UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

 

FORM 10-Q

 

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

 

For the quarterly period ended March 31, 2020

 

Commission file number 333-86453

 

UNITED BANCSHARES, INC.

(Exact name of Registrant as specified in its charter)

 

Ohio

(State or other jurisdiction of incorporation or organization)

 

105 Progressive Drive, Columbus Grove, Ohio

(Address of principal executive offices)

 

34-1516518

(I.R.S. Employer Identification Number)

 

45830

(Zip Code)

 

(419) 659-2141

(Registrant’s telephone number, including area code)

 

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

Title of each class

Trading Symbol(s)

Name of Each Exchange

Common Stock, No Par Value

UBOH

NASDAQ Global Market

 

 

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

 

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

 

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

Large accelerated filer ☐ Accelerated filer ☐ Non-accelerated filer ☒ Smaller Reporting Company ☒
Emerging growth company ☐      

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of March 31, 2020: 3,270,399.

 

This document contains 44 pages. The Exhibit Index is on page 37 immediately preceding the filed exhibits.

 

 

 

 

 

 
 

UNITED BANCSHARES, INC.

 

Table of Contents

  

 

 

 

 

 

Page

 

 

 

Part I – Financial Information

 

 

 

 

 

Item 1 – Financial Statements

3

 

 

 

 

Item 2 – Management’s Discussion and Analysis of Financial Condition and Results of Operations

26

 

 

 

 

Item 3 – Quantitative and Qualitative Disclosures about Market Risk

34

 

 

 

 

Item 4 – Controls and Procedures

35

 

 

 

Part II – Other Information

 

 

 

 

 

Item 1 – Legal Proceedings

36

 

 

 

 

Item 1A – Risk Factors

36

 

 

 

 

Item 2 – Unregistered Sales of Equity Securities and Use of Proceeds

36

 

 

 

 

Item 3 – Defaults Upon Senior Securities

36

 

 

 

 

Item 4 – Mine Safety Disclosures

37

 

 

 

 

Item 5 – Other Information

37

 

 

 

 

Item 6 – Exhibits

37

 

 

2

 

  

 

PART 1 - FINANCIAL INFORMATION

ITEM 1 - FINANCIAL STATEMENTS

 

United Bancshares, Inc. and Subsidiaries

Consolidated Balance Sheets

 March 31, 2020 (unaudited) and December 31, 2019

 

 

   

(in thousands except share data)

 
   

March 31,

   

December 31,

 
   

2020

   

2019

 

ASSETS

               

CASH AND CASH EQUIVALENTS

               

Cash and due from banks

  $ 11,485     $ 9,167  

Interest-bearing deposits in other banks

    33,287       17,245  

Total cash and cash equivalents

    44,772       26,412  

SECURITIES, available-for-sale

    187,700       183,611  

FEDERAL HOME LOAN BANK STOCK, at cost

    5,598       5,302  

LOANS HELD FOR SALE

    19,613       15,301  

LOANS AND LEASES

    573,981       576,424  

Less allowance for loan and lease losses

    4,687       4,131  

Net loans and leases

    569,294       572,293  

PREMISES AND EQUIPMENT, net

    18,638       18,789  

GOODWILL

    28,616       28,616  

CORE DEPOSIT INTANGIBLE ASSETS, net

    756       794  

CASH SURRENDER VALUE OF LIFE INSURANCE

    18,709       18,613  

OTHER ASSETS, including accrued interest receivable

    8,761       10,283  

TOTAL ASSETS

  $ 902,457     $ 880,014  

LIABILITIES AND SHAREHOLDERS’ EQUITY

               

LIABILITIES

               

Deposits:

               

Non-interest-bearing

  $ 120,469     $ 116,360  

Interest-bearing

    604,667       590,774  

Total deposits

    725,136       707,134  

Other borrowings

    58,500       58,750  

Junior subordinated deferrable interest debentures

    12,916       12,908  

Other liabilities

    7,423       6,441  

Total liabilities

    803,975       785,233  

SHAREHOLDERS’ EQUITY

               

Common stock, stated value $1.00, authorized 10,000,000 shares; issued 3,760,557 shares

    3,761       3,761  

Surplus

    15,337       15,251  

Retained earnings

    81,259       80,629  

Accumulated other comprehensive income

    5,821       2,872  

Treasury stock, at cost, 490,158 shares at March 31, 2020 and 492,462 shares at December 31, 2019

    (7,696 )     (7,732 )

Total shareholders’ equity

    98,482       94,781  

TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY

  $ 902,457     $ 880,014  

 

The accompanying notes are an integral part of the consolidated financial statements.

                 

3

 

 

 

United Bancshares, Inc. and Subsidiaries

Condensed Consolidated Statements of Income

Three months ended March 31, 2020 and 2019 (unaudited)

 

   

(in thousands except share data)

 
   

2020

   

2019

 

INTEREST INCOME

               

Loans and leases, including fees

  $ 7,945     $ 7,783  

Securities:

               

Taxable

    612       662  

Tax-exempt

    498       413  

Other

    177       128  

Total interest income

    9,232       8,986  

INTEREST EXPENSE

               

Deposits

    1,535       1,410  

Other borrowings

    573       641  

Total interest expense

    2,108       2,051  

Net interest income

    7,124       6,935  

PROVISION FOR LOAN AND LEASE LOSSES

    550       100  

Net interest income after provision for loan and lease losses

    6,574       6,835  

NON-INTEREST INCOME

               

Gain on sale of loans

    2,583       1,438  

Other non-interest income

    251       1,070  

Total non-interest income

    2,834       2,508  

NON-INTEREST EXPENSES

    8,210       7,222  

INCOME BEFORE INCOME TAXES

    1,198       2,121  

PROVISION FOR INCOME TAXES

    110       307  

NET INCOME

  $ 1,088     $ 1,814  

NET INCOME PER SHARE (basic and diluted)

  $ 0.33     $ 0.55  

Weighted average common shares outstanding (basic)

    3,270,066       3,270,408  

Weighted average common shares outstanding (diluted)

    3,270,066       3,277,717  

 

The accompanying notes are an integral part of the consolidated financial statements.

             

4

 

  

 

United Bancshares, Inc. and Subsidiaries

Consolidated Statements of Comprehensive Income

Three months ended March 31, 2020 and 2019 (unaudited)

 

   

(in thousands)

 
   

2020

   

2019

 
                 

NET INCOME

  $ 1,088     $ 1,814  
                 

OTHER COMPREHENSIVE INCOME

               

Unrealized gain on securities:

               

Unrealized holding gains during period

    3,733       2,552  

Reclassification adjustments for gains included in net income

    -       -  

Other comprehensive income, before income taxes

    3,733       2,552  

Income tax expense related to items of other comprehensive income

    784       536  

Other comprehensive income

    2,949       2,016  

COMPREHENSIVE INCOME

  $ 4,037     $ 3,830  

 

The accompanying notes are an integral part of the consolidated financial statements.

              

5

 

  

 

United Bancshares, Inc. and Subsidiaries

Consolidated Statements of Shareholders’ Equity

(in thousands except share data)

 

Three months ended March 31, 2020 and 2019 (unaudited)

 

   

Common stock

   

Surplus

   

Retained earnings

    Accumulated other comprehensive income (loss)    

Treasury stock

   

Total

 

BALANCE AT DECEMBER 31, 2019

  $ 3,761     $ 15,251     $ 80,629     $ 2,872     $ (7,732 )   $ 94,781  

Comprehensive income:

                                               

Net income

    -       -       1,088       -       -       1,088  

Other comprehensive income

    -       -       -       2,949       -       2,949  
2,304 shares issued from treasury in connection with the Corporation's Employee Stock Purchase Plan     -       26       -       -       36       62  

Stock option expense

    -       60       -       -       -       60  

Cash dividends declared, $0.14 per share

    -       -       (458 )     -       -       (458 )

BALANCE AT MARCH 31, 2020

  $ 3,761     $ 15,337     $ 81,259     $ 5,821     $ (7,696 )   $ 98,482  
                                                 

BALANCE AT DECEMBER 31, 2018

  $ 3,761     $ 14,960     $ 71,670     $ (1,764 )   $ (7,683 )   $ 80,944  

Comprehensive income:

                                               

Net income

    -       -       1,814       -       -       1,814  

Other comprehensive income

    -       -       -       2,016       -       2,016  
1,277 shares issued from treasury in connection with the Corporation's Employee Stock Purchase Plan     -       10       -       -       20       30  

Stock option expense

    -       55       -       -       -       55  

Cash dividends declared, $0.13 per share

    -       -       (426 )     -       -       (426 )

BALANCE AT MARCH 31, 2019

  $ 3,761     $ 15,025     $ 73,058     $ 252     $ (7,663 )   $ 84,433  

 

The accompanying notes are an integral part of the consolidated financial statements.

 

6

 

 

 

United Bancshares, Inc. and Subsidiaries

Condensed Consolidated Statement of Cash Flows

Three months ended March 31, 2020 and 2019 (unaudited)

 

   

(in thousands)

 
   

2020

   

2019

 

CASH FLOWS FROM OPERATING ACTIVITIES

  $ (1,474 )   $ (1,818 )
                 

CASH FLOWS FROM INVESTING ACTIVITIES

               

Proceeds from sales, calls and maturities of available-for-sale securities

    6,908       3,788  

Purchases of available-for-sale securities

    (7,494 )     (3,575 )
    Purchases of FHLB stock     (296 )     -  

Net increase in loans and leases

    3,385       (4,222 )

Purchases of premises and equipment

    (14 )     (83 )

Net cash provided by (used in) investing activities

    2,489       (4,092 )
                 

CASH FLOWS FROM FINANCING ACTIVITIES

               

Net increase in deposits

    17,991       23,040  

Repayments of other borrowings

    (250 )     (5,943 )

Proceeds from sale of treasury shares

    62       30  

Cash dividends paid

    (458 )     (426 )

Net cash provided by financing activities

    17,345       16,701  

NET INCREASE IN CASH AND CASH EQUIVALENTS

    18,360       10,791  

CASH AND CASH EQUIVALENTS

               

At beginning of period

    26,412       16,475  

At end of period

  $ 44,772     $ 27,266  

SUPPLEMENTAL CASH FLOW DISCLOSURES

               

Cash paid during the period for:

               

Interest

  $ 2,153     $ 2,012  

Federal income taxes

  $ -     $ -  

Non-cash investing activities:

               

Change in net unrealized gain on available-for-sale securities

  $ 3,733     $ 2,552  

 

The accompanying notes are an integral part of the consolidated financial statements.

 

7

 

United Bancshares, Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Unaudited)

March 31, 2020

 

 

NOTE 1 – CONSOLIDATED FINANCIAL STATEMENTS

 

The consolidated financial statements of United Bancshares, Inc. and subsidiaries (the “Corporation”) have been prepared without audit and in the opinion of management reflect all adjustments (which include normal recurring adjustments) necessary to present fairly such information for the periods and dates indicated. Since the unaudited financial statements have been prepared in accordance with the instructions to Form 10-Q, they do not contain all information and footnotes typically included in financial statements prepared in conformity with generally accepted accounting principles. Operating results for the three months ended March 31, 2020 are not necessarily indicative of the results that may be expected for the year ending December 31, 2020. The balance sheet as of December 31, 2019 is derived from completed audited consolidated financial statements with footnotes, which are included in the Corporation’s Annual Report on Form 10-K for the year ended December 31, 2019.

 

The consolidated financial statements include the accounts of the Corporation and its wholly-owned subsidiary, The Union Bank Company (the “Bank”). The Bank has formed a wholly-owned subsidiary, UBC Investments, Inc. (“UBC”), to hold and manage its securities portfolio. The operations of UBC are located in Wilmington, Delaware. The Bank has also formed a wholly-owned subsidiary, UBC Property, Inc. (“UBC Property”), to hold and manage certain property. All significant intercompany balances and transactions have been eliminated in consolidation. The accounting and reporting policies of the Corporation conform to generally accepted practices within the banking industry. The Corporation considers all of its principal activities to be banking related.

  

 

NOTE 2 – NEW ACCOUNTING PRONOUNCEMENTS

 

In June 2016, the Financial Accounting Standards Board (FASB) issued ASU 2016-13, Financial Instruments Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments. The ASU requires an organization to measure 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. Organizations will continue to use judgment to determine which loss estimation method is appropriate for their circumstances. Additionally, the ASU amends the accounting for credit losses on available-for-sale debt securities and purchased financial assets with credit deterioration. Management has developed four different models for calculating the allowance for loan losses under the requirements of ASU 2016-13 and has been running them parallel to the Bank’s existing methodology.  Management has not yet determined the expected impact the adoption of ASU 2016-13 will have on the consolidated financial statements.  For public companies, this update was to be effective for interim and annual periods beginning after December 15, 2019. On July 17, 2019, the FASB voted to issue a proposal for public comment that would potentially result in a postponement of the required implementation date for ASU 2016-13.  On October 16, 2019, the FASB extended the implementation deadline until the fiscal year and interim periods beginning after December 15, 2022.  

 

In January 2017, the FASB issued ASU 2017-04, Intangibles-Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment. The guidance in this update eliminates the Step 2 from the goodwill impairment test. For public companies, this update is effective for interim and annual periods beginning after December 15, 2019. The Corporation adopted ASU 2017-04 effective January 1, 2020 but the new guidance did not have any impact on the March 31, 2020 consolidated financial statements.

 

In August 2018, the FASB issued ASU 2018-13, Disclosure Framework - Changes to the Disclosure Requirements for Fair Value Measurement.  This ASU eliminates, adds, and modifies certain disclosure requirements for estimated fair value measurements.  Among the changes, entities will no longer be required to disclose the amount of and reasons for transfer between Level 1 and Level 2 of the estimated fair value hierarchy, but will be required to disclose the range and weighted-average used to develop significant unobservable inputs for Level 3 estimated fair value measurements.  ASU 2018-13 is effective for all entities for interim and annual reporting periods beginning after December 15, 2019.  The Corporation adopted ASU 2018-13 effective January 1, 2020.  The revised disclosure requirements did not have a significant impact on the Corporation's March 31, 2020 consolidated financial statements.

 

In April, 2019, the FASB issued ASU 2019-04, Codification Improvements to Topic 326, Financial Instruments - Credit Losses, Topic 815, Derivatives and Hedging, and Topic 825, Financial Instruments, which affects a variety of topics in the Codification and applies to all reporting entities within the scope of the affected accounting guidance.  This update is not expected to have a significant impact on the Corporation's consolidated financial statements.

 

In December, 2019, the FASB issued ASU 2019-12, Income Taxes (Topic 740), which simplifies the accounting for income taxes by removing certain exceptions to the general principles in Topic 740.  The amendments also improve consistent application of and simplify GAAP for the areas of Topic 740 by clarifying and amending existing guidance.  This guidance is effective for fiscal years, and interim periods within those fiscal years beginning after December 15, 2020.  Early adoption of the amendments is permitted, including adoption in any interim period for which financial statements have not yet been issued.  Depending on the amendment, adoption may be applied on the retrospective, modified retrospective, or prospective basis.  The Corporation is currently reviewing the provisions of this new pronouncement, but does not expect adoption of this guidance to have a material impact on its consolidated financial statements.

 

In January, 2020, the FASB issued ASU 2020-01, Investments - Equity Securities (Topic 321), Investments - Equity Method and Joint Ventures (Topic 323), and Derivatives and Hedging (Topic 815), Clarifying the Interactions between Topic 321, Topic 323, and Topic 815.  The amendments clarify that an entity should consider observable transactions that require it to either apply or discontinue the equity method of accounting for the purposes of applying the measurement alternative in accordance with Topic 321 immediately before applying or upon discontinuing the equity method.  The amendments clarify that for the purpose of applying paragraph 815-10-15-141(a) an entity should not consider whether, upon the settlement of the forward contract or exercise of the purchased option, individually or with existing investments, the underlying securities would be accounted for under the equity method in Topic 323 or the fair value option in accordance with the financial instruments guidance in Topic 825. An entity also would evaluate the remaining characteristics in paragraph 815-10-15-141 to determine the accounting for those forward contracts and purchased options.  The amendments in this Update are effective for fiscal years beginning after December 15, 2020, and interim periods within those fiscal years.  Early adoption is permitted, including early adoption in an interim period for which financial statements have not yet been issued.  This update is not expected to have a significant impact on the Corporation's consolidated financial statements.

 

In March 2020, the FASB issued ASU 2020-03, Codification Improvements to Financial Instruments.  This update affects a wide variety of topics in the Codification and applies to all reporting entities within the scope of the affected accounting guidance.  This update is not expected to have a significant impact on the Corporation's consolidated financial statements.

 

In March 2020, the FASB issued ASU 2020-04, Reference Rate Reform (Topic 848), which provides optional guidance for a limited period of time to ease the potential burden in accounting for reference rate reform on financial reporting.  The amendments in this Update provide optional expedients and exceptions for applying generally accepted accounting principles (GAAP) to contracts, hedging relationships, and other transactions that reference LIBOR or another reference rate expected to be discontinued because of reference rate reform.  The amendments are effective for all entities as of March 12, 2020 through December 31, 2022.  The Corporation is currently reviewing the amendments in this Update, but does not expect this guidance to have a material impact on its consolidated financial statements.

 

 
8

 

 

 

NOTE 3 - SECURITIES

 

The amortized cost, unrealized gains and losses, and fair value of available-for-sale securities as of March 31, 2020 and December 31, 2019 are as follows:

 

   

(in thousands)

 

March 31, 2020

 

Amortized cost

   

Gross unrealized gains

   

Gross unrealized losses

   

Fair value

 

Available-for-sale:

                               

Obligations of states and political subdivisions

  $ 72,019     $ 3,289     $ 44     $ 75,264  

Mortgage-backed

    107,289       4,117       -       111,406  

Other

    1,023       7       -       1,030  
                                 

Total

  $ 180,331     $ 7,413     $ 44     $ 187,700  

 

 

   

(in thousands)

 

December 31, 2019

 

Amortized cost

   

Gross unrealized gains

   

Gross unrealized losses

   

Fair value

 

Available-for-sale:

                               

Obligations of states and political subdivisions

  $ 70,043     $ 2,593     $ 82     $ 72,554  

Mortgage-backed

    108,907       1,292       158       110,041  

Other

    1,025       -       9       1,016  
                                 

Total

  $ 179,975     $ 3,885     $ 249     $ 183,611  

  

9

 

  

 

NOTE 4 – LOANS AND LEASES

 

The following tables present the activity in the allowance for loan and lease losses by portfolio segment for the three month periods ended March 31, 2020 and 2019:

 

   

(in thousands)

 
   

Residential 1 – 4 family real estate

    Commercial and multi-family real estate     Commercial    

Consumer

   

Total

 

Balance at December 31, 2019

  $ 592     $ 2,536     $ 939     $ 64     $ 4,131  

Provision charged to expenses

    109       422       9       10       550  

Losses charged off

    -       -       (4 )     (5 )     (9 )

Recoveries

    3       3       9       -       15  

Balance at March 31, 2020

  $ 704     $ 2,961     $ 953     $ 69     $ 4,687  
                                         

Balance at December 31, 2018

  $ 576     $ 2,355     $ 534     $ 62     $ 3,527  

Provision charged to expenses

    33       59       5       3       100  

Losses charged off

    (25 )     -       -       (3 )     (28 )

Recoveries

    3       6       36       -       45  

Balance at March 31, 2019

  $ 587     $ 2,420     $ 575     $ 62     $ 3,644  

  

10

 

 

The following tables present the balance in the allowance for loan and lease losses and the recorded investment in loans and leases by portfolio segment and based on impairment method as of March 31, 2020 and December 31, 2019:

  

   

(in thousands)

 

March 31, 2020

 

Residential 1 – 4 family real estate

    Commercial and multi-family real estate     Commercial    

Consumer

   

Total

 

Allowance for loan and lease losses:

                                       

Attributable to loans and leases individually evaluated for impairment

  $ -     $ 89     $ 311     $ -     $ 400  

Collectively evaluated for impairment

   

704

      2,872       642       69       4,287  

Total allowance for loan and lease losses

  $ 704     $ 2,961     $ 953     $ 69     $ 4,687  
                                         

Loans and leases:

                                       

Individually evaluated for impairment

  $ -     $ 1,644     $ 1,276     $ -     $ 2,920  

Acquired with deteriorated credit quality

    60       104               -       164  

Collectively evaluated for impairment

    120,266       371,598       71,057       7,976       570,897  

Total ending loans and leases balance

  $ 120,326     $ 373,346     $ 72,333     $ 7,976     $ 573,981  

 

 

December 31, 2019

 

Residential 1 – 4 family real estate

    Commercial and multi-family real estate     Commercial    

Consumer

   

Total

 

Allowance for loan and lease losses:

                                       

Attributable to loans and leases individually evaluated for impairment

  $ -     $ 93     $ 342     $ -     $ 435  

Collectively evaluated for impairment

    592       2,443       597       64       3,696  

Total allowance for loan and lease losses

  $ 592     $ 2,536     $ 939     $ 64     $ 4,131  
                                         

Loans and leases:

                                       

Individually evaluated for impairment

  $ -     $ 1,499     $ 1,279     $ -     $ 2,778  

Acquired with deteriorated credit quality

    61       127       -       -       188  

Collectively evaluated for impairment

    122,844       365,988       76,379       8,247       573,458  

Total ending loans and leases balance

  $ 122,905     $ 367,614     $ 77,658     $ 8,247     $ 576,424  

 

11

 

  

The average recorded investment in impaired loans and leases (excluding loans and leases acquired with deteriorated credit quality) for the three month period ended March 31, 2020 was $2,847,000 compared to $1,307,000 for the three month period ended March 31, 2019. There was $400,000 of allowance for loan and lease losses specifically reserved as of March 31, 2020 for impaired loans compared to $100,000 as of March 31, 2019. Additionally, there was approximately $12,000 in interest income recognized by the Corporation on impaired loans and leases on an accrual or cash basis for the three month period ended March 31, 2020 and $24,000 for the three month period ended March 31, 2019.

 

The following table presents the recorded investment in nonaccrual loans and leases, loans and leases past due over 90 days still on accrual and troubled debt restructurings by class of loans as of March 31, 2020 and December 31, 2019. Nonaccrual loans primarily consist of smaller dollar homogenous loans that are collectively evaluated for impairment.

 

   

(in thousands)

 

March 31, 2020

 

Nonaccrual

    Loans and leases past due over 90 days still accruing     Accruing Troubled Debt Restructurings  

Residential 1-4 family real estate

  $ 503     $ 97     $ 218  

Commercial and multi family real estate

    1,294       -       600  

Agricultural real estate

    4       -       -  

Commercial

    -       -       771  

Agriculture

    -       -       -  

Consumer

    -       -       -  

Total

  $ 1,801     $ 97     $ 1,589  
                         

December 31, 2019

                       

Residential 1-4 family real estate

  $ 414     $ 138     $ 223  

Commercial and multi family real estate

    545       -       623  

Agricultural real estate

    4       -       -  

Commercial

    -       -       772  

Agriculture

    -       -       -  

Consumer

    -       -       -  

Total

  $ 963     $ 138     $ 1,618  

 

12

 

 

The following table presents the aging of the recorded investment in past due loans and leases as of March 31, 2020 and December 31, 2019 by class of loans and leases:

 

   

(in thousands)

 

March 31, 2020

  30 – 59 days past due     60 – 89 days past due     Greater than 90 days past due    

Total past due

    Loans and leases not past due    

Total

 

Residential 1-4 family real estate

  $ 1,072     $ 473     $ 281     $ 1,826     $ 118,500     $ 120,326  

Commercial and multi family real estate

    245       30       606       881       334,309       335,190  

Agricultural real estate

    16       -       -       16       38,140       38,156  

Commercial

    27       27       1       55       61,367       61,422  

Agriculture

    81       -       -       81       10,830       10,911  

Consumer

    2       -       -       2       7,974       7,976  

Total

  $ 1,443     $ 530     $ 888     $ 2,861     $ 571,120     $ 573,981  
                                                 

December 31, 2019

                                               

Residential 1-4 family real estate

  $ 2,709     $ 99     $ 322     $ 3,130     $ 119,775     $ 122,905  

Commercial and multi family real estate

    177       302       15       494       332,161       332,655  

Agricultural real estate

    -       -       -       -       34,959       34,959  

Commercial

    -       57       5       62       67,826       67,888  

Agriculture

    -       -       -       -       9,770       9,770  

Consumer

    2       -       -       2       8,245       8,247  

Total

  $ 2,888     $ 458     $ 342     $ 3,688     $ 572,736     $ 576,424  

 

13

 

  

Credit Quality Indicators:

 

The Corporation categorizes loans and leases into risk categories based on relevant information about the ability of borrowers to service their debt, such as:  current financial information, historical payment experience, credit documentation, public information, and current economic trends, among other factors.  The Corporation analyzes loans and leases individually by classifying the loans and leases as to the credit risk.  This analysis generally includes non-homogenous loans and leases, such as commercial and commercial real estate loans and leases. The Corporation uses the following definitions for risk ratings:

 

Pass: Loans and leases not meeting the previous criteria that are analyzed individually as part of the above described process are considered to be pass rated loans and leases.

 

Special Mention: Loans and leases which possess some credit deficiency or potential weakness which deserves close attention, but which do not yet warrant substandard classification. Such loans and leases pose unwarranted financial risk that, if not corrected, could weaken the loan or lease and increase risk in the future. The key distinctions of a Special Mention classification are that (1) it is indicative of an unwarranted level of risk, and (2) weaknesses are considered "potential", versus "defined", impairments to the primary source of loan repayment.

 

Substandard: These loans and leases are inadequately protected by the current sound net worth and paying ability of the borrower. Loans and leases of this type will generally display negative financial trends such as poor or negative net worth, earnings or cash flow. These loans and leases may also have historic and/or severe delinquency problems, and Corporation management may depend on secondary repayment sources to liquidate these loans and leases. The Corporation could sustain some degree of loss in these loans and leases if the weaknesses remain uncorrected.

 

Doubtful: Loans and leases in this category display a high degree of loss, although the amount of actual loss at the time of classification is undeterminable. This should be a temporary category until such time that actual loss can be identified, or improvements made to reduce the seriousness of the classification.

 

The following table provides a summary of the loan portfolio risk grades, as applicable, based on the most recent analysis performed, as of March 31, 2020 and December 31, 2019. The Corporation risk rates all commercial and commercial real estate loans.

 

As of March 31, 2020 and December 31, 2019, and based on the most recent analysis performed, the risk category of loans by class of loans and leases is as follows:

 

   

(in thousands)

 

March 31, 2020

 

Pass

   

Special Mention

   

Substandard

   

Doubtful

   

Not rated

 

Residential 1 - 4 family

  $ 8,512     $ -     $ -     $ -     $ 111,814  

Commercial and multi- family real estate

    361,947       1,762       3,432       -       6,205  

Commercial

    69,807       863       1,662       -       1  

Consumer

    40       -       -       -       7,936  

Total

  $ 440,306     $ 2,625     $ 5,094     $ -     $ 125,956  
                                         

December 31, 2019

                                       

Residential 1 - 4 family

  $ 9,219     $ -     $ -     $ -     $ 113,686  

Commercial and multi- family real estate

    362,519       1,797       3,258       -       40  

Commercial

    75,559       410       1,688       -       1  

Consumer

    45       -       -       -       8,202  

Total

  $ 447,342     $ 2,207     $ 4,946     $ -     $ 121,929  

 

14

 

 

The Corporation considers the performance of the loan and lease portfolio and its impact on the allowance for loan and lease losses. For all loan classes that are not rated, the Corporation also evaluates credit quality based on the aging status of the loan, which was previously presented, and by payment activity. Generally, all loans and leases not rated that are 90 days past due or are classified as nonaccrual and collectively evaluated for impairment, are considered nonperforming. The following table presents the recorded investment in all loans and leases that are not risk rated, based on payment activity as of March 31, 2020 and December 31, 2019:

 

   

(in thousands)

 

March 31, 2020

 

Residential 1-4 family

   

Commercial and multi-family real estate

   

Commercial

   

Consumer

   

Total

 
                                         

Performing

  $ 111,533     $ 6,190     $ -     $ 7,936     $ 125,659  

Nonperforming

    281       15       1       -       297  

Total

  $ 111,814     $ 6,205     $ 1     $ 7,936     $ 125,956  
                                         

December 31, 2019

                                       
                                         

Performing

  $ 113,364     $ 24     $ -     $ 8,202     $ 121,590  

Nonperforming

    322       16       1       -       339  

Total

  $ 113,686     $ 40     $ 1     $ 8,202     $ 121,929  

  

Modifications:

 

The Corporation’s loan and lease portfolio also includes certain loans and leases that have been modified in a Troubled Debt Restructuring (TDR), where economic concessions have been granted to borrowers who have experienced or are expected to experience financial difficulties. These concessions typically result from the Corporation’s loss mitigation activities and could include reductions in the interest rate, payment extensions, forgiveness of principal, forbearance or other actions. All TDRs are also classified as impaired loans and leases.

 

When the Corporation modifies a loan or lease, management evaluates any possible concession based on the present value of expected future cash flows, discounted at the contractual interest rate of the original loan or lease agreement, except when the sole (remaining) source of repayment for the loan or lease is the operation or liquidation of the collateral. In these cases, management uses the current fair value of the collateral, less selling costs, instead of discounted cash flows. If management determines that the value of the modified loan or lease is less than the recorded investment in the loan or lease (net of previous charge-offs, deferred loan fees or costs and unamortized premium or discount), an impairment is recognized through a specific reserve in the allowance or a direct write down of the loan or lease balance if collection is not expected.

  

There were no modifications for TDR loans and leases for which there was a payment default during the three month period ended March 31, 2020

 

The Corporation acquired The Ohio State Bank (“OSB”) in November 2014 and Benchmark Bank in September 2017. As a result of these acquisitions, the Corporation has loans and leases, for which there was at acquisition, evidence of deterioration of credit quality since origination and for which it was probable at acquisition, that all contractually required payments would not be collected.

  

15

 

 

The following is information related to loans and leases acquired in these transactions, including purchased impaired loans:

 

   

The Ohio State Bank

 
   

(in thousands)

 
    Contractual                  
    Principal     Accretable     Carrying  
    Receivable     Difference     Amount  

Purchased Performing Loans and Leases

                       

Balance at December 31, 2019

  $ 13,047     $ (430 )   $ 12,617  

Change due to payments received

    (657 )     27       (630 )

Transfer to foreclosed real estate

    -       -       -  

Change due to loan charge-off

    -       -       -  

Balance at March 31, 2020

  $ 12,390     $ (403 )   $ 11,987  
                         

Purchased Impaired Loans and Leases

                       

Balance at December 31, 2019

  $ 160     $ (134 )   $ 26  

Change due to payments received

    (9 )     2       (7 )

Transfer to foreclosed real estate

    -       -       -  

Change due to loan charge-off

    -       -       -  

Balance at March 31, 2020

  $ 151     $ (132 )   $ 19  

 

 

   

Benchmark Bank

 
   

(in thousands)

 
    Contractual                  
    Principal     Accretable     Carrying  
    Receivable     Difference     Amount  

Purchased Performing Loans and Leases

                       

Balance at December 31, 2019

  $ 58,953     $ (1,177 )   $ 57,776  

Change due to payments received

    (5,132 )     117       (5,015 )

Transfer to foreclosed real estate

    -       -       -  

Change due to loan charge-off

    -       -       -  

Balance at March 31, 2020

  $ 53,821     $ (1,060 )   $ 52,761  
                         

Purchased Impaired Loans and Leases

                       

Balance at December 31, 2019

  $ 354     $ (192 )   $ 162  

Change due to payments received

    (36 )     19       (17 )

Transfer to foreclosed real estate

    -       -       -  

Change due to loan charge-off

    -       -       -  

Balance at March 31, 2020

  $ 318     $ (173 )   $ 145  

 

There was no provision for loan and lease losses recognized during the three month periods ended March 31, 2020 and 2019 related to the acquired loans as there was no significant change to the credit quality of the loans during the period.

 

16

 

 

 

NOTE 5 – OTHER BORROWINGS

 

Other borrowings consists of the following at March 31, 2020 and December 31, 2019

 

   

(in thousands)

 
   

March 31,

   

December 31,

 
   

2020

   

2019

 

Federal Home Loan Bank borrowings:

               

Secured note, with interest at 1.72%, due September, 2020

  $ 6,000     $ 6,000  

Secured note, with interest at 2.90%, due June, 2021

    8,000       8,000  

Secured note, with variable interest, at 1.55% at March 31, 2020 and 2.13% at December 31, 2019, due September, 2021

    7,000       7,000  

Secured note, with interest at 1.86%, due September, 2021

    6,000       6,000  

Secured note, with interest at 2.94%, due December, 2021

    8,000       8,000  

Secured note, with interest at 2.98%, due June, 2022

    9,000       9,000  

Secured note, with interest at 1.97%, due September, 2022

    6,000       6,000  

United Bankers Bank

               

Note payable, with interest at 4.875% and $250,000 principal payments payable quarterly with any remaining unpaid principal, due September 1, 2022. All Union Bank stock is held as collateral.

    8,500       8,750  

Total other borrowings

  $ 58,500     $ 58,750  

  

Federal Home Loan Bank borrowings are secured by Federal Home Loan Bank stock and eligible mortgage loans approximating $163,896,000 and $186,076,000 at March 31, 2020 and December 31, 2019 respectively.

 

Future maturities of other borrowings are as follows: 2020: $6,750,000; 2021, $30,000,000; and 2022, $21,750,000.

 

17

 

 

 

NOTE 6 – JUNIOR SUBORDINATED DEFERRABLE INTEREST DEBENTURES

 

The Corporation has formed and invested $300,000 in a business trust, United (OH) Statutory Trust (“United Trust”) which is not consolidated by the Corporation. United Trust issued $10,000,000 of trust preferred securities, which are guaranteed by the Corporation, and are subject to mandatory redemption upon payment of the debentures. United Trust used the proceeds from the issuance of the trust preferred securities, as well as the Corporation’s capital investment, to purchase $10,300,000 of junior subordinated deferrable interest debentures issued by the Corporation. The debentures have a stated maturity date of March 26, 2033. As of March 26, 2008, and quarterly thereafter, the debentures may be shortened at the Corporation’s option. Interest is payable quarterly at a floating rate adjustable quarterly and equal to 315 basis points over the 3-month LIBOR, amounting to 4.38% at March 31, 2020 and 5.10% at December 31, 2019. The Corporation has the right, subject to events in default, to defer payments of interest on the debentures by extending the interest payment period for a period not exceeding 20 consecutive quarterly periods.

 

The Corporation assumed $3,093,000 of trust preferred securities through the OSB acquisition with $3,000,000 of the liability guaranteed by the Corporation and the remaining $93,000 secured by an investment in the trust preferred securities. The trust preferred securities carrying value as of March 31, 2020 and December 31, 2019 was $2,616,000 and $2,608,000, respectively. The difference between the principal owed and the carrying value is due to the below-market interest rate on the debentures. The debentures have a stated maturity date of April 23, 2034. Interest is at a floating rate adjustable quarterly and equal to 285 basis points over the 3-month LIBOR, amounting to 4.66% at March 31, 2020 and 4.78% at December 31, 2019.

 

Each issue of the trust preferred securities carries an interest rate identical to that of the related debenture. The securities have been structured to qualify as Tier I capital for regulatory purposes and the dividends paid on such are tax deductible. However, under Federal Reserve Board guidelines, the securities cannot be used to constitute more than 25% of the Corporation’s core Tier I capital inclusive of these securities.

 

Interest expense on the debentures amounted to $161,000 and $191,000 for the three month periods ended March 31, 2020 and 2019, respectively, and is included in other borrowings interest expense in the accompanying consolidated statements of income.  

 

18

 

 

 

NOTE 7 - FAIR VALUE MEASUREMENTS

 

ASC 820-10 defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. A fair value measurement assumes that the transaction to sell the asset or transfer the liability occurs in the principal market for the asset or liability or, in the absence of a principal market, the most advantageous market for the asset or liability. The price in the principal (or most advantageous) market used to measure the fair value of the asset or liability shall not be adjusted for transaction costs. An orderly transaction is a transaction that assumes exposure to the market for a period prior to the measurement date to allow for marketing activities that are usual and customary for transactions involving such assets and liabilities; it is not a forced transaction. Market participants are buyers and sellers in the principal market that are independent, knowledgeable, and both able and willing to transact.

 

ASC 820-10 requires the use of valuation techniques that are consistent with the market approach, the income approach, and/or the cost approach. The market approach uses prices and other relevant information generated by market transactions involving identical or comparable assets and liabilities. The income approach uses valuation techniques to convert future amounts, such as cash flows or earnings, to a single present amount on a discounted basis. The cost approach is based on the amount that currently would be required to replace the service capacity of an asset (replacement cost). Valuation techniques should be consistently applied. Inputs to valuation techniques refer to the assumptions that market participants would use in pricing the asset or liability. Inputs may be observable or unobservable. Observable inputs reflect the assumptions market participants would use in pricing the asset or liability developed based on market data obtained from independent sources. Unobservable inputs reflect the reporting entity’s own assumptions about the assumptions market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. In that regard, ASC 820-10 establishes a fair value hierarchy for valuation inputs that gives the highest priority to quoted prices in active markets for identical assets or liabilities and the lowest priority to unobservable inputs. The fair value hierarchy is as follows:

 

Level 1 – Unadjusted quoted prices in active markets for identical assets or liabilities that the Corporation has the ability to access at the measurement date.

 

Level 2 – Inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly. Level 2 inputs include quoted prices for similar assets or liabilities in active markets; quoted prices for identical or similar assets or liabilities in markets that are not active; inputs other than quoted prices that are observable for the asset or liability; and inputs that are derived principally from or corroborated by observable market data by correlation or other means.

 

Level 3 – Unobservable inputs for the asset or liability for which there is little, if any, market activity at the measurement date. Unobservable inputs reflect the Corporation’s own assumptions about what market participants would use to price the asset or liability. The inputs are developed based on the best information available in the circumstances, which might include the Corporation’s own financial data such as internally developed pricing models, discounted cash flow methodologies, as well as instruments for which the fair value determination requires significant management judgment.

 

Financial assets (there were no financial liabilities) measured at fair value on a recurring basis at March 31, 2020 and December 31, 2019 include available-for-sale securities, which are valued using Level 1 and Level 2 inputs, as well as mortgage servicing rights, amounting to $825,000 at March 31, 2020 and $1,061,000 at December 31, 2019, which are valued using Level 3 inputs. Financial assets measured at fair value on a nonrecurring basis at March 31, 2020 include loans classified as impaired totaling $1,732,000 compared to $1,495,000 at December 31, 2019

 

There were no financial instruments measured at fair value that moved to a lower level in the fair value hierarchy during the period ended March 31, 2020, due to the lack of observable quotes in inactive markets for those instruments at March 31, 2020.

 

19

 

  

The tables below present a reconciliation and income statement classification of gains and losses for mortgage servicing rights, which are measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for the three month period ended March 31, 2020 and for the year ended December 31, 2019:

 

   

(in thousands)

 
   

March 31,

   

December 31,

 
   

2020

   

2019

 

Mortgage Servicing Rights

               

Balance at beginning of period

  $ 1,061     $ 1,313  

Gains or losses, including realized and unrealized:

               

Purchases, issuances, and settlements

    53       192  

Disposals - amortization based on loan payments and payoffs

    (46 )     (186 )

Changes in fair value

    (243 )     (258 )

Balance at end of period

  $ 825     $ 1,061  

  

A description of the valuation methodologies used for instruments measured at fair value, as well as the general classification of such instruments pursuant to the valuation hierarchy, and disclosure of unobservable inputs follows.

 

In general, fair value is based upon quoted market prices, where available. If such quoted market prices are not available, fair value is based upon internally developed models that primarily use, as inputs, observable market-based parameters. Valuation adjustments may be made to ensure that financial instruments are recorded at fair value. These adjustments may include amounts to reflect counterparty credit quality, the Corporation’s creditworthiness, among other things, as well as unobservable parameters. Any such valuation adjustments are applied consistently over time. The Corporation’s valuation methodologies may produce a fair value calculation that may not be indicative of net realizable value or reflective of future fair values. While management believes the Corporation’s valuation methodologies are appropriate and consistent with other market participants, the use of different methodologies or assumptions to determine the fair value of certain financial instruments could result in a different estimate of fair value at the reporting date.

 

Securities Available-for-Sale

 

Where quoted prices are available in an active market, securities are classified within Level 1 of the valuation hierarchy. Level 1 securities would typically include government bonds and exchange traded equities. If quoted market prices are not available, then fair values are estimated using pricing models, quoted prices of securities with similar characteristics, or discounted cash flows. Examples of such instruments, which would generally be classified within Level 2 of the valuation hierarchy, include U.S. Government and agencies securities, municipal bonds, mortgage-backed securities, and asset-backed securities. In certain cases where there is limited activity or less transparency around inputs to the valuation, securities are classified within Level 3 of the valuation hierarchy.

 

20

 

  

Impaired Loans

 

The Corporation does not record impaired loans at fair value on a recurring basis. However, periodically, a loan is considered impaired and is reported at the fair value of the underlying collateral less estimated cost to sell, if repayment is expected solely from collateral. Collateral values are estimated using Level 2 inputs, including recent appraisals or evaluations as well as Level 3 inputs based on customized discounting criteria such as additional appraisal adjustments to consider deterioration of value subsequent to appraisal date and estimated cost to sell. Additional appraisal adjustments range between 15% and 35% of appraised value, and estimated selling cost ranges between 10% and 20% of the adjusted appraised value.  Due to the significance of the Level 3 inputs, impaired loans fair values have been classified as Level 3.

 

Mortgage Servicing Rights

 

The Corporation records mortgage servicing rights at estimated fair value based on a discounted cash flow model which includes discount rates between 11% and 13%, in addition to prepayment, internal rate of return, servicing costs, inflation rate of servicing costs and earnings rate assumptions that are considered to be unobservable inputs. Due to the significance of the Level 3 inputs, mortgage servicing rights have been classified as Level 3.

 

Other Real Estate Owned

 

The Corporation values other real estate owned at the estimated fair value of the underlying collateral less appraisal adjustments typically between 10% and 30% of appraised value, and expected selling costs between 10% and 20% of adjusted appraised value. Such values are estimated primarily using appraisals or evaluations utilizing a market value approach. Due to the significance of the Level 3 inputs, other real estate owned is classified as Level 3.

 

Certain other financial assets and financial liabilities are measured at fair value on a nonrecurring basis; that is, the instruments are not measured at fair value on an ongoing basis but are subject to fair value adjustments in certain circumstances, for example, when there is evidence of impairment. Financial assets and financial liabilities, excluding impaired loans and other real estate owned, measured at fair value on a nonrecurring basis were not significant at March 31, 2020 and December 31, 2019.

  

21

 

  

 

NOTE 8 – FAIR VALUE OF FINANCIAL INSTRUMENTS

 

The carrying amounts and estimated fair values of recognized financial instruments at March 31, 2020 and December 31, 2019 were as follows:

 

   

(in thousands)

         
   

March 31, 2020

   

December 31, 2019

         
   

Carrying amount

   

Estimated value

   

Carrying amount

   

Estimated value

   

Input Level

 
                                         

FINANCIAL ASSETS

                                       

Cash and cash equivalents

  $ 44,772     $ 44,772     $ 26,412     $ 26,412       1  

Securities, including FHLB stock

    193,298       193,298       188,913       188,913       2,3  

Loans held for sale

    19,613       19,613       15,301       15,301       3  

Net loans and leases

    569,294       570,267       572,293       572,936       3  

Mortgage servicing rights

    825       825       1,061       1,061       3  

Hedging assets

    1,960       1,960       970       970       3  

Total Financial Assets

  $ 829,762     $ 830,735     $ 804,950     $ 805,593          
                                         

FINANCIAL LIABILITIES

                                       

Deposits

                                       

Maturity

  $ 183,971     $ 185,705     $ 197,391     $ 197,428       3  

Non-maturity

    541,165       541,165       509,743       509,743       1  

Other borrowings

    58,500       58,427       58,750       58,692       3  

Junior subordinated deferrable interest debentures

    12,916       6,307       12,908       11,067       3  

Hedging liabilities

    1,123       1,123       27       27       3  

Total Financial Liabilities

  $ 797,675     $ 792,727     $ 778,819     $ 776,957          

 

The above summary does not include accrued interest receivable or cash surrender value of life insurance, which are also considered financial instruments. The estimated fair value of such items is considered to be their carrying amounts.

 

There are also unrecognized financial instruments at March 31, 2020 and December 31, 2019 which relate to commitments to extend credit and letters of credit. The contract amount of such financial instruments amounted to $141,005,000 at March 31, 2020 and $133,220,000 at December 31, 2019. Such amounts are also considered to be the estimated fair values.

 

The following methods and assumptions were used to estimate the fair value of each class of financial instruments shown above:

 

Cash and cash equivalents:

 

Fair value is determined to be the carrying amount for these items (which include cash on hand, due from banks, and federal funds sold) because they represent cash or mature in 90 days or less, and do not represent unanticipated credit concerns.

 

Securities:

 

The fair value of securities is determined based on quoted market prices of the individual securities; if not available, estimated fair value is obtained by comparison to other known securities with similar risk and maturity characteristics. Such value does not consider possible tax ramifications or estimated transaction costs.

 

Loans held for sale:

 

The fair value of loans held for sale is determined based on the sales price of similar loans. Loan held for sale are typically held for 60 days or less.

 

22

 

 

Loans and leases:

 

Fair value for loans and leases was estimated for portfolios of loans and leases with similar financial characteristics. For adjustable rate loans, which re-price at least annually and generally possess low risk characteristics, the carrying amount is believed to be a reasonable estimate of fair value. For fixed rate loans, the fair value is estimated based on a discounted cash flow analysis, considering weighted average rates and terms of the portfolio, adjusted for credit and interest rate risk inherent in the loans. Fair value for nonperforming loans is based on recent appraisals or estimated discounted cash flows.

 

Mortgage servicing rights:

 

The fair value for mortgage servicing rights is determined based on an analysis of the portfolio by an independent third party.

 

Deposit liabilities:

 

The fair value of core deposits, including demand deposits, savings accounts, and certain money market deposits, is the amount payable on demand. The fair value of fixed-maturity certificates of deposit is estimated using the rates offered at quarter end for deposits of similar remaining maturities. The estimated fair value does not include the benefit that results from the low-cost funding provided by the deposit liabilities compared to the cost of borrowing funds in the marketplace.

 

Other borrowings and junior subordinated deferrable interest debentures:

 

The fair value of other borrowings and junior subordinated deferrable interest debentures are determined using the net present value of discounted cash flows based on current borrowing rates for similar types of borrowing arrangements, and are obtained from an independent third party.

 

Other financial instruments:

 

The fair value of commitments to extend credit and letters of credit is determined to be the contract amount, since these financial instruments generally represent commitments at existing rates. The fair value of other borrowings is determined based on a discounted cash flow analysis using current interest rates. The fair value of other liabilities is generally considered to be carrying value except for the deferred compensation agreement. The fair value of the contract is determined based on a discounted cash flow analysis using a current interest rate for a similar instrument.

 

The fair value estimates of financial instruments are made at a specific point in time based on relevant market information. These estimates do not reflect any premium or discount that could result from offering for sale at one time the entire holdings of a particular financial instrument over the value of anticipated future business and the value of assets and liabilities that are not considered financial instruments. Since no ready market exists for a significant portion of the financial instruments, fair value estimates are largely based on judgments after considering such factors as future expected credit losses, current economic conditions, risk characteristics of various financial instruments, and other factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with precision. Changes in assumptions could significantly affect these estimates.

  

23

 

 

 

NOTE 9 – STOCK OPTIONS

 

The United Bancshares, Inc. 2016 Stock Option Plan (the “Plan”) permits the Corporation to award non-qualified stock options to eligible participants. A total of 250,000 shares are available for issuance pursuant to the Plan.

 

The Corporation has issued 30,151 options during 2017 at an exercise price of $21.70, 31,267 options during 2018 at an exercise price of $23.30, and 33,853 options during 2019 at an exercise price of $22.97 under the Plan. Following is a summary of activity for stock options for the three month periods ended March 31, 2020 and March 31, 2019

 

    March 31,     March 31,  
    2020     2019  

Outstanding, beginning of period

    117,647       93,069  

Granted

    -       -  

Exercised

    -       -  

Forfeited

    -       -  

Outstanding, end of period

    117,647       93,069  

Weighted average exercise price at end of quarter

  $ 21.81     $ 21.39  

 

The options vest over a three-year period on the anniversary of the date of grant. At March 31, 2020, 57,033 options were vested compared to 31,718 options vested at March 31, 2019 and outstanding options had a weighted average remaining contractual term of 7.9 years.

 

The fair value of options granted is estimated at the date of grant using the Black Scholes option pricing model. Following are assumptions used in calculating the fair value of the options granted that are still vesting:

 

   

2019

   

2018

   

2017

 

Weighted-average fair value of options granted

  $ 7.77     $ 7.87     $ 7.35  

Average dividend yield

    2.26

%

    2.18

%

    2.23

%

Expected volatility

    40.00

%

    40.00

%

    40.00

%

Risk-free interest rate

    1.93

%

    2.81

%

    2.06

%

Expected term (years)

    7       7       7  

 

Total compensation expense related to the stock options granted in 2017, net of forfeitures, is expected to be $192,000 and is being recognized ratably over the 36 month period beginning August 1, 2017. Total compensation expense related to the stock options granted in 2018, net of forfeitures, is expected to be $213,000 and is being recognized ratably over the 36 month period beginning September 1, 2018. Total compensation expense related to the stock options granted in 2019 is expected to be $263,000 and is being recognized ratably over the 36 month period beginning July 1, 2019. Stock option expense for outstanding awards amounted to $60,000 for the three months ended March 31, 2020 and $55,000 for the three months ended March 31, 2019

 

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 NOTE 10 – NON-INTEREST INCOME

 

The Corporation’s revenue from contracts with customers within the scope of ASC 606 is recognized in noninterest income.  The material groups of noninterest income are defined as follows:

 

Service charges on deposit accounts: 

 

Service charges on deposit accounts primarily consist of account analysis fees, monthly maintenance fees, overdraft fees, and other deposit account related fees.  Overdraft fees and certain service charges are fixed and the performance obligation is typically satisfied at the time of the related transaction.  The consideration for analysis fees and monthly maintenance fees are variable as the fee can be reduced if the customer meets certain qualifying metrics.  The Company’s performance obligations are satisfied at the time of the transaction or over the course of a month.

 

Interchange fee income: 

 

The Company earns interchange fees from debit and credit cardholder transactions conducted through the MasterCard payment network.  Interchange fees from cardholder transactions represent a percentage of the underlying transaction value and are recognized concurrently with the transaction processing services provided to the cardholder.

 

Wealth management income

 

The Company earns wealth management and investment brokerage fees from its services with customers to manage assets for investment, to provide advisory services, and for account transactions.  Fees are based on the market value of the assets under management and are recognized monthly as the Company’s performance obligations are met.  Commissions on transactions are recognized on a trade-date basis as the performance obligation is satisfied at the point in time in which the trade is processed.  Other related services are based on a fixed fee schedule and the revenue is recognized when the services are rendered, which is when the Company has satisfied its performance obligation. 

 

The following table presents the Company’s non-interest income for the three months ended March 31, 2020 and 2019.  Items outside the scope of ASC 606 are noted as such.

 

   

Three Months ended March 31,

 
   

2020

   

2019

 

Service charges on deposit accounts

  $ 350     $ 346  

Gain on sale of mortgage and government loans (1)

    2,583       1,438  

Change in fair value of mortgage servicing rights (1)

    (243 )     (111 )

Increase in cash surrender value of life insurance (1)

    96       98  

Other

               

Credit and debit card interchange fees

    332       321  

Wealth management

    85       78  

Net loan servicing fees (1)

    85       95  

Other non-interest income (1)

    (454 )     243  

Total non-interest income

  $ 2,834     $ 2,508  

 

(1) Not within the scope of ASC 606

 

 

NOTE 11 – SUBSEQUENT EVENTS 

 

Management evaluated subsequent events through the date the consolidated financial statements were issued. Events or transactions occurring after March 31, 2020 but prior to when the consolidated financial statements were issued, that provided additional evidence about conditions that existed at March 31, 2020 have been recognized in the consolidated financial statements for the period ended March 31, 2020. Events or transactions that provided evidence about conditions that did not exist at March 31, 2020 but arose before the financial statements were issued have not been recognized in the consolidated financial statements for the period ended March 31, 2020.

 

On April 2, 2020, the U.S. Small Business Administration (“SBA”) issued an interim final rule (“the Initial Rule”) announcing the implementation of sections 1102 and 1106 of the Coronavirus Aid, Relief, and Economic Security Act (“CARES Act or the Act”). Section 1102 of the Act temporarily adds a new program, titled the “Paycheck Protection Program” (“PPP”), to the SBA’s 7(a) Loan Program. Section 1106 of the Act provides for forgiveness of up to the full principal amount of qualifying loans guaranteed under the Paycheck Protection Program. The PPP and loan forgiveness are intended to provide economic relief to small business nationwide adversely impacted by the Coronavirus Disease 2019 (“COVID-19”).

 

As an SBA-Certified Preferred lender we are delegated the authority as part of the CARES Act to make Paycheck Protection Program SBA-guaranteed financing available to eligible borrowers. The SBA will pay a processing fee based on the balance of the financing outstanding at the time of final disbursement. The processing fees is as follows: 5% for loans of not more than $350,000, 3% for loans of more than $350,000 and less than $2 million, and 1% for loans of at least $2 million. As of April 28, 2020, we are assisting over 1,100 clients to secure approximately $106 million of PPP financing, which is being issued by the SBA on a first come first served basis.

 

On April 7, 2020, the Board of Governors of the Federal Reserve System (“FRB”) authorized each of the Federal Reserve Banks to establish the Payment Protection Program Lending Facility (“PPPL Facility”), pursuant to section 13(3) of the Federal Reserve Act. Under the PPPL Facility, each of the Federal Reserve Banks will extend non-recourse loans to eligible financial institutions to fund loans guaranteed by the SBA under the PPP established by the CARES Act.

 

 

On April 28, 2020, the Corporation's Board of Directors approved a cash dividend of $0.07 per common share payable June 15, 2020 to shareholders of record at the close of business on May 29, 2020.

 

  

25

 

 

 

 

 

ITEM 2 - MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS 

 

SELECTED FINANCIAL DATA

 

The following data should be read in conjunction with the unaudited consolidated financial statements and management’s discussion and analysis that follows:

 

   

As of or for the three months ended March 31,

 
   

2020

   

2019

 

SIGNIFICANT RATIOS (Unaudited)

               

Net income to:

               

Average assets (a)

    0.49 %     0.87 %

Average tangible shareholders’ equity (non-GAAP) (a)

    6.41 %     13.86 %

Net interest margin (a)

    3.61 %     3.81 %

Efficiency ratio (b)

    81.14 %     74.76 %

Average shareholders’ equity to average assets

    10.98 %     9.83 %

Loans to deposits (end of period) (c)

    81.86 %     83.63 %

Allowance for loan losses to loans (end of period)

    0.82 %     0.63 %
                 

Book value per share

  $ 30.11     $ 25.82  

 

(a)

Net income to average assets, net income to average tangible shareholders’ equity and net interest margin are presented on an annualized basis. Net interest margin is calculated using fully-tax equivalent net interest income as a percentage of average interest earning assets.

(b)

Efficiency ratio is a ratio of non-interest expense as a percentage of fully tax equivalent net interest income plus non-interest income.

(c)

Includes loans held for sale

  

Reconciliation of common shareholders' equity to tangible common equity

               
   

March 31, 2020

   

March 31, 2019

 

Shareholders' equity

  $ 98,482     $ 84,433  

Less goodwill and other intangibles

    29,372       29,529  

Tangible common equity

  $ 69,110     $ 54,904  

Average shareholders' equity

  $ 97,336     $ 81,900  

Less average goodwill and other intangibles

    29,386       29,546  

Average tangible common equity

  $ 67,950     $ 52,354  

 

 

 

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Introduction

 

United Bancshares, Inc. (the “Corporation”), an Ohio corporation, is a bank holding company registered under the Bank Holding Company Act of 1956, as amended, and is subject to regulation by the Board of Governors of the Federal Reserve System (the “Federal Reserve Board”). The Corporation was incorporated and organized in 1985. The executive offices of the Corporation are located at 105 Progressive Drive, Columbus Grove, Ohio 45830. The Corporation is a one-bank holding company, as that term is defined by the Federal Reserve Board.

 

The Union Bank Company (the “Bank”), a wholly-owned subsidiary of the Corporation, is a full service community bank offering a full range of commercial and consumer banking services. The Bank is an Ohio state-chartered bank, which serves Allen, Delaware, Franklin, Hancock, Huron, Marion, Putnam, Sandusky, Van Wert and Wood counties in Ohio, with office locations in Bowling Green, Columbus Grove, Delaware, Delphos, Findlay, Gahanna, Gibsonburg, Kalida, Leipsic, Lima, Marion, Ottawa, Pemberville, Plymouth, Westerville and Worthington, Ohio.

 

Deposit services include checking accounts, savings and money market accounts; certificates of deposit and individual retirement accounts. Additional supportive services include online banking, bill pay, mobile banking, Zelle payment service, ATM’s and safe deposit box rentals.  Treasury management and remote deposit capture products are also available to commercial deposit customers.  Deposits of Union Bank are insured up to applicable limits by the Deposit Insurance Fund, which is administered by the FDIC.

 

Loan products offered include commercial and residential real estate loans, agricultural loans, commercial and industrial loans, home equity loans, various types of consumer loans and small business administration loans. Union Bank’s residential loan activities consist primarily of loans for purchasing or refinancing personal residences.  The majority of these loans are sold to the secondary market.

 

Wealth management services are offered by Union Bank through an arrangement with LPL Financial LLC, a registered broker/dealer.  Licensed representatives offer a full range of investment services and products, including financial needs analysis, mutual funds, securities trading, annuities and life insurance.

 

Union Bank has two subsidiaries: UBC Investments, Inc. (“UBC”), an entity formed to hold its securities portfolio, and UBC Property, Inc. (“UBC Property”), an entity formed to hold and manage certain property that is acquired in lieu of foreclosure.

 

When or if used in the Corporation’s Securities and Exchange Commission filings or other public or shareholder communications, or in oral statements made with the approval of an authorized executive officer, the words or phrases: “anticipate,” “would be,” “will allow,” “intends to,” “will likely result,” “are expected to,” “will continue,” “is anticipated,” “is estimated,” “is projected,” or similar expressions are intended to identify “forward looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Any such statements are subject to the risks and uncertainties that include but are not limited to: changes in economic conditions in the Corporation’s market area, changes in policies by regulatory agencies, fluctuations in interest rates, demand for loans in the Corporation’s market area, and competition. All or some of these factors could cause actual results to differ materially from historical earnings and those presently anticipated or projected.

 

The Corporation cautions readers not to place undue reliance on any such forward looking statements, which speak only as of the date made, and advises readers that various factors, including regional and national economic conditions, substantial changes in the levels of market interest rates, credit and other risks associated with lending and investing activities, and competitive and regulatory factors could affect the Corporation’s financial performance and could cause the Corporation’s actual results for future periods to differ materially from those anticipated or projected. The Corporation does not undertake, and specifically disclaims any obligation, to update any forward looking statements to reflect occurrences or unanticipated events or circumstances after the date of such statements.

 

The Corporation is registered as a Securities Exchange Act of 1934 reporting company.

 

The following discussion and analysis of the consolidated financial statements of the Corporation is presented to provide insight into management’s assessment of the financial results.

 

 

27

 

Recent Developments

The progression of the COVID-19 pandemic in the United States began to have an adverse impact on our financial condition and results of operations as of and for the three months ended March 31, 2020, and is expected to have a complex and significant adverse impact on the economy, the banking industry and our Corporation in future fiscal periods, all subject to a high degree of uncertainty.

 

Our primary banking market area is Northwestern and Central Ohio.  In Ohio, the Governor recently ordered individuals to stay at home and non-essential businesses to cease all activities, in each case subject to limited exceptions. This order went into effect on March 15, 2020, and is currently effective through May 1, 2020. In response to this order, the Bank has been serving its customers through its drive-up windows at various branch locations and through online and mobile banking. The Bank is also permitting certain visits to its branches on a limited basis and by appointment only.

 

Like most states, Ohio has experienced a dramatic and sudden increase in unemployment levels as a result of the curtailment of business activities, rising from an average of 4.1% in January 2020 to an average of 5.5% in March 2020, according to the U.S. Bureau of Labor Statistics, which expects levels to rise further. To date, many of the public health and economic effects of COVID-19 have been concentrated in the largest U.S. cities, such as New York, but it is possible that similar effects will occur on a more delayed basis in smaller cities and communities, where many our banking operations are focused.

 

Federal, state and local governments and regulatory authorities have enacted and issued a range of policy responses to the COVID-19 pandemic, including the following:

 

The Federal Reserve decreased the range for the Federal Funds Target Rate by 0.50% on March 3, 2020, and by another 1.0% on March 16, 2020, reaching a current range of 0.0 – 0.25%.

 

On March 27, 2020, President Trump signed into law the Coronavirus Aid, Relief and Economic Security Act, or CARES Act, which established a $2.0 trillion economic stimulus package, including cash payments to individuals, supplemental unemployment insurance benefits and a $349 billion loan program administered through the U.S. Small Business Administration (SBA), referred to as the paycheck protection program, or PPP program. Under the PPP program, small businesses, sole proprietorships, independent contractors and self-employed individuals may apply for loans from existing SBA lenders and other approved regulated lenders that enroll in the program, subject to numerous limitations and eligibility criteria. The Bank is participating as a lender in the PPP program. As of this writing, a second round of funding under the PPP has become available and the Bank is working with small business customers to submit applications.  In addition, the CARES Act provides financial institutions the option to temporarily suspend certain requirements under GAAP related to TDRs for a limited period of time to account for the effects of COVID-19.

 

On April 7, 2020, federal banking regulators issued a revised Interagency Statement on Loan Modifications and Reporting for Financial Institutions, which, among other things, encouraged financial institutions to work prudently with borrowers who are or may be unable to meet their contractual payment obligations because of the effects of COVID-19, and stated that institutions generally do not need to categorize COVID-19-related modifications as TDRs and that the agencies will not direct supervised institutions to automatically categorize all COVID-19 related loan modifications as TDRs.

 

On April 9, 2020, the Federal Reserve announced additional measures aimed at supporting small and midsized business, as well as state and local governments impacted by COVID-19. The Federal Reserve announced the Main Street Business Lending Program, which establishes two new loan facilities intended to facilitate lending to small and midsized businesses: (1) the Main Street New Loan Facility, or MSNLF, and (2) the Main Street Expanded Loan Facility, or MSELF. MSNLF loans are unsecured term loans originated on or after April 8, 2020, while MSELF loans are provided as upsized tranches of existing loans originated before April 8, 2020. The combined size of the program will be up to $600 billion. The program is designed for businesses with up to 10,000 employees or $2.5 billion in 2019 revenues. To obtain a loan, borrowers must confirm that they are seeking financial support because of COVID-19 and that they will not use proceeds from the loan to pay off debt. The Federal Reserve also stated that it would provide additional funding to banks offering PPP loans to struggling small businesses. Lenders participating in the PPP will be able to exclude loans financed by the facility from their leverage ratio. In addition, the Federal Reserve created a Municipal Liquidity Facility to support state and local governments with up to $500 billion in lending, with the Treasury Department backing $35 billion for the facility using funds appropriated by the CARES Act. The facility will make short-term financing available to cities with a population of more than one million or counties with a population of greater than two million. The Federal Reserve expanded both the size and scope of its Primary and Secondary Market Corporate Credit Facilities to support up to $750 billion in credit to corporate debt issuers. This will allow companies that were investment grade before the onset of COVID-19 but then subsequently downgraded after March 22, 2020

 

We currently expect that the COVID-19 pandemic and the specific developments referred to above will have a significant impact on our business.  In particular, we anticipate that a significant portion of the Bank’s borrowers in the retail, restaurants, and hospitality industries will continue to endure significant economic distress, which will cause them to draw on their existing lines of credit and could adversely affect their ability and willingness to repay existing indebtedness, and is expected to adversely impact the value of collateral.  These developments, together with economic conditions generally, are also expected to impact our commercial real estate portfolio, particularly with respect to real estate with exposure to these industries, our consumer loan business and loan portfolio, and the value of certain collateral securing our loans. In addition, we expect to see a decrease in mortgage loan originations. As a result, we anticipate that our financial condition, capital levels and results of operations will be significantly adversely affected, as described in further detail below.

 

We have taken numerous steps in response to the COVID-19 pandemic, including the following:

 

We are offering payment deferrals and interest only payment options for consumer, small business, and commercial customers for up to 90 days.  We are offering payment extensions for mortgage customers for up to 90 days.

 

The Business Continuity Planning COVID-19 Response team meets regularly to manage the Corporation’s response to the pandemic and the effect on our business.  In addition, cross functional task force teams meet as needed to address specific issues such as employee and client communications, facilities, and branch services and to discuss the effect on our business.

 

We are participating in the SBA’s Paycheck Protection Program.  As of April 28, 2020, we have secured funding for over 1,100 customers for approximately $106 million and have continued participation as a result of additional funding for the program which was made available April 27, 2020.

 

In response to the outbreak and business disruption, first and foremost, we have prioritized the safety, health and well-being of our employees, customers, and communities. We have implemented a work from home policy, we have restricted lobby access at our branches and we continue to serve clients through our drive-up locations and digital platforms.

 

 

 

 

 

 

28

 

  

RESULTS OF OPERATIONS

 

Overview of the Income Statement

 

For the quarter ended March 31, 2020, the Corporation reported net income of $1,088,000, or $0.33 basic earnings per share. This compares to the first quarter of 2019 net income of $1,814,000, or $0.55 basic earnings per share. The decrease in operating results for the first quarter of 2020 as compared to the same period in 2019 was primarily attributable to increases in the provision for loan losses of $450,000 and non-interest expense of $988,000, offset by increases in net interest income of $189,000, non-interest income of $326,000, and a decrease in the provision for income taxes of $197,000.

 

Net Interest Income

 

Net interest income is the amount by which income from interest-earning assets exceeds interest incurred on interest-bearing liabilities. Interest-earning assets consist principally of loans and investment securities while interest-bearing liabilities include interest-bearing deposit accounts and borrowed funds. Net interest income remains the primary source of revenue for the Corporation. Changes in market interest rates, as well as changes in the mix and volume of interest-bearing assets and interest-bearing liabilities impact net interest income. Net interest income was $7,124,000 for the first quarter of 2020, compared to $6,935,000 for the same period of 2019, an increase of $189,000 (2.7%). 

 

The increase in net interest income for the three months ended March 31, 2020 was attributable to an increase in interest income of $246,000, offset by a $57,000 increase in interest expense. This increase in loan interest was attributable to moderate loan growth from March 2019 to March 2020, which more than offset the slight decline in rates. The average loan balance was $585.2 million for the three months ended March 31, 2020 compared to $571.1 million for the same period of 2019. The yield on average earning assets was 4.66% for three months ended March 31, 2020 compared to 4.91% for the same period of 2019

 

In response to the COVID-19 pandemic, the Federal Reserve decreased the targeted federal funds rate by a total of 150 basis points in March 2020. This decrease impacts the comparability of net interest income between 2019 and 2020. We anticipate that our interest income will be significantly adversely affected in future periods as a result of the COVID-19 pandemic, including the impact  of decreases in the size of our loan portfolio and the effects of lower interest rates.

 

The increase in interest expense for the period was attributable to a $61.7 million increase in interest bearing deposits which more than offset the reduction in deposit rates for the comparable periods.  The cost of funds on average interest bearing liabilities was 1.25% for the three months ended March 31, 2020 compared to 1.37% for the same period of 2019.

 

Net interest margin is calculated by dividing net interest income (adjusted to reflect tax-exempt interest income on a taxable equivalent basis) by average interest-earning assets. The resulting percentage serves as a measurement for the Corporation in comparing its results with those of past periods as well as those of peer institutions. For the three months ended March 31, 2020 the net interest margin (on a taxable equivalent basis) was 3.61% compared with 3.81% for the same period in 2019. Loans and leases comprised 72.6% of interest-earning assets at March 31, 2020 compared to 76.0% of interest-earning assets at March 31, 2020. Interest-bearing deposits comprised 89.4% of average interest-bearing liabilities for the three months ended March 31, 2020, compared to 89.3% for the same period in 2019.

 

As a result of the recent reductions in the target federal funds interest rate, as well as the impact of the COVID-19 pandemic and related future loan charge-offs that we expect to incur, we expect that our net interest income and net interest margin will decrease in future periods. These decreases will be offset to some degree by the processing fees received from PPP financing but we cannot determine at this time what the scope of such losses or offsets might be. The processing fees will be deferred and recognized as an adjustment to interest income over the life of the loans.

 

 

 

 

 

 

29

 

 

Provision for Loan and Lease Losses

 

The Corporation’s provision for loan and lease losses is determined based upon management’s calculation of the allowance for loan and lease losses and is reflective of management’s assessment of the quality of the portfolio and overall management of the inherent credit risk of the loan and lease portfolio. Changes in the provision for loan and lease losses are dependent, among other things, on loan and lease delinquencies, collateral position, portfolio risks and general economic conditions in the Corporation’s lending markets. In assessing the adequacy of the allowance, management considers the size and quality of the loan portfolio measured against prevailing economic conditions, regulatory guidelines, and historical loan loss experience. However, there is no assurance that loan credit losses will not exceed the allowance, and any growth in the loan portfolio and the uncertainty of the general economy may require additional provisions in future periods.

 

A $550,000 provision for loan and lease losses was recognized during the three month period ended March 31, 2020 compared to a $100,000 provision during the three month period ended March 31, 2019 due to the economic uncertainty related to COVID-19. 

 

We are preparing for the possibility that the provision for loan losses will increase in future periods based on our belief that the credit quality of our loan portfolio will decline and loan defaults will increase as a result of economic conditions created by the COVID-19 pandemic. See “Allowance for Loan and Lease Losses” under Financial Condition for further discussion relating to the provision for loan and lease losses.

 

 

Non-Interest Income

 

The Corporation’s non-interest income is largely generated from activities related to the origination, servicing and gain on sales of fixed rate mortgage loans; customer deposit account fees; earnings on life insurance policies; income arising from sales of investment products to customers; and occasional security sale transactions. Income related to customer deposit accounts and life insurance policies provides a relatively steady flow of income while the other sources are more volume or transaction related and consequently can vary from quarter to quarter.

 

For the quarter ended March 31, 2020, non-interest income was $2,834,000, compared to $2,508,000 for the first quarter of 2019, a $326,000 (13.0%) increase, which was attributable to increases in gain on sales of loans of $1,145,000 (79.6%), offset by decreases in other non-interest income of $819,000 (76.5%). 

 

The significant increase in gain on sale of loans was attributable to increased loan origination and sales activities within the residential mortgage and governmental lending operations.  Loan sales for the first quarter of 2020 approximated $63.1 million compared to $41.0 million for the first quarter of 2019, resulting in gains on sale of loans of $2,583,000 for the quarter ended March 31, 2020, compared to $1,438,000 for the first quarter of 2019

 

The decrease in other non-interest income resulted from a $799,000 decrease in mortgage banking hedging income and a $132,000 decrease in the fair value of mortgage servicing rights, offset by increases in other non-interest income. The decrease in mortgage banking hedging activity resulted from a decrease in rates in the Bank’s hedged portfolio due to market volatility. The Company recognized a $670,000 loss in hedging for the first three months of 2020 compared to a $129,000 gain in the comparable period of 2019.

We anticipate that our non-interest income may be adversely affected in future periods as a result of the COVID-19 pandemic.  Increased unemployment and recessionary concerns may adversely affect mortgage originations and mortgage banking revenue in future periods.

 

Non-Interest Expenses

 

For the quarter ended March 31, 2020, non-interest expenses were $8,210,000, compared to $7,222,000 for the first quarter of 2019, a $988,000 (13.7%) increase.  The significant quarter-over-quarter increases included salaries and benefits expense of $651,000 (15.6%), expenses related to premises and equipment of $56,000, loan fees of $95,000 (43.2%), and advertising expense of $68,000 (15.2%). The increase in salaries and benefits expense included the impact of normal inflationary wage increases coupled with a 3.9% increase in full-time equivalent employees.

 

Maintaining acceptable levels of non-interest expenses and operating efficiency are key performance indicators for the Corporation in its strategic initiatives. The financial services industry uses the efficiency ratio (total non-interest expense as a percentage of the aggregate of fully-tax equivalent net interest income and non-interest income) as a key indicator of performance. For the quarter ended March 31, 2020, the Corporation’s efficiency ratio was 81.14%, compared to 74.76% for the same period of 2019

 

Provision for Income Taxes

 

The provision for income taxes for the quarter ended March 31, 2020 was $110,000 (effective rate of 9.2%), compared to $307,000 (effective rate of 14.5%) for the comparable 2019 period. The decrease in the effective tax rate was largely due to tax-exempt securities interest comprising 41.6% of pre-tax income for the three-month period ended March 31, 2020 compared to 19.5% for the comparable period in 2019.


 

 

 

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FINANCIAL CONDITION

 

Overview of Balance Sheet

 

Total assets amounted to $902.5 million at March 31, 2020, compared to $880.0 million at December 31, 2019, an increase of $22.5 million (2.5%). The increase in total assets was primarily the result of increases of $18.4 million in cash and cash equivalents due to deposit growth, $4.3 million (28.2%) in loans held for sale, and $4.1 million (2.2%) in securities available-for-sale, offset by a $3.0 million decrease in net loans, and a $1.5 million (14.8%) decrease in other assets (including accrued interest receivable). Deposits during this same period increased $18.0 million (2.5%).

 

Shareholders’ equity increased from $94.8 million at December 31, 2019 to $98.5 million at March 31, 2020. This increase was primarily the result of net income during the quarter ended March 31, 2020 of $1,088,000 and an increase in unrealized securities gains, net of tax of $2,949,000, offset by dividends paid of $458,000. The increase in unrealized securities gains during the quarter ended March 31, 2020, was the expected result of the recent Federal Reserve lowering the federal funds rate by 150 basis points, as well as other economic reactions to the COVID-19 pandemic.  Net unrealized gains and losses on securities are reported as accumulated other comprehensive income (loss) in the consolidated balance sheets.

  

Cash and Cash Equivalents

 

Cash and cash equivalents totaled $44.8 million at March 31, 2020 and $26.4 million at December 31, 2019, including interest-bearing deposits in other banks of $33.3 million at March 31, 2020 and $17.2 million at December 31, 2019. Management believes the current level of cash and cash equivalents is sufficient to meet the Corporation’s present liquidity and performance needs especially considering the availability of other funding sources, as described below. Total cash and cash equivalents fluctuate on a daily basis due to transactions in process and corresponding liquidity sources and uses. Management believes the Corporation’s liquidity needs in the near term will be satisfied by the current level of cash and cash equivalents, readily available access to traditional and non-traditional funding sources, and the portions of the investment and loan portfolios that will mature within one year. These sources of funds should enable the Corporation to meet cash obligations and off-balance sheet commitments as they come due. In addition, the Corporation has access to various sources of additional borrowings by virtue of long-term assets that can be used as collateral for such borrowings.

 

Securities

 

Management monitors the earnings performance and liquidity of the securities portfolio on a regular basis through Asset/Liability Committee (ALCO) meetings. As a result, all securities, except FHLB stock, have been designated as available-for-sale and may be sold if needed for liquidity, asset-liability management or other reasons. Such securities are reported at fair value, with any net unrealized gains or losses reported as a separate component of shareholders’ equity, net of related incomes taxes.

 

The amortized cost and fair value of available-for-sale securities as of March 31, 2020 totaled $180.3 million and $187.7 million, respectively, resulting in net unrealized gain before tax of $7.4 million and a corresponding after-tax increase in shareholders’ equity of $5.9 million.

 

Loans and Leases

 

The Corporation’s primary lending areas are Northwestern, West Central, and Central Ohio. Gross loans and leases totaled $574.0 million at March 31, 2020, compared to $576.4 million at December 31, 2019, a decrease of $2.4 million (0.4%). As compared to December 31, 2019, commercial and multi-family real estate loans increased $5.7 million.  All other loan categories experienced decreases aggregating $8.1 million with the largest decrease of $4.3 million coming from the commercial loan portfolio.

 

There are also unrecognized financial instruments at March 31, 2020 and December 31, 2019 which relate to commitments to extend credit and letters of credit. The contract amount of such financial instruments approximated $141.0 million at March 31, 2020 and $133.2 million at December 31, 2019.

 

It's likely that loan demand will decline for the remainder of the 2020 fiscal year and into 2021 as a result of COVID-19 and the related decline in economic conditions in our market areas, leading to reductions in the growth of for our commercial and industrial loan, commercial real estate loan, residential real estate loan and consumer loan portfolios.  We are also anticipating that we could see increased line of credit utilization and a reduction in our unused commitments.

 

 

 

 

 

 

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Allowance for Loan and Lease Losses

 

The following table presents a summary of activity in the allowance for loan and lease losses for the three month periods ended March 31, 2020 and 2019:

 

   

(in thousands)

 
   

Three months ended March 31,

 
   

2020

   

2019

 

Balance, beginning of period

  $ 4,131     $ 3,527  

Provision for loan and lease losses

    550       100  

Charge offs

    (9 )     (28 )

Recoveries

    15       45  

Net recoveries

    6       17  

Balance, end of period

  $ 4,687     $ 3,644  

 

The allowance for loan and lease losses as a percentage of gross loans and leases was 0.82% at March 31, 2020, 0.72% at December 31, 2019, and 0.63% at March 31, 2019. Based on current economic indicators, the Corporation increased the economic factors within the allowance for loan losses evaluation. We expect that the allowance for loan losses as a percent of total loans may increase in future periods based on our belief that the credit quality of our loan portfolio may decline, and loan defaults may increase as a result of COVID-19.

 

Regular provisions are made in amounts sufficient to maintain the balance in the allowance for loan and lease losses at a level considered by management to be adequate for losses within the portfolio. Even though management uses all available information to assess possible loan and lease losses, future additions or reductions to the allowance may be required as changes occur in economic conditions and specific borrower circumstances. The regulatory agencies that periodically review the Corporation’s allowance for loan and lease losses may also require additions to the allowance or the charge-off of specific loans and leases based upon the information available to them at the time of their examinations.

 

Loans and leases on non-accrual status amounted to $1.8 million and $1.0 million at March 31, 2020 and December 31, 2019, respectively. Non-accrual loans and leases as a percentage of outstanding loans amounted to 0.31% at March 31, 2020 and 0.17% at December 31, 2019.

 

The Corporation considers a loan or lease to be impaired when it becomes probable that the Corporation will be unable to collect under the contractual terms of the loan or lease, as the case may be, based on current information and events. The Corporation had impaired loans totaling $2.1 million with $400,000 of specific reserves at March 31, 2020 and impaired loans of $1.9 million with $435,000 of specific reserves as of December 31, 2019.  The Corporation had $788,000 and $848,000, respectively, of impaired loans without specific reserves at March 31, 2020 and December 31, 2019.

 

The Corporation had other potential problem credits, consisting of loans graded substandard or special mention, as well as loans over 90 days past due, loans on non-accrual, and TDR loans, amounting to of $5.3 million at March 31, 2020 and $4.9 million at December 31, 2019. The Corporation’s credit administration department continues to closely monitor these credits.

 

The Corporation provides pooled reserves for potential problem loans and leases using loss rates calculated considering historic net loan charge-off experience, as well as other environmental and qualitative factors. The Corporation experienced $9,000 of loan charge-offs during the first three months of 2020 compared to $28,000 during the first three months of 2019 with the charge-offs coming from the commercial and consumer loan portfolios. The Corporation also provides general reserves for the remaining portion of its loan portfolio not considered to be problem or potential problem loans. These general reserves are also calculated considering, among other things, the historic net charge-off experience for the relative loan type.

 

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Funding Sources

 

The Corporation considers a number of alternatives, including but not limited to, deposits, as well as short-term and long-term borrowings when evaluating funding sources. Deposits, including customer deposits, brokered certificates of deposit, and public funds deposits continue to be the most significant source of funds for the Corporation, totaling $725.1 million, or 90.2% of the Corporation’s outstanding funding sources at March 31, 2020.

 

Non-interest bearing deposits remain a smaller portion of the funding source for the Corporation than for most of its peers. Non-interest bearing deposits comprised 16.6% of total deposits at March 31, 2020, compared to 16.5% at December 31, 2019. We expect that deposit levels will generally decrease in future periods as a result of the distressed economic conditions in our market areas relating to the COVID-19 pandemic.

 

In addition to traditional deposits, the Corporation maintains both short-term and long-term borrowing arrangements. Other borrowings consisted of FHLB borrowings totaling $50.0 million at March 31, 2020 and December 31, 2019, as well as $8,500,000 and $8,750,000 of term borrowings from the United Bankers’ Bank (UBB) at March 31, 2020 and December 31, 2019, respectively. The Corporation also has outstanding junior subordinated deferrable interest debentures of $12,916,000 and $12,908,000 at March 31, 2020 and December 31, 2019, respectively. Management plans to maintain access to various borrowing alternatives as an appropriate funding source.

 

Regulatory Capital

 

The Corporation and Bank met all regulatory capital requirements as of March 31, 2020, and the Bank is considered “well capitalized” under regulatory and industry standards of risk-based capital.

 

Cash Flow from Operations

 

As part of the Bank's hedging program, loans held for sale are now accumulated into larger blocks before being sold.  Depending on the timing of the sales of these blocks, there could be a positive or negative impact to net income and cash flow from operations.  As of March 31, 2020, loans held for sale amounted to $19,613,000 compared to $15,301,000 as of December 31, 2019 resulting in a negative impact to cash flow from operations for the three month period ended March 31, 2020 of $4,312,000.  Similarly, there was a negative impact on cash flow from operations for the three month period ended March 31, 2019 of $2,760,000 from the increase in loans held for sale. Excluding these changes in loans held for sale, cash flow from operations for the three months ended March 31, 2020 and 2019 would have been a positive $2,838,000 and $942,000, respectively.

 

Liquidity and Interest Rate Sensitivity

 

The objective of the Corporation’s asset/liability management function is to maintain consistent growth in net interest income through management of the Corporation’s balance sheet liquidity and interest rate exposure based on changes in economic conditions, interest rate levels, and customer preferences.

 

The Corporation manages interest rate risk to minimize the impact of fluctuating interest rates on earnings. The Corporation uses simulation techniques that attempt to measure the volatility of changes in the level of interest rates, basic banking interest rate spreads, the shape of the yield curve, and the impact of changing product growth patterns. The primary method of measuring the sensitivity of earnings of changing market interest rates is to simulate expected cash flows using varying assumed interest rates while also adjusting the timing and magnitude of non-contractual deposit re-pricing to more accurately reflect anticipated pricing behavior. These simulations include adjustments for the lag in prime loan re-pricing and the spread and volume elasticity of interest-bearing deposit accounts, regular savings and money market deposit accounts.

 

The principal function of interest rate risk management is to maintain an appropriate relationship between those assets and liabilities that are sensitive to changing market interest rates. The Corporation closely monitors the sensitivity of its assets and liabilities on an ongoing basis and projects the effect of various interest rate changes on its net interest margin. Interest sensitive assets and liabilities are defined as those assets or liabilities that mature or re-price within a designated time frame.

 

Management believes the Corporation’s current mix of assets and liabilities provides a reasonable level of risk related to significant fluctuations in net interest income and the resulting volatility of the Corporation’s earning base. The Corporation’s management reviews interest rate risk in relation to its effect on net interest income, net interest margin, and the volatility of the earnings base of the Corporation.

  

Effects of Inflation on Financial Statements

 

All of the Corporation’s assets relate to commercial banking operations and are generally monetary in nature. Therefore, they are not impacted by inflation to the same degree as companies in capital-intensive industries in a replacement cost environment. During a period of rising prices, a net monetary asset position results in loss of purchasing power and conversely a net monetary liability position results in an increase in purchasing power. In the commercial banking industry, monetary assets typically exceed monetary liabilities. The Corporation has not experienced a significant level of inflation or deflation during the three month period ended March 31, 2020. However, because of the depressed national real estate market and sluggish local economy, the Corporation has experienced declines in the value of collateral securing commercial and non-commercial real estate loans. Management continues to closely monitor these trends in calculating the Corporation’s allowance for loan and lease losses.

 

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ITEM 3 - QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

 

There have been no material changes in the quantitative and qualitative information about market risk from the information provided in the Corporation’s Annual Report on Form 10-K for the fiscal year ended December 31, 2019.

 

 

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ITEM 4 -  CONTROLS AND PROCEDURES

 

Evaluation of Controls and Procedures.

 

With the participation of our management, including our chief executive officer and chief financial officer, we have evaluated the effectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934, as amended (the "Exchange Act")); as of the end of the period covered by this Quarterly Report on Form 10-Q.

 

Based on that evaluation, the Corporation's management, including the Chief Executive Officer and Chief Financial Officer, concluded that the Corporation's disclosure controls and procedures were effective as of March 31, 2020.

 

Changes in Internal Control over Financial Reporting.

There were no significant changes during the period covered by this Quarterly Report on Form 10-Q in our internal control over financial reporting (as defined in Rules 13a-15(f) under the Exchange Act) 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.

 

There are no pending legal proceedings to which the Corporation or its subsidiaries are a party or to which any of their property is subject except routine legal proceedings to which the Corporation or its subsidiaries are a party incident to the banking business. None of such proceedings are considered by the Corporation to be material.

 

Item 1A: Risk Factors

 

 

In addition to the risk factors set forth under Part I, Item 1A “Risk Factors” in the Company’s Form 10-K for the fiscal year ended December 31, 2019, the following risk factor applies to the Corporation

 

 

The outbreak of Coronavirus Disease 2019 (“COVID-19”), or an outbreak of other highly infectious or contagious diseases, could adversely impact certain industries in which the Corporation’s customers operate and impair their ability to fulfill their obligations to the Corporation. Further, the spread of the outbreak could lead to an economic recession or other severe disruptions in the U.S. economy and may disrupt banking and other financial activity in the areas in which the Corporation operates and could potentially create widespread business continuity issues for the Corporation.

 

COVID-19 has caused severe disruptions in the U.S. economy at large, and for small businesses in particular, which has disrupted the Corporation’s operations. We are starting to see the impact from COVID-19 on our business, and we believe that it will be significant, adverse and potentially material. Currently, COVID-19 is spreading throughout the United States. The resulting concerns on the part of the U.S. have created a risk of a recession, reduced economic activity and caused a significant correction in the U.S. stock markets. We expect that we will experience significant disruption across our business due to these effects, leading to decreased earnings and significant slowdowns in our loan collections or loan defaults.  Increased unemployment and recessionary concerns will adversely affect mortgage originations and mortgage banking revenue in future periods.

 

COVID-19 may impact the financial ability of businesses and consumers to borrow money, which would negatively impact loan volumes. In addition, certain of our borrowers are in or have exposure to the retail, restaurants, and hospitality industries and/or are located in areas that are quarantined or under stay-at-home orders, and COVID-19 may also have an adverse effect on our commercial real estate and consumer loan portfolios. A prolonged quarantine or stay-at-home order would have a negative adverse impact on these borrowers and their revenue streams, which consequently impacts their ability to meet their financial obligations and could result in loan defaults. 

 

The Corporation relies upon its third-party vendors to conduct business and to process, record, and monitor transactions. If any of these vendors are unable to continue to provide the Corporation with these services, it could negatively impact the Corporation’s ability to serve its customers. Furthermore, the outbreak could negatively impact the ability of the Corporation’s employees and customers to engage in banking and other financial transactions in the geographic area in which the Corporation operates and could create widespread business continuity issues for the Corporation. The Corporation also could be adversely affected if key personnel or a significant number of employees were to become unavailable due to the effects and restrictions of a COVID-19 outbreak in our market area. Although the Corporation has business continuity plans and other safeguards in place, there is no assurance that such plans and safeguards will be effective.

 

We believe that the economic impact from COVID-19 will be severe and could have a material and adverse impact on our business and that it could result in significant losses in our loan portfolio, all of which would adversely and materially impact our earnings and capital.

 

 

Item 2: Unregistered Sales of Equity Securities and Use of Proceeds.

 

The Corporation has not sold any of its securities which were not registered under the Securities Act during the period covered by this report. The table below includes certain information regarding the Corporation’s purchase of United Bancshares, Inc. common stock during the quarterly period ended March 31, 2020:

 

Period

 

Total number of shares purchased

   

Weighted Average price paid per share

   

Total number of shares purchased as part of a publicly announced plan or program (a)

   

Maximum number of shares that may yet be purchased under the plan or program (a)