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EX-31.2 - EXHIBIT 31.2 - AMERICAN NATIONAL BANKSHARES INC.exhibit312.htm
EX-32.2 - EXHIBIT 32.2 - AMERICAN NATIONAL BANKSHARES INC.exhibit322.htm
EX-32.1 - EXHIBIT 32.1 - AMERICAN NATIONAL BANKSHARES INC.exhibit321.htm
EX-31.1 - EXHIBIT 31.1 - AMERICAN NATIONAL BANKSHARES INC.exhibit311.htm

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C.  20549

FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED June 30, 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:  0-12820

AMERICAN NATIONAL BANKSHARES INC.
(Exact name of registrant as specified in its charter)

VIRGINIA
 
54-1284688
(State or other jurisdiction of incorporation or organization)
 
(I.R.S. Employer Identification No.)
 
 
 
628 Main Street
 
 
Danville, Virginia
 
24541
(Address of principal executive offices)
 
(Zip Code)

(434) 792-5111
(Registrant's telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes
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.

Yes
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  o (Do not check if a smaller reporting company)
Smaller reporting company ☐
 
 

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

At August 5, 2015, the Company had 8,696,418 shares of Common Stock outstanding, $1 par value.



AMERICAN NATIONAL BANKSHARES INC.
Index
 
 
Page
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

2


PART I.   FINANCIAL INFORMATION
ITEM 1.  FINANCIAL STATEMENTS
American National Bankshares Inc.
Consolidated Balance Sheets
(Dollars in thousands, except share data)
 
 
 
 
 
 
 
(*)
Assets
(Unaudited)
June 30, 2015
 
December 31, 2014
Cash and due from banks
$
24,548

 
$
29,272

Interest-bearing deposits in other banks
50,758

 
38,031

Federal funds sold
408

 

 
 
 
 
Securities available for sale, at fair value
355,595

 
344,716

Restricted stock, at cost
5,329

 
4,367

Loans held for sale
2,720

 
616

 
 
 
 
Loans, net of unearned income
982,905

 
840,925

Less allowance for loan losses
(12,793
)
 
(12,427
)
Net loans
970,112

 
828,498

 
 
 
 
Premises and equipment, net
24,182

 
23,025

Other real estate owned, net of valuation allowance $363 in 2015 and $2,971 in 2014
2,113

 
2,119

Goodwill
44,210

 
39,043

Core deposit intangibles, net
3,283

 
2,045

Bank owned life insurance
17,376

 
15,193

Accrued interest receivable and other assets
23,722

 
19,567

Total assets
$
1,524,356

 
$
1,346,492

 
 
 
 
Liabilities
 

 
 

Demand deposits -- noninterest bearing
$
294,342

 
$
254,458

Demand deposits -- interest bearing
239,582

 
193,432

Money market deposits
190,799

 
174,000

Savings deposits
109,732

 
90,130

Time deposits
399,563

 
363,817

Total deposits
1,234,018

 
1,075,837

 
 
 
 
Customer repurchase agreements
50,123

 
53,480

Long-term borrowings
9,947

 
9,935

Trust preferred capital notes
27,571

 
27,521

Accrued interest payable and other liabilities
7,814

 
5,939

Total liabilities
1,329,473

 
1,172,712

 
 
 
 
Shareholders' equity
 

 
 

Preferred stock, $5 par, 2,000,000 shares authorized, none outstanding

 

Common stock, $1 par, 20,000,000 shares authorized, 8,688,480 shares outstanding at June 30, 2015 and 7,873,474 shares outstanding at December 31, 2014
8,671

 
7,872

Capital in excess of par value
76,826

 
57,650

Retained earnings
106,984

 
104,594

Accumulated other comprehensive income, net
2,402

 
3,664

Total shareholders' equity
194,883

 
173,780

Total liabilities and shareholders' equity
$
1,524,356

 
$
1,346,492

(*) -  Derived from audited consolidated financial statements.
The accompanying notes are an integral part of the consolidated financial statements.

3


American National Bankshares Inc.
Consolidated Statements of Income
(Dollars in thousands, except share and per share data) (Unaudited)
 
Three Months Ended 
 June 30,
Six Months Ended 
 June 30,
 
2015
 
2014
2015
 
2014
Interest and Dividend Income:
 
 
 
 
 
 
Interest and fees on loans
$
11,767

 
$
9,687

$
23,537

 
$
19,534

Interest on federal funds sold
1

 

5

 

Interest and dividends on securities:
 

 
 

 
 
 
Taxable
994

 
968

1,969

 
1,932

Tax-exempt
940

 
1,016

1,900

 
2,051

Dividends
85

 
74

167

 
149

Other interest income
50

 
35

98

 
68

Total interest and dividend income
13,837

 
11,780

27,676

 
23,734

 
 
 
 
 
 
 
Interest Expense:
 

 
 

 

 
 

Interest on deposits
1,184

 
1,161

2,378

 
2,390

Interest on short-term borrowings
2

 
2

5

 
4

Interest on long-term borrowings
81

 
81

161

 
161

Interest on trust preferred capital notes
188

 
185

372

 
369

Total interest expense
1,455

 
1,429

2,916

 
2,924

 
 
 
 
 
 
 
Net Interest Income
12,382

 
10,351

24,760

 
20,810

Provision for Loan Losses
100

 
150

700

 
150

 
 
 
 
 
 
 
Net Interest Income After Provision for Loan Losses
12,282

 
10,201

24,060

 
20,660

 
 
 
 
 
 
 
Noninterest Income:
 

 
 

 

 
 

Trust fees
1,005

 
1,017

1,957

 
2,139

Service charges on deposit accounts
525

 
431

1,022

 
844

Other fees and commissions
607

 
493

1,195

 
937

Mortgage banking income
389

 
275

611

 
538

Gains on sales of securities
237

 
150

547

 
189

Other
495

 
334

1,082

 
756

Total noninterest income
3,258

 
2,700

6,414

 
5,403

 
 
 
 
 
 
 
Noninterest Expense:
 

 
 

 

 
 

Salaries
4,308

 
3,638

8,455

 
7,176

Employee benefits
1,111

 
847

2,186

 
1,822

Occupancy and equipment
1,024

 
910

2,196

 
1,846

FDIC assessment
195

 
165

380

 
329

Bank franchise tax
220

 
231

455

 
453

Core deposit intangible amortization
300

 
330

601

 
661

Data processing
483

 
345

945

 
693

Software
277

 
235

560

 
497

Other real estate owned, net
133

 
(9
)
186

 
7

Acquisition related expense
1,502

 

1,861

 

Other
2,089

 
1,673

3,864

 
3,304

Total noninterest expense
11,642

 
8,365

21,689

 
16,788

Income Before Income Taxes
3,898

 
4,536

8,785

 
9,275

Income Taxes
1,018

 
1,303

2,390

 
2,592

Net Income
$
2,880

 
$
3,233

$
6,395

 
$
6,683

 
 
 
 
 
 
 
Net Income Per Common Share:
 

 
 

 

 
 

Basic
$
0.33

 
$
0.41

$
0.73

 
$
0.85

Diluted
$
0.33

 
$
0.41

$
0.73

 
$
0.85

Weighted Average Common Shares Outstanding:
 

 
 

 

 
 

Basic
8,707,504

 
7,872,079

8,713,528

 
7,886,232

Diluted
8,715,934

 
7,879,854

8,722,266

 
7,896,541

The accompanying notes are an integral part of the consolidated financial statements.

4


American National Bankshares Inc.
Consolidated Statements of Comprehensive Income
(Dollars in thousands) (Unaudited)
 
Three Months Ended 
 June 30,
 
2015
 
2014
Net income
$
2,880

 
$
3,233

 
 
 
 
Other comprehensive income (loss):
 

 
 

 
 
 
 
Unrealized gains (losses) on securities available for sale
(2,628
)
 
2,422

Income tax (expense) benefit
920

 
(848
)
 
 
 
 
Reclassification adjustment for gains on sales of securities
(237
)
 
(150
)
Income tax expense
82

 
52

 
 
 
 
Other comprehensive income (loss)
(1,863
)
 
1,476

 
 
 
 
Comprehensive income
$
1,017

 
$
4,709

The accompanying notes are an integral part of the consolidated financial statements.
  
American National Bankshares Inc.
Consolidated Statements of Comprehensive Income
(Dollars in thousands) (Unaudited)
 
Six Months Ended 
 June 30,
 
2015
 
2014
Net income
$
6,395

 
$
6,683

 
 
 
 
Other comprehensive income (loss):
 

 
 

 
 
 
 
Unrealized gains (losses) on securities available for sale
(1,394
)
 
4,231

Income tax (expense) benefit
488

 
(1,481
)
 
 
 
 
Reclassification adjustment for gains on sales of securities
(547
)
 
(189
)
Income tax expense
191

 
66

 
 
 
 
Other comprehensive income (loss)
(1,262
)
 
2,627

 
 
 
 
Comprehensive income
$
5,133

 
$
9,310


The accompanying notes are an integral part of the consolidated financial statements.










5



American National Bankshares Inc.
Consolidated Statements of Changes in Shareholders' Equity
(Dollars in thousands except per share data) (Unaudited)
 
Common
Stock
 
Capital in
Excess of
Par Value
 
Retained
Earnings
 
Accumulated
Other
Comprehensive
Income
 
Total
Shareholders'
Equity
Balance, December 31, 2013
$
7,891

 
$
58,050

 
$
99,090

 
$
2,520

 
$
167,551

 
 
 
 
 
 
 
 
 
 
Net income

 

 
6,683

 

 
6,683

 
 
 
 
 
 
 
 
 
 
Other comprehensive income

 

 

 
2,627

 
2,627

 
 
 
 
 
 
 
 
 
 
Stock repurchased and retired
(70
)
 
(1,430
)
 

 

 
(1,500
)
 
 
 
 
 
 
 
 
 
 
Equity based compensation
19

 
324

 

 

 
343

 
 
 
 
 
 
 
 
 
 
Cash dividends paid, $0.46 per share

 

 
(3,621
)
 

 
(3,621
)
 
 
 
 
 
 
 
 
 
 
Balance, June 30, 2014
$
7,840

 
$
56,944

 
$
102,152

 
$
5,147

 
$
172,083

 
 
 
 
 
 
 
 
 
 
Balance, December 31, 2014
$
7,872

 
$
57,650

 
$
104,594

 
$
3,664

 
$
173,780

 
 
 
 
 
 
 
 
 
 
Net income

 

 
6,395

 

 
6,395

 
 
 
 
 
 
 
 
 
 
Other comprehensive loss

 

 

 
(1,262
)
 
(1,262
)
 
 
 
 
 
 
 
 
 
 
Issuance of common stock
826

 
19,657

 

 

 
20,483

 
 
 
 
 
 
 
 
 
 
Stock repurchased and retired
(52
)
 
(1,123
)
 

 

 
(1,175
)
 
 
 
 
 
 
 
 
 
 
Stock options exercised
15

 
250

 

 

 
265

 
 
 
 
 
 
 
 
 
 
Equity based compensation
10

 
392

 

 

 
402

 
 
 
 
 
 
 
 
 
 
Cash dividends paid, $0.46 per share

 

 
(4,005
)
 

 
(4,005
)
 
 
 
 
 
 
 
 
 
 
Balance, June 30, 2015
$
8,671

 
$
76,826

 
$
106,984

 
$
2,402

 
$
194,883


The accompanying notes are an integral part of the consolidated financial statements.

6


American National Bankshares Inc.
Consolidated Statements of Cash Flows
(Dollars in thousands) (Unaudited)
 
Six Months Ended 
 June 30,
 
2015
 
2014
Cash Flows from Operating Activities:
 
 
 
Net income
$
6,395

 
$
6,683

Adjustments to reconcile net income to net cash provided by operating activities:
 

 
 

Provision for loan losses
700

 
150

Depreciation
882

 
857

Net accretion of purchase accounting adjustments
(1,957
)
 
(1,500
)
Core deposit intangible amortization
601

 
661

Net amortization (accretion) of securities
1,369

 
1,303

Net gains on sale or call of securities
(547
)
 
(189
)
Net gain on sale of loans held for sale
(481
)
 
(426
)
Proceeds from sales of loans held for sale
25,601

 
26,239

Originations of loans held for sale
(27,224
)
 
(23,171
)
Net gain on other real estate owned
(10
)
 
(152
)
Valuation allowance on other real estate owned
63

 
46

Net gain on sale of premises and equipment
(5
)
 

Equity based compensation expense
402

 
343

Net change in bank owned life insurance
(228
)
 
(199
)
Deferred income tax expense
83

 
212

Net change in interest receivable
391

 
168

Net change in other assets
(350
)
 
(871
)
Net change in interest payable
(40
)
 
(20
)
Net change in other liabilities
(1,161
)
 
(467
)
Net cash provided by operating activities
4,484

 
9,667

 
 
 
 
Cash Flows from Investing Activities:
 

 
 

Proceeds from sales of securities available for sale
7,429

 
6,477

Proceeds from maturities, calls and paydowns of securities available for sale
57,846

 
35,795

Purchases of securities available for sale
(60,117
)
 
(42,939
)
Net change in restricted stock
(224
)
 
(175
)
Net increase in loans
(26,465
)
 
(17,197
)
Proceeds from sale of premises and equipment
42

 

Purchases of premises and equipment
(601
)
 
(266
)
Proceeds from sales of other real estate owned
1,047

 
1,292

Cash paid in bank acquisition
(5,935
)
 

Cash acquired in bank acquisition
18,173

 

Net cash used in investing activities
(8,805
)
 
(17,013
)
 
 
 
 
Cash Flows from Financing Activities:
 

 
 

Net change in demand, money market, and savings deposits
39,984

 
3,840

Net change in time deposits
(18,980
)
 
(25,715
)
Net change in customer repurchase agreements
(3,357
)
 
(1,058
)
Net change in other short-term borrowings

 
12,000

Net change in long-term borrowings

 
(38
)
Common stock dividends paid
(4,005
)
 
(3,621
)
Repurchase of stock
(1,175
)
 
(1,500
)
Proceeds from exercise of stock options
265

 

Net cash provided by (used in) financing activities
12,732

 
(16,092
)
 
 
 
 
Net Increase (Decrease) in Cash and Cash Equivalents
8,411

 
(23,438
)
 
 
 
 
Cash and Cash Equivalents at Beginning of Period
67,303

 
67,681

 
 
 
 
Cash and Cash Equivalents at End of Period
$
75,714

 
$
44,243

The accompanying notes are an integral part of the consolidated financial statements.

7


AMERICAN NATIONAL BANKSHARES INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 1 – Accounting Policies
The consolidated financial statements include the accounts of American National Bankshares Inc. (the "Company") and its wholly owned subsidiary, American National Bank and Trust Company (the "Bank").  The Bank offers a wide variety of retail, commercial, secondary market mortgage lending, and trust and investment services which also include non-deposit products such as mutual funds and insurance policies.
The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States of America ("GAAP") requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Material estimates that are particularly susceptible to significant change in the near term relate to the determination of the allowance for loan losses, the valuation of foreclosed real estate, goodwill and intangible assets, the valuation of deferred tax assets, other-than-temporary impairments of securities, and acquired loans with specific credit-related deterioration. 
All significant inter-company transactions and accounts are eliminated in consolidation, with the exception of the AMNB Trust and the MidCarolina Trusts, as detailed in Note 9.
In the opinion of management, the accompanying unaudited consolidated financial statements contain all adjustments (consisting of normal recurring accruals) necessary to present fairly the results of the interim periods. The results of operations for the interim periods are not necessarily indicative of the results that may occur for the year ending December 31, 2015.  Certain reclassifications have been made to prior period balances to conform to the current period presentation. These reclassifications did not have an impact on net income and were considered immaterial. These statements should be read in conjunction with the Notes to Consolidated Financial Statements included in the Company's Annual Report on Form 10-K for the year ended December 31, 2014.
Recent Accounting Pronouncements
In June 2014, the Financial Accounting Standards Board (the" FASB") issued Accounting Standards Update ("ASU") No. 2014-11, “Transfers and Servicing (Topic 860): Repurchase-to-Maturity Transactions, Repurchase Financings, and Disclosures.” This ASU aligns the accounting for repurchase-to-maturity transactions and repurchase agreements executed as a repurchase financing with the accounting for other typical repurchase agreements. The new guidance eliminates sale accounting for repurchase-to-maturity transactions and supersedes the guidance under which a transfer of a financial asset and a contemporaneous repurchase financing could be accounted for on a combined basis as a forward agreement. The amendments in the ASU also require a new disclosure for transactions economically similar to repurchase agreements in which the transferor retains substantially all of the exposure to the economic return on the transferred financial assets throughout the term of the transaction. Additional disclosures will be required for the nature of collateral pledged in repurchase agreements and similar transactions accounted for as secured borrowings. The amendments in this ASU are effective for the first interim or annual period beginning after December 15, 2014; however, the disclosure for transactions accounted for as secured borrowings is required to be presented for annual periods beginning after December 15, 2014, and interim periods beginning after March 15, 2015. Early adoption is not permitted. The adoption of the new guidance did not have a material impact on the Company’s consolidated financial statements.

In June 2014, the FASB issued ASU No. 2014-12, “Compensation - Stock Compensation (Topic 718): Accounting for Share-Based Payments When the Terms of an Award Provide That a Performance Target Could Be Achieved after the Requisite Service Period.” The new guidance applies to reporting entities that grant employees share-based payments in which the terms of the award allow a performance target to be achieved after the requisite service period. The amendments in the ASU require that a performance target that affects vesting and that could be achieved after the requisite service period be treated as a performance condition. Existing guidance in “Compensation - Stock Compensation (Topic 718),” should be applied to account for these types of awards. The amendments in this ASU are effective for annual periods and interim periods within those annual periods beginning after December 15, 2015. Early adoption is permitted and reporting entities may choose to apply the amendments in the ASU either on a prospective or retrospective basis. The Company is currently assessing the impact that ASU 2014-12 will have on the Company’s consolidated financial statements.

In August 2014, the FASB issued ASU No. 2014-15, “Presentation of Financial Statements - Going Concern (Subtopic 205-40): Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern.” This update is intended to provide guidance about management’s responsibility to evaluate whether there is substantial doubt about an entity’s ability to

8


continue as a going concern and to provide related footnote disclosures. Management is required under the new guidance to evaluate whether there are conditions or events, considered in the aggregate, that raise substantial doubt about the entity’s ability to continue as a going concern within one year after the date the financial statements are issued when preparing financial statements for each interim and annual reporting period. If conditions or events are identified, the ASU specifies the process that must be followed by management and also clarifies the timing and content of going concern footnote disclosures in order to reduce diversity in practice. The amendments in this ASU are effective for annual periods and interim periods within those annual periods beginning after December 15, 2016. Early adoption is permitted. The Company does not expect the adoption of ASU 2014-15 to have a material impact on its consolidated financial statements.

In November 2014, the FASB issued ASU No. 2014-16, “Derivatives and Hedging (Topic 815): Determining Whether the Host Contract in a Hybrid Financial Instrument Issued in the Form of a Share Is More Akin to Debt or to Equity.” The amendments in this ASU do not change the current criteria in GAAP for determining when separation of certain embedded derivative features in a hybrid financial instrument is required. The amendments clarify how current GAAP should be interpreted in evaluating the economic characteristics and risks of a host contract in a hybrid financial instrument that is issued in the form of a share. Specifically, the amendments clarify that an entity should consider all relevant terms and features, including the embedded derivative feature being evaluated for bifurcation, in evaluating the nature of the host contract. Furthermore, the amendments clarify that no single term or feature would necessarily determine the economic characteristics and risks of the host contract. Rather, the nature of the host contract depends upon the economic characteristics and risks of the entire hybrid financial instrument. The amendments in this ASU also clarify that, in evaluating the nature of a host contract, an entity should assess the substance of the relevant terms and features (i.e., the relative strength of the debt-like or equity-like terms and features given the facts and circumstances) when considering how to weight those terms and features. The amendments in this ASU are effective for public business entities for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2015. Early adoption, including adoption in an interim period, is permitted. The Company does not expect the adoption of ASU 2014-16 to have a material impact on its consolidated financial statements.

In January 2015, the FASB issued ASU No. 2015-01, “Income Statement-Extraordinary and Unusual Items (Subtopic 225-20): Simplifying Income Statement Presentation by Eliminating the Concept of Extraordinary Items.” The amendments in this ASU eliminate from GAAP the concept of extraordinary items. Subtopic 225-20, Income Statement - Extraordinary and Unusual Items, required that an entity separately classify, present, and disclose extraordinary events and transactions. Presently, an event or transaction is presumed to be an ordinary and usual activity of the reporting entity unless evidence clearly supports its classification as an extraordinary item. If an event or transaction meets the criteria for extraordinary classification, an entity is required to segregate the extraordinary item from the results of ordinary operations and show the item separately in the income statement, net of tax, after income from continuing operations. The entity also is required to disclose applicable income taxes and either present or disclose earnings-per-share data applicable to the extraordinary item. The amendments in this ASU are effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2015. Early adoption is permitted provided that the guidance is applied from the beginning of the fiscal year of adoption. The Company does not expect the adoption of ASU 2015-01 to have a material impact on its consolidated financial statements.

In February 2015, the FASB issued ASU No. 2015-02, “Consolidation (Topic 810): Amendments to the Consolidation Analysis.” The amendments in this ASU are intended to improve targeted areas of consolidation guidance for legal entities such as limited partnerships, limited liability corporations, and securitization structures (collateralized debt obligations, collateralized loan obligations, and mortgage-backed security transactions). In addition to reducing the number of consolidation models from four to two, the new standard simplifies the FASB Accounting Standards Codification and improves current GAAP by placing more emphasis on risk of loss when determining a controlling financial interest, reducing the frequency of the application of related-party guidance when determining a controlling financial interest in a variable interest entity ("VIE"), and changing consolidation conclusions for public and private companies in several industries that typically make use of limited partnerships or VIEs. The amendments in this ASU are effective for public business entities for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2015. Early adoption is permitted, including adoption in an interim period. ASU 2015-02 may be applied retrospectively in previously issued financial statements for one or more years with a cumulative-effect adjustment to retained earnings as of the beginning of the first year restated. The Company does not expect the adoption of ASU 2015-02 to have a material impact on its consolidated financial statements.
    
In April 2015, the FASB issued ASU No. 2015-03, “Interest - Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs.” The amendments in this ASU are intended to simplify the presentation of debt issuance costs. These amendments require that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability, consistent with debt discounts. The recognition and measurement guidance for debt issuance costs are not affected by the amendments in this ASU. The amendments in this ASU are effective for public business entities for financial statements issued for fiscal years beginning after December 15, 2015, and interim periods within those fiscal years. Early adoption is permitted for financial statements that have not been previously

9


issued. The Company does not expect the adoption of ASU 2015-03 to have a material impact on its consolidated financial statements.

In April 2015, the FASB issued ASU No. 2015-05, “Intangibles - Goodwill and Other - Internal-Use Software (Subtopic 350-40): Customer’s Accounting for Fees Paid in a Cloud Computing Arrangement.” The amendments in this ASU provide guidance to customers about whether a cloud computing arrangement includes a software license. If a cloud computing arrangement includes a software license, then the customer should account for the software license element of the arrangement consistent with the acquisition of other software licenses. If a cloud computing arrangement does not include a software license, the customer should account for the arrangement as a service contract. The amendments do not change the accounting for a customer’s accounting for service contracts. As a result of the amendments, all software licenses within the scope of Subtopic 350-40 will be accounted for consistent with other licenses of intangible assets. The amendments in this ASU are effective for public business entities for annual periods, including interim periods within those annual periods, beginning after December 15, 2015. Early adoption is permitted. An entity can elect to adopt the amendments either: (1) prospectively to all arrangements entered into or materially modified after the effective date; or (2) retrospectively. The Company is currently assessing the impact that ASU 2015-05 will have on its consolidated financial statements.

In May 2015, the FASB issued ASU No. 2015-08, “Business Combinations (Topic 805): Pushdown Accounting - Amendments to SEC Paragraphs Pursuant to Staff Accounting Bulletin No. 115.” The amendments in ASU 2015-08 amend various Securities and Exchange Commission ("SEC") paragraphs pursuant to the issuance of Staff Accounting Bulletin No. 115, Topic 5: Miscellaneous Accounting, regarding various pushdown accounting issues, and did not have a material impact on the Company’s consolidated financial statements.

Note 2 – Acquisition of MainStreet
On January 1, 2015, the Company completed its acquisition of MainStreet BankShares, Inc. ("MainStreet"). The merger of MainStreet with and into the Company was effected pursuant to the terms and conditions of the Agreement and Plan of Reorganization, dated as of August 24, 2014, between the Company and MainStreet, and a related Plan of Merger. Immediately after the merger, Franklin Community Bank, N.A., MainStreet's wholly owned bank subsidiary, merged with and into the Bank.   Pursuant to the MainStreet merger agreement, holders of shares of MainStreet common stock received $3.46 in cash and 0.482 shares of the Company's common stock for each share of MainStreet common stock held immediately prior to the effective date of the merger, plus cash in lieu of fractional shares.  Each option to purchase shares of MainStreet common stock that was outstanding immediately prior to the effective date of the merger vested upon the merger and was converted into an option to purchase shares of the Company's common stock, adjusted based on a 0.643 exchange ratio. Each share of the Company's common stock outstanding immediately prior to the merger remained outstanding and was unaffected by the merger. The cash portion of the merger consideration was funded through a cash dividend of $6,000,000 from the Bank to the Company, and no borrowing was incurred by the Company or the Bank in connection with the merger. Replacement stock option awards representing 43,086 shares of the Company's common stock were granted in conjunction with the MainStreet acquisition.  The value of the consideration transferred with the replacement awards was not determined as of June 30, 2015; therefore, the amounts of the consideration transferred and goodwill recorded in connection with the merger will be adjusted for the value of the replacement awards in the third quarter of 2015.

The transaction was accounted for using the acquisition method of accounting and, accordingly, assets acquired, liabilities assumed, and consideration exchanged were recorded at estimated fair values on the acquisition date. Fair values are preliminary and subject to refinement for up to one year after the closing date of the acquisition.


10


In connection with the merger, the consideration paid, and the fair value of identifiable assets acquired and liabilities assumed as of the merger date are summarized in the following table (dollars in thousands):
Consideration Paid:
 
Common shares issued (825,586)
$
20,483

Cash paid to shareholders
5,935

Value of consideration
26,418

 
 

Assets acquired:
 

Cash and cash equivalents
18,173

Investment securities
18,800

Restricted stock
738

Loans
114,902

Premises and equipment
1,475

Deferred income taxes
2,683

Core deposit intangible
1,839

Other real estate owned
168

Banked owned life insurance
1,955

Other assets
917

Total assets
161,650

 
 

Liabilities assumed:
 

Deposits
137,323

Other liabilities
3,076

Total liabilities
140,399

Net assets acquired
21,251

Goodwill resulting from merger with MainStreet
$
5,167

 
In many cases, the fair values of assets acquired and liabilities assumed were determined by estimating the cash flows expected to result from those assets and liabilities and discounting them at appropriate market rates. The most significant category of assets for which this procedure was used was that of acquired loans. The Company acquired the $122,300,000 loan portfolio at a fair value discount of $7,400,000. The estimated fair value of the performing portion of the portfolio was $105,800,000. The excess of expected cash flows above the fair value of the performing portion of loans will be accreted to interest income over the remaining lives of the loans in accordance with FASB Accounting Standards Codification ("ASC") 310-20.
 
Certain loans, those for which specific credit-related deterioration since origination was identified, are recorded at fair value, reflecting the present value of the amounts expected to be collected. Income recognition on these loans is based on reasonable expectations about the timing and amount of cash flows to be collected. Acquired loans deemed impaired and considered collateral dependent, with the timing of the sale of loan collateral indeterminate, remain on non-accrual status and have no accretable yield.
 
The following table details the acquired loans that are accounted for in accordance with FASB ASC 310-30 as of January 1, 2015 (dollars in thousands):
Contractually required principal and interest at acquisition
$
13,504

Contractual cash flows not expected to be collected (nonaccretable difference)
3,298

Expected cash flows at acquisition
10,206

Interest component of expected cash flows (accretable yield)
1,208

Fair value of acquired loans accounted for under FASB ASC 310-30
$
8,998

In accordance with GAAP, there was no carryover of the allowance for loan losses that had been previously recorded by MainStreet.


11


In connection with the acquisition of MainStreet, the Company acquired an investment portfolio with a fair value of $18,800,000. The fair value of the investment portfolio was determined by taking into account market prices obtained from independent valuation sources.

In connection with the acquisition of MainStreet, the Company recorded a deferred income tax asset of $2,683,000 related to tax attributes of MainStreet, along with the effects of fair value adjustments resulting from applying the acquisition method of accounting.

In connection with the acquisition of MainStreet, the Company acquired other real estate owned with a fair value of $168,000. Other real estate owned was measured at fair value less estimated cost to sell.

In connection with acquisition of with MainStreet, the Company acquired premises and equipment with a fair value of $1,475,000.

The fair value of savings and transaction deposit accounts acquired from MainStreet was assumed to approximate their carrying value as these accounts have no stated maturity and are payable on demand. Certificates of deposit accounts were valued by comparing the contractual cost of the portfolio to an identical portfolio bearing current market rates. The portfolio was segregated into pools based on segments: retail, individual retirement accounts, and brokered. For each segment, the projected cash flows from maturing certificates were then calculated based on contractual rates and prevailing market rates. The valuation adjustment for each segment is equal to the present value of the difference of these two cash flows, discounted at the assumed market rate for a certificate with a corresponding maturity. This valuation adjustment of $290,000 will be accreted to reduce interest expense over the average remaining maturities of the respective pools, which is estimated to be 12 months.

A core deposit intangible of $1,839,000 was recognized in connection with the acquisition of MainStreet. This intangible will be amortized over a 10 year period on an accelerated cost recovery basis.

Direct costs related to the acquisition were expensed as incurred. During 2015, the Company incurred $1,861,000 in merger and acquisition expenses.

The following table presents unaudited pro forma information as if the acquisition of MainStreet had occurred on January 1, 2014. This pro forma information gives effect to certain adjustments, including acquisition accounting fair value adjustments, amortization of core deposit intangible and related income tax effects. The pro forma information does not necessarily reflect the results of operations that would have occurred had the merger with MainStreet occurred in 2014.  In particular, expected operational cost savings are not reflected in the pro forma amounts (dollars in thousands).
 
Pro forma
Six Months Ended
 
June 30, 2015
 
June 30, 2014
Net interest income
$
25,268

 
$
24,791

Provision for loan loss
(700
)
 
(150
)
Non-interest income
6,414

 
5,851

Non-interest expense and income taxes
(24,477
)
 
(22,777
)
Net income
$
6,505

 
$
7,715


 
Pro forma
Three Months Ended
 
June 30, 2015
 
June 30, 2014
Net interest income
$
12,698

 
$
12,370

Provision for loan loss
(100
)
 
(150
)
Non-interest income
3,258

 
2,937

Non-interest expense and income taxes
(12,950
)
 
(11,338
)
Net income
$
2,906

 
$
3,819


12


Note 3 – Securities 
The amortized cost and fair value of investments in debt and equity securities at June 30, 2015 and December 31, 2014 were as follows (dollars in thousands):
 
June 30, 2015
 
Amortized
Cost
 
Unrealized
Gains
 
Unrealized
Losses
 
 
Fair Value
Securities available for sale:
 
 
 
 
 
 
 
Federal agencies and GSEs
$
96,520

 
$
295

 
$
449

 
$
96,366

Mortgage-backed and CMOs
59,462

 
1,114

 
175

 
60,401

State and municipal
182,771

 
6,074

 
176

 
188,669

Corporate
8,790

 
37

 
38

 
8,789

Equity securities
1,000

 
370

 

 
1,370

Total securities available for sale
$
348,543

 
$
7,890

 
$
838

 
$
355,595

 
December 31, 2014
 
Amortized
Cost
 
Unrealized
Gains
 
Unrealized
Losses
 
 
Fair Value
Securities available for sale:
 
 
 
 
 
 
 
Federal agencies and GSEs
$
81,958

 
$
252

 
$
104

 
$
82,106

Mortgage-backed and CMOs
56,289

 
1,248

 
112

 
57,425

State and municipal
188,060

 
7,523

 
90

 
195,493

Corporate
8,416

 
16

 
53

 
8,379

Equity securities
1,000

 
313

 

 
1,313

Total securities available for sale
$
335,723

 
$
9,352

 
$
359

 
$
344,716

Restricted Stock
Due to restrictions placed upon the Bank's common stock investment in the Federal Reserve Bank of Richmond ("FRB") and Federal Home Loan Bank of Atlanta ("FHLB"), these securities have been classified as restricted equity securities and carried at cost.  The restricted securities are not subject to the investment security classification and are included as a separate line item on the Company's balance sheet.  The FRB requires the Bank to maintain stock with a par value equal to 6.0% of its common stock and paid-in surplus.  One-half of this amount is paid to the FRB and the remaining half is subject to call when deemed necessary by the Board of Governors of the Federal Reserve System.  The FHLB requires the Bank to maintain stock in an amount equal to a specific percentage of the Bank's total assets and 4.5% of outstanding borrowings. The cost of restricted stock at June 30, 2015 and December 31, 2014 were as follows (dollars in thousands):
 
June 30,
2015
 
December 31,
2014
FRB stock
$
3,527

 
$
2,742

FHLB stock
1,802

 
1,625

Total restricted stock
$
5,329

 
$
4,367

Temporarily Impaired Securities
The following table shows fair value and gross unrealized losses, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, at June 30, 2015.  The reference point for determining when securities are in an unrealized loss position is month-end.  Therefore, it is possible that a security's market value exceeded its amortized cost on other days during the past twelve-month period (dollars in thousands).

13


 
Total
 
Less than 12 Months
 
12 Months or More
 
Fair
Value
 
Unrealized
Loss
 
Fair
Value
 
Unrealized
Loss
 
Fair
Value
 
Unrealized
Loss
Federal agencies and GSEs
$
39,979

 
$
449

 
$
37,881

 
$
447

 
$
2,098

 
$
2

Mortgage-backed and CMOs
14,115

 
175

 
11,646

 
133

 
2,469

 
42

State and municipal
24,998

 
176

 
24,998

 
176

 

 

Corporate
2,735

 
38

 
1,143

 
10

 
1,592

 
28

Total
$
81,827

 
$
838

 
$
75,668

 
$
766

 
$
6,159

 
$
72

Federal Agencies and GSE debt securities: The unrealized losses on the Company's investment in 15 government sponsored entities ("GSE") were caused by interest rate increases. The contractual terms of those investments do not permit the issuer to settle the securities at a price less than the amortized cost basis of the investments. Because the Company does not intend to sell the investments and it is not more likely than not that the Company will be required to sell the investments before recovery of their amortized cost basis, which may be maturity, the Company does not consider those investments to be other-than-temporarily impaired at June 30, 2015.
Mortgage-backed securities and CMOs: The unrealized losses on the Company's investment in 23 GSE mortgage-backed securities and collateralized mortgage obligations ("CMOs") were caused by interest rate increases. The contractual cash flows of those investments are guaranteed by an agency of the U.S. Government. Accordingly, it is expected that the securities would not be settled at a price less than the amortized cost basis of the Company's investments. Because the decline in market value is attributable to changes in interest rates and not credit quality, and because the Company does not intend to sell the investments and it is not more likely than not that the Company will be required to sell the investments before recovery of their amortized cost basis, which may be maturity, the Company does not consider those investments to be other-than-temporarily impaired at June 30, 2015.
State and municipal securities:  The unrealized losses on 32 state and municipal securities were caused by interest rate increases. The contractual terms of those investments do not permit the issuer to settle the securities at a price less than the amortized cost basis of the investments. Because the Company does not intend to sell the investments and it is not more likely than not that the Company will be required to sell the investments before recovery of their amortized cost basis, which may be maturity, the Company does not consider those investments to be other-than-temporarily impaired at June 30, 2015.
Corporate securities:  The unrealized losses on three investments in corporate securities were caused by interest rate increases. The contractual terms of those investments do not permit the issuer to settle the securities at a price less than the amortized cost basis of the investments. Because the Company does not intend to sell the investments and it is not more likely than not that the Company will be required to sell the investments before recovery of their amortized cost basis, which may be maturity, the Company does not consider those investments to be other-than-temporarily impaired at June 30, 2015.
Restricted stock: When evaluating restricted stock for impairment, its value is based on the ultimate recoverability of the par value rather than by recognizing temporary declines in value. The company does not consider restricted stock to be other-than-temporarily impaired at June 30, 2015, and no impairment has been recognized.
The table below shows gross unrealized losses and fair value, aggregated by investment category and length of time that individual securities had been in a continuous unrealized loss position, at December 31, 2014 (dollars in thousands):
 
Total
 
Less than 12 Months
 
12 Months or More
 
Fair
Value
 
Unrealized
Loss
 
Fair
Value
 
Unrealized
Loss
 
Fair
Value
 
Unrealized
Loss
Federal agencies and GSEs
$
28,979

 
$
104

 
$
21,449

 
$
35

 
$
7,530

 
$
69

Mortgage-backed and CMOs
7,182

 
112

 
1,171

 
13

 
6,011

 
99

State and municipal
20,542

 
90

 
15,836

 
60

 
4,706

 
30

Corporate
5,032

 
53

 
2,273

 
4

 
2,759

 
49

Total
$
61,735

 
$
359

 
$
40,729

 
$
112

 
$
21,006

 
$
247

Other-Than-Temporary-Impaired Securities 
As of June 30, 2015 and December 31, 2014, there were no securities classified as having other-than-temporary impairment.

14


Note 4 – Loans
Segments
Loans, excluding loans held for sale, as of June 30, 2015 and December 31, 2014, were comprised of the following (dollars in thousands):
 
June 30,
2015
 
December 31, 2014
Commercial
$
159,015

 
$
126,981

Commercial real estate:
 

 
 

Construction and land development
66,543

 
50,863

Commercial real estate
432,315

 
391,472

Residential real estate:
 

 
 

Residential
220,778

 
175,293

Home equity
97,866

 
91,075

Consumer
6,388

 
5,241

Total loans
$
982,905

 
$
840,925

Acquired Loans 
Interest income, including accretion income of $1,872,000, on loans acquired from MidCarolina Financial Corporation ("MidCarolina") and MainStreet for the six months ended June 30, 2015 was approximately $8,122,000. The outstanding principal balance and the carrying amount of these loans included in the consolidated balance sheets at June 30, 2015 and December 31, 2014 are as follows (dollars in thousands): 
 
June 30,
2015
 
December 31, 2014
Outstanding principal balance
$
173,907

 
$
84,892

Carrying amount
161,904

 
78,111

The outstanding principal balance and related carrying amount of acquired impaired loans, for which the Company applies FASB ASC 310-30, to account for interest earned, at June 30, 2015 and December 31, 2014 are as follows (dollars in thousands):
 
June 30,
2015
 
December 31, 2014
Outstanding principal balance
$
26,840

 
$
18,357

Carrying amount
20,751

 
14,933

The following table presents changes in the accretable yield on acquired impaired loans, for which the Company applies FASB ASC 310-30, for the six months ended June 30, 2015 (dollars in thousands):
 
Accretable Yield
Balance at December 31, 2014
$
1,440

Additions from merger with MainStreet
1,208

Accretion
(428
)
Reclassification from nonaccretable difference
3,237

Balance at June 30, 2015
$
5,457


15


Past Due Loans
The following table shows an analysis by portfolio segment of the Company's past due loans at June 30, 2015 (dollars in thousands):
 
30- 59 Days
Past Due
 
60-89 Days
Past Due
 
90 Days +
Past Due
and Still
Accruing
 
Non-
Accrual
Loans
 
Total
Past
Due
 
Current
 
Total
Loans
Commercial
$
68

 
$

 
$

 
$
254

 
$
322

 
$
158,693

 
$
159,015

Commercial real estate:
 

 
 

 
 

 
 

 
 

 
 

 
 

Construction and land development

 

 

 
276

 
276

 
66,267

 
66,543

Commercial real estate
593

 
355

 

 
1,937

 
2,885

 
429,430

 
432,315

Residential:
 

 
 

 
 

 
 

 
 

 
 

 
 

Residential
454

 
551

 

 
582

 
1,587

 
219,191

 
220,778

Home equity
11

 
198

 

 
711

 
920

 
96,946

 
97,866

Consumer
38

 
1

 

 
12

 
51

 
6,337

 
6,388

Total
$
1,164

 
$
1,105

 
$

 
$
3,772

 
$
6,041

 
$
976,864

 
$
982,905


The following table shows an analysis by portfolio segment of the Company's past due loans at December 31, 2014 (dollars in thousands):
 
30- 59 Days
Past Due
 
60-89 Days
Past Due
 
90 Days +
Past Due
and Still
Accruing
 
Non-
Accrual
Loans
 
Total
Past
Due
 
Current
 
Total
Loans
Commercial
$
114

 
$
165

 
$

 
$

 
$
279

 
$
126,702

 
$
126,981

Commercial real estate:
 

 
 

 
 

 
 

 
 

 
 

 
 

Construction and land development
44

 
269

 

 
279

 
592

 
50,271

 
50,863

Commercial real estate
257

 

 

 
3,010

 
3,267

 
388,205

 
391,472

Residential:
 

 
 

 
 

 
 

 
 

 
 

 
 

Residential
390

 
325

 

 
560

 
1,275

 
174,018

 
175,293

Home equity
223

 
60

 

 
262

 
545

 
90,530

 
91,075

Consumer
1

 
42

 

 
1

 
44

 
5,197

 
5,241

Total
$
1,029

 
$
861

 
$

 
$
4,112

 
$
6,002

 
$
834,923

 
$
840,925


16


Impaired Loans
The following table presents the Company's impaired loan balances by portfolio segment, excluding loans acquired with deteriorated credit quality, at June 30, 2015 (dollars in thousands):
 
Recorded
Investment
 
Unpaid
Principal
Balance
 
Related
Allowance
 
Average
Recorded
Investment
 
Interest
Income
Recognized
With no related allowance recorded:
 
 
 
 
 
 
 
 
 
Commercial
$
259

 
$
261

 
$

 
$
197

 
$
5

Commercial real estate:
 

 
 

 
 

 
 

 
 

Construction and land development
260

 
313

 

 
448

 

Commercial real estate
254

 
522

 

 
1,146

 

Residential:
 

 
 

 
 

 
 

 
 

Residential
353

 
353

 

 
413

 

Home equity
661

 
661

 

 
637

 

Consumer
1

 
1

 

 
29

 

 
$
1,788

 
$
2,111

 
$

 
$
2,870

 
$
5

With a related allowance recorded:
 

 
 

 
 

 
 

 
 

Commercial

 

 

 

 

Commercial real estate:
 

 
 

 
 

 
 

 
 

Construction and land development
415

 
415

 
1

 
519

 
15

Commercial real estate
929

 
973

 
8

 
871

 
12

Residential
 

 
 

 
 

 
 

 
 

Residential
509

 
511

 
23

 
429

 
6

Home equity

 

 

 

 

Consumer
14

 
14

 

 
15

 

 
$
1,867

 
$
1,913

 
$
32

 
$
1,834

 
$
33

Total:
 

 
 

 
 

 
 

 
 

Commercial
$
259

 
$
261

 
$

 
$
197

 
$
5

Commercial real estate:
 

 
 

 
 

 
 

 
 

Construction and land development
675

 
728

 
1

 
967

 
15

Commercial real estate
1,183

 
1,495

 
8

 
2,017

 
12

Residential:
 

 
 

 
 

 
 

 
 

Residential
862

 
864

 
23

 
842

 
6

Home equity
661

 
661

 

 
637

 

Consumer
15

 
15

 

 
44

 

 
$
3,655

 
$
4,024

 
$
32

 
$
4,704

 
$
38



17


The following table presents the Company's impaired loan balances by portfolio segment, excluding loans acquired with deteriorated credit quality, at December 31, 2014 (dollars in thousands):
 
Recorded
Investment
 
Unpaid
Principal
Balance
 
Related
Allowance
 
Average
Recorded
Investment
 
Interest
Income
Recognized
With no related allowance recorded:
 
 
 
 
 
 
 
 
 
Commercial
$
7

 
$
7

 
$

 
$
12

 
$
1

Commercial real estate:
 

 
 

 
 

 
 

 
 

Construction and land development
280

 
325

 

 
448

 

Commercial real estate
1,520

 
1,797

 

 
1,844

 

Residential:
 

 
 

 
 

 
 

 
 

Residential
603

 
603

 

 
723

 
8

Home equity
256

 
256

 

 
316

 

Consumer
1

 
1

 

 
2

 

 
$
2,667

 
$
2,989

 
$

 
$
3,345

 
$
9

With a related allowance recorded:
 

 
 

 
 

 
 

 
 

Commercial
$

 
$

 
$

 
$

 
$

Commercial real estate:
 

 
 

 
 

 
 

 
 

Construction and land development
576

 
577

 
12

 
593

 
34

Commercial real estate
1,275

 
1,422

 
149

 
1,297

 
8

Residential:
 

 
 

 
 

 
 

 
 

Residential
4

 
4

 
1

 
4

 

Home equity

 

 

 

 

Consumer
15

 
15

 
3

 
17

 
1

 
$
1,870

 
$
2,018

 
$
165

 
$
1,911

 
$
43

Total:
 

 
 

 
 

 
 

 
 

Commercial
$
7

 
$
7

 
$

 
$
12

 
$
1

Commercial real estate:
 

 
 

 
 

 
 

 
 

Construction and land development
856

 
902

 
12

 
1,041

 
34

Commercial real estate
2,795

 
3,219

 
149

 
3,141

 
8

Residential:
 

 
 

 
 

 
 

 
 

Residential
607

 
607

 
1

 
727

 
8

Home equity
256

 
256

 

 
316

 

Consumer
16

 
16

 
3

 
19

 
1

 
$
4,537

 
$
5,007

 
$
165
<