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Table of Contents
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C.
20549
FORM
10-Q
(Mark One)
☒
Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.
For the quarterly period ended
March 31, 2021
☐
Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.
For the transition period __________ to __________
Commission File Number:
0-26486
Auburn National Bancorporation, Inc.
(Exact Name of Registrant as Specified in Its Charter)
Delaware
(State or other jurisdiction of
incorporation or organization)
63-0885779
(I.R.S. Employer
Identification No.)
100 N. Gay Street
Auburn
,
Alabama
36830
(
334
)
821-9200
(Address and telephone number of principal executive offices)
(Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report)
Indicate by
check mark
whether the
registrant (1)
has filed
all reports
required to
be filed
by Section
13 or
15(d) of
the Securities
Exchange Act of
1934 during the
preceding 12 months (or
for such shorter
period that the
registrant was required
to file such
reports),
and (2) has been subject to such filing requirements for the past 90 days.
Yes
☒
No
☐
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted and
posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required
to submit such files).
Yes
☒
No
☐
Indicate by check mark whether
the registrant is a
large accelerated filer,
an accelerated filer, a
non-accelerated filer, a smaller
reporting
company or
an emerging
growth company.
See the
definitions of
“large accelerated
filer,” “accelerated
filer,” “smaller
reporting
company” and “emerging growth company” in Rule 12b-2
of the Exchange Act. (Check one):
Large Accelerated filer
☐
Accelerated filer
☐
Non-accelerated filer
☒
Smaller reporting company
☒
Emerging growth company
☐
If an
emerging growth
company, indicate
by check
mark if
the registrant
has elected
not to
use the
extended transition
period for
complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.
☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2
of the Act). Yes
☐
No
☒
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
Trading Symbol(s)
Name of each exchange on which registered
Common Stock, par value $0.01
AUBN
NASDAQ
Global Market
Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date.
Class
Outstanding at April 29, 2021
Common Stock, $0.01 par value per share
3,566,326
shares
Table of Contents
AUBURN NATIONAL BANCORPORATION, INC. AND
SUBSIDIARIES
INDEX
PART I. FINANCIAL INFORMATION
PAGE
Item 1
Financial Statement
Consolidated Balance Sheets (Unaudited) as of March 31, 2021 and December 31, 2020
3
Consolidated Statements of Earnings (Unaudited) for the quarter s ended March 31, 2021 and 2020
4
Consolidated Statements of Comprehensive Income (Unaudited) for the quarters ended March 31, 2021
and 2020
5
Consolidated Statements of Stockholders’ Equity (Unaudited) for the quarters ended March 31, 2021
and 2020
6
Consolidated Statements of Cash Flows (Unaudited) for the quarters ended March 31, 2021 and 2020
7
Notes to Consolidated Financial Statements (Unaudited
)
8
Item 2
Management’s Discussion and Analysis of Financial Condition and Results of Operations
27
Table 1 – Explanation of Non-GAAP Financial Measures
47
Table 2 – Selected Quarterly Financial Data
48
Table 3 – Average Balances and Net Interest Income Analysis for the quarters March 31, 2021 and
2020
49
Table 4 – Loan Portfolio Composition
50
Table 5 – Allowance for Loan Losses and Nonperforming Assets
51
Table 6 – Allocation of Allowance for Loan Losses
52
Table 7 – CDs and Other Time Deposits of $100,000 or more
53
Item 3
Quantitative and Qualitative Disclosures About Market Risk
54
Item 4
Controls and Procedures
54
PART II. OTHER INFORMATION
Item 1
Legal Proceedings
54
Item 1A
Risk Factors
54
Item 2
Unregistered Sales of Equity Securities and Use of Proceeds
55
Item 3
Defaults Upon Senior Securities
55
Item 4
Mine Safety Disclosures
55
Item 5
Other Information
55
Item 6
Exhibits
56
Table of Contents
3
PART
1.
FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
AUBURN NATIONAL
BANCORPORATION,
INC. AND SUBSIDIARIES
Consolidated Balance Sheets
(Unaudited)
March 31,
December 31,
(Dollars in thousands, except share data)
2021
2020
Assets:
Cash and due from banks
$
15,429
$
14,868
Federal funds sold
35,987
28,557
Interest-bearing bank deposits
70,151
69,150
Cash and cash equivalents
121,567
112,575
Securities available-for-sale
359,630
335,177
Loans held for sale
1,279
3,418
Loans, net of unearned income
461,879
461,700
Allowance for loan losses
(5,682)
(5,618)
Loans, net
456,197
456,082
Premises and equipment, net
27,651
22,193
Bank-owned life insurance
19,336
19,232
Other assets
7,603
7,920
Total assets
$
993,263
$
956,597
Liabilities:
Deposits:
Noninterest-bearing
$
265,869
$
245,398
Interest-bearing
614,721
594,394
Total deposits
880,590
839,792
Federal funds purchased and securities sold under agreements
to repurchase
3,338
2,392
Accrued expenses and other liabilities
5,696
6,723
Total liabilities
889,624
848,907
Stockholders' equity:
Preferred stock of $
.01
par value; authorized
200,000
shares;
no shares issued
—
—
Common stock of $
.01
par value; authorized
8,500,000
shares;
issued
3,957,135
shares
39
39
Additional paid-in capital
3,791
3,789
Retained earnings
106,696
105,617
Accumulated other comprehensive income, net
2,467
7,599
Less treasury stock, at cost -
390,809
shares and
390,859
at March 31, 2021
and December 31, 2020, respectively
(9,354)
(9,354)
Total stockholders’ equity
103,639
107,690
Total liabilities and
stockholders’ equity
$
993,263
$
956,597
See accompanying notes to consolidated financial statements
Table of Contents
4
AUBURN NATIONAL
BANCORPORATION,
INC. AND SUBSIDIARIES
Consolidated Statements of Earnings
(Unaudited)
Quarter ended March 31,
(Dollars in thousands, except share and per share data)
2021
2020
Interest income:
Loans, including fees
$
5,178
$
5,412
Securities
Taxable
949
1,111
Tax-exempt
452
453
Federal funds sold and interest bearing bank deposits
28
279
Total interest income
6,607
7,255
Interest expense:
Deposits
666
1,041
Short-term borrowings
4
2
Total interest expense
670
1,043
Net interest income
5,937
6,212
Provision for loan losses
—
400
Net interest income after provision for
loan losses
5,937
5,812
Noninterest income:
Service charges on deposit accounts
132
172
Mortgage lending
549
230
Bank-owned life insurance
103
398
Other
398
429
Securities gains, net
—
6
Total noninterest income
1,182
1,235
Noninterest expense:
Salaries and benefits
2,851
2,831
Net occupancy and equipment
438
597
Professional fees
256
258
Other
1,145
1,170
Total noninterest expense
4,690
4,856
Earnings before income taxes
2,429
2,191
Income tax expense
423
390
Net earnings
$
2,006
$
1,801
Net earnings per share:
Basic and diluted
$
0.56
$
0.50
Weighted average shares
outstanding:
Basic and diluted
3,566,299
3,566,146
See accompanying notes to consolidated financial statements
Table of Contents
5
AUBURN NATIONAL
BANCORPORATION,
INC. AND SUBSIDIARIES
Consolidated Statements of Comprehensive Income
(Unaudited)
Quarter ended March 31,
(Dollars in thousands)
2021
2020
Net earnings
$
2,006
$
1,801
Other comprehensive (loss) income, net of tax:
Unrealized net holding (loss) gain on securities
(5,132)
4,349
Reclassification adjustment for net gain on securities
recognized in net earnings
—
(5)
Other comprehensive (loss) income
(5,132)
4,344
Comprehensive (loss) income
$
(3,126)
$
6,145
See accompanying notes to consolidated financial statements
Table of Contents
6
AUBURN NATIONAL
BANCORPORATION,
INC. AND SUBSIDIARIES
Consolidated Statements of Stockholders' Equity
(Unaudited)
Accumulated
Common
Additional
other
Shares
Common
paid-in
Retained
comprehensive
Treasury
(Dollars in thousands, except share data)
Outstanding
Stock
capital
earnings
income
stock
Total
Quarter ended March 31, 2021
Balance, December 31, 2020
3,566,276
$
39
$
3,789
$
105,617
$
7,599
$
(9,354)
$
107,690
Net earnings
—
—
—
2,006
—
—
2,006
Other comprehensive loss
—
—
—
—
(5,132)
—
(5,132)
Cash dividends paid ($
.26
per share)
—
—
—
(927)
—
—
(927)
Sale of treasury stock
50
—
2
—
—
—
2
Balance, March 31, 2021
3,566,326
$
39
$
3,791
$
106,696
$
2,467
$
(9,354)
$
103,639
Quarter ended March 31, 2020
Balance, December 31, 2019
3,566,146
$
39
$
3,784
$
101,801
$
2,059
$
(9,355)
$
98,328
Net earnings
—
—
—
1,801
—
—
1,801
Other comprehensive income
—
—
—
—
4,344
—
4,344
Cash dividends paid ($
.255
per share)
—
—
—
(910)
—
—
(910)
Balance, March 31, 2020
3,566,146
$
39
$
3,784
$
102,692
$
6,403
$
(9,355)
$
103,563
See accompanying notes to consolidated financial statements
Table of Contents
7
AUBURN NATIONAL
BANCORPORATION,
INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(Unaudited)
Quarter ended March 31,
(Dollars in thousands)
2021
2020
Cash flows from operating activities:
Net earnings
$
2,006
$
1,801
Adjustments to reconcile net earnings to net cash provided
by
operating activities:
Provision for loan losses
—
400
Depreciation and amortization
297
458
Premium amortization and discount accretion, net
959
446
Net gain on securities available-for-sale
—
(6)
Net gain on sale of loans held for sale
(537)
(163)
Loans originated for sale
(17,503)
(9,844)
Proceeds from sale of loans
20,036
10,596
Increase in cash surrender value of bank-owned life insurance
(104)
(117)
Income recognized from death benefit on bank-owned life insurance
—
(282)
Net decrease (increase) in other assets
15
(444)
Net increase (decrease) in accrued expenses and other liabilities
695
(1,035)
Net cash provided by operating activities
5,864
1,810
Cash flows from investing activities:
Proceeds from prepayments and maturities of securities available
-for-sale
24,145
9,575
Purchase of securities available-for-sale
(56,409)
(48,747)
(Increase) decrease in loans, net
(115)
17,015
Net purchases of premises and equipment
(5,577)
(104)
Proceeds from bank-owned life insurance death benefit
—
694
Decrease (increase) in FHLB stock
267
(9)
Net cash used in investing activities
(37,689)
(21,576)
Cash flows from financing activities:
Net increase in noninterest-bearing deposits
20,471
9,551
Net increase in interest-bearing deposits
20,327
13,082
Net increase in federal funds purchased and securities sold
under agreements to repurchase
946
306
Dividends paid
(927)
(910)
Net cash provided by financing activities
40,817
22,029
Net change in cash and cash equivalents
8,992
2,263
Cash and cash equivalents at beginning of period
112,575
92,443
Cash and cash equivalents at end of period
$
121,567
$
94,706
Supplemental disclosures of cash flow information:
Cash paid during the period for:
Interest
$
687
$
1,089
Income taxes
671
—
Supplemental disclosure of non-cash transactions:
Real estate acquired through foreclosure
—
99
See accompanying notes to consolidated financial statements
Table of Contents
8
AUBURN NATIONAL
BANCORPORATION,
INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Unaudited)
NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING
POLICIES
General
Auburn National Bancorporation, Inc. (the “Company”) provides
a full range of banking services to individual and
corporate customers in Lee County,
Alabama and surrounding counties through its wholly owned subsidiary,
AuburnBank
(the “Bank”). The Company does not have any segments other
than banking that are considered material.
Basis of Presentation and Use of Estimates
The unaudited consolidated financial statements in this report
have been prepared in accordance with U.S. generally
accepted accounting principles (“GAAP”) for interim financial
information.
Accordingly, these financial
statements do not
include all of the information and footnotes required by U.S. GAAP
for complete financial statements.
The unaudited
consolidated financial statements include, in the opinion of management,
all adjustments necessary to present a fair
statement of the financial position and the results of operations for
all periods presented. All such adjustments are of a
normal recurring nature. The results of operations in the interim statements
are not necessarily indicative of the results of
operations that the Company and its subsidiaries may achieve
for future interim periods or the entire year.
For further
information, refer to the consolidated financial statements and
footnotes included in the Company's Annual Report on Form
10-K for the year ended December 31, 2020.
The unaudited consolidated financial statements include the accounts
of the Company and its wholly-owned subsidiaries.
Significant intercompany transactions and accounts are eliminated
in consolidation.
The preparation of financial statements in conformity with U.S.
GAAP requires management to make estimates and
assumptions that affect the reported amounts of assets and
liabilities and disclosures of contingent assets and liabilities as of
the balance sheet date and the reported amounts of revenues and
expenses during the reporting period.
Actual results could
differ from those estimates.
Material estimates that are particularly susceptible to significant change
in the near term
include other-than-temporary impairment on investment securities,
the determination of the allowance for loan losses, fair
value of financial instruments, and the valuation of deferred
tax assets and other real estate owned (“OREO”).
Revenue Recognition
On January 1, 2018, the Company implemented Accounting Standards
Update (“ASU”
or “updates”) 2014-09,
Revenue
from Contracts with Customers
, codified at
Accounting Standards Codification
(“ASC”)
606. The Company adopted ASC
606 using the modified retrospective transition method.
The majority of the Company’s revenue
stream is generated from
interest income on loans and deposits which are outside the scope
of ASC 606.
The Company’s sources of income that
fall within the scope of ASC 606 include service charges
on deposits, investment
services, interchange fees and gains and losses on sales of other
real estate, all of which are presented as components of
noninterest income. The following is a summary of the revenue streams
that fall within the scope of ASC 606:
●
Service charges on deposits, investment services, ATM
and interchange fees – Fees from these services are either
transaction-based, for which the performance obligations are satisfied
when the individual transaction is processed,
or set periodic service charges, for which the performance
obligations are satisfied over the period the service is
provided. Transaction-based fees are recognized
at the time the transaction is processed, and periodic
service
charges are recognized over the service period.
●
Gains on sales of OREO
–
A gain on sale should be recognized when a contract for sale exists and
control of the
asset has been transferred to the buyer.
ASC 606 lists several criteria required to conclude that a contract
for sale
exists, including a determination that the institution will collect
substantially all of the consideration to which it is
entitled.
In addition to the loan-to-value, the analysis is based
on various other factors, including the credit quality
of the borrower, the structure of the loan, and
any other factors that may affect collectability.
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9
Subsequent Events
The Company has evaluated the effects of events
and transactions through the date of this filing that have
occurred
subsequent to March 31, 2021. The Company does not believe
there were any material subsequent events during this period
that would have required further recognition or disclosure in the
unaudited consolidated financial statements included in
this report.
Accounting Developments
In the first quarter of 2021, the Company did not adopt any new
accounting guidance.
NOTE 2: BASIC AND DILUTED NET EARNINGS PER SHARE
Basic net earnings per share is computed by dividing net earnings
by the weighted average common shares outstanding for
the quarters ended March 31, 2021 and 2020, respectively.
Diluted net earnings per share reflect the potential dilution that
could occur upon exercise of securities or other rights for,
or convertible into, shares of the Company’s
common stock.
At
March 31, 2021 and 2020, respectively,
the Company had no such securities or rights issued
or outstanding, and therefore,
no dilutive effect to consider for the diluted net earnings
per share calculation.
The basic and diluted net earnings per share computations for
the respective periods are presented below
Quarter ended March 31,
(Dollars in thousands, except share and per share data)
2021
2020
Basic and diluted:
Net earnings
$
2,006
$
1,801
Weighted average common
shares outstanding
3,566,299
3,566,146
Net earnings per share
$
0.56
$
0.50
NOTE 3: SECURITIES
At March 31, 2021 and December 31, 2020, respectively,
all securities within the scope of ASC 320,
Investments – Debt
and Equity Securities,
were classified as available-for-sale.
The fair value and amortized cost for securities available-for-
sale by contractual maturity at March 31, 2021 and
December 31, 2020, respectively,
are presented below.
1 year
1 to 5
5 to 10
After 10
Fair
Gross Unrealized
Amortized
(Dollars in thousands)
or less
years
years
years
Value
Gains
Losses
Cost
March 31, 2021
Agency obligations (a)
$
10,115
26,208
57,435
11,424
105,182
1,734
1,782
$
105,230
Agency MBS (a)
—
1,021
27,745
153,740
182,506
2,405
1,970
182,071
State and political subdivisions
381
632
10,442
60,487
71,942
3,354
448
69,036
Total available-for-sale
$
10,496
27,861
95,622
225,651
359,630
7,493
4,200
$
356,337
December 31, 2020
Agency obligations (a)
$
5,048
24,834
55,367
12,199
97,448
3,156
98
$
94,390
Agency MBS (a)
—
1,154
20,502
141,814
163,470
3,245
133
160,358
State and political subdivisions
477
632
8,405
64,745
74,259
3,988
11
70,282
Total available-for-sale
$
5,525
26,620
84,274
218,758
335,177
10,389
242
$
325,030
(a) Includes securities issued by U.S. government agencies or
government-sponsored entities.
Securities with aggregate fair values of $
178.1
million and $
166.9
million at March 31, 2021 and December 31, 2020,
respectively, were pledged to
secure public deposits, securities sold under agreements to repurchase,
Federal Home Loan
Bank (“FHLB”) advances, and for other purposes required
or permitted by law.
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10
Included in other assets on the accompanying consolidated balance sheets
are non-marketable equity investments.
The
carrying amounts of non-marketable equity investments were
$
1.2
million and $
1.4
million at March 31, 2021 and
December 31, 2020, respectively.
Non-marketable equity investments include FHLB of Atlanta Stock,
Federal Reserve
Bank (“FRB”) stock, and stock in a privately held financial institution.
Gross Unrealized Losses and Fair Value
The fair values and gross unrealized losses on securities at March
31, 2021 and December 31, 2020, respectively,
segregated by those securities that have been in an unrealized
loss position for less than 12 months and 12 months or
longer, are presented below.
Less than 12 Months
12 Months or Longer
Total
Fair
Unrealized
Fair
Unrealized
Fair
Unrealized
(Dollars in thousands)
Value
Losses
Value
Losses
Value
Losses
March 31, 2021:
Agency obligations
$
50,357
1,782
—
—
$
50,357
1,782
Agency MBS
91,931
1,970
—
—
91,931
1,970
State and political subdivisions
10,750
448
—
—
10,750
448
Total
$
153,038
4,200
—
—
$
153,038
4,200
December 31, 2020:
Agency obligations
$
15,416
98
—
—
$
15,416
98
Agency MBS
41,488
133
—
—
41,488
133
State and political subdivisions
2,945
11
—
—
2,945
11
Total
$
59,849
242
—
—
$
59,849
242
For the securities in the previous table, the Company does not
have the intent to sell and has determined it is not more likely
than not that the Company will be required to sell the securities
before recovery of the amortized cost basis, which may be
maturity.
On a quarterly basis, the Company assesses each security for
credit impairment. For debt securities, the Company
evaluates, where necessary,
whether credit impairment exists by comparing the present value
of the expected cash flows to
the securities’
amortized cost basis.
In determining whether a loss is temporary,
the Company considers all relevant information including:
●
the length of time and the extent to which the fair value has been
less than the amortized cost basis;
●
adverse conditions specifically related to the security,
an industry, or a geographic
area (for example, changes in
the financial condition of the issuer of the security,
or in the case of an asset-backed debt security,
in the financial
condition of the underlying loan obligors, including changes in technology
or the discontinuance of a segment of
the business that may affect the future earnings potential of
the issuer or underlying loan obligors of the security or
changes in the quality of the credit enhancement);
●
the historical and implied volatility of the fair value of the security;
●
the payment structure of the debt security and the likelihood of the issuer
being able to make payments that
increase in the future;
●
failure of the issuer of the security to make scheduled interest
or principal payments;
●
any changes to the rating of the security by a rating agency; and
●
recoveries or additional declines in fair value subsequent to the
balance sheet date.
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11
Agency obligations
The unrealized losses associated with agency obligations were
primarily driven by declines in interest rates and not due to
the credit quality of the securities. These securities were issued
by U.S. government agencies or government-sponsored
entities and did not have any credit losses given the explicit government
guarantee or other government support.
Agency mortgage-backed securities (“MBS”)
The unrealized losses associated with agency MBS were primarily
driven by changes in interest rates and not due to the
credit quality of the securities. These securities were issued by U.S.
government agencies or government-sponsored entities
and did not have any credit losses given the explicit government guarantee
or other government support.
Securities of U.S. states and political subdivisions
The unrealized losses associated with securities of U.S. states and
political subdivisions were primarily driven by declines
in interest rates and were not due to the credit quality of the securities.
Some of these securities are guaranteed by a bond
insurer, but management did not rely on the
guarantee in making its investment decision.
These securities will continue to
be monitored as part of the Company’s
quarterly impairment analysis, but are expected to
perform even if the rating
agencies reduce the credit rating of the bond insurers. As a result, the
Company
expects to recover the entire amortized cost
basis of these securities.
The carrying values of the Company’s
investment securities could decline in the future if the financial
condition of an
issuer deteriorates and the Company determines it is probable
that it will not recover the entire amortized cost basis for the
security. As a result, there is
a risk that other-than-temporary impairment charges
may occur in the future.
Other-Than-Temporarily
Impaired Securities
Credit-impaired debt securities are debt securities where the Company
has written down the amortized cost basis of a
security for other-than-temporary impairment and the credit
component of the loss is recognized in earnings. At March 31,
2021 and December 31, 2020, the Company had no credit-impaired
debt securities and there were no additions or
reductions in the credit loss component of credit-impaired debt
securities during the quarters ended March 31, 2021 and
2020, respectively.
Realized Gains and Losses
The following table presents the gross realized gains and losses on sales
of securities.
Quarter ended March 31,
(Dollars in thousands)
2021
2020
Gross realized gains
$
—
$
6
Gross realized losses
—
—
Realized gains, net
$
—
$
6
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12
NOTE 4: LOANS AND ALLOWANCE
FOR LOAN LOSSES
March 31,
December 31,
(Dollars in thousands)
2021
2020
Commercial and industrial
$
88,687
$
82,585
Construction and land development
30,332
33,514
Commercial real estate:
Owner occupied
52,257
54,033
Hotel/motel
48,268
42,900
Multi-family
37,936
40,203
Other
116,270
118,000
Total commercial real estate
254,731
255,136
Residential real estate:
Consumer mortgage
33,651
35,027
Investment property
49,197
49,127
Total residential real estate
82,848
84,154
Consumer installment
6,524
7,099
Total loans
463,122
462,488
Less: unearned income
(1,243)
(788)
Loans, net of unearned income
$
461,879
$
461,700
Loans secured by real estate were approximately
79.4%
of the Company’s total loan portfolio
at March 31, 2021.
At March
31, 2021, the Company’s geographic
loan distribution was concentrated primarily in Lee County,
Alabama, and
surrounding areas.
In accordance with ASC 310, a portfolio segment is defined as the level
at which an entity develops and documents a
systematic method for determining its allowance for loan losses.
As part of the Company’s quarterly
assessment of the
allowance, the loan portfolio is disaggregated into the following portfolio
segments: commercial and industrial,
construction and land development, commercial real estate, residential
real estate, and consumer installment. Where
appropriate, the Company’s loan
portfolio segments are further disaggregated into classes.
A class is generally determined
based on the initial measurement attribute, risk characteristics of the
loan, and an entity’s method
for monitoring and
determining credit risk.
The following describes
the risk characteristics relevant to each of the portfolio
segments and classes.
Commercial and industrial (“C&I”) —
includes loans to finance business operations, equipment purchases,
or other needs
for small and medium-sized commercial customers. Also
included in this category are loans to finance agricultural
production.
Generally, the primary source
of repayment is the cash flow from business operations and activities
of the
borrower.
We are
a participating lender in the Paycheck Protection Program (“PPP”).
PPP loans are forgivable in whole or
in part, if the proceeds are used for payroll and other permitted
purposes in accordance with the requirements of the PPP.
As of March 31, 2021, the Company has
373
PPP loans with an aggregate outstanding principal balance of $
28.7
million
included in this category.
Construction and land development (“C&D”) —
includes both loans and credit lines for the purpose of purchasing,
carrying, and developing land into commercial developments or
residential subdivisions. Also included are loans and credit
lines for construction of residential, multi-family,
and commercial buildings. Generally,
the primary source of repayment is
dependent upon the sale or refinance of the real estate collateral.
Commercial real estate
(“CRE”) —
includes loans disaggregated into four classes: (1) owner occupied,
(2) hotel/motel,
(3) multifamily and (4)
other.
●
Owner occupied
– includes loans secured by business facilities to finance business operations,
equipment and
owner-occupied facilities primarily for small and
medium-sized commercial customers.
Generally, the primary
source of repayment is the cash flow from business operations and
activities of the borrower, who owns the
property.
Table of Contents
13
●
Hotel/motel
– includes loans for hotels and motels.
Generally, the primary source
of repayment is dependent upon
income generated from the real estate collateral.
The underwriting of these loans takes into consideration the
occupancy and rental rates, as well as the financial health of the borrower.
●
Multi-family
– primarily includes loans to finance income-producing multi-family
properties.
Loans in this class
include loans for 5 or more unit residential property and apartments
leased to residents. Generally,
the primary
source of repayment is dependent upon income generated from the real
estate collateral. The underwriting of these
loans takes into consideration the occupancy and rental rates
,
as well as the financial health of the borrower.
●
Other
– primarily includes loans to finance income-producing commercial
properties that are not owner occupied.
Loans in this class include loans for neighborhood retail centers,
medical and professional offices, single retail
stores, industrial buildings, and warehouses leased to local businesses. Generally,
the primary source of repayment
is dependent upon income generated from the real estate collateral.
The underwriting of these loans takes into
consideration the occupancy and rental rates, as well as the financial
health of the borrower.
Residential real estate (“RRE”) —
includes loans disaggregated into two classes: (1) consumer mortgage
and (2)
investment property.
●
Consumer mortgage
– primarily includes first or second lien mortgages and home equity
lines of credit to
consumers that are secured by a primary residence or second home. These
loans are underwritten in accordance
with the Bank’s general loan policies
and procedures which require, among other things, proper
documentation of
each borrower’s financial condition, satisfactory credit
history,
and property value.
●
Investment property
– primarily includes loans to finance income-producing 1-4 family residential
properties.
Generally, the primary source
of repayment is dependent upon income generated from leasing the
property
securing the loan. The underwriting of these loans takes into consideration
the rental rates and property value, as
well as the financial health of the borrower.
Consumer installment —
includes loans to individuals both secured by personal property
and unsecured.
Loans include
personal lines of credit, automobile loans, and other retail loans.
These loans are underwritten in accordance with the
Bank’s general loan policies and
procedures which require, among other things, proper
documentation of each borrower’s
financial condition, satisfactory credit history,
and,
if applicable, property value.
Table of Contents
14
The following is a summary of current, accruing past due, and nonaccrual
loans by portfolio segment and class as of March
31, 2021 and December 31, 2020.
Accruing
Accruing
Total
30-89 Days
Greater than
Accruing
Non-
Total
(Dollars in thousands)
Current
Past Due
90 days
Loans
Accrual
Loans
March 31, 2021:
Commercial and industrial
$
88,645
42
—
88,687
—
$
88,687
Construction and land development
30,322
10
—
30,332
—
30,332
Commercial real estate:
Owner occupied
52,257
—
—
52,257
—
52,257
Hotel/motel
48,268
—
—
48,268
—
48,268
Multi-family
37,936
—
—
37,936
—
37,936
Other
115,884
180
—
116,064
206
116,270
Total commercial real estate
254,345
180
—
254,525
206
254,731
Residential real estate:
Consumer mortgage
32,783
394
—
33,177
474
33,651
Investment property
49,089
5
—
49,094
103
49,197
Total residential real estate
81,872
399
—
82,271
577
82,848
Consumer installment
6,488
36
—
6,524
—
6,524
Total
$
461,672
667
—
462,339
783
$
463,122
December 31, 2020:
Commercial and industrial
$
82,355
230
—
82,585
—
$
82,585
Construction and land development
33,453
61
—
33,514
—
33,514
Commercial real estate:
Owner occupied
54,033
—
—
54,033
—
54,033
Hotel/motel
42,900
—
—
42,900
—
42,900
Multi-family
40,203
—
—
40,203
—
40,203
Other
117,759
29
—
117,788
212
118,000
Total commercial real estate
254,895
29
—
254,924
212
255,136
Residential real estate:
Consumer mortgage
33,169
1,503
140
34,812
215
35,027
Investment property
49,014
6
—
49,020
107
49,127
Total residential real estate
82,183
1,509
140
83,832
322
84,154
Consumer installment
7,069
29
1
7,099
—
7,099
Total
$
459,955
1,858
141
461,954
534
$
462,488
Allowance for Loan Losses
The Company assesses the adequacy of its allowance for loan
losses prior to the end of each calendar quarter.
The level of
the allowance is based upon management’s
evaluation of the loan portfolio, past loan loss experience,
current asset quality
trends, known and inherent risks in the portfolio, adverse situations
that may affect a borrower’s ability to
repay (including
the timing of future payment), the estimated value of any underlying
collateral, composition of the loan portfolio, economic
conditions, industry and peer bank loan loss rates, and other pertinent
factors, including regulatory recommendations. This
evaluation is inherently subjective as it requires material estimates including
the amounts and timing of future cash flows
expected to be received on impaired loans that may be susceptible
to significant change. Loans are charged off, in whole
or
in part, when management believes that the full collectability of the
loan is unlikely. A loan
may be partially charged-off
after a “confirming event” has occurred, which serves to validate
that full repayment pursuant to the terms of the loan is
unlikely.
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15
The Company deems loans impaired when, based on current information
and events, it is probable that the Company will
be unable to collect all amounts due according to the contractual
terms of the loan agreement. Collection of all amounts due
according to the contractual terms means that both the interest
and principal payments of a loan will be collected as
scheduled in the loan agreement.
An impairment allowance is recognized if the fair value of the
loan is less than the recorded investment in the loan. The
impairment is recognized through the allowance. Loans that are
impaired are recorded at the present value of expected
future cash flows discounted at the loan’s
effective interest rate, or if the loan is collateral dependent,
the impairment
measurement is based on the fair value of the collateral, less estimated
disposal costs.
The level of allowance maintained is believed by management to
be adequate to absorb probable losses inherent in the
portfolio at the balance sheet date. The allowance is increased
by provisions charged to expense and decreased by charge-
offs, net of recoveries of amounts previously charged
-off.
In assessing the adequacy of the allowance, the Company also
considers the results of its ongoing internal and independent
loan review processes. The Company’s
loan review process assists in determining whether there are
loans in the portfolio
whose credit quality has weakened over time and evaluating the risk characteristics
of the entire loan portfolio. The
Company’s loan review process includes
the judgment of management, the input from our independent
loan reviewers, and
reviews conducted by bank regulatory agencies as part of their
examination process. The Company incorporates loan
review results in the determination of whether or not it is probable
that it will be able to collect all amounts due according
to the contractual terms of a loan.
As part of the Company’s quarterly assessment
of the allowance, management divides the loan portfol
io into five segments:
commercial and industrial, construction and land development, commercial
real estate, residential real estate, and consumer
installment. The Company analyzes each segment and estimates
an allowance allocation for each loan segment.
The allocation of the allowance for loan losses begins with a
process of estimating the probable losses inherent for each
loan segment. The estimates for these loans are established by category
and based on the Company’s internal
system of
credit risk ratings and historical loss data.
The estimated loan loss allocation rate for the Company’s
internal system of
credit risk grades is based on its experience with similarly graded
loans. For loan segments where the Company believes it
does not have sufficient historical loss data, the Company
may make adjustments based, in part, on loss rates of peer
bank
groups.
At March 31, 2021 and December 31, 2020, and for the periods then ended,
the Company adjusted its historical
loss rates for the commercial real estate portfolio segment based,
in part, on loss rates of peer bank groups.
The estimated loan loss allocation for all five loan portfolio segments
is then adjusted for management’s
estimate of
probable losses for several “qualitative and environmental” factors.
The allocation for qualitative and environmental factors
is particularly subjective and does not lend itself to exact mathematical
calculation. This amount represents estimated
probable inherent credit losses which exist, but have not yet been
identified, as of the balance sheet date, and are based
upon quarterly trend assessments in delinquent and nonaccrual
loans, credit concentration changes, prevailing economic
conditions, changes in lending personnel experience, changes
in lending policies or procedures, and other factors. T
hese
qualitative and environmental factors are considered for each
of the five loan segments and the allowance allocation, as
determined by the processes noted above, is increased or
decreased based on the incremental assessment of these factors.
The Company regularly re-evaluates its practices in determining the
allowance for loan losses. Since the fourth quarter of
2016, the Company has increased its look-back period each quarter
to incorporate the effects of at least one economic
downturn in its loss history. The
Company believes the extension of its look-back period
is appropriate due to the risks
inherent in the loan portfolio. Absent this extension, the early
cycle periods in which the Company experienced significant
losses would be excluded from the determination of the allowance for
loan losses and its balance would decrease.
For the
quarter ended March 31, 2021, the Company increased its look
-back period to 48 quarters to continue to include losses
incurred by the Company beginning with the first quarter of 2009.
The Company will likely continue to increase its look-
back period to incorporate the effects of at least one
economic downturn in its loss history.
During 2020,
the Company
adjusted certain qualitative and economic factors related to changes i
n
economic conditions driven by the impact of the
novel strain of coronavirus (“COVID-19 pandemic”) and resulting adverse
economic conditions, including higher
unemployment in our primary market area.
Table of Contents
16
The following table details the changes in the allowance for loan
losses by portfolio segment for the respective periods.
March 31, 2021
(Dollars in thousands)
Commercial and
industrial
Construction
and land
development
Commercial
real estate
Residential
real estate
Consumer
installment
Total
Quarter ended:
Beginning balance
$
807
594
3,169
944
104
$
5,618
Charge-offs
—
—
—
—
(5)
(5)
Recoveries
2
—
50
13
4
69
Net recoveries
2
—
50
13
(1)
64
Provision for loan losses
19
(43)
40
(6)
(10)
—
Ending balance
$
828
551
3,259
951
93
$
5,682
March 31, 2020
(Dollars in thousands)
Commercial and
industrial
Construction
and land
development
Commercial
real estate
Residential
real estate
Consumer
installment
Total
Quarter ended:
Beginning balance
$
577
569
2,289
813
138
$
4,386
Charge-offs
—
—
—
—
(5)
(5)
Recoveries
53
—
—
31
2
86
Net (charge-offs) recoveries
53
—
—
31
(3)
81
Provision for loan losses
45
13
307
33
2
400
Ending balance
$
675
582
2,596
877
137
$
4,867
Table of Contents
17
The following table presents an analysis of the allowance for
loan losses and recorded investment in loans by portfolio
segment and impairment methodology as of March 31, 2021
and 2020.
Collectively evaluated (1)
Individually evaluated (2)
Total
Allowance
Recorded
Allowance
Recorded
Allowance
Recorded
for loan
investment
for loan
investment
for loan
investment
(Dollars in thousands)
losses
in loans
losses
in loans
losses
in loans
March 31, 2021:
Commercial and industrial (3)
$
828
88,687
—
—
828
88,687
Construction and land development
551
30,332
—
—
551
30,332
Commercial real estate
3,259
254,525
—
206
3,259
254,731
Residential real estate
951
82,745
—
103
951
82,848
Consumer installment
93
6,524
—
—
93
6,524
Total
$
5,682
462,813
—
309
5,682
463,122
March 31, 2020:
Commercial and industrial
$
675
56,447
—
—
675
56,447
Construction and land development
582
32,302
—
—
582
32,302
Commercial real estate
2,596
256,099
—
—
2,596
256,099
Residential real estate
877
91,010
—
—
877
91,010
Consumer installment
137
8,424
—
—
137
8,424
Total
$
4,867
444,282
—
—
4,867
444,282
(1)
Represents loans collectively evaluated for impairment in accordance
with ASC 450-20,
Loss Contingencies
, and
pursuant to amendments by ASU 2010-20 regarding allowance for
non-impaired loans.
(2)
Represents loans individually evaluated for impairment in accordance
with ASC 310-30,
Receivables
, and
pursuant to amendments by ASU 2010-20 regarding allowance for
impaired loans.
(3)
Includes $28.7 million of PPP loans for which no loan loss reserve
was allocated due to 100% SBA guarantee.
Credit Quality Indicators
The credit quality of the loan portfolio is summarized no less frequently
than quarterly using categories similar to the
standard asset classification system used by the federal banking agencies.
The following table presents credit quality
indicators for the loan portfolio segments and classes. These
categories are utilized to develop the associated allowance for
loan losses using historical losses adjusted for qualitative and
environmental factors and are defined as follows:
●
Pass – loans which 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.
●
Special Mention – loans with potential weakness that may,
if not reversed or corrected, weaken the credit or
inadequately protect the Company’s
position at some future date. These loans are not adversely classified
and do
not expose an institution to sufficient risk to warrant an
adverse classification.
●
Substandard Accruing – loans that exhibit a well-defined weakness which
presently jeopardizes debt repayment,
even though they are currently performing. These loans are characterized
by the distinct possibility that the
Company may incur a loss in the future if these weaknesses are
not corrected.
●
Nonaccrual – includes loans where management has determined
that full payment of principal and interest is not
expected.
Table of Contents
18
(Dollars in thousands)
Pass
Special
Mention
Substandard
Accruing
Nonaccrual
Total loans
March 31, 2021:
Commercial and industrial
$
86,376
2,012
299
—
$
88,687
Construction and land development
30,085
—
247
—
30,332
Commercial real estate:
Owner occupied
50,091
2,029
137
—
52,257
Hotel/motel
40,452
7,816
—
—
48,268
Multi-family
34,406
3,530
—
—
37,936
Other
114,809
1,219
36
206
116,270
Total commercial real estate
239,758
14,594
173
206
254,731
Residential real estate:
Consumer mortgage
31,108
320
1,749
474
33,651
Investment property
48,465
286
343
103
49,197
Total residential real estate
79,573
606
2,092
577
82,848
Consumer installment
6,509
6
9
—
6,524
Total
$
442,301
17,218
2,820
783
$
463,122
December 31, 2020:
Commercial and industrial
$
79,984
2,383
218
—
$
82,585
Construction and land development
33,260
—
254
—
33,514
Commercial real estate:
Owner occupied
51,265
2,627
141
—
54,033
Hotel/motel
35,084
7,816
—
—
42,900
Multi-family
36,673
3,530
—
—
40,203
Other
116,498
1,243
47
212
118,000
Total commercial real estate
239,520
15,216
188
212
255,136
Residential real estate:
Consumer mortgage
32,518
397
1,897
215
35,027
Investment property
48,501
187
332
107
49,127
Total residential real estate
81,019
584
2,229
322
84,154
Consumer installment
7,069
7
23
—
7,099
Total
$
440,852
18,190
2,912
534
$
462,488
Table of Contents
19
Impaired loans
The following tables present details related to the Company’s
impaired loans. Loans that have been fully charged-off
are
not included in the following tables. The related
allowance generally represents the following components that correspond
to impaired loans:
●
Individually evaluated impaired loans equal to or greater than $500,000
secured by real estate (nonaccrual
construction and land development, commercial real estate, and
residential real estate loans).
●
Individually evaluated impaired loans equal to or greater than $250,000
not secured by real estate (nonaccrual
commercial and industrial and consumer installment loans).
The following tables set forth certain information regarding the
Company’s impaired loans
that were individually evaluated
for impairment at March 31, 2021 and December 31, 2020.
March 31, 2021
(Dollars in thousands)
Unpaid principal
balance (1)
Charge-offs and
payments applied
(2)
Recorded
investment (3)
Related allowance
With no allowance recorded:
Commercial real estate:
Other
$
214
(8)
206
$
—
Total commercial real estate
214
(8)
206
—
Residential real estate:
Investment property
106
(3)
103
—
Total residential real estate
106
(3)
103
—
Total
impaired loans
$
320
(11)
309
$
—
(1) Unpaid principal balance represents the contractual obligation due
from the customer.
(2) Charge-offs and payments applied represents cumulative charge-offs taken, as well as interest payments
that have been
applied against the outstanding principal balance subsequent to the loans
being placed on nonaccrual status.
(3) Recorded investment represents the unpaid principal balance less
charge-offs and payments applied; it is shown before
any related allowance for loan losses.
December 31, 2020
(Dollars in thousands)
Unpaid principal
balance (1)
Charge-offs and
payments applied
(2)
Recorded
investment (3)
Related allowance
With no allowance recorded:
Commercial real estate:
Other
216
(4)
212
$
—
Total commercial real estate
216
(4)
212
—
Residential real estate:
Investment property
109
(2)
107
—
Total residential real estate
109
(2)
107
—
Total
impaired loans
$
325
(6)
319
$
—
(1) Unpaid principal balance represents the contractual obligation due
from the customer.
(2) Charge-offs and payments applied represents cumulative charge-offs taken, as well as interest payments
that have been
applied against the outstanding principal balance subsequent to the loans
being placed on nonaccrual status.
(3) Recorded investment represents the unpaid principal balance less
charge-offs and payments applied; it is shown before
any related allowance for loan losses.
Table of Contents
20
The following table provides the average recorded investment in impaired
loans, if any, by portfolio
segment, and the
amount of interest income recognized on impaired loans after
impairment by portfolio segment and class during the
respective periods.
Quarter ended March 31, 2021
Quarter ended March 31, 2020
Average
Total interest
Average
Total interest
recorded
income
recorded
income
(Dollars in thousands)
investment
recognized
investment
recognized
Impaired loans:
Commercial real estate:
Other
$
208
—
—
$
—
Total commercial real estate
208
—
—
—
Residential real estate:
Investment property
104
—
—
—
Total residential real estate
104
—
—
—
Total
$
312
—
—
$
—
Troubled Debt
Restructurings
Impaired loans also include troubled debt restructurings (“TDRs”).
On March 27, 2020, the Coronavirus Aid, Relief, and
Economic Security Act (“CARES
Act”) was signed into law. Section
4013 of the CARES Act, “Temporary
Relief From
Troubled Debt Restructurings,” provides
banks the option to temporarily suspend certain requirements under ASC
340-10
TDR classifications for a limited period of time to account for
the effects of COVID-19. On April 7, 2020, the Federal
Reserve and the other banking agencies and regulators issued
a statement, “Interagency Statement on Loan Modifications
and Reporting for Financial Institutions Working
With Customers Affected by
the Coronavirus (Revised)” (the
“Interagency Statement on COVID-19 Loan Modifications”),
to encourage banks to work prudently with borrowers and to
describe the agencies’ interpretation of how accounting rules
under ASC 310-40, “Troubled Debt
Restructurings by
Creditors,” apply to certain COVID-19-related modifications.
The Interagency Statement on COVID-19 Loan
Modifications was supplemented on June 23, 2020 by the Interagency
Examiner Guidance for Assessing Safety and
Soundness Considering the Effect of the COVID-19
Pandemic on Institutions.
If a loan modification is eligible, a bank
may elect to account for the loan under section 4013
of the CARES Act. If a loan modification is not eligible under section
4013, or if the bank elects not to account for the loan modification
under section 4013, the Revised Statement includes
criteria when a bank may presume a loan modification is not
a TDR in accordance with ASC 310-40.
The Company evaluates loan extensions or modifications not
qualified under Section 4013 of the CARES Act or under the
Interagency Statement on COVID-19 Loan Modifications in accordance
with FASB ASC 340
-10 with respect to the
classification of the loan as a TDR.
In the normal course of business, management may grant concessions
to borrowers that
are experiencing financial difficulty.
A concession may include, but is not limited to, delays in required
payments of
principal and interest for a specified period, reduction of the stated
interest rate of the loan, reduction of accrued interest,
extension of the maturity date, or reduction of the face amount or
maturity amount of the debt.
A concession has been
granted when, as a result of the restructuring, the Bank does not expect
to collect, when due, all amounts owed, including
interest at the original stated rate.
A concession may have also been granted if the debtor is not able
to access funds
elsewhere at a market rate for debt with similar risk characteristics
as the restructured debt.
In making the determination of
whether a loan modification is a TDR, the Company considers
the individual facts and circumstances surrounding each
modification.
As part of the credit approval process, the restructured loans are evaluated
for adequate collateral protection
in determining the appropriate accrual status at the time of restructure.
Similar to other impaired loans, TDRs are measured for impairment
based on the present value of expected payments using
the loan’s original effective
interest rate as the discount rate, or the fair value of the collateral,
less selling costs if the loan is
collateral dependent. If the recorded investment in the loan exceeds
the measure of fair value, impairment is recognized by
establishing a valuation allowance as part of the allowance for
loan losses or a charge-off to the allowance for
loan losses.
In periods subsequent to the modification, all TDRs are individually
evaluated for possible impairment.
Table of Contents
21
The following is a summary of accruing and nonaccrual TDRs, which
are included in the impaired loan totals, and the
related allowance for loan losses, by portfolio segment and class as of
March 31, 2021 and December 31, 2020,
respectively.
TDRs
Related
(Dollars in thousands)
Accruing
Nonaccrual
Total
Allowance
March 31, 2021
Commercial real estate:
Other
$
—
206206
$
—
Total commercial real estate
—
206206
—
Residential real estate:
Investment property
—
103103
—
Total residential real estate
—
103103
—
Total
$
—
309309
$
—
TDRs
Related
(In thousands)
Accruing
Nonaccrual
Total
Allowance
December 31, 2020
Commercial real estate:
Other
$
—
212212
$
—
Total commercial real estate
—
212212
—
Investment property
—
107107
—
Total residential real estate
—
107107
—
Total
$
—
319319
$
—
At March 31, 2021 there were no significant outstanding commitments
to advance additional funds
to customers whose
loans had been restructured.
There were no loans modified in a TDR during the quarters
ended March 31, 2021 and 2020.
During the quarters
ended March 31, 2021 and 2020, respectively,
there were no loans modified in a TDR within the
previous 12 months for which there was a payment default (defined
as 90 days or more past due).
NOTE 5: MORTGAGE SERVICING
RIGHTS, NET
Mortgage servicing rights (“MSRs”) are recognized based on
the fair value of the servicing rights on the date the
corresponding mortgage loans are sold.
An estimate of the Company’s MSRs is determined
using assumptions that market
participants would use in
estimating future net servicing income, including estimates of prepayment
speeds, discount rate,
default rates, cost to service, escrow account earnings, contractual
servicing fee income, ancillary income, and late fees.
Subsequent to the date of transfer, the Company
has elected to measure its MSRs under the amortization method.
Under
the amortization method, MSRs are amortized in proportion
to, and over the period of, estimated net servicing income.
The Company has recorded MSRs related to loans sold to
Fannie Mae.
The Company generally sells conforming, fixed-
rate, closed-end, residential mortgages to Fannie Mae.
MSRs are included in other assets on the accompanying
consolidated balance sheets.
The Company evaluates MSRs for impairment on a quarterly basis.
Impairment is determined by stratifying MSRs into
groupings based on predominant risk characteristics, such as interest
rate and loan type.
If, by individual stratum, the
carrying amount of the MSRs exceeds fair value, a valuation
allowance is established.
The valuation allowance is adjusted
as the fair value changes.
Changes in the valuation allowance are recognized
in earnings as a component of mortgage
lending income.
Table of Contents
22
The change in amortized MSRs and the related valuation allowance
for the quarters ended March 31, 2021 and 2020
are
presented below.
Quarter ended March 31,
(Dollars in thousands)
2021
2020
MSRs, net:
Beginning balance
$
1,330
$
1,299
Additions, net
142
49
Amortization expense
(150)
(99)
Ending balance
$
1,322
$
1,249
Valuation
allowance included in MSRs, net:
Beginning of period
$
—
$
—
End of period
—
—
Fair value of amortized MSRs:
Beginning of period
$
1,489
$
2,111
End of period
1,774
1,917
NOTE 6: FAIR VALUE
Fair Value
Hierarchy
“Fair value” is defined by ASC 820,
Fair Value
Measurements and Disclosures
, as the price that would be received to sell
an asset or paid to transfer a liability in an orderly transaction occurring
in the principal market (or most advantageous
market in the absence of a principal market) for an asset or
liability at the measurement date.
GAAP establishes a fair
value hierarchy for valuation inputs that gives the highest priority to
quoted prices in active markets for identical assets or
liabilities and the lowest priority to unobservable inputs.
The fair value hierarchy is as follows:
Level 1—inputs to the valuation methodology are quoted prices, unadjusted,
for identical assets or liabilities in active
markets.
Level 2—inputs to the valuation methodology include quoted
prices for similar assets and liabilities in active markets,
quoted prices for identical or similar assets or liabilities in markets
that are not active, or inputs that are observable for the
asset or liability, either directly
or indirectly.
Level 3—inputs to the valuation methodology are unobservable
and reflect the Company’s own assumptions
about the
inputs market participants would use in pricing the asset or liability.
Level changes in fair value measurements
Transfers between levels of the fair value hierarchy
are generally recognized at the end of each reporting period.
The
Company monitors the valuation techniques utilized for each
category of financial assets and liabilities to ascertain when
transfers between levels have been affected.
The nature of the Company’s financial
assets and liabilities generally is such
that transfers in and out of any level are expected to be infrequent.
For the quarter ended March 31, 2021, there were no
transfers between levels and no changes in valuation techniques for
the Company’s financial assets and
liabilities.
Table of Contents
23
Assets and liabilities measured at fair value
on a recurring basis
Securities available-for-sale
Fair values of securities available for sale were primarily measured
using Level 2 inputs.
For these securities, the Company
obtains pricing from third party pricing services.
These third party pricing services consider observable data
that may
include broker/dealer quotes, market spreads, cash flows, benchmark
yields, reported trades for similar securities, market
consensus prepayment speeds, credit information, and the securities’
terms and conditions.
On a quarterly basis,
management reviews the pricing received from the third party
pricing services for reasonableness given current market
conditions.
As part of its review, management
may obtain non-binding third party broker quotes to validate the fair
value
measurements.
In addition, management will periodically submit pricing provided
by the third party pricing services to
another independent valuation firm on a sample basis.
This independent valuation firm will compare the price provided
by
the third party pricing service with its own price and will review the
significant assumptions and valuation methodologies
used with management.
The following table presents the balances of the assets and liabilities
measured at fair value on a recurring basis as of March
31, 2021 and December 31, 2020, respectively,
by caption, on the accompanying consolidated balance
sheets by ASC 820
valuation hierarchy (as described above).
Quoted Prices in
Significant
Active Markets
Other
Significant
for
Observable
Unobservable
Identical Assets
Inputs
Inputs
(Dollars in thousands)
Amount
(Level 1)
(Level 2)
(Level 3)
March 31, 2021:
Securities available-for-sale:
Agency obligations
$
105,182
—
105,182
—
Agency RMBS
182,506
—
182,506
—
State and political subdivisions
71,942
—
71,942
—
Total securities available
-for-sale
359,630
—
359,630
—
Total
assets at fair value
$
359,630
—
359,630
—
December 31, 2020:
Securities available-for-sale:
Agency obligations
$
97,448
—
97,448
—
Agency RMBS
163,470
—
163,470
—
State and political subdivisions
74,259
—
74,259
—
Total securities available
-for-sale
335,177
—
335,177
—
Total
assets at fair value
$
335,177
—
335,177
—
Assets and liabilities measured at fair value
on a nonrecurring basis
Loans held for sale
Loans held for sale are carried at the lower of cost or fair value.
Fair values of loans held for sale are determined using
quoted market secondary market prices for similar loans.
Loans held for sale are classified within Level 2 of the fair value
hierarchy.
Impaired Loans
Loans considered impaired under ASC 310-10-35,
Receivables
, are loans for which, based on current information and
events, it is probable that the Company will be unable to collect
all principal and interest payments due in accordance with
the contractual terms of the loan agreement. Impaired loans can
be measured based on the present value of expected
payments using the loan’s original
effective rate as the discount rate, the loan’s
observable market price, or the fair value of
the collateral less selling costs if the loan is collateral dependent.
Table of Contents
24
The fair value of impaired loans was primarily measured based
on the value of the collateral securing these loans. Impaired
loans are classified within Level 3 of the fair value hierarchy.
Collateral may be real estate and/or business assets including
equipment, inventory, and/or
accounts receivable. The Company determines the value of the
collateral based on
independent appraisals performed by qualified licensed appraisers.
These appraisals may utilize a single valuation approach
or a combination of approaches including comparable sales and the income
approach. Appraised values are discounted for
costs to sell and may be discounted further based on management’s
historical knowledge, changes in market conditions
from the date of the most recent appraisal, and/or management’s
expertise and knowledge of the customer and the
customer’s business. Such discounts by management are subjective
and are typically significant unobservable inputs for
determining fair value. Impaired loans are reviewed and evaluated
on at least a quarterly basis for additional impairment
and adjusted accordingly, based
on the same factors discussed above.
Mortgage servicing rights, net
MSRs, net, included in other assets on the accompanying consolidated
balance sheets, are carried at the lower of cost or
estimated fair value.
MSRs do not trade in an active market with readily observable
prices.
To determine the fair value
of
MSRs, the Company engages an independent third party.
The independent third party’s
valuation model calculates the
present value of estimated future net servicing income using
assumptions that market participants would use in estimating
future net servicing income, including estimates of prepayment
speeds, discount rates, default rates, cost to service, escrow
account earnings, contractual servicing fee income, ancillary income,
and late fees.
Periodically, the Company will
review
broker surveys and other market research to validate significant
assumptions used in the model.
The significant
unobservable inputs include prepayment speeds or the constant prepayment
rate (“CPR”) and the weighted average
discount rate.
Because the valuation of MSRs requires the use of significant unobservable
inputs, all of the Company’s
MSRs are classified within Level 3 of the valuation hierarchy.
The following table presents the balances of the assets and liabilities
measured at fair value on a nonrecurring basis as of
March 31, 2021 and December 31, 2020, respectively,
by caption, on the accompanying consolidated balance sheets and
by
FASB ASC 820 valuation
hierarchy (as described above):
Quoted Prices in
Active Markets
Other
Significant
for
Observable
Unobservable
Carrying
Identical Assets
Inputs
Inputs
(Dollars in thousands)
Amount
(Level 1)
(Level 2)
(Level 3)
March 31, 2021:
Loans held for sale
$
1,279
—
1,279
—
Loans, net
(1)
309
—
—
309
Other assets
(2)
1,322
—
—
1,322
Total assets at fair value
$
2,910
—
1,279
1,631
December 31, 2020:
Loans held for sale
$
3,418
—
3,418
—
Loans, net
(1)
319
—
—
319
Other assets
(2)
1,330
—
—
1,330
Total assets at fair value
$
5,067
—
3,418
1,649
(1)
Loans considered impaired under ASC 310-10-35 Receivables.
This amount reflects the recorded investment in impaired loans,
net
of any related allowance for loan losses
(2)
Represents MSRs, net which are carried at lower of
cost or estimated fair value.
Table of Contents
25
Quantitative Disclosures for Level 3 Fair
Value Measurements
At March 31, 2021,
the Company had no Level 3 assets measured at fair value on a recurring basis.
For Level 3 assets
measured at fair value on a non-recurring basis at March 31,
2021, the significant unobservable inputs used in the fair value
measurements are presented below
.
Weighted
Carrying
Significant
Average
(Dollars in thousands)
Amount
Valuation Technique
Unobservable Input
Range
of Input
March 31, 2021:
Impaired loans
$
309
Appraisal
Appraisal discounts
10.0
-
10.0
%
10.0
%
Mortgage servicing rights, net
1,322
Discounted cash flow
Prepayment Speed or CPR
12.2
-
16.4
16.0
Discount rate
10.0
-
12.0
10.0
December 31, 2020:
Impaired loans
$
319
Appraisal
Appraisal discounts
10.0
-
10.0
%
10.0
%
Mortgage servicing rights, net
1,330
Discounted cash flow
Prepayment Speed or CPR
18.2
-
36.4
20.7
Discount rate
10.0
-
12.0
10.0
Fair Value
of Financial Instruments
ASC 825,
Financial Instruments
, requires disclosure of fair value information about financial
instruments, whether or not
recognized on the face of the balance sheet, for which it is practicable
to estimate that value. The assumptions used in the
estimation of the fair value of the Company’s
financial instruments are explained below.
Where quoted market prices are
not available, fair values are based on estimates using discounted
cash flow analyses. Discounted cash flows can be
significantly affected by the assumptions used,
including the discount rate and estimates of future cash flows. The
following fair value estimates cannot be substantiated by comparison
to independent markets and should not be considered
representative of the liquidation value of the Company’s
financial instruments, but rather are a good-faith estimate of the
fair value of financial instruments held by the Company.
ASC 825 excludes certain financial instruments and all
nonfinancial instruments from its disclosure requirements.
Table of Contents
26
The following methods and assumptions were used by the Company in
estimating the fair value of its financial instruments:
Loans, net
Fair values for loans were calculated using discounted cash flows. The
discount rates reflected current rates at which similar
loans would be made for the same remaining maturities. Expected
future cash flows were projected based on contractual
cash flows, adjusted for estimated prepayments.
The fair value of loans was measured using an exit
price notion.
Loans held for sale
Fair values of loans held for sale are determined using quoted
secondary market prices for similar loans.
Time Deposits
Fair values for time deposits were estimated using discounted
cash flows. The discount rates were based on rates currently
offered for deposits with similar remaining maturities.
The carrying value, related estimated fair value, and placement in the
fair value hierarchy of the Company’s
financial
instruments at March 31, 2021 and December 31, 2020
are presented below.
This table excludes financial instruments for
which the carrying amount approximates fair value.
Financial assets for which fair value approximates carrying
value
included cash and cash equivalents.
Financial liabilities for which fair value approximates carrying value
included
noninterest-bearing demand deposits,
interest-bearing demand deposits, and savings deposits.
Fair value approximates
carrying value in these financial liabilities due to these products having
no stated maturity.
Additionally, financial
liabilities for which fair value approximates carrying value included
overnight borrowings such as federal funds purchased
and securities sold under agreements to repurchase.
Fair Value Hierarchy
Carrying
Estimated
Level 1
Level 2
Level 3
(Dollars in thousands)
amount
fair value
inputs
inputs
Inputs
March 31, 2021:
Financial Assets:
Loans, net (1)
$
456,197
$
452,585
$
—
$
—
$
452,585
Loans held for sale
1,279
1,318
—
1,318
—
Financial Liabilities:
Time Deposits
$
159,162
$
160,606
$
—
$
160,606
$
—
December 31, 2020:
Financial Assets:
Loans, net (1)
$
456,082
$
451,816
$
—
$
—
$
451,816
Loans held for sale
3,418
3,509
—
3,509
—
Financial Liabilities:
Time Deposits
$
160,401
$
162,025
$
—
$
162,025
$
—
(1) Represents loans, net of unearned income and the allowance
for loan losses.
The fair value of loans was measured using an exit price notion.
Table of Contents
27
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS
OF
OPERATIONS
The following discussion and analysis is designed to provide
a better understanding of various factors related to the results
of operations and financial condition of the Company and the
Bank.
This discussion is intended to supplement and
highlight information contained in the accompanying unaudited
condensed consolidated financial statements and related
notes for the quarters ended March 31, 2021 and 2020,
as well as the information contained in our Annual Report on Form
10-K for the year ended December 31, 2020.
Special Notice Regarding Forward-Looking Statements
Various
of the statements made herein under the captions “Management’s
Discussion and Analysis of Financial Condition
and Results of Operations”, “Quantitative and Qualitative Disclosures
about Market Risk”, “Risk Factors” and elsewhere,
are “forward-looking statements” within the meaning and protections
of Section 27A of the Securities Act of 1933 and
Section 21E of the Securities Exchange Act of 1934, as amended
(the “Exchange Act”).
Forward-looking statements include statements with respect to
our beliefs, plans, objectives, goals, expectations,
anticipations, assumptions, estimates, intentions and future performance,
and involve known and unknown risks,
uncertainties and other factors, which may be beyond our
control, and which may cause the actual results, performance,
achievements or financial condition of the Company to be materially
different from future results, performance,
achievements or financial condition expressed or implied by
such forward-looking statements.
You
should not expect us to
update any forward-looking statements.
All statements other than statements of historical fact are statements
that could be forward-looking statements.
You
can
identify these forward-looking statements through our use of
words such as “may,” “will,” “anticipate,”
“assume,”
“should,” “indicate,” “would,” “believe,” “contemplate,” “expect,”
“estimate,” “continue,” “plan,” “point to,” “project,”
“could,” “intend,” “target” and other similar words and
expressions of the future.
These forward-looking statements may
not be realized due to a variety of factors, including, without
limitation:
●
the effects of future economic, business and market conditions
and changes, foreign, domestic and locally,
including seasonality, natural
disasters or climate change, such as rising sea and water levels,
hurricanes and
tornados, coronavirus or other epidemics or pandemics;
●
the effects of war or other conflicts, acts of terrorism, or
other events that may affect general economic conditions;
●
governmental monetary and fiscal policies;
●
legislative and regulatory changes, including changes in banking,
securities and tax laws, regulations and rules and
their application by our regulators, including capital and liquidity
requirements, and changes in the scope and cost
of FDIC insurance;
●
the failure of assumptions and estimates, as well as differences
in, and changes to, economic, market and credit
conditions, including changes in borrowers’ credit risks and
payment behaviors from those used in our loan
portfolio reviews;
●
the risks of changes in interest rates on the levels, composition
and costs of deposits, loan demand, and the values
and liquidity of loan collateral, securities, and interest-sensitive assets
and liabilities, and the risks and uncertainty
of the amounts realizable;
●
changes in borrower credit risks and payment behaviors;
●
changes in the availability and cost of credit and capital in the
financial markets, and the types of instruments that
may be included as capital for regulatory purposes;
●
changes in the prices, values and sales volumes of residential and
commercial real estate;
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28
●
the effects of competition from a wide variety of local,
regional, national and other providers of financial,
investment and insurance services, including the disruption effects
of financial technology and other competitors
who are not subject to the same regulations as the Company and
the Bank;
●
the failure of assumptions and estimates underlying the establishment
of allowances for possible loan losses and
other asset impairments, losses valuations of assets and liabilities and
other estimates;
●
the costs of redeveloping our headquarters and the timing and
amount of rental income upon completion of the
project;
●
the risks of mergers, acquisitions and divestitures, including,
without limitation, the related time and costs of
implementing such transactions, integrating operations as part
of these transactions and possible failures to achieve
expected gains, revenue growth and/or expense savings from
such transactions;
●
changes in technology or products that may be more difficult,
costly, or less effective
than anticipated;
●
cyber-attacks and data breaches that may compromise our
systems, our vendor systems
or customers’
information;
●
the risks that our deferred tax assets (“DTAs”),
if any, could be reduced
if estimates of future taxable income from
our operations and tax planning strategies are less than currently estimated,
and sales of our capital stock could
trigger a reduction in the amount of net operating loss carry-forwards that
we may be able to utilize for income tax
purposes; and
●
other factors and information in this report and other filings that we
make with the SEC under the Exchange Act,
including our Annual Report on Form 10-K for the year ended
December 31, 2020 and subsequent quarterly and
current reports. See Part II, Item 1A. “RISK FACT
ORS”.
All written or oral forward-looking statements that are made by us or
are attributable to us are expressly qualified in their
entirety by this cautionary notice.
We have no obligation and
do not undertake to update, revise or correct any of the
forward-looking statements after the date of this report, or after
the respective dates on which such statements otherwise are
made.
ITEM 1.
BUSINESS
Auburn National Bancorporation, Inc. (the “Company”) is a bank holding
company registered with the Board of Governors
of the Federal Reserve System (the “Federal Reserve”) under
the Bank Holding Company Act of 1956, as amended (the
“BHC Act”).
The Company was incorporated in Delaware in 1990, and
in 1994 it succeeded its Alabama predecessor as
the bank holding company controlling AuburnBank, an Alabama state
member bank with its principal office in Auburn,
Alabama (the “Bank”).
The Company and its predecessor have controlled the Bank since
1984.
As a bank holding
company, the Company may diversify
into a broader range of financial services and other business activities
than currently
are permitted to the Bank under applicable laws and regulations.
The holding company structure also provides greater
financial and operating flexibility than is presently permitted
to the Bank.
The Bank has operated continuously since 1907 and currently conducts
its business primarily in East Alabama, including
Lee County and surrounding areas.
The Bank has been a member of the Federal Reserve System since April
1995.
The
Bank’s primary regulators are
the Federal Reserve and the Alabama Superintendent of Banks (the
“Alabama
Superintendent”).
The Bank has been a member of the Federal Home Loan Bank of
Atlanta (the “FHLB”) since 1991.
Certain of the statements made in this discussion and analysis and
elsewhere, including information incorporated
herein by
reference to other documents, are “forward-looking statements”
within the meaning of, and subject to, the protections of
Section 27A of the Securities Act of 1933, as amended,
(the “Securities Act”) and Section 21E of the Securities Exchange
Act of 1934, as amended (the “Exchange Act”).
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29
Summary of Results of Operations
Quarter ended March 31,
(Dollars in thousands, except per share data)
2021
2020
Net interest income (a)
$
6,057
$
6,332
Less: tax-equivalent adjustment
120
120
Net interest income (GAAP)
5,937
6,212
Noninterest income
1,182
1,235
Total revenue
7,119
7,447
Provision for loan losses
—
400
Noninterest expense
4,690
4,856
Income tax expense
423
390
Net earnings
$
2,006
$
1,801
Basic and diluted earnings per share
$
0.56
$
0.50
(a) Tax-equivalent.
See "Table 1 - Explanation
of Non-GAAP Financial Measures."
Financial Summary
The Company’s net earnings were $2.0
million for the first quarter of 2021, compared to $1.8 million for the first
quarter of
2020.
Basic and diluted earnings per share were $0.56 per share for the first quarter
of 2021, compared to $0.50
per share
for the first quarter of 2020.
Net interest income (tax-equivalent) was $6.1 million for the
first quarter of 2021, a 4% decrease compared to $6.3
million
for the first quarter of 2020.
This decrease was primarily due to net interest margin compression
resulting from the Federal
Reserve’s interest rate reductions
in response to COVID-19.
Net interest margin (tax-equivalent) decreased
to 2.66% in the
first quarter of 2021, compared to 3.23% for the first quarter of
2020,
primarily due to the lower interest rate environment
and changes in our asset mix from the significant increase in
customer deposits.
At March 31, 2021, the Company’s
allowance for loan losses was $5.7 million, or 1.23%
of total loans, compared to $5.6
million, or 1.22%
of total loans, at December 31, 2020, and $4.9
million, or 1.10%
of total loans, at March 31, 2020.
Excluding PPP loans, which are guaranteed by the SBA, the Company’s
allowance for loan losses was 1.31%
of total loans
at March 31, 2021.
The Company had no provision for loan losses during the first quarter
of 2021,
compared to a provision
for loan losses of $0.4 million during the first quarter of 2020.
The provision for loan losses during the first quarter of 2020
was related to changes in economic conditions and portfolio
trends driven by COVID-19 and resulting adverse economic
conditions, including higher unemployment in our primary market area.
The provision for loan losses is based upon
various estimates and judgements, including the absolute level of loans,
loan growth, credit
quality and the amount of net
charge-offs.
Noninterest income was $1.2 million for the first quarter of 2021
and 2020,
respectively.
For the first quarter of 2021,
noninterest income included an increase in mortgage lending income
of $0.3 million.
The increase was primarily due to an
increase in mortgage lending income as lower interest rates for
mortgage loans positively affected refinance activity and
pricing margins improved.
For the first quarter of 2020, noninterest income included $0.3
million in non-taxable death
benefits from bank-owned life insurance.
Noninterest expense was $4.7 million for the first quarter of 2021
compared to $4.9 million for the first quarter of 2020.
The decrease was primarily due to a reduction of $0.
2
million in various expenses related to the redevelopment of the
Company’s headquarters in downtown
Auburn.
Income tax expense was $0.4 million for the first quarter of 2021
and 2020,
respectively, reflecting
an effective tax rate of
17.41% and 17.80%, respectively.
The Company paid cash dividends of $0.26 per share in the first quarter
of 2021, an increase of 2% from the same period of
2020.
At March 31, 2021, the Bank’s regulatory
capital ratios were well above the minimum amounts required
to be “well
capitalized” under current regulatory standards with a total
risk-based capital ratio of 18.25%, a tier 1 leverage ratio
of
9.99%
and a common equity tier 1 (“CET1”) ratio of 17.21%
at March 31, 2021.
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30
COVID-19 Impact Assessment
In December 2019, COVID-19 was first reported in China and
has since spread to a number of other countries, including
the United States. In March 2020, the World
Health Organization declared COVID-19 a global
pandemic and the United
States declared a National Public Health Emergency.
The COVID-19 pandemic has severely restricted the level
of
economic activity in our markets. In response to the COVID-19
pandemic, the State of Alabama, and most other states,
have taken preventative or protective actions to prevent the spread
of the virus, including imposing restrictions on travel
and business operations and a statewide mask mandate,
advising or requiring individuals to limit or forego their time
outside of their homes, limitations on gathering of people and
social distancing, and causing temporary closures of
businesses that have been deemed to be non-essential.
Though certain of these measures have been relaxed or
eliminated,
increases in reported cases could cause these measures to be
reestablished.
Auburn University, a major
source of economic
activity in Lee County, went to
remote instruction on March 16, 2020.
Auburn University announced its guidelines for the
remainder of the 2020/2021 school year,
which involves both remote and in person instruction as well as other social
distancing measures.
The economic effects of these measures are
not presently known.
COVID-19 has significantly affected local state, national
and global health and economic activity and its future effects
are
uncertain and will depend on various factors, including, among others,
the duration and scope of the pandemic, the
development and distribution of COVID-19 testing and contact
tracing, effective drug treatments and vaccines, together
with governmental, regulatory and private sector responses.
COVID-19 has had continuing significant effects on the
economy, financial markets and
our employees, customers and vendors. Our business, financial condition
and results of
operations generally rely upon the ability of our borrowers to
make deposits and repay their loans, the value of collateral
underlying our secured loans, market value, stability and liquidity and
demand for loans and other products and services we
offer, all of which are affected
by the pandemic.
See “Balance Sheet Analysis – Loans” for supplemental COVID
-19
disclosures.
We have implemented
a number of procedures in response to the pandemic to support
the safety and well-being of our
employees, customers and shareholders.
• We
believe our business continuity plan has worked to provide
essential banking services to our communities and
customers, while protecting our employees’ health.
As part of our efforts to exercise social distancing in accordance
with
the guidelines of the Centers for Disease Control and the Governor
of the State of Alabama, starting March 23, 2020, we
limited branch lobby service to appointment only while continuing to
operate our branch drive-thru
facilities and ATMs.
On June 1, 2020, we re-opened some of our branch lobbies as permitted
by state public health guidelines.
We continue to
provide services through our online and other electronic channels.
In addition, we established remote work access to help
employees stay at home where job duties permit.
• Our 2021 Annual Shareholders’ Meeting will, again, be
a virtual meeting.
Shareholders that wish to participate
may access web portals and live streams of the Annual Shareholders’
Meeting.
• We
are focused on servicing the financial needs of our commercial and consumer
clients with extensions and
deferrals to loan customers effected by COVID-19,
provided such customers were not more than 30 days past
due at the
time of the request; and
• We
are a participating lender in the PPP.
PPP loans are forgivable, in whole or in part, if the
proceeds are used for
payroll and other permitted purposes in accordance with the requirements
of the PPP.
These loans carry a fixed rate of
1.00% and a term of two years (loans made before June 5, 2020)
or five years (loans made on or after June 5, 2020), if not
forgiven, in whole or in part.
Payments are deferred until either the date on which the Small
Business Administration
(“SBA”) remits the amount of forgiveness proceeds
to the lender or the date that is 10 months after the last day of the
covered period if the borrower does not apply for forgiveness
within that 10-month period.
We believe these loans
and our
participation in the program is good for our customers and the
communities we serve.
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31
A summary of PPP loans extended during 2020 follows:
(Dollars in thousands)
# of SBA
Approved
Mix
$ of SBA
Approved
Mix
SBA Tier:
$2 million to $10 million
—
—
%
$
—
—
%
$350,000 to less than $2 million
23
5
14,691
40
Up to $350,000
400
95
21,784
60
Total
423
100
%
$
36,475
100
%
We collected
approximately $1.5 million in fees related to our PPP loans during 2020,
which will be recognized net of
related costs, as a yield adjustment over the life of the underlying
PPP loans.
On December 27,
2020, the Economic Aid to Hard-Hit Small Businesses, Nonprofits,
and Venues
Act (the “Economic Aid
Act”) was signed into law.
The Economic Aid Act provides a second $900
billion stimulus package, including $325 billion
in additional PPP loans.
A summary of PPP loans extended under the Economic Aid Act
follows:
(Dollars in thousands)
# of SBA
Approved
Mix
$ of SBA
Approved
Mix
SBA Tier:
$2 million to $10 million
—
—
%
$
—
—
%
$350,000 to less than $2 million
12
6
6,494
35
Up to $350,000
192
94
12,217
65
Total
204
100
%
$
18,711
100
%
As of March 31, 2021, we collected approximately $0.9 million
in fees related to PPP loans under the Economic Aid Act,
which will be recognized net of related costs, as a yield adjustment
over the life of the underlying PPP loans.
The PPP,
as
amended and extended, is scheduled to stop accepting applications
by May 31, 2021.
We continue to closely
monitor this pandemic, and are working to continue our services
during the pandemic and to address
developments as those occur.
Our results of operations for the quarter ended March 31, 2021
,
and our financial condition at
that date reflect only the initial effects of the pandemic,
and may not be indicative of future results or financial conditions,
including possible additional monetary or fiscal stimulus, and
the possible effects of the expiration or extension of
temporary accounting and bank regulatory relief measures in response
to the COVID-19 pandemic.
As of March 31, 2021,
all of our capital ratios were in excess of all regulatory requirements
to be well capitalized.
The
effects of the COVID-19 pandemic on our borrowers
could result in adverse changes to credit quality and our regulatory
capital ratios.
We continue to closely
monitor this pandemic, and are working to continue our services during
the pandemic
and to address developments as those occur.
CRITICAL ACCOUNTING POLICIES
The accounting and financial reporting policies of the Company conform
with U.S. GAAP and with general practices
within the banking industry.
In connection with the application of those principles, we have
made judgments and estimates
which, in the case of the determination of our allowance for loan
losses, our assessment of other-than-temporary
impairment, recurring and non-recurring fair value measurements and
the valuation of OREO and deferred tax assets, were
critical to the determination of our financial position and results of
operations. Other policies also require subjective
judgment and assumptions and may accordingly impact our financial
position and results of operations.
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32
Allowance for Loan Losses
The Company assesses the adequacy of its allowance for loan
losses prior to the end of each calendar quarter.
Determining
the amount of the allowance for loan losses is considered
a critical accounting estimate because the level of the allowance
is
based upon management’s evaluati
on of the loan portfolio, past loan loss experience, current
asset quality trends, known
and inherent risks in the portfolio, adverse situations that may
affect a borrower’s ability to repay (including
the timing of
future payment), the estimated value of any underlying collateral,
composition of the loan portfolio, economic conditions,
industry and peer bank loan loss rates, and other pertinent factors,
including regulatory recommendations. This evaluation
is inherently subjective as it requires material estimates including the
amounts and timing of future cash flows expected to
be received on impaired loans that may be susceptible to significant
change. Loans are charged off, in whole or
in part,
when management believes that the full collectability of the loan
is unlikely. A loan may be
partially charged-off after a
“confirming event” has occurred, which serves to validate that
full repayment pursuant to the terms of the loan is unlikely.
The Company deems loans impaired when, based on current information
and events, it is probable that the Company will
be unable to collect all amounts due according to the contractual
terms of the loan agreement. Collection of all amounts due
according to the contractual terms means that both the interest
and principal payments of a loan will be collected as
scheduled in the loan agreement.
An impairment allowance is recognized
if the fair value of the loan is less than the recorded investment in
the loan. The
impairment is recognized through the allowance. Loans that are
impaired are recorded at the present value of expected
future cash flows discounted at the loan’s
effective interest rate, or if the loan is collateral dependent,
the impairment
measurement is based on the fair value of the collateral, less estimated
disposal costs.
The level of allowance maintained is believed by management to
be adequate to absorb probable losses inherent in the
portfolio at the balance sheet date. The allowance is increased
by provisions charged to expense and decreased by charge-
offs, net of recoveries of amounts previously charged
-off.
In assessing the adequacy of the allowance, the Company also
considers the results of its ongoing internal and independent
loan review processes. The Company’s
loan review process assists in determining whether there are
loans in the portfolio
whose credit quality has weakened over time and evaluating the risk characteristics
of the entire loan portfolio. The
Company’s loan review process includes
the judgment of management, the input from our independent
loan reviewers, and
reviews that may have been conducted by bank regulatory agencies
as part of their examination process. The Company
incorporates loan review results in the determination of whether
or not it is probable that it will be able to collect all
amounts due according to the contractual terms of a loan.
As part of the Company’s quarterly assessment
of the allowance, management divides the loan portfolio
into five segments:
commercial and industrial, construction and land development, commercial
real estate, residential real estate, and consumer
installment. The Company analyzes each segment and estimates
an allowance allocation for each loan segment.
The allocation of the allowance for loan losses begins with a
process of estimating the probable losses inherent for each
loan segment. The estimates for these loans are established by category
and based on the Company’s internal
system of
credit risk ratings and historical loss data.
The estimated loan loss allocation rate for the Company’s
internal system of
credit risk grades is based on its experience with similarly graded
loans. For loan segments where the Company believes it
does not have sufficient historical loss data, the Company
may make adjustments based, in part, on loss rates of peer
bank
groups.
At March 31, 2021 and December 31, 2020, and for the periods
then ended, the Company adjusted its historical
loss rates for the commercial real estate portfolio segment based,
in part, on loss rates of peer bank groups.
The estimated loan loss allocation for all five loan portfolio segments
is then adjusted for management’s
estimate of
probable losses for several “qualitative and environmental” factors.
The allocation for qualitative and environmental factors
is particularly subjective and does not lend itself to exact mathematical
calculation. This amount represents estimated
probable inherent credit losses which exist, but have not yet been
identified, as of the balance sheet date, and are based
upon quarterly trend assessments in delinquent and nonaccrual
loans, credit concentration changes, prevailing economic
conditions, changes in lending personnel experience, changes
in lending policies or procedures, and other influencing
factors. These qualitative and environmental factors are considered
for each of the five loan segments and the allowance
allocation, as determined by the processes noted above, is increased
or decreased based on the incremental assessment of
these factors.
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33
The Company regularly re-evaluates its practices in determining the
allowance for loan losses. Since the fourth quarter of
2016, the Company has increased
its look-back period each quarter to incorporate the effects
of at least one economic
downturn in its loss history. The
Company believes the extension of its look-back period
is appropriate due to the risks
inherent in the loan portfolio. Absent this extension, the early
cycle periods in which the Company experienced significant
losses would be excluded from the determination of the allowance for
loan losses and its balance would decrease.
For the
quarter ended March 31, 2021, the Company increased its look
-back period to 48 quarters to continue to include losses
incurred by the Company beginning with the first quarter of 2009.
The Company will likely continue to increase its look-
back period to incorporate the effects of at least one
economic downturn in its loss history.
During 2020,
the Company
adjusted certain qualitative and economic factors related to changes in
economic conditions and portfolio trends driven by
the impact of the COVID-19 pandemic and resulting adverse
economic conditions, including higher unemployment in our
primary market area.
Further adjustments may be made in the future as a result of the continuing
COVID-19 pandemic.
Assessment for Other-Than-Temporary
Impairment of Securities
On a quarterly basis, management makes an assessment to determine
whether there have been events or economic
circumstances to indicate that a security on which there is an
unrealized loss is other-than-temporarily impaired.
For debt securities with an unrealized loss, an other-than
-temporary impairment write-down is triggered when (1)
the
Company has the intent to sell a debt security,
(2) it is more likely than not that the Company will be required
to sell the
debt security before recovery of its amortized cost basis, or
(3) the Company does not expect to recover the entire amortized
cost basis of the debt security.
If the Company has the intent to sell a debt security or if it is more
likely than not that it will
be required to sell the debt security before
recovery, the other-than
-temporary write-down is equal to the entire difference
between the debt security’s amortized
cost and its fair value.
If the Company does not intend to sell the security or it is not
more likely than not that it will be required to sell the security
before recovery, the other
-than-temporary impairment write-
down is separated into the amount that is credit related (credit loss component)
and the amount due to all other factors.
The
credit loss component is recognized in earnings and is the difference
between the security’s
amortized cost basis and the
present value of its expected future cash flows.
The remaining difference between the security’s
fair value and the present
value of future expected cash flows is due to factors that are not credit
related and is recognized in other comprehensive
income, net of applicable taxes.
The Company is required to own certain stock as a condition of
membership, such as Federal Home Loan Bank (“FHLB”)
and Federal Reserve Bank (“FRB”).
These non-marketable equity securities are accounted for at
cost which equals par or
redemption value.
These securities do not have a readily determinable fair value as their
ownership is restricted and there is
no market for these securities.
The Company records these non-marketable equity securities
as a component of other
assets, which are periodically evaluated for impairment. Management
considers these non-marketable equity securities to
be long-term investments. Accordingly,
when evaluating these securities for impairment, management considers
the
ultimate recoverability of the par value rather than by recognizing temporary
declines in value.
Fair Value
Determination
U.S. GAAP requires management to value and disclose certain of the
Company’s assets and liabilities
at fair value,
including investments classified as available-for-sale
and derivatives. ASC 820,
Fair Value
Measurements and Disclosures
,
which defines fair value, establishes a framework for measuring fair
value in accordance with U.S. GAAP and expands
disclosures about fair value measurements.
For more information regarding fair value measurements and disclosures,
please refer to Note 6, Fair Value,
of the consolidated financial statements that accompany this report.
Fair values are based on active market prices of identical assets or
liabilities when available.
Comparable assets or
liabilities or a composite of comparable assets in active markets are
used when identical assets or liabilities do not have
readily available active market pricing.
However, some of the Company’s
assets or liabilities lack an available or
comparable trading market characterized by frequent transactions between
willing buyers and sellers. In these cases, fair
value is estimated using pricing models that use discounted cash
flows and other pricing techniques. Pricing models and
their underlying assumptions are based upon management’s
best estimates for appropriate discount rates, default rates,
prepayments, market volatility,
and other factors, taking into account current observable market data
and experience.
These assumptions may have a significant effect on the reported
fair values of assets and liabilities and the related income
and expense. As such, the use of different models and
assumptions, as well as changes in market conditions, could
result in
materially different net earnings and retained earnings
results.
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34
Other Real Estate Owned
OREO consists of properties obtained through foreclosure or in satisfaction
of loans and is reported at the lower of cost or
fair value of collateral, less estimated costs to sell at the date acquired,
with any loss recognized as a charge-off through the
allowance for loan losses. Additional OREO losses for subsequent
valuation adjustments are determined on a specific
property basis and are included as a component of other noninterest
expense along with holding costs. Any gains or losses
on disposal of OREO are also reflected in noninterest expense.
Significant judgments and complex estimates are required in
estimating the fair value of OREO, and the period of time within which
such estimates can be considered current is
significantly shortened during periods of market volatility.
As a result, the net proceeds realized from sales transactions
could differ significantly from appraisals, comparable
sales, and other estimates used to determine the fair value of other
OREO.
At March 31, 2021 and December 31, 2020 the Company had no OREO
properties.
Deferred Tax
Asset Valuation
A valuation allowance is recognized for a deferred tax asset if, based
on the weight of available evidence, it is more-likely-
than-not that some portion or the entire deferred tax asset will not be
realized. The ultimate realization of deferred tax assets
is dependent upon the generation of future taxable income during
the periods in which those temporary differences
become
deductible. Management considers the scheduled reversal of deferred
tax liabilities, projected future taxable income, and
tax planning strategies in making this assessment. Based upon the level
of taxable income over the last three years and
projections for future taxable income over the periods in which
the deferred tax assets are deductible, management believes
it is more likely than not that we will realize the benefits of these
deductible differences at March 31, 2021.
The amount of
the deferred tax assets considered realizable, however,
could be reduced if estimates of future taxable income are reduced.
RESULTS
OF OPERATIONS
Average Balance
Sheet and Interest Rates
Quarter ended March 31,
2021
2020
Average
Yield/
Average
Yield/
(Dollars in thousands)
Balance
Rate
Balance
Rate
Loans and loans held for sale
$
466,368
4.50%
$
452,155
4.81%
Securities - taxable
289,981
1.33%
196,422
2.27%
Securities - tax-exempt
63,050
3.68%
60,895
3.78%
Total securities
353,031
1.75%
257,317
2.63%
Federal funds sold
32,809
0.15%
29,758
1.26%
Interest bearing bank deposits
70,350
0.09%
49,378
1.52%
Total interest-earning assets
922,558
2.96%
788,608
3.76%
Deposits:
NOW
172,055
0.16%
149,344
0.51%
Savings and money market
281,844
0.25%
220,909
0.46%
Time Deposits
159,466
1.09%
167,447
1.44%
Total interest-bearing deposits
613,365
0.44%
537,700
0.78%
Short-term borrowings
3,161
0.50%
1,361
0.50%
Total interest-bearing liabilities
616,526
0.44%
539,061
0.78%
Net interest income and margin (tax-equivalent)
$
6,057
2.66%
$
6,332
3.23%
Net Interest Income and Margin
Net interest income (tax-equivalent) was $6.1 million for the
first quarter of 2021 compared to $6.3 million for the first
quarter of 2020.
This decrease was due to a decline in the Company’s
net interest margin (tax-equivalent).
The tax-equivalent yield on total interest-earning assets decreased
by 80 basis points to 2.96% in the first quarter of 2021
compared to 3.76%
in the first quarter of 2020.
This decrease was primarily due to the lower rate environment,
including a
150 basis point reduction in the federal funds rate that occurred
in March 2020 and changes in our asset mix due to the
significant increase in customer deposits.
Table of Contents
35
The cost of total interest-bearing liabilities decreased 34
basis points in the first quarter of 2021 from the first quarter of
2020 to 0.44%.
The net decrease in our funding costs was primarily due to lower
prevailing market interest rates.
Such
costs declined less than the declines in rates earned on our interest
earning assets.
The Company continues to deploy various asset liability management
strategies to manage its risk to interest rate
fluctuations. The Company’s net
interest margin could continue to experience pressure due
to reduced earning asset yields
and increased competition for quality loan opportunities.
Provision for Loan Losses
The provision for loan losses represents a charge to earnings necessary
to provide an allowance for loan losses that
management believes, based on its processes and estimates,
should be adequate to provide for the probable losses on
outstanding loans.
There was no provision for loan losses for the first quarter
of 2021, compared to $0.4 million in
provision for loan losses for the first quarter of 2020.
The provision for loan losses during the first quarter of 2020
was
related to changes in economic conditions and portfolio trends
driven by the impact of COVID-19 and resulting adverse
economic conditions,
including higher unemployment in our primary market area.
The provision for loan losses is based
upon various factors, including the absolute level of loans, loan
growth, the credit quality,
and the amount of net charge-
offs or recoveries.
Based upon its assessment of the loan portfolio, management
adjusts the allowance for loan losses to an amount it believes
should be appropriate to adequately cover its estimate of probable
losses in the loan portfolio. The Company’s
allowance
for loan losses as a percentage of total loans was 1.23%
at March 31, 2021, compared to 1.22% at December 31,
2020.
At
March 31, 2021,
the Company’s allowance for loan losses was
1.31%
of total loans, excluding PPP loans, which are
guaranteed by the SBA.
While the policies and procedures used to estimate the allowance
for loan losses, as well as the
resulting provision for loan losses charged to operations,
are considered adequate by management and are reviewed from
time to time by our regulators, they are based on estimates and
judgments and are therefore approximate and imprecise.
Factors beyond our control (such as conditions in the local and
national economy, local
real estate markets, or industries)
may have a material adverse effect on our asset quality and
the adequacy of our allowance for loan losses resulting in
significant increases in the provision for loan losses.
Noninterest Income
Quarter ended March 31,
(Dollars in thousands)
2021
2020
Service charges on deposit accounts
$
132
$
172
Mortgage lending income
549
230
Bank-owned life insurance
103
398
Securities gains, net
—
6
Other
398
429
Total noninterest income
$
1,182
$
1,235
The decrease in service charges on deposit accounts
was driven by a decline in consumer spending activity as a result of
the
COVID-19 pandemic.
The Company’s income from mortgage
lending was primarily attributable to the (1) origination and sale of new
mortgage
loans and (2) servicing of mortgage loans. Origination income, net, is
comprised of gains or losses from the sale of the
mortgage loans originated, origination fees, underwriting fees,
and other fees associated with the origination of loans,
which are netted against the commission expense associated with these
originations. The Company’s normal
practice is to
originate mortgage loans for sale in the secondary market and
to either sell or retain the associated MSRs when the loan is
sold.
MSRs are recognized based on the fair value of the servicing
right on the date the corresponding mortgage loan is sold.
Subsequent to the date of transfer, the Company
has elected to measure its MSRs under the amortization method.
Servicing
fee income is reported net of any related amortization expense.
Table of Contents
36
The Company evaluates MSRs for impairment on a quarterly basis.
Impairment is determined by grouping MSRs by
common predominant characteristics, such as interest rate and loan
type.
If the aggregate carrying amount of a particular
group of MSRs exceeds the group’s aggregate
fair value, a valuation allowance for that group is established.
The valuation
allowance is adjusted as the fair value changes.
An increase in mortgage interest rates typically results in
an increase in the
fair value of the MSRs while a decrease in mortgage interest rates
typically results in a decrease in the fair value of MSRs.
The following table presents a breakdown of the Company’s
mortgage lending income.
Quarter ended March 31,
(Dollars in thousands)
2021
2020
Origination income, net
$
537
$
163
Servicing fees, net
12
67
Total mortgage lending income
$
549
$
230
The increase in mortgage lending income was primarily due to
an increase in mortgage refinance activity.
The Company’s
income from mortgage lending typically fluctuates as mortgage
interest rates change and is primarily attributable to the
origination and sale of new mortgage loans.
The increase in mortgage lending income was partially offset
by a decrease in
servicing fees, net of related amortization expense as prepayment
speeds increased in the first quarter of 2021, resulting in
increased amortization expense.
Income from bank-owned life insurance decreased primarily due to
$0.3 million in non-taxable death benefits received in
the first quarter of 2020. The assets that support these policies
are administered by the life insurance carriers and the income
we receive (i.e., increases or decreases in the cash surrender
value of the policies and death benefits received) on these
policies is dependent upon the returns the insurance carriers are
able to earn on the underlying investments that support
these policies. Earnings on these policies are generally not taxable.
Noninterest Expense
Quarter ended March 31,
(Dollars in thousands)
2021
2020
Salaries and benefits
$
2,851
$
2,831
Net occupancy and equipment
438
597
Professional fees
256
258
Other
1,145
1,170
Total noninterest expense
$
4,690
$
4,856
The decrease in net occupancy and equipment expense was primarily
due to a reduction of $0.2 million in various expenses
related to the redevelopment of the Company’s
headquarters in downtown Auburn.
Income Tax
Expense
Income tax expense was $0.4 million for the first quarter of 2021
and 2020,
respectively, reflecting an effective
tax rate of
17.41% and 17.80%, respectively.
BALANCE SHEET ANALYSIS
Securities
Securities available-for-sale were $3
59.6 million at March 31, 2021 compared to $335.2 million at December 31,
2020.
This increase reflects an increase in the amortized cost basis
of securities available-for-sale of $31.3 million, and
a decrease
of $6.9 million in the fair value of securities available-for-sale.
The increase in the amortized cost basis of securities
available-for-sale was primarily attributable to management
allocating more funding to the investment portfolio following
the significant increase in customer deposits.
The decrease in the fair value of securities was primarily due
to an increase in
long-term interest rates.
The average annualized tax-equivalent yields earned on total
securities were 1.75%
in 2021 and
2.63%
in 2020.
Table of Contents
37
Loans
2021
2020
First
Fourth
Third
Second
First
(In thousands)
Quarter
Quarter
Quarter
Quarter
Quarter
Commercial and industrial
$
88,687
82,585
98,244
87,754
56,447
Construction and land development
30,332
33,514
31,651
32,967
32,302
Commercial real estate
254,731
255,136
250,992
250,588
256,099
Residential real estate
82,848
84,154
85,054
85,825
91,010
Consumer installment
6,524
7,099
7,731
8,631
8,424
Total loans
463,122
462,488
473,672
465,765
444,282
Less:
unearned income
(1,243)
(788)
(1,219)
(1,491)
(414)
Loans, net of unearned income
$
461,879
461,700
472,453
464,274
443,868
Total loans, net of unearned
income, were $461.9 million at March 31, 2021,
an increase of $0.2 million from $461.7
million at December 31, 2020.
Excluding PPP loans, total loans net of unearned income, were
$433.2 million, a decrease
of $9.5 million, or 2% from $442.7 million at December 31, 2020
.
This decrease was primarily due to a decrease in
commercial and industrial loans, excluding PPP loans, commercial
and land development loans and residential real estate
loans of $3.6 million, $3.2 million and $1.3 million, respectively,
as lower rates increased refinance activity and payoffs
.
Four loan categories represented the majority of the loan portfolio
at March 31, 2021: commercial real estate (55%),
residential real estate (18%), commercial and industrial (19%) and
construction and land development (7%).
Approximately 20% of the Company’s
commercial real estate loans were classified as owner
-occupied at March 31, 2021.
Within the residential real estate portfolio
segment, the Company had junior lien mortgages of approximately $8.2
million,
or 2% of total loans, at March 31, 2021, compared to $8.7
million, or 2% of total loans, at December 31, 2020.
For
residential real estate mortgage loans with a consumer purpose,
the Company had no loans that required interest-only
payments at March 31, 2021 and December 31, 2020.
The Company’s residential real
estate mortgage portfolio does not
include any option ARM loans, subprime loans, or any mater
ial amount of other high-risk consumer mortgage products.
The average yield earned on loans and loans held for sale was 4.50
%
in the first quarter of 2021 and 4.81% in the first
quarter of 2020.
The specific economic and credit risks associated with our loan portfolio
include, but are not limited to, the effects of
current economic conditions, including the COVID-19 pandemic’s
effects, on our borrowers’ cash flows, real
estate market
sales volumes, valuations, availability and cost of financing properties,
real estate industry concentrations, competitive
pressures from a wide range of other lenders, deterioration in certain
credits, interest rate fluctuations, reduced collateral
values or non-existent collateral, title defects, inaccurate appraisals,
financial deterioration of borrowers, fraud, and any
violation of applicable laws and regulations.
The Company attempts to reduce these economic and credit
risks through its loan-to-value guidelines for collateralized
loans, investigating the creditworthiness of borrowers and monitoring borrowers’
financial position. Also, we have
established and periodically review,
lending policies and procedures. Banking regulations limit a
bank’s credit exposure
by
prohibiting unsecured loan relationships that exceed 10% of its
capital; or 20% of capital, if loans in excess of 10% of
capital are fully secured. Under these regulations, we are prohibited
from having secured loan relationships in excess of
approximately $20.6 million.
Furthermore, we have an internal limit for aggregate credit
exposure (loans outstanding plus
unfunded commitments) to a single borrower of $18.5
million. Our loan policy requires that the Loan Committee of the
Board of Directors approve any loan relationships that exceed
this internal limit.
At March 31, 2021, the Bank had no
relationships exceeding these limits.
Table of Contents
38
We periodically
analyze our commercial
and industrial and commercial real estate loan portfolios to
determine if a
concentration of credit risk exists in any one or more industries.
We use classification
systems broadly accepted by the
financial services industry in order to categorize our
commercial borrowers. Loan concentrations to borrowers in the
following classes exceeded 25% of the Bank’s
total risk-based capital at March 31, 2021 (and related
balances at December
31, 2020).
March 31,
December 31,
(Dollars in thousands)
2021
2020
Hotel/motel
$
48,268
$
42,900
Lessors of 1-4 family residential properties
49,196
49,127
Multi-family residential properties
37,936
40,203
Shopping centers
29,562
30,000
Supplemental COVID-19 Industry Exposure
We have identified
certain commercial sectors with enhanced risk resulting from
the impact of COVID-19.
Loans within
these sectors represent 86% of the Company’s
total COVID-19 related modifications at March 31, 2021
and December 31,
2020.
The table below
summarizes the loans outstanding for these sectors at March
31, 2021 and December 31, 2020.
Portfolio Segment
Commercial and
Construction and
Commercial
(Dollars in
thousands)
industrial
land development
real estate
Total
% of Total Loans
March 31, 2021:
Hotel/motel
$
741
5,604
48,268
$
54,613
12
%
Shopping centers
—
—
29,562
29,562
6
Retail, excluding shopping centers
401
—
17,544
17,945
4
Restaurants
1,317
—
12,158
13,475
3
Total
$
2,459
5,604
107,532
$
115,595
25
%
Portfolio Segment
Commercial and
Construction and
Commercial
(Dollars in
thousands)
industrial
land development
real estate
Total
% of Total Loans
December 31, 2020:
Hotel/motel
$
866
10,549
42,900
$
54,315
12
%
Shopping centers
8
—
30,000
30,008
6
Retail, excluding shopping centers
327
—
18,053
18,380
4
Restaurants
1,407
—
12,865
14,272
3
Total
$
2,608
10,549
103,818
$
116,975
25
%
In light of disruptions in economic conditions caused by COVID
-19, the financial regulators have issued guidance
encouraging banks to work constructively with borrowers affected
by the virus in our community.
This guidance, including
the Interagency Statement on COVID-19 Loan Modifications and
the Interagency Examiner Guidance for Assessing Safety
and Soundness Considering the Effect of the COVID
-19 Pandemic on Institutions, provides that the agencies will not
criticize financial institutions that mitigate credit risk through
prudent actions consistent with safe and sound practices.
Specifically, examiners will
not criticize institutions for working with borrowers as part
of a risk mitigation strategy
intended to improve existing loans, even if the restructured
loans have or develop weaknesses that ultimately result in
adverse credit classification.
Upon demonstrating the need for payment relief, the bank will work
with qualified borrowers
that were otherwise current before the pandemic to determine
the most appropriate deferral option.
For residential
mortgage and consumer loans the borrower may elect to defer
payments for up to three months.
Interest continues to
accrue and the amount due at maturity increases.
Commercial real estate, commercial, and small business borrowers may
elect to defer payments for up to three months or pay scheduled
interest payments for a six-month period.
The bank
recognizes that a combination of the payment relief options may be
prudent dependent on a borrower’s business type.
As
of March 31, 2021 we have granted loan payment deferrals or
payments of interest-only primarily on commercial and
industrial and commercial real estate loans totaling $32.4
million, or 7% of total loans, compared to $32.3 million, or 7%
of
total loans at December 31, 2020.
Table of Contents
39
The tables below provide information concerning the composition
of these COVID-19 modifications as of March 31,
2021
and December 31, 2020.
COVID-19 Modifications
Modification Types
(Dollars in thousands)
# of Loans
Modified
Balance
% of Portfolio
Modified
Interest Only
Payment
P&I
Payments
Deferred
March 31, 2021:
Commercial and industrial
2
$
741
—
%
100
%
—
%
Commercial real estate
12
31,391
7
100
—
Residential real estate
3
314
—
—
100
Total
17
$
32,446
7
%
99
%
1
%
December 31, 2020:
Commercial and industrial
2
$
741
—
%
100
%
—
%
Commercial real estate
12
31,399
7
100
—
Residential real estate
2
133
—
—
100
Total
16
$
32,273
7
%
99
%
1
%
COVID-19 Modifications within High Exposure Commercial Real Estate Segments
(Dollars in thousands)
# of Loans
Modified
Balance of
Loans Modified
% of Total
Segment Loans
March 31, 2021:
Hotel/motel
10
$
26,419
48
%
Restaurants
1
1,442
11
December 31, 2020:
Hotel/motel
10
$
26,427
49
%
Restaurants
1
1,442
10
Section 4013 of the CARES Act provides that a qualified loan modification
is exempt by law from classification as a TDR
pursuant to GAAP.
In addition, the Interagency Statement on COVID-19 Loan Modifications
provides circumstances in
which a loan modification is not subject to classification as a TDR
if such loan is not eligible for modification under
Section 4013.
Allowance for Loan Losses
The Company maintains the allowance for loan losses at a level
that management believes appropriate to adequately cover
the Company’s estimate of probable
losses inherent in the loan portfolio. The allowance for loan losses was $5.
7
million at
March 31, 2021 compared to $5.6 million at December 31,
2020, which management believed to be adequate at each of the
respective dates. The judgments and estimates associated with the determination
of the allowance for loan losses are
described under “Critical Accounting Policies.”
Table of Contents
40
A summary of the changes in the allowance for loan losses and certain
asset quality ratios for the first quarter of 2021 and
the previous four quarters is presented below.
2021
2020
First
Fourth
Third
Second
First
(Dollars in thousands)
Quarter
Quarter
Quarter
Quarter
Quarter
Balance at beginning of period
$
5,618
5,575
5,308
4,867
4,386
Charge-offs:
Commercial and industrial
—
(4)
—
(3)
—
Consumer installment
(5)
(1)
(4)
(28)
(5)
Total charge
-offs
(5)
(5)
(4)
(31)
(5)
Recoveries
69
48
21
22
86
Net recoveries (charge-offs)
64
43
17
(9)
81
Provision for loan losses
—
—
250
450
400
Ending balance
$
5,682
5,618
5,575
5,308
4,867
as a % of loans
1.23
%
1.22
1.18
1.14
1.10
as a % of nonperforming loans
726
%
1,052
1,015
783
4,196
Net (recoveries) charge-offs as % of average loans
(a)
(0.06)
%
(0.04)
(0.01)
0.01
(0.07)
(a) Net (recoveries) charge-offs are annualized.
As described under “Critical Accounting Policies,” management assesses
the adequacy of the allowance prior to the end of
each calendar quarter. The
level of the allowance is based upon management’s
evaluation of the loan portfolios, past loan
loss experience, known and inherent risks in the portfolio,
adverse situations that may affect the borrower’s
ability to repay
(including the timing of future payment), the estimated value
of any underlying collateral, composition of the loan
portfolio, economic conditions, industry and peer bank loan loss
rates, and other pertinent factors. This evaluation is
inherently subjective as it requires various material estimates
and judgments, including the amounts and timing of future
cash flows expected to be received on impaired loans that may
be susceptible to significant change. The ratio of our
allowance for loan losses to total loans outstanding was 1.23
%
at March 31, 2021, compared to 1.22% at December 31,
2020.
At March 31, 2021, the Company’s allowance
for loan losses was 1.31% of total loans, excluding PPP
loans. In the
future, the allowance to total loans outstanding ratio will increase
or decrease to the extent the factors that influence our
quarterly allowance assessment, including the duration and magnitude
of COVID-19 effects, in their entirety either improve
or weaken.
In addition, our regulators, as an integral part of their examination process,
will periodically review the
Company’s allowance for loan
losses, and may require the Company to make additional provisions
to the allowance for
loan losses based on their judgment about information available
to them at the time of their examinations.
Nonperforming Assets
The Company had $0.8
million and $0.5
million in nonperforming assets at March 31, 2021 and December
31, 2020,
respectively.
The table below provides information concerning total nonperforming
assets and certain asset quality ratios for the first
quarter of 2021 and the previous four quarters.
2021
2020
First
Fourth
Third
Second
First
(Dollars in thousands)
Quarter
Quarter
Quarter
Quarter
Quarter
Nonperforming assets:
Nonaccrual loans
$
783
534
549
678
116
Other real estate owned
—
—
—
—
99
Total nonperforming assets
$
783
534
549
678
215
as a % of loans and other real estate owned
0.17
%
0.12
0.12
0.15
0.05
as a % of total assets
0.08
%
0.06
0.06
0.07
0.03
Nonperforming loans as a % of total loans
0.17
%
0.12
0.12
0.15
0.03
Table of Contents
41
The table below provides information concerning the composition
of nonaccrual loans for the first quarter of 2021
and the
previous four quarters.
2021
2020
First
Fourth
Third
Second
First
(In thousands)
Quarter
Quarter
Quarter
Quarter
Quarter
Nonaccrual loans:
Commercial real estate
$
206
212
216
218
—
Residential real estate
577
322
332
459
112
Consumer installment
—
—
1
1
4
Total nonaccrual loans
$
783
534
549
678
116
The Company discontinues the accrual of interest income when (1)
there is a significant deterioration in the financial
condition of the borrower and full repayment of principal and
interest is not expected or (2) the principal or interest is
90 days or more past due, unless the loan is both well-secured
and in the process of collection.
At March 31, 2021, the
Company had $0.8
million in loans on nonaccrual status compared to $0.5 million at December 31,
2020.
The Company had no loans 90 days or more past due and still
accruing at March 31, 2021 compared to $0.1 million at
December 31, 2020.
The table below provides information concerning the composition
of OREO for the first quarter of 2021 and the previous
four quarters.
2021
2020
First
Fourth
Third
Second
First
(In thousands)
Quarter
Quarter
Quarter
Quarter
Quarter
Other real estate owned:
Residential
$
—
—
—
—
99
Total other real estate
owned
$
—
—
—
—
99
Potential Problem Loans
Potential problem loans represent those loans with a well-defined
weakness and where information about possible credit
problems of a borrower has caused management to have serious doubts
about the borrower’s ability to comply with present
repayment terms.
This definition is believed to be substantially consistent with the
standards established by the Federal
Reserve, the Company’s primary regulator,
for loans classified as substandard, excluding nonaccrual loans.
Potential
problem loans, which are not included in nonperforming assets,
amounted to $2.8 million, or 0.6% of total loans at March
31, 2021, and $2.9 million, or 0.6%
of total loans at December 31, 2020.
The table below provides information concerning the composition
of potential problem loans for the first quarter of 2021
and the previous four quarters.
2021
2020
First
Fourth
Third
Second
First
(In thousands)
Quarter
Quarter
Quarter
Quarter
Quarter
Potential problem loans:
Commercial and industrial
$
299
218
230
211
246
Construction and land development
247
254
563
568
910
Commercial real estate
173
188
188
165
170
Residential real estate
2,092
2,229
2,486
2,645
2,913
Consumer installment
9
23
42
55
63
Total potential problem loans
$
2,820
2,912
3,509
3,644
4,302
At March 31, 2021 the Company had $0.2 million in potential
problem loans that were past due at least 30 days, but less
than 90 days.
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42
The following table is a summary of the Company’s
performing loans that were past due at least 30 days,
but less than
90 days,
for the first quarter of 2021 and the previous four quarters
.
2021
2020
First
Fourth
Third
Second
First
(In thousands)
Quarter
Quarter
Quarter
Quarter
Quarter
Performing loans past due 30 to 89 days:
Commercial and industrial
$
42
230
48
83
4
Construction and land development
10
61
—
—
8
Commercial real estate
180
29
—
168
—
Residential real estate
399
1,509
106
620
922
Consumer installment
36
29
6
8
19
Total
$
667
1,858
160
879
953
Deposits
Total deposits increased
$40.8 million, or 5% to $880.6 million at March 31,
2021, compared to $839.8 million at
December 31, 2020.
Noninterest-bearing deposits were $265.9 million, or 30
%
of total deposits, at March 31, 2021,
compared to $245.4 million, or 29%
of total deposits at December 31, 2020.
These increases reflect deposits from
customers who received PPP loans, the impact of government stimulus
checks, delayed tax payments
and less customer
spending during the COVID-19 pandemic.
The average rate paid on total interest-bearing deposits was 0.44
%
in the first quarter of 2021 compared to 0.78% in the
first quarter of 2020.
Other Borrowings
Other borrowings consist of short-term borrowings and long-term
debt. Short-term borrowings generally consist of federal
funds purchased and agreements with certain customers to sell certain
securities under agreements to repurchase with an
original maturity less than one year.
The Bank had available federal funds lines totaling $41.0
million with none
outstanding at March 31, 2021, and at December 31,
2020, respectively. Securities sold under
agreements to repurchase
totaled $3.3 million at March 31, 2021, compared to $2.4
million at December 31, 2020.
The average rate paid on short-term borrowings was 0.50% in the first quarter
of 2021 and 2020.
The Company had no long-term debt at March 31, 2021
and December 31, 2020.
CAPITAL ADEQUACY
The Company’s consolidated stockholders’
equity was $103.6 million and $107.7 million as of March 31,
2021 and
December 31, 2020, respectively.
The decrease from December 31, 2020 was primarily driven by an
other comprehensive
loss due to the change in unrealized gains (losses) on securities
available-for-sale, net of tax of $5.1 million and
cash
dividends paid of $0.9 million, partially offset by net
earnings of $2.0 million.
On January 1, 2015, the Company and Bank became subject
to the rules of the Basel III regulatory capital framework and
related Dodd-Frank Wall
Street Reform and Consumer Protection Act changes.
The rules included the implementation of a
capital conservation buffer that is added
to the minimum requirements for capital adequacy purposes.
The capital
conservation buffer was subject to a three year phase
-in period that began on January 1, 2016 and was fully phased
-in on
January 1, 2019 at 2.5%.
A banking organization with a conservation buffer
of less than the required amount will be
subject to limitations on capital distributions, including dividend
payments and certain discretionary bonus payments to
executive officers.
At March 31, 2021, the Bank’s
ratio was sufficient to meet the fully phased-in conservation
buffer.
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43
Effective March 20, 2020, the Federal Reserve and
the other federal banking regulators adopted an interim final rule that
amended the capital conservation buffer.
The interim final rule was adopted as a final rule on August
26, 2020.
The new
rule revises the definition of “eligible retained income” for purposes
of the maximum payout ratio to allow banking
organizations to more freely use their capital buffers
to promote lending and other financial intermediation activities,
by
making the limitations on capital distributions more gradual.
The eligible retained income is now the greater of (i) net
income for the four preceding quarters, net of distributions and
associated tax effects not reflected in net income; and
(ii)
the average of all net income over the preceding four quarters.
The interim final rule only affects the capital buffers,
and
banking organizations were encouraged to make prudent
capital distribution decisions.
The Federal Reserve has treated us as a “small bank holding company’
under the Federal Reserve’s policy.
Accordingly,
our capital adequacy is evaluated at the Bank level, and not for
the Company and its consolidated subsidiaries.
The Bank’s
tier 1 leverage ratio was 9.99%, CET1 risk-based capital ratio
was 17.21%, tier 1 risk-based capital ratio was 17.21%, and
total risk-based capital ratio was 18.25%
at March 31, 2021. These ratios exceed the minimum regulatory capital
percentages of 5.0% for tier 1 leverage ratio, 6.5% for CET1
risk-based capital ratio, 8.0% for tier 1 risk-based capital ratio,
and 10.0% for total risk-based capital ratio to be considered
“well capitalized.”
The Bank’s capital conservation buffer
was
10.25%
at March 31, 2021.
MARKET AND LIQUIDITY RISK MANAGEMENT
Management’s objective is to manage
assets and liabilities to provide a satisfactory,
consistent level of profitability within
the framework of established liquidity,
loan, investment, borrowing, and capital policies. The
Bank’s Asset Liability
Management Committee (“ALCO”) is charged with
the responsibility of monitoring these policies, which are designed
to
ensure an acceptable asset/liability composition. Two
critical areas of focus for ALCO are interest rate risk and liquidity
risk management.
Interest Rate Risk Management
In the normal course of business, the Company is exposed to
market risk arising from fluctuations in interest rates. ALCO
measures and evaluates interest rate risk so that the Bank can meet customer
demands for various types of loans and
deposits. Measurements used to help manage interest rate sensitivity include
an earnings simulation model and an economic
value of equity (“EVE”) model.
Earnings simulation
. Management believes that interest rate risk is best estimated by our
earnings simulation modeling.
Forecasted levels of earning assets, interest-bearing liabilities,
and off-balance sheet financial instruments are combined
with ALCO forecasts of market interest rates for the next 12
months and other factors in order to produce various earnings
simulations and estimates. To
help limit interest rate risk, we have guidelines for earnings at
risk which seek to limit the
variance of net interest income from gradual changes in interest rates.
For changes up or down in rates from management’s
flat interest rate forecast over the next 12 months, policy limits
for net interest income variances are as follows:
●
+/- 20% for a gradual change of 400 basis points
●
+/- 15% for a gradual change of 300 basis points
●
+/- 10% for a gradual change of 200 basis points
●
+/- 5% for a gradual change of 100 basis points
At March 31, 2021, our earnings simulation model indicated
that we were in compliance with the policy guidelines noted
above.
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44
Economic Value
of Equity
. EVE measures the extent that the estimated economic values of our
assets, liabilities, and off-
balance sheet items will change as a result of interest rate changes.
Economic values are estimated by discounting expected
cash flows from assets, liabilities, and off-balance sheet items,
which establishes a base case EVE. In contrast with our
earnings simulation model, which evaluates interest rate risk over a
12 month timeframe, EVE uses a terminal horizon
which allows for the re-pricing of all assets, liabilities, and off
-balance sheet items. Further, EVE
is measured using values
as of a point in time and does not reflect any actions that ALCO
might take in responding to or anticipating changes in
interest rates, or market and competitive conditions.
To help limit interest rate
risk, we have stated policy guidelines for an
instantaneous basis point change in interest rates, such that our EVE
should not decrease from our base case by more than
the following:
●
45% for an instantaneous change of +/-
400 basis points
●
35% for an instantaneous change of +/-
300 basis points
●
25% for an instantaneous change of +/-
200 basis points
●
15% for an instantaneous change of +/-
100 basis points
At March 31, 2021, our EVE model indicated that we were in
compliance with the policy guidelines noted above.
Each of the above analyses may not, on its own, be an accurate
indicator of how our net interest income will be affected
by
changes in interest rates. Income associated with interest-earning assets
and costs associated with interest-bearing liabilities
may not be affected uniformly by changes in interest rates.
In addition, the magnitude and duration of changes in interest
rates may have a significant impact on net interest income. For
example, 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, and other
economic and market factors, including market perceptions. Interest
rates on certain types of assets and liabilities fluctuate
in advance of changes in general market rates, while interest
rates on other types of assets and liabilities may lag behind
changes in general market rates. In addition, certain assets, such as
adjustable rate mortgage loans, have features (generally
referred to as “interest rate caps and floors”) which limit changes
in interest rates. Prepayment and early withdrawal levels
also could deviate significantly from those assumed in calculating the maturity
of certain instruments. The ability of many
borrowers to service their debts also may decrease during periods
of rising interest rates or economic stress, which may
differ across industries and economic sectors. ALCO reviews
each of the above interest rate sensitivity analyses along with
several different interest rate scenarios in seeking satisfactory
,
consistent levels of profitability within the framework of the
Company’s established liquidity,
loan, investment, borrowing, and capital policies.
The Company may also use derivative financial instruments
to improve the balance between interest-sensitive assets and
interest-sensitive liabilities, and as a tool to manage interest rate
sensitivity while continuing to meet the credit and deposit
needs of our customers. From time to time, the Company may
enter into interest rate swaps to facilitate customer
transactions and meet their financing needs. These interest rate
swaps qualify as derivatives, but are not designated as
hedging instruments. At March 31, 2021 and December 31,
2020, the Company had no derivative contracts designated as
part of a hedging relationship to assist in managing its interest
rate sensitivity.
Liquidity Risk Management
Liquidity is the Company’s ability
to convert assets into cash equivalents in order
to meet daily cash flow requirements,
primarily for deposit withdrawals, loan demand and maturing obligations.
Without proper management of its liquidity,
the
Company could experience higher costs of obtaining funds due to
insufficient liquidity, while
excessive liquidity can lead
to a decline in earnings due to the cost of foregoing alternative
higher-yielding investment opportunities.
Liquidity is managed at two levels. The first is the liquidity of
the Company. The second
is the liquidity of the Bank. The
management of liquidity at both levels is essential, because the Company
and the Bank are separate and distinct legal
entities with different funding needs and sources, and each
are subject to regulatory guidelines and requirements.
The
Company depends upon dividends from the Bank for liquidity to
pay its operating expenses, debt obligations and
dividends.
The Bank’s payment of dividends
depends on its earnings, liquidity,
capital and the absence of any regulatory
restrictions.
The primary source of funding and liquidity for the Company has
been dividends received from the Bank.
If needed, the
Company could also issue common stock or other securities.
Primary uses of funds by the Company include dividends paid
to stockholders, Company stock repurchases,
and Company expenses.
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45
Primary sources of funding for the Bank include customer deposits,
other borrowings, repayment and maturity of securities,
sales of securities, and the sale and repayment of loans. The
Bank has access to federal funds lines from various banks and
borrowings from the Federal Reserve discount window.
In addition to these sources, the Bank may participate in the
FHLB’s advance program to obtain
funding for its growth. Advances include both fixed and
variable terms and may be
taken out with varying maturities. At March 31, 2021,
the Bank had a remaining available line of credit with the FHLB of
$286.9 million. At March 31, 2021, the Bank also had $41.0
million of available federal funds lines with no borrowings
outstanding. Primary uses of funds include repayment of maturing obligations
and growing the loan portfolio.
Management believes that the Company and the Bank have adequate
sources of liquidity to meet all their respective known
contractual obligations and unfunded commitments, including
loan commitments and reasonable borrower,
depositor, and
creditor requirements over the next twelve months.
Off-Balance Sheet Arrangements, Commitments, Contingencies
and Contractual Obligations
At March 31, 2021, the Bank had outstanding standby letters of credit
of $1.4
million and unfunded loan commitments
outstanding of $72.1 million.
Because these commitments generally have fixed expiration dates
and many will expire
without being drawn upon, the total commitment level does not
necessarily represent future cash requirements. If needed
to
fund these outstanding commitments, the Bank could liquidate
federal funds sold or a portion of securities available-for-
sale, or draw on its available credit facilities.
Mortgage lending activities
We primarily sell residential
mortgage loans in the secondary market to Fannie Mae while
retaining the servicing of these
loans. The sale agreements for these residential mortgage loans with
Fannie Mae and other investors include various
representations and warranties regarding the origination and
characteristics of the residential mortgage loans.
Although the
representations and warranties vary among investors, they typically
cover ownership of the loan, validity of the lien
securing the loan, the absence of delinquent taxes or liens against the
property securing the loan, compliance with loan
criteria set forth in the applicable agreement, compliance with
applicable federal, state, and local laws, among other
matters.
As of March 31, 2021,
the unpaid principal balance of residential mortgage loans, which we
have originated and sold, but
retained the servicing rights was $263.7 million.
Although these loans are generally sold on a non-recourse basis, we
may
be obligated to repurchase residential mortgage loans or reimburse
investors for losses incurred (make whole requests) if a
loan review reveals a potential breach of seller representations and
warranties.
Upon receipt of a repurchase or make whole
request, we work with investors to arrive at a mutually agreeable
resolution. Repurchase and make whole requests are
typically reviewed on an individual loan by loan basis to validate
the claims made by the investor and to determine if a
contractually required repurchase or make whole event has occurred.
We seek to reduce
and manage the risks of potential
repurchases, make whole requests, or other claims by mortgage
loan investors through our underwriting and quality
assurance practices and by servicing mortgage loans to meet investor
and secondary market standards.
The Company was not required to repurchase any loans during the first
quarter of 2021 as a result of representation and
warranty provisions contained in the Company’s
sale agreements with Fannie Mae, and had no pending repurchase
or
make-whole requests at March 31, 2021.
We service all residential
mortgage loans originated and sold by us to Fannie Mae.
As servicer, our primary duties are to:
(1) collect payments due from borrowers;
(2) advance certain delinquent payments of principal and interest;
(3) maintain
and administer any hazard, title, or primary mortgage insurance policies
relating to the mortgage loans;
(4) maintain any
required escrow accounts for payment of taxes and insurance
and administer escrow payments;
and (5) foreclose on
defaulted mortgage loans or take other actions to mitigate the
potential losses to investors consistent with the agreements
governing our rights and duties as servicer.
The agreement under which we act as servicer generally specifies
a standard of responsibility for actions taken by us in
such capacity and provides protection against expenses and liabilities incurred
by us when acting in compliance with the
respective servicing agreements.
However, if we commit a material breach
of our obligations as servicer,
we may be
subject to termination if the breach is not cured within a specified
period following notice.
The standards governing
servicing and the possible remedies for violations of such standards
are determined by servicing guides issued by Fannie
Mae as well as the contract provisions established between Fannie Mae
and the Bank.
Remedies could include repurchase
of an affected loan.
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46
Although repurchase and make whole requests related to representation
and warranty provisions and servicing activities
have been limited to date, it is possible that requests to repurchase mortgage
loans or reimburse investors for losses incurred
(make whole requests) may increase in frequency if investors more
aggressively pursue all means of recovering losses on
their purchased loans.
As of March 31, 2021,
we do not believe that this exposure is material due to the historical level of
repurchase requests and loss trends, in addition to the fact that
99%
of our residential mortgage loans serviced for Fannie
Mae were current as of such date.
We maintain ongoing
communications with our investors and will continue to evaluate
this exposure by monitoring the level and number of repurchase
requests as well as the delinquency rates in our investor
portfolios.
Section 4021 of the CARES Act allows borrowers under 1-4 family
residential mortgage loans sold to Fannie Mae to
request forbearance to the servicer after affirming that
such borrower is experiencing financial hardships during the
COVID-19 emergency.
Such forbearance will be up to 180 days, subject to
up to a 180 day extension.
During forbearance,
no fees, penalties or interest shall be charged beyond
those applicable if all contractual payments were fully and timely
paid.
Except for vacant or abandoned properties, Fannie Mae servicers may not
initiate foreclosures on similar procedures
or related evictions or sales until December 31,
2020.
The Bank sells mortgage loans to Fannie Mae and services these on
an actual/actual basis. As a result, the Bank is not obligated to
make any advances to Fannie Mae on principal and interest
on such mortgage loans where the borrower is entitled to forbeara
nce.
Effects of Inflation and Changing Prices
The consolidated financial statements and related consolidated
financial data presented herein have been prepared in
accordance with U.S. GAAP and practices within the banking industry
which require the measurement of financial position
and operating results in terms of historical dollars without considering
the changes in the relative purchasing power of
money over time due to inflation. Unlike most industrial companies,
virtually all the assets and liabilities of a financial
institution are monetary in nature. As a result, interest rates have a more significant
impact on a financial institution’s
performance than the effects of general levels of inflation.
CURRENT ACCOUNTING DEVELOPMENTS
The following ASUs have been issued by the FASB
but are not yet effective.
●
ASU 2016-13,
Financial Instruments – Credit Losses (Topic
326):
Measurement of Credit Losses on
Financial
Instruments;
Information about these pronouncements is described in more
detail below.
ASU 2016-13,
Financial Instruments - Credit Losses (Topic
326): - Measurement of Credit
Losses on Financial
Instruments
, amends guidance on reporting credit losses for assets held at
amortized cost basis and available for sale debt
securities.
For assets held at amortized cost basis, the new standard eliminates the
probable initial recognition threshold in
current GAAP and, instead, requires an entity to reflect its current estimate
of all expected credit losses using a broader
range of information regarding past events, current conditions and
forecasts assessing the collectability of cash flows. The
allowance for credit losses is a valuation account that is deducted
from the amortized cost basis of the financial assets to
present the net amount expected to be collected.
For available for sale debt securities, credit losses should be measured in
a
manner similar to current GAAP,
however the new standard will require that credit losses be
presented as an allowance
rather than as a write-down.
The new guidance affects entities holding financial assets
and net investment in leases that are
not accounted for at fair value through net income. The amendments
affect loans, debt securities, trade receivables, net
investments in leases, off-balance sheet credit exposures,
reinsurance receivables, and any other financial assets not
excluded from the scope that have the contractual right to receive
cash.
For public business entities, the new guidance was
originally effective for annual and interim periods
in fiscal years beginning after December 15, 2019.
The Company has
developed an implementation team that is following a gener
al timeline.
The team has been working with an advisory
consultant, with whom a third-party software license has been purchased.
The Company’s preliminary evaluation
indicates
the provisions of ASU No. 2016-13 are expected to impact the Company’s
consolidated financial statements, in particular
the level of the reserve for credit losses.
The Company is continuing to evaluate the extent of the potential
impact and
expects that portfolio composition and economic conditions at
the time of adoption will be a factor.
On October 16, 2019,
the FASB approved
a previously issued proposal granting smaller reporting companies a postponement
of the required
implementation date for ASU 2016-13.
The Company will now be required to implement the new standard
in January
2023, with early adoption permitted in any period prior
to that date.
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47
Table 1
– Explanation of Non-GAAP Financial Measures
In addition to results presented in accordance with U.S. generally
accepted accounting principles (GAAP), this quarterly
report on Form 10-Q includes certain designated net interest income
amounts presented on a tax-equivalent basis, a non-
GAAP financial measure, including the presentation and calculation of
the efficiency ratio.
The Company believes the presentation of net interest income
on a tax-equivalent basis provides comparability of net
interest income from both taxable and tax-exempt sources and
facilitates comparability within the industry.
Although the
Company believes these non-GAAP financial measures enhance
investors’ understanding of its business and performance,
these non-GAAP financial measures should not be considered
an alternative to GAAP.
The reconciliations
of these non-
GAAP financial measures to their most directly comparable
GAAP financial measures are presented below.
2021
2020
First
Fourth
Third
Second
First
(in thousands)
Quarter
Quarter
Quarter
Quarter
Quarter
Net interest income (GAAP)
$
5,937
6,188
5,868
6,070
6,212
Tax-equivalent adjustment
120
123
122
127
120
Net interest income (Tax
-equivalent)
$
6,057
6,311
5,990
6,197
6,332
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48
Table 2
- Selected Quarterly Financial Data
2021
2020
First
Fourth
Third
Second
First
(Dollars in thousands, except per share amounts)
Quarter
Quarter
Quarter
Quarter
Quarter
Results of Operations
Net interest income (a)
$
6,057
6,311
5,990
6,197
6,332
Less: tax-equivalent adjustment
120
123
122
127
120
Net interest income (GAAP)
5,937
6,188
5,868
6,070
6,212
Noninterest income
1,182
1,403
1,374
1,363
1,235
Total revenue
7,119
7,591
7,242
7,433
7,447
Provision for loan losses
—
—
250
450
400
Noninterest expense
4,690
5,086
4,653
4,959
4,856
Income tax expense
423
449
403
363
390
Net earnings
$
2,006
2,056
1,936
1,661
1,801
Per share data:
Basic and diluted net earnings
$
0.56
0.58
0.54
0.47
0.50
Cash dividends declared
0.26
0.255
0.255
0.255
0.255
Weighted average shares outstanding:
Basic and diluted
3,566,299
3,566,276
3,566,239
3,566,166
3,566,146
Shares outstanding, at period end
3,566,326
3,566,276
3,566,276
3,566,176
3,566,146
Book value
$
29.06
30.20
29.81
29.53
29.04
Common stock price
High
$
48.00
43.00
56.80
63.40
59.99
Low
37.55
36.75
26.26
36.81
24.11
Period end:
38.37
42.29
36.26
57.09
41.98
To earnings ratio
17.85
20.23
15.97
24.29
16.66
To book value
132
%
140
122
193
145
Performance ratios:
Return on average equity
7.37
%
7.63
7.26
6.34
7.24
Return on average assets
0.82
%
0.87
0.84
0.74
0.86
Dividend payout ratio
46.43
%
43.97
47.22
54.26
51.00
Asset Quality:
Allowance for loan losses as a % of:
Loans
1.23
%
1.22
1.18
1.14
1.10
Nonperforming loans
726
%
1,052
1,015
783
4,196
Nonperforming assets as a % of:
Loans and other real estate owned
0.17
%
0.12
0.12
0.15
0.05
Total assets
0.08
%
0.06
0.06
0.07
0.03
Nonperforming loans as a % of total loans
0.17
%
0.12
0.12
0.15
0.03
Annualized net (recoveries) charge-offs as % of average loans
(0.06)
%
(0.04)
(0.01)
0.01
(0.07)
Capital Adequacy: (c)
CET 1 risk-based capital ratio
17.21
%
17.27
17.70
18.00
17.77
Tier 1 risk-based capital ratio
17.21
%
17.27
17.70
18.00
17.77
Total risk-based capital ratio
18.25
%
18.31
18.77
19.04
18.72
Tier 1 leverage ratio
9.99
%
10.32
10.38
10.62
11.17
Other financial data:
Net interest margin (a)
2.66
%
2.81
2.72
2.95
3.23
Effective income tax rate
17.41
%
17.92
17.23
17.93
17.80
Efficiency ratio (b)
64.79
%
65.93
63.19
65.60
64.17
Selected average balances:
Securities
$
353,031
325,102
315,542
291,333
257,317
Loans, net of unearned income
463,424
466,704
465,285
466,971
451,210
Total assets
980,884
944,439
924,949
893,720
838,725
Total deposits
863,194
828,801
810,747
782,381
734,047
Total stockholders’ equity
108,890
107,791
106,709
104,820
99,560
Selected period end balances:
Securities
$
359,630
335,177
320,922
302,193
280,435
Loans, net of unearned income
461,879
461,700
472,453
464,274
443,868
Allowance for loan losses
5,682
5,618
5,575
5,308
4,867
Total assets
993,263
956,597
937,890
942,887
856,475
Total deposits
880,590
839,792
823,980
829,810
746,785
Total stockholders’ equity
103,639
107,689
106,314
105,299
103,563
(a) Tax-equivalent. See "Table 1 - Explanation of Non-GAAP Financial Measures."
(b) Efficiency ratio is the result of noninterest expense divided by the sum of
noninterest income and tax-equivalent net interest income.
(c) Regulatory capital ratios presented are for the Company's
wholly-owned subsidiary, AuburnBank.
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49
Table 3
- Average
Balances and Net Interest Income Analysis
Quarter ended March 31,
2021
2020
Interest
Interest
Average
Income/
Yield/
Average
Income/
Yield/
(Dollars in thousands)
Balance
Expense
Rate
Balance
Expense
Rate
Interest-earning assets:
Loans and loans held for sale (1)
$
466,368
$
5,178
4.50%
$
452,155
$
5,412
4.81%
Securities - taxable
289,981
949
1.33%
196,422
1,111
2.27%
Securities - tax-exempt (2)
63,050
572
3.68%
60,895
573
3.78%
Total securities
353,031
1,521
1.75%
257,317
1,684
2.63%
Federal funds sold
32,809
12
0.15%
29,758
93
1.26%
Interest bearing bank deposits
70,350
16
0.09%
49,378
186
1.52%
Total interest-earning assets
922,558
$
6,727
2.96%
788,608
$
7,375
3.76%
Cash and due from banks
13,880
14,184
Other assets
44,446
35,933
Total assets
$
980,884
$
838,725
Interest-bearing liabilities:
Deposits:
NOW
$
172,055
$
66
0.16%
$
149,344
$
188
0.51%
Savings and money market
281,844
172
0.25%
220,909
253
0.46%
Time deposits
159,466
428
1.09%
167,447
600
1.44%
Total interest-bearing deposits
613,365
666
0.44%
537,700
1,041
0.78%
Short-term borrowings
3,161
4
0.50%
1,361
2
0.50%
Total interest-bearing liabilities
616,526
$
670
0.44%
539,061
$
1,043
0.78%
Noninterest-bearing deposits
249,829
196,347
Other liabilities
5,639
3,757
Stockholders' equity
108,890
99,560
Total liabilities and
stockholders' equity
$
980,884
$
838,725
Net interest income and margin (tax-equivalent)
$
6,057
2.66%
$
6,332
3.23%
(1) Average loan balances
are shown net of unearned income and loans on nonaccrual status
have been included
in the computation of average balances.
(2) Yields on tax-exempt securities
have been computed on a tax-equivalent basis using a federal income
tax rate of 21%.
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50
Table 4
- Loan Portfolio Composition
2021
2020
First
Fourth
Third
Second
First
(In thousands)
Quarter
Quarter
Quarter
Quarter
Quarter
Commercial and industrial
$
88,687
82,585
98,244
87,754
56,447
Construction and land development
30,332
33,514
31,651
32,967
32,302
Commercial real estate
254,731
255,136
250,992
250,588
256,099
Residential real estate
82,848
84,154
85,054
85,825
91,010
Consumer installment
6,524
7,099
7,731
8,631
8,424
Total loans
463,122
462,488
473,672
465,765
444,282
Less:
unearned income
(1,243)
(788)
(1,219)
(1,491)
(414)
Loans, net of unearned income
461,879
461,700
472,453
464,274
443,868
Less: allowance for loan losses
(5,682)
(5,618)
(5,575)
(5,308)
(4,867)
Loans, net
$
456,197
456,082
466,878
458,966
439,001
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51
Table 5
- Allowance for Loan Losses and Nonperforming Assets
2021
2020
First
Fourth
Third
Second
First
(Dollars in thousands)
Quarter
Quarter
Quarter
Quarter
Quarter
Allowance for loan losses:
Balance at beginning of period
$
5,618
5,575
5,308
4,867
4,386
Charge-offs:
Commercial and industrial
—
(4)
—
(3)
—
Consumer installment
(5)
(1)
(4)
(28)
(5)
Total charge
-offs
(5)
(5)
(4)
(31)
(5)
Recoveries
69
48
21
22
86
Net recoveries (charge-offs)
64
43
17
(9)
81
Provision for loan losses
—
—
250
450
400
Ending balance
$
5,682
5,618
5,575
5,308
4,867
as a % of loans
1.23
%
1.22
1.18
1.14
1.10
as a % of nonperforming loans
726
%
1,052
1,015
783
4,196
Net (recoveries) charge-offs as % of avg. loans
(a)
(0.06)
%
(0.04)
(0.01)
0.01
(0.07)
Nonperforming assets:
Nonaccrual loans
$
783
534
549
678
116
Other real estate owned
—
—
—
—
99
Total nonperforming assets
$
783
534
549
678
215
as a % of loans and other real estate owned
0.17
%
0.12
0.12
0.15
0.05
as a % of total assets
0.08
%
0.06
0.06
0.07
0.03
Nonperforming loans as a % of total loans
0.17
%
0.12
0.12
0.15
0.03
Accruing loans 90 days or more past due
$
—
21
71
49
—
(a) Net (recoveries) charge-offs are annualized.
Table of Contents
52
Table 6
- Allocation of Allowance for Loan Losses
2021
2020
First Quarter
Fourth Quarter
Third Quarter
Second Quarter
First Quarter
(Dollars in thousands)
Amount
%*
Amount
%*
Amount
%*
Amount
%*
Amount
%*
Commercial and industrial
$
828
19.1
$
807
17.9
$
798
20.7
$
679
18.8
$
675
12.7
Construction and land
development
551
6.5
594
7.2
582
6.7
613
7.1
582
7.3
Commercial real estate
3,259
55.2
3,169
55.2
3,120
53.0
2,915
53.8
2,596
57.6
Residential real estate
951
17.9
944
18.2
954
18.0
954
18.4
877
20.5
Consumer installment
93
1.4
104
1.5
121
1.6
147
1.9
137
1.9
Total allowance for loan losses
$
5,682
$
5,618
$
5,575
$
5,308
$
4,867
* Loan balance in each category expressed as a percentage of total loans.
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53
Table 7
- CDs and Other Time Deposits of $100,000
or More
(Dollars in thousands)
March 31, 2021
Maturity of:
3 months or less
$
8,221
Over 3 months through 6 months
21,323
Over 6 months through 12 months
29,453
Over 12 months
45,678
Total CDs and other
time deposits of $100,000 or more
$
104,675
Table of Contents
54
ITEM 3.
QUANTITATIVE
AND QUALITATIVE
DISCLOSURES ABOUT MARKET RISK
The information called for by ITEM 3 is set forth in ITEM
2 under the caption “MARKET AND LIQUIDITY RISK
MANAGEMENT” and is incorporated herein by reference.
ITEM 4. CONTROLS AND PROCEDURES
The Company, with the participation
of its management, including its Chief Executive Officer
and Chief Financial Officer,
carried out an evaluation of the effectiveness of the design
and operation of its disclosure controls and procedures
(as
defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange
Act of 1934, as amended) as of the end of the
period covered by this report. Based upon that evaluation and as
of the end of the period covered by this report, the
Company’s Chief Executive Officer
and Chief Financial Officer concluded that the Company’s
disclosure controls and
procedures were effective to allow timely decisions regarding
disclosure in its reports that the Company files or submits to
the Securities and Exchange Commission under the Securities Exchange
Act of 1934, as amended. There have been no
changes in the Company’s internal
control over financial reporting that occurred during the period
covered by this report
that have materially affected, or are reasonably likely to
materially affect, the Company’s
internal control over financial
reporting.
PART
II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
In the normal course of its business, the Company and the Bank are,
from time to time, involved in legal proceedings. The
Company’s and Bank’s
management believe there are no pending or threatened legal,
governmental, or regulatory
proceedings that, upon resolution, are expected to have a material
adverse effect upon the Company’s
or the Bank’s
financial condition or results of operations. See also, Part I,
Item 3 of the Company’s Annual
Report on Form 10-K for the
year ended December 31, 2020.
ITEM 1A. RISK FACTORS
In addition to the other information set forth in this report,
you should carefully consider the factors discussed in Part I,
Item 1A. “RISK FACTORS”
in the Company’s Annual
Report on Form 10-K for the year ended December 31,
2020,
which could materially affect our business, financial
condition or future results. The risks described in our annual report
on
Form 10-K are not the only the risks facing our Company.
Additional risks and uncertainties not currently known to us or
that we currently deem to be immaterial also may materially
adversely affect our business, financial condition, and/or
operating results in the future.
Table of Contents
55
ITEM 2.
UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF
PROCEEDS
The Company’s repurchases of its common
stock
during the first quarter of 2021 were as follows:
Period
Total Number of
Shares
Purchased
Average Price
Paid per Share
Total Number of
Shares Purchased as
Part of Publicly
Announced Plans or
Programs
Approximate Dollar
Value
of Shares that
May Yet
Be
Purchased Under the
Plans or Programs
(1)
January 1 - January 31, 2021
—
$
—
—
$
5,000,000
February 1 - February 28, 2021
—
—
—
5,000,000
March 1 - March 31, 2021
—
—
—
5,000,000
Total
—
—
—
5,000,000
(1)
On March 9, 2021 the Company adopted a $5 million stock repurchase program that become effective April 1, 2021.
ITEM 3.
DEFAULTS
UPON SENIOR SECURITIES
Not applicable.
ITEM 4.
MINE SAFETY DISCLOSURES
Not applicable.
ITEM 5.
OTHER INFORMATION
Not applicable.
Table of Contents
56
ITEM 6.
EXHIBITS
Exhibit
Number
Description
3.1
Certificate of Incorporation of Auburn National Bancorporation, Inc. and all amendments thereto.*
3.2
Amended and Restated Bylaws of Auburn National Bancorporation, Inc., adopted as of November 13, 2007. **
31.1
Certification Pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934, As Adopted Pursuant To
Section 302 of the Sarbanes-Oxley Act of 2002, by Robert W. Dumas, Chairman, President and Chief Executive
Officer.
31.2
Certification Pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934, As Adopted Pursuant To
Section 302 of the Sarbanes-Oxley Act of 2002, by David A. Hedges, Executive Vice President and Chief
Financial Officer.
32.1
Certification Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant To Section 906 of the Sarbanes-Oxley
Act of 2002, by Robert W. Dumas, Chairman, President and Chief Executive Officer.***
32.2
Certification Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant To Section 906 of the Sarbanes-Oxley
Act of 2002, by David A. Hedges, Executive Vice President and Chief Financial Officer.***
101.INS
XBRL Instance Document
101.SCH
XBRL Taxonomy Extension
Schema Document
101.CAL
XBRL Taxonomy Extension
Calculation Linkbase Document
101.LAB
XBRL Taxonomy Extension
Label Linkbase Document
101.PRE
XBRL Taxonomy Extension
Presentation Linkbase Document
101.DEF
XBRL Taxonomy Extension
Definition Linkbase Document
*
Incorporated by reference from Registrant’s
Form 10-Q dated June 30, 2002.
**
Incorporated by reference from Registrant’s
Form 10-K dated March 31, 2008.
***
The certifications attached as exhibits 32.1 and 32.2 to
this quarterly report on Form 10-Q are “furnished” to the
Securities and Exchange Commission pursuant to Section 906
of the Sarbanes-Oxley Act of 2002 and shall not be
deemed “filed” by the Company for purposes of Section 18
of the Securities Exchange Act of 1934, as amended.
Table of Contents
SIGNATURES
Pursuant to the
requirements of the
Securities Exchange Act
of 1934, the
registrant has duly
caused this report
to
be signed on its behalf by the undersigned thereunto duly authorized.
AUBURN NATIONAL
BANCORPORATION,
INC.
(Registrant)
Date:
April 30, 2021
By:
/s/ Robert W.
Dumas
Robert W.
Dumas
Chairman, President and CEO
Date:
April 30, 2021
By:
/s/ David A. Hedges
David A. Hedges
Executive Vice President and
Chief Financial Officer