 1.68 | % | 2.72 | % | -1.04 | % |

 

The following table presents the weighted averageyield on each specified category of interest-earning assets, the weightedaverage rate paid on each specified category of interest-bearing liabilities,the resulting interest rate spread, and the net interest margin for thecomparable nine-month periods indicated:

 

**ANALYSIS OF NET INTEREST INCOME**

 
| ** **                                              | ** ** | **(Unaudited)**                          | ** ** |
|---------------------------------------------------------|------------|------------------------------------------|------------|
| ** **                                              | ** ** | **Nine months ended September 30,** | ** ** |
| ** **                                              | ** ** | **2009**                                 | ** ** | **2008** | ** ** |
| ** **                                              | ** ** | ** **                               | ** ** | ** ** | ** ** | **Weighted** | ** ** | ** ** | ** ** | ** ** | ** ** | **Weighted** | ** ** |
| ** **                                              | ** ** | ** **                               | ** ** | **Interest** | ** ** | **Average** | ** ** | ** ** | ** ** | **Interest** | ** ** | **Average** | ** ** |
| ** **                                              | ** ** | **Average**                              | ** ** | **Income/** | ** ** | **Rate** | ** ** | **Average** | ** ** | **Income/** | ** ** | **Rate** | ** ** |
| ** **                                              | ** ** | **Balance**                              | ** ** | **Expense** | ** ** | **Earned/Paid** | ** ** | **Balance** | ** ** | **Expense** | ** ** | **Earned/Paid** | ** ** |
| ** **                                              | ** ** | **(Dollars in thousands)**               | ** ** |
| **Interest-earning assets:**                            |       |                                     |       |   |   |   |   |   |   |   |   |   |   |
| Federal  funds sold/Interest-bearing demand funds       |       | $                                        | 9,859      |   | $ | 22 |   | 0.30 | % | $ | 9,612 |   | $ | 165 |   | 2.29 | % |
| Deposits  with other financial institutions             |       | 5,798                                    |       | 92 |   | 2.12 | % | 2,292 |   | 66 |   | 3.85 | % |
| Investments                                             |       | 7,811                                    |       | 326 |   | 5.58 | % | 7,018 |   | 301 |   | 5.73 | % |
| Loans(1)                                                |       | 63,732                                   |       | 2,823 |   | 5.92 | % | 35,016 |   | 1,633 |   | 6.23 | % |
| Total  interest-earning assets                          |       | 87,200                                   |       | 3,263 |   | 5.00 | % | 53,938 |   | 2,165 |   | 5.36 | % |
| Non-interest-earning  assets                            |       | 4,566                                    |       |   |   |   |   | 3,948 |   |   |   |   |   |
| Total  assets                                           |       | $                                        | 91,766     |   |   |   |   |   | $ | 57,886 |   |   |   |   |   |
|                                                    |       |                                     |       |   |   |   |   |   |   |   |   |   |   |
| **Interest-bearing liabilities:**                       |       |                                     |       |   |   |   |   |   |   |   |   |   |   |
| Demand                                                  |       | $                                        | 1,950      |   | 1 |   | 0.10 | % | $ | 1,144 |   | 1 |   | 0.12 | % |
| Savings  and money market                               |       | 12,564                                   |       | 112 |   | 1.19 | % | 5,313 |   | 82 |   | 2.06 | % |
| Certificates  of deposit                                |       | 22,475                                   |       | 331 |   | 1.97 | % | 18,930 |   | 444 |   | 3.13 | % |
| FHLB  advances                                          |       | 4,595                                    |       | 150 |   | 4.30 | % | 1,577 |   | 53 |   | 4.38 | % |
| Total  interest-bearing liabilities                     |       | 41,584                                   |       | 594 |   | 1.91 | % | 26,964 |   | 580 |   | 2.87 | % |
| Non-interest-bearing  demand deposits                   |       | 16,825                                   |       |   |   |   |   | 10,210 |   |   |   |   |   |
| Total  funding sources                                  |       | 58,409                                   |       |   |   | 1.36 | % | 37,174 |   |   |   | 2.08 | % |
| Non-interest-bearing  liabilities                       |       | 650                                      |       |   |   |   |   | 408 |   |   |   |   |   |
| Shareholders’  equity                              |       | 32,707                                   |       |   |   |   |   | 20,304 |   |   |   |   |   |
| Total  liabilities and shareholders’ equity        |       | $                                        | 91,766     |   |   |   |   |   | $ | 57,886 |   |   |   |   |   |
|                                                    |       |                                     |       |   |   |   |   |   |   |   |   |   |   |
| Excess  of interest-earning assets over funding sources |       | $                                        | 28,791     |   |   |   |   |   | $ | 16,764 |   |   |   |   |   |
| Net  interest income                                    |       |                                     |       | $ | 2,669 |   |   |   |   |   | $ | 1,585 |   |   |   |
| Net  interest rate spread                               |       |                                     |       |   |   | 3.09 | % |   |   |   |   | 2.49 | % |
| Net  interest margin                                    |       |                                     |       |   |   | 4.09 | % |   |   |   |   | 3.92 | % |

 

----

(1)          The average balance of loans is calculated net of deferred loanfees/cost, but would include non-accrual loans, if any, with a zero yield.   Loan fees net of amortized costs wereapproximately $30,000 for the nine-month period ended September 30,2009.   Loan costs net of amortized feesincluded in total net income were approximately $39,000 for the nine-monthperiod ended September 30, 2008.

 

The table below sets forth changes for thecomparable nine-month periods ended September 30, 2009 and September 30,2008 for average earning assets, average interest-bearing liabilities, andtheir respective rates:

 

22

----

Table of Contents

 
| ** **                                  | ** ** | **VARIANCE IN BALANCES AND RATES** | ** ** | ** **   | ** ** | ** **             | ** ** | ** **                    | ** ** |
|---------------------------------------------|------------|------------------------------------|------------|--------------|------------|------------------------|------------|-------------------------------|------------|
| ** **                                  | ** ** | **Average Balance**                | ** ** | ** **   | ** ** | ** **             | ** ** | **Average Yield/Rate**        | ** ** | ** ** | ** ** |
| ** **                                  | ** ** | **for the nine months ended**      | ** ** | ** **   | ** ** | ** **             | ** ** | **for the nine months ended** | ** ** | ** ** | ** ** |
| ** **                                  | ** ** | **September 30,**             | ** ** | **Variance** | ** ** | **September 30,** | ** ** | ** **                    | ** ** |
| **(dollars in thousands)**                  | ** ** | **2009**                           | ** ** | **2008**     | ** ** | **dollar**             | ** ** | **percent**                   | ** ** | **2009** | ** ** | **2008** | ** ** | **Variance** | ** ** |
| ** **                                  | ** ** | **(Unaudited)**                    | ** ** |
| **Interest-earning  assets:**               |       |                               |       |         |       |                   |       |                          |       |   |   |   |   |   |   |
| Federal funds  sold/Interest-bearing demand |       | $                                  | 9,859      |         | $          | 9,612                  |       | $                             | 247        |   | 2.57 | % | 0.30 | % | 2.29 | % | -1.99 | % |
| Deposits with other  financial institutions |       | 5,798                              |       | 2,292        |       | 3,506                  |       | 152.97                        | %          | 2.12 | % | 3.85 | % | -1.73 | % |
| Investments                                 |       | 7,811                              |       | 7,018        |       | 793                    |       | 11.30                         | %          | 5.58 | % | 5.73 | % | -0.14 | % |
| Loans                                       |       | 63,732                             |       | 35,016       |       | 28,716                 |       | 82.01                         | %          | 5.92 | % | 6.23 | % | -0.31 | % |
| Total interest-earning  assets              |       | $                                  | 87,200     |         | $          | 53,938                 |       | $                             | 33,262     |   | 61.67 | % | 5.00 | % | 5.36 | % | -0.36 | % |
|                                        |       |                               |       |         |       |                   |       |                          |       |   |   |   |   |   |   |
|                                        |       |                               |       |         |       |                   |       |                          |       |   |   |   |   |   |   |
| **Interest-bearing  liabilities:**          |       |                               |       |         |       |                   |       |                          |       |   |   |   |   |   |   |
| Interest-bearing demand                     |       | $                                  | 1,950      |         | $          | 1,144                  |       | $                             | 806        |   | 70.45 | % | 0.10 | % | 0.12 | % | -0.02 | % |
| Savings and money market                    |       | 12,564                             |       | 5,313        |       | 7,251                  |       | 136.48                        | %          | 1.19 | % | 2.06 | % | -0.87 | % |
| Certificates of deposit                     |       | 22,475                             |       | 18,930       |       | 3,545                  |       | 18.73                         | %          | 1.97 | % | 3.13 | % | -1.16 | % |
| FHLB advances                               |       | 4,595                              |       | 1,577        |       | 3,018                  |       | 191.38                        | %          | 4.30 | % | 4.38 | % | -0.08 | % |
| Total interest-bearing  liabilities         |       | $                                  | 41,584     |         | $          | 26,964                 |       | $                             | 14,620     |   | 54.22 | % | 1.91 | % | 2.87 | % | -0.96 | % |

 

A volume and rate variance table is provided belowwhich sets forth the dollar differences in interest earned and paid for eachmajor category of interest-earning assets and interest-bearing liabilities forthe comparable periods indicated:

 
| ** **                                  | ** ** | **For  the three months ended**        | ** ** | **For  the nine months ended**         | ** ** |
|---------------------------------------------|------------|----------------------------------------|------------|----------------------------------------|------------|
| ** **                                  | ** ** | **September 30,  2009 over 2008** | ** ** | **September 30,  2009 over 2008** | ** ** |
| **(in  thousands)**                         | ** ** | **Volume**                             | ** ** | **Rate**                               | ** ** | **Total** | ** ** | **Volume** | ** ** | **Rate** | ** ** | **Total** | ** ** |
| ** **                                  | ** ** | ** **                             | ** ** | **(Unaudited)**                        | ** ** | ** ** | ** ** | ** ** | ** ** | **(Unaudited)** | ** ** | ** ** | ** ** |
| **Interest income:**                        |       |                                   |       |                                   |       |   |   |   |   |   |   |   |   |
| Federal  funds sold/Interest-bearing demand |       | $                                      | (28        | )                                      | $          | (50 | ) | $ | (78 | ) | $ | 4 |   | $ | (147 | ) | $ | (143 | ) |
| Deposits  with other financial institutions |       | (3                                     | )          | (7                                     | )          | (10 | ) | 101 |   | (75 | ) | 26 |   |
| Investments                                 |       | 4                                      |       | (2                                     | )          | 2 |   | 34 |   | (9 | ) | 25 |   |
| Loans                                       |       | 384                                    |       | (3                                     | )          | 381 |   | 1,339 |   | (149 | ) | 1,190 |   |
| Net  increase (decrease)                    |       | 357                                    |       | (62                                    | )          | 295 |   | 1,478 |   | (380 | ) | 1,098 |   |
|                                        |       |                                   |       |                                   |       |   |   |   |   |   |   |   |   |
| **Interest expense:**                       |       |                                   |       |                                   |       |   |   |   |   |   |   |   |   |
| Interest-bearing  demand                    |       | —                                 |       | —                                 |       | — |   | — |   | — |   | — |   |
| Savings  and money market                   |       | 34                                     |       | (25                                    | )          | 9 |   | 112 |   | (82 | ) | 30 |   |
| Certificates  of deposit                    |       | (47                                    | )          | (74                                    | )          | (121 | ) | 83 |   | (196 | ) | (113 | ) |
| FHLB  advances                              |       | 1                                      |       | —                                 |       | 1 |   | 99 |   | (2 | ) | 97 |   |
| Net  increase (decrease)                    |       | (12                                    | )          | (99                                    | )          | (111 | ) | 294 |   | (280 | ) | 14 |   |
| Total  net increase (decrease)              |       | $                                      | 369        |                                   | $          | 37 |   | $ | 406 |   | $ | 1,184 |   | $ | (100 | ) | $ | 1,084 |   |

 

A review of the above tables shows that the overallincrease in net interest income of approximately $406,000 between the twocomparative quarters ended at September 30, 2009 and September 30,2008 is the result of several factors.

 

Among the most significant factors in the increasein net interest income is the overall growth in average quarterly earningassets, up approximately $19.0 million or 26.0% between September 30, 2008and September 30, 2009.  Thisincrease was primarily a result of loan growth ($25.0 million) reflecting129.7% of the total increase.  Thepercentage of average loan dollars outstanding, as a percentage ofinterest-earning assets, increased significantly from approximately 61.7% as ofSeptember 30, 2008 to 75.8% as of September 30, 2009.  The higher outstanding volume of loansbetween the third-quarter periods would have resulted in an increase ofapproximately $384,000 in interest income, but the actual amount of interestincome earned was reduced by approximately $3,000 due to the decline in theoverall effective yield on the loan portfolio. The overall yield on outstanding loans declined from 6.10% for thethree-month period ended September 30, 2008 to 6.07% for the three-monthperiod ended September 30, 2009.

 

23

----

Table ofContents

 

Similarly, among the most significant factors in theincrease in net interest income is the overall growth in the year-to-dateaverage interest-earning assets between 2008 and 2009, up approximately $33.3million or 61.7% between September 30, 2008 and September 30,2009.  This increase was also centered inloan growth ($28.7 million) reflecting 86.3% of the total increase.  The percentage of average loan dollarsoutstanding, as a percentage of average interest-earning assets, grew fromapproximately 64.9% as of September 30, 2008 to approximately 73.1% as of September 30,2009.  The higher outstanding volume ofloans between the nine-month periods would have resulted in an increase ofapproximately $1,339,000 in interest income, but the actual amount of interestincome earned was reduced by approximately $149,000 due to the decline in theoverall effective yield on the loan portfolio. The overall yield on outstanding loans declined from 6.23% for thenine-month period ended September 30, 2008 to 5.92% for the nine-monthperiod ended September 30, 2009.

 

The Bank continues to have five significant depositrelationships, one of which is with a related party, which totaled, as of September 30,2009, approximately $15.4 million or 20.5% of the Bank’s deposits.  Included in these deposits are funds subjectto unscheduled withdrawals, mandating the Bank to hold funds in cash or cashequivalents at a high level to provide necessary liquidity. The one relatedparty was the Bank’s parent company.

 

The Bank sells its overnight funds not currentlyneeded to meet loan demand through an agency agreement with its primarycorrespondent bank, Pacific Coast Bankers’ Bank (“PCBB”). PCBB, in turn, placesthe available funds into well-capitalized banks across the country.  Due to the lower effective rates on suchfunds, the Federal Reserve Bank has recently offered a minimum rate of 25 basispoints for funds left at the Federal Reserve Bank overnight.  Since the nature of these interest-bearingdemand funds are similar to Fed funds sold, the financial presentation hasgrouped the amounts together to facilitate the comparison between periods. Theamount of Fed funds sold and other interest-bearing demand balances as apercentage of all interest-earning assets declined from approximately 23.6% forthe comparable three-month period ended September 30, 2008 to 12.7% as ofthe three-month period ended September 30, 2009. The average balance inFed funds sold decreased by approximately $5.7 million during these comparablethree-month periods. The reduction in both the actual averages of Fed fundssold and other interest-bearing balances and their representative percentagesto total interest-bearing assets was the result of significant growth in loansbetween the comparable periods. In analyzing the effect of balance movements onthe category of overnight funds, the lower outstanding volume would haveresulted in a decrease of approximately $28,000 in interest income.  However, the dramatic decline in theeffective yield on this category by 168 basis points (from an effective yieldof 1.95% for the three-month period ended September 30, 2008 to 0.27% forthe three-month period ended September 30, 2009) augmented the decline in interestincome by approximately $50,000. Similarly, the amount of Fed funds sold andother interest-bearing demand balances as a percentage of all interest-earningassets declined from 17.8% to 11.3% for the comparable nine-month periods endedSeptember 30, 2008 and September 30, 2009, with the average balancein Fed funds sold increasing by approximately $247,000.  This higher outstanding volume would haveresulted in an increase of approximately $4,000 in interest income.  However, the dramatic decline in theeffective yield on this category by 199 basis points completely offset anypositive benefit by reducing the potential interest income by approximately$147,000.

 

The Bank, in order to sustain the overall yield oninterest-earning assets elected to continue to place additional funds ininterest-bearing certificates of deposits in other financial institutions  The slight reduction in the outstandingvolume of funds invested in certificate of deposits in other financialinstitutions between the third-quarter periods would have resulted in adecrease of approximately $3,000 in interest income, but this reduction wasfurther augmented by the decline in the overall effective yield on thiscategory, reducing the amount by approximately $7,000.  The overall yield on the funds placed withother financial institutions declined from 3.03% for the three-month periodended September 30, 2008 to 2.20% for the three-month period ended September 30,2009.   Similarly, when comparing the 

 

24

----

Table of Contents

 

average outstanding balances during the nine-monthperiod ended September 30, 2009 versus the same period ended September 30,2008, the increased volume would have resulted in an increase in interestincome of approximately $101,000, but this amount was offset by the decline inthe overall effective yield on interest-bearing certificates of deposit inother financial institutions, which fell by 173 basis points to 2.12% for thenine-month period ended September 30, 2009 compared to 3.85% for thecomparable nine-month period ended September 30, 2008.

 

For the comparable third quarter periods of 2008 and2009, the change in the mix of interest-yielding assets, coupled with theoverall growth, resulted in the increase of interest income of approximately$295,000, with approximately $357,000 due to volume increases, which more thanfully offset the result of the general market interest rate decline ofapproximately $62,000.  While generalinterest rates declined by 175 basis points between the beginning of thirdquarter of 2008 and the end of the third quarter of 2009, the average effectiveyield on the Company’s earning assets declined by only approximately 25 basispoints.

 

Total interest expense for the comparable thirdquarter periods ended September 30, 2008 and 2009 decreased byapproximately $111,000, with the mix in balances, which affected the nominalincrease in balances outstanding on interest-bearing liabilities, resulting inan overall reduction in the volume component of the change in interestexpense.  The overall increase inoutstanding interest-bearing liability balances resulted in a savings in interestexpense of approximately $12,000.  Thissavings was further augmented by the savings available on the repricingassociated with the overall declining market rates.  The savings which resulted from the decline ineffective rates was approximately $99,000.

 

For the comparable three-month periods ended in September 30,2009 and September 30, 2008, the average balance in *Interest-BearingDemand* deposits increased by approximately $788,000.  As the rate during both periods wasessentially at its floor of 10 basis points, any variance in interest expensewould be volume-related.  However, thevolume variance is less than $1,000 and, therefore, is not reflected in thetable.

 

For the comparable three-month periods ended September 30,2009 and September 30, 2008, the average balance in*Savings andMoney Market*deposits increased by approximately $7.6 million. Thehigher outstanding volume in this category would have resulted in an increaseof expense of approximately $34,000. However the significant decline in the effective yield on this category by68 basis points, from an effective yield of 1.81% for the three-month periodended September 30, 2008 to 1.13% for the three-month period ended September 30,2009, offset most of the additional expense by reducing the potential interestcost by approximately $25,000.

 

An opposite result occurred in the*Certificate of Deposits* category. For the comparablethree-month periods ended September 30, 2009 and September 30, 2008,the average balance decreased by approximately $6.7 million. The loweroutstanding volume in certificates of deposits would have resulted in adecrease of expense, a savings of approximately $47,000.   The significant decline in the effectiveyield on this category by 116 basis points, from an effective yield of 2.80%for the three-month period ended September 30, 2008 to 1.64% for thethree-month period ended September 30, 2009, resulted in a larger savingsby approximately $74,000.

 

The establishment of the Federal Home Loan Bankadvance by the Bank occurred on June 27, 2008 and accordingly was presentfor the full three-month period ended September 30, 2008.  The overall effective rate and the averageoutstanding balance on the Federal Home Loan Bank advances is heavily weightedtowards the $4.5 million long-term fixed advance at a stated rate of4.38%.   With insignificant changes inthe effective rate between the two comparable third-quarter periods, the totalvariance is reflected as a

 

25

----

Table ofContents

 

volume variance, resulting in the entire increase ofapproximately $1,000 appearing under the volume heading

 

Total interest expense for the comparable nine-monthperiods ended September 30, 2008 and 2009 increased by only $14,000,  with the increases in balances outstanding oninterest-bearing liabilities being almost fully offset by the savings availableon the repricing associated with the overall declining market rates.  The increase in interest expense due to thechange in outstanding average interest-bearing liabilities was approximately$294,000. The savings which resulted from the decline in effective rates wasapproximately $280,000.

 

For the comparable nine-month periods ended September 30,2009 and September 30, 2008, the average balance in *Interest-BearingDemand* deposits increased by approximately $806,000.  As the rate during both periods wasessentially at its floor of 10 basis points, any variance in interest expensewould be volume-related.  However, thevolume variance is less than $1,000 and therefore, is not reflected in thetable.

 

For the comparable nine-month periods ended in September 30,2009 and September 30, 2008, the average balance in*Savings andMoney Market*deposits increased by approximately $7.3 million. Thehigher outstanding volume in this category would have resulted in an increaseof expense of approximately $112,000. However, the decline in the effective yield on this category by approximately87 basis points, from an effective yield of 2.06% for the nine-month periodended September 30, 2008 to 1.19% for the nine-month period ended September 30,2009, offset much of the additional expense by reducing the potential interestcost by approximately $82,000.

 

A similar result occurred in the*Certificateof Deposits* category. For the comparable nine-month periods ended September 30,2009 and September 30, 2008, the average balance increased byapproximately $3.5 million. The higher outstanding volume in certificates ofdeposits would have resulted in an increase of expense of approximately$83,000.  However the decline in theeffective yield on this category by 116 basis points, from an effective yieldof 3.13% for the nine-month period ended September 30, 2008 to 1.97% forthe nine-month period ended September 30, 2009, offset all of theadditional expense by reducing the potential interest cost by approximately$196,000.

 

The establishment of the Federal Home Loan Bankadvance by the Bank occurred on June 27, 2008, so was present in thenine-month period ended September 30, 2008 for essentially only thatquarter.  The overall effective rate andthe average outstanding balance on the Federal Home Loan Bank advances areheavily weighted towards the $4.5 million long-term fixed advance at a statedrate of 4.38%.   With insignificantchanges in the effective rate, the total variance is reflected as a volumevariance, resulting in the entire increase of approximately $99,000 appearingas under the volume heading.  For thecomparable nine-month periods ended September 30, 2008 and September 30,2009, the total reported variance of approximately $97,000 appears primarilyunder the volume variance heading.

 

Discounting the effects of the Federal Home Loanadvances, the costs associated with the increases in outstandinginterest-bearing deposit dollars were almost entirely offset by the reductionin the effective rates associated with these funding sources in the periodsunder analysis.

 

***Provision for Loan Losses***

 

The Company made provisions for loan losses of$469,000 for the three-month period ended September 30, 2009, compared to$102,000 for the three-month period ended September 30, 2008.  For the comparable nine-month periods ended September 30,2009 and September 30, 2008, the Company made provisions of $1,096,000 and$431,000 respectively.  These provisionswere determined based

 

26

----

Table of Contents

 

upon the periodic credit review of the loanportfolio, consideration of past loan loss experience, current and predictedeconomic conditions, and other pertinent factors.  As a part of that ongoing monthly analysis,the Bank recognized recent changes in the ultimate collectability of some ofits loans, even among those that were still performing as agreed.  Among those loans, the Bank charged offcertain loans totaling approximately $990,000 as of September 30, 2009,including approximately $478,000 in the third quarter of 2009. The Company hadpreviously provided a specific reserve for these loans beginning in the firstquarter of 2009 and thus the provision needed to the second and third quartersreflects the incremental amount needed to reflect the charge off, whilemaintaining an acceptable allowance level in the loan loss reserve. For further analysis of the adequacy of theloan loss reserve, see *Asset Quality andAllowance for Loan Losses.*

 

***Non-Interest Income***

 

Non-interest income for both the three-month andnine-month periods ended September 30, 2009 and September 30, 2008consisted primarily of fees collected for banking services such as checkprocessing and wire transfers.

 

***Non-Interest Expense***

 

The following tables set forth changes for the twocomparable three-month and nine-month periods ending September 30, 2009and September 30, 2008, allowing comparisons between these operatingperiods:

 
| ** **                                | ** ** | **For  the three months ended   September 30,** | ** ** | ** **   | ** ** | ** **  | ** ** |
|-------------------------------------------|------------|------------------------------------------------------|------------|--------------|------------|-------------|------------|
| ** **                                | ** ** | **2009**                                             | ** ** | **2008**     | ** ** | ** **  | ** ** | ** ** | ** ** |
| ** **                                | ** ** | **(dollars  in thousands)**                          | ** ** | **Variance** | ** ** |
| ** **                                | ** ** | **(Unaudited)**                                      | ** ** | **Dollars**  | ** ** | **Percent** | ** ** |
| Compensation  and benefits                |       | $                                                    | 1,119      |         | $          | 964         |       | $ | 155 |   | 16.1 | % |
| Occupancy  and equipment                  |       | 176                                                  |       | 174          |       | 2           |       | 1.1 | % |
| Technology  and communication             |       | 155                                                  |       | 134          |       | 21          |       | 15.7 | % |
| Professional  and administrative expenses |       | 273                                                  |       | 107          |       | 166         |       | 155.1 | % |
| Other  non-interest expenses              |       | 134                                                  |       | 134          |       | —      |       | 0.0 | % |
| Total  non-interest expenses              |       | $                                                    | 1,857      |         | $          | 1,513       |       | $ | 344 |   | 22.7 | % |

 

The differences in expense between the thirdquarters of 2009 and 2008 can be primarily attributed to the following:

 

·                  Compensation and benefits increased as the result of a slight increase inthe number of employees between the two periods along with moderate salaryincreases for Company staff.

 

·                  Increased data processing costs associated with increasing customer baseand contractual obligations.

 

·                  Increased costs associated with the exploration of new businessopportunities, including legal and consulting services.

 

The most significant increase was related toprofessional and legal fees associated with the exploration of new business andcapital-raising opportunities.  Thesecosts were approximately $141,000 more in the three-month period ended September 30,2009 than in the prior year’s comparable quarter.

 

27

----

Table of Contents

 
|                                      |   | **For the nine months ended   September 30,** |   |         |   |        |   |
|-------------------------------------------|--------|----------------------------------------------------|--------|--------------|--------|-------------|--------|
|                                      |   | **2009**                                           |   | **2008**     |   |        |   |   |   |
|                                      |   | **(dollars in thousands)**                         |   | **Variance** |   |
|                                      |   | **(Unaudited)**                                    |   | **Dollars**  |   | **Percent** |   |
| Compensation  and benefits                |   | $                                                  | 3,246  |         | $      | 2,882       |   | $ | 364 |   | 12.6 | % |
| Occupancy  and equipment                  |   | 515                                                |   | 495          |   | 20          |   | 4.0 | % |
| Technology  and communication             |   | 428                                                |   | 384          |   | 44          |   | 11.5 | % |
| Professional  and administrative expenses |   | 1,077                                              |   | 371          |   | 706         |   | 190.3 | % |
| Other  non-interest expenses              |   | 364                                                |   | 380          |   | (16         | )      | -4.2 | % |
| Total  non-interest expenses              |   | $                                                  | 5,630  |         | $      | 4,512       |   | $ | 1,118 |   | 24.8 | % |

 

·                  Compensation and benefits increased as the result of a slight increase inthe number of employees between the two periods along with moderate salaryincreases for Company staff.

 

·                  Increased data processing costs associated with increasing customer base andcontractual obligations.

 

·                  Increased costs associated with the exploration of new businessopportunities, including legal and consulting services.

 

The most significant increase was related toprofessional and legal fees associated with the exploration of new business andcapital-raising opportunities.  Thesecosts were approximately $609,000 more in the nine-month period ended September 30,2009 than in the prior year’s comparable period.

 

28

----

Table of Contents

 

***FINANCIAL CONDITION***

 

The Company’s increase in total assets to $110.3million as of September 30, 2009 represents a 19.8% increase, orapproximately $18.2 million, from total assets of $92.0 million as of December 31,2008.  The growth is centered in loans,which were funded primarily by locally-generated deposits.

 

***Loans***

 

Total gross loansas of September 30, 2009 increased by approximately $15.6 million over December 31,2008. Outstanding loan balances increased in all categories with the mostmonetary growth occurring in commercial loans, where the total grew byapproximately $7.8 million or 42.9%.  Theincrease in commercial loans was intentional. With the goal of greater diversification in the loan portfolio, anincreased emphasis was placed on originating commercial loans since thebeginning of the second quarter of 2009. The addition of individuals with expertise in commercial lending helpedfacilitate this change in the loan mix.

 

Real estate loans, the Company’s largest loancategory, also reflect growth since December 31, 2008, increasing byapproximately $2.9 million. As a percentage of total loan dollars outstandinghowever this category declined to less than 48% at September 30, 2009,from 55.4% of the loan portfolio at December 31, 2008, due to the recentlarger increase in commercial loans.

 

The table below sets forth the changes from December 31,2008 to September 30, 2009 in the composition of the loan portfolio:

 
| ** **                        | ** ** | **September 30,  2009 (unaudited)** | ** ** | **December 31,  2008 (audited)** | ** ** |
|-----------------------------------|------------|------------------------------------------|------------|---------------------------------------|------------|
| ** **                        | ** ** | **Amount**                               | ** ** | **Percentage  of**                    | ** ** | **Amount** | ** ** | **Percentage  of** | ** ** |
| ** **                        | ** ** | **Outstanding**                          | ** ** | **Total**                             | ** ** | **Outstanding** | ** ** | **Total** | ** ** |
| ** **                        | ** ** | **(dollars  in thousands)**              | ** ** | **(dollars  in thousands)**           | ** ** |
| Commercial  loans                 |       | $                                        | 26,149     |                                  | 35.7       | % | $ | 18,305 |   | 31.8 | % |
| Real  estate loans                |       | 34,787                                   |       | 47.5                                  | %          | 31,842 |   | 55.4 | % |
| Real  estate - construction       |       | 4,468                                    |       | 6.1                                   | %          | 1,194 |   | 2.1 | % |
| Other  loans                      |       | 7,827                                    |       | 10.7                                  | %          | 6,152 |   | 10.7 | % |
| Total  Loans                      |       | 73,231                                   |       | 100.0                                 | %          | 57,493 |   | 100.0 | % |
|                              |       |                                     |       |                                  |       |   |   |   |   |
| Add:  Purchase Premium            |       | 32                                       |       |                                  |       | 40 |   |   |   |
| Add:  Unamortized Costs           |       | 68                                       |       |                                  |       | 61 |   |   |   |
| Less:  Deferred Fees              |       | (273                                     | )          |                                  |       | (152 | ) |   |   |
| Less  - Allowance for loan losses |       | (1,095                                   | )          |                                  |       | (975 | ) |   |   |
| Net  loans                        |       | $                                        | 71,963     |                                  |       |   | $ | 56,467 |   |   |   |

 

Of the Bank’s total loans outstanding as of September 30,2009, 24.2% were due in one year or less, 38.7% were due in one to five years,and 37.1% were due after five years.  Asis customary in the banking industry, loans can be renewed by mutual agreementbetween the borrower and the Bank. Because we are unable to accurately estimate the extent to which ourborrowers will renew their loans, the following table is based on contractualmaturities, reflecting gross outstanding loans without consideration ofpurchase premium, deferred fees or deferred costs.

 

29

----

Table of Contents

 

**LoanMaturity Schedule as of September 30, 2009**

 
| ** **                                | ** ** | ** **                  | ** ** | **Maturing**    | ** ** | ** **     | ** ** | ** ** | ** ** |
|-------------------------------------------|------------|-----------------------------|------------|-----------------|------------|----------------|------------|------------|------------|
| ** **                                | ** ** | **Within One**              | ** ** | **One to Five** | ** ** | **After Five** | ** ** | ** ** | ** ** |
| **(unaudited)**                           | ** ** | **Year**                    | ** ** | **Years**       | ** ** | **Years**      | ** ** | **Total**  | ** ** |
| ** **                                | ** ** | **(Dollars  in thousands)** | ** ** |
| Commercial                                |       | $                           | 12,429     |            | $          | 11,720         |       | $          | 2,000      |   | $ | 26,149 |   |
| Real  Estate                              |       | 775                         |       | 13,998          |       | 20,014         |       | 34,787     |       |
| Real  Estate-Construction                 |       | 2,867                       |       | 1,601           |       | —         |       | 4,468      |       |
| Other  Loans                              |       | 1,690                       |       | 1,007           |       | 5,130          |       | 7,827      |       |
| Total                                     |       | $                           | 17,761     |            | $          | 28,326         |       | $          | 27,144     |   | $ | 73,231 |   |
|                                      |       |                        |       |            |       |           |       |       |       |
| Loans  with pre-determined interest rates |       | $                           | 669        |            | $          | 11,621         |       | $          | 2,418      |   | $ | 14,708 |   |
| Loans  with floating or adjustable rates  |       | 17,092                      |       | 16,705          |       | 24,726         |       | 58,523     |       |
| Total                                     |       | $                           | 17,761     |            | $          | 28,326         |       | $          | 27,144     |   | $ | 73,231 |   |

 

Of the gross loan dollars outstanding as of September 30,2009, approximately 79.9% had adjustable rates. Most of the adjustable rate loans generally have interest rates tied tothe prime rate; 64.8% of the total adjustable rate loan dollars outstandingwill adjust with changes in the rate index on a daily basis. The balance of theadjustable rate loans are tied to other indices subject to periodic adjustmentprior to the contract maturity.

 

*Commercial Loans*

 

The Bank offers a variety of commercial loans,including secured and unsecured term and revolving lines of credit, equipmentloans and accounts receivable loans.  Asof September 30, 2009, approximately 85.4% of the commercial loans hadadjustable rates.  The Bank underwritessecured term loans and revolving lines of credit primarily on the basis of aborrower’s cash flow and the ability to service the debt, although we rely onthe liquidation of the underlying collateral as a secondary payment source,where applicable.  Should the borrowerdefault and the Bank foreclose on the assets, we may not be able to recover thefull amount of the loan.

 

*Real Estate/Construction Loans*

 

The Bank’s real estate loans are secured primarilyby commercial property, including a significant percentage in multi-familycomplexes.   Approximately 73.2% of thereal estate loans are adjustable during the term of the loan.  Approximately 51.0% of the real estate loanshave a remaining maturity between five and ten years.  As of September 30, 2009, the weightedaverage ratio of the original loan extension to the underlying value of theproperty was approximately 51%, with weighted average debt service coverage of1.82.  No individual loan-to-value ratioexceeded 75%.

 

*Other Loans*

 

The Bank offers other types of loans, including homeequity lines of credit.  Home equitylines of credit have adjustable rates and provide the borrower with a line ofcredit in an amount which does not exceed 80% of the appraised value of theborrower’s property at the time of origination.

 

***Off-Balance Sheet CreditCommitments and Contingent Obligations***

 

We enter into and may issue financial instrumentswith off-balance sheet credit risk in the normal course of business to meet thefinancial needs of our customers.  Sinceinception through September 30, 2009,

 

30

----

Table ofContents

 

these had been limited to undisbursed commitments toextend credit to both businesses and individuals.  The outstanding balance of letters of credit,approximately $370,000 as of September 30, 2009, has not changed since December 31,2008.  All commitments noted below wereassociated with loans and were therefore subject to the same creditunderwriting policies and practices as those used for the loans reflected inthe financial statements.  When deemedadvisable, the Bank obtains collateral to support such commitments.

 

LoanCommitments

 
| ** **                   | ** ** | **September 30,  2009** | ** ** | **December 31,  2008** | ** ** |
|------------------------------|------------|------------------------------|------------|-----------------------------|------------|
| ** **                   | ** ** | **(In  thousands)**          | ** ** | **(In  thousands)**         | ** ** |
| Commitment  to extend credit |       | $                            | 27,877     |                        | $          | 14,914 |   |
| Standby  letters of credit   |       | 370                          |       | 370                         |       |
|                         |       | $                            | 28,247     |                        | $          | 15,284 |   |

 

Commitmentsto extend credit are agreements to lend up to a specific amount to a customeras long as there is no violation of any condition in the contract.  Commitments generally have fixed expirationdates or other termination clauses, which may require payment of a fee.  Since we expect some commitments to expirewithout being drawn upon, the total commitment amounts do not necessarilyrepresent future loans.

 

***Non-Performing Assets***

 

Non-performing assets consist of non-performingloans and other real estate owned (“OREO”). Non-performing loans are (i) loans which have been placed onnon-accrual status; (ii) loans which are contractually past-due 90 days ormore with respect to principal or interest, have not been restructured orplaced on non-accrual status, and are accruing interest; and (iii) troubleddebt restructures ( “TDRs”).  OREO iscomprised of real estate acquired in satisfaction of the loan either throughforeclosure or deed in lieu of foreclosure.

 

As a part of that ongoing monthly analysis, the Bankrecognized during the last two quarters changes in the ultimate collectabilityof some of its loans, even among those that were still performing asagreed.  Among those loans, the Bank chargedoff certain loans totaling approximately $990,000 as of September 30,2009, consisting of three relationships where doubts had arising regardingultimate collectability.  The Bank had nonon-performing assets as of September 30, 2009 and December 31, 2008.

 

***Deposits and Borrowed Funds***

 

Deposits are the Bank’s primary source offunds.  The following table sets forththe amount of deposits outstanding by category at September 30, 2009 and December 31,2008, and the net changes between the two periods.

 
| ** **                                 | ** ** | ** **             | ** ** | ** **            | ** ** | ** **   | ** ** | ** **   | ** ** | **% of**      | ** ** |
|--------------------------------------------|------------|------------------------|------------|-----------------------|------------|--------------|------------|--------------|------------|---------------|------------|
| ** **                                 | ** ** | **September 30,** | ** ** | **December 31,** | ** ** | **Variance** | ** ** | **Deposits** | ** ** |
| ** **                                 | ** ** | **2009**               | ** ** | **2008**              | ** ** | **Dollars**  | ** ** | **Percent**  | ** ** | **September** | ** ** | **December** | ** ** |
| **(dollars  in thousands)**                | ** ** | **(unaudited)**        | ** ** | **(audited)**         | ** ** | ** **   | ** ** | ** **   | ** ** | ** **    | ** ** | ** ** | ** ** |
| **Deposit  Classifications:**              | ** ** | ** **             | ** ** | ** **            | ** ** | ** **   | ** ** | ** **   | ** ** | ** **    | ** ** | ** ** | ** ** |
| Non-interest  bearing deposits             |       | $                      | 20,908     |                  | $          | 15,379       |       | $            | 5,529      |          | 35.95      | % | 30.41 | % | 32.05 | % |
| Interest-bearing  demand                   |       | 2,554                  |       | 1,734                 |       | 820          |       | 47.29        | %          | 3.71          | %          | 3.61 | % |
| Savings  and money market                  |       | 16,844                 |       | 8,227                 |       | 8,617        |       | 104.74       | %          | 24.50         | %          | 17.14 | % |
| Certificate  of deposit $100,000 and over  |       | 23,855                 |       | 18,144                |       | 5,711        |       | 31.48        | %          | 34.70         | %          | 37.81 | % |
| Certificate  of deposit less than $100,000 |       | 4,592                  |       | 4,506                 |       | 86           |       | 1.91         | %          | 6.68          | %          | 9.39 | % |
| Total  deposits                            |       | $                      | 68,753     |                  | $          | 47,990       |       | $            | 20,763     |          | 43.27      | % | 100.00 | % | 100.00 | % |

 

31

----

Table of Contents

 

As of September 30, 2009, 30.4% of the Company’sdeposits were non-interest-bearing demand deposits, a decrease from December 31,2008 at 32.1%.  At December 31,2008, the Company held a limited amount (less than 2%) in ‘reciprocal brokeredfunds’ under the CDARS program.  At September 30,2009, the Company held no funds in ‘reciprocal brokered funds’ under the CDARSprogram.  However, to bridge a temporaryshortfall in deposits necessary to fund increasing loan demand at the end of June 2009,the Bank acquired $5,000,000 from the CDARS program for a 26-week period endingDecember 24, 2009 at .95%.  Brokered funds from all sources were $5.0 million or 7.3% of totalCompany deposits at September 30, 2009. Almost all other depository fundshave been placed with the Bank by local customers at competitive rates withinthe Bank’s marketing area.  While thegoal of the Bank is to fund credit commitments using local funding sources, itis anticipated that some of the future funding sources may include additionalbrokered and/or non-local funds.

 

The *Analysis of Net InterestIncome,*found within this document, summarizes the distribution ofthe average deposit balances and the average rates paid on deposits during theBank’s two comparative quarters ended September 30, 2009 and 2008 and forthe two comparative nine-month periods ended September 30, 2009 and 2008.

 

The following table shows the maturity of all of theBank’s time deposits as of September 30, 2009:

 
| **Maturities**                        | ** ** | **Amounts**         | ** **   |
|---------------------------------------|------------|---------------------|--------------|
| **(unaudited)**                       | ** ** | **(in  thousands)** | ** **   |
| Three  months or less                 |       | $                   |  12,114 |   |
| Over  three and through twelve months |       | 15,486              |         |
| Over  twelve months                   |       | 848                 |         |
| Total                                 |       | $                   |  28,448 |   |

 

The Bank has established borrowing lines with theFederal Home Loan Bank (“FHLB”) during 2008. At December 31, 2008, the Bank had borrowed $9.5 million from theFHLB collateralized by both loans and securities.  The average rate that was paid on FHLBborrowings was 4.30% for the quarter ended December 31, 2008.   At September 30, 2009, the Bank hadborrowed $11,500,000 from the FHLB, again collateralized by both loans andsecurities.  The average rate that waspaid on FHLB borrowings was 4.36% for the quarter ended September 30,2009, and 4.30% for the nine-month period ended September 30, 2009.

 

***Asset Quality and Allowance forLoan Losses***

 

The Company maintains an allowance for loan losses (“ALL”)to provide for potential losses in its loan portfolio.  Additions to the allowance are made bycharges to operating expense in the form of a provision for loan losses.  All loans that are judged to be uncollectiblewill be charged against the allowance, while recoveries would be credited tothe allowance.  We have instituted loanpolicies designed primarily for internal use, to adequately evaluate and assessthe analysis of the risk factors associated with the Bank’s loan portfolio, toenable us to assess such risk factors prior to granting new loans and to assessthe sufficiency of the allowance.  Weconduct an evaluation on the loan portfolio monthly.

 

The calculation of the adequacy of the ALLnecessarily includes estimates by management applied to known loan portfolioelements.  We employ a 10-point loangrading system in an effort to more accurately track the inherent quality ofthe loan portfolio.  The 10-point systemassigns a value of “1” or 

 

32

----

Table of Contents

 

“2” to loans that are substantially risk-free.  Modest, average and acceptable risk loans areassigned point values of “3”, “4”, and “5”, respectively.  Loans on the watch list are assigned a pointvalue of “6.”   Point values of “7,” “8,”“9” and “10” are assigned, respectively, to loans classified as specialmention, substandard, doubtful and loss. Using these risk factors, managementcontinues the analysis of the general reserves applying quantitative factorsbased upon different risk scenarios.

 

In addition, management considers other trends thatare qualitative relative to our marketplace, demographic trends, the riskrating of the loan portfolios as discussed above, amounts and trends innon-performing assets and concentration factors.  Theallowance for loan losses percentage as reported in both December 31, 2008and March 31, 2009 reflected the potential deficiency associated withcertain credits, for which specific reserves were set aside toacknowledge the portion estimated to be uncollectible.  As previouslydiscussed, the Bank charged off these loans as of September 30,2009.  The allowance continues to be set at a level reflecting ouranalysis of the risks within the portfolio as of September 30, 2009.  See Note 5 to *Notes to theFinancial Statements.*

 

***Regulatory Capital***

 

The Bank is subject to various regulatory capitalrequirements administered by the federal banking agencies.  Failure to meet minimum capital requirementscan trigger mandatory and possibly additional discretionary actions by theregulators that, if undertaken, could have a material effect on the Bank’sfinancial statements and operations. Under capital adequacy guidelines and regulatory framework for promptcorrective action, the Bank must meet specific capital guidelines that involvequantitative measures of the Bank’s assets, liabilities, and certainoff-balance sheet items as calculated under regulatory-accepted accountingpractices.  The Bank’s capital amountsand classifications are also subject to qualitative judgments by the regulatorssuch as components, risk-weightings, and other factors.

 

Quantitative measures established by regulation toensure capital adequacy require both the Company and the Bank to maintain thefollowing minimum amounts and ratios (set forth in the table below) of totaland Tier 1 Capital to risk-weighted assets, and Tier 1 Capital to averageassets. As of September 30, 2009, the Company and the Bank exceeded allapplicable capital adequacy requirements.

 

Under the Federal Reserve Board’s guidelines,Manhattan Bancorp is a “small bank holding company,” and thus qualifies for anexemption from the consolidated risk-based and leverage capital adequacyguidelines applicable to bank holding companies with assets of $500 million ormore.  However, while not required to doso under the Federal Reserve Board’s capital adequacy guidelines, the Companystill maintains levels of capital on a consolidated basis which qualifies it as“well-capitalized.”

 

The following table sets forth the Company’s and theBank’s regulatory capital ratios as of September 30, 2009:

 
|                                   |   |                |         |            |       | **To Be  Adequately** |       | **To Be  Well** |       |
|----------------------------------------|--------|---------------------|--------------|-----------------|------------|-----------------------|------------|-----------------|------------|
|                                   |   | **Actual**          |         | **Capitalized** |       | **Capitalized**       |       |
| **(unaudited)**                        |   | **Amount**          | ** **   | **Ratio**       | ** ** | **Amount**            | ** ** | **Ratio**       | ** ** | **Amount** | ** ** | **Ratio** |   |
|                                   |   | **(in  thousands)** |         |
| **Company**                            |   |                |         |            |       |                  |       |            |       |   |   |   |   |
| Total  Capital (risk-weighted assets)  |   | $                   |  29,826 |            | 37.8       | %                     | $          |  6,320     |       | 8 | % | $ |  7,901 |   | 10 | % |
| Tier  1 Capital (risk-weighted assets) |   | $                   |  28,840 |            | 36.5       | %                     | $          |  3,160     |       | 4 | % | $ |  4,740 |   | 6 | % |
| Tier  1 Capital (average assets)       |   | $                   |  28,840 |            | 29.4       | %                     | $          |  3,929     |       | 4 | % | $ |  4,911 |   | 5 | % |
|                                   |   |                |         |            |       |                  |       |            |       |   |   |   |   |
| **Bank**                               |   |                |         |            |       |                  |       |            |       |   |   |   |   |
| Total  Capital (risk-weighted assets)  |   | $                   |  23,591 |            | 30.0       | %                     | $          |  6,300     |       | 8 | % | $ |  7,875 |   | 10 | % |
| Tier  1 Capital (risk-weighted assets) |   | $                   |  22,605 |            | 28.7       | %                     | $          |  3,150     |       | 4 | % | $ |  4,725 |   | 6 | % |
| Tier  1 Capital (average assets)       |   | $                   |  22,605 |            | 23.0       | %                     | $          |  3,928     |       | 4 | % | $ |  4,911 |   | 5 | % |

 

33

----

Table ofContents

 

***Liquidity and LiquidityManagement***

 

Liquidity management for banks requires that fundsalways be available to pay anticipated deposit withdrawals, fund loancommitments, and meet other commitments on a timely and cost-effectivebasis.  The acquisition of deposits isour primary source of funds.  Thisrelatively stable and low-cost source of funds has, along with the balances instockholder’s equity, provided substantially all of the funding since the Bank’sinception.

 

We also have liquidity as a net seller of overnightfederal funds at a level that would cushion, in part, any unexpected increasein demand for loans or decrease in funds deposited.  During the three-month period ended March 31,2009, we had an average balance of $9.8 million in overnight federal funds soldrepresenting approximately 11% of our average assets. During the three-monthperiod ended June 30, 2009, we had an average balance of $7.0 million inovernight federal funds representing approximately 8% of our averageassets.  During the three-month periodended September 30, 2009, we had an average balance of $11.9 million inovernight federal funds/interest-bearing demand funds representingapproximately 12% of our average assets.   These ratios are far above the minimum guideline of 3% established inthe Bank’s liquidity policy.

 

To meet liquidity needs, the Company maintains aportion of its funds in cash deposits in other banks, federal funds andinvestment securities.  For a discussionof the Company’s investment securities at September 30, 2009 and December 31,2008 see Note 4 to*Notes to the Financial Statements.*As of December 31, 2008, liquid assets (including cash, Federal fundssold, interest-bearing deposits in other financial institutions andavailable-for-sale investment securities that have not been pledged ascollateral), as a percentage of the Company’s deposits, were 53%.  As of September 30, 2009, liquid assetsas a percentage of the Company’s deposits, although declining, remainacceptable at 42%.

 

While liquidity has not been a major concern in 2008or 2009, management has established secondary sources of liquidity.   The Bank maintains lines of credit totaling$6 million with two correspondent banks for the purchase of overnight federalfunds.  The lines are subject toavailability of funds and have restrictions as to the number of days usedduring defined periods of time.  Anothermethod that the Bank currently has available for acquiring additional depositsis through the acceptance of “brokered deposits” (defined to include not onlydeposits acquired with deposit brokers, but also deposits bearing interestrates far above the local market rates), typically attracting largecertificates of deposits at high interest rates.   As noted, the Company had $5.0 million inbrokered deposits as of September 30, 2009 or less than 7.3% of totalCompany deposits at the end of this period and $902,000 as of December 31,2008 or less than 2% of total Company deposits at the end of this period.   The Company’s policy restricts the relianceon brokered funds to no more than 40% of total deposits.

 

The Bank has established a credit line with theFederal Home Loan Bank of San Francisco and has outstanding as of September 30,2009 a five-year, fixed-rate advance of $4.5 million at 4.38% and an overnightvariable advance of $7.0 million at 0.10%.

 

The Bank has also been approved for advances fromthe Federal Reserve Bank Discount Window. All advances are subject to pledged collateral sufficient to cover eachadvance.

 

***Item 3 — Quantitative and QualitativeDisclosures about Market Risk***

 

The Company’s market risk results primarily from twosources: credit risk and interest-rate risk. Risk management is an important part of our operations and a key elementof our overall financial results. Banking regulators, in recent years, have emphasized appropriate riskmanagement, prompting banks to have adequate systems to identify, monitor andmanage risks.  The Bank has both boardand management 

 

34

----

Table of Contents

 

committees who meet on a regular basis to overseerisk functions.  The Company’s AuditCommittee is responsible for overseeing internal auditing functions and forinterfacing with the Company’s external auditors.  The Bank’s Loan Committee establishes LoanPolicy, reviews loans made by management and approves loans in excess ofmanagement’s lending authority.  Thiscommittee is also responsible for the review of any problem credits andassessing the adequacy of our allowance for loan losses.  The Asset/Liability Committee reviewsinvestments made by management and monitors compliance with investment,interest-rate risk and liquidity policies.

 

***Credit Risk***

 

Credit risk generally arises as a result of the Bank’slending activities but may also be present in the Bank’s investmentfunctions.  To manage the credit risk inherentin our lending activities, we rely on the adherence to underwriting standardsand loan policies as well as our allowance for loan losses.  The Bank employs frequent monitoringprocedures and takes prompt corrective action when necessary.  Additionally, the Bank’s loan portfolio andthe ALL methodology are expected to be examined on a regular basis by bothregulatory agencies and independent loan review professionals.

 

***Interest-Rate Risk***

 

Interest-rate risk is the exposure of a bank’sfinancial condition and the results of operations to adverse movements ininterest rates.  Movements in interestrates affect both the generation of earnings as well as the market value ofassets and liabilities.   Interest-raterisk results from more than just the differences in the maturity or repricingopportunities of interest-earning assets and interest-bearing liabilities.Other factors that affect the interest-rate risk include changes in the slopeof the yield curves over time; imperfect correlation in the adjustment of ratesearned and paid on different instruments with similar characteristics;interest-rate-related embedded options such as loan floors, ceilings, andprepayments; as well as callable investment securities and early withdrawal oftime deposits.

 

The potential impact of interest-rate risk issignificant because of the liquidity and capital adequacy consequences thatreduced earnings or losses may imply. While we recognize and accept that interest-rate risk is a routine partof banking operations, the objective of interest-rate risk management is tomeasure, monitor and control exposure of net interest income to excessive risksassociated with interest rate movements.

 

Understanding the inherent weakness in traditionalgap analysis to properly measure interest-rate risk, the Bank employs modelingtechniques which measure the effect of interest rate shocks on the net interestincome and the market value of equity on the Bank’s existing mix of assets andliabilities.

 

The results of the model’s simulations on thepotential loss of net interest income as of September 30, 2009 reflect thefollowing:

 
| **Earnings at Risk**  | ** ** |
|-----------------------|------------|
| **(unaudited)**       | ** ** | ** ** | ** ** | ** ** | ** ** |
| **Rate**              | ** ** | **Maximum** | ** ** | **%  (Loss) Gain** | ** ** |
| **Shock**             | ** ** | **Policy** | ** ** | **in  Net Interest** | ** ** |
| **(in basis points)** | ** ** | **Guideline** | ** ** | **Income** | ** ** |
| -300                  |       | -15 | % | -10.9 | % |
| -200                  |       | -10 | % | -6.8 | % |
| -100                  |       | -5 | % | -2.8 | % |
| +100                  |       | -5 | % | 1.9 | % |
| +200                  |       | -10 | % | 3.8 | % |
| +300                  |       | -15 | % | 5.7 | % |

 

35

----

Table ofContents

 

The method employed in rate shocking the earnings atrisk was “ramping”, (i.e., changing the indicated rate movement gradually overa twelve-month horizon).  Based upon themodel simulation as of September 30, 2009, the Bank’s interest-rate riskexposure as measured by rate movement on net interest income is within policyguidelines.

 

The results of the model’s simulations on thepotential loss of the Company’s equity as of September 30, 2009 reflectthe following:

 
| **Market Value of Equity** | ** ** |
|----------------------------|------------|
| **(unaudited)**            | ** ** | ** ** | ** ** | ** ** | ** ** |
| **Rate**                   | ** ** | **Maximum** | ** ** | **%  (Loss) Gain** | ** ** |
| **Shock**                  | ** ** | **Policy** | ** ** | **in  Market** | ** ** |
| **(in basis points)**      | ** ** | **Guideline** | ** ** | **Value  of Equity** | ** ** |
| -300                       |       | -30 | % | -3.8 | % |
| -200                       |       | -20 | % | -3.8 | % |
| -100                       |       | -10 | % | -1.8 | % |
| +100                       |       | -10 | % | -2.0 | % |
| +200                       |       | -20 | % | -3.8 | % |
| +300                       |       | -30 | % | -4.1 | % |

 

The method employed in rate shocking the marketvalue of equity is referred to as “regulatory shock”, i.e., changing theindicated rates instantaneously.

 

Based upon the model simulation as of September 30,2009, the Bank interest-rate exposure as measured by rate movement on themarket value of the Bank’s equity is within policy guidelines.

 

***Item 4T — Controls and Procedures***

 

The Company maintains disclosure controls andprocedures (as defined in the Exchange Act Rule 13a-15(e)) that aredesigned to assure that information required to be disclosed in our SecuritiesExchange Act of 1934 reports is recorded, processed, summarized and reportedwithin the time periods specified in the Securities and Exchange Commission’s rules andforms, and that such information is accumulated and communicated to management,including the Chief Executive Officer and Chief Financial Officer, asappropriate, to allow timely decisions regarding required disclosures.

 

In designing and evaluating the disclosure controlsand procedures, management recognizes that any controls and procedures, nomatter how well-designed and operated, can provide reasonable assurance only ofachieving the desired control objectives, and management necessarily isrequired to apply its judgment in weighing the costs and benefits of possiblenew or different controls and procedures. Limitations are inherent in all control systems, so no evaluation ofcontrols can provide absolute assurance that all control issues and any fraudwithin the Company have been detected.

 

Asrequired by Exchange Act Rule 13a-15(b), as of the end of the periodcovered by this report, the Company, under the supervision and withparticipation of the Chief Executive Officer and Chief Financial Officer,evaluated the effectiveness of our disclosure controls and procedures.  Based upon this evaluation, the ChiefExecutive Officer and Chief Financial Officer concluded that our disclosurecontrols and procedures were effective as of that date.

 

During the quarter ended September 30, 2009,there were no significant changes in our internal controls over financialreporting (as defined in Rule 13a-15(f) of the Securities ExchangeAct of 1934, as amended) that have materially affected, or are reasonablylikely to materially affect, the Company’s internal control over financialreporting.

 

36

----

Table ofContents

 

**PART II — OTHER INFORMATION**

 

***Item 1. — Legal Proceedings***

 

The Company is not a party to any material legalproceedings.

 

***Item 1A. — Risk Factors***

 

As a smaller reporting company, the Company is notrequired to provide the information required by this item as a part of the Form 10-Q.

 

***Item 2 — Unregistered Sale of EquitySecurities and Use of Proceeds***

 

None.

 

***Item 3 — Defaults upon Senior Securities***

 

Not Applicable.

 

***Item 4 — Submission of Matters to the Voteof Security Holders***

 

None.

 

***Item 5 — Other Information***

 

None.

 

 

***Item 6 — Exhibits***

 
| **Exhibit  Number** | ** ** | **Index to  Exhibits**                                                                                                                                                          | ** ** | **Page** |
|---------------------|------------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|----------|
| 11                  |       | Statement Regarding Computation of Net  Income (Loss) per Share                                                                                                                 |       | (1)      |
| 31.1                |       | Certification of the Chief Executive  Officer pursuant to Rule 13a-14(a) or 15d-14(a) of the  Securities Exchange Act of 1934, as amended                        |       | 38       |
| 31.2                |       | Certification of the Chief Financial  Officer pursuant to Rule 13a-14(a) or 15d-14(a) of the  Securities Exchange Act of 1934, as amended                        |       | 39       |
| 32.1                |       | Certification of the President and Chief  Executive Officer pursuant to 18 U.S.C. Section 1350, as amended  pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |       | 40       |
| 32.2                |       | Certification of the Chief Financial  Officer pursuant to 18 U.S.C. Section 1350, as amended pursuant to  Section 906 of the Sarbanes-Oxley Act of 2002               |       | 41       |

 

----

(1)      Theinformation required by this exhibit is incorporated by reference from Note 9to the Company’s financial statements included herein.

 

37

----

Table ofContents

 

**SIGNATURES**

 

Pursuantto the requirement of the Securities and Exchange Act of 1934, the registranthas duly caused this report to be signed on its behalf by the undersignedthereunto duly authorized.

 
| ** ** | ** **              | ** ** | **MANHATTAN BANCORP**          |
|------------|-------------------------|------------|--------------------------------|
|       |                    |       |                           |
|       |                    |       |                           |
| Date:      | November 10,  2009 |       | /s/  Jeffrey M. Watson         |
|       |                    |       | Jeffrey  M. Watson             |
|       |                    |       | President  and                 |
|       |                    |       | Chief  Executive Officer       |
|       |                    |       | (Principal  Executive Officer) |
|       |                    |       |                           |
|       |                    |       |                           |
| Date:      | November 10,  2009 |       | /s/  Dean Fletcher             |
|       |                    |       | Dean  Fletcher                 |
|       |                    |       | Executive  Vice President and  |
|       |                    |       | Chief  Financial Officer       |
|       |                    |       | (Principal  Financial and      |
|       |                    |       | Accounting  Officer)           |

 

38

----