SMMF Summit Financial Group Inc

Commission File Number 0-16587  

Summit Financial Group, Inc.

(Exact name of registrant as specified in its charter)

West Virginia	55-0672148
(State or other jurisdiction of	(IRS Employer
incorporation or organization)	Identification No.)

300 North Main Street
Moorefield, West Virginia	26836
(Address of principal executive offices)	(Zip Code)

(304) 530-1000

(Registrant's telephone number, including area code)

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Consolidated Statements of Shareholders’ Equity (unaudited)

Dollars in thousands, except per share amounts	Common Stock and Related Surplus				Unallocated Common Stock Held by ESOP				Retained Earnings				Accumulated Other Compre- hensive Income (Loss)				Total Share- holders' Equity
Balance, December 31, 2018	$	80,431			$	(939	)		$	141,354			$	(1,016	)		$	219,830
Three Months Ended March 31, 2019
Net income	—				—				7,092				—				7,092
Other comprehensive income	—				—				—				2,130				2,130
Share-based compensation expense	132				—				—				—				132
Unallocated ESOP shares committed to be released - 5,115 shares	65				55				—				—				120
Retirement of 125,200 shares of common stock	(2,876		)		—				—				—				(2,876		)
Acquisition of Peoples Bankshares, Inc. - 465,931 shares, net of issuance costs	8,918				—				—				—				8,918
Common stock issuances from reinvested dividends - 2,309 shares	59				—				—				—				59
Common stock cash dividends declared ($0.14 per share)	—				—				(1,775		)		—				(1,775		)
Balance, March 31, 2019	$	86,729			$	(884	)		$	146,671			$	1,114			$	233,630
Balance, December 31, 2017	$	81,098			$	(1,152	)		$	119,827			$	1,732			$	201,505
Three Months Ended March 31, 2018
Net income	—				—				7,443				—				7,443
Other comprehensive loss	—				—				—				(2,620		)		(2,620		)
Exercise of stock options - 200 shares	4				—				—				—				4
Share-based compensation expense	94				—				—				—				94
Unallocated ESOP shares committed to be released - 5,081 shares	73				54				—				—				127
Common stock issuances from reinvested dividends - 2,517 shares	63				—				—				—				63
Common stock cash dividends declared ($0.13 per share)	—				—				(1,607		)		—				(1,607		)
Balance, March 31, 2018	$	81,332			$	(1,098	)		$	125,663			$	(888	)		$	205,009

See Notes to Consolidated Financial Statements

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Consolidated Statements of Cash Flows (unaudited)

		Three Months Ended
Dollars in thousands		March 31, 2019				March 31, 2018
Cash Flows from Operating Activities
Net income		$	7,092			$	7,443
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation		601				527
Provision for loan losses		250				500
Share-based compensation expense		132				94
Deferred income tax benefit		(313		)		(155		)
Loans originated for sale		(3,946		)		(4,122		)
Proceeds from sale of loans		3,980				3,984
Gains on loans held for sale		(67		)		(83		)
Realized securities losses (gains), net		3				(732		)
Gain on disposal of assets		(2		)		(72		)
Write-downs of foreclosed properties		249				257
Amortization of securities premiums, net		655				990
Accretion related to acquisitions, net		(76		)		(204		)
Amortization of intangibles		476				436
Earnings on bank owned life insurance		(328		)		(309		)
Decrease (increase) in accrued interest receivable		311				(17		)
Decrease in other assets		69				117
Increase in other liabilities		2,140				2,043
Net cash provided by operating activities		11,226				10,697
Cash Flows from Investing Activities
Proceeds from maturities and calls of securities available for sale		1,100				55
Proceeds from sales of securities available for sale		79,776				39,267
Principal payments received on securities available for sale		4,684				6,690
Purchases of securities available for sale		(31,839		)		(18,825		)
Purchases of other investments		(1,348		)		(2,765		)
Proceeds from redemptions of other investments		5,330				4,378
Net loan originations		(5,295		)		(38,854		)
Purchases of premises and equipment		(708		)		(1,872		)
Proceeds from disposal of premises and equipment		3				9
Improvements to property held for sale		(1		)		(101		)
Proceeds from sales of repossessed assets & property held for sale		451				644
Cash and cash equivalents acquired in acquisition, net of $12,740 cash consideration paid		20,589				—
Net cash provided by (used in) investing activities		72,742				(11,374		)
Cash Flows from Financing Activities
Net increase in demand deposit, NOW and savings accounts		25,880				27,160
Net increase in time deposits		16,032				26,824
Net decrease in short-term borrowings		(122,791		)		(56,987		)
Repayment of long-term borrowings		(4		)		(4		)
Proceeds from issuance of common stock, net of issuance costs		(20		)		63
Purchase and retirement of common stock		(2,876		)		—
Exercise of stock options		—				4
Dividends paid on common stock		(1,775		)		(1,607		)
Net cash used in financing activities		(85,554		)		(4,547		)
Decrease in cash and cash equivalents		(1,586		)		(5,224		)
Cash and cash equivalents:
Beginning		59,540				52,631
Ending		$	57,954			$	47,407
(Continued)
See Notes to Consolidated Financial Statements

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Consolidated Statements of Cash Flows (unaudited) - continued

		Three Months Ended
Dollars in thousands		March 31, 2019				March 31, 2018
Supplemental Disclosures of Cash Flow Information
Cash payments for:
Interest		$	7,134			$	5,574
Income taxes		$	—			$	—
Supplemental Disclosures of Noncash Investing and Financing Activities
Real property and other assets acquired in settlement of loans		$	3,691			$	641
Supplemental Disclosures of Noncash Transactions Included in Acquisition
Assets acquired		$	100,377			$	—
Liabilities assumed		$	114,151			$	—

See Notes to Consolidated Financial Statements

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NOTE 1.  BASIS OF PRESENTATION

We, Summit Financial Group, Inc. and subsidiaries, prepare our consolidated financial statements in accordance with accounting principles generally accepted in the United States of America for interim financial information and with instructions to Form 10-Q and 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 annual year end financial statements.  In our opinion, all adjustments considered necessary for a fair presentation have been included and are of a normal recurring nature.

The presentation of financial statements in conformity with accounting principles generally accepted in the United States of America requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period.  Actual results could differ materially from these estimates.

The results of operations for the three months ended March 31, 2019 are not necessarily indicative of the results to be expected for the full year.  The consolidated financial statements and notes included herein should be read in conjunction with our 2018 audited financial statements and Annual Report on Form 10-K. 

NOTE 2.  SIGNIFICANT NEW AUTHORITATIVE ACCOUNTING GUIDANCE

Recently Adopted

We adopted ASU No. 2016-02, Leases (Topic 842) and its related amendments on its required effective date of January 1, 2019 utilizing the modified retrospective approach. Since there was no net income impact upon adoption of the new guidance, a cumulative effect adjustment to opening retained earnings was not deemed necessary. The impact, deemed insignificant, to our consolidated financial position upon adoption was the recognition, on a discounted basis, of our minimum commitments under non-cancellable operating leases on our consolidated balance sheets resulting in the recording of right of use assets and lease obligations of approximately $870,000 which is related to long-term operating leases of premises and leases of equipment used in operations. The right-of-use assets and lease liabilities are included in other assets and other liabilities in the Consolidated Balance Sheets. Our current minimum commitments under long-term operating leases are disclosed in Note 12, Commitments and Contingencies.

We adopted ASU No. 2017-08, Receivables-Nonrefundable Fees and Other Costs (Subtopic 310-20): Premium Amortization on Purchased Callable Debt Securities on its required effective date of January 1, 2019. This guidance shortens the amortization period for premiums on certain callable debt securities to the earliest call date (with an explicit, noncontingent call feature that is callable at a fixed price and on a preset date), rather than contractual maturity date as currently required under GAAP. The ASU does not impact instruments without preset call dates such as mortgage-backed securities.  For instruments with contingent call features, once the contingency is resolved and the security is callable at a fixed price and preset date, the security is within the scope of the ASU.  The adoption of the new pronouncement did not have a significant impact on our consolidated financial statements.

 

Pending Adoption

During June 2016, the FASB issued ASU No. 2016-13, Financial Instruments - Credit Losses (Topic 326) - Measurement of Credit Losses on Financial Instruments . The amendments in this ASU, among other things, require the measurement of all expected credit losses for financial assets held at the reporting date based on historical experience, current conditions and reasonable and supportable forecasts. Financial institutions and other organizations will now use forward-looking information to better inform their credit loss estimates. Many of the loss estimation techniques applied today will still be permitted, although the inputs to those techniques will change to reflect the full amount of expected credit losses. In addition, the ASU amends the accounting for credit losses on available-for-sale debt securities and purchased financial assets with credit deterioration. The amendments in this ASU are effective for SEC filers for fiscal years and interim periods within those fiscal years, beginning after December 15, 2019. We will adopt the guidance by the first quarter of 2020 with a cumulative-effect adjustment to retained earnings as of the beginning of the year of adoption. In this regard, we have a cross-functional implementation team comprised of personnel from risk management, operations and information technology, loan administration and finance and engaged a third-party to assist us. The team has developed a project plan, identified key decision points and prepared a readiness assessment and gap analysis relative to required data which serves to direct our areas of focus. In addition, we have collected applicable historical data and made preliminary decisions regarding methodology and loan pool structures. We will continue to evaluate the impact the new standard will have on our consolidated financial

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statements as the final impact will be dependent, among other items, upon the loan portfolio composition and credit quality at the adoption date, as well as economic conditions, financial models used and forecasts at that time.

In August 2018, the FASB issued ASU 2018-13, Fair Value Measurement (Topic 820): Disclosure Framework-Changes to the Disclosure Requirements for Fair Value Measurement . The amendments modify the disclosure requirements in Topic 820 to add disclosures regarding changes in unrealized gains and losses, the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements and the narrative description of measurement uncertainty. Certain disclosure requirements in Topic 820 are also removed or modified. The amendments are effective for fiscal years beginning after December 15, 2019, and interim periods within those fiscal years. Certain of the amendments are to be applied prospectively while others are to be applied retrospectively. Early adoption is permitted. We do not expect the adoption of ASU 2018-13 to have a material impact on our consolidated financial statements.

NOTE 3.  FAIR VALUE MEASUREMENTS

The table below presents the recorded amount of assets and liabilities measured at fair value on a recurring basis.

	Balance at				Fair Value Measurements Using:
Dollars in thousands	March 31, 2019				Level 1				Level 2				Level 3
Securities available for sale
U.S. Government sponsored agencies	$	25,046			$	—			$	25,046			$	—
Mortgage backed securities:
Government sponsored agencies	82,458				—				82,458				—
Nongovernment sponsored entities	7,729				—				7,729				—
State and political subdivisions	20,547				—				20,547				—
Corporate debt securities	15,450				—				15,450				—
Asset-backed securities	33,834				—				33,834				—
Tax-exempt state and political subdivisions	112,062				—				112,062				—
Total securities available for sale	$	297,126			$	—			$	297,126			$	—
Derivative financial assets
Interest rate swaps	$	240			$	—			$	240			$	—
Derivative financial liabilities
Interest rate swaps	$	423			$	—			$	423			$	—

	Balance at				Fair Value Measurements Using:
Dollars in thousands	December 31, 2018				Level 1				Level 2				Level 3
Securities available for sale
U.S. Government sponsored agencies	$	26,140			$	—			$	26,140			$	—
Mortgage backed securities:
Government sponsored agencies	80,309				—				80,309				—
Nongovernment sponsored entities	614				—				614				—
State and political subdivisions	19,243				—				19,243				—
Corporate debt securities	14,512				—				14,512				—
Asset-backed securities	25,175				—				25,175				—
Tax-exempt state and political subdivisions	127,154				—				127,154				—
Total securities available for sale	$	293,147			$	—			$	293,147			$	—
Derivative financial assets
Interest rate swaps	$	555			$	—			$	555			$	—
Derivative financial liabilities
Interest rate swaps	$	411			$	—			$	411			$	—

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We may be required, from time to time, to measure certain assets at fair value on a nonrecurring basis in accordance with U.S. generally accepted accounting principles.  These include assets that are measured at the lower of cost or market that were recognized at fair value below cost at the end of the period.  Assets measured at fair value on a nonrecurring basis are included in the table below.

	Balance at				Fair Value Measurements Using:
Dollars in thousands	March 31, 2019				Level 1				Level 2				Level 3
Residential mortgage loans held for sale	$	433			$	—			$	433			$	—
Collateral-dependent impaired loans
Commercial	$	57			$	—			$	8			$	49
Commercial real estate	420				$	—			420				—
Construction and development	758				$	—			758				—
Residential real estate	799				—				799				—
Total collateral-dependent impaired loans	$	2,034			$	—			$	1,985			$	49
Property held for sale
Commercial real estate	$	1,627			$	—			$	1,627			$	—
Construction and development	16,522				—				16,522				—
Residential real estate	643				—				643				—
Total property held for sale	$	18,792			$	—			$	18,792			$	—

	Balance at				Fair Value Measurements Using:
Dollars in thousands	December 31, 2018				Level 1				Level 2				Level 3
Residential mortgage loans held for sale	$	400			$	—			$	400			$	—
Collateral-dependent impaired loans
Commercial	$	2,660			$	—			$	2,611			$	49
Commercial real estate	420				—				420				—
Construction and development	759				—				759				—
Residential real estate	763				—				763				—
Total collateral-dependent impaired loans	$	4,602			$	—			$	4,553			$	49
Property held for sale
Commercial real estate	$	1,677			$	—			$	1,677			$	—
Construction and development	16,363				—				16,363				—
Residential real estate	403				—				403				—
Total property held for sale	$	18,443			$	—			$	18,443			$	—

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The carrying values and estimated fair values of our financial instruments are summarized below:

		March 31, 2019								Fair Value Measurements Using:
Dollars in thousands		Carrying Value				Estimated Fair Value				Level 1			Level 2			Level 3
Financial assets
Cash and cash equivalents		$	57,954			$	57,954			$	—		$	57,954		$	—
Securities available for sale		297,126				297,126				—			297,126			—
Other investments		12,597				12,597				—			12,597			—
Loans held for sale, net		433				433				—			433			—
Loans, net		1,725,064				1,729,204				—			1,985			1,727,219
Accrued interest receivable		8,828				8,828				—			8,828			—
Derivative financial assets		240				240				—			240			—
		$	2,102,242			$	2,106,382			$	—		$	379,163		$	1,727,219
Financial liabilities
Deposits		$	1,789,032			$	1,785,991			$	—		$	1,785,991		$	—
Short-term borrowings		186,292				186,292				—			186,292			—
Long-term borrowings		730				854				—			854			—
Subordinated debentures owed to unconsolidated subsidiary trusts		19,589				19,589				—			19,589			—
Accrued interest payable		1,262				1,262				—			1,262			—
Derivative financial liabilities		423				423				—			423			—
		$	1,997,328			$	1,994,411			$	—		$	1,994,411		$	—

		December 31, 2018								Fair Value Measurements Using:
Dollars in thousands		Carrying Value				Estimated Fair Value				Level 1			Level 2			Level 3
Financial assets
Cash and cash equivalents		$	59,540			$	59,540			$	—		$	59,540		$	—
Securities available for sale		293,147				293,147				—			293,147			—
Other investments		16,635				16,635				—			16,635			—
Loans held for sale, net		400				400				—			400			—
Loans, net		1,682,005				1,666,834				—			4,553			1,662,281
Accrued interest receivable		8,708				8,708				—			8,708			—
Derivative financial assets		555				555				—			555			—
		$	2,060,990			$	2,045,819			$	—		$	383,538		$	1,662,281
Financial liabilities
Deposits		$	1,634,826			$	1,631,456			$	—		$	1,631,456		$	—
Short-term borrowings		309,084				309,084				—			309,084			—
Long-term borrowings		735				843				—			843			—
Subordinated debentures owed to unconsolidated subsidiary trusts		19,589				19,589				—			19,589			—
Accrued interest payable		1,102				1,102				—			1,102			—
Derivative financial liabilities		411				411				—			411			—
		$	1,965,747			$	1,962,485			$	—		$	1,962,485		$	—

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NOTE 4.  EARNINGS PER SHARE

The computations of basic and diluted earnings per share follow:

		For the Three Months Ended March 31,
		2019											2018
Dollars in thousands,except per share amounts		Net Income (Numerator)				Common Shares (Denominator)			Per Share				Net Income (Numerator)				Common Shares (Denominator)			Per Share
Net income		$	7,092										$	7,443
Basic earnings per share		$	7,092			12,717,501			$	0.56			$	7,443			12,358,849			$	0.60
Effect of dilutive securities:
Stock options						5,313											7,521
Stock appreciation rights (SARs)						55,831											17,387
Diluted earnings per share		$	7,092			12,778,644			$	0.56			$	7,443			12,383,757			$	0.60

Stock option and stock appreciation right (SAR) grants are disregarded in this computation if they are determined to be anti-dilutive.  Our anti-dilutive stock options for the quarters ended March 31, 2019 and March 31, 2018 were 7,700 shares and 15,600 shares respectively. Our anti-dilutive SARs for the quarters ended March 31, 2019 and March 31, 2018 were 222,740 and 87,615 , respectively .

NOTE 5.  DEBT SECURITIES

The amortized cost, unrealized gains, unrealized losses and estimated fair values of securities at March 31, 2019 and December 31, 2018 are summarized as follows:

	March 31, 2019
	Amortized				Unrealized								Estimated
Dollars in thousands	Cost				Gains				Losses				Fair Value
Available for Sale
Taxable debt securities
U.S. Government and agencies and corporations	$	25,185			$	213			$	352			$	25,046
Residential mortgage-backed securities:
Government-sponsored agencies	82,661				674				877				82,458
Nongovernment-sponsored entities	7,818				4				93				7,729
State and political subdivisions
General obligations	7,071				13				27				7,057
Other revenues	13,450				70				30				13,490
Corporate debt securities	15,740				10				300				15,450
Asset-backed securities	34,194				—				360				33,834
Total taxable debt securities	186,119				984				2,039				185,064
Tax-exempt debt securities
State and political subdivisions
General obligations	57,027				1,921				23				58,925
Water and sewer revenues	15,776				435				5				16,206
Lease revenues	11,545				419				—				11,964
Other revenues	24,518				474				25				24,967
Total tax-exempt debt securities	108,866				3,249				53				112,062
Total securities available for sale	$	294,985			$	4,233			$	2,092			$	297,126

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	December 31, 2018
	Amortized				Unrealized								Estimated
Dollars in thousands	Cost				Gains				Losses				Fair Value
Available for Sale
Taxable debt securities
U.S. Government and agencies and corporations	$	26,303			$	203			$	366			$	26,140
Residential mortgage-backed securities:
Government-sponsored agencies	80,883				603				1,177				80,309
Nongovernment-sponsored entities	611				4				1				614
State and political subdivisions
General obligations	6,081				—				126				5,955
Other revenues	13,457				17				186				13,288
Corporate debt securities	14,807				9				304				14,512
Asset-backed securities	25,288				10				123				25,175
Total taxable debt securities	167,430				846				2,283				165,993
Tax-exempt debt securities
State and political subdivisions
General obligations	65,626				624				344				65,906
Water and sewer revenues	20,018				225				98				20,145
Lease revenues	10,980				135				7				11,108
Other revenues	30,197				77				279				29,995
Total tax-exempt debt securities	126,821				1,061				728				127,154
Total securities available for sale	$	294,251			$	1,907			$	3,011			$	293,147

The below information is relative to the five states where issuers with the highest volume of state and political subdivision securities held in our portfolio are located.  We own no such securities of any single issuer which we deem to be a concentration.

	March 31, 2019
	Amortized				Unrealized								Estimated
Dollars in thousands	Cost				Gains				Losses				Fair Value
California	$	20,546			$	823			$	6			$	21,363
Michigan	14,287				375				12				14,650
Texas	12,137				379				10				12,506
Illinois	12,226				263				9				12,480
West Virginia	10,882				172				25				11,029

Management performs pre-purchase and ongoing analysis to confirm that all investment securities meet applicable credit quality standards.  

The maturities, amortized cost and estimated fair values of securities at March 31, 2019 , are summarized as follows:

Dollars in thousands		Amortized Cost				Estimated Fair Value
Due in one year or less		$	36,384			$	36,351
Due from one to five years		81,630				81,384
Due from five to ten years		57,935				57,352
Due after ten years		119,036				122,039
		$	294,985			$	297,126

The proceeds from sales, calls and maturities of securities available for sale, including principal payments received on mortgage-backed obligations, and the related gross gains and losses realized, for the three months ended March 31, 2019 and 2018 are as follows:

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		Proceeds from												Gross realized
Dollars in thousands		Sales				Calls and Maturities				Principal Payments				Gains				Losses
For the Three Months Ended   March 31,
2019
	Securities available for sale	$	79,776			$	1,100			$	4,684			$	105			$	108
2018
	Securities available for sale	$	39,267			$	55			$	6,690			$	1,474			$	742

We held 93 available for sale securities having an unrealized loss at March 31, 2019 .  We do not intend to sell these securities, and it is more likely than not that we will not be required to sell these securities before recovery of their amortized cost bases.  We believe that this decline in value is primarily attributable to the lack of market liquidity and to changes in market interest rates and is not due to credit quality.  Accordingly, no other-than-temporary impairment charge to earnings is warranted at this time.

Provided below is a summary of securities available for sale which were in an unrealized loss position at March 31, 2019 and December 31, 2018 .

	March 31, 2019
			Less than 12 months								12 months or more								Total
Dollars in thousands	# of securities in loss position		Estimated Fair Value				Unrealized Loss				Estimated Fair Value				Unrealized Loss				Estimated Fair Value				Unrealized Loss
Taxable debt securities
U.S. Government agencies and corporations	15		$	1,925			$	30			$	16,576			$	322			$	18,501			$	352
Residential mortgage-backed securities:
Government-sponsored agencies	32		17,412				230				26,153				647				43,565				877
Nongovernment-sponsored entities	3		5,804				92				327				1				6,131				93
State and political subdivisions:
General obligations	8		—				—				5,319				27				5,319				27
Other revenues	8		—				—				5,879				30				5,879				30
Corporate debt securities	7		3,692				90				2,540				210				6,232				300
Asset-backed securities	14		32,767				360				—				—				32,767				360
Tax-exempt debt securities
State and political subdivisions:
General obligations	4		—				—				3,023				23				3,023				23
Water and sewer revenues	1		—				—				1,163				5				1,163				5
Other revenues	1		—				—				1,013				25				1,013				25
Total	93		61,600				802				61,993				1,290				123,593				2,092

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	December 31, 2018
			Less than 12 months								12 months or more								Total
Dollars in thousands	# of securities in loss position		Estimated Fair Value				Unrealized Loss				Estimated Fair Value				Unrealized Loss				Estimated Fair Value				Unrealized Loss
Taxable debt securities
U.S. Government agencies and       corporations	15		$	12,185			$	184			$	7,464			$	182			$	19,649			$	366
Residential mortgage-backed securities:
Government-sponsored agencies	37		23,277				241				24,472				936				47,749				1,177
Nongovernment-sponsored entities	1		—				—				436				1				436				1
State and political subdivisions:
General obligations	8		—				—				5,222				126				5,222				126
Other revenues	11		968				16				9,450				170				10,418				186
Corporate debt securities	7		2,759				109				4,587				195				7,346				304
Asset-backed securities	9		20,129				123				—				—				20,129				123
Tax-exempt debt securities
State and political subdivisions:
General obligations	25		7,273				50				16,830				294				24,103				344
Water and sewer revenues	7		989				6				4,311				92				5,300				98
Lease revenues	2		553				—				557				7				1,110				7
Other revenues	12		7,309				62				11,531				217				18,840				279
Total	134		75,442				791				84,860				2,220				160,302				3,011

NOTE 6.  LOANS

Loans are summarized as follows:

Dollars in thousands		March 31, 2019				December 31, 2018
Commercial		$	189,248			$	194,315
Commercial real estate
Owner-occupied		272,088				266,362
Non-owner occupied		570,392				564,826
Construction and development
Land and land development		64,192				68,833
Construction		36,040				24,731
Residential real estate
Non-jumbo		359,107				336,977
Jumbo		69,313				73,599
Home equity		80,370				80,910
Mortgage warehouse lines		49,355				39,140
Consumer		36,046				32,460
Other		12,045				12,899
Total loans, net of unearned fees		1,738,196				1,695,052
Less allowance for loan losses		13,132				13,047
Loans, net		$	1,725,064			$	1,682,005

The outstanding balance and the recorded investment of acquired loans included in the consolidated balance sheet at March 31, 2019 and December 31, 2018 are as follows:

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		Acquired Loans
		March 31, 2019												December 31, 2018
Dollars in thousands		Purchased Credit Impaired				Purchased Performing				Total				Purchased Credit Impaired				Purchased Performing				Total
Outstanding balance		$	4,240			$	170,263			$	174,503			$	4,275			$	138,167			$	142,442
Recorded investment
Commercial		$	—			$	4,474			$	4,474			$	—			$	3,934			$	3,934
Commercial real estate
Owner-occupied		—				20,346				20,346				—				16,133				16,133
Non-owner occupied		1,186				25,053				26,239				1,162				23,431				24,593
Construction and development
Land and land development		—				4,865				4,865				—				5,161				5,161
Construction		—				—				—				—				—				—
Residential real estate
Non-jumbo		1,319				99,876				101,195				1,374				77,894				79,268
Jumbo		963				3,188				4,151				975				2,577				3,552
Home equity		—				2,497				2,497				—				2,805				2,805
Consumer		—				7,445				7,445				—				4,630				4,630
Other		—				116				116				—				122				122
Total recorded investment		$	3,468			$	167,860			$	171,328			$	3,511			$	136,687			$	140,198

The following table presents a summary of the change in the accretable yield of the purchased credit impaired ("PCI") loan portfolio for the three months ended March 31, 2019 and 2018 :

		For the Three Months Ended March 31,
Dollars in thousands		2019				2018
Accretable yield		$	632			$	745
Accretion		(8		)		(37		)
Reclassification of nonaccretable difference due to improvement     in expected cash flows		—				—
Other changes, net		(1		)		—
Accretable yield, March 31		$	623			$	708

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The following table presents the contractual aging of the recorded investment in past due loans by class as of March 31, 2019 and December 31, 2018 .

	At March 31, 2019
	Past Due																				> 90 days and Accruing
Dollars in thousands	30-59 days				60-89 days				> 90 days				Total				Current
Commercial	$	181			$	171			$	346			$	698			$	188,550			$	—
Commercial real estate
Owner-occupied	1,593				2,259				607				4,459				267,629				—
Non-owner occupied	276				—				1,573				1,849				568,543				—
Construction and development
Land and land development	12				167				—				179				64,013				—
Construction	—				—				—				—				36,040				—
Residential mortgage
Non-jumbo	3,524				404				2,772				6,700				352,407				—
Jumbo	—				—				—				—				69,313				—
Home equity	122				24				243				389				79,981				68
Mortgage warehouse lines	—				—				—				—				49,355				—
Consumer	406				55				160				621				35,425				37
Other	41				—				130				171				11,874				—
Total	$	6,155			$	3,080			$	5,831			$	15,066			$	1,723,130			$	105

 

	At December 31, 2018
	Past Due																				> 90 days and Accruing
Dollars in thousands	30-59 days				60-89 days				> 90 days				Total				Current
Commercial	$	254			$	51			$	483			$	788			$	193,527			$	—
Commercial real estate
Owner-occupied	—				—				612				612				265,750				—
Non-owner occupied	156				255				1,756				2,167				562,659				—
Construction and development
Land and land development	190				4				3,174				3,368				65,465				—
Construction	—				—				—				—				24,731				—
Residential mortgage
Non-jumbo	4,120				2,235				3,753				10,108				326,869				—
Jumbo	—				—				675				675				72,924				—
Home equity	754				261				181				1,196				79,714				—
Mortgage warehouse lines	—				—				—				—				39,140				—
Consumer	502				121				125				748				31,712				36
Other	31				—				—				31				12,868				—
Total	$	6,007			$	2,927			$	10,759			$	19,693			$	1,675,359			$	36

Nonaccrual loans:   The following table presents the nonaccrual loans included in the net balance of loans at March 31, 2019 and December 31, 2018 .

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		March 31,				December 31,
Dollars in thousands		2019				2018
Commercial		$	729			$	935
Commercial real estate
Owner-occupied		1,096				1,028
Non-owner occupied		1,885				2,210
Construction and development
Land & land development		24				3,198
Construction		—				—
Residential mortgage
Non-jumbo		4,937				6,532
Jumbo		652				675
Home equity		270				299
Mortgage warehouse lines		—				—
Consumer		146				112
Other		130				—
Total		$	9,869			$	14,989

 

Impaired loans:   Impaired loans include the following:

▪

Loans which we risk-rate (loan relationships having aggregate balances in excess of $ 2.5 million , or loans exceeding $ 500,000 and exhibiting credit weakness) through our normal loan review procedures and which, based on current information and events, it is probable that we will be unable to collect all amounts due in accordance with the original contractual terms of the loan agreement.   Risk-rated loans with insignificant delays or insignificant short falls in the amount of payments expected to be collected are not considered to be impaired.

▪	Loans that have been modified in a troubled debt restructuring.

Both commercial and consumer loans are deemed impaired upon being contractually modified in a troubled debt restructuring. Troubled debt restructurings typically result from our loss mitigation activities and occur when we grant a concession to a borrower who is experiencing financial difficulty in order to minimize our economic loss and to avoid foreclosure or repossession of collateral.  Once restructured, a loan is generally considered impaired until its maturity, regardless of whether the borrower performs under the modified terms.  Although such a loan may be returned to accrual status if the criteria set forth in accounting principles generally accepted in the United States are met, the loan would continue to be evaluated for an asset-specific allowance for loan losses and we would continue to report the loan in the impaired loan table below.

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The following tables present loans individually evaluated for impairment at March 31, 2019 and December 31, 2018 .

	March 31, 2019
Dollars in thousands	Recorded Investment				Unpaid Principal Balance				Related Allowance				Average Impaired Balance				Interest Income Recognized while impaired
Without a related allowance
Commercial	$	5,371			$	5,371			$	—			$	5,371			$	345
Commercial real estate
Owner-occupied	8,896				8,902				—				8,774				376
Non-owner occupied	10,083				10,090				—				9,919				505
Construction and development
Land & land development	1,583				1,583				—				1,583				92
Construction	—				—				—				—				—
Residential real estate
Non-jumbo	3,396				3,402				—				3,349				166
Jumbo	4,066				4,065				—				4,066				191
Home equity	523				523				—				523				31
Mortgage warehouse lines	—				—				—				—				—
Consumer	22				22				—				12				1
Total without a related allowance	$	33,940			$	33,958			$	—			$	33,597			$	1,707
With a related allowance
Commercial	$	80			$	80			$	22			$	80			$	—
Commercial real estate
Owner-occupied	2,933				2,932				447				2,933				114
Non-owner occupied	—				—				—				—				—
Construction and development
Land & land development	1,046				1,046				288				1,046				58
Construction	—				—				—				—				—
Residential real estate
Non-jumbo	2,854				2,853				615				2,785				101
Jumbo	817				817				104				817				47
Home equity	—				—				—				—				—
Mortgage warehouse lines	—				—				—				—				—
Consumer	—				—				—				—				—
Total with a related allowance	$	7,730			$	7,728			$	1,476			$	7,661			$	320
Total
Commercial	$	29,992			$	30,004			$	757			$	29,706			$	1,490
Residential real estate	11,656				11,660				719				11,540				536
Consumer	22				22				—				12				1
Total	$	41,670			$	41,686			$	1,476			$	41,258			$	2,027

The table above does not include PCI loans.

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	December 31, 2018
Dollars in thousands	Recorded Investment				Unpaid Principal Balance				Related Allowance				Average Impaired Balance				Interest Income Recognized while impaired
Without a related allowance
Commercial	$	1,019			$	1,253			$	—			$	321			$	16
Commercial real estate
Owner-occupied	8,600				8,605				—				7,730				318
Non-owner occupied	9,666				9,673				—				9,753				493
Construction and development
Land & land development	4,767				4,767				—				4,947				102
Construction	—				—				—				—				—
Residential real estate
Non-jumbo	3,279				3,284				—				3,401				180
Jumbo	4,132				4,130				—				3,517				166
Home equity	523				523				—				523				30
Mortgage warehouse lines	—				—				—				—				—
Consumer	9				10				—				13				1
Total without a related allowance	$	31,995			$	32,245			$	—			$	30,205			$	1,306
With a related allowance
Commercial	$	3,343			$	3,342			$	682			$	705			$	39
Commercial real estate
Owner-occupied	2,969				2,969				462				2,397				117
Non-owner occupied	189				191				9				226				16
Construction and development
Land & land development	1,057				1,057				298				1,073				56
Construction	—				—				—				—				—
Residential real estate
Non-jumbo	2,982				2,981				585				2,539				98
Jumbo	821				822				106				827				48
Home equity	—				—				—				—				—
Mortgage warehouse lines	—				—				—				—				—
Consumer	—				—				—				—				—
Total with a related allowance	$	11,361			$	11,362			$	2,142			$	7,767			$	374
Total
Commercial	$	31,610			$	31,857			$	1,451			$	27,152			$	1,157
Residential real estate	11,737				11,740				691				10,807				522
Consumer	9				10				—				13				1
Total	$	43,356			$	43,607			$	2,142			$	37,972			$	1,680

The table above does not include PCI loans.

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Included in impaired loans are TDRs of $27.8 million , of which $25.2 million were current with respect to restructured contractual payments at March 31, 2019 , and $27 million , of which $26.6 million were current with respect to restructured contractual payments at December 31, 2018 .  There were no commitments to lend additional funds under these restructurings at either balance sheet date.

The following tables present by class the TDRs that were restructured during the three months ended March 31, 2019 and March 31, 2018 . Generally, the modifications were extensions of term, modifying the payment terms from principal and interest to interest only for an extended period, or reduction in interest rate.  All TDRs are evaluated individually for allowance for loan loss purposes.

	For the Three Months Ended   March 31, 2019											For the Three Months Ended   March 31, 2018
Dollars in thousands	Number of Modifications			Pre-modification Recorded Investment				Post-modification Recorded Investment				Number of Modifications			Pre-modification Recorded Investment				Post-modification Recorded Investment
Commercial real estate
Owner-occupied	1			$	325			$	325			—			$	—			$	—
Non-owner occupied	4			324				324				—			—				—
Residential real estate
Non-jumbo	7			410				410				1			63				63
Consumer	1			16				16				—			—				—
Total	13			$	1,075			$	1,075			1			$	63			$	63

The following tables present defaults during the stated period of TDRs that were restructured during the past twelve months. For purposes of these tables, a default is considered as either the loan was past due 30 days or more at any time during the period, or the loan was fully or partially charged off during the period.

	For the Three Months Ended   March 31, 2019							For the Three Months Ended   March 31, 2018
Dollars in thousands	Number of Defaults			Recorded Investment at Default Date				Number of Defaults			Recorded Investment at Default Date
Commercial	2			$	157			—			$	—
Commercial real estate
Non-owner occupied	1			126				1			341
Construction and development
Land & land development	—			—				1			438
Residential real estate
Non-jumbo	7			760				1			64
Total	10			$	1,043			3			$	843

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The following tables detail the activity regarding TDRs by loan type, net of fees, for the three months ended March 31, 2019 , and the related allowance on TDRs.

For the Three Months Ended March 31, 2019
	Construction & Land Development												Commercial Real Estate								Residential Real Estate
Dollars in thousands	Land & Land Develop- ment				Construc- tion				Commer- cial				Owner Occupied				Non- Owner Occupied				Non- jumbo				Jumbo				Home Equity				Mortgage Warehouse Lines				Con- sumer				Other				Total
Troubled debt restructurings
Balance January 1, 2019	$	2,654			$	—			$	273			$	9,365			$	5,404			$	4,490			$	4,278			$	523			$	—			$	10			$	—			$	26,997
Additions	—				—				—				325				324				410				—				—				—				16				—				1,075
Charge-offs	—				—				—				—				—				—				—				—				—				—				—				—
Net (paydowns) advances	(25		)		—				(8		)		(61		)		(52		)		(31		)		(47		)		—				—				(3		)		—				(227		)
Transfer into foreclosed properties	—				—				—				—				—				—				—				—				—				—				—				—
Refinance out of TDR status	—				—				—				—				—				—				—				—				—				—				—				—
Balance, March 31, 2019	$	2,629			$	—			$	265			$	9,629			$	5,676			$	4,869			$	4,231			$	523			$	—			$	23			$	—			$	27,845
Allowance related to troubled debt restructurings	$	288			$	—			$	7			$	259			$	—			$	227			$	104			$	—			$	—			$	—			$	—			$	885

The following table presents the recorded investment in construction and development, commercial, and commercial real estate loans which are generally evaluated based upon our internal risk ratings.

Loan Risk Profile by Internal Risk Rating
	Construction and Development																								Commercial Real Estate
	Land and Land Development								Construction								Commercial								Owner Occupied								Non-Owner Occupied								Mortgage Warehouse Lines
Dollars in thousands	3/31/2019				12/31/2018				3/31/2019				12/31/2018				3/31/2019				12/31/2018				3/31/2019				12/31/2018				3/31/2019				12/31/2018				3/31/2019			12/31/2018
Pass	$	62,302			$	63,743			$	35,898			$	24,589			$	180,918			$	182,651			$	264,626			$	259,360			$	562,353			$	556,609			$	49,355		$	39,140
OLEM (Special Mention)	455				472				142				142				2,677				6,748				2,057				1,864				1,683				1,554				—			—
Substandard	1,435				4,618				—				—				5,653				4,916				5,405				5,138				6,356				6,663				—			—
Doubtful	—				—				—				—				—				—				—				—				—				—				—			—
Loss	—				—				—				—				—				—				—				—				—				—				—			—
Total	$	64,192			$	68,833			$	36,040			$	24,731			$	189,248			$	194,315			$	272,088			$	266,362			$	570,392			$	564,826			$	49,355		$	39,140

 

The following table presents the recorded investment and payment activity in consumer, residential real estate, and home equity loans, which are generally evaluated based on the aging status of the loans.

	Performing								Nonperforming
Dollars in thousands	3/31/2019				12/31/2018				3/31/2019				12/31/2018
Residential real estate
Non-jumbo	$	354,170			$	330,445			$	4,937			$	6,532
Jumbo	68,661				72,924				652				675
Home Equity	80,032				80,611				338				299
Consumer	35,863				32,312				183				148
Other	11,915				12,899				130				—
Total	$	550,641			$	529,191			$	6,240			$	7,654

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NOTE 7.  ALLOWANCE FOR LOAN LOSSES

An analysis of the allowance for loan losses for the three month period ended March 31, 2019 and for the year ended December 31, 2018 is as follows:

		March 31,				December 31,
Dollars in thousands		2019				2018
Balance, beginning of year		$	13,047			$	12,565
Charge-offs:
Commercial		17				248
Commercial real estate
Owner occupied		2				38
Non-owner occupied		—				619
Construction and development
Land and land development		—				259
Construction		—				—
Residential real estate
Non-jumbo		216				887
Jumbo		—				—
Home equity		—				26
Mortgage warehouse lines		—				—
Consumer		89				244
Other		90				282
Total		414				2,603
Recoveries:
Commercial		3				16
Commercial real estate
Owner occupied		7				23
Non-owner occupied		—				—
Construction and development
Land and land development		102				270
Construction		—				—
Residential real estate
Non-jumbo		21				228
Jumbo		—				25
Home equity		12				10
Mortgage warehouse lines		—				—
Consumer		63				141
Other		41				122
Total		249				835
Net charge-offs		165				1,768
Provision for loan losses		250				2,250
Balance, end of period		$	13,132			$	13,047

 

 

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The following table presents the activity in the allowance for loan losses, balance in the allowance for loan losses and recorded investment in loans by portfolio segment and based on impairment during the first three months of 2019 and for the year ended 2018:

	For the Three Months Ended March 31, 2019																At March 31, 2019													At March 31, 2019
	Allowance for loan losses																Allowance related to:													Loans
	Beginning  Balance			Charge- offs			Recoveries			Provision			Ending Balance				Loans individua- lly evaluated  for impairm- ent			Loans collective- ly evaluated for impairm- ent			Loans acquired  with deteriora- ted credit quality (PCI)			Total				Loans individua- lly evaluated for impairm- ent			Loans collective- ly evaluated for impairm- ent			Loans acquired with deteriora- ted credit quality (PCI)			Total
Commercial	$	1,705		$	(17	)	$	3		$	(1,385	)	$	306			$	22		$	284		$	—		$	306			$	5,451		$	183,797		$	—		$	189,248
Commercial real estate
Owner occupied	2,214			(2		)	7			1,190			3,409				447			2,962			—			3,409				11,829			260,259			—			272,088
Non-owner occupied	5,742			—			—			243			5,985				—			5,981			4			5,985				10,083			559,123			1,186			570,392
Construction and development
Land and land development	339			—			102			(143		)	298				288			10			—			298				2,629			61,563			—			64,192
Construction	64			—			—			193			257				—			257			—			257				—			36,040			—			36,040
Residential real estate
Non-jumbo	2,090			(216		)	21			371			2,266				615			1,642			9			2,266				6,250			351,538			1,319			359,107
Jumbo	379			—			—			(265		)	114				104			10			—			114				4,883			63,467			963			69,313
Home equity	167			—			12			(59		)	120				—			120			—			120				523			79,847			—			80,370
Mortgage warehouse lines	—			—			—			—			—				—			—			—			—				—			49,355			—			49,355
Consumer	79			(89		)	63			56			109				—			109			—			109				22			36,024			—			36,046
Other	268			(90		)	41			49			268				—			268			—			268				—			12,045			—			12,045
Total	$	13,047		$	(414	)	$	249		$	250		$	13,132			$	1,476		$	11,643		$	13		$	13,132			$	41,670		$	1,693,058		$	3,468		$	1,738,196

	For the Year Ended December 31, 2018																At December 31, 2018													At December 31, 2018
	Allowance for loan losses																Allowance related to:													Loans
	Beginning  Balance			Charge- offs			Recoveries			Provision			Ending Balance				Loans individua- lly evaluated  for impairm- ent			Loans collective- ly evaluated for impairm- ent			Loans acquired  with deteriora- ted credit quality (PCI)			Total				Loans individua- lly evaluated for impairm- ent			Loans collective- ly evaluated for impairm- ent			Loans acquired with deteriora- ted credit quality (PCI)			Total
Commercial	$	1,303		$	(248	)	$	16		$	634		$	1,705			$	682		$	1,023		$	—		$	1,705			$	4,362		$	189,953		$	—		$	194,315
Commercial real estate
Owner occupied	2,424			(38		)	23			(195		)	2,214				462			1,752			—			2,214				11,569			254,793			—			266,362
Non-owner occupied	4,950			(619		)	—			1,411			5,742				9			5,729			4			5,742				9,855			553,809			1,162			564,826
Construction and development
Land and land development	641			(259		)	270			(313		)	339				298			41			—			339				5,824			63,009			—			68,833
Construction	153			—			—			(89		)	64				—			64			—			64				—			24,731			—			24,731
Residential real estate
Non-jumbo	1,911			(887		)	228			838			2,090				585			1,495			10			2,090				6,261			329,342			1,374			336,977
Jumbo	72			—			25			282			379				106			273			—			379				4,953			67,671			975			73,599
Home equity	638			(26		)	10			(455		)	167				—			167			—			167				523			80,387			—			80,910
Mortgage warehouse lines	—			—			—			—			—				—			—			—			—				—			39,140			—			39,140
Consumer	210			(244		)	141			(28		)	79				—			79			—			79				9			32,451			—			32,460
Other	263			(282		)	122			165			268				—			268			—			268				—			12,899			—			12,899
Total	$	12,565		$	(2,603	)	$	835		$	2,250		$	13,047			$	2,142		$	10,891		$	14		$	13,047			$	43,356		$	1,648,185		$	3,511		$	1,695,052

NOTE 8.  GOODWILL AND OTHER INTANGIBLE ASSETS

The following tables present our goodwill by reporting unit at March 31, 2019 and other intangible assets by reporting unit at March 31, 2019 and December 31, 2018 .

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		Goodwill Activity
Dollars in thousands		Community Banking				Insurance Services				Total
Balance, January 1, 2019		$	10,562			$	4,710			$	15,272
Reclassifications to goodwill		—				—				—
Acquired goodwill, net		1,855				—				1,855
Balance, March 31, 2019		$	12,417			$	4,710			$	17,127

		Other Intangible Assets
		March 31, 2019												December 31, 2018
Dollars in thousands		Community Banking				Insurance Services				Total				Community Banking				Insurances Services				Total
Identifiable intangible assets
Gross carrying amount		$	14,727			$	3,000			$	17,727			$	12,598			$	3,000			$	15,598
Less: accumulated amortization		3,155				2,350				5,505				2,728				2,300				5,028
Net carrying amount		$	11,572			$	650			$	12,222			$	9,870			$	700			$	10,570

We recorded amortization expense of $476,000 and $436,000 for the three months ended March 31, 2019 and 2018 , respectively, relative to our identifiable intangible assets.  

Amortization relative to our identifiable intangible assets is expected to approximate the following during the next five years:

		Core Deposit				Customer
Dollars in thousands		Intangible				Intangible
2019		$	1,634			$	200
2020		1,513				200
2021		1,393				200
2022		1,273				100
2023		1,152				—

NOTE 9.  DEPOSITS

The following is a summary of interest bearing deposits by type as of March 31, 2019 and December 31, 2018 :

Dollars in thousands		March 31, 2019				December 31, 2018
Demand deposits, interest bearing		$	560,800			$	523,257
Savings deposits		310,646				284,173
Time deposits		658,906				605,276
Total		$	1,530,352			$	1,412,706

Included in time deposits are deposits acquired through a third party (“brokered deposits”) totaling $218.9 million and $220.5 million at March 31, 2019 and December 31, 2018 , respectively.

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A summary of the scheduled maturities for all time deposits as of March 31, 2019 is as follows:

Dollars in thousands
Nine month period ending December 31, 2019	$	199,209
Year ending December 31, 2020	247,403
Year ending December 31, 2021	101,879
Year ending December 31, 2022	43,384
Year ending December 31, 2023	17,768
Thereafter	49,263
Total	$	658,906

The aggregate amount of time deposits in denominations that meet or exceed the FDIC insurance limit of $250,000 totaled $261.1 million at March 31, 2019 and $255.8 million at December 31, 2018 .

NOTE 10.  BORROWED FUNDS

Short-term borrowings:     A summary of short-term borrowings is presented below:

	Three Months Ended March 31,
	2019								2018
Dollars in thousands	Short-term FHLB Advances				Federal Funds Purchased and Lines of Credit				Short-term FHLB Advances				Federal Funds Purchased and Lines of Credit
Balance at March 31	$	186,150			$	142			$	190,000			$	3,513
Average balance outstanding for the period	198,878				1,419				240,179				3,506
Maximum balance outstanding at any month end during period	190,000				142				262,000				3,513
Weighted average interest rate for the period	2.71		%		2.47		%		1.72		%		1.50		%
Weighted average interest rate for balances
outstanding at March 31	2.75		%		2.50		%		2.02		%		1.75		%

	Year Ended December 31, 2018
Dollars in thousands	Short-term FHLB Advances				Federal Funds Purchased and Lines of Credit
Balance at December 31	$	303,950			5,134
Average balance outstanding for the period	223,764				4,378
Maximum balance outstanding at any month end     during period	303,950				7,534
Weighted average interest rate for the period	2.18		%		1.95	%
Weighted average interest rate for balances
outstanding at December 31	2.71		%		2.50	%

Long-term borrowings:   Our long-term borrowings of $730,000 and $735,000 at March 31, 2019 and December 31, 2018 , respectively, consisted of advances from the Federal Home Loan Bank (“FHLB”) and structured repurchase agreements with unaffiliated institutions. All FHLB advances are collateralized primarily by similar amounts of residential mortgage loans, certain commercial loans, mortgage backed securities and securities of U. S. Government agencies and corporations.

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	Balance at March 31,				Balance at   December 31,
Dollars in thousands	2019				2018
Long-term FHLB advances	$	730			$	735
Total	$	730			$	735

 

Our long term FHLB borrowings bear both fixed and variable rates and mature in varying amounts through the year 2026.

The average interest rate paid on long-term borrowings and long-term repurchase agreements for the three month period ended March 31, 2019 was 5.34% compared to 4.28% for the first three months of 2018 .

Subordinated debentures owed to unconsolidated subsidiary trusts:   We have three statutory business trusts that were formed for the purpose of issuing mandatorily redeemable securities (the “capital securities”) for which we are obligated to third party investors and investing the proceeds from the sale of the capital securities in our junior subordinated debentures (the “debentures”).  The debentures held by the trusts are their sole assets.  Our subordinated debentures totaled $ 19.6 million at March 31, 2019 and December 31, 2018 .

The capital securities held by SFG Capital Trust I, SFG Capital Trust II, and SFG Capital Trust III qualify as Tier 1 capital under Federal Reserve Board guidelines.  In accordance with these Guidelines, trust preferred securities generally are limited to 25% of Tier 1 capital elements, net of goodwill.  The amount of trust preferred securities and certain other elements in excess of the limit can be included in Tier 2 capital.

 

A summary of the maturities of all long-term borrowings and subordinated debentures for the next five years and thereafter is as follows:

Dollars in thousands			Long-term borrowings				Subordinated debentures owed to unconsolidated subsidiary trusts
Year Ending December 31,	2019		$	13			$	—
	2020		18				—
	2021		20				—
	2022		21				—
	2023		22				—
	Thereafter		636				19,589
			$	730			$	19,589

NOTE 11.  SHARE-BASED COMPENSATION

The 2014 Long-Term Incentive Plan (“2014 LTIP”) was adopted by our shareholders in May 2014 to enhance the ability of the Company to attract and retain exceptionally qualified individuals to serve as key employees. The LTIP provides for the issuance of up to 500,000 shares of common stock, in the form of equity awards including stock options, restricted stock, restricted stock units, stock appreciation rights ("SARs"), performance units, other stock-based awards or any combination thereof,  to our key employees. 

Stock options awarded under the 2009 Officer Stock Option Plan and the 1998 Officer Stock Option Plan (collectively, the “Plans”) were not altered by the 2014 LTIP, and remain subject to the terms of the Plans.  However, under the terms of the 2014 LTIP, all shares of common stock remaining issuable under the Plans at the time the 2014 LTIP was adopted ceased to be available for future issuance.

 

Under the 2014 LTIP and the Plans, stock options and SARs have generally been granted with an exercise price equal to the fair value of Summit's common stock on the grant date. We periodically grant employee stock options to individual employees. During first quarter 2019, we granted 109,819 SARs that become exercisable ratably over five years ( 20% per year) and expire ten years after the grant date and granted 28,306 SARS that become exercisable ratably over seven years ( 14.29% per year) and expire ten years after the grant date.

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The fair value of our employee stock options and SARs granted under the Plans is estimated at the date of grant using the Black-Scholes option-pricing model. This model requires the input of highly subjective assumptions, changes to which can materially affect the fair value estimate. Additionally, there may be other factors that would otherwise have a significant effect on the value of employee stock options and SARs granted but are not considered by the model. Because our employee stock options and SARs have characteristics significantly different from those of traded options and because changes in the subjective input assumptions can materially affect the fair value estimate, in management’s opinion, the existing models do not necessarily provide a reliable single measure of the fair value of its employee stock options and SARs at the time of grant. The assumptions used to value SARs granted during 2019 were as follows:

	5-year vesting SARs		7-year vesting SARs
Risk-free interest rate	2.43	%	2.51	%
Expected dividend yield	2.30	%	2.30	%
Expected common stock volatility	35.71	%	40.84	%
Expected life	6.5 years		7.0 years

We recognize compensation expense based on the estimated number of stock awards expected to actually vest, exclusive of the awards expected to be forfeited.  During the first three months of 2019 and 2018 , our share-based compensation expense was $132,000 and $94,000 and the related deferred tax benefits were approximately $32,000 and $23,000 .

A summary of activity in our Plans during the first three months of 2019 and 2018 is as follows:

	For the Three Months Ended March 31,
	2019
	Options/SARs			Aggregate Intrinsic Value (in thousands)				Remaining Contractual Term (Yrs.)		Weighted-Average Exercise Price
Outstanding, January 1	232,091									$	17.36
Granted	138,125									23.94
Exercised	—									—
Forfeited	—									—
Expired	—									—
Outstanding, March 31	370,216			$	2,478			7.83		$	19.82
Exercisable, March 31	111,058			$	1,129			6.16		$	16.35

	For the Three Months Ended March 31,
	2018
	Options/SARs			Aggregate Intrinsic Value (in thousands)				Remaining Contractual Term (Yrs.)		Weighted-Average Exercise Price
Outstanding, January 1	250,291									$	17.75
Granted	—									—
Exercised	(200	)								17.79
Forfeited	(3,000	)								26.01
Expired	—									—
Outstanding, March 31	247,091			$	1,918			7.08		$	17.65
Exercisable, March 31	77,581			$	618			5.50		$	17.42

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NOTE 12.  COMMITMENTS AND CONTINGENCIES

Off-Balance Sheet Arrangements

We are a party to certain financial instruments with off-balance-sheet risk in the normal course of business to meet the financing needs of our customers.  These instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the statement of financial position.  The contract amounts of these instruments reflect the extent of involvement that we have in this class of financial instruments.

Many of our lending relationships contain both funded and unfunded elements.  The funded portion is reflected on our balance sheet.  The unfunded portion of these commitments is not recorded on our balance sheet until a draw is made under the loan facility.  Since many of the commitments to extend credit may expire without being drawn upon, the total commitment amounts do not necessarily represent future cash flow requirements.

A summary of the total unfunded, or off-balance sheet, credit extension commitments follows:

Dollars in thousands		March 31, 2019
Commitments to extend credit:
Revolving home equity and credit card lines		$	70,110
Construction loans		84,705
Other loans		139,569
Standby letters of credit		6,533
Total		$	300,917

Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract.  Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee.  We evaluate each customer's credit worthiness on a case-by-case basis.  The amount of collateral obtained, if we deem necessary upon extension of credit, is based on our credit evaluation.  Collateral held varies but may include accounts receivable, inventory, equipment or real estate.

Standby letters of credit are conditional commitments issued to guarantee the performance of a customer to a third party.  Standby letters of credit generally are contingent upon the failure of the customer to perform according to the terms of the underlying contract with the third party.

Our exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit is represented by the contractual amount of those instruments.  We use the same credit policies in making commitments and conditional obligations as we do for on-balance sheet instruments.

Operating leases

We occupy certain facilities under long-term operating leases.  The aggregate minimum annual rental commitments under those leases total approximately $177,000 in 2019 and $92,000 in 2020.  Total net rent expense included in the accompanying consolidated financial statements was $66,000 for the three months ended March 31, 2019 and $69,000 for the three months ended March 31, 2018.

Litigation

We are not a party to litigation except for matters that arise in the normal course of business.  While it is impossible to ascertain the ultimate resolution or range of financial liability if any, with respect to these contingent matters, in the opinion of management, the outcome of these matters will not have a significant adverse effect on the consolidated financial statements.

NOTE 13.  REGULATORY MATTERS

Our bank subsidiary, Summit Community Bank, Inc. (“Summit Community”), is subject to various regulatory capital requirements administered by the banking regulatory agencies. Under the capital adequacy guidelines and the regulatory framework for prompt corrective action, Summit Community must meet specific capital guidelines that involve quantitative

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measures of its assets, liabilities and certain off-balance sheet items as calculated under regulatory accounting practices.  Our bank subsidiary’s capital amounts and classifications are also subject to qualitative judgments by the regulators about components, risk weightings and other factors. Quantitative measures established by regulation to ensure capital adequacy require Summit Community to maintain minimum amounts and ratios of Common Equity Tier 1("CET1"), Total capital and Tier I capital (as defined in the regulations) to risk-weighted assets (as defined), and of Tier I capital (as defined) to average assets (as defined).  We believe, as of March 31, 2019, that our bank subsidiary met all capital adequacy requirements to which they were subject.

The most recent notifications from the banking regulatory agencies categorized Summit Community as well capitalized under the regulatory framework for prompt corrective action.  To be categorized as well capitalized, Summit Community must maintain minimum CET1, Total risk-based, Tier I risk-based, and Tier I leverage ratios as set forth in the table below.

The Basel III Capital Rules became effective for us on January 1, 2015, with full compliance with all of the final rule's requirements phased-in over a multi-year schedule, to be fully phased-in by January 1, 2019. As of March 31, 2019, Summit Community’s capital levels remained characterized as "well-capitalized" under the new rules. See the Capital Requirements section included in Part I, Item 1 -- Business of our 2018 Annual Report on Form 10-K for further discussion of Basel III.

On August 28, 2018, the Federal Reserve Board (the “Board”) issued an interim final rule expanding the applicability of the Board's small bank holding company policy statement, as required by the Economic Growth, Regulatory Relief, and Consumer Protection Act of 2018. The interim final rule raises the small bank holding company policy statement's asset threshold from $1 billion to $3 billion in total consolidated assets, and as a result, our holding company was exempted from all regulatory capital guidelines, to which it previously had been subject, until such time as its consolidated assets exceed $3 billion.

The following table presents Summit's, as well as Summit Community's, actual and required minimum capital amounts and ratios as of March 31, 2019 and December 31, 2018 under the Basel III Capital Rules.  The minimum required capital levels presented below reflect the minimum required capital levels (inclusive of the full capital conservation buffers) that will be effective as of January 1, 2019 when the Basel III Capital Rules have been fully phased-in.  Capital levels required to be considered well capitalized are based upon prompt corrective action regulations, as amended to reflect the changes under the Basel III Capital Rules.

		Actual							Minimum Required Capital - Basel III Fully Phased-in						Minimum Required To Be Well Capitalized
Dollars in thousands		Amount				Ratio			Amount			Ratio			Amount			Ratio
As of March 31, 2019
CET1 (to risk weighted assets)
Summit		$	206,142			11.4	%		N/A			N/A			N/A			N/A
Summit Community		222,400				12.3	%		126,569			7.0	%		117,528			6.5	%
Tier I Capital (to risk weighted assets)
Summit		225,142				12.5	%		N/A			N/A			N/A			N/A
Summit Community		222,400				12.3	%		153,691			8.5	%		144,650			8.0	%
Total Capital (to risk weighted assets)
Summit		238,274				13.2	%		N/A			N/A			N/A			N/A
Summit Community		235,532				13.0	%		190,237			10.5	%		181,178			10.0	%
Tier I Capital (to average assets)
Summit		225,142				10.2	%		N/A			N/A			N/A			N/A
Summit Community		222,400				10.0	%		88,960			4.0	%		111,200			5.0	%

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		Actual						Minimum Required Capital - Basel III Fully Phased-in						Minimum Required To Be Well Capitalized
Dollars in thousands		Amount			Ratio			Amount			Ratio			Amount			Ratio
As of December 31, 2018
CET1 (to risk weighted assets)
Summit		197,551			11.1	%		N/A			N/A			N/A			N/A
Summit Community		213,930			12.0	%		124,793			7.0	%		115,879			6.5	%
Tier I Capital (to risk weighted assets)
Summit		216,551			12.2	%		N/A			N/A			N/A			N/A
Summit Community		213,930			12.0	%		151,534			8.5	%		142,620			8.0	%
Total Capital (to risk weighted assets)
Summit		229,598			12.9	%		N/A			N/A			N/A			N/A
Summit Community		226,977			12.8	%		186,192			10.5	%		177,326			10.0	%
Tier I Capital (to average assets)
Summit		216,551			10.1	%		N/A			N/A			N/A			N/A
Summit Community		213,930			10.0	%		85,572			4.0	%		106,965			5.0	%

NOTE  14.  DERIVATIVE FINANCIAL INSTRUMENTS

We have entered into three forward-starting, pay-fixed/receive LIBOR interest rate swaps.  $ 40 million notional with an effective date of July 18, 2016, was designated as a cash flow hedge of $ 40 million of forecasted variable rate Federal Home Loan Bank advances.  Under the terms of this swap we will pay a fixed rate of 2.98% for a 3 year period.  $ 30 million notional with an effective date of April 18, 2016, was designated as a cash flow hedge of $ 30 million of forecasted variable rate Federal Home Loan Bank advances.  Under the terms of this swap we will pay a fixed rate of 2.89% for a 4.5 year period.   $ 40 million notional with an effective date of October 18, 2016,  was designated as a cash flow hedge of $ 40 million of forecasted variable rate Federal Home Loan Bank advances.  Under the terms of the swap we will pay a fixed rate of 2.84% for a 3 year period.

We have entered into two pay fixed/receive variable interest rate swaps to hedge fair value variability of two commercial fixed rate loans with the same principal, amortization, and maturity terms of the underlying loans, which are designated as fair value hedges. Under the terms of a $9.95 million original notional swap with an effective date of January 15, 2015, we will pay a fixed rate of 4.33% for a 10 year period. Under the terms of a $11.3 million original notional swap with an effective date of December 18, 2015, we will pay a fixed rate of 4.30% for a 10 year period.

A summary of our derivative financial instruments as of March 31, 2019 and December 31, 2018 follows:

	March 31, 2019
	Notional Amount				Derivative Fair Value								Net Ineffective
Dollars in thousands					Asset				Liability				Hedge Gains/(Losses)
CASH FLOW HEDGES
Pay-fixed/receive-variable interest rate swaps
Short term borrowings	$	110,000			$	—			$	423			$	—
FAIR VALUE HEDGES
Pay-fixed/receive-variable interest rate swaps
Commercial real estate loans	$	19,254			$	240			$	—			$	—

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	December 31, 2018
	Notional Amount				Derivative Fair Value								Net Ineffective
Dollars in thousands					Asset				Liability				Hedge Gains/(Losses)
CASH FLOW HEDGES
Pay-fixed/receive-variable interest rate swaps
Short term borrowings	$	110,000			$	—			$	411			$	—
FAIR VALUE HEDGES
Pay-fixed/receive-variable interest rate swaps
Commercial real estate loans	$	19,399			$	555			$	—			$	—

Loan commitments:   ASC Topic 815, Derivatives and Hedging, requires that commitments to make mortgage loans should be accounted for as derivatives if the loans are to be held for sale, because the commitment represents a written option and accordingly is recorded at the fair value of the option liability.

NOTE 15. ACQUISITIONS

Peoples Bankshares, Inc.

On January 1, 2019, Summit Community Bank, Inc. ("SCB"), a wholly-owned subsidiary of Summit, acquired 100% of the ownership of Peoples Bankshares, Inc. ("PBI") and its subsidiary First Peoples Bank, headquartered in Mullens, West Virginia. With this transaction, Summit further expands its footprint in Wyoming and Raleigh Counties of West Virginia. Pursuant to the Agreement and Plan of Merger dated July 24, 2018, PBI's shareholders received cash in the amount of $47.00 per share or 1.7193 shares of Summit common stock, or a combination of cash and Summit stock, subject to proration to result in approximately 50% cash and 50% stock consideration in the aggregate. Total stock consideration was $9.0 million or 465,931 shares of Summit common stock and cash consideration was $12.7 million . PBI's assets and liabilities approximated $133 million and $113 million , respectively, at December 31, 2018.

We accounted for the acquisition using the acquisition method of accounting in accordance with ASC 805, Business Combinations and accordingly, the assets and liabilities of PBI were recorded at their respective acquisition date fair values. Determining the fair value of assets and liabilities, particularly related to the loan portfolio, is a complicated process involving significant judgment regarding methods and assumptions used to calculate the estimated fair values. The fair values are preliminary and subject to refinement for up to one year after the acquisition date as additional information relative to the acquisition date fair values becomes available. We recognized preliminary goodwill of $1.86 million in connection with the acquisition, which is not amortized for financial reporting purposes, but is subject to annual impairment testing. The core deposit intangible represents the value of long-term deposit relationships acquired in this transaction and will be amortized over an estimated weighted average life of 15 years using an accelerated method which approximates the estimated run-off of the acquired deposits. The following table details the total consideration paid on January 1, 2019 in connection with the acquisition of PBI, the fair values of the assets acquired and liabilities assumed and the resulting preliminary goodwill.

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(Dollars in thousands)		As Recorded by PBI				Estimated Fair Value Adjustments				Estimated Fair Values as Recorded by Summit
Cash consideration										$	12,740
Stock consideration										8,997
Total consideration										21,737
Identifiable assets acquired:
Cash and cash equivalents		$	33,422			$	(93	)		$	33,329
Securities available for sale, at fair value		55,206				(93		)		55,113
Loans
Purchased performing		42,376				(977		)		41,399
Purchased credit impaired		—				—				—
Allowance for loan losses		(410		)		410				—
Premises and equipment		1,382				(567		)		815
Property held for sale		—				—				—
Core deposit intangibles		—				2,129				2,129
Other assets		1,110				(100		)		1,010
Total identifiable assets acquired		$	133,086			$	709			$	133,795
Identifiable liabilities assumed:
Deposits		112,064				316				112,380
Other liabilities		1,422				111				1,533
Total identifiable liabilities assumed		$	113,486			$	427			$	113,913
Net identifiable assets acquired		$	19,600			$	282			$	19,882
Preliminary goodwill resulting from acquisition										$	1,855

The following is a description of the methods used to determine the fair values of significant assets and liabilities presented above.

Cash and cash equivalents: The carrying amount of these assets approximates their fair value based on the short-term nature of these assets.

Securities : Fair values for securities are based on quoted market prices, where available. If quoted market prices are not available, fair value estimates are based on observable inputs including quoted market prices for similar instruments, quoted market prices that are not in an active market or other inputs that are observable in the market.

Loans: Fair values for loans are based on a discounted cash flow methodology that considered factors including the type of loan and related collateral, collectibility, fixed or variable interest rate, term of loan, amortization status and current market rates. Loans were grouped together according to similar characteristics and were treated in the aggregate when applying various valuation techniques. The discount rates used for loans are based on current market rates for new originations of comparable loans and include adjustments for liquidity concerns, if any.

Premises and equipment: The fair value of PBI's real property was determined based upon appraisals by licensed appraisers. The fair value of tangible personal property, which is not material, was assumed to equal the carrying value by PBI.

Core deposit intangible: This intangible asset represents the value of the relationships with deposit customers. The fair value was estimated based on a discounted cash flow methodology that gave appropriate consideration to expected customer attrition rates, cost of the deposit base, reserve requirements and the net maintenance cost attributable to customer deposits.

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Deposits: The fair values of the demand and savings deposits by definition equal the amount payable on demand at the acquisition date. The fair values for time deposits are estimated using a discounted cash flow calculation that applies interest rates currently being offered to the contractual interest rates on such time deposits.

Loans acquired in a business combination are recorded at estimated fair value on the date of acquisition without the carryover of the related allowance for loan losses. Purchased credit-impaired (PCI) loans are those for which there is evidence of credit deterioration since origination and for which it is probable at the date of acquisition that we will not collect all contractually required principal and interest payments. When determining fair value, PCI loans are identified as of the date of acquisition based upon evidence of credit quality such as internal risk grades and past due and nonaccrual status. The difference between contractually required payments of principal and interest at acquisition and the cash flows expected to be collected at acquisition is accounted for as a"nonaccretable difference," and is available to absorb future credit losses on those loans. For purposes of determining the nonaccretable difference, no prepayments are generally assumed in determining contractually required payments of principal and interest or cash flows expected to be collected. Subsequent decreases to the expected cash flows will generally result in a provision for loan losses. Subsequent significant increases in cash flows may result in a reversal of the provision for loan losses to the extent of prior charges, or a transfer from nonaccretable difference to accretable yield. Further, any excess of cash flows expected at acquisition over the estimated fair value is accounted for as accretable yield and is recognized as interest income over the remaining life of the loan when there is a reasonable expectation about the amount and timing of such cash flows. No acquired PBI loans were designated as PCI loans.

Loans not designated PCI loans as of the acquisition date are designated purchased performing loans. We account for purchased performing loans using the contractual cash flows method of recognizing discount accretion based on the acquired loans’ contractual cash flows. Purchased performing loans are recorded at fair value, including a credit discount. The fair value discount is accreted as an adjustment to yield over the estimated lives of the loans. There is no allowance for loan losses established at the acquisition date for purchased performing loans. A provision for loan losses is recorded for any deterioration in these loans subsequent to the acquisition.

The following presents the financial effects of adjustments recognized in the statements of income for the three months ended March 31, 2019 and 2018 related to business combinations that occurred during 2016, 2017 and 2018.

	Income increase (decrease)
Dollars in thousands	Three Months Ended March 31, 2019				Three Months Ended March 31, 2018
Interest and fees on loans	$	(9	)		$	145
Interest expense on deposits	88				61
Amortization of intangibles	(426		)		(386		)
Income before income tax expense	$	(347	)		$	(180	)

NOTE 16. ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS)

The following is changes in accumulated other comprehensive income (loss) by component, net of tax, for the three months ending March 31, 2019 and 2018 .

						For the Three Months Ended   March 31, 2019
Dollars in thousands		Gains and Losses on Pension Plan				Gains and Losses on Other Post-Retirement Benefits				Gains and Losses on Cash Flow Hedges				Unrealized Gains (Losses) on Available-for-Sale Securities				Total
Beginning balance		$	—			$	139			$	(314	)		$	(841	)		$	(1,016	)
Other comprehensive income (loss) before reclassification		(328		)		—				(9		)		2,465				2,128
Amounts reclassified from accumulated other comprehensive income		—				—				—				2				2
Net current period other comprehensive income (loss)		(328		)		—				(9		)		2,467				2,130
Ending balance		$	(328	)		$	139			$	(323	)		$	1,626			$	1,114

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		For the Three Months Ended   March 31, 2018
Dollars in thousands		Gains and Losses on Other Post-Retirement Benefits				Gains and Losses on Cash Flow Hedges				Unrealized Gains (Losses) on Available-for-Sale Securities				Total
Beginning balance		$	398			$	(1,564	)		$	2,898			$	1,732
Other comprehensive (loss) income before reclassification		—				715				(2,779		)		(2,064		)
Amounts reclassified from accumulated other comprehensive income		—				—				(556		)		(556		)
Net current period other comprehensive (loss) income		—				715				(3,335		)		(2,620		)
Ending balance		$	398			$	(849	)		$	(437	)		$	(888	)

NOTE 17. INCOME TAXES

Our income tax expense for the three months ended March 31, 2019 and March 31, 2018 totaled $1.6 million and $1.9 million , respectively. Our effective tax rate (income tax expense as a percentage of income before taxes) for the three months ended March 31, 2019 and 2018 was 18.4% and 20.2% , respectively. A reconciliation between the statutory income tax rate and our effective income tax rate for the three months ended March 31, 2019 and 2018 is as follows:

	For the Three Months Ended March 31,
	2019			2018
Dollars in thousands	Percent			Percent
Applicable statutory rate	21.0	%		21.0	%
Increase (decrease) in rate resulting from:
Tax-exempt interest and dividends, net	(2.5	)%		(2.6	)%
State income taxes, net of Federal income tax benefit	2	%		2.2	%
Low-income housing and rehabilitation tax credits	(0.5	)%		(1.0	)%
Other, net	(1.6	)%		0.6	%
Effective income tax rate	18.4	%		20.2	%

The components of applicable income tax expense for the three months ended March 31, 2019 and 2018 are as follows:

	For the Three Months Ended March 31,
Dollars in thousands	2019			2018
Current
Federal	$	1,650		$	1,753
State	264			278
	1,914			2,031
Deferred
Federal	(274		)	(134		)
State	(39		)	(21		)
	(313		)	(155		)
Total	$	1,601		$	1,876

NOTE 18. REVENUE FROM CONTRACTS WITH CUSTOMERS

I nterest income, loan fees, realized securities gains and losses, bank owned life insurance income and mortgage banking revenue are not in the scope of ASC Topic 606, Revenue from Contracts with Customers . With the exception of gains or losses on sales of foreclosed properties, all of our revenue from contracts with customers in the scope of ASC 606 is recognized within Noninterest Income in the Consolidated Statements of Income. Incremental costs of obtaining a contract are expensed

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when incurred when the amortization period is one year or less. As of March 31, 2019, remaining performance obligations consisted of insurance products with an original expected length of one year or less.

A description of our significant sources of revenue accounted for under ASC 606 follows:

Service fees on deposit accounts are fees we charge our deposit customers for transaction-based, account maintenance and overdraft services. Transaction-based fees, which are earned based on specific transactions or customer activity within a customer’s deposit account, are recognized at the time the related transaction or activity occurs, as it is at this point when we fulfill the customer’s request. Account maintenance fees, which relate primarily to monthly maintenance, are earned over the course of a month, representing the period over which Summit satisfied the performance obligation. Overdraft fees are recognized when the overdraft occurs. Service fees on deposit accounts are paid through a direct charge to the customer’s account.

Bank card revenue is comprised of interchange revenue and ATM fees. Interchange revenue is earned when Summit’s debit and credit cardholders conduct transactions through Mastercard and other payment networks. Interchange fees represent a percentage of the underlying cardholder’s transaction value and are generally recognized daily, concurrent with the transaction processing services provided to the cardholder. ATM fees are earned when a non-Summit cardholder uses a Summit ATM. ATM fees are recognized daily, as the related ATM transactions are settled.

Trust and wealth management fees consist of 1) trust fees and 2) commissions earned from an independent, third-party broker-dealer. We earn trust fees from our contracts with trust clients to administer or manage assets for investment. Trust fees are earned over time (generally monthly) as Summit provides the contracted services and are assessed based on the value of assets under management at each month-end. We earn commissions from investment brokerage services provided to our clients by an independent, third-party broker-dealer. We receive monthly commissions from the third-party broker-dealer based upon client activity for the previous month.

Insurance commissions principally consist of commissions we earn as agents of insurers for selling group employee benefit and property and casualty insurance products to clients. Group employee benefit insurance commissions are recognized over time (generally monthly) as the related customary implied servicing obligations of group policyholders are fulfilled. Property and casualty insurance commissions are recognized using methods which approximate the time of placement of the underlying policy. We are paid insurance commissions ratably as the related policy premiums are paid by clients.

The following table illustrates our total non-interest income segregated by revenues within the scope of ASC Topic 606 and those which are within the scope of other ASC Topics: 

Dollars in thousands		Three Months Ended March 31, 2019				Three Months Ended   March 31, 2018
Service fees on deposit accounts		$	1,180			$	1,091
Bank card revenue		814				749
Trust and wealth management fees		586				667
Insurance commissions		1,174				1,113
Other		87				53
Net revenue from contracts with customers		3,841				3,673
Non-interest income within the scope of other ASC topics		389				1,203
Total noninterest income		$	4,230			$	4,876

Gain or loss on sale of foreclosed properties is recorded when control of the property transfers to the buyer, which generally occurs at the time of transfer of the deed. If Summit finances the sale of a foreclosed property to the buyer, we assess whether the buyer is committed to perform their obligations under the contract and whether collectability of the transaction price is probable. Once these criteria are met, the foreclosed property is derecognized and the gain or loss on sale is recorded upon transfer of control of the property to the buyer. For the three months ended March 31, 2019 and March 31, 2018, net (losses)/gains on sales of foreclosed properties were $(1,000) and $64,000 .

NOTE 19. SUBSEQUENT EVENT

Summit announced the sale of its insurance agency, Summit Insurance Services (“SIS”) to The Hilb Group (“THG”), effective May 1, 2019.  As result of the sale, Summit expects to record an estimated pre-tax gain of $2.06 million in its results of operations for second quarter 2019.

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Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

INTRODUCTION

The following discussion and analysis focuses on significant changes in our financial condition and results of operations of Summit Financial Group, Inc. (“Company” or “Summit”) and its operating subsidiaries, Summit Community Bank (“Summit Community”) and Summit Insurance Services, LLC, for the periods indicated.   This discussion and analysis should be read in conjunction with our 2018 audited financial statements and Annual Report on Form 10-K.

The Private Securities Litigation Act of 1995 indicates that the disclosure of forward-looking information is desirable for investors and encourages such disclosure by providing a safe harbor for forward-looking statements by us.  Our following discussion and analysis of financial condition and results of operations contains certain forward-looking statements that involve risk and uncertainty.  In order to comply with the terms of the safe harbor, we note that a variety of factors could cause our actual results and experience to differ materially from the anticipated results or other expectations expressed in those forward-looking statements.

OVERVIEW

On January 1, 2019, we acquired Peoples Bankshares, Inc. ("PBI") and its subsidiary, First Peoples Bank, Inc., headquartered in Mullens, West Virginia. PBI's results are included in our financial statements from the acquisition date forward, impacting comparisons to the prior-year first quarter period.

Our primary source of income is net interest income from loans and deposits.  Business volumes tend to be influenced by the overall economic factors including market interest rates, business spending, and consumer confidence, as well as competitive conditions within the marketplace.

Primarily due to our PBI acquisition and organic loan growth, average interest earning assets increased by 4.89% for the first three months in 2019 compared to the same period of 2018 while our net interest earnings on a tax equivalent basis increased 12.67%.  Our tax equivalent net interest margin increased 8 basis points as our yield on interest earning assets increased 35 basis points while our cost of interest bearing funds increased 36 basis points.

CRITICAL ACCOUNTING POLICIES

Our consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States of America and follow general practices within the financial services industry.  Application of these principles requires us to make estimates, assumptions and judgments that affect the amounts reported in our financial statements and accompanying notes.  These estimates, assumptions and judgments are based on information available as of the date of the financial statements; accordingly, as this information changes, the financial statements could reflect different estimates, assumptions and judgments.  Certain policies inherently have a greater reliance on the use of estimates, assumptions and judgments and as such have a greater possibility of producing results that could be materially different than originally reported.

Our most significant accounting policies are presented in the notes to the consolidated financial statements of our 2018 Annual Report on Form 10-K.  These policies, along with the other disclosures presented in the financial statement notes and in this financial review, provide information on how significant assets and liabilities are valued in the financial statements and how those values are determined.

Based on the valuation techniques used and the sensitivity of financial statement amounts to the methods, assumptions and estimates underlying those amounts, we have identified the determination of the allowance for loan losses, the valuation of goodwill, fair value measurements and accounting for acquired loans to be the accounting areas that require the most subjective or complex judgments and as such could be most subject to revision as new information becomes available.

For additional information regarding critical accounting policies, refer to Critical Accounting Policies section in Management’s Discussion and Analysis of Financial Condition and Results of Operations included in the 2018 Form 10-K. There have been no significant changes in our application of critical accounting policies since December 31, 2018.

RESULTS OF OPERATIONS

Earnings Summary

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Net income for the three months ended March 31, 2019 was $7.1 million , or $0.56 per diluted share, compared to $7.4 million , or $0.60 per diluted share for the same period of 2018. Net income for the quarter ended March 31, 2019 , compared to the same period of 2018, was positively impacted by increased net interest income and negatively impacted by higher noninterest expense primarily a result of the PBI acquisition. Returns on average equity and assets for the first three months of 2019 were 12.28% and 1.27%, respectively, compared with 14.73% and 1.40% for the same period of 2018 .

PBI’s results of operations are included in our consolidated results of operations from the date of acquisition, and therefore our three months ended March 31, 2019 results reflect increased levels of average balances, income and expense as compared to the same period of 2018 results. At consummation (prior to fair value acquisition adjustments), PBI had total assets of $133.1 million, net loans of $42.4 million, and deposits of $112.1 million.

Net Interest Income

Net interest income is the principal component of our earnings and represents the difference between interest and fee income generated from earning assets and the interest expense paid on deposits and borrowed funds.  Fluctuations in interest rates as well as changes in the volume and mix of earning assets and interest bearing liabilities can materially impact net interest income.

Q1 2019 compared to Q4 2018

For the quarter ended March 31, 2019 , our net interest income on a fully taxable-equivalent basis increased $492,000 to $18.85 million compared to $18.36 million for the quarter end December 31, 2018. Our taxable-equivalent earnings on interest earning assets increased $526,000, while the cost of interest bearing liabilities increased $34,000 (see Tables I and II).

For the three months ended March 31, 2019 average interest earning assets increased to $2.09 billion compared to $2.02 billion for the three months ended December 31, 2018, while average interest bearing liabilities increased to $1.74 billion for the three months ended March 31, 2019 from $1.71 billion for the three months ended December 31, 2018.

For the quarter ended March 31, 2018, our net interest margin increased to 3.66% , compared to 3.61% for the linked quarter, as the yields on earning assets increased 35 basis points, while the cost of our interest bearing funds increased by 36 basis points. At acquisition, PBI's deposit costs were significantly lower than Summit's cost of deposits, thus substantially offsetting the increase in market rates during first quarter 2019.

Excluding the impact of accretion and amortization of fair value acquisition accounting adjustments related to the interest earning assets and interest bearing liabilities acquired by merger, Summit's net interest margin was 3.64% and 3.57% for the three months ended March 31, 2019 and December 31, 2018.

Q1 2019 compared to Q1 2018

For the quarter ended March 31, 2019 , our net interest income on a fully taxable-equivalent basis increased $1.29 million to $18.85 million compared to $17.57 million for the quarter end March 31, 2018. Our taxable-equivalent earnings on interest earning assets increased $2.9 million, while the cost of interest bearing liabilities increased $1.7 million (see Tables I and II).

For the three months ended March 31, 2019 average interest earning assets increased 4.9% to $2.09 billion compared to $1.99 billion for the three months ended March 31, 2018, while average interest bearing liabilities increased 2.4% from $1.70 billion for the three months ended March 31, 2018 to $1.74 billion for the three months ended March 31, 2019 .

For the quarter ended March 31, 2019, our net interest margin increased to 3.66% , compared to 3.58% for the same period of 2018, as the yields on earning assets increased 35 basis points, while the cost of our interest bearing funds increased by 36 basis points.

Excluding the impact of accretion and amortization of fair value acquisition accounting adjustments related to the interest earning assets and interest bearing liabilities acquired by merger, Summit's net interest margin was 3.53% for the three months ended March 31, 2018.

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Table I - Average Balance Sheet and Net Interest Income Analysis
	For the Quarter Ended
	March 31, 2019											December 31, 2018											March 31, 2018
Dollars in thousands	Average Balance				Earnings/ Expense				Yield/ Rate			Average Balance				Earnings/ Expense				Yield/ Rate			Average Balance				Earnings/ Expense				Yield/ Rate
Interest earning assets
Loans, net of unearned fees (1)
Taxable	$	1,712,286			$	22,907			5.43	%		$	1,660,250			$	22,519			5.38	%		$	1,611,813			$	20,223			5.09	%
Tax-exempt (2)	14,907				184				5.01	%		15,322				177				4.58	%		16,307				182				4.53	%
Securities
Taxable	195,932				1,687				3.49	%		176,059				1,502				3.38	%		191,713				1,372				2.90	%
Tax-exempt (2)	114,831				1,139				4.02	%		132,088				1,296				3.89	%		132,306				1,290				3.95	%
Federal funds sold and interest bearing deposits with other banks	51,187				230				1.82	%		35,402				127				1.42	%		39,656				140				1.43	%
Total interest earning assets	2,089,143				26,147				5.08	%		2,019,121				25,621				5.03	%		1,991,795				23,207				4.73	%
Noninterest earning assets
Cash & due from banks	12,825											9,686											9,962
Premises and equipment	38,404											37,224											34,586
Property held for sale	21,386											21,842											21,326
Other assets	91,954											87,386											85,799
Allowance for loan losses	(13,309		)									(13,172		)									(12,737		)
Total assets	$	2,240,403										$	2,162,087										$	2,130,731
Interest bearing liabilities
Interest bearing demand deposits	$	556,766			$	1,663			1.21	%		$	519,465			$	1,504			1.15	%		$	423,095			$	632			0.61	%
Savings deposits	310,848				898				1.17	%		289,809				861				1.18	%		346,358				717				0.84	%
Time deposits	654,404				3,003				1.86	%		607,037				2,738				1.79	%		622,543				2,200				1.43	%
Short-term borrowings	200,297				1,472				2.98	%		270,092				1,909				2.80	%		243,686				1,405				2.34	%
Long-term borrowings and capital trust securities	20,321				259				5.17	%		20,326				249				4.86	%		65,338				686				4.26	%
Total interest bearing liabilities	1,742,636				7,295				1.70	%		1,706,729				7,261				1.69	%		1,701,020				5,640				1.34	%
Noninterest bearing liabilities and shareholders' equity
Demand deposits	248,354											223,999											210,883
Other liabilities	18,322											16,138											16,771
Total liabilities	2,009,312											1,946,866											1,928,674
Shareholders' equity	231,091											215,221											202,057
Total liabilities and shareholders' equity	$	2,240,403										$	2,162,087										$	2,130,731
Net interest earnings					$	18,852										$	18,360										$	17,567
Net yield on interest earning assets									3.66	%										3.61	%										3.58	%

(1)	- For purposes of this table, nonaccrual loans are included in average loan balances.

(2)	- Interest income on tax-exempt securities and loans has been adjusted assuming a Federal tax rate of 21% for all periods presented. The tax equivalent adjustment resulted in an increase in interest income of $279,000, $308,000, and $310,000 for the three months ended March 31, 2019, December 31, 2018, and March 31, 2018, respectively.

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Table II - Changes in Net Interest Income Attributable to Rate and Volume
		For the Quarter Ended												For the Quarter Ended
		March 31, 2019 vs. December 31, 2018												March 31, 2019 vs. March 31, 2018
		Increase (Decrease) Due to Change in:												Increase (Decrease) Due to Change in:
Dollars in thousands		Volume				Rate				Net				Volume				Rate				Net
Interest earned on:
Loans
Taxable		$	307			$	81			$	388			$	1,301			$	1,383			$	2,684
Tax-exempt		(6		)		13				7				(17		)		19				2
Securities
Taxable		145				40				185				31				284				315
Tax-exempt		(193		)		36				(157		)		(173		)		22				(151		)
Federal funds sold and interest bearing deposits with other banks		63				40				103				47				43				90
Total interest earned on interest earning assets		316				210				526				1,189				1,751				2,940
Interest paid on:
Interest bearing demand deposits		91				68				159				248				783				1,031
Savings deposits		43				(6		)		37				(80		)		261				181
Time deposits		175				90				265				118				685				803
Short-term borrowings		(541		)		104				(437		)		(277		)		344				67
Long-term borrowings and capital trust securities		—				10				10				(550		)		123				(427		)
Total interest paid on interest bearing liabilities		(232		)		266				34				(541		)		2,196				1,655
Net interest income		$	548			$	(56	)		$	492			$	1,730			$	(445	)		$	1,285

Noninterest Income

Total noninterest income for the three months ended March 31, 2019 decreased 13.2% compared to same period in 2018 principally due to lower realized gains on sales of securities. Further detail regarding noninterest income is reflected in the following table.

Table III - Noninterest Income
	For the Quarter Ended March 31,
Dollars in thousands	2019				2018
Insurance commissions	$	1,174			$	1,113
Trust and wealth management fees	586				667
Service charges on deposit accounts	1,180				1,091
Bank card revenue	814				749
Realized securities (losses) gains	(3		)		732
Bank owned life insurance income	238				275
Other	241				249
Total	$	4,230			$	4,876

Noninterest Expense

Total noninterest expense increased 12.6% for the quarter ended March 31, 2019 compared to the quarter ended March 31, 2018 with other expenses and higher salaries, commissions, and employee benefits having the largest negative impact and fewer FDIC premiums during 2019 having the largest positive impact.  Table VI below shows the breakdown of the changes.

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Table VI - Noninterest Expense
	For the Quarter Ended March 31,
					Change
Dollars in thousands	2019				$				%			2018
Salaries, commissions, and employee benefits	$	7,347			$	526			7.7	%		$	6,821
Net occupancy expense	924				92				11.1	%		832
Equipment expense	1,179				96				8.9	%		1,083
Professional fees	403				70				21.0	%		333
Advertising and public relations	153				50				48.5	%		103
Amortization of intangibles	476				40				9.2	%		436
FDIC premiums	—				(240		)		(100.0	)%		240
Bank card expense	439				104				31.0	%		335
Foreclosed properties expense, net of losses	384				59				18.2	%		325
Merger-related expenses	63				63				(100.0	)%		—
Other	2,492				686				38.0	%		1,806
Total	$	13,860			$	1,546			12.6	%		$	12,314

Salaries, commissions, and employee benefits: These expenses are 7.7% higher in the first three months of 2019 compared to first three months of 2018 due to an increase in number of employees, primarily those in conjunction with the PBI acquisition, and general merit raises.

Net occupancy expense: The increase in net occupancy expense for the three months ended March 31, 2019 is primarily due to the acquired PBI locations.

Equipment: The increase in equipment expense is primarily increased depreciation and amortization related to various technological upgrades, both hardware and software, made during the past two years and also the PBI acquisition.

Amortization of intangibles: Amortization of intangibles increased for the three months ended March 31, 2019 as a result of the additional amortization of the core deposit intangible associated with the PBI acquisition.

Other: The increase in other expenses for the three months ended March 31, 2019 is primarily due to a $509,000 increase in deferred director compensation plan expenses. Under the plan, the directors optionally defer their director fees into a "phantom" investment plan whereby the company recognizes expense or benefit relative to the phantom returns or losses of such investments. As result of the stock market’s exceptionally robust performance during Q1 2019, we recognized significantly greater quarterly deferred director compensation expense this quarter than we have ever recognized previously.

Income Taxes

Our income tax expense for the three months ended March 31, 2019 and March 31, 2018 totaled $1.6 million and $1.9 million , respectively. Our effective tax rate (income tax expense as a percentage of income before taxes) for the quarters ended March 31, 2019 and 2018 was 18.4% and 20.2% , respectively. Refer to Note 18 of the accompanying financial statements for further information regarding our income taxes.

Credit Experience

For purposes of this discussion, nonperforming assets include foreclosed properties, other repossessed assets, and nonperforming loans, which is comprised of loans 90 days or more past due and still accruing interest and nonaccrual loans. Performing TDRs are excluded from nonperforming loans.

The provision for loan losses represents charges to earnings necessary to maintain an adequate allowance for probable credit losses inherent in the loan portfolio. Our determination of the appropriate level of the allowance is based on an ongoing analysis of credit quality and loss potential in the loan portfolio, change in the composition and risk characteristics of the loan portfolio, and the anticipated influence of national and local economic conditions.  The adequacy of the allowance for loan losses is reviewed quarterly and adjustments are made as considered necessary.

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We recorded $250,000 and $500,000 provisions for loan losses for the first three months of 2019 and 2018 . The decrease is primarily due to more favorable asset quality indicators.

As illustrated in Table VII below, our non-performing assets have decreased since year end 2018 .

Table VII - Summary of Non-Performing Assets
		March 31,								December 31,
Dollars in thousands		2019				2018				2018
Accruing loans past due 90 days or more		$	105			$	145			$	36
Nonaccrual loans
Commercial		729				685				935
Commercial real estate		2,981				3,401				3,238
Commercial construction and development		—				—				—
Residential construction and development		24				3,642				3,198
Residential real estate		5,859				7,456				7,506
Consumer		146				128				112
Other		130				—				—
Total nonaccrual loans		9,869				15,312				14,989
Foreclosed properties
Commercial		—				—				—
Commercial real estate		1,841				1,875				1,762
Commercial construction and development		6,326				7,140				6,479
Residential construction and development		14,347				11,053				11,543
Residential real estate		1,879				1,374				1,648
Total foreclosed properties		24,393				21,442				21,432
Repossessed assets		34				18				5
Total nonperforming assets		$	34,401			$	36,917			$	36,462
Total nonperforming loans as a percentage of total loans		0.57		%		0.94		%		0.89		%
Total nonperforming assets as a percentage of total assets		1.53		%		1.73		%		1.66		%
Allowance for loan losses as a percentage of nonperforming loans		131.66		%		79.30		%		86.84		%
Allowance for loan losses as a percentage of period end loans		0.76		%		0.75		%		0.77		%

The following table details the activity regarding our foreclosed properties for the three and three months ended March 31, 2019 and 2018 .

Table VIII - Foreclosed Property Activity
	For the Three Months Ended   March 31,
Dollars in thousands	2019				2018
Beginning balance	$	21,432			$	21,470
Acquisitions	3,656				641
Improvements	1				101
Disposals	(447		)		(513		)
Writedowns to fair value	(249		)		(257		)
Balance September 30	$	24,393			$	21,442

 

Refer to Note 6 of the accompanying consolidated financial statements for information regarding our past due loans, impaired loans, nonaccrual loans, and troubled debt restructurings and to Note 8 of the notes to the consolidated financial statements of our 2018 Annual Report on Form 10-K for a summary of the methodology we employ on a quarterly basis to evaluate the overall adequacy of our allowance for loan losses.

Substantially all of our nonperforming loans are secured by real estate. The majority of these loans were underwritten in accordance with our loan-to-value policy guidelines which range from 70-85% at the time of origination. The fair values of the underlying collateral value or the discounted cash flows remain in excess of the recorded investment in many of our nonperforming loans and therefore, no specific reserve allocation is required.

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At March 31, 2019 and December 31, 2018 , our allowance for loan losses totaled $13.1 million , or 0.76% of total loans and $13.0 million , or 0.77% of total loans. The allowance for loan losses is considered adequate to cover our current estimate of probable credit losses inherent in our loan portfolio.

At March 31, 2019 and December 31, 2018 we had approximately $24.4 million and $21.4 million in foreclosed properties which were obtained as the result of foreclosure proceedings.  Although foreclosed property is recorded at fair value less estimated costs to sell, the prices ultimately realized upon their sale may or may not result in us recognizing additional gains or losses.

FINANCIAL CONDITION

Our total assets were $2.25 billion at March 31, 2019 and $2.20 billion at December 31, 2018 .  Table IX below is a summary of significant changes in our financial position between December 31, 2018 and March 31, 2019 .

Table IX - Summary of Significant Changes in Financial Position
						Increase (Decrease)
		Balance December 31,				Impact of PBI Acquisition				Other Changes				Balance March 31,
Dollars in thousands		2018												2019
Assets
Cash and cash equivalents		$	59,540			$	33,329			$	(34,915	)		$	57,954
Securities available for sale		293,147				55,113				(51,134		)		297,126
Other investments		16,635				72				(4,110		)		12,597
Loans, net		1,682,005				41,398				1,661				1,725,064
Property held for sale		21,432				—				2,961				24,393
Premises and equipment		37,553				815				107				38,475
Goodwill and other intangibles		25,842				3,983				(476		)		29,349
Cash surrender value of life insurance policies		42,386				—				328				42,714
Other assets		22,046				939				(1,016		)		21,969
Total Assets		$	2,200,586			$	135,649			$	(86,594	)		$	2,249,641
Liabilities
Deposits		$	1,634,826			$	112,379			$	41,827			$	1,789,032
Short-term borrowings		309,084				—				(122,792		)		186,292
Long-term borrowings		735				—				(5		)		730
Subordinated debentures owed to unconsolidated subsidiary trusts		19,589				—				—				19,589
Other liabilities		16,522				1,533				2,313				20,368
Shareholders' Equity		219,830				21,737				(7,937		)		233,630
Total liabilities and shareholders' equity		$	2,200,586			$	135,649			$	(86,594	)		$	2,249,641

The following is a discussion of the significant changes in our financial position during the first nine months of 2018:

Cash and cash equivalents: Net reduction of $34.9 million is primarily attributable to repayments of short-term Federal Home Loan Bank ("FHLB") advances and the cash consideration of $12.7 million paid in conjunction with the PBI acquisition.

Securities available for sale: The net decrease of $51.1 million in securities available for sale is principally a result of sales of the acquired PBI securities portfolio, whose proceeds were used to pay down short-term FHLB advances.

Deposits: During first quarter 2019, noninterest bearing checking increased $6.8 million, interest bearing checking deposits grew $22.7 million, direct CDs grew $8.1 million, retail CDs increased $7.5 million while saving deposits decreased $5.7 million.

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Short-term borrowings: The net decrease in short-term borrowings was attributable to repayments of short-term FHLB advances primarily using cash acquired in conjunction with PBI acquisition, proceeds from sales of PBI's acquired securities, and increased deposits.

Shareholders' equity: Changes in shareholders' equity are a result of net income, other comprehensive income and dividends.

Refer to Notes 5, 6, 9, and 10 of the notes to the accompanying consolidated financial statements for additional information with regard to changes in the composition of our securities, loans, deposits and borrowings between March 31, 2019 and December 31, 2018 .

LIQUIDITY AND CAPITAL RESOURCES

Liquidity reflects our ability to ensure the availability of adequate funds to meet loan commitments and deposit withdrawals, as well as provide for other transactional requirements.  Liquidity is provided primarily by funds invested in cash and due from banks (net of float and reserves), Federal funds sold, non-pledged securities, and available lines of credit with the Federal Home Loan Bank of Pittsburgh (“FHLB”) and Federal Reserve Bank of Richmond, which totaled approximately $990 million or 44.02% of total consolidated assets at March 31, 2019 .

Our liquidity strategy is to fund loan growth with deposits and other borrowed funds while maintaining an adequate level of short- and medium-term investments to meet normal daily loan and deposit activity.  As a member of the FHLB, we have access to approximately $792 million.  As of March 31, 2019 and December 31, 2018 , these advances totaled approximately $187 million and $304 million, respectively.  At March 31, 2019 , we had additional borrowing capacity of $605 million through FHLB programs.  We have established a line with the Federal Reserve Bank to be used as a contingency liquidity vehicle.  The amount available on this line at March 31, 2019 was approximately $140 million, which is secured by a pledge of our consumer and commercial and industrial loan portfolios.  We have a $6 million unsecured line of credit with a correspondent bank.  Also, we classify all of our securities as available for sale to enable us to liquidate them if the need arises.

 

Liquidity risk represents the risk of loss due to the possibility that funds may not be available to satisfy current or future commitments based on external market issues, customer or creditor perception of financial strength, and events unrelated to Summit such as war, terrorism, or financial institution market specific issues.  The Asset/Liability Management Committee (“ALCO”), comprised of members of senior management and certain members of the Board of Directors, oversees our liquidity risk management process.   The ALCO develops and recommends policies and limits governing our liquidity to the Board of

Directors for approval with the objective of ensuring that we can obtain cost-effective funding to meet current and future obligations, as well as maintain sufficient levels of on-hand liquidity, under both normal and “stressed” circumstances.

 

We continuously monitor our liquidity position to ensure that day-to-day as well as anticipated funding needs are met.  We are not aware of any trends, commitments, events or uncertainties that have resulted in or are reasonably likely to result in a material change to our liquidity.

One of our continuous goals is maintenance of a strong capital position.  Through management of our capital resources, we seek to provide an attractive financial return to our shareholders while retaining sufficient capital to support future growth.  Shareholders’ equity at March 31, 2019 totaled $233.6 million compared to $219.8 million at December 31, 2018 .

Refer to Note 13 of the notes to the accompanying consolidated financial statements for additional information regarding regulatory restrictions on our capital as well as our subsidiaries’ capital.

CONTRACTUAL CASH OBLIGATIONS

During our normal course of business, we incur contractual cash obligations.  The following table summarizes our contractual cash obligations at March 31, 2019 .

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Table X - Contractual Cash Obligations
Dollars in thousands		Long Term Debt				Capital Trust Securities				Operating Leases
2019		$	13			$	—			$	177
2020		18				—				92
2021		20				—				71
2022		21				—				73
2023		22				—				53
Thereafter		636				19,589				75
Total		$	730			$	19,589			$	541

OFF-BALANCE SHEET ARRANGEMENTS

We are involved with some off-balance sheet arrangements that have or are reasonably likely to have an effect on our financial condition, liquidity, or capital.  These arrangements at March 31, 2019 are presented in the following table.

Table XI - Off-Balance Sheet Arrangements		March 31,
Dollars in thousands		2019
Commitments to extend credit:
Revolving home equity and credit card lines		$	70,110
Construction loans		84,705
Other loans		139,569
Standby letters of credit		6,533
Total		$	300,917

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Item 3. Quantitative and Qualitative Disclosures about Market Risk

Market Risk Management

Market risk is the risk of loss arising from adverse changes in the fair value of financial instruments due to changes in interest rates, exchange rates and equity prices.  Interest rate risk is our primary market risk and results from timing differences in the repricing of assets, liabilities and off-balance sheet instruments, changes in relationships between rate indices and the potential exercise of imbedded options.  The principal objective of asset/liability management is to minimize interest rate risk and our actions in this regard are taken under the guidance of our Asset/Liability Management Committee (“ALCO”), which is comprised of members of senior management and members of the Board of Directors.  The ALCO actively formulates the economic assumptions that we use in our financial planning and budgeting process and establishes policies which control and monitor our sources, uses and prices of funds.

Some amount of interest rate risk is inherent and appropriate to the banking business.  Our net income is affected by changes in the absolute level of interest rates.  Our interest rate risk position is well-matched over the near-term. That is, absent any changes in the volumes of our interest earning assets or interest bearing liabilities, assets are likely to reprice faster than liabilities, resulting in an increase in net income in a rising rate environment.  Net income would decrease in a falling interest rate environment.  Net income is also subject to changes in the shape of the yield curve.  In general, a flattening yield curve would decrease our earnings due to the compression of earning asset yields and funding rates, while a steepening would increase earnings as margins widen.

Several techniques are available to monitor and control the level of interest rate risk.  We primarily use earnings simulations modeling to monitor interest rate risk.  The earnings simulation model forecasts the effects on net interest income under a variety of interest rate scenarios that incorporate changes in the absolute level of interest rates and changes in the shape of the yield curve.  Each increase or decrease in interest rates is assumed to gradually take place over the next 12 months, and then remain stable, except for the up 400 scenario, which assumes a gradual increase in rates over 24 months.  Assumptions used to project yields and rates for new loans and deposits are derived from historical analysis.  Securities portfolio maturities and prepayments are reinvested in like instruments.  Mortgage loan prepayment assumptions are developed from industry estimates of prepayment speeds.  Noncontractual deposit repricings are modeled on historical patterns.

The estimated sensitivity of our net interest income to changes in interest rates, as of March 31, 2019 is not materially different than that as of December 31, 2018 which is presented on page 43 of our Form 10-K for the year ended December 31, 2018.

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Item 4. Controls and Procedures

Our management, including the Chief Executive Officer and Chief Financial Officer, has conducted as of March 31, 2019 , an evaluation of the effectiveness of disclosure controls and procedures as defined in Exchange Act Rule 13a-15(e).  Based on that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the disclosure controls and procedures as of March 31, 2019 were effective.  There were no changes in our internal control over financial reporting that occurred during the quarter ended March 31, 2019 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

 

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Part II. Other Information

Item 1.  Legal Proceedings

Refer to Note 12 of the Notes to the Consolidated Financial Statements in Part I, Item 1 for information regarding legal proceedings not reportable under this Item.

Item 1A.  Risk Factors

In addition to the other information set forth in this report, you should carefully consider the factors discussed in Part I, “Item 1A. Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2018.

Item 6. Exhibits

Exhibit 3.i	Amended and Restated Articles of Incorporation of Summit Financial Group, Inc.
Exhibit 3.ii	Articles of Amendment 2009
Exhibit 3.iii	Articles of Amendment 2011
Exhibit 3.iv	Amended and Restated By-Laws of Summit Financial Group, Inc.
Exhibit 11	Statement re: Computation of Earnings per Share – Information contained in Note 4 to the Consolidated Financial Statements on page 13 of this Quarterly Report is incorporated herein by reference.
Exhibit 31.1	Sarbanes-Oxley Act Section 302 Certification of Chief Executive Officer
Exhibit 31.2	Sarbanes-Oxley Act Section 302 Certification of Chief Financial Officer
Exhibit 32.1	Sarbanes-Oxley Act Section 906 Certification of Chief Executive Officer
Exhibit 32.2	Sarbanes-Oxley Act Section 906 Certification of Chief Financial Officer
Exhibit 101	Interactive Data File (XBRL)

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EXHIBIT INDEX

Exhibit No.	Description	Page Number
(3)	Articles of Incorporation and By-laws:
	(i)  Amended and Restated Articles of Incorporation of Summit Financial Group, Inc.	(a)
	(ii)  Articles of Amendment 2009	(b)
	(iii)  Articles of Amendment 2011	(c)
	(iv)  Amended and Restated By-laws of Summit Financial Group, Inc.	(d)
11	Statement re:  Computation of Earnings per Share	15
31.1	Sarbanes-Oxley Act Section 302 Certification of Chief Executive Officer
31.2	Sarbanes-Oxley Act Section 302 Certification of Chief Financial Officer
32.1*	Sarbanes-Oxley Act Section 906 Certification of Chief Executive Officer
32.2*	Sarbanes-Oxley Act Section 906 Certification of Chief Financial Officer
101**	Interactive data file (XBRL)

*Furnished, not filed.

** As provided in Rule 406T of Regulation S-T, this information is furnished and not filed for purposes of Sections 11 and 12 of the Securities Act of 1933 and Section 18 of the Securities Exchange Act of 1934.

(a)	Incorporated by reference to Exhibit 3.i of Summit Financial Group, Inc.’s filing on Form 10-Q dated March 31, 2006.

(b)	Incorporated by reference to Exhibit 3.1 of Summit Financial Group, Inc.’s filing on Form 8-K dated September 30, 2009.

(c)	Incorporated by reference to Exhibit 3.1 of Summit Financial Group, Inc.’s filing on Form 8-K dated November 3, 2011.

(d)	Incorporated by reference to Exhibit 3.1 of Summit Financial Group, Inc.’s filing on Form 10-Q dated March 31, 2007.

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

		SUMMIT FINANCIAL GROUP, INC.
		(registrant)
		By:	/s/ H. Charles Maddy, III
			H. Charles Maddy, III,
			President and Chief Executive Officer
		By:	/s/ Robert S. Tissue
			Robert S. Tissue,
			Senior Vice President and Chief Financial Officer
		By:	/s/ Julie R. Markwood
			Julie R. Markwood,
			Vice President and Chief Accounting Officer
Date:	May 6, 2019

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