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Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

FORM 10-Q

 

 

 

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

For the quarterly period ended March 31, 2015

 

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

For the transition period from              to             

Commission file number 001-36895

 

 

FRANKLIN FINANCIAL NETWORK, INC.

(Exact name of registrant as specified in its charter)

 

 

 

Tennessee   20-8839445

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

722 Columbia Avenue

Franklin, Tennessee

  37064
(Address of principal executive offices)   (Zip Code)

615-236-2265

(Registrant’s telephone number, including area code)

N/A

(Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report)

 

 

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer   ¨    Accelerated filer   ¨
Non-accelerated filer   ¨  (Do not check if a smaller reporting company)    Smaller reporting company   x

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).    Yes  ¨    No  x

The number of shares outstanding of the registrant’s common stock, no par value per share, as of April 30, 2015, was 10,499,562.

 

 

 


Table of Contents

TABLE OF CONTENTS

 

PART I FINANCIAL INFORMATION

Cautionary Note Regarding Forward-Looking Statements

  1   

Item 1. Condensed Consolidated Financial Statements (unaudited)

Condensed Consolidated Balance Sheets

  2   

Condensed Consolidated Statements of Income

  3   

Condensed Consolidated Statements of Comprehensive Income

  4   

Condensed Consolidated Statement of Changes in Shareholders’ Equity

  5   

Condensed Consolidated Statements of Cash Flows

  6   

Notes to Condensed Consolidated Financial Statements

  7   

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

  28   

Item 3. Quantitative and Qualitative Disclosures About Market Risk

  46   

Item 4. Controls and Procedures

  47   

PART II OTHER INFORMATION

Item 1. Legal Proceedings

  47   

Item 1A. Risk Factors

  47   

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

  48   

Item 3. Defaults Upon Senior Securities

  48   

Item 4. Mine Safety Disclosures

  48   

Item 5. Other Information

  49   

Item 6. Exhibits

  49   

SIGNATURES


Table of Contents

CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

This Quarterly Report on Form 10-Q contains “forward-looking statements” as defined under U.S. federal securities laws. These statements reflect management’s current knowledge, assumptions, beliefs, estimates, and expectations and express management’s current views of future performance, results, and trends and may be identified by their use of terms such as “may,” “would,” “could,” “should,” “will,” “expect,” “anticipate,” “predict,” “project,” “potential,” “continue,” “contemplate,” “seek,” “assume,” “believe,” “intend,” “plan,” “forecast,” “goal,” and “estimate,” and other similar terms. Forward-looking statements are subject to a number of risks and uncertainties that could cause our actual results to differ materially from those described in the forward-looking statements. Readers should not place undue reliance on forward-looking statements. Such statements are made as of the date of this Quarterly Report on Form 10-Q, and we undertake no obligation to update such statements after this date.

Risks and uncertainties that could cause our actual results to differ materially from those described in forward-looking statements include those discussed in our filings with the Securities and Exchange Commission (“SEC”), including those described in our prospectus filed with the SEC pursuant to Rule 424(b) under the Securities Act of 1933, as amended (the “Securities Act”), on March 27, 2015 (the “Prospectus”) and those described in Item 1A of Part II of this Quarterly Report on Form 10-Q.

 

1


Table of Contents

ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

FRANKLIN FINANCIAL NETWORK, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

March 31, 2015 and December 31, 2014

(Dollar amounts in thousands, except share and per share data)

PART I FINANCIAL INFORMATION

 

     March 31,
2015
    December 31,
2014
 
     (Unaudited)        

ASSETS

    

Cash and due from financial institutions

   $ 48,580      $ 49,347   

Certificates of deposit at other financial institutions

     250        250   

Securities available for sale

     456,520        395,705   

Securities held to maturity (fair value 2015—$51,461 and 2014—$53,741)

     50,650        53,332   

Loans held for sale, at fair value

     22,462        18,462   

Loans

     874,539        787,188   

Allowance for loan losses

     (7,308     (6,680
  

 

 

   

 

 

 

Net loans

  867,231      780,508   
  

 

 

   

 

 

 

Restricted equity securities, at cost

  5,731      5,349   

Premises and equipment, net

  9,731      9,664   

Accrued interest receivable

  3,984      3,545   

Bank owned life insurance

  21,776      11,664   

Deferred tax asset

  5,675      6,780   

Buildings held for sale

  —       4,080   

Foreclosed assets

  453      715   

Servicing rights, net

  3,113      3,053   

Goodwill

  9,124      9,124   

Core deposit intangible, net

  2,526      2,698   

Other assets

  1,624      1,551   
  

 

 

   

 

 

 

Total assets

$ 1,509,430    $ 1,355,827   
  

 

 

   

 

 

 

LIABILITIES AND SHAREHOLDERS’ EQUITY

Deposits

Non-interest bearing

$ 156,062    $ 150,337   

Interest bearing

  1,115,540      1,021,896   
  

 

 

   

 

 

 

Total deposits

  1,271,602      1,172,233   

Federal funds purchased and repurchase agreements

  35,718      39,078   

Federal Home Loan Bank advances

  19,000      19,000   

Accrued interest payable

  552      421   

Other liabilities

  4,017      3,296   
  

 

 

   

 

 

 

Total liabilities

  1,330,889      1,234,028   

Shareholders’ equity

Senior non-cumulative preferred stock, no par value, $10,000 liquidation value: Series A, 1,000,000 shares authorized; 10,000 shares issued and outstanding at March 31, 2015 and December 31, 2014, respectively

  10,000      10,000   

Common stock, no par value; 20,000,000 shares authorized; 10,465,930 and 7,756,411 shares issued and outstanding at March 31, 2015 and December 31 2014, respectively

  146,330      94,251   

Retained earnings

  18,479      15,372   

Accumulated other comprehensive income

  3,732      2,176   
  

 

 

   

 

 

 

Total shareholders’ equity

  178,541      121,799   
  

 

 

   

 

 

 

Total liabilities and shareholders’ equity

$ 1,509,430    $ 1,355,827   
  

 

 

   

 

 

 

See accompanying notes to condensed consolidated financial statements.

 

2


Table of Contents

FRANKLIN FINANCIAL NETWORK, INC.

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

Three Months Ended March 31, 2015 and 2014

(Dollar amounts in thousands, except share and per share data)

(Unaudited)

 

     Three Months Ended
March 31,
 
     2015     2014  

Interest income and dividends

    

Loans, including fees

   $ 11,154      $ 5,918   

Securities:

    

Taxable

     2,665        2,303   

Tax-Exempt

     20        20   

Dividends on restricted equity securities

     67        40   

Federal funds sold and other

     20        18   
  

 

 

   

 

 

 

Total interest income

  13,926      8,299   
  

 

 

   

 

 

 

Interest expense

Deposits

  1,633      1,148   

Federal funds purchased and repurchase agreements

  71      27   

Federal Home Loan Bank advances

  65      29   
  

 

 

   

 

 

 

Total interest expense

  1,769      1,204   
  

 

 

   

 

 

 

Net interest income

  12,157      7,095   

Provision for loan losses

  625      385   
  

 

 

   

 

 

 

Net interest income after provision for loan losses

  11,532      6,710   
  

 

 

   

 

 

 

Noninterest income

Service charges on deposit accounts

  16      12   

Other service charges and fees

  618      236   

Net gains on sale of loans

  1,647      784   

Investment services

  286      43   

Loan servicing fees, net

  43      12   

Gain on sale or call of securities

  415      8   

Net gain on sale of foreclosed assets

  6      33   

Other

  184      293   
  

 

 

   

 

 

 

Total noninterest income

  3,215      1,421   
  

 

 

   

 

 

 

Noninterest expense

Salaries and employee benefits

  5,681      3,545   

Occupancy and equipment

  1,579      786   

FDIC assessment expense

  214      119   

Marketing

  220      111   

Professional fees

  359      354   

Amortization of core deposit intangible

  172      —     

Other

  1,396      577   
  

 

 

   

 

 

 

Total noninterest expense

  9,621      5,492   
  

 

 

   

 

 

 

Income before income tax expense

  5,126      2,639   

Income tax expense

  1,994      1,110   
  

 

 

   

 

 

 

Net income

  3,132      1,529   

Dividends paid on Series A preferred stock

  (25   (25
  

 

 

   

 

 

 

Net income available to common shareholders

$ 3,107    $ 1,504   
  

 

 

   

 

 

 

Earnings per share:

Basic

$ 0.39    $ 0.31   

Diluted

  0.37      0.30   

See accompanying notes to condensed consolidated financial statements.

 

3


Table of Contents

FRANKLIN FINANCIAL NETWORK, INC.

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

Three Months Ended March 31, 2015 and 2014

(Dollar amounts in thousands, except share and per share data)

(Unaudited)

 

     Three Months Ended
March 31,
 
     2015     2014  

Net income

   $ 3,132      $ 1,529   

Other comprehensive income, net of tax:

    

Unrealized gains/losses on securities:

    

Unrealized holding gain arising during the period

     3,036        3,176   

Reclassification adjustment for gains included in net income

     (415     (8
  

 

 

   

 

 

 

Net unrealized gains

  2,621      3,168   

Tax effect

  (1,065   (1,213
  

 

 

   

 

 

 

Total other comprehensive income

  1,556      1,955   
  

 

 

   

 

 

 

Comprehensive income

$ 4,688    $ 3,484   
  

 

 

   

 

 

 

See accompanying notes to condensed consolidated financial statements.

 

4


Table of Contents

FRANKLIN FINANCIAL NETWORK, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY

Three Months Ended March 31, 2015 and 2014

(Dollar amounts in thousands, except share and per share data)

(Unaudited)

 

     Preferred
Stock
     Common
Stock
     Retained
Earnings
    Accumulated
Other
Comprehensive
Income (Loss)
    Total
Shareholders’
Equity
 

Balance at December 31, 2013

   $ 10,000       $ 52,638       $ 7,058      $ (4,533   $ 65,163   

Exercise of common stock options, 119 shares

     —          1         —         —         1   

Dividends paid on Series A preferred stock

     —          —          (25     —         (25

Stock based compensation expense

     —          204         —         —         204   

Net income

     —          —          1,529        —         1,529   

Other comprehensive loss

     —          —          —         1,955        1,955   
  

 

 

    

 

 

    

 

 

   

 

 

   

 

 

 

Balance at March 31, 2014

$ 10,000    $ 52,843    $ 8,562    $ (2,578 $ 68,827   
  

 

 

    

 

 

    

 

 

   

 

 

   

 

 

 

Balance at December 31, 2014

$ 10,000    $ 94,251    $ 15,372    $ 2,176    $ 121,799   

Exercise of common stock options, 70,521 shares

  —       780      —       —       780   

Exercise of common stock warrants, 200 shares

  —       2      —       —       2   

Dividends paid on Series A preferred stock

  —       —       (25   —       (25

Stock based compensation expense, net of 1,202 restricted share forfeitures

  —       146      —       —       146   

Stock (2,640,000 shares) issued related to initial public offering, net of stock issuance costs of $4,436

  —       51,004      —       —       51,004   

Excess tax benefit from exercise of stock options

  —       147      —       —       147   

Net income

  —       —       3,132      —       3,132   

Other comprehensive income

  —       —       —       1,556      1,556   
  

 

 

    

 

 

    

 

 

   

 

 

   

 

 

 

Balance at March 31, 2015

$ 10,000    $ 146,330    $ 18,479    $ 3,732    $ 178,541   
  

 

 

    

 

 

    

 

 

   

 

 

   

 

 

 

See accompanying notes to condensed consolidated financial statements.

 

5


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FRANKLIN FINANCIAL NETWORK, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

Three Months Ended March 31, 2015 and 2014

(Dollar amounts in thousands, except share and per share data)

(Unaudited)

 

     Three Months Ended
March 31,
 
     2015     2014  

Cash flows from operating activities

    

Net income

   $ 3,132      $ 1,529   

Adjustments to reconcile net income to net cash from operating activities

    

Depreciation and amortization on premises and equipment

     319        159   

Accretion of purchase accounting adjustments

     (625     —    

Net amortization of securities

     746        556   

Amortization of loan servicing right asset

     223        215   

Amortization of core deposit intangible

     172        —    

Provision for loan losses

     625        385   

Excess tax benefit related to the exercise of stock options

     (147     —    

Origination of loans held for sale

     (74,849     (47,114

Proceeds from sale of loans held for sale

     72,213        47,216   

Net gain on sale of loans

     (1,647     (784

Gain on sale of available for sale securities

     (376     (8

Gain on call of held to maturity securities

     (39     —    

Income from bank owned life insurance

     (112     (60

(Gain) loss on sale and write down of foreclosed assets

     (3     (33

Stock-based compensation

     146        204   

Deferred gain on sale of loans

     (9     (12

Deferred gain on sale of foreclosed assets

     (3     —    

Net change in:

    

Accrued interest receivable and other assets

     (472     (331

Accrued interest payable and other liabilities

     1,011        (216
  

 

 

   

 

 

 

Net cash from operating activities

  305      1,706   

Cash flows from investing activities

Available for sale securities:

Sales

  9,289      5,451   

Purchases

  (161,475   (34,208

Maturities, prepayments and calls

  93,686      8,459   

Held to maturity securities:

Purchases

  —       (8,601

Maturities, prepayments and calls

  2,657      4,759   

Net change in loans

  (86,758   (30,582

Purchase of bank owned life insurance

  (10,000   —    

Proceeds from sale of buildings held for sale

  4,080      —    

Purchase of restricted equity securities

  (382   —    

Proceeds from sale of foreclosed assets

  265      214   

Purchases of premises and equipment, net

  (386   (1,396
  

 

 

   

 

 

 

Net cash from investing activities

  (149,024   (55,904

Cash flows from financing activities

Increase in deposits

  99,404      58,334   

Decrease in federal funds purchased and repurchase agreements

  (3,360   (1,459

Proceeds from Federal Home Loan Bank advances

  —       10,000   

Proceeds from exercise of common stock warrants

  2      —    

Proceeds from exercise of common stock options, including excess tax benefit

  927      1   

Proceeds from issuance of common stock, net of offering costs

  51,004      —    

Dividends paid on preferred stock

  (25   (25
  

 

 

   

 

 

 

Net cash from financing activities

  147,952      66,851   
  

 

 

   

 

 

 

Net change in cash and cash equivalents

  (767   12,653   

Cash and cash equivalents at beginning of period

  49,347      18,217   
  

 

 

   

 

 

 

Cash and cash equivalents at end of period

$ 48,580    $ 30,870   
  

 

 

   

 

 

 

Supplemental information:

Interest paid

$ 1,638    $ 1,143   

Income taxes paid

  1,500      1,230   

See accompanying notes to condensed consolidated financial statements.

 

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Table of Contents

FRANKLIN FINANCIAL NETWORK, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Dollar amounts in thousands, except share and per share data)

(Unaudited)

NOTE 1—BASIS OF PRESENTATION

The accompanying unaudited consolidated financial statements of Franklin Financial Network, Inc. (“FFN”), and its wholly owned subsidiaries, Franklin Synergy Bank and Banc Compliance Group, Inc. (collectively, the “Company”), have been prepared in accordance with instructions to Form 10-Q and therefore do not include all information and footnotes necessary for a fair presentation of financial position, results of operations, and cash flows in conformity with U.S. generally accepted accounting principles (U.S. GAAP). All adjustments which are, in the opinion of management, necessary for a fair presentation of the results for the periods reported have been included as required by Regulation S-X, Rule 10-01. All such adjustments are of a normal recurring nature. It is suggested that these interim consolidated financial statements and notes be read in conjunction with the financial statements and accompanying notes included in the Company’s Annual Report on Form 10-K filed with the SEC on March 11, 2015.

NOTE 2—ACQUISITIONS

Acquisition of MidSouth Bank

On July 1, 2014 the Company completed the acquisition of MidSouth Bank (“MidSouth”), pursuant to the terms of the Agreement and Plan of Reorganization and Bank Merger (the “merger agreement”) dated November 19, 2013.

The acquisition was accounted for under the acquisition method of accounting in accordance with ASC Topic 805, Business Combinations. The Company recognized goodwill on this acquisition of $9,124, after consideration of a measurement period adjustment discussed below, which is nondeductible for tax purposes as this acquisition was a nontaxable transaction. The goodwill is calculated based on the fair values of the assets acquired and liabilities assumed as of the acquisition date. Fair value estimates are based on the information available, and are subject to change for up to one year after the closing date of the acquisition as additional information relative to closing date fair values becomes available. Fair values are preliminary estimates due to pending appraisals on loans and other real estate owned.

The Company acquired 100% of the outstanding preferred and common stock of MidSouth. The purchase price consisted of both cash and share of the Company’s common stock. MidSouth’s common shareholders received 0.425926 shares of FFN common stock for each share of MidSouth common stock. MidSouth’s preferred shareholders received 0.851852 shares of FFN common stock for each share of MidSouth preferred stock. Each MidSouth Series 2009A warrant holder received 0.18 shares of FFN common stock for each MidSouth Series 2009A warrant, and each Series 2011-A warrant holder received 0.146667 shares of FFN common stock for each MidSouth Series 2011-A warrant. In lieu of issuing fractional shares of FFN common stock, FFN paid former MidSouth shareholders an amount in cash determined by multiplying (i) $13.50 by (ii) the fraction of a share (rounded to the nearest ten thousandth when expressed in decimal form) of FFN common stock.

MidSouth common stock options were converted into options to purchase shares of FFN common stock based on the 0.425926 exchange ratio, with the new exercise price becoming the exercise price of the MidSouth options divided by the exchange ratio. On the date of the merger, 2,766,191 shares of FFN common stock were exchanged for the common and preferred stock, and common stock warrants of MidSouth in accordance with the proration and allocation procedures contained in the merger agreement and as noted above. Subsequently, cash totaling $100 was paid to dissenting MidSouth shareholders representing 7,427 shares of FFN common stock. In addition, $18 of cash was paid to MidSouth shareholders for fractional shares in accordance with the merger agreement.

 

7


Table of Contents

Based on a valuation of the FFN’s common stock as of July 1, 2014, the resulting purchase price was $41,094. The following table summarizes the purchase price calculation:

 

     Number of
MidSouth shares
outstanding
     Per share
exchange
ratio
     Number of FFN
shares—as
exchanged
 

Common Shares

     3,873         0.425926         1,650   

Convertible Voting Preferred Stock, 2009-A

     1,018         0.851852         867   

Convertible Voting Preferred Stock, 2011-A

     242         0.851852         206   

Series 2009-A Stock Warrants (strike price $3.25)

     193         0.185185         36   

Series 2011-A Stock Warrants (strike price $3.68)

     44         0.153333         7   
        

 

 

 
  2,766   

Multiplied by FFN common stock value at acquisition date

$ 14.50   
        

 

 

 

Fair value of FFN common stock issued (“Stock Consideration”)

$ 40,110   

Cash consideration paid for fractional shares

  18   

Cash consideration paid for dissenting shares

  100   

Fair value of MidSouth stock options converted to FFN stock options

  866   
        

 

 

 

Total acquisition consideration

$ 41,094   
        

 

 

 

On July 1, 2014 the Company purchased MidSouth. As previously disclosed, the fair values initially assigned to the assets acquired and liabilities assumed were preliminary and subject to refinement for up to one year after the closing date of the acquisition as new information relative to closing date fair values becomes available. Based on appraisals received subsequent to the acquisition date, the Company adjusted its initial fair value estimate of foreclosed assets that were acquired. The table below summarizes the fair value of the assets purchased, including goodwill, and liabilities assumed as of the July 1, 2014 purchase date.

 

In Thousands

   July 1, 2014
(as initially reported)
     Measurement
Period
Adjustments
    July 1, 2014
(as adjusted)
 

Assets:

       

Cash and due from banks

   $ 1,369       $  —        $ 1,369   

Interest-bearing accounts at other financial institutions

     10,946           10,946   

Securities, available-for-sale

     57,431           57,431   

Loans held for sale

     7,071           7,071   

Loans

     184,345           184,345   

Certificates of deposit at other financial institutions

     250           250   

Restricted equity securities

     1,572           1,572   

Bank premises and equipment, net

     6,650           6,650   

Bank-owned life insurance

     3,144           3,144   

Accrued interest receivable

     728           728   

Foreclosed assets

     800         (260     540   

Core deposit intangible

     3,060           3,060   

Deferred tax asset

     6,753         100        6,853   

Goodwill

     8,964         160        9,124   

Other assets

     747           747   
  

 

 

    

 

 

   

 

 

 

Total assets acquired

$ 293,830    $  —      $ 293,830   
  

 

 

    

 

 

   

 

 

 

Liabilities:

Deposits

$ 244,415    $  —      $ 244,415   

Short-term borrowings

  6,893      6,893   

Other liabilities

  1,428      1,428   
  

 

 

    

 

 

   

 

 

 

Total liabilities assumed

$ 252,736    $ —      $ 252,736   
  

 

 

    

 

 

   

 

 

 

At March 31, 2015, there were no circumstances or significant changes that have occurred since July 1, 2014 related to the acquisition of MidSouth that, in management’s assessment, would necessitate recording impairment of goodwill.

 

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In the acquisition, the Company purchased $184,345 of loans at fair value, net of $7,347, or 3.8%, estimated discount to the outstanding principal balance, representing 38.0% of the Company’s total loans at June 30, 2014. Of the total loans acquired, management identified loans totaling $5,527 as having credit deficiencies. All loans that were on non-accrual status and all loan relationships that were identified as substandard or impaired as of the acquisition date were considered by management to be credit-impaired and are accounted for pursuant to ASC Topic 310-30. The table below summarizes the total contractually required principal and interest cash payments, management’s estimate of expected total cash payments and fair value of the loans as of July 1, 2014 for purchased credit-impaired (“PCI”) loans. Contractually required principal and interest payments have been adjusted for estimated prepayments.

 

Contractually required principal and interest

   $ 8,510   

Non-accretable difference

     (1,745
  

 

 

 

Cash flows expected to be collected

  6,765   

Accretable yield

  (1,238
  

 

 

 

Total purchased credit-impaired loans acquired

$ 5,527   
  

 

 

 

The table below presents information with respect to the fair value of acquired loans, as well as their unpaid principal balance at acquisition date.

 

     Unpaid
Principal
Balance
     Fair
Value
 

Loans:

     

Residential real estate

   $ 39,425       $ 38,618   

Commercial real estate

     82,465         80,566   

Construction and land development

     43,766         42,454   

Commercial loans

     16,311         15,352   

Consumer and other loans

     1,865         1,828   

Purchased credit-impaired

     7,860         5,527   
  

 

 

    

 

 

 

Total earning assets

$ 191,692    $ 184,345   
  

 

 

    

 

 

 

In its assumption of the deposit liabilities, the Company believed the deposits assumed from the acquisition have an intangible value. The Company applied ASC Topic 805, which prescribes the accounting for goodwill and other intangible assets such as core deposit intangibles, in a business combination. The Company determined the estimated fair value of the core deposit intangible asset totaled $3,060, which will be amortized utilizing an accelerated amortization method over an estimated economic life of 8.2 years. When determining the valuation amount, deposits were analyzed based on factors such as type of deposit, deposit retention, interest rates and age of deposit relationships.

Pro-forma information

Pro-forma data for the three-month period ending March 31, 2014 listed in the table below presents pro-forma information as if the MidSouth acquisition occurred at the beginning of 2014. Because the MidSouth transaction closed on July 1, 2014, and its actual results are included in the Company’s actual operating results for the three-month period ending March 31, 2015, there is no pro-forma information for the three months ending March 31, 2015.

 

     Three months
ended March 31,
 
     2014  

Net interest income

   $ 10,405   

Net income available to common shareholders

     1,814   

Earnings per share—basic

   $ 0.24   

Earnings per share—diluted

   $ 0.23   

Supplemental pro forma earnings for the three months ended March 31, 2014 were adjusted to exclude $517 of acquisition-related costs incurred during the first quarter of 2014. Supplemental pro forma earnings for the three months ended March 31, 2014 were adjusted to include discount accretion and premium amortization related to the fair value adjustments to acquisition date assets and liabilities, as appropriate.

 

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During the three months ending March 31, 2014, the acquisition of MidSouth increased pro-forma net interest income by approximately $3,310 and net income available to common shareholders by approximately $310.

NOTE 3—SECURITIES

The following table summarizes the amortized cost and fair value of the available for sale securities portfolio at March 31, 2015 and December 31, 2014 and the corresponding amounts of gross unrealized gains and losses recognized in accumulated other comprehensive income.

 

     Amortized
Cost
     Gross
Unrealized
Gains
     Gross
Unrealized
Losses
    Fair
Value
 

March 31, 2015

          

U.S. government sponsored entities and agencies

   $ 46,333       $ 233       $ (134   $ 46,432   

Mortgage-backed securities: residential

     399,896         6,693         (719     405,870   

Mortgage-backed securities: commercial

     4,144         74         —         4,218   
  

 

 

    

 

 

    

 

 

   

 

 

 

Total

$ 450,373    $ 7,000    $ (853 $ 456,520   
  

 

 

    

 

 

    

 

 

   

 

 

 

 

     Amortized
Cost
     Gross
Unrealized
Gains
     Gross
Unrealized
Losses
     Fair
Value
 

December 31, 2014

           

U.S. government sponsored entities and agencies

   $ 30,070       $ 417       $ (314    $ 30,173   

U.S. Treasury securities

     20,000         —          —          20,000   

Mortgage-backed securities: residential

     335,677         4,593         (1,203      339,067   

Mortgage-backed securities: commercial

     6,432         33         —          6,465   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

$ 392,179    $ 5,043    $ (1,517 $ 395,705   
  

 

 

    

 

 

    

 

 

    

 

 

 

The amortized cost and fair value of the held to maturity securities portfolio at March 31, 2015 and December 31, 2014 and the corresponding amounts of gross unrecognized gains and losses were as follows:

 

     Amortized
Cost
     Gross
Unrecognized
Gains
     Gross
Unrecognized
Losses
    Fair
Value
 

March 31, 2015

          

U.S. government sponsored entities and agencies

   $ 4,763       $ 128       $ (45   $ 4,846   

Mortgage backed securities: residential

     36,970         762         (417     37,315   

State and political subdivisions

     8,917         389         (6     9,300   
  

 

 

    

 

 

    

 

 

   

 

 

 

Total

$ 50,650    $ 1,279    $ (468 $ 51,461   
  

 

 

    

 

 

    

 

 

   

 

 

 

 

     Gross
Amortized
Cost
     Gross
Unrecognized
Gains
     Gross
Unrecognized
Losses
    Fair
Value
 

December 31, 2014

          

U.S. government sponsored entities and agencies

   $ 5,550       $ 162       $ (87   $ 5,625   

Mortgage backed securities: residential

     38,587         555         (562     38,580   

State and political subdivisions

     9,195         351         (10     9,536   
  

 

 

    

 

 

    

 

 

   

 

 

 

Total

$ 53,332    $ 1,068    $ (659 $ 53,741   
  

 

 

    

 

 

    

 

 

   

 

 

 

 

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Table of Contents

Sales and calls of available for sale securities were as follows:

 

     Three Months Ended
March 31,
 
     2015      2014  

Proceeds

   $ 11,289       $ 5,451   

Gross gains

     390         24   

Gross losses

     (14      (16

Calls of held to maturity securities were as follows:

 

     Three Months Ended
March 31,
 
     2015        2014  

Proceeds

   $ 800         $ —    

Gross gains

     39           —    

Gross losses

     —            —    

The amortized cost and fair value of the investment securities portfolio are shown by contractual maturity. Securities not due at a single maturity date, primarily mortgage-backed securities, are shown separately.

 

     March 31, 2015  
     Amortized
Cost
     Fair
Value
 

Available for sale

     

Three months or less

   $ 30,000       $ 30,000   

Over three months through one year

     —          —    

Over one year through five years

     —          —    

Over five years through ten years

     7,788         8,021   

Over ten years

     8,545         8,411   

Mortgage-backed securities: residential

     399,896         405,870   

Mortgage-backed securities: commercial

     4,144         4,218   
  

 

 

    

 

 

 

Total

$ 450,373    $ 456,520   
  

 

 

    

 

 

 

Held to maturity

Three months or less

$ —     $ —    

Over three months through one year

  —       —    

Over one year through five years

  1,385      1,448   

Over five years through ten years

  1,106      1,141   

Over ten years

  11,189      11,557   

Mortgage-backed securities: residential

  36,970      37,315   
  

 

 

    

 

 

 

Total

$ 50,650    $ 51,461   
  

 

 

    

 

 

 

Securities pledged at March 31, 2015 and December 31, 2014 had a carrying amount of $488,573 and $366,764 and were pledged to secure public deposits and repurchase agreements.

At March 31, 2015 and December 31, 2014, there were no holdings of securities of any one issuer, other than the U.S. government-sponsored entities and agencies, in an amount greater than 10% of shareholders’ equity.

The following table summarizes the securities with unrealized and unrecognized losses at March 31, 2015 and December 31, 2014, aggregated by major security type and length of time in a continuous unrealized loss position:

 

     Less Than 12 Months     12 Months or Longer     Total  
     Fair
Value
     Unrealized
Losses
    Fair
Value
     Unrealized
Losses
    Fair
Value
     Unrealized
Losses
 

March 31, 2015

               

Available for sale

               

U.S. government sponsored entities and agencies

   $ 18,966       $ (34   $ 4,445       $ (100   $ 23,411       $ (134

Mortgage-backed securities: residential

     36,496         (287     32,813         (432     69,309         (719
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total available for sale

$ 55,462    $ (321 $ 37,258    $ (532 $ 92,720    $ (853
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

 

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Table of Contents
     Less Than 12 Months     12 Months or Longer     Total  
     Fair
Value
     Unrecognized
Losses
    Fair
Value
     Unrecognized
Losses
    Fair
Value
     Unrecognized
Losses
 

Held to maturity

               

U.S. government sponsored entities and agencies

   $ 1,978       $ (21   $ 976       $ (24   $ 2,954       $ (45

Mortgage-backed securities: residential

     2,452         (27     9,701         (390     12,153         (417

State and political subdivisions

     1,101         (6     —          —          1,101         (6
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total held to maturity

$ 5,531    $ (54 $ 10,677    $ (414 $ 16,208    $ (468
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 
     Less Than 12 Months     12 Months or Longer     Total  
     Fair
Value
     Unrealized
Losses
    Fair
Value
     Unrealized
Losses
    Fair
Value
     Unrealized
Losses
 

December 31, 2014

               

Available for sale

               

U.S. government sponsored entities and agencies

   $ 9,999       $ (1   $ 8,232       $ (313   $ 18,231       $ (314

Mortgage-backed securities: residential

     59,078         (323     41,939         (880     101,017         (1,203
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total available for sale

$ 69,077    $ (324 $ 50,171    $ (1,193 $ 119,248    $ (1,517
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 
     Less Than 12 Months     12 Months or Longer     Total  
     Fair
Value
     Unrecognized
Losses
    Fair
Value
     Unrecognized
Losses
    Fair
Value
     Unrecognized
Losses
 

Held to maturity

               

U.S. government sponsored entities and agencies

   $ —         $ —        $ 2,913       $ (87   $ 2,913       $ (87

Mortgage-backed securities: residential

     5,246         (25     13,001         (537     18,247         (562

State and political subdivisions

     507         (1     592         (9     1,099         (10
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total held to maturity

$ 5,753    $ (26 $ 16,506    $ (633 $ 22,259    $ (659
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Unrealized losses on debt securities have not been recognized into income because the issuers bonds are of high credit quality (rated AA or higher), management does not intend to sell and it is likely that management will not be required to sell the securities prior to their anticipated recovery, and the decline in fair value is largely due to changes in interest rates and other market conditions. The fair value is expected to recover as the bonds approach maturity.

 

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Table of Contents

NOTE 4—LOANS

Loans at March 31, 2015 and December 31, 2014 were as follows:

 

     March 31,
2015
     December 31,
2014
 

Loans that are not PCI loans

     

Construction and land development

   $ 282,520       $ 239,225   

Commercial real estate:

     

Nonfarm, nonresidential

     254,946         240,975   

Other

     4,259         5,377   

Residential real estate:

     

Closed-end 1-4 family

     133,040         130,631   

Other

     90,438         83,129   

Commercial and industrial

     98,986         76,570   

Consumer and other

     7,441         8,025   
  

 

 

    

 

 

 

Loans before net deferred loan fees

  871,630      783,932   

Deferred loan fees, net

  (1,397   (1,059
  

 

 

    

 

 

 

Total loans that are not PCI loans

  870,233      782,873   
  

 

 

    

 

 

 

PCI loans

Construction and land development

$ 76    $ 77   

Commercial real estate:

Nonfarm, nonresidential

  1,750      1,798   

Other

  —        —     

Residential real estate:

Closed-end 1-4 family

  697      706   

Other

  107      108   

Commercial and industrial

  1,676      1,624   

Consumer and other

  —        2   
  

 

 

    

 

 

 

Total PCI loans

  4,306      4,315   
  

 

 

    

 

 

 

Allowance for loan losses

  (7,308   (6,680
  

 

 

    

 

 

 

Total loans, net of allowance for loan losses

$ 867,231    $ 780,508   
  

 

 

    

 

 

 

The following table presents the activity in the allowance for loan losses by portfolio segment for the three month periods ending March 31, 2015 and 2014:

 

     Construction
and Land
Development
    Commercial
Real
Estate
     Residential
Real
Estate
    Commercial
and
Industrial
     Consumer
and
Other
    Total  

Three Months Ending March 31, 2015

              

Allowance for loan losses:

              

Beginning balance

   $ 2,690      $ 1,494       $ 1,791      $ 650       $ 55      $ 6,680   

Provision for loan losses

     (141     630         (67     200         3        625   

Loans charged-off

     —          —           —          —           —          —     

Recoveries

     —          —           3        —           —          3   
  

 

 

   

 

 

    

 

 

   

 

 

    

 

 

   

 

 

 

Total ending allowance balance

$ 2,549    $ 2,124    $ 1,727    $ 850    $ 58    $ 7,308   
  

 

 

   

 

 

    

 

 

   

 

 

    

 

 

   

 

 

 

Three Months Ending March 31, 2014

Allowance for loan losses:

Beginning balance

$ 1,497    $ 1,566    $ 1,402    $ 337    $ 98    $ 4,900   

Provision for loan losses

  49      129      115      127      (35   385   

Loans charged-off

  —        —        —        —        —        —     

Recoveries

  —        —        19      —        —        19   
  

 

 

   

 

 

    

 

 

   

 

 

    

 

 

   

 

 

 

Total ending allowance balance

$ 1,546    $ 1,695    $ 1,536    $ 464    $ 63    $ 5,304   
  

 

 

   

 

 

    

 

 

   

 

 

    

 

 

   

 

 

 

 

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There was no allowance for loan losses for PCI loans for the three months ended March 31, 2015 or for the three months ended March 31, 2014.

The following table presents the balance in the allowance for loan losses and the recorded investment in loans by portfolio segment and based on impairment method as of March 31, 2015 and December 31, 2014. For purposes of this disclosure, recorded investment in loans excludes accrued interest receivable and loan fees, net due to immateriality.

 

     Construction
and Land
Development
     Commercial
Real
Estate
     Residential
Real
Estate
     Commercial
and
Industrial
     Consumer
and
Other
     Total  

March 31, 2015

                 

Allowance for loan losses:

                 

Ending allowance balance attributable to loans:

                 

Individually evaluated for impairment

   $ —         $ —         $ —         $ 18       $ —         $ 18   

Collectively evaluated for impairment

     2,549         2,124         1,727         832         58         7,290   

Purchased credit-impaired loans

     —           —           —           —           —           —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total ending allowance balance

$ 2,549    $ 2,124    $ 1,727    $ 850    $ 58    $ 7,308   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Loans:

Individually evaluated for impairment

$ —      $ 835    $ 456    $ 111    $ —      $ 1,402   

Collectively evaluated for impairment

  282,520      258,370      223,022      98,875      7,441      870,228   

Purchased credit-impaired loans

  76      1,750      804      1,676      —        4,306   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total ending loans balance

$ 282,596    $ 260,955    $ 224,282    $ 100,662    $ 7,441    $ 875,936   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

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Table of Contents
     Construction
and Land
Development
     Commercial
Real
Estate
     Residential
Real
Estate
     Commercial
and
Industrial
     Consumer
and
Other
     Total  

December 31, 2014

                 

Allowance for loan losses:

                 

Ending allowance balance attributable to loans:

                 

Individually evaluated for impairment

   $ —        $ —        $ —        $ 18       $ —        $ 18   

Collectively evaluated for impairment

     2,690         1,494         1,791         632         55         6,662   

Purchased credit-impaired loans

     —          —          —          —          —          —    
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total ending allowance balance

$ 2,690    $ 1,494    $ 1,791    $ 650    $ 55    $ 6,680   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Loans:

Individually evaluated for impairment

$ —     $ 835    $ 93    $ 18    $ —     $ 946   

Collectively evaluated for impairment

  239,225      245,517      213,667      76,552      8,025      782,986   

Purchased credit-impaired loans

  77      1,798      814      1,624      2      4,315   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total ending loans balance

$ 239,302    $ 248,150    $ 214,574    $ 78,194    $ 8,027    $ 788,247   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Loans collectively evaluated for impairment reported at March 31, 2015 include certain loans acquired from MidSouth on July 1, 2014. The acquired loans were recorded at estimated fair value at date of acquisition, which included an estimated credit discount. On July 1, 2014, acquired non-PCI loans were recorded at an estimated fair value of $178,818, comprised of contractually unpaid principal totaling $183,832 net of estimated discounts totaling $5,014 which included both credit and interest rate discount components. At March 31, 2015, acquired non-PCI loans were recorded at an estimated fair value of $134,174. Management evaluated these loans for credit deterioration since acquisition and determined that no allowance for loan losses was necessary at March 31, 2015.

The following table presents information related to impaired loans by class of loans as of March 31, 2015 and December 31, 2014:

 

     Unpaid
Principal
Balance
     Recorded
Investment
     Allowance for
Loan Losses
Allocated
 

March 31, 2015

        

With no allowance recorded:

        

Commercial real estate:

        

Nonfarm, nonresidential

   $ 2,422       $ 835       $ —    

Residential real estate:

        

Closed-end 1-4 family

     456         456         —    

Commercial and industrial

     93         93         —    
  

 

 

    

 

 

    

 

 

 

Subtotal

  2,971      1,384      —    

With an allowance recorded:

Commercial and industrial

  18      18      18   
  

 

 

    

 

 

    

 

 

 

Subtotal

  18      18      18   
  

 

 

    

 

 

    

 

 

 

Total

$ 2,989    $ 1,402    $ 18   
  

 

 

    

 

 

    

 

 

 

December 31, 2014

With no allowance recorded:

Commercial real estate:

Nonfarm, nonresidential

$ 2,422    $ 835    $ —    

Residential real estate:

Closed-end 1-4 family

  93      93      —    
  

 

 

    

 

 

    

 

 

 

Subtotal

  2,515      928      —    
  

 

 

    

 

 

    

 

 

 

With an allowance recorded:

Commercial and industrial

  18      18      18   
  

 

 

    

 

 

    

 

 

 

Subtotal

  18      18      18   
  

 

 

    

 

 

    

 

 

 

Total

$ 2,533    $ 946    $ 18   
  

 

 

    

 

 

    

 

 

 

 

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Table of Contents

The following table presents the average recorded investment of impaired loans by class of loans for the three months ended March 31, 2015 and 2014:

 

     Three Months Ended
March 31,
 

Average Recorded Investment

   2015      2014  

With no allowance recorded:

     

Commercial real estate:

     

Nonfarm, nonresidential

   $ 835       $ 1,205   

Residential real estate:

     

Closed-end 1-4 family

     457         —    

Commercial and industrial

     83         —    
  

 

 

    

 

 

 

Subtotal

  1,375      1,205   
  

 

 

    

 

 

 

With an allowance recorded:

Commercial real estate:

Nonfarm, nonresidential

$ —     $ 1,375   

Residential real estate:

1-4 family

  —       1,226   

Commercial and industrial

  19      66   
  

 

 

    

 

 

 

Subtotal

  19      2,667   
  

 

 

    

 

 

 

Total

$ 1,394    $ 3,872   
  

 

 

    

 

 

 

The impact on net interest income for these loans was not material to the Company’s results of operations for the three months ended March 31, 2015 and 2014.

The following table presents the recorded investment in nonaccrual and loans past due over 90 days still on accrual by class of loans as of March 31, 2015 and December 31, 2014:

 

     Nonaccrual      Loans Past Due
Over 90 Days
 

March 31, 2015

     

Commercial real estate:

     

Nonfarm, nonresidential

   $ 835       $ —    

Residential real estate:

     

Closed-end1-4 family

     —          334   

Commercial and industrial

     18         —    
  

 

 

    

 

 

 

Total

$ 853    $ 334   
  

 

 

    

 

 

 

December 31, 2014

Commercial real estate:

Nonfarm, nonresidential

$ 835    $ —    

Residential real estate:

Closed-end 1-4 family

  —       316   
  

 

 

    

 

 

 

Total

$ 835    $ 316   
  

 

 

    

 

 

 

Nonaccrual loans and loans past due 90 days still on accrual include both smaller balance homogeneous loans that are collectively evaluated for impairment and individually classified impaired loans.

 

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Table of Contents

The following table presents the aging of the recorded investment in past due loans as of March 31, 2015 and December 31, 2014 by class of loans:

 

     30-59
Days
Past Due
     60-89
Days
Past Due
     Greater
Than 89
Days
Past Due
     Total
Past Due
     Loans
Not
Past Due
     PCI
Loans
     Total  

March 31, 2015

                    

Construction and land development

   $ 682       $  —         $  —         $ 682       $ 281,838       $ 76       $ 282,596   

Commercial real estate:

                    

Nonfarm, nonresidential

     —           —           835         835         254,111         1,750         256,696   

Other

     —           —           —           —           4,259         —           4,259   

Residential real estate:

                    

Closed-end 1-4 family

     475         —           334         809         132,231         697         133,737   

Other

     1,292         —           —           1,292         89,146         107         90,545   

Commercial and industrial

     —           —           —           —           98,986         1,676         100,662   

Consumer and other

     12         14         —           26         7,415         —           7,441   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 
$ 2,461    $ 14    $ 1,169    $ 3,644    $ 867,986    $ 4,306    $ 875,936   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

     30-59
Days
Past Due
     60-89
Days
Past Due
     Greater
Than 89
Days
Past Due
     Total
Past Due
     Loans
Not
Past Due
     PCI
Loans
     Total  

December 31, 2014

                    

Construction and land development

   $ 354       $  —         $ —         $ 354       $ 238,871       $ 77       $ 239,302   

Commercial real estate:

                    

Nonfarm, nonresidential

     —           —           835         835         240,140         1,798         242,773   

Other

     —           —           —           —           5,377         —           5,377   

Residential real estate:

                    

Closed-end 1-4 family

     299         165         316         780         129,851         706         131,337   

Other

     52         —           —           52         83,077         108         83,237   

Commercial and industrial

     —           212         —           212         76,358         1,624         78,194   

Consumer and other

     —           —           —           —           8,025         2         8,027   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 
$ 705    $ 377    $ 1,151    $ 2,233    $ 781,699    $ 4,315    $ 788,247   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Credit Quality Indicators: The Company categorizes loans into risk categories based on relevant information about the ability of borrowers to service their debt such as: current financial information, historical payment experience, credit documentation, public information, and current economic trends, among other factors. The Company analyzes loans individually by classifying the loans as to credit risk. This analysis includes non-homogeneous loans, such as commercial and commercial real estate loans as well as non-homogeneous residential real estate loans. This analysis is performed on a quarterly basis. The Company uses the following definitions for risk ratings:

Special Mention. Loans classified as special mention have a potential weakness that deserves management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the loan or of the institution’s credit position at some future date.

Substandard. Loans classified as substandard are inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any. Loans so classified have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. They are characterized by the distinct possibility that the institution will sustain some loss if the deficiencies are not corrected.

 

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Table of Contents

Loans not meeting the criteria above that are analyzed individually as part of the above described process are considered to be pass rated loans. The following table includes PCI loans, which are included in the “Substandard” column. Based on the most recent analysis performed, the risk category of loans by class of loans is as follows as of March 31, 2015 and December 31, 2014:

 

     Pass      Special
Mention
     Substandard      Total  

March 31, 2015

           

Construction and land development

   $ 282,519       $  —         $ 77       $ 282,596   

Commercial real estate:

           

Nonfarm, nonresidential

     253,007         —           3,689         256,696   

Other

     4,259         —           —           4,259   

Residential real estate:

           

Closed-end 1-4 family

     131,803         —           1,934         133,737   

Other

     90,438         —           107         90,545   

Commercial and industrial

     98,874         —           1,788         100,662   

Consumer and other

     7,441         —           —           7,441   
  

 

 

    

 

 

    

 

 

    

 

 

 
$ 868,341    $  —      $ 7,595    $ 875,936   
  

 

 

    

 

 

    

 

 

    

 

 

 

 

     Pass      Special
Mention
     Substandard      Total  

December 31, 2014

           

Construction and land development

   $ 239,225       $  —         $ 77      $ 239,302   

Commercial real estate:

           

Nonfarm, nonresidential

     239,584         —           3,189         242,773   

Other

     5,377         —           —           5,377   

Residential real estate:

           

1-4 family

     128,869         —           2,468         131,337   

Other

     83,129         —           108         83,237   

Commercial and industrial

     76,552         —           1,642         78,194   

Consumer and other

     8,025         —           2         8,027   
  

 

 

    

 

 

    

 

 

    

 

 

 
$ 780,761    $  —      $ 7,486    $ 788,247   
  

 

 

    

 

 

    

 

 

    

 

 

 

Purchased Credit-impaired (“PCI”) loans

Income is recognized on PCI loans pursuant to ASC Topic 310-30. A portion of the fair value discount has been recognized as an accretable yield that is accreted into interest income over the estimated remaining life of the loans. The remaining non-accretable difference represents cash flows not expected to be collected.

The table below summarizes the total contractually required principal and interest cash payments, management’s estimate of expected total cash payments and carrying value of the loans as of March 31, 2015 and December 31, 2014. Contractually required principal and interest payments have been adjusted for estimated prepayments.

 

     Mar 31, 2015      Dec 31, 2014  

Contractually required principal and interest

   $ 6,135       $ 6,532   

Non-accretable difference

     (989      (1,270
  

 

 

    

 

 

 

Cash flows expected to be collected

  5,146      5,262   

Accretable yield

  (840   (947
  

 

 

    

 

 

 

Carrying value of acquired loans

  4,306      4,315   

Allowance for loan losses

  —        —     
  

 

 

    

 

 

 

Carrying value less allowance for loan losses

$ 4,306    $ 4,315   
  

 

 

    

 

 

 

 

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Management adjusted estimates of future expected losses, cash flows and renewal assumptions during the current quarter. These adjustments resulted in a decrease in expected cash flows and accretable yield, and a decrease in the non-accretable difference. The table below summarizes the changes in total contractually required principal and interest cash payments, management’s estimate of expected total cash payments and carrying value of the loans during the three month period ending March 31, 2015.

 

Activity during the
three month period ending March 31, 2015

   Dec 31, 2014     Effect of
Acquisitions
     Income
Accretion
     All other
Adjustments
    Mar 31, 2015  

Contractually required principal and interest

   $ 6,532     $ —         $ —         $ (397   $ 6,135  

Non-accretable difference

     (1,270     —          —          281       (989
  

 

 

   

 

 

    

 

 

    

 

 

   

 

 

 

Cash flows expected to be collected

  5,262     —       —       (116   5,146  

Accretable yield

  (947   —       57     50      (840
  

 

 

   

 

 

    

 

 

    

 

 

   

 

 

 

Carry value of acquired loans

$ 4,315   $ —      $ 57   $ (66 $ 4,306  
  

 

 

   

 

 

    

 

 

    

 

 

   

 

 

 

Troubled Debt Restructurings

The Company’s loan portfolio contains no loans that have been modified in a troubled debt restructuring.

NOTE 5—LOAN SERVICING

Loans serviced for others are not reported as assets. The principal balances of these loans at March 31, 2015 and December 31, 2014 are as follows:

 

     March 31,
2015
     December 31,
2014
 

Loan portfolios serviced for:

     

Federal Home Loan Mortgage Corporation

   $ 425,714       $ 414,222   

Other

     3,753         3,986   

The components of net loan servicing fees for the three months ended March 31, 2015 and 2014 were as follows:

 

     Three Months Ended
March 31,
 
     2015      2014  

Loan servicing fees, net:

     

Loan servicing fees

   $ 266       $ 227   

Amortization of loan servicing fees

     (223      (215

Change in impairment

     —          —    
  

 

 

    

 

 

 

Total

$ 43    $ 12   
  

 

 

    

 

 

 

The fair value of servicing rights was estimated by management to be approximately $3,999 at March 31, 2015. Fair value for March 31, 2015 was determined using a weighted average discount rate of 10.5% and a weighted average prepayment speed of 11.7%. At December 31, 2014, the fair value of servicing rights was estimated by management to be approximately $4,180. Fair value for December 31, 2014 was determined using weighted average discount rate of 10.5% and a weighted average prepayment speed of 10.8%.

The weighted average amortization period is 5.86 years. Estimated amortization expense for each of the next three years is:

 

2015

$ 610   

2016

  516   

2017

  516   

NOTE 6—SHARE-BASED PAYMENTS

In connection with the Company’s 2010 private offering, 32,425 warrants were issued to shareholders, one warrant for every twenty shares of common stock purchased. Each warrant allows the shareholders to purchase an additional share of common stock at $12.00 per share. The warrants were issued with an effective date of March 30, 2010 and will be exercisable in whole or in part up to seven

 

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Table of Contents

years following the date of issuance. The warrants are detachable from the common stock. There were 200 warrants exercised during the three months ended March 31, 2015, for which the Company received cash proceeds of $2. The exercised warrants had an intrinsic value of $2 at the date of exercise. No warrants were exercised during the three months ended March 31, 2014. At March 31, 2015, there were 31,677 outstanding warrants associated with the 2010 offering.

In the event the common stock of the Company is to be registered under the Securities Act or is traded on a national securities exchange at $15.00 or more for forty-five (45) consecutive days, the Company may redeem the 2010 warrants at any time thereafter with not less than thirty (30) days’ written notice to the holder of such 2010 warrant, in whole or in part, at a redemption price of $1.00 per warrant; provided, however, that the holder of the 2010 warrant may exercise the 2010 warrant, in whole or in part, during such thirty (30) day period.

Stock Option Plan: The Company’s 2007 Stock Option Plan (“stock option plan” or the “Plan”), which was shareholder-approved, permitted the grant of share options to its employees, organizers and directors for up to 551,250 shares of common stock. The Plan was amended during April 2010 to increase the number of shares available for issuance to 1,000,000. In April 2013, the Plan was amended to offer additional forms of equity compensation, to change the Plan’s name to the Franklin Financial Network, Inc. 2007 Omnibus Equity Incentive Plan, and to increase the number of authorized shares to 1,500,000. The Company believes that such awards better align the interests of its employees with those of its shareholders. Shareholders approved amendments to the Plan to increase the number of authorized shares to 2,000,000 in June 2014 and to 4,000,000 in February 2015. At March 31, 2015, there were 2,617,288 authorized shares available for issuance.

Employee, organizer and director awards are generally granted with an exercise price equal to the market price of the Company’s common stock at the date of grant; those option awards have a vesting period of 3 to 5 years and have a 10-year contractual term. The Company assigns discretion to its Board of Directors to make grants either as qualified incentive stock options or as non-qualified stock options. All employee grants are intended to be treated as qualified incentive stock options, if allowable. All other grants are expected to be treated as non-qualified.

During 2014, the Company granted 181,680 options, exercised 23,809 options, and had 31,135 options that were either forfeited, cancelled or expired. In addition, on July 1, 2014, 322,300 MidSouth common stock options were converted into 137,280 options to purchase shares of FFN common stock with an exercise price of $8.57 per option pursuant to the terms of the merger agreement (see Note 2). Using the Black-Scholes option valuation model, the grant date fair value was estimated to be $6.31 per converted option based on the $14.50 fair value per share of FFN common stock at July 1, 2014. No post compensation expense was required related to the converted options.

The fair value of each option award is estimated on the date of grant using a closed form option valuation (Black-Scholes) model that uses the assumptions noted in the table below. Expected stock price volatility is based on historical volatilities of a peer group. The Company uses historical data to estimate option exercise and post-vesting termination behavior.

The expected term of options granted represents the period of time that options granted are expected to be outstanding, which takes into account that the options are not transferable. The risk-free interest rate for the expected term of the option is based on the U.S. Treasury yield curve in effect at the time of the grant.

 

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Table of Contents

The fair value of options granted was determined using the following weighted-average assumptions as of grant date.

 

     March 31,
2015
    March 31,
2014
 

Risk-free interest rate

     1.93     2.48

Expected term

     7.5 years        7.5 years   

Expected stock price volatility

     25.00     11.04

Dividend yield

     0.22     0.43

The weighted average fair value of options granted for the three months ended March 31, 2015 and 2014 were $6.76 and $2.58, respectively.

A summary of the activity in the stock option plans for the three months ended March 31, 2015 follows:

 

     Shares      Weighted
Average
Exercise
Price
     Weighted
Average
Remaining
Contractual
Term
     Aggregate
Intrinsic
Value
 

Outstanding at beginning of year

     1,210,660       $ 11.32         6.53       $ 7,244   

Granted

     1,000         21.75         

Exercised

     (74,634      11.55         

Forfeited, expired, or cancelled

     (2,000      18.45         
  

 

 

          

Outstanding at period end

  1,135,026    $ 11.30      6.23    $ 11,013   
  

 

 

    

 

 

    

 

 

    

 

 

 

Vested or expected to vest

  1,176,064    $ 11.30      6.23    $ 10,462   

Exercisable at period end

  807,599    $ 10.52      5.19    $ 7,513   
  

 

 

    

 

 

    

 

 

    

 

 

 

The Company received cash proceeds of $780 for the options exercised during the three months ended March 31, 2015. The exercised options had an aggregate intrinsic value of $609 at the date of exercise.

As of March 31, 2015, there was $611 of total unrecognized compensation cost related to non-vested stock options granted under the Plan. The cost is expected to be recognized over a weighted-average period of 1.4 years.

Restricted Share Award Plan: Additionally, the Company’s 2007 Omnibus Equity Incentive Plan provides for the granting of restricted share awards and other performance related incentives. During 2014, the Company awarded 87,374 restricted common shares to employees of the Company. When the restricted shares are awarded, a participant receives voting and dividend rights with respect to the shares, but is not able to transfer the shares until the restrictions have lapsed. These awards have a vesting period of three to five years and vest in equal annual installments on the anniversary date of the grant.

A summary of activity for non-vested restricted share awards for the three months ended March 31, 2015 is as follows:

 

Non-vested Shares

   Shares      Weighted-Average
Grant-Date
Fair Value
 

Non-vested at December 31, 2014

     102,710       $ 13.93   

Granted

     —          —    

Vested

     —          —    

Forfeited

     (1,202      16.14   
  

 

 

    

Non-vested at March 31, 2015

  101,508    $ 13.91   
  

 

 

    

Compensation expense associated with the restricted share awards is recognized on a straight-line basis over the time period that the restrictions associated with the awards lapse based on the total cost of the award at the grant date. As of March 31, 2015, there was $1,130 of total unrecognized compensation cost related to non-vested shares granted under the Plan. The cost is expected to be recognized over a weighted-average period of 3 years.

 

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Table of Contents

NOTE 7—REGULATORY CAPITAL MATTERS

In July 2013, the Federal Reserve Board and the FDIC approved final rules that substantially amend the regulatory risk-based capital rules applicable to the Company and Bank. The final rules implement the regulatory capital reforms of the Basel Committee on Banking Supervision reflected in “Basel III: A Global Framework for More Resilient Banks and Banking Systems” (“Basel III”) and changes required by the Dodd-Frank Act.

Under these rules, the leverage and risk-based capital ratios of bank holding companies may not be lower than the leverage and risk-based capital ratios for insured depository institutions. The final rules implementing the Basel III regulatory capital reforms became effective to the Company and Bank on January 1, 2015, and include new minimum risk-based capital and leverage ratios. Moreover, these rules refine the definition of what constitutes capital for purposes of calculating those ratios, including the definitions of Tier 1 capital and Tier 2 capital.

In addition to the new minimum capital level requirements, the rules also establish a “capital conservation buffer” of 2.5% (to be phased in over three years) above the new regulatory minimum risk-based capital ratios, and result in the following minimum ratios once the capital conservation buffer is fully phased in: (i) a common Tier 1 risk-based capital ratio of 7.0%, (ii) a Tier 1 risk-based capital ratio of 8.5%, and (iii) a total risk-based capital ratio of 10.5%. The capital conservation buffer is to be phased in beginning in January 2016 at 0.625% of risk-weighted assets and will increase each year until fully implemented in January 2019. An institution will be subject to limitations on paying dividends, engaging in share repurchases, and paying discretionary bonuses if capital levels fall below minimum levels plus the buffer amounts. These limitations establish a maximum percentage of eligible retained income that could be utilized for such actions.

The final rules allow banks and their holding companies with less than $250 billion in assets a one-time opportunity to opt-out of a requirement to include unrealized gains and losses in accumulated other comprehensive income in their capital calculation. The Company has opted out of this requirement.

Management believes, as of March 31, 2015, that the Company and Bank met all capital adequacy requirements to which they are subject. The Company’s and Bank’s actual capital amounts and ratios are presented in the following table (in thousands):

 

     Actual     Minimum Capital
Requirement
    Excess
Amount
 
     Amount      Ratio     Amount      Ratio    

March 31, 2015

            

Company common equity Tier 1 capital to risk-weighted assets

   $ 149,119         14.01   $ 47,899         4.50   $ 101,220   

Company total capital to risk-weighted assets

   $ 166,427         15.64   $ 85,154         8.00   $ 81,273   

Company Tier 1 capital to risk-weighted assets

   $ 159,119         14.95   $ 63,866         6.00   $ 95,253   

Company Tier 1 capital to average assets

   $ 159,119         11.41   $ 55,769         4.00   $ 103,350   

Bank common equity Tier 1 capital to risk-weighted assets

   $ 136,865         12.86   $ 47,894         4.50   $ 88,971   

Bank total capital to risk-weighted assets

   $ 153,173         14.39   $ 85,145         8.00   $ 68,028   

Bank Tier 1 capital to risk-weighted assets

   $ 145,865         13.71   $ 63,859         6.00   $ 82,006   

Bank Tier 1 capital to average assets

   $ 145,865         10.48   $ 55,697         4.00   $ 90,168   

December 31, 2014

            

Company total capital to risk-weighted assets

   $ 114,475         12.30   $ 74,464         8.00   $ 40,011   

Company Tier 1 capital to risk-weighted assets

   $ 107,795         11.58   $ 37,232         4.00   $ 70,563   

Company Tier 1 capital to average assets

   $ 107,795         8.57   $ 50,291         4.00   $ 57,504   

Bank total capital to risk-weighted assets

   $ 113,830         12.23   $ 74,447         8.00   $ 39,383   

Bank Tier 1 capital to risk-weighted assets

   $ 107,150         11.51   $ 37,223         4.00   $ 69,927   

Tier 1 capital to average assets

   $ 107,150         8.52   $ 50,279         4.00   $ 56,871   

 

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Table of Contents

Dividend Restrictions: The Company’s principal source of funds for dividend payments is dividends received from the Bank. Banking regulations limit the amount of dividends that may be paid without prior approval of regulatory agencies. Under these regulations, the amount of dividends that may be paid in any calendar year is limited to the current year’s net profits, combined with the retained net profits of the preceding two years, subject to the capital requirements described above. During 2015 the Bank could declare, without prior approval, dividends of approximately $13,836 plus any 2015 net profits retained to the date of declaration.

NOTE 8—FAIR VALUE

Fair value is the exchange price that would be received for an asset or paid to transfer a liability (exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. There are three levels of inputs that may be used to measure fair values:

Level 1: Quoted prices (unadjusted) for identical assets or liabilities in active markets that the entity has the ability to access as of the measurement date.

Level 2: Significant other observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data.

Level 3: Significant unobservable inputs that reflect a reporting entity’s own assumptions about the assumptions that market participants would use in pricing an asset or liability.

The Company used the following methods and significant assumptions to estimate the fair value of each type of asset and liability:

Securities: The fair values for investment securities are determined by quoted market prices, if available (Level 1). For securities where quoted prices are not available, fair values are calculated based on market prices of similar securities (Level 2). For securities where quoted prices or market prices of similar securities are not available, fair values are calculated using discounted cash flows or other market indicators (Level 3).

Derivatives: The fair values of derivatives are based on valuation models using observable market data as of the measurement date (Level 2).

Impaired Loans: The fair value of impaired loans with specific allocations of the allowance for loan losses is generally based on recent real estate appraisals. These appraisals may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach. Adjustments are routinely made in the appraisal process by the independent appraisers to adjust for differences between the comparable sales and income data available. Such adjustments are usually significant and typically result in a Level 3 classification of the inputs for determining fair value. Non-real estate collateral may be valued using an appraisal, net book value per the borrower’s financial statements, or aging reports, adjusted or discounted based on management’s historical knowledge, changes in market conditions from the time of the valuation, and management’s expertise and knowledge of the client and client’s business, resulting in a Level 3 fair value classification. Impaired loans are evaluated on a quarterly basis for additional impairment and adjusted accordingly. Appraisals for impaired loans are generally obtained annually but may be obtained more frequently based on changing circumstances as part of the aforementioned quarterly evaluation.

Foreclosed Assets: Assets acquired through or instead of loan foreclosure are initially recorded at fair value less costs to sell when acquired, establishing a new cost basis. These assets are subsequently accounted for at lower of cost or fair value less estimated costs to sell. Fair value is commonly based on recent real estate appraisals which are updated no less frequently than annually. These appraisals may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach. Adjustments are routinely made in the appraisal process by the independent appraisers to adjust for differences between the comparable sales and income data available. Such adjustments are usually significant and typically result in a Level 3 classification of the inputs for determining fair value. Foreclosed assets are evaluated on a quarterly basis for additional impairment and adjusted accordingly.

Loans Held For Sale: During 2014 the Company elected the fair value option for loans held for sale to align with other accounting policies related to mortgage banking, such as mortgage banking derivatives. These loans are typically sold to an investor following loan origination and the fair value of such accounts are readily available based on direct quotes from investors or similar transactions experienced in the secondary loan market. Fair value adjustments, as well as realized gains and losses are recorded in current earnings. Fair value is determined by market prices for similar transactions adjusted for specific attributes of that loan.

 

23


Table of Contents

Assets and liabilities measured at fair value on a recurring basis, including financial assets and liabilities for which the Company has elected the fair value option, are summarized below:

 

     Fair Value Measurements at
March 31, 2015 Using:
 
     Quoted Prices
in Active
Markets for
Identical Assets
(Level 1)
     Significant
Other
Observable
Inputs
(Level 2)
     Significant
Unobservable
Inputs
(Level 3)
 

Financial Assets

        

Securities available for sale

        

U.S. government sponsored entities and agencies

   $ —         $ 46,432       $  —     

Mortgage-backed securities-residential

     —           405,870         —     

Mortgage-backed securities-commercial

     —           4,218         —     
  

 

 

    

 

 

    

 

 

 

Total securities available for sale

$ —      $ 456,520    $  —     
  

 

 

    

 

 

    

 

 

 

Loans held for sale

$  —      $ 22,462    $  —     
  

 

 

    

 

 

    

 

 

 

Mortgage banking derivatives

$ —      $ 552    $  —     
  

 

 

    

 

 

    

 

 

 

Financial Liabilities

Mortgage banking derivatives

$ —      $ 224    $  —     
  

 

 

    

 

 

    

 

 

 

 

     Fair Value Measurements at
December 31, 2014 Using:
 
     Quoted Prices
in Active
Markets for
Identical Assets
(Level 1)
     Significant
Other
Observable
Inputs
(Level 2)
     Significant
Unobservable
Inputs
(Level 3)
 

Financial Assets

        

Securities available for sale

        

U.S. government sponsored entities and agencies

   $  —         $ 30,173       $  —     

U.S. Treasury Bills

     20,000         —           —     

Mortgage-backed securities-residential

     —           339,067         —     

Mortgage-backed securities-commercial

     —           6,465         —     

State and political subdivisions

     —           —           —     
  

 

 

    

 

 

    

 

 

 

Total securities available for sale

$ 20,000    $ 375,705    $  —     
  

 

 

    

 

 

    

 

 

 

Loans held for sale

$  —      $ 18,462    $  —     
  

 

 

    

 

 

    

 

 

 

Mortgage banking derivatives

$  —      $ 285    $  —     
  

 

 

    

 

 

    

 

 

 

Financial Liabilities

Mortgage banking derivatives

$  —      $ 132    $  —     
  

 

 

    

 

 

    

 

 

 

As of March 31, 2015, the unpaid principal balance of loans held for sale was $21,875 resulting in an unrealized gain of $587 included in gains on sale of loans. For the three months ended March 31, 2015 and 2014, the change in fair value related to loans held for sale, which is included in gain on sale of loans, was $23 and $209, respectively. None of these loans are 90 days or more past due or on nonaccrual as of March 31, 2015.

There were no transfers between level 1 and 2 during 2015 and 2014.

 

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Assets measured at fair value on a non-recurring basis are summarized below:

There were no collateral dependent impaired loans carried at fair value as of March 31, 2015 or December 31, 2014. For the three months ended March 31, 2015 and 2014, $0 and $66 in additional provision for loan losses was recorded related to impaired loans recorded at fair value of collateral.

Foreclosed assets measured at fair value less costs to sell, had a net carrying amount of $453 and $715 as of March 31, 2015 and December 31, 2014, respectively. There were no properties at March 31, 2015 or 2014 that had required write-downs to fair value resulting in no write downs for the three months ending March 31, 2015 and 2014, respectively.

The carrying amounts and estimated fair values of financial instruments, at March 31, 2015 and December 31, 2014 are as follows:

 

            Fair Value Measurements at
March 31, 2015 Using:
 
     Carrying
Amount
    
        Level 1      Level 2      Level 3      Total  

Financial assets

              

Cash and cash equivalents

   $ 48,580       $ 48,580       $ —        $ —        $ 48,580   

Securities available for sale

     456,520         —          456,520         —          456,520   

Certificates of deposit held at other financial institutions

     250         —          250         —          250   

Securities held to maturity

     50,650         —          51,461         —          51,461   

Loans held for sale

     22,462         —          22,462         —          22,462   

Net loans

     867,231         —          —          868,887         868,887   

Restricted equity securities

     5,731         n/a         n/a         n/a         n/a   

Servicing rights, net

     3,113         —          3,999         —          3,999   

Accrued interest receivable

     3,984         10         1,502         2,472         3,984   

Financial liabilities

              

Deposits

   $ 1,271,602       $ 902,227       $ 372,375       $ —        $ 1,274,602   

Federal funds purchased and repurchase agreements

     35,718         —          35,718         —          35,718   

Federal Home Loan Bank advances

     19,000         —          19,166         —          19,166   

Accrued interest payable

     552         36         516         —          552   

 

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     Carrying
Amount
     Fair Value Measurements at
December 31, 2014 Using:
 
        Level 1      Level 2      Level 3      Total  

Financial assets

              

Cash and cash equivalents

   $ 49,347       $ 49,347       $ —        $ —        $ 49,347   

Securities available for sale

     395,705         20,000         375,705         —          395,705   

Certificates of deposit held at other financial institutions

     250         —          250         —          250   

Securities held to maturity

     53,332         —          53,741         —          53,741   

Loans held for sale

     18,462         —          18,462         —          18,462   

Net loans

     780,508         —          —          782,745         782,745   

Restricted equity securities

     5,349         n/a         n/a         n/a         n/a   

Servicing rights, net

     3,053         —          4,180         —          4,180   

Accrued interest receivable

     3,545         —          1,368         2,177         3,545   

Financial liabilities

              

Deposits

   $ 1,172,233       $ 848,158       $ 326,644       $ —        $ 1,174,802   

Federal funds purchased and repurchase agreements

     39,078         —          39,078         —          39,078   

Federal Home Loan Bank advances

     19,000         —          19,146         —          19,146   

Accrued interest payable

     421         33         388         —          421   

The methods and assumptions not previously described used to estimate fair value are described as follows:

(a) Cash and Cash Equivalents: The carrying amounts of cash and short-term instruments approximate fair values and are classified as Level 1.

(b) Loans: Fair values of loans, excluding loans held for sale, are estimated as follows: For variable rate loans that reprice frequently and with no significant change in credit risk, fair values are based on carrying values resulting in a Level 3 classification. Fair values for other loans are estimated using discounted cash flow analyses, using interest rates currently being offered for loans with similar terms to borrowers of similar credit quality resulting in a Level 3 classification. Impaired loans are valued at the lower of cost or fair value as described previously. The methods utilized to estimate the fair value of loans do not necessarily represent an exit price.

The fair value of loans held for sale is estimated based upon binding contracts and quotes from third party investors resulting in a Level 2 classification.

(c) Restricted Equity Securities: It is not practical to determine the fair value of Federal Home Loan Bank or Federal Reserve Bank stock due to restrictions placed on its transferability.

(d) Mortgage Servicing Rights: Fair value of mortgage servicing rights is based on valuation models that calculate the present value of estimated net cash flows based on industry market data. The valuation model incorporates assumptions that market participants would use in estimating future net cash flows resulting in a Level 2 classification.

(e) Deposits: The fair values disclosed for demand deposits (e.g., interest and non-interest checking, passbook savings, and certain types of money market accounts) are, by definition, equal to the amount payable on demand at the reporting date (i.e., their carrying amount) resulting in a Level 1 classification. The carrying amounts of fixed-term money market accounts approximate their fair values at the reporting date resulting in a Level 1 classification. Fair values for certificates of deposit are estimated using a discounted cash flows calculation that applies interest rates currently being offered on certificates to a schedule of aggregated expected monthly maturities on time deposits resulting in a Level 2 classification.

(f) Federal Funds Purchased and Repurchase Agreements: The carrying amounts of federal funds purchased, borrowings under repurchase agreements, and other short-term borrowings, generally maturing within ninety days, approximate their fair values resulting in a Level 2 classification.

(g) Federal Home Loan Bank Advances: The fair values of the Company’s long-term borrowings are estimated using discounted cash flow analyses based on the current borrowing rates for similar types of borrowing arrangements resulting in a Level 2 classification.

(h) Accrued Interest Receivable/Payable: The carrying amounts of accrued interest approximate fair value resulting in a Level 1 or Level 2 classification based on the asset/liability that they are associated with.

(i) Off-balance Sheet Instruments: Fair values for off-balance sheet, credit-related financial instruments are based on fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the counterparties’ credit standing. The fair value of commitments is not material.

 

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NOTE 9—EARNINGS PER SHARE

The two-class method is used in the calculation of basic and diluted earnings per share. Under the two-class method, earnings available to common shareholders for the period are allocated between common shareholders and participating securities according to dividends declared (or accumulated) and participation rights in undistributed earnings. The factors used in the earnings per share computation follow:

 

     Three Months Ended
March 31,
 
     2015      2014  

Basic

     

Net income available to common shareholders

   $ 3,107       $ 1,504   

Less: earnings allocated to participating securities

     (40      (9
  

 

 

    

 

 

 

Net income allocated to common shareholders

$ 3,067    $ 1,495   
  

 

 

    

 

 

 

Weighted average common shares outstanding including participating securities

  7,970,250      4,862,674   

Less: Participating securities

  (102,187   (28,476
  

 

 

    

 

 

 

Average shares

  7,868,063      4,834,198   
  

 

 

    

 

 

 

Basic earnings per common share

$ 0.39    $ 0.31   
  

 

 

    

 

 

 

 

     Three Months Ended
March 31,
 
     2015      2014  

Diluted

     

Net income allocated to common shareholders

   $ 3,067       $ 1,495   

Weighted average common shares outstanding for basic earnings per common share

     7,868,063         4,834,198   

Add: Dilutive effects of assumed exercises of stock options

     432,808         123,161   

Add: Dilutive effects of assumed exercises of stock warrants

     12,951         3,542   
  

 

 

    

 

 

 

Average shares and dilutive potential common shares

  8,313,822      4,960,901   
  

 

 

    

 

 

 

Dilutive earnings per common share

$ 0.37    $ 0.30   
  

 

 

    

 

 

 

Stock options for 3,000 and 125,619 shares of common stock were not considered in computing diluted earnings per common share for the three months ended March 31, 2015 and 2014 because they were antidilutive.

NOTE 10—CAPITAL OFFERING

The Company initiated an initial public stock offering on March 26, 2015. The Company issued 2,640,000 shares of common stock at a price of $21.00 per share and began trading on the New York Stock Exchange on March 26, 2015, under the ticker symbol “FSB”. The initial public offering was completed during March 2015. Net proceeds were as follows:

 

Gross proceeds

$ 55,440   

Less: stock offering costs

  (4,436
  

 

 

 

Net proceeds from issuance of common stock

$ 51,004   
  

 

 

 

 

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ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion is intended to assist in the understanding and assessment of significant changes and trends related to the Company’s results of operations and financial condition. This discussion and analysis should be read in conjunction with the accompanying unaudited financial statements, the financial statements and accompanying notes included in the Company’s Prospectus filed with the SEC on March 27, 2015, which includes additional information about critical accounting policies and practices and risk factors, and Item 1A of Part II of this report, which updates those risk factors. Historical results and trends that might appear in the condensed consolidated financial statements should not be interpreted as being indicative of future operations. All amounts are in thousands, except per share data or unless otherwise indicated.

Critical Accounting Policies

The accounting and reporting policies of the Company are in accordance with accounting principles generally accepted in the United States of America and conform to general practices within the banking industry. To prepare financial statements in conformity with accounting principles generally accepted in the United States of America, management makes estimates and assumptions based on available information. These estimates and assumptions affect the amounts reported in the financial statements and the disclosures provided, and actual results could differ.

The Company’s accounting policies are integral to understanding the results reported. Accounting policies are described in detail in Note 1 of the notes to the consolidated financial statements. The critical accounting policies require judgment to ascertain the valuation of assets, liabilities, commitments and contingencies. Management has established policies and control procedures that are intended to ensure valuation methods are well controlled and applied consistently from period to period. In addition, the policies and procedures are intended to ensure that the process for changing methodologies occurs in an appropriate manner. The following is a brief summary of the more significant policies.

Principles of Consolidation

The consolidated financial statements include Franklin Financial Network, Inc. and its wholly owned subsidiaries, Franklin Synergy Bank and Banc Compliance Group, Inc., together referred to as “the Company.” The Company sold Banc Compliance Group, Inc. in December 2014; therefore, only the consolidated statement of income for the three months ending March 31, 2014 contains income and expenses that include Banc Compliance Group, Inc. The consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America and conform to general practices within the banking industry. All significant intercompany accounts and transactions have been eliminated in the consolidated financial statements.

Purchased loans

The Company maintains an allowance for loan losses on purchased loans based on credit deterioration subsequent to the acquisition date. In accordance with the accounting guidance for business combinations, because we recorded all acquired loans at fair value as of the date of the MidSouth acquisition, we did not establish an allowance for loan losses on any of the loans we purchased as of the acquisition date as any credit deterioration evident in the loans was included in the determination of the acquisition date fair values. For purchased credit-impaired loans accounted for under ASC 310-30, management establishes an allowance for loan losses subsequent to the date of acquisition by re-estimating expected cash flows on these loans on a quarterly basis, with any decline in expected cash flows due to credit triggering impairment recorded as provision for loan losses. The allowance established is the excess of the loan’s carrying value over the present value of projected future cash flows, discounted at the current accounting yield of the loan. These cash flow evaluations are inherently subjective as they require material estimates, all of which may be susceptible to significant change. While the determination of specific cash flows involves estimates, each estimate is unique to the individual loan, and none is individually significant. For non-purchased credit-impaired loans acquired in the MidSouth transaction and that are accounted for under ASC 310-20, the historical loss estimates are based on the historical losses experienced by MidSouth for loans with similar characteristics as those acquired other than purchased credit-impaired loans. We record an allowance for loan losses only when the calculated amount exceeds the remaining credit mark established at acquisition.

Allowance for Loan Losses

The allowance for loan losses is a valuation allowance for probable incurred credit losses. Loan losses are charged against the allowance when management believes the uncollectibility of a loan balance is confirmed. Subsequent recoveries, if any, are credited to the allowance. Management estimates the allowance balance required using past loan loss experience, the nature and volume of the portfolio, information about specific borrower situations and estimated collateral values, economic conditions, and other factors.

 

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Allocations of the allowance may be made for specific loans, but the entire allowance is available for any loan that, in management’s judgment, should be charged off.

The allowance consists of specific and general components. The specific component relates to loans that are individually classified as impaired. A loan is 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. Loans for which the terms have been modified resulting in a concession, and for which the borrower is experiencing financial difficulties, are considered troubled debt restructurings and classified as impaired.

Factors considered by management in determining impairment include payment status, collateral value, and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record, and the amount of the shortfall in relation to the principal and interest owed.

All loans classified by management as substandard or worse are individually evaluated for impairment. If a loan is impaired, a portion of the allowance is allocated so that the loan is reported, net, at the present value of estimated future cash flows using the loan’s existing rate or at the fair value of collateral if repayment is expected solely from the collateral.

Troubled debt restructurings are separately identified for impairment disclosures and are measured at the present value of estimated future cash flows using the loan’s effective rate at inception. If a troubled debt restructuring is considered to be a collateral dependent loan, the loan is reported, net, at the fair value of the collateral. For troubled debt restructurings that subsequently default, the Company determines the amount of reserve in accordance with the accounting policy for the allowance for loan losses.

The general component covers non-impaired loans and is based on historical loss experience adjusted for current factors. The historical loss experience is determined by portfolio segment and is based on a combination of the Bank’s loss history and loss history from the Bank’s peer group over the past three years. This actual loss experience is supplemented with other economic factors based on the risks present for each portfolio segment. These economic factors include consideration of the following: levels of and trends in delinquencies and impaired loans; levels of and trends in charge-offs and recoveries; trends in volume and terms of loans; effects of any changes in risk selection and underwriting standards; other changes in lending policies, procedures, and practices; experience, ability, and depth of lending management and other relevant staff; national and local economic trends and conditions; industry conditions; and effects of changes in credit concentrations.

Mortgage Servicing Rights

When loans are sold with servicing retained, servicing rights are initially recorded at fair value with the income statement effect recorded in gain on sale of loans. Fair value is based on market prices for comparable servicing contracts. All classes of servicing assets are subsequently measured using the amortization method which requires servicing rights to be amortized into non-interest income in proportion to, and over the period of, the estimated future net servicing income of the underlying loans.

Servicing assets are evaluated for impairment based upon the fair value of the rights as compared to carrying amount. Impairment is determined by stratifying rights into groupings based on predominant risk characteristics, such as interest rate, loan type and investor type. Impairment is recognized through a valuation allowance for an individual grouping, to the extent that fair value is less than the carrying amount. If the Company later determines that all or a portion of the impairment no longer exists for a particular grouping, a reduction of the allowance may be recorded as an increase to income. Changes in valuation allowances are reported with loan servicing fees on the income statement. The fair values of servicing rights are subject to significant fluctuations as a result of changes in estimated and actual prepayment speeds and default rates and losses.

Servicing fee income, which is reported on the income statement as loan servicing fees, is recorded for fees earned for servicing loans. The fees are based on a contractual percentage of the outstanding principal or a fixed amount per loan and are recorded as income when earned. The amortization of mortgage servicing rights is netted against mortgage loan servicing fee income.

Recent Accounting Pronouncements

In January 2014, the Financial Accounting Standards Board (“FASB”) amended existing guidance to clarify when a creditor should derecognize a loan receivable and recognized collateral asset. An in substance repossession or foreclosure occurs, and a creditor is considered to have received physical possession of residential real estate property collateralizing a consumer mortgage loan, upon either: (1) the creditor obtaining legal title to the residential real estate property upon completion of a foreclosure; or (2) the

 

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borrower conveying all interest in the residential real estate property to the creditor to satisfy that loan through completion of a deed in lieu of foreclosure or through a similar legal agreement. Additionally, the amendment requires interim and annual disclosure of both: (1) the amount of foreclosed residential real estate property held by the creditor; and (2) the recorded investment in consumer mortgage loans collateralized by residential real estate property that are in the process of foreclosure according to local requirements of the applicable jurisdiction. This amendment is effective for interim and annual reporting periods beginning after December 15, 2014. The adoption of this guidance did not have a material impact on the Company’s results of operation or financial position.

In May 2014, the FASB issued an update (ASU No. 2014-09, “Revenue from Contracts with Customers”) creating FASB Topic 606, “Revenue from Contracts with Customers”. The guidance in this update affects any entity that either enters into contracts with customers to transfer goods or services or enters into contracts for the transfer of nonfinancial assets unless those contracts are within the scope of other standards (for example, insurance contracts or lease contracts). The core principle of the guidance is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The guidance provides steps to follow to achieve the core principle. An entity should disclose sufficient information to enable users of financial statements to understand the nature, amount, timing and uncertainty of revenue and cash flows arising from contracts with customers. Qualitative and quantitative information is required about contracts with customers, significant judgments and changes in judgments, and assets recognized from the costs to obtain or fulfill a contract. The amendments in this update will become effective for annual periods and interim periods within those annual periods beginning after December 15, 2016. There is a proposal to defer adoption by one year. We are currently evaluating the impact of adopting the new guidance on the consolidated financial statements.

In August 2014, the FASB issued guidance that requires an entity to derecognize a mortgage loan and recognize a separate other receivable upon foreclosure if: (1) the loan has a government guarantee that is not separable from the loan before foreclosure; (2) at the time of foreclosure, the creditor has the intent to convey the real estate property to the guarantor and make a claim on that guarantee, and the creditor has the ability to recover under that claim; and (3) at the time of foreclosure, any amount of the claim that is determined on the basis of the fair value of the real estate is fixed. The separate other receivable is to be measured based on the amount of the loan balance (principal and interest) expected to be recovered from the guarantor. The guidance is effective for annual and interim reporting periods beginning after December 15, 2014. The adoption of this guidance on January 1, 2015 did not materially impact the Company’s financial condition, results of operations, or liquidity.

 

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COMPARISON OF RESULTS OF OPERATIONS FOR THE THREE MONTHS ENDED

MARCH 31, 2015 AND 2014

Overview

The Company reported net income of $3,132 and $1,529 for the three months ended March 31, 2015 and 2014, respectively. After the payment of preferred dividends on the senior preferred stock issued to the Treasury pursuant to Small Business Lending Fund (“SBLF”), the Company’s net earnings available to common shareholders for the three months ended March 31, 2015 and 2014 was $3,107 and $1,504, respectively. The primary reasons for the increase in net earnings available to common shareholders for the three months ended March 31, 2015 was increased interest income on loans and investment securities due to significant organic growth in each of these portfolios over the same period in 2014 and the acquisition of MidSouth Bank (“MidSouth”) which, after considering the effect of purchase accounting entries, added $191,416 in loans, including loans held for sale, and $57,431 in securities available for sale when the transaction was completed on July 1, 2014.

Net Interest Income/Margin

Net interest income consists of interest income generated by earning assets, less interest expense. Net interest income for the three months ended March 31, 2015 and 2014, totaled $12,157 and $7,095, respectively, an increase of $5,062, or 71.3%, between the respective periods. For the three months ended March 31, 2015 and 2014, interest income was $13,926 and $8,299, respectively, an increase of 67.8%, due to growth in both the loan and investment securities portfolios and due to the acquisition of MidSouth. For the three months ended March 31, 2015 and 2014, interest expense was $1,769 and $1,204, respectively, an increase of 46.9%, which is a result of increases in both interest-bearing deposits and borrowings and is due to the acquisition of MidSouth.

Interest-earning assets averaged $1,351,351 and $809,554 during the three months ended March 31, 2015 and 2014, respectively, an increase of $541,797, or 66.9%. This increase was due to the acquisition of MidSouth and due to organic growth in both the loan portfolio and the securities portfolio over the past year. Average loans increased 89.7%, and investment securities increased 38.0%, when comparing the three months ended March 31, 2015 with the same period in 2014. When comparing the three months ended March 31, 2015 and 2014, the yield on average interest earning assets increased two basis points to 4.18% compared to 4.16% for the same period during 2014. For the three months ended March 31, 2015 and 2014, the yield on available for sale securities was 2.31% and 2.84%, respectively. The primary drivers for the decrease were the acceleration of prepayment amortization during the three months ended March 31, 2015, as compared to the same period during 2014 combined with a decrease in rates on securities purchased during the past 12 months. During the three months ended March 31, 2015, prepayment amortization of available for sale securities was $804, which represented a yield reduction of 118 basis points. During the three months ended March 31, 2014, prepayment amortization of available for sale securities was $556, which represented a yield reduction of 82 basis points.

Interest-bearing liabilities averaged $1,132,357 during the three months ending March 31, 2015, compared to $704,978 for the same period in 2014, an increase of $427,379, or 60.6%. Total average interest-bearing deposits grew $394,714, including increases in average brokered deposits of $67,706 and average interest-bearing public funds deposits of $75,305 for the three-month period ending March 31, 2015, as compared to the same period during 2014. Rapid growth in the loan portfolio also resulted in increases in average Federal Home Loan Bank advances of $2,966 and average Federal funds purchased of $1,786, when comparing the first three months of 2015 with the same period in 2014. Average securities sold under agreement to repurchase also increased $27,913 for the three months ended March 31, 2015 in comparison with the same period in 2014. The large increase in this funding source is due to the addition of some larger commercial relationships during the past year.

For the three month periods ending March 31, 2015 and 2014, the cost of average interest-bearing liabilities decreased six basis points to 0.63% from 0.69%. The decline was primarily due to decreases in the cost of funds for all types of interest-bearing deposits and Federal funds purchased. These decreases offset increases in the rates paid on Federal Home Loan Bank advances which increased from 0.58% for the first quarter of 2014 to 1.14% for the first quarter of 2015 due to the change in the composition of advances from first quarter 2015, which had a longer weighted average maturity with a higher weighted average rate, when compared to the advances from first quarter 2014, which contained $14,000 in short-term advances at 0.48%. The $427,379 increase in average interest-bearing liabilities for the three-month period ending March 31, 2015, as compared to the same period during 2014, resulted in an increase in interest expense of $565 between the two three-month periods.

 

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The tables below summarize average balances, yields, cost of funds, and the analysis of changes in interest income and interest expense for the three-months ended March 31, 2015 and 2014:

Average Balances (7)—Yields & Rates

(Dollars are in thousands)

 

     Three Months Ended March 31,  
     2015     2014  
     Average
Balance
    Interest
Inc / Exp
     Average
Yield / Rate
    Average
Balance
    Interest
Inc / Exp
     Average
Yield / Rate
 

ASSETS:

              

Loans (1)(6)

   $ 845,437      $ 11,154         5.35   $ 445,583      $ 5,918         5.39

Securities available for sale (6)

     408,189        2,321         2.31     275,569        1,928         2.84

Securities held to maturity

     52,513        364         2.81     58,344        395         2.75

Certificates of deposit at other financial institutions

     250        1         1.62     —          —           0.00

Federal funds sold and other (2)

     44,962        86         0.78     30,058        58         0.78
  

 

 

   

 

 

    

 

 

   

 

 

   

 

 

    

 

 

 

TOTAL INTEREST EARNING ASSETS

$ 1,351,351    $ 13,926      4.18 $ 809,554    $ 8,299      4.16

Allowance for loan losses

  (7,043   (5,062

All other assets

  69,350      30,700   
  

 

 

        

 

 

      

TOTAL ASSETS

$ 1,413,658    $ 835,192   

LIABILITIES & SHAREHOLDERS’ EQUITY

Deposits:

Interest checking

$ 301,147    $ 174      0.23 $ 210,039    $ 166      0.32

Money market

  394,082      585      0.60   237,938      442      0.75

Savings

  30,615      35      0.46   19,741      25      0.51

Time deposits

  340,509      839      1.00   203,921      515      1.02

Federal Home Loan Bank advances

  23,133      65      1.14   20,167      29      0.58

Federal funds purchased and other (3)

  42,871      71      0.67   13,172      27      0.83
  

 

 

   

 

 

    

 

 

   

 

 

   

 

 

    

 

 

 

TOTAL INTEREST BEARING LIABILITIES

$ 1,132,357    $ 1,769      0.63 $ 704,978    $ 1,204      0.69

Demand deposits

  150,108      59,754   

Other liabilities

  5,895      2,532   

Total shareholders’ equity

  125,298      67,928   
  

 

 

        

 

 

      

TOTAL LIABILITIES AND SHAREHOLDERS’ EQUITY

$ 1,413,658    $ 835,192   

NET INTEREST SPREAD (4)

  3.55   3.47

NET INTEREST INCOME

$ 12,157    $ 7,095   

NET INTEREST MARGIN (5)

  3.65   3.55

 

(1) Loan balances include both loans held in the Bank’s portfolio and mortgage loans held for sale and are net of deferred origination fees and costs. Non-accrual loans are included in total loan balances.
(2) Includes federal funds sold, capital stock in the Federal Reserve Bank and Federal Home Loan Bank, and interest-bearing deposits at the Federal Reserve Bank.
(3) Includes repurchase agreements.
(4) Represents the average rate earned on interest-earning assets minus the average rate paid on interest-bearing liabilities.
(5) Represents net interest income (annualized) divided by total average earning assets.
(6) Interest income and rates exclude the effects of a tax equivalent adjustment to adjust tax exempt investment income on tax exempt investment securities to a fully taxable basis due to immateriality.
(7) Averages balances are average daily balances.

 

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The tables below detail the components of the changes in net interest income for the periods indicated. For each major category of interest-earning assets and interest-bearing liabilities, information is provided with respect to changes due to average volume and changes due to rates, with the changes in both volumes and rates allocated to these two categories based on the proportionate absolute changes in each category.

Analysis of Changes in Interest Income and Expenses

 

     Net change three months ended
March 31, 2015 versus March 31, 2014
 
     Volume      Rate      Net Change  

INTEREST INCOME

        

Loans

   $ 5,318       $ (82    $ 5,236   

Securities available for sale

     927         (534      393   

Securities held to maturity

     (39      8         (31

Certificates of deposit at other financial institutions

     1         —           1   

Federal funds sold and other

     28         —           28   
  

 

 

    

 

 

    

 

 

 

TOTAL INTEREST INCOME

$ 6,235    $ (608 $ 5,627   
  

 

 

    

 

 

    

 

 

 

INTEREST EXPENSE

Deposits

Interest checking

$ 74    $ (66 $ 8   

Money market accounts

  289      (146   143   

Savings

  14      (4   10   

Time deposits

  341      (17   324   

Federal Home Loan Bank advances

  4      32      36   

Other borrowed funds

  61      (17   44   
  

 

 

    

 

 

    

 

 

 

TOTAL INTEREST EXPENSE

$ 783    $ (218 $ 565   
  

 

 

    

 

 

    

 

 

 

NET INTEREST INCOME

$ 5,452    $ (390 $ 5,062   
  

 

 

    

 

 

    

 

 

 

Provision for Loan Losses

The provision for loan losses represents a charge to earnings necessary to establish an allowance for loan losses that, in management’s evaluation, should be adequate to provide coverage for probable losses incurred in the loan portfolio. The allowance is increased by the provision for loan losses and is decreased by charge-offs, net of recoveries on prior loan charge-offs.

The provision for loan losses was $625 and $385 for the three months ended March 31, 2015 and 2014, respectively. The increase in loan loss provision is due primarily to the Company’s loan growth. Nonperforming loans at March 31, 2015 totaled $1,187 compared to $1,151 at December 31, 2014, representing 0.1% of total loans at both of these period-end dates.

 

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Non-Interest Income

Non-interest income for the three months ended March 31, 2015 and 2014 was $3,215 and $1,421, respectively. The following is a summary of the components of non-interest income (in thousands):

 

    

Three Months Ended

March 31,

     $
Increase
(Decrease)
     %
Increase
(Decrease)
 
     2015      2014        

Service charges on deposit accounts

   $ 16       $ 12       $ 4         33.3

Other service charges and fees

     618         236         382         161.9

Net gains on sale of loans

     1,647         784         863         110.1

Investment services

     286         43         243         565.1

Loan servicing fees, net

     43         12         31         258.3

Gain on sale of investment securities, net

     415         8         407         5,087.5

Net gain (loss) on sale of foreclosed assets

     6         33         (27      (81.8 %) 

Other

     184         293         (109      (37.2 %) 
  

 

 

    

 

 

    

 

 

    

 

 

 

Total non-interest income

$ 3,215    $ 1,421    $ 1,794      126.2
  

 

 

    

 

 

    

 

 

    

 

 

 

Other service charges and fees for the three months ending March 31, 2015 increased $382, or 161.9%, from the same period in 2014 due primarily to the MidSouth acquisition, which contributed to an increase in electronic banking fee income.

Net gains on the sale of loans include net gains realized from the sales of mortgage loans and Small Business Administration (“SBA”) loans. Net gains on the sale of mortgage loans are based, in part, on differences between the carrying value of loans being sold to third-party investors and the selling price. Also included are changes in the fair value of mortgage banking derivatives entered into by the Company to hedge the change in interest rates on loan commitments prior to their sale in the secondary market. Fluctuations in mortgage interest rates, changes in the demand for certain loans by investors, and whether servicing rights associated with the loans being sold are retained or released all affect the net gains on mortgage loan sales. Net gains for the three months ending March 31, 2015 were $1,647, an increase of $863, or 110.1%, from the same period during 2014. The increase was primarily due to volume of mortgage loans originated and the sales related to those loans.

Investment services income for the three months ending March 31, 2015 increased $243, or 565.1%, in comparison with the same period in 2014. The increase was primarily due to the acquisition of MidSouth, which brought an established wealth management division and its existing client base into the Company when the acquisition was completed on July 1, 2014.

Loan servicing fees are fees earned for servicing residential mortgages and SBA loans offset by the amortization of the respective servicing rights. These servicing rights are initially recorded at fair value and then amortized in proportion to, and over the period of, the estimated life of the underlying loans. In addition, impairment to the servicing rights may be recognized through a valuation allowance, and adjustments to the allowance can affect the net loan servicing fees. For the three months ending March 31, 2015, net loan servicing fees were $43, compared to $12 for the three months ending March 31, 2014. The favorable increase to loan servicing fees was primarily related to a decrease in amortization.

Net gain on sale of investment securities increased from $8 during the three months ending March 31, 2014 to $415 during the three months ending March 31, 2015, an increase of 5,087.5%. The increase was due to gains from sales and calls of investment securities in the first quarter of 2015. Of the $415 in net gains, $182 was attributable to calls of investment securities.

Other non-interest income decreased by $109, or 37.2%, when comparing first quarter 2015 with first quarter 2014. The decrease is attributed to the compliance consulting fees that were recorded in the first quarter of 2014 by the Company’s subsidiary, Banc Compliance Group, the assets of which the Company sold at the end of 2014. As a result, the Company had no compliance consulting fee income in the first quarter of 2015.

Non-interest Expense

Non-interest expense for the three months ended March 31, 2015 and 2014 was $9,621 and $5,492, respectively, an increase of $4,129, or 75.2%. This increase was the result of the following components listed in the table below (in thousands):

 

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Three Months Ended

March 31,

     $
Increase
(Decrease)
     %
Increase
(Decrease)
 
     2015      2014        

Salaries and employee benefits

   $ 5,681       $ 3,545       $ 2,136         60.3

Occupancy and equipment

     1,579         786         793         100.9

FDIC assessment expense

     214         119         95         79.8

Marketing

     220         111         109         98.2

Professional fees

     359         354         5         1.4

Amortization of core deposit intangible

     172         —          172         NM   

Other

     1,396         577         819         141.9
  

 

 

    

 

 

    

 

 

    

 

 

 

Total non-interest expense

$ 9,621    $ 5,492    $ 4,129      75.2
  

 

 

    

 

 

    

 

 

    

 

 

 

The increase in non-interest expense noted in the table above is indicative of the Company’s overall growth during this time. Two primary increases for the three months ending March 31, 2015, were in salaries and occupancy, as the Bank added five branch locations with the acquisition of MidSouth, and expanded its headquarters offices in downtown Franklin, Tennessee. Staffing increased from 116 full-time equivalent employees as of March 31, 2014, to 210 as of March 31, 2015. The increased staffing is due to the retention of the majority of the MidSouth employees to continue to support the branches as well as additional operational staff needed to handle the Company’s growth in loans and deposits.

The amortization expense for the core deposit intangible in first quarter 2015 is directly attributable to the acquisition of MidSouth, which brought a core deposit intangible asset that is being amortized over a period of eight years and two months.

For the three months ended March 31, 2015, other non-interest expenses increased $819, or 141.9%, from the same period during 2014. The increase is attributed to an increase of $176 in electronic banking expenses associated with the increased usage by the Company’s customers of technology-based services, such as debit card transactions, internet banking transactions, and other types of automated transactions. Much of the electronic banking expense increase was due to the more consumer-based composition of the customer base added from the MidSouth acquisition. The remaining $643 increase was due to a variety of expense items that include, but are not limited to, deposit expenses, franchise taxes, mortgage lending expenses, meals and travel, communications expenses, etc.

Income Tax Expense

The Company recognized an income tax expense for the three months ended March 31, 2015 and 2014, of $1,994 and $1,110, respectively. The Company’s year-to-date income tax expense for the period ended March 31, 2015 reflects an effective income tax rate of 38.9% compared to 42.1% for the same period in 2014. The decrease in the effective tax rate for the three months ended March 31, 2015, resulted from unfavorable permanent differences incurred during the three months ended March 31, 2014, from expenses associated with the pending merger with MidSouth Bank and from stock based compensation expense incurred from the vesting of incentive stock options as a result of employee retirement.

COMPARISON OF BALANCE SHEETS AT MARCH 31, 2015 AND DECEMBER 31, 2014

Overview

The Company’s total assets increased by $153,603, or 11.3%, from December 31, 2014 to March 31, 2015. The increase in total assets has primarily been the result of organic growth in the loan and investment securities portfolios.

Loans

Lending-related income is the most important component of the Company’s net interest income and is a major contributor to profitability. The loan portfolio is the largest component of earning assets, and therefore generates the largest portion of revenues. The absolute volume of loans and the volume of loans as a percentage of earning assets is an important determinant of net interest margin as loans are expected to produce higher yields than securities and other earning assets. Total loans, net of deferred fees, at March 31, 2015 and December 31, 2014 were $874,539 and $787,188, respectively, an increase of $87,351, or 11.1%. Growth in the loan portfolio is primarily due to increased market penetration and a healthy local economy.

 

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The table below provides a summary of the loan portfolio composition for the periods noted.

 

Types of Loans    March 31, 2015     December 31, 2014  
     Amount      % of Total
Loans
    Amount     % of Total
Loans
 

Total loans, excluding PCI loans

         

Real estate:

         

Residential

   $ 223,478         25.5   $ 213,760        27.1

Construction and land development

     282,520         32.3     239,225        30.4

Commercial

     259,205         29.6     246,352        31.3

Commercial and industrial

     98,986         11.3     76,570        9.7

Consumer and other

     7,441         0.8     8,025        1.0
  

 

 

    

 

 

   

 

 

   

 

 

 

Total loans—gross, excluding PCI loans

  871,630      99.5   783,932      99.5
  

 

 

    

 

 

   

 

 

   

 

 

 
Types of Loans    March 31, 2015     December 31, 2014  
     Amount      % of Total
Loans
    Amount     % of Total
Loans
 

Total PCI loans (note 1)

         

Real estate:

         

Residential

   $ 804         0.1   $ 814        0.1

Construction and land development

     76         NM        77        NM   

Commercial

     1,750         0.2     1,798        0.2

Commercial and industrial

     1,676         0.2     1,624        0.2

Consumer and other

     —           —       2        NM   
  

 

 

    

 

 

   

 

 

   

 

 

 

Total loans—gross PCI loans

  4,306      0.5   4,315      0.5
  

 

 

    

 

 

   

 

 

   

 

 

 

Total gross loans

  875,936      100.0   788,247      100.0
     

 

 

     

 

 

 

Less: deferred loan fees, net

  (1,397   (1,059

Allowance for loan losses

  (7,308   (6,680
  

 

 

      

 

 

   

Total loans, net allowance for loan losses

$ 867,231      780,508   
  

 

 

      

 

 

   

Note 1: PCI accounted for pursuant to ASC Topic 310-30.

As presented in the above table, gross loans increased 11.1% during the first three months of 2015, primarily due to organic growth as a result of continued market penetration and the strength of the local economies. During this period, the Company experienced growth in real estate loans of 9.4% with the majority of the growth occurring in the construction and land development (18.1%) segment. The Company also experienced strong growth of 28.7% in the commercial and industrial segment during the first three months of 2015.

Real estate loans comprised 87.7% of the loan portfolio at March 31, 2015. The largest portion of the real estate segments as of March 31, 2015, was construction and land development loans, which totaled 36.8% of real estate loans. Construction and land development loans totaled $282,596 at March 31, 2015, and comprised 32.3% of the total loan portfolio. Loans in this classification provide financing for the construction and development of residential properties and commercial income properties, multi-family residential development, and land designated for future development.

The residential real estate classification primarily includes 1-4 family residential loans which are typically conventional first-lien home mortgages, not including loans held-for-sale in the secondary market. Residential real estate loans totaled $224,282 and increased 4.5% during the first three months of 2015 and comprised 29.2% of real estate loans and 25.6% of total loans at March 31, 2015.

Commercial real estate loans totaled $260,955 at March 31, 2015, and comprised 34.0% of real estate loans and 29.8% of the total loan portfolio. The commercial real estate loan classification primarily includes commercial-based mortgage loans that are secured by nonfarm, nonresidential real estate properties and multi-family residential properties.

 

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Table of Contents

Commercial and industrial loans totaled $100,662 at March 31, 2015 and grew 28.7% during the first three months of 2015. Loans in this classification comprised 11.5% of total loans at March 31, 2015, as compared to 9.9% as of December 31, 2014. The commercial and industrial classification primarily consists of commercial loans to small-to-medium sized businesses.

The repayment of loans is a source of additional liquidity for the Company. The following table sets forth the loans maturing within specific intervals at March 31, 2015, excluding unearned net fees and costs.

Loan Maturity Schedule

 

     March 31, 2015  
     One year
or less
     Over one
year to five
years
     Over five
years
     Total  

Real estate:

           

Residential

   $ 19,698       $ 94,857       $ 109,727       $ 224,282   

Construction and land development

     183,150         77,006         22,440         282,596   

Commercial

     21,878         104,559         134,518         260,955   

Commercial and industrial

     34,886         42,633         23,143         100,662   

Consumer and other

     2,487         4,440         514         7,441   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

$ 262,099    $ 323,495    $ 290,342      875,936   
  

 

 

    

 

 

    

 

 

    

 

 

 

Fixed interest rate

$ 145,121    $ 265,447    $ 126,378    $ 536,946   

Variable interest rate

  116,978      58,048      163,964      338,990   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

$ 262,099    $ 323,495    $ 290,342    $ 875,936   
  

 

 

    

 

 

    

 

 

    

 

 

 

The information presented in the above table is based upon the contractual maturities of the individual loans, including loans which may be subject to renewal at their contractual maturity. Renewal of such loans is subject to review and credit approval, as well as modification of terms upon their maturity. Consequently, management believes this treatment presents fairly the maturity structure of the loan portfolio.

Allowance for Loan Losses

The Company maintains an allowance for loan losses that management believes is adequate to absorb the probable incurred losses inherent in the Company’s loan portfolio. The allowance is increased by provisions for loan losses charged to earnings and is decreased by loan charge-offs net of recoveries of prior period loan charge-offs. The level of the allowance is determined on a quarterly basis, although management is engaged in monitoring the adequacy of the allowance on a more frequent basis. In estimating the allowance balance, the following factors are considered:

 

    past loan experience;

 

    the nature and volume of the portfolio;

 

    risks known about specific borrowers;

 

    underlying estimated values of collateral securing loans;

 

    current and anticipated economic conditions; and

 

    other factors which may affect the allowance for probable incurred losses.

The allowance for loan losses consists of two primary components: (1) a specific component which relates to loans that are individually classified as impaired and (2) a general component which covers non-impaired loans and is based on historical loss experience adjusted for current factors. The historical loss experience is determined by portfolio segment and is based on a combination of the Company’s loss history and loss history from peer group over the past three years. This actual loss experience is supplemented with other economic factors based on the risks present for each portfolio segment.

 

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Table of Contents

The following loan portfolio segments have been identified: (1) Construction and land development loans, (2) Commercial real estate loans, (3) Residential real estate, (4) Commercial and industrial loans, and (5) Consumer and other loans. Management evaluates the risks associated with these segments based upon specific characteristics associated with the loan segments. These risk characteristics include, but are not limited to, the value of the underlying collateral, adverse economic conditions, and the borrower’s cash flow. While the total allowance consists of a specific portion and a general portion, both portions of the allowance are available to provide for probable incurred loan losses in the entire portfolio.

In the table below, the components, as discussed above, of the allowance for loan losses are shown at March 31, 2015 and December 31, 2014.

 

     March 31, 2015     December 31, 2014     Increase (Decrease)  
     Loan
Balance
     ALLL
Balance
     %     Loan
Balance
     ALLL
Balance
     %     Loan
Balance
    ALLL
Balance
        

Non impaired loans

   $ 736,054       $ 7,290         1.08   $ 626,180       $ 6,662         1.06   $ 109,874      $ 628         -7 bps   

MidSouth loans (Note 1)

     134,174         —           —       156,806         —          —       (22,632     —           —    

Impaired loans

     1,402         18         1.28     946         18         1.90     456        —           -62 bps   
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

    

 

 

   

 

 

   

 

 

    

 

 

 

Non-PCI loans

  871,630      7,308      0.84   783,932      6,680      0.85   87,698      628      -1 bps   

PCI loans

  4,306      —       —     4,315      —       —     (9   —        —    
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

    

 

 

   

 

 

   

 

 

    

 

 

 

Total loans

$ 875,936    $ 7,308      0.83 $ 788,247    $ 6,680      0.85 $ 87,689    $ 628      -2 bps   

 

Note 1: Loans acquired pursuant to the July 1, 2014 acquisition of MidSouth that are not PCI loans. These are performing loans recorded at estimated fair value at the acquisition date. The fair value adjustment at the acquisition date was approximately $5,014 of the outstanding non-PCI loan balances acquired. This amount is accreted into interest income over the remaining lives of the related loans on a level yield basis. Because these loans were recorded at estimated fair value on July 1, 2014, no allowance for loan loss was recorded at March 31, 2015 related to the acquired loans.

At March 31, 2015, the allowance for loan losses was $7,308, compared to $6,680 at December 31, 2014. The allowance for loan losses as a percentage of total loans was 0.83% and 0.85% at March 31, 2015 and December 31, 2014, respectively. Loan growth during this period is the primary reason for the increase in the allowance amount.

 

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Table of Contents

The table below sets forth the activity in the allowance for loan losses for the periods presented.

 

     Three Months Ended
March 31, 2015
    Three Months Ended
March 31, 2014
 

Beginning balance

   $ 6,680      $ 4,900   

Loans charged-off:

    

Residential real estate

     —         —    

Construction & land development

     —         —    

Commercial real estate

     —         —    

Commercial & industrial

     —         —    

Consumer

     —         —    
  

 

 

   

 

 

 

Total loans charged-off

  —       —    

Recoveries on loans previously charged-off:

Residential real estate

  3      19   

Construction & land development

  —       —    

Commercial real estate

  —       —    

Commercial & industrial

  —       —    

Consumer

  —       —    
  

 

 

   

 

 

 

Total loan recoveries

  3      19   

Net recoveries (charge-offs)

  3      19   

Provision for loan losses charged to expense

  625      385   
  

 

 

   

 

 

 

Total allowance at end of period

$ 7,308    $ 5,304   
  

 

 

   

 

 

 

Total loans, gross, at end of period (1)

$ 875,936    $ 452,700   
  

 

 

   

 

 

 

Average gross loans (1)

$ 829,149    $ 438,804   
  

 

 

   

 

 

 

Allowance to total loans

  0.83   1.17
  

 

 

   

 

 

 

Net charge-offs (recoveries) to average loans, annualized

  0.00   (0.02 %) 
  

 

 

   

 

 

 

 

(1) Loan balances exclude loans held for sale

While no portion of the allowance is in any way restricted to any individual loan or group of loans, and the entire allowance is available to absorb losses from any and all loans, the following table summarizes the allocation of allowance for loan losses by loan category and loans in each category as a percentage of total loans, for the periods presented.

 

     March 31, 2015     December 31, 2014  
     Amount      % of
Allowance
to Total
    % of Loan
Type to
Total
Loans
    Amount      % of
Allowance
to Total
    % of Loan
Type to
Total
Loans
 

Real estate loans:

              

Residential

   $ 1,727         23.6     25.6   $ 1,791         26.8     27.2

Construction and land development

     2,549         34.9     32.3     2,690         40.3     30.4

Commercial

     2,124         29.1     29.8     1,494         22.4     31.5

Total real estate

     6,400         87.6     87.7     5,975         89.5     89.1

Commercial and industrial

     850         11.6     11.5     650         9.7     9.9

Consumer and other

     58         0.8     0.8     55         0.8     1.0

Nonperforming Assets

Non-performing loans consist of non-accrual loans and loans that are past due 90 days or more and still accruing interest. Non-performing assets consist of non-performing loans plus OREO (i.e., real estate acquired through foreclosure or deed in lieu of foreclosure). Loans are placed on non-accrual status when they are past due 90 days and management believes the borrower’s financial condition, after giving consideration to economic conditions and collection efforts, is such that collection of interest is

 

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doubtful. When a loan is placed on non-accrual status, interest accruals cease and uncollected interest is reversed and charged against current income. The interest on these loans is accounted for on the cash-basis, or cost-recovery method, until qualifying for return to accrual. Loans are returned to accrual status when all the principal and interest amounts contractually due are brought current and future payments are reasonably assured.

The primary component of non-performing loans is non-accrual loans, which as of March 31, 2015 totaled $853. The other component of non-performing loans are loans past due greater than 90 days and still accruing interest. Loans past due greater than 90 days are placed on non-accrual status, unless they are both well-secured and in the process of collection. There were outstanding loans totaling $334 that were past due 90 days or more and still accruing interest at March 31, 2015.

The table below summarizes non-performing loans and assets for the periods presented.

 

     March 31,
2015
    December 31,
2014
 

Non-accrual loans

   $ 853      $ 835   

Past due loans 90 days or more and still accruing interest

     334        316   
  

 

 

   

 

 

 

Total non-performing loans

  1,187      1,151   

Foreclosed real estate (“OREO”)

  453      715   
  

 

 

   

 

 

 

Total non-performing assets

  1,640      1,866   

Total non-performing loans as a percentage of total loans

  0.1   0.1

Total non-performing assets as a percentage of total assets

  0.1   0.1

Allowance for loan losses as a percentage of non-performing loans

  616   580

As of March 31, 2015, there were two loans on non-accrual status. The amount and number are further delineated by collateral category and number of loans in the table below.

 

     Total Amount      Percentage of Total
Non-Accrual Loans
    Number of
Non-Accrual
Loans
 

Residential real estate

   $  —           —       —     

Construction & land development

     —           —       —     

Commercial real estate

     835         97.9     1   

Commercial & industrial

     18         2.1     1   

Consumer

     —           —       —     
  

 

 

    

 

 

   

 

 

 

Total non-accrual loans

$ 853      100.0   2   
  

 

 

    

 

 

   

 

 

 

Investment Securities and Other Earning Assets

The investment securities portfolio is intended to provide the Company with adequate liquidity, flexible asset/liability management and a source of stable income. The portfolio is structured with minimal credit exposure to the Company and consists of both securities classified as available-for-sale and securities classified as held-to-maturity. All available-for sale securities are carried at fair value and may be used for liquidity purposes should management deem it to be in the Company’s best interest. Securities available-for-sale, consisting primarily of U.S. government sponsored enterprises and mortgage-backed securities, were $456,520 at March 31, 2015, compared to $395,705 at December 31, 2014, an increase of $60,815 or 15.4%. The increase in available-for-sale securities was primarily attributed to the securities purchased during the first quarter.

The held-to-maturity securities are carried at amortized cost. This portfolio, consisting of U.S. government sponsored enterprises, mortgage-backed securities and municipal securities, totaled $50,650 at March 31, 2015, compared to $53,332 at December 31, 2014, a decrease of $2,682, or 5.0%. The decrease is attributable to securities that were called or matured during the first quarter of 2015.

The combined portfolios represented 33.6% and 33.1% of total assets at March 31, 2015 and December 31, 2014, respectively. At March 31, 2015, the Company had no securities that were classified as having Other Than Temporary Impairment.

 

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The Company also had other investments of $5,731 and $5,349 at March 31, 2015 and December 31, 2014, respectively, consisting of capital stock in the Federal Reserve and the Federal Home Loan Bank (required as members of the Federal Reserve Bank System and the Federal Home Loan Bank System). The Federal Home Loan Bank and Federal Reserve investments are “restricted” in that they can only be sold back to the respective institutions or another member institution at par, and are thus, not liquid, have no ready market or quoted market value, and are carried at cost.

Bank Premises and Equipment

Bank premises and equipment totaled $9,731 at March 31, 2015 compared to $9,664 at December 31, 2014, an increase of $67, or 0.7%. This increase was the result of adding furniture and equipment as needed in the normal course of business.

Buildings Held for Sale

At March 31, 2015, the balance in buildings held for sale was zero, compared with the balance of $4,080 at December 31, 2014. Three of the former MidSouth branch properties were reclassified at December 31, 2014 as held for sale, since they had been identified to be sold, and the sale of the properties was probable at that time. The sale of these properties settled during the three months ending March 31, 2015, and a gain of $15 was realized as a result of the sale.

Deposits

Deposits represent the Company’s largest source of funds. The Company competes with other bank and nonbank institutions for deposits, as well as with a growing number of non-deposit investment alternatives available to depositors, such as mutual funds, money market funds, annuities, and other brokerage investment products. Challenges to deposit growth include price changes on deposit products given movements in the rate environment and other competitive pricing pressures, and customer preferences regarding higher-costing deposit products or non-deposit investment alternatives.

At March 31, 2015, total deposits were $1,271,602, an increase of $99,369, or 8.5%, compared to $1,172,233 at December 31, 2014. The growth in deposits is attributable to growth in brokered deposits, public funds deposits, non-brokered time deposits, noninterest-bearing deposits, and interest checking deposits. These are discussed in the following paragraphs.

Included in the Company’s funding strategy are brokered deposits. Total brokered deposits increased from $86,411 at December 31, 2014 to $136,444 at March 31, 2015, primarily due to brokered deposits that were added as part of the Company’s funding strategy relative to the loan growth experienced by the Company.

Public funds deposits in the form of county deposits are a part of the Company’s funding strategy and are cyclical in nature, with the highest period of growth being during the first quarter of each calendar year. Public funds grew $21,093, or 6.2%, from $342,179 at December 31, 2014 to $363,272 at March 31, 2015.

Time deposits excluding brokered deposits as of March 31, 2015, amounted to $285,961, compared to $268,101 as of December 31, 2014, an increase of $17,860, or 6.7%. Noninterest-bearing checking deposits grew $7,611, or 5.1%, and non-public funds interest checking accounts grew $5,744, or 6.5%, respectively when comparing deposit balances from March 31, 2015 with balances at December 31, 2014.

The following table shows time deposits in denominations of $100 or more by category based on time remaining until maturity.

Maturity of non-brokered time deposits of $100 or more

 

     March 31, 2015  

Three months or less

   $ 29,414   

Three through six months

     40,609   

Six through twelve months

     30,102   

Over twelve months

     81,955   
  

 

 

 

Total

$ 182,080   
  

 

 

 

Federal Funds Purchased and Repurchase Agreements

As of March 31, 2015, the Company had no federal funds purchased from correspondent banks compared to $16,825 outstanding as of December 31, 2014. Securities sold under agreements to repurchase had an outstanding balance of $35,718 as of March 31, 2015, compared to $22,253 as of December 31, 2014. Securities sold under agreements to repurchase are financing arrangements that mature daily. At maturity, the securities underlying the agreements are returned to the Company.

 

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Federal Home Loan Bank Advances

The Company has established a line of credit with the Federal Home Bank of Cincinnati which is secured by a blanket pledge of 1-4 family residential mortgages. At March 31, 2015 and at December 31, 2014, advances totaled $19,000.

At March 31, 2015, the scheduled maturities of these and advances and interest rates were as follows:

 

Scheduled Maturities

   Amount      Weighted
Average Rates
 

2015

   $ 2,000         0.70

2016

     —          —  

2017

     10,000         1.27

2018

     7,000         1.61
  

 

 

    

 

 

 

Total

$ 19,000      1.33
  

 

 

    

 

 

 

Liquidity

Liquidity is defined as the ability to meet anticipated customer demands for funds under credit commitments and deposit withdrawals at a reasonable cost and on a timely basis.

Liquidity risk involves the risk of being unable to fund assets with the appropriate duration and rate-based liabilities, as well as the risk of not being able to meet unexpected cash needs. Liquidity planning and management are necessary to ensure the ability to fund operations cost-effectively and to meet current and future potential obligations such as loan commitments, lease obligations, and unexpected deposit outflows. In this process, management focuses on both assets and liabilities and on the manner in which they combine to provide adequate liquidity to meet the Company’s needs.

Funds are available from a number of basic banking activity sources including the core deposit base, the repayment and maturity of loans, payments of principal and interest as well as sales of investments classified as available-for-sale, and sales of brokered deposits. As of March 31, 2015, $456,520 of the investment securities portfolio was classified as available-for-sale and is reported at fair value on the consolidated balance sheet. Another $50,650 of the portfolio was classified as held-to-maturity and is reported at amortized cost. Approximately $488,573 of the total $507,420 investment securities portfolio on hand at March 31, 2015, was pledged to secure public deposits and repurchase agreements. Other funding sources available include repurchase agreements, federal funds purchased, and borrowings from the Federal Home Loan Bank.

Shareholders’ Equity

On March 26, 2015, The Company launched an initial public stock offering and began trading on the New York Stock Exchange under the ticker symbol “FSB.” In the offering, the Company issued 2,640,000 shares of its common stock at a price of $21.00 per share. The initial public offering was completed during March 2015. Net proceeds were as follows:

 

Gross proceeds

$ 55,440   

Less: stock offering costs

  (4,436
  

 

 

 

Net proceeds from issuance of common stock

$ 51,004   
  

 

 

 

The details of the offering are available in the Prospectus that the Company filed with the SEC on March 27, 2015.

Effects of Inflation and Changing Prices

The accompanying consolidated financial statements have been prepared in accordance with generally accepted accounting principles, which require the measurement of financial position and operating results in terms of historical dollars without considering the change in the relative purchasing power of money over time due to inflation. Unlike most industrial companies, virtually all of the assets and liabilities of a financial institution are monetary in nature. As a result, interest rates generally have a more significant impact on the performance of a financial institution than the effects of general levels of inflation. Although interest rates do not necessarily move in the same direction or to the same extent as the prices of goods and services, increases in inflation generally have resulted in increased interest rates. In addition, inflation affects financial institutions’ increased cost of goods and services purchased, the cost of salaries and benefits, occupancy expense, and similar items. Inflation and related increases in interest rates generally decrease the market value of investments and loans held and may adversely affect liquidity, earnings, and shareholders’ equity. Commercial and other loan originations and refinancings tend to slow as interest rates increase, and can reduce the Company’s earnings from such activities.

 

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Off Balance Sheet Arrangements

The Company generally does not have any off-balance sheet arrangements other than approved and unfunded loans and lines and letters of credit to customers in the ordinary course of business. At March 31, 2015, the Company had unfunded loan commitments outstanding of $51,535, unused lines of credit of $262,845, and outstanding standby letters of credit of $11,087.

GAAP Reconciliation and Management Explanation of Non-GAAP Financial Measures

Some of the financial data included in our selected historical consolidated financial information are not measures of financial performance recognized by GAAP. Our management uses these non-GAAP financial measures in its analysis of our performance:

 

    “Common shareholders’ equity” is defined as total shareholders’ equity at end of period less the liquidation preference value of the preferred stock;

 

    “Tangible common shareholders’ equity” is common shareholders’ equity less goodwill and other intangible assets;

 

    “Total tangible assets” is defined as total assets less goodwill and other intangible assets;

 

    “Other intangible assets” is defined as the sum of core deposit intangible and SBA servicing rights;

 

    “Tangible book value per share” is defined as tangible common shareholders’ equity divided by total common shares outstanding. This measure is important to investors interested in changes from period-to-period in book value per share exclusive of changes in intangible assets;

 

    “Tangible common shareholders’ equity ratio” is defined as the ratio of tangible common shareholders’ equity divided by total tangible assets. We believe that this measure is important to many investors in the marketplace who are interested in relative changes from period-to period in common equity and total assets, each exclusive of changes in intangible assets;

 

    “Return on Average Tangible Common Equity” is defined as net income available to common shareholders divided by average tangible common shareholders’ equity;

 

    “Efficiency ratio” is defined as noninterest expenses divided by our operating revenue, which is equal to net interest income plus noninterest income;

 

    “Adjusted yield on loans” is our yield on loans after excluding loan accretion from our acquired loan portfolio. Our management uses this metric to better assess the impact of purchase accounting on our yield on loans, as the effect of loan discount accretion is expected to decrease as the acquired loans mature or roll off of our balance sheet;

 

    “Net interest margin” is defined as annualized net interest income divided by average interest-earning assets for the period;

 

    “Adjusted net interest margin” is net interest margin after excluding loan accretion from the acquired loan portfolio and premiums for acquired time deposits. Our management uses this metric to better assess the impact of purchase accounting on net interest margin, as the effect of loan discount accretion and accretion of net discounts and premiums related to deposits is expected to decrease as the acquired loans and deposits mature or roll off of our balance sheet.

 

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We believe these non-GAAP financial measures provide useful information to management and investors that is supplementary to our financial condition, results of operations and cash flows computed in accordance with GAAP; however, we acknowledge that our non-GAAP financial measures have a number of limitations. As such, you should not view these disclosures as a substitute for results determined in accordance with GAAP, and they are not necessarily comparable to non-GAAP financial measures that other companies use. The following reconciliation table provides a more detailed analysis of these non-GAAP financial measures:

 

     As of or for the Three Months Ended  
(Amounts in thousands, except share/
per share data and percentages)
   Mar 31,
2015
    Dec 31,
2014
    Sept 30,
2014
    Jun 30,
2014
    Mar 31,
2014
 

Total shareholders’ equity

   $ 178,541      $ 121,799      $ 116,454      $ 74,199      $ 68,827   

Less: Preferred stock

     10,000        10,000        10,000        10,000        10,000   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total common shareholders’ equity

  168,541      111,799      106,454      64,199      58,827   

Less: Goodwill and other intangibles

  11,709      11,886      12,074      240      245   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Tangible common shareholders’ equity

$ 156,832    $ 99,913    $ 94,380    $ 63,959    $ 58,582   

Common shares outstanding

  10,465,930      7,756,411      7,739,644      4,915,907      4,862,778   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Tangible book value per share

$ 14.99    $ 12.88    $ 12.19    $ 13.01    $ 12.05   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income available to common shareholders

$ 3,107    $ 2,810    $ 1,990    $ 2,010    $ 1,504   

Average tangible common equity

  103,475      97,630      96,310      60,915      57,679   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Return on average tangible common equity

  12.18   11.42   8.20   13.23   10.58
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Efficiency Ratio:

Net interest income

$ 12,157    $ 12,123    $ 11,127    $ 7,348    $ 7,095   

Noninterest income

  3,215      2,926      3,274      2,430      1,421   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating revenue

  15,372      15,049      14,401      9,778      8,516   

Expense

Total noninterest expense

  9,621      9,863      10,389      6,078      5,492   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Efficiency ratio

  62.59   65.54   72.14   62.16   64.49
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Reported yield on loans

  5.35   5.67   5.92   5.77   5.39

Effect of accretion income on acquired loans

  (0.28 %)    (0.36 %)    (0.43 %)    0.00   0.00
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Adjusted yield on loans

  5.07   5.31   5.49   5.77   5.39
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Reported net interest margin

  3.65   3.97   3.86   3.48   3.55

Effect of accretion income on acquired loans

  (0.18 %)    (0.23 %)    (0.27 %)    0.00   0.00

Effect of premium amortization of acquired deposits

  (0.01 %)    (0.02 %)    (0.02 %)    0.00   0.00
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Adjusted net interest margin

  3.46   3.72   3.57   3.48   3.55
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

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FRANKLIN FINANCIAL NETWORK, INC.

SUMMARY QUARTERLY CONSOLIDATED FINANCIAL DATA (UNAUDITED)

(Amounts in thousands, except per share data and percentages)

 

     As of and for the three months ended  
     Mar 31,
2015
     Dec 31,
2014
     Sept 30,
2014
     Jun 30,
2014
    Mar 31,
2014
 

Income Statement Data ($):

             

Interest income

     13,926         13,742         12,692         8,699        8,299   

Interest expense

     1,769         1,619         1,565         1,351        1,204   

Net interest income

     12,157         12,123         11,127         7,348        7,095   

Provision for loan losses

     625         885         664         440        385   

Noninterest income

     3,215         2,926         3,274         2,430        1,421   

Noninterest expense

     9,621         9,863         10,389         6,078        5,492   

Net Income before taxes

     5,126         4,301         3,348         3,260        2,639   

Provision for taxes

     1,994         1,466         1,333         1,225        1,110   

Net income

     3,132         2,835         2,015         2,035        1,529   

Net income available to common shareholders

     3,107         2,810         1,990         2,010        1,504   

Earnings per share, basic

     0.39         0.36         0.26         0.41        0.31   

Earnings per share, diluted

     0.37         0.34         0.25         0.40        0.30   

Profitability (%)

             

Return on average assets

     0.90         0.88         0.67         0.94        0.74   

Return on average equity

     10.14         9.40         7.02         11.47        9.13   

Return on average tangible common equity

     12.18         11.42         8.20         13.23        10.58   

Efficiency ratio

     62.59         65.54         72.14         62.16        64.49   

Net Interest margin

     3.65         3.97         3.86         3.48        3.55   

Balance Sheet Data ($):

             

Loans (including HFS)

     897,001         805,650         744,927         501,664        463,137   

Loan loss reserve

     7,308         6,680         5,883         5,771        5,304   

Cash

     48,580         49,347         36,657         26,054        30,870   

Securities

     507,170         449,037         403,043         322,607        351,850   

Goodwill

     9,124         9,124         9,121         157        157   

Intangible assets

     2,585         2,762         2,953         83        88   

Assets

     1,509,430         1,355,827         1,238,579         872,142        866,685   

Deposits

     1,271,602         1,172,233         1,051,558         747,324        739,634   

Liabilities

     1,330,889         1,234,028         1,122,125         797,943        797,858   

Total equity

     178,541         121,799         116,454         74,199        68,827   

Common equity

     168,541         111,799         106,454         64,199        58,827   

Tangible common equity

     156,832         99,913         94,380         63,959        58,582   

Asset Quality (%)

             

Nonperforming loans/ total loans

     0.14         0.15         0.47         0.34        0.58   

Nonperforming assets / total loans + OREO

     0.19         0.24         0.70         0.58        0.58   

Loan loss reserve / loans (excluding HFS)

     0.84         0.85         0.82         1.19        1.17   

Net charge-offs / average loans

     0.00         0.04         0.30         (0.02     (0.02

Capital (%)

             

Tangible common equity to tangible assets

     10.47         7.43         7.70         7.34        6.76   

Leverage ratio

     11.41         8.57         8.83         8.39        8.48   

Tier 1 common ratio

     14.01         10.51         11.17         11.10        11.38   

Tier 1 risk-based capital ratio

     14.95         11.58         12.35         12.86        13.24   

Total risk-based capital ratio

     15.64         12.30         13.05         13.88        14.23   

 

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Emerging Growth Company Status

The Company is an “emerging growth company,” as defined in the Jumpstart Our Business Startups Act of 2012 (the “JOBS Act”), and may take advantage of certain exemptions from various reporting requirements that are applicable to public companies that are not emerging growth companies, including, but not limited to, not being required to comply with the auditor attestation requirements of Section 404 of the Sarbanes-Oxley Act, reduced disclosure obligations regarding executive compensation in periodic reports and proxy statements, and exemptions from the requirements of holding a nonbinding advisory vote on executive compensation and shareholder approval of any golden parachute payments not previously approved. In addition, even if the Company complies with the greater obligations of public companies that are not emerging growth companies, the Company may avail itself of the reduced requirements applicable to emerging growth companies from time to time in the future, so long as the Company is an emerging growth company. The Company will continue to be an emerging growth company until the earliest to occur of: (1) the end of the fiscal year following the fifth anniversary of the effectiveness of the Company’s Form S-4 filed with the SEC on May 14, 2014 in connection with the Company’s acquisition of MidSouth, which registered the Company’s common stock issued in the acquisition of MidSouth under the Securities Act, and resulted in the Company becoming an SEC reporting company under Section 15(d) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”); (2) the last day of the fiscal year in which we have more than $1.0 billion in annual revenues; (3) the date on which we are deemed to be a “large accelerated filer” under the Exchange Act; or (4) the date on which we have, during the previous three-year period, issued publicly or privately, more than $1.0 billion in non-convertible debt securities. Management cannot predict if investors will find the Company’s common stock less attractive because it will rely on these exemptions. If some investors find the Company’s common stock less attractive as a result, there may be a less active trading market for its common stock and the Company’s stock price may be more volatile.

Further, the JOBS Act exempts emerging growth companies from being required to comply with new or revised financial accounting standards until private companies (that is, those that have not had a Securities Act registration statement declared effective or do not have a class of securities registered under the Exchange Act) are required to comply with the new or revised financial accounting standards. The JOBS Act provides that a company can elect to opt out of the extended transition period and comply with the requirements that apply to non-emerging growth companies but any such an election to opt out is irrevocable. The Company has elected to opt out of such extended transition period, which means that when a standard is issued or revised and it has different application dates for public or private companies, it adopts the new or revised standard at the time public companies adopt the new or revised standard. This election is irrevocable.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.

The Company’s primary component of market risk is interest rate volatility. Fluctuations in interest rates will ultimately impact both the level of income and expense recorded on a large portion of the Company’s assets and liabilities, and the market value of all interest-earning assets and interest-bearing liabilities, other than those which possess a short term to maturity. Based upon the nature of the Company’s operations, the Company is not subject to foreign currency exchange or commodity price risk.

Management seeks to maintain profitability in both immediate and long-term earnings through funds management/interest rate risk management. Interest rate risk (sensitivity) management deals with the potential impact on earnings associated with changing interest rates using various rate change (shock) scenarios. The Company’s rate sensitivity position has an important impact on earnings. Senior management monitors the Company’s rate sensitivity position throughout each month, and then the Asset Liability Committee (“ALCO”) of the Bank meets on a quarterly basis to analyze the rate sensitivity position and other aspects of asset/liability management. These meetings cover the spread between the cost of funds (primarily time deposits) and interest yields generated primarily through loans and investments, rate shock analyses, liquidity and dependency positions, and other areas necessary for proper balance sheet management.

Management believes interest rate risk is best measured by earnings simulation modeling. The simulation is run using the prime rate as the base with the assumption of rates increasing 100, 200, 300 and 400 basis points or decreasing 100 and 200 basis points. All rates are increased or decreased parallel to the change in prime rate. As a result of the simulation, over a 12-month time period ending March 31, 2015, net interest income was estimated to increase 3.63% and 6.03% if rates were to increase 100 basis points and 200 basis points, respectively, and was estimated to decrease 4.76% and 16.67% in a 100 basis points and 200 basis points declining rate assumption, respectively. These results are in line with the Company’s guidelines for rate sensitivity.

 

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The following chart reflects the Company’s sensitivity to changes in interest rates as indicated as of March 31, 2015.

 

Projected Interest Rate
Change

   Net Interest
Income
   Net Interest Income $
Change from Base
   % Change from Base

-200

   39,843    -7,968    -16.67%

-100

   45,537    -2,274      -4.76%

Base

   47,811          —          0.00%

+100

   49,546      1,735        3.63%

+200

   50,692      2,881        6.03%

+300

   51,769      3,957        8.28%

+400

   52,790      4,979      10.41%

The preceding sensitivity analysis is a modeling analysis, which changes periodically and consists of hypothetical estimates based upon numerous assumptions including interest rate levels, changes in the shape of the yield curve, prepayments on loans and securities, rates on loans and deposits, reinvestments of pay downs and maturities of loans, investments and deposits, changes in spreads between key market rates, and other assumptions. In addition, there is no input for growth or a change in asset mix. While assumptions are developed based on the current economic and market conditions, the Company cannot make any assurances as to the predictive nature of these assumptions, including how customer preferences or competitor influences might change. As market conditions vary from those assumed in the sensitivity analysis, actual results will differ. Also, these results do not include any management action that might be taken in responding to or anticipating changes in interest rates. The simulation results are one indicator of interest rate risk, and actual net interest income is largely impacted by the allocation of assets, liabilities, and product mix.

ITEM 4. CONTROLS AND PROCEDURES.

(a) Evaluation of Disclosure Controls and Procedures. The Company’s chief executive officer and chief financial officer have evaluated the effectiveness of the design and operation of the Company’s “disclosure controls and procedures” (as that term is defined in Rule 13a-15(e) under the Exchange Act) as of March 31, 2015, the end of the fiscal quarter covered by this Quarterly Report on Form 10-Q. Based on that evaluation, the chief executive officer and chief financial officer have concluded that the Company’s disclosure controls and procedures are effective.

(b) Changes in Internal Controls. There has been no change in our internal control over financial reporting that occurred during the fiscal quarter covered by this Quarterly Report on Form 10-Q that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

PART II OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS.

Management is not aware of any material pending legal proceedings against the Company which, if determined adversely, the Company believes would have a material adverse impact on the Company’s financial position, results of operations or cash flows.

ITEM 1A. RISK FACTORS

There have been no material changes to the risk factors disclosed in our Annual Report on Form 10-K filed with the SEC on March 11, 2015 other than the additional disclosure of the risk factors listed below.

An active, liquid market for our common stock may not develop or be sustained, which may impair the ability of our shareholders to sell their shares.

Before the listing of our common stock on the New York Stock Exchange (the “NYSE”) on March 26, 2015, our common stock had very little liquidity, with only limited trading of our common stock on the OTCQB of the OTC Markets Group. Even though our common stock is now listed on the NYSE under the symbol “FSB”, there is limited trading volume and an active, liquid trading market for our common stock may not develop or be sustained. A public trading market having the desired characteristics of depth, liquidity and orderliness depends upon the presence in the marketplace and independent decisions of willing buyers and sellers of our common stock, over which we have no control. If an active, liquid trading market for our common stock does not develop, shareholders may not be able to sell their shares at the volume, prices and times desired. Moreover, the lack of an established market could materially and adversely affect the value of our common stock. The market price of our common stock could decline significantly due to actual or anticipated issuances or sales of our common stock in the future.

 

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Shares of our common stock are subject to dilution and the market price of our common stock could decline due to the number of outstanding shares of our common stock eligible for future sale, including shares that will be available for sale following the expiration of lock-up periods.

Actual or anticipated issuances or sales of additional amounts of our common stock in the future could cause the market price of our common stock to decline significantly and make it more difficult for us to sell equity securities in the future at a time and on terms that we deem appropriate. The issuance of any shares of our common stock in the future also would dilute the percentage ownership interest held by shareholders prior to such issuance. As of May 10, 2015, we had 10,501,462 shares of common stock issued and outstanding. Of the outstanding shares of common stock, all of the 2,640,000 shares that were sold in our initial public offering are freely tradable, except that any shares purchased by “affiliates” (as that term is defined in Rule 144 under the Securities Act), may be sold publicly only in compliance with certain limitations. In addition, 2,766,191 shares of our outstanding common stock were issued pursuant to a registration statement on Form S-4 in connection with the acquisition of MidSouth and are freely tradable. Other than certain of the restricted shares we previously issued under our 2007 Omnibus Equity Incentive Plan (the “2007 Plan”), and subject in certain cases to lock-up restrictions with respect to our directors and executive officers that restrict their ability, with certain exceptions, to transfer shares of our common stock held by them for a period of 180 days, the remaining 4,084,234 outstanding shares of our common stock may be sold in the market over time in accordance with Rule 144 under the Securities Act or otherwise in future public offerings. We plan to file a registration statement on Form S-8 under the Securities Act to register an aggregate of 4,000,000 shares of our common stock for issuance under our 2007 Plan. Subject to certain exceptions, approximately 1,224,003 shares of our common stock will become eligible for sale upon expiration of the 180-day lock-up period. Accordingly, the market price of our common stock could be adversely affected by actual of anticipated sales of a significant number of shares of our common stock in the future.

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS.

Shares of the Company’s common stock were issued during the first quarter of 2015 pursuant to the exercise of warrants and options issued by the Company, as follows: