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EX-32.1 - EXHIBIT 32.1 - AMERICAN RIVER BANKSHARESex32_1.htm
EX-31.2 - EXHIBIT 31.2 - AMERICAN RIVER BANKSHARESex31_2.htm
EX-31.1 - EXHIBIT 31.1 - AMERICAN RIVER BANKSHARESex31_1.htm

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-Q

 

(Mark One)

 

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

 

For the quarterly period ended   March 31, 2020

or

 

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

 

For the transition period from   to  

 

Commission File Number: 0-31525

AMERICAN RIVER BANKSHARES

 

(Exact name of registrant as specified in its charter)

California   68-0352144
(State or other jurisdiction of incorporation or organization)   (I.R.S. Employer Identification No.)

 

3100 Zinfandel Drive, Suite 450, Rancho Cordova, California   95670
(Address of principal executive offices)   (Zip Code)
     

(916) 851-0123

 

(Registrant’s telephone number, including area code)

 

Not Applicable

 

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

Securities registered pursuant to Section 12(b) of the Act:

Title of each class Trading symbol(s)    Name of each exchange on which registered
Common Stock, no par value AMRB Nasdaq Global Select Market

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 such files).

Yes x 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 Smaller reporting company x
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:

No par value Common Stock – 5,918,375 shares outstanding at May 7, 2020

 
 

AMERICAN RIVER BANKSHARES

INDEX TO QUARTERLY REPORT ON FORM 10-Q
FOR THE QUARTER ENDED MARCH 31, 2020

Part I. Page 
     
Item 1. Financial Statements 3
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 27
Item 3. Quantitative and Qualitative Disclosures About Market Risk 44
Item 4. Controls and Procedures 46
     
Part II.    
     
Item 1. Legal Proceedings 46
Item 1A. Risk Factors 46
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 47
Item 3. Defaults Upon Senior Securities 47
Item 4. Mine Safety Disclosures 47
Item 5. Other Information 47
Item 6. Exhibits 47
     
Signatures   48
     
Exhibits    
     
31.1 Certifications of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 49
31.2 Certifications of the Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 50
32.1 Certification of American River Bankshares by its Chief Executive Officer and Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 51

101.INS XBRL Instance Document
101.SCH XBRL Taxonomy Extension Schema
101.CAL XBRL Taxonomy Extension Calculation
101.DEF XBRL Taxonomy Extension Definition
101.LAB XBRL Taxonomy Extension Label
101.PRE XBRL Taxonomy Extension Presentation

2
 

PART I-FINANCIAL INFORMATION

Item 1. Financial Statements.

 

AMERICAN RIVER BANKSHARES

CONSOLIDATED BALANCE SHEET

(Unaudited)

(dollars in thousands) 

March 31,
2020

  

December 31,
2019

 
ASSETS           
Cash and due from banks  $15,272   $15,258 
Interest-bearing deposits in banks   11,400    2,552 
Total cash and cash equivalents   26,672    17,810 
Investment securities:          
Available-for-sale, at fair value   255,624    261,965 
Held-to-maturity, at amortized cost fair value of $261 in 2020 and $266 in 2019   240    248 
Loans, less allowance for loan losses of $5,637 at March 31, 2020 and $5,138 at December 31, 2019   388,044    393,802 
Premises and equipment, net   996    1,191 
Federal Home Loan Bank stock   4,259    4,259 
Goodwill   16,321    16,321 
Other real estate owned   846    846 
Bank owned life insurance   15,847    15,763 
Accrued interest receivable and other assets   7,204    8,148 
Total assets  $716,053   $720,353 
           
LIABILITIES AND SHAREHOLDERS’ EQUITY          
           
Deposits:          
Noninterest bearing   $229,793   $227,055 
Interest-bearing   373,343    377,782 
Total deposits   603,136    604,837 
           
Short-term borrowings   5,000    9,000 
Long-term borrowings   10,500    10,500 
Accrued interest payable and other liabilities   10,563    13,107 
           
Total liabilities    629,199    637,444 
           
Shareholders’ equity:          
Preferred stock, no par value; 10,000,000 shares authorized; none outstanding          
Common stock, no par value; 20,000,000 shares authorized; issued and outstanding – 5,918,375 shares at March 31, 2020 and 5,898,878 shares at December 31, 2019   30,634    30,536 
Retained earnings   51,600    50,581 
Accumulated other comprehensive income, net of taxes   4,620    1,792 
           
Total shareholders’ equity   86,854    82,909 
Total liabilities and shareholders’ equity  $716,053   $720,353 

 

See Notes to Unaudited Consolidated Financial Statements

3
 

AMERICAN RIVER BANKSHARES

CONSOLIDATED STATEMENT OF INCOME

(Unaudited)

        
(dollars in thousands, except per share data)    
For the three months ended March 31,  2020   2019 
Interest income:          
Interest and fees on loans:          
Taxable  $4,675   $3,818 
Exempt from Federal income taxes   230    149 
Interest on Federal funds sold       5 
Interest on deposits in banks   34    44 
Interest and dividends on investment securities:          
Taxable   1,739    2,024 
Exempt from Federal income taxes   37    92 
Total interest income   6,715    6,132 
Interest expense:          
Interest on deposits   440    489 
Interest on borrowings   87    94 
Total interest expense   527    583 
           
Net interest income   6,188    5,549 
           
Provision for loan losses   495    180 
           
Net interest income after provision for loan losses   5,693    5,369 
           
Noninterest income:          
Service charges on deposit accounts   155    121 
Gain on sale of securities   38    36 
Other noninterest income   259    254 
Total noninterest income   452    411 
           
Noninterest expense:          
Salaries and employee benefits   2,865    2,781 
Occupancy   256    257 
Furniture and equipment   143    140 
Federal Deposit Insurance Corporation assessments   27    50 
Expenses related to other real estate owned   5    4 
Other expense   920    1,028 
Total noninterest expense   4,216    4,260 
           
Income before provision for income taxes   1,929    1,520 
Provision for income taxes   497    374 
          
Net income  $1,432   $1,146 
           
Basic earnings per share  $0.24   $0.20 
Diluted earnings per share  $0.24   $0.20 
           

See notes to Unaudited Consolidated Financial Statements

4
 

AMERICAN RIVER BANKSHARES

CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME

(Unaudited)

 

(dollars in thousands)    
For the three months ended March 31,  2020   2019 
Net income  $1,432   $1,146 
Other comprehensive income:          
Increase in net unrealized gains on investment securities   4,053    2,626 
Deferred tax expense   (1,198)   (776)
Increase in net unrealized gains on investment securities, net of tax   2,855    1,850 
          
Reclassification adjustment for realized gains included in net income   (38)   (36)
Tax effect   11    10 
Realized gains, net of tax   (27)   (26)
           
Total other comprehensive income   2,828    1,824 
Comprehensive income  $4,260   $2,970 
           

See notes to Unaudited Consolidated Financial Statements

5
 

AMERICAN RIVER BANKSHARES

CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS’ EQUITY

(Unaudited)

               Accumulated     
               Other   Total 
(dollars in thousands)  Common Stock   Retained   Comprehensive   Shareholders’ 
   Shares   Amount   Earnings   Income (Loss)   Equity 
Balance, January 1, 2019   5,858,428   $30,103   $46,494   $(1,876)  $74,721 
                          
Net income             1,146         1,146 
Other comprehensive income, net of tax:                         
Net change in unrealized gains on available-for-sale investment securities                  1,824    1,824 
                          
Cash dividends ($0.05 per share)             (293)        (293)
Net restricted stock award activity and related compensation expense   18,394    79              79 
Stock options exercised   11,140    95              95 
Stock option compensation expense        4              4 
                          
Balance, March 31, 2019   5,887,962   $30,281   $47,347   $(52)  $77,576 
                          
Balance, January 1, 2020   5,898,878   $30,536   $50,581   $1,792   $82,909 
Net income             1,432         1,432 
Other comprehensive income, net of tax:                         
Net change in unrealized gains on available-for-sale investment securities                  2,828    2,828 
                          
Cash dividends ($0.07 per share)             (413)        (413)
Net restricted stock award activity and related compensation expense   19,497    96              96 
Stock option compensation expense        2              2 
                          
Balance, March 31, 2020   5,918,375   $30,634   $51,600   $4,620   $86,854 

See Notes to Unaudited Consolidated Financial Statements

6
 

AMERICAN RIVER BANKSHARES

CONSOLIDATED STATEMENT OF CASH FLOWS
(Unaudited)

 

(dollars in thousands)        
For the three months ended March 31,  2020   2019 
Cash flows from operating activities:          
Net income  $1,432   $1,146 
Adjustments to reconcile net income to net cash provided by operating activities:          
Provision for loan losses   495    180 
Decrease in deferred loan origination fees and costs, net   (64)   (231)
Depreciation and amortization   219    66 
Gain on sale and call of investment securities   (38)   (36)
Amortization of investment security premiums and discounts, net   304    404 
Increase in cash surrender values of life insurance policies   (84)   (81)
Stock based compensation expense   98    83 
(Increase) decrease in accrued interest receivable and other assets   (407)   349 
Decrease in accrued interest payable and other liabilities   (2,380)   (656)
           
Net cash (used in) provided by operating activities   (425)   1,224 
           
Cash flows from investing activities:          
Proceeds from the sale of available-for-sale investment securities   4,229    2,022 
Proceeds from matured available-for-sale investment securities       3,000 
Purchases of available-for-sale investment securities   (4,987)   (4,702)
Proceeds from principal repayments for available-for-sale investment securities   10,848    10,232 
Proceeds from principal repayments for held-to-maturity investment securities   8    15 
Net decrease (increase) in loans   8,164    (11,746)
Purchases of loans   (2,837)   (5,694)
Purchases of equipment   (24)   (146)
           
Net cash provided by (used in) investing activities   15,401    (7,019)

 

(Continued)

7
 

AMERICAN RIVER BANKSHARES

CONSOLIDATED STATEMENT OF CASH FLOWS (Continued)
(Unaudited)

 

(dollars in thousands)        
For the three months ended March 31,  2020   2019 
Cash flows from financing activities:          
Net increase (decrease) in demand, interest-bearing and savings deposits  $1,193   $(17,895)
Net decrease in time deposits   (2,894)   (400)
(Decrease) increase in short term borrowing   (4,000)   14,000 
Proceeds from exercised options       95 
Cash dividends paid   (413)   (293)
           
Net cash used in financing activities   (6,114)   (4,493)
           
Increase (decrease) in cash and cash equivalents   8,862    (10,288)
           
Cash and cash equivalents at beginning of year   17,810    27,733 
           
Cash and cash equivalents at end of period  $26,672   $19,445 
           
Supplemental noncash disclosures:          
Right of use asset and obligation recorded upon adoption of ASU 2016-02  $   $3,570 
           
Cash paid during the year for:          
Interest expense  $533   $551 
Income taxes  $   $ 

 

See Notes to Unaudited Consolidated Financial Statements

8
 

AMERICAN RIVER BANKSHARES

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

March 31, 2020

 

1. CONSOLIDATED FINANCIAL STATEMENTS

 

In the opinion of management, the unaudited consolidated financial statements contain all adjustments (consisting of only normal recurring adjustments) necessary to present fairly the consolidated financial position of American River Bankshares (the “Company”) at March 31, 2020 and December 31, 2019, the results of its operations and its cash flows for the three-month periods ended March 31, 2020 and 2019 in conformity with accounting principles generally accepted in the United States of America.

 

Certain disclosures normally presented in the notes to the annual consolidated financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been omitted. The Company believes that the disclosures are adequate to make the information not misleading. These interim consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Company’s annual report on Form 10-K for the year ended December 31, 2019. The results of operations for the three-month period ended March 31, 2020 may not necessarily be indicative of the operating results for the full year.

 

In preparing such financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the balance sheet and revenues and expenses for the period. Actual results could differ significantly from those estimates.

 

Management has determined that since all of the banking products and services offered by the Company are available in each branch office of American River Bank, all branch offices are located within the same economic environment and management does not allocate resources based on the performance of different lending or transaction activities, it is appropriate to aggregate all of the branch offices and report them as a single operating segment. No client accounts for more than ten percent (10%) of revenues for the Company or American River Bank.

 

2. STOCK-BASED COMPENSATION 

Equity Plans

On March 17, 2010, the Board of Directors adopted the 2010 Equity Incentive Plan (the “2010 Plan”). The 2010 Plan was approved by the Company’s shareholders on May 20, 2010. At March 31, 2020 there were 29,958 stock options and 54,468 restricted shares outstanding. The 2010 Plan expired by its term on March 17, 2020. Accordingly, outstanding awards under the 2010 Plan are exercisable and will continue to vest until their expiration, but no new awards may be granted under the 2010 Plan. The 2010 Plan provided for the following types of stock-based awards: incentive stock options, nonqualified stock options, stock appreciation rights, restricted stock, restricted performance stock, unrestricted Company stock, and performance units. Under the 2010 Plan, the awards were granted to employees and directors under incentive and nonqualified option agreements, restricted stock agreements, and other awards agreements. The unvested restricted stock under the 2010 Plan have dividend and voting rights. The 2010 Plan required that the option price may not be less than the fair market value of the stock at the date the option is awarded. The option awards expire on dates determined by the Board of Directors, but not later than ten years from the date of award. The vesting period is generally five years; however, the vesting period can be modified at the discretion of the Company’s Board of Directors. Outstanding option awards are exercisable until their expiration. New shares are issued upon exercise of an option.

 

The award date fair value of awards is determined by the market price of the Company’s common stock on the date of award and is recognized ratably as compensation expense or director expense over the vesting periods. The shares of common stock awarded pursuant to such agreements vest in increments over one to five years from the date of award. The shares awarded to employees and directors under the restricted stock agreements vest on the applicable vesting dates only to the extent the recipient of the shares is then an employee or a director of the Company or one of its subsidiaries, and each recipient will forfeit shares that have not vested on the date his or her employment or service is terminated.

9
 

Equity Compensation

For the three-month periods ended March 31, 2020 and 2019, the compensation cost recognized for equity compensation was $98,000 and $83,000, respectively. The recognized tax benefit for equity compensation expense was $26,000 and $21,000, for the three-month periods ended March 31, 2020 and 2019, respectively.

At March 31, 2020, the total compensation cost related to nonvested stock option awards not yet recorded is $1,000. This amount will be recognized over the next 0.25 years and the weighted average period of recognizing these costs is expected to be 0.1 years. At March 31, 2020, the total compensation cost related to restricted stock awards not yet recorded is $591,000. This amount will be recognized over the next 4.2 years and the weighted average period of recognizing these costs is expected to be 1.3 years.

Equity Plans Activity

Stock Options

 

There were no stock options awarded during the three-month periods ended March 31, 2020 and 2019. A summary of option activity under the Plans as of March 31, 2020 and changes during the period then ended is presented below:

 

Options

  Shares   Weighted
Average
Exercise Price
   Weighted
Average
Remaining
Contractual
Term
   Aggregate
Intrinsic
Value ($000)
 
Outstanding at January 1, 2020   29,958   $8.79    4.4 years   $182 
Granted                
Exercised                
Expired, forfeited or cancelled                
Outstanding at March 31, 2020   29,958   $8.79    4.2 years   $8 
Vested at March 31, 2020   27,735   $8.73    4.1 years   $8 
Non-vested at March 31, 2020   2,223   $9.56    5.1 years   $ 

Restricted Stock

 

There were 19,497 shares of restricted stock awarded during the three-month period ended March 31, 2020 and 18,394 shares of restricted stock awarded during the three-month period ended March 31, 2019. There were 9,000 and 3,864 restricted stock awards that were fully vested during the three-month periods ended March 31, 2020 and 2019, respectively. The intrinsic value of nonvested restricted stock at March 31, 2020 was $470,000.

 

Restricted Stock

  Shares   Weighted
Average Grant
Date Fair Value
 
Nonvested at January 1, 2020   43,971   $13.95 
Awarded   19,497    14.64 
Less:  Vested   9,000    14.59 
Less:  Expired, forfeited or cancelled        
Nonvested at March 31, 2020   54,468   $14.09 

 

Other Equity Awards

 

There were no stock appreciation rights, restricted performance stock, unrestricted Company stock, or performance units awarded during the three-month periods ended March 31, 2020 or 2019 or outstanding at March 31, 2020 or December 31, 2019.

10
 

The intrinsic value used for stock options and restricted stock was derived from the market price of the Company’s common stock of $8.62 as of March 31, 2020.

 

3. COMMITMENTS AND CONTINGENCIES

 

In the normal course of business there are outstanding various commitments to extend credit which are not reflected in the financial statements, including loan commitments of approximately $30,524,000 and standby letters of credit of approximately $60,000 at March 31, 2020 and loan commitments of approximately $40,324,000 and standby letters of credit of approximately $300,000 at December 31, 2019. Such commitments relate primarily to real estate construction loans, revolving lines of credit and other commercial loans. However, all such commitments will not necessarily culminate in actual extensions of credit by the Company during 2020 as some of these are expected to expire without being fully drawn upon.

 

Standby letters of credit are commitments issued to guarantee the performance or financial obligation of a client to a third party. These guarantees are issued primarily relating to purchases of inventory, insurance programs, performance obligations to government agencies, or as security for real estate rents by commercial clients and are typically short-term in nature. Credit risk is similar to that involved in extending loan commitments to clients and accordingly, evaluation and collateral requirements similar to those for loan commitments are used. The majority of all such commitments are collateralized. The fair value of the liability related to these standby letters of credit, which represents the fees received for issuing the guarantees, was not significant at March 31, 2020 or December 31, 2019.

4. EARNINGS PER SHARE COMPUTATION

 

Basic earnings per share is computed by dividing net income by the weighted average common shares outstanding for the period (5,858,919 shares and 5,836,579 shares for the three-month periods ended March 31, 2020 and 2019, respectively). Diluted earnings per share reflect the potential dilution that could occur if securities or other contracts to issue common stock, such as stock options or restricted stock, result in the issuance of common stock. Diluted earnings per share is computed by dividing net income by the weighted average common shares outstanding for the period plus the dilutive effect of stock based awards (24,657 shares for the three-month period ended March 31, 2020 and 21,048 shares for the three-month period ended March 31, 2019). For the three-month periods ended March 31, 2020 and 2019, there were zero stock options that were excluded from the calculation as they were considered antidilutive. Earnings per share is retroactively adjusted for stock dividends and stock splits, if applicable, for all periods presented.

 

5. INVESTMENT SECURITIES

The amortized cost and estimated fair values of investment securities at March 31, 2020 and December 31, 2019 consisted of the following (dollars in thousands):

 

Available-for-Sale

   March 31, 2020 
   Amortized
Cost
   Gross
Unrealized
Gains
   Gross
Unrealized
Losses
   Estimated
Fair
Value
 
Debt securities:                    
US Government Agencies and Sponsored Agencies  $229,280   $7,529   $(1,421)  $235,388 
Obligations of states and political subdivisions   13,290    310    (2)   13,598 
Corporate bonds   6,496    147    (5)   6,638 
   $249,066   $7,986   $(1,428)  $255,624 

11
 

   December 31, 2019 
   Amortized
Cost
   Gross
Unrealized
Gains
   Gross
Unrealized
Losses
   Estimated
Fair
Value
 
Debt securities:                    
US Government Agencies and Sponsored Agencies  $239,617   $3,371   $(1,101)  $241,887 
Obligations of states and political subdivisions   13,308    212    (73)   13,447 
Corporate bonds   6,496    135        6,631 
   $259,421   $3,718   $(1,174)  $261,965 

 

Net unrealized gains on available-for-sale investment securities totaling $6,558,000 were recorded, net of $1,938,000 in tax liabilities, as accumulated other comprehensive income within shareholders’ equity at March 31, 2020. Proceeds and gross realized gains from the sale and call of available-for-sale investment securities for the three-month period ended March 31, 2020 totaled $4,229,000 and $38,000, respectively. There were no transfers of available-for-sale investment securities for the three-month period ended March 31, 2020.

 

Net unrealized gains on available-for-sale investment securities totaling $2,544,000 were recorded, net of $752,000 in tax liabilities, as accumulated other comprehensive loss within shareholders’ equity at December 31, 2019. Proceeds and gross realized gains from the sale and call of available-for-sale investment securities for the three-month period ended March 31, 2019 totaled $2,022,000 and $36,000, respectively. There were no transfers of available-for-sale investment securities for the three-month period ended March 31, 2019.

 

Held-to-Maturity

March 31, 2020                
   Amortized
Cost
   Gross
Unrealized
Gains
   Gross
Unrealized
Losses
   Estimated
Fair
Value
 
Debt securities:                    
US Government Agencies and Sponsored Agencies  $240   $21   $   $261 
                     
December 31, 2019                
   Amortized
Cost
   Gross
Unrealized
Gains
   Gross
Unrealized
Losses
   Estimated
Fair
Value
 
Debt securities:                    
US Government Agencies and Sponsored Agencies  $248   $18   $   $266 

 

There were no sales or transfers of held-to-maturity investment securities for the periods ended March 31, 2020 and March 31, 2019. Investment securities with unrealized losses at March 31, 2020 and December 31, 2019 are summarized and classified according to the duration of the loss period as follows (dollars in thousands):

12
 

March 31, 2020  Less than 12 Months   12 Months or More   Total 
   Fair Value   Unrealized
Losses
   Fair Value   Unrealized
Losses
   Fair Value   Unrealized
Losses
 
Available-for-Sale                              
                               
Debt securities:                              
US Government Agencies and Sponsored Agencies  $39,050   $(693)  $22,708   $(728)  $61,758   $(1,421)
Obligations of states and political subdivisions   1,507    (2)           1,507    (2)
Corporate bonds   2,491    (5)           2,491    (5)
   $43,048   $(700)  $22,708   $(728)  $65,756   $(1,428)
                               
December 31, 2019  Less than 12 Months   12 Months or More   Total 
   Fair Value   Unrealized
Losses
   Fair Value   Unrealized
Losses
   Fair Value   Unrealized
Losses
 
Available-for-Sale                              
                               
Debt securities:                              
US Government Agencies and Sponsored Agencies  $65,082   $(438)  $38,380   $(663)  $103,462   $(1,101)
Obligations of states and political subdivisions   8,060    (73)           8,060    (73)
   $73,142   $(511)  $38,380   $(663)  $111,522   $(1,174)

There were no held-to-maturity investment securities with unrealized losses as of March 31, 2020 or December 31, 2019.

 

At March 31, 2020, the Company held 204 securities of which 22 were in a loss position for less than twelve months and 17 were in a loss position for twelve months or more.  These 17 securities consisted of mortgage-backed, corporate and municipal securities.  At December 31, 2019, the Company held 205 securities of which 41 were in a loss position for less than twelve months and 29 were in a loss position for twelve months or more.  These 29 securities consisted of mortgage-backed, corporate and municipal securities.  

 

The unrealized loss on the Company’s investment securities is primarily driven by interest rates.  Because the decline in market value is attributable to a change in interest rates and not credit quality, and because the Company has the ability and intent to hold these investments until recovery of fair value, which may be until maturity, management does not consider these investments to be other-than-temporarily impaired. The amortized cost and estimated fair values of investment securities at March 31, 2020 by contractual maturity are shown below (dollars in thousands).

   Available-for-Sale   Held-to-Maturity 
   Amortized
Cost
   Estimated
Fair
Value
   Amortized
Cost
   Estimated
Fair
Value
 
Within one year  $500   $498           
After one year through five years   2,937    2,940           
After five years through ten years   10,395    10,673           
After ten years   5,954    6,125           
    19,786    20,236           
Investment securities not due at a single maturity date:                    
US Government Agencies and Sponsored Agencies   229,280    235,388   $240   $261 
   $249,066   $255,624   $240   $261 

13
 

Expected maturities will differ from contractual maturities because the issuers of the securities may have the right to call or prepay obligations with or without call or prepayment penalties.

 

6. IMPAIRED AND NONPERFORMING LOANS AND OTHER REAL ESTATE OWNED

 

At March 31, 2020 and December 31, 2019, the recorded investment in nonperforming loans was zero in both periods. Nonperforming loans include all such loans that are either placed on nonaccrual status or are 90 days past due as to principal or interest but still accrue interest because such loans are well-secured and in the process of collection.

 

At March 31, 2020 and December 31, 2019, the recorded investment in other assets was zero and $517,000, respectively. During the first quarter of 2020, the Company sold the repossessed automobile that was in the other assets category at December 31, 2019 for $517,000. Nonperforming loans and other assets and OREO at March 31, 2020 and December 31, 2019 are summarized as follows (in thousands):

   March 31,
2020
   December 31,
2019
 
Nonaccrual loans that are current to terms (less than 30 days past due)  $   $ 
Nonaccrual loans that are past due        
Loans past due 90 days and accruing interest        
Other real estate owned   846    846 
Other assets       517 
Total nonperforming assets  $846   $1,363 
           
Nonperforming loans to total loans        
Total nonperforming assets to total assets   0.12%   0.19%

 

The Company considers a loan to be impaired when, based on current information and events, it is probable that it will be unable to collect all amounts due (principal and interest) according to the contractual terms of the original loan agreement. Impaired loans as of and for the periods ended March 31, 2020 and December 31, 2019 are summarized as follows:

(in thousands)  As of March 31, 2020   As of December 31, 2019 
  

 

Recorded

Investment

  

Unpaid
Principal

Balance

  

 

Related

Allowance

  

 

Recorded

Investment

  

Unpaid
Principal

Balance

  

 

Related

Allowance

 
With no related allowance recorded:                              
                               
Real estate-commercial  $5,502   $5,636   $   $5,530   $5,664   $ 
Real estate-residential   316    403        318    405     
Subtotal  $5,818   $6,039   $   $5,848   $6,069   $ 
                               
With an allowance recorded:                              
                               
Real estate-commercial  $1,596   $1,667   $126    1,622    1,693    133 
Real estate-residential   130    130    8    134    134    9 
Subtotal  $1,726   $1,797   $134   $1,756   $1,827   $142 
                               
Total:                              
                               
Real estate-commercial  $7,098   $7,303   $126   $7,152   $7,357   $133 
Real estate-residential   446    533    8    452    539    9 
   $7,544   $7,836   $134   $7,604   $7,896   $142 
14
 

The following table presents the average balance related to impaired loans for the periods indicated (in thousands):

   Average Recorded Investments
for the three months ended
 
   March 31,
2020
   March 31,
2019
 
         
Real estate-commercial  $7,125   $7,823 
Real estate-residential   449    915 
Total  $7,574   $8,738 

The following table presents the interest income recognized on impaired loans for the periods indicated (in thousands):

   Interest Income Recognized
for the three months ended
 
   March 31,
2020
   March 31,
2019
 
         
Real estate-commercial  $106   $114 
Real estate-residential   7    11 
Total  $113   $125 

 

7. TROUBLED DEBT RESTRUCTURINGS

 

During the periods ended March 31, 2020 and 2019, there were no loans that were modified as troubled debt restructurings.

 

There were no payment defaults during the three months ended March 31, 2020 or March 31, 2019 on troubled debt restructurings made in the preceding twelve months. At March 31, 2020 and December 31, 2019, there were no unfunded commitments on those loans considered troubled debt restructures. See also “Impaired Loans” in Item 2.

8. ALLOWANCE FOR LOAN LOSSES

 

The Company’s loan portfolio allocated by management’s internal risk ratings as of March 31, 2020 and December 31, 2019 are summarized below:

 

March 31, 2020  Credit Risk Profile by Internally Assigned Grade 
(dollars in thousands)      Real Estate 
   Commercial   Commercial   Multi-family   Construction   Residential 
Grade:                         
Pass  $38,000   $211,866   $52,082   $20,871   $28,538 
Watch   37    4,291            598 
Special mention   4,850                 
Substandard       134             
Doubtful or loss                    
Total  $42,887   $216,291   $52,082   $20,871   $29,136 

 

   Credit Risk Profile by Internally Assigned
Grade Other Credit Exposure
     
  Agriculture   Consumer   Total 
Grade:            
Pass  $6,411   $26,587   $384,355 
Watch       73    4,999 
Special mention           4,850 
Substandard           134 
Doubtful or loss            
Total  $6,411   $26,660   $394,338 

15
 

December 31, 2019  Credit Risk Profile by Internally Assigned Grade 
(dollars in thousands)      Real Estate 
   Commercial   Commercial   Multi-family   Construction   Residential 
Grade:                         
Pass  $38,085   $208,140   $56,818   $23,169   $28,570 
Watch   4,915    6,329            610 
Special mention   19                 
Substandard       135             
Doubtful or loss                    
Total  $43,019   $214,604   $56,818   $23,169   $29,180 

 

   Credit Risk Profile by Internally Assigned
Grade Other Credit Exposure
     
   Agriculture   Consumer   Total 
Grade:               
Pass  $6,479   $26,317   $387,578 
Watch       75    11,929 
Special mention           19 
Substandard           135 
Doubtful or loss            
Total  $6,479   $26,392   $399,661 

16
 

The allocation of the Company’s allowance for loan losses and by portfolio segment and by impairment methodology are summarized below:

March 31, 2020                                    
(dollars in thousands)      Real Estate   Other         
   Commercial   Commercial   Multi-family   Construction   Residential   Agriculture   Consumer   Unallocated   Total 
Allowance for Loan Losses                                             
                                              
Beginning balance, January 1, 2020  $950   $1,906   $329   $986   $281   $107   $334   $245   $5,138 
Provision for loan losses   63    349    64    (98)   56    (4)   58    7    495 
Loans charged-off                                    
Recoveries   1    3                            4 
                                              
Ending balance, March 31, 2020  $1,014   $2,258   $393   $888   $337   $103   $392   $252   $5,637 
                                              
Ending balance:                                             
Individually evaluated for impairment  $   $126   $   $   $8   $   $   $   $134 
                                              
Ending balance:                                             
Collectively evaluated for impairment  $1,014   $2,132   $393   $888   $329   $103   $392   $252   $5,503 
                                              
Loans                                             
                                              
Ending balance  $42,887   $216,291   $52,082   $20,871   $29,136   $6,411   $26,660   $   $394,338 
                                              
Ending balance:                                             
Individually evaluated for impairment  $   $7,098   $   $   $446   $   $   $   $7,544 
                                              
Ending balance:                                             
Collectively evaluated for impairment  $42,887   $209,193   $52,082   $20,871   $28,690   $6,411   $26,660   $   $386,794 

17
 

December 31, 2019                                    
(dollars in thousands)      Real Estate   Other         
   Commercial   Commercial   Multi-family   Construction   Residential   Agriculture   Consumer   Unallocated   Total 
Allowance for Loan Losses                                             
                                              
Ending balance  $950   $1,906   $329   $986   $281   $107   $334   $142   $5,138 
                                              
Ending balance:                                             
Individually evaluated for impairment  $   $133   $   $   $9   $   $   $   $142 
                                              
Ending balance:                                             
Collectively evaluated for impairment  $950   $1,773   $329   $986   $272   $107   $334   $245   $4,996 
                                              
Loans                                             
                                              
Ending balance  $43,019   $214,604   $56,818   $23,169   $29,180   $6,479   $26,392   $   $399,661 
                                              
Ending balance:                                             
Individually evaluated for impairment  $   $7,152   $   $   $452   $   $   $   $7,604 
                                              
Ending balance:                                             
Collectively evaluated for impairment  $43,019   $207,452   $56,818   $23,169   $28,728   $6,479   $26,392   $   $392,057 

 

March 31, 2019                                    
(dollars in thousands)      Real Estate   Other         
   Commercial   Commercial   Multi-family   Construction   Residential   Agriculture   Consumer   Unallocated   Total 
Beginning balance, January 1, 2019  $668   $2,114   $564   $267   $220    88   $192   $279   $4,392 
Provision for loan losses   (9)   (86)   (144)   141    129    80    65    4    180 
Loans charged-off                                    
Recoveries   2    3                            5 
                                              
Ending balance, March 31, 2019  $661   $2,031   $420   $408   $349   $168   $257   $283   $4,577 

18
 

The Company’s aging analysis of the loan portfolio at March 31, 2020 and December 31, 2019 are summarized below:

 

March 31, 2020                                
(dollars in thousands)  30-59 Days
Past Due
   60-89 Days
Past Due
   Past Due
Greater Than
89 Days
   Total Past
Due
   Current   Total Loans   Past Due
Greater Than
89 Days and
Accruing
   Nonaccrual 
Commercial:                                        
Commercial  $4,834   $   $   $4,834   $38,053   $42,887   $   $ 
Real estate:                                        
Commercial   810            810    215,481    216,291         
Multi-family                   52,082    52,082         
Construction                   20,871    20,871         
Residential                   29,136    29,136         
Other:                                        
Agriculture                   6,411    6,411         
Consumer   36            36    26,624    26,660         
Total  $5,680   $   $   $5,680   $388,658   $394,338   $   $ 
                                         
December 31, 2019                                
(dollars in thousands)  30-59 Days
Past Due
   60-89 Days
Past Due
   Past Due
Greater Than
89 Days
   Total Past
Due
   Current   Total Loans   Past Due
Greater Than
89 Days and
Accruing
   Nonaccrual 
Commercial:                                        
Commercial  $   $   $   $   $43,019   $43,019   $   $ 
                                         
Real estate:                                        
Commercial                   214,604    214,604         
Multi-family                   56,818    56,818         
Construction                   23,169    23,169         
Residential                   29,180    29,180         
                                         
Other:                                        
Agriculture                   6,479    6,479         
Consumer   75                26,317    26,392         
                                         
Total  $75   $   $   $   $399,586   $399,661   $   $ 
                                         
19
 


9. LEASES

 

The Company adopted ASU 2016-02, Leases (Topic 842), on January 1, 2019, using the alternative transition method whereby comparative periods were not restated. No cumulative effect adjustment to the opening balance of retained earnings was required. The Company also elected the package of practical expedients permitted under the transition guidance within the new standard, which among other things allowed the Company to carry forward the historical lease classifications. Additionally, the Company elected the hindsight practical expedient to determine the lease term for existing leases.

 

The Company leases nine locations for administrative offices and branch locations. All leases were classified as operating leases. Leases with an initial term of 12 months or less are not recorded on the balance sheet and the related lease expense is recognized on a straight-line basis over the lease term. The Company elected to use the practical expedient to not recognize short-term leases on the consolidated balance sheet and instead account for them as executory contracts.

Certain leases include options to renew, with renewal terms that can extend the lease term, typically for five years. Lease assets and liabilities include related options that are reasonably certain of being exercised, however, in the case of those leases that have renewal options, the Company is not including those additional lease terms as the rates are undeterminable and it has been the Company’s historical practice to renegotiate lease terms upon expiration of the original lease terms. The depreciable life of leased assets is limited by the expected lease term.

 

Adoption of this standard resulted in the Company recognizing a right of use asset and a corresponding lease liability of $3,570,000 on January 1, 2019.

 

Supplemental lease information at or for the three months ended March 31, 2020 is as follows:

Balance Sheet     
Operating lease asset classified as other assets  $2,717,000 
Operating lease liability classified as other liabilities   2,932,000 
      
Income Statement     
      
Operating lease cost classified as occupancy and equipment expense  $190,000 
Weighted average lease term, in years   5.47 
Weighted average discount rate (1)   2.98%
Operating cash flows  $194,000 
      
(1)The discount rate was developed by using the fixed rate credit advance borrowing rate at the Federal Home Loan Bank of San Francisco for a term correlating to the remaining life of each lease.

 

A maturity analysis of the Company’s lease liabilities at March 31, 2020 was as follows:

   Balance 
April 1, 2020 to December 31, 2020  $579,000 
January 1, 2021 to December 31, 2021   739,000 
January 1, 2022 to December 31, 2022   707,000 
January 1, 2023 to December 31, 2023   282,000 
January 1, 2024 to December 31, 2024   273,000 
Thereafter   657,000 
Total lease payments   3,237,000 
Less: Interest   (305,000)
Present value of lease liabilities  $2,932,000 

20
 

10. BORROWING ARRANGEMENTS

 

At March 31, 2020 and December 31, 2019, the Company had $17,000,000 of unsecured short-term borrowing arrangements with two of its correspondent banks. There were no advances under the borrowing arrangements as of March 31, 2020 or December 31, 2019.

 

The Company has a line of credit available with the Federal Home Loan Bank of San Francisco (the “FHLB”) which is secured by pledged mortgage loans and investment securities. Borrowings may include overnight advances as well as loans with terms of up to thirty years. Advances (both short-term and long-term) totaling $15,500,000 were outstanding from the FHLB at March 31, 2020, bearing interest rates ranging from 1.31% to 3.17% and maturing between July 13, 2020 and November 24, 2023. Advances totaling $19,500,000 were outstanding from the FHLB at December 31, 2019, bearing interest rates ranging from 1.31% to 3.17% and maturing between January 1, 2020 and November 24, 2023. Remaining amounts available under the borrowing arrangement with the FHLB at March 31, 2020 and December 31, 2019 totaled $144,547,000 and $143,406,000, respectively. In addition, the Company has a secured borrowing agreement with the Federal Reserve Bank of San Francisco. The borrowing can be secured by pledging selected loans and investment securities. Borrowings generally are short-term including overnight advances as well as loans with terms up to ninety days. Amounts available under this borrowing arrangement at March 31, 2020 and December 31, 2019 were $6,527,000 and $8,642,000, respectively. There were no advances outstanding under this borrowing arrangement as of March 31, 2020 and December 31, 2019.

 

11. INCOME TAXES

 

The Company files its income taxes on a consolidated basis with its subsidiaries. The allocation of income tax expense (benefit) represents each entity’s proportionate share of the consolidated provision for (benefit from) income taxes.

The Company accounts for income taxes using the balance sheet method, under which deferred tax assets and liabilities are recognized for the tax consequences of temporary differences between the reported amounts of assets and liabilities and their respective tax basis. Deferred tax assets and liabilities are adjusted for the effects of changes in tax laws and rates on the date of enactment. On the consolidated balance sheet, net deferred tax assets are included in accrued interest receivable and other assets.

The benefit of a tax position is recognized in the financial statements in the period during which, based on all available evidence, management believes it is more likely than not that the position will be sustained upon examination, including the resolution of appeals or litigation processes, if any.  Tax positions that meet the more-likely-than-not recognition threshold are measured as the largest amount of tax benefit that is more than 50 percent likely of being realized upon settlement with the applicable taxing authority. The portion of the benefits associated with tax positions taken that exceeds the amount measured as described above, if applicable, is reflected as a liability for unrecognized tax benefits in the accompanying balance sheet along with any associated interest and penalties that would be payable to the taxing authorities upon examination. The Company recognizes accrued interest and penalties related to unrecognized tax benefits, if applicable, as a component of interest expense in the consolidated statement of income. There have been no unrecognized tax benefits or accrued interest and penalties for the three-month periods ended March 31, 2020 and 2019.

12. FAIR VALUE MEASUREMENTS

The following tables present information about the Company’s assets and liabilities measured at fair value on a recurring and nonrecurring basis as of March 31, 2020 and December 31, 2019. They indicate the fair value hierarchy of the valuation techniques utilized by the Company to determine such fair value. The authoritative accounting guidance for fair value measurements defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. The fair value measurement is the exchange price to sell the asset or transfer the liability (exit price) in the principal market for the asset or liability or, in the absence of a principal market, the most advantageous market for the asset or liability. The price in the principal (or most advantageous) market used to measure the fair value of the asset or liability shall not be adjusted for transaction costs. An orderly transaction is a transaction that assumes exposure to the market for a period prior to the measurement date to allow for marketing activities that are usual and customary for transactions involving such assets and liabilities; it is not a forced transaction. Market participants are buyers and sellers in the principal market that are (i) independent, (ii) knowledgeable, (iii) able to transact, and (iv) willing to transact.

21
 

The authoritative accounting guidance requires the use of valuation techniques that are consistent with the market approach, the income approach and/or the cost approach. The market approach uses prices and other relevant information generated by market transactions involving identical or comparable assets and liabilities. The income approach uses valuation techniques to convert future amounts, such as cash flows or earnings, to a single present amount on a discounted basis. The cost approach is based on the amount that currently would be required to replace the service capacity of an asset (replacement costs). Valuation techniques should be consistently applied. Inputs to valuation techniques refer to the assumptions that market participants would use in pricing the asset or liability. Inputs may be observable, meaning those that reflect the assumptions market participants would use in pricing the asset or liability developed based on market data obtained from independent sources, or unobservable, meaning those that reflect the reporting entity’s own assumptions about the assumptions market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. In that regard, the authoritative guidance establishes a fair value hierarchy for valuation inputs that gives the highest priority to quoted prices in active markets for identical assets or liabilities and the lowest priority to unobservable inputs. The fair value hierarchy is as follows:

 

  · Level 1 Inputs – Unadjusted quoted prices in active markets for identical assets or liabilities that the reporting entity has the ability to access at the measurement date.

  · Level 2 Inputs – Inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either directly or indirectly. These include quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active, inputs other than quoted prices that are observable for the asset or liability (for example, interest rates, volatilities, prepayment speeds, loss severities, credit risks and default rates) or inputs that are derived principally from or corroborated by observable market data by correlation or other means.

  · Level 3 Inputs – Significant unobservable inputs that reflect an entity’s own assumptions that market participants would use in pricing the assets or liabilities.

 

A description of the valuation methodologies used for assets and liabilities measured at fair value, as well as the general classification of such instruments pursuant to the valuation hierarchy, is set forth below. In general, fair value is based upon quoted market prices, where available. If such quoted market prices are not available, fair value is based upon internally developed models that primarily use, as inputs, observable market-based parameters. Valuation adjustments may be made to ensure that financial instruments are recorded at fair value. While management believes the Company’s valuation methodologies are appropriate and consistent with other market participants, the use of different methodologies or assumptions to determine the fair value of certain financial instruments could result in a different estimate of fair value at the reporting date.

 

Securities classified as available-for-sale are reported at fair value utilizing Level 1 and Level 2 inputs. For these securities, the Company obtains fair value measurements from an independent pricing service. The fair value measurements consider observable data that may include market spreads, cash flows, the United States Treasury yield curve, live trading levels, trade execution data, dealer quotes, market consensus prepayments speeds, credit information and the security’s terms and conditions, among other items.

22
 

The carrying amounts and estimated fair values of the Company’s financial instruments are as follows (dollars in thousands):

 

   Carrying   Fair Value Measurements Using:     
March 31, 2020  Amount   Level 1   Level 2   Level 3   Total 
Financial assets:                         
Cash and due from banks  $15,272   $15,272   $   $   $15,272 
Interest-bearing deposits in banks   11,400    11,400            11,400 
Available-for-sale securities   255,624        255,624        255,624 
Held-to-maturity securities   240        261        261 
FHLB stock   4,259    N/A    N/A    N/A    N/A 
Net loans   388,044            399,333    399,333 
Accrued interest receivable   2,012        731    1,281    2,012 
                          
Financial liabilities:                         
Deposits:                         
Noninterest-bearing  $229,793   $229,793   $   $   $229,793 
Savings   72,800    72,800            72,800 
Money market   162,184    162,184            162,184 
NOW accounts   67,444    67,444            67,444 
Time Deposits   70,915        71,206        71,206 
Short-term borrowings   5,000    5,000            5,000 
Long-term borrowings   10,500        10,797        10,797 
Accrued interest payable   114    6    108        114 
                          
   Carrying   Fair Value Measurements Using:     
December 31, 2019  Amount   Level 1   Level 2   Level 3   Total 
Financial assets:                         
Cash and due from banks  $15,258   $15,258   $   $   $15,258 
Interest-bearing deposits in banks   2,552    2,552            2,552 
Available-for-sale securities   261,965        261,965        261,965 
Held-to-maturity securities   248        266        266 
FHLB stock   4,259    N/A    N/A    N/A    N/A 
Net loans:   393,802            396,089    396,089 
Accrued interest receivable   1,929        780    1,149    1,929 
Financial liabilities:                         
                          
Deposits:                         
Noninterest-bearing  $227,055   $227,055   $   $   $227,055 
Savings   75,820    75,820            75,820 
Money market   158,319    158,319            158,319 
NOW accounts   69,834    69,834            69,834 
Time Deposits   73,809        73,924        73,924 
Short-term borrowings   9,000    9,000            9,000 
Long-term borrowings   10.500        10,714        10,714 
Accrued interest payable   120        120        120 

 

Because no market exists for a significant portion of the Company’s financial instruments, fair value estimates are based on judgments regarding current economic conditions, risk characteristics of various financial instruments and other factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with precision. Changes in assumptions could significantly affect the fair values presented.

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Assets and liabilities measured at fair value on a recurring and non-recurring basis are presented in the following table:

Description      Fair Value Measurements Using   Total Gains 
(dollars in thousands)  Fair Value   Level 1   Level 2   Level 3   (Losses) 
March 31, 2020                    
Assets and liabilities measured on a recurring basis:                         
Available-for-sale securities:                         
U.S. Government Agencies and Sponsored Entities  $235,388   $   $235,388   $   $ 
Obligations of states and political subdivisions   13,598        13,598         
Corporate Debt securities   6,638        6,638         
Total recurring  $255,624   $   $255,624   $   $ 
                          
Assets and liabilities measured on a nonrecurring basis:                         
                          
Other real estate owned Land  $846   $   $   $846   $ 
Total nonrecurring  $846   $   $   $846   $ 
                          
Description      Fair Value Measurements Using   Total Gains 
(dollars in thousands)  Fair Value   Level 1   Level 2   Level 3   (Losses) 
December 31, 2019                    
Assets and liabilities measured on a recurring basis:                         
Available-for-sale securities:                         
U.S. Government Agencies and Sponsored Agencies  $241,887   $   $241,887   $   $ 
Corporate Debt securities   6,631        6,631           
Obligations of states and political subdivisions   13,447        13,447         
Total recurring  $261,965   $   $261,965   $   $ 
                          
Assets and liabilities measured on a nonrecurring basis:                         
Other assets:                         
Repossessed asset  $517   $   $   $517   $ 
                         
Other real estate owned Land   846            846     
Total nonrecurring  $1,363   $   $   $1,363   $ 
                          

There were no transfers between Levels 1 and 2 during the three-month period ended March 31, 2020 or the twelve months ended December 31, 2019.

The following methods were used to estimate the fair value of each class of financial instrument above:

Available-for-sale securitiesFair values for investment securities are based on quoted market prices, if available, and are considered Level 1, or evaluated using pricing models that vary by asset class and incorporate available trade, bid and other market information and are considered Level 2. Pricing applications apply available information, as applicable, through processes such as benchmark curves, benchmarking to like securities, sector groupings and matrix pricing.

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Impaired loans – The fair value of collateral dependent impaired loans adjusted for specific allocations of the allowance for loan losses is generally based on recent real estate appraisals and/or evaluations. These appraisals and/or evaluations may utilize a single valuation approach or a combination of approaches including comparable sales, cost and the income approach. Adjustments are routinely made in the appraisal process by the independent appraisers to adjust for differences between the comparable sales and income and other available data. Such adjustments are usually significant and typically result in a Level 3 classification of the inputs for determining fair value. The valuation technique used for all Level 3 nonrecurring impaired loans is the sales comparison approach less a reserve for past dues taxes and selling costs ranging from 8% to 10%.

Other assets and real estate owned – Other assets can contain non-real estate property obtained by repossession of collateral in the case of a loan default and are measured at fair value, less costs to sell. Certain commercial and residential real estate properties classified as OREO are measured at fair value, less costs to sell. Fair values are based on recent appraisals and/or evaluations. These appraisals and/or evaluations may use a single valuation approach or a combination of approaches including comparable sales, cost and the income approach. Adjustments are routinely made in the appraisal process by the independent appraisers to adjust for differences between the comparable sales and income and other available data. Such adjustments are usually significant and typically result in a Level 3 classification of the inputs for determining fair value. The valuation technique used for all Level 3 nonrecurring other assets and OREO is the sales comparison approach less selling costs ranging from 8% to 10%.

13. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS

In June 2016, the Financial Accounting Standards Board (the “FASB”) issued ASU No. 2016-13, “Measurement of Credit Losses on Financial Instruments. This ASU significantly changes how entities will measure credit losses for most financial assets and certain other instruments that aren’t measured at fair value through net income. In issuing the standard, the FASB is responding to criticism that today’s guidance delays recognition of credit losses. The standard will replace today’s “incurred loss” approach with an “expected loss” model. The new model, referred to as the current expected credit loss (“CECL”) model, will apply to: (1) financial assets subject to credit losses and measured at amortized cost, and (2) certain off-balance sheet credit exposures. This includes, but is not limited to, loans, leases, held-to-maturity securities, loan commitments, and financial guarantees. The CECL model does not apply to available-for-sale (“AFS”) debt securities. For AFS debt securities with unrealized losses, entities will measure credit losses in a manner similar to what they do today, except that the losses will be recognized as allowances rather than reductions in the amortized cost of the securities. As a result, entities will recognize changes to estimated credit losses immediately in earnings rather than as interest income over time, as they do today. The ASU also simplifies the accounting model for purchased credit-impaired debt securities and loans. ASU 2016-13 also expands the disclosure requirements regarding an entity’s assumptions, models, and methods for estimating the allowance for credit losses. In addition, entities will need to disclose the amortized cost balance for each class of financial asset by credit quality indicator, disaggregated by the year of origination. ASU No. 2016-13 was initially scheduled to become effective for the Company for interim and annual reporting periods beginning after December 15, 2019, however, on November 15, 2019 the FASB issued ASU 2019-10 delaying the effective date for smaller reporting companies, such as the Company, to interim and annual reporting periods beginning after December 15, 2022; early adoption is still permitted for interim and annual reporting periods beginning after December 15, 2018. Entities will apply the standard’s provisions as a cumulative-effect adjustment to retained earnings as of the beginning of the first reporting period in which the guidance is effective (i.e., modified retrospective approach). While the Company is currently evaluating the provisions of ASU No. 2016-13 to determine the potential impact the new standard will have on the Company’s Consolidated Financial Statements, including if it will early adopt the standard, it has taken steps to prepare for the implementation when it becomes effective, such as forming an internal task force, gathering pertinent data, consulting with outside professionals, evaluating its current IT systems, and purchasing a software solution. The Company has imported current and historical data into the new software and is currently validating the data and intends to begin processing information, on a test basis, with the new CECL specific software during 2020 and 2021 and to disclose any material potential impact of this modeling once it becomes available.

 

In August 2018, the FASB issued ASU 2018-13, “Fair Value Measurement (Topic 820). – Disclosure Framework - Changes to the Disclosure Requirements for Fair Value Measurement.” ASU 2018-13 modifies the disclosure requirements on fair value measurements in Topic 820. The amendments in ASU 2018-13 remove disclosures that no longer are considered cost beneficial, modify/clarify the specific requirements of certain disclosures, and add disclosure requirements identified as relevant. ASU 2018-13 became effective for the Company on January 1, 2020. The effects of adopting ASU No. 2018-13 did not have a material impact on the Company’s financial position, results of operations or cash flows.

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14. NOVEL CORONAVIRUS PANDEMIC (“COVID-19”)

 

The COVID-19 pandemic has placed significant health, economic and other major pressure throughout the communities we serve, the state of California, the United States and the entire world. We have implemented a number of procedures in response to the pandemic to support the safety and wellbeing of our employees and clients, and the financial viability of our clients, that continue through the date of this report:

  · We have addressed the safety of our ten branches and our corporate office, following the guidelines of the Center for Disease Control.  While the branches generally remain open to clients, we have taken steps, and continue to evaluate those steps, to push as much traffic and transactions as possible to our digital and electronic channels and our night depositories, and many of our employees can and are working remotely;

  · We hold executive meetings to address issues that change rapidly;

  · We have provided extensions and deferrals to borrowers requesting such extensions and deferrals and who have demonstrated adverse effects from COVID-19 provided such clients were not 30 days past due; and
  · We have been participating in the Small Business Administration’s (“SBA’s”) Paycheck Protection Program (“PPP”) under the Coronavirus Aid, Relief and Economic Security (“CARES”) Act to help provide potentially forgivable loans to our business clients to provide them with additional working capital to enable them to retain their employees. Through May 4, 2020, we have received SBA approval to fund approximately 470 PPP loans totaling $80 million.  We believe these loans and our participation in the program are good for our clients and the communities we serve.

We continue to closely monitor this pandemic and expect to make future changes to respond to the pandemic as this situation continues to evolve.

 

The potential financial impact is unknown at this time. However, if the economic downturn currently being experienced is sustained, it may adversely impact industries within our business footprint and impair the ability of the Company’s borrowers to fulfill their contractual obligations and reduce our opportunity to create new client relationships. This could cause the Company to experience a material adverse effect to its business operations, asset valuations, financial condition and results of operations. Material adverse effects may include valuation impairments on the Company’s loans, investments, goodwill, or deferred tax assets.

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

The following is management’s discussion and analysis of the significant changes in American River Bankshares’ (the “Company”) balance sheet accounts between December 31, 2019 and March 31, 2020 and its income and expense accounts for the three-month periods ended March 31, 2020 and 2019. The discussion is designed to provide a better understanding of significant trends related to the Company’s financial condition, results of operations, liquidity, capital resources and interest rate sensitivity. This discussion and supporting tables and the consolidated financial statements and related notes appearing elsewhere in this report are unaudited. Interest income and net interest income are presented on a fully taxable equivalent basis (FTE) within management’s discussion and analysis. Certain matters discussed or incorporated by reference in this Quarterly Report on Form 10-Q including, but not limited to, matters described in this “Item 2 - Management’s Discussion and Analysis of Financial Condition and Results of Operations,” are “forward-looking statements” within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended, Section 27A of the Securities Act of 1933, as amended, and subject to the safe-harbor provisions of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements may contain words related to future projections including, but not limited to, words such as “believe,” “expect,” “anticipate,” “intend,” “may,” “will,” “should,” “could,” “would,” and variations of those words and similar words that are subject to risks, uncertainties and other factors that could cause actual results to differ significantly from those projected. Factors that could cause or contribute to such differences include, but are not limited to, the following:

·The adverse effects of the COVID-19 pandemic on the economy, our business, borrowers, customers and employees and the impact of local, state and federal governments in response to the pandemic, including various government stimulus packages;
·current and future legislation and regulation promulgated by the United States Congress and actions taken by governmental agencies that may impact the U.S. financial system;
·the risks presented by economic volatility and recession, which could adversely affect credit quality, collateral values, including real estate collateral, investment values, liquidity and loan originations and loan portfolio delinquency rates;
·variances in the actual versus projected growth in assets and return on assets;
·potential loan losses;
·potential expenses associated with resolving nonperforming assets;
·changes in the interest rate environment including interest rates charged on loans, earned on securities investments and paid on deposits and other borrowed funds;
·competitive effects;
·inadequate internal controls over financial reporting or disclosure controls and procedures;
·changes in accounting policies and practices and the effects of adopting ASU No. 2016-13, Measurement of Credit Losses on Financial Instruments (“CECL”);
·potential declines in fee and other noninterest income earned associated with economic factors;
·general economic conditions nationally, regionally, and within our operating markets could be less favorable than expected or could have a more direct and pronounced effect on us than expected and adversely affect our ability to continue internal growth at historical rates and maintain the quality of our earning assets;
·changes in the regulatory environment including increased capital and regulatory compliance requirements and government intervention in the U.S. financial system;
·changes in business conditions and inflation;
·changes in securities markets, public debt markets, and other capital markets;
·potential data processing, cybersecurity and other operational systems failures, breach or fraud;
·potential decline in real estate values in our operating markets;
·the effects of uncontrollable events such as terrorism, the threat of terrorism or the impact of military conflicts in connection with the conduct of the war on terrorism by the United States and its allies, natural disasters (including earthquakes and wildfires), pandemic disease and viruses, and disruption of power supplies and communications;
·changes in accounting standards, tax laws or regulations and interpretations of such standards, laws or regulations;
·projected business increases following any future strategic expansion could be lower than expected;
·the goodwill we have recorded in connection with acquisitions could become impaired, which may have an adverse impact on our earnings;
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·our ability to comply with any regulatory orders or requirements we may become subject to;
·the effects and costs of litigation and other legal developments;
·the reputation of the financial services industry could experience deterioration, which could adversely affect our ability to access markets for funding and to acquire and retain customers; and
·the efficiencies we may expect to receive from any investments in personnel and infrastructure may not be realized.

The factors set forth under “Item 1A - Risk Factors” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019, and other cautionary statements and information set forth in this Quarterly Report on Form 10-Q should also be carefully considered and understood as being applicable to all related forward-looking statements contained in this Quarterly Report on Form 10-Q, when evaluating the business prospects of the Company and its subsidiaries.

Forward-looking statements are not guarantees of performance. By their nature, they involve risks, uncertainties and assumptions. The future results and shareholder values may differ significantly from those expressed in these forward-looking statements. You are cautioned not to put undue reliance on any forward-looking statement. Any such statement speaks only as of the date of this report, and in the case of any documents that may be incorporated by reference, as of the date of those documents. We do not undertake any obligation to update or release any revisions to any forward-looking statements, to report any new information, future event or other circumstances after the date of this report or to reflect the occurrence of unanticipated events, except as required by law. However, your attention is directed to any further disclosures made on related subjects in our subsequent reports filed with the Securities and Exchange Commission (the “SEC”) on Forms 10-K, 10-Q and 8-K.

Potential Impact of COVID-19

The first quarter of 2020 began with optimism based off the progress made in 2019, but that was stalled when the novel coronavirus pandemic (“COVID-19”) arrived and created a global health crisis that has set off an economic crisis causing significant disruption in the local, national and global economies and financial markets. Continuation and further spread of COVID-19 could cause additional quarantines, shutdowns, reduction in business activity and financial transactions, labor shortages, supply chain interruptions and overall economic and financial market instability. The disruptions in the economy will impair the ability of some of our borrowers to make their loan payments, which could result in significant increases in delinquencies, defaults, foreclosures, declining collateral values, and credit losses on our loans. Similarly, because of changing economic and market conditions, we may be required to recognize credit losses on the investment securities we hold as well.  COVID-19 may also materially disrupt banking and other financial activity generally and may result in a decline in demand for our products and services, including loans and deposits which could negatively impact our liquidity position and our growth strategy. Any one or more of these developments could have a material adverse effect on our business, operations, consolidated financial condition, and consolidated results of operations.

In response to the anticipated economic effects of COVID-19, the Board of Governors of the Federal Reserve System (the “FRB”) has taken a number of actions that have significantly affected the financial markets in the United States, including actions intended to result in substantial decreases in market interest rates, including reducing the target federal funds range by 150 basis points during the first quarter of 2020 to 0% and announcing further quantitative easing in response to the expected economic downturn caused by COVID-19. We expect that these reductions in interest rates, among other actions of the FRB and the Federal government generally, especially if prolonged, could adversely affect our net interest income, margins and profitability.

 

In addition to preparing the Company to handle the impact of the economic crisis, protecting the health and wellbeing of our employees and the financial viability of our clients, is now our highest priority. The Company quickly put its pandemic plan into action to adjust to the impact of the health issues from the COVID-19 pandemic on our employees and our clients. We have been working with our clients by assisting them with loan payment deferrals and maintaining service at all of our branch locations, subject to reduced operating hours. We are encouraging the use of our digital and electronic channels and our night depositories, all the while adhering to the ever-evolving State and Federal guidelines. We have been participating in the Small Business Administration’s (“SBA’s”) Paycheck Protection Program (“PPP”) under the Coronavirus Aid, Relief and Economic Security (“CARES”) Act to help provide loans to our business clients to provide them with additional working capital to enable them to retain their employees.

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We believe the COVID-19 pandemic has already impacted our local economy when Federal, State and local shelter-in-place recommendations were enacted in our markets in March 2020 causing many businesses to close and workers to be furloughed or become unemployed. Essential purpose entities such as medical professionals, food and agricultural businesses, and transportation and logistical businesses were exempted from the closures; however, unemployment rates are increasing in our local market area. Prior to the pandemic unemployment rates were at all-time lows but we believe these figures will increase significantly in the coming months. According to a study performed by the Center for Business & Policy Research at the University of the Pacific, unemployment rates in the Company’s markets are projected to climb to 18.5% in the Sacramento area and 19% in the Santa Rosa area in May 2020. No data is available for the Amador County area but we anticipate unemployment in Amador County to increase along the same lines. The same article predicts the unemployment rate will increase to 19% in the State of California.

The Company has taken measures to protect the health and safety of its employees by implementing remote work arrangements to the full extent possible, and by adjusting banking offices hours and operational measures to promote social distancing. The Company will continue to analyze economic conditions in our geographic markets and perform stress testing of our investment and loan portfolios. The Company does not currently have a stock repurchase program in place. Our Board of Directors will evaluate whether or not to implement a program following such time that the economic impact of the COVID-19 has been assessed and minimized. On April 16, 2020, the Company announced a $0.07 per share cash dividend payable on May 13, 2020 to shareholders of record on April 29, 2020. Future cash dividend decisions will consider, among other business considerations, the impact of COVID-19 on the Company’s capital and liquidity levels. Based on the Company’s current capital levels, historical conservative underwriting policies, low loan-to-deposit ratio, concentration and geographical diversification of the loan portfolio, the Company currently expects to be able to manage the economic risks and uncertainties associated with the COVID-19 pandemic with sufficient liquidity and capital levels.

While the Company is not exposed to large oil and gas, airline, or the entertainment industries we have been evaluating the exposure to potentially increased loan losses related to the COVID-19 pandemic and have identified the following industry segments most impacted by the pandemic as of March 31, 2020:

Industry  Loan Balance   Percentage of
total loans
outstanding
 
         
Hospitality       N/A 
Churches  $18,037,000    4.6%
Restaurants  $5,832,000    1.5%
Eldercare  $6,829,000    1.7%
School/childcare  $4,650,000    1.2%
Recreation (golf/sportsclubs)  $1,943,000    0.5%
Oil/Gas  $6,263,000(1)   1.6%
           
(1)Of this total, $1,080,000 is to a gas station and convenience store; $3,376,000 is to a gas station, convenience store and car wash; $845,000 is to a gas station and convenience store; $642,000 is to an auto restoration company; and $320,000 is to a drive though oil change and car wash facility.

The Company is closely monitoring the effects of the pandemic on our loan and deposit clients. We are focusing on assessing the risks in our loan portfolio and working with our borrowers to minimize potential loan losses. We have implemented loan programs to allow borrowers to defer loan principal and interest payments. See “Working with Borrowers” for more information on loan deferrals. Prior to the SBA closing the PPP and the initial $349 billion that was approved for the program was committed, the Company received approval from the SBA to process and fund 139 PPP loans totaling $49,370,000. On April 24, 2020, another $310 billion was added to the PPP. On April 27, 2020, we began to submit applications to the SBA to seek approval for our clients to obtain PPP loans. As of May 4, 2020, we have received approval from the SBA to process and fund 331 additional PPP loans totaling $30,176,000.

Use of Non-GAAP Financial Measures

 

This Quarterly Report on Form 10-Q (“Form 10Q”) contains certain non-GAAP (Generally Accepted Accounting Principles) financial measures in addition to results presented in accordance with GAAP.  These measures include the taxable equivalent basis used in the computation of the net interest margin and efficiency ratio.  Management has presented these non-GAAP financial measures in this Form 10Q because it believes that they provide useful and comparative information to assess trends in the Company’s financial position reflected in the current quarter and year-to-date results and facilitate comparison of our performance with the performance of our peers.

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Net Interest Margin and Efficiency Ratio (non-GAAP financial measures)

 

In accordance with industry standards, certain designated net interest income amounts are presented on a taxable equivalent basis, including the calculation of net interest margin and the efficiency ratio.  The Company believes the presentation of net interest margin on a taxable equivalent basis using a 21% effective tax rate allows comparability of net interest margin with industry peers by eliminating the effect of the differences in portfolios attributable to the proportion represented by both taxable and tax-exempt loans and investments. The efficiency ratio is a measure of a banking company’s overhead as a percentage of its revenue. The Company derives this ratio by dividing total noninterest expense by the sum of the taxable equivalent net interest income and the total noninterest income.

 

Reconciliation of Annualized Net Interest Margin, Fully Tax Equivalent (non-GAAP)

 

(dollars in thousands)  For the three months
ended March 31,
 
   2020   2019 
Net interest income (GAAP)  $6,188   $5,549 
Tax equivalent adjustment   56    48 
Net interest income - tax equivalent adjusted (non-GAAP)  $6,244   $5,597 
           
Average earning assets  $669,974   $632,995 
Net interest margin (GAAP)   3.71%   3.54%
Net interest margin (non-GAAP)   3.75%   3.59%

 

Reconciliation of Non-GAAP Measure – Efficiency Ratio

 

(dollars in thousands)  For the three months
ended March 31,
 
   2020   2019 
Net interest income (GAAP)  $6,188   $5,519 
Tax equivalent adjustment   56    78 
Net interest income – tax-equivalent adjusted (non-GAAP)  $6,244   $5,597 
Noninterest income   452    411 
Total income   6,696    6,008 
Total noninterest expense   4,216    4,260 
Efficiency ratio, fully tax-equivalent (non-GAAP)   62.96%   70.91%

 

Critical Accounting Policies

General

The Company’s financial statements are prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”). The financial information contained within our statements is, to a significant extent, financial information that is based on measures of the financial effects of transactions and events that have already occurred. We use historical loss data and the economic environment as factors, among others, in determining the inherent loss that may be present in our loan portfolio. Actual losses could differ significantly from the factors that we use. In addition, GAAP itself may change from one previously acceptable method to another method. Although the economics of our transactions would be the same, the timing of events that would impact our transactions could change.

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Allowance for Loan Losses

The allowance for loan losses is an estimate of probable credit losses inherent in the Company’s credit portfolio that have been incurred as of the balance-sheet date. The allowance is based on two basic principles of accounting: (1) “Accounting for Contingencies,” which requires that losses be accrued when it is probable that a loss has occurred at the balance sheet date and such loss can be reasonably estimated; and (2) the “Receivables” topic, which requires that losses be accrued on impaired loans based on the differences between the value of collateral, present value of future cash flows or values that are observable in the secondary market and the loan balance.

The allowance for loan losses is determined based upon estimates that can and do change when the actual risk, loss events, or changes in other factors, occur. The analysis of the allowance uses a historical loss view as an indicator of future losses and as a result could differ from the actual losses incurred in the future. Although management believes the allowance to be adequate, ultimate losses may vary from its estimates. At least quarterly, the Board of Directors reviews the adequacy of the allowance, including consideration of the relative risks in the portfolio, current economic conditions and other factors. If the Board of Directors and management determine that changes are warranted based on those reviews, the allowance is adjusted. For further information regarding our allowance for loan losses, see “Allowance for Loan Losses Activity.”

 

General Development of Business

The Company is a bank holding company registered under the Bank Holding Company Act of 1956, as amended. The Company was incorporated under the laws of the State of California in 1995. As a bank holding company, the Company is authorized to engage in the activities permitted under the Bank Holding Company Act of 1956, as amended, and regulations thereunder. Its principal office is located at 3100 Zinfandel Drive, Suite 450, Rancho Cordova, California 95670 and its telephone number is (916) 854-0123. The Company employed an equivalent of 99 full-time employees as of March 31, 2020.

The Company owns 100% of the issued and outstanding common shares of its banking subsidiary, American River Bank (the “Bank”), and American River Financial, a California corporation which has been inactive since its incorporation in 2003.

American River Bank was incorporated and commenced business in Fair Oaks, California, in 1983 and thereafter moved its headquarters to Sacramento, California in 1985. American River Bank operates five full service offices in Sacramento and Placer Counties including the main office located at 1545 River Park Drive, Suite 107, Sacramento and branch offices in Sacramento, Gold River, and Roseville; two full service offices in Sonoma County in Healdsburg and Santa Rosa; and three full service offices in Amador County in Jackson, Pioneer, and Ione.

 

The Bank’s deposits are insured by the Federal Deposit Insurance Corporation (the “FDIC”) up to applicable legal limits. American River Bank does not offer trust services or international banking services and does not plan to do so in the near future. American River Bank’s primary business is serving the commercial banking needs of small to mid-sized businesses within those counties listed above. American River Bank accepts checking and savings deposits, offers money market deposit accounts and certificates of deposit, makes secured and unsecured commercial, secured real estate, and other installment and term loans and offers other customary banking services. American River Bank owns 100% of two inactive companies, ARBCO and American River Mortgage. ARBCO was formed in 1984 to conduct real estate development and has been inactive since 1995. American River Mortgage has been inactive since its formation in 1994. During 2020 and 2019, the Company conducted no significant activities other than holding the shares of its subsidiaries. However, it is authorized, with the prior approval of the Board of Governors of the Federal Reserve System (the “Federal Reserve Board”), the Company’s principal regulator, to engage in a variety of activities which are deemed closely related to the business of banking. The common stock of the Company is registered under the Securities Exchange Act of 1934, as amended, and is listed and traded on the Nasdaq Global Select Market under the symbol “AMRB.”

 

Overview

 

The Company recorded net income of $1,432,000 for the quarter ended March 31, 2020, which was an increase of $286,000 (25.0%) compared to $1,146,000 reported for the same period of 2019. Diluted earnings per share for the first quarter of 2020 was $0.24, an increase of 20.0% compared to the $0.20 per share reported in the first quarter of 2019. The return on average equity (“ROAE”) and the return on average assets (“ROAA”) for the first quarter of 2020 were 6.77% and 0.80%, respectively, as compared to 6.17% and 0.68%, respectively, for the same period in 2019.

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Total assets of the Company decreased by $4,300,000 (0.6%) from $720,353,000 at December 31, 2019 to $716,053,000 at March 31, 2020. Net loans totaled $388,044,000 at March 31, 2020, a decrease of $5,758,000 (1.5%) from $393,802,000 at December 31, 2019. Deposit balances at March 31, 2020 totaled $603,136,000, a decrease of $1,701,000 (0.3%) from $604,837,000 at December 31, 2019. The Company ended the first quarter of 2020 with a leverage capital ratio of 9.4%, a Tier 1 capital ratio of 15.3%, and a total risk-based capital ratio of 16.6% compared to 9.2%, 14.8%, and 15.9%, respectively, at December 31, 2019.

 

Table One below provides a summary of the components of net income for the periods indicated (See the “Results of Operations” section that follows for an explanation of the fluctuations in the individual components).

 

Table One: Components of Net Income

 

(dollars in thousands)  For the three months ended
March 31,
 
   2020   2019 
Interest income*  $6,771   $6,180 
Interest expense   (527)   (583)
Net interest income*   6,244    5,597 
Provision for loan losses   (495)   (180)
Noninterest income   452    411 
Noninterest expense   (4,216)   (4,260)
Provision for income taxes   (497)   (374)
Tax equivalent adjustment   (56)   (48)
Net income  $1,432   $1,146 
           
Average total assets  $721,439   $686,162 
Net income (annualized) as a percentage of average total assets   0.80%   0.68%

*Fully taxable equivalent basis (FTE)

 

Results of Operations

Net Interest Income and Net Interest Margin

Net interest income represents the excess of interest and fees earned on interest earning assets (loans, securities, Federal funds sold and investments in time deposits) over the interest paid on interest-bearing deposits and borrowed funds. Net interest margin is net interest income expressed as a percentage of average earning assets. The Company’s net interest margin was 3.75% for the three months ended March 31, 2020 and 3.59% for the three months ended March 31, 2019.

The fully taxable equivalent interest income component for the first quarter of 2020 increased $591,000 (9.6%) to $6,771,000 compared to $6,180,000 for the three months ended March 31, 2019. The increase in the fully taxable equivalent interest income for the first quarter of 2020 compared to the same period in 2019 is broken down by rate (down $7,000) and volume (up $598,000). The primary driver in this rate decrease was a decrease in the yield on investments, which led to a decrease of $113,000, and a decrease in the yield on interest-bearing deposits in banks, which led to a decrease of $25,000. These decreases were partially offset by an increase in the yield on loans, which contributed an increase of $131,000. The yield on investments decreased from 2.87% in the first three months of 2019 to a yield of 2.69% during the first three months of 2020. The yield on loans increased from 4.93% in the first quarter of 2019 to 5.03% in the first quarter of 2020. The volume increase of $598,000 was primarily from an increase in loans ($826,000) partially offset by a decrease in investment balances ($238,000). Average loans balances increased $67,752,000, (or 20.6%), from $328,570,000 during the first quarter of 2019 to $396,322,000 during the first quarter of 2020 and the average investment balances decreased $32,229,000, (or 10.8%), from $297,266,000 during the first quarter of 2019 to $265,037,000 during the first quarter of 2020. This increase in loans and decrease in investments increased the yield on earning assets from 3.96% during the first quarter of 2019 to 4.06% during the first quarter of 2020.

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Interest expense was $527,000 or $56,000 (9.6%) lower in the first quarter of 2020 compared to $583,000 in the first quarter of 2019. The net $56,000 decrease in interest expense during the first quarter of 2020 compared to the first quarter of 2019 was predominantly volume related which reduced expense by $79,000. This decrease was partially offset by rates which increased expense by $23,000. Despite the decrease in interest expense related to volume, the Company experienced an increase in interest bearing balances. Average interest bearing balances increased $743,000 (0.2%) from $391,774,000 in the first quarter of 2019 to $392,517,000 in the first quarter of 2020. The increase in balances occurred in the lower cost interest checking and money market deposit balances which increased $19,219,000 (9.1%) from $211,003,000 in the first quarter of 2019 to $230,222,000 in the first quarter of 2020. This increase was partially offset by a decrease in the higher cost time deposit balances which decreased $16,849,000 (19.2%) from $87,636,000 in the first quarter of 2019 to $70,787,000 in the first quarter of 2020. Also, despite the increase in interest expense due to rates the overall cost of funds decreased from 0.60% in the first three months of 2019 to 0.54% during the first three months of 2020. Rates decreased in the higher cost time deposits, which decreased from 1.80% in the first quarter of 2019 to 1.30% in the first quarter of 2020.

Table Two, Analysis of Net Interest Margin on Earning Assets, and Table Three, Analysis of Volume and Rate Changes on Net Interest Income and Expenses, are provided to enable the reader to understand the components and trends of the Company’s interest income and expenses. Table Two provides an analysis of net interest margin on earning assets setting forth average assets, liabilities and shareholders’ equity; interest income earned and interest expense paid and average rates earned and paid; and the net interest margin on earning assets. Table Three sets forth a summary of the changes in interest income and interest expense from changes in average asset and liability balances (volume) and changes in average interest rates.

 

Table Two: Analysis of Net Interest Margin on Earning Assets

 

Three Months Ended March 31,  2020   2019 
(Taxable Equivalent Basis)
(dollars in thousands)
 

Avg

Balance

  

 

Interest

  

Avg

Yield (4)

  

Avg

Balance

  

 

Interest

  

Avg

Yield (4)

 
Assets                              
Earning assets:                              
Taxable loans(1)  $372,826   $4,675    5.04%  $312,588   $3,818    4.95%
Tax-exempt loans(2)   23,496    278    4.76%   15,982    178    4.52%
Taxable investment securities   259,592    1,739    2.69%   283,006    2,024    2.90%
Tax-exempt investment securities(2)   5,445    45    3.32%   14,260    111    3.16%
Federal funds sold               700    5    2.90%
Interest-bearing deposits in banks   8,615    34    1.59%   6,459    44    2.76%
Total earning assets   669,974    6,771    4.06%   632,995    6,180    3.96%
Cash & due from banks   16,008              16,176           
Other assets   40,675              41,411           
Allowance for loan losses   (5,218)             (4,420)          
   $721,439             $686,162           
                               
Liabilities & Shareholders’ Equity                        
Interest bearing liabilities:                              
Interest checking and money market  $230,222    204    0.36%  $211,003    94    0.18%
Savings   74,530    7    0.04%   73,602    7    0.04%
Time deposits   70,787    229    1.30%   87,636    388    1.80%
Other borrowings   16,978    87    2.06%   19,533    94    1.95%
Total interest bearing liabilities   392,517    527    0.54%   391,774    583    0.60%
Noninterest bearing demand deposits   232,562              209,456           
Other liabilities   11,282              9,628           
Total liabilities   636,361              610,858           
Shareholders’ equity   85,078              75,304           
   $721,439             $686,162           
Net interest income & margin(3)       $6,244    3.75%       $5,597    3.59%

 

(1)Loan interest includes loan fees of $171,000 and $106,000, respectively, during the three months ended March 31, 2020 and March 31, 2019.  Average loan balances include non-performing loans.
(2)Includes taxable-equivalent adjustments that primarily relate to income on certain loans and securities that is exempt from federal income taxes. The effective federal statutory tax rate was 21% for 2020 and 2019.
(3)Net interest margin is computed by dividing net interest income by total average earning assets.
(4)Average yield is calculated based on actual days in the period (91 days for 2020 and 90 days for 2019) and annualized to actual days in the year (366 days for 2020 and 365 days for 2019).

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Table Three:  Analysis of Volume and Rate Changes on Net Interest Income and Expenses

 

Three Months Ended March 31, 2020 over 2019 (dollars in thousands)

Increase (decrease) due to change in:

Interest-earning assets:  Volume   Rate (4)   Net Change 
Taxable net loans (1)(2)  $742   $115   $857 
Tax-exempt net loans (3)   84    16    100 
Taxable investment securities   (169)   (116)   (285)
Tax exempt investment securities (3)   (69)   3    (66)
Federal funds sold   (5)       (5)
Interest-bearing deposits in banks   15    (25)   (10)
Total   598    (7)   591 
Interest-bearing liabilities:               
Interest checking and money market   9    101    110 
Savings deposits            
Time deposits   (75)   (84)   (159)
Other borrowings   (13)   6    (7)
Total   (79)   23    (56)
Interest differential  $677   $(30)  $647 

 

(1)The average balance of nonaccrual loans is immaterial as a percentage of total loans and has been included in net loans.
(2)Loan interest includes loan fees of $171,000 and $106,000, respectively, during the three months ended March 31, 2020 and March 31, 2019 which have been included in the interest income computation.
(3)Includes taxable-equivalent adjustments that primarily relate to income on certain loans and securities that is exempt from federal income taxes.  The effective federal statutory tax rate was 21% for 2020 and 2019.
(4)The rate/volume variance has been included in the rate variance.

Provision for Loan Losses

The Company provided $495,000 to the provision for loan losses for the first quarter of 2020 compared to $180,000 in the first quarter of 2019. The Company experienced net loan recoveries of $4,000 or (0.00%) (on an annualized basis) of average loans for the three months ended March 31, 2020 compared to net loan recoveries of $5,000 or (0.01%) (on an annualized basis) of average loans for the three months ended March 31, 2019. The Company continues to experience an overall improvement in the credit quality of the loan portfolio and a reduction of credit losses, however, due to the uncertain economic impact on the Company’s borrowers due to COVID-19, the $495,000 addition to the provision for loan losses during the first quarter of 2020 was warranted. For additional information see the “Allowance for Loan Losses Activity” and “Potential Impact of COVID-19.”

Noninterest Income

Table Four below provides a summary of the components of noninterest income for the periods indicated (dollars in thousands):

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Table Four: Components of Noninterest Income
(dollars in thousands)

 

  

Three Months Ended

March 31,

 
   2020   2019 
Service charges on deposit accounts  $155   $121 
Gain on sale of securities   38    36 
Merchant fee income   93    90 
Bank owned life insurance   84    81 
Other   82    83 
Total noninterest income  $452   $411 

 

Noninterest income increased $41,000 (10.0%) to $452,000 for the three months ended March 31, 2020 as compared to $411,000 for the three months ended March 31, 2019. The increase in noninterest income was primarily related to higher service charges on deposit accounts, which increased $34,000 (28.1%) from $121,000 in 2019 to $155,000 in 2020.