Item 2 – Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”)
This Quarterly Report should be read in conjunction with the more detailed and comprehensive disclosures included in the Annual Report on Form 10-K for the year ended December 31, 2015 and Form 10-Q for the quarter ended March 31, 2016 for First National Community Bancorp, Inc. and subsidiaries (collectively “FNCB”). In addition, please read this section in conjunction with the Consolidated Financial Statements and Notes to Consolidated Financial Statements contained herein.
FNCB is in the business of providing customary retail and commercial banking services to individuals and businesses within its primary market area located in Northeastern Pennsylvania.
FORWARD-LOOKING STATEMENTS
FNCB may from time to time make written or oral “forward-looking statements,” including statements contained in our filings with the Securities and Exchange Commission (“SEC”), in its reports to shareholders, and in our other communications, which are made in good faith by us pursuant to the “safe harbor” provisions of the Private Securities Litigation Reform Act of 1995.
These forward-looking statements include statements with respect to the FNCB’s beliefs, plans, objectives, goals, expectations, anticipations, estimates and intentions, that are subject to significant risks and uncertainties, and are subject to change based on various factors (some of which are beyond our control). The words “may,” “could,” “should,” “would,” “believe,” “anticipate,” “estimate,” “expect,” “intend,” “plan” and similar expressions are intended to identify forward-looking statements. The following factors, among others, could cause FNCB’s financial performance to differ materially from the plans, objectives, expectations, estimates and intentions expressed in such forward-looking statements: the strength of the United States economy in general and the strength of the local economies in our markets; the effects of, and changes in trade, monetary and fiscal policies and laws, including interest rate policies of the Board of Governors of the Federal Reserve System; inflation, interest rate, market and monetary fluctuations; the timely development of and acceptance of new products and services; the ability of FNCB to compete with other institutions for business; the composition and concentrations of FNCB’s lending risk and the adequacy of our reserves to manage those risks; the valuation of FNCB’s investment securities; the ability of FNCB to pay dividends or repurchase common shares; the ability of FNCB to retain key personnel; the impact of any pending or threatened litigation against FNCB; the marketability of shares of FNCB and fluctuations in the value of FNCB’s share price; the effectiveness of FNCB’s system of internal controls; the ability of FNCB to attract additional capital investment; the impact of changes in financial services’ laws and regulations (including laws concerning capital adequacy, taxes, banking, securities and insurance); the impact of technological changes and security risks upon our information technology systems; changes in consumer spending and saving habits; the nature, extent, and timing of governmental actions and reforms, and the success of FNCB at managing the risks involved in the foregoing and other risks and uncertainties, including those detailed in FNCB’s filings with the SEC.
FNCB cautions that the foregoing list of important factors is not all inclusive. Readers are also cautioned not to place undue reliance on any forward-looking statements, which reflect management’s analysis only as of the date of this report, even if subsequently made available by FNCB on its website or otherwise. FNCB does not undertake to update any forward-looking statement, whether written or oral, that may be made from time to time by or on behalf of FNCB to reflect events or circumstances occurring after the date of this report.
Readers should carefully review the risk factors described in the Annual Report and other documents that FNCB periodically files with the Securities and Exchange Commission, including its Form 10-K for the year ended December 31, 2015.
CRITICAL ACCOUNTING POLICIES
In preparing the consolidated financial statements, management has made estimates, judgments and assumptions that affect the reported amounts of assets and liabilities as of the date of the consolidated statements of condition and results of operations for the periods indicated. Actual results could differ significantly from those estimates.
FNCB’s accounting policies are fundamental to understanding management’s discussion and analysis of its financial condition and results of operations. Management has identified the policies on the determination of the allowance for loan and lease losses (“ALLL”), securities’ valuation and impairment evaluation, the valuation of other real estate owned (“OREO”) and income taxes to be critical, as management is required to make subjective and/or complex judgments about matters that are inherently uncertain and could be most subject to revision as new information becomes available.
The judgments used by management in applying the critical accounting policies discussed below may be affected by a further and prolonged deterioration in the economic environment, which may result in changes to future financial results. Specifically, subsequent evaluations of the loan portfolio, in light of the factors then prevailing, may result in significant changes in the ALLL in future periods, and the inability to collect on outstanding loans could result in increased loan losses. In addition, the valuation of certain securities in FNCB’s investment portfolio could be negatively impacted by illiquidity or dislocation in marketplaces resulting in significantly depressed market prices thus leading to impairment losses.
Allowance for Loan and Lease Losses
Management evaluates the credit quality of FNCB’s loan portfolio on an ongoing basis, and performs a formal review of the adequacy of the ALLL on a quarterly basis. The ALLL is established through a provision for loan losses charged to earnings and is maintained at a level management considers adequate to absorb estimated probable losses inherent in the loan portfolio as of the evaluation date. Loans, or portions of loans, determined by management to be uncollectible are charged off against the ALLL, while recoveries of amounts previously charged off are credited to the ALLL.
Determining the amount of the ALLL is considered a critical accounting estimate because it requires significant judgment and the use of estimates related to the amount and timing of expected future cash flows on impaired loans, estimated losses on pools of homogeneous loans based on historical loss experience, qualitative factors, and consideration of current economic trends and conditions, all of which may be susceptible to significant change. Banking regulators, as an integral part of their examination of FNCB, also review the ALLL, and may require, based on their judgments about information available to them at the time of their examination, that certain loan balances be charged off or require that adjustments be made to the ALLL. Additionally, the ALLL is determined, in part, by the composition and size of the loan portfolio.
The ALLL consists of two components, a specific component and a general component. The specific component relates to loans that are classified as impaired. For such loans, an allowance is established when the discounted cash flows, collateral value or observable market price of the impaired loan is lower than the carrying value of that loan. The general component covers all other loans and is based on historical loss experience adjusted by qualitative factors. The general reserve component of the ALLL is based on pools of unimpaired loans segregated by loan segment and risk rating categories of “Pass”, “Special Mention” or “Substandard and Accruing.” Historical loss factors and various qualitative factors are applied based on the risk profile in each risk rating category to determine the appropriate reserve related to those loans. Substandard loans on nonaccrual status above the $100 thousand loan relationship threshold and all loans considered troubled debt restructurings (“TDRs”) are classified as impaired.
See Note 4 - “Loans” of the notes to consolidated financial statements included in Item 1 hereof for additional information about the ALLL.
Securities Valuation
and Evaluation for Impairment
Management utilizes various inputs to determine the fair value of its investment portfolio. To the extent they exist, unadjusted quoted market prices in active markets (Level 1) or quoted prices for similar assets or models using inputs that are observable, either directly or indirectly (Level 2) are utilized to determine the fair value of each investment in the portfolio. In the absence of observable inputs or if markets are illiquid, valuation techniques are used to determine fair value of any investments that require inputs that are both unobservable and significant to the fair value measurement (Level 3). For Level 3 inputs, valuation techniques are based on various assumptions, including, but not limited to, cash flows, discount rates, adjustments for nonperformance and liquidity, and liquidation values. A significant degree of judgment is involved in valuing investments using Level 3 inputs. The use of different assumptions could have a positive or negative effect on FNCB’s financial condition or results of operations. See Note 3 -“Securities” and Note 10 -“Fair Value Measurements” of the notes to consolidated financial statements included in Item 1 hereof for additional information about FNCB’s securities valuation techniques.
On a quarterly basis, management evaluates individual investment securities having unrealized losses to determine whether or not the security is other-than-temporarily-impaired (“OTTI”). The analysis of OTTI requires the use of various assumptions, including but not limited to, the length of time an investment’s fair value is less than book value, the severity of the investment’s decline, any credit deterioration of the issuer, whether management intends to sell the security, and whether it is more-likely-than-not that FNCB will be required to sell the security prior to recovery of its amortized cost basis. Debt investment securities deemed to be OTTI are written down by the impairment related to the estimated credit loss, and the non-credit related impairment loss is recognized in other comprehensive income. FNCB did not recognize OTTI charges on investment securities for the six months ended June 30, 2016 and 2015 within the consolidated statements of income.
Refer to Note 2-“Summary of Significant Accounting Policies” and Note 3 -“Securities” of the notes to consolidated financial statements included in Item 1 hereof for additional information about valuation of securities.
Other Real Estate Owned
OREO consists of property acquired by foreclosure, abandonment or conveyance of deed in-lieu of foreclosure of a loan, and bank premises that is no longer used for operation or for future expansion. OREO is held for sale and is initially recorded at fair value less costs to sell at the date of acquisition or transfer, which establishes a new cost basis. Upon acquisition of the property through foreclosure or deed-in-lieu of foreclosure, any write-down to fair value less estimated selling costs is charged to the ALLL. The determination is made on an individual asset basis. Bank premises no longer used for operations or future expansion are transferred to OREO at fair value less estimated selling costs with any related write-down included in non-interest expense unless conditions warrant an adjustment to value, as determined by management. Subsequent to acquisition, valuations are periodically performed by management and the assets are carried at the lower of cost or fair value less cost to sell. Fair value is determined through external appraisals, current letters of intent, broker price opinions or executed agreements of sale. Costs relating to the development and improvement of the OREO properties may be capitalized; holding period costs and any subsequent changes to the valuation allowance are charged to expense as incurred.
Income Taxes
The objectives of accounting for income taxes are to recognize the amount of taxes payable or refundable for the current year and deferred tax liabilities and assets for the future tax consequences of events that have been recognized in an entity’s financial statements or tax returns. Judgment is required in assessing the future tax consequences of events that have been recognized in FNCB’s consolidated financial statements or tax returns. Fluctuations in the actual outcome of these future tax consequences could impact our consolidated financial condition or results of operations.
FNCB records an income tax provision or benefit based on the amount of tax, including alternative minimum tax, currently payable or receivable and the change in deferred tax assets and liabilities. Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial and tax reporting purposes. Management conducts quarterly assessments of all available positive and negative evidence to determine the amount of deferred tax assets that will more likely than not be realized. FNCB establishes a valuation allowance for deferred tax assets and records a charge to income if management determines, based on available evidence at the time the determination is made, that it is more likely than not that some portion or all of the deferred tax assets will not be realized. In evaluating the need for a valuation allowance, management considers past operating results, estimates of future taxable income based on approved business plans, future capital requirements and ongoing tax planning strategies. This evaluation process involves significant management judgment about assumptions that are subject to change from period to period depending on the related circumstances. The recognition of deferred tax assets requires management to make significant assumptions and judgments about future earnings, the periods in which items will impact taxable income, future corporate tax rates, and the application of inherently complex tax laws. The use of different estimates may result in changes in the amounts of deferred tax items recognized, which may result in equity and earnings volatility because such changes are reported in current period earnings.
In connection with determining the income tax provision or benefit, management considers maintaining liabilities for uncertain tax positions and tax strategies that it believes contain an element of uncertainty. Periodically, management evaluates each of FNCB’s tax positions and strategies to determine whether a liability for uncertain tax benefits is required. As of June 30, 2016 and December 31, 2015, management determined that FNCB did not have any uncertain tax positions or tax strategies and that no liability was required to be recorded.
New Authoritative Accounting Guidance
and Accounting Guidance to be Adopted in Future Periods
Refer to Note 2 – “New Authoritative Accounting Guidance,” of the notes to consolidated financial statements included in Item 1 hereof for information about new authoritative accounting guidance issued during the three months ended June 30, 2016, not previously reported, that will be adopted by FNCB in future periods.
Executive Summary
The following overview should be read in conjunction with this MD&A in its entirety.
On June 30, 2016, First National Community Bancorp, Inc., the parent company of First National Community Bank, announced that following receipt of required regulatory approvals from the Pennsylvania Department of Banking and Securities, the First National Community Bank had completed a charter conversion from a national bank to a Pennsylvania state bank. As a result of the conversion, the First National Community Bank changed its legal name to “FNCB Bank”. Both the charter conversion and legal name change became effective June 30, 2016. As a result of the change in charter, FNCB anticipates a slight reduction in non-interest expense due to lower state regulatory assessments as compared to federal assessments.
On May 18. 2016, FNCB announced that effective June 30, 2016, Steven R. Tokach would retire from his positions as President and Chief Executive Officer and member of the boards of both First National Community Bancorp, Inc. and the Bank. On the same day, the Board of Directors of FNCB and the Bank appointed Gerard A. Champi as his successor effective July 1, 2016. Mr. Champi was appointed as Class A director of the Company, with a term expiring at the 2017 annual meeting of shareholders, filling the vacancy created by Mr. Tokach’s retirement. Mr. Champi has been with the Bank since 1991 and has served in various leadership positions, including, most recently, Chief Operating Officer since March 2011 and Interim President and Chief Executive Officer of FNCB and the Bank from March 2010 until February 2011.
FNCB recorded consolidated net income of $1.6 million, or $0.10 per diluted common share, for the three month period ended June 30, 2016, an increase of $0.8 million compared to net income of $0.8 million, or $0.05 per diluted common share, for the comparable three months of 2015. Net income for the six months ended June 30, 2016 was $2.8 million, or $0.17 per diluted common share, a decrease of $1.5 million, compared to net income of $4.3 million, or $0.26 per diluted common share, for the same period of 2015. The annualized return on average equity was 7.12% and 6.15%, respectively, for the three- and six-month periods ended June 30, 2016, compared to 5.89% and 15.84%, respectively, for the comparable periods in 2015. For the three and six months ended June 30, 2016, the annualized return on average assets was 0.60% and 0.51%, respectively, and 0.34% and 0.89%, respectively, for the same periods of 2015. FNCB paid dividends to holders of common stock of $0.02 per share for the three months ended June 30, 2016 totaling $0.04 per share for the year-to-date period of 2016. FNCB did not pay any dividends during the three and six months ended June 30, 2015.
The increase in earnings for the three months ended June 30, 2016 was primarily due to a $1.3 million increase in net interest income, along with a $0.6 million increase in non-interest income, which resulted primarily from an increase in net gains on the sale of securities. Partially offsetting the increases in net interest income and non-interest income was a $0.3 million increase in non-interest expense, which was primarily related to increased salaries and benefits costs, a $0.6 million increase in income tax expense and a $0.1 million increase in the provision for loan and lease losses.
Year-to-date net income decreased $1.5 million, or 35.5%, comparing the six months ended June 30, 2016 and 2015. The reduction in earnings was due largely to a $1.2 million increase in the provision for loan and lease losses, a $0.9 million provision for income tax expense for the first six months of 2016 compared to a $40 thousand income tax benefit for the same period of 2015, and a $1.5 million reduction in non-interest income due to a decrease in net gains on the sale of securities. Partially offsetting these factors, was an increase in net interest income of $2.5 million, or 20.2%, to $15.2 million for the six months ended June 30, 2016, from $12.6 million for the same six months of 2015.
Total assets were relatively stable, decreasing $3.1 million, or 0.3%, to $1.088 billion at June 30, 2016 from $1.091 billion at December 31, 2015. The change in total assets primarily reflected an $8.4 million, or 3.3%, increase in available-for-sale securities, which was more than offset by reductions of $4.5 million in net deferred tax assets, $1.1 million in FHLB of Pittsburgh stock, $1.5 million in OREO and $3.4 million in cash and cash equivalents. Total deposits grew $14.3 million, or 1.7%, to $835.8 million at June 30, 2016 from $821.5 million at December 31, 2015. The deposit growth was used to repay $15.0 million in advances from the FHLB of Pittsburgh.
In addition, on March 1, 2016, FNCB repaid in its entirety $10.8 million in accrued interest that we had previously been deferring on the subordinated debentures (“Notes”) for the period September 1, 2010 through May 31, 2015. FNCB resumed regular quarterly interest payments on the Notes effective with the June 1, 2015 payment and has continued to make the quarterly interest payments thereafter.
Total shareholders’ equity increased $9.3 million, or 10.8%, to $95.5 million at June 30, 2016 from $86.2 million at December 31, 2015. The capital improvement resulted primarily from a $7.0 million increase in accumulated other comprehensive income, which resulted from appreciation in the fair value of available-for-sale securities net of the tax impact of the appreciation, coupled with net income for the first six months of 2016 of $2.8 million.
For the remainder of 2016, management will continue to focus on developing strategies aimed at improving long-term financial performance, including;
|
|
●
|
creating process efficiencies following our core system conversion, which occurred in the fourth quarter of 2015;
|
|
|
●
|
increasing the level of core deposits through collaboration between FNCB’s retail and commercial banking units;
|
|
|
●
|
further developing the newly instituted governmental banking unit;
|
|
|
●
|
enhancing net interest income and non-interest income; and
|
|
|
●
|
promoting the new deposit product offerings.
|
During the second quarter of 2016, FNCB launched the “WOW ME” suite of deposit products, which include a high-yield checking account and savings account. Customers are able to earn an annual percentage yield (“APY”) of 2.00% on balances up to $10 thousand for the checking account, an APY of 1.00% on balances up to $25 thousand held in a related savings account and an APY of 0.50% on balances greater than these thresholds. In order to earn these APYs customers must meet certain qualifications, including a monthly direct deposit, a minimum of 12 debit card or ACH transactions per month, and an election to have monthly statements delivered electronically.
Summary of Performance
Net Interest Income
Net interest income is the difference between (i) interest income, interest and fees on interest-earning assets, and (ii) interest expense, interest paid on deposits and borrowed funds. Net interest income represents the largest component of FNCB’s operating income and, as such, is the primary determinant of profitability. Net interest income is impacted by variations in the volume, rate and composition of earning assets and interest-bearing liabilities, changes in general market rates and the level of non-performing assets. Interest income is shown on a fully tax-equivalent basis and is calculated by adjusting tax-free interest using a marginal tax rate of 34.0% in order to equate the yield to that of taxable interest rates.
Net interest income on a tax-equivalent basis increased $1.3 million, or 20.0%, to $7.8 million from $6.5 million comparing the three-month periods ending June 30, 2016 and 2015. Tax-equivalent interest income increased $1.0 million, or 12.4%, to $8.9 million for the three months ended June 30, 2016 from $7.9 million for the same period of 2015. In addition to the increase in interest income, interest expense declined $328 thousand, or 23.8%, primarily in interest expense paid on borrowed funds. Tax-equivalent net interest margin, a key measurement used in the banking industry to measure income from earning assets relative to the cost to fund those assets, is calculated by dividing tax-equivalent net interest income by average interest-earning assets. FNCB’s tax-equivalent interest margin improved 29 basis points to 3.14% for the second quarter of 2016 from 2.85% for the same quarter of 2015. In addition, the tax-equivalent margin for the second quarter of 2016 was a 3 basis point improvement compared to 3.11% for the first quarter of 2016. Rate spread, the difference between the average yield on interest-earning assets and the average cost of interest-bearing liabilities shown on a fully tax-equivalent basis, was 3.06% for the three months ended June 30, 2016, an increase of 34 basis points compared to 2.72% for the same period of 2015. For the six months ended June 30, 2016, FNCB’s tax-equivalent net interest margin and spread widened 28 basis points and 32 basis points, respectively, as compared to the same period of 2015.
The $1.0 million increase in tax-equivalent interest income comparing the second quarters of 2016 and 2015 was due primarily to an increase in the average balance of earning assets of $83.0 million, which resulted in a corresponding increase to tax-equivalent interest income of $780 thousand. Specifically, the average balances of loans and securities increased $51.5 million, or 7.6%, and $48.1 million, or 22.5%, which added interest income of $512 thousand and $281 thousand, respectively. In addition to the increase in average balances, the tax-equivalent yield on earning assets increased 11 basis points to 3.56% for the three months ended June 30, 2016, as compared to 3.45% for the same period of 2015, which caused an increase to tax-equivalent interest income of $195 thousand. Average loan yields increased 4 basis points, while average yields on investment securities improved 21 basis points.
Also contributing to the improvement in tax-equivalent net interest income was a $328 thousand decrease in interest expense to $1.1 million for the quarter ended June 30, 2016 as compared to $1.4 million for the same quarter of 2015. The decrease was due almost entirely to a reduction in the interest expense paid on borrowed funds and other liabilities of $348 thousand, which was driven by a 140 basis point decrease in the cost of borrowed funds due to the modification of the interest rate on the subordinated debentures from 9.0% to 4.5% on July1, 2015. The reduction in interest expense resulting from the decrease in the cost of borrowed funds was $405 thousand, which was partially offset by a $57 thousand increase in interest expense due to an increase in the average balance of borrowed funds of $9.0 million. Interest expense on deposits remained steady, increasing by only $20 thousand, as increases in the rate and average balance of interest-bearing demand deposits were mitigated by decreases in both rates and average balances of total time deposits.
For the six months ended June 30, 2016, net interest income on a tax-equivalent basis increased $2.5 million, or 19.7%, to $15.5 million from $13.0 million for the comparable period in 2015. Comparing the year-to-date periods of 2016 and 2015, tax-equivalent interest income increased $1.8 million, or 11.6%, and interest expense decreased $0.7 million, or 26.4%. The increase in tax-equivalent interest income was primarily due to an increase in average-earning assets of $83.9 million which led to a $1.6 million increase over 2015. The average balances of loans and investment securities grew $54.1 million, or 8.0%, and $53.6 million, or 26.0%, which resulted in additional interest income of $1.1 million and $0.6 million, respectively. Partially offsetting these volume increases was a $39 thousand decrease in interest income due to a $23.8 million, or 9.2%, reduction in the average balance of interest-bearing deposits in other banks. Additionally, the tax-equivalent yield on earning assets increased 7 basis points to 3.54% for the six months ended June 30, 2016 from 3.47% for the same period of 2015, contributing $0.2 million to the increase in tax-equivalent interest income. The decline in interest expense of $0.7 million resulted primarily from a 153 basis point reduction in the cost of borrowed funds, from 2.83% for the six months ended June 30, 2015, to 1.30% for the same period of 2016.
Net interest income depends upon the relative amount of interest-earning assets and interest-bearing liabilities and the interest rate earned or paid on them. The following tables present certain information about FNCB’s Consolidated Statements of Financial Condition and Consolidated Statements of Income for the three- and six-month periods ended June 30, 2016 and 2015, and reflect the average yield on assets and average cost of liabilities for the periods indicated. Such yields and costs are calculated by dividing income or expense by the average balance of assets or liabilities, respectively, for the periods shown. Average balances are derived from average daily balances. The yields include amortization of fees which are considered adjustments to yields.
|
|
|
Three Months Ended June 30,
|
|
|
|
|
2016
|
|
|
2015
|
|
|
(dollars in thousands)
|
|
Average
Balance
|
|
|
Interest
|
|
|
Yield/
Cost
|
|
|
Average
Balance
|
|
|
Interest
|
|
|
Yield/
Cost
|
|
|
ASSETS
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earning assets (2)(3)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loans-taxable (4)
|
|
$
|
682,642
|
|
|
$
|
6,674
|
|
|
|
3.91
|
%
|
|
$
|
637,005
|
|
|
$
|
6,148
|
|
|
|
3.86
|
%
|
|
Loans-tax free (4)
|
|
|
48,131
|
|
|
|
542
|
|
|
|
4.50
|
%
|
|
|
42,225
|
|
|
|
495
|
|
|
|
4.69
|
%
|
|
Total loans (1)(2)
|
|
|
730,773
|
|
|
|
7,216
|
|
|
|
3.95
|
%
|
|
|
679,230
|
|
|
|
6,643
|
|
|
|
3.91
|
%
|
|
Securities-taxable
|
|
|
260,835
|
|
|
|
1,618
|
|
|
|
2.48
|
%
|
|
|
211,833
|
|
|
|
1,191
|
|
|
|
2.25
|
%
|
|
Securities-tax free
|
|
|
1,090
|
|
|
|
17
|
|
|
|
6.11
|
%
|
|
|
2,007
|
|
|
|
33
|
|
|
|
6.64
|
%
|
|
Total securities (1)(5)
|
|
|
261,925
|
|
|
|
1,635
|
|
|
|
2.50
|
%
|
|
|
213,840
|
|
|
|
1,224
|
|
|
|
2.29
|
%
|
|
Interest-bearing deposits in other banks
|
|
|
2,347
|
|
|
|
2
|
|
|
|
0.34
|
%
|
|
|
18,984
|
|
|
|
11
|
|
|
|
0.23
|
%
|
|
Total earning assets
|
|
|
995,045
|
|
|
|
8,853
|
|
|
|
3.56
|
%
|
|
|
912,054
|
|
|
|
7,878
|
|
|
|
3.45
|
%
|
|
Non-earning assets
|
|
|
105,960
|
|
|
|
|
|
|
|
|
|
|
|
73,234
|
|
|
|
|
|
|
|
|
|
|
Allowance for loan and lease losses
|
|
|
(8,689
|
)
|
|
|
|
|
|
|
|
|
|
|
(10,980
|
)
|
|
|
|
|
|
|
|
|
|
Total assets
|
|
$
|
1,092,316
|
|
|
|
|
|
|
|
|
|
|
$
|
974,308
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
LIABILITIES AND SHAREHOLDERS' EQUITY
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest-bearing liabilities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest-bearing demand deposits
|
|
$
|
416,797
|
|
|
|
223
|
|
|
|
0.21
|
%
|
|
$
|
332,139
|
|
|
|
143
|
|
|
|
0.17
|
%
|
|
Savings deposits
|
|
|
96,122
|
|
|
|
19
|
|
|
|
0.08
|
%
|
|
|
91,579
|
|
|
|
15
|
|
|
|
0.07
|
%
|
|
Time deposits over $100,000
|
|
|
81,593
|
|
|
|
142
|
|
|
|
0.70
|
%
|
|
|
102,512
|
|
|
|
179
|
|
|
|
0.70
|
%
|
|
Other time deposits
|
|
|
131,040
|
|
|
|
279
|
|
|
|
0.85
|
%
|
|
|
120,426
|
|
|
|
306
|
|
|
|
1.02
|
%
|
|
Total interest-bearing deposits
|
|
|
725,552
|
|
|
|
663
|
|
|
|
0.37
|
%
|
|
|
646,656
|
|
|
|
643
|
|
|
|
0.40
|
%
|
|
Borrowed funds and other interest-bearing liabilities
|
|
|
117,229
|
|
|
|
387
|
|
|
|
1.32
|
%
|
|
|
108,234
|
|
|
|
735
|
|
|
|
2.72
|
%
|
|
Total interest-bearing liabilitie
|
|
|
842,781
|
|
|
|
1,050
|
|
|
|
0.50
|
%
|
|
|
754,890
|
|
|
|
1,378
|
|
|
|
0.73
|
%
|
|
Demand deposits
|
|
|
146,622
|
|
|
|
|
|
|
|
|
|
|
|
137,674
|
|
|
|
|
|
|
|
|
|
|
Other liabilities
|
|
|
11,125
|
|
|
|
|
|
|
|
|
|
|
|
25,964
|
|
|
|
|
|
|
|
|
|
|
Shareholders' equity
|
|
|
91,788
|
|
|
|
|
|
|
|
|
|
|
|
55,780
|
|
|
|
|
|
|
|
|
|
|
Total liabilities and shareholder's equity
|
|
$
|
1,092,316
|
|
|
|
|
|
|
|
|
|
|
$
|
974,308
|
|
|
|
|
|
|
|
|
|
|
Net interest income/interest rate spread (6)
|
|
|
|
|
|
|
7,803
|
|
|
|
3.06
|
%
|
|
|
|
|
|
|
6,500
|
|
|
|
2.72
|
%
|
|
Tax equivalent adjustment
|
|
|
|
|
|
|
(190
|
)
|
|
|
|
|
|
|
|
|
|
|
(179
|
)
|
|
|
|
|
|
Net interest income as reported
|
|
|
|
|
|
$
|
7,613
|
|
|
|
|
|
|
|
|
|
|
$
|
6,321
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net interest margin (7)
|
|
|
|
|
|
|
|
|
|
|
3.14
|
%
|
|
|
|
|
|
|
|
|
|
|
2.85
|
%
|
|
(1) Interest income is presented on a tax equivalent basis using a 34% rate for 2016 and 2015.
|
|
(2) Loans are stated net of unearned income.
|
|
(3) Nonaccrual loans are included in loans within earning assets
|
|
(4) Loan fees included in interest income are not significant
|
|
(5) The yields for securities that are classified as available for sale is based on the average historical amortized cost.
|
|
(6) Interest rate spread represents the difference between the average yield on interest earning assets and the cost of interest bearing liabilities and is presented on a tax equivalent basis.
|
|
(7) Net interest income as a percentage of total average interest earning assets.
|
|
|
|
Six Months Ended June 30,
|
|
|
|
|
2016
|
|
|
2015
|
|
|
|
|
Average
|
|
|
|
|
|
|
Yield/
|
|
|
Average
|
|
|
|
|
|
|
Yield/
|
|
|
(dollars
in thousands)
|
|
Balance
|
|
|
Interest
|
|
|
Cost
|
|
|
Balance
|
|
|
Interest
|
|
|
Cost
|
|
|
ASSETS
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earning assets (2)(3)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loans-taxable (4)
|
|
$
|
682,920
|
|
|
$
|
13,277
|
|
|
|
3.89
|
%
|
|
$
|
635,377
|
|
|
$
|
12,296
|
|
|
|
3.87
|
%
|
|
Loans-tax free (4)
|
|
|
48,282
|
|
|
|
1,097
|
|
|
|
4.54
|
%
|
|
|
41,678
|
|
|
|
986
|
|
|
|
4.73
|
%
|
|
Total loans (1)(2)
|
|
|
731,202
|
|
|
|
14,374
|
|
|
|
3.93
|
%
|
|
|
677,055
|
|
|
|
13,282
|
|
|
|
3.92
|
%
|
|
Securities-taxable
|
|
|
258,695
|
|
|
|
3,179
|
|
|
|
2.46
|
%
|
|
|
203,099
|
|
|
|
2,345
|
|
|
|
2.31
|
%
|
|
Securities-tax free
|
|
|
1,098
|
|
|
|
32
|
|
|
|
5.79
|
%
|
|
|
3,139
|
|
|
|
109
|
|
|
|
6.95
|
%
|
|
Total securities (1)(5)
|
|
|
259,793
|
|
|
|
3,211
|
|
|
|
2.47
|
%
|
|
|
206,238
|
|
|
|
2,454
|
|
|
|
2.38
|
%
|
|
Interest-bearing deposits in other banks
|
|
|
3,047
|
|
|
|
6
|
|
|
|
0.39
|
%
|
|
|
26,803
|
|
|
|
32
|
|
|
|
0.24
|
%
|
|
Total earning assets
|
|
|
994,042
|
|
|
|
17,591
|
|
|
|
3.54
|
%
|
|
|
910,096
|
|
|
|
15,768
|
|
|
|
3.47
|
%
|
|
Non-earning assets
|
|
|
108,330
|
|
|
|
|
|
|
|
|
|
|
|
73,111
|
|
|
|
|
|
|
|
|
|
|
Allowance for loan and lease losses
|
|
|
(8,729
|
)
|
|
|
|
|
|
|
|
|
|
|
(11,245
|
)
|
|
|
|
|
|
|
|
|
|
Total assets
|
|
$
|
1,093,643
|
|
|
|
|
|
|
|
|
|
|
$
|
971,962
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
LIABILITIES AND SHAREHOLDERS' EQUITY
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest-bearing liabilities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest-bearing demand deposits
|
|
$
|
419,500
|
|
|
|
429
|
|
|
|
0.20
|
%
|
|
$
|
330,299
|
|
|
|
263
|
|
|
|
0.16
|
%
|
|
Savings deposits
|
|
|
94,857
|
|
|
|
35
|
|
|
|
0.07
|
%
|
|
|
91,743
|
|
|
|
30
|
|
|
|
0.07
|
%
|
|
Time deposits over $100,000
|
|
|
77,909
|
|
|
|
272
|
|
|
|
0.70
|
%
|
|
|
109,554
|
|
|
|
389
|
|
|
|
0.71
|
%
|
|
Other time deposits
|
|
|
133,194
|
|
|
|
569
|
|
|
|
0.85
|
%
|
|
|
120,797
|
|
|
|
644
|
|
|
|
1.07
|
%
|
|
Total interest-bearing deposits
|
|
|
725,460
|
|
|
|
1,305
|
|
|
|
0.36
|
%
|
|
|
652,393
|
|
|
|
1,326
|
|
|
|
0.41
|
%
|
|
Borrowed funds and other interest-bearing liabilities
|
|
|
115,308
|
|
|
|
751
|
|
|
|
1.30
|
%
|
|
|
103,665
|
|
|
|
1,467
|
|
|
|
2.83
|
%
|
|
Total interest-bearing liabilities
|
|
|
840,768
|
|
|
|
2,056
|
|
|
|
0.49
|
%
|
|
|
756,058
|
|
|
|
2,793
|
|
|
|
0.74
|
%
|
|
Demand deposits
|
|
|
146,808
|
|
|
|
|
|
|
|
|
|
|
|
135,010
|
|
|
|
|
|
|
|
|
|
|
Other liabilities
|
|
|
15,532
|
|
|
|
|
|
|
|
|
|
|
|
26,243
|
|
|
|
|
|
|
|
|
|
|
Shareholders' equity
|
|
|
90,535
|
|
|
|
|
|
|
|
|
|
|
|
54,651
|
|
|
|
|
|
|
|
|
|
|
Total liabilities and shareholder's equity
|
|
$
|
1,093,643
|
|
|
|
|
|
|
|
|
|
|
$
|
971,962
|
|
|
|
|
|
|
|
|
|
|
Net interest income/interest rate spread (6)
|
|
|
|
|
|
|
15,535
|
|
|
|
3.05
|
%
|
|
|
|
|
|
|
12,975
|
|
|
|
2.73
|
%
|
|
Tax equivalent adjustment
|
|
|
|
|
|
|
(384
|
)
|
|
|
|
|
|
|
|
|
|
|
(372
|
)
|
|
|
|
|
|
Net interest income as reported
|
|
|
|
|
|
$
|
15,151
|
|
|
|
|
|
|
|
|
|
|
$
|
12,603
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net interest margin (7)
|
|
|
|
|
|
|
|
|
|
|
3.13
|
%
|
|
|
|
|
|
|
|
|
|
|
2.85
|
%
|
|
(1) Interest income is presented on a tax equivalent basis using a 34% rate for 2016 and 2015.
|
|
(2) Loans are stated net of unearned income.
|
|
(3) Nonaccrual loans are included in loans within earning assets
|
|
(4) Loan fees included in interest income are not significant
|
|
(5) The yields for securities that are classified as available for sale is based on the average historical amortized cost.
|
|
(6) Interest rate spread represents the difference between the average yield on interest earning assets and the cost of interest bearing liabilities and is presented on a tax equivalent basis.
|
|
(7) Net interest income as a percentage of total average interest earning assets.
|
Rate Volume Analysis
The most significant impact on net income between periods is derived from the interaction of changes in the volume and rates earned or paid on interest-earning assets and interest-bearing liabilities. The volume of earning assets, specifically loans and investments, compared to the volume of interest-bearing liabilities represented by deposits and borrowings, combined with the spread, produces the changes in net interest income between periods. Components of interest income and interest expense are presented on a tax-equivalent basis using the statutory federal income tax rate of 34%.
The following table summarizes the effect that changes in volumes of earning assets and interest-bearing liabilities and the interest rates earned and paid on these assets and liabilities have on net interest income. The net change or mix component attributable to the combined impact of rate and volume changes has been allocated proportionately to the change due to volume and the change due to rate.
|
|
|
Three Months Ended June 30,
|
|
|
Six Months Ended June 30,
|
|
|
|
|
2016 vs. 2015
|
|
|
2016 vs. 2015
|
|
|
|
|
Increase (Decrease)
|
|
|
Increase (Decrease)
|
|
|
(in thousands)
|
|
Due to
Volume
|
|
|
Due to
Rate
|
|
|
Total
Change
|
|
|
Due to
Volume
|
|
|
Due to
Rate
|
|
|
Total
Change
|
|
|
Interest Income:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loans - taxable
|
|
$
|
445
|
|
|
$
|
81
|
|
|
$
|
526
|
|
|
$
|
924
|
|
|
$
|
57
|
|
|
$
|
981
|
|
|
Loans - tax free
|
|
|
67
|
|
|
|
(20
|
)
|
|
|
47
|
|
|
|
152
|
|
|
|
(41
|
)
|
|
|
111
|
|
|
Total loans
|
|
|
512
|
|
|
|
61
|
|
|
|
573
|
|
|
|
1,076
|
|
|
|
16
|
|
|
|
1,092
|
|
|
Securities - taxable
|
|
|
295
|
|
|
|
132
|
|
|
|
427
|
|
|
|
675
|
|
|
|
159
|
|
|
|
834
|
|
|
Securities - tax free
|
|
|
(14
|
)
|
|
|
(2
|
)
|
|
|
(16
|
)
|
|
|
(62
|
)
|
|
|
(15
|
)
|
|
|
(77
|
)
|
|
Total securities
|
|
|
281
|
|
|
|
130
|
|
|
|
411
|
|
|
|
613
|
|
|
|
144
|
|
|
|
757
|
|
|
Interest-bearing deposits in other banks
|
|
|
(13
|
)
|
|
|
4
|
|
|
|
(9
|
)
|
|
|
(39
|
)
|
|
|
13
|
|
|
|
(26
|
)
|
|
Total interest income
|
|
|
780
|
|
|
|
195
|
|
|
|
975
|
|
|
|
1,650
|
|
|
|
173
|
|
|
|
1,823
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest Expense:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest-bearing demand deposits
|
|
|
41
|
|
|
|
39
|
|
|
|
80
|
|
|
|
81
|
|
|
|
85
|
|
|
|
166
|
|
|
Savings deposits
|
|
|
1
|
|
|
|
3
|
|
|
|
4
|
|
|
|
1
|
|
|
|
4
|
|
|
|
5
|
|
|
Time deposits over $100,000
|
|
|
(36
|
)
|
|
|
(1
|
)
|
|
|
(37
|
)
|
|
|
(114
|
)
|
|
|
(3
|
)
|
|
|
(117
|
)
|
|
Other time deposits
|
|
|
29
|
|
|
|
(56
|
)
|
|
|
(27
|
)
|
|
|
71
|
|
|
|
(146
|
)
|
|
|
(75
|
)
|
|
Total interest-bearing deposits
|
|
|
35
|
|
|
|
(15
|
)
|
|
|
20
|
|
|
|
39
|
|
|
|
(60
|
)
|
|
|
(21
|
)
|
|
Borrowed funds and other interest-bearing liabilities
|
|
|
57
|
|
|
|
(405
|
)
|
|
|
(348
|
)
|
|
|
149
|
|
|
|
(865
|
)
|
|
|
(716
|
)
|
|
Total interest expense
|
|
|
92
|
|
|
|
(420
|
)
|
|
|
(328
|
)
|
|
|
188
|
|
|
|
(925
|
)
|
|
|
(737
|
)
|
|
Net Interest Income
|
|
$
|
688
|
|
|
$
|
615
|
|
|
$
|
1,303
|
|
|
$
|
1,462
|
|
|
$
|
1,098
|
|
|
$
|
2,560
|
|
Provision for Loan and Lease Losses
Management closely monitors the loan portfolio and the adequacy of the ALLL by considering underlying financial performance of the borrower, collateral values and associated credit risks. Future material adjustments may be necessary to the provision for loan and lease losses and the ALLL if economic conditions or loan performance differ substantially from the assumptions management considered in its evaluation of the ALLL. The provision for loan and lease losses is an expense charged against net interest income to provide for probable losses attributable to uncollectible loans and is based on management’s analysis of the adequacy of the ALLL. A credit to loan and lease losses reflects the reversal of amounts previously charged to the ALLL.
FNCB recorded a provision for loan and lease losses of $0.4 million and $1.1 million for the three and six months ended June 30, 2016, respectively, compared to a provision of $0.3 million and a credit of $0.1 million, respectively, for the same periods in the prior year. The provision increase for the first six months of 2016 was largely due to net charge offs of $1.3 million.
Non-interest Income
Non-interest income totaled $2.1 million for the three months ended June 30, 2016, an increase of $0.6 million, or 35.5%, from $1.5 million earned during the comparable period in 2015. When comparing the second quarters of 2016 and 2015, the increase in non-interest income primarily reflected an increase in net gains on the sale of securities of $0.8 million, partially offset by a reduction due to legal settlements of $0.2 million received in the second quarter of 2015.
For the six months ended June 30, 2016, non-interest income totaled $3.4 million, a decrease of $1.6 million, or 31.0%, compared to $5.0 million for the same six months of 2015. The change resulted primarily from decreases in net gains on the sale of securities, legal settlement and other income of $1.3 million, $0.2 million and $0.1 million, respectively.
Non-interest Expense
For the three months ended June 30, 2016, non-interest expense increased $0.3 million, or 5.2%, to $7.0 million, from $6.7 million for the same three months of 2015. Comparing the three months ended June 30, 2016 and 2015, the increase in 2016 was due primarily to an increase in salaries and benefits expense of $0.4 million, which resulted from additions to staff and increases in health insurance costs. FNCB also experienced increases of $0.1 million in regulatory assessments, $47 thousand in the expense of other real estate owned, and $34 thousand in Bank shares tax. Expenses of other real estate owned included a valuation adjustment of $0.1 million on a Bank property that was previously held for expansion. These increases were partially mitigated by decreases in occupancy expense and insurance expense of $0.2 million and $0.1 million, respectively.
On a year-to-date basis, non-interest expense increased $0.3 million, or 2.7%, to $13.8 million in 2016 from $13.5 million in 2015. The increase in the first half of 2016 as compared to the same period of 2015 was due primarily to increases in salaries and benefits expenses of $0.8 million and data processing expense of $0.1 million. These increases were partially offset by decreases in occupancy expense, regulatory assessments, and insurance expense of $0.3 million, $0.1 million, and $0.1 million, respectively.
Recent improvements in FNCB’s risk profile contributed to the decreases in regulatory assessments and insurance expenses for the six months ended June 30, 2016. During the second quarter of 2015, FNCB was notified by the FDIC that its risk category for FDIC assessments had improved to a risk category I, the lowest risk category from risk category II based upon its most recent regulatory examination. The change in risk categories became effective on February 1, 2015, and resulted in a reduction of FNCB’s initial base assessment rate for deposit insurance from 0.14 basis points to a range of 0.05 – 0.09 basis points. Additionally, in mid-2015, FNCB renewed its professional liability, fidelity bond and errors and omissions insurance policies at lower rates, which led to the reduction in insurance expense for the six months ended June 30, 2016 as compared to the same period of 2015. At the end of the second quarter of 2016, management renewed these policies and was able to increase insurance coverages limits without a corresponding increase in premium rates.
Provision for Income Taxes
FNCB recorded a provision for income tax expense of $0.9 million for the six months ended June 30, 2016, compared to an income tax benefit related to alternative minimum tax of $40 thousand for the same six months of 2015.
Management evaluates the carrying amount of its deferred tax assets on a quarterly basis, or more frequently, if necessary, in accordance with guidance set forth in ASC Topic 740 “Income Taxes,” and applies the criteria in the guidance to determine whether it is more likely than not that some portion, or all, of the deferred tax asset will not be realized within its life cycle, based on the weight of available evidence. In evaluating available evidence, management considers, among other factors, historical financial performance, expectation of future earnings, the ability to carry back losses to recoup taxes previously paid, length of statutory carry forward periods, experience with operating loss and tax credit carry forwards not expiring unused, tax planning strategies and timing of reversals of temporary differences. In assessing the need for a valuation allowance, management carefully weighs both positive and negative evidence currently available. The weight given to the potential effect of positive and negative evidence must be commensurate with the extent to which it can objectively verified. If management determines based on available evidence, both positive and negative, that it is more likely than not that some portion or all of the deferred tax asset will not be realized in future periods, a valuation allowance is calculated and recorded. These determinations are inherently subjective and depend upon management’s estimates and judgments used in their evaluation of both positive and negative evidence.
Management performed an evaluation of FNCB’s deferred tax assets at June 30, 2016 taking into consideration all available positive and negative evidence at that time. Based on this evaluation, management believes that FNCB’s future taxable income will be sufficient to utilize deferred tax assets. Accordingly, a valuation allowance for deferred tax assets, except for the amount established for charitable contribution carryovers, was not required at June 30, 2016. Management does not believe currently that enough positive evidence exists to remove the valuation allowance associated with charitable contribution carryovers. Unlike the expiration period for net operating loss carryforwards (generally 20 years) and AMT credit carryovers (indefinite), the expiration of an excess charitable contribution carryover occurs after the 5th succeeding tax year for which a charitable contribution is made. Because FNCB is in a net deferred tax asset position, without regard to net operating loss carryovers, the reversal of existing temporary timing differences over the next 5 years makes it more likely than not that a portion of the charitable contribution carryovers will not be recognized. Accordingly, management believes a valuation allowance continues to be appropriate strictly in the case of the excess charitable contribution carryover deferred tax asset.
FNCB recognizes deferred tax assets and liabilities based on differences between the financial statement carrying amounts and the tax bases of assets and liabilities, and
calculates current and deferred tax provisions based on estimates and assumptions that could differ from actual results reflected in income tax returns filed during the subsequent year. Any adjustments required based on filed returns are recorded when identified in the subsequent year.
FINANCIAL CONDITION
Assets
Total assets decreased $3.1 million, or 0.3%, to $1.088 billion at June 30, 2016 from $1.091 billion at December 31, 2015. The change in assets resulted primarily from decreases in cash and cash equivalents of $3.4 million, FHLB of Pittsburgh stock of $1.1 million, $4.5 million in net deferred tax assets, and OREO of $1.5 million, which were partly offset by an increase in available-for-sale securities of $8.4 million. Loans, net of the allowance for loan and lease losses, were relatively flat, increasing only $0.2 million to $725.2 million at June 30, 2016 from $724.9 million at December 31, 2015. Total deposits grew $14.3 million, or 1.7%, due primarily to the attainment of a new municipal deposit relationship. The deposit growth was used to repay borrowings from the FHLB of Pittsburgh, which declined $15.0 million, or 11.1%, when comparing June 30, 2016 and December 31, 2015.
In addition, accrued interest payable decreased $10.9 million, or 97.2%, as FNCB repaid in entirety all accrued interest that had previously been deferred on the Notes. The payment was funded by a dividend of $11.0 million from the Bank.
Cash and Cash Equivalents
Cash and cash equivalents declined $3.4 million, or 16.2%, to $17.7 million at June 30, 2016 from $21.1 million at December 31, 2015. FNCB paid a dividend of $0.02 per share to holders of our common stock during both the first and second quarters of 2016.
Securities
FNCB’s investment securities portfolio provides a source of liquidity needed to meet expected loan demand and interest income to increase profitability. Additionally, the investment securities portfolio is used to meet pledging requirements to secure public deposits and for other purposes. Management classifies investment securities as either held-to-maturity or available-for-sale at the time of purchase based on its intent. Held-to-maturity securities are carried at amortized cost, while available-for-sale securities are carried at fair value, with unrealized holding gains and losses reported as a component of shareholders’ equity in accumulated other comprehensive income (loss), net of tax. Management determines the appropriate classification of investment securities at the time of purchase. At June 30, 2016 and December 31, 2015, all securities were classified as available-for-sale. Decisions to purchase or sell investment securities are based upon management’s current assessment of long- and short-term economic and financial conditions, including the interest rate environment and asset/liability management and tax-planning strategies. Securities with limited marketability and/or restrictions, such as FHLB of Pittsburgh and FRB stocks, are carried at cost. FRB stock is included in other assets.
At June 30, 2016, the investment portfolio was comprised principally of fixed-rate securities issued by U.S. government or U.S. government-sponsored agencies, which include residential mortgage-backed securities, residential and commercial collateralized mortgage obligations (“CMOs”) and single-maturity bonds, and fixed-rate taxable obligations of state and political subdivisions. Except for U.S. government and government-sponsored agencies, there were no securities of any individual issuer that exceeded 10.0% of shareholders’ equity at June 30, 2016.
The following table presents the carrying value of available-for-sale securities, which are carried at fair value at June 30, 2016 and December 31, 2015:
Composition of the Investment Portfolio
|
|
|
June 30,
|
|
|
December 31,
|
|
|
(in thousands)
|
|
2016
|
|
|
2015
|
|
|
Available-for-sale securities
|
|
|
|
|
|
|
|
|
|
Obligations of U.S. government agencies
|
|
$
|
12,724
|
|
|
$
|
44,043
|
|
|
Obligations of state and political subdivisions
|
|
|
102,206
|
|
|
|
75,407
|
|
|
U.S. government/ government-sponsored agencies:
|
|
|
|
|
|
|
|
|
|
Collateralized mortgage obligations - residential
|
|
|
21,013
|
|
|
|
22,269
|
|
|
Collateralized mortgage obligations - commerical
|
|
|
102,861
|
|
|
|
89,423
|
|
|
Residential mortgage-backed securities
|
|
|
18,757
|
|
|
|
18,098
|
|
|
Corporate debt securities
|
|
|
420
|
|
|
|
423
|
|
|
Negotiable certificates of deposit
|
|
|
3,248
|
|
|
|
3,162
|
|
|
Equity securities
|
|
|
961
|
|
|
|
948
|
|
|
Total
|
|
$
|
262,190
|
|
|
$
|
253,773
|
|
Management monitors the investment portfolio regularly and adjusts the investment strategy to reflect changes in liquidity needs, asset/liability strategy and tax planning requirements. FNCB currently has $55.6 million in net operating loss (“NOL”) carryovers, which it uses to offset any taxable income. Because of this tax position, there is no benefit from holding tax-exempt obligations of state and political subdivisions. Accordingly, management actions during recent periods have reflected current tax planning initiatives focused on generating sustained taxable income to be able to reduce NOL carryovers.
During the second quarter of 2016, FNCB sold six of its available-for-sale U.S. government agency securities. The securities sold had an aggregate amortized cost of $25.5 million. Gross proceeds received totaled $26.4 million, with net gains of $0.8 million realized upon the sales and included in non-interest income.
For the six months ended June 30, 2016, there were a total of eight securities sold, comprised entirely of U.S. government agency securities. Gross proceeds received on the sales and the aggregate amortized cost of the securities sold totaled $32.6 million and $31.6 million, respectively. Year-to-date net gains realized upon the sales amounted to $1.0 million and are included in non-interest income for the six months ended June 30, 2016.
FNCB purchased 14 securities during the second quarter of 2016, totaling $22.9 million and included $12.4 million in taxable obligations of state and political subdivisions and $10.5 million in U.S. government/government-sponsored agency commercial CMOs. For the six months ended June 30, 2016, FNCB purchased 23 securities totaling $33.0 million, including $22.6 million in taxable obligations of state and political subdivisions and $10.5 million in U.S. government /government-sponsored agency commercial CMOs.
Activity within the investment portfolio during the six months ended June 30, 2016 reflected management initiatives aimed at improving earning asset yields, liquidity needs and previously mentioned tax planning strategies. The weighted-average yield for the eight bullet U.S. government agency bonds sold was 1.90%. Management reinvested proceeds received from the sales into taxable obligations of state and political subdivisions and commercial CMOs of U.S. government/government sponsored agencies having weighted-average yields of 2.56% and 2.31%, respectively. As a result of these actions, the tax-equivalent yield on the investment portfolio improved 9 basis points to 2.47% for the six months ended June 30, 2016 from 2.38% for the same period of 2015.
The following table presents the maturities of available-for-sale securities, based on carrying value at June 30, 2016 and the weighted average yields of such securities calculated on the basis of the amortized cost and effective yields weighted for the scheduled maturity of each security. The yields on tax-exempt obligations of state and political subdivisions are presented on a tax-equivalent basis using an effective interest rate of 34.0%. Because residential and commercial collateralized mortgage obligations and residential mortgage-backed securities are not due at a single maturity date, they are not included in the maturity categories in the following summary.
Maturity Distribution of the Investment Portfolio
|
|
|
June 30, 2016
|
|
|
|
|
Within
|
|
|
>1 - 5
|
|
|
|
6 - 10
|
|
|
Over
|
|
|
Collateralized
Mortgage
Obligations and
Mortgage-Backed
|
|
|
No Fixed
|
|
|
|
|
|
|
(dollars in thousands)
|
|
One Year
|
|
|
Years
|
|
|
Years
|
|
|
10 Years
|
|
|
Securities
|
|
|
Maturity
|
|
|
Total
|
|
|
Available-for-sale securities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Obligations of U.S. government agencies
|
|
$
|
-
|
|
|
$
|
4,912
|
|
|
$
|
7,812
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
12,724
|
|
|
Yield
|
|
|
|
|
|
|
2.01
|
%
|
|
|
2.29
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2.18
|
%
|
|
Obligations of state and political subdivisions
|
|
|
-
|
|
|
|
14,467
|
|
|
|
83,766
|
|
|
|
3,973
|
|
|
|
-
|
|
|
|
-
|
|
|
|
102,206
|
|
|
Yield
|
|
|
|
|
|
|
2.45
|
%
|
|
|
2.78
|
%
|
|
|
3.15
|
%
|
|
|
|
|
|
|
|
|
|
|
2.75
|
%
|
|
U.S. government/government-sponsored agencies:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Collateralized mortgage obligations - residential
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
21,013
|
|
|
|
-
|
|
|
|
21,013
|
|
|
Yield
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2.47
|
%
|
|
|
|
|
|
|
2.47
|
%
|
|
Collateralized mortgage obligations - commercial
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
102,861
|
|
|
|
-
|
|
|
|
102,861
|
|
|
Yield
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2.25
|
%
|
|
|
|
|
|
|
2.25
|
%
|
|
Residential mortgage-backed securities
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
18,757
|
|
|
|
-
|
|
|
|
18,757
|
|
|
Yield
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2.50
|
%
|
|
|
|
|
|
|
2.50
|
%
|
|
Corporate debt securities
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
420
|
|
|
|
-
|
|
|
|
-
|
|
|
|
420
|
|
|
Yield
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1.26
|
%
|
|
|
|
|
|
|
|
|
|
|
1.26
|
%
|
|
Negotiable certificates of deposit
|
|
|
-
|
|
|
|
3,248
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
3,248
|
|
|
Yield
|
|
|
|
|
|
|
2.04
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2.04
|
%
|
|
Equity securities
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
961
|
|
|
|
961
|
|
|
Yield
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
6.76
|
%
|
|
|
6.76
|
%
|
|
Total available-for-sale maturities
|
|
$
|
-
|
|
|
$
|
22,627
|
|
|
$
|
91,578
|
|
|
$
|
4,393
|
|
|
$
|
142,631
|
|
|
$
|
961
|
|
|
$
|
262,190
|
|
|
Weighted average yield
|
|
|
0.00
|
%
|
|
|
2.30
|
%
|
|
|
2.74
|
%
|
|
|
2.97
|
%
|
|
|
2.32
|
%
|
|
|
6.76
|
%
|
|
|
2.49
|
%
|
OTTI Evaluation
There was no OTTI recognized during the six months ended June 30, 2016 or 2015. For additional information regarding management’s evaluation of securities for OTTI, see Note 3 – “Securities” of the notes to consolidated financial statements included in Item 1 hereof.
Investments in FHLB and Federal Reserve Bank (“FRB”) stock, which have limited marketability, are carried at cost and totaled $6.6 million and $7.7 million at June 30, 2016 and December 31, 2015, respectively. FRB stock of $1.3 million is included in Other Assets at June 30, 2016 and December 31, 2015. Management noted no indicators of impairment for the FHLB of Pittsburgh and FRB of Philadelphia stock at June 30, 2016.
Loans
During the first six months of 2016, FNCB experienced moderate demand for our retail lending products; however, payoffs related to several large commercial lending relationships outpaced demand for commercial lending products and reductions in consumer lending volumes resulted in a minimal increase in total loans of $0.2 million to $731.4 million at June 30, 2016 from $731.2 million at December 31, 2015.
Historically, commercial lending activities have represented a significant portion of FNCB’s loan portfolio. Commercial lending includes commercial and industrial loans, commercial real estate loans and construction, land acquisition and development loans, and represented 57.6% and 58.2% of total loans at June 30, 2016 and December 31, 2015, respectively.
From a collateral standpoint, a majority of FNCB’s loan portfolio consisted of loans secured by real estate. Real estate secured loans, which include commercial real estate, construction, land acquisition and development, residential real estate loans and home equity lines of credit (“HELOCs”), decreased $3.8 million, or 0.9%, to $429.9 million at June 30, 2016 from $433.7 million at December 31, 2015. The majority of the decrease was concentrated in the commercial sector, as several large commercial real estate loans were paid off during the first quarter. Real estate secured loans as a percentage of total gross loans remained steady at 58.8% at June 30, 2016 as compared to 59.3% as of December 31, 2015.
Commercial and industrial loans increased $4.2 million, or 2.8%, during the first half of 2016 to $154.0 million at June 30, 2016 from $149.8 million at December 31, 2015. The increase resulted primarily from two new loan relationships obtained during the second quarter. Commercial and industrial loans consist primarily of equipment loans, working capital financing, automobile floor plans, revolving lines of credit and loans secured by cash and marketable securities. Construction, land acquisition and development loans decreased $7.6 million, or 24.6%, to $23.3 million at June 30, 2016 from $30.8 million at December 31, 2015, as several large projects reached completion and converted to permanent financing. Commercial real estate loans include long-term commercial mortgage financing and are primarily secured by first or second lien mortgages. Loans secured by commercial real estate decreased $0.9 million, or 0.4%, to $244.3 million at June 30, 2016 from $245.2 million at December 31, 2015. The decrease reflected the payoff of the several large commercial real estate loans, partially offset by the conversion of several construction loans to permanent financing.
Residential real estate loans totaled $136.5 million at June 30, 2016, an increase of $5.8 million, or 4.4%, from $130.7 million at December 31, 2015. The components of residential real estate loans include fixed-rate and variable-rate mortgage loans. HELOCs are not included in this category but are included in consumer loans. FNCB primarily underwrites fixed-rate purchase and refinance of residential mortgage loans for sale in the secondary market to reduce interest rate risk and provide funding for additional loans. During the first six months of 2016, management continued a campaign to promote our “WOW” residential mortgage product, which resulted in a $3.1 million, or 8.9%, increase in this product to $38.1 million at June 30, 2016 from $35.0 million at December 31, 2015. This product is a non-saleable mortgage with maturity terms of 7.5 to 14.5 years that offers customers an attractive fixed interest rate, low closing costs and a guaranteed 30-day close.
Consumer loans declined throughout the first six months of 2016, decreasing $3.2 million, or 2.5%, to $125.3 million at June 30, 2016 from $128.5 million at December 31, 2015.
The decline was primarily attributable to increased indirect lending competition within our market area. As a result, indirect auto loans decreased $2.2 million, or 2.2%, to $100.8 million at June 30, 2016 from $103.0 million at December 31, 2015. Loans to state and municipal governments increased $1.9 million, or 4.3%, to $48.0 million at June 30, 2016 from $46.1 million at December 31, 2015. The increase was attributable to new originations.
The following table summarizes loans receivable, net by category at June 30, 2016 and December 31, 2015:
Loan Portfolio Detail
|
|
|
June 30,
|
|
|
December 31,
|
|
|
(in thousands)
|
|
2016
|
|
|
2015
|
|
|
Residential real estate
|
|
$
|
136,483
|
|
|
$
|
130,696
|
|
|
Commercial real estate
|
|
|
244,282
|
|
|
|
245,198
|
|
|
Construction, land acquisition and development
|
|
|
23,261
|
|
|
|
30,843
|
|
|
Commercial and industrial
|
|
|
153,990
|
|
|
|
149,826
|
|
|
Consumer
|
|
|
125,321
|
|
|
|
128,533
|
|
|
State and political subdivisions
|
|
|
48,037
|
|
|
|
46,056
|
|
|
Total loans, gross
|
|
|
731,374
|
|
|
|
731,152
|
|
|
Unearned income
|
|
|
(102
|
)
|
|
|
(98
|
)
|
|
Net deferred loan costs
|
|
|
2,448
|
|
|
|
2,662
|
|
|
Allowance for loan and lease losses
|
|
|
(8,559
|
)
|
|
|
(8,790
|
)
|
|
Loans, net
|
|
$
|
725,161
|
|
|
$
|
724,926
|
|
The following table presents industry concentrations within FNCB’s loan portfolio at June 30, 2016 and December 31, 2015:
Loan Concentrations
|
|
|
June 30, 2016
|
|
|
December 31, 2015
|
|
|
(in thousands)
|
|
Amount
|
|
|
% of Gross Loans
|
|
|
Amount
|
|
|
% of Gross Loans
|
|
|
Retail space/shopping centers
|
|
$
|
34,998
|
|
|
|
4.79
|
%
|
|
$
|
35,292
|
|
|
|
4.83
|
%
|
|
Automobile dealers
|
|
|
27,835
|
|
|
|
3.81
|
%
|
|
|
34,594
|
|
|
|
4.73
|
%
|
|
Colleges and Universities
|
|
|
17,081
|
|
|
|
2.34
|
%
|
|
|
18,540
|
|
|
|
2.54
|
%
|
|
1-4 family residential investment properties
|
|
|
12,664
|
|
|
|
1.73
|
%
|
|
|
18,957
|
|
|
|
2.59
|
%
|
Asset Quality
Loans that management has the intent and ability to hold for the foreseeable future or until maturity or payoff are stated at the amount of unpaid principal, net of unearned interest, deferred loan fees and costs, and reduced by the ALLL. The ALLL is established through a provision for loan and lease losses charged to earnings.
FNCB has established and consistently applies loan policies and procedures designed to foster sound underwriting and credit monitoring practices. Credit risk is managed through the efforts of loan officers, the loan review function, and our Loan Quality and the ALLL management committees, as well as oversight from the Board of Directors. Management continually evaluates its credit risk management practices to ensure it is reacting to problems in the loan portfolio in a timely manner, although, as is the case with any financial institution, a certain degree of credit risk is dependent in part on local and general economic conditions that are beyond management’s control.
Under FNCB’s risk rating system, loans that are rated pass, special mention, substandard, doubtful, or loss are reviewed regularly as part of the risk management practices. The Loan Quality Committee, which consists of key members of senior management, finance and credit administration, meets monthly or more often as necessary to review individual problem credits and workout strategies and provides monthly reports to the Board of Directors.
A loan is considered impaired when it is probable that FNCB will be unable to collect all amounts due (including principal and interest) according to the contractual terms of the note and loan agreement. For purposes of the analysis, all loans that are modified under a troubled debt restructuring (“TDRs”), loan relationships with an aggregate outstanding balance greater than $100 thousand rated substandard and non-accrual, and loans that are identified as doubtful or loss are considered impaired. Impaired loans are analyzed individually to determine the amount of impairment. For collateral-dependent loans impairment is measured based on the fair value of the collateral supporting the loan. A loan is considered to be collateral dependent when repayment of the loan is expected to be provided through the liquidation of the collateral held. For impaired loans that are secured by real estate, external appraisals are obtained annually, or more frequently as warranted, to ascertain a fair value so that the impairment analysis can be updated. Should a current appraisal not be available at the time of impairment analysis, other sources of valuation may be used including, current letters of intent, broker price opinions or executed agreements of sale. For non-collateral-dependent loans, impairment is measured based on the present value of expected future cash flows, net of any deferred fees and costs, discounted at the loan’s original effective interest rate.
Loans to borrowers that are experiencing financial difficulty that are modified and result in the granting of a concession to the borrower are classified as TDRs and are considered to be impaired. Such concessions generally involve an extension of a loan’s stated maturity date, a reduction of the stated interest rate, payment modifications, capitalization of property taxes with respect to residential mortgage loans or a combination of these modifications. Non-accrual TDRs are returned to accrual status if principal and interest payments, under the modified terms, are brought current, are performing under the modified terms for six consecutive months, and management believes that collection of the remaining interest and principal is probable.
Non-performing loans are monitored on an ongoing basis as part of FNCB’s loan review process. Additionally, work-out efforts continue and are actively monitored for non-performing loans and OREO through the Loan Quality Committee. A potential loss on a non-performing asset is generally determined by comparing the outstanding loan balance to the fair value of the pledged collateral, less cost to sell.
Loans are placed on non-accrual when a loan is specifically determined to be impaired or when management believes that the collection of interest or principal is doubtful. This generally occurs when a default of interest or principal has existed for 90 days or more, unless the loan is well secured and in the process of collection, or when management becomes aware of facts or circumstances that the loan would default before 90 days. FNCB determines delinquency status based on the number of days since the date of the borrower’s last required contractual loan payment. When the interest accrual is discontinued, all unpaid interest income is reversed and charged back against current earnings. Any subsequent cash payments received are applied, first to the outstanding loan amounts, then to the recovery of any charged-off loan amounts, with any excess treated as a recovery of lost interest. A non-accrual loan is returned to accrual status when the loan is current as to principal and interest payments, is performing according to contractual terms for six consecutive months and future payments are reasonably assured.
Management actively manages impaired loans in an effort to reduce loan balances by working with customers to develop strategies to resolve borrower difficulties, through sale or liquidation of collateral, foreclosure, and other appropriate means. Real estate values in FNCB’s market area have appeared to stabilize, while employment conditions have shown substantial improvement. However, continued improvement of these metrics cannot be assured. Any weakening of economic and employment conditions could result in real estate devaluations which could negatively impact asset quality and, accordingly, cause an increase in the provision for loan and lease losses.
Under the fair value of collateral method, the impaired amount of the loan is deemed to be the difference between the loan amount and the fair value of the collateral, less the estimated costs to sell. For FNCB’s calculations for real estate secured loans, a factor of 10% is generally utilized to estimate costs to sell, which is based on typical cost factors, such as a 6% broker commission, 1% transfer taxes, and 3% various other miscellaneous costs associated with the sales process. If the valuation indicates that the fair value has deteriorated below the carrying value of the loan, the difference between the fair value and the principal balance is charged off. For impaired loans for which the value of the collateral less costs to sell exceeds the loan value, the impairment is considered to be zero.
The following schedule reflects non-performing loans including non-performing TDRs, OREO and accruing TDRs at June 30, 2016 and December 31, 2015:
Non-performing Loans, OREO and Accruing TDRs
|
|
|
June 30,
|
|
|
December 31,
|
|
|
(in thousands)
|
|
2016
|
|
|
2015
|
|
|
Non-accrual loans
|
|
$
|
2,739
|
|
|
$
|
3,788
|
|
|
Loans
past due 90 days or more and still accruing
|
|
|
-
|
|
|
|
-
|
|
|
Total
non-performing loans
|
|
|
2,739
|
|
|
|
3,788
|
|
|
Other real estate owned
|
|
|
1,628
|
|
|
|
3,154
|
|
|
Total non-performing loans and OREO
|
|
$
|
4,367
|
|
|
$
|
6,942
|
|
|
|
|
|
|
|
|
|
|
|
|
Accruing TDRs
|
|
$
|
4,043
|
|
|
$
|
4,982
|
|
|
Non-performing loans as a percentage of gross loans
|
|
|
0.37
|
%
|
|
|
0.52
|
%
|
Work-out efforts focused on the effective management and resolution of problem credits and the prompt and aggressive disposition of foreclosed properties continue to lead to improvement in FNCB’s asset quality throughout the first six months of 2016. Total non-performing loans and OREO decreased $2.6 million, or 37.1%, to $4.4 million at June 30, 2016 from $6.9 million at December 31, 2015. FNCB’s ratio of non-performing loans to total gross loans improved to 0.37% at June 30, 2016 from 0.52% at December 31, 2015, as management continued to reduce the balance of non-accrual loans. FNCB’s ratio of non-performing loans and OREO as a percentage of shareholders’ equity improved to 4.6% at June 30, 2016 from 8.1% at December 31, 2015. Management continues to monitor non-accrual loans, delinquency trends and economic conditions within our market area on an on-going basis in order to proactively address any collection-related issues.
TDRs at June 30, 2016 and December 31, 2015 were $4.9 million and $5.8 million, respectively. Accruing and non-accruing TDRs were $4.0 million and $0.9 million, respectively at June 30, 2016 and $5.0 million and $0.8 million, respectively at December 31, 2015. There were no loans modified as TDRs during the first six months of 2016.
The average balance of impaired loans was $7.3 million and $10.1 million for the six months ended June 30, 2016 and 2015, respectively. FNCB recorded $50 thousand and $106 thousand of interest income on impaired loans for the three and six months ended June 30, 2016, respectively and $67 thousand and $137 thousand for the three and six months ended June 30, 2015.
The following table presents the changes in non-performing loans for the three and six months ended June 30, 2016 and 2015. Loan foreclosures represent recorded investment at time of foreclosure not including the effect of any guarantees:
Changes in Non-performing Loans
|
|
|
Three Months Ended June 30,
|
|
|
Six Months Ended June 30,
|
|
|
(in thousands)
|
|
2016
|
|
|
2015
|
|
|
2016
|
|
|
2015
|
|
|
Balance, at beginning of period
|
|
$
|
3,569
|
|
|
$
|
5,184
|
|
|
$
|
3,788
|
|
|
$
|
5,522
|
|
|
Loans newly placed on non-accrual
|
|
|
931
|
|
|
|
1,987
|
|
|
|
2,238
|
|
|
|
2,319
|
|
|
Changes in loans past due 90 days or more and still accruing
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
Loans transferred to OREO
|
|
|
-
|
|
|
|
-
|
|
|
|
(237
|
)
|
|
|
(149
|
)
|
|
Loans returned to performing status
|
|
|
(144
|
)
|
|
|
(131
|
)
|
|
|
(144
|
)
|
|
|
(131
|
)
|
|
Loans charged-off
|
|
|
(700
|
)
|
|
|
(1,178
|
)
|
|
|
(1,820
|
)
|
|
|
(1,448
|
)
|
|
Loan payments received
|
|
|
(917
|
)
|
|
|
(105
|
)
|
|
|
(1,086
|
)
|
|
|
(356
|
)
|
|
Balance, end of period
|
|
$
|
2,739
|
|
|
$
|
5,757
|
|
|
$
|
2,739
|
|
|
$
|
5,757
|
|
The additional interest income that would have been earned on non-accrual and restructured loans had the loans been performing in accordance with their original terms for the three and six months ended June 30, 2016 approximated $59 thousand and $127 thousand, respectively and $96 thousand and $187 thousand for the three and six months ended June 30, 2015, respectively.
The following table outlines accruing loan delinquencies and non-accrual loans as a percentage of gross loans at June 30, 2016 and December 31, 2015:
Loan Delinquencies and Non-accrual Loans
|
|
|
June 30,
2016
|
|
|
December 31,
2015
|
|
|
Accruing: 30-59 days
|
|
|
0.23
|
%
|
|
|
0.18
|
%
|
|
60-89 days
|
|
|
0.14
|
%
|
|
|
0.14
|
%
|
|
90+ days
|
|
|
0.00
|
%
|
|
|
0.00
|
%
|
|
Non-accrual
|
|
|
0.37
|
%
|
|
|
0.52
|
%
|
|
Total delinquencies
|
|
|
0.74
|
%
|
|
|
0.84
|
%
|
The decrease in total delinquencies as a percentage of gross loans at June 30, 2016 as compared to December 31, 2015 was primarily due to a decrease in non-performing loans, partially offset by an increase in loans past due 30-59 days. In its evaluation of the ALLL, management considers a variety of qualitative factors including changes in the volume and severity of delinquencies.
Allowance for Loan and Lease Losses
The ALLL represents management’s estimate of probable loan losses inherent in the loan portfolio. The ALLL is analyzed in accordance with GAAP and is maintained at a level that is based on management’s evaluation of the adequacy of the ALLL in relation to the risks inherent in the loan portfolio.
As part of its evaluation, management considers qualitative and environmental factors, including, but not limited to:
|
•
|
changes in national, local, and business economic conditions and developments, including the condition of various market segments;
|
|
•
|
changes in the nature and volume of FNCB’s loan portfolio;
|
|
•
|
changes in FNCB’s lending policies and procedures, including underwriting standards, collection, charge-off and recovery practices and results;
|
|
•
|
changes in the experience, ability and depth of FNCB’s management and staff;
|
|
•
|
changes in the quality of FNCB’s loan review system and the degree of oversight by FNCB’s Board of Directors;
|
|
•
|
changes in the trend of the volume and severity of past due and classified loans, including trends in the volume of non- accrual loans, TDRs and other loan modifications;
|
|
•
|
the existence and effect of any concentrations of credit and changes in the level of such concentrations;
|
|
•
|
the effect of external factors such as competition and legal and regulatory requirements on the level of estimated credit losses in FNCB’s current loan portfolio; and
|
|
•
|
analysis of customers’ credit quality, including knowledge of their operating environment and financial condition.
|
Evaluations are intrinsically subjective, as the results are estimated based on management knowledge and experience and are subject to interpretation and modification as information becomes available or as future events occur. Management monitors the loan portfolio on an ongoing basis with emphasis on weakness in both the real estate market and the economy in general and its effect on repayment. Adjustments to the ALLL are made based on management’s assessment of the factors noted above.
For purposes of its analysis, all loan relationships with an aggregate balance greater than $100 thousand that are rated substandard and non-accrual, identified as doubtful or loss, and all TDRs are considered impaired and are analyzed individually to determine the amount of impairment. Circumstances such as construction delays, declining real estate values, and the inability of the borrowers to make scheduled payments have resulted in these loan relationships being classified as impaired. FNCB utilizes the fair value of collateral method for collateral-dependent loans and TDRs for which repayment depends on the sale of collateral. For non-collateral-dependent loans and TDRs, FNCB measures impairment based on the present value of expected future cash flows discounted at the loan’s original effective interest rate. With regard to collateral-dependent loans, appraisals are received at least annually to ensure that impairment measurements reflect current market conditions. Should a current appraisal not be available at the time of impairment analysis, other valuation sources including current letters of intent, broker price opinions or executed agreements of sale may be used. Only downward adjustments are made based on these supporting values. Included in all impairment calculations is a cost to sell adjustment of approximately 10%, which is based on typical cost factors, including a 6% broker commission, 1% transfer taxes and 3% various other miscellaneous costs associated with the sales process. Sales costs are periodically reviewed and revised based on actual experience. The ALLL analysis is adjusted for subsequent events that may arise after the end of the reporting period but before the financial reports are filed.
The Company’s ALLL consists of both specific and general components. At June 30, 2016, the ALLL that related to impaired loans that are individually evaluated for impairment, the guidance for which is provided by ASC 310 “
Impairment of a Loan
” (“ASC 310”), was $274 thousand, or 3.2%, of the total ALLL. A general allocation of $8.3 million was calculated for loans analyzed collectively under ASC 450 “
Contingencies
” (“ASC 450”), which represented 96.8% of the total ALLL of $8.6 million. The ratio of the ALLL to total loans at June 30, 2016 and December 31, 2015 was 1.17% and 1.20%, respectively, based on total loans of $731.4 million and $731.2 million, respectively.
Based on its evaluation of the ALLL, management established an unallocated reserve of $74 thousand at December 31, 2015. As part of its evaluation, management applies loss rates to each loan segment. These loss rates are based on historical loss experience for the previous twelve consecutive quarters, which had resulted in an overall negative historical loss factor and consequently negative provision for the commercial and industrial loan segment at December 31, 2015. Based on the risk characteristics inherent in this segment of the portfolio, management reversed the negative provision and established the unallocated reserve. As of June 30, 2016, the unallocated reserve had been reversed as the loss history for this segment is no longer negative.
The following table presents an allocation of the ALLL and percent of loans in each category at June 30, 2016 and December 31, 2015:
Allocation of the ALLL
|
|
|
June 30, 2016
|
|
|
December 31, 2015
|
|
|
(dollars in thousands)
|
|
Allowance
|
|
|
Percentage
of Loans
in Each
Category
to Total
Loans
|
|
|
Allowance
|
|
|
Percentage
of Loans
in Each
Category
to Total
Loans
|
|
|
Residential real estate
|
|
$
|
1,099
|
|
|
|
18.66
|
%
|
|
$
|
1,333
|
|
|
|
17.87
|
%
|
|
Commercial real estate
|
|
|
3,095
|
|
|
|
33.40
|
%
|
|
|
3,346
|
|
|
|
33.54
|
%
|
|
Construction, land acquisition and development
|
|
|
717
|
|
|
|
3.18
|
%
|
|
|
853
|
|
|
|
4.22
|
%
|
|
Commercial and industrial
|
|
|
1,565
|
|
|
|
21.05
|
%
|
|
|
1,205
|
|
|
|
20.49
|
%
|
|
Consumer
|
|
|
1,350
|
|
|
|
17.14
|
%
|
|
|
1,494
|
|
|
|
17.58
|
%
|
|
State and political subdivision
|
|
|
733
|
|
|
|
6.57
|
%
|
|
|
485
|
|
|
|
6.30
|
%
|
|
Unallocated
|
|
|
-
|
|
|
|
0.00
|
%
|
|
|
74
|
|
|
|
0.00
|
%
|
|
Total
|
|
$
|
8,559
|
|
|
|
100.00
|
%
|
|
$
|
8,790
|
|
|
|
100.00
|
%
|
The following table presents an analysis of the ALLL category for the three and six months ended June 30, 2016 and 2015:
Reconciliation of the ALLL
|
|
|
For the three months
ended June 30,
|
|
|
For the six months
ended June 30,
|
|
|
(in thousands)
|
|
2016
|
|
|
2015
|
|
|
2016
|
|
|
2015
|
|
|
Balance at beginning of period
|
|
$
|
8,635
|
|
|
$
|
10,944
|
|
|
$
|
8,790
|
|
|
$
|
11,520
|
|
|
Charge-offs:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Residential real estate
|
|
|
-
|
|
|
|
1
|
|
|
|
24
|
|
|
|
69
|
|
|
Commercial real estate
|
|
|
-
|
|
|
|
912
|
|
|
|
251
|
|
|
|
912
|
|
|
Construction, land acquisition and development
|
|
|
-
|
|
|
|
6
|
|
|
|
-
|
|
|
|
6
|
|
|
Commercial and industrial
|
|
|
496
|
|
|
|
72
|
|
|
|
1,064
|
|
|
|
142
|
|
|
Consumer
|
|
|
213
|
|
|
|
201
|
|
|
|
518
|
|
|
|
340
|
|
|
State and political subdivisions
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
Total charge-offs
|
|
|
709
|
|
|
|
1,192
|
|
|
|
1,857
|
|
|
|
1,469
|
|
|
Recoveries of charged-off loans:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Residential real estate
|
|
|
1
|
|
|
|
5
|
|
|
|
2
|
|
|
|
11
|
|
|
Commercial real estate
|
|
|
2
|
|
|
|
16
|
|
|
|
3
|
|
|
|
18
|
|
|
Construction, land acquisition and development
|
|
|
9
|
|
|
|
-
|
|
|
|
9
|
|
|
|
-
|
|
|
Commercial and industrial
|
|
|
118
|
|
|
|
102
|
|
|
|
212
|
|
|
|
167
|
|
|
Consumer
|
|
|
107
|
|
|
|
108
|
|
|
|
308
|
|
|
|
230
|
|
|
State and political subdivisions
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
Total recoveries
|
|
|
237
|
|
|
|
231
|
|
|
|
534
|
|
|
|
426
|
|
|
Net charge-offs
|
|
|
472
|
|
|
|
961
|
|
|
|
1,323
|
|
|
|
1,043
|
|
|
Provision (credit) for loan and lease losses
|
|
|
396
|
|
|
|
345
|
|
|
|
1,092
|
|
|
|
(149
|
)
|
|
Balance at end of period
|
|
$
|
8,559
|
|
|
$
|
10,328
|
|
|
$
|
8,559
|
|
|
$
|
10,328
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net charge-offs during the period as a percentage of average loans outstanding during the period
|
|
|
0.06
|
%
|
|
|
0.14
|
%
|
|
|
0.18
|
%
|
|
|
0.15
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Allowance for loan and lease losses as a percentage of gross loans at end of period
|
|
|
1.17
|
%
|
|
|
1.51
|
%
|
|
|
1.17
|
%
|
|
|
1.51
|
%
|
Other Real Estate Owned
At June 30, 2016, OREO consisted of 11 properties with an aggregate carrying value of $1.6 million, a decrease of $1.6 million from $3.2 million at December 31, 2015. FNCB foreclosed upon one property with a carrying value of $237 thousand during the six months ended June 30, 2016. There was one sale and one partial sale of properties with an aggregate carrying value of $1.6 million during the six months ended June 30, 2016, which resulted in a net loss of $3 thousand. During the six months ended June 30, 2015, one property with a carrying value of $149 thousand was foreclosed upon, and there were five sales and one partial sale of properties with an aggregate carrying value of $0.5 million, which resulted in a net gain on the sales of $16 thousand. The expenses related to maintaining OREO, net of any income from operation of the properties, and the subsequent write-down of property values related to declines in value subsequent to foreclosure amounted to $56 thousand and $102 thousand for the three and six months ended June 30, 2016, respectively, compared to $29 thousand and $117 thousand, respectively, for the same periods in 2015.
FNCB actively markets OREO properties for sale through a variety of channels including internal marketing and the use of outside brokers/realtors. The carrying value of OREO is generally calculated at an amount not greater than 90% of the most recent fair market appraised value unless specific conditions warrant an exception. A 10% factor is generally used to estimate costs to sell, which is based on typical cost factors, such as 6% broker commission, 1% transfer taxes, and 3% various other miscellaneous costs associated with the sales process. The fair value is updated on an annual basis or more frequently if new valuation information is available. Further deterioration in the real estate market could result in additional losses on these properties. FNCB incurred valuation adjustments of $138 thousand for the three and six months ended June 30, 2016, which are included in expense of other real estate owned in the consolidated statements of income.
The following table presents the activity in OREO for the three and six months ended June 30, 2016 and 2015:
Activity in OREO
|
|
|
Three Months Ended June 30,
|
|
|
Six Months Ended June 30,
|
|
|
(in thousands)
|
|
2016
|
|
|
2015
|
|
|
2016
|
|
|
2015
|
|
|
Balance, beginning of period
|
|
$
|
1,806
|
|
|
$
|
2,369
|
|
|
$
|
3,154
|
|
|
$
|
2,255
|
|
|
Property foreclosures
|
|
|
-
|
|
|
|
-
|
|
|
|
237
|
|
|
|
149
|
|
|
Valuation adjustments
|
|
|
(138
|
)
|
|
|
(118
|
)
|
|
|
(138
|
)
|
|
|
(130
|
)
|
|
Carrying value of OREO sold
|
|
|
(40
|
)
|
|
|
(511
|
)
|
|
|
(1,625
|
)
|
|
|
(534
|
)
|
|
Balance, end of period
|
|
$
|
1,628
|
|
|
$
|
1,740
|
|
|
$
|
1,628
|
|
|
$
|
1,740
|
|
The following table presents a distribution of OREO at June 30, 2016 and December 31, 2015:
Distribution of OREO
|
|
|
June 30,
|
|
|
December 31,
|
|
|
(in thousands)
|
|
2016
|
|
|
2015
|
|
|
Land / lots
|
|
$
|
708
|
|
|
$
|
785
|
|
|
Commercial real estate
|
|
|
666
|
|
|
|
2,342
|
|
|
Residential real estate
|
|
|
254
|
|
|
|
27
|
|
|
Total other real estate owned
|
|
$
|
1,628
|
|
|
$
|
3,154
|
|
Liabilities
Total liabilities were $992.0 million at June 30, 2016, a decrease of $12.4 million, or 1.2%, from $1.0 billion at December 31, 2015. The $14.3 million increase in total deposits was due to a $24.7 million, or 3.7%, increase in interest-bearing deposits, partially offset by a $10.5 million, or 6.8%, decrease in non-interest-bearing demand deposits. The increase in interest-bearing deposits primarily reflected a $20.2 million increase in public funds. The increase in total deposits was used primarily to repay borrowings from the FHLB of Pittsburgh, which declined $15.0 million to $120.8 million at June 30, 2016 from $135.8 million at December 31, 2015. Additionally, accrued interest payable declined $10.9 million which represented the payment of previously deferred and accrued interest on the Notes.
Equity
Total shareholders’ equity increased $9.3 million, or 10.8%, to $95.5 million at June 30, 2016 from $86.2 million at December 31, 2015. Net income of $2.8 million, coupled with a $7.0 million increase in accumulated other comprehensive income were the primary factors leading to the capital improvement. The increase in accumulated other comprehensive income was attributed to appreciation in the fair value of securities held in the available-for-sale portfolio. Book value per common share was $5.76 at June 30, 2016 compared to $5.22 at December 31, 2015.
Liquidity
The term liquidity refers to the ability to generate sufficient amounts of cash to meet its cash flow needs. Liquidity is required to fulfill the borrowing needs of FNCB’s credit customers and the withdrawal and maturity requirements of its deposit customers, as well as to meet other financial commitments. FNCB’s liquidity position is impacted by several factors, which include, among others, loan origination volumes, loan and investment maturity structure and cash flows, deposit demand and certificate of deposit maturity structure and retention. FNCB has liquidity and contingent funding policies in place that are designed with controls in place to provide advanced detection of potentially significant funding shortfalls,
establish methods for assessing and monitoring risk levels, and institute prompt responses that may alleviate a potential liquidity crisis. Management monitors FNCB’s liquidity position and fluctuations daily, so that we can adapt accordingly to market influences and balance sheet trends. Management also forecasts liquidity needs, performs periodic stress tests on its liquidity levels and develops strategies to ensure adequate liquidity at all times.
The statements of cash flows present the change in cash and cash equivalents from operating, investing and financing activities. Cash and due from banks and interest-bearing deposits in other banks are FNCB’s most liquid assets. At June 30, 2016, cash and cash equivalents totaled $17.7 million, a decrease of $3.4 million compared to $21.1 million at December 31, 2015. Cash outlays for operating activities used $5.0 million, which resulted primarily from the payment of previously deferred and accrued interest on the Notes. Additionally, net funds used in financing activities were $1.3 million, representing an increase in deposits from customers of $14.3 million and proceeds from FHLB term and overnight borrowings of $25.3 million and $13.8 million, respectively, which were used almost entirely to repay term borrowings from the FHLB of $54.1 million. Investing activities provided $2.9 million in net cash.
Interest Rate
Risk
Interest Rate Sensitivity
Market risk is the risk to earnings and/or financial position resulting from adverse changes in market rates or prices, such as interest rates, foreign exchange rates or equity prices. FNCB’s exposure to market risk is primarily interest rate risk associated with our lending, investing and deposit gathering activities, all of which are other than trading. Changes in interest rates affect earnings by changing net interest income and the level of other interest-sensitive income and operating expenses. In addition, variations in interest rates affect the underlying economic value of our assets, liabilities and off-balance sheet items.
Asset and Liability Management
FNCB manages these objectives through its Asset and Liability Management Committee (“ALCO”) and its Rate and Liquidity and Investment Committees, which consist of certain members of senior management and certain members of the finance department. Members of the committees meet regularly to develop balance sheet strategies affecting the future level of net interest income, liquidity and capital. The major objectives of ALCO are to:
|
|
●
|
manage exposure to changes in the interest rate environment by limiting the changes in net interest margin to an acceptable level within a reasonable range of interest rates;
|
|
|
●
|
ensure adequate liquidity and funding;
|
|
|
●
|
maintain a strong capital base; and
|
|
|
●
|
maximize net interest income opportunities.
|
ALCO monitors FNCB’s exposure to changes in net interest income over both a one-year planning horizon and a longer-term strategic horizon. ALCO uses net interest income simulations and economic value of equity (“EVE”) simulations as the primary tools in measuring and managing FNCB’s position and considers balance sheet forecasts, our liquidity position, the economic environment, anticipated direction of interest rates and FNCB’s earnings sensitivity to changes in these rates in its modeling. In addition, ALCO has established policy tolerance limits for acceptable negative changes in net interest income. Furthermore, as part of its ongoing monitoring, ALCO has been enhanced to require periodic back testing of modeling results, which involves after-the-fact comparisons of projections with FNCB’s actual performance to measure the validity of assumptions used in the modeling techniques.
Earnings at Risk and Economic Value at Risk Simulations
Earnings at Risk
Earnings-at-risk simulation measures the change in net interest income and net income under various interest rate scenarios. Specifically, given the current market rates, ALCO looks at “earnings at risk” to determine anticipated changes in net interest income from a base case scenario with scenarios of +200, +400, and -100 basis points for simulation purposes. The simulation takes into consideration that not all assets and liabilities re-price equally and simultaneously with market rates (i.e., savings rate).
Economic Value at Risk
While earnings-at-risk simulation measures the short-term risk in the balance sheet, economic value (or portfolio equity) at risk measures the long-term risk by finding the net present value of the future cash flows from FNCB’s existing assets and liabilities. ALCO examines this ratio regularly, and given the current rate environment, has utilized rate shocks of +200, +400, and -100 basis points for simulation purposes. Management recognizes that, in some instances, this ratio may contradict the “earnings at risk” ratio.
While ALCO regularly performs a wide variety of simulations under various strategic balance sheet and treasury yield curve scenarios, the following results reflect FNCB’s sensitivity over the subsequent twelve months based on the following assumptions:
|
|
●
|
Asset and liability levels using June 30, 2016 as a starting point;
|
|
|
●
|
Cash flows are based on contractual maturity and amortization schedules with applicable prepayments derived from internal historical data and external sources; and
|
|
|
●
|
Cash flows are reinvested into similar instruments so as to keep interest-earning asset and interest-bearing liability levels constant.
|
The following table illustrates the simulated impact of parallel and instantaneous interest rate shocks of +400 basis points, +200 basis points, and -100 basis points on net interest income and the change in economic value over a one-year time horizon from the June 30, 2016 levels:
|
|
|
Rates +200
|
|
|
Rates +400
|
|
|
Rates -100
|
|
|
|
|
Simulation Results
|
|
|
Policy Limit
|
|
|
Simulation Results
|
|
|
Policy Limit
|
|
|
Simulation Results
|
|
|
Policy Limit
|
|
|
Earnings at risk:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Percent change in net interest income
|
|
|
(3.1%
|
)
|
|
|
(10.0%
|
)
|
|
|
(5.8%
|
)
|
|
|
(20.0%
|
)
|
|
|
(1.8%
|
)
|
|
|
(5.0%
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Economic value at risk:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Percent change in economic value of equity
|
|
|
(5.4%
|
)
|
|
|
(20.0%
|
)
|
|
|
(11.0%
|
)
|
|
|
(35.0%
|
)
|
|
|
(7.3%
|
)
|
|
|
(10.0%
|
)
|
Under the model, FNCB’s net interest income and economic value of equity are expected to decrease 3.1% and 5.4%, respectively, under a +200 basis point interest rate shock. Model results at March 31, 2016 were comparable and indicated net interest income and economic value of equity were expected to decrease 3.6% and 8.6%, respectively, given a +200 basis point rate shock.
This analysis does not represent a forecast for FNCB and should not be relied upon as being indicative of expected operating results. These simulations are based on numerous assumptions: the nature and timing of interest rate levels, prepayments on loans and securities, deposit decay rates, pricing decisions on loans and deposits, reinvestment/replacements of asset and liability cash flows, and other factors. While assumptions reflect current economic and local market conditions, FNCB cannot make any assurances as to the predictive nature of these assumptions, including changes in interest rates, customer preferences, competition and liquidity needs, or what actions ALCO might take in responding to these changes.
As previously mentioned, as part of its ongoing monitoring, ALCO requires periodic back testing of modeling results, which involves after-the-fact comparisons of projections with FNCB’s actual performance to measure the validity of assumptions used in the modeling techniques. As part of its quarterly review, management compared tax-equivalent net interest income recorded for the three months ended June 30, 2016 with tax-equivalent net interest income that was projected for the same three-month period. The variance between actual and projected tax-equivalent net interest income for the six-month period ended June 30, 2016 was $186 thousand, or 2.3%. Although the variance was deemed immaterial, ALCO performs a rate/volume analysis between actual and projected results in order to continue to improve the accuracy of it simulation models.
Off-Balance Sheet Arrangements
In the normal course of operations, FNCB engages in a variety of financial transactions that, in accordance with U.S. GAAP, are not recorded in our consolidated financial statements or are recorded in amounts that differ from the notional amounts. These transactions involve, to varying degrees, elements of credit, interest rate, and liquidity risk. Such transactions are used for general corporate purposes or for customer needs. Corporate purpose transactions would be used to help manage credit, interest rate, and liquidity risk or to optimize capital. Customer transactions are used to manage customers’ requests for funding.
For the three- and six-month periods ended June 30, 2016, FNCB did not engage in any off-balance sheet transactions that would have or would be reasonably likely to have a material effect on its consolidated financial condition.