form10q.htm


UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C.  20549
 
FORM 10-Q

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

For the quarterly period ended June 30, 2012

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

For the transition period from __________ to __________

Commission File Number:  0-22140

META FINANCIAL GROUP, INC. ®
(Exact name of registrant as specified in its charter)
 
Delaware   42-1406262
(State or other jurisdiction of   (I.R.S. Employer Identification No.)
incorporation or organization)    
 
5501 South Broadband Lane, Sioux Falls, South Dakota 57108
(Address of principal executive offices)

(605) 782-1767
(Registrant's telephone number, including area code)

121 East Fifth Street, Storm Lake, Iowa 50588
(Former name, former address and former fiscal year, if changed since last report)

Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  YES x NO o
 
Indicate by check mark whether the Registrant has submitted electronically and posted on its corporate web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the Registrant was required to submit and post such files). YES x NO o.
 
Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company.  (Check one):
 
Large accelerated filer o Accelerated filer o Non-accelerated filer o Smaller Reporting Company x
 
Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). o YES x NO
 
Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date.
 
Class:    Outstanding at August 13, 2012:
Common Stock, $.01 par value    3,846,617 Common Shares
 


 
 

 
 
META FINANCIAL GROUP, INC.
FORM 10-Q

Table of Contents
 
   
Page No.
     
Part I.   Financial Information
 
       
 
Item 1.
 
       
   
1
       
   
2
       
   
3
       
   
4
       
   
5
       
   
6
       
 
Item 2.
36
       
 
Item 3.
48
       
 
Item 4.
50
       
Part II.  Other Information
 
       
 
Item 1.
51
       
 
Item 1A.
51
       
 
Item 2.
51
       
 
Item 3.
51
       
 
Item 4.
51
       
 
Item 5.
51
       
 
Item 6.
51
       
 
52

 
i

 
Item 1.
META FINANCIAL GROUP, INC.
AND SUBSIDIARIES
Condensed Consolidated Statements of Financial Condition
(Dollars in Thousands, Except Share and Per Share Data)

ASSETS
 
June 30, 2012
   
September 30, 2011
 
             
Cash and cash equivalents
  $ 166,435     $ 276,893  
Investment securities available for sale
    152,503       28,330  
Mortgage-backed securities available for sale
    815,888       590,918  
Loans receivable - net of allowance for loan losses of $4,426 at June 30, 2012 and $4,926 at September 30, 2011
    332,948       314,410  
Federal Home Loan Bank Stock, at cost
    2,120       4,737  
Accrued interest receivable
    5,865       4,133  
Insurance receivable
    2,689       2,264  
Premises, furniture, and equipment, net
    18,072       17,168  
Bank-owned life insurance
    14,710       14,322  
Foreclosed real estate and repossessed assets
    861       2,671  
Intangible assets
    2,049       1,315  
MPS accounts receivable
    6,292       7,677  
Other assets
    8,250       10,643  
                 
Total assets
  $ 1,528,682     $ 1,275,481  
                 
LIABILITIES AND STOCKHOLDERS’ EQUITY
               
                 
LIABILITIES
               
Non-interest-bearing checking
  $ 1,153,027     $ 945,956  
Interest-bearing checking
    34,340       31,249  
Savings deposits
    24,435       11,136  
Money market deposits
    37,866       36,717  
Time certificates of deposit
    100,871       116,562  
Total deposits
    1,350,539       1,141,620  
Advances from Federal Home Loan Bank
    11,000       11,000  
Securities sold under agreements to repurchase
    27,314       8,055  
Subordinated debentures
    10,310       10,310  
Accrued interest payable
    216       223  
Contingent liability
    3,031       3,649  
Accrued expenses and other liabilities
    20,573       20,047  
Total liabilities
    1,422,983       1,194,904  
                 
STOCKHOLDERS’ EQUITY
               
Preferred stock, 800,000 shares authorized, no shares issued or outstanding
    -       -  
Common stock, $.01 par value; 5,200,000 shares authorized at June 30,2012 and September 30, 2011, 4,012,999 and 3,372,999 shares issued and 3,846,617 and 3,146,867 shares outstanding at June 30, 2012and September 30, 2011, respectively
    40       34  
Additional paid-in capital
    45,330       32,471  
Retained earnings - substantially restricted
    59,610       45,494  
Accumulated other comprehensive income (loss)
    3,508       6,336  
Treasury stock, 166,382 and 226,132 common shares, at cost, at June 30, 2012 and September 30, 2011, respectively
    (2,789 )     (3,758 )
Total stockholders’ equity
    105,699       80,577  
                 
Total liabilities and stockholders’ equity
  $ 1,528,682     $ 1,275,481  
 
See Notes to Condensed Consolidated Financial Statements.
 
 
1


META FINANCIAL GROUP, INC.
AND SUBSIDIARIES
Condensed Consolidated Statements of Operations (Unaudited)
(Dollars in Thousands, Except Share and Per Share Data)

   
Three Months Ended
   
Nine Months Ended
 
   
June 30,
   
June 30,
 
                         
   
2012
   
2011
   
2012
   
2011
 
                         
Interest and dividend income:
                       
Loans receivable, including fees
  $ 4,615     $ 4,538     $ 13,647     $ 14,894  
Mortgage-backed securities
    3,848       5,232       13,833       13,583  
Other investments
    686       210       1,583       703  
      9,149       9,980       29,063       29,180  
Interest expense:
                               
Deposits
    516       732       1,722       2,374  
FHLB advances and other borrowings
    341       421       1,000       1,284  
      857       1,153       2,722       3,658  
                                 
Net interest income
    8,292       8,827       26,341       25,522  
                                 
Provision (recovery) for loan losses
    150       (161 )     1,049       25  
                                 
Net interest income after provision for loan losses
    8,142       8,988       25,292       25,497  
                                 
Non-interest income:
                               
Card fees
    12,232       8,272       41,836       40,738  
(Loss) gain on sale of securities available for sale, net
    (401 )     -       12,030       1,158  
Loan fees
    358       69       977       355  
Deposit fees
    154       144       459       488  
Bank-owned life insurance income
    131       132       389       395  
Other income
    1,232       91       478       350  
Total non-interest income
    13,706       8,708       56,169       43,484  
                                 
Non-interest expense:
                               
Compensation and benefits
    8,236       7,158       23,469       23,142  
Card processing expense
    3,672       5,898       13,970       19,241  
Occupancy and equipment expense
    2,083       2,166       6,269       6,376  
Legal and consulting expense
    861       974       4,146       3,724  
Goodwill impairment
    -       -       -       1,508  
Marketing
    317       251       809       923  
Data processing expense
    294       272       847       818  
Other expense
    2,608       2,593       7,565       8,449  
Total non-interest expense
    18,071       19,312       57,075       64,181  
                                 
                                 
Income (loss) before income tax expense (benefit)
    3,777       (1,616 )     24,386       4,800  
                                 
Income tax expense (benefit)
    1,390       (596 )     8,938       2,352  
                                 
Net income (loss)
  $ 2,387     $ (1,020 )   $ 15,448     $ 2,448  
                                 
Earnings (loss) per common share:
                               
Basic
  $ 0.67     $ (0.33 )   $ 4.66     $ 0.79  
Diluted
  $ 0.66     $ (0.33 )   $ 4.64     $ 0.79  
 
See Notes to Condensed Consolidated Financial Statements.
 
 
2


META FINANCIAL GROUP, INC.
AND SUBSIDIARIES
Condensed Consolidated Statements of Comprehensive Income (Unaudited)
(Dollars in Thousands)

   
Three Months Ended
   
Nine Months Ended
 
   
June 30,
   
June 30,
 
                         
   
2012
   
2011
   
2012
   
2011
 
                         
                         
Net income (loss)
  $ 2,387     $ (1,020 )   $ 15,448     $ 2,448  
                                 
Other comprehensive loss:
                               
Change in net unrealized gains on securities available for sale
    5,440       10,579       7,449       8,619  
Losses (gains) realized in net income
    401       -       (12,030 )     (1,158 )
      5,841       10,579       (4,581 )     7,461  
Deferred income tax effect
    2,234       4,039       (1,753 )     2,847  
Total other comprehensive income (loss)
    3,607       6,540       (2,828 )     4,614  
Total comprehensive income
  $ 5,994     $ 5,520     $ 12,620     $ 7,062  
 
See Notes to Condensed Consolidated Financial Statements.
 
 
3


META FINANCIAL GROUP, INC.
AND SUBSIDIARIES
Condensed Consolidated Statements of Changes in Stockholders' Equity (Unaudited)
For the Nine Months Ended June 30, 2012 and 2011
(Dollars in Thousands, Except Share and Per Share Data)

                     
Accumulated
             
         
Additional
         
Other
         
Total
 
   
Common
   
Paid-in
   
Retained
   
Comprehensive
   
Treasury
   
Stockholders’
 
   
Stock
   
Capital
   
Earnings
   
Income (Loss)
   
Stock
   
Equity
 
                                     
Balance, September 30, 2010
  $ 34     $ 32,381     $ 42,475     $ 1,599     $ (4,445 )   $ 72,044  
                                                 
Cash dividends declared on common stock ($.39 per share)
    -       -       (1,216 )     -       -       (1,216 )
                                                 
Issuance of 5,950 common shares from treasury stock due to issuance of restricted stock
    -       (10 )     -       -       123       113  
                                                 
Stock compensation
    -       61       -       -       -       61  
                                                 
Change in net unrealized gains (losses) on securities available for sale
    -       -       -       4,614       -       4,614  
                                                 
Net income
    -       -       2,448       -       -       2,448  
                                                 
Balance, June 30, 2011
  $ 34     $ 32,432     $ 43,707     $ 6,213     $ (4,322 )   $ 78,064  
                                                 
Balance, September 30, 2011
  $ 34     $ 32,471     $ 45,494     $ 6,336     $ (3,758 )   $ 80,577  
                                                 
Cash dividends declared on common stock ($.39 per share)
    -       -       (1,332 )     -       -       (1,332 )
                                                 
Issuance of 640,000 common shares from the sales of equity securities
    6       12,782       -       -       -       12,788  
                                                 
Issuance of 59,750 common shares from treasury stock due to issuance of restricted stock
    -       50       -       -       969       1,019  
                                                 
Stock compensation
    -       27       -       -       -       27  
                                                 
Change in net unrealized gains (losses) on securities available for sale
    -       -       -       (2,828 )     -       (2,828 )
                                                 
Net income
    -       -       15,448       -       -       15,448  
                                                 
Balance, June 30, 2012
  $ 40     $ 45,330     $ 59,610     $ 3,508     $ (2,789 )   $ 105,699  
 
See Notes to Condensed Consolidated Financial Statements.
 
 
4


META FINANCIAL GROUP, INC.
AND SUBSIDIARIES
Condensed Consolidated Statements of Cash Flows (Unaudited)
(Dollars in Thousands)

   
Nine Months Ended June 30,
 
   
2012
   
2011
 
             
Cash flows from operating activities:
           
Net income
  $ 15,448     $ 2,448  
Adjustments to reconcile net income to net cash provided by operating activities:
               
Depreciation, amortization and accretion, net
    13,876       7,427  
Disbursement of non-real estate consumer loans originated for sale
    (617,928 )     (693,486 )
Proceeds from sale of non-real estate consumer loans
    617,806       691,197  
Disbursement of 1-4 family residential mortgage loans originated for sale
    -       (2,074 )
Proceeds from sale of 1-4 family residential mortgage loans
    368       3,515  
Loss (gain) on sale of loans
    7       (175 )
Provision for loan losses
    1,049       25  
Gain on sale of other assets
    (166 )     -  
Gain on sale of securities available for sale, net
    (12,030 )     (1,158 )
Net change in accrued interest receivable
    (1,732 )     529  
Goodwill impairment
    -       1,508  
Net change in other assets
    2,332       (983 )
Net change in accrued interest payable
    (7 )     (145 )
Net change in accrued expenses and other liabilities
    (92 )     7,926  
Net cash provided by operating activities
    18,931       16,554  
                 
Cash flow from investing activities:
               
Purchase of securities available for sale
    (898,546 )     (259,896 )
Proceeds from sales of securities available for sale
    386,859       46,238  
Proceeds from maturities and principal repayments of securities available for sale
    158,738       95,460  
Loans purchased
    (6,320 )     (1,039 )
Net change in loans receivable
    (16,560 )     53,904  
Proceeds from sales of foreclosed real estate
    4,919       832  
Federal Home Loan Bank stock purchases
    (58,331 )     -  
Federal Home Loan Bank stock redemptions
    60,948       (121 )
Proceeds from the sale of premises and equipment
    24       -  
Purchase of premises and equipment
    (3,554 )     (1,249 )
Other, net
    1,754       (2,847 )
Net cash used in investing activities
    (370,069 )     (68,718 )
                 
Cash flows from financing activities:
               
Net change in checking, savings, and money market deposits
    224,610       59,953  
Net change in time deposits
    (15,691 )     (28,818 )
Net change in advances from Federal Home Loan Bank
    -       (1,000 )
Net change in securities sold under agreements to repurchase
    19,259       778  
Cash dividends paid
    (1,332 )     (1,216 )
Proceeds from issuance of common shares, net of issuance costs
    12,788       -  
Stock compensation
    27       61  
Proceeds from exercise of stock options
    1,019       113  
Net cash provided by financing activities
    240,680       29,871  
                 
Net change in cash and cash equivalents
    (110,458 )     (22,293 )
                 
Cash and cash equivalents at beginning of period
    276,893       87,503  
Cash and cash equivalents at end of period
  $ 166,435     $ 65,210  
                 
Supplemental disclosure of cash flow information
               
Cash paid during the period for:
               
Interest
  $ 2,729     $ 3,803  
Income taxes
    5,624       3,078  
                 
Supplemental schedule of non-cash investing activities:
               
Loans transferred to foreclosed real estate
  $ 3,040     $ 2,025  
 
See Notes to Condensed Consolidated Financial Statements.
 
 
META FINANCIAL GROUP, INC. ®
AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements (Unaudited)

NOTE 1.
BASIS OF PRESENTATION

The interim unaudited condensed consolidated financial statements contained herein should be read in conjunction with the audited consolidated financial statements and accompanying notes to the consolidated financial statements for the fiscal year ended September 30, 2011 included in Meta Financial Group, Inc.’s (“Meta Financial” or the “Company”) Annual Report on Form 10-K filed with the Securities and Exchange Commission (“SEC”) on December 20, 2011.  Accordingly, footnote disclosures which would substantially duplicate the disclosure contained in the audited consolidated financial statements have been omitted.

The financial information of the Company included herein has been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) for interim financial reporting and has been prepared pursuant to the rules and regulations for reporting on Form 10-Q and Rule 10-01 of Regulation S-X.  Such information reflects all adjustments (consisting of normal recurring adjustments), that are, in the opinion of management, necessary for a fair presentation of the financial position and results of operations for the periods presented. The results of the interim period ended June 30, 2012, are not necessarily indicative of the results expected for the year ending September 30, 2012.

NOTE 2.
CREDIT DISCLOSURES

Loans are considered impaired if full principal or interest payments are not probable in accordance with the contractual loan terms.  Impaired loans are carried at the present value of expected future cash flows discounted at the loan’s effective interest rate or at the fair value of the collateral if the loan is collateral dependent.

The allowance consists of specific, general, and unallocated components.  The specific component relates to impaired loans.  For such loans, an allowance is established when the discounted cash flows (or collateral value or observable market price) of the impaired loan are lower than the carrying value of that loan.  The general component covers loans not considered impaired and is based on historical loss experience adjusted for qualitative factors.  An unallocated component is 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.

Smaller-balance homogeneous loans are evaluated for impairment in total.  Such loans include residential first mortgage loans secured by one-to-four family residences, residential construction loans, and automobile, manufactured homes, home equity and second mortgage loans.  Commercial and agricultural loans and mortgage loans secured by other properties are evaluated individually for impairment.  When analysis of borrower operating results and financial condition indicates that underlying cash flows of the borrower’s business are not adequate to meet its debt service requirements, the loan is evaluated for impairment.  Often this is associated with a delay or shortfall in payments of 90 days or more.  Generally, non-accrual loans are considered impaired.  Impaired loans, or portions thereof, are charged off when deemed uncollectible.
 
 
6


Loan receivables at June 30, 2012 and September 30, 2011 are as follows:

   
June 30, 2012
   
September 30, 2011
 
   
(Dollars in Thousands)
 
             
One to four family residential mortgage loans
  $ 43,973     $ 33,753  
One to four family residential mortgage loans held for sale
    -       375  
Commercial and multi-family real estate loans
    191,415       194,414  
Agricultural real estate loans
    20,572       20,320  
Consumer loans
    39,059       32,418  
Consumer loans held for sale
    2,306       1,980  
Commercial operating loans
    15,023       14,955  
Agricultural operating loans
    25,132       21,200  
Total Loans Receivable
    337,480       319,415  
                 
Less:
               
Allowance for loan losses
    (4,426 )     (4,926 )
Net deferred loan origination fees
    (106 )     (79 )
Total Loans Receivable, Net
  $ 332,948     $ 314,410  

Activity in the allowance for loan losses for the three and nine month periods ended June 30, 2012 and 2011 is as follows:

   
Three Months Ended
   
Nine Months Ended
 
   
June 30,
   
June 30,
 
(Dollars in Thousands)
 
2012
   
2011
   
2012
   
2011
 
                         
                         
Beginning balance
  $ 4,762     $ 4,741     $ 4,926     $ 5,234  
Provision (recovery) for loan losses
    150       (161 )     1,049       25  
Loan charge offs
    (506 )     (73 )     (1,577 )     (901 )
Recoveries
    20       375       28       524  
Ending balance
  $ 4,426     $ 4,882     $ 4,426     $ 4,882  
 
 
7


Allowance for loan losses and loans receivable for the three and nine month periods ended June 30, 2012 and 2011 is as follows:

   
1-4 Family
Residential
   
Commercial and
Multi Family
Real Estate
   
Agricultural
Real Estate
   
Consumer
   
Commercial
Operating
   
Agricultural
Operating
   
Unallocated
   
Total
 
                                                 
Three Months Ended June 30, 2012
                                               
                                                 
Allowance for loan losses:
                                               
Beginning balance
  $ 147     $ 3,975     $ -     $ 27     $ 37     $ -     $ 576     $ 4,762  
Provision (recovery) for loan losses
    17       182       -       (12 )     (1 )     -       (36 )     150  
Loan charge offs
    -       (502 )     -       (4 )     -       -       -       (506 )
Recoveries
    -       20       -       -       -       -       -       20  
Ending balance
  $ 164     $ 3,675     $ -     $ 11     $ 36     $ -     $ 540     $ 4,426  
                                                                 
Nine Months Ended June 30, 2012
                                                               
                                                                 
Allowance for loan losses:
                                                               
Beginning balance
  $ 165     $ 3,901     $ -     $ 16     $ 36     $ 67     $ 741     $ 4,926  
Provision (recovery) for loan losses
    1       1,322       -       (3 )     (3 )     (67 )     (201 )     1,049  
Loan charge offs
    (3 )     (1,568 )     -       (6 )     -       -       -       (1,577 )
Recoveries
    1       20       -       4       3       -       -       28  
Ending balance
  $ 164     $ 3,675     $ -     $ 11     $ 36     $ -     $ 540     $ 4,426  
                                                                 
                                                                 
Ending balance: individually evaluated for impairment
  $ 4     $ 1,157     $ -     $ -     $ 2     $ -     $ -     $ 1,163  
Ending balance: collectively evaluated for impairment
  $ 160     $ 2,518     $ -     $ 11     $ 34     $ -     $ 540     $ 3,263  
                                                                 
Loans:
                                                               
Ending balance: individually evaluated for impairment
  $ 78     $ 10,830     $ -     $ 1     $ 78     $ -     $ -     $ 10,987  
Ending balance: collectively evaluated for impairment
  $ 43,895     $ 180,585     $ 20,572     $ 39,058     $ 14,945     $ 25,132     $ -     $ 324,187  
 
 
8

 
   
1-4 Family
Residential
   
Commercial and
Multi Family
Real Estate
   
Agricultural
Real Estate
   
Consumer
   
Commercial
Operating
   
Agricultural
Operating
   
Unallocated
   
Total
 
                                                 
Three Months Ended June 30, 2011
                                               
                                                 
Allowance for loan losses:
                                               
Beginning balance
  $ 82     $ 3,448     $ 38     $ 48     $ 92     $ 68     $ 965     $ 4,741  
Provision (recovery) for loan losses
    85       96       (38 )     (297 )     31       (3 )     (35 )     (161 )
Loan charge offs
    (37 )     -       -       (7 )     (29 )     -       -       (73 )
Recoveries
    4       102       -       269       -       -       -       375  
Ending balance
  $ 134     $ 3,646     $ -     $ 13     $ 94     $ 65     $ 930     $ 4,882  
                                                                 
Nine Months Ended June 30, 2011
                                                               
                                                                 
Allowance for loan losses:
                                                               
Beginning balance
  $ 50     $ 3,053     $ 111     $ 738     $ 131     $ 125     $ 1,026     $ 5,234  
Provision (recovery) for loan losses
    159       506       (111 )     (379 )     6       (60 )     (96 )     25  
Loan charge offs
    (79 )     (15 )     -       (764 )     (43 )     -       -       (901 )
Recoveries
    4       102       -       418       -       -       -       524  
Ending balance
  $ 134     $ 3,646     $ -     $ 13     $ 94     $ 65     $ 930     $ 4,882  
                                                                 
Ending balance: individually evaluated for impairment
  $ 26     $ 1,665     $ -     $ -     $ 3     $ -     $ -     $ 1,694  
Ending balance: collectively evaluated for impairment
  $ 108     $ 1,981     $ -     $ 13     $ 91     $ 65     $ 930     $ 3,188  
                                                                 
Loans:
                                                               
Ending balance: individually evaluated for impairment
  $ 219     $ 17,480     $ 19     $ -     $ 64     $ -     $ -     $ 17,782  
Ending balance: collectively evaluated for impairment
  $ 34,420     $ 178,226     $ 16,093     $ 36,594     $ 15,734     $ 18,361     $ -     $ 299,428  

Federal regulations provide for the classification of loans and other assets, such as debt and equity securities considered by our regulator, the Office of the Comptroller of the Currency (the “OCC”), to be of lesser quality, as “substandard,” “doubtful” or “loss.”  An asset is considered “substandard” if it is inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any.  “Substandard” assets include those characterized by the “distinct possibility” that the savings association will sustain “some loss” if the deficiencies are not corrected.  Assets classified as “doubtful” have all of the weaknesses inherent in those classified “substandard,” with the added characteristic that the weaknesses present make “collection or liquidation in full,” on the basis of currently existing facts, conditions, and values, “highly questionable and improbable.”  Assets classified as “loss” are those considered “uncollectible” and of such minimal value that their continuance as assets without the establishment of a specific loss reserve is not warranted.
 
General allowances represent loss allowances which have been established to recognize the inherent risk associated with lending activities, but which, unlike specific allowances, have not been allocated to particular problem assets.  When assets are classified as “loss,” MetaBank (the “Bank”) is required either to establish a specific allowance for losses equal to 100% of that portion of the asset so classified or to charge-off such amount.  The Bank’s determinations as to the classification of its assets and the amount of its valuation allowances are subject to review by its regulatory authorities, which may order the establishment of additional general or specific loss allowances.
 
 
9

 
The asset classification of loans at June 30, 2012 and September 30, 2011, which excludes loans held for sale, are as follows:

June 30, 2012
                                         
   
1-4 Family
Residential
   
Commercial and
Multi Family
Real Estate
   
Agricultural
Real Estate
   
Consumer
   
Commercial
Operating
   
Agricultural
Operating
   
Total
 
                                           
Pass
  $ 43,512     $ 166,263     $ 20,572     $ 38,832     $ 14,405     $ 25,132     $ 308,716  
Watch
    356       12,642       -       95       360       -       13,453  
Special Mention
    -       700       -       51       238       -       989  
Substandard
    105       11,810       -       51       20       -       11,986  
Doubtful
    -       -       -       30       -       -       30  
    $ 43,973     $ 191,415     $ 20,572     $ 39,059     $ 15,023     $ 25,132     $ 335,174  

September 30, 2011
                                         
   
1-4 Family
Residential
   
Commercial and
Multi Family
Real Estate
   
Agricultural
Real Estate
   
Consumer
   
Commercial
Operating
   
Agricultural
Operating
   
Total
 
                                           
Pass
  $ 33,830     $ 161,109     $ 20,320     $ 31,967     $ 13,737     $ 14,500     $ 275,463  
Watch
    281       10,446       -       318       913       6,700       18,658  
Special Mention
    17       3,006       -       38       53       -       3,114  
Substandard
    -       19,827       -       60       252       -       20,139  
Doubtful
    -       26       -       35       -       -       61  
    $ 34,128     $ 194,414     $ 20,320     $ 32,418     $ 14,955     $ 21,200     $ 317,435  

One- to Four-Family Residential Mortgage Lending.  One- to four-family residential mortgage loan originations are generated by the Company’s marketing efforts, its present customers, walk-in customers and referrals.  The Company offers fixed rate and ARM loans for both permanent structures and those under construction.  The Company’s one- to four-family residential mortgage originations are secured primarily by properties located in its primary market area and surrounding areas.
 
The Company originates one- to four-family residential mortgage loans with terms up to a maximum of 30 years and with loan-to-value ratios up to 100% of the lesser of the appraised value of the security property or the contract price.  The Company generally requires that private mortgage insurance be obtained in an amount sufficient to reduce the Company’s exposure to at or below the 80% loan-to-value level, unless the loan is insured by the Federal Housing Administration, guaranteed by Veterans Affairs or guaranteed by the Rural Housing Administration.  Residential loans generally do not include prepayment penalties.
 
The Company currently offers one, three, five, seven and ten year adjustable rate mortgage (ARM) loans.  These loans have a fixed rate for the stated period and, thereafter, such loans adjust annually.  These loans generally provide for an annual cap of up to 200 basis points and a lifetime cap of 600 basis points over the initial rate.  As a consequence of using an initial fixed rate and caps, the interest rates on these loans may not be as rate sensitive as is the Company's cost of funds.  The Company’s ARMs do not permit negative amortization of principal and are not convertible into a fixed rate loan.  The Company’s delinquency experience on its ARM loans has generally been similar to its experience on fixed rate residential loans.  Current market conditions make ARM loans less attractive to customers and very few are currently being originated.
 
Due to consumer demand, the Company also offers fixed-rate mortgage loans with terms up to 30 years, most of which conform to secondary market, i.e., Fannie Mae, Ginnie Mae, and Freddie Mac, standards.  Interest rates charged on these fixed-rate loans are competitively priced according to market conditions.  The Company currently sells most, but not all, of its fixed-rate loans with terms greater than 15 years.
 
 
10

 
In underwriting one- to four-family residential real estate loans, the Company evaluates both the borrower’s ability to make monthly payments and the value of the property securing the loan.  Properties securing real estate loans made by the Company are appraised by independent appraisers approved by the Board of Directors.  The Company generally requires borrowers to obtain an attorney’s title opinion or title insurance, and fire and property insurance (including flood insurance, if necessary) in an amount not less than the amount of the loan.  Real estate loans originated by the Company generally contain a “due on sale” clause allowing the Company to declare the unpaid principal balance due and payable upon the sale of the security property.  The Company has not engaged in sub-prime residential mortgage originations.
 
Commercial and Multi-Family Real Estate Lending.  The Company engages in commercial and multi-family real estate lending in its primary market area and surrounding areas and, in order to supplement its loan portfolio, from time to time purchases whole loan and participation interests in loans from other financial institutions.  The purchased loans and loan participation interests are generally secured by properties located in the Midwest and West.
 
The Company’s commercial and multi-family real estate loan portfolio is secured primarily by apartment buildings, office buildings, and hotels.  Commercial and multi-family real estate loans generally have terms that do not exceed 20 years, have loan-to-value ratios of up to 80% of the appraised value of the security property, and are typically secured by personal guarantees of the borrowers.  The Company has a variety of rate adjustment features and other terms in its commercial and multi-family real estate loan portfolio.  Commercial and multi-family real estate loans provide for a margin over a number of different indices.  In underwriting these loans, the Company currently analyzes the financial condition of the borrower, the borrower’s credit history, and the reliability and predictability of the cash flow generated by the property securing the loan.  Appraisals on properties securing commercial real estate loans originated by the Company are performed by independent appraisers.
 
Commercial and multi-family real estate loans generally present a higher level of risk than loans secured by one- to four-family residences.  This greater risk is due to several factors, including the concentration of principal in a limited number of loans and borrowers, the effect of general economic conditions on income producing properties and the increased difficulty of evaluating and monitoring these types of loans.  Furthermore, the repayment of loans secured by commercial and multi-family real estate is typically dependent upon the successful operation of the related real estate project.  If the cash flow from the project is reduced (for example, if leases are not obtained or renewed, or a bankruptcy court modifies a lease term, or a major tenant is unable to fulfill its lease obligations), the borrower's ability to repay the loan may be impaired.
 
Agricultural Lending.  The Company originates loans to finance the purchase of farmland, livestock, farm machinery and equipment, seed, fertilizer and other farm related products.  Agricultural operating loans are originated at either an adjustable or fixed rate of interest for up to a one year term or, in the case of livestock, upon sale.  Most agricultural operating loans have terms of one year or less.  Such loans provide for payments of principal and interest at least annually or a lump sum payment upon maturity if the original term is less than one year.  Loans secured by agricultural machinery are generally originated as fixed-rate loans with terms of up to seven years.
 
Agricultural real estate loans are frequently originated with adjustable rates of interest.  Generally, such loans provide for a fixed rate of interest for the first one to five years, which then balloon or adjust annually thereafter.  In addition, such loans generally amortize over a period of 10 to 20 years.  Adjustable-rate agricultural real estate loans provide for a margin over the yields on the corresponding U.S. Treasury security or prime rate.  Fixed-rate agricultural real estate loans generally have terms up to five years.  Agricultural real estate loans are generally limited to 75% of the value of the property securing the loan.
 
 
11

 
Agricultural lending affords the Company the opportunity to earn yields higher than those obtainable on one- to four-family residential lending.  Nevertheless, agricultural lending involves a greater degree of risk than one- to four-family residential mortgage loans because of the typically larger loan amount.  In addition, payments on loans are dependent on the successful operation or management of the farm property securing the loan or for which an operating loan is utilized.  The success of the loan may also be affected by many factors outside the control of the farm borrower.
 
Weather presents one of the greatest risks as hail, drought, floods, or other conditions can severely limit crop yields and thus impair loan repayments and the value of the underlying collateral.  This risk can be reduced by the farmer with a variety of insurance coverages which can help to ensure loan repayment.  Government support programs and the Company generally require that farmers procure crop insurance coverage.  Grain and livestock prices also present a risk as prices may decline prior to sale resulting in a failure to cover production costs.  These risks may be reduced by the farmer with the use of futures contracts or options to mitigate price risk.  The Company frequently requires borrowers to use future contracts or options to reduce price risk and help ensure loan repayment.  Another risk is the uncertainty of government programs and other regulations.  During periods of low commodity prices, the income from government programs can be a significant source of cash to make loan payments and if these programs are discontinued or significantly changed, cash flow problems or defaults could result.  Finally, many farms are dependent on a limited number of key individuals upon whose injury or death may result in an inability to successfully operate the farm.
 
Management believes that various levels of drought weather conditions within our markets has the potential to negatively impact potential yields which would have a negative economic effect on our agricultural markets in fiscal 2012.
 
Consumer Lending- Retail Bank.  The “Retail Bank” (generally referring to traditional banking operations in our four market areas) offers a variety of secured consumer loans, including home equity, home improvement, automobile, boat and loans secured by savings deposits.  In addition, the Retail Bank offers other secured and unsecured consumer loans.  The Retail Bank currently originates most of its consumer loans in its primary market area and surrounding areas.  The Retail Bank originates consumer loans on both a direct and indirect basis.
 
The largest component of the Retail Bank’s consumer loan portfolio consists of home equity loans and lines of credit.  Substantially all of the Retail Bank’s home equity loans and lines of credit are secured by second mortgages on principal residences.  The Retail Bank will lend amounts which, together with all prior liens, typically may be up to 100% of the appraised value of the property securing the loan.  Home equity loans and lines of credit generally have maximum terms of five years.
 
The Retail Bank primarily originates automobile loans on a direct basis, but also originates indirect automobile loans on a very limited basis.  Direct loans are loans made when the Retail Bank extends credit directly to the borrower, as opposed to indirect loans, which are made when the Retail Bank purchases loan contracts, often at a discount, from automobile dealers which have extended credit to their customers.  The Retail Bank’s automobile loans typically are originated at fixed interest rates with terms up to 60 months for new and used vehicles.  Loans secured by automobiles are generally originated for up to 80% of the N.A.D.A. book value of the automobile securing the loan.
 
Consumer loan terms vary according to the type and value of collateral, length of contract and creditworthiness of the borrower.  The underwriting standards employed by the Company for consumer loans include an application, a determination of the applicant’s payment history on other debts and an assessment of ability to meet existing obligations and payments on the proposed loan.  Although creditworthiness of the applicant is a primary consideration, the underwriting process also includes a comparison of the value of the security, if any, in relation to the proposed loan amount.
 
 
12

 
Consumer loans may entail greater credit risk than do residential mortgage loans, particularly in the case of consumer loans which are unsecured or are secured by rapidly depreciable assets, such as automobiles or recreational equipment.  In such cases, any repossessed collateral for a defaulted consumer loan may not provide an adequate source of repayment of the outstanding loan balance as a result of the greater likelihood of damage, loss or depreciation.  In addition, consumer loan collections are dependent on the borrower’s continuing financial stability, and thus are more likely to be affected by adverse personal circumstances.  Furthermore, the application of various federal and state laws, including bankruptcy and insolvency laws, may limit the amount which can be recovered on such loans.
 
Consumer Lending- Meta Payment Systems (“MPS”).  MPS offers credit products on a nationwide basis in the following categories (1) sponsorship lending and (2) portfolio lending.  In a sponsorship lending model, MPS typically originates loans and sells (without recourse) the resulting receivables to third party investors.  In portfolio lending, the Company retains some or all receivables and relies on the borrower as the underlying source of repayment.
 
Consumer loan collections are dependent on the borrower’s continuing financial stability, and thus are more likely to be affected by adverse personal circumstances.
 
The Company monitors concentrations of credit that may naturally occur and may take the form of a large volume of related loans to an individual, a specific industry, a geographic location or an occupation.
 
The Company will discontinue four of its credit sponsorship lending programs by the fourth fiscal quarter of 2012.  For the year ended September 30, 2011 and the nine months ended June 30, 2012, these relationships provided approximately $3.4 million and $2.6 million, respectively, in total revenue (interest income plus non-interest income) to the Company.  The Company believes that other sources of revenue from other developing non-sponsorship credit programs will eventually offset income that had been attributable to these relationships.

Commercial Operating Lending.  The Company also originates commercial operating loans.  Most of the Company’s commercial operating loans have been extended to finance local and regional businesses and include short-term loans to finance machinery and equipment purchases, inventory and accounts receivable.  Commercial loans also involve the extension of revolving credit for a combination of equipment acquisitions and working capital in expanding companies.

The maximum term for loans extended on machinery and equipment is based on the projected useful life of such machinery and equipment.  Generally, the maximum term on non-mortgage lines of credit is one year.  The loan-to-value ratio on such loans and lines of credit generally may not exceed 80% of the value of the collateral securing the loan.  The Company’s commercial operating lending policy includes credit file documentation and analysis of the borrower’s character, capacity to repay the loan, the adequacy of the borrower’s capital and collateral as well as an evaluation of conditions affecting the borrower.  Analysis of the borrower’s past, present and future cash flows is also an important aspect of the Company’s current credit analysis.

Unlike residential mortgage loans, which generally are made on the basis of the borrower’s ability to make repayment from his or her employment and other income and which are secured by real property whose value tends to be more easily ascertainable, commercial operating loans typically are made on the basis of the borrower’s ability to make repayment from the cash flow of the borrower’s business.  As a result, the availability of funds for the repayment of commercial operating loans may be substantially dependent on the success of the business itself (which, in turn, is likely to be dependent upon the general economic environment).  The Company’s commercial operating loans are usually, but not always, secured by business assets and personal guarantees.  However, the collateral securing the loans may depreciate over time, may be difficult to appraise and may fluctuate in value based on the success of the business.  Commercial operating loans have been a declining percentage of the Company’s loan portfolio since 2005.
 
 
13


Generally, when a loan becomes delinquent 90 days or more or when the collection of principal or interest becomes doubtful, the Company will place the loan on a non-accrual status and, as a result of this action, previously accrued interest income on the loan is reversed against interest income.  The loan will remain on non-accrual status until the loan has been brought current or until other circumstances occur that provide adequate assurance of full repayment of interest and principal.

Past due loans at June 30, 2012 and September 30, 2011 are as follows:

June 30, 2012
 
30-59 Days
Past Due
   
60-89 Days
Past Due
   
Greater Than
90 Days
   
Total Past
Due
   
Current
   
Non-Accrual
Loans
   
Total Loans
Receivable
 
                                           
Residential 1-4 Family
  $ 484     $ 257     $ -     $ 741     $ 43,170     $ 62     $ 43,973  
Commercial Real Estate and Multi Family
    -       -       -       -       186,651       4,764       191,415  
Agricultural Real Estate
    -       -       -       -       20,572       -       20,572  
Consumer
    20       59       64       143       38,916       -       39,059  
Commercial Operating
    360       -       -       360       14,643       20       15,023  
Agricultural Operating
    -       -       -       -       25,132       -       25,132  
Total
  $ 864     $ 316     $ 64     $ 1,244     $ 329,084     $ 4,846     $ 335,174  
                                                         
September 30, 2011
                                                       
                                                         
Residential 1-4 Family
  $ 51     $ 30     $ -     $ 81     $ 33,920     $ 127     $ 34,128  
Commercial Real Estate and Multi Family
    2,460       -       -       2,460       178,929       13,025       194,414  
Agricultural Real Estate
    -       -       -       -       20,320       -       20,320  
Consumer
    26       14       24       64       32,354       -       32,418  
Commercial Operating
    -       -       -       -       14,925       30       14,955  
Agricultural Operating
    -       -       -       -       21,200       -       21,200  
   Total
  $ 2,537     $ 44     $ 24     $ 2,605     $ 301,648     $ 13,182     $ 317,435  

Impaired loans at June 30, 2012 and September 30, 2011 are as follows:

   
Recorded
Balance
   
Unpaid Principal
Balance
   
Specific
Allowance
 
June 30, 2012
                 
                   
Loans without a specific valuation allowance
                 
Residential 1-4 Family
  $ -     $ -     $ -  
Commercial Real Estate and Multi Family
    -       -       -  
Agricultural Real Estate
    -       -       -  
Consumer
    -       -       -  
Commercial Operating
    -       -       -  
Agricultural Operating
    -       -       -  
Total
  $ -     $ -     $ -  
Loans with a specific valuation allowance
                       
Residential 1-4 Family
  $ 78     $ 119     $ 4  
Commercial Real Estate and Multi Family
    10,830       14,281       1,157  
Agricultural Real Estate
    -       -       -  
Consumer
    1       1       -  
Commercial Operating
    78       121       2  
Agricultural Operating
    -       -       -  
Total
  $ 10,987     $ 14,522     $ 1,163  
 
 
14

 
   
Recorded
Balance
   
Unpaid Principal
Balance
   
Specific
Allowance
 
September 30, 2011
                 
                   
Loans without a specific valuation allowance
                 
Residential 1-4 Family
  $ -     $ -     $ -  
Commercial Real Estate and Multi Family
    -       -       -  
Agricultural Real Estate
    -       -       -  
Consumer
    -       -       -  
Commercial Operating
    -       -       -  
Agricultural Operating
    -       -       -  
Total
  $ -     $ -     $ -  
Loans with a specific valuation allowance
                       
Residential 1-4 Family
  $ 127     $ 172     $ 1  
Commercial Real Estate and Multi Family
    13,025       18,427       1,845  
Agricultural Real Estate
    -       -       -  
Consumer
    -       -       -  
Commercial Operating
    30       45       3  
Agricultural Operating
    -       -       -  
Total
  $ 13,182     $ 18,644     $ 1,849  

The following table provides the average recorded investment in impaired loans for the three and nine month periods ended June 30, 2012 and 2011.

   
Three Months Ended June 30,
   
Nine Months Ended June 30,
 
   
2012
   
2011
   
2012
   
2011
 
   
Average
Recorded
Investment
   
Average
Recorded
Investment
   
Average
Recorded
Investment
   
Average
Recorded
Investment
 
                         
                         
Residential 1-4 Family
  $ 77     $ 245     $ 116     $ 173  
Commercial Real Estate and Multi Family
    12,129       13,691       14,609       9,760  
Agricultural Real Estate
    -       1,366       -       1,730  
Consumer
    1       -       5       6  
Commercial Operating
    80       84       79       111  
Agricultural Operating
    -       -       -       5  
Total
  $ 12,287     $ 15,386     $ 14,809     $ 11,785  
 
 
15


The Company’s troubled debt restructurings (“TDR”), which involved forgiving a portion of interest or principal of existing loans or making loans at a rate materially less than current market rates, are included in the below table. Loans modified in a TDR during the three and nine month periods ended June 30, 2012 and 2011 are as follows:

   
For the Three Months Ended June 30, 2012
   
For the Three Months Ended June 30, 2011
 
   
Number of
Loans
   
Pre-Modification
Outstanding
Recorded Balance
   
Post-Modification
Outstanding
Recorded Balance
   
Number of
Loans
   
Pre-Modification
Outstanding
Recorded Balance
   
Post-Modification
Outstanding
Recorded Balance
 
                                     
Residential 1-4 Family
    1     $ 16     $ 16       2     $ 286     $ 286  
Commercial Real Estate and Multi Family
    -       -       -       -       -       -  
Agricultural Real Estate
    -       -       -       -       -       -  
Consumer
    1       1       1       -       -       -  
Commercial Operating
    -       -       -       1       7       7  
Agricultural Operating
    -       -       -       -       -       -  
Total
    2     $ 17     $ 17       3     $ 293     $ 293  
 
 
   
For the Nine Months Ended June 30, 2012
   
For the Nine Months Ended June 30, 2011
 
   
Number of
Loans
   
Pre-Modification
Outstanding
Recorded Balance
   
Post-Modification
Outstanding
Recorded Balance
   
Number of
Loans
   
Pre-Modification
Outstanding
Recorded Balance
   
Post-Modification
Outstanding
Recorded Balance
 
                                     
Residential 1-4 Family
    1     $ 16     $ 16       2     $ 286     $ 286  
Commercial Real Estate and Multi Family
    -       -       -       3       3,531       3,531  
Agricultural Real Estate
    -       -       -       -       -       -  
Consumer
    1       1       1       -       -       -  
Commercial Operating
    -       -       -       2       39       39  
Agricultural Operating
    -       -       -       -       -       -  
Total
    2     $ 17     $ 17       7     $ 3,856     $ 3,856  

The following table provides information on TDR loans for which there was a payment default during the three and nine month periods ended June 30, 2012 and 2011, that had been modified during the 12-month period prior to the default:

   
During the Three Months Ended
 
   
June 30, 2012
   
June 30, 2011
 
   
Number of
Loans
   
Recorded
Investment
   
Number of
Loans
   
Recorded
Investment
 
Residential 1-4 Family
    -     $ -       1     $ 42  
Commercial Real Estate and Multi Family
    -       -       -       -  
Agricultural Real Estate
    -       -       -       -  
Consumer
    -       -       -       -  
Commercial Operating
    -       -       -       -  
Agricultural Operating
    -       -       -       -  
Total
    -     $ -       1     $ 42  
 
 
16

 
   
During the Nine Months Ended
 
   
June 30, 2012
   
June 30, 2011
 
   
Number of
Loans
   
Recorded
Investment
   
Number of
Loans
   
Recorded
Investment
 
Residential 1-4 Family
    -     $ -       1     $ 42  
Commercial Real Estate and Multi Family
    -       -       -       -  
Agricultural Real Estate
    -       -       -       -  
Consumer
    -       -       -       -  
Commercial Operating
    -       -       -       -  
Agricultural Operating
    -       -       -       -  
Total
    -     $ -       1     $ 42  

NOTE 3.
ALLOWANCE FOR LOAN LOSSES

At June 30, 2012, the Company’s allowance for loan losses was $4.4 million, a decrease of $0.5 million from $4.9 million at September 30, 2011.  During the three months ended June 30, 2012, the Company recorded a provision for loan losses of $0.2 million.

During the three and nine months ended June 30, 2012, the Company recorded a provision for its Retail Bank division in the amount of $0.2 million and $1.1 million, respectively, due to increases in the general reserves caused by increases in the historical loss rates for commercial real estate and multi-family loans.

The Company’s total net charge-offs for the three and nine months ended June 30, 2012 were $0.5 million and $1.5 million, respectively.

The allowance for loan losses represents management’s estimate of probable loan losses which have been incurred as of the date of the consolidated financial statements.  The allowance for loan losses is increased by a provision for loan losses charged to expense and decreased by charge-offs (net of recoveries). Estimating the risk of loss and the amount of loss on any loan is necessarily subjective. Management’s periodic evaluation of the adequacy of the allowance is based on the Company’s past loan loss experience, known and inherent risks in the portfolio, adverse situations that may affect the borrower’s ability to repay, the estimated value of any underlying collateral, and current economic conditions. While management may periodically allocate portions of the allowance for specific problem loan situations, the entire allowance is available for any loan charge-offs that occur.

The Company establishes its provision for loan losses, and evaluates the adequacy of its allowance for loan losses based upon a systematic methodology consisting of a number of factors including, among others, historic loss experience, the overall level of classified assets, non-performing loans, TDR loans, the composition of its loan portfolio and the general economic environment within which the Company and its borrowers operate.

Management closely monitors economic developments both regionally and nationwide, and considers these factors when assessing the adequacy of its allowance for loan losses.

NOTE 4.
EARNINGS PER COMMON SHARE (“EPS”)

Basic EPS is computed by dividing income (loss) available to common stockholders (the numerator) by the weighted average number of common shares outstanding (the denominator) during the period. Shares issued during the period and shares reacquired during the period are weighted for the portion of the period that they were outstanding.  Allocated ESOP shares are considered outstanding for earnings per common share calculations as they are committed to be issued; unallocated ESOP shares are not considered outstanding.  Diluted EPS shows the dilutive effect of additional common shares issuable pursuant to stock option agreements.
 
 
17


A reconciliation of the income and common stock share amounts used in the computation of basic and diluted EPS for the three and nine months ended June 30, 2012 and 2011 is presented below.

Three Months Ended June 30,
 
2012
   
2011
 
(Dollars in Thousands, Except Share and Per Share Data)
           
             
Earnings
           
Net Income (Loss)
  $ 2,387     $ (1,020 )
                 
Basic EPS
               
Weighted average common shares outstanding
    3,565,159       3,117,363  
Less weighted average unallocated ESOP and nonvested shares
    -       (1,667 )
Weighted average common shares outstanding
    3,565,159       3,115,696  
                 
Earnings (Loss) Per Common Share
               
Basic
  $ 0.67     $ (0.33 )
                 
Diluted EPS
               
Weighted average common shares outstanding for basic earnings per common share
    3,565,159       3,115,696  
Add dilutive effect of assumed exercises of stock options, net of tax benefits
    24,942       617  
Weighted average common and dilutive potential common shares outstanding
    3,590,101       3,116,313  
                 
Earnings (Loss) Per Common Share
               
Diluted
  $ 0.66     $ (0.33 )
 
 
18

 
Nine Months Ended June 30,
 
2012
   
2011
 
(Dollars in Thousands, Except Share and Per Share Data)
           
             
Earnings
           
Net Income
  $ 15,448     $ 2,448  
                 
Basic EPS
               
Weighted average common shares outstanding
    3,313,636       3,114,954  
Less weighted average unallocated ESOP and nonvested shares
    -       (1,667 )
Weighted average common shares outstanding
    3,313,636       3,113,287  
                 
Earnings Per Common Share
               
Basic
  $ 4.66     $ 0.79  
                 
Diluted EPS
               
Weighted average common shares outstanding for basic earnings per common share
    3,313,636       3,113,287  
Add dilutive effect of assumed exercises of stock options, net of tax benefits
    14,720       -  
Weighted average common and dilutive potential common shares outstanding
    3,328,356       3,113,287  
                 
Earnings Per Common Share
               
Diluted
  $ 4.64     $ 0.79  

Stock options totaling 267,602 and 329,561 were not considered in computing diluted EPS for the three and nine months ended June 30, 2012, respectively, because they were not dilutive.  Stock options totaling 451,640 and 406,776 were not considered in computing diluted EPS for the three and nine months ended June 30, 2011, respectively, because they were not dilutive.
 
 
19


NOTE 5.
SECURITIES

The amortized cost, gross unrealized gains and losses and estimated fair values of available for sale securities at June 30, 2012 and September 30, 2011 are presented below.

         
Gross
   
Gross
       
June 30, 2012
 
Amortized Cost
   
Unrealized Gains
   
Unrealized (Losses)
   
Fair Value
 
   
(Dollars in Thousands)
 
Debt securities
                       
Trust preferred and corporate securities
  $ 77,193     $ 756     $ (3,477 )   $ 74,472  
Asset backed securities
    21,319       -       (234 )     21,085  
Agency securities
    39,401       -       (66 )     39,335  
Obligations of states and political subdivisions
    17,119       507       (15 )     17,611  
Mortgage-backed securities
    807,678       8,819       (609 )     815,888  
Total debt securities
  $ 962,710     $ 10,082     $ (4,401 )   $ 968,391  

         
Gross
   
Gross
       
September 30, 2011
 
Amortized Cost
   
Unrealized Gains
   
Unrealized (Losses)
   
Fair Value
 
   
(Dollars in Thousands)
 
Debt securities
                       
Trust preferred and corporate securities
  $ 30,582     $ -     $ (8,470 )   $ 22,112  
Obligations of states and political subdivisions
    5,937       281       -       6,218  
Mortgage-backed securities
    572,467       18,591       (140 )     590,918  
Total debt securities
  $ 608,986     $ 18,872     $ (8,610 )   $ 619,248  
 
Included in securities available for sale are trust preferred securities (“TPS”) as follows:
 
At June 30, 2012
                       
               
Unrealized
 
S&P
Moody
 
Issuer(1)
 
Book Value
   
Fair Value
   
(Loss)
 
Credit Rating
Credit Rating
 
   
(Dollars in Thousands)
       
                         
Key Corp. Capital I
  $ 4,983     $ 3,811     $ (1,172 )
 BBB-
 Baa3
 
Huntington Capital Trust II SE
    4,973       3,810       (1,163 )
 BB+
 Baa3
 
PNC Capital Trust
    4,956       4,002       (954 )
 BBB
 Baa2
 
Total
  $ 14,912     $ 11,623     $ (3,289 )      
 

 
(1)
Trust preferred securities are single-issuance.  There are no known deferrals, defaults or excess subordination with respect to such securities.

MetaBank accepted a redemption offer on two corporate TPS available for sale during the quarter ended June 30, 2012.  This resulted in a $10.0 million reduction of substandard assets and the recording of a pre-tax loss of $1.4 million, but increased book value by $1.5 million pre-tax at June 30, 2012 as the redemption price was higher than the market price reflected in equity.
 
 
20


Gross unrealized losses and fair value, aggregated by investment category and length of time that individual securities have been in continuous unrealized loss position at June 30, 2012 and September 30, 2011, are as follows:

   
LESS THAN 12 MONTHS
   
OVER 12 MONTHS
   
TOTAL
 
   
Fair
   
Unrealized
   
Fair
   
Unrealized
   
Fair
   
Unrealized
 
June 30, 2012
 
Value
   
(Losses)
   
Value
   
(Losses)
   
Value
   
(Losses)
 
   
(Dollars in Thousands)
 
Debt securities
                                   
Trust preferred and corporate securities
  $ 14,645     $ (188 )   $ 11,623     $ (3,289 )   $ 26,268     $ (3,477 )
Asset backed securities
    21,085       (234 )     -       -       21,085       (234 )
Agency securities
    39,335       (66 )     -       -       39,335       (66 )
Obligations of states and political subdivisions
    1,644       (15 )     -       -       1,644       (15 )
Mortgage-backed securities
    94,839       (609 )     -       -       94,839       (609 )
Total debt securities
  $ 171,548     $ (1,112 )   $ 11,623     $ (3,289 )   $ 183,171     $ (4,401 )
 
 
   
LESS THAN 12 MONTHS
   
OVER 12 MONTHS
   
TOTAL
 
   
Fair
   
Unrealized
   
Fair
   
Unrealized
   
Fair
   
Unrealized
 
September 30, 2011
 
Value
   
(Losses)
   
Value
   
(Losses)
   
Value
   
(Losses)
 
   
(Dollars in Thousands)
 
Debt securities
                                   
Trust preferred and corporate securities
  $ 5,713     $ (42 )   $ 16,399     $ (8,428 )   $ 22,112     $ (8,470 )
Obligations of states and political subdivisions
    -       -       -       -       -       -  
Mortgage-backed securities
    23,886       (140 )     -       -       23,886       (140 )
Total debt securities
  $ 29,599     $ (182 )   $ 16,399     $ (8,428 )   $ 45,998     $ (8,610 )

Management has implemented a process to identify securities that could potentially have a credit impairment that is other-than-temporary. This process involves evaluating the length of time and extent to which the fair value has been less than the amortized cost basis, reviewing available information regarding the financial position of the issuer, monitoring the rating of the security and projecting cash flows. Other factors, but not necessarily all, considered are:  that the risk of loss is minimized and easier to determine due to the single-issuer, rather than pooled, nature of the individual securities; the financial condition of issuer; and whether there have been any payment deferrals or defaults to-date.  Such factors are subject to change over time.

Management also determines if it is more likely than not the Company will be required to sell the security before the recovery of its amortized cost basis which, in some cases, may extend to maturity. To the extent we determine that a security is deemed to be other-than-temporarily impaired, an impairment loss is recognized in earnings.

For all securities that are considered temporarily impaired, the Company does not intend to sell these securities (has not made a decision to sell) and it is not more likely than not that the Company will be required to sell the security before recovery of its amortized cost basis, which may occur at maturity. The Company believes that it will collect all principal and interest due on all investments that have amortized cost in excess of fair value that are considered only temporarily impaired.

At June 30, 2012, the investment portfolio included securities with current unrealized losses which have existed for longer than one year.  All of these securities are considered to be acceptable credit risks.  Because the declines in fair value were due to changes in market interest rates and other market factors, not in estimated cash flows, no other-than-temporary impairment was recorded at June 30, 2012.  In addition, the Company has the intent and ability to hold these investment securities for a period of time sufficient to allow for an anticipated recovery.
 
 
21


NOTE 6.
COMMITMENTS AND CONTINGENCIES

At both June 30, 2012 and September 30, 2011, the Company had outstanding commitments to originate and purchase loans and unused lines of credit totaling $48.0 million.  It is expected that outstanding loan commitments will be funded with existing liquid assets.  At June 30, 2012, the Company had two commitments to purchase securities available for sale totaling $0.5 million.

Legal Proceedings
 
In re Meta Financial Group, Inc., Securities Litigation; Case No. C10-4108MWB. Two former stockholders filed separate purported class action lawsuits against the Company and certain of its officers alleging violations of certain federal securities laws. The cases were filed on October 22, 2010 and November 5, 2010 in the United States District Court for the Northern District of Iowa purportedly on behalf of those who purchased the Company's stock between May 14, 2009 and October 15, 2010. On January 12, 2011, Judge Mark W. Bennett appointed The Eden Partnership lead plaintiff and on March 14, 2011 Eden Partnership filed its amended complaint. The amended complaint alleges that the named officers violated Sections 10(b) and 20(a) of the Securities Exchange Act and SEC Rule 10b-5 in connection with certain allegedly false and misleading public statements made between May 14, 2009 and October 15, 2010 by the Company and its officers. Defendants moved to dismiss the amended complaint in its entirety but on July 18, 2011, the court denied the motion and ordered that discovery proceed. The parties conducted a mediation on December 5, 2011 and reached a tentative settlement of the matter. On March 8, 2012, the court preliminarily approved the terms of the settlement, directed that notice of the settlement be provided to all prospective class members and set the case for a final fairness hearing on June 29, 2012.  At the June 29 hearing, the court entered an order approving the settlement, and the case was dismissed with prejudice.  The Company did not incur losses in addition to the amounts that it had previously expensed.
 
Brown v. Haahr, et al., CL 123931.  On December 9, 2011, a stockholder derivative complaint was filed in the Iowa District Court for Polk County against certain officers and directors of the Company. The suit alleges that named parties breached their fiduciary duties to the Company by, among other things, making statements between May, 2009 and October, 2010, which plaintiff claims were false and misleading and by allegedly failing to implement adequate internal controls and means of supervision at the Company.  The individual defendants intend to vigorously defend the suit.  The parties have reached a settlement subject to court approval.  The Company expects to incur an expense of $0.1 million in addition to amounts previously expensed.
 
James L. Frey, individually and on behalf of all others similarly situated v. Legacy Stonebriar Hotel, Ltd. Dba Westin Stonebriar Hotel and Meta Financial Group, Inc., Case No. 4:11-cv-122 and James Buechler v. Meta Financial Group, Inc., MetaBank, Meta Payment Systems, and Does 1-10, inclusive, Case No. 1:12-cv-01568-WMN, filed in the United States District Court for the District of Maryland; and Douglas Johnson on behalf of himself and all others similarly situated, v. Smarte Cash International, Inc., and Meta Financial Group, Inc. a/k/a MetaBank, Case No. 12-cv-00923-DWF-FLN; and Douglas Johnson on behalf of himself and all others similarly situated, v. Fairmont Hotels & Resorts (U.S.), Inc. and Meta Financial Group, Inc., a/k/a MetaBank, Case No. 1:12-cv-11338.  In addition to the previously disclosed ATM lawsuits, there were four additional lawsuits filed concerning ATMs sponsored by the Bank, each involving claims that a notification required to be placed upon an automated teller machine was absent on a specific date, in violation of Regulation E of the Electronic Fund Transfer Act.  The cases were filed in the United States District Court for the Eastern District of Texas, Sherman Division and filed in the United States District Court for the District of Massachusetts.  The Company denies liability in these matters, and will contest these lawsuits with the ATM operators, which are each obligated to indemnify the Company for losses, costs and expenses in these matters.  An estimate of a range of possible loss cannot be made at this stage of the litigation because the extent of the Company’s indemnification by the ATM operators is unknown.
 
 
22


Richard J. Strauss, M.D., on behalf of himself and all others similarly situated, v. MetaBank, Index No. 3481/12.  A class action complaint has been filed in the Supreme Court of the State of New York, County of Nassau.  The complaint alleges that the plaintiff was the holder of two gift cards issued by the Bank.  The complaint further alleges that after the expiration date on the cards, plaintiff’s attempts to obtain replacement cards were unsuccessful due to the Bank’s refusal to issue replacement cards.  The Complaint contains several causes of action including breach of contract and violation of New York state law.  The Company denies liability in these matters and intends to vigorously defend the suit.  An estimate of a range of possible loss cannot be made at this early stage of the litigation.

Patrick Finn and Light House Management Group, Inc. as Receiver for First United Funding, LLC and Corey N. Johnston v. MetaBank et al., Case No. 5:11-cv-04041.  On May 4, 2011, Patrick Finn and Light House Management Group, Inc. as Receivers for First United Funding, LLC and Corey N. Johnston (“Receivers”) filed a complaint, against the Bank in the United States District Court for the Northern District of Iowa requesting judgment avoiding approximately $1.5 million of transfers that allegedly resulted in a profit to the Bank arising from the Bank’s participation in loans originated by First United Funding, LLC.  Similar complaints have been filed by the Receivers against other lenders who purchased participation interests in the same or similar loans originated by First United Funding, LLC.  The complaint states that First United Funding, LLC and Corey N. Johnston were involved in a criminal enterprise to defraud creditors.  Under a variety of theories, Receivers claim that loan repayments to the Bank constitute fraudulent transfers and the Bank was unjustly enriched to the detriment of these creditors.  The Bank intends to vigorously defend the case.  An estimate of a range of reasonably possible loss is approximately $0 to $1.5 million as of the filing date of this Form 10-Q.

Indemnification Recovery Litigation.  The Bank utilizes various third parties for, among other things, its processing needs, both with respect to standard bank operations and with respect to its MPS division.  MPS was notified in April 2008 by one of the processors that the processor's computer system had been breached, which led to the unauthorized load and spending of funds from Bank-issued cards.  The Bank believes the amount in question to be approximately $2.0 million.  The processor and program manager both have agreements with the Bank to indemnify it for any losses as a result of such unauthorized activity, and the matter is reflected as such in its financial statements.  In addition, the Bank has given notice to its own insurer.  The Bank has been notified by the processor that its insurer has denied the claim filed.  The Bank made demand for payment and filed a demand for arbitration to recover the unauthorized loading and spending amounts and certain damages.  The Bank has settled its claim with the program manager, and has received an arbitration award against the processor.  That arbitration has been entered as a judgment in the State of South Dakota, which judgment has been transferred to the State of Florida for garnishment proceedings against the processor and its insurer.  The Company’s estimate of a range of reasonably possible loss is approximately $0 to $0.5 million as of the filing date of this Form 10-Q.

Springbok Services, Inc. Client Claim.  Certain corporate clients of an unrelated company named Springbok Services, Inc. (“Springbok”) requested through counsel a mediation as a means of reaching a settlement in lieu of commencing litigation against the Bank.  The results of that mediation have not led to a settlement.  These claimants purchased the Bank prepaid reward cards from Springbok, prior to Springbok’s bankruptcy.  As a result of Springbok’s bankruptcy and cessation of business, some of the rewards cards which had been purchased were never activated or funded.  Counsel for the corporate clients of Springbok have indicated that they are prepared to assert claims totaling approximately $1.5 million against the Bank based on principal/agency or failure to supervise theories.  The Company denies liability with respect to these claims.  The Company’s estimate of a range of reasonably possible loss is approximately $0 to $0.3 million.

Other than the matters set forth above, there are no other new material pending legal proceedings or updates to which the Company or its subsidiaries is a party other than ordinary litigation routine to their respective business.
 
 
23


NOTE 7.
STOCK OPTION PLAN

The Company maintains the 2002 Omnibus Incentive Plan, which, among other things, provides for the awarding of stock options and nonvested (restricted) shares to certain officers and directors of the Company.  Awards are granted by the Stock Option Committee of the Board of Directors based on the performance of the award recipients or other relevant factors.

In accordance with ASC 718, Compensation – Stock Compensation, compensation expense for share based awards is recorded over the vesting period at the fair value of the award at the time of grant.  The exercise price of options or fair value of nonvested shares granted under the Company’s incentive plans is equal to the fair market value of the underlying stock at the grant date.  The Company assumes no projected forfeitures on its stock based compensation, since actual historical forfeiture rates on its stock based incentive awards has been negligible.

A summary of option activity for the nine months ended June 30, 2012 is presented below:

               
Weighted
       
         
Weighted
   
Average
       
   
Number
   
Average
   
Remaining
   
Aggregate
 
   
of
   
Exercise
   
Contractual
   
Intrinsic
 
   
Shares
   
Price
   
Term (Yrs)
   
Value
 
   
(Dollars in Thousands, Except Share and Per Share Data)
 
                         
Options outstanding, September 30, 2011
    485,352     $ 23.28       5.90     $ 463  
Granted
    -       -                  
Exercised
    (12,918 )     15.40                  
Forfeited or expired
    (72,859 )     24.15                  
Options outstanding, June 30, 2012
    399,575     $ 23.38       5.24     $ 464  
                                 
Options exercisable, June 30, 2012
    382,700     $ 23.38       5.25     $ 432  

The Company had no outstanding nonvested shares at June 30, 2012 or September 30, 2011.  In addition, there was no grant activity for the nine months ended June 30, 2012.

At June 30, 2012, stock based compensation expense not yet recognized in income totaled $27,000 which is expected to be recognized over a weighted average remaining period of 0.82 years.

NOTE 8.
SEGMENT INFORMATION

An operating segment is generally defined as a component of a business for which discrete financial information is available and whose results are reviewed by the chief operating decision-maker. Operating segments are aggregated into reportable segments if certain criteria are met.  The Company has determined that it has two reportable segments.  The first reportable segment, Retail Banking, a division of the Bank, operates as a traditional community bank providing deposit, loan and other related products to individuals and small businesses, primarily in the communities where their offices are located.  The second reportable segment, MPS, a division of the Bank, provides products and services to financial institutions and other businesses.  These products and services include issuance of prepaid debit cards, sponsorship of ATMs into the debit networks, credit programs, ACH origination services, gift card programs, rebate programs, travel programs and tax related programs.  Other programs are in the process of development.  The remaining grouping under the caption “All Others” consists of the operations of the Company and inter-segment eliminations.  Transactions between affiliates, the resulting revenues of which are shown in the intersegment revenue category, are conducted at market prices, meaning prices that would be paid if the companies were not affiliates.
 
 
24


The following tables present segment data for the Company for the three and nine months ended June 30, 2012 and 2011, respectively.

   
Retail
   
Meta Payment
             
   
Banking
   
Systems®
   
All Others
   
Total
 
                         
Three Months Ended June 30, 2012
                       
Interest income
  $ 5,981     $ 3,168     $ -     $ 9,149  
Interest expense
    670       64       123       857  
Net interest income (expense)
    5,311       3,104       (123 )     8,292  
Provision (recovery) for loan losses
    150       -       -       150  
Non-interest income
    1,526       12,172       8       13,706  
Non-interest expense
    4,878       13,208       (15 )     18,071  
Income (loss) before tax
    1,809       2,068       (100 )     3,777  
Income tax expense (benefit)
    642       792       (44 )     1,390  
Net income (loss)
  $ 1,167     $ 1,276     $ (56 )   $ 2,387  
                                 
Inter-segment revenue (expense)
  $ 2,846     $ (2,846 )   $ -     $ -  
Total assets
    321,727       1,205,016       1,939       1,528,682  
Total deposits
    212,713       1,139,229       (1,403 )     1,350,539  
 
 
   
Retail
   
Meta Payment
             
   
Banking
   
Systems®
   
All Others
   
Total
 
                         
Three Months Ended June 30, 2011
                       
Interest income
  $ 7,157     $ 2,823     $ -     $ 9,980  
Interest expense
    1,005       33       115       1,153  
Net interest income (expense)
    6,152       2,790       (115 )     8,827  
Provision (recovery) for loan losses
    100       (261 )     -       (161 )
Non-interest income
    497       8,199       12       8,708  
Non-interest expense
    4,941       14,312       59       19,312  
Income (loss) before tax
    1,608       (3,062 )     (162 )     (1,616 )
Income tax expense (benefit)
    605       (1,135 )     (66 )     (596 )
Net income (loss)
  $ 1,003     $ (1,927 )   $ (96 )   $ (1,020 )
                                 
Inter-segment revenue (expense)
  $ 2,332     $ (2,332 )   $ -     $ -  
Total assets
    317,464       755,058       1,958       1,074,480  
Total deposits
    217,977       710,927       (315 )     928,589  
 
 
25

 
   
Retail
   
Meta Payment
             
   
Banking
   
Systems®
   
All Others
   
Total
 
                         
Nine Months Ended June 30, 2012
                       
Interest income
  $ 19,629     $ 9,434     $ -     $ 29,063  
Interest expense
    2,218       145       359       2,722  
Net interest income (expense)
    17,411       9,289       (359 )     26,341  
Provision (recovery) for loan losses
    1,050       (1 )     -       1,049  
Non-interest income
    14,477       41,667       25       56,169  
Non-interest expense
    15,031       41,911       133       57,075  
Income (loss) before tax
    15,807       9,046       (467 )     24,386  
Income tax expense (benefit)
    5,798       3,330       (190 )     8,938  
Net income (loss)
  $ 10,009     $ 5,716     $ (277 )   $ 15,448  
                                 
Inter-segment revenue (expense)
  $ 8,835     $ (8,835 )   $ -     $ -  
Total assets
    321,727       1,205,016       1,939       1,528,682  
Total deposits
    212,713       1,139,229       (1,403 )     1,350,539  
 
 
   
Retail
   
Meta Payment
             
   
Banking
   
Systems®
   
All Others
   
Total
 
                         
Nine Months Ended June 30, 2011
                       
Interest income
  $ 20,321     $ 8,853     $ 6     $ 29,180  
Interest expense
    3,186       120       352       3,658  
Net interest income (expense)
    17,135       8,733       (346 )     25,522  
Provision (recovery) for loan losses
    400       (375 )     -       25  
Non-interest income
    2,906       40,543       35       43,484  
Non-interest expense
    17,159       46,672       350       64,181  
Income (loss) before tax
    2,482       2,979       (661 )     4,800  
Income tax expense (benefit)
    1,460       1,150       (258 )     2,352  
Net income (loss)
  $ 1,022     $ 1,829     $ (403 )   $ 2,448  
                                 
Inter-segment revenue (expense)
  $ 7,220     $ (7,220 )   $ -     $ -  
Total assets
    317,464       755,058       1,958       1,074,480  
Total deposits
    217,977       710,927       (315 )     928,589  

 
26

 
The following tables present gross profit data for MPS for the three and nine months ended June 30, 2012 and 2011.

Three Months Ended June 30,
 
2012
   
2011
 
             
Interest income
  $ 3,168     $ 2,823  
Interest expense
    64       33  
Net interest income
    3,104       2,790  
Provision (recovery) for loan losses
    -       (261 )
Non-interest income
    12,172       8,199  
Card processing expense
    3,665       5,878  
Gross Profit
    11,611       5,372  
                 
Other non-interest expense
    9,543       8,434  
                 
Income (loss) before tax
    2,068       (3,062 )
Income tax expense (benefit)
    792       (1,135 )
Net Income (Loss)
  $ 1,276     $ (1,927 )
 
 
Nine Months Ended June 30,
 
2012
   
2011
 
             
Interest income
  $ 9,434     $ 8,853  
Interest expense
    145       120  
Net interest income
    9,289       8,733  
Provision (recovery) for loan losses
    (1 )     (375 )
Non-interest income
    41,667       40,543  
Card processing expense
    13,928       19,222  
Gross Profit
    37,029       30,429  
                 
Other non-interest expense
    27,983       27,450  
                 
Income (loss) before tax
    9,046       2,979  
Income tax expense (benefit)
    3,330       1,150  
Net Income (Loss)
  $ 5,716     $ 1,829  

NOTE 9.
NEW ACCOUNTING PRONOUNCEMENTS

 Accounting Standards Update No. 2011-03, Transfers and Servicing (Topic 860): Reconsideration of Effective Control for Repurchase Agreements
This ASU applies to all entities that enter into agreements to transfer financial assets that both entitle and obligate the transferor to repurchase or redeem the financial assets before their maturity (repo arrangements). It focuses the transferor’s assessment of effective control of its contractual rights and obligations by removing the requirement to assess its ability to exercise those rights or honor those obligations. The ASU is effective for the first interim or annual period beginning on or after December 15, 2011. It is effective prospectively for transactions or modifications of existing transactions that occur on or after the effective date. The Company adopted this ASU in the second quarter of fiscal year 2012 and the adoption did not have a material effect on the Company’s consolidated financial condition, results of operations or cash flow.
 
 
27


Accounting Standards Update No. 2011-04, Fair Value Measurement (Topic 820): Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRS
This ASU was issued concurrently with IFRS 13, Fair Value Measurements, to provide largely identical guidance about fair value measurement and disclosure requirements. The new standards do not extend the use of fair value but, rather, provide guidance about how fair value should be applied where it already is required or permitted under IFRS or U.S. GAAP. For U.S. GAAP, most of the changes are clarifications of existing guidance or wording changes to align with IFRS 13.

A public entity is required to apply this ASU prospectively for interim and annual periods beginning after December 15, 2011. Early adoption is not permitted.  In the period of adoption, a reporting entity will be required to disclose a change, if any, in valuation technique and related inputs that result from applying the ASU and to quantify the total effect, if practicable.  The Company adopted this ASU in the second quarter of fiscal year 2012 and the adoption did not have a material effect on the Company’s consolidated financial condition, results of operations or cash flow.

Accounting Standards Update No. 2011-05, Comprehensive Income (Topic 220): Presentation of Comprehensive Income
In June 2011, FASB issued ASU 2011-05 Comprehensive Income, which provides an entity with the option to present the total comprehensive income, the components of net income and the components of other comprehensive income either in a single continuous statement of comprehensive income or in two separate but consecutive statements.  In December 2011, FASB issued ASU 2011-12, Deferral of the Effective Date for Amendments to the Presentation of Reclassifications of Items Out of Accumulated Other Comprehensive Income in Accounting Standards Update No. 2011-05.  ASU 2011-12 temporarily defers the effective date of the requirement in ASU 2011-05 to present separate line items on the income statement for reclassification adjustments of items out of accumulated other comprehensive income into net income.  The guidance in ASU 2011-05, as amended by ASU 2011-12, is effective for fiscal years, and the interim periods within those years, beginning after December 15, 2011 and early adoption is permitted.  The Company anticipates adopting this update in the first quarter of fiscal 2013 and does not expect the adoption to have a material effect on the Company’s consolidated financial condition, results of operations or cash flow.

Accounting Standards Update No.  2011-08, Intangibles — Goodwill and Other (Topic 350)
The objective of this update is to simplify how entities test goodwill for impairment. This update adds a qualitative analysis to step one of the two-step process, which enables the Company to qualitatively determine if it is more likely than not that the fair value of a reporting unit is less than its carrying amount, and if not, skip the two step test for goodwill impairment.  The guidance is effective for annual and interim goodwill impairment tests performed for fiscal years beginning after December 15, 2011, but early adoption is permitted.  The Company anticipates adopting this update in the first quarter of fiscal year 2013 and does not expect the adoption to have a material effect on the Company’s consolidated financial condition, results of operations or cash flow.

NOTE 10.
FAIR VALUE MEASUREMENTS

ASC 820, Fair Value Measurements defines fair value, establishes a framework for measuring the fair value of assets and liabilities using a hierarchy system and expands disclosures about fair value measurement.  It clarifies that fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants in the market in which the reporting entity transacts.

The fair value hierarchy is as follows:

Level 1 Inputs – Valuation is based upon quoted prices for identical instruments traded in active markets that the Company has the ability to access at measurement date.
 
 
28


Level 2 Inputs – Valuation is based upon quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active markets and model-based valuation techniques for which significant assumptions are observable in the market.

Level 3 Inputs – Valuation is generated from model-based techniques that use significant assumptions not observable in the market and are used only to the extent that observable inputs are not available.  These unobservable assumptions reflect the Company’s own estimates of assumptions that market participants would use in pricing the asset or liability.  Valuation techniques include use of option pricing models, discounted cash flow models and similar techniques.

A description of the valuation methodologies used for instruments measured at fair value, as well as the general classification of such instruments pursuant to the valuation hierarchy, is set forth below.

Securities Available for Sale.  Securities available for sale are recorded at fair value on a recurring basis.  Fair value measurement is based upon quoted prices, if available.  If quoted prices are not available, fair values are measured using an independent pricing service.  Level 1 securities include those traded on an active exchange, such as the New York Stock Exchange, as well as U.S. Treasury and other U.S. government and agency securities that are traded by dealers or brokers in active over-the-counter markets.  The Company had no Level 1 or Level 3 securities at June 30, 2012 or September 30, 2011.  Level 2 securities include agency mortgage-backed securities, asset-backed securities, callable agency securities, municipal bonds and corporate debt securities.

The fair values of securities available for sale are determined by obtaining quoted prices on nationally recognized securities exchanges (Level 1 inputs), or matrix pricing, which is a mathematical technique widely used in the industry to value debt securities without relying exclusively on quoted prices for the specific securities, but rather by relying on the securities’ relationship to other benchmark quoted securities (Level 2 inputs). The Company obtains, reviews and compares the valuations and methodologies from two third party providers.  These third party providers utilize several sources for valuing fixed-income securities. Sources utilized by the third party provider include pricing models that vary based by asset class and include available trade, bid, and other market information. This methodology includes broker quotes, proprietary models, descriptive terms and conditions databases, as well as extensive quality control programs.
 
 
29


The following table summarizes the assets of the Company for which fair values are determined on a recurring basis at June 30, 2012 and September 30, 2011.

   
Fair Value at June 30, 2012
 
(Dollars in Thousands)
 
Total
   
Level 1
   
Level 2
   
Level 3
 
Debt securities
                       
Trust preferred and corporate securities
  $ 74,472     $ -     $ 74,472     $ -  
Asset backed securities
    21,085       -       21,085       -  
Agency securities
    39,335       -       39,335       -  
Obligations of states and political subdivisions
    17,611       -       17,611       -  
Mortgage-backed securities
    815,888       -       815,888       -  
Securities available for sale
  $ 968,391     $ -     $ 968,391     $ -  
 
 
   
Fair Value at September 30, 2011
 
(Dollars in Thousands)
 
Total
   
Level 1
   
Level 2
   
Level 3
 
Debt securities
                       
Trust preferred and corporate securities
  $ 22,112     $ -     $ 22,112     $ -  
Obligations of states and political subdivisions
    6,218       -       6,218       -  
Mortgage-backed securities
    590,918       -       590,918       -  
Securities available for sale
  $ 619,248     $ -     $ 619,248     $ -  

The Company’s management reviews the status and potential impairment of all securities in a loss position on a monthly basis.  In its review, management considers duration of unrealized losses and reviews credit rating changes.  Other factors, but not necessarily all, considered are:  that the risk of loss is minimized and easier to determine due to the single-issuer, rather than pooled, nature of the individual securities, the financial condition of the issuer, and whether there have been any payment deferrals or defaults to-date.  Such factors are subject to change over time.
 
Foreclosed Real Estate and Repossessed Assets.  Real estate properties and repossessed assets are initially recorded at the fair value less selling costs at the date of foreclosure, establishing a new cost basis.  The carrying amount represents the lower of the new cost basis or the fair value less selling costs.
 
Loans.  The Company does not record loans at fair value on a recurring basis.  However, if a loan is considered 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 in accordance with ASC 310, Receivables.
 
 
30

 
The following table summarizes the assets of the Company for which fair values are determined on a non-recurring basis at June 30, 2012 and September 30, 2011.

   
Fair Value at June 30, 2012
 
(Dollars in Thousands)
 
Total
   
Level 1
   
Level 2
   
Level 3
 
Impaired Loans, net
                       
One to four family residential mortgage loans
  $ 74     $ -     $ -     $ 74  
Commercial and multi-family real estate loans
    9,673       -       -       9,673  
Consumer loans
    1       -       -       1  
Commercial operating loans
    76       -       -       76  
Total Impaired Loans
    9,824       -       -       9,824  
Foreclosed Assets, net
    861       -       -       861  
Total
  $ 10,685     $ -     $ -     $ 10,685  
 
 
   
Fair Value at September 30, 2011
 
(Dollars in Thousands)
 
Total
   
Level 1
   
Level 2
   
Level 3
 
Impaired Loans, net
  $ 11,333     $ -     $ -     $ 11,333  
Foreclosed Assets, net
    2,671       -       -       2,671  
Total
  $ 14,004     $ -     $ -     $ 14,004  
 
 
   
Quantitative Information About Level 3 Fair Value Measurements
 
(Dollars in Thousands)
 
Fair Value at 6/30/12
 
Valuation Technique
Unobservable Input
 
             
Impaired Loans, net
  $ 9,824  
Market approach
Appraised values (1)
 
Foreclosed Assets, net
    861  
Market approach
Appraised values (1)
 
 
(1)
The Company generally relies on external appraisers to develop this information.  Management reduced the appraised value by estimated selling costs in a range of 4% to 10%.

The following table discloses the Company’s estimated fair value amounts of its financial instruments.  It is management’s belief that the fair values presented below are reasonable based on the valuation techniques and data available to the Company at June 30, 2012 and September 30, 2011, as more fully described below.  The operations of the Company are man­aged from a going concern basis and not a liquidation basis.  As a result, the ultimate value realized for the finan­cial instruments presented could be substantially different when actually recognized over time through the normal course of operations.  Additionally, a substantial portion of the Company’s inherent value is the Bank’s capitalization and franchise value.  Neither of these components have been given consideration in the presentation of fair values below.
 
 
31


The following presents the carrying amount and estimated fair value of the financial instruments held by the Company at June 30, 2012 and September 30, 2011.  The information presented is subject to change over time based on a variety of factors.

   
June 30, 2012
 
   
Carrying
   
Estimated
                   
   
Amount
   
Fair Value
   
Level 1
   
Level 2
   
Level 3
 
   
(Dollars in Thousands)
 
Financial assets
                             
Cash and cash equivalents
  $ 166,435     $ 166,435     $ 166,435     $ -     $ -  
Securities available for sale
    968,391       968,391       -       968,391       -  
Loans receivable, net:
                                       
One to four family residential mortgage loans
    43,973       45,734       -       -       45,734  
Commercial and multi-family real estate loans
    191,415       192,295       -       -       192,295  
Agricultural real estate loans
    20,572       21,830       -       -       21,830  
Consumer loans
    39,059       39,524       -       -       39,524  
Consumer loans held for sale
    2,306       2,306       -       2,306       -  
Commercial operating loans
    15,023       14,982       -       -       14,982  
Agricultural operating loans
    25,132       26,076       -       -       26,076  
Total loans receivable, net
    337,480       342,747       -       2,306       340,441  
                                         
FHLB stock
    2,120       2,120       -       2,120       -  
Accrued interest receivable
    5,865       5,865       5,865       -       -  
                                         
Financial liabilities
                                       
Noninterest bearing demand deposits
    1,153,027       1,153,027       1,153,027       -       -  
Interest bearing demand deposits, savings, and money markets
    96,641       96,641       96,641       -       -  
Certificates of deposit
    100,871       101,883       -       101,883       -  
Total deposits
    1,350,539       1,351,551       1,249,668       101,883       -  
                                         
Advances from FHLB
    11,000       14,184       -       14,184       -  
Securities sold under agreements to repurchase
    27,314       27,314       -       27,314       -  
Subordinated debentures
    10,310       10,321       -       10,321       -  
Accrued interest payable
    216       216       216       -       -  
                                         
Off-balance-sheet instruments, loan commitments
    -       -       -       -       -  
 
 
32

 
   
September 30, 2011
 
   
Carrying
   
Estimated
 
   
Amount
   
Fair Value
 
   
(Dollars in Thousands)
 
Financial assets
           
Cash and cash equivalents
  $ 276,893     $ 276,893  
Securities available for sale
    619,248       619,248  
Loans receivable, net:
    314,410       316,152  
FHLB stock
    4,737       4,737  
Accrued interest receivable
    4,133       4,133  
                 
Financial liabilities
               
Noninterest bearing demand deposits
    945,956       945,956  
Interest bearing demand deposits, savings, and money markets
    79,102       79,102  
Certificates of deposit
    116,562       118,288  
Total deposits
    1,141,620       1,143,346  
                 
Advances from FHLB
    11,000       14,128  
Securities sold under agreements to repurchase
    8,055       8,055  
Subordinated debentures
    10,310       10,325  
Accrued interest payable
    223       223  
                 
Off-balance-sheet instruments, loan commitments
    -       -  

The following sets forth the methods and assumptions used in determining the fair value estimates for the Company’s financial instruments at June 30, 2012 and September 30, 2011.

CASH AND CASH EQUIVALENTS
The carrying amount of cash and short-term investments is assumed to approximate the fair value.

SECURITIES AVAILABLE FOR SALE
Securities available for sale are recorded at fair value on a recurring basis.  Fair values for investment securities are based on obtaining quoted prices on nationally recognized securities exchanges, or matrix pricing, which is a mathematical technique widely used in the industry to value debt securities without relying exclusively on quoted prices for the specific securities, but rather by relying on the securities’ relationship to other benchmark quoted securities.

LOANS RECEIVABLE, NET
The fair value of loans is estimated using an entrance price concept.  The fair value of loans was estimated by discounting the future cash flows using the current rates at which similar loans would be made to borrowers with similar credit ratings and for similar remaining maturities.  When using the discounting method to determine fair value, loans were gathered by homogeneous groups with similar terms and conditions and discounted at a target rate at which similar loans would be made to borrowers at June 30, 2012 and September 30, 2011.  In addition, when computing the estimated fair value for all loans, allowances for loan losses have been subtracted from the calculated fair value for consideration of credit quality.

Loans held for sale are carried at the lower of cost or fair market value.  The carrying value of these loans approximate fair market value as they are generally sold at par within days of their origination.
 
 
33


FEDERAL HOME LOAN BANK (THE “FHLB”) STOCK
The fair value of such stock is assumed to approximate book value since the Company is generally able to redeem this stock at par value.

ACCRUED INTEREST RECEIVABLE
The carrying amount of accrued interest receivable is assumed to approximate the fair value.

DEPOSITS
The carrying values of non-interest bearing checking deposits, interest bearing checking deposits, savings, and money markets is assumed to approximate fair value, since such deposits are immediately withdrawable without penalty.  The fair value of time certificates of deposit was estimated by discounting expected future cash flows by the current rates offered on certificates of deposit with similar remaining maturities.

In accordance with ASC 825, Financial Instruments, no value has been assigned to the Company’s long-term relationships with its deposit customers (core value of deposits intangible) since such intangible is not a financial instrument as defined under ASC 825.

ADVANCES FROM FHLB
The fair value of such advances was estimated by discounting the expected future cash flows using current interest rates at June 30, 2012 and September 30, 2011 for advances with similar terms and remaining maturities.

SECURITIES SOLD UNDER AGREEMENTS TO REPURCHASE AND SUBORDINATED
DEBENTURES
The carrying amount of securities sold under agreements to repurchase is assumed to approximate fair value.  The fair value of subordinated debentures was estimated by discounting the expected future cash flows using derived interest rates approximating market as of June 30, 2012 and September 30, 2011 over the contractual maturity of such borrowings.

ACCRUED INTEREST PAYABLE
The carrying amount of accrued interest payable is assumed to approximate the fair value.

LOAN COMMITMENTS
The commitments to originate and purchase loans have terms that are consistent with current market terms.  Accordingly, the Company estimates that the fair values of these commitments are not significant.

LIMITATIONS
It must be noted that fair value estimates are made at a specific point in time, based on relevant market information about the financial instrument.  Additionally, fair value estimates are based on existing on- and off-balance sheet financial instruments without attempting to estimate the value of anticipated future business, customer relationships and the value of assets and liabilities that are not considered financial instruments.  These estimates do not reflect any premium or discount that could result from offering the Company’s entire holdings of a particular financial instrument for sale at one time.  Furthermore, since no market exists for certain of the Company’s financial instruments, fair value estimates may be based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments and other factors.  These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with a high level of precision.  Changes in assumptions as well as tax considerations could significantly affect the estimates.  Accordingly, based on the limitations described above, the aggregate fair value estimates are not intended to represent the underlying value of the Company, on either a going concern or a liquidation basis.
 
 
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NOTE 11.
GOODWILL AND INTANGIBLE ASSETS

The changes in the carrying amount of the Company’s goodwill and intangible assets for the nine months ended June 30, 2012 and 2011 are as follows:

   
Retail
   
Meta Payment
   
Meta Payment
       
   
Banking
   
Systems®
   
Systems®
       
   
Goodwill
   
Patents
   
Other
   
Total
 
   
(Dollars in Thousands)
 
                         
Balance as of September 30, 2011
  $ -     $ 1,315     $ -     $ 1,315  
                                 
Acquisitions during the period
    -       733       27       760  
                                 
Amortization during the period
    -       (11 )     (11 )     (22 )
                                 
Write-offs during the period
    -       (4 )     -       (4 )
                                 
Balance as of June 30, 2012
  $ -     $ 2,033     $ 16     $ 2,049  
 
 
   
Retail
   
Meta Payment
   
Meta Payment
       
   
Banking
   
Systems®
   
Systems®
       
   
Goodwill
   
Patents
   
Other
   
Total
 
   
(Dollars in Thousands)
 
                         
Balance as of September 30, 2010
  $ 1,508     $ 1,078     $ 77     $ 2,663  
                                 
Acquisitions during the period
    -       330       -       330  
                                 
Amortization during the period
    -       -       (77 )     (77 )
                                 
Write-offs during the period
    (1,508 )     -       -       (1,508 )
                                 
Balance as of June 30, 2011
  $ -     $ 1,408     $ -     $ 1,408  

The Company has eleven patents which are amortizing at June 30, 2012.

The Company tests goodwill and intangible assets for impairment at least annually or more often if conditions indicate a possible impairment.  The Company wrote-off $1.5 million of goodwill through the income statement during the three months ended December 31, 2010 due primarily to the decline in the stock price of the Company during that period.

NOTE 12.
REGULATORY MATTERS AND SETTLEMENT OF OTS ENFORCEMENT ACTIONS
 
As previously disclosed in our Annual Report on Form 10-K, on July 15, 2011, the Company and the Bank each stipulated and consented to a Cease and Desist Order (the “Consent Orders”) issued by the Office of Thrift Supervision (the “OTS”).  Since the issuance of the supervisory directives and the Consent Orders, the Company and the Bank have been continuing to cooperate with the OTS, and, as of July 21, 2011, its successors, the Federal Reserve and the OCC, to correct those aspects of its operations that were addressed in the Consent Orders.  Management of the Company and the Bank believe they have made substantial progress and that the Company and the Bank are in material compliance with the Consent Orders. Notwithstanding our belief as to substantial progress and compliance, we can provide no assurances as to whether the OCC and the Federal Reserve will concur with our belief or what actions would be taken by the OCC and the Federal Reserve if they do not so concur.  Failure to conform to the requirements of the Consent Orders or the expectations of our regulators could result in material adverse consequences for the Company and the Bank.
 
 
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Item 2.

META FINANCIAL GROUP, INC®.
AND SUBSIDIARIES
 
FORWARD LOOKING STATEMENTS

Meta Financial Group, Inc.®, (“Meta Financial” or the “Company”) and its wholly-owned subsidiary, MetaBank (the “Bank” or “MetaBank”), may from time to time make written or oral “forward-looking statements,” including statements contained in its filings with the Securities and Exchange Commission (“SEC”), in its reports to stockholders, and in other communications by the Company, which are made in good faith by the Company pursuant to the “safe harbor” provisions of the Private Securities Litigation Reform Act of 1995.
 
These forward-looking statements include statements with respect to the Company’s beliefs, expectations, estimates, and intentions that are subject to significant risks and uncertainties, and are subject to change based on various factors, some of which are beyond the Company’s control.  Such statements address, among others, the following subjects: future operating results; customer retention; loan and other product demand; important components of the Company’s balance sheet and income statements; growth and expansion; new products and services, such as those offered by the Bank or Meta Payment Systems® (“MPS”), a division of the Bank; credit quality and adequacy of reserves; technology; and our employees.  The following factors, among others, could cause the Company’s financial performance to differ materially from the expectations, estimates, and intentions expressed in such forward-looking statements:  the strength of the United States economy in general and the strength of the local economies in which the Company conducts operations; the effects of, and changes in, trade, monetary, and fiscal policies and laws, including interest rate policies of the Board of Governors of the Federal Reserve System (the “Federal Reserve”), as well as efforts of the United States Treasury in conjunction with bank regulatory agencies to stimulate the economy and protect the financial system; inflation, interest rate, market, and monetary fluctuations; the timely development of and acceptance of new products and services offered by the Company as well as risks (including reputational and litigation) attendant thereto and the perceived overall value of these products and services by users; the risks of dealing with or utilizing third-party vendors; the scope of restrictions and compliance requirements imposed by the supervisory directives and/or the Consent Orders entered into by the Company and the Bank with the Office of Thrift Supervision (“OTS”) and any other such actions which may be initiated; the impact of changes in financial services’ laws and regulations, including but not limited to our relationship with our regulators, the Office of the Comptroller of the Currency (“OCC”) and the Federal Reserve; technological changes, including but not limited to the protection of electronic files or databases; acquisitions; litigation risk in general, including but not limited to those risks involving the MPS division; the growth of the Company’s business as well as expenses related thereto; changes in consumer spending and saving habits; and the success of the Company at managing and collecting assets of borrowers in default.
 
The foregoing list of factors is not exclusive.  Additional discussions of factors affecting the Company’s business and prospects are contained in the Company’s periodic filings with the SEC.  The Company expressly disclaims any intent or obligation to update any forward-looking statement, whether written or oral, that may be made from time to time by or on behalf of the Company or its subsidiaries.
 
 
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GENERAL

The Company, a registered unitary savings and loan holding company, is a Delaware corporation, the principal assets of which are all the issued and outstanding shares of the Bank, a federal savings bank.  Unless the context otherwise requires, references herein to the Company include Meta Financial and the Bank, and all subsidiaries of Meta Financial, direct or indirect, on a consolidated basis.

The Company’s stock trades on the NASDAQ Global Market under the symbol “CASH.”

The following discussion focuses on the consolidated financial condition of the Company and its subsidiaries, at June 30, 2012, compared to September 30, 2011, and the consolidated results of operations for the three and nine months ended June 30, 2012 and 2011.  This discussion should be read in conjunction with the Company's consolidated financial statements, and notes thereto, for the year ended September 30, 2011.

CORPORATE DEVELOPMENTS AND OVERVIEW OF FINANCIAL RESULTS

MPS 2012 fiscal third quarter net income was $1.3 million compared to a net loss of $1.9 million in the 2011 third quarter.  This increase was primarily the result of an increase in non-interest income of $4.0 million, primarily from an increase of card fees, an increase in net interest income of $0.3 million and a decrease in non-interest expense of $1.1 million which was partially offset by an increase in tax expense of $1.9 million and an increase of provision for loan loss of $0.3 million.

The fiscal year 2012 Retail Bank third quarter net income was $1.2 million compared to net income of $1.0 million in the 2011 third quarter.  Retail Bank checking balances continued to grow from $54.3 million at June 30, 2011 to $60.8 million, or 12%, at June 30, 2012.

During the quarter ended March 31, 2012, the Company executed a strategic sale of its Ginnie Mae securities portfolio to enhance capital levels. The securities sold comprised the entire portfolio of Ginnie Mae securities which had an amortized cost of $307.9 million, and constituted approximately 43% of the Bank’s mortgage-backed securities portfolio at December 31, 2011.  The sale resulted in the recognition of an $11.4 million gain ($7.2 million after taxes).  The resulting addition to the Bank’s capital will help to support current and expected future growth.  The Company believes it was an opportune time to realize the high value of Ginnie Mae securities given market conditions relative to Fannie Mae and Freddie Mac mortgage-backed securities.  The Company immediately replaced the sold securities with Fannie Mae securities of similar average lives.

At June 30, 2012, Non-Performing Assets have decreased by $10.1 million to $5.8 million compared to $15.9 million at September 30, 2011.

The Company intends to discontinue four of its credit sponsorship lending programs by the fourth fiscal quarter of 2012.  For the year ended September 30, 2011 and the nine months ended June 30, 2012, these relationships provided approximately $3.4 million and $2.6 million, respectively, in total revenue (interest income plus non-interest income) to the Company.  The Company believes that other sources of revenue from other developing non-sponsorship credit programs will eventually offset income that had been attributable to these relationships.

The Company raised approximately $12.8 million in additional capital, all of which qualifies as Tier 1 capital for regulatory purposes, through the issuance of 640,000 common shares through three private placement transactions during the 2012 fiscal third quarter.  These transactions will help finance growth and bolstered our regulatory capital ratios.
 
 
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MetaBank accepted a redemption offer on two corporate trust preferred securities (TPS) available for sale during this quarter.  This resulted in a $10.0 million reduction of substandard assets and the recording of a pre-tax loss of $1.4 million, but increased book value by $1.5 million pre-tax at June 30, 2012 as the redemption price was higher than the market price reflected in equity.

FINANCIAL CONDITION

At June 30, 2012, the Company’s assets grew by $253.2 million, or 19.9%, to $1.5 billion compared to $1.3 billion at September 30, 2011.  The increase in assets was reflected primarily in increases in the Company’s mortgage-backed and investment securities available for sale and, to a lesser extent, in an increase in the Company’s net loans receivable, offset in part by a decrease in cash and cash equivalents.

Total cash and cash equivalents were $166.4 million at June 30, 2012, a decrease of $110.5 million from $276.9 million at September 30, 2011.  The decline primarily was the result of the Company’s investing its excess liquidity in mortgage-backed securities and investment securities.  The Company maintains its cash equivalent investments in interest-bearing overnight deposits with the Federal Home Loan Bank of Des Moines (“FHLB”) and the Federal Reserve Bank of Chicago (“FRB”).  Federal funds sold deposits may be maintained with the FHLB.  At June 30, 2012, the Company did not have any federal funds sold.

The total of mortgage-backed securities and investment securities available for sale increased $349.1 million, or 56.4%, to $968.4 million at June 30, 2012, as purchases exceeded investment maturities, sales, and principal paydowns.  The Company’s portfolio of securities available for sale consists primarily of mortgage-backed securities, which have relatively short expected lives.  During the nine month period ended June 30, 2012, the Company purchased $769.6 million of mortgage-backed securities with estimated future maturities of five years or less (primarily due to anticipated prepayments) and stated maturities of 30 years or less.  In addition, the Company purchased $129.0 million of investment securities which were comprised primarily of corporate, municipal, agency and asset-backed bonds.  During the quarter ended March 31, 2012, the Company executed a strategic sale of securities to enhance capital levels.  The securities sold comprised the Bank’s entire portfolio of Ginnie Mae securities which had an amortized cost of $307.9 million. The sale resulted in the recognition of an $11.4 million gain ($7.2 million after taxes).  The resulting addition to the Bank’s capital will help to support current and expected future growth.  The Company believes it was an opportune time to realize the high value of Ginnie Mae securities given market conditions relative to Fannie Mae and Freddie Mac mortgage-backed securities.  The Company immediately replaced the securities sold with Fannie Mae securities of similar average lives.

The Bank’s portfolio of net loans receivable increased $18.5 million, or 5.9%, to $332.9 million at June 30, 2012.  This increase primarily relates to an increase of $9.8 million in residential mortgage loans, $9.1 million in MPS consumer loans and $3.9 million in agricultural operating loans, partially offset by a decrease in commercial real estate and multi family loans of $3.0 million and a decrease in Retail Bank consumer loans of $2.2 million.

Foreclosed real estate and repossessed assets decreased to $0.9 million as compared to $2.7 million at September 30, 2011, primarily due to the resolution and disposal of a $2.0 million bank-owned property during April 2012 which resulted in the recognition of $1.1 million in income related to interest and expenses recovered by the Company.  This decrease was partially offset by the previously disclosed foreclosure and transfer of a $1.7 million commercial and multi-family real estate loan which was subsequently written down by $0.9 million during the quarter ended March 31, 2012.  This relationship was reported in non-performing loans at September 30, 2011.

Total deposits increased $208.9 million, or 18.3%, to $1.4 billion at June 30, 2012.  The Bank continues to increase its low- and no-cost deposit portfolio.  Deposits attributable to MPS were up $214.0 million, or 23.1%, at June 30, 2012, as compared to September 30, 2011.  This increase results mostly from growth in existing core prepaid card programs.  Partially offsetting the above increase was a $15.7 million decrease in certificates of deposits primarily related to a decrease in public funds.  The average balance of total deposits was $1.2 billion for the nine month period ended June 30, 2012 compared to $1.0 billion for the same period in the prior fiscal year.
 
 
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Total borrowings increased $19.2 million, or 65.6%, from $29.4 million at September 30, 2011 to $48.6 million at June 30, 2012, primarily due to the increase of securities sold under agreements to repurchase.

At June 30, 2012, the Company’s stockholders’ equity totaled $105.7 million, up $25.1 million from $80.6 million at September 30, 2011.  The increase was related to private placement transactions, net income, offset by a decrease in the accumulated other comprehensive income relating to the Company’s securities available for sale portfolio and by the payment of dividends on the Company’s common stock (see “Results of Operations” below). In addition, the Company raised approximately $12.8 million in additional capital, all of which qualifies as Tier 1 capital for regulatory purposes, through the issuance of 640,000 common shares through three private placement transactions during the 2012 fiscal third quarter.  At June 30, 2012, the Bank continues to exceed all regulatory requirements for classification as a well-capitalized institution.  See “Liquidity and Capital Resources” for further information.

Non-performing Assets and Allowance for Loan Losses

Generally, when a loan becomes delinquent 90 days or more or when the collection of principal or interest becomes doubtful, the Company will place the loan on a non-accrual status and, as a result of this action, previously accrued interest income on the loan is reversed against interest income.  The loan will remain on non-accrual status until the loan has been brought current or until other circumstances occur that provide adequate assurance of full repayment of interest and principal.

The Company believes that the level of allowance for loan losses at June 30, 2012 is appropriate and adequately reflects probable losses related to these loans; however, there can be no assurance that all loans will be fully collectible or that the present level of the allowance will be adequate in the future.  See “Allowance for Loan Losses” below.
 
 
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The table below sets forth the amounts and categories of non-performing assets in the Company’s portfolio.  Foreclosed assets include assets acquired in settlement of loans.

   
Non-Performing Assets As Of
 
   
June 30, 2012
   
September 30, 2011
 
Non-Performing Loans
 
(Dollars in Thousands)
 
             
Non-Accruing Loans:
           
1-4 Family (2)
  $ 62     $ 127  
Commercial & Multi Family (1) (2)
    4,764       13,025  
Commercial Operating (1) (2)
    20       30  
Total
    4,846       13,182  
                 
Accruing Loans Delinquent 90 Days or More
               
Consumer
    64       24  
Total
    64       24  
                 
Total Non-Performing Loans
    4,910       13,206  
                 
Other Assets
               
                 
Foreclosed Assets:
               
1-4 Family
    22       451  
Commercial & Multi Family
    837       181  
Agricultural Real Estate
    -       2,020  
Commercial Business
    2       19  
Total
    861       2,671  
                 
Total Other Assets
    861       2,671  
                 
Total Non-Performing Assets
  $ 5,771     $ 15,877  
Total as a Percentage of Total Assets
    0.38 %     1.24 %
 
(1)
At June 30, 2012, the Company had $331,000 of TDRs in Commercial & Multi Family and $20,000 of TDRs in Commercial Operating.
(2)
At September 30, 2011, the Company had $42,000 of TDRs in 1-4 Family, $3.9 million in Commercial & Multi Family and $30,000 in Commercial Operating.
In addition to the non-performing TDRs in (1) and (2), the Company had an additional $6.4 million and $4.8 million of TDRs performing in accordance with their terms at June 30, 2012 and September 30, 2011, respectively.

At June 30, 2012, non-performing loans totaled $4.9 million, representing 1.5% of total loans, compared to $13.2 million, or 4.1% of total loans at September 30, 2011.  The majority of this decrease from September 30, 2011 relates to three commercial loan relationships totaling $8.5 million, one of which was partially charged off with the remaining $1.7 million transferred to foreclosed real estate and repossessed assets at December 31, 2011. During the quarter ended March 31, 2012, the Company wrote off $0.9 million from this commercial relationship through other non-interest income.  In addition, a $3.9 million commercial loan that was modified via a TDR is now fully performing in compliance with all terms.  The third loan was paid off during the quarter ended June 30, 2012.
 
 
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Classified Assets.  Federal regulations provide for the classification of loans and other assets, such as debt and equity securities considered by the OCC to be of lesser quality, as "substandard", "doubtful" or "loss."  An asset is considered “substandard” if it is inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any.  “Substandard” assets include those characterized by the “distinct possibility” that the savings association will sustain “some loss” if the deficiencies are not corrected.  Assets classified as “doubtful” have all the weaknesses inherent in those classified as “substandard,” with the added characteristic that the weaknesses present make “collection or liquidation in full,” on the basis of currently existing facts, conditions and values, “highly questionable and improbable.”  Assets classified as “loss” are those considered “uncollectible” and of such minimal value that their continuance as assets without the establishment of a specific reserve is not warranted.

General allowances represent loss allowances which have been established to recognize the inherent risk associated with lending activities, but which, unlike specific allowances, have not been allocated to particular problem assets.  When assets are classified as “loss,” the Bank is required either to establish a specific allowance for loan losses equal to 100% of that portion of the asset so classified or to charge-off such amount. The Bank’s determination as to the classification of its assets and the amount of its valuation allowances are subject to review by its regulatory authorities, which may order the establishment of additional general or specific loss allowances.  The discovery of additional information in the future may also affect both the level of classification and the amount of loss allowances.

On the basis of management's review of its loans and other assets, at June 30, 2012, the Company had classified a total of $17.8 million of its assets as substandard, $30,000 as doubtful and none as loss.  This compares to classifications at September 30, 2011 of $42.7 million as substandard, $60,000 as doubtful and none as loss.  At June 30, 2012, $5.0 million out of a total of $17.8 million of substandard assets is attributable to the trust preferred securities as compared to $19.9 million out of a total of $42.7 million of substandard assets at September 30, 2011.  See Note 10 to the Condensed Consolidated Financial Statements.

Allowance for Loan Losses.  The Company establishes its provision for loan losses, and evaluates the adequacy of its allowance for loan losses based upon a systematic methodology consisting of a number of factors including, among others, historic loss experience, the overall level of classified assets and non-performing loans, the composition of its loan portfolio and the general economic environment within which the Company and its borrowers operate.

Management closely monitors economic developments both regionally and nationwide, and considers these factors when assessing the adequacy of its allowance for loan losses.  The economic slowdown, which recently has shown some signs of abating, continues to strain the financial condition of some borrowers.  Management therefore believes that future losses in the residential portfolio may be somewhat higher than historical experience.  It should be noted that a sizeable portion of the Company’s consumer loan portfolio is secured by residential real estate.  Over the past three years, loss rates in the commercial and multi-family real estate market have remained moderate.  Management concludes that future losses in this portfolio may be somewhat higher than recent historical experience.  Loss rates in the agricultural real estate and agricultural operating loan portfolios have been minimal in the past three years primarily due to higher commodity prices as well as above average yields which have created positive economic conditions for most farmers in our markets during these past three years.  Nonetheless, management still expects that future losses in this portfolio, which have been very low, could be higher than recent historical experience.  Management believes that various levels of drought weather conditions within our markets has the potential to negatively impact potential yields which would have a negative economic effect on our agricultural markets.  In addition, management believes the continuing recessionary economic environment may also negatively impact consumers’ repayment capacities.
 
 
41


At June 30, 2012, the Company has established an allowance for loan losses totaling $4.4 million compared to $4.9 million at September 30, 2011. Management believes that, based on a detailed review of the loan portfolio, historic loan losses, current economic conditions, the size of the loan portfolio, and other factors, the current level of the allowance for loan losses at June 30, 2012 reflects an appropriate allowance against probable losses from the loan portfolio.  Although the Company maintains its allowance for loan losses at a level that it considers to be adequate, investors and others are cautioned that there can be no assurance that future losses will not exceed estimated amounts, or that additional provisions for loan losses will not be required in future periods.

The allowance for loan losses reflects management’s best estimate of probable losses inherent in the portfolio based on currently available information.  In addition to the factors mentioned above, future additions to the allowance for loan losses may become necessary based upon changing economic conditions, increased loan balances or changes in the underlying collateral of the loan portfolio.  In addition, our regulators have the ability to cause us to add to our allowance.

CRITICAL ACCOUNTING POLICIES

The Company’s financial statements are prepared in accordance with U.S. GAAP.  The financial information contained within these statements is, to a significant extent, financial information that is based on approximate measures of the financial effects of transactions and events that have already occurred.  Based on its consideration of accounting policies that: (i) involve the most complex and subjective decisions and assessments which may be uncertain at the time the estimate was made, and (ii) different estimates that reasonably could have been used in the current period, or changes in the accounting estimate that are reasonably likely to occur from period to period, would have a material impact on the financial statements, management has identified the policies described below as Critical Accounting Policies.  This discussion and analysis should be read in conjunction with the Company’s financial statements and the accompanying notes presented in Part II, Item 8 “Consolidated Financial Statements and Supplementary Data” of its Annual Report on Form 10-K for the year ended September 30, 2011 and information contained herein.

Allowance for Loan Losses.  The Company’s allowance for loan loss methodology incorporates a variety of risk considerations, both quantitative and qualitative, in establishing an allowance for loan loss that management believes is appropriate at each reporting date.  Quantitative factors include the Company’s historical loss experience, delinquency and charge-off trends, collateral values, changes in non-performing loans, and other factors.  Quantitative factors also incorporate known information about individual loans, including borrowers’ sensitivity to interest rate movements.  Qualitative factors include the general economic environment in the Company’s markets, including economic conditions throughout the Midwest and, in particular, the state of certain industries.  Size and complexity of individual credits in relation to loan structure, existing loan policies, and pace of portfolio growth are other qualitative factors that are considered in the methodology.  As the Company adds new products and increases the complexity of its loan portfolio, it will enhance its methodology accordingly.  Management may have reported a materially different amount for the provision for loan losses in the consolidated statement of operations to change the allowance for loan losses if its assessment of the above factors were different.  Although management believes the levels of the allowance at both June 30, 2012 and September 30, 2011 were adequate to absorb probable losses inherent in the loan portfolio, a decline in local economic conditions or other factors could result in increasing losses.

Goodwill and Intangible Assets. Intangible assets include patents filed by the MPS division.  Intangible assets are tested annually for impairment or more often if conditions indicate a possible impairment.  Determining the fair value of a reporting unit involves the use of significant estimates and assumptions.  These estimates and assumptions include revenue growth rates and operating margins used to calculate future cash flows, risk-adjusted discount rates, future economic and market conditions, comparison of the Company’s market value to book value and determination of appropriate market comparables.  Actual future results may differ from those estimates.
 
 
42


Each quarter the Company evaluates the estimated useful lives of intangible assets and whether events or changes in circumstances warrant a revision to the remaining periods of amortization.  In accordance with ASC 350, Accounting for the Impairment or Disposal of Long-Lived Assets, recoverability of these assets is measured by comparison of the carrying amount of the asset to the future undiscounted cash flows the asset is expected to generate. If the asset is considered to be impaired, the amount of any impairment is measured as the difference between the carrying value and the fair value of the impaired asset.

Assumptions and estimates about future values and remaining useful lives of the Company’s intangible and other long-lived assets are complex and subjective. They can be affected by a variety of factors, including external factors such as industry and economic trends, and internal factors such as changes in the Company’s business strategy and internal forecasts. Although the Company believes the historical assumptions and estimates used are reasonable and appropriate, different assumptions and estimates could materially impact the reported financial results.

Self-Insurance.  The Company has a self-insured healthcare plan for its employees up to certain limits.  To mitigate a portion of these risks, the Company has a stop-loss insurance policy through a commercial insurance carrier for coverage in excess of $55,000 per individual occurrence with an unlimited lifetime maximum.  The estimate of self-insurance liability is based upon known claims and an estimate of incurred, but not reported (“IBNR”) claims.  IBNR claims are estimated using historical claims lag information received by a third party claims administrator.  Although management believes it uses the best information available to determine the accrual, unforeseen health claims could result in adjustments to the accrual.

Deferred Tax Assets.  The Company accounts for income taxes according to the asset and liability method.  Under this method, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax basis.  Deferred tax assets and liabilities are measured using the enacted tax rates applicable to income for the years in which those temporary differences are expected to be recovered or settled.  Deferred tax assets are recognized subject to management’s judgment that realization is more-likely-than-not.  An estimate of probable income tax benefits that will not be realized in future years is required in determining the necessity for a valuation allowance.

Security Impairment. Management continually monitors the investment security portfolio for impairment on a security by security basis.  Management has a process in place to identify securities that could potentially have a credit impairment that is other than temporary.  This process involves the consideration of length of time and extent to which the fair value has been less than the amortized cost basis, review of available information regarding the financial position of the issuer, monitoring the rating of the security, cash flow projections, and the Company's intent to sell a security or whether it is more likely than not the Company will be required to sell the security before the recovery of its amortized cost which, in some cases, may extend to maturity. To the extent we determine that a security is deemed to be other-than-temporarily impaired, an impairment loss is recognized. If the Company intends to sell a security or it is more likely than not that the Company would be required to sell a security before the recovery of its amortized cost, the Company recognizes an other-than-temporary impairment in earnings for the difference between amortized cost and fair value. If we do not expect to recover the amortized cost basis, we do not plan to sell the security and if it is not more likely than not that the Company would be required to sell a security before the recovery of its amortized cost, the recognition of the other-than-temporary impairment is bifurcated. For those securities, the Company separates the total impairment into a credit loss component recognized in earnings, and the amount of the loss related to other factors is recognized in other comprehensive income net of taxes.

The amount of the credit loss component of a debt security impairment is estimated as the difference between amortized cost and the present value of the expected cash flows of the security. The present value is determined using the best estimate of cash flows discounted at the effective interest rate implicit to the security at the date of purchase or the current yield to accrete an asset- backed or floating rate security. Cash flow estimates for trust preferred securities are derived from scenario-based outcomes of forecasted default rates, loss severity, prepayment rates and structural support.
 
 
43


Level 3 Fair Value Measurement. U.S. GAAP requires the Company to measure the fair value of financial instruments under a standard which describes three levels of inputs that may be used to measure fair value. Level 3 measurement includes significant unobservable inputs that reflect the Company’s own assumptions about the assumptions that market participants would use in pricing an asset or liability. Level 3 assets and liabilities include financial instruments whose value is determined using pricing models, discounted cash flow methodologies, or similar techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation. Although management believes that it uses a best estimate of information available to determine fair value, due to the uncertainty of future events, the approach includes a process that may differ significantly from other methodologies and still produce an estimate that is in accordance with U.S. GAAP.

RESULTS OF OPERATIONS

General.  The Company recorded net income of $2.4 million, or 66 cents per diluted share, for the three months ended June 30, 2012 compared to a net loss of $1.0 million, or 33 cents per diluted share, for the same period in fiscal year 2011.  Net earnings for the three month period ended June 30, 2012 were primarily impacted by an increase in card fee income of $4.0 million, a reduction in card processing expense of $2.2 million, a recovery of $1.1 million on a bank-owned real estate property, an increase in income tax expense of $2.0 million due to increased profitability, and an increase in compensation and benefits of $1.1 million.

The Company recorded net income of $15.4 million, or $4.64 per diluted share, for the nine months ended June 30, 2012 compared to $2.4 million, or 79 cents per diluted share, for the same period in fiscal year 2011.  Net earnings for the nine month period ended June 30, 2012 were primarily impacted by a pre-tax gain on sale of securities of $12.0 million, an increase in card fee income of $1.1 million, a reduction in card processing expense of $5.3 million, an increase in income tax expense of $6.5 million due to increased profitability, and non-recurrence of goodwill impairment of $1.5 million.

The change in net income for the current period was affected by many factors within the general categories of net interest income, net interest income after provision for loan losses, total non-interest income, total non-interest expense, and income tax expense. Those factors are discussed in more detail below. In general, net interest income decreased from $8.8 million to $8.3 million for the three month period ended June 30, 2012 from the prior year comparable period. Total non-interest income increased from $8.7 million to $13.7 for the three month period ended June 30, 2012 from the prior year comparable period, and total non-interest expense decreased from $19.3 million to $18.1 million during the same time periods.

 Net Interest Income.  Net interest income for the 2012 fiscal third quarter decreased by $0.5 million, or 6.1%, to $8.3 million from $8.8 million for the same period in the prior fiscal year.  Net interest margin decreased to 2.40% for the third quarter of fiscal year 2012 as compared to 3.29% for the same period in 2011.  Overall, asset yields declined by 107 basis points due primarily to a change in asset mix to more government guaranteed mortgage-backed securities and highly rated investment grade asset backed, agency, corporate and municipal bonds.  Our government guaranteed mortgage-backed securities comprise 60% of average interest earning assets compared to 56% one year ago.  The Company’s average interest-earning assets for the 2012 third quarter grew by $310.8 million, or 29%, to $1.39 billion, up from $1.08 billion during the same quarter last year.

Overall, rates on all deposits and interest-bearing liabilities decreased by 18 basis points from 0.44% in the 2011 third fiscal quarter to 0.26% in 2012.  At June 30, 2012, low- and no-cost checking deposits represented 91% of total deposits compared to 86% one year earlier.  The growth in deposits was driven by an increase of $428.3 million, or 60%, in deposits generated by MPS at June 30, 2012 as compared to one year earlier.
 
 
For the nine months ended June 30, 2012, net interest income was $26.3 million compared to $25.5 million for the same period in the prior fiscal year.  Contributing to this increase was a 51 basis point decrease in rates paid on interest-bearing liabilities and a 22% increase in earning assets.  These were partially offset by asset yields that decreased 67 basis points, in part, due to faster prepayment rates in the Company’s mortgage-backed securities portfolio as compared to the prior fiscal year. The following tables present, for the periods indicated, the Company’s total dollar amount of interest income from average interest-earning assets and the resulting yields, as well as the interest expense on average interest-bearing liabilities, expressed both in dollars and rates.  No tax equivalent adjustments have been made, as these are not considered to be significant.  Non-accruing loans have been included in the table as loans carrying a zero yield.
 
 
45

 
The following tables present, for the periods indicated, the Company’s total dollar amount of interest income from average interest-earning assets and the resulting yields, as well as the interest expense on average interest-bearing liabilities, expressed both in dollars and rates.  No tax equivalent adjustments have been made, as these are not considered to be significant.  Non-accruing loans have been included in the table as loans carrying a zero yield.
 
Three Months Ended June 30,
  2012     2011  
(Dollars in Thousands)
 
Average
   
Interest
         
Average
   
Interest
       
   
Outstanding
   
Earned /
   
Yield /
   
Outstanding
   
Earned /
   
Yield /
 
   
Balance
   
Paid
   
Rate
   
Balance
   
Paid
   
Rate
 
Interest-earning assets:
                                   
Loans receivable
  $ 331,588     $ 4,616       5.60 %   $ 327,650     $ 4,538       5.56 %
Mortgage-backed securities
    836,003       3,847       1.85 %     600,672       5,232       3.49 %
Other investments and fed funds sold
    220,024       686       1.25 %     148,490       210       0.57 %
Total interest-earning assets
    1,387,615     $ 9,149       2.65 %     1,076,812     $ 9,980       3.72 %
Non-interest-earning assets
    62,405                       60,937                  
Total assets
  $ 1,450,020                     $ 1,137,749                  
                                                 
Non-interest bearing deposits
  $ 1,059,983     $ -       0.00 %   $ 786,346     $ -       0.00 %
Interest-bearing liabilities:
                                               
Interest-bearing checking
    34,227       60       0.71 %     33,396       87       1.04 %
Savings
    22,235       10       0.18 %     11,620       9       0.31 %
Money markets
    38,240       29       0.31 %     34,403       55       0.64 %
Time deposits
    103,135       417       1.63 %     117,103       581       1.99 %
FHLB advances
    39,433       192       1.96 %     44,144       299       2.72 %
Other borrowings
    30,467       149       1.97 %     15,687       122       3.12 %
Total interest-bearing liabilities
    267,737       857       1.29 %     256,353       1,153       1.80 %
Total deposits and interest-bearing liabilities
    1,327,720     $ 857       0.26 %     1,042,699     $ 1,153       0.44 %
Other non-interest bearing liabilities
    22,713                       19,278                  
Total liabilities
    1,350,433                       1,061,977                  
Shareholders' equity
    99,587                       75,772                  
Total liabilities and
                                               
shareholders' equity
  $ 1,450,020                     $ 1,137,749                  
Net interest income and net interest rate spread including non-interest bearing deposits
          $ 8,292       2.39 %           $ 8,827       3.28 %
                                                 
Net interest margin
                    2.40 %                     3.29 %
 
 
46

 
Nine Months Ended June 30,
  2012     2011  
(Dollars in Thousands)
 
Average
   
Interest
         
Average
   
Interest
       
   
Outstanding
   
Earned /
   
Yield /
   
Outstanding
   
Earned /
   
Yield /
 
   
Balance
   
Paid
   
Rate
   
Balance
   
Paid
   
Rate
 
Interest-earning assets:
                                   
Loans receivable
  $ 325,478     $ 13,647       5.60 %   $ 344,370     $ 14,894       5.78 %
Mortgage-backed securities
    775,507       13,833       2.38 %     541,363       13,583       3.35 %
Other investments and fed funds sold
    205,750       1,583       1.03 %     187,132       703       0.50 %
Total interest-earning assets
    1,306,735     $ 29,063       2.97 %     1,072,865     $ 29,180       3.64 %
Non-interest-earning assets
    61,407                       66,364                  
Total assets
  $ 1,368,142                     $ 1,139,229                  
                                                 
Non-interest bearing deposits
  $ 999,537     $ -       0.00 %   $ 783,239     $ -       0.00 %
Interest-bearing liabilities:
                                               
Interest-bearing checking
    33,647       205       0.81 %     33,063       326       1.32 %
Savings
    15,386       29       0.25 %     11,151       29       0.35 %
Money markets
    38,221       104       0.36 %     34,543       186       0.72 %
Time deposits
    107,231       1,384       1.72 %     120,278       1,833       2.04 %
FHLB advances
    43,151       595       1.84 %     40,994       909       2.96 %
Other borrowings
    22,526       405       2.40 %     16,463       375       3.05 %
Total interest-bearing liabilities
    260,162       2,722       1.40 %     256,492       3,658       1.91 %
Total deposits and interest-bearing liabilities
    1,259,699     $ 2,722       0.29 %     1,039,731     $ 3,658       0.47 %
Other non-interest bearing liabilities
    21,130                       17,428                  
Total liabilities
    1,280,829                       1,057,159                  
Shareholders' equity
    87,313                       82,070                  
Total liabilities and
                                               
shareholders' equity
  $ 1,368,142                     $ 1,139,229                  
Net interest income and net interest rate spread including non-interest bearing deposits
          $ 26,341       2.68 %           $ 25,522       3.17 %
                                                 
Net interest margin
                    2.69 %                     3.18 %
 
 
47

 
Provision for Loan Losses.  The Company recognized a provision for loan losses in the third quarter of fiscal year 2012 of $0.2 million compared to a negative provision for loan losses of $0.2 million in the prior fiscal year. This was the result of the evaluation of the allowance for loan loss as explained in Note 3 to the Condensed Consolidated Financial Statements.

For the nine months ended June 30, 2012, the Company recorded a provision of $1.1 million compared to a provision of $25,000 for the same period in the prior fiscal year due to the aforementioned factors.

Non-Interest Income.  Non-interest income for the quarter ended June 30, 2012 increased by $5.0 million, or 57.4%, to $13.7 million from $8.7 million in the prior fiscal year third quarter.  Fees earned on MPS-related programs were $12.3 million for the third quarter of fiscal year 2012, compared to $8.3 million for the same quarter in fiscal year 2011.  The decline in the 2011 fiscal third quarter was primarily due to the iAdvance reimbursement of $4.8 million in card fees related to the previously disclosed OTS administrative actions.  The Bank recorded a net loss on sale of securities in the 2012 fiscal third quarter of $0.4 million compared to no loss in the prior fiscal year third quarter.  The Bank accepted the redemption offers on two corporate Trust Preferred Securities which resulted in a pre-tax loss of $1.4 million.  The pre-tax loss of $1.4 million was partially offset by a gain on sale of mortgage-backed securities of $1.0 million.  The Bank recorded a recovery of $1.1 million on the disposal of a $2.0 million bank-owned real estate property through other non-interest income related to the recovery of interest and expenses.

For the nine months ended June 30, 2012, non-interest income increased by $12.7 million, or 29.2%, to $56.2 million from $43.5 million for the same period in the prior fiscal year.  Fees earned on prepaid debit cards, income tax-related programs and other payment systems products and services were $41.8 million for the nine months ended June 30, 2012, compared to $40.7 million for the same period in fiscal year 2011.  In addition, for the nine months ended June 30, 2012 and 2011, the Bank sold mortgage-backed securities and redeemed trust preferred securities resulting in a net gain on sale of available for sale securities in the amount of $12.0 million and $1.2 million, respectively.

Non-Interest Expense.  Non-interest expense decreased by $1.2 million, or 6.4%, to $18.1 million for the third quarter of fiscal year 2012 from $19.3 million for the same quarter in fiscal year 2011.  Non-interest expense decreased by $7.1 million, or 11.1%, to $57.1 million for the nine months ended June 30, 2012 from $64.2 million for the same period in fiscal year 2011.

Unlike the nine months ended June 30, 2011, there was no goodwill impairment expense in the nine months ended June 30, 2012.  Goodwill impairment expense was recorded for the nine months ended June 30, 2011 of $1.5 million due to the Retail Bank segment’s write off of goodwill related primarily to the decline in stock price of the Company.

Compensation expense increased $1.0 million to $8.2 million for the three months ended June 30, 2012 as compared to $7.2 million for the same period in fiscal year 2011.  For the nine months ended June 30, 2012, compensation expense totaled $23.5 million, compared to $23.1 million for the same period in the prior fiscal year.  Overall staffing is 2% higher than at June 30, 2011.

Card processing expense decreased $2.2 million to $3.7 million for the three months ended June 30, 2012 as compared to $5.9 million for the same period in fiscal year 2011.  For the nine months ended June 30, 2012, card processing expense totaled $14.0 million, compared to $19.2 million for the same period in the prior fiscal year.
 
Income Tax. Income tax expense for the third quarter of fiscal year 2012 was $1.4 million, or an effective tax rate of 36.8%, compared to an income tax benefit of $0.6 million, or an effective tax rate of 36.9%, for the same period in the prior fiscal year.  For the nine months ended June 30, 2012, the Company recorded an income tax expense in the amount of $8.9 million, or an effective tax rate of 36.7%, compared to $2.4 million, or an effective tax rate of 49.0% for the same period in the prior fiscal year.  The Company’s recorded income tax expense and the effective tax rate for the nine months ended June 30, 2011 was impacted by permanent differences between book and taxable income primarily related to the write off of goodwill of $1.5 million.
 
 
48


LIQUIDITY AND CAPITAL RESOURCES

The Company's primary sources of funds are deposits, borrowings, principal and interest payments on loans and mortgage-backed securities, and maturing investments. While scheduled loan repayments and maturing investments are relatively predictable, deposit flows, prepayments on mortgage-backed securities and early loan repayments are influenced by the level of interest rates, general economic conditions, and competition.

The Company uses its capital resources principally to meet ongoing commitments to fund maturing certificates of deposits and loan commitments, to maintain liquidity, and to meet operating expenses.  At June 30, 2012, the Company had commitments to originate and purchase loans and unused lines of credit totaling $48.0 million.  The Company believes that loan repayments and other sources of funds will be adequate to meet its foreseeable short- and long-term liquidity needs.

Regulations require the Bank to maintain minimum amounts and ratios of total risk-based capital and Tier 1 capital to risk-weighted assets, and a leverage ratio consisting of Tier 1 capital to average assets.  The following table sets forth the Bank's actual capital and required capital amounts and ratios at June 30, 2012 which, at that date, exceeded the minimum capital adequacy requirements.

                           
Minimum
 
                           
Requirement to Be
 
               
Minimum
 
Well Capitalized
 
               
Requirement For
 
Under Prompt
 
               
Capital Adequacy
 
Corrective Action
 
   
Actual
 
Purposes
 
Provisions
 
At June 30, 2012
 
Amount
   
Ratio
 
Amount
   
Ratio
 
Amount
   
Ratio
 
   
(Dollars in Thousands)
 
                                     
MetaBank
                                   
Tangible capital (to tangible assets)
  $ 107,475       7.07 %   $ 22,818       1.50 %   $ n/a       n/a %
Tier 1 (core) capital (to adjusted total assets)
    107,475       7.07       60,847       4.00       76,059       5.00  
Tier 1 (core) capital (to risk-weighted assets)
    107,475       17.62       24,393       4.00       36,590       6.00  
Total risk-based capital (to risk-weighted assets)
    111,901       18.35       48,787       8.00       60,983       10.00  

The Federal Deposit Insurance Corporation Improvement Act of 1991 (FDICIA) established five regulatory capital categories and authorized the banking regulators to take prompt corrective action with respect to institutions in an undercapitalized category.  At June 30, 2012, the Bank exceeded all requirements for the well capitalized category.
 
Item 3.
 
MARKET RISK

The Company is exposed to the impact of interest rate changes and changes in the market value of its investments.

The Company originates predominantly adjustable-rate loans and fixed-rate loans up to ten years.  Long-term fixed-rate residential mortgages are generally sold into the secondary market.  As a result of its lending practices, the Company’s loan portfolio is relatively short in duration and yields respond quickly to the overall level of interest rates.
 
 
49


The Company's primary objective for its investment portfolio is to provide the liquidity necessary to meet the Company’s cash demands.  This portfolio may also be used in the ongoing management of interest rate risk.  As a result, funds may be invested among various categories of security types and maturities based upon the Company's need for liquidity and its desire to create an economic hedge against the effects that changes in interest rates may have on the overall market value of the Company.

The Company offers a full range of deposit products which are generally short term in nature.  Interest-bearing checking, savings, and money market accounts generally provide a stable source of funds for the bank and also respond relatively quickly to changes in short term interest rates.  The Company offers certificates of deposit with maturities of three months through five years, which serve to extend the duration of the overall deposit portfolio.  A significant and increasing portion of the Company’s deposit portfolio is concentrated in non-interest-bearing checking accounts.  These accounts serve to decrease the Company’s overall cost of funds and reduce its sensitivity to changes in short term interest rates.

The Company also has wholesale borrowings, predominantly advances from the FHLB and FRB, including both overnight advances and advances that carry fixed terms and fixed rates of interest.  The Company utilizes this portfolio to manage liquidity demands and also, when appropriate, in the ongoing management of interest rate risk.

The Board of Directors has established limits on the level of acceptable interest rate risk for the Bank.  There can be no assurance, however, that, in the event of an adverse change in interest rates, the Company's efforts to limit interest rate risk will be successful.

Net Portfolio Value.  The Bank uses a Net Portfolio Value ("NPV") approach to the quantification of interest rate risk.  This approach calculates the difference between the present value of expected cash flows from assets and the present value of expected cash flows from liabilities, as well as cash flows from any off-balance sheet contracts.  Management of the Bank’s assets and liabilities is performed within the context of the marketplace, but also within limits established by the Board of Directors on the amount of change in NPV that is acceptable given certain interest rate changes.

Presented below, at June 30, 2012 and September 30, 2011, is an analysis of the Bank’s interest rate risk as measured by changes in NPV for an instantaneous and sustained parallel shift in the yield curve, in 100 basis point increments, up and down 200 basis points.  Down 100 basis points and down 200 basis points are not presented for June 30, 2012 and September 30, 2011 due to the extremely low rate environment.  At both June 30, 2012 and September 30, 2011, the Bank’s interest rate risk profile was within the interest sensitivity limits set by the Board of Directors.

June 30, 2012
   
September 30, 2011
 
           
Estimated Increase
               
Estimated Increase
 
     
Estimated
   
in NPV
         
Estimated
   
in NPV
 
Change in
   
NPV
               
Change in
   
NPV
             
Interest Rates
   
Amount
   
Amount
   
Percent
   
Interest Rates
   
Amount
   
Amount
   
Percent
 
           
(Dollars in Thousands)
                     
(Dollars in Thousands)
       
Basis Points
                     
Basis Points
                   
  +200 bp     159,527       15,749       10.95 %     +200bp       129,699       32,174       32.99 %
  +100 bp     160,441       16,662       11.59 %     +100bp       121,361       23,836       24.44 %
  -       143,778       -       -       -       97,525       -       -  

Certain shortcomings are inherent in the method of analysis presented in the preceding table. For example, although certain assets and liabilities may have similar maturities or periods to repricing, they may react in different degrees to changes in market interest rates. Also, the interest rates on certain types of assets and liabilities may fluctuate in advance of changes in market interest rates, while interest rates on other types may lag behind changes in market rates. Additionally, certain assets, such as adjustable-rate mortgage loans, have features that restrict changes in interest rates on a short-term basis and over the life of the asset. Furthermore, although management has estimated changes in the levels of prepayments and early withdrawal in these rate environments, such levels would likely deviate from those assumed in calculating the table. Finally, the ability of some borrowers to service their debt may decrease in the event of an interest rate increase.
 
 
50


In addition to the NPV approach, the Bank also reviews gap reports, which measure the differences in assets and liabilities repricing in given time periods, and net income simulations to assess its interest rate risk profile. Management reviews its interest rate risk profile on a quarterly basis.

Item 4.

CONTROLS AND PROCEDURES

Any control system, no matter how well designed and operated, can provide only reasonable (not absolute) assurance that its objectives will be met.  Furthermore, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, have been detected.

DISCLOSURE CONTROLS AND PROCEDURES

The Company’s management, with the participation of the Company’s Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of the Company’s “disclosure controls and procedures”, as such term is defined in Rules 13a – 15(e) and 15d – 15(e) of the Securities Exchange Act of 1934 (“Exchange Act”) as of the end of the period covered by the report.

Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that, at June 30, 2012, the Company’s disclosure controls and procedures were effective to provide reasonable assurance that (i) the information required to be disclosed by us in this report was recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms, and (ii) information required to be disclosed by us in our reports that we file or submit under the Exchange Act is accumulated and communicated to our management, including our principal executive and principal financial officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure.

INTERNAL CONTROL OVER FINANCIAL REPORTING

With the participation of the Company’s management, including its Chief Executive Officer and Chief Financial Officer, the Company also conducted an evaluation of the Company’s internal control over financial reporting to determine whether any changes occurred during the Company’s fiscal quarter ended June 30, 2012, that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.  Based on such evaluation, management concluded that, as of the end of the period covered by this report, there have not been any changes in the Company's internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the fiscal quarter to which this report relates that have materially affected, or are reasonably likely to materially affect, the Company's internal control over financial reporting.
 
 
51


META FINANCIAL GROUP, INC.

PART II - OTHER INFORMATION

FORM 10-Q

Item 1.

Item 1A.
 
Failure to generate sufficient capital to support our anticipated growth could adversely affect our earnings and prospects.
 
The Company has recently experienced considerable growth, having increased its assets from $1.3 billion to $1.5 billion during the nine months ended June 30, 2012.  Funded primarily by growth of no- and low-interest bearing deposits, the proceeds thereof have been invested primarily in mortgage-backed securities ("MBS").  While the Company believes the credit quality of such MBS to be high, particularly in comparison to the traditional lending portfolios of most banking institutions, the Company's asset growth, if continued as expected, will generate a need for higher levels of capital which management believes cannot be met through earnings retention alone.  In that respect, the Company recently completed successful private placements of its common stock which raised $12.8 million in additional capital, all of which qualifies as Tier 1 capital for regulatory purposes.  There can be no assurance that the Company will be able to continue to access sources of capital, private or public. Failure to remain well-capitalized, or to attain potentially even higher levels of capitalization that could be required in the future under regulatory initiatives mandated by Congress, our regulatory agencies, or under the Basel accords, could adversely affect the Company's earnings and prospects.

Item 2.

Item 3.

Item 4.

Item 5.

Item 6.
 
See Index to Exhibits.
 
 
52

 
META FINANCIAL GROUP, INC.

SIGNATURES


Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
 
    META FINANCIAL GROUP, INC.  
       
Date:         August 14, 2012
By:
/s/ J. Tyler Haahr  
   
J. Tyler Haahr, President,
 
   
and Chief Executive Officer
 
       
Date:         August 14, 2012 By: /s/ David W. Leedom  
    David W. Leedom, Executive Vice President  
    and Chief Financial Officer  

 
53

 
INDEX TO EXHIBITS
 
Exhibit
 
Number
Description
   
Section 302 certification of Chief Executive Officer.
   
Section 302 certification of Chief Financial Officer.
   
Section 906 certification of Chief Executive Officer.
   
Section 906 certification of Chief Financial Officer.
   
101.INS
Instance Document
   
101.SCH
XBRL Taxonomy Extension Schema Document
   
101.CAL
XBRL Taxonomy Extension Calculation Linkbase Document
   
101.DEF
XBRL Taxonomy Extension Definition Linkbase Document
   
101.LAB
XBRL Taxonomy Extension Label Linkbase Document
   
101.PRE
XBRL Taxonomy Extension Presentation Linkbase Document