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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 June 30, 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

      

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 July 31, 2017, was 13,183,340.

 

 

 


Table of Contents

TABLE OF CONTENTS

 

PART I FINANCIAL INFORMATION

  

Cautionary Note Regarding Forward-Looking Statements

     1  

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 Shareholders’ 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

     45  

Item 4. Controls and Procedures

     46  

PART II OTHER INFORMATION

  

Item 1. Legal Proceedings

     46  

Item 1A. Risk Factors

     46  

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

     47  

Item 3. Defaults Upon Senior Securities

     48  

Item 4. Mine Safety Disclosures

     48  

Item 5. Other Information

     48  

Item 6. Exhibits

     49  
SIGNATURES   


Table of Contents

CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

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

Risks and uncertainties that could cause our actual results to differ materially from those described in forward-looking statements include those discussed in our filings with the Securities and Exchange Commission (“SEC”), including those described in 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)

 

     June 30,
2017
    December 31,
2016
 
     (Unaudited)        

ASSETS

    

Cash and due from financial institutions

   $ 96,741     $ 90,927  

Certificates of deposit at other financial institutions

     2,530       1,055  

Securities available for sale

     1,021,051       754,755  

Securities held to maturity (fair value 2017—$224,646 and 2016—$227,892)

     222,355       228,894  

Loans held for sale, at fair value

     11,724       23,699  

Loans

     2,011,955       1,773,592  

Allowance for loan losses

     (18,689     (16,553
  

 

 

   

 

 

 

Net loans

     1,993,266       1,757,039  
  

 

 

   

 

 

 

Restricted equity securities, at cost

     17,326       11,843  

Premises and equipment, net

     10,886       9,551  

Accrued interest receivable

     11,217       9,931  

Bank owned life insurance

     23,577       23,267  

Deferred tax asset

     13,255       15,013  

Foreclosed assets

     1,350       —    

Servicing rights, net

     3,581       3,621  

Goodwill

     9,124       9,124  

Core deposit intangible, net

     1,232       1,480  

Other assets

     4,378       2,990  
  

 

 

   

 

 

 

Total assets

   $ 3,443,593     $ 2,943,189  
  

 

 

   

 

 

 

LIABILITIES AND EQUITY

    

Deposits

    

Non-interest bearing

   $ 255,264     $ 233,781  

Interest bearing

     2,499,161       2,158,037  
  

 

 

   

 

 

 

Total deposits

     2,754,425       2,391,818  

Federal Home Loan Bank advances

     287,000       132,000  

Federal funds purchased and repurchase agreements

     42,082       83,301  

Subordinated notes, net

     58,426       58,337  

Accrued interest payable

     2,571       1,924  

Other liabilities

     6,068       5,448  
  

 

 

   

 

 

 

Total liabilities

     3,150,572       2,672,828  

Equity

    

Preferred stock, no par value: 1,000,000 shares authorized; no shares outstanding at June 30, 2017 and December 31, 2016

     —         —    

Common stock, no par value: 30,000,000 and 20,000,000 shares authorized at June 30, 2017 and December 31, 2016, respectively; 13,181,501 and 13,036,954 issued at June 30, 2017 and December 31, 2016, respectively

     220,620       218,354  

Retained earnings

     76,186       59,386  

Accumulated other comprehensive loss

     (3,888     (7,482
  

 

 

   

 

 

 

Total shareholders’ equity

     292,918       270,258  

Noncontrolling interest in consolidated subsidiary

     103       103  
  

 

 

   

 

 

 

Total equity

   $ 293,021     $ 270,361  
  

 

 

   

 

 

 

Total liabilities and equity

   $ 3,443,593     $ 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

June 30,

   

Six Months Ended

June 30,

 
     2017     2016     2017     2016  

Interest income and dividends

        

Loans, including fees

   $ 24,662     $ 18,930     $ 47,222     $ 36,672  

Securities:

        

Taxable

     5,700       3,985       11,317       7,513  

Tax-Exempt

     2,212       1,197       4,232       2,319  

Dividends on restricted equity securities

     213       118       394       221  

Federal funds sold and other

     224       56       387       122  
  

 

 

   

 

 

   

 

 

   

 

 

 

Total interest income

     33,011       24,286       63,552       46,847  
  

 

 

   

 

 

   

 

 

   

 

 

 

Interest expense

        

Deposits

     6,561       3,358       11,807       6,435  

Federal funds purchased and repurchase agreements

     147       82       217       168  

Federal Home Loan Bank advances

     752       187       1,260       296  

Subordinated notes and other borrowings

     1,082       725       2,156       738  
  

 

 

   

 

 

   

 

 

   

 

 

 

Total interest expense

     8,542       4,352       15,440       7,637  
  

 

 

   

 

 

   

 

 

   

 

 

 

Net interest income

     24,469       19,934       48,112       39,210  

Provision for loan losses

     573       1,567       2,428       2,703  
  

 

 

   

 

 

   

 

 

   

 

 

 

Net interest income after provision for loan losses

     23,896       18,367       45,684       36,507  
  

 

 

   

 

 

   

 

 

   

 

 

 

Noninterest income

        

Service charges on deposit accounts

     45       46       75       95  

Other service charges and fees

     758       767       1,510       1,400  

Net gains on sale of loans

     2,067       2,309       4,401       3,917  

Wealth management

     648       529       1,241       897  

Loan servicing fees, net

     53       (4     160       38  

Gain on sale or call of securities

     120       795       120       1,105  

Net gain on sale of foreclosed assets

     3       3       6       6  

Other

     186       181       375       253  
  

 

 

   

 

 

   

 

 

   

 

 

 

Total noninterest income

     3,880       4,626       7,888       7,711  
  

 

 

   

 

 

   

 

 

   

 

 

 

Noninterest expense

        

Salaries and employee benefits

     9,128       7,603       17,161       14,120  

Occupancy and equipment

     2,195       1,755       4,290       3,562  

FDIC assessment expense

     1,015       405       1,775       818  

Marketing

     285       188       552       405  

Professional fees

     702       977       1,737       2,071  

Amortization of core deposit intangible

     121       144       248       293  

Other

     1,837       1,841       3,796       3,475  
  

 

 

   

 

 

   

 

 

   

 

 

 

Total noninterest expense

     15,283       12,913       29,559       24,744  
  

 

 

   

 

 

   

 

 

   

 

 

 

Income before income tax expense

     12,493       10,080       24,013       19,474  

Income tax expense

     3,619       2,572       7,205       5,733  
  

 

 

   

 

 

   

 

 

   

 

 

 

Net income

     8,874       7,508       16,808       13,741  

Earnings attributable to noncontrolling interest

     (8     —         (8     —    

Dividends paid on Series A preferred stock

     —         —         —         (23
  

 

 

   

 

 

   

 

 

   

 

 

 

Net income available to common shareholders

   $ 8,866     $ 7,508     $ 16,800     $ 13,718  
  

 

 

   

 

 

   

 

 

   

 

 

 

Earnings per share:

        

Basic

   $ 0.68     $ 0.70     $ 1.28     $ 1.29  

Diluted

     0.64       0.66       1.22       1.22  

See accompanying notes to consolidated financial statements.

 

3


Table of Contents

FRANKLIN FINANCIAL NETWORK, INC.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

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

(Unaudited)

 

    

Three Months Ended

June 30,

   

Six Months Ended

June 30,

 
     2017     2016     2017     2016  

Net income

   $ 8,874     $ 7,508     $ 16,808     $ 13,741  

Other comprehensive income, net of tax:

        

Unrealized gains on securities:

        

Unrealized holding gain arising during the period

     6,671       6,514       6,031       17,574  

Reclassification adjustment for gains included in net income

     (120     (795     (120     (1,105
  

 

 

   

 

 

   

 

 

   

 

 

 

Net unrealized gains

     6,551       5,719       5,911       16,469  

Tax effect

     (2,569     (2,243     (2,317     (6,460
  

 

 

   

 

 

   

 

 

   

 

 

 

Total other comprehensive income

     3,982       3,476       3,594       10,009  
  

 

 

   

 

 

   

 

 

   

 

 

 

Comprehensive income

   $ 12,856     $ 10,984     $ 20,402     $ 23,750  
  

 

 

   

 

 

   

 

 

   

 

 

 

See accompanying notes to consolidated financial statements.

 

4


Table of Contents

FRANKLIN FINANCIAL NETWORK, INC.

CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY

Six Months Ended June 30, 2017 and 2016

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

(Unaudited)

 

     Preferred
Stock
    Common Stock     Retained
Earnings
    Accumulated
Other
Comprehensive
Income (Loss)
    Noncontrolling
Interest
     Total
Equity
 
     Shares     Amount           

Balance at December 31, 2015

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

Exercise of common stock options, net

     —         87,710       975       —         —         —          975  

Exercise of common stock warrants

     —         3,775       45       —         —         —          45  

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

     —         30,564       795       —         —         —          795  

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

     —         (3,945     (82     —         —         —          (82

Net income

     —         —         —         13,741       —         —          13,741  

Other comprehensive income

     —         —         —         —         10,009       —          10,009  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

    

 

 

 

Balance at June 30, 2016

   $ —         10,689,481     $ 149,517     $ 45,070     $ 9,689       —        $ 204,276  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

    

 

 

 

Balance at December 31, 2016

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

Exercise of common stock options, net

     —         109,663       1,055       —         —         —          1,055  

Exercise of common stock warrants

     —         12,461       150       —         —         —          150  

Stock based compensation expense, net of restricted share forfeitures

     —         26,911       1,235       —         —         —          1,235  

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

     —         (4,488     (174     —         —         —          (174

Earnings attributable to noncontrolling interest

     —         —         —         (8     —         —          (8

Net income

     —         —         —         16,808       —         —          16,808  

Other comprehensive income

     —         —         —         —         3,594       —          3,594  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

    

 

 

 

Balance at June 30, 2017

   $ —         13,181,501     $ 220,620     $ 76,186     $ (3,888   $ 103      $ 293,021  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

    

 

 

 

See accompanying notes to consolidated financial statements.

 

5


Table of Contents

FRANKLIN FINANCIAL NETWORK, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

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

(Unaudited)

 

    

Six Months Ended

June 30,

 
     2017     2016  

Cash flows from operating activities

    

Net income

   $ 16,808     $ 13,741  

Adjustments to reconcile net income to net cash from operating activities

    

Depreciation and amortization on premises and equipment

     741       652  

Accretion of purchase accounting adjustments

     (714     (635

Net amortization of securities

     4,998       3,364  

Amortization of loan servicing right asset

     479       556  

Amortization of core deposit intangible

     248       293  

Amortization of debt issuance costs

     89       34  

Provision for loan losses

     2,428       2,703  

Deferred income tax benefit

     (558     (204

Origination of loans held for sale

     (175,918     (148,829

Proceeds from sale of loans held for sale

     191,855       149,425  

Net gain on sale of loans

     (4,401     (3,917

Gain on sale of available for sale securities

     (120     (1,105

Income from bank owned life insurance

     (310     (323

Loss on sale of assets held for sale

     —         98  

Stock-based compensation

     1,235       795  

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

     —         269  

Deferred gain on sale of loans

     (58     (38

Deferred gain on sale of foreclosed assets

     (6     (6

Net change in:

    

Accrued interest receivable and other assets

     (2,674     (1,509

Accrued interest payable and other liabilities

     1,331       (970
  

 

 

   

 

 

 

Net cash from operating activities

     35,453       14,394  

Cash flows from investing activities

    

Securities available for sale :

    

Sales

     61,190       62,263  

Purchases

     (394,219     (185,270

Maturities, prepayments and calls

     68,721       37,234  

Securities held to maturity :

    

Purchases

     (1,996     (82,405

Maturities, prepayments and calls

     7,579       6,895  

Net change in loans

     (239,256     (246,305

Proceeds from sale of assets held for sale

     —         1,542  

Purchase of restricted equity securities

     (5,483     (1,891

Purchases of premises and equipment, net

     (2,076     (1,461

Capitalization of foreclosed assets

     (35     —    

Increase in certificates of deposits at other financial institutions

     (1,475     (815
  

 

 

   

 

 

 

Net cash from investing activities

     (507,050     (410,213

Cash flows from financing activities

    

Increase in deposits

     362,607       435,696  

Decrease in federal funds purchased and repurchase agreements

     (41,219     (64,414

Proceeds from Federal Home Loan Bank advances

     320,000       75,000  

Repayment of Federal Home Loan Bank advances

     (165,000     (80,000

Proceeds from other borrowings

     —         10,000  

Repayment of other borrowings

     —         (10,000

Proceeds from issuance of subordinated notes, net of issuance costs

     —         58,278  

Proceeds from exercise of common stock warrants

     150       45  

Proceeds from exercise of common stock options

     1,055       975  

Divestment of common stock issued to 401(k) plan

     (174     (82

Redemption of Series A preferred stock

     —         (10,000

Dividends paid on preferred stock

     —         (23

Earnings attributable to noncontrolling interest

     (8     —    
  

 

 

   

 

 

 

Net cash from financing activities

     477,411       415,475  
  

 

 

   

 

 

 

Net change in cash and cash equivalents

     5,814       19,656  

Cash and cash equivalents at beginning of period

     90,927       52,394  
  

 

 

   

 

 

 

Cash and cash equivalents at end of period

   $ 96,741     $ 72,050  
  

 

 

   

 

 

 

Supplemental information:

    

Interest paid

   $ 14,793     $ 6,481  

Income taxes paid

     9,085       7,291  

Non-cash supplemental information:

    

Transfers from loans to foreclosed assets

   $ 1,315     $ —    

See accompanying notes to consolidated financial statements.

 

6


Table of Contents

FRANKLIN FINANCIAL NETWORK, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

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

(Unaudited)

NOTE 1—BASIS OF PRESENTATION

The accompanying unaudited consolidated financial statements have been prepared in accordance with instructions to Form 10-Q and therefore do not include all information and footnotes necessary for a complete 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 (“Franklin Synergy” or 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 the Bank and are included in these consolidated financial statements. Significant intercompany transactions and accounts are eliminated in consolidation.

NOTE 2—SECURITIES

The following table summarizes the amortized cost and fair value of the securities available for sale portfolio at June 30, 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
 

June 30, 2017

           

U.S. government sponsored entities and agencies

   $ 60,129      $ —        $ (124    $ 60,005  

Mortgage-backed securities: residential

     770,350        1,522        (6,530      765,342  

The coMortgage-backed securities: commercial

     15,745        —          (21      15,724  

State and political subdivisions

     161,452        1,963        (3,198      160,217  

U.S Treasury bills

     19,772        —          (9      19,763  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 1,027,448      $ 3,485      $ (9,882    $ 1,021,051  
  

 

 

    

 

 

    

 

 

    

 

 

 
     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 securities held to maturity portfolio at June 30, 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
 

June 30, 2017

           

Mortgage backed securities: residential

   $ 100,344      $ 358      $ (1,900    $ 98,802  

State and political subdivisions

     122,011        3,858        (25      125,844  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 222,355      $ 4,216      $ (1,925    $ 224,646  
  

 

 

    

 

 

    

 

 

    

 

 

 

 

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Table of Contents
     Gross
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  
  

 

 

    

 

 

    

 

 

    

 

 

 

The proceeds from sales and calls of securities available for sale and the associated gains and losses were as follows:

 

    

Three Months Ended

June 30,

    

Six Months Ended

June 30,

 
     2017      2016      2017      2016  

Proceeds

   $ 61,190      $ 13,491      $ 61,190      $ 62,263  

Gross gains

     246        797        246        1,490  

Gross losses

     (126      (2      (126      (385

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.

 

     June 30, 2017  
     Amortized
Cost
     Fair
Value
 

Available for sale

     

One year or less

   $ 44,767      $ 44,646  

Over one year through five years

     50,135        50,012  

Over five years through ten years

     4,710        4,846  

Over ten years

     141,741        140,481  

Mortgage-backed securities: residential

     770,350        765,342  

Mortgage-backed securities: commercial

     15,745        15,724  
  

 

 

    

 

 

 

Total

   $ 1,027,448      $ 1,021,051  
  

 

 

    

 

 

 

Held to maturity

     

Over one year through five years

   $ 1,104      $ 1,140  

Over five years through ten years

     5,179        5,339  

Over ten years

     115,728        119,365  

Mortgage-backed securities: residential

     100,344        98,802  
  

 

 

    

 

 

 

Total

   $ 222,355      $ 224,646  
  

 

 

    

 

 

 

Securities pledged at June 30, 2017 and December 31, 2016 had a carrying amount of $958,128 and $808,224, respectively, and were pledged to secure public deposits and repurchase agreements.

At June 30, 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.

 

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The following table summarizes the securities with unrealized and unrecognized losses at June 30, 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
 

June 30, 2017

               

Available for sale

               

U.S. government sponsored entities and agencies

   $ 60,005      $ (124   $ —      $ —     $ 60,005      $ (124

Mortgage-backed securities:

               

residential

     498,174        (5,958     29,009        (572     527,183        (6,530

Mortgage-backed securities:

               

Commercial

     15,724        (21     —        —       15,724        (21

State and political subdivisions

     74,988        (2,650     8,190        (548     83,178        (3,198

U.S. Treasury bills

     19,763        (9     —        —       19,763        (9
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total available for sale

   $ 668,654      $ (8,762   $ 37,199      $ (1,120   $ 705,853      $ (9,882
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 
     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

   $ 68,296      $ (1,535   $ 13,830      $ (365   $ 82,126      $ (1,900

State and political subdivisions

     1,427        (25     —        —       1,427        (25
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total held to maturity

   $ 69,723      $ (1,560   $ 13,830      $ (365   $ 83,553      $ (1,925
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 
     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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Table of Contents

NOTE 3—LOANS

Loans at June 30, 2017 and December 31, 2016 were as follows:

 

     June 30,
2017
     December 31,
2016
 

Loans that are not PCI loans

     

Construction and land development

   $ 497,940      $ 489,562  

Commercial real estate:

     

Nonfarm, nonresidential

     550,112        458,569  

Other

     32,307        38,571  

Residential real estate:

     

Closed-end 1-4 family

     346,744        254,474  

Other

     156,400        150,515  

Commercial and industrial

     422,823        376,476  

Consumer and other

     3,936        3,359  
  

 

 

    

 

 

 

Loans before net deferred loan fees

     2,010,262        1,771,526  

Deferred loan fees, net

     (889      (793
  

 

 

    

 

 

 

Total loans that are not PCI loans

     2,009,373        1,770,733  

Total PCI loans

     2,582        2,859  

Allowance for loan losses

     (18,689      (16,553
  

 

 

    

 

 

 

Total loans, net of allowance for loan losses

   $ 1,993,266      $ 1,757,039  
  

 

 

    

 

 

 

The following table presents the activity in the allowance for loan losses by portfolio segment for the three month periods ended June 30, 2017 and 2016:

 

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

Three Months Ended June 30, 2017

              

Allowance for loan losses:

              

Beginning balance

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

Provision for loan losses

     (41     352        255       9        (2     573  

Loans charged-off

     —       —        (1     —        (2     (3

Recoveries

     —       —        13       —        1       14  
  

 

 

   

 

 

    

 

 

   

 

 

    

 

 

   

 

 

 

Total ending allowance balance

   $ 3,796     $ 5,011      $ 2,939     $ 6,894      $ 49     $ 18,689  
  

 

 

   

 

 

    

 

 

   

 

 

    

 

 

   

 

 

 

Three Months Ended June 30, 2016

              

Allowance for loan losses:

              

Beginning balance

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

Provision for loan losses

     246       301        248       780        (8     1,567  

Loans charged-off

     —       —        —       —        (4     (4

Recoveries

     —       —        12       —        2       14  
  

 

 

   

 

 

    

 

 

   

 

 

    

 

 

   

 

 

 

Total ending allowance balance

   $ 3,624     $ 3,865      $ 2,060     $ 4,655      $ 49     $ 14,253  
  

 

 

   

 

 

    

 

 

   

 

 

    

 

 

   

 

 

 

The following table presents the activity in the allowance for loan losses by portfolio segment for the six-month periods ended June 30, 2017 and 2016:

 

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

Six Months Ended June 30, 2017

              

Allowance for loan losses:

              

Beginning balance

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

Provision for loan losses

     20        745        517       1,126       20       2,428  

Loans charged-off

     —        —        (1     (300     (25     (326

Recoveries

     —        —        25       —       9       34  
  

 

 

    

 

 

    

 

 

   

 

 

   

 

 

   

 

 

 

Total ending allowance balance

   $ 3,796      $ 5,011      $ 2,939     $ 6,894     $ 49     $ 18,689  
  

 

 

    

 

 

    

 

 

   

 

 

   

 

 

   

 

 

 

 

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

Six Months Ended June 30, 2016

               

Allowance for loan losses:

               

Beginning balance

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

Provision for loan losses

     438        719        159        1,362       25       2,703  

Loans charged-off

     —        —        —        (65     (15     (80

Recoveries

     —        —        40        —       3       43  
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

   

 

 

 

Total ending allowance balance

   $ 3,624      $ 3,865      $ 2,060      $ 4,655     $ 49     $ 14,253  
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

   

 

 

 

As of June 30, 2017 and December 31, 2016, there was $11 and $0 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 June 30, 2017 and December 31, 2016. For purposes of this disclosure, recorded investment in loans excludes accrued interest receivable and deferred loan fees, net due to immateriality.

 

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

June 30, 2017

                 

Allowance for loan losses:

                 

Ending allowance balance attributable to loans:

                 

Individually evaluated for impairment

   $ —      $ —      $ —      $ 933      $ —      $ 933  

Collectively evaluated for impairment

     3,796        5,011        2,928        5,961        49        17,745  

Purchased credit-impaired loans

     —        —        11        —        —        11  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total ending allowance balance

   $ 3,796      $ 5,011      $ 2,939      $ 6,894      $ 49      $ 18,689  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Loans:

                 

Individually evaluated for impairment

   $ 2,250      $ 1,451      $ 639      $ 3,888      $ 7      $ 8,235  

Collectively evaluated for impairment

     495,690        580,968        502,505        418,935        3,929        2,002,027  

Purchased credit-impaired loans

     —        395        192        1,995        —        2,582  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total ending loans balance

   $ 497,940      $ 582,814      $ 503,336      $ 424,818      $ 3,936      $ 2,012,844  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

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

Loans collectively evaluated for impairment reported at June 30, 2017 include certain acquired loans. At June 30, 2017, these non-PCI loans had a carrying value of $59,892, comprised of contractually unpaid principal totaling $61,550 and discounts totaling $1,658. Management evaluated these loans for credit deterioration since acquisition and determined that $6 in allowance for loan losses was necessary at June 30, 2017.

The following table presents information related to impaired loans by class of loans as of June 30, 2017 and December 31, 2016:

 

     Unpaid
Principal
Balance
     Recorded
Investment
     Allowance for
Loan Losses
Allocated
 

June 30, 2017

        

With no allowance recorded:

        

Construction and land development

   $ 2,250      $ 2,250      $ —  

Commercial real estate:

        

Nonfarm, nonresidential

     3,037        1,451        —  

Residential real estate:

        

Closed-end 1-4 family

     399        399        —  

Other

     248        240        —  

Commercial and industrial

     800        800        —  

Consumer and other

     7        7        —  
  

 

 

    

 

 

    

 

 

 

Subtotal

     6,741        5,147        —  

With an allowance recorded:

        

Commercial and industrial

     3,088        3,088        933  
  

 

 

    

 

 

    

 

 

 

Subtotal

     3,088        3,088        933  
  

 

 

    

 

 

    

 

 

 

Total

   $ 9,829      $ 8,235      $ 933  
  

 

 

    

 

 

    

 

 

 

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 and six months ended June 30, 2017 and 2016:

 

    

Three Months Ended

June 30,

    

Six Months Ended

June 30,

 

Average Recorded Investment

   2017      2016      2017      2016  

With no allowance recorded:

           

Construction and land development

   $ 2,250      $ 121      $ 1,125      $ 510  

Commercial real estate:

           

Nonfarm, nonresidential

     2,242        1,094        3,185        1,248  

Residential real estate:

           

Closed-end 1-4 family

     604        413        1,202        574  

Other

     181        754        151        733  

Commercial and industrial

     568        263        705        142  

Consumer and other

     2        30        1        15  
  

 

 

    

 

 

    

 

 

    

 

 

 

Subtotal

     5,847        2,675        6,369        3,222  
  

 

 

    

 

 

    

 

 

    

 

 

 

With an allowance recorded:

           

Commercial and industrial

   $ 2,855      $ 163      $ 2,720      $ 125  
  

 

 

    

 

 

    

 

 

    

 

 

 

Subtotal

     2,855        163        2,720        125  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 8,702      $ 2,838      $ 9,089      $ 3,347  
  

 

 

    

 

 

    

 

 

    

 

 

 

The impact on net interest income for these loans was not material to the Company’s results of operations for the three and six months ended June 30, 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 June 30, 2017 and December 31, 2016:

 

     Nonaccrual      Loans Past Due
Over 90 Days
 

June 30, 2017

     

Commercial real estate:

     

Nonfarm, nonresidential

   $ 835      $ —  

Residential real estate:

     

Closed-end 1-4 family

     39        425  

Other

     118        —  

Commercial and industrial

     2,374        108  
  

 

 

    

 

 

 

Total

   $ 3,366      $ 533  
  

 

 

    

 

 

 

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 June 30, 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  

June 30, 2017

                       

Construction and land development

   $ 210      $ —      $ —      $ —      $ 210      $ 497,730      $ —      $ 497,940  

Commercial real estate:

                       

Nonfarm, nonresidential

     —        —        —        835        835        549,277        395        550,507  

Other

     —        —        —        —        —        32,307        —        32,307  

Residential real estate:

                       

Closed-end 1-4 family

     367        1,274        425        39        2,105        344,639        192        346,936  

Other

     —        —        —        118        118        156,282        —        156,400  

Commercial and industrial

     237        11        108        2,374        2,730        420,093        1,995        424,818  

Consumer and other

     13        —        —        —        13        3,923        —        3,936  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 
   $ 827      $ 1,285      $ 533      $ 3,366      $ 6,011      $ 2,004,251      $ 2,582      $ 2,012,844  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

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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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 June 30, 2017 and December 31, 2016:

 

     Pass      Special
Mention
     Substandard      Total  

June 30, 2017

           

Construction and land development

   $ 495,690      $ —      $ 2,250      $ 497,940  

Commercial real estate:

           

Nonfarm, nonresidential

     538,447        10,098        1,962        550,507  

Other

     32,307        —        —        32,307  

Residential real estate:

           

Closed-end 1-4 family

     345,863        —        1,073        346,936  

Other

     155,270        —        1,130        156,400  

Commercial and industrial

     403,818        15,475        5,525        424,818  

Consumer and other

     3,924        5        7        3,936  
  

 

 

    

 

 

    

 

 

    

 

 

 
   $ 1,975,319      $ 25,578      $ 11,947      $ 2,012,844  
  

 

 

    

 

 

    

 

 

    

 

 

 
     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 June 30, 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 June 30, 2017 and December 31, 2016 are as follows:

 

     June 30,
2017
     December 31,
2016
 

Loan portfolios serviced for:

     

Federal Home Loan Mortgage Corporation

   $ 503,107      $ 499,385  

Other

     2,258        2,954  

 

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Table of Contents

The components of net loan servicing fees for the three and six months ended June 30, 2017 and 2016 were as follows:

 

     Three Months Ended
June 30,
     Six Months Ended
June 30,
 
     2017      2016      2017      2016  

Loan servicing fees, net:

           

Loan servicing fees

   $ 319      $ 301      $ 639      $ 594  

Amortization of loan servicing fees

     (266      (305      (479      (556

Change in impairment

     —        —        —        —  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 53      $ (4    $ 160      $ 38  
  

 

 

    

 

 

    

 

 

    

 

 

 

The fair value of servicing rights was estimated by management to be approximately $5,000 at June 30, 2017. Fair value for June 30, 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%.

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 June 30, 2017 and December 31, 2016, these short-term borrowings totaled $32,132 and $36,496, respectively, and were secured by securities with carrying amounts of $41,397 and $41,136, respectively. At June 30, 2017, all of the Company’s repurchase agreements had one-day maturities.

The following table provides additional details as of June 30, 2017:

 

As of June 30, 2017

   Mortgage-
Backed
Securities:
Residential
    State and
Political
Subdivisions
    Total  

Market value of securities pledged

   $ 698     $ 41,912     $ 42,610  

Borrowings related to pledged amounts

   $ —     $ 32,132     $ 32,132  

Market value pledged as a % of borrowings

     —       130     133

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 seven years following the date of issuance. The warrants were detachable from the common stock. There were 12,461 and 3,775 warrants exercised during the six months ended June 30, 2017 and 2016, respectively. A summary of the stock warrant activity for the six months ended June 30, 2017 and 2016 follows:

 

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Table of Contents
     June 30,
2017
     June 30,
2016
 

Stock warrants exercised:

     

Intrinsic value of warrants exercised

   $ 329      $ 73  

Cash received from warrants exercised

     150        45  

The warrants expired on March 30, 2017; therefore at June 30, 2017, there were no outstanding warrants associated with the 2010 offering.

The Company has two share based compensation plans as described below. Total compensation cost that has been charged against income for those plans was $788 and $537 and $1,235 and $795 for the three and six months ended June 30, 2017 and 2016, respectively. The total income tax benefit, which is shown on the Consolidated Statements of Income as a reduction of income tax expense, was $357 and $450 for the three and six months ended June 30, 2017. The total income tax benefit for the three and six months ended June 30, 2016 was $509 for both periods.

Stock Options: The Company’s 2007 Omnibus Equity Incentive Plan (the “2007 Plan”), as amended and shareholder-approved, provides for authorized shares up to 4,000,000. At June 30, 2017, there were 1,960,041 authorized shares available for issuance under the 2007 Plan.

The 2007 Plan provides that no options intended to be ISOs may be granted after April 9, 2017. As a result, the Company’s board of directors approved, and recommended to its shareholders for approval, a new equity incentive plan, the 2017 Omnibus Equity Incentive Plan. The Company’s shareholders approved the 2017 Omnibus Equity Incentive Plan at the 2017 annual meeting of shareholders. The terms of the 2017 Omnibus Equity Incentive Plan are substantially similar to the terms of the 2007 Omnibus Equity Incentive Plan it was intended to replace. The 2017 Omnibus Equity Incentive Plan provides for authorized shares up to 5,000,000. At June 30, 2017, there were 4,790,739 authorized shares available for issuance under the 2017 Omnibus Equity Incentive Plan.

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.

 

     June 30,
2017
    June 30,
2016
 

Risk-free interest rate

     2.03     1.63

Expected term

     6.7 years       7.5 years  

Expected stock price volatility

     33.36     29.46

Dividend yield

     0.03     0.24

The weighted average fair value of options granted for the six months ended June 30, 2017 and 2016 were $14.38 and $9.47, respectively.

 

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Table of Contents

A summary of the activity in the plans for the six months ended June 30, 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

     239,070        37.85        

Exercised

     (116,856      11.63        

Forfeited, expired, or cancelled

     (2,210      23.06        
  

 

 

          

Outstanding at period end

     1,515,020      $ 20.42        6.77      $ 31,563  
  

 

 

    

 

 

    

 

 

    

 

 

 

Vested or expected to vest

     1,439,269      $ 20.42        6.77      $ 29,985  

Exercisable at period end

     792,366      $ 13.21        5.05      $ 22,143  

 

     For the six months
ended June 30,
 
     2017      2016  

Stock options exercised:

     

Intrinsic value of options exercised

   $ 3,460      $ 1,648  

Cash received from options exercised

     1,055        975  

Tax benefit realized from option exercises

     360        419  

As of June 30, 2017, there was $6,147 of total unrecognized compensation cost related to non-vested stock options granted under the plans. The cost is expected to be recognized over a weighted-average period of 1.9 years.

Restricted Stock: Additionally, the 2007 Omnibus Equity Incentive Plan and the 2017 Omnibus Equity Incentive Plan each 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.

A summary of activity for non-vested restricted share awards for the six months ended June 30, 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

     27,282        37.35  

Vested

     (23,451      18.93  

Forfeited

     (371      26.62  
  

 

 

    

Non-vested at June 30, 2017

     109,918      $ 24.85  
  

 

 

    

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 June 30, 2017, there was $2,294 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 3.9 years. The total fair value of shares vested during the six months ended June 30, 2017 and 2016 was $1,125 and $603, respectively.

The total income tax benefit realized from the vesting of restricted stock for the three and six months ended June 30, 2017 and 2016 was $90 for all periods.

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.

 

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Table of Contents

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 June 30, 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 June 30, 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.

Actual and required capital amounts and ratios are presented below as of June 30, 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  

June 30, 2017

               

Company common equity Tier 1 capital to risk-weighted assets

   $ 282,945        11.54   $ 110,300        4.50     N/A        N/A  

Company Total Capital to risk weighted assets

   $ 360,152        14.69   $ 196,090        8.00     N/A        N/A  

Company Tier 1 (Core) Capital to risk weighted assets

   $ 282,945        11.54   $ 147,067        6.00     N/A        N/A  

Company Tier 1 (Core) Capital to average assets

   $ 282,945        8.21   $ 137,848        4.00     N/A        N/A  

Bank common equity Tier 1 capital to risk-weighted assets

   $ 337,486        13.77   $ 110,301        4.50   $ 159,324        6.50

Bank Total Capital to risk weighted assets

   $ 356,267        14.53   $ 196,091        8.00   $ 245,114        10.00

Bank Tier 1 (Core) Capital to risk weighted assets

   $ 337,486        13.77   $ 147,068        6.00   $ 196,091        8.00

Bank Tier 1 (Core) Capital to average assets

   $ 337,486        9.80   $ 137,786        4.00   $ 172,233        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.

 

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Table of Contents

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).

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 reviewed 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).

 

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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
June 30, 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

   $ —        $ 60,005      $ —    

Mortgage-backed securities-residential

     —          765,342        —    

Mortgage-backed securities-commercial

     —          15,724        —    

State and political subdivisions

     —          160,217        —    

U.S. Treasury bills

     —          19,763        —    
  

 

 

    

 

 

    

 

 

 

Total securities available for sale

   $ —        $ 1,021,051      $ —    
  

 

 

    

 

 

    

 

 

 

Loans held for sale

   $ —        $ 11,724      $ —    
  

 

 

    

 

 

    

 

 

 

Mortgage banking derivatives

   $ —        $ 568      $ —    
  

 

 

    

 

 

    

 

 

 

Financial Liabilities

        

Mortgage banking derivatives

   $ —        $ (156    $ —    
  

 

 

    

 

 

    

 

 

 

 

     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 June 30, 2017, the unpaid principal balance of loans held for sale was $11,377 resulting in an unrealized gain of $347 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 June 30, 2017 and 2016, the change in fair value related to loans held for sale, which is included in gain on sale of loans, was $(8) and $194, respectively. For the six months ended June 30, 2017 and 2016, the change in fair value related to loans held for sale, which is included in gain on sale of loans, was $105 and $231, respectively. None of these loans were 90 days or more past due or on nonaccrual as of June 30, 2017 and December 31, 2016.

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

 

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

There were two collateral-dependent impaired loans carried at fair value of $2,154 as of June 30, 2017 and one collateral-dependent impaired loan carried at fair value of $1,650 as of December 31, 2016. For the three and six months ended June 30, 2017, $194 in additional provision for loan losses was recorded related to impaired loans recorded at fair value of collateral. For the three and six months ended June 30, 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 $1,350 as of June 30, 2017 and $0 as of December 31, 2016. There were no properties at June 30, 2017 or 2016 that had required write-downs to fair value resulting in no write downs for the three and six months ended June 30, 2017 and 2016, respectively.

The carrying amounts and estimated fair values of financial instruments at June 30, 2017 and December 31, 2016 are as follows:

 

     Carrying
Amount
     Fair Value Measurements at
June 30, 2017 Using:
 
        Level 1      Level 2      Level 3      Total  

Financial assets

              

Cash and cash equivalents

   $ 96,741      $ 96,741      $ —        $ —        $ 96,741  

Certificates of deposit held at other financial institutions

     2,530        —          2,530        —          2,530  

Securities available for sale

     1,021,051        —          1,021,051        —          1,021,051  

Securities held to maturity

     222,355        —          224,646        —          224,646  

Loans held for sale

     11,724        —          11,724        —          11,724  

Net loans

     2,011,955        —          —          1,970,297        1,970,297  

Restricted equity securities

     17,326        n/a        n/a        n/a        n/a  

Servicing rights, net

     3,581        —          —          5,000        5,000  

Accrued interest receivable

     11,217        6        6,241        4,970        11,217  

Financial liabilities

              

Deposits

   $ 2,754,425      $ 1,496,990      $ 1,254,119      $ —        $ 2,751,109  

Federal funds purchased and repurchase agreements

     42,082        —          42,082        —          42,082  

Federal Home Loan Bank advances

     287,000        —          285,951        —          285,951  

Subordinated notes, net

     58,426        —          —          62,098        62,098  

Accrued interest payable

     2,571        33        1,850        688        2,571  

 

     Carrying
Amount
     Fair Value Measurements at
December 31, 2016 Using:
 
        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.

 

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(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 3 classification.

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

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

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

(h) 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

June 30,

    

Six Months Ended

June 30,

 
     2017      2016      2017      2016  

Basic

           

Net income available to common shareholders

   $ 8,866      $ 7,508      $ 16,800      $ 13,718  

Less: earnings allocated to participating securities

     (76      (86      (140      (149
  

 

 

    

 

 

    

 

 

    

 

 

 

Net income allocated to common shareholders

   $ 8,790      $ 7,422      $ 16,660      $ 13,569  
  

 

 

    

 

 

    

 

 

    

 

 

 

Weighted average common shares outstanding including participating securities

     13,118,201        10,654,351        13,083,797        10,617,328  

Less: Participating securities

     (111,977      (121,475      (109,166      (115,270
  

 

 

    

 

 

    

 

 

    

 

 

 

Average shares

     13,006,224        10,532,876        12,974,631        10,502,058  
  

 

 

    

 

 

    

 

 

    

 

 

 

Basic earnings per common share

   $ 0.68      $ 0.70      $ 1.28      $ 1.29  
  

 

 

    

 

 

    

 

 

    

 

 

 

 

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Table of Contents
    

Three Months Ended

June 30,

    

Six Months Ended

June 30,

 
     2017      2016      2017      2016  

Diluted

           

Net income allocated to common shareholders

   $ 8,790      $ 7,422      $ 16,660      $ 13,569  

Weighted average common shares outstanding for basic earnings per common share

     13,006,224        10,532,876        12,974,631        10,502,058  

Add: Dilutive effects of assumed exercises of stock options

     695,199        653,339        701,947        638,041  

Add: Dilutive effects of assumed exercises of stock warrants

     339        13,015        3,157        12,721  
  

 

 

    

 

 

    

 

 

    

 

 

 

Average shares and dilutive potential common shares

     13,701,762        11,199,230        13,679,735        11,152,820  
  

 

 

    

 

 

    

 

 

    

 

 

 

Dilutive earnings per common share

   $ 0.64      $ 0.66      $ 1.22      $ 1.22  
  

 

 

    

 

 

    

 

 

    

 

 

 

For the three months ended June 30, 2017 and 2016, stock options for 302,570 and 239,587 shares of common stock were not considered in computing diluted earnings per common share because they were antidilutive. Stock options for 205,285 and 150,877 shares of common stock were not considered in computing diluted earnings per common share for the six months ended June 30, 2017 and 2016 because they were antidilutive.

NOTE 10—SUBORDINATED DEBT ISSUANCE

The Company’s subordinated notes, net of issuance costs, totaled $58,426 and $58,337 at June 30, 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 (the “March 2016 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 (the “June 2016 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 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 Subordinated Notes. For the three months ended June 30, 2017 and 2016, amortization of issuance costs has amounted to $45 and $34, respectively. For the six months ended June 30, 2017 and 2016, amortization of issuance costs has amounted to $89 and $34, respectively.

 

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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 June 30, 2017 all interest payments have been made in accordance with the terms of the agreements.

 

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Table of Contents

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. 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.

Recently Adopted Accounting Pronouncements

In March 2016, the FASB issued 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 are to 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 excludes the amount of excess tax benefits that would have previously been recognized in additional paid-in capital. Additionally, excess tax benefits are classified along with other income tax cash flows as an operating activity rather than as 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 GAAP) or account for forfeitures when they occur. ASU 2016-09 changed 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 this ASU in the fourth quarter of 2016, effective as of January 1, 2016. The adoption of this ASU decreased income tax expense for the six months ended June 30, 2016 by $509 and increased diluted earnings per share by $0.04. The adoption of this ASU also impacted previously reported quarterly earnings and/or earnings per share in 2016, as follows: (1) first quarter 2016 – decreased diluted earnings per share by $0.01; and (2) second quarter 2016 – decreased income tax expense by $509 and increased diluted earnings per share by $0.04.

Recent Accounting Pronouncements

In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers (Topic 606). ASU 2014-09 creates 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. Most of the Company’s revenues come from financial instruments, like loans, investment securities and other financial instruments which are not included in the scope of this ASU. The Company’s revenue recognition pattern for revenue streams within the scope of ASU 2014-09, including but not limited to service charges on deposit accounts and gains/losses on the sale of OREO, is not expected to change significantly from current practice. The standard permits the use of either the full retrospective or modified retrospective transition method. The Company is currently planning to use the modified retrospective transition method which requires application of ASU 2014-09 to uncompleted contracts at the date of adoption. Periods prior to the date of adoption are not retrospectively revised, but a cumulative effect of adoption is recognized for the impact of the ASU on uncompleted contracts at the date of adoption. Adoption of this guidance is not expected to have a material impact on the Company’s consolidated financial statements.

In January 2016, FASB issued ASU 2016-01, Financial Instruments (Topic 825): Recognition and Measurement of Financial Assets and Financial Liabilities, which amends prior guidance to require an entity to measure its equity investments (except those accounted for under the equity method of accounting) to be measured at fair value with changes in fair value recognized in net income. An entity may choose to measure equity investments that do not have readily determinable fair values at cost minus impairment, if any, plus or minus changes resulting from observable price changes in orderly transactions for the identical or similar investment of same issuer. The new guidance simplifies the impairment assessment of equity investments without readily determinable fair values, requires public entities to use the exit price notion when measuring fair value of financial instruments for disclosure purposes, requires an entity to present separately in other comprehensive income the portion of the total change in fair value

 

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of a liability resulting from changes in the instrument-specific credit risk when the entity has selected fair value option for financial instruments and requires separate presentation of financial assets and liabilities by measurement category and form of financial asset. The amendments are effective for annual periods and interim periods within those annual periods beginning after December 15, 2017. Management has not yet determined the impact that adoption of this guidance will have 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 be impacted. Management is evaluating the impact ASU 2016-02 will have on the Company’s consolidated 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 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 data 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, the 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 2017-04, Intangibles – Goodwill and Other (Topic 350): 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 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 2017-04 is not expected to have a material impact on the Company’s consolidated financial statements.

In March 2017, the FASB issued ASU 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 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 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 2017-08 to determine the potential impact the new standard will have on the Company’s consolidated financial statements.

 

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In May 2017, the FASB issued ASU 2017-09, Compensation - Stock Compensation (Subtopic 718): Scope of Modification Accounting. ASU 2017-09 clarifies when changes to terms or conditions of a share-based payment award must be accounted for as a modification. Under the new guidance, an entity will not apply modification accounting to a share-based payment award if all of the following are the same immediately before and after the change: (i) the fair value of the award, (ii) the vesting conditions of the award, and (iii) the classification of the award as either an equity or liability instrument. ASU 2017-09 is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2017. Early adoption is permitted. The guidance requires companies to apply the requirements prospectively to awards modified on or after the adoption date. ASU 2017-09 is not expected to have a significant impact on the Company’s consolidated financial statements.

COMPARISON OF RESULTS OF OPERATIONS FOR

THE THREE AND SIX MONTHS ENDED JUNE 30, 2017 AND 2016

(Dollar Amounts in Thousands)

Overview

The Company reported net income of $8,874 and $16,808 for the three and six months ended June 30, 2017, respectively, compared to $7,508 and $13,741 for the three and six months ended June 30, 2016, respectively. After earnings attributable to noncontrolling interest and after the payment of preferred dividends on the shares of Senior Non-Cumulative Perpetual Preferred Stock, Series A (the “Series A Preferred Stock”) issued to the United States Department of the Treasury (“Treasury”) pursuant to the Small Business Lending Fund (“SBLF”), the Company’s net earnings available to common shareholders for the three and six months ended June 30, 2017 was $8,866 and $16,800, respectively, compared to $7,508 and $13,718 for the three and six months ended June 30, 2016, respectively. The primary reason for the increase in net earnings available to common shareholders for the three and six months ended June 30, 2017 was increased interest income on loans and investment securities compared with the same periods in 2016. The increase in loans was due to significant organic growth. The growth in the securities portfolio is primarily attributable to the Company’s leverage program to utilize proceeds received from capital raised during the fourth quarter of 2016.

Net Interest Income/Margin

Net interest income consists of interest income generated by earning assets less interest expense paid on interest-bearing liabilities and is the most significant component of our revenues. Net interest income for the three and six months ended June 30, 2017, totaled $24,469 and $48,112, respectively, compared to $19,934 and $39,210 for the same periods in 2016, an increase of $4,535 and $8,902, or 22.8% and 22.7%, between the respective periods. For the three and six months ended June 30, 2017, interest income increased $8,725 and $16,705, or 35.9% and 35.7%, respectively, compared with the same periods in 2016, due to growth in both the loan and investment securities portfolios. For the three and six months ended June 30, 2017, interest expense increased $4,190 and $7,803, or 96.3% and 102.2%, respectively, compared with the same periods in 2016, as a result of increases in interest-bearing deposits, Federal Home Loan Bank (“FHLB”) advances and subordinated notes.

Interest-earning assets averaged $3,375,905 and $2,404,060 during the three months ended June 30, 2017 and 2016, respectively, an increase of $971,845, or 40.4%. This increase was due to growth in all types of interest-earning assets, but the largest growth occurred in loans and investment securities. Average loans increased 34.0%, and investment securities increased 48.4%, when comparing the three months ended June 30, 2017 with the same period in 2016. When comparing the three months ended June 30, 2017 and 2016, the yield on average interest earning assets, adjusted for tax equivalent yield, decreased 11 basis points in 2017 to 4.09% compared to 4.20% for the same period during 2016. For the three months ended June 30, 2017, the tax equivalent yield on available for sale securities was 2.68%, and for the three months ended June 30, 2016, the tax equivalent yield on available for sale securities was 2.48%. For the three months ended June 30, 2017, the tax equivalent yield on held to maturity securities was 4.24%, and for the three months ended June 30, 2016, the tax equivalent yield on held to maturity securities was 3.94%. The primary driver for the increase in yields on securities for the three- and six-month periods ended June 30, 2017 was the volume of tax-exempt municipal securities purchased during the past 12 months, which increased tax equivalent yields when comparing the three-month period in 2017 with the same period in 2016.

Interest-bearing liabilities averaged $2,909,508 during the three months ended June 30, 2017, compared to $2,065,486 for the same period in 2016, an increase of $844,022, or 40.9%. Total average interest-bearing deposits grew $662,188, or 35.0%, including increases in average interest checking of $360,942 and average time deposits of $323,733 for the three-month period ended June 30, 2017, as compared to the same period during 2016. Rapid growth in the loan portfolio also resulted in an increase in average FHLB advances of $158,516, and also subordinated notes and other borrowings increased $19,424, when comparing the three months ended June 30, 2017 with the same period in 2016.

For the three-month periods ended June 30, 2017 and 2016, the cost of average interest-bearing liabilities increased 33 basis points to 1.18% from 0.85%. The increase was due to rate increases in the cost of funds for interest-bearing deposits, FHLB advances and Federal funds purchased.

 

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Interest-earning assets averaged $3,280,739 and $2,290,583 during the six months ended June 30, 2017 and 2016, respectively, an increase of $990,156, or 43.2%. This increase was due to growth in both the loan portfolio and the securities portfolio over the past year. Average loans increased 35.4%, and investment securities increased 55.4%, when comparing the six months ended June 30, 2017 with the same period in 2016. When comparing the six months ended June 30, 2017 and 2016, the yield on average interest earning assets, adjusted for tax equivalent yield decreased 17 basis points to 4.08% in 2017 compared to 4.25% for the same period during 2016.

For the six months ended June 30, 2017 and 2016, the tax equivalent yield on loans was 4.92% and 5.16% respectively. For the three months ended June 30, 2017 and 2016, the tax equivalent yield on loans was 4.93% and 5.09%, respectively. The primary driver for the decrease in yields on loans for the three- and six-month periods ended June 30, 2017 was the increase in deferred cost amortization that was recognized when comparing the three- and six-month periods ended June 30, 2017 with the same periods in 2016, which was offset by discount accretion income related to purchased loans during these same comparative periods.

For the six months ended June 30, 2017, the tax equivalent yield on available for sale securities was 2.69%, and for the six months ended June 30, 2016, the tax equivalent yield on available for sale securities was 2.52%. For the six months ended June 30, 2017, the tax equivalent yield on held to maturity securities was 4.22%, and for the six months ended June 30, 2016, the tax equivalent yield on held to maturity securities was 4.03%. The primary driver for the increase in yields on securities for the six-month period ended June 30, 2017 was the volume of tax-exempt municipal securities purchased during the past 12 months, which increased tax equivalent yields when comparing the six-month period in 2017 with the same periods in 2016.

Interest-bearing liabilities averaged $2,830,471 during the six months ended June 30, 2017, compared to $1,965,527 for the same period in 2016, an increase of $864,944, or 44.0%. Total average interest-bearing deposits grew $680,142, including increases in interest-bearing checking of $364,264 and average time deposits of $299,988 for the six-month period ended June 30, 2017, as compared to the same period during 2016. Rapid growth in the loan portfolio also resulted in an increase in average FHLB advances of $149,158, and subordinated notes and other borrowings increased $38,336, when comparing the six months ended June 30, 2017 with the same period in 2016.

For the six-month periods ended June 30, 2017 and 2016, the cost of average interest-bearing liabilities increased 32 basis points from 0.78% to 1.10%. The increase was due to increases in the cost of funds from interest-bearing deposits, FHLB advances, Federal funds purchased and repurchase agreements.

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 and six months ended June 30, 2017 and 2016:

Average Balances—Yields & Rates(7)

(Dollars are in thousands)

 

     Three Months Ended June 30,  
     2017     2016  
     Average
Balance
    Interest
Inc / Exp
     Average
Yield / Rate
    Average
Balance
    Interest
Inc / Exp
     Average
Yield / Rate
 

ASSETS:

              

Loans(1)(6)

   $ 2,006,536     $ 24,685        4.93   $ 1,497,556     $ 18,955        5.09

Securities available for sale(6)

     1,041,892       6,969        2.68     662,867       4,087        2.48

Securities held to maturity(6)

     224,628       2,374        4.24     190,718       1,868        3.94

Restricted equity securities

     16,360       213        5.22     9,376       118        5.06

Certificates of deposit at other financial institutions

     2,296       8        1.40     1,065       4        1.51

Federal funds sold and other(2)

     84,193       216        1.03     42,478       52        0.49
  

 

 

   

 

 

    

 

 

   

 

 

   

 

 

    

 

 

 

TOTAL INTEREST EARNING ASSETS

   $ 3,375,905     $ 34,465        4.09   $ 2,404,060     $ 25,084        4.20

Allowance for loan losses

     (18,475          (13,049     

All other assets

     98,237            82,475       
  

 

 

        

 

 

      

TOTAL ASSETS

   $ 3,455,667          $ 2,473,486       

LIABILITIES & EQUITY

              

Deposits:

              

Interest checking

   $ 641,903     $ 1,239        0.77   $ 280,961     $ 271        0.39

Money market

     608,119       1,481        0.98     637,922       941        0.59

Savings

     56,182       43        0.31     48,866       39        0.32

Time deposits

     1,248,570       3,798        1.22     924,837       2,107        0.92

Federal Home Loan Bank advances

     240,846       752        1.25     82,330       187        0.91

 

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     Three Months Ended June 30,  
     2017     2016  
     Average
Balance
     Interest
Inc / Exp
     Average
Yield / Rate
    Average
Balance
     Interest
Inc / Exp
     Average
Yield / Rate
 

Federal funds purchased and other(3)

     55,491        147        1.06     51,597        82        0.64

Subordinated notes and other borrowings

     58,397        1,082        7.43     38,973        725        7.48
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

    

 

 

 

TOTAL INTEREST BEARING LIABILITIES

   $ 2,909,508      $ 8,542        1.18   $ 2,065,486      $ 4,352        0.85

Demand deposits

     248,069             200,849        

Other liabilities

     12,431             12,766        

Total equity

     285,659             194,385        
  

 

 

         

 

 

       

TOTAL LIABILITIES AND EQUITY

   $ 3,455,667           $ 2,473,486        

NET INTEREST SPREAD(4)

           2.91           3.35

NET INTEREST INCOME

      $ 25,923           $ 20,732     

NET INTEREST MARGIN(5)

           3.08           3.47

 

     Six Months Ended June 30,  
     2017     2016  
     Average
Balance
    Interest
Inc / Exp
     Average
Yield / Rate
    Average
Balance
    Interest
Inc / Exp
     Average
Yield / Rate
 

ASSETS:

              

Loans(1)(6)

   $ 1,937,988     $ 47,268        4.92   $ 1,431,012     $ 36,714        5.16

Securities available for sale(6)

     1,016,924       13,553        2.69     625,876       7,833        2.52

Securities held to maturity(6)

     226,137       4,730        4.22     174,278       3,496        4.03

Restricted equity securities

     15,035       394        5.28     8,693       221        5.11

Certificates of deposit at other financial institutions

     2,059       15        1.47     655       7        2.15

Federal funds sold and other(2)

     82,596       372        0.91     50,069       115        0.46
  

 

 

   

 

 

    

 

 

   

 

 

   

 

 

    

 

 

 

TOTAL INTEREST EARNING ASSETS

   $ 3,280,739     $ 66,332        4.08   $ 2,290,583     $ 48,386        4.25

Allowance for loan losses

     (17,822          (12,508     

All other assets

     97,166            82,481       
  

 

 

        

 

 

      

TOTAL ASSETS

   $ 3,360,083          $ 2,360,556       

LIABILITIES & EQUITY

              

Deposits:

              

Interest checking

   $ 671,777     $ 2,301        0.69   $ 307,513     $ 597        0.39

Money market

     610,832       2,709        0.89     603,503       1,810        0.60

Savings

     55,899       85        0.31     47,338       81        0.34

Time deposits

     1,164,766       6,712        1.16     864,778       3,947        0.92

Federal Home Loan Bank advances

     218,823       1,260        1.16     69,665       296        0.85

Federal funds purchased and other(3)

     49,999       217        0.88     52,691       168        0.64

Subordinated notes and other borrowings

     58,375       2,156        7.45     20,039       738        7.41
  

 

 

   

 

 

    

 

 

   

 

 

   

 

 

    

 

 

 

TOTAL INTEREST BEARING LIABILITIES

   $ 2,830,471     $ 15,440        1.10   $ 1,965,527     $ 7,637        0.78

Demand deposits

     239,330            189,149       

Other liabilities

     11,060            11,499       

Total equity

     279,222            194,381       
  

 

 

        

 

 

      

TOTAL LIABILITIES AND EQUITY

   $ 3,360,083          $ 2,360,556       

NET INTEREST SPREAD(4)

          2.98          3.47

NET INTEREST INCOME

     $ 50,892          $ 40,749     

NET INTEREST MARGIN(5)

          3.13          3.58

 

(1)  Loan balances include both loans held in the Bank’s portfolio and mortgage loans held for sale and are net of deferred origination fees and costs. Non-accrual loans are included in total loan balances.
(2)  Includes federal funds sold, capital stock in the Federal Reserve Bank and Federal Home Loan Bank, and interest-bearing deposits at the Federal Reserve Bank and the Federal Home Loan Bank.
(3)  Includes repurchase agreements.
(4)  Represents the average rate earned on interest-earning assets minus the average rate paid on interest-bearing liabilities.
(5)  Represents net interest income (annualized) divided by total average earning assets.

 

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(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.

Analysis of Changes in Interest Income and Expenses

 

     Net change three months ended
June 30, 2017 versus June 30, 2016
 
     Volume      Rate      Net Change  

INTEREST INCOME

        

Loans

   $ 6,530      $ (800    $ 5,730  

Securities available for sale

     2,362        520        2,882  

Securities held to maturity

     338        168        506  

Restricted equity securities

     88        7        95  

Certificates of deposit at other financial institutions

     5        (1      4  

Federal funds sold and other

     51        113        164  
  

 

 

    

 

 

    

 

 

 

TOTAL INTEREST INCOME

   $ 9,374      $ 7      $ 9,381  
  

 

 

    

 

 

    

 

 

 

INTEREST EXPENSE

        

Deposits

        

Interest checking

   $ 360      $ 608      $ 968  

Money market accounts

     (51      591        540  

Savings

     5        (1      4  

Time deposits

     757        934        1,691  

Federal Home Loan Bank advances

     361        204        565  

Fed funds purchased and other borrowed funds

     7        58        65  

Subordinated Notes and other borrowings

     364        (7      357  
  

 

 

    

 

 

    

 

 

 

TOTAL INTEREST EXPENSE

   $ 1,803      $ 2,387      $ 4,190  
  

 

 

    

 

 

    

 

 

 

NET INTEREST INCOME

   $ 7,571      $ (2,380    $ 5,191  
  

 

 

    

 

 

    

 

 

 

 

     Net change six months ended
June 30, 2017 versus June 30, 2016
 
     Volume      Rate      Net Change  

INTEREST INCOME

        

Loans

   $ 12,860      $ (2,306    $ 10,554  

Securities available for sale

     4,863        857        5,720  

Securities held to maturity

     1,021        213        1,234  

Restricted equity securities

     160        13        173  

Certificates of deposit at other financial institutions

     15        (7      8  

Federal funds sold and other

     73        184        257  
  

 

 

    

 

 

    

 

 

 

TOTAL INTEREST INCOME

   $ 18,992      $ (1,046    $ 17,946  
  

 

 

    

 

 

    

 

 

 

INTEREST EXPENSE

        

Deposits

        

Interest checking

   $ 705      $ 999      $ 1,704  

Money market accounts

     21        878        899  

Savings

     12        (8      4  

Time deposits

     1,379        1,386        2,765  

Federal Home Loan Bank advances

     628        336        964  

Fed funds purchased and other borrowed funds

     (11      60        49  

Subordinated notes and other borrowings

     1,406        12        1,418  
  

 

 

    

 

 

    

 

 

 

TOTAL INTEREST EXPENSE

   $ 4,140      $ 3,663      $ 7,803  
  

 

 

    

 

 

    

 

 

 

NET INTEREST INCOME

   $ 14,852      $ (4,709    $ 10,143  
  

 

 

    

 

 

    

 

 

 

 

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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 $573 and $1,567 for the three months ended June 30, 2017 and 2016, respectively, and $2,428 and $2,703 for the six months ended June 30, 2017 and 2016, respectively. The lower provision for the three and six months ended June 30, 2017 compared to the same periods in 2016 is based on the Company’s analysis of its allowance for loan losses which, based on the loan portfolio’s risk profile and comparatively less loan growth, required less provision be recorded. Nonperforming loans at June 30, 2017 totaled $3,899 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 and six months ended June 30, 2017 was $3,880 and $7,888, respectively, compared to $4,626 and $7,711 for the same periods in 2016, respectively. The following is a summary of the components of non-interest income (in thousands):

 

     Three Months Ended
June 30,
     $
Increase
(Decrease)
     %
Increase
(Decrease)
 
     2017      2016        

Service charges on deposit accounts

   $ 45      $ 46      $ (1      (2.2 %) 

Other service charges and fees

     758        767        (9      (1.2 %) 

Net gains on sale of loans

     2,067        2,309        (242      (10.5 %) 

Wealth management

     648        529        119        22.5

Loan servicing fees, net

     53        (4      57        1,425.0

Gain on sales of investment securities, net

     120        795        (675      (84.9 %) 

Net gain on foreclosed assets

     3        3        —          —  

Other

     186        181        5        2.8
  

 

 

    

 

 

    

 

 

    

 

 

 

Total non-interest income

   $ 3,880      $ 4,626      $ (746      (16.1 %) 
  

 

 

    

 

 

    

 

 

    

 

 

 
     Six Months Ended
June 30,
     $
Increase
(Decrease)
     %
Increase
(Decrease)
 
     2017      2016        

Service charges on deposit accounts

   $ 75      $ 95      $ (20      (21.1 %) 

Other service charges and fees

     1,510        1,400        110        7.9

Net gains on sale of loans

     4,401        3,917        484        12.4

Wealth management

     1,241        897        344        38.4

Loan servicing fees, net

     160        38        122        321.1

Gain on sales of investment securities, net

     120        1,105        (985      (89.1 %) 

Net gain on foreclosed assets

     6        6        —          —  

Other

     375        253        122        48.2
  

 

 

    

 

 

    

 

 

    

 

 

 

Total non-interest income

   $ 7,888      $ 7,711      $ 177        2.3
  

 

 

    

 

 

    

 

 

    

 

 

 

Service charges on deposit accounts for the three and six months ended June 30, 2017 decreased $1 and $20, or 2.2% and 21.1%, respectively, from the same periods in 2016. The decrease for the six months ended June 30, 2017 was due to the Company’s waiving service charges on deposit accounts during March 2017 while the Company was going through a core system conversion.

Other service charges and fees for the three and six months ended June 30, 2017 decreased $9 and increased $110, or 1.2% and 7.9%, respectively, from the same periods in 2016. The increase for the six months ended June 30, 2017 was due to a combination of increases, with the following types of fees having the largest increases in the comparative periods: unused commitment fees ($44), mortgage loan-related fees ($32), and non-sufficient funds fees ($29).

Net gain on sale of loans decreased $242, or 10.5%, when comparing the three months ended June 30, 2017 to the same period in 2016, and it increased $484, or 12.4%, when comparing the six months ended June 30, 2017 to the same period in 2016. The changes in both periods were primarily due to mark-to-market pricing on mortgage loan derivatives, which is a component of net gains on sale of loans.

 

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Wealth management income for the three and six months ended June 30, 2017 increased $119 and $344, or 22.5% and 38.4%, respectively, in comparison with the same periods in 2016. The increase was attributed to the growth in the client base and assets under management in the wealth management division, as well as improvement in the stock markets. As a comparison, the Company has assets under management at June 30, 2017 and 2016 of $343,757 and $236,297, respectively.

Net loan servicing fees for the three and six months ended June 30, 2017 increased $57 and $122, or 1,425.0% and 321.1%, respectively, in comparison with the same periods in 2016. The increase was attributed to the growth in the mortgage loans serviced and the related valuation increase of the mortgage servicing rights.

Net gain on sale of investment securities decreased $675 and $985, or 84.9% and 89.1%, respectively, when comparing the three and six months ended June 30, 2017 with the same periods in 2016. The decreases were primarily due to the gains on securities that were recognized in the second quarter of 2016, which were related to management selling a number of smaller securities, to consolidate the number of securities carried in the portfolio, and selling securities of two municipalities whose credit rating had fallen below management’s credit score limit.

Other non-interest income increased by $5 and $122, or 2.8% and 48.2%, respectively, when comparing the three and six months ended June 30, 2017 with the same periods 2016. The increase for the six months ended June 30, 2017 is primarily attributed to the loss of $98 recorded on the sale of the Company’s real estate in downtown Murfreesboro, Tennessee during first quarter 2016.

Non-Interest Expense

Non-interest expense for the three and six months ended June 30, 2017 was $15,283 and $29,559, respectively, compared to $12,913 and $24,744 for the same periods in 2016, respectively. The increases were the result of the following components listed in the table below (in thousands):

 

     Three Months Ended
June 30,
     $
Increase
(Decrease)
     %
Increase
(Decrease)
 
     2017      2016        

Salaries and employee benefits

   $ 9,128      $ 7,603      $ 1,525        20.1

Occupancy and equipment

     2,195        1,755        440        25.1

FDIC assessment expense

     1,015        405        610        150.6

Marketing

     285        188        97        51.6

Professional fees

     702        977        (275      (28.1 %) 

Amortization of core deposit intangible

     121        144        (23      (16.0 %) 

Other

     1,837        1,841        (4      (0.2 %) 
  

 

 

    

 

 

    

 

 

    

 

 

 

Total non-interest expense

   $ 15,283      $ 12,913      $ 2,370        18.4
  

 

 

    

 

 

    

 

 

    

 

 

 
     Six Months Ended
June 30,
     $
Increase
(Decrease)
     %
Increase
(Decrease)
 
     2017      2016        

Salaries and employee benefits

   $ 17,161      $ 14,120      $ 3,041        21.5

Occupancy and equipment

     4,290        3,562        728        20.4

FDIC assessment expense

     1,775        818        957        117.0

Marketing

     552        405        147        36.3

Professional fees

     1,737        2,071        (334      (16.1 %) 

Amortization of core deposit intangible

     248        293        (45      (15.4 %) 

Other

     3,796        3,475        321        9.2
  

 

 

    

 

 

    

 

 

    

 

 

 

Total non-interest expense

   $ 29,559      $ 24,744      $ 4,815        19.5
  

 

 

    

 

 

    

 

 

    

 

 

 

The increase in non-interest expense noted in the table above is related to the Company’s overall growth. The Company’s largest increases for the three and six months ended June 30, 2017, in comparison with the same periods of 2017, were in salaries and employee benefits, occupancy and equipment, FDIC assessment expense, and other non-interest expense.

Salaries and employee benefits increased $1,525 and $3,041, or 20.1% and 21.5%, respectively, when comparing the three and six months ended June 30, 2017 with the same periods in 2016. The increases in both periods are primarily due to the Company’s staffing growth, during which the Company went from 249 full-time equivalent employees as of June 30, 2016, to 274 as of June 30, 2017, many of which were officer level positions as the Company has worked to enhance its management team to properly oversee the Company’s growth and to grow its team of lenders to further grow the loan portfolio. In addition to salaries, mortgage commissions increased $113 and $363, respectively, when comparing the three and six months ended June 30, 2017 with the same periods of 2016 due to the volume of loans closed during the first half of 2017. Stock-based compensation expense also increased $251 and $440, respectively, for the three and six months ended June 30, 2017 in comparison with the same periods in 2016. The Company also experienced growth in incentive expenses related to the Company’s financial performance.

 

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Occupancy and equipment expense increased $440 and $728, or 25.1% and 20.4%, respectively, when comparing the three and six months ended June 30, 2017 with the same periods in 2016. The variance for the three months ended June 30, 2017 versus the three months ended June 30, 2016 is primarily attributable to increases in building rent expense ($229), software maintenance fees ($121), and leasehold improvement depreciation ($20). The variance when comparing the six months ended June 30, 2017 with the six months ended June 30, 2016 is attributable to increases in building rent expense ($413), software maintenance fees ($167) and leasehold improvement depreciation ($59).

The Company’s FDIC assessment expense increased $610 and $957, or 150.6% and 117.0%, respectively, when comparing the three and six months ended June 30, 2017 with the same periods in 2016. The increases are due to the year-over-year asset growth of the Company, on which FDIC assessments are calculated, and are also related to the change in the FDIC insurance assessment calculation in the third quarter of 2016, which caused an increase in the Company’s insurance assessments based on the calculation’s components.

Professional fees decreased $275 and $334, or 28.1% and 16.1%, respectively, when comparing the three and six months ended June 30, 2017 with the same periods in 2016. The decrease when comparing the three months ended June 30, 2017 with the same period in 2016 is due to decreases in other professional fees ($166) and merger-related expenses ($146). The decrease, when comparing the six months ended June 30, 2017 and 2016, is due to decreases in merger-related expenses ($304), legal fees ($136) and SEC filing expense ($58). The decreases in other professional fees are related to the following 2016 expenses: (1) the design and implementation of subsidiaries (Franklin Synergy Risk Management, Inc., Franklin Synergy Investments of Tennessee, Inc., Franklin Synergy Investments of Nevada, Inc., and Franklin Synergy Preferred Capital, Inc.); (2) a consulting engagement related to the Company’s core systems and related processes; and (3) professional placement service fees for the hiring of several key lending and management professionals.

For the three months ended June 30, 2017, other non-interest expenses decreased $4, or 0.2%, and for the six months ended June 30, 2017, other noninterest expenses increased $321, or 9.2%, from the same comparative periods during 2016. The increase in other non-interest expense for the six months ended June 30, 2017 versus June 30, 2016 is attributed to increases in several types of expenses, but the following expense types represent the largest variances: insurance expense ($103); franchise taxes ($75); dues/memberships/subscriptions ($53); regulatory expenses ($47); foreclosed property expenses ($47); travel expenses ($46); mortgage banking expenses ($45); and electronic banking expense ($44). These variances were offset by decreases in various expense types, with the following types have the largest decreases: insurance loss reserves ($91); loan-related expenses ($82); and deposit-related expenses ($53).

Income Tax Expense

The Company recognized income tax expense for the three and six months ended June 30, 2017, of $3,619 and $7,205, respectively, compared to $2,572 and $5,733, respectively, for the three and six months ended June 30, 2016. The Company’s year-to-date income tax expense for the period ended June 30, 2017 reflects an effective income tax rate of 30.0%, a slight increase compared to 29.4% for the same period in 2016.

COMPARISON OF BALANCE SHEETS AT JUNE 30, 2017 AND DECEMBER 31, 2016

Overview

The Company’s total assets increased by $500,404, or 17.0%, from December 31, 2016 to June 30, 2017. The increase in total assets has primarily been the result of organic growth in the loan portfolio and from purchases of additional investment securities.

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 June 30, 2017 and December 31, 2016 were $2,011,955 and $1,773,592, respectively, an increase of $238,363, or 13.4%. As a percentage of total assets, total loans, net of deferred fees, at June 30, 2017 and December 31, 2016 were 58.4% and 60.3% of total assets, respectively. Growth in the loan portfolio is primarily due to increased market penetration and a healthy local economy. The Company has also attracted a number of experienced commercial and mortgage lenders to help increase penetration in its primary markets in Middle Tennessee, Williamson County and Rutherford County.

 

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

 

     June 30, 2017     December 31, 2016  

Types of Loans

   Amount      % of Total
Loans
    Amount      % of Total
Loans
 

Total loans, excluding purchased credit impaired (“PCI”) loans

          

Real estate:

          

Construction and land development

   $ 497,940        24.8   $ 489,562        27.6

Commercial

     582,419        28.9     497,140        28.0

Residential

     503,144        25.0     404,989        22.8

Commercial and industrial

     422,823        21.0     376,476        21.2

Consumer and other

     3,936        0.2     3,359        0.2
  

 

 

    

 

 

   

 

 

    

 

 

 

Total loans—gross, excluding PCI loans

     2,010,262        99.9     1,771,526        99.8
  

 

 

    

 

 

   

 

 

    

 

 

 

Total PCI loans

     2,582        0.1     2,859        0.2