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EX-32 - FIRST COMMUNITY CORP /SC/e17490_ex32.htm
EX-31.2 - FIRST COMMUNITY CORP /SC/e17490_ex31-2.htm
EX-31.1 - FIRST COMMUNITY CORP /SC/e17490_ex31-1.htm

 

UNITED STATES

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
  
oTransition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the transition period from ____ to ____

  

Commission File No. 000-28344

 

FIRST COMMUNITY CORPORATION
(Exact name of registrant as specified in its charter)
 
South Carolina 57-1010751

(State or other jurisdiction of incorporation

or organization)

(I.R.S. Employer Identification No.)

 

5455 Sunset Boulevard, Lexington, South Carolina 29072

(Address of principal executive offices) (Zip Code)

 

(803) 951-2265

(Registrant’s telephone number, including area code)

 

(Former name, former address and former fiscal year, if changed since last report)

 

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

 

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).     x Yes   No o

 

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

 

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

 

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. o

 

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

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date: On November 6, 2017, 6,706,406 shares of the issuer’s common stock, par value $1.00 per share, were issued and outstanding.

 
 

TABLE OF CONTENTS

     
PART I - FINANCIAL INFORMATION 3
Item 1.   Financial Statements 3
  Consolidated Balance Sheets 3
  Consolidated Statements of Income 4
  Consolidated Statements of Comprehensive Income 6
  Consolidated Statements of Changes in Shareholders’ Equity 7
  Consolidated Statements of Cash Flows 8
  Notes to Consolidated Financial Statements 9
Item 2.   Management’s Discussion and Analysis of Financial Condition and Results of Operations 42
Item 3.   Quantitative and Qualitative Disclosures About Market Risk   61
Item 4.   Controls and Procedures 61
     
PART II – OTHER INFORMATION 62
Item 1.   Legal Proceedings 62
Item 1A. Risk Factors 62
Item 2.   Unregistered Sales of Equity Securities and Use of Proceeds 62
Item 3.   Defaults Upon Senior Securities 62
Item 4.   Mine Safety Disclosures 62
Item 5.   Other Information 62
Item 6.   Exhibits 62
   
SIGNATURES 63
INDEX TO EXHIBITS  
EX-31.1 RULE 13A-14(A) CERTIFICATION OF PRINCIPAL EXECUTIVE OFFICER  
EX-31.2 RULE 13A-14(A) CERTIFICATION OF PRINCIPAL FINANCIAL OFFICER  
EX-32 SECTION 1350 CERTIFICATIONS  

2
 

PART I - FINANCIAL INFORMATION

Item 1. Financial Statements

 

FIRST COMMUNITY CORPORATION
CONSOLIDATED BALANCE SHEETS
 
   September 30,     
(Dollars in thousands, except par value)  2017   December 31, 
   (Unaudited)   2016 
ASSETS          
Cash and due from banks  $11,695   $11,925 
Interest-bearing bank balances   14,792    9,475 
Federal funds sold and securities purchased under agreements to resell   601    599 
Investment securities - held-to-maturity   17,057    17,193 
Investment securities - available-for-sale   229,060    253,394 
Other investments, at cost   2,555    1,809 
Loans held for sale   6,018    5,707 
Loans   568,488    546,709 
Less,  allowance for loan losses   5,656    5,214 
   Net loans   562,832    541,495 
Property, furniture and equipment - net   31,343    29,833 
Land held for sale       1,055 
Bank owned life insurance   22,855    20,905 
Other real estate owned   733    1,146 
Intangible assets   878    1,102 
Goodwill   5,078    5,078 
Other assets   8,731    14,077 
    Total assets  $914,228   $914,793 
LIABILITIES          
Deposits:          
  Non-interest bearing  $195,348   $182,915 
  Interest bearing   574,734    583,707 
     Total deposits   770,082    766,622 
Securities sold under agreements to repurchase   17,469    19,527 
Federal Home Loan Bank advances   17,255    24,035 
Junior subordinated debt   14,964    14,964 
Other liabilities   7,863    7,784 
    Total liabilities   827,633    832,932 
SHAREHOLDERS’ EQUITY          
Preferred stock, par value $1.00 per share, 10,000,000  shares authorized; none issued and outstanding        
Common stock, par value $1.00 per share; 10,000,000 shares authorized; issued and outstanding 6,706,406 at September 30, 2017 6,708,393 at December 31, 2016   6,706    6,708 
Common stock warrants issued   46    46 
Nonvested restricted stock   (158)   (220)
Additional paid in capital   75,960    75,991 
Retained earnings   4,088    573 
Accumulated other comprehensive loss   (47)   (1,237)
    Total shareholders’ equity   86,595    81,861 
    Total liabilities and shareholders’ equity  $914,228   $914,793 

 

See Notes to Consolidated Financial Statements

3
 
FIRST COMMUNITY CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
 
   Nine   Nine 
   Months Ended   Months Ended 
   September 30,   September 30, 
   2017   2016 
(Dollars in thousands)  (Unaudited)   (Unaudited) 
Interest income:          
  Loans, including fees  $19,003   $17,582 
  Taxable securities   2,924    2,903 
  Non-taxable securities   1,395    1,428 
  Other   94    83 
       Total interest income   23,416    21,996 
Interest expense:          
  Deposits   1,341    1,358 
          
  Federal funds sold and securities sold under agreement to repurchase   45    32 
  Other borrowed money   694    941 
      Total interest expense   2,080    2,331 
Net interest income   21,336    19,665 
Provision for loan losses   360    536 
Net interest income after provision for loan losses   20,976    19,129 
Non-interest income:          
  Deposit service charges   1,047    1,064 
  Mortgage banking income   2,950    2,515 
  Investment advisory fees and non-deposit commissions   908    871 
  Gain on sale of securities   350    601 
  Gain (loss) on sale of other assets   128    (36)
  Loss on early extinguishment of debt   (446)   (459)
  Other   2,108    2,184 
      Total non-interest income   7,045    6,740 
Non-interest expense:          
  Salaries and employee benefits   12,469    11,472 
  Occupancy   1,598    1,601 
  Equipment   1,348    1,308 
  Marketing and public relations   615    529 
  FDIC assessments   234    336 
  Other real estate expense   75    187 
  Amortization of intangibles   223    243 
  Merger expenses   326     
  Other   4,096    3,582 
      Total non-interest expense   20,984    19,258 
Net income before tax   7,037    6,611 
Income taxes   1,724    1,721 
Net income  $5,313   $4,890 
           
Basic earnings per common share  $0.80   $0.74 
Diluted earnings per common share  $0.78   $0.72 

 

See Notes to Consolidated Financial Statements

4
 

FIRST COMMUNITY CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
 
   Three   Three 
   Months Ended   Months Ended 
   September 30,   September 30, 
   2017   2016 
(Dollars in thousands, except per share amounts)  (Unaudited)   (Unaudited) 
Interest income:          
  Loans, including fees  $6,438   $5,977 
  Taxable securities   989    944 
  Non-taxable securities   453    445 
  Other   41    34 
       Total interest income   7,921    7,400 
Interest expense:          
  Deposits   459    465 
  Federal funds sold and securities sold under agreement to repurchase   24    12 
  Other borrowed money   211    272 
      Total interest expense   694    749 
Net interest income   7,227    6,651 
Provision for loan losses   166    179 
Net interest income after provision for loan losses   7,061    6,472 
Non-interest income:          
  Deposit service charges   379    377 
  Mortgage banking income   1,032    937 
  Investment advisory fees and non-deposit commissions   336    283 
  Gain on sale of securities   124    478 
  Gain on sale of other assets   40    45 
  Loss on early extinguishment of debt   (165)   (459)
  Other   676    726 
      Total non-interest income   2,422    2,387 
Non-interest expense:          
  Salaries and employee benefits   4,122    3,888 
  Occupancy   532    531 
  Equipment   396    442 
  Marketing and public relations   96    240 
  FDIC assessment   78    60 
  Other real estate expense   19    115 
  Amortization of intangibles   74    80 
  Merger expenses   228     
  Other   1,349    1,227 
      Total non-interest expense   6,894    6,583 
Net income before tax   2,589    2,276 
Income taxes   696    599 
Net income  $1,893   $1,677 
           
Basic earnings per common share  $0.28   $0.26 
Diluted earnings per common share  $0.28   $0.25 

 

See Notes to Consolidated Financial Statements

5
 

FIRST COMMUNITY CORPORATION
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Unaudited)

 

(Dollars in thousands)  Nine months ended
September 30,
 
  2017   2016 
Net income  $5,313   $4,890 
           
Other comprehensive income:          
Unrealized gain during the period on available-for-sale securities, net of taxes of $732 and $1,085, respectively   1,421    2,106 
           
Less: Reclassification adjustment for gain included in net income, net of taxes of $119 and $204, respectively   (231)   (397)
           
Other comprehensive income   1,190    1,709 
Comprehensive income  $6,503   $6,599 

 

(Dollars in thousands)  Three months ended
September 30,
 
   2017   2016 
Net income  $1,893   $1,677 
           
Other comprehensive income:          
Unrealized gain (loss) during the period on available-for-sale securities, net of taxes of $94 and $509, respectively   181    (989)
           
Less: Reclassification adjustment for gain included in net income, net of taxes of $42 and $163, respectively   (82)   (315)
           
Other comprehensive income (loss)   99    (1,304)
Comprehensive income  $1,992   $373 

  

See Notes to Consolidated Financial Statements

6
 

FIRST COMMUNITY CORPORATION

Consolidated Statements of Changes in Shareholders’ Equity

Nine Months ended September 30, 2017 and September 30, 2016

(Unaudited)

 

(Dollars and shares in thousands)                 Accumulated     
           Common   Additional   Nonvested   Retained   Other     
   Shares   Common   Stock   Paid-in   Restricted   Earnings   Comprehensive     
   Issued   Stock   Warrants   Capital   Stock   (Deficit)   Income (Loss)   Total 
Balance, December 31, 2015   6,690   $6,690   $46   $75,761   $(297)  $(3,992)  $830   $79,038 
  Net income                            4,890         4,890 
  Other comprehensive income
net of tax of $881
                                 1,709    1,709 
Issuance of restricted stock   22    22         275    (297)              
Restricted shares surrendered   (26)   (26)        (327)                  (353)
Issuance of common stock   1    1         13                   14 
Amortization compensation restricted stock                       281              281 
Dividends: Common
($0.24 per share)
                            (1,586)        (1,586)
Dividend reinvestment plan   16    16         199                   215 
Balance, September 30, 2016   6,703   $6,703   $46   $75,921   $(313)  $(688)  $2,539   $84,208 
                                         
Balance December 31, 2016   6,708   $6,708   $46   $75,991   $(220)  $573   $(1,237)  $81,861 
Net income                            5,313         5,313 
Other comprehensive income
net of tax of $613
                                 1,190    1,190 
Issuance of restricted stock   5    5         100    (105)              
Shares forfeited   (2)   (2)        (27)   9              (20)
Shares retired   (19)   (19)        (369)                  (388)
Amortization compensation restricted stock                       158              158 
Dividends: Common
($0.27 per share)
                            (1,798)        (1,798)
Dividend reinvestment plan   14    14         265                   279 
Balance, September 30, 2017   6,706   $6,706   $46   $75,960   $(158)  $4,088   $(47)  $86,595 

  

See Notes to Consolidated Financial Statements

7
 
FIRST COMMUNITY CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)

 

   Nine months ended
September 30,
 
(Dollars in thousands)  2017   2016 
Cash flows from operating activities:          
Net income  $5,313   $4,890 
Adjustments to reconcile net income to net cash provided from operating activities:          
       Depreciation   1,075    994 
       Premium amortization   2,449    3,044 
       Provision for loan losses   360    536 
       Write-down of other real estate owned   17    76 
       (Gain) loss on sale of other real estate owned   (128)   36 
       Origination of  loans held-for-sale   (80,340)   (71,169)
       Sale of loans held-for-sale   80,029    69,880 
       Amortization of intangibles   223    243 
       Accretion on acquired loans   (138)   (804)
       Writedown of land held for sale   90    25 
       Gain on sale of securities   (350)   (601)
       Loss on extinguishment of debt   446    459 
       Decrease in other assets   4,042    343 
       Increase in other liabilities   78    144 
         Net cash provided from operating activities   13,166    8,096 
Cash flows from investing activities:          
 Purchase of investment securities available-for-sale   (15,350)   (64,059)
 Maturity/call of investment securities available-for-sale   25,761    26,553 
 Proceeds from sale of securities available-for-sale   12,867    33,215 
 Proceeds from sale of other securities   357    486 
 Increase in loans   (21,787)   (34,052)
 Proceeds from sale of other real estate owned   530    1,597 
 Purchase of property and equipment   (2,675)   (1,016)
         Net cash used in investing activities   (297)   (37,275)
Cash flows from financing activities:          
 Increase in deposit accounts   3,473    49,711 
 Increase (decrease) in securities sold under agreements to repurchase   (2,058)   1,199 
 Advances from the Federal Home Loan Bank   26,000    70,593 
 Repayment of advances from Federal Home Loan Bank   (33,268)   (74,860)
 Issuance of common stock       14 
 Shares forfeited   (20)    
 Shares retired   (388)   (353)
 Dividends paid:  Common Stock   (1,798)   (1,586)
 Dividend reinvestment plan   279    215 
        Net cash (used) provided from financing activities   (7,780)   44,933 
Net increase in cash and cash equivalents   5,089    15,754 
Cash and cash equivalents at beginning of period   21,999    22,941 
Cash and cash equivalents at end of period  $27,088   $38,695 
Supplemental disclosure:          
 Cash paid during the period for:          
   Interest  $2,162   $2,395 
   Income taxes  $1,095   $1,345 
 Non-cash investing and financing activities:          
   Unrealized gain on securities, net of tax  $1,190   $1,709 
   Transfer of loans to foreclosed property  $26   $450 

 

See Notes to Consolidated Financial Statements

8
 

Notes to Consolidated Financial Statements (Unaudited)

 

Note 1 - Basis of Presentation

 

In the opinion of management, the accompanying unaudited consolidated balance sheets, and the consolidated statements of income, comprehensive income, changes in shareholders’ equity, and the cash flows of First Community Corporation (the “Company”), present fairly in all material respects the Company’s financial position at September 30, 2017 and December 31, 2016, and the Company’s results of operations and cash flows for the three and nine months ended September 30, 2017 and 2016. The results of operations for the three and nine months ended September 30, 2017 are not necessarily indicative of the results that may be expected for the year ending December 31, 2017.

 

In the opinion of management, all adjustments necessary to fairly present the consolidated financial position and consolidated results of operations have been made. All such adjustments are of a normal, recurring nature. All significant intercompany accounts and transactions have been eliminated in consolidation. The consolidated financial statements and notes thereto are presented in accordance with the instructions for Form 10-Q. The information included in the Company’s 2016 Annual Report on Form 10-K should be referred to in connection with these unaudited interim financial statements.   

9
 

Note 2 – Earnings Per Common Share

 

The following reconciles the numerator and denominator of the basic and diluted earnings per common share computation:

 

(In thousands except average market price)                
   Nine months   Three months 
   Ended September 30,    Ended September 30, 
   2017   2016   2017   2016 
                 
Numerator (Net income)  $5,313   $4,890   $1,893   $1,677 
Denominator                    
Weighted average common shares outstanding for:                    
Basic earnings per share   6,666    6,583    6,666    6,584 
Dilutive securities:                    
Deferred compensation   54    39    54    38 
Warrants/Restricted stock – Treasury stock method                    
    88    152    88    147 
Diluted earnings per share   6,808    6,774    6,808    6,769 
The average market price used in calculating assumed number of shares  $20.59   $14.29   $20.66   $14.00 

   

There were no options outstanding as of September 30, 2017 and 2016.

 

In the fourth quarter of 2011, we issued $2.5 million in 8.75% subordinated notes maturing December 16, 2019. On November 15, 2012, the subordinated notes were redeemed in full at par. Warrants for 107,500 shares of common stock at $5.90 per share were issued in connection with the issuance of the subordinated debt. There were 97,180 warrants outstanding at September 30, 2017. These warrants expire December 16, 2019 and are included in dilutive securities in the table above.

 

The Company has issued a total of 138,000 shares of restricted stock under the terms of its compensation plans and employment agreements. The employee shares cliff vest over a three year period; the non-employee director shares vest one year after issuance. The unrecognized compensation cost at September 30, 2017 for non-vested shares amounts to $158 thousand. In February 2017, the Company issued 353 restricted stock units to an employee that cliff vest over three years. Each unit is convertible into one share of common stock at the time the units vest. The related compensation cost is accrued over the vesting period.

 

In 2006, the Company established a Non-Employee Director Deferred Compensation Plan, whereby a director may elect to defer all or any part of annual retainer and monthly meeting fees payable with respect to service on the board of directors or a committee of the board. Units of common stock are credited to the director’s account at the time compensation is earned and are included in dilutive securities in the table above. At September 30, 2017 and December 31, 2016, there were 108,577 and 101,888 units in the plan, respectively. The accrued liability at September 30, 2017 and December 31, 2016 amounted to $1.1 million and $966 thousand, respectively, and is included in “Other liabilities” on the balance sheet.

10
 

Note 3—Investment Securities-continued

 

The amortized cost and estimated fair values of investment securities are summarized below:

AVAILABLE-FOR-SALE:

       Gross   Gross     
   Amortized   Unrealized   Unrealized     
(Dollars in thousands)  Cost   Gains   Losses   Fair Value 
September 30, 2017                    
US Treasury securities  $1,531   $   $10   $1,521 
Government sponsored enterprises   959    37        996 
Mortgage-backed securities   124,437    459    1,148    123,748 
Small Business Administration pools   50,653    189    477    50,365 
State and local government   50,738    1,419    583    51,574 
Corporate and other securities   932        76    856 
   $229,250   $2,104   $2,294   $229,060 

 

       Gross   Gross     
   Amortized   Unrealized   Unrealized     
(Dollars in thousands)  Cost   Gains   Losses   Fair Value 
December 31, 2016                    
US Treasury securities  $1,538   $   $18   $1,520 
Government sponsored enterprises   959    38        997 
Mortgage-backed securities   145,696    480    1,878    144,298 
Small Business Administration pools   50,560    208    584    50,184 
State and local government   54,702    907    1,075    54,534 
Corporate and other securities   1,932        71    1,861 
   $255,387   $1,633   $3,626   $253,394 
11
 

Note 3—Investment Securities-continued

HELD-TO-MATURITY:

       Gross   Gross     
   Amortized   Unrealized   Unrealized     
(Dollars in thousands)  Cost   Gains   Losses   Fair Value 
September 30, 2017                    
State and local government  $17,057   $289   $2   $17,344 
   $17,057   $289   $2   $17,344 

  

       Gross   Gross     
   Amortized   Unrealized   Unrealized     
(Dollars in thousands)  Cost   Gains   Losses   Fair Value 
December 31, 2016                    
State and local government  $17,193   $54   $133   $17,114 
   $17,193   $54   $133   $17,114 

  

During the nine months ended September 30, 2017 and 2016, the Company received proceeds of $12.9 million and $33.2 million, respectively, from the sale of investment securities available-for-sale.  For the nine months ended September 30, 2017, gross realized gains totaled $371 thousand and gross realized losses totaled $21 thousand.  For the nine months ended September 30, 2016, gross realized gains totaled $601 thousand and there were no gross realized losses.  During the three months ended September 30, 2017, the Company received proceeds of $2.3 million from the sale of investment securities available-for-sale, gross realized gains totaled $125 thousand and there were no gross realized losses.  During the three months ended September 30, 2016, the Company received proceeds of $19.1 million from the sale of investment securities available-for-sale, gross realized gains totaled $478 thousand and there were no gross realized losses. 

 

At September 30, 2017, corporate and other securities available-for-sale included the following at fair value: mutual funds at $795.8 thousand and foreign debt of $60.0 thousand. At December 31, 2016, corporate and other securities available-for-sale included the following at fair value: mutual funds at $801.1 thousand, foreign debt of $60.1 thousand, and corporate preferred stock in the amount of $1.0 million. Other investments, at cost, include Federal Home Loan Bank (“FHLB”) stock in the amount of $1.6 million and corporate stock in the amount of $1.0 million at September 30, 2017. The Company held $1.8 million of FHLB stock at December 31, 2016.

12
 

Note 3—Investment Securities – continued

 

The following tables show gross unrealized losses and fair values, aggregated by investment category and length of time that individual securities have been in a continuous loss position, at September 30, 2017 and December 31, 2016.

 

(Dollars in thousands)  Less than 12 months   12 months or more   Total 
September 30, 2017      Unrealized       Unrealized       Unrealized 
Available-for-sale securities:  Fair Value   Loss   Fair Value   Loss   Fair Value   Loss 
                         
US Treasury securities  $1,521   $10   $   $   $1,521   $10 
Government Sponsored Enterprise mortgage-backed securities   28,950    219    37,271    929    66,221    1,148 
Small Business Administration pools   14,931    100    23,307    377    38,238    477 
State and local government   884    10    12,341    573    13,225    583 
Corporate and other securities           796    76    796    76 
   $46,286   $339   $73,715   $1,955   $120,001   $2,294 
             
(Dollars in thousands)  Less than 12 months   12 months or more   Total 
September 30, 2017      Unrealized       Unrealized       Unrealized 
Held-to-maturity securities:  Fair Value   Loss   Fair Value   Loss   Fair Value   Loss 
State and local government  $680   $2   $   $   $680   $2 

13
 

Note 3—Investment Securities – continued

 

(Dollars in thousands)  Less than 12 months   12 months or more   Total 
December 31, 2016      Unrealized       Unrealized       Unrealized 
Available-for-sale securities:  Fair Value   Loss   Fair Value   Loss   Fair Value   Loss 
                         
US Treasury securities  $1,520   $18   $   $   $1,520   $18 
Government Sponsored Enterprise mortgage-backed securities   77,389    1,597    16,655    281    94,044    1,878 
Small Business Administration pools   15,213    206    23,382    378    38,595    584 
State and local government   17,502    1,075            17,502    1,075 
Corporate and other securities           801    71    801    71 
   $111,624   $2,896   $40,838   $730   $152,462   $3,626 
             
(Dollars in thousands)  Less than 12 months   12 months or more   Total 
December 31, 2016      Unrealized       Unrealized       Unrealized 
Held-to-maturity securities:  Fair Value   Loss   Fair Value   Loss   Fair Value   Loss 
State and local government  $10,245   $133   $   $   $10,245   $133 

  

Government Sponsored Enterprise, Mortgage-Backed Securities: The Company owned mortgage-backed securities (“MBSs”), including collateralized mortgage obligations (“CMOs”), issued by government sponsored enterprises (“GSEs”) with an amortized cost of $124.2 million and $145.3 million and approximate fair value of $123.5 million and $143.9 million at September 30, 2017 and December 31, 2016, respectively. As of September 30, 2017 and December 31, 2016, all of the MBSs issued by GSEs were classified as “Available for Sale.” Unrealized losses on certain of these investments are not considered to be “other than temporary,” and we have the intent and ability to hold these until they mature or recover the current book value. The contractual cash flows of the investments are guaranteed by the GSE. Accordingly, it is expected that the securities would not be settled at a price less than the amortized cost of the Company’s investment. Because the Company does not intend to sell these securities and it is more likely than not the Company will not be required to sell these securities before a recovery of its amortized cost, which may be maturity, the Company does not consider the investments to be other-than-temporarily impaired at September 30, 2017.

Non-agency Mortgage Backed Securities: The Company held private label mortgage-backed securities (“PLMBSs”), including CMOs, at September 30, 2017 with an amortized cost of $216.3 thousand and approximate fair value of $221.7 thousand. The Company held PLMBSs, including CMOs, at December 31, 2016 with an amortized cost of $427.2 thousand and approximate fair value of $436.5 thousand. Management monitors each of these securities on a quarterly basis to identify any deterioration in the credit quality, collateral values and credit support underlying the investments.

State and Local Governments and Other: Management monitors these securities on a quarterly basis to identify any deterioration in the credit quality. Included in the monitoring is a review of the credit rating, a financial analysis and certain demographic data on the underlying issuer. The Company does not consider these securities to be other-than-temporarily impaired at September 30, 2017.

14
 

Note 3—Investment Securities – continued

 

The following sets forth the amortized cost and fair value of investment securities at September 30, 2017 by contractual maturity. Expected maturities differ from contractual maturities because borrowers may have the right to call or prepay the obligations with or without prepayment penalties. MBSs are based on average life at estimated prepayment speeds.

  

September 30, 2017  Available-for-sale   Held-to-maturity 
   Amortized   Fair   Amortized   Fair 
(Dollars in thousands)  Cost   Value   Cost   Value 
Due in one year or less  $9,254   $9,308   $   $ 
Due after one year through five years   119,813    120,124    7,939    8,051 
Due after five years through ten years   92,654    92,222    9,118    9,293 
Due after ten years   7,529    7,406         
   $229,250   $229,060   $17,057   $17,344 
15
 

Note 4—Loans

 

Loans summarized by category as of September 30, 2017, December 31, 2016 and September 30, 2016 are as follows:

   September 30,   December 31,   September 30, 
(Dollars in thousands)  2017   2016   2016 
Commercial, financial, agricultural  $44,917   $42,704   $38,790 
Real estate:               
  Construction   42,693    45,746    41,228 
  Mortgage-residential   44,567    47,472    49,330 
  Mortgage-commercial   398,777    371,112    354,095 
Consumer:               
  Home equity   29,984    31,368    31,743 
  Other   7,550    8,307    8,255 
Total  $568,488   $546,709   $523,441 
16
 

Note 4—Loans-continued

 

The detailed activity in the allowance for loan losses and the recorded investment in loans receivable as of and for the nine months ended September 30, 2017 and September 30, 2016 and for the year ended December 31, 2016 is as follows:

 

(Dollars in thousands)          Real estate   Real estate   Consumer             
       Real estate   Mortgage   Mortgage   Home   Consumer         
   Commercial   construction   Residential   Commercial   Equity   Other   Unallocated   Total 
Allowance for loan losses:                                        
Beginning balance December 31, 2016  $145   $104   $438   $2,793   $153   $127   $1,454   $5,214 
Charge-offs   (5)           (30)       (85)       (120)
Recoveries   3        4    158    24    13        202 
Provisions   41    (10)   (115)   (5)   81    (38)   406    360 
Ending balance September 30, 2017  $184   $94   $327   $2,916   $258   $17   $1,860   $5,656 
                                         
Ending balances:                                        
Individually evaluated for impairment  $   $   $2   $29   $   $   $   $31 
Collectively evaluated for impairment   184    94    325    2,887    258    17    1,860    5,625 
                                         
September 30, 2017 Loans receivable:                                        
Ending balance-total  $44,917   $42,693   $44,567   $398,777   $29,984   $7,550   $   $568,488 
                                         
Ending balances:                                        
Individually evaluated for impairment           422    4,173    34            4,629 
                                         
Collectively evaluated for impairment  $44,917   $42,693   $44,145   $394,604   $29,950   $7,550   $   $563,859 
17
 

Note 4—Loans-continued

(Dollars in thousands)                                
           Real estate   Real estate   Consumer             
       Real estate   Mortgage   Mortgage   Home   Consumer         
   Commercial   Construction   Residential   Commercial   equity   Other   Unallocated   Total 
Allowance for loan losses:                                        
Beginning balance December 31, 2015  $75   $51   $223   $2,036   $127   $37   $2,047   $4,596 
Charge-offs           (2)   (94)   (8)   (52)       (156)
Recoveries   4        39    16    2    10        71 
Provisions   51    43    252    778    2    28    (618)   536 
Ending balance September 30, 2016  $130   $94   $512   $2,736   $123   $23   $1,429   $5,047 
                                         
Ending balances:                                        
Individually evaluated for impairment  $   $   $2   $   $   $   $   $2 
                                         
Collectively evaluated for impairment   130    94    510    2,736    123    23    1,429    5,045 
                                         
September 30, 2016
Loans receivable:
                                        
Ending balance-total  $38,790   $41,228   $49,330   $354,095   $31,743   $8,255   $   $523,441 
                                         
Ending balances:                                        
Individually evaluated for impairment           421    5,243    56            5,720 
                                        
Collectively evaluated for impairment  $38,790   $41,228   $48,909   $348,852   $31,687   $8,255   $   $517,721 
18
 

Note 4—Loans-continued

(Dollars in thousands)                                
           Real estate   Real estate   Consumer             
       Real estate   Mortgage   Mortgage   Home   Consumer         
   Commercial   Construction   Residential   Commercial   equity   Other   Unallocated   Total 
December 31, 2016                                        
Allowance for loan losses:                                        
Beginning balance December 31, 2015  $75   $51   $223   $2,036   $127   $37   $2,047   $4,596 
Charge-offs           (11)   (136)   (20)   (72)       (239)
Recoveries   5        40    21    3    14        83 
Provisions   65    53    186    872    43    148    (593)   774 
Ending balance December 31, 2016  $145   $104   $438   $2,793   $153   $127   $1,454   $5,214 
                                         
Ending balances:                                        
Individually evaluated for impairment  $   $   $2   $4   $   $   $   $6 
                                        
Collectively evaluated for impairment   145    104    436    2,789    153    127    1,454    5,208 
                                         
December 31, 2016
Loans receivable:
                                        
Ending balance-total  $42,704   $45,746   $47,472   $371,112   $31,368   $8,307   $   $546,709 
                                         
Ending balances:                                        
Individually evaluated for impairment           639    5,124    56            5,819 
                                        
Collectively evaluated for impairment  $42,704   $45,746   $46,833   $365,988   $31,312   $8,307   $   $540,890 
19
 

Note 4—Loans-continued

The detailed activity in the allowance for loan losses as of and for the three months ended September 30, 2017 and the three months ended September 30, 2016 is as follows:

(Dollars in thousands)          Real estate   Real estate   Consumer             
       Real estate   Mortgage   Mortgage   Home   Consumer         
2017  Commercial   Construction   Residential   Commercial   Equity   Other   Unallocated   Total 
Allowance for loan losses:                                        
Beginning balance June 30, 2017  $169   $76   $353   $2,845   $196   $24   $1,827   $5,490 
  Charge-offs   (5)           (6)       (41)       (52)
  Recoveries           2    45        5        52 
  Provisions   20    18    (28)   32    62    29    33    166 
Ending balance September 30, 2017  $184   $94   $327   $2,916   $258   $17   $1,860   $5,656 

  

(Dollars in thousands)          Real estate   Real estate   Consumer             
       Real estate   Mortgage   Mortgage   Home   Consumer         
2016  Commercial   Construction   Residential   Commercial   Equity   Other   Unallocated   Total 
Allowance for loan losses:                                        
Beginning balance June 30, 2016  $71   $59   $207   $2,349   $93   $23   $2,075   $4,877 
  Charge-offs           (1)   (36)       (19)       (56)
  Recoveries   1        34    8        4        47 
  Provisions   58    35    272    415    30    15    (646)   179 
Ending balance September 30, 2016  $130   $94   $512   $2,736   $123   $23   $1,429   $5,047 

Related party loans and lines of credit are made on substantially the same terms, including interest rates and collateral, as those prevailing at the time for comparable transactions with unrelated persons and generally do not involve more than the normal risk of collectability. The following table presents related party loan transactions for the nine months ended September 30, 2017 and 2016:

(Dollars in thousands)  2017   2016 
Beginning Balance December 31,  $6,103   $7,037 
New Loans   339    431 
Less loan repayments   925    1,093 
Ending Balance September 30,  $5,517   $6,375 
20
 

Note 4—Loans-continued

 

The following table presents at September 30, 2017 and December 31, 2016 loans individually evaluated and considered impaired under Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 310 “Accounting by Creditors for Impairment of a Loan.” Impairment includes performing troubled debt restructurings (“TDRs”).

 

(Dollars in thousands)  September 30,   December 31, 
   2017   2016 
Total loans considered impaired   $4,629   $5,819 
          
Loans considered impaired for which there is a related allowance for loan loss:          
Outstanding loan balance    1,715    224 
Related allowance    31    6 
Loans considered impaired and previously written down to fair value    2,914    5,595 
Average impaired loans    4,675    8,727 

  

The following tables are by loan category and present at September 30, 2017, December 31, 2016 and September, 2016 loans individually evaluated and considered impaired under FASB ASC 310 “Accounting by Creditors for Impairment of a Loan.” Impairment includes performing TDRs.

 

(Dollars in thousands)              Nine months ended   Three months ended 
September 30, 2017      Unpaid       Average   Interest   Average   Interest 
   Recorded   Principal   Related   Recorded   income   Recorded   income 
   Investment   Balance   Allowance   Investment   Recognized   Investment   Recognized 
With no allowance recorded:                                   
Commercial, financial, agricultural  $   $   $   $   $   $   $ 
Real estate:                                   
  Construction                            
  Mortgage-residential   379    443        384    11    378    11 
  Mortgage-commercial   2,501    5,051        2,536    117    2,488    118 
Consumer:                                   
  Home equity   34    34        34        56     
  Other                            
                                    
With an allowance recorded:                                   
Commercial, financial, agricultural                            
Real estate:                                   
  Construction                            
  Mortgage-residential   43    43    2    43    2    43    1 
  Mortgage-commercial   1,672    2,293    29    1,678    111    1,671    31 
Consumer:                                   
  Home equity                            
  Other                            
                                    
Total:                                   
Commercial, financial, agricultural  $   $   $   $   $   $   $ 
Real estate:                                   
  Construction                            
  Mortgage-residential   422    486    2    427    13    421    12 
  Mortgage-commercial   4,173    7,344    29    4,214    228    4,159    149 
Consumer:                                   
  Home equity   34    34        34        56     
  Other                            
   $4,629   $7,864   $31   $4,675   $241   $4,636   $161 
21
 

Note 4—Loans-continued

(Dollars in thousands)              Nine months ended   Three months ended 
       Unpaid       Average   Interest   Average   Interest 
September 30, 2016  Recorded   Principal   Related   Recorded   Income   Recorded   Income 
   Investment   Balance   Allowance   Investment   Recognized   Investment   Recognized 
With no allowance recorded:                                   
  Commercial  $   $   $   $   $   $   $ 
  Real estate:                                   
    Construction                            
    Mortgage-residential   374    374        419        411     
    Mortgage-commercial   5,243    7,821        8,683    88    8,609    31 
  Consumer:                                  
    Home Equity   56    56        57        57     
    Other                            
                                    
With an allowance recorded:                                   
  Commercial                            
  Real estate:                                   
    Construction                            
    Mortgage-residential   47    47    2    48    2    47    1 
    Mortgage-commercial                            
  Consumer:                                  
    Home Equity                            
    Other                            
                                    
Total:                                   
  Commercial  $   $   $   $   $   $   $ 
  Real estate:                                   
    Construction                            
    Mortgage-residential   421    421    2    467    2    458    1 
    Mortgage-commercial   5,243    7,821        8,683    88    8,609    31 
  Consumer:                                  
    Home Equity   56    56        57        57     
    Other                            
   $5,720   $8,298   $2   $9,207   $90   $9,124   $32 
22
 

Note 4—Loans-continued

(Dollars in thousands)                    
December 31, 2016      Unpaid       Average   Interest 
   Recorded   Principal   Related   Recorded   Income 
   Investment   Balance   Allowance   Investment   Recognized 
With no allowance recorded:                         
  Commercial  $   $   $   $   $ 
  Real estate:                         
    Construction                    
    Mortgage-residential   593    603        660     
    Mortgage-commercial   4,946    6,821        7,777    98 
  Consumer:                        
    Home Equity   56    56        56     
    Other                    
                          
With an allowance recorded:                         
  Commercial                    
  Real estate:                         
    Construction                    
    Mortgage-residential   46    46    2    48    2 
    Mortgage-commercial   178    178    4    186    12 
  Consumer:                        
    Home Equity                    
    Other                    
                          
Total:                         
  Commercial                    
  Real estate:                         
    Construction                    
    Mortgage-residential   639    649    2    708    2 
    Mortgage-commercial   5,124    6,999    4    7,963    110 
  Consumer:                        
    Home Equity   56    56        56     
    Other                    
   $5,819   $7,704   $6   $8,727   $112 
23
 

Note 4—Loans-continued

The Company categorizes loans into risk categories based on relevant information about the ability of borrowers to service their debt, including: current financial information, historical payment experience, credit documentation, public information, and current economic trends, among other factors. The Company analyzes loans individually by classifying the loans as to credit risk. This analysis is performed on a monthly basis. The Company uses the following definitions for risk ratings:

 

Special Mention. Loans classified as special mention have a potential weakness that deserves management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the loan or of the institution’s credit position at some future date. Special mention assets are not adversely classified and do not expose an institution to sufficient risk to warrant adverse classification.

 

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

 

Doubtful. Loans classified as doubtful have all the weaknesses inherent in those classified as substandard, with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently existing facts, conditions, and values, highly questionable and improbable.

 

Loans not meeting the criteria above that are analyzed individually as part of the above described process are considered as pass rated loans. As of September 30, 2017 and December 31, 2016, and based on the most recent analysis performed, the risk category of loans by class of loans is shown in the table below. As of September 30, 2017 and December 31, 2016, no loans were classified as doubtful.

 

(Dollars in thousands)      Special             
September 30, 2017  Pass   Mention   Substandard   Doubtful   Total 
Commercial, financial & agricultural  $44,735   $182   $   $   $44,917 
Real estate:                        
   Construction   42,693                42,693 
   Mortgage – residential   43,061    653    853        44,567 
   Mortgage – commercial   385,796    7,595    5,386        398,777 
Consumer:                        
  Home Equity   28,550    1,191    243        29,984 
  Other   7,550                 7,550 
Total  $552,385   $9,621   $6,482   $   $568,488 
24
 

Note 4—Loans-continued

 

(Dollars in thousands)      Special             
December 31, 2016  Pass   Mention   Substandard   Doubtful   Total 
Commercial, financial & agricultural  $42,486   $218   $   $   $42,704 
Real estate:                        
   Construction   45,746                45,746 
   Mortgage – residential   45,751    622    1,099        47,472 
   Mortgage – commercial   358,766    5,773    6,572        371,112 
Consumer:                        
  Home Equity   30,929    180    259        31,368 
  Other   8,302    6             8,307 
Total  $531,980   $6,799   $7,930   $   $546,709 

  

At September 30, 2017 and December 31, 2016, non-accrual loans totaled $2.9 million and $4.1 million, respectively.

 

TDRs that are still accruing and included in impaired loans at September 30, 2017 and December 31, 2016 amounted to $1.7 million and $1.8 million, respectively. TDRs in non-accrual status at September 30, 2017 and December 31, 2016 amounted to $1.2 million and $1.2 million, respectively.

 

Loans greater than 90 days delinquent and still accruing interest were $101.9 thousand and $53.0 thousand at September 30, 2017 and December 31, 2016, respectively.

 

Acquired credit-impaired loans are accounted for under the accounting guidance for loans and debt securities acquired with deteriorated credit quality, found in FASB ASC Topic 310-30, (Receivables—Loans and Debt Securities Acquired with Deteriorated Credit Quality), and initially measured at fair value, which includes estimated future credit losses expected to be incurred over the life of the loans. Loans acquired in business combinations with evidence of credit deterioration are considered impaired. Loans acquired through business combinations that do not meet the specific criteria of FASB ASC Topic 310-30, but for which a discount is attributable, at least in part to credit quality, are also accounted for under this guidance. Certain acquired loans, including performing loans and revolving lines of credit (consumer and commercial), are accounted for in accordance with FASB ASC Topic 310-20, where the discount is accreted through earnings based on estimated cash flows over the estimated life of the loan.

 

A summary of changes in the accretable yield for PCI loans for the three and nine months ended September 30, 2017 and 2016 follows (in thousands): 

 

    Three Months
Ended
September 30,
2017
   Nine Months
Ended
September 30,
2017
 
Accretable yield, beginning of period   $50   $34 
            
Accretion    (29)   (57)
            
Reclassification of nonaccretable difference due to improvement in expected cash flows        44 
Accretable yield, end of period   $21   $21 
25
 

Note 4—Loans-continued

  

   Three Months
Ended
September 30,
2016
   Nine Months
Ended
September 30,
2016
 
Accretable yield, beginning of period  $53   $92 
           
Accretion   (17)   (150)
           
Reclassification of nonaccretable difference due to improvement in expected cash flows   18    112 
Accretable yield, end of period  $54   $54 
26
 

Note 4—Loans-continued

 

The following tables are by loan category and present loans past due and on non-accrual status as of September 30, 2017 and December 31, 2016:

(Dollars in thousands)          Greater than                 
   30-59 Days   60-89 Days   90 Days and       Total         
September 30, 2017  Past Due   Past Due   Accruing   Nonaccrual   Past Due   Current   Total Loans 
                             
Commercial  $255   $39   $   $   $294   $44,623   $44,917 
Real estate:                                   
  Construction   163                163    42,530    42,693 
   Mortgage-residential               379    379    44,188    44,567 
  Mortgage-commercial   497    843        2,501    3,841    394,936    398,777 
Consumer:                                   
  Home equity   121            34    155    29,829    29,984 
  Other   83    7    102        192    7,358    7,550 
   $1,119   $889   $102   $2,914   $5,024   $563,464   $568,488 

  

(Dollars in thousands)          Greater than                 
   30-59 Days   60-89 Days   90 Days and       Total         
December 31, 2016  Past Due   Past Due   Accruing   Nonaccrual   Past Due   Current   Total Loans 
                             
Commercial  $11   $   $   $   $11   $42,693   $42,704 
Real estate:                                   
  Construction                       45,746    45,746 
   Mortgage-residential   194    145    32    593    964    46,508    47,472 
  Mortgage-commercial   995    337        3,400    4,732    366,380    371,112 
Consumer:                                   
  Home equity   59    64    16    56    195    31,173    31,368 
  Other   16    1    5        22    8,285    8,307 
   $1,275   $547   $53   $4,049   $5,924   $540,785   $546,709 
27
 

Note 4—Loans-continued

 

The Company reviews TDRs in accordance with applicable regulatory and accounting guidance.

 

There were no loans determined to be TDRs that were restructured during the three and nine month periods ended September 30, 2017 or the three month period ended September 30, 2017.

 

The following table, by loan category, presents one loan determined to be a TDR during the nine month period ended September 30, 2016. The loan was modified to extend the term of the loan due to financial hardship of the borrower. The loan was subsequently paid off in June 2016.

 

Troubled Debt Restructurings  For the nine months ended September 30, 2016 
(Dollars in thousands)            
       Pre-Modification   Post-Modification 
       Outstanding   Outstanding 
   Number of    Recorded   Recorded 
   Contracts   Investment   Investment 
Accrual               
Mortgage-Commercial   1   $413   $413 
Total Accrual   1   $413   $413 
                
Total TDRs   1   $413   $413 

  

During the three and nine month periods ended September 30, 2017 and 2016, there were no loans determined to be TDRs in the previous twelve months that had payment defaults. Defaulted loans are those loans that are greater than 89 days past due.

 

In the determination of the allowance for loan losses, all TDRs are considered impaired and are reviewed to ensure that one of the three proper valuation methods (fair market value of the collateral, present value of cash flows, or observable market price) is adhered to. All non-accrual loans are written down to their corresponding collateral value. All troubled TDR accruing loans that have a loan balance that exceeds the present value of cash flows will have a specific allocation. All nonaccrual loans are considered impaired. Under ASC 310-10, a loan is impaired when it is probable that the Company will be unable to collect all amounts due including both principal and interest according to the contractual terms of the loan agreement.

28
 

Note 5 - Recently Issued Accounting Pronouncements

 

The following is a summary of recent authoritative pronouncements:

 

In May 2014, the FASB issued guidance to change the recognition of revenue from contracts with customers. The core principle of the new guidance is that an entity should recognize revenue to reflect the transfer of goods and services to customers in an amount equal to the consideration the entity receives or expects to receive. The guidance will be effective for the Company for reporting periods beginning after December 15, 2017. The Company will apply the guidance using a modified retrospective approach. The Company does not expect these amendments to have a material effect on its financial statements.

 

In August 2015, the FASB deferred the effective date of ASU 2014-09, Revenue from Contracts with Customers. As a result of the deferral, the guidance in ASU 2014-09 will be effective for the Company for reporting periods beginning after December 15, 2017. The Company will apply the guidance using a modified retrospective approach. The Company does not expect these amendments to have a material effect on its financial statements.

 

In January 2016, the FASB amended the Financial Instruments topic of the Accounting Standards Codification to address certain aspects of recognition, measurement, presentation, and disclosure of financial instruments. The amendments will be effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. The Company will apply the guidance by means of a cumulative-effect adjustment to the balance sheet as of the beginning of the fiscal year of adoption. The amendments related to equity securities without readily determinable fair values will be applied prospectively to equity investments that exist as of the date of adoption of the amendments. The Company does not expect these amendments to have a material effect on its financial statements.

 

In February 2016, the FASB amended the Leases topic of the Accounting Standards Codification to revise certain aspects of recognition, measurement, presentation, and disclosure of leasing transactions. The amendments will be effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. The Company is currently evaluating the effect that implementation of the new standard will have on its financial position, results of operations, and cash flows.

 

In March 2016, the FASB amended the Revenue from Contracts with Customers topic of the Accounting Standards Codification to clarify the implementation guidance on principal versus agent considerations and address how an entity should assess whether it is the principal or the agent in contracts that include three or more parties. The amendments will be effective for the Company for reporting periods beginning after December 15, 2017. The Company does not expect these amendments to have a material effect on its financial statements.

 

In March 2016, the FASB issued guidance to simplify several aspects of the accounting for share-based payment award transactions including the income tax consequences, the classification of awards as either equity or liabilities, and the classification on the statement of cash flows. Additionally, the guidance simplifies two areas specific to entities other than public business entities allowing them apply a practical expedient to estimate the expected term for all awards with performance or service conditions that have certain characteristics and also allowing them to make a one-time election to switch from measuring all liability-classified awards at fair value to measuring them at intrinsic value. The amendments became effective for the Company for annual periods beginning after December 15, 2016 and interim periods within those annual periods. These amendments did not have a material effect on the Company’s financial statements.

 

In June 2016, the FASB issued guidance to change the accounting for credit losses and modify the impairment model for certain debt securities. The amendments will be effective for the Company for reporting periods beginning after December 15, 2019. Early adoption is permitted for all organizations for periods beginning after December 15, 2018. The Company is currently evaluating the effect that implementation of the new standard will have on its financial position, results of operations, and cash flows.

29
 

Note 5 - Recently Issued Accounting Pronouncements-continued

 

In August 2016, the FASB amended the Statement of Cash Flows topic of the Accounting Standards Codification to clarify how certain cash receipts and cash payments are presented and classified in the statement of cash flows. The amendments will be effective for the Company for fiscal years beginning after December 15, 2017 including interim periods within those fiscal years. Early adoption is permitted. The Company does not expect these amendments to have a material effect on its financial statements.

 

In December 2016, the FASB issued technical corrections and improvements to the Revenue from Contracts with Customers Topic. These corrections make a limited number of revisions to several pieces of the revenue recognition standard issued in 2014. The effective date and transition requirements for the technical corrections will be effective for the Company for reporting periods beginning after December 15, 2017. The Company will apply the guidance using a full retrospective approach. The Company does not expect these amendments to have a material effect on its financial statements.

 

In January 2017, the FASB issued guidance to clarify the definition of a business with the objective of adding guidance to assist entities with evaluating whether transactions should be accounted for as acquisitions (or disposals) of assets or businesses. The amendment to the Business Combinations Topic is intended to address concerns that the existing definition of a business has been applied too broadly and has resulted in many transactions being recorded as business acquisitions that in substance are more akin to asset acquisitions. The guidance will be effective for the Company for reporting periods beginning after December 15, 2017. Early adoption is permitted. The Company does not expect these amendments to have a material effect on its financial statements.

 

In January 2017, the FASB updated the Accounting Changes and Error Corrections and the Investments—Equity Method and Joint Ventures Topics of the Accounting Standards Codification. The ASU incorporates into the Accounting Standards Codification recent SEC guidance about disclosing, under SEC SAB Topic 11.M, the effect on financial statements of adopting the revenue, leases, and credit losses standards. The ASU was effective upon issuance. The Company is currently evaluating the impact on additional disclosure requirements as each of the standards is adopted, however it does not expect these amendments to have a material effect on its financial position, results of operations or cash flows.

 

In January 2017, the FASB amended the Goodwill and Other Topic of the Accounting Standards Codification to simplify the accounting for goodwill impairment for public business entities and other entities that have goodwill reported in their financial statements and have not elected the private company alternative for the subsequent measurement of goodwill. The amendment removes Step 2 of the goodwill impairment test. A goodwill impairment will now be the amount by which a reporting unit’s carrying value exceeds its fair value, not to exceed the carrying amount of goodwill. The effective date and transition requirements for the technical corrections will be effective for the Company for reporting periods beginning after December 15, 2019. Early adoption is permitted for interim or annual goodwill impairment tests performed on testing dates after January 1, 2017. The Company does not expect these amendments to have a material effect on its financial statements.

 

In March 2017, the FASB amended the requirements in the Receivables—Nonrefundable Fees and Other Costs Topic of the Accounting Standards Codification related to the amortization period for certain purchased callable debt securities held at a premium. The amendments shorten the amortization period for the premium to the earliest call date. The amendments will be effective for the Company for interim and annual periods beginning after December 15, 2018. The Company does not expect these amendments to have a material effect on its financial statements.

 

Other accounting standards that have been issued or proposed by the FASB or other standards-setting bodies are not expected to have a material impact on the Company’s financial position, results of operations or cash flows.

30
 

Note 6– Fair Value of Financial Instruments

 

The Company adopted FASB ASC Fair Value Measurement Topic 820, which defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements. ASC 820 defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. ASC 820 also establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair value:

 

Level l

Quoted prices in active markets for identical assets or liabilities.

 

Level 2

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 for substantially the full term of the assets or liabilities.

 

Level 3 Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. Level 3 assets and liabilities include financial instruments whose value is determined using pricing models, discounted cash flow methodologies, or similar techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation.

 

FASB ASC 825-10-50 “Disclosure about Fair Value of Financial Instruments”, requires the Company to disclose estimated fair values for its financial instruments. Fair value estimates, methods, and assumptions are set forth below.

 

Cash and Short Term Investments - The carrying amount of these financial instruments (cash and due from banks, interest-bearing bank balances, federal funds sold and securities purchased under agreements to resell) approximates fair value. All mature within 90 days and do not present unanticipated credit concerns and are classified as Level 1.

 

Investment Securities - Measurement is on a recurring basis based upon quoted market prices, if available. If quoted market prices are not available, fair values are measured using independent pricing models or other model-based valuation techniques such as the present value of future cash flows, adjusted for prepayment assumptions, projected credit losses, and liquidity. Level 1 securities include those traded on an active exchange, such as the New York Stock Exchange, or by dealers or brokers in active over-the-counter markets. Level 2 securities include MBSs issued both by government sponsored enterprises and PLMBSs. Generally these fair values are priced from established pricing models.

 

Loans Held for Sale - The Company originates fixed rate residential loans on a servicing released basis in the secondary market. Loans closed but not yet settled with an investor, are carried in the Company’s loans held for sale portfolio. These loans are fixed rate residential loans that have been originated in the Company’s name and have closed. Virtually all of these loans have commitments to be purchased by investors at a locked in price with the investors on the same day that the loan was locked in with the company’s customers. Therefore, these loans present very little market risk for the Company and are classified as Level 2. The carrying amount of these loans approximates fair value.

 

Loans - The fair value of loans are estimated by discounting the future cash flows using the current rates at which similar loans would be made to borrowers with similar credit ratings and for the same remaining maturities and are classified as Level 2. As discount rates are based on current loan rates as well as management estimates, the fair values presented may not be indicative of the value negotiated in an actual sale. Loans which are deemed to be impaired are primarily valued on a nonrecurring basis at the fair value of the underlying real estate collateral. Such fair values are obtained using independent appraisals, which the Company considers to be Level 3 inputs.

31
 

Note 6 – Fair Value of Financial Instruments - continued

 

Other Real Estate Owned (“OREO”) - OREO is carried at the lower of carrying value or fair value on a non-recurring basis. Fair value is based upon independent appraisals or management’s estimation of the collateral and is considered a Level 3 measurement.

 

Accrued Interest Receivable - The fair value approximates the carrying value and is classified as Level 1.

 

Deposits - The fair value of demand deposits, savings accounts, and money market accounts is the amount payable on demand at the reporting date. The fair value of fixed-maturity certificates of deposits is estimated by discounting the future cash flows using rates currently offered for deposits of similar remaining maturities. Deposits are classified as Level 2.

 

Federal Home Loan Bank Advances - Fair value is estimated based on discounted cash flows using current market rates for borrowings with similar terms and are classified as Level 2.

 

Short Term Borrowings - The carrying value of short term borrowings (securities sold under agreements to repurchase and demand notes to the Treasury) approximates fair value. These are classified as Level 2.

 

Junior Subordinated Debentures - The fair values of junior subordinated debentures is estimated by using discounted cash flow analyses based on incremental borrowing rates for similar types of instruments. These are classified as Level 2.

 

Accrued Interest Payable -The fair value approximates the carrying value and is classified as Level 1.

 

Commitments to Extend Credit - The fair value of these commitments is immaterial because their underlying interest rates approximate market.

32
 

Note 6 – Fair Value of Financial Instruments - continued

 

The carrying amount and estimated fair value by classification level of the Company’s financial instruments as of September 30, 2017 and December 31, 2016 are as follows:

 

September 30, 2017  Carrying   Fair Value 
(Dollars in thousands)  amount   Total   Level 1   Level 2   Level 3 
                     
Financial Assets:                         
Cash and short term investments  $27,088   $27,088   $27,088   $   $ 
Held-to-maturity securities   17,057    17,057        17,057     
Available-for-sale securities   229,060    229,060             
Other investments, at cost   2,555    2,555            2,555 
Loans held for sale   6,018    6,018        6,018     
Net loans receivable   562,832    559,811        555,213    4,598 
Accrued interest   2,901    2,901    2,901         
Financial Liabilities                         
Non-interest bearing demand deposits  $195,348   $195,348   $   $195,348   $ 
Interest bearing demand deposits and money market accounts   332,560    332,560        332,560     
Savings   77,676    77,676        77,676     
Time deposits   164,498    164,829        164,829     
Total deposits   770,082    770,413        770,413     
Federal Home Loan Bank Advances   17,255    17,254        17,254     
Short term borrowings   17,469    17,469        17,469     
Junior subordinated debentures   14,964    15,001        15,001     
Accrued interest payable   514    514    514         
33
 

Note 6 – Fair Value of Financial Instruments – continued

 

December 31, 2016  Carrying   Fair Value 
(Dollars in thousands)  amount   Total   Level 1   Level 2   Level 3 
                     
Financial Assets:                         
  Cash and short term investments  $21,999   $21,999   $21,999   $   $ 
  Held-to-maturity securities   17,193    17,114        17,114     
  Available-for-sale securities   253,394    253,394    801    251,593    1,000 
  Other investments, at cost   1,809    1,809            1,809 
  Loans held for sale   5,707    5,707        5,707     
  Net loans receivable   541,495    540,487        534,674    5,813 
  Accrued interest   2,925    2,925    2,925         
Financial Liabilities                         
  Non-interest bearing demand deposits  $182,915   $182,915   $   $182,915   $ 
  Interest bearing demand deposits and money market accounts   327,459    327,459        327,459     
  Savings   75,012    75,012        75,012     
  Time deposits   181,236    181,638        181,638     
  Total deposits   766,622    767,024        767,024     
  Federal Home Loan Bank Advances   24,035    24,518        24,518     
  Short term borrowings   19,527    19,527        19,527     
  Junior subordinated debentures   14,964    15,258        15,258     
  Accrued interest payable   532    532    532         
34
 

Note 6 – Fair Value of Financial Instruments - continued

 

The following tables summarize quantitative disclosures about the fair value for each category of assets carried at fair value as of September 30, 2017 and December 31, 2016 that are measured on a recurring basis. There were no liabilities carried at fair value as of September 30, 2017 or December 31, 2016 that are measured on a recurring basis.

 

       Quoted Prices   Significant   Significant 
September 30, 2017      in Active markets   Other Observable   Unobservable 
Available-for-sale securities      for Identical Assets   Inputs   Inputs 
(Dollars in thousands)  Fair Value   (Level 1)   (Level 2)   (Level 3) 
                 
US Treasury securities  $1,521   $   $1,521   $ 
Government sponsored enterprises   996        996     
Mortgage-backed securities   123,748        123,748     
Small Business Administration pools   50,365        50,365     
State and local government   51,574        51,574     
Corporate and other securities   856    796    60     
   $229,060   $796   $228,264   $ 

  

       Quoted Prices   Significant   Significant 
December 31, 2016      in Active markets   Other Observable   Unobservable 
Available-for-sale securities      for Identical Assets   Inputs   Inputs 
(Dollars in thousands)  Fair Value   (Level 1)   (Level 2)   (Level 3) 
                 
US Treasury securities  $1,520   $   $1,520   $ 
Government sponsored enterprises   997        997     
Mortgage-backed securities   144,298        144,298     
Small Business Administration pools   50,184        50,184     
State and local government   54,534        54,534     
Corporate and other securities   1,861    801    60    1,000 
   $253,394   $801   $251,593   $1,000 
35
 

Note 6 – Fair Value of Financial Instruments - continued

 

The following table reconciles the changes in Level 3 financial instruments for the three months ended September 30, 2017 and 2016 that are measured on a recurring basis.

 

   September 30, 
   2017   2016 
(Dollars in thousands)  Corporate
Preferred
Stock
   Corporate
Preferred
Stock
 
Beginning Balance December 31:  $1,000   $417 
Total gains or losses (realized/unrealized)
Included in earnings
        
 Included in other comprehensive income        
Purchases, issuances, and settlements       950 
Maturities, sales, payoffs        (417)
 Transfers in and/or out of Level 3   (1,000)    
Ending Balance September 30:  $   $950 

  

The following tables summarize quantitative disclosures about the fair value for each category of assets carried at fair value as of September 30, 2017 and December 31, 2016 that are measured on a non-recurring basis.

 

(Dollars in thousands)                
Description  September 30,
2017
   Quoted Prices
in Active
Markets for
Identical
Assets
(Level 1)
   Significant
Other
Observable
Inputs
(Level 2)
   Significant
Unobservable
Inputs
(Level 3)
 
Impaired loans:                    
  Commercial  $   $   $   $ 
  Real estate:                    
    Mortgage-residential   420            420 
    Mortgage-commercial   4,144            4,144 
  Consumer:                    
    Home equity   34            34 
    Other                
      Total impaired   4,598            4,598 
Other real estate owned:                    
  Construction   141            141 
  Mortgage-residential   47            47 
  Mortgage-commercial   545            545 
  Total other real estate owned   733            733 
Total  $5,331   $

   $

   $5,331 

36
 

Note 6 – Fair Value of Financial Instruments - continued

 

(Dollars in thousands)                
Description  December 31,
2016
   Quoted Prices
in Active
Markets for
Identical
Assets
(Level 1)
   Significant
Other
Observable
Inputs
(Level 2)
   Significant
Unobservable
Inputs
(Level 3)
 
Impaired loans:                    
  Commercial & Industrial  $   $   $   $ 
  Real estate:                    
    Mortgage-residential   637            637 
    Mortgage-commercial   5,120            5,120 
  Consumer:                    
    Home equity   56            56 
    Other                
      Total impaired   5,813            5,813 
Other real estate owned:                    
  Construction   141            141 
  Mortgage-residential   269            269 
  Mortgage-commercial   736            736 
  Total other real estate owned   1,146            1,146 
Total  $6,959   $   $   $6,959 

  

The Company has a large percentage of loans with real estate serving as collateral. Loans which are deemed to be impaired are primarily valued on a nonrecurring basis at the fair value of the underlying real estate collateral. Such fair values are obtained using independent appraisals, which the Company considers to be Level 3 inputs. Third party appraisals are generally obtained when a loan is identified as being impaired or at the time it is transferred to OREO. This internal process consists of evaluating the underlying collateral to independently obtained comparable properties. With respect to less complex or smaller credits, an internal evaluation may be performed. Generally, the independent and internal evaluations are updated annually. Factors considered in determining the fair value include, among others, geographic sales trends, the value of comparable surrounding properties and the condition of the property. The aggregate amount of impaired loans was $4.6 million and $5.8 million as of September 30, 2017 and December 31, 2016, respectively.

37
 

Note 6 – Fair Value of Financial Instruments - continued

For Level 3 assets and liabilities measured at fair value on a recurring or non-recurring basis as of September 30, 2017 and December 31, 2016, the significant unobservable inputs used in the fair value measurements were as follows:

(Dollars in thousands) Fair Value as of
September 30,
2017
Valuation Technique Significant
Observable
Inputs
Significant
Unobservable Inputs
OREO $    733 Appraisal Value/Comparison Sales/Other estimates Appraisals and or sales of comparable properties Appraisals discounted 6% to 16% for sales commissions and other holding cost
Impaired loans $   4,598 Appraisal Value Appraisals and or sales of comparable properties Appraisals discounted 6% to 16% for sales commissions and other holding cost
         
(Dollars in thousands) Fair Value as of December 31, 2016 Valuation Technique Significant
Observable
Inputs
Significant Unobservable Inputs
Corporate and Other Securities $   1,000 Estimation based on comparable non-listed securities Comparable transactions n/a
OREO $  1,146 Appraisal Value/Comparison Sales/Other estimates Appraisals and or sales of comparable properties Appraisals discounted 6% to 16% for sales commissions and other holding cost
Impaired loans $  5,813 Appraisal Value Appraisals and or sales of comparable properties Appraisals discounted 6% to 16% for sales commissions and other holding cost
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Note 7 — Deposits

 

The Company’s total deposits are comprised of the following at the dates indicated:

  

   September 30,   December 31, 
(Dollars in thousands)  2017   2016 
Non-interest bearing demand deposits  $195,348   $182,915 
Interest bearing demand deposits and money market accounts   332,560    327,459 
Savings   77,676    75,012 
Time deposits   164,498    181,236 
  Total deposits  $770,082   $766,622 

  

As of September 30, 2017 and December 31, 2016, the Company had time deposits greater than $250,000 of $36.2 million and $37.7 million, respectively.

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Note 8 – Reportable Segments-continued

 

The Company’s reportable segments represent the distinct product lines the Company offers and are viewed separately for strategic planning by management. The Company has four reportable segments:

 

·Commercial and retail banking: The Company’s primary business is to provide deposit and lending products and services to its commercial and retail customers.
·Mortgage banking: This segment provides mortgage origination services for loans that will be sold to investors in the secondary market.
·Investment advisory and non-deposit: This segment provides investment advisory services and non-deposit products.
·Corporate: This segment includes the parent company financial information, including interest on parent company debt and dividend income received from First Community Bank (the “Bank”).

 

Nine months ended September 30, 2017  Commercial       Investment             
(Dollars in thousands)  and Retail   Mortgage   advisory and             
   Banking   Banking   non-deposit   Corporate   Eliminations   Consolidated 
                               
Dividend and Interest Income  $23,072   $331   $   $2,191   $(2,178)  $23,416 
Interest expense   1,660            420        2,080 
Net interest income  $21,412   $331   $   $1,771   $(2,178)  $21,336 
Provision for loan losses   360                    360 
Noninterest income   3,097    2,950    908    90        7,045 
Noninterest expense   17,699    2,181    839    265        20,984 
Net income before taxes  $6,450   $1,100   $69   $1,596   $(2,178)  $7,037 
Income tax provision (benefit)   2,037            (313)       1,724 
Net income  $4,413   $1,100   $69   $1,909   $(2,178)  $5,313 
                         
Three months ended September 30, 2017  Commercial       Investment             
(Dollars in thousands)  and Retail   Mortgage   advisory and             
   Banking   Banking   non-deposit   Corporate   Eliminations   Consolidated 
                         
Dividend and Interest Income  $7,763   $153   $   $747   $(742)   7,921 
Interest expense   547            147        694 
Net interest income  $7,216   $153   $   $600   $(742)  $7,227 
Provision for loan losses   166                    166 
Noninterest income   1,053    1,032    337            2,422 
Noninterest expense   5,780    769    262    83        6,894 
Net income before taxes  $2,323   $416   $75   $517   $(742)  $2,589 
Income tax provision (benefit)   772            (76)       696 
Net income  $1,551   $416   $75   $593   $(742)  $1,893 
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Note 8 – Reportable Segments-continued

 

Nine months ended September 30, 2016  Commercial       Investment             
(Dollars in thousands)  and Retail   Mortgage   advisory and             
   Banking   Banking   non-deposit   Corporate   Eliminations   Consolidated 
                               
Dividend and Interest Income  $21,732   $142   $   $2,072   $(1,950)  $21,996 
Interest expense   1,968            363        2,331 
Net interest income  $19,764   $142   $   $1,709   $(1,950)  $19,665 
Provision for loan losses   536                    536 
Noninterest income   3,353    2,516    871            6,740 
Noninterest expense   16,227    1,828    766    437        19,258 
Net income before taxes  $6,354   $830   $105   $1,272   $(1,950)  $6,611 
Income tax (provision) benefit   (1,910)           189        (1,721)
Net income  $4,444   $830   $105   $1,461   $(1,950)  $4,890 
                         
Three months ended September 30, 2016  Commercial       Investment             
(Dollars in thousands)  and Retail   Mortgage   advisory and             
   Banking   Banking   non-deposit   Corporate   Eliminations   Consolidated 
                               
Dividend and Interest Income  $7,336   $60   $   $658   $(654)  $7,400 
Interest expense   625            124        749 
Net interest income  $6,711   $60   $   $534   $(654)  $6,651 
Provision for loan losses   179                    179 
Noninterest income   1,166    937    284            2,387 
Noninterest expense   5,506    672    249    156        6,583 
Net income before taxes  $2,192   $325   $35   $378   $(654)  $2,276 
Income tax (provision) benefit   (677)           78        (599)
Net income  $1,515   $325   $35   $456   $(654)  $1,677 
                         
   Commercial       Investment             
(Dollars in thousands)  and Retail   Mortgage   advisory and             
   Banking   Banking   non-deposit   Corporate   Eliminations   Consolidated 
                         
Total Assets as of September 30, 2017  $900,144   $14,061   $23   $101,520   $(101,520)  $914,228 
                               
Total Assets as of December 31, 2016  $904,568   $8,158   $32   $98,210   $(96,175)  $914,793 
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Note 9 – Subsequent Events

Subsequent events are events or transactions that occur after the balance sheet date but before financial statements are issued. Recognized subsequent events are events or transactions that provide additional evidence about conditions that existed at the date of the balance sheet, including the estimates inherent in the process of preparing financial statements.  Nonrecognized subsequent events are events that provide evidence about conditions that did not exist at the date of the balance sheet but arose after that date.  Management has reviewed events occurring through the date the financial statements were available to be issued and no subsequent events occurred requiring accrual.

 

Effective October 20, 2017, the Company completed its previously announced merger with Cornerstone Bancorp (“Cornerstone”), the holding company for Cornerstone National Bank, pursuant to that certain Agreement and Plan of Merger, dated as of April 11, 2017 (the “Merger Agreement”), by and between the Company and Cornerstone, whereby Cornerstone merged with and into the Company (the “Merger”), with the Company surviving.

 

Under the terms of the Merger Agreement, Cornerstone shareholders have the right to receive either $11.00 in cash or 0.54 shares of the Company’s common stock, or a combination thereof, for each Cornerstone share of common stock they owned immediately prior to the Merger, subject to the limitation that 30% of the outstanding shares of Cornerstone common stock will be exchanged for cash and 70% of the outstanding shares of Cornerstone common stock will be exchanged for shares of the Company’s common stock.

 

Immediately following the consummation of the Merger, Cornerstone National Bank merged with and into the Bank, with the Bank surviving.

 

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

 

This report contains statements which constitute “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Forward-looking statements may relate to, among other matters, the financial condition, results of operations, plans, objectives, future performance, and business of our Company. Forward-looking statements are based on many assumptions and estimates and are not guarantees of future performance. Our actual results may differ materially from those anticipated in any forward-looking statements, as they will depend on many factors about which we are unsure, including many factors which are beyond our control. The words “may,” “would,” “could,” “should,” “will,” “expect,” “anticipate,” “predict,” “project,” “potential,” “continue,” “assume,” “believe,” “intend,” “plan,” “forecast,” “goal,” and “estimate,” as well as similar expressions, are meant to identify such forward-looking statements. Potential risks and uncertainties that could cause our actual results to differ materially from those anticipated in our forward-looking statements include, without limitation, those described under the heading “Risk Factors” in our 2016 Annual Report on Form 10-K as filed with the SEC and the following:

·credit losses as a result of, among other potential factors, declining real estate values, increasing interest rates, increasing unemployment, changes in customer payment behavior or other factors;
·the amount of our loan portfolio collateralized by real estate and weaknesses in the real estate market;
·restrictions or conditions imposed by our regulators on our operations;
·the adequacy of the level of our allowance for loan losses and the amount of loan loss provisions required in future periods;
·examinations by our regulatory authorities, including the possibility that the regulatory authorities may, among other things, require us to increase our allowance for loan losses or write-down assets;
·reduced earnings due to higher other-than-temporary impairment charges resulting from additional decline in the value of our securities portfolio, specifically as a result of increasing default rates, and loss severities on the underlying real estate collateral;
42
 
·a loss of customers or other challenges related to the successful integration of Cornerstone’s business;
·increases in competitive pressure in the banking and financial services industries;
·changes in the interest rate environment which could reduce anticipated or actual margins;
·changes in political conditions or the legislative or regulatory environment, including governmental initiatives affecting the financial services industry;
·general economic conditions resulting in, among other things, a deterioration in credit quality;
·changes occurring in business conditions and inflation;
·changes in access to funding or increased regulatory requirements with regard to funding;
·increased cybersecurity risk, including potential business disruptions or financial losses;
·changes in deposit flows;
·changes in technology;
·our current and future products, services, applications and functionality and plans to promote them;
·changes in monetary and tax policies;
·changes in accounting standards, policies, estimates, practices and procedures;
·our assumptions and estimates used in applying critical accounting policies, which may prove unreliable, inaccurate or not predictive of actual results;
·the rate of delinquencies and amounts of loans charged-off;
·the rate of loan growth in recent years and the lack of seasoning of a portion of our loan portfolio;
·our ability to maintain appropriate levels of capital, including levels of capital required under the capital rules implementing Basel III;
·our ability to attract and retain key personnel;
·our ability to retain our existing clients, including our deposit relationships;
·adverse changes in asset quality and resulting credit risk-related losses and expenses;
·loss of consumer confidence and economic disruptions resulting from terrorist activities;
·disruptions due to flooding, severe weather or other natural disasters; and
·other risks and uncertainties detailed from time to time in our filings with the SEC.

Because of these and other risks and uncertainties, our actual future results may be materially different from the results indicated by any forward-looking statements. For additional information with respect to factors that could cause actual results to differ from the expectations stated in the forward-looking statements, see “Risk Factors” under Part I, Item 1A of our 2016 Annual Report on Form 10-K as filed with the SEC. In addition, our past results of operations do not necessarily indicate our future results. Therefore, we caution you not to place undue reliance on our forward-looking information and statements.

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All forward-looking statements in this report are based on information available to us as of the date of this report. Although we believe that the expectations reflected in our forward-looking statements are reasonable, we cannot guarantee you that these expectations will be achieved. We undertake no obligation to publicly update or otherwise revise any forward-looking statements, whether as a result of new information, future events, or otherwise.

Overview

The following discussion describes our results of operations for the nine months and three months ended September 30, 2017 as compared to the nine-month and three-month period ended September 30, 2016 and also analyzes our financial condition as of September 30, 2017 as compared to December 31, 2016. Like most community banks, we derive most of our income from interest we receive on our loans and investments. Our primary source of funds for making these loans and investments is our deposits, on which we pay interest. Consequently, one of the key measures of our success is our amount of net interest income, or the difference between the income on our interest-earning assets, such as loans and investments, and the expense on our interest-bearing liabilities, such as deposits. Another key measure is the spread between the yield we earn on these interest-earning assets and the rate we pay on our interest-bearing liabilities.

 

There are risks inherent in all loans, so we maintain an allowance for loan losses to absorb probable losses on existing loans that may become uncollectible. We establish and maintain this allowance by charging a provision for loan losses against our operating earnings. In the following section we have included a discussion of this process, as well as several tables describing our allowance for loan losses and the allocation of this allowance among our various categories of loans.

 

In addition to earning interest on our loans and investments, we earn income through fees and other expenses we charge to our customers. We describe the various components of this non-interest income, as well as our non-interest expense, in the following discussion.

 

The following discussion and analysis identifies significant factors that have affected our financial position and operating results during the periods included in the accompanying financial statements. We encourage you to read this discussion and analysis in conjunction with the financial statements and the related notes and the other statistical information also included in this report.

 

Recent Developments

 

Effective October 20, 2017, we consummated the previously announced merger with Cornerstone, the holding company for Cornerstone National Bank, pursuant to which Cornerstone was merged with and into the Company, with the Company surviving. Promptly following the Merger, Cornerstone National Bank was merged with and into the Bank, with the Bank surviving. Consummation of the merger was subject to the satisfaction of certain conditions, including approval of the Merger Agreement by the shareholders of Cornerstone and approval by the appropriate regulatory agencies. For more information on the merger with Cornerstone, see Note 9 to our Consolidated Financial Statements.

 

Critical Accounting Policies

 

We have adopted various accounting policies that govern the application of accounting principles generally accepted in the United States and with general practices within the banking industry in the preparation of our financial statements. Our significant accounting policies are described in the footnotes to our unaudited consolidated financial statements as of September 30, 2017 and our notes included in the consolidated financial statements in our 2016 Annual Report on Form 10-K as filed with the SEC.

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Certain accounting policies involve significant judgments and assumptions by us that have a material impact on the carrying value of certain assets and liabilities. We consider these accounting policies to be critical accounting policies. The judgment and assumptions we use are based on historical experience and other factors, which we believe to be reasonable under the circumstances. Because of the nature of the judgment and assumptions we make, actual results could differ from these judgments and estimates that could have a material impact on the carrying values of our assets and liabilities and our results of operations.

 

Allowance for Loan Losses

 

We believe the allowance for loan losses is the critical accounting policy that requires the most significant judgment and estimates used in preparation of our consolidated financial statements. Some of the more critical judgments supporting the amount of our allowance for loan losses include judgments about the credit worthiness of borrowers, the estimated value of the underlying collateral, the assumptions about cash flow, determination of loss factors for estimating credit losses, the impact of current events, and conditions, and other factors impacting the level of probable inherent losses. Under different conditions or using different assumptions, the actual amount of credit losses incurred by us may be different from management’s estimates provided in our consolidated financial statements. Refer to the portion of this discussion that addresses our allowance for loan losses for a more complete discussion of our processes and methodology for determining our allowance for loan losses.

 

Goodwill and Other Intangibles

 

Goodwill represents the excess of the purchase price over the sum of the estimated fair values of the tangible and identifiable intangible assets acquired less the estimated fair value of the liabilities assumed. Goodwill has an indefinite useful life and is evaluated for impairment annually or more frequently if events and circumstances indicate that the asset might be impaired. An impairment loss is recognized to the extent that the carrying amount exceeds the asset’s fair value. Qualitative factors are assessed to first determine if it is more likely than not (more than 50%) that the carrying value of goodwill is less than fair value. These qualitative factors include but are not limited to overall deterioration in general economic conditions, industry and market conditions, and overall financial performance. If determined that it is more likely than not that there has been a deterioration in the fair value of the carrying value than the first of a two-step process would be performed. The first step, used to identify potential impairment, involves comparing each reporting unit’s estimated fair value to its carrying value, including goodwill. If the estimated fair value of a reporting unit exceeds its carrying value, goodwill is considered not to be impaired. If the carrying value exceeds estimated fair value, there is an indication of potential impairment and the second step is performed to measure the amount of impairment.

 

If required, the second step involves calculating an implied fair value of goodwill for each reporting unit for which the first step indicated impairment. The implied fair value of goodwill is determined in a manner similar to the amount of goodwill calculated in a business combination, by measuring the excess of the estimated fair value of the reporting unit, as determined in the first step, over the aggregate estimated fair values of the individual assets, liabilities and identifiable intangibles as if the reporting unit was being acquired in a business combination. If the implied fair value of goodwill exceeds the carrying value of goodwill assigned to the reporting unit, there is no impairment. If the carrying value of goodwill assigned to a reporting unit exceeds the implied fair value of the goodwill, an impairment charge is recorded for the excess. An impairment loss cannot exceed the carrying value of goodwill assigned to a reporting unit, and the loss establishes a new basis in the goodwill. Subsequent reversal of goodwill impairment losses is not permitted. Management has determined that the Company has one reporting unit.

 

Core deposit intangibles consist of costs that resulted from the acquisition of deposits from Savannah River and First South. Core deposit intangibles represent the estimated value of long-term deposit relationships acquired in this transaction. These costs are amortized over the estimated useful lives of the deposit accounts acquired on a method that we believe reasonably approximates the anticipated benefit stream from the accounts. The estimated useful lives are periodically reviewed for reasonableness.

 

Income Taxes and Deferred Tax Assets and Liabilities

 

Income taxes are provided for the tax effects of the transactions reported in our consolidated financial statements and consist of taxes currently due plus deferred taxes related to differences between the tax basis and accounting basis of certain assets and liabilities, including available-for-sale securities, allowance for loan losses, write downs of OREO properties, accumulated depreciation, net operating loss carry forwards, accretion income, deferred compensation, intangible assets, and pension plan and post-retirement benefits. The deferred tax assets and liabilities represent the future tax return consequences of those differences, which will either be taxable or deductible when the assets and liabilities are recovered or settled. Deferred tax assets and liabilities are reflected at income tax rates applicable to the period in which the deferred tax assets or liabilities are expected to be realized or settled. A valuation allowance is recorded when it is “more likely than not” that a deferred tax asset will not be realized. As changes in tax laws or rates are enacted, deferred tax assets and liabilities are adjusted through the provision for income taxes. We file a consolidated federal income tax return for the Bank. At September 30, 2017 and December 31, 2016, we were in a net deferred tax asset position.

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Other-Than-Temporary Impairment

 

We evaluate securities for other-than-temporary impairment at least on a quarterly basis. Consideration is given to (1) the length of time and the extent to which the fair value has been less than cost, (2) the financial condition and near-term prospects of the issuer, (3) the outlook for receiving the contractual cash flows of the investments, (4) the anticipated outlook for changes in the general level of interest rates, and (5) our intent and ability to retain our investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value or for a debt security whether it is more-likely-than-not that the Company will be required to sell the debt security prior to recovering its fair value (See Note 3 to the Consolidated Financial Statements).

 

Business Combinations, Method of Accounting for Loans Acquired

 

We account for acquisitions under FASB ASC Topic 805, Business Combinations, which requires the use of the acquisition method of accounting. All identifiable assets acquired, including loans, are recorded at fair value. No allowance for loan losses related to the acquired loans is recorded on the acquisition date because the fair value of the loans acquired incorporates assumptions regarding credit risk.

 

Acquired credit-impaired loans are accounted for under the accounting guidance for loans and debt securities acquired with deteriorated credit quality, found in FASB ASC Topic 310-30, Receivables—Loans and Debt Securities Acquired with Deteriorated Credit Quality. and initially measured at fair value, which includes estimated future credit losses expected to be incurred over the life of the loans. Loans acquired in business combinations with evidence of credit deterioration are considered impaired. Loans acquired through business combinations that do not meet the specific criteria of FASB ASC Topic 310-30, but for which a discount is attributable, at least in part to credit quality, are also accounted for under this guidance. Certain acquired loans, including performing loans and revolving lines of credit (consumer and commercial), are accounted for in accordance with FASB ASC Topic 310-20, where the discount is accreted through earnings based on estimated cash flows over the estimated life of the loan.

 

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

 

Net Income

 

Our net income for the nine months ended September 30, 2017 was $5.3 million or $0.78 diluted earnings per common share, as compared to $4.9 million or $0.72 diluted earnings per common share for the nine months ended September 30, 2016. Net interest income increased $1.6 million for the nine months ended September 30, 2017 as compared to the same period 2016. This increase in net income is a result of an increase in average earning assets, which increased by $26.6 million in the first nine months of 2017 as compared to the same period in 2016. Average earning assets were $810.4 million during the nine months ended September 30, 2016 as compared to $837.0 million during the nine months ended September 30, 2017. The net interest margin on a tax equivalent basis increased to 3.51% during the first nine months of 2017 as compared to 3.35% during the first nine months of 2016. Non-interest income increased by $305 thousand in the first nine months of 2017 compared to the first nine months of 2016. This was primarily attributable to an increase in mortgage banking income of $435 thousand in the nine months ended September 30, 2017 as compared to the same period in 2016. Non-interest expense in the nine months ended September 30, 2017 increased $1.7 million as compared to the same period in 2016. This was primarily attributable to an increase in salary and benefits expense of $997 thousand as a result of increases in staff, normal salary adjustments, increased medical benefit premiums and additional costs incurred as a result of our core processing conversion in the first half of 2017, and to costs of approximately $326 thousand related our acquisition of Cornerstone which closed on October 20, 2017.

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Net Interest Income

 

Please refer to the table at the end of this Item 2 for the yield and rate data for interest-bearing balance sheet components during the nine-month periods ended September 30, 2017 and 2016, along with average balances and the related interest income and interest expense amounts.

 

Net interest income was $21.3 million for the nine months ended September 30, 2017 as compared to $19.7 million for the nine months ended September 30, 2016. The $1.6 million increase in net interest income was primarily attributable to an increase in average earning assets of $26.6 million as well as an increase of 16 basis points in the taxable equivalent net interest margin between the two periods. Our net interest margin on a tax equivalent basis was 3.51% during the nine months ended September 30, 2017 as compared to 3.35% for the same period in 2016. The yield on earning assets increased by 11 basis points in the first nine months of 2017 to 3.74% as compared to 3.63% in the same period of 2016. Average loans comprised 67.1% of average earning assets in the first nine months of 2017 as compared to 62.6% in the same period of 2016. The yield on our loan portfolio decreased 11 basis points in the nine month-period ended September 30, 2017 to 4.52% as compared to 4.63% during the same period in 2016. The yield on our investment portfolio increased from 2.04% for the nine month ended September 30, 2016 to 2.21% for the same period in 2017. Recent increases in the federal funds target rate have increased the yields on certain variable rate products in both our loan and investment portfolios. We have approximately $100 million in loans and $32 million in investments that are indexed to the Wall Street Journal prime rate. The prime rate is adjusted as changes are made to the federal funds rate. The cost of interest-bearing liabilities during the first nine months of 2017 was 0.44% as compared to 0.50% in the same period of 2016, reflecting a 6 basis point decrease. The continued focus and resulting shift in our deposit funding mix has continued to allow us to lower our overall cost of funds. Interest-bearing transaction accounts, money market accounts and savings deposits, which are typically our lower costing funds, represent 63.8% of our average interest bearing liabilities during the first nine months of 2017 as compared to 61.5% in the same period of 2016. During the first nine months of 2017, we prepaid $13 million in Federal Home Loan Bank of Atlanta advances and incurred prepayment penalties of $446 thousand on these prepayments. The interest rate on these advances was approximately 4%. These pay-downs contributed to the decline in the average rate on other borrowings from 2.12% during the nine months ended September 30, 2016 to 1.81% for the same period in 2017.

Provision and Allowance for Loan Losses

At September 30, 2017 and December 31, 2016, the allowance for loan losses was $5.7 million and $5.2 million, respectively, which represented 0.99% of total loans and 0.97% of total loans at September 30, 2017 and December 31, 2016, respectively. Loans that were acquired in the acquisition of Savannah River Financial Corporation (“Savannah River”) and in the acquisition of certain deposits and loans from First South Bank (“First South”), both occurring in 2014, are accounted for under Financial Accounting Standards Board (“FASB”) Accounting Standard Codification (“ASC”) 310-30. These acquired loans were initially measured at fair value, which includes estimated future credit losses expected to be incurred over the life of the loans. The credit component on loans related to cash flows not expected to be collected is not subsequently accreted (non-accretable difference) into interest income. Any remaining portion representing the excess of a loan’s or pool’s cash flows expected to be collected over the fair value is accreted (accretable difference) into interest income. At September 30, 2017 and December 31, 2016, the remaining credit component on loans attributable to acquired loans in the Savannah River and First South transactions was $276 thousand and $334 thousand, respectively. Our provision for loan losses was $536 thousand for the nine months ended September 30, 2016 as compared to $360 thousand for the nine months ended September 30, 2017. This provision is made based on our assessment of general loan loss risk and asset quality. The allowance for loan losses represents an amount which we believe will be adequate to absorb probable losses on existing loans that may become uncollectible. Our judgment as to the adequacy of the allowance for loan losses is based on a number of assumptions about future events, which we believe to be reasonable, but which may or may not prove to be accurate. Our determination of the allowance for loan losses is based on evaluations of the collectability of loans, including consideration of factors such as the balance of impaired loans, the quality, mix, and size of our overall loan portfolio, the experience ability and depth of lending personnel, economic conditions (local and national) that may affect the borrower’s ability to repay, the amount and quality of collateral securing the loans, our historical loan loss experience, and a review of specific problem loans. We also consider subjective issues such as changes in the lending policies and procedures, changes in the local/national economy, changes in volume or type of credits, changes in volume/severity of problem loans, quality of loan review and board of director oversight, and concentrations of credit. Periodically, we adjust the amount of the allowance based on changing circumstances. We charge recognized losses to the allowance and add subsequent recoveries back to the allowance for loan losses.

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We perform an analysis quarterly to assess the risk within the loan portfolio. The portfolio is segregated into similar risk components for which historical loss ratios are calculated and adjusted for identified changes in current portfolio characteristics. Historical loss ratios are calculated by product type and by regulatory credit risk classification (See Note 4 – Loans). The annualized weighted average loss ratios over the last 36 months for loans classified substandard, special mention and pass have been approximately 3.73%, 1.39% and 0.02%, respectively. The allowance consists of an allocated and unallocated allowance. The allocated portion is determined by types and ratings of loans within the portfolio. The unallocated portion of the allowance is established for losses that exist in the remainder of the portfolio and compensates for uncertainty in estimating the loan losses. The allocated portion of the allowance is based on historical loss experience as well as certain qualitative factors as explained above. The qualitative factors have been established based on certain assumptions made as a result of the current economic conditions and are adjusted as conditions change to be directionally consistent with these changes. The unallocated portion of the allowance is composed of factors based on management’s evaluation of various conditions that are not directly measured in the estimation of probable losses through the experience formula or specific allowances. The overall risk as measured in our three-year lookback, both quantitatively and qualitatively, does not encompass a full economic cycle. The U.S. economy has been in an extended period of recovery and slow economic growth. The period at which we will reach full recovery or revert back to a slowing economy is not determinable. Net charge-offs in the 2009 to 2011 period averaged 63 basis points annualized in our loan portfolio. Over the most recent three-year period, net charge-offs have averaged approximately 8 basis points annualized. We believe the unallocated portion of our allowance represents potential risk associated throughout a full economic cycle. With the existing economic uncertainty, subpar inflation, geopolitical risks, and global economic slowdown, management does not believe it would be judicious to reduce substantially the overall level of the allowance at this time.

 

Our Company has a significant portion of its loan portfolio with real estate as the underlying collateral. At September 30, 2017 and December 31, 2016, approximately 90.7% of the loan portfolio had real estate collateral. When loans, whether commercial or personal, are granted, they are based on the borrower’s ability to generate repayment cash flows from income sources sufficient to service the debt. Real estate is generally taken to reinforce the likelihood of the ultimate repayment and as a secondary source of repayment. We work closely with all our borrowers that experience cash flow or other economic problems, and we believe that we have the appropriate processes in place to monitor and identify problem credits. There can be no assurance that charge-offs of loans in future periods will not exceed the allowance for loan losses as estimated at any point in time or that provisions for loan losses will not be significant to a particular accounting period. The allowance is also subject to examination and testing for adequacy by regulatory agencies, which may consider such factors as the methodology used to determine adequacy and the size of the allowance relative to that of peer institutions. Such regulatory agencies could require us to adjust our allowance based on information available to them at the time of their examination.

 

Non-performing assets were $3.7 million (0.41% of total assets) at September 30, 2017 as compared to $5.2 million (0.59% of total assets) at December 31, 2016. While we believe our amount of non-performing assets compares favorably to current industry results (both nationally and locally), we continue to be concerned about the impact of this economic environment on our customer base of local businesses and professionals. There were 35 loans totaling $3.0 million included in non-performing status (non-accrual loans and loans past due 90 days and still accruing) at September 30, 2017. The largest non-performing loan is a $903 thousand first mortgage on developed lots to be sold for residential use. The average balance of the remaining 34 loans is approximately $62.1 thousand and the majority of these loans are secured by first mortgage liens. At the time the loans are placed in non-accrual status, we typically obtain an updated appraisal and, if the loan balance exceeds fair value, write the balance down to the fair value. At September 30, 2017, we had loans totaling $2.0 million that were delinquent 30 days to 89 days which represented 0.35% of total loans.

 

Our management continuously monitors non-performing, classified and past due loans to identify deterioration regarding the condition of these loans. We have identified one loan relationship in the amount of $1.0 million that is current as to principal and interest and not included in non-performing assets that could represent a potential problem loan. This balance is included as substandard loans in Note 4 of the financial statements.

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The following table summarizes the activity related to our allowance for loan losses for the periods indicated:

 

Allowance for Loan Losses

 

(Dollars in thousands)  Nine months Ended
September 30,
 
   2017   2016 
Average loans outstanding (including loans held for sale)  $561,844   $507,326 
Loans outstanding at period end  $568,488   $523,441 
Non-performing assets:          
     Nonaccrual loans  $2,914   $3,905 
     Loans 90 days past due still accruing   102    99 
     Foreclosed real estate   733    1,198 
Total non-performing assets  $3,749   $5,202 
           
Beginning balance of allowance  $5,214   $4,596 
Loans charged-off:          
  1-4 family residential mortgage       2 
  Non-residential real estate   30    94 
  Home equity   5    8 
  Commercial        
  Installment & credit card   85    52 
     Total loans charged-off   120    156 
Recoveries:          
  1-4 family residential mortgage   4    39 
  Non-residential real estate   158    16 
  Home equity   24    2 
  Commercial   3    4 
  Installment & credit card   13    10 
     Total recoveries   202    71 
Net loan charge offs (recoveries)   (82)   85 
Provision for loan losses   360    536 
Balance at period end  $5,656   $5,047 
           
Net charge -offs to average loans   -0.01%   0.02%
Allowance as percent of total loans   0.99%   0.96%
Non-performing assets as % of total assets   0.41%   0.57%
Allowance as % of non-performing assets   150.87%   97.02%
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The following allocation of the allowance to specific components is not necessarily indicative of future losses or future allocations. The entire allowance is available to absorb losses in the portfolio.

 

Composition of the Allowance for Loan Losses 

(Dollars in thousands)  September 30, 2017   December 31, 2016 
Commercial, financial, agricultural  $184    7.9%  $145    7.8%
Real estate:                    
  Construction   94    7.5%   104    8.4%
  Mortgage-residential   327    7.8%   438    8.7%
  Mortgage-commercial   2,916    70.2%   2,793    67.9%
Consumer:                    
  Home equity   258    5.3%   153    5.7%
  Other   17    1.3%   127    1.5%
  Unallocated   1,860    N/A    1,454    N/A 
Total  $5,656    100.0%  $5,214    100.0%

 

Accrual of interest is discontinued on loans when management believes, after considering economic and business conditions and collection efforts, that a borrower’s financial condition is such that the collection of interest is doubtful. A delinquent loan is generally placed in nonaccrual status when it becomes 90 days or more past due. At the time a loan is placed in nonaccrual status, all interest, which has been accrued on the loan but remains unpaid is reversed and deducted from earnings as a reduction of reported interest income. No additional interest is accrued on the loan balance until the collection of both principal and interest becomes reasonably certain.

 

Non-interest Income and Non-interest Expense

 

Non-interest income during the first nine months of 2017 was $7.0 million as compared to $6.7 million during the same period in 2016. Mortgage banking income increased $435 thousand during the first nine months of 2017 compared to the same period in 2016. Mortgage loan rates remain favorable and we continue to emphasize this source of revenue. We added one additional mortgage loan originator during the nine-month period ended September 30, 2017 as compared to the same period of 2016. During the first nine months of 2017, mortgage loan production was $83.4 million as compared to $77.2 million in the same period of 2016. Investment advisory fees and non-deposit commissions increased $37.0 thousand to $908 thousand in the first nine months of 2017 as compared to $871 thousand in the same period in 2016. Management continues to focus on increasing this recurring source of revenue by increasing total assets under management. Assets under management at September 30, 2017 amounted to $254.0 million as compared to $195.1 million at September 30, 2016. Recent changes in the payment structure on these types of products have had a negative impact in the short term but will build a recurring revenue stream that should have a beneficial impact in the future. During the first nine months of 2017, we sold investment securities for a net gain of $350 thousand as compared to a gain on the sale of investment securities of $601 thousand in the same period of 2016. The gains in 2017 and 2016 were offset by prepayment penalties in the amount of $446 thousand and $459 thousand, respectively. The prepayment penalties resulted from early payoffs of $13.0 million and $11.4 million of FHLB advances in the first nine months of 2017 and 2016, respectively. We had gains on the sale of other real estate of $128 thousand in the first nine months of 2017 as compared to a loss of $36 thousand in the same period of 2016.

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Total non-interest expense increased by $1.7 million, or 9.0%, during the first nine months of 2017 as compared to the same period in 2016. Salary and benefit expense increased $997 thousand from $11.5 million in the first nine months of 2016 to $12.5 million in the first nine months of 2017. This increase is a result of normal salary adjustments, increased medical benefit premiums and additional costs incurred as a result of our core processing conversion in the first half of 2017. In addition, the increase in mortgage loan production has resulted in increased commission-based compensation received by the mortgage loan producers. At September 30, 2017, we had 208 full time equivalent employees as compared to 201 at September 30, 2016. New staff additions in the last half of 2016 and early in 2017 included eight new positions, including a Chief Operations Officer, loan operations staff, additional lending staff as well as a new financial advisor position. As a result of our core processing conversion that was completed during the first nine months of 2017, we incurred increases in overtime and temporary help of approximately $125 thousand in the first nine months of 2017. We do not anticipate that these costs will be recurring. Equipment expense increased $40 thousand in the first nine months of 2017, as compared to the same period in 2016. This increase is primarily a result of our core processing conversion to an outsourced environment which resulted in writing down certain prepaid items and equipment related to operating our data processing in-house. Marketing and public relations expense increased $86 thousand in the first nine months of 2017 to $615 thousand as compared to $529 thousand in the same period of 2016. We incurred approximately $59 thousand in expenses related to the core processing conversion that were charged to this expense category. FDIC assessments decreased by $102 thousand in the first nine months of 2017 as compared to the same period in 2016. As of July 2016, the FDIC adjusted the assessment calculations and at the time we estimated the new formula would reduce our overall annual assessment by approximately 40 percent. Merger expenses reflected in our 2017 nine month results relate to the previously mentioned acquisition of Cornerstone which closed on October 20, 2017. It is anticipated that there will be additional expenses incurred related to the merger in the fourth quarter of 2017 of approximately $325 thousand. Non-interest expense “Other” increased by $514 thousand in the first nine months of 2017 as compared to the same period in 2016. Data processing fees increased $160 thousand in the first nine months of 2017 as compared to the same period in 2016. These expenses relate to our conversion to an outsourced data processing environment in the first half of 2017. Many of the related costs to data processing were previously captured in the Equipment expense category for maintenance and licensing fees associated with processing in an in-house environment. In addition, legal and professional fees increased $281 thousand.