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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
 
FORM 10-Q 
(Mark One)
    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 
For the quarterly period ended September 30, 2020

OR

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from _______ to _______

Commission file number 1-35015
 
ACNB CORPORATION
(Exact name of Registrant as specified in its charter) 
Pennsylvania   23-2233457
(State or other jurisdiction of   (I.R.S. Employer
incorporation or organization)   Identification No.)
16 Lincoln Square, Gettysburg, Pennsylvania
  17325
(Address of principal executive offices)   (Zip Code)
Registrant’s telephone number, including area code: (717) 334-3161

Securities registered pursuant to Section 12(b) of the Act:
Title of each class   Trading Symbol Name of each exchange on which registered
Common Stock, $2.50 par value per share   ACNB The NASDAQ Stock Market, LLC
 
Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes No
 
Indicate by check mark whether the Registrant has submitted electronically every Interactive Data File required to be submitted and pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the Registrant was required to submit such files).  Yes No
 
Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer”, “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer
  Accelerated filer
Non-accelerated filer
Smaller reporting company
Emerging growth company
 
If an emerging growth company, indicate by check mark if the Registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.

Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes No
 
The number of shares of the Registrant’s Common Stock outstanding on October 30, 2020, was 8,703,313.



PART I - FINANCIAL INFORMATION
 
ACNB CORPORATION
ITEM 1 - FINANCIAL STATEMENTS
CONSOLIDATED STATEMENTS OF CONDITION (UNAUDITED)
 
Dollars in thousands, except per share data September 30,
2020
September 30,
2019
December 31,
2019
ASSETS      
Cash and due from banks $ 21,163  $ 22,999  $ 16,878 
Interest bearing deposits with banks 278,490  94,716  97,478 
Total Cash and Cash Equivalents 299,653  117,715  114,356 
Equity securities with readily determinable fair values 1,880  2,032  2,106 
Debt securities available for sale 313,671  184,678  190,837 
Securities held to maturity, fair value $14,110; $22,518; $19,281
13,606  22,443  19,234 
Loans held for sale 10,043  3,010  2,406 
Loans, net of allowance for loan losses $19,200; $13,924; $13,835
1,681,683  1,274,361  1,258,766 
Premises and equipment, net 33,180  25,411  25,724 
Right of use assets 3,306  3,662  3,502 
Restricted investment in bank stocks 3,022  3,905  3,644 
Investment in bank-owned life insurance 63,049  50,372  50,663 
Investments in low-income housing partnerships 1,411  1,597  1,506 
Goodwill 42,108  19,580  19,580 
Intangible assets, net 7,578  4,580  4,427 
Foreclosed assets held for resale 680  —  364 
Other assets 28,179  22,503  23,138 
Total Assets $ 2,503,049  $ 1,735,849  $ 1,720,253 
LIABILITIES AND STOCKHOLDERS’ EQUITY      
LIABILITIES      
Deposits:      
Non-interest bearing $ 544,332  $ 322,594  $ 314,377 
Interest bearing 1,571,244  1,095,016  1,097,883 
Total Deposits 2,115,576  1,417,610  1,412,260 
Short-term borrowings 52,721  41,509  33,435 
Long-term borrowings 57,113  72,068  66,296 
Lease liabilities 3,292  3,662  3,502 
Other liabilities 17,624  14,926  15,244 
Total Liabilities 2,246,326  1,549,775  1,530,737 
STOCKHOLDERS’ EQUITY      
Preferred stock, $2.50 par value; 20,000,000 shares authorized; no shares outstanding
  —  — 
Common stock, $2.50 par value; 20,000,000 shares authorized; 8,765,913, 7,137,139 and 7,141,959 shares issued; 8,703,313, 7,074,539 and 7,079,359 shares outstanding
21,903  17,843  17,855 
Treasury stock, at cost (62,600 shares)
(728) (728) (728)
Additional paid-in capital 93,895  39,418  39,579 
Retained earnings 143,499  135,351  138,663 
Accumulated other comprehensive loss (1,846) (5,810) (5,853)
Total Stockholders’ Equity 256,723  186,074  189,516 
Total Liabilities and Stockholders’ Equity $ 2,503,049  $ 1,735,849  $ 1,720,253 
 The accompanying notes are an integral part of the consolidated financial statements.
2


ACNB CORPORATION
CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
  Three Months Ended September 30, Nine Months Ended September 30,
Dollars in thousands, except per share data 2020 2019 2020 2019
INTEREST AND DIVIDEND INCOME    
Loans, including fees $ 19,861  $ 16,057  $ 59,076  $ 47,763 
Securities:    
Taxable 1,198  1,079  3,676  3,078 
Tax-exempt 129  31  341  113 
Dividends 60  78  205  253 
Other 76  452  520  830 
Total Interest Income 21,324  17,697  63,818  52,037 
INTEREST EXPENSE    
Deposits 2,498  2,158  8,166  5,814 
Short-term borrowings 15  21  44  73 
Long-term borrowings 445  473  1,442  1,470 
Total Interest Expense 2,958  2,652  9,652  7,357 
Net Interest Income 18,366  15,045  54,166  44,680 
PROVISION FOR LOAN LOSSES 1,550  150  8,100  425 
Net Interest Income after Provision for Loan Losses 16,816  14,895  46,066  44,255 
OTHER INCOME    
Commissions from insurance sales 1,688  1,763  4,745  4,997 
Service charges on deposit accounts 827  1,017  2,460  2,901 
Income from fiduciary, investment management and brokerage activities 659  651  1,982  1,841 
Earnings on investment in bank-owned life insurance 365  296  1,090  869 
Net (losses) gains on equity securities (82) 31  (483) 193 
Service charges on ATM and debit card transactions 809  652  2,161  1,825 
Other 746  531  2,116  1,075 
Total Other Income 5,012  4,941  14,071  13,701 
OTHER EXPENSES    
Salaries and employee benefits 8,625  7,340  25,731  21,494 
Net occupancy 857  739  2,709  2,336 
Equipment 1,284  1,165  4,039  3,487 
Other tax 321  269  967  805 
Professional services 265  263  921  746 
Supplies and postage 145  163  554  547 
Marketing and corporate relations 101  132  442  442 
FDIC and regulatory 211  53  397  382 
Merger related expenses   516  5,965  516 
Intangible assets amortization 313  154  951  467 
Foreclosed real estate (income) expenses (89) 46  (182) (10)
Other operating 1,277  1,134  3,728  3,708 
Total Other Expenses 13,310  11,974  46,222  34,920 
Income before Income Taxes 8,518  7,862  13,915  23,036 
PROVISION FOR INCOME TAXES 1,747  1,552  2,570  4,396 
Net Income $ 6,771  $ 6,310  $ 11,345  $ 18,640 
PER SHARE DATA    
Basic earnings $ 0.79  $ 0.89  $ 1.32  $ 2.64 
Cash dividends declared $ 0.25  $ 0.25  $ 0.75  $ 0.73 
The accompanying notes are an integral part of the consolidated financial statements.
3


ACNB CORPORATION
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (UNAUDITED)
 
  Three Months Ended September 30, Nine Months Ended September 30,
Dollars in thousands 2020 2019 2020 2019
NET INCOME $ 6,771  $ 6,310  $ 11,345  $ 18,640 
OTHER COMPREHENSIVE INCOME    
SECURITIES    
Unrealized (losses) gains arising during the period, net of income taxes of $(102), $93, $1,025 and $850, respectively
(358) 317  3,613  2,914 
Reclassification adjustment for net gains included in net income, net of income taxes of $0, $0, $0 and $0, respectively (A) (C)
       
PENSION    
Amortization of pension net loss, transition liability, and prior service cost, net of income taxes of $37, $48, $113 and $144 respectively (B) (C)
132  165  394  493 
TOTAL OTHER COMPREHENSIVE (LOSS) INCOME (226) 482  4,007  3,407 
TOTAL COMPREHENSIVE INCOME $ 6,545  $ 6,792  $ 15,352  $ 22,047 
 
The accompanying notes are an integral part of the consolidated financial statements.

(A) Gross amounts are included in net gains on sales or calls of securities on the Consolidated Statements of Income in total other income.

(B) Gross amounts are included in the computation of net periodic benefit cost and are included in salaries and employee benefits on the Consolidated Statements of Income in total other expenses.

(C) Income tax amounts are included in the provision for income taxes on the Consolidated Statements of Income.
4


ACNB CORPORATION
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY (UNAUDITED)
Nine Months Ended September 30, 2020 and 2019
Dollars in thousands Common Stock Treasury Stock Additional Paid-in Capital Retained
Earnings
Accumulated
Other
Comprehensive
Loss
Total
Stockholders’
Equity
BALANCE – JANUARY 1, 2020
$ 17,855  $ (728) $ 39,579  $ 138,663  $ (5,853) $ 189,516 
Net loss       (1,223)   (1,223)
Other comprehensive income, net of taxes         3,333  3,333 
Common stock shares issued (1,590,547 shares)
3,964    53,309      57,273 
Restricted stock compensation expense     262      262 
Cash dividends declared       (2,167)   (2,167)
BALANCE – MARCH 31, 2020 21,819  (728) 93,150  135,273  (2,520) 246,994 
Net income       5,797    5,797 
Other comprehensive income, net of taxes         900  900 
Common stock shares issued (6,461 shares)
16    154      170 
Restricted stock grants (19,472 shares)
49    282      331 
Restricted stock compensation expense     166      166 
Cash dividends declared       (2,168)   (2,168)
BALANCE – JUNE 30, 2020 21,884  (728) 93,752  138,902  (1,620) 252,190 
Net income       6,771    6,771 
Other comprehensive loss, net of taxes         (226) (226)
Common stock shares issued (7,474 shares)
19    143      162 
Cash dividends declared     (2,174)   (2,174)
BALANCE- SEPTEMBER 30, 2020 $ 21,903  $ (728) $ 93,895  $ 143,499  $ (1,846) $ 256,723 
Dollars in thousands Common Stock Treasury Stock Additional Paid-in Capital Retained
Earnings
Accumulated
Other
Comprehensive
Loss
Total
Stockholders’
Equity
BALANCE – JANUARY 1, 2019 $ 17,772  $ (728) $ 38,448  $ 121,862  $ (9,217) $ 168,137 
Net income —  —  —  5,864  —  5,864 
Other comprehensive income, net of taxes —  —  —  —  1,274  1,274 
Common stock shares issued (3,662 shares)
—  —  —  13 
Restricted stock compensation expense —  —  126  —  —  126 
Cash dividends declared —  —  —  (1,621) —  (1,621)
BALANCE – MARCH 31, 2019 17,781  (728) 38,578  126,105  (7,943) 173,793 
Net income       6,466    6,466 
Other comprehensive income, net of taxes         1,651  1,651 
Common stock shares issued (4,162 shares)
11    138      149 
Restricted stock grants (16,015 shares)
39  —  352  —  —  391 
Restricted stock compensation expense —  —  196  —  —  196 
Cash dividends declared —  —  —  (1,762)   (1,762)
BALANCE – JUNE 30, 2019 17,831  (728) 39,264  130,809  (6,292) 180,884 
Net income —  —  —  6,310  —  6,310 
Other comprehensive loss, net of taxes —  —  —  —  482  482 
Common stock shares issued (4,680 shares)
12  —  154  —  —  166 
Cash dividends declared —  —  —  (1,768) —  (1,768)
BALANCE – SEPTEMBER 30, 2019 $ 17,843  $ (728) $ 39,418  $ 135,351  $ (5,810) $ 186,074 
The accompanying notes are an integral part of the consolidated financial statements.
5


ACNB CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
  Nine Months Ended September 30,
Dollars in thousands 2020 2019
CASH FLOWS FROM OPERATING ACTIVITIES    
Net income $ 11,345  $ 18,640 
Adjustments to reconcile net income to net cash provided by operating activities:    
Gain on sales of loans originated for sale (1,279) (417)
Gain on sales of foreclosed assets held for resale, including writedowns (80) (87)
Earnings on investment in bank-owned life insurance (1,090) (869)
Loss (gain) on equity securities 483  (193)
Restricted stock compensation expense 428  322 
Depreciation and amortization 2,745  2,037 
Provision for loan losses 8,100  425 
Net amortization of investment securities premiums 597  251 
(Increase) decrease in accrued interest receivable (1,991) 33 
(Decrease) increase in accrued interest payable (896) 1,084 
Mortgage loans originated for sale (92,681) (14,929)
Proceeds from sales of loans originated for sale 90,373  12,744 
Decrease in other assets 2,763  1,730 
Increase in deferred tax expense (1,635) (2,172)
Increase in other liabilities 936  1,148 
Net Cash Provided by Operating Activities 18,118  19,747 
CASH FLOWS FROM INVESTING ACTIVITIES    
Proceeds from maturities of investment securities held to maturity 5,628  4,823 
Proceeds from maturities of investment securities available for sale 39,056  12,644 
Purchase of investment securities available for sale (135,939) (32,079)
Purchase of equity securities   (500)
Redemption of restricted investment in bank stocks 1,763  431 
Net (increase) decrease in loans (101,840) 13,667 
Purchase of bank-owned life insurance (400) (1,500)
Bank acquisition, net of cash acquired 35,262  — 
Insurance book- acquisition (542) (640)
Capital expenditures (622) (605)
Proceeds from sales of premises and equipment 392  33 
Proceeds from sales of foreclosed real estate 363  290 
Net Cash Used in Investing Activities (156,879) (3,436)
CASH FLOWS FROM FINANCING ACTIVITIES    
Net increase in demand deposits 126,463  20,200 
Net increase in time certificates of deposits and interest bearing deposits 202,795  49,318 
Net increase in short-term borrowings 19,286  6,861 
Proceeds from long-term borrowings   7,000 
Repayments on long-term borrowings (18,633) (18,448)
Dividends paid (6,509) (5,151)
Common stock issued 656  719 
Net Cash Provided by Financing Activities 324,058  60,499 
Net Increase in Cash and Cash Equivalents 185,297  76,810 
CASH AND CASH EQUIVALENTS — BEGINNING 114,356  40,905 
CASH AND CASH EQUIVALENTS — ENDING $ 299,653  $ 117,715 
Supplemental disclosures of cash flow information
Interest paid $ 10,548  $ 6,273 
Income taxes paid $ 4,150  $ 3,400 
Loans transferred to foreclosed assets held for resale and other foreclosed transactions $ 135  $ 48 
Transactions related to acquisition
Increase in assets and liabilities:
Securities $ (22,167) $ — 
Loans (333,362) — 
Premises and equipment (10,959) — 
Investment in bank-owned life insurance (10,896) — 
Restricted investments in bank stocks (1,141) — 
Foreclosed assets held for resale (464) — 
Goodwill (22,528) — 
Core deposit intangible assets (3,560) — 
Other assets (3,086) — 
Non-interest bearing deposits 103,492  — 
Interest bearing deposits 270,566  — 
Trust preferred debentures 6,000  — 
Long term borrowings 3,450  — 
Other liabilities 2,637  — 
Common shares issued 57,280  — 
 The accompanying notes are an integral part of the consolidated financial statements.
6


ACNB CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1.     Basis of Presentation and Nature of Operations
 
ACNB Corporation (the Corporation or ACNB), headquartered in Gettysburg, Pennsylvania, provides banking, insurance, and financial services to businesses and consumers through its wholly-owned subsidiaries, ACNB Bank (Bank) and Russell Insurance Group, Inc. (RIG). The Bank engages in full-service commercial and consumer banking and wealth management services, including trust and retail brokerage, through its thirty-three community banking offices, including twenty-one community banking office locations in Adams, Cumberland, Franklin and York Counties, Pennsylvania. There are also loan production offices situated in Lancaster and York, Pennsylvania, and Hunt Valley, Maryland.

RIG is a full-service insurance agency based in Westminster, Maryland, with additional locations in Germantown and Jarrettsville, Maryland. The agency offers a broad range of property and casualty and group life and health insurance to both individual and commercial clients.

On July 1, 2017, ACNB completed its acquisition of New Windsor Bancorp, Inc. (New Windsor) of Taneytown, Maryland. At the effective time of the acquisition, New Windsor merged with and into a wholly-owned subsidiary of ACNB, immediately followed by the merger of New Windsor State Bank (NWSB) with and into ACNB Bank. ACNB Bank now operates in the Maryland market as “NWSB Bank, A Division of ACNB Bank” and serves its marketplace with banking and wealth management services via a network of seven community banking offices located in Carroll County, Maryland.

On January 11, 2020, ACNB completed its acquisition of Frederick County Bancorp, Inc. (FCBI) and its wholly-owned subsidiary, Frederick County Bank, headquartered in Frederick, Maryland. FCBI was merged with and into a wholly-owned subsidiary of ACNB Corporation immediately followed by the merger of Frederick County Bank with and into ACNB Bank. ACNB Bank now operates in the Frederick County, Maryland, market as “FCB Bank, A Division of ACNB Bank” and serves its marketplace with banking and wealth management services via a network of five community banking offices located in Frederick County, Maryland. Further discussion of the FCBI acquisition can be found in Note 2 of these Notes to Consolidated Financial Statements.

The Corporation’s primary sources of revenue are interest income on loans and investment securities and fee income on its products and services. Expenses consist of interest expense on deposits and borrowed funds, provisions for loan losses, and other operating expenses.
 
The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (US GAAP) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. In the opinion of management, the accompanying unaudited consolidated financial statements contain all adjustments necessary to present fairly ACNB Corporation’s financial position and the results of operations, comprehensive (loss) income, changes in stockholders’ equity, and cash flows. All such adjustments are of a normal recurring nature.
 
The accounting policies followed by the Corporation are set forth in Note A to the Corporation’s consolidated financial statements in the 2019 ACNB Corporation Annual Report on Form 10-K, filed with the SEC on March 6, 2020. It is suggested that the consolidated financial statements contained herein be read in conjunction with the consolidated financial statements and notes included in the Corporation’s Annual Report on Form 10-K. The results of operations for the three and nine month periods ended September 30, 2020, are not necessarily indicative of the results to be expected for the full year.

The Corporation has evaluated events and transactions occurring subsequent to the balance sheet date of September 30, 2020, for items that should potentially be recognized or disclosed in the consolidated financial statements. The evaluation was conducted through the date these consolidated financial statements were issued.

2.    Acquisition of Frederick County Bancorp, Inc.

On January 11, 2020, ACNB completed its previously announced acquisition of Frederick County Bancorp, Inc. (FCBI) of Frederick, Maryland. FCBI was a locally owned and managed institution with five locations in Frederick County, Maryland. The acquisition positioned ACNB Corporation for continual and profitable growth in a desirable
7


market that is adjacent to the Corporation’s current footprint in southcentral Pennsylvania and central Maryland. ACNB transacted the merger to complement the Corporation’s existing operations, while consistent with the Corporation’s strategic plan of enhancing long-term shareholder value. The fair value of total assets acquired as a result of the merger totaled $443.4 million, loans totaled $329.3 million and deposits totaled $374.1 million.

Goodwill recorded in the merger was $22.5 million. In accordance with the terms of the Reorganization Agreement, each share of FCBI common stock was converted into the right to receive 0.9900 share of ACNB common stock. As a result of the merger, ACNB issued 1,590,547 shares of its common stock and cash in exchange for fractional shares based upon $36.43, the determined market price of ACNB common stock in accordance with the Reorganization Agreement. The results of the combined entity’s operations are included in the Corporation’s Consolidated Financial Statements from the date of acquisition.

The acquisition of FCBI is being accounted for as a business combination using the acquisition method of accounting and, accordingly, assets acquired, liabilities assumed, and consideration paid were recorded at estimated fair values on the acquisition date. Fair values are preliminary and subject to refinement for up to one year after the closing date of the acquisition.

The following table summarizes the consideration paid for FCBI and the fair value of assets acquired and liabilities assumed as of the acquisition date:

Purchase Price Consideration in Common Stock
FCBI shares outstanding 1,601,764 
Shares paid in cash for fractional shares 150.88 
Cash consideration (per share) $ 36.43 
Cash portion of purchase price (cash payout of stock options and cash in lieu of fractional shares) $ 100,798 
FCBI shares outstanding 1,601,764 
Shares paid stock consideration 1,601,613 
Exchange ratio 0.9900 
Total ACNB shares issued 1,585,597 
ACNB’s share price for purposes of calculation $ 36.34 
Equity portion of purchase price $ 57,620,595 
Cost of shares owned by buyer $ 187,200 
Total consideration paid $ 57,908,593 
8


Allocation of Purchase Price In thousands
Total Purchase Price $ 57,909 
Fair Value of Assets Acquired
Cash and cash equivalents 35,262 
Investment securities 22,167 
Loans held for sale 4,050 
Loans 329,312 
Restricted stock 1,141 
Premises and equipment 10,959 
Core deposit intangible asset 3,560 
Other assets 14,446 
Total assets 420,897 
Fair Value of Liabilities Assumed
Non-interest bearing deposits 103,492 
Interest bearing deposits 270,566 
Subordinated debt 6,000 
Long term borrowings 3,450 
Other liabilities 2,008 
Total liabilities 385,516 
Net Assets Acquired 35,381 
Goodwill Recorded in Acquisition $ 22,528 

Pursuant to the accounting requirements, the Corporation assigned a fair value to the assets acquired and liabilities assumed of FCBI. ASC 820 defines fair value as “the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date.”

The assets acquired and liabilities assumed in the acquisition of FCBI were recorded at their estimated fair values based on management’s best estimates using information available at the date of the acquisition and are subject to adjustment for up to one year after the closing date of the acquisition. While the fair values are not expected to be materially different from the estimates, any material adjustments to the estimates will be reflected, retroactively, as of the date of the acquisition. The items most susceptible to adjustment are the fair value adjustments on loans, core deposit intangible and the deferred income tax assets resulting from the acquisition.

Fair values of the major categories of assets acquired and liabilities assumed were determined as follows:

Investment securities available-for-sale

The estimated fair values of the investment securities available for sale, primarily comprised of U.S. Government agency mortgage-backed securities, U.S. government agencies and municipal bonds, were determined using Level 2 inputs in the fair value hierarchy. The fair values were determined using independent pricing services. The Corporation’s independent pricing service utilized matrix pricing, which is a mathematical technique used widely in the industry to value debt securities without relying exclusively on quoted market prices for the specific security but rather relying on the security’s relationship to other benchmark quoted prices. Management reviewed the data and assumptions used in pricing the securities. A fair value premium of $163,000 was recorded and will be amortized over the estimated life of the investments using the interest rate method.

Loans

Acquired loans (impaired and non-impaired) are initially recorded at their acquisition-date fair values using Level 3 inputs. Fair values are based on a discounted cash flow methodology that involves assumptions and judgments as to
9


credit risk, expected life time losses, environmental factors, collateral values, discount rates, expected payments and expected prepayments. Specifically, the Corporation has prepared three separate loan fair value adjustments that it believed a market participant might employ in estimating the entire fair value adjustment necessary under ASC 820-10 for the acquired loan portfolio. The three-separate fair valuation methodology employed are: 1) an interest rate loan fair value adjustment, 2) a general credit fair value adjustment, and 3) a specific credit fair value adjustment for purchased credit impaired loans subject to ASC 310-30 procedures. The acquired loans were recorded at fair value at the acquisition date without carryover of FCBI’s previously established allowance for loan losses. The fair value of the financial assets acquired included loans receivable with a gross amortized cost basis of $339,577,000. The table below illustrates the fair value adjustments made to the amortized cost basis in order to present a fair value of the loans acquired. The credit adjustment on purchased credit impaired loans is derived in accordance with ASC 310-30 and represents the portion of the loan balances that has been deemed uncollectible based on the Corporation’s expectations of future cash flows for each respective loan.
In thousands    
Gross amortized cost basis at January 11, 2020 $ 339,577 
Interest rate fair value adjustment on pools of homogeneous loans (2,632)
Credit fair value adjustment on pools of homogeneous loans (5,931)
Credit fair value adjustment on purchased credit impaired loans (1,702)
Fair value of acquired loans at January 11, 2020 $ 329,312 

For loans acquired without evidence of credit quality deterioration, ACNB prepared the interest rate loan fair value and credit fair value adjustments. Loans were grouped into homogeneous pools by characteristics such as loan type, term, collateral and rate. Market rates for similar loans were obtained from various internal and external data sources and reviewed by management for reasonableness. The average of these rates was used as the fair value interest rate a market participant would utilize. A present value approach was utilized to calculate the interest rate fair value discount of $2.6 million.

Additionally for loans acquired without credit deterioration, a credit fair value adjustment was calculated using a two-part credit fair value analysis: 1) expected lifetime credit migration losses; and 2) estimated fair value adjustment for certain qualitative factors. The expected lifetime losses were calculated using historical losses observed at the Bank, FCBI and peer banks. ACNB also estimated an environmental factor to apply to each loan type. The environmental factor represents potential discount which may arise due to general credit and economic factors. A credit fair value discount of $5.3 million was determined. Both the interest rate and credit fair value adjustments relate to loans acquired with evidence of credit quality deterioration will be substantially recognized as interest income on a level yield amortization method over the expected life of the loans.

The following table presents the acquired purchased credit impaired loans receivable at the Acquisition Date:
In thousands
Contractual principal and interest at acquisition $ 4,289 
Nonaccretable difference (2,361)
Expected cash flows at acquisition 1,928 
Accretable yield (354)
Fair value of purchased impaired loans $ 1,574 

The Corporation acquired five branches of FCBI. The fair value of FCBI’s premises, including land, buildings, and improvements, was determined based upon independent third-party appraisals performed by licensed appraisers in the market in which the premises are located. The Corporation prepared an internal analysis to compare the lease contract obligations to comparable market rental rates. The Corporation believed that the leased contract rates were in a reasonable range of market rental rates and concluded that no fair market value adjustment related to leasehold interest was necessary.

Core Deposit Intangible

The fair value of the core deposit intangible was determined based on a discounted cash flow analysis using a discount rate commensurate with market participants. To calculate cash flows, deposit account servicing costs (net of deposit fee income) and interest expense on deposits were compared to the cost of alternative funding sources available
10


through national brokered CD offering rates. The projected cash flows were developed using projected deposit attrition rates. The core deposit intangible will be amortized over ten years using the sum-of-years digits method.

Time Deposits

The fair value adjustment for time deposits represents a discount from the value of the contractual repayments of fixed-maturity deposits using prevailing market interest rates for similar-term time deposits. The time deposit premium of approximately $255,000 is being amortized into income on a level yield amortization method over the contractual life of the deposits.

Long-term Borrowings

The Corporation assumed a trust preferred subordinated debt in connection with the merger. The fair value of the trust preferred subordinated debt was determined using a discounted cash flow method using a market participant discount rate for similar instruments. The trust preferred capital note was valued at discount of $854,000, which is being amortized into income on a level yield amortization method based upon the assumed market rate, and the term of the trust preferred subordinated debt instrument.

The following table presents certain pro forma information as if FCBI had been acquired on September 30, 2019. These results combine the historical results of the Corporation in the Corporation’s Consolidated Statements of Income and, while certain adjustments were made for the estimated impact of certain fair value adjustments and other acquisition-related activity, they are not indicative of what would have occurred had the acquisition taken place on September 30, 2019. In particular, no adjustments have been made to eliminate the amount of FCBI’s provision for loan losses that would not have been necessary had the acquired loans been recorded at fair value as of September 30, 2019. The Corporation expects to achieve further operating cost savings and other business synergies as a result of the acquisition which are not reflected in the pro forma amounts below:
In thousands For the Nine Months
Ended September 30, 2019
Total revenues (net interest income plus non-interest income) $ 72,281 
Net Income 22,138 

Acquisition-related expenses associated with the acquisition of FCBI were $6.0 million for the nine months ended September 30, 2020 and $0 for the three months ended September 30, 2020. Such costs include legal and accounting fees, lease and contract termination expenses, system conversion, operations integration, and employee severances, which have been expensed as incurred.

3.    Earnings Per Share and Restricted Stock
 
The Corporation has a simple capital structure. Basic earnings per share of common stock is computed based on 8,616,588 and 7,056,854 weighted average shares of common stock outstanding for the nine months ended September 30, 2020 and 2019, respectively, and 8,694,620 and 7,069,096 for the three months ended September 30, 2020 and 2019, respectively. All outstanding unvested restricted stock awards that contain rights to nonforfeitable dividends are considered participating securities for this calculation. The Corporation has no instruments that would create dilutive earnings per share.

The ACNB Corporation 2009 Restricted Stock Plan expired by its own terms after 10 years on February 24, 2019. The purpose of this plan was to provide employees and directors of the Bank who have responsibility for its growth with additional incentives by allowing them to acquire ownership in the Corporation and, thereby, encouraging them to contribute to the organization’s success. As of September 30, 2020, 25,945 shares were issued under this plan and all shares were fully vested. No further shares may be issued under this restricted stock plan. The Corporation’s Registration Statement under the Securities Act of 1933 on Form S-8 for the ACNB Corporation 2009 Restricted Stock Plan was filed with the Securities and Exchange Commission on January 4, 2013. Post-Effective Amendment No. 1 to this Form S-8 was filed with the Commission on March 8, 2019, effectively transferring the 174,055 authorized, but not issued, shares under the ACNB Corporation 2009 Restricted Stock Plan to the ACNB Corporation 2018 Omnibus Stock Incentive Plan.

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On May 1, 2018, shareholders approved and ratified the ACNB Corporation 2018 Omnibus Stock Incentive Plan, effective as of March 20, 2018, in which awards shall not exceed, in the aggregate, 400,000 shares of common stock, plus any shares that are authorized, but not issued, under the ACNB Corporation 2009 Restricted Stock Plan. As of September 30, 2020, 35,587 shares were issued under this plan, of which 17,124 were fully vested and the remaining 18,463 will vest over the next two years. The Corporation’s Registration Statement under the Securities Act of 1933 on Form S-8 for the ACNB Corporation 2018 Omnibus Stock Incentive Plan was filed with the Securities and Exchange Commission on March 8, 2019. In addition, on March 8, 2019, the Corporation filed Post-Effective Amendment No. 1 to the Registration Statement on Form S-8 for the ACNB Corporation 2009 Restricted Stock Plan to add the ACNB Corporation 2018 Omnibus Stock Incentive Plan to the registration statement.

Plan expense is recognized over the vesting period of the stock issued under both plans. $143,000 and $140,000 of compensation expenses related to the grants were recognized during the three months ended September 30, 2020 and 2019, respectively. $374,000 and $355,000 of compensation expenses related to the grants were recognized during the nine months ended September 30, 2020 and 2019, respectively.

4.    Retirement Benefits
 
The components of net periodic benefit expense related to the non-contributory, defined benefit pension plan for the three and nine month periods ended September 30 were as follows:
  Three Months Ended September 30,   Nine Months Ended September 30
In thousands 2020 2019 2020 2019
Service cost $ 188  $ 174  $ 564  $ 522 
Interest cost 270  303  810  909 
Expected return on plan assets (687) (637) (2,061) (1,911)
Amortization of net loss 169  212  507  637 
Net Periodic Benefit (Income) Expense $ (60) $ 52  $ (180) $ 157 
 
The Corporation previously disclosed in its consolidated financial statements for the year ended December 31, 2019, that it had not yet determined the amount the Bank planned on contributing to the defined benefit plan in 2020. As of September 30, 2020, this contribution amount had still not been determined. Effective April 1, 2012, no inactive or former participant in the plan is eligible to again participate in the plan, and no employee hired after March 31, 2012, is eligible to participate in the plan. As of the last annual census, ACNB Bank had a combined 348 active, vested, terminated and retired persons in the plan.
 
5.    Guarantees
 
The Corporation does not issue any guarantees that would require liability recognition or disclosure, other than its standby letters of credit. Standby letters of credit are written conditional commitments issued by the Corporation to guarantee the performance of a customer to a third party. Generally, all letters of credit, when issued, have expiration dates within one year. The credit risk involved in issuing letters of credit is essentially the same as those that are involved in extending loan facilities to customers. The Corporation generally holds collateral and/or personal guarantees supporting these commitments. The Corporation had $9,680,000 in standby letters of credit as of September 30, 2020. Management believes that the proceeds obtained through a liquidation of collateral and the enforcement of guarantees would be sufficient to cover the potential amount of future payments required under the corresponding guarantees. The current amount of the liability, as of September 30, 2020, for guarantees under standby letters of credit issued is not material.

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6.     Accumulated Other Comprehensive Loss
 
The components of accumulated other comprehensive loss, net of taxes, are as follows:
 
In thousands Unrealized
Gains on
Securities
Pension
Liability
Accumulated Other
Comprehensive Loss
BALANCE — SEPTEMBER 30, 2020 $ 4,874  $ (6,720) $ (1,846)
BALANCE DECEMBER 31, 2019
$ 1,261  $ (7,114) $ (5,853)
BALANCE — SEPTEMBER 30, 2019 $ 1,263  $ (7,073) $ (5,810)

7.    Segment Reporting
 
The Corporation has two reporting segments, the Bank and RIG. RIG is managed separately from the banking segment, which includes the Bank and related financial services that the Corporation offers through its banking subsidiary. RIG offers a broad range of property and casualty, life, and health insurance to both commercial and individual clients.

Segment information for the nine month periods ended September 30, 2020 and 2019, is as follows:
In thousands Banking Insurance Total
2020      
Net interest income and other income from external customers $ 63,696  $ 4,541  $ 68,237 
Income before income taxes 12,993  922  13,915 
Total assets 2,490,031  13,018  2,503,049 
Capital expenditures 595  27  622 
2019      
Net interest income and other income from external customers $ 53,849  $ 4,532  $ 58,381 
Income before income taxes 21,705  1,331  23,036 
Total assets 1,723,292  12,557  1,735,849 
Capital expenditures 598  605 

Segment information for the three month periods ended September 30, 2020 and 2019, is as follows:
In thousands Banking Insurance Total
2020      
Net interest income and other income from external customers $ 21,879  $ 1,499  $ 23,378 
Income before income taxes 8,204  314  8,518 
Total assets 2,490,031  13,018  2,503,049 
Capital expenditures 17  19  36 
2019      
Net interest income and other income from external customers $ 18,687  $ 1,299  $ 19,986 
Income before income taxes 7,390  472  7,862 
Total assets 1,723,292  12,557  1,735,849 
Capital expenditures 323  330 

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8.    Securities
 
Debt securities that management has the positive intent and ability to hold to maturity are classified as “held to maturity” and recorded at amortized cost. Debt securities not classified as held to maturity or trading are classified as “available for sale” and recorded at fair value, with unrealized gains and losses excluded from earnings and reported, net of tax, in other comprehensive income (loss). Equity securities with readily determinable fair values are recorded at fair value with changes in fair value recognized in net income.
 
Purchase premiums and discounts are recognized in interest income using the interest method over the terms of the securities. Declines in the fair value of held to maturity and available for sale securities below their cost that are deemed to be other than temporary are reflected in earnings as realized losses. In estimating other-than-temporary impairment losses on debt securities, management considers (1) whether management intends to sell the security, or (2) if it is more likely than not that management will be required to sell the security before recovery, or (3) if management does not expect to recover the entire amortized cost basis. In assessing potential other-than-temporary impairment for equity securities, consideration is given to management’s intention and ability to hold the securities until recovery of unrealized losses. Gains and losses on the sale of securities are recorded on the trade date and are determined using the specific identification method.

Amortized cost and fair value of securities at September 30, 2020, and December 31, 2019, were as follows:
 
In thousands Amortized
Cost
Gross
Unrealized
Gains
Gross
Unrealized
Losses
Fair
Value
SECURITIES AVAILABLE FOR SALE        
SEPTEMBER 30, 2020        
U.S. Government and agencies $ 171,191  $ 2,463  $ 67  $ 173,587 
Mortgage-backed securities, residential 98,233  3,643  21  101,855 
State and municipal 31,704  324  70  31,958 
Corporate bonds 6,276  12  17  6,271 
  $ 307,404  $ 6,442  $ 175  $ 313,671 
DECEMBER 31, 2019        
U.S. Government and agencies $ 113,569  $ 849  $ 169  $ 114,249 
Mortgage-backed securities, residential 64,699  980  87  65,592 
State and municipal 10,940  70  14  10,996 
  $ 189,208  $ 1,899  $ 270  $ 190,837 
SECURITIES HELD TO MATURITY        
SEPTEMBER 30, 2020        
U.S. Government and agencies $ 2,000  $ 5  $   $ 2,005 
Mortgage-backed securities, residential 11,606  499    12,105 
$ 13,606  $ 504  $   $ 14,110 
DECEMBER 31, 2019        
U.S. Government and agencies $ 4,000  $ $ —  $ 4,008 
Mortgage-backed securities, residential 15,234  76  37  15,273 
$ 19,234  $ 84  $ 37  $ 19,281 
 
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The Corporation adopted ASU 2016-01, Financial Instruments—Overall (Topic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities effective January 1, 2018. The required fair value disclosures are as follows:
In thousands Fair Value at January 1, 2020 Unrealized
Gains
Unrealized
Losses
Fair Value at September 30, 2020
SEPTEMBER 30, 2020
CRA Mutual Fund $ 1,045  $ 25  $   $ 1,070 
Stock in other banks 1,318    508  810 
$ 2,363  $ 25  $ 508  $ 1,880 
In thousands Fair Value at January 1, 2019 Unrealized
Gains
Unrealized
Losses
Fair Value at September 30, 2019
SEPTEMBER 30, 2019
CRA Mutual Fund $ 1,012  $ 38  $ —  $ 1,050 
Stock in other banks 827  155  —  982 
$ 1,839  $ 193  $ —  $ 2,032 
In thousands Fair Value at January 1, 2019 Unrealized
Gains
Unrealized
Losses
Fair Value at December 31, 2019
DECEMBER 31, 2019
CRA Mutual Fund $ 1,012  $ 33  $ —  $ 1,045 
Stock in other banks 827  234  —  1,061 
$ 1,839  $ 267  $ —  $ 2,106 

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The following table shows the Corporation’s investments’ gross unrealized losses and fair value, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, at September 30, 2020, and December 31, 2019:
 
  Less than 12 Months 12 Months or More Total
In thousands Fair
Value
Unrealized
Losses
Fair
Value
Unrealized
Losses
Fair
Value
Unrealized
Losses
SECURITIES AVAILABLE FOR SALE            
SEPTEMBER 30, 2020            
U.S. Government and agencies $ 47,335  $ 67  $   $   $ 47,335  $ 67 
Mortgage-backed securities, residential 9,312  21      9,312  21 
State and municipal 10,569  70      10,569  70 
Corporate bond 3,000  17      3,000  17 
$ 70,216  $ 175  $   $   $ 70,216  $ 175 
DECEMBER 31, 2019            
U.S. Government and agencies $ —  $ —  $ 47,425  $ 169  $ 47,425  $ 169 
Mortgage-backed securities, residential 16,208  82  1,424  17,632  87 
State and municipal 3,233  13  502  3,735  14 
  $ 19,441  $ 95  $ 49,351  $ 175  $ 68,792  $ 270 
SECURITIES HELD TO MATURITY
SEPTEMBER 30, 2020
U.S. Government and agencies $   $   $   $   $   $  
Mortgage-backed securities, residential            
$   $   $   $   $   $  
DECEMBER 31, 2019
Mortgage-backed securities, residential $ 6,587  $ 24  $ 3,161  $ 13  $ 9,748  $ 37 
$ 6,587  $ 24  $ 3,161  $ 13  $ 9,748  $ 37 

All mortgage-backed security investments are government sponsored enterprise (GSE) pass-through instruments issued by the Federal National Mortgage Association (FNMA), Government National Mortgage Association (GNMA) or Federal Home Loan Mortgage Corporation (FHLMC), which guarantee the timely payment of principal on these investments.

At September 30, 2020, ten available for sale U.S. Government and agency securities had unrealized losses that individually did not exceed 1% of amortized cost. None of these securities have been in a continuous loss position for 12 months or more. These unrealized losses relate principally to changes in interest rates subsequent to the acquisition of the specific securities.

At September 30, 2020, ten available for sale residential mortgage-backed securities had unrealized losses that individually did not exceed 3% of amortized cost. None of these securities have been in a continuous loss position for 12 months or more. These unrealized losses relate principally to changes in interest rates subsequent to the acquisition of the specific securities.

At September 30, 2020, sixteen available for sale state and municipal securities had unrealized losses that individually did not exceed 3% of amortized cost. None of these securities have been in a continuous loss position for 12 months or more. These unrealized losses relate principally to changes in interest rates subsequent to the acquisition of the specific
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securities.

At September 30, 2020, two corporate bond had an unrealized loss that did not exceed 1% of amortized cost. This security has not been in a continuous loss position for 12 months or more. This unrealized loss relates principally to changes in interest rates subsequent to the acquisition of the specific security.

In analyzing the issuer’s financial condition, management considers industry analysts’ reports, financial performance, and projected target prices of investment analysts within a one-year time frame. Based on the above information, management has determined that none of these investments are other-than-temporarily impaired.
 
The fair values of securities available for sale (carried at fair value) and held to maturity (carried at amortized cost) are determined by obtaining quoted market prices on nationally recognized securities exchanges (Level 1), or matrix pricing (Level 2) which is a mathematical technique used widely in the industry to value debt securities without relying exclusively on quoted market prices for the specific securities but rather by relying on the security’s relationship to other benchmark quoted prices. The Corporation uses independent service providers to provide matrix pricing.
 
Management routinely sells securities from its available for sale portfolio in an effort to manage and allocate the portfolio. At September 30, 2020, management had not identified any securities with an unrealized loss that it intends to sell or will be required to sell. In estimating other-than-temporary impairment losses on debt securities, management considers (1) whether management intends to sell the security, or (2) if it is more likely than not that management will be required to sell the security before recovery, or (3) if management does not expect to recover the entire amortized cost basis. In assessing potential other-than-temporary impairment for equity securities, consideration is given to management’s intention and ability to hold the securities until recovery of unrealized losses.
 
Amortized cost and fair value at September 30, 2020, by contractual maturity, where applicable, are shown below. Expected maturities will differ from contractual maturities because issuers may have the right to call or prepay with or without penalties.
 
  Available for Sale Held to Maturity
In thousands Amortized
Cost
Fair
Value
Amortized
Cost
Fair
Value
1 year or less $ 81,650  $ 82,188  $ 2,000  $ 2,005 
Over 1 year through 5 years 50,455  52,078     
Over 5 years through 10 years 47,327  47,592     
Over 10 years 29,739  29,958     
Mortgage-backed securities, residential 98,233  101,855  11,606  12,105 
  $ 307,404  $ 313,671  $ 13,606  $ 14,110 

The Corporation did not sell any securities available for sale during the first nine months of 2020 or 2019.

At September 30, 2020, and December 31, 2019, securities with a carrying value of $283,258,000 and $162,946,000, respectively, were pledged as collateral as required by law on public and trust deposits, repurchase agreements, and for other purposes.

9.    Loans
 
The Corporation grants commercial, residential, and consumer loans to customers. A substantial portion of the loan portfolio is represented by mortgage loans throughout southcentral Pennsylvania and northern Maryland. The ability of the Corporation’s debtors to honor their contracts is dependent upon the real estate values and general economic conditions in this area.
 
Loans that management has the intent and ability to hold for the foreseeable future or until maturity or pay-off generally are reported at their outstanding unpaid principal balances adjusted for charge-offs, the allowance for loan losses, and any deferred fees or costs on originated loans. Interest income is accrued on the unpaid principal balance.
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Loan origination fees, net of certain direct origination costs, are deferred and recognized as an adjustment of the related loan yield using the interest method.

The loans receivable portfolio is segmented into commercial, residential mortgage, home equity lines of credit, and consumer loans. Commercial loans consist of the following classes: commercial and industrial, commercial real estate, and commercial real estate construction.
 
The accrual of interest on residential mortgage and commercial loans is discontinued at the time the loan is 90 days past due unless the credit is well-secured and in process of collection. Consumer loans (consisting of home equity lines of credit and consumer loan classes) are typically charged off no later than 120 days past due. Past due status is based on the contractual terms of the loan. In all cases, loans are placed on nonaccrual or charged off at an earlier date if collection of principal or interest is considered doubtful.
 
All interest accrued, but not collected, for loans that are placed on nonaccrual or charged off is reversed against interest income. The interest on these loans is accounted for on the cash-basis or cost-recovery method, until qualifying for return to accrual status. Loans are returned to accrual status when all the principal and interest amounts contractually due are brought current and future payments are reasonably assured.
 
Allowance for Credit Losses
 
The allowance for credit losses consists of the allowance for loan losses and the reserve for unfunded lending commitments. The allowance for loan losses (the “allowance”) is established as losses are estimated to occur through a provision for loan losses charged to earnings. Loan losses are charged against the allowance when management believes the uncollectibility of a loan balance is confirmed. Subsequent recoveries, if any, are credited to the allowance. The reserve for unfunded lending commitments represents management’s estimate of losses inherent in its unfunded loan commitments and is recorded in other liabilities on the consolidated statement of condition. The amount of the reserve for unfunded lending commitments is not material to the consolidated financial statements.
 
The allowance for loan losses is evaluated on a regular basis by management and is based upon management’s periodic review of the collectibility of the loans in light of historical experience, the nature and volume of the loan portfolio, adverse situations that may affect the borrower’s ability to repay, estimated value of any underlying collateral, and prevailing economic conditions. This evaluation is inherently subjective as it requires estimates that are susceptible to significant revision as more information becomes available.

The allowance consists of specific, general and unallocated components. The specific component relates to loans that are classified as either doubtful, substandard, or special mention. For such loans that are also classified as impaired, an allowance is established when the discounted cash flows (or collateral value or observable market price) of the impaired loan is lower than the carrying value of that loan. The general component covers pools of loans by loan class including commercial loans not considered impaired, as well as smaller balance homogeneous loans, such as residential real estate, home equity, and other consumer loans. These pools of loans are evaluated for loss exposure based upon historical loss rates for the previous twelve quarters for each of these categories of loans, adjusted for qualitative risk factors. These qualitative risk factors include:

lending policies and procedures, including underwriting standards and collection, charge-off and recovery practices;

national, regional and local economic and business conditions, as well as the condition of various market segments, including the impact on the value of underlying collateral for collateral dependent loans;

the nature and volume of the portfolio and terms of loans;

the experience, ability and depth of lending management and staff;

the volume and severity of past due, classified and nonaccrual loans, as well as other loan modifications; and,

the existence and effect of any concentrations of credit and changes in the level of such concentrations.
 
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Each factor is assigned a value to reflect improving, stable or declining conditions based on management’s best judgment using relevant information available at the time of the evaluation. Adjustments to the factors are supported through documentation of changes in conditions in a narrative accompanying the allowance for loan loss calculation.
 
The unallocated component of the allowance is maintained to cover uncertainties that could affect management’s estimate of probable losses. The unallocated component of the allowance reflects the margin of imprecision inherent in the underlying assumptions used in the methodologies for estimating specific and general losses in the portfolio. It covers risks that are inherently difficult to quantify including, but not limited to, collateral risk, information risk, and historical charge-off risk.
 
A loan is considered impaired when, based on current information and events, it is probable that the Corporation will be unable to collect the scheduled payments of principal and/or interest when due according to the contractual terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value, and the probability of collecting scheduled principal and/or interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record, and the amount of the shortfall in relation to the principal and interest owed. Impairment is measured on a loan by loan basis for commercial and commercial construction loans by either the present value of expected future cash flows discounted at the loan’s effective interest rate, the loan’s obtainable market price, or the fair value of the collateral if the loan is collateral dependent.
 
A specific allocation within the allowance for loan losses is established for an impaired loan if its carrying value exceeds its estimated fair value. The estimated fair values of the Corporation’s impaired loans are measured based on the estimated fair value of the loan’s collateral or the discounted cash flows method.

It is the policy of the Corporation to order an updated valuation on all real estate secured loans when the loan becomes 90 days past due and there has not been an updated valuation completed within the previous 12 months. In addition, the Corporation orders third-party valuations on all impaired real estate collateralized loans within 30 days of the loan being classified as impaired. Until the valuations are completed, the Corporation utilizes the most recent independent third-party real estate valuation to estimate the need for a specific allocation to be assigned to the loan. These existing valuations are discounted downward to account for such things as the age of the existing collateral valuation, change in the condition of the real estate, change in local market and economic conditions, and other specific factors involving the collateral. Once the updated valuation is completed, the collateral value is updated accordingly.

For commercial and industrial loans secured by non-real estate collateral, such as accounts receivable, inventory and equipment, estimated fair values are determined based on the borrower’s financial statements, inventory reports, accounts receivable aging reports, equipment appraisals, or invoices. Indications of value from these sources are generally discounted based on the age of the financial information or the quality of the assets.
 
The Corporation actively monitors the values of collateral as well as the age of the valuation of impaired loans. The Corporation orders valuations at least every 18 months, or more frequently if management believes that there is an indication that the fair value has declined.

For impaired loans secured by collateral other than real estate, the Corporation considers the net book value of the collateral, as recorded in the most recent financial statements of the borrower, and determines fair value based on estimates made by management.

Large groups of smaller balance homogeneous loans are collectively evaluated for impairment. Accordingly, the Corporation does not separately identify individual consumer and residential loans for impairment disclosures, unless such loans are the subject of a troubled debt restructure.
 
Loans whose terms are modified are classified as troubled debt restructured loans if the Corporation grants such borrowers concessions that it would not otherwise consider and it is deemed that those borrowers are experiencing financial difficulty. Concessions granted under a troubled debt restructuring generally involve a temporary reduction in interest rate, a below market interest rate given the risk associated with the loan, or an extension of a loan’s stated maturity date. Nonaccrual troubled debt restructurings may be restored to accrual status if principal and interest payments, under the modified terms, are current for a sustained period of time and, based on a well-documented credit
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evaluation of the borrower’s financial condition, there is reasonable assurance of repayment. Loans classified as troubled debt restructurings are generally designated as impaired.
 
The allowance calculation methodology includes further segregation of loan classes into credit quality rating categories. The borrower’s overall financial condition, repayment sources, guarantors, and value of collateral, if appropriate, are generally evaluated annually for commercial loans or when credit deficiencies arise, such as delinquent loan payments.
 
Credit quality risk ratings include regulatory classifications of special mention, substandard, doubtful, and loss. Loans classified special mention have potential weaknesses that deserve management’s close attention. If uncorrected, the potential weaknesses may result in deterioration of the repayment prospects. Loans classified substandard have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. They include loans that are inadequately protected by the current sound net worth and paying capacity of the obligor or of the collateral pledged, if any. Loans classified doubtful have all the weaknesses inherent in loans classified substandard with the added characteristic that collection or liquidation in full, on the basis of current conditions and facts, is highly improbable. Loans classified as a loss are considered uncollectible and are charged to the allowance for loan losses. Loans not classified are rated pass.
 
In addition, federal and state regulatory agencies, as an integral part of their examination process, periodically review the Corporation’s allowance for loan losses and may require the Corporation to recognize additions to the allowance based on their judgments about information available to them at the time of their examination, which may not be currently available to management. Based on management’s comprehensive analysis of the loan portfolio and economic conditions, management believes the current level of the allowance for loan losses is adequate.
 
Commercial and Industrial Lending — The Corporation originates commercial and industrial loans primarily to businesses located in its primary market area and surrounding areas. These loans are used for various business purposes which include short-term loans and lines of credit to finance machinery and equipment purchases, inventory, and accounts receivable. Generally, the maximum term for loans extended on machinery and equipment is based on the projected useful life of such machinery and equipment. Most business lines of credit are written on demand and may be renewed annually.

Commercial and industrial loans are generally secured with short-term assets; however, in many cases, additional collateral such as real estate is provided as additional security for the loan. Loan-to-value maximum values have been established by the Corporation and are specific to the type of collateral. Collateral values may be determined using invoices, inventory reports, accounts receivable aging reports, collateral appraisals, etc.
 
In underwriting commercial and industrial loans, an analysis is performed to evaluate the borrower’s character and capacity to repay the loan, the adequacy of the borrower’s capital and collateral, as well as the conditions affecting the borrower. Evaluation of the borrower’s past, present and future cash flows is also an important aspect of the Corporation’s analysis.
 
Commercial loans generally present a higher level of risk than other types of loans due primarily to the effect of general economic conditions.
 
Commercial Real Estate Lending — The Corporation engages in commercial real estate lending in its primary market area and surrounding areas. The Corporation’s commercial loan portfolio is secured primarily by commercial retail space, office buildings, and hotels. Generally, commercial real estate loans have terms that do not exceed 20 years, have loan-to-value ratios of up to 80% of the appraised value of the property, and are typically secured by personal guarantees of the borrowers.
 
In underwriting these loans, the Corporation performs a thorough analysis of the financial condition of the borrower, the borrower’s credit history, and the reliability and predictability of the cash flow generated by the property securing the loan. Appraisals on properties securing commercial real estate loans originated by the Corporation are performed by independent appraisers.
 
Commercial real estate loans generally present a higher level of risk than other types of loans due primarily to the effect of general economic conditions and the complexities involved in valuing the underlying collateral.
 
Commercial Real Estate Construction Lending — The Corporation engages in commercial real estate construction lending in its primary market area and surrounding areas. The Corporation’s commercial real estate construction
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lending consists of commercial and residential site development loans, as well as commercial building construction and residential housing construction loans.
 
The Corporation’s commercial real estate construction loans are generally secured with the subject property. Terms of construction loans depend on the specifics of the project, such as estimated absorption rates, estimated time to complete, etc.
 
In underwriting commercial real estate construction loans, the Corporation performs a thorough analysis of the financial condition of the borrower, the borrower’s credit history, and the reliability and predictability of the cash flow generated by the project using feasibility studies, market data, etc. Appraisals on properties securing commercial real estate construction loans originated by the Corporation are performed by independent appraisers.
 
Commercial real estate construction loans generally present a higher level of risk than other types of loans due primarily to the effect of general economic conditions and the uncertainties surrounding total construction costs.
 
Residential Mortgage Lending — One-to-four family residential mortgage loan originations, including home equity closed-end loans, are generated by the Corporation’s marketing efforts, its present customers, walk-in customers, and referrals. These loans originate primarily within the Corporation’s market area or with customers primarily from the market area.
 
The Corporation offers fixed-rate and adjustable-rate mortgage loans with terms up to a maximum of 30 years for both permanent structures and those under construction. The Corporation’s one-to-four family residential mortgage originations are secured primarily by properties located in its primary market area and surrounding areas. The majority of the Corporation’s residential mortgage loans originate with a loan-to-value of 80% or less. Loans in excess of 80% are required to have private mortgage insurance.
 
In underwriting one-to-four family residential real estate loans, the Corporation evaluates both the borrower’s financial ability to repay the loan as agreed and the value of the property securing the loan. Properties securing real estate loans made by the Corporation are appraised by independent appraisers. The Corporation generally requires borrowers to obtain an attorney’s title opinion or title insurance, as well as fire and property insurance (including flood insurance, if necessary) in an amount not less than the amount of the loan. The Corporation has not engaged in subprime residential mortgage originations.

Residential mortgage loans are subject to risk due primarily to general economic conditions, as well as a continued weak housing market.
 
Home Equity Lines of Credit Lending — The Corporation originates home equity lines of credit primarily within the Corporation’s market area or with customers primarily from the market area. Home equity lines of credit are generated by the Corporation’s marketing efforts, its present customers, walk-in customers, and referrals.
 
Home equity lines of credit are secured by the borrower’s primary residence with a maximum loan-to-value of 90% and a maximum term of 20 years. In underwriting home equity lines of credit, the Corporation evaluates both the value of the property securing the loan and the borrower’s financial ability to repay the loan as agreed. The ability to repay is determined by the borrower’s employment history, current financial condition, and credit background.
 
Home equity lines of credit generally present a moderate level of risk due primarily to general economic conditions, as well as a continued weak housing market.
 
Junior liens inherently have more credit risk by virtue of the fact that another financial institution may have a higher security position in the case of foreclosure liquidation of collateral to extinguish the debt. Generally, foreclosure actions could become more prevalent if the real estate market continues to be weak and property values deteriorate.

Consumer Lending — The Corporation offers a variety of secured and unsecured consumer loans, including those for vehicles and mobile homes and loans secured by savings deposits. These loans originate primarily within the Corporation’s market area or with customers primarily from the market area.
 
Consumer loan terms vary according to the type and value of collateral and the creditworthiness of the borrower. In underwriting consumer loans, a thorough analysis of the borrower’s financial ability to repay the loan as agreed is
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performed. The ability to repay is determined by the borrower’s employment history, current financial condition, and credit background.
 
Consumer loans may entail greater credit risk than residential mortgage loans or home equity lines of credit, particularly in the case of consumer loans which are unsecured or are secured by rapidly depreciable assets such as automobiles or recreational equipment. In such cases, any repossessed collateral for a defaulted consumer loan may not provide an adequate source of repayment of the outstanding loan balance as a result of the greater likelihood of damage, loss or depreciation. In addition, consumer loan collections are dependent on the borrower’s continuing financial stability, and thus are more likely to be affected by adverse personal circumstances. Furthermore, the application of various federal and state laws, including bankruptcy and insolvency laws, may limit the amount which can be recovered on such loans.

Acquired Loans

Acquired loans (impaired and non-impaired) are initially recorded at their acquisition-date fair values using Level 3 inputs. Fair values are based on a discounted cash flow methodology that involves assumptions and judgments as to credit risk, expected lifetime losses, environmental factors, collateral values, discount rates, expected payments and expected prepayments. Specifically, the Corporation has prepared three separate loan fair value adjustments that it believed a market participant might employ in estimating the entire fair value adjustment necessary under ASC 820-10 for the acquired loan portfolio. The three-separate fair valuation methodology employed are: 1) an interest rate loan fair value adjustment, 2) a general credit fair value adjustment, and 3) a specific credit fair value adjustment for purchased credit impaired loans subject to ASC 310-30 procedures.
The carryover of allowance for loan losses related to acquired loans is prohibited as any credit losses in the loans are included in the determination of the fair value of the loans at the acquisition date. The allowance for loan losses on acquired loans reflects only those losses incurred after acquisition and represents the present value of cash flows expected at acquisition that is no longer expected to be collected. Acquired loans are marked to fair value on the date of acquisition. In conjunction with the quarterly evaluation of the adequacy of the allowance for loan losses, the Corporation performs an analysis on acquired loans to determine whether or not there has been subsequent deterioration in relation to those loans. If deterioration has occurred, the Corporation will include these loans in the calculation of the allowance for loan losses after the initial valuation, and provide accordingly.

Upon acquisition, in accordance with US GAAP, the Corporation has individually determined whether each acquired loan is within the scope of ASC 310-30. The Corporation’s senior lending management reviewed the accounting seller’s loan portfolio on a loan by loan basis to determine if any loans met the two-part definition of an impaired loan as defined by ASC 310-30: 1) Credit deterioration on the loan from its inception until the acquisition date, and 2) It is probable that not all of the contractual cash flows will be collected on the loan.

With regards to ASC 310-30 loans, for external disclosure purposes, the aggregate contractual cash flows less the aggregate expected cash flows resulted in a credit related non-accretable yield amount. The aggregate expected cash flows less the acquisition date fair value resulted in an accretable yield amount. The accretable yield reflects the contractual cash flows management expects to collect above the loan’s acquisition date fair value and will be recognized over the life of the loan on a level-yield basis as a component of interest income.

Over the life of the acquired ASC 310-30 loan, the Corporation continues to estimate cash flows expected to be collected. Decreases in expected cash flows, other than from prepayments or rate adjustments, are recognized as impairments through a charge to the provision for credit losses resulting in an increase in the allowance for credit losses. Subsequent improvements in cash flows result in first, reversal of existing valuation allowances recognized subsequent to acquisition, if any, and next, an increase in the amount of accretable yield to be subsequently recognized on a prospective basis over the loan’s remaining life.

Acquired ASC 310-30 loans that met the criteria for non-accrual of interest prior to acquisition are considered performing upon acquisition, regardless of whether the customer is contractually delinquent, if the Corporation can reasonably estimate the timing and amount of expected cash flows on such loans. Accordingly, the Corporation does not consider acquired contractually delinquent loans to be non-accruing and continue to recognize interest income on these loans using the accretion model.

Acquired ASC 310-20 loans, which are loans that did not meet the criteria above, were pooled into groups of similar loans based on various factors including borrower type, loan purpose, and collateral type. For these pools, the
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Corporation used certain loan information, including outstanding principal balance, estimated expected losses, weighted average maturity, weighted average margin, and weighted average interest rate along with estimated prepayment rates, expected lifetime losses, environment factors to estimate the expected cash flow for each loan pool.

The following table presents the classes of the loan portfolio summarized by the aggregate pass rating and the classified ratings of special mention, substandard, and doubtful within the Corporation’s internal risk rating system as of September 30, 2020, and December 31, 2019:
 
In thousands Pass Special Mention Substandard Doubtful Total
September 30, 2020          
Originated Loans
Commercial and industrial $ 283,746  $ 10,404  $ 2,719  $   $ 296,869 
Commercial real estate 433,327  29,851  12,875    476,053 
Commercial real estate construction 34,977  2,149      37,126 
Residential mortgage 350,776  4,499  179    355,454 
Home equity lines of credit 83,431  515      83,946 
Consumer 12,249        12,249 
Total Originated Loans 1,198,506  47,418  15,773    1,261,697 
Acquired Loans
Commercial and industrial 44,486  2,077  1,579    48,142 
Commercial real estate 262,972  11,587  3,462    278,021 
Commercial real estate construction 12,495  746      13,241 
Residential mortgage 67,195  3,654  2,177    73,026 
Home equity lines of credit 24,867  52  428    25,347 
Consumer 1,409        1,409 
Total Acquired Loans 413,424  18,116  7,646    439,186 
Total Loans
Commercial and industrial 328,232  12,481  4,298    345,011 
Commercial real estate 696,299  41,438  16,337    754,074 
Commercial real estate construction 47,472  2,895      50,367 
Residential mortgage 417,971  8,153  2,356    428,480 
Home equity lines of credit 108,298  567  428    109,293 
Consumer 13,658        13,658 
Total Loans $ 1,611,930  $ 65,534  $ 23,419