10-Q 1 v393482_10q.htm FORM 10-Q

 

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 1934

 

For the quarterly period ended September 30, 2014

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 __________________________000-13232_________________________

 

Juniata Valley Financial Corp.
(Exact name of registrant as specified in its charter)

 

Pennsylvania 23-2235254
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
   
Bridge and Main Streets, Mifflintown, Pennsylvania 17059
(Address of principal executive offices) (Zip Code)

 

(717) 436-8211
(Registrant’s telephone number, including area code)

  

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

  x  Yes ¨ No

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). 

  x  Yes ¨ No

  

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer   ¨ Accelerated filer  x
Non-accelerated filer ¨ (Do not check if a smaller reporting company) Smaller reporting company  ¨

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

¨ Yes x No

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

 

Class   Outstanding as of November 7, 2014
Common Stock ($1.00 par value)   4,189,607 shares

 

 
 

  

TABLE OF CONTENTS

 

PART I - FINANCIAL INFORMATION
     
Item 1. Financial Statements  
     
  Consolidated Statements of Financial Condition as of September 30, 2014 and December 31, 2013 (Unaudited)   3
     
  Consolidated Statements of Income for the Three and Nine Months Ended September 30, 2014 and 2013 (Unaudited)   4
     
  Consolidated Statements of Comprehensive Income for the Three and Nine Months Ended September 30, 2014 and 2013 (Unaudited)   5
     
  Consolidated Statements of Stockholders’ Equity for the Nine Months Ended September 30, 2014 and 2013 (Unaudited) 6
     
  Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 2014 and 2013 (Unaudited)   7
     
  Notes to Consolidated Financial Statements (Unaudited) 8
     
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 32
     
Item 3. Quantitative and Qualitative Disclosures about Market Risk 43
     
Item 4. Controls and Procedures 44
     
PART II - OTHER INFORMATION
     
Item 1. Legal Proceedings 45
     
Item 1A. Risk Factors 45
     
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 45
     
Item 3. Defaults upon Senior Securities 46
     
Item 4. Mine Safety Disclosures 46
     
Item 5. Other Information 46
     
Item 6. Exhibits 46
     
  Signatures 47

 

 
 

  

PART I - FINANCIAL INFORMATION

Item 1. Financial Statements

 

Juniata Valley Financial Corp. and Subsidiary

Consolidated Statements of Financial Condition

( Unaudited, in thousands, except share data)

 

   September 30,   December 31, 
   2014   2013 
ASSETS          
Cash and due from banks  $7,580   $8,570 
Interest bearing deposits with banks   78    43 
Cash and cash equivalents   7,658    8,613 
           
Interest bearing time deposits with banks   -    249 
Securities available for sale   150,025    126,046 
Restricted investment in Federal Home Loan Bank (FHLB) stock   3,080    1,967 
Investment in unconsolidated subsidiary   4,289    4,172 
Total loans   287,441    277,798 
Less: Allowance for loan losses   (2,336)   (2,287)
Total loans, net of allowance for loan losses   285,105    275,511 
Premises and equipment, net   6,253    6,330 
Other real estate owned   276    281 
Bank owned life insurance and annuities   14,720    14,848 
Investment in low income housing partnership   3,966    3,990 
Core deposit intangible   85    119 
Goodwill   2,046    2,046 
Mortgage servicing rights   183    167 
Accrued interest receivable and other assets   5,023    4,443 
Total assets  $482,709   $448,782 
LIABILITIES AND STOCKHOLDERS' EQUITY          
Liabilities:          
Deposits:          
Non-interest bearing  $76,132   $74,611 
Interest bearing   309,824    305,034 
Total deposits   385,956    379,645 
           
Securities sold under agreements to repurchase   3,996    5,397 
Short-term borrowings   14,084    8,400 
Long-term debt   22,500    - 
Other interest bearing liabilities   1,388    1,356 
Accrued interest payable and other liabilities   3,956    4,000 
Total liabilities   431,880    398,798 
Stockholders' Equity:          
Preferred stock, no par value:          
Authorized - 500,000 shares, none issued   -    - 
Common stock, par value $1.00 per share:          
Authorized - 20,000,000 shares        
Issued - 4,745,826 shares          
Outstanding -          
4,189,607 shares at September 30, 2014;          
4,196,266 shares at December 31, 2013   4,746    4,746  
Surplus   18,398    18,370 
Retained earnings   39,474    39,118 
Accumulated other comprehensive loss   (1,083)   (1,659)
Cost of common stock in Treasury:          
556,219 shares at September 30, 2014;          
549,560 shares at December 31, 2013    (10,706)   (10,591)
Total stockholders' equity   50,829    49,984 
Total liabilities and stockholders' equity  $482,709   $448,782 

 

See Notes to Consolidated Financial Statements

 

3
 

  

Juniata Valley Financial Corp. and Subsidiary

Consolidated Statements of Income

(Unaudited, in thousands, except share and per share data)

 

   Three Months Ended   Nine Months Ended 
   September 30,   September 30, 
   2014   2013   2014   2013 
Interest income:                    
Loans, including fees  $3,566   $3,743   $10,778   $11,140 
Taxable securities   529    329    1,419    938 
Tax-exempt securities   131    149    387    447 
Other interest income   1    3    4    16 
Total interest income   4,227    4,224    12,588    12,541 
Interest expense:                    
Deposits   583    711    1,812    2,204 
Securities sold under agreements to repurchase   1    1    3    3 
Short-term borrowings   3    -    5    - 
Long-term debt   69    -    138    - 
Other interest bearing liabilities   4    7    12    16 
Total interest expense   660    719    1,970    2,223 
Net interest income   3,567    3,505    10,618    10,318 
Provision for loan losses   110    100    247    266 
Net interest income after provision for loan losses   3,457    3,405    10,371    10,052 
Non-interest income:                    
Customer service fees   320    341    878    961 
Debit card fee income   213    211    631    610 
Earnings on bank-owned life insurance and annuities   108    112    299    317 
Trust fees   124    83    331    257 
Commissions from sales of non-deposit products   89    73    289    292 
Income from unconsolidated subsidiary   54    42    148    146 
Fees derived from loan activity   79    14    149    126 
Gain on sales of loans   54    84    139    265 
Net gain (loss) on sales and calls of securities   2    (1)   9    - 
Gain from life insurance proceeds   -    -    165    - 
Other non-interest income   50    64    145    181 
Total non-interest income   1,093    1,023    3,183    3,155 
Non-interest expense:                    
Employee compensation expense   1,469    1,358    4,318    3,968 
Employee benefits   301    399    1,067    1,245 
Occupancy   228    234    747    719 
Equipment   114    116    344    350 
Data processing expense   391    367    1,141    1,082 
Director compensation   48    56    156    169 
Professional fees   103    95    301    281 
Taxes, other than income   78    120    262    362 
FDIC Insurance premiums   76    75    231    247 
Loss (gain) on sales of other real estate owned   13    (3)   24    (37)
Amortization of intangibles   12    12    34    34 
Amortization of investment in low-income housing partnership   120    145    359    290 
Other non-interest expense   385    375    1,091    1,004 
Total non-interest expense   3,338    3,349    10,075    9,714 
Income before income taxes   1,212    1,079    3,479    3,493 
Provision for income taxes   154    60    355    459 
Net income  $1,058   $1,019   $3,124   $3,034 
Earnings per share                    
Basic  $0.25   $0.24   $0.74   $0.72 
Diluted  $0.25   $0.24   $0.74   $0.72 
Cash dividends declared per share  $0.22   $0.22   $0.66   $0.66 
Weighted average basic shares outstanding   4,189,998    4,208,567    4,193,895    4,215,009 
Weighted average diluted shares outstanding   4,190,342    4,208,972    4,194,184    4,216,000 

 

See Notes to Consolidated Financial Statements

 

4
 

  

Juniata Valley Financial Corp. and Subsidiary

Consolidated Statements of Comprehensive Income

(Unaudited, in thousands)

 

   Three Months Ended September 30,
2014
   Three Months Ended September 30,
2013
 
   Before       Net of   Before       Net of 
   Tax   Tax   Tax   Tax   Tax   Tax 
   Amount   Effect   Amount   Amount   Effect   Amount 
Net income  $ 1,212   $ (154  $ 1,058   $ 1,079   $ (60  $ 1,019 
Other comprehensive (loss) income:                              
Unrealized (losses) gains on available for sale securities:                              
Unrealized holding (losses) gains arising during the period   (543)   184    (359)   249    (86)   163 
Unrealized holding losses from unconsolidated subsidiary   (4)   -    (4)   -    -    - 
Less reclassification adjustment for losses included in net income (1) (3)   (2)   -    (2)   1    -    1 
Amortization of pension net actuarial cost (2) (3)   10    (3)   7    51    (17)   34 
Other comprehensive (loss) income   (539)   181    (358)   301    (103)   198 
Total comprehensive income  $673   $27   $700   $1,380   $(163)  $1,217 

 

   Nine Months Ended September 30,
2014
   Nine Months Ended September 30,
2013
 
   Before       Net of   Before       Net of 
   Tax   Tax   Tax   Tax   Tax   Tax 
   Amount   Effect   Amount   Amount   Effect   Amount 
Net income  $ 3,479   $ (355  $ 3,124   $ 3,493   $ (459)  $ 3,034 
Other comprehensive (loss) income:                              
Unrealized gains (losses) on available for sale securities:                              
Unrealized holding gains (losses) arising during the period   844    (288)   556    (2,004)   681    (1,323)
Unrealized holding gains (losses) from unconsolidated subsidiary   6    -    6    (16)   -    (16)
Less reclassification adjustment for gains included in net income (1) (3)   (9)   3    (6)   -    -    - 
Amortization of pension net actuarial cost (2) (3)   30    (10)   20    153    (52)   101 
Other comprehensive income (loss)   871    (295)   576    (1,867)   629    (1,238)
Total comprehensive income  $4,350   $(650)  $3,700   $1,626   $170   $1,796 

 

See Notes to Consolidated Financial Statements

 

(1)Amounts are included in gain on calls of securities on the Consolidated Statements of Income as a separate element within total non-interest income.
(2)Amounts are included in the computation of net periodic benefit cost and are included in employee benefits expense on the Consolidated Statements of Income as a separate element within total non-interest expense.
(3)Income tax amounts are included in the provision for income taxes on the Consolidated Statements of Income.

 

5
 

  

Juniata Valley Financial Corp. and Subsidiary

Consolidated Statements of Stockholders' Equity

(Unaudited, in thousands, except share data)

  

 Nine Months Ended September 30, 2014  
   Number               Accumulated         
   of               Other       Total 
   Shares   Common       Retained   Comprehensive   Treasury   Stockholders' 
   Outstanding   Stock   Surplus   Earnings   Loss   Stock   Equity 
Balance at January 1, 2014   4,196,266   $4,746   $18,370   $39,118   $(1,659)  $(10,591)  $49,984 
Net income                  3,124              3,124 
Other comprehensive income                       576         576 
Cash dividends at $0.66 per share                  (2,768)             (2,768)
Stock-based compensation             36                   36 
Purchase of treasury stock   (10,156)                       (182)   (182)
Treasury stock issued for stock purchase plans   3,497         (8)             67    59 
                                    
Balance at September 30, 2014   4,189,607   $4,746   $18,398   $39,474   $(1,083)  $(10,706)  $50,829 

 

Nine Months Ended September 30, 2013
   Number           Accumulated      
   of           Other     Total
   Shares  Common     Retained  Comprehensive  Treasury  Stockholders'
   Outstanding  Stock  Surplus  Earnings  Loss  Stock  Equity
Balance at January 1, 2013   4,218,361   $4,746   $18,346   $38,824   $(1,419)  $(10,200)  $50,297 
Net income                  3,034              3,034 
Other comprehensive loss                       (1,238)        (1,238)
Cash dividends at $0.66 per share                  (2,784)             (2,784)
Stock-based compensation             23                   23 
Purchase of treasury stock   (24,618)                       (440)   (440)
Treasury stock issued for stock purchase plans   2,823         (6)             54    48 
                                    
Balance at September 30, 2013   4,196,566   $4,746   $18,363   $39,074   $(2,657)  $(10,586)  $48,940 

 

See Notes to Consolidated Financial Statements

 

6
 

  

Juniata Valley Financial Corp. and Subsidiary

Consolidated Statements of Cash Flows

(Unaudited, in thousands)

 

   Nine Months Ended September 30, 
  2014   2013 
Operating activities:          
Net income  $3,124   $3,034 
Adjustments to reconcile net income to net cash provided by operating activities:          
Provision for loan losses   247    266 
Depreciation   361    376 
Net amortization of securities premiums   445    335 
Net amortization of loan origination costs   4    25 
Deferred net loan origination costs   57    5 
Amortization of core deposit intangible   34    34 
Amortization of investment in low income housing partnership   359    290 
Net realized gain on calls and sales of securities   (9)   - 
Net loss (gain) on sales of other real estate owned   24    (37)
Earnings on bank owned life insurance and annuities   (299)   (317)
Deferred income tax expense   96    312 
Equity in earnings of unconsolidated subsidiary, net of dividends of $37 and $36   (111)   (110)
Stock-based compensation expense   36    23 
Mortgage loans originated for sale   (2,292)   (6,911)
Proceeds from loans sold to others   2,415    7,129 
Gains on sales of loans   (139)   (265)
Gain from life insurance proceeds   (165)   - 
Increase in accrued interest receivable and other assets   (941)   (140)
Increase (decrease) in accrued interest payable and other liabilities   16    (481)
Net cash provided by operating activities   3,262    3,568 
Investing activities:          
Purchases of:          
Securities available for sale   (66,191)   (39,001)
FHLB stock   (1,113)   - 
Premises and equipment   (284)   (73)
Bank owned life insurance and annuities   (56)   (64)
Proceeds from:          
Sales of securities available for sale   14,631    - 
Maturities of and principal repayments on securities available for sale   27,980    30,847 
Redemption of FHLB stock   -    (339)
Bank owned life insurance and annuities   5    6 
Life insurance claim   615    - 
Sale of other real estate owned   349    444 
Sale of other assets   -    18 
Investment in low income housing partnership   (335)   (477)
Net decrease in interest bearing time deposits with banks   249    598 
Net increase in loans   (10,270)   (6,834)
Net cash used in investing activities   (34,420)   (14,875)
Financing activities:          
Net increase (decrease) in deposits   6,311    (3,009)
Net change in short-term borrowings and securities sold under agreements to repurchase   4,283    12,907 
Issuance of long-term debt   22,500    - 
Cash dividends   (2,768)   (2,784)
Purchase of treasury stock   (182)   (440)
Treasury stock issued for employee stock plans   59    48 
Net cash provided by financing activities   30,203    6,722 
Net decrease in cash and cash equivalents   (955)   (4,585)
Cash and cash equivalents at beginning of year   8,613    14,397 
Cash and cash equivalents at end of period  $7,658   $9,812 
Supplemental information:          
Interest paid  $1,943   $2,273 
Income taxes paid   50    695 
Supplemental schedule of noncash investing and financing activities:          
Transfer of loans to other real estate owned  $368   $424 
Transfer of loans to other assets   -    18 

 

See Notes to Consolidated Financial Statements

 

7
 

  

JUNIATA VALLEY FINANCIAL CORP. AND SUBSIDIARY

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

 

1. Basis of Presentation and Accounting Policies

 

The consolidated financial statements include the accounts of Juniata Valley Financial Corp. (the “Company”) and its wholly owned subsidiary, The Juniata Valley Bank (the “Bank”). All significant intercompany accounts and transactions have been eliminated.

 

The accompanying unaudited consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles for interim financial information. Accordingly, they do not include all of the information and footnotes required by U.S. generally accepted accounting principles (U.S. GAAP) for complete consolidated financial statements. In the opinion of management, all adjustments considered necessary for fair presentation have been included. Operating results for the three month and nine month periods ended September 30, 2014 are not necessarily indicative of the results for the year ending December 31, 2014. For further information, refer to the consolidated financial statements and notes thereto included in Juniata Valley Financial Corp.’s Annual Report on Form 10-K for the year ended December 31, 2013.

 

The Company has evaluated events and transactions occurring subsequent to the consolidated statement of financial condition date of September 30, 2014 for items that should potentially be recognized or disclosed in these consolidated financial statements. The evaluation was conducted through the date these consolidated financial statements were issued.

 

2. Recent Accounting Standards Updates (ASU)

 

Accounting Standards Update 2014-01, Investments – Equity Method and Joint Ventures (Topic 323): Accounting for Investments in Qualified Affordable Housing Projects (a consensus of the FASB Emerging Issues Task Force)

 

Issued: January 2014

 

Summary:  The Low Income Housing Tax Credit is a program designed to encourage investment of private capital for use in the construction and rehabilitation of low income housing, which provides certain tax benefits to investors in those projects.  The amendments in this Update permit a reporting entity that invests in qualified affordable housing projects to account for the investments using a proportional amortization method if certain conditions are met.  If an entity elects the proportional amortization method, it will amortize the initial cost of the investment in proportion to the tax credits and other tax benefits received and recognize the net investment performance in the income statement as a component of income tax expense.  Otherwise, the entity would apply either the equity method or the cost method, as appropriate.

 

Effective Date and Transition:  The amendments in this Update are effective for public business entities for annual periods and interim reporting periods within those annual periods, beginning after December 15, 2014. Early adoption is permitted.  If adopted, the amendments should be applied retrospectively to all periods presented.  A reporting entity that uses the effective yield method to account for its investments in qualified affordable housing projects before the date of adoption may continue to apply the effective yield method for those preexisting investments. The Company is currently evaluating the impact of this Update on its consolidated financial statements.

 

Accounting Standards Update 2014-04, Receivables – Troubled Debt Restructurings by Creditors (Subtopic 310-40): Reclassification of Residential Real Estate Collateralized Consumer Mortgage Loans upon Foreclosure (a consensus of the FASB Emerging Issues Task Force)

 

8
 

  

Issued: January 2014

 

Summary:  The Update clarifies that when an in substance repossession or foreclosure occurs, and a creditor is considered to have received physical possession of residential real estate property collateralizing a consumer mortgage loan, upon either (1) the creditor obtaining legal title to the residential real estate property upon completion of a foreclosure or (2) the borrower conveying all interest in the residential real estate property to the creditor to satisfy that loan through completion of a deed in lieu of foreclosure or through a similar legal agreement.

 

Effective Date and Transition:  The Amendments in this Update are effective for public business entities for annual periods and interim periods within those annual periods, beginning after December 15, 2014. Early adoption is permitted. If adopted, an entity can elect to adopt the amendments in this update using either a modified retrospective transition method or a prospective transition method. The Company is evaluating the effects this Update will have on its consolidated financial condition or results of operation.

 

Accounting Standards Update 2014-09, Revenue from Contracts with Customers (Topic 606)

 

Issued: May 2014

 

Summary: The amendments in this Update establish a comprehensive revenue recognition standard for virtually all industries under U.S. GAAP, including those that previously followed industry-specific guidance such as the real estate, construction and software industries. The revenue standard’s core principle is built on the contract between a vendor and a customer for the provision of goods and services. It attempts to depict the exchange of rights and obligations between the parties in the pattern of revenue recognition based on the consideration to which the vendor is entitled. To accomplish this objective, the standard requires five basic steps: (i) identify the contract with the customer, (ii) identify the performance obligations in the contract, (iii) determine the transaction price, (iv) allocate the transaction price to the performance obligations in the contract, and (v) recognize revenue when (or as) the entity satisfies a performance obligation.

 

Effective Date and Transition: Public entities will apply the new standard for annual reports beginning after December 15, 2016, including interim periods therein. Three basic transition methods are available – full retrospective, retrospective with certain practical expedients, and a cumulative effect approach. Under the third alternative, an entity would apply the new revenue standard only to contracts that are incomplete under legacy U.S. GAAP at the date of initial application (e.g. January 1, 2017) and recognize the cumulative effect of the new standard as an adjustment to the opening balance of retained earnings. That is, prior years would not be restated and additional disclosures would be required to enable users of the financial statements to understand the impact of adopting the new standard in the current year compared to prior years that are presented under legacy U.S. GAAP. Early adoption is prohibited under U.S. GAAP. The Company is evaluating the effects this Update will have on its consolidated financial condition or results of operation.

 

Accounting Standards Update 2014-14, Receivables – Troubled Debt Restructurings by Creditors (Subtopic 310-40): Classification of Certain Government-Guaranteed Mortgage Loans upon Foreclosure (a consensus of the FASB Emerging Issues Task Force)

 

Issued: August 2014

 

Summary: The amendments in this Update address a practice issue related to the classification of certain foreclosed residential and nonresidential mortgage loans that are either fully or partially guaranteed under government programs. Specifically, creditors should reclassify loans that meet certain conditions to "other receivables" upon foreclosure, rather than reclassifying them to other real estate owned (OREO). The separate other receivable recorded upon foreclosure is to be measured based on the amount of the loan balance (principal and interest) the creditor expects to recover from the guarantor.

 

Effective Date and Transition: The ASU is effective for public business entities for annual periods, and interim periods within those annual periods, beginning after December 15, 2014. For all other entities, the amendments are effective for annual periods ending after December 15, 2015, and interim periods beginning after December 15, 2015. Early adoption is permitted, if the entity has already adopted ASU 2014-04, Reclassification of Residential Real Estate Collateralized Consumer Mortgage Loans upon Foreclosure. Transition methods include a prospective method and a modified retrospective method; however, entities must apply the same transition method as elected under ASU 2014-04. The Company is evaluating the effects this Update will have on its consolidated financial condition or results of operation.

 

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3. Accumulated other Comprehensive loss

 

Components of accumulated other comprehensive loss, net of tax consisted of the following (in thousands):

 

   9/30/2014   12/31/2013 
Unrealized losses on available for sale securities  $(194)  $(751)
Unrecognized expense for defined benefit pension   (889)   (908)
Accumulated other comprehensive loss  $(1,083)  $(1,659)

 

4. Earnings Per Share

 

Basic earnings per share (EPS) is computed by dividing net income by the weighted average number of common shares outstanding for the period. Diluted EPS reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock or resulted in the issuance of common stock that then shared in the earnings of the Company. Potential common shares that may be issued by the Company relate solely to outstanding stock options and are determined using the treasury stock method. The following table sets forth the computation of basic and diluted earnings per share:

 

(Amounts, except earnings per share, in thousands)        
   Three Months   Three Months 
   Ended   Ended 
   September 30, 2014   September 30, 2013 
Net income  $ 1,058   $ 1,019 
Weighted-average common shares outstanding   4,190    4,208 
Basic earnings per share  $0.25   $0.24 
           
Weighted-average common shares outstanding   4,190    4,208 
Common stock equivalents due to effect of stock options   -    1 
Total weighted-average common shares and equivalents   4,190    4,209 
Diluted earnings per share  $0.25   $0.24 

 

   Nine Months   Nine Months 
   Ended   Ended 
   September 30, 2014   September 30, 2013 
Net income  $3,124   $3,034 
Weighted-average common shares outstanding   4,194    4,215 
Basic earnings per share  $0.74   $0.72 
           
Weighted-average common shares outstanding   4,194    4,215 
Common stock equivalents due to effect of stock options   -    1 
Total weighted-average common shares and equivalents   4,194    4,216 
Diluted earnings per share  $0.74   $0.72 

 

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5. Securities

 

The Company’s investment portfolio includes primarily bonds issued by U.S. Government sponsored agencies (approximately 35%), mortgage-backed securities issued by Government-sponsored agencies and backed by residential mortgages (approximately 38%) and municipal bonds (approximately 26%) as of September 30, 2014. Most of the municipal bonds are general obligation bonds with maturities or pre-refunding dates within 5 years. The remaining 1% of the portfolio includes a group of equity investments in other financial institutions.

 

The amortized cost and fair value of securities as of September 30, 2014 and December 31, 2013, by contractual maturity, are shown below (in thousands). Expected maturities may differ from contractual maturities because the securities may be called or prepaid with or without prepayment penalties.

 

   September 30, 2014 
Securities Available for Sale          Gross   Gross 
   Amortized   Fair   Unrealized   Unrealized 
Type and maturity  Cost   Value   Gains   Losses 
Obligations of U.S. Government agencies and corporations                    
 Within one year  $4,016   $4,059   $43   $- 
 After one year but within five years   41,616    41,063    58    (611)
 After five years but within ten years   6,996    6,740    -    (256)
    52,628    51,862    101    (867)
Obligations of state and political subdivisions                    
 Within one year   10,388    10,420    32    - 
 After one year but within five years   20,172    20,292    138    (18)
 After five years but within ten years   8,623    8,742    123    (4)
 After ten years   342    339    -    (3)
    39,525    39,793    293    (25)
                     
Mortgage-backed securities   57,120    56,948    72    (244)
Equity securities   1,055    1,422    399    (32)
Total  $150,328   $150,025   $865   $(1,168)

 

   December 31, 2013 
Securities Available for Sale          Gross   Gross 
   Amortized   Fair   Unrealized   Unrealized 
Type and maturity  Cost   Value   Gains   Losses 
Obligations of U.S. Government agencies and corporations                    
 Within one year  $4,177   $4,192   $15   $- 
 After one year but within five years   48,011    47,578    203    (636)
 After five years but within ten years   27,615    26,508    -    (1,107)
    79,803    78,278    218    (1,743)
Obligations of state and political subdivisions                    
 Within one year   8,260    8,314    55    (1)
 After one year but within five years   26,027    26,098    133    (62)
 After five years but within ten years   7,224    7,182    56    (98)
 After ten years   350    338    -    (12)
    41,861    41,932    244    (173)
                     
Mortgage-backed securities   4,465    4,469    7    (3)
Equity securities   1,055    1,367    366    (54)
Total  $127,184   $126,046   $835   $(1,973)

 

Certain obligations of the U.S. Government and state and political subdivisions are pledged to secure public deposits, securities sold under agreements to repurchase and for other purposes as required or permitted by law. The carrying value of the pledged assets was $29,120,000 and $31,921,000 at September 30, 2014 and December 31, 2013, respectively.

 

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In addition to cash received from the scheduled maturities of securities, some investment securities available for sale are sold or called at current market values during the course of normal operations.

 

Following is a summary of proceeds received from sales or calls of investment securities transactions and the resulting realized gains and losses (in thousands):

 

   Three Months Ended   Nine Months Ended 
   September 30,   September 30, 
   2014   2013   2014   2013 
Gross proceeds from sales of securities  $7,511   $-   $14,631   $- 
Securities available for sale:                    
Gross realized gains from sold and called securities  $26   $-   $43   $- 
Gross realized losses from sold and called securities   (24)   (1)   (34)   - 

 

Accounting Standards Codification (ASC) Topic 320, Investments – Debt and Equity Securities, clarifies the interaction of the factors that should be considered when determining whether a debt security is other-than-temporarily impaired. For debt securities, management must assess whether (a) it has the intent to sell the security and (b) it is more likely than not that it will be required to sell the security prior to its anticipated recovery. These steps are taken before an assessment is made as to whether the entity will recover the cost basis of the investment. For equity securities, consideration is given to management’s intention and ability to hold the securities until recovery of unrealized losses in assessing potential other-than-temporary impairment. More specifically, factors considered to determine other-than-temporary impairment status for individual equity holdings include the length of time the stock has remained in an unrealized loss position, the percentage of unrealized loss compared to the carrying cost of the stock, dividend reduction or suspension, market analyst reviews and expectations, and other pertinent factors that would affect expectations for recovery or further decline.

 

In instances when a determination is made that an other-than-temporary impairment exists and the entity does not intend to sell the debt security and it is not more likely than not that it will be required to sell the debt security prior to its anticipated recovery, the other-than-temporary impairment is separated into the amount of the total other-than-temporary impairment related to a decrease in cash flows expected to be collected from the debt security (the credit loss) and the amount of the total other-than-temporary impairment related to all other factors. The amount of the total other-than-temporary impairment related to the credit loss is recognized in earnings. The amount of the total other-than-temporary impairment related to all other factors is recognized in other comprehensive (loss) income.

 

The following table shows gross unrealized losses and fair value, aggregated by category and length of time that individual securities have been in a continuous unrealized loss position, at September 30, 2014 and December 31, 2013 (in thousands):

  

   Unrealized Losses at September 30, 2014 
   Less Than 12 Months   12 Months or More   Total 
   Fair   Unrealized   Fair   Unrealized   Fair   Unrealized 
   Value   Losses   Value   Losses   Value   Losses 
Obligations of U.S. Government agencies and corporations  $9,014   $(52)  $36,095   $(815)  $45,109   $(867)
Obligations of state and political subdivisions   3,773    (8)   2,456    (17)   6,229    (25)
Mortgage-backed securities   35,886    (243)   96    (1)   35,982    (244)
Debt securities   48,673    (303)   38,647    (833)   87,320    (1,136)
                               
Equity securities   102    (4)   179    (28)   281    (32)
                               
Total temporarily impaired securities  $48,775   $(307)  $38,826   $(861)  $87,601   $(1,168)

 

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   Unrealized Losses at December 31, 2013 
   Less Than 12 Months   12 Months or More   Total 
   Fair   Unrealized   Fair   Unrealized   Fair   Unrealized 
   Value   Losses   Value   Losses   Value   Losses 
Obligations of U.S. Government agencies and corporations  $53,438   $(1,664)  $1,921   $(79)  $55,359   $(1,743)
Obligations of state and political subdivisions   11,496    (130)   4,301    (43)   15,797    (173)
Mortgage-backed securities   308    (3)   -    -    308    (3)
Debt securities   65,242    (1,797)   6,222    (122)   71,464    (1,919)
                               
Equity securities   -    -    266    (54)   266    (54)
                               
Total temporarily impaired securities  $65,242   $(1,797)  $6,488   $(176)  $71,730   $(1,973)

 

At September 30, 2014, 34 U.S. Government agency and corporations securities had unrealized losses that, in the aggregate, totaled 1.9% of amortized cost. Twenty-seven of these securities have been in a continuous loss position for 12 months or more.

 

At September 30, 2014, 17 obligations of state and political subdivisions had unrealized losses that, in the aggregate, totaled 0.4% of amortized cost. Six of these securities have been in a continuous loss position for 12 months or more.

 

At September 30, 2014, fifteen mortgage-backed securities had an unrealized loss that totaled 0.4% of amortized cost. One of these securities has been in a continuous loss position for 12 months or more.

 

The mortgage-backed securities in the Company’s portfolio are government sponsored enterprise (GSE) pass-through instruments issued by the Federal National Mortgage Association (FNMA) or Federal Home Loan Mortgage Corporation (FHLMC), which guarantees the timely payment of principal on these investments.

 

The unrealized losses noted above are considered to be temporary impairments. The decline in the values of the debt securities is due only to interest rate fluctuations, rather than erosion of issuer credit quality. As a result, the payment of contractual cash flows, including principal repayment, is not at risk. As the Company does not intend to sell the securities, does not believe the Company will be required to sell the securities before recovery and expects to recover the entire amortized cost basis, none of the debt securities are deemed to be other-than-temporarily impaired.

 

Equity securities owned by the Company consist of common stock of various financial services providers and are evaluated quarterly for evidence of other-than-temporary impairment. There were three equity securities that were in an unrealized loss position for 12 months or more as of September 30, 2014. Individually, none of these three equity securities have significant unrealized losses. All of these securities have increased in fair value in the preceding twelve months, and therefore are deemed to be temporarily impaired. Management has identified no other-than-temporary impairment as of, or for the periods ended September 30, 2014, September 30, 2013 and December 31, 2013 in the equity portfolio. Management continues to track the performance of each stock owned to determine if it is prudent to recognize any other-than-temporary impairment charges. The Company has the ability and intent to hold its equity securities until recovery of unrealized losses.

 

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6. Loans and Related Allowance for Credit Losses

 

Loans that the Company has the intent and ability to hold for the foreseeable future or until maturity or payoff are stated at the outstanding unpaid principal balances, net of any deferred fees or costs and the allowance for loan losses. Interest income on all loans, other than nonaccrual loans, is accrued over the term of the loans based on the amount of principal outstanding. Unearned income is amortized to income over the life of the loans, using the interest method.

 

The loan portfolio is segmented into commercial and consumer loans. Commercial loans are comprised of the following classes of loans: (1) commercial, financial and agricultural, (2) commercial real estate, (3) real estate construction, a portion of (4) mortgage loans and (5) obligations of states and political subdivisions. Consumer loans are comprised of a portion of (4) mortgage loans and (6) personal loans.

 

Loans on which the accrual of interest has been discontinued are designated as non-accrual loans. Accrual of interest on loans is generally discontinued when the contractual payment of principal or interest has become 90 days past due or reasonable doubt exists as to the full, timely collection of principal or interest. However, it is the Company’s policy to continue to accrue interest on loans over 90 days past due as long as (1) they are guaranteed or well secured and (2) there is an effective means of timely collection in process. When a loan is placed on non-accrual status, all unpaid interest credited to income in the current year is reversed against current period income, and unpaid interest accrued in prior years is charged against the allowance for loan losses. Interest received on nonaccrual loans generally is either applied against principal or reported as interest income, according to management’s judgment as to the collectability of principal. Generally, accruals are resumed on loans only when the obligation is brought fully current with respect to interest and principal, has performed in accordance with the contractual terms for a reasonable period of time and the ultimate collectability of the total contractual principal and interest is no longer in doubt.

 

The Company originates loans in the portfolio with the intent to hold them until maturity. At the time the Company no longer intends to hold loans to maturity based on asset/liability management practices, the Company transfers loans from its portfolio to held for sale at fair value. Any write-down recorded upon transfer is charged against the allowance for loan losses. Any write-downs recorded after the initial transfers are recorded as a charge to other non-interest expense. Gains or losses recognized upon sale are included in gains on sales of loans which is a component of non-interest income.

 

The Company also originates residential mortgage loans with the intent to sell. These individual loans are normally funded by the buyer immediately. The Company maintains servicing rights on these loans. Mortgage servicing rights are recognized as an asset upon the sale of a mortgage loan. A portion of the cost of the loan is allocated to the servicing right based upon relative fair value. Servicing rights are intangible assets and are carried at estimated fair value. Adjustments to fair value are recorded as non-interest income and included in gain on sales of loans in the consolidated statements of income.

 

The allowance for credit losses consists of the allowance for loan losses and the reserve for unfunded lending commitments. The allowance for loan losses (“allowance”) represents management’s estimate of losses inherent in the loan portfolio as of the consolidated statement of financial condition date and is recorded as a reduction to loans. The reserve for unfunded lending commitments represents management’s estimate of losses inherent in its unfunded lending commitments and is recorded in other liabilities on the consolidated statement of financial condition, when necessary. The amount of the reserve for unfunded lending commitments is not material to the consolidated financial statements. The allowance for loan losses is increased by the provision for loan losses, and decreased by charge-offs, net of recoveries. Loans deemed to be uncollectible are charged against the allowance for loan losses, and subsequent recoveries, if any, are credited to the allowance.

 

For financial reporting purposes, the provision for loan losses charged to current operating income is based on management's estimates, and actual losses may vary from estimates. These estimates are reviewed and adjusted at least quarterly and are reported in earnings in the periods in which they become known.

 

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Loans included in any class are considered for charge-off when:

·principal or interest has been in default for 120 days or more and for which no payment has been received during the previous four months;
·all collateral securing the loan has been liquidated and a deficiency balance remains;
·a bankruptcy notice is received for an unsecured loan;
·a confirming loss event has occurred; or
·the loan is deemed to be uncollectible for any other reason.

 

The allowance for loan losses is maintained at a level considered adequate to offset probable losses on the Company’s existing loans. The analysis of the allowance for loan losses relies heavily on changes in observable trends that may indicate potential credit weaknesses. Management’s periodic evaluation of the adequacy of the allowance is based on the Company’s past loan loss experience, known and inherent risks in the portfolio, adverse situations that may affect the borrower’s ability to repay, the estimated value of any underlying collateral, composition of the loan portfolio, current economic conditions and other relevant factors. This evaluation is inherently subjective as it requires material estimates that may be susceptible to significant revision as more information becomes available.

 

In addition, regulatory agencies, as an integral part of their examination process, periodically review the Company’s allowance for loan losses and may require the Company to recognize additions to the allowance for loan losses based on their judgments about information available to them at the time of their examination, which may not be currently available to management. Based on management’s comprehensive analysis of the loan portfolio, management believes the level of the allowance for loan losses as of September 30, 2014 was adequate.

 

There are two components of the allowance: a specific component for loans that are deemed to be impaired; and a general component for contingencies.

 

A loan is considered to be impaired when, based on current information and events, it is probable that the Company will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loans and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record and the amount of the shortfall in relation to the principal and interest owed. Impairment is measured on a loan by loan basis by the present value of expected future cash flows discounted at the loan’s effective interest rate, the loan’s observable market price or the fair value of the collateral if the loan is collateral dependent.

 

The estimated fair values of substantially all of the Company’s impaired loans are measured based on the estimated fair value of the loan’s collateral. For commercial loans secured with real estate, estimated fair values are determined primarily through third-party appraisals. When a real estate secured loan becomes impaired, a decision is made regarding whether an updated certified appraisal of the real estate is necessary. This decision is based on various considerations, including the age of the most recent appraisal, the loan-to-value ratio based on the current appraisal and the condition of the property. Appraised values may be discounted to arrive at the estimated selling price of the collateral, which is considered to be the estimated fair value. The discounts also include the estimated costs to sell the property. For commercial loans secured by non-real estate collateral, estimated fair values are determined based on the borrower’s financial statements, inventory reports, aging accounts receivable, equipment appraisals or invoices. Indications of value from these sources are generally discounted based on the age of the financial information or the quality of the assets. For such loans that are classified as impaired, an allowance is established when the discounted cash flows (or collateral value or observable market price) of the impaired loan is lower than the carrying value of that loan. The Company generally does not separately identify individual consumer segment loans for impairment disclosures, unless such loans are subject to a restructuring agreement.

 

Loans whose terms are modified are classified as troubled debt restructurings if the Company grants borrowers concessions and it is deemed that those borrowers are experiencing financial difficulty. Concessions granted under a troubled debt restructuring generally involve a below-market interest rate based on the loan’s risk characteristics or an extension of a loan’s stated maturity date. Nonaccrual troubled debt restructurings are restored to accrual status if principal and interest payments, under the modified terms, are current for a sustained period of time after modification. Loans classified as troubled debt restructurings are designated as impaired.

 

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The component of the allowance for contingencies relates to other loans that have been segmented into risk rated categories. The borrower’s overall financial condition, repayment sources, guarantors and value of collateral, if appropriate, are evaluated quarterly or when credit deficiencies arise, such as delinquent loan payments. Credit quality risk ratings include regulatory classifications of special mention, substandard, doubtful and loss. Loans classified as special mention have potential weaknesses that deserve management’s close attention. If uncorrected, the potential weaknesses may result in deterioration of the repayment prospects. Loans classified as substandard have one or more well-defined weaknesses that jeopardize the liquidation of the debt. Substandard loans include loans that are inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any. Loans classified doubtful have all the weaknesses inherent in loans classified substandard with the added characteristic that collection or liquidation in full, on the basis of current conditions and facts, is highly improbable. Loans classified as a loss are considered uncollectible and are charged to the allowance for loan losses. Loans not classified are rated pass. Specific reserves may be established for larger, individual classified loans as a result of this evaluation, as discussed above. Remaining loans are categorized into large groups of smaller balance homogeneous loans and are collectively evaluated for impairment. This computation is generally based on historical loss experience adjusted for qualitative factors. The historical loss experience is averaged over a ten-year period for each of the portfolio segments. The ten-year timeframe was selected in order to capture activity over a wide range of economic conditions and has been consistently used by the Company for the past seven years. Qualitative risk factors are reviewed for relevancy each quarter and include:

 

·National, regional and local economic and business conditions, as well as the condition of various market segments, including the underlying collateral for collateral dependent loans;
·Nature and volume of the portfolio and terms of loans;
·Experience, ability and depth of lending and credit management and staff;
·Volume and severity of past due, classified and nonaccrual loans, as well as other loan modifications;
·Existence and effect of any concentrations of credit and changes in the level of such concentrations; and
·Effect of external factors, including competition.

 

Each factor is assigned a value to reflect improving, stable or declining conditions based on management’s best judgment using relevant information available at the time of the evaluation. Adjustments to the factors are supported through documentation of changes in conditions in a narrative accompanying the allowance for loan loss calculation.

 

Commercial, Financial and Agricultural Lending

 

The Company originates commercial, financial and agricultural loans primarily to businesses located in its primary market area and surrounding areas. These loans are used for various business purposes, which include short-term loans and lines of credit to finance machinery and equipment purchases, inventory and accounts receivable. Generally, the maximum term for loans extended on machinery and equipment is shorter and does not exceed the projected useful life of such machinery and equipment. Most business lines of credit are written with a five year maturity, subject to an annual credit review.

 

Commercial loans are generally secured with short-term assets; however, in many cases, additional collateral, such as real estate, is provided as additional security for the loan. Loan-to-value maximum values have been established by the Company and are specific to the type of collateral. Collateral values may be determined using invoices, inventory reports, accounts receivable aging reports, collateral appraisals, etc.

 

In underwriting commercial loans, an analysis of the borrower’s character, capacity to repay the loan, the adequacy of the borrower’s capital and collateral, as well as an evaluation of conditions affecting the borrower, is performed. Analysis of the borrower’s past, present and future cash flows is also an important aspect of the Company’s analysis.

 

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Concentration analysis assists in identifying industry specific risk inherent in commercial, financial and agricultural lending. Mitigants include the identification of secondary and tertiary sources of repayment and appropriate increases in oversight.

 

Commercial, financial and agricultural loans generally present a higher level of risk than certain other types of loans, particularly during slow economic conditions.

 

Commercial Real Estate Lending

 

The Company engages in commercial real estate lending in its primary market area and surrounding areas. The Company’s commercial real estate portfolio is secured primarily by residential housing, commercial buildings, raw land and hotels. Generally, commercial real estate loans have terms that do not exceed 20 years, have loan-to-value ratios of up to 80% of the appraised value of the property and are typically secured by personal guarantees of the borrowers.

 

As economic conditions deteriorate, the Company reduces its exposure in real estate loans with higher risk characteristics. In underwriting these loans, the Company performs a thorough analysis of the financial condition of the borrower, the borrower’s credit history, and the reliability and predictability of the cash flow generated by the property securing the loan. Appraisals on properties securing commercial real estate loans originated by the Company are performed by independent appraisers.

 

Commercial real estate loans generally present a higher level of risk than certain other types of loans, particularly during slow economic conditions.

 

Real Estate Construction Lending

 

The Company engages in real estate construction lending in its primary market area and surrounding areas. The Company’s real estate construction lending consists of commercial and residential site development loans, as well as commercial building construction and residential housing construction loans.

 

The Company’s commercial real estate construction loans are generally secured with the subject property, and advances are made in conformity with a pre-determined draw schedule supported by independent inspections. Terms of construction loans depend on the specifics of the project, such as estimated absorption rates, estimated time to complete, etc.

 

In underwriting commercial real estate construction loans, the Company performs a thorough analysis of the financial condition of the borrower, the borrower’s credit history, the reliability and predictability of the cash flow generated by the project using feasibility studies, market data, etc. Appraisals on properties securing commercial real estate loans originated by the Company are performed by independent appraisers.

 

Real estate construction loans generally present a higher level of risk than certain other types of loans, particularly during slow economic conditions. The difficulty of estimating total construction costs adds to the risk as well.

 

Mortgage Lending

 

The Company’s real estate mortgage portfolio is comprised of consumer residential mortgages and business loans secured by one-to-four family properties. One-to-four family residential mortgage loan originations, including home equity installment and home equity lines of credit loans, are generated by the Company’s marketing efforts, its present customers, walk-in customers and referrals. These loans originate primarily within the Company’s market area or with customers primarily from the market area.

 

The Company offers fixed-rate and adjustable rate mortgage loans with terms up to a maximum of 25-years for both permanent structures and those under construction. The Company’s one-to-four family residential mortgage originations are secured primarily by properties located in its primary market area and surrounding areas. The majority of the Company’s residential mortgage loans originate with a loan-to-value of 80% or less. Home equity installment loans are secured by the borrower’s primary residence with a maximum loan-to-value of 80% and a maximum term of 15 years. Home equity lines of credit are secured by the borrower’s primary residence with a maximum loan-to-value of 90% and a maximum term of 20 years.

 

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In underwriting one-to-four family residential real estate loans, the Company evaluates the borrower’s ability to make monthly payments, the borrower’s repayment history and the value of the property securing the loan. The ability to repay is determined by the borrower’s employment history, current financial conditions, and credit background. The analysis is based primarily on the customer’s ability to repay and secondarily on the collateral or security. Most properties securing real estate loans made by the Company are appraised by independent fee appraisers. The Company generally requires mortgage loan borrowers to obtain an attorney’s title opinion or title insurance, and fire and property insurance (including flood insurance, if necessary) in an amount not less than the amount of the loan. The Company does not engage in sub-prime residential mortgage originations.

 

Residential mortgage loans and home equity loans generally present a lower level of risk than certain other types of consumer loans because they are secured by the borrower’s primary residence. Risk is increased when the Company is in a subordinate position for the loan collateral.

 

Obligations of States and Political Subdivisions

 

The Company lends to local municipalities and other tax-exempt organizations. These loans are primarily tax-anticipation notes and, as such, carry little risk. Historically, the Company has never had a loss on any loan of this type.

 

Personal Lending

 

The Company offers a variety of secured and unsecured personal loans, including vehicle loans, mobile home loans and loans secured by savings deposits as well as other types of personal loans.

 

Personal loan terms vary according to the type and value of collateral and creditworthiness of the borrower. In underwriting personal loans, a thorough analysis of the borrower’s willingness and financial ability to repay the loan as agreed is performed. The ability to repay is determined by the borrower’s employment history, current financial conditions and credit background.

 

Personal loans may entail greater credit risk than do residential mortgage loans, particularly in the case of personal loans which are unsecured or are secured by rapidly depreciable assets, such as automobiles or recreational equipment. In such cases, any repossessed collateral for a defaulted personal loan may not provide an adequate source of repayment of the outstanding loan balance as a result of the greater likelihood of damage, loss or depreciation. In addition, personal loan collections are dependent on the borrower’s continuing financial stability, and thus are more likely to be affected by adverse personal circumstances. Furthermore, the application of various federal and state laws, including bankruptcy and insolvency laws, may limit the amount which can be recovered on such loans.

 

Loan Portfolio Classification

 

The following tables present the classes of the loan portfolio summarized by the aggregate pass rating and the classified ratings of special mention, substandard and doubtful within the Company’s internal risk rating system as of September 30, 2014 and December 31, 2013 (in thousands):

 

As of September 30, 2014  Pass   Special
Mention
   Substandard   Doubtful   Total 
                          
Commercial, financial and agricultural  $18,559   $5,502   $169   $-   $24,230 
Real estate - commercial   66,207    16,360    3,277    1,424    87,268 
Real estate - construction   14,165    709    3,888    504    19,266 
Real estate - mortgage   129,605    4,945    4,001    1,776    140,327 
Obligations of states and political subdivisions   11,914    23    -    -    11,937 
Personal   4,341    60    12    -    4,413 
Total  $244,791   $27,599   $11,347   $3,704   $287,441 

 

18
 

  

As of December 31, 2013  Pass   Special
Mention
   Substandard   Doubtful   Total 
                          
Commercial, financial and agricultural  $20,388   $5,658   $235   $-   $26,281 
Real estate - commercial   56,867    11,706    5,620    278    74,471 
Real estate - construction   15,803    292    1,754    1,832    19,681 
Real estate - mortgage   130,706    3,995    4,272    1,486    140,459 
Obligations of states and political subdivisions   12,674    28    -    -    12,702 
Personal   4,204    -    -    -    4,204 
Total  $240,642   $21,679   $11,881   $3,596   $277,798 

 

The Company has certain loans in its portfolio that are considered to be impaired. It is the policy of the Company to recognize income on impaired loans that have been transferred to nonaccrual status on a cash basis, only to the extent that it exceeds principal balance recovery. Until an impaired loan is placed on nonaccrual status, income is recognized on the accrual basis. Collateral analysis is performed on each impaired loan at least quarterly, and results are used to determine if a specific reserve is necessary to adjust the carrying value of each individual loan down to the estimated fair value. Generally, specific reserves are carried against impaired loans based upon estimated collateral value until a confirming loss event occurs or until termination of the credit is scheduled through liquidation of the collateral or foreclosure. Charge off will occur when a confirmed loss is identified. Professional appraisals of collateral, discounted for expected selling costs, appraisal age, economic conditions and other known factors are used to determine the charge-off amount. The following tables summarize information regarding impaired loans by portfolio class as of September 30, 2014 and December 31, 2013 (in thousands):

 

   As of September 30, 2014   As of December 31, 2013 
Impaired loans  Recorded
Investment
   Unpaid
Principal
Balance
   Related
Allowance
   Recorded
Investment
   Unpaid
Principal
Balance
   Related
Allowance
 
                        
With no related allowance recorded:                        
Commercial, financial and agricultural  $14    14   $-   $94   $94   $- 
Real estate - commercial   2,402    2,500    -    2,017    2,142    - 
Real estate - construction   336    664    -    504    813    - 
Real estate - mortgage   2,961    4,252    -    3,353    4,751    - 
Personal   12    12    -    -    -    - 
                               
With an allowance recorded:                              
Real estate - commercial  $-   $-   $-   $238   $238   $26 
Real estate - construction   168    201    48    1,478    1,502    93 
Real estate - mortgage   592    593    63    365    394    45 
                               
Total:                              
Commercial, financial and agricultural  $14   $14   $-   $94   $94   $- 
Real estate - commercial   2,402    2,500    -    2,255    2,380    26 
Real estate - construction   504    865    48    1,982    2,315    93 
Real estate - mortgage   3,553    4,845    63    3,718    5,145    45 
Personal   12    12    -    -    -    - 
   $6,485   $8,236   $111   $8,049   $9,934   $164 

 

19
 

  

   Three Months Ended September 30
 2014
   Three Months Ended September 30,
2013
 
Impaired loans  Average
Recorded
Investment
   Interest
Income
Recognized
   Cash
Basis
Interest
Income
   Average
Recorded
Investment
   Interest
Income
Recognized
   Cash Basis
 Interest
 Income
 
                        
With no related allowance recorded:                              
Commercial, financial and agricultural  $10   $-   $-   $131   $2   $- 
Real estate - commercial   1,700    10    -    2,644    21    8 
Real estate - construction   169    -    -    169    -    3 
Real estate - mortgage   3,044    13    8    3,681    27    9 
Personal   6    -    -    -    -    - 
                               
With an allowance recorded:                              
Real estate - commercial  $768   $-   $-   $124   $-   $- 
Real estate - construction   346    -    -    2,073    -    - 
Real estate - mortgage   472    -    -    456    -    4 
                               
Total:                              
Commercial, financial and agricultural  $10   $-   $-   $131   $2   $- 
Real estate - commercial   2,468    10    -    2,768    21    8 
Real estate - construction   515    -    -    2,242    -    3 
Real estate - mortgage   3,516    13    8    4,137    27    13 
Personal   6    -    -    -    -    - 
   $6,515   $23   $8   $9,278   $50   $24 

  

   Nine Months Ended September 30,
2014
   Nine Months Ended September 30,
2013
 
Impaired loans  Average
Recorded
Investment
   Interest
Income
Recognized
   Cash
 Basis
Interest
 Income
   Average
Recorded
Investment
   Interest
Income
Recognized
   Cash Basis
Interest
 Income
 
                        
With no related allowance recorded:                        
Commercial, financial and agricultural  $54   $-   $1   $140   $7   $- 
Real estate - commercial   2,210    33    24    2,675    63    16 
Real estate - construction   420    -    -    1,086    -    5 
Real estate - mortgage   3,157    37    64    2,145    38    21 
Personal   6         -                
                               
With an allowance recorded:                              
Real estate - commercial  $119   $-   $11   $-   $-   $- 
Real estate - construction   823    -    -    1,075    -    - 
Real estate - mortgage   479    -    -    1,341    -    7 
                               
Total:                              
Commercial, financial and agricultural  $54   $-   $1   $140   $7   $- 
Real estate - commercial   2,329    33    35    2,675    63    16 
Real estate - construction   1,243    -    -    2,161    -    5 
Real estate - mortgage   3,636    37    64    3,486    38    28 
Personal   6    -    -    -    -    - 
   $7,268   $70   $100   $8,462   $108   $49 

 

20
 

  

The following table presents nonaccrual loans by classes of the loan portfolio as of September 30, 2014 and December 31, 2013 (in thousands):

 

   September 30, 2014   December 31, 2013 
Nonaccrual loans:          
Commercial, financial and agricultural  $14   $10 
Real estate - commercial   1,844    1,331 
Real estate - construction   504    1,982 
Real estate - mortgage   2,794    2,629 
Personal   12    - 
Total  $5,168   $5,952 

 

The performance and credit quality of the loan portfolio is also monitored by analyzing the age of the loans receivable as determined by the length of time a recorded payment is past due. The following table presents the classes of the loan portfolio summarized by the past due status as of September 30, 2014 and December 31, 2013 (in thousands):

 

As of September 30, 2014  30-59
Days
Past Due
   60-89
Days
Past Due
   Greater
 than 90
 Days
   Total
Past
 Due
   Current   Total
Loans
   Loans Past
 Due
greater
than 90
Days and
Accruing
 
                                    
Commercial, financial and agricultural  $6   $    $  $8   $24,222   $24,230   $- 
Real estate - commercial   -    540    1,844    2,384    84,884    87,268    - 
Real estate - construction   226    109    338    673    18,593    19,266    2 
Real estate - mortgage   723    1,994    2,925    5,642    134,685    140,327    338 
Obligations of states and political subdivisions   -    -    -    -    11,937    11,937    - 
Personal   1    -    11    12    4,401    4,413    - 
Total  $956   $2,643   $5,120   $8,719   $278,722   $287,441   $340 

  

As of December 31, 2013  30-59
Days
Past Due
   60-89
Days
Past Due
   Greater
 than 90
Days
   Total
Past
Due
   Current   Total
Loans
   Loans Past
 Due
greater
than 90
Days and
Accruing
 
                                    
Commercial, financial and agricultural  $19   $-   $10   $29   $26,252   $26,281   $- 
Real estate - commercial   35    1,092    947    2,074    72,397    74,471    61 
Real estate - construction   239    7    1,801    2,047    17,634    19,681    - 
Real estate - mortgage   1,239    2,130    2,585    5,954    134,505    140,459    251 
Obligations of states and political subdivisions   -    -    -    -    12,702    12,702    - 
Personal   23    1    -    24    4,180    4,204    - 
Total  $1,555   $3,230   $5,343   $10,128   $267,670   $277,798   $312 

 

21
 

 

 

 

The following table summarizes information regarding troubled debt restructurings by loan portfolio class at September 30, 2014 and December 31, 2013, in thousands of dollars.

 

   Number of
Contracts
   Pre-Modification
Outstanding
Recorded
Investment
   Post-Modification
Outstanding
Recorded
Investment
   Recorded
Investment
 
As of September 30, 2014                    
Accruing troubled debt restructurings:                    
Real estate - mortgage   6   $392   $420   $396 
                     
Non-accruing troubled debt restructurings:                    
Real estate - mortgage   1    364    371    368 
    7   $756   $791   $764 
                     
As of December 31, 2013                    
Accruing troubled debt restructurings:                    
Real estate - commercial   1   $64   $64   $61 
Real estate - mortgage   6    694    729    714 
    7   $758   $793   $775 

 

The Company’s troubled debt restructurings are also impaired loans, which may result in a specific allocation and subsequent charge-off if appropriate. As of September 30, 2014, there was one specific reserve in the amount of $40,000 and no charge-offs relating to the troubled debt restructurings. The amended terms of the restructured loans vary, whereby interest rates have been reduced, principal payments have been reduced or deferred for a period of time and/or maturity dates have been extended.

 

The following table summarizes loans whose terms have been modified resulting in troubled debt restructurings during the three and nine months ended September 30, 2014 and September 30, 2013, in thousands of dollars:

 

   Number of
Contracts
   Pre-Modification
Outstanding
Recorded
Investment
   Post-Modification
Outstanding
Recorded
Investment
   Recorded
Investment
 
Three months ended September 30, 2014                    
Accruing troubled debt restructurings:                    
Real estate - mortgage   1   $33   $33   $33 
    1   $33   $33   $33 
Nine months ended September 30, 2014                    
Accruing troubled debt restructurings:                    
Real estate - mortgage   2   $82   $82   $79 
    2   $82   $82   $79 

 

   Number of
Contracts
   Pre-Modification
Outstanding
Recorded
Investment
   Post-Modification
Outstanding
Recorded
Investment
   Recorded
Investment
 
Three months ended September 30, 2013                    
Accruing troubled debt restructurings:                    
Real estate - mortgage   1   $46   $50   $50 
    1   $46   $50   $50 
Nine months ended September  30, 2013                    
Accruing troubled debt restructurings:                    
Real estate - commercial   1   $64   $61   $61 
Real estate - mortgage   5    558    569    569 
    6   $622   $630   $630 

 

22
 

 

One restructured loan with a balance of $369,000 was in default as it was delinquent in excess of 90 days with respect to the terms of the restructuring as of September 30, 2014 and was placed in non-accrual status as of June 30, 2014. There have been no defaults of troubled debt restructurings that took place during the three or nine months ended September 30, 2014 and 2013 within 12 months of restructure.

 

The following tables summarize the activity in the allowance for loan losses and related investments in loans receivable (in thousands):

 

As of, and for the period ended, September 30, 2014

 

   Commercial,
financial and
agricultural
   Real estate -
commercial
   Real estate -
 construction
   Real estate -
 mortgage
   Obligations
 of states and
political
subdivisions
   Personal   Total 
Allowance for loan losses:                                   
Beginning balance, June 30, 2014  $225   $689   $195   $1,208   $         -   $41   $2,358 
Charge-offs   (2)   (87)   (18)   (23)   -    (5)   (135)
Recoveries   -    1    -    -    -    2    3 
Provisions   9    19    (1)   80    -    3    110 
Ending balance,September 30, 2014  $232   $622   $176   $1,265   $-   $41   $2,336 
                                    
Beginning balance, January 1, 2014  $253   $534   $212   $1,246   $-   $42   $2,287 
Charge-offs   (4)   (92)   (18)   (86)   -    (8)   (208)
Recoveries   3    5    -    -    -    2    10 
Provisions   (20)   175    (18)   105    -    5    247 
Ending balance,September 30, 2014  $232   $622   $176   $1,265   $-   $41   $2,336 

  

   Commercial,
financial and
agricultural
   Real estate -
commercial
   Real estate -
 construction
   Real estate -
 mortgage
   Obligations
 of states and
political subdivisions
   Personal   Total 
Allowance for loan losses:                                   
Ending balance  $232   $622   $176   $1,265   $-   $41   $2,336 
evaluated for impairment                                   
individually  $-   $-   $48   $63   $-   $-   $111 
collectively  $232   $622   $128   $1,202   $-   $41   $2,225 
                                    
Loans:                                   
Ending balance  $24,230   $87,268   $19,266   $140,327   $11,937   $4,413   $287,441 
evaluated for impairment                                   
individually  $14   $2,402   $504   $3,553   $-   $12   $6,485 
collectively  $24,216   $84,866   $18,762   $136,774   $11,937   $4,401   $280,956 

 

23
 

 

As of, and for the period ended, September 30, 2013

 

   Commercial,
financial and
agricultural
   Real estate -
commercial
   Real estate -
construction
   Real estate -
mortgage
   Obligations
of states and
political
subdivisions
   Personal   Total 
Allowance for loan losses:                                   
Beginning balance, July 1, 2013  $200   $554   $258   $1,317   $         -   $46   $2,375 
Charge-offs   -    -    -    (21)   -    (3)   (24)
Recoveries   14    -    -    -    -    2    16 
Provisions   28    (39)   87    24    -    -    100 
Ending balance, September 30, 2013  $242   $515   $345   $1,320   $-   $45   $2,467 
                                    
Beginning balance, January 1, 2013  $179   $463   $202   $2,387   $-   $50   $3,281 
Charge-offs   (4)   -    -    (1,080)   -    (16)   (1,100)
Recoveries   14    -    -    -    -    6    20 
Provisions   53    52    143    13    -    5    266 
Ending balance, September 30, 2013  $242   $515   $345   $1,320   $-   $45   $2,467 

 

   Commercial,
financial and
agricultural
   Real estate -
commercial
   Real estate -
construction
   Real estate -
mortgage
   Obligations
of states and
political
subdivisions
   Personal   Total 
Allowance for loan losses:                                   
Ending balance  $242   $515   $345   $1,320   $-   $45   $2,467 
evaluated for impairment                                   
individually  $-   $-   $233   $139   $-   $-   $372 
collectively  $242   $515   $112   $1,181   $-   $45   $2,095 
                                    
Loans:                                   
Ending balance  $24,644   $77,282   $20,297   $143,218   $12,753   $4,588   $282,782 
evaluated for impairment                                   
individually  $120   $2,677   $2,120   $4,343   $-   $-   $9,260 
collectively  $24,524   $74,605   $18,177   $138,875   $12,753   $4,588   $273,522 

 

As of December 31, 2013

 

As of December 31, 2013  Commercial,
financial and
agricultural
   Real estate -
commercial
   Real estate -
construction
   Real estate -
mortgage
   Obligations
of states and
political
subdivisions
   Personal   Total 
Allowance for loan losses:                                   
Ending balance  $253   $534   $212   $1,246   $-   $42   $2,287 
evaluated for impairment                                   
individually  $-   $26   $93   $45   $-   $-   $164 
collectively  $253   $508   $119   $1,201   $-   $42   $2,123 
                                    
Loans:                                   
Ending balance  $26,281   $74,471   $19,681   $140,459   $12,702   $4,204   $277,798 
evaluated for impairment                                   
individually  $94   $2,255   $1,982   $3,718   $-   $-   $8,049 
collectively  $26,187   $72,216   $17,699   $136,741   $12,702   $4,204   $269,749 

 

24
 

 

7. Acquisition

 

On September 8, 2006, the Company completed the acquisition of a branch office in Richfield, PA. The acquisition included real estate, deposits and loans. The assets and liabilities of the acquired branch office were recorded on the consolidated statement of financial condition at their estimated fair values as of September 8, 2006, and its results of operations have been included in the consolidated statements of income since such date.

 

Included in the purchase price of the branch was goodwill and core deposit intangible of $2,046,000 and $449,000, respectively. The core deposit intangible is being amortized over a ten-year period on a straight line basis. Core deposit amortization expense was $12,000 and $34,000 in each of the three and nine month periods ending September 30, 2014 and 2013, respectively. Accumulated amortization of core deposit intangible through September 30, 2014 was $364,000. The goodwill is not amortized, but is measured annually for impairment or more frequently if certain events occur which might indicate goodwill has been impaired. There was no impairment of goodwill during either of the three or nine month periods ended September 30, 2014 or 2013.

 

 

8. Investment in Unconsolidated Subsidiary

 

The Company owns 39.16% of the outstanding common stock of Liverpool Community Bank (LCB), Liverpool, PA. This investment is accounted for under the equity method of accounting and is being carried at $4,289,000 as of September 30, 2014. The Company increases its investment in LCB for its share of earnings and decreases its investment by any dividends received from LCB. The investment is evaluated quarterly for impairment. A loss in value of the investment which is determined to be other than a temporary decline would be recognized as a loss in the period in which such determination is made. Evidence of a loss in value might include, but would not necessarily be limited to, absence of an ability to recover the carrying amount of the investment or inability of LCB to sustain an earnings capacity which would justify the current carrying value of the investment. There was no impairment of goodwill during either of the three or nine month periods ended September 30, 2014 or 2013.

 

9. Fair Value Measurement

 

Fair value measurement and disclosure guidance defines fair value as the price that would be received to sell an asset or transfer a liability in an orderly transaction (that is, not a forced liquidation or distressed sale) between market participants at the measurement date under current market conditions. Additional guidance is provided on determining when the volume and level of activity for the asset or liability has significantly decreased. The guidance also includes guidance on identifying circumstances when a transaction may not be considered orderly.

 

Fair value measurement and disclosure guidance provides a list of factors that a reporting entity should evaluate to determine whether there has been a significant decrease in the volume and level of activity for the asset or liability in relation to normal market activity for the asset or liability. When the reporting entity concludes there has been a significant decrease in the volume and level of activity for the asset or liability, further analysis of the information from that market is needed, and significant adjustments to the related prices may be necessary to estimate fair value in accordance with fair value measurement and disclosure guidance.

 

This guidance clarifies that, when there has been a significant decrease in the volume and level of activity for the asset or liability, some transactions may not be orderly. In those situations, the entity must evaluate the weight of the evidence to determine whether the transaction is orderly. The guidance provides a list of circumstances that may indicate that a transaction is not orderly. A transaction price that is not associated with an orderly transaction is given little, if any, weight when estimating fair value.

 

Fair value measurement and disclosure guidance defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. A fair value measurement assumes that the transaction to sell the asset or transfer the liability occurs in the principal market for the asset or liability or, in the absence of a principal market, the most advantageous market for the asset or liability. The price in the principal (or most advantageous) market used to measure the fair value of the asset or liability is not adjusted for transaction costs. An orderly transaction is a transaction that assumes exposure to the market for a period prior to the measurement date to allow for marketing activities that are usual and customary for transactions involving such assets and liabilities; it is not a forced transaction. Market participants are buyers and sellers in the principal market that are (i) independent, (ii) knowledgeable, (iii) able to transact and (iv) willing to transact.

 

25
 

 

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

 

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

 

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

 

Level 3 Inputs – Unobservable inputs for determining the fair values of assets or liabilities that reflect an entity’s own assumptions about the assumptions that market participants would use in pricing the assets or liabilities.

 

An asset’s or liability’s placement in the fair value hierarchy is based on the lowest level of input that is significant to the fair value measurement.

 

A description of the valuation methodologies used for assets and liabilities measured at fair value, as well as the general classification of such assets and liabilities pursuant to the valuation hierarchy, is set forth below.

 

In general, fair value is based upon quoted market prices, where available. If such quoted market prices are not available, fair value is based upon internally developed models that primarily use, as inputs, observable market-based parameters. Valuation adjustments may be made to ensure that financial instruments are recorded at fair value. These adjustments may include amounts to reflect counterparty credit quality and the Company’s creditworthiness, among other things, as well as unobservable parameters. Any such valuation adjustments are applied consistently over time. The Company’s valuation methodologies may produce a fair value calculation that may not be indicative of net realizable value or reflective of future fair values. While management believes the Company’s valuation methodologies are appropriate and consistent with other market participants, the use of different methodologies or assumptions to determine the fair value of certain financial instruments could result in a different estimate of fair value at the reporting date.

 

Securities Available for Sale. Debt securities classified as available for sale are reported at fair value utilizing Level 2 inputs. For these securities, the Company obtains fair value measurement from an independent pricing service. The fair value measurements consider observable data that may include dealer quotes, market spreads, cash flows, the U.S. Treasury yield curve, live trading levels, trade execution data, market consensus prepayment speeds, credit information and the bond’s terms and conditions, among other things. Equity securities classified as available for sale are reported at fair value using Level 1 inputs.

  

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Impaired Loans. Certain impaired loans are reported on a non-recurring basis at the fair value of the underlying collateral since repayment is expected solely from the 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.

 

Other Real Estate Owned. Certain assets included in other real estate owned are carried at fair value as a result of impairment and accordingly, are presented as measured on a non-recurring basis. Values are estimated using Level 3 inputs, based on appraisals that consider the sales prices of property in the proximate vicinity.

 

Mortgage Servicing Rights. The fair value of servicing assets is based on the present value of estimated future cash flows on pools of mortgages stratified by rate and maturity date and are considered Level 3 inputs.

 

The following table summarizes financial assets and financial liabilities measured at fair value as of September 30, 2014 and December 31, 2013, segregated by the level of the valuation inputs within the fair value hierarchy utilized to measure fair value (in thousands). There were no transfers of assets between fair value Level 1 and Level 2 during the nine months ended September 30, 2014.

 

       (Level 1)   (Level 2)   (Level 3) 
       Quoted Prices in   Significant   Significant 
       Active Markets   Other   Other 
   September 30,   for Identical   Observable   Unobservable 
   2014   Assets   Inputs   Inputs 
Measured at fair value on a recurring basis:                    
Debt securities available-for-sale:                    
Obligations of U.S. Government agencies and corporations  $51,862   $-   $51,862   $- 
Obligations of state and political subdivisions   39,793    -    39,793    - 
Mortgage-backed securities   56,948    -    56,948    - 
Equity securities available-for-sale   1,422    1,422    -    - 
                     
Measured at fair value on a non-recurring basis:                    
Impaired loans   3,527    -    -    3,527 
Mortgage servicing rights   183    -    -    183 
                     

 

       (Level 1)   (Level 2)   (Level 3) 
       Quoted Prices in   Significant   Significant 
       Active Markets   Other   Other 
   December 31,   for Identical   Observable   Unobservable 
   2013   Assets   Inputs   Inputs 
Measured at fair value on a recurring basis:                    
Debt securities available-for-sale:                    
Obligations of U.S. Government agencies and corporations  $78,278   $-   $78,278   $- 
Obligations of state and political subdivisions   41,932    -    41,932    - 
Mortgage-backed securities   4,469    -    4,469    - 
Equity securities available-for-sale   1,367    1,367    -    - 
                     
Measured at fair value on a non-recurring basis:                    
Impaired loans   3,300    -    -    3,300 
Other real estate owned   50    -    -    50 
Mortgage servicing rights   167    -    -    167 

 

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The following table presents additional quantitative information about assets measured at fair value on a nonrecurring basis and for which Level 3 inputs have been used to determine fair value:

 

September 30, 2014  Fair Value
Estimate
   Valuation Technique  Unobservable Input  Range  Weighted
Average
 
                  
Impaired loans  $3,527   Appraisal of collateral (1)  Appraisal and liquidation adjustments (2)  (7)% - (15)%   (11)%
Mortgage servicing rights   183   Multiple of annual servicing fee  Estimated pre-payment speed, based on rate and term  300% - 400%   357%

  

December 31, 2013  Fair Value
 Estimate
   Valuation Technique  Unobservable Input  Range  Weighted
Average
 
                  
Impaired loans  $3,300   Appraisal of collateral (1)  Appraisal and liquidation adjustments (2)  (7)% - (10)%   (9.0)%
Other real estate owned   50   Appraisal of collateral (1)  Appraisal and liquidation adjustments (2)  0%   0%
Mortgage servicing rights   167   Multiple of annual servicing fee  Estimated pre-payment speed, based on rate and term  300% - 400%   326%

 

(1)Fair value is generally determined through independent appraisals of the underlying collateral that generally include various level 3 inputs which are not identifiable.
(2)Appraisals may be adjusted downward by management for qualitative factors such as economic conditions and estimated liquidation expenses. The range of liquidation expenses and other appraisal adjustments are presented as a percent of the appraisal.

 

Fair Value of Financial Instruments

Management uses its best judgment in estimating the fair value of the Company’s financial instruments; however, there are inherent weaknesses in any estimation technique. Therefore, the fair value estimates herein are not necessarily indicative of the amounts the Company could have realized in sales transactions on the dates indicated. The estimated fair value amounts have been measured as of their respective year ends and have not been re-evaluated or updated for purposes of these consolidated financial statements subsequent to those respective dates. As such, the estimated fair values of these financial instruments subsequent to the respective reporting dates may be different from the amounts reported at each quarter end.

 

The information presented below should not be interpreted as an estimate of the fair value of the entire Company since a fair value calculation is provided only for a limited portion of the Company’s assets and liabilities. Due to a wide range of valuation techniques and the degree of subjectivity used in making the estimates, comparisons between the Company’s disclosures and those of other companies may not be meaningful.

 

The following describes the estimated fair value of the Company’s financial instruments as well as the significant methods and assumptions not previously disclosed used to determine these estimated fair values.

 

Carrying values approximate fair value for cash and due from banks, interest-bearing demand deposits with banks, restricted stock in the Federal Home Loan Bank, loans held for sale, interest receivable, mortgage servicing rights, non-interest bearing deposits, securities sold under agreements to repurchase, short-term borrowings and interest payable. Other than cash and due from banks, which are considered Level 1 inputs, and mortgage servicing rights, which are Level 3 inputs, these instruments are Level 2 inputs.

 

Interest bearing time deposits with banks - The estimated fair value is determined by discounting the contractual future cash flows, using the rates currently offered for deposits of similar remaining maturities.

 

Loans – For variable-rate loans that reprice frequently and which entail no significant changes in credit risk, carrying values approximated fair value. Substantially all commercial loans and real estate mortgages are variable rate loans. The fair value of other loans (i.e. consumer loans and fixed-rate real estate mortgages) is estimated by calculating the present value of the cash flow difference between the current rate and the market rate, for the average maturity, discounted quarterly at the market rate.

 

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Fixed rate time deposits - The estimated fair value is determined by discounting the contractual future cash flows, using the rates currently offered for deposits of similar remaining maturities.

 

Long term debt and other interest bearing liabilities – The fair value is estimated using discounted cash flow analysis, based on incremental borrowing rates for similar types of arrangements.

 

Commitments to extend credit and letters of credit – The fair value of commitments to extend credit is estimated using the fees currently charged to enter into similar agreements, taking into account market interest rates, the remaining terms and present credit-worthiness of the counterparties. The fair value of guarantees and letters of credit is based on fees currently charged for similar agreements.

 

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

 

Financial Instruments

(in thousands)

 

   September 30, 2014   December 31, 2013 
   Carrying   Fair   Carrying   Fair 
   Value   Value   Value   Value 
Financial assets:                    
Cash and due from banks  $7,580   $7,580   $8,570   $8,570 
Interest bearing deposits with banks   78    78    43    43 
Interest bearing time deposits with banks   -    -    249    250 
Securities   150,025    150,025    126,046    126,046 
Restricted investment in FHLB stock   3,080    3,080    1,967    1,967 
Loans, net of allowance for loan losses   285,105    286,338    275,511    282,226 
Mortgage servicing rights   183    183    167    167 
Accrued interest receivable   1,501    1,501    1,529    1,529 
                     
Financial liabilities:                    
Non-interest bearing deposits   76,132    76,132    74,611    74,611 
Interest bearing deposits   309,824    312,421    305,034  <