U. S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
___________________
F O R M 10 - QSB
[X] Quarterly Report Under Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the Quarterly Period Ended September 30, 2004
Commission file number 0-49784
SOUTHERN CONNECTICUT BANCORP, INC.
(Name of Small Business Issuer as Specified in Its Charter)
Connecticut 06-1609692
(State or Other Jurisdiction (I.R.S. Employer
of Incorporation or Organization) Identification Number)
215 Church Street
New Haven, Connecticut 06510
(Address of Principal Executive Offices)
(203) 782-1100
(Issuer's Telephone Number)
Check whether the issuer (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 12 months, and
(2) has been subject to such filing requirements for the past 90 days.
YES [X] No [ ]
The number of shares of the issuer's Common Stock, par value $.01 per
share, outstanding as of October 19, 2004: 2,797,711
Transitional Small Business Disclosure Format
Yes __ No X
Table of Contents
Part I
Financial Information
Page
Item 1. Financial Statements
Consolidated Balance Sheets as of
September 30, 2004 (unaudited) and December 31, 2003 1
Consolidated Statements of Operations
for the three months and nine months ended September 30, 2004
and 2003 (unaudited) 2
Consolidated Statements of Changes in
Shareholders' Equity for the nine months ended
September 30, 2004 and 2003 (unaudited) 3
Consolidated Statements of Cash Flows for the nine months ended
September 30, 2004 and 2003 (unaudited) 4 - 5
Notes to Consolidated Financial Statements (unaudited) 6
Item 2. Management's Discussion and Analysis or Plan of Operation 14
Item 3. Controls and Procedures 34
Part II
Other Information
Item 1. Legal Proceedings 35
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 35
Item 3. Defaults Upon Senior Securities 35
Item 4. Submission of Matters to a Vote of Security Holders 35
Item 5. Other Information 35
Item 6. Exhibits and Reports on Form 8-K 35
Signatures 38
Exhibit Index 39
-i-
PART 1
Financial Information
Item 1. Financial Statements
SOUTHERN CONNECTICUT BANCORP, INC.
CONSOLIDATED BALANCE SHEETS
September 30, 2004 (unaudited) and December 31, 2003
2004 2003
------------ ------------
Assets
Cash and due from banks $ 255,658 $ 1,147,883
Federal funds sold 6,350,000 966,000
Short-term investments 3,203,563 454,115
------------ ------------
Cash and cash equivalents 9,809,221 2,567,998
------------ ------------
Available for sale securities, at fair value 14,536,086 8,478,068
Federal Home Loan Bank Stock 47,100 21,500
Loans receivable (net of allowance for loan losses of
$521,283 in 2004 and $421,144 in 2003) 50,507,560 40,818,718
Loans held for sale, at fair value 1,206,348 --
Accrued interest receivable 270,781 196,545
Premises and equipment, net 3,355,702 3,459,915
Other assets 986,156 843,296
------------ ------------
Total assets $ 80,718,954 $ 56,386,040
============ ============
Liabilities and Shareholders' Equity
Liabilities
Deposits
Noninterest bearing deposits $ 14,803,852 $ 13,781,286
Interest bearing deposits 42,076,931 33,492,589
------------ ------------
Total deposits 56,880,783 47,273,875
Repurchase agreements 1,563,888 339,752
Accrued expenses and other liabilities 275,159 267,232
Capital lease obligations 1,190,230 1,190,879
------------ ------------
Total liabilities 59,910,060 49,071,738
------------ ------------
Commitments and Contingencies -- --
Shareholders' Equity
Preferred stock, no par value; 500,000 shares authorized;
none issued
Common stock, par value $.01; 5,000,000, shares authorized;
shares issued and outstanding: 2004 2,797,711; 2003 1,063,320 27,977 10,633
Additional paid-in capital 24,085,612 10,704,269
Accumulated deficit (3,097,900) (3,100,842)
Accumulated other comprehensive loss - net unrealized
loss on available for sale securities (206,795) (299,758)
------------ ------------
Total shareholders' equity 20,808,894 7,314,302
------------ ------------
Total liabilities and shareholders' equity $ 80,718,954 $ 56,386,040
============ ============
See Notes to Consolidated Financial Statements
1
SOUTHERN CONNECTICUT BANCORP,INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
For the Three Months and Nine Months Ended September 30, 2004 and 2003 (unaudited)
Three Months Ended Nine Months Ended
September 30 September 30
-------------------------- -------------------------
2004 2003 2004 2003
Interest Income ---- ---- ---- ----
Interest and fees on loans $ 871,221 $ 577,882 $ 2,548,299 $ 1,497,949
Interest on securities 86,739 66,218 190,180 198,023
Interest on federal funds sold and short-term investments 30,993 6,935 64,055 29,375
-------------------------- -------------------------
Total interest income 988,953 651,035 2,802,534 1,725,347
-------------------------- -------------------------
Interest Expense
Interest on deposits 144,212 91,468 451,781 276,694
Interest on capital lease obligations 42,843 42,268 128,134 126,350
Interest on repurchase agreements 2,048 1,117 5,758 2,538
-------------------------- -------------------------
Total interest expense 189,103 134,853 585,673 405,582
-------------------------- -------------------------
Net interest income 799,850 516,182 2,216,861 1,319,765
Provision for Loan Losses 56,900 57,100 117,895 143,500
Net interest income after
-------------------------- -------------------------
provision for loan losses 742,950 459,082 2,098,966 1,176,265
-------------------------- -------------------------
Noninterest Income:
Service charges and fees 88,017 39,383 233,033 86,383
Gains and fees from sales and referrals of SBA loans 14,930 -- 231,645 --
Gains on sales of available for sale securities 4,856 -- 3,912 44,505
Other noninterest income 35,356 32,353 146,783 70,948
-------------------------- -------------------------
Total noninterest income 143,159 71,736 615,373 201,836
-------------------------- -------------------------
Noninterest Expense
Salaries and benefits 472,050 375,123 1,405,126 1,056,994
Occupancy and equipment 123,410 99,923 385,006 267,962
Professional services 109,459 62,519 289,283 177,970
Data processing and other outside services 70,831 53,617 209,400 140,426
Advertising and promotional expense 33,949 27,160 68,256 64,660
Forms, printing and supplies 17,141 13,012 61,840 42,915
Other operating expenses 112,201 110,689 292,486 251,047
-------------------------- -------------------------
Total noninterest expenses 939,041 742,043 2,711,397 2,001,974
-------------------------- -------------------------
Net (loss) income $ (52,932) $ (211,225) $ 2,942 $ (623,873)
========================== =========================
Basic (Loss) Income per Share $ (0.02) $ (0.20) $ 0.00 $ (0.59)
========================== =========================
Diluted (Loss) Income per Share $ (0.02) $ (0.20) $ 0.00 $ (0.59)
========================== =========================
Dividends per Share $ -- $ -- $ -- $ --
========================== =========================
See Notes to Consolidated Financial Statements.
2
SOUTHERN CONNECTICUT BANCORP, INC.
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY For the Nine Months
ended September 30, 2004 and 2003 (unaudited)
Accumulated
Accumulated
Additional Other
Number Common Paid-in Accumulated Comprehensive
of Shares Stock Capital Deficit Income (Loss) Total
--------------------------------------------------------------------------------------------------
Balance December 31, 2002 966,667 $ 9,667 $ 10,705,382 $ (2,502,915) $ 62,545 $ 8,274,679
----------------
Comprehensive Loss:
Net Loss -- -- -- (623,873) -- (623,873)
Unrealized holding loss on
available for sale securities -- -- -- -- (306,859) (306,859)
---------------
Total comprehensive loss (930,732)
--------------------------------------------------------------------------------------------------
Balance September 30, 2003 966,667 $ 9,667 $ 10,705,382 $ (3,126,788) $ (244,314) $ 7,343,947
==================================================================================================
Balance December 31, 2003 1,063,320 $ 10,633 $ 10,704,269 $ (3,100,842) $ (299,758) $ 7,314,302
----------------
Comprehensive Income:
Net Income -- -- -- 2,942 -- 2,942
Unrealized holding gain on
available for sale securities -- -- -- -- 92,963 92,963
---------------
Total comprehensive income 95,905
Exercise of stock warrants 5,544 56 60,424 -- -- 60,480
Exercise of stock options 5,847 58 45,137 45,195
Issuance of common stock 1,723,000 17,230 13,275,782 -- -- 13,293,012
--------------------------------------------------------------------------------------------------
Balance September 30, 2004 2,797,711 $ 27,977 $ 24,085,612 $ (3,097,900) $ (206,795) $ 20,808,894
==================================================================================================
See Notes to Consolidated Financial Statements.
3
SOUTHERN CONNECTICUT BANCORP, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Nine Months Ended September 30, 2004 and 2003 (unaudited) Nine Months Ended
September 30,
--------------------------
Cash Flows From Operations 2004 2003
------------- ------------
Net income (loss) $ 2,942 $ (623,873)
Adjustments to reconcile net income (loss) to net
cash used in operating activities:
Amortization and accretion of premiums
and discounts on investments, net (459) 22,215
Provision for loan losses 117,895 143,500
Gain on sales of available for sale securities (3,912) (44,405)
Gains on sales of SBA loans (202,196) -
Depreciation and amortization 210,915 155,309
Increase in cash surrender value of life insurance (20,251) (8,637)
Changes in assets and liabilities:
Increase in deferred loan fees 51,640 31,682
Increase in accrued interest receivable (74,236) (16,433)
Increase in other assets (122,510) (30,933)
Increase in accrued expenses and other liabilities 7,927 37,434
--------------------------
Net cash used in by operating activities (32,245) (334,141)
--------------------------
Cash Flows From Investing Activities
Purchases of available for sale securities (8,968,530) (10,949,684)
Principal repayments on available for sale securities 1,006,655 836,856
Proceeds from maturities of available for sale securities - 6,185,000
Proceeds from sales of available for sale securities 2,001,191 4,357,895
Purchases of Federal Home Loan Bank Stock (25,600) (21,000)
Proceeds from sales of SBA loans 1,986,863 -
Net increase in loans receivable (12,965,905) (16,455,166)
Purchases of premises and equipment (106,702) (603,539)
Proceeds from sale of OREO 116,414 -
--------------------------
Net cash used in investing activities (16,955,614) (16,649,638)
--------------------------
Cash Flows From Financing Activities
Net increase in demand, savings and money market deposits 9,803,625 14,328,987
Net decrease in certificates of deposit (196,717) 452,813
Net increase in repurchase agreements 1,224,136 336,415
Principal payments on capital lease obligations (649) (768)
Net proceeds from common stock offering 13,293,012 -
Exercise of stock options and warrants 105,675 -
--------------------------
Net cash provided by financing activities 24,229,082 15,117,447
--------------------------
Net increase (decrease) in cash and
cash equivalents 7,241,223 (1,866,332)
Cash and cash equivalents
Beginning 2,567,998 3,051,429
--------------------------
Ending $ 9,809,221 $ 1,185,097
==========================
See Notes to Consolidated Financial Statements.
4
SOUTHERN CONNECTICUT BANCORP, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS (continued)
For the Nine Months Ended September 30, 2004 and 2003 (unaudited) Nine Months Ended
September 30,
---------------------------
2004 2003
-------------- ------------
Supplemental disclosures of cash flow information:
Cash paid during the period for:
Interest $ 574,600 $ 392,724
========== ==========
Income taxes $ -- $ --
========== ==========
Supplemental disclosures of noncash investing activities
Transfer of Loans to OREO $ 116,513 $ --
========== ==========
Transfer of Loans to loans held for sale $1,206,348 $ --
========== ==========
See Notes to Consolidated Financial Statements.
5
Southern Connecticut Bancorp, Inc.
Notes to Consolidated Financial Statements
(Unaudited)
Note 1. Nature of Operations
Southern Connecticut Bancorp, Inc. ("Bancorp"), a Connecticut
corporation, is a bank holding company incorporated on November 8, 2000 for the
purpose of forming, and becoming the sole shareholder of, The Bank of Southern
Connecticut (the "Bank"). The Bank provides a full range of banking services to
commercial and consumer customers, primarily concentrated in the New Haven
County area of Connecticut, through its main office in New Haven, Connecticut
and two branch offices in New Haven and Branford Connecticut. The Bank is a
Small Business Administration lender, and generally sells participations in the
guaranteed portion of such loans. In 2003, SCB Capital Inc. was formed as a
Connecticut corporation, and in April 2004 Bancorp capitalized SCB Capital,
Inc., which became a subsidary of the Company. SCB Capital, Inc. will engage in
a limited range of investment banking, advisory, and brokerage services,
primarily with small to medium size business clients. On April 28, 2004, Bancorp
received a temporary certificate of incorporation from the Banking Department of
the State of Connecticut to open a new bank, to be named The Bank of
Southeastern Connecticut, to be located in New London, Connecticut.
Note 2. Basis of Financial Statement Presentation
The consolidated balance sheet at December 31, 2003 has been derived
from the audited consolidated financial statements of Bancorp at that date, but
does not include all of the information and footnotes required by accounting
principles generally accepted in the United States of America for complete
financial statements.
The accompanying consolidated unaudited financial statements as of and
for the three and nine months ended September 30, 2004 and 2003 and related
notes have been prepared pursuant to the rules and regulations of the Securities
and Exchange Commission ("SEC"). Accordingly, certain information and note
disclosures normally included in financial statements prepared in accordance
with accounting principles generally accepted in the United States of America
have been omitted. The accompanying consolidated financial statements and notes
thereto should be read in conjunction with the audited financial statements of
Bancorp and notes thereto as of December 31, 2003.
Certain 2003 amounts have been reclassified to conform with the 2004
presentation. Such reclassifications had no effect on the 2003 net loss.
The accompanying unaudited consolidated financial information reflects,
in the opinion of management, all adjustments, consisting of normal recurring
accruals, necessary for a fair presentation of the interim periods presented.
The results of operations for the three and nine months ended September 30, 2004
are not necessarily indicative of the results of operations that may be expected
for all of 2004.
6
Note 3. Available for Sale Securities
The amortized cost, gross unrealized gains, gross unrealized losses and
approximate fair values of available for sale securities at September 30, 2004,
and December 31, 2003 are as follows:
Gross Gross
Amortized Unrealized Unrealized Fair
September 30, 2004 Cost Gains Losses Value
-------------------------------------------------------------
U.S. Treasury Obligations $ 5,998,497 $ 63 $ -- $ 5,998,560
U.S. Government Agency Obligations 8,193,273 -- (195,815) 7,997,458
Mortgage Backed Securities 551,111 -- (11,043) 540,068
-------------------------------------------------------------
$ 14,742,881 $ 63 $ (206,858) $ 14,536,086
=============================================================
Gross Gross
Amortized Unrealized Unrealized Fair
December 31, 2003 Cost Gains Losses Value
-------------------------------------------------------------
U.S. Government Agency Obligations $ 7,200,948 $ -- $ (269,550) $ 6,931,398
Mortgage Backed Securities 1,576,878 -- (30,208) 1,546,670
-------------------------------------------------------------
$ 8,777,826 $ -- $ (299,758) $ 8,478,068
=============================================================
At September 30, 2004, gross unrealized holding losses on available for
sale securities totaled $206,858. Of the securities with unrealized losses,
there are two mortgage backed and eight U.S. Government agency securities that
had unrealized losses for a period in excess of twelve months with a current
unrealized loss of $200,296. Management does not believe that any of the
unrealized losses are other than temporary as they relate to debt and
mortgage-backed securities issued by U. S. Government and U.S. Government
sponsored agencies resulting from changes in the interest rate environment.
Bancorp has the intent and ability to hold these securities to maturity if
necessary and expects to receive all contractual principal and interest related
to these investments. As a result, management believes that these unrealized
losses will not have a negative impact on future earnings or a permanent effect
on capital.
At December 31, 2003, gross unrealized holding losses on available for
sale securities totaled $299,758. Of the securities with unrealized losses,
there are no securities that had unrealized losses for a period in excess of
twelve months.
7
Note 4. Loans Receivable
A summary of Bancorp's loan portfolio at September 30, 2004 and December 31,
2003 is as follows:
September 30,2004 December 31, 2003
----------------- -----------------
Commercial loans secured by real estate $ 30,142,357 $ 18,043,588
Commercial loans 17,424,420 18,584,292
Construction and land loans, net of undisbursed
portion of $254,500 in 2004 and $729,220 in 2003 1,733,179 1,500,891
Residential mortgages 55,965 948,258
Consumer home equity loans 1,109,523 1,042,717
Consumer installment loans 699,843 1,204,920
------------ ------------
Total loans 51,165,287 41,324,666
Net deferred loan fees (136,444) (84,804)
Allowance for loan losses (521,283) (421,144)
------------ ------------
Loans receivable, net $ 50,507,560 $ 40,818,718
============ ============
Note 5. Deposits
At September 30, 2004 and December 31, 2003, deposits consisted of the
following:
September 30, 2004 December 31, 2003
----------------- -----------------
Noninterest bearing deposits $ 14,803,852 $ 13,781,286
------------ ------------
Interest bearing deposits
Checking 8,829,196 3,499,378
Money Market 19,647,823 17,251,327
Savings 3,688,086 2,633,341
------------ ------------
Checking, money market & savings 32,165,105 23,384,046
------------ ------------
Time Certificates under $100,000 3,301,116 3,057,294
Time Certificates of $100,000 or more 6,610,710 7,051,249
------------ ------------
Time deposits 9,911,826 10,108,543
------------ ------------
42,076,931 33,492,589
------------ ------------
Total deposits $ 56,880,783 $ 47,273,875
============ ============
8
Note 6. Available Borrowings
During 2003 Bancorp obtained secured and unsecured lines of credit with
other financial institutions with total available borrowings of $4,400,000.
There are no borrowings against these lines of credit as of September 30, 2004.
Note 7. Income (Loss) Per Share
Bancorp is required to present basic income (loss) per share and
diluted income (loss) per share in its statements of operations. Basic per share
amounts are computed by dividing net income (loss) by the weighted average
number of common shares outstanding. Diluted per share amounts assume exercise
of all potential common stock in weighted average shares outstanding, unless the
effect is antidilutive. Bancorp is also required to provide a reconciliation of
the numerator and denominator used in the computation of both basic and diluted
(loss) income per share. The following is information about the computation of
(loss) income per share for the three and nine months ended September 30, 2004
and 2003.
Income (Loss) per Share
Three Months Ended September 30,
2004 2003
----------------------------------------- ------------------------------------------
Weighted Weighted
Net Average Amount Net Average Amount
Loss Shares Per Share Loss Shares Per Share
----------- -------------- -------------- -------------- -------------- ------------
Basic Loss Per Share
Income available to common shareholders $(52,932) 2,793,389 $ (0.02) $ (211,225) 1,063,320 $ (0.20)
Effect of Dilutive Securities
Warrants/Stock Options outstanding - - - - - -
----------- -------------- -------------- -------------- -------------- ------------
Diluted Loss Per Share
Income available to common shareholders
plus assumed conversions $(52,932) 2,793,389 $ (0.02) $ (211,225) 1,063,320 $ (0.20)
=========== ============== ============== ============== ============== ============
Nine Months Ended September 30,
2004 2003
----------------------------------------- ------------------------------------------
Weighted Weighted
Net Average Amount Net Average Amount
Income Shares Per Share Loss Shares Per Share
----------- -------------- -------------- -------------- -------------- ------------
Basic Income (Loss) Per Share
Income available to common shareholders $ 2,942 1,734,522 $ 0.00 $ (623,873) 1,063,320 $ (0.59)
Effect of Dilutive Securities
Warrants/Stock Options outstanding - 39,008 - - - -
----------- -------------- -------------- -------------- -------------- ------------
Diluted Income (Loss) Per Share
Income available to common shareholders
plus assumed conversions $ 2,942 1,773,530 $ 0.00 $ (623,873) 1,063,320 $ (0.59)
=========== ============== ============== ============== ============== ============
9
For the three months and nine months ended September 30, 2003, and the three
months ended September 30, 2004, common stock equivalents have been excluded
from the computation of the net loss per share because the inclusion of such
equivalents is antidilutive.
Note 8. Other Comprehensive Income (Loss)
Other comprehensive income (loss), which is comprised solely of the
change in unrealized gains and losses on available for sale securities, is as
follows:
Nine Months Ended
September 30, 2004
---------------------------------------------
Before-Tax Net-of-Tax
Amount Taxes Amount
---------------------------------------------
Unrealized holding gains arising during the period $ 96,875 $ -- $ 96,875
Less: Reclassification adjustment for gains --
recognized in net income (3,912) -- (3,912)
---------------------------------------------
Unrealized holding gains on available for sale
securities, net of taxes $ 92,963 $ -- $ 92,963
=============================================
Nine Months Ended
September 30, 2003
---------------------------------------------
Before-Tax Net-of-Tax
Amount Taxes Amount
---------------------------------------------
Unrealized holding losses arising during the period $(302,259) $ 34,783 $(267,476)
Less: Reclassification adjustment for gains
recognized in net income (44,505) 5,122 (39,383)
---------------------------------------------
Unrealized holding loss on available for sale
securities, net of taxes $(346,764) $ 39,905 $(306,859)
=============================================
Note 9. Stock Based Compensation
During the nine months ended September 30, 2004, Bancorp granted 26,420
stock options to employees and directors at exercise prices ranging from $8.45
to $9.75 per share.
Statement of Financial Accounting Standards (SFAS) No. 123, "Accounting
for Stock-Based Compensation", encourages all entities to adopt a fair value
based method of accounting for employee stock compensation plans, whereby
compensation cost is measured at the grant date based on the value of the award
and is recognized over the service period, which is usually the vesting period.
However, it also allows an entity to continue to measure compensation cost for
those plans using the intrinsic value based method of accounting prescribed by
Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to
Employees," whereby compensation cost is the excess, if any, of the quoted
market price of the stock at the grant date (or other measurement date) over the
amount an employee must pay to acquire the stock. Stock options issued to
employees and directors under Bancorp's stock option and warrant plans have no
intrinsic value at the grant date, and under Opinion No. 25 no compensation cost
is recognized
10
for them. Bancorp has elected to continue with the accounting methodology in
Opinion No. 25 and, as a result, has provided pro forma disclosures of net loss
and earnings per share and other disclosures, as if the fair value based method
of accounting had been applied.
Had compensation cost for issuance of such options and warrants been
recognized based on the fair values of awards on the grant dates, in accordance
with the method described in SFAS No. 123, reported net income (loss) and per
share amounts for the nine and three months ended September 30, 2004 and 2003
would have differed from the pro forma amounts as shown below:
For the nine months ended September 30, 2004 and September 30, 2003
Nine Months Ended Nine Months Ended
September 30, 2004 September 30, 2003
------------------- ------------------
Net income (loss) as reported $ 2,942 $ (623,873)
Deduct: total stock based employee
compensation expense determined under fair value based
method for all awards (232,943) (155,029)
------------------- ------------------
Pro forma net loss $ (230,001) $ (778,902)
=================== ==================
Basic income (loss) per share:
As reported $ 0.00 $ (0.59)
=================== ==================
Pro forma $ (0.13) $ (0.73)
=================== ==================
Diluted income (loss) per share:
As reported $ 0.00 $ (0.59)
=================== ==================
Pro forma $ (0.13) $ (0.73)
=================== ==================
For the three months ended September 30, 2004 and September 30, 2003
Three Months Ended Three Months Ended
September 30, 2004 September 30, 2003
---------------- ------------------
Net loss as reported $ (52,932) $ (211,225)
Deduct: total stock based employee
compensation expense determined under fair value based
method for all awards (78,281) (72,679)
------------------- ------------------
Pro forma net loss $ (131,213) $ (283,904)
=================== ==================
Basic loss per share:
As reported $ (0.02) $ (0.20)
=================== ==================
Pro forma $ (0.05) $ (0.27)
=================== ==================
Diluted loss per share:
As reported $ (0.02) $ (0.20)
=================== ==================
Pro forma $ (0.05) $ (0.27)
=================== ==================
For the three and nine months ended September 30, 2004 and 2003, common stock
equivalents have been excluded from the computation of the pro forma net loss
per share because the inclusion of such equivalents is antidilutive.
11
Note 10. Bank Application and Capital Raising
During 2003, Bancorp's Board of Directors approved the establishment of
a new commercial bank in New London, Connecticut. In October 2003, Bancorp
submitted its final application to the State of Connecticut Department of
Banking related to the establishment of the new bank to be located in the city
of New London. On April 28, 2004, the State of Connecticut Department of Banking
issued a temporary certificate of authority in connection with this application.
An application to the Federal Deposit Insurance Corporation was filed on July
30, 2004 and has been extended on October 13, 2004 in order to allow Bancorp to
provide additional information regarding the infrastructure in place to support
the two banks and to revise certain proposed policies of the new bank. Subject
to applicable State and Federal agency regulatory approval and the issuance of a
final certificate of authority from the State of Connecticut Department of
Banking, Bancorp plans to open the new bank in the first quarter of 2005.
On June 17, 2004, Bancorp completed a public offering of its common
stock with net proceeds of $13.3 million after deduction of underwriter's
discount and offering expenses. Bancorp issued 1,723,000 shares of common stock
in connection with this offering. On June 17, 2004, Bancorp invested
approximately $2.8 million of the public offering proceeds in The Bank of
Southern Connecticut. Bancorp has also committed to capitalize the new bank with
$6 million of the proceeds raised from this public offering.
Note 11. Financial Instruments with Off-Balance-Sheet Risk
In the normal course of business, Bancorp is a party to financial
instruments with off-balance-sheet risk to meet the financing needs of its
customers. These financial instruments include commitments to extend credit and
involve, to varying degrees, elements of credit and interest rate risk in excess
of the amounts recognized in the financial statements. The contractual amounts
of these instruments reflect the extent of involvement Bancorp has in particular
classes of financial instruments.
The contractual amounts of commitments to extend credit represent the
amounts of potential accounting loss should: the contract be fully drawn upon;
the customer default; and the value of any existing collateral become worthless.
Bancorp uses the same credit policies in making commitments and conditional
obligations as it does for on-balance-sheet and evaluates each customer's
creditworthiness on a case-by-case basis. Management believes that Bancorp
controls the credit risk of these financial instruments through credit
approvals, credit limits, monitoring procedures and the receipt of collateral as
deemed necessary.
12
Financial instruments whose contract amounts represent credit risk are as
follows at September 30, 2004 and December 31, 2003:
September 30, December 31,
2004 2003
---------------- ----------------
Commitments to extend credit
Future loan commitments $ 6,094,880 $ 3,752,000
Unused line of credit 8,411,049 9,065,661
Undisbursed construction loans 254,500 729,220
Financial standby letters of credit 1,058,055 933,055
---------------- ----------------
$15,818,484 $14,479,936
================ ================
Commitments to extend credit are agreements to lend to a customer as
long as there is no violation of any condition established in the contract.
Commitments to extend credit generally have fixed expiration dates or other
termination clauses and may require payment of a fee by the borrower. Since
these commitments could expire without being drawn upon, the total commitment
amounts do not necessarily represent future cash requirements. The amount of
collateral obtained, if deemed necessary by Bancorp upon extension of credit, is
based upon management's credit evaluation of the counter party. Collateral held
varies, but may include residential and commercial property, deposits and
securities.
Standby letters of credit are written commitments issued by Bancorp to
guarantee the performance of a customer to a third party. The credit risk
involved in issuing letters of credit is essentially the same as that involved
in extending loan facilities to customers. Newly issued or modified guarantees
that are not derivative contracts have been recorded on Bancorp's books at their
fair value at inception. The liability related to guarantees recorded at
September 30, 2004 and December 31, 2003 was not significant.
13
Item 2. Management's Discussion and Analysis or Plan of Operation
(a) Plan of Operation
Southern Connecticut Bancorp
Bancorp, a Connecticut corporation, was incorporated on November 8,
2000 to serve as a bank holding company for community based commercial banks.
Bancorp is a bank holding company registered in accordance with the Bank Holding
Company Act of 1956, as amended (the "BHC Act") and is regulated by and subject
to the supervision of the Board of Governors of the Federal Reserve System
("Federal Reserve Board"). Bancorp owns one hundred percent of the capital stock
of The Bank of Southern Connecticut ("Bank"), a Connecticut chartered bank
headquartered in New Haven, Connecticut. The Bank commenced operations on
October 1, 2001.
Bancorp's holding company structure provides organizational flexibility
for its growth plans. Bancorp may in the future decide to engage in additional
businesses permitted to bank holding companies and would form a subsidiary to
provide these services. For example, Bancorp could acquire additional banks,
establish de novo banks and other businesses, including mortgage companies,
leasing companies, insurance agencies and small business investment companies,
without having to go through a corporate reorganization. Before Bancorp could
acquire interests in other banks, establish de novo banks or expand into other
businesses, it will need to obtain relevant regulatory approvals.
De novo banks in Connecticut have reached profitability on average
within three to four years after the commencement of operations. Bancorp was
marginally profitable in the fourth quarter of 2003, the ninth quarter of
operations, as well as profitable in the first two quarters of 2004.
Profitability was achieved in these periods in part due to gains on sale of
participations in Small Business Loan Administration ("SBA") by the Bank. The
Bank originated SBA loans during the third quarter of 2004 but did not complete
sales of participations during the period. SBA guaranteed loan balances of
$1,206,348 originated during the third quarter of 2004 are classified as
held-for-sale on the accompanying balance sheet of Bancorp. Bancorp experienced
a loss of $52,932 in the third quarter of 2004 in part due to the absence of
such sales. The profitable results of operations in the December 2003, March
2004 and June 2004 quarters are largely attributable to fee income and gains on
sale derived from referrals and sales of SBA guaranteed loan participations.
Bancorp intends to continue to originate and to sell at a profit participations
in SBA guaranteed loans, including those currently classified as held-for-sale,
in the future.
Bancorp's plan of operation is to continue to operate the Bank and
increase its market share within the City of New Haven and the surrounding
areas, and possibly offer certain additional banking services, such as internet
based cash management services. Bancorp has received a Temporary Certificate of
Authority from the Banking Commissioner of the State of Connecticut for a
second, wholly owned community based commercial bank subsidiary to serve the New
London, Connecticut market, called The Bank of Southeastern Connecticut. Bancorp
intends to develop both the Bank's and The Bank of Southeastern Connecticut's
geographic franchises with branch offices throughout the 45 miles of coastal
communities located between
14
New Haven and New London Connecticut, and from New London to the Rhode Island
border with Connecticut. Bancorp has applied to the Federal Deposit Insurance
Corporation (the "FDIC") to insure the deposits of the new bank subsidiary. The
application with the FDIC as of September 30, 2004 has been extended to permit
Bancorp to provide additional information regarding the infrastructure in place
to support the two banks and to revise certain proposed policies of the new
bank. Bancorp is also required to apply to the Federal Reserve for approval. The
Bank of Southeastern Connecticut is expected to open in the first quarter of
2005 and be staffed, managed and operated in a manner consistent with the Bank.
Locations
Bancorp has leased a free-standing building located at 215 Church
Street, New Haven, Connecticut, located in the central business and financial
district of New Haven. It has assigned this lease to The Bank of Southern
Connecticut, and the Bank has assumed all rights and obligations under this
lease. Both Bancorp and the Bank operate from this facility. On October 7, 2002
the Bank opened a branch office in Branford, Connecticut at West Main Street and
Summit Place. On August 15, 2002 the Bank also purchased a building at 1475
Whalley Avenue in the Westville section of New Haven for a branch office site
which was opened on March 24, 2003. The Bank is also evaluating locations for
the establishment of additional branch banking offices.
The following table sets forth the location of the Bank's branch
offices and other related information:
Office Location Square Feet Status
------ -------- ----------- ------
Main Office 215 Church Street, New Haven, CT 11,306 Leased
Branford Office 445 West Main Street, Branford, CT 3,714 Leased
Amity Office 1475 Whalley Avenue, New Haven, CT 2,822 Owned
Bancorp entered into a lease on January 14, 2004 with the City of New
London for a former banking facility located at 15 Masonic Street, New London,
Connecticut. This facility is intended to be the main office of The Bank of
Southeastern Connecticut. The Bank of Southeastern Connecticut is expected to be
staffed, managed and operated in a manner consistent with the Bank.
On June 23, 2004, Bancorp, through a nominee, entered into an agreement
to purchase an approximately one acre improved site with two buildings in
Clinton, Connecticut for the primary purpose of establishing a branch office of
the Bank. The net purchase price of the property is $495,000. The entity under
which title to the property will be ultimately held is to be determined. The
Bank has filed applications to the Connecticut Department of Banking and the
FDIC to establish bank operations at the Clinton location for the first quarter
of 2005. Due to a delay in completing the acquisition of the Clinton property,
the Bank's initial application to the FDIC to establish the Clinton branch has
been withdrawn pending completion of the acquisition of the property. Bancorp
intends that Bancorp or the Bank will improve the facility to
15
accommodate banking services. The costs of such improvements have not been fully
determined at this time.
The Bank focuses on serving the banking needs of small and mid sized
businesses, professionals and their employees. The Bank's target customer has up
to $30 million in revenues, up to 100 employees, and borrowing needs between
$250,000 and $2 million. The Bank serves the greater New Haven marketplace and
has a Board of Directors and management team drawn from the communities served,
each of who is recognized and respected by the New Haven business community. The
Bank's focus on the commercial market makes it uniquely qualified to move deftly
in responding to the needs of its clients.
The Bank does not expect to compete with large institutions for the
primary banking relationships of large corporations, but it competes for the
small to medium-size businesses and for the consumer business of employees of
such entities. The Bank's geographic market focus also provides a unique
competitive advantage by clearly identifying the Bank as the independent local
bank focused on commercial lending and other commercial banking services. The
Bank's focus clients operate retail, service, wholesale distribution,
manufacturing and international businesses. Many of these customers use the
services of the Bank because of relationships and contacts with the Bank's
directors and management. We believe that the Bank is successfully winning new
business because of these relationships and a combination of a fair price for
our services, quick decision processes and a high-touch level of personalized
customer service.
Lending, Depository and Other Products
The Bank currently has a wide range of "core" bank products and
services offerings which are more completely described below. Additionally,
through correspondent and other relationships, the Bank helps its customers meet
all of their banking needs, including obtaining services which the Bank may not
offer directly.
The Bank offers core deposit products, including checking accounts,
money market accounts, savings accounts, sweep accounts, NOW accounts and a
variety of certificates of deposit and IRA accounts to the public. To attract
deposits, the Bank is employing an aggressive marketing plan in its service area
and features a broad product line and rates and services competitive with those
offered in the New Haven market and the surrounding communities. The primary
sources of deposits have been and are expected to be businesses and their
employees located in, and residents of, New Haven and the surrounding
communities. The Bank is obtaining these deposits through personal solicitation
by its officers and directors, outside programs and advertisements published and
/ or broadcasted in the local media.
Deposits and the Bank's equity capital are the sources of funds for
lending and investment activities. Repayments on loans, investment income and
proceeds from the sale and maturity of investment securities will also provide
additional funds for these purposes. While scheduled principal repayments on
loans and investment securities are a relatively predictable source of funds,
deposit flows and loan prepayments are greatly influenced by general interest
rates, economic conditions and competition. The Bank expects to manage the
pricing of deposits to maintain a desired deposit balance. The Bank offers
drive-in teller services, wire transfers and safe deposit services.
16
The Bank's loan strategy is to offer a broad range of loans to
businesses and individuals in its service area, including commercial and
business loans, personal loans, mortgage loans, home equity loans, and
automobile loans. The Bank has received lending approval status from the SBA to
enable it to make SBA guaranteed loans to both the greater New Haven business
community and companies throughout the State of Connecticut. The marketing focus
on small to medium-size businesses and professionals may result in an assumption
of certain lending risks that are different from or greater than those which
would apply to loans made to larger companies or consumers. Commercial loans
generally entail certain additional risks because repayment is usually dependent
on the success of the enterprise. The Bank seeks to manage the credit risk
inherent in its loan portfolio through credit controls, loan diversification and
personal guarantees of the principal owners of these small to medium-sized
businesses. Prior to approving a loan the Bank evaluates: the credit histories
of potential borrowers; the value and liquidity of available collateral; the
purpose of the loan; the source and reliability of funds for repayment and other
factors considered relevant in the circumstances.
Loans are made on a variable or fixed rate basis with fixed rate loans
limited to five-year terms. All loans are approved by the Bank's management and
the Loan Committee of the Bank's Board of Directors. At the present time, the
Bank is not syndicating or securitizing loans, however the Bank originates and
sells individual SBA guaranteed loan participations. The Bank at times
participates in multi-bank loans for companies in its service area. Commercial
loans and commercial real estate loans may be written for terms of up to twenty
years. Loans to purchase or refinance commercial real estate are collateralized
by the subject real estate. Loans to local businesses are generally supported by
the personal guarantees of the principal owners and are carefully underwritten
to determine appropriate collateral and covenant requirements.
Other services provided currently or to be provided include cashier's
checks, money orders, travelers checks, bank by mail, lock box, direct deposit
and U. S. Savings Bonds. The Bank is associated with a shared network of
automated teller machines that its customers are able to use throughout
Connecticut and other regions. The Bank does not currently expect to offer trust
services but may offer trust services through a joint venture with a larger
institution. To offer trust services in the future, the Bank would need the
approval of the Connecticut Banking Commissioner and the FDIC.
Investment Securities
Another significant activity for the Bank is maintaining an investment
portfolio. Although granting a variety of loans to generate interest income and
loan fees is an important aspect of the Bank's business plan, the aggregate
amount of loans will be subject to maintaining a prudent loan-to-deposit ratio.
The Bank's overall portfolio objective is to maximize the long-term total rate
of return through active management of portfolio holdings taking into
consideration estimated asset/liability and liquidity needs, tax equivalent
yields and maturities. Permissible investments include debt securities such as
U. S. Government securities, government sponsored agency securities, municipal
bonds, domestic certificates of deposit that are insured by the FDIC,
mortgage-backed securities and collateralized mortgage obligations. The Bank
expects that investments in equity securities will be very limited. The Bank's
current investment portfolio is limited to U. S. government and agency
obligations and agency issue collateralized
17
mortgage obligations classified as available for sale. Accordingly, the
principal risk associated with the Bank's current investing activities is market
risk (variations in value resulting from general changes in interest rates)
rather than credit risk.
Market and Competition
There are numerous banks and other financial institutions serving the
Southern Connecticut Market posing significant competition for the Bank to
attract deposits and loans. The Bank also experiences competition from
out-of-state financial institutions with little or no traditional bank branches
in New Haven. To grow, we will have to win customers away from the customer base
of existing banks and financial institutions as well as win new customers from
growth in the Southern Connecticut Market. Many of such banks and financial
institutions are well established and well capitalized, allowing them to provide
a greater range of services than we will be able to offer in the near future.
The greater New Haven is currently served by approximately 70 offices
of commercial banks, none of which is headquartered in New Haven. All of these
banks are substantially larger than the Bank expects to be in the near future
and are able to offer products and services which may be impracticable for the
Bank to provide at this time. There are numerous banks and other financial
institutions serving the communities surrounding New Haven, which also draws
customers from New Haven, posing significant competition for the Bank to attract
deposits and loans. The Bank also experiences competition from out-of-state
financial institutions with little or no traditional bank branches in New Haven.
Many of such banks are and financial institutions are well established and
better capitalized than the Bank, allowing them to provide a greater range of
services.
Intense market demands, economic pressures and significant legislative
and regulatory actions have eroded traditional banking industry classifications
and have increased competition among banks and other financial institutions.
Market dynamics, as well as legislative and regulatory changes have resulted in
a number of new competitors offering services historically offered only by
commercial banks; non-bank corporations offering services traditionally offered
only by banks; increased customer awareness of product and service differences
among competitors; and increased merger activity.
Over the past ten years, the Connecticut banking market has been
characterized by significant consolidation among financial institutions. Since
January 1994, there have been 60 completed acquisitions of Connecticut based
banks and thrifts. Although our competitors are currently much larger than us,
we believe that the corporate service culture and operational infrastructure at
large banks often does not provide the type of personalized service that many of
our small to medium business and professional clients desire ant that we strive
to provide.
Additional legislative and regulatory changes may affect the Bank in
the future; however, the nature of such changes and the effect of their
implementation cannot be assessed. New rules and regulations may, among other
things, revise limits on interest rates on various categories of deposits and
may limit or influence interest rates on loans. Monetary and fiscal policies of
the United States government and its instrumentalities, including the Federal
Reserve, significantly influence the growth of loans, investments and deposits.
The banking regulatory environment is
18
undergoing significant change both as it affects the banking industry directly
and as it affects competition between banks and non-bank financial institutions.
The Bank of Southeastern Connecticut
On July 2, 2003, Bancorp submitted an application to the State of
Connecticut, Department of Banking ("Department") for the establishment by
Bancorp of a new commercial bank in New London, Connecticut. The application was
subsequently temporarily withdrawn to complete additional information requested
by the Department, including a three-year balance sheet and income statement
forecast for the proposed new bank.
On August 7, 2003, the application, including the completed additional
information, was resubmitted to the Department, and on October 2, 2003, the
final application, including additional information, was submitted.
On April 28, 2004, a temporary certificate of authority was issued by
the State of Connecticut Department of Banking in connection with the new bank
application. Application to the Federal Insurance Deposit Corporation for
deposit insurance has been extended to allow Bancorp to provide information
regarding the infrastructure in place to support the two banks and to revise
certain proposed policies of the new bank. Application to the Federal Reserve
Bank of Boston for Bancorp to acquire the new bank will be filed in the near
future after receipt of approval from the FDIC. Subject to the reciept of
regulatory approvals, Bancorp expects the new bank to be operating by the end of
the first quarter of 2005.
SCB Capital, Inc.
On November 17, 2003, SCB Capital, Inc., a wholly-owned subsidiary of
Bancorp, was incorporated. SCB Capital, Inc. will engage in a limited range of
investment banking and advisory services primarily to small to medium size
business clients of Bancorp located in Connecticut. It is not anticipated that
SCB Capital, Inc. will directly provide financing or equity in the investment
banking transactions it facilitates or in which it acts as principal. SCB
Capital, Inc. is in the process of applying for approval as a broker-dealer and
membership with the National Association of Security Dealers. SCB Capital, Inc.
has been capitalized with $20,000 and has not commenced operations. Any
additional amount to be invested in SCB Capital, Inc. will be determined by
Bancorp's Board of Directors following completion of the application.
Recent Developments
Bancorp raised $13.3 million, net of underwriting discounts and
offering expenses, in equity capital though a public offering of common stock on
June 17, 2004. On June 17, 2004, Bancorp invested approximately $2.8 million of
these proceeds in the equity capital of The Bank of Southern Connecticut. Also,
Bancorp has committed to investing $6 million of the proceeds in the equity
capital of The Bank of Southeastern Connecticut at the time it receives all
final regulatory approvals and commences banking operations. On November 9,
2004, Bancorp committed to investing an additional $1 million in The Bank of
Southern Connecticut. The remaining balance of the public offering net proceeds
will be utilized for future branch office
19
expansion and general corporate purposes. Bancorp listed its common stock on the
American Stock Exchange in connection with its offering. Bancorp's common stock
symbol is "SSE".
For a more detailed discussion of Bancorp's liquidity, see Liquidity on
page 31 of this Form 10-QSB. Currently, other than the potential start up of a
new bank in early 2005 and the establishment of new Bank branch offices (as
previously discussed on pages 15 and 16 under the "Locations" heading), there
are no plans involving the significant purchase or sale of property or equipment
in the next twelve months. Outside of staffing the new bank located in New
London and new offices of the Bank, Bancorp does not anticipate a significant
change in the number of its employees.
The Board of Directors of the Bank adopted resolutions designed to
strengthen and enhance the Bank's Bank Secrecy Act compliance and the Bank's
Information Technology controls. The Bank appointed a new Bank Secrecy Act
Officer and has amended its Bank Secrecy Act policies to strengthen compliance.
Additionally, the Bank has retained an experienced outside consultant to assist
it in developing and implementing Information Technology controls.
On August 11, 2004, Joseph V. Ciaburri, the Chairman and Chief
Executive Officer of Bancorp, and Michael M. Ciaburri, the President and Chief
Operating Officer of Bancorp, each entered into a settlement agreement with the
Banking Commissioner of the State of Connecticut and each paid a civil penalty
of $2,500 in connection with three loans made by the Bank in November 2003 that
resulted in a concentration of unsecured credit by the Bank exceeding 15% of the
equity capital and reserves for loan and lease losses of the Bank. In
particular, the Commissioner found that the two officers voted to approve the
loans at a meeting of the loan committee of the Bank without conditioning their
approval to ensure that no commitment would be issued prior to obtaining a
participation commitment from another financial institution to cover the excess
loans over the applicable lending limitations. The settlement agreement
acknowledged the officers' claim that they were not aware that their vote to
approve the loans violated the applicable Connecticut statutes. No violation was
found on behalf of the Bank or Bancorp, and the Commissioner acknowledged that
the officers, in conjunction with the Bank's board of directors, have
implemented policies and procedures to prevent future occurrences of such
actions. In January 2004, the Bank sold a participation in the loans, bringing
the loans within the Bank's lending limit. The loans have fully performed at all
times.
As of September 30, 2004, the Bank has 29 full-time employees. Its
employees perform most routine day-to-day banking transactions for the Bank.
However, the Bank has entered into a number of arrangements for banking services
such as correspondent banking, data processing and armored carriers.
Overall, the Bank's plan of operation is focused on responsible growth
and pricing of deposits and loans, and investment in high quality U. S.
government securities to achieve a net interest margin sufficient to cover
operating expenses, achieve profitable operations and maintain liquidity.
20
(b) Management's Discussion and Analysis of Financial Condition and Results of
Operations
Summary
Bancorp had a net loss of $53,000 (or basic and diluted loss per share
of $0.02) for the quarter ended September 30, 2004, compared to a net loss of
$211,000 (or basic and diluted loss per share of $0.20) for the quarter ended
September 30, 2003. Bancorp had net income of $3,000 (or basic and diluted
earnings per share of $0.00) for the nine months ended September 30, 2004,
compared to a net loss of $624,000 (or basic and diluted loss per share of
$0.59) for the nine months ended September 30, 2003. The quarterly loss
reflects: i) ongoing costs of developing infrastructure to support The Bank of
Southeastern Connecticut, ii) the absence of gains on the sale of SBA guaranteed
loan participations, and iii) additional provisions to the allowance for loan
and lease losses due to increased loan volume.
Financial Condition
Assets
Bancorp has reached total assets of $80.7 million at September 30,
2004, an increase of $24.3 million (43%) from $56.4 million in assets as of
December 31, 2003. Earning assets reached $76.4 million, increasing $25.5
million (50%) during the first nine months of 2004.
Bancorp has maintained liquidity by maintaining balances in overnight
Federal funds sold and short-term investments including money market mutual
funds to provide funding for higher yielding loans as they are approved and
closed. As of September 30, 2004, Federal funds sold were $6.4 million and
short-term investments balances were $3.2 million. Federal funds sold and
short-term investments increased by $5.4 million and $2.7 million, respectively,
during the first nine months of 2004. The increases were due to receipt of the
net proceeds of the public offering of equity securities by Bancorp which were
not invested in available for sale securities. In addition, Bancorp has invested
$14.5 million in U.S. Treasury, government agency and mortgage backed securities
classified as available for sale.
Investments
Available for sale securities increased $6.1 million from December 31,
2003, reflecting the investment of approximately $8.0 million of net proceeds
received from the June 2004 public offering in U.S. Treasury and Agency
securities, less amortization and sales of securities.
During the nine months ended September 30, 2004, gross unrealized
losses on the available for sale securities portfolio totaled $207,000. These
losses were the result of volatility in market rates and yield curve changes and
impacted the market prices in government agency bonds and mortgage-backed
securities. Management does not believe these losses are other than temporary,
and Bancorp has the ability to hold these securities to maturity if necessary,
and has both the intent and ability to retain its investments for a period of
time sufficient to allow for any anticipated recovery in fair value. As a
result, management believes that these unrealized losses will not have a
negative impact on future earnings and capital.
21
Loans
The total of the net loan portfolio and loans held for sale increased
$10.9 million (27%) from $40.8 million at December 31, 2003 to $51.7 million at
September 30, 2004. The increase in loans is due to the addition of a branch
office in April 2003 and continued robust demand in the greater New Haven and
Connecticut markets. The increase in the loan portfolio was funded primarily by
increases in deposits and the additional capital invested in the Bank by
Bancorp. The loan to deposit ratio as of September 30, 2004 was 91%. Bancorp
continues to target a loan to deposit ratio in the 80% to 85% range. Given the
additional capital raised by Bancorp in the second quarter of 2004, temporary
excesses of this ratio above the target range have been deemed prudent by
management of Bancorp. Bancorp and the Bank's Boards of Directors may elect to
review Bancorp's policy regarding this risk factor.
Critical Accounting Policy
In the ordinary course of business, Bancorp has made a number of
estimates and assumptions relating to reporting results of operations and
financial condition in preparing its financial statements in conformity with
accounting principals generally accepted in the United States of America. Actual
results could differ significantly from those estimates under different
assumptions and conditions. Bancorp believes the following discussion addresses
Bancorp's only critical accounting policy, which is the policy that is most
important to the portrayal of Bancorp's financial condition and results and
requires management's most difficult, subjective and complex judgments, often as
a result of the need to make estimates about the effect of matters that are
inherently uncertain.
Allowance for Loan Losses
The allowance for loan losses, a material estimate susceptible to
significant change in the near-term, is established as losses are estimated to
have occurred through a provision for losses charged against operations, and is
maintained at a level that management considers adequate to absorb losses in the
loan portfolio. Management's judgment in determining the adequacy of the
allowance is inherently subjective and is based on the evaluation of individual
loans, pools of homogeneous loans, the known and inherent risk characteristics
and size of the loan portfolios, the assessment of current economic and real
estate market conditions, estimates of the current value of underlying
collateral, past loan loss experience, review of regulatory authority
examination reports and evaluations of specific loans and other relevant
factors. Loans, including impaired loans, are charged against the allowance for
loan losses when management believes that the uncollectibility of principal is
confirmed. Any subsequent recoveries are credited to the allowance for loan
losses when received. In connection with the determination of the allowance for
loan losses, management obtains appraisals for significant properties, when
considered necessary.
The allowance consists of specific, general and unallocated components.
The specific component relates to loans that are classified as doubtful,
substandard or special mention. For such loans that are also classified as
impaired, an allowance is established when the discounted cash flows (or
collateral value or observable market price) of the impaired loan is lower than
the carrying value of that loan. The general component covers non-classified
loans and is based on
22
historical loss experience adjusted for qualitative factors. An unallocated
component may be maintained to cover uncertainties that could affect
management's estimate of probable losses. The unallocated component of the
allowance reflects the margin of imprecision inherent in the underlying
assumptions used in the methodologies for estimating specific and general losses
in the portfolio.
Based on its evaluation, management believes the allowance for loan
losses of $521,000 at September 30, 2004, which represents 1.00% of gross loans
outstanding, is adequate, under prevailing economic conditions, to absorb
probable losses on existing loans. At December 31, 2003, the allowance for loan
losses was $421,000 or 1.02% of gross loans outstanding.
Analysis of Allowance for Loan Losses
The following represents the activity in the allowance for loan losses for the
nine months ended September 30:
Allowance for Loan Losses as of September 30, 2004 and 2003
2004 2003
-------------- ---------------
Balance at beginning of period $421,144 $232,000
Charge-offs (28,976) (22,291)
Recoveries 11,220 -
Provision charged to operations 117,895 143,500
-------------- ---------------
Balance at end of period $521,283 $353,209
============== ===============
Non-Accrual, Past Due and Restructured Loans
The following table represents non-accruing and past due loans:
(Thousands of dollars) September 30, 2004 December 31, 2003
------------------------------------------------- ------------------- -----------------
Loans delinquent over 90 days and still accruing $ 0 $ 0
Non-accruing loans 27,553 94,063
------------------- -----------------
Total $27,553 $94,063
=================== =================
% of Total Loans 0.05% 0.23%
% of Total Assets 0.03% 0.17%
Potential Problem Loans
At September 30, 2004, the Bank had no other loans, other than those
disclosed in the table above, as to which management has significant doubts as
to the ability of the borrower to comply with the present repayment terms.
23
Deposits
Deposits were $56.9 million at September 30, 2004, an increase of $9.6
million (20%) from $47.3 million as of December 31, 2003. The increase in
deposits was primarily in non-interest bearing checking deposits, and interest
bearing money market, checking and savings deposits, offset by a $197,000
decline in certificates of deposit balances. The increase in the total deposit
portfolio reflects the continued vigorous marketing effort of the Bank. Bancorp
does not have any brokered deposits.
Other
Repurchase agreements increased $1.2 million from December 31, 2003 to
$1.6 million as of September 30, 2004 due to increased activity in these
customer accounts.
Results of Operations
De Novo banks in Connecticut have reached profitability on average
within three to four years after commencement of operations. Bancorp was
initially profitable in the fourth quarter of 2003, the ninth quarter of
operation. Bancorp was also profitable in both the first and second quarters of
2004. Bancorp had a loss of $53,000 in the third quarter of 2004, due to a
decline of approximately $73,000 from the second quarter in SBA loan
participation sale gains and continued expenses associated with the anticipated
opening of The Bank of Southeastern Connecticut. Bancorp originated SBA
guaranteed loans which are carried as loans held for sale during the third
quarter, but did not close any loan participation sale transactions during the
quarter. For the third quarter of 2003, Bancorp had a loss of $211,000. Bancorp
intends to continue originate and to sell at a profit participations in SBA
guaranteed loans, including those currently classified as held-for-sale, in the
future.
For the nine month period ending September 30, 2004, Bancorp had a
profit of $3,000, in comparison to a loss of $624,000 for the nine months ending
September 30, 2003.
Average Balances, Yields and Rates
The following table presents average balance sheets (daily averages),
interest income, interest expense, and the corresponding annualized rates on
earning assets and rates paid on interest bearing liabilities for the nine and
three months ended September 30, 2004 compared to the nine and three months
ended September 30, 2003. Interest income on loans includes loan fee income
which is not significant. In addition, Bancorp does not have any tax-exempt
securities or loans.
24
Distribution of Assets, Liabilities and Shareholders' Equity;
Interest Rates and Interest differential
Three months Ended Three months Ended
September 30, 2004 September 30, 2003
------------------------ ------------------------ Fluctuations
Interest Interest in interest
Average Income/Average Average Income/Average Income/Expense
(Dollars in thousands) Balance Expense Rate Balance Expense Rate Total
------------------------ ------------------------ -----------------
Interest earning assets
Loans $ 47,834 $ 871 7.22% $ 30,403 $ 578 7.60% $ 293
Federal funds sold 7,230 24 1.32% 2,070 5 0.97% 19
Short-term investments 3,167 7 0.88% 748 2 1.07% 5
Investments 15,216 87 2.27% 9,843 66 2.68% 21
----------------- ----------------- --------------
Total interest earning assets 73,447 989 5.34% 43,064 651 6.05% 338
Cash and due from banks 622 1,355
Premises and equipment, net 3,390 3,532
Allowance for loan losses (474) (297)
Other 1,323 849
--------- ---------
Total assets $ 78,308 $ 48,503
========= =========
Interest bearing liabilities
Time certificates $ 9,765 53 2.15% $ 6,178 39 2.53% 14
Savings deposits 3,627 12 1.31% 2,122 5 0.94% 7
Money market /
checking deposits 25,056 79 1.25% 20,498 48 0.94% 31
Capital lease obligations 1,190 43 14.34% 1,191 42 14.11% 1
Repurchase agreements 1,630 2 0.49% 1,075 1 0.37% 1
----------------- ----------------- --------------
Total interest bearing
liabilities 41,268 189 1.82% 31,064 135 1.74% 54
----------------- ----------------- --------------
Non-interest bearing deposits 15,807 9,834
Accrued expenses and
other liabilities 463 183
Shareholder's equity 20,770 7,422
--------- ---------
Total liabilities and equity $ 78,308 $ 48,503
========= =========
Net interest income $ 800 $ 516 $ 284
======== ======== ==============
Interest spread 3.52% 4.31%
======= =======
Interest margin 4.32% 4.79%
======= =======
(1) Includes nonaccruing loans.
25
Distribution of Assets, Liabilities and Shareholders' Equity;
Interest Rates and Interest differential
Nine months Ended Nine months Ended
September 30, 2004 September 30, 2003
------------------------ ------------------------
Fluctuations
Interest Interest in interest
Average Income/Average Average Income/Average Income/Expense
(Dollars in thousands) Balance Expense Rate Balance Expense Rate Total
------------------------ ------------------------ -------------------
Interest earning assets
Loans $ 45,985 $ 2,549 7.40% $ 26,202 $ 1,498 7.62% $ 1,051
Federal funds sold 5,176 42 1.08% 2,860 23 1.07% 19
Short-term investments 2,863 22 1.03% 1,188 6 0.67% 16
Investments 10,491 190 2.42% 8,799 198 3.00% (8)
----------------- ----------------- -------------------
Total interest earning assets 64,515 2,803 5.80% 39,049 1,725 5.89% 1,078
Cash and due from banks 1,001 1,452
Premises and equipment, net 3,417 3,345
Allowance for loan losses (452) (279)
Other 1,204 843
--------- ---------
Total assets $ 69,685 $ 44,410
========= =========
Interest bearing liabilities
Time certificates $ 11,971 191 2.13% $ 6,239 121 2.59% 70
Savings deposits 2,944 27 1.23% 1,748 13 0.99% 14
Money market/
checking deposits 24,658 234 1.27% 17,937 142 1.06% 92
Capital lease obligations 1,191 128 14.36% 1,192 126 14.09% 2
Repurchase agreements 1,295 6 0.62% 703 3 0.57% 3
----------------- ----------------- -------------------
Total interest bearing
liabilities 42,059 586 1.86% 27,819 405 1.94% 181
----------------- ----------------- -------------------
Non-interest bearing deposits 15,034 8,303
Accrued expenses and
other liabilities 372 425
Shareholder's equity 12,220 7,863
--------- ---------
Total liabilities and equity $ 69,685 $ 44,410
========= =========
Net interest income $ 2,217 $ 1,320 $ 897
======== ======== ===================
Interest spread 3.94% 3.95%
======= =======
Interest margin 4.59% 4.51%
======= =======
(1) Includes nonaccruing loans.
26
Changes in Assets and Liabilities and Fluctuations in Interest Rates
The following tables summarize the variance in interest income and
expense for the nine and three months ended September 30, 2004 and 2003
resulting in changes in assets and liabilities and fluctuations in interest
rates earned and paid. The changes in interest attributable to both rate and
volume have been allocated to both rate and volume on a pro rata basis.
Three months Ended
September 30, 2004 v. 2003
------------------------------
Due to Change in
Increase Average
Or -----------------
(Dollars in thousands) (Decrease Volume Rate
---------------------- ------------------------------
(Dollars in thousands)
Interest earning assets
Loans $ 293 $ 483 $(190)
Federal funds sold 19 17 2
Short-term investments 5 7 (2)
Investments 21 79 (58)
-------- -------- --------
Total interest earning assets 338 586 (248)
-------- -------- --------
Interest bearing liabilities
Time certificates $ 14 $ 48 $ (34)
Savings deposits 7 4 3
Money market / checking deposits 31 12 19
Capital lease obligations 1 -- 1
Repurchase agreements 1 1 0
-------- -------- --------
Total interest bearing liabilities 54 65 (11)
-------- -------- --------
Net interest income $ 284 $ 521 $(237)
======== ======== ========
27
Nine months Ended
September 30, 2004 v. 2003
-------------------------
Due to Change in
Increase Average
Or ---------------
(Dollars in thousands) (Decrease) Volume Rate
-------------------------
(Dollars in thousands)
Interest earning assets
Loans $ 1,051 $1,124 $ (73)
Federal funds sold 19 19 0
Short-term investments 16 10 6
Investments (8) 47 (55)
-------- ------- ------
Total interest earning assets 1,078 1,200 (122)
-------- ------- ------
Interest bearing liabilities
Time certificates $ 70 $ 107 $ (37)
Savings deposits 14 10 4
Money market / checking deposits 92 60 32
Capital lease obligations 2 - 2
Repurchase agreements 3 3 0
-------- ------- ------
Total interest bearing liabilities 181 180 1
-------- ------- ------
Net interest income $ 897 $1,020 $ (123)
======== ======= ======
Net Interest Income
For the quarter ended September 30, 2004, net interest income was
$800,000 versus $516,000 for the same period in 2003, a $284,000 or a 55%
increase. This was the result of a $30.4 million increase in average earning
assets in the quarter ended September 30, 2004 in comparison to the same period
a year ago, including increases in average loans of $17.4 million, short term
investments and federal funds sold of $7.6 million and Investments of $5.4
million. Also, average interest bearing liabilities increased $10.2 million
during the quarter ended September 30, 2004 in comparison to the same period a
year ago, also partially offsetting the favorable net interest income effects of
the increase in average earning assets volume. The ratio of average loans to
average total interest earning assets declined during the quarter ended
September 30, 2004 in comparison to the quarter ended September 30, 2003, to
65.1% from 70.6%, due to the receipt of funds at the end of the second quarter
of 2004 from the public offering of equity, a substantial portion of which is
invested in federal funds and short term investments and available for sale
investment securities. It is the intention of Bancorp that the Bank and the
proposed bank to be located in New London, Connecticut, will invest the majority
of these funds in loans in the future.
The yield on average interest earning assets for the three months ended
September 30, 2004 was 5.34% versus 6.05% for same period in 2003. The decrease
in the yield on average earning assets is due to the change in asset mix from
2003 to 2004, reflecting the larger investments in federal funds sold, short
term investments and available for sale investment
28
securities which are at significantly lower yields than loans. The cost of
average interest bearing liabilities was 1.82% for the three months ended June
30, 2004 versus 1.74% for the same period in 2003. The increase in the cost of
average interest bearing liabilities was primarily the result of higher rates
paid on daily rate money market and interest bearing checking accounts, offset
somewhat by lower roll-over rates offered to renewing and new time deposits.
For the nine months ended September 30, 2004, net interest income was
$2.2 million versus $1.3 million for the same period in 2003, a $897,000 or 68%
increase. This was the result of a $25.5 million increase in average earning
assets in the nine months ended September 30, 2004 in comparison to the same
period a year ago, due primarily to increases in average loans of $19.8 million
and short term investments and federal funds of $4.0 million. Also, average
interest bearing liabilities increased $14.2 million during the nine months
ended September 30, 2004 in comparison to the same period a year ago, partially
offsetting the favorable net interest income effect of the increase in average
earning assets.
The yield on average interest earning assets for the nine months ended
September 30, 2004 was 5.80% versus 5.89% for same period in 2003. The decrease
in the yield on average earning assets is due to the change in asset mix from
2003 to 2004, reflecting the larger investments in federal funds sold, short
term investments and available for sale investment securities which are at
significantly lower yields than loans. The cost of average interest bearing
liabilities was 1.86% for the nine months ended September 30, 2004 versus 1.94%
for the same period in 2003. The decrease in the cost of average interest
bearing liabilities was primarily the result of lower roll-over rates offered to
renewing and new time deposits in the first six months of 2004, in comparison to
those paid and offered in the same period during 2003.
Provision for Loan Losses
The $57,000 provision for loan losses for the three months ended
September 30, 2004 reflects loan portfolio growth and seasoning. During the
quarter, net recoveries of $9,000 were recorded. The provision for loan losses
for the three months ended September 30, 2003 was $57,000, and was primarily due
to the increase in the Bank's loan volume during the period.
The $118,000 provision for loan losses for the nine months ended
September 30, 2004 primarily reflects loan portfolio growth and seasoning. The
provision for loan losses for the nine months ended September 30, 2003 was
$144,000, and was primarily due to the increase in the Bank's loan volume during
the period. Net charge offs for the nine month period ending September 30, 2004
were $18,000.
Noninterest Income
The $71,000 increase in total noninterest income for the third quarter
of 2004 versus the third quarter 2003 is primarily the result of an increase in
service charges and fees derived from deposits, loans and other services. During
the third quarter of 2004, Bancorp did not have any gains from the sales of SBA
guaranteed loan participations and referrals. Bancorp originated for sale in the
secondary market $1,206,348 of SBA guaranteed loans during the third quarter of
2004, which are reported as loans held for sale on Bancorp's Consolidated
Balance Sheet.
29
Bancorp intends to continue to originate SBA guaranteed loans in the future and
expects to continue to earn income from SBA loan participation sales and
referrals.
The $414,000 increase in total noninterest income for the first nine
months of 2004 versus 2003 is primarily the result of an increase in the gains
and fees from the sales and referrals of the guaranteed portion of SBA loans of
$232,000, increases in fees from deposit and loan related volume and activity
and fees from other services of $222,000, offset by a decrease in realized gains
on the sales of available for sale securities of $41,000.
Noninterest Expense
Total noninterest expense was $939,000 for the third quarter of 2004
versus $742,000 for the same period in 2003, an increase of $197,000 or 27%. The
increase in expense is due to the growth in Bancorp's loan and deposit volume,
as well as the acquisition of additional infrastructure relating to
administration and compliance, requiring additional staffing and other operating
expenses.
Total noninterest expense was $2.7 million for the first nine months of
2004 versus $2.0 million for the same period in 2003, an increase of $709,000 or
35%. The increase in expense is due to the growth in the Bancorp's loan and
deposit volume, the addition of the New Haven (Amity) office in March of 2003,
costs associated with the establishment of The Bank of Southeastern Connecticut,
In Organization, the acquisition of the New London facility in January 2004, as
well as the acquisition of additional infrastructure relating to administration
and compliance, additional staffing and other operating expenses.
Salaries and benefits for the third quarter of 2004 of $472,000
increased by $97,000, or 26%, from the third quarter of 2003. The increase is
due to staff compensation and benefits increases in the third quarter of 2004 in
comparison to the same period a year ago, primarily arising from additions to
IT, lending and deposit operations staff.
Salaries and benefits for the first nine months of 2004 increased by
$348,000 or 33% due to staff increases relating to the New Haven (Amity) office
and other new employees engaged due to loan and deposit volume increases and
infrastructure development.
Occupancy and equipment for the third quarter of 2004 increased by
$23,000 or 24% due primarily to increases relating to depreciation of buildings,
equipment and furniture of $9,000, rent and property taxes relating to the
future New London bank subsidiary facility of $17,000, offset by net decreases
in other occupancy costs.
Occupancy and equipment for the first nine months of 2004 increased by
$117,000 or 44% due primarily to increases relating to depreciation of
buildings, equipment and furniture of $51,000, rent, property taxes and other
occupancy relating to the New London facility of $39,000, maintenance of $22,000
and property taxes of $4,000.
Professional fees for the third quarter of 2004 increased by $47,000 or
by 75% due primarily to the engagement of consultants to assist the Bank in
developing infrastructure and related policies and procedures, legal and other
professional costs relating to the chartering and
30
operational planning of the proposed banking subsidiary to be located in New
London, and other matters.
Professional fees for the first nine months of 2004 increased by
$111,000 or 63% due primarily to the engagement of consultants in the second and
third quarters of 2004 to assist the Bank in developing infrastructure and
related policies and procedures, and legal and other professional costs relating
to the chartering of the proposed banking subsidiary to be located in New London
and the investment banking subsidiary SCB Capital, Inc.
Data processing and other outside services for the third quarter
increased by $17,000, or 32%, primarily due to increased loan and deposit
volumes.
Data processing and other outside services for the first nine months of
2004 increased by $69,000, or 49%, primarily due to increased loan and deposit
volumes.
Forms, printing and supplies expense for the first nine months of 2004
increased $19,000, or 44%, due to increased expenses related to increases in
loan and deposit volume and materials related to the public offering.
Other Operating Expense for the first nine months of 2004 increased by
$41,000, or 17%, primarily due to insurance cost increases of $31,000, filing
fees in the total of $29,000 in connection with the new proposed banking
subsidiary to be located in New London, SCB Capital, Inc. and the registration
of Bancorp's option plans, less net decreases in other components of Other
Operating Expense.
Off-Balance Sheet Arrangements
See Note 11 for information regarding the Bancorp's off-balance sheet
arrangements.
Liquidity
Management believes that Bancorp's short-term assets have sufficient
liquidity to cover potential fluctuations in deposit accounts and loan demand
and to meet other anticipated operating cash requirements.
Bancorp's liquidity position as of September 30, 2004 and December 31,
2003 consisted of liquid assets totaling $24.3 million and $11.0 million,
respectively. This represents 30% and 20% of total assets at September 30, 2004
and December 31, 2003, respectively. The net increase in liquidity during the
first nine months of 2004 is primarily due to increases in federal funds sold,
short-term investments and available for sale securities principally due to
receipt of the net proceeds from the public offering of equity securities by
Bancorp. The following categories of assets as described in the accompanying
balance sheet are considered liquid assets: cash and due from banks, federal
funds sold, short-term investments, and securities available for sale. Liquidity
is a measure of Bancorp's ability to generate adequate cash to meet financial
obligations. The principal cash requirements of a financial institution are to
cover downward fluctuations in deposits and increases in its loan portfolio.
31
Capital
The following table illustrates Bancorp's regulatory capital ratios at:
September 30, December 31,
2004 2003
-------------------- -------------------
Tier 1 (Leverage) Capital Ratio to Average assets 29.56% 14.17%
Tier 1 Capital to Risk Weighted Assets 33.54% 16.37%
Total Capital to Risk Weighted Assets 34.39% 17.28%
The following table illustrates the Bank's regulatory capital ratios at:
September 30, December 31,
2004 2003
-------------------- -------------------
Tier 1 (Leverage) Capital Ratio to Average assets 14.82% 14.16%
Tier 1 Capital to Risk Weighted Assets 17.61% 16.33%
Total Capital to Risk Weighted Assets 18.47% 17.24%
Capital adequacy is one of the most important factors used to determine
the safety and soundness of individual banks and the banking system. Based on
the above ratios, Bancorp is considered to be well capitalized under applicable
regulations specified by the Federal Reserve. The Bank also is considered to be
"well capitalized" under applicable regulations. To be considered "well
capitalized" an institution must generally have a leverage capital ratio of at
least 5%, a Tier 1 risk-based capital ratio of at least 6% and a total
risk-based capital ratio of at least 10%.
Market Risk
Market risk is defined as the sensitivity of income to fluctuations in
interest rates, foreign exchange rates, equity prices, commodity prices and
other market-driven rates or prices. Based upon on the nature of the Company's
business, market risk is primarily limited to interest rate risk, which is the
impact that changing interest rates have on current and future earnings.
Bancorp's goal is to maximize long-term profitability, while
controlling its exposure to interest rate fluctuations. The first priority is to
structure and price Bancorp's assets and liabilities to maintain an acceptable
interest rate spread, while reducing the net effect of changes in interest
rates. In order to reach an acceptable interest rate spread, Bancorp must
generate loans and seek acceptable long-term investments to replace the lower
yielding balances in Federal Funds sold and short-term investments. The focus
also must be on maintaining a proper balance between the timing and volume of
assets and liabilities re-pricing within the balance sheet. One method of
achieving this balance is to originate variable rate loans for the portfolio to
offset the short-term re-pricing of the liabilities. In fact, a number of the
interest bearing deposit products
32
have no contractual maturity. Customers may withdraw funds from their accounts
at any time and deposits balances may therefore run off unexpectedly due to
changing market conditions.
The exposure to interest rate risk is monitored by the Asset and
Liability Management Committee ("ALCO") consisting of senior management
personnel and selected members of the Board of Directors of the Bank. ALCO
reviews the interrelationships within the balance sheet to maximize net interest
income within acceptable levels of risk. ALCO reports to the Board of Directors
of Bancorp and the Bank on a quarterly basis regarding the status of ALCO
activities and interest rate risk.
Impact of Inflation and Changing Prices
Bancorp's financial statements have been prepared in terms of
historical dollars, without considering changes in relative purchasing power of
money over time due to inflation. Unlike most industrial companies, virtually
all of the assets and liabilities of a financial institution are monetary in
nature. As a result, interest rates have a more significant impact on a
financial institution's performance than the effect of general levels of
inflation. Interest rates do not necessarily move in the same direction or in
the same magnitude as the prices of goods and services. Notwithstanding this
fact, inflation can directly affect the value of loan collateral, in particular,
real estate. Inflation, or disinflation, could significantly affect Bancorp's
earnings in future periods.
"Safe Harbor" Statement Under Private Securities Litigation Reform Act of 1995
Certain statements contained in Bancorp's public reports, including
this report, and in particular in this "Management's Discussion and Analysis or
Plan of Operation", may be forward looking and subject to a variety of risks and
uncertainties. These factors include, but are not limited to, (1) changes in
prevailing interest rates which would affect the interest earned on Bancorp's
interest earning assets and the interest paid on its bearing liabilities, (2)
the timing of re-pricing of Bancorp's interest earning assets and interest
bearing liabilities, (3) the effect of changes in governmental monetary policy,
(4) the effect of changes in regulations applicable to Bancorp and the conduct
of its business, (5) the volatility of quarterly earnings, due in part to the
variation in the number, dollar volume and profit realized from SBA guaranteed
loan participation sales in different quarters, (6) the effect of a loss of any
executive officer, key personnel, or directors, (7) changes in competition among
financial service companies, including possible further encroachment of
non-banks on services traditionally provided by banks and the impact of recently
enacted federal legislation, (8) the ability of competitors which are larger
than Bancorp to provide products and services which it is impracticable for
Bancorp to provide, (9) the effect of Bancorp's opening of branches and
organization of a new bank and the receipt of regulatory approval to complete
both actions, (10) the effect of any decision by Bancorp to engage in any
business not historically permitted to it, (11) concentration of our business in
Southern Connecticut, (12) the concentration of our loan portfolio in commercial
loans to small-to-medium sized businesses, which may be impacted more severely
than larger businesses during periods of economic weakness and (13) lack of
seasoning in our loan portfolio, which may increase the risk of future credit
defaults. Other such factors may be described in other filings made by Bancorp
with the SEC.
33
Although Bancorp believes that it offers the loan and deposit products
and has the resources needed for success, future revenues and interest spreads
and yields cannot be reliably predicted. These trends may cause Bancorp to
adjust its operations in the future. Because of the foregoing and other factors,
recent trends should not be considered reliable indicators of future financial
results or stock prices.
Item 3. Controls and Procedures
(a) Evaluation of disclosure controls and procedures
Based upon an evaluation of the effectiveness of Bancorp's disclosure
controls and procedures performed by Bancorp's management, with participation of
Bancorp's Chief Executive Officer, its Chief Operating Officer, and its Chief
Financial Officer as of the end of the period covered by this report, Bancorp's
Chief Executive Officer, Chief Operating Officer and Chief Financial Officer
concluded that Bancorp's disclosure controls have been effective.
As used herein, "disclosure controls and procedures" mean controls and
other procedures of Bancorp that are designed to ensure that information
required to be disclosed by Bancorp in the reports that it files or submits
under the Securities Exchange Act is recorded, processed, summarized and
reported, within the time periods specified in the Commissions rules and forms.
Disclosure controls and procedures include, without limitation, controls and
procedures designed to ensure that information required to be disclosed by
Bancorp in the reports that it files or submits under the Securities Exchange
Act is accumulated and communicated to Bancorp's management, including its
principal executive, and principal financial officers, or persons performing
similar functions, as appropriate to allow timely decisions regarding required
disclosure.
(b) Changes in Internal Controls
There have not been any significant changes in Bancorp's internal
controls or in other factors that occurred during Bancorp's quarter ended
September 30, 2004 that could significantly affect these controls subsequent to
the evaluation referenced in paragraph (a) above.
34
PART II
Other Information
Item 1. Legal Proceedings
Not Applicable
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
Not Applicable
Item 3. Defaults Upon Senior Securities
Not applicable.
Item 4. Submission of Matters to a Vote of Security Holders
Not Applicable
Item 5. Other Information
Not applicable.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
--------
No. Description
---- -----------
3(i) Amended and Restated Certificate of Incorporation of the Issuer
(incorporated by reference to Exhibit 3(i) to Issuer's Quarterly Report
on Form 10-QSB dated June 30, 2002)
3(ii) By-Laws of the Issuer (incorporated by reference to Exhibit 3(ii) to
the Issuer's Registration Statement on Form SB-2 (No. 333-59824))
10.1 Lease, dated as of August 17, 2000, between 215 Church Street, LLC and
the Issuer (incorporated by reference to Exhibit 10.1 to the Issuer's
Registration Statement on Form SB-2 (No. 333-59824))
10.2 Letter agreement dated January 3, 2001 amending the Lease between 215
Church Street, LLC and the Issuer (incorporated by reference to Exhibit
10.2 to the Issuer's Registration Statement on Form SB-2 (No.
333-59824))
10.3 First Amendment to Lease dated March 30, 2001 between 215 Church
Street, LLC and the Issuer (incorporated by reference to Exhibit 10.3
to the Issuer's Registration Statement on Form SB-2 (No.
333-59824))
35
10.4 Second Amendment to Lease dated March 31, 2001 between 215 Church
Street, LLC and the Issuer (incorporated by reference to Exhibit 10.4
to the Issuer's Registration Statement Form SB-2 (No.
333-59824))
10.5 Assignment of Lease dated April 11, 2001 between the Issuer and The
Bank of Southern Connecticut (incorporated by reference to Exhibit 10.5
to the Issuer's Registration Statement on Form SB-2 (No.
333-59824))
10.6 Employment Agreement dated as of January 23, 2001, between The Bank of
Southern Connecticut, the Issuer and Joseph V. Ciaburri (incorporated
by reference to Exhibit 10.6 to the Issuer's Registration Statement on
Form SB-2 (No. 333-59824))
10.7 Issuer's 2001 Stock Option Plan (incorporated by reference to Exhibit
10.7 to the Issuer's Registration Statement on Form SB-2 (No.
333-59824))
10.8 Issuer's 2001 Warrant Plan (incorporated by reference to Exhibit 10.8
to the Issuer's Registration Statement on Form SB-2 (No. 333-59824))
10.9 Sublease dated January 1, 2001 between Michael Ciaburri, d/b/a Ciaburri
Bank Strategies and The Bank of Southern Connecticut (incorporated by
reference to Exhibit 10.9 to the Issuer's Registration Statement on
Form SB-2 (No. 333-59824))
10.10 Sublease dated January 1, 2001 between Laydon and Company, LLC and The
Bank of Southern Connecticut (incorporated by reference to Exhibit
10.10 to the Issuer's Registration Statement on Form SB-2 (No.
333-59824))
10.11 Issuer's 2001 Supplemental Warrant Plan (incorporated by reference to
Exhibit 10.11 to Issuer's Annual Report on Form 10-KSB dated March 29,
2002)
10.12 Issuer's 2002 Stock Option Plan (incorporated by reference to Appendix
B to Issuer's Definitive Proxy Statement dated April 18, 2002).
10.13 Employment Agreement dated as of February 12, 2003, between The Bank of
Southern Connecticut and Michael M. Ciaburri. (incorporated by
reference to Exhibit 10.13 to Issuer's Form 10 QSB dated May 14, 2003).
10.14 Amendment to Employment Agreement dated as of October 20, 2003, between
The Bank of Southern Connecticut and Southern Connecticut Bancorp, Inc.
and Joseph V. Ciaburri. (incorporated by reference to Exhibit 10.14 to
the Issuer's Form 10-KSB dated March xx, 2004 (No. 333-59824))
10.15 Lease dated January 14, 2004 between The City of New London and the
Issuer (incorporated by reference to Exhibit 10.17 to the Issuer's
Registration Statement on Form SB-2 (No. 333-59824))
10.16 Lease dated August 2, 2002, between 469 West Main Street LLC and The
Bank of Southern Connecticut (incorporated by reference to Exhibit
10.18 to the Issuer's Registration Statement on Form SB-2 (No.
333-59824))
10.17 Underwriting Agreement between A.G. Edwards & Sons, Inc. and Keefe,
Bruyette & Woods, and Southern Connecticut Bancorp dated June 16, 2004.
(Incorporated by reference to Exhibit 1.1 to the Issuer's Registration
Statement on Form SB-2 (No. 333-59824)).
36
10.18 Form of Stock Option Agreement for a Non-Qualified Stock Option granted
under the Issuer's 2002 Stock Option Plan.
10.19 Form of Stock Option Agreement for an Incentive Stock Option granted
under the Issuer's 2002 Stock Option Plan
10.20 Agreement of Sale of property and premises located in Clinton,
Connecticut made June 22, 2004 between Dr. Alan Maris and James S.
Brownstein, Trustee.
31.1 Section Rule 13(a)-14(a)/15(d)-14(a) Certification by Chairman and
Chief Executive Officer.
31.2 Section Rule 13(a)-14(a)/15(d)-14(a) Certification by President and
Chief Operating Officer.
31.3 Section Rule 13(a)-14(a)/15(d)-14(a) by Vice President and Chief
Financial Officer.
32.1 Section 1350 Certification by Chairman and Chief Executive Officer.
32.2 Section 1350 Certification by President and Chief Operating Officer.
32.3 Section 1350 Certification by Vice President and Chief Financial
Officer.
(b) Reports on Form 8-K
-------------------
The issuer filed reports on Form 8-K during the quarter ended
September 30, 2004.
Date of Filing Item Reported
-------------- -------------
July 20, 2004 Results of Bancorp's operations for quarter
ended June 30, 2004.
37
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
SOUTHERN CONNECTICUT BANCORP, INC.
By: /S/ Joseph V. Ciaburri
------------------------------
Name: Joseph V. Ciaburri
Title: Chairman &
Chief Executive Officer
Date: November 15, 2004
38
Exhibit Index
-------------
10.18 Form of Non-Qualified Stock Option Agreement under Bancorp's 2002 Stock
Option Plan. (filed herewith)
10.19 Form of Incentive Stock Option Agreement under Bancorp's 2002 Stock
Option Plan. (filed herewith)
10.20 Agreement of Sale of property located in Clinton, Connecticut made June
22, 2004 between Dr. Alan Maris and James S. Brownstein, Trustee.
(filed herewith)
31.1 Rule 13(a)-14(a)/15(d)-14(a) Certification by Chairman and Chief
Executive Officer. (filed herewith)
31.2 Rule 13(a)-14(a)/15(d)-14(a) Certification by President and Chief
Operating Officer. (filed herewith)
31.3 Rule 13(a)-14(a)/15(d)-14(a) Certification by Vice President and Chief
Financial Officer. (filed herewith)
32.1 Section 1350 Certification by Chairman and Chief Executive Officer.
(filed herewith)
32.2 Section 1350 Certification by President and Chief Operating Officer.
(filed herewith)
32.3 Section 1350 Certification by Vice President and Chief Financial
Officer. (filed herewith)
39