Allowance for Loan Losses

3 Months Ended

Mar. 31, 2020

Allowance for Credit Losses on Loans

Effective January 1, 2020, the Bank adopted ASU 2016-13. The adoption replaced the allowance for loan losses with the ACL on loans and replaced the related provision for loan losses with the provision for credit losses on loans.

For the ACL on loans at January 1, 2020 and March 31, 2020, the baseline loss rates were calculated using the bank's average quarterly historical loss information from December 31, 2007 through the respective balance sheet date. The Bank has chosen to anchor the 2008-2009 periods to allow for a complete economic cycle to have occurred in its historical loss period. The Bank evaluates the historical period and the need to release the anchor periods on a quarterly basis, with the assumption that economic cycles have historically lasted between 10 and 15 years. The Bank believes the historic loss rates are viable inputs to the current expected credit loss methodology as the Bank's lending practice and business has remained relatively stable throughout the periods. While the Bank's assets have grown, the credit culture has stayed consistent.

Prepayments included in the methodology were based on the 48-month rolling historical averages for each segment, which management believes is an accurate representation of future prepayment activity. Management's allowance estimates at January 1, 2020 and March 31, 2020 used a four quarter reasonable and supportable period, as forecasts beyond this time period tend to diverge in economic assumptions and may be less comparable to actual future events. As the length of the reasonable and supportable period increases, the degree of judgment involved in estimating the allowance will likely increase. The Bank used a two quarter reversion period in calculating its allowance

as of January 1, 2020 and March 31, 2020 as it believes the historical loss information is relevant to the expected credit losses and recognizes the declining precision and increasing uncertainty of estimating credit losses in those periods beyond which it can make reasonable and supportable forecasts. Risk characteristics by segment considered in the CECL methodology are the same as those disclosed in the 2019 Annual Form 10-K.

The following table details the activity in the ACL on loans disaggregated by segment and class for the three months ended March 31, 2020:



	Three Months Ended March 31, 2020
	Beginning Balance		Impact of CECL Adoption			Beginning Balance, as Adjusted		Charge-offs			Recoveries		Provision for Credit Losses			Ending Balance
	(In thousands)
Commercial business:
Commercial and industrial	$	11,739	$	(1,348	)	$	10,391	$	(1,087	)	$	1,057	$	3,539		$	13,900
Owner-occupied commercial real estate	4,512		452			4,964		(135		)	12		1,375			6,216
Non-owner occupied commercial real estate	7,682		(2,039		)	5,643		—			—		2,107			7,750
Total commercial business	23,933		(2,935		)	20,998		(1,222		)	1,069		7,021			27,866
One-to-four family residential	1,458		1,471			2,929		—			3		94			3,026
Real estate construction and land development:
One-to-four family residential	1,455		(571		)	884		—			14		(34		)	864
Five or more family residential and commercial properties	1,605		7,240			8,845		—			—		2,599			11,444
Total real estate construction and land development	3,060		6,669			9,729		—			14		2,565			12,308
Consumer	6,821		(2,484		)	4,337		(375		)	94		284			4,340
Unallocated	899		(899		)	—		—			—		—			—
Total	$	36,171	$	1,822		$	37,993	$	(1,597	)	$	1,180	$	9,964		$	47,540

The Bank recognized net charge-offs of $417,000 during the quarter ended March 31, 2020. Net charge-offs include the charge-off of one commercial and industrial relationship of $373,000 and a large volume of small-dollar amount consumer loans, offset by the full recovery of an agricultural lending relationship charge-off of $963,000 which was recorded during the three months ended December 31, 2019.

During the three months ended March 31, 2020, the Bank recorded a provision for credit losses on loans of $10.0 million, an increase of 26.2% from the adjusted beginning balance. Of the provision for credit loses on loans, approximately $6.9 million was due to the Company's economic forecast under the CECL methodology, which included a decline in economic conditions due to the COVID-19 pandemic. The economic model utilized as of March 31, 2020 is forecasting profound, but not permanent, reductions in activity, with widespread cuts in discretionary and social spending, severe disruptions to supply chains, and a major interruption in travel activity. The model predicts a so-called "v-shaped" recession, with unemployment rate peaking at 6% and Real GDP contracting 0.2% in 2020. These projections are compared to predicted unemployment rate of 3.7% and Real GDP growth of 1.7% prior to the onset of the pandemic. While the negative impact is projected to occur immediately, the model is projecting the downturn to be short-term with a strong recovery toward the end of 2020.

The provision for credit losses on loans also includes qualitative factors related to the industries in the loan portfolio that the Company believes may suffer the most losses as a result of the COVID-19 pandemic, such as restaurants, hotels, dentists, religious organizations, and recreational and entertainment centers.

Approximately $3.1 million of the provision for credit losses on loans was due to an increase in the amortized cost balance, including the change in the mix of loans in the portfolio, and other changes such as term modifications or credit quality changes.

The following table details activity in the allowance for loan losses disaggregated by segment and class for the three months ended March 31, 2019 under the incurred loss methodology, including the ASC 310-30 methodology for PCI loans:



	Three Months Ended March 31, 2019
	Beginning Balance		Charge-offs			Recoveries		Provision for Loan Losses			Ending Balance
	(In thousands)
Commercial business:
Commercial and industrial	$	11,343	$	(103	)	$	7	$	508		$	11,755
Owner-occupied commercial real estate	4,898		—			3		355			5,256
Non-owner occupied commercial real estate	7,470		—			149		206			7,825
Total commercial business	23,711		(103		)	159		1,069			24,836
One-to-four family residential	1,203		(15		)	—		59			1,247
Real estate construction and land development:
One-to-four family residential	1,240		—			618		(436		)	1,422
Five or more family residential and commercial properties	954		—			—		41			995
Total real estate construction and land development	2,194		—			618		(395		)	2,417
Consumer	6,581		(586		)	117		368			6,480
Unallocated	1,353		—			—		(181		)	1,172
Total	$	35,042	$	(704	)	$	894	$	920		$	36,152

The following table details the allowance for loan losses disaggregated on the basis of the Company's impairment method as of December 31, 2019 under the incurred loss methodology, including the ASC 310-30 methodology for PCI loans:



	Loans Individually Evaluated for Impairment		Loans Collectively Evaluated for Impairment		PCI Loans		Total Allowance for Loan Losses
	(In thousands)
Commercial business:
Commercial and industrial	$	1,372	$	9,772	$	595	$	11,739
Owner-occupied commercial real estate	426		3,558		528		4,512
Non-owner occupied commercial real estate	146		7,064		472		7,682
Total commercial business	1,944		20,394		1,595		23,933
One-to-four family residential	56		1,316		86		1,458
Real estate construction and land development:
One-to-four family residential	—		1,296		159		1,455
Five or more family residential and commercial properties	—		1,527		78		1,605
Total real estate construction and land development	—		2,823		237		3,060
Consumer	143		6,327		351		6,821
Unallocated	—		899		—		899
Total	$	2,143	$	31,759	$	2,269	$	36,171

The following table details the amortized cost of the loan receivables disaggregated on the basis of the Company’s impairment method as of December 31, 2019 under the incurred loss methodology, including the ASC 310-30 methodology for PCI loans:



	Loans Individually Evaluated for Impairment		Loans Collectively Evaluated for Impairment		PCI Loans		Total Gross Loans Receivable
	(In thousands)
Commercial business:
Commercial and industrial	$	43,808	$	806,044	$	2,368	$	852,220
Owner-occupied commercial real estate	6,336		793,984		4,914		805,234
Non-owner occupied commercial real estate	6,324		1,276,964		5,491		1,288,779
Total commercial business	56,468		2,876,992		12,773		2,946,233
One-to-four family residential	215		127,870		3,575		131,660
Real estate construction and land development:	—				—		—
One-to-four family residential	237		104,059		—		104,296
Five or more family residential and commercial properties	—		170,350		—		170,350
Total real estate construction and land development	237		274,409		—		274,646
Consumer	561		413,017		1,762		415,340
Total	$	57,481	$	3,692,288	$	18,110	$	3,767,879