10-Q 1 f10qhbi093012.htm f10qhbi093012.htm


 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C.  20549
FORM 10-Q

[X] Quarterly Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934

For the quarterly period ended September 30,  2012

[   ] 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:  0-27622

HIGHLANDS BANKSHARES, INC.
(Exact name of registrant as specified in its charter)


Virginia
(State or other jurisdiction of
incorporation or organization)
54-1796693
(I.R.S. Employer
Identification No.)
 
P.O. Box 1128
Abingdon, Virginia
(Address of principal executive offices)
 
 
24212-1128
(Zip Code)

276-628-9181
(Registrant’s telephone number, including area code)

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

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

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or smaller reporting company (See definition of “large accelerated filer, accelerated filer and smaller reporting company” in Rule 12b-2 of the Act). Large Accelerated Filer  o   Accelerated Filer  o    Non-Accelerated Filer o  Smaller Reporting Company  x
 
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.
5,011,152 shares of common stock, par value $0.625 per share,
outstanding as of November 14, 2012
 
 



 
 

 

Highlands Bankshares, Inc.

FORM 10-Q
For the Quarter Ended September 30, 2012

INDEX
   
PART I. FINANCIAL INFORMATION                                                                                                                      
PAGE
   
Item 1.  Financial Statements
 
   
Consolidated Balance Sheets
  at September 30, 2012 (Unaudited) and December 31, 2011
 
3
   
Consolidated Statements of Income (Unaudited)
  for the Three Months and Nine Months Ended  September 30, 2012 and 2011
4
   
    Consolidated Statements of Comprehensive Income (Unaudited)
  for the Three Months and Nine Months Ended September 30, 2012 and 2011
5
   
Consolidated Statements of Cash Flows (Unaudited)
  for the  Nine Months Ended September 30, 2012 and 2011
6
   
Consolidated Statements of Changes in
  Stockholders’ Equity (Unaudited) for the Three Months and Nine Months
  Ended September 30, 2012 and 2011
7
   
Notes to Consolidated Financial Statements (Unaudited)
8-38
   
Item 2. Management’s Discussion and Analysis of
              Financial Condition and Results of Operations
39-46
   
Item 3. Quantitative and Qualitative Disclosures About Market Risk
46
   
Item 4.  Controls and Procedures
46
 
 
PART II.  OTHER INFORMATION
 
   
Item 1.  Legal Proceedings
47
   
Item 1A. Risk Factors
47
   
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
48
   
SIGNATURES
49


 
2

 

PART I.
FINANCIAL INFORMATION
 ITEM 1.  Financial Statements

Consolidated Balance Sheets
(Amounts in thousands)
   
(Unaudited)
 September 30, 2012
   
(Note 1)
December 31, 2011
 
ASSETS
           
Cash and due from banks
  $ 21,193     $ 15,734  
Federal funds sold
    55,621       70,341  
                 
   Total Cash and Cash Equivalents
    76,814       86,075  
                 
Investment securities available for sale  (amortized cost $62,422 at  September 30, 2012, $67,372 at December 31, 2011)
    59,788       64,252  
Other investments, at cost
    4,931       5,308  
Loans, net of allowance for loan losses of $7,849 at  September 30, 2012, $9,024 at December 31, 2011
    390,035       398,780  
Premises and equipment, net
    21,347       21,883  
Deferred tax assets
    7,931       8,615  
Interest receivable
    2,469       2,369  
Bank owned life Insurance
    13,573       13,230  
Other real estate owned, net
    18,013       16,724  
Other assets
    4,039       3,747  
                 
    Total Assets
  $ 598,940     $ 620,983  
                 
LIABILITIES AND STOCKHOLDERS’ EQUITY
               
                 
LIABILITIES
               
Deposits:
               
  Non-interest bearing
  $ 107,574     $ 98,950  
  Interest bearing
    384,060       416,411  
                 
    Total Deposits
    491,634       515,361  
                 
Interest, taxes and other liabilities
    2,213       2,570  
Other short-term borrowings
    20,175       57,676  
Long-term debt
    51,336       13,964  
Capital securities
    3,150       3,150  
                 
    Total Other Liabilities
    76,874       77,360  
                 
    Total Liabilities
    568,508       592,721  
                 
STOCKHOLDERS’ EQUITY
               
                 
Common stock (5,011 shares issued and outstanding)
    3,132       3,132  
Additional paid-in capital
    7,783       7,783  
Retained earnings
    21,256       19,406  
Accumulated other comprehensive income (loss)
    (1,739 )     (2,059 )
                 
  Total Stockholders’ Equity
    30,432       28,262  
                 
    Total Liabilities and Stockholders’ Equity
  $ 598,940     $ 620,983  
                 
See accompanying Notes to Consolidated Financial Statements

 
3

 

Consolidated Statements of Income
(Amounts in thousands, except per share data)
(Unaudited)
   
Nine Months Ended September 30, 2012
   
Nine Months Ended September 30, 2011
   
Three Months Ended
 September 30, 2012
   
Three Months Ended
September 30, 2011
 
INTEREST INCOME
                       
Loans receivable and fees on loans
  $ 17,712     $ 18,898     $ 5,728     $ 6,170  
Securities available for sale:
                               
  Taxable
    679       1,005       210       349  
  Exempt from taxable income
    532       611       155       201  
Other investment income
    73       63       29       28  
Federal funds sold
    109       112       33       39  
                                 
    Total Interest Income
    19,105       20,689       6,155       6,787  
                                 
INTEREST EXPENSE
                               
Deposits
    3,360       5,027       967       1,589  
Other borrowed funds
    2,529       2,620       824       855  
                                 
    Total Interest Expense
    5,889       7,647       1,791       2,444  
                                 
    Net Interest Income
    13,216       13,042       4,364       4,343  
                                 
Provision for Loan Losses
    857       4,238       236       449  
                                 
    Net Interest Income after Provision for Loan Losses
    12,359       8,804       4,128       3,894  
                                 
NON-INTEREST INCOME
                               
Securities gains, losses, net
    663       251       458       108  
Service charges on deposit accounts
    1,516       1,565       516       534  
Other service charges, commissions and fees
    1,357       1,322       382       427  
Other operating income
    643       745       233       400  
Other than temporary impairment
    (167 )     (269 )     --       -  
    Total Non-Interest Income
    4,012       3,614       1,589       1,469  
                                 
NON-INTEREST EXPENSE
                               
Salaries and employee benefits
    7,025       7,516       2,358       2,454  
Occupancy expense of bank premises
    896       820       300       300  
Furniture and equipment expense
    936       1,019       292       320  
Other operating expense
    4,106       4,275       1,303       1,412  
Foreclosed Assets – Loss on Sale / Write-down
    374       1,419       166       702  
Foreclosed Assets – Operating Expenses
    665       919       244       224  
    Total Non-Interest Expense
    14,002       15,968       4,663       5,412  
                                 
    Income (Loss) Before Income Taxes
    2,369       (3,550 )     1,054       (49 )
                                 
Income Tax Expense (Benefit)
    519       (1,524 )     272       (124 )
                                 
    Net Income (Loss)
  $ 1,850     $ (2,026 )   $ 782     $ 75  
                                 
Basic Earnings Per Common Share – Weighted Average
  $ 0.37     $ (0.41 )   $ 0.16     $ 0.01  
                                 
Earnings Per Common Share – Assuming Dilution
  $ 0.37     $ (0.41 )   $ 0.16     $ 0.01  

See accompanying Notes to Consolidated Financial Statements


 
4

 


Consolidated Statements of Comprehensive Income
(Amounts in thousands)
(Unaudited)

   
Nine Months Ended  September 30, 2012
   
Nine Months Ended September 30, 2011
 
             
             
Net Income (Loss)
  $ 1,850     $ (2,026 )
                 
     Other Comprehensive Income
               
          Unrealized gains on securities during the period
    1,148       2,898  
  Less: reclassification adjustment for gains included in net income
    (663 )     (251 )
          Other Comprehensive Income, before tax
    485       2,647  
           Income tax expense related to other
           comprehensive income
    165       900  
    Other Comprehensive Income
    320       1,747  
Comprehensive Income (Loss)
  $ 2,170     $ (279 )
                 




   
Three Months Ended  September 30, 2012
   
Three Months Ended September 30, 2011
 
             
             
Net Income (Loss)
  $ 782     $ 75  
                 
     Other Comprehensive Income
               
          Unrealized gains on securities during the period
    205       1,440  
  Less: reclassification adjustment for gains included in net income
    (458 )     (108 )
          Other Comprehensive Income (Loss), before tax
    (253 )     1,332  
           Income tax expense (benefit)  related to other
           comprehensive income
    (86 )     453  
    Other Comprehensive Income (Loss)
    (167 )     879  
Comprehensive Income
  $ 615     $ 954  
                 

See accompanying Notes to Consolidated Financial Statements








 
5

 

Consolidated Statements of Cash Flows
(Amounts in thousands)
(Unaudited)
   
Nine Months Ended
   
Nine Months Ended
 
   
September 30, 2012
   
September 30, 2011
 
CASH FLOWS FROM OPERATING  ACTIVITIES:
           
Net income (loss)
  $ 1,850     $ (2,026 )
Adjustments to reconcile net income  (loss) to net cash provided by operating activities
               
Provision for loan losses
    857       4,238  
Depreciation and amortization
    744       847  
Net realized (gains) losses on available for sale securities
    (663 )     (251 )
Net amortization on securities
    536       353  
             Other than temporary impairment charge
    167       269  
Amortization of Capital issue costs
    4       4  
            (Increase) decrease in interest receivable
    (100 )     (12 )
Valuation adjustment of other real estate owned
    243       1,321  
Increase in other assets
    (234 )     (155 )
Decrease in interest, taxes and other liabilities
    (357 )     (472 )
                 
Net cash provided by operating activities
     3,047       4,116  
                 
CASH FLOWS FROM INVESTING ACTIVITIES:
               
Securities available for sale:
               
       Proceeds from sale of securities
    11,557       13,910  
Proceeds from maturities of debt and equity securities
    17,737       3,483  
Purchase of debt and equity securities
    (24,217 )     (21,358 )
Redemption of other investments
    377       528  
Net decrease in loans
    1,387       24,275  
Proceeds from sales of other real estate owned
    4,970       3,117  
Premises and equipment expenditures
    (263 )  
(35)
 
                 
Net cash provided by investing activities
    11,548       23,920  
                 
CASH FLOWS FROM FINANCING ACTIVITIES:
               
Net decrease in time deposits
    (43,984 )     (27,305 )
Net increase in demand, savings and other deposits
    20,257       15,908  
Increase (decrease) in short-term borrowings
    (37,501 )     (8,279 )
Increase (decrease) in long-term debt
    37,372       (960 )
                 
Net cash  used in financing activities
    (23,856 )     (20,636 )
                 
Net increase (decrease) in cash and cash equivalents
    (9,261 )     7,400  
CASH AND CASH EQUIVALENTS AT BEGINNING OF YEAR
    86,075       82,152  
                 
CASH AND CASH EQUIVALENTS AT END OF PERIOD
  $ 76,814     $ 89,552  
                 
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
               
Cash paid during the year for:
               
Interest
  $ 5,807     $ 7,761  
                 
     SUPPLEMENTAL DISCLOSURE OF NONCASH TRANSACTIONS
               
Transfer of loans to other real estate owned
  $ 6,501     $ 6,041  

See accompanying Notes to Consolidated Financial Statements



 
6

 

Consolidated Statements of Changes in Stockholders’ Equity
(Amounts in thousands)
(Unaudited)
                           
Accumulated
       
               
Additional
         
Other
   
Total
 
   
Common Stock
   
Paid-in
   
Retained
   
Comprehensive
   
Stockholders’
 
   
Shares
   
Par Value
   
Capital
   
Earnings
   
Income
   
Equity
 
                                     
Balance, June 30, 2011
    5,011     $ 3,132     $ 7,783     $ 23,822     $ (3,090 )   $ 31,647  
                                                 
Net income / (loss)
    -       -       -       75       -       75  
                                                 
Other comprehensive income
    -       -       -       -       879       879  
                                                 
Balance, September 30, 2011
    5,011     $ 3,132     $ 7,783     $ 23,897     $ (2,211 )   $ 32,601  
                                                 
Balance, June 30, 2012
    5,011     $ 3,132     $ 7,783     $ 20,474     $ (1,572 )   $ 29,817  
                                                 
Net income / (loss)
    -       -       -       782       -       782  
                                                 
Other comprehensive income
    -       -       -       -       (167 )     (167 )
                                                 
Balance, September  30, 2012
    5,011     $ 3,132     $ 7,783     $ 21,256     $ (1,739 )   $ 30,432  
                                                 
                                                 


                           
Accumulated
       
               
Additional
         
Other
   
Total
 
   
Common Stock
   
Paid-in
   
Retained
   
Comprehensive
   
Stockholders’
 
   
Shares
   
Par Value
   
Capital
   
Earnings
   
Income
   
Equity
 
                                     
Balance, December 31, 2010
    5,011     $ 3,132     $ 7,783     $ 25,923     $ (3,958 )   $ 32,880  
                                                 
Net income / (loss)
    -       -       -       (2,026 )     -       (2,026 )
                                                 
Other comprehensive income
    -       -       -       -       1,747       1,747  
                                                 
Balance, September 30, 2011
    5,011     $ 3,132     $ 7,783     $ 23,897     $ (2,211 )   $ 32,601  
                                                 
Balance, December 31, 2011
    5,011     $ 3,132     $ 7,783     $ 19,406     $ (2,059 )   $ 28,262  
                                                 
Net income / (loss)
    -       -       -       1,850       -       1,850  
                                                 
Other comprehensive income
    -       -       -       -       320       320  
                                                 
                                                 
Balance, September 30, 2012
    5,011     $ 3,132     $ 7,783     $ 21,256     $ (1,739 )   $ 30,432  
                                                 
                                                 

See accompanying Notes to Consolidated Financial Statements







 
7

 

Notes to Consolidated Financial Statements
(Unaudited)
(in thousands, except share, per share and percentage data)
 
 
Note 1  -  General

The consolidated financial statements of Highlands Bankshares, Inc. (the “Company”) conform to United States generally accepted accounting principles and to banking industry practices. The accompanying consolidated interim financial statements are unaudited. In the opinion of management, all adjustments necessary for a fair presentation of the consolidated financial statements have been included. All such adjustments are of a normal and recurring nature. The consolidated balance sheet as of December 31, 2011 has been extracted from the audited financial statements included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2011 (the “2011 Form 10-K”). The notes included herein should be read in conjunction with the notes to consolidated financial statements included in the 2011 Form 10-K. The results of operations for the three-month and nine-month periods ended September 30, 2012 are not necessarily indicative of the results to be expected for the full year.

The preparation of financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

Note 2  -  Loans and Allowance for Loan Losses  (amounts in thousands)
 The composition of net loans is as follows:

   
September 30, 2012
   
December 31, 2011
 
Real Estate Secured:
           
Residential 1-4 family
  $ 169,332     $ 169,027  
Multifamily
    17,332       15,375  
Construction and Land Loans
    20,001       23,295  
Commercial, Owner Occupied
    65,856       71,367  
Commercial, Non-owner occupied
    36,886       36,489  
Second mortgages
    10,037       12,247  
Equity lines of credit
    8,452       9,126  
Farmland
    10,896       12,207  
      338,792       349,133  
                 
Secured (other) and unsecured
               
Personal
    23,143       23,824  
Commercial
    32,928       32,407  
Agricultural
    3,348       2,784  
      59,419       59,015  
                 
Overdrafts
    226       207  
                 
      398,437       408,355  
Less:
               
  Allowance for loan losses
    7,849       9,024  
  Net deferred fees
    553       551  
      8,402       9,575  
                 
Loans, net
  $ 390,035     $ 398,780  



 
8

 
Notes to Consolidated Financial Statements
(Unaudited)
(in thousands, except share, per share and percentage data)

The following table is an analysis of past due loans as of  September 30, 2012:
   
30-59 Days Past Due
   
60-89 Days Past Due
   
Greater Than 90 Days
   
Total Past Due
   
Current
   
Total Financing Receivables
   
Recorded Investment > 90 Days and Accruing
 
                                           
Real Estate Secured
                                         
Residential 1-4 family
  $ 3,192     $ 1,466     $ 3,491     $ 8,149     $ 161,183     $ 169,332     $ -  
Equity lines of credit
    -       -       26       26       8,426       8,452       26  
Multifamily
    -       77       -       77       17,255       17,332       -  
Farmland
    55       129       -       184       10,712       10,896       -  
Construction, Land Development, Other Land Loans
    -       298       1,883       2,181       17,820       20,001       -  
Commercial Real Estate- Owner Occupied
    171       1,795       2,230       4,196       61,660       65,856       -  
Commercial Real Estate- Non Owner Occupied
    1,686       386       290       2,362       34,524       36,886       -  
Second Mortgages
    263       36       354       653       9,384       10,037       -  
Non Real Estate Secured
                                                       
Personal
    363       87       50       500       22,869       23,369       1  
Commercial
    337       27       495       859       32,069       32,928       -  
Agricultural
    35       -       4       39       3,309       3,348       -  
                                                         
          Total
  $ 6,102     $ 4,301     $ 8,823     $ 19,226     $ 379,211     $ 398,437     $ 27  
                                                         

The following table is an analysis of past due loans as of  December 31, 2011:
   
30-59 Days Past Due
   
60-89 Days Past Due
   
Greater Than 90 Days
   
Total Past Due
   
Current
   
Total Financing Receivables
   
Recorded Investment > 90 Days and Accruing
 
                                           
Real Estate Secured
                                         
Residential 1-4 family
  $ 3,471     $ 1,071     $ 4,236     $ 8,778     $ 160,249     $ 169,027     $ 171  
Equity lines of credit
    -       205       -       205       8,921       9,126       -  
Multifamily
    97       -       646       743       14,632       15,375       -  
Farmland
    -       134       -       134       12,073       12,207       -  
Construction,  Land Development, Other Land Loans
    271       59       1,846       2,176       21,119       23,295       -  
Commercial Real Estate- Owner Occupied
    1,199       476       6,989       8,664       62,703       71,367       920  
Commercial Real Estate- Non Owner Occupied
    -       1,446       863       2,309       34,180       36,489       292  
Second Mortgages
    243       10       518       771       11,476       12,247       26  
Non Real Estate Secured
                                                       
Personal
    244       113       134       491       23,540       24,031       41  
Commercial
    224       25       630       879       31,528       32,407       -  
Agricultural
    17       7       2       26       2,758       2,784       -  
                                                         
          Total
  $ 5,766     $ 3,546     $ 15,864     $ 25,176     $ 383,179     $ 408,355     $ 1,450  
                                                         



 
9

 

Notes to Consolidated Financial Statements
(Unaudited)
(in thousands, except share, per share and percentage data)

Loans are considered delinquent when payments have not been made according to the terms of the contract. The accrual of interest on loans is discontinued at the time the loan is 90 days delinquent unless the credit is well-secured and in process of collection.  Credit card loans and other personal loans are typically charged off no later than 180 days past due.   In all cases, loans are placed on non-accrual or charged-off at an earlier date if collection of principal or interest is considered doubtful.

The following is a summary of non-accrual loans at September 30, 2012 and December 31, 2011:
   
September 30, 2012
   
December 31, 2011
 
Real Estate Secured
           
Residential 1-4 Family
  $ 3,491     $ 4,065  
Multifamily
    -       646  
Construction and Land Loans
    1,883       1,846  
Commercial-Owner Occupied
    4,496       6,069  
Commercial- Non Owner Occupied
    290       4,871  
Second Mortgages
    354       492  
Equity Lines of Credit
    -       -  
Farmland
    -       630  
Secured (other) and Unsecured
               
Personal
    50       94  
Commercial
    494       630  
Agricultural
    4       2  
                 
Total
  $ 11,062     $ 19,345  


The September 30, 2012 and December 31, 2011 totals include approximately $2.3 million and $4.9 million of loans, respectively, that were current and paying under the terms of their existing loan agreement but included in non-accrual per regulatory guidance.






 
10

 


Notes to Consolidated Financial Statements
(Unaudited)
(in thousands, except share, per share and percentage data)

The following tables represent a summary of credit quality indicators of the Company’s loan portfolio at September 30, 2012 and December 31, 2011. The grades are assigned and / or modified by the Company’s credit review and credit analysis departments based on the creditworthiness of the borrower and the overall strength of the loan.

Credit Risk Profile by Internally Assigned Grade as of September  30, 2012
Grade (1)
 
Residential 1-4 Family
   
Multifamily
   
Farmland
   
Construction, Land Loans
   
Commercial Real Estate- Owner Occupied
   
Commercial Real Estate Non-Owner Occupied
 
                                     
Quality
  $ 34,663     $ 1,009     $ 1,023     $ 4,012     $ 5,176     $ 1,219  
Satisfactory
    79,200       12,289       3,033       6,286       25,448       14,786  
Acceptable
    37,296       2,729       6,326       6,179       19,511       8,431  
Special Mention
    3,546       -       10       1,759       4,327       1,676  
Substandard
    14,627       1,305       504       1,765       11,394       10,774  
Doubtful
    -       -       -       -       -       -  
                                                 
     Total
  $ 169,332     $ 17,332     $ 10,896     $ 20,001     $ 65,856     $ 36,886  

Credit Risk Profile by Internally Assigned Grade as of December 31, 2011
Grade (1)
 
Residential 1-4 Family
   
Multifamily
   
Farmland
   
Construction, Land Loans
   
Commercial Real Estate- Owner Occupied
   
Commercial Real Estate Non-Owner Occupied
 
                                     
Quality
  $ 37,509     $ 1,220     $ 1,104     $ 4,108     $ 6,119     $ 1,604  
Satisfactory
    79,225       9,790       3,419       6,026       23,168       14,756  
Acceptable
    33,427       1,481       3,944       5,940       25,652       9,270  
Special Mention
    3,739       1,318       1,767       2,195       4,073       1,518  
Substandard
    15,127       1,566       1,973       5,026       12,355       9,341  
Doubtful
    -       -       -       -       -       -  
                                                 
     Total
  $ 169,027     $ 15,375     $ 12,207     $ 23,295     $ 71,367     $ 36,489  

 
(1)  Quality--This grade is reserved for the Bank’s top quality loans. These loans have excellent sources of repayment, with no significant identifiable risk of collection.  Generally, loans assigned this rating will demonstrate the following characteristics:
 
 
·
Conformity in all respects with Bank policy, guidelines, underwriting standards, and Federal and State regulations (no exceptions of any kind).
 
 
·
Documented historical cash flow that meets or exceeds required minimum Bank guidelines, or that can be supplemented with verifiable cash flow from other sources.
 
 
·
Adequate secondary sources to liquidate the debt, including combinations of liquidity, liquidation of collateral, or liquidation value to the net worth of the borrower or guarantor.
 
For existing loans, all of the requirements above apply plus all payments have been made as agreed, current financial information on all borrowers and guarantors has been obtained and analyzed, and overall business operating trends are either stable or improving.
 
   Satisfactory-This grade is given to performing loans. These loans have adequate sources of repayment, with little identifiable risk of collection. Loans assigned this rating will demonstrate the following characteristics:
 
 
·
General conformity to the Bank's policy requirements, product guidelines and underwriting standards.  Any exceptions that are identified during the underwriting and approval process have been adequately mitigated by other factors.
 

 
11

 

Notes to Consolidated Financial Statements
(Unaudited)
(in thousands, except share, per share and percentage data)
 
 
 
·
Documented historical cash flow that meets or exceeds required minimum Bank guidelines, or that can be supplemented with verifiable cash flow from other sources.  
 
 
·
Adequate secondary sources to liquidate the debt, including combinations of liquidity, liquidation of collateral, or liquidation value to the net worth of the borrower or guarantor
 
For existing loans, all of the requirements outlined above will apply, plus all payments have been made as agreed, current financial information on all borrowers and guarantors has been obtained and analyzed, and overall business operating trends are stable with any declines considered minor and temporary.
 
Acceptable-This grade is given to loans that show signs of weakness in either adequate sources of repayment or collateral, but have demonstrated mitigating factors that minimize the risk of delinquency or loss.  Loans assigned this rating may demonstrate some or all of the following characteristics:
 
 
·
Additional exceptions to the Bank's policy requirements, product guidelines or underwriting standards that present a higher degree of risk to the Bank.  Although the combination and/or severity of identified exceptions is greater, all exceptions have been properly mitigated by other factors.
 
 
·
Unproved, insufficient or marginal primary sources of repayment that appear sufficient to service the debt at this time.  Repayment weaknesses may be due to minor operational issues, financial trends, or reliance on projected (not historical) performance.
 
 
·
Marginal or unproven secondary sources to liquidate the debt, including combinations of liquidation of collateral and liquidation value to the net worth of the borrower or guarantor.
 
For existing loans, payments have generally been made as agreed with only minor and isolated delinquencies.
 
Special Mention -This grade is given to Watch List loans that include the following characteristics:
 
 
·
Loans with underwriting guideline tolerances and/or exceptions with no identifiable mitigating factors.
 
 
·
Extending loans that are currently performing satisfactorily but with potential weaknesses that may, if not corrected, weaken the asset or inadequately protect the Bank's position at some future date. Potential weaknesses are the result of deviations from prudent lending practices.
 
 
·
Loans where adverse economic conditions that develop subsequent to the loan origination do not jeopardize liquidation of the debt, but do substantially increase the level of risk may also warrant this rating.
 
  Substandard-Loans in this category are characterized by deterioration in quality exhibited by any number of well-defined weaknesses requiring corrective action. A substandard loan is inadequately protected by the current sound net worth and paying capacity of the obligor or of the collateral pledged, if any. Loans classified as substandard must have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt; they are characterized by the distinct possibility that the institution will sustain some loss if the deficiencies are not corrected.
 
 The weaknesses may include, but are not limited to:
 
 
·
High debt to worth ratios and or declining or negative earnings trends
 
 
·
Declining or inadequate liquidity
 
 
·
Improper loan structure  or questionable repayment sources
 
 
·
Lack of well-defined secondary repayment source, and
 
 
·
Unfavorable competitive comparisons.
 

 
12

 
 
Notes to Consolidated Financial Statements
(Unaudited)
(in thousands, except share, per share and percentage data)
 
Such loans are no longer considered to be adequately protected due to the borrower's declining net worth, lack of earnings capacity, declining collateral margins and/or unperfected collateral positions. A possibility of loss of a portion of the loan balance cannot be ruled out. The repayment ability of the borrower is marginal or weak and the loan may have exhibited excessive overdue status or extensions and/or renewals.
 
Doubtful -Loans classified Doubtful have all the weaknesses inherent in loans classified Substandard, plus the added characteristic that the weaknesses make collection or liquidation in full on the basis of currently existing facts, conditions, and values highly questionable and improbable. The ability of the borrower to service the debt is extremely weak, overdue status is constant, the debt has been placed on non-accrual status, and no definite repayment schedule exists.
 
However, these loans are not yet rated as loss because certain events may occur which would salvage the debt. Among these events are:
 
 
·
Injection of capital
 
 
·
Alternative financing
 
 
·
Liquidation of assets or the pledging of additional collateral.
 
Credit Risk Profile based on payment activity as of  September 30, 2012:

   
Consumer - Non Real Estate
   
Equity Line of Credit / Second Mortgages
   
Commercial - Non Real Estate
   
Agricultural - Non Real Estate
 
                         
Performing
  $ 23,319     $ 18,109     $ 32,433     $ 3,344  
Nonperforming (>90 days past due)
    50       380       495       4  
                                 
     Total
  $ 23,369     $ 18,489     $ 32,928     $ 3,348  
                                 

Credit Risk Profile based on payment activity as of  December 31, 2011:
   
Consumer - Non Real Estate
   
Equity Line of Credit /Jr. liens
   
Commercial - Non Real Estate
   
Agricultural - Non Real Estate
 
                         
Performing
  $ 23,897     $ 20,855     $ 31,777     $ 2,782  
Nonperforming (>90 days past due)
    134       518       630       2  
                                 
     Total
  $ 24,031     $ 21,373     $ 32,407     $ 2,784  
                                 




 
13

 
 
Notes to Consolidated Financial Statements
(Unaudited)
(in thousands, except share, per share and percentage data)

The following tables reflect the Bank’s impaired loans at September 30, 2012:
   
Recorded Investment
   
Unpaid Principal Balance
   
Related Allowance
   
Average Recorded Investment
   
Interest Income Recognized
 
With No Related Allowance
                             
Real Estate Secured
                             
Residential 1-4 family
  $ 8,710     $ 8,710     $ -     $ 8,872     $ 285  
Equity lines of credit
    -       -       -       -       -  
Multifamily
    898       898       -       909       46  
Farmland
    271       271       -       277       13  
Construction, Land Development, Other Land Loans
    1,655       1,655       -       2,071       42  
Commercial Real Estate- Owner Occupied
    8,282       8,282       -       8,719       162  
Commercial Real Estate- Non Owner Occupied
    9,193       9,193       -       7,026       221  
Second Mortgages
    220       220       -       406       9  
Non Real Estate Secured
                                       
Personal /Consumer
    51       51       -       41       1  
Business Commercial
    503       560       -       1,475       5  
Agricultural
    20       20       -       10       -  
                                         
          Total
  $ 29,803     $ 29,860     $ -     $ 29,806     $ 784  







 
14

 

Notes to Consolidated Financial Statements
(Unaudited)
(in thousands, except share, per share and percentage data)

   
Recorded Investment
   
Unpaid Principal Balance
   
Related Allowance
   
Average Recorded Investment
   
Interest Income Recognized
 
With an Allowance Recorded
                             
Real Estate Secured
                             
Residential 1-4 family
  $ 4,717     $ 4,717     $ 416     $ 4,262     $ 107  
Equity lines of credit
    -       -       -       -       -  
Multifamily
    407       407       7       527       11  
Farmland
    204       204       3       256       10  
Construction, Land Development, Other Land Loans
    110       110       43       1,324       -  
Commercial Real Estate- Owner Occupied
    2,749       2,749       212       2,368       53  
Commercial Real Estate- Non Owner Occupied
    1,582       1,582       167       3,032       31  
Second Mortgages
    106       106       3       107       5  
Non Real Estate Secured
                                       
Personal /Consumer
    40       40       18       57       2  
Business Commercial
    660       660       516       758       11  
 
Agricultural
    716       1,385       131       358       57  
                                         
          Total
  $ 11,291     $ 11,960     $ 1,516     $ 13,049     $ 287  

The following tables reflect the Bank’s impaired loans at December 31, 2011:

   
Recorded Investment
   
Unpaid Principal Balance
   
Related Allowance
   
Average Recorded Investment
   
Interest Income Recognized
 
   With No Related
   Allowance
                             
Real Estate Secured
                             
Residential 1-4 family
  $ 9,034     $ 9,342