Attached files

file filename
EX-32.1 - EXHIBIT 32.1 - NORTHWEST INDIANA BANCORPtv476992_ex32-1.htm
EX-31.2 - EXHIBIT 31.2 - NORTHWEST INDIANA BANCORPtv476992_ex31-2.htm
EX-31.1 - EXHIBIT 31.1 - NORTHWEST INDIANA BANCORPtv476992_ex31-1.htm

  

 

 

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-Q

 

(Mark One)

xQuarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.

 

For the quarterly period ended September 30, 2017 or

 

¨Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.

 

For the transition period from ______ to ______

 

Commission File Number: 0-26128

 

NorthWest Indiana Bancorp

(Exact name of registrant as specified in its charter)

 

Indiana   35-1927981
(State or other jurisdiction of incorporation
or organization)
  (I.R.S. Employer Identification Number)
     
9204 Columbia Avenue    
Munster, Indiana   46321
(Address of principal executive offices)   (ZIP code)

 

Registrant's telephone number, including area code: (219) 836-4400

 

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

 

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

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, 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 (Check one):

 

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

Smaller Reporting Company x     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 Exchange Act). Yes ¨ No x

 

There were 2,864,007 shares of the registrant’s Common Stock, without par value, outstanding at October 20, 2017.

 

 

 

 

 

  

NorthWest Indiana Bancorp

Index 

 

      Page
      Number
PART I.   Financial Information  
       
  Item 1. Unaudited Financial Statements  
       
    Consolidated Balance Sheets, September 30, 2017 and December 31, 2016 1
       
    Consolidated Statements of Income, Three and Nine Months Ended  September 30, 2017 and 2016 2
       
    Consolidated Statements of Comprehensive Income, Three and Nine Months Ended September 30, 2017 and 2016 3
       
    Consolidated Statements of Changes in Stockholders' Equity, Three and Nine Months Ended September 30, 2017 and 2016 3
       
    Consolidated Statements of Cash Flows, Nine Months Ended September 30, 2017 and 2016 4
       
    Notes to Consolidated Financial Statements 5-20
       
  Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 21-30
       
  Item 3. Quantitative and Qualitative Disclosures About Market Risk 31
       
  Item 4. Controls and Procedures 31
       
PART II. Other Information 32
       
SIGNATURES 33
       
EXHIBITS  
  31.1 Rule 13a-14(a)/15d-14(a) Certification of Chief Executive Officer
  31.2 Rule 13a-14(a)/15d-14(a) Certification of Chief Financial Officer
  32.1 Section 1350 Certifications
  101 XBRL Interactive Data File  

 

 

 

  

NorthWest Indiana Bancorp

Consolidated Balance Sheets

 

   September 30,   December 31, 
(Dollars in thousands)  2017   2016 
   (unaudited)     
ASSETS          
           
Cash and non-interest bearing deposits in other financial institutions  $11,354   $15,338 
Interest bearing deposits in other financial institutions   2,306    29,556 
Federal funds sold   468    215 
           
Total cash and cash equivalents   14,128    45,109 
           
Securities available-for-sale   243,552    233,625 
Loans held-for-sale   2,007    2,193 
Loans receivable   607,964    583,650 
Less: allowance for loan losses   (7,059)   (7,698)
Net loans receivable   600,905    575,952 
Federal Home Loan Bank stock   3,000    3,000 
Accrued interest receivable   3,021    3,086 
Premises and equipment   19,573    19,287 
Foreclosed real estate   1,805    2,665 
Cash value of bank owned life insurance   19,244    18,895 
Goodwill   2,792    2,792 
Other assets   6,320    7,022 
           
Total assets  $916,347   $913,626 
           
LIABILITIES AND STOCKHOLDERS' EQUITY          
           
Deposits:          
Non-interest bearing  $118,797   $111,800 
Interest bearing   638,763    667,971 
Total   757,560    779,771 
Repurchase agreements   15,946    13,998 
Borrowed funds   41,421    25,828 
Accrued expenses and other liabilities   10,293    9,921 
           
Total liabilities   825,220    829,518 
           
Stockholders' Equity:          
Preferred stock, no par or stated value; 10,000,000 shares authorized, none outstanding   -    - 

Common stock, no par or stated value; 10,000,000 shares authorized;

shares issued: September 30, 2017 - 2,920,045 December 31, 2016 - 2,916,195

shares outstanding: September 30, 2017 - 2,864,007 December 31, 2016 - 2,860,157

   361    361 
Additional paid-in capital   4,442    4,300 
Accumulated other comprehensive gain/(loss)   760    (1,506)
Retained earnings   85,564    80,953 
           
Total stockholders' equity   91,127    84,108 
           
Total liabilities and stockholders' equity  $916,347   $913,626 

 

See accompanying notes to consolidated financial statements.

 

 1 

 

  

NorthWest Indiana Bancorp

Consolidated Statements of Income

(unaudited)

 

   Three Months Ended   Nine Months Ended 
(Dollars in thousands, except per share data)  September 30,   September 30, 
   2017   2016   2017   2016 
Interest income:                    
Loans receivable                    
Real estate loans  $5,773   $5,676   $16,800   $16,866 
Commercial loans   1,050    982    3,116    2,771 
Consumer loans   5    6    15    17 
Total loan interest   6,828    6,664    19,931    19,654 
Securities   1,585    1,498    4,801    4,566 
Other interest earning assets   18    7    49    15 
                     
Total interest income   8,431    8,169    24,781    24,235 
                     
Interest expense:                    
Deposits   518    445    1,475    1,315 
Repurchase agreements   31    25    80    74 
Borrowed funds   110    117    281    370 
                     
Total interest expense   659    587    1,836    1,759 
                     
Net interest income   7,772    7,582    22,945    22,476 
Provision for loan losses   165    262    722    846 
                     
Net interest income after provision for loan losses   7,607    7,320    22,223    21,630 
                     
Noninterest income:                    
Fees and service charges   843    763    2,404    2,143 
Wealth management operations   459    423    1,267    1,280 
Gain on sale of loans held-for-sale, net   412    579    883    1,120 
Gain on sale of securities, net   213    283    758    700 
Increase in cash value of bank owned life insurance   119    118    349    354 
Gain on sale of foreclosed real estate, net   2    6    95    80 
Other   27    15    64    18 
                     
Total noninterest income   2,075    2,187    5,820    5,695 
                     
Noninterest expense:                    
Compensation and benefits   4,094    3,901    10,847    10,534 
Occupancy and equipment   845    900    2,542    2,768 
Data processing   364    343    1,092    1,005 
Federal deposit insurance premiums   84    135    242    403 
Marketing   135    108    469    352 
Other   1,403    1,161    4,061    3,533 
                     
Total noninterest expense   6,925    6,548    19,253    18,595 
                     
Income before income tax expenses   2,757    2,959    8,790    8,730 
Income tax expenses   509    631    1,715    1,917 
                     
Net income  $2,248   $2,328   $7,075   $6,813 
                     
Earnings per common share:                    
Basic  $0.78   $0.81   $2.47   $2.38 
Diluted  $0.78   $0.81   $2.47   $2.38 
                     
Dividends declared per common share  $0.29   $0.28   $0.87   $0.83 

 

See accompanying notes to consolidated financial statements.

 

 2 

 

  

NorthWest Indiana Bancorp

Consolidated Statements of Comprehensive Income

(unaudited)

 

   Three Months Ended   Nine Months Ended 
(Dollars in thousands)  September 30,   September 30, 
   2017   2016   2017   2016 
                 
Net income  $2,248   $2,328   $7,075   $6,813 
                     
Net change in net unrealized gains and losses on securities available-for-sale:                    
Unrealized gains arising during the period   747    (947)   4,193    3,367 
Less: reclassification adjustment for gains included in net income   (213)   (283)   (758)   (700)
Net securities gain (loss) during the period   534    (1,230)   3,435    2,667 
Tax effect   (183)   416    (1,169)   (907)
Net of tax amount   351    (814)   2,266    1,760 
                     
Net change in unrealized gain on postretirement benefit:                    
Amortization of net actuarial gain   -    (1)   -    (2)
Net loss during the period   -    (1)   -    (2)
Net of tax amount   -    (1)   -    (2)
Other comprehensive income, net of tax   351    (815)   2,266    1,758 
                     
Comprehensive income, net of tax  $2,599   $1,513   $9,341   $8,571 

 

See accompanying notes to consolidated financial statements.

 

NorthWest Indiana Bancorp

Consolidated Statements of Changes in Stockholders' Equity

(unaudited)

 

   Three Months Ended   Nine Months Ended 
(Dollars in thousands)  September 30,   September 30, 
   2017   2016   2017   2016 
                 
Balance at beginning of period  $89,308   $86,461   $84,108   $80,909 
                     
Comprehensive income:                    
Net income   2,248    2,328    7,075    6,813 
Net unrealized gains (losses) on securities available-for-sale, net of reclassifications and tax effects   351    (814)   2,266    1,760 
Amortization of unrecognized gain on postretirement benefit   -    (1)   -    (2)
Comprehensive income, net of tax   2,599    1,513    9,341    8,571 
                     
Stock based compensation expense   51    38    142    104 
Cash dividends   (831)   (800)   (2,464)   (2,372)
                     
Balance at end of period  $91,127   $87,212   $91,127   $87,212 

 

See accompanying notes to consolidated financial statements.

 

 3 

 

  

NorthWest Indiana Bancorp

Consolidated Statements of Cash Flows

(unaudited)

 

   Nine Months Ended 
(Dollars in thousands)  September 30, 
   2017   2016 
CASH FLOWS FROM OPERATING ACTIVITIES:          
Net income  $7,075   $6,813 
Adjustments to reconcile net income to net cash provided by/(used in) operating activities:          
Origination of loans for sale   (31,599)   (42,077)
Sale of loans originated for sale   32,659    41,986 
Depreciation and amortization, net of accretion   1,906    1,920 
Amortization of mortgage servicing rights   48    36 
Stock based compensation expense   142    104 
Gain on sale of securities, net   (758)   (700)
Gain on sale of loans held-for-sale, net   (883)   (1,120)
Gain on sale of foreclosed real estate, net   (95)   (80)
Provision for loan losses   722    846 
Net change in:          
Interest receivable   65    97 
Other assets   (538)   (2,242)
Accrued expenses and other liabilities   372    (86)
Total adjustments   2,041    (1,316)
Net cash - operating activities   9,116    5,497 
           
CASH FLOWS FROM INVESTING ACTIVITIES:          
Proceeds from maturities and pay downs of securities available-for-sale   18,887    34,822 
Proceeds from sales of securities available-for-sale   48,063    26,977 
Purchase of securities available-for-sale   (73,503)   (65,971)
Loan participations purchased   (362)   - 
Net change in loans receivable   (25,260)   (23,122)
Purchase of premises and equipment, net   (1,373)   (898)
Proceeds from sale of foreclosed real estate, net   902    641 
Change in cash value of bank owned life insurance   (349)   (354)
Net cash - investing activities   (32,995)   (27,905)
           
CASH FLOWS FROM FINANCING ACTIVITIES:          
Net change in deposits   (22,211)   33,485 
Proceeds from FHLB advances   7,000    6,000 
Repayment of FHLB advances   (8,000)   (15,000)
Change in other borrowed funds   18,541    5,294 
Dividends paid   (2,432)   (2,343)
Net cash - financing activities   (7,102)   27,436 
Net change in cash and cash equivalents   (30,981)   5,028 
Cash and cash equivalents at beginning of period   45,109    11,533 
Cash and cash equivalents at end of period  $14,128   $16,561 
           
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:          
Cash paid during the period for:          
Interest  $1,832   $1,763 
Income taxes   1,355    1,308 
Noncash activities:          
Transfers from loans to foreclosed real estate  $51   $93 
Transfers to goodwill   -    231 

 

See accompanying notes to consolidated financial statements.

 

 4 

 

  

NorthWest Indiana Bancorp

Notes to Consolidated Financial Statements

 

Note 1 - Basis of Presentation

 

The consolidated financial statements include the accounts of NorthWest Indiana Bancorp (the “Bancorp”), its wholly-owned subsidiaries NWIN Risk Management, Inc. (a captive insurance subsidiary) and Peoples Bank SB (the “Bank”), and the Bank’s wholly-owned subsidiaries, Peoples Service Corporation, NWIN, LLC, NWIN Funding, Incorporated, and Columbia Development Company, LLC. The Bancorp’s business activities include being a holding company for the Bank as well as a holding company for NWIN Risk Management, Inc. The Bancorp’s earnings are primarily dependent upon the earnings of the Bank. The accompanying unaudited consolidated financial statements were prepared in accordance with instructions for Form 10-Q and, therefore, do not include all disclosures required by U.S. generally accepted accounting principles for complete presentation of consolidated financial statements. In the opinion of management, the consolidated financial statements contain all adjustments necessary to present fairly the consolidated balance sheets of the Bancorp as of September 30, 2017 and December 31, 2016, and the consolidated statements of income, comprehensive income, and changes in stockholders’ equity for the three and nine months ended September 30, 2017 and 2016 and consolidated statements of cash flows for the nine months ended September 30, 2017 and 2016. The income reported for the nine month period ended September 30, 2017 is not necessarily indicative of the results to be expected for the full year.

 

Note 2 - Use of Estimates

 

Preparing financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenue and expenses during the reporting period, as well as the disclosures provided. Actual results could differ from those estimates. Estimates associated with the allowance for loan losses, fair values of foreclosed real estate, loan servicing rights, investment securities, deferred tax assets, goodwill, and the status of contingencies are particularly susceptible to material change in the near term.

 

Note 3 - Securities

 

The estimated fair value of available-for-sale securities and the related gross unrealized gains and losses recognized in accumulated other comprehensive income were as follows:

   (Dollars in thousands) 
       Gross   Gross   Estimated 
   Cost   Unrealized   Unrealized   Fair 
   Basis   Gains   Losses   Value 
September 30, 2017                    
Money market fund  $1,711   $-   $-   $1,711 
U.S. government sponsored entities   3,996    -    (82)   3,914 
Collateralized mortgage obligations and residential mortgage-backed securities   141,870    552    (847)   141,575 
Municipal securities   89,965    3,207    (84)   93,088 
Collateralized debt obligations   4,853    -    (1,589)   3,264 
Total securities available-for-sale  $242,395   $3,759   $(2,602)  $243,552 

 

   (Dollars in thousands) 
       Gross   Gross   Estimated 
   Cost   Unrealized   Unrealized   Fair 
   Basis   Gains   Losses   Value 
December 31, 2016                    
Money market fund  $222   $-   $-   $222 
U.S. government sponsored entities   16,643    -    (369)   16,274 
Collateralized mortgage obligations and residential mortgage-backed securities   118,807    441    (1,273)   117,975 
Municipal securities   95,242    2,146    (643)   96,745 
Collateralized debt obligations   4,989    -    (2,580)   2,409 
Total securities available-for-sale  $235,903   $2,587   $(4,865)  $233,625 

 

The estimated fair value of available-for-sale debt securities at September 30, 2017, by contractual maturity, were as follows. Securities not due at a single maturity date, primarily collateralized mortgage obligations and residential mortgage-backed securities, are shown separately.

 

 5 

 

  

   (Dollars in thousands) 
   Available-for-sale 
   Estimated     
   Fair   Tax-Equivalent 
September 30, 2017  Value   Yield (%) 
Due in one year or less  $1,994    7.46 
Due from one to five years   5,414    4.82 
Due from five to ten years   29,754    5.25 
Due over ten years   64,815    4.75 
Collateralized mortgage obligations and residential mortgage-backed securities   141,575    2.53 
Total  $243,552    3.54 

 

Sales of available-for-sale securities were as follows for the nine months ended:

 

   (Dollars in thousands) 
   September 30,   September 30, 
   2017   2016 
         
Proceeds  $48,063   $26,977 
Gross gains   848    718 
Gross losses   (90)   (18)

 

Accumulated other comprehensive income/(loss) balances, net of tax, related to available-for-sale securities, were as follows:

 

   (Dollars in thousands) 
   Unrealized
gain/(loss)
 
Ending balance, December 31, 2016  $(1,506)
Current period change   2,266 
Ending balance, September 30, 2017  $760 

 

Securities with carrying values of approximately $22.9 million and $32.4 million were pledged as of September 30, 2017 and December 31, 2016, respectively, as collateral for repurchase agreements, public funds, and for other purposes as permitted or required by law.

 

Securities with gross unrealized losses at September 30, 2017 and December 31, 2016 not recognized in income are as follows:

 

   (Dollars in thousands) 
   Less than 12 months   12 months or longer   Total 
   Estimated       Estimated       Estimated     
   Fair   Unrealized   Fair   Unrealized   Fair   Unrealized 
   Value   Losses   Value   Losses   Value   Losses 
September 30, 2017                              
U.S. government sponsored entities  $1,952   $(44)  $1,962   $(38)  $3,914   $(82)
Collateralized mortgage obligations and residential mortgage-backed securities   70,176    (763)   3,841    (84)   74,017    (847)
Municipal securities   4,849    (43)   1,217    (41)   6,066    (84)
Collateralized debt obligations   -    -    3,264    (1,589)   3,264    (1,589)
Total temporarily impaired  $76,977   $(850)  $10,284   $(1,752)  $87,261   $(2,602)
Number of securities        50         11         61 

 

   (Dollars in thousands) 
   Less than 12 months   12 months or longer   Total 
   Estimated       Estimated       Estimated     
   Fair   Unrealized   Fair   Unrealized   Fair   Unrealized 
   Value   Losses   Value   Losses   Value   Losses 
December 31, 2016                              
U.S. government sponsored entities  $16,274   $(369)  $-   $-   $16,274   $(369)
Collateralized mortgage obligations and residential mortgage-backed securities   75,931    (1,183)   2,287    (90)   78,218    (1,273)
Municipal securities   20,775    (643)   -    -    20,775    (643)
Collateralized debt obligations   -    -    2,409    (2,580)   2,409    (2,580)
Total temporarily impaired  $112,980   $(2,195)  $4,696   $(2,670)  $117,676   $(4,865)
Number of securities        97         6         103 

 

Unrealized losses on securities have not been recognized into income because the securities are of high credit quality or have undisrupted cash flows. Management has the intent and ability to hold those securities for the foreseeable future, and the decline in fair value is largely due to changes in interest rates and volatility in securities markets. The fair values are expected to recover as the securities approach maturity.

 

 6 

 

  

Note 4 - Loans Receivable

 

Loans receivable are summarized below:

 

(Dollars in thousands)        
   September 30, 2017   December 31, 2016 
Loans secured by real estate:          
Residential real estate  $171,846   $173,365 
Home equity   35,308    32,614 
Commercial real estate   203,388    195,438 
Construction and land development   53,983    38,937 
Multifamily   37,402    36,086 
Total loans secured by real estate   501,926    476,440 
Consumer   382    522 
Commercial business   77,532    77,513 
Government   29,830    29,529 
Subtotal   609,671    584,004 
Less:          
Net deferred loan origination fees   (158)   (162)
Undisbursed loan funds   (1,549)   (192)
Loans receivable  $607,964   $583,650 

  

(Dollars in thousands)  Beginning
Balance
   Charge-offs   Recoveries   Provisions   Ending
Balance
 
                     
The Bancorp's activity in the allowance for loan losses is summarized below for the three months ended September 30, 2017: 
                          
Allowance for loan losses:                         
Residential real estate  $1,561   $(10)  $3   $17   $1,571 
Home equity   76    (35)   -    41    82 
Commercial real estate   2,890    -    -    28    2,918 
Construction and land development   600    -    -    (30)   570 
Multifamily   501    -    -    40    541 
Consumer   30    (29)   7    22    30 
Commercial business   1,357    (120)   5    49    1,291 
Government   58    -    -    (2)   56 
Total  $7,073   $(194)  $15   $165   $7,059 
                          
The Bancorp's activity in the allowance for loan losses is summarized below for the three months ended September 30, 2016:
                          
Allowance for loan losses:                         
Residential real estate  $1,485   $(93)  $1   $93   $1,486 
Home equity   285    -    -    4    289 
Commercial real estate   3,099    -    -    126    3,225 
Construction and land development   761    -    -    (40)   721 
Multifamily   756    -    -    24    780 
Consumer   37    (12)   1    25    51 
Commercial business   846    -    8    43    897 
Government   68    -    -    (13)   55 
Total  $7,337   $(105)  $10   $262   $7,504 
                          
The Bancorp's activity in the allowance for loan losses is summarized below for the nine months ended September 30, 2017:
                          
Allowance for loan losses:                         
Residential real estate  $2,111   $(913)  $3   $370   $1,571 
Home equity   299    (60)   -    (157)   82 
Commercial real estate   3,113    -    -    (195)   2,918 
Construction and land development   617    -    -    (47)   570 
Multifamily   572    -    -    (31)   541 
Consumer   34    (59)   11    44    30 
Commercial business   896    (365)   22    737    1,291 
Government   56    -    -    -    56 
Total  $7,698   $(1,397)  $36   $722   $7,059 
                          
The Bancorp's activity in the allowance for loan losses is summarized below for the nine months ended September 30, 2016:
                          
Allowance for loan losses:                         
Residential real estate  $1,448   $(305)  $1   $342   $1,486 
Home equity   263    -    -    26    289 
Commercial real estate   2,986    -    -    239    3,225 
Construction and land development   692    -    -    29    721 
Multifamily   758    -    -    22    780 
Consumer   38    (24)   5    32    51 
Commercial business   698    -    28    171    897 
Government   70    -    -    (15)   55 
Total  $6,953   $(329)  $34   $846   $7,504 

 

 7 

 

 

The Bancorp’s individually impaired loans are summarized below:

 

   Ending Balances 
(Dollars in thousands)  Individually
evaluated
impairment
reserves
   Collectively
evaluated
impairment
reserves
   Loan
receivables
   Loans
individually
evaluated for
impairment
   Purchased
credit
impaired loans
individually
evaluated for
impairment
   Loans
collectively
evaluated for
impairment
 
                         
The Bancorp's allowance for loan losses impairment evaluation and loan receivables are summarized below at September 30, 2017: 
                               
Residential real estate  $27   $1,544   $171,667   $495   $773   $170,399 
Home equity   -    82    35,357    -    -    35,357 
Commercial real estate   136    2,782    203,388    557    -    202,831 
Construction and land development   -    570    53,983    134    -    53,849 
Multifamily   -    541    37,402    -    -    37,402 
Consumer   -    30    383    -    -    383 
Commercial business   562    729    75,954    749    -    75,205 
Government   -    56    29,830    -    -    29,830 
Total  $725   $6,334   $607,964   $1,935   $773   $605,256 
                               
The Bancorp's allowance for loan losses impairment evaluation and loan receivables are summarized below at December 31, 2016: 
                               
Residential real estate  $879   $1,232   $173,262   $1,419   $956   $170,887 
Home equity   -    299    32,575    -    -    32,575 
Commercial real estate   3    3,110    195,438    322    -    195,116 
Construction and land development   -    617    38,937    134    -    38,803 
Multifamily   -    572    36,086    -    -    36,086 
Consumer   -    34    524    -    -    524 
Commercial business   354    542    77,299    687    -    76,612 
Government   -    56    29,529    -    -    29,529 
Total  $1,236   $6,462   $583,650   $2,561   $956   $580,132 

 

 8 

 

  

The Bancorp's credit quality indicators are summarized below at September 30, 2017 and December 31, 2016:

 

   Credit Exposure - Credit Risk Portfolio By Creditworthiness Category 
   September 30, 2017 
(Dollars in thousands)  2   3   4   5   6   7   8 
Loan Segment  Moderate   Above
average
acceptable
   Acceptable   Marginally
acceptable
   Pass/monitor   Special
mention
   Substandard 
Residential real estate  $444   $10,789   $93,622   $8,020   $51,256   $4,135   $3,401 
Home equity   50    1,016    33,266    -    276    233    516 
Commercial real estate   -    2,433    80,119    74,764    38,816    6,699    557 
Construction and land development   399    525    18,106    25,287    9,532    -    134 
Multifamily   -    -    20,584    14,803    1,844    171    - 
Consumer   58    7    318    -    -    -    - 
Commercial business   5,556    17,985    18,915    20,196    11,613    470    1,219 
Government   -    2,318    24,937    2,575    -    -    - 
Total  $6,507   $35,073   $289,867   $145,645   $113,337   $11,708   $5,827 

 

   December 31, 2016 
   2   3   4   5   6   7   8 
Loan Segment  Moderate   Above
average
acceptable
   Acceptable   Marginally
acceptable
   Pass/monitor   Special
mention
   Substandard 
Residential real estate  $-   $6,068   $94,394   $7,085   $57,644   $4,015   $4,056 
Home equity   82    1,172    30,459    -    250    236    376 
Commercial real estate   248    2,708    93,293    64,950    28,306    5,611    322 
Construction and land development   -    439    11,355    18,912    8,097    -    134 
Multifamily   -    -    17,123    16,836    1,939    188    - 
Consumer   90    4    430    -    -    -    - 
Commercial business   6,315    15,043    24,754    18,787    10,653    533    1,214 
Government   -    955    25,474    3,100    -    -    - 
Total  $6,735   $26,389   $297,282   $129,670   $106,889   $10,583   $6,102 

 

The Bancorp has established a standard loan grading system to assist management, lenders and review personnel in their analysis and supervision of the loan portfolio. The use and application of theses grades by the Bancorp is uniform and conforms to regulatory definitions. The loan grading system is as follows:

 

2 – Moderate risk

 

Borrower consistently internally generates sufficient cash flow to fund debt service, working assets, and some capital expenditures. Risk of default considered low.

 

3 – Above average acceptable risk

 

Borrower generates sufficient cash flow to fund debt service and some working assets and/or capital expansion needs. Profitability and key balance sheet ratios are at or slightly above peers. Current trends are positive or stable. Earnings may be level or trending down slightly or be erratic; however, positive strengths are offsetting. Risk of default is reasonable but may warrant collateral protection.

 

4 – Acceptable risk

 

Borrower generates sufficient cash flow to fund debt service, but most working asset and all capital expansion needs are provided from external sources. Profitability ratios and key balance sheet ratios are usually close to peers but one or more ratios (e.g. leverage) may be higher than peer. Earnings may be trending down over the last three years. Borrower may be able to obtain similar financing from other banks with comparable or less favorable terms. Risk of default is acceptable but requires collateral protection.

 

5 – Marginally acceptable risk

 

Borrower may exhibit excessive growth, declining earnings, strained cash flow, increasing leverage and/or weakening market position that indicate above average risk. Limited additional debt capacity, modest coverage, and average or below average asset quality, margins and market share. Interim losses and/or adverse trends may occur, but not to the level that would affect the Bank’s position. The potential for default is higher than normal but considered marginally acceptable based on prospects for improving financial performance and the strength of the collateral.

 

6 – Pass/monitor

 

The borrower has significant weaknesses resulting from performance trends or management concerns. The financial condition of the company has taken a negative turn and may be temporarily strained. Cash flow may be weak but cash reserves remain adequate to meet debt service. Management weaknesses are evident. Borrowers in this category will warrant more than the normal level of supervision and more frequent reporting.

 

 9 

 

  

7 – Special mention (watch)

 

Special mention credits are considered bankable assets with no apparent loss of principal or interest envisioned but requiring a high level of management attention. Assets in this category are currently protected but are potentially weak. These borrowers are subject to economic, industry, or management factors having an adverse impact upon their prospects for orderly service of debt. The perceived risk in continued lending is considered to have increased beyond the level where such loans would normally be granted. These assets constitute an undue and unwarranted credit risk, but not to the point of justifying a classification of Substandard.

 

8 – Substandard

 

This classification consists of loans which are inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged. Financial statements normally reveal some or all of the following: poor trends, lack of earnings and cash flow, excessive debt, lack of liquidity, and the absence of creditor protection. Loans are still considered collectible, but due to increased risks and defined weaknesses of the credit, some loss could be incurred in collection if the deficiencies are not corrected.

 

Performing loans are loans that are paying as agreed and are approximately less than ninety days past due on payments of interest and principal.

 

During the first nine months of 2017, no loans were modified as a troubled debt restructuring. No troubled debt restructurings have subsequently defaulted during the periods presented. All of the loans classified as troubled debt restructurings are also considered impaired. The valuation basis for the Bancorp’s troubled debt restructurings is based on the present value of cash flows, unless consistent cash flows are not present, then the fair value of the collateral securing the loan is the basis for valuation.

 

The Bancorp's individually evaluated impaired loans are summarized below:

 

   As of September 30, 2017   For the nine months ended
September 30, 2017
 
(Dollars in thousands)  Recorded
Investment
   Unpaid
Principal
Balance
   Related
Allowance
   Average
Recorded
Investment
   Interest
Income
Recognized
 
With no related allowance recorded:                         
Residential real estate  $1,208   $3,824   $-   $1,302   $48 
Home equity   -    -    -    -    - 
Commercial real estate   298    298    -    361    4 
Construction and land development   134    134    -    134    - 
Multifamily   -    -    -    -    - 
Commercial business   187    187    -    201    3 
With an allowance recorded:                         
Residential real estate   60    60    27    300    1 
Home equity   -    -    -    -    - 
Commercial real estate   259    259    136    139    - 
Construction and land development   -    -    -    -    - 
Multifamily   -    -    -    -    - 
Commercial business   562    562    562    481    4 
Total:                         
Residential real estate  $1,268   $3,884   $27   $1,602   $49 
Home equity  $-   $-   $-   $-   $- 
Commercial real estate  $557   $557   $136   $500   $4 
Construction & land development  $134   $134   $-   $134   $- 
Multifamily  $-   $-   $-   $-   $- 
Commercial business  $749   $749   $562   $682   $7 

 

 10 

 

  

   As of December 31, 2016   For the nine months ended
September 30, 2016
 
(Dollars in thousands)  Recorded
Investment
   Unpaid
Principal
Balance
   Related
Allowance
   Average
Recorded
Investment
   Interest
Income
Recognized
 
With no related allowance recorded:                         
Residential real estate  $1,309   $3,293   $-   $2,900   $113 
Home equity   -    -    -    -    - 
Commercial real estate   304    304    -    1,346    - 
Construction and land development   134    134    -    134    - 
Multifamily   -    -    -    -    - 
Commercial business   212    212    -    260    3 
With an allowance recorded:                         
Residential real estate   1,066    1,066    879    168    4 
Home equity   -    -    -    -    - 
Commercial real estate   18    18    3    107    5 
Construction & land development   -    -    -    -    - 
Multifamily   -    -    -    -    - 
Commercial business   475    475    354    184    1 
Total:                         
Residential real estate  $2,375   $4,359   $879   $3,068   $117 
Home equity  $-   $-   $-   $-   $- 
Commercial real estate  $322   $322   $3   $1,453   $5 
Construction & land development  $134   $134   $-   $134   $- 
Multifamily  $-   $-   $-   $-   $- 
Commercial business  $687   $687   $354   $444   $4 

 

 

As part of the acquisitions of First Federal Savings and Loan Association of Hammond (“First Federal”), which closed during the second quarter of 2014, and Liberty Savings Bank (‘Liberty”), which closed during the third quarter of 2015, the Bancorp acquired loans for which there was evidence of credit quality deterioration since origination and it was determined that it was probable that the Bancorp would be unable to collect all contractually required principal and interest payments. At September 30, 2017, total purchased credit impaired loans with unpaid principal balances totaled $2.7 million with a recorded investment of $773 thousand, compared to December 31, 2016, at which unpaid principal balances totaled $2.9 million with a recorded investment of $956 thousand. First Federal purchased credit impaired loans with unpaid principal balances totaled $1.1 million with a recorded investment of $388 thousand at September 30,2017, compared to December 31, 2016, at which unpaid principal balances totaled $1.2 million with a recorded investment of $507 thousand. Liberty purchased credit impaired loans with unpaid principal balances totaled $1.6 million with a recorded investment of $385 thousand at September 30, 2017, compared to December 31, 2016, at which unpaid principal balances totaled $1.7 million with a recorded investment of $449 thousand.

 

The Bancorp's age analysis of past due loans is summarized below:

 

(Dollars in thousands)  30-59 Days
Past Due
   60-89 Days
Past Due
   Greater Than
90 Days Past
Due
   Total Past
Due
   Current   Total Loans   Recorded
Investments
Greater than
90 Days Past
Due and
Accruing
 
September 30, 2017                                   
Residential real estate  $3,957   $1,635   $3,046   $8,638   $163,029   $171,667   $380 
Home equity   96    46    260    402    34,955    35,357    - 
Commercial real estate   98    732    557    1,387    202,001    203,388    - 
Construction and land development   -    -    134    134    53,849    53,983    - 
Multifamily   163    -    -    163    37,239    37,402    - 
Consumer   -    -    -    -    383    383    - 
Commercial business   306    53    562    921    75,033    75,954    - 
Government   -    -    -    -    29,830    29,830    - 
Total  $4,620   $2,466   $4,559   $11,645   $596,319   $607,964   $380 
                                    
December 31, 2016                                   
Residential real estate  $3,640   $1,702   $3,804   $9,146   $164,116   $173,262   $436 
Home equity   334    73    220    627    31,948    32,575    64 
Commercial real estate   208    189    322    719    194,719    195,438    - 
Construction and land development   -    -    134    134    38,803    38,937    - 
Multifamily   188    -    -    188    35,898    36,086    - 
Consumer   -    -    -    -    524    524    - 
Commercial business   171    217    466    854    76,445    77,299    - 
Government   -    -    -    -    29,529    29,529    - 
Total  $4,541   $2,181   $4,946   $11,668   $571,982   $583,650   $500 

 

 11 

 

  

The Bancorp's loans on nonaccrual status are summarized below:

 

(Dollars in thousands)        
   September
30, 2017
   December
31, 2016
 
Residential real estate  $3,307   $4,342 
Home equity   516    179 
Commercial real estate   557    322 
Construction and land development   134    134 
Multifamily   -    - 
Consumer   -    - 
Commercial business   695    628 
Government   -    - 
Total  $5,209   $5,605 

 

Note 5 - Foreclosed Real Estate

 

Foreclosed real estate at period-end is summarized below:

 

   (Dollars in thousands) 
   September 30,   December 31, 
   2017   2016 
Residential real estate  $1,032   $1,810 
Home equity   -    - 
Commercial real estate   97    161 
Construction and land development   676    694 
Multifamily   -    - 
Consumer   -    - 
Commercial business   -    - 
Government   -    - 
Total  $1,805   $2,665 

 

Note 6 - Goodwill, Other Intangible Assets, and Acquisition Related Accounting

 

The Bancorp established a goodwill balance totaling $2.8 million with the acquisitions of First Federal and Liberty. Goodwill of $2.0 million was established with the acquisition of First Federal and goodwill of $804 thousand was established with the acquisition of Liberty. Goodwill is tested annually for impairment. Goodwill arising from business combinations represents the value attributable to unidentifiable intangible assets in the business acquired. The Bancorp’s goodwill relates to the value inherent in the banking industry and that value is dependent upon the ability of the Bancorp to provide quality, cost effective banking services in a competitive marketplace. If the implied fair value of goodwill is lower than its carrying amount, goodwill impairment is indicated and goodwill is written down to its implied fair value. There has not been any impairment of goodwill identified or recorded. During the second quarter of 2016, original estimates related to Liberty goodwill components were adjusted. Estimates of fair values related to a pool of purchased loans were determined to be lower than originally estimated, which led to the addition of $178 thousand to goodwill. Fixed asset valuations were also determined to be higher than originally estimated, which led to a reduction of $109 thousand to goodwill. Also, the valuation of the accrued withdrawal liability for the defined benefit plan was determined to be higher than originally estimated leading to the addition of $162 thousand to goodwill. Goodwill totaled $2.8 million at September 30, 2017 and December 31, 2016.

 

In addition to goodwill, a core deposit intangible of $93 thousand for the acquisition of First Federal was established and is being amortized over 7.9 years on a straight line basis. Approximately $9 thousand of amortization was taken during the nine months ended September 30, 2017 and September 30, 2016. It is estimated that an additional $3 thousand of additional amortization will occur during 2017 and the remaining amount of $48 thousand will be amortized through to the first quarter of 2022. A core deposit intangible of $471 thousand for the acquisition of Liberty was established and is being amortized over 8.2 years on a straight line basis. Approximately $43 thousand of amortization was taken during the nine months ended September 30, 2017 and September 30, 2016. It is estimated that $14 thousand of additional amortization will occur during 2017 and the remaining amount of $327 thousand will be amortized through to the third quarter of 2023.

 

 12 

 

  

For the First Federal acquisition, as part of the fair value of loans receivable, a net fair value discount was established for residential real estate, including home equity lines of credit, of $1.1 million that is being accreted over 55 months on a straight line basis. Approximately $112 thousand of accretion was taken into income for the nine months ended September 30, 2017, compared to $146 thousand for the nine months ended September 30, 2016. It is estimated that $46 thousand of additional accretion will occur in 2017, and accretion of $151 thousand will occur during 2018. Similarly, for the Liberty acquisition, as part of the fair value of loans receivable, a net fair value discount was established for residential real estate, including home equity lines of credit, of $1.2 million that is being accreted over 44 months on a straight line basis. Approximately $239 thousand of accretion was taken into income for the nine months ended September 30, 2017, compared to $274 thousand for the nine months ended September 30, 2016. It is estimated that $67 thousand of additional accretion will occur in 2017, accretion of $266 thousand will occur in 2018, and accretion of $44 thousand will occur during 2019.

 

For the Liberty acquisition, as part of the fair value of certificates of deposit, a fair value premium was established of $124 thousand that was amortized over 17 months on a straight line basis. No amortization expense was taken during the nine months ended September 30, 2017, compared to $66 thousand of amortization taken as expense during the nine months ended September 30, 2016. No additional amortization expense will occur during 2017.

 

Note 7 - Concentrations of Credit Risk

 

The primary lending area of the Bancorp encompasses all of Lake County in northwest Indiana, where a majority of loan activity is concentrated. The Bancorp is also an active lender in Porter County, and to a lesser extent, LaPorte, Newton and Jasper counties in Indiana, and Lake, Cook and Will counties in Illinois. Substantially all loans are secured by specific items of collateral including residences, commercial real estate, land development, business assets and consumer assets.

 

Note 8 - Earnings per Share

 

Earnings per common share is computed by dividing net income by the weighted-average number of common shares outstanding. A reconciliation of the numerators and denominators of the basic and diluted earnings per common share computations for the three and nine months ended September 30, 2017 and 2016 are as follows:

 

   Three Months Ended   Nine Months Ended 
(Dollars in thousands, except per share data)  September 30,   September 30, 
   2017   2016   2017   2016 
Basic earnings per common share:                    
Net income as reported  $2,248   $2,328   $7,075   $6,813 
Weighted average common shares outstanding   2,864,007    2,860,157    2,863,806    2,858,019 
Basic earnings per common share  $0.78   $0.81   $2.47   $2.38 
Diluted earnings per common share:             -      
Net income as reported  $2,248   $2,328   $7,075   $6,813 
Weighted average common shares outstanding   2,864,007    2,860,157    2,863,806    2,858,019 
Add:  Dilutive effect of assumed stock
option exercises
   155    750    147    750 
Weighted average common and dilutive                    
potential common shares outstanding   2,864,162    2,860,907    2,863,953    2,858,769 
Diluted earnings per common share  $0.78   $0.81   $2.47   $2.38 

 

 

Note 9 - Stock Based Compensation

 

The Bancorp’s 2015 Stock Option and Incentive Plan (the Plan), which was adopted by the Bancorp’s Board of Directors on February 27, 2015 and approved by the Bancorp’s shareholders on April 24, 2015, permits the grant of equity awards for up to 250,000 shares of common stock. Awards granted under the Plan may be in the form of incentive stock options, non-qualified stock options, restricted stock, unrestricted stock, performance shares, or performance units.

 

As required by the Stock Compensation Topic, companies are required to record compensation cost for stock options and awards provided to employees in return for employment service. For the nine months ended September 30, 2017, stock based compensation expense of $142 thousand was recorded, compared to $104 thousand for the nine months ended September 30, 2016. It is anticipated that current outstanding unvested options and awards will result in additional compensation expense of approximately $51 thousand in 2017 and $147 thousand in 2018.

 

There were no incentive stock options granted during the first nine months of 2017 or 2016. When options are granted, the cost is measured at the fair value of the options when granted, and this cost is expensed over the employment service period, which is normally the vesting period of the options or awards.

 

 13 

 

  

A summary of incentive option activity under the Bancorp’s stock option and incentive plans described above for the nine months ended September 30, 2017 follows:

 

           Weighted-     
       Weighted-   Average     
       Average   Remaining   Aggregate 
       Exercise   Contractual   Intrinsic 
Incentive options  Shares   Price   Term   Value 
Outstanding at January 1, 2017   500   $28.50           
Granted   -    -           
Exercised   -    -           
Forfeited   -    -           
Expired   -   $-           
Outstanding at September 30, 2017   500   $28.50    0.4    6,500 
Exercisable at September 30, 2017   500   $28.50    0.4    6,500 

 

There were 4,575 shares of restricted stock granted during the first nine months of 2017 compared to 8,740 shares granted during the first nine months of 2016. Restricted stock awards are issued with an award price equal to the market price of the Bancorp’s common stock on the award date and vest five years after the grant date. Forfeiture provisions exist for personnel that separate employment before the vesting period expires. A summary of restricted stock activity under the Bancorp’s incentive stock option and incentive plans described above for the nine months ended September 30, 2017 follows:

 

       Weighted- 
       Average 
       Grant Date 
Restricted stock  Shares   Fair Value 
Nonvested at January 1, 2017   28,465   $26.67 
Granted   4,575    39.00 
Vested   1,625    25.81 
Forfeited   725    28.62 
Nonvested at September 30, 2017   30,690   $28.51 

 

Note 10 - Adoption of New Accounting Standards

 

In May 2014, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) No. 2014-09, Revenue from Contracts with Customers (Topic 606), which will supersede the current revenue recognition requirements in Topic 605, Revenue Recognition. The ASU is based on the principle that revenue is recognized to depict the transfer of goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The ASU also requires additional disclosure about the nature, amount, timing, and uncertainty of revenue and cash flows arising from customer contracts, including significant judgments and changes in judgments and assets recognized from costs incurred to obtain or fulfill a contract. The new guidance will be effective for the Bancorp's year ending December 31, 2018. The ASU permits application of the new revenue recognition guidance to be applied using one of two retrospective application methods. The Bancorp has not yet determined which application method it will use. Interest income is outside of the scope of the new standard and will not be impacted by the adoption of the standard. The Bancorp is still evaluating the impact of the new standard on its noninterest income.

 

In January 2016, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) No. 2016-01, Recognition and Measurement of Financial Assets and Financial Liabilities. The ASU covers various changes to the accounting, measurement, and disclosures related to certain financial instruments, including requiring equity investments to be accounted for at fair value with changes recorded through earnings, the use of the exit price when measuring fair value, and disaggregation of financial assets and liabilities by category for disclosure purposes. The new guidance will be effective for the Bancorp's year ending December 31, 2018. Early adoption is permitted as early as periods ending after December 31, 2017 with some additional options for early application. The Bancorp does not believe adopting the provisions of ASU No. 2016-01 in the future will have a material impact on the consolidated financial statements. The Bancorp has not yet quantified the impact of the change.

 

In February 2016, the Financial Accounting Standards Board (FASB) issued ASU 2016-02, Leases, which will supersede the current lease requirements in ASC 840. The ASU requires lessees to recognize a right-of-use asset and related lease liability for all leases, with a limited exception for short-term leases. Leases will be classified as either finance or operating, with the classification affecting the pattern of expense recognition in the statement of operations. Currently, leases are classified as either capital or operating, with only capital leases recognized on the balance sheet. The reporting of lease-related expenses in the statements of operations and cash flows will be generally consistent with the current guidance. The new lease guidance will be effective for the Bancorp's year ending December 31, 2019 and will be applied using a modified retrospective transition method to the beginning of the earliest period presented. Management does not believe the adoption of this update will have a material effect on the Bancorp’s consolidated financial statements.

 

 14 

 

  

In June 2016, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) No. 2016-13, Financial Instruments - Credit Losses: Measurement of Credit Losses on Financial Instruments. The ASU includes increased disclosures and various changes to the accounting and measurement of financial assets including the Bancorp’s loans and available-for-sale and held-to-maturity debt securities. Each financial asset presented on the balance sheet would have a unique allowance for credit losses valuation account that is deducted from the amortized cost basis to present the net carrying value at the amount expected to be collected on the financial asset. The amendments in this ASU also eliminate the probable initial recognition threshold in current GAAP and instead, reflect an entity’s current estimate of all expected credit losses using reasonable and supportable forecasts. The new credit loss guidance will be effective for the Bancorp's year ending December 31, 2020. Upon adoption, the ASU will be applied using a modified retrospective transition method to the beginning of the first reporting period in which the guidance is effective. A prospective transition approach is required for debt securities for which an other-than-temporary impairment had been recognized before the effective date. Early adoption for all institutions is permitted for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. Management is in the process of evaluating the impact adoption of this update will have on the Bancorp’s consolidated financial statements.

 

Note 11 - Fair Value

 

The Fair Value Measurements Topic establishes a hierarchy that requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The Topic describes three levels of inputs that may be used to measure fair value:

 

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

 

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

 

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

 

The fair values of securities available-for-sale are determined on a recurring basis by obtaining quoted prices on nationally recognized securities exchanges or pricing models utilizing significant observable inputs such as matrix pricing, which is a mathematical technique widely used in the industry to value 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. Different judgments and assumptions used in pricing could result in different estimates of value. In certain cases where market data is not readily available because of a lack of market activity or little public disclosure, values may be based on unobservable inputs and classified in Level 3 of the fair value hierarchy.

 

At the end of each reporting period, securities held in the investment portfolio are evaluated on an individual security level for other-than-temporary impairment in accordance with the Investments – Debt and Equity Securities Topic. Impairment is other-than-temporary if the decline in the fair value is below its amortized cost and it is probable that all amounts due according to the contractual terms of a debt security will not be received. Significant judgments are required in determining impairment, which include making assumptions regarding the estimated prepayments, loss assumptions and the change in interest rates. The Bancorp considers the following factors when determining an other-than-temporary impairment for a security: the length of time and the extent to which the market value has been less than amortized cost; the financial condition and near-term prospects of the issuer; the underlying fundamentals of the relevant market and the outlook for such market for the near future; an assessment of whether the Bancorp (1) has the intent to sell the debt securities or (2) more likely than not will be required to sell the debt securities before their anticipated market recovery. If either of these conditions is met, management will recognize other-than-temporary impairment. If, in management’s judgment, an other-than-temporary impairment exists, the cost basis of the security will be written down for the credit loss, and the unrealized loss will be transferred from accumulated other comprehensive loss as an immediate reduction of current earnings.

 

 15 

 

  

The Bancorp’s management utilizes a specialist to perform an other-than-temporary impairment analysis for each of its four pooled trust preferred securities. The analysis is performed semiannually on June 30 and December 31 and utilizes analytical models used to project future cash flows for the pooled trust preferred securities based on current assumptions for prepayments, default and deferral rates, and recoveries. The projected cash flows are then tested for impairment consistent with the Investments – Other Topic and the Investments – Debt and Equity Securities Topic. The other-than-temporary impairment testing compares the present value of the cash flows from quarter to quarter to determine if there is a “favorable” or “adverse” change. Other-than-temporary impairment is recorded if the projected present value of cash flows is lower than the book value of the security. To perform the semi-annual other-than-temporary impairment analysis, management utilizes current reports issued by the trustee, which contain principal and interest tests, waterfall distributions, note valuations, collection detail and credit ratings for each pooled trust preferred security. In addition, a detailed review of the performing collateral was performed. The review of the collateral began with a review of financial information provided by SNL Financial, a comprehensive database, widely used in the industry, which gathers financial data on banks and thrifts from U.S. GAAP financial statements for public companies (annual and quarterly reports on Forms 10-K and 10-Q, respectively), as well as regulatory reports for private companies, including consolidated financial statements for bank holding companies (FR Y-9C reports) and parent company-only financial statements for bank holding companies (FR Y-9LP reports) filed with the Federal Reserve, and bank call reports filed with the FDIC and the Office of the Comptroller of Currency. Using the information sources described above, for each bank and thrift examined the following items were examined: nature of the issuer’s business, years of operating history, corporate structure, loan composition and loan concentrations, deposit mix, asset growth rates, geographic footprint and local economic environment. The issuers’ historical financial performance was reviewed and their financial ratios were compared to appropriate peer groups of regional banks or thrifts with similar asset sizes. The analysis focused on six broad categories: profitability (revenue streams and earnings quality, return on assets and shareholder’s equity, net interest margin and interest rate sensitivity), credit quality (charge-offs and recoveries, non-current loans and total non-performing assets as a percentage of total loans, loan loss reserve coverage and the adequacy of the loan loss provision), operating efficiency (non-interest expense compared to total revenue), capital adequacy (Tier-1, total capital and leverage ratios and equity capital growth), leverage (tangible equity as a percentage of tangible assets, short-term and long-term borrowings and double leverage at the holding company) and liquidity (the nature and availability of funding sources, net non-core funding dependence and quality of deposits). In addition, for publicly traded companies’ stock price movements were reviewed and the market price of publicly traded debt instruments was examined. Based on current market conditions and a review of the trustee reports, management performed an analysis of the four pooled trust preferred securities and no additional impairment was taken at September 30, 2017. A specialist will be used to review all four pooled trust preferred securities again at December 31, 2017.

 

 16 

 

 

  The table below shows the credit loss roll forward on a year-to-date basis for the Bancorp’s pooled trust preferred securities that have been classified with other-than-temporary impairment:

 

   (Dollars in thousands) 
   Collateralized debt obligations 
   other-than-temporary impairment 
Ending balance, December 31, 2016  $271 
Additions not previously recognized   - 
Ending balance, September 30, 2017  $271 

 

The following table contains information regarding the Bancorp’s pooled trust preferred securities impairment evaluation as of June 30, 2017:

Cusip   74043CAC1   74042TAJ0   01449TAB9   01450NAC6
Deal name   PreTSL XXIV    PreTSL XXVII    Alesco IX    Alesco XVII 
Class   B-1    C-1    A-2A    B 
Lowest credit rating assigned   CCC    CC    BB    CCC 
Number of performing banks   62    33    62    51 
Number of performing insurance companies   13    7    10    n/a 
Number of issuers in default   16    7    2    4 
Number of issuers in deferral   2    2    2    1 
Defaults & deferrals as a % of performing collateral   26.56%   20.06%   4.22%   8.11%
Subordination:                    
As a % of performing collateral   23.55%   8.35%   52.53%   35.58%
As a % of performing collateral - adjusted for projected future defaults   18.93%   1.24%   49.17%   31.69%
Other-than-temporary impairment model assumptions:                    
Defaults:                    
Year 1 - issuer average   1.90%   2.40%   2.20%   1.90%
Year 2 - issuer average   1.90%   2.40%   2.20%   1.90%
Year 3 - issuer average   1.90%   2.40%   2.20%   1.90%
> 3 Years - issuer average    (1)    (1)    (1)    (1)
Discount rate - 3 month Libor, plus implicit yield spread at purchase   1.48%   1.23%   1.27%   1.44%
Recovery assumptions   (2)    (2)    (2)    (2)
Prepayments   0.00%   0.00%   0.00%   0.00%
Other-than-temporary impairment  $41   $132   $36   $62 

 

(1)- Default rates > 3 years are evaluated on a issuer by issuer basis and range from 0.25% to 5.00%.
(2)- Recovery assumptions are evaluated on a issuer by issuer basis and range from 0% to 15% with a five year lag.

 

In the preceding table, the Bancorp’s subordination for each trust preferred security is calculated by taking the total performing collateral and subtracting the sum of the total collateral within the Bancorp’s class and the total collateral within all senior classes, and then stating this result as a percentage of the total performing collateral. This measure is an indicator of the level of collateral that can default before potential cash flow disruptions may occur. In addition, management calculates subordination assuming future collateral defaults by utilizing the default/deferral assumptions in the Bancorp’s other-than-temporary-impairment analysis. Subordination assuming future default/deferral assumptions is calculated by deducting future defaults from the current performing collateral. At September 30, 2017, management reviewed the subordination levels for each security in context of the level of current collateral defaults and deferrals within each security; the potential for additional defaults and deferrals within each security; the length of time that the security has been in “payment in kind” status; and the Bancorp’s class position within each security.

 

Management calculated the other-than-temporary impairment model assumptions based on the specific collateral underlying each individual security. The following assumption methodology was applied consistently to each of the four pooled trust preferred securities: For collateral that has already defaulted, no recovery was assumed; no cash flows were assumed from collateral currently in deferral, with the exception of the recovery assumptions. The default and recovery assumptions were calculated based on a detailed collateral review. The discount rate assumption used in the calculation of the present value of cash flows is based on the discount margin (i.e., credit spread) at the time each security was purchased using the original purchase price. The discount margin is then added to the appropriate 3-month LIBOR forward rate obtained from the forward LIBOR curve.

 

At September 30, 2017, three of the trust preferred securities with a cost basis of $3.6 million continue to be in “payment in kind” status. The Bancorp’s securities that are classified as “payment in kind” are a result of not receiving the scheduled quarterly interest payments. For the securities in “payment in kind” status, management anticipates to receive the unpaid contractual interest payments from the issuer, because of the self-correcting cash flow waterfall provisions within the structure of the securities. When a tranche senior to the Bancorp’s position fails the coverage test, the Bancorp’s interest cash flows are paid to the senior tranche and recorded as a reduction of principal. The coverage test represents an over collateralization target by stating the balance of the performing collateral as a percentage of the balance of the Bancorp’s tranche, plus the balance of all senior tranches. The principal reduction in the senior tranche continues until the appropriate coverage test is passed. As a result of the principal reduction in the senior tranche, more cash is available for future payments to the Bancorp’s tranche. Consistent with the Investments – Debt and Equity Securities Topic, management considered the failure of the issuer of the security to make scheduled interest payments in determining whether a credit loss existed. Management will not capitalize the “payment in kind” interest payments to the book value of the securities and will keep these securities in non-accrual status until the quarterly interest payments resume.

 

 17 

 

  

Assets and Liabilities Measured at Fair Value on a Recurring Basis

 

There were no transfers to or from Levels 1 and 2 during the nine months ended September 30, 2017. Assets measured at fair value on a recurring basis are summarized below:

 

       (Dollars in thousands) 
       Fair Value Measurements at September 30, 2017 Using 
(Dollars in thousands)  Estimated
Fair
Value
   Quoted Prices in
Active Markets
for Identical
Assets
(Level 1)
   Significant Other
Observable
Inputs
(Level 2)
   Significant
Unobservable
Inputs
(Level 3)
 
Available-for-sale debt securities:                    
Money market fund  $1,711   $1,711   $-   $- 
U.S. government sponsored entities   3,914    -    3,914    - 
Collateralized mortgage obligations and residential mortgage-backed securities   141,575    -    141,575    - 
Municipal securities   93,088    -    93,088    - 
Collateralized debt obligations   3,264    -    -    3,264 
Total securities available-for-sale  $243,552   $1,711   $238,577   $3,264 

 

       (Dollars in thousands) 
       Fair Value Measurements at December 31, 2016 Using 
(Dollars in thousands)  Estimated
Fair
Value
   Quoted Prices in
Active Markets
for Identical
Assets
(Level 1)
   Significant Other
Observable
Inputs
(Level 2)
   Significant
Unobservable
Inputs
(Level 3)
 
Available-for-sale debt securities:                    
Money market fund  $222   $222   $-   $- 
U.S. government sponsored entities   16,274    -    16,274    - 
Collateralized mortgage obligations and residential mortgage-backed securities   117,975    -    117,975    - 
Municipal securities   96,745    -    96,745    - 
Collateralized debt obligations   2,409    -    -    2,409 
Total securities available-for-sale  $233,625   $222   $230,994   $2,409 

 

A roll forward of available-for-sale securities, which require significant adjustment based on unobservable data, are presented in the following table:

 

   (Dollars in thousands) 
   Estimated Fair Value
Measurements Using
Significant Unobservable
Inputs
(Level 3)
 
   Available-for-
sale securities
 
Beginning balance, January 1, 2016  $2,734 
Principal payments   (107)
Total unrealized losses, included in other comprehensive income   (218)
Transfers in and/or (out) of Level 3   - 
Ending balance, December 31, 2016  $2,409 
      
Beginning balance, January 1, 2017  $2,409 
Principal payments   (136)
Total unrealized gains, included in other comprehensive income   991 
Transfers in and/or (out) of Level 3   - 
Ending balance, September 30, 2017  $3,264 

 

 18 

 

 

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

       (Dollars in thousands) 
       Fair Value Measurements at September 30, 2017 Using 
(Dollars in thousands)  Estimated
Fair
Value
   Quoted Prices in
Active Markets
for Identical
Assets
(Level 1)
   Significant Other
Observable
Inputs
(Level 2)
   Significant
Unobservable
Inputs
(Level 3)
 
Impaired loans  $1,983   $-   $-   $1,983 
Foreclosed real estate   1,805    -    -    1,805 

 

       (Dollars in thousands) 
       Fair Value Measurements at December 31, 2016 Using 
(Dollars in thousands)  Estimated
Fair
Value
   Quoted Prices in
Active Markets
for Identical
Assets
(Level 1)
   Significant Other
Observable
Inputs
(Level 2)
   Significant
Unobservable
Inputs
(Level 3)
 
Impaired loans  $2,282   $-   $-   $2,282 
Foreclosed real estate   2,665    -    -    2,665 

 

The fair value of impaired loans with specific allocations of the allowance for loan losses or loans for which charge-offs have been taken is generally based on a present value of cash flows or, for collateral dependent loans, based on recent real estate appraisals. Appraisals may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach. The recorded investment in impaired loans was approximately $2.7 million and the related specific reserves totaled approximately $725 thousand, resulting in a fair value of impaired loans totaling approximately $2.0 million, at September 30, 2017. The recorded investment of impaired loans was approximately $3.5 million and the related specific reserves totaled approximately $1.2 million, resulting in a fair value of impaired loans totaling approximately $2.3 million, at December 31, 2016. Fair value is determined, where possible, using market prices derived from an appraisal or evaluation, which are considered to be Level 2 inputs. However, certain assumptions and unobservable inputs are often used by the appraiser, therefore, qualifying the assets as Level 3 in the fair value hierarchy. The fair value of foreclosed real estate is similarly determined by using the results of recent real estate appraisals. The numerical range of unobservable inputs for these valuation assumptions is not meaningful to this presentation.

 

The following table shows carrying values and related estimated fair values of financial instruments as of the dates indicated. Estimated fair values are further categorized by the inputs used to measure fair value. Items that are not financial instruments are not included.

 

   September 30, 2017   Estimated Fair Value Measurements at September 30, 2017 Using 
(Dollars in thousands)  Carrying
Value
   Estimated
Fair Value
   Quoted Prices in
 Active Markets for
Identical Assets
(Level 1)
   Significant
Other Observable
Inputs
(Level 2)
   Significant
Unobservable
Inputs
(Level 3)
 
Financial assets:                         
Cash and cash equivalents  $14,128   $14,128   $14,128   $-   $- 
Securities available-for-sale   243,552    243,552    1,711    238,577    3,264 
Loans held-for-sale   2,007    2,049    2,049    -    - 
Loans receivable, net   600,905    594,357    -    -    594,357 
Federal Home Loan Bank stock   3,000    3,000    -    3,000    - 
Accrued interest receivable   3,021    3,021    -    3,021    - 
                          
Financial liabilities:                         
Non-interest bearing deposits   118,797    118,797    118,797    -    - 
Interest bearing deposits   638,763    637,759    465,938    171,821    - 
Repurchase agreements   15,946    15,942    14,191    1,751    - 
Borrowed funds   41,421    41,417    283    41,134    - 
Accrued interest payable   45    45    -    45    - 

 

 19 

 

  

   December 31, 2016   Estimated Fair Value Measurements at December 31, 2016 Using 
(Dollars in thousands)  Carrying
Value
   Estimated
Fair Value
   Quoted Prices in
 Active Markets for
Identical Assets
(Level 1)
   Significant
Other Observable
Inputs
(Level 2)
   Significant
Unobservable
Inputs
(Level 3)
 
Financial assets:                         
Cash and cash equivalents  $45,109   $45,109   $45,109   $-   $- 
Securities available-for-sale   233,625    233,625    222    230,994    2,409 
Loans held-for-sale   2,193    2,242    2,242    -    - 
Loans receivable, net   575,952    568,855    -    -    568,855 
Federal Home Loan Bank stock   3,000    3,000    -    3,000    - 
Accrued interest receivable   3,086    3,086    -    3,086    - 
                          
Financial liabilities:                         
Non-interest bearing deposits   111,800    111,800    111,800    -    - 
Interest bearing deposits   667,971    667,227    482,307    184,920    - 
Repurchase agreements   13,998    13,995    11,439    2,556    - 
Borrowed funds   25,828    25,840    700    25,140    - 
Accrued interest payable   41    41    -    41    - 

 

The following methods were used to estimate the fair value of financial instruments presented in the preceding table for the periods ended September 30, 2017 and December 31, 2016:

 

Cash and cash equivalents carrying amounts approximate fair value. The fair values of securities available-for-sale are obtained from broker pricing (Level 2), with the exception of collateralized debt obligations, which are valued by a third-party specialist (Level 3). Loans held-for-sale comprise residential mortgages and are priced based on values established by the secondary mortgage markets (Level 1). The estimated fair value for net loans receivable is based on estimates of the rate the Bancorp would charge for similar such loans, applied for the time period until estimated repayment, in addition to appraisals which may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach (Level 3). Federal Home Loan Bank stock is estimated at book value due to restrictions that limit the sale or transfer of the security. Fair value of accrued interest receivable and payable approximates book value, as the carrying values are determined using the observable interest rate, balance, and last payment date.

 

Non-interest and interest bearing deposits, which include checking, savings, and money market deposits, are estimated to have fair values based on the amount payable as of the reporting date (Level 1). The fair value of fixed-maturity certificates of deposit (included in interest bearing deposits) are based on estimates of the rate the Bancorp would pay on similar deposits, applied for the time period until maturity (Level 2). Estimated fair values for short-term repurchase agreements, which represent sweeps from demand deposits to accounts secured by pledged securities, are estimated based on the amount payable as of the reporting date (Level 1). Longer-term repurchase agreements, with contractual maturity dates of three months or more, are based on estimates of the rate the Bancorp would pay on similar deposits, applied for the time period until maturity (Level 2). Short-term borrowings are generally only held overnight, therefore, their carrying amount is a reasonable estimate of fair value (Level 1). The fair value of FHLB Advances (included in borrowed funds) are estimated by discounting the future cash flows using quoted rates from the FHLB for similar advances with similar maturities (Level 2). The estimated fair value of other financial instruments, and off-balance sheet loan commitments, approximate cost and are not considered significant to this presentation.

 

 20 

 

 

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

 

Summary

 

NorthWest Indiana Bancorp (the “Bancorp”) is a financial holding company registered with the Board of Governors of the Federal Reserve System. Peoples Bank SB (“the Bank”), an Indiana savings bank, and NWIN Risk Management, Inc., a captive insurance company, are wholly-owned subsidiaries of the Bancorp. The Bancorp has no other business activity other than being a holding company for the Bank and NWIN Risk Management, Inc.

 

At September 30, 2017, the Bancorp had total assets of $916.3 million, total loans receivable of $608.0 million and total deposits of $757.6 million. Stockholders' equity totaled $91.1 million or 9.94% of total assets, with a book value per share of $31.82. Net income for the quarter ended September 30, 2017, was $2.2 million, or $0.78 earnings per common share for both basic and diluted calculations. For the quarter ended September 30, 2017, the return on average assets (ROA) was 0.98%, while the return on average stockholders’ equity (ROE) was 9.80%. Net income for the nine months ended September 30, 2017, was $7.1 million, or $2.47 earnings per common share for both basic and diluted calculations. For the nine months ended September 30, 2017, the ROA was 1.04%, while the ROE was 10.54%.

 

Financial Condition

 

During the nine months ended September 30, 2017, total assets increased by $2.7 million (0.3%), with interest-earning assets increasing by $7.1 million (0.8%). At September 30, 2017, interest-earning assets totaled $859.3 million compared to $852.2 million at December 31, 2016. Earning assets represented 93.8% of total assets at September 30, 2017 and 93.3% of total assets at December 31, 2016. The increase in total assets and interest earning assets for the nine months was the result of internally generated growth.

 

Net loans receivable totaled $600.9 million at September 30, 2017, compared to $576.0 million at December 31, 2016. The loan portfolio, which is the Bancorp’s largest asset, is the primary source of both interest and fee income. The Bancorp’s lending strategy emphasizes quality loan growth, product diversification, and competitive and profitable pricing.

 

The Bancorp’s end-of-period loan balances were as follows:

 

   September 30,         
   2017   December 31, 
  (unaudited)   2016 
(Dollars in thousands)  Balance   % Loans   Balance   % Loans 
                 
Residential real estate  $171,667    28.2%  $173,262    29.7%
Home equity   35,357    5.8%   32,575    5.6%
Commercial real estate   203,388    33.5%   195,438    33.5%
Construction and land development   53,983    8.9%   38,937    6.7%
Multifamily   37,402    6.2%   36,086    6.2%
Consumer   383    0.1%   524    0.1%
Commercial business   75,954    12.5%   77,299    13.2%
Government   29,830    4.8%   29,529    5.0%
Loans receivable  $607,964    100.0%  $583,650    100.0%
                     
Adjustable rate loans / loans receivable  $349,022    57.4%  $332,650    57.0%

 

   September 30,     
   2017   December 31, 
   (unaudited)   2016 
         
Loans receivable to total assets   66.3%   63.9%
Loans receivable to earning assets   70.8%   68.5%
Loans receivable to total deposits   80.3%   74.8%

 

The Bancorp is primarily a portfolio lender. Mortgage banking activities historically have been limited to the sale of fixed rate mortgage loans with contractual maturities greater than 15 years. These loans are identified as held for sale when originated and sold, on a loan-by-loan basis, in the secondary market. The Bancorp will also retain fixed rate mortgage loans with a contractual maturity greater than 15 years on a limited basis. During the nine months ended September 30, 2017, the Bancorp originated $31.6 million in new fixed rate mortgage loans for sale, compared to $42.1 million during the nine months ended September 30, 2016. Net gains realized from the mortgage loan sales totaled $883 thousand for the nine months ended September 30, 2017, compared to $1.1 million for the nine months ended September 30, 2016. At September 30, 2017, the Bancorp had $2.0 million in loans that were classified as held for sale, compared to $2.2 million at December 31, 2016.

 

The allowance for loan losses (ALL) is a valuation allowance for probable incurred credit losses, increased by the provision for loan losses, and decreased by charge-offs net of recoveries. A loan is charged-off against the allowance by management as a loss when deemed uncollectible, although collection efforts continue and future recoveries may occur. The determination of the amounts of the ALL and provisions for loan losses is based on management’s current judgments about the credit quality of the loan portfolio with consideration given to all known relevant internal and external factors that affect loan collectability as of the reporting date. The appropriateness of the current period provision and the overall adequacy of the ALL are determined through a disciplined and consistently applied quarterly process that reviews the Bancorp’s current credit risk within the loan portfolio and identifies the required allowance for loan losses given the current risk estimates.

 

 21 

 

 

Non-performing loans include those loans that are 90 days or more past due and those loans that have been placed on non-accrual status. Non-performing loans totaled $5.6 million at September 30, 2017, compared to $6.1 million at December 31, 2016, a decrease of $516 thousand or 8.5%. The decrease in non-performing loans for the first nine months of 2017 is primarily due to a partial charge-off totaling $829 thousand for twenty-six Investor Owned Residential Real Estate loans. The ratio of non-performing loans to total loans was 0.92% at September 30, 2017, compared to 1.05% at December 31, 2016. The ratio of non-performing loans to total assets was 0.61% at September 30, 2017, compared to 0.67% at December 31, 2016. At September 30, 2017, all non-performing loans are also accounted for on a non-accrual basis, except for seven residential real estate loans totaling $380 thousand that remained accruing and more than 90 days past due.

 

Loans internally classified as substandard totaled $5.8 million at September 30, 2017, compared to $6.1 million at December 31, 2016, a decrease of $276 thousand or 4.5%. The decrease in substandard loans is primarily due to a partial charge-off totaling $829 thousand for twenty-six Investor Owned Residential Real Estate loans, a charge-off totaling $358 thousand for five commercial business loans, and one residential real estate loan totaling $272 thousand that was upgraded to watch. The decrease is largely offset by $526 thousand in two commercial business loans, $241 thousand in four commercial real estate loans, and $185 thousand in one home equity loan that was added to the substandard classification. Substandard loans include non-performing loans and potential problem loans, where information about possible credit issues or other conditions causes management to question the ability of such borrowers to comply with loan covenants or repayment terms. No loans were internally classified as doubtful or loss at September 30, 2017 or December 31, 2016. In addition to identifying and monitoring non-performing and other classified loans, management maintains a list of watch loans. Watch loans represent loans management is closely monitoring due to one or more factors that may cause the loan to become classified as substandard. Watch loans totaled $11.7 million at September 30, 2017, compared to $10.6 million at December 31, 2016, an increase of $1.1 million or 10.6%. The increase in watch loans is primarily due to the addition of two non-related commercial real estate loans totaling $1.3 million.

 

A loan is considered impaired when, based on current information and events, it is probable that a borrower will be unable to pay all amounts due according to the contractual terms of the loan agreement. At September 30, 2017, impaired loans totaled $2.7 million, compared to $3.5 million at December 31, 2016, a decrease of $811 thousand or 23.1%. The decrease in impaired loans for the first nine months of 2017 is primarily due to a partial charge-off totaling $829 thousand for twenty-six Investor Owned Residential Real Estate loans which was offset by the addition of two commercial business loans totaling $526 thousand and four commercial real estate loans totaling $241 thousand. The September 30, 2017 impaired loan balances consist of seven commercial real estate loans, seven commercial business loans, and one construction and land development loan, all of which total $1.4 million that are secured by business assets and real estate, and are personally guaranteed by the owners of the businesses. In addition, 70 Investor Owned Residential Real Estate and purchased credit impaired loans totaling $1.3 million have also been classified as impaired. At September 30, 2017 the ALL contained $725 thousand in specific reserves for impaired loans, compared to $1.2 million at December 31, 2016. There were no other loans considered for impairment as of September 30, 2017. Typically, management does not individually classify smaller-balance homogeneous loans, such as residential mortgages or consumer loans, as impaired, unless they are troubled debt restructurings.

 

Purchased loans acquired in a business combination are recorded at estimated fair value on their purchase date. Purchased loans with evidence of credit quality deterioration since origination are considered purchased credit impaired loans. Expected future cash flows at the purchase date in excess of the fair value of loans are recorded as interest income over the life of the loans if the timing and amount of the future cash flows is reasonably estimable (“accretable yield”). The difference between contractually required payments and the cash flows expected to be collected at acquisition is referred to as the non-accretable difference and represents probable losses in the portfolio. In determining the acquisition date fair value of purchased credit impaired loans, and in subsequent accounting, the Bancorp aggregates these purchased loans into pools of loans by common risk characteristics, such as credit risk rating and loan type. Subsequent to the purchase date, increases in cash flows over those expected at the purchase date are recognized as interest income prospectively. Subsequent decreases to the expected cash flows will generally result in a provision for loan losses. During the second quarter of 2016, initial estimates of fair values related to a pool of Liberty loans were found to be lower than expected. This change led to the addition of $178 thousand to non-accretable discount. At September 30, 2017, purchased credit impaired loans with unpaid principal balances totaled $2.7 million with a recorded investment of $773 thousand.

 

 22 

 

 

At September 30, 2017, the Bancorp classified three loans totaling $325 thousand as troubled debt restructurings, which involves modifying the terms of a loan to forego a portion of interest or principal or reducing the interest rate on the loan to a rate materially less than market rates, or materially extending the maturity date of a loan. The Bancorp’s troubled debt restructurings include one accruing residential real estate loan in the amount of $272 thousand for which an extension of amortization and reduction in rate was granted and two accruing commercial business loans totaling $53 thousand for which a reduction in principal payments was granted. The valuation basis for the Bancorp’s troubled debt restructurings is based on the present value of expected future cash flows; unless consistent cash flows are not present, then the fair value of the collateral securing the loan is the basis for valuation.

 

At September 30, 2017, management is of the opinion that there are no loans, except certain of those discussed above, where known information about possible credit problems of borrowers causes management to have serious doubts as to the ability of such borrowers to comply with the present loan repayment terms and which will imminently result in such loans being classified as past due, non-accrual or a troubled debt restructure. Management does not presently anticipate that any of the non-performing loans or classified loans would materially affect future operations, liquidity or capital resources.

 

For the nine months ended September 30, 2017, $722 thousand in provisions to the ALL were required, compared to $846 thousand for the nine months ended September 30, 2016, a decrease of $124 thousand or 14.7%. The ALL provision for the current nine month period is primarily a result of overall loan portfolio growth. For the nine months ended September 30, 2017, charge-offs, net of recoveries, totaled $1.4 million, compared to charge-offs, net of recoveries of $295 thousand for the nine months ended September 30, 2016. The increase in net charge-offs the first nine months of 2017 is primarily due to a partial charge-off totaling $829 thousand for twenty-six Investor Owned Residential Real Estate loans related to previous acquisitions and charge-offs totaling $347 thousand to four commercial business loans. The net loan charge-offs for the first nine months of 2017 were comprised of $911 thousand in residential real estate loans, $48 thousand in consumer loans, $344 thousand in commercial business loans, and $60 thousand in home equity loans. The ALL provisions take into consideration management’s current judgments about the credit quality of the loan portfolio, loan portfolio balances, changes in the portfolio mix and local economic conditions. In determining the provision for loan losses for the current period, management has considered risks associated with the local economy, changes in loan balances and mix, and asset quality.

 

The ALL-to-total loans was 1.16% at September 30, 2017, compared to 1.32% at December 31, 2016. The ALL-to-non-performing loans (coverage ratio) was 126.3% at September 30, 2017, compared to 126.1% at December 31, 2016. The September 30, 2017 balance in the ALL account of $7.1 million is considered adequate by management after evaluation of the loan portfolio, past experience and current economic and market conditions. While management may periodically allocate portions of the allowance for specific problem loans, the whole allowance is available for any loan charge offs that occur. The allocation of the ALL reflects performance and growth trends within the various loan categories, as well as consideration of the facts and circumstances that affect the repayment of individual loans, and loans which have been pooled as of the evaluation date, with particular attention given to non-performing loans and loans which have been classified as substandard, doubtful or loss. Management has allocated reserves to both performing and non-performing loans based on current information available.

 

At September 30, 2017, foreclosed real estate totaled $1.8 million, which was comprised of sixteen properties, compared to $2.7 million and twenty-six properties at December 31, 2016. The decrease in foreclosed real estate is the result of the sale of properties. Net gains from the sale of foreclosed real estate totaled $95 for the nine months ended September 30, 2017, and were the result of proceeds received from the sale of foreclosed properties. At the end of September 2017 all of the Bancorp’s foreclosed real estate is located within its primary market area.

 

The primary objective of the Bancorp’s investment portfolio is to provide for the liquidity needs of the Bancorp and to contribute to profitability by providing a stable flow of dependable earnings. Funds are generally invested in federal funds, interest bearing balances in other financial institutions, U.S. government securities, federal agency obligations, obligations of state and local municipalities and corporate securities. The securities portfolio, all of which is designated as available-for-sale, totaled $243.6 million at September 30, 2017, compared to $233.6 million at December 31, 2016, an increase of $10.0 million (4.3%). The increase in the securities portfolio is a result of continued reinvestment of income and gains in that portfolio. At September 30, 2017, the securities portfolio represented 28.3% of interest-earning assets and 26.6% of total assets compared to 27.4% of interest-earning assets and 25.6% of total assets at December 31, 2016.

 

 23 

 

 

The Bancorp’s end-of-period investment portfolio and other short-term investments and stock balances were as follows:

 

   September 30,         
   2017   December 31, 
  (unaudited)   2016 
(Dollars in thousands)   Balance   % Securities   Balance   % Securities 
                 
Money market fund  $1,711    0.7%  $222    0.1%
U.S. government sponsored entities   3,914    1.6%   16,274    7.0%
Collateralized mortgage obligations and residential mortgage-backed securities   141,575    58.1%   117,975    50.5%
Municipal securities   93,088    38.2%   96,745    41.4%
Collateralized debt obligations   3,264    1.4%   2,409    1.0%
Total securities available-for-sale  $243,552    100.0%  $233,625    100.0%

 

   September 30,
2017
   December 31,   YTD 
  (unaudited)   2016   Change 
(Dollars in thousands)  Balance   Balance   $   % 
                 
Interest bearing deposits in other financial institutions  $2,306   $29,556   $(27,250)   -92.2%
Fed funds sold   468    215    253    117.7%
Federal Home Loan Bank stock   3,000    3,000    -    0.0%

 

 

The net decrease in interest bearing balances in other financial institutions is primarily the result of the seasonality of municipality deposit accounts and a decrease in certificates of deposit. The net increase in fed funds sold is primarily the result of timing of liquidity needs. Federal Home Loan Bank stock corresponds to stock ownership requirements based on borrowing needs.

 

Deposits are a fundamental and cost-effective source of funds for lending and other investment purposes. The Bancorp offers a variety of products designed to attract and retain customers, with the primary focus on building and expanding relationships.

 

The Bancorp’s end-of-period deposit portfolio balances were as follows:

 

   September 30,
2017
   December 31,   YTD 
(Dollars in thousands)  (unaudited)   2016   Change 
   Balance   Balance   $   % 
                 
Checking  $284,187   $288,149   $(3,962)   -1.4%
Savings   132,397    127,626    4,771    3.7%
Money market   168,151    178,332    (10,181)   -5.7%
Certificates of deposit   172,825    185,664    (12,839)   -6.9%
Total deposits  $757,560   $779,771   $(22,211)   -2.8%

 

 

The Bancorp’s core deposits include checking, savings, and money market accounts. The overall increase in core deposits is a result of management’s sales efforts along with current customer preferences for short-term, liquid investment alternatives.

  

 24 

 

 

The Bancorp’s borrowed funds are primarily used to fund asset growth not supported by deposit generation. The Bancorp’s end-of-period borrowing balances were as follows:

 

   September 30,
2017
   December 31,   YTD 
(Dollars in thousands)  (unaudited)   2016   Change 
   Balance   Balance   $   % 
                 
Repurchase agreements  $15,946   $13,998   $1,948    13.9%
Borrowed funds   41,421    25,828    15,593    60.4%
Total borrowed funds  $57,367   $39,826   $17,541    44.0%

 

Repurchase agreements increased as part of normal account fluctuations within that product line. Borrowed funds decreased as FHLB fixed advances matured and were not replaced.

 

Liquidity and Capital Resources

 

For the Bancorp, liquidity management refers to the ability to generate sufficient cash to fund current loan demand, meet deposit withdrawals, and pay dividends and operating expenses. Because profit and liquidity are often conflicting objectives, management attempts to maximize the Bank’s net interest margin by making adequate, but not excessive, liquidity provisions. Furthermore, funds are managed so that future profits will not be significantly impacted as funding costs increase.

 

Changes in the liquidity position result from operating, investing and financing activities. Cash flows from operating activities are generally the cash effects of transactions and other events that enter into the determination of net income. The primary investing activities include loan originations, loan repayments, investments in interest bearing balances in other financial institutions, and the purchase, sale, and maturity of investment securities. Financing activities focus almost entirely on the generation of customer deposits. In addition, the Bancorp utilizes borrowings (i.e., repurchase agreements, FHLB advances and federal funds purchased) as a source of funds.

 

During the nine months ended September 30, 2017, cash and cash equivalents decreased by $31.0 million compared to a $5.0 million increase for the nine months ended September 30, 2016. The primary sources of cash and cash equivalents were sales of loans originated for sale, proceeds from maturities, pay downs, calls, and sales of available-for-sale securities, and borrowed funds. The primary uses of cash and cash equivalents were the purchase of securities, loan originations, decreases in deposits, and the repayment of FHLB advances. Cash provided by operating activities totaled $9.1 million for the nine months ended September 30, 2017, compared to cash provided of $5.5 million for the nine month period ended September 30, 2016. The increase in cash from operating activities was primarily a result of an increase in clearing accounts that facilitate customer transactions. Cash outflows from investing activities totaled $33.0 million for the current period, compared to cash outflows of $27.9 million for the nine months ended September 30, 2016. Cash outflows for the current nine months were primarily related to the origination of loans receivable and maturities and pay downs of securities. Net cash outflows from financing activities totaled $7.1 million during the current period compared to net cash inflows of $27.4 million for the nine months ended September 30, 2016. The net cash outflows from financing activities was primarily a result of deposits and repayment of FHLB advances. On a cash basis, the Bancorp paid dividends on common stock of $2.4 million for the nine months ended September 30, 2017 and $2.3 million for the nine months ended September 30, 2016.

 

At September 30, 2017, outstanding commitments to fund loans totaled $130.8 million. Approximately 51.0% of the commitments were at variable rates. Standby letters of credit, which are conditional commitments issued by the Bancorp to guarantee the performance of a customer to a third party, totaled $10.2 million at September 30, 2017. Management believes that the Bancorp has sufficient cash flow and borrowing capacity to fund all outstanding commitments and letters of credit, while maintaining proper levels of liquidity.

 

Management strongly believes that maintaining a high level of capital enhances safety and soundness. During the nine months ended September 30, 2017, stockholders' equity increased by $7.0 million (8.3%). During the nine months ended September 30, 2017, stockholders’ equity was primarily increased by net income of $7.1 million and an increase to net unrealized gains on security sales of $2.3 million. Decreasing stockholders’ equity was the declaration of $2.5 million in cash dividends. On April 24, 2014 the Bancorp’s Board of Directors authorized a stock repurchase program to repurchase up to 50,000 shares of the Bancorp’s outstanding common stock, from time to time and subject to market conditions, on the open market or in privately negotiated transactions. The stock repurchase program does not expire and is only limited by the number of shares that can be purchased. The stock repurchase program will be reviewed annually by the Board of Directors. No shares were repurchased during the first nine months of 2017 or 2016.

 

The Bancorp is subject to risk-based capital guidelines adopted by the Board of Governors of the Federal Reserve System (the FRB), and the Bank is subject to risk-based capital guidelines adopted by the FDIC. As applied to the Bancorp and the Bank, the FRB and FDIC capital requirements are substantially the same. These regulations divide capital into multiple tiers. The first tier (Common Equity Tier 1 Capital) includes common shareholders’ equity, after deductions for various items including goodwill and certain other intangible assets, and after certain other adjustments. Common Equity Tier 1 Capital also includes accumulated other comprehensive income (for organizations that do not make opt-out elections). The next tier (Tier 1 Capital) is comprised of Common Equity Tier 1 Capital plus other qualifying capital instruments such as perpetual noncumulative preferred stock and junior subordinated debt issued to trusts, and other adjustments. The third tier (Tier 2 Capital) includes instruments such as subordinated debt that have a minimum original maturity of at least five years and are subordinated to the claims of depositors and general creditors, total capital minority interest not included in Tier 1 Capital, and limited amounts of the allowance for loan losses, less applicable regulatory adjustments and deductions. The Bancorp and the Bank are required to maintain a Common Equity Tier 1 Capital ratio of 4.5%, a Tier 1 Capital ratio of 6%, and a Total Capital ratio (comprised of Tier 1 Capital plus Tier 2 Capital) of 8%. In addition, the capital regulations provide for a minimum leverage ratio (Tier 1 capital to adjusted average assets) of 4%.

 

 25 

 

 

The Dodd-Frank Act required the FRB to set minimum capital levels for bank holding companies that are as stringent as those required for insured depository subsidiaries. However, under the FRB’s “Small Bank Holding Company” exemption from consolidated bank holding company capital requirements, bank holding companies and savings and loan holding companies with less than $1 billion in consolidated assets, such as the Bancorp, are exempt from consolidated regulatory capital requirements, unless the FRB determines otherwise in particular cases.

 

During the nine months ended September 30, 2017, the Bancorp’s and Bank’s regulatory capital ratios continued to be negatively impacted by regulatory requirements regarding collateralized debt obligations. The regulatory requirements state that for collateralized debt obligations that have been downgraded below investment grade by the rating agencies, increased risk based asset weightings are required. The Bancorp currently holds four pooled trust preferred securities with a cost basis of $4.9 million. Three of these investments currently have ratings that are below investment grade. As a result, approximately $19.2 million of risk-based assets are generated by the trust preferred securities in the Bancorp’s and Bank’s total risk based capital calculation.

 

The following table shows that, at September 30, 2017, and December 31, 2016, the Bancorp’s capital exceeded all applicable regulatory capital requirements. The dollar amounts are in millions.

 

(Dollars in millions)                  Minimum Required To Be 
           Minimum Required For   Well Capitalized Under Prompt 
   Actual   Capital Adequacy Purposes   Corrective Action Regulations 
At September 30, 2017  Amount   Ratio   Amount   Ratio   Amount   Ratio 
Common equity tier 1 capital to risk-weighted assets  $87.4    13.0%  $30.2    4.5%  $43.7    6.5%
Tier 1 capital to risk-weighted assets  $87.4    13.0%  $40.3    6.0%  $53.8    8.0%
Total capital to risk-weighted assets  $94.4    14.1%  $53.8    8.0%  $67.2    10.0%
Tier 1 capital to adjusted average assets  $87.4    9.6%  $36.5    4.0%  $45.6    5.0%

 

(Dollars in millions)                  Minimum Required To Be 
           Minimum Required For   Well Capitalized Under Prompt 
   Actual   Capital Adequacy Purposes   Corrective Action Regulations 
At December 31, 2016  Amount   Ratio   Amount   Ratio   Amount   Ratio 
Common equity tier 1 capital to risk-weighted assets  $82.4    13.1%  $28.3    4.5%  $40.9    6.5%
Tier 1 capital to risk-weighted assets  $82.4    13.1%  $37.8    6.0%  $50.4    8.0%
Total capital to risk-weighted assets  $90.1    14.3%  $50.4    8.0%  $63.0    10.0%
Tier 1 capital to adjusted average assets  $82.4    9.2%  $36.0    4.0%  $45.0    5.0%

 

 26 

 

  

In addition, the following table shows that, at September 30, 2017, and December 31, 2016, the Bank’s capital exceeded all applicable regulatory capital requirements. The dollar amounts are in millions.

 

(Dollars in millions)                  Minimum Required To Be 
           Minimum Required For   Well Capitalized Under Prompt 
   Actual   Capital Adequacy Purposes   Corrective Action Regulations 
At September 30, 2017  Amount   Ratio   Amount   Ratio   Amount   Ratio 
Common equity tier 1 capital to risk-weighted assets  $85.5    12.7%  $30.2    4.5%  $43.7    6.5%
Tier 1 capital to risk-weighted assets  $85.5    12.7%  $40.3    6.0%  $53.8    8.0%
Total capital to risk-weighted assets  $92.5    13.8%  $53.8    8.0%  $67.2    10.0%
Tier 1 capital to adjusted average assets  $85.5    9.4%  $36.4    4.0%  $45.5    5.0%

 

(Dollars in millions)                  Minimum Required To Be 
           Minimum Required For   Well Capitalized Under Prompt 
   Actual   Capital Adequacy Purposes   Corrective Action Regulations 
At December 31, 2016  Amount   Ratio   Amount   Ratio   Amount   Ratio 
Common equity tier 1 capital to risk-weighted assets  $81.2    12.9%  $28.4    4.5%  $41.0    6.5%
Tier 1 capital to risk-weighted assets  $81.2    12.9%  $37.9    6.0%  $50.5    8.0%
Total capital to risk-weighted assets  $88.9    14.1%  $50.5    8.0%  $63.1    10.0%
Tier 1 capital to adjusted average assets  $81.2    9.0%  $35.9    4.0%  $44.9    5.0%

  

The Bancorp’s ability to pay dividends to its shareholders is primarily dependent upon the Bank’s ability to pay dividends to the Bancorp. Under Indiana law, the Bank may pay dividends from its undivided profits (generally, earnings less losses, bad debts, taxes and other operating expenses) as is considered expedient by the Bank’s Board of Directors. However, the Bank must obtain the approval of the Indiana Department of Financial Institutions (DFI) if the total of all dividends declared by the Bank during the current year, including the proposed dividend, would exceed the sum of retained net income for the year to date plus its retained net income for the previous two years. For this purpose, “retained net income,” means net income as calculated for call report purposes, less all dividends declared for the applicable period. An exemption from DFI approval would require that the Bank have been assigned a composite uniform financial institutions rating of 1 or 2 as a result of the most recent federal or state examination; the proposed dividend would not result in a Tier 1 leverage ratio below 7.5%; and that the Bank not be subject to any corrective action, supervisory order, supervisory agreement, or board approved operating agreement. The aggregate amount of dividends that may be declared by the Bank in 2017, without the need for qualifying for an exemption or prior DFI approval, is $10.2 million plus 2017 net profits. Moreover, the FDIC and the Federal Reserve Board may prohibit the payment of dividends if it determines that the payment of dividends would constitute an unsafe or unsound practice in light of the financial condition of the Bank. On August 25, 2017 the Board of Directors of the Bancorp declared a third quarter dividend of $0.29 per share. The Bancorp’s third quarter dividend was paid to shareholders on October 5, 2017.

 

Results of Operations - Comparison of the Quarter Ended September 30, 2017 to the Quarter Ended September 30, 2016

 

For the quarter ended September 30, 2017, the Bancorp reported net income of $2.2 million, compared to net income of $2.3 million for the quarter ended September 30, 2016, a decrease of $80 thousand (3.4%). For the current quarter the ROA was 0.98%, compared to 1.03% for the quarter ended September 30, 2016. The ROE was 9.80% for the quarter ended September 30, 2017, compared to 10.67% for the quarter ended September 30, 2016.

 

Net interest income for the three months ended September 30, 2017 was $7.8 million, an increase of $190 thousand (2.5%), compared to $7.6 million for the quarter ended September 30, 2016. The weighted-average yield on interest-earning assets was 3.94% for the three months ended September 30, 2017, compared to 3.86% for the three months ended September 30, 2016. The weighted-average cost of funds for the quarter ended September 30, 2017 was 0.32% compared to 0.29% for the quarter ended September 30, 2016. The impact of the 3.94% return on interest earning assets and the 0.32% cost of funds resulted in an interest rate spread of 3.62% for the current quarter, compared to 3.57% for the quarter ended September 30, 2016. Compared to the three months ended September 30, 2016, total interest income increased by $262 thousand (3.2%) while total interest expense increased by $72 thousand (12.3%). The net interest margin on earning assets was 3.63% for the three months ended September 30, 2017, compared to 3.58% for the quarter ended September 30, 2016. On a tax equivalent basis, the Bancorp’s net interest margin was 3.86% for the three months ended September 30, 2017, compared to 3.82% for the quarter ended September 30, 2016. Comparing the net interest margin on a tax equivalent basis more accurately compares the returns on tax-exempt loans and securities to those on taxable interest-earning assets.

 

 27 

 

 

During the three months ended September 30, 2017, interest income from loans increased by $164 thousand (2.5%), compared to the three months ended September 30, 2016. The change was due to an increase in average balances and average rate. The weighted-average yield on loans outstanding was 4.50% for the current quarter, compared to 4.45% for the three months ended September 30, 2016. Loan balances averaged $606.7 million for the current quarter, an increase of $7.2 million (1.2%) from $599.5 million for the three months ended September 30, 2016. During the three months ended September 30, 2017, interest income on securities and other interest bearing balances increased by $98 thousand (6.5%), compared to the quarter ended September 30, 2016. The change was due to an increase in average balances and average rates. The weighted-average yield on securities and other interest bearing balances was 2.56%, for the current quarter, compared to 2.43% for the three months ended September 30, 2016. Securities balances averaged $244.7 million for the current quarter, up $2.1 million (0.9%) from $242.6 million for the three months ended September 30, 2016. Other interest bearing balances averaged $4.8 million for the current period, up $166 thousand (3.6%) from $4.7 million for the three months ended September 30, 2016.

 

Interest expense on deposits increased by $73 thousand (16.4%) during the current quarter compared to the three months ended September 30, 2016. The change was due to an increase in average balances outstanding and an increase in the weighted-average rate paid. The weighted-average rate paid on deposits for the three month period ended September 30, 2017 was 0.27% compared to 0.24% for the three months ended September 30, 2016. Total deposit balances averaged $770.9 million for the current quarter, an increase of $22.8 million (3.0%) from $748.2 million for the quarter ended September 30, 2016. Interest expense on borrowed funds decreased by $1 thousand (0.7%) during the current quarter due to a decrease in average balances compared to the three months ended September 30, 2016. The weighted-average cost of borrowed funds was 1.30% for the current quarter, compared to 1.02% for the three months ended September 30, 2016. Borrowed funds averaged $43.5 million during the quarter ended September 30, 2017, a decrease of $12.0 million (21.6%) from $55.6 million for the quarter ended September 30, 2016. The decrease in borrowed funds is the result of seasonality of inflows of deposits.

 

Noninterest income for the quarter ended September 30, 2017 was $2.1 million, a decrease of $112 thousand (5.1%) from $2.2 million for the quarter ended September 30, 2016. Fees and service charges expense totaled $843 thousand for the current quarter, an increase of $80 thousand (10.5%), compared to $763 thousand for the quarter ended September 30, 2016. The increase in fees and service charges is the result of the Bancorp’s continued focus on maintaining competitive fees within its market place. Fees from wealth management operations totaled $459 thousand for the current quarter, an increase of $36 thousand (8.5%), compared to $423 thousand for the quarter ended September 30, 2016. The increase in wealth management income is related to an increase in the book value of assets under management. Gain on sale of loans held-for-sale, net totaled $412 thousand for the current quarter, a decrease of $167 thousand (28.8%), compared to $579 thousand for the quarter ended September 30, 2016. The decrease in gains from the sale of loans is a result of timing differences in customer demand. Gain on sale of securities, net totaled $213 thousand for the current quarter, a decrease of $70 thousand (24.7%), compared to $283 thousand for the quarter ended September 30, 2016. Current market conditions provided fewer opportunities to maintain securities cash flows, while recognizing gains from the sales of securities. Increase in cash value of bank owned life insurance totaled $119 thousand for the current quarter, an increase of $1 thousand (0.8%), compared to $118 thousand for the quarter ended September 30, 2016. Gain on sale of foreclosed real estate, net totaled $2 thousand for the current quarter, a decrease of $4 thousand (66.7%), compared to $6 thousand for the quarter ended September 30, 2016. Other noninterest income totaled $27 thousand for the current quarter, an increase of $12 thousand (80%), compared to $15 thousand for the quarter ended September 30, 2016.

 

 28 

 

 

Noninterest expense for the quarter ended September 30, 2017 was $6.9 million, an increase of $377 thousand (5.8%) from $6.5 million for the three months ended September 30, 2016. Compensation and benefits expense totaled $4.1 million for the current quarter, an increase of $193 thousand (4.9%), compared to $3.9 million for the quarter ended September 30, 2016.The increase in compensation and benefits is the result of a continued focus on talent management and retention. Occupancy and equipment expense totaled $845 thousand for the current quarter, a decrease of $55 thousand (6.1%), compared to $900 thousand for the quarter ended September 30, 2016.The decrease in occupancy and equipment expense is the result of lower building operating expenses. Data processing expense totaled $364 thousand for the current quarter, an increase of $21 thousand (6.1%), compared to $343 thousand for the quarter ended September 30, 2016. Data processing expense has increased as a result of increased system utilization. Marketing expense totaled $135 thousand for the current quarter, an increase of $27 thousand (25.0%) compared to $108 thousand for the quarter ended September 30, 2016. The Bancorp proactively markets its products, but varies its timing based on projected benefits and needs. Federal deposit insurance premiums expense totaled $84 thousand for the current quarter, a decrease of $51 thousand (37.8%), compared to $135 thousand for the quarter ended September 30, 2016. The decrease was the result of lower FDIC premiums. Other expense totaled $1.4 million for the current quarter, an increase of $242 thousand (20.8%), compared to $1.2 million for the quarter ended September 30, 2016. The increase in other operating expenses is related to generally higher costs related to foreclosure and collection expense as well as higher third party costs. The Bancorp’s efficiency ratio was 70.3% for the quarter ended September 30, 2017, compared to 67.0% for the three months ended September 30, 2016. The increase in the efficiency ratio was a result of lower noninterest income and higher noninterest expense. The ratio is determined by dividing total noninterest expense by the sum of net interest income and total noninterest income for the period.

 

Income tax expenses for the three months ended September 30, 2017 totaled $509 thousand, compared to income tax expense of $631 thousand for the three months ended September 30, 2016, a decrease of $122 thousand (19.3%). The combined effective federal and state tax rates for the Bancorp was 18.5% for the three months ended September 30, 2017, compared to 21.3% for the three months ended September 30, 2016. The Bancorp’s lower current quarter effective tax rate is a result of increasing investment in low income housing projects, increasing investment in the Bancorp’s real estate investment trust, as well as a self-insurance program through a wholly owned captive insurance company.

 

Results of Operations - Comparison of the Nine Months Ended September 30, 2017 to the Nine Months Ended September 30, 2016

 

For the nine months ended September 30, 2017, the Bancorp reported net income of $7.1 million, compared to net income of $6.8 million for the nine months ended September 30, 2016, an increase of $262 thousand (3.8%). For the current nine months the ROA was 1.04%, compared to 1.03% for the nine months ended September 30, 2016. The ROE was 10.54% for the nine months ended September 30, 2017, compared to 10.63% for the nine months ended September 30, 2016.

 

Net interest income for the nine months ended September 30, 2017 was $22.9 million, an increase of $469 thousand (2.1%), compared to $22.5 million for the nine months ended September 30, 2016. The weighted-average yield on interest-earning assets was 3.89% for the nine months ended September 30, 2017, compared to 3.90% for the nine months ended September 30, 2016. The decrease of the weighted-average yield for interest earning assets was affected by approximately $200 thousand dollars of outstanding interest income received from the payoff of one non-accruing commercial real estate loan with a balance of $522 thousand during the first nine months of 2016. The weighted-average cost of funds for the nine months ended September 30, 2017 and September 30, 2016, was 0.30%. The impact of the 3.89% return on interest earning assets and the 0.30% cost of funds resulted in an interest rate spread of 3.59% for the current nine months, compared to 3.60% for the nine months ended September 30, 2016. Compared to the nine months ended September 30, 2016, total interest income increased by $546 thousand (2.3%) while total interest expense increased by $77 thousand (4.4%). The net interest margin for earning assets was 3.60% for the nine months ended September 30, 2017, compared to 3.62% for the nine months ended September 30, 2016. On a tax equivalent basis, the Bancorp’s net interest margin was 3.84% for the nine months ended September 30, 2017, compared to 3.86% for the nine months ended September 30, 2016. Comparing the net interest margin on a tax equivalent basis more accurately compares the returns on tax-exempt loans and securities to those on taxable interest-earning assets.

 

During the nine months ended September 30, 2017, interest income from loans increased by $277 thousand (1.4%), compared to the nine months ended September 30, 2016. The change was primarily due to an increase in average balances. The weighted-average yield on loans outstanding was 4.42% for the current nine months, compared to 4.48% for the nine months ended September 30, 2016. Loan balances averaged $600.7 million for the current nine months, an increase of $16.4 million (2.8%) from $584.3 million for the nine months ended September 30, 2016. During the nine months ended September 30, 2017, interest income on securities and other interest bearing balances increased by $269 thousand (5.9%), compared to the nine months ended September 30, 2016. The increase was due to an increase in weighted-average balances and weighted-average yield. The weighted-average yield on securities and other interest bearing balances was 2.60%, for the current nine months, compared to 2.53% for the nine months ended September 30, 2016. Securities balances averaged $241.4 million for the current nine months, up $995 thousand (0.4%) from $240.4 million for the nine months ended September 30, 2016. Other interest bearing balances averaged $7.0 million for the current period, up $3.3 million (89.2%) from $3.7 million for the nine months ended September 30, 2016.

 

 29 

 

 

Interest expense on deposits increased by $160 thousand (12.2%) during the current nine months compared to the nine months ended September 30, 2016. The change was due to an increase in average balances and the weighted-average rate paid on deposits. The weighted-average rate paid on deposits for the nine months ended September 30, 2017 was 0.26%, compared to 0.24%, for the nine months ended September 30, 2016. Total deposit balances averaged $770.1 million for the current nine months, up $41.6 million (5.7%) from $728.5 million for the nine months ended September 30, 2016. Interest expense on borrowed funds decreased by $83 thousand (18.7%) during the current nine months due to lower average balances, as compared to the nine months ended September 30, 2016. The weighted-average cost of borrowed funds was 1.22% for the current nine months, compared to 1.00% for the nine months ended September 30, 2016. Borrowed funds averaged $39.6 million during the nine months ended September 30, 2017, a decrease of $19.3 million (32.8%) from $58.9 million for the nine months ended September 30, 2016. The decrease was a result of timing in customer deposits and withdrawals for the period.

 

Noninterest income for the nine months ended September 30, 2017 was $5.8 million, an increase of $125 thousand (2.2%) from $5.7 million for the nine months ended September 30, 2016. During the current nine months, fees and service charges totaled $2.4 million, an increase of $261 thousand (12.2%) from $2.1 million for the nine months ended September 30, 2016. The increase in fees and service charges is the result of the Bancorp’s continued focus on maintaining competitive fees within its market place. Fees from wealth management operations totaled $1.27 million for the nine months ended September 30, 2017, a decrease of $13 thousand (1.0%) from $1.28 million for the nine months ended September 30, 2016. The decrease in wealth management income is related to book value changes in assets under management. Gains from loan sales totaled $883 thousand for the current nine months, a decrease of $237 thousand (21.2%), compared to $1.1 million for the nine months ended September 30, 2016. The decrease in gains from the sale of loans is a result of timing differences in customer demand. Gains from the sale of securities totaled $758 thousand for the current nine months, an increase of $58 thousand (8.3%) from $700 thousand for the nine months ended September 30, 2016. Current market conditions during the nine months provided opportunities to manage securities cash flows, while recognizing gains from the sales of securities. Income from an increase in the cash value of bank owned life insurance totaled $349 thousand for the nine months ended September 30, 2017, a decrease of $5 thousand (1.4%), compared to $354 thousand for the nine months ended September 30, 2016. Gains on foreclosed real estate totaled $95 thousand for the nine months ended September 30, 2017, an increase of $15 thousand (18.8%) from $80 thousand in gains for the nine months ended September 30, 2016. Other noninterest income totaled $64 thousand for the nine months ended September 30, 2017, an increase of $46 thousand (255.6%) from $18 thousand for the nine months ended September 30, 2016. The increase in other noninterest income is the result of rental income from foreclosed real estate.

 

Noninterest expense for the nine months ended September 30, 2017 was $19.3 million, an increase of $658 thousand (3.5%) from $18.6 million for the nine months ended September 30, 2016. During the current nine months, compensation and benefits totaled $10.8 million, an increase of $313 thousand (3.0%) from $10.5 million for the nine months ended September 30, 2016. The increase in compensation and benefits is the result of a continued focus on talent management. Occupancy and equipment totaled $2.5 million for the current nine months, a decrease of $226 thousand (8.2%), compared to $2.8 million for the nine months ended September 30, 2016. The decrease in occupancy and equipment expense is the result of lower building operating expenses. Data processing expense totaled $1.1 million for the nine months ended September 30, 2017, an increase of $87 thousand (8.7%) from $1.0 million for the nine months ended September 30, 2016. Data processing expense has increased as a result of increased system utilization. Marketing expense related to banking products totaled $469 thousand for the current nine months, an increase of $117 thousand (33.2%) from $352 thousand for the nine months ended September 30, 2016. The Bancorp continues to proactively market its products, but varies its timing based on projected benefits and needs. Federal deposit insurance premium expense totaled $242 thousand for the nine months ended September 30, 2017, a decrease of $161 thousand (40.0%) from $403 thousand for the nine months ended September 30, 2016. The decrease was the result of lower FDIC premiums. Other expenses related to banking operations totaled $4.1 million for the nine months ended September 30, 2017, an increase of $528 thousand (14.9%) from $3.5 million for the nine months ended September 30, 2016. The increase in other operating expenses is related to generally higher cost related to foreclosure and collection expense as well as higher third party costs. The Bancorp’s efficiency ratio was 66.9% for the nine months ended September 30, 2017, compared to 66.0% for the nine months ended September 30, 2016. The efficiency ratio increased as a result of higher noninterest expense. The ratio is determined by dividing total noninterest expense by the sum of net interest income and total noninterest income for the period.

 

 30 

 

 

Income tax expenses for the nine months ended September 30, 2017 totaled $1.7 million, compared to income tax expense of $1.9 million for the nine months ended September 30, 2016, a decrease of $202 thousand (10.5%). The combined effective federal and state tax rates for the Bancorp was 19.5% for the nine months ended September 30, 2017, compared to 22.0% for the nine months ended September 30, 2016. The Bancorp’s lower current nine month effective tax rate is a result of increasing investment in low income housing projects, increasing investment in the Bancorp’s real estate investment trust, as well as a self-insurance program through a wholly owned captive insurance company.

 

Critical Accounting Policies

 

Critical accounting policies are those accounting policies that management believes are most important to the portrayal of the Bancorp’s financial condition and that require management’s most difficult, subjective or complex judgments. The Bancorp’s critical accounting policies from December 31, 2016 remain unchanged.

 

Forward-Looking Statements

 

Statements contained in this report that are not historical facts are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. The words or phrases “would be,” “will allow,” “intends to,” “will likely result,” “are expected to,” “will continue,” “is anticipated,” “estimate,” “project,” or similar expressions are also intended to identify “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act. The Bancorp cautions readers that forward-looking statements, including without limitation those relating to the Bancorp’s future business prospects, interest income and expense, net income, liquidity, and capital needs are subject to certain risks and uncertainties that could cause actual results to differ materially from those indicated in the forward-looking statements, due to, among other things, factors identified in this report, including those identified in the Bancorp’s 2016 Form 10-K.

 

Item 3. Quantitative and Qualitative Disclosures About Market Risk

 

Not Applicable.

 

Item 4. Controls and Procedures

 

(a)Evaluation of Disclosure Controls and Procedures.

 

The Bancorp maintains disclosure controls and procedures (as defined in Sections 13a – 15(e) and 15d – 15(e)) of regulations promulgated under the Securities Exchange Act of 1934 (the “Exchange Act”) that are designed to ensure that information required to be disclosed by the Bancorp in the reports that it files or submits under the "Exchange Act" is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms. These disclosure controls and procedures include controls and procedures designed to ensure that information required to be disclosed by the Bancorp in the reports that it files or submits under the Exchange Act is accumulated and communicated to the Bancorp's management, including its principal executive officer and principal financial officer, as appropriate to allow timely decisions regarding required disclosure. The Bancorp's chief executive officer and chief financial officer evaluate the effectiveness of the Bancorp's disclosure controls and procedures as of the end of each quarter. Based on that evaluation as of September 30, 2017, the Bancorp’s chief executive officer and chief financial officer have concluded that such disclosure controls and procedures were effective as of that date in ensuring that information required to be disclosed by the Bancorp under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms.

 

(b)Changes in Internal Control Over Financial Reporting.

 

There was no change in the Bancorp's internal control over financial reporting identified in connection with the Bancorp’s evaluation of controls that occurred during the nine months ended September 30, 2017 that has materially affected, or is reasonably likely to materially affect, the Bancorp's internal control over financial reporting.

 

 31 

 

 

PART II - Other Information

 

Item 1.Legal Proceedings

 

There are no matters reportable under this item.

 

Item 1A.Risk Factors

 

Not Applicable.

 

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

 

On April 24, 2014 the Bancorp’s Board of Directors authorized a stock repurchase program to repurchase up to 50,000 shares of the Bancorp’s outstanding common stock, from time to time and subject to market conditions, on the open market or in privately negotiated transactions. The stock repurchase program does not expire and is only limited by the number of shares that can be purchased. The stock repurchase program will be reviewed annually by the Board of Directors. No shares were repurchased during the nine months ended September 30, 2017 under the stock repurchase program.

 

          Total Number of Shares   Maximum Number of 
          Purchased as Part of   Shares That May Yet 
   Total Number   Average Price  Publicly Announced   Be Purchased Under 
Period  of Shares Purchased   Paid per Share  Plans or Programs   the Program(1) 
January 1, 2017 - January 31, 2017   -   N/A   -    48,828 
February 1, 2017 - February 28, 2017   -   N/A   -    48,828 
March 1, 2017 - March 31, 2017   -   N/A   -    48,828 
April 1, 2017 - April 30, 2017   -   N/A   -    48,828 
May 1, 2017 - May 31, 2017   -   N/A   -    48,828 
June 1, 2017 - June 30, 2017   -   N/A   -    48,828 
July 1, 2017 - July 31, 2017   -   N/A   -    48,828 
August 1, 2017 - August 31, 2017   -   N/A   -    48,828 
September 1, 2017 - September 30, 2017   -   N/A   -    48,828 
    -   N/A   -    48,828 

  

(1)The stock repurchase program was announced on April 24, 2014, whereby the Bancorp is authorized to repurchase up to 50,000 shares of the Bancorp’s common stock outstanding. There is no express expiration date for this program.

 

Item 3.Defaults Upon Senior Securities

 

There are no matters reportable under this item.

 

Item 4.Mine Safety Disclosures

 

Not Applicable.

 

Item 5.Other Information

 

There are no matters reportable under this item.

 

Item 6.Exhibits

 

  Exhibit  
  Number Description
     
  10.1 Employment Agreement between NorthWest Indiana Bancorp, Peoples Bank SB, and Benjamin J. Bochnowski dated August 1, 2017 (incorporated by reference to Exhibit 10.1 to the registrant’s Current Report on Form 8-K filed on August 4, 2017).
  31.1 Rule 13a-14(a)/15d-14(a) Certification of Chief Executive Officer.
  31.2 Rule 13a-14(a)/15d-14(a) Certification of Chief Financial Officer.
  32.1 Section 1350 Certifications.
  101 The following materials from the Bancorp’s Form 10-Q for the quarterly period ended September 30, 2017, formatted in an XBRL Interactive Data File: (i) Consolidated Balance Sheets; (ii) Consolidated Statements of Income; (iii) Consolidated Statements of Changes in Stockholders’ Equity; (iv) Consolidated Statement of Comprehensive Income; (v) Consolidated Statements of Cash Flows; and (vi) Notes to Consolidated Financial Statements, with detailed tagging of notes and financial statement schedules.

 

 32 

 

  

SIGNATURES

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

  NORTHWEST INDIANA BANCORP
   
Date: October 23, 2017 /s/ Benjamin J. Bochnowski
  Benjamin J. Bochnowski
  President and Chief Executive Officer
   
Date: October 23, 2017 /s/ Robert T. Lowry
  Robert T. Lowry
  Executive Vice President, Chief Financial
  Officer and Treasurer

 

 33