Quarterly Report (10-q)

Date : 11/01/2019 @ 4:30PM
Source : Edgar (US Regulatory)
Stock : Southern First Bancshares Inc (SFST)
Quote : 42.76  0.04 (0.09%) @ 4:26PM

Quarterly Report (10-q)

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended September 30, 2019
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the Transition Period from           to
Commission file number 000-27719
Southern First Bancshares, Inc.
(Exact name of registrant as specified in its charter)

South Carolina       58-2459561
(State or other jurisdiction of incorporation or organization) (I.R.S. Employer Identification No.)
 
100 Verdae Boulevard, Suite 100
Greenville, S.C. 29607
(Address of principal executive offices) (Zip Code)

864-679-9000
(Registrant’s telephone number, including area code)
Not Applicable
(Former name, former address, and former fiscal year, if changed since last report)

Securities registered pursuant to Section 12(b) of the Act:

Title of each class       Trading Symbol(s)       Name of each exchange on which registered
Common Stock SFST The Nasdaq Stock Market

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the 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 posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes ☐ No ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company, or an emerging growth company. See 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 ☒

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date: 7,618,519 shares of common stock, par value $0.01 per share, were issued and outstanding as of October 29, 2019.


SOUTHERN FIRST BANCSHARES, INC. AND SUBSIDIARY
September 30, 2019 Form 10-Q

INDEX

PART I – CONSOLIDATED FINANCIAL INFORMATION       Page
     
Item 1.       Consolidated Financial Statements
         
Consolidated Balance Sheets 3
         
Consolidated Statements of Income 4
         
Consolidated Statements of Comprehensive Income 5
         
Consolidated Statements of Shareholders’ Equity 6
         
Consolidated Statements of Cash Flows 7
         
Notes to Unaudited Consolidated Financial Statements 8
         
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 28
         
Item 3. Quantitative and Qualitative Disclosures about Market Risk 44
         
Item 4. Controls and Procedures 45
         
PART II – OTHER INFORMATION
     
Item 1. Legal Proceedings 45
         
Item 1A. Risk Factors 45
         
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 45
         
Item 3. Defaults upon Senior Securities 45
         
Item 4. Mine Safety Disclosures 45
         
Item 5. Other Information 45
         
Item 6. Exhibits 45

2


PART I. CONSOLIDATED FINANCIAL INFORMATION
Item 1. CONSOLIDATED FINANCIAL STATEMENTS

SOUTHERN FIRST BANCSHARES, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS

         
September 30, December 31,
(dollars in thousands, except share data)       2019       2018
(Unaudited) (Audited)
ASSETS
Cash and cash equivalents:
Cash and due from banks $      44,349 17,434
Federal funds sold 19,215 35,882
Interest-bearing deposits with banks 70,959 19,557
Total cash and cash equivalents 134,523 72,873
Investment securities:
Investment securities available for sale 89,427 74,905
Other investments 3,307 4,121
Total investment securities 92,734 79,026
Mortgage loans held for sale 40,630 9,241
Loans 1,838,427 1,677,332
Less allowance for loan losses (15,848 ) (15,762 )
Loans, net 1,822,579 1,661,570
Bank owned life insurance 39,730 34,010
Property and equipment, net 54,846 32,430
Deferred income taxes 8,970 4,020
Other assets 7,614 7,444
Total assets $ 2,201,626 1,900,614
LIABILITIES
Deposits $ 1,899,295 1,648,136
Federal Home Loan Bank advances and other borrowings 25,000 50,000
Subordinated debentures 35,887 13,403
Other liabilities 42,950 15,159
Total liabilities 2,003,132 1,726,698
SHAREHOLDERS’ EQUITY
Preferred stock, par value $.01 per share, 10,000,000 shares authorized - -
Common stock, par value $.01 per share, 10,000,000 shares authorized, 7,618,519 and 7,466,481 shares issued and outstanding at September 30, 2019 and December 31, 2018, respectively 76 75
Nonvested restricted stock (919 ) (741 )
Additional paid-in capital 105,378 102,625
Accumulated other comprehensive income (loss) 424 (917 )
Retained earnings 93,535 72,874
Total shareholders’ equity 198,494 173,916
Total liabilities and shareholders’ equity $ 2,201,626        1,900,614

See notes to consolidated financial statements that are an integral part of these consolidated statements.

3


SOUTHERN FIRST BANCSHARES, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME
(Unaudited)

         
For the three months For the nine months
ended September 30, ended September 30,
(dollars in thousands, except share data) 2019 2018 2019 2018
Interest income
Loans       $      22,817       19,159       65,804       53,314
Investment securities 576 487 1,664 1,284
Federal funds sold and interest-bearing deposits with banks 663 219 1,288 980
Total interest income 24,056 19,865 68,756 55,578
Interest expense
Deposits 6,409 3,928 17,959 10,191
Borrowings 368 436 1,161 1,232
Total interest expense 6,777 4,364 19,120 11,423
Net interest income 17,279 15,501 49,636 44,155
Provision for loan losses 650 400 1,250 1,300
Net interest income after provision for loan losses 16,629 15,101 48,386 42,855
Noninterest income
Mortgage banking income 3,055 1,354 7,741 4,311
Service fees on deposit accounts 271 257 802 769
ATM and debit card income 464 381 1,287 1,085
Income from bank owned life insurance 282 221 720 662
Other income 324 320 930 898
Total noninterest income 4,396 2,533 11,480 7,725
Noninterest expenses
Compensation and benefits 7,668 6,599 21,850 18,808
Occupancy 1,416 1,350 4,099 3,763
Outside service and data processing costs 1,073 841 3,078 2,400
Insurance 145 376 743 987
Professional fees 399 275 1,252 1,208
Marketing 237 215 733 652
Other 546 532 1,745 1,554
Total noninterest expenses 11,484 10,188 33,500 29,372
Income before income tax expense 9,541 7,446 26,366 21,208
Income tax expense 2,129 1,664 5,705 4,702
Net income available to common shareholders $ 7,412 5,782 20,661 16,506
Earnings per common share
Basic $ 0.98 0.78 2.75 2.24
Diluted $ 0.95 0.75 2.66 2.13
Weighted average common shares outstanding
Basic 7,548,184 7,400,174 7,501,337 7,369,473
Diluted 7,780,504 7,746,205 7,759,611 7,741,483

See notes to consolidated financial statements that are an integral part of these consolidated statements.

4


SOUTHERN FIRST BANCSHARES, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Unaudited)

             
For the three months For the nine months
ended September 30, ended September 30,
(dollars in thousands)       2019 2018 2019 2018
Net income $      7,412       5,782       20,661       16,506
Other comprehensive income (loss):
Unrealized gain (loss) on securities available for sale:
Unrealized holding gain (loss) arising during the period, pretax 301 (325 ) 1,705 (1,475 )
Tax (expense) benefit (64 ) 68 (358 ) 308
Reclassification of realized (gain) loss (2 ) - (8 ) 1
Tax expense 1 - 2 -
Other comprehensive income (loss) 236 (257 ) 1,341 (1,166 )
Comprehensive income $ 7,648 5,525 22,002 15,340

See notes to consolidated financial statements that are an integral part of these consolidated statements.

5


SOUTHERN FIRST BANCSHARES, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY
(Unaudited)

     
For the three months ended September 30,
Accumulated
Nonvested Additional other
Common stock Preferred stock restricted paid-in comprehensive Retained
(dollars in thousands, except share data) Shares Amount Shares Amount stock capital loss earnings Total
June 30, 2018 7,425,672 74 - - (853 ) 101,691 (1,365 ) 61,309 160,856
Net income - - - - - - - 5,782 5,782
Proceeds from exercise of stock options 23,098 - - - - 172 - - 172
Issuance of restricted stock - - - - - - - - -
Compensation expense related to restricted stock, net of tax - - - - 83 - - - 83
Compensation expense related to stock options, net of tax - - - - - 308 - - 308
Other comprehensive loss - - - - - - (257 ) - (257 )
 
September 30, 2018 7,448,770 $ 74 - $ - $ (770) $ 102,171 $ (1,622 ) $ 67,091 $ 166,944
June 30, 2019 7,557,923 76 - - (887 ) 104,354 188 86,123 189,854
Net income - - - - - - - 7,412 7,412
Proceeds from exercise of stock options 56,596 - - - - 557 - - 557
Issuance of restricted stock 4,000 - - - (143 ) 143 - - -
Compensation expense related to restricted stock, net of tax - - - - 111 - - - 111
Compensation expense related to stock options, net of tax - - - - - 324 - - 324
Other comprehensive income - - - - - - 236 - 236
 
September 30, 2019    7,618,519    $   76    -    $   -    $   (919)    $   105,378    $   424    $   93,535    $   198,494
 
For the nine months ended September 30,
Accumulated
Nonvested Additional other
Common stock Preferred stock restricted paid-in comprehensive Retained
(dollars in thousands, except share data) Shares Amount Shares Amount stock capital loss earnings Total
December 31, 2017 7,347,851 73 - - (502 ) 99,986 (456 ) 50,585 149,686
Net income - - - - - - - 16,506 16,506
Proceeds from exercise of stock options 89,419 1 - - - 809 - - 810
Issuance of restricted stock 11,500 - - - (501 ) 501 - - -
Compensation expense related to restricted stock, net of tax - - - - 233 - - - 233
Compensation expense related to stock options, net of tax - - - - - 875 - - 875
Other comprehensive loss - - - - - - (1,166 ) - (1,166 )
 
September 30, 2018 7,448,770 $ 74 - $ - $ (770) $ 102,171 $ (1,622 ) $ 67,091 $ 166,944
December 31, 2018 7,466,481 75 - - (741 ) 102,625 (917 ) 72,874 173,916
Net income - - - - - - - 20,661 20,661
Proceeds from exercise of stock options 137,338 1 - - - 1,315 - - 1,316
Issuance of restricted stock 14,700 - - - (490 ) 490 - - -
Compensation expense related to restricted stock, net of tax - - - - 312 - - - 312
Compensation expense related to stock options, net of tax - - - - - 948 - - 948
Other comprehensive income - - - - - - 1,341 - 1,341
 
September 30, 2019 7,618,519 $ 76 - $ - $ (919) $ 105,378 $ 424 $ 93,535 $ 198,494

See notes to consolidated financial statements that are an integral part of these consolidated statements.

6


SOUTHERN FIRST BANCSHARES, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)

       
For the nine months ended
September 30,
(dollars in thousands) 2019 2018
Operating activities
Net income       $      20,661       16,506
Adjustments to reconcile net income to cash provided by (used for) operating activities:
Provision for loan losses 1,250 1,300
Depreciation and other amortization 1,390 1,303
Accretion and amortization of securities discounts and premium, net 293 341
(Gain) loss on sale of investment securities available for sale (8 ) 1
Net change in operating leases 534 -
Compensation expense related to stock options and restricted stock grants 1,260 1,108
Gain on sale of loans held for sale (7,456 ) (4,093 )
Loans originated and held for sale (276,018 ) (161,272 )
Proceeds from sale of loans held for sale 252,085 167,857
Increase in cash surrender value of bank owned life insurance (720 ) (662 )
Increase in deferred tax asset (5,306 ) (3,906 )
Increase in other assets, net (170 ) (303 )
Increase in other liabilities 11,109 6,164
Net cash provided by (used for) operating activities (1,096 ) 24,344
Investing activities
Increase (decrease) in cash realized from:
Increase in loans, net (162,259 ) (233,814 )
Purchase of property and equipment (7,658 ) (1,739 )
Purchase of investment securities:
Available for sale (25,383 ) (13,903 )
Other investments - (6,782 )
Payments and maturities, calls and repayments of investment securities:
Available for sale 12,273 6,962
Other investments 814 6,315
Proceeds from sale of investment securities available for sale - 5,841
Proceeds from sale of real estate owned - 132
Purchase of life insurance policies (5,000 ) -
Net cash used for investing activities (187,213 ) (236,988 )
Financing activities
Increase (decrease) in cash realized from:
Increase in deposits, net 251,159 208,360
Decrease in Federal Home Loan Bank advances and other borrowings, net (25,000 ) 1,300
Increase in subordinated debt 22,484 -
Proceeds from the exercise of stock options and warrants 1,316 810
Net cash provided by financing activities 249,959 210,470
Net increase in cash and cash equivalents 61,650 (2,174 )
Cash and cash equivalents at beginning of the period 72,873 92,165
Cash and cash equivalents at end of the period $ 134,523 89,991
Supplemental information
Cash paid for
Interest $ 18,752 10,824
Income taxes 5,307 3,906
Schedule of non-cash transactions
Unrealized gain (loss) on securities, net of income taxes 1,347 (1,167 )
Right-of-use assets obtained in exchange for lease obligations:
Operating leases 17,290 -

See notes to consolidated financial statements that are an integral part of these consolidated statements.

7


SOUTHERN FIRST BANCSHARES, INC. AND SUBSIDIARY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

NOTE 1 – Nature of Business and Basis of Presentation

Business Activity
Southern First Bancshares, Inc. (the “Company”) is a South Carolina corporation that owns all of the capital stock of Southern First Bank (the “Bank”) and all of the stock of Greenville First Statutory Trust I and II (collectively, the “Trusts”). The Trusts are special purpose non-consolidated entities organized for the sole purpose of issuing trust preferred securities. The Bank's primary federal regulator is the Federal Deposit Insurance Corporation (the “FDIC”). The Bank is also regulated and examined by the South Carolina Board of Financial Institutions. The Bank is primarily engaged in the business of accepting demand deposits and savings deposits insured by the FDIC, and providing commercial, consumer and mortgage loans to the general public.

Basis of Presentation
The accompanying consolidated financial statements have been prepared in accordance with generally accepted accounting principles (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the three and nine month periods ended September 30, 2019 are not necessarily indicative of the results that may be expected for the year ending December 31, 2019. For further information, refer to the consolidated financial statements and footnotes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2018 as filed with the Securities and Exchange Commission (“SEC”) on February 28, 2019. The consolidated financial statements include the accounts of the Company and the Bank. In accordance with Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 810, “Consolidation,” the financial statements related to the Trusts have not been consolidated.

Business Segments
In determining proper segment definition, the Company considers the materiality of a potential segment and components of the business about which financial information is available and regularly evaluated, relative to a resource allocation and performance assessment. The Company accounts for intersegment revenues and expenses as if the revenue/expense transactions were generated to third parties, that is, at current market prices. Please refer to “Note 10 – Reportable Segments” for further information on the reporting for the Company’s three business segments.

Use of Estimates
The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States of America, or GAAP, requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities as of the date of the consolidated financial statements and the reported amount of income and expenses during the reporting periods. Actual results could differ from those estimates. Material estimates that are particularly susceptible to significant change in the near term relate to the determination of the allowance for loan losses, real estate acquired in the settlement of loans, fair value of financial instruments, evaluating other-than-temporary-impairment of investment securities and valuation of deferred tax assets.

Reclassifications
Certain amounts, previously reported, have been reclassified to state all periods on a comparable basis and had no effect on shareholders’ equity or net income.

Subordinated Debentures
On September 30, 2019, the Company entered into Subordinated Note Purchase Agreements (collectively, the “Purchase Agreement”) with certain qualified institutional buyers and accredited investors (the “Purchasers”) pursuant to which the Company sold and issued $23.0 million in aggregate principal amount of its 4.75% Fixed-to-Floating Rate Subordinated Notes due 2029 (the “Notes”). The Notes were offered and sold by the Company to eligible purchasers in a private offering in reliance on the exemption from the registration requirements of Section 4(a)(2) of the Securities Act of 1933, as amended (the “Securities Act”) and the provisions of Regulation D promulgated thereunder (the “Private Placement”). The Company intends to use the proceeds from the offering, which were approximately $22.5 million, for general corporate purposes, including providing capital to the Bank and supporting organic growth.

8


The Notes have a ten-year term and, from and including the date of issuance to but excluding September 30, 2024, will bear interest at a fixed annual rate of 4.75%, payable semi-annually in arrears, for the first five years of the term. From and including September 30, 2024 to but excluding the maturity date or early redemption date, the interest rate shall reset quarterly to an interest rate per annum equal to a benchmark rate (which is expected to be Three-Month Term SOFR) plus 340.8 basis points, payable quarterly in arrears. As provided in the Notes, the interest rate on the Notes during the applicable floating rate period may be determined based on a rate other than Three-Month Term SOFR.

The Notes are redeemable, in whole or in part, on September 30, 2024, on any interest payment date thereafter, and at any time upon the occurrence of certain events. The Purchase Agreement contains certain customary representations, warranties and covenants made by the Company, on the one hand, and the Purchasers, severally and not jointly, on the other hand.

On September 30, 2019, in connection with the sale and issuance of the Notes, the Company entered into a Registration Rights Agreement (the “Registration Rights Agreement”) with the Purchasers. Under the terms of the Registration Rights Agreement, the Company has agreed to take certain actions to provide for the exchange of the Notes for subordinated notes that are registered under the Securities Act and have substantially the same terms as the Notes (the “Exchange Notes”). Under certain circumstances, if the Company fails to meet its obligations under the Registration Rights Agreement, it would be required to pay additional interest to the holders of the Notes.

The Notes were issued under an Indenture, dated September 30, 2019 (the “Indenture”), by and between the Company and UMB Bank, National Association, as trustee. The Notes are not subject to any sinking fund and are not convertible into or, other than with respect to the Exchange Notes, exchangeable for any other securities or assets of the Company or any of its subsidiaries. The Notes are not subject to redemption at the option of the holder. The Notes are unsecured, subordinated obligations of the Company only and are not obligations of, and are not guaranteed by, any subsidiary of the Company. The Notes rank junior in right to payment to the Company’s current and future senior indebtedness. The Notes are intended to qualify as Tier 2 capital for regulatory capital purposes for the Company.

Subsequent Events
Subsequent events are events or transactions that occur after the balance sheet date but before financial statements are issued. Recognized subsequent events are events or transactions that provide additional evidence about conditions that existed at the date of the balance sheet, including the estimates inherent in the process of preparing financial statements. Non-recognized subsequent events are events that provide evidence about conditions that did not exist at the date of the balance sheet but arose after that date.

On October 4, 2019, the Company sold its Health Savings Account (“HSA”) deposit accounts, which totaled $6.2 million at September 30, 2019, to a nationwide HSA servicer and recognized a gain of approximately $745,000 from the sale. Also subsequent to September 30, 2019, the Company sold $30.3 million of investment securities from its existing investment portfolio, recognizing a gain of approximately $718,000. On October 11, 2019, the Company paid off $25.0 million of FHLB advances with an average cost of 3.36% and incurred a prepayment penalty of $1.5 million.

Adoption of New Accounting Standards
In February 2016, the FASB issued ASU No. 2016-02, “Leases (Topic 842)”. The guidance in the update supersedes the requirements in ASC Topic 840, Leases. The guidance is intended to increase transparency and comparability among organizations by recognizing right-of-use assets and lease liabilities on the balance sheet. For public companies, this update was effective for interim and annual periods beginning after December 15, 2018. The Company adopted this guidance in the first quarter of 2019. Upon adoption, the Company elected a practical expedient which allows existing leases to retain their classification as operating leases. The Company has also elected to not recognize right-of-use assets and lease liabilities arising from short-term leases. Implementation of the guidance resulted in the recording of a right-of-use asset and lease liability on the balance sheet; however it does not have a material impact on the Company's other consolidated financial statements. See additional disclosures in Note 8.

9


Newly Issued, But Not Yet Effective Accounting Standards
In June 2016, the FASB issued ASU 2016-13, “Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments”. Among other things, ASU 2016-13 requires the measurement of all expected credit losses for financial assets held at the reporting date based on historical experience, current conditions, and reasonable and supportable forecasts. Financial institutions and other organizations will now use forward-looking information to form their credit loss estimates. Many of the loss estimation techniques applied today will still be permitted, although the inputs to those techniques will change to reflect the full amount of expected credit losses. In addition, ASU 2016-13 amends the accounting for credit losses on debt securities and purchased financial assets with credit deterioration. ASU 2016-13 is effective for all annual and interim periods beginning after December 31, 2019, with early adoption permitted for fiscal years beginning after December 15, 2018. Adoption will be applied through a cumulative-effect adjustment to retained earnings as of the beginning of the first reporting period in which the guidance is effective. The Company has established a team of individuals from credit, finance and risk management to evaluate the requirements of the new standard and the impact it will have on its processes. The implementation plan has progressed through the initial design, build, and testing phase and, in the first quarter of 2019, the Company began running parallel models. While the Company continues to evaluate the impact the new guidance will have on its financial position and results of operations, it currently expects the new guidance may result in an increase to its allowance for credit losses given the change to estimated losses over the contractual life of the loan portfolio. The amount of any change to the allowance is still under review and will depend, in part, upon the composition of our loan portfolio at the adoption date as well as economic conditions and loss forecasts at that date. On October 16, 2019, FASB voted to delay the effective date of this ASU for smaller reporting companies, such as the Company, until fiscal years beginning after December 15, 2022.

Other accounting standards that have been issued or proposed by the FASB or other standards-setting bodies that do not require adoption until a future date are not expected to have a material impact on the consolidated financial statements upon adoption.

NOTE 2 – Investment Securities

The amortized costs and fair value of investment securities are as follows:

 
September 30, 2019
Amortized Gross Unrealized Fair
(dollars in thousands)       Cost       Gains       Losses       Value
Available for sale
US government agencies $      13,482 286 3 13,765
SBA securities 3,741 83 20 3,804
State and political subdivisions 9,012 228 - 9,240
Asset-backed securities 12,364 12 103 12,273
Mortgage-backed securities
FHLMC 12,704 48 33 12,719
FNMA 32,567 170 126 32,611
GNMA 5,020 13 18 5,015
Total mortgage-backed securities 50,291 231 177 50,345
Total investment securities available for sale $ 88,890 840 303 89,427

10



 
December 31, 2018
Amortized Gross Unrealized Fair
      Cost       Gains       Losses       Value
Available for sale
US government agencies $      8,975 1 194 8,782
SBA securities 3,628 - 103 3,525
State and political subdivisions 8,371 48 63 8,356
Asset-backed securities 9,595 12 49 9,558
Mortgage-backed securities
FHLMC 12,258 87 242 12,103
FNMA 29,068 25 551 28,542
GNMA 4,170 1 132 4,039
Total mortgage-backed securities 45,496 113 925 44,684
Total $ 76,065 174 1,334 74,905

Contractual maturities and yields on the Company’s investment securities at September 30, 2019 and December 31, 2018 are shown in the following table. Expected maturities may differ from contractual maturities because issuers may have the right to call or prepay obligations with or without call or prepayment penalties.

 
September 30, 2019
Less than one year One to five years   Five to ten years Over ten years Total
(dollars in thousands)     Amount     Yield     Amount     Yield     Amount     Yield     Amount     Yield     Amount     Yield
Available for sale
US government agencies $     - - 3,980 2.09 % 3,703 2.61 % 6,082 3.18 % 13,765 2.71 %
SBA securities - - - - 657 2.80 % 3,147 2.77 % 3,804 2.77 %
State and political subdivisions - - 1,533 3.00 % 3,765 2.93 % 3,942 2.87 % 9,240 2.92 %
Asset-backed securities - - - - 1,601 2.73 % 10,672 2.91 % 12,273 2.89 %
Mortgage-backed securities - - 4,413 1.97 % 8,666 2.17 % 37,266 2.42 % 50,345 2.34 %
Total $ - - 9,926 2.18 % 18,392 2.48 % 61,109 2.63 % 89,427 2.55 %
 
December 31, 2018
Less than one year One to five years   Five to ten years Over ten years Total
(dollars in thousands) Amount   Yield   Amount Yield   Amount Yield   Amount   Yield   Amount   Yield
Available for sale
US government agencies $ - - 2,665 2.12 % 6,117 2.77 % - - 8,782 2.57 %
SBA securities - - - - - - 3,525 2.72 % 3,525 2.72 %
State and political subdivisions - - 819 2.60 % 4,637 3.04 % 2,900 2.88 % 8,356 2.94 %
Asset-backed securities - - - - 1,862 3.22 % 7,696 3.29 % 9,558 3.27 %
Mortgage-backed securities - - 5,094 1.89 % 9,763 2.22 % 29,827 2.70 % 44,684 2.50 %
Total $ - - 8,578 2.03 % 22,379 2.62 % 43,948 2.81 % 74,905 2.67 %

The tables below summarize gross unrealized losses on investment securities and the fair market value of the related securities at September 30, 2019 and December 31, 2018, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position.

11



 
September 30, 2019
Less than 12 months 12 months or longer Total
Fair   Unrealized Fair   Unrealized Fair   Unrealized
(dollars in thousands)     #     value     losses     #     value     losses     #     value     losses
Available for sale
US government agencies 1 $    498 $    2 1 $    500 $    1 2 $    998 $    3
SBA securities - - - 1 557 20 1 557 20
Asset-backed securities 5 7,757 87 2 3,046 16 7 10,803 103
Mortgage-backed securities
FHLMC 6 6,394 8 5 3,956 25 11 10,350 33
FNMA 11 11,950 34 11 10,236 92 22 22,186 126
GNMA 1 1,249 1 2 1,742 17 3 2,991 18
Total 24 $ 27,848 $ 132 22 $ 20,037 $ 171 46 $ 47,885 $ 303
 
December 31, 2018
Less than 12 months 12 months or longer Total
Fair   Unrealized Fair   Unrealized Fair   Unrealized
(dollars in thousands) # value losses # value losses # value losses
Available for sale
US government agencies 1 $ 1,246 $ 3 8 $  7,035 $ 191 9 $ 8,281 $ 194
SBA securities - - - 2 3,525 103 2 3,525 103
State and political subdivisions - - - 7 2,829 63 7 2,829 63
Asset-backed securities 4 6,707 49 - - - 4 6,707 49
Mortgage-backed securities
FHLMC - - - 10 7,402 242 10 7,402 242
FNMA 2 2,689 6 23 22,814 545 25 25,503 551
GNMA 1 1,104 6 3 2,919 126 4 4,023 132
Total 8 $ 11,746 $ 64 53 $ 46,524 $ 1,270 61 $ 58,270 $ 1,334

At September 30, 2019, the Company had 24 individual investments with a fair market value of $27.8 million that were in an unrealized loss position for less than 12 months and 22 individual investments with a fair market value of $20.0 million that were in an unrealized loss position for 12 months or longer. The unrealized losses were primarily attributable to changes in interest rates, rather than deterioration in credit quality. The individual securities are each investment grade securities. The Company considers the length of time and extent to which the fair value of available-for-sale debt securities have been less than cost to conclude that such securities are not other-than-temporarily impaired. The Company also considers other factors such as the financial condition of the issuer including credit ratings and specific events affecting the operations of the issuer, volatility of the security, underlying assets that collateralize the debt security, and other industry and macroeconomic conditions.

As the Company has no intent to sell securities with unrealized losses and it is not more-likely-than-not that the Company will be required to sell these securities before recovery of amortized cost, the Company has concluded that these securities are not impaired on an other-than-temporary basis. Other investments are comprised of the following and are recorded at cost which approximates fair value.

 
(dollars in thousands)       September 30, 2019       December 31, 2018
Federal Home Loan Bank stock $      2,774 3,587
Other investments 130 131
Investment in Trust Preferred securities 403 403
Total other investments $ 3,307 4,121

The Company has evaluated the Federal Home Loan Bank (“FHLB”) stock for impairment and determined that the investment in the FHLB stock is not other than temporarily impaired as of September 30, 2019 and that ultimate recoverability of the par value of this investment is probable. All of the FHLB stock is used to collateralize advances with the FHLB.

12


NOTE 3 – Mortgage Loans Held for Sale

Mortgage loans originated and intended for sale in the secondary market are reported as loans held for sale and carried at fair value under the fair value option with changes in fair value recognized in current period earnings. At the date of funding of the mortgage loan held for sale, the funded amount of the loan, the related derivative asset or liability of the associated interest rate lock commitment, less direct loan costs becomes the initial recorded investment in the loan held for sale. Such amount approximates the fair value of the loan. At September 30, 2019, mortgage loans held for sale totaled $40.6 million compared to $9.2 million at December 31, 2018. The $31.4 million increase in mortgage loans held for sale during the first nine months of 2019 was driven by an increase in volume of mortgage loans originated and sold in the favorable mortgage rate environment.

Mortgage loans held for sale are considered de-recognized, or sold, when the Company surrenders control over the financial assets. Control is considered to have been surrendered when the transferred assets have been isolated from the Company, beyond the reach of the Company and its creditors; the purchaser obtains the right (free of conditions that constrain it from taking advantage of that right) to pledge or exchange the transferred assets; and the Company does not maintain effective control over the transferred assets through an agreement that both entitles and obligates the Company to repurchase or redeem the transferred assets before their maturity or the ability to unilaterally cause the holder to return specific assets.

Gains and losses from the sale of mortgage loans are recognized based upon the difference between the sales proceeds and carrying value of the related loans upon sale and are recorded in mortgage banking income in the statement of income. Mortgage banking income also includes the unrealized gains and losses associated with the loans held for sale and the realized and unrealized gains and losses from derivatives.

Mortgage loans sold by the Company to investors and which were believed to have met investor and agency underwriting guidelines at the time of sale may be subject to repurchase or indemnification in the event of specific default by the borrower or subsequent discovery that underwriting standards were not met. The Company may, upon mutual agreement, agree to repurchase the loans or indemnify the investor against future losses on such loans. In such cases, the Company bears any subsequent credit loss on the loans.

The Company establishes mortgage repurchase reserves related to various representations and warranties that reflect management’s estimate of losses based on a combination of factors. The Company establishes a reserve at the time loans are sold and updates the reserve estimate on a quarterly basis during the estimated life of the loan.

13


NOTE 4 – Loans and Allowance for Loan Losses

The following table summarizes the composition of our loan portfolio. Total gross loans are recorded net of deferred loan fees and costs, which totaled $3.1 million as of September 30, 2019 and $2.8 million as of December 31, 2018.

         
      September 30, 2019 December 31, 2018
(dollars in thousands) Amount       % of Total       Amount       % of Total
Commercial
Owner occupied RE $      392,896 21.4 % $      367,018 21.9 %
Non-owner occupied RE 481,865 26.2 % 404,296 24.1 %
Construction 75,710 4.1 % 84,411 5.0 %
Business 290,154 15.8 % 272,980 16.3 %
Total commercial loans 1,240,625 67.5 % 1,128,705 67.3 %
Consumer
Real estate 346,512 18.8 % 320,943 19.1 %
Home equity 174,611 9.5 % 165,937 9.9 %
Construction 49,548 2.7 % 37,925 2.3 %
Other 27,131 1.5 % 23,822 1.4 %
Total consumer loans 597,802 32.5 % 548,627 32.7 %
Total gross loans, net of deferred fees 1,838,427  100.0 % 1,677,332  100.0 %
Less—allowance for loan losses (15,848 ) (15,762 )
Total loans, net $ 1,822,579 $ 1,661,570

Maturities and Sensitivity of Loans to Changes in Interest Rates
The information in the following tables summarizes the loan maturity distribution by type and related interest rate characteristics based on the contractual maturities of individual loans, including loans which may be subject to renewal at their contractual maturity. Renewal of such loans is subject to review and credit approval, as well as modification of terms upon maturity. Actual repayments of loans may differ from the maturities reflected below, because borrowers have the right to prepay obligations with or without prepayment penalties.

     
September 30, 2019
After one
One year but within After five
(dollars in thousands)       or less       five years       years       Total
Commercial
Owner occupied RE $      37,933 148,367 206,596 392,896
Non-owner occupied RE 58,945 263,046 159,874 481,865
Construction 29,096 22,696 23,918 75,710
Business 74,851 143,215 72,088 290,154
Total commercial loans 200,825 577,324 462,476 1,240,625
Consumer
Real estate 25,426 81,161 239,925 346,512
Home equity 12,154 28,425 134,032 174,611
Construction 14,249 1,057 34,242 49,548
Other 6,381 16,455 4,295 27,131
Total consumer loans 58,210 127,098 412,494 597,802
Total gross loans, net of deferred fees $ 259,035 704,422 874,970 1,838,427
Loans maturing after one year with:
Fixed interest rates $      1,214,368
Floating interest rates 365,024

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December 31, 2018
After one
One year but within After five
(dollars in thousands)       or less       five years       years       Total
Commercial
Owner occupied RE $      20,839 165,436 180,743 367,018
Non-owner occupied RE 43,000 227,454 133,842 404,296
Construction 22,941 33,045 28,425 84,411
Business 80,672 128,911 63,397 272,980
Total commercial loans 167,452 554,846 406,407 1,128,705
Consumer
Real estate 29,301 70,467 221,175 320,943
Home equity 8,867 24,618 132,452 165,937
Construction 16,006 1,646 20,273 37,925
Other 7,681 11,253 4,888 23,822
Total consumer 61,855 107,984 378,788 548,627
Total gross loan, net of deferred fees $ 229,307 662,830 785,195 1,677,332
Loans maturing after one year with:
Fixed interest rates $      1,100,854
Floating interest rates 347,171

Portfolio Segment Methodology

Commercial
Commercial loans are assessed for estimated losses by grading each loan using various risk factors identified through periodic reviews. The Company applies historic grade-specific loss factors to each loan class. In the development of statistically derived loan grade loss factors, the Company observes historical losses over 20 quarters for each loan grade. These loss estimates are adjusted as appropriate based on additional analysis of external loss data or other risks identified from current economic conditions and credit quality trends. The allowance also includes an amount for the estimated impairment on nonaccrual commercial loans and commercial loans modified in a troubled debt restructuring (“TDR”), whether on accrual or nonaccrual status.

Consumer
For consumer loans, the Company determines the allowance on a collective basis utilizing historical losses over 20 quarters to represent its best estimate of inherent loss. The Company pools loans, generally by loan class with similar risk characteristics. The allowance also includes an amount for the estimated impairment on nonaccrual consumer loans and consumer loans modified in a TDR, whether on accrual or nonaccrual status.

Credit Quality Indicators

Commercial
We manage a consistent process for assessing commercial loan credit quality by monitoring its loan grading trends and past due statistics. All loans are subject to individual risk assessment. Our risk categories include Pass, Special Mention, Substandard, and Doubtful, each of which is defined by our banking regulatory agencies. Delinquency statistics are also an important indicator of credit quality in the establishment of our allowance for loan losses.

We categorize our loans into risk categories based on relevant information about the ability of the borrower to service their debt such as current financial information, historical payment experience, credit documentation, public information, and current economic trends, among other factors. A description of the general characteristics of the risk grades is as follows:

Pass—These loans range from minimal credit risk to average credit risk; however, still have acceptable credit risk.

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Special mention—A special mention loan has potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the loan or the institution’s credit position at some future date.
 

Substandard—A substandard loan is inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged, if any. Loans so classified must have a well-defined weakness, or weaknesses, that may jeopardize the liquidation of the debt. A substandard loan is characterized by the distinct possibility that the Bank will sustain some loss if the deficiencies are not corrected.
 

Doubtful—A doubtful loan has all of the weaknesses inherent in one classified as substandard with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of the currently existing facts, conditions and values, highly questionable and improbable.

The tables below provide a breakdown of outstanding commercial loans by risk category.

     
September 30, 2019
Owner Non-owner
(dollars in thousands)       occupied RE       occupied RE       Construction       Business       Total
Pass $      389,869 472,762 75,710 283,246 1,221,587
Special mention 729 4,186 - 2,950 7,865
Substandard 2,298 4,917 - 3,958 11,173
Doubtful - - - - -
$ 392,896 481,865 75,710 290,154 1,240,625
 
December 31, 2018
Owner Non-owner
(dollars in thousands) occupied RE occupied RE Construction Business Total
Pass $ 363,621 400,266 84,411 266,898 1,115,196
Special mention 296 118 - 2,971 3,385
Substandard 3,101 3,912 - 3,111 10,124
Doubtful - - - - -
$ 367,018 404,296 84,411 272,980 1,128,705
 
The following tables provide past due information for outstanding commercial loans and include loans on nonaccrual status as well as accruing TDRs.
 
                   
September 30, 2019
Owner Non-owner
(dollars in thousands) occupied RE occupied RE Construction Business Total
Current $ 392,053 479,595 75,710 289,682 1,237,040
30-59 days past due 843 102 - 274 1,219
60-89 days past due - 2,168 - - 2,168
Greater than 90 Days - - - 198 198
$ 392,896 481,865 75,710 290,154 1,240,625
 
December 31, 2018
Owner Non-owner
occupied RE occupied RE Construction Business Total
Current $ 367,018 404,179 84,411 272,864 1,128,472
30-59 days past due - 117 - 36 153
60-89 days past due - - - - -
Greater than 90 Days - - - 80 80
$ 367,018 404,296 84,411 272,980 1,128,705

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Consumer
The Company manages a consistent process for assessing consumer loan credit quality by monitoring its loan grading trends and past due statistics. All loans are subject to individual risk assessment. The Company’s categories include Pass, Special Mention, Substandard, and Doubtful, which are defined above. Delinquency statistics are also an important indicator of credit quality in the establishment of the allowance for loan losses.

The tables below provide a breakdown of outstanding consumer loans by risk category.

     
September 30, 2019
(dollars in thousands)       Real estate       Home equity       Construction       Other       Total
Pass $      341,367 170,749 49,548 26,843 588,507
Special mention 1,562 665 - 228 2,455
Substandard 3,583 3,197 - 60 6,840
Doubtful - - - - -
$ 346,512 174,611 49,548 27,131 597,802
 
December 31, 2018
(dollars in thousands) Real estate Home equity Construction Other Total
Pass $ 314,586 162,626 37,925 23,586 538,723
Special mention 1,792 864 - 139 2,795
Substandard 4,565 2,447 - 97 7,109
Doubtful - - - - -
$ 320,943 165,937 37,925 23,822 548,627
 
The following tables provide past due information for outstanding consumer loans and include loans on nonaccrual status as well as accruing TDRs.
 
 
September 30, 2019
(dollars in thousands) Real estate Home equity Construction Other Total
Current $ 345,720 173,536 49,548 27,064 595,868
30-59 days past due - 363 - 67 430
60-89 days past due 187 482 - - 669
Greater than 90 Days 605 230 - - 835
$ 346,512 174,611 49,548 27,131 597,802
 
December 31, 2018
(dollars in thousands) Real estate Home equity Construction Other Total
Current $ 317,267 165,727 37,925 23,603 544,522
30-59 days past due 2,555 30 - 106 2,691
60-89 days past due 923 - - 113 1,036
Greater than 90 Days 198 180 - - 378
$ 320,943 165,937 37,925 23,822 548,627

As of September 30, 2019 and December 31, 2018, loans 30 days or more past due represented 0.30% and 0.26% of the Company’s total loan portfolio, respectively. Commercial loans 30 days or more past due were 0.19% and 0.01% of the Company’s total loan portfolio as of September 30, 2019 and December 31, 2018, respectively, while consumer loans 30 days or more past due were 0.11% and 0.25% of total loans as of September 30, 2019 and December 31, 2018, respectively.

Nonperforming assets

The following table shows the nonperforming assets and the related percentage of nonperforming assets to total assets and gross loans. Generally, a loan is placed on nonaccrual status when it becomes 90 days past due as to principal or interest, or when the Company believes, after considering economic and business conditions and collection efforts, that the borrower’s financial condition is such that collection of the contractual principal or interest on the loan is doubtful. A payment of interest on a loan that is classified as nonaccrual is recognized as a reduction in principal when received.

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Following is a summary of our nonperforming assets, including nonaccruing TDRs.

         
(dollars in thousands) September 30, 2019 December 31, 2018
Commercial
Owner occupied RE       $            -       -
Non-owner occupied RE 1,963 210
Construction - -
Business 198 81
Consumer
Real estate 1,637 1,980
Home equity 467 1,006
Construction - -
Other - 12
Nonaccruing troubled debt restructurings 2,763              2,541
Total nonaccrual loans, including nonaccruing TDRs 7,028 5,830
Other real estate owned - -
Total nonperforming assets $ 7,028 5,830
Nonperforming assets as a percentage of:
Total assets 0.32 % 0.31 %
Gross loans 0.38 % 0.35 %
Total loans over 90 days past due $ 1,033 458
Loans over 90 days past due and still accruing - -
Accruing troubled debt restructurings 5,791 6,742

Impaired Loans

The table below summarizes key information for impaired loans. The Company’s impaired loans include loans on nonaccrual status and loans modified in a TDR, whether on accrual or nonaccrual status. These impaired loans may have estimated impairment which is included in the allowance for loan losses. The Company’s commercial and consumer impaired loans are evaluated individually to determine the related allowance for loan losses.

         
September 30, 2019
Recorded investment
Impaired loans Impaired loans
Unpaid with no related with related Related
Principal Impaired allowance for allowance for allowance for
(dollars in thousands) Balance loans loan losses loan losses loan losses
Commercial
Owner occupied RE       $      2,787       2,723       2,277       446       75
Non-owner occupied RE 4,474 4,034 2,409 1,625 416
Construction - - - - -
Business 2,187 1,724 570 1,154 470
Total commercial 9,448 8,481 5,256 3,225 961
Consumer
Real estate 2,674 2,534 1,434 1,100 438
Home equity 2,267 1,654 1,242 412 98
Construction - - - - -
Other 150 150 - 150 17
Total consumer 5,091 4,338 2,676 1,662 553
Total $ 14,539 12,819 7,932 4,887 1,514

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December 31, 2018
Recorded investment
Impaired loans Impaired loans
Unpaid with no related with related Related
Principal Impaired allowance for allowance for allowance for
(dollars in thousands) Balance loans loan losses loan losses loan losses
Commercial
Owner occupied RE       $      2,827       2,762       2,311       451       75
Non-owner occupied RE 3,321 2,807 603 2,204 558
Construction - - - - -
Business 3,745 2,520 515 2,005 895
Total commercial 9,893 8,089 3,429 4,660 1,528
Consumer
Real estate 2,993 2,892 1,494 1,398 456
Home equity 1,935 1,421 1,421 - -
Construction - - - - -
Other 170 170 - 170 30
Total consumer 5,098 4,483 2,915 1,568 486
Total $ 14,991 12,572 6,344 6,228 2,014

The following table provides the average recorded investment in impaired loans and the amount of interest income recognized on impaired loans after impairment by portfolio segment and class.

         
Three months ended Three months ended
September 30, 2019 September 30, 2018
Average Recognized Average Recognized
recorded interest recorded interest
(dollars in thousands) investment income investment income
Commercial
Owner occupied RE       $      2,728       27       2,786       41
Non-owner occupied RE 4,077 74 3,048 29
Construction - - - -
Business 1,738 14 2,965 44
Total commercial 8,543 115 8,799 114
Consumer
Real estate 2,876 30 2,850 34
Home equity 1,668 30 1,273 17
Construction - - - -
Other 151 2 162 1
Total consumer 4,695 62 4,285 52
Total $ 13,238 177 13,084 166

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Nine months ended Nine months ended Year ended
September 30, 2019 September 30, 2018 December 31, 2018
Average Recognized Average Recognized Average Recognized
recorded interest recorded interest recorded interest
(dollars in thousands) investment income investment income investment income
Commercial
Owner occupied RE       $      2,742       96       2,792       103       2,784       142
Non-owner occupied RE 4,139 202 3,070 127 2,860 174
Construction - - - - - -
Business 1,766 61 3,031 123 2,883 162
Total commercial 8,647 359 8,893 353 8,527 478
Consumer
Real estate 3,062 97 2,871 114 2,930 151
Home equity 1,688 82 1,283 61 1,453 99
Construction - - - - - -
Other 154 4 164 4 174 5
Total consumer 4,904 183 4,318 179 4,557 255
Total $ 13,551 542 13,211 532 13,084 733

Allowance for Loan Losses

The allowance for loan loss is management’s estimate of credit losses inherent in the loan portfolio. The allowance for loan losses is established as losses are estimated to have occurred 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 allowance for loan losses is evaluated on a regular basis by management and is based upon management’s periodic review of the collectability 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 Company has an established process to determine the adequacy of the allowance for loan losses that assesses the losses inherent in the portfolio. While the Company attributes portions of the allowance to specific portfolio segments, the entire allowance is available to absorb credit losses inherent in the total loan portfolio. The Company’s process involves procedures to appropriately consider the unique risk characteristics of the commercial and consumer loan portfolio segments. For each portfolio segment, impairment is measured individually for each impaired loan. The Company’s allowance levels are influenced by loan volume, loan grade or delinquency status, historic loss experience and other economic conditions.

The following table summarizes the activity related to the allowance for loan losses by commercial and consumer portfolio segments:

     
Three months ended September 30, 2019
Commercial Consumer
Owner Non-owner
occupied occupied Real Home
(dollars in thousands) RE RE Construction Business Estate equity Construction Other Total
Balance, beginning of period      $     2,808      4,016      569      3,623      3,104      1,409      318      297      16,144
Provision for loan losses (75 ) 237 (63 ) 588 (93 ) 14 8 34 650
Loan charge-offs - (225 ) - (709 ) - - - (29 ) (963 )
Loan recoveries - - - 8 7 1 - 1 17
Net loan charge-offs - (225 ) - (701 ) 7 1 - (28 ) (946 )
Balance, end of period $ 2,733 4,028 506 3,510 3,018 1,424 326 303 15,848
Net charge-offs to average loans (annualized) 0.21 %
Allowance for loan losses to gross loans 0.86 %
Allowance for loan losses to nonperforming loans 225.51 %

20



     
Three months ended September 30, 2018
Commercial Consumer
Owner Non-owner
occupied occupied Real Home
(dollars in thousands) RE RE Construction Business Estate equity Construction Other Total
Balance, beginning of period      $      2,699               3,581               544      3,849      3,446      1,431                   282      268      16,100
Provision for loan losses 71 379 (44 ) (17 ) 89 (93 ) (7 ) 22 400
Loan charge-offs - - - (536 ) - - - (20 ) (556 )
Loan recoveries - 25 - 89 1 80 - 1 196
Net loan charge-offs - 25 - (447 ) 1 80 - (19 ) (360 )
Balance, end of period $ 2,770 3,985 500 3,385 3,536 1,418 275 271 16,140
Net charge-offs to average loans (annualized) 0.09 %
Allowance for loan losses to gross loans 1.00 %
Allowance for loan losses to nonperforming loans 270.53 %
 
Nine months ended September 30, 2019
Commercial Consumer
Owner Non-owner
occupied occupied Real Home
(dollars in thousands) RE RE Construction Business Estate equity Construction Other Total
Balance, beginning of period $     2,726 3,811 615 3,616 3,081 1,348 275 290 15,762
Provision for loan losses 117 454 (109 ) 577 (99 ) 174 51 85 1,250
Loan charge-offs (110 ) (239 ) - (709 ) - (100 ) - (82 ) (1,240 )
Loan recoveries - 2 - 26 36 2 - 10 76
Net loan charge-offs (110 ) (237 ) - (683 ) 36 (98 ) - (72 ) (1,164 )
Balance, end of period $ 2,733 4,028 506 3,510 3,018 1,424 326 303 15,848
Net charge-offs to average loans (annualized) 0.09 %
 
Nine months ended September 30, 2018
Commercial Consumer
Owner Non-owner
occupied occupied Real Home
RE RE Construction Business Estate equity Construction Other Total
Balance, beginning of period $      2,534 3,230 325 3,848 3,495 1,600 210 281 15,523
Provision for loan losses 236 857 175 (31 ) 114 (157 ) 65 41 1,300
Loan charge-offs - (234 ) - (655 ) (76 ) (140 ) - (54 ) (1,159 )
Loan recoveries - 132 - 223 3 115 - 3 476
Net loan charge-offs - (102 ) - (432 ) (73 ) (25 ) - (51 ) (683 )
Balance, end of period $ 2,770 3,985 500 3,385 3,536 1,418 275 271 16,140
Net charge-offs to average loans (annualized) 0.06 %

The following table disaggregates the allowance for loan losses and recorded investment in loans by impairment methodology.

     
September 30, 2019
Allowance for loan losses Recorded investment in loans
(dollars in thousands) Commercial Consumer Total Commercial Consumer Total
Individually evaluated       $      961       553       1,514       8,481       4,338       12,819
Collectively evaluated 9,816 4,518 14,334 1,232,144 593,464 1,825,608
Total $ 10,777 5,071 15,848 1,240,625 597,802 1,838,427
 
December 31, 2018
Allowance for loan losses Recorded investment in loans
(dollars in thousands) Commercial Consumer Total Commercial Consumer Total
Individually evaluated $ 1,528 486 2,014 8,089 4,483 12,572
Collectively evaluated 9,240 4,508 13,748 1,120,616 544,144 1,664,760
Total $ 10,768 4,994 15,762 1,128,705 548,627 1,677,332

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NOTE 5 – Troubled Debt Restructurings

At September 30, 2019, the Company had 20 loans totaling $8.6 million compared to 26 loans totaling $9.3 million at December 31, 2018, which were considered as TDRs. The Company considers a loan to be a TDR when the debtor experiences financial difficulties and the Company grants a concession to the debtor that it would not normally consider. Concessions can relate to the contractual interest rate, maturity date, or payment structure of the note. As part of the workout plan for individual loan relationships, the Company may restructure loan terms to assist borrowers facing financial challenges in the current economic environment. To date, the Company has restored five commercial loans previously classified as TDRs to accrual status.

There were no loans determined to be a TDR during the three months ended September 30, 2019 and one commercial non-owner occupied real estate loan with a pre-modification and post-modification balance of $1.3 million was modified with reduced payments and determined to be a TDR during the three months ended September 30, 2018. The following table summarizes the concession at the time of modification and the recorded investment in the Company’s TDRs before and after their modification for the nine months ended September 30, 2019 and 2018.

     
For the nine months ended September 30, 2019
Pre- Post-
modification modification
Renewals Reduced Converted Maturity Total outstanding outstanding
deemed a or deferred to interest date Number recorded recorded
(dollars in thousands) concession payments only extensions of loans investment investment
Consumer
Home equity 1 - - - 1 $ 832 $ 832
Total loans 1 - - - 1 $ 832 $ 832
 
For the nine months ended September 30, 2018
Pre- Post-
modification modification
Renewals Reduced Converted Maturity Total outstanding outstanding
deemed a or deferred to interest date Number recorded recorded
(dollars in thousands) concession payments only extensions of loans investment investment
Commercial
Owner occupied RE       1       -       -       -       1       $      506       $      592
Business 4 - - - 4 1,207 1,532
Consumer
Real estate 2 - - - 2 549 669
Total loans 7 - - - 7 $ 2,262 $ 2,793

As of September 30, 2019 and 2018, there were no loans modified as a TDR for which there was a payment default (60 days past due) within 12 months of the restructuring date.

NOTE 6 – Derivative Financial Instruments

The Company utilizes derivative financial instruments primarily to hedge its exposure to changes in interest rates. All derivative financial instruments are recognized as either assets or liabilities and measured at fair value. The Company accounts for all of its derivatives as free-standing derivatives and does not designate any of these instruments for hedge accounting. Therefore, the gain or loss resulting from the change in the fair value of the derivative is recognized in the Company’s statement of income during the period of change.

The Company enters into commitments to originate residential mortgage loans held for sale, at specified interest rates and within a specified period of time, with clients who have applied for a loan and meet certain credit and underwriting criteria (interest rate lock commitments). These interest rate lock commitments (“IRLCs”) meet the definition of a derivative financial instrument and are reflected in the balance sheet at fair value with changes in fair value recognized in current period earnings. Unrealized gains and losses on the IRLCs are recorded as derivative assets and derivative liabilities, respectively, and are measured based on the value of the underlying mortgage loan, quoted mortgage-backed securities (“MBS”) prices and an estimate of the probability that the mortgage loan will fund within the terms of the interest rate lock commitment, net of estimated commission expenses.

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The Company manages the interest rate and price risk associated with its outstanding IRLCs and mortgage loans held for sale by entering into derivative instruments such as forward sales of MBS. Management expects these derivatives will experience changes in fair value opposite to changes in fair value of the IRLCs and mortgage loans held for sale, thereby reducing earnings volatility. The Company takes into account various factors and strategies in determining the portion of the mortgage pipeline (IRLCs and mortgage loans held for sale) it wants to economically hedge.

The following table summarizes the Company’s outstanding financial derivative instruments at September 30, 2019 and December 31, 2018.

               
September 30, 2019
Fair Value
(dollars in thousands) Notional Balance Sheet Location Asset/(Liability)
Mortgage loan interest rate lock commitments       $      53,426       Other assets       $      682
MBS forward sales commitments 37,000 Other liabilities (71 )
Total derivative financial instruments $ 90,426 $ 611
 
December 31, 2018
Fair Value
(dollars in thousands) Notional Balance Sheet Location Asset/(Liability)
Mortgage loan interest rate lock commitments $ 20,552 Other assets $ 345
MBS forward sales commitments 11,750 Other liabilities (121 )
Total derivative financial instruments $ 32,302 $ 224

NOTE 7 – Fair Value Accounting

FASB ASC 820, “Fair Value Measurement and Disclosures,” defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. FASB ASC 820 also establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair value:

Level 1 – Quoted market price in active markets
Quoted prices in active markets for identical assets or liabilities. Level 1 assets and liabilities include certain debt and equity securities that are traded in an active exchange market.

Level 2 – Significant other observable inputs
Observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities. Level 2 assets and liabilities include fixed income securities and mortgage-backed securities that are held in the Company’s available-for-sale portfolio and valued by a third-party pricing service, as well as certain impaired loans.

Level 3 – Significant unobservable inputs
Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. Level 3 assets and liabilities include financial instruments whose value is determined using pricing models, discounted cash flow methodologies, or similar techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation. These methodologies may result in a significant portion of the fair value being derived from unobservable data.

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The methods of determining the fair value of assets and liabilities presented in this note are consistent with our methodologies disclosed in Note 13 of the Company’s 2018 Annual Report on Form 10-K. The Company’s loan portfolio is initially fair valued using a segmented approach, using the eight categories as disclosed in Note 4 – Loans and Allowance for Loan Losses. Loans are considered a Level 3 classification.

Assets and Liabilities Recorded at Fair Value on a Recurring Basis
The tables below present the recorded amount of assets and liabilities measured at fair value on a recurring basis as of September 30, 2019 and December 31, 2018.

     
September 30, 2019
(dollars in thousands) Level 1 Level 2 Level 3 Total
Assets
Securities available for sale
US government agencies       $      -       13,765       -       13,765
SBA securities - 3,804 - 3,804
State and political subdivisions - 9,240 - 9,240
Asset-backed securities - 12,273 - 12,273
Mortgage-backed securities - 50,345 - 50,345
Mortgage loans held for sale - 40,630 - 40,630
Mortgage loan interest rate lock commitments - 682 - 682
Total assets measured at fair value on a recurring basis $ - 130,739 - 130,739
 
Liabilities
MBS forward sales commitments $ - 71 - 71
Total liabilities measured at fair value on a recurring basis $ - 71 - 71
 
December 31, 2018
(dollars in thousands) Level 1 Level 2 Level 3 Total
Assets
Securities available for sale:
US government agencies $ - 8,782 - 8,782
SBA securities - 3,525 - 3,525
State and political subdivisions - 8,356 - 8,356
Asset-backed securities - 9,558 - 9,558
Mortgage-backed securities - 44,684 - 44,684
Mortgage loans held for sale - 9,241 - 9,241
Mortgage loan interest rate lock commitments - 345 - 345
Total assets measured at fair value on a recurring basis $ - 84,491 - 84,491
 
Liabilities
MBS forward sales commitments $ - 121 - 121
Total liabilities measured at fair value on a recurring basis $ - 121 - 121

Assets and Liabilities Recorded at Fair Value on a Nonrecurring Basis
The tables below present the recorded amount of assets and liabilities measured at fair value on a nonrecurring basis as of September 30, 2019 and December 31, 2018.

     
As of September 30, 2019
(dollars in thousands) Level 1 Level 2 Level 3 Total
Assets
Impaired loans       $ -       4,357       6,948       11,305
Total assets measured at fair value on a nonrecurring basis $ - 4,357 6,948 11,305

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As of December 31, 2018
(dollars in thousands) Level 1 Level 2 Level 3 Total
Assets
Impaired loans       $      -       2,190       8,368       10,558
Total assets measured at fair value on a nonrecurring basis $ - 2,190 8,368 10,558

The Company had no liabilities carried at fair value or measured at fair value on a nonrecurring basis.

Fair Value of Financial Instruments
Financial instruments require disclosure of fair value information, whether or not recognized in the consolidated balance sheets, when it is practical to estimate the fair value. A financial instrument is defined as cash, evidence of an ownership interest in an entity or a contractual obligation which requires the exchange of cash. Certain items are specifically excluded from the disclosure requirements, including the Company’s common stock, premises and equipment and other assets and liabilities.

The estimated fair values of the Company’s financial instruments at September 30, 2019 and December 31, 2018 are as follows:

     
September 30, 2019
Carrying Fair
(dollars in thousands) Amount Value Level 1 Level 2 Level 3
Financial Assets:
Other investments, at cost       $      3,307       3,307       -       -       3,307
Loans1 1,809,760 1,787,368 - - 1,787,368
Financial Liabilities:
Deposits 1,899,295 1,809,500 - 1,809,500 -
FHLB and other borrowings 25,000 26,166 - 26,166 -
Junior subordinated debentures 35,887 33,567 - 33,567 -
 
December 31, 2018
Carrying Fair
(dollars in thousands) Amount Value Level 1 Level 2 Level 3
Financial Assets:
Other investments, at cost $ 4,121 4,121 - - 4,121
Loans1 1,648,998 1,618,618 - - 1,618,618
Financial Liabilities:
Deposits 1,648,136 1,515,123 - 1,515,123 -
FHLB and other borrowings 50,000 50,147 - 50,147 -
Junior subordinated debentures 13,403 14,807 - 14,807 -

1  Carrying amount is net of the allowance for loan losses and previously presented impaired loans.

NOTE 8 – Leases

Effective January 1, 2019, the Company adopted ASU 2016-02, “Leases (Topic 842)”. As of September 30, 2019, we lease six of our offices under various operating lease agreements. The lease agreements have maturity dates ranging from February 2022 to September 2029, some of which include options for multiple five-year extensions. The weighted average remaining life of the lease term for these leases was 7.73 years as of September 30, 2019.

The discount rate used in determining the lease liability for each individual lease was the FHLB fixed advance rate which corresponded with the remaining lease term as of January 1, 2019 for leases that existed at adoption and as of the lease commencement date for leases subsequently entered in to. The weighted average discount rate for leases was 3.02% as of September 30, 2019.

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The total operating lease costs were $533,000 and $1.6 million for the three and nine months ended September 30, 2019, respectively. The right-of-use asset, included in property and equipment, and lease liabilities, included in other liabilities, were $16.1 million and $16.7 million as of September 30, 2019, respectively. The right-of-use asset and lease liability are recognized at lease commencement by calculating the present value of lease payments over the lease term.

Maturities of lease liabilities as of September 30, 2019 were as follows:

     
Operating
(dollars in thousands) Leases
2019       $      483
2020 1,963
2021 2,008
2022 1,252
2023 1,120
Thereafter 14,227
Total undiscounted lease payments 21,053
Discount effect of cash flows 4,371
Total lease liability $ 16,682

NOTE 9 – Earnings Per Common Share

The following schedule reconciles the numerators and denominators of the basic and diluted earnings per share computations for the three and nine month periods ended September 30, 2019 and 2018. Dilutive common shares arise from the potentially dilutive effect of the Company’s stock options that were outstanding at September 30, 2019. The assumed conversion of stock options can create a difference between basic and dilutive net income per common share. At September 30, 2019 and 2018, there were 259,656 and 181,892 options, respectively, that were not considered in computing diluted earnings per common share because they were anti-dilutive.

         
Three months ended Nine months ended
September 30, September 30,
(dollars in thousands, except share data) 2019 2018 2019 2018
Numerator:
Net income available to common shareholders       $      7,412       5,782       20,661       16,506
Denominator:
Weighted-average common shares outstanding – basic 7,548,184 7,400,174 7,501,337 7,369,473
Common stock equivalents 232,320 346,031 258,274 372,010
Weighted-average common shares outstanding – diluted 7,780,504 7,746,205 7,759,611 7,741,483
Earnings per common share:
Basic $ 0.98 0.78 2.75 2.24
Diluted $ 0.95 0.75 2.66 2.13

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NOTE 10 – Reportable Segments

The Company’s reportable segments represent the distinct product lines the Company offers and are viewed separately for strategic planning purposes by management. The three segments include Commercial and Retail Banking, Mortgage Banking, and Corporate. The following schedule presents financial information for each reportable segment.

         
Three months ended Three months ended
September 30, 2019 September 30, 2018
Commercial Commercial
and Retail Mortgage Elimin- Consol- and Retail Mortgage Elimin- Consol-
(dollars in thousands) Banking Banking Corporate ations idated Banking Banking Corporate ation idated
Interest income    $   23,830    226    4    (4 )    24,056    $   19,775    90    2    (2 )    19,865
Interest expense 6,628 - 153 (4 ) 6,777 4,212 - 154 (2 ) 4,364
Net interest income (loss) 17,202 226 (149 ) - 17,279 15,563 90 (152 ) - 15,501
Provision for loan losses 650 - - - 650 400 - - - 400
Noninterest income 1,341 3,055 - - 4,396 1,179 1,354 - - 2,533
Noninterest expense 9,529 1,895 60 - 11,484 9,046 1,082 60 - 10,188
Net income (loss) before taxes 8,364 1,386 (209 ) - 9,541 7,296 362 (212 ) - 7,446
Income tax provision (benefit) 1,882 291 (44 ) - 2,129 1,632 76 (44 ) - 1,664
Net income (loss) $ 6,482 1,095 (165 ) - 7,412 $ 5,664 286 (168 ) - 5,782
Total assets $ 2,187,449 13,765 234,845 (234,433 ) 2,201,626 $ 1,847,633 9,649 180,420 (179,995 ) 1,857,707
 
Nine months ended Nine months ended
September 30, 2019 September 30, 2018
Commercial Commercial
and Retail Mortgage Elimin- Consol- and Retail Mortgage Elimin- Consol-
(dollars in thousands) Banking Banking Corporate ations idated Banking Banking Corporate ations idated
Interest income    $   68,283    473    9    (9 )    68,756    $   55,290    288    6    (6 )    55,578
Interest expense 18,649 - 480 (9 ) 19,120 10,993 - 436 (6 ) 11,423
Net interest income (loss) 49,634 473 (471 ) - 49,636 44,297 288 (430 ) - 44,155
Provision for loan losses 1,250 - - - 1,250 1,300 - - - 1,300
Noninterest income 3,739 7,741 - - 11,480 3,414 4,311 - - 7,725
Noninterest expense 28,604 4,716 180 - 33,500 25,982 3,210 180 - 29,372
Net income before taxes 23,519 3,498 (651 ) - 26,366 20,429 1,389 (610 ) - 21,208
Income tax provision (benefit) 5,107 735 (137 ) - 5,705 4,538 292 (128 ) - 4,702
Net income (loss) $ 18,412 2,763 (514 ) - 20,661 $ 15,891 1,097 (482 ) - 16,506
Total assets $ 2,187,449 13,765 234,845 (234,433 ) 2,201,626 $ 1,847,633 9,649 180,420 (179,995 ) 1,857,707

Commercial and retail banking. The Company’s primary business is to provide traditional deposit and lending products and services to its commercial and retail banking clients.

Mortgage banking. The mortgage banking segment provides mortgage loan origination services for loans that will be sold in the secondary market to investors.

Corporate. Corporate is comprised primarily of compensation and benefits for certain members of management and interest on parent company debt.

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Item 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

The following discussion reviews our results of operations for the three and nine month periods ended September 30, 2019 as compared to the three and nine month periods ended September 30, 2018 and assesses our financial condition as of September 30, 2019 as compared to December 31, 2018. You should read the following discussion and analysis in conjunction with the accompanying consolidated financial statements and the related notes and the consolidated financial statements and the related notes for the year ended December 31, 2018 included in our Annual Report on Form 10-K for that period. Results for the three and nine month periods ended September 30, 2019 are not necessarily indicative of the results for the year ending December 31, 2019 or any future period.

Cautionary Warning Regarding Forward-looking statements

This report, including information included or incorporated by reference in this report, contains statements which constitute forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934 (the “Exchange Act”). Forward-looking statements may relate to our financial condition, results of operations, plans, objectives, or future performance. These statements are based on many assumptions and estimates and are not guarantees of future performance. Our actual results may differ materially from those anticipated in any forward-looking statements, as they will depend on many factors about which we are unsure, including many factors which are beyond our control. The words “may,” “would,” “could,” “should,” “will,” “expect,” “anticipate,” “predict,” “project,” “potential,” “believe,” “continue,” “assume,” “intend,” “plan,” and “estimate,” as well as similar expressions, are meant to identify such forward-looking statements. Potential risks and uncertainties that could cause our actual results to differ from those anticipated in any forward-looking statements include, but are not limited to, those described under Item 1A. Risk Factors of our Annual Report on Form 10-K for the year ended December 31, 2018, as well as the following:

Restrictions or conditions imposed by our regulators on our operations;
 
Increases in competitive pressure in the banking and financial services industries;
 
Changes in access to funding or increased regulatory requirements with regard to funding;
 
Changes in deposit flows;
 
Credit losses as a result of declining real estate values, increasing interest rates, increasing unemployment, changes in payment behavior or other factors;
 
Credit losses due to loan concentration;
 
Changes in the amount of our loan portfolio collateralized by real estate and weaknesses in the real estate market;
 
Our ability to successfully execute our business strategy;
 
Our ability to attract and retain key personnel;
 
The success and costs of our expansion into the Greensboro, North Carolina, Raleigh, North Carolina and Atlanta, Georgia markets;
 
Changes in the interest rate environment which could reduce anticipated or actual margins;
 
Changes in political conditions or the legislative or regulatory environment, including governmental initiatives affecting the financial services industry;
 
Changes in economic conditions resulting in, among other things, a deterioration in credit quality;
 
Changes occurring in business conditions and inflation;
 
Increased cybersecurity risk, including potential business disruptions or financial losses;
 
Changes in technology;
 
The adequacy of the level of our allowance for loan losses and the amount of loan loss provisions required in future periods;

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Examinations by our regulatory authorities, including the possibility that the regulatory authorities may, among other things, require us to increase our allowance for loan losses or write-down assets;
 
Risks associated with actual or potential litigation or investigations by clients, regulatory agencies or others;
 
Changes in monetary and tax policies;
 
The rate of delinquencies and amounts of loans charged-off;
 
The rate of loan growth in recent years and the lack of seasoning of a portion of our loan portfolio;
 
Our ability to maintain appropriate levels of capital and to comply with our capital ratio requirements;
 
Adverse changes in asset quality and resulting credit risk-related losses and expenses;
 
Changes in accounting policies and practices; and
 
Other risks and uncertainties detailed in Part I, Item 1A of our Annual Report on Form 10-K for the year ended December 31, 2018, in Part II, Item 1A of this Quarterly Report on Form 10-Q, and from time to time in our other filings with the SEC.

If any of these risks or uncertainties materialize, or if any of the assumptions underlying such forward-looking statements proves to be incorrect, our results could differ materially from those expressed in, implied or projected by, such forward-looking statements. For information with respect to factors that could cause actual results to differ from the expectations stated in the forward-looking statements, see “Risk Factors” under Part I, Item 1A of our Annual Report on Form 10-K for the year ended December 31, 2018 and “Risk Factors” under Part II, Item 1A of this Quarterly Report on Form 10-Q. We urge investors to consider all of these factors carefully in evaluating the forward-looking statements contained in this Quarterly Report on Form 10-Q. We make these forward-looking statements as of the date of this document and we do not intend, and assume no obligation, to update the forward-looking statements or to update the reasons why actual results could differ from those expressed in, or implied or projected by, the forward-looking statements.

OVERVIEW

Our business model continues to be client-focused, utilizing relationship teams to provide our clients with a specific banker contact and support team responsible for all of their banking needs. The purpose of this structure is to provide a consistent and superior level of professional service, and we believe it provides us with a distinct competitive advantage. We consider exceptional client service to be a critical part of our culture, which we refer to as "ClientFIRST."

At September 30, 2019, we had total assets of $2.20 billion, a 15.8% increase from total assets of $1.90 billion at December 31, 2018. The largest components of our total assets are loans, cash and cash equivalents and securities which were $1.84 billion, $134.5 million and $92.7 million, respectively, at September 30, 2019. Comparatively, our loans, cash and cash equivalents and securities totaled $1.68 billion, $72.9 million and $79.0 million, respectively, at December 31, 2018. Our liabilities and shareholders’ equity at September 30, 2019 totaled $2.00 billion and $198.5 million, respectively, compared to liabilities of $1.73 billion and shareholders’ equity of $173.9 million at December 31, 2018. The principal component of our liabilities is deposits which were $1.90 billion and $1.65 billion at September 30, 2019 and December 31, 2018, respectively.

Like most community banks, we derive the majority of our income from interest received on our loans and investments. Our primary source of funds for making these loans and investments is our deposits, on which we pay interest. Consequently, one of the key measures of our success is our amount of net interest income, or the difference between the income on our interest-earning assets, such as loans and investments, and the expense on our interest-bearing liabilities, such as deposits and borrowings. Another key measure is the spread between the yield we earn on these interest-earning assets and the rate we pay on our interest-bearing liabilities, which is called our net interest spread. In addition to earning interest on our loans and investments, we earn income through fees and other charges to our clients.

Our net income to common shareholders was $7.4 million and $5.8 million for the three months ended September 30, 2019 and 2018, respectively, an increase of $1.6 million, or 28.2%. Diluted earnings per share (“EPS”) was $0.95 for the third quarter of 2019 as compared to $0.75 for the same period in 2018. The increase in net income resulted primarily from increases in net interest income and noninterest income, which were partially offset by an increase in noninterest expense.

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Our net income to common shareholders was $20.7 million and $16.5 million for the nine months ended September 30, 2019 and 2018, respectively, an increase of $4.2 million, or 25.2%. Diluted EPS was $2.66 for the nine months ended September 30, 2019 as compared to $2.13 for the same period in 2018. The increase in net income resulted primarily from an increase in net interest income and noninterest income, which was partially offset by an increase in noninterest expense.

Economic conditions, competition, and the monetary and fiscal policies of the Federal government significantly affect most financial institutions, including the Bank. Lending and deposit activities and fee income generation are influenced by levels of business spending and investment, consumer income, consumer spending and savings, capital market activities, and competition among financial institutions, as well as customer preferences, interest rate conditions and prevailing market rates on competing products in our market areas.

RESULTS OF OPERATIONS

Net Interest Income and Margin
Our level of net interest income is determined by the level of earning assets and the management of our net interest margin. Our net interest income was $17.3 million for the three month period ended September 30, 2019, an 11.5% increase over net interest income of $15.5 million for the same period in 2018. In addition, our average earning assets increased 19.4%, or $331.0 million, during the third quarter of 2019 compared to the third quarter of 2018, while our average interest-bearing liabilities increased by $222.3 million, or 17.0%, during the same period. The increase in average earning assets was primarily related to an increase in average loans and federal funds sold, while the increase in average interest-bearing liabilities was primarily a result of an increase in average interest-bearing deposits.

We have included a number of tables to assist in our description of various measures of our financial performance. For example, the “Average Balances, Income and Expenses, Yields and Rates” table reflects the average balance of each category of our assets and liabilities as well as the yield we earned or the rate we paid with respect to each category during the three and nine month periods ended September 30, 2019 and 2018. A review of this table shows that our loans typically provide higher interest yields than do other types of interest-earning assets, which is why we direct a substantial percentage of our earning assets into our loan portfolio. Similarly, the “Rate/Volume Analysis” table demonstrates the effect of changing interest rates and changing volume of assets and liabilities on our financial condition during the periods shown. We also track the sensitivity of our various categories of assets and liabilities to changes in interest rates, and we have included tables to illustrate our interest rate sensitivity with respect to interest-earning accounts and interest-bearing accounts.

The following table sets forth information related to our average balance sheets, average yields on assets, and average costs of liabilities. We derived these yields by dividing income or expense by the average balance of the corresponding assets or liabilities. We derived average balances from the daily balances throughout the periods indicated. During the same periods, we had no securities purchased with agreements to resell. All investments owned have an original maturity of over one year. Nonaccrual loans are included in the following tables. Loan yields have been reduced to reflect the negative impact on our earnings of loans on nonaccrual status. The net of capitalized loan costs and fees are amortized into interest income on loans.

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Average Balances, Income and Expenses, Yields and Rates
 
For the Three Months Ended September 30,
2019 2018
Average Income/ Yield/ Average Income/ Yield/
(dollars in thousands) Balance Expense Rate(1) Balance Expense Rate(1)
Interest-earning assets
Federal funds sold and interest-bearing
deposits with banks     $    111,169     $    663     2.37 %     $    44,532     $    219     1.95 %
Investment securities, taxable 83,183 538 2.57 % 66,706 446 2.65 %
Investment securities, nontaxable(2) 5,097 51 3.94 % 5,431 53 3.89 %
Loans(3) 1,840,450 22,817 4.92 % 1,592,279 19,159 4.77 %
Total interest-earning assets 2,039,899 24,069 4.68 % 1,708,948 19,877 4.61 %
Noninterest-earning assets 109,395 77,708
Total assets $ 2,149,294 $ 1,786,656
Interest-bearing liabilities
NOW accounts $ 215,125 159 0.29 % $ 240,454 121 0.20 %
Savings & money market 899,407 4,106 1.81 % 686,609 2,324 1.34 %
Time deposits 374,200 2,144 2.27 % 328,516 1,483 1.79 %
Total interest-bearing deposits 1,488,732 6,409 1.71 % 1,255,579 3,928 1.24 %
FHLB advances and other borrowings 25,037 218 3.45 % 36,151 285 3.13 %
Subordinated debentures 13,642 150 4.36 % 13,403 151 4.47 %
Total interest-bearing liabilities 1,527,411 6,777 1.76 % 1,305,133<