DEAR Dearborn Bancorp, Inc. (MM)

 

 

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

þ		Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the Quarterly period ended June 30, 2010

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 000-24478.

DEARBORN BANCORP, INC.

(Exact name of registrant as specified in its charter)

Michigan		38-3073622
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)

1360 Porter Street, Dearborn, MI             48124
(Address of principal executive office)    (Zip Code)

(313) 565-5700
(Registrant’s telephone number, including area code)

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 þ No o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (section 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files. Yes o 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 (as defined in rule 12b-2 of the 1934 Securities and Exchange Act).

Large accelerated filer o		Accelerated filer o		Non-accelerated filer o (Do not check if a smaller reporting company)		Smaller Reporting Company þ

Indicate by check mark if the registrant is a shell company, as defined in Rule 12b-2 of the Exchange Act.

Yes o No þ

Indicate the number of shares outstanding for each of the issuer’s classes of common stock, as of July 31, 2010.

Class		Shares Outstanding
Common Stock		7,685,705

 

 

DEARBORN BANCORP, INC.
INDEX

		Page
Part I. Financial Information:
Item 1. Financial Statements
The following condensed consolidated financial statements of Dearborn Bancorp, Inc. and its subsidiary are included in this report:
Report of Independent Registered Public Accounting Firm			3
Condensed Consolidated Balance Sheets — June 30, 2010, December 31, 2009 and June 30, 2009			4
Condensed Consolidated Statements of Operation — For the Three And Six Months Ended June 30, 2010 and 2009			5
Condensed Consolidated Statements of Comprehensive Loss — For the Three and Six Months Ended June 30, 2010 and 2009			6
Condensed Consolidated Statements of Cash Flows — For the Six Months Ended June 30, 2010 and 2009			7
Notes to Condensed Consolidated Financial Statements			9-27
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations			28-47
Item 3. Quantitative and Qualitative Disclosures about Market Risk			47-50
Item 4. Controls and Procedures			51
Part II. Other Information:
Pursuant to SEC rules and regulations, the following item(s) are included with the Form 10-Q Report:
Item 1A Risk Factors			52-53
Item 4. Submission of Matters to a Vote of Security Holders
Item 6. Exhibits
Pursuant to SEC rules and regulations, the following items are omitted from this Form 10-Q as inapplicable or to which the answer is negative:
Item 1. Legal Proceedings
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
Item 3. Defaults upon Senior Securities
Item 5. Other Information
SIGNATURES			54
EX-31.1
EX-31.2
EX-32.1
EX-32.2

Report of Independent Registered Public Accounting Firm

Audit Committee, Board of Directors and Stockholders
Dearborn Bancorp, Inc.
Dearborn, Michigan

We have reviewed the accompanying condensed consolidated balance sheets of Dearborn Bancorp, Inc. as of June 30, 2010 and 2009 and the related condensed consolidated statements of operation and comprehensive loss for the three-month and six-month periods ended June 30, 2010 and 2009, and condensed consolidated statements of cash flows for the six-month periods ended June 30, 2010 and 2009. These interim financial statements are the responsibility of the Corporation’s management.

We conducted our reviews in accordance with the standards of the Public Company Accounting Oversight Board (United States). A review of interim financial information consists principally of applying analytical procedures to financial data and making inquiries of persons responsible for financial and accounting matters. It is substantially less in scope than an audit conducted in accordance with the standards of the Public Company Accounting Oversight Board, the objective of which is the expression of an opinion regarding the financial statements taken as a whole. Accordingly, we do not express such an opinion.

Based on our reviews, we are not aware of any material modifications that should be made to the condensed consolidated financial statements referred to above for them to be in conformity with accounting principles generally accepted in the United States of America.

We have previously audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheet as of December 31, 2009 and the related consolidated statements of operations, stockholders’ equity and cash flows for the year then ended (not presented herein); and in our report dated March 31, 2010, we expressed an unqualified opinion on those consolidated financial statements. In our opinion, the information set forth in the accompanying condensed consolidated balance sheet as of December 31, 2009 is fairly stated, in all material respects, in relation to the consolidated balance sheet from which it has been derived.

BKD, llp

Indianapolis, Indiana
August 16, 2010

PART I — FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

DEARBORN BANCORP, INC. AND SUBSIDIARY
CONDENSED CONSOLIDATED BALANCE SHEETS

		(Unaudited)								(Unaudited)
(Dollars, in thousands)		6/30/2010				12/31/2009				6/30/2009
ASSETS
Cash and cash equivalents
Cash and due from banks		$	7,088			$	7,803			$	25,475
Federal funds sold			57				156				1,425
Interest bearing deposits with banks			67,056				69,538				18,454
Total cash and cash equivalents			74,201				77,497				45,354
Mortgage loans held for sale			1,169				1,129				60
Securities available for sale			46,171				45,964				3,257
Securities held to maturity			336				336				—
Federal Home Loan Bank stock			3,698				3,698				3,698
Loans
Loans			783,032				833,136				882,568
Allowance for loan losses			(31,574	)			(35,125	)			(22,422	)
Net loans			751,458				798,011				860,146
Premises and equipment, net			19,724				20,194				20,784
Real estate owned			23,976				23,435				17,434
Other intangible assets			—				—				4,195
Accrued interest receivable			3,181				3,562				3,512
Other assets			9,199				12,660				31,360
Total assets		$	933,113			$	986,486			$	989,800
LIABILITIES
Deposits
Non-interest bearing deposits		$	91,447			$	83,873			$	83,752
Interest bearing deposits			736,217				784,082				729,415
Total deposits			827,664				867,955				813,167
Other liabilities
Securities sold under agreements to repurchase			—				—				2,206
Federal Home Loan Bank advances			63,799				63,855				73,955
Accrued interest payable			941				1,046				1,104
Other liabilities			746				1,685				1,491
Subordinated debentures			10,000				10,000				10,000
Total liabilities			903,150				944,541				901,923
COMMITMENT AND CONTINGENT LIABILITIES			—				—				—
STOCKHOLDERS’ EQUITY
Common stock - 100,000,000 shares authorized, 7,685,705 at 6/30/10, 7,687,470 shares at 12/31/09 and 7,687,470 shares at 6/30/09			131,991				131,929				131,866
Accumulated deficit			(102,350	)			(89,850	)			(43,998	)
Accumulated other comprehensive income (loss)			322				(134	)			9
Total stockholders’ equity			29,963				41,945				87,877
Total liabilities and stockholders’ equity		$	933,113			$	986,486			$	989,800

The accompanying notes are an integral part of these condensed consolidated statements.

DEARBORN BANCORP, INC. AND SUBSIDIARY
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited)

		Three Months Ended								Six Months Ended
(In thousands, except share data)		6/30/10				6/30/09				6/30/10				6/30/09
Interest income
Interest on loans		$	11,536			$	13,286			$	23,314			$	27,096
Interest on securities, available for sale			157				178				325				434
Interest on deposits with banks			64				103				101				197
Interest on federal funds			—				6				1				12
Total interest income			11,757				13,573				23,741				27,739
Interest expense
Interest on deposits			2,925				5,458				6,468				11,456
Interest on other liabilities			376				578				762				1,229
Total interest expense			3,301				6,036				7,230				12,685
Net interest income			8,456				7,537				16,511				15,054
Provision for loan losses			11,803				13,610				11,903				24,337
Net interest income (loss) after provision for loan losses			(3,347	)			(6,073	)			4,608				(9,283	)
Non-interest loss
Service charges on deposit accounts			380				375				723				730
Fees for other services to customers			49				37				85				62
Gain on the sale of loans			66				160				124				216
Gain on the sale of securities			—				270				69				465
Gain (loss) on the sale of real estate owned			43				(32	)			32				(3	)
Loss on the write-down of real estate owned			(3,693	)			(1,506	)			(4,349	)			(1,860	)
Other income			78				125				180				147
Total non-interest loss			(3,077	)			(571	)			(3,136	)			(243	)
Non-interest expense
Salaries and employee benefits			3,078				3,208				6,197				6,498
Occupancy and equipment expense			777				916				1,631				1,850
Amortization of intangible expense			—				199				—				397
FDIC assessment			1,125				833				2,075				1,181
Advertising and marketing			33				59				60				129
Stationery and supplies			75				109				147				220
Professional services			306				173				472				364
Data processing			174				238				360				466
Defaulted loan expense			1,054				926				2,089				1,687
Other operating expenses			583				442				942				822
Total non-interest expense			7,205				7,103				13,973				13,614
Loss before federal income tax benefit			(13,629	)			(13,747	)			(12,501	)			(23,140	)
Income tax benefit			—				(4,672	)			—				(7,816	)
Net loss			($13,629	)			($9,075	)			($12,501	)			($15,324	)
Per share data:
Net loss — basic			(1.78	)			(1.19	)			(1.63	)			(2.00	)
Net loss — diluted			(1.78	)			(1.19	)			(1.63	)			(2.00	)
Weighted average number of shares outstanding — basic			7,645,940				7,644,207				7,645,940				7,644,198
Weighted average number of shares outstanding — diluted			7,645,940				7,644,207				7,645,940				7,644,198

The accompanying notes are an integral part of these condensed consolidated statements.

DEARBORN BANCORP, INC. AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS (unaudited)

		Three Months Ended								Six Months Ended
(In thousands)		06/30/10				06/30/09				6/30/10				6/30/09
Net loss			($13,629	)			($9,075	)			($12,501	)			($15,324	)
Other comprehensive income (loss) , net of tax
Unrealized gains on securities
Unrealized holding gains (losses) arising during period			381				(350	)			387				(757	)
Less: reclassification adjustment for gains included in net income			—				270				69				465
Tax effects			—				27				—				99
Other comprehensive income (loss)			381				(53	)			456				(193	)
Comprehensive income (loss)			($13,248	)			($9,128	)			($12,045	)			($15,517	)

The accompanying notes are an integral part of these condensed consolidated statements.

DEARBORN BANCORP, INC. AND SUBSIDIARY
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)

		Six Months Ended
(In thousands)		6/30/2010				6/30/2009
Cash flows from operating activities
Interest and fees received		$	24,122			$	27,726
Interest paid			(7,335	)			(13,276	)
Proceeds from sale of mortgages held for sale			10,254				21,654
Origination of mortgages held for sale			(10,170	)			(19,561	)
Taxes refunded			4,074				—
(Gain) loss on sale of real estate owned			32				(3	)
Gain on sale of securities			(69	)			465
Cash paid to suppliers and employees			(13,431	)			(13,043	)
Net cash provided by operating activities			7,477				3,962
Cash flows from investing activities
Sale of securities available for sale			8,289				50,126
Proceeds from calls, maturities and repayments of of securities available for sale			2,538				51,033
Purchases of securities available for sale			(10,689	)			(21,459	)
Purchase of Federal Home Loan Bank stock			—				(84	)
Decrease in loans, net of payments received			28,276				24,281
Proceeds from the sale of real estate owned			1,215				1,217
Purchases of property and equipment			(55	)			(177	)
Net cash provided by investing activities			29,574				104,937
Cash flows from financing activities
Net decrease in non-interest bearing deposits			7,574				2,435
Net increase in interest bearing deposits			(47,865	)			(127,663	)
Increase (decrease) in other borrowings			—				(255	)
Repayments on Federal Home Loan Bank advances			(56	)			8,936
Net cash provided by financing activities			(40,347	)			(116,547	)
Decrease in cash and cash equivalents			(3,296	)			(7,648	)
Cash and cash equivalents at the beginning of year			77,497				53,002
Cash and cash equivalents at the end of year		$	74,201			$	45,354

The accompanying notes are an integral part of these condensed consolidated statements.

DEARBORN BANCORP, INC. AND SUBSIDIARY
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) (Continued)

		Six Months Ended
(In thousands)		6/30/2010				6/30/2009
Reconciliation of net loss to net cash provided by operating activities
Net loss			($12,501	)			($15,324	)
Adjustments to reconcile net income to net cash provided by operating activities
Provision for loan losses			11,903				24,337
Depreciation and amortization expense			525				665
Restricted stock award expense			32				44
Stock option expense			32				39
Accretion of discount on investment securities			(41	)			149
Amortization of premium on investment securities			222				—
Write-down of real estate owned			4,349				1,860
Amortization of intangible assets			—				397
(Increase) decrease in mortgages held for sale			(40	)			1,774
(Increase) decrease in interest receivable			381				(13	)
Decrease in interest payable			(105	)			(591	)
(Increase) decrease in other assets			3,659				(9,829	)
Increase (decrease) in other liabilities			(939	)			454
Net cash provided by operating activities		$	7,477			$	3,962
Supplemental noncash disclosures:
Transfers from loans to real estate owned		$	6,374			$	10,803

The accompanying notes are an integral part of these condensed consolidated statements.

DEARBORN BANCORP, INC.
FORM 10-Q (continued)

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

A.		Accounting and Reporting Policies
		The condensed consolidated financial statements of Dearborn Bancorp, Inc. (the “Corporation”) include the consolidation of its only subsidiary, Fidelity Bank (the “Bank”). The accounting and reporting policies of the Corporation are in accordance with accounting principles generally accepted in the United States of America and conform to practice within the banking industry.
		The condensed consolidated financial statements of the Corporation as of June 30, 2010 and 2009, and December 31, 2009 and for the three and six month periods ended June 30, 2010 and 2009 reflect all adjustments, consisting of normal recurring items which are in the opinion of management, necessary for a fair presentation of the results for the interim period. The condensed consolidated balance sheet of the Corporation as of December 31, 2009 has been derived from the audited consolidated balance sheet as of that date. The operating results for the three and six month periods ended June 30, 2010 are not necessarily indicative of results of operations for the entire year.
		The condensed consolidated financial statements as of June 30, 2010 and 2009, and for the three and six month periods ended June 30, 2010 and 2009 included herein have been prepared by the Corporation, without an audit, pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in interim financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted pursuant to such rules and regulations. These financial statements should be read in conjunction with the financial statements and notes thereon included in the Corporation’s 2009 Annual Report on Form 10-K.
		Certain of the Corporation’s accounting policies are important to the portrayal of the Corporation’s financial condition, since they require management to make difficult, complex or subjective judgments, some of which may relate to matters that are inherently uncertain. Estimates associated with these policies are susceptible to material changes as a result of changes in facts and circumstances. Facts and circumstances which could affect these material judgments include, but without limitation, changes in interest rates, in the performance of the economy or in the financial condition of borrowers. Management believes that its critical accounting policies include determining the allowance for loan losses and determining the fair value of securities and other financial instruments and assessing other than temporary impairments of securities.

A.		Accounting and Reporting Policies (con’t)
		Income (Loss) Per Share
		Basic income (loss) per share is net income (loss) divided by the weighted average number of common shares outstanding during the period. Diluted income (loss) per share includes the dilutive effect of additional potential common shares issuable under stock options. Income (loss) per share is restated for all stock splits and dividends through the date of issue of the financial statements.
		Factors in the basic and diluted income (loss) per share calculation follow (in thousands, except share and per share data):

		Three Months Ended								Six Months Ended
		6/30/2010				6/30/2009				6/30/2010				6/30/2009
Basic
Net income			($13,629	)			($9,075	)			($12,501	)			($15,324	)
Weighted average common shares			7,645,940				7,644,188				7,645,940				7,644,198
Basic earnings per common share			($1.78	)			($1.19	)			($1.63	)			($2.00	)
Diluted
Net income			($13,629	)			($9,075	)			($12,501	)			($15,324	)
Weighted average common shares outstanding for basic earnings per common share			7,645,940				7,644,188				7,645,940				7,644,198
Add: Dilutive effects of assumed exercise of stock options			—				—				—				—
Average shares and dilutive potential common shares			7,645,940				7,644,188				7,645,940				7,644,198
Dilutive earnings per common share			($1.78	)			($1.19	)			($1.63	)			($2.00	)

Stock options for 549,975 and 592,777 shares of common stock were not considered in computing diluted earnings per common share for the six months ended June 30, 2010 and 2009, respectively, because they were antidilutive. All share and per share amounts have been adjusted for stock dividends.

A.		Accounting and Reporting Policies (con’t)
		Current Accounting Developments
		In June 2009, the FASB issued guidance on accounting for transfers of financial assets to improve the reporting for the transfer of financial assets resulting from (1) practices that have developed since the issuance of the prior standard that are not consistent with the original intent and key requirements of the prior standard, and (2) concerns of financial statement users that many of the financial assets (and related obligations) that have been derecognized should continue to be reported in the financial statements of transferors. This guidance is included in the Codification as ASC 860. The Corporation adopted this guidance effective January 1, 2010. The adoption did not have a material impact on the Corporation’s financial position or statement of operations.
		In June 2009, the FASB issued guidance on the consolidation of variable interest entities to improve financial reporting by enterprises involved with variable interest entities and to provide more relevant and reliable information to users of financial statements. This guidance is included in the Codification as part of ASC 810. The Corporation adopted this guidance effective January 1, 2010. The adoption did not have a material impact on the Corporation’s financial position or statement of operations.
		In January 2010, the FASB issued guidance for improving disclosures about fair value measurements. The guidance requires additional disclosure in two areas: (1) a description of, as well as the disclosure of, the dollar amount of transfers in or out of Level 1 or Level 2, and (2) in the reconciliation of fair value measurements using significant unobservable inputs (Level 3), a reporting entity should present separately information about purchases, sales, issuances, and settlements. Increased disclosures regarding the transfers in/out of Level 1 and 2 are required for interim and annual periods beginning after December 15, 2009. Increased disclosures for the Level 3 fair value reconciliation are required for fiscal years beginning after December 15, 2010. The adoption of both parts of this guidance did not have a material impact on the Corporation’s consolidated financial position or statement of operations.
		In July 2010, the FASB issued guidance for improving disclosures about an entity’s allowance for loan losses and the credit quality of its loans. The guidance requires additional disclosure to facilitate financial statement users’ evaluation of the following: (1) the nature of credit risk inherent in the entity’s loan portfolio, (2) how that risk is analyzed and assessed in arriving at the allowance for loan losses, and (3) the changes and reasons for those changes in the allowance for loan losses. For public companies, increased disclosures as of the end of a reporting period are effective for periods ending on or after December 15, 2010. Increased disclosures about activity that occurs during a reporting period are effective for interim and annual reporting periods beginning on or after December 31, 2010. The Corporation is currently evaluating the requirements of this guidance, but does not expect it to have a material impact on the Corporation’s consolidated financial position or statement of operations.

B.		Securities
		The amortized cost and fair value of securities available for sale are as follows (in thousands):

		June 30, 2010
						Gross				Gross
		Amortized				Unrealized				Unrealized				Fair
		Cost				Gains				Losses				Value
US Government sponsored agency securities		$	2,008			$	—			$	—			$	2,008
Corporate bonds			43,778				320				—				44,098
Mortgage backed securities			63				2				—				65
Totals		$	45,849			$	322			$	—			$	46,171

		December 31, 2009
						Gross				Gross
		Amortized				Unrealized				Unrealized				Fair
		Cost				Gains				Losses				Value
US Government sponsored agency securities		$	12,759			$	20				($30	)		$	12,749
Corporate bonds			33,308				—				(197	)			33,111
Mortgage backed securities			101				3				—				104
Totals		$	46,168			$	23				($227	)		$	45,964

The amortized cost and fair value of securities available for sale at June 30, 2010 by contractual maturity are shown below (in thousands):

		Amortized				Fair
		Cost				Value
Due in one year through five years		$	45,786			$	46,106
Mortgage backed securities			63				65
Totals		$	45,849			$	46,171

The entire portfolio has a net unrealized gain of $322,000 at June 30, 2010, compared to net unrealized loss of $204,000 at December 31, 2009. The Corporation does not hold or utilize derivatives.

The Corporation did not hold any securities with unrealized losses at June 30, 2010.

B. Securities (con’t)

Sales of available for sale securities for the three and six month periods ended June 30, 2010 and 2009 are as follows (in thousands):

		For the three months ended								For the six months ended
		6/30/2010				6/30/2009				6/30/2010				6/30/2009
Gross Gains		$	—			$	272			$	69			$	467
Gross Losses			—				2				—				2

Securities having a carrying value of $22,627,000 and $5,524,000 at June 30, 2010 and December 31, 2009, respectively, were pledged to secure clearing requirements and borrowings.

The Corporation holds two single issuer trust preferred securities that are classified as securities held to maturity. The amortized cost and fair value of securities, held to maturity are listed below (in thousands):

		June 30, 2010
						Gross				Gross
		Amortized				Unrealized				Unrealized				Fair
		Cost				Gains				Losses				Value
Trust preferred securities		$	336			$	42			$	—			$	378
Totals		$	336			$	42			$	—			$	378

		December 31, 2009
						Gross				Gross
		Amortized				Unrealized				Unrealized				Fair
		Cost				Gains				Losses				Value
Trust preferred securities		$	336			$	—			$	—			$	336
Totals		$	336			$	—			$	—			$	336

The contractual maturity of these securities are over five years.

The single issuer trust preferred securities were evaluated for other than temporary impairment by determining the strength of the underlying issuer and its ability to make the contractual principal and interest payments.

B. Securities (con’t)

One issuer of a trust preferred security the Corporation holds is a bank holding company, headquartered in Michigan that owns commercial banks in several states. The Corporation received a third party valuation of this security and noted the cost basis exceeded the fair value of the security. Upon further analysis, the Corporation noted that the underlying issuer commenced deferral of interest payments on this trust preferred security for up to a period of five years. This issuer has been negatively impacted by the downturn in the economy and the asset quality issues that have impacted the financial services industry in the Michigan market. Various subsidiary banks held by this issuer have been downgraded to adequately-capitalized status as of June 30, 2010. The Corporation believes that based upon the continued deterioration of asset quality and regulatory capital ratio of this issuer results in an other-than-temporary impairment that is credit related. As a result, the Corporation recorded an other-than-temporary impairment charge of $414,000 during 2009.

Credit losses on debt securities held		Amount
Balance, January 1, 2010		$	414
Additions related to other than temporary Losses not previously recognized			—
Balance, June 30, 2010		$	414

C. Loans and Allowance for Loan Losses

Major categories of loans included in the loan portfolio are as follows (in thousands):

		6/30/10				12/31/09				06/30/09
Consumer loans		$	28,017			$	29,386			$	30,270
Commercial, financial, & other			134,199				144,630				157,438
Land development loans — residential property			29,233				38,472				48,454
Land development loans — non residential property			9,427				11,644				13,405
Commercial real estate construction — residential property			11,060				13,287				13,125
Commercial real estate construction — non residential property			17,935				20,061				22,518
Commercial real estate mortgages			511,265				531,156				549,275
Residential real estate mortgages			41,896				44,500				48,083
			783,032				833,136				882,568
Allowance for loan losses			(31,574	)			(35,125	)			(22,422	)
		$	751,458			$	798,011			$	860,146

The following is a summary of non-performing assets and problems loans (in thousands):

		6/30/10				12/31/09				06/30/09
Troubled debt restructuring		$	38,530			$	59,420			$	46,714
Over 90 days past due and still accruing			—				—				—
Non-accrual loans			75,146				49,341				57,610
Total non-performing loans			113,676				108,761				104,324
Real estate owned			23,976				23,435				17,434
Other repossessed assets			—				—				—
Other non-performing assets			23,976				23,435				17,434
Total non-performing assets		$	137,652			$	132,196			$	121,758

The most significant proportion of the Bank’s non-performing loans continues to be in the land development and commercial real estate construction segments of the Bank’s loan portfolio. These loans comprise 9% of loans and 36% of non accrual loans at June 30, 2010. Management has implemented a strategy to decrease the amount of loans in these segments. These loans have decreased 19% during the first six months of 2010, while the loan portfolio has declined by 6% during the same period.

The distribution of non-accrual loans by loan type (in thousands) is as follows:

		Number of
		Loans				Balance
Consumer loans			16			$	1,051
Commercial, financial, & other			46				14,134
Land development loans — residential property			19				17,001
Land development loans — non residential property			1				1,319
Commercial real estate construction — residential property			10				8,213
Commercial real estate construction — non residential property			1				333
Commercial real estate mortgages			65				30,530
Residential real estate mortgages			13				2,565
Total non-accrual loans			171			$	75,146

C. Loans and Allowance for Loan Losses (con’t)

The increase in non-accrual loans during the period was primarily due to the downgrading of 66 loans to non-accrual status for $42,796,000 and partially offset by net charge-offs of $15,454,000 and the transfer of 12 loans to other real estate for $6,374,000. This increase was primarily due to the migration of previously identified classified loans. Of this increase, all but approximately $3,070,000 were identified at December 31, 2009 as classified loans with reserves for losses established accordingly. As these loans were identified as classified loans with the appropriate risk allocation in the allowance for loan losses at December 31, 2009, the migration of these loans to non-accrual status did not have a significant impact on the allowance for loan losses.

The following is an analysis of the allowance for loan losses (in thousands):

		Six Months Ended				Year Ended				Six Months Ended
		06/30/10				12/31/09				06/30/09
Balance, beginning of year		$	35,125			$	14,452			$	14,452
Charge-offs:
Consumer loans			419				1,154				539
Commercial, financial & other			2,725				4,878				2,490
Land development loans — residential property			7,185				9,441				5,308
Land development loans — non residential property			300				4,364				2,356
Commercial real estate construction — residential property			1,712				1,471				1,176
Commercial real estate construction — non residential property			36				1,981				430
Commercial real estate mortgages			3,023				6,919				3,708
Residential real estate mortgages			221				701				621
Recoveries:
Consumer loans			33				176				11
Commercial, financial & other			61				339				189
Land development loans — residential property			14				107				28
Commercial real estate construction — residential property			1				0				0
Commercial real estate mortgages			18				61				26
Residential real estate mortgages			40				36				7
Net charge-offs (recoveries)			15,454				30,190				16,367
Provision for loan losses			11,903				50,863				24,337
Balance, end of period		$	31,574			$	35,125			$	22,422
Allowance to total loans			4.03	%			4.22	%			2.54	%
Allowance to nonperforming assets			27.78	%			32.30	%			21.49	%
Net charge-offs to average loans			1.90	%			3.40	%			1.80	%

C.

Loans and Allowance for Loan Losses (con’t)

		The Bank recorded net charge-offs of $15,454,000 during the six months ended June 30, 2010. Specific allocations of $4,058,000 were recorded on these loans at December 31, 2009. These specific allocations were assigned as of December 31, 2009 based on information that was received in 2010 but where deterioration of the credits related to events that occurred in 2009. Accordingly, the provision for loan losses related to the charge-off of these loans was recorded during the fourth quarter of 2009. Additionally, net charge-offs of $3,667,000 were due to a change in the methodology relating to the valuation of residential building lots. This change was related to the evaluation of appraisals of this type of collateral, where the appraised value of developed residential building lots was required to be discounted based on the absorption factor associated with the collateral. The remaining charge-offs of $7,729,000 were due to the further deterioration of credits during 2010 and updated appraisals received during 2010. The reserves established for classified loans are based on the information currently available to the Corporation. However, in these challenging economic conditions, information could become known in the future that could materially alter our estimate.
		A primary factor in the continued decline in the underlying value of our collateral and the decision to recognize these charge-offs was the continuing decline during the first six months of 2010 in the economic environment in Southeastern Michigan. This decline in economic conditions is heavily impacted by conditions and events that impacted the automotive industry during 2009 and continues to impact the local economy. These conditions have had a negative impact on the residential real estate and commercial real estate markets in the Bank’s market area and these loans represent 79% of the Bank’s loan portfolio. These conditions have led to an increase in the Bank’s classified assets during 2010. Management has recognized this trend in our analysis of the allowance for loan losses at June 30, 2010. The allowance for loan losses was based upon management’s assessment of relevant factors, including loan growth, types and amounts of non-performing loans, historical and anticipated loss experience on such types of loans, and current economic conditions. If collateral values continue to decline, additions to the allowance for loan losses will be required and will have an adverse effect on the Corporation’s earnings through increases to the provision for loan losses.

The aggregate balance in impaired loans are as follows (in thousands):

		06/30/10				12/31/09				06/30/09
Impaired loans with no allocated allowance for loan losses		$	72,655			$	83,226			$	104,324
Impaired loans with allocated allowance for loan losses			44,080				43,553				—
Total		$	116,735			$	126,779			$	104,324
Amount of the allowance for loan loss allocated		$	10,460			$	10,715			$	—

These loans have been evaluated under impairment standards and have been either charged down to the collateral value or the collateral value exceeds the loan balance.

D.		Incentive Stock Plans
		Incentive stock awards have been granted to officers and employees under two Incentive Stock Plans. The first plan is the 1994 Stock Option Plan. Options to buy common stock have been granted to officers and employees under the 1994 Stock Option Plan, which provides for issue of up to 738,729 shares. Exercise price is the market price at date of grant. The maximum option term is ten years, and options vest fully after six months from the date of grant.

There were 29,391 shares forfeited during the six month ended June 30, 2010. There were no options exercised during the six months ended June 30, 2010. For the options outstanding at June 30, 2010, the range of exercise prices was $4.94 to $14.65 per share with a weighted-average remaining contractual term of 1.7 years. At June 30, 2010, options for 331,010 shares were exercisable at weighted average exercise price of $8.97 per share. There was no intrinsic value at June 30, 2010.

During 2005, the Corporation initiated the 2005 Long-Term Incentive Plan. Under this plan, up to 347,248 shares may be granted to officers and employees of the Bank. This plan provides that stock awards may take the form of any combination of options, restricted shares, restricted share units or performance awards.

The administration of the plan, including the granting of awards and the nature of those awards is determined by the Corporation’s Compensation Committee. The Corporation’s Board of Directors approved grants of stock options and restricted stock in 2005, 2006 and 2008. The awards have a term of ten years and typically vest fully three years from the grant date. In order for vesting to occur with some grants, the Corporation must meet certain performance criteria over the vesting period. The expected compensation cost of the 2005 plan is being calculated assuming the Corporation’s attainment of “target” performance goals over the vesting period of the awards. The actual cost of these awards could range from zero to 100% of the currently recorded compensation cost, depending on the Corporation’s actual performance. The awards granted in 2005 and 2006 did have such performance criteria. The awards granted in 2008 did not have performance criteria.

Stock Options Granted — Stock options were awarded to officers in 2005, 2006 and 2008. The incentive stock options were granted with exercise prices equal to market prices on the day of grant. At June 30, 2010, there were stock options outstanding for 170,846 shares with a weighted average exercise price of $5.46 per share.

The Corporation recognized stock option compensation expense of $32,000 and $39,000 during the six months ended June 30, 2010 and 2009, respectively. Compensation cost of $62,000 and $26,000 is expected to be recognized during 2010 and 2011, respectively.

Restricted Stock Grants — Restricted stock was awarded to officers in 2005, 2006 and 2008. The restricted stock is eligible to vest three years from grant date. Upon full vesting, restricted shares are transferred to common shares. At June 30, 2010, there were 39,765 shares of restricted stock outstanding.

D.		Incentive Stock Plans (con’t)
		The Corporation recognized restricted stock compensation expense of $31,000 and $44,000, respectively during the six months ended June 30, 2010 and 2009, respectively. Compensation cost of $62,000 and $26,000 is expected to be recognized during 2010 and 2011, respectively.

E.

Fair Value of Assets and Liabilities

The Corporation has adopted fair value guidance which defines fair value, establishes a framework for measuring fair value and expands disclosures about fair value measurements.

Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. A fair value hierarchy was also established which requires an entity to maximize the use of observable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair value:

	Level 1 —		Quoted prices in active markets for identical assets or liabilities.
	Level 2 —		Observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities. Observable inputs may include available credit information and bond terms and conditions of similar securities, market spreads, cash flow analysis and market concensus prepayment speeds.
			Level 2 securities include U.S. agency and U.S. government sponsored enterprise mortgage-backed securities. Level 2 securities are valued by a third party pricing service commonly used in the banking industry utilizing observable inputs. The pricing provider utilizes evaluated pricing models that vary based on asset class. These models incorporate available market information including quoted prices of securities with similar characteristics and, because many fixed-income securities do not trade on a daily basis, apply available information through processes such as benchmark curves, benchmarking of like securities, sector grouping and matrix pricing. In addition, model processes, such as an option adjusted spread model is used to develop prepayment and interest rate scenarios for securities with prepayment features.
	Level 3 —		Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.

E.		Fair Value of Assets and Liabilities ( con’t)
		Following is a description of the valuation methodologies used for instruments measured at fair value on a recurring basis and recognized in the accompanying balance sheet, as well as the general classification of such instruments pursuant to our valuation hierarchy.

Securities available for sale

Fair values of securities, available for sale are estimated by a third party using inputs that are observable or that can be corroborated by observable market data and, therefore, are classified within Level 2 of the valuation hierarchy.

The following table presents the fair value measurements of the Corporation’s assets and liabilities recognized in the accompanying balance sheet measured at fair value on a recurring basis and the level within the ASC 820 fair value hierarchy in which the fair value measurements fall at June 30, 2010 and December 31, 2009 (in thousands):

						Quoted Prices in				Significant Other				Significant
						Active Markets for				Observable				Unobservable
		Fair				Identical Assets				Inputs				Inputs
At 6/30/2010		Value				(Level 1)				(Level 2)				(Level 3)
US Government sponsored agency securities		$	2,008			$	—			$	2,008			$	—
Corporate bonds			44,098				—				44,098				—
Mortgage backed securities			65				—				65				—
Total securities, available for sale		$	46,171			$	—			$	46,171			$	—

						Quoted Prices in				Significant Other				Significant
						Active Markets for				Observable				Unobservable
		Fair				Identical Assets				Inputs				Inputs
At 12/31/2009		Value				(Level 1)				(Level 2)				(Level 3)
US Government sponsored agency securities		$	12,749			$	—			$	12,749			$	—
Corporate bonds			33,111				—				33,111				—
Mortgage backed securities			104				—				104				—
Total securities, available for sale		$	45,964			$	—			$	45,964			$	—

E.		Fair Value of Assets and Liabilities ( con’t)
		Impaired loans and other real estate owned

Fair value adjustments for impaired and non-accrual loans typically occur when there is evidence of impairment. Loans are designated as impaired when, in the judgment of management based on current information and events, it is probable that all amounts due according to the contractual terms of the loan agreement will not be collected. The measurement of loss associated with impaired loans can be based on either the observable market price of the loan or the fair value of the collateral. The Company measures fair value based on the value of the collateral securing the loans. Collateral may be in the form of real estate or personal property including equipment and inventory. The value of the collateral is determined based on internal estimates as well as third party appraisals or non-binding broker quotes. These measurements were classified as Level 3. The fair value of the Company’s other real estate owned is determined using Level 3 inputs, which include current and prior appraisals and estimated costs to sell.

The following table presents the fair value measurements of the Corporation’s assets and liabilities recognized in the accompanying balance sheet measured at fair value on a non-recurring basis and the level within the fair value hierarchy in which the fair value measurements fall at June 30, 2010 and December 31, 2009 (in thousands):

						Quoted Prices in				Significant Other				Significant
						Active Markets for				Observable				Unobservable
						Identical Assets				Inputs				Inputs
At 6/30/2010		Fair Value				(Level 1)				(Level 2)				(Level 3)
Impaired loans (collateral dependent)		$	64,432			$	—			$	—			$	64,432
Other real estate		$	11,176			$	—			$	—			$	11,176

						Quoted Prices in				Significant Other				Significant
						Active Markets for				Observable				Unobservable
						Identical Assets				Inputs				Inputs
At 12/31/2009		Fair Value				(Level 1)				(Level 2)				(Level 3)
Impaired loans (collateral dependent)		$	60,905			$	—			$	—			$	60,905
Other real estate		$	7,601			$	—			$	—			$	7,601

E.		Fair Value of Assets and Liabilities ( con’t)
		The carrying amounts and estimated fair value of principal financial assets and liabilities were as follows (in thousands):

		At June 30, 2010								At December 31, 2009
		Carrying				Fair				Carrying				Fair
		Amount				Value				Amount				Value
Assets:
Cash and cash equivalents		$	74,201			$	74,201			$	77,497			$	77,497
Mortgage loans held for sale			1,169				1,186				1,129				1,146
Securities available for sale			46,171				46,171				45,964				45,964
Securities held to maturity			336				378				336				336
Federal Home Loan Bank Stock			3,698				3,698				3,698				3,698
Loans, net			783,032				780,204				833,136				829,122
Accrued interest receivable			3,181				3,181				3,562				3,562
Liabilities:
Deposits			827,664				828,241				867,955				871,177
Federal Home Loan Bank advances			63,799				64,318				63,855				64,275
Subordinated debentures			10,000				4,081				10,000				4,081
Accrued interest payable			941				941				1,046				1,046