10-Q 1 j1397801e10vq.txt LAUREL CAPITAL GROUP, INC. 10-Q 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: March 31, 2005 or [ ] 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: 0-23010 LAUREL CAPITAL GROUP, INC. ------------------------------------------------------ (Exact name of registrant as specified in its charter) Pennsylvania 25-1717451 ------------------------------- ------------------- (State or other jurisdiction of (IRS Employer incorporation or organization) Identification No.) 2724 Harts Run Road Allison Park, Pennsylvania 15101 --------------------------------------- ------------ (Address of principal executive office) (Zip Code) Registrant's telephone number including area code: (412) 487-7404 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[ ] Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). YES [ ] NO [X] The number of shares outstanding for each of the issuer's classes of common stock, as of the latest practicable date is: Class: Common stock, par value $.01 per share Outstanding at May 3, 2005: 1,943,000 shares LAUREL CAPITAL GROUP, INC. AND SUBSIDIARY INDEX

PART I - FINANCIAL INFORMATION Item 1. Financial Statements LAUREL CAPITAL GROUP, INC. AND SUBSIDIARY Consolidated Statements of Financial Condition (In thousands)

See accompanying notes to unaudited consolidated financial statements 1 LAUREL CAPITAL GROUP, INC. AND SUBSIDIARY Consolidated Statements of Operations (Unaudited) For the Three and Nine Months Ended March 31, 2005 and 2004 (In thousands, except per share data)

See accompanying notes to unaudited consolidated financial statements 2 LAUREL CAPITAL GROUP, INC. AND SUBSIDIARY Consolidated Statement of Stockholders' Equity (Unaudited) For the Nine Months Ended March 31, 2005 (In thousands)

See accompanying notes to unaudited consolidated financial statements 3 LAUREL CAPITAL GROUP, INC. AND SUBSIDIARY Consolidated Statements of Cash Flows (Unaudited) For the Nine Months Ended March 31, 2005 and 2004 (In thousands)

See accompanying notes to unaudited consolidated financial statements 4 LAUREL CAPITAL GROUP, INC. AND SUBSIDIARY NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS MARCH 31, 2005 AND JUNE 30, 2004 (DOLLAR AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA) (1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES BASIS OF PRESENTATION The accompanying unaudited consolidated financial statements have been prepared in accordance with the instructions for Form 10-Q and, therefore, do not include all the information or footnotes necessary for a complete presentation of financial condition, results of operations and cash flows in conformity with U.S. generally accepted accounting principles. However, all adjustments, consisting only of normal recurring adjustments which, in the opinion of management, are necessary for a fair presentation, have been included. Significant accounting policies have not changed since June 30, 2004. The results of operations for the three and nine months ended March 31, 2005 are not necessarily indicative of the results which may be expected for the entire fiscal year. The unaudited consolidated financial statements should be read in conjunction with the audited consolidated financial statements and the notes thereto included in Laurel Capital Group, Inc.'s (the "Company") 2004 Annual Report to Stockholders. All amounts presented in the Notes to Unaudited Consolidated Financial Statements are presented in thousands except share and per share data. EARNINGS PER SHARE The following table sets forth the computation of basic and diluted earnings per share:

Options to purchase 143,662 and 169,284 shares of common stock were outstanding at March 31, 2005 and 2004, respectively. The dilutive effect of these options was included in the computation of diluted earnings per share because the option exercise price for these options was less than the average market price of the common shares resulting in none of the options having an antidilutive effect. 5 SECURITIES The Company accounts for investments in debt and equity securities in accordance with the Financial Accounting Standards Board's ("FASB") Statement No. 115 ("SFAS 115"). SFAS 115 requires that investments be classified as either: (1) Securities Held to Maturity- reported at amortized cost, (2) Trading Securities- reported at fair value, or (3) Securities Available for Sale- reported at fair value. Unrealized gains and losses for trading securities are reported in earnings while unrealized gains and losses for securities available for sale are reported as other comprehensive income in stockholders' equity. COMPREHENSIVE INCOME The Company reports Comprehensive Income in accordance with SFAS No. 130 which establishes standards for the reporting and display of comprehensive income and its components (revenues, expenses, gains, and losses) in a full set of general purpose financial statements. SFAS No. 130 requires that all items that are required to be recognized under accounting standards as components of comprehensive income be reported in a financial statement that is displayed with the same prominence as other financial statements. SFAS No. 130 requires that an enterprise (a) classify items of other comprehensive income by their nature in a financial statement and (b) display the accumulated balance of other comprehensive income separately from retained earnings and additional paid-in capital in the equity section of a statement of financial position. For the nine months ended March 31, 2005 and 2004, the Company's total comprehensive income was $1,254 and $1,185, respectively. Total comprehensive income is comprised of net income of $1,471 and $1,256, respectively, and other comprehensive loss of $(217) and $(71), net of tax, respectively. Other comprehensive income consists of unrealized gains and losses on investment securities and mortgage-backed securities available for sale, net of tax. LOANS RECEIVABLE Loans receivable are stated at unpaid principal balances net of the allowance for possible loan losses, net deferred loan fees and discounts. The Company accounts for impaired loans in accordance with SFAS 114, "Accounting by Creditors for Impairment of a Loan" and SFAS 118, "Accounting by Creditors for Impairment of a Loan - Income Recognition and Disclosures", an amendment of SFAS 114. These statements address the accounting by creditors for impairment of certain loans. They apply to all creditors and to all loans, uncollateralized as well as collateralized, except for large groups of smaller-balance homogeneous loans that are collectively evaluated for impairment. Laurel Savings Bank ("the Bank") considers all one-to-four family residential mortgage loans and all consumer loans (as presented in Note 4) to be smaller-balance homogeneous loans. Loans within the scope of these statements are considered impaired when, based on current information and events, it is probable that all principal and interest will not be collected in accordance with the contractual terms of the loans. Management determines the impairment of loans based on knowledge of the borrower's ability to repay the loan according to the contractual agreement, the borrower's repayment history and the fair value of collateral for certain collateral dependent loans. Pursuant to SFAS 114 paragraph 8, management does not consider an insignificant delay or insignificant shortfall to impair a loan. Management has determined that a delay less than 90 days will be considered an insignificant delay 6 and that an amount less than $5,000 will be considered an insignificant shortfall. The Bank does not apply SFAS 114 using major risk characteristics for groups of loans, but on a loan by loan basis. All loans are charged off when management determines that principal and interest are not collectible. The accrual of interest on all loans is discontinued when, in management's opinion, the borrower may be unable to meet payments as they become due or when the loan becomes 90 days past due, whichever occurs first. All unpaid accrued interest on such loans is reserved. Such interest ultimately collected is credited to income in the period of recovery or applied to reduce principal if there is sufficient doubt about the collectability of principal. Consumer loans more than 120 days or 180 days delinquent (depending on the nature of the loan) are generally required to be written off. Any excess of the Bank's recorded investment in the loans over the measured value of the loans in accordance with SFAS 114 is provided for in the allowance for loan losses. The Bank reviews its loans for impairment on a quarterly basis. Loans receivable classified as held for sale are recorded in the financial statements in the aggregate at the lower of cost or market. CASH AND CASH EQUIVALENTS For purposes of reporting cash flows, the Company has defined cash and cash equivalents as cash, money market investments and interest-earning deposits with other institutions. (2) CONTINGENT LIABILITIES The Company is subject to asserted and unasserted potential claims encountered in the normal course of business. In the opinion of management and legal counsel, the resolution of these claims is not expected to have a material adverse effect on the Company's financial position, liquidity or results of operations. 7 (3) INVESTMENT AND MORTGAGE-BACKED SECURITIES Investment and mortgage-backed securities available for sale are comprised of the following:

At March 31, 2005, the contractual maturities of the debt securities available for sale are:

Mortgage-backed securities have various contractual maturity dates. Actual repayments may be different due to prepayments on the loans underlying the securities. The FNMA stock, FHLMC stock, Community Reinvestment Act (CRA) Qualified Investment Fund and Shay Financial Services ARM Fund have no stated maturity. Note: Proceeds from the sale of investment and mortgage-backed securities available for sale during the nine months ended March 31, 2005 and March 31, 2004 were $0 and $3,729, respectively. Net realized gains on those sales were $0 and $35, respectively. Investment securities held to maturity are comprised of the following:

At March 31, 2005, the contractual maturities of the debt securities held to maturity are:

8 (4) LOANS RECEIVABLE Loans receivable are comprised of the following:

Changes in the allowance for loan losses for the nine months ended March 31, 2005 and 2004 are as follows:

At March 31, 2005, there are no loans that are considered to be impaired under SFAS 114.

----------------- All loans 90 days or more past due are reported as non-accrual. 9 (5) GUARANTEES The Company issues standby letters of credit in the normal course of business. Letters of credit are issued for a one-year period. The Company would be required to perform under the standby letters of credit when drawn upon by the guaranteed, in the case of nonperformance by the Company's customer. The maximum potential amount of future payments the Company could be required to make under these guarantees is $30 of which 100% is fully collateralized. Currently, the Company has not recognized a liability for the outstanding obligations, as the amount of the liability is insignificant. There are no recourse provisions that would enable the Company to recover any amounts from third parties. (6) STOCK-BASED COMPENSATION SFAS 123 allows companies to expense an estimated fair value of stock options or to continue to measure compensation expense for stock option plans using the intrinsic value method prescribed by Accounting Principles Board Opinion No. 25 ("APB No. 25"). Entities that elect to continue to measure compensation expense based on APB No. 25 must provide pro forma disclosures of net income and earnings per share as if the fair value method of accounting had been applied. The Company has elected to continue to measure compensation cost using the intrinsic value method prescribed by APB No. 25. Had the Company used the fair value method, net income and earnings per share would have been as follows (In thousands, except per share data):

There was no stock-based employee compensation expense included in reported net income during the three and nine months ended March 31, 2005 and 2004. (7) GOODWILL AND OTHER INTANGIBLE ASSETS There have been no changes in the carrying value of goodwill during the nine months ended March 31, 2005. 10 The following table provides information for intangible assets subject to amortization for the periods indicated:

The following information shows the actual amortization expense for the current year and the estimated amortization expense for each of the five succeeding fiscal years: For the nine months ended 3/31/05 $ 265 For the fiscal year ended 6/30/05 340 For the fiscal year ended 6/30/06 290 For the fiscal year ended 6/30/07 243 For the fiscal year ended 6/30/08 199 For the fiscal year ended 6/30/09 158

(8) POST-RETIREMENT BENEFITS For the nine months ended March 31, 2005, the Company had service costs and interest costs of $85 and $3, respectively related to the Supplemental Executive Retirement Plan and the Trustee Deferred Compensation/Retirement Plan. 11 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations BALANCE SHEET DATA

STATISTICAL PROFILE

-------------- (1) Amounts are annualized. 12 COMPARISON OF THE THREE MONTHS ENDED MARCH 31, 2005 AND 2004 GENERAL. Laurel Capital Group, Inc.'s (the "Company") only significant asset is the stock it owns of its wholly-owned subsidiary, Laurel Savings Bank (the "Bank"). The Company's net income for the three months ended March 31, 2005 was $522,000 compared to $433,000 for the same period in the prior year. The increase of $89,000 or 20.55% was primarily the result of a $102,000 increase in net interest income and a $44,000 decrease in total operating expenses partially offset by a $49,000 increase in income taxes and an $8,000 decrease in total other income. These and other significant fluctuations are discussed below. NET INTEREST INCOME. The Company's operating results depend substantially on the Bank's net interest income, which is determined by the average interest rate spread between the Bank's interest-earning assets and interest-bearing liabilities and the relative amounts of such assets and liabilities. Net interest income increased by $102,000 or 5.53% during the three months ended March 31, 2005 as compared to the same period of the prior year. The increase was primarily due to an $8.4 million or 2.96% increase in the average balance of net earning assets compared to the prior year. Additionally, the average interest rate spread increased slightly from 2.33% for the quarter ended March 31, 2004 to 2.35% for the quarter ended March 31, 2005. Interest income on loans receivable and loans held for sale increased by $224,000 or 8.80% during the three months ended March 31, 2005 as compared to the same period in the prior year. This increase was primarily due to an increase of $34.4 million or 20.38% in the average outstanding balance of loans receivable compared to the same period in the prior year. However, the increase in the interest income resulting from the increase in the average outstanding balance was partially offset by a decrease in the average yield on loans receivable from 6.03% for the quarter ended March 31, 2004 to 5.45% for the quarter ended March 31, 2005. The increase in the average outstanding balance of loans receivable consisted of a $37.0 million or 29.03% increase in the average outstanding balance of mortgage loans offset by a $2.5 million or 6.10% decrease in the average outstanding balance of consumer loans. Reflected in the increase in the average outstanding balance of mortgage loan are loan purchased on the secondary market totaling $11.5 million. The loans were purchased to reduce excess liquidity and were underwritten utilizing generally accepted underwriting guidelines similar to those of Fannie Mae and Freddie Mac. The decrease in the average yield was primarily the result of the re-pricing and repayment of higher yielding loans and the increased origination of adjustable rate mortgages that traditionally carry lower introductory rates of interest. Interest on mortgage-backed securities held to maturity and mortgage-backed securities available for sale increased by $27,000 or 21.09% during the quarter ended March 31, 2005 as compared to the March 31, 2004 quarter. This increase was primarily due to an increase in the average outstanding balance of mortgage-backed securities of $2.4 million or 17.56% during the quarter ended March 31, 2005 compared to the March 31, 2004 quarter. Additionally, the average yield on mortgage-backed securities increased from 3.72% for the quarter ended March 31, 2004 to 3.87% for the quarter ended March 31, 2005. The increase in the average outstanding balance of mortgage-backed securities resulted from the net effect of purchases made during the last quarter of the prior fiscal year and principal repayments made during the period. The increase in the average yield was primarily due to recovering market 13 interest rates which resulted in the upward re-pricing of adjustable rate securities. At March 31, 2005, the Bank's portfolio of mortgage-backed securities available for sale had net unrealized losses of $(56,000). This portfolio consists of fixed and adjustable rate securities with an average yield of 4.16% at March 31, 2005. There are no mortgage-backed securities in the held to maturity portfolio at March 31, 2005. See Note 3 of "Notes to Unaudited Consolidated Financial Statements." Interest income on investments held to maturity and investments available for sale decreased during the three months ended March 31, 2005 by $5,000 or 0.95% from the comparable period in 2004. The decline was due to decreases in both the average yield and the average outstanding balance of investment securities. The average outstanding balance decreased $309,000 to $59.5 million while the average yield decreased from 3.52% for the quarter ended March 31, 2004 to 3.50% for the quarter ended March 31, 2005. The decrease in the average outstanding balance was primarily due to securities being called during the period in excess of purchases. At March 31, 2005, the Bank's portfolio of investment securities available for sale and investment securities held to maturity had net unrealized gains(losses) of $58,000 and $(137,000), respectively. See Note 3 of "Notes to Unaudited Consolidated Financial Statements." Interest income on interest-earning deposits decreased during the three months ended March 31, 2005 by $37,000 or 31.09% from the comparable period in 2004. This decrease was primarily due to a decrease of $28.1 million or 65.79% in the average outstanding balance of interest-earning deposits for the quarter ended March 31, 2005 as compared to the March 31, 2004 quarter. The average yield on interest-earning deposits increased from 1.12% for the quarter ended March 31, 2004 to 2.15% for the quarter ended March 31, 2005 partially offsetting the reduction in income related to the decline in the average outstanding balance. The decrease in the average balance was primarily due to the utilization of interest-earning deposits to fund loan purchases and originations since March 31, 2004. The increase in the average yield is reflective of increases in market interest rates. Interest expense on interest-bearing deposits increased by $111,000 or 9.63% for the quarter ended March 31, 2005, compared to the same period in 2004. The increase was primarily due to an increase in the average interest rate paid on savings deposits from 1.99% for the three months ended March 31, 2004 to 2.15% for the three months ended March 31, 2005. Additionally, the average outstanding balance of such deposits increased $3.1 million or 1.34% during the three months ended March 31, 2005 as compared to the same period of the prior year. The increase in the average interest rate paid is reflective of increases in market interest rates. Interest expense on borrowings for the quarter ended March 31, 2005 compared to the quarter ended March 31, 2004 remained relatively the same. This consistency was the result of an insignificant change in the average outstanding balance of FHLB advances coupled with a constant average rate paid on borrowings of 5.81%. PROVISION FOR LOAN LOSSES. The Bank provided $3,000 to its allowance for loan losses for each of the quarters ended March 31, 2005 and March 31, 2004. Such provisions were the result of an analysis of the allowance for loan losses in connection with a review of the Bank's loan portfolio. At each of March 31, 2005 and March 31, 2004, the allowance for loan losses amounted to $2.0 million or 0.99% and 1.20% of the total loan portfolio, respectively. 14 A review of the loan portfolio is conducted at least quarterly by management to determine if the allowance for loan losses is appropriate to absorb estimated loan losses. In determining the appropriate level of the allowance for loan losses, consideration is given to general economic conditions, diversification of loan portfolios, historic loss experience, identified credit problems, delinquency levels and adequacy of collateral. In consideration of the above, management has assessed the risks in the loan portfolio and has determined that no significant changes have occurred during the nine months ended March 31, 2005. However, the allowance for loan losses as a percentage of the loan portfolio has fluctuated due to the increase in total loans receivable from $173.3 million at March 31, 2004 to $202.5 million at March 31, 2005. This increase consisted primarily of one-to-four family loans that traditionally carry lower risk of loss. Non-performing loans decreased from $1.7 million at March 31, 2004 to $833,000 at March 31, 2005 primarily due to the payoff of two loans totaling $763,000 during the period. Based on the above factors, management believes that the Company's allowance for loan losses at March 31, 2005 is appropriate. However, future additions to the reserve may be necessary due to changes in economic conditions and other factors. In addition, as an integral part of their periodic examination, certain regulatory agencies review the adequacy of the Bank's allowance for loan losses and may direct the Bank to make additions to the allowance based on their judgment. No such additions were required to be made during the Company's most recent examination. OTHER INCOME. Total other income decreased by $8,000 or 2.22% to $353,000 for the quarter ended March 31, 2005 as compared to the same period in 2004. This was the result of decreases in the net gain on the sale of investments and mortgage-backed securities available for sale and income from bank owned life insurance of $22,000 and $9,000, respectively. These decreases were to a large extent offset by a $19,000 increase in other operating income and a $3,000 increase in service charges. OPERATING EXPENSES. Total operating expenses decreased by $44,000 or 2.79% during the quarter ended March 31, 2005 as compared to the same quarter in 2004. This decrease was primarily due to a $42,000 decrease in professional fees, a $34,000 decrease in compensation and benefits expense and a $14,000 decrease in the amortization of the core deposit intangible associated with the acquisition of SFSB Holding Company. These decreases were partially offset by an increase of $20,000 in premises and occupancy expense and an increase of $17,000 in other operating expenses. Additionally, there was an increase of $9,000 with regard to data processing expenses. The decrease in professional fees was the result of lower legal and audit fees during the period as well as a decrease in professional fees due to the timing of certain annual expenses. The decrease in compensation and benefits expense relates primarily to the expiration of compensation agreements related to the acquisition of SFSB Holding Company and a change in vesting periods for certain retirement benefits. The increase in premises and occupancy expense was primarily the result of increased insurance expenses during the period. INCOME TAX EXPENSE. Income tax expense increased by $49,000 for the quarter ended March 31, 2005 as compared to the quarter ended March 31, 2004 primarily as a result of higher pre-tax income. The effective tax rate increased slightly from 30.83% for the 2004 quarter to 31.68% for the 2005 quarter. 15 COMPARISON OF THE NINE MONTHS ENDED MARCH 31, 2005 AND 2004 GENERAL. The Company's net income for the nine months ended March 31, 2005 was $1.5 million compared to $1.3 million for the same period in the prior year. The increase of $215,000 or 17.12% was primarily the result of a $368,000 increase in net interest income and a $116,000 decrease in other operating expenses partially offset by a $211,000 increase in income taxes and a $58,000 decrease in other income. These and other significant fluctuations are discussed below. NET INTEREST INCOME. Net interest income increased by $368,000 or 7.02% during the nine months ended March 31, 2005 as compared to the same period of the prior year. The increase was primarily due to a shift within the portfolio of interest-earning assets from lower yielding interest-earning deposits to higher yielding mortgage loans. The overall increase in the average balance of net earning assets was $585,000 or 0.20%. Additionally, the average interest rate spread increased from 2.16% for the nine months ended March 31, 2004 to 2.29% for the nine months ended March 31, 2005. Interest income on loans receivable and loans held for sale increased by $284,000 or 3.70% during the nine months ended March 31, 2005 as compared to the same period in the prior year. This increase was primarily due to an increase in the average outstanding balance of loans receivable of $27.7 million or 16.66%. The increase in the average outstanding balance of loans receivable consisted of a $31.1 million or 25.15% increase in the average outstanding balance of mortgage loans combined with a $3.4 million or 7.94% decrease in the average outstanding balance of consumer loans. The impact of the increase in the average outstanding balance was to a large extent offset by a decrease in the yield on loans receivable from 6.15% for the nine months ended March 31, 2004 to 5.46% for the nine months ended March 31, 2005. The decrease in the average yield was primarily the result of the re-pricing and repayment of higher yielding loans and the increased origination of adjustable rate mortgages that traditionally carry lower introductory rates of interest. The increase in the average balance of loans receivable was the result of significant decreases in the amount of loan repayments along with loan purchases and originations during the period. Interest on mortgage-backed securities held to maturity and mortgage-backed securities available for sale increased by $157,000 or 43.85% during the nine months ended March 31, 2005 as compared to the same period in the prior year. This increase was primarily due to an increase in the average outstanding balance of mortgage-backed securities of $6.5 million or 55.87% during the period as a result of purchases made in the fourth quarter of the prior fiscal year. The average yield on mortgage-backed securities decreased from 4.09% to 3.78% for the nine months ended March 31, 2004 and 2005, respectively. The decrease in the average yield on mortgage-backed securities was primarily due to the downward re-pricing of adjustable rate mortgage-backed securities. Interest income on investments held to maturity and investments available for sale increased during the nine months ended March 31, 2005 by $59,000 or 4.01% from the comparable period in 2004. This increase was due to both an increase in the average yield on investment securities and an increase in the average outstanding balance of such securities. The average yield increased from 3.36% for the nine months ended March 31, 2004 to 3.43% for the nine months ended 16 March 31, 2005. The average outstanding balance increased $1.2 million or 1.98% during the period. Interest income on interest-earning deposits decreased during the nine months ended March 31, 2005 by $178,000 or 39.29% from the comparable period in 2004. This decrease was primarily due to a decrease of $34.8 million or 63.66% in the average outstanding balance of interest-earning deposits for the nine months ended March 31, 2005 as compared to the same period in the prior year. This decrease was partially offset by an increase in the average yield on interest-earning deposits from 1.11% for the nine months ended March 31, 2004 to 1.84% for the nine months ended March 31, 2005. The decrease in the average balance was primarily the result of the funding of new loans and purchases of mortgage-backed and investment securities. Interest expense on interest-bearing deposits decreased by $33,000 or 0.88% for the nine months ended March 31, 2005 compared to the same period in 2004. The decrease was primarily due to a decrease of $2.5 million or 1.05% in the average outstanding balance of savings deposits. The average interest rate paid on savings deposits remained constant at 2.09% for both the nine months ended March 31, 2004 and the nine months ended March 31, 2005. Interest expense on borrowings for the nine months ended March 31, 2005 compared to the nine months ended March 31, 2004 decreased $13,000 or 1.34%. This decrease was primarily due to a $1.5 million or 6.41% decrease in the average outstanding balance of FHLB advances. Partially offsetting the decrease related to the change in the average balance was an increase in the average rate from 5.52% at March 31, 2004 to 5.81% at March 31, 2005. PROVISION FOR LOAN LOSSES. The Bank provided $9,000 to its allowance for loan losses for each of the nine months ended March 31, 2005 and 2004. Such provisions were the result of an analysis of the allowance for loan losses in connection with a review of the Bank's loan portfolio. See additional discussion in "Provision for Loan Losses" Section on pages 14 and 15. OTHER INCOME. Total other income decreased by $58,000 or 5.09% for the nine months ended March 31, 2005 as compared to the same period in 2004. This was primarily the result of a $35,000 decrease in the net gain on the sale of investments and mortgage-backed securities available for sale and a $22,000 decrease in the income from bank owned life insurance. Additionally, there was a $10,000 decrease in service charge income. These decreases were slightly offset by a $9,000 increase in other operating income. The decrease in income from bank owned life insurance was primarily the result of decreases in the yields earned through the various carriers during the period. OPERATING EXPENSES. Total operating expenses decreased by $116,000 or 2.48% during the nine months ended March 31, 2005 as compared to the same period in 2004. This decrease was primarily due to a $52,000 decrease in other operating expenses, a $48,000 decrease in compensation and benefits and a $41,000 decrease in the amortization of the core deposit intangible associated with the acquisition of SFSB Holding Company. These decreases were partially offset by a $27,000 increase in premises and occupancy expense. The decrease in other operating expenses was the result of increased efficiencies attained throughout the period with regard to various items. The decrease in compensation and benefits expense is primarily the result of reductions in officer and director compensation related to the expiration 17 of compensation agreements related to the acquisition of SFSB Holding Company and the retirement of a director during the period. Premises and occupancy expense increased due to increased repair and maintenance expense and furniture, fixture and equipment expense. INCOME TAX EXPENSE. Income tax expense increased by $211,000 or 46.68% for the nine months ended March 31, 2005 as compared to the nine months ended March 31, 2004 primarily as a result of higher pre-tax income. Additionally, the effective tax rate increased from 26.46% for the nine months ended March 31, 2004 to 31.07% for the same period in 2005. FINANCIAL CONDITION AND CAPITAL RESOURCES Total assets increased by $8.4 million or 2.79% from June 30, 2004 to March 31, 2005. This increase was comprised of an increase in loans receivable, net of $29.2 million offset, to a large extent, by a $13.6 million decrease in interest-earning deposits with other institutions, a $6.0 million decrease in mortgage-backed securities available for sale and a $2.0 million decrease in investment securities available for sale. The largest component of change in liabilities was a $7.1 million increase in savings deposits. The increase in savings deposits was primarily utilized to fund the increase in loans receivable, net mentioned above. Under regulations adopted by the Federal Deposit Insurance Corporation ("FDIC"), the Bank is required to maintain Tier I (Core) capital equal to at least 4% of the Bank's adjusted total assets, and Tier II (Supplementary) risk-based capital equal to at least 8% of the risk-weighted assets. At March 31, 2005, the Bank exceeded all of these requirements, with Tier I and Tier II ratios of 7.64% and 16.08%, respectively. The following table sets forth certain information concerning the Bank's regulatory capital at March 31, 2005.

18 ------------------------------- (1) Represents tier I capital of the Bank as reported to the FDIC and the Pennsylvania Department of Banking on Form 041 for the three months ended March 31, 2005. (2) Limited to 1.25% of risk adjusted assets. (3) Tier I capital is calculated as a percentage of adjusted total assets of $305,610. Tier I and Tier II risk-based capital are calculated as percentage of adjusted risk-weighted assets of $157,401. IMPACT OF INFLATION AND CHANGING PRICES The financial statements and related data presented herein have been prepared in accordance with U.S. generally accepted accounting principles, which require the measurement of financial position and operating results in terms of historical dollars without considering changes in the relative purchasing power of money over time due to inflation. Unlike most industrial companies, substantially all of the assets and liabilities of a financial institution are monetary in nature. As a result, interest rates have a more significant impact on a financial institution's performance than the effects of general levels of inflation. Interest rates do not necessarily move in the same direction or in the same magnitude as the prices of goods and services as measured by the consumer price index. CRITICAL ACCOUNTING POLICIES Various elements of the Company's accounting policies, by their nature, are inherently subject to estimation techniques, valuation assumptions and other subjective assessments. The estimates made with respect to the methodologies used to determine the allowance for loan losses is the Company's most critical accounting estimate. Critical accounting estimates are significantly affected by management judgment and uncertainties and there is a likelihood that materially different amounts would be reported under different, but reasonably plausible, conditions or assumptions. The following is a description of the Company's critical accounting estimate, allowance for loan losses, and an explanation of the methods and assumptions underlying its application. ALLOWANCE FOR LOAN LOSSES. The allowance for loan losses reflects the estimated losses resulting from the inability of the Company's borrowers to make required loan payments. The allowance for loan losses is established through a provision for loan losses that is charged to expense. Loans are charged against the allowance for loan losses when management believes that the collectibility of the principal is unlikely. Subsequent recoveries are added to the allowance. At least quarterly, management reviews the Company's loan portfolio to determine if the allowance for loan losses is appropriate to absorb the estimated losses. In determining the appropriate level of the allowance for loan losses, consideration is given to general economic conditions, diversification of loan portfolios, historic loss experience, identified credit problems, delinquency levels and adequacy of collateral. In consideration of the above, management has assessed the risks in the loan portfolio and has determined that no significant changes have occurred during the nine months ended March 31, 2005. Thus, the 19 level of the allowance for loan losses as a percentage of the loan portfolio is substantially unchanged from June 30, 2004. Although management believes that the current allowance for loan losses is appropriate, future additions to the reserve may be necessary due to changes in economic conditions and other factors. Historically, the Company's estimates of the allowance for loan losses have not required significant adjustments from management's initial estimates. Additionally, as an integral part of their periodic examination, certain regulatory agencies review the adequacy of the Bank's allowance for loan losses and may direct the Bank to make additions to the allowance based on their judgment. No such additions were required to be made during the Company's most recent examination. For additional information on the Company's allowance for loan losses see Note 4 "Loans Receivable" on page 9 and the discussion on "Provision for Loan Losses" on pages 14 and 15 herein. ACCOUNTING DEVELOPMENTS In April 2005, the Securities and Exchange Commission adopted a new rule that amends the compliance dates for Financial Accounting Standards Board's ("FASB") Statement of Financial Accounting Standards No. 123 (revised 2004), Share-Based Payment ("FAS No. 123R"). The Statement requires that compensation cost relating to share-based payment transactions be recognized in financial statements and that this cost be measured based on the fair value of the equity or liability instruments issued. FAS No. 123R covers a wide range of share-based compensation arrangements including share options, restricted share plans, performance-based awards, share appreciation rights, and employee share purchase plans. The amended compliance dates make FAS No. 123R effective for interim or annual periods beginning after December 31, 2005. The Company does not anticipate any material impact on the Company's results of operations as a result of adoption of this statement since all of the Company's current outstanding options are vested. In December 2004, FASB issued FAS No. 153, "Exchanges of Nonmonetary Assets - An Amendment of APB Opinion No. 29". The guidance in APB Opinion No. 29, "Accounting for Nonmonetary Transactions", is based on the principle that exchanges of nonmonetary assets should be measured based on the fair value of the assets exchanged. The guidance in that Opinion, however, included certain exceptions to that principle. FAS No. 153 amends Opinion No. 29 to eliminate the exception for nonmonetary exchanges of similar productive assets and replaces it with a general exception for exchanges of nonmonetary assets that do not have commercial substance. A nonmonetary exchange has commercial substance if the future cash flows of the entity are expected to change significantly as a result of the exchange. The provisions of FAS No. 153 are effective for nonmonetary asset exchanges occurring in fiscal periods beginning after June 15, 2005. Early application is permitted and companies must apply the standard prospectively. The adoption of this standard is not expected to have a material effect on the Company's results of operations or financial position. In October 2003, the American Institute of Certified Public Accountants issued SOP 03-3, "Accounting for Loans or Certain Debt Securities Acquired in a Transfer". SOP 03-3 applies to a loan that is acquired where it is probable, at acquisition, that a transferee will be unable to collect all contractually required payments receivable. SOP 03-3 requires the recognition, as accretable yield, of the excess of all cash flows expected at acquisition over the investor's initial investment in the loan as 20 interest income on a level-yield basis over the life of the loan. The amount by which the loan's contractually required payments exceed the amount of its expected cash flows at acquisition may not be recognized as an adjustment to yield, a loss accrual, or a valuation allowance for credit risk. SOP 03-3 is effective for loans acquired in fiscal years beginning after December 31, 2004. Early adoption is permitted. The adoption of SOP 03-3 is not expected to have a material impact on the Company's consolidated financial statements. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK For a discussion of the Company's asset and liability management policies as well as the potential impact of interest rate changes upon the market value of the Bank's portfolio equity, see "Management's Discussion and Analysis of Financial Condition and Results of Operations" in the 2004 Annual Report to Stockholders. There has been no material change in the Company's asset and liability position or market value of portfolio equity since June 30, 2004. ITEM 4. CONTROLS AND PROCEDURES Our management evaluated, with the participation of our Chief Executive Officer and Chief Financial Officer, the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934) as of March 31, 2005. Based on such evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures are designed to ensure that information required to be disclosed by us in the reports that we file or submit under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and regulations and are operating in an effective manner. No change in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15(d)-15(f) under the Securities Exchange Act of 1934) occurred during the first nine months of fiscal 2005 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting. FORWARD LOOKING STATEMENTS This Form 10-Q contains certain forward-looking statements and information relating to the Company that are based on the beliefs of management as well as assumptions made by and information currently available to management. In addition, in those and other portions of this document, the words "anticipate," "believe," "estimate," "except," "intend," "should" and similar expressions, or the negative thereof, as they relate to the Company or the Company's management, are intended to identify forward-looking statements. Such statements reflect the current views of the Company with respect to future looking events and are subject to certain risks, uncertainties and assumptions. Should one or more of these risks or uncertainties materialize or should underlying assumptions prove incorrect, actual results may vary from those described herein as anticipated, believed, estimated, expected or intended. Factors that could have a material adverse effect on our operations and future prospects include, but are not limited to, changes in: interest rates, general economic conditions, legislative/regulatory changes, monetary and fiscal policies of the U.S. Government, including policies of the U.S. Treasury and the Board of Governors of the 21 Federal Reserve System, the quality or composition of the loan or investment portfolios, demand for loan products, deposit flows, competition, demand for financial services in our market area and accounting principles, policies and guidelines. These risks and uncertainties should be considered in evaluating forward-looking statements contained herein, and you should not place undue reliance on such statements, which reflect our position as of the date of this report. LAUREL CAPITAL GROUP, INC. AND SUBSIDIARY PART II - OTHER INFORMATION Item 1. Legal Proceedings The Company is not engaged in any legal proceedings at the present time other than those generally associated with the normal course of business. In the opinion of management and legal counsel, the resolution of these claims are not expected to have a material adverse effect on the Company's financial position, liquidity or results of operations. Item 2. Unregistered Sales of Equity Securities and Use of Proceeds None Item 3. Defaults Upon Senior Securities None Item 4. Submission of Matters to a Vote of Security Holders None Item 5. Other Information None Item 6. Exhibits Exhibits 31.1 Certification of Chief Executive Officer Pursuant to Rules 13a-14 and 15d-14 of the Securities Exchange Act of 1934 and Section 302 of the Sarbanes-Oxley Act of 2002 31.2 Certification of Chief Financial Officer Pursuant to Rules 13a-14 and 15d-14 of the Securities Exchange Act of 1934 and Section 302 22 of the Sarbanes-Oxley Act of 2002 32.1 Certification of Chief Executive Officer pursuant to section 906 of the Sarbanes-Oxley Act of 2002 32.2 Certification of Chief Financial Officer pursuant to section 906 of the Sarbanes-Oxley Act of 2002 23 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 LAUREL CAPITAL GROUP, INC. /s/ Edwin R. Maus ----------------- Edwin R. Maus President and Chief Executive Officer /s/ John A. Howard, Jr. ----------------------- John A. Howard, Jr. Senior Vice President and Chief Financial Officer Date: May 16, 2005 24

LAUREL CAPITAL GROUP INC 10-Q