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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

Commission file number: 000-33063

 

Sierra Bancorp

(Exact name of Registrant as specified in its charter)

 

California 33-0937517
(State of Incorporation) (IRS Employer Identification No)

 

86 North Main Street, Porterville, California 93257

(Address of principal executive offices)            (Zip Code)

 

(559) 782-4900

(Registrant’s telephone number, including area code)

 

Not Applicable

(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 þ                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 during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

Yes þ                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.

Large accelerated filer ¨ Accelerated filer þ
Non-accelerated filer ¨ (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 þ

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

 

Common stock, no par value, 13,407,412 shares outstanding as of July 31, 2015

 

 
 

 

FORM 10-Q

 

Table of Contents

 

  Page
Part I - Financial Information 1
Item 1. Financial Statements (Unaudited) 1
Consolidated Balance Sheets 1
Consolidated Statements of Income 2
Consolidated Statements of Comprehensive Income 3
Consolidated Statements of Cash Flows 4
Notes to Unaudited Consolidated Financial Statements 5
   
Item 2. Management’s Discussion & Analysis of Financial Condition & Results of Operations 34
Forward-Looking Statements 34
Critical Accounting Policies 34
Overview of the Results of Operations and Financial Condition 35
Earnings Performance 36
Net Interest Income and Net Interest Margin 36
Provision for Loan and Lease Losses 40
Non-interest Income and Non-Interest Expense 42
Provision for Income Taxes 44
Balance Sheet Analysis 45
Earning Assets 45
Investments 45
Loan and Lease Portfolio 46
Nonperforming Assets 48
Allowance for Loan and Lease Losses 49
Off-Balance Sheet Arrangements 51
Other Assets 51
Deposits and Interest-Bearing Liabilities 52
Deposits 52
Other Interest-Bearing Liabilities 53
Non-Interest Bearing Liabilities 53
Liquidity and Market Risk Management 53
Capital Resources 56
   
Item 3. Qualitative & Quantitative Disclosures about Market Risk 57
   
Item 4. Controls and Procedures 57
   
Part II - Other Information 58
Item 1. - Legal Proceedings 58
Item 1A. - Risk Factors 58
Item 2. - Unregistered Sales of Equity Securities and Use of Proceeds 58
Item 3. - Defaults upon Senior Securities 58
Item 4. - (Removed and Reserved) 58
Item 5. - Other Information 58
Item 6. - Exhibits 59
   
Signatures 60

 

 
 

 

PART I - FINANCIAL INFORMATION

Item 1 – Financial Statements

 

SIERRA BANCORP

CONSOLIDATED BALANCE SHEETS

(dollars in thousands)

 

   June 30, 2015   December 31, 2014 
   (unaudited)   (audited) 
ASSETS          
Cash and due from banks  $45,398   $48,405 
Interest-bearing deposits in banks   1,292    1,690 
Total cash & cash equivalents   46,690    50,095 
Securities available for sale   506,919    511,883 
Loans and leases:          
Gross loans and leases   1,073,337    970,653 
Allowance for loan and lease losses   (10,549)   (11,248)
Deferred loan and lease fees, net   1,898    1,651 
Net loans and leases   1,064,686    961,056 
Premises and equipment, net   22,296    21,853 
Foreclosed assets   3,393    3,991 
Company owned life insurance   43,720    42,989 
Goodwill   6,908    6,908 
Other intangible assets, net   997    1,064 
Other assets   38,502    37,481 
   $1,734,111   $1,637,320 
           
LIABILITIES AND SHAREHOLDERS' EQUITY          
Deposits:          
Non-interest bearing  $431,348   $390,897 
Interest bearing   1,040,242    975,798 
Total deposits   1,471,590    1,366,695 
Federal funds purchased and repurchase agreements   11,272    7,251 
Short-term borrowings   11,700    18,200 
Long-term borrowings   2,000    6,000 
Junior subordinated debentures   30,928    30,928 
Other liabilities   20,515    21,155 
Total Liabilities   1,548,005    1,450,229 
           
Commitments and contingent liabilities (Note 8)          
           
Shareholders' equity          
Common stock, no par value; 24,000,000 shares  authorized; 13,404,812 and 13,689,181 shares issued  and outstanding at June 30, 2015 and   December 31, 2014, respectively   63,033    64,153 
Additional paid in capital   2,663    2,605 
Retained earnings   117,809    116,026 
Accumulated other comprehensive income   2,601    4,307 
Total shareholders' equity   186,106    187,091 
   $1,734,111   $1,637,320 

 

The accompanying notes are an integral part of these consolidated financial statements

 

1
 

 

SIERRA BANCORP

CONSOLIDATED STATEMENTS OF INCOME

(dollars in thousands, except per share data, unaudited)

 

   Three months ended June 30,   Six months ended June 30, 
   2015   2014   2015   2014 
Interest and dividend income                    
Loans and leases, including fees  $12,880   $11,057   $25,200   $21,408 
Taxable securities   2,003    1,876    4,251    3,701 
Tax-exempt securities   732    733    1,457    1,474 
Dividend income on securities   48    -    93    - 
Federal funds sold and other   6    16    18    51 
Total interest income   15,669    13,682    31,019    26,634 
Interest expense                    
Deposits   449    553    893    1,111 
Short-term borrowings   21    4    31    9 
Long-term borrowings   3    -    7    - 
Subordinated debentures   178    175    352    349 
Total interest expense   651    732    1,283    1,469 
Net Interest Income   15,018    12,950    29,736    25,165 
Provision for loan losses   -    200    -    350 
Net interest income after provision for loan losses   15,018    12,750    29,736    24,815 
Non-interest income                    
Service charges on deposits   2,278    2,039    4,269    3,925 
Net gains on sale of securities available-for-sale   307    183    323    287 
Other income   2,069    1,796    4,069    3,513 
Total non-interest income   4,654    4,018    8,661    7,725 
Other operating expense                    
Salaries and employee benefits   6,125    5,328    13,020    11,313 
Occupancy and equipment   1,666    1,532    3,326    3,037 
Other   4,960    4,148    9,865    7,386 
Total other operating expense   12,751    11,008    26,211    21,736 
Income before taxes   6,921    5,760    12,186    10,804 
Provision for income taxes   2,364    1,523    3,891    2,768 
Net income  $4,557   $4,237   $8,295   $8,036 
                     
PER SHARE DATA                    
Book value  $13.88   $13.34   $13.88   $13.34 
Cash dividends  $0.10   $0.08   $0.20   $0.16 
Earnings per share basic  $0.34   $0.30   $0.61   $0.57 
Earnings per share diluted  $0.33   $0.30   $0.60   $0.56 
Average shares outstanding, basic   13,560,091    14,086,939    13,619,050    14,157,103 
Average shares outstanding, diluted   13,686,206    14,212,532    13,745,467    14,291,359 
                     
Total shareholder equity (in thousands)  $186,106   $186,922   $186,106   $186,922 
Shares outstanding   13,404,812    14,009,139    13,404,812    14,009,139 
Dividends Paid  $1,361,581   $1,137,910   $2,730,579   $2,267,656 

 

The accompanying notes are an integral part of these consolidated financial statements

 

2
 

 

 

SIERRA BANCORP

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(dollars in thousands, unaudited)

 

   Three months ended June 30,   Six months ended June 30, 
   2015   2014   2015   2014 
                 
Net Income  $4,557   $4,237   $8,295   $8,036 
Other comprehensive income, before tax:                    
Unrealized gains on securities:                    
Unrealized holding (losses) gains arising during period   (2,805)   3,927    (2,509)   5,493 
Less: reclassification adjustment for gains (1) included in net income   (307)   (183)   (323)   (287)
Other comprehensive (loss) income, before tax   (3,112)   3,744    (2,832)   5,206 
Income tax expense (benefit) related to items of other comprehensive income (loss), net of tax   1,309    (1,540)   1,126    (2,142)
Other comprehensive income (loss) gain   (1,803)   2,204    (1,706)   3,064 
                     
Comprehensive Income  $2,754   $6,441   $6,589   $11,100 

 

(1) Amounts are included in net gains on investment securities available-for-sale on the Consolidated Statements of Income in non-interestrevenue. Income tax expense associated with the reclassification adjustment for the three months ended June 30, 2015 and 2014 was $129 thousand and $75 thousand respectively. Income tax expense associated with the reclassification adjustment for the six months ended June 30, 2015 and 2014 was $136 thousand and $118 thousand respectively.

 

The accompanying notes are an integral part of these consolidated financial statements

 

3
 

 

SIERRA BANCORP

CONSOLIDATED STATEMENTS OF CASH FLOWS

(dollars in thousands, unaudited)

 

   Six months ended June 30, 
   2015   2014 
Cash flows from operating activities:          
Net income  $8,295   $8,036 
Adjustments to reconcile net income to net cash  provided by operating activities:          
Gain on sales of securities   (323)   (287)
Gain on sales of loans   -    (3)
Loss on disposal of fixed assets   55    - 
Gain on sale on foreclosed assets   (78)   (469)
Writedowns on foreclosed assets   173    223 
Share-based compensation expense   18    33 
Provision for loan losses   -    350 
Depreciation   1,119    1,038 
Net accretion on purchased loans   (526)   - 
Net amortization on securities premiums and discounts   3,384    3,285 
Decrease (increase) in unearned net loan fees   247    (129)
Increase in cash surrender value of life insurance policies   (731)   (806)
Proceeds from sale of loans   -    108 
Decrease in interest receivable and other assets   246    2,071 
(Decrease) increase in other liabilites   (640)   2,724 
Deferred income tax provision   470    833 
Excess tax benefit from equity based compensation   40    - 
Net cash provided by operating activities   11,749    17,007 
           
Cash flows from investing activities:          
Maturities of securities available for sale   290    450 
Proceeds from sales/calls of securities available for sale   22,538    9,210 
Purchases of securities available for sale   (67,813)   (78,426)
Principal pay downs on securities available for sale   44,056    36,274 
Purchases of FHLB stock   (504)   (190)
Net increase in loans receivable, net   (103,829)   (90,117)
Purchases of premises and equipment, net   (1,672)   (1,439)
Proceeds from sale premises and equipment   55    - 
Proceeds from sales of foreclosed assets   981    4,116 
Net cash used in investing activities   (105,898)   (120,122)
           
Cash flows from financing activities:          
Increase in deposits   104,895    71,948 
(Decrease) increase in borrowed funds   (10,500)   7,750 
Increase in repurchase agreements   4,021    120 
Cash dividends paid   (2,730)   (2,268)
Repurchases of common stock   (5,251)   (4,281)
Stock options exercised   349    664 
Excess tax benefit from equity based compensation   (40)   - 
Net cash provided by financing activities   90,744    73,933 
           
Decrease in cash and due from banks   (3,405)   (29,182)
           
Cash and cash equivalents          
Beginning of period   50,095    78,006 
End of period  $46,690   $48,824 

 

The accompanying notes are an integral part of these consolidated financial statements

 

4
 

 

Sierra Bancorp

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

June 30, 2015

 

Note 1 – The Business of Sierra Bancorp

 

Sierra Bancorp (the “Company”) is a California corporation headquartered in Porterville, California, and is a registered bank holding company under federal banking laws. The Company was formed to serve as the holding company for Bank of the Sierra (the “Bank”), and has been the Bank’s sole shareholder since August 2001. The Company exists primarily for the purpose of holding the stock of the Bank and of such other subsidiaries it may acquire or establish. At the present time, the Company’s only other subsidiaries are Sierra Statutory Trust II and Sierra Capital Trust III, which were formed in March 2004 and June 2006, respectively, solely to facilitate the issuance of capital trust pass-through securities (“TRUPS”). Pursuant to the Financial Accounting Standards Board (“FASB”) standard on the consolidation of variable interest entities, these trusts are not reflected on a consolidated basis in the Company’s financial statements. References herein to the “Company” include Sierra Bancorp and its consolidated subsidiary, the Bank, unless the context indicates otherwise.

 

The Bank is a California state-chartered bank headquartered in Porterville, California. We offer a full range of retail and commercial banking services primarily in Tulare, Kern, Fresno, and Kings Counties in Central California, and in select markets in Southern California including Ventura County, the Santa Clarita Valley, and the San Fernando Valley. Bank of the Sierra was incorporated in September 1977, and opened for business in January 1978 as a one-branch bank with $1.5 million in capital and eleven employees. Our growth in the ensuing years has primarily been organic, but includes two acquisitions: Sierra National Bank in the year 2000, and Santa Clara Valley Bank (“SCVB”) in 2014 (see Note 13 to the financial statements, Recent Developments, for details on the SCVB acquisition). We are now the largest bank headquartered in the South San Joaquin Valley, with more than 400 employees, 28 full-service branches and a loan production office, and over $1.7 billion in assets at June 30, 2015. We have received regulatory approval for another branch in Bakersfield, California, which is expected to commence operations in the first quarter of 2016. In addition to our stand-alone offices the Bank has specialized lending units which include a real estate industries center, an agricultural credit center, and an SBA lending unit, and we operate offsite ATMs at six different non-branch locations. The Bank’s deposit accounts are insured by the Federal Deposit Insurance Corporation (FDIC) up to maximum insurable amounts.

 

Note 2 – Basis of Presentation

 

The accompanying unaudited consolidated financial statements have been prepared in a condensed format, and therefore do not include all of the information and footnotes required by U.S. generally accepted accounting principles (“GAAP”) for complete financial statements. The information furnished in these interim statements reflects all adjustments that are, in the opinion of Management, necessary for a fair statement of the results for such period. Such adjustments can generally be considered as normal and recurring unless otherwise disclosed in this Form 10-Q. In preparing the accompanying financial statements, Management has taken subsequent events into consideration and recognized them where appropriate. The results of operations in the interim statements are not necessarily indicative of the results that may be expected for any other quarter, or for the full year. Certain amounts reported for 2014 have been reclassified to be consistent with the reporting for 2015. The interim financial information should be read in conjunction with the Company’s Annual Report on Form 10-K for the year ended December 31, 2014, as filed with the Securities and Exchange Commission.

 

Note 3 – Current Accounting Developments

 

In January 2014, the FASB issued Accounting Standards Update (“ASU”) 2014-01, Investments—Equity Method and Joint Ventures (Topic 323): Accounting for Investments in Qualified Affordable Housing Projects, to provide additional flexibility with regard to accounting for investments in qualified affordable housing projects. ASU 2014-01 modifies the conditions that must be met to present the pretax impact and related tax benefits of such investments as a component of income taxes (“net” within income tax expense), to enable more investors to elect to use a net presentation for those investments. Investors that do not qualify for net presentation under the new guidance will continue to account for such investments under the equity method or cost method, which results in losses recognized in pretax income and tax benefits recognized in income taxes (“gross” presentation of investment results). For investments that qualify for the net presentation of investment performance, ASU 2014-01 introduces a “proportional amortization method” that can be elected to amortize the investment basis. If elected, the method is required for all eligible investments in qualified affordable housing projects. ASU 2014-01 also requires enhanced recurring disclosures for all investments in qualified affordable housing projects, regardless of the accounting method used for those investments. It is effective for interim and annual periods beginning after December 15, 2014. The Company adopted the enhanced disclosure requirements of ASU 2014-01 as of the first quarter of 2015, as reflected in Note 10 to the consolidated financial statements, but we continue to account for our low-income housing tax credit investments using the equity method so there has been no impact on our income statement or balance sheet.

 

5
 

 

In January 2014, the FASB issued ASU 2014-04, Receivables—Troubled Debt Restructurings by Creditors (Subtopic 310-40): Reclassification of Residential Real Estate Collateralized Consumer Mortgage Loans upon Foreclosure, to resolve diversity in practice with respect to a creditor’s reclassification of a collateralized consumer mortgage loan to other real estate owned (OREO). Current US GAAP requires a loan to be reclassified to OREO upon a troubled debt restructuring that is “in substance a repossession or foreclosure”, where the creditor receives “physical possession” of the debtor's assets regardless of whether formal foreclosure proceedings take place. The terms “in substance a repossession or foreclosure” and “physical possession” are not defined in US GAAP; therefore, questions have arisen about when a creditor should reclassify a collateralized mortgage loan to OREO. ASU 2014-04 requires a creditor to reclassify a collateralized consumer mortgage loan to real estate property upon obtaining legal title to the real estate collateral, or when the borrower voluntarily conveys all interest in the real estate property to the lender to satisfy the loan through a deed in lieu of foreclosure or similar legal agreement. ASU 2014-04 is effective for public business entities for interim and annual periods beginning after December 15, 2014. It was adopted by the Company for the first quarter of 2015, without any impact on our financial statements or operations.

 

In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers (Topic 606). This ASU is the result of a joint project initiated by the FASB and the International Accounting Standards Board (IASB) to clarify the principles for recognizing revenue, and to develop a common revenue standard and disclosures for U.S. and international accounting standards that would: (1) remove inconsistencies and weaknesses in revenue requirements; (2) provide a more robust framework for addressing revenue issues; (3) improve comparability of revenue recognition practices across entities, industries, jurisdictions, and capital markets; (4) provide more useful information to users of financial statements through improved disclosure requirements; and (5) simplify the preparation of financial statements by reducing the number of requirements to which an entity must refer. The guidance 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. The core principle 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 with regard to contracts with customers, significant judgments and changes in judgments, and assets recognized from the costs to obtain or fulfill a contract. This ASU was originally scheduled to become effective for reporting periods beginning after December 15, 2016. However, subsequent guidance from the FASB issued in July 2015 delayed the effective date by a year, to annual reporting periods beginning after December 15, 2017, including interim periods therein, with early adoption permitted for reporting periods beginning after December 15, 2016. The Company does not expect to adopt this guidance early and is currently evaluating the potential effects of the guidance on its financial statements and disclosures.

 

In June 2014, the FASB issued ASU 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 repurchase financings with the accounting for other more typical repurchase agreements, by requiring that all of these transactions be accounted for as secured borrowings. The 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, which has resulted in off-balance-sheet accounting. ASU 2014-11 requires 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. It also requires expanded disclosures about the nature of collateral pledged in repurchase agreements and similar transactions accounted for as secured borrowings. ASU 2014-11 is effective for annual periods, and interim periods within those annual periods, beginning after December 15, 2014. The Company has not entered into any repurchase transactions in recent periods, and any such transactions executed by the Company in the future will likely be typical in nature (i.e., not repurchase-to-maturity transactions or repurchase agreements executed as a repurchase financing) and will thus be accounted for as secured borrowings. As such, ASU 2014-11 did not have an impact on the Company’s consolidated financial statements upon adoption, and is not expected to have any impact in future periods.

 

6
 

 

In June 2014 the FASB issued ASU 2014-12, Compensation–Stock Compensation (Topic 718), which amended existing guidance related to the accounting for share-based payments when the terms of an award provide that a performance target can be achieved after the requisite service period. These amendments require that a performance target be treated as a “performance condition” if it affects vesting and can be achieved after the requisite service period. To account for such awards, a reporting entity should apply existing guidance in Topic 718 as it relates to awards with performance conditions that affect vesting. The total amount of compensation cost recognized during and after the requisite service period should reflect the number of awards that are expected to vest, and should be adjusted to reflect those awards that ultimately vest. The requisite period ends when the employee can cease rendering service and still be eligible to vest in the award if the performance target is achieved. ASU 2014-12 is effective for annual periods and interim periods within those annual periods beginning after December 15, 2015. It will be adopted by the Company for the first quarter of 2016, and we do not expect any impact upon our financial statements or operations upon adoption.

 

In August 2014 the FASB issued ASU 2014-14, Receivables–Troubled Debt Restructurings by Creditors (Subtopic 310-40), Classification of Certain Government-Guaranteed Mortgage Loans upon Foreclosure, which amended existing guidance related to the classification of certain government-guaranteed mortgage loans, including those guaranteed by the FHA and the VA, upon foreclosure. It requires that a mortgage loan be derecognized and a separate “other receivable” be recognized upon foreclosure if the following conditions are met: 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 the 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. Upon foreclosure, the separate other receivable should be measured based on the amount of the loan balance (principal and interest) expected to be recovered from the guarantor. ASU 2014-14 is effective for annual periods, and interim periods within those annual periods, beginning after December 15, 2014. It was adopted by the Company for the first quarter of 2015 with no impact on our financial statements or operations.

 

Note 4 – Supplemental Disclosure of Cash Flow Information

 

During the six months ended June 30, 2015 and 2014, cash paid for interest due on interest-bearing liabilities was $1.313 million and $1.516 million, respectively. There was $4.6 million in cash paid for income taxes during the six months ended June 30, 2015, and $160,000 in cash paid for income taxes for the six months ended June 30, 2014. Assets totaling $501,000 and $184,000 were acquired in settlement of loans for the six months ended June 30, 2015 and June 30, 2014, respectively. We received $981,000 in cash from the sale of foreclosed assets during the first six months of 2015 relative to $4.116 million during the first six months of 2014, which represents sales proceeds less loans (if any) extended to finance such sales.

 

Note 5 – Share Based Compensation

 

The 2007 Stock Incentive Plan (the “2007 Plan”) was adopted by the Company in 2007. Our 1998 Stock Option Plan (the “1998 Plan”) was concurrently terminated, although options to purchase 61,200 shares that were granted under the 1998 Plan were still outstanding as of June 30, 2015 and remain unaffected by that plan’s termination. The 2007 Plan provides for the issuance of both “incentive” and “nonqualified” stock options to officers and employees, and of “nonqualified” stock options to non-employee directors of the Company. The 2007 Plan also provides for the potential issuance of restricted stock awards to these same classes of eligible participants, on such terms and conditions as are established at the discretion of the Board of Directors or the Compensation Committee. The total number of shares of the Company’s authorized but unissued stock reserved for issuance pursuant to awards under the 2007 Plan was initially 1,500,000 shares, although the number remaining available for grant as of June 30, 2015 was 783,380. The dilutive impact of stock options outstanding is discussed below in Note 6, Earnings per Share. No restricted stock awards have been issued by the Company.

 

7
 

 

Pursuant to FASB’s standards on stock compensation, the value of each option granted is reflected in our income statement as employee compensation or directors’ expense by amortizing the value over the vesting period of such option or by expensing it as of the grant date for immediately vested options. The Company is utilizing the Black-Scholes model to value stock options, and the “multiple option” approach is used to allocate the resulting valuation to actual expense. Under the multiple option approach an employee’s options for each vesting period are separately valued and amortized, which appears to be the preferred method for option grants with graded vesting. A pre-tax charge of $11,000 was reflected in the Company’s income statement during the second quarter of 2015 and $21,000 was charged during the second quarter of 2014, as expense related to stock options. For the first half, the charges totaled $18,000 in 2015 and $33,000 in 2014.

 

Note 6 – Earnings per Share

 

The computation of earnings per share, as presented in the Consolidated Statements of Income, is based on the weighted average number of shares outstanding during each period. There were 13,560,091 weighted average shares outstanding during the second quarter of 2015, and 14,086,939 during the second quarter of 2014. There were 13,619,050 weighted average shares outstanding during the first six months of 2015, and 14,157,103 during the first six months of 2014.

 

Diluted earnings per share include the effect of the potential issuance of common shares, which for the Company is limited to shares that would be issued on the exercise of “in-the-money” stock options. The dilutive effect of options outstanding was calculated using the treasury stock method, excluding anti-dilutive shares and adjusting for unamortized expense and windfall tax benefits. For the second quarter and first six months of 2015 the dilutive effect of options outstanding calculated under the treasury stock method totaled 126,115 and 126,417, respectively, which were added to basic weighted average shares outstanding for purposes of calculating diluted earnings per share. Likewise, for the second quarter and first six months of 2014 shares totaling 126,023 and 134,831, respectively, were added to basic weighted average shares outstanding in order to calculate diluted earnings per share.

 

Note 7 – Comprehensive Income

 

As presented in the Consolidated Statements of Comprehensive Income, comprehensive income includes net income and other comprehensive income. The Company’s only source of other comprehensive income is unrealized gains and losses on available-for-sale investment securities. Gains or losses on investment securities that were realized and included in net income of the current period, which had previously been included in other comprehensive income as unrealized holding gains or losses in the period in which they arose, are considered to be reclassification adjustments that are excluded from other comprehensive income in the current period.

 

Note 8 – Financial Instruments with Off-Balance-Sheet Risk

 

The Company is a party to financial instruments with off-balance-sheet risk in the normal course of business. Those financial instruments currently consist of unused commitments to extend credit and standby letters of credit. They involve, to varying degrees, elements of risk in excess of the amount recognized in the balance sheet. The Company’s exposure to credit loss in the event of nonperformance by counterparties for commitments to extend credit and letters of credit is represented by the contractual amount of those instruments. The Company uses the same credit policies in making commitments and issuing letters of credit as it does for originating loans included on the balance sheet. The following financial instruments represent off-balance-sheet credit risk (dollars in thousands):

 

   June 30, 2015   December 31, 2014 
Commitments to extend credit  $337,785   $366,909 
Standby letters of credit  $17,220   $14,389 

 

Commitments to extend credit consist primarily of the unused or unfunded portions of the following: home equity lines of credit; commercial real estate construction loans, where disbursements are made over the course of construction; commercial revolving lines of credit; mortgage warehouse lines of credit; unsecured personal lines of credit; and formalized (disclosed) deposit account overdraft lines. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many commitments are expected to expire without being drawn upon, the unused portions of committed amounts do not necessarily represent future cash requirements. Standby letters of credit are generally unsecured and are issued by the Company to guarantee the performance of a customer to a third party, and the credit risk involved in issuing letters of credit is essentially the same as the risk involved in extending loans to customers.

 

8
 

 

The Company is also utilizing a letter of credit in the amount of $108 million issued by the Federal Home Loan Bank on the Company’s behalf as security for certain deposits. That letter of credit is backed by loans which are pledged to the FHLB by the Company.

 

Note 9 – Fair Value Disclosures and Reporting, the Fair Value Option and Fair Value Measurements

 

FASB’s standards on financial instruments, and on fair value measurements and disclosures, require all entities to disclose in their financial statement footnotes the estimated fair values of financial instruments for which it is practicable to estimate fair values. In addition to disclosure requirements, FASB’s standard on investments requires that our debt securities which are classified as available for sale and our equity securities that have readily determinable fair values be measured and reported at fair value in our statement of financial position. Certain impaired loans are also reported at fair value, as explained in greater detail below, and foreclosed assets are carried at the lower of cost or fair value. FASB’s standard on financial instruments permits companies to report certain other financial assets and liabilities at fair value, but we have not elected the fair value option for any of those financial instruments.

 

Fair value measurements and disclosure standards also establish a framework for measuring fair values. Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an 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. Further, the standards establish a fair value hierarchy that encourages an entity to maximize the use of observable inputs and limit the use of unobservable inputs when measuring fair values. The standards describe 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 observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities, quoted prices in markets that are not active, and other inputs that are observable or can be corroborated by observable market data.

 

·Level 3: Significant unobservable inputs that reflect a company’s own assumptions about the factors that market participants would likely consider in pricing an asset or liability.

 

Fair value estimates are made at a specific point in time based on relevant market data and information about the financial instruments. The estimates do not reflect any premium or discount that could result from offering the Company’s entire holdings of a particular financial instrument for sale at one time, nor do they attempt to estimate the value of anticipated future business related to the instruments. In addition, the tax ramifications related to realized gains and losses could have a significant effect on fair value estimates but have not been considered in any estimates. Because no active market exists for a significant portion of our financial instruments, fair value disclosures are based on judgments regarding current economic conditions, risk characteristics of various financial instruments and other factors. The estimates are subjective and involve uncertainties and matters of significant judgment, and therefore cannot be determined with precision. Changes in assumptions could significantly alter the fair values presented. The following methods and assumptions were used by the Company to estimate the fair value of its financial instruments disclosed at June 30, 2015 and December 31, 2014:

 

·Cash and cash equivalents and fed funds sold: The carrying amount is estimated to be fair value.

 

·Investment securities: Fair values are determined by obtaining quoted prices on nationally recognized securities exchanges or by matrix pricing, which is a mathematical technique used widely in the industry to value debt securities by relying on their relationship to other benchmark quoted securities when quoted prices for specific securities are not readily available.

 

·Loans and leases: For variable-rate loans and leases that re-price frequently with no significant change in credit risk or interest rate spread, fair values are based on carrying values. Fair values for other loans and leases are estimated by discounting projected cash flows at interest rates being offered at each reporting date for loans and leases with similar terms, to borrowers of comparable creditworthiness. The carrying amount of accrued interest receivable approximates its fair value.

 

·Loans held for sale: Since loans designated by the Company as available-for-sale are typically sold shortly after making the decision to sell them, realized gains or losses are usually recognized within the same period and fluctuations in fair values are not relevant for reporting purposes. If available-for-sale loans are on our books for an extended period of time, the fair value of those loans is determined using quoted secondary-market prices.

 

9
 

 

·Collateral-dependent impaired loans: Collateral-dependent impaired loans are carried at fair value when it is probable that the Company will be unable to collect all amounts due according to the contractual terms of the original loan agreement and the loan has been written down to the fair value of its underlying collateral, net of expected disposition costs where applicable.

 

·Cash surrender value of life insurance policies: Fair values are based on net cash surrender values at each reporting date.

 

·Investments in, and capital commitments to, limited partnerships: The fair values of our investments in WNC Institutional Tax Credit Fund Limited Partnerships and any other limited partnerships are estimated using quarterly indications of value provided by the general partner. The fair values of undisbursed capital commitments are assumed to be the same as their book values.

 

·Other investments: Certain investments for which no secondary market exists are carried at cost unless an impairment analysis indicates the need for adjustments, and the carrying amount for those investments approximates their estimated fair value.

 

·Deposits: Fair values for non-maturity deposits are equal to the amount payable on demand at the reporting date, which is the carrying amount. Fair values for fixed-rate certificates of deposit are estimated using a cash flow analysis, discounted at interest rates being offered at each reporting date by the Bank for certificates with similar remaining maturities. The carrying amount of accrued interest payable approximates its fair value.

 

·Short-term borrowings: The carrying amounts approximate fair values for federal funds purchased, overnight advances from the Federal Home Loan Bank (“FHLB”), borrowings under repurchase agreements, and other short-term borrowings maturing within ninety days of the reporting dates. Fair values of other short-term borrowings are estimated by discounting projected cash flows at the Company’s current incremental borrowing rates for similar types of borrowing arrangements.

 

·Long-term borrowings: Fair values are estimated using projected cash flows discounted at the Company’s current incremental borrowing rates for similar types of borrowing arrangements.

 

·Subordinated debentures: Fair values are determined based on the current market value for like instruments of a similar maturity and structure.

 

·Commitments to extend credit and letters of credit: If funded, the carrying amounts for currently unused commitments would approximate fair values for the newly created financial assets at the funding date. However, because of the high degree of uncertainty with regard to whether or not those commitments will ultimately be funded, fair values for loan commitments and letters of credit in their current undisbursed state cannot reasonably be estimated, and only notional values are disclosed in the table below.

 

10
 

 

Estimated fair values for the Company’s financial instruments are as follows, as of the dates noted:

 

Fair Value of Financial Instruments

 

(dollars in thousands, unaudited)  June 30, 2015 
       Estimated Fair Value 
   Carrying
Amount
   Quoted Prices in
Active Markets for
Identical Assets
(Level 1)
   Significant
Observable
Inputs
(Level 2)
   Significant
Unobservable
Inputs
(Level 3)
   Total 
Financial assets:                         
Cash and cash equivalents  $46,690   $46,690   $-   $-   $46,690 
Investment securities available for sale   506,919    1,489    505,430    -    506,919 
Loans and leases, net held for investment   1,054,738    -    1,070,772    -    1,070,772 
Collateral dependent impaired loans   9,948    -    9,948    -    9,948 
Cash surrender value of life insurance policies   43,720    -    43,720    -    43,720 
Other investments   7,546    -    7,546    -    7,546 
Investment in limited partnership   6,793    -    6,793    -    6,793 
Accrued interest receivable   5,638    -    5,638    -    5,638 
                          
Financial liabilities:                         
Deposits:                         
Noninterest-bearing  $431,348   $431,348   $-   $-   $431,348 
Interest-bearing   1,040,242    -    1,040,413    -    1,040,413 
Fed funds purchased and
 repurchase agreements
   11,272    -    11,272    -    11,272 
Short-term borrowings   11,700    -    11,700    -    11,700 
Long-term borrowings   2,000    -    2,007    -    2,007 
Subordinated debentures   30,928    -    11,753    -    11,753 
Limited partnership capital commitment   795    -    795    -    795 
Accrued interest payable   107    -    107    -    107 
                          
   Notional Amount 
Off-balance-sheet financial instruments:     
Commitments to extend credit  $337,785 
Standby letters of credit   17,220 

 

   December 31, 2014 
       Estimated Fair Value 
   Carrying
Amount
   Quoted Prices in
Active Markets for
Identical Assets
(Level 1)
   Significant
Observable
Inputs
(Level 2)
   Significant
Unobservable
Inputs
(Level 3)
   Total 
Financial assets:                         
Cash and cash equivalents  $50,095   $50,095   $-   $-   $50,095 
Investment securities available for sale   511,883    2,222    509,661    -    511,883 
Loans and leases, net held for investment   956,265    -    966,599    -    966,599 
Collateral dependent impaired loans   4,791    -    4,791    -    4,791 
Cash surrender value of life insurance policies   42,989    -    42,989    -    42,989 
Other Investments   7,042    -    7,042    -    7,042 
Investment in limited partnership   7,276    -    7,276    -    7,276 
Accrued interest receivable   5,852    -    5,852    -    5,852 
                          
Financial liabilities:                         
Deposits:                         
Noninterest-bearing  $390,897   $390,897   $-   $-   $390,897 
Interest-bearing   975,798    -    976,002    -    976,002 
Fed funds purchased and
 repurchase agreements
   7,251    -    7,251    -    7,251 
Short-term borrowings   18,200    -    18,200    -    18,200 
Long-term borrowings   6,000    -    6,000    -    6,000 
Subordinated debentures   30,928    -    11,428    -    11,428 
Limited partnership capital commitment   914    -    914    -    914 
Accrued interest payable   137    -    137    -    137 
                          
   Notional Amount 
Off-balance-sheet financial instruments:     
Commitments to extend credit  $366,909 
Standby letters of credit   14,389 

 

11
 

 

For financial asset categories that were actually reported at fair value as of June 30, 2015 and December 31, 2014, the Company used the following methods and significant assumptions:

 

·Investment securities: Fair values are determined by obtaining quoted prices on nationally recognized securities exchanges or by matrix pricing, which is a mathematical technique used widely in the industry to value debt securities by relying on their relationship to other benchmark quoted securities.

 

·Collateral-dependent impaired loans: Collateral-dependent impaired loans are carried at fair value when it is probable that the Company will be unable to collect all amounts due according to the contractual terms of the original loan agreement and the loan has been written down to the fair value of its underlying collateral, net of expected disposition costs where applicable.

 

·Foreclosed assets: Repossessed real estate (known as other real estate owned, or “OREO”) and other foreclosed assets are carried at the lower of cost or fair value. Fair value is the appraised value less expected selling costs for OREO and some other assets such as mobile homes, and for any other foreclosed assets fair value is represented by the estimated sales proceeds as determined using reasonably available sources. Foreclosed assets for which appraisals can be feasibly obtained are periodically measured for impairment using updated appraisals. Fair values for other foreclosed assets are adjusted as necessary, subsequent to a periodic re-evaluation of expected cash flows and the timing of resolution. If impairment is determined to exist, the book value of a foreclosed asset is immediately written down to its estimated impaired value through the income statement, thus the carrying amount is equal to the fair value and there is no valuation allowance.

 

12
 

 

Assets reported at fair value on a recurring basis are summarized below:

 

Fair Value Measurements - Recurring

(dollars in thousands, unaudited)

 

   Fair Value Measurements at June 30, 2015, using     
   Quoted Prices in   Significant   Significant         
   Active Markets for   Observable   Unobservable         
   Identical Assets   Inputs   Inputs       Realized 
   (Level 1)   (Level 2)   (Level 3)   Total   Gain/(Loss) 
Investment securities                         
US Government agencies  $-   $26,144   $-   $26,144   $- 
Mortgage-backed securities   -    380,231    -    380,231    - 
State and poltical subdivisions   -    99,055    -    99,055    - 
Other securities   1,489    -    -    1,489    - 
                          
Total available-for-sale securities  $1,489   $505,430   $-   $506,919   $- 

 

   Fair Value Measurements at December 31, 2014, using     
   Quoted Prices in   Significant   Significant         
   Active Markets for   Observable   Unobservable         
   Identical Assets   Inputs   Inputs       Realized 
   (Level 1)   (Level 2)   (Level 3)   Total   Gain/(Loss) 
Investment securities                         
US Government agencies  $-   $27,270   $-   $27,270   $- 
Mortgage-backed securities   -    381,442    -    381,442    - 
State and poltical subdivisions   -    100,949    -    100,949    - 
Other securities   2,222    -    -    2,222    - 
                          
Total available-for-sale securities  $2,222   $509,661   $-   $511,883   $- 

 

13
 

 

Assets reported at fair value on a nonrecurring basis are summarized below:

 

Fair Value Measurements - Nonrecurring

(dollars in thousands, unaudited) 

   Fair Value Measurements at June 30, 2015, using 
   Quoted Prices in Active
Markets for
Identical Assets (Level 1)
   Significant
Observable Inputs
(Level 2)
   Significant
Unobservable Inputs
(Level 3)
   Total 
Collateral dependent impaired loans  $-   $9,948   $-   $9,948 
Foreclosed assets  $-   $3,393   $-   $3,393 

 

   Fair Value Measurements at December 31, 2014, using 
   Quoted Prices in Active
Markets for
Identical Assets (Level 1)
   Significant
Observable Inputs
(Level 2)
   Significant
Unobservable Inputs
(Level 3)
   Total 
Collateral dependent impaired loans  $-   $4,791   $-   $4,791 
Foreclosed assets  $-   $3,991   $-   $3,991 

 

The table above includes collateral-dependent impaired loan balances for which a specific reserve has been established or on which a write-down has been taken. Information on the Company’s total impaired loan balances and specific loss reserves associated with those balances is included in Note 11 below, and in Management’s Discussion and Analysis of Financial Condition and Results of Operation in the “Nonperforming Assets” and “Allowance for Loan and Lease Losses” sections.

 

The unobservable inputs are based on Management’s best estimates of appropriate discounts in arriving at fair market value. Increases or decreases in any of those inputs could result in a significantly lower or higher fair value measurement. For example, an increase or decrease in actual loss rates would have a directionally opposite change in the calculation of the fair value of unsecured impaired loans.

 

Note 10 – Investments

 

Investment Securities

 

Although the Company currently has the intent and the ability to hold the securities in its investment portfolio to maturity, the securities are all marketable and are classified as “available for sale” to allow maximum flexibility with regard to interest rate risk and liquidity management. Pursuant to FASB’s guidance on accounting for debt and equity securities, available for sale securities are carried on the Company’s financial statements at their estimated fair market values, with monthly tax-effected “mark-to-market” adjustments made vis-à-vis accumulated other comprehensive income in shareholders’ equity.

 

14
 

  

Amortized Cost And Estimated Fair Value

 

The amortized cost and estimated fair value of investment securities available-for-sale are as follows

(dollars in thousands, unaudited):

 

   June 30, 2015 
   Amortized Cost   Gross
Unrealized
Gains
   Gross
Unrealized
Losses
   Estimated Fair
Value
 
                 
US Government agencies  $25,815   $350   $(21)  $26,144 
Mortgage-backed securities   378,713    3,541    (2,023)   380,231 
State and political subdivisions   97,154    2,420    (519)   99,055 
Other securities   749    740    -    1,489 
Total investment securities  $502,431   $7,051   $(2,563)  $506,919 

 

   December 31, 2014 
   Amortized Cost   Gross
Unrealized
Gains
   Gross
Unrealized
Losses
   Estimated Fair
Value
 
                 
US Government agencies  $26,959   $334   $(23)  $27,270 
Mortgage-backed securities   378,339    4,299    (1,196)   381,442 
State and political subdivisions   98,056    3,093    (200)   100,949 
Other securities   1,210    1,012    -    2,222 
Total investment securities  $504,564   $8,738   $(1,419)  $511,883 

 

At June 30, 2015 and December 31, 2014, the Company had 193 securities and 134 securities, respectively, with unrealized losses. Management has evaluated those securities as of the respective dates, and does not believe that any of the associated unrealized losses are other than temporary. Gross unrealized losses on our investment securities as of the indicated dates are disclosed in the table below, categorized by investment type and by the duration of time that loss positions on individual securities have continuously existed (over or under twelve months).

 

15
 

  

Investment Portfolio - Unrealized Losses                
(dollars in thousands, unaudited)  June 30, 2015 
   Less than twelve months   Twelve months or more 
   Gross
Unrealized
Losses
   Fair Value   Gross
Unrealized
Losses
   Fair Value 
                 
US Government agencies  $(21)  $2,032   $-   $- 
Mortgage-backed securities   (1,551)   140,272    (472)   38,258 
State and political subdivisions   (357)   23,370    (162)   5,041 
Total  $(1,929)  $165,674   $(634)  $43,299 

 

   December 31, 2014 
   Less than twelve months   Twelve months or more 
   Gross
Unrealized
Losses
   Fair Value   Gross
Unrealized
Losses
   Fair Value 
                 
US Government agencies  $(23)  $3,485   $-   $- 
Mortgage-backed securities   (564)   84,004    (632)   51,982 
State and political subdivisions   (31)   7,738    (169)   9,045 
Total  $(618)  $95,227   $(801)  $61,027 

 

The table below summarizes the Company’s gross realized gains and losses as well as gross proceeds from the sales of securities, for the periods indicated:

 

Investment Portfolio - Realized Gains/(Losses)                
(dollars in thousands, unaudited)                
                 
   Three months ended June 30,   Six months ended June 30, 
   2015   2014   2015   2014 
Proceeds from sales, calls and maturities of securities available for sale  $2,963   $4,995   $22,828   $9,660 
Gross gains on sales, calls and maturities of securities available for sale  $307   $185   $522   $289 
Gross losses on sales, calls and maturities of securities available for sale   -    (2)   (199)   (2)
Net gains on sale of securities available for sale  $307   $183   $323   $287 

 

The amortized cost and estimated fair value of investment securities available-for-sale at June 30, 2015 and December 31, 2014 are shown below, grouped by the remaining time to contractual maturity dates. The expected life of investment securities may not be consistent with contractual maturity dates, since the issuers of the securities could have the right to call or prepay obligations with or without penalties.

 

16
 

  

Estimated Fair Value of Contractual Maturities        
(dollars in thousands, unaudited)  June 30, 2015 
   Amortized
Cost
   Fair Value 
         
Maturing within one year  $2,758   $2,798 
Maturing after one year through five years   237,740    240,900 
Maturing after five years through ten years   68,802    70,006 
Maturing after ten years   50,015    50,431 
           
Investment securities not due at a single maturity date:          
U.S Government agencies collateralized by mortgage obligations   142,367    141,295 
Other securities   749    1,489 
   $502,431   $506,919 

 

   December 31, 2014 
   Amortized
Cost
   Fair Value 
         
Maturing within one year  $686   $694 
Maturing after one year through five years   222,081    225,415 
Maturing after five years through ten years   97,949    99,583 
Maturing after ten years   54,531    55,705 
           
Investment securities not due at a single maturity date:          
U.S Government agencies collateralized by mortgage obligations   128,107    128,264 
Other securities   1,210    2,222 
   $504,564   $511,883 

 

At June 30, 2015, the Company’s investment portfolio included securities issued by 278 different government municipalities and agencies located within 27 states with a fair value of $99.1 million. The largest exposure to any single municipality or agency was a $1.1 million (fair value) refunding bond issued by the Columbia River People’s Utility District, to be repaid by future utility revenue.

 

The Company’s investments in bonds issued by states, municipalities and political subdivisions are evaluated in accordance with Supervision and Regulation Letter 12-15 issued by the Board of Governors of the Federal Reserve System, “Investing in Securities without Reliance on Nationally Recognized Statistical Rating Organization Ratings,” and other regulatory guidance. Credit ratings are considered in our analysis only as a guide to the historical default rate associated with similarly-rated bonds. There have been no significant differences in our internal analyses compared with the ratings assigned by the third party credit rating agencies.

 

The following table summarizes the amortized cost and fair values of general obligation and revenue bonds in the Company’s investment securities portfolio at the indicated dates, identifying the state in which the issuing municipality or agency operates for our largest geographic concentrations:

 

17
 

  

Revenue and General Obligation Bonds by Location        
dollars in thousands, unaudited  June 30, 2015   December 31, 2014 
   Amortized   Fair Market   Amortized   Fair Market 
General obligation bonds  Cost   Value   Cost   Value 
State of issuance                    
California  $20,624   $21,702   $20,078   $21,288 
Texas   14,261    14,297    14,489    14,675 
Illinois   8,593    8,645    8,272    8,394 
Ohio   7,857    7,865    7,456    7,555 
Washington   5,936    6,055    5,966    6,126 
Utah   955    968    956    984 
Other states   21,987    22,317    21,253    21,832 
Total General Obligation Bonds   80,213    81,849    78,470    80,854 
                     
Revenue bonds                    
State of issuance                    
Utah   4,441    4,440    3,769    3,834 
Texas   3,756    3,842    3,273    3,387 
California   1,605    1,642    2,174    2,233 
Washington   1,166    1,187    1,167    1,197 
Ohio   319    324    321    332 
Illinois   292    291    294    294 
Other states   5,362    5,480    8,588    8,818 
Total Revenue Bonds   16,941    17,206    19,586    20,095 
                     
Total Obligations of States and Political Subdivisions  $97,154   $99,055   $98,056   $100,949 

 

The revenue bonds in the Company’s investment securities portfolios were issued by government municipalities and agencies to fund public services such as utilities (water, sewer, and power), educational facilities, and general public and economic improvements. The primary sources of revenue for these bonds are delineated in the table below, which shows the amortized cost and fair market values for the largest revenue concentrations as of the indicated dates.

 

18
 

  

Revenue Bonds by Type        
dollars in thousands, unaudited  June 30, 2015   December 31, 2014 
   Amortized   Fair Market   Amortized   Fair Market 
Revenue bonds  Cost   Value   Cost   Value 
Revenue source:                
Water  $3,722   $3,780   $7,100   $7,278 
College & University   3,210    3,296    2,723    2,834 
Sales Tax   2,295    2,322    2,361    2,405 
Electric & Power   1,876    1,891    1,880    1,914 
Lease   2,202    2,178    1,356    1,362 
Other sources   3,636    3,739    4,166    4,302 
Total Revenue Bonds  $16,941   $17,206   $19,586   $20,095 

 

Low-Income Housing Tax Credit (“LIHTC”) Fund Investments

 

The Company has the ability to invest in limited partnerships which own housing projects that qualify for federal and/or California state tax credits, by mandating a specified percentage of low-income tenants for each project. The tax credits flow through to investors, augmenting any return that might be derived from an increase in property values. Because rent levels are lower than standard market rents and the projects are generally highly leveraged, each project also typically generates tax-deductible operating losses that are allocated to the limited partners.

 

The Company invested in seven such LIHTC fund limited partnerships from 2001 through 2007, and may make similar investments in the future. Our investments to date have all been in California-focused funds, which helps the Company meet its obligations under the Community Reinvestment Act. We utilize the equity method of accounting for our LIHTC fund investments. Under the equity method, our balance sheet initially reflects an asset that represents the total cash expected to be invested over the life of the partnership. Any commitments or contingent commitments for future investment are reflected as a liability. The income statement treatment under the equity method reflects tax credits received by the Company “below the line” within the income tax provision, while any fund operating results are included “above the line” in non-interest income. As noted above, operating results are typically losses that are netted against non-interest income.

 

As of June 30, 2015, our LIHTC investment balance was $5.3 million, and we had no commitments or contingent commitments for additional capital contributions to the limited partnerships. There were $386,000 in tax credits derived from our LIHTC investments which were recognized during the six months ended June 30, 2015, and a pass-through operating loss of $483,000 associated with those investments was included in pre-tax income for the same time period. Our LIHTC investments are evaluated annually for potential impairment, and we have concluded that the carrying value of the investments is fairly stated and is not impaired.

 

Note 11 – Credit Quality and Nonperforming Assets

 

Credit Quality Classifications

 

The Company monitors the credit quality of loans on a continuous basis using the regulatory and accounting classifications of pass, special mention, substandard and impaired to characterize the associated credit risk. Balances classified as “loss” are immediately charged off. The Company conforms to the following definitions for risk classifications utilized:

 

·Pass: Larger non-homogeneous loans not meeting the risk rating definitions below, and smaller homogeneous loans that are not assessed on an individual basis.

 

·Special mention: Loans which have potential issues that deserve the close attention of Management. If left uncorrected, those potential weaknesses could eventually diminish the prospects for full repayment of principal and interest according to the contractual terms of the loan agreement, or could result in deterioration of the Company’s credit position at some future date.

 

19
 

  

·Substandard: Loans that have at least one clear and well-defined weakness that could jeopardize the ultimate recoverability of all principal and interest, such as a borrower displaying a highly leveraged position, unfavorable financial operating results and/or trends, uncertain repayment sources or a deteriorated financial condition.

 

·Impaired: A loan is considered 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. Impaired loans include all nonperforming loans, restructured troubled debt (“TDRs”), and certain other loans that are still being maintained on accrual status. A TDR may be nonperforming or performing, depending on its accrual status and the demonstrated ability of the borrower to comply with restructured terms (see “Troubled Debt Restructurings” section below for additional information on TDRs).

 

20
 

  

Credit quality classifications for the Company’s loan balances were as follows, as of the dates indicated:

 

Credit Quality Classifications                    
(dollars in thousands, unaudited)                    
   June 30, 2015 
   Pass   Special
Mention
   Substandard   Impaired   Total 
Real Estate:                         
1-4 family residential construction  $6,854   $-   $-   $-   $6,854 
Other construction/land   27,770    122    -    3,608    31,500 
1-4 family - closed end   124,584    544    553    5,181    130,862 
Equity lines   43,908    257    1,814    1,730    47,709 
Multi-family residential   22,863    -    626    417    23,906 
Commercial real estate - owner occupied   187,810    14,221    8,467    3,468    213,966 
Commercial real estate - non-owner occupied   129,575    5,160    174    12,669    147,578 
Farmland   124,619    6,167    731    49    131,566 
Total real estate   667,983    26,471    12,365    27,122    733,941 
                          
Agricultural   31,248    44    -    -    31,292 
Commercial and industrial   106,693    864    626    2,855    111,038 
Mortgage Warehouse   180,442    -    -    -    180,442 
Consumer loans   14,084    216    13    2,311    16,624 
Total gross loans and leases  $1,000,450   $27,595   $13,004   $32,288   $1,073,337 

 

   December 31, 2014 
   Pass   Special
Mention
   Substandard   Impaired   Total 
Real Estate:                         
1-4 family residential construction  $5,858   $-   $-   $-   $5,858 
Other construction/land   15,238    247    -    4,423    19,908 
1-4 family - closed end   105,398    833    918    7,110    114,259 
Equity lines   46,819    294    1,237    1,367    49,717 
Multi-family residential   18,127    420    -    171    18,718 
Commercial real estate - owner occupied   191,495    18,694    3,845    4,620    218,654 
Commercial real estate - non-owner occupied   114,317    4,250    631    12,879    132,077 
Farmland   142,295    1,950    744    50    145,039 
Total real estate   639,547    26,688    7,375    30,620    704,230 
                          
Agricultural   27,215    531    -    -    27,746 
Commercial and industrial   108,469    1,529    857    2,916    113,771 
Mortgage Warehouse   106,021    -    -    -    106,021 
Consumer loans   15,752    222    23    2,888    18,885 
Total gross loans and leases  $897,004   $28,970   $8,255   $36,424   $970,653 

 

Past Due and Nonperforming Assets

 

Nonperforming assets are comprised of loans for which the Company is no longer accruing interest, and foreclosed assets, including mobile homes and OREO. OREO consists of properties acquired by foreclosure or similar means, which the Company is offering or will offer for sale. Nonperforming loans and leases result when reasonable doubt surfaces with regard to the ability of the Company to collect all principal and interest. At that point, we stop accruing interest on the loan or lease in question and reverse any previously-recognized interest to the extent that it is uncollected or associated with interest-reserve loans. Any asset for which principal or interest has been in default for 90 days or more is also placed on non-accrual status even if interest is still being received, unless the asset is both well secured and in the process of collection. An aging of the Company’s loan balances is presented in the following tables, by number of days past due as of the indicated dates:

 

21
 

  

Loan Portfolio Aging

(dollars in thousands, unaudited) 

   June 30, 2015 
   30-59 Days
Past Due
   60-89 Days
Past Due
   90 Days Or More
Past Due(1)
   Total Past
Due
   Current   Total Financing
Receivables
   Non-Accrual
Loans(2)
 
Real Estate:                                   
1-4 family residential construction  $-   $-   $-   $-   $6,854   $6,854   $- 
Other construction/land   53    -    2,548    2,601    28,899    31,500    2,716 
1-4 family - closed end   -    58    1,411    1,469    129,393    130,862    1,535 
Equity lines   151    150    71    372    47,337    47,709    1,113 
Multi-family residential   -    -    -    -    23,906    23,906    - 
Commercial real estate - owner occupied   231    19    -    250    213,716    213,966    2,624 
Commercial real estate - non-owner occupied   1,676    -    6,891    8,567    139,011    147,578    7,638 
Farmland   -    -    49    49    131,517    131,566    49 
Total real estate   2,111    227    10,970    13,308    720,633    733,941    15,675 
                                    
Agricultural   44    -    -    44    31,248    31,292    - 
Commercial and industrial   54    19    161    234    110,804    111,038    871 
Mortgage warehouse lines   -    -    -    -    180,442    180,442    - 
Consumer   127    -    2    129    16,495    16,624    566 
Total gross loans and leases  $2,336   $246   $11,133   $13,715   $1,059,622   $1,073,337   $17,112 

  

(1) As of June 30, 2015 there were no loans over 90 days past due and still acrruing.

(2) Included in total financing receivables

  

   December 31, 2014 
   30-59 Days
Past Due
   60-89 Days
Past Due
   90 Days Or More
Past Due(1)
   Total Past
Due
   Current   Total Financing
Receivables
   Non-Accrual
Loans(2)
 
Real Estate:                                   
1-4 family residential construction  $-   $332   $-   $332   $5,526   $5,858   $- 
Other construction/land   93    59    3,253    3,405    16,503    19,908    3,547 
1-4 family - closed end   1,125    597    2,874    4,596    109,663    114,259    3,042 
Equity lines   98    44    214    356    49,361    49,717    1,049 
Multi-family residential   185    -    171    356    18,362    18,718    171 
Commercial real estate - owner occupied   1,460    26    1,316    2,802    215,852    218,654    3,417 
Commercial real estate - non-owner occupied   604    294    6,953    7,851    124,226    132,077    7,754 
Farmland   997    -    -    997    144,042    145,039    51 
Total real estate   4,562    1,352    14,781    20,695    683,535    704,230    19,031 
                                    
Agricultural   618    -    -    618    27,128    27,746    - 
Commercial and industrial   1,346    153    39    1,538    112,233    113,771    821 
Mortgage warehouse lines   -    -    -    -    106,021    106,021    - 
Consumer   136    17    -    153    18,732    18,885    826 
Total gross loans and leases  $6,662   $1,522   $14,820   $23,004   $947,649   $970,653   $20,678 

  

(1) As of December 31, 2014 there were no loans over 90 days past due and still accruing.

(2) Included in total financing receivables

 

22
 

  

Troubled Debt Restructurings

 

A loan that is modified for a borrower who is experiencing financial difficulty is classified as a troubled debt restructuring if the modification constitutes a concession. At June 30, 2015, the Company had a total of $23.4 million in TDRs, including $11.6 million in TDRs that were on non-accrual status. Generally, a non-accrual loan that has been modified as a TDR remains on non-accrual status for a period of at least six months to demonstrate the borrower’s ability to comply with the modified terms. However, performance prior to the modification, or significant events that coincide with the modification, could result in a loan’s return to accrual status after a shorter performance period or even at the time of loan modification. TDRs may have the TDR designation removed in the calendar year following the restructuring, if the loan is in compliance with all modified terms and is yielding a market rate of interest. Regardless of the period of time that has elapsed, if the borrower’s ability to meet the revised payment schedule is uncertain then the loan will be kept on non-accrual status. Moreover, a TDR is generally considered to be in default when it appears that the customer will not likely be able to repay all principal and interest pursuant to the terms of the restructured agreement.

 

The Company may agree to different types of concessions when modifying a loan or lease. The tables below summarize TDRs which were modified during the noted periods, by type of concession:

 

Troubled Debt Restructurings, by Type of Loan Modification
(dollars in thousands, unaudited)  Three months ended June 30, 2015 
   Rate
Modification
   Term
Modification
   Rate & Term
Modification
   Term &
Interest Only
Modification
   Total 
                     
Real estate:                         
Other construction/land  $-   $-   $-   $-   $- 
1-4 family - closed-end   -    -    226    -    226 
Equity lines   -    146    290    -    436 
Multi-family residential   -    418    -    -    418 
Commercial real estate - owner occupied   -    -    -    -    - 
Total real estate loans   -    564    516    -    1,080 
Commercial and industrial   -    25    -    -    25 
Consumer loans   -    -    -    -    - 
   $-   $589   $516   $-   $1,105 

 

   Three months ended June 30, 2014 
   Rate
Modification
   Term
Modification
   Rate & Term
Modification
   Term &
Interest Only
Modification
   Total 
                     
Real Estate:                         
Other construction/land  $-   $-   $-   $-   $- 
1-4 family - closed-end   -    -    -    -    - 
Equity lines   -    321    29    -    350 
Multi-family residential   -    -    -    -    - 
Commercial real estate - owner occupied   279    -    -    -    279 
Total real estate loans   279    321    29    -    629 
Commercial and industrial   -    23    -    30    53 
Consumer loans   -    7    -    -    7 
   $279   $351   $29   $30   $689 

 

23
 

  

Troubled Debt Restructurings, by Type of Loan Modification
(dollars in thousands, unaudited)  Six months ended June 30, 2015 
   Rate
Modification
   Term
Modification
   Rate & Term
Modification
   Term &
Interest Only
Modification
   Total 
                     
Real estate:                         
Other construction/land  $-   $111   $-   $-   $111 
1-4 family - closed-end   -    -    226    -    226 
Equity lines   -    351    290    -    641 
Multi-family residential   -    418    -    -    418 
Commercial real estate - owner occupied   -    -    -    -    - 
Total real estate loans   -    880    516    -    1,396 
Commercial and industrial   -    68    -    -    68 
Consumer loans   -    -    -    -    - 
   $-   $948   $516   $-   $1,464 

 

   Six months ended June 30, 2014 
   Rate
Modification
   Term
Modification
   Rate & Term
Modification
   Term &
Interest Only
Modification
   Total 
                     
Real Estate:                         
Other construction/land  $-   $-   $-   $-   $- 
1-4 family - closed-end   -    13    -    -    13 
Equity lines   -    321    29    -    350 
Multi-family residential   -    -    -    -    - 
Commercial real estate - owner occupied   279    123    -    -    402 
Total real estate loans   279    457    29    -    765 
Commercial and industrial   -    133    4    30    167 
Consumer loans   -    9    -    -    9 
   $279   $599   $33   $30   $941 

 

24
 

  

The following tables present, by class, additional details related to loans classified as TDRs during the referenced periods, including the recorded investment in the loan both before and after modification and balances that were modified during the period:

 

Troubled Debt Restructurings                    
(dollars in thousands, unaudited)  Three months ended June 30, 2015 
   Number of
Loans
   Pre-
Modification
Outstanding
Recorded
Investment
   Post-
Modification
Outstanding
Recorded
Investment
   Reserve
Difference(1)
   Reserve 
Real Estate:                         
Other Construction/Land   0   $-   $-   $-   $- 
1-4 family - closed-end   2    226    226    6    7 
Equity Lines   5    436    436    142    157 
Multi-family residential   1    418    418         1 
Commercial RE- owner occupied   0    -    -    -    - 
Total Real Estate Loans        1,080    1,080    148    165 
                          
Commercial and Industrial   1    25    25    -    11 
Consumer loans   0    -    -    -    - 
        $1,105   $1,105   $148   $176 

 

(1) This represents the change in the ALLL reserve for these credits measured as the difference between the specific post-modification impairment reserve and the pre-modification reserve calculated under our general allowance for loan loss methodology.

 

   Three months ended June 30, 2014 
   Number of
Loans
   Pre-
Modification
Outstanding
Recorded
Investment
   Post-
Modification
Outstanding
Recorded
Investment
   Reserve
Difference(1)
   Reserve 
Real Estate:                         
Other Construction/Land   0   $-   $-   $-   $- 
1-4 family - closed-end   0    -    -    -    - 
Equity Lines   3    350    350    169    204 
Multi-family residential   0    -    -    -    - 
Commercial RE- owner occupied   1    279    279    -    140 
Total Real Estate Loans        629    629    169    344 
                          
Commercial and Industrial   2    53    53    29    33 
Consumer loans   2    7    7    1    2 
        $689   $689   $199   $379 

 

(1) This represents the change in the ALLL reserve for these credits measured as the difference between the specific post-modification impairment reserve and the pre-modification reserve calculated under our general allowance for loan loss methodology.

 

25
 

  

Troubled Debt Restructurings                    
(dollars in thousands, unaudited)  Six months ended June 30, 2015 
   Number of
Loans
   Pre-
Modification
Outstanding
Recorded
Investment
   Post-
Modification
Outstanding
Recorded
Investment
   Reserve
Difference(1)
   Reserve 
Real Estate:                         
Other Construction/Land   2   $111   $111   $4   $2 
1-4 family - closed-end   2    226    226    6    7 
Equity Lines   7    641    641    142    218 
Multi-family residential   1    418    418    -    1 
Commercial RE- owner occupied   0    -    -    -    - 
Total Real Estate Loans        1,396    1,396    152    228 
                          
Commercial and Industrial   3    68    68    (19)   23 
Consumer loans   0    -    -    -    - 
        $1,464   $1,464   $133   $251 

 

(1) This represents the change in the ALLL reserve for these credits measured as the difference between the specific post-modification impairment reserve and the pre-modification reserve calculated under our general allowance for loan loss methodology.

 

   Six months ended June 30, 2014 
   Number of
Loans
   Pre-
Modification
Outstanding
Recorded
Investment
   Post-
Modification
Outstanding
Recorded
Investment
   Reserve
Difference(1)
   Reserve 
Real Estate:                         
Other Construction/Land   0   $-   $-   $-   $- 
1-4 family - closed-end   1    13    13    -    - 
Equity Lines   3    350    350    169    204 
Multi-family residential   0    -                
Commercial RE- owner occupied   2    402    402    -    140 
Total Real Estate Loans        765    765    169    344 
                          
Commercial and Industrial   5    167    167    52    43 
Consumer loans   3    9    9    1    2 
        $941   $941   $222   $389 

 

(1) This represents the change in the ALLL reserve for these credits measured as the difference between the specific post-modification impairment reserve and the pre-modification reserve calculated under our general allowance for loan loss methodology.

 

26
 

  

The table below summarizes finance receivables modified as TDRs within the previous twelve months that defaulted during the periods noted, and any charge-offs on those TDRs resulting from such default.

 

Troubled Debt Restructurings        
(dollars in thousands, unaudited)        
         
   Three months ended June 30,   Six months ended June 30, 
   2015   2014   2015   2014 
Commercial and Industrial                    
Number of loans   -    -    -    1 
Recorded investment  $-   $-   $-   $127 
Charge-offs  $-   $-   $-   $- 

 

27
 

  

Purchased Credit Impaired Loans

 

The Company may acquire loans which show evidence of credit deterioration since origination. These purchased credit impaired (“PCI”) loans are recorded at the amount paid, since there is no carryover of the seller’s allowance for loan losses. Potential losses on PCI loans subsequent to acquisition are recognized by an increase in the allowance for loan losses. PCI loans are accounted for individually or are aggregated into pools of loans based on common risk characteristics. The Company estimates the amount and timing of expected cash flows, and expected cash receipts in excess of the amount paid for the loan(s) are recorded as interest income over the remaining life of the loan or pool of loans (accretable yield). The excess of contractual principal and interest over expected cash flows is not recorded (nonaccretable difference).

 

Expected cash flows are periodically re-evaluated throughout the life of the loan or pool of loans. If the present value of the expected cash flows is determined at any time to be less than the carrying amount, a reserve is recorded. If the present value of the expected cash flows is greater than the carrying amount, it is recognized as part of future interest income.

 

The acquisition described in Note 13, Recent Developments, included a portfolio of loans, some of which have shown evidence of credit deterioration since origination and for which it was probable at acquisition that all contractually required payments would not be collected. The carrying amount and unpaid principal balance of those PCI loans was as follows, as of the dates indicated (dollars in thousands):

 

Purchased Credit Impaired Loans:        
         
   June 30, 2015 
   Unpaid Principal Balance   Carrying Value 
         
Real estate secured  $1,190   $251 
Commercial and industrial   58    - 
Consumer   1    - 
Total purchased credit impaired loans  $1,249   $251 

 

   December 31, 2014 
   Unpaid Principal Balance   Carrying Value 
         
Real estate secured  $1,222   $228 
Commercial and industrial   92    - 
Consumer   1    - 
Total purchased credit impaired loans  $1,315   $228 

 

A $106,000 allowance for loan losses was allocated for PCI loans as of June 30, 2015, but there was no allowance for those loans at December 31, 2014. We also recorded $215,000 in discount accretion on PCI loans during the six months ended June 30, 2015.

 

Note 12 – Allowance for Loan and Lease Losses

 

The Company’s allowance for loan and lease losses, a contra-asset, is established through a provision for loan and lease losses. The allowance is maintained at a level that is considered adequate to absorb probable losses on certain specifically identified loans, as well as probable incurred losses inherent in the remaining loan portfolio. Specifically identifiable and quantifiable losses are immediately charged off against the allowance; recoveries are generally recorded only when cash payments are received subsequent to the charge off. We employ a systematic methodology, consistent with FASB guidelines on loss contingencies and impaired loans, for determining the appropriate level of the allowance for loan and lease losses and adjusting it at least quarterly. Pursuant to that methodology, impaired loans and leases are individually analyzed and a criticized asset action plan is completed specifying the financial status of the borrower and, if applicable, the characteristics and condition of collateral and any associated liquidation plan. A specific loss allowance is created for each impaired loan, if necessary.

 

28
 

The following tables disclose the unpaid principal balance, recorded investment, average recorded investment, and interest income recognized for impaired loans on our books as of the dates indicated. Balances are shown by loan type, and are further broken out by those that required an allowance and those that did not, with the associated allowance disclosed for those that required such. Included in the valuation allowance for impaired loans shown in the tables below are specific reserves allocated to TDRs, totaling $2.463 million at June 30, 2015 and $2.714 million at December 31, 2014.

 

Impaired Loans  June 30, 2015 
(dollars in thousands, unaudited)  Unpaid Principal
Balance(1)
   Recorded
Investment(2)
   Related
Allowance
   Average
Recorded
Investment
   Interest Income
Recognized(3)
 
With an allowance recorded                         
Real Estate:                         
Other construction/land  $651   $615   $86   $665   $22 
1-4 Family - closed-end   3,696    3,696    135    3,546    135 
Equity lines   1,487    1,434    376    1,511    8 
Multi-family residential   418    417    1    419    - 
Commercial real estate- owner occupied   1,743    1,743    772    1,896    26 
Commercial real estate- non-owner occupied   10,089    10,089    2,058    10,711    83 
Farmland   -    -    -    -    - 
Total real estate   18,084    17,994    3,428    18,748    274 
Agriculture   -    -    -    -    - 
Commercial and industrial   2,759    2,747    861    2,881    55 
Consumer loans   2,271    2,270    362    2,488    66 
    23,114    23,011    4,651    24,117    395 
With no related allowance recorded                         
Real estate:                         
Other construction/land   3,106    2,993    -    3,971    17 
1-4 family - closed-end   1,709    1,485    -    3,254    - 
Equity lines   314    296    -    320    - 
Multi-family residential   -    -    -    -    - 
Commercial real estate- owner occupied   1,725    1,725    -    2,055    59 
Commercial real estate- non-owner occupied   2,727    2,580    -    2,928    - 
Farmland   49    49    -    51    - 
Total real estate   9,630    9,128    -    12,579    76 
Agriculture   -    -    -    -    - 
Commercial and industrial   125    108    -    164    - 
Consumer loans   222    41    -    286    - 
    9,977    9,277    -    13,029    76 
Total  $33,091   $32,288   $4,651   $37,146   $471 

 

(1)Contractual principal balance due from customer.

(2)Principal balance on Company's books, less any direct charge offs.

(3)Interest income is recognized on performing balances on a regular accrual basis.

 

29
 

 

   December 31, 2014 
   Unpaid Principal
Balance(1)
   Recorded
Investment(2)
   Related
Allowance
   Average
Recorded
Investment
   Interest Income
Recognized(3)
 
With an allowance recorded                         
Real estate:                         
Other construction/land  $1,155   $1,078   $179   $1,193   $70 
1-4 family - closed-end   4,167    4,167    288    4,276    258 
Equity lines   797    797    230    878    14 
Multifamily residential   171    171    51    173    - 
Commercial real estate- owner occupied   2,791    2,681    1,385    3,069    60 
Commercial real estate- non-owner occupied   3,463    3,463    1,731    3,545    263 
Farmland   -    -    -    -    - 
Total real estate   12,544    12,357    3,864    13,134    665 
Commercial and industrial   2,910    2,898    916    3,046    123 
Consumer loans   2,790    2,788    668    3,115    150 
    18,244    18,043    5,448    19,295    938 
With no related allowance recorded                         
Real estate:                         
Other construction/land   3,345    3,345    -    4,143    - 
1-4 family - closed-end   2,943    2,943    -    9,186    - 
Equity lines   609    570    -    611    - 
Multifamily residential   -    -    -    -    - 
Commercial real estate- owner occupied   2,915    1,939    -    3,046    - 
Commercial real estate- non-owner occupied   9,563    9,416    -    10,306    118 
Farmland   51    50    -    52    - 
Total real estate   19,426    18,263    -    27,344    118 
Commercial and industrial   35    18    -    81    - 
Consumer loans   275    100    -    347    - 
    19,736    18,381    -    27,772    118 
Total  $37,980   $36,424   $5,448   $47,067   $1,056 

 

(1)Contractual principal balance due from customer.

(2)Principal balance on Company's books, less any direct charge offs.

(3)Interest income is recognized on performing balances on a regular accrual basis.

 

The specific loss allowance for an impaired loan generally represents the difference between the book value of the loan and either the fair value of underlying collateral less estimated disposition costs, or the loan’s net present value as determined by a discounted cash flow analysis. The discounted cash flow approach is typically used to measure impairment on loans for which it is anticipated that repayment will be provided from cash flows other than those generated solely by the disposition or operation of underlying collateral. However, historical loss rates may be used to determine a specific loss allowance if they indicate a higher potential reserve need than the discounted cash flow analysis. Any change in impairment attributable to the passage of time is accommodated by adjusting the loss allowance accordingly.

 

30
 

 

For loans where repayment is expected to be provided by the disposition or operation of the underlying collateral, impairment is measured using the fair value of the collateral. If the collateral value, net of the expected costs of disposition where applicable, is less than the loan balance, then a specific loss reserve is established for the shortfall in collateral coverage. If the discounted collateral value is greater than or equal to the loan balance, no specific loss reserve is required. At the time a collateral-dependent loan is designated as nonperforming, a new appraisal is ordered and typically received within 30 to 60 days if a recent appraisal is not already available. We generally use external appraisals to determine the fair value of the underlying collateral for nonperforming real estate loans, although the Company’s licensed staff appraisers may update older appraisals based on current market conditions and property value trends. Until an updated appraisal is received, the Company uses the existing appraisal to determine the amount of the specific loss allowance that may be required. The specific loss allowance is adjusted, as necessary, once a new appraisal is received. Updated appraisals are generally ordered at least annually for collateral-dependent loans that remain impaired. Current appraisals were available for virtually all of the Company’s impaired real estate loan balances at June 30, 2015. Furthermore, the Company analyzes collateral-dependent loans on at least a quarterly basis, to determine if any portion of the recorded investment in such loans can be identified as uncollectible and would therefore constitute a confirmed loss. All amounts deemed to be uncollectible are promptly charged off against the Company’s allowance for loan and lease losses, with the loan then carried at the fair value of the collateral, as appraised, less estimated costs of disposition if applicable. Once a charge-off or write-down is recorded, it will not be restored to the loan balance on the Company’s accounting books.

 

Our methodology also provides that a “general” allowance be established for probable incurred losses inherent in loans and leases that are not impaired. Unimpaired loan balances are segregated by credit quality, and are then evaluated in pools with common characteristics. At the present time, pools are based on the same segmentation of loan types presented in our regulatory filings. While this methodology utilizes historical loss data and other measurable information, the classification of loans and the establishment of the allowance for loan and lease losses are both to some extent based on Management’s judgment and experience. Our methodology incorporates a variety of risk considerations, both quantitative and qualitative, in establishing an allowance for loan and lease losses that Management believes is appropriate at each reporting date. Quantitative information includes our historical loss experience, delinquency and charge-off trends, and current collateral values. Qualitative factors include the general economic environment in our markets and, in particular, the condition of the agricultural industry and other key industries in our market areas. Lending policies and procedures (including underwriting standards), the experience and abilities of lending staff, the quality of loan review, credit concentrations (by geography, loan type, industry and collateral type), the rate of loan portfolio growth, and changes in legal or regulatory requirements are additional factors that are considered. The total general reserve established for probable incurred losses on unimpaired loans was $5.936 million at June 30, 2015.

 

There were no material changes to the methodology used to determine our allowance for loan and lease losses during the three months ended June 30, 2015. We continue to consider the potential impact of drought conditions on loan losses, and for the second quarter of 2015 the possible impact of lower oil prices was also given additional weighting in qualitative factors. As we add new products and expand our geographic coverage, and as the economic environment changes, we expect to enhance our methodology to keep pace with the size and complexity of the loan and lease portfolio and respond to pressures created by external forces. We engage outside firms on a regular basis to assess our methodology and perform independent credit reviews of our loan and lease portfolio. In addition, the Company’s external auditors, the FDIC, and the California DBO review the allowance for loan and lease losses as an integral part of their audit and examination processes. Management believes that the current methodology is appropriate given our size and level of complexity.

 

31
 

 

The tables that follow detail the activity in the allowance for loan and lease losses for the periods noted:

 

Allowance for Credit Losses and Recorded Investment in Financing Receivables

(dollars in thousands, unaudited)

 

   Three months ended June 30, 2015 
   Real Estate   Agricultural
Products
   Commercial and
Industrial
   Consumer   Unallocated   Total 
                         
Allowance for credit losses:                              
Beginning Balance  $5,965   $651   $2,253   $1,477   $372   $10,718 
Charge-offs   (59)   -    (155)   (378)   -    (592)
Recoveries   177    4    44    198    -    423 
Provision   (481)   (30)   450    107    (46)   - 
                               
Ending Balance  $5,602   $625   $2,592   $1,404   $326   $10,549 

 

   Six months ended June 30, 2015 
   Real Estate   Agricultural
Products
   Commercial and
Industrial
   Consumer   Unallocated   Total 
                         
Allowance for credit losses:                              
Beginning Balance  $6,243   $986   $1,944   $1,765   $310   $11,248 
Charge-offs   (686)   -    (175)   (791)   -    (1,652)
Recoveries   375    5    125    448    -    953 
Provision   (330)   (366)   698    (18)   16    - 
                               
Ending Balance  $5,602   $625   $2,592   $1,404   $326   $10,549 
                               
Reserves:                              
Specific  $3,428   $-   $861   $362   $-   $4,651 
General   2,174    625    1,731    1,042    326    5,898 
                               
Ending Balance  $5,602   $625   $2,592   $1,404   $326   $10,549 
                               
Loans evaluated for impairment:                              
Individually  $27,122   $-   $2,855   $2,311   $-   $32,288 
Collectively   706,819    31,292    288,625    14,313    -    1,041,049 
                               
Ending Balance  $733,941   $31,292   $291,480   $16,624   $-   $1,073,337 

 

   Year ended December 31, 2014 
   Real Estate   Agricultural
Products
   Commercial and
Industrial
   Consumer   Unallocated   Total 
                         
Allowance for credit losses:                              
Beginning Balance  $5,544   $978   $3,787   $1,117   $251   $11,677 
Charge-offs   (1,629)   (124)   (625)   (1,837)   -    (4,215)
Recoveries   1,913    6    801    716    -    3,436 
Provision   415    126    (2,019)   1,769    59    350 
                               
Ending Balance  $6,243   $986   $1,944   $1,765   $310   $11,248 
                               
Reserves:                              
Specific  $3,864   $-   $916   $668   $-   $5,448 
General   2,379    986    1,028    1,097    310    5,800 
                               
Ending Balance  $6,243   $986   $1,944   $1,765   $310   $11,248 
                               
Loans evaluated for impairment:                              
Individually  $30,620   $-   $2,916   $2,888   $-   $36,424 
Collectively   673,610    27,746    216,876    15,997    -    934,229 
                               
Ending Balance  $704,230   $27,746   $219,792   $18,885   $-   $970,653 

 

32
 

 

Note 13 – Recent Developments

 

In July 2014 the Bank entered into a definitive agreement to acquire Santa Clara Valley Bank, a community bank with branches in Santa Paula, Santa Clarita, and Fillmore, California. Subsequent to the receipt of requisite regulatory and shareholder approvals the deal closed on November 14, 2014, and SCVB results of operations were included in the Company’s results beginning on the same date. As part of the transaction, cash consideration of $12.3 million, or $6.00 per share, was paid to SCVB common shareholders, and $3.0 million was paid to SCVB preferred shareholders to retire outstanding preferred stock and associated warrants. One-time acquisition costs of $2.1 million were included in the Company’s pre-tax non-interest expense in 2014, and acquisition costs totaling $101,000 have been reflected in pre-tax non-interest expense thus far in 2015.

 

As of the merger date the SCVB acquisition contributed approximately $62 million to the Company’s outstanding loan balances, $44 million to investment securities, and $108 million to total deposits. In accordance with GAAP, assets and liabilities were acquired at their estimated fair values and there was no carryover of the allowance for loan losses that had previously been recorded by SCVB. At the time of the acquisition the Company also recorded a deferred income tax asset of $2.3 million related primarily to SCVB’s net operating loss carry-forward, along with the effects of fair value adjustments resulting from applying the acquisition method of accounting. In accordance with GAAP, the Company recorded $1.4 million of goodwill and $1.1 in core deposit intangibles. Goodwill represents the excess of consideration transferred (cash) over the fair values of the identifiable net assets acquired. The core deposit intangible is being amortized on a straight line basis over eight years, commencing at the date of acquisition. Goodwill and core deposit intangibles are not deductible for income tax purposes.

 

The following table presents unaudited pro forma information as if the acquisition had occurred at the beginning of 2014. The unaudited pro forma information includes adjustments for interest income on loans and securities acquired, amortization of intangibles arising from the transaction, depreciation expense on property acquired, interest expense on deposits acquired, and the related income tax effects. The unaudited pro forma financial information is not necessarily indicative of the results of operations that would have occurred had the transactions been effected on the assumed dates (dollars in thousands):

 

Business Combinations - Pro forma Income Statement

 

   Pro forma for the quarter
ended June 30, 2014
   Pro forma for the six months
ended June 30, 2014
 
         
Net interest income  $14,039   $27,266 
           
Net Income  $4,272   $7,915 
           
Earnings per share basic  $0.30   $0.56 
           
Earnings per share diluted  $0.30   $0.55 

 

33
 

 

PART I - FINANCIAL INFORMATION

 

ITEM 2

 

MANAGEMENT’S DISCUSSION AND

ANALYSIS OF FINANCIAL CONDITION

AND RESULTS OF OPERATIONS

 

FORWARD-LOOKING STATEMENTS

 

This Form 10-Q includes forward-looking statements that involve inherent risks and uncertainties. Words such as “expects”, “anticipates”, “believes”, “projects”, and “estimates” or variations of such words and similar expressions are intended to identify forward-looking statements. These statements are not guarantees of future performance and involve certain risks, uncertainties and assumptions that are difficult to predict. Therefore, actual outcomes and results may differ materially from what is expressed, forecast in, or implied by such forward-looking statements.

 

A variety of factors could have a material adverse impact on the Company’s financial condition or results of operations, and should be considered when evaluating the Company’s potential future financial performance. They include, but are not limited to, the potential impact of extreme drought conditions on businesses and consumers located in the Company’s market areas; unfavorable economic conditions in the Company’s service areas; risks associated with fluctuations in interest rates; liquidity risks; increases in nonperforming assets and credit losses that could occur, particularly in times of weak economic conditions or rising interest rates; reductions in the market value of available-for-sale securities that could result if interest rates increase substantially or an issuer has real or perceived financial difficulties; the Company’s ability to attract and retain skilled employees; the Company’s ability to successfully deploy new technology; the success of acquisitions or branch expansion; and risks associated with the multitude of current and prospective laws and regulations to which the Company is and will be subject.

 

CRITICAL ACCOUNTING POLICIES

 

The Company’s financial statements are prepared in accordance with accounting principles generally accepted in the United States. The financial information and disclosures contained within those statements are significantly impacted by Management’s estimates and judgments, which are based on historical experience and incorporate various assumptions that are believed to be reasonable under current circumstances. Actual results may differ from those estimates under divergent conditions.

 

Critical accounting policies are those that involve the most complex and subjective decisions and assessments, and have the greatest potential impact on the Company’s stated results of operations. In Management’s opinion, the Company’s critical accounting policies deal with the following areas: the establishment of the allowance for loan and lease losses, as explained in detail in Note 12 to the consolidated financial statements and in the “Provision for Loan and Lease Losses” and “Allowance for Loan and Lease Losses” sections of this discussion and analysis; the valuation of impaired loans and foreclosed assets, as discussed in Note 11 to the consolidated financial statements; income taxes and deferred tax assets and liabilities, especially with regard to the ability of the Company to recover deferred tax assets as discussed in the “Provision for Income Taxes” and “Other Assets” sections of this discussion and analysis; and goodwill and other intangible assets, which are evaluated annually for impairment and for which we have determined that no impairment exists, as discussed in the “Other Assets” section of this discussion and analysis. Critical accounting areas are evaluated on an ongoing basis to ensure that the Company’s financial statements incorporate the most recent expectations with regard to those areas.

 

34
 

 

OVERVIEW OF THE RESULTS OF OPERATIONS

AND FINANCIAL CONDITION

 

results of operations Summary

 

Second Quarter 2015 compared to Second Quarter 2014

 

Net income for the quarter ended June 30, 2015 was $4.557 million, representing an increase of $320,000, or 8%, relative to net income of $4.237 million for the quarter ended June 30, 2014. Basic and diluted earnings per share for the second quarter of 2015 were $0.34 and $0.33, respectively, compared to $0.30 basic and diluted earnings per share for the second quarter of 2014. The Company’s annualized return on average equity was 9.67% and annualized return on average assets was 1.07% for the quarter ended June 30, 2015, compared to 9.13% and 1.16%, respectively, for the quarter ended June 30, 2014. The primary drivers behind the quarter over quarter variance in net income are as follows:

 

·Net interest income was up $2.068 million, or 16%, for the comparative quarters, due to an increase of $233 million, or 17%, in average interest-earning assets that was partially offset by the impact of a seven basis point drop in our net interest margin.

 

·There was no loan loss provision recorded in the second quarter of 2015, relative to $200,000 in the second quarter of 2014.

 

·Total non-interest income rose by $636,000, or 16%, for the quarterly comparison, due in large part to a special dividend on our FHLB stock received in 2015, fees earned from increased activity on deposit accounts, and gains on investments.

 

·Total non-interest expense increased $1.743 million, or 16%, due in large part to the following variances: ongoing operating costs related to our acquisition of Santa Clara Valley Bank; other increases in personnel costs resulting from strategic staffing enhancements and annual salary adjustments, among other things; an increase in telecommunications costs; higher marketing expense; and, an increase in debit card losses resulting from fraudulent transactions.

 

·The Company’s provision for income taxes was 34% of pre-tax income in the second quarter of 2015 relative to 26% in the second quarter of 2014. The higher tax provisioning in 2015 is primarily the result of higher taxable income and a declining level of available tax credits.

 

First Half 2015 compared to First Half 2014

 

Net income for the first half of 2015 was $8.295 million, representing an increase of $259,000, or 3%, relative to net income of $8.036 million for the first half of 2014. Basic and diluted earnings per share for the first half of 2015 were $0.61 and $0.60, respectively, compared to $0.57 basic earnings per share and $0.56 diluted earnings per share for the first half of 2014. The Company’s annualized return on average equity was 8.87% and annualized return on average assets was 1.00% for the six months ended June 30, 2015, compared to a return on equity of 8.75% and return on assets of 1.12% for the six months ended June 30, 2014. The primary drivers behind the variance in year-to-date net income are as follows:

 

·Net interest income increased $4.571 million, or 18%, due to a $222 million increase in average interest-earning assets and a higher level of non-recurring interest income.

 

·Total non-interest income was up $936,000, or 12%, in the first half of 2015 due primarily to fees earned from increased activity on customer deposit accounts, and a special dividend on our FHLB stock in the second quarter of 2015.

 

·There was no loan loss provision in the first half of 2015, relative to a $350,000 provision in the first half of 2014.

 

·Total non-interest expense increased by $4.475 million, or 21%, due again to ongoing operating costs associated with our acquisition of Santa Clara Valley Bank, other increases in personnel costs, higher core processing costs subsequent to our conversion in mid-February 2014, an increase in telecommunications costs, a large unfavorable swing in net OREO costs resulting from substantial OREO gains in the first quarter of 2014, and higher debit card losses.

 

·The Company’s provision for income taxes was 32% of pre-tax income for the first half of 2015, relative to 26% for the first half of 2014.

 

35
 

 

Financial Condition Summary

 

June 30, 2015 relative to December 31, 2014

 

The Company’s assets totaled $1.734 billion at June 30, 2015, relative to total assets of $1.637 billion at December 31, 2014. Total liabilities were $1.548 billion at June 30, 2015 compared to $1.450 billion at the end of 2014, and shareholders’ equity totaled $186 million at June 30, 2015 relative to $187 million at December 31, 2014. The following is a summary of key balance sheet changes during the first six months of 2015:

 

·The Company’s assets increased $97 million, or 6%, due to growth in loans that was partially offset by slightly lower cash balances and investments.

 

·Gross loans increased by $103 million, or 11%, reaching an all-time high of $1.073 billion at period-end as a result of increased utilization on mortgage warehouse lines, the first quarter purchase of $28 million in residential mortgage loans, and organic growth in other non-farm real estate loans and agricultural production loans.

 

·Total nonperforming assets were reduced by $4 million, or 17%, during the first half of 2015. The Company’s ratio of nonperforming assets to total loans plus foreclosed assets was 1.90% at June 30, 2015, compared to 2.53% at December 31, 2014.

 

·The Company’s total deposits also reached an all-time high of $1.472 billion at June 30, 2015, reflecting growth of $105 million, or 8%, for the first half of 2015. That growth consisted almost entirely of an increase of $102 million, or 10%, in core non-maturity deposits.

 

·We reduced non-deposit interest-bearing liabilities by $6 million, or 10%, during the first half of 2015 due to the exceptional deposit growth which supported our strong loan growth.

 

·Total capital fell by $985,000, or 1%, to $186 million at June 30, 2015. The drop resulted primarily from the Company’s repurchase of shares during the first six months of 2015 and the payment of cash dividends, which offset the addition of net income to retained earnings for the period. While still robust, our consolidated total risk-based capital ratio declined to 17.36% at June 30, 2015 from 18.44% at year-end 2014, due primarily to higher risk-adjusted assets resulting from the increase in loans.

 

EARNINGS PERFORMANCE

 

The Company earns income from two primary sources. The first is net interest income, which is interest income generated by loans and investments less interest expense on deposits and other borrowed money. The second is non-interest income, which primarily consists of customer service charges and fees but also comes from non-customer sources such as bank-owned life insurance. The majority of the Company’s non-interest expense is comprised of operating costs that relate to providing a full range of banking services to our customers.

 

Net interest income AND NET INTEREST MARGIN

 

Net interest income increased by $2.068 million, or 16%, for the second quarter of 2015 relative to the second quarter of 2014, and by $4.571 million, or 18%, in the first half of 2015 compared to the first half of 2014. The level of net interest income we recognize in any given period depends on a combination of factors including the average volume and yield for interest-earning assets, the average volume and cost of interest-bearing liabilities, and the mix of products which comprise the Company’s earning assets, deposits, and other interest-bearing liabilities. Net interest income is also impacted by the reversal of interest for loans placed on non-accrual status during the reporting period, and the recovery of interest on loans that had been on non-accrual and were paid off, sold or returned to accrual status.

 

The following tables show average balances for significant balance sheet categories and the amount of interest income or interest expense associated with each category for the noted periods. The tables also display the calculated yields on each major component of the Company’s investment and loan portfolios, the average rates paid on each key segment of the Company’s interest-bearing liabilities, and our net interest margin for the noted periods.

 

36
 

 

Average Balances and Rates  For the three months ended   For the three months ended 
(dollars in thousands, except per share data)  Ended June 30, 2015   Ended June 30, 2014 
   Average   Income/   Average   Average   Income/   Average 
   Balance (1)   Expense   Rate/Yield (2)(3)   Balance (1)   Expense   Rate/Yield (2)(3) 
Assets                              
Investments:                              
Federal funds sold/due from time  $8,193   $6    0.29%  $20,561   $16    0.31%
Taxable   405,951    2,003    1.95%   356,280    1,876    2.08%
Non-taxable   99,092    732    4.50%   97,233    733    4.59%
Equity   2,005    48    9.47%   2,542    -    - 
Total investments   515,241    2,789    2.44%   476,616    2,625    2.51%
                               
Loans and Leases:(4)                              
Real estate   713,966    9,253    5.20%   629,352    8,340    5.32%
Agricultural   29,447    306    4.17%   23,667    227    3.85%
Commercial   107,245    1,218    4.56%   96,900    1,102    4.56%
Consumer   17,387    409    9.44%   21,643    477    8.84%
Mortgage warehouse lines   181,001    1,639    3.63%   84,305    868    4.13%
Direct financing leases   1,950    26    5.35%   2,402    32    5.34%
Other   1,962    29    5.93%   303    11    14.56%
Total loans and leases    1,052,958    12,880    4.91%   858,572    11,057    5.17%
Total interest earning assets (5)   1,568,199    15,669    4.11%   1,335,188    13,682    4.23%
Other earning assets   7,397              6,072           
Non-earning assets   138,752              129,437           
Total assets  $1,714,348             $1,470,697           
                               
Liabilities and shareholders' equity                              
Interest bearing deposits:                              
Demand deposits  $127,176   $94    0.30%  $112,800   $72    0.26%
NOW   293,263    87    0.12%   247,667    86    0.14%
Savings accounts   186,265    52    0.11%   151,938    75    0.20%
Money market   114,540    21    0.07%   73,337    21    0.11%
CDAR's   11,285    2    0.07%   13,121    7    0.21%
Certificates of deposit<$100,000   77,749    62    0.32%   78,582    87    0.44%
Certificates of deposit>$100,000   220,273    131    0.24%   200,714    183    0.37%
Brokered deposits   -    -    0.00%   5,660    22    1.56%
Total interest bearing deposits   1,030,551    449    0.17%   883,819    553    0.25%
Borrowed Funds:                              
Federal funds purchased   5    -    -    43    -    - 
Repurchase agreements   8,544    9    0.42%   5,539    4    0.29%
Short term borrowings   27,689    12    0.17%   738    -    - 
Long term borrowings   2,000    3    0.60%   -    -    - 
TRUPS   30,928    178    2.31%   30,928    175    2.27%
Total borrowed funds   69,166    202    1.17%   37,248    179    1.93%
Total interest bearing liabilities   1,099,717    651    0.24%   921,067    732    0.32%
Demand deposits - non-interest bearing   412,874              345,110           
Other liabilities   12,745              18,402           
Shareholders' equity   189,012              186,118           
Total liabilities and shareholders' equity  $1,714,348             $1,470,697           
                               
Interest income/interest earning assets             4.11%             4.23%
Interest expense/interest earning assets             0.17%             0.22%
Net interest income and margin(6)       $15,018    3.94%       $12,950    4.01%

 

(1)Average balances are obtained from the best available daily or monthly data and are net of deferred fees and related direct costs.
(2)Yields and net interest margin have been computed on a tax equivalent basis utilizing a 35% effective tax rate.
(3)Annualized
(4)Loan costs have been included in the calculation of interest income. Loan costs were approximately $9 thousand and $(197) thousand for the quarters ended June 30, 2015 and 2014. Loans are gross of the allowance for possible loan losses.
(5)Non-accrual loans have been included in total loans for purposes of total earning assets.
(6)Net interest margin represents net interest income as a percentage of average interest-earning assets.

 

37
 

  

Average Balances and Rates  For the six months ended   For the six months ended 
(dollars in thousands, except per share data)  June 30, 2015   June 30, 2014 
   Average   Income/   Average   Average   Income/   Average 
   Balance (1)   Expense   Rate/Yield (2)(3)   Balance (1)   Expense   Rate/Yield (2)(3) 
Assets                              
Investments:                              
Federal funds sold/Due from time  $13,758   $18    0.26%  $39,466   $51    0.26%
Taxable   407,912    4,251    2.07%   346,215    3,701    2.13%
Non-taxable   98,648    1,457    4.52%   96,874    1,474    4.66%
Equity   2,118    93    8.73%   2,528    -    - 
Total Investments   522,436    5,819    2.51%   485,083    5,226    2.47%
                               
Loans and Leases:(4)                              
Real Estate   702,957    18,439    5.29%   606,825    16,222    5.39%
Agricultural   28,093    569    4.08%   24,225    493    4.10%
Commercial   108,015    2,539    4.74%   96,954    2,175    4.52%
Consumer   17,834    843    9.53%   22,484    969    8.69%
Mortgage Warehouse Lines   144,954    2,694    3.75%   68,204    1,463    4.33%
Direct Financing Leases   1,984    53    5.39%   2,442    66    5.45%
Other   2,149    63    5.91%   286    20    14.10%
Total Loans and Leases   1,005,986    25,200    5.05%   821,420    21,408    5.26%
Total Interest Earning Assets (5)   1,528,422    31,019    4.20%   1,306,503    26,634    4.23%
Other Earning Assets   7,220              6,003           
Non-Earning Assets   138,073              131,183           
Total Assets  $1,673,715             $1,443,689           
                               
Liabilities and Shareholders' Equity                              
Interest Bearing Deposits:                              
Demand Deposits  $117,956   $173    0.30%  $101,765   $133    0.26%
NOW   288,337    172    0.12%   233,408    168    0.15%
Savings Accounts   180,505    100    0.11%   150,188    151    0.20%
Money Market   114,733    42    0.07%   72,536    41    0.11%
CDAR's   11,284    4    0.07%   13,092    16    0.25%
Certificates of Deposit<$100,000   78,589    127    0.33%   78,856    177    0.45%
Certificates of Deposit>$100,000   213,093    264    0.25%   202,729    376    0.37%
Brokered Deposits   1,298    11    1.71%   6,216    49    1.59%
Total Interest Bearing Deposits   1,005,795    893    0.18%   858,790    1,111    0.26%
Borrowed Funds:                              
Federal Funds Purchased   3    -    -    22    -    - 
Repurchase Agreements   7,688    15    0.39%   5,989    9    0.30%
Short Term Borrowings   18,008    16    0.18%   372    -    - 
Long Term Borrowings   3,017    7    0.47%   -    -    - 
TRUPS   30,928    352    2.30%   30,928    349    2.28%
Total Borrowed Funds   59,644    390    1.32%   37,311    358    1.93%
Total Interest Bearing Liabilities   1,065,439    1,283    0.24%   896,101    1,469    0.33%
Demand deposits- non interest bearing   404,431              343,849           
Other liabilities   15,261              18,481           
Shareholders' equity   188,584              185,258           
Total liabilities and shareholders' equity  $1,673,715             $1,443,689           
                               
Interest Income/Interest Earning Assets             4.20%             4.23%
Interest Expense/Interest Earning Assets             0.17%             0.22%
Net Interest Income and Margin(6)       $29,736    4.03%       $25,165    4.01%

 

(1)Average balances are obtained from the best available daily or monthly data and are net of deferred fees and related direct costs.
(2)Yields and net interest margin have been computed on a tax equivalent basis utilizing a 35% effective tax rate.
(3)Annualized
(4)Loan costs have been included in the calculation of interest income. Loan costs were approximately $360 thousand and $(349) thousand for the six months ended June 30, 2015 and 2014. Loans are gross of the allowance for possible loan losses.
(5)Non-accrual loans have been included in total loans for purposes of total earning assets.
(6)Net interest margin represents net interest income as a percentage of average interest-earning assets.

 

38
 

  

The Volume and Rate Variances table below sets forth the dollar difference for the comparative periods in interest earned or paid for each major category of interest-earning assets and interest-bearing liabilities, and the amount of such change attributable to fluctuations in average balances (volume) or differences in average interest rates. Volume variances are equal to the increase or decrease in average balances multiplied by prior period rates, and rate variances are equal to the increase or decrease in rates multiplied by prior period average balances. Variances attributable to both rate and volume changes, calculated by multiplying the change in rate by the change in average balance, have been allocated to the rate variance.

 

Volume & Rate Variances  Three months ended June 30,   Six months ended June 30, 
(dollars in thousands)  2015 over 2014   2015 over 2014 
   Increase(decrease) due to   Increase(decrease) due to 
   Volume   Rate   Net   Volume   Rate   Net 
                         
Assets:                              
Investments:                              
Federal funds sold / Due from time  $(10)  $-   $(10)  $(33)  $-   $(33)
Taxable   262    (135)   127    660    (110)   550 
Non-taxable(1)   14    (15)   (1)   27    (44)   (17)
Equity   -    48    48    -    93    93 
Total Investments   266    (102)   164    654    (61)   593 
Loans and Leases:                              
Real Estate   1,121    (208)   913    2,570    (353)   2,217 
Agricultural   55    24    79    79    (3)   76 
Commercial   118    (2)   116    248    116    364 
Consumer   (94)   26    (68)   (200)   74    (126)
Mortgage Warehouse   996    (225)   771    1,646    (415)   1,231 
Direct Financing Leases   (6)   -    (6)   (12)   (1)   (13)
Other   60    (42)   18    130    (87)   43 
Total Loans and Leases   2,250    (427)   1,823    4,461    (669)   3,792 
Total Interest Earning Assets  $2,516   $(529)  $1,987   $5,115   $(730)  $4,385 
Liabilities                              
Interest Bearing Deposits:                              
Demand Deposits  $9   $13   $22   $21   $19   $40 
NOW   16    (15)   1    40    (36)   4 
Savings Accounts   17    (40)   (23)   30    (81)   (51)
Money Market   12    (12)   -    24    (23)   1 
CDAR's   (1)   (4)   (5)   (2)   (10)   (12)
Certificates of Deposit < $100,000   (1)   (24)   (25)   (1)   (49)   (50)
Certificates of Deposit > $100,000   18    (70)   (52)   19    (131)   (112)
Brokered Deposits   (22)   -    (22)   (39)   1    (38)
Total Interest Bearing Deposits   48    (152)   (104)   92    (310)   (218)
Borrowed Funds:                              
Federal Funds Purchased   -    -    -   &