10-K 1 cnb-12312011x10k.htm FORM 10-K CNB-12.31.2011-10K

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended
December 31, 2011
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
0-11535
City National Bancshares Corporation
(Exact name of registrant as specified in its charter)
New Jersey
 
22-2434751
State or other jurisdiction of
 
(I.R.S. Employer
incorporation or organization
 
Identification No.)
900 Broad Street Newark, New Jersey 07102
(Address of principal executive offices)
(Zip Code)
Registrant’s telephone number, including area code
(973) 624-0865
Securities registered pursuant to Section 12(b) of the Act: None
Title of each class
 
Name of each exchange on which registered
 
 
 
 
 
 
Securities registered pursuant to section 12(g) of the Act:
 
(Title of class)
Common stock, par value $10 per share
 
(Title of class)
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
o Yes x No
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.
o Yes x No
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.
x Yes o No
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 (§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).                                 o Yes      o No
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§ 229.405 of this chapter) is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer o
Accelerated filer o
Non-accelerated filer x
Smaller reporting company o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).              o Yes x No
  
The aggregate market value of voting stock held by nonaffiliates of the Registrant as of February 27, 2012 was approximately $407,000.
There were 131,326 shares of common stock outstanding at May 25, 2012.



CITY NATIONAL BANCSHARES CORPORATION
FORM 10-K
Table of Contents

 
 
Page
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Certain Relationships and Related Transactions, and Director Independence
 
 
 
 
 
 
 
 
 
 
 
 


II


Part I

Item 1.   Business
Description of business
City National Bancshares Corporation (the “Corporation” or “CNBC”) is a New Jersey corporation incorporated on January 10, 1983. At December 31, 2011, CNBC had consolidated total assets of $358.4 million, total deposits of $299.3 million and stockholders’ equity of $19.8 million.
City National Bank of New Jersey (the “Bank” or “CNB”), a wholly owned subsidiary of CNBC, is a national banking association chartered in 1973 under the laws of the United States of America and has two subsidiaries, City National Investments, Inc., an investment company which holds, maintains and manages investment assets for CNB, and North Newark Realty Corporation, which holds foreclosed properties. CNB is minority owned and operated and therefore eligible to participate in certain federal government programs. CNB is a member of the Federal Reserve Bank, the Federal Home Loan Bank and the Federal Deposit Insurance Corporation. CNB provides a wide range of retail and commercial banking services through its retail branch network, although the primary focus is on establishing commercial and municipal relationships. Deposit services include savings, checking, certificates of deposit, money market and retirement accounts. The Bank also provides many forms of small to medium size business financing, including revolving credit, credit lines, term loans and all forms of consumer financing, including auto, home equity and mortgage loans, and maintains banking relationships with several major domestic corporations.The Bank also owns a 35.4% interest in a leasing company, along with two other minority banks that own the remaining interest.
The words “we,” “our” and “us” refer to City National Bancshares Corporation and its wholly owned subsidiaries, unless we indicate otherwise.

Both CNBC and CNB have been designated by the United States Department of the Treasury as Community Development Financial Institutions ("CDFI"s). These designations mean that the Department of Treasury has formally recognized CNBC and CNB for “having a primary purpose of promoting community development”, and will facilitate participation in other CDFI Programs such as the Bank Enterprise Award (“BEA”) program, which provides awards for making investments and/or loans, or opening branch offices in specific low-income areas within the Bank's market area.
The Bank has been, and intends to continue to be, an urban community-oriented financial institution providing financial services and loans for housing and commercial businesses within its market area. The Bank oversees its seven-branch office network from its headquarters located in downtown Newark, New Jersey. The Bank operates three branches (including the headquarters) in Newark, along with one in Paterson, New Jersey. As a result of the acquisitions of two branches from a thrift organization, the Bank also operates a branch in Brooklyn, New York and one in Roosevelt, Long Island. The Bank opened a de novo branch in Manhattan, New York in 2003. The Bank gathers deposits primarily from the communities and neighborhoods in close proximity to its branches and has extensive deposit relationships with municipalities in the communities where the Bank does business.
The Bank’s loans consist primarily of commercial real estate loans secured by properties located in the New York City metropolitan area. The Bank’s customer base, like that of the urban neighborhoods which it serves, is racially and ethnically diverse and is comprised of mostly low-to moderate-income households. The Bank has sought to set itself apart from its many competitors by tailoring its products and services to meet the needs of its customers, by emphasizing customer service and convenience and by being actively involved in community affairs in the neighborhoods and communities which it serves. The Bank believes that its commitment to customer and community service has permitted it to build strong customer identification and loyalty, which is essential to the Bank’s ability to compete effectively.
The Bank does not have a trust department. Sales of annuities and mutual funds are offered to customers under a networking agreement with other financial institutions through the Independent Community Bankers of America.
Competition
The market for banking and bank related services is highly competitive. The Bank competes with other providers of financial services such as other bank holding companies, commercial banks, savings and loan associations, credit unions, money market and mutual funds, mortgage companies, and a growing list of other local, regional and national institutions which offer financial services. Mergers between financial institutions within New Jersey and in neighboring states have added competitive pressures. Competition is expected to intensify as a consequence of interstate banking laws now in effect or that may be in effect in the future. CNB competes by offering quality products and convenient services at competitive prices. CNB regularly reviews its products and locations and considers various branch acquisition prospects and dispositions.
Management believes that as New Jersey’s only African-American owned and controlled Bank, it has a unique ability to provide commercial banking services to low and moderate income segments of the urban community in part through affiliations with municipalities in the cities where the Bank has offices.
Employees

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At December 31, 2011, the Bank employed 86 full-time equivalent employees compared to 89 employees a year earlier as we closed a branch in 2011 and downsized, while hiring staff which we believe are required to start new initiatives in our efforts to comply with the terms of the Consent Order, as discussed below, and to move forward with a new business model to return us to profitability.

Supervision and regulation
The banking industry is highly regulated. The following discussion summarizes some of the material provisions of the banking laws and regulations affecting City National Bancshares Corporation and City National Bank of New Jersey.
Governmental policies and legislation
The policies of regulatory authorities, including the Federal Reserve Board and the Federal Deposit Insurance Corporation, have had a significant effect on the operating results of commercial banks in the past and are expected to do so in the future. An important function of the Federal Reserve Bank is to regulate national monetary policy by such means as open market dealings in securities, the establishment of the discount rate on member bank borrowings, and changes in reserve requirements on member bank deposits. The efforts of national monetary policy have a significant impact on the business of the Bank, which is measured and managed through its interest rate risk policies.
The Sarbanes-Oxley Act of 2002 (“Sarbanes-Oxley Act”), which became law on July 30, 2002, added new legal requirements for public companies affecting corporate governance, accounting and corporate reporting. The Sarbanes-Oxley Act provides for, among other things, a prohibition on personal loans made or arranged by the issuer to its directors and executive officers (except for loans made by a bank subject to Regulation O), independence requirements for audit committee members, independence requirements for company auditors, certification of financial statements on SEC Forms 10-K and 10-Q reports, by the chief executive officer and the chief financial officer, two-business day filing requirements for insiders filing SEC Form 4s, restrictions on the use of non-GAAP financial measures in press releases and SEC filings, the formation of a public accounting oversight board and various increased criminal penalties for violations of securities laws.
On July 21, 2010, the President signed the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”). This law significantly changed the current bank regulatory structure and affected the lending, deposit, investment, trading and operating activities of financial institutions and their holding companies. The Dodd-Frank Act requires various federal agencies to adopt a broad range of new rules and regulations, and to prepare numerous studies and reports for Congress.
The Dodd-Frank Act creates a new Consumer Financial Protection Bureau with broad powers to supervise and enforce consumer protection laws. The Consumer Financial Protection Bureau has broad rule-making authority for a wide range of consumer protection laws that apply to all banks and savings institutions, including the authority to prohibit “unfair, deceptive or abusive” acts and practices. The Consumer Financial Protection Bureau has examination and enforcement authority over all banks with more than $10 billion in assets. Banks with $10 billion or less in assets will continue to be examined for compliance with the consumer laws by their primary bank regulators. The Dodd-Frank Act also weakens the federal preemption rules that have been applicable for national banks and federal savings associations, and gives state attorneys general the ability to enforce federal consumer protection laws.
The Dodd-Frank Act requires minimum leverage (Tier 1) and risk-based capital requirements for bank and savings and loan holding companies that are no less than those applicable to banks, which will exclude certain instruments that previously have been eligible for inclusion by bank holding companies as Tier 1 capital, such as trust preferred securities.
A provision of the Dodd-Frank Act eliminated the federal prohibitions on paying interest on demand deposits, thus allowing businesses to have interest bearing checking accounts. This significant change has had no impact on our interest expense.
The Dodd-Frank Act also broadens the base for Federal Deposit Insurance Corporation ("FDIC") deposit insurance assessments. Assessments are now to be based on the average consolidated total assets less tangible equity capital of a financial institution, rather than deposits. The Dodd-Frank Act also permanently increased the maximum amount of deposit insurance for banks, savings institutions and credit unions to $250,000 per depositor, retroactive to January 1, 2009, and non-interest bearing transaction accounts have unlimited deposit insurance through December 31, 2012. The legislation also increased the required minimum reserve ratio for the Deposit Insurance Fund, from 1.15% to 1.35% of insured deposits, and directs the FDIC to offset the effects of increased assessments on depository institutions with less than $10 billion in assets.
The Dodd-Frank Act requires publicly traded companies to provide stockholders a non-binding vote on executive compensation and so-called “golden parachute” payments, and authorizes the Securities and Exchange Commission to promulgate rules that allow stockholders to nominate their own candidates using a company’s proxy materials. It also provides that the listing standards of the national securities exchanges require listed companies to implement and disclose “clawback” policies mandating the recovery of incentive compensation paid to executive officers in connection with accounting restatements. The legislation also directs the Federal Reserve Board to promulgate rules prohibiting excessive compensation paid to bank holding company executives.
It is expected that at a minimum, the provisions of the Dodd-Frank Act will increase our operating and compliance costs and could

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increase our interest expense.
Bank holding company regulations
CNBC is a bank holding company within the meaning of the Bank Holding Company Act (the "Act") of 1956, and as such, is supervised by the Board of Governors of the Federal Reserve Board(the “FRB”).
The Act prohibits CNBC, with certain exceptions, from acquiring ownership or control of more than five percent of the voting shares of any company which is not a bank and from engaging in any business other than that of banking, managing and controlling banks or furnishing services to subsidiary banks. The Act also requires prior approval by the FRB of the acquisition by CNBC of more than 5% of the voting stock of any additional bank. The Act also restricts the types of businesses, activities, and operations in which a bank holding company may engage.
The Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994 (the “Interstate Banking and Branching Act”) enabled bank holding companies to acquire banks in states other than its home state, regardless of applicable state law. The Interstate Banking and Branching Act also authorized banks to merge across state lines, thereby creating interstate branches. Under such legislation, each state had the opportunity to “opt out” of this provision. Furthermore, a state may “opt-in” with respect to de novo branching, thereby permitting a bank to open new branches in a state in which the bank does not already have a branch. Without de novo branching, an out-of-state commercial bank can enter the state only by acquiring an existing bank or branch. The vast majority of states have allowed interstate banking by merger but have not authorized de novo branching.
New Jersey enacted legislation to authorize interstate banking and branching and the entry into New Jersey of foreign country banks. New Jersey did not authorize de novo branching into the state. However, under federal law, federal savings banks which meet certain conditions may branch de novo into a state, regardless of state law.
On November 12, 1999, the President signed the Gramm-Leach-Bliley Financial Modernization Act of 1999 (the “Modernization Act”) into law. The Modernization Act allows bank holding companies meeting management, capital and Community Reinvestment Act (“CRA”) standards to engage in a substantially broader range of nonbanking activities than previously was permissible, including insurance underwriting and making merchant banking investments in commercial and financial companies. If a bank holding company elects to become a financial holding company, it may file a certification, effective in 30 days, and thereafter may engage in certain financial activities without further approvals. It also allows insurers and other financial services companies to acquire banks, removes various restrictions that currently apply to bank holding company ownership of securities firms and mutual fund advisory companies and establishes the overall regulatory structure applicable to bank holding companies that also engage in insurance and securities operations.
The Modernization Act also modifies other current financial laws, including laws related to financial privacy and community reinvestment.
Regulation of bank subsidiary
CNB is subject to the supervision of, and to regular examination by the Office of the Comptroller of the Currency of the United States (the “OCC”).
Various laws and the regulations thereunder applicable to CNB impose restrictions and requirement in many areas, including capital requirements, the maintenance of reserves, establishment of new offices, the making of loans and investments, consumer protection and other matters. There are various legal limitations on the extent to which a bank subsidiary may finance or otherwise supply funds to its holding company or its non-bank subsidiaries. Under federal law, no bank subsidiary may, subject to certain limited exceptions, make loans or extensions of credit to, or investments in the securities of, its parent or nonbank subsidiaries of its parent (other than direct subsidiaries of such bank) or, subject to broader exceptions, take their securities as collateral for loans to any borrower. Each bank subsidiary is also subject to collateral security requirements for any loans or extension of credit permitted by such exceptions.
CNBC is a legal entity separate and distinct from its subsidiary bank. CNBC’s revenues (on a parent company only basis) result from dividends paid to CNBC by its subsidiary. Payment of dividends to CNBC by CNB, without prior regulatory approval, is subject to regulatory limitations. Under the National Bank Act, dividends may be declared only if, after payment thereof, capital would be unimpaired and remaining surplus would equal 100% of capital. Moreover, a national bank may declare, in any one year, dividends only in an amount aggregating not more than the sum of its net profits for such year and its retained net profits for the preceding two years. In addition, the bank regulatory agencies have the authority to prohibit a bank subsidiary from paying dividends or otherwise supplying funds to a bank holding company if the supervising agency determines that such payment would constitute an unsafe or unsound banking practice.
Because CNB is a national banking association, it is subject to regulatory limitation on the amount of dividends it may pay to its parent corporation, CNBC. Prior approval of the OCC is required if the total dividends declared by the Bank in any calendar year exceeds net profit, as defined, for that year combined with the retained net profits from the preceding two calendar years. Based upon this limitation, no funds were available for the payment of dividends to the parent corporation at December 31, 2011 since a net loss of $20.1 million was incurred for the three-year period, of which $10.4 million represents a valuation allowance against

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deferred tax assets at December 31, 2011.
Under the Financial Institutions Reform, Recovery, and Enforcement Act of 1989 (“FIRREA”), a depository institution insured by the FDIC can be held liable for any loss incurred by, or reasonably expected to be incurred by, the FDIC in connection with the default of a commonly controlled FDIC-insured depository institution or any assistance provided by the FDIC to a commonly controlled FDIC-insured depository institution in danger of default, or deferred by the FDIC. Further, under FIRREA, the failure to meet capital guidelines could subject a banking institution to a variety of enforcement remedies available to federal regulatory authorities, including the termination of deposit insurance by the FDIC.
The Federal Deposit Insurance Corporation Improvement Act of 1991 (“FDICIA”) requires each federal banking agency to revise its risk-based capital standards to ensure that those standards take adequate account of interest rate risk, concentration of credit risk and the risks of non-traditional activities. In addition, each federal banking agency has promulgated regulations, specifying the levels at which a financial institution would be considered “well capitalized," “adequately capitalized," “undercapitalized," “significantly undercapitalized," or “critically undercapitalized," and to take certain mandatory and discretionary supervisory actions based on the capital level of the institution.
The OCC’s regulations implementing these provisions of FDICIA provide that an institution will be classified as “well capitalized” if it has a total risk-based capital ratio of at least 10%, has a Tier 1 risk-based capital ratio of at least 6%, has a Tier 1 leverage ratio of at least 5%, and meets certain other requirements. An institution will be classified as “adequately capitalized” if it has a total risk-based capital ratio of at least 8%, has a Tier 1 risk-based capital ratio of at least 4%, and has Tier 1 leverage ratio of at least 4%. An institution will be classified as “undercapitalized” if it has a total risk-based capital ratio of less than 6%, has a Tier 1 risk-based capital ratio of less than 3%, or has a Tier 1 leverage ratio of less than 3%. An institution will be classified as “significantly undercapitalized” if it has a total risk-based capital ratio of less than 6%, or a Tier 1 risk-based capital ratio of less than 3%, or a Tier 1 leverage ratio of less than 3%. An institution will be classified as “critically undercapitalized” if it has a tangible equity to total assets ratio that is equal to or less than 2%. An insured depository institution may be deemed to be in a lower capitalization category if it receives an unsatisfactory examination.
Insured institutions are generally prohibited from paying dividends or management fees if after making such payments, the institution would be “undercapitalized." An “undercapitalized” institution also is required to develop and submit to the appropriate federal banking agency a capital restoration plan, and each company controlling such institution must guarantee the institution’s compliance with such plan.
As part of the USA Patriot Act, signed into law on October 26, 2001, Congress adopted the International Money Laundering Abatement and Financial Anti-Terrorism Act of 2001 (the “Act”). This Act authorizes the Secretary of the Treasury, in consultation with the heads of other government agencies, to adopt special measures applicable to financial institutions such as banks, bank holding companies, broker-dealers and insurance companies. Among its other provisions, the Act requires each financial institution: (i) to establish an anti-money laundering program; (ii) to establish due diligence policies, procedures and controls that are reasonably designed to detect and report instances of money laundering in United States private banking accounts and correspondent accounts maintained for non-United States persons or their representatives; and (iii) to avoid establishing, maintaining, administering, or managing correspondent accounts in the United States for, or on behalf of, a foreign shell bank that does not have a physical presence in any country. In addition, the Act expands the circumstances under which funds in a bank account may be forfeited and requires covered financial institutions to respond under certain circumstances to requests for information from federal banking agencies within 120 hours.
Consent Order
The Bank was subject to a Formal Agreement with the OCC entered into on June 29, 2009 (the “Formal Agreement”). The Formal Agreement required, among other things, the enhancement and implementation of certain programs to reduce the Bank’s credit risk, along with the development of a capital and profit plan, the development of a contingency funding plan and the correction of deficiencies in the Bank’s loan administration. The Bank failed to comply with certain provisions of the Formal Agreement and failed to comply with the higher leverage ratio of 8% required to be maintained. Due to the Bank’s condition, the OCC has required that the Board of Directors of the Bank (the “Bank Board”) sign a formal enforcement action with the OCC, which mandates specific actions by the Bank to address certain findings from the OCC’s examination and to address the Bank’s financial condition. The Bank entered into a Consent Order (“Order” or “Consent Order”) with the OCC on December 22, 2010, which contains a list of requirements. The Order supersedes and replaces the Formal Agreement. The Order also contains restrictions on future extensions of credit and requires the development of various programs and procedures to improve the Bank’s asset quality as well as routine reporting on the Bank’s progress toward compliance with the Order to the Bank Board and the OCC. As a result of the Order, the Bank may not be deemed “well-capitalized.” The following description of the Consent Order is only a summary and is qualified in its entirety by the Order which is attached as Exhibit 10(v) hereto.
The Order imposes the following requirements on the Bank:
within five (5) days of the Order, the Bank Board must appoint a Compliance Committee to be comprised of at least three directors, none of whom may be an employee, former employee or controlling shareholder of the Bank or any of its affiliates, to

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monitor and coordinate the Bank’s adherence to the Order.
within ninety (90) days of the Order, the Bank Board must develop and submit to the OCC for review a written strategic plan covering at least a three-year period, establishing objectives for the overall risk profile, earnings performance, growth, balance sheet mix, off-balance sheet activities, liability structure, capital adequacy, reduction in the volume of nonperforming assets, product line development, and market segments that the Bank intends to promote or develop, together with strategies to achieve those objectives.
by March 31, 2011 and thereafter the Bank must maintain total capital at least equal to 13% of risk-weighted assets and Tier 1 capital at least equal to 9% of adjusted total assets; this requirement means that the Bank may not be considered “well-capitalized” as otherwise defined in applicable regulations.
within ninety (90) days of the Order, the Bank Board must submit to the OCC a written capital plan for the Bank covering at least a three-year period, including specific plans for the achievement and maintenance of adequate capital, projections for growth and capital requirements, based upon a detailed analysis of the Bank’s assets, liabilities, earnings, fixed assets and off-balance sheet activities; identification of the primary sources from which the Bank will maintain an appropriate capital structure to meet the Bank’s future needs, as set forth in the strategic plan; specific plans detailing how the Bank will comply with restrictions or requirements set forth in the Order and with the restrictions against brokered deposits in 12 C.F.R. § 337.6; contingency plans that identify alternative methods to strengthen capital, should the primary source(s) not be available; and a prohibition on the payment of director fees unless the Bank is in compliance with the minimum capital ratios previously identified in the prior paragraph; or express written authorization is provided by the OCC.
the Bank is restricted on the payment of dividends.
to ensure the Bank has competent management in place at all times, including: within 90 days of the Order the Bank Board shall provide to the OCC qualified and capable candidates for the positions of President, Senior Credit Officer, Consumer Compliance Officer and Bank Secrecy Officer; within ninety (90) days of the date of the Order, the Bank Board (with the exception of Bank executive officers) shall prepare a written assessment of the Bank’s executive officers to perform present and anticipated duties; prior to appointment of any individual to an executive position provide notice to the OCC, who shall have the power to veto such appointment; and the Bank Board shall at least annually perform a written performance appraisal for each Bank executive officer.
within sixty (60) days of the Order, the Bank Board shall develop and the Bank shall implement, and thereafter ensure compliance with, a written credit policy to ensure the Bank’s compliance with written programs to improve the Bank’s loan portfolio management.
within ninety (90) days of the Order the Bank Board shall develop, implement and thereafter ensure Bank adherence to a written program to improve the Bank’s loan portfolio management, including: requiring that extensions of credit are granted, by renewal or otherwise, to any borrower only after obtaining, performing, and documenting a global analysis of current and satisfactory credit information; requiring that existing extensions of credit structured as single pay notes are revised upon maturity to conform to the Bank’s revised loan policy; ensuring satisfactory and perfected collateral documentation; tracking and analyzing credit, collateral, and policy exceptions; providing for accurate risk ratings consistent with the classification standards contained in the Comptroller’s Handbook on “Rating Credit Risk”; providing for identification, measurement, monitoring, and control of concentrations of credit; ensuring compliance with Call Report instructions, the Bank’s lending policies, and laws, rules, and regulations pertaining to the Bank’s lending function; ensuring the accuracy of internal management information systems; and providing adequate training of Bank personnel performing credit analyses in cash flow analysis, particularly analysis using information from tax returns, and implement processes to ensure that additional training is provided as needed.
within sixty (60) days of the Order, the Bank Board must establish a written performance appraisal and salary administration process for loan officers that adequately considers performance relative to job descriptions, policy compliance, documentation standards, accuracy in credit grading, and other loan administration matters.
the Bank must implement and maintain an effective, independent, and on-going loan review program to review, at least quarterly, the Bank’s loan and lease portfolios, to assure the timely identification and categorization of problem credits.
the Bank is also required to implement and adhere to a written program for the maintenance of an adequate Allowance for Loan and Lease Losses, providing for review of the allowance by the Bank Board at least quarterly.
within sixty (60) days of the Order, the Bank Board shall adopt and the Bank (subject to Bank Board review and ongoing monitoring) shall implement and thereafter ensure adherence to a written program designed to protect the Bank’s interest in those assets criticized in the most recent Report of Examination (“ROE”) by the OCC, in any subsequent ROE, by any internal or external loan review, or in any list provided to management by the National Bank Examiners during any examination as “doubtful,” “substandard,” or “special mention.”
within one hundred twenty (120) days of the Order, the Bank Board must revise and maintain a comprehensive liquidity

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risk management program, which assesses, on an ongoing basis, the Bank’s current and projected funding needs, and ensures that sufficient funds or access to funds exist to meet those needs, which program includes effective methods to achieve and maintain sufficient liquidity and to measure and monitor liquidity risk.
within ninety (90) days of the Order, the Bank Board shall identify and propose for appointment a minimum of two (2) new independent directors that have a background in banking, credit, accounting, or financial reporting, and such appointment will be subject to veto power of the OCC.
within ninety (90) days of the Order, the Bank Board shall adopt, implement, and thereafter ensure adherence to a written consumer compliance program designed to ensure that the Bank is operating in compliance with all applicable consumer protection laws, rules, and regulations.
within ninety (90) days of the Order, the Bank Board shall develop, implement, and thereafter ensure Bank adherence to a written program of policies and procedures to provide for compliance with the Bank Secrecy Act, as amended (31 U.S.C. §§ 5311 et seq.), the regulations promulgated thereunder and regulations of the Office of Foreign Assets Control (“OFAC”), 31 C.F.R. Chapter V, as amended (collectively referred to as the “Bank Secrecy Act” or “BSA”) and for the appropriate identification and monitoring of transactions that pose greater than normal risk for compliance with the BSA.
within ninety (90) days, of the Order, the Bank Board shall: develop, implement, and thereafter ensure Bank adherence to an independent, internal audit program sufficient to detect irregularities and weak practices in the Bank’s operations; determine the Bank’s level of compliance with all applicable laws, rules, and regulations; assess and report the effectiveness of policies, procedures, controls, and management oversight relating to accounting and financial reporting; evaluate the Bank’s adherence to established policies and procedures, with particular emphasis directed to the Bank’s adherence to its loan, consumer compliance, and BSA policies and procedures; evaluate and document the root causes for exceptions; and establish an annual audit plan using a risk-based approach sufficient to achieve these objectives.
within ninety (90) days of the Order, the Bank Board must develop and implement a comprehensive compliance audit function to include an independent review of all products and services offered by the Bank, including without limitation, a risk-based audit program to test for compliance with consumer protection laws, rules, and regulations that includes an adequate level of transaction testing; procedures to ensure that exceptions noted in the audit reports are corrected and responded to by the appropriate Bank personnel; and periodic reporting of the results of the consumer compliance audit to the Bank Board or a committee thereof.
the Bank Board shall require and the Bank shall immediately take all necessary steps to correct each violation of law, rule, or regulation cited in any ROE, or brought to the Bank Board’s or Bank’s attention in writing by management, regulators, auditors, loan review, or other compliance efforts.
The Order permits the OCC to extend the time periods under the Order upon written request. Any material failure to comply with the Order could result in further enforcement actions by the OCC. In addition, if the OCC does not accept the capital plan or the Bank fails to achieve and maintain the minimum capital levels, the Order specifically states that the OCC may require the Corporation to sell, merge or liquidate the Bank.
As a result of the Consent Order, we may not accept, renew or roll over any brokered deposit. This affects our ability to obtain funding. In addition, we may not solicit deposits by offering an effective yield that exceeds by more than 75 basis points the prevailing effective yields on insured deposits of comparable maturity in our normal market area or in the market area in which such deposits are being solicited.
As of December 31, 2011, when considering deadline extensions granted, the Corporation has been informed by the OCC that it has fully complied with two of the thirteen articles of the Consent Order. The two articles in full compliance are Article II - Compliance Committee and Article XIII - Internal Audit Program. The remaining articles are in various stages of compliance and management is working diligently to achieve full compliance.
The failure to comply with the Consent Order could have severe adverse consequences on the Bank and the Corporation.
Agreement with Federal Reserve Bank of New York
On December 14, 2010, the Corporation entered into a written agreement (the "Agreement”) with the Federal Reserve Bank of New York (“FRBNY”). The following is only a summary of the agreement and is qualified in its entirety by the copy of the agreement attached hereto as Exhibit 10(w). Pursuant to the agreement, the Corporation’s board of directors is to take appropriate steps to utilize fully the Corporation’s financial and managerial resources to serve as a source of strength to the Bank, including causing the Bank to comply with the Formal Agreement (now superseded) and any other supervisory action taken by the OCC, such as the Order.
In the Agreement, the Corporation agreed that it would not declare or pay any dividends without prior written approval of the FRBNY and the Director of the Division of Banking Supervision and Regulation of the Board of Governors of the Federal Reserve

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System (the “Banking Director”). It further agreed that it would not take dividends or any other form of payment representing a reduction in capital from the Bank without the FRBNY’s prior written approval. The agreement also provides that neither the Corporation nor its nonbank subsidiary will make any distributions of interest, principal or other amounts on subordinated debentures or trust preferred securities without the prior written approval of the FRBNY and the Banking Director.
The Agreement further provides that the Corporation shall not incur, increase or guarantee any debt without FRBNY approval. In addition, the Corporation must obtain the prior approval of the FRBNY for the repurchase or redemption of its shares of stock.
The Agreement further provides that in appointing any new director or senior executive officer or changing the responsibilities of any senior executive officer so that the officer would assume a different senior position, the Corporation must notify the Board of Governors of the Federal Reserve System and such board or the FRBNY or the OCC, who may veto such appointment or change.
The Agreement further provides that the Corporation is restricted in making certain severance and indemnification payments.
The failure of the Corporation to comply with the FRBNY Agreement could have severe adverse consequences on the Bank and the Corporation.
Community reinvestment
Under the CRA, as implemented by OCC regulations, a national bank has a continuing and affirmative obligation consistent with its safe and sound operation to help meet the credit needs of its entire community, including low-and moderate-income neighborhoods. The CRA does not establish specific lending requirements or programs for financial institutions nor does it limit an institution’s discretion to develop the types of products and services that it believes are best suited to its particular community, consistent with the CRA. The CRA requires the OCC, in connection with its examination of a national bank, to assess the association’s record of meeting the credit needs of its community and to take such record into account in its evaluation of certain applications by such association. The CRA also requires all institutions to make public disclosure of their CRA ratings. CNB received a “Satisfactory” CRA rating in its most recent examination.
Government policies
The earnings of the Corporation are affected not only by economic conditions, but also by the monetary and fiscal policies of the United States and its agencies, especially the Federal Reserve Board. The actions of the Federal Reserve Board influence the overall levels of bank loans, investments and deposits and also affect the interest rates charged on loans or paid on deposits. The monetary policies of the Federal Reserve Board have had a significant effect on the operating results of commercial banks in the past and are expected to do so in the future. The nature and impact of future changes in monetary and fiscal policies on the earnings of the Corporation cannot be determined.
As a result of the rapid deterioration in economic conditions, the Treasury Department enacted the Emergency Economic Stabilization Act of 2008, which includes provisions intended to provide economic relief. Among them, and as part of the Troubled Asset Relief Program (“TARP”), the Capital Purchase Program (“CPP”) authorized the investment by the Treasury Department of up to $250 billion in eligible financial institutions generally in the form of non-voting senior preferred stock bearing an annual dividend of 5% for the first five years and increasing to 9% thereafter. The preferred stock will count as Tier 1 capital for regulatory purposes. The Corporation received $9.4 million of this capital in April 2009, the maximum amount allowed. $9 million was downstreamed to the Bank as common equity.
The FDIC’s Transaction Account Guarantee Program (“TAG”), one of two components of the Temporary Liquidity Guarantee Program (“TLG Program”), provides full federal deposit insurance coverage for non-interest bearing transaction deposit accounts regardless of dollar amount. CNB has elected to participate in this program.
FDIC insurance
On May 22, 2009, the FDIC adopted a final rule levying a five basis point special assessment on each insured depository institution’s assets minus Tier 1 capital as of June 30, 2009. The special assessment was paid by the Bank on September 30, 2009. The Bank recorded an expense of $255,000 during the quarter ended June 30, 2009, to reflect the special assessment.
On November 12, 2009, the FDIC issued a final rule that required insured depository institutions to prepay, on December 30, 2009, their estimated quarterly risk-based assessments for the fourth quarter of 2009 and for all of 2010, 2011 and 2012, together with their quarterly risk-based assessment for the third quarter 2009. The Bank prepaid approximately $3.4 million, of which $1.5 million was recorded as a prepaid asset, in assessments as of December 31, 2011. 2012 payments will be charged to expense with quarterly amortization charges based on quarterly average total assets less average tangible equity.
Basel III
In December 2010, the Basel Committee released its final framework for strengthening international capital and liquidity regulation, now officially identified by the Basel Committee as “Basel III”. Basel III, when implemented by the U.S. banking agencies and fully phased-in, will require bank holding companies and their bank subsidiaries to maintain substantially more capital, with a greater emphasis on common equity.

7


The Basel III final capital framework, among other things, (i) introduces as a new capital measure “Common Equity Tier 1” (“CET1”), (ii) specifies that Tier 1 capital consists of CET1 and “Additional Tier 1 capital” instruments meeting specified requirements, (iii) defines CET1 narrowly by requiring that most adjustments to regulatory capital measures be made to CET1 and not to the other components of capital and (iv) expands the scope of the adjustments as compared to existing regulations.
When fully phased in on January 1, 2019, Basel III requires banks to maintain (i) as a newly adopted international standard, a minimum ratio of CET1 to risk-weighted assets of at least 4.5%, plus a 2.5% “capital conservation buffer” (which is added to the 4.5% CET1 ratio as that buffer is phased in, effectively resulting in a minimum ratio of CET1 to risk-weighted assets of at least 7%), (ii) a minimum ratio of Tier 1 capital to risk-weighted assets of at least 6.0%, plus the capital conservation buffer (which is added to the 6.0% Tier 1 capital ratio as that buffer is phased in, effectively resulting in a minimum Tier 1 capital ratio of 8.5% upon full implementation), (iii) a minimum ratio of Total (that is, Tier 1 plus Tier 2) capital to risk-weighted assets of at least 8.0%, plus the capital conservation buffer (which is added to the 8.0% total capital ratio as that buffer is phased in, effectively resulting in a minimum total capital ratio of 10.5% upon full implementation) and (iv) as a newly adopted international standard, a minimum leverage ratio of 3%, calculated as the ratio of Tier 1 capital to balance sheet exposures plus certain off-balance sheet exposures (computed as the average for each quarter of the month-end ratios for the quarter).
Basel III also provides for a “countercyclical capital buffer,” generally to be imposed when national regulators determine that excess aggregate credit growth becomes associated with a buildup of systemic risk, that would be a CET1 add-on to the capital conservation buffer in the range of 0% to 2.5% when fully implemented (potentially resulting in total buffers of between 2.5% and 5%). The aforementioned capital conservation buffer is designed to absorb losses during periods of economic stress. Banking institutions with a ratio of CET1 to risk-weighted assets above the minimum but below the conservation buffer (or below the combined capital conservation buffer and countercyclical capital buffer, when the latter is applied) will face constraints on dividends, equity repurchases and compensation based on the amount of the shortfall.
The implementation of the Basel III final framework will commence January 1, 2013. On that date, banking institutions will be required to meet the following minimum capital ratios: 3.5% CET1 to risk-weighted assets, 4.5% Tier 1 capital to risk-weighted assets, and 8.0% Total capital to risk-weighted assets.
The Basel III final framework provides for a number of new deductions from and adjustments to CET1. These include, for example, the requirement that mortgage servicing rights, deferred tax assets dependent upon future taxable income and significant investments in non-consolidated financial entities be deducted from CET1 to the extent that any one such category exceeds 10% of CET1 or all such categories in the aggregate exceed 15% of CET1.
Requirements to maintain higher levels of capital or to maintain higher levels of liquid assets could adversely impact our net income and return on equity.

Item 1a. Risk factors
An investment in City National Bancshares Corporation is subject to risks inherent to the financial services business. The risks and uncertainties that management believes are material are described below. Before making an investment decision, these risks and uncertainties should be carefully considered together with all of the other information included or incorporated by reference herein. The risks and uncertainties described below are not the only risks and uncertainties facing the Corporation. Additional risks and uncertainties that management is not aware of or that management currently believes are immaterial may also impair the Corporation’s business operations. The value or market price of our securities could decline due to any of these identified or other risks, and all or part of your investment may be lost as a result.
In addition to the aforementioned information contained in this Annual Report on Form 10-K, the following risk factors represent material updates and additions to the risk factors previously disclosed in the Corporation’s Annual Report on Form 10-K for the year ended December 31, 2011. Additional risks not presently known to us, or that we currently deem immaterial, may also adversely affect our business, financial condition or results of operations. Further, to the extent that any of the information contained herein constitutes forward looking statements, the risk factor set forth below also is a cautionary statement identifying important factors that could cause actual results to differ materially from those expressed in any forward looking statements presented herein.
Illiquidity in the Corporation’s stock
Shares of CNBC common stock, while publicly traded on the over-the-counter market, are not readily marketable. The last reported over-the-counter trade occurred in 1990. Accordingly, shareholders of the Corporation’s common stock may encounter significant difficulty when attempting to liquidate their shares. All issues of the Corporation’s preferred stock are restricted and may be transferred or otherwise disposed of only under certain conditions. Accordingly, preferred shareholders may also encounter significant difficulties when attempting to liquidate their stock.
Concentration of deposit accounts
A substantial part of the Bank’s deposit customers are comprised of municipalities. Balances in these accounts may change significantly on a day-to-day basis and must generally be collateralized or otherwise secured. Additionally, these relationships may change rapidly based on factors other than the cost of or quality of services provided by the Bank to the municipalities, such

8


as changes in elected officials or reductions in municipal budgets.
Negative impact of a prolonged economic downturn
The economic downturn has resulted in uncertainty in the financial markets in general with the possibility of a slow recovery or a fall back into recession. The Federal Reserve Board, in an attempt to help the overall economy, has kept interest rates low through its targeted federal funds rate and the purchase of assets including mortgage-backed securities. If the Federal Reserve Board increases the federal funds rate, overall interest rates will likely rise which may negatively impact the housing markets and the U.S. economic recovery. A prolonged economic downturn or the return of negative developments in the financial services industry could negatively impact the Corporation’s operations by causing an increase in the provision for loan losses and a deterioration of the loan portfolio. Such a downturn may also adversely affect the ability to originate or sell loans. The occurrence of any of these events could have an adverse impact on the financial performance of the Corporation.
Most of the Bank’s lending is in northern and central New Jersey, and the New York City metropolitan area. As a result of this geographic concentration, a further significant broad-based deterioration in economic conditions in New Jersey and the New York City metropolitan area could have a material adverse impact on the quality of the Bank’s loan portfolio, results of operations and future growth potential. A prolonged decline in economic conditions in the Bank’s market area could further restrict borrowers’ ability to pay outstanding principal and interest on loans when due, and, consequently, adversely affect the Bank’s cash flows and results of operations.
The Bank’s loan portfolio is largely secured by real estate collateral. A substantial portion of the property securing the loans is located in New Jersey and the New York City metropolitan area. Conditions in the real estate markets in which the collateral for the Bank’s loans are located strongly influence the level of the Bank’s non-performing loans and results of operations. A continued decline in the New Jersey and New York City metropolitan area real estate markets may adversely affect collateral values of the Bank’s loan portfolio.
Allowance for loan losses may be insufficient
An allowance for loan losses is maintained based on, among other things, national and regional economic conditions, historical loss experience, and assumptions regarding delinquency trends and future loss expectations. If the assumptions prove to be incorrect, the allowance for loan losses may not be sufficient to cover losses inherent in the loan portfolio. Bank regulators review the classification of the loans in their examinations and may require the Bank in the future to change the classification on certain loans, which may require us to increase the provision for loan losses or loan charge-offs. Management could also decide that the allowance for loan losses should be increased. If actual net charge-offs were to exceed the allowance for loan losses, earnings would be negatively impacted by additional provisions for loan losses. Any increase in the allowance for loan losses or loan charge-offs as required by the OCC or otherwise could have an adverse effect on the results of operations or financial condition.
Further increases in non-performing assets may occur and adversely affect the results of operations and financial condition.
As a result of the economic downturn, loan delinquencies were increased, particularly in the commercial real estate portfolio, which comprises the largest segment of the loan portfolio. Until economic and market conditions improve, charge-offs to the allowance for loan losses and lost interest income relating to an increase in non-performing loans are expected to continue. Non-performing assets adversely affect net income in various ways. Adverse changes in the value of our non-performing assets, or the underlying collateral, or in the borrowers’ performance or financial conditions could adversely affect the Bank’s business, results of operations and financial condition. There can be no assurance that non-performing loans will not increase in the future, or that non-performing assets will not result in lower financial returns in the future.
Declines in value may adversely impact the investment portfolio
The Corporation may be required to record impairment charges in earnings related to credit losses in the investment portfolio if securities suffer a decline in value that is considered other-than-temporary. Additionally, (a) if the Corporation intends to sell a security or (b) it is more likely than not that the Corporation will be required to sell the security prior to recovery of its amortized cost basis, the Corporation will be required to recognize an other-than-temporary impairment charge in the statement of income equal to the full amount of the decline in fair value below amortized cost. Numerous factors, including lack of liquidity for sales of certain investment securities, absence of reliable pricing information for investment securities, adverse changes in business climate, adverse actions by regulators, or unanticipated changes in the competitive environment could have a negative effect on the investment portfolio and may result in other-than-temporary impairment on these investment securities in future periods. If an impairment charge is significant enough it could affect the ability of the Bank to upstream dividends to the parent company, which could have a material adverse effect on liquidity and the ability to pay dividends to shareholders and could also negatively impact regulatory capital ratios and result in the Bank not being classified as “well-capitalized” for regulatory purposes.
Higher FDIC deposit insurance premiums and assessments may adversely affect the Corporation’s financial condition or results of operations
FDIC insurance premiums have increased substantially since the Consent Order was imposed, compared to previous years, and may continue to increase. Numerous bank closings during the past several years have significantly depleted the insurance fund of the FDIC and reduced the ratio of reserves to insured deposits. The FDIC adopted a revised risk-based deposit insurance

9


assessment schedule during the first quarter of 2009, which raised regular deposit insurance premiums. In May 2009, the FDIC also implemented a special assessment of each insured depository institution’s total assets minus Tier 1 capital as of June 30, 2009, but no more than 10 basis points times the institution’s assessment base for the second quarter of 2009, collected by the FDIC on September 30, 2009. Notwithstanding this prepayment, the FDIC may impose additional special assessments for future quarters or may increase the FDIC standard assessments. Additional FDIC insurance assessments may be required, which could have an adverse effect on the Corporation’s results of operations.
Liquidity risk
Liquidity risk is the potential that the Corporation will be unable to meet its obligations as they come due, capitalize on growth opportunities as they arise, or pay regular dividends because of an inability to liquidate assets or obtain adequate funding in a timely basis, at a reasonable cost and within acceptable risk tolerances.
Liquidity is required to fund various obligations, including credit commitments to borrowers, mortgage and other loan originations, withdrawals by depositors, repayment of borrowings, dividends to shareholders, operating expenses and capital expenditures.
Liquidity is derived primarily from retail deposit growth and retention; principal and interest payments on loans; principal and interest payments on investment securities; sale, maturity and prepayment of investment securities; net cash provided from operations and access to other funding sources.
Access to funding sources in amounts adequate to finance ongoing operations could be impaired by factors that affect the Corporation specifically or the financial services industry in general. Factors that could detrimentally impact access to liquidity sources include a decrease in the level of business activity due to a prolonged economic downturn or adverse regulatory action. The ability to borrow could also be impaired by general factors, such as a severe disruption of the financial markets or negative views and expectations about the prospects for the financial services industry as a whole.
Because the Bank is operating under a Consent Order issued by the OCC, liquidity may become impaired due to restrictions in asset growth and dividend payments. As a result, management has developed a contingency funding plan which describes alternate sources of liquidity in the event the Bank experiences unexpected large funding reductions. At December 31, 2011, management believes that the Corporation has sufficient liquidity based on the detailed liquidity analysis performed as of that date.
The cash dividend on the Corporation’s common or preferred stock may be reduced or eliminated. There was no cash dividend payout per common share for the year ended December 31, 2011 due to operating losses. While our earnings may improve in the future, other factors, including those resulting from the economic recession, and the Consent Order may negatively impact future earnings and the Corporation’s ability to pay dividends.
Stockholders are only entitled to receive such cash dividends as the Board of Directors may declare out of funds legally available for such payments. Also, as a bank holding company, the ability to declare and pay dividends is dependent on federal regulatory considerations including the guidelines of the OCC and the Federal Reserve regarding capital adequacy and dividends. Finally, CNB is prohibited from paying dividends without OCC approval according to the Consent Order.
Since February 2010, CNBC has deferred payment on all its preferred stock issues, including the Series G cumulative perpetual preferred stock issued to the U.S. Treasury Department, as well as the quarterly interest payment related to its outstanding trust preferred securities. The Corporation is currently unable to determine when these payments may be resumed.
Changes in accounting policies or accounting standards
The Corporation’s accounting policies are fundamental to understanding its financial results and condition. Some of these policies require the use of estimates and assumptions that may affect the value of the Corporation’s assets or liabilities and financial results. The Corporation identified its accounting policies regarding the allowance for loan losses, security valuations, and income taxes to be critical because they require management to make difficult, subjective and complex judgments about matters that are inherently uncertain. Under each of these policies, it is possible that materially different amounts would be reported under different conditions, using different assumptions, or as new information becomes available.
From time to time the FASB and the SEC change their guidance governing the form and content of the Corporation’s external financial statements. In addition, accounting standard setters and those who interpret U.S. generally accepted accounting principles (“GAAP”), such as the FASB, SEC, banking regulators and the Corporation’s outside auditors, may change or even reverse their previous interpretations or positions on how these standards should be applied. Such changes are expected to continue, and may accelerate as the FASB and International Accounting Standards Board have reaffirmed their commitment to achieving convergence between U.S. GAAP and International Financial Reporting Standards. Changes in U.S. GAAP and changes in current interpretations are beyond the Corporation’s control, can be hard to predict and could materially impact how the Corporation reports its financial results and condition. In certain cases, the Corporation could be required to apply a new or revised guidance retroactively or apply existing guidance differently (also retroactively) which may result in restating prior period financial statements for material amounts. Additionally, significant changes to U.S. GAAP may require costly technology changes, additional training and personnel, and other expenses that will negatively impact our results of operations.

10


Severe weather, acts of terrorism or other external events could significantly impact the business of the Bank
A significant portion of the Bank’s primary markets are located near coastal waters which could generate naturally occurring severe weather, or in response to climate change, that could have a significant impact on the Bank’s ability to conduct business. Additionally, New York City and New Jersey remain central targets for potential acts of terrorism against the United States. Such events could affect the stability of the Bank’s deposit base, impair the ability of borrowers to repay outstanding loans, impair the value of collateral securing loans, cause significant property damage, result in loss of revenue, or cause the Bank to incur additional expenses. Although management has established disaster recovery policies and procedures, the occurrence of any such event in the future could have a material adverse effect on the Bank’s business, which, in turn, could have a material adverse effect on the Corporation’s financial condition and results of operations.
Changes in interest rates
The Corporation’s earnings and cash flows are largely dependent upon its net interest income. Interest rates are highly sensitive to many factors that are beyond the Corporation’s control, including general economic conditions, competition, and policies of various government and regulatory agencies and, in particular, the Board of Governors of the Federal Reserve System. Changes in monetary policy, including changes in interest rates, could influence not only the interest received on loans and investment securities and the amount of interest the Corporation pays on deposits and borrowings, but such changes could also affect the Corporation’s ability to originate loans and obtain deposits, the fair value of the Corporation’s financial assets and liabilities, and the average duration of the Corporation’s assets and liabilities. If the interest rates paid on deposits and other borrowings increase at a faster rate than the interest rates received on loans and other investments, the Corporation’s net interest income, and therefore earnings, could be adversely affected. Earnings could also be adversely affected if the interest rates received on loans and other investments fall more quickly than the interest rates paid on deposits and other borrowings.
Additionally, higher interest rates may impact the ability of the Bank’s borrowers to repay their loans, possibly requiring an increase in the allowance for loan losses. The Bank’s church borrower, which represent a significant concentration of commercial real estate loans, may be more adversely affected given their limited ability to pass on cost increases to congregation members.
Competition
The Corporation faces substantial competition in all areas of its operations from a variety of different competitors, many of which are larger and may have more financial resources. The Corporation competes with other providers of financial services such as other bank holding companies, commercial and savings banks, savings and loan associations, credit unions, money market and mutual funds, mortgage companies, title agencies, asset managers, insurance companies and a growing list of other local, regional and national institutions which offer financial services. Additionally, several nonbanking companies have received approval to obtain banking charters as a result of the deterioration in the financial services industry. Additionally, bank closures have created consumer uncertainty causing chaotic deposit pricing. This could have a significant impact on the Bank’s ability to attract deposits at an affordable price. Accordingly, if the Corporation is unable to compete effectively, it will lose market share and income generated from loans, deposits, and other financial products will decline.

Capital raise
The Corporation is presently attempting to raise additional capital. A capital raise may trigger a change in control under Section 382 of the Internal Revenue Code. Generally, Section 382 limits the utilization of an entity's net operating loss carryforwards upon a change of control. If a change of control is triggered, it could result in a loss of deductibility of a portion of the Corporation's deferred tax asset.
The Bank is subject to a Consent Order and the Corporation is subject to the FRBNY Agreement
As noted in Item 1, under Business-Consent Order and Business-FRBNY Agreement, the Bank is subject to a Consent Order which mandates specific actions by the Bank to address certain findings from the OCC’s examination and to address the Bank’s current financial condition and the Corporation is subject to the FRBNY Agreement. As of May 25, 2012, the Bank believes it has timely complied with the requirements of the Consent Order as of such date with the exception of the capital ratio requirement and the addition of an independent Bank board member. Further, in the event that we are unable to raise sufficient capital to achieve the required capital ratios under the Consent Order, our liquidity position, financial condition and business could be materially adversely affected. Additionally, if our regulators believe we have failed to comply with the Consent Order or the FRBNY Agreement, they could take action to protect the interests of our depositors, including forcing the Corporation’s Board to sell, merge or liquidate the Bank. They have not indicated that they intend to take any such action, although the likely result of such an action would be the elimination of all stockholder value and the failure of the Corporation to comply with the FRBNY Agreement could have severe adverse consequences on the Bank and the Corporation.

We currently have no commitments to receive capital, although if we are eventually successful in raising capital, the interests of our existing stockholders would most likely be significantly diluted.
The deteriorating financial results and the restrictive requirements of the Consent Order with the OCC discussed above raise substantial doubt about the Corporation’s and the Bank’s ability to continue as a going concern.

11



Item 2.   Properties
The corporate headquarters and main office, as well as the operations and data processing center of CNBC and CNB are located in Newark, New Jersey on property owned by CNB. The Bank has one other branch location in New Jersey and three in the state of New York. Three of the locations are in leased space while the others are owned by the Bank.
The New Jersey branch offices are located in Newark, all of which are owned, and in Paterson, which is leased. The New York branches are located in Roosevelt, Long Island, and one in Harlem, New York, both of which are leased and Brooklyn, New York, which is owned.
In addition to its branch network, the Bank currently maintains six ATM’s at remote sites in New Jersey and New York State.

Item 3.   Legal proceedings
The Corporation is periodically involved in legal proceedings in the normal course of business, such as claims to enforce liens, claims involving the making and servicing of real property loans, and other issues incident to the business of the Corporation. Management believes that there is no pending or threatened proceeding against the Corporation, which, if determined adversely, would have a material effect on the business or financial position of the Corporation.

Item 4.   Submission of matters to a vote of security holders
During the fourth quarter of 2011 there were no matters submitted to stockholders for a vote.

Part II

Item 5.   Market for the registrant’s common equity and related stockholders matters
The Corporation’s common stock, when publicly traded, is traded over-the-counter. The common stock is not listed on any exchange and is not quoted on the National Association of Securities Dealers’ Automated Quotation System. The last customer trade effected by a market maker was unsolicited and occurred on November 2, 1990. No price quotations are currently published for the common stock, nor is any market maker executing trades. No price quotations were published during 2011.
At February 27, 2012, the Corporation had 1,256 common stockholders of record.
On May 1, 2009 the Corporation paid a cash dividend of $3.60 per share to common stockholders of record on April 22, 2008. No dividends have been paid to common shareholders in 2010 or 2011. Whether cash dividends on the common stock will be paid in the future depends upon various factors, including the earnings and financial condition of the Bank and the Corporation at the time. Additionally, federal and state laws and regulations contain restrictions on the ability of the Bank and the Corporation to pay dividends.
In February, 2012, CNBC deferred payment on all its preferred stock issues, including the Series G cumulative perpetual preferred stock issued to the U.S. Treasury Department, as well as the quarterly interest payment related to its outstanding trust preferred securities. The Corporation is currently unable to determine when these payments may be resumed and does not expect to pay a common stock dividend in 2012.
Form 10-K
The annual report filed with the Securities and Exchange Commission on Form 10-K is available without charge upon written request to City National Bancshares Corporation, Edward R. Wright, Senior Vice President and Chief Financial Officer, 900 Broad Street, Newark, New Jersey 07102.
Transfer Agent

Registrar and Transfer Company
 
10 Commerce Drive Cranford, NJ 07016
 


12


Item 6.   Selected Financial Data
The following selected financial data should be read in conjunction with the Corporation’s consolidated financial statements and the accompanying notes thereto.
Five-Year Summary

Dollars in thousands, except per share data
2011
 
2010
 
2009
 
2008
 
2007
Year-end Balance Sheet data
 
 
 
 
 
 
 
 
 
Total assets
$
358,442

 
$
387,267

 
$
466,339

 
$
494,539

 
$
449,748

Gross loans
208,715

 
244,955

 
276,242

 
271,906

 
232,824

Allowance for loan losses
10,870

 
10,626

 
8,650

 
3,800

 
3,000

Investment securities
95,058

 
105,420

 
162,401

 
178,061

 
157,556

Total deposits
299,271

 
338,551

 
380,276

 
407,117

 
394,856

Short-term portion of long-term debt
5,000

 
5,000

 
5,000

 
5,000

 

Long-term debt
14,200

 
14,200

 
44,000

 
46,600

 
19,800

Stockholders’ equity
19,771

 
22,896

 
31,013

 
28,092

 
28,872

Income Statement data
 
 
 
 
 
 
 
 
 
Interest income
15,424

 
20,234

 
24,174

 
25,902

 
25,978

Interest expense
4,964

 
7,407

 
9,495

 
11,309

 
14,233

Net interest income
10,460

 
12,827

 
14,679

 
14,593

 
11,745

Provision for loan losses
3,014

 
9,487

 
8,105

 
1,586

 
772

Net interest income after provision for loan losses
7,446

 
3,340

 
6,574

 
13,007

 
10,973

Other operating income
4,020

 
5,617

 
3,124

 
279

 
2,694

Net impairment losses on securities

 

 
(2,333
)
 
(2,688
)
 

Other operating expenses
15,070

 
16,055

 
13,381

 
12,278

 
11,428

(Loss) income before income tax expense
(3,604
)
 
(7,097
)
 
(6,016
)
 
1,008

 
2,239

Income tax (benefit) expense
73

 
360

 
1,806

 
50

 
372

Net (loss) income
$
(3,677
)
 
$
(7,457
)
 
$
(7,822
)
 
$
1,058

 
$
1,867

Per common share data
 
 
 
 
 
 
 
 
 
Net (loss) income per basic share
$
(32.60
)
 
$
(60.54
)
 
$
(68.36
)
 
$
1.87

 
$
8.28

Net (loss) income per diluted share
(32.60
)
 
(60.54
)
 
(68.36
)
 
1.87

 
8.09

Book value
(7.77
)
 
19.96

 
85.50

 
130.10

 
141.04

Dividends declared
 

 
2.00

 
3.60

 
3.50

Basic average number of common shares outstanding
131,320

 
131,290

 
131,300

 
131,688

 
132,306

Diluted average number of common shares outstanding
131,320

 
131,290

 
131,300

 
131,688

 
148,623

Number of common shares outstanding at year-end
131,326

 
131,290

 
131,290

 
131,330

 
131,987

Financial ratios
 
 
 
 
 
 
 
 
 
Return on average assets
(1.00
)%
 
(1.63
)%
 
(1.53
)%
 
0.23
%
 
0.44
%
Return on average common equity
(19.89
)%
 
(69.84
)%
 
(36.55
)%
 
1.38
%
 
6.35
%
Stockholders’ equity as a percentage of total assets
5.52

 
5.91

 
6.65

 
5.68

 
6.42

Common dividend payout ratio

 

 

 
1.93

 
42.22



13




Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The purpose of this analysis is to provide information relevant to understanding and assessing the results of operations for each of the past three years and financial condition for each of the past two years for City National Bancshares Corporation and its subsidiaries.
Cautionary statement concerning forward looking statements
This management’s discussion and analysis contains forward looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Such statements are not historical facts and include expressions about management’s expectations about new and existing programs and products, relationships, opportunities, and market conditions. Such forward-looking statements involve certain risks and uncertainties. These include, but are not limited to, unanticipated changes in the direction of interest rates, effective income tax rates, loan prepayment assumptions, deposit growth, the direction of the economy in New Jersey and New York, levels of asset quality, continued relationships with major customers, as well as the effects of general economic conditions and legal and regulatory issues and changes in tax regulations. Actual results may differ materially from such forward
looking statements. The Corporation assumes no obligation for updating any such forward looking statement at any time.
Critical accounting policies and use of estimates
The Corporation’s accounting and reporting policies conform, in all material respects, to U.S. generally accepted accounting principles (“GAAP”). In preparing the consolidated financial statements, management has made estimates, judgments and assumptions that affect the reported amounts of assets and liabilities as of the date of the consolidated statements of condition and results of operations for the periods indicated. Actual results could differ significantly from those estimates.
Accounting policies are fundamental to understanding management’s discussion and analysis of its financial condition and results of operations. The significant accounting policies are presented in Note 1 to the consolidated financial statements. Policies on the allowance for loan losses, security valuations, and income taxes are considered to be critical as management is required to make subjective and/or complex judgments about matters that are inherently uncertain and could be most subject to revision as new information becomes available.
The judgments used by management in applying the critical accounting policies discussed below may be affected by a further and prolonged deterioration in the economic environment, which may result in changes to future financial results. Specifically, subsequent evaluations of the loan portfolio, in light of the factors then prevailing, may result in significant changes in the allowance for loan losses in future periods, and the inability to collect on outstanding loans could result in increased loan losses. In addition, the valuation of certain securities in the investment portfolio could be negatively impacted by illiquidity or dislocation in marketplaces resulting in significantly depressed market prices, or a deterioration in credit quality, thus leading to further impairment losses.
Allowance for loan losses, impaired loans, TDRs and OREO
The allowance for loan losses represents management’s estimate of probable loan losses inherent in the loan portfolio. Determining the amount of the allowance for loan losses is considered a critical accounting estimate because it requires significant judgment and the use of estimates related to the amount and timing of expected future cash flows on impaired loans, estimated losses on pools of homogeneous loans based on historical loss experience, and consideration of current economic trends and conditions, all of which may be susceptible to significant change. Bank regulators, as an integral part of their examination process, also review the allowance for loan losses. Such regulators may require, based on their judgments about information available to them at the time of their examination, that certain loan balances be charged off or require that adjustments be made to the allowance for loan losses when their credit evaluations differ from those of management. Additionally, the allowance for loan losses is determined, in part, by the composition and size of the loan portfolio, which represents the largest asset type on the consolidated statement of financial condition.
The allowance for loan losses consists of four elements: (1) specific reserves for individually impaired credits, (2) reserves for classified, or higher risk rated, loans, (3) reserves for non-classified loans and (4) unallocated reserves. Other than the specific reserves, the calculation of the allowance takes into consideration numerous risk factors both internal and external to the Corporation, including changes in loan portfolio volume, the composition and concentrations of credit, new market initiatives, migration to loss analysis and the amount of loan charge-offs, among other quantitative and qualitative factors.
Management performs a formal quarterly evaluation of the adequacy of the allowance for loan losses. The analysis of the allowance for loan losses has a component for impaired loan losses and a component for general loan losses. Management has defined an impaired loan to be a loan for which it is probable, based on current information, that the Corporation will not collect all amounts due in accordance with the contractual terms of the agreement. The Corporation defined the population of impaired loans to be all nonaccrual loans with an outstanding balance of $100,000 or greater, and all loans subject to a troubled debt restructuring. Impaired loans are individually assessed to determine that the loan’s carrying value is not in excess of the estimated fair value of



the collateral (less cost to sell), if the loan is collateral dependent, or the present value of the expected future cash flows, if the loan is not collateral dependent. Management performs a detailed evaluation of each impaired loan and generally reviews appraisals as part of the evaluation. In addition, management adjusts estimated fair value down to appropriately consider recent market conditions and costs to dispose of any supporting collateral. Determining the estimated fair value of underlying collateral (and related costs to sell) can be subjective in illiquid real estate markets and is subject to significant assumptions and estimates. Management employs independent third-party experts in appraisal preparations and performs reviews to ascertain the reasonableness of updated appraisals. Projecting the expected cash flows under troubled debt restructurings is inherently subjective and requires, among other things, an evaluation of the borrower’s current and projected financial condition. Actual results may be significantly different than projections and the established allowance for loan losses on these loans, and could have a material effect on the Corporation’s financial results.
Real estate acquired as a result of foreclosure or by deed in lieu of foreclosure is classified as other real estate owned. When the Bank acquires other real estate owned, it generally obtains a current appraisal to substantiate the net carrying value of the asset. The asset is recorded at the lower of cost or estimated fair value, establishing a new cost basis. Holding costs and declines in estimated fair value result in charges to expense after acquisition.
Although management believes that the allowance for loan losses has been maintained at adequate levels to reserve for probable losses inherent in its loan portfolio, additions may be necessary if future economic and other conditions differ substantially from the current operating environment. Although management uses quantitative and qualitative information in its models, the level of the allowance for loan losses remains an estimate that is subject to significant judgment and short-term change.
Investment security valuations and impairments
Management utilizes various inputs to determine the fair value of its investment portfolio. To the extent they exist, unadjusted quoted market prices in active markets (level 1) or quoted prices of similar assets (level 2) are utilized to determine the fair value of each investment in the portfolio. In the absence of quoted prices and illiquid markets, valuation techniques may be used to determine fair value of any investments that require inputs that are both significant to the fair value measurement and unobservable (level 3). Valuation techniques are based on various assumptions, including, but not limited to, projected cash flows, discount rates, rate of return, adjustments for nonperformance and liquidity, valuations of underlying collateral and liquidation values. A significant degree of judgment is involved in valuing investments using level 3 inputs. The use of different assumptions could have a positive or negative effect on consolidated financial condition or results of operations.
Management periodically evaluates if unrealized losses (as determined based on the securities valuation methodologies discussed above) on individual securities classified as available for sale in the investment portfolio are considered to be other-than-temporary. The analysis of other-than-temporary impairment requires the use of various assumptions, including, but not limited to, the length of time an investment’s book value is greater than fair value, the severity of the investment’s decline, any credit deterioration of the investment, whether management intends to sell the security, and whether it is more likely than not that management will be required to sell the security prior to recovery of its amortized cost basis. As a result of the adoption of new authoritative guidance under ASC Topic 320, “Investments—Debt and Equity Securities” on April 1, 2009, debt investment securities deemed to be other-than-temporarily impaired are to be written down by the impairment related to the estimated credit loss and the non-credit related impairment was recognized in other comprehensive income.
City National Bank of New Jersey is a member of the Federal Home Loan Bank System, which consists of 12 regional Federal Home Loan Banks. As a member of the Federal Home Loan Bank of New York (“FHLB-NY”) City National Bank is required to acquire and hold shares of capital stock in the FHLB-NY in an amount determined by a “membership” investment component and an “activity-based” investment component. As of December 31, 2011, City National Bank was in compliance with its ownership requirement and held $951,000 of FHLB-NY common stock. In performing the quarterly evaluation of the investment in FHLB-NY stock, management reviews the most recent financial statements of the FHLB of New York and determines whether there have been any adverse changes to its capital position as compared to the previous period. In addition, management reviews the FHLB-NY’s most recent President’s Report in order to determine whether or not a dividend has been declared for the current reporting period. Finally, management obtains the credit rating of FHLB from an accredited credit rating agency to ensure that no downgrades have occurred. At December 31, 2011, it was determined by management that the Bank’s investment in FHLB stock was not impaired.
Income taxes
The objectives of accounting for income taxes are to recognize the amount of taxes payable or refundable for the current year and deferred tax liabilities and assets for the future tax consequences of events that have been recognized in an entity’s financial statements or tax returns. Judgment is required in assessing the future tax consequences of events that have been recognized in the consolidated financial statements or tax returns. Fluctuations in the actual outcome of these future tax consequences could impact the consolidated financial condition or results of operations.
In connection with determining the income tax provision, a reserve is maintained related to certain tax positions and strategies that management believes contain an element of uncertainty. Periodically, management evaluates each tax position and strategy

15


to determine whether the reserve continues to be appropriate.
The Corporation uses the asset and liability method of accounting for income taxes. 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 bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. If it is determined that it is more likely than not that the deferred tax assets will not be realized, a valuation allowance is established. Management considers the determination of this valuation allowance to be a critical accounting policy because of the need to exercise significant judgment in evaluating the amount and timing of recognition of deferred tax liabilities and assets, including projections of future taxable income. These judgments and estimates are reviewed quarterly as regulatory and business factors change. A valuation allowance for deferred tax assets may be required if the amounts of taxes recoverable through loss carry-backs decline, or if lower levels of future taxable income are projected. Such a valuation allowance would be established and any subsequent changes to such allowance would require an adjustment to income tax expense that could adversely affect the Corporation’s operating results.
The Corporation is presently attempting to raise additional capital. A capital raise may trigger a change in control under Section 382 of the Internal Revenue Code. Generally, Section 382 limits the utilization of an entity's net operating loss carryforwards upon a change of control. If a change of control is triggered, it could result in a loss of deductibility of a portion of the Corporation's deferred tax asset.
Executive summary
In 2011, we continued to face unprecedented challenges from the repercussions arising from the economic downturn. While we continue to incur losses they have decreased significantly due primarily to sharply reduced loan charge-offs and related loan loss provisions, although we continue to incur operating losses before consideration of the provision.

Because asset quality is the major driver of our earnings and capital levels, while nonperforming loan levels have risen, the reduced loan charge-offs represent a significant milestone. We have also added loan staff experienced in loan workout, resulting in more aggressive action in slowing the migration of past due loans and the collection of nonperforming loans.
We have taken several steps to mitigate our losses, most significantly closing a branch and the discontinuance of our supplemental executive and directors’ retirement plans. We are also reviewing our remaining branch network for possible additional closures or consolidation, as well as exploring new affiliations which are expected to generate new sources of revenue.
In 2011, we received $500,000 of awards from the U.S. Treasury’s Community Development Financial Institution ("CDFI") Fund, while in 2010, we received $1.6 million. The awards were based on the Bank’s lending efforts in qualifying lower income communities and $257,000 was recorded as a yield enhancement on the related loans during 2011. There is no assurance that we will receive similar awards in 2012.
The primary source of the Corporation’s income comes from net interest income, which represents the excess of interest earned on earning assets over the interest paid on interest-bearing liabilities. This income is subject to interest rate risk resulting from changes in interest rates. The most significant component of the Corporation’s interest-earning assets is the loan portfolio. In addition to the aforementioned interest rate risk, the portfolio is subject to credit risk. Certain components of the investment portfolio are subject to credit risk as well.
Cash and due from banks
Cash and due from banks declined from $7.2 million at the end of 2010 to $6 million at the end of 2011, while average cash and due from banks was $8.1 million in both 2010 and 2011.
Federal funds sold
Federal funds sold increased from $13.6 million at the end of 2010 to $32.6 million at December 31, 2011, while the related average balance rose slightly, from $29.5 million in 2010 to $31.1 million in 2011. The higher year-end balance was due to a higher planned liquidity position.
Interest-bearing deposits with banks
Interest-bearing deposits with banks decreased from $3.3 million at December 31, 2010 to $1.9 million a year later, while the related average balances were $2.1 million in 2011 and $1.5 million in 2010. The deposits represent the Bank’s participation in the CDFI deposit program. Under this program, the Bank is eligible for awards based on deposits made in other CDFIs, representing a yield enhancement on the CDFI deposits. In 2011, $224,000 of such income was recorded as interest income from interest-bearing deposits with banks, while $24,000 was recorded in 2010 and $42,000 was recorded in 2009.

Investments
The available for sale (“AFS”) portfolio decreased to $95.1 million at December 31, 2011 from $105.4 million a year earlier due primarily to maturities and principal payments that were not reinvested into the portfolio due to a deleverage program, whereby

16


the Corporation reduces the its asset size to improve capital ratios. During the 2011 fourth quarter, $6.3 million of tax-exempt securities were sold as the Corporation does not expect to benefit from tax-exempt income for the foreseeable future. Purchases during 2011 were comprised solely of U.S. government agency securities that are eligible as collateral for municipal deposits.

Additionally, during the 2011 fourth quarter, the Corporation sold $24.6 million of U.S. government agency securities, recognizing a gain of $989,000, reinvesting the proceeds into U.S. government agency securities. The sale and reinvestment was done primarily to improve capital ratios, and from an interest rate risk standpoint, was neutral.
The related pre-tax unrealized loss was $173,000 at the end of 2010 compared to an unrealized gain of $423,000 at the end of 2011 due to the lower interest rate environment in 2011, which had a positive impact on our portfolio.
Included in the AFS portfolio are two collateralized debt obligations (“CDOs”) that are comprised of pools of trust preferred securities issued primarily by banks that have a book value of $1,036,000 and a market value of $467,000. The unrealized loss of $569,000 is included in Other Comprehensive Income (“OCI”). $584,000 of this loss pertains to one CDO which continues to be fully performing and has substantial excess collateral coverage in the tranche we own. The market value of this security has been negatively impacted by illiquidity in the overall CDO market, as well as losses sustained in the underlying collateral. No impairment losses were recorded on either of the CDOs during 2011.
Additionally, the available for sale portfolio includes two corporate debt securities with a carrying value of $1.9 million that have an unrealized loss of $300,000. All of the investments continue to perform.
Finally, the Bank owns six single-issue trust preferred securities issued by individual financial institutions with a carrying value of $4.5 million and an unrealized loss of $1.2 million. No impairment losses have been incurred on these securities, which are current as to the payment of interest and mostly investment grade.
Management does not believe that any individual unrealized losses as of December 31, 2011 represent an other-than-temporary impairment. Additionally, the Corporation does not have the intent to sell these securities and it is more likely than not that the Corporation will not be required to sell the securities.
The Bank transferred its entire held to maturity (“HTM”) portfolio to AFS in March 2010. This transfer was made in conjunction with the deleveraging program to reduce total asset levels in order to improve capital ratios, and improve liquidity by allowing for the disposition of securities, if necessary. In December 2010, we sold securities with a book value of $46.1 million, recognizing a gain of $1.4 million and concurrently paid off $26.5 million in Federal Home Loan Bank advances, incurring a prepayment penalty of $694,000. We also reinvested $28 million into new securities, resulting in a reduction in total assets of approximately $26.5 million.
Information pertaining to the amortized costs and average weighted yields of investments in debt securities at December 31, 2011 is presented below. Maturities of mortgaged-backed securities are based on the maturity of the final scheduled payment. Such securities, which comprise most of the balances shown as maturing beyond five years, generally amortize on a monthly basis and are subject to prepayment.

Investment Securities Available for Sale
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Maturing Within
One Year
 
Maturing After One
Year But Within
Five Years
 
Maturing After Five
Years But Within
Ten Years
 
Maturing After
Ten Years
 
 
 
 
Dollars in thousands
 
Amount
 
Yield
 
Amount
 
Yield
 
Amount
 
Yield
 
Amount
 
Yield
 
Total
Amount
 
Total
Yield
U.S. Treasury securities and obligations of U.S. government agencies
 
$

 

 
$
30

 
1.86
%
 
$
82

 
1.78
%
 
$
8,893

 
2.90
%
 
$
9,005

 
2.89
%
Obligations of U.S. government sponsored entities
 

 

 
287

 
3.65

 
3,322

 
3.39

 
9,196

 
1.82

 
12,805

 
2.27

Obligations of state and political subdivisions
 

 

 

 

 
1,680

 
5.24

 
1,646

 
8.02

 
3,326

 
6.62

Mortgage-backed securities
 

 

 
374

 
3.86

 
317

 
2.31

 
57,682

 
3.50

 
58,373

 
3.49

Other debt securities
 

 

 
1,000

 
4.00

 

 

 
7,366

 
2.95

 
8,366

 
3.08

Total amortized cost
 
$

 
%
 
$
1,691

 
3.88
%
 
$
5,401

 
3.43
%
 
$
84,783

 
3.31
%
 
$
91,875

 
3.34
%

Average yields are computed by dividing the annual interest, net of premium amortization and including discount accretion, by the amortized cost of each type of security outstanding at December 31, 2011. Average yields on tax-exempt obligations of state and political subdivisions have been computed on a fully taxable equivalent basis, using the statutory Federal income tax rate of 34%.

17


The average yield on the AFS portfolio declined to 3.34% at December 31, 2011 from 4.14% at December 31, 2010. The reduced yield was due to the lower yields earned on newly acquired investments placed in the portfolio during 2011, along with the sale of securities during the year that had relatively high yields. The weighted average life of the AFS portfolio was 5.70 years at the end of 2011 compared to 6.58 years a year earlier due to the purchase of shorter-term securities to limit interest rate risk exposure in a rates-up environment.

The following table sets forth the amortized cost and market values of the Corporation’s portfolio for the three years ended December 31:

 
2011
 
2010
 
2009
Investment Securities Available for Sale
Dollars in thousands
Amortized
Cost
 
Market
Value
 
Amortized
Cost
 
Market
Value
 
Amortized
Cost
 
Market
Value
U.S. Treasury securities and obligations of U.S. government agencies
$
9,005

 
$
9,151

 
$
3,389

 
$
3,429

 
$
12,518

 
$
12,700

Obligations of U.S. government sponsored entities
12,805

 
13,027

 
15,447

 
15,280

 
17,289

 
17,324

Obligations of state and political subdivisions
3,326

 
3,500

 
9,604

 
9,513

 
546

 
553

Mortgage-backed securities
58,373

 
60,432

 
66,037

 
67,905

 
74,417

 
77,138

Other debt securities
8,366

 
6,207

 
8,358

 
6,556

 
12,269

 
10,268

Equity securities:
 
 
 
 
 
 
 
 
 
 
 
Marketable securities
783

 
764

 
748

 
727

 
713

 
695

Nonmarketable securities
115

 
115

 
115

 
115

 
115

 
115

Federal Reserve Bank and Federal Home Loan Bank stock
1,862

 
1,862

 
1,895

 
1,895

 
3,213

 
3,213

Total
$
94,635

 
$
95,058

 
$
105,593

 
$
105,420

 
$
121,080

 
$
122,006


Due largely to illiquidity in various segments of the fixed income markets, valuations have became more subjective, requiring alternate methods of valuation aside from quoted trade prices, which often represent distressed sales prices. Such methods included underlying collateral valuations and discounted cash flow analyses, often producing higher calculated valuations than the quoted trade prices. Illiquidity in these markets also has a negative effect on such quotations. Finally, credit weakness of various issuers also has a significant negative impact on valuations. As a result, the services of third-party consultants were utilized in the valuation process. These consultants prepared discounted cash flow analyses for the CDOs and analyzed the default probabilities of underlying issuers in the Corporation’s CDO portfolio in order to determine the fair values of such securities.

Consolidated Average Balance Sheet with Related Interest and Rates
The following table presents the components of net interest income on tax-equivalent basis.


18


 
2011
 
2010
 
2009
Tax equivalent basis; dollars in thousands
Average
Balance
 
Interest
 
Average
Rate
 
Average
Balance
 
Interest
 
Average
Rate
 
Average
Balance
 
Interest
 
Average
Rate
Assets
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Interest earning assets:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Federal funds sold and securities purchased under agreements to resell
$
31,115

 
$
25

 
0.08
%
 
$
29,493

 
$
42

 
0.14
%
 
$
34,625

 
$
54

 
0.16
%
Interest-bearing deposits with banks1
2,146

 
236

 
10.97

 
1,539

 
29

 
1.88

 
1,494

 
50

 
3.33

Investment securities2:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Taxable
92,387

 
3,623

 
3.92

 
122,985

 
5,269

 
4.28

 
139,984

 
6,668

 
4.76

Tax-exempt
6,223

 
373

 
5.99

 
18,824

 
1,130

 
6.01

 
31,457

 
1,903

 
6.05

Total investment securities
98,610

 
3,996

 
4.05

 
141,809

 
6,399

 
4.51

 
171,441

 
8,571

 
5.00

Loans 3, 4,6
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Commercial
36,493

 
1,813

 
4.97

 
49,180

 
2,607

 
5.30

 
53,198

 
3,094

 
5.82

Real estate
190,042

 
9,425

 
4.96

 
211,123

 
11,457

 
5.42

 
223,992

 
12,960

 
5.79

Installment
905

 
56

 
8.79

 
1,425

 
84

 
5.90

 
1,463

 
92

 
6.29

Total loans
227,440

 
11,294

 
4.97

 
261,728

 
14,148

 
5.41

 
278,653

 
16,146

 
5.79

Total interest earning assets
359,311

 
15,551

 
4.33

 
434,569

 
20,618

 
4.74

 
486,213

 
24,821

 
5.10

Noninterest earning assets:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Cash and due from banks
8,078

 
 
 
 
 
8,129

 
 
 
 
 
8,147

 
 
 
 
Net unrealized gain (loss) on investment securities available for sale
920

 
 
 
 
 
2,864

 
 
 
 
 
(1,681
)
 
 
 
 
Allowance for loan losses
(11,062
)
 
 
 
 
 
(8,607
)
 
 
 
 
 
(4,717
)
 
 
 
 
Other assets
18,768

 
 
 
 
 
20,628

 
 
 
 
 
21,700

 
 
 
 
Total noninterest earning assets
16,704

 
 
 
 
 
23,014

 
 
 
 
 
23,449

 
 
 
 
Total assets
$
376,015

 
 
 
 
 
$
457,583

 
 
 
 
 
$
509,662

 
 
 
 
Liabilities and stockholders’ equity
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Interest bearing liabilities:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Demand deposits
$
45,032

 
$
117

 
0.26
%
 
$
60,546

 
$
286

 
0.47
%
 
$
53,321

 
$
393

 
0.74
%
Money market deposits
55,200

 
393

 
0.71

 
65,639

 
584

 
0.89

 
107,336

 
1,092

 
1.02

Savings deposits
22,821

 
111

 
0.49

 
24,166

 
124

 
0.51

 
24,859

 
128

 
0.52

Time deposits
164,371

 
3,534

 
2.15

 
187,450

 
4,721

 
2.52

 
197,211

 
6,057

 
3.07

Total interest bearing deposits
287,424

 
4,155

 
1.45

 
337,801

 
5,715

 
1.69

 
382,727

 
7,670

 
2.00

Short-term borrowings
33

 

 
0.81

 
89

 
1

 
0.52
%
 
606

 
3

 
0.50

Long-term debt
19,200

 
809

 
4.21

 
46,901

 
1,691

 
3.61

 
50,074

 
1,822

 
3.64

Total interest bearing liabilities
306,657

 
4,964

 
1.62

 
384,791

 
7,407

 
1.93

 
433,407

 
9,495

 
2.19

Noninterest bearing liabilities:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Demand deposits
42,382

 
 
 
 
 
35,033

 
 
 
 
 
34,509

 
 
 
 
Other liabilities
5,369

 
 
 
 
 
6,382

 
 
 
 
 
6,898

 
 
 
 
Total noninterest bearing liabilities
47,751

 
 
 
 
 
41,415

 
 
 
 
 
41,407

 
 
 
 
Stockholders’ equity
21,607

 
 
 
 
 
31,378

 
 
 
 
 
34,848

 
 
 
 
Total liabilities and stockholders’ equity
$
376,015

 
 
 
 
 
$
457,584

 
 
 
 
 
$
509,662

 
 
 
 
Net interest income (tax equivalent basis)
 
 
10,587

 
2.71

 
 
 
13,211

 
2.81

 
 
 
15,326

 
2.91

Tax equivalent basis adjustment 5
 
 
(127
)
 
 
 
 
 
(384
)
 
 
 
 
 
(647
)
 
 
Net interest income7
 
 
$
10,460

 
 
 
 
 
$
12,827

 
 
 
 
 
$
14,679

 
 
Average rate paid to fund interest earning assets
 
 
 
 
1.38

 
 
 
 
 
1.70

 
 
 
 
 
1.95

Net interest income as a percentage of interest earning assets (tax equivalent basis)
 
 
 
 
2.95
%
 
 
 
 
 
3.04
%
 
 
 
 
 
3.15
%

1

Includes $224,000 in 2011, $24,000 in 2010 and $42,000 in 2009, representing income received under the U.S. Treasury Department’s Bank Enterprise Award certificate of deposit program.

19



2

Includes investment securities available for sale and held to maturity.

3

Includes nonperforming loans.

4

Includes loan fees of $207,000 $213,000 and $421,000 in 2011, 2010 and 2009, respectively.

5

The tax equivalent adjustment was computed assuming a 34% statutory federal income tax rate in 2011, 2010 and 2009.

6

Includes $481,000 in 2011, $321,000 in 2010 and $387,000 in 2009 representing income received under the U.S. Treasury Department’s Bank Enterprise Award loan program.

7

The total yield enhancements on the interest bearing deposits with banks and loans increased net interest income by fourteen basis points in 2011, eight basis points in 2010 and nine basis points in 2009, respectively.
The table below sets forth, on a fully tax-equivalent basis, an analysis of the increase (decrease) in net interest income resulting from the specific components of income and expenses due to changes in volume and rate. Because of the numerous simultaneous balance and rate changes, it is not possible to precisely allocate such changes between balances and rates. Therefore, for purposes of this table, changes which are not due solely to balance and rate changes are allocated to rate.

 
2011 Net Interest Income Increase
(Decrease) from 2010 due to:
 
2010 Net Interest Income Increase
(Decrease) from 2009 due to:
Dollars in thousands
Volume
 
Rate
 
Total
 
Volume
 
Rate
 
Total
Interest income
 
 
 
 
 
 
 
 
 
 
 
Loans:
 
 
 
 
 
 
 
 
 
 
 
Commercial
$
(672
)
 
$
(122
)
 
$
(794
)
 
$
(233
)
 
$
(254
)
 
$
(487
)
Real estate
(1,143
)
 
(889
)
 
(2,032
)
 
(745
)
 
(758
)
 
(1,503
)
Installment
(31
)
 
3

 
(28
)
 
(2
)
 
(6
)
 
(8
)
Total loans
(1,846
)
 
(1,008
)
 
(2,854
)
 
(980
)
 
(1,018
)
 
(1,998
)
Taxable investment securities
(1,310
)
 
(336
)
 
(1,646
)
 
(809
)
 
(590
)
 
(1,399
)
Tax-exempt investment securities
(757
)
 

 
(757
)
 
(764
)
 
(9
)
 
(773
)
Federal funds sold and securities purchased under agreements to resell
2

 
(19
)
 
(17
)
 
(8
)
 
(4
)
 
(12
)
Interest-bearing deposits with banks
11

 
196

 
207

 
2

 
(23
)
 
(21
)
Total interest income
(3,900
)
 
(1,167
)
 
(5,067
)
 
(2,559
)
 
(1,644
)
 
(4,203
)
Interest expense
 
 
 
 
 
 
 
 
 
 
 
Demand deposits
73

 
96

 
169

 
(53
)
 
160

 
107

Savings deposits
7

 
6

 
13

 
4

 

 
4

Money market deposits
93

 
98

 
191

 
425

 
83

 
508

Time deposits
582

 
605

 
1,187

 
300

 
1,036

 
1,336

Short-term borrowings
1

 

 
1

 
2

 

 
2

Long-term debt
1,000

 
(118
)
 
882

 
115

 
16

 
131

Total interest expense
1,756

 
687

 
2,443

 
793

 
1,295

 
2,088

Net interest income
$
(2,144
)
 
$
(480
)
 
$
(2,624
)
 
$
(1,766
)
 
$
(349
)
 
$
(2,115
)

Loans
Loans declined to $208.7 million at December 31, 2011 from $245 million at December 31, 2010, while average loans in 2011 decreased to $227.4 million from $261.7 in 2010. The decline resulted primarily from paydowns and principal payments, which were not replaced by new loans as the Bank is presently originating very few loans, which are primarily to existing customers. We expect to resume originations as well as purchases in the secondary market in 2012, and will diversify the concentration in commercial real estate ("CRE") loans by seeking commercial or residential mortgage loans, as well as consumer credit. This will improve our concentration ratios which will remain high and even increase as our total portfolio is shrinking and capital levels are declining due to operating losses.
At December 31, 2011, the Bank had a concentration in CRE loans, including concentrations of loans to churches and loan participations with a third-party commercial real estate lender in New York City, both of which are experiencing credit quality problems and represent significant components of the Bank’s nonperforming loans. Loans to churches totaled $57.5 million at December 31, 2011, representing 27.6% of total loans outstanding, generally all of which were secured by real estate, compared to $62.8 million and 25.6% at December 31, 2010. Participations with the third-party lender totaled $11.6 million, of which $8 million were construction loans. Both types of loans are generally secured by commercial real estate, the appraised values of which have suffered large declines during the current economic downturn. Accordingly, both types of loans currently have generally higher loan-to-value ratios than when they were originated, which has been factored into the methodology for determining the allowance for loan losses.

20


Residential mortgage loans, including home equity loans, represent an insignificant part of the Bank’s lending portfolio. Consumer loans, including automobile loans, also comprise a relatively small part of the portfolio. Most of the Bank’s lending efforts are in Northern New Jersey, New York City and Nassau County.
The Bank generally secures its loans by obtaining first mortgage liens on real estate, both residential and commercial, and does virtually no asset-based financing. Without additional side collateral, the Bank generally requires maximum loan-to-value ratios that do not exceed 70% for loan transactions secured by commercial real estate at the time of origination. If a loan is performing, appraisals are performed when the loan renews, if there is a renewal date, and if nonperforming, appraisals are generally performed annually.
Maturities and interest sensitivities of loans
Information pertaining to contractual maturities without regard to normal amortization and the sensitivity to changes in interest rates of loans at December 31, 2011 is presented below.

Dollars in thousands
Due in One
Year or Less
 
Due from
One Year
Through
Five Years
 
Due After
Five Years
 
Total
Commercial
$
11,447

 
$
7,885

 
$
7,184

 
$
26,516

Real estate:
 
 
 
 
 
 
 
Construction
18,485

 

 

 
18,485

Mortgage
30,912

 
70,389

 
61,693

 
162,994

Installment
558

 
160

 
2

 
720

Total
$
61,402

 
$
78,434

 
$
68,879

 
$
208,715

Loans at fixed interest rates
$
12,951

 
$
19,309

 
$
45,394

 
$
77,654

Loans at variable interest rates
48,451

 
59,125

 
23,485

 
131,061

Total
$
61,402

 
$
78,434

 
$
68,879

 
$
208,715


The Bank currently has $61.4 million in loans scheduled to mature in 2012, which includes $42 million in loans that are on nonaccrual status at December 31, 2011. For performing loans, updated financial information is requested from the borrower, as well as updated appraisals, when the value of the underlying real estate, if any, is questionable, as well as at renewal dates.
The following table reflects the composition of the loan portfolio for the five years ended December 31:

Dollars in thousands
2011
 
2010
 
2009
 
2008
 
2007
Commercial
$
26,516

 
$
38,225

 
$
53,820

 
$
44,366

 
$
44,504

Real estate
181,531

 
206,072

 
221,601

 
226,546

 
187,447

Installment
720

 
718

 
926

 
1,153

 
1,061

Total loans
208,767

 
245,015

 
276,347

 
272,065

 
233,012

Less: Unearned income
52

 
60

 
105

 
159

 
188

Loans
$
208,715

 
$
244,955

 
$
276,242

 
$
271,906

 
$
232,824


Summary of loan loss experience
Changes in the allowance for loan losses are summarized below.


21


Dollars in thousands
2011
 
2010
 
2009
 
2008
 
2007
Balance, January 1
$
10,626

 
$
8,650

 
$
3,800

 
$
3,000

 
$
2,400

Charge-offs:
 
 
 
 
 
 
 
 
 
Commercial loans
411

 
2,676

 
1,703

 
651

 
118

Real estate loans
2,706

 
4,836

 
1,537

 
118

 
22

Installment loans
48

 
48

 
30

 
23

 
66

Total
3,165

 
7,560

 
3,270

 
792

 
206

Recoveries:
 
 
 
 
 
 
 
 
 
Commercial loans
219

 
46

 

 
5

 
2

Real estate loans
174

 

 
15

 

 
2

Installment loans
2

 
3

 

 
1

 
30

Total
395

 
49

 
15

 
6

 
34

Net (charge-offs) recoveries
(2,770
)
 
(7,511
)
 
(3,255
)
 
(786
)
 
(172
)
Provision for loan losses charged to operations
3,014

 
9,487

 
8,105

 
1,586

 
772

Balance, December 31
$
10,870

 
$
10,626

 
$
8,650

 
$
3,800

 
$
3,000

Net charge-offs as a percentage of average loans
1.22
%
 
2.87
%
 
1.17
%
 
0.31
%
 
0.80
%
Allowance for loan losses as a percentage of loans
5.21

 
4.34

 
3.13

 
1.40

 
1.29

Allowance for loan losses as a percentage of nonperforming loans
24.58

 
27.77

 
48.35

 
44.13

 
37.67


The allowance for loan losses is a critical accounting policy and is maintained at a level determined by management to be adequate to provide for inherent losses in the loan portfolio. The allowance is increased by provisions charged to operations and recoveries of loan charge-offs. The allowance is based on management’s evaluation of the loan portfolio and several other factors, including past loan loss experience, general business and economic conditions, concentration of credit and the possibility that there may be inherent losses in the portfolio that cannot currently be identified. Although management uses the most appropriate information available, the level of the allowance for loan losses remains an estimate that is subject to significant judgment and short-term changes.
Management maintains the allowance for credit losses at a level estimated to absorb probable loan losses of the loan portfolio at the balance sheet date. The allowance is based on ongoing evaluations of the probable estimated losses inherent in the loan portfolio. The methodology for evaluating the appropriateness of the allowance includes segmentation of the loan portfolio into its various components, tracking the historical levels of classified loans and delinquencies, applying economic outlook factors, assigning specific incremental reserves where necessary, providing specific reserves on impaired loans, and assessing the nature and trend of loan charge-offs. Additionally, the volume of non-performing loans, concentration risks by size and type, collateral adequacy and economic conditions are taken into consideration.
The allowance established for probable losses on specific loans is based on a regular analysis and evaluation of classified loans. Loans are classified based on an internal credit risk grading process that evaluates, among other things: (i) the obligor’s ability to repay; (ii) the underlying collateral, if any; and (iii) the economic environment and the industry in which the borrower operates. Specific valuation allowances are determined by analyzing the borrower’s ability to repay amounts owed, collateral deficiencies, the relative risk grade of the loan and economic conditions affecting the borrower’s industry, among other things.
Additionally, nonaccrual loans over a specific dollar amount are individually evaluated, along with all troubled debt restructured loans, for impairment based on the underlying anticipated method of payment consisting of either the expected future cash flows or the related collateral. If payment is expected solely based on the underlying collateral, an appraisal is completed to assess the fair value of the collateral. Collateral dependent impaired loan balances are written down to the current fair value of each loan’s underlying collateral resulting in an immediate charge-off to the allowance. If repayment is based upon future expected cash flows, the present value of the expected future cash flows discounted at the loan’s original effective interest rate is compared to the carrying value of the loan, and any shortfall is recorded as a specific valuation allowance in the allowance for credit losses.
The allowance allocations for non-impaired loans are calculated by applying loss factors by specific loan types to the applicable outstanding loans and unfunded commitments. Loss factors are based on the Bank’s loss experience and may be adjusted for significant changes in the quality of the current loan portfolio that, in management’s judgment, affect the collectability of the portfolio as of the evaluation date.
The allowance contains reserves identified as unallocated to cover inherent losses in the loan portfolio which have not been otherwise reviewed or measured on an individual basis. Such reserves include management’s evaluation of the regional economy, loan portfolio volumes, the composition and concentrations of credit, credit quality and delinquency trends. These reserves reflect management’s attempt to ensure that the overall allowance reflects a margin for judgmental factors and the uncertainty that is

22


inherent in estimates of probable credit losses.
On a quarterly basis, management performs an evaluation of the methodology in calculating the allowance, which may result in revisions to the loss factors for various types of loans.
During 2011, both commercial and real estate loan balances have declined considerably, continuing a trend that began in 2010 and 2009 with respect to real estate loans. The credit quality of this segment of the portfolio deteriorated earlier and at a faster pace than other portfolio segments, and also represent a concentration of capital. As a result, aggressive action was implemented in 2010, including write-downs and charge-offs, to the extent that the required provision fell from $5.2 million in 2010 to $1.7 million in 2011.
The allowance represented 5.21% of total loans at December 31, 2011 and 4.34% at December 31, 2010, while the allowance represented 24.58% of total nonperforming loans at December 31, 2011 compared to 27.77% at the end of 2010 due to an increase in nonperforming loans. The increase in the allowance as a percentage of total loans occurred due to the lack of originations in 2011, resulting in a decline in the overall portfolio. The allowance at December 31, 2011 rose nominally from December 31, 2010 due to a significant drop in charge-offs and the loan loss provision exceeding net chargeoffs for 2012.
Allocation of the allowance for loan losses
The allowance for loan losses has been allocated based on management’s estimates of the risk elements within the loan categories set forth below at December 31.

 
2011
 
2010
 
2009
 
2008
 
2007
 
 
 
Percentage
of Loan
Category
to Gross
 
 
 
Percentage
of Loan
Category
to Gross
 
 
 
Percentage
of Loan
Category
to Gross
 
 
 
Percentage
of Loan
Category
to Gross
 
 
 
Percentage
of Loan
Category
to Gross
Dollars in thousands
Amount

 
Loans
 
Amount

 
Loans
 
Amount

 
Loans
 
Amount

 
Loans
 
Amount

 
Loans
Commercial
$
1,305

 
12.70
%
 
$
2,769

 
15.70
%
 
$
1,352

 
15.60
%
 
$
1,102

 
15.22
%
 
$
1,098

 
19.11
%
Real estate
6,492

 
86.95

 
7,297

 
84.01

 
7,095

 
84.11

 
2,306

 
84.00

 
1,709

 
80.43

Installment
51

 
0.35

 
57

 
0.29

 
19

 
0.29

 
6

 
0.78

 
91

 
0.46

Unallocated
3,022

 
 
503

 
 
184

 
 
386

 
 
102

 
Total
$
10,870

 
100.00
%
 
$
10,626

 
100.00
%
 
$
8,650

 
100.00
%
 
$
3,800

 
100.00
%
 
$
3,000

 
100.00
%

Allowance allocations are subject to change based on the levels of classified loans in each segment of the portfolio. The minimum allowance levels depend on the internal loan classification and the risk assessment. The methodology for evaluating the appropriateness of the allowance includes segmentation of the loan portfolio into its various components, tracking the historical levels of classified loans and delinquencies, applying economic outlook factors, assigning specific incremental reserves where necessary, providing specific reserves on impaired loans, and assessing the nature and trend of loan charge-offs. Additionally, the volume of non-performing loans, concentration risks by size and type, collateral adequacy and economic conditions are taken into consideration. Because CNB serves primarily low-to moderate-income communities, in general, the inherent credit risk profile of the loans it makes has a greater degree of risk than if a more economically diverse demographic area were served.


23


 
Balance,
Provision for Loan
Losses
 
 
Balance,
In thousands
December 31, 2010
Recoveries
Chargeoffs
December 31, 2011
Commercial loans
$
2,770

$
(1,274
)
$
220

$
411

$
1,305

Real estate loans
 
 
 
 
 
  Church
1,559

492

99

68

2,082

  Construction - other than
      third-party originated
462

2,038


1,502

998

  Construction - third-party
      originated
1,575

(959
)

270

346

  Multifamily
633

(280
)

68

285

  Other
2,333

189

68

649

1,941

  Residential
736

247

6

149

840

Installment
55

42

2

48

51

Unallocated
503

2,519

 

3,022

Total
$
10,626

$
3,014

$
395

$
3,165

$
10,870


Although the allowance for loan and lease losses ("ALLL") was relatively unchanged at the end of 2011 compared to a year earlier, significant changes occurred within various components. The provisions for commercial loans and construction - third party originated each showed large ALLL reversals due to management's decision that the quality of the commercial loan portfolio has stabilized, and the overall commercial portfolio balance has declined, due to primarily to payoffs and paydowns. The construction - third party originated loan portfolio has also declined, due largely to charge-offs, reducing balances that management believes requires less of an ALLL. The provision for mortgage loans - construction rose because credit quality continues to be deficient and nonperforming loans in this category are increasing.
Charge-offs declined in 2011 compared to 2010. The unallocated portion of the ALLL grew from 4.7% of the total ALLL at December 31, 2010 to 27.8% a year later. Management believes that the unallocated allowance is appropriate given the current weak economic climate, the size of the loan portfolio and delinquency trends at the end of 2011.
Nonperforming assets
Information pertaining to nonperforming assets at December 31 is summarized below.

Dollars in thousands
2011

 
2010

 
2009

 
2008

 
2007

Loans past due 90 days or more and still accruing:
 
 
 
 
 
 
 
 
 
Commercial
$
143

 
$
1,415

 
$
555

 
$

 
$
43

Real estate
2,075

 
928

 
1,012

 
376

 
377

Installment

 

 

 
8

 
18

Loans past due 90 days or more and still accruing
2,218

 
2,343

 
1,567

 
384

 
438

Nonaccrual loans:
 
 
 
 
 
 
 
 
 
Commercial
2,288

 
1,436

 
1,237

 
1,864

 
1,996

Real estate
39,720

 
34,480

 
15,080

 
6,356

 
5,485

Installment

 

 
6

 
7

 
45

Total nonaccrual loans
42,008

 
35,916

 
16,323

 
8,227

 
7,526

Total nonperforming loans
44,226

 
38,259

 
17,890

 
8,611

 
7,964

Other real estate owned
1,524

 
1,997

 
2,352

 
1,547

 

Total
$
45,750

 
$
40,256

 
$
20,242

 
$
10,158

 
$
7,964


Nonperforming assets rose to $45.8 million at the end of 2011 due primarily to increasingly higher levels of nonaccruing commercial real estate loans. The commercial real estate portfolio continues to be stressed by the effects of the economic recession in the Bank’s trade area, which has been affected later than the rest of the country and is expected to recover later as well. The deterioration in credit quality in the overall portfolio since the end of 2009 has occurred primarily in two segments of the loan portfolio, comprised of loans acquired from a third-party non-bank lender located in New York City and loans made to churches. Both categories are considered commercial real estate loans.

24


Included in the portfolio are loans to churches totaling $57.5 million and loans acquired from the third-party lender totaling $10.4 million, compared to $62.8 million and $17.6 million at the end of 2010. Nonaccrual loans includes $8 million of loans to religious organizations, which management believes have been impacted by reductions in tithes and collections from congregation members due to the weak economy, and $8 million of loans acquired from the third-party non-bank lender. Church loans located in the State of New York may require significantly longer collection periods because approval is required by the State of New York before the underlying property may be encumbered. Nonaccrual loans to churches located in New York totaled $4.9 million at December 31, 2011.
Impaired loans totaled $43 million at December 31, 2011, up from $34.8 million at December 31, 2010. The related allocation of the allowance for loan losses amounted to $1.5 million due to a shortfall in collateral values. Impaired loans totaling $36.7 million had no specific reserves at December 31, 2011 due to the net realizable value of the underlying collateral exceeding the carrying value of the loan. Impaired loan charge-offs totaled $2.2 million in 2011.There was no interest income recognized on impaired loans during 2011.
Included in impaired loans are loans to churches totaling $9.6 million with a related allowance of $545,000. Additionally, impaired loans includes $8 million of construction loan participations acquired from the third-party lender with a related allowance of $346,000. The average balance of impaired loans in 2011 was $38.9 million compared to $24.2 million in 2010. Most of the impaired loans are secured by commercial real estate properties.
Troubled debt restructured loans (“TDRs”) totaled $5.7 million, with a related allowance of $111,000 at December 31, 2011 and included eight borrowers. TDRs to five borrowers amounting to $4 million are accruing. The remainder are on nonaccrual status due to delinquent payments. All TDRs are included in the balance of impaired loans.
Other assets
Other assets rose to $13.3 million at the end of 2011 compared to $10.8 million a year earlier, with the increase resulting primarily from investment securities purchased prior to December 31, 2011 that did not settle until January 2012.
Other real estate owned
Other real estate owned (“OREO”) was lower due to writedowns of foreclosed properties, although balances are expected to rise as nonaccrual loans move through the foreclosure process.
Deposits
The Bank’s deposit levels may change significantly on a daily basis because deposit accounts maintained by municipalities represent a significant part of the Bank’s deposits and may be more volatile than commercial or retail deposits.
These municipal and U.S. Government accounts represent a substantial part of the Bank’s business, tend to have high balance relationships and comprise most of the Bank’s accounts with balances of $250,000 or more at December 31, 2011 and 2010. These accounts are used for operating and short-term investment purposes by the municipalities and require collateralization with readily marketable U.S. Government securities or Federal Home Loan Bank of New York municipal letters of credit. Prior to 2010, we also held short-term municipal investment time deposits but no longer offer such accounts.
While the collateral maintenance requirements associated with the Bank’s municipal and U.S. Government account relationships might limit the ability to readily dispose of investment securities used as such collateral, management does not foresee any need for such disposal, and in the event of the withdrawal of any of these deposits, these securities are readily marketable or available for use as collateral for repurchase agreements.
Changes in all deposit categories discussed below were caused by fluctuations in municipal deposit account balances unless otherwise indicated.
Total deposits declined to $299.3 million at December 31, 2011 from $338.6 million a year earlier, while average deposits decreased to $329.8 million in 2011 from $372.8 million in 2010. Both reductions resulted from the deleveraging program, with the most significant declines occurring in municipal time deposits, which fell from $117.8 million at December 31, 2010 to $91.3 million a year later and brokered deposits, which declined from $49.7 million at the end of 2010 to $30 million a year later. Brokered deposit levels are expected to decline another $12.1 million during 2012 due to maturity runoff, as the Bank is precluded from issuing or renewing such deposits under the Consent Order.
Passbook and statement savings deposits totaled $22.7 million at December 31, 2011 compared to $23 million a year earlier, while such savings accounts averaged $22.8 million in 2011 compared to $24.2 million in 2010. The declines resulted primarily from closings of decedents’ accounts.
Money market deposit accounts declined to $44.2 million at December 31, 2011 from $61.9 million a year earlier, while average money market deposits decreased to $55.2 million in 2011 from $65.6 million in 2010.
Interest-bearing demand deposit account balances rose slightly to $47.7 million at the end of 2011 compared to $45.7 million at year-end 2010, while the related average balance of $45 million in 2011 declined from the average of $60.5 million in 2010.

25


Time deposits declined to $147.2 million at December 31, 2011 from $172.8 million at the end of 2010 while average time deposits were $164.4 million in 2011, compared to an average of $187.4 million in 2010. The declines occurred due to a $19.7 million reduction in brokered deposits.

Accrued expenses and other liabilities
    
    
    
    
    
    
    
    
    
    
This category rose due to a $15.1 million liability recorded for the purchase of an investment security that did not settle until January, 2012.
Short-term borrowings
There were no short-term borrowings at either December 31, 2011 or 2010, while average short-term borrowings were nominal during both 2011 and 2010.
Long-term debt
Long-term debt of $19.2 million at December 31, 2011 was unchanged from a year earlier, while the related average balance was $19.2 million in 2011 compared to $46.9 million in 2010. The decline resulted from a prepayment of $26.5 million of Federal Home Loan Bank advances in December 2010 in conjunction with a deleveraging program.

Results of operations – 2011 compared with 2010
The Corporation recorded a net loss of $3.7 million in 2011 compared to a loss of $7.5 million a year earlier, due to a drop in the provision for loan losses from $9.5 million to $3 million, offset in part by lower net interest income and other operating income. Our earnings continue to be negatively impacted by elevated credit costs and expenses incurred to remediate the Consent Order.
Included in both years’ earnings was award income received from the CDFI Fund. The awards were based primarily on the Bank’s lending efforts in qualifying lower-income communities. Award income attributable to its lending efforts and recorded as yield enhancements totaled $257,000 in 2011, $321,000 in 2010 and $386,000 in 2009 in addition to $600,000 of such income included in Other income that was not considered a yield enhancement. The Bank also recorded award income related to time deposits made in other CDFI’s of $224,000 in 2011, $24,000 in 2010 and $42,000 in 2009.
Finally, the Bank recorded award income of $71,000 in 2009 as a recovery of approved information technology-related costs. No such income was recorded in 2010 or 2011. In total, $1.1 million of award income was recorded in 2011, while $1.6 million was recorded in 2010 and $499,000 was recorded in 2009.
These awards are dependent on the availability of funds in the CDFI Fund as well as the Corporation meeting various qualifying standards. Accordingly, there is no assurance that the Corporation will continue to receive these awards in the future, although as a CDFI, our day-to-day business efforts are expected to provide opportunities to qualify for these awards. However, the Corporation has received various awards under these programs on a regular basis as follows over the past five years: 2011 - $500,000, 2010 - $1.6 million, 2009 - $700,000, 2008 - $1.2 million and 2007 - $542,000. The Corporation expects to continue to apply for these awards.
On a fully taxable equivalent (“FTE”) basis, net interest income of $13.2 million in 2010 declined to $10 million in 2011, while the related net interest margin declined nine basis points, from 3.04% to 2.95%. The reduced net interest margin occurred due to several factors as discussed below.
Interest income on a FTE basis declined from $20.6 million in 2010 to $15.1 million in 2011 due to several factors. The continued low interest rate environment had a significant impact because reinvestment of investment portfolio runoff was reinvested into the portfolio at lower rates. In order to enhance liquidity, much of the runoff in both the loan and investment portfolios was reinvested into Federal funds sold at minimal interest rates. Also, there were few new loan originations, further reducing our opportunities for generating spread income. Additionally, earning asset levels dropped during 2011 due to deleveraging. Finally, nonaccrual loan balances went up, further reducing interest income. The yield on interest earning assets fell 41 basis points, from 4.74% to 4.33%. Average balance reductions occurred in both investments and loans, and rates declined in all asset categories except for interest-bearing deposits with banks, where the rate rose because of income recorded as yield enhancement.
Interest income from Federal funds sold was lower in 2011 due to a lower average rate earned. The low yield resulted from the Federal Reserve Bank’s Federal Open Market Committee’s ongoing decision to leave the Federal funds target rate at a range of 0% to .25%.
Interest income on taxable investment securities decreased in 2011 due to a lower average rate, which declined from 4.28% to 3.92%, as well as a lower average balance. Tax-exempt investment income also fell due primarily to the sale of tax-exempt securities that were no longer beneficial to the Corporation because of net operating losses.
Interest income on loans declined due to a lower average rate earned, which decreased from 5.41% to 4.97% and sharply reduced loan volume, as few loans were originated during 2011. The lower yield was caused by the low interest rate environment along with the loss of interest from nonaccrual loans.
Interest expense declined sharply in 2011, as the average rate paid to fund interest-earning assets decreased from 1.70% to 1.38%.

26


This decline was due to the lower rates paid on deposits. The most significant reduction occurred in interest expense on time deposits, which declined $1.2 million in 2011. Additionally, all interest-bearing liabilities had volume reductions.
Service charges on deposit accounts declined 12.2% in 2011 from 2010 due primarily to a reduction in overdraft fees resulting largely from federal opt-out rules implemented in 2010. ATM fees were lower as a result of reducing the number of ATMs in our network. Undistributed income from unconsolidated subsidiaries was higher due to greater leasing activity by a minority leasing company in which we hold a minority interest.
Award income was lower in 2011 due to a reduction in federal funding available for the award program.
Net gains on securities transactions declined due to management's decision to limit the amount of such gains to a capital improvement transaction, compared to 2010, when we completed a major deleverage transaction.
Salaries and other employee benefits expense rose 4.4% in 2011 as head count declined from 89 full-time equivalent employees at the end of 2010 to 86 a year later due to branch closings and departmental restructuring. Almost all of the salary increase resulted from vacation and severance pay packages for officers who left the Bank during 2011. Health insurance expense was down due to less covered employees during the year.
Both occupancy and equipment expense were lower due to branch closings. Management consulting fees rose 27.8% in 2011 due to the retention of consultants to assist in complying with the terms of the Consent Order, along with the outsourcing of the internal audit and compliance functions.
Both OREO expense and foreclosure costs rose due to higher writedowns of foreclosed properties in 2011 as well as increased carrying costs of foreclosed properties. 2010 included charges for a $694,000 prepayment penalty on the prepayment of Federal Home Loan Bank advances and $696,000 of charges related to the closing of two branch offices, including the charge-off of $468,000 of core deposit intangible, that did not recur in 2011.
Other expenses were down 33.7% in 2011 due primarily to lower appraisal fees, and directors' fees, which cannot be paid under the terms of the Consent Order.
Income tax expense in 2011 was mostly related to state tax expense on income from an investment subsidiary as tax benefits resulting from losses were restricted by valuation allowances. These deferred benefits will not be recovered until the Corporation can demonstrate the ability to generate future taxable income.
The Corporation is in process of attempting to raise capital. Section 382 of the Internal Revenue Code limits the utilization of an entity's net operating loss carryforwards and general business credits in the event a change in control is triggered.

Results of operations – 2010 compared with 2009
The Corporation recorded a net loss of $7.5 million in 2010 compared to a loss of $7.8 million a year earlier, due primarily to a lack of OTTI losses in 2010, higher award income and increased gains on sales of investment securities, offset in part by a higher loan loss provision and increased credit costs and expenses incurred to remediate the Consent Order.
Included in both years’ earnings were awards received from the CDFI Fund. The awards were based on the Bank’s lending efforts in qualifying lower income communities. Award income attributable to its lending efforts and recorded as yield enhancements totaled $321,000 in 2010, $386,000 in 2009 and $421,000 in 2008 in addition to $1 million of such income included in Other income that was not considered a yield enhancement. The Bank also recorded award income related to time deposits made in other CDFI’s of $24,000 in 2010, $42,000 in 2009 and $- in 2008.
Finally, the Bank recorded award income of $71,000 in 2009 and $18,000 in 2008 as a recovery of approved informationtechnology-related costs. No such income was recorded in 2010.
In total, $1.6 million of award income was recorded in 2010, while $499,000 was recorded in 2009 and $439,000 was recorded in 2008.
These awards are dependent on the availability of funds in the CDFI Fund as well as the Corporation meeting various qualifying standards. Accordingly, there is no assurance that the Corporation will continue to receive these awards in the future. However, the Corporation has received various awards under these programs on a regular basis as follows over the past five years: 2010 - $1.6 million, 2009 - $700,000, 2008 - $1.2 million, 2007 - $542,000 and 2006 - $340,000. The Corporation expects to continue to apply for these awards.
On a fully taxable equivalent (“FTE”) basis, net interest income of $13.2 million in 2010 declined from $15.3 million in 2009, while the related net interest margin declined eleven basis points, from 3.15% to 3.04%.
The reduced net interest margin occurred due largely to lost earnings on nonaccrual loans and to the average rate earned on interest-earning assets declining more rapidly than the interest paid on interest-bearing liabilities, which in turn was driven by the effects of reinvesting loan and investment principal and interest payments in shorter-term earning assets in a low interest rate environment

27


along with variable-rate loans and investments repricing at lower rates in the low interest rate environment.
Interest income on a FTE basis declined from $24.8 million in 2009 to $20.6 million in 2010 due both to a reduction in the average rate earned and a decline in earning asset levels. The yield on interest earning assets fell 36 basis points, from 5.10% to 4.74%. Average balance reductions occurred in almost all earning asset categories and rates declined in all asset categories.
Interest income from Federal funds sold was lower in 2010 primarily due to a decline in volume. The low yield resulted from the Federal Reserve Bank’s Federal Open Market Committee’s ongoing decision to leave the Federal funds target rate at a range of 0% to .25%.
Interest income on taxable investment securities decreased in 2010 due to a lower average rate, which declined from 4.76% to 4.28%, as well as a lower average balance. Tax-exempt investment income declined substantially due primarily to a sale of tax-exempt securities that were no longer beneficial to the Bank because of net operating losses.
Interest income on loans declined due to a lower average rate earned, which decreased from 5.79% to 5.41% and reduced loan volume. The lower yield was caused by the low interest rate environment along with the foregone income from nonaccrual loans.
Interest expense declined in 2010, as the average rate paid to fund interest-earning assets decreased from 1.95% to 1.70%. This decline was due to the lower rates paid on all interest-bearing liabilities. The most significant reduction occurred in interest expense on time deposits, which declined 22.1% in 2010. Almost all interest-bearing liabilities had volume reductions.
Service charges on deposit accounts declined 10.6% in 2010 from 2009 due primarily to a reduction in overdraft fees resulting largely from federal opt-out rules implemented in 2010.
Agency fees declined in 2010 as they have done in recent years due to elimination by large companies of the programs that generate this source of income.
Other income was up in 2010 due to a $1 million CDFI Fund award recorded that was not considered a yield enhancement because the related loans were sold. This increase was offset in part by lower income from off-site ATMs due to the elimination of several of such ATMs.
Other operating expenses, which include expenses other than interest, income taxes and the provision for loan losses, totaled $16.1 million in 2010, a 20% increase compared to $13.4 million in 2009, driven primarily by higher management consulting fees, a $694,000 prepayment penalty on the prepayment of Federal Home Loan Bank advances and $696,000 of charges related to the closing of two branch offices, including the charge-off of $468,000 of core deposit intangible.
Salaries and other employee benefits expense was essentially unchanged in 2010 although head count declined from 103 full-time equivalent employees at the end of 2009 to 89 a year later due to branch closings. These reductions were partially offset by higher health insurance costs.
Occupancy expense rose 23.8% in 2010 due to increased rent expense on leased branches that were closed prior to lease expiration and higher property taxes, while equipment expense declined due to the elimination of several service contracts.
Management consulting fees rose 100.1% in 2010 due to the retention of consultants to assist in complying with the terms of the Consent Order, along with the outsourcing of the internal audit, loan review and compliance functions.
OREO expense declined due to lower foreclosed property writedowns in 2010. Amortization expense was higher due to the aforementioned branch closing charge and the Federal Home Loan Bank prepayment penalty resulted from the early advance payoffs.
Other expenses were up 21.4% in 2010 due primarily to higher appraisal fees and personnel agency costs.
Income tax expense in 2010 was limited to state tax expense as federal income tax benefits were restricted by valuation allowances, which rose to $8.8 million at December 31, 2010 compared to $4.7 million at the end of 2009. These deferred benefits will not be recovered until the Corporation can demonstrate the ability to generate future taxable income.

Liquidity
The liquidity position of the Corporation is dependent on the successful management of its assets and liabilities so as to meet the needs of both deposit and credit customers. Liquidity needs arise primarily to accommodate possible deposit outflows and to meet borrowers’ requests for loans. Such needs can be satisfied by investment and loan maturities and payments, along with the ability to raise short-term funds from external sources.
Continued asset quality deterioration and operating losses could create significant stress on sources of liquidity, including limiting access to funding sources and requiring higher discounts on collateral used for borrowings. Accordingly, the Corporation has implemented a contingency funding plan, currently in use, which provides detailed procedures to be instituted in the event of a liquidity crisis.

28


The Bank depends primarily on deposits as a source of funds, and prior to the Consent Order, also provided for a portion of its funding needs through short-term borrowings, such as the Federal Home Loan Bank (“FHLB”), Federal Funds purchased, securities sold under repurchase agreements and borrowings under the U.S. Treasury tax and loan note option program. The Bank also utilizes the Federal Home Loan Bank and the Federal Reserve Bank discount window for longer-term funding purposes. All the Bank's borrowings must be collateralized.
A significant part of the Bank’s deposit base is from municipal deposits, which comprised $91.3 million, or 30.5% of total deposits at December 31, 2011, compared to $105.8 million, or 31.2% of total deposits at December 31, 2010. These relationships arise due to the Bank’s urban market, leading to municipal deposit relationships. $36.7 million of investment securities were pledged as collateral for these deposits along with $38.3 million in Federal Home Loan Bank letters of credit, all of which require collateralization. As a result of the large size of these individual deposit relationships, these municipalities represent a potentially volatile source of liquidity, although they have historically been a stable source of deposits.
Illiquidity in certain segments of the investment portfolio may limit the Corporation’s ability to dispose of various securities, although management believes that the Corporation has sufficient resources to meet all of its liquidity demands. Should the market for these and similar types of securities, such as single issuer trust preferred securities, continue to deteriorate, or should credit weakness develop, additional illiquidity could occur within the investment portfolio.
Municipal deposit levels may fluctuate significantly depending on the cash requirements of the municipalities. The Bank maintains significant Federal funds balances and has ready sources of available short-term borrowings in the event that the municipalities have unanticipated cash requirements. Such sources include Federal funds lines, FHLB advances and access to the repurchase agreement market, utilizing the collateral for the withdrawn deposits. In certain instances, however, these lines may be reduced or not available in the event of a significant decline in the Bank’s credit quality or capital levels.
As a result of the loss incurred, there were no significant sources of funds during 2011 from operating activities.
Net cash provided by investing activities during 2011 was derived primarily from proceeds from sales of investment securities available for sale, amounting to $31.9 million, and proceeds from loan payoffs and payments totaling $30.6 million, while the primary use of cash was for purchases of investment securities available for sale, which amounted to $40.7 million.
There were no significant sources of cash provided by financing activities, while the most significant uses of funds was an outflow of $39.3 million of deposits resulting from the runoff of $20 million in brokered deposits and the deleveraging program.
As a result of the aforementioned Consent Order, the Corporation has implemented a contingency funding plan which provides detailed procedures to be instituted in the event of a liquidity crisis. The plan provides for, among other things, the sale of Bank-owned properties at distressed prices in the event of a crisis situation where the Bank would be unable to meet its funding obligations on a timely basis. This situation has not yet occurred where we would have to sell Bank-owned properties.
Contractual obligations
The Corporation has various financial obligations, including contractual obligations that may require future cash payments. These obligations are included in Notes 6,10,11 and 20 of the Notes to Consolidated Financial Statements.
The Corporation also will have future obligations under supplemental executive and directors’ retirement plans described in Note 14 of the Notes to Consolidated Financial Statements.
Commitments, contingent liabilities, and off-balance sheet arrangements
The following table shows the amounts and expected maturities of significant commitments as of December 31, 2011. Further information on these commitments is included in Note 21 of the Notes to Consolidated Financial Statements.

In thousands
One Year
or Less
 
One to
Three
Years
 
Three to
Five Years
 
Total
Commitments to extend credit:
 
 
 
 
 
 
 
Commercial loans and lines of credit
$
7,963

 
$

 
$

 
$
7,963

Commercial mortgages
1,398

 

 

 
1,398

Credit cards
 
 

 
1,183

 
1,183

Home equity and other revolving lines of credit
278

 

 

 
278

Standby letters of credit
23

 

 

 
23


Commitments to extend credit do not necessarily represent future cash requirements, as these commitments may expire without being drawn on based upon CNB’s historical experience.
Effects of inflation

29


Inflation, as measured by the consumer price index (“CPI”), including all items for all urban consumers, rose 3.0% in 2011 compared to 1.5% in 2010 and 2.7% in 2009. The impact of inflation on financial institutions is not considered significant since financial assets and liabilities comprise most of their balance sheets.
The asset and liability structure of the Corporation and subsidiary bank differ from that of an industrial company since its assets and liabilities fluctuate over time based upon monetary policies and changes in interest rates. The growth in earning assets, regardless of the effects of inflation, will increase net income if the Corporation is able to maintain a consistent interest spread between earning assets and supporting liabilities. In an inflationary period, the purchasing power of these net monetary assets necessarily decreases. However, changes in interest rates may have a more significant impact on the Corporation’s performance than inflation. While interest rates are affected by inflation, they do not necessarily move in the same direction or in the same magnitude as the prices of other goods and services.
The impact of inflation on the future operations of the Corporation should not be viewed without consideration of other financial and economic indicators, as well as historical financial statements and the preceding discussion regarding the Corporation’s liquidity and asset and liability management.
Interest rate sensitivity
The management of interest rate risk is also important to the profitability of the Corporation. Interest rate risk arises when an earning asset matures or when its interest rate changes in a time period different from that of a supporting interest bearing liability, or when an interest bearing liability matures or when its interest rate changes in a time period different from that of an earning asset that it supports. While the Corporation does not match specific assets and liabilities, total earning assets and interest bearing liabilities are grouped to determine the overall interest rate risk within a number of specific time frames.
It is the responsibility of the Asset/Liability Management Committee (“ALCO”) to monitor and oversee the activities of interest rate sensitivity management and the protection of net interest income from fluctuations in interest rates as well as to monitor liquidity.
Interest sensitivity analysis attempts to measure the responsiveness of net interest income to changes in interest rate levels. The difference between interest sensitive assets and interest sensitive liabilities is referred to as interest sensitive gap. At any given point in time, the Corporation may be in an asset-sensitive position, whereby its interest-sensitive assets exceed its interest-sensitive liabilities, or in a liability-sensitive position, whereby its interest-sensitive liabilities exceed its interest-sensitive assets, depending on management’s judgment as to projected interest rate trends.
One measure of interest rate risk is the interest-sensitivity analysis, which details the repricing differences for assets and liabilities for given periods. The primary limitation of this analysis is that it is a static (i.e., as of a specific point in time) measurement that does not capture risk that varies nonproportionally with changes in interest rates. Because of this limitation, the Corporation uses a simulation model as its primary method of measuring interest rate risk. This model, because of its dynamic nature, forecasts the effects of different patterns of rate movements on the Corporation’s mix of interest sensitive assets and liabilities.
The following table presents the Corporation’s sensitivity to changes in interest rates, categorized by repricing period. Various assumptions are used to estimate expected maturities. The actual maturities of these instruments could vary substantially if future prepayments differ from estimated experience. Additionally, assets and liabilities reprice at different rates so that gaps may not represent an accurate assessment of interest rate risk.
Interest Sensitivity Gap Analysis


30


 
 
 
 
 
December 31, 2011
 
 
In thousands
One Year
Or Less
 
One Year
to
Three Years
 
Three Years
to
Five Years
 
More than
Five Years
 
Total
Interest earning assets
 
 
 
 
 
 
 
 
 
Federal funds sold and securities purchased under agreements to resell
$
32,600

 
$

 
$

 
$

 
$
32,600

Interest-bearing deposits with banks
340

 
1,600

 

 
 
 
1,940

Investment securities

 
1,304

 
356

 
93,398

 
95,058

Loans
98,575

 
65,357

 
18,061

 
26,722

 
208,715

 
131,515

 
68,261

 
18,417

 
120,120

 
338,313

Interest bearing liabilities
 
 
 
 
 
 
 
 
 
Deposits:
 
 
 
 
 
 
 
 
 
Savings
114,675

 

 

 
 
 
114,675

Time
84,945

 
46,944

 
14,871

 
457

 
147,217

Long-term debt

 

 

 
19,200

 
19,200

 
199,620

 
46,944

 
14,871

 
19,657

 
281,092

Interest sensitivity gap:
 
 
 
 
 
 
 
 
 
Period gap
$
(68,105
)
 
$
21,317


$
3,546


$
100,463


$
57,221

Cumulative gap
(68,105
)
 
(46,788
)
 
(43,242
)

57,221


57,221


The cumulative gap between the Corporation’s interest rate sensitive assets and its interest rate sensitive liabilities at the one-year interval was $(68.1) million at December 31, 2011 compared to $(80.2) million December 31, 2010. This means that the Corporation had a “negative gap” position at the one-year interval, which theoretically will cause its interest-bearing liabilities to reprice faster than its interest-earning assets. However, interest sensitive assets and liabilities reprice at different speeds than yield curve changes. Based on the above model, which reflects a static interest rate environment and does not take into consideration that repricing may occur at different speeds, in a rising interest rate environment, interest income may be expected to rise slower than the interest paid on interest-bearing liabilities, thus reducing the net interest spread. Subsequent to the one-year time horizon, however, the gap is positive and remains positive in all periods listed thereafter. If interest rates decreased, the net interest received on earning assets will decline slower than the interest paid on the Corporation’s liabilities, increasing the net interest spread.

Certain shortcomings are inherent in the method of gap analysis presented above. Although certain assets and liabilities may have similar maturities or periods of repricing, they may react in different degrees to changes in market interest rates. The rates on certain types of assets and liabilities may fluctuate in advance of changes in market rates, while rates on other types of assets and liabilities may lag behind changes in market rates. In the event of a change in interest rates, prepayment and early withdrawal levels could deviate significantly from those assumed in calculating the table. The ability of borrowers to service debt may decrease in the event of an interest rate increase. Management considers these factors when reviewing its sensitivity gap position and establishing its ongoing asset/liability strategy.
Because individual interest earning assets and interest bearing liabilities respond differently to changes in the prime rate, more refined results are obtained when a simulation model is used. The Corporation uses a simulation model to analyze earnings sensitivity to movements in interest rates. The simulation model projects earnings based on parallel shifts in interest rates over a twelve-month period. The model is based on the actual maturity and re-pricing characteristics of rate sensitive assets and liabilities, and incorporates various assumptions which management believes to be reasonable.
At December 31, 2011, the most recently prepared model indicates that net interest income would increase 1.79% from base case scenario if interest rates rise 200 basis points and decline 14.59% if rates decrease 200 basis points. Additionally, the economic value of equity would rise 13.86% if rates rise 200 basis points and decrease 25.12% if rates decline 200 basis points.
These results indicate that the Corporation is liability-sensitive, meaning that the interest rate risk is higher if interest rates rise, which management does not expect to occur during the near term based on the recent actions and public announcements by the Federal Reserve Board of Governors.
Capital
The following table presents the consolidated and bank-only capital components and related ratios as calculated under regulatory accounting practice.


31


 
Consolidated
 
Bank Only
 
December 31,
 
December 31,
Dollars in thousands
2011
 
2010
 
2011
 
2010
Total stockholders’ equity
$
19,771

 
$
22,896

 
$
28,834

 
$
31,798

Net unrealized loss (gain) on investment securities available for sale
(423
)
 
126

 
(423
)
 
126

Net unrealized loss on equity securities available for sale
(19
)
 
(13
)
 
(19
)
 
(13
)
Disallowed intangibles
(97
)
 
(136
)
 
(97
)
 
(136
)
Qualifying trust preferred securities
4,000

 
4,000

 

 

Tier 1 capital
23,232

 
26,873

 
28,295

 
31,775

Qualifying long-term debt
5,200

 
5,200

 

 

Allowance for loan losses
3,125

 
3,555

 
3,126

 
3,552

Other
80

 
80

 
80

 
80

Tier 2 capital
8,405

 
8,835

 
3,206

 
3,632

Total capital
$
31,637

 
$
35,708

 
$
31,501

 
$
35,407

Risk-weighted assets
$
248,677

 
$
283,701

 
$
248,775

 
$
283,487

Average total assets
356,109

 
426,797

 
356,223

 
426,569

Risk-based capital ratios:
 
 
 
 
 
 
 
Tier 1 capital to risk-adjusted assets Actual
9.34
%
 
9.47
%
 
11.37
%
 
11.21
%
Minimum considered to be well-capitalized
6.00

 
6.00

 
6.00

 
6.00

Minimum considered to be well-capitalized under OCC requirements
N/A

 
N/A

 
10.00

 
10.00

Total capital to risk-adjusted assets Actual
12.72

 
12.59

 
12.66

 
12.49

Minimum considered to be well-capitalized
10.00

 
10.00

 
10.00

 
10.00

Minimum considered to be well-capitalized under OCC requirements
N/A

 
N/A

 
13.00

 
12.00

Leverage ratio
 
 
 
 
 
 
 
Actual
6.52

 
6.30

 
7.94

 
7.45

Minimum considered to be well-capitalized
5.00

 
5.00

 
5.00

 
5.00

Minimum considered to be well-capitalized under OCC requirements
N/A

 
N/A

 
9.00

 
8.00


Almost all capital ratios were higher at December 31, 2011 due to the deleveraging program that was undertaken in 2011 which reduced assets.
The Bank was subject to the Formal Agreement with the OCC which required, among other things, the enhancement and implementation of certain programs to reduce the Bank’s credit risk, along with the development of a capital and profit plan, the development of a contingency funding plan and the correction of deficiencies in the Bank’s loan administration. The Bank failed to comply with certain provisions of the Formal Agreement; and failed to comply with the higher leverage ratio of 9% required to be maintained.
Due to the Bank’s condition, the OCC has required that the Bank enter into the Consent Order of December 22, 2010 with the OCC, which contains a list of requirements. The Order supersedes and replaces the Formal Agreement. The Consent Order is summarized in Item 1. The Consent Order among other things requires that by March 31, 2011, and thereafter, the Bank must maintain total capital at least equal to 13% of risk-weighted assets and Tier 1 leverage capital at least equal to 9% of adjusted total assets. This requirement means that the Bank is not considered “well-capitalized” as otherwise defined in applicable regulations.

Item 7a.   Quantitative and Qualitative Disclosure about Market Risk
Information regarding this Item appears under Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” - Interest Rate Sensitivity.


32



CITY NATIONAL BANCSHARES CORPORATION AND SUBSIDIARY
Consolidated Balance Sheets

 
December 31,
Dollars in thousands, except per share data
2011
 
2010
Assets
 
 
 
Cash and due from banks (Note 3)
$
5,960

 
$
7,228

Federal funds sold (Note 4)
32,600

 
13,550

Interest-bearing deposits with banks
1,940

 
3,289

Investment securities available for sale (Note 5)
95,058

 
105,420

Loans (Note 6)
208,715

 
244,955

Less: Allowance for loan losses (Note 7)
10,870

 
10,626

Net loans
197,845

 
234,329

Premises and equipment (Note 8)
2,686

 
2,974

Accrued interest receivable
1,561

 
1,933

Bank-owned life insurance
5,920

 
5,730

Other real estate owned
1,524

 
1,997

Other assets (Note 13)
13,348

 
10,817

Total assets
$
358,442

 
$
387,267

 
 
 
 
Liabilities and Stockholders’ Equity
 
 
 
Deposits: (Notes 5 and 9)
 
 
 
Demand
$
37,379

 
$
35,132

Savings
114,675

 
130,663

Time
147,217

 
172,756

Total deposits
299,271

 
338,551

Accrued expenses and other liabilities
20,200

 
6,620

Short-term portion of long-term debt (Note 11)
5,000

 
5,000

Long-term debt (Note 11)
14,200

 
14,200

Total liabilities
338,671

 
364,371

Commitments and contingencies (Note 21)

 

Stockholders’ equity (Notes 15, 16 and 24):
 
 
 
Preferred stock, no par value: Authorized 100,000 shares (Note 15);
 
 
 
Series A, issued and outstanding 8 shares in 2011 and 2010
200

 
200

Series C, issued and outstanding 108 shares in 2011 and 2010
27

 
27

Series D, issued and outstanding 3,280 shares in 2011 and 2010
820

 
820

Preferred stock, no par value, perpetual noncumulative: Authorized 200 shares;
 
 
 
Series E, issued and outstanding 49 shares in 2011 and 2010
2,450

 
2,450

Preferred stock, no par value, perpetual noncumulative: Authorized 7,000 shares;
 
 
 
Series F, issued and outstanding 7,000 shares in 2011 and 2010
6,790

 
6,790

Preferred stock, no par value, perpetual cumulative: Authorized 9,439 shares;
 
 
 
Series G, issued and outstanding 9,439 shares in 2011 and 2010
10,504

 
9,990

Common stock, par value $10: Authorized 400,000 shares;
 
 
 
134,530 shares issued in 2011 and 2010
 
 
 
131,326 shares outstanding in 2011 and 131,290 in 2010
1,345

 
1,345

Surplus
601

 
1,115

(Accumulated deficit) retained earnings
(3,163
)
 
514

Accumulated other comprehensive income (loss)
423

 
(127
)
Treasury stock, at cost - 3,204 common shares in 2011 and 3,240 in 2010
(226
)
 
(228
)
Total stockholders’ equity
19,771

 
22,896

Total liabilities and stockholders’ equity
$
358,442

 
$
387,267


See accompanying notes to consolidated financial statements.


33


CITY NATIONAL BANCSHARES CORPORATION AND SUBSIDIARY
Consolidated Statements of Operations

 
Year Ended December 31,
Dollars in thousands, except per share data
2011
 
2010
 
2009
Interest income
 
 
 
 
 
Interest and fees on loans
$
11,294

 
$
14,148

 
$
16,146

Interest on Federal funds sold
25

 
42

 
54

Interest on deposits with banks
236

 
29

 
50

Interest and dividends on investment securities:
 
 
 
 
 
Taxable
3,623

 
5,269

 
6,668

Tax-exempt
246

 
746

 
1,256

Total interest income
15,424

 
20,234

 
24,174

Interest expense
 
 
 
 
 
Interest on deposits (Note 9)
4,155

 
5,715

 
7,670

Interest on short-term borrowings

 
1

 
3

Interest on long-term debt
809

 
1,691

 
1,822

Total interest expense
4,964

 
7,407

 
9,495

Net interest income
10,460

 
12,827

 
14,679

Provision for loan losses (Note 7)
3,014

 
9,487

 
8,105

Net interest income after provision for loan losses
7,446

 
3,340

 
6,574

Other operating income
 
 
 
 
 
Service charges on deposit accounts
1,158

 
1,319

 
1,476

ATM fees
291

 
360

 
482

Award income
600

 
1,100

 
71

Earnings from cash surrender value of bank-owned life insurance
257

 
257

 
252

Undistributed income from unconsolidated subsidiaries
308

 
130

 
201

Other income (Note 12)
417

 
371

 
630

Net gains on securities transactions (Note 5)
989

 
2,080

 
12

Other than temporary impairment losses on securities

 

 
(19
)
Portion of loss recognized in other comprehensive income, before tax

 

 
(2,314
)
Net impairment losses on securities recognized in earnings

 

 
(2,333
)
Total other operating income
4,020

 
5,617

 
791

Other operating expenses
 
 
 
 
 
Salaries and other employee benefits (Note 14)
6,079

 
5,822

 
5,800

Occupancy expense (Note 8)
1,219

 
1,641

 
1,326

Equipment expense (Note 8)
500

 
557

 
648

Professional fees
798

 
837

 
432

Management consulting fees
1,749

 
1,369

 
683

Marketing expense
418

 
325

 
361

FDIC insurance expense
1,266

 
1,280

 
1,240

Data processing expense
393

 
352

 
361

Other real estate owned expense
780

 
146

 
558

Amortization of intangible assets

 
566

 
194

Federal Home Loan Bank advance prepayment penalty

 
694

 

Foreclosure expense
298

 
97

 
139

Other expenses (Note 12)
1,570

 
2,368

 
1,639

Total other operating expenses
15,070

 
16,054

 
13,381

Loss before income taxes
(3,604
)
 
(7,097
)
 
(6,016
)
Income tax expense (Note 13)
73

 
360

 
1,806

Net loss
$
(3,677
)
 
$
(7,457
)
 
$
(7,822
)
Net loss per common share (Note 17)
 
 
 
 
 
Basic
$
(32.60
)
 
$
(60.54
)
 
$
(68.36
)
Diluted
(32.60
)
 
(60.54
)
 
(68.36
)
Basic average common shares outstanding
131,320

 
131,290

 
131,300

Diluted average common shares outstanding
131,320

 
131,290

 
131,300

Cash dividends declared per common share
$

 
$

 
$
2.00


See accompanying notes to consolidated financial statements.


34


CITY NATIONAL BANCSHARES CORPORATION AND SUBSIDIARY
Consolidated Statements of Changes
in Stockholders’ Equity

Dollars in thousands
Common
Stock
 
Surplus
 
Preferred
Stock
 
Retained Earnings (Accumulated Deficit)
 
Accumulated
Other
Comprehensive
(Loss) Income
 
Treasury
Stock
 
Total
Balance, December 31, 2008
$
1,345

 
$
1,115

 
$
10,287

 
$
16,694

 
$
(1,124
)
 
$
(225
)
 
$
28,092

Net loss

 

 

 
(7,822
)
 

 

 
(7,822
)
Other comprehensive loss
 
 
 
 
 
 
 
 
 
 
 
 
 
Unrealized holding gains on securities arising during the period (net of tax of $(2,574))

 

 

 

 
4,997

 

 
4,997

Reclassification adjustment for losses included in net income (net of tax of $485)

 

 

 

 
(2,333
)
 

 
(2,333
)
Total other comprehensive loss
 
 
 
 
 
 
 
 
 
 
 
 
(5,158
)
Transition adjustment for adoption of FASB ASC 320-10-65-1

 

 

 
1,007

 
(1,007
)
 

 

Proceeds from issuance of preferred stock

 

 
9,439

 

 

 

 
9,439

Purchase of treasury stock

 

 

 

 

 
(3
)
 
(3
)
Dividends paid on common stock

 

 

 
(1,094
)
 

 

 
(1,094
)
Dividends paid on preferred stock

 

 

 
(263
)
 

 

 
(263
)
Dividends accrued on preferred stock

 

 
60

 
(60
)
 

 

 

Balance, December 31, 2009
1,345

 
1,115

 
19,786

 
8,462

 
533

 
(228
)
 
31,013

Net loss

 

 

 
(7,457
)
 

 

 
(7,457
)
Other comprehensive loss
 
 
 
 
 
 
 
 
 
 
 
 
 
Unrealized holding losses on securities arising during the period (net of tax of $82)

 

 

 

 
(177
)
 

 
(177
)
Transfer of held to maturity securities to available for sale at market value (net of tax of $459)

 

 

 

 
890

 

 
890

Reclassification adjustment for gains included in net income (net of tax of $707)

 

 

 

 
(1,373
)
 

 
(1,373
)
Total other comprehensive loss
 

 
 

 
 

 
 

 
 

 
 

 
(8,117
)
Dividends accrued on preferred stock

 

 
491

 
(491
)
 

 

 

Balance, December 31, 2010
$
1,345

 
$
1,115

 
$
20,277

 
$
514

 
$
(127
)
 
$
(228
)
 
$
22,896

Net loss

 

 

 
(3,677
)
 

 

 
(3,677
)
Other comprehensive loss
 
 
 
 
 
 
 
 
 
 
 
 
 
Unrealized holding gains on securities arising during the period (net of tax of $(620))

 

 

 

 
1,203

 

 
1,203

Reclassification adjustment for gains included in net income (net of tax of $336)

 

 

 

 
(653
)
 

 
(653
)
Total other comprehensive loss
 
 
 
 
 
 
 
 
 
 
 
 
(3,127
)
Issuance of treasury stock

 

 

 

 

 
2

 
2

Dividends accrued on preferred stock

 
(514
)
 
514

 

 

 

 

Balance, December 31, 2011
$
1,345

 
$
601

 
$
20,791

 
$
(3,163
)
 
$
423

 
$
(226
)
 
$
19,771


See accompanying notes to consolidated financial statements.


35


CITY NATIONAL BANCSHARES CORPORATION AND SUBSIDIARY
Consolidated Statements of Cash Flows
 
Year Ended December 31,
In thousands
2011
 
2010
 
2009
Operating activities
 
 
 
 
 
Net loss
$
(3,677
)
 
$
(7,457
)
 
$
(7,822
)
Adjustments to reconcile net loss to net cash from operating activities:
 
 
 
 
 
Depreciation and amortization
366

 
404

 
432

Provision for loan losses
3,014

 
9,487

 
8,105

Premium amortization of investment securities
152

 
211

 
17

Amortization of intangible assets

 
566

 
194

Net gains on sales and early redemptions of investment securities
(989
)
 
(2,080
)
 
(12
)
Net impairment losses on investment securities

 

 
2,333

Net (gains) losses on sales of loans held for sale

 
(6
)
 
10

Net losses and writedowns of other real estate owned
613

 
43

 
427

Loans originated for sale

 

 
(312
)
Proceeds from sales and principal payments from loans held for sale

 
196

 
273

Decrease in accrued interest receivable
372

 
613

 
250

Deferred taxes

 
845

 
2,372

Net increase in bank-owned life insurance
(190
)
 
(193
)
 
(192
)
Increase in other assets
(2,577
)
 
(1,935
)
 
(6,103
)
Increase in accrued expenses and other liabilities
13,580

 
670

 
70

Net cash provided by operating activities
10,664

 
1,364

 
42

Investing activities
 
 
 
 
 
Decrease (increase) in loans, net
33,330

 
23,532

 
(8,993
)
Decrease (increase) in interest bearing deposits with banks
1,349

 
(2,680
)
 
117

Proceeds from maturities of investment securities available for sale, including principal repayments and early redemptions
20,588

 
42,300

 
27,100

Proceeds from maturities of investment securities held to maturity, including principal repayments and early redemptions

 
1,247

 
15,574

Proceeds from sales of investment securities available for sale
31,865

 
70,718

 
189

Purchases of investment securities available for sale
(40,658
)
 
(56,513
)
 
(22,096
)
Purchases of investment securities held to maturity

 

 
(2,462
)
Proceeds from sales of other real estate owned

 
556

 
275

Purchases of premises and equipment
(78
)
 
(429
)
 
(139
)
Net cash provided by investing activities
46,396

 
78,731

 
9,565

Financing activities
 
 
 
 
 
Decrease in deposits
(39,280
)
 
(41,725
)
 
(26,841
)
Decrease in short-term borrowings

 
(100
)
 
(1,750
)
Decrease in short-term portion of long-term debt

 

 
(2,600
)
(Decrease) increase in long-term debt

 
(29,800
)
 

Proceeds from issuance of preferred stock

 

 
9,439

Issuance (purchases) of treasury stock
2

 

 
(3
)
Dividends paid on preferred stock

 

 
(1,094
)
Dividends paid on common stock

 

 
(263
)
Net cash used in financing activities
(39,278
)
 
(71,625
)
 
(23,112
)
Net increase (decrease) in cash and cash equivalents
17,782

 
8,470

 
(13,505
)
Cash and cash equivalents at beginning of year
20,778

 
12,308

 
25,813

Cash and cash equivalents at end of year
$
38,560

 
$
20,778

 
$
12,308

Cash paid (received) during the year
 
 
 
 
 
Interest
$
4,951

 
$
7,432

 
$
9,864

Income taxes (refunds)
(1,417
)
 
59

 
1,279

Non-cash transactions
 
 
 
 
 
Transfer of investments from held to maturity to available for sale

 
39,144

 
183

Transfer of loans to other real estate owned
140

 
244

 
1,508

Transfer of loans held for sale to loans

 

 
106


See accompanying notes to consolidated financial statements.

36



Notes to Consolidated Financial Statements

Note 1   Summary of significant accounting policies
The accounting and reporting policies of City National Bancshares Corporation (the “Corporation” or “CNBC”) and its subsidiaries, City National Bank of New Jersey (the “Bank” or “CNB”) and City National Bank of New Jersey Capital Trust II conform with U.S. generally accepted accounting principles (“GAAP”) and to general practice within the banking industry. In preparing the financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent liabilities as of the date of the balance sheet and revenues and expenses for the related periods. Actual results could differ significantly from those estimates. A material estimate that is particularly susceptible to significant change in the near term is the allowance for loan losses. In connection with the determination of this allowance, management generally obtains independent appraisals for significant properties. Judgments related to securities valuation and impairment are also critical because they involve a higher degree of complexity and subjectivity and require estimates and assumptions about highly uncertain matters. Accordingly, it is reasonably possible that the Corporation may be required to record additional provisions for loan losses and other than temporary impairment charges in future periods. Additionally, significant judgment is required to determine the future realization of deferred tax assets and whether a valuation allowance may be required. The following is a summary of the more significant policies and practices.
Business
City National Bancshares Corporation primarily through its subsidiary City National Bank of New Jersey, offers a broad range of lending, leasing, depository and related financial services to individual consumers, businesses and governmental units through seven full-service offices located in New Jersey, New York City and Long Island, New York. CNB competes with other banking and financial institutions in its primary market communities, including financial institutions with resources substantially greater than its own. Commercial banks, savings banks, savings and loan associations, credit unions, and money market funds actively compete for deposits and loans. Such institutions, as well as consumer finance and insurance companies, may be considered competitors with respect to one or more services they render.
CNB offers equipment leasing services through its minority ownership interest in an unconsolidated leasing company.
Principles of consolidation
The financial statements include the accounts of CNBC and its wholly-owned subsidiaries. All significant intercompany accounts and transactions have been eliminated in consolidation.
Cash and cash equivalents
For purposes of the presentation of the Statement of Cash Flows, Cash and cash equivalents includes cash and due from banks and federal funds sold.
Investment securities held to maturity and investment securities available for sale
Investment securities are designated as held to maturity or available for sale at the time of acquisition. Securities that the Corporation has the intent and ability at the time of purchase to hold until maturity are designated as held to maturity. Investment securities held to maturity are stated at cost and adjusted for amortization of premiums and accretion of discount to the earlier of maturity or call date using the level yield method.
Securities to be held for indefinite periods of time but not intended to be held until maturity or on a long-term basis are classified as investment securities available for sale. Securities held for indefinite periods of time include securities that the Corporation intends to use as part of its interest rate sensitivity management strategy and that may be sold in response to changes in interest rates, resultant risk and other factors. Investment securities available for sale are reported at fair market value, with unrealized gains and losses, net of deferred tax, reported as a component of accumulated other comprehensive income, which is included in stockholders’ equity. Gains and losses realized from the sales of securities available for sale are determined using the specific identification method. Premiums are amortized and discounts are accreted using the “level yield” method.
Investment securities classified as held to maturity or available for sale are evaluated quarterly for other-than-temporary impairment. Other-than-temporary impairment means that the security’s impairment is due to factors that could include its inability to pay interest or dividends, its potential for default, and/or other factors. As a result of the adoption of new authoritative guidance under ASC Topic 320, “Investments—Debt and Equity Securities” on April 1, 2009, when a held to maturity or available for sale debt security is assessed for other-than-temporary impairment, the Corporation has to first consider (a) whether it intends to sell the security, and (b) whether it is more likely than not that the Corporation will be required to sell the security prior to recovery of its amortized cost basis. If one of these circumstances applies to a security, an other-than-temporary impairment loss is recognized in the statement of income equal to the full amount of the decline in fair value below amortized cost. If neither of these circumstances applies to a security, but the Corporation does not expect to recover the entire amortized cost basis, an other-than-temporary

37


impairment loss has occurred that must be separated into two categories: (a) the amount related to credit loss, and (b) the amount related to other factors. In assessing the level of other-than-temporary impairment attributable to credit loss, the Corporation compares the present value of cash flows expected to be collected with the amortized cost basis of the security. The portion of the total other-than-temporary impairment related to credit loss is recognized in earnings, while the amount related to other factors is recognized in other comprehensive income. The total other-than-temporary impairment loss is presented in the statement of income, less the portion recognized in other comprehensive income. When a debt security becomes other-than-temporarily impaired, its amortized cost basis is reduced to reflect the portion of the total impairment related to credit loss. Prior to the adoption of the new authoritative guidance, total other-than-temporary impairment losses (i.e., both credit and non-credit losses) on debt securities were recognized through earnings with an offset to reduce the amortized cost basis of the applicable debt securities by their entire impairment amount.
To determine whether a security’s impairment is other-than-temporary, the Corporation considers factors that include the causes of the decline in fair value, such as credit problems, interest rate fluctuations, or market volatility, the severity and duration of the decline, its ability and intent to hold equity security investments until they recover in value (as well as the likelihood of such a recovery in the near term), the intent to sell security investments, or if it is more likely than not that the Corporation will be required to sell such securities before recovery of their individual amortized cost basis less any current-period credit loss. For debt securities, the primary consideration in determining whether impairment is other-than-temporary is whether or not it is probable that current or future contractual cash flows have been or may be impaired.
The Bank holds mortgage-backed securities in its investment portfolios, none of which are private-label. Such securities are subject to changes in the prepayment rates of the underlying mortgages, which may affect both the yield and maturity of the securities.
The Bank transferred its entire HTM portfolio to AFS in March 2010. This transfer was made in conjunction with a deleveraging program to reduce total asset levels and improve capital ratios. As a result, purchases of securities may not be classified as HTM until the second quarter of 2012.
Loans held for sale
Loans held for sale include residential mortgage loans originated with the intent to sell. Loans held for sale are carried at the lower of aggregate cost or fair value.
Loans
Loans are stated at the principal amounts outstanding, net of unearned discount and deferred loan fees, as well as interest received on certain nonaccrual loans. Interest income is accrued as earned, based upon the principal amounts outstanding. Loan origination fees and certain direct loan origination costs, as well as unearned discount, are deferred and recognized over the life of the loan revised for loan prepayments, as an adjustment to the loan’s yield.
Recognition of interest on the accrual method is generally discontinued when a loan contractually becomes 90 days or more past due or a reasonable doubt exists as to the collectability of the loan, unless such loans are well-secured and in the process of collection. At the time a loan is placed on a nonaccrual status, previously accrued and uncollected interest is generally reversed against interest income in the current period. Interest on such loans, if appropriate, is recognized as income when payments are received. A loan is returned to an accrual status when it is current as to principal and interest and its future collectability is expected. Generally, this occurs after the loan has been performing for six months.
The Corporation has defined the population of impaired loans to be all nonaccrual loans of $100,000 or more. Impaired loans of $100,000 or more are individually assessed to determine that the loan’s carrying value does not exceed the fair value of the underlying collateral or the present value of the loan’s expected future cash flows. Smaller balance homogeneous loans that are collectively evaluated for impairment are specifically excluded from the impaired loan portfolio.
Trouble debt restructured (“TDR”) loans are those loans whose terms have been modified because of deterioration of the financial condition of the borrower to provide for a reduction of interest or principal payments, or both. An allowance is established for all TDR loans based on the present value of the respective loan’s future cash flows unless the loan is deemed collateral dependent. The majority of concessions made for TDRs involve lowering the monthly payments on the loans either through a reduction in interest rate below a market rate, an extension of the term of the loan, or a combination of the two methods. They seldom result in the forgiveness of principal or accrued interest. In addition, we attempt to obtain additional collateral or guarantees when modifying such loans. If the borrower demonstrates the ability to perform under the restructured terms, the loan will continue to accrue interest. Nonaccruing restructured loans may be returned to accrual status when there has been a sustained period of repayment performance (generally six consecutive months of payments) and both principal and interest are considered collectible. TDRs are carried at a balance net of any charge-offs required when the modifications to the loan are made and the loan is determined to be a TDR.
Allowance for loan losses
The allowance for loan losses ("ALLL") is maintained at a level determined adequate to provide for losses inherent in the loan

38


portfolio. The allowance is increased by provisions charged to operations and recoveries of loans previously charged off and reduced by loan charge-offs. Generally, losses on loans are charged against the allowance for loan losses when it is believed that the collection of all or a portion of the principal balance is unlikely and the collateral is not adequate.

Certain inherent, but unconfirmed losses are probable within the loan portfolio. The Bank's operations and lending activities are centered in urban communities which are more vulnerable to economic downturns. Unanticipated events, including political, economic and regulatory changes could cause changes in the credit characteristics of the portfolio and result in an unanticipated increase in the allowance.

The Bank's current methodology for determining the projected level of losses is based on historical loss rates, current credit grades, specific reserve allocations on loans modified as TDRs and impaired commercial credits above specified thresholds, and other qualitative adjustments. Due to the heavy reliance on realized historical losses and the credit grade rating process, the calculated reserves required under the model may tend to slightly lag the deterioration in the portfolio in a stable or deteriorating credit environment and may tend not to be as responsive when improved conditions have presented themselves.

Given these model limitations and market characteristics, the qualitative adjustment factors may be incremental or detrimental to the quantitative model results. An unallocated component to the ALLL is maintained to recognize the imprecision in estimating and measuring loss. Correspondingly, the portion considered unallocated may fluctuate from period to period based on management's evaluation of the factors affecting the assumptions used in calculating the allowance, including historical loss experience and current economic conditions.
The allowance is maintained at a level estimated to absorb probable credit losses inherent in the loan portfolio as well as other credit risk related charge-offs. The allowance is based on ongoing evaluations of the probable estimated losses inherent in the loan portfolio. The Bank’s methodology for evaluating the appropriateness of the allowance includes segmentation of the loan portfolio into its various components, tracking the historical levels of classified loans and delinquencies, applying economic outlook factors, assigning specific incremental reserves where necessary, providing specific reserves on impaired loans, and assessing the nature and trend of loan charge-offs. Additionally, the volume of non-performing loans, concentration risks by size, type, and geography, new markets, collateral adequacy and economic conditions are taken into consideration.
The allowance established for probable losses on specific loans are based on a regular analysis and evaluation of classified loans. Loans are classified based on an internal credit risk grading process that evaluates, among other things: (i) the obligor’s ability to repay; (ii) the underlying collateral, if any; and (iii) the economic environment and industry in which the borrower operates. Loans with a grade that is below a predetermined grade are adversely classified. Any change in the credit risk grade of performing and/or non-performing loans affects the amount of the related allowance.
Once a loan is classified, the loan is analyzed to determine whether the loan is impaired and, if impaired, the need to specifically allocate a portion of the allowance for loan losses to the loan. Specific valuation allowances are determined by analyzing the borrower’s ability to repay amounts owed, collateral deficiencies, the relative risk grade of the loan and economic conditions affecting the borrower’s industry, among other things.
Additionally, management individually evaluates nonaccrual loans and all troubled debt restructured loans for impairment based on the underlying anticipated method of payment consisting of either the expected future cash flows from the borrower or the proceeds from the disposition of the related collateral. If payment is expected solely based on the underlying collateral, an appraisal is completed to assess the fair value of the collateral. Collateral dependent impaired loan balances are written down to the current fair value of each loan’s underlying collateral resulting in an immediate charge-off to the allowance, excluding any consideration for personal guarantees that may be pursued in the Bank’s collection process. If repayment is based upon future expected cash flows, the present value of the expected future cash flows discounted at the loan’s original effective interest rate is compared to the carrying value of the loan, and any shortfall is recorded as a specific valuation allowance in the allowance for loan losses.
The allowance also contains unallocated reserves to cover inherent losses within a given loan category which have not been otherwise reviewed or measured on an individual basis. This unallocated portion of the allowance reflects management's best estimate of the elements of imprecision and estimation risk inherent in the calculation of the overall allowance. Due to the subjectivity involved in determining the overall allowance, including the unallocated portion, the portion considered unallocated may fluctuate from period to period based on management's evaluation of the factors affecting the assumptions used in calculating the overall allowance, including historical loss experience, current economic conditions, and industry or borrower concentrations. Changes may also occur due to the necessity of maintaining consistent loss coverage ratios for the various loan risk components.
Management believes that the allowance for loan losses is adequate. While management uses available information to determine the adequacy of the allowance, future additions may be necessary based on changes in economic conditions or subsequent events unforeseen at the time of evaluation. Additionally, to the extent that actual results differ from forecasts or management's judgment, the ALLL may be greater or less than future charge-offs.

39


In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Bank’s allowance for loan losses. Such agencies may require the Bank to increase the allowance based on their judgment of information available to them at the time of their examination.
Bank premises and equipment
Premises and equipment are stated at cost less accumulated depreciation based upon estimated useful lives of three to 40 years, computed using the straight-line method. Leasehold improvements, carried at cost, net of accumulated depreciation, are generally amortized over the terms of the leases or the estimated useful lives of the assets, whichever are shorter, using the straight-line method. Expenditures for maintenance and repairs are charged to operations as incurred, while major replacements and improvements are capitalized. The net asset values of assets retired or disposed of are removed from the asset accounts and any related gains or losses are included in operations.
Other assets
Other assets include the Bank’s 35.4% interest in a leasing company. The investment in the unconsolidated investee is carried using the equity method of accounting whereby the carrying value of the investment reflects the Corporation’s initial cost of the investment and the Corporation’s share of the leasing company’s annual net income or loss.
Other real estate owned
OREO acquired through foreclosure or deed in lieu of foreclosure is carried at the lower of cost or fair value less estimated cost to sell, net of a valuation allowance. When a property is acquired, the excess of the loan balance over the estimated fair value is charged to the allowance for loan losses. Operating results, including any future writedowns of OREO, rental income and operating expenses, are included in “Other expenses.”
An allowance for OREO is established through charges to “Other expenses” to maintain properties at the lower of cost or fair value less estimated cost to sell.
Core deposit premiums
The premium paid for the acquisition of deposits in connection with the purchases of branch offices is amortized on a straight-line basis over a nine-year period, its estimated useful life, and is reviewed at least annually for impairment. If an impairment is found to exist, the carrying value is reduced by a charge to earnings. Amortization totaled $0 in 2011, $566,000 in 2010 and $194,000 in 2009. 2010 included accelerated amortization of $468,000 of core deposit intangibles of two closed branches. As of December 31, 2011, all core deposit premiums have been fully amortized.
Long-term debt
The Corporation has sold $4 million of trust preferred securities through a wholly-owned statutory business trust. The trust has no independent assets or operations and exists for the sole purpose of issuing trust preferred securities and investing the proceeds thereof in an equivalent amount of junior subordinated debentures issued by the Corporation. The junior subordinate debentures, which are the sole assets of the trusts, are unsecured obligations of the Corporation and are subordinate and junior in right of payment to all present and future senior and subordinated indebtedness and certain other financial obligations of the Corporation.
On December 10, 2003, the FASB issued FASB Interpretation No. 46R (“FIN 46R”), which replaced FIN 46. FIN 46R clarifies the applications of Accounting Research Bulletin No. 51 “Consolidated Financial Statements” to certain entities in which equity investors do not have the characteristics of a controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated financial support. FIN 46R required the Corporation to de-consolidate its investments in the trusts recorded as long-term debt.
Income taxes
Federal income taxes are based on currently reported income and expense after the elimination of income which is exempt from Federal income tax.
Deferred tax assets and liabilities are recognized for future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Such temporary differences include depreciation and the provision for possible loan losses. Where applicable, deferred tax assets are reduced by a valuation allowance for any portions determined not likely to be realized. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date.
A reserve is maintained related to certain tax positions and strategies that management believes contain an element of uncertainty. Management periodically evaluates each of its tax positions and strategies to determine whether the reserve continues to be appropriate.
Net loss per common share

40


Basic loss per common share is calculated by dividing net loss less dividends on preferred stock by the weighted average number of common shares outstanding. On a diluted basis, both net loss and common shares outstanding are adjusted to assume the conversion of the convertible subordinate debentures, if determined to be dilutive.
Comprehensive income (loss)
Other comprehensive income (loss) includes unrealized gains (losses) on securities available for sale (including the non-credit portion of any other-than-temporary impairment charges relating to these securities effective April 1, 2009). Comprehensive income (loss) and its components are included in the consolidated statements of changes in shareholders’ equity.
Recent accounting pronouncements
Accounting Standards Update (“ASU”) No. 2010-06, “Fair Value Measurements and Disclosures (Topic 820) – Improving Disclosures About Fair Value Measurements,” requires new disclosures and clarifies certain existing disclosure requirements about fair value measurement. Specifically, the update requires an entity to disclose separately the amounts of significant transfers in and out of Level 1 and Level 2 fair value measurements and describe the reasons for such transfers. A reporting entity is required to present separately information about purchases, sales, issuances, and settlements in the reconciliation of fair value measurements using Level 3 inputs. In addition, the update clarifies the following requirements of the existing disclosures: (i) for the purposes of reporting fair value measurements for each class of assets and liabilities, a reporting entity needs to use judgment in determining the appropriate classes of assets; and (ii) a reporting entity is required to include disclosures about the valuation techniques and inputs used to measure fair value for both recurring and nonrecurring fair value measurements. The disclosures related to the gross presentation of purchases, sales, issuances and settlements of assets and liabilities included in Level 3 of the fair value hierarchy became effective on January 1, 2011. The other disclosure requirements and clarifications made by ASU No. 2010-06 became effective on January 1, 2010.
ASU No. 2011-02, “Receivables (Topic 310) – A Creditor’s Determination of Whether a Restructuring Is a Troubled Debt Restructuring,” provides clarifying guidance intended to assist creditors in determining whether a modification of the terms of a receivable meets the criteria to be considered a troubled debt restructuring, both for purposes of recording an impairment loss and for disclosure of troubled debt restructurings. In evaluating whether a restructuring constitutes a troubled debt restructuring, a creditor must separately conclude, under the guidance clarified by ASU No. 2011-02, that both of the following exist: (i) the restructuring constitutes a concession to the debtor; and (ii) the debtor is experiencing financial difficulties. ASU No. 2011-02 applies retrospectively to restructurings occurring on or after January 1, 2011 and was effective on July 1, 2011. The adoption of ASU No. 2011-02 is not expected to have a significant impact on the consolidated financial statements.
ASU No. 2011-04, “Fair Value Measurements (Topic 820) – Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRS,” was issued as a result of the effort to develop common fair value measurement and disclosure requirements in U.S. GAAP and International Financial Reporting Standards (“IFRS”). While ASU No. 2011-04 is largely consistent with existing fair value measurement principles in U.S. GAAP, it expands the existing disclosure requirements for fair value measurements and clarifies the existing guidance or wording changes to align with IFRS No. 13. Many of the requirements for the amendments in ASU No. 2001-04 do not result in a change in the application of the requirements in Topic 820. ASU No. 2011-04 was effective for all interim and annual periods beginning after December 15, 2011. The adoption of ASU No. 2011-04 is not expected to have a significant impact on its consolidated financial statements.
ASU No. 2011-05, “Comprehensive Income (Topic 220) – Presentation of Comprehensive Income,” requires an entity to present components of comprehensive income either in a single continuous statement of comprehensive income or in two separate but consecutive statements. In the two-statement approach, the first statement should present total net income and its components followed consecutively by a second statement that should present total other comprehensive income, the components of other comprehensive income, and the total of comprehensive income. ASU No. 2011-05 must be applied retrospectively and is effective for all interim and annual periods beginning on or after December 15, 2011. The adoption of ASU No. 2011-05 is not expected to have a significant impact on the consolidated financial statements.
ASU No. 2011-08, “Intangibles – Goodwill and Other (Topic 350) Testing Goodwill for Impairment,” provides the option of performing a qualitative assessment of whether it is more likely than not that a reporting unit’s fair value is less than its carrying amount, before applying the current two-step goodwill impairment test. If the conclusion is that it is more likely than not that the fair value of a reporting unit is less than its carrying amount, the entity would be required to conduct the current two-step goodwill impairment test. Otherwise, the entity would not need to apply the two-step test. ASU No. 2011-28 is effective for annual and interim goodwill impairment tests performed for fiscal years beginning after December 15, 2011 with early adoption permitted. The adoption of ASU No. 2011-08 is not expected to have a significant impact on its consolidated financial statements.
In April 2010, the FASB issued ASU 2010-18, which states that modifications of loans that are accounted for within a pool under ASC 310-30 do not result in the removal of those loans from the pool even if the modification of those loans would otherwise be considered a troubled debt restructuring. An entity will continue to be required to consider whether the pool of assets in which the loan is included is impaired if expected cash flows for the pool change. The amendments do not affect the accounting for loans under the scope of ASC 310-30 that are not accounted for within pools. Loans accounted for individually under ASC 310-30

41


continue to be subject to the troubled debt restructuring accounting provisions within ASC 310-40, “Receivables-Troubled Debt Restructurings by Creditors.” The amendments were effective for modifications of loans accounted for within pools under Subtopic 310-30 occurring in the first interim or annual period ending on or after July 15, 2010. The adoption of this pronouncement did not have a material impact on the Corporation's financial condition, results of operations or financial statement disclosures.
In July 2010, the FASB issued ASU 2010-20 to provide financial statement users with greater transparency about an entity's allowance for credit losses and the credit quality of its financing receivables. The objective of the ASU is to provide disclosures that assist financial statement users in their evaluation of (1) the nature of an entity's credit risk associated with its financing receivables, (2) how the entity analyzes and assesses that risk in arriving at the allowance for credit losses and (3) the changes in the allowance for credit losses and the reasons for those changes. Disclosures provided to meet the objective above should be provided on a disaggregated basis. The disclosures as of the end of a reporting period were effective for interim and annual reporting periods ending on or after December 15, 2010. The disclosures about activity that occurs during a reporting period were effective for interim and annual reporting periods beginning on or after December 15, 2010. The adoption of this pronouncement did not have a material impact on the Corporation's financial condition or results of operations.

Note 2    Going Concern/Regulatory Compliance
The consolidated financial statements of the Corporation as of and for the year ended December 31, 2011 have been prepared on a going concern basis, which contemplates the realization of assets and the discharge of liabilities in the normal course of business for the foreseeable future.
The Bank was subject to a Formal Agreement with the OCC entered into on June 29, 2009 (the “Formal Agreement”). The Formal Agreement required, among other things, the enhancement and implementation of certain programs to reduce the Bank’s credit risk, along with the development of a capital and profit plan, the development of a contingency funding plan and the correction of deficiencies in the Bank’s loan administration. The Bank failed to comply with certain provisions of the Formal Agreement; and failed to comply with the higher leverage ratio of 8%, required to be maintained.
Due to the Bank’s condition, the OCC has required that the Board of Directors of the Bank (the “Bank Board”) sign a formal enforcement action with the OCC, which mandates specific actions by the Bank to address certain findings from the OCC’s examination and to address the Bank’s current financial condition. The Bank entered into a Consent Order (“Order” or “Consent Order”) with the OCC on December 22, 2010, which contains a list of requirements. The Order supersedes and replaces the Formal Agreement. The Order also contains restrictions on future extensions of credit and requires the development of various programs and procedures to improve the Bank’s asset quality as well as routine reporting on the Bank’s progress toward compliance with the Order to the Bank Board and the OCC. As a result of the Order, the Bank may not be deemed “well-capitalized.” The description of the Consent Order is only a summary.
Specifically, the Order imposes the following requirements on the Bank:
within five (5) days of the Order, the Bank Board must appoint a Compliance Committee to be comprised of at least three directors, none of whom may be an employee, former employee or controlling shareholder of the Bank or any of its affiliates, to monitor and coordinate the Bank’s adherence to the Order.
within ninety (90) days of the Order, the Bank Board must develop and submit to the OCC for review a written strategic plan covering at least a three-year period, establishing objectives for the overall risk profile, earnings performance, growth, balance sheet mix, off-balance sheet activities, liability structure, capital adequacy, reduction in the volume of nonperforming assets, product line development, and market segments that the Bank intends to promote or develop, together with strategies to achieve those objectives.
by March 31, 2011, and thereafter, the Bank must maintain total capital at least equal to 13% of risk-weighted assets and Tier 1 capital at least equal to 9% of adjusted total assets; this requirement means that the Bank may not be considered “well-capitalized” as otherwise defined in applicable regulations.
within ninety (90) days of the Order, the Bank Board must submit to the OCC a written capital plan for the Bank covering at least a three-year period, including specific plans for the achievement and maintenance of adequate capital, projections for growth and capital requirements, based upon a detailed analysis of the Bank’s assets, liabilities, earnings, fixed assets and off-balance sheet activities; identification of the primary sources from which the Bank will maintain an appropriate capital structure to meet the Bank’s future needs, as set forth in the strategic plan; specific plans detailing how the Bank will comply with restrictions or requirements set forth in the Order and with the restrictions against brokered deposits in 12 C.F.R. § 337.6; contingency plans that identify alternative methods to strengthen capital, should the primary source(s) not be available; and a prohibition on the payment of director fees unless the Bank is in compliance with the minimum capital ratios previously identified in the prior paragraph or express written authorization is provided by the OCC.

42


the Bank is restricted on the payment of dividends.
to ensure the Bank has competent management in place at all times, including: within 90 days of the Order the Bank Board shall provide to the OCC qualified and capable candidates for the positions of President, Senior Credit Officer, Consumer Compliance Officer and Bank Secrecy Officer; within 90 days of the date of the Order, the Bank Board (with the exception of Bank executive officers) shall prepare a written assessment of the Bank’s executive officers to perform present and anticipated duties; prior to appointment of any individual to an executive position provide notice to the OCC, who shall have the power to veto such appointment; and the Bank Board shall at least annually perform a written performance appraisal for each Bank executive officer.
within sixty (60) days of the Order, the Bank Board shall develop and the Bank shall implement, and thereafter ensure compliance with, a written credit policy to ensure the Bank’s compliance with written programs to improve the Bank’s loan portfolio management.
within ninety (90) days of the Order the Bank Board shall develop, implement and thereafter ensure Bank adherence to a written program to improve the Bank’s loan portfolio management, including: requiring that extensions of credit are granted, by renewal or otherwise, to any borrower only after obtaining, performing, and documenting a global analysis of current and satisfactory credit information; requiring that existing extensions of credit structured as single pay notes are revised upon maturity to conform to the Bank’s revised loan policy; ensuring satisfactory and perfected collateral documentation; tracking and analyzing credit, collateral, and policy exceptions; providing for accurate risk ratings consistent with the classification standards contained in the Comptroller’s Handbook on “Rating Credit Risk”; providing for identification, measurement, monitoring, and control of concentrations of credit; ensuring compliance with Call Report instructions, the Bank’s lending policies, and laws, rules, and regulations pertaining to the Bank’s lending function; ensuring the accuracy of internal management information systems; and providing adequate training of Bank personnel performing credit analyses in cash flow analysis, particularly analysis using information from tax returns, and implement processes to ensure that additional training is provided as needed.
within sixty (60) days of the Order, the Bank Board must establish a written performance appraisal and salary administration process for loan officers that adequately consider performance relative to job descriptions, policy compliance, documentation standards, accuracy in credit grading, and other loan administration matters.
the Bank must implement and maintain an effective, independent, and on-going loan review program to review, at least quarterly, the Bank’s loan and lease portfolios, to assure the timely identification and categorization of problem credits.
the Bank is also required to implement and adhere to a written program for the maintenance of an adequate Allowance for Loan and Lease Losses, providing for review of the allowance by the Bank Board at least quarterly.
within sixty (60) days of the Order, the Bank Board shall adopt and the Bank (subject to Bank Board review and ongoing monitoring) shall implement and thereafter ensure adherence to a written program designed to protect the Bank’s interest in those assets criticized in the most recent Report of Examination (“ROE”) by the OCC, in any subsequent ROE, by any internal or external loan review, or in any list provided to management by the National Bank Examiners during any examination as “doubtful,” “substandard,” or “special mention.”
within one hundred twenty (120) days of the Order, the Bank Board must revise and maintain a comprehensive liquidity risk management program, which assesses, on an ongoing basis, the Bank’s current and projected funding needs, and ensures that sufficient funds or access to funds exist to meet those needs, which program includes effective methods to achieve and maintain sufficient liquidity and to measure and monitor liquidity risk.
within ninety (90) days of the Order, the Bank Board shall identify and propose for appointment a minimum of two (2) new independent directors that have a background in banking, credit, accounting, or financial reporting, and such appointment will be subject to veto power of the OCC.
within ninety (90) days of the Order, the Bank Board shall adopt, implement, and thereafter ensure adherence to a written consumer compliance program designed to ensure that the Bank is operating in compliance with all applicable consumer protection laws, rules, and regulations.
within ninety (90) days of the Order, the Bank Board shall develop, implement, and thereafter ensure Bank adherence to a written program of policies and procedures to provide for compliance with the Bank Secrecy Act, as amended (31 U.S.C. §§ 5311 et seq.), the regulations promulgated thereunder and regulations of the Office of Foreign Assets Control (“OFAC”), 31 C.F.R. Chapter V, as amended (collectively referred to as the “Bank Secrecy Act” or “BSA”) and for the appropriate identification and monitoring of transactions that pose greater than normal risk for compliance with the BSA.

43


within ninety (90) days, of the Order, the Bank Board shall: develop, implement, and thereafter ensure Bank adherence to an independent, internal audit program sufficient to detect irregularities and weak practices in the Bank’s operations; determine the Bank’s level of compliance with all applicable laws, rules, and regulations; assess and report the effectiveness of policies, procedures, controls, and management oversight relating to accounting and financial reporting; evaluate the Bank’s adherence to established policies and procedures, with particular emphasis directed to the Bank’s adherence to its loan, consumer compliance, and BSA policies and procedures; evaluate and document the root causes for exceptions; and establish an annual audit plan using a risk-based approach sufficient to achieve these objectives.
within ninety (90) days of the Order, the Bank Board must develop and implement a comprehensive compliance audit function to include an independent review of all products and services offered by the Bank, including without limitation, a risk-based audit program to test for compliance with consumer protection laws, rules, and regulations that includes an adequate level of transaction testing; procedures to ensure that exceptions noted in the audit reports are corrected and responded to by the appropriate Bank personnel; and periodic reporting of the results of the consumer compliance audit to the Bank Board or a committee thereof.
the Bank Board shall require and the Bank shall immediately take all necessary steps to correct each violation of law, rule, or regulation cited in any ROE, or brought to the Bank Board’s or Bank’s attention in writing by management, regulators, auditors, loan review, or other compliance efforts.
The Order permits the OCC to extend the time periods under the Order upon written request. Any material failure to comply with the Order could result in further enforcement actions by the OCC. In addition, if the OCC does not accept the capital plan or the Bank fails to achieve and maintain the minimum capital levels, the Order specifically states that the OCC may require the Corporation to sell, merge or liquidate the Bank.
As a result of the Consent Order, the Bank may not accept, renew or roll over any brokered deposit. This affects the Bank’s ability to obtain funding. In addition, the Bank may not solicit deposits by offering an effective yield that exceeds by more than 75 basis points the prevailing effective yields on insured deposits of comparable maturity in such institution’s normal market area or in the market area in which such deposits are being solicited.
As of December 31, 2011, when considering deadline extensions granted, the Corporation has been informed by the OCC that it has fully complied with two of the thirteen articles of the Consent Order. The two articles in full compliance are Article II - Compliance Committee and Article XIII - Internal Audit Program. The remaining articles are in various stages of compliance and management is working diligently to achieve full compliance. Please see Note 24 for actual capital ratios as of December 31, 2011.
On December 14, 2010, the Corporation entered into a written agreement (the “FRBNY Agreement”) with the Federal Reserve Bank of New York (“FRBNY”). The following is only a summary of the FRBNY Agreement. Pursuant to the FRBNY Agreement, the Corporation’s board of directors is to take appropriate steps to utilize fully the Corporation’s financial and managerial resources to serve as a source of strength to the Bank, including causing the Bank to comply with the Formal Agreement (now superseded) and any other supervisory action taken by the OCC, such as the Order.
In the FRBNY Agreement, the Corporation agreed that it would not declare or pay any dividends without prior written approval of the FRBNY and the Director of the Division of Banking Supervision and Regulation of the Board of Governors of the Federal Reserve System (the “Banking Director”). It further agreed that it would not take dividends or any other form of payment representing a reduction in capital from the Bank without the FRBNY’s prior written approval. The FRBNY Agreement also provides that neither the Corporation nor its nonbank subsidiary will make any distributions of interest, principal or other amounts on subordinated debentures or trust preferred securities without the prior written approval of the FRBNY and the Banking Director.
The FRBNY Agreement further provides that the Corporation shall not incur, increase or guarantee any debt without FRBNY approval. In addition, the Corporation must obtain the prior approval of the FRBNY for the repurchase or redemption of its shares of stock. Additionally, the FRBNY Agreement further provides that in appointing any new director or senior executive officer or changing the responsibilities of any senior executive officer so that the officer would assume a different senior position, the Corporation must notify the Board of Governors of the Federal Reserve System and such board or the FRBNY or the OCC, may veto such appointment or change. The FRBNY Agreement further provides that the Corporation is restricted in making certain severance and indemnification payments. The failure of the Corporation to comply with the FRBNY Agreement could have severe adverse consequences on the Bank and the Corporation.
The Corporation recorded a net loss of $3.7 million in 2011 and a net loss of $7.5 million in 2010 primarily due to significant declines in net interest income and other operating income, along with higher costs for consultants retained to achieve compliance with the provisions of the Formal Agreement and Consent Order, offset by a reduction in the provision for loan losses. However,

44


we are currently not generating sufficient operating income to cover operating expenses before consideration of the provision for loan losses, a condition which is worsening. These ongoing losses will hamper management's ability to achieve compliance with the required capital ratios.
The decrease in real estate values and instability in the market, as well as other macroeconomic factors, such as unemployment, have contributed to a decrease in credit quality and increased provisioning. While the Bank and Corporation are implementing steps to improve their financial performance, there can be no assurance they will be successful. These deteriorating financial results and the failure of the Bank to comply with the OCC’s higher mandated capital ratios under the Consent Order, and the actions that the OCC may take as a result thereof, raise substantial doubt about the Corporation’s and the Bank’s ability to continue as going concerns.
As a result of the Consent Order, collateral requirements for municipal deposit letters of credit issued by the Federal Home Loan Bank are increasing.
Management has developed a plan to address the compliance matters raised by the OCC and the ability to maintain future financial viability and submitted the plan to the OCC for approval. The OCC indicated that they had no objections. The plan provides for the addition of new lines of business and strategic growth initiatives, a restructuring of staff where necessary, and the preparation and use of an Investor Presentation to assist in a capital raise. We have formed a strategic alliance with a third-party online deposit vendor, which we believe will attract new sources of deposits, and have completed the staff restructuring. We are also in process of our capital raise and expect to expand into new lines of business, subject to obtaining the necessary regulatory approvals, upon completion of the capital raise in 2012. However, there can be no assurances that the capital raise will be successful.

Note 3   Cash and due from banks
The Bank is required to maintain a reserve balance with the Federal Reserve Bank based primarily on deposit levels. These reserve balances averaged $3.1 million in 2011 and $2.5 million in 2010.

Note 4   Federal funds sold
Federal funds sold averaged $32.6 million during 2011 and $29.5 million in 2010, while the maximum balance outstanding at any month-end during 2011, 2010 and 2009 was $44.3 million, $49.8 million and $70.5 million, respectively.

Note 5   Investment securities available for sale
The amortized cost and fair values at December 31 of investment securities available for sale were as follows:

2011 In thousands
Amortized
Cost
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
Fair
Value
U.S. Treasury securities and obligations of U.S. government agencies
$
9,005

 
$
146

 
$

 
$
9,151

Obligations of U.S. government sponsored entities
12,805

 
233

 
11

 
13,027

Obligations of state and political subdivisions
3,326

 
174

 

 
3,500

Mortgage-backed securities
58,373

 
2,059

 

 
60,432

Other debt securities
8,366

 
31

 
2,190

 
6,207

Equity securities:
 
 
 
 
 
 
 
Marketable securities
783

 

 
19

 
764

Nonmarketable securities
115

 

 

 
115

Federal Reserve Bank and Federal Home Loan Bank stock
1,862

 

 

 
1,862

Total
$
94,635

 
$
2,643

 
$
2,220

 
$
95,058



45


2010 In thousands
Amortized
Cost
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
Fair
Value
U.S. Treasury securities and obligations of U.S. government agencies
$
3,389

 
$
64

 
$
24

 
$
3,429

Obligations of U.S. government sponsored entities
15,447

 
100

 
267

 
15,280

Obligations of state and political subdivisions
9,604

 
194

 
285

 
9,513

Mortgage-backed securities
66,037

 
1,892

 
24

 
67,905

Other debt securities
8,358

 
37

 
1,839

 
6,556

Equity securities:
 
 
 
 
 
 
 
Marketable securities
748

 

 
21

 
727

Nonmarketable securities
115

 

 

 
115

Federal Reserve Bank and Federal Home Loan Bank stock
1,895

 

 

 
1,895

Total
$
105,593

 
$
2,287

 
$
2,460

 
$
105,420


The amortized cost and the fair values of investments in debt securities available for sale are distributed by contractual maturity, without regard to normal amortization including mortgage-backed securities, which will have shorter estimated lives as a result of prepayments of the underlying mortgages.

In thousands
Amortized
Cost
 
Fair
Value
Due after one year but within five years:
 
 
 
U.S. Treasury securities and obligations
of U.S. government agencies
$
30

 
$
30

Obligations of U.S. government sponsored
entities
287

 
289

Obligations of state and
political subdivisions

 

Mortgage-backed securities
374

 
391

Other debt securities
1,000

 
950

Due after five years but within ten years:
 
 
 
U.S. Treasury securities and obligations
of U.S. government agencies
82

 
82

Obligations of U.S.
government sponsored entities
3,322

 
3,449

Obligations of state and
political subdivisions
1,680

 
1,761

Mortgage-backed securities
317

 
331

Due after ten years:
 
 
 
U.S. Treasury securities and obligations
of U.S. government agencies
8,893

 
9,039

Obligations of U.S. government sponsored
entities
9,196

 
9,289

Obligations of state and
political subdivisions
1,646

 
1,739

Mortgage-backed securities
57,682

 
59,710

Other debt securities
7,366

 
5,257

Total debt securities
91,875

 
92,317

Equity securities
2,760

 
2,741

Total
$
94,635

 
$
95,058


Sales of investment securities available for sale resulted in gross losses of $0, $92,000 and $1,000 and gross gains of $989,000, $2,172,000 and $12,000 in 2011, 2010 and 2009, respectively. Additionally, impairment charges of 2.3 million were recorded during 2009 while none were recorded in 2011 or 2010. These charges resulted from the determination that the unrealized losses in two CDOs were other than temporary, based on the expectation that it is probable that all principal and interest payments will not be received in accordance with the securities’ contractual terms.
Interest and dividends on investment securities available for sale were as follows:


46


In thousands
2011
 
2010
 
2009
Taxable
$
3,623

 
$
5,112

 
$
5,732

Tax-exempt
246

 
470

 
68

Total
$
3,869

 
$
5,582

 
$
5,800


Investment securities available for sale with a carrying value of $62 million were pledged to secure U.S. government and municipal deposits and Federal Home Loan Bank borrowings at December 31, 2011. In certain instances, pledging requirements have increased as a result of the Consent Order.
Investment securities available for sale which have had continuous unrealized losses as of December 31 are set forth below.

 
Less than 12 Months
 
12 Months or More
 
Total
2011 In thousands
Fair Value
 
Gross Unrealized
Losses
 
Fair Value
 
Gross Unrealized
Losses
 
Fair Value
 
Gross Unrealized
Losses
U.S. Treasury securities and obligations
of U.S. government agencies
$

 
$

 
$
28

 
$

 
$
28

 
$

Obligations of U.S. Government
sponsored entities
1,527

 

 
1,824

 
11

 
3,351

 
11

Other debt securities
831

 
104

 
4,809

 
2,086

 
5,640

 
2,190

Equity securities

 

 
783

 
19

 
783

 
19

Total
$
2,358

 
$
104

 
$
7,444

 
$
2,116

 
$
9,802

 
$
2,220

 
 
 
 
 
 
 
 
 
 
 
 
 
Less than 12 Months
 
12 Months or More
 
Total
2010 In thousands
Fair Value
 
Gross Unrealized
Losses
 
Fair Value
 
Gross Unrealized
Losses
 
Fair Value
 
Gross Unrealized
Losses
U.S. Treasury securities and
obligations of U.S. government agencies
$
1,054

 
$
23

 
$
162

 
$
1

 
$
1,216

 
$
24

Obligations of U.S. Government
sponsored entities
6,733

 
254

 
2,080

 
13

 
8,813

 
267

Mortgaged-backed securities
6,219

 
24

 

 

 
6,219

 
24

Obligations of state and political
subdivisions
5,147

 
285

 

 

 
5,147

 
285

Other debt securities

 

 
5,050

 
1,839

 
5,050

 
1,839

Equity securities

 

 
727

 
21

 
727

 
21

Total
$
19,153

 
$
586

 
$
8,019

 
$
1,874

 
$
27,172

 
$
2,460


The gross unrealized losses set forth above as of December 31, 2011 were attributable primarily to single-issue trust preferred securities (“TRUPS”) issued by financial institutions, CDOs collateralized primarily by TRUPS issued by banks and other corporate debt, all of which are included with other debt securities. The fair value of these securities has been negatively impacted by the lack of liquidity in the overall TRUPS and corporate debt markets although all issuers continue to perform. The decline in investment securities with continuing unrealized losses was a result of sales of securities with unrealized losses during the fourth quarter of 2011.
The following table presents a rollforward of the credit loss component of other-than-temporary impairment losses (“OTTI”) on debt securities for which a non-credit component of OTTI was recognized in other comprehensive income (loss). The beginning balance represents the credit loss component for debt securities for which OTTI occurred prior to April 1, 2009. OTTI recognized in earnings after that date for credit-impaired debt securities is presented as additions in two components, based upon whether the current period is the first time a debt security was credit-impaired (initial credit impairment) or is not the first time a debt security was credit impaired (subsequent credit impairment).
Changes in the credit loss component of credit-impaired debt securities were as follows:


47


 
For the Year
Ended
 
For the Year Ended
In thousands
December 31,
2011
 
December 31,
2010
Beginning balance
$

 
$
2,489

Add:
 
 
 
Initial credit
 
 
 
Impairments

 

Additional credit impairments

 

Deduct:
 
 
 
Dispositions

 
(2,489
)
Balance, December 31
$

 
$


We recorded no OTTI charges during 2011 or 2010.

The Bank also owns a CDO with a carrying value of $996,000 and market value of $412,000 on which no impairment losses have been recorded because it is expected that this security will perform in accordance with its original terms and that the carrying value is fully recoverable based on the investment's payment performance, consistent market valuations and a third-party consultant's conclusion that the investment will continue to be fully performing and fully recoverable in accordance with the terms of the agreement. Additional information for this security is presented below.
 
 
In thousands
December 31, 2011
Par value
$
1,000,000

Carrying value
996,000

Fair value
412,000

Unrealized loss
584,000

Number of original issuers
50

Number of currently paying banks in issuance
35

Number of defaulting and deferring banks
12

Percentage of remaining banks expected to default or defer payment (annually)
1.2
%
Subordination
30.60
%
Additionally, the Bank owns a portfolio of six single-issue trust preferred securities with a carrying value of $4.5 million and a market value of $3.3 million. Finally, the Bank also owns two corporate securities with a carrying value of $1.9 million and a market value of $1.6 million that are rated below investment grade. All values are as of December 31, 2011. None of these securities is considered impaired as they are all fully performing and are expected to continue performing.
Available for sale securities in unrealized loss positions are analyzed as part of the Corporation’s ongoing assessment of OTTI. When the Corporation intends to sell available-for-sale securities, the Corporation recognizes an impairment loss equal to the full difference between the amortized cost basis and fair value of those securities. When the Corporation does not intend to sell available for sale securities in an unrealized loss position, potential OTTI is considered based on a variety of factors, including the length of time and extent to which the fair value has been less than cost; adverse conditions specifically related to the industry, the geographic area or financial condition of the issuer or the underlying collateral of a security; the payment structure of the security; changes to the rating of the security by rating agencies; the volatility of the fair value changes; and changes in fair value of the security after the balance sheet date. For debt securities, the Corporation estimates cash flows over the remaining lives of the underlying collateral to assess whether credit losses exist and to determine if any adverse changes in cash flows have occurred. The Corporation’s cash flow estimates take into account expectations of relevant market and economic data as of the end of the reporting period.
Other factors considered in determining whether a loss is temporary include the length of time and the extent to which fair value has been below cost; the severity of the impairment; the cause of the impairment; the financial condition and near-term prospects of the issuer; activity in the market of the issuer which may indicate adverse credit conditions; and the forecasted recovery period using current estimates of volatility in market interest rates (including liquidity and risk premiums).

48


Management’s assertion regarding its intent not to sell or that it is not more likely than not that the Corporation will be required to sell the security before its anticipated recovery considers a number of factors, including a quantitative estimate of the expected recovery period (which may extend to maturity), and management’s intended strategy with respect to the identified security or portfolio. If management does have the intent to sell or believes it is more likely than not that the Corporation will be required to sell the security before its anticipated recovery, the gross unrealized loss is charged directly to earnings in the Consolidated Statements of Operations.
As of December 31, 2011, the Corporation does not intend to sell the securities with an unrealized loss position in accumulated other comprehensive loss (“AOCL”), and it is not more likely than not that the Corporation will be required to sell these securities before recovery of their amortized cost basis. The Corporation believes that the securities with an unrealized loss in AOCL are not other than temporarily impaired as of December 31, 2011.

Note 6   Loans
Loans, net of unearned discount and net deferred origination fees and costs at December 31 were as follows:

In thousands
2011
 
2010
Commercial
$
26,516

 
$
38,225

Real estate
181,531

 
206,072

Installment
720

 
718

Total loans
208,767

 
245,015

Less: Unearned income
52

 
60

Loans
$
208,715

 
$
244,955


The Corporation categorizes loans into risk categories based on relevant information about the ability of borrowers to service their debt such as: current financial information, historical payment experience, credit documentation, public information and current economic trends, among other factors. For non-homogeneous loans, such as commercial and commercial real estate loans the Corporation analyzes the loans individually by classifying the loans as to credit risk and assesses the probability of collection for each type of class. The Corporation uses the following definitions for risk ratings:
Pass — Pass assets are well protected by the current net worth and paying capacity of the obligor (or guarantors, if any) or by the fair value, less cost to acquire and sell, of any underlying collateral in a timely manner.
Special Mention — A special mention asset has potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the asset or in the institution’s credit position at some future date. Special mention assets are not adversely classified and do not expose an institution to sufficient risk to warrant adverse classification.
Substandard — A substandard asset is inadequately protected by the current sound worth and paying capacity of the obligor or by the collateral pledged, if any. Assets so classified must have a well-defined weakness, or weaknesses that jeopardize the liquidation of the debt. They are characterized by the distinct possibility that we will sustain some loss if the deficiencies are not corrected.
Doubtful — An asset classified doubtful has all the weaknesses inherent in one classified substandard with the added characteristic that the weaknesses make collection or liquidation in full highly questionable and improbable on the basis of currently known facts, conditions, and values.
Loss — An asset or portion thereof, classified loss is considered uncollectible and of such little value that its continuance on the institution’s books as an asset, without establishment of a specific valuation allowance or charge-off, is not warranted. This classification does not necessarily mean that an asset has no recovery or salvage value; but rather, there is significant doubt about whether, how much, or when the recovery will occur. As such, it is not practical or desirable to defer the write-off.
As of December 31, 2011, and based on the most recent analysis performed, the risk category of loans by class of loans is as follows:


49


In thousands
Pass
 
Special
Mention
 
Substandard
 
Doubtful
 
Loss
 
Total
Commercial loans
$
23,560

 
$
1,084

 
$
1,656

 
$
216

 
$

 
$
26,516

Real estate loans
 
 
 
 
 
 
 
 
 
 
 
Church
30,133

 
7,105

 
20,220

 

 

 
57,458

Construction - other than
third-party originated
3,115

 

 
7,333

 

 

 
10,448

Construction – third-party
originated

 

 
6,990

 
1,047

 

 
8,037

Multifamily
10,594

 
66

 
1,673

 
273

 

 
12,606

Other
41,903

 
6,907

 
19,878

 
958

 

 
69,646

Residential
20,359

 

 
2,977

 

 

 
23,336

Installment
718

 
1

 
1

 

 

 
720

 
$
130,382

 
$
15,163

 
$
60,728

 
$
2,494

 
$

 
$
208,767


The following table presents the aging of the recorded investment in past due loans as of December 31, 2011.

In thousands
0-30 Days
 
30-60 Days
 
60-90 Days
 
More than
90 Days
 
Total Past
Due
 
Current
 
Total
Commercial loans
$
177

 
$
1,743

 
$
784

 
$
2,248

 
$
4,952

 
$
21,564

 
$
26,516

Real estate loans
 
 
 
 
 
 
 
 
 
 
 
 
 
Church

 
8,127

 
8,694

 
6,478

 
23,299

 
34,159

 
57,458

Construction - other than
third-party originated

 
437

 

 
6,157

 
6,594

 
3,854

 
10,448

Construction - other than
third-party originated
108

 

 

 
7,929

 
8,037

 

 
8,037

Mulifamily

 
106

 
608

 
1,404

 
2,118

 
10,488

 
12,606

Other
1,986

 
1,632

 
3,837

 
9,639

 
17,094

 
52,552

 
69,646

Residential
89

 
1,299

 

 
2,557

 
3,945

 
19,391

 
23,336

Installment
16

 
1

 
1

 
2

 
20

 
700

 
720

 
$
2,376

 
$
13,345

 
$
13,924

 
$
36,414

 
$
66,059

 
$
142,708

 
$
208,767


The following table presents the recorded investment in impaired loans as of December 31, 2011 by class of loans:

In thousands
Recorded
Investment
 
Unpaid
Principal
Balance
 
Related
Allowance
Commercial loans
$
363

 
$
462

 
$
216

Real estate loans
 
 
 
 
 
Church
9,586

 
9,973

 
545

Construction - other than third-party originated
6,070

 
7,509

 
311

Construction – third-party originated
8,037

 
10,815

 
346

Multifamily
1,308

 
1,951

 

Other
15,027

 
16,265

 
65

Residential
2,583

 
2,266

 
38

Installment

 

 

 
$
42,974

 
$
49,241

 
$
1,521


Nonperforming loans include loans which are contractually past due 90 days or more for which interest income is still being accrued and nonaccrual loans.
At December 31, nonperforming loans were as follows:


50


In thousands
2011
 
2010
Nonaccrual loans
$
42,008

 
$
35,916

Loans with interest or principal 90
days or more past due and still accruing
2,218

 
2,343

Total nonperforming loans
$
44,226

 
$
38,259

The effect of nonaccrual loans on income before taxes is presented below.
In thousands
2011
 
2010
 
2009
Interest income foregone
$
(1,641
)
 
$
(1,723
)
 
$
(785
)
Interest income received

 
119

 
188

 
$
(1,641
)
 
$
(1,604
)
 
$
(597
)

The Bank received $1 million of interest payments in 2011 on nonaccrual loans, all of which will be used to reduce the related loan balance when the loan is ultimately paid off, sold, or charged off.

Nonperforming assets are generally secured by residential and small commercial real estate properties, except for church loans, which are generally secured by the church buildings.
At December 31, 2011, there were no commitments to lend additional funds to borrowers for loans that were on nonaccrual or contractually past due in excess of 90 days and still accruing interest, or to borrowers whose loans have been restructured. A majority of the Bank’s loan portfolio is concentrated in the New York City metropolitan area and is secured by commercial properties. The borrowers’ abilities to repay their obligations are dependent upon various factors including the borrowers’ income, net worth, cash flows generated by the underlying collateral, the value of the underlying collateral and priority of the Bank’s lien on the related property. Such factors are dependent upon various economic conditions and individual circumstances beyond the Bank’s control. Accordingly, the Bank may be subject to risk of credit losses.
Impaired loans totaled $43.0 million at December 31, 2011 compared to $34.8 million at December 31, 2010. Charge-offs of impaired loans during 2011 totaled $2 million. The related allocation of the allowance for loan losses amounted to $1.5 million and $550,000 at December 31, 2011 and 2010, respectively. $36.7 million of impaired loans have no allowance allocated to them as sufficient collateral exists. The average balance of impaired loans during 2011 was $38.9 million and amounted to $24.2 million in 2010. There was no interest income recognized on impaired loans during either 2011 or 2010.

We may extend, restructure or otherwise modify the terms of existing loans on a case-by-case basis to remain competitive or to assist other customers who may be experiencing financial difficulty. If a concession has been made to a borrower experiencing financial difficulty, the loan is then classified as a troubled debt restructuring ("TDR"). The majority of concessions made for TDRs involve lowering the monthly payments on the loans either through a reduction in interest rate below a market rate, an extension of the term of the loan, or a combination of the two methods. They seldom result in the forgiveness of principal or accrued interest. In addition, we attempt to obtain additional collateral or guarantees when modifying such loans. If the borrower demonstrates the ability to perform under the restructured terms, the loan will continue to accrue interest. Nonaccruing restructured loans may be returned to accrual status when there has been a sustained period of repayment performance (generally six consecutive months of payments) and both principal and interest are considered collectible.
As a result of the adoption of ASU 2011-02, CNB reassessed all loan restructurings that occurred on or after January 1, 2011 for potential identification as TDRs and has concluded that the adoption of ASU 2011-02 did not materially impact the number of TDRs or the specific reserves for such loans included in our allowance for loan losses at December 31, 2011.
Troubled debt restructured loans (“TDRs”) totaled $5.7 million at December 31, 2011 and $2.9 million at December 31, 2010, with a related allowance of $111,000 and none at December 31, 2010 and included eight borrowers at December 31, 2011. TDRs to five borrowers amounting to $4 million were accruing. The remainder are on nonaccrual status due to delinquent payments. All TDRs are included in the balance of impaired loans. Three TDRs totaling $1.8 million defaulted on the modified terms during 2011.
The following tables present loans by loan class modified as TDRs during 2011. The pre-modification and post-modification outstanding recorded investments disclosed in the tables below, represent carrying amounts immediately prior to the modification and at December 31, 2011, respectively. There were no chargeoffs resulting from loans modified as TDRs during 2011.


51


 
Year Ended December 31, 2011
Troubled Debt
Restructurings
Number of
Contracts
 
Pre-Modification
Outstanding
Recorded Investment
 
Post-Modification
Outstanding
Recorded Investment
 
 
 
 
 
 
Churches
3

  
$
3,100

  
$
2,650

Commercial real estate:
 
 
 
 
 
  Other
2

  
3,225

  
2,323

Total commercial real estate
5

  
6,325

  
4,973

Residential mortgage
3

  
939

  
756

Total
8

  
$
7,264

  
$
5,729

TDRs totaling $1.8 million defaulted as to the modified terms during 2011.


Note 7   Allowance for loan losses
The allowance for loan losses represents management’s estimate of probable loan losses inherent in the loan portfolio. Determining the amount of the allowance for loan losses is considered a critical accounting estimate because it requires significant judgment and the use of estimates related to the amount and timing of expected future cash flows on impaired loans, estimated losses on pools of homogeneous loans based on historical loss experience, and consideration of current economic trends and conditions, all of which may be susceptible to significant change. Bank regulators, as an integral part of their examination process, also review the allowance for loan losses. Such regulators may require, based on their judgments about information available to them at the time of their examination, that certain loan balances be charged off or require that adjustments be made to the allowance for loan losses when their credit evaluations differ from those of management. Additionally, the allowance for loan losses is determined, in part, by the composition and size of the loan portfolio, which represents the largest asset type on the consolidated statement of financial condition.
The allowance for loan losses consists of four elements: (1) specific reserves for individually impaired credits, (2) reserves for classified, or higher risk rated, loans, (3) reserves for non-classified loans and (4) unallocated reserves. Other than the specific reserves, the calculation of the allowance takes into consideration numerous risk factors both internal and external to the Corporation, including changes in loan portfolio volume, the composition and concentrations of credit, new market initiatives, migration to loss analysis and the amount and velocity of loan charge-offs, among other factors.
Management performs a formal quarterly evaluation of the adequacy of the allowance for loan losses. The analysis of the allowance for loan losses has a component for impaired loan losses and a component for general loan losses. Management has defined an impaired loan to be a loan for which it is probable, based on current information, that the Corporation will not collect all amounts due in accordance with the contractual terms of the agreement. The Corporation defined the population of impaired loans subject to be all nonaccrual loans with an outstanding balance of $100,000 or greater, and all loans subject to a troubled debt restructuring. Impaired loans are individually assessed to determine that the loan’s carrying value is not in excess of the estimated fair value of the collateral (less cost to sell), if the loan is collateral dependent, or the present value of the expected future cash flows, if the loan is not collateral dependent. Management performs a detailed evaluation of each impaired loan and generally obtains updated appraisals as part of the evaluation. In addition, management adjusts estimated fair value down to appropriately consider recent market conditions and costs to dispose of any supporting collateral. Determining the estimated fair value of underlying collateral (and related costs to sell) can be subjective in illiquid real estate markets and is subject to significant assumptions and estimates. Management employs independent third party experts in appraisal preparations and performs reviews to ascertain the reasonableness of updated appraisals. Projecting the expected cash flows under troubled debt restructurings is inherently subjective and requires, among other things, an evaluation of the borrower’s current and projected financial condition. Actual results may be significantly different than projections and the established allowance for loan losses on these loans, and could have a material effect on the Corporation’s financial results.
New appraisals are generally obtained annually for all impaired loans and impairment write-downs are taken when appraisal values are less than the carrying value of the related loan.
The allowance contains reserves identified as unallocated to cover inherent losses in the loan portfolio which have not been otherwise reviewed or measured on an individual basis. Such reserves include management’s evaluation of the regional economy, loan portfolio volumes, the composition and concentrations of credit, credit quality and delinquency trends. These reserves reflect management’s attempt to ensure that the overall allowance reflects a margin for judgmental factors and the uncertainty that is inherent in estimates of probable credit losses.
Although management believes that the allowance for loan losses has been maintained at adequate levels to reserve for probable

52


losses inherent in its loan portfolio, additions may be necessary if future economic and other conditions differ substantially from the current operating environment. Although management uses the best information available, the level of the allowance for loan losses remains an estimate that is subject to significant judgment and short-term change.
Transactions in the allowance for loan losses are summarized as follows:
 
Balance,
Provision for Loan
Losses
 
 
Balance,
In thousands
December 31, 2010
Recoveries
Chargeoffs
December 31, 2011
Commercial loans
$
2,770

$
(1,274
)
$
220

$
411

$
1,305

Real estate loans
 
 
 
 
 
  Church
1,559

492

99

68

2,082

  Construction - other than
      third-party originated
462

2,038


1,502

998

  Construction - third-party
      originated
1,575

(959
)

270

346

  Multifamily
633

(280
)

68

285

  Other
2,333

189

68

649

1,941

  Residential
736

247

6

149

840

Installment
55

42

2

48

51

Unallocated
503

2,519



3,022

Total
$
10,626

$
3,014

$
395

$
3,165

$
10,870


 
Balance,
Provision for Loan
Losses
 
 
Balance,
In thousands
December 31, 2009
Recoveries
Chargeoffs
December 31, 2010
Commercial loans
$
1,352

$
3,764

$
7

$
2,353

$
2,770

Real estate loans
 
 
 
 
 
  Church
1,074

691


206

1,559

  Construction - other than
      third-party originated
644

195


377

462

  Construction - third-party
      originated
2,392

1,104


1,921

1,575

  Multifamily
716

469


552

633

  Other
2,080

1,840

39

1,626

2,333

  Residential
189

1,024


477

736

Installment
19

81

3

48

55

Unallocated
184

319



503

Total
$
8,650

$
9,487

$
49

$
7,560

$
10,626


The following tables present the allowance for loan losses by portfolio segment along with the related recorded investment in loans based on impairment method as of December 31, 2011.


53


In thousands
Individually
Evaluated
 
Collectively
Evaluated
 
Total
Allowance
Commercial loans
$
216

 
$
1,089

 
$
1,305

Real estate loans
 
 
 
 
 
Church
545

 
1,537

 
2,082

Construction - other than third-party originated
311

 
687

 
998

Construction – third-party originated
346

 

 
346

Multifamily

 
285

 
285

Other
65

 
1,876

 
1,941

Residential
38

 
802

 
840

Installment

 
51

 
51

Unallocated

 
3,022

 
3,022

 
$
1,521

 
$
9,349

 
$
10,870

In thousands
Individually
Evaluated
 
Collectively
Evaluated
 
Total
Recorded
Investment
Commercial loans
$
363

 
$
26,153

 
$
26,516

Real estate loans
 
 
 
 
 
Church
9,586

 
47,872

 
57,458

Construction - other than third-party originated
6,070

 
4,377

 
10,447

Construction – third-party originated
8,037

 

 
8,037

Multifamily
1,308

 
11,298

 
12,606

Other
15,027

 
54,619

 
69,646

Residential
2,583

 
20,754

 
23,337

Installment

 
720

 
720

 
$
42,974

 
$
165,793

 
$
208,767


Note 8   Premises and equipment
A summary of premises and equipment at December 31 follows:

In thousands
2011
 
2010
Land
$
329

 
$
329

Premises
1,520

 
1,520

Furniture and equipment
4,278

 
4,436

Leasehold improvements
3,585

 
3,563

Total cost
9,712

 
9,848

Less: Accumulated depreciation and amortization
7,026

 
6,874

Total premises and equipment
$
2,686

 
$
2,974


Depreciation and amortization expense charged to operations amounted to $366,000, $404,000 and $432,000 in 2011, 2010, and 2009, respectively.

Note 9  Deposits
Deposits at December 31 are presented below.
In thousands
2011
 
2010
Noninterest bearing demand
$
37,379

 
$
35,132

Interest bearing:
 
 
 
Demand
47,744

 
45,707

Savings
22,696

 
23,009

Money market
44,235

 
61,947

Time
147,217

 
172,756

Total interest bearing deposits
261,892

 
303,419

Total deposits
$
299,271

 
$
338,551



54


Time deposits issued in amounts of $100,000 or more have the following maturities at December 31:

In thousands
2011
 
2010
Three months or less
$
38,893

 
$
41,276

Over three months but within six months
10,630

 
18,580

Over six months but within twelve months
12,941

 
13,937

Over twelve months
35,008

 
38,067

Total deposits
$
97,472

 
$
111,860


Interest expense on certificates of deposits of $100,000 or more was $1,747,000, $2,577,000 and $2,171,000 in 2011, 2010 and 2009, respectively.

Note 10  Short-term borrowings
Information regarding short-term borrowings at December 31, is presented below.
Dollars in thousands
December 31
Balance
 
Average
Interest
Rate on
December 31
Balance
 
Average
Balance
During
the Year
 
Average
Interest
Rate
During
the Year
 
Maximum
Balance
at any
Month-
End
2011
 
 
 
 
 
 
 
 
 
Federal funds purchased
$

 
%
 
$
22

 
1.07
%
 
$

Securities sold under repurchase agreements

 

 
11

 
0.33

 

Total
$

 
%
 
$
33

 
0.82
%
 
$

2010
 
 
 
 
 
 
 
 
 
Federal funds purchased
$

 
%
 
$
33

 
0.89
%
 
$

Securities sold under repurchase agreements

 

 
56

 
0.31

 
1,718

Demand note issued to the U.S. Treasury

 

 

 

 

Total
$

 
%
 
$
89

 
0.52
%
 
$
1,718


The demand note, which has no stated maturity is issued by the Bank to the U.S. Treasury Department is payable with interest at 25 basis points less than the weekly average of the daily effective Federal Funds rate and is collateralized by various investment securities held at the Federal Reserve Bank of New York with a book value of $0. There was no balance outstanding under the note at December 31, 2011 or 2010, so no collateral was required.
The Corporation had a short-term borrowing line of $3 million at December 31, 2011 and 2010 with a correspondent bank which was unused at December 31, 2011 and 2010.

Note 11  Long-term debt
Long-term debt at December 31 is summarized as follows:
In thousands
2011
 
2010
FHLB convertible advances due August 6, 2018
$
10,000

 
$
10,000

8.00% capital note, due May 6, 2017
200

 
200

5.00% senior note, due February 21, 2022
5,000

 
5,000

Subordinated debt
4,000

 
4,000

Total
19,200

 
19,200

Less: Short-term portion of long-term debt
5,000

 
5,000

Total
$
14,200

 
$
14,200


Interest is payable quarterly on the FHLB advance. The advance bears a fixed interest rate of 6.15% and is secured by mortgages and certain obligations of U.S. Government agencies under a blanket collateral agreement.
The Corporation had borrowing lines with the Federal Home Loan Bank totaling $52.5 million at December 31, 2011 and $60.4 million at December 31, 2010, of which $10.0 million $0 millionwas used and outstanding at both December 31, 2011 and 2010. The

55


balance of the lines was used primarily as collateral for the issuance by FHLB of municipal letters of credit to our municipality customers. These lines may be utilized for long-term or short-term borrowing purposes. Loans and investment securities totaling $52.5 million were held by the FHLB as collateral for their available lines and advances, as well as $38.3 million of municipal letters of credit. During 2012, FHLB raised the collateral requirements for the Bank's borrowing lines.
Interest is payable on the 8.00% capital note semiannually through May 6, 2017, at which time the entire principal balance is due. The note is then renewable at the option of the Corporation for an additional fifteen years at the prevailing rate of interest.
Interest is payable on the 5.00% senior note quarterly for the first ten years. Interest thereafter is payable quarterly at a fixed rate based on the yield of the ten-year U.S. Treasury note plus 150 basis points in effect on the tenth anniversary of the note agreement. Quarterly principal payments of $250,000 commence in the eleventh year of the loan. As an additional condition for receiving the loan, the Bank is required to contribute $100,000 annually for the first five years the loan is outstanding to a nonprofit lending institution formed jointly by CNB and the lender to provide financing to small businesses that would not qualify for bank loans.
On November 3, 2010, the Corporation entered into a First Amendment to Credit Agreement (the “Amendment”) with The Prudential Insurance Company of America (“Prudential”) amending and modifying that certain Credit Agreement by and between the Corporation and Prudential, dated as of February 21, 2007 (the ”Credit Agreement”).
The purpose of the Amendment was to: (a) modify the use of proceeds provisions of the Credit Agreement governing Prudential’s $5,000,000 unsecured term loan to the Corporation so that the Corporation could convert its $5,000,000 subordinated loan to the Bank into equity of the Bank that will be treated by the OCC as “Tier I” regulatory capital; (b) waive certain events of default resulting from the Bank’s entry into the Formal Agreement with the OCC and failure to meet certain other material obligations, including deferral of dividends to its Series F and G Preferred stockholders and deferral of certain obligations to holders of debentures related to its trust preferred securities; (c) waive any default interest that may have accrued during the pendency of such events of default; and (d) amend and restate the financial covenants of the Credit Agreement. On November 30, 2010, upon receipt of OCC approval the subordinated loan was converted into equity, thereby increasing the Bank’s Tier 1 leverage capital. However, as a result of the Consent Order entered into on December 22, 2010 and the failure to achieve certain capital ratios required by the OCC, the Corporation was in default under this loan and is attempting to obtain a waiver from the lender. As a result of the default, the loan has been reclassified to short-term portion of long-term debt on the accompanying Consolidated Balance Sheets.
On March 17, 2004, City National Bancshares Corporation issued $4 million of preferred capital securities through City National Bank of New Jersey Capital Trust II (the "Trust”), a special-purpose statutory trust created expressly for the issuance of these securities. Distribution of interest on the securities is payable at the three-month LIBOR rate plus 2.79%, adjustable quarterly. The rate in effect at December 31, 2011 was 3.35%.
The quarterly distributions may, at the option of the Trust, be deferred for up to twenty consecutive quarterly periods. If the interest is deferred for more than twenty quarters, then there is an event of default. In that event, and if the trustee, or more than 25% of the holders of the outstanding debt securities, declare the entire principal balance and outstanding interest to be immediately due and payable, then such amounts are to be paid to the trustee, along with amounts for trustee and other advisor expenses. The proceeds have been invested in junior subordinated debentures of CNBC, at terms identical to the preferred capital securities. Cash distributions on the securities are made to the extent interest on the debentures is received by the Trust. In the event of certain changes or amendments to regulatory requirements or federal tax rules, the securities are redeemable. The securities are generally redeemable in whole or in part on or after March 17, 2009, at any interest payment date, at a price equal to 100% of the principal amount plus accrued interest to the date of redemption. The securities must be redeemed by March 17, 2034.
The Corporation has deferred its regularly scheduled quarterly interest payments on these securities and as of the last day of 2011, a total of $252,818 in interest was deferred. The subsidiary trust is not included with the consolidated financial statements of the Corporation because of the deconsolidation required by accounting standards. The debentures are eligible for inclusion in Tier 1 capital for regulatory purposes.
Scheduled repayments on long-term debt are as follows:

In thousands
Amount

2012
$
5,000

2013

2014

2015

2016

Thereafter
14,200

Total
$
19,200


56



Note 12  Other operating income and expenses
The following table presents the major components of other operating income and expenses.

In thousands
2011
 
2010
 
2009
Other income
 
 
 
 
 
Debit card income
$
73

 
$
71

 
$
66

Agency fees
6

 
26

 
236

Miscellaneous other income
338

 
274

 
328

Total other income
$
417

 
$
371

 
$
630

Other expenses
 
 
 
 
 
Appraisal fees
$
125

 
$
191

 
$
35

ATM processing fees
139

 
157

 
122

Communications expense
105

 
123

 
129

Correspondent bank fees
106

 
142

 
146

Directors' fees

 
172

 
140

Forgery loss

 
300

 

Miscellaneous other expenses
1,095

 
1,283

 
1,067

Total other expenses
$
1,570

 
$
2,368

 
$
1,639


Note 13  Income taxes
The components of income tax expense are as follows:

In thousands
2011
 
2010
 
2009
Current expense (benefit)
 
 
 
 
 
Federal
$
9

 
$
(681
)
 
$
(595
)
State
64

 
196

 
29

 
73

 
(485
)
 
(566
)
Deferred expense
 
 
 
 
 
Federal and state

 
845

 
2,372

Total income tax expense
$
73

 
$
360

 
$
1,806


A reconciliation between income tax expense and the total expected federal income tax computed by multiplying pre-tax accounting income by the statutory federal income tax rate is as follows:

In thousands
2011
 
2010
 
2009
Federal income tax at statutory rate
$
(1,225
)
 
$
(2,413
)
 
$
(2,046
)
Increase (decrease) in income tax expense resulting from:
 
 
 
 
 
Gross state deferred tax asset benefit
(405
)
 

 

State income tax (benefit) expense, net of federal benefit
48

 
(362
)
 
517

Tax-exempt income
(121
)
 
(318
)
 
(450
)
Carryback claims

 
(328
)
 

Bank-owned life insurance
(64
)
 
(65
)
 
(65
)
Increase in valuation allowance
1,702

 
3,800

 
3,505

Permanent deferred adjustments
167

 

 

Other, net
(29
)
 
46

 
345

Total income tax expense (benefit)
$
73

 
$
360

 
$
1,806


The tax effects of temporary differences that give rise to deferred tax assets and liabilities at December 31 are as follows:


57


In thousands
2011
 
2010
Deferred tax assets
 
 
 
Allowance for loan losses
$
4,858

 
$
3,106

NOL carryforward
3,983

 
2,556

AMT tax credit carryforward
515

 
565

Investment securities
32

 
792

Premises and equipment
425

 
385

Deposit intangible
199

 
206

Deferred compensation
478

 
1,075

Deferred income
287

 
482

Nonaccrual loan interest
638

 
238

Capital loss carryforward
172

 
967

Other assets
435

 
60

Total deferred tax asset
12,022

 
10,432

Deferred tax liabilities
 
 
 
Unrealized losses on investment securities available for sale
35

 
63

Investment in partnership
1,302

 
1,128

Deferred income accretion
275

 
426

Total deferred tax liabilities
1,612

 
1,617

Deferred tax asset
10,410

 
8,815

Valuation allowance
10,410

 
8,815

Net deferred tax asset
$

 
$


The net deferred tax asset represents the anticipated federal and state tax assets to be realized in future years upon the utilization of the underlying tax attributes comprising this balance. If it is more likely than not (a likelihood of more than 50%) that some portion or the entire deferred tax asset will not be realized, the deferred tax asset must be reduced by a valuation allowance based on the weight of all available evidence. The allowance should be sufficient to reduce the deferred tax asset to the amount that is more likely than not to be realized. During 2011, the valuation allowance was increased by $1.7 million because the Corporation continues to be in a three-year cumulative loss position and it is not more likely than not that the Corporation will utilize its deferred tax assets.
The Corporation records estimated penalties and interest, if any, related to unrecognized tax benefits in other operating expense. The Corporation’s tax returns are subject to examination by federal tax authorities for the years 2008 through 2010 and by state authorities also for the years 2007 through 2010.
A reconciliation of the beginning and ending amount of unrecognized tax positions is as follows:
In thousands
2011
 
2010
Balance at January 1
$
44

 
$

Additions based on tax positions related to the current year

 
44

Additions for tax positions of prior years

 

Reductions for tax positions of prior years
(44
)
 

Balance at December 31
$

 
$
44



Note 14  Benefit plans
Savings plan
The Bank maintains an employee savings plan under section 401(k) of the Internal Revenue Code covering all employees with at least six months of service. Participants are allowed to make contributions to the plan by salary reduction, up to 15% of total compensation. The Bank provides matching contributions of 50% of the first 6% of participant salaries subject to a vesting schedule. Contribution expense amounted to $61,000 in 2011, $78,000 in 2010 and $23,000 in 2009. During 2010, the Bank reversed the discretionary contributions that are periodically credited to participants’ accounts.
Bonus plan
The Bank may award profit sharing bonuses to its officers and employees based on the achievement of certain performance objectives. Bonuses charged (credited) to operating expenses in 2011, 2010 and 2009 amounted to $0, $(85,000), and $(103,000), respectively. The credits in 2010 and 2009 resulted from decisions to permanently not pay bonuses previously accrued.

58


Nonqualified benefit plans
The Bank maintained a supplemental executive retirement plan (“SERP”), which provides a post-employment supplemental retirement benefit to certain key executive officers. SERP expense was $0 in 2011, $(40,000) in 2010 and $66,000 in 2009. The credit in 2010 resulted from the reversal of accrued benefits to a participant who left the Bank during 2010 and was not entitled to the benefits accrued.
The Bank also had a director retirement plan (“DRIP”). DRIP expense was $(31,000) in 2011, $47,000 in 2010 and $86,000 in 2009. Benefits under both plans were frozen as of June 30, 2010 upon termination of the plans.
Benefit costs under both plans are funded through bank-owned life insurance policies. In addition, expenses for both plans along with the expense related to carrying the policy itself are offset by increases in the cash surrender value of the policies. Such increases are included in “Other income” and totaled $257,000 in 2011, $257,000 in 2010 and $252,000 in 2009, while the related life insurance expense was $68,000 in 2011, $64,000 in 2010 and $59,000 in 2009.
Stock options
No stock options have been issued since 1997 and there were no stock options outstanding at December 31, 2011, 2010 and 2009.

Note 15  Preferred stock
The Corporation is authorized to issue perpetual preferred stock in one or more series, with no par value. Shares of preferred stock have preference over the Corporation’s common stock with respect to the payment of dividends and liquidation rights. Different series of preferred stock may have different stated or liquidation values as well as different rates. Dividends are paid annually.
Set forth below is a summary of the Corporation’s preferred stock issued and outstanding.

 
 
 
 
 
 
 
 
 
December 31,
 
Year
Issued
 
Dividend
Rate
 
Stated
Value
 
Number
of Shares
 
2011
 
2010
Series A
1996
 
6.00
%
 
$
25,000

 
8

 
$
200,000

 
$
200,000

Series C
1996
 
8.00

 
250

 
108

 
27,000

 
27,000

Series D
1997
 
6.50

 
250

 
3,280

 
820,000

 
820,000

Series E
2005
 
6.00

 
50,000

 
28

 
1,400,000

 
1,400,000

Series F
2005
 
8.53

 
7,000,000

 
7,000

 
6,790,000

 
6,790,000

Series E
2006
 
6.00

 
50,000

 
21

 
1,050,000

 
1,050,000

Series G
2009
 
5.00

 
9,439,000

 
9,439

 
10,504,000

 
9,990,000

 
 
 
 
 
 
 
 
 
$
20,791,000

 
$
20,277,000


Series C and D shares are redeemable at any time at par value, while Series A shares are redeemable at par value plus a premium payable in the event of a change of control.
Each Series E share is convertible at any time into 333 shares of common stock of the Corporation, and are redeemable any time by the Corporation after 2008 at liquidation value. The Series F shares are redeemable after 2011 by the Corporation at a declining premium until 2020, at which time the shares are redeemable at par.
On April 10, 2009, the Corporation issued 9,439 shares of fixed-rate cumulative perpetual preferred stock to the U.S. Department of Treasury. These shares pay cumulative dividends at a rate of five percent per annum until the fifth anniversary of the date of issuance, after which the rate increases to nine percent per annum. Dividends are paid quarterly in arrears and unpaid dividends are accrued over the period the preferred shares are outstanding.
In 2011, City National Bancshares Corporation deferred the payment of its regular quarterly cash dividend on its Series G fixed-rate cumulative perpetual preferred stock issued to the U.S. Treasury in connection with the Corporation’s participation in the Treasury’s TARP Capital Purchase Program. In addition, the Corporation in 2011 deferred its regularly scheduled quarterly interest payment on its junior subordinated debentures issued by the City National Bank of New Jersey Capital Statutory Trust II (the “Trust”).
The Series G preferred stock and the junior subordinated debentures issued in favor of the Trust provide for cumulative dividends and interest, respectively. Accordingly, the Corporation may not pay dividends on any of its common or preferred stock until the dividends on Series G preferred stock and the interest on such debentures are paid-up currently. There were no dividend payments made on preferred stock during 2011, although such dividends have been accrued because they are cumulative.
On May 1, 2009, the Corporation paid a cash dividend of $2.00 per share to common stockholders, while no dividend has since been paid to common shareholders. The Corporation is currently unable to determine when dividend payments may be resumed and does not expect to pay a common stock dividend in 2012. Whether cash dividends will be paid in the future depends upon various factors, including the earnings and financial condition of the Bank and the Corporation at the time. Additionally, federal

59


and state laws and regulations contain restrictions on the ability of the Bank and the Corporation to pay dividends.

Note 16  Restrictions on subsidiary bank dividends
Subject to applicable law, the Board of Directors of the Bank and of the Corporation may provide for the payment of dividends when it is determined that dividend payments are appropriate, taking into account factors including net income, capital requirements, financial condition, alternative investment options, tax implications, prevailing economic conditions, industry practices, and other factors deemed to be relevant at the time.
Because CNB is a national banking association, it is subject to regulatory limitation on the amount of dividends it may pay to its parent corporation, CNBC. Prior approval of the OCC is required if the total dividends declared by the Bank in any calendar year exceeds net profit, as defined, for that year combined with the retained net profits from the preceding two calendar years, although currently such approval is required to declare any dividend. Based upon this limitation, no funds were available for the payment of dividends to the parent corporation at December 31, 2011. In addition, pursuant to the December 14, 2010 Agreement with the Federal Reserve Bank of New York, neither the Corporation nor the Bank may pay any dividends without the approval of the Federal Reserve Bank of New York and the Director of the Division of Banking Supervision and Regulation of the Board of Governors and the Consent Order with the OCC further restricts the payment of dividends without the consent of the OCC.

Note 17  Net loss per common share
The following table presents the computation of net loss per common share.

In thousands, except per share data
2011
 
2010
 
2009
Net loss
$
(3,767
)
 
$
(7,457
)
 
$
(7,822
)
Dividends on preferred stock
(514
)
 
(491
)
 
(1,154
)
Net loss applicable to basic common shares
(4,281
)
 
(7,948
)
 
(8,976
)
Dividends applicable to convertible preferred stock
147

 
147

 
147

Net loss applicable to diluted common shares
$
(4,134
)
 
$
(7,801
)
 
$
(8,829
)
Number of average common shares
 
 
 
 
 
Basic
131,320

 
131,290

 
131,290

Diluted:
 
 
 
 
 
Average common shares outstanding
131,320

 
131,290

 
131,290

Average potential dilutive common shares

 

 

 
131,320

 
131,290

 
131,290

Net income per common share
 
 
 
 
 
Basic
$
(32.60
)
 
$
(60.54
)
 
$
(68.36
)
Diluted
(32.60
)
 
(60.54
)
 
(68.36
)

Note 18  Related party transactions
Certain directors, including organizations in which they are officers or have significant ownership, were customers of, and had other transactions with the Bank in the ordinary course of business during 2011 and 2010. Such transactions were on substantially the same terms, including interest rates and collateral with respect to loans, as those prevailing at the time of comparable transactions with others. Further, such transactions did not involve more than the normal risk of collectability and did not include any unfavorable features.
Total loans to the aforementioned individuals and organizations amounted to $4.4 million and $4.5 million at December 31, 2011 and 2010, respectively. The highest amount of such indebtedness during 2011 and 2010 was $4.5 million in both years. During 2011, there were $10,000 of new loans and paydowns totaled $181,000. All related party loans were performing as of December 31, 2011.

Note 19  Fair value measurement of assets and liabilities
The following table represents the assets and liabilities on the Consolidated Balance Sheets at their fair value at December 31, 2011 by level within the fair value hierarchy. The fair value hierarchy established by ASC Topic 820, “Fair Value Measurements and Disclosures” prioritizes inputs to valuation techniques used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (level 1 measurement) and the lowest priority to unobservable inputs (level 3 measurements). The three levels of the fair value hierarchy are described below.
Level 1 - Unadjusted quoted prices in active markets that are accessible at the measurement date for identical unrestricted assets or liabilities;
Level 2 – Quoted prices in markets that are not active, or inputs that are observable either directly or indirectly, for substantially

60


the full term of the assets or liabilities; and
Level 3 – Prices or valuation techniques that require inputs that are both significant to the fair value measurement and unobservable (i.e., supported by little or no market activity).
The following tables present the assets and liabilities that are measured at fair value hierarchy.
2011
 
 
 
 
 
 
 
(Dollars in thousands)
Total
 
Level 1
 
Level 2
 
Level 3
Investment securities available for sale
$
95,058

 
$
9,151

 
$
85,495

 
$
412

 
 
 
 
 
 
 
 
2010
 
 
 
 
 
 
 
(Dollars in thousands)
Total
 
Level 1
 
Level 2
 
Level 3
Investment securities available for sale
$
105,420

 
$
3,429

 
$
101,492

 
$
499


The fair value of Level 3 investments of $412,000 at December 31, 2011 was slightly less than the related fair value of $499,000 at December 31, 2010. Most of the reduction was attributable to a decline in value of a collateralized debt obligation (“CDO”).
Level 1 securities includes securities issued by the U.S. Treasury Department based upon quoted market prices. Level 2 securities includes fair value measurements obtained from various sources including the utilization of matrix pricing, dealer quotes, market spreads, live trading levels, credit information and the bond’s terms and conditions, among other things. Any investment security not valued based on the aforementioned criteria are considered Level 3. Level 3 fair values are determined using unobservable inputs and include corporate debt obligations for which there are no readily available quoted market values as discussed under “Management’s Discussion and Analysis of Financial Condition and Results of Operations” – Investments. For such securities, market values have been provided by the trading desk of an investment bank, which compares characteristics of the securities with those of similar securities and evaluates credit events in underlying collateral or obtained from an external pricing specialist which utilized a discounted cash flow model.
At December 31, 2011, the Corporation had impaired loans with outstanding principal balances of $43 million. The Corporation recorded impairment net charge-offs of $2 million for the year ended December 31, 2011, utilizing Level 3 inputs. Additionally, during 2011, the Corporation transferred loans with a principal balance and an estimated fair value, less costs to sell, of $140,000 to other real estate owned. Impaired assets are valued utilizing current appraisals adjusted downward by management, as necessary, for changes in relevant valuation factors subsequent to the appraisal date.

Note 20  Fair value of financial instruments
The fair value of financial instruments is the amount at which an asset or obligation could be exchanged in a current transaction between willing parties, other than in a forced liquidation. Fair value estimates are made at a specific point in time based on the type of financial instrument and relevant market information.
Because no quoted market price exists for a significant portion of the Corporation’s financial instruments, the fair values of such financial instruments are derived based on the amount and timing of future cash flows, estimated discount rates, as well as management’s best judgment with respect to current economic conditions. Many of these estimates involve uncertainties and matters of significant judgment and cannot be determined with precision.
The fair value information provided is indicative of the estimated fair values of those financial instruments and should not be interpreted as an estimate of the fair market value of the Corporation taken as a whole. The disclosures do not address the value of recognized and unrecognized nonfinancial assets and liabilities or the value of future anticipated business. In addition, tax implications related to the realization of the unrealized gains and losses could have a substantial impact on these fair value estimates and have not been incorporated into any of the estimates.
The following methods and assumptions were used to estimate the fair values of significant financial instruments at December 31, 2011 and 2010.
Cash, short-term investments and interest-bearing deposits with banks
These financial instruments have relatively short maturities or no defined maturities but are payable on demand, with little or no credit risk. For these instruments, the carrying amounts represent a reasonable estimate of fair value.
Investment securities
Investment securities are reported at their fair values based on prices obtained from a nationally recognized pricing service, where available. Otherwise, fair value measurements are obtained from various sources including dealer quotes, matrix pricing, market spreads, live trading levels, credit information and the bond’s terms and conditions, among other things. Management reviews all prices obtained for reasonableness on a quarterly basis.

61


Loans
Fair values were estimated for performing loans by discounting the future cash flows using market discount rates that reflect the credit and interest-rate risk inherent in the loans, reduced by the allowance for loan losses. This method of estimating fair value does not incorporate the exit price concept of fair value prescribed by the FASB ASC Topic for Fair Value Measuring and Disclosure.
Loans held for sale
The fair value for loans held for sale is based on estimated secondary market prices.
Deposit liabilities
The fair values of demand deposits, savings deposits and money market accounts were the amounts payable on demand at December 31, 2011 and 2010. The fair value of time deposits was based on the discounted value of contractual cash flows. The discount rate was estimated utilizing the rates currently offered for deposits of similar remaining maturities.
These fair values do not include the value of core deposit relationships that comprise a significant portion of the Bank’s deposit base. Management believes that the Bank’s core deposit relationships provide a relatively stable, low-cost funding source that has a substantial value separate from the deposit balances.
Short-term borrowings
For such short-term borrowings, the carrying amount was considered to be a reasonable estimate of fair value.
Long-term debt
The fair value of long-term debt was estimated based on rates currently available to the Corporation for debt with similar terms and remaining maturities.
Commitments to extend credit and letters of credit
The estimated fair value of financial instruments with off-balance sheet risk is not significant at December 31, 2011 and 2010.
The following table presents the carrying amounts and fair values of financial instruments at December 31.

 
2011
 
2010
In thousands
Carrying
Value
 
Fair
Value
 
Carrying
Value
 
Fair
Value
Financial assets
 
 
 
 
 
 
 
Cash and other short-term Investments
$
38,560

 
$
38,560

 
$
20,778

 
$
20,778

Interest-bearing deposits with banks
1,940

 
1,940

 
3,289

 
3,289

Investment securities AFS
95,058

 
95,058

 
105,420

 
105,420

Loans
208,715

 
203,084

 
244,955

 
239,242

Financial liabilities
 
 
 
 
 
 
 
Deposits
299,271

 
289,043

 
338,551

 
331,434

Long-term debt
19,200

 
20,436

 
19,200

 
19,631


Note 21   Commitments and contingencies
In the normal course of business, the Corporation or its subsidiary may, from time to time, be party to various legal proceedings relating to the conduct of its business. In the opinion of management, the consolidated financial statements will not be materially affected by the outcome of any pending legal proceedings.
At December 31, 2011, the Bank was obligated under a number of noncancelable leases for premises and equipment, many of which provide for increased rentals based upon increases in real estate taxes and cost of living. These leases, most of which have renewal provisions, are considered operating leases. Minimum rentals under the terms of these leases for the years 2012 through 2016 are $324,000, $321,000, $329,000, $50,000, and $0, respectively.
Rental expense under the leases amount to $372,000, $817,000 and $587,000 during 2011, 2010 and 2009, respectively. 2010 included a $115,000 settlement payment for the early termination of a leased property that was never occupied and an $85,000 charge for early termination of lease agreements of two closed branches.

Note 22   Financial instruments with off-balance sheet risk
The Bank is party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include lines of credit, commitments to extend credit, standby letters of credit, and could involve, to varying degrees, elements of credit risk in excess of the amounts recognized in the consolidated financial statements.
The Bank’s exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments

62


to extend credit and standby letters of credit is represented by the contractual amounts of those instruments. The Bank uses the same credit policies in making commitments and conditional obligations as it does for on-balance sheet instruments with credit risk.
Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require the payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The Bank evaluates each customer’s creditworthiness on a case-by-case basis, and the amount of collateral or other security obtained is based on management’s credit evaluation of the customer.
Standby letters of credit are conditional commitments issued by the Bank to guarantee the performance of a customer to a third party. These guarantees are primarily issued to support borrowing arrangements and extend for up to one year. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. Accordingly, collateral is generally required to support the commitment.
At December 31, 2011 and 2010, the Bank had available mortgage commitments of $1.6 million and $23.1 million, unused commercial lines of credit of $8 million and $4 million, and $1.3 million and $1 million of other loan commitments, respectively. There were $23,000 of financial standby letters of credit outstanding at December 31, 2011 and $34,000 at December 31, 2010. The decline in commitments occurred because the Corporation originated very few loans during 2011 and concurrently allowed most commercial mortgage commitments to expire.

Note 23   Parent company information
Condensed financial statements of the parent company only are presented below.
Condensed Balance Sheet
 
December 31,
In thousands
2011
 
2010
Assets
 
 
 
Cash and cash equivalents
$
28

 
$
33

Investment in subsidiary
28,834

 
32,180

Due from subsidiary
598

 
826

Other assets
185

 
5

Total assets
$
29,645

 
$
33,044

Liabilities and stockholders’ equity
 
 
 
Other liabilities
$
550

 
$
824

Notes payable
5,200

 
5,200

Subordinated debt
4,124

 
4,124

Total liabilities
9,874

 
10,148

Stockholders’ equity
19,771

 
22,896

Total liabilities and stockholders’ equity
$
29,645

 
$
33,044


Condensed Statement of Operations


63


 
Year Ended December 31,
In thousands
2011
 
2010
 
2009
Income
 
 
 
 
 
Interest income
$

 
$

 
$
1

Other operating income
100

 
1,100

 
78

Dividends from subsidiaries

 

 
687

Interest from subsidiaries
49

 
288

 
361

Total income
149

 
1,388

 
1,127

Expenses
 
 
 
 
 
Interest expense
399

 
406

 
439

Other operating expenses
2

 
2

 
3

Income tax (benefit) expense
(84
)
 
358

 
15

Total expenses
317

 
766

 
457

(Loss) income before equity in undis-
tributed (loss) income of
subsidiaries
(168
)
 
622

 
670

Equity in undistributed (loss) of subsidiaries
(3,509
)
 
(8,079
)
 
(8,492
)
Net loss
$
(3,677
)
 
$
(7,457
)
 
$
(7,822
)



















Condensed Statement of Cash Flows


64


 
Year Ended December 31,
In thousands
2011
 
2010
 
2009
Operating activities
 
 
 
 
 
Net loss
$
(3,677
)
 
$
(7,457
)
 
$
(7,822
)
Adjustments to reconcile net income
to cash used in operating activities:
 
 
 
 
 
Equity in undistributed loss of subsidiaries
3,509

 
8,079

 
8,492

(Increase) decrease in other assets
(180
)
 
188

 
306

(Decrease) increase in other liabilities
(274
)
 
360

 
(77
)
Net cash (used in) provided by operating activities
(622
)
 
1,170

 
899

Investing activities
 
 
 
 
 
Decrease (increase) in investment in
subsidiaries
387

 
(4,721
)
 
(8,925
)
Decrease in loans to
subsidiaries
228

 
4,174

 
75

Net cash provided by (used in) investing
activities
615

 
(547
)
 
(8,850
)
Financing activities
 
 
 
 
 
Decrease in notes payable

 
(100
)
 
(100
)
Proceeds from issuance of preferred stock

 

 
9,439

Issuance (purchases) of treasury stock
2

 

 
(3
)
Dividends paid

 
(490
)
 
(1,417
)
Net cash provided by (used in) financing activities
2

 
(590
)
 
7,919

(Decrease) increase in cash and
cash equivalents
(5
)
 
33

 
(32
)
Cash and cash equivalents at
beginning of year
33

 

 
32

Cash and cash equivalents at
end of year
$
28

 
$
33

 
$


Note 24   Regulatory capital requirements
FDIC regulations require banks to maintain minimum levels of regulatory capital. Under the regulations in effect at December 31, 2011, the Bank was required to maintain (i) a minimum leverage ratio of Tier 1 capital to total average assets of 4.0%, and (ii) minimum ratios of Tier I and total capital to risk-adjusted assets of 4.0% and 8.0%, respectively.
Under its prompt corrective action regulations, the FDIC is required to take certain supervisory actions (and may take additional discretionary actions) with respect to an undercapitalized bank. Such actions could have a direct material effect on such bank’s financial statements. The regulations establish a framework for the classification of banks into five categories: well-capitalized, adequately capitalized, undercapitalized, significantly undercapitalized and critically undercapitalized. Generally, a bank is considered well-capitalized if it has a leverage capital ratio of at least 5.0%, a Tier 1 risk-based capital ratio of at least 6.0% and a total risk-based capital ratio of at least 10.0%.
The foregoing capital ratios are based in part on specific quantitative measures of assets, liabilities and certain off-balance sheet items as calculated under regulatory accounting practices. Capital amounts and classifications are also subject to qualitative judgments by the FDIC about capital components, risk adjustments and other factors.
The Bank was subject to the Formal Agreement with the OCC which required, among other things, the enhancement and implementation of certain programs to reduce the Bank’s credit risk, along with the development of a capital and profit plan, the development of a contingency funding plan and the correction of deficiencies in the Bank’s loan administration. The Bank failed to comply with certain provisions of the Formal Agreement; and failed to comply with the higher leverage ratio of 8%, required to be maintained.
Due to the Bank’s condition, the OCC has required that the Bank enter into the Consent Order of December 22, 2010 with the OCC, which contains a list of requirements. The Consent Order supersedes and replaces the Formal Agreement. The Consent Order is summarized in Note 2. The Consent Order among other things requires that by March 31, 2011, and thereafter, the Bank must maintain total capital at least equal to 13% of risk-weighted assets and Tier 1 capital at least equal to 9% of adjusted total assets. This requirement means that the Bank is not considered “well-capitalized” as otherwise defined in applicable regulations.
The following is a summary of City National Bank of New Jersey’s actual capital amounts and ratios as of December 31, 2011 and 2010, compared to the FDIC minimum capital adequacy requirements and the FDIC requirements for classification as a well-capitalized Bank:

65



In thousands
FDIC Requirements
Minimum Capital For Classification
 
 
 
Bank Actual
Amount Ratio
 
Adequacy
Amount Ratio
 
Well-Capitalized
Amount Ratio
December 31, 2011
 
 
 
 
 
 
 
 
 
 
 
Leverage (Tier 1)
capital
$
28,295

 
7.94
%
 
$
14,249

 
4.00
%
 
$
17,811

 
5.00
%
Risk-based capital:
 
 
 
 
 
 
 
 
 
 
 
Tier 1
28,295

 
11.37

 
9,951

 
4.00

 
14,927

 
6.00

Total
31,501

 
12.66

 
19,902

 
8.00

 
24,878

 
10.00

December 31, 2010
 
 
 
 
 
 
 
 
 
 
 
Leverage (Tier 1)
capital
$
31,775

 
7.45
%
 
$
17,061

 
4.00
%
 
$
21,326

 
5.00
%
Risk-based capital:
 
 
 
 
 
 
 
 
 
 
 
Tier 1
31,775

 
11.21

 
11,339

 
4.00

 
17,009

 
6.00

Total
35,407

 
12.49

 
22,679

 
8.00

 
28,349

 
10.00


The Corporation was required to deconsolidate its investment in the subsidiary trust formed in connection with the issuance of trust preferred securities in 2004. In July 2003, the Board of Governors of the Federal Reserve System instructed bank holding companies to continue to include the trust preferred securities in their Tier 1 capital for regulatory capital purposes until notice is given to the contrary. There can be no assurance that the Federal Reserve will continue to allow institutions to include trust preferred securities in Tier 1 capital for regulatory capital purposes.
The deconsolidation of the subsidiary trust results in the Corporation reporting on its balance sheet the subordinated debentures that have been issued from City National Bancshares Corporation to the subsidiary trust.

Note 25   Summary of quarterly financial information

(unaudited)
2011
Dollars in thousands,
except per share data
First
Quarter
 
Second
Quarter
 
Third
Quarter
 
Fourth
Quarter
Interest income
$
4,076

 
$
4,057

 
$
3,729

 
$
3,562

Interest expense
1,321

 
1,275

 
1,228

 
1,140

Net interest income
2,755

 
2,782

 
2,501

 
2,422

Provision for loan losses
1,200

 
814

 
500

 
500

Net gains on secu-
rities transactions

 

 

 
989

Other operating income
637

 
618

 
645

 
1,131

Other operating expenses
3,735

 
3,684

 
3,963

 
3,688

Net income (loss) before income
tax expense
(1,543
)
 
(1,098
)
 
(1,317
)
 
354

Income tax expense
12

 
19

 
25

 
17

Net income (loss)
$
(1,555
)
 
$
(1,117
)
 
$
(1,342
)
 
$
337

Net income (loss) per share-
basic
$
(12.80
)
 
$
(9.48
)
 
$
(11.20
)
 
$
0.88

Net income (loss) per share-
diluted
$
(12.80
)
 
$
(9.48
)
 
$
(11.20
)
 
$
0.88



66


(unaudited)
2010
Dollars in thousands,
except per share data
First
Quarter
 
Second
Quarter
 
Third
Quarter
 
Fourth
Quarter
Interest income
$
5,522

 
$
5,273

 
$
4,864

 
$
4,575

Interest expense
1,998

 
1,895

 
1,839

 
1,675

Net interest income
3,524

 
3,378

 
3,025

 
2,900

Provision for loan losses
1,381

 
1,010

 
2,825

 
4,271

Net gains (losses) on secu-
rities transactions
1

 
528

 
137

 
1,414

Net impairment losses on
securities


 


 


 


Other operating income
690

 
1,644

 
577

 
626

Other operating expenses
3,523

 
3,665

 
4,184

 
4,683

Income (loss) before income
tax expense
(689
)
 
875

 
(3,270
)
 
(4,013
)
Income tax expense (benefit)
15

 
53

 
74

 
218

Net income (loss)
$
(704
)
 
$
822

 
$
(3,344
)
 
$
(4,231
)
Net income (loss) per share-
basic
$
(6.72
)
 
$
5.32

 
$
(26.43
)
 
$
(33.17
)
Net income (loss) per share-
diluted
$
(6.72
)
 
$
5.32

 
$
(26.43
)
 
$
(33.17
)

Basic net income per common share is calculated by dividing net income less dividends on preferred stock by the weighted average number of common shares outstanding. On a diluted basis, both net income and common shares outstanding are adjusted to assume the conversion of the preferred stock if conversion is deemed dilutive. For all periods presented, the assumption of the conversion would have been antidilutive.

Note 26   Subsequent events
In February 2012, City National Bancshares Corporation deferred the payment of its regular quarterly cash dividend of $117,987 on its Series G fixed-rate cumulative perpetual preferred stock issued to the U.S. Treasury in connection with the Corporation’s participation in the Treasury’s TARP Capital Purchase Program.
In addition, the Corporation deferred its regularly scheduled quarterly interest payment of $31,751 on its junior subordinated debentures issued by the City National Bank of New Jersey Capital Statutory Trust II.
The Series G preferred stock and the junior subordinated debentures issued in favor of the Trust provide for cumulative dividends and interest, respectively. Accordingly, the Corporation may not pay dividends on any of its common or preferred stock until the dividends on Series G preferred stock and the interest on such debentures are paid-up currently. Accordingly, dividends on the remaining series of preferred stock that were payable in February 2012 were not paid.


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Report of Independent Registered Public Accounting Firm
The Board of Directors and Stockholders
City National Bancshares Corporation:
We have audited the accompanying consolidated balance sheets of City National Bancshares Corporation and subsidiary (the Company) as of December 31, 2011 and 2010, and the related consolidated statements of operations, stockholders’ equity, and cash flows for each of the years in the three-year period ended December 31, 2011. These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with auditing standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of City National Bancshares Corporation and subsidiary as of December 31, 2011 and 2010, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 2011 in conformity with U.S. generally accepted accounting principles.
The accompanying consolidated financial statements have been prepared assuming that the Company will continue as a going concern. As discussed in note 2 to the consolidated financial statements, the Company has suffered recurring losses from operations and has entered into a consent order with the Office of the Comptroller of the Currency that raise substantial doubt about its ability to continue as a going concern. Management’s plans in regard to these matters are also described in note 2. The consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty.
/s/ KPMG LLP
Short Hills, New Jersey
May 25, 2012


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Item 9.
Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
There were no changes in or disagreements with accountants during 2011.

Item 9a.
Controls and Procedures
(a) Disclosure Controls and Procedures. The Corporation’s management, with the participation of the Corporation’s Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of the Corporation’s disclosure controls and procedures (as such term is defined in Rules 13a – 13(e) and 15(d) – 15(e) under the Exchange Act) as of the end of the period covered by this Report. The Corporation’s disclosure controls and procedures are designed to provide reasonable assurance that information is recorded, processed, summarized and reported accurately and on a timely basis in the Corporation’s periodic reports filed with the SEC. Based upon such evaluation, the Corporation’s Chief Executive Officer and Chief Financial Officer have concluded that, as of the end of such period, the Corporation’s disclosure controls and procedures are effective to provide reasonable assurance. Notwithstanding the foregoing, a control system, no matter how well designed and operated, can provide only reasonable, not absolute assurance that it will detect or uncover failures within the Corporation to disclose material information otherwise required to be set forth in the Corporation’s periodic reports.
(b) Changes in Internal Controls over Financial Reporting. There were no changes in our internal controls over financial reporting during the fourth fiscal quarter of 2011 that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting, except that we continued to implement the changes mandated by the Consent Order with the OCC.
(c)Management’s Report on Internal Control Over Financial Reporting. Management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Exchange Act Rule 13a-15(f) under the Securities Exchange Act of 1934. Under the supervision and with the participation of the principal executive officer and the principal financial officer, management has conducted an evaluation of the effectiveness of the Corporation’s control over financial reporting based on the framework in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”). Based on the evaluation under the framework, management has concluded that as of December 31, 2011, due to continued errors in the impairment analyses performed for the ALLL calculation, the failure of management to review at a level of precision to identify misstatements in the allowance calculation, and management’s failure to comply with articles in the Consent Order surrounding the allowance for loan losses, a material weakness exists in the preparation and review of the allowance for loan loss calculation.
Additionally, a material weakness was identified related to financial reporting due to the failure of management to review at a level of precision to identify misstatements in the financial statements and related footnote disclosures.
This annual report does not include an attestation report of the Corporation’s registered public accounting firm regarding internal control over financial reporting. Management’s report was not subject to attestation by the Corporation’s registered public accounting firm pursuant to temporary rules of the Securities Exchange Commission that permit the Corporation to provide only management’s report in this annual report.

Item  9B.  Other Information
(a) Defaults Upon Senior Securities
Since the first quarter of 2010, City National Bancshares Corporation has deferred the payment of its regular quarterly cash dividends in the amount of $117,987 on its Series G fixed-rate cumulative perpetual preferred stock issued to the U.S. Treasury in connection with the Corporation’s participation in the Treasury’s TARP Capital Purchase Program. As of the end of 2011, an aggregate of $943,900 in its Series G dividends had been deferred. The Corporation has also deferred its regularly scheduled quarterly interest payments on its junior subordinated debentures issued by the City National Bank of New Jersey Capital Statutory Trust II (the “Trust”), as permitted by the terms of such debentures. As of the last day of 2011, a total of $252,818 in interest under such debentures were deferred.
In addition, dividends on all other series of the Corporation’s preferred stock were deferred in the amounts set forth below, as payments of such dividends are not permitted while the Series G Preferred is outstanding, without the consent of the holder of the Series G Preferred.


69


Series
Total Deferred through December 31,2011

A
$
12,000

C
2,160

D
53,300

E
147,000

F
1,194,550


(b) Departure of Executive Officer
On March 1, 2011, Louis E. Prezeau retired as President and CEO.

Part III

Item 10.  Directors, Executive Officers and Corporate Governance

Name of Director
Age
Director
Since
Term Ends
Principal Occupations
Alfonso L. Carney, Jr.
63
2010
2013
Chairman of the Board, Dormitory Authority of the State of New York and New Jersey; Principal, Rockwood Partners, LLC (providers of medical and legal consulting services)
Eugene Giscombe
71
1991
2014
President, Giscombe Realty, LLC (real estate brokerage, leasing and management firm); President, 103 East 125th Street Corporation (real estate holding company)
Preston D. Pinkett, III
49
2010
2012
President and Chief Executive Officer, City National Bank of New Jersey and City National Bancshares Corporation (effective March 1, 2011)
Louis E. Prezeau
69
1989
2014
Retired President and Chief Executive Officer, City National Bank of New Jersey and City National Bancshares Corporation
Lemar C. Whigham
68
1989
2013
President, L & W Enterprises (vending machine operations)
H. O'Neil Williams
65
2009
2012
Retired Managing Partner, Mitchell & Titus, LLP (CPA Firm)

Alfonso L. Carney, Jr. has been Chairman of the Dormitory Authority of the State New York (DASNY) which provides low-cost capital financing and manages public construction projects since May 2009. Mr. Carney is also a member of the Water Board of the City of New York. Since 2005, Mr. Carney has also been a principal in Rockwood Partners LLC, a medical and legal consulting firm. For the prior 30 years, he held senior legal and executive positions at major organizations and their affiliates, including Goldman Sachs Foundation, Altria Group, Inc., Philip Morris Companies, and Kraft Foods. From 2008 to the present, Mr. Carney has served as a trustee of Trinity College, Riverdale Country School, the University of Virginia School of Law Foundation, The Thomas Jefferson Foundation, and Veritas, Inc. He is an attorney with broad experience in the fields of corporate governance, social responsibility, compliance, technology and government relations, which are qualifications that make him desirable for Board membership.
Eugene Giscombe has been President of Giscombe Realty Group, LLC, a commercial real estate brokerage, leasing and management firm located in New York City since 1972, as well as President of 103 East 125th Street Corporation, a commercial real estate holding company also located in New York City since 1979, and a member of TAP TAP LLC, a commercial real estate holding company also located in New York City. Mr. Giscombe's firm has provided real estate services to major banks and insurance companies for a period of 38 years. Mr. Giscombe currently serves as a director of the YMCA of Greater New York, Greater Harlem Nursing Home and formerly chaired the 125th Street Business Improvement District. Mr. Giscombe has served on several committees of the Real Estate Board of New York Inc. Mr. Giscombe's extensive experience in commercial real estate in the Bank's market area provides extensive insight into the management of the Bank's commercial real estate loan portfolio. Mr. Giscombe has been Chairman of our Board of Directors since May 1997.

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Preston D. Pinkett, III has been serving as the President and Chief Executive Officer of the Bank and the Corporation since March 1, 2011. Prior to his employment at the Bank he was a Vice President at Prudential Financial Corporation since September 2007. Prior to his employment at Prudential, Mr. Pinkett had been the Senior Vice President at New Jersey Economic Development Authority (“NJEDA”) from 2003 to 2007. Prior to his employment at the NJEDA, Mr. Pinkett served as a Senior Vice President of PNC Bank where he managed a network of retail branches serving disinvested neighborhoods throughout New Jersey and Pennsylvania from 1995 to 2003. Prior to his employment at PNC Bank, Mr. Pinkett served as Senior Vice President of Chemical Bank, New Jersey, where he managed its community development activities within New Jersey from 1988 to 1995. Mr. Pinkett also serves on the board of University Ventures, Inc. a specialized small business investment company, Montclair State University, the National Bankers Association, Global Impact Investment Network, Gate Impact, LLC and Cityworks. He also services as Vice Chairperson of the Geraldine R. Dodge Foundation. Mr. Pinkett has developed a strong reputation as a creative, socially-conscious lender in many of the same communities currently served by the Bank, which are qualifications that make him desirable for Board membership.

Louis E. Prezeau has been the President and Chief Executive Officer of the Corporation and the Bank, serving in those capacities since 1989 until his retirement, effective March 1, 2011. He also serves on the boards of the Bank and the Corporation and boards of several nonprofit organizations located in the Bank's market area. Mr. Prezeau's direct experience in managing the operations and employees of the Bank provides the Board of Directors with insight into its operations, and his position on the Board of Directors provides a clear and direct channel of communication from senior management to the full Board and alignment on corporate strategy.

Lemar C. Whigham has been Secretary of the Board of the Corporation and the Bank, serving in this capacity since 1989. Mr. Whigham has also been President and owner of L&W Enterprises since May 1992, a company that places vending machines in small businesses in Newark, New Jersey, and surrounding areas, where Mr. Whigham has significant community ties near the Bank's locations. He was also the Chairman and Commissioner of the Parking Authority of the City of Newark, New Jersey from 2004 to 2008. Mr. Whigham has also been a New Jersey licensed funeral director since 1967. This knowledge provides him with valuable insights, particularly into portfolio loans and customer relationships in the Newark area. He is also the son of the founder of the Bank.
H. O'Neil Williams was a managing partner with the CPA firm of Mitchell & Titus, a member firm of Ernst & Young Global Limited, from 1981 until 2010. He is a CPA with over 35 years of diversified auditing and financial accounting experience with extensive insight into the financial aspects of the financial services industry. He currently serves as a trustee of on the New Jersey Teachers Pension and annuity Fund and on the board of the Cerebral Palsy of New Jersey. Mr. Williams has been designated as our audit committee “financial expert.”
Executive Officers
Listed below is certain information concerning the current executive officers of the Corporation.

Name
Age
In Office
Since
Office and Business Experience
Preston D. Pinkett III
49
2011
President and Chief Executive Officer, City National Bancshares Corporation and City National Bank of New Jersey
Edward R. Wright
66
1994
Senior Vice President and Chief Financial Officer, City National Bancshares Corporation and City National Bank of New Jersey; Partner, Tap Tap LLC and Tap Tap Investments; 1978-1994, Executive Vice President and Chief Financial Officer, Rock Financial Corporation
Raul Oseguera
46
1990
Senior Vice President, City National Bank of New Jersey; Assistant Secretary, City National Bancshares Corporation
Walter T. Bond
54
11/2011
Senior Vice President and Chief Administration Officer, City National Bank of New Jersey; 2002-2011, Manager, The Bond Consulting Group
Carlton R. West
49
10/2011
Senior Vice President and Chief Information Officer, City National Bank of New Jersey; 2010-2011, Manager, New Trend Consulting; 2008-2010, Senior Vice President and Chief Information and Operations Officer, Orion Bank; 2005-2008, Chief Information Officer, Boca Developers/In Touch Communications
Corporate Governance

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General
Our business and affairs are managed under the direction of the Board of Directors. Board members are kept informed of our business by participating in meetings of the Board and its committees and through discussions with corporate officers. All members also served as members of our subsidiary bank, City National Bank of New Jersey, during 2011. It is our policy that all directors attend the annual meeting, absent extenuating circumstances. All members of the Board attended the 2011 annual meeting.
Meetings of the Board of Directors and Committees
During 2011, the Board of Directors held ten meetings. A quorum was present at all meetings and no director attended fewer than 75% of the meetings held by the Board and committees of which such director was a member.
All of our directors are also directors of the Bank. Regular meetings of our and the Bank's Boards of Directors are held monthly. Additional meetings are held when deemed necessary. In addition to meeting as a group to review our business, certain members of the Board also serve on certain standing committees of the Bank's Board of Directors. These committees, which are described below, serve similar functions for the Corporation.
Because of the relatively small size of our Board, there is no standing Nominating Committee or nominating committee charter. The individual members of the entire Board, exclusive of interested directors, make the specific recommendations for Board nominees. Qualifications for prospective directors are reviewed by the entire Board. Messrs. Prezeau and Pinkett would not be considered independent under relevant SEC and NASDAQ rules.
The Board has not formulated specific criteria for nominees, but it considers qualifications that include, but are not limited to, ability to serve, conflicts of interest, and other relevant factors. In consideration of the fiduciary requirements of a Board member, and our relationship and our subsidiaries' relationship to the communities they serve, the Committee places emphasis on character, ethics, financial stability, business acumen, and community involvement among other criteria it may consider. In addition, as a bank holding company, we are regulated by the Federal Reserve Board (“FRB”) and the Bank, as a national banking association, is regulated by the Office of the Comptroller of the Currency (“OCC”). Directors and director-nominees are subject to various laws and regulations pertaining to bank holding companies and national banks, including a minimum stock ownership requirement. The Board may consider recommendations from shareholders nominated in accordance with our bylaws by submitting such nominations to the President of the Corporation and the Bank, the Office of the Comptroller of the Currency and the Federal Reserve. For additional information regarding the requirements for shareholder nominations of director nominees, see the Corporation's by-laws, copies of which are available upon request. We have not paid a third party to assist in identifying, evaluating, or otherwise assisting in the nomination process. The Board of Directors does not have a policy regarding diversity in identifying nominees for director.
The Audit and Examining Committee reviews significant auditing and accounting matters, the adequacy of the system of internal controls and examination reports of the internal auditor, regulatory agencies and independent public accountants. Messrs. Carney, Williams and Whigham currently serve as members of the Committee. Ms. Barbara Bell Coleman served on the Committee in 2011 until her resignation on June 30, 2011. Mr. Williams serves as Chairperson of the Committee. All directors currently on the Audit and Examining Committee are and Ms. Coleman was considered independent under SEC and NASDAQ rules applicable to audit committees. Mr. Williams is our audit committee financial expert. The Committee met four times during 2011.
The Audit and Examining Committee operates pursuant to a charter, which gives the Committee the authority and responsibility for the appointment, retention, compensation and oversight of the Corporation's independent registered public accounting firm, including pre-approval of all audit and non-audit services to be performed by our independent registered public accounting firm (See “Item 14 Principal Accountant Fees and Services”). The Audit and Examining Committee acts as an intermediary between the independent auditor and the Corporation and reviews the reports of the independent auditor. A copy of the charter may be accessed on our website located at www.citynatbank.com by clicking on the “Security & Disclosures” link at the bottom of the web site.
The Loan and Discount Committee reviews all (a) loan policy changes, (b) requests for policy exceptions, and (c) loans approved by management. Messrs. Carney, Pinkett, Prezeau, Williams, and Whigham currently serve as members of the Committee. Mr. Giscombe serves as Chairperson of this Committee. The Committee met 12 times during 2011. Ms. Coleman served on the Committee in 2011 until her resignation on June 30, 2011.
The Investment Committee reviews overall interest rate risk management and all investment policy changes, along with purchases and sales of investments. Messrs. Carney, Pinkett, Prezeau and Williams currently serve as members of this Committee. Mr. Prezeau serves as Chairperson of this Committee. The Committee met four times during 2011.
The Personnel/Director and Management Review Committee oversees personnel matters and reviews director and executive

72


officer compensation, and serves as the “Compensation Committee.” Messrs. Carney and Williams currently serve as members of the Committee. Mr. Carney serves as Chairperson of the Committee. Ms. Coleman served as Chairperson of the Committee in 2011 until her resignation on June 30, 2011. This Committee addresses issues related to attracting, retaining, and measuring employee performance. The Committee recommends to the Board of Directors the annual salary levels and any bonuses to be paid to all Corporation and Bank executive officers. The Committee also makes recommendations regarding other compensation related matters. The Committee has not delegated this authority. The Committee has not historically engaged consultants, although the Committee continued its 2010 engagement of the services of an independent executive compensation consultant, I.F.M. Group, Inc., to assist it in carrying out certain responsibilities with respect to executive and employee compensation. Such consultant has provided no other services. In addition, the Committee requested Sandler O'Neil Partners, who has been engaged to assist us with matters relating to capital raising, to provide assistance in valuing shares of our common stock that are being issued to Mr. Pinkett pursuant to his November 2011 employment agreement. The Committee has a charter, which may be accessed on our website located at www.citynatbank.com by clicking on the “Security & Disclosures” link at the bottom of the web site.
The executive officers do not play a role in the compensation process, except for the former chief executive officer Mr. Prezeau, who during his tenure in office presented information regarding the other executive officers to the Committee for its consideration, but he was not present while the Committee deliberated on his compensation package. All members of the Committee are independent (and Ms. Coleman was independent when she served) under NASDAQ independence standards. The Committee met four times during 2011. See “Item 11 Executive Compensation-- Compensation Discussion and Analysis” for more information regarding the role of this Committee. Notwithstanding the foregoing, for purposes of making the assessments and reviews required to comply with TARP (as defined below), the entire Board carries out the duties and functions of a compensation committee under TARP.
The Compliance Committee was formed as a result of the Formal Agreement, dated June 29, 2009 (the “Agreement”), between the OCC and the Bank, to oversee compliance with the terms of the Agreement and the Consent Order, dated December 22, 2010, between the OCC and the Bank. The entire Board serves as the Compliance Committee. Ms. Coleman served on the Committee in 2011 until her resignation from the Board. Director Williams chairs this Committee. The Committee held eighteen meetings during 2011.
As Chairman of the Board, Mr. Giscombe currently serves on all committees, with the exception of the Audit and Examining Committee.
Separation of Roles of Chairman and CEO
Mr. Giscombe serves as the Chairman of our Board of Directors and Mr. Prezeau served as Chief Executive Officer until March 1, 2011 and Mr. Pinkett began service as Chief Executive Officer thereafter. We believe the separation of offices is beneficial because a separate chairman (i) can provide the Chief Executive Officer with guidance and feedback on his performance; (ii) provides a more effective channel for the Board of Directors to express its view on management; and (iii) allows the Chairman to focus on stockholder interest and corporate governance while the Chief Executive Officer manages our operations.
Board's Role in Risk Assessment
The Board of Directors is actively involved in oversight of risks that could affect the Corporation and the Bank. This oversight is conducted in part through committees of the Board of Directors, but the full Board of Directors has retained responsibility for general oversight of risks. The Board of Directors satisfies this responsibility through oral and written reports by each committee regarding its considerations and actions, as well as through oral and written reports directly from officers responsible for oversight of particular risks. Further, the Board of Directors oversees risks through the establishment of policies and procedures that are designed to guide daily operations in a manner consistent with applicable laws, regulations and risks acceptable to the Corporation and the Bank.
Code of Ethics and Conduct
The Corporation has adopted a Code of Ethics and Conduct which applies to all our officers and employees. Interested parties may obtain a copy of such Code of Ethics and Conduct, without charge, by written request to the Corporation c/o Assistant Secretary, City National Bank of New Jersey, 900 Broad Street, Newark, New Jersey 07102.
Section 16(A) Beneficial Ownership Reporting Compliance
Section 16(a) of the Securities Exchange Act of 1934, as amended, requires our executive officers and directors, and any persons owning ten percent or more of our common stock, to file in their personal capacities initial statements of beneficial ownership, statements of changes in beneficial ownership and annual statements of beneficial ownership with the SEC. Copies of all filed

73


reports are required to be furnished to us pursuant to Section 16(a). Based solely on the reports received by us and on written representations from reporting persons, we believe that our executive officers and directors, and any persons owning ten percent or more of our common stock complied with all Section 16(a) filing requirements during the year ended December 31, 2011, with the exception that (i) a Form 4 was not timely filed with respect to one transaction for Mr. Carney, (ii) separate Form 4s were not timely filed with respect to Mr. Pinkett's acquisition of 667 shares in connection with his initial employment agreement and 20,000 shares (which will vest ratably during the term of his current employment agreement) in connection with his current employment agreement, and (iii) separate Form 3s were not timely filed with respect to Messrs. Bond and West's employment as senior executive officers.


74


Item 11.  Executive Compensation

Compensation Discussion and Analysis
The Board of Directors, through its Personnel/Director and Management Review Committee, is responsible for establishing and monitoring compensation levels. The primary factors that affect compensation are our operating results, the individual's job performance and peer group compensation comparisons. The key components of executive compensation are base salary and annual bonuses, which are performance based, and retirement and welfare benefits, which are non-performance based. The Committee monitors the results of the annual advisory “say-on-pay” proposal and incorporates such results as one of many factors considered in connection with the discharge of its responsibilities, although no such factor is assigned a quantitative weighting. Because a substantial majority (99.2%) of our stockholders approved the compensation program described in our proxy statement in 2011, the Committee did not implement changes to our executive compensation program as a result of the stockholder advisory vote.
Salary
The primary factors that affect the compensation of Messrs. Pinkett, Prezeau, Wright and Oseguera (the “named executive officers”) are the responsibilities of the position, the individual's job performance, our operating results and peer group compensation comparisons. Salary levels are reviewed annually and adjustments are made in the year following the year being reviewed.
Cash Bonus
As a recipient of TARP funds that have not been repaid, the Corporation may no longer pay a bonus to the President and CEO. Cash bonuses for other named executive officers are based on their job performances, the performance of their particular areas of responsibility and the overall performance of the Corporation compared to budgeted projections.
Non-performance Based Compensation Elements
The Corporation maintains a supplemental employee retirement plan (the “SERP”) implemented by salary continuation agreements with all of our named executive officers other than Mr. Pinkett. This provides benefits upon retirement, death and change of control. This part of our compensation package encourages executives to remain employed by us for the long term. However, the SERP was terminated and the accrued benefits frozen as of June 30, 2010. See “Item 11 Executive Compensation-Supplemental Executive Retirement Plan,” below.
TARP/CPP Executive Compensation Compliance and Restrictions
As part of our participation in the Capital Purchase Program (“CPP”) of the Troubled Assets Relief Program (“TARP”) and our acceptance of a $9.4 million investment from the U.S. Treasury Department (“Treasury”) in April 2009, we agreed to adhere to several restrictions relative to compensation for our five senior executive officers (“SEOs”), which include the executives listed in our Summary Compensation Table below during the time in which the Treasury holds any equity or debt securities of the Corporation acquired through the CPP. At the time of our acceptance into the CPP, the restrictions and requirements included:

A provision to recover any bonus or incentive compensation paid to an SEO that was based on financial statements deemed materially inaccurate;

A prohibition on any golden parachute payments to our SEOs;

A prohibition on receiving any tax gross-up from the Corporation or its subsidiaries;

A limitation on the deductibility of compensation to $500,000 (instead of $1,000,000), without exceptions for performance-based compensation; and

A requirement to ensure that our incentive compensation programs are structured to prevent SEOs from taking inappropriate risks that threaten the value of the institution.
At the time that we entered the CPP, our SEOs understood that these restrictions or requirements might change and waived any claim against the United States or us and our subsidiaries for any changes to compensation or benefits that are required to comply with the regulations issued by the Treasury, as published in the Federal Register on October 20, 2008, notwithstanding the terms of his/her employment arrangements with the Corporation or its subsidiaries or other benefit plans, whether or not in writing.
In February 2009, TARP was amended by the American Recovery and Reinvestment Act of 2009 (the “ARRA”). Treasury issued final interim rules on June 15, 2009 to implement the ARRA standards. Such amendments further restrict our ability to pay executive compensation. Specifically, under such prohibitions, since we received less than $25 million of financial assistance,

75


we are prohibited from paying or accruing any bonus, retention award, or incentive compensation to our most highly-compensated employee during the period that we have an outstanding obligation to the Treasury arising from the financial assistance provided under CPP. This restriction continues until repayment of the Treasury's investment. This restriction does not apply to payment of a portion of salary in stock. This restriction also does not apply to our issuance of incentive compensation in the form of restricted stock to our most highly-compensated employee so long as such restricted stock: (i) does not fully vest during the CPP obligation period; (ii) has a value no greater than one-third of the total amount of “annual compensation” of the executive receiving the restricted stock; and (iii) is subject to such other terms as the Treasury determines to be in the public interest. No restricted stock was awarded or issued in 2011 other than as part of salary.
In addition, the new legislation expands the prohibition against paying golden parachute payments by defining a golden parachute payment as any payment to an SEO or any of the next five most highly compensated employees for departure from the Corporation for any reason, except for payments for (a) services performed or benefits accrued, (b) death and disability and/or (c) qualified plans. Accordingly, for as long as we participate in the CPP, our SEOs will not be entitled to any payments upon departure from us other than payments for (i) services performed or which were accrued at the time of departure, (ii) death and disability at the time of such death or disability, and/or (c) pursuant to qualified plans at the time of departure. Regulatory guidance has not yet been issued on the restrictions set forth in the new legislation. Such guidance, when issued, may change the manner in which such restrictions are applied. The Corporation believes this would restrict its ability to make change of control payments under the Director's Retirement Plan (as defined below) with respect to executive officers that are also directors and the SERP.
Pinkett Compensation and Employment Agreement
Effective March 1, 2011, the Bank and the Corporation entered into an employment agreement, as amended (the “Original Agreement”), with Mr. Pinkett to serve as the President and Chief Executive Officer of both entities. The Original Agreement was for a term of six months. Under the Original Agreement, Mr. Pinkett received a salary of $150,000 consisting of $125,000 in cash and 667 shares of the Corporation's common stock, valued at $37.50 per share or $25,000 in the aggregate.
On October 31, 2011, the Bank and the Company entered into a new one year employment agreement (the “Current Agreement”) effective as of November 1, 2011 with Mr. Pinkett to serve as President and Chief Executive Officer at an annual salary of $395,000 per year, consisting of $335,000 in cash and $60,000 in stock (20,000 shares of common stock valued at $3.00 each). Mr. Pinkett is also entitled to a $1,200 per month auto allowance.
In the Current Agreement, Mr. Pinkett has agreed that following (i) voluntary termination by him of his employment for any reason other than as a result of a material breach of his employment agreement by us, (ii) termination of his employment by us for cause, or (iii) expiration of his employment agreement as a result of his failure to accept our offer of a renewal of the employment agreement, he will not compete with us or any of our affiliates for a period of one (1) year following such termination within a 30 mile radius from the Bank's main office located at 900 Broad Street, Newark, New Jersey or within a three mile radius from the location of any branch of the Bank existing as of the date of such termination.
In addition, the Current Agreement provides that its terms are subject to the laws, rules, and guidance of the U.S. Department of Treasury's Troubled Asset Relief (“TARP”) Program Capital Purchase Program and that until we are no longer a participant in and subject to the TARP Capital Purchase Program rules and guidance the Board of Directors of the Bank and CNBC (collectively, the “Board”) can unilaterally and without Mr. Pinkett's consent amend any of the provisions of his Current Agreement, including, but not limited to, reducing the amount of compensation and benefits provided therein, if in the Board's sole judgment the modification is necessary to comply with the mandatory application of the U.S. Department of Treasury's rules and guidance governing executive compensation of participants of the TARP Capital Purchase Program.
In connection with the Original Agreement, Mr. Pinkett was required to execute a waiver, which remains in effect, disclaiming any rights to payment of a bonus as well as any severance or change of control benefits, if any, for as long as the TARP preferred stock is outstanding.
Mr. Pinkett is also entitled to fringe, medical, health and life insurance benefits comparable to those received by other full-time Bank employees. Mr. Pinkett is currently eligible to participate in the Bank's 401(k) plan.
Mr. Prezeau

Prezeau Employment Agreement
On May 18, 2010, the Corporation and Bank entered into an employment agreement with Mr. Prezeau (the “Agreement”) to serve as the President and Chief Executive Officer of both entities. The Agreement was for a term of one year and was scheduled to automatically renew for successive one-year terms unless six months notice was given prior to the expiration of the Agreement. Under the Agreement, Mr. Prezeau was entitled to an annual salary of $268,000, which could be increased annually at the discretion

76


of the Board.
 
Upon termination of the Agreement with or without cause, or upon death or disability, Mr. Prezeau was entitled to receive accrued and unpaid salary and benefits thereunder as of such termination date. In addition, solely upon (a) death while employed, we were required to continue health benefits for Mr. Prezeau's family members for one year after death, and (b) disability, we were required to provide long-term disability benefits for Mr. Prezeau, including an additional long-term disability policy providing a disability benefit of an amount equal to two-thirds of Mr. Prezeau's annual base salary in effect at the time of disability.
 
Mr. Prezeau was also entitled to fringe, medical, health and life insurance benefits, including life insurance for an amount of up to three times his base salary then in effect and a $1,200 per month car allowance.

Mr. Prezeau retired effective as of March 1, 2011.

Prezeau Trust Agreement
In the past, Mr. Prezeau has deferred portions of his salary under a deferred compensation arrangement (often called a “rabbi trust arrangement”) set up by the Corporation.  All deferrals of Mr. Prezeau's salary were deposited by us into a trust (the "Trust") established for Mr. Prezeau's benefit pursuant to an irrevocable trust agreement (the "Trust Agreement”)   The assets of the trust were paid to Mr. Prezeau after termination of his employment.
Messrs. Wright and Oseguera
Other named executive officers are not parties to employment agreements with the Corporation. Messrs. Wright and Oseguera receive annual salaries of $131,500 and $130,000, and monthly automobile allowances of $333 and $250, respectively. The Corporation also makes 401(k) contributions on their behalf. They also receive medical and dental benefits and participate in the SERP.
Supplemental Employee Retirement Plan
Certain executive officers participate in the SERP. Upon reaching normal retirement age of 65 while employed by us (“normal retirement”), executives will receive a lump sum payment based on an annual benefit equal to 40% of the annual base salary received by the executive during the last complete fiscal year of his or her service as an employee (the “normal retirement benefit”) except in the case of Mr. Prezeau, who will receive 60%. If the executive dies while in our active service, the beneficiary of the executive will receive an amount equal to the greater of that part of the normal retirement benefit accrued by us for the executive as of the date of the executive's death or the projected retirement benefit calculated based on the executive's age and other assumptions regarding increases in base salary. This death benefit is payable to the beneficiary in equal monthly installments over 15 years.
If the executive's employment with us is terminated for any reason (other than death) between the age of 60 and 65 (“early retirement”), the executive shall receive the same benefit payable over the same period of time multiplied by a fraction the numerator of which is the executive's years of service prior to termination of employment and the denominator of which is the years of service the executive would have had if the executive's employment terminated when he was 65.
Upon a change in control of the Corporation (which is defined in the SERP as a change in the ownership or effective control of the Corporation, as defined in Internal Revenue Code Section 409A) followed at any time during the succeeding 12 months by a cessation in the executive's employment for reasons other than death, disability or retirement, the executive shall receive (the “change of control benefit”) a lump sum payment equal to the present value of the stream of payments the executive would have received had he qualified for the normal retirement benefit.
If an executive's employment with us is terminated for cause (as defined in the SERP) an executive is not entitled to any benefit under the SERP.
Under the SERP, an executive will receive only one of the normal retirement benefit, the early retirement benefit or the change of control benefit.
Under TARP, certain payments (that relate to unvested benefits to be received such as a result of a change of control) under the SERP are prohibited, see “Item 11 Executive Compensation--TARP/CPP Executive Compensation Compliance and Restrictions”, above. Messrs. Pinkett, Wright and Oseguera have waived any rights to prohibited payments under TARP.
We terminated the SERP as of June 30, 2010, at which time all accrued benefits as of such date were frozen.
Other Benefits and Perquisites

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Executive officers are eligible to participate (as are all officers and employees who meet service requirements under the several plans) in other components of the benefit package described below.

401(k) plan;

Medical and dental health insurance plans; and

Life insurance plans.

We also provide automobile allowances to certain executive officers. No individual named executive officer received a total value of perquisites in excess of $25,000 during 2011. Additional details on perquisites are provided in the Summary Compensation Table included in this Annual Report on Form 10-K. We view certain perquisites as being beneficial to the Corporation and the Bank, in addition to being directly compensatory to the executive officers. In addition, these perquisites, as a minor expense to the Company and the Bank, provide a useful benefit in our efforts to recruit, attract and retain top executive talent.

Executive Compensation Tables

Summary Compensation Table

The following table summarizes compensation in 2011 for services to the Corporation and the Bank paid to the Chief Executive Officers, Chief Financial Officer and to the only other two executive officers of the Corporation whose compensation exceeded $100,000 (“named executive officers”).

Name and
Principal Position
Year
Salary
Stock Awards ($)
Change in Pension Value and Non-
Qualified
Deferred Compensation Earnings
All Other Compensation
Total
Preston D. Pinkett, III,
President and Chief Executive Officer, City National Bancshares Corporation and City National Bank of New Jersey
2011
$
218,519

(2)
$
85,013

(2)

 
$

(2)
$
303,532

Louis E. Prezeau
President and Chief Executive Officer, City National Bancshares Corporation and City National Bank of New Jersey (retired March 1, 2011)
2009
$
268,000

 

 
$
44,247

(6
)
$
42,404

(3
)
$
354,651

2010
$
268,000

 

 
$
83,205

(6
)
$
49,178

(3
)
$
400,383

2011
$
90,728

(7
)

 
$
1,759

(6
)
$
2,164

(3
)
$
94,651

Edward R. Wright
Senior Vice President and Chief Financial Officer, City National Bancshares Corporation and City National Bank of New Jersey
2009
131,500

 

 
$
68,928

(1
)
$
9,944

(4
)
$
210,370

2010
$
131,500

 

 
$
36,772

(1
)
$
9,944

(4
)
$
178,216

2011
$
131,500

 

 
$

(1
)
$
9,944

(4
)
$
141,444

Raul Oseguera
Senior Vice President, City National of Bank New Jersey and Assistant Secretary of City National Bancshares Corporation
2009
$
111,500

 

 
$
22,609

(1
)
$
6,345

(5
)
$
140,454

2010
$
125,730

 

 
$
13,759

(1
)
$
6,772

(5
)
$
146,261

2011
$
133,000

 

 
$

(1
)
$
6,990

(5
)
$
139,990



78



(1)
Represents the change in the net present value of benefits from the taking into consideration each executive's age, an interest rate discount factor and their remaining time until retirement (“Change in Pension Value”) with respect to the SERP.

(2)
All amounts reported in the “stock awards” column were an integral part of salary which had a cash component and stock component. The cash component is reported in the salary column and the stock component is reported under “stock awards.” Amounts reported in the “stock awards” column includes 667 shares valued at $37.50 per share for the period from March 1, 2011 through August 31, 2011 and 20,000 shares valued at $3.00 per share issued or to be issued for the period from November 1, 2011 through October 31, 2012. Mr. Pinkett received no compensation for services as a director in 2011.

(3)
Includes payments made under our profit sharing plan of $8,040, $8,040 and $2,164 in 2009, 2010, and 2011, respectively. Also includes $10,164, $11,988 and $0 in 2009, 2010 and 2011 representing Mr. Prezeau's use of a Bank-leased automobile in such years. Includes Director Fees paid in cash of $24,200, and $29,150 in 2009 and 2010, respectively. Also includes contributions to a trust created pursuant to a Trust Agreement (see section below titled “Prezeau Trust Agreement”) of $6,694, $0 and $0 in 2009, 2010 and 2011, respectively, to reimburse the trust for payment of life insurance premiums on the life of Mr. Prezeau. Does not include $1,464,955 paid under the SERP or $85,000 withdrawn by Mr. Prezeau from the aforementioned trust in 2011. Mr. Prezeau received no compensation for services as a director in 2011.

(4)
Includes payments made under our profit sharing plan of $$3,944, $3,944 and $3,944 in 2009, 2010 and 2011, respectively, and automobile allowance payments of $6,000, $6,000 and $6,000 in 2009, 2010 and 2011, respectively.

(5)
Includes payments made under our profit sharing plan of $3,345, $3,772 and $3,990 in 2009, 2010, and 2011, respectively, and automobile allowance payments of $3,000, $3,000 and $3,000, in 2009 2010 and 2011, respectively.

(6)
Includes Changes in Pension Value of $1,716, $9,991 and $0 in 2009, 2010 and 2011, respectively, from the Director's Retirement Plan, Changes in Pension Value of $24,471, $73,214 and $0 in 2009, 2010 and 2011, respectively, from the SERP and $18,080 and $1,759 of the above market return from the trust created pursuant to the Trust Agreement in 2009, and 2011, respectively. There was no above market return for such trust in 2010.

(7)
Includes amounts for unused 2011 vacation that Mr. Prezeau received upon retirement

Pension Benefits Table
The following table provides information for the named executive officers for the year ended December 31, 2011
Name
Plan name
Number of Years
 of
Credited Service
Present Value of
Accumulated
Benefits
(Accrued 12-31-11)
Payments During
Last Fiscal Year
Preston D. Pinkett, III
Louis E. Prezeau(1)
SERP
21
$1,464,955
Louis E. Prezeau(2)
Director's
Retirement
21
$64,102
Edward R. Wright (3)
SERP
16
$450,001
Raul Oseguera
SERP
20
$84,457


(1)
Mr. Prezeau received a lump sum-payment of $1,465,000 on his retirement date of March 1, 2011. See “Item 11 Executive Compensation--Supplemental Employee Retirement Plan.”
(2)
Mr. Prezeau is currently eligible for normal retirement under the Director's Retirement Plan. See “Item 11 Executive Compensation-Director Compensation--Director's Retirement Plan.”
(1)
Mr. Wright is currently eligible for normal retirement under the SERP. See “Item 11 Executive Compensation-- Supplemental Employee Retirement Plan.”


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Grants of Plan Based Awards in 2011

The following table presents information regarding the grant of awards made to Mr. Pinkett, the only named executive officer to receive such awards under his employment agreements in 2011. All stock was issued to Mr. Pinkett under his employment agreements that mandated that part of his salary consist of cash and part of his salary consist of stock.

Grants of Plan-Based Awards

 
Name
Grant Date
All other stock awards: Number of shares of stock or units
(#)
Grant date fair value of stock and option awards 
 
 
Preston D. Pinkett, III
3/1/2011
11/1/2011
667
20,000
$25,013
$60,000
 
Louis E. Prezeau
 
Edward R. Wright
 
Raul Oseguera

Option Exercises and Stock Vested in 2011

The following table presents information regarding the vesting of awards made to a 2011 named executive officer that occurred in our last completed fiscal year

Option Exercises and Stock Vested In Fiscal Year 2011


 
Option awards
Stock awards
Name

Number of shares
acquired on
exercise


Value
realized on
exercise($)
Number of Shares Vested (#) 

Value Realized on Vesting ($)(1)
Preston D. Pinkett, III
4,009
$23,533
Louis E. Prezeau
Edward R. Wright
Raul Oseguera

(1)
The shares are not traded on the market. Shares have been valued at $3.00 per share for the 3,342 shares granted at November 1, 2011 that vested in 2011. For the 667 shares granted at March 1, 2011 we have used an average value of $20.25, as we assumed that the shares declined in value from $37.50 to $3 over the six month course of issuance.

Outstanding Equity Awards at 2011 Year End

The following table presents information regarding outstanding stock awards at December 31, 2011 for each of the 2011 named executive officers who has such awards outstanding:


Outstanding Equity Awards at 2011 Year-End
 

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Stock Awards
Name
Number of shares or units of stock that have not vested
(#)
Market value of shares or units of stock that have not vested
($)
Preston D. Pinkett, III
16,658
49,974(1)
Louis E. Prezeau
Edward R. Wright
Raul Oseguera

(1) Based on $3 per share valuation
Payments upon Separation of Service and Change of Control
The following table sets forth the severance amounts and benefits that would be paid to each of our named executive officers if employment with the Bank had been terminated on December 31, 2011, except Mr. Prezeau's amounts include amounts actually paid (as opposed to estimated) to Mr. Prezeau as a result of his retirement.

Name
Retirement

Dismissal
Without
Cause
(No Change
in Control)
Termination for Cause

Payments
Upon
a Change-in‑
Control
Death
Preston D. Pinkett III
 
$530,000(1)
Louis Prezeau
  $1,464,955 (2)
 
Edward R. Wright
   $450,001(3)
$450,001(4)
(4)
$713,001(1)
Raul Oseguera
 
$344,457(1)

(1)
Includes life insurance of $530,000, $263,000 and $260,000 for Messrs. Pinkett, Wright and Oseguera. Messrs. Wright's and Oseguera's figures also include the value of their SERP benefit of $450,001 and $84,457, respectively.
(2)
Mr. Prezeau retired on March 1, 2011. Entry represents withdrawal from SERP of $1,464,955 but does not include payment for unused 2011 vacation which is included in salary in the Summary Compensation Table.
(3)Mr. Wright has reached normal retirement age.
(4)
Gives effect to TARP's elimination of change-in-control payments. All executive officers have executed waivers disclaiming rights to payments prohibited by TARP. All payments represent payments from the SERP.
Non-Qualified Deferred Compensation Table
 
The following table lists certain information with respect to the Trust Agreement established with respect to Mr. Prezeau:
 
Name
Executive
contributions in
2011
($)
Registrant
contributions in
2011
($)
Aggregate
earnings in
2011
($)
Aggregate
withdrawals/distributions
in 2011
($)
Aggregate
balance at 2011
 year end
($)
Louis E. Prezeau
$—
$—
6,753
109,235(1)
$133,731
(1) Includes $85,000 in withdrawals, $24,151 in insurance premiums and $84 in other charges.
Director Compensation
The following describes the provisions of our Director compensation plan. Under the plan, each of our directors receives an annual retainer of $4,000 (with the exception of Messrs. Carney and Pinkett with respect to such retainer), and a $600 fee for each board meeting attended except for the chairperson, who receives $700, and the secretary, who receives $650. Committee chairpersons receive $350 for each meeting attended other than the chairperson of the Loan and Discount Committee who receives

81


$400 per meeting. Other committee members receive $300 for each meeting attended. Directors are eligible to receive bonuses based on our overall earnings performance for the previous fiscal year as determined by our chief executive officer. Directors received no fees or other compensation under the plan in 2011 as stipulated by the Consent Order.
Director's Retirement Plan
Effective January 1, 1997, we instituted a director retirement plan (“Director's Retirement Plan”). Under this plan, a director who attains the age of at least 65 and has completed five years of service on the Board, shall receive a lump sum benefit equal to 50% of the aggregate amount of the director's fees paid to such director during the then last full fiscal year of the Corporation (the “normal retirement benefit”). If the director ceases service on the Board prior to attaining the age of 65 but after completing at least five years of service on the Board, the director shall receive an annual benefit equal to the normal retirement benefit payable over the same period of time multiplied by a fraction the numerator of which is the director's years of service prior to termination of employment and the denominator of which is the years of service the director would have had the director remained employed until age 65.
Upon a change in control of the Corporation (which is defined in the director retirement plan as the acquisition by a non-affiliate of the Corporation of 30% or more of our outstanding common stock which is followed by (a) the termination of a director for any reason, or (b) the failure of such director to be elected, for whatever reason, for an immediately succeeding term upon the natural expiration of his/her term) followed by a termination of the director's status as a member of the Board for any reason or a failure for whatever reason for the director to be nominated and elected to an immediately succeeding term, the director shall receive a benefit equal to the present value (discounted at the rate of 4%) of a theoretical series of 120 monthly payments, with each payment equal to 1/12 of the normal retirement benefit without regard as to whether the director otherwise qualified for the normal retirement benefit.
If a director dies while in active service on the Board, the designated beneficiary of such director shall receive the greater of the normal retirement benefit accrued by us for such director as of the date of such director's death or the normal retirement benefit described above.
We may amend or terminate this plan at any time prior to termination of service by the director, provided that all benefits accrued by us as of the date of such termination or amendment shall be fully vested; and, provided further, that the plan may not be amended or terminated after a change in control (as defined) unless the director consents thereto.
We terminated the plan as of June 30, 2010, at which time all benefits accrued as of such date became fully vested.
Director Compensation Table
Messrs Pinkett, Giscombe, Williams, Whigham, Carney and Prezeau and Ms. Coleman served as directors in 2011. There was no reportable compensation to any person who served as director in 2011 , and as a result the Director Compensation Table is omitted. Compensation for Messrs. Pinkett and Prezeau for their service as officer is set forth in the Summary Compensation Table.

Compensation Committee Report
A discussion of the principles, objectives, components, analyses and determinations of the Personnel/Director and Management Review Committee with respect to executive compensation is included in the Compensation Discussion and Analysis above. The Compensation Discussion and Analysis also includes commentary with respect to the Committee's review of officer and employee compensation plans and more specifically any features of those places that may encourage employees to take unnecessary and excessive risks. None of the plans identified is of a nature or magnitude that could be expected reasonably to encourage any employee, particularly executives, to take any unnecessary and/or excessive risk. In fact our supplemental employee retirement plan, prior to termination, encouraged employees to stay with the Corporation for the long term. The specific decisions of the Committee regarding the compensation of the named executive officers are reflected in the compensation tables and narrative above that follow the Compensation Discussions and Analysis.
In 2011, no incentive compensation was paid to any employee. Salaries remained constant for fiscal year 2011, with the exception of the salary approved by the Committee for the CEO. That salary, discussed in greater detail above, consisted of both cash and common stock, as reflected in the tables above. Because the Corporation's common stock is not traded publically, it was necessary for the committee to determine a value for the stock which the Committee required constitute a part of the CEO's salary. The common stock component was assigned a value with the assistance of an independent third party reviewer. Both the total salary and the common stock component and its proposed valuation were submitted to and approved by the appropriate federal regulators, as the Committee deemed this to be a necessary prerequisite to the salary decision. As a result, the Committee certifies that: (a)

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it has reviewed with our Senior Risk Officer the SEO compensation plans and has made reasonable efforts to ensure that such plans do not encourage SEOs to take unnecessary and excessive risks that could threaten the value of the Corporation and its subsidiaries; (b) it has reviewed with our Senior Risk Officer the employee compensation plans and has made all reasonable efforts to limit any unnecessary risks these plans pose to the Corporation and its subsidiaries; and (c) it has reviewed the employee compensation plans to eliminate any features of these plans that would encourage the manipulation of reported earnings of the Corporation and its subsidiaries to enhance the compensation of any employee.
We have reviewed and discussed the Compensation Discussion and Analysis with management and, based upon that review and discussion, we recommend that the section be included in our annual report on Form 10-K for the year-ended December 31, 2011 and the 2012 proxy statement.
Alfonso L. Carney, Jr., Chairman Eugene Giscombe
H. O'Neil Williams
Date: April 27, 2012
Compensation Committee Interlocks and Insider Participation
Certain members of the Personnel/Director and Management Review Committee or their affiliates, engaged in loan transactions with the Bank during 2011. All such loans were made in the ordinary course of business on substantially the same terms including interest rates and collateral, as those prevailing at the time for comparable loans with others and did not involve more than the normal risk of collectability or present other unfavorable features. As noted above, Messrs. Carney, Giscombe, and Williams are members of the Personnel/Director and Management Review Committee. Barbara Bell Coleman served on the Committee until her resignation on June 30, 2011. Notwithstanding the foregoing, for purposes of making the assessments and reviews required to comply with TARP (as defined below), the entire board carries out the duties and functions of a compensation committee under TARP, including, a current officer, Mr. Pinkett, and a former officer, Mr. Prezeau, each of whom are not independent.
Item 12.        Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Stock Ownership of Management and Principal Shareholders
The following table presents information about the beneficial ownership of our common stock at April 1, 2012 by each person who is known by us to beneficially own more than five percent (5%) of the issued and outstanding common stock, each director and each of our executive officers for whom individual information is required to be set forth in this Annual report on Form 10- K under rules of the Securities and Exchange Commission, and by directors and all executive officers as a group.

83


COMMON STOCK

Name of Beneficial Owner
Number of
Shares
Beneficially
Owned
Percent of
Class
Alfonso L. Carney, Jr., Director
30
*

 
 
 
 
Eugene Giscombe, Director
c/o City National Bancshares Corporation 900 Broad Street Newark, New Jersey 07102
11,246

(1)
8
%
 
 
 
 
Preston D. Pinkett, III, President and CEO and Director c/o City National Bancshares Corporation 900 Broad Street Newark, New Jersey 07102
14,366

(2)
8.6
%
 
 
 
 
Louis E. Prezeau, Director, Retired President and CEO c/o City National Bancshares Corporation. 900 Broad Street Newark, New Jersey 07102
25,216

(3)
17.5
%
 
 
 
 
Lemar C. Whigham, Director
c/o City National Bancshares Corporation 900 Broad Street Newark, New Jersey 07102
9,624

(4)
6.9
%
 
 
 
 
H. O'Neil Williams, Director
773

 
*

 
 
 
 
Raul Oseguera, Senior Vice President and Assistant Secretary
750

 
*

 
 
 
 
Edward R. Wright, Senior Vice President and CFO
5,000

 
3.6
%
 
 
 
 
Directors and named executive officers as a group (8 persons)
64,977

(5)
44.6
%
 
 
 
 
Carolyn M. Whigham, 5% stockholder
580 Dr. Martin Luther King Jr. Blvd., Newark, NJ 07102
8,495

 
6.1
%

(1)

Includes 780 shares of common stock held by his wife. Also includes 333 shares of common stock and 333 shares of common stock issuable to Mr. Giscombe and his spouse, respectively, upon conversion of Series E Preferred Stock.
(2)

Includes 3,288 shares of common stock vesting within 60 days of April 1 , 2012
(3)

Includes 2,375 shares of common stock held by his sons, 110 shares of common stock held by his daughter and 1,402 shares held by his wife. Also includes 1,332 shares of common stock and 666 shares of common stock issuable to Mr. Prezeau and his spouse, respectively, upon conversion of Series E Preferred. Stock.
(4)

Includes 1,064 shares of common stock held by his wife.
(5)

Includes 2,664 shares of common stock issuable upon conversion of Series E Preferred Stock.

    

    
* Less than 1%

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The following table presents information about the beneficial ownership of each series of preferred stock in which any named executive officer or director had any ownership interest at April 1, 2012 by each director and each of our executive officers for whom individual information is required to be set forth in this Annual report on Form 10- K under rules of the Securities and Exchange Commission, and by directors and all executive officers as a group. “Series E” means the 6% Non-Cumulative Perpetual Preferred Stock, Series E and “Series F” means the Series F Non-cumulative Redeemable Preferred Stock.

PREFERRED STOCK
Name of Beneficial Owner
Series
 E
Series E%
Series
F (1)
Series
F %(1)
Alfonso L. Carney, Jr., Director

 

636.4
9.1%
 
 
 
 
 
 
Eugene Giscombe, Director
2

(2)
4.1%
636.4
9.1%
 
 
 
 
 
 
Preston D. Pinkett, III, President, CEO and Director

 

636.4
9.1%
 
 
 
 
 
 
Louis E. Prezeau,
Director, Retired CEO and President
6

(3)
12.2%
636.4
9.1%
 
 
 
 
 
 
Lemar C. Whigham, Director

 

636.4
9.1%
 
 
 
 
 
 
H. O'Neil Williams, Director

 

636.4
9.1%
 
 
 
 
 
 
Raul Oseguera, Senior Vice President
and Assistant Secretary

 

636.4
9.1%
 
 
 
 
 
 
Edward R. Wright, Senior Vice President and CFO

 

636.4
9.1%
 
 
 
 
 
 
Directors and all executive officers as a group
(10 persons)

 

6,364
90.9%

(1)

In December 2011, all of the individuals in the above named table and three other persons formed Greene Street Enterprises, LLC (“Greene Street”) and acquired all 7,000 outstanding shares of Series F Preferred Stock from a third party. Mr. Pinkett is the managing member of such entity, but does not have the power to vote the shares of preferred stock which can only be exercised by the members of Greene Street. The percentages and amounts reported are the economic interests of each of the above in such entity. Greene Street as holder of the Series F Preferred Stock, together with the U.S. Department of Treasury as the holder of all Series G Preferred Stock of the Corporation, have the right to appoint 2 directors as a result of the deferral of dividends, which director appointment rights have not been exercised.

(2)

Includes one share held by spouse.

(3)

Includes two shares held by spouse.

Item 13.      Certain Relationships and Related Transactions, and Director Independence

Certain Relationship and Related Transactions
The Bank has made loans to its directors and executive officers and their associates, and assuming continued compliance with generally applicable credit standards, it expects to continue to make such loans. These loans were made in the ordinary course of business on substantially the same terms including interest rates and collateral, as those prevailing at the time for comparable loans with others and did not involve more than the normal risk of collectability or present other unfavorable features.
On December 16, 2011, Mr. Pinkett and all directors of the Corporation (including Messrs. Eugene Giscombe, Lemar Whigham, H. O'Neil Williams, Alfonso Carney Jr.), Mr. Edward Wright, its Chief Financial Officer and Mr. Oseguera, a Senior Vice President, Walter Bond and Carlton West, officers of the Bank, and David Scheck, formed Greene Street Enterprises LLC (“Greene Street”) pursuant to an Operating Agreement and contributed $35,000 each in capital for equal membership interests. The purpose of Greene Street was to purchase all of outstanding shares the Multimode Series F Noncumulative Redeemable Preferred Stock

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(“Series F Preferred Stock”) of the Corporation from a third party and to attempt to exchange such non-voting non-convertible preferred stock with the Corporation for common stock on terms to be negotiated and then to distribute the common stock to members of Greene Street. On December 29, 2011, Greene Street acquired all of the Series F Preferred Stock from a third party. Greene Street as holder of the Series F Preferred Stock, together with the U.S. Department of Treasury as the holder of all Series G Preferred Stock of the Corporation, have the right to appoint 2 directors as a result of the deferral of dividends, which director appointment rights have not been exercised. Greene Street has not yet exchanged such preferred stock for common stock, and there are no currently proposed terms for the exchange. The Board has not yet reviewed and determined how it would view such an exchange.
The Board, as a whole, reviews related party transactions, but there is no written policy or procedure with respect thereto and such reviews are conducted on a transaction by transaction basis. Under the Audit Committee charter, the Audit Committee may also review summary of directors' and officers' related party transactions and potential conflicts of interest.
Director Independence
The Board has determined that all the directors, with the exception of Louis E. Prezeau and Preston D. Pinkett, III (upon commencement of service as President and Chief Executive Officer of the Corporation), are “independent” within the meaning of the NASDAQ listing standards, the exchange whose standards we use in determining director independence. In reviewing the independence of these directors, the Board considered that transactions with the Bank were made in the ordinary course of business, including loans that were made in accordance with Federal Reserve Regulation O.

Item 14. Principal Accountant Fees and Services
The accounting firm of KPMG LLP served as the independent registered public accountants for the Corporation for the year ended December 31, 2011. Services provided included the examination of the consolidated financial statements and preparation of the tax returns.
The Board has appointed KPMG LLP as the independent registered public accountants for the Corporation and the Bank for 2012. Stockholder ratification of the appointment is not required under the laws of the State of New Jersey, but the Board has decided to ascertain the position of the stockholders on the appointment. The Board may reconsider the appointment if it is not ratified. The affirmative vote of a majority of the shares voted at an annual meeting to be held will be required for ratification.
The Corporation incurred the following fees for services provided by KPMG LLP:
 
2011
 
2010
Audit fees
$
300,000

 
$
325,000

Audit-Related Fees
 
 
 
Tax fees
$
52,300

 
$
38,000

All Other Fees
 
 
 
 
$
352,300

 
$
363,000

All audit, as well as non-audit, services to be performed by the independent accountants to the Corporation must be pre-approved by the Audit Committee in order to assure that the provision of such services does not impair the auditor's independence. During 2011 and 2010, the Audit Committee pre-approved all of the services provided by KPMG LLP. The Audit Committee has considered the provisions of these services by KPMG LLP and has determined that the services are compatible with maintaining KPMG LLP's independence.

Part IV


86


Item 15.   Exhibits and Financial Statement Schedules
(a)        The following documents are filed as part of this report:
(1)   Financial Statements: The consolidated balance sheets of City National Bancshares Corporation, and its subsidiaries as of December 31, 2011 and 2010, and the related consolidated statements of operations, consolidated statements of stockholders’ equity and consolidated statements of cash flows for each of the years in the three-year period ended December 31, 2010, together with the related notes and the independent auditor’s report of KPMG LLP.

(2)

Financial Statement Schedules: All schedules are omitted as the required information is inapplicable or the information is presented in the financial statements or related notes.
(3)   Exhibits: A list of the Exhibits as required by Item 601 of Regulation S-K to be filed as part of this Annual Report on Form 10-K is shown on the “Exhibit Index” filed herewith.
(b)      The exhibits listed on the accompanying “Exhibit Index” are incorporated by reference into this Item 15 of this Annual Report on Form 10-K as if set forth fully herein.


87


SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, City National Bancshares Corporation has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized:
CITY NATIONAL BANCSHARES CORPORATION
 
 
 
 
 
 
 
 
 
 
 
By:
 
/s/ Preston D. Pinkett III            
 
By:
 
/s/ Edward R. Wright
 
 
 
Preston D. Pinkett III
President and Chief
Executive Officer
 
 
 
Edward R. Wright
Chief Financial Officer
and Principal Accounting Officer
 
 
 
 
 
 
 
 
 
Date:
 
May 25, 2012
 
Date:
 
May 25, 2012
 

Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated. The undersigned hereby constitute and appointPreston D. Pinkett III his true and lawful attorney in fact and agent, with full power of substitution and resubstitution, to sign any and all amendments to this report and to file the same, with all exhibits thereto, and other documents in connection therewith, with the Securities and Exchange Commission granting unto said attorney in fact and agent, full power and authority to do and perform each and every act and thing requisite and necessary to be done in and about the premises, as fully and to all intents and purposes as he or she might or could in person, hereby ratifying and confirming all that said attorney in fact and agent, may lawfully do or cause to be done by virtue hereof.

Signature
 
Title
 
Date
 
 
 
 
 
 
 
/s/ Eugene Giscombe
 
Director,
 
May 25, 2012
 
Eugene Giscombe
 
Chairperson of the Board
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
/s/ Preston D. Pinkett III
 
Director,
 
May 25, 2012
 
 
 
Executive Officer
 
 
 
 
 
 
 
 
 
/s/ Lemar C. Whigham
 
Director
 
May 25, 2012
 
Lemar C. Whigham
 
 
 
 
 
 
 
 
 
 
 
/s/ H. O’Neil Williams
 
Director
 
May 25, 2012
 
H. O’Neil Williams
 
 
 
 
 
 
 
 
 
 
 
/s/ Alfonso Carney
 
Director
 
May 25, 2012
 
Alfonso Carney
 
 
 
 
 
 
 
 
 
 
 
/s/ Louis E. Prezeau
 
Director
 
May 25, 2012
 
Louis E. Prezeau
 
 
 
 
 


88


EXHIBIT INDEX
Exhibit No.
 
Description of Exhibit
 
 
 
(3)(a)
 
The Corporation’s Restated Articles of Incorporation (incorporated herein by reference to Exhibit (3)(d) of the Corporation’s Current Report on Form 8-K dated July 28, 1992).
 
 
 
(3)(b)
 
Amendments to the Corporation’s Articles of Incorporation establishing the Corporation’s Non-cumulative Perpetual Preferred Stock, Series A (incorporated herein by reference to Exhibit (3)(b) of the Corporation’s Annual Report on Form 10-K for the year ended December 31, 1995).
 
 
 
(3)(c)
 
Amendments to the Corporation’s Articles of Incorporation establishing the Corporation’s Non-cumulative Perpetual Preferred Stock, Series B (incorporated herein by reference to Exhibit (3)(c) of the Corporation’s Annual Report on Form 10-K for the year ended December 31, 1995).
 
 
 
(3)(d)
 
Amendments to the Corporation’s Articles of Incorporation establishing the Corporation’s Non-cumulative Perpetual Preferred Stock, Series C (incorporated herein by reference to Exhibit (3)(i) to the Corporation’s Annual Report on Form 10-K for the year ended December 31, 1996).
 
 
 
(3)(e)
 
Amendments to the Corporation’s Articles of Incorporation establishing the Corporation’s Non-cumulative Perpetual Preferred Stock, Series D (incorporated herein by reference to Exhibit (3)(i) filed with the Corporation’s Quarterly Report on Form 10-Q for the quarter ended June 30, 1997).
 
 
 
(3)(f)
 
Amendments to the Corporation’s Articles of Incorporation establishing the Corporation’s Non-cumulative Perpetual Preferred Stock, Series E (incorporated herein by reference to Exhibit (3)(i) filed with the Corporation’s Quarterly Report on Form 10-Q filed on March 4, 2005).
 
 
 
(3)(g)
 
Amendments to the Corporation’s Articles of Incorporation establishing the Corporation’s MultiMode Series F Non-cumulative Redeemable Preferred Stock (incorporated herein by reference to Exhibit (3)(f) to the Corporation’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2005).
 
 
 
(3)(h)
 
Amendment to the Corporation’s Articles of Incorporation establishing the Fixed Rate Cumulative Perpetual Preferred Stock, Series G (incorporated herein by reference to Exhibit 3.1 to the Corporation’s Current Report on Form 8-K dated April 10, 2009).
 
 
 
(3)(i)
 
Amendment to the Corporation’s Articles of Incorporation reallocating unissued Series B, Series C and Series E Preferred Stock to unallocated and unissued preferred stock (incorporated herein by reference to Exhibit 3.2 to the Corporation’s Current Report on Form 8-K dated April 10, 2009).
 
 
 
(3)(j)
 
The amendment to the By-Laws of the Corporation (incorporated herein by reference to Exhibit (3)(b) of the Corporation’s Annual Report on Form 10-K for the year ended December 31, 1991).
 
 
 
(3)(k)
 
The By-Laws of the Corporation (incorporated herein by reference to Exhibit (3)(b) of the Corporation’s Annual Report on Form 10-K for the year ended December 31, 1988).
 
 
 
(10)(a)
 
The Employees’ Profit Sharing Plan of City National Bank of New Jersey (incorporated herein by reference to Exhibit (10) of the Corporation’s Annual Report on Form 10-K for the year ended December 31, 1988).
 
 
 
(10)(b)
 
The Employment Agreement among the Corporation, the Bank and Louis E. Prezeau dated May 26, 2006 (incorporated herein by reference to Exhibit (10.1) to the Corporation’s Current Report on Form 8-K dated December 4, 2006).

89


(10)(c)
 
The Employment Agreement among the Corporation, the Bank and Louis E. Prezeau dated May 10, 2010 (incorporated herein by reference to Exhibit (10.1) to the Corporation’s Current Report on Form 8-K dated May 18, 2010).
 
 
 
(10)(d)
 
Amended and Restated Asset Purchase and Sale Agreement between the Bank and Carver Federal Savings Bank dated as of February 27, 2001 (incorporated by reference to Exhibit 10(d) to the Corporation’s Annual Report on Form 10-K for the year ended December 31, 2000).
 
 
 
(10)(e)
 
Loan Agreement dated December 28, 2001 by and between the Corporation and National Community Investment Fund (incorporated by reference to Exhibit 10(f) to the Corporation’s Annual Report on Form 10-K for the year ended December 31, 2001).
 
 
 
(10)(f)
 
Pledge Agreement dated December 28, 2001 by and between the Corporation and National Community Investment Fund (incorporated by reference to Exhibit (g) to the Corporation’s Annual Report on Form 10-K for the year ended December 31, 2001).
 
 
 
(10)(g)
 
Asset Purchase and Sale Agreement between City National Bank of New Jersey and Carver Federal Savings Bank dated as of January 26, 1998 (incorporated by reference to Exhibit 10(h) to the Corporation’s Annual Report on Form 10-K for the year ended December 31, 1998).
 
 
 
(10)(h)
 
Promissory Note dated May 6, 2002 payable to United Negro College Fund, Inc., in the principal amount of $200,000 (incorporated by reference to Exhibit 10(i) to the Corporation’s Quarterly Report on Form 10-Q for quarter ended March 31, 2002).
 
 
 
(10)(i)
 
Purchase and Assumption Agreement dated as of March 31, 2004, by and among The Prudential Savings Bank, F.S.B., The Prudential Bank and Trust Company and City National Bank of New Jersey (incorporated herein by reference to Exhibit 10(l) to the Corporation’s Quarterly Report on Form 10-Q for the quarter ended March 31, 2004).
 
 
 
(10)(j)
 
Guarantee Agreement dated March 17, 2004 from the Corporation in favor of U.S. Bank, N.A., as trustee for holders of securities issued by City National Bank of New Jersey Capital Statutory Trust II (incorporated herein by reference to Exhibit (10)(m) to the Corporation’s Quarterly Report on Form 10-Q for the quarter ended March 31, 2004).
 
 
 
(10)(k)
 
Purchase Agreement dated September 27, 2005 by and between Sandler O’Neil & Partners, L.P., and the Corporation with respect to issue and sale of 7,000 shares of the Corporation’s MultiMode Series F Non-cumulative Redeemable Preferred Stock (incorporated herein by reference to Exhibit (10)(n) to the Corporation’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2005).
 
 
 
(10)(l)
 
Credit Agreement dated February 21, 2007 by and between The Prudential Insurance Company of America and the Corporation with respect to a $5,000,000 loan to the Corporation (incorporated by reference to Exhibit 10.1 to the Corporation’s Current Report on Form 8-K dated February 23, 2007).
 
 
 
(10)(m)
 
Branch Purchase and Assumption Agreement, dated as of November 1, 2006, by and between City National Bank of New Jersey (“CNB”) and Sun National Bank (“Sun”), as amended by Amendment to Branch Purchase and Assumption Agreement, dated as of March 8, 2007, by and between CNB and Sun (incorporated by reference to Exhibit 10.1 to the Corporation’s Current Report on Form 8-K dated March 14, 2007).
 
 
 
(10)(n)
 
Letter Agreement, dated April 10, 2009, including the Securities Purchase Agreement – Standard Terms incorporated by reference therein (collectively, the “Purchase Agreement”), between the Corporation and the United States Department of the Treasury (the “Treasury Department”) (incorporated herein by reference to Exhibit 10.1 to the Corporation’s Current Report on Form 8-K dated April 10, 2009).

(10)(o)
 
Side Letter Agreement, dated April 10, 2009, between the Corporation and the Treasury Department pertaining to the American Recovery and Reinvestment Act of 2009 (incorporated herein by reference to Exhibit 10.2 to the Corporation’s Current Report on Form 8-K dated April 10, 2009).

90


 
 
 
(10)(p)
 
Side Letter Agreement, dated April 10, 2009, between the Corporation and the Treasury Department pertaining to the amendment of certain provisions of the Purchase Agreement (incorporated herein by reference to Exhibit 10.3 to the Corporation’s Current Report on Form 8-K dated April 10, 2009).
 
 
 
(10)(q)
 
Side Letter Agreement, dated April 10, 2009, between the Corporation and the Treasury Department pertaining to the amendment of certain provisions of the Purchase Agreement relating to CDFI Exemption (incorporated herein by reference to Exhibit 10.3 to the Corporation’s Current Report on Form 8-K dated April 10, 2009).
 
 
 
(10)(r)
 
Form of Waiver, executed by each of Louis E. Prezeau, Edward R. Wright, Stanley M. Weeks and Raul L. Oseguera (incorporated herein by reference to Exhibit 10.3 to the Corporation’s Current Report on Form 8-K dated April 10, 2009).
 
 
 
(10)(s)
 
Agreement, dated June 29, 2009, by and between the City National Bank of New Jersey and the Comptroller of the Currency (incorporated herein by reference to Exhibit 10.1 to the Corporation’s Current Report on Form 8-K dated June 29, 2009).
 
 
 
(10)(t)
 
Form of Director’s Retirement Agreement (the “Director’s Retirement Plan”) (incorporated by reference to Exhibit 10(h) to the Form 10-K for the year ended December 31, 1998, filed on March 30, 1999).
 
 
 
10(u)
 
First Amendment to Credit Agreement, dated as of November 3, 2010, by and among the Corporation, and The Prudential Insurance Company of America (incorporated by reference to Exhibit 10.1 to the Corporation’s Current Report on Form 8-K dated November 3, 2010.
 
 
 
10(v)
 
Consent Order dated December 22, 2010 between the Bank and the OCC (incorporated by reference to Exhibit 10.1 to the Corporation’s Form 8-K filed on December 29, 2010)
 
 
 
10(w)
 
Agreement dated December 14, 2010 between the Corporation and the Federal Reserve Bank of New York (incorporated by reference to Exhibit 10.2 to the Corporation’s Form 8-K filed on December 29, 2010)
 
 
 
10(x)
 
Employment Agreement, effective as of March 1, 2011, by and between the Bank and Preston D. Pinkett III (incorporated by reference to Exhibit 10.1 to the Corporation’s Form 8-K filed on March 9, 2011).
 
 
 
10(y)
 
TARP Waiver, executed by Preston D. Pinkett, III, effective as of March 1, 2011 (incorporated by reference to Exhibit 10.2 to the Corporation’s Form 8-K filed on March 9, 2011).
 
 
 
10(z)
 
Employment Agreement, effective as of November 1, 2011, by and between City National Bank of New Jersey, City National Bancshares Corporation and Preston D. Pinkett III
 
 
 
10(aa)
 
Amendment No. 2 to Employment Agreement, effective as of March 1, 2011, between City National Bank of New Jersey, City National Bancshares Corporation and Preston D. Pinkett III
 
 
 
(11)
 
Statement regarding computation of per share earnings. The required information is included in Note 18.
 
 
 
(21)
 
Subsidiaries of the registrant. The required information is included on page one.
 
 
 
(31)
 
Certifications of Principal Executive Officer and Principal Financial Officer (Section 302 of the Sarbanes-Oxley Act of 2002 (filed herewith)).
 
 
 
(32)
 
Certifications of Principal Executive Officer and Principal Financial Officer under 18 U.S.C. Section 1350 (Section 906 of the Sarbanes-Oxley Act of 2002 (filed herewith)).
 
 
 

91


(99)
 
Certifications of Principal Executive Officer and Principal Financial Officer (TARP Certifications) Pursuant to Section 11(b)(4) of the Emergency Economic Stabilization Act of 2008 (EESA) (filed herewith).
 
 
 
(101)
 
Interactive data


92