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  • 10-Q (Aug 9, 2017)
  • 10-Q (May 10, 2017)
  • 10-Q (Nov 9, 2016)
  • 10-Q (Aug 9, 2016)
  • 10-Q (May 10, 2016)
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Eagle Bancorp 10-Q 2017

Documents found in this filing:

  1. 10-Q
  2. Ex-21
  3. Ex-31.1
  4. Ex-31.2
  5. Ex-32.1
  6. Ex-32.2
  7. Ex-32.2
egbn20170331_10q.htm Table of Contents

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

 

FORM 10-Q

 

(Mark One)

( X )

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

     

For the Quarterly Period Ended March 31, 2017

 

OR

 

(   )

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

 

For the transition period from                    to_________

 

Commission File Number 0-25923

 

Eagle Bancorp, Inc.

(Exact name of registrant as specified in its charter)

 

              Maryland

 52-2061461

(State or other jurisdiction of

 (I.R.S. Employer

incorporation or organization)

 Identification No.)

   
7830 Old Georgetown Road, Third Floor, Bethesda, Maryland 20814
     (Address of principal executive offices) (Zip Code)

 

(301) 986-1800

(Registrant's telephone number, including area code)

(Former name, former address and former fiscal year, if changed since last report)

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒No ☐

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes☒      No ☐

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See definition of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company”) in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer ☒

Accelerated filer ☐

Non-accelerated filer ☐     (Do not mark if a smaller reporting company)

Smaller Reporting Company ☐

Emerging Growth Company ☐

 

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

Yes ☐     No ☒

 

 

As of April 30, 2017, the registrant had 34,109,521 shares of Common Stock outstanding.

 

 

EAGLE BANCORP, INC.

TABLE OF CONTENTS

 

PART I.

FINANCIAL INFORMATION

 
     

Item 1.

Financial Statements (Unaudited) 

  3
 

Consolidated Balance Sheets

  3
 

Consolidated Statements of Operations

  4
  Consolidated Statements of Comprehensive Income  5
 

Consolidated Statements of Changes in Shareholders’ Equity

  6
 

Consolidated Statements of Cash Flows

  7
 

Notes to Consolidated Financial Statements

  8
     

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

  45
     

Item 3.

Quantitative and Qualitative Disclosures About Market Risk

  68
     

Item 4.

Controls and Procedures

  68
     

PART II.

OTHER INFORMATION

 
     

Item 1.

Legal Proceedings

  69
     

Item 1A.

Risk Factors

  69
     

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

  69
     

Item 3.

Defaults Upon Senior Securities

  69
     

Item 4.

Mine Safety Disclosures

  69
     

Item 5.

Other Information

  70
     

Item 6.

Exhibits

  70
     

Signatures

    72

 

 

Item 1 – Financial Statements (Unaudited)


 

EAGLE BANCORP, INC.

Consolidated Balance Sheets (Unaudited)

(dollars in thousands, except per share data)

 

   

March 31, 2017

   

December 31, 2016

   

March 31, 2016

 
Assets                        

Cash and due from banks

  $ 11,899     $ 10,285     $ 11,856  

Federal funds sold

    3,222       2,397       14,905  

Interest bearing deposits with banks and other short-term investments

    464,061       355,481       175,136  

Investment securities available-for-sale, at fair value

    499,807       538,108       487,609  

Federal Reserve and Federal Home Loan Bank stock

    25,573       21,600       17,696  

Loans held for sale

    29,567       51,629       45,679  

Loans

    5,824,946       5,677,893       5,155,871  

Less allowance for credit losses

    (59,848 )     (59,074 )     (54,608 )

Loans, net

    5,765,098       5,618,819       5,101,263  

Premises and equipment, net

    20,535       20,661       17,939  

Deferred income taxes

    48,203       48,220       41,136  

Bank owned life insurance

    60,496       60,130       58,974  

Intangible assets, net

    107,061       107,419       108,268  

Other real estate owned

    1,394       2,694       3,846  

Other assets

    53,247       52,653       46,915  

Total Assets

  $ 7,090,163     $ 6,890,096     $ 6,131,222  
                         

Liabilities and Shareholders' Equity

                       

Liabilities

                       

Deposits:

                       

Noninterest bearing demand

  $ 1,831,837     $ 1,775,684     $ 1,474,102  

Interest bearing transaction

    372,947       289,122       219,646  

Savings and money market

    2,794,030       2,902,560       2,704,249  

Time, $100,000 or more

    455,830       464,842       409,698  

Other time

    334,845       283,906       381,951  

Total deposits

    5,789,489       5,716,114       5,189,646  

Customer repurchase agreements

    82,160       68,876       66,963  

Other short-term borrowings

    75,000       -       -  

Long-term borrowings

    216,612       216,514       68,958  

Other liabilities

    53,860       45,793       43,159  

Total Liabilities

    6,217,121       6,047,297       5,368,726  
                         

Shareholders' Equity

                       

Common stock, par value $.01 per share; shares authorized 100,000,000, shares issued and outstanding 34,110,056, 34,023,850 and 33,581,599, respectively

    339       338       333  

Warrant

    -       -       946  

Additional paid in capital

    515,656       513,531       505,338  

Retained earnings

    358,328       331,311       256,926  

Accumulated other comprehensive loss

    (1,281 )     (2,381 )     (1,047 )

Total Shareholders' Equity

    873,042       842,799       762,496  

Total Liabilities and Shareholders' Equity

  $ 7,090,163     $ 6,890,096     $ 6,131,222  

 

See notes to consolidated financial statements.

 

 

EAGLE BANCORP, INC.

Consolidated Statements of Operations (Unaudited)

(dollars in thousands, except per share data)

 

   

Three Months Ended March 31,

 
   

2017

   

2016

 

Interest Income

               

Interest and fees on loans

  $ 72,471     $ 64,922  

Interest and dividends on investment securities

    2,833       2,588  

Interest on balances with other banks and short-term investments

    483       284  

Interest on federal funds sold

    7       13  

Total interest income

    75,794       67,807  

Interest Expense

               

Interest on deposits

    5,830       4,143  

Interest on customer repurchase agreements

    38       37  

Interest on short-term borrowings

    53       -  

Interest on long-term borrowings

    2,979       1,037  

Total interest expense

    8,900       5,217  

Net Interest Income

    66,894       62,590  

Provision for Credit Losses

    1,397       3,043  

Net Interest Income After Provision For Credit Losses

    65,497       59,547  
                 

Noninterest Income

               

Service charges on deposits

    1,472       1,448  

Gain on sale of loans

    2,048       1,463  

Gain on sale of investment securities

    505       624  

Increase in the cash surrender value of bank owned life insurance

    367       390  

Other income

    1,678       2,365  

Total noninterest income

    6,070       6,290  

Noninterest Expense

               

Salaries and employee benefits

    16,677       16,119  

Premises and equipment expenses

    3,847       3,826  

Marketing and advertising

    894       774  

Data processing

    2,041       2,014  

Legal, accounting and professional fees

    1,002       1,063  

FDIC insurance

    544       809  

Other expenses

    4,227       3,497  

Total noninterest expense

    29,232       28,102  

Income Before Income Tax Expense

    42,335       37,735  

Income Tax Expense

    15,318       14,413  

Net Income

  $ 27,017     $ 23,322  
                 

Earnings Per Common Share

               

Basic

  $ 0.79     $ 0.70  

Diluted

  $ 0.79     $ 0.68  

 

See notes to consolidated financial statements.

 

 

EAGLE BANCORP, INC.

Consolidated Statements of Comprehensive Income (Unaudited)

(dollars in thousands)

 

   

Three Months Ended March 31,

 
   

2017

   

2016

 
                 

Net Income

  $ 27,017     $ 23,322  
                 

Other comprehensive income, net of tax:

               

Unrealized gain on securities available for sale

    712       3,578  

Reclassification adjustment for net gains included in net income

    (322 )     (374 )

Total unrealized gain (loss) on investment securities

    390       3,204  
                 

Unrealized gain (loss) on derivatives

    1,079       (4,442 )

Reclassification adjustment for losses included in net income

    (369 )     -  

Total unrealized gain (loss) on derivatives

    710       (4,442 )
                 

Other comprehensive income (loss)

    1,100       (1,238 )

Comprehensive Income

  $ 28,117     $ 22,084  

 

See notes to consolidated financial statements 

 

 

EAGLE BANCORP, INC.

Consolidated Statements of Changes in Shareholders’ Equity (Unaudited)

(dollars in thousands except share data)

 

                                           

Accumulated

         
                                           

Other

   

Total

 
   

Common

           

Additional Paid

   

Retained

   

Comprehensive

   

Shareholders'

 
   

Shares

   

Amount

   

Warrant

   

in Capital

   

Earnings

   

Income (Loss)

   

Equity

 
                                                         

Balance January 1, 2017

    34,023,850     $ 338     $ -     $ 513,531     $ 331,311     $ (2,381 )   $ 842,799  
                                                         

Net Income

    -     $ -     $ -     $ -     $ 27,017     $ -     $ 27,017  

Other comprehensive gain, net of tax

    -       -       -       -       -       1,100       1,100  

Stock-based compensation

    -       -       -       1,856       -       -       1,856  

Issuance of common stock related to options exercised, net of shares withheld for payroll taxes

    2,675       -       -       66       -       -       66  

Vesting of restricted stock awards issued at date of grant, net of shares withheld for payroll taxes

    (11,788 )     1       -       (2 )     -       -       (1 )

Restricted stock awards granted

    91,097       -       -       -       -       -       -  

Issuance of common stock related to employee stock purchase plan

    4,222       -       -       205       -       -       205  
                                                         

Balance March 31, 2017

    34,110,056     $ 339     $ -     $ 515,656     $ 358,328     $ (1,281 )   $ 873,042  
                                                         

Balance January 1, 2016

    33,467,893     $ 331     $ 946     $ 503,529     $ 233,604     $ 191     $ 738,601  
                                                         

Net Income

    -       -       -       -       23,322       -     $ 23,322  

Other comprehensive loss, net of tax

    -       -       -       -       -       (1,238 )     (1,238 )

Stock-based compensation

    -       -       -       1,430       -       -       1,430  

Issuance of common stock related to options exercised, net of shares withheld for payroll taxes

    15,915       -       -       159       -       -       159  

Tax benefits realized from stock compensation

    -       -       -       65       -       -       65  

Vesting of restricted stock awards issued at date of grant, net of shares withheld for payroll taxes

    (10,434 )     2       -       (2 )     -       -       -  

Restricted stock awards granted

    104,775       -       -       -       -       -       -  

Issuance of common stock related to employee stock purchase plan

    3,450       -       -       157       -       -       157  
                                                         

Balance March 31, 2016

    33,581,599     $ 333     $ 946     $ 505,338     $ 256,926     $ (1,047 )   $ 762,496  

 

See notes to consolidated financial statements.

 

 

EAGLE BANCORP, INC.

Consolidated Statements of Cash Flows (Unaudited)

(dollars in thousands)

 

   

Three Months Ended March 31,

 
   

2017

   

2016

 

Cash Flows From Operating Activities:

               

Net Income

  $ 27,017     $ 23,322  

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

               

Provision for credit losses

    1,397       3,043  

Depreciation and amortization

    1,674       1,596  

Gains on sale of loans

    (2,048 )     (1,463 )

Securities premium amortization (discount accretion), net

    1,006       1,142  

Origination of loans held for sale

    (153,995 )     (125,644 )

Proceeds from sale of loans held for sale

    178,105       128,920  

Net increase in cash surrender value of Bank Owned Life Insurance

    (367 )     (390 )

Decrease (increase) deferred income tax benefit

    17       (825 )

Decrease in value of other real estate owned

    -       6  

Net loss (gain) on sale of other real estate owned

    361       (573 )

Net gain on sale of investment securities

    (505 )     (624 )

Stock-based compensation expense

    1,856       1,430  

Net tax benefits from stock compensation

    589        -  

Excess tax benefits realized from stock compensation

    -       (65 )

Increase in other assets

    (594 )     713  

Increase in other liabilities

    7,478       5,911  

Net cash provided by operating activities

    61,991       36,499  

Cash Flows From Investing Activities:

               

Decrease in interest bearing deposits with other banks and short-term investments

    -       698  

Purchases of available for sale investment securities

    (35,183 )     (41,378 )

Proceeds from maturities of available for sale securities

    22,922       24,182  

Proceeds from sale/call of available for sale securities

    51,161       15,700  

Purchases of Federal Reserve and Federal Home Loan Bank stock

    (8,275 )     (793 )

Proceeds from redemption of Federal Reserve and Federal Home Loan Bank stock

    4,302       -  

Net increase in loans

    (147,618 )     (159,159 )

Proceeds from sale of other real estate owned

    939       2,572  

Bank premises and equipment acquired

    (1,248 )     (977 )

Net cash used in investing activities

    (113,000 )     (159,155 )

Cash Flows From Financing Activities:

               

Increase in deposits

    73,375       31,202  

Increase (decrease) in customer repurchase agreements

    13,284       (5,393 )

Increase in short-term borrowings

    75,000       -  

Increase in long-term borrowings

    98       -  

Proceeds from exercise of equity compensation plans

    66       159  

Excess tax benefits realized from stock compensation

    -       65  

Proceeds from employee stock purchase plan

    205       157  

Net cash provided by financing activities

    162,028       26,190  

Net Increase (Decrease) In Cash and Cash Equivalents

    111,019       (96,466 )

Cash and Cash Equivalents at Beginning of Period

    368,163       298,363  

Cash and Cash Equivalents at End of Period

  $ 479,182     $ 201,897  

Supplemental Cash Flows Information:

               

Interest paid

  $ 11,517     $ 6,105  

Income taxes paid

  $ 6,000     $ 7,100  

Non-Cash Investing Activities

               

Transfers from loans to other real estate owned

  $ -     $ -  

Transfers from other real estate owned to loans

  $ -     $ -  

 

See notes to consolidated financial statements.

 

 

EAGLE BANCORP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

 

Note 1. Summary of Significant Accounting Policies

 

Basis of Presentation

 

The Consolidated Financial Statements include the accounts of Eagle Bancorp, Inc. and its subsidiaries (the “Company”), EagleBank (the “Bank”), Eagle Commercial Ventures, LLC (“ECV”), Eagle Insurance Services, LLC, and Bethesda Leasing, LLC, with all significant intercompany transactions eliminated.

 

The Consolidated Financial Statements of the Company included herein are unaudited. The Consolidated Financial Statements reflect all adjustments, consisting of normal recurring accruals that in the opinion of management, are necessary to present fairly the results for the periods presented. The amounts as of and for the year ended December 31, 2016 were derived from audited Consolidated Financial Statements. Certain information and note disclosures normally included in financial statements prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) have been condensed or omitted pursuant to the rules and regulations of the Securities and Exchange Commission. There have been no significant changes to the Company’s Accounting Policies as disclosed in the Company’s Annual Report on Form 10-K for the year ended December 31, 2016. The Company believes that the disclosures are adequate to make the information presented not misleading. Certain reclassifications have been made to amounts previously reported to conform to the current period presentation.

 

These statements should be read in conjunction with the audited Consolidated Financial Statements and related notes included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2016. Operating results for the three months ended March 31, 2017 are not necessarily indicative of the results of operations to be expected for the remainder of the year, or for any other period.

 

Nature of Operations

 

The Company, through the Bank, conducts a full service community banking business, primarily in metropolitan Washington, D.C area. The primary financial services offered by the Bank include real estate, commercial and consumer lending, as well as traditional deposit and repurchase agreement products. The Bank is also active in the origination and sale of residential mortgage loans and the origination of small business loans. The Bank offers its products and services through twenty-one banking offices, five lending centers and various electronic capabilities, including remote deposit services and mobile banking services. Eagle Insurance Services, LLC, a subsidiary of the Bank, offers access to insurance products and services through a referral program with a third party insurance broker. Eagle Commercial Ventures, LLC, a direct subsidiary of the Company, provides subordinated financing for the acquisition, development and construction of real estate projects; these transactions involve higher levels of risk, together with commensurate higher returns. Refer to Higher Risk Lending – Revenue Recognition below.

 

Use of Estimates

 

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts in the financial statements and accompanying notes. Actual results may differ from those estimates and such differences could be material to the financial statements.

 

Cash Flows

 

For purposes of reporting cash flows, cash and cash equivalents include cash and due from banks, federal funds sold, and interest bearing deposits with other banks which have an original maturity of three months or less.

 

 

Loans Held for Sale

 

The Company regularly engages in sales of residential mortgage loans and the guaranteed portion of small business loans, guaranteed by the Small Business Administration (“SBA”), originated by the Bank. The Company has elected to carry loans held for sale at fair value. Fair value is derived from secondary market quotations for similar instruments. Gains and losses on sales of these loans are recorded as a component of noninterest income in the Consolidated Statements of Operations.

 

The Company’s current practice is to sell residential mortgage loans on a servicing released basis, and, therefore, it has no intangible asset recorded for the value of such servicing as of March 31, 2017, December 31, 2016 and March 31, 2016. The sale of the guaranteed portion of SBA loans on a servicing retained basis, in a transaction apart from the loan’s origination, gives rise to an excess servicing asset, which is computed on a loan by loan basis with the unamortized amount being included in intangible assets in the Consolidated Balance Sheets. This excess servicing asset is being amortized on a straight-line basis (with adjustment for prepayments) as an offset to servicing fees collected and is included in other income in the Consolidated Statements of Operations.

 

The Company enters into commitments to originate residential mortgage loans whereby the interest rate on the loan is determined prior to funding (i.e. interest rate lock commitments). Such interest rate lock commitments on mortgage loans to be sold in the secondary market are considered to be derivatives. To protect against the price risk inherent in residential mortgage loan commitments, the Company utilizes both “best efforts” and “mandatory delivery” forward loan sale commitments to mitigate the risk of potential decreases in the values of loans that would result from the exercise of the derivative loan commitments. Under a “best efforts” contract, the Company commits to deliver an individual mortgage loan of a specified principal amount and quality to an investor and the investor commits to a price that it will purchase the loan from the Company if the loan to the underlying borrower closes. The Company protects itself from changes in interest rates through the use of best efforts forward delivery commitments, whereby the investor commits to purchase a loan at a price representing a premium on the day the borrower commits to an interest rate with the intent that the buyer/investor has assumed the interest rate risk on the loan. As a result, the Bank is not generally exposed to losses on loans sold utilizing best efforts, nor will it realize gains related to rate lock commitments due to changes in interest rates. The market values of interest rate lock commitments and best efforts contracts are not readily ascertainable with precision because rate lock commitments and best efforts contracts are not actively traded. Because of the high correlation between rate lock commitments and best efforts contracts, no gain or loss should occur on the interest rate lock commitments. Under a “mandatory delivery” contract, the Company commits to deliver a certain principal amount of mortgage loans to an investor at a specified price on or before a specified date. If the Company fails to deliver the amount of mortgages necessary to fulfill the commitment by the specified date, it is obligated to pay the investor a “pair-off” fee, based on then-current market prices, to compensate the investor for the shortfall. The Company manages the interest rate risk on interest rate lock commitments by entering into forward sale contracts of mortgage backed securities, whereby the Company obtains the right to deliver securities to investors in the future at a specified price. Such contracts are accounted for as derivatives and are recorded at fair value in derivative assets or liabilities, carried on the Consolidated Balance Sheet within other assets or other liabilities with changes in fair value recorded in other income within the Consolidated Statements of Operations. The period of time between issuance of a loan commitment to the customer and closing and sale of the loan to an investor generally ranges from 30 to 90 days under current market conditions. The gross gains on loan sales are recognized based on new loan commitments with adjustment for price and pair-off activity. Commission expenses on loans held for sale are recognized based on loans closed.

 

In circumstances where the Company does not deliver the whole loan to an investor, but rather elects to retain the loan in its portfolio, the loan is transferred from held for sale to loans at fair value at date of transfer.

 

Investment Securities

 

The Company has no securities classified as trading, or as held to maturity. Marketable equity securities and debt securities not classified as held to maturity or trading are classified as available-for-sale. Securities available-for-sale are acquired as part of the Company’s asset/liability management strategy and may be sold in response to changes in interest rates, current market conditions, loan demand, changes in prepayment risk and other factors. Securities available-for-sale are carried at fair value, with unrealized gains or losses being reported as accumulated other comprehensive income/(loss), a separate component of shareholders’ equity, net of deferred income tax. Realized gains and losses, using the specific identification method, are included as a separate component of noninterest income in the Consolidated Statements of Operations.

 

 

Premiums and discounts on investment securities are amortized/accreted to the earlier of call or maturity based on expected lives, which lives are adjusted based on prepayment assumptions and call optionality if any. Declines in the fair value of individual available-for-sale securities below their cost that are other-than-temporary in nature result in write-downs of the individual securities to their fair value. Factors affecting the determination of whether other-than-temporary impairment has occurred include a downgrading of the security by a rating agency, a significant deterioration in the financial condition of the issuer, or a change in management’s intent and ability to hold a security for a period of time sufficient to allow for any anticipated recovery in fair value. Management systematically evaluates investment securities for other-than-temporary declines in fair value on a quarterly basis. This analysis requires management to consider various factors, which include the: (1) duration and magnitude of the decline in value; (2) financial condition of the issuer or issuers; and (3) structure of the security.

 

The entire amount of an impairment loss is recognized in earnings only when: (1) the Company intends to sell the security; or (2) it is more likely than not that the Company will have to sell the security before recovery of its amortized cost basis; or (3) the Company does not expect to recover the entire amortized cost basis of the security. In all other situations, only the portion of the impairment loss representing the credit loss must be recognized in earnings, with the remaining portion being recognized in shareholders’ equity as comprehensive income, net of deferred taxes.

 

Loans

 

Loans are stated at the principal amount outstanding, net of unamortized deferred costs and fees. Interest income on loans is accrued at the contractual rate on the principal amount outstanding. It is the Company’s policy to discontinue the accrual of interest when circumstances indicate that collection is doubtful. Deferred fees and costs are being amortized on the interest method over the term of the loan.

 

Management considers loans impaired when, based on current information, it is probable that the Company will not collect all principal and interest payments according to contractual terms. Loans are evaluated for impairment in accordance with the Company’s portfolio monitoring and ongoing risk assessment procedures.  Management considers the financial condition of the borrower, cash flow of the borrower, payment status of the loan, and the value of the collateral, if any, securing the loan. Generally, impaired loans do not include large groups of smaller balance homogeneous loans such as residential real estate and consumer type loans which are evaluated collectively for impairment and are generally placed on nonaccrual when the loan becomes 90 days past due as to principal or interest. Loans specifically reviewed for impairment are not considered impaired during periods of “minimal delay” in payment (90 days or less) provided eventual collection of all amounts due is expected.  The impairment of a loan is measured based on the present value of expected future cash flows discounted at the loan’s effective interest rate, or the fair value of the collateral if repayment is expected to be provided solely by the collateral.  In appropriate circumstances, interest income on impaired loans may be recognized on a cash basis.

 

Higher Risk Lending – Revenue Recognition

 

The Company has occasionally made higher risk acquisition, development, and construction (“ADC”) loans that entail higher risks than ADC loans made following normal underwriting practices (“higher risk loan transactions”). These higher risk loan transactions are currently made through the Company’s subsidiary, ECV. This activity is limited as to individual transaction amount and total exposure amounts, based on capital levels, and is carefully monitored. The loans are carried on the balance sheet at amounts outstanding and meet the loan classification requirements of the Accounting Standard Executive Committee (“AcSEC”) guidance reprinted from the CPA Letter, Special Supplement, dated February 10, 1986 (also referred to as Exhibit 1 to AcSEC Practice Bulletin No. 1). ECV had three higher risk loan transactions outstanding as of March 31, 2017, as compared to three higher risk loan transactions outstanding as of December 31, 2016, amounting to $9.4 million and $9.3 million, respectively.

 

 

Allowance for Credit Losses

 

The allowance for credit losses represents an amount which, in management’s judgment, is adequate to absorb probable losses on loans and other extensions of credit that may become uncollectible. The adequacy of the allowance for credit losses is determined through careful and continuous review and evaluation of the loan portfolio and involves the balancing of a number of factors to establish a prudent level of allowance. Among the factors considered in evaluating the adequacy of the allowance for credit losses are lending risks associated with growth and entry into new markets, loss allocations for specific credits, the level of the allowance to nonperforming loans, historical loss experience, economic conditions, portfolio trends and credit concentrations, changes in the size and character of the loan portfolio, and management’s judgment with respect to current and expected economic conditions and their impact on the existing loan portfolio. Allowances for impaired loans are generally determined based on collateral values. Loans or any portion thereof deemed uncollectible are charged against the allowance, while recoveries are credited to the allowance. Management adjusts the level of the allowance through the provision for credit losses, which is recorded as a current period operating expense. The allowance for credit losses consists of allocated and unallocated components.

 

The components of the allowance for credit losses represent an estimation done pursuant to Accounting Standards Codification (“ASC”) Topic 450, “Contingencies,” or ASC Topic 310, “Receivables.” Specific allowances are established in cases where management has identified significant conditions or circumstances related to a specific credit that management believes indicate the probability that a loss may be incurred. For potential problem credits for which specific allowance amounts have not been determined, the Company establishes allowances according to the application of credit risk factors. These factors are set by management and approved by the appropriate Board committee to reflect its assessment of the relative level of risk inherent in each risk grade. A third component of the allowance computation, termed a nonspecific or environmental factors allowance, is based upon management’s evaluation of various environmental conditions that are not directly measured in the determination of either the specific allowance or formula allowance. Such conditions include general economic and business conditions affecting key lending areas, credit quality trends (including trends in delinquencies and nonperforming loans expected to result from existing conditions), loan volumes and concentrations, specific industry conditions within portfolio categories, recent loss experience in particular loan categories, duration of the current business cycle, bank regulatory examination results, findings of outside review consultants, and management’s judgment with respect to various other conditions including credit administration and management and the quality of risk identification systems. Executive management reviews these environmental conditions quarterly, and documents the rationale for all changes.

 

Management believes that the allowance for credit losses is adequate; however, determination of the allowance is inherently subjective and requires significant estimates. While management uses available information to recognize losses on loans, future additions to the allowance may be necessary based on changes in economic conditions. Evaluation of the potential effects of these factors on estimated losses involves a high degree of uncertainty, including the strength and timing of economic cycles and concerns over the effects of a prolonged economic downturn in the current cycle. In addition, various banking agencies, as an integral part of their examination process, and independent consultants engaged by the Bank, periodically review the Bank’s loan portfolio and allowance for credit losses. Such review may result in recognition of additions to the allowance based on their judgments of information available to them at the time of their examination.

 

Premises and Equipment

 

Premises and equipment are stated at cost less accumulated depreciation and amortization computed using the straight-line method for financial reporting purposes. Premises and equipment are depreciated over the useful lives of the assets, which generally range from three to seven years for furniture, fixtures and equipment, three to five years for computer software and hardware, and five to twenty years for building improvements. Leasehold improvements are amortized over the terms of the respective leases, which may include renewal options where management has the positive intent to exercise such options, or the estimated useful lives of the improvements, whichever is shorter. The costs of major renewals and betterments are capitalized, while the costs of ordinary maintenance and repairs are expensed as incurred. These costs are included as a component of premises and equipment expenses on the Consolidated Statements of Operations.

 

 

Other Real Estate Owned (OREO)

 

Assets acquired through loan foreclosure are held for sale and are recorded at fair value less estimated selling costs when acquired, establishing a new cost basis. The new basis is supported by appraisals that are generally no more than twelve months old. Costs after acquisition are generally expensed. If the fair value of the asset declines, a write-down is recorded through noninterest expense. The valuation of foreclosed assets is subjective in nature and may be adjusted in the future because of changes in market conditions or appraised values.

 

Goodwill and Other Intangible Assets

 

Goodwill represents the excess of the cost of an acquisition over the fair value of the net assets acquired. Other intangible assets represent purchased assets that lack physical substance but can be distinguished from goodwill because of contractual or other legal rights. Intangible assets that have finite lives, such as core deposit intangibles, are amortized over their estimated useful lives and subject to periodic impairment testing. Intangible assets (other than goodwill) are amortized to expense using accelerated or straight-line methods over their respective estimated useful lives.

 

Goodwill is subject to impairment testing at the reporting unit level, which must be conducted at least annually. The Company performs impairment testing during the fourth quarter of each year or when events or changes in circumstances indicate the assets might be impaired.

 

The Company performs a qualitative assessment to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If, after assessing updated qualitative factors, the Company determines it is not more likely than not that the fair value of a reporting unit is less than its carrying amount, it does not have to perform the two-step goodwill impairment test. Determining the fair value of a reporting unit under the first step of the goodwill impairment test and determining the fair value of individual assets and liabilities of a reporting unit under the second step of the goodwill impairment test are judgmental and often involve the use of significant estimates and assumptions. Similarly, estimates and assumptions are used in determining the fair value of other intangible assets. Estimates of fair value are primarily determined using discounted cash flows, market comparisons and recent transactions. These approaches use significant estimates and assumptions including projected future cash flows, discount rates reflecting the market rate of return, projected growth rates and determination and evaluation of appropriate market comparables. Based on the results of qualitative assessments of all reporting units, the Company concluded that no impairment existed at December 31, 2016. However, future events could cause the Company to conclude that goodwill or other intangibles have become impaired, which would result in recording an impairment loss. Any resulting impairment loss could have a material adverse impact on the Company’s financial condition and results of operations.

 

Interest Rate Swap Derivatives

 

The Company is exposed to certain risks arising from both its business operations and economic conditions. The Company principally manages its exposures to a wide variety of business and operational risks through management of its core business activities. The Company manages economic risks, including interest rate, liquidity, and credit risk, primarily by managing the amount, sources, and duration of its assets and liabilities and through the use of derivative financial instruments. Specifically, the Company enters into derivative financial instruments to manage exposures that arise from business activities that result in the receipt or payment of future known and uncertain cash amounts, the value of which are determined by interest rates. The Company’s derivative financial instruments designated as cash flow hedges are used to manage differences in the amount, timing, and duration of the Company’s known or expected cash receipts and its known or expected cash payments principally related to certain variable rate deposits. The Company also utilizes a stand-alone derivative to manage changes in the market value of a commercial muli-family loan commitment that, once closed, is intended for securitization and sale on the secondary market. Refer to the “Loans Held for Sale” section for a discussion on forward commitment contracts, which are also considered derivatives.

 

At the inception of a derivative contract, the Company designates the derivative as one of three types based on the Company’s intentions and belief as to likely effectiveness as a hedge. These three types are (1) a hedge of the fair value of a recognized asset or liability or of an unrecognized firm commitment (“fair value hedge”), (2) a hedge of a forecasted transaction or the variability of cash flows to be received or paid related to a recognized asset or liability (“cash flow hedge”), or (3) an instrument with no hedging designation (“stand-alone derivative”). Regarding Interest Rate Swap Derivatives, the Company has no fair value hedges, only cash flow hedges and a stand-alone derivative. For a cash flow hedge, the gain or loss on the derivative is reported in other comprehensive income and is reclassified into earnings in the same period(s) during which the hedged transaction affects earnings (i.e. the period when cash flows are exchanged between counterparties). For both fair value and cash flow hedges, changes in the fair value of derivatives that are not highly effective in hedging the changes in fair value or expected cash flows of the hedged item are recognized immediately in current earnings. Changes in the fair value of derivatives that do not qualify for hedge accounting are reported currently in earnings, as noninterest income.

 

 

Net cash settlements on derivatives that qualify for hedge accounting are recorded in interest income or interest expense, based on the item being hedged. Net cash settlements on derivatives that do not qualify for hedge accounting are reported in noninterest income. Cash flows on hedges are classified in the cash flow statement the same as the cash flows of the items being hedged.

 

The Company formally documents the relationship between derivatives and hedged items, as well as the risk-management objective and the strategy for undertaking hedge transactions at the inception of the hedging relationship. This documentation includes linking fair value or cash flow hedges to specific assets and liabilities on the balance sheet or to specific firm commitments or forecasted transactions. The Company also formally assesses, both at the hedge’s inception and on an ongoing basis, whether the derivative instruments that are used are highly effective in offsetting changes in fair values or cash flows of the hedged items. The Company discontinues hedge accounting when it determines that the derivative is no longer highly effective in offsetting changes in the fair value or cash flows of the hedged item, the derivative is settled or terminates, a hedged forecasted transaction is no longer probable, a hedged firm commitment is no longer firm, or treatment of the derivative as a hedge is no longer appropriate or intended.

 

When hedge accounting is discontinued, subsequent changes in fair value of the derivative are recorded as noninterest income or expense. When a fair value hedge is discontinued, the hedged asset or liability is no longer adjusted for changes in fair value and the existing basis adjustment is amortized or accreted over the remaining life of the asset or liability. When a cash flow hedge is discontinued but the hedged cash flows or forecasted transactions are still expected to occur, gains or losses that were accumulated in other comprehensive income are amortized into earnings over the same periods in which the hedged transactions will affect earnings.

 

Customer Repurchase Agreements

 

The Company enters into agreements under which it sells securities subject to an obligation to repurchase the same securities. Under these arrangements, the Company may transfer legal control over the assets but still retain effective control through an agreement that both entitles and obligates the Company to repurchase the assets. As a result, securities sold under agreements to repurchase are accounted for as collateralized financing arrangements and not as a sale and subsequent repurchase of securities. The agreements are entered into primarily as accommodations for large commercial deposit customers. The obligation to repurchase the securities is reflected as a liability in the Company’s Consolidated Balance Sheets, while the securities underlying the securities sold under agreements to repurchase remain in the respective assets accounts and are delivered to and held as collateral by third party trustees.

 

Marketing and Advertising

 

Marketing and advertising costs are generally expensed as incurred.

 

Income Taxes

 

The Company employs the asset and liability method of accounting for income taxes as required by ASC Topic 740, “Income Taxes.” Under this method, deferred tax assets and liabilities are determined based on differences between the financial statement carrying amounts and the tax basis of existing assets and liabilities (i.e., temporary timing differences) and are measured at the enacted rates that will be in effect when these differences reverse. In accordance with ASC Topic 740, the Company may establish a reserve against deferred tax assets in those cases where realization is less than certain, although no such reserves exist at March 31, 2017, December 31, 2016, or March 31, 2016.   

 

 

Transfer of Financial Assets

 

Transfers of financial assets are accounted for as sales, when control over the assets has been surrendered. Control over transferred assets is deemed to be surrendered when (1) the assets have been isolated from the Company, (2) the transferee obtains the right (free of conditions that constrain it from taking advantage of that right) to pledge or exchange the transferred assets, and (3) the Company does not maintain effective control over the transferred assets through an agreement to repurchase them before their maturity. In certain cases, the recourse to the Bank to repurchase assets may exist but is deemed immaterial based on the specific facts and circumstances.

 

Earnings per Common Share

 

Basic net income per common share is derived by dividing net income by the weighted-average number of common shares outstanding during the period measured. Diluted earnings per common share is computed by dividing net income by the weighted-average number of common shares outstanding during the period measured including the potential dilutive effects of common stock equivalents.

 

Stock-Based Compensation

 

In accordance with ASC Topic 718, “Compensation,” the Company records as compensation expense an amount equal to the amortization (over the remaining service period) of the fair value of option and restricted stock awards computed at the date of grant. Compensation expense on performance based grants is recorded based on the probability of achievement of the goals underlying the performance grant. Refer to Note 10 for a description of stock-based compensation awards, activity and expense.

 

New Authoritative Accounting Guidance

 

ASU 2014-09, “Revenue from Contracts with Customers (Topic 606).” In May 2014, the FASB and the International Accounting Standards Board (the “IASB”) jointly issued a comprehensive new revenue recognition standard that will supersede nearly all existing revenue recognition guidance under GAAP and International Financial Reporting Standards (“IFRS”). Previous revenue recognition guidance in GAAP consisted of broad revenue recognition concepts together with numerous revenue requirements for particular industries or transactions, which sometimes resulted in different accounting for economically similar transactions. In contrast, IFRS provided limited revenue recognition guidance and, consequently, could be difficult to apply to complex transactions. Accordingly, the FASB and the IASB initiated a joint project to clarify the principles for recognizing revenue and to develop a common revenue standard for U.S. GAAP and IFRS that would: (1) remove inconsistencies and weaknesses in revenue requirements; (2) provide a more robust framework for addressing revenue issues; (3) improve comparability of revenue recognition practices across entities, industries, jurisdictions, and capital markets; (4) provide more useful information to users of financial statements through improved disclosure requirements; and (5) simplify the preparation of financial statements by reducing the number of requirements to which an entity must refer. To meet those objectives, the FASB issued ASU No. 2014-09, “Revenue from Contracts with Customers.” The standard’s core principle is that a company will recognize revenue when it transfers promised goods or services to customers in an amount that reflects the consideration to which the company expects to be entitled in exchange for those goods or services. In doing so, companies generally will be required to use more judgment and make more estimates than under current guidance. These may include identifying performance obligations in the contract, estimating the amount of variable consideration to include in the transaction price and allocating the transaction price to each separate performance obligation. The standard was initially effective for public entities for interim and annual reporting periods beginning after December 15, 2016; early adoption was not permitted. However, in August 2015, the FASB issued ASU No. 2015-14, “Revenue from Contracts with Customers - Deferral of the Effective Date” which deferred the effective date by one year (i.e., interim and annual reporting periods beginning after December 15, 2017). For financial reporting purposes, the standard allows for either full retrospective adoption, meaning the standard is applied to all of the periods presented, or modified retrospective adoption, meaning the standard is applied only to the most current period presented in the financial statements with the cumulative effect of initially applying the standard recognized at the date of initial application. In addition, the FASB has begun to issue targeted updates to clarify specific implementation issues of ASU 2014-09. These updates include ASU No. 2016-08, “Principal versus Agent Considerations (Reporting Revenue Gross versus Net),” ASU No. 2016-10, “Identifying Performance Obligations and Licensing,” ASU No. 2016-12, “Narrow-Scope Improvements and Practical Expedients,” and ASU No. 2016-20 “Technical Corrections and Improvements to Topic 606, Revenue from Contracts with Customers.” Since the guidance does not apply to revenue associated with financial instruments, including loans and securities that are accounted for under other GAAP, the Company does not expect the new guidance to have a material impact on revenue most closely associated with financial instruments, including interest income and expense. The Company is currently performing an overall assessment of revenue streams and reviewing contracts potentially affected by the ASU to determine the potential impact the new guidance is expected to have on the Company’s Consolidated Financial Statements. In addition, the Company continues to follow certain implementation issues relevant to the banking industry which are still pending resolution. The Company plans to adopt ASU No. 2014-09 on January 1, 2018 utilizing the modified retrospective approach.

 

 

ASU 2016-13, “Measurement of Credit Losses on Financial Instruments (Topic 326).” This ASU significantly changes how entities will measure credit losses for most financial assets and certain other instruments that are not measured at fair value through net income. In issuing the standard, the FASB is responding to criticism that today’s guidance delays recognition of credit losses. The standard will replace today’s “incurred loss” approach with an “expected loss” model. The new model, referred to as the current expected credit loss (“CECL”) model, will apply to: (1) financial assets subject to credit losses and measured at amortized cost, and (2) certain off-balance sheet credit exposures. This includes, but is not limited to, loans, leases, held-to-maturity securities, loan commitments, and financial guarantees. The CECL model does not apply to available-for-sale (“AFS”) debt securities. For AFS debt securities with unrealized losses, entities will measure credit losses in a manner similar to what they do today, except that the losses will be recognized as allowances rather than reductions in the amortized cost of the securities. As a result, entities will recognize improvements to estimated credit losses immediately in earnings rather than as interest income over time, as they do today. The ASU also simplifies the accounting model for purchased credit-impaired debt securities and loans. ASU 2016-13 also expands the disclosure requirements regarding an entity’s assumptions, models, and methods for estimating the allowance for loan and lease losses. In addition, entities will need to disclose the amortized cost balance for each class of financial asset by credit quality indicator, disaggregated by the year of origination. ASU No. 2016-13 is effective for interim and annual reporting periods beginning after December 15, 2019; early adoption is permitted for interim and annual reporting periods beginning after December 15, 2018. Entities will apply the standard’s provisions as a cumulative-effect adjustment to retained earnings as of the beginning of the first reporting period in which the guidance is effective (i.e., modified retrospective approach). The Company is currently evaluating the provisions of ASU No. 2016-13 to determine the potential impact the new standard will have on the Company's Consolidated Financial Statements.

 

ASU 2015-16, “Business Combinations (Topic 805) – Simplifying the Accounting for Measurement-Period Adjustments.” ASU 2015-16 requires that adjustments to provisional amounts that are identified during the measurement period of a business combination be recognized in the reporting period in which the adjustment amounts are determined. Furthermore, the income statement effects of such adjustments, if any, must be calculated as if the accounting had been completed at the acquisition date. The portion of the amount recorded in current-period earnings that would have been recorded in previous reporting periods if the adjustment to the provisional amounts had been recognized as of the acquisition date. Under previous guidance, adjustments to provisional amounts identified during the measurement period are to be recognized retrospectively. ASU 2015-16 was effective for the Company on January 1, 2016 and the initial adoption did not have a significant impact on its financial statements.

 

ASU 2016-01, "Financial Instruments—(Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities." ASU 2016-01 addresses certain aspects of recognition, measurement, presentation, and disclosure of financial instruments by making targeted improvements to GAAP as follows: (1) require equity investments (except those accounted for under the equity method of accounting or those that result in consolidation of the investee) to be measured at fair value with changes in fair value recognized in net income. However, an entity may choose to measure equity investments that do not have readily determinable fair values at cost minus impairment, if any, plus or minus changes resulting from observable price changes in orderly transactions for the identical or a similar investment of the same issuer; (2) simplify the impairment assessment of equity investments without readily determinable fair values by requiring a qualitative assessment to identify impairment. When a qualitative assessment indicates that impairment exists, an entity is required to measure the investment at fair value; (3) eliminate the requirement to disclose the fair value of financial instruments measured at amortized cost for entities that are not public business entities; (4) eliminate the requirement for public business entities to disclose the method(s) and significant assumptions used to estimate the fair value that is required to be disclosed for financial instruments measured at amortized cost on the balance sheet; (5) require public business entities to use the exit price notion when measuring the fair value of financial instruments for disclosure purposes; (6) require an entity to present separately in other comprehensive income the portion of the total change in the fair value of a liability resulting from a change in the instrument-specific credit risk when the entity has elected to measure the liability at fair value in accordance with the fair value option for financial instruments; (7) require separate presentation of financial assets and financial liabilities by measurement category and form of financial asset (that is, securities or loans and receivables) on the balance sheet or the accompanying notes to the financial statements; and (8) clarify that an entity should evaluate the need for a valuation allowance on a deferred tax asset related to available-for-sale securities in combination with the entity’s other deferred tax assets. ASU No. 2016-01 is effective for interim and annual reporting periods beginning after December 15, 2017. Early application is permitted as of the beginning of the fiscal year of adoption only for provisions (3) and (6) above. Early adoption of the other provisions mentioned above is not permitted. The Company has performed a preliminary evaluation of the provisions of ASU No. 2016-01. Based on this evaluation, the Company has determined that ASU No. 2016-01 is not expected to have a material impact on the Company's Consolidated Financial Statements; however, the Company will continue to closely monitor developments and additional guidance.

 

 

ASU 2016-02, "Leases (Topic 842)." Under the new guidance, lessees will be required to recognize the following for all leases (with the exception of short-term leases): (1) a lease liability, which is the present value of a lessee's obligation to make lease payments, and (2) a right-of-use asset, which is an asset that represents the lessee's right to use, or control the use of, a specified asset for the lease term. Lessor accounting under the new guidance remains largely unchanged as it is substantially equivalent to existing guidance for sales-type leases, direct financing leases, and operating leases. Leveraged leases have been eliminated, although lessors can continue to account for existing leveraged leases using the current accounting guidance. Other limited changes were made to align lessor accounting with the lessee accounting model and the new revenue recognition standard. All entities will classify leases to determine how to recognize lease-related revenue and expense. Quantitative and qualitative disclosures will be required by lessees and lessors to meet the objective of enabling users of financial statements to assess the amount, timing, and uncertainty of cash flows arising from leases. The intention is to require enough information to supplement the amounts recorded in the financial statements so that users can understand more about the nature of an entity’s leasing activities. ASU 2016-02 is effective for interim and annual reporting periods beginning after December 15, 2018; early adoption is permitted. All entities are required to use a modified retrospective approach for leases that exist or are entered into after the beginning of the earliest comparative period in the financial statements. They have the option to use certain relief; full retrospective application is prohibited. The Company is currently evaluating the provisions of ASU 2016-02 and will be closely monitoring developments and additional guidance to determine the potential impact the new standard will have on the Company's Consolidated Financial Statements.

 

ASU 2016-09, "Improvements to Employee Share-Based Payment Accounting (Topic 718).” ASU 2016-09 includes provisions intended to simplify various aspects related to how share-based payments are accounted for and presented in the financial statements. Some of the key provisions of this new ASU include: (1) companies will no longer record excess tax benefits and certain tax deficiencies in additional paid-in capital (“APIC”). Instead, they will record all excess tax benefits and tax deficiencies as income tax expense or benefit in the income statement, and APIC pools will be eliminated. The guidance also eliminates the requirement that excess tax benefits be realized before companies can recognize them. In addition, the guidance requires companies to present excess tax benefits as an operating activity on the statement of cash flows rather than as a financing activity; (2) increase the amount an employer can withhold to cover income taxes on awards and still qualify for the exception to liability classification for shares used to satisfy the employer’s statutory income tax withholding obligation. The new guidance also requires an employer to classify the cash paid to a tax authority when shares are withheld to satisfy its statutory income tax withholding obligation as a financing activity on its statement of cash flows (prior guidance did not specify how these cash flows should be classified); and (3) permit companies to make an accounting policy election for the impact of forfeitures on the recognition of expense for share-based payment awards. Forfeitures can be estimated, as required today, or recognized when they occur. ASU 2016-09 was effective for the Company on January 1, 2017 and the initial adoption resulted in a $589 thousand, or $0.02 per share, reduction to income tax expense in the first quarter of 2017.

 

Note 2. Cash and Due from Banks

 

Regulation D of the Federal Reserve Act requires that banks maintain noninterest reserve balances with the Federal Reserve Bank based principally on the type and amount of their deposits. During 2017, the Bank maintained balances at the Federal Reserve sufficient to meet reserve requirements, as well as significant excess reserves, on which interest is paid.

 

Additionally, the Bank maintains interest bearing balances with the Federal Home Loan Bank of Atlanta and noninterest bearing balances with domestic correspondent banks as compensation for services they provide to the Bank.

 

 

Note 3. Investment Securities Available-for-Sale

 

Amortized cost and estimated fair value of securities available-for-sale are summarized as follows:

 

           

Gross

   

Gross

   

Estimated

 

March 31, 2017

 

Amortized

   

Unrealized

   

Unrealized

   

Fair

 

(dollars in thousands)

 

Cost

   

Gains

   

Losses

   

Value

 

U. S. agency securities

  $ 149,160     $ 315     $ 1,567     $ 147,908  

Residential mortgage backed securities

    299,757       478       3,310       296,925  

Municipal bonds

    43,255       1,369       15       44,609  

Corporate bonds

    10,013       134       -       10,147  

Other equity investments

    218       -       -       218  
    $ 502,403     $ 2,296     $ 4,892     $ 499,807  

 

           

Gross

   

Gross

   

Estimated

 

December 31, 2016

 

Amortized

   

Unrealized

   

Unrealized

   

Fair

 

(dollars in thousands)

 

Cost

   

Gains

   

Losses

   

Value

 

U. S. agency securities

  $ 107,425     $ 519     $ 1,802     $ 106,142  

Residential mortgage backed securities

    329,606       324       3,691       326,239  

Municipal bonds

    94,607       1,723       400       95,930  

Corporate bonds

    9,508       82       11       9,579  

Other equity investments

    218       -       -       218  
    $ 541,364     $ 2,648     $ 5,904     $ 538,108  

 

           

Gross

   

Gross

   

Estimated

 

March 31, 2016

 

Amortized

   

Unrealized

   

Unrealized

   

Fair

 

(dollars in thousands)

 

Cost

   

Gains

   

Losses

   

Value

 

U. S. agency securities

  $ 54,948     $ 774     $ 100     $ 55,622  

Residential mortgage backed securities

    305,351       2,073       612       306,812  

Municipal bonds

    104,840       5,069       -       109,909  

Corporate bonds

    15,085       -       147       14,938  

Other equity investments

    310       18       -       328  
    $ 480,534     $ 7,934     $ 859     $ 487,609  

 

In addition, at March 31, 2017, the Company held $25.6 million in equity securities in a combination of Federal Reserve Bank (“FRB”) and Federal Home Loan Bank (“FHLB”) stocks, which are required to be held for regulatory purposes and which are not marketable, and therefore are carried at cost.

 

Gross unrealized losses and fair value by length of time that the individual available-for-sale securities have been in a continuous unrealized loss position are as follows:

 

           

Less than

   

12 Months

                 
           

12 Months

   

or Greater

   

Total

 
           

Estimated

           

Estimated

           

Estimated

         

March 31, 2017

 

Number of

   

Fair

   

Unrealized

   

Fair

   

Unrealized

   

Fair

   

Unrealized

 

(dollars in thousands)

 

Securities

   

Value

   

Losses

   

Value

   

Losses

   

Value

   

Losses

 

U. S. agency securities

    30     $ 98,493     $ 1,535     $ 3,661     $ 32     $ 102,154     $ 1,567  

Residential mortgage backed securities

    114       229,743       2,730       20,711       580       250,454       3,310  

Municipal bonds

    4       3,487       15       -       -       3,487       15  
      148     $ 331,723     $ 4,280     $ 24,372     $ 612     $ 356,095     $ 4,892  

 

           

Less than

   

12 Months

                 
           

12 Months

   

or Greater

   

Total

 
           

Estimated

           

Estimated

           

Estimated

         

December 31, 2016

 

Number of

   

Fair

   

Unrealized

   

Fair

   

Unrealized

   

Fair

   

Unrealized

 

(dollars in thousands)

 

Securities

   

Value

   

Losses

   

Value

   

Losses

   

Value

   

Losses

 

U. S. agency securities

    27     $ 88,991     $ 1,764     $ 3,768     $ 38     $ 92,759     $ 1,802  

Residential mortgage backed securities

    112       232,347       3,110       19,402       581       251,749       3,691  

Municipal bonds

    16       34,743       400       -       -       34,743       400  

Corporate bonds

    2       4,998       11       -       -       4,998       11  
      157     $ 361,079     $ 5,285     $ 23,170     $ 619     $ 384,249     $ 5,904  

 

 

The unrealized losses that exist are generally the result of changes in market interest rates and interest spread relationships since original purchases. The weighted average duration of debt securities, which comprise 99.9% of total investment securities, is relatively short at 3.6 years. If quoted prices are not available, fair value is measured using independent pricing models or other model-based valuation techniques such as the present value of future cash flows, adjusted for the security’s credit rating, prepayment assumptions and other factors such as credit loss assumptions. The Company does not believe that the investment securities that were in an unrealized loss position as of March 31, 2017 represent an other-than-temporary impairment. The Company does not intend to sell the investments and it is more likely than not that the Company will not have to sell the securities before recovery of its amortized cost basis, which may be at maturity.

 

The amortized cost and estimated fair value of investments available-for-sale at March 31, 2017 and December 31, 2016 by contractual maturity are shown in the table below. Expected maturities for residential mortgage backed securities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.

 

 

   

March 31, 2017

   

December 31, 2016

 
   

Amortized

   

Estimated

   

Amortized

   

Estimated

 

(dollars in thousands)

 

Cost

   

Fair Value

   

Cost

   

Fair Value

 

U. S. agency securities maturing:

                               

One year or less

  $ 82,631     $ 81,401     $ 83,885     $ 82,548  

After one year through five years

    47,693       47,725       20,736       20,897  

Five years through ten years

    9,071       9,017       2,804       2,697  

After ten years

    9,765       9,765       -       -  

Residential mortgage backed securities

    299,757       296,925       329,606       326,239  

Municipal bonds maturing:

                               

One year or less

    831       837       1,056       1,070  

After one year through five years

    19,913       20,801       45,808       46,865  

Five years through ten years

    21,437       21,794       46,668       46,839  

After ten years

    1,074       1,177       1,075       1,156  

Corporate bonds

                               

After one year through five years

    8,513       8,647       8,008       8,079  

After ten years

    1,500       1,500       1,500       1,500  

Other equity investments

    218       218       218       218  
    $ 502,403     $ 499,807     $ 541,364     $ 538,108  

 

For the three months ended March 31, 2017, gross realized gains on sales of investments securities were $723 thousand and gross realized losses on sales of investment securities were $218 thousand.  For the three months ended March 31, 2016, gross realized gains on sales of investments securities were $624 thousand and there were no gross realized losses on sales of investment securities.

 

Proceeds from sales and calls of investment securities for the three months ended March 31, 2017 were $51.2 million, and in 2016 were $15.7 million.

 

The carrying value of securities pledged as collateral for certain government deposits, securities sold under agreements to repurchase, and certain lines of credit with correspondent banks at March 31, 2017 was $440.1 million, which is well in excess of required amounts in order to operationally provide significant reserve amounts for new business. As of March 31, 2017 and December 31, 2016, there were no holdings of securities of any one issuer, other than the U.S. Government and U.S. agency securities, which exceeded ten percent of shareholders’ equity.

 

Note 4. Mortgage Banking Derivative

 

As part of its mortgage banking activities, the Bank enters into interest rate lock commitments, which are commitments to originate loans where the interest rate on the loan is determined prior to funding and the customers have locked into that interest rate. The Bank then locks in the loan and interest rate with an investor and commits to deliver the loan if settlement occurs (“best efforts”) or commits to deliver the locked loan in a binding (“mandatory”) delivery program with an investor. Certain loans under interest rate lock commitments are covered under forward sales contracts of mortgage backed securities (“MBS”). Forward sales contracts of MBS are recorded at fair value with changes in fair value recorded in noninterest income. Interest rate lock commitments and commitments to deliver loans to investors are considered derivatives. The market value of interest rate lock commitments and best efforts contracts are not readily ascertainable with precision because they are not actively traded in stand-alone markets. The Bank determines the fair value of interest rate lock commitments and delivery contracts by measuring the fair value of the underlying asset, which is impacted by current interest rates, taking into consideration the probability that the interest rate lock commitments will close or will be funded.

 

 

Certain additional risks arise from these forward delivery contracts in that the counterparties to the contracts may not be able to meet the terms of the contracts. The Bank does not expect any counterparty to any MBS to fail to meet its obligation. Additional risks inherent in mandatory delivery programs include the risk that, if the Bank does not close the loans subject to interest rate risk lock commitments, it will still be obligated to deliver MBS to the counterparty under the forward sales agreement. Should this be required, the Bank could incur significant costs in acquiring replacement loans or MBS and such costs could have an adverse effect on mortgage banking operations.

 

The fair value of the mortgage banking derivatives is recorded as a freestanding asset or liability with the change in value being recognized in current earnings during the period of change.

 

At March 31, 2017 the Bank had mortgage banking derivative financial instruments with a notional value of $38.7 million related to its forward contracts as compared to $99.6 million at March 31, 2016. The fair value of these mortgage banking derivative instruments at March 31, 2017 was $93 thousand included in other assets and $71 thousand included in other liabilities as compared to $377 thousand included in other assets and $306 thousand included in other liabilities at March 31, 2016 .

 

Included in other noninterest income for the three months ended March 31, 2017 was a net gain of $290 thousand, relating to mortgage banking derivative instruments as compared to a net gain of $209 thousand as of March 31, 2016. The amount included in other noninterest income for the three months ended March 31, 2017 pertaining to its mortgage banking hedging activities was a net realized loss of $845 thousand as compared to a net realized loss of $168 thousand as of March 31, 2016.

 

Note 5. Loans and Allowance for Credit Losses

 

The Bank makes loans to customers primarily in the Washington, D.C. metropolitan area and surrounding communities. A substantial portion of the Bank’s loan portfolio consists of loans to businesses secured by real estate and other business assets.

 

Loans, net of unamortized net deferred fees, at March 31, 2017, December 31, 2016, and March 31, 2016 are summarized by type as follows:

 

   

March 31, 2017

   

December 31, 2016

   

March 31, 2016

 

(dollars in thousands)

 

Amount

   

%

   

Amount

   

%

   

Amount

   

%

 

Commercial

  $ 1,235,832       21 %   $ 1,200,728       21 %   $ 1,060,047       21 %

Income producing - commercial real estate

    2,538,734       43 %     2,509,517       44 %     2,138,091       40 %

Owner occupied - commercial real estate

    638,132       11 %     640,870       12 %     569,915       11 %

Real estate mortgage - residential

    155,021       3 %     152,748       3 %     149,159       3 %

Construction - commercial and residential

    1,021,620       18 %     932,531       16 %     1,034,689       20 %

Construction - C&I (owner occupied)

    130,513       2 %     126,038       2 %     87,324       2 %

Home equity

    100,265       2 %     105,096       2 %     110,985       3 %