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Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

FORM 10-Q

 

 

 

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

For the quarterly period ended March 31, 2017

 

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

For the transition period from                      to                     

Commission file number 001-36895

 

 

FRANKLIN FINANCIAL NETWORK, INC.

(Exact name of registrant as specified in its charter)

 

 

 

Tennessee   20-8839445

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

722 Columbia Avenue

Franklin, Tennessee

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

615-236-2265

(Registrant’s telephone number, including area code)

N/A

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

 

 

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

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

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

 

Large accelerated filer      Accelerated filer  
Non-accelerated filer   ☐  (Do not check if a smaller reporting company)    Smaller reporting company  
Emerging growth company      Smaller reporting company  

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.  ☒

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

The number of shares outstanding of the registrant’s common stock, no par value per share, as of April 28, 2017, was 13,092,748.

 

 

 


Table of Contents

TABLE OF CONTENTS

 

Cautionary Note Regarding Forward-Looking Statements

     1  

PART I FINANCIAL INFORMATION

  

Item 1. Consolidated Financial Statements (unaudited)

  

Consolidated Balance Sheets

     2  

Consolidated Statements of Income

     3  

Consolidated Statements of Comprehensive Income

     4  

Consolidated Statement of Changes in Equity

     5  

Consolidated Statements of Cash Flows

     6  

Notes to Consolidated Financial Statements

     7  

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

     26  

Item 3. Quantitative and Qualitative Disclosures About Market Risk

     43  

Item 4. Controls and Procedures

     44  

PART II OTHER INFORMATION

  

Item 1. Legal Proceedings

     44  

Item 1A. Risk Factors

     44  

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

     45  

Item 3. Defaults Upon Senior Securities

     45  

Item 4. Mine Safety Disclosures

     45  

Item 5. Other Information

     45  

Item 6. Exhibits

     46  

SIGNATURES

  


Table of Contents

CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

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

Risks and uncertainties that could cause our actual results to differ materially from those described in forward-looking statements include those discussed in our filings with the Securities and Exchange Commission (“SEC”), including those described in Item 1A of our Annual Report on Form 10-K for the year ended December 31, 2016 and those described in Item 1A of Part II of this Quarterly Report on Form 10-Q.

 

1


Table of Contents

PART I FINANCIAL INFORMATION

 

ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS

FRANKLIN FINANCIAL NETWORK, INC.

CONSOLIDATED BALANCE SHEETS

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

 

     March 31,
2017
    December 31,
2016
 
     (Unaudited)        

ASSETS

    

Cash and due from financial institutions

   $ 114,664     $ 90,927  

Certificates of deposit at other financial institutions

     2,035       1,055  

Securities available for sale

     1,073,293       754,755  

Securities held to maturity (fair value 2017—$225,337 and 2016—$227,892)

     226,056       228,894  

Loans held for sale, at fair value

     12,682       23,699  

Loans

     1,949,715       1,773,592  

Allowance for loan losses

     (18,105     (16,553
  

 

 

   

 

 

 

Net loans

     1,931,610       1,757,039  
  

 

 

   

 

 

 

Restricted equity securities, at cost

     14,978       11,843  

Premises and equipment, net

     10,231       9,551  

Accrued interest receivable

     10,516       9,931  

Bank owned life insurance

     23,422       23,267  

Deferred tax asset

     15,824       15,013  

Foreclosed assets

     1,315       —    

Servicing rights, net

     3,593       3,621  

Goodwill

     9,124       9,124  

Core deposit intangible, net

     1,353       1,480  

Other assets

     4,092       2,990  
  

 

 

   

 

 

 

Total assets

   $ 3,454,788     $ 2,943,189  
  

 

 

   

 

 

 

LIABILITIES AND EQUITY

    

Deposits

    

Non-interest bearing

   $ 240,105     $ 233,781  

Interest bearing

     2,577,107       2,158,037  
  

 

 

   

 

 

 

Total deposits

     2,817,212       2,391,818  

Federal Home Loan Bank advances

     217,000       132,000  

Federal funds purchased and repurchase agreements

     70,430       83,301  

Subordinated notes, net

     58,381       58,337  

Accrued interest payable

     1,993       1,924  

Other liabilities

     11,262       5,448  
  

 

 

   

 

 

 

Total liabilities

     3,176,278       2,672,828  

Equity

    

Preferred stock, no par value: 1,000,000 shares authorized; no shares outstanding at March 31, 2017 and December 31, 2016

     —         —    

Common stock, no par value: 20,000,000 shares authorized; 13,064,110 and 13,036,954 issued at March 31, 2017 and December 31, 2016, respectively

     218,959       218,354  

Retained earnings

     67,320       59,386  

Accumulated other comprehensive loss

     (7,872     (7,482
  

 

 

   

 

 

 

Total shareholders’ equity

     278,407       270,258  

Noncontrolling interest in consolidated subsidiary

     103       103  
  

 

 

   

 

 

 

Total equity

   $ 278,510     $ 270,361  
  

 

 

   

 

 

 

Total liabilities and equity

   $ 3,454,788     $ 2,943,189  
  

 

 

   

 

 

 

See accompanying notes to consolidated financial statements.

 

2


Table of Contents

FRANKLIN FINANCIAL NETWORK, INC.

CONSOLIDATED STATEMENTS OF INCOME

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

(Unaudited)

 

    

Three Months Ended

March 31,

 
     2017      2016  

Interest income and dividends

     

Loans, including fees

   $ 22,560      $ 17,742  

Securities:

     

Taxable

     5,617        3,528  

Tax-Exempt

     2,020        1,122  

Dividends on restricted equity securities

     181        103  

Federal funds sold and other

     163        66  
  

 

 

    

 

 

 

Total interest income

     30,541        22,561  
  

 

 

    

 

 

 

Interest expense

     

Deposits

     5,246        3,077  

Federal funds purchased and repurchase agreements

     508        109  

Federal Home Loan Bank advances

     70        86  

Subordinated notes and other borrowings

     1,074        13  
  

 

 

    

 

 

 

Total interest expense

     6,898        3,285  
  

 

 

    

 

 

 

Net interest income

     23,643        19,276  

Provision for loan losses

     1,855        1,136  
  

 

 

    

 

 

 

Net interest income after provision for loan losses

     21,788        18,140  
  

 

 

    

 

 

 

Noninterest income

     

Service charges on deposit accounts

     30        49  

Other service charges and fees

     752        633  

Net gains on sale of loans

     2,334        1,608  

Wealth management

     593        368  

Loan servicing fees, net

     107        42  

Gain on sale or call of securities

     —          310  

Net gain on sale of foreclosed assets

     3        3  

Other

     189        72  
  

 

 

    

 

 

 

Total noninterest income

     4,008        3,085  
  

 

 

    

 

 

 

Noninterest expense

     

Salaries and employee benefits

     8,033        6,517  

Occupancy and equipment

     2,095        1,807  

FDIC assessment expense

     760        413  

Marketing

     267        217  

Professional fees

     1,035        1,094  

Amortization of core deposit intangible

     127        149  

Other

     1,959        1,634  
  

 

 

    

 

 

 

Total noninterest expense

     14,276        11,831  
  

 

 

    

 

 

 

Income before income tax expense

     11,520        9,394  

Income tax expense

     3,586        3,161  
  

 

 

    

 

 

 

Net income

     7,934        6,233  

Dividends paid on Series A preferred stock

     —          (23
  

 

 

    

 

 

 

Net income available to common shareholders

   $ 7,934      $ 6,210  
  

 

 

    

 

 

 

Earnings per share:

     

Basic

   $ 0.61      $ 0.59  

Diluted

     0.58        0.55  

See accompanying notes to consolidated financial statements.

 

3


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FRANKLIN FINANCIAL NETWORK, INC.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

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

(Unaudited)

 

    

Three Months Ended

March 31,

 
     2017     2016  

Net income

   $ 7,934     $ 6,233  

Other comprehensive income, net of tax:

    

Unrealized gains on securities:

    

Unrealized holding gain (loss) arising during the period

     (641     11,060  

Reclassification adjustment for gains included in net income

     —         (310
  

 

 

   

 

 

 

Net unrealized gain (loss)

     (641     10,750  

Tax effect

     251       (4,217
  

 

 

   

 

 

 

Total other comprehensive income (loss)

     (390     6,533  
  

 

 

   

 

 

 

Comprehensive income

   $ 7,545     $ 12,766  
  

 

 

   

 

 

 

See accompanying notes to consolidated financial statements.

 

4


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FRANKLIN FINANCIAL NETWORK, INC.

CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY

Three Months Ended March 31, 2017 and 2016

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

(Unaudited)

 

    Preferred     Common Stock     Retained    

Accumulated

Other

Comprehensive

    Noncontrolling     Total  
  Stock     Shares     Amount     Earnings     Income (Loss)     Interest     Equity  

Balance at December 31, 2015

  $ 10,000       10,571,377     $ 147,784     $ 31,352     $ (320   $ —       $ 188,816  

Exercise of common stock options, net

    —         13,018       118       —         —         —         118  

Exercise of common stock warrants

    —         3,150       38       —         —         —         38  

Redemption of Series A preferred stock

    (10,000     —         —         —         —         —         (10,000

Dividends paid on Series A preferred stock

    —         —         —         (23     —         —         (23

Stock based compensation expense, net of restricted share forfeitures

    —         2,378       258       —         —         —         258  

Stock issued in conjunction with 401(k) employer match, net of distributions

    —         (3,331     (63     —         —         —         (63

Net income

    —         —         —         6,233       —         —         6,233  

Other comprehensive income

    —         —         —         —         6,533       —         6,533  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Balance at March 31, 2016

  $ —         10,586,592     $ 148,135     $ 37,562     $ 6,213       —       $ 191,910  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Balance at December 31, 2016

  $ —         13,036,954     $ 218,354     $ 59,386     $ (7,482     103     $ 270,361  

Exercise of common stock options

    —         20,268       177       —         —         —         177  

Exercise of common stock warrants

    —         11,011       132       —         —         —         132  

Stock based compensation expense, net of restricted share forfeitures

    —         (180     447       —         —         —         447  

Stock issued in conjunction with 401(k) employer match, net of distributions

    —         (3,943     (151     —         —         —         (151

Net income

    —         —         —         7,934       —         —         7,934  

Other comprehensive loss

    —         —         —         —         (390     —         (390
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Balance at March 31, 2017

  $ —         13,064,110     $ 218,959     $ 67,320     $ (7,872     103     $ 278,510  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

See accompanying notes to consolidated financial statements.

 

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Table of Contents

FRANKLIN FINANCIAL NETWORK, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

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

(Unaudited)

 

    

Three Months Ended

March 31,

 
     2017     2016  

Cash flows from operating activities

    

Net income

   $ 7,934     $ 6,233  

Adjustments to reconcile net income to net cash from operating activities

    

Depreciation and amortization on premises and equipment

     368       322  

Accretion of purchase accounting adjustments

     (381     (360

Net amortization of securities

     2,452       1,504  

Amortization of loan servicing right asset

     213       251  

Amortization of core deposit intangible

     127       149  

Amortization of debt issuance costs

     44       —    

Provision for loan losses

     1,855       1,136  

Deferred income tax benefit

     (561     (2

Origination of loans held for sale

     (65,213     (59,381

Proceeds from sale of loans held for sale

     78,379       63,172  

Net gain on sale of loans

     (2,334     (1,608

Gain on sale of available for sale securities

     —         (310

Income from bank owned life insurance

     (155     (161

Gain on sale and write down of foreclosed assets

     —         (3

Loss on sale of assets held for sale

     —         98  

Stock-based compensation

     447       258  

Compensation expense related to common stock issued to 401(k) plan

     —         135  

Deferred gain on sale of loans

     (58     (20

Deferred gain on sale of foreclosed assets

     (3     —    

Net change in:

    

Accrued interest receivable and other assets

     (1,687     129  

Accrued interest payable and other liabilities

     5,944       2,212  
  

 

 

   

 

 

 

Net cash from operating activities

     27,371       13,754  

Cash flows from investing activities

    

Available for sale securities:

    

Sales

     —         48,772  

Purchases

     (363,298     (70,169

Maturities, prepayments and calls

     42,167       18,020  

Held to maturity securities:

    

Purchases

     (1,996     (1,245

Maturities, prepayments and calls

     4,335       1,435  

Net change in loans

     (177,360     (117,804

Proceeds from sale of assets held for sale

     —         1,542  

Purchase of restricted equity securities

     (3,135     (26

Purchases of premises and equipment, net

     (1,048     (758

Increase in certificates of deposits at other financial institutions

     (980     (815
  

 

 

   

 

 

 

Net cash from investing activities

     (501,315     (121,048

Cash flows from financing activities

    

Increase in deposits

     425,394       139,534  

Decrease in federal funds purchased and repurchase agreements

     (12,871     (51,493

Proceeds from Federal Home Loan Bank advances

     230,000       40,000  

Repayment of Federal Home Loan Bank advances

     (145,000     (40,000

Proceeds from other borrowings

     —         10,000  

Repayment of other borrowings

     —         (10,000

Proceeds from issuance of subordinated notes, net of issuance costs

     —         38,843  

Proceeds from exercise of common stock warrants

     132       38  

Proceeds from exercise of common stock options

     177       118  

Divestment of common stock issued to 401(k) plan

     (151     (63

Redemption of Series A preferred stock

     —         (10,000

Dividends paid on preferred stock

     —         (23
  

 

 

   

 

 

 

Net cash from financing activities

     497,681       116,954  
  

 

 

   

 

 

 

Net change in cash and cash equivalents

     23,737       9,660  

Cash and cash equivalents at beginning of period

     90,927       52,394  
  

 

 

   

 

 

 

Cash and cash equivalents at end of period

   $ 114,664     $ 62,054  
  

 

 

   

 

 

 

Supplemental information:

    

Interest paid

   $ 6,829     $ 2,993  

Income taxes paid

     530       1,125  

See accompanying notes to consolidated financial statements.

 

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FRANKLIN FINANCIAL NETWORK, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

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

(Unaudited)

NOTE 1— SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Basis of Presentation: The accompanying unaudited consolidated financial statements have been prepared in accordance with instructions to Form 10-Q and therefore do not include all information and footnotes necessary for a fair presentation of financial position, results of operations, and cash flows in conformity with U.S. generally accepted accounting principles (U.S. GAAP). All adjustments which are, in the opinion of management, necessary for a fair presentation of the results for the periods reported have been included as required by Regulation S-X, Rule 10-01. All such adjustments are of a normal recurring nature. It is suggested that these interim consolidated financial statements and notes be read in conjunction with the financial statements and accompanying notes included in the Company’s Annual Report on Form 10-K filed with the SEC on March 16, 2017.

These consolidated financial statements include the accounts of Franklin Financial Network, Inc. (“FFN”), and its wholly-owned subsidiaries, Franklin Synergy Bank (the “Bank”) and Franklin Synergy Risk Management, Inc. (collectively, the “Company”). Franklin Synergy Investments of Tennessee, Inc., Franklin Synergy Investments of Nevada, Inc., and Franklin Synergy Preferred Capital, Inc. are direct or indirect subsidiaries of Franklin Synergy Bank and are included in these consolidated financial statements. Significant intercompany transactions and accounts are eliminated in consolidation.

Recently Adopted Accounting Pronouncements: In March 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2016-09, “Compensation Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting.” Under ASU 2016-09 all excess tax benefits and tax deficiencies related to share-based payment awards should be recognized as income tax expense or benefit in the income statement during the period in which they occur. Previously, such amounts were recorded in the pool of excess tax benefits included in additional paid-in capital, if such pool was available. Because excess tax benefits are no longer recognized in additional paid-in capital, the assumed proceeds from applying the treasury stock method when computing earnings per share should exclude the amount of excess tax benefits that would have previously been recognized in additional paid-in capital. Additionally, excess tax benefits should be classified along with other income tax cash flows as an operating activity rather than a financing activity, as was previously the case. ASU 2016-09 also provides that an entity can make an entity-wide accounting policy election to either estimate the number of awards that are expected to vest (current Generally Accepted Accounting Principle (“GAAP”)) or account for forfeitures when they occur. ASU 2016-09 changes the threshold to qualify for equity classification (rather than as a liability) to permit withholding up to the maximum statutory tax rates (rather than the minimum as was previously the case) in the applicable jurisdictions. The Company elected to adopt ASU 2016-09 in the fourth quarter of 2016 and elected to not account for forfeitures as they occur. The ASU required adoption effective as of the first day of the fiscal year in which the standard was adopted, and a result the adoption of this ASU impacted previously reported quarterly earnings per share in first quarter 2016 by decreasing diluted earnings per share by $0.01. There were no stock options exercised in the first quarter of 2016.

Recently Issued, Not Yet Effective Accounting Pronouncements: In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers (Topic 606): Revenue from Contracts with Customers. ASU 2014-09 created a new topic in the FASB ASC, Topic 606. In addition to superseding and replacing nearly all existing U.S. GAAP revenue recognition guidance, including industry-specific guidance, ASU 2014-09 establishes a new control-based revenue recognition model, changes the basis for deciding when revenue is recognized over time or at a point in time, provides new and more detailed guidance on specific topics and expands and improves disclosures about revenue. In addition, ASU 2014-09 added a new Subtopic to the ASC, Other Assets and Deferred Costs: Contracts with Customers (“ASC 340-40”), to provide guidance on costs related to obtaining a contract with a customer and costs incurred in fulfilling a contract with a customer that are not in the scope of another ASC Topic. The new guidance does not apply to certain contracts within the scope of other ASC Topics, such as lease contracts, insurance contracts, financing arrangements, financial instruments, guarantees other than product or service warranties, and non-monetary exchanges between entities in the same line of business to facilitate sales to customers. The amendments are effective for annual periods and interim periods within those annual periods beginning after December 15, 2017. Since most of the Company’s revenues come from financial instruments which are not included in the scope of this ASU, adoption of this guidance is not expected to have a material impact on the Company’s financial statements.

In February 2016, FASB issued ASU 2016-02 which creates Topic 842, Leases and supersedes Topic 840, Leases. ASU 2016-02 is intended to improve financial reporting about leasing transactions, by increasing transparency and comparability among organizations. Under the new guidance, a lessee will be required to record all leases with lease terms of more than 12 months on their balance sheet as lease liabilities with a corresponding right-of-use asset. ASU 2016-02 maintains the dual model for lease accounting, requiring leases to be classified as either operating or finance, with lease classification determined in a manner similar to existing lease guidance. The new guidance will be effective for the Company for fiscal years beginning on or after December 15, 2018. Early adoption is permitted for all entities. At the time this ASU is adopted, the Company will recognize a right-of-use asset and a lease liability for all leases, which will initially be measured at the present value of lease payments, and a single lease cost calculated so that the costs of the leases are allocated over the terms of the Company’s leases on a generally straight-line basis. Since an asset will be recognized at the time of adoption, the Company’s regulatory capital ratios will likely be impacted. Management is evaluating the impact ASU 2016-02 will have on the Company’s financial statements.

 

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In June 2016, FASB issued ASU 2016-13, Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments. The ASU requires the measurement of all expected credit losses for financial assets held at the reporting date based on historical experience, current conditions, and reasonable and supportable forecasts. Financial institutions and other organizations will now use forward-looking information to better inform their credit loss estimates. Many of the loss estimation techniques applied today will still be permitted, although the inputs to those techniques will change to reflect the full amount of expected credit losses. Organizations will continue to use judgment to determine which loss estimation method is appropriate for their circumstances. The ASU requires enhanced disclosures to help investors and other financial statement users better understand significant estimates and judgments used in estimating credit losses, as well as the credit quality and underwriting standards of an organization’s portfolio. These disclosures include qualitative and quantitative requirements that provide additional information about the amounts recorded in the financial statements. In addition, the ASU amends the accounting for credit losses on available-for-sale debt securities and purchased financial assets with credit deterioration. The ASU is effective for the Company for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019 (i.e., January 1, 2020, for calendar year entities). Early application will be permitted for all organizations for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018. The Company is currently gathering information, reviewing possible vendors and has formed a committee to formulate the methodology to be used. Most importantly, the Company is gathering as much data as possible to enable review scenarios and to determine which calculations will produce the most reliable results. The impact of adopting ASU 2016-13 is not currently known.

In August 2016, FASB issued ASU 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments. This Accounting Standards Update addresses the following eight specific cash flow issues: Debt prepayment or debt extinguishment costs; settlement of zero-coupon debt instruments or other debt instruments with coupon interest rates that are insignificant in relation to the effective interest rate of the borrowing; contingent consideration payments made after a business combination; proceeds from the settlement of insurance claims; proceeds from the settlement of corporate-owned life insurance policies (COLIs) (including bank-owned life insurance policies (BOLIs)); distributions received from equity method investees; beneficial interests in securitization transactions; and separately identifiable cash flows and application of the predominance principle. The amendments in this Update are effective for the Company for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years. Early adoption is permitted, including adoption in an interim period. This ASU is not expected to have a material impact on the Company’s financial statements.

In January 2017, the FASB issued ASU No. 2017-04, “Simplifying the Test for Goodwill Impairment.” The guidance removes Step 2 of the goodwill impairment test, which requires a hypothetical purchase price allocation. Goodwill impairment will now be the amount by which a reporting unit’s carrying value exceeds its fair value, not to exceed the carrying amount of goodwill. All other goodwill impairment guidance will remain largely unchanged. ASU No. 2017-04 is effective for interim and annual reporting periods beginning after December 15, 2019, applied prospectively. Early adoption is permitted for any impairment tests performed after January 1, 2017. Adoption of ASU No. 2017-04 is not expected to have a material impact on the Company’s consolidated financial statements.

In March 2017, the FASB issued ASU No. 2017-08, “Receivables—Nonrefundable Fees and Other Costs (Subtopic 310-20): Premium Amortization on Purchased Callable Debt Securities.” This Update shortens the amortization period for the premium on certain purchased callable debt securities to the earliest call date. The Company currently amortizes the premium on callable debt securities over the contractual life of the security. The new guidance does not change the accounting for purchased callable debt securities held at a discount; the discount continues to be amortized to maturity. ASU No. 2017-08 is effective for interim and annual reporting periods beginning after December 15, 2018, and early adoption is permitted. The guidance calls for a modified retrospective transition approach under which a cumulative-effect adjustment will be made to retained earnings as of the beginning of the first reporting period in which the guidance is adopted. The Company is currently evaluating the provisions of ASU No. 2017-08 to determine the potential impact the new standard will have on the Company’s consolidated financial statements.

NOTE 2—SECURITIES

The following table summarizes the amortized cost and fair value of the available for sale securities portfolio at March 31, 2017 and December 31, 2016 and the corresponding amounts of gross unrealized gains and losses recognized in accumulated other comprehensive income.

 

     Amortized
Cost
     Gross
Unrealized
Gains
     Gross
Unrealized
Losses
     Fair
Value
 

March 31, 2017

           

U.S. government sponsored entities and agencies

   $ 70,099      $ —        $ (148    $ 69,951  

Mortgage-backed securities: residential

     836,278        993        (9,240      828,031  

Mortgage-backed securities: commercial

     19,352        19        (100      19,271  

State and political subdivisions

     160,513        525        (4,998      156,040  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 1,086,242      $ 1,537      $ (14,486    $ 1,073,293  
  

 

 

    

 

 

    

 

 

    

 

 

 

 

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Table of Contents
     Amortized
Cost
     Gross
Unrealized
Gains
     Gross
Unrealized
Losses
     Fair
Value
 

December 31, 2016

           

Mortgage-backed securities: residential

   $ 614,344      $ 949      $ (8,208    $ 607,085  

Mortgage-backed securities: commercial

     19,439        27        (132      19,334  

State and political subdivisions

     133,280        238        (5,182      128,336  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 767,063      $ 1,214      $ (13,522    $ 754,755  
  

 

 

    

 

 

    

 

 

    

 

 

 

The amortized cost and fair value of the held to maturity securities portfolio at  March 31, 2017 and December 31, 2016 and the corresponding amounts of gross unrecognized gains and losses were as follows:

 

     Amortized
Cost
     Gross
Unrecognized
Gains
     Gross
Unrecognized
Losses
     Fair
Value
 

March 31, 2017

           

Mortgage backed securities: residential

   $ 103,788      $ 318      $ (2,367    $ 101,739  

State and political subdivisions

     122,268        1,483        (153      123,598  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 226,056      $ 1,801      $ (2,520    $ 225,337  
  

 

 

    

 

 

    

 

 

    

 

 

 
     Amortized
Cost
     Gross
Unrecognized
Gains
     Gross
Unrecognized
Losses
     Fair
Value
 

December 31, 2016

           

U.S. government sponsored entities and agencies

   $ 203      $ 6      $ —        $ 209  

Mortgage backed securities: residential

     106,169        328        (2,343      104,154  

State and political subdivisions

     122,522        1,214        (207      123,529  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 228,894      $ 1,548      $ (2,550    $ 227,892  
  

 

 

    

 

 

    

 

 

    

 

 

 

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

 

    

Three Months Ended

March 31,

 
     2017      2016  

Proceeds

   $ —        $ 48,772  

Gross gains

     —          693  

Gross losses

     —          (383

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

 

     March 31, 2017  
     Amortized
Cost
     Fair
Value
 

Available for sale

     

One year or less

   $ 15,000      $ 14,884  

Over one year through five years

     70,099        69,951  

Over five years through ten years

     4,730        4,768  

Over ten years

     140,783        136,388  

Mortgage-backed securities: residential

     836,278        828,031  

Mortgage-backed securities: commercial

     19,352        19,271  
  

 

 

    

 

 

 

Total

   $ 1,086,242      $ 1,073,293  
  

 

 

    

 

 

 

Held to maturity

     

Over one year through five years

   $ 1,104      $ 1,136  

Over five years through ten years

     5,198        5,277  

Over ten years

     115,966        117,185  

Mortgage-backed securities: residential

     103,788        101,739  
  

 

 

    

 

 

 

Total

   $ 226,056      $ 225,337  
  

 

 

    

 

 

 

 

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Securities pledged at March 31, 2017 and December 31, 2016 had a carrying amount of $1,105,158 and $808,224 and were pledged to secure public deposits and repurchase agreements.

At March 31, 2017 and December 31, 2016, there were no holdings of securities of any one issuer, other than the U.S. government-sponsored entities and agencies, in an amount greater than 10% of shareholders’ equity.

The following table summarizes the securities with unrealized and unrecognized losses at March 31, 2017 and December 31, 2016, aggregated by major security type and length of time in a continuous unrealized loss position:

 

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

March 31, 2017

               

Available for sale

               

U.S. government sponsored entities and agencies

   $ 69,951      $ (148   $ —        $ —       $ 69,951      $ (148

Mortgage-backed securities:

               

residential

     656,782        (8,708     14,544        (532     671,326        (9,240

Mortgage-backed securities:

               

commercial

     15,715        (100     —          —         15,715        (100

State and political subdivisions

     103,229        (4,998     —          —         103,229        (4,998
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total available for sale

   $ 845,677      $ (13,954   $ 14,544      $ (532   $ 860,221      $ (14,486
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

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

Held to maturity

               

Mortgage-backed securities:

               

residential

   $ 86,722      $ (2,262   $ 2,868      $ (105   $ 89,590      $ (2,367

State and political subdivisions

     16,937        (153     —          —         16,937        (153
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total held to maturity

   $ 103,659      $ (2,415   $ 2,868      $ (105   $ 106,527      $ (2,520
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

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

December 31, 2016

               

Available for sale

               

Mortgage-backed securities:

               

residential

   $ 465,416      $ (7,833   $ 9,907      $ (375   $ 475,323      $ (8,208

Mortgage-backed securities:

               

commercial

     15,752        (132     —          —         15,752        (132

State and political subdivisions

     100,020        (5,182     —          —         100,020        (5,182
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total available for sale

   $ 581,188      $ (13,147   $ 9,907      $ (375   $ 591,095      $ (13,522
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

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

Held to maturity

               

Mortgage-backed securities:

               

residential

   $ 89,523      $ (2,244   $ 3,025      $ (99   $ 92,548      $ (2,343

State and political subdivisions

     18,907        (207     —          —         18,907        (207
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total held to maturity

   $ 108,430      $ (2,451   $ 3,025      $ (99   $ 111,455      $ (2,550
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

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

 

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NOTE 3—LOANS

Loans at March 31, 2017 and December 31, 2016 were as follows:

 

     March 31,
2017
     December 31,
2016
 
Loans that are not PCI loans      

Construction and land development

   $ 499,272      $ 489,562  

Commercial real estate:

     

Nonfarm, nonresidential

     509,060        458,569  

Other

     39,690        38,571  

Residential real estate:

     

Closed-end 1-4 family

     299,439        254,474  

Other

     151,530        150,515  

Commercial and industrial

     445,398        376,476  

Consumer and other

     3,853        3,359  
  

 

 

    

 

 

 

Loans before net deferred loan fees

     1,948,242        1,771,526  

Deferred loan fees, net

     (971      (793
  

 

 

    

 

 

 

Total loans that are not PCI loans

     1,947,271        1,770,733  

Total PCI loans

     2,444        2,859  

Allowance for loan losses

     (18,105      (16,553
  

 

 

    

 

 

 

Total loans, net of allowance for loan losses

   $ 1,931,610      $ 1,757,039  
  

 

 

    

 

 

 

The following table presents the activity in the allowance for loan losses by portfolio segment for the three month periods ended March 31, 2017 and 2016:

 

     Construction
and Land
Development
     Commercial
Real
Estate
     Residential
Real
Estate
    Commercial
and
Industrial
    Consumer
and
Other
    Total  
Three Months Ended March 31, 2017               

Allowance for loan losses:

              

Beginning balance

   $ 3,776      $ 4,266      $ 2,398     $ 6,068     $ 45     $ 16,553  

Provision for loan losses

     61        393        262       1,117       22       1,855  

Loans charged-off

     —          —          —         (300     (23     (323

Recoveries

     —          —          12       —         8       20  
  

 

 

    

 

 

    

 

 

   

 

 

   

 

 

   

 

 

 

Total ending allowance balance

   $ 3,837      $ 4,659      $ 2,672     $ 6,885     $ 52     $ 18,105  
  

 

 

    

 

 

    

 

 

   

 

 

   

 

 

   

 

 

 
Three Months Ended March 31, 2016               

Allowance for loan losses:

              

Beginning balance

   $ 3,186      $ 3,146      $ 1,861     $ 3,358     $ 36     $ 11,587  

Provision for loan losses

     192        418        (89     582       33       1,136  

Loans charged-off

     —          —          —         (65     (11     (76

Recoveries

     —          —          28       —         1       29  
  

 

 

    

 

 

    

 

 

   

 

 

   

 

 

   

 

 

 

Total ending allowance balance

   $ 3,378      $ 3,564      $ 1,800     $ 3,875     $ 59     $ 12,676  
  

 

 

    

 

 

    

 

 

   

 

 

   

 

 

   

 

 

 

 

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As of March 31, 2017 and December 31, 2016, there was $1 and $0, respectively, in allowance for loan losses for PCI loans.

The following table presents the balance in the allowance for loan losses and the recorded investment in loans by portfolio segment and based on impairment method as of March 31, 2017 and December 31, 2016. For purposes of this disclosure, recorded investment in loans excludes accrued interest receivable and loan fees, net due to immateriality.

 

     Construction
and Land
Development
     Commercial
Real
Estate
     Residential
Real
Estate
     Commercial
and
Industrial
     Consumer
and
Other
     Total  
March 31, 2017                  

Allowance for loan losses:

                 

Ending allowance balance attributable to loans:

                 

Individually evaluated for impairment

   $ —        $ —        $ —        $ 739      $ —        $ 739  

Collectively evaluated for impairment

     3,837        4,659        2,672        6,145        52        17,365  

Purchased credit-impaired loans

     —          —          —          1        —          1  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total ending allowance balance

   $ 3,837      $ 4,659      $ 2,672      $ 6,885      $ 52      $ 18,105  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Loans:

                 

Individually evaluated for impairment

   $ —        $ 2,560      $ 1,464      $ 3,192      $ —        $ 7,216  

Collectively evaluated for impairment

     499,272        546,190        449,505        442,206        3,853        1,941,026  

Purchased credit-impaired loans

     —          408        189        1,847        —          2,444  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total ending loans balance

   $ 499,272      $ 549,158      $ 451,158      $ 447,245      $ 3,853      $ 1,950,686  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 
December 31, 2016                  

Allowance for loan losses:

                 

Ending allowance balance attributable to loans:

                 

Individually evaluated for impairment

   $ —        $ —        $ —        $ 1,024      $ —        $ 1,024  

Collectively evaluated for impairment

     3,776        4,266        2,398        5,044        45        15,529  

Purchased credit-impaired loans

     —          —          —          —          —          —    
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total ending allowance balance

   $ 3,776      $ 4,266      $ 2,398      $ 6,068      $ 45      $ 16,553  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Loans:

                 

Individually evaluated for impairment

   $ 1,275      $ 2,836      $ 2,190      $ 3,608      $ —        $ 9,909  

Collectively evaluated for impairment

     488,287        494,304        402,799        372,868        3,359        1,761,617  

Purchased credit-impaired loans

     —          394        496        1,969        —          2,859  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total ending loans balance

   $ 489,562      $ 497,534      $ 405,485      $ 378,445      $ 3,359      $ 1,774,385  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

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Table of Contents

The following table presents information related to impaired loans by class of loans as of March 31, 2017 and December 31, 2016:

 

     Unpaid
Principal
Balance
     Recorded
Investment
     Allowance for
Loan Losses
Allocated
 
March 31, 2017         

With no allowance recorded:

        

Commercial real estate:

        

Nonfarm, nonresidential

   $ 4,146      $ 2,560      $ —    

Residential real estate:

        

Closed-end 1-4 family

     1,344        1,344        —    

Other

     120        120        —    

Commercial and industrial

     802        802        —    
  

 

 

    

 

 

    

 

 

 

Subtotal

     6,412        4,826        —    

With an allowance recorded:

        

Commercial and industrial

     2,390        2,390        739  
  

 

 

    

 

 

    

 

 

 

Subtotal

     2,390        2,390        739  
  

 

 

    

 

 

    

 

 

 

Total

   $ 8,802      $ 7,216      $ 739  
  

 

 

    

 

 

    

 

 

 
December 31, 2016         

With no allowance recorded:

        

Construction and land development

   $ 1,275      $ 1,275      $ —    

Commercial real estate:

        

Nonfarm, nonresidential

     4,423        2,836        —    

Residential real estate:

        

Closed-end 1-4 family

     2,069        2,069        —    

Other

     121        121        —    

Commercial and industrial

     934        934        —    
  

 

 

    

 

 

    

 

 

 

Subtotal

     8,822        7,235        —    
  

 

 

    

 

 

    

 

 

 

With an allowance recorded:

        

Commercial and industrial

     2,864        2,674        1,024  
  

 

 

    

 

 

    

 

 

 

Subtotal

     2,864        2,674        1,024  
  

 

 

    

 

 

    

 

 

 

Total

   $ 11,686      $ 9,909      $ 1,024  
  

 

 

    

 

 

    

 

 

 

 

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Table of Contents

The following table presents the average recorded investment of impaired loans by class of loans for the three months ended March 31, 2017 and 2016:

 

    

Three Months Ended

March 31,

 
     2017      2016  
Average Recorded Investment      

With no allowance recorded:

     

Construction and land development

   $ —        $ 898  

Commercial real estate:

     

Nonfarm, nonresidential

     4,128        1,402  

Residential real estate:

     

Closed-end 1-4 family

     1,799        736  

Other

     120        712  

Commercial and industrial

     —          21  
  

 

 

    

 

 

 

Subtotal

     6,047        3,769  
  

 

 

    

 

 

 

With an allowance recorded:

     

Commercial and industrial

   $ 2,585      $ 86  
  

 

 

    

 

 

 

Subtotal

     2,585        86  
  

 

 

    

 

 

 

Total

   $ 8,632      $ 3,855  
  

 

 

    

 

 

 

The impact on net interest income for these loans was not material to the Company’s results of operations for the three months ended March 31, 2017 and 2016.

The following table presents the recorded investment in nonaccrual and loans past due over 90 days still on accrual by class of loans as of March 31, 2017 and December 31, 2016:

 

     Nonaccrual      Loans Past Due
Over 90 Days
 
March 31, 2017      

Construction and land development

   $ —        $ 200  

Commercial real estate:

     

Nonfarm, nonresidential

     835        —    

Residential real estate:

     

Closed-end 1-4 family

     —          388  

Other

     120        —    

Commercial and industrial

     2,391        102  
  

 

 

    

 

 

 

Total

   $ 3,346      $ 690  
  

 

 

    

 

 

 
December 31, 2016      

Construction and land development

   $ —        $ 1,950  

Commercial real estate:

     

Nonfarm, nonresidential

     835        —    

Residential real estate:

     

Closed-end 1-4 family

     —          452  

Other

     121        —    

Commercial and industrial

     2,674        150  
  

 

 

    

 

 

 

Total

   $ 3,630      $ 2,552  
  

 

 

    

 

 

 

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

 

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The following table presents the aging of the recorded investment in past due loans as of March 31, 2017 and December 31, 2016 by class of loans:

 

    30-59
Days
Past Due
    60-89
Days
Past Due
    Greater
Than 89
Days
Past Due
    Nonaccrual     Total
Past Due
and
Nonaccrual
    Loans
Not
Past Due
    PCI
Loans
    Total  
March 31, 2017                

Construction and land development

  $ —       $ 641     $ 200     $ —       $ 841     $ 498,431     $ —       $ 499,272  

Commercial real estate:

               

Nonfarm, nonresidential

    2,372       —         —         835       3,207       505,853       408       509,468  

Other

    —         —         —         —         —         39,690       —         39,690  

Residential real estate:

               

Closed-end 1-4 family

    1,665       —         388       —         2,053       297,386       189       299,628  

Other

    —         —         —         120       120       151,410       —         151,530  

Commercial and industrial

    154       —         102       2,391       2,647       442,751       1,847       447,245  

Consumer and other

    7       —         —         —         7       3,846       —         3,853  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 
  $ 4,198     $ 641     $ 690     $ 3,346     $ 8,875     $ 1,939,367     $ 2,444     $ 1,950,686  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 
    30-59
Days
Past Due
    60-89
Days
Past Due
    Greater
Than 89
Days
Past Due
    Nonaccrual     Total
Past Due
    Loans
Not
Past Due
    PCI
Loans
    Total  
December 31, 2016                

Construction and land development

  $ 380     $ —       $ 1,950     $ —       $ 2,330     $ 487,232     $ —       $ 489,562  

Commercial real estate:

               

Nonfarm, nonresidential

    664       —         —         835       1,499       457,070       394       458,963  

Other

    —         —         —         —         —         38,571       —         38,571  

Residential real estate:

               

Closed-end 1-4 family

    428       10       452       —         890       253,584       496       254,970  

Other

    231       —         —         121       352       150,163       —         150,515  

Commercial and industrial

    155       39       150       2,674       3,018       373,458       1,969       378,445  

Consumer and other

    —         —         —           —         3,359       —         3,359  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 
  $ 1,858     $ 49     $ 2,552     $ 3,630     $ 8,089     $ 1,763,437     $ 2,859     $ 1,774,385  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

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

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

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

 

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Table of Contents

Loans not meeting the criteria above that are analyzed individually as part of the above described process are considered to be pass rated loans. The following table includes PCI loans, which are included in the “Substandard” column. Based on the most recent analysis performed, the risk category of loans by class of loans is as follows as of March 31, 2017 and December 31, 2016:

 

     Pass      Special
Mention
     Substandard      Total  

March 31, 2017

           

Construction and land development

   $ 499,272      $ —        $ —        $ 499,272  

Commercial real estate:

           

Nonfarm, nonresidential

     502,021        —          7,447        509,468  

Other

     39,690        —          —          39,690  

Residential real estate:

           

Closed-end 1-4 family

     297,995        —          1,633        299,628  

Other

     150,521        —          1,009        151,530  

Commercial and industrial

     442,567        —          4,678        447,245  

Consumer and other

     3,853        —          —          3,853  
  

 

 

    

 

 

    

 

 

    

 

 

 
   $ 1,935,919      $ —        $ 14,767      $ 1,950,686  
  

 

 

    

 

 

    

 

 

    

 

 

 
     Pass      Special
Mention
     Substandard      Total  

December 31, 2016

           

Construction and land development

   $ 488,287      $ —        $ 1,275      $ 489,562  

Commercial real estate:

           

Nonfarm, nonresidential

     449,373        1,847        7,743        458,963  

Other

     38,571        —          —          38,571  

Residential real estate:

           

1-4 family

     251,919        —          3,051        254,970  

Other

     149,504        —          1,011        150,515  

Commercial and industrial

     373,243        —          5,202        378,445  

Consumer and other

     3,359        —          —          3,359  
  

 

 

    

 

 

    

 

 

    

 

 

 
   $ 1,754,256      $ 1,847      $ 18,282      $ 1,774,385  
  

 

 

    

 

 

    

 

 

    

 

 

 

Troubled Debt Restructurings

As of both March 31, 2017 and December 31, 2016, the Company’s loan portfolio contains one loan for $698 that has been modified in a troubled debt restructuring.

NOTE 4—LOAN SERVICING

Loans serviced for others are not reported as assets. The principal balances of these loans at March 31, 2017 and December 31, 2016 are as follows:

 

     March 31,
2017
     December 31,
2016
 

Loan portfolios serviced for:

     

Federal Home Loan Mortgage Corporation

   $ 503,294      $ 499,385  

Other

     2,043        2,954  

The components of net loan servicing fees for the three months ended March 31, 2017 and 2016 were as follows:

 

     Three Months Ended
March 31,
 
     2017      2016  

Loan servicing fees, net:

     

Loan servicing fees

   $ 320      $ 293  

Amortization of loan servicing fees

     (213      (251

Change in impairment

     —          —    
  

 

 

    

 

 

 

Total

   $ 107      $ 42  
  

 

 

    

 

 

 

The fair value of servicing rights was estimated by management to be approximately $5,154 at March 31, 2017. Fair value for March 31, 2017 was determined using a weighted average discount rate of 10.5% and a weighted average prepayment speed of 9.5%. At December 31, 2016, the fair value of servicing rights was estimated by management to be approximately $4,635. Fair value for December 31, 2016 was determined using a weighted average discount rate of 10.5% and a weighted average prepayment speed of 10.2%.

 

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Table of Contents

NOTE 5—SECURITIES SOLD UNDER AGREEMENT TO REPURCHASE

Our subsidiary bank enters into borrowing arrangements with our retail business customers and correspondent banks through agreements to repurchase (“securities sold under agreements to repurchase”) under which the bank pledges investment securities owned and under its control as collateral against these short-term borrowing arrangements. At maturity the securities underlying the agreements are returned to the Company. At March 31, 2017 and December 31, 2016, these short-term borrowings totaled $31,339 and $36,496, respectively, and were secured by securities with carrying amounts of $41,604 and $41,136, respectively. At March 31, 2017, all of the Company’s repurchase agreements had one-day maturities.

The following table provides additional details as of March 31, 2017:

 

As of March 31, 2017

   U.S.
Government
Sponsored
Entities and
Agencies
Securities
    Mortgage-
Backed
Securities:
Residential
    State and
Political
Subdivisions
    Total  

Market value of securities pledged

   $ 60     $ 49     $ 42,011     $ 42,120  

Borrowings related to pledged amounts

   $ —       $ —       $ 31,339     $ 31,339  

Market value pledged as a % of borrowings

     —       —       134     134

The following table provides additional details as of December 31, 2016:

 

As of December 31, 2016

   U.S.
Government
Sponsored
Entities and
Agencies
Securities
    Mortgage-
Backed
Securities:
Residential
    State and
Political
Subdivisions
    Total  

Market value of securities pledged

   $ 209     $ 117     $ 41,330     $ 41,656  

Borrowings related to pledged amounts

   $ —       $ —       $ 36,496     $ 36,496  

Market value pledged as a % of borrowings

     —       —       113     114

NOTE 6—SHARE-BASED PAYMENTS

In connection with the Company’s 2010 private offering, 32,425 warrants were issued to shareholders, one warrant for every twenty shares of common stock purchased. Each warrant allows the shareholders to purchase an additional share of common stock at $12.00 per share. The warrants were issued with an effective date of March 30, 2010 and were exercisable in whole or in part up to March 30, 2017. The warrants were detachable from the common stock. There were 11,011 and 3,150 warrants exercised during the three months ended March 31, 2017 and 2016, respectively. A summary of the stock warrant activity for the three months ended March 31, 2017 and 2016 follows:

 

     2017      2016  

Stock warrants exercised:

     

Intrinsic value of warrants exercised

   $ 291      $ 61  

Cash received from warrants exercised

     132        38  

The Company has two share based compensation plans as described below. Total compensation cost that has been charged against income for those plans was $447 and $258 for the three months ended March 31, 2017 and 2016, respectively. The total income tax benefit was $93 for the three months ended March 31, 2017, which is shown on the Consolidated Statements of Income as a reduction of income tax expense. Since no options were exercised in the first quarter of 2016, there was no excess tax benefit from the exercise of stock options for the three months ended March 31, 2016.

Stock Option Plan: The Company’s 2007 Stock Option Plan (“stock option plan” or the “Plan”), as amended and shareholder-approved, provides for authorized shares up to 4,000,000. At March 31, 2017, there were 1,989,762 authorized shares available for issuance.

The 2007 Omnibus Equity Incentive Plan provides that no options intended to be ISOs may be granted after April 9, 2017. As a result, FFN’s board of directors has determined that it is in the best interests of FFN and its shareholders to adopt a new equity incentive plan, the 2017 Omnibus Equity Incentive Plan. The terms of the 2017 Omnibus Equity Incentive Plan are substantially similar to the terms of the 2007 Omnibus Equity Incentive Plan. If FFN’s shareholders approve the 2017 Omnibus Equity Incentive Plan at the 2017 annual meeting scheduled to be held on May 25, 2017, FFN’s board of directors will freeze the 2007 Omnibus Equity Incentive Plan and cease issuing any awards under the 2007 Omnibus Equity Incentive Plan.

 

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Table of Contents

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

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

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

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

 

     March 31,
2017
    March 31,
2016
 

Risk-free interest rate

     2.28     1.99

Expected term

     7.4 years       7.5 years  

Expected stock price volatility

     34.20     29.14

Dividend yield

     0.04     0.24

The weighted average fair value of options granted for the three months ended March 31, 2017 and 2016 were $17.25 and $10.45, respectively.

A summary of the activity in the stock option plans for the three months ended March 31, 2017 follows:

 

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

Outstanding at beginning of year

     1,395,016      $ 16.70        6.39      $ 35,090  

Granted

     25,500        41.85        

Exercised

     (21,581      10.64        

Forfeited, expired, or cancelled

     (430      25.30        
  

 

 

          

Outstanding at period end

     1,398,505      $ 17.25        6.25      $ 30,074  
  

 

 

    

 

 

    

 

 

    

 

 

 

Vested or expected to vest

     1,328,580      $ 17.25        6.25      $ 29,584  

Exercisable at period end

     726,927      $ 11.77        4.46      $ 19,790  
  

 

 

    

 

 

    

 

 

    

 

 

 

 

     For the three months
ended March 31,
 
     2017      2016  

Stock options exercised:

     

Intrinsic value of options exercised

   $ 610      $ 242  

Cash received from options exercised

     177        118  

Tax benefit realized from option exercises

     93        —    

As of March 31, 2017, there was $3,826 of total unrecognized compensation cost related to non-vested stock options granted under the Plan. The cost is expected to be recognized over a weighted-average period of 3.8 years.

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

 

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Table of Contents

A summary of activity for non-vested restricted share awards for the three months ended March 31, 2017 is as follows:

 

Non-vested Shares

   Shares      Weighted-Average
Grant-Date
Fair Value
 

Non-vested at December 31, 2016

     106,458      $ 19.81  

Granted

     —          —    

Vested

     —          —    

Forfeited

     (180      25.67  
  

 

 

    

Non-vested at March 31, 2017

     106,278      $ 19.80  
  

 

 

    

Compensation expense associated with the restricted share awards is recognized on a straight-line basis over the time period that the restrictions associated with the awards lapse based on the total cost of the award at the grant date. As of March 31, 2017, there was $1,524 of total unrecognized compensation cost related to non-vested shares granted under the Plan. The cost is expected to be recognized over a weighted-average period of 3.28 years. There were no shares that vested during the three months ended March 31, 2017 or 2016.

NOTE 7—REGULATORY CAPITAL MATTERS

Banks and bank holding companies are subject to regulatory capital requirements administered by federal banking agencies. Capital adequacy guidelines and, additionally for banks, prompt corrective action regulations, involve quantitative measures of assets, liabilities, and certain off-balance-sheet items calculated under regulatory accounting practices. Capital amounts and classifications are also subject to qualitative judgments by regulators. Failure to meet capital requirements can initiate regulatory action. The final rules implementing Basel Committee on Banking Supervision’s capital guidelines for U.S. Banks (Basel III rules) became effective for the Company on January 1, 2016 with full compliance with all of the requirements being phased in over a multi-year schedule, and fully phased in by January 1, 2019.

The Basel III rules additionally provide for countercyclical capital requirements so that the required amount of capital increases in times of economic expansion and decreases in times of economic contraction, consistent with safety and soundness. Under the Basel III rules, banks must maintain a capital conservation buffer consisting of additional Common Equity Tier 1 Capital equal to 2.5% of risk-weighted assets above each of the required minimum capital levels in order to avoid limitations on paying dividends, engaging in share repurchases, and paying certain discretionary bonuses. This new capital conservation buffer requirement was phased in beginning January 2016 at 0.625% of risk-weighted assets and will increase each year until fully implemented at 2.5% in January 2019. The capital conservation buffer in effect for 2017 is 1.25%.

Prompt corrective action regulations provide five classifications: well capitalized, adequately capitalized, undercapitalized, significantly undercapitalized, and critically undercapitalized, although these terms are not used to represent overall financial condition. If adequately capitalized, regulatory approval is required to accept brokered deposits. If undercapitalized, capital distributions are limited, as is asset growth and expansion, and capital restoration plans are required. At March 31, 2017, the most recent regulatory notifications categorized the Bank as well capitalized under the regulatory framework for prompt corrective action. Management believes that, as of March 31, 2017, the Company and Bank met all capital adequacy requirements to which they are subject. There are no conditions or events since that notification that management believes have changed the institution’s category.

 

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Table of Contents

Actual and required capital amounts and ratios are presented below as of March 31, 2017 and December 31, 2016 for the Company and Bank:

 

    Actual     Required
For Capital
Adequacy Purposes
    To Be Well
Capitalized Under
Prompt Corrective
Action Regulations
 
    Amount     Ratio     Amount     Ratio     Amount     Ratio  

March 31, 2017

           

Company common equity Tier 1 capital to risk-weighted assets

  $ 272,242       11.32   $ 108,178       4.50     N/A       N/A  

Company Total Capital to risk weighted assets

  $ 348,821       14.51   $ 192,316       8.00     N/A       N/A  

Company Tier 1 (Core) Capital to risk weighted assets

  $ 272,242       11.32   $ 144,237       6.00     N/A       N/A  

Company Tier 1 (Core) Capital to average assets

  $ 272,242       8.36   $ 130,289       4.00     N/A       N/A  

Bank common equity Tier 1 capital to risk-weighted assets

  $ 327,134       13.58   $ 108,376       4.50   $ 156,544       6.50

Bank Total Capital to risk weighted assets

  $ 345,332       14.34   $ 192,669       8.00   $ 240,836       10.00

Bank Tier 1 (Core) Capital to risk weighted assets

  $ 327,134       13.58   $ 144,502       6.00   $ 192,669       8.00

Bank Tier 1 (Core) Capital to average assets

  $ 327,134       10.05   $ 130,201       4.00   $ 162,751       5.00

December 31, 2016

           

Company common equity Tier 1 capital to risk-weighted assets

  $ 263,693       11.75   $ 101,022       4.50     N/A       N/A  

Company Total Capital to risk weighted assets

  $ 338,675       15.09   $ 179,595       8.00     N/A       N/A  

Company Tier 1 (Core) Capital to risk weighted assets

  $ 263,693       11.75   $ 134,696       6.00     N/A       N/A  

Company Tier 1 (Core) Capital to average assets

  $ 263,693       9.28   $ 113,697       4.00     N/A       N/A  

Bank common equity Tier 1 capital to risk-weighted assets

  $ 319,005       14.18   $ 101,216       4.50   $ 146,201       6.50

Bank Total Capital to risk weighted assets

  $ 335,650       14.92   $ 179,939       8.00   $ 224,924       10.00

Bank Tier 1 (Core) Capital to risk weighted assets

  $ 319,005       14.18   $ 134,954       6.00   $ 179,939       8.00

Bank Tier 1 (Core) Capital to average assets

  $ 319,005       11.22   $ 113,697       4.00   $ 142,122       5.00

Note: Minimum ratios presented exclude the capital conservation buffer

Dividend Restrictions: The Company’s principal source of funds for dividend payments is dividends received from the Bank. Banking regulations limit the amount of dividends that may be paid without prior approval of regulatory agencies. Under these regulations, the amount of dividends that may be paid in any calendar year is limited to the current year’s net profits, combined with the retained net profits of the preceding two years, subject to the capital requirements described above. Neither the Company nor the Bank may currently pay dividends without prior written approval from its primary regulatory agencies.

NOTE 8—FAIR VALUE

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

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

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

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

Securities: The fair values for investment securities are determined by quoted market prices, if available (Level 1). For securities where quoted prices are not available, fair values are calculated based on market prices of similar securities (Level 2), using matrix pricing. Matrix pricing is a mathematical technique commonly used to price debt securities that are not actively traded, values debt securities without relying exclusively on quoted prices for the specific securities but rather by relying on the securities’ relationship to other benchmark quoted securities (Level 2 inputs). For securities where quoted prices or market prices of similar securities are not available, fair values are calculated using discounted cash flows or other market indicators (Level 3).

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

 

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Table of Contents

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

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

Appraisals for both collateral-dependent impaired loans and real estate owned are performed by certified general appraisers (for commercial properties) or certified residential appraisers (for residential properties) whose qualifications and licenses have been review and verified by the Company. Once received, a member of the credit administration department reviews the assumptions and approaches utilized in the appraisal as well as the overall resulting fair value in comparison with independent data sources such as recent market data or industry-wide statistics. On an annual basis, the Company compares the actual selling price of collateral that has been sold to the most recent appraised value to determine what additional adjustment should be made to the appraisal value to arrive at fair value.

Loans Held For Sale: The Company has elected the fair value option for loans held for sale to align with other accounting policies related to mortgage banking, such as mortgage banking derivatives. These loans are typically sold to an investor following loan origination and the fair value of such accounts are readily available based on direct quotes from investors or similar transactions experienced in the secondary loan market. Fair value adjustments, as well as realized gains and losses are recorded in current earnings. Fair value is determined by market prices for similar transactions adjusted for specific attributes of that loan (Level 2).

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

 

     Fair Value Measurements at
March 31, 2017 Using:
 
     Quoted Prices
in Active
Markets for
Identical Assets
(Level 1)
     Significant
Other
Observable
Inputs
(Level 2)
     Significant
Unobservable
Inputs
(Level 3)
 

Financial Assets

        

Securities available for sale

        

U.S. government sponsored entities and agencies

   $ —        $ 69,951      $ —    

Mortgage-backed securities-residential

     —          828,031        —    

Mortgage-backed securities-commercial

     —          19,271        —    

State and political subdivisions

     —          156,040        —    
  

 

 

    

 

 

    

 

 

 

Total securities available for sale

   $ —        $ 1,073,293      $ —    
  

 

 

    

 

 

    

 

 

 

Loans held for sale

   $ —        $ 12,682      $ —    
  

 

 

    

 

 

    

 

 

 

Mortgage banking derivatives

   $ —        $ 926      $ —    
  

 

 

    

 

 

    

 

 

 

Financial Liabilities

        

Mortgage banking derivatives

   $ —        $ 149      $ —    
  

 

 

    

 

 

    

 

 

 

 

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     Fair Value Measurements at
December 31, 2016 Using:
 
     Quoted Prices
in Active
Markets for
Identical Assets
(Level 1)
     Significant
Other
Observable
Inputs
(Level 2)
     Significant
Unobservable
Inputs
(Level 3)
 

Financial Assets

        

Securities available for sale

        

Mortgage-backed securities-residential

   $ —        $ 607,085      $ —    

Mortgage-backed securities-commercial

     —          19,334        —    

State and political subdivisions

     —          128,336        —    
  

 

 

    

 

 

    

 

 

 

Total securities available for sale

   $ —        $ 754,755      $ —    
  

 

 

    

 

 

    

 

 

 

Loans held for sale

   $ —        $ 23,699      $ —    
  

 

 

    

 

 

    

 

 

 

Mortgage banking derivatives

   $ —        $ 229      $ —    
  

 

 

    

 

 

    

 

 

 

Financial Liabilities

        

Mortgage banking derivatives

   $ —        $ 66      $ —    
  

 

 

    

 

 

    

 

 

 

As of March 31, 2017, the unpaid principal balance of loans held for sale was $12,327 resulting in an unrealized gain of $355 included in gains on sale of loans. As of December 31, 2016, the unpaid principal balance of loans held for sale was $23,457, resulting in an unrealized gain of $242 included in gains on sale of loans. For the three months ended March 31, 2017 and 2016, the change in fair value related to loans held for sale, which is included in gain on sale of loans, was $113 and $38, respectively. None of these loans were 90 days or more past due or on nonaccrual as of March 31, 2017 and December 31, 2016.

There were no transfers between level 1 and 2 during 2017 and 2016.

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

There was one collateral dependent impaired commercial and industrial loan carried at fair value of $1,650 as of both March 31, 2017 and December 31, 2016. For the three months ended March 31, 2017 and 2016, no additional provision for loan losses was recorded related to impaired loans recorded at fair value of collateral.

Foreclosed assets measured at fair value less costs to sell, had a net carrying amount of $1,315 and $0 as of March 31, 2017 and December 31, 2016. There were no properties at March 31, 2017 or 2016 that had required write-downs to fair value; therefore, there were no write downs recorded for the three months ended March 31, 2017 and 2016, respectively. The foreclosed asset at March 31, 2017 is one piece of residential property on which the Company foreclosed during the first quarter of 2017 related to a residential construction loan.

 

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The carrying amounts and estimated fair values of financial instruments, at March 31, 2017 and December 31, 2016 are as follows:

 

    Carrying     Fair Value Measurements at
March 31, 2017 Using:
 
    Amount     Level 1     Level 2     Level 3     Total  

Financial assets

         

Cash and cash equivalents

  $ 114,657     $ 114,657     $ —       $ —       $ 114,657  

Certificates of deposit held at other financial institutions

    2,035       —         2,035       —         2,035  

Securities available for sale

    1,073,293       —         1,073,293       —         1,073,293  

Securities held to maturity

    226,056       —         225,337       —         225,337  

Loans held for sale

    12,682       —         12,682       —         12,682  

Net loans

    1,931,610       —         —         1,899,549       1,899,549  

Restricted equity securities

    14,978       n/a       n/a       n/a       n/a  

Servicing rights, net

    3,593       —         5,154       —         5,154  

Accrued interest receivable

    10,516       —         5,589       4,927       10,516  

Financial liabilities

         

Deposits

  $ 2,817,212     $ 1,608,606     $ 1,180,303     $ —       $ 2,788,909  

Federal funds purchased and repurchase agreements

    70,430       —         70,430       —         70,430  

Federal Home Loan Bank advances

    217,000       —         215,371       —         215,371  

Subordinated notes, net

    58,381       —         —         62,181       62,181  

Accrued interest payable

    1,993       33       1,610       350       1,993  
    Carrying     Fair Value Measurements at
December 31, 2016 Using:
 
    Amount     Level 1     Level 2     Level 3     Total  

Financial assets

         

Cash and cash equivalents

  $ 90,927     $ 90,927     $ —       $ —       $ 90,927  

Certificates of deposit held at other financial institutions

    1,055       —         1,055       —         1,055  

Securities available for sale

    754,755       —         754,755       —         754,755  

Securities held to maturity

    228,894       —         227,892       —         227,892  

Loans held for sale

    23,699       —         23,699       —         23,699  

Net loans

    1,757,039       —         —         1,727,188       1,727,188  

Restricted equity securities

    11,843       n/a       n/a       n/a       n/a  

Servicing rights, net

    3,621       —         5,015       —         5,015  

Accrued interest receivable

    9,931       —         5,172       4,759       9,931  

Financial liabilities

         

Deposits

  $ 2,391,818     $ 1,551,461     $ 836,444     $ —       $ 2,387,905  

Federal funds purchased and repurchase agreements

    83,301       —         83,301       —         83,301  

Federal Home Loan Bank advances

    132,000       —         131,098       —         131,098  

Subordinated notes, net

    58,337       —         —         61,762       61,762  

Accrued interest payable

    1,924       154       1,075       695       1,924  

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

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

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

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

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

 

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

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

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

(h) Subordinated Notes: The fair values of the Company’s subordinated notes are estimated using discounted cash flow analyses based on the current borrowing rates for similar types of borrowing arrangements resulting in a Level 3 classification.

(i) Accrued Interest Receivable/Payable: The carrying amounts of accrued interest approximate fair value resulting in a Level 1, Level 2 or Level 3 classification based on the asset/liability with which they are associated.

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

NOTE 9—EARNINGS PER SHARE

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

 

    

Three Months Ended

March 31,

 
     2017      2016  

Basic

     

Net income available to common shareholders

   $ 7,934      $ 6,210  

Less: earnings allocated to participating securities

     (65      (64
  

 

 

    

 

 

 

Net income allocated to common shareholders

   $ 7,869      $ 6,146  
  

 

 

    

 

 

 

Weighted average common shares outstanding including participating securities

     13,049,012        10,580,304  

Less: Participating securities

     (106,323      (109,064
  

 

 

    

 

 

 

Average shares

     12,942,689        10,471,240  
  

 

 

    

 

 

 

Basic earnings per common share

   $ 0.61      $ 0.59  
  

 

 

    

 

 

 
    

Three Months Ended

March 31,

 
     2017      2016  

Diluted

     

Net income allocated to common shareholders

   $ 7,869      $ 6,146  

Weighted average common shares outstanding for basic earnings per common share

     12,942,689        10,471,240  

Add: Dilutive effects of assumed exercises of stock options

     708,694        622,743  

Add: Dilutive effects of assumed exercises of stock warrants

     5,974        12,426  
  

 

 

    

 

 

 

Average shares and dilutive potential common shares

     13,657,357        11,106,409  
  

 

 

    

 

 

 

Dilutive earnings per common share

   $ 0.58      $ 0.55  
  

 

 

    

 

 

 

 

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Stock options for 108,000 and 62,167 shares of common stock were not considered in computing diluted earnings per common share for the three months ended March 31, 2017 and 2016 because they were antidilutive.

NOTE 10—SUBORDINATED DEBT ISSUANCE

The Company’s subordinated notes, net of issuance costs, totaled $58,381 and $58,337 at March 31, 2017 and at December 31, 2016, respectively. For regulatory capital purposes, the subordinated notes are treated as Tier 2 capital, subject to certain limitations, and are included in total regulatory capital when calculating the Company’s total capital to risk weighted assets ratio as indicated in Note 7 of these consolidated financial statements.

The Company completed the issuance of $60,000 in principal amount of subordinated notes in two separate offerings. In March 2016, $40,000 of 6.875% fixed-to-floating rate subordinated notes were issued in a public offering to accredited institutional investors, and in June 2016, $20,000 of 7.00% fixed-to-floating rate subordinated notes were issued to certain accredited institutional investors in a private offering. The subordinated notes are unsecured and will rank at least equally with all of the Company’s other unsecured subordinated indebtedness and will be effectively subordinated to all of our secured debt to the extent of the value of the collateral securing such debt. The subordinated notes will be subordinated in right of payment to all of our existing and future senior indebtedness, and will rank structurally junior to all existing and future liabilities of our subsidiaries including, in the case of the Company’s bank subsidiary, its depositors, and any preferred equity holders of our subsidiaries. The holders of the subordinated notes may be fully subordinated to interests held by the U.S. government in the event that we enter into a receivership, insolvency, liquidation, or similar proceeding.

The following table summarizes the terms of each subordinated note offering:

 

     March 2016
Subordinated
Notes
  June 2016
Subordinated
Notes

Principal amount issued

   $40,000   $20,000

Maturity date

   March 30, 2026   July 1, 2026

Initial fixed interest rate

   6.875%   7.00%

Initial interest rate period

   5 years   5 years

First interest rate change date

   March 30, 2021   July 1, 2021

Interest payment frequency through year five*

   Semiannually   Semiannually

Interest payment frequency after five years*

   Quarterly   Quarterly

Interest repricing index and margin

   3-month LIBOR

plus 5.636%

  3-month LIBOR

plus 6.04%

Repricing frequency after five years

   Quarterly   Quarterly

 

* The Company currently may not make interest payments on either series of subordinated notes without prior written approval from its primary regulatory agencies. Through March 31, 2017 all interest payments have been made in accordance with the terms of the agreements.

The issuance costs related to the March 2016 Subordinated Notes amounted to $1,382 and are being amortized as interest expense over the ten-year term of the March 2016 Subordinated Notes. The issuance costs related to the June 2016 Subordinated Notes were $404 and are being amortized as interest expense over the ten-year term of the June 2016 Notes.

 

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

The following discussion is intended to assist in the understanding and assessment of significant changes and trends related to the Company’s results of operations and financial condition. This discussion and analysis should be read in conjunction with the accompanying unaudited financial statements, the audited financial statements and accompanying notes included in the Company’s Form 10-K filed with the SEC on March 16, 2017, which includes additional information about critical accounting policies and practices and risk factors, and Item 1A of Part II of this report, which updates those risk factors. Historical results and trends that might appear in the consolidated financial statements should not be interpreted as being indicative of future operations. All amounts are in thousands, except per share data or unless otherwise indicated.

Company Overview

We are a financial holding company headquartered in Franklin, Tennessee. Through our wholly-owned bank subsidiary, Franklin Synergy Bank, a Tennessee-chartered commercial bank and a member of the Federal Reserve System, we provide a full range of banking and related financial services with a focus on service to small businesses, corporate entities, local governments and individuals. We operate through 12 branches and one loan production office in the demographically attractive and growing Williamson, Rutherford and Davidson Counties within the Nashville metropolitan area. As used in this report, unless the context otherwise indicates, any reference to “Franklin Financial,” “our company,” “the company,” “us,” “we” and “our” refers to Franklin Financial Network, Inc. together with its consolidated subsidiaries (including Franklin Synergy), any reference to “FFN” refers to Franklin Financial Network, Inc. only and any reference to “Franklin Synergy” or the “Bank” refers to our banking subsidiary, Franklin Synergy Bank.

Critical Accounting Policies

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

The Company’s accounting policies are integral to understanding the results reported. Accounting policies are described in detail in Note 1 of the notes to the consolidated financial statements in the Company’s Form 10-K that was filed with the SEC on March 16, 2017. The critical accounting policies require judgment to ascertain the valuation of assets, liabilities, commitments and contingencies. Management has established policies and control procedures that are intended to ensure valuation methods are well controlled and applied consistently from period to period. In addition, the policies and procedures are intended to ensure that the process for changing methodologies occurs in an appropriate manner. The following is a brief summary of the more significant policies.

Allowance for Loan Losses

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

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

The allowance consists of specific and general components. The specific component relates to loans that are individually classified as impaired. A loan is impaired when, based on current information and events, it is probable that the Company will be unable to collect all amounts due according to the contractual terms of the loan agreement. Loans for which the terms have been modified resulting in a concession, and for which the borrower is experiencing financial difficulties, are considered troubled debt restructurings and classified as impaired.

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

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

 

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

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

Mortgage Servicing Rights

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

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

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

Recent Accounting Pronouncements

In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers (Topic 606): Revenue from Contracts with Customers. ASU 2014-09 created a new topic in the FASB ASC, Topic 606. In addition to superseding and replacing nearly all existing U.S. GAAP revenue recognition guidance, including industry-specific guidance, ASU 2014-09 established a new control-based revenue recognition model, changes the basis for deciding when revenue is recognized over time or at a point in time, provides new and more detailed guidance on specific topics and expands and improves disclosures about revenue. In addition, ASU 2014-09 added a new Subtopic to the ASC, Other Assets and Deferred Costs: Contracts with Customers (“ASC 340-40”), to provide guidance on costs related to obtaining a contract with a customer and costs incurred in fulfilling a contract with a customer that are not in the scope of another ASC Topic. The new guidance does not apply to certain contracts within the scope of other ASC Topics, such as lease contracts, insurance contracts, financing arrangements, financial instruments, guarantees other than product or service warranties, and non-monetary exchanges between entities in the same line of business to facilitate sales to customers. The amendments are effective for annual periods and interim periods within those annual periods beginning after December 15, 2017. Since most of the Company’s revenues come from financial instruments which are not included in the scope of this ASU, adoption of this guidance is not expected to have a material impact on the Company’s financial statements.

In February 2016, the FASB issued ASU 2016-02 which creates “Topic 842, Leases” and supersedes “Topic 840, Leases.” ASU 2016-02 is intended to improve financial reporting about leasing transactions, by increasing transparency and comparability among organizations. Under the new guidance, a lessee will be required to record all leases with lease terms of more than 12 months on their balance sheet as lease liabilities with a corresponding right-of-use asset. ASU 2016-02 maintains the dual model for lease accounting, requiring leases to be classified as either operating or finance, with lease classification determined in a manner similar to existing lease guidance. The new guidance will be effective for the Company for fiscal years beginning on or after December 15, 2018. Early adoption is permitted for all entities. At the time this ASU is adopted, the Company will recognize a right-of-use asset, and a lease liability for all leases, which will initially be measured at the present value of lease payments, and a single lease cost calculated so that the costs of the leases are allocated over the terms of the Company’s leases on a generally straight-line basis. Since an asset will be recognized at the time of adoption, the Company’s regulatory capital ratios will likely be impacted. Management is evaluating the impact ASU 2016-02 will have on the Company’s financial statements.

In June 2016, FASB issued ASU 2016-13, Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments. The ASU requires the measurement of all expected credit losses for financial assets held at the reporting date based on historical experience, current conditions, and reasonable and supportable forecasts. Financial institutions and other

 

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organizations will now use forward-looking information to better inform their credit loss estimates. Many of the loss estimation techniques applied today will still be permitted, although the inputs to those techniques will change to reflect the full amount of expected credit losses. Organizations will continue to use judgment to determine which loss estimation method is appropriate for their circumstances. The ASU requires enhanced disclosures to help investors and other financial statement users better understand significant estimates and judgments used in estimating credit losses, as well as the credit quality and underwriting standards of an organization’s portfolio. These disclosures include qualitative and quantitative requirements that provide additional information about the amounts recorded in the financial statements. In addition, the ASU amends the accounting for credit losses on available-for-sale debt securities and purchased financial assets with credit deterioration. The ASU is effective for the Company for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019 (i.e., January 1, 2020, for calendar year entities). Early application will be permitted for all organizations for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018. The Company is currently gathering information, reviewing possible vendors and has formed a committee to formulate the methodology to be used. Most importantly, the Company is gathering as much data as possible to enable review scenarios and to determine which calculations will produce the most reliable results. The impact of adopting ASU 2016-13 is not currently known.

In August 2016, FASB issued ASU 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments. This Accounting Standards Update addresses the following eight specific cash flow issues: Debt prepayment or debt extinguishment costs; settlement of zero-coupon debt instruments or other debt instruments with coupon interest rates that are insignificant in relation to the effective interest rate of the borrowing; contingent consideration payments made after a business combination; proceeds from the settlement of insurance claims; proceeds from the settlement of corporate-owned life insurance policies (COLIs) (including bank-owned life insurance policies (BOLIs)); distributions received from equity method investees; beneficial interests in securitization transactions; and separately identifiable cash flows and application of the predominance principle. The amendments in this Update are effective for the Company for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years. Early adoption is permitted, including adoption in an interim period. This ASU is not expected to have a material impact on the Company’s financial statements.

In January 2017, the FASB issued ASU No. 2017-04,Simplifying the Test for Goodwill Impairment.” The guidance removes Step 2 of the goodwill impairment test, which requires a hypothetical purchase price allocation. Goodwill impairment will now be the amount by which a reporting unit’s carrying value exceeds its fair value, not to exceed the carrying amount of goodwill. All other goodwill impairment guidance will remain largely unchanged. ASU No. 2017-04 is effective for interim and annual reporting periods beginning after December 15, 2019, applied prospectively. Early adoption is permitted for any impairment tests performed after January 1, 2017. Adoption of ASU No. 2017-04 is not expected to have a material impact on the Company’s consolidated financial statements.

In March 2017, the FASB issued ASU No. 2017-08,Receivables—Nonrefundable Fees and Other Costs (Subtopic 310-20): Premium Amortization on Purchased Callable Debt Securities.” This Update shortens the amortization period for the premium on certain purchased callable debt securities to the earliest call date. The Company currently amortizes the premium on callable debt securities over the contractual life of the security. The new guidance does not change the accounting for purchased callable debt securities held at a discount; the discount continues to be amortized to maturity. ASU No. 2017-08 is effective for interim and annual reporting periods beginning after December 15, 2018, and early adoption is permitted. The guidance calls for a modified retrospective transition approach under which a cumulative-effect adjustment will be made to retained earnings as of the beginning of the first reporting period in which the guidance is adopted. The Company is currently evaluating the provisions of ASU No. 2017-08 to determine the potential impact the new standard will have on the Company’s consolidated financial statements.

 

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COMPARISON OF RESULTS OF OPERATIONS FOR THE THREE MONTHS ENDED

MARCH 31, 2017 AND 2016

(Dollar Amounts in Thousands)

Overview

The Company reported net income of $7,934 and $6,233 for the three months ended March 31, 2017 and 2016, respectively. After the payment of preferred dividends on the Series A Preferred Stock issued to the Treasury pursuant to Small Business Lending Fund (“SBLF”), the Company’s net earnings available to common shareholders for the three months ended March 31, 2016 was $6,210. The primary reasons for the increase in net earnings available to common shareholders for the three months ended March 31, 2017 was increased interest income on loans and investment securities due to significant organic growth in each of these portfolios over the same period in 2016.

Net Interest Income/Margin

Net interest income consists of interest income generated by earning assets, less interest expense. Net interest income for the three months ended March 31, 2017 and 2016 totaled $23,643 and $19,276, respectively, an increase of $4,367, or 22.7%, between the respective periods. For the three months ended March 31, 2017 and 2016, interest income was $30,541 and $22,561, respectively, an increase of 35.4%, due to growth in both the loan and investment securities portfolios. For the three months ended March 31, 2017 and 2016, interest expense was $6,898 and $3,285, respectively, an increase of 110.0%, which is a result of increases in subordinated debt, interest-bearing deposits and Federal Home Loan Bank advances.

Interest-earning assets averaged $3,184,516 and $2,177,905 during the three months ended March 31, 2017 and 2016, respectively, an increase of $1,006,611, or 46.2%. This increase was due to organic growth in both the loan portfolio and the securities portfolio over the past year. Average loans increased 37.0%, and average investment securities increased 63.3%, when comparing the three months ended March 31, 2017 with the same period in 2016.

When comparing the three months ended March 31, 2017 and 2016, the yield on average interest earning assets, adjusted for tax-equivalent yield, decreased 24 basis points to 4.06%, compared to 4.30% for the same period during 2016. When comparing the first quarter of 2017 with the same period in 2016, the tax-equivalent yield on loans decreased by 33 basis points. The decrease is related to a decrease in net loan fees and is also due to competitive rate pressures in our local markets. The decrease in net loan fees is attributable to the increase in deferred costs allocated to loans based on a cost study performed by management during first quarter 2016.

For the three months ended March 31, 2017, the tax-equivalent yield on available for sale securities was 2.69%, and for the three months ended March 31, 2016, the tax-equivalent yield on available for sale securities was 2.56%. For the three months ended March 31, 2017, the tax-equivalent yield on held to maturity securities was 4.20%, and for the three months ended March 31, 2016, the tax-equivalent yield on held to maturity securities was 4.15%. The primary driver for the yield increases in both available for sale securities and held to maturity securities was the increase in volume of tax-exempt securities that have been purchased.

Interest-bearing liabilities averaged $2,750,555 during the three months ended March 31, 2017, compared to $1,865,564 for the same period in 2016, an increase of $884,991, or 47.4%. Total average interest-bearing deposits grew $697,523, including increases in average brokered deposits of $67,358 and average interest-bearing public funds deposits of $353,092 for the three-month period ended March 31, 2017, as compared to the same period during 2016. Rapid growth in the loan portfolio also resulted in increases in average Federal Home Loan Bank advances of $139,556 and subordinated notes and other borrowings of $57,253, when comparing the first three months of 2017 with the same period in 2016.

For the three month periods ended March 31, 2017 and 2016, the cost of average interest-bearing liabilities increased 31 basis points to 1.02% from 0.71%. The increase was primarily due to an increase in subordinated notes, but it also included rate increases in interest-bearing checking, money market deposits, time deposits, and Federal Home Loan Bank advances when comparing the first quarter of 2017 with the first quarter of 2016.

 

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The tables below summarize average balances, annualized yields and rates, cost of funds, and the analysis of changes in interest income and interest expense for the three-months ended March 31, 2017 and 2016:

Average Balances—Yields & Rates(7)

(Dollars are in thousands)

 

     Three Months Ended March 31,  
     2017     2016  
     Average
Balance(7)
    Interest
Inc / Exp
     Average
Yield / Rate
    Average
Balance(7)
    Interest
Inc / Exp
     Average
Yield / Rate
 

ASSETS:

              

Loans(1)(6)

   $ 1,868,678     $ 22,583        4.90   $ 1,364,467     $ 17,759        5.23

Securities available for sale(6)

     991,679       6,584        2.69     588,885       3,745        2.56

Securities held to maturity(6)

     227,662       2,355        4.20     157,839       1,628        4.15

Restricted equity securities

     13,695       181        5.36     8,009       103        5.17

Certificates of deposit at other financial institutions

     1,820       7        1.56     1,044       3        1.16

Federal funds sold and other(2)

     80,982       156        0.78     57,661       63        0.44
  

 

 

   

 

 

    

 

 

   

 

 

   

 

 

    

 

 

 

TOTAL INTEREST EARNING ASSETS

   $ 3,184,516     $ 31,866        4.06   $ 2,177,905     $ 23,301        4.30

Allowance for loan losses

     (17,162          (11,967     

All other assets

     96,018            80,544       
  

 

 

        

 

 

      

TOTAL ASSETS

   $ 3,263,372          $ 2,246,482       

LIABILITIES & EQUITY

              

Deposits:

              

Interest checking

   $ 701,983     $ 1,062        0.61   $ 334,065     $ 326        0.39

Money market

     613,574       1,228        0.81     569,084       869        0.61

Savings

     55,613       42        0.31     45,810       42        0.37

Time deposits

     1,080,031       2,914        1.09     804,719       1,840        0.92

Federal Home Loan Bank advances

     196,556       508        1.05     57,000       109        0.77

Federal funds purchased and other(3)

     44,446       70        0.64     53,787       86        0.64

Subordinated notes and other borrowings

     58,352       1,074        7.46     1,099       13        4.76
  

 

 

   

 

 

    

 

 

   

 

 

   

 

 

    

 

 

 

TOTAL INTEREST BEARING LIABILITIES

   $ 2,750,555     $ 6,898        1.02   $ 1,865,564     $ 3,285        0.71

Demand deposits

     230,494            177,449       

Other liabilities

     9,610            9,086       

Total equity

     272,713            194,383       
  

 

 

        

 

 

      

TOTAL LIABILITIES AND EQUITY

   $ 3,263,372          $ 2,246,482       

NET INTEREST SPREAD(4)

          3.04          3.59

NET INTEREST INCOME

     $ 24,968          $ 20,016     

NET INTEREST MARGIN(5)

          3.18          3.70

 

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

 

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

Analysis of Changes in Interest Income and Expenses

 

     Net change three months ended
March 31, 2017 versus March 31, 2016
 
     Volume      Rate      Net Change  

INTEREST INCOME

        

Loans

   $ 6,345      $ (1,521    $ 4,824  

Securities available for sale

     2,521        318        2,839  

Securities held to maturity

     699        28        727  

Restricted equity securities

     72        6        78  

Certificates of deposit at other financial institutions

     2        2        4  

Federal funds sold and other

     25        68        93  
  

 

 

    

 

 

    

 

 

 

TOTAL INTEREST INCOME

   $ 9,664      $ (1,099    $ 8,565  
  

 

 

    

 

 

    

 

 

 

INTEREST EXPENSE

        

Deposits

        

Interest checking

   $ 355      $ 381      $ 736  

Money market accounts

     56        303        359  

Savings

     8        (8      —    

Time deposits

     621        453        1,074  

Federal funds purchased and repurchase agreements

     (19      3        (16

Federal Home Loan Bank advances

     288        111        399  

Subordinated notes and other borrowings

     673        388        1,061  
  

 

 

    

 

 

    

 

 

 

TOTAL INTEREST EXPENSE

   $ 1,982      $ 1,631      $ 3,613  
  

 

 

    

 

 

    

 

 

 

NET INTEREST INCOME

   $ 7,682      $ (2,730    $ 4,952  
  

 

 

    

 

 

    

 

 

 

Provision for Loan Losses

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

The provision for loan losses was $1,855 and $1,136 for the three months ended March 31, 2017 and 2016, respectively. The increase in loan loss provision is due primarily to the Company’s loan growth. Nonperforming loans at March 31, 2017 totaled $4,036 compared to $6,182 at December 31, 2016, representing 0.2% and 0.3% of total loans, respectively.

Non-Interest Income

Non-interest income for the three months ended March 31, 2017 and 2016 was $4,008 and $3,085, respectively. The following is a summary of the components of non-interest income (in thousands):

 

    

Three Months Ended

March 31,

     $
Increase
(Decrease)
     %
Increase
(Decrease)
 
     2017      2016        

Service charges on deposit accounts

   $ 30      $ 49      $ (19      (38.8 %) 

Other service charges and fees

     752        633        119        18.8

Net gains on sale of loans

     2,334        1,608        726        45.1

Wealth management

     593        368        225        61.1

Loan servicing fees, net

     107        42        65        154.8

Gain on sale of investment securities, net

     —          310        (310      (100.0 %) 

Net gain on sale of foreclosed assets

     3        3        —          —  

Other

     189        72        117        162.5
  

 

 

    

 

 

    

 

 

    

 

 

 

Total non-interest income

   $ 4,008      $ 3,085      $ 923        29.9
  

 

 

    

 

 

    

 

 

    

 

 

 

 

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Service charges on deposit accounts for the three months ended March 31, 2017 decreased $19, or 38.8%, from the same period in 2016 due to the Company’s waiver of service charges for all checking, money market and savings accounts in March 2017, which was done to facilitate the Company’s conversion to a new core processing system.

Other service charges and fees increased, $119, or 18.8%, due to increases of $42 in unused commitment fees, $25 in ATM surcharge fees, $21 in nonsufficient funds fees, and $25 in loan-related fees.

Net gains on the sale of loans include net gains realized from the sales of mortgage loans and from the fair value adjustments related to mortgage loan derivatives. Net gains on the sale of mortgage loans are based, in part, on differences between the carrying value of loans being sold to third-party investors and the selling price. Also included are changes in the fair value of mortgage banking derivatives entered into by the Company to hedge the change in interest rates on loan commitments prior to their sale in the secondary market. Fluctuations in mortgage interest rates, changes in the demand for certain loans by investors, and whether servicing rights associated with the loans being sold are retained or released all affect the net gains on mortgage loan sales. Net gains for the three months ending March 31, 2017 were $2,334, an increase of $726, or 45.1%, from $1,608 for the three months ended March 31, 2016. The increase was due to the volume of mortgage loans originated, the sales related to those loans, and more favorable market rates in first quarter 2017, which resulted in more favorable fair value adjustments on mortgage derivatives.

Wealth management income for the three months ended March 31, 2017 increased $225, or 61.1%, in comparison with the same period in 2016. The increase was primarily due to the growth in the client base and the assets under management in the wealth management division.

Loan servicing fees increased $65, or 154.8%, when comparing first quarter 2017 with first quarter of 2016 due to a decrease of $57 in amortization of mortgage servicing rights, an increase of $30 in mortgage servicing fees, offset by a $19 increase in amortization of Small Business Administration servicing rights.

Net gain on sale of investment securities decreased $310, or 100.0%, when comparing the three months ended March 31, 2017 to same period in 2016, since the Company did not sell any of its securities in the first quarter of 2017.

Other non-interest income increased $117, or 162.5%, when comparing first quarter 2017 with first quarter 2016. The increase in first quarter 2017 is primarily attributed to the loss of $98 on the sale of the Company’s real estate in downtown Murfreesboro, Tennessee that was recorded during first quarter 2016.

Non-Interest Expense

Non-interest expense for the three months ended March 31, 2017 and 2016 was $14,276 and $11,831, respectively, an increase of $2,445, or 20.7%. This increase was the result of the following components listed in the table below (in thousands):

 

    

Three Months Ended

March 31,

     $
Increase
(Decrease)
     %
Increase
(Decrease)
 
     2017      2016        

Salaries and employee benefits

   $ 8,033      $ 6,517      $ 1,516        23.3

Occupancy and equipment

     2,095        1,807        288        15.9

FDIC assessment expense

     760        413        347        84.0

Marketing

     267        217        50        23.0

Professional fees

     1,035        1,094        (59      (5.4 %) 

Amortization of core deposit intangible

     127        149        (22      (14.8 %) 

Other

     1,959        1,634        325        19.9
  

 

 

    

 

 

    

 

 

    

 

 

 

Total non-interest expense

   $ 14,276      $ 11,831      $ 2,445        20.7
  

 

 

    

 

 

    

 

 

    

 

 

 

The increase in non-interest expense noted in the table above is indicative of the Company’s overall growth. The Company’s biggest variances for the three months ended March 31, 2017, in comparison with the same period of 2016, were in salaries and benefits, occupancy and equipment, FDIC assessment expense, and other non-interest expense.

Salaries and employee benefits increased $1,516, or 23.3%, when comparing the three months ended March 31, 2017 with the same period in 2016, primarily due to the Company’s staffing growth from 236 full-time equivalent employees as of March 31, 2016, to 274 as of March 31, 2017. The Company added several lending professionals and lending support personnel, additional compliance professionals, additional credit administration professionals and other operational staff, to support the Company’s growth and to provide enhanced corporate governance. The Company also experienced growth in incentive expenses related to the Company’s overall financial performance and in commissions related to mortgage loan volumes and growth in the Company’s wealth management division.

Occupancy and equipment expense increased $288, or 15.9%, when comparing the three months ended March 31, 2017 with the same period in 2016. This variance is attributable to increases in building rent expense ($184), software maintenance fees ($46), leasehold improvement depreciation ($38), equipment maintenance ($13) and other furniture, fixture and equipment expense ($13).

 

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The Company’s FDIC assessment expense increased $347, or 84.0%, when comparing the three months ended March 31, 2017 with the same period in 2016. The increase is primarily due to the year-over-year growth of the Company, on which FDIC assessments are calculated, combined with the change in the methodology used in calculating FDIC insurance assessments that became effective in the third quarter of 2016.

The $59, or 5.4%, decrease in professional fees, when comparing the three months ended March 31, 2017 with the same period in 2016, is attributable to decreases in merger-related expenses ($158), legal fees ($136), and SEC filing expense ($37), which were offset by increases in other professional fees ($131), compliance fees ($57) brokerage settlement expenses ($45), loan review fees ($22) and accounting/audit fees ($13).

For the three months ended March 31, 2017, other non-interest expenses increased $325, or 19.9%, from the same period during 2016. The rise in other non-interest expense is attributed to larger increases in the following expense types: loan-related expenses ($79); foreclosed property expenses ($74); insurance expense ($52); franchise taxes ($38); and electronic banking ($33).

Income Tax Expense

The Company recognized an income tax expense for the three months ended March 31, 2017 and 2016, of $3,586 and $3,161, respectively. The Company’s year-to-date income tax expense for the period ended March 31, 2017 reflects an effective income tax rate of 31.1%, compared to 33.6% for the same period in 2016. The decrease in the effective tax rate for the three months ended March 31, 2017 primarily resulted from the Company’s increased investments in tax-exempt municipal securities and from other tax-related strategies.

COMPARISON OF BALANCE SHEETS AT MARCH 31, 2017 AND DECEMBER 31, 2016

Overview

The Company’s total assets increased by $511,599, or 17.4%, from December 31, 2016 to March 31, 2017. The increase in total assets has primarily been the result of organic growth in the loan and investment securities portfolios.

Loans

Lending-related income is the most important component of the Company’s net interest income and is a major contributor to profitability. The loan portfolio is the largest component of earning assets, and therefore generates the largest portion of revenues. For purposes of the discussion in this section, the term “loans” refers to loans, excluding loans held for sale, unless otherwise noted.

The absolute volume of loans and the volume of loans as a percentage of earning assets is an important determinant of net interest margin as loans are expected to produce higher yields than securities and other earning assets. Total loans, net of deferred fees, at March 31, 2017 and December 31, 2016 were $1,949,715 and $1,773,592, respectively, an increase of $176,123, or 9.9%. Growth in the loan portfolio is primarily due to increased market penetration and a healthy local economy.

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

 

     March 31, 2017     December 31, 2016  
Types of Loans    Amount      % of Total
Loans
    Amount      % of Total
Loans
 

Total loans, excluding PCI loans

          

Real estate:

          

Construction and land development

   $ 499,272        25.6   $ 489,562        27.6

Commercial

     548,750        28.1     497,140        28.0

Residential

     450,969        23.1     404,989        22.8

Commercial and industrial

     445,398        22.9     376,476        21.2

Consumer and other

     3,853        0.2     3,359        0.2
  

 

 

    

 

 

   

 

 

    

 

 

 

Total loans—gross, excluding PCI loans

     1,948,242        99.9     1,771,526        99.8
  

 

 

    

 

 

   

 

 

    

 

 

 

Total PCI loans

     2,444        0.1     2,859        0.2
  

 

 

    

 

 

   

 

 

    

 

 

 

Total gross loans

     1,950,686        100.0     1,774,385        100.0
     

 

 

      

 

 

 

Less: deferred loan fees, net

     (971        (793   

Allowance for loan losses

     (18,105        (16,553   
  

 

 

      

 

 

    

Total loans, net allowance for loan losses

   $ 1,931,610        $ 1,757,039     
  

 

 

      

 

 

    

As presented in the above table, gross loans increased 9.9% during the first three months of 2017, primarily due to organic growth as a result of continued market penetration and the strength of the local economies. During this period, the Company experienced growth in real estate loans of 7.7% with the majority of the growth occurring in the commercial real estate (10.4%) and residential real estate (11.4%) segments. The Company also experienced growth of 18.3% in the commercial and industrial segment during the first three months of 2017.

 

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Table of Contents

Real estate loans comprised 76.8% of the loan portfolio at March 31, 2017. The largest portion of the real estate segments as of March 31, 2017, was commercial real estate loans, which totaled 36.6% of real estate loans. Commercial real estate loans comprised 28.1% of the total loan portfolio. The commercial real estate loan classification primarily includes commercial-based mortgage loans that are secured by nonfarm, nonresidential real estate properties and multi-family residential properties.

The residential real estate classification primarily includes 1-4 family residential loans which are typically conventional first-lien home mortgages, not including loans held-for-sale in the secondary market, and it also includes home equity lines of credit and other junior lien mortgage loans. Residential real estate loans totaled $450,969 at March 31, 2017 and comprised 30.1% of real estate loans and 23.1% of total loans.

Construction and land development loans totaled $499,272 at March 31, 2017, and comprised 33.3% of total real estate loans and 25.6% of the total loan portfolio. Loans in this classification provide financing for the construction and development of residential properties and commercial income properties, multi-family residential development, and land designated for future development.

Commercial and industrial loans totaled $445,398 at March 31, 2017 and grew 18.3% during the first three months of 2017. Loans in this classification comprised 22.8% of total loans at March 31, 2017. The commercial and industrial classification consists of commercial loans to small-to-medium sized businesses, shared national credits, and healthcare loans.

The repayment of loans is a source of additional liquidity for the Company. The following table sets forth the loans maturing within specific intervals at March 31, 2017, excluding unearned net fees and costs.

Loan Maturity Schedule

 

     March 31, 2017  
     One year
or less
     Over one
year to five
years
     Over five
years
     Total  

Real estate:

           

Construction and land development

   $ 265,378      $ 182,580      $ 51,314      $ 499,272  

Commercial

     19,763        142,789        386,606        549,158  

Residential

     25,067        120,867        305,224        451,158  

Commercial and industrial

     57,834        322,189        67,222        447,245  

Consumer and other

     1,460        1,910        483        3,853  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 369,502      $ 770,335      $ 810,849      $ 1,950,686  
  

 

 

    

 

 

    

 

 

    

 

 

 

Fixed interest rate

   $ 227,217      $ 359,606      $ 318,829      $ 905,652  

Variable interest rate

     142,285        410,729        492,020        1,045,034  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 369,502      $ 770,335      $ 810,849      $ 1,950,686  
  

 

 

    

 

 

    

 

 

    

 

 

 

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

Allowance for Loan Losses

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

 

    past loan experience;

 

    the nature and volume of the portfolio;

 

    risks known about specific borrowers;

 

    underlying estimated values of collateral securing loans;

 

    current and anticipated economic conditions; and

 

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

 

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Table of Contents

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

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

In the table below, the components, as discussed above, of the allowance for loan losses are shown at March 31, 2017 and December 31, 2016.

 

     March 31, 2017     December 31, 2016     Increase (Decrease)  
     Loan
Balance
     ALLL
Balance
     %     Loan
Balance
     ALLL
Balance
     %     Loan
Balance
    ALLL
Balance
       

Non impaired loans

   $ 1,874,059      $ 17,345        0.93   $ 1,687,244      $ 15,506        0.92   $ 186,815     $ 1,839       1 bps  

Non-PCI acquired loans (Note 1)

     66,967        20        0.03     74,373        23        0.03     (7,406     (3     —    

Impaired loans

     7,216        739        10.24     9,909        1,024        10.33     (2,693     (285     -9 bps  
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

    

 

 

   

 

 

   

 

 

   

 

 

 

Non-PCI loans

     1,948,242        18,104        0.93     1,771,526        16,553        0.93     176,716       1,551       —    

PCI loans

     2,444        1        0.04     2,859        —              (415     1       -4 bps  
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

    

 

 

   

 

 

   

 

 

   

 

 

 

Total loans

   $ 1,950,686      $ 18,105        0.93   $ 1,774,385      $ 16,553        0.93   $ 176,301     $ 1,552       —    

 

Note 1: Loans acquired pursuant to the July 1, 2014 acquisition of MidSouth Bank (“MidSouth”) that are not PCI loans. These are performing loans recorded at estimated fair value at the acquisition date. The fair value adjustment at the acquisition date was approximately $5,014 of the outstanding non-PCI loan balances acquired. This amount is accreted into interest income over the remaining lives of the related loans on a level yield basis. Based on the analysis performed by management as of March 31, 2017, $20 in allowance for loan loss was recorded at March 31, 2017 related to the loans acquired from MidSouth.

At March 31, 2017, the allowance for loan losses was $18,105, compared to $16,553 at December 31, 2016. The allowance for loan losses as a percentage of total loans was 0.93% at both March 31, 2017 and December 31, 2016. Loan growth during the first quarter of 2017 is the primary reason for the increase in the allowance amount.

 

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

 

    Three Months Ended
March 31, 2017
    Three Months Ended
March 31, 2016
 

Beginning balance

  $ 16,553     $ 11,587  

Loans charged-off:

   

Construction & land development

    —         —    

Commercial real estate

    —         —    

Residential real estate

    —         —    

Commercial & industrial

    300       65  

Consumer & other

    23       11  
 

 

 

   

 

 

 

Total loans charged-off

    323       76  

Recoveries on loans previously charged-off:

   

Construction & land development

    —         —    

Commercial real estate

    —         —    

Residential real estate

    12       28  

Commercial & industrial

    —         —    

Consumer & other

    8       1  
 

 

 

   

 

 

 

Total loan recoveries

    20       29  

Net recoveries (charge-offs)

    (303     (47

Provision for loan losses charged to expense

    1,855       1,136  
 

 

 

   

 

 

 

Total allowance at end of period

  $ 18,105     $ 12,676  
 

 

 

   

 

 

 

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

  $ 1,950,686     $ 1,423,539  
 

 

 

   

 

 

 

Average gross loans (1)

  $ 1,860,081     $ 1,355,965  
 

 

 

   

 

 

 

Allowance to total loans

    0.93     0.89
 

 

 

   

 

 

 

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

    0.07     0.01
 

 

 

   

 

 

 

 

(1) Loan balances exclude loans held for sale

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

 

    March 31, 2017     December 31, 2016  
    Amount     % of
Allowance
to Total
    Amount     % of
Allowance
to Total
 

Real estate loans:

       

Construction and land development

  $ 3,837       21.2   $ 3,776       22.8

Commercial

    4,659       25.7     4,266       25.8

Residential

    2,672       14.8     2,398       14.5
 

 

 

   

 

 

   

 

 

   

 

 

 

Total real estate

    11,168       61.7     10,440       63.1
 

 

 

   

 

 

   

 

 

   

 

 

 

Commercial and industrial

    6,885       38.0     6,068       36.6

Consumer and other

    52       0.3     45       0.3
 

 

 

   

 

 

   

 

 

   

 

 

 
  $ 18,105       100.0   $ 16,553       100.0
 

 

 

   

 

 

   

 

 

   

 

 

 

Nonperforming Assets

Non-performing loans consist of non-accrual loans and loans that are past due 90 days or more and still accruing interest. Non-performing assets consist of non-performing loans plus other real estate owned (“OREO”), i.e., real estate acquired through foreclosure or deed in lieu of foreclosure. Loans are placed on non-accrual status when they are past due 90 days and management believes the borrower’s financial condition, after giving consideration to economic conditions and collection efforts, is such that collection of interest is doubtful. When a loan is placed on non-accrual status, interest accruals cease and uncollected interest is reversed and charged against current income. The interest on these loans is accounted for on the cash-basis, or cost-recovery method, until qualifying for return to accrual. Loans are returned to accrual status when all the principal and interest amounts contractually due are brought current and future payments are reasonably assured.

 

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Table of Contents

The primary component of non-performing loans is non-accrual loans, which as of March 31, 2017 totaled $3,346. The other component of non-performing loans are loans past due greater than 90 days and still accruing interest. Loans past due greater than 90 days are placed on non-accrual status, unless they are both well-secured and in the process of collection. There were outstanding loans totaling $690 that were past due 90 days or more and still accruing interest at March 31, 2017.

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

 

     March 31,
2017
    December 31,
2016
 

Non-accrual loans

   $ 3,346     $ 3,630  

Past due loans 90 days or more and still accruing interest

     690       2,552  
  

 

 

   

 

 

 

Total non-performing loans

     4,036       6,182  

Foreclosed real estate (“OREO”)

     1,315       —    
  

 

 

   

 

 

 

Total non-performing assets

     5,351       6,182  

Total non-performing loans as a percentage of total loans

     0.2     0.3

Total non-performing assets as a percentage of total assets

     0.2     0.2

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

     449     268

As of March 31, 2017, there were five loans on non-accrual status. The amount and number are further delineated by collateral category and number of loans in the table below.

 

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

Construction & land development

   $ —          —       —    

Commercial real estate

     835        25.0     1  

Residential real estate

     120        3.5     1  

Commercial & industrial

     2,391        71.5     3  

Consumer

     —          —       —    
  

 

 

    

 

 

   

 

 

 

Total non-accrual loans

   $ 3,346        100.0     5  
  

 

 

    

 

 

   

 

 

 

Investment Securities and Other Earning Assets

The investment securities portfolio is intended to provide the Company with adequate liquidity, flexible asset/liability management and a source of stable income. The portfolio is structured with minimal credit exposure to the Company and consists of both securities classified as available-for-sale and securities classified as held-to-maturity. All available-for sale securities are carried at fair value and may be used for liquidity purposes should management deem it to be in the Company’s best interest. Securities available-for-sale, consisting primarily of U.S. government sponsored enterprises and mortgage-backed securities, were $1,073,293 at March 31, 2017, compared to $754,755 at December 31, 2016, an increase of $318,538, or 42.2%. The increase in available-for-sale securities was primarily attributed to the volume of securities purchased during the first quarter of 2017.

The held-to-maturity securities are carried at amortized cost. This portfolio, consisting of U.S. government sponsored enterprises, mortgage-backed securities and municipal securities, totaled $226,056 at March 31, 2017, compared to $228,894 at December 31, 2016, a decrease of $2,838, or 1.2%. The decrease is attributable to securities that matured during the first quarter of 2017.

The combined portfolios represented 37.6% and 33.4% of total assets at March 31, 2017 and December 31, 2016, respectively. At March 31, 2017, the Company had no securities that were classified as having Other Than Temporary Impairment.

The Company also had other investments of $14,978 and $11,843 at March 31, 2017 and December 31, 2016, respectively, consisting of capital stock in the Federal Reserve and the Federal Home Loan Bank (required as members of the Federal Reserve Bank System and the Federal Home Loan Bank System). The Federal Home Loan Bank and Federal Reserve investments are “restricted” in that they can only be sold back to the respective institutions or another member institution at par, and are thus, not liquid, have no ready market or quoted market value, and are carried at cost.

 

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Table of Contents

Bank Premises and Equipment

Bank premises and equipment totaled $10,231 at March 31, 2017 compared to $9,551 at December 31, 2016, an increase of $680, or 7.1%. This increase was the result of adding leasehold improvements and furniture and equipment as needed in the normal course of business and related to the build-out of a new leased bank office building in Murfreesboro, Tennessee.

Deposits

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

At March 31, 2017, total deposits were $2,817,212, an increase of $425,394, or 17.8%, compared to $2,391,818 at December 31, 2016. The growth in deposits is attributable to growth in public funds deposits, money market deposits, noninterest-bearing deposits, and interest checking deposits.

Included in the Company’s funding strategy are brokered deposits. Total brokered deposits increased from $472,515 at December 31, 2016 to $709,290 at March 31, 2017, due to the increased need for funding for the Bank’s loan growth and due to the fluctuation in certain brokered deposits that are interest-bearing checking and money market accounts that can fluctuate daily.

Public funds deposits in the form of county deposits are a part of the Company’s funding strategy and are cyclical in nature, with the peak of those deposit balances occurring during the middle of the first quarter of each calendar year. Public funds declined $17,409, or 2.5%, from $697,081 at December 31, 2016 to $679,672 at March 31, 2017.

Time deposits excluding brokered deposits as of March 31, 2017, amounted to $717,294, compared to $555,732 as of December 31, 2016, an increase of $161,562, or 29.1%, primarily due to an increase in Local Government Investment Pool (LGIP) deposits of $155,000 during the first quarter of 2017. Non-public funds money market accounts, excluding brokered deposits, increased $20,398, or 7.7%, from December 31, 2016 to March 31, 2017. Noninterest-bearing checking deposits grew $6,557, or 2.8%, and non-public funds interest checking accounts, excluding brokered deposits, grew $10,161, or 8.9%, respectively, when comparing deposit balances from March 31, 2017 with balances at December 31, 2016.

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

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

 

     March 31, 2017  

Three months or less

   $ 324,859  

Three through six months

     30,404  

Six through twelve months

     50,037  

Over twelve months

     149,671  
  

 

 

 

Total

   $ 554,971  
  

 

 

 

Federal Funds Purchased and Repurchase Agreements

As of March 31, 2017, the Company had $39,091 in federal funds purchased from correspondent banks compared to $46,805 outstanding as of December 31, 2016. Securities sold under agreements to repurchase had an outstanding balance of $31,339 as of March 31, 2017, compared to $36,496 as of December 31, 2016. Securities sold under agreements to repurchase are financing arrangements that mature daily or within a short period of time. At maturity, the securities underlying the agreements are returned to the Company.

 

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Table of Contents

Federal Home Loan Bank Advances

The Company has established a line of credit with the Federal Home Bank of Cincinnati which is secured by a blanket pledge of 1-4 family residential mortgages. At March 31, 2017 and at December 31, 2016, advances totaled $217,000 and $132,000, respectively.

At March 31, 2017, the scheduled maturities and interest rates of these advances were as follows:

 

Scheduled Maturities

   Amount      Weighted
Average Rates
 

2017

     25,000        1.03

2018

     157,000        1.19

2019

     35,000        1.30
  

 

 

    

 

 

 

Total

   $ 217,000        1.19
  

 

 

    

 

 

 

Subordinated Notes

At March 31, 2017, the Company’s subordinated notes, net of issuance costs, totaled $58,381, compared with $58,337 at December 31, 2016. For more information related to the subordinated notes and the related issuance costs, please see Note 10 of the consolidated financial statements.

Liquidity

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

Liquidity risk involves the risk of being unable to fund assets with the appropriate duration and rate-based liabilities, as well as the risk of not being able to meet unexpected cash needs. Liquidity planning and management are necessary to ensure the ability to fund operations cost-effectively and to meet current and future potential obligations such as loan commitments, lease obligations, and unexpected deposit outflows. In this process, management focuses on both assets and liabilities and on the manner in which they combine to provide adequate liquidity to meet the Company’s needs. Our source of funds to pay interest on our subordinated notes is generally in the form of a dividend from the Bank to the Company, or those payments may be serviced from cash balances held by the Company. Under the terms of the informal agreement with the Reserve Bank, described in “Other Events” in Management’s Discussion and Analysis and in “ITEM 1A. RISK FACTORS,” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2016, the Bank is required to receive prior written approval from its regulatory agencies to pay dividends to the Company.

Funds are available from a number of basic banking activity sources including the core deposit base, the repayment and maturity of loans, payments of principal and interest as well as sales of investments classified as available-for-sale, and sales of brokered deposits. As of March 31, 2017, $1,073,293 of the investment securities portfolio was classified as available-for-sale and is reported at fair value on the consolidated balance sheet. Another $226,056 of the portfolio was classified as held-to-maturity and is reported at amortized cost. Approximately $1,105,158 of the total $1,299,349 investment securities portfolio on hand at March 31, 2017, was pledged to secure public deposits and repurchase agreements. Other funding sources available include repurchase agreements, federal funds purchased, and borrowings from the Federal Home Loan Bank.

Equity

As of March 31, 2017, the Company’s equity was $278,510, as compared with $270,361 as of December 31, 2016. The increase in equity was due to the Company’s earnings of $7,934 in the first quarter of 2017 and the increase in common stock of $605 during the first quarter, offset by a $390 reduction in other comprehensive income from the reduced valuation of available for sale securities.

Effects of Inflation and Changing Prices

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

 

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Table of Contents

Off Balance Sheet Arrangements

The Company generally does not have any off-balance sheet arrangements other than approved and unfunded loans and lines and letters of credit to customers in the ordinary course of business. At March 31, 2017, the Company had unfunded loan commitments outstanding of $63,187, unused lines of credit of $496,491, and outstanding standby letters of credit of $32,866.

GAAP Reconciliation and Management Explanation of Non-GAAP Financial Measures

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

 

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

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

 

    As of or for the Three Months Ended  

(Amounts in thousands, except share/

per share data and percentages)

  Mar 31,
2017
    Dec 31,
2016
    Sept 30,
2016
    Jun 30,
2016
    Mar 31,
2016
 

Total shareholders’ equity

  $ 278,407     $ 270,258     $ 209,644     $ 204,276     $ 191,910  

Less: Preferred stock

    —         —         —         —         —    
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total common shareholders’ equity

    278,407       270,258       209,644       204,276       191,910  

Common shares outstanding

    13,064,110       13,036,954       10,757,483       10,689,481       10,586,592  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Book value per share

  $ 21.31     $ 20.73     $ 19.49     $ 19.11     $ 18.13  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total common shareholders’ equity

    278,407       270,258       209,644       204,276       191,910  

Less: Goodwill and other intangible assets

    10,477       10,633       10,774       10,916       11,070  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Tangible common shareholders’ equity

  $ 267,930     $ 259,625     $ 198,870     $ 193,360     $ 180,840  

Common shares outstanding

    13,064,110       13,036,954       10,757,483       10,689,481       10,586,592  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Tangible book value per share

  $ 20.51     $ 19.91     $ 18.49     $ 18.09     $ 17.08  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

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Table of Contents
    As of or for the Three Months Ended  

(Amounts in thousands, except share/

per share data and percentages)

  Mar 31,
2017
    Dec 31,
2016
    Sept 30,
2016
    Jun 30,
2016
    Mar 31,
2016