UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

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FORM 10-Q

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

 

For the quarterly period ended March 31, 2020

 

OR

 

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

 

For the transition period from ______ to ______

 

Commission file number 000-29599

 

 PATRIOT NATIONAL BANCORP, INC.

 

(Exact name of registrant as specified in its charter)

 

Connecticut		06-1559137
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)
900 Bedford Street, Stamford, Connecticut		06901
(Address of principal executive offices)		(Zip Code)

(203) 324-7500

(Registrant’s telephone number, including area code)

 

 

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, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act

 

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

 

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

 

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

 

APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY

 PROCEEDINGS DURING THE PRECEDING FIVE YEARS: 

 

Indicate by check mark whether the registrant has filed all documents and reports to be filed by Section 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court.    Yes   ☐    No   ☐ 

 

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

 

Title of each class		Trading Symbol(s)		Name of each exchange on which registered
Common Stock		PNBK		NASDAQ Global Market

 

APPLICABLE ONLY TO CORPORATE ISSUERS:

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

 

As of June 1, 2020, there were 3,935,141 shares of the registrant’s common stock outstanding.

 

 

 

(In thousands, except share data)		March 31, 2020				December 31, 2019
Assets
Cash and due from banks:
Noninterest bearing deposits and cash		$	1,806			$	2,693
Interest bearing deposits			50,350				36,711
Total cash and cash equivalents			52,156				39,404
Investment securities:
Available-for-sale securities, at fair value			44,830				48,317
Other investments, at cost			4,450				4,450
Total investment securities			49,280				52,767
Federal Reserve Bank stock, at cost			2,897				2,897
Federal Home Loan Bank stock, at cost			4,477				4,477
Loans receivable (net of allowance for loan losses: 2020: $10,916 and 2019: $10,115)			807,925				802,049
SBA loans held for sale			17,996				15,282
Accrued interest and dividends receivable			3,801				3,603
Premises and equipment, net			34,312				34,568
Other real estate owned			2,400				2,400
Deferred tax asset, net			11,989				11,133
Goodwill			1,107				1,107
Core deposit intangible, net			605				623
Other assets			10,634				9,526
Total assets		$	999,579			$	979,836
Liabilities
Deposits:
Noninterest bearing deposits		$	83,583			$	88,135
Interest bearing deposits			719,631				681,400
Total deposits			803,214				769,535
Federal Home Loan Bank and correspondent bank borrowings			90,000				100,000
Senior notes, net			11,871				11,853
Subordinated debt, net			9,760				9,752
Junior subordinated debt owed to unconsolidated trust, net			8,104				8,102
Note payable			1,143				1,193
Advances from borrowers for taxes and insurance			2,637				3,681
Accrued expenses and other liabilities			8,227				8,726
Total liabilities			934,956				912,842
Commitments and Contingencies
Shareholders' equity
Preferred stock, no par value; 1,000,000 shares authorized, no shares issued and outstanding			-				-
Common stock, $.01 par value, 100,000,000 shares authorized; As of March 31, 2020: 4,006,582 shares issued; 3,932,841 shares outstanding; As of December 31, 2019: 4,004,410 shares issued; 3,930,669 shares outstanding			106,213				106,170
Accumulated deficit			(39,845	)			(38,773	)
Accumulated other comprehensive loss			(1,745	)			(403	)
Total shareholders' equity			64,623				66,994
Total liabilities and shareholders' equity		$	999,579			$	979,836

 

		Three Months Ended March 31,
(In thousands, except per share amounts)		2020				2019
Interest and Dividend Income
Interest and fees on loans		$	10,033			$	9,755
Interest on investment securities			416				379
Dividends on investment securities			138				118
Other interest income			135				333
Total interest and dividend income			10,722				10,585
Interest Expense
Interest on deposits			3,200				3,264
Interest on Federal Home Loan Bank borrowings			697				439
Interest on senior debt			229				229
Interest on subordinated debt			268				289
Interest on note payable and other			5				6
Total interest expense			4,399				4,227
Net interest income			6,323				6,358
Provision for Loan Losses			804				165
Net interest income after provision for loan losses			5,519				6,193
Non-interest Income
Loan application, inspection and processing fees			53				14
Deposit fees and service charges			114				127
Gains on sales of loans			12				380
Rental income			131				130
Other income			111				95
Total non-interest income			421				746
Non-interest Expense
Salaries and benefits			3,861				3,184
Occupancy and equipment expense			949				917
Data processing expense			390				370
Professional and other outside services			784				709
Project expenses			94				80
Advertising and promotional expense			147				115
Loan administration and processing expense			24				14
Regulatory assessments			440				315
Insurance expense, net			70				41
Communications, stationary and supplies			120				134
Other operating expense			492				569
Total non-interest expense			7,371				6,448
(Loss) income before income taxes			(1,431	)			491
(Benefit) provision for Income Taxes			(359	)			168
Net (loss) income		$	(1,072	)		$	323
Basic (loss) earnings per share		$	(0.27	)		$	0.08
Diluted (loss) earnings per share		$	(0.27	)		$	0.08

 

(In thousands)		Three Months Ended March 31,
		2020				2019
Net (loss) income		$	(1,072	)		$	323
Other comprehensive (loss) income
Unrealized holding loss on securities			(1,808	)			(15	)
Income tax effect			466				3
Total other comprehensive loss			(1,342	)			(12	)
Comprehensive (loss) income		$	(2,414	)		$	311

 

		Three-Month Period Ended March 31, 2020
(In thousands, except shares)		Number of Shares				Common Stock				Accumulated Deficit				Accumulated Other Comprehensive (Loss) Income				Total
Balance at December 31, 2019			3,930,669			$	106,170			$	(38,773	)		$	(403	)		$	66,994
Comprehensive loss:
Net loss			-				-				(1,072	)			-				(1,072	)
Unrealized holding loss on available-for-sale securities, net of tax			-				-				-				(1,342	)			(1,342	)
Total comprehensive loss			-				-				(1,072	)			(1,342	)			(2,414	)
Share-based compensation expense			-				43				-				-				43
Vesting of restricted stock			2,172				-				-				-				-
Balance at March 31, 2020			3,932,841			$	106,213			$	(39,845	)		$	(1,745	)		$	64,623
Balance at December 31, 2018			3,910,674			$	105,956			$	(35,790	)		$	(826	)		$	69,340
Comprehensive income:
Net income			-				-				323				-				323
Unrealized holding loss on available-for-sale securities, net of tax			-				-				-				(12	)			(12	)
Total comprehensive income			-				-				323				(12	)			311
Common stock dividends			-				-				(39	)			-				(39	)
Share-based compensation expense			-				48				-				-				48
Vesting of restricted stock			8,936				-				-				-				-
Cumulative effect of adopting ASU 2016-02			-				-				(11	)			-				(11	)
Balance at March 31, 2019			3,919,610			$	106,004			$	(35,517	)		$	(838	)		$	69,649

 

(In thousands)		Three Months Ended March 31,
		2020				2019
Cash Flows from Operating Activities:
Net (loss) income		$	(1,072	)		$	323
Adjustments to reconcile net (loss) income to net cash (used in) provided by operating activities:
Amortization (accretion) of investment premiums, net			44				(11	)
Amortization and accretion of purchase loan premiums and discounts			190				174
Amortization of debt issuance costs			28				28
Amortization of core deposit intangible			18				18
Amortization of servicing assets of sold SBA loans			204				4
Provision for loan losses			804				165
Depreciation and amortization			392				389
Share-based compensation			43				48
(Increase) decrease in deferred income taxes			(390	)			497
Originations of SBA loans held for sale			(2,566	)			(4,908	)
Proceeds from sale of SBA loans held for sale			144				5,288
Gains on sale of SBA loans held for sale, net			(12	)			(380	)
Changes in assets and liabilities:
(Increase) decrease in accrued interest and dividends receivable			(198	)			145
Increase in other assets			(763	)			(866	)
Decrease in accrued expenses and other liabilities			(1,179	)			(479	)
Net cash (used in) provided by operating activities			(4,313	)			435
Cash Flows from Investing Activities:
Principal repayments on available-for-sale securities			1,635				613
Purchases of available-for-sale securities			-				(1,396	)
Purchases of Federal Reserve Bank stock			-				(26	)
Redemptions of Federal Home Loan Bank stock			-				415
Decrease (increase) in originated loans receivable, net			11,873				(3,481	)
Purchases of loans receivable			(19,025	)			(4,804	)
Purchases of premises and equipment			(3	)			(9	)
Net cash used in investing activities			(5,520	)			(8,688	)
Cash Flows from Financing Activities:
Increase in deposits, net			33,679				9,540
Repayments of FHLB borrowings			(10,000	)			(10,000	)
Principal repayments of note payable			(50	)			(49	)
Decrease in advances from borrowers for taxes and insurance			(1,044	)			(1,004	)
Dividends paid on common stock			-				(39	)
Net cash provided by (used in) financing activities			22,585				(1,552	)
Net increase (decrease) in cash and cash equivalents			12,752				(9,805	)
Cash and cash equivalents at beginning of period			39,404				66,437
Cash and cash equivalents at end of period		$	52,156			$	56,632

(In thousands)		Three Months Ended March 31,
		2020				2019
Supplemental Disclosures of Cash Flow Information:
Cash paid for interest		$	4,781			$	3,950
Cash paid for income taxes		$	3			$	18
Non-cash transactions:
Purchase of premises and equipment		$	133			$	280
Increase in accrued expense and other liabilities		$	(133	)		$	(280	)
Increase in interest rate swaps assets		$	601			$	-
Increase in interest rate swaps liabilities		$	(601	)		$	-
Transfers of SBA loans held for sale to loans receivable		$	280			$	-
Operating lease right-of-use assets		$	(57	)		$	3,397
Operating lease liabilities		$	57			$	(3,444	)
Capitalized servicing assets		$	2			$	66
Business Combination Non-Cash Disclosures:
Contingent liability assumed in business combination		$	-			$	621

 

Note 1.     Basis of Financial Statement Presentation

 

The accompanying unaudited condensed consolidated financial statements of Patriot National Bancorp, Inc. (the “Company”) and its wholly-owned subsidiaries Patriot Bank, N.A. (the “Bank”), Patriot National Statutory Trust I and PinPat Acquisition Corporation (collectively, “Patriot”), have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”). Accordingly, certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America (“US GAAP”) have been omitted. The accompanying unaudited interim condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto included on the Annual Report on Form 10-K for the year ended December 31, 2019.

 

The consolidated balance sheet at December 31, 2019 presented herein has been derived from the audited consolidated financial statements of the Company at that date, but does not include all of the information and footnotes required by US GAAP for complete financial statements.

 

The preparation of consolidated financial statements in accordance with US GAAP requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses, and to disclose contingent assets and liabilities. Actual results could differ from those estimates. Management has identified accounting for the allowance for loan and lease losses, the analysis and valuation of its investment securities, the valuation of deferred tax assets, the impairment of goodwill, the valuation of derivatives, and the valuation of servicing assets as certain of the Company’s more significant accounting policies and estimates, in that they are critical to the presentation of the Company’s consolidated financial condition and results of operations. As they concern matters that are inherently uncertain, these estimates require management to make subjective and complex judgments in the preparation of the Company’s consolidated financial statements.

 

Reclassifications:

 

Certain amounts appearing in the financial statements and notes thereto for prior periods have been reclassified to conform with the current presentation. The reclassifications had no effect on net income or stockholders’ equity as previously reported.

 

The information furnished reflects, in the opinion of management, all normal recurring adjustments necessary for a fair presentation of the results for the interim periods presented. The results of operations for the three months ended March 31, 2020 are not necessarily indicative of the results of operations that may be expected for the remainder of 2020.

 

COVID-19 Impact

 

In March 2020, the World Health Organization declared novel coronavirus disease 2019 ("COVID-19") as a global pandemic. The COVID-19 pandemic has negatively impacted the global and U.S. economies. Many businesses in the U.S., including those in the markets we serve, were required to close, causing a significant increase in unemployment and loss of revenue for businesses that were required to close.

 

The consolidated financial statements reflect estimates and assumptions that affect the reported amounts of assets and liabilities, including the amount of the allowance for loan losses. The assumptions and estimates used in the financial statements were impacted by the COVID-19 pandemic. The COVID-19 pandemic did have an adverse impact on our earnings and resulted in an increase to the provision for loan losses when compared to the same period in 2019.

 

We are unable to estimate the full impact of COVID-19 on our business and operations at this time. The extent of such impact will depend on future developments, which are highly uncertain, including when COVID-19 can be controlled and abated and when and how the economy may be reopened. The pandemic could cause us to experience higher credit losses in our loan portfolio, impairment of our goodwill, reduced demand for our products and services, or other negative impacts on our financial position, results of operations, and prospects.

 

On March 27, 2020, the President of the United States signed into law the Coronavirus Aid, Relief and Economic Security (“CARES”) Act in response to the coronavirus pandemic. This legislation aims at providing relief for individuals and businesses that have been negatively impacted by the coronavirus pandemic.

 

 

PATRIOT NATIONAL BANCORP, INC. AND SUBSIDIARIES
Notes to consolidated financial statements (Unaudited)

 

The CARES Act includes a provision for the Company to opt out of applying the “troubled-debt restructuring” (“TDR”) accounting guidance in ASC 310-40 for certain loan modifications. Loan modifications made between March 1, 2020 and the earlier of i) December 30, 2020 or ii) 60 days after the President declares a termination of the COVID-19 national emergency are eligible for this relief if the related loans were not more than 30 days past due as of December 31, 2019. The Company has assessed which loans qualify for this treatment. The CARES Act also permits the Bank to continue accrue interest on loans that have received deferral treatment as a result of the pandemic. In addition, on April 7, 2020, a group of banking regulatory agencies issued a revised interagency statement that offers practical expedients for evaluating whether COVID-19 loan modifications are TDRs.

 

Note 2.      Accounting Policies

 

Please refer to the summary of Significant Accounting Policies included in the Company’s 2019 Annual Report on Form 10-K for a list of all policies in effect as of December 31, 2019. The below summary is intended to provide updates or new policies required as a result of a new accounting standard or a change to the Company’s operations or assets that require a new or amended policy.

 

Recently Adopted and Issued Accounting Standards

 

Accounting Standards Adopted During 2020

 

Effective January 1, 2020, the following new Accounting Standards Updates (ASU) were adopted by the Company:

 

ASU 2018-13

 

In August 2018, the FASB issued ASU No. 2018-13, Fair Value Measurement (Topic 820) - Changes to the Disclosure Requirements for Fair Value Measurement, to modify the disclosure requirements on fair value measurements. This ASU removes requirements to disclose the amount of and reasons for transfers between Level 1 and Level 2 of the fair value hierarchy, the policy for timing of transfers between levels and the valuation processes for Level 3 fair value measurements. ASU 2018-13 clarifies that disclosure regarding measurement uncertainty is intended to communicate information about the uncertainty in measurement as of the reporting date. ASU 2018-13 adds certain disclosure requirements, including disclosure of changes in unrealized gains and losses for the period included in other comprehensive income for recurring Level 3 fair value measurements held at the end of the reporting period and the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements. The amendments in this update are effective for annual periods and interim periods within those annual periods beginning after December 15, 2019. The amendments related to changes in unrealized gains and losses, the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements and the narrative description of measurement uncertainty should be applied prospectively, while all other amendments should be applied retrospectively for all periods presented upon their effective date. The adoption of ASU 2018-13 did not have any impact on our Consolidated Financial Statements.

 

ASU 2018-15

 

In August 2018, the FASB issued ASU No. 2018-15, Intangibles - Goodwill and Other - Internal-Use Software (Subtopic 350-40) - Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract. ASU 2018-15 clarifies certain aspects of ASU 2015-05, “Customer’s Accounting for Fees Paid in a Cloud Computing Arrangement,” which was issued in April 2015. Specifically, ASU 2018-15 aligns the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software (and hosting arrangements that include an internal-use software license). For public business entities, the ASU was effective for interim and annual reporting periods beginning after December 15, 2019, with early adoption permitted.

 

The amendments in this update align the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software (and hosting arrangements that include an internal use software license). The accounting for the service element of a hosting arrangement that is a service contract is not affected by the amendments in this update.

 

 

PATRIOT NATIONAL BANCORP, INC. AND SUBSIDIARIES
Notes to consolidated financial statements (Unaudited)

 

The amendments in this ASU also require the entity (customer) to expense the capitalized implementation costs of a hosting arrangement that is a service contract over the term of the hosting arrangement. The term of the hosting arrangement includes the non-cancellable period of the arrangement plus periods covered by (1) an option to extend the arrangement if the customer is reasonably certain to exercise that option, (2) an option to terminate the arrangement if the customer is reasonably certain not to exercise the termination option, and (3) an option to extend (or not to terminate) the arrangement in which exercise of the option is in the control of the vendor. The entity also is required to apply the existing impairment guidance in Subtopic 350-40 to the capitalized implementation costs as if the costs were long-lived assets.

 

The amendments in this ASU also require the entity to present the expense related to the capitalized implementation costs in the same line item in the statement of income as the fees associated with the hosting element (service) of the arrangement and classify payments for capitalized implementation costs in the statement of cash flows in the same manner as payments made for fees associated with the hosting element. The entity is also required to present the capitalized implementation costs in the consolidated balance sheets in the same line item that a repayment for the fees of the associated hosting arrangement would be presented.

 

The adoption of ASU 2018-15 did not have a significant impact on our Consolidated Financial Statements.

 

Accounting Standards Issued But Not Yet Adopted

 

ASU 2016-13 

 

In June 2016, the FASB issued ASU 2016-13, Financial Instruments-Credit Losses: Measurement of Credit Losses on Financial Instruments. The ASU changes the methodology for measuring credit losses on financial instruments measured at amortized cost to a current expected loss (“CECL”) model. Under the CECL model, entities will estimate credit losses over the entire contractual term of a financial instrument from the date of initial recognition of the instrument. The ASU also changes the existing impairment model for available-for-sale debt securities. In cases where there is neither the intent nor a more-likely-than-not requirement to sell the debt security, an entity will record credit losses as an allowance rather than a direct write-down of the amortized cost basis. Additionally, ASU 2016-13 notes that credit losses related to available-for-sale debt securities and purchased credit impaired loans should be recorded through an allowance for credit losses. ASU 2016-13 is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years, with early adoption permitted for fiscal years beginning after December 15, 2018. In November 2019, the FASB issued ASU 2019-10, which amends the effective date of ASC 326 for smaller reporting companies, as defined by the SEC, and other non-SEC reporting entities, and delays the effective date to fiscal years beginning after December 31, 2022, including interim periods within those fiscal periods. As the Company is a small reporting company, the delay will be applicable to the Company. Management is currently evaluating the impact that the standard will have on its Consolidated Financial Statements.

 

ASU 2019-12

 

ASU 2019-12, “Income Taxes (Topic 740) - Simplifying the Accounting for Income Taxes.” The guidance issued in this update simplifies the accounting for income taxes by eliminating certain exceptions to the guidance in ASC 740 related to the approach for intraperiod tax allocation, the methodology for calculating income taxes in an interim period and the recognition for deferred tax liabilities for outside basis differences. ASU 2019-12 also simplifies aspects of the accounting for franchise taxes and enacted changes in tax laws or rates and clarifies the accounting for transactions that result in a step-up in the tax basis of goodwill. The ASU will be effective for the Company on January 1, 2021, with early adoption permitted, and is not expected to have a significant impact on our financial statements.

 

ASU Update 2020-02

 

In January 2020, the FASB issued ASU No. 2020-02, “Financial Instruments - Credit Losses (Topic 326) and Leases (Topic 842): Amendments to SEC Paragraphs Pursuant to SEC Staff Accounting Bulletin No. 119 and Update to SEC Section on Effective Date Related to Accounting Standards Update No. 2016-02, Leases (Topic 842).” This ASU adds and amends SEC paragraphs in the Accounting Standards Codification to reflect the issuance of SEC Staff Accounting Bulletin No. 119, related to the new credit losses standard, and comments by the SEC staff related to the revised effective date of the new leases standard. This ASU is effective upon issuance. See the discussion regarding the adoption of ASU 2016-13 above.

 

 

PATRIOT NATIONAL BANCORP, INC. AND SUBSIDIARIES
Notes to consolidated financial statements (Unaudited)

 

ASU Update 2020-03 

 

In March 2020, the FASB issued ASU No. 2020-3, “Codification Improvements to Financial Instruments.” This ASU clarifies various financial instruments topics, including the CECL standard issued in 2016. Amendments related to ASU 2016-13 for entities that have not yet adopted that guidance are effective upon adoption of the amendments in ASU 2016-13. Early adoption is not permitted before an entity’s adoption of ASU 2016-13. Other amendments are effective upon issuance of this ASU. See the discussion regarding the adoption of ASU 2016-13 above.

 

Note 3.     Available-for-Sale Securities

 

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

 

 

The following table presents the available-for-sale securities’ gross unrealized losses and fair value, aggregated by the length of time the individual securities have been in a continuous loss position as of March 31, 2020 and December 31, 2019:

 

 

 

PATRIOT NATIONAL BANCORP, INC. AND SUBSIDIARIES
Notes to consolidated financial statements (Unaudited)

 

At March 31, 2020 and December 31, 2019, 16 of 26 and 15 of 27 available-for-sale securities had unrealized losses with an aggregate decline of 9.3% and 3.7% from the amortized cost of those securities, respectively.

 

Based on its quarterly reviews, management believes that none of the losses on available-for-sale securities noted above constitute other-than-temporary impairment (“OTTI”). The noted losses are considered temporary due to market fluctuations in available interest rates on U.S. Government agency debt, mortgage-backed securities issued by U.S. Government agencies, subordinated notes, and corporate debt. Management considers the issuers of the securities to be financially sound, the corporate bonds are investment grade, and the collectability of all contractual principal and interest payments is reasonably expected. SBA government guaranteed loan pools securities were purchased at a premium and the impairment was attributable primarily to increased prepayment speeds. The timely payment of principal and interest on these securities is guaranteed by the U.S. Government agency. The unrealized losses on the subordinated notes were caused by interest rate increases. The contractual terms of those investments do not permit the issuer to settle the securities at a price less than the amortized cost bases of the investments. Since Patriot is not more-likely-than-not to be required to sell the investments before recovery of the amortized cost basis and does not intend to sell the securities at a loss, none of the available-for-sale securities noted are considered to be OTTI as of March 31, 2020.

 

As of March 31, 2020 and December 31, 2019, available-for-sale securities of $4.6 million and $4.8 million were pledged primarily to secure municipal deposits, respectively. The securities were pledged to the Federal Reserve Bank (“FRB”).

 

The following summarizes, by class and contractual maturity, the amortized cost and estimated fair value of available-for-sale debt securities held as of March 31, 2020 and December 31, 2019. The mortgages underlying the mortgage-backed securities are not due at a single maturity date. Additionally, these mortgages often are and generally may be pre-paid without penalty, creating a degree of uncertainty that such investments can be held until maturity. For convenience, mortgage-backed securities have been included in the summary as a separate line item.

 

 

During the three months ended March 31, 2020, the Bank did not purchase and sell any available-for-sale securities. During the three months ended March 31, 2019, $1.4 million subordinated notes were purchased, and there was no sale of available-for-sale securities.

 

Note 4.     Loans Receivable and Allowance for Loan and Lease Losses

 

As of March 31, 2020 and December 31, 2019, loans receivable, net, consisted of the following:

 

 

 

Patriot's lending activities are conducted principally in Fairfield and New Haven Counties in Connecticut and Westchester County in New York, and the five Boroughs of New York City. Patriot originates commercial real estate loans, commercial business loans, a variety of consumer loans, and construction loans, and has purchased residential loans since 2016. All commercial and residential real estate loans are collateralized primarily by first or second mortgages on real estate. The ability and willingness of borrowers to satisfy their loan obligations is dependent to some degree on the status of the regional economy as well as upon the regional real estate market. Accordingly, the ultimate collectability of a substantial portion of the loan portfolio and the recovery of a substantial portion of any resulting real estate acquired is susceptible to changes in market conditions.

 

Patriot has established credit policies applicable to each type of lending activity in which it engages and evaluates the creditworthiness of each borrower. Unless extenuating circumstances exist, Patriot limits the extension of credit on commercial real estate loans to 75% of the market value of the underlying collateral. Patriot’s loan origination policy for multi-family residential real estate is limited to 80% of the market value of the underlying collateral. In the case of construction loans, the maximum loan-to-value is 75% of the “as completed” appraised value of the real estate project. Management monitors the appraised value of collateral on an on-going basis and additional collateral is requested when warranted. Real estate is the primary form of collateral, although other forms of collateral do exist and may include such assets as accounts receivable, inventory, marketable securities, time deposits, and other business assets.

 

In connection with the Prime Bank merger in May 2018, loans were acquired. A subset of these loans was determined to have evidence of credit deterioration at the acquisition date, which was accounted for in accordance with ASC 310-30. The purchased credit impaired (“PCI”) loans presently maintain a carrying value of $38,000 as of March 31, 2020 and $176,000 as of December 31, 2019, respectively. The loans were evaluated for impairment through the periodic reforecasting of expected cash flows.

 

Income is recognized on PCI loans pursuant to ASC Topic 310-30. A portion of the fair value discount has been ascribed as an accretable yield that is accreted into interest income over the estimated remaining life of the loans. The remaining non-accretable difference represents cash flows not expected to be collected.

 

 

PATRIOT NATIONAL BANCORP, INC. AND SUBSIDIARIES
Notes to consolidated financial statements (Unaudited)

 

A summary of changes in the accretable discount for PCI loans for the three months ended March 31, 2020 and 2019 follows:

 

 

The accretion of the accretable discount for PCI loans for the three months ended March 31, 2020 and 2019 were $2,000 and $25,000, respectively. The other changes represent primarily loans that were either fully paid-off or totally charged off.

 

Risk characteristics of the Company’s portfolio classes include the following:

 

Commercial Real Estate Loans

 

In underwriting commercial real estate loans, Patriot evaluates both the prospective borrower’s ability to make timely payments on the loan and the value of the property securing the loans. Repayment of such loans may be negatively impacted should the borrower default, the value of the property collateralizing the loan substantially decline, or there are declines in general economic conditions. Where the owner occupies the property, Patriot also evaluates the business’ ability to repay the loan on a timely basis and may require personal guarantees, lease assignments, and/or the guarantee of the operating company.

 

Residential Real Estate Loans

 

In 2013, Patriot discontinued offering primary mortgages on personal residences. Repayment of residential real estate loans may be negatively impacted should the borrower have financial difficulties, should there be a significant decline in the value of the property securing the loan, or should there be declines in general economic conditions.

 

During the three months ended March 31, 2020 and 2019, Patriot purchased $4.1 million and $4.8 million of residential real estate loans, respectively.

 

Commercial and Industrial Loans

 

Patriot’s commercial and industrial loan portfolio consists primarily of commercial business loans and lines of credit to businesses and professionals. These loans are generally for the financing of accounts receivable, purchases of inventory, purchases of new or used equipment, or for other short- or long-term working capital purposes. These loans are generally secured by business assets but are also occasionally offered on an unsecured basis. In granting these types of loans, Patriot considers the borrower’s cash flow as the primary source of repayment, supported by the value of collateral, if any, and personal guarantees, as applicable. Repayment of commercial and industrial loans may be negatively impacted by adverse changes in economic conditions, ineffective management, claims on the borrower’s assets by others that are superior to Patriot’s claims, a loss of demand for the borrower’s products or services, or the death or disability of the borrower or other key management personnel.

 

Patriot’s syndicated and leveraged loan portfolio, which totaled $69.9 million and $71.5 million at March 31, 2020 and December 31, 2019, respectively, are included in the commercial and industrial loan classification and are primarily comprised of loan transactions led by major financial institutions and regional banks, which are the Agent Bank or Lead Arranger, and are referred to as syndicated loans or "Shared National Credits (SNC)". SNC loans were determined to be complementary to the Bank’s existing commercial and industrial loan portfolio and product offerings and provide diversification from Patriot’s typical direct-to-business lines of credit and term facilities. The Bank will participate in senior secured financings for public and privately-owned companies for acquisitions, working capital, recapitalizations, and general corporate purposes. The Bank’s strategy is to participate in these types of loan transaction in accordance with its internal policies.

 

 

PATRIOT NATIONAL BANCORP, INC. AND SUBSIDIARIES
Notes to consolidated financial statements (Unaudited)

 

Consumer and Other Loans

 

Patriot offers individual consumers various forms of credit including installment loans, credit cards, overdraft protection, auto loans and reserve lines of credit. Repayments of such loans are generally dependent on the personal income of the borrower, which may be negatively impacted by adverse changes in economic conditions. The Company does not place a high emphasis on originating these types of loans.

 

The Company does not have any lending programs commonly referred to as subprime lending. Subprime lending generally targets borrowers with weakened credit histories that are typically characterized by payment delinquencies, previous charge-offs, judgments against the consumer, a history of bankruptcies, or borrowers with questionable repayment capacity as evidenced by low credit scores or high debt-burdened ratios.

 

Patriot purchased $14.9 million and $0 education loans during the three months ended March 31, 2020 and 2019, respectively.

 

Construction Loans

 

Construction loans are of a short-term nature, generally of eighteen months or less, that are secured by land and improvements intended for commercial, residential, or mixed-use development. Loan proceeds may be used for the acquisition of or improvements to the land under development and funds are generally disbursed as phases of construction are completed.

 

Included in this category are loans to construct single family homes where no contract of sale exists, based upon the experience and financial strength of the builder, the type and location of the property, and other factors. Construction loans tend to be personally guaranteed by the principal(s). Repayment of such loans may be negatively impacted by an inability to complete construction, a downturn in the market for new construction, by a significant increase in interest rates, or by decline in general economic conditions.

 

Construction to Permanent - Commercial Real Estate (“CRE”)

 

Loans in this category represent a one-time close of a construction facility with simultaneous conversion to an amortizing mortgage loan. Construction to Permanent loans combine a short term period similar to a  construction loan, generally with a variable rate, and a longer term CRE loan typically 20-25 years, resetting every five years to the Federal Home Loan Bank (“FHLB”) rate. 

 

Close of the construction facility typically occurs when events dictate, such as receipt of a certificate of occupancy and property stabilization, which is defined as cash flow sufficient to support a pre-defined minimum debt coverage ratio and other conditions and covenants particular to the loan. Construction facilities are typically variable rate instruments that, upon conversion to an amortizing mortgage loan, reset to a fixed rate instrument that is the greater of the in-force variable rate plus a predetermined spread over a reference rate (e.g., prime) or a minimum interest rate.

 

SBA Loans

 

Patriot originates SBA 7(a) loans, on which the SBA has historically provided guarantees of 75 percent of the principal balance. The guaranteed portion of the Company’s SBA loans is generally sold in the secondary market with the unguaranteed portion held in the portfolio as a loan held for investment. SBA loans are for the purpose of providing working capital, financing the purchase of equipment, inventory or commercial real estate and for other business purposes. Loans are guaranteed by the businesses' major owners. SBA loans are made based primarily on the historical and projected cash flow of the business and secondarily on the underlying collateral provided. SBA loans held for investment are included in the commercial real estate loans and commercial and industrial loan classifications, which totaled $11.3 million and $9.6 million as of March 31, 2020 and December 31, 2019, respectively.

 

 

PATRIOT NATIONAL BANCORP, INC. AND SUBSIDIARIES
Notes to consolidated financial statements (Unaudited)

 

Allowance for Loan and Lease Losses

 

The following tables summarize the activity in the allowance for loan and lease losses, allocated to segments of the loan portfolio, for the three months ended March 31, 2020 and 2019:

 

 

 

The following tables summarize, by loan portfolio segment, the amount of loans receivable evaluated individually and collectively for impairment as of March 31, 2020 and December 31, 2019:

 

 

 

PATRIOT NATIONAL BANCORP, INC. AND SUBSIDIARIES
Notes to consolidated financial statements (Unaudited)

 

 

Patriot monitors the credit quality of its loans receivable on an ongoing basis. Credit quality is monitored by reviewing certain indicators, including cash flow from business operations, loan to value ratios, debt service coverage ratios, and credit scores.

 

Patriot employs a risk rating system as part of the risk assessment of its loan portfolio. At origination, lending officers are required to assign a risk rating to each loan in their portfolio, which is ratified or modified by the Loan Committee to which the loan is submitted for approval. If financial developments occur on a loan in the lending officer’s portfolio of responsibility, the risk rating is reviewed and adjusted, as applicable. In carrying out its oversight responsibilities, the Loan Committee can adjust a risk rating based on available information. In addition, the risk ratings on all commercial loans over $250,000 are reviewed annually by the Credit Department.

 

Additionally, Patriot retains an independent third-party loan review expert to perform a quarterly analysis of the results of its risk rating process. The quarterly review is based on a randomly selected sample of loans within established parameters (e.g., value, concentration), in order to assess and validate the risk ratings assigned to individual loans. Any changes to the assigned risk ratings, based on the quarterly review, are required to be approved by the Loan Committee.

 

When assigning a risk rating to a loan, management utilizes the Bank’s internal eleven-point risk rating system. An asset is considered “special mention” when it has a potential weakness based on objective evidence, but does not currently expose the Company to sufficient risk to warrant classification in one of the following categories:

 

	●	Substandard: An asset is classified “substandard” if it is not adequately protected by the current net worth and paying capacity of the obligor or the collateral pledged, if any. Substandard assets have well defined weaknesses based on objective evidence, and are characterized by the distinct possibility that the Company will sustain some loss, if noted deficiencies are not corrected.
	●	Doubtful: Assets classified as “doubtful” have all of the weaknesses inherent in those classified as “substandard”, with the added characteristic that the identified weaknesses make collection or liquidation-in-full improbable, on the basis of currently existing facts, conditions, and values.

 

Charge-offs of loans to reduce the loan to its recoverable value that are solely collateral dependent, generally occur immediately upon confirmation of the partial loss amount. Loans that are cash flow dependent are modeled to reflect the expected cash flows through expected loan maturity, including any proceeds from refinancing or principal curtailment. A specific reserve is established for the amount by which the net investment in the loan exceeds the present value of discounted cash flows. Charge-offs on cash flow dependent loans also generally occur immediately upon confirmation of the partial loss amount.

 

 

PATRIOT NATIONAL BANCORP, INC. AND SUBSIDIARIES
Notes to consolidated financial statements (Unaudited)

 

If either type of loan is classified as “Loss”, meaning full loss on the loan is expected, the full balance of the loan receivable is charged off, regardless of the potential recovery from a sale of the underlying collateral. Any amount that may be recovered on the sale of collateral underlying a loan is recognized as a “recovery” in the period in which the collateral is sold. In accordance with Federal Financial Institutions Examination Council published policies establishing uniform criteria for the classification of retail credit based on delinquency status, “Open-end” and “Closed-end” credits are charged off when 180 days and 120 days delinquent, respectively.

 

Due to the economic disruption and uncertainty caused by the pandemic, the allowance for loan losses may increase in future periods as borrowers are affected by the expected severe contraction of economic activity and the dramatic increase in unemployment. This may result in increases in loan delinquencies, down-grades of loan credit ratings and charge-offs in future periods. The allowance for loan losses may increase to reflect the decline in the performance of the loan portfolio and the higher level of incurred losses.

 

Loan Portfolio Aging Analysis

 

The following tables summarize performing and non-performing (i.e., non-accruing) loans receivable by portfolio segment, by aging category, by delinquency status as of March 31, 2020.

 

 

 

PATRIOT NATIONAL BANCORP, INC. AND SUBSIDIARIES
Notes to consolidated financial statements (Unaudited)

 

The following tables summarize performing and non-performing loans (i.e., non-accruing) receivable by portfolio segment, by aging category, by delinquency status as of December 31, 2019.

 

 

 

PATRIOT NATIONAL BANCORP, INC. AND SUBSIDIARIES
Notes to consolidated financial statements (Unaudited)

 

The following tables summarize non-performing (i.e., non-accruing) loans by aging category and status, within the applicable loan portfolio segment as of March 31, 2020 and December 31, 2019:

 

 

If non-accrual loans had been performing in accordance with the original contractual terms, additional interest income (net of cash collected) of approximately $191,000 and $275,000 would have been recognized during the three months ended March 31, 2020 and 2019, respectively.

 

Interest income collected and recognized on non-accruing loans for the three months ended March 31, 2020 was $28,000. Interest income of $150,000 was collected and recognized on non-accruing loans during the three months ended March 31, 2019.

 

The accrual of interest on loans is discontinued at the time the loan is 90 days past due for payment unless the loan is well-secured and in process of collection. Consumer installment loans are typically charged off no later than 180 days past due. Past due status is based on contractual terms of the loan. In all cases, loans are placed on non-accrual status or charged-off, at an earlier date, if collection of principal or interest is considered doubtful.

 

All interest accrued, but not collected for loans that are placed on non-accrual status or charged off, is reversed against interest income. The interest on these loans is accounted for on the cash-basis method until qualifying for return to accrual status. Loans are returned to accrual status when all the principal and interest amounts contractually due are brought current, future payments are reasonably assured, after at least six months of timely payment history. Management considers all non-accrual loans and Trouble Debt Restructurings (“TDR”) for impaired loans. In most cases, loan payments that are past due less than 90 days, well-secured, and in the process of collection are not considered impaired. The Bank considers consumer installment loans to be pools of smaller homogeneous loan balances, which are collectively evaluated for impairment.

 

 

PATRIOT NATIONAL BANCORP, INC. AND SUBSIDIARIES
Notes to consolidated financial statements (Unaudited)

 

Troubled Debt Restructurings (“TDR”)

 

On a case-by-case basis, Patriot may agree to modify the contractual terms of a borrower’s loan to assist customers who may be experiencing financial difficulty. If the borrower is experiencing financial difficulties and a concession has been made, the loan is classified as a TDR.

 

Substantially all TDR loan modifications involve lowering the monthly payments on such loans through either a reduction in interest rate below market rate, an extension of the term of the loan, or a combination of adjusting these two contractual attributes. TDR loan modifications may also result in the forgiveness of principal or accrued interest. In addition, when modifying commercial loans, Patriot frequently obtains additional collateral or guarantor support. If the borrower has performed under the existing contractual terms of the loan and Patriot’s underwriters determine that the borrower has the capacity to continue to perform under the terms of the TDR, the loan continues accruing interest. Non-accruing TDRs may be returned to accrual status when there has been a sustained period of performance (generally six consecutive months of payments) and both principal and interest are reasonably assured of collection.

 

The following table summarizes the recorded investment in TDRs as of March 31, 2020 and 2019.

 

 

During the three months ended March 31, 2020, no loans were modified as TDR. During the three months ended March 31, 2019, one loan was modified with a maturity and rate reduction as TDR.

 

 

The loans modified in a TDR often involve reducing the interest rate for the remaining term of the loan, extending the maturity date at an interest rate lower than the current market rate for new debt with similar risk, extending the interest-only payment period, or substituting or adding a co-borrower or guarantor. There were no loans modified as TDRs and no defaults of TDRs during the three months ended March 31, 2020. At March 31, 2020 and December 31, 2019, there were no commitments to advance additional funds under TDRs.

 

The balances reflected here as TDR’s are also included in the non-accruing loan balance included in the prior table - Loan Portfolio Aging Analysis.

 

Pursuant to the CARES Act, loan modifications made between March 1, 2020 and the earlier of i) December 30, 2020 or ii) 60 days after the President declares a termination of the COVID-19 national emergency are not classified as TDRs if the related loans were not more than 30 days past due as of December 31, 2019. In addition, on April 7, 2020, a group of banking regulatory agencies issued a revised interagency statement that offers practical expedients for evaluating whether COVID-19 loan modifications are TDRs. As of March 31, 2020, $5.5 million of loans to borrowers had been modified to defer the payment of interest and or principal for up to 90 days. These modified loans were not considered to be TDRs and are therefore excluded from the table above.

 

 

PATRIOT NATIONAL BANCORP, INC. AND SUBSIDIARIES
Notes to consolidated financial statements (Unaudited)

 

Impaired Loans

 

Impaired loans may consist of non-accrual loans and/or performing and non-performing TDRs. As of March 31, 2020 and December 31, 2019, based on the on-going monitoring and analysis of the loan portfolio, impaired loans of $18.0 million and $19.6 million, respectively, were identified, for which $1.7 million and $1.5 million specific reserves were established, respectively. Loans not requiring specific reserves had fair values exceeding the total recorded investment, supporting the net investment in the loan which includes principal balance, unamortized fees and costs and accrued interest, if any. Once a borrower is in default, Patriot is under no obligation to advance additional funds on unused commitments.

 

At March 31, 2020 and December 31, 2019, exposure to the impaired loans was related to 26 and 27 borrowers, respectively. For collateral dependent loans, appraisal reports of the underlying collateral, have been obtained from independent licensed appraisal firms. For non-performing loans, the independently determined appraised values were first reduced by a 12% discount to reflect the Bank’s experience selling Other Real Estate Owned (OREO) properties, and were further reduced by 8% in selling costs, in order to estimate the potential loss, if any, that may eventually be realized. Performing loans are monitored to determine when, if at all, additional loan loss reserves may be required for a loss of underlying collateral value. For cash flow dependent loans, the Bank determined the reserve based on the present value of expected future cash flows discounted at the loan's effective interest rate.

 

In addition, the remaining $38,000 PCI loans acquired from Prime Bank acquisition were commercial and industrial loans. The PCI loans were originally recorded at fair value by the Bank on the date of acquisition. At March 31, 2020, those loans were considered individually evaluated for impairment, with no allowance recorded.

 

The following table reflects information about the impaired loans, excluding PCI loans, by class as of March 31, 2020 and December 31, 2019:

 

 

 

PATRIOT NATIONAL BANCORP, INC. AND SUBSIDIARIES
Notes to consolidated financial statements (Unaudited)

 

The following tables summarize additional information regarding impaired loans, excluding PCI loans, by class for the three months ended March 31, 2020 and 2019.