10-Q 1 d253294d10q.htm FORM 10-Q Form 10-Q
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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

Form 10-Q

 

 

Quarterly Report Pursuant to Section 13 or 15(d) of

the Securities Exchange Act of 1934

For the Quarterly Period Ended September 30, 2011

 

 

BANK OF THE JAMES FINANCIAL GROUP, INC.

(Exact Name of Registrant as Specified in Its Charter)

 

 

 

Virginia   000-50548   20-0500300

(State or other jurisdiction of

incorporation or organization)

 

(Commission

file number)

 

(I.R.S. Employer

Identification No.)

828 Main Street, Lynchburg, VA   24504
(Address of principal executive offices)   (Zip Code)

(434) 846-2000

(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.    x  Yes    ¨  No

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

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definition of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large accelerated filer   ¨    Accelerated filer   ¨
Non-accelerated filer   ¨    Smaller reporting company   x

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

APPLICABLE ONLY TO CORPORATE ISSUERS

State the number of shares outstanding of each of the issuer’s classes of common equity, as of the latest practicable date: 3,324,319 shares of Common Stock, par value $2.14 per share, were outstanding at November 10, 2011.

 

 

 


Table of Contents

Table of Contents

 

PART I – FINANCIAL INFORMATION      1   
  Item 1.  

Consolidated Financial Statements

     1   
  Item 2.  

Management’s Discussion and Analysis of Financial Condition and Results of Operations

     30   
  Item 3.  

Quantitative and Qualitative Disclosures About Market Risk

     46   
  Item 4.  

Controls and Procedures

     46   
PART II – OTHER INFORMATION      46   
  Item 1.  

Legal Proceedings

     46   
  Item 1A.  

Risk Factors

     46   
  Item 2.  

Unregistered Sales of Equity Securities and Use of Proceeds

     46   
  Item 3.  

Defaults Upon Senior Securities

     46   
  Item 4.  

[Removed and Reserved]

     46   
  Item 5.  

Other Information

     46   
  Item 6.  

Exhibits

     48   
SIGNATURES      49   


Table of Contents

PART I – FINANCIAL INFORMATION

Item 1. Consolidated Financial Statements

Bank of the James Financial Group, Inc. and Subsidiaries

Consolidated Balance Sheets

(dollar amounts in thousands, except per share amounts)

 

     (unaudited)      (audited)  
     9/30/2011      12/31/2010  

Assets

     

Cash and due from banks

   $ 17,429       $ 11,665   

Federal funds sold

     8,741         7,094   
  

 

 

    

 

 

 

Total cash and cash equivalents

     26,170         18,759   
  

 

 

    

 

 

 

Securities held-to-maturity (fair value of $8,529 in 2011 and $14,601 in 2010)

     8,165         14,297   

Securities available-for-sale, at fair value

     45,153         38,586   

Restricted stock, at cost

     2,030         2,180   

Loans, net of allowance for loan losses of $5,461 in 2011 and $5,467 in 2010

     319,315         320,715   

Premises and equipment, net

     8,813         8,791   

Software, net

     131         89   

Interest receivable

     1,524         1,469   

Cash value - bank owned life insurance

     8,524         5,360   

Other real estate owned

     5,216         3,440   

Income taxes receivable

     464         304   

Deferred tax asset

     1,359         1,899   

Other assets

     2,576         3,039   
  

 

 

    

 

 

 

Total assets

   $ 429,440       $ 418,928   
  

 

 

    

 

 

 

Liabilities and Stockholders’ Equity

     

Deposits

     

Noninterest bearing demand

   $ 54,868       $ 44,272   

NOW, money market and savings

     233,164         241,176   

Time

     87,515         82,942   
  

 

 

    

 

 

 

Total deposits

   $ 375,547       $ 368,390   

Repurchase agreements

     8,392         7,330   

 

See accompanying notes to these consolidated financial statements

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FHLB borrowings

     10,000        10,000   

Capital notes

     7,000        7,000   

Interest payable

     110        121   

Other liabilities

     1,032        592   
  

 

 

   

 

 

 

Total liabilities

   $ 402,081      $ 393,433   
  

 

 

   

 

 

 

Stockholders’ equity

    

Common stock $2.14 par value; authorized 10,000,000 shares; issued and outstanding 3,323,743 as of September 30, 2011 and December 31, 2010

     7,113        7,113   

Additional paid-in-capital

     22,742        22,742   

Accumulated other comprehensive income (loss)

     354        (692

Retained (deficit)

     (2,850     (3,668
  

 

 

   

 

 

 

Total stockholders’ equity

   $ 27,359      $ 25,495   
  

 

 

   

 

 

 

Total liabilities and stockholders’ equity

   $ 429,440      $ 418,928   
  

 

 

   

 

 

 

See accompanying notes to these consolidated financial statements

 

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Bank of the James Financial Group, Inc. and Subsidiaries

Consolidated Statements of Income

(dollar amounts in thousands, except per share amounts) (unaudited)

 

     For the Three  Months
Ended September 30,
     For the Nine Months
Ended September 30,
 
     2011      2010      2011      2010  

Interest and Dividend Income

           

Loans

   $ 4,355       $ 4,969       $ 13,212       $ 14,815   

Securities

           

US Government and agency obligations

     239         281         681         1,046   

Mortgage backed securities

     94         54         357         57   

Municipals

     140         60         352         190   

Dividends

     3         2         29         25   

Other (Corporates)

     —           20         25         85   

Federal Funds sold

     5         6         18         15   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total interest and dividend income

     4,836         5,392         14,674         16,233   
  

 

 

    

 

 

    

 

 

    

 

 

 

Interest Expense

           

Deposits

           

NOW, money market savings

     353         719         1,429         2,648   

Time deposits

     436         525         1,293         1,719   

Federal Funds purchased

     —           —           —           2   

FHLB borrowings

     75         75         223         249   

Reverse repurchase agreements

     21         30         55         95   

Capital notes 6% due 4/1/2012

     105         105         315         315   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total interest expense

     990         1,454         3,315         5,028   
  

 

 

    

 

 

    

 

 

    

 

 

 

Net interest income

     3,846         3,938         11,359         11,205   

Provision for loan losses

     1,272         600         2,757         1,435   
  

 

 

    

 

 

    

 

 

    

 

 

 

Net interest income after provision for loan losses

     2,574         3,338         8,602         9,770   
  

 

 

    

 

 

    

 

 

    

 

 

 

Other operating income

           

Mortgage fee income

     250         460         779         1,073   

Service charges, fees and commissions

     320         300         875         1,031   

Increase in cash value of life insurance

     54         58         164         177   

Other

     10         38         46         65   

Gain on sale or call of securities

     566         98         766         320   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total other operating income

     1,200         954         2,630         2,666   

 

See accompanying notes to these consolidated financial statements

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Other operating expenses

           

Salaries and employee benefits

     1,462         1,759         4,280         5,086   

Occupancy

     272         268         820         745   

Equipment

     263         296         780         829   

Supplies

     91         98         288         281   

Professional, data processing, and other outside expense

     557         401         1,526         1,182   

Marketing

     119         78         306         231   

Credit expense

     44         99         187         236   

Loss on sale and/or writedown of OREO and other OREO expenses

     452         18         667         54   

FDIC insurance expense

     145         290         515         675   

Other

     301         249         711         702   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total other operating expenses

     3,706         3,556         10,080         10,021   
  

 

 

    

 

 

    

 

 

    

 

 

 

Income before income taxes

     68         736         1,152         2,415   

Income tax expense

     4         230         334         773   
  

 

 

    

 

 

    

 

 

    

 

 

 

Net Income

   $ 64       $ 506       $ 818       $ 1,642   
  

 

 

    

 

 

    

 

 

    

 

 

 

Weighted average shares outstanding – basic

     3,323,743         3,301,262         3,323,743         3,295,813   
  

 

 

    

 

 

    

 

 

    

 

 

 

Weighted average shares outstanding – diluted

     3,327,757         3,336,336         3,331,239         3,333,126   
  

 

 

    

 

 

    

 

 

    

 

 

 

Income per common share – basic

   $ 0.02       $ 0.15       $ 0.25       $ 0.50   

Income per common share – diluted

   $ 0.02       $ 0.15       $ 0.25       $ 0.49   
  

 

 

    

 

 

    

 

 

    

 

 

 

See accompanying notes to these consolidated financial statements

 

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Bank of the James Financial Group, Inc. and Subsidiaries

Consolidated Statements of Cash Flows

Nine months ended September 30, 2011 and 2010

(dollar amounts in thousands, except per share amounts) (unaudited)

 

     September 30,  
     2011     2010  

Cash flows from operating activities

    

Net Income

   $ 818      $ 1,642   

Adjustments to reconcile net income to net cash provided by operating activities

    

Depreciation

     546        616   

Net amortization and accretion of premiums and discounts on securities

     529        363   

(Gain) on sale of available-for-sale securities

     (766     (310

(Gain) on call of held-to-maturity securities

     —          (10

Loss on sale of assets

     —          54   

Provision for loan losses

     2,757        1,435   

Loss on sale of other real estate owned

     184        —     

Write down on other real estate owned

     483        131   

(Increase) in cash value of life insurance

     (164     (177

Stock compensation expense

     —          2   

Provision for deferred income taxes

     —          14   

(Increase) decrease in interest receivable

     (55     573   

Decrease in other assets

     374        515   

(Increase) decrease in income taxes receivable

     (160     139   

(Decrease) in interest payable

     (11     (66

(Decrease) increase in other liabilities

     440        404   
  

 

 

   

 

 

 

Net cash provided by operating activities

   $ 4,975      $ 5,325   
  

 

 

   

 

 

 

Cash flows from investing activities

    

Purchases of securities held-to-maturity

   $ (1,000   $ 0   

Proceeds from maturities and calls of securities held-to-maturity

     7,000        1,000   

Purchases of securities available-for-sale

     (49,403     (31,545

Proceeds from maturities, calls and paydowns of securities available-for-sale

     13,524        6,494   

Proceeds from sale of securities available-for-sale

     31,267        38,201   

Purchases of bank owned life insurance

     (3,000     —     

Purchase of Federal Reserve Bank stock

     —          (30

Sale of Federal Home Loan Bank stock

     150        111   

 

See accompanying notes to these consolidated financial statements

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Proceeds from sale of other real estate owned

     1,346        0   

Improvements to other real estate owned

     (18     0   

Origination of loans, net of principal collected

     (5,072     (5,576

Recoveries of loans charged-off

     33        284   

Purchases of premises and equipment

     (610     (241
  

 

 

   

 

 

 

Net cash (used in) provided by investing activities

   $ (5,783   $ 8,698   
  

 

 

   

 

 

 

Cash flows from financing activities

    

Net increase (decrease) in deposits

   $ 7,157      $ (11,262

Net increase (decrease) in repurchase agreements

     1,062        (3,398

Net (decrease) in Federal Home Loan Bank advances

     —          (10,000

Proceeds from exercise of stock options

     —          52   
  

 

 

   

 

 

 

Net cash provided by (used in) financing activities

   $ 8,219      $ (24,608
  

 

 

   

 

 

 

Increase (decrease) in cash and cash equivalents

     7,411        (10,585

Cash and cash equivalents at beginning of period

   $ 18,759      $ 31,305   
  

 

 

   

 

 

 

Cash and cash equivalents at end of period

   $ 26,170      $ 20,720   
  

 

 

   

 

 

 

Non cash transactions

    

Transfer of loans to foreclosed assets

   $ 3,682      $ 1,185   

Fair value adjustment for securities

     1,586        1,363   
  

 

 

   

 

 

 

Cash transactions

    

Cash paid for interest

   $ 3,326      $ 5,094   

Cash paid for taxes

     495        1,045   
  

 

 

   

 

 

 

See accompanying notes to these consolidated financial statements

 

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Bank of the James Financial Group, Inc. and Subsidiaries

Consolidated Statements of Changes in Stockholders’ Equity and Comprehensive Income

(dollars in thousands) (unaudited)

 

    

Total
Shares

Outstanding

    

Common

Stock

    

Additional

Paid-in

Capital

    

Retained

Earnings

(Deficit)

   

Accumulated

Other

Comprehensive

Income (Loss)

    Total  

Balance at December 31, 2009

     2,990,788       $ 6,400       $ 20,765       $ (2,938   $ (502   $ 23,725   
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

   

 

 

 

Net Income

     —           —           —           1,820        —          1,820   

Changes in unrealized gains on securities available for sale net of deferred taxes of $24

     —           —           —           —          47        47   

Reclassification adjustment for gains included in net income, net of income tax expense of $121

     —           —           —           —          (237     (237
               

 

 

 

Total other comprehensive (loss)

                  (190
               

 

 

 

Comprehensive Income

                  1,630   
               

 

 

 

10% Stock dividend

     298,942         640         1,910         (2,550     —          —     

Exercise of stock options

     34,013         73         65         —          —          138   

Stock compensation expense

     —           —           2         —          —          2   
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

   

 

 

 

Balance at December 31, 2010

     3,323,743       $ 7,113       $ 22,742       $ (3,668   $ (692   $ 25,495   
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

   

 

 

 

Net Income

     —           —           —           818        —          818   

Changes in unrealized gains on securities available for sale net of deferred taxes of $800

     —           —           —           —          1,552        1,552   

Reclassification adjustment for gains included in net income, net of income tax expense of $260

     —           —           —           —          (506     (506
               

 

 

 

Total other comprehensive income

                  1,046   
               

 

 

 

Comprehensive Income

                  1,864   
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

   

 

 

 

Balance at September 30, 2011

     3,323,743       $ 7,113       $ 22,742       $ (2,850   $ 354      $ 27,359   
  

 

 

    

 

 

    

 

 

    

 

 

   

 

 

   

 

 

 

See accompanying notes to these consolidated financial statements

 

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Notes to Consolidated Financial Statements

Note 1 – Basis of Presentation

The unaudited consolidated financial statements have been prepared by Bank of the James Financial Group, Inc. (“Financial” or the “Company”) pursuant to the rules and regulations of the Securities and Exchange Commission. In management’s opinion the accompanying financial statements, which unless otherwise noted are unaudited, reflect all adjustments, consisting solely of normal recurring accruals, necessary for a fair presentation of the financial information as of and for the three and nine months ended September 30, 2011 and 2010 in conformity with accounting principles generally accepted in the United States of America. Additional information concerning the organization and business of Financial, accounting policies followed, and other related information is contained in Financial’s Annual Report on Form 10-K for the year ended December 31, 2010. These financial statements should be read in conjunction with the audited consolidated financial statements and footnotes for the year ended December 31, 2010 included in Financial’s Annual Report on Form 10-K. Results for the three and nine month periods ended September 30, 2011 are not necessarily indicative of the results that may be expected for the year ending December 31, 2011.

Financial’s critical accounting policy relates to the evaluation of the allowance for loan losses which is based on management’s opinion of an amount that is adequate to absorb loss in the existing loan portfolio of Bank of the James (the “Bank”), Financial’s wholly-owned subsidiary. The allowance for loan losses is established through a provision for loan loss based on available information including the composition of the loan portfolio, historical loan losses (to the extent available due to limited history), specific impaired loans, availability and quality of collateral, age of the various portfolios, changes in local economic conditions, and loan performance and quality of the portfolio. Different assumptions used in evaluating the adequacy of the Bank’s allowance for loan losses could result in material changes in Financial’s financial condition and results of operations. The Bank’s policies with respect to the methodology for determining the allowance for loan losses involve a higher degree of complexity and require management to make subjective judgments that often require assumptions or estimates about uncertain matters. These critical policies and their assumptions are periodically reviewed with the Board of Directors.

Note 2 – Use of Estimates

The consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States of America which require management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates.

 

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Note 3 – Earnings Per Share

All earnings per share amounts have been adjusted to reflect the 10% stock dividend paid by Financial in July 2010, as well as all prior stock dividends.

Currently, only the option shares granted to certain officers and other employees of Financial pursuant to the Amended and Restated Stock Option Plan of 1999 Financial (the “1999 Plan”) are considered dilutive. The following is a summary of the earnings per share calculation for the three and nine months ended September 30, 2011 and 2010.

 

     Three months ended      Year to date  
     September 30,      September 30,  
     2011      2010      2011      2010  

Net income (loss)

   $ 64,000       $ 506,000       $ 818,000       $ 1,642,000   

Weighted average number of shares

     3,323,743         3,301,262         3,323,743         3,295,813   

Options effect of incremental shares

     4,014         35,074         7,496         37,313   
  

 

 

    

 

 

    

 

 

    

 

 

 

Weighted average diluted shares

     3,327,757         3,336,336         3,331,239         3,333,126   
  

 

 

    

 

 

    

 

 

    

 

 

 

Basic EPS (weighted avg shares)

   $ 0.02       $ 0.15       $ 0.25       $ 0.50   
  

 

 

    

 

 

    

 

 

    

 

 

 

Diluted EPS (Including Option Shares)

   $ 0.02       $ 0.15       $ 0.25       $ 0.49   
  

 

 

    

 

 

    

 

 

    

 

 

 

The following table sets forth the incremental shares associated with option shares that were not included in calculating the diluted earnings because their effect was anti-dilutive:

 

     Three months ended      Year to date  
     September 30,      September 30,  
     2011      2010      2011      2010  

Incremental shares excluded from calculating diluted EPS because their effect was anti-dilutive

     247,976         205,548         247,976         205,548   

Note 4 – Stock Based Compensation

Accounting standards require companies to recognize the cost of employee services received in exchange for awards of equity instruments, such as stock options and restricted stock, based on the fair value of those awards at the date of grant.

 

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Note 4 – Stock Based Compensation (continued)

 

Stock option plan activity for the nine months ended September 30, 2011 is summarized below:

 

     Shares    

Weighted

Average

Exercise

Price

    

Weighted

Average

Remaining

Contractual

Life (in
years)

    

Average

Intrinsic

Value

 

Options outstanding, January 1, 2011

     284,906      $ 8.42         

Exercised

     —          —           

Forfeited

     (3,636   $ 13.71         
  

 

 

         

Options outstanding, September 30, 2011

     281,270      $ 8.35         2.69       $ —     
  

 

 

   

 

 

    

 

 

    

 

 

 

Options exercisable, September 30, 2011

     281,270      $ 8.35         2.69       $ —     
  

 

 

   

 

 

    

 

 

    

 

 

 

Intrinsic value is calculated by subtracting exercise price of option shares from the market price of underlying shares and multiplying that amount by the number of options outstanding. No intrinsic value exists where the exercise price is greater than the market price on a given date.

All compensation expense related to the foregoing stock option plan has been recognized. The Company’s ability to grant additional options shares under the 1999 Plan has expired.

Note 5 – Stock Dividend

On May 18, 2010, the Board of Directors of the Company declared a 10% stock dividend. The stock dividend was paid on July 23, 2010 to shareholders of record as of June 21, 2010. Following the stock dividend, the number of outstanding shares increased by approximately 299,000. The dividend required a reclassification of retained earnings effective May 18, 2010 in the amount of $2,550,000. Of this amount, $640,000 was reclassified as common stock and $1,910,000 was reclassified as additional paid-in-capital. The reclassification did not change total stockholders’ equity. All per share amounts have been retroactively adjusted to reflect this dividend. No other stock dividend and/or split has been declared since this time.

Note 6 – Fair Value Measurements

Determination of Fair Value

The Company uses fair value measurements to record fair value adjustments to certain assets and liabilities and to determine fair value disclosures. In accordance with the Fair Value Measurements and Disclosures topic of FASB ASC, the fair value of a financial instrument is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Fair value is best determined based upon quoted market prices. However, in many instances, there are no quoted market prices for the Company’s various financial instruments. In cases where quoted market prices are not available, fair values are based on estimates using present value or other valuation techniques. Those techniques are significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. Accordingly, the fair value estimates may not be realized in an immediate settlement of the instrument.

The recent fair value guidance provides a consistent definition of fair value, which focuses on exit price in an orderly transaction (that is, not a forced liquidation or distressed sale) between market participants at the

 

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Note 6 – Fair Value Measurements (continued)

 

measurement date under current market conditions. If there has been a significant decrease in the volume and level of activity for the asset or liability, a change in valuation technique or the use of multiple valuation techniques may be appropriate. In such instances, determining the price at which willing market participants would transact at the measurement date under current market conditions depends on the facts and circumstances and requires the use of significant judgment. The fair value is a reasonable point within the range that is most representative of fair value under current market conditions.

Fair Value Hierarchy

In accordance with this guidance, the Company groups its financial assets and financial liabilities generally measured at fair value in three levels, based on the markets in which the assets and liabilities are traded and the reliability of the assumptions used to determine fair value.

 

   

Level 1 inputs to the valuation methodology are quoted prices (unadjusted) for identical assets or liabilities in active markets.

 

   

Level 2 inputs to the valuation methodology include quoted prices for similar assets and liabilities in active markets, and inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the financial instrument.

 

   

Level 3 inputs to the valuation methodology are unobservable and significant to the fair value measurement.

Following is a description of the valuation methodologies used for instruments measured at fair value, as well as the general classification of such instruments pursuant to the valuation hierarchy:

Securities available-for-sale

Where quoted prices are available in an active market, securities are classified within Level 1 of the valuation hierarchy. Level 1 securities would include highly liquid government bonds, mortgage products and exchange traded equities. If quoted market prices are not available, then fair values are estimated by using pricing models, quoted prices of securities with similar characteristics, or discounted cash flow. Level 2 securities would include U.S. agency securities, mortgage-backed agency securities, obligations of states and political subdivisions and certain corporate, asset backed and other securities. In certain cases where there is limited activity or less transparency around inputs to the valuation, securities are classified within Level 3 of the valuation hierarchy. Currently, all of the Company’s securities are considered to be Level 2 securities.

 

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Note 6 – Fair Value Measurements (continued)

 

The following table summarizes the Company’s financial assets that were measured at fair value on a recurring basis during the period (in thousands):

 

$00,000 $00,000 $00,000 $00,000
            Carrying Value at September 30, 2011  

Description

   Balance as of
September 30,
2011
     Quoted Prices
in Active
Markets for
Identical Assets
(Level 1)
     Significant
Other
Observable
Inputs
(Level 2)
     Significant
Unobservable
Inputs
(Level 3)
 

US agency obligations

   $ 24,115       $ —         $ 24,115       $ —     

Mortgage-backed securities

     8,841         —           8,841         —     

Municipals

     12,197         —           12,197         —     
  

 

 

    

 

 

    

 

 

    

 

 

 

Total available-for-sale securities

   $ 45,153       $ —         $ 45,153       $ —     
  

 

 

    

 

 

    

 

 

    

 

 

 

 

$00,000 $00,000 $00,000 $00,000
            Carrying Value at December 31, 2010  

Description

   Balance as of
December  31,
2010
     Quoted Prices
in Active
Markets for
Identical Assets
(Level 1)
     Significant
Other
Observable
Inputs
(Level 2)
     Significant
Unobservable
Inputs
(Level 3)
 

US agency obligations

   $ 14,341       $ —         $ 14,341       $ —     

Mortgage-backed securities

     17,762         —           17,762         —     

Municipals

     5,465         —           5,465         —     

Corporates

     1,018         —           1,018         —     
  

 

 

    

 

 

    

 

 

    

 

 

 

Total available-for-sale securities

   $ 38,586       $ —         $ 38,586       $ —     
  

 

 

    

 

 

    

 

 

    

 

 

 

Impaired loans

Loans are designated as impaired when, in the judgment of management based on current information and events, it is probable that all amounts due according to the contractual terms of the loan agreement will not be collected. The measurement of loss associated with impaired loans can be based on either the observable market price of the loan or the fair value of the collateral. Fair value is measured based on the value of the collateral securing the loans. Collateral may be in the form of real estate or business assets including equipment, inventory, and accounts receivable. The vast majority of the collateral is real estate. The value of real estate collateral is determined utilizing an income or market valuation approach based on an appraisal conducted by an independent, licensed appraiser outside of the Bank using observable market data (Level 2). However, if the collateral is a house or building in the process of construction or if an appraisal of the real estate property is over one year old, then the fair value is considered Level 3. The value of business equipment is based upon an outside appraisal if deemed significant, or the net book value on the applicable business’ financial statements if not considered significant using observable market data. Likewise, values for inventory and accounts receivables collateral are based on financial statement balances or aging reports (Level 3). Any fair value adjustments are recorded in the period incurred as provision for loan losses on the Statements of Income.

 

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Note 6 – Fair Value Measurements (continued)

 

Other Real Estate Owned

Certain assets such as other real estate owned (OREO) are measured at fair value less cost to sell. We believe that the fair value component in its valuation follows the provisions of ASC 820.

Real estate acquired through foreclosure is transferred to OREO. The measurement of loss associated with OREO is based on the fair value of the collateral compared to the unpaid loan balance and anticipated costs to sell the property. The value of OREO collateral is determined utilizing an income or market valuation approach based on an appraisal conducted by an independent, licensed appraiser outside of the Bank using observable market data (Level 2). However, if the collateral is a house or building in the process of construction or if an appraisal of the real estate is over one year old, then the fair value is considered Level 3. Any fair value adjustments are recorded in the period incurred and expensed against current earnings.

The following table summarizes the Company’s impaired loans and OREO measured at fair value on a nonrecurring basis during the period (in thousands).

 

$00,000 $00,000 $00,000 $00,000
            Carrying Value at September 30, 2011  

Description

   Balance as of
September 30,

2011
     Quoted Prices
in Active
Markets for
Identical Assets
(Level 1)
     Significant
Other
Observable
Inputs
(Level 2)
     Significant
Unobservable
Inputs
(Level 3)
 

Impaired loans

   $ 15,354       $ —         $ 7,621       $ 7,733   

Other real estate owned

   $ 5,216       $ —         $ 5,216       $ —     

 

            Carrying Value at December 31, 2010  

Description

   Balance as of
December 31,
2010
     Quoted Prices
in Active
Markets for
Identical Assets
(Level 1)
     Significant
Other
Observable
Inputs
(Level 2)
     Significant
Unobservable
Inputs
(Level 3)
 

Impaired loans

   $ 13,312       $ —         $ 3,205       $ 10,107   

Other real estate owned

   $ 3,440       $ —         $ 3,440       $ —     

Financial Instruments

Cash, cash equivalents and Federal Funds sold

The carrying amounts of cash and short-term instruments approximate fair values.

Securities

Fair values of securities, excluding Federal Reserve Bank stock, Federal Home Loan Bank stock, and Community Bankers’ Bank stock are based on quoted market prices.

Loans

For variable-rate loans that reprice frequently and with no significant change in credit risk, fair values are based on carrying values. Fair values for certain fixed rate loans are based on quoted market prices of

 

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Note 6 – Fair Value Measurements (continued)

 

similar loans adjusted for differences in loan characteristics. Fair values for other loans such as commercial real estate and commercial and industrial loans are estimated using discounted cash flow analyses, using interest rates currently being offered for loans with similar terms to borrowers of similar credit quality. Fair values of nonperforming loans are estimated using discounted cash flow analyses or underlying collateral values, where applicable.

Bank Owned Life Insurance (BOLI)

The carrying amount approximates fair value.

Deposits

Fair values disclosed for demand deposits (e.g., interest and noninterest checking, savings, and money market accounts) are, by definition, equal to the amount payable on demand at the reporting date (i.e., their carrying amounts). Fair values for fixed rate certificates of deposit are estimated using discounted cash flow analyses that applies interest rates currently being offered on certificates to a schedule of aggregated expected monthly maturities on time deposits.

FHLB borrowings

The fair value of FHLB borrowings is estimated using discounted cash flow analysis based on the rates currently offered for borrowings of similar remaining maturities and collateral requirements.

Short-term borrowings

The carrying amounts of federal funds purchased, borrowings under repurchase agreements, and other short-term borrowings maturing within ninety days approximate fair value.

Capital notes

Fair values of capital notes are based on market prices for debt securities having similar maturity and interest rate characteristics.

Accrued interest

The carrying amounts of accrued interest approximate fair value.

Off-balance sheet credit-related instruments

Fair values for off-balance sheet, credit-related financial instruments are based on fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the counterparties’ credit standing. Fair value of off-balance sheet credit-related instruments were deemed to be immaterial at September 30, 2011 and December 31, 2010 and therefore are not included in the table below.

 

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Note 6 – Fair Value Measurements (continued)

 

The estimated fair values, and related carrying or notional amounts, of Financial’s financial instruments are as follows (in thousands):

 

     September 30, 2011      December 31, 2010  
     Carrying
Amounts
     Approximate
Fair Values
     Carrying
Amounts
     Approximate
Fair Values
 

Financial assets

           

Cash and due from banks

   $ 17,429       $ 17,429       $ 11,665       $ 11,665   

Federal funds sold

     8,741         8,741         7,094         7,094   

Securities

           

Available-for-sale

     45,153         45,153         38,586         38,586   

Held-to-maturity

     8,165         8,529         14,297         14,601   

Loans, net

     319,315         324,871         320,715         323,120   

Interest receivable

     1,524         1,524         1,469         1,469   

BOLI

     8,524         8,524         5,360         5,360   

Financial liabilities

           

Deposits

   $ 375,547       $ 376,486       $ 368,390       $ 370,123   

FHLB borrowings

     10,000         9,733         10,000         10,518   

Repurchase agreements

     8,392         8,392         7,330         7,330   

Capital notes

     7,000         6,813         7,000         6,981   

Interest payable

     110         110         121         121   

Fair value estimates are made at a specific point in time, based on relevant market information and information about the financial instrument. These estimates do not reflect any premium or discount that could result from offering for sale at one time the Bank’s entire holdings of a particular financial instrument. Because no market exists for a significant portion of the Bank’s financial instruments, fair value estimates are based on judgments regarding future expected loss experience, 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 estimates.

Fair value estimates are based on existing on-balance-sheet and off-balance-sheet financial instruments without attempting to estimate the value of anticipated future business and the value of assets and liabilities that are not considered financial instruments. Significant assets that are not considered financial assets include deferred income taxes and bank premises and equipment; a significant liability that is not considered a financial liability is accrued post-retirement benefits. In addition, the tax ramifications related to the realization of the unrealized gains and losses can have a significant effect on fair value estimates and have not been considered in the estimates.

Financial assumes interest rate risk (the risk that general interest rate levels will change) as a result of its normal operations. As a result, the fair values of Financial’s financial instruments will change when interest rate levels change, and that change may be either favorable or unfavorable to the Bank. Management attempts to match maturities of assets and liabilities to the extent believed necessary to minimize interest rate risk. However, borrowers with fixed rate obligations are less likely to prepay in a rising rate environment and more likely to prepay in a falling rate environment. Conversely, depositors who are receiving fixed rates are more likely to withdraw funds before maturity in a rising rate environment and less likely to do so in a falling rate environment.

 

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Note 6 – Fair Value Measurements (continued)

 

Management monitors rates and maturities of assets and liabilities and attempts to minimize interest rate risk by adjusting terms of new loans and deposits and by investing in securities with terms that mitigate the Bank’s overall interest rate risk.

Note 7 – Capital Notes

Financial has issued capital notes in the amount $7,000,000 (the “Notes”). The Notes bear interest at the rate of 6% per year with interest payable quarterly in arrears. The first quarterly interest payment on the Notes was paid on July 1, 2009. No principal payments are due until the Notes mature on April 1, 2012. On the maturity date, the principal and all accrued but unpaid interest on the Notes will be due and payable

Note 8 – Investments

The following tables summarize the Bank’s holdings for both securities held-to-maturity and securities available-for-sale as of September 30, 2011 and December 31, 2010 (amounts in thousands):

 

$(00,000) $(00,000) $(00,000) $(00,000)
    September 30, 2011  
    Amortized
Costs
    Gross Unrealized     Fair
Value
 
      Gains     (Losses)    

Held-to-Maturity

       

US agency obligations

  $ 8,165      $ 364      $ —        $ 8,529   
 

 

 

   

 

 

   

 

 

   

 

 

 

Available-for-Sale

       

US agency obligations

  $ 23,849      $ 271      $ (5   $ 24,115   

Mortgage-backed securities

    8,758        97        (14     8,841   

Municipals

    12,009        381        (193     12,197   
 

 

 

   

 

 

   

 

 

   

 

 

 
  $ 44,616      $ 749      $ (212   $ 45,153   
 

 

 

   

 

 

   

 

 

   

 

 

 

 

$(00,000) $(00,000) $(00,000) $(00,000)
    December 31, 2010  
    Amortized
Costs
    Gross Unrealized     Fair
Value
 
      Gains     (Losses)    

Held-to-Maturity

       

US agency obligations

  $ 14,297      $ 304      $ —        $ 14,601   
 

 

 

   

 

 

   

 

 

   

 

 

 

Available-for-Sale

       

US agency obligations

  $ 14,758      $ 24      $ (441   $ 14,341   

Mortgage-backed securities

    18,057        1        (296     17,762   

Municipals

    5,787        15        (337     5,465   

Other

    1,033        —          (15     1,018   
 

 

 

   

 

 

   

 

 

   

 

 

 
  $ 39,635      $ 40      $ (1,089   $ 38,586   
 

 

 

   

 

 

   

 

 

   

 

 

 

 

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Note 8 – Investments (continued)

 

The following tables show the gross unrealized losses and fair value of the Bank’s investments with unrealized losses that are not deemed to be other-than-temporarily impaired, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, at September 30, 2011 and December 31, 2010 (amounts in thousands):

 

$00,000 $00,000 $00,000 $00,000 $00,000 $00,000
    Less than 12 months     More than 12 months     Total  

September 30, 2011

  Fair
Value
    Unrealized
Losses
    Fair
    Value     
        Unrealized    
Losses
    Fair
  Value  
        Unrealized    
Losses
 

Description of securities

           

U.S. agency obligations

  $ 1,021      $ 5      $ —        $ —        $ 1,021      $ 5   

Mortgage-backed securities

    1,916        14        —          —          1,916        14   

Municipals

    4,877        193        —          —          4,877        193   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total

  $ 7,814      $ 212      $ —        $ —        $ 7,814      $ 212   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

$00,000 $00,000 $00,000 $00,000 $00,000 $00,000
    Less than 12 months     More than 12 months     Total  

December 31, 2010

  Fair
Value
    Unrealized
Losses
    Fair
  Value  
        Unrealized    
Losses
    Fair
    Value     
        Unrealized    
Losses
 

Description of securities

           

U.S. agency obligations

  $ 11,808      $ 441      $ —        $ —        $ 11,808      $ 441   

Mortgage-backed securities

    16,740        296        —          —          16,740        296   

Municipals

    3,178        303        590        34        3,768        337   

Corporates

    —          —          1,018        15        1,018        15   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total

  $ 31,726      $ 1,040      $ 1,608      $ 49      $ 33,334      $ 1,089   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Management evaluates securities for other-than-temporary impairment at least on a quarterly basis, and may do so more frequently when economic or market concerns warrant such evaluation. Consideration is given to (1) the length of time and the extent to which the fair value has been less than cost, (2) the financial condition and near-term prospects of the issuer, (3) the intent of Financial, if any, to sell the security; (4) whether Financial more likely than not will be required to sell the security before recovering its cost; and (5) whether Financial does not expect to recover the security’s entire amortized cost basis (even if Financial does not intend to sell the security).

At September 30, 2011, the Company did not consider the unrealized losses as other-than-temporary losses due to the nature of the securities involved. As of September 30, 2011, the Bank owned 9 securities that were being evaluated for other than temporary impairment. 6 of these securities were S&P rated AAA and 3 were S&P rated AA. As of September 30, 2011, 8 of these securities were obligations of government sponsored entities and 1 was a bank qualified municipal issue.

Based on the analysis performed by management as mandated by the Bank’s investment policy, management believes the default risk to be minimal. Because the Bank expects to recover the entire amortized cost basis, no declines currently are deemed to be other-than-temporary.

Note 9 – Loans, allowance for loan losses and OREO

Management has an established methodology used to determine the adequacy of the allowance for loan losses that assesses the risks and losses inherent in the loan portfolio. For purposes of determining the allowance for loan losses, the Bank has segmented certain loans in the portfolio by product type. Within these segments, the Bank has sub-segmented its portfolio by classes within the segments, based on the associated risks within these classes. The classifications set forth below do not correspond directly to the

 

17


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Note 9 – Loans and allowance for loan losses and OREO (continued)

 

classifications set forth in the call report (Form FFIEC 041). Management has determined that the classifications set forth below are more appropriate for use in identifying and managing risk in the loan portfolio.

 

Loan Segments:

  

Loan Classes:

Commercial

  

Commercial and industrial loans

Commercial real estate

  

Commercial mortgages – owner occupied

  

Commercial mortgages – non-owner occupied

  

Commercial construction

Consumer

  

Consumer unsecured

  

Consumer secured

Residential

  

Residential mortgages

  

Residential consumer construction

A summary of loans, net is as follows (dollars in thousands):

 

     As of:  
     September 30,
2011
     December 31,
2010
 

Commercial

   $ 63,867       $ 62,786   

Commercial real estate

     146,255         143,428   

Consumer

     69,799         68,289   

Residential

     44,855         51,679   
  

 

 

    

 

 

 

Total loans

     324,776         326,182   

Less allowance for loan losses

     5,461         5,467   
  

 

 

    

 

 

 

Net loans

   $ 319,315       $ 320,715   
  

 

 

    

 

 

 

The Bank’s internal risk rating system is in place to grade commercial and commercial real estate loans. Category ratings are reviewed periodically by lenders and the credit review area of the Bank based on the borrower’s individual situation. Additionally, internal and external monitoring and review of credits are conducted on an annual basis.

 

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Note 9 – Loans and allowance for loan losses and OREO (continued)

 

Below is a summary and definition of the Bank’s risk rating categories:

 

RATING 1

   Excellent

RATING 2

   Above Average

RATING 3

   Satisfactory

RATING 4

   Acceptable / Low Satisfactory

RATING 5

   Monitor

RATING 6

   Special Mention

RATING 7

   Substandard

RATING 8

   Doubtful

RATING 9

   Loss

We segregate loans into the above categories based on the following criteria and we review the characteristics of each rating at least annually, generally during the first quarter. The characteristics of these ratings are as follows:

 

 

“Pass.” These are loans having risk ratings of 1 through 4. Pass loans are to persons or business entities with an acceptable financial condition, appropriate collateral margins, appropriate cash flow to service the existing loan, and an appropriate leverage ratio. The borrower has paid all obligations as agreed and it is expected that this type of payment history will continue. When necessary, acceptable personal guarantors support the loan.

 

 

“Monitor.” These are loans having a risk rating of 5. Monitor loans have currently acceptable risk but may have the potential for a specific defined weakness in the borrower’s operations and the borrower’s ability to generate positive cash flow on a sustained basis. The borrower’s recent payment history may currently or in the future be characterized by late payments. The Bank’s risk exposure is mitigated by collateral supporting the loan. The collateral is considered to be well-margined, well maintained, accessible and readily marketable.

 

 

“Special Mention.” These are loans having a risk rating of 6. Special Mention loans have weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the asset or in the bank’s credit position at some future date. Special Mention loans are not adversely classified and do not expose an institution to sufficient risk to warrant adverse classification. These loans do warrant more than routine monitoring due to a weakness caused by adverse events.

 

 

“Substandard.” These are loans having a risk rating of 7. Substandard loans are considered to have specific and well-defined weaknesses that jeopardize the viability of the Bank’s credit extension. The payment history for the loan has been inconsistent and the expected or projected primary repayment source may be inadequate to service the loan. The estimated net liquidation value of the collateral pledged and/or ability of the personal guarantor(s) to pay the loan may not adequately protect the Bank. There is a distinct possibility that the Bank will sustain some loss if the deficiencies associated with the loan are not corrected in the near term. A substandard loan would not automatically meet our definition of impaired unless the loan is significantly past due and the borrower’s performance and financial condition provides evidence that it is probable that the Bank will be unable to collect all amounts due.

 

 

“Doubtful.” These are loans having a risk rating of 8. Doubtful rated loans have all the weaknesses inherent in a loan that is classified substandard but with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently existing facts, conditions, and values, highly questionable and improbable. The possibility of loss is extremely high.

 

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Note 9 – Loans and allowance for loan losses and OREO (continued)

 

Financing Receivables on Non-Accrual Status

(dollars in thousands)

 

     As of  
     September 30,
2011
     December 31,
2010
 

Commercial

   $ 4,044       $ 756   

Commercial Real Estate:

     

Commercial Mortgages-Owner Occupied

     2,269         1,157   

Commercial Mortgages-Non-Owner Occupied

     1,571         2,504   

Commercial Construction

     549         923   

Consumer

     

Consumer Unsecured

     —           83   

Consumer Secured

     1,062         1,153   

Residential:

     

Residential Mortgages

     1,384         1,725   

Residential Consumer Construction

     —           65   
  

 

 

    

 

 

 

Totals

   $ 10,879       $ 8,366   
  

 

 

    

 

 

 

We also classify other real estate owned (OREO) as a nonperforming asset. OREO, which is accounted for in the “other assets” section of the Consolidated Balance Sheets, represents real property owned by the Bank either through purchase at foreclosure or received from the borrower through a deed in lieu of foreclosure. OREO increased to $5,216,000 on September 30, 2011 from $3,440,000 on December 31, 2010. The following table represents the changes in OREO balance during the nine months ended September 30, 2011.

OREO Changes

(Dollars in Thousands)

 

     Nine months ended
September  30, 2011
 

Balance at the beginning of the year (gross)

   $ 3,440   

Transfers from loans

     3,682   

Transfer from premises and equipment

     —     

Capitalized costs

     18   

Charge-Offs

     (394

Sales proceeds

     (1,346

Gain (loss) on disposition

     (184
  

 

 

 

Balance at the end of the period (gross)

   $ 5,216   
  

 

 

 

Less valuation allowance

     —     

Balance at the end of the period (net)

   $ 5,216   
  

 

 

 

 

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Note 9 – Loans and allowance for loan losses and OREO (continued)

 

    

Impaired Loans

(dollars in thousands)

 
     For the Nine months Ended September 30, 2011  
2011   

Recorded

Investment

     Unpaid
Principal
Balance
    

Related

Allowance

     Average
Recorded
Investment
    

Interest

Income

Recognized

 

With No Related Allowance Recorded:

              

Commercial

   $ 5,341       $ 5,557       $ —         $ 9,970       $ 194   

Commercial Real Estate

              

Commercial Mortgages-Owner Occupied

     2,112         2,686         —           2,408         69   

Commercial Mortgage Non-Owner Occupied

     2,189         2,201         —           4,072         87   

Commercial Construction

     1,577         1,577         —           1,221         41   

Consumer

              

Consumer Unsecured

     —           —           —           —           —     

Consumer Secured

     956         1,295         —           661         4   

Residential

              

Residential Mortgages

     625         906         —           514         10   

Residential Consumer Construction

     —           —           —           33         —     

With An Allowance Recorded:

              

Commercial

   $ 3,243       $ 3,313       $ 564       $ 2,307       $ 84   

Commercial Real Estate

              

Commercial Mortgages-Owner Occupied

     3,780         3,963         526         4,447         157   

Commercial Mortgage Non-Owner Occupied

     4,758         4,810         513         2,942         145   

Commercial Construction

     582         594         132         1,895         10   

Consumer

              

Consumer Unsecured

     —           —           —           286         —     

Consumer Secured

     1,049         1,062         492         753         37   

Residential

              

Residential Mortgages

     2,189         2,454         244         1,981         77   

Residential Consumer Construction

     —           —           —           —           —     

Totals:

              

Commercial

   $ 8,584       $ 8,870       $ 564       $ 12,277       $ 278   

Commercial Real Estate

              

Commercial Mortgages-Owner Occupied

     5,892         6,649         526         6,855         226   

Commercial Mortgage Non-Owner Occupied

     6,947         7,011         513         7,014         232   

Commercial Construction

     2,159         2,171         132         3,116         51   

Consumer

              

Consumer Unsecured

     —           —           —           286         —     

Consumer Secured

     2,005         2,357         492         1,414         41   

Residential

              

Residential Mortgages

     2,184         3,360         244         2,495         87   

Residential Consumer Construction

     —           —           —           33         —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 
   $ 28,401       $ 30,418       $ 2,471       $ 33,490       $ 915   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

21


Table of Contents

Note 9 – Loans and allowance for loan losses and OREO (continued)

 

    

Impaired Loans

(dollars in thousands)

 
     For the Year Ended December 31, 2010  
2010   

Recorded

Investment

     Unpaid
Principal
Balance
    

Related

Allowance

     Average
Recorded
Investment
    

Interest

Income

Recognized

 

With No Related Allowance Recorded:

              

Commercial

   $ 14,598       $ 14,787       $ —         $ 14,794       $ 687   

Commercial Real Estate

              

Commercial Mortgages-Owner Occupied

     2,703         2,729         —           2,740         177   

Commercial Mortgage Non-Owner Occupied

     5,955         6,569         —           6,035         171   

Commercial Construction

     864         864         —           876         45   

Consumer

              

Consumer Unsecured

     —           —           —           —           —     

Consumer Secured

     366         660         —           371         13   

Residential

              

Residential Mortgages

     403         613         —           406         8   

Residential Consumer Construction

     65         68         —           66         1   

With An Allowance Recorded:

              

Commercial

   $ 1,371       $ 1,371       $ 195       $ 1,388       $ 82   

Commercial Real Estate

              

Commercial Mortgages-Owner Occupied

     5,114         5,144         1,218         5,184         177   

Commercial Mortgage Non-Owner Occupied

     1,125         1,132         53         1,141         21   

Commercial Construction

     3,208         3,355         437         3,252         103   

Consumer

              

Consumer Unsecured

     572         589         75         578         15   

Consumer Secured

     456         456         195         461         25   

Residential

              

Residential Mortgages

     1,772         1,923         257         1,794         124   

Residential Consumer Construction

     —           —           —           —           —     

Totals:

              

Commercial

   $ 15,969       $ 16,158       $ 195       $ 16,182       $ 769   

Commercial Real Estate

              

Commercial Mortgages-Owner Occupied

     7,817         7,873         1,218         7,924         354   

Commercial Mortgage Non-Owner Occupied

     7,080         7,701         53         7,176         192   

Commercial Construction

     4,072         4,219         437         4,128         148   

Consumer

              

Consumer Unsecured

     572         589         75         578         15   

Consumer Secured

     822         1,116         195         832         38   

Residential

              

Residential Mortgages

     2,175         2,536         257         2,200         132   

Residential Consumer Construction

     65         68         —           66         1   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 
   $ 38,572       $ 40,260       $ 2,430       $ 39,086       $ 1,649   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

22


Table of Contents

Note 9 – Loans and allowance for loan losses and OREO (continued)

 

     Allowance for Credit Losses and Recorded Investment in Financing  Receivables
(dollars in thousands)
For the Nine months Ended September 30, 2011
 
2011    Commercial     Commercial
Real Estate
    Consumer     Residential     Total  

Allowance for Credit Losses:

          

Beginning Balance

   $ 473      $ 2,897      $ 1,207      $ 890      $ 5,467   

Charge-offs

     (498     (1,519     (541     (238     (2,796

Recoveries

     8        —          23        2        33   

Provision

     1,068        1,158        383        148        2,757   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Ending Balance

     1,051        2,536        1,072        802        5,461   

Ending Balance: Individually evaluated for impairment

   $ 564      $ 1,171      $ 492      $ 244      $ 2,471   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Ending Balance: Collectively evaluated for impairment

     487        1,367        578        558        2,990   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Totals:

   $ 1,051      $ 2,538      $ 1,070      $ 802      $ 5,461   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Financing Receivables:

          

Ending Balance: Individually evaluated for impairment

     8,584        14,998        2,005        2,814        28,401   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Ending Balance: Collectively evaluated for impairment

     55,283        131,257        67,794        42,041        296,375   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Totals:

   $ 63,867      $ 146,255      $ 69,799      $ 44,855      $ 324,776   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

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Table of Contents

Note 9 – Loans and allowance for loan losses and OREO (continued)

 

     Allowance for Credit Losses and Recorded Investment in Financing  Receivables
(dollars in thousands)
For the Year Ended December 31, 2010
 
2010    Commercial      Commercial
Real Estate
     Consumer      Residential      Total  

Allowance for Credit Losses:

              

Ending Balance: Individually evaluated for impairment

   $ 195       $ 1,708       $ 270       $ 257       $ 2,430   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Ending Balance: Collectively evaluated for impairment

     278         1,189         937         633         3,037   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Totals:

   $ 473       $ 2,897       $ 1,207       $ 890       $ 5,467   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Financing Receivables:

              

Ending Balance: Individually evaluated for impairment

     15,969         18,969         1,394         2,240         38,572   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Ending Balance: Collectively evaluated for impairment

     46,817         124,459         66,895         49,439         287,610   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Totals:

   $ 62,786       $ 143,428       $ 68,289       $ 51,679       $ 326,182   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

    Age Analysis of Past Due Financing Receivables as of
September 30, 2011
(dollars in thousands)
 
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  &
Accruing
 

Commercial

  $ 333      $ —        $ 4,043      $ 4,376      $ 59,491      $ 63,867      $ —     

Commercial Real Estate:

             

Commercial Mortgages-Owner Occupied

    844        212        2,040        3,096        58,491        61,587        —     

Commercial Mortgages-Non-Owner Occupied

    2,408        —          1,571        3,979        70,234        74,213        —     

Commercial Construction

    —          —          549        549        9,906        10,455        —     

Consumer:

             

Consumer Unsecured

    4        10        —          14        3,073        3,087        —     

Consumer Secured

    143        120        1,052        1,315        65,397        66,712        —     

Residential:

             

Residential Mortgages

    605        —          1,246        1,851        40,399        42,250        —     

Residential Consumer Construction

    —          —          —          —          2,605        2,605        —     
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total

  $ 4,337      $ 342      $ 10,501      $ 11,866      $ 309,596      $ 324,776      $ —     
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

24


Table of Contents

Note 9 – Loans and allowance for loan losses and OREO (continued)

 

     Age Analysis of Past Due Financing Receivables as of
December 31, 2010
(dollars in thousands)
 
2010    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 &
Accruing
 

Commercial

   $ 726       $ 180       $ 576       $ 1,482       $ 61,304       $ 62,786       $ —     

Commercial Real Estate:

                    

Commercial Mortgages-Owner Occupied

     1,390         299         553         2,242         62,120         64,362         —     

Commercial Mortgages-Non-Owner Occupied

     1,169         253         2,503         3,925         62,619         66,544         —     

Commercial Construction

     —           —           923         923         11,599         12,522         —     

Consumer:

                    

Consumer Unsecured

     8         —           83         91         2,824         2,915         —     

Consumer Secured

     564         230         731         1,525         63,849         65,374         —     

Residential:

                    

Residential Mortgages

     1,072         68         793         1,933         39,834         41,767         —     

Residential Consumer Construction

     —           —           65         65         9,847         9,912         —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 4,929       $ 1,030       $ 6,227       $ 12,186       $ 313,996       $ 326,182       $ —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

     Credit Quality Information - by Class
September 30, 2011
(dollars in thousands)
 
     Pass      Monitor      Special
Mention
     Substandard      Doubtful      Totals  

Commercial

   $ 51,267       $ 3,220       $ 3,085       $ 6,131       $ 164       $ 63,867   

Commercial Real Estate:

                 

Commercial Mortgages-Owner Occupied

     50,405         4,417         1,168         5,450         147         61,587   

Commercial Mortgages-Non-Owner Occupied

     61,673         3,849         1,744         6,947         —           74,213   

Commercial Construction

     8,190         106         —           2,159         —           10,455   

Consumer

                 

Consumer Unsecured

     3,087         —           —           —           —           3,087   

Consumer Secured

     63,984         489         306         1,933         —           66,712   

Residential:

                 

Residential Mortgages

     38,870         333         233         2,814         —           42,250   

Residential Consumer Construction

     2,605         —           —           —           —           2,605   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Totals

   $ 280,081       $ 12,414       $ 6,536       $ 25,434       $ 311       $ 324,776   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

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Table of Contents

Note 9 – Loans and allowance for loan losses and OREO (continued)

 

     Credit Quality Information - by Class
December 31, 2010
(dollars in thousands)
 
     Pass      Monitor      Special
Mention
     Substandard      Doubtful      Totals  

Commercial

   $ 41,328       $ 2,732       $ 9,471       $ 9,075       $ 180       $ 62,786   

Commercial Real Estate:

                 

Commercial Mortgages-Owner Occupied

     50,485         5,535         1,378         6,814         150         64,362   

Commercial Mortgages-Non-Owner Occupied

     52,004         2,337         6,354         5,849         —           66,544   

Commercial Construction

     7,571         855         1,446         2,650         —           12,522   

Consumer

                 

Consumer Unsecured

     2,805         —           1         34         75         2,915   

Consumer Secured

     63,225         475         349         1,325         —           65,374   

Residential:

                 

Residential Mortgages

     38,504         77         —           3,014         172         41,767   

Residential Consumer Construction

     9,475         —           372         65         —           9,912   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Totals

   $ 265,397       $ 12,011       $ 19,371       $ 28,826       $ 577       $ 326,182   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Troubled Debt Restructurings

 

For the Nine months Ended September 30, 2011  

(dollars in thousands)

 

Troubled Debt Restructurings

   Number of
Contracts
   Pre-Modification
Outstanding
Recorded
Investment
     Post-
Modification
Outstanding
Recorded
Investment
 

Commercial Real Estate

   5    $ 3,345,376       $ 3,345,376   
     

 

 

    

 

 

 

The five contracts referenced above were modified in the form of interest rate reductions. After modification, each loan was individually reevaluated for impairment. As a result of the evaluation, it was determined that there was no additional impact to the allowance for loan loss.

There were no loan modifications during the three months ended September 30, 2011.

 

For the Nine months Ended September 30, 2011

(dollars in thousands)

 

Troubled Debt Restructurings That Subsequently Defaulted

   Number
of
Contracts
   Recorded
Investment
 

Commercial

   1    $ 182,592   

Consumer

   1      29,999   

Residential

   2      482,097   
  

 

  

 

 

 

Total

   4    $ 694,688   
  

 

  

 

 

 

There were no Troubled Debt Restructurings that defaulted during the three months ended September 30, 2011.

 

26


Table of Contents

Note 10 – Subsequent Events

In preparing these financial statements, Financial has evaluated events and transactions for potential recognition or disclosure through the date the financial statements were issued.

Note 11 – Recent Accounting Pronouncements

In January 2010, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) 2010-06, “Fair Value Measurements and Disclosures (Topic 820): Improving Disclosures about Fair Value Measurements.” ASU 2010-06 amends Subtopic 820-10 to clarify existing disclosures, require new disclosures, and includes conforming amendments to guidance on employers’ disclosures about postretirement benefit plan assets. ASU 2010-06 is effective for interim and annual periods beginning after December 15, 2009, except for disclosures about purchases, sales, issuances, and settlements in the roll forward of activity in Level 3 fair value measurements. Those disclosures are effective for fiscal years beginning after December 15, 2010 and for interim periods within those fiscal years. The adoption of the new guidance did not have a material impact on the Company’s consolidated financial statements.

In July 2010, the FASB issued ASU 2010-20, “Receivables (Topic 310) – Disclosures about the Credit Quality of Financing Receivables and the Allowance for Credit Losses.” The new disclosure guidance significantly expands the existing requirements and will lead to greater transparency into an entity’s exposure to credit losses from lending arrangements. The extensive new disclosures of information as of the end of a reporting period became effective for both interim and annual reporting periods ending on or after December 15, 2010. Specific disclosures regarding activity that occurred before the issuance of the ASU, such as the allowance roll forward and modification disclosures, were required for periods beginning on or after December 15, 2010. The Company has included the required disclosures in its consolidated financial statements.

In December 2010, the FASB issued ASU 2010-28, “Intangible – Goodwill and Other (Topic 350) – When to Perform Step 2 of the Goodwill Impairment Test for Reporting Units with Zero or Negative Carrying Amounts.” The amendments in this ASU modify Step 1 of the goodwill impairment test for reporting units with zero or negative carrying amounts. For those reporting units, an entity is required to perform Step 2 of the goodwill impairment test if it is more likely than not that a goodwill impairment exists. The amendments in this ASU are effective for fiscal years, and interim periods within those years, beginning after December 15, 2010. Early adoption is not permitted. The adoption of the new guidance did not have a material impact on the Company’s consolidated financial statements.

In December 2010, the FASB issued ASU 2010-29, “Business Combinations (Topic 805) – Disclosure of Supplementary Pro Forma Information for Business Combinations.” The guidance requires pro forma disclosure for business combinations that occurred in the current reporting period as though the acquisition date for all business combinations that occurred during the year had been as of the beginning of the annual reporting period. If comparative financial statements are presented, the pro forma information should be reported as though the acquisition date for all business combinations that occurred during the current year had been as of the beginning of the comparable prior annual reporting period. ASU 2010-29 is effective for business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2010. Early adoption is permitted. The adoption of the new guidance did not have a material impact on the Company’s consolidated financial statements.

The Securities Exchange Commission (SEC) issued Final Rule No. 33-9002, “Interactive Data to Improve Financial Reporting.” The rule requires companies to submit financial statements in extensible business reporting language (XBRL) format with their SEC filings on a phased-in schedule. Large accelerated filers and foreign large accelerated filers using U.S. GAAP were required to provide interactive data reports starting with their first quarterly report for fiscal periods ending on or after June 15, 2010. All

 

27


Table of Contents

Note 11 – Recent Accounting Pronouncements (continued)

 

remaining filers are required to provide interactive data reports starting with their first quarterly report for fiscal periods ending on or after June 15, 2011. The Company complied with this Rule beginning with the filing of the June 30, 2011 Form 10-Q.

In March 2011, the SEC issued Staff Accounting Bulletin (SAB) 114. This SAB revises or rescinds portions of the interpretive guidance included in the codification of the Staff Accounting Bulletin Series. This update is intended to make the relevant interpretive guidance consistent with current authoritative accounting guidance issued as a part of the FASB’s Codification. The principal changes involve revision or removal of accounting guidance references and other conforming changes to ensure consistency of referencing through the SAB Series. The effective date for SAB 114 is March 28, 2011. The adoption of the new guidance did not have a material impact on the Company’s consolidated financial statements.

In April 2011, the FASB issued ASU 2011-02, “Receivables (Topic 310) – A Creditor’s Determination of Whether a Restructuring Is a Troubled Debt Restructuring.” The amendments in this ASU clarify the guidance on a creditor’s evaluation of whether it has granted a concession to a debtor. They also clarify the guidance on a creditor’s evaluation of whether a debtor is experiencing financial difficulty. The amendments in this ASU are effective for the first interim or annual period beginning on or after June 15, 2011. Early adoption is permitted. Retrospective application to the beginning of the annual period of adoption for modifications occurring on or after the beginning of the annual adoption period is required. As a result of applying these amendments, an entity may identify receivables that are newly considered to be impaired. For purposes of measuring impairment of those receivables, an entity should apply the amendments prospectively for the first interim or annual period beginning on or after June 15, 2011. The Company has adopted ASU 2011-02 and included the required disclosures in its consolidated financial statements.

In April 2011, the FASB issued ASU 2011-03, “Transfers and Servicing (Topic 860) – Reconsideration of Effective Control for Repurchase Agreements.” The amendments in this ASU remove from the assessment of effective control (1) the criterion requiring the transferor to have the ability to repurchase or redeem the financial assets on substantially the agreed terms, even in the event of default by the transferee and (2) the collateral maintenance implementation guidance related to that criterion. The amendments in this ASU are effective for the first interim or annual period beginning on or after December 15, 2011. The guidance should be applied prospectively to transactions or modifications of existing transactions that occur on or after the effective date. Early adoption is not permitted. The Company is currently assessing the impact that ASU 2011-03 will have on its consolidated financial statements.

In May 2011, the FASB issued ASU 2011-04, “Fair Value Measurement (Topic 820) – Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRSs.” This ASU is the result of joint efforts by the FASB and IASB to develop a single, converged fair value framework on how (not when) to measure fair value and what disclosures to provide about fair value measurements. The ASU is largely consistent with existing fair value measurement principles in U.S. GAAP (Topic 820), with many of the amendments made to eliminate unnecessary wording differences between U.S. GAAP and IFRSs. The amendments are effective for interim and annual periods beginning after December 15, 2011 with prospective application. Early application is not permitted. The Company is currently assessing the impact that ASU 2011-04 will have on its consolidated financial statements.

In June 2011, the FASB issued ASU 2011-05, “Comprehensive Income (Topic 220) – Presentation of Comprehensive Income.” The objective of this ASU is to improve the comparability, consistency and transparency of financial reporting and to increase the prominence of items reported in other comprehensive income by eliminating the option to present components of other comprehensive income

 

28


Table of Contents

Note 11 – Recent Accounting Pronouncements (continued)

 

as part of the statement of changes in stockholders’ equity. The amendments require that all non-owner changes in stockholders’ equity be presented either in a single continuous statement of comprehensive income or in two separate but consecutive statements. The single statement of comprehensive income should include the components of net income, a total for net income, the components of other comprehensive income, a total for other comprehensive income, and a total for comprehensive income. In the two-statement approach, the first statement should present total net income and its components followed consecutively by a second statement that should present all the components of other comprehensive income, a total for other comprehensive income, and a total for comprehensive income. The amendments do not change the items that must be reported in other comprehensive income, the option for an entity to present components of other comprehensive income either net of related tax effects or before related tax effects, or the calculation or reporting of earnings per share. The amendments in this ASU should be applied retrospectively. The amendments are effective for fiscal years and interim periods within those years beginning after December 15, 2011. Early adoption is permitted because compliance with the amendments is already permitted. The amendments do not require transition disclosures. The Company is currently assessing the impact that ASU 2011-05 will have on its consolidated financial statements.

In August 2011, the SEC issued Final Rule No. 33-9250, “Technical Amendments to Commission Rules and Forms related to the FASB’s Accounting Standards Codification.” The SEC has adopted technical amendments to various rules and forms under the Securities Act of 1933, the Securities Exchange Act of 1934, and the Investment Company Act of 1940. These revisions were necessary to conform those rules and forms to the FASB Accounting Standards Codification. The technical amendments include revision of certain rules in Regulation S-X, certain items in Regulation S-K, and various rules and forms prescribed under the Securities Act, Exchange Act and Investment Company Act. The Release was effective as of August 12, 2011. The adoption of the release did not have a material impact on the Company’s consolidated financial statements.

In September 2011, the FASB issued ASU 2011-08, “Intangible – Goodwill and Other (Topic 350) – Testing Goodwill for Impairment.” The amendments in this ASU permit an entity to first assess qualitative factors related to goodwill to determine whether it is more likely than not that the fair value of the reporting unit is less than its carrying amount as a basis for determining whether it is necessary to perform the two-step goodwill test described in Topic 350. The more-likely-than-not threshold is defined as having a likelihood of more than 50 percent. Under the amendments in this ASU, an entity is not required to calculate the fair value of a reporting unit unless the entity determines that it is more likely than not that its fair value is less than its carrying amount. The amendments in this ASU are effective for annual and interim goodwill impairment tests performed for fiscal years beginning after December 15, 2011. Early adoption is permitted, including for annual and interim goodwill impairment tests performed as of a date before September 15, 2011, if an entity’s financial statements for the most recent annual or interim period have not yet been issued. The Company is currently assessing the impact that ASU 2011-08 will have on its consolidated financial statements.

 

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

CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS

This report contains statements that constitute “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, and the Private Securities Litigation Reform Act of 1995. The words “believe,” “estimate,” “expect,” “intend,” “anticipate,” “plan” and similar expressions and variations thereof identify certain of such forward-looking statements which speak only as of the dates on which they were made. We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events, or otherwise. Readers are cautioned that any such forward-looking statements are not guarantees of future performance and involve risks and uncertainties, and that actual results may differ materially from those indicated in the forward-looking statements as a result of various factors. Factors that could cause actual results to differ from the results discussed in the forward-looking statements include, but are not limited to: economic conditions (both generally and more specifically in the markets in which we operate); competition for our customers from other providers of financial services; government legislation and regulation relating to the banking industry (which changes from time to time and over which we have no control) including but not limited to the Dodd-Frank Wall Street Reform and Consumer Protection Act; changes in the value of real estate securing loans made by the Bank; changes in interest rates; and material unforeseen changes in the liquidity, results of operations, or financial condition of our customers. Other risks, uncertainties and factors could cause our actual results to differ materially from those projected in any forward-looking statements we make.

GENERAL

Critical Accounting Policies

Bank of the James Financial Group, Inc.’s (“Financial”) financial statements are prepared in accordance with accounting principles generally accepted in the United States (GAAP). The financial information contained within our statements is, to a significant extent, based on measures of the financial effects of transactions and events that have already occurred. A variety of factors could affect the ultimate value that is obtained either when earning income, recognizing an expense, recovering an asset or relieving a liability. We use historical loss ratios as one factor in determining the inherent loss that may be present in our loan portfolio. Actual losses could differ significantly from the historical factors that we use in estimating risk. 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.

The allowance for loan losses is management’s estimate of the losses that may be sustained in our loan portfolio. The allowance is based on two basic principles of accounting: (i) ASC 450 “Contingencies”, which requires that losses be accrued when they are probable of occurring and are reasonably estimable and (ii) ASC 310 “Impairment of a Loan”, which requires that losses on impaired loans be accrued 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. Guidelines for determining allowances for loan losses are also provided in the SEC Staff Accounting Bulletin No. 102 – “Selected Loan Loss Allowance Methodology and Documentation Issues” and the Federal Financial Institutions Examination Council’s interagency guidance, “Interagency Policy Statement on the Allowance for Loan and Lease Losses” (the “FFIEC Policy Statement”). See “Management Discussion and Analysis Results of Operations – Allowance for Loan Losses and Loan Loss Reserve” below for further discussion of the allowance for loan losses.

 

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Overview

Financial is a bank holding company headquartered in Lynchburg, Virginia. Our primary business is retail banking which we conduct through our wholly-owned subsidiary, Bank of the James (which we refer to as the “Bank”). We conduct three other business activities, mortgage banking through the Bank’s Mortgage division (which we refer to as “Mortgage”), investment services through the Bank’s Investment division (which we refer to as “Investment”), and insurance activities through BOTJ Insurance, Inc., a subsidiary of the Bank, (which we refer to as “Insurance”).

Financial declared a 10% stock dividend on May 18, 2010 which was paid on July 23, 2010 to shareholders of record on June 21, 2010.

The Bank is a Virginia banking corporation headquartered in Lynchburg, Virginia. The Bank was incorporated under the laws of the Commonwealth of Virginia as a state chartered bank in 1998 and began banking operations in July 1999. The Bank was organized to engage in general retail and commercial banking business. The Bank is a community-oriented financial institution that provides varied banking services to individuals, small and medium-sized businesses, and professional concerns in the Central Virginia, Region 2000 area, which encompasses the seven jurisdictions of the Town of Altavista, Amherst County, Appomattox County, the City of Bedford, Bedford County, Campbell County, and the City of Lynchburg. The Bank strives to provide its customers with products comparable to statewide regional banks located in its market area, while maintaining the prompt response time and level of service of a community bank. Management believes this operating strategy has particular appeal in the Bank’s market area.

The Bank’s principal office is located at 828 Main Street, Lynchburg, Virginia 24504 and its telephone number is (434) 846-2000. The Bank also maintains a website at www.bankofthejames.com.

Our operating results depend primarily upon the Bank’s net interest income, which is determined by the difference between (i) interest and dividend income on earning assets, which consist primarily of loans, investment securities and other investments, and (ii) interest expense on interest-bearing liabilities, which consist principally of deposits and other borrowings. The Bank’s net income also is affected by its provision for loan losses, as well as the level of its non-interest income, including loan fees and service charges, and its non-interest expenses, including salaries and employee benefits, occupancy expense, data processing expenses, Federal Deposit Insurance Corporation premiums, expense in complying with the Sarbanes-Oxley Act of 2002, miscellaneous other expenses, franchise taxes, and income taxes.

The Bank intends to enhance its profitability by increasing its market share in the Region 2000 area, providing additional services to its customers, and controlling costs.

The Bank now services its banking customers through the following nine full service branch locations in the Region 2000 area.

 

   

The main office located at 828 Main Street in Lynchburg (opened October 2004) (the “Main Street Office”),

 

   

A branch located at 615 Church Street in Lynchburg (opened July 1999) (the “Church Street Branch”),

 

   

A branch located at 5204 Fort Avenue in Lynchburg (opened November 2000) (the “Fort Avenue Branch”),

 

   

A branch located on South Amherst Highway in Amherst County (opened June 2002) (the “Madison Heights Branch”),

 

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A branch located at 17000 Forest Road in Forest (opened February 2005) (the “Forest Branch”),

 

   

A branch located at 4935 Boonsboro Road, Suites C and D in Lynchburg (opened April 2006) (the “Boonsboro Branch”),

 

   

A branch located at 164 South Main Street, Amherst, Virginia (opened January 2007) (the “Amherst Branch”),

 

   

A branch located at 1405 Ole Dominion Boulevard in the City of Bedford, Virginia, located off of Independence Boulevard (opened October 2008) (the “Bedford Branch”), and

 

   

A branch located at 1110 Main Street, Altavista, Virginia (relolcated from temporary branch in June 2009) (the “Altavista Branch”).

The Bank also has opened a limited-service branch located in the Westminster-Canterbury facilities located at 501 VES Road, Lynchburg, Virginia 24503.

In addition, the Bank, through its Mortgage division, originates residential mortgage loans through two offices—one located at the Forest Branch and the other located at 1152 Hendricks Store Road, Moneta, Virginia.

The Investment division operates primarily out of its office located at the Church Street Branch.

The Bank continuously evaluates areas located within Region 2000 to identify additional viable branch locations. Based on this ongoing evaluation, the Bank may acquire one or more additional suitable sites.

Subject to regulatory approval, the Bank anticipates opening additional branches during the next two fiscal years. Although numerous factors could influence the Bank’s expansion plans, the following discussion provides a general overview of the additional branch location that the Bank currently is considering.

Timberlake Road Area, Campbell County (Lynchburg), Virginia. As previously disclosed, the Bank has purchased certain real property located at the intersection of Turnpike and Timberlake Roads, Campbell County, Virginia. The Bank does not anticipate opening a branch at this location prior to 2012. The Bank has determined that the existing structure is not suitable for use as a bank branch.

Rustburg, Virginia. In March, 2011 the Bank purchased certain real property near the intersection of Routes 501 and 24 in Rustburg, Virginia. The structure on the property is being demolished and removed. The Bank does not anticipate opening a branch at this location prior to the first quarter of 2013. The Bank has installed an ATM in a local municipal building in order to establish a presence in this market until the branch has been established.

The Bank estimates that the cost of improvements, furniture, fixtures, and equipment necessary to upfit the property will be between $900,000 and $1,500,000 per location.

Although the Bank cannot predict with certainty the financial impact of each new branch, management generally anticipates that each new branch will become profitable within 12 to 18 months of operation.

Subject to terms acceptable to the Bank, the Bank may consider entering into sale-leaseback arrangements for one or more of its branches.

 

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Except as set forth herein, the Bank does not expect to purchase any significant property or equipment in the upcoming 12 months. Future branch openings are subject to regulatory approval.

OFF-BALANCE SHEET ARRANGEMENTS

The Bank is a party to various financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of our customers. These financial instruments include commitments to extend credit and standby letters of credit. Such commitments involve, to varying degrees, elements of credit risk and interest rate risk in excess of the amount recognized in the balance sheets and could impact the overall liquidity and capital resources to the extent customers accept and/or use these commitments.

The Bank’s exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit and standby letters of credit is represented by the contractual amount of those instruments. The Bank uses the same credit policies in making commitments and conditional obligations as it does for on-balance sheet instruments. A summary of the Bank’s commitments is as follows:

 

     September 30,
2011

(in thousands)
 

Commitments to extend credit

   $ 47,859   

Letters of Credit

     914   
  

 

 

 

Total

   $ 48,773   
  

 

 

 

Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Because many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The amount of collateral obtained, if deemed necessary by the Bank upon extension of credit, is based on the Bank’s credit evaluation of the customer.

Standby letters of credit are conditional commitments issued by the Bank to guarantee the performance of a customer to a third party. Those letters of credit are primarily issued to support public and private borrowing arrangements. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loans to customers. Collateral is required in instances that the Bank deems necessary.

SUMMARY OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion represents management’s discussion and analysis of the financial condition of Financial as of September 30, 2011 and December 31, 2010 and the results of operations of Financial for the three month and nine month periods ended September 30, 2011 and 2010. This discussion should be read in conjunction with the financial statements included elsewhere herein and should be read in the context of the length of time for which the Bank has been operating.

All financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America.

 

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Financial Condition Summary

September 30, 2011 as Compared to December 31, 2010

Total assets were $429,440,000 on September 30, 2011 compared with $418,928,000 at December 31, 2010, an increase of 2.51%. The increase in total assets is due primarily to an increase in Federal funds sold and securities available-for-sale resulting from an increase in deposits, as explained in the following paragraph.

Total deposits increased from $368,390,000 as of December 31, 2010 to $375,547,000 on September 30, 2011, an increase of 1.94%. This increase occurred because of the Bank’s increased efforts to obtain lower cost demand deposits and the Bank’s increased presence in the market.

Total loans decreased to $324,776,000 on September 30, 2011 from $326,182,000 on December 31, 2010. Loans, net of unearned income and allowance, decreased to $319,315,000 on September 30, 2011 from $320,715,000 on December 31, 2010, a decrease of 0.44%. The following summarizes the position of the Bank’s loan portfolio as of the dates indicated by dollar amount and percentages (dollar amounts in thousands):

 

     September 30, 2011     December 31, 2010  
     Amount      Percentage     Amount      Percentage  

Commercial

   $ 63,867         19.67   $ 62,786         19.25

Commercial Real Estate

     146,255         45.02     143,428         43.97

Consumer

     69,799         21.50     68,289         20.94

Residential

     44,855         13.81     51,679         15.84
  

 

 

    

 

 

   

 

 

    

 

 

 

Total loans

   $ 324,776         100.00   $ 326,182         100.00
  

 

 

    

 

 

   

 

 

    

 

 

 

Total nonperforming assets, which consist of non-accrual loans and other real estate owned (“OREO”) increased to $16,005,000 on September 30, 2011 from $11,806,000 on December 31, 2010. This increase was primarily due to an increase in non-accrual (or nonperforming) loans. Non-accrual loans increased 28.97% to $10,789,000 on September 30, 2011 from $8,366,000 on December 31, 2010. The increase largely resulted from the reclassification in the quarter ended June 30, 2011 of two relationships related to real estate development. As discussed in more detail below under “Results of Operations—Allowance for Loan Losses”, management has provided for the anticipated losses on these loans in the loan loss reserve. If interest on non-accrual loans had been accrued, such interest on a cumulative basis would have approximated $1,356,000 and $1,059,000, as of September 30, 2011 and December 31, 2010, respectively. Loan payments received on non-accrual loans are first applied to principal. When a loan is placed on non-accrual status there are several negative implications. First, all interest accrued but unpaid at the time of the classification is reversed and deducted from the interest income totals for the Bank. Second, accruals of interest are discontinued until it becomes certain that both principal and interest can be repaid. Third, there may be actual losses that necessitate additional provisions for credit losses charged against earnings. These loans were included in the non-performing loan totals listed above.

OREO represents real property owned by the Bank acquired either through purchase at foreclosure or received from the borrower through a deed in lieu of foreclosure. On December 31, 2010, the Bank was carrying 15 OREO properties on its books at a value of $3,440,000. During the nine months ended September 30, 2011, the Bank acquired 24 additional OREO properties and disposed of 17 OREO properties, and as of September 30, 2011 the Bank is carrying 22 OREO properties at a value of $5,216,000. The OREO properties are available for sale and are being actively marketed on the Bank’s website and through other means.

The Bank had loans in the amount of $3,345,000 at September 30, 2011 classified as performing Troubled Debt Restructurings (“TDRs”) as compared to $4,987,000 at December 31, 2010. None of these TDRs were included in non-accrual loans. These loans have had their original terms modified to facilitate payment by the borrower. The loans have been classified as TDRs primarily due to a change to interest only payments and the maturity of these modified loans is primarily less than one year.

 

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Cash and cash equivalents increased to $26,170,000 on September 30, 2011 from $18,759,000 on December 31, 2010. Cash and cash equivalents consist of cash due from correspondents, cash in vault, and overnight investments (including federal funds sold). This increase is due primarily to an increase in cash and due from banks from $11,665,000 at December 31, 2010 to $17,429,000 at September 30, 2011. Cash and cash equivalents can vary due to routine fluctuations in deposits, including fluctuations in transactional accounts and professional settlement accounts, both of which are subject to fluctuations.

Because of the call of five bonds, securities held-to-maturity decreased to $8,165,000 on September 30, 2011 from $14,297,000 on December 31, 2010. Securities available-for-sale increased to $45,153,000 on September 30, 2011, from $38,586,000 December 31, 2010. During the nine months ended September 30, 2011 the Bank received $13,524,000 in proceeds from maturities and/or calls of securities available-for-sale and $31,267,000 in proceeds from the sale of securities available-for-sale. The Bank purchased $49,403,000 in securities available-for sale during the same period. The increase from December 31, 2010 in securities available-for-sale was primarily due to the investment of funds received from an increase in deposit accounts and the reinvestment of proceeds from called securities held-to-maturity.

Financial’s investment in Federal Home Loan Bank of Atlanta (FHLBA) stock totaled $1,222,000 at September 30, 2011 and $1,372,000 at December 31, 2010, a decrease of $150,000 or10.94%. FHLBA stock is generally viewed as a long-term investment and because there is no market for the stock other than other Federal Home Loan Banks or member institutions, FHLBA stock is viewed as a restricted security. Therefore, when evaluating FHLBA stock for impairment, its value is based on the ultimate recoverability of the par value rather than by recognizing temporary declines in value. The FHLBA has resumed the repurchase of limited amounts of Subclass B1 and B2 stock after temporarily suspending this activity during the financial crisis of 2008-2009.

Liquidity and Capital

At September 30, 2011, Financial had liquid assets of approximately $71,323,000 in the form of cash, interest-bearing and noninterest-bearing deposits with banks, federal funds sold and available-for-sale investments. Management believes that liquid assets were adequate at September 30, 2011. Management anticipates that additional liquidity will be provided by the growth in deposit accounts and loan repayments at the Bank. In addition, the Bank has the ability to purchase federal funds on the open market and borrow from the Federal Reserve Bank’s discount window, if necessary.

In connection with a private placement of unregistered debt securities, Financial issued capital notes in the amount $7,000,000 (the “Notes”) in 2009. The Notes bear interest at the rate of 6% per year with interest payable quarterly in arrears. No principal payments are due until the Notes mature on April 1, 2012, the date on which the Notes mature and the principal and all accrued but unpaid interest on the Notes will be due and payable. During the three and nine months ended September 30, 2011, Financial made interest payments on the Notes totaling $105,000 and $315,000, respectively.

Management is not aware of any trends, events or uncertainties that are reasonably likely to have a material negative impact on Financial’s short-term or long-term liquidity.

 

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At September 30, 2011, the Bank had a leverage ratio of 7.75%, a Tier 1 risk-based capital ratio of 10.55% and a total risk-based capital ratio of 11.80%. As of September 30, 2011 and December 31, 2010 the Bank’s regulatory capital levels exceeded those established for well-capitalized institutions. The following table sets forth the minimum capital requirements and the Bank’s capital position as of September 30, 2011 and December 31, 2010:

Bank Level Only Capital Ratios

 

Analysis of Capital (in 000’s)    September 30,
2011
     December 31,
2010
 

Tier 1 Capital:

     

Common stock

   $ 3,743       $ 3,742   

Surplus

     19,325         19,325   

Retained earnings

     10,284         9,049   
  

 

 

    

 

 

 

Total Tier 1 capital

   $ 33,352       $ 32,116   
  

 

 

    

 

 

 

Tier 2 Capital:

     

Allowance for loan losses

   $ 3,971       $ 3,989   
  

 

 

    

 

 

 

Total Tier 2 Capital:

   $ 3,971       $ 3,989   
  

 

 

    

 

 

 

Total risk-based capital

   $ 37,323       $ 36,105   
  

 

 

    

 

 

 

Risk weighted assets

   $ 316,227       $ 317,606   

Average total assets

   $ 430,377       $ 423,349   

 

     Actual     Regulatory Benchmarks  
     September 30,
2011
    December 31,
2010
    For
Capital
Adequacy
Purposes
    For Well
Capitalized
Purposes
 

Capital Ratios:

        

Tier 1 capital to average total assets ratio (leverage ratio)

     7.75     7.59     4.00     5.00

Tier 1 risk based capital ratio

     10.55     10.11     4.00     6.00

Total risk-based capital ratio

     11.80     11.37     8.00     10.00

The above tables set forth the capital position and analysis for the Bank only. Because total assets on a consolidated basis are less than $500,000,000, Financial is not subject to the consolidated capital requirements imposed by the Bank Holding Company Act. Consequently, Financial does not calculate its financial ratios on a consolidated basis. If calculated, the capital ratios for the Company on a consolidated basis would no longer be comparable to the capital ratios of the Bank because the proceeds from the private placement of the 6% capital notes due on April 1, 2012 do not qualify as equity capital on a consolidated basis.

 

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Results of Operations

Comparison of the Three and nine months Ended September 30, 2011 and 2010

Earnings Summary

Financial had net income of $64,000 and $818,000 for the three and nine months ended September 30, 2011 compared to $506,000 and $1,642,000 for the comparable periods in 2010. The basic and diluted earnings per common share for the three and nine months ended September 30, 2011 were $0.02 and $0.25, compared to basic and diluted earnings per share of $0.15 for the three months ended September 30, 2010 and basic and diluted earnings per share of $0.50 and $0.49, respectively for the nine months ended September 30, 2010. All earnings per share amounts have been adjusted to reflect the 10% stock dividend paid by Financial in July 2010 and all prior stock dividends.

The decrease in net income was due in large part to the increased provision to the allowance for loan loss reserve as discussed in more detail below (See “Allowance for Loan Losses”).

These operating results represent an annualized return on stockholders’ equity of 0.94% and 4.12% for the three and nine months ended September 30, 2011, compared with 7.91% and 8.87% for the same periods in 2010. The Company had an annualized return on average assets for the three and nine months ended September 30, 2011 of 0.06% and 0.26%, compared with 0.49% and 0.53% for three and nine months ended September 30, 2010.

Interest Income, Interest Expense, and Net Interest Income

Interest income decreased to $4,836,000 and $14,674,000 for the three and nine months ended September 30, 2011 from $5,392,000 and $16,233,000 for the same periods in 2010, a decrease of 10.31% and 9.60%, respectively. Interest income decreased primarily because the rate on total average earning assets decreased from 5.62% and 5.66% for the three month and nine month periods ended September 30, 2010 to 4.84% and 4.97% for the three and nine months ended September 30, 2011. The rate on total average earning assets decreased in part because the Bank invested a greater percentage of its earning assets in investment securities and federal funds rather than loans and because the average yield on loans decreased both quarterly and year to date. Although management cannot be certain, management expects that interest rates will remain near historic lows for the remainder of 2011 and may negatively impact our interest income.

Interest expense decreased to $990,000 and $3,315,000 for the three and nine months ended September 30, 2011 from $1,454,000 and $5,028,000 for the same periods in 2010, a decrease of 31.91% and 34.07%, respectively. This significant decrease in interest expense resulted in large part from a decrease in the rate paid on balances on deposits. The Bank’s average rate paid on deposits was 1.57% and 1.84% during the three and nine month periods ended September 30, 2010 as compared to 0.96% and 1.12% for the same periods in 2011. This resulted from management’s efforts to minimize the Bank’s interest expense and maximize its net interest margin.

The fundamental source of the Bank’s revenue is net interest income, which is determined by the difference between (i) interest and dividend income on interest earning assets, which consist primarily of loans, investment securities and other investments, and (ii) interest expense on interest-bearing liabilities, which consist principally of deposits and other borrowings. Net interest income for the three and nine months ended September 30, 2011 was $3,846,000 and $11,359,000 compared with $3,938,000 and $11,205,000 for the same periods in 2010. The decrease in net interest income for the three months ended September 30, 2011 as compared with the comparable three month period in 2010 was due to interest earning assets repricing downward faster than interest bearing liabilities. During the first quarter of 2011, the opposite occurred and interest bearing liabilities priced downward faster than interest earning assets, which resulted in an increase in net interest income for the nine months ended September 30, 2011 as compared to the same period in 2010. The net interest margin was 3.84% and 3.85% for the three and nine months ended September 30, 2011, down from 3.91% and 4.10% in the same periods a year ago.

 

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Financial’s net interest margin analysis and average balance sheets are shown in Schedule I on page 42.

Non-Interest Income

Non-interest income is comprised primarily of fees and charges on transactional deposit accounts, mortgage loan origination fees, commissions on sales of investments and the Bank’s ownership interest in a title insurance agency. Non-interest income exclusive of gains on sales of securities decreased to $634,000 and $1,864,000 for the three and nine months ended September 30, 2011 from $856,000 and $2,346,000 for the three and nine months ended September 30, 2010. This decrease for the three and nine months ended September 30, 2011 as compared to the same periods last year was due primarily to a decrease in service charges and fees on deposit accounts and a decrease in mortgage fee income. Gains on sales of securities increased to $566,000 and $766,000 for the three and nine months ended September 30, 2011 as compared to $98,000 and $320,000 for the comparable periods in 2010.

The Bank, through the Mortgage division, originates both conforming and non-conforming consumer residential mortgage loans in the Region 2000 area. As part of the Bank’s overall risk management strategy, all of the loans originated and closed by the Mortgage division are presold to major national mortgage banking or financial institutions. The Mortgage division assumes no credit or interest rate risk on these mortgages.

Management anticipates that residential mortgage rates will remain near the current historic lows for the remainder of 2011. Management expects that low rates coupled with the Mortgage division’s reputation in Region 2000 will allow us to continue to grow revenue at the Mortgage division. Revenue from mortgage origination fees decreased in the three month period ended September 30, 2011 as compared to the same period for 2010. Management believes that regulatory pressure may result in a decreased number of competitors to the Mortgage division and this could result in an increase in market share.

Our Investment division provides brokerage services through an agreement with a third-party broker-dealer. Pursuant to this arrangement, the third party broker-dealer operates a service center adjacent to one of the branches of the Bank. The center is staffed by dual employees of the Bank and the broker-dealer. Investment receives commissions on transactions generated and in some cases ongoing management fees such as mutual fund 12b-1 fees. The Investment division’s financial impact on our consolidated revenue has been immaterial. Although management cannot predict the financial impact of Investment with certainty, management anticipates the Investment division’s impact on noninterest income will remain immaterial in 2011.

In the third quarter of 2008, we began providing insurance and annuity products to Bank customers and others, through the Bank’s Insurance subsidiary. The Bank has one full-time and one part-time employee that are dedicated to selling insurance products through Insurance. Insurance generates minimal revenue and its financial impact on our consolidated revenue has been immaterial. Management anticipates that Insurance’s impact on noninterest income will remain immaterial in 2011.

Non-Interest Expense

Non-interest expense for the three and nine months ended September 30, 2011 increased to $3,706,000 and $10,080,000, or 4.22% and 0.59%, respectively, from $3,556,000 and $10,021,000 for the comparable periods in 2010. This slight increase in non-interest expense from the comparable period in 2010 can be attributed to increased occupancy and outside expenses, the loss on sale of OREO and OREO related expenses, and a one-time expense related to the settlement of an investigation by the Division of

 

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Securities and Retail Franchising of the Virginia State Corporation Commission as discussed under “Other Information” below. The increased non-interest expenses were offset in part by a decrease in compensation expense, which resulted primarily from a decrease in commission expense as well as the Bank’s decision to restructure certain departments and the resulting reduced staffing.

Total personnel expense was $1,462,000 and $4,280,000 for the three and nine month periods ended September 30, 2011 as compared to $1,759,000 and $5,086,000 for the same periods in 2010. Compensation for some employees of the Mortgage division and the Investment division is commission-based and therefore subject to fluctuation.

During the quarter and nine months ended September 30, 2011, the FDIC premium expense decreased to $145,000 and $515,000 from $290,000 and $675,000 for the three and nine months ended September 30, 2010. FDIC assessment payments have decreased primarily because the FDIC changed the asset base on which the assessments are calculated.

Allowance for Loan Losses

The provision to the allowance for loan losses is charged to earnings to bring the total allowance to a level deemed appropriate by management and is based upon many factors, including calculations of specific impairment of certain loans, general economic conditions, actual and expected credit losses, loan performance measures, historical trends and specific conditions of the individual borrower. Based on the application of the loan loss calculation, the Bank provided $1,272,000 and $2,757,000 to the allowance for loan loss for the three and nine months ended September 30, 2011 compared to provisions of $600,000 and $1,435,000 for the comparable periods in 2010.

The increase in the loan loss provision for the quarter ended September 30, 2011 as compared to the same quarter in 2010 was due to the following factors:

 

   

The quality of certain assets, primarily commercial development loans and residential speculative housing construction loans, were impacted by a decline in the value of the collateral supporting the loans. Management’s evaluation of these asset classes resulted in the increased provision in the quarter ended September 30, 2011.

 

   

In light of the current economic environment, management continues its ongoing assessment of specific impairment in the Bank’s loan portfolio. The analysis resulted in a increase in the provision for the quarter ended September 30, 2011 as compared to the same quarter in 2010.

Management believes that the current allowance for loan loss of $5,461,000 (or 1.68% of total loans) at September 30, 2011, as compared to $5,467,000 (or 1.68% of total loans) as of December 31, 2010 remains adequate.

 

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The following sets forth the reconciliation of the allowance for loan loss:

 

     Three months ended
September  30,
(in thousands)
    Nine months ended
September 30,

(in thousands)
 
     2011     2010     2011     2010  

Balance, beginning of period

   $ 4,970      $ 4,708      $ 5,467      $ 4,288   

Provision for loan losses

     1,272        600        2,757        1,435   

Loans charged off

     (791     (363     (2,796     (1,052

Recoveries of loans charged off

     10        10        33        284   
  

 

 

   

 

 

   

 

 

   

 

 

 

Net Charge Offs

     (781     (353     (2,763     (768
  

 

 

   

 

 

   

 

 

   

 

 

 

Balance, end of period

   $ 5,461      $ 4,955      $ 5,461      $ 4,955   
  

 

 

   

 

 

   

 

 

   

 

 

 

The slight decrease in the balance in the allowance for loan loss reserve as of September 30, 2011 as compared to December 31, 2010 resulted from the charge-offs of loans with specific reserves that occurred in the first nine months of 2011.

Net charge offs increased from $353,000 and $768,000 for the three and nine months ended September 30, 2010 to $781,000 and $2,763,000 for the same periods in 2011. Charged off loans, which are loans that management deems uncollectible, are written against the loan loss reserve and constitute a realized loss. While a charged off loan may subsequently be collected, such recoveries generally are realized over an extended period of time. The increase in net charge offs resulted primarily from two commercial relationships that the Bank determined were uncollectible.

Income Taxes

For the three and nine months ended September 30, 2011, Financial had an income tax expense of $4,000 and $334,000 respectively.

Legislation

On July 21, 2010, the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Reform Act”) was signed into law. The Dodd-Frank Reform Act represents a significant overhaul of many aspects of the regulation of the financial services industry, although many of its provisions (e.g., the interchange and trust preferred capital limitations) apply to companies that are significantly larger than Financial. The Dodd-Frank Reform Act directs applicable regulatory authorities to promulgate regulations implementing its provisions, and its effect on Financial and on the financial services industry as a whole will be clarified as those regulations are issued. Major elements of the Dodd-Frank Reform Act include:

 

   

A permanent increase in deposit insurance coverage to $250,000 per account, permanent unlimited deposit insurance on noninterest-bearing transaction accounts, and an increase in the minimum Deposit Insurance Fund reserve requirement for banks having consolidated assets in excess of $10 billion from 1.15% to 1.35%, with assessments to be based on assets as opposed to deposits.

 

   

New disclosure and other requirements relating to executive compensation and corporate governance.

 

   

Amendments to the Truth in Lending Act aimed at improving consumer protections with respect to mortgage originations, including originator compensation, minimum repayment standards, and prepayment considerations.

 

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The establishment of the Financial Stability Oversight Council, which will be responsible for identifying and monitoring systemic risks posed by financial firms, activities, and practices.

 

   

The development of regulations to limit debit card interchange fees.

 

   

The future elimination of trust preferred securities as a permitted element of Tier 1 capital.

 

   

The creation of a special regime to allow for the orderly liquidation of systemically important financial companies, including the establishment of an orderly liquidation fund.

 

   

The development of regulations to address derivatives markets, including clearing and exchange trading requirements and a framework for regulating derivatives-market participants.

 

   

Enhanced supervision of credit rating agencies through the Office of Credit Ratings within the SEC.

 

   

Increased regulation of asset-backed securities, including a requirement that issuers of asset-backed securities retain at least 5% of the risk of the asset-backed securities.

 

   

The establishment of a Bureau of Consumer Financial Protection, within the Federal Reserve, to serve as a dedicated consumer-protection regulatory body.

 

   

On February 7, 2011, the FDIC issued a final rule redefining the assessment base as required by Dodd-Frank. The final rule adopted a separate risk-based assessment system for large insured depository institutions (institutions with greater than $10 billion in assets). The final rule applies to all insured depository institutions and is effective on April 1, 2011.

Financial continues to evaluate the potential impact of the Dodd-Frank Reform Act.

 

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Schedule I

Net Interest Margin Analysis

Average Balance Sheets

For the Quarter Ended September 30, 2011 and 2010

 

     2011     2010  
    

Average

Balance

Sheet

   

Interest

Income/

Expense

    

Average

Rates
Earned/

Paid

    Average
Balance
Sheet
   

Interest

Income/

Expense

    

Average

Rates

Earned/

Paid

 

ASSETS

              

Loans, including fees (1) (2)

   $ 323,000      $ 4,355         5.35   $ 327,354      $ 4,969         6.02

Federal funds sold

     9,467        5         0.21     9,361        6         0.25

Securities (3)

     61,937        473         3.03     41,913        415         3.94

Federal agency equities

     1,947        3         0.61     2,200        2         0.18

CBB equity

     116        —           —          116        —           —     
  

 

 

   

 

 

    

 

 

   

 

 

   

 

 

    

 

 

 

Total earning assets

     396,467        4,836         4.84     380,944        5,392         5.62
    

 

 

    

 

 

     

 

 

    

 

 

 

Allowance for loan losses

     (4,718          (4,788     

Non-earning assets

     38,336             35,690        
  

 

 

        

 

 

      

Total assets

   $ 430,085           $ 411,846        
  

 

 

        

 

 

      

LIABILITIES AND STOCKHOLDERS’ EQUITY

              

Deposits

              

Demand interest bearing

   $ 65,466      $ 86         0.52   $ 56,626      $ 145         1.02

Savings

     172,748        266         0.61     175,902        574         1.29

Time deposits

     86,888        437         2.00     82,057        525         2.54
  

 

 

   

 

 

    

 

 

   

 

 

   

 

 

    

 

 

 

Total interest bearing deposits

     325,102        789         0.96     314,585        1,244         1.57

Other borrowed funds

              

Repurchase agreements

     9,063        21         0.92     8,581        30         1.39

Other borrowings

     10,000        75         2.98     10,000        75         2.98

Capital Notes

     7,000        105         6.00     7,000        105         6.00
  

 

 

   

 

 

    

 

 

   

 

 

   

 

 

    

 

 

 

Total interest-bearing liabilities

     351,165        990         1.12     340,166        1,454         1.70

Non-interest bearing deposits

     51,796             46,060        

Other liabilities

     212             231        
  

 

 

        

 

 

      

 

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Total liabilities

     403,173             386,457        

Stockholders’ equity

     26,912             25,389        
  

 

 

        

 

 

      

Total liabilities and Stockholders equity

   $ 430,085           $ 411,846        
  

 

 

        

 

 

      

Net interest income

     $ 3,846           $ 3,938      
    

 

 

        

 

 

    

Net interest margin

          3.85          4.10
       

 

 

        

 

 

 

Interest spread

          3.72          3.92
       

 

 

        

 

 

 

 

(1) Net deferred loan fees and costs are included in interest income.
(2) Nonperforming loans are included in the average balances. However, interest income and yields calculated do not reflect any accrued interest associated with nonaccrual loans.
(3) The interest income and yields calculated on securities have been tax affected to reflect any tax exempt interest on municipal securities.

 

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Net Interest Margin Analysis

Average Balance Sheets

For the Nine months Ended September 30, 2011 and 2010

 

     2011     2010  
    

Average

Balance

Sheet

   

Interest

Income/

Expense

    

Average

Rates
Earned/

Paid