10-Q 1 mbcn20140630_10q.htm FORM 10-Q mbcn20140630_10q.htm

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20552

 

FORM 10 - Q

 

QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT

   OF 1934

 

For the quarterly period ended June 30, 2014

 

 

Commission File Number 000-32561

Middlefield Banc Corp.

(Exact name of registrant as specified in its charter)

 

           Ohio

34 - 1585111

(State or other jurisdiction of incorporation or organization)

(IRS Employer Identification No.)

 

15985 East High Street, Middlefield, Ohio 44062-9263

(Address of principal executive offices)

 

(440) 632-1666

(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 website, 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 or a smaller reporting company. See the definition of “large accelerated filer”, “accelerated filer”, and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large accelerated filer [ ]

Accelerated filer [ ]

Non-accelerated filer [ ]

Smaller reporting company [√]

 

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

YES [ ]   NO [√]

 

State the number of shares outstanding of each of the issuer's classes of common equity as of the latest practicable date:

 

Class: Common Stock, without par value

Outstanding at August 12, 2014: 2,042,873

 

 
1

 

 

MIDDLEFIELD BANC CORP.

 

INDEX

 

 

Part I – Financial Information

 

Item 1.

Financial Statements (unaudited)

 

 

Consolidated Balance Sheet as of June 30, 2014 and December 31, 2013 3

 

Consolidated Statement of Income for the Three and Six Months ended June 30, 2014 and 2013 4

 

Consolidated Statement of Comprehensive Income (Loss) for the Three and Six Months ended June 30, 2014 and 2013 5

 

Consolidated Statement of Changes in Stockholders' Equity for the Six Months ended June 31, 2014 6

 

Consolidated Statement of Cash Flows for the Six Months ended June 30, 2014 and 2013 7

 

Notes to Unaudited Consolidated Financial Statements 8

Item 2.

Management's Discussion and Analysis of Financial Condition and Results of Operations 28

Item 3.

Quantitative and Qualitative Disclosures about Market Risk 38

Item 4.

Controls and Procedures 39

Part II – Other Information

 

Item 1.

Legal Proceedings 39

Item 1A.

Risk Factors 39

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds 39

Item 3.

Defaults by the Company on its Senior Securities 39

Item 4.

Mine Safety Disclosures 39

Item 5.

Other Information 39

Item 6.

Exhibits and Reports on Form 8 – K 39

Signatures

44

Exhibit 31.1

45

Exhibit 31.2

46

Exhibit 32

47

 

 
2

 

 

MIDDLEFIELD BANC CORP.

CONSOLIDATED BALANCE SHEET

(Dollar amounts in thousands, except share data)

(Unaudited)

 

 

   

June 30,

   

December 31,

 
   

2014

   

2013

 
                 

ASSETS

               

Cash and due from banks

  $ 19,821     $ 20,926  

Federal funds sold

    5,756       5,267  

Cash and cash equivalents

    25,577       26,193  

Investment securities available for sale

    165,506       157,143  

Loans

    450,119       435,725  

Less allowance for loan and lease losses

    7,129       7,046  

Net loans

    442,990       428,679  

Premises and equipment, net

    9,927       9,828  

Goodwill

    4,559       4,559  

Core deposit intangible

    136       156  

Bank-owned life insurance

    8,951       8,816  

Accrued interest and other assets

    10,623       11,716  

TOTAL ASSETS

  $ 668,269     $ 647,090  
                 

LIABILITIES

               

Deposits:

               

Noninterest-bearing demand

  $ 96,209     $ 85,905  

Interest-bearing demand

    58,366       53,741  

Money market

    73,619       77,473  

Savings

    178,602       177,303  

Time

    181,997       174,414  

Total deposits

    588,793       568,836  

Short-term borrowings

    6,939       10,809  

Other borrowings

    11,362       11,609  

Accrued interest and other liabilities

    2,004       2,363  

TOTAL LIABILITIES

    609,098       593,617  
                 

STOCKHOLDERS' EQUITY

               

Common stock, no par value; 10,000,000 shares authorized, 2,232,283 and 2,221,834 shares issued; 2,042,753 and 2,032,304 shares outstanding

    35,266       34,979  

Retained earnings

    29,780       27,465  

Accumulated other comprehensive income (loss)

    859       (2,237 )

Treasury stock, at cost; 189,530 shares

    (6,734 )     (6,734 )

TOTAL STOCKHOLDERS' EQUITY

    59,171       53,473  

TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY

  $ 668,269     $ 647,090  

 

See accompanying notes to unaudited consolidated financial statements.

 

 
3

 

 

MIDDLEFIELD BANC CORP.

CONSOLIDATED STATEMENT OF INCOME  

(Dollar amounts in thousands, except per share data)

(Unaudited)

 

   

Three Months Ended

   

Six Months Ended

 
   

June 30,

   

June 30,

 
   

2014

   

2013

   

2014

   

2013

 

INTEREST INCOME

                               

Interest and fees on loans

  $ 5,575     $ 5,550     $ 11,269     $ 11,122  

Interest-bearing deposits in other institutions

    9       9       14       17  

Federal funds sold

    6       4       9       8  

Investment securities:

                               

Taxable interest

    526       625       1,035       1,299  

Tax-exempt interest

    783       744       1,538       1,477  

Dividends on stock

    20       15       43       38  

Total interest income

    6,919       6,947       13,908       13,961  
                                 

INTEREST EXPENSE

                               

Deposits

    929       1,219       1,869       2,516  

Short-term borrowings

    38       47       73       99  

Other borrowings

    32       44       64       90  

Trust preferred securities

    34       47       60       81  

Total interest expense

    1,033       1,357       2,066       2,786  
                                 

NET INTEREST INCOME

    5,886       5,590       11,842       11,175  
                                 

Provision for loan losses

    120       300       300       613  
                                 

NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSSES

    5,766       5,290       11,542       10,562  
                                 

NONINTEREST INCOME

                               

Service charges on deposit accounts

    469       511       910       958  

Investment securities (losses) gains, net

    64       (10 )     58       175  

Earnings on bank-owned life insurance

    68       75       135       143  

Other income

    256       243       469       411  

Total noninterest income

    857       819       1,572       1,687  
                                 

NONINTEREST EXPENSE

                               

Salaries and employee benefits

    2,268       1,906       4,284       3,777  

Occupancy expense

    275       248       596       522  

Equipment expense

    194       186       414       375  

Data processing costs

    224       187       438       400  

Ohio state franchise tax

    93       149       176       303  

Federal deposit insurance expense

    97       64       229       218  

Professional fees

    338       291       625       567  

(Gain) loss on sale of other real estate owned

    75       (13 )     70       (5 )

Advertising expense

    124       111       247       223  

Other real estate expense

    102       90       165       196  

Directors fees

    118       133       204       238  

Other expense

    690       596       1,379       1,135  

Total noninterest expense

    4,598       3,948       8,827       7,949  
                                 

Income before income taxes

    2,025       2,161       4,287       4,300  

Income taxes

    414       476       913       958  

NET INCOME

  $ 1,611     $ 1,685     $ 3,374     $ 3,342  
                                 

EARNINGS PER SHARE

                               

Basic

  $ 0.79     $ 0.84     $ 1.66     $ 1.66  

Diluted

  $ 0.79       0.83       1.65       1.66  
                                 

DIVIDENDS DECLARED PER SHARE

  $ 0.26     $ 0.26     $ 0.52     $ 0.52  

 

See accompanying notes to unaudited consolidated financial statements.

 

 
4

 

 

MIDDLEFIELD BANC CORP.

CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME (LOSS)

(Dollar amounts in thousands)

(Unaudited)

 

   

Three Months Ended

   

Six Months Ended

 
   

June 30,

   

June 30,

 
   

2014

   

2013

   

2014

   

2013

 
                                 

Net income

  $ 1,611     $ 1,685     $ 3,374     $ 3,342  
                                 

Other comprehensive income (loss):

                               

Net unrealized holding gain (loss) on available-for-sale securities

    1,950       (6,760 )     4,749       (8,281 )

Tax effect

    (663 )     2,298       (1,615 )     2,815  
                                 

Reclassification adjustment for investment securities losses (gains) included in net income

    (64 )     10       (58 )     (175 )

Tax effect

    22       (3 )     20       60  
                                 

Total other comprehensive income (loss)

    1,245       (4,455 )     3,096       (5,581 )
                                 

Comprehensive income (loss)

  $ 2,856     $ (2,770 )   $ 6,470     $ (2,239 )

 

See accompanying notes to unaudited consolidated financial statements.

 

 
5

 

 

MIDDLEFIELD BANC CORP.

CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS EQUITY

(Dollar amounts in thousands, except share data)

(Unaudited)

 

                   

Accumulated

                 
                   

Other

           

Total

 
   

Common

   

Retained

   

Comprehensive

   

Treasury

   

Stockholders'

 
   

Stock

   

Earnings

   

Income (Loss)

   

Stock

   

Equity

 
                                         

Balance, December 31, 2013

  $ 34,979     $ 27,465     $ (2,237 )   $ (6,734 )   $ 53,473  
                                         

Net income

            3,374                       3,374  

Other comprehensive income

                    3,096               3,096  

Dividend reinvestment and purchase plan (10,049 shares)

    277                               277  

Employee Stock Grants (400 shares)

    10                               10  

Cash dividends ($0.52 per share)

            (1,059 )                     (1,059 )

Balance, June 30, 2014

  $ 35,266     $ 29,780     $ 859     $ (6,734 )   $ 59,171  

 

See accompanying notes to unaudited consolidated financial statements.

 

 
6

 

 

MIDDLEFIELD BANC CORP.

 

CONSOLIDATED STATEMENT OF CASH FLOWS

(Dollar amounts in thousands)

(Unaudited)

 

   

Six Months Ended

 
   

June 30,

 
   

2014

   

2013

 

OPERATING ACTIVITIES

               

Net income

  $ 3,374     $ 3,342  

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

               

Provision for loan losses

    300       613  

Investment securities losses (gains), net

    (58 )     (175 )

Depreciation and amortization

    373       449  

Amortization of premium and discount on investment securities, net

    370       457  

Accretion of deferred loan fees, net

    (141 )     (119 )

Earnings on bank-owned life insurance

    (135 )     (143 )

Deferred income taxes

    (262 )     103  

(Gain) loss on sale of other real estate owned

    70       (5 )

Increase in accrued interest receivable

    (94 )     (88 )

Decrease in accrued interest payable

    (22 )     (32 )

Other, net

    (797 )     (16 )

Net cash provided by operating activities

    2,978       4,386  
                 

INVESTING ACTIVITIES

               

Investment securities available for sale:

               

Proceeds from repayments and maturities

    6,809       12,992  

Proceeds from sale of securities

    1,494       8,135  

Purchases

    (12,287 )     (15,150 )

Increase in loans, net

    (14,490 )     (5,465 )

Proceeds from the sale of other real estate owned

    256       465  

Purchases of premises and equipment

    (444 )     (250 )

Net cash (used for) provided by investing activities

    (18,662 )     727  
                 

FINANCING ACTIVITIES

               

Net (decrease) increase in deposits

    19,957       (7,916 )

Decrease in short-term borrowings, net

    (3,870 )     (1,131 )

Repayment of other borrowings

    (247 )     (335 )

Common stock issuance

    -       74  

Stock options exercised

    -       (115 )

Proceeds from dividend reinvestment and purchase plan

    287       440  

Cash dividends paid

    (1,059 )     (1,047 )

Net cash provided by (used for) financing activities

    15,068       (10,030 )
                 

Decrease in cash and cash equivalents

    (616 )     (4,917 )
                 

CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD

    26,193       45,346  
                 

CASH AND CASH EQUIVALENTS AT END OF PERIOD

  $ 25,577     $ 40,429  
                 

SUPPLEMENTAL INFORMATION

               

Cash paid during the year for:

               

Interest on deposits and borrowings

  $ 2,088     $ 2,818  

Income taxes

    1,395       900  
                 

Noncash investing transactions:

               

Transfers from loans to other real estate owned

  $ 20     $ 975  

 

See accompanying notes to unaudited consolidated financial statements.

 

 
7

 

 

MIDDLEFIELD BANC CORP.

 

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

 

NOTE 1 - BASIS OF PRESENTATION

 

The consolidated financial statements of Middlefield Banc Corp. ("Company") include its bank subsidiary, The Middlefield Banking Company (“MB”), and a nonbank asset resolution subsidiary EMORECO, Inc. All significant inter-company items have been eliminated.

 

The accompanying financial statements have been prepared in accordance with U.S. generally accepted accounting principles and the instructions for Form 10-Q and Article 10 of Regulation S-X. In management’s opinion, the financial statements include all adjustments, consisting of normal recurring adjustments, that the Company considers necessary to fairly state the Company’s financial position and the results of operations and cash flows. The consolidated balance sheet at December 31, 2013, has been derived from the audited financial statements at that date but does not include all of the necessary informational disclosures and footnotes as required by U.S. generally accepted accounting principles. The accompanying financial statements should be read in conjunction with the financial statements and notes thereto included with the Company’s Form 10-K for the year ended December 31, 2013 (File No. 000-32561). The results of the Company’s operations for any interim period are not necessarily indicative of the results of the Company’s operations for any other interim period or for a full fiscal year.

 

 

Recent Accounting Pronouncements

 

In June 2013, the FASB issued ASU 2013-08, Financial Services – Investment Companies (Topic 946): Amendments to the Scope, Measurement, and Disclosure Requirements. The amendments in this Update affect the scope, measurement, and disclosure requirements for investment companies under U.S. GAAP. The amendments do all of the following: 1. Change the approach to the investment company assessment in Topic 946, clarify the characteristics of an investment company, and provide comprehensive guidance for assessing whether an entity is an investment Company. 2. Require an investment company to measure noncontrolling ownership interests in other investment companies at fair value rather than using the equity method of accounting. 3. Require the following additional disclosures: (a) the fact that the entity is an investment company and is applying the guidance in Topic 946, (b) information about changes, if any, in an entity’s status as an investment company, and (c) information about financial support provided or contractually required to be provided by an investment company to any of its investees. The amendments in this Update are effective for an entity’s interim and annual reporting periods in fiscal years that begin after December 15, 2013. This ASU became effective for the Company on January 1, 2014 and did not have a significant impact on the Company’s financial statements.

 

In July 2013, the FASB issued ASU 2013-11, Income Taxes (Topic 740): Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists. This Update applies to all entities that have unrecognized tax benefits when a net operating loss carryforward, a similar tax loss, or a tax credit carryforward exists at the reporting date. An unrecognized tax benefit, or a portion of an unrecognized tax benefit, should be presented in the financial statements as a reduction to a deferred tax asset for a net operating loss carryforward, a similar tax loss, or a tax credit carryforward, except as follows. To the extent a net operating loss carryforward, a similar tax loss, or a tax credit carryforward is not available at the reporting date under the tax law of the applicable jurisdiction to settle any additional income taxes that would result from the disallowance of a tax position or the tax law of the applicable jurisdiction does not require the entity to use, and the entity does not intend to use, the deferred tax asset for such purpose, the unrecognized tax benefit should be presented in the financial statements as a liability and should not be combined with deferred tax assets. The assessment of whether a deferred tax asset is available is based on the unrecognized tax benefit and deferred tax asset that exist at the reporting date and should be made presuming disallowance of the tax position at the reporting date. The amendments in this Update are effective for fiscal years, and interim periods within those years, beginning after December 15, 2013. For nonpublic entities, the amendments are effective for fiscal years, and interim periods within those years, beginning after December 15, 2014. Early adoption is permitted. The amendments should be applied prospectively to all unrecognized tax benefits that exist at the effective date. Retrospective application is permitted. This ASU became effective for the Company on January 1, 2014 and did not have a significant impact on the Company’s financial statements.

 

In January 2014, FASB issued ASU 2014-01, Investments – Equity Method and Joint Ventures (Topic 323): Accounting for Investments in Qualified Affordable Housing Projects. The amendments in this Update permit reporting entities to make an accounting policy election to account for their investments in qualified affordable housing projects using the proportional amortization method if certain conditions are met. Under the proportional amortization method, an entity amortizes the initial cost of the investment in proportion to the tax credits and other tax benefits received and recognizes the net investment performance in the income statement as a component of income tax expense (benefit). The amendments in this Update 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 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. This ASU is not expected to have a significant impact on the Company’s financial.

 

 
8

 

 

In January 2014, the FASB issued ASU 2014-04, Receivables – Troubled Debt Restructurings by Creditors (Subtopic 310-40): Reclassification of Residential Real Estate Collateralized Consumer Mortgage Loans upon Foreclosure. The amendments in this Update clarify that 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. Additionally, the amendments require interim and annual disclosure of both (1) the amount of foreclosed residential real estate property held by the creditor and (2) the recorded investment in consumer mortgage loans collateralized by residential real estate property that are in the process of foreclosure according to local requirements of the applicable jurisdiction. 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. An entity can elect to adopt the amendments in this Update using either a modified retrospective transition method or a prospective transition method. This ASU is not expected to have a significant impact on the Company’s financial statements.

 

In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers (a new revenue recognition standard). The Update’s core principle is that a company will recognize revenue to depict the transfer of goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. In addition, this update specifies the accounting for certain costs to obtain or fulfill a contract with a customer and expands disclosure requirements for revenue recognition. This Update is effective for annual reporting periods beginning after December 15, 2016, including interim periods within that reporting period. The Company is evaluating the effect of adopting this new accounting Update.

 

In June 2014, the FASB issued ASU 2014-11, Transfers and Servicing (Topic 860): Repurchase-to-Maturity Transactions, Repurchase Financings, and Disclosures. The amendments in this Update change the accounting for repurchase-to-maturity transactions to secured borrowing accounting. For repurchase financing arrangements, the amendments require separate accounting for a transfer of a financial asset executed contemporaneously with a repurchase agreement with the same counterparty, which will result in secured borrowing accounting for the repurchase agreement. The amendments also require enhanced disclosures. The accounting changes in this Update are effective for the first interim or annual period beginning after December 15, 2014. An entity is required to present changes in accounting for transactions outstanding on the effective date as a cumulative-effect adjustment to retained earnings as of the beginning of the period of adoption. Earlier application is prohibited. The disclosure for certain transactions accounted for as a sale is required to be presented for interim and annual periods beginning after December 15, 2014, and the disclosure for repurchase agreements, securities lending transactions, and repurchase-to-maturity transactions accounted for as secured borrowings is required to be presented for annual periods beginning after December 15, 2014, and for interim periods beginning after March 15, 2015. The disclosures are not required to be presented for comparative periods before the effective date. This Update is not expected to have a significant impact on the Company’s financial statements.

 

In June 2014, the FASB issued ASU 2014-12, Compensation-Stock Compensation (Topic 718): Accounting for Share-Based Payments when the Terms of an Award Provide that a Performance Target Could Be Achieved After the Requisite Service Period. The amendments require that a performance target that affects vesting and that could be achieved after the requisite service period be treated as a performance condition. The amendments in this Update are effective for annual periods and interim periods within those annual periods beginning after December 15, 2015. Earlier adoption is permitted. Entities may apply the amendments in this Update either (a) prospectively to all awards granted or modified after the effective date or (b) retrospectively to all awards with performance targets that are outstanding as of the beginning of the earliest annual period presented in the financial statements and to all new or modified awards thereafter. If retrospective transition is adopted, the cumulative effect of applying this Update as of the beginning of the earliest annual period presented in the financial statements should be recognized as an adjustment to the opening retained earnings balance at that date. Additionally, if retrospective transition is adopted, an entity may use hindsight in measuring and recognizing the compensation cost. This Update is not expected to have a significant impact on the Company’s financial statements.

 

 
9

 

 

NOTE 2 - STOCK-BASED COMPENSATION

 

The Company had no unvested stock options outstanding or unrecognized stock-based compensation costs outstanding as of June 30, 2014 and 2013.

 

Stock option activity during the six months ended June 30 is as follows:

 

           

Weighted-average

           

Weighted-average

 
   

2014

    Exercise Price    

2013

    Exercise Price  
                                 

Outstanding, January 1

    58,581     $ 28.38       79,693     $ 26.81  

Exercised

    -       -       (19,761 )     24.09  

Forfeited

    (907 )     27.35       -       -  
                                 

Outstanding, June 30

    57,674       28.40       59,932       28.29  
                                 

Exercisable, June 30

    57,674       28.40       59,932       28.29  

 

 

 

NOTE 3 - EARNINGS PER SHARE

 

The Company provides dual presentation of basic and diluted earnings per share. Basic earnings per share is calculated by dividing net income by the average shares outstanding. Diluted earnings per share adds the dilutive effects of stock options to average shares outstanding.

 

The following table sets forth the composition of the weighted-average common shares (denominator) used in the basic and diluted earnings per share computation.

 

 

   

For the Three

   

For the Six

 
   

Months Ended

   

Months Ended

 
   

June 30,

   

June 30,

 
   

2014

   

2013

   

2014

   

2013

 

Weighted-average common shares issued

    2,227,556       2,206,794       2,225,555       2,198,033  
                                 

Average treasury stock shares

    (189,530 )     (189,530 )     (189,530 )     (189,530 )
                                 

Weighted-average common shares and common stock equivalents used to calculate basic earnings per share

    2,038,026       2,017,264       2,036,025       2,008,503  
                                 

Additional common stock equivalents (stock options) used to calculate diluted earnings per share

    6,538       6,697       6,156       8,557  
                                 

Weighted-average common shares and common stock equivalents used to calculate diluted earnings per share

    2,044,564       2,023,961       2,042,181       2,017,060  

 

 
10

 

 

Options to purchase 57,674 shares of common stock, at prices ranging from $17.55 to $40.24, were outstanding during the three and six months ended June 30, 2014. Of those options, 28,282 were considered dilutive based on the market price exceeding the strike price.

 

Options to purchase 59,932 shares of common stock, at prices ranging from $17.55 to $40.24, were outstanding during the three and six months ended June 30, 2013. Of those options, 31,833 were considered dilutive for the three month period based on the market price exceeding the strike price. For the six months ended June 30, 2013, 49,394 options were considered dilutive.

 

 

 

NOTE 4 - FAIR VALUE MEASUREMENTS

 

Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in the principal or most advantageous market for an asset or liability in an orderly transaction between market participants at the measurement date. GAAP established a fair value hierarchy that prioritizes the use of inputs used in valuation methodologies into the following six levels:

 

 

 

Level I:

Quoted prices are available in active markets for identical assets or liabilities as of the reported date.

 

Level II:

Pricing inputs are other than the quoted prices in active markets, which are either directly or indirectly observable as of the reported date. The nature of these assets and liabilities includes items for which quoted prices are available but traded less frequently and items that are fair valued using other financial instruments, the parameters of which can be directly observed.

 

Level III:

Assets and liabilities that have little to no pricing observability as of the reported date. These items do not have two-way markets and are measured using management’s best estimate of fair value, where the inputs into the determination of fair value require significant management judgment or estimation.

 

 

 

The following tables present the assets measured on a recurring basis on the Consolidated Balance Sheet at their fair value by level within the fair value hierarchy. Financial assets and liabilities are classified in their entirety based on the lowest level of input that is significant to the fair value measurement.

 

           

June 30, 2014

         

(Dollar amounts in thousands)

 

Level I

   

Level II

   

Level III

   

Total

 

Assets measured on a recurring basis:

                               

U.S. government agency securities

  $ -     $ 25,061     $ -     $ 25,061  

Obligations of states and political subdivisions

    -       98,772       -       98,772  

Mortgage-backed securities in government- sponsored entities

            37,599               37,599  

Private-label mortgage-backed securities

    -       3,318       -       3,318  

Total debt securities

    -       164,750       -       164,750  

Equity securities in financial institutions

    5       751       -       756  

Total

  $ 5     $ 165,501     $ -     $ 165,506  

 

 
11

 

 

           

December 31, 2013

         

(Dollar amounts in thousands)

 

Level I

   

Level II

   

Level III

   

Total

 

Assets measured on a recurring basis:

                               

U.S. government agency securities

  $ -     $ 25,763     $ -     $ 25,763  

Obligations of states and political subdivisions

    -       88,614       -       88,614  

Mortgage-backed securities in government- sponsored entities

    -       38,323       -       38,323  

Private-label mortgage-backed securities

    -       3,693       -       3,693  

Total debt securities

    -       156,393       -       156,393  

Equity securities in financial institutions

    5       745       -       750  

Total

  $ 5     $ 157,138     $ -     $ 157,143  

 

The Company obtains fair values from an independent pricing service which represent either quoted market prices for the identical securities (Level I inputs) or fair values determined by pricing models using a market approach that considers observable market data, such as interest rate volatilities, LIBOR yield curve, credit spreads and prices from market makers and live trading systems (Level II).

 

Financial instruments are considered Level III when their values are determined using pricing models, discounted cash flow methodologies or similar techniques and at least one significant model assumption or input is unobservable. In addition to these unobservable inputs, the valuation models for Level III financial instruments typically also rely on a number of inputs that are readily observable either directly or indirectly. Level III financial instruments also include those for which the determination of fair value requires significant management judgment or estimation. The Company has no securities considered to be Level III as of June 30, 2014 or December 31, 2013.

 

The Company uses prices compiled by third party vendors due to improvements in third party pricing methodology that have narrowed the variances between third party vendor prices and actual market prices.

 

The following tables present the assets measured on a nonrecurring basis on the Consolidated Balance Sheet at their fair value by level within the fair value hierarchy. Impaired loans that are collateral dependent are written down to fair value through the establishment of specific reserves. Techniques used to value the collateral that secure the impaired loan include: quoted market prices for identical assets classified as Level I inputs; observable inputs, employed by certified appraisers, for similar assets classified as Level II inputs. In cases where valuation techniques included inputs that are unobservable and are based on estimates and assumptions developed by management based on the best information available under each circumstance, the asset valuation is classified as Level III inputs.

 

           

June 30, 2014

         

(Dollar amounts in thousands)

 

Level I

   

Level II

   

Level III

   

Total

 

Assets measured on a nonrecurring basis:

                               

Impaired loans

  $ -     $ -     $ 14,029     $ 14,029  

Other real estate owned

    -       -       2,392       2,392  

 

           

December 31, 2013

         

(Dollar amounts in thousands)

 

Level I

   

Level II

   

Level III

   

Total

 

Assets measured on a nonrecurring basis:

                               

Impaired loans

  $ -     $ -     $ 17,158     $ 17,158  

Other real estate owned

    -       -       2,698       2,698  

 

 

The Company values other real estate owned at the estimated fair value of the underlying collateral less expected selling costs. Such values are estimated primarily using appraisals and reflect a market value approach. Due to the significance of the Level III inputs, other real estate owned has been classified as Level III.

 

 
12

 

 

The following table presents additional quantitative information about assets measured at fair value on a nonrecurring basis and for which the Company uses Level III inputs to determine fair value:

 

   

Quantitative Information about Level III Fair Value Measurements

 

(Dollar amounts in thousands)

               

Valuation

Unobservable

 

Range (Weighted

 
   

Fair Value Estimate

  Techniques Input   Average)  
   

June 30, 2014

   

December 31, 2013

                 

Impaired loans

  $ 14,029     $ 17,158  

Appraisal of collateral (1)

Appraisal adjustments (2)

  -20% to  -55.0% (-28.1%)  

Other real estate owned

  $ 2,392     $ 2,698  

Appraisal of collateral (1)

Appraisal adjustments (2)

  0% to  -10.0% (-7.5%)  

 

 

 

(1)

Fair value is generally determined through independent appraisals of the underlying collateral, which generally include various level 3 inputs which are not identifiable.

  (2) Appraisals may be adjusted by management for qualitative factors such as economic conditions and estimated liquidation expenses. The range and weighted-average of liquidation expenses and other appraisal adjustments are presented as a percent of the appraisal.

 

The estimated fair value of the Company’s financial instruments is as follows:

 

   

June 30, 2014

 
   

Carrying

                           

Total

 
   

Value

   

Level I

   

Level II

   

Level III

   

Fair Value

 
   

(Dollar amounts in thousands)

 

Financial assets:

                                       

Cash and cash equivalents

  $ 25,577     $ 25,577     $ -     $ -     $ 25,577  

Investment securities available for sale

    165,506       5       165,501       -       165,506  

Net loans

    442,990       -       -       454,824       454,824  

Bank-owned life insurance

    8,951       8,951               -       8,951  

Federal Home Loan Bank stock

    1,887       1,887               -       1,887  

Accrued interest receivable

    2,229       2,229       -       -       2,229  
                                         

Financial liabilities:

                                       

Deposits

  $ 588,793     $ 406,796     $ -     $ 173,490     $ 580,286  

Short-term borrowings

    6,939       6,939       -       -       6,939  

Other borrowings

    11,362       -       -       11,679       11,679  

Accrued interest payable

    342       342       -       -       342  

 

 
13

 

 

   

December 31, 2013

 
   

Carrying

                           

Total

 
   

Value

   

Level I

   

Level II

   

Level III

   

Fair Value

 
   

(Dollar amounts in thousands)

 

Financial assets:

                                       

Cash and cash equivalents

  $ 26,193     $ 26,193     $ -     $ -     $ 26,193  

Investment securities available for sale

    157,143       5       157,138       -       157,143  

Net loans

    428,679       -       -       430,502       430,502  

Bank-owned life insurance

    8,816       8,816       -       -       8,816  

Federal Home Loan Bank stock

    1,887       1,887       -       -       1,887  

Accrued interest receivable

    2,135       2,135       -       -       2,135  
                                         

Financial liabilities:

                                       

Deposits

  $ 568,836     $ 394,422     $ -     $ 175,854     $ 570,276  

Short-term borrowings

    10,809       10,809       -       -       10,809  

Other borrowings

    11,609       -               11,787       11,787  

Accrued interest payable

    364       364       -       -       364  

 

 

 

Financial instruments are defined as cash, evidence of ownership interest in an entity, or a contract which creates an obligation or right to receive or deliver cash or another financial instrument from/to a second entity on potentially favorable or unfavorable terms.

 

Fair value is defined as the amount at which a financial instrument could be exchanged in a current transaction between willing parties other than in a forced liquidation sale. If a quoted market price is available for a financial instrument, the estimated fair value would be calculated based upon the market price per trading unit of the instrument.

 

If no readily available market exists, the fair value estimates for financial instruments should be based upon management’s judgment regarding current economic conditions, interest rate risk, expected cash flows, future estimated losses, and other factors as determined through various option pricing formulas or simulation modeling. Since many of these assumptions result from judgments made by management based upon estimates which are inherently uncertain, the resulting estimated fair values may not be indicative of the amount realizable in the sale of a particular financial instrument. In addition, changes in assumptions on which the estimated fair values are based may have a significant impact on the resulting estimated fair values.

 

As certain assets such as deferred tax assets and premises and equipment are not considered financial instruments, the estimated fair value of financial instruments would not represent the full value of the Company.

 

The Company employed simulation modeling in determining the estimated fair value of financial instruments for which quoted market prices were not available based upon the following assumptions:

 

Cash and Cash Equivalents, Federal Home Loan Bank Stock, Accrued Interest Receivable, Accrued Interest Payable, and Short-Term Borrowings

The fair value is equal to the current carrying value.

 

Bank-Owned Life Insurance

The fair value is equal to the cash surrender value of the life insurance policies.

 

Investment Securities Available for Sale

The fair value of investment securities is equal to the available quoted market price.  If no quoted market price is available, fair value is estimated using the quoted market price for similar securities. 

 

Net Loans

The fair value is estimated by discounting future cash flows using current market inputs at which loans with similar terms and qualities would be made to borrowers of similar credit quality. Where quoted market prices were available, primarily for certain residential mortgage loans, such market rates were used as estimates for fair value.

 

 
14

 

 

Deposits and Other Borrowings

The fair values of certificates of deposit and other borrowings are based on the discounted value of contractual cash flows. The discount rates are estimated using rates currently offered for similar instruments with similar remaining maturities. Demand, savings, and money market deposits are valued at the amount payable on demand as of period end.

 

Commitments to Extend Credit

These financial instruments are generally not subject to sale, and estimated fair values are not readily available. The carrying value, represented by the net deferred fee arising from the unrecognized commitment or letter of credit, and the fair value, determined by discounting the remaining contractual fee over the term of the commitment using fees currently charged to enter into similar agreements with similar credit risk, are not considered material for disclosure.

 

 
15

 

 

NOTE 5 – ACCUMULATED OTHER COMPREHENSIVE INCOME

 

The following table presents the changes in accumulated other comprehensive income by component net of tax for the three and six months ended June 30, 2014 and 2013, respectively:

 

   

Unrealized gains on

 
   

available-for-sale

 
   

securities (a)

 

Balance as of December 31, 2013

  $ (2,237 )

Other comprehensive income before reclassification

    1,847  

Amount reclassified from accumulated other comprehensive loss

    4  

Period change

    1,851  

Balance at March 31, 2014

  $ (386 )
         

Other comprehensive income before reclassification

    1,287  

Amount reclassified from accumulated other comprehensive income

    (42 )

Period change

    1,245  

Balance at June 30, 2014

  $ 859  
         

Balance as of December 31, 2012

  $ 5,391  

Other comprehensive loss before reclassification

    (1,004 )

Amount reclassified from accumulated other comprehensive loss

    (122 )

Period change

    (1,126 )

Balance at March 31, 2013

    4,265  
         

Other comprehensive loss before reclassification

    (4,462 )

Amount reclassified from accumulated other comprehensive loss

    7  

Period change

    (4,455 )

Balance at June 30, 2013

  $ (190 )

 

(a) All amounts are net of tax. Amounts in parentheses indicate debits.

 

 

The following tables present significant amounts reclassified out of each component of accumulated other comprehensive income for the three and six months ended June 30, 2014 and 2013, respectively:

 

 

   

Amount Reclassified from

Accumulated Other

Comprehensive Income

 

Affected Line Item in

    For the Three Months Ended  

the Statement Where

   

June 30,

 

Net Income is

Details about other comprehensive income

 

2014

   

2013

 

Presented

Unrealized gains on available-for-sale securities

                 
    $ 64     $ (10 )

Investment securities gains, net

      (22 )     3  

Income taxes

    $ 42     $ (7 )

Net of tax

 

 
16

 

 

   

Amount Reclassified from

Accumulated Other

Comprehensive Income

 

Affected Line Item in

    For the Six Months Ended  

the Statement Where

   

June 30,

 

Net Income is

Details about other comprehensive income

 

2014

   

2013

 

Presented

Unrealized gains on available-for-sale securities

                 
    $ 58     $ 175  

Investment securities gains, net

      (20 )     (60 )

Income taxes

    $ 38     $ 115  

Net of tax

 

 

 

 

NOTE 6 - INVESTMENT SECURITIES AVAILABLE FOR SALE

 

The amortized cost and fair values of securities available for sale are as follows:

 

   

June 30, 2014

 
           

Gross

   

Gross

         
   

Amortized

   

Unrealized

   

Unrealized

   

Fair

 

(Dollar amounts in thousands)

 

Cost

   

Gains

   

Losses

   

Value

 
                                 

U.S. government agency securities

  $ 25,665     $ 245     $ (849 )   $ 25,061  

Obligations of states and political subdivisions:

                               

Taxable

    2,957       122       -       3,079  

Tax-exempt

    94,530       2,852       (1,689 )     95,693  

Mortgage-backed securities in government-sponsored entities

    37,279       813       (493 )     37,599  

Private-label mortgage-backed securities

    3,026       292       -       3,318  

Total debt securities

    163,457       4,324       (3,031 )     164,750  

Equity securities in financial institutions

    750       6       -       756  

Total

  $ 164,207     $ 4,330     $ (3,031 )   $ 165,506  

 

 
17

 

 

   

December 31, 2013

 
           

Gross

   

Gross

         
   

Amortized

   

Unrealized

   

Unrealized

   

Fair

 

(Dollar amounts in thousands)

 

Cost

   

Gains

   

Losses

   

Value

 
                                 

U.S. government agency securities

  $ 27,289     $ 135     $ (1,661 )   $ 25,763  

Obligations of states and political subdivisions:

                               

Taxable

    3,787       46       (38 )     3,795  

Tax-exempt

    86,524       1,562       (3,267 )     84,819  

Mortgage-backed securities in government-sponsored entities

    38,816       535       (1,028 )     38,323  

Private-label mortgage-backed securities

    3,366       327       -       3,693  

Total debt securities

    159,782       2,605       (5,994 )     156,393  

Equity securities in financial institutions

    750       -       -       750  

Total

  $ 160,532     $ 2,605     $ (5,994 )   $ 157,143  

 

 

 

 

The amortized cost and fair value of debt securities at June 30, 2014, by contractual maturity, are shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.

 

 

   

Amortized

   

Fair

 

(Dollar amounts in thousands)

 

Cost

   

Value

 
                 

Due in one year or less

  $ 684     $ 694  

Due after one year through five years

    4,774       4,996  

Due after five years through ten years

    23,549       23,871  

Due after ten years

    134,450       135,189  

Total

  $ 163,457     $ 164,750  

 

 

 

 

Proceeds from the sales of securities available for sale and the gross realized gains and losses for the three and six months ended June 30 are as follows:

 

(Dollar amounts in thousands)

  For the Three Months Ended June 30,     For the Six Months Ended June 30,  
   

2014

   

2013

   

2014

   

2013

 

Proceeds from sales

  $ 980     $ 533     $ 1,494     $ 8,135  

Gross realized gains

    64       -       64       204  

Gross realized losses

    -       (10 )     (6 )     (29 )

 

Investment securities with an approximate carrying value of $65.8 million and $66.3 million at June 30, 2014 and December 31, 2013, respectively, were pledged to secure deposits and other purposes as required by law.

 

 
18

 

 

The following tables show the Company’s gross unrealized losses and fair value, aggregated by investment category and length of time that the individual securities have been in a continuous unrealized loss position.

 

   

June 30, 2014

 
   

Less than Twelve Months

   

Twelve Months or Greater

   

Total

 
           

Gross

           

Gross

           

Gross

 
   

Fair

   

Unrealized

   

Fair

   

Unrealized

   

Fair

   

Unrealized

 

(Dollar amounts in thousands)

 

Value

   

Losses

   

Value

   

Losses

   

Value

   

Losses

 
                                                 

U.S. government agency securities

  $ -     $ -     $ 16,599     $ (849 )   $ 16,599     $ (849 )

Obligations of states and political subdivisions

    9,511       (104 )     19,616       (1,585 )     29,127       (1,689 )

Mortgage-backed securities in government-sponsored entities

    1,075       (3 )     20,334       (490 )     21,409       (493 )

Total

  $ 10,586     $ (107 )   $ 56,549     $ (2,924 )   $ 67,135     $ (3,031 )

 

 

   

December 31, 2013

 
   

Less than Twelve Months

   

Twelve Months or Greater

   

Total

 
           

Gross

           

Gross

           

Gross

 
   

Fair

   

Unrealized

   

Fair

   

Unrealized

   

Fair

   

Unrealized

 

(Dollar amounts in thousands)

 

Value

   

Losses

   

Value

   

Losses

   

Value

   

Losses

 
                                                 

U.S. government agency securities

  $ 13,130     $ (929 )   $ 7,166     $ (732 )   $ 20,295     $ (1,661 )

Obligations of states and political subdivisions

                                               

Taxable

    1,301       (38 )     -       -       1,301       (38 )

Tax-exempt

    26,743       (2,883 )     2,678       (383 )     29,421       (3,267 )

Mortgage-backed securities in government-sponsored entities

    18,082       (757 )     5,248       (271 )     23,330       (1,028 )

Total

  $ 59,255     $ (4,608 )   $ 15,092     $ (1,386 )   $ 74,347     $ (5,994 )

 

 

There were 86 securities considered temporarily impaired at June 30, 2014.

 

On a quarterly basis, the Company performs an assessment to determine whether there have been any events or economic circumstances indicating that a security with an unrealized loss has suffered other-than-temporary impairment (“OTTI”). A debt security is considered impaired if the fair value is less than its amortized cost basis at the reporting date. The Company assesses whether the unrealized loss is other than temporary.

 

OTTI losses are recognized in earnings when the Company has the intent to sell the debt security or it is more likely than not that it will be required to sell the debt security before recovery of its amortized cost basis. However, even if the Company does not expect to sell a debt security, it must evaluate expected cash flows to be received and determine if a credit loss has occurred.

 

An unrealized loss is generally deemed to be other than temporary and a credit loss is deemed to exist if the present value of the expected future cash flows is less than the amortized cost basis of the debt security. As a result the credit loss component of an OTTI is recorded as a component of investment securities gains (losses) in the accompanying Consolidated Statement of Income, while the remaining portion of the impairment loss is recognized in other comprehensive income, provided the Company does not intend to sell the underlying debt security and it is “more likely than not” that the Company will not have to sell the debt security prior to recovery.

 

Debt securities issued by U.S. government agencies, U.S. government-sponsored enterprises, and state and political subdivisions accounted for more than 98% of the total available-for-sale portfolio as of June 30, 2014 and no credit losses are expected, given the explicit and implicit guarantees provided by the U.S. federal government and the lack of prolonged unrealized loss positions within the obligations of state and political subdivisions security portfolio. The Company’s assessment was concentrated mainly on private-label collateralized mortgage obligations of approximately $3.0 million for which the Company evaluates credit losses on a quarterly basis. The gross unrealized gain position related to these private-label collateralized mortgage obligations amounted to $292,000 on June 30, 2014. The Company considered the following factors in determining whether a credit loss exists and the period over which the debt security is expected to recover:

 

 
19

 

 

 

The length of time and the extent to which the fair value has been less than the amortized cost basis.

 

 

Changes in the near term prospects of the underlying collateral of a security such as changes in default rates, loss severity given default and significant changes in prepayment assumptions;

 

 

The level of cash flows generated from the underlying collateral supporting the principal and interest payments of the debt securities; and

 

 

Any adverse change to the credit conditions and liquidity of the issuer, taking into consideration the latest information available about the overall financial condition of the issuer, credit ratings, recent legislation and government actions affecting the issuer’s industry and actions taken by the issuer to deal with the present economic climate.

 

 

For the three and six months ended June 30, 2014 and 2013, there were no available-for-sale debt securities with an unrealized loss that suffered OTTI. Management does not believe any individual unrealized loss as of June 30, 2014 or December 31, 2013 represented an other-than-temporary impairment. The unrealized losses on debt securities are primarily the result of interest rate changes. These conditions will not prohibit the Company from receiving its contractual principal and interest payments on these debt securities. The fair value of these debt securities is expected to recover as payments are received on these securities and they approach maturity. Should the impairment of any of these securities become other than temporary, the cost basis of the investment will be reduced and the resulting loss recognized in net income in the period the other-than-temporary impairment is identified.

 

 

NOTE 7 - LOANS AND RELATED ALLOWANCE FOR LOAN AND LEASE LOSSES

 

Major classifications of loans are summarized as follows (in thousands):

 

   

June 30,

   

December 31,

 
   

2014

   

2013

 
                 

Commercial and industrial

  $ 55,577     $ 54,498  

Real estate - construction

    26,615       25,601  

Real estate - mortgage:

               

Residential

    219,229