10-Q 1 czwi-20190930x10q.htm 10-Q Document


 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
FORM 10-Q
 
 
(Mark One)
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2019
OR
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from             to            
Commission file number 001-33003
 
 
CITIZENS COMMUNITY BANCORP, INC.
(Exact name of registrant as specified in its charter)
 
 
Maryland
 
20-5120010
(State or other jurisdiction of
incorporation or organization)
 
(IRS Employer
Identification Number)
 
 
 
2174 EastRidge Center
 
 
Eau Claire, WI
 
54701
(Address of principal executive offices)
 
(Zip Code)

715-836-9994
(Registrant’s telephone number, including area code)
 
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No  ¨
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).    Yes  x    No  ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer”, “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act:
Large accelerated filer
 
¨
 
Accelerated filer
 
x
Non-accelerated filer
 
¨
 
Smaller reporting company  
 
x
 
 
 
 
Emerging growth company
 
¨
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨ No  x





Securities registered pursuant to Section 12(b) of the Act:
Title of each class
Trading Symbol(s)
Name of each exchange on which registered
Common Stock, $.01 par value per share
CZWI
NASDAQ Global Market SM

APPLICABLE ONLY TO CORPORATE ISSUERS
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date:
At November 7, 2019 there were 11,269,726 shares of the registrant’s common stock, par value $0.01 per share, outstanding.



CITIZENS COMMUNITY BANCORP, INC.
FORM 10-Q
September 30, 2019
INDEX
 
 
 
Page Number
 
 
Item 1.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Item 2.
 
Item 3.
 
Item 4.
 
Item 1.
 
Item 1A.
 
Item 2.
 
Item 3.
 
Item 4.
 
Item 5.
 
Item 6.
 

3


PART 1 – FINANCIAL INFORMATION

ITEM 1.
FINANCIAL STATEMENTS

4



CITIZENS COMMUNITY BANCORP, INC.
Consolidated Balance Sheets
September 30, 2019 (unaudited) and December 31, 2018
(derived from audited financial statements)
(in thousands, except share and per share data)
 
September 30, 2019
 
December 31, 2018
Assets
 
 
 
Cash and cash equivalents
$
52,276

 
$
45,778

Other interest-bearing deposits
5,245

 
7,460

Securities available for sale "AFS"
182,956

 
146,725

Securities held to maturity "HTM"
3,665

 
4,850

Other investments
12,863

 
11,261

Loans receivable
1,124,378

 
992,556

Allowance for loan losses
(9,177
)
 
(7,604
)
Loans receivable, net
1,115,201

 
984,952

Loans held for sale
3,262

 
1,927

Mortgage servicing rights
4,245

 
4,486

Office properties and equipment, net
20,938

 
13,513

Accrued interest receivable
4,993

 
4,307

Intangible assets
7,999

 
7,501

Goodwill
31,841

 
31,474

Foreclosed and repossessed assets, net
1,373

 
2,570

Bank owned life insurance ("BOLI")
22,895

 
17,792

Other assets
5,612

 
3,328

TOTAL ASSETS
$
1,475,364

 
$
1,287,924

 
 
 
 
 
 
 
 
Liabilities and Stockholders’ Equity
 
 
 
Liabilities:
 
 
 
Deposits
$
1,161,750

 
$
1,007,512

Federal Home Loan Bank advances
113,466

 
109,813

Other borrowings
44,545

 
24,647

Other liabilities
7,574

 
7,765

Total liabilities
1,327,335

 
1,149,737

 
 
 
 
Stockholders’ Equity:
 
 
 
Common stock— $0.01 par value, authorized 30,000,000; 11,270,710 and 10,953,512 shares issued and outstanding, respectively
113

 
109

Additional paid-in capital
128,926

 
125,512

Retained earnings
19,348

 
15,264

Unearned deferred compensation
(630
)
 
(857
)
Accumulated other comprehensive loss
272

 
(1,841
)
Total stockholders’ equity
148,029

 
138,187

TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY
$
1,475,364

 
$
1,287,924

See accompanying condensed notes to unaudited consolidated financial statements.

5



CITIZENS COMMUNITY BANCORP, INC.
Consolidated Statements of Operations (unaudited)
Three and Nine Months Ended September 30, 2019 and 2018
(in thousands, except per share data)
 
Three Months Ended
 
Nine Months Ended
 
September 30, 2019
 
September 30, 2018
 
September 30, 2019
 
September 30, 2018
Interest and dividend income:
 
 
 
 
 
 
 
Interest and fees on loans
$
14,646

 
$
9,414

 
$
40,036

 
$
26,818

Interest on investments
1,577

 
948

 
4,241

 
2,666

Total interest and dividend income
16,223

 
10,362

 
44,277

 
29,484

Interest expense:
 
 
 
 
 
 
 
Interest on deposits
3,371

 
1,659

 
8,890

 
4,341

Interest on FHLB borrowed funds
639

 
323

 
2,213

 
1,049

Interest on other borrowed funds
620

 
440

 
1,436

 
1,318

Total interest expense
4,630

 
2,422

 
12,539

 
6,708

Net interest income before provision for loan losses
11,593

 
7,940

 
31,738

 
22,776

Provision for loan losses
575

 
450

 
2,125

 
1,200

Net interest income after provision for loan losses
11,018

 
7,490

 
29,613

 
21,576

Non-interest income:
 
 
 
 
 
 
 
Service charges on deposit accounts
625

 
489

 
1,756

 
1,332

Interchange income
476

 
338

 
1,267

 
978

Loan servicing income
714

 
368

 
1,902

 
1,051

Gain on sale of loans
679

 
234

 
1,560

 
649

Loan fees and service charges
471

 
164

 
860

 
367

Insurance commission income
197

 
180

 
573

 
554

Gains (losses) on investment securities
96

 
—

 
151

 
(17
)
Gain on sale of branch
—

 
—

 
2,295

 
—

Other
363

 
216

 
827

 
517

Total non-interest income
3,621

 
1,989

 
11,191

 
5,431

Non-interest expense:
 
 
 
 
 
 
 
Compensation and related benefits
5,295

 
3,778

 
14,605

 
11,424

Occupancy
905

 
776

 
2,725

 
2,270

Office
599

 
468

 
1,649

 
1,311

Data processing
1,092

 
771

 
2,953

 
2,224

Amortization of intangible assets
412

 
161

 
1,085

 
483

Amortization of mortgage servicing rights
325

 
85

 
822

 
245

Advertising, marketing and public relations
315

 
265

 
974

 
596

FDIC premium assessment
78

 
121

 
318

 
330

Professional services
561

 
577

 
1,961

 
1,635

Loss (gain) on repossessed assets, net
(16
)
 
71

 
(143
)
 
521

Other
3,409

 
571

 
5,309

 
1,582

Total non-interest expense
12,975

 
7,644

 
32,258

 
22,621

Income before provision for income tax
1,664

 
1,835

 
8,546

 
4,386

Provision for income taxes
430

 
736

 
2,252

 
1,443

Net income attributable to common stockholders
$
1,234

 
$
1,099

 
$
6,294

 
$
2,943

Per share information:
 
 
 
 
 
 
 
Basic earnings
$
0.11

 
$
0.18

 
$
0.57

 
$
0.49

Diluted earnings
$
0.11

 
$
0.10

 
$
0.57

 
$
0.38

Cash dividends paid
$
—

 
$
—

 
$
0.20

 
$
0.20

See accompanying condensed notes to unaudited consolidated financial statements.

6



CITIZENS COMMUNITY BANCORP, INC.
Consolidated Statements of Comprehensive Income (unaudited)
Three and Nine months ended September 30, 2019 and 2018
(in thousands)
 
 
Three Months Ended
 
Nine Months Ended
 
 
September 30, 2019
 
September 30, 2018
 
September 30, 2019
 
September 30, 2018
Net income attributable to common stockholders
 
$
1,234

 
$
1,099

 
$
6,294

 
$
2,943

Other comprehensive income (loss), net of tax:
 
 
 
 
 
 
 
 
Securities available for sale
 
 
 
 
 
 
 
 
Net unrealized gains (losses) arising during period
 
250

 
(531
)
 
2,049

 
(1,753
)
Reclassification adjustment for net gains (losses) included in net income
 
69

 
—

 
109

 
(13
)
Other comprehensive income (loss)
 
319

 
(531
)
 
2,158

 
(1,766
)
Comprehensive income
 
$
1,553

 
$
568

 
$
8,452

 
$
1,177

See accompanying condensed notes to unaudited consolidated financial statements.
 


7



CITIZENS COMMUNITY BANCORP, INC.
Consolidated Statement of Changes in Stockholders’ Equity (unaudited)
Nine Months Ended September 30, 2019
(in thousands, except shares and per share data)
 
 
 
 
 
Additional Paid-In Capital
 
Retained Earnings
 
Unearned Deferred Compensation
 
Accumulated Other Comprehensive Income (Loss)
 
Total Stockholders’ Equity
 
Common Stock
 
 
 
 
 
 
Shares
 
Amount
 
 
 
 
 
Balance, January 1, 2019
10,953,512

 
$
109

 
$
125,512

 
$
15,264

 
$
(857
)
 
$
(1,841
)
 
$
138,187

Net income
—

 
—

 
—

 
953

 
—

 
—

 
953

Other comprehensive income, net of tax
—

 
—

 
—

 
—

 
—

 
1,164

 
1,164

Forfeiture of unvested shares
(958
)
 
—

 
(13
)
 
—

 
13

 
—

 
—

Surrender of restricted shares of common stock
(798
)
 
—

 
(9
)
 
—

 
—

 
—

 
(9
)
Common stock awarded under the equity incentive plan
10,847

 
—

 
252

 
—

 
(252
)
 
—

 
—

Common stock options exercised
27,430

 
1

 
194

 
—

 
—

 
—

 
195

Stock option expense
—

 
—

 
4

 
—

 
—

 
—

 
4

Amortization of restricted stock
—

 
—

 
—

 
—

 
140

 
—

 
140

Adoption of ASU 2016-01; Equity securities
—

 
—

 
—

 
45

 
—

 
(45
)
 
—

Adoption of ASU 2016-02; Leases
—

 
—

 
—

 
(56
)
 
—

 
—

 
(56
)
Cash dividends ($0.20 per share)
—

 
—

 
—

 
(2,198
)
 
—

 
—

 
(2,198
)
Balance at March 31, 2019
10,990,033
 
110

 
125,940

 
14,008

 
(956
)
 
(722
)
 
138,380

Net income
—

 
—

 
—

 
4,107

 
—

 
—

 
4,107

Other comprehensive income, net of tax
—

 
—

 
—

 
—

 
—

 
675

 
675

Forfeiture of unvested shares
(7,958
)
 
—

 
(118
)
 
—

 
118

 
—

 
—

Surrender of restricted shares of common stock
(3,067
)
 
—

 
(35
)
 
—

 
—

 
—

 
(35
)
Common stock awarded under the equity incentive plan
2,000

 
—

 
22

 
—

 
(22
)
 
—

 
—

Common stock options exercised
1,000

 
—

 
8

 
—

 
—

 
—

 
8

Stock option expense
—

 
—

 
5

 
—

 
—

 
—

 
5

Amortization of restricted stock
—

 
—

 
—

 
—

 
103

 
—

 
103

Adoption of ASU 2016-02; Leases
—

 
—

 
—

 
(1
)
 
—

 
—

 
(1
)
Balance at June 30, 2019
10,982,008
 
110

 
125,822

 
18,114

 
(757
)
 
(47
)
 
143,242

Net income
—

 
—

 
—

 
1,234

 
—

 
—

 
1,234

Other comprehensive income, net of tax
—

 
—

 
—

 
—

 
—

 
319

 
319

Surrender of restricted shares of common stock
(297
)
 
—

 
(3
)
 
—

 
—

 
—

 
(3
)
Common stock issued to F&M shareholders
288,999

 
3

 
3,102

 
—

 
—

 
—

 
3,105

Stock option expense
—

 
—

 
5

 
—

 
—

 
—

 
5

Amortization of restricted stock
—

 
—

 
—

 
—

 
127

 
—

 
127

Balance, September 30, 2019
11,270,710

 
$
113

 
$
128,926

 
$
19,348

 
$
(630
)
 
$
272

 
$
148,029

See accompanying condensed notes to unaudited consolidated financial statements.
 


8



CITIZENS COMMUNITY BANCORP, INC.
Consolidated Statement of Changes in Stockholders’ Equity (unaudited)
Nine Months Ended September 30, 2018
(in thousands, except shares and per share data)
 
 
 
 
 
 
 
Additional Paid-In Capital
 
Retained Earnings
 
Unearned Deferred Compensation
 
Accumulated Other Comprehensive Income (Loss)
 
Total Stockholders’ Equity
 
Common Stock
 
Preferred Stock
 
 
 
 
 
 
Shares
 
Amount
 
Amount
 
 
 
 
 
Balance, January 1, 2018
5,883,603

 
$
59

 
$
—

 
$
63,348

 
$
12,104

 
$
(391
)
 
$
(666
)
 
$
74,454

Net income
—

 
—

 
—

 
—

 
1,341

 
—

 
—

 
1,341

Reclassification of certain deferred tax effects (1)
—

 
—

 
—

 
—

 
137

 
—

 
(137
)
 
—

Other comprehensive loss, net of tax
—

 
—

 
—

 
—

 
—

 
—

 
(1,208
)
 
(1,208
)
Forfeiture of unvested shares
(1,437
)
 
—

 
—

 
(20
)
 
—

 
20

 
—

 
—

Common stock awarded under the equity incentive plan
15,523

 
—

 
—

 
211

 
—

 
(211
)
 
—

 
—

Common stock options exercised
4,792

 
—

 
—

 
41

 
—

 
—

 
—

 
41

Stock option expense
—

 
—

 
—

 
(5
)
 
—

 
—

 
—

 
(5
)
Amortization of restricted stock
—

 
—

 
—

 
—

 
—

 
67

 
—

 
67

Cash dividends ($0.20 per share)
—

 
—

 
—

 
—

 
(1,181
)
 
—

 
—

 
(1,181
)
Balance at March 31, 2018
5,902,481
 
59

 
—

 
63,575

 
12,401

 
(515
)
 
(2,011
)
 
73,509

Net income
—

 
—

 
—

 
—

 
503

 
—

 
—

 
503

Preferred stock issued (net of issuance costs)
—

 
—

 
61,289

 
—

 
—

 
—

 
—

 
61,289

Other comprehensive loss, net of tax
—

 
—

 
—

 
—

 
—

 
—

 
(164
)
 
(164
)
Surrender of restricted shares of common stock
(1,809
)
 
—

 
—

 
(25
)
 
—

 
—

 
—

 
(25
)
Common stock awarded under the equity incentive plan
13,707

 
—

 
—

 
295

 
—

 
(295
)
 
—

 
—

Stock option expense
—

 
—

 
—

 
5

 
—

 
—

 
—

 
5

Amortization of restricted stock
—

 
—

 
—

 
—

 
—

 
94

 
—

 
94

Balance at June 30, 2018
5,914,379
 
59

 
61,289

 
63,850

 
12,904

 
(716
)
 
(2,175
)
 
135,211

Net income
—

 
—

 
—

 
—

 
1,099

 
—

 
—

 
1,099

Preferred stock issued net of issuance costs
—

 
—

 
(24
)
 
—

 
—

 
—

 
—

 
(24
)
Preferred stock converted to common stock
5,000,000

 
50

 
(61,265
)
 
61,215

 
—

 
—

 
—

 
—

Other comprehensive loss, net of tax
—

 
—

 
—

 
—

 
—

 
—

 
(531
)
 
(531
)
Surrender of restricted shares of common stock
(526
)
 
—

 
—

 
(8
)
 
—

 
—

 
—

 
(8
)
Stock option expense
—

 
—

 
—

 
6

 
—

 
—

 
—

 
6

Amortization of restricted stock
—

 
—

 
—

 
—

 
—

 
94

 
—

 
94

Balance, September 30, 2018
10,913,853

 
$
109

 
$
—

 
$
125,063

 
$
14,003

 
$
(622
)
 
$
(2,706
)
 
$
135,847

(1) Amounts reclassified to retained earnings due to early adoption of ASU 2018-02.
See accompanying condensed notes to unaudited consolidated financial statements.
 


9



CITIZENS COMMUNITY BANCORP, INC.
Consolidated Statements of Cash Flows (unaudited)
Nine Months Ended September 30, 2019 and 2018
(in thousands)
 
Nine Months Ended
 
September 30, 2019
 
September 30, 2018
Cash flows from operating activities:
 
 
 
Net income attributable to common stockholders
$
6,294

 
$
2,943

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
Net amortization of premium/accretion discount on investment securities
762

 
843

Provision for depreciation
1,110

 
819

Provision for loan losses
2,125

 
1,200

Net realized (gain) loss on sale of securities
(151
)
 
17

Increase in MSR assets resulting from transfers of financial assets
(581
)
 
(289
)
Amortization of MSR assets
822

 
335

Amortization of intangible assets
1,085

 
483

Amortization of restricted stock
370

 
255

Net stock based compensation expense
14

 
6

Gain on sale of office properties and equipment
(32
)
 
(3
)
Benefit for deferred income taxes
—

 
(194
)
Increase in cash surrender value of life insurance
(384
)
 
(318
)
Net (gain) loss from disposals of foreclosed and repossessed assets
(143
)
 
522

Gain on sale of loans held for sale, net
(1,560
)
 
(943
)
Net change in loans held for sale
225

 
1,360

Decrease in accrued interest receivable and other assets
3,009

 
433

(Decrease) increase in other liabilities
(6,482
)
 
620

Total adjustments
189

 
5,146

Net cash provided by operating activities
6,483

 
8,089

Cash flows from investing activities:
 
 
 
Purchase of investment securities
(23,457
)
 
(33,622
)
Net decrease (increase) in interest-bearing deposits
3,207

 
(25
)
Proceeds from sale of investment securities
7,976

 
26

Principal payments on investment securities
19,579

 
8,776

Net sales of other investments
1,084

 
933

Proceeds from sale of foreclosed and repossessed assets
2,238

 
4,805

Net increase in loans
(6,710
)
 
(28,644
)
Net capital expenditures
(6,149
)
 
(2,405
)
Net cash acquired in business combinations
(8,137
)
 
—

Proceeds from disposal of office properties and equipment
300

 
74

Net cash used in investing activities
(10,069
)
 
(50,082
)
Cash flows from financing activities:
 
 
 
Net decrease in Federal Home Loan Bank advances
(16,469
)
 
(31,000
)
Proceeds from other borrowings, net of debt issuance costs
—

 
9,911

Proceeds from other borrowings to fund business combination, net of origination costs
29,889

 
—

Principal payment reduction to other borrowings
(10,000
)
 
(15,191
)
Net increase in deposits
5,601

 
5,460

Proceeds from private placement stock offering, net of issuance costs
—

 
61,265

Common stock issued in F&M acquisition less capitalized equity costs
3,105

 
—

Surrender of restricted shares of common stock
(47
)
 
(33
)
Exercise of common stock options
203

 
41

Cash dividends paid
(2,198
)
 
(1,181
)
Net cash provided by financing activities
10,084

 
29,272

Net increase (decrease) in cash and cash equivalents
6,498

 
(12,721
)
Cash and cash equivalents at beginning of period
45,778

 
47,215

Cash and cash equivalents at end of period
$
52,276

 
$
34,494


10



Supplemental cash flow information:
 
 
 
Cash paid during the period for:
 
 
 
Interest on deposits
$
8,775

 
$
4,285

Interest on borrowings
$
3,966

 
$
2,366

Income taxes
$
3,847

 
$
1,160

Supplemental noncash disclosure:
 
 
 
Transfers from loans receivable to foreclosed and repossessed assets
$
898

 
$
1,064

Fair value of assets acquired, net of cash and cash equivalents
$
177,494

 
$
—

Fair value of liabilities assumed, net of cash and cash equivalents
$
169,724

 
$
—

See accompanying condensed notes to unaudited consolidated financial statements. 

11



CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in thousands, except share and per share data)
(UNAUDITED)
NOTE 1 – NATURE OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The accompanying consolidated financial statements include the accounts of Citizens Community Bancorp, Inc. (the “Company”) and its wholly owned subsidiary, Citizens Community Federal N.A. (the “Bank”), and have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) for interim financial statements. As used in this quarterly report, the terms “we”, “us”, “our”, and “Citizens Community Bancorp, Inc.” mean the Company and its wholly owned subsidiary, the Bank, unless the context indicates other meaning.
The Bank is a national banking association (a “National Bank”) and operates under the title of Citizens Community Federal National Association (“Citizens Community Federal N.A.” or “Bank” or “CCFBank”). The Company is a bank holding company, supervised by the Federal Reserve Bank of Minneapolis (the “FRB”), and operates under the title of Citizens Community Bancorp, Inc. The U.S. Office of the Comptroller of the Currency (the “OCC”), is the primary federal regulator for the Bank.
The consolidated income of the Company is principally derived from the income of the Bank, the Company’s wholly owned subsidiary, serving customers in Wisconsin and Minnesota through 28 branch locations, including two branch locations acquired in the F. & M. Bancorp. of Tomah, Inc. merger on July 1, 2019. Its primary markets include the Chippewa Valley Region in Wisconsin, the Twin Cities and Mankato markets in Minnesota, and various rural communities around these areas. The Bank offers traditional community banking services to businesses, Agricultural operators and consumers, including one-to-four family residential mortgages, as well as expanded services through Wells Insurance Agency, Inc.
The Bank is subject to competition from other financial institutions and non-financial institutions providing financial products. Additionally, the Bank is subject to the regulations of certain regulatory agencies and undergoes periodic examination by those regulatory agencies.
In preparing these consolidated financial statements, we evaluated the events and transactions that occurred subsequent to the balance sheet date as of September 30, 2019 and through the date the financial statements were available to be issued for items that should potentially be recognized or disclosed in these consolidated financial statements.
On May 17, 2019, the Company completed the sale of the Rochester Hills, MI branch for a deposit premium of 7 percent, or approximately $2.3 million, net of selling costs. The branch sale included approximately $34 million in deposits and $300,000 in fixed assets. The Bank retained all loans associated with the branch.
On July 1, 2019, the Company closed on the acquisition of F. & M. Bancorp. of Tomah, Inc. and completed the related data systems conversion on July 14, 2019. See Note 2, “Acquisitions” for additional information.
On October 25, 2019, the Department of the Treasury released regulations which clarified the tax status of acquired life insurance policies, resulting in policies acquired from United Bank and F&M retaining their tax-free status. As a result, the Company will be reducing its related deferred tax liabilities by $350 thousand (F&M), and $300 thousand (United Bank) and F&M’s initial goodwill will be reduced by $350 thousand on the December 31, 2019 consolidated balance sheet. $300 thousand will be recorded as a discrete tax credit reduction on the Company’s statement of operations for the three and twelve-months ended December 31, 2019. See Note 12, “Subsequent Event” for additional information.
The accompanying consolidated interim financial statements are unaudited. However, in the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Unless otherwise stated herein, and except for shares and per share amounts, all amounts are in thousands.
Principles of Consolidation – The accompanying consolidated financial statements include the accounts of the Company and the Bank. All significant intercompany accounts and transactions have been eliminated.
Use of Estimates – Preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States of America (“U.S. GAAP”) requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying disclosures. These estimates are based on management’s best knowledge of current events and actions the Company may undertake in the future. Estimates are used in accounting for, among other items, fair value of financial instruments, the allowance for loan losses, mortgage servicing rights, foreclosed and repossessed assets, valuation of acquired intangible assets, useful lives for depreciation and amortization,

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indefinite-lived intangible assets, stock-based compensation and long-lived assets, deferred tax assets, uncertain income tax positions and contingencies. Management does not anticipate any material changes to estimates made herein in the near term. Factors that may cause sensitivity to the aforementioned estimates include, but are not limited to: those items described under the caption, “Risk Factors” in Item 1A in our transition report on Form 10-K for the transition period from October 1, 2018 to December 31, 2018, filed with the SEC on March 8, 2019, external market factors such as market interest rates and unemployment rates, changes to operating policies and procedures, and changes in applicable banking regulations. Actual results may ultimately differ from estimates, although management does not generally believe such differences would materially affect the consolidated financial statements in any individual reporting period.
Investment Securities; Held to Maturity and Available for Sale – Management determines the appropriate classification of investment securities at the time of purchase and reevaluates such designation as of the date of each balance sheet. Securities are classified as held to maturity when the Company has the positive intent and ability to hold the securities to maturity. Held to maturity securities are stated at amortized cost. Investment securities not classified as held to maturity are classified as available for sale. Available for sale securities are stated at fair value, with unrealized holding gains and losses being reported in other comprehensive income (loss), net of tax. Unrealized losses deemed other-than-temporary due to credit issues are reported in the Company’s net income in the period in which the losses arise. Interest income includes amortization of purchase premium or accretion of purchase discount. Amortization of premiums and accretion of discounts are recognized in interest income using the interest method over the estimated lives of the securities.
The Company evaluates securities for other-than-temporary impairment at least on a quarterly basis, and more frequently when economic or market concerns warrant such evaluation. As part of such monitoring, the credit quality of individual securities and their issuer is assessed. Significant inputs used to measure the amount of other-than-temporary impairment related to credit loss include, but are not limited to; the Company’s intent and ability to sell the debt security prior to recovery, that it is more likely than not that the Company will not sell the security prior to recovery, default and delinquency rates of the underlying collateral, remaining credit support, and historical loss severities. Adjustments to market value of available for sale securities that are considered temporary are recorded in other comprehensive income or loss as separate components of stockholders’ equity, net of tax. If the unrealized loss of a security is identified as other-than-temporary based on information available, such as the decline in the creditworthiness of the issuer, external market ratings, or the anticipated or realized elimination of associated dividends, such impairments are further analyzed to determine if credit loss exists. If there is a credit loss, it will be recorded in the Company’s consolidated statement of operations. Non-credit components of the unrealized losses on available for sale securities will continue to be recognized in other comprehensive income (loss), net of tax.
Other Investments - Other investments includes equity securities with readily determinable fair values, “restricted” equity securities, and private company securities. Other investments includes $241 of equity securities with readily determinable fair values. Equity investment securities are carried at their fair market value, based on an “exit price” notion. Changes in the fair value of equity investment securities are recognized as Gains (losses) on investment securities in the consolidated Statement of Operations.
As a member of the Federal Reserve Bank (“FRB”) System and the Federal Home Loan Bank (“FHLB”) System, the Bank is required to maintain an investment in the capital stock of these entities. These securities are “restricted” in that they can only be sold back to the respective institutions or another member institution at par. Therefore, they are less liquid than other exchange traded equity securities. As no ready market exists for these stocks, and they have no quoted market value, these investments are carried at cost and periodically evaluated for impairment based on the ultimate recovery of par value. Cash dividends are reported as income.
Also included in other investments is stock in a private company that does not have a quoted market price. This stock is carried at cost plus or minus changes resulting from observable price changes in orderly transactions for this stock, less other-than-temporary impairment charges, if any.
Management’s evaluation for impairment of these other investments, includes consideration of the financial condition and other available relevant information of the issuer. Based on management’s quarterly evaluation, no impairment has been recorded on these securities.
Loans – Loans that management has the intent and ability to hold for the foreseeable future or until maturity or payoff are reported at the principal balance outstanding, net of unearned interest, and net of deferred loan fees and costs, and non-accretable discount on purchased of credit impaired loans. Interest income is accrued on the unpaid principal balance of these loans. Loan origination fees, net of certain direct origination costs, are deferred and recognized in interest income using the interest method without anticipating prepayments. Late charge fees are recognized into income when collected.
Interest income on commercial, mortgage and consumer loans is discontinued according to the following schedules:

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•Commercial/agricultural real estate loans past due 90 days or more;
•Commercial/agricultural non-real estate loans past due 90 days or more;
•Closed end consumer non-real estate loans past due 120 days or more; and
•Residential real estate loans and open ended consumer non-real estate loans past due 180 days or more.
Past due status is based on the contractual terms of the loan. In all cases, loans are placed on nonaccrual status or charged off at an earlier date if collection of principal or interest is considered doubtful. All interest accrued but not received for a loan placed on nonaccrual status is reversed against interest income. Interest received on such loans is accounted for on the cash basis or cost recovery method until qualifying for return to accrual status. Loans are returned to accrual status when payments are made that bring the loan account current with the contractual term of the loan and a six month payment history has been established. Interest on impaired loans considered troubled debt restructurings (“TDRs”) or substandard, less than 90 days delinquent, is recognized as income as it accrues based on the revised terms of the loan over an established period of continued payment. Substandard loans, as defined by the OCC, our primary banking regulator, are loans that are inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged, if any.
Residential real estate loans and open ended consumer non-real estate loans are charged off to estimated net realizable value less estimated selling costs at the earlier of when (a) the loan is deemed by management to be uncollectible, or (b) the loan becomes past due 180 days or more. Closed ended consumer non-real estate loans are charged off to net realizable value at the earlier of when (a) the loan is deemed by management to be uncollectible, or (b) the loan becomes past due 120 days or more. Commercial/agricultural real estate and non-real estate loans are charged off to net realizable value at the earlier of when (a) the loan is deemed by management to be uncollectible, or (b) the loan becomes past due 90 days or more.
Allowance for Loan Losses – The allowance for loan losses (“ALL”) is a valuation allowance for probable and inherent credit losses in our loan portfolio. Loan losses are charged against the ALL when management believes that the collectability of a loan balance is unlikely. Subsequent recoveries, if any, are credited to the ALL. Management estimates the required ALL balance taking into account the following factors: past loan loss experience; the nature, volume and composition of our loan portfolio; known and inherent risks in our portfolio; information about specific borrowers’ ability to repay; estimated collateral values; current economic conditions; and other relevant factors determined by management. The ALL consists of specific and general components. The specific component relates to loans that are individually classified as impaired. The general component covers non-impaired loans and is based on historical loss experience adjusted for certain qualitative factors. The entire ALL balance is available for any loan that, in management’s judgment, should be charged off.
A loan is impaired when full payment under the loan terms is not expected. Impaired loans consist of all TDRs, as well as individual loans not considered a TDR, that are either (1) rated substandard or worse, (2) on nonaccrual status or (3) PCI loans which are impaired at the time of acquisition. All TDRs are individually evaluated for impairment. See Note 4, “Loans, Allowance for Loan Losses and Impaired Loans” for more information on what we consider to be a TDR. For TDR’s or substandard loans deemed to be impaired, a specific ALL allocation may be established so that the loan is reported, net, at the lower of (a) its outstanding principal balance; (b) the present value of the loan’s estimated future cash flows using the loan’s existing rate; or (c) at the fair value of any loan collateral, less estimated disposal costs, if repayment is expected solely from the underlying collateral of the loan. For TDRs less than 90+ days past due, and certain substandard loans that are less than 90+ days delinquent, the likelihood of the loan migrating to over 90 days past due is also taken into account when determining the specific ALL allocation for these particular loans. Large groups of smaller balance homogeneous loans, such as non-TDR commercial, consumer and residential real estate loans, are collectively evaluated for ALL purposes, and accordingly, are not separately identified for ALL disclosures.

Acquired Loans— Loans acquired in connection with acquisitions are recorded at their acquisition-date fair value with no carryover of related allowance for credit losses. Any allowance for loan loss on these pools reflect only losses incurred after the acquisition (meaning the present value of all cash flows expected at acquisition that ultimately are not to be received). Determining the fair value of the acquired loans involves estimating the principal and interest cash flows expected to be collected on the loans and discounting those cash flows at a market rate of interest. Management considers a number of factors in evaluating the acquisition-date fair value including the remaining life of the acquired loans, delinquency status, estimated prepayments, payment options and other loan features, internal risk grade, estimated value of the underlying collateral and interest rate environment.
Acquired loans that met the criteria for nonaccrual of interest prior to the acquisition may be considered performing upon acquisition, regardless of whether the customer is contractually delinquent, if we can reasonably estimate the timing and amount of the expected cash flows on such loans and if we expect to fully collect the new carrying value of the loans. As such,

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we may no longer consider the loan to be nonaccrual or nonperforming and may accrue interest on these loans, including the impact of any accretable yield.
Loans acquired with deteriorated credit quality are accounted for in accordance with Accounting Standards Codification (“ASC”) 310-30, Loans and Debt Securities Acquired with Deteriorated Credit Quality (ASC 310-30) if, at acquisition, the loans have evidence of credit quality deterioration since origination and it is probable that all contractually required payments will not be collected. At acquisition, the Company considers several factors as indicators that an acquired loan has evidence of deterioration in credit quality. These factors include; loans 90 days or more past due, loans with an internal risk grade of substandard or below, loans classified as non-accrual by the acquired institution, and loans that have been previously modified in a troubled debt restructuring.
Under the ASC 310-30 model, the excess of cash flows expected to be collected at acquisition over recorded fair value is referred to as the accretable yield and is the interest component of expected cash flow. The accretable yield is recognized into income over the remaining life of the loan if the timing and/or amount of cash flows expected to be collected can be reasonably estimated (the accretion method). If the timing or amount of cash flows expected to be collected cannot be reasonably estimated, the cost recovery method of income recognition is used. The difference between the loan’s total scheduled principal and interest payments over all cash flows expected to be collected at acquisition, considering the impact of prepayments, is referred to as the non-accretable difference. The non-accretable difference represents contractually required principal and interest payments which the Company does not expect to collect.
Over the life of the loan, management continues to estimate cash flows expected to be collected. Decreases in expected cash flows are recognized as impairments through a charge to the provision for loan losses resulting in an increase in the allowance for loan losses. Subsequent improvements in cash flows result in first, reversal of existing valuation allowances recognized subsequent to acquisition, if any, and next, an increase in the amount of accretable yield to be subsequently recognized in interest income on a prospective basis over the loan’s remaining life.
Acquired loans that were not individually determined to be purchased with deteriorated credit quality are accounted for in accordance with ASC 310-20, Nonrefundable Fees and Other Costs (ASC 310-20), whereby the premium or discount derived from the fair market value adjustment, on a loan-by-loan or pooled basis, is recognized into interest income on a level yield basis over the remaining expected life of the loan or pool.
For all acquired loans, the outstanding loan balances less any related accretable yield and/or non-accretable difference is referred to as the loans’ carrying amount.
Loans Held for Sale — Loans held for sale are those loans the Company has the intent to sell in the foreseeable future. They are carried at the lower of aggregate cost or fair value. Gains and losses on sales of loans are recognized at settlement dates, and are determined by the difference between the sales proceeds and the carrying value of the loans after allocating costs to servicing rights retained. All sales are made without recourse. Interest rate lock commitments on mortgage loans to be funded and sold are valued at fair value, and are included in other assets or liabilities, if material.
Mortgage Servicing Rights- Mortgage servicing rights (“MSR”) assets result as the Company sells loans to investors in the secondary market and retains the rights to service mortgage loans sold to others. MSR assets are initially measured at fair value; assessed at least annually for impairment; carried at the lower of the initial capitalized amount, net of accumulated amortization, or estimated fair value. MSR assets are amortized in proportion to and over the period of estimated net servicing income, with the amortization recorded in non-interest expense in the consolidated statement of operations.
The valuation of MSRs and related amortization thereon are based on numerous factors, assumptions and judgments, such as those for: changes in the mix of loans, interest rates, prepayment speeds, and default rates. Changes in these factors, assumptions and judgments may have a material effect on the valuation and amortization of MSRs. Although management believes that the assumptions used to evaluate the MSRs for impairment are reasonable, additional future adjustment may be necessary if future economic conditions differ substantially from the economic assumptions used to determine the value of MSRs.
Foreclosed and Repossessed Assets, net –Assets acquired through foreclosure or repossession are initially recorded at fair value, less estimated costs to sell, which establishes a new cost basis. If the fair value declines subsequent to foreclosure or repossession, a write-down is recorded through expense. Costs incurred after acquisition are expensed and are included in non-interest expense, other in the Consolidated Statements of Operations.
Transfers of financial assets—Transfers of financial assets are accounted for as sales when control over the assets has been surrendered. Control over transferred assets is deemed to be surrendered when (1) the assets have been isolated from the entity, (2) the transferee obtains the right, free of conditions that constrain it from taking advantage of that right, to pledge or

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exchange the transferred assets, and (3) the entity does not maintain effective control over the transferred assets through an agreement to repurchase them before maturity.
Goodwill and other intangible assets-The Company accounts for goodwill and other intangible assets in accordance with ASC Topic 350, “Intangibles - Goodwill and Other.”  The Company records the excess of the cost of acquired entities over the fair value of identifiable tangible and intangible assets acquired, less liabilities assumed, as goodwill.  The Company amortizes acquired intangible assets with definite useful economic lives over their useful economic lives utilizing the straight-line method.  On a periodic basis, management assesses whether events or changes in circumstances indicate that the carrying amounts of the intangible assets may be impaired.  The Company does not amortize goodwill and any acquired intangible asset with an indefinite useful economic life, but reviews them for impairment at a reporting unit level on an annual basis, or when events or changes in circumstances indicate that the carrying amounts may be impaired.  A reporting unit is defined as any distinct, separately identifiable component of the Company’s one operating segment for which complete, discrete financial information is available and reviewed regularly by the segment’s management.  The Company has one reporting unit as of December 31, 2018 which is related to its banking activities. The Company has performed the required goodwill impairment test and has determined that goodwill was not impaired as of December 31, 2018.
Leases - We determine if an arrangement is a lease at inception. All of our existing leases have been determined to be operating leases under ASC 842. Right-of-use (“ROU”) assets are included in other assets in our consolidated balance sheets. Operating lease liabilities are included in other liabilities in our consolidated balance sheets.

ROU assets represent our right to use an underlying asset for the lease term and lease liabilities represent our obligation to make lease payments arising from the lease. Operating lease ROU assets and liabilities are recognized at commencement date, based on the present value of lease payments over the lease term. As none of our existing leases provide an implicit rate, we use our incremental borrowing rate, based on information available at commencement date, in determining the present value of lease payments. The operating lease ROU asset also includes any lease payments made and excludes lease incentives. Our lease terms may include options to extend or terminate the lease, when it is reasonably certain that we will exercise that option. Lease expense is recognized based on the total contractually required lease payments, over the term of the lease, on a straight-line basis.
Income Taxes – The Company accounts for income taxes in accordance with the Financial Accounting Standards Board (FASB) Accounting Standards Codification (“ASC”) Topic 740, “Income Taxes.” Under this guidance, deferred taxes are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates that will apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized as income or expense in the period that includes the enactment date.
The Tax Cuts and Jobs Act of 2017 (“the Tax Act”), enacted on December 22, 2017, reduces corporate Federal income tax rates for the Company from 34% to 24.5% for 2018, and 21% for 2019. GAAP requires the impact of the provisions of the Tax Act be accounted for in the period of enactment. At December 31, 2017, we had not completed our accounting for the tax effects of enactment of the Tax Act; however, in certain cases, as described below, we made a reasonable estimate and continue to account for those items based on our existing accounting under ASC 740, Income Taxes, and the provisions of the tax laws that were in effect immediately prior to enactment. The Company revalued its net deferred tax assets to account for the future impact of lower corporate taxes. For the items for which we were able to determine a reasonable estimate, we recorded an increased provisional amount of income tax expense of $275 in December 2017, related to the revaluation of the deferred tax assets to both the revaluation of timing differences and the unrealized loss on securities. In the fourth quarter of fiscal 2018, based on updated information obtained in connection with the filing of our tax return and analysis of our net deferred tax asset both from the return and 2018 tax provisions, we finalized the tax analysis and recorded an additional $63 of expense, or a net increase in our tax provision for the year of $338 related to the Tax Act.
The Company regularly reviews the carrying amount of its net deferred tax assets to determine if the establishment of a valuation allowance is necessary. If based on the available evidence, it is more likely than not that all or a portion of the Company’s net deferred tax assets will not be realized in future periods, a deferred tax valuation allowance would be established. Consideration is given to various positive and negative factors that could affect the realization of the deferred tax assets. In evaluating this available evidence, management considers, among other things, historical performance, expectations of future earnings, the ability to carry back losses to recoup taxes previously paid, the length of statutory carry forward periods, any experience with utilization of operating loss and tax credit carry forwards not expiring, tax planning strategies and timing of reversals of temporary differences. Significant judgment is required in assessing future earnings trends and the timing of reversals of temporary differences. Accordingly, the Company’s evaluation is based on current tax laws as well as management’s expectations of future performance.

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Revenue Recognition - The Company recognizes revenue in the consolidated statements of operations as performance obligations are met and when collectability is reasonably assured. The primary source of revenue is interest income from interest earning assets, which is recognized on the accrual basis of accounting using the effective interest method. The recognition of revenues from interest earning assets is based upon formulas from underlying loan agreements, securities contracts or other similar contracts. Non-interest income is recognized on the accrual basis of accounting as performance obligations are met or as transactions occur. Non-interest income includes fees from brokerage and advisory service, deposit accounts, merchant services, ATM and debit card fees, mortgage banking activities, and other miscellaneous services and transactions. Commission revenue is recognized as of the effective date of the insurance policy or the date the customer is billed, whichever is later.  The Company also receives contingent commissions from insurance companies which are based on the overall profitability of their relationship based primarily on the loss experience of the insurance placed by the Company.  Contingent commissions from insurance companies are recognized when determinable. Commission revenue is included in other non-interest income in the consolidated statement of operations.
Earnings Per Share – Basic earnings per common share is net income or loss divided by the weighted average number of common shares outstanding during the period. Diluted earnings per common share includes the dilutive effect of additional potential common shares issuable during the period, consisting of stock options outstanding under the Company’s stock incentive plans that have an exercise price that is less than the Company’s stock price on the reporting date.
Operating Segments—While our executive officers monitor the revenue streams of the various banking products and services, operations are managed and financial performance is evaluated on a Company-wide basis. Accordingly, all of the Company’s banking operations are considered by management to be aggregated in one reportable operating segment.
Recognition of a prior period error—In April 2019 the Company determined that certain state franchise returns had not ever been filed. The franchise liability calculation is primarily based on the Company’s equity. The initial franchise return should have been filed in 2006 when the Company went public. Additionally, with the Company’s 2018 capital raise, an additional franchise liability should have been recorded in fiscal 2018. The Company should have recorded a $140 pre-tax charge related to 2006 initial public offering in fiscal year ended September 30, 2006 and a $160 pre-tax charge related to 2018 capital raise in fiscal year ended September 30, 2018. The correction of these prior period errors to record both the 2006 and 2018 franchise liability totaling $300, was recorded during the three months ended March 31, 2019. The impact on results of operations for the three months ended March 31, 2019 and the six months ended June 30, 2019, were as follows: pre-tax income was understated by $300, tax expense was overstated by $81 and net income was understated by $219 or $0.02 per share. For the fiscal year ended September 30, 2018, pre-tax income was overstated by $160, tax expense was understated by $44 and net income was overstated by $116 or $0.02 per share. Management of the Company evaluated these prior period errors under the accounting guidance FASB ASC 250, Accounting Changes and Error Corrections and concluded that the effect of these errors will be immaterial to the Company’s estimated annual results and consolidated financial statements for the year ending December 31, 2019 and were also immaterial to the fiscal year ended September 30, 2018 consolidated financial statements.
Reclassifications – Certain items previously reported were reclassified for consistency with the current presentation.
Recent Accounting Pronouncements—The Financial Accounting Standards Board (FASB) issues Accounting Standards Updates (ASUs) to the FASB Accounting Standards Codification (ASC). This section provides a summary description of recent ASUs that have significant implications (elected or required) within the consolidated financial statements, or that management expects may have a significant impact on financial statements issued in the near future.
Recent Accounting Pronouncements—Adopted

ASU 2016-01; Recognition and Measurement of Financial Assets and Liabilities—The guidance requires certain equity investments to be measured at fair value, with changes in fair value recognized in net income. The Company’s adoption of ASU 2016-01 as of January 1, 2019, constitutes a change in accounting principle. The Company recorded a cumulative effect adjustment to retained earnings of $45 as of January 1, 2019, as a result of implementing this new accounting standard.

ASU 2016-02; Leases (Topic 842)—The ASU changed current GAAP by requiring that lease assets and liabilities arising from operating leases be recognized on the balance sheet. In July 2018, the FASB issued ASU 2018-10 and ASU 2018-11, Codification Improvements to Topic 842, Leases, amending various aspects of Topic 842. Topic 842 does not significantly change the recognition, measurement and presentation of expenses and cash flows arising from a lease by a lessee from current U.S. GAAP. For leases with a term of 12 months or less, a lessee would be permitted to make an accounting policy election, by class of underlying asset, not to recognize lease assets and liabilities. Topic 842 became effective for the Company for annual and interim periods beginning in the first quarter 2019.


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The Company leased (1) 9 branch locations, (2) its corporate offices (3) 1 production office and (4) office equipment under operating leases that resulted in the recognition of right-of-use assets and corresponding lease liabilities of approximately $5,000 on the consolidated balance sheet under Topic 842. Adoption of Topic 842 did not have a material impact on the Company’s consolidated statement of operations. Management adopted the guidance on January 1, 2019, and elected certain practical expedients offered by the FASB, including foregoing the restatement of comparative periods upon adoption. Management also excluded short-term leases from the recognition of right-of-use asset and lease liabilities. Additionally, the Company elected the transition relief allowed by FASB in foregoing reassessment of the following: whether any existing contracts were or contained leases, the classification of existing leases, and the determination of initial direct costs for existing leases. As of September 30, 2019, the Company leases (1) 6 branch locations, (2) its corporate offices (3) 1 production office and (4) office equipment under operating leases. See Note 6 for additional detail.

ASU 2014-09; Revenue from Contracts with Customers (Topic 606)—Under the ASU, as modified by subsequent ASUs, revenue is recognized when a customer obtains control of promised services in an amount that reflects the consideration the entity expects to receive in exchange for those services. In addition, the standard requires disclosure of the nature, amount, timing, and uncertainty of revenue and cash flows arising from contracts with customers. The Company applied the five-step method outlined in the ASU to all revenue streams scoped-in by the ASU and elected the modified retrospective implementation method. Substantially all of the Company’s interest income and certain noninterest income were not impacted by the adoption of this ASU because the revenue from those contracts with customers is covered by other guidance in U.S. GAAP. The Company’s largest sources of noninterest revenue which are subject to the guidance include fees and service charges on loan and deposit accounts and interchange revenue from debit card transactions. ASU 2014-08, as amended, became effective for the Company’s annual and interim periods beginning in the first quarter 2019. Adoption of ASU 2014-09 did not have a material impact on the Company’s consolidated financial statements as the change in the timing and pattern of the Company’s revenue recognition related to scoped-in noninterest income recognized under the newly issued ASU is consistent with the current applicable accounting guidance. The Company has made all required additional disclosures related to non-interest income in the consolidated financial statements, primarily in Note 1-Nature of Business and Summary of Significant Accounting Policies.
Recently Issued, But Not Yet Effective Accounting Pronouncements
ASU 2017-04; Intangibles--Goodwill and Other (Topic 350)--The ASU simplifies the accounting for goodwill impairment. This guidance, among other things, removes step two of the goodwill impairment test thus eliminating the need to determine the fair value of individual assets and liabilities of the reporting unit. Upon adoption of this ASU, goodwill impairment will be the amount by which a reporting unit’s carrying value exceeds its fair value, not to exceed the carrying amount of goodwill. This may result in either greater or less impairment being recognized than under current guidance. This Update will become effective for the Company’s annual goodwill impairment tests beginning in the first quarter 2020. The Company does not expect adoption of this ASU to have a material impact on its consolidated financial statements.
ASU 2016-13; Financial Instruments-Credit Losses (Topic 326), Measurement of Credit Losses on Financial Instruments--The ASU changes accounting for credit losses on loans receivable and debt securities from an incurred loss methodology to an expected credit loss methodology. Among other things, ASU 2016-13 requires the measurement of all expected credit losses for financial assets held at the reporting date based on historical experience, current conditions, and reasonable and supportable forecasts. Accordingly, ASU 2016-13 requires the use of forward-looking information to form credit loss estimates. Many of the loss estimation techniques applied today will still be permitted, though the inputs to those techniques will change to reflect the full amount of expected credit losses. In addition, ASU 2016-13 amends the accounting for credit losses on debt securities and purchased financial assets with credit deterioration. On July 17, 2019, the FASB proposed delaying the effective date for ASU 2016-13 for smaller reporting companies. This proposal was approved on October 18, 2019, resulting in ASU 2016-13 becoming effective in the first quarter of 2023 for the Company. Earlier adoption is permitted; however, the Company does not currently plan to adopt the ASU early. Management is assessing alternative loss estimation methodologies and the Company’s data and system needs in order to evaluate the impact that adoption of this standard will have on the Company’s financial condition and results of operations. The Company anticipates recording the effect of implementing this ASU through a cumulative-effect adjustment through retained earnings as of the beginning of the reporting period in which the ASU is effective, which will be January 1, 2023.


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NOTE 2 – ACQUISITION

F. & M. Bancorp. of Tomah, Inc.

On July 1, 2019 the Company completed its previously announced acquisition of F. & M. Bancorp. of Tomah, Inc. (“F&M”) pursuant to the merger agreement. In connection with the acquisition, the Company merged Farmers & Merchants Bank with and into the Bank, with the Bank surviving the merger.

Under the terms of the merger agreement, each issued and outstanding share of F&M common stock, $0.25 par value, other than F&M common stock held by dissenting shareholders, or shares of F&M common stock held by F&M as treasury stock or owned by the Company, was converted into the right to receive, without interest (i) $94.92 in cash, (ii) 1.3350 shares of Citizens common stock, and (iii) cash in lieu of fractional shares. The value of the aggregate consideration paid to F&M shareholders was approximately $24 million.

The merger added $192.3 million in assets, gross loans of $130.3 million and $148.5 million in deposits. Based on preliminary estimates, $367 of goodwill and $1.6 million of a core deposit intangible asset was created at September 30, 2019. We expect our analysis to be final at December 31, 2019. The goodwill is not deductible for tax purposes, as the acquisition is accounted for as a tax-free exchange for tax purposes.

In connection with the F&M acquisition, we incurred expenses related to (1) accounting, legal and other professional services, (2) contract termination costs, and (3) other costs of integrating and conforming acquired operations with and into the Company. These merger-related expenses, that were expensed as incurred, amounted to $2,575 for the three months ended September 30, 2019 and $3,086 for the nine months ended September 30, 2019, and were included in non-interest expense on the consolidated statement of operations.

The acquisition of the net assets of F&M constitutes a business combination as defined by FASB ASC Topic 805, “Business Combinations.” Accordingly, the assets acquired and liabilities assumed are presented at their fair values at acquisition date. Fair values were determined based on the requirements of FASB ASC Topic 820, “Fair Value Measurements.” In many cases, the determination of these fair values required management to make estimates regarding discount rates, future expected cash flows, market conditions and other future events that are highly subjective in nature and subject to change for a period up to 12 months after the acquisition date. Management engaged third-party valuation specialists to assist in determining such values. The preliminary results of the fair value evaluation generated goodwill and intangible assets as noted above.

The following pro forma financial information for the periods presented reflects our estimated consolidated pro forma results of operations as if the F&M acquisition occurred on January 1, 2019, not considering potential cost savings and other business synergies we expect to receive as a result of the acquisition:

Nine Months Ended September 30, 2019
 
(1) Citizens Community Bancorp, Inc.
 
(2) F&M
 
(3) Pro Forma Adjustments
 
Pro Forma Combined
Revenue (net interest income and non-interest income)
 
$
42,929

 
$
4,918

 
$
(299
)
 
$
47,548

Net income attributable to common stockholders
 
$
6,294

 
$
1,007

 
$
(321
)
 
$
6,980

Earnings per share--basic
 
$
0.57

 
 
 
 
 
$
0.63

Earnings per share-diluted
 
$
0.57

 
 
 
 
 
$
0.63

(1) Revenue and net income attributable to common stockholders for Citizens Community Bancorp, Inc. are for the consolidated entity through September 30, 2019 which includes the results of operations of F&M for the time period July 1, 2019 through September 30, 2019.
(2) Revenue and net income attributable to common stockholders for F&M includes the results of operations of F&M for the time period January 1, 2019 through June 30, 2019.

19



(3) Pro-forma adjustments are for the time period January 1, 2019 through June 30, 2019 and include:
•Six month adjustment to record accretion of loan discount ($814) on a straight line basis over approximately six years
•Six month adjustment to record amortization of the deposit premium on a straight line basis over the estimated lives of the underlying deposits ranging from seven months to approximately twenty months
•Six month adjustment to record amortization of the FHLB borrowings premium on a straight line basis over the estimated lives of the underlying advances ranging from four months up to approximately thirty-three months
•Six month adjustment to record interest expense on funds borrowed to fund the acquisition of Tomah.

These pro forma adjustments reflect (1) additional depreciation and amortization expense related to, and associated tax effects of, the purchase accounting adjustments made to record various items at fair value and (2) elimination of acquisition related costs incurred.

The revenue and earnings of F&M since the acquisition date of July 1, 2019 are presented below:

Three Months Ended September 30, 2019
 
F&M
Revenue (net interest income and non-interest income)
 
$
1,433

Net income attributable to common stockholders
 
$
402



The following table summarizes the preliminary amounts recorded on the consolidated balance sheet as of the acquisition date in conjunction with the acquisition discussed above:

 
 
F&M
 
 
 
Fair value of consideration paid
 
$
23,894

 
 
 
Fair value of identifiable assets acquired:
 
 
Cash and cash equivalents
 
15,757

Other interest bearing deposits
 
992

Securities available for sale “AFS”
 
37,069

Other investments
 
2,413

Loans receivable, net
 
126,562

Office properties and equipment, net
 
2,654

Core deposit intangible
 
1,582

Cash value of life insurance
 
4,719

Other assets
 
1,503

Total identifiable assets acquired
 
$
193,251

 
 
 
Fair value of liabilities assumed:
 
 
Deposits
 
$
148,637

Other borrowings
 
20,122

Other liabilities
 
965

Total liabilities assumed
 
169,724

Fair value of net identifiable assets acquired
 
23,527

Goodwill recognized
 
$
367




20



NOTE 3 – INVESTMENT SECURITIES
The amortized cost, estimated fair value and related unrealized gains and losses on securities available for sale and held to maturity as of September 30, 2019 and December 31, 2018, respectively, were as follows:
Available for sale securities
Amortized
Cost
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
Estimated
Fair Value
September 30, 2019
 
 
 
 
 
 
 
U.S. government agency obligations
$
53,405

 
$
184

 
$
211

 
$
53,378

Obligations of states and political subdivisions
27,648

 
301

 
12

 
27,937

Mortgage-backed securities
54,979

 
741

 
62

 
55,658

Corporate debt securities
18,793

 
131

 
90

 
18,834

Corporate asset based securities
27,756

 
—

 
607

 
27,149

Total available for sale securities
$
182,581

 
$
1,357

 
$
982

 
$
182,956

 
 
 
 
 
 
 
 
December 31, 2018
 
 
 
 
 
 
 
U.S. government agency obligations
$
46,215

 
$
13

 
$
930

 
$
45,298

Obligations of states and political subdivisions
35,162

 
22

 
456

 
34,728

Mortgage-backed securities
42,279

 
10

 
939

 
41,350

Agency Securities
104

 
49

 
5

 
148

Corporate debt securities
6,577

 
—

 
272

 
6,305

Corporate asset based securities
18,928

 
8

 
40

 
18,896

Total available for sale securities
$
149,265

 
$
102

 
$
2,642

 
$
146,725

Held to maturity securities
Amortized
Cost
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
Estimated
Fair Value
September 30, 2019
 
 
 
 
 
 
 
Obligations of states and political subdivisions
$
980

 
$
2

 
$
—

 
$
982

Mortgage-backed securities
2,685

 
103

 
—

 
2,788

Total held to maturity securities
$
3,665

 
$
105

 
$
—

 
$
3,770

 
 
 
 
 
 
 
 
December 31, 2018
 
 
 
 
 
 
 
Obligations of states and political subdivisions
$
1,701

 
$
—

 
$
3

 
$
1,698

Mortgage-backed securities
3,149

 
42

 
17

 
3,174

Total held to maturity securities
$
4,850

 
$
42

 
$
20

 
$
4,872

As of September 30, 2019, the Bank has pledged U.S. Government Agency securities with a market value of $5,974 and mortgage-backed securities with a market value of $13,710 as collateral against specific municipal deposits. At September 30, 2019, the Bank has pledged U.S. Government Agency securities with a market value of $1,703 as collateral against a borrowing line of credit with the Federal Reserve Bank. However, as of September 30, 2019, there were no borrowings outstanding on this Federal Reserve Bank line of credit. As of September 30, 2019, the Bank also has mortgage backed securities with a carrying value of $760 pledged as collateral to the Federal Home Loan Bank of Des Moines.



21



The estimated fair value of securities at September 30, 2019 and December 31, 2018, by contractual maturity, is shown below. Expected maturities will differ from contractual maturities on mortgage-backed securities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. Expected maturities may differ from contractual maturities on certain agency and municipal securities due to the call feature.
 
September 30, 2019
 
December 31, 2018
Available for sale securities
Amortized
Cost
 
Estimated
Fair Value
 
Amortized
Cost
 
Estimated
Fair Value
Due in one year or less
$
3,984

 
$
3,986

 
$
2,177

 
$
2,172

Due after one year through five years
19,572

 
19,806

 
22,296

 
22,043

Due after five years through ten years
40,350

 
40,437

 
43,014

 
42,081

Due after ten years
63,696

 
63,069

 
39,395

 
38,931

Total securities with contractual maturities
$
127,602

 
$
127,298

 
$
106,882

 
$
105,227

Mortgage backed securities
54,979

 
55,658

 
42,279

 
41,350

Securities without contractual maturities
—

 
—

 
104

 
148

Total available for sale securities
$
182,581

 
$
182,956

 
$
149,265

 
$
146,725


 
September 30, 2019
 
December 31, 2018
Held to maturity securities
Amortized
Cost
 
Estimated
Fair Value
 
Amortized
Cost
 
Estimated
Fair Value
Due in one year or less
$
680

 
$
680

 
$
680

 
$
679

Due after one year through five years
300

 
302

 
1,021

 
1,020

Total securities with contractual maturities
$
980

 
$
982

 
$
1,701

 
$
1,699

Mortgage backed securities
2,685

 
2,788

 
3,149

 
3,173

Total held to maturity securities
$
3,665

 
$
3,770

 
$
4,850

 
$
4,872


Securities with unrealized losses at September 30, 2019 and December 31, 2018, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, were as follows:


22



 
 
Less than 12 Months
 
12 Months or More
 
Total
Available for sale securities
 
Fair
Value
 
Unrealized
Loss
 
Fair
Value
 
Unrealized
Loss
 
Fair
Value
 
Unrealized
Loss
September 30, 2019
 
 
 
 
 
 
 
 
 
 
 
 
U.S. government agency obligations
 
$
10,815

 
$
51

 
$
10,694

 
$
160

 
$
21,509

 
$
211

Obligations of states and political subdivisions
 
4,118

 
4

 
737

 
8

 
4,855

 
12

Mortgage backed securities
 
2,380

 
4

 
6,216

 
57

 
8,596

 
61

Corporate debt securities
 
1,993

 
7

 
1,417

 
84

 
3,410

 
91

Corporate asset based securities
 
17,372

 
357

 
9,777

 
250

 
27,149

 
607

Total
 
$
36,678

 
$
423

 
$
28,841

 
$
559

 
$
65,519

 
$
982

December 31, 2018
 
 
 
 
 
 
 
 
 
 
 
 
U.S. government agency obligations
 
$
25,061

 
$
165

 
$
19,755

 
$
765

 
$
44,816

 
$
930

Obligations of states and political subdivisions
 
5,807

 
28

 
24,124

 
428

 
29,931

 
456

Mortgage backed securities
 
3,518

 
9

 
31,040

 
930

 
34,558

 
939

Agency securities
 
28

 
5

 
—

 
—

 
28

 
5

Corporate debt securities
 
1,233

 
17

 
5,071

 
255

 
6,304

 
272

Corporate asset based securities
 
10,142

 
40

 
—

 
—

 
10,142

 
40

Total
 
$
45,789

 
$
264

 
$
79,990

 
$
2,378

 
$
125,779

 
$
2,642

 
 
Less than 12 Months
 
12 Months or More
 
Total
Held to maturity securities
 
Fair
Value
 
Unrealized
Loss
 
Fair
Value
 
Unrealized
Loss
 
Fair
Value
 
Unrealized
Loss
September 30, 2019
 
 
 
 
 
 
 
 
 
 
 
 
Obligations of states and political subdivisions
 
$
—

 
$
—

 
$
—

 
$
—

 
$
—

 
$
—

Mortgage-backed securities
 
—

 
—

 
—

 
—

 
—

 
—

Total
 
$
—

 
$
—

 
$
—

 
$
—

 
$
—

 
$
—

December 31, 2018
 
 
 
 
 
 
 
 
 
 
 
 
Obligations of states and political subdivisions
 
$
1,290

 
$
1

 
$
409

 
$
2

 
$
1,699

 
$
3

Mortgage-backed securities
 
1,238

 
3

 
1,319

 
14

 
2,557

 
17

Total
 
$
2,528

 
$
4

 
$
1,728

 
$
16

 
$
4,256

 
$
20


NOTE 4 – LOANS, ALLOWANCE FOR LOAN LOSSES AND IMPAIRED LOANS
Portfolio Segments:
Residential real estate loans are collateralized by primary and secondary positions on real estate and are underwritten primarily based on borrower’s documented income, credit scores, and collateral values. Under consumer home equity loan guidelines, the borrower will be approved for a loan based on a percentage of their home’s appraised value less the balance owed on the existing first mortgage. Credit risk is minimized within the residential real estate portfolio as relatively small loan amounts are spread across many individual borrowers. Management evaluates trends in past due loans and current economic factors such as the housing price index on a regular basis.
Commercial and agricultural real estate loans are underwritten after evaluating and understanding the borrower's ability to operate profitably and prudently expand its business. Management examines current and projected cash flows to determine the ability of the borrower to repay its obligations as agreed. These loans are viewed primarily as cash flow loans and secondarily as loans secured by real estate. Commercial real estate lending typically involves higher loan principal amounts and the repayment of these loans is generally largely dependent on the successful operation of the property or the business conducted on the property securing the loan. Commercial real estate loans may be more adversely affected by conditions in the real estate markets or in the general economy. The level of owner-occupied property versus non-owner-occupied property are tracked and

23



monitored on a regular basis. Agricultural real estate loans are primarily comprised of loans for the purchase of farmland. Loan-to-value ratios on loans secured by farmland generally do not exceed 75%.
Consumer non-real estate loans are comprised of originated indirect paper loans secured primarily by boats and recreational vehicles, purchased indirect paper loans secured primarily by household goods and other consumer loans secured primarily by automobiles and other personal assets. The Bank ceased new originations of these types of loans in early fiscal 2017. Consumer loans underwriting terms often depend on the collateral type, debt to income ratio and the borrower’s creditworthiness as evidenced by their credit score. Collateral value alone may not provide an adequate source of repayment of the outstanding loan balance in the event of a consumer non-real estate default. This shortage is a result of the greater likelihood of damage, loss and depreciation for consumer based collateral.
Commercial non-real estate loans are primarily made based on the identified cash flows of the borrower and secondarily on the underlying collateral provided by the borrower. These cash flows, however, may not be as expected and the value of collateral securing the loans may fluctuate. Most commercial loans are secured by the assets being financed or other business assets such as accounts receivable or inventory and may incorporate a personal guarantee. Agricultural non-real estate loans are generally comprised of term loans to fund the purchase of equipment, livestock and seasonal operating lines. Operating lines are typically written for one year and secured by the crop and other farm assets as considered necessary. Agricultural loans carry significant credit risks as they may involve larger balances concentrated with single borrowers or groups of related borrowers. In addition, repayment of such loans depends on the successful operation or management of the farm property securing the loan or for which an operating loan is utilized. Farming operations may be affected by adverse weather conditions such as drought, hail or floods that can severely limit crop yields.

24



Credit Quality/Risk Ratings:
Management utilizes a numeric risk rating system to identify and quantify the Bank’s risk of loss within its loan portfolio. Ratings are initially assigned prior to funding the loan, and may be changed at any time as circumstances warrant.
Ratings range from the highest to lowest quality based on factors that include measurements of ability to pay, collateral type and value, borrower stability and management experience. The Bank’s loan portfolio is presented below in accordance with the risk rating framework that has been commonly adopted by the federal banking agencies. The definitions of the various risk rating categories are as follows:
1 through 4 - Pass. A “Pass” loan means that the condition of the borrower and the performance of the loan is satisfactory or better.
5 - Watch. A “Watch” loan has clearly identifiable developing weaknesses that deserve additional attention from management. Weaknesses that are not corrected or mitigated, may jeopardize the ability of the borrower to repay the loan in the future.
6 - Special Mention. A “Special Mention” loan has one or more potential weakness that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the loan or in the institution’s credit position in the future.
7 - Substandard. A “Substandard” loan is inadequately protected by the current net worth and paying capacity of the obligor or the collateral pledged, if any. Assets classified as substandard must have a well-defined weakness, or weaknesses, that jeopardize the liquidation of the debt. They are characterized by the distinct possibility that the Bank will sustain some loss if the deficiencies are not corrected.
8 - Doubtful. A “Doubtful” loan has all the weaknesses inherent in a Substandard loan 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.
9 - Loss. Loans classified as “Loss” are considered uncollectible, and their continuance as bankable assets is not warranted. This classification does not mean that the loan has absolutely no recovery or salvage value, and a partial recovery may occur in the future.

25



Below is a summary of originated and acquired loans by type and risk rating as of September 30, 2019:
 
 
1 to 5
 
6
 
7
 
8
 
9
 
TOTAL
Originated Loans:
 
 
 
 
 
 
 
 
 
 
 
 
Residential real estate:
 
 
 
 
 
 
 
 
 
 
 
 
One to four family
 
$
110,440

 
$
53

 
$
4,014

 
$
—

 
$
—

 
$
114,507

Purchased HELOC loans
 
10,120

 
—

 
—

 
—

 
—

 
10,120

Commercial/Agricultural real estate:
 
 
 
 
 
 
 
 
 
 
 
 
Commercial real estate
 
243,656

 
—

 
1,153

 
—

 
—

 
244,809

Agricultural real estate
 
32,278

 
112

 
2,137

 
—

 
—

 
34,527

Multi-family real estate
 
69,556

 
—

 
—

 
—

 
—

 
69,556

Construction and land development
 
48,841

 
—

 
3,478

 
—

 
—

 
52,319

Consumer non-real estate:
 
 
 
 
 
 
 
 
 
 
 
 
Originated indirect paper
 
42,623

 
—

 
271

 
—

 
—

 
42,894

Purchased indirect paper
 
—

 
—

 
—

 
—

 
—

 
—

Other Consumer
 
15,657

 
—

 
61

 
—

 
—

 
15,718

Commercial/Agricultural non-real estate:
 
 
 
 
 
 
 
 
 
 
 
 
Commercial non-real estate
 
76,555

 
866

 
3,520

 
—

 
—

 
80,941

Agricultural non-real estate
 
20,740

 
507

 
810

 
—

 
—

 
22,057

Total originated loans
 
$
670,466

 
$
1,538

 
$
15,444

 
$
—

 
$
—

 
$
687,448

Acquired Loans:
 
 
 
 
 
 
 
 
 
 
 
 
Residential real estate:
 
 
 
 
 
 
 
 
 
 
 
 
One to four family
 
$
70,584

 
$
450

 
$
2,529

 
$
—

 
$
—

 
$
73,563

Commercial/Agricultural real estate:
 
 
 
 
 
 
 
 
 
 
 
 
Commercial real estate
 
204,056

 
6,729

 
9,452

 
—

 
—

 
220,237

Agricultural real estate
 
46,308

 
3,010

 
5,596

 
—

 
—

 
54,914

Multi-family real estate
 
16,427

 
—

 
1,775

 
—

 
—

 
18,202

Construction and land development
 
12,434

 
—

 
797

 
—

 
—

 
13,231

Consumer non-real estate:
 
 
 
 
 
 
 
 
 
 
 
 
Other Consumer
 
3,038

 
—

 
14

 
—

 
—

 
3,052

Commercial/Agricultural non-real estate:
 
 
 
 
 
 
 
 
 
 
 
 
Commercial non-real estate
 
43,492

 
1,101

 
1,698

 
—

 
—

 
46,291

Agricultural non-real estate
 
16,417

 
131

 
1,222

 
—

 
—

 
17,770

Total acquired loans
 
$
412,756

 
$
11,421

 
$
23,083

 
$
—

 
$
—

 
$
447,260

Total Loans:
 
 
 
 
 
 
 
 
 
 
 
 
Residential real estate:
 
 
 
 
 
 
 
 
 
 
 
 
One to four family
 
$
181,024

 
$
503

 
$
6,543

 
$
—

 
$
—

 
$
188,070

Purchased HELOC loans
 
10,120

 
—

 
—

 
—

 
—

 
10,120

Commercial/Agricultural real estate:
 
 
 
 
 
 
 
 
 
 
 
 
Commercial real estate
 
447,712

 
6,729

 
10,605

 
—

 
—

 
465,046

Agricultural real estate
 
78,586

 
3,122

 
7,733

 
—

 
—

 
89,441

Multi-family real estate
 
85,983

 
—

 
1,775

 
—

 
—

 
87,758

Construction and land development
 
61,275

 
—

 
4,275

 
—

 
—

 
65,550

Consumer non-real estate:
 
 
 
 
 
 
 
 
 
 
 
 
Originated indirect paper
 
42,623

 
—

 
271

 
—

 
—

 
42,894

Purchased indirect paper
 
—

 
—

 
—

 
—

 
—

 
—

Other Consumer
 
18,695

 
—

 
75

 
—

 
—

 
18,770

Commercial/Agricultural non-real estate:
 
 
 
 
 
 
 
 
 
 
 
 
Commercial non-real estate
 
120,047

 
1,967

 
5,218

 
—

 
—

 
127,232

Agricultural non-real estate
 
37,157

 
638

 
2,032

 
—

 
—

 
39,827

Gross loans
 
$
1,083,222

 
$
12,959

 
$
38,527

 
$
—

 
$
—

 
$
1,134,708

Less:
 
 
 
 
 
 
 
 
 
 
 
 
Unearned net deferred fees and costs and loans in process
 
 
 
 
 
 
 
 
 
 
 
(158
)
Unamortized discount on acquired loans
 
 
 
 
 
 
 
 
 
 
 
(10,172
)
Allowance for loan losses
 
 
 
 
 
 
 
 
 
 
 
(9,177
)
Loans receivable, net
 
 
 
 
 
 
 
 
 
 
 
$
1,115,201



26



Below is a summary of originated loans by type and risk rating as of December 31, 2018:
 
 
1 to 5
 
6
 
7
 
8
 
9
 
TOTAL
Originated Loans:
 
 
 
 
 
 
 
 
 
 
 
 
Residential real estate:
 
 
 
 
 
 
 
 
 
 
 
 
One to four family
 
$
118,461

 
$
165

 
$
2,427

 
$
—

 
$
—

 
$
121,053

Purchased HELOC loans
 
12,883

 
—

 
—

 
—

 
—

 
12,883

Commercial/Agricultural real estate:
 
 
 
 
 
 
 
 
 
 
 
 
Commercial real estate
 
200,226

 
197

 
452

 
—

 
—

 
200,875

Agricultural real estate
 
27,581

 
987

 
1,021

 
—

 
—

 
29,589

Multi-family real estate
 
61,574

 
—

 
—

 
—

 
—

 
61,574

Construction and land development
 
15,812

 
—

 
—

 
—

 
—

 
15,812

Consumer non-real estate:
 
 
 
 
 
 
 
 
 
 
 
 
Originated indirect paper
 
56,371

 
—

 
214

 
—

 
—

 
56,585

Purchased indirect paper
 
15,006

 
—

 
—

 
—

 
—

 
15,006

Other Consumer
 
15,515

 
—

 
38

 
—

 
—

 
15,553

Commercial/Agricultural non-real estate:
 
 
 
 
 
 
 
 
 
 
 
 
Commercial non-real estate
 
73,412

 
106

 
—

 
—

 
—

 
73,518

Agricultural non-real estate
 
16,494

 
205

 
642

 
—

 
—

 
17,341

Total originated loans
 
$
613,335

 
$
1,660

 
$
4,794

 
$
—

 
$
—

 
$
619,789

Acquired Loans:
 
 
 
 
 
 
 
 
 
 
 
 
Residential real estate:
 
 
 
 
 
 
 
 
 
 
 
 
One to four family
 
$
84,281

 
$
2,657

 
$
1,935

 
$
—

 
$
—

 
$
88,873

Commercial/Agricultural real estate:
 
 
 
 
 
 
 
 
 
 
 

Commercial real estate
 
145,674

 
5,808

 
5,602

 
—

 
—

 
157,084

Agricultural real estate
 
50,215

 
—

 
6,211

 
—

 
—

 
56,426

Multi-family real estate
 
7,661

 
—

 
165

 
—

 
—

 
7,826

Construction and land development
 
6,288

 
183

 
408

 
—

 
—

 
6,879

Consumer non-real estate:
 
 
 
 
 
 
 
 
 
 
 

Other Consumer
 
4,639

 
—

 
22

 
—

 
—

 
4,661

Commercial/Agricultural non-real estate:
 
 
 
 
 
 
 
 
 
 
 

Commercial non-real estate
 
35,221

 
1,338

 
2,350

 
—

 
—

 
38,909

Agricultural non-real estate
 
16,644

 
50

 
2,292

 
—

 
—

 
18,986

Total acquired loans
 
$
350,623

 
$
10,036

 
$
18,985

 
$
—

 
$
—

 
$
379,644

Total Loans:
 
 
 
 
 
 
 
 
 
 
 
 
Residential real estate:
 
 
 
 
 
 
 
 
 
 
 
 
One to four family
 
$
202,742

 
$
2,822

 
$
4,362

 
$
—


$
—

 
$
209,926

Purchased HELOC loans
 
12,883

 
—

 
—

 
—


—

 
12,883

Commercial/Agricultural real estate:
 
 
 
 
 
 
 
—

 
—

 
 
Commercial real estate
 
345,900

 
6,005

 
6,054

 
—


—

 
357,959

Agricultural real estate
 
77,796

 
987

 
7,232

 
—


—

 
86,015

Multi-family real estate
 
69,235

 
—

 
165

 
—


—

 
69,400

Construction and land development
 
22,100

 
183

 
408

 
—


—

 
22,691

Consumer non-real estate:
 
 
 
 
 
 
 
—

 
—

 
 
Originated indirect paper
 
56,371

 
—

 
214

 
—


—

 
56,585

Purchased indirect paper
 
15,006

 
—

 
—

 
—


—

 
15,006

Other Consumer
 
20,154

 
—

 
60

 
—


—

 
20,214

Commercial/Agricultural non-real estate:
 
 
 
 
 
 
 
—

 
—

 
 
Commercial non-real estate
 
108,633

 
1,444

 
2,350

 
—


—

 
112,427

Agricultural non-real estate
 
33,138

 
255

 
2,934

 
—


—

 
36,327

Gross loans
 
$
963,958

 
$
11,696

 
$
23,779

 
$
—

 
$
—

 
$
999,433

Less:
 
 
 
 
 
 
 
 
 
 
 
 
Unearned net deferred fees and costs and loans in process
 
 
 
 
 
 
 
 
 
 
 
409

Unamortized discount on acquired loans
 
 
 
 
 
 
 
 
 
 
 
(7,286
)
Allowance for loan losses
 
 
 
 
 
 
 
 
 
 
 
(7,604
)
Loans receivable, net
 
 
 
 
 
 
 
 
 
 
 
$
984,952


27



Allowance for Loan Losses - The ALL represents management’s estimate of probable and inherent credit losses in the Bank’s loan portfolio. Estimating the amount of the ALL requires the exercise of significant judgment and the use of estimates related to the amount and timing of expected future cash flows on impaired loans, estimated losses on pools of homogeneous loans based on historical loss experience, and consideration of other qualitative factors such as current economic trends and conditions, all of which may be susceptible to significant change.
There are many factors affecting the ALL; some are quantitative, while others require qualitative judgment. The process for determining the ALL (which management believes adequately considers potential factors which result in probable credit losses), includes subjective elements and, therefore, may be susceptible to significant change. To the extent actual outcomes differ from management estimates, additional provision for loan losses could be required that could adversely affect the Company’s earnings or financial position in future periods. Allocations of the ALL may be made for specific loans but the entire ALL is available for any loan that, in management’s judgment, should be charged-off or for which an actual loss is realized.
As an integral part of their examination process, various regulatory agencies also review the Bank’s ALL. Such agencies may require that changes in the ALL be recognized when such regulators’ credit evaluations differ from those of our management based on information available to the regulators at the time of their examinations.

28



Changes in the ALL by loan type for the periods presented below were as follows:
 
Residential Real Estate
 
Commercial/Agriculture Real Estate
 
Consumer Non-real Estate
 
Commercial/Agricultural Non-real Estate
 
Unallocated
 
Total
Nine months ended September 30, 2019
 
 
 
 
 
 
 
 
 
 
 
Allowance for Loan Losses:
 
 
 
 
 
 
 
 
 
 
 
Beginning balance, January 1, 2019
$
1,048

 
$
4,019

 
$
641

 
$
1,258

 
$
214

 
$
7,180

Charge-offs
(119
)
 
(225
)
 
(142
)
 
—

 
—

 
(486
)
Recoveries
—

 
—

 
53

 
—

 
—

 
53

Provision
115

 
1,516

 
20

 
315

 
—

 
1,966

Allowance allocation adjustment
(39
)
 
(19
)
 
(75
)
 
27

 
87

 
(19
)
Total allowance on originated loans
1,005

 
5,291

 
497

 
1,600

 
301

 
8,694

Purchased credit impaired loans
—

 
—

 
—

 
—

 
—

 
—

Other acquired loans:
 
 
 
 
 
 
 
 
 
 
 
Beginning balance, January 1, 2019
205

 
183

 
65

 
32

 
(61
)
 
424

Charge-offs
(105
)
 
—

 
(29
)
 
—

 
—

 
(134
)
Recoveries
2

 
3

 
10

 
—

 
—

 
15

Provision
94

 
30

 
35

 
—

 
—

 
159

Allowance allocation adjustment
(26
)
 
(45
)
 
(26
)
 
55

 
61

 
19

Total allowance on other acquired loans
170

 
171

 
55

 
87

 
—

 
483

Total Allowance on acquired loans
170

 
171

 
55

 
87

 
—

 
483

Ending balance, September 30, 2019
$
1,175

 
$
5,462

 
$
552

 
$
1,687

 
$
301

 
$
9,177

Allowance for Loan Losses at September 30, 2019:
 
 
 
 
 
 
 
 
 
 
 
Amount of allowance for loan losses arising from loans individually evaluated for impairment
$
191

 
$
205

 
$
15

 
$
252

 
$
—

 
$
663

Amount of allowance for loan losses arising from loans collectively evaluated for impairment
$
984

 
$
5,257

 
$
537

 
$
1,435

 
$
301

 
$
8,514

Loans Receivable as of September 30, 2019:
 
 
 
 
 
 
 
 
 
 
—

Ending balance of originated loans
$
124,627

 
$
401,211

 
$
58,612

 
$
102,998

 
$
—

 
$
687,448

Ending balance of purchased credit-impaired loans
2,273

 
33,840

 
—

 
5,320

 
—

 
41,433

Ending balance of other acquired loans
71,290

 
272,744

 
3,052

 
58,741

 
—

 
405,827

Ending balance of loans
$
198,190

 
$
707,795

 
$
61,664

 
$
167,059

 
$
—

 
$
1,134,708

Ending balance: individually evaluated for impairment
$
8,626

 
$
16,458

 
$
419

 
$
7,215

 
$
—

 
$
32,718

Ending balance: collectively evaluated for impairment
$
189,564

 
$
691,337

 
$
61,245

 
$
159,844

 
$
—

 
$
1,101,990


29



 
Residential Real Estate
 
Commercial/Agriculture Real Estate
 
Consumer Non-real Estate
 
Commercial/Agricultural Non-real Estate
 
Unallocated
 
Total
Nine months ended September 30, 2018
 
 
 
 
 
 
 
 
 
 
 
Allowance for Loan Losses:
 
 
 
 
 
 
 
 
 
 
 
Beginning balance, January 1, 2018
$
1,439

 
$
2,604

 
$
910

 
$
880

 
$
26

 
$
5,859

Charge-offs
(72
)
 
—

 
(116
)
 
(52
)
 
—

 
(240
)
Recoveries
32

 
—

 
95

 
12

 
—

 
139

Provision
—

 
680

 
60

 
230

 
—

 
970

Allowance allocation adjustment
(364
)
 
(8
)
 
(285
)
 
(30
)
 
256

 
(431
)
Total Allowance on originated loans
$
1,035

 
$
3,276

 
$
664

 
$
1,040

 
$
282

 
$
6,297

Purchased credit impaired loans
—

 
—

 
—

 
—

 
—

 
—

Other acquired loans
 
 
 
 
 
 
 
 
 
 
 
Beginning balance, January 1, 2018
—

 
—

 
—

 
—

 
—

 
—

Charge-offs
(106
)
 
(73
)
 
(70
)
 
—

 
—

 
(249
)
Recoveries
34

 
—

 
5

 
—

 
—

 
39

Provision
70

 
120

 
25

 
15

 
—

 
230

Allowance allocation adjustment
171

 
121

 
125

 
14

 
—

 
431

Total Allowance on other acquired loans
169

 
168

 
85

 
29

 
—

 
451

Total Allowance on acquired loans
169

 
168

 
85

 
29

 
—

 
451

Ending balance, September 30, 2018
1,204

 
3,444

 
749

 
1,069

 
282

 
6,748

Allowance for Loan Losses at September 30, 2018:
 
 
 
 
 
 
 
 
 
 
 
Amount of allowance for loan losses arising from loans individually evaluated for impairment
$
97

 
$
23

 
$
39

 
$
43

 
$
—

 
$
202

Amount of allowance for loan losses arising from loans collectively evaluated for impairment
$
1,107

 
$
3,421

 
$
710

 
$
1,026

 
$
282

 
$
6,546

Loans Receivable as of September 30, 2018:
 
 
 
 
 
 
 
 
 
 
 
Ending balance of originated loans
$
136,526

 
$
254,751

 
$
94,236

 
$
79,710

 
$
—

 
$
565,223

Ending balance of purchased credit-impaired loans
450

 
7,173

 
645

 
739

 
—

 
9,007

Ending balance of other acquired loans
72,805

 
91,096

 
2,208

 
22,354

 
—

 
188,463

Ending balance of loans
$
209,781

 
$
353,020

 
$
97,089

 
$
102,803

 
$
—

 
$
762,693

Ending balance: individually evaluated for impairment
$
8,198

 
$
10,894

 
$
393

 
$
2,894

 
$
—

 
$
22,379

Ending balance: collectively evaluated for impairment
$
201,583

 
$
342,126

 
$
96,696

 
$
99,909

 
$
—

 
$
740,314



30



Loans receivable by loan type as of the end of the periods shown below were as follows:
 
Residential Real Estate
 
Commercial/Agriculture Real Estate Loans
 
Consumer non-Real Estate
 
Commercial/Agriculture non-Real Estate
 
Totals
 
September 30, 2019
 
December 31, 2018
 
September 30, 2019
 
December 31, 2018
 
September 30, 2019
 
December 31, 2018
 
September 30, 2019
 
December 31, 2018
 
September 30, 2019
 
December 31, 2018
Performing loans
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Performing TDR loans
$
2,876

 
$
3,319

 
$
3,574

 
$
2,209

 
$
74

 
$
99

 
$
452

 
$
428

 
$
6,976

 
$
6,055

Performing loans other
191,990

 
216,636

 
691,706

 
531,030

 
61,369

 
91,373

 
162,546

 
146,249

 
1,107,611

 
985,288

Total performing loans
194,866

 
219,955

 
695,280

 
533,239

 
61,443

 
91,472

 
162,998

 
146,677

 
1,114,587

 
991,343

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Nonperforming loans (1)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Nonperforming TDR loans
562

 
785

 
2,343

 
577

 
—

 
—

 
1,914

 
1,305

 
4,819

 
2,667

Nonperforming loans other
2,762

 
2,069

 
10,172

 
2,249

 
221

 
334

 
2,147

 
771

 
15,302

 
5,423

Total nonperforming loans
3,324

 
2,854

 
12,515

 
2,826

 
221

 
334

 
4,061

 
2,076

 
20,121

 
8,090

Total loans
$
198,190

 
$
222,809

 
$
707,795

 
$
536,065

 
$
61,664

 
$
91,806

 
$
167,059

 
$
148,753

 
$
1,134,708

 
$
999,433

(1)
Nonperforming loans are either 90+ days past due or nonaccrual.


31



An aging analysis of the Company’s residential real estate, commercial/agriculture real estate, consumer and other loans and purchased third party loans as of September 30, 2019 and December 31, 2018, respectively, was as follows:
 
30-59 Days Past Due and Accruing
 
60-89 Days Past Due and Accruing
 
Greater Than 89 Days Past Due and Accruing
 
Total
Past Due and Accruing
 
Nonaccrual Loans
 
Total Past Due Accruing and Nonaccrual Loans
 
Current
 
Total
Loans
September 30, 2019
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Residential real estate:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
One to four family
$
3,608

 
$
1,016

 
$
1,069

 
$
5,693

 
$
2,255

 
$
7,948

 
$
180,122

 
$
188,070

Purchased HELOC loans
466

 
338

 
—

 
804

 
—

 
804

 
9,316

 
10,120

Commercial/Agricultural real estate:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Commercial real estate
389

 
68

 
—

 
457

 
4,808

 
5,265

 
459,781

 
465,046

Agricultural real estate
1,853

 
81

 
—

 
1,934

 
6,191

 
8,125

 
81,316

 
89,441

Multi-family real estate
—

 
—

 
—

 
—

 
1,471

 
1,471

 
86,287

 
87,758

Construction and land development
—

 
—

 
—

 
—

 
45

 
45

 
65,505

 
65,550

Consumer non-real estate:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Originated indirect paper
250

 
25

 
16

 
291

 
165

 
456

 
42,438

 
42,894

Purchased indirect paper
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

Other Consumer
75

 
44

 
14

 
133

 
26

 
159

 
18,611

 
18,770

Commercial/Agricultural non-real estate:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Commercial non-real estate
957

 
80

 
—

 
1,037

 
2,072

 
3,109

 
124,123

 
127,232

Agricultural non-real estate
1,656

 
141

 
—

 
1,797

 
1,989

 
3,786

 
36,041

 
39,827

Total
$
9,254

 
$
1,793

 
$
1,099

 
$
12,146

 
$
19,022

 
$
31,168

 
$
1,103,540

 
$
1,134,708

December 31, 2018
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Residential real estate:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
One to four family
$
2,784

 
$
861

 
$
471

 
$
4,116

 
$
2,331

 
$
6,447

 
$
203,479

 
$
209,926

Purchased HELOC loans
820

 
572

 
51

 
1,443

 
—

 
1,443

 
11,440

 
12,883

Commercial/Agricultural real estate:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Commercial real estate
1,060

 
872

 
—

 
1,932

 
745

 
2,677

 
355,282

 
357,959

Agricultural real estate
1,360

 
—

 
—

 
1,360

 
2,019

 
3,379

 
82,636

 
86,015

Multi-family real estate
—

 
—

 
—

 
—

 
—

 
—

 
69,400

 
69,400

Construction and land development
526

 
175

 
—

 
701

 
63

 
764

 
21,927

 
22,691

Consumer non-real estate:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Originated indirect paper
272

 
167

 
45

 
484

 
106

 
590

 
55,995

 
56,585

Purchased indirect paper
340

 
200

 
157

 
697

 
—

 
697

 
14,309

 
15,006

Other Consumer
179

 
98

 
12

 
289

 
14

 
303

 
19,911

 
20,214

Commercial/Agricultural non-real estate:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Commercial non-real estate
399

 
70

 
—

 
469

 
1,314

 
1,783

 
110,644

 
112,427

Agricultural non-real estate
428

 
40

 
—

 
468

 
762

 
1,230

 
35,097

 
36,327

Total
$
8,168

 
$
3,055

 
$
736

 
$
11,959

 
$
7,354

 
$
19,313

 
$
980,120

 
$
999,433



32



At September 30, 2019, the Company has identified impaired loans of $67,414, consisting of $11,795 TDR loans, the carrying amount of purchased credit impaired loans of $34,696 and $20,924 of substandard non-TDR loans. The $67,414 total of impaired loans includes $6,976 of performing TDR loans. At December 31, 2018, the Company has identified impaired loans of $47,334, consisting of $8,722 TDR loans, the carrying amount of purchased credit impaired loans of $24,816 and $13,796 of substandard non-TDR loans. The $47,334 total of impaired loans includes $6,055 of performing TDR loans. A loan is identified as impaired when, based on current information and events, it is probable that the Bank will be unable to collect all amounts due according to the contractual terms of the loan agreement. Performing TDRs consist of loans that have been modified and are performing in accordance with the modified terms for a sufficient length of time, generally six months, or loans that were modified on a proactive basis. A summary of the Company’s impaired loans as of September 30, 2019 and December 31, 2018 was as follows:
 
Recorded Investment
 
Unpaid Principal Balance
 
Related Allowance
 
Average Recorded Investment
 
Interest Income Recognized
September 30, 2019
 
 
 
 
 
 
 
 
 
With No Related Allowance Recorded:
 
 
 
 
 
 
 
 
 
Residential real estate
$
9,016

 
$
9,016

 
$
—

 
$
8,945

 
$
141

Commercial/agriculture real estate
43,907

 
43,907

 
—

 
36,379

 
721

Consumer non-real estate
358

 
358

 
—

 
292

 
7

Commercial/agricultural non-real estate
10,298

 
10,298

 
—

 
8,599

 
166

Total
$
63,579

 
$
63,579

 
$
—

 
$
54,214

 
$
1,035

With An Allowance Recorded:
 
 
 
 
 
 
 
 
 
Residential real estate
$
1,598

 
$
1,598

 
$
191

 
$
1,465

 
$
24

Commercial/agriculture real estate
1,634

 
1,634

 
205

 
1,307

 
—

Consumer non-real estate
62

 
62

 
15

 
104.5

 
—

Commercial/agricultural non-real estate
541

 
541

 
252

 
284

 
—

Total
$
3,835

 
$
3,835

 
$
663

 
$
3,160

 
$
24

September 30, 2019 Totals:
 
 
 
 
 
 
 
 
 
Residential real estate
$
10,614

 
$
10,614

 
$
191

 
$
10,410

 
$
165

Commercial/agriculture real estate
45,541

 
45,541

 
205

 
37,685

 
721

Consumer non-real estate
420

 
420

 
15

 
397

 
7

Commercial/agricultural non-real estate
10,839

 
10,839

 
252

 
8,883

 
166

Total
$
67,414

 
$
67,414

 
$
663

 
$
57,374

 
$
1,059



33



 
Recorded Investment
 
Unpaid Principal Balance
 
Related Allowance
 
Average Recorded Investment
 
Interest Income Recognized
December 31, 2018
 
 
 
 
 
 
 
 
 
With No Related Allowance Recorded:
 
 
 
 
 
 
 
 
 
Residential real estate
$
8,873

 
$
8,873

 
$
—

 
$
7,915

 
$
88

Commercial/agriculture real estate
28,850

 
28,850

 
—

 
19,673

 
304

Consumer non-real estate
226

 
226

 
—

 
226

 
4

Commercial/agricultural non-real estate
6,900

 
6,900

 
—

 
4,522

 
105

Total
$
44,849

 
$
44,849

 
$
—

 
$
32,336

 
$
501

With An Allowance Recorded:
 
 
 
 
 
 
 
 
 
Residential real estate
$
1,332

 
$
1,332

 
$
156

 
$
1,280

 
$
17

Commercial/agriculture real estate
979

 
979

 
25

 
820

 
—

Consumer non-real estate
147

 
147

 
37

 
154

 
1

Commercial/agricultural non-real estate
27

 
27

 
9

 
73

 
1

Total
$
2,485

 
$
2,485

 
$
227

 
$
2,327

 
$
19

December 31, 2018 Totals:
 
 
 
 
 
 
 
 
 
Residential real estate
$
10,205

 
$
10,205

 
$
156

 
$
9,195

 
$
105

Commercial/agriculture real estate
29,829

 
29,829

 
25

 
20,493

 
304

Consumer non-real estate
373

 
373

 
37

 
380

 
5

Commercial/agricultural non-real estate
6,927

 
6,927

 
9

 
4,595

 
106

Total
$
47,334

 
$
47,334

 
$
227

 
$
34,663

 
$
520

Troubled Debt Restructuring – A TDR includes a loan modification where a borrower is experiencing financial difficulty and the Bank grants a concession to that borrower that the Bank would not otherwise consider except for the borrower’s financial difficulties. Concessions include an extension of loan terms, renewals of existing balloon loans, reductions in interest rates and consolidating existing Bank loans at modified terms. A TDR may be either on accrual or nonaccrual status based upon the performance of the borrower and management’s assessment of collectability. If a TDR is placed on nonaccrual status, it remains there until a sufficient period of performance under the restructured terms has occurred at which time it is returned to accrual status. There were 14 delinquent TDRs greater than 60 days past due with a recorded investment of $3,293 at September 30, 2019, compared to 7 such loans with a recorded investment of $1,211 at December 31, 2018.
Following is a summary of TDR loans by accrual status as of September 30, 2019 and December 31, 2018.
 
 
September 30, 2019
 
December 31, 2018
Troubled debt restructure loans:
 
 
 
 
Accrual status
 
$
7,194

 
$
6,055

Non-accrual status
 
4,601

 
2,667

Total
 
$
11,795

 
$
8,722

We committed to refinance two loans totaling $33 meeting our TDR criteria at September 30, 2019. There were unused lines of credit totaling $17 meeting our TDR criteria as of September 30, 2019.


34



The following provides detail, including specific reserve and reasons for modification, related to loans identified as TDRs during the nine months ended September 30, 2019 and three months ended December 31, 2018:     
 
 
Number of Contracts
 
Modified Rate
 
Modified Payment
 
Modified Under- writing
 
Other
 
Pre-Modification Outstanding Recorded Investment
 
Post-Modification Outstanding Recorded Investment
 
Specific Reserve
Nine months ended September 30, 2019
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
TDRs:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Residential real estate
 
9

 
$
431

 
$
—

 
$
171

 
$
—

 
$
602

 
$
602

 
$
—

Commercial/Agricultural real estate
 
14

 
2,005

 
78

 
1,215

 
—

 
3,298

 
3,298

 
—

Consumer non-real estate
 
1

 
2

 
—

 
—

 
—

 
2

 
2

 
—

Commercial/Agricultural non-real estate
 
7

 
165

 
364

 
469

 
—

 
998

 
998

 
—

Totals
 
31

 
$
2,603

 
$
442

 
$
1,855

 
$
—

 
$
4,900

 
$
4,900

 
$
—

 
 
Number of Contracts
 
Modified Rate
 
Modified Payment
 
Modified Under- writing
 
Other
 
Pre-Modification Outstanding Recorded Investment
 
Post-Modification Outstanding Recorded Investment
 
Specific Reserve
Three months ended December 31, 2018
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
TDRs:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Residential real estate
 
4

 
$
240

 
$
—

 
$
—

 
$
—

 
$
240

 
$
240

 
$
—

Commercial/Agricultural real estate
 
2

 
—

 
581

 
—

 
21

 
602

 
602

 
—

Consumer non-real estate
 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

Commercial/Agricultural non-real estate
 
1

 
24

 
—

 
—

 
—

 
24

 
24

 
—

Totals
 
7

 
$
264

 
$
581

 
$
—

 
$
21

 
$
866

 
$
866

 
$
—

A summary of loans by loan segment modified in a troubled debt restructuring as of September 30, 2019 and December 31, 2018, was as follows:
 
September 30, 2019
 
December 31, 2018
 
Number of
Modifications
 
Recorded
Investment
 
Number of
Modifications
 
Recorded
Investment
Troubled debt restructurings:
 
 
 
 
 
 
 
Residential real estate
42

 
$
3,438

 
41

 
$
4,103

Commercial/Agricultural real estate
27

 
5,917

 
19

 
2,787

Consumer non-real estate
8

 
74

 
13

 
99

Commercial/Agricultural non-real estate
16

 
2,366

 
10

 
1,733

Total troubled debt restructurings
93

 
$
11,795

 
83

 
$
8,722

    

35



The following table provides information related to restructured loans that were considered in default as of September 30, 2019 and December 31, 2018:    
 
September 30, 2019
 
December 31, 2018
 
Number of
Modifications
 
Recorded
Investment
 
Number of
Modifications
 
Recorded
Investment
Troubled debt restructurings:
 
 
 
 
 
 
 
Residential real estate
3

 
$
344

 
7

 
$
785

Commercial/Agricultural real estate
9

 
2,343

 
4

 
577

Consumer non-real estate
—

 
—

 
—

 
—

Commercial/Agricultural non-real estate
12

 
1,914

 
8

 
1,305

Total troubled debt restructurings
24

 
$
4,601

 
19

 
$
2,667

Included above are ten TDR loans that became in default during the three months ended September 30, 2019.
All acquired loans were initially recorded at fair value at the acquisition date. The outstanding balance and the carrying amount of acquired loans included in the consolidated balance sheet are as follows:
 
September 30, 2019
Accountable for under ASC 310-30 (Purchased Credit Impaired “PCI” loans)
 
Outstanding balance
$
41,433

Carrying amount
$
34,696

Accountable for under ASC 310-20 (non-PCI loans)

Outstanding balance
$
405,827

Carrying amount
$
402,392

Total acquired loans
 
Outstanding balance
$
447,260

Carrying amount
$
437,088

The following table provides changes in accretable yield for all acquired loans accounted for under ASC 310-20:
 
September 30, 2019
Balance at beginning of period, January 1, 2019
$
3,163

Acquisitions
814

Reduction due to unexpected early payoffs
—

Reclass from non-accretable difference
80

Disposals/transfers
—

Accretion
(622
)
Balance at end of period, September 30, 2019
$
3,435

The following table reflects amounts for all acquired credit impaired and acquired performing loans acquired from F&M at acquisition:
 
Acquired Credit Impaired Loans
Acquired Performing Loans
 
Total Acquired Loans
Contractually required cash flows at acquisition
$
18,355

$
111,919

 
$
130,274

Non-accretable difference (expected losses and foregone interest)
(2,898
)
—

 
(2,898
)
Cash flows expected to be collected at acquisition
15,457

111,919

 
127,376

Accretable yield
—

(814
)
 
(814
)
Fair value of acquired loans at acquisition
$
15,457

111,105

 
$
126,562

Our analysis of the acquired impaired and non-impaired F&M loan portfolio is ongoing and will be finalized at December31, 2019.

36



NOTE 5 – MORTGAGE SERVICING RIGHTS
Mortgage servicing rights--Mortgage loans serviced for others are not included in the accompanying consolidated balance sheets. The unpaid balances of these loans as of September 30, 2019 and December 31, 2018 were $522,482 and $518,476, respectively, and consisted of one to four family residential real estate loans. These loans are serviced primarily for the Federal Home Loan Mortgage Corporation, Federal Home Loan Bank and the Federal National Mortgage Association. The current period valuation allowance is included as amortization of mortgage servicing rights in non-interest expense on the consolidated statement of operations.
Custodial escrow balances maintained in connection with the foregoing loan servicing, and included in deposits were $6,353 and $3,182, at September 30, 2019 and December 31, 2018, respectively. Mortgage servicing rights activity for the nine month period ended September 30, 2019 and three months ended December 31, 2018 were as follows:
 
 
As of and for the Nine Months Ended
 
As of and for the Three Months Ended
 
 
September 30, 2019
 
December 31, 2018
Balance at beginning of period
 
$
4,486

 
$
1,840

MSR asset acquired
 
—

 
2,721

Increase in MSR assets resulting from transfers of financial assets
 
581

 
100

Amortization during the period
 
(612
)
 
(175
)
Valuation allowance at end of period
 
(210
)
 
—

Net book value at end of period
 
$
4,245

 
$
4,486

Fair value of MSR asset at end of period
 
$
4,299

 
$
5,214

Residential mortgage loans serviced for others
 
$
522,482

 
$
518,476

Net book value of MSR asset to loans serviced for others
 
0.81
%
 
0.87
%



37



NOTE 6 – LEASES
We have operating leases for our corporate offices (1), bank branch offices (6), other production offices (1) and certain office equipment. In May 2019, the bank acquired the previously leased Mankato, MN branch office and in August 2019, the bank acquired the previously leased Rice Lake, WI and Lake Hallie, WI branch offices, which are now included in Office properties and equipment on the consolidated balance sheet. Our leases have remaining lease terms of 1 to 8.75 years, some of which include options to extend the leases for up to 5 years. As of September 30, 2019, we have no additional lease commitments that have not yet commenced.
 
 
As of and for the nine months ended September 30, 2019
Supplemental cash flow information related to leases was as follows:
 
 
 
 
 
Cash paid for amounts included in the measurement of lease liabilities:
 
 
Operating cash flows from operating leases
 
$
665

Right-of-use assets obtained in exchange for lease obligations:
 
 
Operating leases
 
$
158

 
 
 
Supplemental balance sheet information related to leases was as follows:
 
 
Operating lease right-of-use assets
 
$
2,939

Operating lease liabilities
 
$
2,994

 
 
 
Weighted average remaining lease term in years; operating leases
 
6.95

Weighted average discount rate; operating leases
 
3.07
%
Cash obligations under lease contracts are as follows:
Fiscal years ending December 31,
 
2019
$
150

2020
566

2021
423

2022
378

2023
327

Thereafter
1,150

Total
$
2,994




38



NOTE 7 – FEDERAL HOME LOAN BANK ADVANCES AND OTHER BORROWINGS
A summary of Federal Home Loan Bank advances and other borrowings at September 30, 2019 and December 31, 2018 is as follows:
 
September 30, 2019
 
December 31, 2018
Advances from FHLB:
 
 
 
Fixed rates
$
71,530

 
$
43,000

Overnight borrowings
42,000

 
67,000

Total FHLB advances
113,530

 
110,000

Less: unamortized discount on acquired borrowings
$
(64
)
 
(187
)
Net FHLB advances
113,466

 
$
109,813

 
 
 
 
Other borrowings:
 
 
 
Senior notes:
 
 
 
Variable rate due in June 2031
$
29,856

 
10,000

Subordinated notes:
 
 
 
6.75% due August 2027, variable rate commencing August 2022
15,000

 
15,000

Less: unamortized debt issuance costs
(311
)
 
(353
)
Total other borrowings
$
44,545

 
$
24,647

 
 
 
 
Totals
$
158,011

 
$
134,460

Federal Home Loan Bank Advances and Irrevocable Standby Letters of Credit
The bank had an outstanding balance of $42,000 with a rate of 2.04% on the FHLB overnight borrowings at September 30, 2019. Short-term fixed rate advances of $8,500 mature on various dates through September 30, 2020. These five short-term FHLB advances were acquired as a result of the F&M acquisition, at a weighted average rate 2.21% and a weighted average maturity of 5 months.
The Bank acquired six additional FHLB notes totaling $9,530 as a result of the F&M acquisition that mature on various dates through 2024 with a weighted average rate of 2.02% and weighted average maturity of 30 months. The Bank acquired one $11,000 long-term FHLB note as a result of the United Bank acquisition, with a 2.45% rate and February 1, 2022 maturity date.
During the three months ended June 30, 2019, the Bank entered into a $10,000 FHLB note with a 10-year maturity, callable quarterly, at a fixed interest rate of 1.05%. During the three months ended September 30, 2019, the Bank entered into five additional FHLB notes totaling $32,500 with a 10-year maturity, callable quarterly, at a fixed weighted average interest rate of 1.04%. Each Federal Home Loan Bank advance is payable at the maturity date, with a prepayment penalty for fixed rate advances. The FHLB variable rate open line of credit and fixed rate advances are secured by $670,863 of real estate and commercial and industrial loans.
The Bank has an irrevocable Standby Letter of Credit Master Reimbursement Agreement with the Federal Home Loan Bank. This irrevocable standby letter of credit (“LOC”) is supported by loan collateral as an alternative to directly pledging investment securities on behalf of a municipal customer as collateral for their interest bearing deposit balances. These balances were $145,464 and $87,359 at September 30, 2019 and December 31, 2018, respectively.
At September 30, 2019, the Bank’s available and unused portion of this borrowing arrangement was approximately $153,949 compared to $178,620 as of December 31, 2018.
Maximum month-end amounts outstanding under this borrowing agreement were $150,839 and $109,813 during the nine months ended September 30, 2019 and the three months ended December 31, 2018, respectively.    
Senior Notes and Revolving Line of Credit    
On August 1, 2018, the Company entered into a credit agreement, consisting of a $10,000 term note and a $7,500 revolving note. On June 26, 2019, the Company entered into a credit agreement consisting of a $29,856 term note and a $5,000

39



revolving note. This term note included the refinancing of $10,074 in existing debt and matures on June 26, 2031. This revolving note became effective on August 1, 2019, at which time it replaced the Company’s existing revolving loan arrangement, and it matures on August 1, 2020. These credit agreements bear interest at variable interest rates based on the U.S. Prime Rate, and are payable in accordance with the terms of the credit agreement. The contractual interest rate for the term note ranged from 4.25% to 4.75% during the three and nine months ended September 30, 2019. At September 30, 2019, there were no borrowings outstanding on the revolving note.
Subordinated Notes
On August 10, 2017, the Company issued $15,000 of subordinated notes maturing on August 10, 2027. The subordinated notes are unsecured and are subordinate to the claims of other creditors of the Company. The subordinated notes mature in August 2027, with fixed interest rate for five years of 6.75%, and in August 2022, convert to a three-month LIBOR plus 4.90% variable rate, and will reset quarterly thereafter. Interest on the Notes will be payable quarterly in arrears on March 31, June 30, September 30 and December 31 of each year through the maturity date.
Debt Issuance Costs
The unamortized amount of debt issuance costs was $311 and $353 at September 30, 2019 and December 31, 2018, respectively. These debt issuance costs are included in other borrowings on the consolidated balance sheet.
Maturities of FHLB advances and other borrowings are as follows:
Fiscal years ending December 31,
 
2019
$
46,000

2020
5,500

2021
4,000

2022
14,936

2023
—

Thereafter
87,575

 
$
158,011


NOTE 8—CAPITAL MATTERS
Banks and bank holding companies are subject to regulatory capital requirements administered by federal banking agencies. Capital adequacy guidelines and, additionally for banks, prompt corrective action regulations involve quantitative measures of assets, liabilities and certain off-balance-sheet items calculated under regulatory accounting practices. Capital amounts and classifications are also subject to qualitative judgments by regulators. Failure to meet capital requirements can initiate regulatory action.
Prompt corrective action regulations provide five classifications: well capitalized, adequately capitalized, undercapitalized, significantly undercapitalized, and critically undercapitalized. Although these terms are not used to represent overall financial condition, if adequately capitalized, regulatory approval is required to accept brokered deposits. If undercapitalized, capital distributions are limited, as is asset growth and expansion, and capital restoration plans are required. At September 30, 2019, the Bank and Company were categorized as “Well Capitalized”, under Prompt Corrective Action Provisions.

40



The Bank’s Tier 1 (leverage) and risk-based capital ratios at September 30, 2019 and December 31, 2018, respectively, are presented below:
 
 
Actual
 
For Capital Adequacy
Purposes
 
To Be Well Capitalized
Under Prompt Corrective
Action  Provisions
 
 
Amount
 
Ratio
 
Amount
 
 
 
Ratio
 
Amount
 
 
 
Ratio
As of September 30, 2019
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total capital (to risk weighted assets)
 
$
157,069,000

 
13.5
%
 
$
92,966,000

 
> =
 
8.0
%
 
$
116,208,000

 
> =
 
10.0
%
Tier 1 capital (to risk weighted assets)
 
147,892,000

 
12.7
%
 
69,725,000

 
> =
 
6.0
%
 
92,966,000

 
> =
 
8.0
%
Common equity tier 1 capital (to risk weighted assets)
 
147,892,000

 
12.7
%
 
52,293,000

 
> =
 
4.5
%
 
75,535,000

 
> =
 
6.5
%
Tier 1 leverage ratio (to adjusted total assets)
 
147,892,000

 
10.2
%
 
57,777,000

 
> =
 
4.0
%
 
72,221,000

 
> =
 
5.0
%
As of December 31, 2018
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total capital (to risk weighted assets)
 
$
126,440,000

 
12.7
%
 
$
79,651,000

 
> =
 
8.0
%
 
$
99,563,000

 
> =
 
10.0
%
Tier 1 capital (to risk weighted assets)
 
118,836,000

 
11.9
%
 
59,738,000

 
> =
 
6.0
%
 
79,651,000

 
> =
 
8.0
%
Common equity tier 1 capital (to risk weighted assets)
 
118,836,000

 
11.9
%
 
44,804,000

 
> =
 
4.5
%
 
64,716,000

 
> =
 
6.5
%
Tier 1 leverage ratio (to adjusted total assets)
 
118,836,000

 
9.7
%
 
48,976,000

 
> =
 
4.0
%
 
61,220,000

 
> =
 
5.0
%
The Company’s Tier 1 (leverage) and risk-based capital ratios at September 30, 2019 and December 31, 2018, respectively, are presented below:
 
 
Actual
 
For Capital Adequacy
Purposes
 
To Be Well Capitalized
Under Prompt Corrective
Action  Provisions
 
 
Amount
 
Ratio
 
Amount
 
 
 
Ratio
 
Amount
 
 
 
Ratio
As of September 30, 2019
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total capital (to risk weighted assets)
 
$
132,094,000

 
11.4
%
 
$
92,966,000

 
> =
 
8.0
%
 
$
116,208,000

 
> =
 
10.0
%
Tier 1 capital (to risk weighted assets)
 
107,917,000

 
9.3
%
 
69,725,000

 
> =
 
6.0
%
 
92,966,000

 
> =
 
8.0
%
Common equity tier 1 capital (to risk weighted assets)
 
107,917,000

 
9.3
%
 
52,293,000

 
> =
 
4.5
%
 
75,535,000

 
> =
 
6.5
%
Tier 1 leverage ratio (to adjusted total assets)
 
107,917,000

 
7.5
%
 
57,777,000

 
> =
 
4.0
%
 
72,221,000

 
> =
 
5.0
%
As of December 31, 2018
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total capital (to risk weighted assets)
 
$
123,657,000

 
12.4
%
 
$
79,651,000

 
> =
 
8.0
%
 
$
99,563,000

 
> =
 
10.0
%
Tier 1 capital (to risk weighted assets)
 
101,053,000

 
10.2
%
 
59,738,000

 
> =
 
6.0
%
 
79,651,000

 
> =
 
8.0
%
Common equity tier 1 capital (to risk weighted assets)
 
101,053,000

 
10.2
%
 
44,804,000

 
> =
 
4.5
%
 
64,716,000

 
> =
 
6.5
%
Tier 1 leverage ratio (to adjusted total assets)
 
101,053,000

 
8.3
%
 
48,976,000

 
> =
 
4.0
%
 
61,220,000

 
> =
 
5.0
%



41



NOTE 9 – STOCK-BASED COMPENSATION
In February 2005, the Company’s stockholders approved the Company’s 2004 Recognition and Retention Plan. This plan provides for the grant of up to 113,910 shares of the Company’s common stock to eligible participants under this plan. As of September 30, 2019, 113,910 restricted shares under this plan were granted. In February 2005, the Company’s stockholders also approved the Company’s 2004 Stock Option and Incentive Plan. This plan provides for the grant of nonqualified and incentive stock options and stock appreciation rights to eligible participants under the plan. The plan provides for the grant of awards for up to 284,778 shares of the Company’s common stock. At September 30, 2019, 284,778 options had been granted under this plan to eligible participants. This plan was terminated on January 18, 2018.
In February 2008, the Company’s stockholders approved the Company’s 2008 Equity Incentive Plan. The aggregate number of shares of common stock reserved and available for issuance under the 2008 Equity Incentive Plan is 597,605 shares. Under this Plan, the Compensation Committee may grant stock options and stock appreciation rights that, upon exercise, result in the issuance of 426,860 shares of the Company’s common stock. The Committee may also grant shares of restricted stock and restricted stock units for an aggregate of 170,745 shares of Company common stock under this plan. As of September 30, 2019, 89,183 restricted shares under this plan were granted. As of September 30, 2019, 181,000 options had been granted to eligible participants. As of January 18, 2018, no new awards will be granted under the 2008 Equity Incentive Plan.
Restricted shares granted to date under the 2004 Recognition and Retention Plan and the 2008 Equity Incentive Plan were awarded at no cost to the employee and vest pro rata over a two to five-year period from the grant date, as determined by the Board of Directors at issuance. Options granted to date under these plans vest pro rata over a five-year period from the grant date. Unexercised, nonqualified stock options expire within 15 years of the grant date and unexercised incentive stock options expire within 10 years of the grant date.
On March 27, 2018, the stockholders of Citizens Community Bancorp, Inc. approved the 2018 Equity Incentive Plan. The aggregate number of shares of common stock reserved and available for issuance under the 2018 Equity Incentive Plan is 350,000 shares. As of September 30, 2019, 54,068 restricted shares had been granted under this plan. As of September 30, 2019, no stock options had been granted under this plan.
Compensation expense related to restricted stock awards from these plans was $127 and $370 for the three and nine months ended September 30, 2019, compared to $94 and $255 for the three and nine months ended September 30, 2018.
Restricted Common Stock Award
 
 
September 30, 2019
 
December 31, 2018
 
 
Number of Shares
 
Weighted
Average
Grant Price
 
Number of Shares
 
Weighted
Average
Grant Price
Restricted Shares
 
 
 
 
 
 
 
 
Unvested and outstanding at beginning of year
 
75,407

 
$
13.24

 
52,172

 
$
13.29

Granted
 
12,847

 
11.50

 
27,514

 
13.15

Vested
 
(14,979
)
 
12.69

 
(4,279
)
 
13.30

Forfeited
 
(8,916
)
 
13.41

 
—

 
—

Unvested and outstanding at end of year
 
64,359

 
$
12.85

 
75,407

 
$
13.24

The Company accounts for stock-based employee compensation related to the Company’s 2004 Stock Option and Incentive Plan and the 2008 Equity Incentive Plan using the fair-value-based method. Accordingly, management records compensation expense based on the value of the award as measured on the grant date and then the Company recognizes that cost over the vesting period for the award. The compensation cost recognized for stock-based employee compensation related to these plans for the three and nine month periods ended September 30, 2019 was $5 and $14. The compensation cost recognized for stock-based employee compensation related to these plans for the three and nine month periods ended September 30, 2018, was $6 and $6.

42



Common Stock Option Awards

 
 
Option Shares
 
Weighted
Average
Exercise
Price
 
Weighted
Average
Remaining
Contractual
Term
 
Aggregate
Intrinsic
Value
September 30, 2019
 
 
 
 
 
 
 
 
Outstanding at beginning of year
 
108,930

 
$
10.15

 

 

Granted
 
—

 
—

 

 

Exercised
 
(28,430
)
 
7.12

 

 

Forfeited or expired
 
(1,000
)
 
13.76

 

 

Outstanding at end of year
 
79,500

 
$
11.19

 
6.81
 


Exercisable at end of year
 
43,100

 
$
10.62

 
6.5
 
$
19

Fully vested and expected to vest
 
79,500

 
$
11.19

 
6.81
 
$
(9
)
December 31, 2018
 
 
 
 
 
 
 
 
Outstanding at beginning of year
 
121,670

 
$
9.82

 
 
 
 
Granted
 
—

 
—

 
 
 
 
Exercised
 
(12,740
)
 
7.04

 
 
 
 
Forfeited or expired
 
—

 
—

 
 
 
 
Outstanding at end of year
 
108,930

 
$
10.15

 
5.82
 
 
Exercisable at end of year
 
56,230

 
$
8.83

 
4.01
 
$
116

Fully vested and expected to vest
 
108,930

 
$
10.15

 
5.82
 
$
82

Information related to the 2004 Stock Option and Incentive Plan and 2008 Equity Incentive Plan for the respective periods follows:
 
 
Nine months ended September 30, 2019
 
Three months ended December 31, 2018
Intrinsic value of options exercised
 
$
130

 
$
81

Cash received from options exercised
 
$
203

 
$
90

Tax benefit realized from options exercised
 
$
—

 
$
—

 
NOTE 10 – FAIR VALUE ACCOUNTING
ASC Topic 820-10, “Fair Value Measurements and Disclosures” establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The statement describes three levels of inputs that may be used to measure fair value:
Level 1- Quoted prices (unadjusted) for identical assets or liabilities in active markets that the Company has the ability to access as of the measurement date.
Level 2- Significant other observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data.
Level 3- Significant unobservable inputs that reflect the Company’s assumptions about the factors that market participants would use in pricing an asset or liability.
A financial instrument’s categorization within the valuation hierarchy is based upon the lowest level of input within the valuation hierarchy that is significant to the fair value measurement.
The fair value of securities available for sale is determined by obtaining market price quotes from independent third parties wherever such quotes are available (Level 1 inputs); or matrix pricing, which is a mathematical technique widely used in the industry to value debt securities without relying exclusively on quoted prices for the specific securities but rather by relying on the securities’ relationship to other benchmark quoted securities (Level 2 inputs). Where such quotes are not

43



available, the Company utilizes independent third party valuation analysis to support the Company’s estimates and judgments in determining fair value (Level 3 inputs).
Assets Measured on a Recurring Basis
The following tables present the financial instruments measured at fair value on a recurring basis as of September 30, 2019 and December 31, 2018:
 
Fair
Value
 
Quoted Prices in
Active Markets
for Identical
Instruments
(Level 1)
 
Significant
Other
Observable
Inputs
(Level 2)
 
Significant
Unobservable
Inputs
(Level 3)
September 30, 2019
 
 
 
 
 
 
 
Investment securities:
 
 
 
 
 
 
 
U.S. government agency obligations
$
53,378

 
$
—

 
$
53,378

 
$
—

Obligations of states and political subdivisions
27,937

 
—

 
27,937

 
—

Mortgage-backed securities
55,658

 
—

 
55,658

 
—

Agency Securities
—

 
—

 
—

 
—

Corporate debt securities
18,834

 
—

 
18,834

 
—

Corporate asset based securities
27,149

 
—

 
27,149

 
—

Total
$
182,956

 
$
—

 
$
182,956

 
$
—

December 31, 2018
 
 
 
 
 
 
 
Investment securities:
 
 
 
 
 
 
 
U.S. government agency obligations
$
45,298

 
$
—

 
$
45,298

 
$
—

Obligations of states and political subdivisions
34,728

 
—

 
34,728

 
—

Mortgage-backed securities
41,350

 
—

 
41,350

 
—

Agency securities
148

 
—

 
148

 
—

Corporate debt securities
6,305

 
—

 
6,305

 
—

Total
$
146,725

 
$
—

 
$
146,725

 
$
—


Assets Measured on Nonrecurring Basis
The following tables present the financial instruments measured at fair value on a nonrecurring basis as of September 30, 2019 and December 31, 2018:
 
Fair
Value
 
Quoted Prices in
Active Markets
for Identical
Instruments
(Level 1)
 
Significant
Other
Observable
Inputs
(Level 2)
 
Significant
Unobservable
Inputs
(Level 3)
September 30, 2019
 
 
 
 
 
 
 
Foreclosed and repossessed assets, net
$
1,373

 
$
—

 
$
—

 
$
1,373

Impaired loans with allocated allowances
3,835

 
—

 
—

 
3,835

Mortgage servicing rights
4,299

 
—

 
—

 
4,299

Total
$
9,507

 
$
—

 
$
—

 
$
9,507

December 31, 2018
 
 
 
 
 
 
 
Foreclosed and repossessed assets, net
$
2,570

 
$
—

 
$
—

 
$
2,570

Impaired loans with allocated allowances
2,485

 
—

 
—

 
2,485

Mortgage servicing rights
5,214

 
—

 
—

 
5,214

Total
$
10,269

 
$
—

 
$
—

 
$
10,269

 
 
 
 
 
 
 
 

44



The fair value of impaired loans referenced above was determined by obtaining independent third party appraisals and/or internally developed collateral valuations to support the Company’s estimates and judgments in determining the fair value of the underlying collateral supporting impaired loans.
The fair value of foreclosed and repossessed assets was determined by obtaining market price valuations from independent third parties wherever such quotes were available for other collateral owned. The Company utilized independent third party appraisals to support the Company’s estimates and judgments in determining fair value for other real estate owned.    
The following table represents additional quantitative information about assets measured at fair value on a
recurring and nonrecurring basis and for which we have utilized Level 3 inputs to determine their fair value at
September 30, 2019.
 
Fair
Value
 
Valuation Techniques (1)
 
Significant Unobservable Inputs (2)
 
Range
September 30, 2019
 
 
 
 
 
 
 
Foreclosed and repossessed assets, net
$
1,373

 
Appraisal value
 
Estimated costs to sell
 
10 - 15%
Impaired loans with allocated allowances
$
3,835

 
Appraisal value
 
Estimated costs to sell
 
10 - 15%
Mortgage servicing rights
$
4,299

 
Discounted cash flows
 
Discounted rates
 
9.5% - 12.5%
December 31, 2018
 
 
 
 
 
 
 
Foreclosed and repossessed assets, net
$
2,570

 
Appraisal value
 
Estimated costs to sell
 
10 - 15%
Impaired loans with allocated allowances
$
2,485

 
Appraisal value
 
Estimated costs to sell
 
10 - 15%
Mortgage servicing rights
$
5,214

 
Discounted cash flows
 
Discounted rates
 
9.5% - 12.5%
(1)     Fair value is generally determined through independent third-party appraisals of the underlying
collateral, which generally includes various level 3 inputs which are not observable.
(2)     The fair value basis of impaired loans and real estate owned may be adjusted to reflect management
estimates of disposal costs including, but not limited to, real estate brokerage commissions, legal fees,
and delinquent property taxes.
Fair Values of Financial Instruments
ASC 825-10 and ASC 270-10, Interim Disclosures about Fair Value Financial Instruments, require disclosures about fair value financial instruments and significant assumptions used to estimate fair value. The estimated fair values of financial instruments not previously disclosed are determined as follows:
Cash and Cash Equivalents
Due to their short-term nature, the carrying amounts of cash and cash equivalents are considered to be a reasonable estimate of fair value and represents a level 1 measurement.
Other Interest-Bearing Deposits
Fair value of interest bearing deposits is estimated using a discounted cash flow analysis based on current interest rates being offered by instruments with similar terms and represents a level 2 measurement.
Other Investments
The carrying amount of Federal Reserve Bank, Bankers Bank, Federal Agricultural Mortgage Corporation, and FHLB stock is a reasonably accepted fair value estimate given their restricted nature. Fair value is the redeemable (carrying) value based on the redemption provisions of the instruments which is considered a level 2 measurement.


45



Loans Receivable, net
Fair value is estimated for portfolios of loans with similar financial characteristics. Loans are segregated by type such as real estate, C&I and consumer. The fair value of loans is calculated by discounting scheduled cash flows through the estimated maturity date using market discount rates reflecting the credit and interest rate risk inherent in the loan. The estimate of maturity is based on the Bank’s repayment schedules for each loan classification. The fair value of variable rate loans approximates carrying value. The net carrying value of the loans acquired through the CBN, WFC, United Bank and F&M acquisitions approximates the fair value of the loans at September 30, 2019. The fair value of loans is considered to be a level 3 measurement.
Loans Held for Sale
Fair values are based on quoted market prices of similar loans sold on the secondary market.
Mortgage Servicing Rights
Fair values are estimated using discounted cash flows based on current market rates and conditions.
Impaired Loans (carried at fair value)    
Impaired loans are loans in which the Company has measured impairment, generally based on the fair value of the loan’s collateral. Fair value is generally determined based upon independent third-party appraisals of the properties, or discounted cash flows based upon the expected proceeds. These assets are included as Level 3 fair values, based upon the lowest level of input that is significant to the fair value measurements.

Foreclosed Assets (carried at fair value)
Foreclosed assets are the only non-financial assets valued on a non-recurring basis which are held by the Company at fair value, less cost to sell. At foreclosure or repossession, if the fair value, less estimated costs to sell, of the collateral acquired (real estate, vehicles, equipment) is less than the Company’s recorded investment in the related loan, a write-down is recognized through a charge to the allowance for loan losses. Additionally, valuations are periodically performed by management and any subsequent reduction in value is recognized by a charge to income. The fair value of foreclosed assets held-for-sale is estimated using Level 3 inputs based on observable market data.
Accrued Interest Receivable and Payable
Due to their short-term nature, the carrying amounts of accrued interest receivable and payable are considered to be a reasonable estimate of fair value and represents a level 1 measurement.
Deposits
The fair value of deposits with no stated maturity, such as demand deposits, savings accounts, and money market accounts, is the amount payable on demand at the reporting date and represents a level 1 measurement. The fair value of fixed rate certificate accounts is calculated by using discounted cash flows applying interest rates currently being offered on similar certificates and represents a level 3 measurement. The net carrying value of acquired fixed rate certificate accounts approximates the fair value of the certificates at September 30, 2019 and represents a level 3 measurement.
Federal Home Loan Bank (“FHLB”) Advances
The fair value of long-term borrowed funds is estimated using discounted cash flows based on the Bank’s current incremental borrowing rates for similar borrowing arrangements. The carrying value of short-term borrowed funds approximates their fair value and represents a level 2 measurement.
Off-Balance Sheet Instruments
The fair value of off-balance sheet commitments would be estimated using the fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements, the current interest rates, and the present creditworthiness of the customers. Since this amount is immaterial to the Company’s consolidated financial statements, no amount for fair value is presented. The table below represents what we would receive to sell an asset or what we would have to pay to transfer a liability in an orderly transaction between market participants at the measurement date. The carrying amount and estimated fair value of the Company’s financial instruments as of the dates indicated below were as follows:

46



 
 
 
September 30, 2019
 
December 31, 2018
 
Valuation Method Used
 
Carrying
Amount
 
Estimated
Fair
Value
 
Carrying
Amount
 
Estimated
Fair
Value
Financial assets:
 
 
 
 
 
 
 
 
 
Cash and cash equivalents
(Level I)
 
$
52,276

 
$
52,276

 
$
45,778

 
$
45,778

Other interest-bearing deposits
(Level II)
 
5,245

 
5,290

 
7,460

 
6,704

Securities available for sale “AFS”
See above
 
182,956

 
182,956

 
146,725

 
146,725

Securities held to maturity “HTM”
(Level II)
 
3,665

 
3,770

 
4,850

 
4,872

Other investments
(Level II)
 
12,863

 
12,863

 
11,261

 
11,261

Loans receivable, net
(Level III)
 
1,115,201

 
1,112,305

 
984,952

 
988,072

Loans held for sale
(Level II)
 
3,262

 
3,262

 
1,927

 
1,927

Mortgage servicing rights
(Level III)
 
4,245

 
4,299

 
4,486

 
5,214

Accrued interest receivable
(Level 1)
 
4,993

 
4,993

 
4,307

 
4,307

Financial liabilities:
 
 
 
 
 
 
 
 
 
Deposits
(Level III)
 
$
1,161,750

 
$
1,158,415

 
$
1,007,512

 
$
1,005,488

FHLB advances
(Level II)
 
113,466

 
114,226

 
109,813

 
109,665

Other borrowings
(Level I)
 
44,545

 
44,545

 
24,647

 
24,647

Other liabilities
(Level I)
 
7,112

 
7,112

 
7,359

 
7,359

Accrued interest payable
(Level II)
 
462

 
462

 
406

 
406



47



NOTE 11 – OTHER COMPREHENSIVE INCOME (LOSS)
The following table shows the tax effects allocated to each component of other comprehensive income for the nine months ended September 30, 2019 and 2018:
 
2019
 
2018
 
Before-Tax
Amount
 
Tax
Expense
 
Net-of-Tax
Amount
 
Before-Tax
Amount
 
Tax
Expense
 
Net-of-Tax
Amount
Unrealized gains (losses) on securities:
 
 
 
 
 
 
 
 
 
 
 
Net unrealized gains (losses) arising during the period
$
2,826

 
$
(777
)
 
$
2,049

 
$
(2,479
)
 
$
726

 
$
(1,753
)
Reclassification adjustment for gains (losses) included in net income
151

 
(42
)
 
109

 
(17
)
 
4

 
(13
)
Reclassification of certain deferred tax effects (1)
—

 
—

 
—

 
(137
)
 
—

 
(137
)
Adoption of ASU 2016-01; Equity securities
(62
)
 
17

 
(45
)
 
—

 
—

 
—

Other comprehensive income (loss)
$
2,915

 
$
(802
)
 
$
2,113

 
$
(2,633
)
 
$
730

 
$
(1,903
)
(1) Amounts reclassified to retained earnings due to early adoption of ASU 2018-02. For further information, refer to Note 1.
The changes in the accumulated balances for each component of other comprehensive income (loss) for the three months ended December 31, 2018 and the nine months ended September 30, 2019 were as follows:
 
Unrealized
Gains (Losses)
on
Securities
 
Other Accumulated
Comprehensive
Income (Loss)
Ending Balance, October 1, 2018
$
(2,706
)
 
$
(2,706
)
Current year-to-date other comprehensive loss, net of tax
865

 
865

Ending balance, three months ended December 31, 2018
$
(1,841
)
 
$
(1,841
)
Current year-to-date other comprehensive loss, net of tax
2,113

 
2,113

Ending balance, September 30, 2019
$
272

 
$
272

Reclassifications out of accumulated other comprehensive income (loss) for the nine months ended September 30, 2019 were as follows:
Details about Accumulated Other Comprehensive Income Components
 
Amounts Reclassified from Accumulated Other Comprehensive Income
(1)
Affected Line Item on the Statement of Operations
Unrealized gains and losses
 
 
 
 
Gain on equity securities
 
$
151

 
Gain on investment securities
Tax Effect
 
(42
)
 
Provision for income taxes
Total reclassifications for the period
 
$
109

 
Net income attributable to common shareholders
(1)    Amounts in parentheses indicate decreases to income/loss.

48



Reclassifications out of accumulated other comprehensive income for the nine months ended September 30, 2018 were as follows:
Details about Accumulated Other Comprehensive Income Components
 
Amounts Reclassified from Accumulated Other Comprehensive Income
(1)
Affected Line Item on the Statement of Operations
Unrealized gains and losses
 
 
 
 
Sale of securities
 
$
(17
)
 
Net loss on investment securities
Tax Effect
 
4

 
Benefit for income taxes
Total reclassifications for the period
 
$
(13
)
 
Net loss attributable to common shareholders
(1)    Amounts in parentheses indicate decreases to profit/loss.
NOTE 12 – SUBSEQUENT EVENT
The Tax Cuts and Jobs Act of 2017 (“TCJA”), modified the tax-free treatment of certain acquired life insurance policies. Under the TCJA, death benefits on life insurance policies acquired through a “reportable policy sale”, are no longer tax-free. At the time TCJA was enacted, it was uncertain whether insurance policies acquired in conjunction with a business combination were intended to be considered “reportable policy sales”.
After the TCJA was enacted, the Company acquired certain bank-owned life insurance (“BOLI”) policies in conjunction with the United Bank and F&M acquisitions, to which the TCJA changes applied. In each instance, the Company established a deferred tax liability for the anticipated taxable portion of the affected BOLI policies, based on the applicable provisions of the TCJA.
On October 25, 2019, the Department of the Treasury released revised guidance which clarified that ordinary course of business transactions, including mergers and acquisitions involving entities owning life insurance contracts, were not intended to meet the definition of a “reportable policy sale”. As such, the BOLI policies acquired from United Bank and F&M retained their tax-free status.
This regulation change will have an impact on the Company’s consolidated financial position and results of operations for both the three and twelve-month periods ended December 31, 2019 as follows. The elimination of the deferred tax liability associated with certain acquired BOLI contracts of F&M will result in a reduction of deferred tax liability, and a corresponding reduction to initially recorded goodwill of $350, respectively. Eliminating the deferred tax liability of $300 related to United Bank acquired BOLI contracts will result in a corresponding discrete tax credit reduction in the Company’s statement of operations.


49




ITEM 2.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
FORWARD-LOOKING STATEMENTS
Certain matters discussed in this report contain “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995 and the Company intends that these forward-looking statements be covered by the safe harbor for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995. These statements may be identified by the use of forward-looking words or phrases such as “anticipate,” “believe,” “could,” “expect,” “estimates”, “intend,” “may,” “preliminary,” “planned,” “potential,” “should,” “will,” “would,” or the negative of those terms or other words of similar meaning.  Similarly, statements that describe the Company’s future plans, objectives or goals are also forward-looking statements. Such forward-looking statements are inherently subject to many uncertainties in the Company’s operations and business environment.
Factors that could affect actual results or outcomes include the matters described under the caption “Risk Factors” in Item 1A of our transition report on Form 10-K for the transition period from October 1, 2018 to December 31, 2018, filed with the SEC on March 8, 2019 and the following:

•
conditions in the financial markets and economic conditions generally;
•
the possibility of a deterioration in the residential real estate markets;
•
interest rate risk;
•
lending risk;
•
the sufficiency of loan allowances;
•
changes in the fair value or ratings downgrades of our securities;
•
competitive pressures among depository and other financial institutions;
•
our ability to realize the benefits of net deferred tax assets;
•
our ability to maintain or increase our market share;
•
acts of terrorism and political or military actions by the United States or other governments;
•
legislative or regulatory changes or actions, or significant litigation, adversely affecting the Company or Bank;
•
increases in FDIC insurance premiums or special assessments by the FDIC;
•
disintermediation risk;
•
our inability to obtain needed liquidity;
•
risks related to the integration of F&M into the Company’s operations;
•
the risk that the combined company may be unable to retain the Company and/or F&M personnel successfully after the F&M Merger is completed;
•
our ability to successfully execute our acquisition growth strategy;
•
risks posed by acquisitions and other expansion opportunities, including difficulties and delays in integrating the acquired business operations or fully realizing the cost savings and other benefits;
•
our ability to raise capital needed to fund growth or meet regulatory requirements;
•
the possibility that our internal controls and procedures could fail or be circumvented;
•
our ability to attract and retain key personnel;
•
our ability to keep pace with technological change;
•
cybersecurity risks;
•
changes in federal or state tax laws;
•
changes in accounting principles, policies or guidelines and their impact on financial performance;
•
restrictions on our ability to pay dividends; and
•
the potential volatility of our stock price.

Stockholders, potential investors and other readers are urged to consider these factors carefully in evaluating the forward-looking statements and are cautioned not to place undue reliance on such forward-looking statements. The forward-looking statements made herein are only made as of the date of this filing and the Company undertakes no obligation to publicly update such forward-looking statements to reflect subsequent events or circumstances occurring after the date of this report.

 

50



GENERAL
The following discussion sets forth management’s discussion and analysis of our consolidated financial condition as of September 30, 2019, and our consolidated results of operations for the three and nine months ended September 30, 2019, compared to the same period in the prior fiscal year for the three and nine months ended September 30, 2018. This discussion should be read in conjunction with the interim consolidated financial statements and the condensed notes thereto included with this report and with Management’s Discussion and Analysis of Financial Condition and Results of Operations and the financial statements and notes related thereto included in the Company’s transition report on Form 10-K for the transition period from October 1, 2018 to December 31, 2018 filed with the Securities and Exchange Commission on March 8, 2019. Unless otherwise stated, all monetary amounts in this Management’s Discussion and Analysis of Financial Condition and Results of Operations, other than share, per share and capital ratio amounts, are stated in thousands.

CRITICAL ACCOUNTING ESTIMATES
Our consolidated financial statements are prepared in accordance with GAAP. In connection with the preparation of our financial statements, we are required to make assumptions and estimates about future events, and apply judgments that affect the reported amount of assets, liabilities, revenue, expenses and their related disclosures. We base our assumptions, estimates and judgments on historical experience, current trends and other factors that our management believes to be relevant at the time our consolidated financial statements are prepared. Some of these estimates are more critical than others. In addition to the policies included in Note 1, “Nature of Business and Summary of Significant Accounting Policies,” to the Consolidated Financial Statements included as an exhibit in our transition report on Form 10-K for the transition period from October 1, 2018 to December 31, 2018, our critical accounting estimates are as follows:
Allowance for Loan Losses.
We maintain an allowance for loan losses to absorb probable and inherent losses in our loan portfolio. The allowance is based on ongoing, quarterly assessments of the estimated probable incurred losses in our loan portfolio. In evaluating the level of the allowance for loan loss, we consider the types of loans and the amount of loans in our loan portfolio, historical loss experience, adverse situations that may affect the borrower’s ability to repay, the estimated value of any underlying collateral, prevailing economic conditions and other relevant factors determined by management. We follow all applicable regulatory guidance, including the “Interagency Policy Statement on the Allowance for Loan and Lease Losses,” issued by the Federal Financial Institutions Examination Council (FFIEC). We believe that the Bank’s Allowance for Loan Losses Policy conforms to all applicable regulatory requirements. However, based on periodic examinations by regulators, the amount of the allowance for loan losses recorded during a particular period may be adjusted.
Our determination of the allowance for loan losses is based on (1) specific allowances for specifically identified and evaluated impaired loans and their corresponding estimated loss based on likelihood of default, payment history, and net realizable value of underlying collateral. Specific allocations for collateral dependent loans are based on fair value of the underlying collateral relative to the unpaid principal balance of individually impaired loans. For loans that are not collateral dependent, the specific allocation is based on the present value of expected future cash flows discounted at the loan’s original effective interest rate through the repayment period; and (2) a general allowance on loans not specifically identified in (1) above, based on historical loss ratios, which are adjusted for qualitative and general economic factors. We continue to refine our allowance for loan losses methodology, with an increased emphasis on historical performance adjusted for applicable economic and qualitative factors.
Assessing the allowance for loan losses is inherently subjective as it requires making material estimates, including the amount and timing of future cash flows expected to be received on impaired loans, any of which estimates may be susceptible to significant change. In our opinion, the allowance, when taken as a whole, reflects estimated probable loan losses in our loan portfolio.
Goodwill.
We account for goodwill and other intangible assets in accordance with ASC Topic 350, “Intangibles - Goodwill and Other.” The Company records the excess of the cost of acquired entities over the fair value of identifiable tangible and intangible assets acquired, less liabilities assumed, as goodwill. The Company amortizes acquired intangible assets with definite useful economic lives over their useful economic lives utilizing the straight-line method. On a periodic basis, management assesses whether events or changes in circumstances indicate that the carrying amounts of the intangible assets may be impaired. The Company does not amortize goodwill and any acquired intangible asset with an indefinite useful economic life, but reviews them for impairment at a reporting unit level on an annual basis, or when events or changes in circumstances indicate that the carrying amounts may be

51



impaired. A reporting unit is defined as any distinct, separately identifiable component of the Company’s one operating segment for which complete, discrete financial information is available and reviewed regularly by the segment’s management. The Company has one reporting unit as of September 30, 2019 which is related to its banking activities. The Company performed the required goodwill impairment test and determined that goodwill was not impaired as of December 31, 2018.
Fair Value Measurements and Valuation Methodologies.
We apply various valuation methodologies to assets and liabilities which often involve a significant degree of judgment, particularly when liquid markets do not exist for the particular items being valued. Quoted market prices are referred to when estimating fair values for certain assets, such as most investment securities. However, for those items for which an observable liquid market does not exist, management utilizes significant estimates and assumptions to value such items. Examples of these items include loans, deposits, borrowings, goodwill, core deposit intangible assets, other assets and liabilities obtained or assumed in business combinations, and certain other financial instruments. These valuations require the use of various assumptions, including, among others, discount rates, rates of return on assets, repayment rates, cash flows, default rates, and liquidation values. The use of different assumptions could produce significantly different results, which could have material positive or negative effects on the Company’s results of operations, financial condition or disclosures of fair value information.
In addition to valuation, the Company must assess whether there are any declines in value below the carrying value of assets that should be considered other than temporary or otherwise require an adjustment in carrying value and recognition of a loss in the consolidated statement of income. Examples include but are not limited to; loans, investment securities, goodwill, core deposit intangible assets and deferred tax assets, among others. Specific assumptions, estimates and judgments utilized by management are discussed in detail herein in management’s discussion and analysis of financial condition and results of operations and in notes 1, 2, 3, 4, 5 and 9 of Condensed Notes to Consolidated Financial Statements.
Income Taxes.
Amounts provided for income tax expenses are based on income reported for financial statement purposes and do not necessarily represent amounts currently payable under tax laws. Deferred income tax assets and liabilities, which arise principally from temporary differences between the amounts reported in the financial statements and the tax basis of certain assets and liabilities, are included in the amounts provided for income taxes. In assessing the realizability of deferred tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income and tax planning strategies which will create taxable income during the periods in which those temporary differences become deductible. Management considers the scheduled reversal of deferred tax liabilities, projected future taxable income, and if necessary, tax planning strategies in making this assessment.
The assessment of tax assets and liabilities involves the use of estimates, assumptions, interpretations, and judgments concerning certain accounting pronouncements and application of specific provisions of federal and state tax codes. There can be no assurance that future events, such as court decisions or positions of federal and state taxing authorities, will not differ from management’s current assessment, the impact of which could be material to our consolidated results of our operations and reported earnings. We believe that the deferred tax assets and liabilities are adequate and properly recorded in the accompanying consolidated financial statements. As of September 30, 2019, management does not believe a valuation allowance related to the realizability of its deferred tax assets is necessary.
 

52



STATEMENT OF OPERATIONS ANALYSIS
The following table sets forth our results of operations and related summary information for the three and nine month periods ended September 30, 2019 and 2018, respectively:
 
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
 
2019
 
2018
 
2019
 
2018
Net income as reported
 
$
1,234

 
$
1,099

 
$
6,294

 
$
2,943

EPS - basic, as reported
 
$
0.11

 
$
0.37

 
$
0.57

 
$
0.49

EPS - diluted, as reported
 
$
0.11

 
$
0.37

 
$
0.57

 
$
0.38

Cash dividends paid
 
$
—

 
$
—

 
$
0.20

 
$
0.20

Return on average assets (annualized)
 
0.34
%
 
0.44
%
 
0.61
%
 
0.46
%
Return on average equity (annualized)
 
3.35
%
 
3.21
%
 
5.94
%
 
4.00
%
The Company had earnings of $1.2 million, or $0.11 per diluted share, for the quarter ended September 30, 2019, compared to $4.1 million, or $0.37 per diluted share, for the previous quarter ended June 30, 2019. Both the current quarter and previous quarter, had large notable items which impacted the quarter and are discussed below. In the September 2019 quarter, the Company benefited from (1) the full quarter impact of the F. & M. Bancorp. of Tomah, Inc. (“F&M”) acquisition, net of merger charge considerations, (2) strong loan fee income driven by commercial customer activity, (3) an annual incentive related to increased debit card activity and (4) reduced FDIC insurance assessments. These items were partially offset by (1) increased loan servicing amortization resulting from higher prepayments, primarily due to the low interest rate environment and (2) modestly higher than normal marketing expenses as CCFBank continues to execute on its plan of brand awareness with recent acquisitions.
Net Interest Income. Net interest income represents the difference between the dollar amount of interest earned on interest-bearing assets and the dollar amount of interest paid on interest-bearing liabilities. The interest income and expense of financial institutions (including those of the Bank) are significantly affected by general economic conditions, competition, policies of regulatory authorities and other factors.
Interest rate spread and net interest margin are used to measure and explain changes in net interest income. Interest rate spread is the difference between the yield on interest earning assets and the rate paid for interest-bearing liabilities that fund those assets. Net interest margin is expressed as the percentage of net interest income to average interest earning assets. Net interest margin currently exceeds interest rate spread because non-interest-bearing sources of funds (“net free funds”), principally demand deposits and stockholders’ equity, also support interest earning assets. The narrative below discusses net interest income, interest rate spread, and net interest margin for the three and nine month periods ended September 30, 2019 and 2018, respectively.
Net interest income was $11.6 million for the three months ended September 30, 2019, compared to $7.9 million for the three months ended September 30, 2018. The net interest margin for the three-month period ended September 30, 2019 was 3.34%, compared to 3.45% for the three-month period ended September 30, 2018 .The net interest margin was 3.35% for the nine months ended September 30, 2019 and 3.42% for the nine months ended September 30, 2018 The net interest margin reduction for both the three and nine month periods ended September 30, 2019 from 2018 is largely due to the competitive market for deposits and the replacement funding for the Michigan branch sale being replaced with higher cost wholesale funding.
For the quarter ended September 30, 2019, the Company’s net interest margin benefited from $50 thousand of purchased loan accretion, or two basis points compared to $54 thousand, or two basis points in the prior quarter and $15 thousand for the first quarter of 2019 or one basis point. There was no such income recognized in 2018. Scheduled accretion for acquired loans, was $234 thousand, $194 thousand and $194 thousand for the quarters ended September 30, 2019, June 30, 2019 and March 31, 2019, respectively. For 2018, the scheduled accretion was $142 thousand for the quarter ended September 30, 2018 and $426 thousand for the nine months ended September 30, 2018.
Average Balances, Net Interest Income, Yields Earned and Rates Paid. The following net interest income analysis table presents interest income from average interest earning assets, expressed in dollars and yields, and interest expense on average interest-bearing liabilities, expressed in dollars and rates on a tax equivalent basis. Shown below is the weighted average tax equivalent yield on interest earning assets, rates paid on interest-bearing liabilities and the resultant spread at or during the three

53



and nine month periods ended September 30, 2019, and for the comparable prior year three and nine month periods. Non-accruing loans have been included in the table as loans carrying a zero yield.
The increase in loan interest income in the current year three-month period was primarily due to an increase in loans resulting from the United Bank and F&M acquisitions and to a lesser extent, strong organic growth and the positive impact of rising short-term interest rates. The increase in deposit interest expense was due to the United Bank and F&M acquisition, the impact of a rising short-term interest rate environment and impact on deposit costs and organic deposit growth.
NET INTEREST INCOME ANALYSIS ON A TAX EQUIVALENT BASIS
(Dollar amounts in thousands)
Three months ended September 30, 2019 compared to the three months ended September 30, 2018:
 
Three months ended September 30, 2019
 
Three months ended September 30, 2018
 
Average
Balance
 
Interest
Income/
Expense
 
Average
Yield/
Rate (1)
 
Average
Balance
 
Interest
Income/
Expense
 
Average
Yield/
Rate (1)
Average interest earning assets:
 
 
 
 
 
 
 
 
 
 
 
Cash and cash equivalents
$
32,376

 
$
203

 
2.49
%
 
$
24,468

 
$
117

 
1.90
%
Loans
1,143,252

 
14,646

 
5.08
%
 
754,442

 
9,414

 
4.95
%
Interest-bearing deposits
5,577

 
34

 
2.42
%
 
7,971

 
42

 
2.09
%
Investment securities (1)
185,921

 
1,174

 
2.56
%
 
124,991

 
674

 
2.30
%
Other investments
13,072

 
166

 
5.04
%
 
7,581

 
115

 
6.02
%
Total interest earning assets (1)
$
1,380,198

 
$
16,223

 
4.67
%
 
$
919,453

 
$
10,362

 
4.49
%
Average interest-bearing liabilities:
 
 
 
 
 
 
 
 
 
 
 
Savings accounts
$
158,967

 
$
155

 
0.39
%
 
$
93,551

 
$
59

 
0.25
%
Demand deposits
219,955

 
550

 
0.99
%
 
146,372

 
142

 
0.38
%
Money market
200,647

 
593

 
1.17
%
 
116,597

 
213

 
0.72
%
CD’s
381,331

 
1,870

 
1.95
%
 
277,125

 
1,145

 
1.64
%
IRA’s
44,184

 
203

 
1.82
%
 
33,029

 
100

 
1.20
%
Total deposits
1,005,084

 
3,371

 
1.33
%
 
666,674

 
1,659

 
0.99
%
FHLB Advances and other borrowings
169,908

 
1,259

 
2.94
%
 
96,448

 
763

 
3.14
%
Total interest-bearing liabilities
$
1,174,992

 
$
4,630

 
1.56
%
 
$
763,122

 
$
2,422

 
1.26
%
Net interest income
 
 
$
11,593

 
 
 
 
 
$
7,940

 
 
Interest rate spread
 
 
 
 
3.11
%
 
 
 
 
 
3.23
%
Net interest margin (1)
 
 
 
 
3.34
%
 
 
 
 
 
3.45
%
Average interest earning assets to average interest-bearing liabilities
 
 
 
 
1.17

 
 
 
 
 
1.20

(1) Fully taxable equivalent (FTE). The average yield on tax exempt securities is computed on a tax equivalent basis using a tax rate of 21.0% for the quarter ended September 30, 2019 and 24.5% for the quarter ended September 30, 2018. The FTE adjustment to net interest income included in the rate calculations totaled $27 thousand and $51 thousand for the three months ended September 30, 2019 and September 30, 2018, respectively.

54



NET INTEREST INCOME ANALYSIS ON A TAX EQUIVALENT BASIS
(Dollar amounts in thousands)
Nine months ended September 30, 2019 compared to the nine months ended September 30, 2018:

 
Nine months ended September 30, 2019
 
Nine months ended September 30, 2018
 
Average
Balance
 
Interest
Income/
Expense
 
Average
Yield/
Rate (1)
 
Average
Balance
 
Interest
Income/
Expense
 
Average
Yield/
Rate (1)
Average interest earning assets:
 
 
 
 
 
 
 
 
 
 
 
Cash and cash equivalents
$
29,489

 
$
542

 
2.46
%
 
$
23,814

 
$
240

 
1.35
%
Loans
1,054,492

 
40,036

 
5.08
%
 
736,478

 
26,818

 
4.87
%
Interest-bearing deposits
6,153

 
107

 
2.33
%
 
7,890

 
117

 
1.98
%
Investment securities (1)
167,023

 
3,119

 
2.58
%
 
121,216

 
1,996

 
2.38
%
Other investments
11,853

 
473

 
5.34
%
 
7,915

 
313

 
5.29
%
Total interest earning assets (1)
$
1,269,010

 
$
44,277

 
4.68
%
 
$
897,313

 
$
29,484

 
4.42
%
Average interest-bearing liabilities:
 
 
 
 
 
 
 
 
 
 
 
Savings accounts
$
156,851

 
$
479

 
0.41
%
 
$
94,263

 
$
140

 
0.20
%
Demand deposits
200,387

 
1,288

 
0.86
%
 
150,023

 
385

 
0.34
%
Money market
172,671

 
1,423

 
1.10
%
 
116,948

 
570

 
0.65
%
CD’s
348,139

 
5,163

 
1.98
%
 
271,352

 
2,968

 
1.46
%
IRA’s
41,576

 
537

 
1.73
%
 
33,202

 
278

 
1.12
%
Total deposits
919,624

 
8,890

 
1.29
%
 
665,788

 
4,341

 
0.87
%
FHLB Advances and other borrowings
153,960

 
3,649

 
3.17
%
 
109,628

 
2,367

 
2.89
%
Total interest-bearing liabilities
$
1,073,584

 
$
12,539

 
1.56
%
 
$
775,416

 
$
6,708

 
1.16
%
Net interest income
 
 
$
31,738

 
 
 
 
 
$
22,776

 
 
Interest rate spread
 
 
 
 
3.12
%
 
 
 
 
 
3.26
%
Net interest margin (1)
 
 
 
 
3.35
%
 
 
 
 
 
3.42
%
Average interest earning assets to average interest-bearing liabilities
 
 
 
 
1.18

 
 
 
 
 
1.16

(1) Fully taxable equivalent (FTE). The average yield on tax exempt securities is computed on a tax equivalent basis using a tax rate of 21.0% for the nine months ended September 30, 2019 and 24.5% for the nine months ended September 30, 2018. The FTE adjustment to net interest income included in the rate calculations totaled $103 thousand and $158 thousand for the nine months ended September 30, 2019 and September 30, 2018, respectively.
Rate/Volume Analysis. The following table presents the dollar amount of changes in interest income and interest expense for the components of interest earning assets and interest-bearing liabilities that are presented in the preceding table. For each category of interest earning assets and interest-bearing liabilities, information is provided on changes attributable to: (1) changes in volume, which are changes in the average outstanding balances multiplied by the prior period rate (i.e. holding the initial rate constant); and (2) changes in rate, which are changes in average interest rates multiplied by the prior period volume (i.e. holding the initial balance constant). Volume changes are largely due to the United Bank acquisition for the three and nine months of 2019 compared to 2018 and to a lesser extent, the F&M acquisition for the three months ended September 30, 2019 compared to the same period in 2018.

55



RATE / VOLUME ANALYSIS
(Dollar amounts in thousands)
Three months ended September 30, 2019 compared to the three months ended September 30, 2018.
 
Increase (decrease) due to
 
Volume
 
Rate
 
Net
Interest income:
 
 
 
 
 
Cash and cash equivalents
$
43

 
$
43

 
$
86

Loans
4,972

 
260

 
5,232

Interest-bearing deposits
(14
)
 
6

 
(8
)
Investment securities
383

 
117

 
500

Other investments
74

 
(23
)
 
51

Total interest earning assets
5,458

 
403

 
5,861

Interest expense:
 
 
 
 
 
Savings accounts
51

 
45

 
96

Demand deposits
91

 
317

 
408

Money market accounts
192

 
188

 
380

CD’s
478

 
247

 
725

IRA’s
40

 
63

 
103

Total deposits
852

 
860

 
1,712

FHLB Advances and other borrowings
549

 
(54
)
 
495

Total interest bearing liabilities
1,401

 
806

 
2,207

Net interest income
$
4,057

 
$
(403
)
 
$
3,654


Nine months ended September 30, 2019 compared to the nine months ended September 30, 2018.
 
Increase (decrease) due to
 
Volume
 
Rate
 
Net
Interest income:
 
 
 
 
 
Cash and cash equivalents
$
66

 
$
236

 
$
302

Loans
12,013

 
1,205

 
13,218

Interest-bearing deposits
(29
)
 
19

 
(10
)
Investment securities
867

 
256

 
1,123

Other investments
157

 
3

 
160

Total interest earning assets
13,074

 
1,719

 
$
14,793

Interest expense:
 
 
 
 
 
Savings accounts
120

 
219

 
339

Demand deposits
157

 
746

 
903

Money market accounts
331

 
522

 
853

CD’s
954

 
1,241

 
2,195

IRA’s
80

 
179

 
259

Total deposits
1,642

 
2,907

 
4,549

FHLB Advances and other borrowings
1,027

 
255

 
1,282

Total interest bearing liabilities
2,669

 
3,162

 
5,831

Net interest income
$
10,405

 
$
(1,443
)
 
$
8,962

Provision for Loan Losses. We determine our provision for loan losses (“provision”) based on our desire to provide an adequate allowance for loan losses (“ALL”) to reflect probable and inherent credit losses in our loan portfolio. We continue to monitor adverse general economic conditions that could affect our commercial and agricultural portfolios in the future.

56



Provision expense for the quarter ended September 30, 2019 of $575 thousand was due to newly originated loan growth, net legacy charge-offs and increases in specific reserves of approximately $150 thousand, primarily on certain specific residential loans.
Provision expense for the nine months ended September 30, 2019, was $2.1 million, resulting from (1) provision expense for newly originated organic loan growth of approximately $1.15 million, (2) approximately $300 thousand related to current year net charge offs on credits with no previous specific reserves and (3) $650 thousand attributed to increases in specific reserves on certain specific impaired credits. The largest specific reserve was established on a single agricultural credit for dairy farming operations of approximately $350 thousand, which was downgraded to nonaccrual status during the quarter ended March 31, 2019. $225 thousand of this credit was subsequently charged-off in the second quarter of 2019. While this sector is generally experiencing difficult operating conditions, the issues related to this specific credit relationship were isolated. Management believes its agricultural lending processes remain prudent and there is no evidence to suggest systemic problems. The Bank has initiated foreclosure and has also filed a civil complaint in Eau Claire County Circuit Court regarding borrower representations in the loan application and approval process. The remaining $300 thousand increase in specific reserves relates to various, relatively smaller credits, approximately half of which relate to certain residential loans discussed above.
The Bank recorded a provision of $450 thousand and $1.2 million for the three and nine months ended September 30, 2018, respectively, reflecting primarily organic loan growth and to a lesser extent, net charge-offs.
Management believes that the provision taken for the current year nine-month period is adequate in view of the present condition of our loan portfolio and the sufficiency of collateral supporting our non-performing loans. We continually monitor non-performing loan relationships and will adjust our provision, as necessary, if changing facts and circumstances require a change in the ALL. In addition, a decline in the quality of our loan portfolio as a result of general economic conditions, factors affecting particular borrowers or our market areas, or otherwise, could all affect the adequacy of our ALL. If there are significant charge-offs against the ALL, or we otherwise determine that the ALL is inadequate, we will need to record an additional provision in the future. See the section below captioned “Allowance for Loan Losses” in this discussion for further analysis of our provision for loan losses.
Non-interest Income (Loss). The following table reflects the various components of non-interest income for the three and nine month periods ended September 30, 2019 and 2018, respectively.
 
Three months ended September 30,
 
 
 
Nine months ended September 30,
 
 
 
2019
 
2018
 
% Change
 
2019
 
2018
 
% Change
Non-interest Income:
 
 
 
 
 
 
 
 
 
 
 
Service charges on deposit accounts
$
625

 
$
489

 
27.81
%
 
$
1,756

 
$
1,332

 
31.83
%
Interchange income
476

 
338

 
40.83
%
 
1,267

 
978

 
29.55
%
Loan servicing income
714

 
368

 
94.02
%
 
1,902

 
1,051

 
80.97
%
Gain on sale of loans
679

 
234

 
190.17
%
 
1,560

 
649

 
140.37
%
Loan fees and service charges
471

 
164

 
187.20
%
 
860

 
367

 
134.33
%
Insurance commission income
197

 
180

 
9.44
%
 
573

 
554

 
3.43
%
Gains (losses) on investment securities
96

 
—

 
N/M

 
151

 
(17
)
 
988.24
%
Gain on sale of branch
—

 
—

 
N/M

 
2,295

 
—

 
N/M

Other
363

 
216

 
68.06
%
 
827

 
517

 
59.96
%
Total non-interest income
$
3,621

 
$
1,989

 
82.05
%
 
$
11,191

 
$
5,431

 
106.06
%
N/M means not meaningful
The growth in most line items, year over year, includes the impact of the United Bank acquisition in October of 2018 and in the third quarter of 2019, the F&M acquisition.
The increase in gains on the sale of loans for the three and nine moths ended September 30, 2019 reflects increased mortgage activity from the lower interest rate environment.
The increase in loan fees for the quarter ended September 30, 2019 compared to the same three month period in 2018 is largely due to higher commercial loan customer activity.

57



The company sold the Rochester Hills, MI branch in the second quarter of 2019 for a $2.3 million gain, recorded in gain on sale of branch for the nine months ended September 30, 2019.
Included in other non-interest income, is an annual debit card volume incentive totaling $94 thousand and $89 thousand for the quarters ended September 30, 2019 and 2018, respectively.
Non-interest Expense. The following table reflects the various components of non-interest expense for the three and nine month periods ended September 30, 2019 and 2018, respectively.
 
Three months ended September 30,
 
 
 
Nine months ended September 30,
 
 
 
2019
 
2018
 
% Change
 
2019
 
2018
 
% Change
Non-interest Expense:
 
 
 
 
 
 
 
 
 
 
 
Compensation and benefits
$
5,295

 
$
3,778

 
40.15
 %
 
$
14,605

 
$
11,424

 
27.84
 %
Occupancy - net
905

 
776

 
16.62
 %
 
2,725

 
2,270

 
20.04
 %
Office
599

 
468

 
27.99
 %
 
1,649

 
1,311

 
25.78
 %
Data processing
1,092

 
771

 
41.63
 %
 
2,953

 
2,224

 
32.78
 %
Amortization of intangible assets
412

 
161

 
155.90
 %
 
1,085

 
483

 
124.64
 %
Amortization of mortgage servicing rights
325

 
85

 
282.35
 %
 
822

 
245

 
235.51
 %
Advertising, marketing and public relations
315

 
265

 
18.87
 %
 
974

 
596

 
63.42
 %
FDIC premium assessment
78

 
121

 
(35.54
)%
 
318

 
330

 
(3.64
)%
Professional services
561

 
577

 
(2.77
)%
 
1,961

 
1,635

 
19.94
 %
Gains (losses) on repossessed assets, net
(16
)
 
71

 
(122.54
)%
 
(143
)
 
521

 
(127.45
)%
Other
3,409

 
571

 
497.02
 %
 
5,309

 
1,582

 
235.59
 %
Total non-interest expense
$
12,975

 
$
7,644

 
69.74
 %
 
$
32,258

 
$
22,621

 
42.60
 %
 
 
 
 
 
 
 
 
 
 
 
 
Non-interest expense (annualized) / Average assets
3.54
%
 
3.09
%
 
14.51
 %
 
3.15
%
 
3.21
%
 
(10.12
)%
N/M means not meaningful
The growth in most line items, year over year, includes the impact of the United Bank acquisition in October of 2018 and the F&M acquisition July1, 2019. The F&M acquisition added approximately $0.9 million in ongoing operational expenses and $2.6 million in one-time merger charges for the quarter ending September 30, 2019.
Amortization of mortgage servicing rights increased during the quarter ended September 30, 2019 to $325 thousand compared to $85 thousand during the quarter ended September 30, 2018, due to (1) a larger servicing portfolio primarily from the United Bank acquisition during the quarter ended December 31, 2018 and (2) increased prepayments in the Company’s servicing portfolio resulting from the current lower interest rate rate environment, which led to impairment of $100 thousand.
Advertising, marketing and public relations expenses increased $50 thousand in the quarter ended September 30, 2019 compared to the same period in 2018 to $315 thousand. For the nine months ending September 30, 2019, advertising, marketing and public relations expenses increased $378 thousand to $974 thousand. The Company incurred increased costs associated with Company branding of merged banking operations. With two bank conversions in less than six months, we anticipate approximately the same level of costs in the fourth quarter and then a decrease to approximately $250 thousand on a quarterly basis in 2020.

The third quarter ended September 30, 2019 was favorably impacted by the FDIC application of the Small
Bank Assessment Credits to our current quarter deposit insurance invoice totaling $150 thousand.


58



Professional fees for the quarter ended September 30, 2019 was approximately equal to the quarter ended September 30, 2018. Professional fees for the nine months ended September 30, 2019 were $326 thousand higher than the same period in 2018 largely due to the costs related to changing the Companies fiscal year-end in 2019.
Merger related expenses included in the consolidated statement of operations totaled $2.91 million and $3.78 million for the three and nine months ended September 30, 2019. For the three months ended September 30, 2019, merger expenses consisted of the following: (1) $200 thousand recorded in professional services and (2) $2.71 million recorded in other non-interest expense. Merger related expenses incurred in the nine months ended September 30, 2019, consisted of the following: (1) $530 thousand recorded in professional services, (2) $70 thousand recorded in compensation and benefits and (3) $3.2 million recorded in other non-interest expense. Merger related expenses incurred in the consolidated statement of operation totaled $131 thousand and $369 thousand during the three and nine months ended September 30, 2018 respectively. For the nine months ended September 30, 2018, merger expenses consisted of the following: (1) $356 thousand recorded in professional services and (2) $13 thousand recorded in other non-interest expense.
Income Taxes. Income tax expense was $430 thousand and $2.3 million for the three and nine months ended September 30, 2019, compared to $736 thousand and $1.4 million for the three and nine months ended September 30, 2018, respectively. The effective tax rate decrease in 2019 for both the three and nine month periods year over year, due to a lower federal income tax rate, partially offset by higher non-deductible merger costs and an overall smaller tax-exempt investment security and loan portfolio as a percent of total interest earning assets.


59



BALANCE SHEET ANALYSIS
Loans. Total loans outstanding, net of deferred loan fees and costs and unamortized discount on acquired loans, increased by $131.8 million, or 13.28%, to $1.124 billion as of September 30, 2019 from $992.6 million at December 31, 2018. This increase was largely due to the F&M acquisition, which added approximately $126 million in net loans. Additionally, in the quarter ended September 30, 2019, the Bank sold the remaining unsecured purchased indirect portfolio with an approximate yield to the Bank of 4.25% at par. Due to the contractual repurchase arrangement with the servicer, who originated the loans, the Bank has no associated allowance for loan losses on this portfolio. The following table reflects the composition, or mix of our loan portfolio at September 30, 2019 and December 31, 2018:
 
 
September 30, 2019
 
December 31, 2018

 
 
Amount
 
Amount
Real estate loans:
 
 
 
 
Residential real estate
 
 
 
 
One to four family
 
$
188,070

 
209,926

Purchased HELOC loans
 
10,120

 
12,883

Commercial/agricultural real estate
 


 
 
Commercial real estate
 
465,046

 
357,959

Agricultural real estate
 
89,441

 
86,015

Multi-family real estate
 
87,758

 
69,400

Construction and land development
 
65,550

 
22,691

Total real estate loans
 
905,985

 
758,874

Non-real estate loans:
 
 
 
 
Consumer non-real estate
 
 
 
 
Originated indirect paper
 
42,894

 
56,585

Purchased indirect paper
 
—

 
15,006

Other Consumer
 
18,770

 
20,214

Commercial/agricultural loans
 
 
 
 
Commercial non-real estate
 
127,232

 
112,427

Agricultural non-real estate
 
39,827

 
36,327

Total non-real estate loans
 
228,723

 
240,559

Gross loans
 
1,134,708

 
999,433

Unearned net deferred fees and costs and loans in process
 
(158
)
 
409

Unamortized discount on acquired loans
 
(10,172
)
 
(7,286
)
Total loans (net of unearned income and deferred expense)
 
1,124,378

 
992,556

Allowance for loan losses
 
(9,177
)
 
(7,604
)
Total loans receivable, net
 
$
1,115,201

 
$
984,952

The following table shows the Bank’s Community Banking loan portfolio, consisting of commercial banking business and consumer lending, and the Legacy loan portfolio, consisting of one to four family loans and indirect paper loans. The loan categories and amounts shown are the same as on the preceding page and are presented in a different format. We have added this table in this report to better help understand the Bank’s loan trends.

60



 
 
September 30, 2019
 
December 31, 2018
 
Change
Community Banking Loan Portfolios:
 
 
 
 
 
 
Commercial/Agricultural real estate:
 
 
 
 
 
 
Commercial real estate
 
465,046

 
$
357,959

 
$
107,087

Agricultural real estate
 
89,441

 
86,015

 
3,426

Multi-family real estate
 
87,758

 
69,400

 
18,358

Construction and land development
 
65,550

 
22,691

 
42,859

Commercial/Agricultural non-real estate:
 
 
 
 
 
 
Commercial non-real estate
 
127,232

 
112,427

 
14,805

Agricultural non-real estate
 
39,827

 
36,327

 
3,500

Residential real estate:
 
 
 
 
 
 
Purchased HELOC loans
 
10,120

 
12,883

 
(2,763
)
Consumer non-real estate:
 
 
 
 
 
 
Other consumer
 
18,770

 
20,214

 
(1,444
)
Total Community Banking Loan Portfolios
 
903,744

 
717,916

 
185,828

 
 
 
 
 
 
 
Legacy Loan Portfolios:
 
 
 
 
 
 
Residential real estate:
 
 
 
 
 
 
One to four family
 
188,070

 
209,926

 
(21,856
)
Consumer non-real estate:
 
 
 
 
 
 
Originated indirect paper
 
42,894

 
56,585

 
(13,691
)
Purchased indirect paper
 
—

 
15,006

 
(15,006
)
Total Legacy Loan Portfolios
 
230,964

 
281,517

 
(50,553
)
Gross loans
 
$
1,134,708

 
$
999,433

 
$
135,275

The Community Banking loan portfolios reflect the Bank’s strategy to grow its commercial banking and consumer lending portfolios. The Legacy loan portfolios reflect the Bank’s strategy to sell substantially all newly originated one to four family loans in the secondary market and the discontinuation of originated and purchased indirect paper loans, effective in the first quarter of fiscal 2017.
At September 30, 2019, the community banking portfolio grew by $185.8 million compared to December 31, 2018, largely due to the acquisition of F&M which increased the portfolio $123.7 million at September 30, 2019. In addition, there was strong organic growth in all real estate categories. The growth in construction loans reflects the funding on projects that moved closer to completion.
As expected, the legacy portfolio continues to decrease. One to four family residential real estate loans, decreased $21.9 million, net of increases from F&M of $8.1 million, from the December 31, 2018 balances as repayments, including payoffs, outpaced one to four family portfolio originations. Consumer originated indirect paper loans decreased $13.7 million or 24.2% from the December 31, 2018 balances. As noted above, in September the Bank sold the remaining purchased indirect paper portfolio at par. While the portfolio decrease percentage this quarter remains in the historical range of shrinkage percentages, the absolute dollar shrinkage of the legacy portfolio is expected to slow over time as the portfolio decreases in size.
Allowance for Loan Losses. The loan portfolio is our primary asset subject to credit risk. To address this credit risk, we maintain an ALL for probable and inherent credit losses through periodic charges to our earnings. These charges are shown in our consolidated statements of operations as PLL. See “Provision for Loan Losses” earlier in this quarterly report. We attempt to control, monitor and minimize credit risk through the use of prudent lending standards, a thorough review of potential borrowers prior to lending and ongoing and timely review of payment performance. Asset quality administration, including early identification of loans performing in a substandard manner, as well as timely and active resolution of problems, further enhances management of credit risk and minimization of loan losses. Any losses that occur and that are charged off against the ALL are periodically reviewed with specific efforts focused on achieving maximum recovery of both principal and interest.
At least quarterly, we review the adequacy of the ALL. Based on an estimate computed pursuant to the requirements of ASC 450-10, “Accounting for Contingencies” and ASC 310-10, “Accounting by Creditors for Impairment of a Loan”, the analysis of the ALL consists of three components: (i) specific credit allocation established for expected losses relating to specific impaired loans for which the recorded investment in the loan exceeds its fair value; (ii) general portfolio allocation based on historical loan loss experience for significant loan categories; and (iii) general portfolio allocation based on qualitative factors such as economic conditions and other relevant factors specific to the markets in which we operate. We continue to

61



refine our ALL methodology by introducing a greater level of granularity to our loan portfolio. We currently segregate loans into pools based on common risk characteristics for purposes of determining the ALL. The additional segmentation of the portfolio is intended to provide a more effective basis for the determination of qualitative factors affecting our ALL. In addition, management continually evaluates our ALL methodology to assess whether modifications in our methodology are appropriate in light of underwriting practices, market conditions, identifiable trends, regulatory pronouncements or other factors. We believe that any modifications or changes to the ALL methodology would be to enhance the ALL. However, any such modifications could result in materially different ALL levels in future periods.
The specific credit allocation for the ALL is based on a regular analysis of all loans that are considered impaired. In compliance with ASC 310-10, the fair value of the loan is determined based on either the present value of expected cash flows discounted at the loan’s effective interest rate, the market price of the loan, or, if the loan is collateral dependent, the fair value of the underlying collateral less the expected cost of sale for such collateral. At September 30, 2019, June 30, 2019, March 31, 2019 and December 31, 2018, we had 416, 356, 315 and 209 such impaired loans, all secured by real estate or personal property with an aggregate recorded investment of $32.7 million, $28.0 million $27.3 million and $22.5 million respectively. Of the impaired loans, respectively, there were 34 such individual loans where estimated fair value was less than their book value (i.e. we deemed impairment to exist) totaling $3.8 million for which $663 thousand in specific ALL was recorded as of September 30, 2019.
At September 30, 2019, the ALL was $9.2 million, or 0.82% of our total loan portfolio, compared to ALL of $7.6 million, or 0.77% of the total loan portfolio at December 31, 2018. This level was based on our analysis of the loan portfolio risk at September 30, 2019, considering the factors discussed above. Due to the sale of the purchased indirect loans in the third quarter, the previous restricted cash reserve account established by the third party seller of the purchased indirect paper consumer loans, based on a percentage of the outstanding loan balances was eliminated. The funds in the reserve account are to be released to compensate the Bank for any nonperforming purchased consumer loans that are not purchased back by the seller or substituted with performing consumer loans and as a result, the Bank records a charged off loan. The Bank has not drawn on the restricted cash reserve account as the third party has repurchased all loans presented to them.
All the nine factors identified in the FFIEC’s Interagency Policy Statement on the Allowance for Loan and Lease Losses are taken into account in determining the ALL. The impact of the factors in general categories are subject to change; thus, the allocations are management’s estimate of the loan loss categories in which the probable and inherent loss has occurred as of the date of our assessment. Of the nine factors, we believe the following have the greatest impact on our customers’ ability to repay loans and our ability to recover potential losses through collateral sales: (1) lending policies and procedures; (2) economic and business conditions; and (3) the value of the underlying collateral. As loan balances and estimated losses in a particular loan type decrease or increase and as the factors and resulting allocations are monitored by management, changes in the risk profile of the various parts of the loan portfolio may be reflected in the allocated allowance. The general component covers non-impaired loans and is based on historical loss experience adjusted for these and other qualitative factors. In addition, management continues to refine the ALL estimation process as new information becomes available. These refinements could also cause increases or decreases in the ALL. The unallocated portion of the ALL is intended to account for imprecision in the estimation process or relevant current information that may not have been considered in the process.
Nonperforming Loans, Potential Problem Loans and Foreclosed Properties. We practice early identification of non-accrual and problem loans in order to minimize the Bank’s risk of loss. Non-performing loans are defined as non-accrual loans and restructured loans that were 90 days or more past due at the time of their restructure, or when management determines that such classification is warranted. The accrual of interest income is discontinued on our loans according to the following schedule:
•Commercial/agricultural real estate loans, past due 90 days or more;
•Commercial/agricultural non-real estate loans, past due 90 days or more;
•Closed ended consumer non-real estate loans past due 120 days or more; and
•Residential real estate loans and open-ended consumer non-real estate loans past due 180 days or more.
When interest accruals are discontinued, interest credited to income is reversed. If collection is in doubt, cash receipts on non-accrual loans are used to reduce principal rather than being recorded as interest income. A TDR typically involves the granting of some concession to the borrower involving a loan modification, such as modifying the payment schedule or making interest rate changes. TDR loans may involve loans that have had a charge-off taken against the loan to reduce the carrying amount of the loan to fair market value as determined pursuant to ASC 310-10.


62



The following table identifies the various components of non-performing assets and other balance sheet information as of the dates indicated below and changes in the ALL for the periods then ended:
 
September 30, 2019 and Nine Months Then Ended
 
December 31, 2018 and Three Months Then Ended
Nonperforming assets:
 
 
 
Nonaccrual loans
 
 
 
One to four family
$
2,255

 
$
2,331

Commercial real estate
6,324

 
808

Agricultural real estate
6,191

 
2,019

Consumer non-real estate
191

 
120

Commercial non-real estate
2,072

 
1,314

Agricultural non-real estate
1,989

 
762

Total nonaccrual loans
$
19,022

 
$
7,354

Accruing loans past due 90 days or more
1,099

 
736

Total nonperforming loans (“NPLs”)
20,121

 
8,090

Other real estate owned
1,348

 
2,522

Other collateral owned
25

 
48

Total nonperforming assets (“NPAs”)
$
21,494

 
$
10,660

Troubled Debt Restructurings (“TDRs”)
$
11,795

 
$
8,722

Accruing TDR's
$
7,194

 
$
6,055

Nonaccrual TDRs
$
4,601

 
$
2,667

Average outstanding loan balance
$
1,054,492

 
$
921,951

Loans, end of period
$
1,124,378

 
$
992,556

Total assets, end of period
$
1,475,364

 
$
1,287,924

ALL, at beginning of period
$
7,604

 
$
6,748

Loans charged off:
 
 
 
Residential real estate
(224
)
 
(43
)
Commercial/Agricultural real estate
(225
)
 
—

Consumer non-real estate
(171
)
 
(79
)
Commercial/Agricultural non-real estate
—

 
—

Total loans charged off
(620
)
 
(122
)
Recoveries of loans previously charged off:
 
 
 
Residential real estate
2

 
4

Commercial/Agricultural real estate
3

 
—

Consumer non-real estate
63

 
24

Commercial/Agricultural non-real estate
—

 
—

Total recoveries of loans previously charged off:
68

 
28

Net loans charged off (“NCOs”)
(552
)
 
(94
)
Additions to ALL via provision for loan losses charged to operations
2,125

 
950

ALL, at end of period
$
9,177

 
$
7,604

Ratios:
 
 
 
ALL to NCOs (annualized)
1,246.88
%
 
2,022.34
%
NCOs (annualized) to average loans
0.07
%
 
0.04
%
ALL to total loans
0.82
%
 
0.77
%
NPLs to total loans
1.79
%
 
0.82
%
NPAs to total assets
1.46
%
 
0.83
%



63



An aging analysis of the Company’s originated and acquired loans as of September 30, 2019 and December 31, 2018, respectively, was as follows:
 
30-59 Days
Past Due and Accruing
 
60-89 Days
Past Due and Accruing
 
Greater
Than
89 Days and Accruing
 
Total
Past Due and Accruing
 
Nonaccrual Loans
 
Total Past Due and Accruing and Nonaccrual Loans
September 30, 2019
 
 
 
 
 
 
 
 
 
 
 
Originated loans
$
5,576

 
$
1,082

 
$
842

 
$
7,500

 
$
4,816

 
$
12,316

Acquired loans
3,678

 
711

 
257

 
4,646

 
14,206

 
18,852

Total
$
9,254

 
$
1,793

 
$
1,099

 
$
12,146

 
$
19,022

 
$
31,168

December 31, 2018
 
 
 
 
 
 
 
 
 
 
 
Originated loans
$
4,829

 
$
2,137

 
$
279

 
$
7,245

 
$
1,770

 
$
9,015

Acquired loans
3,339

 
918

 
457

 
4,714

 
5,584

 
10,298

Total
$
8,168

 
$
3,055

 
$
736

 
$
11,959

 
$
7,354

 
$
19,313

Nonperforming assets, delinquencies and troubled debt restructures typically increase in subsequent quarters following a merger, due to updated reporting and risk rating of the loan portfolio to the Bank’s standards. We experienced this again as nonperforming assets increased to 1.46% of total assets at September 30, 2019, from 0.83% of total assets at December 31, 2018. Total impaired loans, which included trouble debt restructured loans, purchased credit impaired loans and substandard non-performing loans, was $67.4 million at September 30, 2019, compared to $47.3 million at December 31, 2018. $17.7 million of this increase in impaired loans was due to the F&M acquisition.
Non-performing assets included non-performing loans of $20.1 million at September 30, 2019, compared to $8.1 million at December 31, 2018. Of this increase in non-performing assets, $5.9 million was due to the F&M acquisition and $4.3 million were acquired in the United acquisition. Classified assets increased to $39.9 million at September 30, 2019. Classified assets increased $7.5 million due to the F&M acquisition in the third quarter. Classified assets at December 31, 2018 totaled $22.7 million.

Nonaccrual Loans Rollforward:
 
Quarter Ended
 
September 30, 2019
 
June 30, 2019
 
December 31, 2018
 
September 30, 2018
Balance, beginning of period
$
13,612

 
$
9,871

 
$
7,210

 
$
6,627

Additions
1,493

 
7,405

 
906

 
2,030

Acquired nonaccrual loans
5,898

 
—

 
941

 
—

Charge offs
(134
)
 
(262
)
 
(40
)
 
(68
)
Transfers to OREO
(209
)
 
(236
)
 
(201
)
 
(400
)
Return to accrual status
(53
)
 
(149
)
 
—

 
(93
)
Payments received
(1,539
)
 
(2,612
)
 
(1,429
)
 
(676
)
Other, net
(46
)
 
(405
)
 
(33
)
 
(210
)
Balance, end of period
$
19,022

 
$
13,612

 
$
7,354

 
$
7,210




64



Other real estate owned (“OREO”) decreased to $1.3 million at September 30, 2019 from $2.5 million at December 31, 2018 as sales exceeded properties transferred from loans.
Other Real Estate Owned Rollforward:
 
Quarter Ended
 
September 30, 2019
 
June 30, 2019
 
December 31, 2018
 
September 30, 2018
Balance, beginning of period
$
1,354

 
$
2,071

 
$
2,749

 
$
5,328

Loans transferred in
209

 
236

 
201

 
400

Branch properties sales
—

 
—

 
—

 
(1,245
)
Sales
(220
)
 
(958
)
 
(210
)
 
(1,762
)
Write-downs
—

 
(23
)
 
—

 
(127
)
Other, net
5

 
28

 
(218
)
 
155

Balance, end of period
$
1,348

 
$
1,354

 
$
2,522

 
$
2,749

Nonaccrual TDR loans increased $1.9 million to $4.6 million at September 30, 2019 from $2.7 million at December 31, 2018, primarily due to restructuring of nonaccrual loans.

 
September 30, 2019
 
June 30, 2019
 
December 31, 2018
 
September 30, 2018
 
Number of
Modifications
 
Recorded
Investment
 
Number of
Modifications
 
Recorded
Investment
 
Number of
Modifications
 
Recorded
Investment
 
Number of
Modifications
 
Recorded
Investment
Troubled debt restructurings: Accrual Status
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Residential real estate
39

 
$
3,094

 
39

 
$
3,137

 
34

 
$
3,319

 
34

 
$
3,495

Commercial/Agricultural real estate
18

 
3,574

 
14

 
2,202

 
15

 
2,209

 
14

 
1,646

Consumer non-real estate
8

 
74

 
11

 
82

 
13

 
99

 
14

 
109

Commercial/Agricultural non-real estate
4

 
452

 
4

 
478

 
2

 
428

 
3

 
481

Total loans
69

 
$
7,194

 
68

 
$
5,899

 
64

 
$
6,055

 
65

 
$
5,731

Nonperforming assets increased to 1.46% of total assets at September 30, 2019, compared to 1.18% at June 30,2019, 1.03% at March 31, 2019 and 0.83% of total assets at December 31, 2018. Nonperforming assets, delinquencies and troubled debt restructures typically increase in the quarters immediately following a merger due to updated reporting and risk rating of the loan portfolio to CCFBank standards and the Company experienced this increase in all three quarters of fiscal 2019.
Non-accrual loans were $19.0 million at September 30 2019, compared to $7.4 million at December 31, 2018. The increase in non-accrual-loans was largely due to acquired loans from the F&M and United Bank acquisition. In the quarter ended September 30, 2019, the Bank added $5.9 million in non-accrual loans from F&M. Refer to the “Allowance for Loan Losses” and “Nonperforming Loans, Potential Problem Loans and Foreclosed Properties” sections below for more information related to non-performing loans.
Investment Securities. We manage our securities portfolio to provide liquidity and enhance income. Our investment portfolio is comprised of securities available for sale and securities held to maturity. The 2019 purchases were approximately 56% variable rate securities. The effective duration of the investment portfolio at September 30, 2019 was 2.0 years compared to 2.6 years at December 31, 2018.
Securities available for sale, which represent the majority of our investment portfolio, were $183.0 million at September 30, 2019, compared with $146.7 million at December 31, 2018. There were no impairment charges recorded in the three and nine months ended September 30, 2019. One agency security had an impairment charge of $21 thousand recorded in the three months ended March 31, 2018. This security was sold in the quarter-ended June 30, 2018 and a $4 thousand gain was realized due to changes in market prices. Securities held to maturity were $3.7 million at September 30, 2019, compared with $4.9 million at December 31, 2018.

65



The amortized cost and market values of our available for sale securities by asset categories as of the dates indicated below were as follows:
Securities available for sale
Amortized
Cost
 
Fair
Value
September 30, 2019
 
 
 
U.S. government agency obligations
$
53,405

 
$
53,378

Obligations of states and political subdivisions
27,648

 
27,937

Mortgage backed securities
54,979

 
55,658

Corporate debt securities
18,793

 
18,834

Corporate asset based securities
27,756

 
27,149

Totals
$
182,581

 
$
182,956

December 31, 2018
 
 
 
U.S. government agency obligations
$
46,215

 
$
45,298

Obligations of states and political subdivisions
35,162

 
34,728

Mortgage backed securities
42,279

 
41,350

Agency securities
104

 
148

Corporate debt securities
6,577

 
6,305

Corporate asset based securities
18,928

 
18,896

Totals
$
149,265

 
$
146,725

The amortized cost and fair value of our held to maturity securities by asset categories as of the dates noted below were as follows:
Securities held to maturity
Amortized
Cost
 
Fair
Value
September 30, 2019
 
 
 
Obligations of states and political subdivisions
$
980

 
$
982

Mortgage-backed securities
2,685

 
2,788

Totals
$
3,665

 
$
3,770

December 31, 2018
 
 
 
Obligations of states and political subdivisions
$
1,701

 
$
1,698

Mortgage-backed securities
3,149

 
3,174

Totals
$
4,850

 
$
4,872

The composition of our available for sale portfolios by credit rating as of the dates indicated below was as follows:
 
September 30, 2019
 
December 31, 2018
Available for sale securities
Amortized
Cost
 
Fair
Value
 
Amortized
Cost
 
Fair
Value
Agency
$
108,384

 
$
109,036

 
$
88,494

 
$
86,648

AAA
6,196

 
6,144

 
3,566

 
3,535

AA
43,524

 
43,225

 
42,608

 
42,305

A
23,145

 
23,222

 
12,991

 
12,662

Non-rated
1,332

 
1,329

 
1,606

 
1,575

Total available for sale securities
$
182,581

 
$
182,956

 
$
149,265

 
$
146,725


66



The composition of our held to maturity portfolio by credit rating as of the dates indicated was as follows:
 
September 30, 2019
 
December 31, 2018
Securities held to maturity
Amortized
Cost
 
Fair
Value
 
Amortized
Cost
 
Fair
Value
U.S. government agency
$
2,685

 
$
2,788

 
$
3,149

 
$
3,173

AA
395

 
396

 
395

 
395

A
235

 
235

 
956

 
955

Non-rated
350

 
351

 
350

 
349

Total
$
3,665

 
$
3,770

 
$
4,850

 
$
4,872

At September 30, 2019, securities with a market value of $1.7 million were pledged against a line of credit with the Federal Reserve Bank of Minneapolis. As of September 30, 2019, this line of credit had a zero outstanding balance. The Bank has pledged U.S. Government Agency securities with a market value of $6.0 million, mortgage-backed securities with a market value of $13.7 million as collateral against specific municipal deposits. As of September 30, 2019, the Bank also has mortgage backed securities with a market value of $760 thousand pledged as collateral to the Federal Home Loan Bank of Des Moines.
Other Assets and Other Liabilities. Other assets and other liabilities decreased in the third quarter compared to June 30, 2019, due to the purchase of two previously leased branches. Other assets increased from December 31, 2018, primarily due to the adoption of new accounting standards requiring asset recognition for operating leases which totaled $2.9 million at September 30, 2019.
Deposits. Deposits increased $154.2 million to $1.162 billion at September 30, 2019, from $1.008 billion at December 31, 2018. Deposits increased by $127.5 million due to F&M account balances at September 30, 2019, decreased $34.1 million due to the sale of Rochester Hills deposits on May 17, 2019 as discussed above and increased $60.8 million due to organic growth.
The following is a summary of deposits by type at September 30, 2019 and December 31, 2018, respectively:
 
 
September 30, 2019
 
December 31, 2018
Non-interest bearing demand deposits
 
$
174,202

 
$
155,405

Interest bearing demand deposits
 
209,644

 
169,310

Savings accounts
 
165,419

 
192,310

Money market accounts
 
193,654

 
126,021

Certificate accounts
 
418,831

 
364,466

Total deposits
 
$
1,161,750

 
$
1,007,512

Deposits from closed branches, in markets that the Bank no longer competes in, decreased by $7.5 million during the nine months ended September 30, 2019, and total $27.9 million as of September 30, 2019. Brokered and listing services deposits were $63.0 million and $4.6 million, respectively, at September 30, 2019, compared to $55.3 million and $9.5 million, respectively, at December 31, 2018.
Our objective is to grow deposits and build customer relationships in our core markets through our branch network, deposit product offerings, including Treasury Management, and providing excellent customer service. Management expects to continue to place emphasis on both retaining and generating additional deposits in 2019 through competitive pricing of deposit products, our branch delivery systems that have already been established and electronic banking.
Federal Home Loan Bank (FHLB) advances (borrowings) and Other Borrowings. FHLB advances were $113.5 million as of September 30, 2019 and $109.8 million as of December 31, 2018, as we continue to utilize these advances, as necessary, to supplement core deposits to meet our funding and liquidity needs, and as we evaluate all options to manage the Bank’s cost of funds. The Bank has an irrevocable Standby Letter of Credit Master Reimbursement Agreement with the Federal Home Loan Bank. This irrevocable standby letter of credit (“LOC”) is supported by loan collateral as an alternative to directly pledging investment securities on behalf of a municipal customer as collateral for their interest-bearing deposit balances. The Bank’s current unused borrowing capacity, supported by loan collateral as of September 30, 2019, is approximately $153.9 million.

67



The Bank has pledged $670.9 million of loans to secure the current outstandings, letters of credit and to provide the unused borrowing capacity.
On August 10, 2017, the Company issued $15.0 million of subordinated notes maturing on August 10, 2027 to fund the acquisition of Wells Financial Corporation. The subordinated notes are unsecured and are subordinate to the claims of other creditors of the Company. The subordinated notes mature in August 2027 with a fixed interest rate for five years of 6.75% and in August 2022, the interest rate converts to the three-month LIBOR plus 4.90% and will reset quarterly thereafter. Interest on the Notes is payable quarterly in arrears on March 31, June 30, September 30 and December 31 of each year through the maturity date.
On August 1, 2018, the Company entered into a Business Credit Agreement and related $7.5 million revolving loan and Business Note in an initial principal amount of $10.0 million. The Revolving Loan matured on August 1, 2019. On June 26, 2019, the Company entered into a credit agreement consisting of a $29.9 million term note and a $5.0 million revolving note. This term note included the refinancing of $10.1 million in existing debt and matures on June 26, 2031. This revolving note became effective on August 1, 2019, at which time it replaced the Company’s existing revolving loan arrangement, and it matures on August 1, 2020. The Revolving Loans and the Note each bear interest at a variable rate based on the U.S. Prime Rate as published in the Wall Street Journal less 75 basis points and are payable in accordance with the terms of the Loan Agreement and the Note, respectively. The proceeds from the Business Note were used to refinance the existing senior note, pay transaction fees and expenses and for financing the acquisition, by merger, of F. & M. Bancorp. of Tomah Inc.. At September 30, 2019 and December 31, 2018, there were no borrowings outstanding on this revolving loan.
Stockholders’ Equity. Total stockholders’ equity increased to $148.0 million at September 30, 2019, from $138.2 million at December 31, 2018, as the Company benefitted from the addition of earnings, the issuance of stock in the F&M acquisition and a reduction in accumulated other comprehensive loss, mainly due to lower long-term interest rates. Book value per share increased to $13.13 at September 30, 2019, from $12.62 per share at December 31, 2018. Tangible book value per share (non-GAAP) was $9.60 at September 30, 2019 - an increase of $0.54 from December 31, 2018. The components of this increase included (1) current year-to-date earnings, (2) the issuance of stock in the F&M acquisitions, (3)reduction in accumulated other comprehensive loss, due to the modest gain in the Securities Available for Sale portfolio (4) the amortization of intangible assets, partially offset by (5) the intangible created in the F&M acquisition.. Tangible book value per share is a non-GAAP measure that management believes enhances investors’ ability to better understand the Company’s financial position.

Reconciliation of tangible book value per share (non-GAAP):

Tangible book value per share at end of period
 
September 30, 2019
 
December 31,
2018
Total stockholders’ equity
 
$
148,029

 
$
138,187

Less: Preferred stock
 
—

 
—

Less: Goodwill
 
(31,841
)
 
(31,474
)
Less: Intangible assets
 
(7,999
)
 
(7,501
)
Tangible common equity (non-GAAP)
 
$
108,189

 
$
99,212

Ending common shares outstanding
 
11,270,710

 
10,953,512

Book value per share
 
$
13.13

 
$
12.62

Tangible book value per share (non-GAAP)
 
$
9.60

 
$
9.06

Liquidity and Asset / Liability Management. Our primary sources of funds are deposits; amortization, prepayments and maturities of outstanding loans; short-term investments; and borrowings. We use our sources of funds primarily to meet ongoing commitments, to pay non-renewing, maturing certificates of deposit and savings withdrawals, and to fund loan commitments. We have enhanced our liquidity monitoring and updated what we consider to be sources of on-balance sheet cash. We consider our interest-bearing cash and unpledged investment securities to be our sources of on-balance sheet liquidity. At September 30, 2019, our on-balance sheet liquidity ratio was 12.0%. While scheduled payments from the amortization of loans and maturing short-term investments are relatively predictable sources of funds, deposit flows and loan prepayments are influenced by factors partially outside of the Bank’s control, including general interest rates, economic conditions and competition. Although $249.4 million of our $418.8 million (59.6%) CD portfolio as of September 30, 2019 will mature within the next 12 months, we have historically retained a majority of our maturing CD’s. However, due to strategic pricing decisions regarding rate matching and branch closures, our retention rate may decrease in the future. Through new deposit product offerings to our branch and commercial customers, we are currently attempting to strengthen customer relationships to attract

68



additional non-rate sensitive deposits. In our present interest rate environment, and based on maturing yields, this is intended to also reduce our cost of funds.
We maintain access to additional sources of funds including FHLB borrowings and lines of credit with the Federal Reserve Bank and correspondent banks We utilize FHLB borrowings to leverage our capital base, to provide funds for our lending and investment activities, and to manage our interest rate risk. Our borrowing arrangement with the FHLB calls for pledging certain qualified real estate loans and borrowing up to 75% of the value of those loans, not to exceed 35% of the Bank’s total assets. As of September 30, 2019, we have approximately $153.9 million available under this arrangement, supported by loan collateral, as compared to $178.6 million at December 31, 2018. We maintain a line of credit with the Federal Reserve Bank which has a $1.3 million capacity, based on our current pledged collateral position. Additionally we have $15.0 million of uncommitted federal funds purchased lines of credit, as well as a $5.0 million revolving line of credit which is available as needed for general liquidity purposes.    
In reviewing our adequacy of liquidity, we review and evaluate historical financial information, including information regarding general economic conditions, current ratios, management goals and the resources available to meet our anticipated liquidity needs. Management believes that our liquidity is adequate and, to management’s knowledge, there are no known events or uncertainties that will result or are likely to reasonably result in a material increase or decrease in our liquidity.
Off-Balance Sheet Liabilities. Some of our financial instruments have off-balance sheet risk. These instruments include unused commitments for lines of credit, overdraft protection lines of credit and home equity lines of credit, as well as commitments to extend credit. As of September 30, 2019, the Company had $232.1 million in unused commitments, compared to $207.8 million in unused commitments as of December 31, 2018.
Capital Resources. As of September 30, 2019, as shown in the table below, our Tier 1 and Risk-based capital levels exceeded levels necessary to be considered “Well Capitalized” under Prompt Corrective Action provisions for both the Bank and at the Company level.
Below are the amounts and ratios for our capital levels as of the dates noted below for the Bank.
 
Actual
 
For Capital Adequacy
Purposes
 
To Be Well Capitalized
Under Prompt Corrective
Action Provisions
 
Amount
 
Ratio
 
Amount
 
 
 
Ratio
 
Amount
 
 
 
Ratio
As of September 30, 2019 (Unaudited)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total capital (to risk weighted assets)
$
157,069,000

 
13.5
%
 
$
92,966,000

 
>=
 
8.0
%
 
$
116,208,000

 
>=
 
10.0
%
Tier 1 capital (to risk weighted assets)
147,892,000

 
12.7
%
 
69,725,000

 
>=
 
6.0
%
 
92,966,000

 
>=
 
8.0
%
Common equity tier 1 capital (to risk weighted assets)
147,892,000

 
12.7
%
 
52,293,000

 
>=
 
4.5
%
 
75,535,000

 
>=
 
6.5
%
Tier 1 leverage ratio (to adjusted total assets)
147,892,000

 
10.2
%
 
57,777,000

 
>=
 
4.0
%
 
72,221,000

 
>=
 
5.0
%
As of December 31, 2018 (Audited)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total capital (to risk weighted assets)
$
126,440,000

 
12.7
%
 
$
79,651,000

 
>=
 
8.0
%
 
$
99,563,000

 
>=
 
10.0
%
Tier 1 capital (to risk weighted assets)
118,836,000

 
11.9
%
 
59,738,000

 
>=
 
6.0
%
 
79,651,000

 
>=
 
8.0
%
Common equity tier 1 capital (to risk weighted assets)
118,836,000

 
11.9
%
 
44,804,000

 
>=
 
4.5
%
 
64,716,000

 
>=
 
6.5
%
Tier 1 leverage ratio (to adjusted total assets)
118,836,000

 
9.7
%
 
48,976,000

 
>=
 
4.0
%
 
61,220,000

 
>=
 
5.0
%

At September 30, 2019, the Bank was categorized as “Well Capitalized” under Prompt Corrective Action Provisions, as determined by the OCC, our primary regulator.

69



Below are the amounts and ratios for our capital levels as of the dates noted below for the Company.
 
Actual
 
For Capital Adequacy
Purposes
 
To Be Well Capitalized
Under Prompt Corrective
Action Provisions
 
Amount
 
Ratio
 
Amount
 
 
 
Ratio
 
Amount
 
 
 
Ratio
As of September 30, 2019 (Unaudited)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total capital (to risk weighted assets)
$
132,094,000

 
11.4
%
 
$
92,966,000

 
>=
 
8.0
%
 
$
116,208,000

 
>=
 
10.0
%
Tier 1 capital (to risk weighted assets)
107,917,000

 
9.3
%
 
69,725,000

 
>=
 
6.0
%
 
92,966,000

 
>=
 
8.0
%
Common equity tier 1 capital (to risk weighted assets)
107,917,000

 
9.3
%
 
52,293,000

 
>=
 
4.5
%
 
75,535,000

 
>=
 
6.5
%
Tier 1 leverage ratio (to adjusted total assets)
107,917,000

 
7.5
%
 
57,777,000

 
>=
 
4.0
%
 
72,221,000

 
>=
 
5.0
%
As of December 31, 2018 (Audited)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total capital (to risk weighted assets)
$
123,657,000

 
12.4
%
 
$
79,651,000

 
>=
 
8.0
%
 
$
99,563,000

 
>=
 
10.0
%
Tier 1 capital (to risk weighted assets)
101,053,000

 
10.2
%
 
59,738,000

 
>=
 
6.0
%
 
79,651,000

 
>=
 
8.0
%
Common equity tier 1 capital (to risk weighted assets)
101,053,000

 
10.2
%
 
44,804,000

 
>=
 
4.5
%
 
64,716,000

 
>=
 
6.5
%
Tier 1 leverage ratio (to adjusted total assets)
101,053,000

 
8.3
%
 
48,976,000

 
>=
 
4.0
%
 
61,220,000

 
>=
 
5.0
%
At September 30, 2019, the Company was categorized as “Well Capitalized” under Prompt Corrective Action Provisions.
ITEM 3.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Our Risk When Interest Rates Change. The rates of interest we earn on assets and pay on liabilities generally are established contractually for a period of time. Market interest rates change over time and are not predictable or controllable. Accordingly, our results of operations, like those of other financial institutions, are impacted by changes in interest rates and the interest rate sensitivity of our assets and liabilities. Like other financial institutions, our interest income and interest expense are affected by general economic conditions and policies of regulatory authorities, including the monetary policies of the Federal Reserve. The risk associated with changes in interest rates and our ability to adapt to these changes is known as interest rate risk and is our most significant market risk.
How We Measure Our Risk of Interest Rate Changes. As part of our attempt to manage our exposure to changes in interest rates and comply with applicable regulations, we monitor our interest rate risk through several means including through the use of third party reporting software. In monitoring interest rate risk we continually analyze and manage assets and liabilities based on their payment streams and interest rates, the timing of their maturities, and their sensitivity to actual or potential changes in market interest rates.
In order to manage the potential for adverse effects of material and prolonged increases in interest rates on our results of operations, we adopted asset and liability management policies to better align the maturities and re-pricing terms of our interest earning assets and interest bearing liabilities. These policies are implemented by our Asset and Liability Management Committee (ALCO). The ALCO is comprised of members of the Bank’s senior management and Board of Directors. The ALCO establishes guidelines for and monitors the volume and mix of our assets and funding sources, taking into account relative costs and spreads, interest rate sensitivity and liquidity needs. The Committee’s objectives are to manage assets and funding sources to produce results that are consistent with liquidity, cash flow, capital adequacy, growth, risk and profitability goals for the Bank. The ALCO meets on a regularly scheduled basis to review, among other things, economic conditions and interest rate outlook, current and projected liquidity needs and capital position, anticipated changes in the volume and mix of assets and liabilities and interest rate risk exposure limits versus current projections pursuant to net present value of portfolio equity analysis. At each meeting, the Committee recommends strategy changes, as appropriate, based on this review. The Committee is responsible for reviewing and reporting on the effects of the policy implementations and strategies to the Bank’s Board of Directors on a regularly scheduled basis.

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In order to manage our assets and liabilities and achieve desired levels of liquidity, credit quality, cash flow, interest rate risk, profitability and capital targets, we have focused our strategies on:
•
originating shorter-term secured commercial, agriculture and consumer loan maturities;
•
originating variable rate commercial and agriculture loans;
•
managing our exposure to changes in interest rates, including, but not limited to the sale of longer-term fixed-rate residential loans in the secondary market with retained servicing;
•
originating balloon mortgage loans with a term of five years or less to minimize the impact of sudden rate changes;
•
managing our funding needs by utilizing core deposits, brokered certificates of deposits and borrowings as appropriate to extend terms and lock in fixed interest rates;
•
reducing non-interest expense and managing our efficiency ratio by implementing technologies to enhance customer service and increase employee productivity; and
•
realigning supervision and control of our branch network by modifying their configuration, staffing, locations and reporting structure to focus resources on our most productive markets.
At times, depending on the level of general interest rates, the relationship between long- and short-term interest rates, market conditions and competitive factors, the ALCO may determine to increase the Bank’s interest rate risk position somewhat in order to maintain or improve its net interest margin.
The following table sets forth, at September 30, 2019 and December 31, 2018 an analysis of our interest rate risk as measured by the estimated changes in Economic Value of Equity (“EVE”) resulting from an immediate and permanent shift in the yield curve (up 300 basis points and down 100 basis points). As of September 30, 2019 and December 31, 2018, due to the current level of interest rates, EVE estimates for decreases in interest rates greater than 200 and 100 basis points are not meaningful.
 
 
Percent Change in Economic Value of Equity (EVE)
Change in Interest Rates in Basis Points (“bp”)
Rate Shock in Rates (1)
 
At September 30, 2019
 
At December 31, 2018
 
 
 
 
 
 +300 bp
 
—
 %
 
(3
)%
 +200 bp
 
—
 %
 
(2
)%
 +100 bp
 
1
 %
 
(1
)%
 -100 bp
 
(2
)%
 
(1
)%
 -200 bp
 
3
 %
 
(5
)%
(1)
Assumes an immediate and parallel shift in the yield curve at all maturities.
Our overall interest rate sensitivity is demonstrated by net interest income shock analysis which measures the change in net interest income in the event of hypothetical changes in interest rates. This analysis assesses the risk of change in our net interest income over the next 12 months in the event of an immediate and parallel shift in the yield curve (up 300 basis points and down 100 basis points). The table below presents our projected change in net interest income for the various rate shock levels at September 30, 2019 and December 31, 2018.
 
 
Percent Change in Net Interest Income Over One Year Horizon
Change in Interest Rates in Basis Points (“bp”)
Rate Shock in Rates (1)
 
At September 30, 2019
 
At December 31, 2018
 
 
 
 
 
 +300 bp
 
(1
)%
 
(6
)%
 +200 bp
 
(1
)%
 
(4
)%
 +100 bp
 
(1
)%
 
(2
)%
 -100 bp
 
(1
)%
 
1
 %
 -200 bp
 
(5
)%
 
(1
)%
(1)
Assumes an immediate and parallel shift in the yield curve at all maturities.
Note: The table above may not be indicative of future results.

71



The assumptions used to measure and assess interest rate risk include interest rates, loan prepayment rates, deposit decay (runoff) rates, and the market values of certain assets under differing interest rate scenarios. Actual values may differ from those projections set forth above should market conditions vary from the assumptions used in preparing the analysis. Further, the computations do not contemplate any actions we may undertake in response to changes in interest rates.
ITEM 4.
CONTROLS AND PROCEDURES
We maintain disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) that are designed to ensure that information required to be disclosed in the reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms, and that the information required to be disclosed in reports that we file or submit under the Exchange Act is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure.

In designing and evaluating the disclosure controls and procedures, we recognize that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management necessarily was required to apply judgment in evaluating the cost-benefit relationship of possible controls and procedures. We have designed our disclosure controls and procedures to reach a level of reasonable assurance of achieving the desired control objectives. We carried out an evaluation as of September 30, 2019, under the supervision and with the participation of the Company’s management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures. Based on this evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective as of September 30, 2019 at reaching a level of reasonable assurance.

There was no change in the Company’s internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the Company’s most recently completed fiscal quarter that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting. On October 19, 2018, we completed our acquisition of United Bank. In accordance with our integration efforts, we are in the process of integrating United Bank operations into our internal control over financial reporting structure within the time frame provided by applicable SEC rules and regulations.
PART II – OTHER INFORMATION
Item 1.
LEGAL PROCEEDINGS
In the normal course of business, the Company and/or the Bank occasionally become involved in other various legal proceedings. In our opinion, any liability from such proceedings would not have a material adverse effect on the business or financial condition of the Company.

72




Item 1A.
RISK FACTORS
A detailed discussion of the Company’s risk factors is disclosed in Part I, Item 1A, “Risk Factors,” of the Company’s transition report on Form 10-K for the transition period from October 1, 2018 to December 31, 2018. Please refer to that section for disclosures regarding the risks and uncertainties relating to our business. There have been no material changes to the risk factors disclosed in our Form 10-K.
Item 2.
UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
(a)
Not applicable.
(b)
Not applicable.
(c)
Issuer Purchases of Equity Securities.
The table below shows the shares withheld from employees to satisfy tax withholding obligations during the three months ended September 30, 2019.
Period
 
Total number of Shares Purchased (1)
 
Average Price Paid per Share
 
Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs
 
Maximum Number of Shares that May Yet Be Purchased Under the Pans or Programs
July 1, 2019 - July 31, 2019
 
—
 
NA
 
—
 
—
August 1, 2019 - August 31, 2019
 
64
 
$11.00
 
—
 
—
September 1, 2019 - September 30, 2019
 
233
 
$11.00
 
—
 
—
Total
 
297
 
$11.00
 
—
 
—
(1) Represents shares of common stock withheld from employees to satisfy tax withholding obligations associated with the vesting of restricted stock awards.
Item 3.
DEFAULTS UPON SENIOR SECURITIES
Not applicable.
Item 4.
MINE SAFETY DISCLOSURES
Not applicable.
Item 5.
OTHER INFORMATION
Not applicable.

73



Item 6.
Item 7.
EXHIBITS
(a) Exhibits
 
 
 
 
 
101
 
The following materials from Citizens Community Bancorp, Inc.’s Quarterly Report on Form 10-Q for the fiscal quarter ended September 30, 2019 formatted in XBRL (eXtensible Business Reporting Language) and furnished electronically herewith: (i) Consolidated Balance Sheets; (ii) Consolidated Statements of Operations; (iii) Consolidated Statements of Comprehensive Income (Loss); (iv) Consolidated Statement of Changes in Stockholders’ Equity; (v) Consolidated Statements of Cash Flows; and (vi) Condensed Notes to Consolidated Financial Statements.
*
This certification is not “filed” for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, or incorporated by reference into any filing under the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended.

74




SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
 
 
CITIZENS COMMUNITY BANCORP, INC.
 
 
 
Date: November 7, 2019
 
By:
 
/s/ Stephen M. Bianchi
 
 
 
 
Stephen M. Bianchi
 
 
 
 
Chief Executive Officer
 
 
 
Date: November 7, 2019
 
By:
 
/s/ James S. Broucek
 
 
 
 
James S. Broucek
 
 
 
 
Chief Financial Officer

75