10-Q 1 fxnc0630201810-q.htm 10-Q Document


 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549 
 
FORM 10-Q
 
 
 
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2018
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: 0-23976
 
  first1nationalcorporationa05.jpg
 (Exact name of registrant as specified in its charter)
 
Virginia
 
54-1232965
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)
 
 
 
112 West King Street, Strasburg, Virginia
 
22657
(Address of principal executive offices)
 
(Zip Code)
(540) 465-9121
(Registrant’s telephone number, including area code)
 
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  ☒    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 (Section 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ☒    No  ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer
 
  
Accelerated filer
 
Non-accelerated filer
 
☐  (Do not check if a smaller reporting company)
  
Smaller reporting company
 
 
 
 
  
Emerging growth company
 
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.  ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ☐    No  ☒
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date. As of August 10, 2018, 4,956,206 shares of common stock, par value $1.25 per share, of the registrant were outstanding.
 




TABLE OF CONTENTS
 
 
 
 
 
 
Page
 
 
 
Item 1.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Item 2.
 
 
 
Item 3.
 
 
 
Item 4.
 
 
 
 
Item 1.
 
 
 
Item 1A.
 
 
 
Item 2.
 
 
 
Item 3.
 
 
 
Item 4.
 
 
 
Item 5.
 
 
 
Item 6.


2



PART I – FINANCIAL INFORMATION
Item 1. Financial Statements
FIRST NATIONAL CORPORATION
Consolidated Balance Sheets
(in thousands, except share and per share data)
 
 
(unaudited) June 30,
2018
 
December 31,
2017*
Assets
 
 
 
Cash and due from banks
$
13,501

 
$
11,358

Interest-bearing deposits in banks
27,762

 
28,628

Securities available for sale, at fair value
106,707

 
89,255

Securities held to maturity, at amortized cost (fair value, 2018, $44,416; 2017, $47,702)
45,701

 
48,208

Restricted securities, at cost
1,590

 
1,570

Loans held for sale
1,195

 
438

Loans, net of allowance for loan losses, 2018, $5,039; 2017, $5,326
525,894

 
516,875

Other real estate owned, net of valuation allowance, 2018, $0; 2017, $0
68

 
326

Premises and equipment, net
19,633

 
19,891

Accrued interest receivable
2,073

 
1,916

Bank owned life insurance
13,787

 
13,967

Core deposit intangibles, net
679

 
930

Other assets
4,774

 
5,748

Total assets
$
763,364

 
$
739,110

 
 
 
 
Liabilities and Shareholders’ Equity
 
 
 
 
 
 
 
Liabilities
 
 
 
Deposits:
 
 
 
Noninterest-bearing demand deposits
$
196,839

 
$
180,912

Savings and interest-bearing demand deposits
367,399

 
361,417

Time deposits
122,291

 
122,651

Total deposits
$
686,529

 
$
664,980

Subordinated debt
4,956

 
4,948

Junior subordinated debt
9,279

 
9,279

Accrued interest payable and other liabilities
952

 
1,749

Total liabilities
$
701,716

 
$
680,956

Shareholders’ Equity
 
 
 
Preferred stock, par value $1.25 per share; authorized 1,000,000 shares; none issued and outstanding
$

 
$

Common stock, par value $1.25 per share; authorized 8,000,000 shares; issued and outstanding, 2018, 4,953,356 shares; 2017, 4,945,702 shares
6,192

 
6,182

Surplus
7,346

 
7,260

Retained earnings
50,313

 
45,670

Accumulated other comprehensive loss, net
(2,203
)
 
(958
)
Total shareholders’ equity
$
61,648

 
$
58,154

Total liabilities and shareholders’ equity
$
763,364

 
$
739,110

*Derived from audited consolidated financial statements.
See Notes to Consolidated Financial Statements

3



FIRST NATIONAL CORPORATION
Consolidated Statements of Income (Unaudited)
(in thousands, except per share data)
 
 
Three Months Ended
 
Six Months Ended
 
June 30,
2018
 
June 30,
2017
 
June 30,
2018
 
June 30,
2017
Interest and Dividend Income
 
 
 
 
 
 
 
Interest and fees on loans
$
6,546

 
$
5,933

 
$
12,851

 
$
11,579

Interest on deposits in banks
186

 
86

 
346

 
147

Interest and dividends on securities:
 
 
 
 
 
 
 
Taxable interest
776

 
634

 
1,456

 
1,296

Tax-exempt interest
156

 
145

 
301

 
288

Dividends
22

 
21

 
44

 
41

Total interest and dividend income
$
7,686

 
$
6,819

 
$
14,998

 
$
13,351

Interest Expense
 
 
 
 
 
 
 
Interest on deposits
$
665

 
$
405

 
$
1,255

 
$
788

Interest on subordinated debt
89

 
89

 
178

 
178

Interest on junior subordinated debt
101

 
76

 
187

 
144

Total interest expense
$
855

 
$
570

 
$
1,620

 
$
1,110

Net interest income
$
6,831

 
$
6,249

 
$
13,378

 
$
12,241

Provision for loan losses

 

 
100

 

Net interest income after provision for loan losses
$
6,831

 
$
6,249

 
$
13,278

 
$
12,241

Noninterest Income
 
 
 
 
 
 
 
Service charges on deposit accounts
$
784

 
$
735

 
$
1,546

 
$
1,490

ATM and check card fees
555

 
527

 
1,074

 
1,028

Wealth management fees
409

 
355

 
816

 
702

Fees for other customer services
151

 
137

 
304

 
277

Income from bank owned life insurance
77

 
102

 
636

 
195

Net gains on securities available for sale

 
13

 

 
13

Net gains on sale of loans
15

 
34

 
24

 
67

Other operating income
76

 
75

 
300

 
147

Total noninterest income
$
2,067

 
$
1,978

 
$
4,700

 
$
3,919

Noninterest Expense
 
 
 
 
 
 
 
Salaries and employee benefits
$
3,227

 
$
3,122

 
$
6,610

 
$
6,364

Occupancy
387

 
348

 
787

 
715

Equipment
420

 
400

 
843

 
808

Marketing
161

 
136

 
270

 
272

Supplies
88

 
105

 
168

 
196

Legal and professional fees
223

 
245

 
414

 
442

ATM and check card expense
211

 
229

 
414

 
391

FDIC assessment
66

 
77

 
148

 
156

Bank franchise tax
118

 
110

 
233

 
214

Telecommunications expense
98

 
108

 
134

 
218

Data processing expense
170

 
152

 
332

 
302

Postage expense
42

 
74

 
103

 
135

Amortization expense
120

 
160

 
251

 
329

Other real estate owned expense (income), net
1

 
4

 
(22
)
 
6

Other operating expense
532

 
435

 
1,045

 
908

Total noninterest expense
$
5,864

 
$
5,705

 
$
11,730

 
$
11,456

See Notes to Consolidated Financial Statements

4



FIRST NATIONAL CORPORATION
Consolidated Statements of Income (Unaudited)
(Continued)
(in thousands, except per share data)
 
 
Three Months Ended
 
Six Months Ended
 
June 30,
2018
 
June 30,
2017
 
June 30,
2018
 
June 30,
2017
Income before income taxes
$
3,034

 
$
2,522

 
$
6,248

 
$
4,704

Income tax expense
583

 
766

 
1,110

 
1,405

Net income
$
2,451

 
$
1,756

 
$
5,138

 
$
3,299

Earnings per common share
 
 
 
 
 
 
 
Basic
$
0.49

 
$
0.36

 
$
1.04

 
$
0.67

Diluted
$
0.49

 
$
0.36

 
$
1.04

 
$
0.67

See Notes to Consolidated Financial Statements


5



FIRST NATIONAL CORPORATION
Consolidated Statements of Comprehensive Income (Unaudited)
(in thousands)
 
 
Three Months Ended
 
Six Months Ended
 
June 30,
2018
 
June 30,
2017
 
June 30,
2018
 
June 30,
2017
Net income
$
2,451

 
$
1,756

 
$
5,138

 
$
3,299

Other comprehensive (loss) income, net of tax,
 
 
 
 
 
 
 
Unrealized holding (losses) gains on available for sale securities, net of tax ($75) and $201 for the three months and ($304) and $397 for the six months ended June 30, 2018 and 2017, respectively
(284
)
 
392

 
(1,146
)
 
773

Reclassification adjustment for gains included in net income, net of tax $0 and ($4) for the three months and $0 and ($4) for the six months ended June 30, 2018 and 2017, respectively

 
(9
)
 

 
(9
)
Pension liability adjustment, net of tax $0 and $0 for the three months and ($27) and $0 for the six months ended June 30, 2018 and 2017, respectively

 

 
(99
)
 

Total other comprehensive (loss) income
(284
)
 
383

 
(1,245
)
 
764

Total comprehensive income
$
2,167

 
$
2,139

 
$
3,893

 
$
4,063

See Notes to Consolidated Financial Statements


6



FIRST NATIONAL CORPORATION
Consolidated Statements of Cash Flows (Unaudited)
(in thousands)
 
 
Six Months Ended
 
June 30,
2018
 
June 30,
2017
Cash Flows from Operating Activities
 
 
 
Net income
$
5,138

 
$
3,299

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
Depreciation and amortization of premises and equipment
681

 
697

Amortization of core deposit intangibles
251

 
329

Amortization of debt issuance costs
8

 
9

Origination of loans held for sale
(2,057
)
 
(4,582
)
Proceeds from sale of loans held for sale
1,324

 
3,987

Net gains on sales of loans held for sale
(24
)
 
(67
)
Provision for loan losses
100

 

Net gains on securities available for sale

 
(13
)
Net gains on sale of other real estate owned
(24
)
 

Increase in cash value of bank owned life insurance
(167
)
 
(187
)
Accretion of discounts and amortization of premiums on securities, net
274

 
313

Accretion of premium on time deposits
(43
)
 
(56
)
Stock-based compensation
89

 
76

Excess tax benefits on stock-based compensation
(7
)
 
(14
)
Deferred income tax expense (benefit)
51

 
(157
)
Changes in assets and liabilities:
 
 
 
(Increase) decrease in interest receivable
(157
)
 
18

Decrease in other assets
1,234

 
1

Decrease in accrued expenses and other liabilities
(896
)
 
(412
)
Net cash provided by operating activities
$
5,775

 
$
3,241

Cash Flows from Investing Activities
 
 
 
Proceeds from maturities, calls, and principal payments of securities available for sale
$
8,064

 
$
7,103

Proceeds from maturities, calls, and principal payments of securities held to maturity
2,413

 
2,468

Purchases of securities available for sale
(27,146
)
 
(1,079
)
Net purchase of restricted securities
(20
)
 
(22
)
Purchase of premises and equipment
(423
)
 
(413
)
Proceeds from sale of other real estate owned
350

 

Proceeds from cash value of bank owned life insurance
347

 

Net increase in loans
(9,187
)
 
(17,643
)
Net cash used in investing activities
$
(25,602
)
 
$
(9,586
)
See Notes to Consolidated Financial Statements


7



FIRST NATIONAL CORPORATION
Consolidated Statements of Cash Flows (Unaudited)
(Continued)
(in thousands)
 
 
Six Months Ended
 
June 30,
2018
 
June 30,
2017
Cash Flows from Financing Activities
 
 
 
Net increase in demand deposits and savings accounts
$
21,909

 
$
21,765

Net decrease in time deposits
(317
)
 
(5,451
)
Cash dividends paid on common stock, net of reinvestment
(464
)
 
(323
)
Repurchase of common stock
(24
)
 

Net cash provided by financing activities
$
21,104

 
$
15,991

Increase in cash and cash equivalents
$
1,277

 
$
9,646

Cash and Cash Equivalents
 
 
 
Beginning
$
39,986

 
$
41,092

Ending
$
41,263

 
$
50,738

Supplemental Disclosures of Cash Flow Information
 
 
 
Cash payments for:
 
 
 
Interest
$
1,656

 
$
1,174

Income Taxes
$
96

 
$
1,736

Supplemental Disclosures of Noncash Investing and Financing Activities
 
 
 
Unrealized (losses) gains on securities available for sale
$
(1,450
)
 
$
1,157

Change in pension liability
$
(126
)
 
$

Transfer from loans to other real estate owned
$
68

 
$

Issuance of common stock, dividend reinvestment plan
$
31

 
$
23

See Notes to Consolidated Financial Statements

8



FIRST NATIONAL CORPORATION
Consolidated Statements of Changes in Shareholders’ Equity (Unaudited)
(in thousands, except share and per share data)
 
 
Preferred
Stock
 
Common
Stock
 
Surplus
 
Retained
Earnings
 
Accumulated
Other
Comprehensive
Loss
 
Total
Balance, December 31, 2016
$

 
$
6,162

 
$
7,093

 
$
39,756

 
$
(860
)
 
$
52,151

Net income

 

 

 
3,299

 

 
3,299

Other comprehensive income

 

 

 

 
764

 
764

Cash dividends on common stock ($0.07 per share)

 

 

 
(346
)
 

 
(346
)
Stock-based compensation

 

 
76

 

 

 
76

Issuance of 1,665 shares common stock, dividend reinvestment plan

 
2

 
21

 

 

 
23

Issuance of 10,536 shares common stock, stock incentive plan

 
13

 
(13
)
 

 

 

Balance, June 30, 2017
$

 
$
6,177

 
$
7,177

 
$
42,709

 
$
(96
)
 
$
55,967

 
 
 
 
 
 
 
 
 
 
 
 
 
Preferred
Stock
 
Common
Stock
 
Surplus
 
Retained
Earnings
 
Accumulated
Other
Comprehensive
Loss
 
Total
Balance, December 31, 2017
$

 
$
6,182

 
$
7,260

 
$
45,670

 
$
(958
)
 
$
58,154

Net income

 

 

 
5,138

 

 
5,138

Other comprehensive loss

 

 

 

 
(1,245
)
 
(1,245
)
Cash dividends on common stock ($0.10 per share)

 

 

 
(495
)
 

 
(495
)
Stock-based compensation

 

 
89

 

 

 
89

Issuance of 1,632 shares common stock, dividend reinvestment plan

 
2

 
29

 

 

 
31

Issuance of 7,339 shares common stock, stock incentive plan

 
9

 
(9
)
 

 

 

Repurchase of 1,317 shares of common stock, stock incentive plan

 
(1
)
 
(23
)
 

 

 
(24
)
Balance, June 30, 2018
$

 
$
6,192

 
$
7,346

 
$
50,313

 
$
(2,203
)
 
$
61,648

See Notes to Consolidated Financial Statements

9



FIRST NATIONAL CORPORATION
Notes to Consolidated Financial Statements (Unaudited)
 
 
 




Note 1. General

The accompanying unaudited consolidated financial statements of First National Corporation (the Company) and its subsidiary, First Bank (the Bank), have been prepared in accordance with U.S. generally accepted accounting principles (GAAP) for interim financial information. Accordingly, they do not include all of the information and footnotes required by GAAP. All significant intercompany balances and transactions have been eliminated. In the opinion of management, the accompanying unaudited consolidated financial statements contain all adjustments and reclassifications of a normal and recurring nature considered necessary to present fairly the financial positions at June 30, 2018 and December 31, 2017, the statements of income and comprehensive income for the three and six months ended June 30, 2018 and 2017 and the cash flows and changes in shareholders’ equity for the six months ended June 30, 2018 and 2017. The statements should be read in conjunction with the consolidated financial statements and related notes included in the Annual Report on Form 10-K for the year ended December 31, 2017. Operating results for the three and six months ended June 30, 2018 are not necessarily indicative of the results that may be expected for the year ending December 31, 2018.

Adoption of ASU No. 2014-09, "Revenue from Contracts with Customers: Topic 606."

On January 1, 2018, the Company adopted ASU No. 2014-09, "Revenue from Contracts with Customers: Topic 606." This ASU revised guidance for the recognition, measurement, and disclosure of revenue from contracts with customers. The original guidance was amended through subsequent accounting standard updates that resulted in technical corrections, improvements, and a one-year deferral of the effective date to January 1, 2018. The guidance, as amended, is applicable to all entities and replaces significant portions of existing industry and transaction-specific revenue recognition rules with a more principles-based recognition model. Most revenue associated with financial instruments, including interest income, loan origination fees, and credit card fees, is outside the scope of the guidance. Gains and losses on investment securities, derivatives, financial guarantees, and sales of financial instruments are similarly excluded from the scope. The guidance is applicable to noninterest revenue streams such as trust and asset management income, deposit related fees, interchange fees, and merchant income. The Company adopted this guidance via the modified retrospective approach, meaning the standard is applied only to the most current period presented in the financial statements with the cumulative effect of initially applying the standard recognized at the date of initial application.

Since the guidance does not apply to revenue associated with financial instruments, including loans and securities that are accounted for under other GAAP, the new guidance did not have a material impact on revenue most closely associated with financial instruments, including interest income and expense. The Company completed its overall assessment of revenue streams and review of related contracts potentially affected by the ASU, including trust and asset management fees, deposit related fees, interchange fees, and merchant income. The Company also completed an evaluation of certain costs related to these revenue streams to determine whether such costs should be presented gross versus net. Based on these assessments, the Company concluded that ASU 2014-09 did not materially change the method in which the Company currently recognizes revenue for these revenue streams. Since there was no net income impact upon adoption of the new guidance, a cumulative effect adjustment to opening retained earnings was not deemed necessary.

Recent Accounting Pronouncements

In February 2016, the FASB issued ASU No. 2016-02, “Leases (Topic 842).” Among other things, in the amendments in ASU 2016-02, lessees will be required to recognize the following for all leases (with the exception of short-term leases) at the commencement date: (1) A lease liability, which is a lessee‘s obligation to make lease payments arising from a lease, measured on a discounted basis; and (2) A right-of-use asset, which is an asset that represents the lessee’s right to use, or control the use of, a specified asset for the lease term. Under the new guidance, lessor accounting is largely unchanged. Certain targeted improvements were made to align, where necessary, lessor accounting with the lessee accounting model and Topic 606, Revenue from Contracts with Customers. The amendments in this ASU are effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. Early application is permitted upon issuance. Lessees (for capital and operating leases) and lessors (for sales-type, direct financing, and operating leases) must apply a modified retrospective transition approach for leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements. The modified retrospective approach would not require any transition accounting for leases that expired before the earliest comparative period presented. Lessees and lessors may not apply a full retrospective transition approach. The Company does not expect the adoption of ASU 2016-02 to have a material impact on its consolidated

10



Notes to Consolidated Financial Statements (Unaudited)
 
 
 


financial statements. The Company has analyzed its current lease commitments, along with reasonable assumptions to project lease activity in future periods, to measure the potential impact on net income and relevant capital and financial ratios.

In June 2016, the FASB issued ASU No. 2016-13, “Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments.” The amendments in this ASU, among other things, require the measurement of all expected credit losses for financial assets held at the reporting date based on historical experience, current conditions, and reasonable and supportable forecasts. Financial institutions and other organizations will now use forward-looking information to better inform their credit loss estimates. Many of the loss estimation techniques applied today will still be permitted, although the inputs to those techniques will change to reflect the full amount of expected credit losses. In addition, the ASU amends the accounting for credit losses on available-for-sale debt securities and purchased financial assets with credit deterioration. The amendments in this ASU are effective for SEC filers for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019. The Company is currently assessing the impact that ASU 2016-13 will have on its consolidated financial statements. The Company has formed a committee to address the compliance requirements of this ASU and is currently in the process of analyzing gathered data, defining loan pools and segments, and selecting methods for applying the concepts included in this ASU. During 2018, the Company plans to test selected models, build policy and process documentation, and model the impact of the ASU on the capital and strategic plans. This guidance may result in material changes in the Company's accounting for credit losses of financial instruments.

In January 2017, the FASB issued ASU No. 2017-04, “Intangibles – Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment”. The amendments in this ASU simplify how an entity is required to test goodwill for impairment by eliminating Step 2 from the goodwill impairment test. Step 2 measures a goodwill impairment loss by comparing the implied fair value of a reporting unit’s goodwill with the carrying amount of that goodwill. Instead, under the amendments in this ASU, an entity should perform its annual, or interim, goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount. An entity still has the option to perform the qualitative assessment for a reporting unit to determine if the quantitative impairment test is necessary. Public business entities that are U.S. Securities and Exchange Commission (SEC) filers should adopt the amendments in this ASU for annual or interim goodwill impairment tests in fiscal years beginning after December 15, 2019. Early adoption is permitted for interim or annual goodwill impairment tests performed on testing dates after January 1, 2017. The Company does not expect the adoption of ASU 2017-04 to have a material impact on its consolidated financial statements.
In March 2017, the FASB issued ASU No. 2017-08, “Receivables—Nonrefundable Fees and Other Costs (Subtopic 310-20), Premium Amortization on Purchased Callable Debt Securities.” The amendments in this ASU shorten the amortization period for certain callable debt securities purchased at a premium. Upon adoption of the standard, premiums on these qualifying callable debt securities will be amortized to the earliest call date. Discounts on purchased debt securities will continue to be accreted to maturity. The amendments are effective for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years. Early adoption is permitted, including adoption in an interim period. Upon transition, entities should apply the guidance on a modified retrospective basis, with a cumulative-effect adjustment to retained earnings as of the beginning of the period of adoption and provide the disclosures required for a change in accounting principle. The Company does not expect the adoption of ASU 2017-08 to have a material impact on its consolidated financial statements.

In August 2017, the FASB issued ASU No. 2017-12, “Derivatives and Hedging (Topic 815): Targeted Improvements to Accounting for Hedging Activities.” The amendments in this ASU modify the designation and measurement guidance for hedge accounting as well as provide for increased transparency regarding the presentation of economic results on both the financial statements and related footnotes. Certain aspects of hedge effectiveness assessments will also be simplified upon implementation of this update. The amendments are effective for annual periods, including interim periods within those annual periods, beginning after December 15, 2018. Early adoption is permitted, including adoption in any interim period. The Company is currently assessing the impact that ASU 2017-12 will have on its consolidated financial statements.

In February 2018, the FASB issued ASU No. 2018-03, “Technical Corrections and Improvements to Financial Instruments-Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities.” The amendments provide targeted improvements to address certain aspects of recognition, measurement, presentation, and disclosure of financial instruments. Specifically, the amendments include clarifications related to: measurement elections, transition requirements, and adjustments associated with equity securities without readily determinable fair values; fair value measurement requirements for forward contracts and purchased options on equity securities; presentation requirements for hybrid financial liabilities for which the fair value option has been elected; and measurement requirements for liabilities denominated in a foreign currency for which the fair value option has been elected. The amendments are effective for fiscal years beginning after December 15, 2017,

11



Notes to Consolidated Financial Statements (Unaudited)
 
 
 


and interim periods within those fiscal years beginning after June 15, 2018. Early adoption is permitted. The Company does not expect the adoption of ASU 2018-03 to have a material impact on its consolidated financial statements.

In June 2018, the FASB issued ASU No. 2018-07, “Compensation- Stock Compensation (Topic 718): Improvements to Nonemployee Share-Based Payment Accounting.” The amendments expand the scope of Topic 718 to include share-based payments issued to non-employees for goods or services, which were previously excluded. The amendments will align the accounting for share-based payments to nonemployees and employees more similarly. The amendments are effective for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years. Early adoption is permitted. The Company does not expect the adoption of ASU 2018-07 to have a material impact on its consolidated financial statements.
Note 2. Securities

The Company invests in U.S. agency and mortgage-backed securities, obligations of state and political subdivisions, and corporate debt securities. Amortized costs and fair values of securities at June 30, 2018 and December 31, 2017 were as follows (in thousands):
 
June 30, 2018
 
Amortized
Cost
 
Gross
Unrealized
Gains
 
Gross
Unrealized
(Losses)
 
Fair
Value
Securities available for sale:
 
 
 
 
 
 
 
U.S. agency and mortgage-backed securities
$
94,387

 
$
21

 
$
(2,580
)
 
$
91,828

Obligations of states and political subdivisions
15,109

 
46

 
(276
)
 
14,879

Total securities available for sale
$
109,496

 
$
67

 
$
(2,856
)
 
$
106,707

Securities held to maturity:
 
 
 
 
 
 
 
U.S. agency and mortgage-backed securities
$
29,678

 
$

 
$
(1,111
)
 
$
28,567

Obligations of states and political subdivisions
14,523

 
17

 
(189
)
 
14,351

Corporate debt securities
1,500

 

 
(2
)
 
1,498

Total securities held to maturity
$
45,701

 
$
17

 
$
(1,302
)
 
$
44,416

Total securities
$
155,197

 
$
84

 
$
(4,158
)
 
$
151,123

 
 
December 31, 2017
 
Amortized
Cost
 
Gross
Unrealized
Gains
 
Gross
Unrealized
(Losses)
 
Fair
Value
Securities available for sale:
 
 
 
 
 
 
 
U.S. agency and mortgage-backed securities
$
76,074

 
$
67

 
$
(1,337
)
 
$
74,804

Obligations of states and political subdivisions
14,520

 
86

 
(155
)
 
14,451

Total securities available for sale
$
90,594

 
$
153

 
$
(1,492
)
 
$
89,255

Securities held to maturity:
 
 
 
 
 
 
 
U.S. agency and mortgage-backed securities
$
32,149

 
$

 
$
(551
)
 
$
31,598

Obligations of states and political subdivisions
14,559

 
74

 
(45
)
 
14,588

Corporate debt securities
1,500

 
16

 

 
1,516

Total securities held to maturity
$
48,208

 
$
90

 
$
(596
)
 
$
47,702

Total securities
$
138,802

 
$
243

 
$
(2,088
)
 
$
136,957


12



Notes to Consolidated Financial Statements (Unaudited)
 
 
 


At June 30, 2018 and December 31, 2017, investments in an unrealized loss position that were temporarily impaired were as follows (in thousands):
 
June 30, 2018
 
Less than 12 months
 
12 months or more
 
Total
 
Fair Value
 
Unrealized
(Loss)
 
Fair Value
 
Unrealized
(Loss)
 
Fair Value
 
Unrealized
(Loss)
Securities available for sale:
 
 
 
 
 
 
 
 
 
 
 
U.S. agency and mortgage-backed securities
$
61,734

 
$
(1,200
)
 
$
28,279

 
$
(1,380
)
 
$
90,013

 
$
(2,580
)
Obligations of states and political subdivisions
8,055

 
(129
)
 
2,462

 
(147
)
 
10,517

 
(276
)
Total securities available for sale
$
69,789

 
$
(1,329
)
 
$
30,741

 
$
(1,527
)
 
$
100,530

 
$
(2,856
)
Securities held to maturity:
 
 
 
 
 
 
 
 
 
 
 
U.S. agency and mortgage-backed securities
$
14,964

 
$
(499
)
 
$
13,603

 
$
(612
)
 
$
28,567

 
$
(1,111
)
Obligations of states and political subdivisions
11,155

 
(189
)
 

 

 
11,155

 
(189
)
Corporate debt securities
1,498

 
(2
)
 

 

 
1,498

 
(2
)
Total securities held to maturity
$
27,617

 
$
(690
)
 
$
13,603

 
$
(612
)
 
$
41,220

 
$
(1,302
)
Total securities
$
97,406

 
$
(2,019
)
 
$
44,344

 
$
(2,139
)
 
$
141,750

 
$
(4,158
)
 
 
 
 
 
 
 
 
 
 
 
 
 
December 31, 2017
 
Less than 12 months
 
12 months or more
 
Total
 
Fair Value
 
Unrealized
(Loss)
 
Fair Value
 
Unrealized
(Loss)
 
Fair Value
 
Unrealized
(Loss)
Securities available for sale:
 
 
 
 
 
 
 
 
 
 
 
U.S. agency and mortgage-backed securities
$
29,963

 
$
(286
)
 
$
30,362

 
$
(1,051
)
 
$
60,325

 
$
(1,337
)
Obligations of states and political subdivisions
4,469

 
(53
)
 
1,961

 
(102
)
 
6,430

 
(155
)
Total securities available for sale
$
34,432

 
$
(339
)
 
$
32,323

 
$
(1,153
)
 
$
66,755

 
$
(1,492
)
Securities held to maturity:
 
 
 
 
 
 
 
 
 
 
 
U.S. agency and mortgage-backed securities
$
18,301

 
$
(205
)
 
$
13,297

 
$
(346
)
 
$
31,598

 
$
(551
)
Obligations of states and political subdivisions
6,889

 
(45
)
 

 

 
6,889

 
(45
)
Total securities held to maturity
$
25,190

 
$
(250
)
 
$
13,297

 
$
(346
)
 
$
38,487

 
$
(596
)
Total securities
$
59,622

 
$
(589
)
 
$
45,620

 
$
(1,499
)
 
$
105,242

 
$
(2,088
)
The tables above provide information about securities that have been in an unrealized loss position for less than twelve consecutive months and securities that have been in an unrealized loss position for twelve consecutive months or more. Management evaluates securities for other-than-temporary impairment at least on a quarterly basis, and more frequently when economic or market concerns warrant such evaluation. Impairment is considered to be other-than-temporary if the Company (1) intends to sell the security, (2) more likely than not will be required to sell the security before recovering its cost, or (3) does not expect to recover the security’s entire amortized cost basis. Presently, the Company does not intend to sell any of these securities, does not expect to be required to sell these securities, and expects to recover the entire amortized cost of all the securities.

13



Notes to Consolidated Financial Statements (Unaudited)
 
 
 


At June 30, 2018, there were eighty-six out of ninety-one U.S. agency and mortgage-backed securities, fifty-eight out of eighty-one obligations of states and political subdivisions, and one corporate debt security in an unrealized loss position. One hundred percent of the Company’s investment portfolio is considered investment grade. The weighted-average re-pricing term of the portfolio was 4.8 years at June 30, 2018. At December 31, 2017, there were sixty-eight out of eighty-two U.S. agency and mortgage-backed securities and thirty-nine out of eighty obligations of states and political subdivisions in an unrealized loss position. One hundred percent of the Company’s investment portfolio was considered investment grade at December 31, 2017. The weighted-average re-pricing term of the portfolio was 4.7 years at December 31, 2017. The unrealized losses at June 30, 2018 in the U.S. agency and mortgage-backed securities portfolio, the obligations of states and political subdivisions portfolio, and the corporate debt securities portfolio were related to changes in market interest rates and not credit concerns of the issuers.

The amortized cost and fair value of securities at June 30, 2018 by contractual maturity are shown below (in thousands). Expected maturities of mortgage-backed securities will differ from contractual maturities because borrowers may have the right to prepay obligations with or without call or prepayment penalties.
 
 
Available for Sale
 
Held to Maturity
 
Amortized
Cost
 
Fair
Value
 
Amortized
Cost
 
Fair
Value
Due within one year
$
505

 
$
511

 
$
186

 
$
186

Due after one year through five years
8,982

 
8,919

 
6,918

 
6,790

Due after five years through ten years
14,164

 
13,723

 
14,282

 
14,034

Due after ten years
85,845

 
83,554

 
24,315

 
23,406

 
$
109,496

 
$
106,707

 
$
45,701

 
$
44,416

Federal Home Loan Bank, Federal Reserve Bank, and Community Bankers’ Bank stock are generally viewed as long-term investments and as restricted securities, which are carried at cost, because there is a minimal market for the stock. Therefore, when evaluating restricted securities for impairment, their value is based on the ultimate recoverability of the par value rather than by recognizing temporary declines in value. The Company does not consider these investments to be other-than-temporarily impaired at June 30, 2018, and no impairment has been recognized.

The composition of restricted securities at June 30, 2018 and December 31, 2017 was as follows (in thousands):
 
June 30,
2018
 
December 31,
2017
Federal Home Loan Bank stock
$
665

 
$
645

Federal Reserve Bank stock
875

 
875

Community Bankers’ Bank stock
50

 
50

 
$
1,590

 
$
1,570


14



Notes to Consolidated Financial Statements (Unaudited)
 
 
 


Note 3. Loans

Loans at June 30, 2018 and December 31, 2017 are summarized as follows (in thousands):
 
June 30,
2018
 
December 31,
2017
Real estate loans:
 
 
 
Construction and land development
$
37,350

 
$
35,927

Secured by 1-4 family residential
211,101

 
208,177

Other real estate loans
224,362

 
222,256

Commercial and industrial loans
40,943

 
38,763

Consumer and other loans
17,177

 
17,078

Total loans
$
530,933

 
$
522,201

Allowance for loan losses
(5,039
)
 
(5,326
)
Loans, net
$
525,894

 
$
516,875


Net deferred loan fees included in the above loan categories were $266 thousand and $301 thousand at June 30, 2018 and December 31, 2017, respectively. Consumer and other loans included $231 thousand and $232 thousand of demand deposit overdrafts at June 30, 2018 and December 31, 2017, respectively.
Risk characteristics of each loan portfolio class that are considered by the Company include:
 
1-4 family residential mortgage loans carry risks associated with the continued creditworthiness of the borrower and changes in the value of the collateral.

Real estate construction and land development loans carry risks that the project may not be finished according to schedule, the project may not be finished according to budget, and the value of the collateral may, at any point in time, be less than the principal amount of the loan. Construction loans also bear the risk that the general contractor, who may or may not be a loan customer, may be unable to finish the construction project as planned because of financial pressure or other factors unrelated to the project.

Other real estate loans carry risks associated with the successful operation of a business or a real estate project, in addition to other risks associated with the ownership of real estate, because repayment of these loans may be dependent upon the profitability and cash flows of the business or project.

Commercial and industrial loans carry risks associated with the successful operation of a business because repayment of these loans may be dependent upon the profitability and cash flows of the business. In addition, there is risk associated with the value of collateral other than real estate which may depreciate over time and cannot be appraised with as much reliability.

Consumer and other loans carry risk associated with the continued creditworthiness of the borrower and the value of the collateral, if any. These loans are typically either unsecured or secured by rapidly depreciating assets such as automobiles. They are also likely to be immediately and adversely affected by job loss, divorce, illness, personal bankruptcy, or other changes in circumstances. Consumer and other loans also include purchased consumer loans which could have been originated outside of the Company's market area.

15



Notes to Consolidated Financial Statements (Unaudited)
 
 
 


The following tables provide a summary of loan classes and an aging of past due loans as of June 30, 2018 and December 31, 2017 (in thousands):
 
June 30, 2018
 
30-59
Days Past
Due
 
60-89
Days
Past Due
 
> 90
Days Past
Due
 
Total
Past Due
 
Current
 
Total
Loans
 
Non-accrual
Loans
 
90 Days
or More
Past Due
and
Accruing
Real estate loans:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Construction and land development
$
170

 
$

 
$
355

 
$
525

 
$
36,825

 
$
37,350

 
$

 
$
355

Secured by 1-4 family residential
1,218

 
292

 
359

 
1,869

 
209,232

 
211,101

 
375

 
76

Other real estate loans
1,426

 
319

 
1,587

 
3,332

 
221,030

 
224,362

 
1,755

 

Commercial and industrial

 
210

 
75

 
285

 
40,658

 
40,943

 
200

 
75

Consumer and other loans
88

 
53

 
43

 
184

 
16,993

 
17,177

 

 
43

Total
$
2,902

 
$
874

 
$
2,419

 
$
6,195

 
$
524,738

 
$
530,933

 
$
2,330

 
$
549


 
December 31, 2017
 
30-59
Days Past
Due
 
60-89
Days
Past Due
 
> 90
Days Past
Due
 
Total
Past Due
 
Current
 
Total
Loans
 
Non-accrual
Loans
 
90 Days
or More
Past Due
and
Accruing
Real estate loans:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Construction and land development
$
986

 
$
30

 
$
40

 
$
1,056

 
$
34,871

 
$
35,927

 
$
269

 
$
40

Secured by 1-4 family residential
606

 
203

 
148

 
957

 
207,220

 
208,177

 
267

 
106

Other real estate loans
2,042

 
170

 
10

 
2,222

 
220,034

 
222,256

 
401

 
10

Commercial and industrial
184

 
25

 

 
209

 
38,554

 
38,763

 

 

Consumer and other loans
51

 
49

 
27

 
127

 
16,951

 
17,078

 

 
27

Total
$
3,869

 
$
477

 
$
225

 
$
4,571

 
$
517,630

 
$
522,201

 
$
937

 
$
183


Credit Quality Indicators

As part of the ongoing monitoring of the credit quality of the Company’s loan portfolio, management tracks certain credit quality indicators including trends related to the risk grading of specified classes of loans. The Company utilizes a risk grading matrix to assign a rating to each of its loans. The loan ratings are summarized into the following categories: pass, special mention, substandard, doubtful and loss. Pass rated loans include all risk rated credits other than those included in special mention, substandard or doubtful. Loans classified as loss are charged-off. Loan officers assign risk grades to loans at origination and as renewals arise. The Bank’s Credit Administration department reviews risk grades for accuracy on a quarterly basis and as credit issues arise. In addition, a certain amount of loans are reviewed each year through the Company’s internal and external loan review process. A description of the general characteristics of the loan grading categories is as follows:
Pass – Loans classified as pass exhibit acceptable operating trends, balance sheet trends, and liquidity. Sufficient cash flow exists to service the loan. All obligations have been paid by the borrower as agreed.
Special Mention – Loans classified as special mention have a potential weakness that deserves management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the loan or the Bank’s credit position at some future date.

16



Notes to Consolidated Financial Statements (Unaudited)
 
 
 


Substandard – Loans classified as substandard are inadequately protected by the current net worth and payment capacity of the obligor or of the collateral pledged, if any. Loans so classified have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. They are characterized by the distinct possibility that the Bank will sustain some loss if the deficiencies are not corrected.
Doubtful – Loans classified as doubtful have all the weaknesses inherent in those classified as substandard, with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently existing facts, conditions and values, highly questionable and improbable. The Company considers all doubtful loans to be impaired and places the loan on non-accrual status.
Loss – Loans classified as loss are considered uncollectable and of such little value that their continuance as bankable assets is not warranted.

The following tables provide an analysis of the credit risk profile of each loan class as of June 30, 2018 and December 31, 2017 (in thousands):
 
June 30, 2018
 
Pass
 
Special
Mention
 
Substandard
 
Doubtful
 
Total
Real estate loans:
 
 
 
 
 
 
 
 
 
Construction and land development
$
34,862

 
$
751

 
$
1,737

 
$

 
$
37,350

Secured by 1-4 family residential
207,451

 
1,896

 
1,754

 

 
211,101

Other real estate loans
220,695

 
1,314

 
2,353

 

 
224,362

Commercial and industrial
40,632

 
27

 
284

 

 
40,943

Consumer and other loans
17,177

 

 

 

 
17,177

Total
$
520,817

 
$
3,988

 
$
6,128

 
$

 
$
530,933

 
 
 
 
 
 
 
 
 
 
 
December 31, 2017
 
Pass
 
Special
Mention
 
Substandard
 
Doubtful
 
Total
Real estate loans:
 
 
 
 
 
 
 
 
 
Construction and land development
$
31,553

 
$
2,268

 
$
2,106

 
$

 
$
35,927

Secured by 1-4 family residential
204,166

 
1,933

 
2,078

 

 
208,177

Other real estate loans
215,773

 
971

 
5,512

 

 
222,256

Commercial and industrial
38,606

 
53

 
104

 

 
38,763

Consumer and other loans
17,078

 

 

 

 
17,078

Total
$
507,176

 
$
5,225

 
$
9,800

 
$

 
$
522,201


17



Notes to Consolidated Financial Statements (Unaudited)
 
 
 


Note 4. Allowance for Loan Losses

The following tables present, as of June 30, 2018, December 31, 2017 and June 30, 2017, the total allowance for loan losses, the allowance by impairment methodology, and loans by impairment methodology (in thousands):
 
June 30, 2018
 
Construction
and Land
Development
 
Secured by
1-4 Family
Residential
 
Other Real
Estate
 
Commercial
and
Industrial
 
Consumer
and Other
Loans
 
Total
Allowance for loan losses:
 
 
 
 
 
 
 
 
 
 
 
Beginning Balance, December 31, 2017
$
414

 
$
775

 
$
2,948

 
$
418

 
$
771

 
$
5,326

Charge-offs

 
(24
)
 

 
(8
)
 
(468
)
 
(500
)
Recoveries

 
8

 
1

 
5

 
99

 
113

Provision for (recovery of) loan losses
(8
)
 
32

 
(285
)
 
10

 
351

 
100

Ending Balance, June 30, 2018
$
406

 
$
791

 
$
2,664

 
$
425

 
$
753

 
$
5,039

Ending Balance:
 
 
 
 
 
 
 
 
 
 
 
Individually evaluated for impairment

 

 

 

 

 

Collectively evaluated for impairment
406

 
791

 
2,664

 
425

 
753

 
5,039

Loans:
 
 
 
 
 
 
 
 
 
 
 
Ending Balance
$
37,350

 
$
211,101

 
$
224,362

 
$
40,943

 
$
17,177

 
$
530,933

Individually evaluated for impairment
865

 
1,330

 
2,029

 
257

 

 
4,481

Collectively evaluated for impairment
36,485

 
209,771

 
222,333

 
40,686

 
17,177

 
526,452


 
December 31, 2017
 
Construction
and Land
Development
 
Secured by
1-4 Family
Residential
 
Other Real
Estate
 
Commercial
and
Industrial
 
Consumer
and Other
Loans
 
Total
Allowance for loan losses:
 
 
 
 
 
 
 
 
 
 
 
Beginning Balance, December 31, 2016
$
441

 
$
1,019

 
$
3,142

 
$
380

 
$
339

 
$
5,321

Charge-offs

 
(126
)
 

 

 
(607
)
 
(733
)
Recoveries
11

 
302

 
50

 
10

 
265

 
638

Provision for (recovery of) loan losses
(38
)
 
(420
)
 
(244
)
 
28

 
774

 
100

Ending Balance, December 31, 2017
$
414

 
$
775

 
$
2,948

 
$
418

 
$
771

 
$
5,326

Ending Balance:
 
 
 
 
 
 
 
 
 
 
 
Individually evaluated for impairment

 

 

 

 

 

Collectively evaluated for impairment
414

 
775

 
2,948

 
418

 
771

 
5,326

Loans:
 
 
 
 
 
 
 
 
 
 
 
Ending Balance
$
35,927

 
$
208,177

 
$
222,256

 
$
38,763

 
$
17,078

 
$
522,201

Individually evaluated for impairment
1,150

 
1,307

 
1,289

 
65

 

 
3,811

Collectively evaluated for impairment
34,777

 
206,870

 
220,967

 
38,698

 
17,078

 
518,390

 

18



Notes to Consolidated Financial Statements (Unaudited)
 
 
 


 
June 30, 2017
 
Construction
and Land
Development
 
Secured by
1-4 Family
Residential
 
Other Real
Estate
 
Commercial
and
Industrial
 
Consumer
and Other
Loans
 
Total
Allowance for loan losses:
 
 
 
 
 
 
 
 
 
 
 
Beginning Balance, December 31, 2016
$
441

 
$
1,019

 
$
3,142

 
$
380

 
$
339

 
$
5,321

Charge-offs

 
(25
)
 

 

 
(242
)
 
(267
)
Recoveries
2

 
238

 
47

 
7

 
96

 
390

Provision for (recovery of) loan losses
39

 
(360
)
 
(115
)
 
(12
)
 
448

 

Ending Balance, June 30, 2017
$
482

 
$
872

 
$
3,074

 
$
375

 
$
641

 
$
5,444

Ending Balance:
 
 
 
 
 
 
 
 
 
 
 
Individually evaluated for impairment

 
57

 

 

 

 
57

Collectively evaluated for impairment
482

 
815

 
3,074

 
375

 
641

 
5,387

Loans:
 
 
 
 
 
 
 
 
 
 
 
Ending Balance
$
36,783

 
$
205,114

 
$
215,742

 
$
31,201

 
$
14,993

 
$
503,833

Individually evaluated for impairment
1,613

 
1,772

 
1,355

 
67

 

 
4,807

Collectively evaluated for impairment
35,170

 
203,342

 
214,387

 
31,134

 
14,993

 
499,026



19



Notes to Consolidated Financial Statements (Unaudited)
 
 
 


Impaired loans and the related allowance at June 30, 2018, December 31, 2017 and June 30, 2017, were as follows (in thousands):
 
June 30, 2018
 
Unpaid
Principal