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Includes current and past due loans in nonaccrual status. Includes impaired loans in nonaccrual status. The Company defines nonperforming loans as nonaccrual loans and restructured loans that are nonaccrual. Nonperforming loans do not include loans 90 days past due and still accruing or accruing restructured loans. Recorded investment is net of charge-offs and interest paid while a loan is in nonaccrual status. 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Table of Contents



 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D. C. 20549

 

FORM 10-Q

 

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

For the quarterly period ended June 30, 2020

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

For the transition period from ________ to ________

 

NATIONAL BANKSHARES, INC.

 (Exact name of registrant as specified in its charter)

Commission File Number 0-15204

 

Virginia

(State or other jurisdiction of incorporation or organization)

54-1375874

(I.R.S. Employer Identification No.)

 

101 Hubbard Street

Blacksburg, Virginia 24062-9002

(Address of principal executive offices, including zip code)

 

(540) 951-6300

(Registrant’s telephone number, including area code)

 

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, par value $1.25 per share

NKSH

Nasdaq Capital 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, 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. Yes ☐    No ☐

 

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

 

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

 

Outstanding shares of common stock at August 4, 2020

6,489,574

 

 

 

 

 

NATIONAL BANKSHARES, INC.

Form 10-Q

Index

 

Part I – Financial Information

Page

     

Item 1

Financial Statements

3

     
 

Consolidated Balance Sheets, June 30, 2020 (Unaudited) and December 31, 2019

3

     
 

Consolidated Statements of Income for the Three Months Ended June 30, 2020 and 2019 (Unaudited)

4

     
 

Consolidated Statements of Comprehensive Income for the Three Months Ended June 30, 2020 and 2019 (Unaudited)

5

     
 

Consolidated Statements of Income for the Six Months Ended June 30, 2020 and 2019 (Unaudited)

6

     
 

Consolidated Statements of Comprehensive Income for the Six Months Ended June 30, 2020 and 2019 (Unaudited)

7

     
 

Consolidated Statements of Changes in Stockholders’ Equity for the Three Months Ended June 30, 2020 and 2019 (Unaudited)

8

     
 

Consolidated Statements of Changes in Stockholders’ Equity for the Six Months Ended June 30, 2020 and 2019 (Unaudited)

8

 

 

 
 

Consolidated Statements of Cash Flows for the Six Months Ended June 30, 2020 and 2019 (Unaudited)

9 – 10

 

 

 
 

Notes to Consolidated Financial Statements (Unaudited)

1134

     

Item 2

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

35

     

Item 3

Quantitative and Qualitative Disclosures About Market Risk

58

     

Item 4

Controls and Procedures

58

     

Part II – Other Information

 
     

Item 1

Legal Proceedings

58

     

Item 1A

Risk Factors

58

     

Item 2

Unregistered Sales of Equity Securities and Use of Proceeds

59

     

Item 3

Defaults Upon Senior Securities

59

 

 

 

Item 4

Mine Safety Disclosures

59

 

 

 

Item 5

Other Information

59

     

Item 6

Exhibits

59

     

Signatures

 

61

     

Certifications

 

 

 

 

2

 

 

Part I

Item 1. Financial Statements Financial Information  

National Bankshares, Inc

Consolidated Balance Sheets

 

  

(Unaudited)

     
  

June 30,

  

December 31,

 

(in thousands, except share and per share data)

 

2020

  

2019

 

Assets

        

Cash and due from banks

 $13,315  $10,290 

Interest-bearing deposits

  73,251   76,881 

Securities available for sale, at fair value

  489,926   435,263 

Restricted stock, at cost

  1,279   1,220 

Loans held for sale

  2,367   905 

Loans:

        

Loans, net of unearned income and deferred fees and costs

  791,002   733,451 

Less allowance for loan losses

  (8,308

)

  (6,863

)

Loans, net

  782,694   726,588 

Premises and equipment, net

  9,955   8,919 

Accrued interest receivable

  4,797   4,285 

Other real estate owned, net

  1,553   1,612 

Goodwill

  5,848   5,848 

Bank-owned life insurance

  36,007   35,567 

Other assets

  12,758   14,459 

Total assets

 $1,433,750  $1,321,837 
         

Liabilities and Stockholders' Equity

        

Noninterest-bearing demand deposits

 $263,113  $201,866 

Interest-bearing demand deposits

  678,062   643,482 

Savings deposits

  160,551   146,377 

Time deposits

  117,882   128,028 

Total deposits

  1,219,608   1,119,753 

Accrued interest payable

  117   144 

Other liabilities

  18,244   18,214 

Total liabilities

  1,237,969   1,138,111 

Commitments and contingencies

          

Stockholders' Equity

        

Preferred stock, no par value, 5,000,000 shares authorized; none issued and outstanding

  ---   --- 

Common stock of $1.25 par value. Authorized 10,000,000 shares; issued and outstanding 6,489,574 shares at June 30, 2020 and December 31, 2019

  8,112   8,112 

Retained earnings

  186,733   184,120 

Accumulated other comprehensive income (loss), net

  936   (8,506

)

Total stockholders' equity

  195,781   183,726 

Total liabilities and stockholders' equity

 $1,433,750  $1,321,837 

 

See accompanying notes to consolidated financial statements.

 

3

 

 

National Bankshares, Inc.

Consolidated Statements of Income

Three Months Ended June 30, 2020 and 2019

(Unaudited)

 

(in thousands, except share and per share data)

 

June 30, 2020

   

June 30, 2019

 

Interest Income

               

Interest and fees on loans

  $ 8,419     $ 8,460  

Interest on interest-bearing deposits

    14       382  

Interest on securities – taxable

    1,863       1,603  

Interest on securities – nontaxable

    454       848  

Total interest income

    10,750       11,293  
                 

Interest Expense

               

Interest on time deposits

    522       419  

Interest on other deposits

    1,076       1,495  

Total interest expense

    1,598       1,914  

Net interest income

    9,152       9,379  

Provision for loan losses

    1,352       55  

Net interest income after provision for loan losses

    7,800       9,324  
                 

Noninterest Income

               

Service charges on deposit accounts

    377       607  

Other service charges and fees

    37       51  

Credit and debit card fees

    386       356  

Trust income

    387       371  

BOLI income

    219       232  

Other income

    277       231  

Realized securities gain, net

    62       8  

Total noninterest income

    1,745       1,856  
                 

Noninterest Expense

               

Salaries and employee benefits

    3,692       3,802  

Occupancy, furniture and fixtures

    458       477  

Data processing and ATM

    806       789  

FDIC assessment

    40       82  

Net (gains on) costs of other real estate owned

    (4

)

    3  

Franchise taxes

    335       333  

Other operating expenses

    750       967  

Total noninterest expense

    6,077       6,453  

Income before income taxes

    3,468       4,727  

Income tax expense

    486       733  

Net Income

  $ 2,982     $ 3,994  

Basic net income per common share

  $ 0.46     $ 0.61  

Fully diluted net income per common share

  $ 0.46     $ 0.61  

Weighted average number of common shares outstanding – basic and diluted

    6,489,574       6,505,574  

Dividends declared per common share

    0.67       0.67  

 

See accompanying notes to consolidated financial statements.

 

4

 

 

National Bankshares, Inc.

Consolidated Statements of Comprehensive Income

Three Months Ended June 30, 2020 and 2019

(Unaudited)

 

  

June 30,

  

June 30,

 

(in thousands)

 

2020

  

2019

 

Net Income

 $2,982  $3,994 
         

Other Comprehensive Income, Net of Tax

        

Unrealized holding gain on available for sale securities net of tax of $1,498 and $795 for the periods ended June 30, 2020 and June 30, 2019, respectively

  5,637   2,991 

Reclassification adjustment for gain included in net income, net of tax of ($13) and ($2) for the periods ended June 30, 2020 and June 30, 2019, respectively

  (49

)

  (6

)

Other comprehensive income, net of tax

  5,588   2,985 

Total Comprehensive Income

 $8,570  $6,979 

 

See accompanying notes to consolidated financial statements.

 

5

 

 

National Bankshares, Inc.

Consolidated Statements of Income

Six Months Ended June 30, 2020 and 2019

(Unaudited)

 

(in thousands, except share and per share data)

 

June 30, 2020

  

June 30, 2019

 

Interest Income

        

Interest and fees on loans

 $16,885  $16,729 

Interest on interest-bearing deposits

  231   641 

Interest on securities – taxable

  4,219   3,286 

Interest on securities – nontaxable

  803   1,775 

Total interest income

  22,138   22,431 
         

Interest Expense

        

Interest on time deposits

  1,081   716 

Interest on other deposits

  2,313   2,991 

Total interest expense

  3,394   3,707 

Net interest income

  18,744   18,724 

Provision for loan losses

  1,831   255 

Net interest income after provision for loan losses

  16,913   18,469 
         

Noninterest Income

        

Service charges on deposit accounts

  959   1,197 

Other service charges and fees

  76   103 

Credit and debit card fees

  692   665 

Trust income

  821   768 

BOLI income

  440   451 

Other income

  810   1,141 

Realized securities gain, net

  82   20 

Total noninterest income

  3,880   4,345 
         

Noninterest Expense

        

Salaries and employee benefits

  7,671   7,623 

Occupancy, furniture and fixtures

  908   942 

Data processing and ATM

  1,597   1,540 

FDIC assessment

  40   167 

Net costs of other real estate owned

  18   28 

Franchise taxes

  678   647 

Other operating expenses

  1,632   1,971 

Total noninterest expense

  12,544   12,918 

Income before income taxes

  8,249   9,896 

Income tax expense

  1,288   1,459 

Net Income

 $6,961  $8,437 

Basic net income per common share

 $1.07  $1.27 

Fully diluted net income per common share

 $1.07  $1.27 

Weighted average number of common shares outstanding – basic and diluted

  6,489,574   6,668,038 

Dividends declared per common share

  0.67   0.67 

 

See accompanying notes to consolidated financial statements.

 

6

 

 

National Bankshares, Inc.

Consolidated Statements of Comprehensive Income

Six Months Ended June 30, 2020 and 2019

(Unaudited)

 

  

June 30,

  

June 30,

 

(in thousands)

 

2020

  

2019

 

Net Income

 $6,961  $8,437 
         

Other Comprehensive Income, Net of Tax

        

Unrealized holding gain on available for sale securities net of tax of $2,526 and $2,003 for the periods ended June 30, 2020 and June 30, 2019, respectively

  9,507   7,545 

Reclassification adjustment for gain included in net income, net of tax of ($17) and ($4), for the periods ended June 30, 2020 and June 30, 2019, respectively

  (65

)

  (16

)

Other comprehensive income, net of tax

  9,442   7,529 

Total Comprehensive Income

 $16,403  $15,966 

 

See accompanying notes to consolidated financial statements.

 

7

 

 

National Bankshares, Inc.

Consolidated Statements of Changes in Stockholders’ Equity

(Unaudited)

 

Three Months Ended June 30, 2020 and 2019

 

(in thousands)

 

Common
Stock

  

Retained
Earnings

  

Accumulated
Other
Comprehensive
Income (Loss)

  

Total

 

Balances at March 31, 2019

 $8,132  $180,637  $(7,541

)

 $181,228 

Net income

  ---   3,994   ---   3,994 

Dividends $0.67 per share

  ---   (4,359

)

  ---   (4,359

)

Other comprehensive income, net of tax of $793

  ---   ---   2,985   2,985 

Balances at June 30, 2019

 $8,132   180,272   (4,556

)

  183,848 
                 

Balances at March 31, 2020

 $8,112  $188,099  $(4,652

)

 $191,559 

Net income

  ---   2,982   ---   2,982 

Dividends $0.67 per share

  ---   (4,348

)

  ---   (4,348

)

Other comprehensive income, net of tax of $1,485

  ---   ---   5,588   5,588 

Balances at June 30, 2020

 $8,112  $186,733  $936  $195,781 

 

See accompanying notes to consolidated financial statements.

 

Six Months Ended June 30, 2020 and 2019

 

(in thousands)

 

Common
Stock

  

Retained
Earnings

  

Accumulated
Other
Comprehensive
Income (Loss)

  

Total

 

Balances at December 31, 2018

 $8,698  $193,625  $(12,085

)

 $190,238 

Net income

  ---   8,437   ---   8,437 

Common stock, repurchased, 452,400 shares

  (566

)

  (17,431

)

  ---   (17,997

)

Dividends $0.67 per share

  ---   (4,359

)

  ---   (4,359

)

Other comprehensive loss, net of tax of $1,999

  ---   ---   7,529   7,529 

Balances at June 30, 2019

 $8,132   180,272   (4,556

)

  183,848 
                 

Balances at December 31, 2019

 $8,112  $184,120  $(8,506

)

 $183,726 

Net income

  ---   6,961   ---   6,961 

Dividends $0.67 per share

  ---   (4,348

)

  ---   (4,348

)

Other comprehensive income, net of tax of $2,509

  ---   ---   9,442   9,442 

Balances at June 30, 2020

 $8,112  $186,733  $936  $195,781 

 

See accompanying notes to consolidated financial statements.

 

8

 

 

National Bankshares, Inc.

Consolidated Statements of Cash Flows

Six Months Ended June 30, 2020 and 2019

(Unaudited)

 

   

June 30,

   

June 30,

 

(in thousands)

 

2020

   

2019

 

Cash Flows from Operating Activities

               

Net income

  $ 6,961     $ 8,437  

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

               

Provision for loan losses

    1,831       255  

Depreciation of bank premises and equipment

    351       358  

Amortization of premiums and accretion of discounts, net

    621       30  

Gains on disposal of fixed assets

    (2

)

    (6

)

Gain on sales and calls of securities available for sale, net

    (82

)

    (20

)

Loss (gain) and write-down on other real estate owned, net

    (13

)

    5  

Loss (gain) on sale of repossessed assets, net

    1       (4

)

Increase in cash value of bank-owned life insurance

    (440

)

    (451

)

Origination of mortgage loans held for sale

    (16,635

)

    (8,065

)

Proceeds from sale of mortgage loans held for sale

    15,424       7,444  

Gain on sale of mortgage loans held for sale

    (251

)

    (116

)

Net change in:

               

Accrued interest receivable

    (512

)

    (32

)

Other assets

    (835

)

    233  

Accrued interest payable

    (27

)

    56  

Other liabilities

    30       (167

)

Net cash provided by operating activities

    6,422       7,957  
                 

Cash Flows from Investing Activities

               

Net change in interest-bearing deposits

    3,630       (16,547

)

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

    94,870       53,087  

Purchase of securities available for sale

    (138,121

)

    (14,906

)

Net change in restricted stock

    (59

)

    ---  

Purchase of loan participations

    (18

)

    (587

)

Collection of loan participations

    107       3,184  

Loan originations and principal collections, net

    (58,184

)

    (22,889

)

Proceeds from sale of other real estate owned

    72       22  

Proceeds from sale of repossessed assets

    30       20  

Recoveries on loans charged off

    154       167  

Proceeds from sale and purchases of premises and equipment, net

    (1,385

)

    (719

)

Net cash (used in) provided by investing activities

    (98,904

)

    832  

 

(continued)

 

9

 

Cash Flows from Financing Activities

               

Net change in time deposits

    (10,146

)

    12,934  

Net change in other deposits

    110,001       4,921  

Common stock repurchased

    ---       (17,997

)

Cash dividends paid

    (4,348

)

    (4,359

)

Net cash provided by (used in) financing activities

    95,507       (4,501

)

Net change in cash and due from banks

    3,025       4,288  

Cash and due from banks at beginning of period

    10,290       12,882  

Cash and due from banks at end of period

  $ 13,315     $ 17,170  
                 

Supplemental Disclosures of Cash Flow Information

               

Interest paid on deposits

  $ 3,421     $ 3,651  

Income taxes paid

    2,115       1,301  
                 

Supplemental Disclosure of Noncash Activities

               

Loans charged against the allowance for loan losses

  $ 540     $ 508  

Loans transferred to repossessed assets

    4       24  

Unrealized gain on securities available for sale

    11,951       9,528  

Increase in operating lease right-of-use asset during the period

    ---       2,236  

Increase in operating lease liability during the period

    ---       2,236  

 

See accompanying notes to consolidated financial statements.

 

10

 

National Bankshares, Inc.

Notes to Consolidated Financial Statements

June 30, 2020

(Unaudited)

$ in thousands, except per share data

 

 

Note 1: General

 

The consolidated financial statements of National Bankshares, Inc. (“NBI”) and its wholly-owned subsidiaries, The National Bank of Blacksburg (the “Bank” or “NBB”) and National Bankshares Financial Services, Inc. (“NBFS”) (collectively, the “Company”), conform to accounting principles generally accepted in the United States of America (“U.S. GAAP”) and to general practices within the banking industry. The accompanying interim period consolidated financial statements are unaudited; however, in the opinion of management, all adjustments consisting of normal recurring adjustments, which are necessary for a fair presentation of the consolidated financial statements, have been included.  The results of operations for the three and six month periods ended June 30, 2020 are not necessarily indicative of results of operations for the full year or any other interim period.  The interim period consolidated financial statements and financial information included in this Form 10-Q should be read in conjunction with the notes to consolidated financial statements included in the Company’s 2019 Form 10-K.  The Company posts all reports required to be filed under the Securities Exchange Act of 1934 on its web site at www.nationalbankshares.com.

 

Risks and Uncertainties

 

The outbreak of COVID-19 has adversely impacted a broad range of industries in which the Company’s customers operate and could impair their ability to fulfill their financial obligations to the Company. The World Health Organization declared COVID-19 to be a global pandemic and almost all public commerce and related business activities have been, to varying degrees, curtailed in order to reduce the rate of new infections. The pandemic and efforts to reduce its spread have caused significant disruptions in the U.S. economy and negatively impacted financial activity in the Company’s market. The Company’s employees have not experienced a high level of infection, however a large outbreak amongst employees could create widespread business continuity issues for the Company.

The Congress of the United States, along with the President of the United States and the Federal Reserve have taken historic actions. Most notably, the Coronavirus Aid, Relief and Economic Security (“CARES”) Act was signed into law at the end of March 2020 and provides $2 trillion to cushion the economic fallout. The CARES Act employs various measures in an attempt to prevent a severe economic downturn, including direct financial aid to American families and economic stimulus to significantly impacted industry sectors. The package also includes extensive emergency funding for hospitals and providers. Certain provisions of the CARES Act as well as other recent legislative and regulatory relief efforts have had and are expected to have a material impact on the Company’s operations.

The Company’s business is dependent upon the willingness and ability of its employees and customers to conduct banking and other financial transactions. If the global response to contain COVID-19 escalates further or is unsuccessful, the Company could experience a material adverse effect on its business, financial condition, results of operations and cash flows. While it is not possible to know the full extent that the impact COVID-19 will have on the Company’s operations, the Company is disclosing potentially material items of which it is aware.

 

Financial position and results of operations

The Company’s fee income was negatively impacted during the second quarter of 2020 and may experience further declines. In keeping with guidance from regulators, the Company is actively working with COVID-19 affected customers and may waive various fees related to deposit and lending activities. The Company is continuously monitoring the situation and expects to continue to work with affected customers throughout the crisis in order to preserve its customer base. The Company will resume normal practices related to fees when the crisis eases. At this time, the Company is unable to project the materiality of such an impact, but recognizes the economic impact on fee income will extend to future periods.

The Company’s interest income decreased during the second quarter of 2020 and the Company expects that interest income may continue at a lower than normal level while the pandemic continues to reduce borrower’s ability to repay. In keeping with guidance from regulators, the Company is actively working with COVID-19 affected borrowers to provide short-term payment relief, including providing payment extensions and interest-only periods, as well as rate reductions. For certain real estate secured loans, payment extensions result in reversal of previously accrued interest, immediately reducing interest income. Interest begins accruing again at the next payment date and the reversed interest will be recognized at the end of the loan term. Accrued interest on other loans is not reversed when the payment is extended. If eventual credit losses are identified on any loan that has received a payment extension or interest only period, interest and fee income accrued pursuant to U.S. GAAP accounting would be reversed at the time the loss is identified. In such a scenario, interest income in future periods could be negatively impacted. At this time, the Company is unable to project the materiality of such an impact, but recognizes economic declines may affect its borrowers’ ability to repay in future periods. 

  

11

 

Capital and Liquidity

While the Company believes that it has sufficient capital to withstand an extended economic recession brought about by COVID-19, its reported and regulatory capital ratios could be adversely impacted by further credit losses.

The Company maintains access to multiple sources of liquidity. Wholesale funding markets are currently available to the Company, but rates for short term funding have shown volatility recently. If funding costs are elevated for an extended period of time and if it becomes necessary for the Company to access wholesale funding, the Company’s net interest margin could be adversely affected. If an extended recession causes large numbers of the Company’s deposit customers to withdraw their funds, the Company might become more reliant on volatile or more expensive sources of funding.

 

Asset valuation

Currently, the Company does not expect COVID-19 to affect its ability to account timely for the assets on its balance sheet; however if the impact of the pandemic worsens, valuation procedures in future periods could be negatively affected. While certain valuation assumptions and judgments will change to account for pandemic-related circumstances, such as widening credit spreads, the Company does not anticipate significant changes in methodology used to determine the fair value of assets measured in accordance with U.S. GAAP.

The Company is monitoring the value of its goodwill.  Goodwill impairment testing considers the Company’s stock price among several factors in determining whether impairment exists.  The COVID-19 pandemic has caused significant stock market volatility which has affected the Company’s stock price.  The stock price level at June 30, 2020 caused the Company to perform internal analysis to determine whether goodwill testing should be updated.  As of June 30, the Company determined that goodwill was not impaired.  However, if the pandemic causes a further and sustained decline in the Company’s stock price or the occurrence of what management deems to be a triggering event, under certain circumstances prescribed by U.S. GAAP, the Company will perform a goodwill impairment test.  In the event that the Company concludes that all or a portion of its goodwill is impaired, a non-cash charge for the amount of such impairment would be recorded to earnings.

 

Processes, controls and business continuity plan

In response to the pandemic, the Company deployed its business continuity plan, including a remote working strategy for certain employees. The Company does not anticipate incurring additional material cost related to its continued deployment of the remote working strategy. The Company has assessed the risks associated with the remote working strategy and implemented mitigation strategies. No material operational or internal control challenges or risks have been identified to date. The Company does not anticipate significant challenges to its ability to maintain its systems and controls in light of the measures the Company has taken to prevent the spread of COVID-19. The Company does not currently face any material resource constraint through the implementation of its business continuity plans.

 

Lending operations and accommodations to borrowers

In keeping with regulatory guidance to work with borrowers during this unprecedented situation and as outlined in the CARES Act, the Company is providing modifications for its borrowers who are adversely affected by the pandemic.  Depending on the demonstrated need of the borrower, the Company has provided payment extensions, granted periods of interest only payments to otherwise amortizing loans, and rate reductions.  As of June 30, 2020, the Company has provided COVID-19 related accommodations on 297 loans with aggregate outstanding loan balances of $119,711.  In accordance with interagency guidance issued in March 2020 and revised in April 2020, these short term extensions are not considered troubled debt restructurings (“TDRs”).  The Company is monitoring loans with payment extensions, with special attention to loans with payment extensions that exceed 60 days to determine whether changes in risk rates or TDR status is warranted.

With the passage of the Paycheck Protection Program (“PPP”), administered by the Small Business Administration (“SBA”), the Company is actively participating in assisting its customers through the program. Most of the PPP loans the Company made have a two-year term and earn interest at 1%. Guidance issued by the SBA during the second wave of funding provided terms of up to five years. If borrowers request a change from 2 years to 5 years, the Company will likely grant the request. The Company believes that the majority of these loans will ultimately be forgiven by the SBA in accordance with the terms of the program. As of June 30, 2020, the Company holds $55,819 PPP loans, net of deferred fees and costs. It is the Company’s understanding that loans funded through the PPP program are fully guaranteed by the U.S. government. Should those circumstances change, the Company could be required to establish additional allowance for loan loss through provision for loan loss charged to earnings.

 

Credit 

The Company is working with customers directly affected by COVID-19, providing short-term assistance in accordance with regulator guidelines. As a result of the current economic environment caused by the COVID-19 pandemic, the Company is engaging in more frequent communication with borrowers to better understand their situation and the challenges faced, allowing it to respond proactively as needs and issues arise. Should economic conditions worsen, the Company could experience further increases in its required allowance for loan loss and record additional loan loss expense. It is possible that the Company’s asset quality measures could worsen at future measurement periods if effects of the COVID-19 pandemic are prolonged.

 

12

 

 

Note 2:

Loan Portfolio

 

The loan portfolio, excluding loans held for sale, was comprised of the following.

 

  

June 30,

2020

  

December 31,

2019

 

Real estate construction

 $35,360  $42,303 

Consumer real estate

  182,194   181,472 

Commercial real estate

  378,770   365,373 

Commercial non real estate

  100,944   46,576 

Public sector and IDA

  61,850   63,764 

Consumer non real estate

  34,357   34,539 

Gross loans

  793,475   734,027 

Less unearned income and deferred fees and costs

  (2,473

)

  (576

)

Loans, net of unearned income and deferred fees and costs

 $791,002  $733,451 

 

 

 

Note 3:

Allowance for Loan Losses, Nonperforming Assets and Impaired Loans

 

The allowance for loan losses methodology incorporates individual evaluation of impaired loans and collective evaluation of groups of non-impaired loans. The Company performs ongoing analysis of the loan portfolio to determine credit quality and to identify impaired loans. Credit quality is rated based on the loan’s payment history, the borrower’s current financial situation and value of the underlying collateral.

 

Impaired Loans

Loans are designated as impaired when, in the judgment of management based on current information and events, it is probable that all amounts will not be collected when due according to the contractual terms of the loan agreement. Impaired loans are those loans that have been modified in a TDR and larger, usually non-homogeneous loans that are in nonaccrual or exhibit payment history or financial status that indicate that collection probably will not occur when due according to the loan’s terms. Generally, impaired loans are given risk ratings that indicate higher risk, such as “classified” or “special mention.” Impaired loans are individually evaluated to determine appropriate reserves and are measured at the lower of the invested amount or the fair value. Impaired loans that are not TDRs and for which fair value measurement indicates an impairment loss are designated nonaccrual. A restructured loan that maintains current status for at least six months may be in accrual status. Please refer to the Company’s 2019 Form 10-K, Note 1: Summary of Significant Accounting Policies for additional information on evaluation of impaired loans and associated specific reserves, and policies regarding nonaccruals, past due status and charge-offs.

TDRs impact the estimation of the appropriate level of the allowance for loan losses. If the restructuring included forgiveness of a portion of principal or accrued interest, the charge-off is included in the historical charge-off rates applied to the collective evaluation methodology. Restructured loans are individually evaluated for impairment, and the amount of a restructured loan’s book value in excess of its fair value is accrued as a specific allocation in the allowance for loan losses. If a TDR loan payment exceeds 90 days past due, it is examined to determine whether the late payment indicates collateral dependency or cash flows below those that were used in the fair value measurement. TDRs, as well as all impaired loans, that are determined to be collateral dependent are charged down to fair value. Deficiencies indicated by impairment measurements for TDRs that are not collateral dependent may be accrued in the allowance for loan losses or charged off if deemed uncollectible.

 

Collectively-Evaluated Loans

The Company evaluated characteristics in the loan portfolio and determined major segments and smaller classes within each segment. These characteristics include collateral type, repayment sources, and (if applicable) the borrower’s business model. The methodology for calculating reserves for collectively-evaluated loans is applied at the class level.

 

13

 

 

Portfolio Segments and Classes

The segments and classes used in determining the allowance for loan losses are as follows.

Real Estate Construction

Construction, residential

Construction, other

 

Consumer Real Estate

Equity lines

Residential closed-end first liens

Residential closed-end junior liens

Investor-owned residential real estate

 

Commercial Real Estate

Multifamily real estate

Commercial real estate, owner-occupied

Commercial real estate, other

Commercial Non Real Estate

Commercial and industrial

 

Public Sector and IDA

Public sector and IDA

 

Consumer Non Real Estate

Credit cards

Automobile

Other consumer loans

 

Historical Loss Rates

The Company’s allowance methodology for collectively evaluated loans applies historical loss rates by class to current class balances as part of the process of determining required reserves. Class loss rates are calculated as the net charge-offs for the class as a percentage of average class balance. The Company averages loss rates for the most recent 8 quarters to determine the historical loss rate for each class.

Two loss rates for each class are calculated: total net charge-offs for the class as a percentage of average class loan balance (“class loss rate”), and total net charge-offs for the class as a percentage of average classified loans in the class (“classified loss rate”). Classified loans are those with risk ratings of “substandard” or lower. Net charge-offs in both calculations include charge-offs and recoveries of classified and non-classified loans as well as those associated with impaired loans. Class historical loss rates are applied to non-classified loan balances at the reporting date, and classified historical loss rates are applied to classified balances at the reporting date. 

 

Risk Factors

In addition to historical loss rates, risk factors pertinent to credit risk for each class are analyzed to estimate reserves for collectively evaluated loans. Factors include changes in national and local economic and business conditions, the nature and volume of classes within the portfolio, loan quality, loan officers’ experience, lending policies and the Company’s loan review system.

The analysis of certain factors results in standard allocations to all segments and classes. These factors include the risk from changes in lending policies, loan officers’ average years of experience, unemployment levels, bankruptcy rates, interest rate environment, and competition/legal/regulatory environments. Factors analyzed for each class, with resultant allocations based upon the level of risk assessed for each class, include the risk from changes in loan review, levels of past due loans, levels of nonaccrual loans, current class balance as a percentage of total loans, and the percentage of high risk loans within the class. Additionally, factors specific to each segment are analyzed and result in allocations to the segment. Please refer to the Company’s 2019 Form 10-K, Note 1: Summary of Significant Accounting Policies for a discussion of risk factors pertinent to each class.

Real estate construction loans are subject to general risks from changing commercial building and housing market trends and economic conditions that may impact demand for completed properties and the costs of completion. These risks are measured by market-area unemployment rates, bankruptcy rates, building market trends, and interest rates.

The credit quality of consumer real estate is subject to risks associated with the borrower’s repayment ability and collateral value, measured generally by analyzing local unemployment and bankruptcy trends, local housing market trends, and interest rates.

The commercial real estate segment includes loans secured by multifamily residential real estate, commercial real estate occupied by the owner/borrower, and commercial real estate leased to non-owners. Loans in the commercial real estate segment are impacted by economic risks from changing commercial real estate markets, rental markets for multi-family housing and commercial buildings, business bankruptcy rates, local unemployment and interest rate trends that would impact the businesses housed by the commercial real estate.

Commercial non-real estate loans are secured by collateral other than real estate, or are unsecured. Credit risk for commercial non-real estate loans is subject to economic conditions, generally monitored by local business bankruptcy trends, and interest rates.

Public sector and Industrial Development Authority (“IDA”) loans are extended to municipalities and related entities. Credit risk is based upon the entity’s ability to repay and interest rate trends.

Consumer non-real estate includes credit cards, automobile and other consumer loans. Credit cards and certain other consumer loans are unsecured, while collateral is obtained for automobile loans and other consumer loans. Credit risk stems primarily from the borrower’s ability to repay, measured by average unemployment, average personal bankruptcy rates and interest rates.

 

14

 

Factor allocations applied to each class are increased for loans rated special mention and increased to a greater extent for loans rated classified. The Company allocates additional reserves for “high risk” loans. High risk loans include junior liens, interest only and high loan to value loans.

A detailed analysis showing the allowance roll-forward by portfolio segment and related loan balance by segment follows.

 

  

Activity in the Allowance for Loan Losses for the Six Months Ended June 30, 2020

 
  

Real Estate Construction

  

Consumer
Real Estate

  

Commercial
Real Estate

  

Commercial
Non Real
Estate

  

Public
Sector and
IDA

  

Consumer Non
Real Estate

  

Unallocated

  

Total

 

Balance, December 31, 2019

 $400  $1,895  $2,559  $555  $478  $650  $326  $6,863 

Charge-offs

  ---   (62

)

  (15

)

  (347

)

  ---   (116

)

  ---   (540

)

Recoveries

  ---   16   24   1   ---   113   ---   154 

Provision for (recovery of) loan losses

  (15

)

  417   808   457   85   10   69   1,831 

Balance, June 30, 2020

 $385  $2,266  $3,376  $666  $563  $657  $395  $8,308 

 

  

Activity in the Allowance for Loan Losses for the Six Months Ended June 30, 2019

 
  

Real Estate Construction

  

Consumer
Real Estate

  

Commercial
Real Estate

  

Commercial
Non Real
Estate

  

Public
Sector and
IDA

  

Consumer Non

Real Estate

  

Unallocated

  

Total

 

Balance, December 31, 2018

 $398  $2,049  $2,798  $602  $583  $750  $210  $7,390 

Charge-offs

  ---   (107

)

  (150

)

  ---   ---   (251

)

  ---   (508

)

Recoveries

  ---   ---   24   ---   ---   143   ---   167 

Provision for (recovery of) loan losses

  118   124   288   (123

)

  (54

)

  29   (127)  255 

Balance, June 30, 2019

 $516  $2,066  $2,960  $479  $529  $671  $83  $7,304 

 

  

Activity in the Allowance for Loan Losses for the Year Ended December 31, 2019

 
  

Real Estate Construction

  

Consumer

Real Estate

  

Commercial
Real Estate

  

Commercial
Non Real
Estate

  

Public
Sector and
IDA

  

Consumer Non
Real Estate

  

Unallocated

  

Total

 

Balance, December 31, 2018

 $398  $2,049  $2,798  $602  $583  $750  $210  $7,390 

Charge-offs

  ---   (192

)

  (150

)

  (47

)

  ---   (531

)

  ---   (920

)

Recoveries

  ---   ---   49   1   ---   217   ---   267 

Provision for (recovery of) loan losses

  2   38   (138

)

  (1

)

  (105

)

  214   116   126 

Balance, December 31, 2019

 $400  $1,895  $2,559  $555  $478  $650  $326  $6,863 

 

  

Allowance for Loan Losses as of June 30, 2020

 
  

Real Estate Construction

  

Consumer
Real Estate

  

Commercial
Real Estate

  

Commercial
Non Real
Estate

  

Public
Sector and
IDA

  

Consumer Non
Real Estate

  

Unallocated

  

Total

 

Individually evaluated for impairment

 $---  $2  $---  $102  $---  $---  $---  $104 

Collectively evaluated for impairment

  385   2,264   3,376   564   563   657   395   8,204 

Total

 $385  $2,266  $3,376  $666  $563  $657  $395  $8,308 

 

15

 
  

Allowance for Loan Losses as of December 31, 2019

 
  

Real Estate Construction

  

Consumer
Real Estate

  

Commercial
Real Estate

  

Commercial
Non Real
Estate

  

Public
Sector and
IDA

  

Consumer Non
Real Estate

  

Unallocated

  

Total

 

Individually evaluated for impairment

 $---  $2  $---  $108  $---  $---  $---  $110 

Collectively evaluated for impairment

  400   1,893   2,559   447   478   650   326   6,753 

Total

 $400  $1,895  $2,559  $555  $478  $650  $326  $6,863 

 

  

Loans as of June 30, 2020

 
  

Real Estate Construction

  

Consumer
Real Estate

  

Commercial
Real Estate

  

Commercial
Non Real
Estate

  

Public
Sector and
IDA

  

Consumer Non
Real Estate

  

Unallocated

  

Total

 

Individually evaluated for impairment

 $---  $245  $4,099  $880  $---  $3  $---  $5,227 

Collectively evaluated for impairment

  35,360   181,949   374,671   100,064   61,850   34,354   ---   788,248 

Total

 $35,360  $182,194  $378,770  $100,944  $61,850  $34,357  $---  $793,475 

 

  

Loans as of December 31, 2019

 
  

Real Estate Construction

  

Consumer
Real Estate

  

Commercial
Real Estate

  

Commercial
Non Real
Estate

  

Public
Sector and
IDA

  

Consumer Non
Real Estate

  

Unallocated

  

Total

 

Individually evaluated for impairment

 $---  $759  $3,608  $918  $---  $4  $---  $5,289 

Collectively evaluated for impairment

  42,303   180,713   361,765   45,658   63,764   34,535   ---   728,738 

Total

 $42,303  $181,472  $365,373  $46,576  $63,764  $34,539  $---  $734,027 

 

A summary of ratios for the allowance for loan losses follows.

 

  

As of and for the

  

Six Months Ended

June 30,

  

Year Ended

December 31,

  

2020

  

2019

  

2019

Ratio of allowance for loan losses to the end of period loans, net of unearned income and deferred fees and costs(2)

 1.05%

 

 1.00%

 

 0.94%

Ratio of net charge-offs to average loans, net of unearned income and deferred fees and costs(1)

 0.10%

 

 0.10%

 

 0.09%

 

(1)

Net charge-offs are on an annualized basis.

(2)

The ratio of the allowance for loan losses to the end of period loans, net of unearned income and deferred fees and costs at June 30, 2020 includes government-guaranteed SBA PPP loans, which do not require an allowance for loan losses. Excluding the PPP loans, the ratio would be 1.13%.

 

 
 

A summary of nonperforming assets follows.

 

  

June 30,

  

December 31,

 
  

2020

  

2019

  

2019

 

Nonperforming assets:

            

Nonaccrual loans

 $943  $