The accompanying notes are an integral part of these consolidated financial statements.
The accompanying notes are an integral part of these consolidated financial statements.
The accompanying notes are an integral part of these consolidated financial statements.
The accompanying notes are an integral part of these consolidated financial statements.
The accompanying notes are an integral part of these consolidated financial statements.
The interim consolidated financial statements of Community Bancorp. and Subsidiary are unaudited. All significant intercompany balances and transactions have been eliminated in consolidation. In the opinion of management, all adjustments necessary for fair presentation of the financial condition and results of operations of the Company contained herein have been made. The unaudited consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto for the year ended December 31, 20102011 contained in the Company's Annual Report on Form 10-K. The results of operations for the interim period are not necessarily indicative of the results of operations to be expected for the full annual period ending December 31, 2011,2012, or for any other interim period.
In May 2011, the FASB issued ASU 2011-04, “Fair Value Measurement: Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in US GAAP and IFRSs,” amending Accounting Standards Codification (“ASC”)ASC Topic 820. Although ASU 2011-04 deals primarily with development of a single fair value framework for US GAAP and International Financial Reporting Standards, the ASU also contains additional guidance on fair value measurements. Among other things, ASU 2011-04: clarifies how a principal market is determined; addresses the fair value measurement or counterparty credit risks and the concept of valuation premise and highest and best use of nonfinancial assets; prescribes a model for measuring the fair value of an instrument classified in shareholders’ equity; limits the use of premiums or discounts based on the size of a holding; and requires certain new disclosures, including disclosures of all transfers between Levels 1 and 2 of the fair value hierarchy, whether or not significant, and additional disclosures regarding unobservable inputs and valuation processes for Level 3 measurements. The guidance in ASU 2011-04 is to be applied prospectively, and is effective for the Company for interim and annual periods beginning on or after December 15, 2011. The Company does not expect that adoption of the guidance will have a material impact on its consolidated financial statements.
In June 2011, the FASB issued ASU 2011-05, “Presentation of Comprehensive Income,” which amendsamending Topic 220. The amendments provide that an entity has the option to present the total of comprehensive income, the components of net income, and the components of other comprehensive income either in a single continuous statement of comprehensive income or in two separate but consecutive statements. The Company has chosen the latter option. This ASU eliminates the option to present the components of other comprehensive income as part of the statement of changes in stockholders’ equity. The ASU does not change the items that must be reported in other comprehensive income or when an item of other comprehensive income must be reclassified to net income, nor does it require any transition disclosures. The amendments in this ASU are to be applied retrospectively, and are effective for fiscal years and interim periods beginning after December 15, 2011. Early adoption is permitted. In December 2011, the FASB issued ASU No. 2011-12, “Deferral of the Effective Date for Amendments to the Presentation of Reclassifications of Items Out of Accumulated Other Comprehensive Income in Accounting Standards Update No. 2011-05”, which defers the effective date of a requirement in ASU 2011-05 related to reclassifications of items out of accumulated other comprehensive income. The Company does not expect that adoptiondeferral of the effective date was made to allow the FASB time to consider whether to require presentation on the face of the financial statements of the effects of reclassifications out of accumulated other comprehensive income on the components of net income and other comprehensive income for all periods presented. Adoption of ASU 2011-05 willdid not have a material impact on itsthe Company’s consolidated financial statements.
In September 2011, the FASB issued ASU 2011-08, “Testing Goodwill for Impairment,” amending Topic 350. The guidance changes the manner of testing of goodwill for impairment by providing an entity with the option of first assessing qualitative factors to determine whether the existence of events or circumstances leads to a determination that it is more likely than not (more than 50%) that the fair value of a reporting unit is less than its carrying amount. Such qualitative factors may include the following: macroeconomic conditions; industry and market considerations; cost factors; overall financial performance; and other relevant entity-specific events. If an entity elects to perform a qualitative assessment and determines that an impairment is more likely than not, the entity is then required to perform the existing two-step quantitative impairment test; otherwise, no further analysis is required. An entity also may elect not to perform the qualitative assessment and instead go directly to the two-step quantitative impairment test. These changes becomeare effective for fiscal years beginning on or after December 15, 2011, although early adoption is permitted. The Company does not expect that adoption of the ASU 2011-08 will have a material impact on itsthe Company’s consolidated financial statements.
Earnings per common share amounts are computed based on the weighted average number of shares of common stock issued during the period (retroactively adjusted for stock splits and stock dividends), including Dividend Reinvestment Plan shares issuable upon reinvestment of dividends declared, and reduced for shares held in treasury.
Securities available-for-sale (AFS) and held-to-maturity (HTM) consisted of the following:
*Method used to determine fair value on HTM securities rounds values to nearest thousand.
Management evaluates securities for other-than-temporary impairment at least on a quarterly basis, and more frequently when economic or market conditions, or adverse developments relating to the issuer, warrant such evaluation. Consideration is given to (1) the length of time and the extent to which the fair value has been less than the carrying value, (2) the financial condition and near-term prospects of the issuer, and (3) the intent and ability of the Company to retain its investment for a period of time sufficient to allow for any anticipated recovery in fair value. In analyzing an issuer's financial condition, management considers whether the securities are issued by the federal government or its agencies, whether downgrades by bond rating agencies or other adverse developments in the status of the securities have occurred, and the results of reviews of the issuer's financial condition.
The allowance for loan losses is established through a provision for loan losses charged to earnings. Loan losses are charged against the allowance when management believes the uncollectibility of a loan balance is confirmed.probable. Subsequent recoveries, if any, are credited to the allowance.
As described below, the allowance consists of general, specific and unallocated components. However, the entire allowance is available to absorb losses in the loan portfolio, regardless of specific, general and unallocated components considered in determining the amount of the allowance.
The general component of the allowance for loan losses is based on historical loss experience, adjusted for qualitative factors and stratified by the following loan segments: commercial, commercial real estate, residential real estate first lien, residential real estate junior lien, and consumer loans. The Company does not disaggregate its portfolio segments further into classes. Loss ratios are calculated for one year, two year and five year look back periods. The highest loss ratio among these look-back periods is then applied against the respective segment. Management uses an average of historical losses based on a time frame appropriate to capture relevant loss data for each loan segment. This historical loss factor is adjusted for the following qualitative factors: levels of and trends in delinquencies and non-performing loans, levels of and trends in loan risk groups, trends in volumes and terms of loans, effects of any changes in loan related policies, experience, ability and the depth of management, documentation and credit data exception levels, national and local economic trends, external factors such as competition and regulation and lastly, concentrations of credit risk in a variety of areas, including portfolio product mix, the level of loans to individual borrowers and their related interests, loans to industry segments, and the geographic distribution of commercial real estate loans. This evaluation is inherently subjective as it requires estimates that are susceptible to revision as more information becomes available. There were no
The qualitative factors are determined based on the various risk characteristics of each loan segment. The Company has policies, procedures and internal controls that management believes are commensurate with the risk profile of each of these segments. Risk characteristics relevant to each portfolio segment are as follows:
The specific component relates to loans that are impaired. A specific allowance is established when a loan’s impaired basis is less than the carrying value of the loan. For all classes of loans,loan segments, except consumer loans, a loan is considered impaired when, based on current information and events, in management’s estimation it is probable that the Company will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Impaired loans are loan(s) to a borrower that in aggregate are greater than $100,000 and that are in non-accrual status or are troubled debt restructurings (TDR). Factors considered by management in determining impairment include payment status, collateral value and probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant or temporary payment delays and payment shortfalls generally are not classified as impaired. Management evaluates the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length and frequency of the delay, the reasons for the delay, the borrower’s prior payment record and the amount of the shortfall in relation to the principal and interest owed. Impairment is measured on a loan by loan basis, by either the present value of expected future cash flows discounted at the loan’s effective interest rate, the loan’s obtainable market price, or the fair value of the collateral if the loan is collateral dependent.
Large groups of smaller balance homogeneous loans are collectively evaluated for impairment. Accordingly, the Company does not separately identify individual consumer loans for impairment evaluation, unless such loans are subject to a restructuring agreement.
An unallocated component is maintained to cover uncertainties that could affect management’s estimate of probable losses. The unallocated component of the allowance reflects the margin of imprecision inherent in the underlying assumptions used in the methodologies for estimating specific and general losses in the portfolio.
In developing the allowance for loan losses, management uses credit quality grouping to help evaluate trends in credit quality. The Company groups credit risk into Groups A, B and C. The manner the Company utilizes to assign risk grouping is driven by loan purpose. Commercial purpose loans are individually risk graded while the retail portion of the portfolio is generally grouped by delinquency pool.
Commercial purpose loan ratings are assigned by the commercial account officer; for larger and more complex commercial loans, the credit rating is a collaborative assignment by the lender and the credit analyst. The credit risk rating is based on the borrower's expected performance, i.e., the likelihood that the borrower will be able to service its obligations in accordance with the loan terms. Credit risk ratings are meant to measure risk versus simply record history. Assessment of expected future payment performance requires consideration of numerous factors. While past performance is part of the overall evaluation, expected performance is based on an analysis of the borrower's financial strength, and historical and projected factors such as size and financing alternatives, capacity and cash flow, balance sheet and income statement trends, the quality and timeliness of financial reporting, and the quality of the borrower’s management. Other factors influencing the credit risk rating to a lesser degree include collateral coverage and control, guarantor strength and commitment, documentation, structure and covenants and industry conditions. There are uncertainties inherent in this process.
Credit risk ratings are dynamic and require updating whenever relevant information is received. The risk ratings of larger or more complex loans, and Group B and C rated loans, are assessed at the time of their respective annual reviews, during quarterly updates, in action plans or at any other time that relevant information warrants update. Lenders are required to make immediate disclosure to the Chief Credit Officer of any known increase in loan risk, even if considered temporary in nature.
A loan is classified as a TDR if, for economic or legal reasons related to a borrower’s financial difficulties, the Company grants a concession to the borrower that it would not otherwise consider.
The Company has granted such a concession if it has modified a troubled loan in any of the following ways:
An insignificant delay or insignificant shortfall in the amount of payments typically would not require the loan to be accounted for as a TDR. However, pursuant to regulatory guidance, any delay longer than three months is generally not considered insignificant. The assessment of whether a concession has been granted also takes into account payments expected to be received from third parties, including third-party guarantees,guarantors, provided that the third party has the ability to perform on the guarantee.
The Company’s TDRs are principally a result of extending loan repayment terms to relieve cash flow difficulties. The Company has not asonly, on a practicelimited basis, reduced interest rates for borrowers below theirthe current market rate atfor the time of the restructures, norborrower. The Company has itnot forgiven principal within the terms of the original restructurings.restructurings, nor has it converted variable rate terms to fixed rate terms.
Note 7.6. Goodwill and Other Intangible Assets
As a result of the merger with LyndonBank on December 31, 2007, the Company recorded goodwill amounting to $11,574,269. The goodwill is not amortizable and is not deductible for tax purposes.
The Company also recorded $4,161,000 of acquired identified intangible assets representing the core deposit intangible which is subject to amortization as a non-interest expense over a ten year period using a double declining method.
Amortization expense for the core deposit intangible for the first ninethree months of 20112012 was $319,565.$85,218. As of September 30, 2011,March 31, 2012, the remaining annual amortization expense related to the core deposit intangible, absent any future impairment, is expected to be as follows:
| 2011 | | $ | 106,521 | | |
| 2012 | | | 340,869 | | | $ | 255,652 | |
| 2013 | | | 272,695 | | | | 272,695 | |
| 2014 | | | 272,695 | | | | 272,695 | |
| 2015 | | | 272,695 | | | | 272,695 | |
| Thereafter | | | 545,392 | | |
| Total core deposit intangible | | $ | 1,810,867 | | |
| 2016 | | | | 272,695 | |
| 2017 | | | | 272,696 | |
| Total remaining core deposit intangible | | | $ | 1,619,128 | |
Management evaluates goodwill for impairment annually and the core deposit intangible for impairment if conditions warrant. As of the date of the most recent evaluation (December 31, 2010)2011), management concluded that no impairment existed.
Note 8.7. Fair Value
FASB ASC Topic 820-10-20, Fair Value Measurements and Disclosures, provides a framework for measuring and disclosing fair value under U.S. Generally Accepted Accounting Principles (GAAP). Topic 820-10-20 requires disclosures about the fair value ofCertain assets and liabilities recognized inare recorded at fair value to provide additional insight into the balance sheet in periods subsequent to initial recognition, whether the measurementsCompany’s quality of earnings. Some of these assets and liabilities are mademeasured on a recurring basis (for example, available-for-sale investment securities) orwhile others are measured on a nonrecurring basis, (forwith the determination based upon applicable existing accounting pronouncements. For example, securities available for sale are recorded at fair value on a recurring basis. Other assets, such as, mortgage servicing rights, loans held for sale, and impaired loans).
Fairloans, are recorded at fair value ison a nonrecurring basis using the exchange price that would be received for an assetlower of cost or paidmarket methodology to transfer a liability (an exit price)determine impairment of individual assets. The Company groups assets and liabilities which are recorded at fair value in the principal or most advantageous market for the asset or liability in an orderly transaction between market participantsthree levels, based on the measurement date. Topic 820-10-20 also establishes amarkets in which the assets and liabilities are traded and the reliability of the assumptions used to determine fair value. A financial instrument’s level within the fair value hierarchy which requires an entityis based on the lowest level of input that is significant to maximize the usefair value measurement (with level 1 considered highest and level 3 considered lowest). A brief description of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair value:each level follows.
| Level 1 | Quoted prices in active markets for identical assets or liabilities. Level 1 assets and liabilities include debt and equity securities and derivative contracts that are traded in an active exchange market, as well as U.S. Treasury, other U.S. Government and agency mortgage-backed debt securities that are highly liquid and are actively traded in over-the-counter markets. |
| Level 2 | Observable inputs other than Level 1 prices such as quoted prices for similar assets and liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities. Level 2 assets and liabilities include debt securities with quoted prices that are traded less frequently than exchange-traded instruments and derivative contracts whose value is determined using a pricing model with inputs that are observable in the market or can be derived principally from or corroborated by observable market data. This category generally includes certain derivative contracts, residential mortgage servicing rights, impaired loans, and OREO. |
| Level 3 | Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. Level 3 assets and liabilities include financial instruments whose value is determined using pricing models, discounted cash flow methodologies, or similar techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation. For example, this category generally includes certain private equity investments, retained residual interest in securitizations, and highly-structured or long-term derivative contracts. |
Assets and Liabilities Recorded at Fair Value on a Recurring Basis
A financial instrument’s categorization within the valuation hierarchy
Securities Available for Sale. Investment securities available for sale are recorded at fair value on a recurring basis. Fair value measurement is based upon the lowest level of inputquoted prices for similar assets, if available. If quoted prices are not available, fair values are measured using matrix pricing models, or other model-based valuation techniques requiring observable inputs other than quoted prices such as yield curves, prepayment speeds, and default rates. Recurring Level 1 securities would include U.S. Treasury securities that is significant to the fair value measurement. are traded by dealers or brokers in active over-the-counter markets. Recurring Level 2 securities include federal agency securities.
Assets measured at fair value on a recurring basis and reflected in the balance sheet at the dates presented are summarized below:
| March 31, 2012 | | Level 1 | | | Level 2 | | | Total | |
| Assets: (market approach) | | | | | | | | | |
| U.S. GSE debt securities | | $ | 0 | | | $ | 65,901,147 | | | $ | 65,901,147 | |
| U.S. Government securities | | | 7,050,730 | | | | 0 | | | | 7,050,730 | |
| U.S. GSE preferred stock | | | 84,060 | | | | 0 | | | | 84,060 | |
| | | | | | | | | | | | | |
| December 31, 2011 | | | | | | | | | | | | |
| Assets: (market approach) | | | | | | | | | | | | |
| U.S. GSE debt securities | | $ | 0 | | | $ | 60,963,239 | | | $ | 60,963,239 | |
| U.S. Government securities | | | 5,043,555 | | | | 0 | | | | 5,043,555 | |
| U.S. GSE preferred stock | | | 92,123 | | | | 0 | | | | 92,123 | |
| | | | | | | | | | | | | |
| March 31, 2011 | | | | | | | | | | | | |
| Assets: (market approach) | | | | | | | | | | | | |
| U.S. GSE debt securities | | $ | 0 | | | $ | 23,263,005 | | | $ | 23,263,005 | |
| U.S. Government securities | | | 4,030,003 | | | | 1,025,641 | | | | 5,055,644 | |
| U.S. GSE preferred stock | | | 142,039 | | | | 0 | | | | 142,039 | |
| September 30, 2011 | | Level 1 | | | Level 2 | | | Total | |
| Assets: | | | | | | | | | |
| U.S. GSE debt securities | | $ | 0 | | | $ | 26,359,450 | | | $ | 26,359,450 | |
| U.S. Government securities | | | 4,041,970 | | | | 1,003,480 | | | | 5,045,450 | |
| U.S. GSE preferred stock | | | 128,375 | | | | 0 | | | | 128,375 | |
| | | | | | | | | | | | | |
| December 31, 2010 | | | | | | | | | | | | |
| Assets: | | | | | | | | | | | | |
| U.S. GSE debt securities | | $ | 0 | | | $ | 16,313,390 | | | $ | 16,313,390 | |
| U.S. Government securities | | | 4,038,740 | | | | 1,035,946 | | | | 5,074,686 | |
| U.S. GSE preferred stock | | | 42,360 | | | | 0 | | | | 42,360 | |
| | | | | | | | | | | | | |
| September 30, 2010 | | | | | | | | | | | | |
| Assets: | | | | | | | | | | | | |
| U.S. GSE debt securities | | $ | 0 | | | $ | 17,397,920 | | | $ | 17,397,920 | |
| U.S. Government securities | | | 3,034,600 | | | | 2,045,200 | | | | 5,079,800 | |
| U.S. GSE preferred stock | | | 36,298 | | | | 0 | | | | 36,298 | |
Assets and Liabilities Recorded at Fair Value on a Non-Recurring Basis
Mortgage servicing rights. Mortgage servicing rights represent the value associated with servicing residential mortgage loans. Servicing assets and servicing liabilities are reported using the amortization method. In evaluating the carrying values of mortgage servicing rights, the Company obtains third party valuations based on loan level data including note rate, type and term of the underlying loans. As such, the Company classifies mortgage servicing rights as nonrecurring Level 2.
OREO. Real estate acquired through foreclosure is initially recorded at market value. The fair value of other real estate owned is based on property appraisals and an analysis of similar properties currently available. As such, the Company records other real estate owned as nonrecurring Level 2.
Impaired loans. A loan is considered to be impaired when it is probable that all of the principal and interest due under the original underwriting terms of the loan may not be collected. Impairment is measured based on the fair value of the underlying collateral. As such, the Company records impaired loans as nonrecurring Level 2.
The following table includes assets measured at fair value on a nonrecurring basis that have had a fair value adjustment since their initial recognition. Impaired loans measured at fair value only include impaired loans with a related specific allowance for loan losses and are presented net of specific allowances of $383,500 at March 31, 2012, $458,500 at December 31, 2011, and $319,800 at March 31, 2011.
Assets measured at fair value on a nonrecurring basis and reflected in the balance sheet at the dates presented are summarized below:
| September 30, 2011 | | Level 2 | |
| Assets: | | | |
| Residential mortgage servicing rights | | $ | 1,211,219 | |
| Impaired loans, net of related allowance | | | 3,271,384 | |
| | | | | |
| December 31, 2010 | | | | |
| Assets: | | | | |
| Residential mortgage servicing rights | | $ | 1,076,708 | |
| Impaired loans, net of related allowance | | | 2,870,411 | |
| OREO | | | 1,210,300 | |
| | | | | |
| September 30, 2010 | | | | |
| Assets: | | | | |
| Residential mortgage servicing rights | | $ | 962,640 | |
| Impaired loans, net of related allowance | | | 2,817,020 | |
| OREO | | | 1,070,500 | |
Real estate properties acquired through or in lieu of loan foreclosure are carried as OREO and are initially recorded at fair value less estimated selling cost at the date of foreclosure. Any write-downs based on the asset's fair value at the date of acquisition are charged to the allowance for loan losses. After foreclosure, these assets are carried at the lower of their new cost basis or fair value, less estimated cost to sell. Costs of significant property improvements are capitalized, whereas costs relating to holding property are expensed. Appraisals are then done periodically on properties that management deems significant, or evaluations may be performed by management on properties in the portfolio that are less vulnerable to market conditions. Subsequent write-downs are recorded as a charge to operations, if necessary; to reduce the carrying value of a property to the lower of its cost or fair value, less estimated cost to sell.| March 31, 2012 | | Level 2 | |
| Assets: (market approach) | | | |
| Mortgage servicing rights | | $ | 1,100,502 | |
| Impaired loans, net of related allowance | | | 3,573,885 | |
| OREO | | | 220,493 | |
| | | | | |
| December 31, 2011 | | | | |
| Assets: (market approach) | | | | |
| Mortgage servicing rights | | $ | 1,167,808 | |
| Impaired loans, net of related allowance | | | 3,463,540 | |
| OREO | | | 90,000 | |
| | | | | |
| March 31, 2011 | | | | |
| Assets: (market approach) | | | | |
| Mortgage servicing rights | | $ | 1,362,331 | |
| Impaired loans, net of related allowance | | | 2,021,338 | |
| OREO | | | 764,500 | |
There were no transfers between Levels 1 and 2 duringfor the nine months ended September 30, 2011.periods presented. There were no Level 1 or Level 3 financial instruments at September 30, 2011,March 31, 2012, December 31, 2010,2011, or September 30, 2010.March 31, 2011.
FASB ASC Topic 825 “Financial Instruments”, requires disclosures of fair value information about financial instruments, whether or not recognized in the balance sheet, if the fair values can be reasonably determined. Fair value is best determined based upon quoted market prices. However, in many instances, there are no quoted market prices for the Company’s various financial instruments. In cases where quoted market prices are not available, fair values are based on estimates using present value or other valuation techniques using observable inputs when available. Those techniques are significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. Accordingly, the fair value estimates may not be realized in an immediate settlement of the instrument. Topic 825 excludes certain financial instruments and all nonfinancial instruments from its disclosure requirements. Accordingly, the aggregate fair value amounts presented may not necessarily represent the underlying fair value of the Company.
Fair values of financial instruments
The following methods and assumptions were used by the Company in estimating its fair value disclosures for financial instruments:
Cash and cash equivalents: The carrying amounts reported in the balance sheet for cash and cash equivalents approximate their fair values.
Investment securities: The fair value of securities available for sale equals quoted market prices, if available. If quoted market prices are not available, fair value is determined using quoted market prices for similar securities. Level 1 securities include certain U.S. Government securities and U.S. GSE preferred stock. Level 2 securities include asset-backed securities, including obligations of U.S. GSEs and certain U.SU.S. Government securities.
Restricted equity securities: Restricted equity securities are comprised of Federal Reserve Bank of Boston (FRBB)FRBB stock and Federal Home Loan Bank of Boston (FHLBB)FHLBB stock. These securities are carried at cost, which is believed to approximate fair value, based on the redemption provisions of the FRBB and the FHLBB. The stock is nonmarketable, and redeemable at par value.value, subject to certain conditions, and, in the case of FHLBB stock, a moratorium on redemptions.
Loans and loans held-for-sale: For variable-rate loans that reprice frequently and with no significant change in credit risk, fair values are based on carrying amounts. The fair values for other loans (for example, fixed rate residential, commercial real estate, and rental property mortgage loans, and commercial and industrial loans) are estimated using discounted cash flow analyses, based on interest rates currently being offered for loans with similar terms to borrowers of similar credit quality. Loan fair value estimates include judgments regarding future expected loss experience and risk characteristics. The carrying amounts reported in the balance sheet for loans that are held-for-sale approximate their fair values. Loan impairment is deemed to exist when full repayment of principal and interest according to the contractual terms of the loan is no longer probable. Impaired loans are reported based on one of three measures: the present value of expected future cash flows discounted at the loan’s effective interest rate; the loan’s observable market price; or the fair value of the collateral if the loan is collateral dependent. If the fair value is less than an impaired loan’s recorded investment, an impairment loss is recognized as part of the ALL.allowance for loan losses. Accordingly, certain impaired loans may be subject to measurement at fair value on a non-recurring basis. Management has estimated the fair values of these assets using Level 2 inputs, such as the fair value of collateral based on independent third-party appraisals for collateral-dependent loans.
The fair value of loans held-for-sale is based upon an actual purchase and sale agreement between the Company and an independent market participant. The sale is executed within a reasonable period following quarter end at the stated fair value.
Mortgage servicing rights: Mortgage servicing rights are evaluated regularly for impairment based upon the fair value of the servicing rights as compared to their amortized cost. The fair value of mortgage servicing rights is based on a valuation model that calculates the present value of estimated net servicing income, with loans divided into strata for valuation purposes based on their rates, terms and other features. The Company obtains a third party valuation based upon loan level data, including note rate, type and term of the underlying loans.term. The model utilizes a variety of observable inputs for its assumptions, the most significant of which are loan prepayment assumptions and the discount rate used to discount future cash flows. Mortgage servicing rights are subject to measurement at fair value on a nonrecurring basis and are classified as Level 2 assets.
Deposits, federal funds purchased and borrowed funds: The fair values disclosed for demand deposits (for example, checking and savings accounts) are, by definition, equal to the amount payable on demand at the reporting date (that is, their carrying amounts). The fair values for certificates of deposit and debtborrowed funds are estimated using a discounted cash flow calculation that applies interest rates currently being offered on certificates and debtindebtedness to a schedule of aggregated contractual maturities on such time deposits and debt.indebtedness.
Junior subordinated debentures: Fair value is estimated using current rates for debentures of similar maturity.
Capital lease obligations: Fair value is determined using a discounted cash flow calculation using current rates. Based on current rates, carrying value approximates fair value.
Accrued interest: The carrying amounts of accrued interest approximate their fair values.
Off-balance-sheet credit related instruments: Commitments to extend credit were evaluated and fair value was estimated using the fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the present credit-worthiness of the counterparties. For fixed-rate loan commitments, fair value also considers the difference between current levels of interest rates and the committed rates.
The estimated fair values of the Company's financial instruments were as follows:
| | | September 30, 2011 | | | December 31, 2010 | | | September 30, 2010 | |
| | | Carrying | | | Fair | | | Carrying | | | Fair | | | Carrying | | | Fair | |
| | | Amount | | | Value | | | Amount | | | Value | | | Amount | | | Value | |
| | | (Dollars in Thousands) | |
| Financial assets: | | | | | | | | | | | | | | | | | | |
| Cash and cash equivalents | | $ | 47,759 | | | $ | 47,759 | | | $ | 51,448 | | | $ | 51,448 | | | $ | 17,001 | | | $ | 17,001 | |
| Securities held-to-maturity | | | 36,898 | | | | 37,397 | | | | 37,441 | | | | 38,157 | | | | 53,146 | | | | 53,734 | |
| Securities available-for-sale | | | 31,533 | | | | 31,533 | | | | 21,430 | | | | 21,430 | | | | 22,514 | | | | 22,514 | |
| Restricted equity securities | | | 4,309 | | | | 4,309 | | | | 4,309 | | | | 4,309 | | | | 3,907 | | | | 3,907 | |
| Loans and loans held-for-sale, net | | | 387,104 | | | | 398,640 | | | | 387,631 | | | | 397,123 | | | | 386,228 | | | | 400,373 | |
| Mortgage servicing rights | | | 1,135 | | | | 1,211 | | | | 1,077 | | | | 1,056 | | | | 946 | | | | 963 | |
| Accrued interest receivable | | | 1,670 | | | | 1,670 | | | | 1,790 | | | | 1,790 | | | | 1,927 | | | | 1,927 | |
| | | | | | | | | | | | | | | | | | | | | | | | | |
| Financial liabilities: | | | | | | | | | | | | | | | | | | | | | | | | |
| Deposits | | | 451,163 | | | | 454,429 | | | | 438,192 | | | | 440,913 | | | | 419,684 | | | | 422,897 | |
| Federal funds purchased and other | | | | | | | | | | | | | | | | | | | | | | | | |
| borrowed funds | | | 18,010 | | | | 18,437 | | | | 33,010 | | | | 33,250 | | | | 33,010 | | | | 33,481 | |
| Repurchase agreements | | | 24,091 | | | | 24,091 | | | | 19,108 | | | | 19,108 | | | | 19,447 | | | | 19,447 | |
| Capital lease obligations | | | 800 | | | | 800 | | | | 835 | | | | 835 | | | | 846 | | | | 846 | |
| Subordinated debentures | | | 12,887 | | | | 11,883 | | | | 12,887 | | | | 13,155 | | | | 12,887 | | | | 12,324 | |
| Accrued interest payable | | | 138 | | | | 138 | | | | 192 | | | | 192 | | | | 202 | | | | 202 | |
| March 31, 2012 | | Carrying | | | Fair | | | Fair | | | Fair | | | Fair | |
| | | Amount | | | Value | | | Value | | | Value | | | Value | |
| | | (Dollars in Thousands) | |
| Financial assets: | | | | | Level 1 | | | Level 2 | | | Level 3 | | | Total | |
| Cash and cash equivalents | | $ | 8,985 | | | $ | 8,985 | | | $ | 0 | | | $ | 0 | | | $ | 8,985 | |
| Securities held-to-maturity | | | 33,563 | | | | 0 | | | | 34,168 | | | | 0 | | | | 34,168 | |
| Securities available-for-sale | | | 73,036 | | | | 7,135 | | | | 65,901 | | | | 0 | | | | 73,036 | |
| Restricted equity securities | | | 4,021 | | | | 0 | | | | 4,021 | | | | 0 | | | | 4,021 | |
| Loans and loans held-for-sale | | | | | | | | | | | | | | | | | | | | |
| Commercial | | | 46,456 | | | | 0 | | | | 0 | | | | 47,093 | | | | 47,093 | |
| Commercial real estate | | | 130,920 | | | | 0 | | | | 0 | | | | 132,599 | | | | 132,599 | |
| Residential real estate - 1st lien | | | 164,106 | | | | 0 | | | | 0 | | | | 170,681 | | | | 170,681 | |
| Residential real estate - Jr. lien | | | 45,346 | | | | 0 | | | | 0 | | | | 46,234 | | | | 46,234 | |
| Consumer | | | 11,001 | | | | 0 | | | | 0 | | | | 11,438 | | | | 11,438 | |
| Mortgage servicing rights | | | 1,069 | | | | 0 | | | | 1,101 | | �� | | 0 | | | | 1,200 | |
| Accrued interest receivable | | | 1,846 | | | | 0 | | | | 1,846 | | | | 0 | | | | 1,846 | |
| March 31, 2012 | | Carrying | | | Fair | | | Fair | | | Fair | | | Fair | |
| | | Amount | | | Value | | | Value | | | Value | | | Value | |
| | | (Dollars in Thousands) | |
| Financial liabilities: | | | | | Level 1 | | | Level 2 | | | Level 3 | | | Total | |
| Deposits | | | | | | | | | | | | | | | |
| Other deposits | | $ | 428,467 | | | $ | 0 | | | $ | 431,115 | | | $ | 0 | | | $ | 431,115 | |
| Brokered deposits | | | 25,526 | | | | 0 | | | | 25,546 | | | | 0 | | | | 25,546 | |
| Federal funds purchased and short term-borrowings | | | 8,760 | | | | 0 | | | | 8,760 | | | | 0 | | | | 8,760 | |
| Long-term borrowings | | | 12,010 | | | | 0 | | | | 12,383 | | | | 0 | | | | 12,383 | |
| Repurchase agreements | | | 24,770 | | | | 0 | | | | 24,770 | | | | 0 | | | | 24,770 | |
| Capital lease obligations | | | 818 | | | | 0 | | | | 818 | | | | 0 | | | | 818 | |
| Subordinated debentures | | | 12,887 | | | | 0 | | | | 12,361 | | | | 0 | | | | 12,361 | |
| Accrued interest payable | | | 138 | | | | 0 | | | | 138 | | | | 0 | | | | 138 | |
| | | December 31, 2011 | | | March 31, 2011 | |
| | | Carrying | | | Fair | | | Carrying | | | Fair | |
| | | Amount | | | Value | | | Amount | | | Value | |
| | | (Dollars in thousands) | |
| Financial assets: | | | | | | | | | | | | |
| Cash and cash equivalents | | $ | 23,465 | | | $ | 23,465 | | | $ | 34,121 | | | $ | 34,121 | |
| Securities held-to-maturity | | | 29,702 | | | | 30,289 | | | | 37,949 | | | | 38,442 | |
| Securities available-for-sale | | | 66,099 | | | | 66,099 | | | | 28,461 | | | | 28,461 | |
| Restricted equity securities | | | 4,309 | | | | 4,309 | | | | 4,309 | | | | 4,309 | |
| Loans and loans held-for-sale, net | | | 384,793 | | | | 395,386 | | | | 384,247 | | | | 393,310 | |
| Mortgage servicing rights | | | 1,097 | | | | 1,168 | | | | 1,253 | | | | 1,362 | |
| Accrued interest receivable | | | 1,701 | | | | 1,701 | | | | 1,966 | | | | 1,966 | |
| | | | | | | | | | | | | | | | | |
| Financial liabilities: | | | | | | | | | | | | | | | | |
| Deposits | | | 454,393 | | | | 457,347 | | | | 437,557 | | | | 439,994 | |
| Federal funds purchased and other | | | | | | | | | | | | | | | | |
| borrowed funds | | | 18,010 | | | | 18,404 | | | | 18,010 | | | | 18,240 | |
| Repurchase agreements | | | 21,645 | | | | 21,645 | | | | 21,480 | | | | 21,480 | |
| Capital lease obligations | | | 833 | | | | 833 | | | | 824 | | | | 824 | |
| Subordinated debentures | | | 12,887 | | | | 11,691 | | | | 12,887 | | | | 13,366 | |
| Accrued interest payable | | | 150 | | | | 150 | | | | 175 | | | | 175 | |
The estimated fair values of commitments to extend credit and letters of credit were immaterial as of the dates presented in the above table.
Note 9. Mortgage8. Loan Servicing Rights
The following table shows the changes in the carrying amount of the mortgage servicing rights for the periods indicated:
| | | September 30, | | | December 31, | | | September 30, | | | March 31, | | | December 31, | | | March 31, | |
| | | 2011 | | | 2010 | | | 2010 | | | 2012 | | | 2011 | | | 2011 | |
| | | | | | | | | | | | | | | | | | | |
| Balance at beginning of year | | $ | 1,076,708 | | | $ | 932,961 | | | $ | 932,961 | | | $ | 1,097,442 | | | $ | 1,076,708 | | | $ | 1,076,708 | |
| Mortgage servicing rights capitalized | | | 238,117 | | | | 403,026 | | | | 203,417 | | | | 98,317 | | | | 355,730 | | | | 107,216 | |
| Mortgage servicing rights amortized | | | (260,597 | ) | | | (392,233 | ) | | | (295,124 | ) | | | (90,181 | ) | | | (346,165 | ) | | | (82,273 | ) |
| Change in valuation allowance | | | 80,888 | | | | 132,954 | | | | 104,812 | | | | (36,161 | ) | | | 11,169 | | | | 151,662 | |
| Balance at end of period | | $ | 1,135,116 | | | $ | 1,076,708 | | | $ | 946,066 | | | $ | 1,069,417 | | | $ | 1,097,442 | | | $ | 1,253,313 | |
Note 10.9. Legal Proceedings
In the normal course of business the Company and its subsidiary are involved in litigation that is considered incidental to their business. Management does not expect that any such litigation will be material to the Company's consolidated financial condition or results of operations.
Note 11.10. Subsequent Event
The Company has evaluated events and transactions through the date that the financial statements were issued for potential recognition or disclosure in these financial statements, as required by GAAP. On SeptemberMarch 13, 2011,2012, the Company declared a cash dividend of $0.14 per common share payable NovemberMay 1, 20112012 to shareholders of record as of OctoberApril 15, 2011.2012. This dividend, amounting to $655,132,$661,881, was accrued at September 30, 2011.March 31, 2012. ITEM 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
for the Period Ended September 30, 2011March 31, 2012
The following discussion analyzes the consolidated financial condition of Community Bancorp. (the “Company”)Company) and its wholly-owned subsidiary, Community National Bank, as of September 30, 2011,March 31, 2012, December 31, 20102011 and September 30, 2010,March 31, 2011, and its consolidated results of operations for the periods then ended. The Company is considered a “smaller reporting company” under applicable regulations of the Securities and Exchange Commission (SEC) and is therefore eligible for relief from certain disclosure requirements. In accordance with such provisions, the Company has elected to provide its audited consolidated statements of income, comprehensive income, cash flows and changes in shareholders’ equity for two, rather than three, years.
The following discussion should be read in conjunction with the Company’s audited consolidated financial statements and related notes contained in its 20102011 Annual Report on form 10-K filed with the SEC.
FORWARD-LOOKING STATEMENTS
The Company'sfollowing Management's Discussion and Analysis of Financial Condition and Results of Operations contains certain forward-looking statements about the results of operations, financial condition and business of the Company and its subsidiary. When used therein, the words "believes," "expects," "anticipates," "intends," "estimates," "plans," "predicts," or similar expressions, indicate that management of the Company is making forward-looking statements.
Forward-looking statements are not guarantees of future performance. They necessarily involve risks, uncertainties and assumptions. Future results of the Company may differ materially from those expressed in these forward-looking statements. Examples of forward looking statements included in this discussion include, but are not limited to, estimated contingent liability related to assumptions made within the asset/liability management process, management's expectations as to the future interest rate environment and the Company's related liquidity level, credit risk expectations relating to the Company's loan portfolio and its participation in the Federal Home Loan Bank of Boston (FHLBB) Mortgage Partnership Finance (MPF) program, and management's general outlook for the future performance of the Company, summarized below under "Overview". Although forward-looking statements are based on management's current expectations and estimates, many of the factors that could influence or determine actual results are unpredictable and not within the Company's control. Readers are cautioned not to place undue reliance on such statements as they speak only as of the date they are made. The Company does not undertake, and disclaims any obligation, to revise or update any forward-looking statements to reflect the occurrence or anticipated occurrence of events or circumstances after the date of this Report, except as required by applicable law. The Company claims the protection of the safe harbor for forward-looking statements provided in the Private Securities Litigation Reform Act of 1995.
Factors that may cause actual results to differ materially from those contemplated by these forward-looking statements include, among others, the following possibilities: (1) general economic conditions, either nationally, regionally or locally continue to deteriorate, resulting in a decline in credit quality or a diminished demand for the Company's products and services; (2) competitive pressures increase among financial service providers in the Company's northern New England market area or in the financial service industry generally, including competitive pressures from non-bank financial service providers, from increasing consolidation and integration of financial service providers, and from changes in technology and delivery systems; (3) interest rates change in such a way as to reduce the Company's margins; (4) changes in laws or government rules, or the way in which courts and government agencies interpret or implement those laws or rules, increase our costs of doing business or otherwise adversely affect the Company's business; (5) changes in federal or state tax policy; (6) changes in the level of nonperforming assets and charge-offs; (7) changes in estimates of future reserve requirements based upon relevant regulatory and accounting requirements; (8) changes in consumer and business spending, borrowing and savings habits; and (9) the effect of and changes in the United States monetary and fiscal policies, including the interest rate policies, regulation of the money supply by the Federal Reserve Board, and adverse changes in the credit rating of U.S. government debt.
NON-GAAP FINANCIAL MEASURES
Under SEC Regulation G, public companies making disclosures containing financial measures that are not in accordance with generally accepted accounting principles in the United States (U.S.(US GAAP or GAAP) must also disclose, along with each non-GAAP financial measure, certain additional information, including a reconciliation of the non-GAAP financial measure to the closest comparable GAAP financial measure, as well as a statement of the company’s reasons for utilizing the non-GAAP financial measure. The SEC has exempted from the definition of non-GAAP financial measures certain commonly used financial measures that are not based on GAAP. However, two non-GAAP financial measures commonly used by financial institutions, namely tax-equivalent net interest income and tax-equivalent net interest margin, have not been specifically exempted by the SEC, and may therefore constitute non-GAAP financial measures under Regulation G. We are unable to state with certainty whether the SEC would regard those measures as subject to Regulation G.
Management believes that these non-GAAP financial measures are useful in evaluating the Company’s financial performance and facilitate comparisons with the performance of other financial institutions. However, that information should be considered supplemental in nature and not as a substitute for related financial information prepared in accordance with GAAP.
OVERVIEW
TotalThe Company’s consolidated assets at September 30, 2011on March 31, 2012 were $550,721,926 compared to $545,932,649 at December 31, 2010 and $526,913,665 at September 30, 2010,$558,806,626, an increase of 0.9%$5,901,109, or 1.1% from December 31, 2011, and 4.5%, respectively. Year over year, the balance sheet grew $23,808,261an increase of $25,968,488, or 4.9% from March 31, 2011. The most significant change in assets in both comparison periods was a decrease in cash and $4,789,277 was since year end. The growth of the balance sheet was from an increase in cashinvestments and loans offset by a decrease in investmentsas the Company shifted cash into higher yielding assets. Cash decreased $14,480,259 from year end and $25,136,887 year over year. The funds were utilized to increase the sale of other real estate owned. The growth was funded by an increase in deposits of $31,479,305, or 7.5%available-for-sale portfolio, which increased $6,937,021 from year end and $44,575,250 year over year and $12,971,072, or 2.96% forto fund loans, which also increased $9,157,327 from year end and $9,821,612 from March 31, 2011. Deposits increased $16,835,962 from March 31, 2011 to December 31, 2011, while NOW accounts decreased $17,327,339 during the first nine monthsquarter of 2011.2012, mostly due to cyclical fluctuations in the balances of municipal customer accounts, as account balances typically increase during the second and third quarters of the year and then run off during the first half of the following year. The increasedecrease in certificates of deposits under $100,000 year over year was from anis due in part to the low interest rate environment while the increase in core deposit accountstime deposits from year end to March 31, 2012 is due to $11,476,000 in one-way funds purchased through Certificate of $33 million,Deposit Account Registry Service (CDARS) of which $13.5 million was an increasePromontory Interfinancial Network during the quarter to help fund loan demand. Demand for commercial loans increased since year end and demand for 1-4 family residential loans has remained steady. The Company has retained in an account with the Company's trust company affiliate, Community Financial Service Group (CFSG). While there was an increase in core deposits and an increase in saving accounts of $4.8 million, certificate of deposits (CDs) balances were down $6 million. Someloan portfolio some 10 – 15 year mortgages to help maintain the level of the inflow of deposits was used1-4 family loans, while continuing to pay off a $15 million advance with the Federal Home Loan Bank of Boston (FHLBB). The Company believes that the low rate environment and the instabilitysell 30 year mortgage loans in the stocksecondary market have contributed to some of the increases in deposit balances, as maturing CDs are left in non maturing deposit accounts, and they may become volatile asmanage interest rates rise and the market stabilizes.rate risk.
Net income for the thirdfirst quarter of 2012 was $964,849 or $0.19 per common share compared to $944,868 also $0.19 per common share for the first quarter of 2011. Although earnings increased over the 2011 comparison period, an increase in the weighted average number of common shares of 100,533 resulted in the same level of earnings per common share. Net interest income increased in the first quarter of 2012 compared to the first quarter of 2011, was $820,624 compared to $787,805 for the third quarter of 2010, an increase of 4.2%, resultingdespite a decline in earnings per common share of $0.17 and $0.16 for the respective quarters. Net interest income, was $4,336,750 for the third quarter of 2011 compared to $4,341,381 for the third quarter of 2010, a decrease of 0.11%. The historic low interest rate environment has allowed the Company to fund the balance sheet with lower cost funds during the first part of 2011, however, as rates paid on deposits have fallen to such historically low levels, the Company’s ability to further lower its interests costs has become limited, resulting in additional pressure on the net interest spread as the yields on earning assets continue to decline.
Non interest income for the third quarter was $1,114,448 compared to $1,230,782, a decrease of 9.5%. While income from interchange fees has increased, loan fees have decreased relativedue to a decrease in interest expense. The lower interest expense was attributed to a combination of the decrease in other time deposits and a decrease in rates paid on interest bearing deposits and borrowed funds. Non-interest income decreased during the first quarter of 2012 compared to the first quarter 2011, due in part to a decrease in fee income from the sale of residential loans sold onin the secondary market. Non interest expenses for the quarter decreased by 1.7% compared to the third quarter last year. Increases in expenses related to collections and non-accrual loans were offset by decreases in FDIC insurance of $73,832 for the comparison period due to a change in the formula used to assess deposit insurance premiums effective April 1, 2011. The new formula assesses premiums based on average consolidated total assets minus average tangible equity, rather than based on domestic deposits. The new formula, combined with some changes to the assessment rates, resulted in lower premiums for the Company. The amortization of the core deposit intangible from the 2007 acquisition of LyndonBank continues to decrease with a difference of $26,631 from quarter to quarter. Also contributing to the difference is an impairment write down to mortgage servicing rights in 2012 of $36,161 versus a positive adjustment of $104,179 in 2011. Operating expenses increased $200,418, of which $173,171 was attributed to an increase in net income was the provision for loan lossesamortization of $287,500 for the third quarter of 2011 compared to a provision of $433,334 for the same periodCompany’s investment in 2010, a decrease of 33.7%. The provision for loan losses for the nine months was $712,500 in 2011 compared to $858,334 in 2010, a decrease of 17.0%.tax credit projects.
EconomicOn March 13, 2012, the Company's Board of Directors declared a quarterly cash dividend of $0.14 per common share, payable on May 1, 2012 to shareholders of record on April 15, 2012. The Company is focused on increasing the profitability of the balance sheet, improving expense efficiency, and laborprudently managing risk, particularly credit risk, in order to remain a well-capitalized bank in this challenging economic environment.
The national economy is showing signs of a gradual recovery from the recent recession; however the pace of the recovery has been slow. Spending, production and job market information indicatesactivity indicate the economy is expanding moderately, yet these gains are overshadowed by a widening federal budget deficit and global economic turbulence from the European debt crisis which leaves the economy vulnerable to shocks. The Federal Reserve’s Open Market Committee recently indicated that they expect somewhat stronger growth in 2012 than in 2011; however the Stateoutlook remains uncertain, and close monitoring of economic developments will remain necessary. More locally, economic indicators in Vermont, such as the unemployment rate and employment by industry, are more positive. The current unemployment rate in Vermont is recovering, howeverlower by 1.0 percentage point compared to the prior year. According to industry statistics, real estate sales activity increased in 2011. Vermont’s residential real estate market improved slowly since the lows of 2009 – 2010, with a gradual increase in median sale prices across most counties. New construction remains sluggish with the relative cost of existing homes much less than building construction. In the farming sector, average milk prices in 2011 exceeded the average price for 2010 and cautiously. The impact of Hurricane Irene is still evidentare projected to decrease only slightly in sections of Central Vermont where some towns were cut off from the outside world because of flooding that knocked out bridges and destroyed roadways. The Company was fortunate to have all its branches and employees unaffected by the storm. Unfortunately, some of the Company’s customers suffered significant damage from flooding. One loan in the amount of $1 million was subsequently placed in non accrual status as a result of the damage from the flooding and due to a disruption in business activity.2012. Employers in the manufacturing, professional and business services and tourism industries are reporting significant over-the-year increases in employment. While these trends are encouraging, it will take time before enough jobs are added to recoup the number of jobs that were lost during the economic downturn. Particularly hard hit are those who have been unemployed for an extended period of time. Conditions are generally better than 2010, however of great concern is the rising price of fuel and the impact it will have to the consumer and all sectors of the economy. The manufacturing industry was hardest hit early in the recession, however reports from two local manufacturers of wood products indicate that production has increased and they have increased work hours for production crews. In the farming sector, milk prices increased during 2010 and have remained at these levels for the first half of 2011; however production costs are a challenge with the rising cost of fuel and feed. The 2011 construction season was improved for both commercial and residential contractors, however is likely to slow down for the winter season. Some commercial contractors continue to work at the local ski resort that is undergoing a major expansion. Tourism activity during the 2011 summerfall foliage season and early winter was good with local hotels reporting stable bookings. Local real estate agents reportbookings; however lack of snowfall had a negative impact on hotels, restaurants and convenience stores that sales have increased across all price points. Anotherrely on those who travel to the area for skiing and snowmobiling. A positive note for the northeasternaddition to Northern Vermont market area is the locala multi-phase ski area expansion project referred to above, where construction of two hotels, a hockey arena, an indoor water park and a golf clubhouse are expected to transform thelocal ski resort that continues to expand into a year-roundyear round indoor and outdoor recreation destination resort. The golf clubhouse was open forAlready completed is an 84-room hotel and improvements to the summer seasonbase facility, lifts, a new ski shop, a learn-to-ski center, and a childcare facility. Plans also include a zip line, ropes course, and mountain bike trail development. Towards the hockey arena is in its secondend of last year, of operation. Thethe new indoor water park opened its doors and helped the secondresort survive the winter of less than average snow fall. The ice arena also opened a few years ago as well as a multi level parking garage. The newest expansion has been the construction of a 176 suite hotel are scheduledthat is connected to open in time for the holiday season.water park, several restaurants and fitness room. The project continues with an expansion and revitalization of the portion of the ski trails. This project is expected to havehas injected $90nearly $100 million of construction funding into the local economy over the last two years utilizing Federal EB5 program capital from foreign investors.investors and has created many jobs for the area.
While there arethe trends in 2011 and the first quarter of 2012 have created some signs of a recovery,welcome distance from the recent recession, maythe rising price of fuel and other consumer goods will continue to have a negative impact onadversely the consumer and all sectors of the economy, particularly as it relates to credit performance, which tends to lag economic cycles. Although the Company saw an increase in past dues and non-performing loans during 2010 while customers struggled to make their mortgage payments due to layoffs, reduced income and high levels of other consumer debt, the situation moderated slightly during the first half of 2011. The CompanyManagement considers the level of past dues and delinquencies manageable and the Company’s level of non-performing assets, net of government guarantees, remains well below the Company’s national peer group as defined by the Federal Financial Institutions Examinations Council in the Uniform Bank Performance Report (financial institutions with $500,000,000 to $1,000,000,000 in assets). Thesethese economic factors, are consideredamong others, in assessing the level of the Company’s reserve for loan losses in an effort to adequately reserve for probable losses due to consequences of the recession. As mentioned above, theThe Company recorded a provision for loan losses of $287,500$250,003 in the thirdfirst quarter of 20112012 compared to $433,334$187,500 in the secondfirst quarter of 2010.
Implementation continues by2011. The methodology used to calculate the federal banking agencies ofallowance for loan losses combines historical elements, delinquent and non-performing loan trends and factors that reflect the numerous mandates created by the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (the “Dodd-Frank Act”). Most recently, the Federal Reserve Board issued a final rulecurrent economic environment; this methodology is described in July 2011, establishing standards for debit card interchange fees and prohibiting network exclusivity arrangements and routing restrictions. This rule, Regulation II (Debit Card Interchange Fees and Routing), is required by the Dodd-Frank Act. Debit card interchange fees are established by payment card networks and ultimately paid by merchants to debit card issuers for each electronic debit transaction. As required by the statute, the final rule establishes standards for assessing whether debit card interchange fees received by debit card issuers are reasonable and proportional to the costs incurred by issuers for electronic debit transactions. Under the final rule, the maximum permissible interchange fee that an issuer may receive for an electronic debit transaction is the sum of 21 cents per transaction and 5 basis points multiplied by the value of the transaction. This provision regarding debit card interchange fees is effective on October 1, 2011. This rule is likely to have an adverse impact on bank fee income, even for smaller institutions like the Company that are not directly subject to the rule as competitive pricing pressuresdetail in the market place effectively drive down interchange fees for all banks.
As required by the Dodd-Frank Act, the Federal Reserve repealed its Depression-era Regulation Q, effective July 21, 2011, which had prohibited the paymentCredit Risk section of interest on demand deposits. Repeal of the prohibition will likely affect the competitive landscape for deposit-gathering, including possibly resulting in higher interest expense for the Company in order to attract and retain deposits. The Company expects the extended low rate environment will delay any impact from this change in regulation.report.
The regulatory environment continues to increase operating costs and place extensive burden on personnel resources to comply with rules such asa myriad of legal requirements, including those under the Dodd-Frank Act of 2010, the Sarbanes-Oxley Act of 2002, the USUSA Patriot Act, and the Bank Secrecy Act, the Real Estate Settlement Procedures Act and the Truth in Lending Act. This burdenIt is unlikely that these administrative costs and burdens will only increasemoderate in the coming years with the multi-year process of regulatory implementation of the Dodd-Frank Act including mandates from the new Consumer Financial Protection Bureau, which are likely to establish new “best practices” in numerous compliance areas, even for institutions like the Company that are not directly subject to its jurisdiction. In addition, as with other SEC-registered companies, the Company is now required to prepare, file and make publicly available on its website, its financial information in Xtendible Business Reporting Language (XBRL) format. This new regulatory mandate will result in additional administrative cost to the Company to ensure ongoing compliance.
In May, 2011, the Vermont legislature enacted a first-in-the-nation single-payer health care reform act with the ultimate goal of controlling health care spending and providing universal health insurance for all residents of the State. Implementation of the act will occur over a period of years and will require significant rulemaking. The funding sources and mechanisms are as yet unclear, as is the exact manner in which Vermont’s new universal health care system will be integrated with the national system under the federal Patient Protection and Affordable Care Act of 2010. The financial and other impacts of these federal and state health care reforms on the Company cannot be precisely predicted at this time. The Company will continue to monitor the effect of these laws.
The Comptroller of the Currency recently issued, for public disclosure, the Bank’s Community Reinvestment Act Performance Evaluation with a rating of Outstanding. This is a result of an evaluation of the Bank’s record of meeting the credit needs of its entire community, including low- and moderate-income neighborhoods while maintaining safe and sound practices. The report states that the Bank’s community development performance demonstrates excellent responsiveness to community development needs in its assessment areas, which include low-and moderate-income neighborhoods, through community development loans, investments, and services.future.
On September 13, 2011,April 5, 2012, President Obama signed into law the Company's BoardJumpstart Our Business Startups Act (JOBS Act) which contains various provisions to facilitate capital funding by small businesses, and increases the threshold for registration as a public company under the Securities and Exchange Act of Directors declared a quarterly cash dividend of $0.14 per common share, payable on November 1, 2011 to1934 for banks and bank holding companies from 500 shareholders of record on October 15, 2011. Theto 2,000 and increases the threshold for a deregistration from 300 to 1200. Management of the Company is focusedcurrently evaluating the JOBS Act and its potential impact on increasing the profitability of the balance sheet, improving expense efficiency, and prudently managing risk, particularly as it pertains to credit in order to remain a well-capitalized bank in this challenging economic environment.Company.
The following pages describe our thirdfirst quarter financial results in much more detail. Please take the time to read them to more fully understand the quarter and ninethree months ended September 30, 2011March 31, 2012 in relation to the 20102011 comparison periods. The discussion below should be read in conjunction with the Consolidated Financial Statements of the Company and related notes contained in this report and in the Company's Annual Report on Form 10-K for the year ended December 31, 2010.2011.
CRITICAL ACCOUNTING POLICIES
The Company’s significant accounting policies, which are described in Note 1 (Significant Accounting Policies) to the Company’s consolidated financial statements in its 2010the December 31, 2011 Annual Report on Form 10-K, are fundamental to understanding the Company’s results of operations and financial condition because they require management to use estimates and assumptions that may affect the value of the Company’s assets or liabilities and financial results. Five of these policies are considered by management to be critical because they require difficult, subjective and complex judgments about matters that are inherently uncertain and because it is likely that materially different amounts would be reported under different conditions or using different assumptions. The critical accounting policies govern:
· the allowance for creditloan losses;
· other real estate owned (OREO);
· valuation of residential mortgage servicing rights (MSRs);
· other than temporary impairment of investment securities; and
· the carrying value of goodwill.
These policies are described further in the Company’s 2010December 31, 2011 Annual Report on Form 10-K in the section titled “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Critical Accounting Policies” and in Note 1 (Significant Accounting Policies) to the consolidated financial statements. There have been no material changes in the critical accounting policies described in the 20102011 Annual Report on Form 10-K.
RESULTS OF OPERATIONS
The Company’s net income for the thirdfirst quarter of 20112012 was $820,624,$964,849, representing an increase of $32,819$19,981 or 4.2%2.1% over net income of $787,805$944,868 for the thirdfirst quarter of 2010.2011. This resulted in earnings per common share of $0.17 and $0.16, respectively,$0.19 for the third quarters of 2011 and 2010. Net income forboth the first nine monthsquarter of 2011 was $2,636,811 compared to $2,459,250 for the same period in 2010, an increase of $177,561 or 7.2%. This resulted in earnings per common share for the nine month periods of $0.54 for 20112012 and $0.51 for 2010.2011. Core earnings (net interest income) for the thirdfirst quarter of 2011 decreased slightly, $4,6312012 increased $153,327 or 0.1%3.7%, compared to the thirdfirst quarter of 2010. Interest2011. Although interest income for the third quarter decreased $270,475$87,216 or 4.5%1.5%, just slightlythis decrease was more than theoffset by a decrease in interest expense of $265,844$240,543 or 16.5%, accounting for the decrease quarter over quarter. Loans decreased $472,691 or 0.12% from year end while an increase of $939,978 or 0.24% is noted15.9% year over year. These moderate changesDespite a $9,821,612 or 2.5% increase in the loan portfolio, as well as a decrease in interest rates throughout the comparisonloans between periods, contributed to the decrease in interest and fees on loans, the major component of interest income, in both the third quarter and nine month comparison periods. Net interest income for the first nine months of 2011 increased $18,525decreased by $124,131 or 0.14% over the first nine months of 2010. Interest income for the first nine months of 2011 decreased $638,925 or 3.6% while2.3%, due to a decrease in interest expense of $657,450 or 13.3% was noted year over year.rates between periods. Interest expense on deposits, the major component of total interest expense, decreased $490,920$209,492 or 13.6%18.8% between periods, attributable in partprimarily to a decrease of $6,180,598 or 4.2% in time deposits as well as a decrease in the rates paid on interest-bearing deposit accounts. NOW accounts increased $23,185,519 or 24.9% and money market accounts increased $5,778,019 or 8.7%, while the rate paid on these accounts decreased, contributing to the decrease in interest expense on deposits.
As a result of the 2007 LyndonBank merger, the Company is required to amortize the fair value adjustments of the acquired loans and time deposits against net interestNon-interest income and the core deposit intangible against non-interest expense. The loan fair value adjustment was a net premium, creating a decrease in interest income of $16,153 for the third quarter of 2011 compared to a decrease of $11,662 for the third quarter of 2010 and year to date decreases of $47,317 and $44,396, respectively, for 2011 and 2010. The certificate of deposit fair value adjustment was fully amortized as of December 31, 2010, thus resulting in no earnings impact in the first nine months of 2011, compared to an interest expense of $182,000 for the same period last year. The amortization of the core deposit intangible amounted to adecreased $104,492 or 7.2%, while non-interest expense of $106,522 for the third quarter of 2011, compared to $133,152 for the third quarter of 2010 and year to date non-interest expense of $319,565 for 2011 and $399,456 for 2010.
Other income, a component of non-interest income, decreased $75,780increased $200,418 or 18.6% for the third quarter of 2011 compared to the third quarter of 2010, while an increase of $207,270 or 15.7% was noted4.6% for the first nine monthsquarter of 2011,2012 when compared to the first nine monthsquarter of 2010.2011. Mortgage servicing rights was the major component of the $204,630 or 115.9% decrease in non-interest income between the comparison periods. Fees related to the servicing of loans sold on the secondary market increased $14,535$89,107 or 10.8%27.3%, for the thirdfirst quarter of 20112012 compared to the samefirst quarter in 2010, and $43,6702011. Exchange income, a component of other income, decreased $14,000 or just over 11.0%38.9% for the first ninethree months of 2012, from $36,000 in 2011 compared to the same period$22,000 in 2010. Mortgage servicing rights decreased $117,386 with a net expense of $67,229 recorded for the third quarter of 2011 versus income of $50,157 for the third quarter of 2011, while an increase of $46,770 is noted year over year with income of $59,875 for 2011 compared to $13,105 for 2010. The volume of loans sold during the third quarter of 2011 was $7,615,257 compared to $10,737,833 for the third quarter of 2010. This decrease, along with the prolonged low interest rate environment, are both factors of the decrease in the income on mortgage servicing rights for that comparison period.2012. Income from the Company’s trust and investment management affiliate, CFSG, increased $56,827Community Financial Services Group, LLC (CFSG), also decreased $8,685 or 104.6%20.5% for the first ninethree months of 2011, from $54,347 in 2010 to $111,175 in 2011. The Company recognized an expense of $10,649 from its Supplemental Executive Retirement Program (SERP) investment assets during the third quarter of 2011 compared to a greater expense totaling $60,767 for the third quarter of 2010, while year over year, income of $92,083 was recognized for the first nine months of 2011, compared to income of $954 for the first nine months of 2010. Market conditions improved during the first half of 2011, however, but quickly turn around during the third quarter of 2011 as reflected in the shift to an expense for this period.
2012. Occupancy expense, a component of non-interest expense, increased $77,845$65,700 or 3.4%8.1% for the first quarter due in part to increases in depreciation and service contracts and maintenance on buildings, reflecting the increased cost for snow removal earlier in the year.contracts. During the first ninethree months of 2011,2012, the FDICFederal Deposit Insurance Corporation (FDIC) insurance expense decreased $129,455$59,816 or 27.3%35.1% compared to the first ninethree months of 2010. As mentioned in the overview, the2011. This decrease is due to a change in the formula used to assess deposit insurance premiums effective April 1, 2011. Loss on limited partnerships, a component of other expenses, increased $173,171 or 141.8% for the first quarter of 2012. This increase was attributed to an increase in the amortization of the Company’s investment in tax credit projects.
Return on average assets, (ROA), which is net income divided by average total assets, measures how effectively a corporation uses its assets to produce earnings. Return on average equity, (ROE), which is net income divided by average shareholders' equity, measures how effectively a corporation uses its equity capital to produce earnings. The Company’s ROA and ROE have remained fairly level over the past year. The following table shows these ratios annualized for the comparison periods.
| For the third quarter ended September 30, | 2011 | 2010 | |
| For the quarter ended March 31, | | 2012 | 2011 |
| | | | | |
| Return on Average Assets | 0.58% | 0.60% | 0.72% | 0.70% |
| Return on Average Equity | 8.01% | 8.19% | 9.35% | 9.67% |
| | | | | |
| For the nine months ended September 30, | 2011 | 2010 |
| | | |
| Return on Average Assets | 0.64% | 0.65% |
| Return on Average Equity | 8.78% | 8.70% |
| | | |
The following table summarizes the earnings performance and balance sheet data of the Company for the 20112012 and 20102011 comparison periods.
| SELECTED FINANCIAL DATA | SELECTED FINANCIAL DATA | | SELECTED FINANCIAL DATA | |
| | | | | |
| Balance Sheet Data | | September 30, | | | December 31, | | | March 31, | | | December 31, | |
| | | | 2012 | | | 2011 | |
| | | 2011 | | | 2010 | | | (Unaudited) | | | (Unaudited) | |
| | | | | | | | | | | | | |
| Net loans | | $ | 387,103,792 | | | $ | 387,630,511 | | | $ | 393,931,232 | | | $ | 384,792,788 | |
| Total assets | | | 550,721,926 | | | | 545,932,649 | | | | 558,806,626 | | | | 552,905,517 | |
| Total deposits | | | 451,163,335 | | | | 438,192,263 | | | | 453,993,149 | | | | 454,393,309 | |
| Borrowed funds | | | 18,010,000 | | | | 33,010,000 | | | | 20,770,000 | | | | 18,010,000 | |
| Total liabilities | | | 510,241,014 | | | | 506,804,980 | | | | 517,374,397 | | | | 511,987,108 | |
| Total shareholders' equity | | | 40,480,912 | | | | 39,127,669 | | | | 41,432,229 | | | | 40,918,409 | |
| | | | | | | | | | | | | | | | | |
| Nine Months Ended September 30, | | | 2011 | | | | 2010 | | |
| Three Months Ended March 31, | | | | 2012 | | | | 2011 | |
| | | | | | | | | | | | | | | | | |
| Total interest income | | $ | 17,099,075 | | | $ | 17,738,000 | | | $ | 5,589,896 | | | $ | 5,677,112 | |
| Less: | | | | | | | | | | | | | | | | |
| Total interest expense | | | 4,277,392 | | | | 4,934,842 | | | | 1,270,927 | | | | 1,511,470 | |
| Net interest income | | | 12,821,683 | | | | 12,803,158 | | | | 4,318,969 | | | | 4,165,642 | |
| Less: | | | | | | | | | | | | | | | | |
| Provision for loan losses | | | 712,500 | | | | 858,334 | | | | 250,003 | | | | 187,500 | |
| | | | | | | | | | | | | | | | | |
| Non-interest income | | | 3,853,112 | | | | 3,649,015 | | | | 1,354,977 | | | | 1,459,469 | |
| Less: | | | | | | | | | | | | | | | | |
| Non-interest expense | | | 12,988,826 | | | | 12,975,838 | | | | 4,549,932 | | | | 4,349,514 | |
| Income before income taxes | | | 2,973,469 | | | | 2,618,001 | | | | 874,011 | | | | 1,088,097 | |
| Less: | | | | | | | | | | | | | | | | |
| Applicable income tax expense | | | 336,658 | | | | 158,751 | | | | (90,838 | ) | | | 143,229 | |
| | | | | | | | | | | | | | | | | |
| Net Income | | $ | 2,636,811 | | | $ | 2,459,250 | | | $ | 964,849 | | | $ | 944,868 | |
| | | | | | | | | | | | | | | | | |
| Per Share Data | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | |
| Earnings per common share | | $ | 0.54 | | | $ | 0.51 | | | $ | 0.19 | | | $ | 0.19 | |
| Dividends declared per common share | | $ | 0.42 | | | $ | 0.36 | | | $ | 0.14 | | | $ | 0.14 | |
| Book value per common shares outstanding | | $ | 8.07 | | | $ | 7.73 | | | $ | 8.19 | | | $ | 7.97 | |
| Weighted average number of common shares outstanding | | | 4,662,261 | | | | 4,574,857 | | | | 4,735,857 | | | | 4,635,324 | |
| Number of common shares outstanding | | | 4,704,676 | | | | 4,603,188 | | | | 4,751,605 | | | | 4,650,012 | |
INTEREST INCOME VERSUS INTEREST EXPENSE (NET INTEREST INCOME)
The largest component of the Company’s operating income is net interest income, which is the difference between interest earned on loans and investments versus the interest paid on deposits and other sources of funds (i.e. other borrowings). The Company’s level of net interest income can fluctuate over time due to changes in the level and mix of earning assets, and sources of funds (volume) and from changes in the yieldsyield earned and costs of funds (rate). A portion of the Company’s income from municipal investments is not subject to income taxes. Because the proportion of tax-exempt items in the Company's portfolio varies from period-to-period,year-to-year, to improve comparability of information, across years, the non-taxable income shown in the tables below has been converted to a tax equivalent basis. TheBecause the Company’s corporate tax rate is 34%; therefore,, to equalize tax-free and taxable income in the comparison, we divide the tax-free income by 66%, with the result that every tax-free dollar is equivalent to $1.52 in taxable income.
Tax-exempt income is derived from municipal investments, which comprised the entire held-to-maturity portfolio of $36,898,097$33,562,606 at September 30, 2011,March 31, 2012, and $53,146,028$37,948,665 at September 30, 2010.March 31, 2011.
The following table shows the reconciliation between reported net interest income and tax equivalent, net interest income for the nine month comparison periods of 20112012 and 2010.2011.
| For the Nine Months Ended September 30: | | 2011 | | | 2010 | | |
| For the Three Months Ended March 31, | | | 2012 | | | 2011 | |
| | | | | | | | | | | | | |
| Net interest income as presented | | $ | 12,821,683 | | | $ | 12,803,158 | | | $ | 4,318,969 | | | $ | 4,165,642 | |
| Effect of tax-exempt income | | | 392,612 | | | | 500,012 | | | | 109,868 | | | | 134,913 | |
| Net interest income, tax equivalent | | $ | 13,214,295 | | | $ | 13,303,170 | | | $ | 4,428,837 | | | $ | 4,300,555 | |
The following table presents average earning assets and average interest-bearing liabilities supporting earning assets. Interest income (excluding interest on non-accrual loans) and interest expense are both expressed on a tax equivalent basis, both in dollars and as a rate/yield for the 20112012 and 20102011 comparison periods.
| | | | | | | | | | | | | | | | | | | | |
| | | For the Nine Months Ended September 30: | | | For the Three Months Ended March 31, | |
| | | | | | 2011 | | | | | | | | | 2010 | | | | | | | | | 2012 | | | | | | | | | 2011 | | | | |
| | | | | | | | | Average | | | | | | | | | Average | | | | | | | | | Average | | | | | | | | | Average | |
| | | Average | | | Income/ | | | Rate/ | | | Average | | | Income/ | | | Rate/ | | | Average | | | Income/ | | | Rate/ | | | Average | | | Income/ | | | Rate/ | |
| | | Balance | | | Expense | | | Yield | | | Balance | | | Expense | | | Yield | | | Balance | | | Expense | | | Yield | | | Balance | | | Expense | | | Yield | |
| Interest-Earning Assets | Interest-Earning Assets | | | | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | |
| Loans (1) | | $ | 390,948,990 | | | $ | 15,998,085 | | | | 5.47 | % | | $ | 386,040,376 | | | $ | 16,446,720 | | | | 5.70 | % | | $ | 391,354,167 | | | $ | 5,179,734 | | | | 5.32 | % | | $ | 389,001,889 | | | $ | 5,303,865 | | | | 5.53 | % |
| Taxable investment securities | | | 26,217,030 | | | | 229,612 | | | | 1.17 | % | | | 22,910,411 | | | | 272,026 | | | | 1.59 | % | | | 72,207,427 | | | | 172,841 | | | | 0.96 | % | | | 23,703,792 | | | | 70,810 | | | | 1.21 | % |
| Tax exempt investment securities | | | 35,628,634 | | | | 1,154,741 | | | | 4.33 | % | | | 48,582,239 | | | | 1,470,623 | | | | 4.05 | % | |
| Tax-exempt investment securities | | | | 32,499,603 | | | | 323,141 | | | | 4.00 | % | | | 36,604,441 | | | | 396,802 | | | | 4.40 | % |
| Sweep and interest earning accounts | | | 33,887,918 | | | | 52,730 | | | | 0.21 | % | | | 68,891 | | | | 228 | | | | 0.44 | % | | | 7,313,703 | | | | 3,316 | | | | 0.18 | % | | | 37,541,054 | | | | 21,652 | | | | 0.23 | % |
| Other investments(4) | | | 4,695,550 | | | | 56,519 | | | | 1.61 | % | | | 975,150 | | | | 48,415 | | | | 6.64 | % | |
| Other investments (4) | | | | 4,632,429 | | | | 20,732 | | | | 1.80 | % | | | 4,695,550 | | | | 18,896 | | | | 1.63 | % |
| Total | | $ | 491,378,122 | | | $ | 17,491,687 | | | | 4.76 | % | | $ | 458,577,067 | | | $ | 18,238,012 | | | | 5.32 | % | | $ | 508,007,329 | | | $ | 5,699,764 | | | | 4.51 | % | | $ | 491,546,726 | | | $ | 5,812,025 | | | | 4.80 | % |
| | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Interest-Bearing Liabilities | Interest-Bearing Liabilities | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | |
| NOW | | $ | 104,526,578 | | | $ | 347,805 | | | | 0.44 | % | | $ | 79,490,677 | | | $ | 288,801 | | | | 0.49 | % | | $ | 111,800,243 | | | $ | 91,757 | | | | 0.33 | % | | $ | 103,637,956 | | | $ | 133,619 | | | | 0.52 | % |
| Money market accounts | | | 72,950,935 | | | | 600,954 | | | | 1.10 | % | | | 65,387,032 | | | | 703,932 | | | | 1.44 | % | | | 75,414,173 | | | | 175,387 | | | | 0.94 | % | | | 74,305,272 | | | | 219,897 | | | | 1.20 | % |
| Savings deposits | | | 60,237,153 | | | | 85,090 | | | | 0.19 | % | | | 55,861,326 | | | | 128,634 | | | | 0.31 | % | | | 61,694,702 | | | | 24,707 | | | | 0.16 | % | | | 57,848,479 | | | | 30,170 | | | | 0.21 | % |
| Time deposits | | | 142,288,283 | | | | 2,085,747 | | | | 1.96 | % | | | 151,045,760 | | | | 2,489,149 | | | | 2.20 | % | | | 139,361,484 | | | | 611,440 | | | | 1.76 | % | | | 144,073,247 | | | | 729,097 | | | | 2.05 | % |
| | | | | | | | | | | | | | | | | | | | | | | | | | |
| Federal funds purchased andother borrowed funds | | | 19,460,549 | | | | 266,422 | | | | 1.83 | % | | | 34,074,183 | | | | 404,471 | | | | 1.59 | % | |
| Federal funds purchased and | | | | | | | | | | | | | | | | | | | | | | | | | |
| other borrowed funds | | | | 18,446,000 | | | | 75,409 | | | | 1.64 | % | | | 22,410,000 | | | | 100,416 | | | | 1.82 | % |
| Repurchase agreements | | | 21,201,727 | | | | 110,968 | | | | 0.70 | % | | | 19,161,995 | | | | 136,886 | | | | 0.96 | % | | | 24,965,042 | | | | 32,903 | | | | 0.53 | % | | | 20,379,073 | | | | 37,914 | | | | 0.75 | % |
| Capital lease obligations | | | 816,188 | | | | 49,713 | | | | 8.12 | % | | | 859,500 | | | | 52,276 | | | | 8.11 | % | | | 823,481 | | | | 15,760 | | | | 7.66 | % | | | 827,642 | | | | 16,793 | | | | 8.12 | % |
| Junior subordinated debentures | | | 12,887,000 | | | | 730,693 | | | | 7.58 | % | | | 12,887,000 | | | | 730,693 | | | | 7.58 | % | | | 12,887,000 | | | | 243,564 | | | | 7.60 | % | | | 12,887,000 | | | | 243,564 | | | | 7.66 | % |
| Total | | $ | 434,368,413 | | | $ | 4,277,392 | | | | 1.32 | % | | $ | 418,767,473 | | | $ | 4,934,842 | | | | 1.58 | % | | $ | 445,392,125 | | | $ | 1,270,927 | | | | 1.15 | % | | $ | 436,368,669 | | | $ | 1,511,470 | | | | 1.40 | % |
| | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Net interest income | | | | | | $ | 13,214,295 | | | | | | | | | | | $ | 13,303,170 | | | | | | | | | | | $ | 4,428,837 | | | | | | | | | | | $ | 4,300,555 | | | | | |
| Net interest spread (2) | | | | | | | | | | | 3.44 | % | | | | | | | | | | | 3.74 | % | | | | | | | | | | | 3.36 | % | | | | | | | | | | | 3.40 | % |
| Net interest margin (3) | | | | | | | | | | | 3.60 | % | | | | | | | | | | | 3.88 | % | | | | | | | | | | | 3.51 | % | | | | | | | | | | | 3.55 | % |
| | | | | | | | | | | | | | | | | | | | | | | | | | | |
| (1) Included in gross loans are non-accrual loans with an average balance of $5,008,281 and $4,962,392 for the nine months ended September 30, 2011 and 2010, | | |
| respectively. Loans are stated before deduction of unearned discount and allowance for loan losses. | | |
(2) Net interest spread is the difference between the average yield on average earning assets and the average rate paid on average interest-bearing liabilities. | | |
| (1) Included in gross loans are non-accrual loans with an average balance of $7,818,530 and $4,594,164 for the three | | (1) Included in gross loans are non-accrual loans with an average balance of $7,818,530 and $4,594,164 for the three | |
| months ended March 31, 2012 and 2011, respectively. Loans are stated before deduction of unearned discount | | months ended March 31, 2012 and 2011, respectively. Loans are stated before deduction of unearned discount | |
| and allowance for loan losses. | | and allowance for loan losses. | |
| (2) Net interest spread is the difference between the average yield on average earning assets and the average rate | | (2) Net interest spread is the difference between the average yield on average earning assets and the average rate | |
| paid on average interest-bearing liabilities. | | paid on average interest-bearing liabilities. | |
| (3) Net interest margin is net interest income divided by average earning assets. | (3) Net interest margin is net interest income divided by average earning assets. | | (3) Net interest margin is net interest income divided by average earning assets. | |
(4) Included in other investments is the Company’s FHLBB Stock with an average balance of $3,720,400 and a dividend payout rate of approximately 0.31% per quarter. | | |
| (4) Included in other investments is the Company’s FHLBB Stock with an average balance of $3,657,279 and a dividend | | (4) Included in other investments is the Company’s FHLBB Stock with an average balance of $3,657,279 and a dividend | |
| payout rate of approximately 0.31% per quarter. | | payout rate of approximately 0.31% per quarter. | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | |
The average volume of earning assets for the first ninethree months of 20112012 increased $32,801,055$16,460,603 or 7.2%3.4% compared to the same period of 2010,2011, while the average yield decreased 5629 basis points. The average volume of loans increased $4,908,614$2,352,278 or 1.3%0.6%, while the average yield decreased 2321 basis points. Interest earned on the loan portfolio comprised 91.5%90.9% of total interest income for the first ninethree months of 20112012 and 90.2%91.3% for the 20102011 comparison period. The average volume of sweep and interest earning accounts increased $33,819,027. Sweepdecreased $30,227,351 or 80.5%. This was due to the decrease in cash and interest earning assets consists primarily of excess funds heldincrease in investments and loans as the Company’s account at the Federal Reserve Bank of Boston (FRBB). Beginning in 2010, the FRBB began paying interest to financial institutions on balances left in their accounts overnight at aCompany shifted cash into higher rate than thatyielding assets. The average volume of the Company’s other correspondent banks, causing the Company to leave the funds in this account instead of selling the funds overnight to these other correspondent banks. Other investmentstaxable investment portfolio (classified as available-for-sale) increased $48,503,635 or 204.6% for the same period in 2011, nine month period include FHLBB stock which resumed paying a dividendwhile the average yield decreased 25 basis points. The Company increased its taxable investment portfolio with U.S. government sponsored enterprise securities, as deposit funding increased in the first quarter of 2011, but at a modest level, after not paying dividends for the past two years.2011. The average volume of the tax exempt investment portfolio (classified as held-to-maturity) decreased $12,953,605decrease $4,104,838 or 26.7%11.2% between periods, while the average tax equivalent yield increased 28decreased 40 basis points. Interest earned on tax exempt investments (which is presented on a tax equivalent basis) comprised 6.6%5.7% of total interest income for the first ninethree months of 20112012 compared to 8.1%6.9% for the same period in 2010.2011. The Company has experienced additional competition from other local financial institutions in our municipal market, which is reflected in the decrease in the average volume of our tax exempt investment portfolio.
In comparison, the average volume of interest bearing liabilities for the first ninethree months of 20112012 increased $15,600,940$9,023,456 or 3.7%2.1% over the 20102011 comparison period, while the average rate paid on these liabilities decreased 2625 basis points. The average volume of NOW accounts increased $25,035,901$8,162,287 or 31.5%7.9% and money market funds increased $7,563,903$1,108,901 or 11.6%1.5% and the average rate paid decreased 519 basis points and 3426 basis points, respectively. The increaseaverage volume carried in the average volume of interest-bearing liabilities was due in large part to a new NOW account held by the Company’s affiliate, CFSG, which had an average balance of $27,195,272 during the first nine months of 2011. The Company began offering a new money market product, an insured cash sweep account (ICS), during the second half of 2010 which during the nine months ended September 30,increased $3,596,449 year over year from $8,422,500 in 2011 carried an average balance of $8,975,493, contributing to the increase$12,018,999 in money market funds.2012. This product has brought in new funds but most of the interest has come from the Company’s CDARS customers looking for alternatives to placing their money in time deposit accounts that are not as liquid. The average volume of time deposits decreased $8,757,477$4,711,763 or 5.8%3.3%, and the average rate paid on time deposits decreased 2429 basis points. The average volumeLate in the first quarter of 2012, the Company purchased of $11,476,000 in one-way funds through CDARS accounts was $13,777,188 at the beginning of 2010 and has decreasedwhich had little impact to an average volume of $1,114,408 as of September 30, 2011, while the average volume in the ICS product has steadily increased throughout the comparison period to an average volume of $9,901,558 as of September 30, 2011.volume. The average volume of federal funds purchased and other borrowed funds decreased $14,613,634$3,964,000 or 42.9%17.7% from an average volume of $34,074,183$22,410,000 for the first ninethree months of 20102011 to $19,460,549$18,446,000 for the same period in 2011. As the borrowings have matured, the funds held at our FRBB account were used to pay off these borrowings.2012.
The prolonged low interest rate environment has resulted in continued pressure on the Company’s net interest spread and margin. The Company’s earning assets are being replaced and repriced to lower interest rates, while the opportunity to reduce rates on non-maturing interest-bearing deposits is more limited, which is evident in thelimited. A decrease of 5629 basis points on the average yield on earning assets versus a decrease of only 26and 25 basis points on the average rate paid on interest-bearing liabilities during the first ninethree months of 20112012 compared to a decrease of 60 basis points and 21 basis points, respectively, for the same period last year.first three months of 2011. Most of the decrease in interest expense during the first three months of 2012 was attributable to the decrease in time deposits due to both volume and the rate paid on these deposits. As long-term time deposits matured, they either repriced to lower rates or were not renewed. The cumulative result of all these changes was a decrease of 30four basis points in the net interest spread and a decrease of 28four basis points in the net interest margin. Should the economy improve and loan demand increase, the Company is well positioned to redeploy its excess funds held at the FRBB to fund loans which would improve both the net interest spread and net interest margin. Although loan demand has increased during the third quarter of 2011, it remains at a volume less than favorable causing the Company to invest in more U.S. Government Agencies with yields below those earned from loans, but better than the yield on the FRBB account.
The following table summarizes the variances in interest income and interest expense on a fully tax-equivalent basis for the first ninethree months of 20112012 and 20102011 resulting from volume changes in average assets and average liabilities and fluctuations in average rates earned and paid.
| Changes in Interest Income and Interest Expense | Changes in Interest Income and Interest Expense | | Changes in Interest Income and Interest Expense | |
| | | | | | | | | | | | |
| | | Variance | | | Variance | | | | | | Variance | | | Variance | | | | |
| | | Due to | | | Due to | | | Total | | | Due to | | | Due to | | | Total | |
| | | Rate (1) | | | Volume (1) | | | Variance | | | Rate (1) | | | Volume (1) | | | Variance | |
| Average Interest-Earning Assets | Average Interest-Earning Assets | | | | | | | | | | |
| Loans | | $ | (657,903 | ) | | $ | 209,268 | | | $ | (448,635 | ) | | $ | (156,206 | ) | | $ | 32,075 | | | $ | (124,131 | ) |
| Taxable investment securities | | | (81,737 | ) | | | 39,323 | | | | (42,414 | ) | | | (42,683 | ) | | | 144,714 | | | | 102,031 | |
| Tax exempt investment securities | | | 103,634 | | | | (419,516 | ) | | | (315,882 | ) | |
| Tax-exempt investment securities | | | | (32,837 | ) | | | (40,824 | ) | | | (73,661 | ) |
| Sweep and interest earning accounts | | | (58,795 | ) | | | 111,297 | | | | 52,502 | | | | (4,808 | ) | | | (13,528 | ) | | | (18,336 | ) |
| Other investments | | | (176,664 | ) | | | 184,768 | | | | 8,104 | | | | 2,118 | | | | (282 | ) | | | 1,836 | |
| Total | | $ | (871,465 | ) | | $ | 125,140 | | | $ | (746,325 | ) | | $ | (234,416 | ) | | $ | 122,155 | | | $ | (112,261 | ) |
| | | | | | | | | | | | | | | |
| Average Interest-Bearing Liabilities | Average Interest-Bearing Liabilities | | | | | | | | | | | | | |
| NOW | | $ | (32,751 | ) | | $ | 91,755 | | | $ | 59,004 | | | $ | (52,328 | ) | | $ | 10,466 | | | $ | (41,862 | ) |
| Money market accounts | | | (184,444 | ) | | | 81,466 | | | | (102,978 | ) | | | (47,791 | ) | | | 3,281 | | | | (44,510 | ) |
| Savings deposits | | | (53,690 | ) | | | 10,146 | | | | (43,544 | ) | | | (7,455 | ) | | | 1,992 | | | | (5,463 | ) |
| Time deposits | | | (275,020 | ) | | | (128,382 | ) | | | (403,402 | ) | | | (97,039 | ) | | | (20,618 | ) | | | (117,657 | ) |
| Federal funds purchased and other borrowed funds | | | 61,974 | | | | (200,023 | ) | | | (138,049 | ) | | | (8,843 | ) | | | (16,164 | ) | | | (25,007 | ) |
| Repurchase agreements | | | (40,564 | ) | | | 14,646 | | | | (25,918 | ) | | | (13,492 | ) | | | 8,481 | | | | (5,011 | ) |
| Capital lease obligations | | | 67 | | | | (2,630 | ) | | | (2,563 | ) | | | (954 | ) | | | (79 | ) | | | (1,033 | ) |
| Junior subordinated debentures | | | 0 | | | | 0 | | | | 0 | | |
| Total | | $ | (524,428 | ) | | $ | (133,022 | ) | | $ | (657,450 | ) | | $ | (227,902 | ) | | $ | (12,641 | ) | | $ | (240,543 | ) |
| | | | | | | | | | | | | | | |
| Changes in net interest income | | $ | (347,037 | ) | | $ | 258,162 | | | $ | (88,875 | ) | | $ | (6,514 | ) | | $ | 134,796 | | | $ | 128,282 | |
| | | | | | | | | | | | | | | |
| (1) Items which have shown a year-to-year increase in volume have variances allocated as follows: | (1) Items which have shown a year-to-year increase in volume have variances allocated as follows: | | (1) Items which have shown a year-to-year increase in volume have variances allocated as follows: | |
| Variance due to rate = Change in rate x new volume | Variance due to rate = Change in rate x new volume | | Variance due to rate = Change in rate x new volume | |
| Variance due to volume = Change in volume x old rate | Variance due to volume = Change in volume x old rate | | Variance due to volume = Change in volume x old rate | |
| Items which have shown a year-to-year decrease in volume have variances allocated as follows: | Items which have shown a year-to-year decrease in volume have variances allocated as follows: | | Items which have shown a year-to-year decrease in volume have variances allocated as follows: | |
| Variance due to rate = Change in rate x old volume | Variance due to rate = Change in rate x old volume | | Variance due to rate = Change in rate x old volume | |
| Variances due to volume = Change in volume x new rate | Variances due to volume = Change in volume x new rate | | Variances due to volume = Change in volume x new rate | |
NON-INTEREST INCOME AND NON-INTEREST EXPENSE
Non-interest Income: The Company's non-interest income decreased $116,334$104,492 or 9.5%7.2% for the thirdfirst quarter of 2012 compared to the first quarter of 2011, comparedfrom $1,354,977 to the third quarter of 2010, from $1,230,782 to $1,114,448.$1,459,469. Income from sold loans decreased $78,466$115,523 or 36.2%23.0% for the thirdfirst quarter of 20112012 compared to the thirdfirst quarter of 2010 due primarily to a decrease of $66,652 or 28.7% in “point fees and premiums” on sold loans. Other income decreased $75,780 or 18.6% for the third quarter comparison periods,2011 reflecting a decrease of $117,386$204,630 or 115.9% in mortgage servicing rights which was offset in part by an increase of $51,685$71,050 or 37.4% in salespoint fees and premiums on sold loans. Additionally, other income decreased $20,449 or 8.1% for the first quarter comparison periods, due to decreases of checkbooks.$14,000 or 38.9% from exchange income and $8,685 or 20.5% from the Company’s trust and investment management affiliate, CFSG. Service fees increased $34,649$16,098 or 6.0%2.9% and other income from loans increased $15,382 or 9.9% quarter over quarter helping to offset a portion of the other decreases in the components of non-interest income noted here.
Non-interest income for the first nine months of 2011 increased $204,097 or 5.6% to $3,853,112 compared to $3,649,015 for the first nine months of 2010. Increases are noted in three of the four components of non-interest income for the year to year comparison periods, with the major increase in other income, including a net increase in mortgage servicing rights of $46,770 year over year and an increase of $44,231 in loan service fee income. Additionally, the Company recognized increases in income for the first nine months of 2011 of $56,828 from its trust and investment management affiliate, CFSG, and $91,129 from its SERP assets held in rabbi trust, compared to the first nine months of 2010. Both increases reflect improved stock market conditions between periods. Service fees increased $61,930 or 3.6% for the first nine months of 2011 compared to the same period in 2010. The increase in service fees in both comparison periods is attributable to interchange income, which increased $58,479 or 27.8% year over year. As mentioned in the Overview, the Company could potentially see a decrease in this revenue over the coming year due to the Dodd-Frank Act. Income from sold loans decreased $73,423 or 13.7% year over year, with income totaling $463,048 for the first nine months of 2011 versus $536,471 for the same period in 2010. This decrease is not however, reflective of a dramatic decrease in volume of loans sold, but is due rather to a decrease in point fees and premiums on sold loans as mentioned above, which amounted to $87,074 year over year. The volume of loans sold during the first nine months of 2011 was $26,779,989 compared to $27,428,557 in the same period in 2010.
Non-interest Expense: The Company's non-interest expense decreased $73,906increased $200,418 or 1.7%4.6% to $4,252,653$4,549,932 for the thirdfirst quarter of 20112012 compared to $4,326,559$4,349,514 for the 20102011 comparison period. Decreases were recorded in salaries and wages of $47,963$33,096 or 3.2%2.3%, FDIC insurance of $73,832$59,816 or 46.7%35.1% and the amortization of the core deposit intangible associated with the LyndonBank acquisition of $26,630$21,305 or 20.0%. The decrease in salaries and wages for the third quarter of 2011 versus 2010 is attributable to the vacancy of two new loan positions that were anticipated to be filled earlier in the year. Offsetting a portion of these decreases were increases in employee benefits of $53,170 or 9.8%, occupancy expense of $29,110$65,700 or 3.9%8.1% and other expenses of $48,906$195,765 or just over 4.0%15.6%. The Company recently underwent a Sales and Use Tax audit which resulted in taxes due for the 2010-2011 tax period. The Company is challenging approximately $80,000 of the amount due, but has accrued $50,000 for the balance. This accrual was recorded at the end of September 2011 accounting for the increase in other expenses. Increases are noted in other components of other expense as well as decreases in a few, but most are timing differences in the payment of these expenses.
Non-interest expense for the first nine months of 2011 increased $12,988 or 0.1% compared to the first nine months of 2010 with expense figures of $12,988,826 and $12,975,838, respectively. Salaries and wages increased $54,712 or 1.3% from $4,354,779 to $4,409,491 during the year over year comparison periods. Occupancy expenses increased $77,845 or 3.4% from $2,282,320 to $2,360,165 year over year. This increase was due primarily to maintenance on buildings, which includes heating and snow removal, attributable to the severe weather conditions experienced in the Northeast Kingdom last winter. Other expenses increased $117,352 or 3.1% accounting for the biggest increase in the components of non-interest expense for the nine month comparison periods. Telephone expense, a component of other expenses, increased $65,327 or 35.1% during the nine month comparison period, due to the contracts expiring and new contracts in the negotiation process. The tax expense discussed above is another component of the increase in other expenses along with internal audit fees accounting for $84,480 of the increase for the first nine months of 2011 compared to the same period in 2010. Amortization of the core deposit intangible decreased $79,891 or 20.0% to $319,565 for the first nine months of 2011 compared to $399,456 for the first nine months of 2010, offsetting a portion of the increases noted above. A decrease of $129,455 or 27.3% was also recorded in FDIC insurance from $474,265 for the first nine months of 2010 compared to $344,810 for the same period in 2011. The method by which the prepaid FDIC premiums are calculated changed from a deposit based formula to an asset based formula effective April 1, 2011.
Losses relating to various limited New Market Tax Credit (NMTC) partnership investments for affordable housing in our market area constitute athe largest portion of other expenses. These losses for the thirdfirst quarter of 20112012 and for the first nine months2011 amounted to $122,147$295,317 and $366,440,$122,146, respectively, compared to losses for the third quarterrepresenting an increase of 2010 and the first nine months of $123,897 and $371,691, respectively.$173,171 or 141.8%. These investments provide tax benefits, including tax credits, and are designed to provide an effective yield between 8% and 10%. Losses relating to the Company’s NMTC investment for the first quarter 2012 were recorded as $9,918, with tax credits amounting to $28,714. The Company amortizes itsthese investments in these limited partnerships under the effective yield method, resulting in the asset being amortized consistent with the periods in which the Company receives the tax benefit.
APPLICABLE INCOME TAXES
The provision for income taxes decreased from a tax expense increased to $90,421of $143,229 for the thirdfirst quarter of 2011 compared to $24,465a tax benefit of $90,838 for the thirdfirst quarter of 2010, an increase2012, a decrease of $65,956$234,067 or 269.6%163.4%. The nine month comparison period includes anchange from expense of $336,658 for 2011 and an expense of $158,751 for 2010, an increase of $177,907 or 112.1%. This increaseto benefit is due primarily to the lower proportion ofincrease in tax exempt income in 2011. Limited Partnershipcredits year over year. Total tax credits for the first ninethree months of 20112012 were $400,554,$319,857 compared to $401,103total tax credits of $133,518 for the first ninethree months of 2010.2011.
CHANGES IN FINANCIAL CONDITION
The following table reflects the composition of the Company's major categories of assets and liabilities as a percent of total assets or liabilities and shareholders’ equity, as the case may be, as of the dates indicated:
| | | September 30, 2011 | | | December 31, 2010 | | | September 30, 2010 | |
| Assets | | | | | | | | | | | | | | | | | | |
| Loans (gross)* | | $ | 390,960,106 | | | | 70.99 | % | | $ | 391,432,797 | | | | 71.70 | % | | $ | 390,020,128 | | | | 74.02 | % |
| Securities available-for-sale | | | 31,533,275 | | | | 5.73 | % | | | 21,430,436 | | | | 3.93 | % | | | 22,514,018 | | | | 4.27 | % |
| Securities held-to-maturity | | | 36,898,097 | | | | 6.70 | % | | | 37,440,714 | | | | 6.86 | % | | | 53,146,028 | | | | 10.09 | % |
| *includes loans held for sale | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | March 31, 2012 | | | December 31, 2011 | | | March 31, 2011 | |
| Assets | | | | | | | | | | | | | | | | | | | |
| Loans (gross)* | | | $ | 397,829,366 | | | | 71.19 | % | | $ | 388,672,039 | | | | 70.30 | % | | $ | 388,007,754 | | | | 72.82 | % |
| Securities available-for-sale | | | | 73,035,938 | | | | 13.07 | % | | | 66,098,917 | | | | 11.95 | % | | | 28,460,688 | | | | 5.34 | % |
| Securities held-to-maturity | | | | 33,562,606 | | | | 6.01 | % | | | 29,702,159 | | | | 5.37 | % | | | 37,948,665 | | | | 7.12 | % |
| *includes loans held for sale | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | September 30, 2011 | | | December 31, 2010 | | | September 30, 2010 | | | March 31, 2012 | | | December 31, 2011 | | | March 31, 2011 | |
| Liabilities | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Time deposits | | $ | 140,283,376 | | | | 25.47 | % | | $ | 143,732,098 | | | | 26.33 | % | | $ | 146,463,974 | | | | 27.80 | % | | $ | 144,907,273 | | | | 25.93 | % | | $ | 137,461,352 | | | | 24.86 | % | | $ | 143,872,591 | | | | 27.00 | % |
| Savings deposits | | | 61,763,381 | | | | 11.21 | % | | | 56,461,370 | | | | 10.34 | % | | | 56,933,717 | | | | 10.81 | % | | | 64,512,091 | | | | 11.54 | % | | | 59,284,631 | | | | 10.72 | % | | | 61,151,720 | | | | 11.48 | % |
| Demand deposits | | | 60,683,698 | | | | 11.02 | % | | | 55,570,893 | | | | 10.18 | % | | | 56,816,997 | | | | 10.78 | % | | | 61,866,873 | | | | 11.07 | % | | | 62,745,782 | | | | 11.35 | % | | | 53,917,918 | | | | 10.12 | % |
| Now | | | 116,418,838 | | | | 21.14 | % | | | 108,957,174 | | | | 19.96 | % | | | 93,233,319 | | | | 17.69 | % | | | 106,166,136 | | | | 19.00 | % | | | 123,493,475 | | | | 22.34 | % | | | 104,921,318 | | | | 19.69 | % |
| Money market accounts | | | 72,014,042 | | | | 13.08 | % | | | 73,470,728 | | | | 13.46 | % | | | 66,236,023 | | | | 12.57 | % | | | 76,540,776 | | | | 13.70 | % | | | 71,408,069 | | | | 12.92 | % | | | 73,693,800 | | | | 13.83 | % |
| Federal funds purchased | | | | 8,760,000 | | | | 1.57 | % | | | 0 | | | | 0.00 | % | | | 0 | | | | 0.00 | % |
| Long-term borrowings | | | 18,010,000 | | | | 3.27 | % | | | 33,010,000 | | | | 6.05 | % | | | 33,010,000 | | | | 6.26 | % | | | 12,010,000 | | | | 2.15 | % | | | 18,010,000 | | | | 3.26 | % | | | 18,010,000 | | | | 3.38 | % |
The Company's loan portfolio decreased $472,691increased $9,157,327 or 0.12%2.4%, from December 31, 20102011 to September 30, 2011,March 31, 2012, and increased $939,978$9,821,612 or 0.24%2.5%, from September 30, 2010March 31, 2011 to September 30, 2011. WhileMarch 31, 2012. This increase is due in part to a large commercial loan demand remains moderate, mostoriginated during the first quarter of 2012 and to the loans are long-termCompany’s decision to begin holding some 10-15 year fixed rate residential mortgages and are thus being sold toin-house, rather than selling them into the secondary market to manage interest rate risk.market. Securities available-for-sale increased $10,102,839$6,937,021 or 47.1%10.5% through purchases from December 31, 20102011 to September 30, 2011,March 31, 2012, and $9,019,257$44,575,250 or 40.1%156.6% year over year. The Company anticipated a much higher loan demand at this point in the year, so as a result the Company has begun purchasing investments to cover future maturities that will occur over the next several months of 2011 and also in hopes of increasing the net interest spread, as the increase in deposits has outstripped loan demand. Securities held-to-maturity decreased $542,617increased $3,860,447 or 1.5%13.0% during the first ninethree months of 2011,2012, and decreased $16,247,931$4,386,059 or 30.6%11.6% year to year. The decreaseincrease in the held-to-maturity portfolio which consists entirely ofreflects municipal investments is now reflective ofthat matured in December 2011 and renewals during the increased competitionfirst quarter 2012. Competition remains aggressive for these municipal investments, as the annual municipal finance cycle mentioned in the last quarterly report has now cycled through with all renewals now accounting for on the balance sheet.modest increase year to date and the decrease year over year.
Total deposits increased $12,971,072decreased $400,160 or approximately 3.0%0.1% from December 31, 20102011 to September 30, 2011March 31, 2012 and $31,479,305increased $16,435,802 or 7.5%3.8% from September 30, 2010.March 31, 2011. Time deposits decreased $3,448,722increased $7,445,921 or 2.4%5.4% from December 31, 20102011 to September 30,March 31, 2012 and $1,034,682 or 0.7% from March 31, 2011 and $6,180,598 or 4.2% from September 30, 2010 to September 30, 2011. The CompanyMarch 31, 2012. This increase in time deposits is not aggressively competing for these accounts with other financial institutions, so while some customers are shifting fromattributable to the purchase of $11,476,000 in one-way funds through the CDARS program todiscussed in the ICS program (based on a money market account), others have either placed their money in savings deposits or other easily accessible accounts; or they have left the Bank entirely for higher yields offered at other financial institutions.Liquidity and Capital Resources section. Savings deposits increased $5,302,011$5,227,460 or 9.4%8.8% during the first ninethree months of 20112012 and $4,829,664$3,360,371 or 8.5%5.5% year to year. Demand deposits increased $5,112,805decreased $878,909 or 9.2%1.4% during the first ninethree months of 2011,2012, compared to an increase of $3,866,701$7,948,955 or 6.8%14.7% year to year. NOW accounts reported an increasea decrease during the first ninethree months of 20112012 of $7,461,664$17,327,339 or 6.9%14.0% and an increase of $23,185,519$1,244,818 or 24.9%1.2% year over year. The government agency accounts decreased $17,214,199 with an average monthly balance of $22,703,755 at March 31, 2012 compared to $39,917,874 at December 31, 2011. The account held by the Company’s affiliate, CFSG, which was opened in March, 2010, had an average monthly balance of $27,195,272 for the nine months ended September 30, 2011$24,127,485 at March 31, 2012 compared to $13,213,300$27,018,380 at December 31, 2010 and $10,590,849 at September 30, 2010,2011, contributing to the increasedecrease in both comparison periods.2012. Money market accounts decreased $1,456,686increased $5,132,707 or approximately 2.0%7.2% for the first ninethree months of 2011 but2012 and increased $5,778,019$2,846,976 or 8.7%3.9% year over year, reflecting the demand for the new ICS program introduced during the last half of 2010.program. Long-term borrowings at September 30, 2011March 31, 2012 decreased $15,000,000$6,000,000 or 45.4%33.3% compared to both December 31, and September 30, 2010.March 31, 2011.
RISK MANAGEMENT
Interest Rate Risk and Asset and Liability Management - Management actively monitors and manages itsthe Company’s interest rate risk exposure and attempts to structure the balance sheet to maximize net interest income while controlling its exposure to interest rate risk. The Company's Asset/Liability Management Committee (ALCO) is made up of the Executive Officers and all the Vice Presidents of the Bank. The ALCO formulates strategies to manage interest rate risk by evaluating the impact on earnings and capital of such factors as current interest rate forecasts and economic indicators, potential changes in such forecasts and indicators, liquidity and various business strategies. The ALCO meets monthly to review financial statements, liquidity levels, yields and spreads to better understand, measure, monitor and control the Company’s interest rate risk. In the ALCO process, the committee members apply policy limits set forth in the Asset Liability, Liquidity and Investment policies approved and periodically reviewed by the Company’s Board of Directors. The ALCO's methods for evaluating interest rate risk include an analysis of the effects of interest rate changes on net interest income and an analysis of the Company's interest rate sensitivity "gap", which provides a static analysis of the maturity and repricing characteristics of the entire balance sheet.
Interest rate risk represents the sensitivity of earnings to changes in market interest rates. As interest rates change, the interest income and expense streams associated with the Company’s financial instruments also change, thereby impacting net interest income (NII), the primary component of the Company’s earnings. Fluctuations in interest rates can also have an impact on liquidity. The ALCO uses an outside consultant to perform rate shock simulations to the Company's net interest income, as well as a variety of other analyses. It is the ALCO’s function to provide the assumptions used in the modeling process. The ALCO utilizes the results of this simulation model to quantify the estimated exposure of NII and liquidity to sustained interest rate changes. The simulation model captures the impact of changing interest rates on the interest income received and interest expense paid on all interest-earning assets and interest-bearing liabilities reflected on the Company’s balance sheet. Furthermore, the model simulates the balance sheet’s sensitivity to a prolonged flat rate environment. All rate scenarios are simulated assuming a parallel shift of the yield curve; however further simulations are performed utilizing a flattening yield curve as well. This sensitivity analysis is compared to the ALCO policy limits which specify a maximum tolerance level for NII exposure over a 1-year horizon, assuming no balance sheet growth, given a 200 basis point (bp) shift upward and a 100 bp shift downward in interest rates. The analysis also provides a summary of the Company's liquidity position. Furthermore, the analysis provides testing of the assumptions used in previous simulation models by comparing the projected NII with actual NII. The asset/liability simulation model provides management with an important tool for making sound economic decisions regarding the balance sheet.
The Company’s Asset/Liability Policy has been enhanced with a contingency funding plan to help management prepare for unforeseen liquidity restrictions to include hypothetical severe liquidity crises.
While management’s assumptions are developed based upon current economic and local market conditions, the Company cannot provide any assurances as to the predictive nature of these assumptions, including how customer preferences or competitor influences might change.
Credit Risk - A primary challenge of management is to reduce the exposure to credit loss within the loan portfolio. Management follows established underwriting guidelines, and exceptions to the policy must be approved in accordance with limits prescribed by the Board of Directors. The adequacy of the loan loss coveragereserve is reviewed quarterly by the risk management committee of the Board of Directors and then presented to the full Board of Directors for approval. This committee meets to discuss, among other matters, potential exposures, historical loss experience, and overall economic conditions. Existing or potential problems are noted and addressed by senior management in order to assess the risk of probable loss or delinquency. A varietysample of loans are reviewed periodically by an independent loan review firm in order to assure accuracy of the Company's internal risk ratings and compliance with various internal policies and procedures and regulatory guidance. The Company maintains a Credit Administration department whose function includes credit analysis and monitoring and reporting on the status of the loan portfolio including delinquent and non-performing loans. The Company also monitors concentration of credit risk in a variety of areas, including portfolio product mix, the level of loans to individual borrowers and their related interests,interest, loans to industry segments, and the geographic distribution of commercial real estate loans. The Company has seen an increase in commercial and industrial loans as a percent of the total loan portfolio since early 2010, intendsportfolio. The Company’s strategy is to continue in this strategy of commercial portfolio growth,direction and it is committed to adding additional resources to the commercial credit function to manage the risk as this growth materializes. However, achieving significant increases in commercial loans remains a challenge in light of the prolonged weak economy and slow recovery. Some growth has also been realized in the residential mortgage first lien portfolio with the Company now holding rather than selling some of its 10 and 15 year fixed rate mortgages.
The following table reflects the composition of the Company's loan portfolio as of the dates indicated:
| | | September 30, 2011 | | | December 31, 2010 | | | March 31, 2012 | | | December 31, 2011 | |
| | | Total Loans | | | % of Total | | | Total Loans | | | % of Total | | | Total Loans | | | % of Total | | | Total Loans | | | % of Total | |
| | | | | | | | | | | | | | | | | | | | | | | | | |
| Construction & land development | | $ | 15,648,181 | | | | 4.00 | % | | $ | 19,125,953 | | | | 4.89 | % | | $ | 11,522,557 | | | | 2.90 | % | | $ | 12,588,715 | | | | 3.24 | % |
| Secured by farm land | | | 10,123,790 | | | | 2.59 | % | | | 10,555,596 | | | | 2.70 | % | | | 10,183,530 | | | | 2.56 | % | | | 10,223,277 | | | | 2.63 | % |
| 1 - 4 family residential | | | 206,598,206 | | | | 52.84 | % | | | 213,834,818 | | | | 54.61 | % | |
| 1 - 4 family residential - 1st lien | | | | 164,105,983 | | | | 41.25 | % | | | 159,535,958 | | | | 41.05 | % |
| 1 - 4 family residential - Jr lien | | | | 45,346,141 | | | | 11.40 | % | | | 45,886,967 | | | | 11.80 | % |
| Commercial real estate | | | 112,120,278 | | | | 28.68 | % | | | 103,812,882 | | | | 26.52 | % | | | 109,214,331 | | | | 27.45 | % | | | 109,457,376 | | | | 28.16 | % |
| Loans to finance agricultural production | | | 1,081,798 | | | | 0.28 | % | | | 1,158,201 | | | | 0.30 | % | | | 1,257,655 | | | | 0.32 | % | | | 1,282,339 | | | | 0.33 | % |
| Commercial & industrial loans | | | 33,488,265 | | | | 8.57 | % | | | 29,887,223 | | | | 7.64 | % | | | 45,198,180 | | | | 11.36 | % | | | 38,232,268 | | | | 9.84 | % |
| Consumer loans | | | 11,899,588 | | | | 3.04 | % | | | 13,058,124 | | | | 3.34 | % | | | 11,000,989 | | | | 2.76 | % | | | 11,465,139 | | | | 2.95 | % |
| Total gross loans | | | 390,960,106 | | | | 100.00 | % | | | 391,432,797 | | | | 100.00 | % | | | 397,829,366 | | | | 100.00 | % | | | 388,672,039 | | | | 100.00 | % |
| Deduct: | | | | | | | | | | | | | | | | | |
| Reserve for loan losses | | | 3,835,840 | | | | | | | | 3,727,935 | | | | | | |
| Deduct (add): | | | | | | | | | | | | | | | | | |
| Allowance for loan losses | | | | 3,952,489 | | | | | | | | 3,886,502 | | | | | |
| Unearned loan fees | | | 20,474 | | | | | | | | 74,351 | | | | | | | | (54,355 | ) | | | | | | | (7,251 | ) | | | | |
| Loans held-for-sale | | | 2,411,242 | | | | | | | | 2,363,938 | | | | | | | | 1,583,520 | | | | | | | | 2,285,567 | | | | | |
| | | | 6,267,556 | | | | | | | | 6,166,224 | | | | | | | | 5,481,654 | | | | | | | | 6,164,818 | | | | | |
| Net loans | | $ | 384,692,550 | | | | | | | $ | 385,266,573 | | | | | | | $ | 392,347,712 | | | | | | | $ | 382,507,221 | | | | | |
Allowance for loan losses and provisions - The Company maintains an allowance for loan losses at a level that management believes is appropriate to absorb losses inherent in the loan portfolio (See “CriticalCritical Accounting Policies). Although the Company, in establishing the allowance, considers the inherent losses in individual loans and pools of loans, the allowance is a general reserve available to absorb all credit losses in the loan portfolio. No part of the allowance is segregated for, or allocated to, any particular loan or pools of loans.class.
When establishing the allowance each quarter the Company applies a combination of historical loss factors and qualitative factors to segments of loans,loan classes including the residential mortgage,first and junior lien mortgages, commercial real estate, commercial and industrial, and consumer loan portfolios. During the fourth quarter of 2011 the Company changed its allowance methodology by segmenting the classes of the residential real estate portfolio into first lien residential mortgages and junior lien residential mortgages, also known as home equity loans. The change was made to allow the Company to closely monitor and appropriately reserve for the risk inherent with home equity lending, given the modest repayment requirements, relaxed documentation, higher loan to value ratios characteristic of home equity lending, and the recent decline of home property values. No changes in the Company’s policies or methodology pertaining to the general component for loan losses were made during the first quarter of 2012. The Company will shorten or lengthen its look back period for determining average portfolio historical loss rates as the economy either contracts or expands; during a period of economic contraction a shortening of the look back period may more conservatively reflect the current economic climate. In light of the recent2008 recession, in late 2008 the Company modified its allowance methodology by shortening its historical look back period from five years to one to two years, and by also comparing loss rates to losses experienced during the last economic downturn, from 1999 to 2002. The highest loss rates experienced for these look back periods are applied to the various poolssegments in establishing the allowance.
The Company then applies numerous qualitative factors to each of these segments of the loan portfolio. Those factors include the levels of and trends in delinquencies and non-accrual loans, criticized and classified loans,assets, volumes and terms of loans, and the impact of any loan policy changes. Experience, ability and depth of lending personnel, levels of policy and documentation exceptions, national and local economic trends, the competitive environment, and geographic and industry concentrations of credit are also factors considered.
The following table summarizes the Company's loan loss experience for the three months ended March 31,
| | | 2012 | | | 2011 | |
| | | | | | | |
| Loans outstanding, end of period | | $ | 397,829,366 | | | $ | 388,007,754 | |
| Average loans outstanding during period | | $ | 391,354,167 | | | $ | 389,001,889 | |
| Non-accruing loans, end of period | | $ | 7,663,385 | | | $ | 4,490,098 | |
| | | | | | | | | |
| Loan loss reserve, beginning of period | | $ | 3,886,502 | | | $ | 3,727,935 | |
| Loans charged off: | | | | | | | | |
| Residential real estate - 1st lien | | | (58,474 | ) | | | (188,800 | ) |
| Residential real estate - Jr lien | | | (60,287 | ) | | | 0 | |
| Commercial real estate | | | (46,799 | ) | | | 0 | |
| Commercial loans not secured by real estate | | | (9,834 | ) | | | (700 | ) |
| Consumer loans | | | (23,658 | ) | | | (37,590 | ) |
| Total loans charged off | | | (199,052 | ) | | | (227,090 | ) |
| Recoveries: | | | | | | | | |
| Residential real estate - 1st lien | | | 1,457 | | | | 0 | |
| Residential real estate - Jr lien | | | 1,356 | | | | 0 | |
| Commercial real estate | | | 756 | | | | 1,090 | |
| Commercial loans not secured by real estate | | | 1,252 | | | | 8,106 | |
| Consumer loans | | | 10,215 | | | | 12,377 | |
| Total recoveries | | | 15,036 | | | | 21,573 | |
| Net loans charged off | | | (184,016 | ) | | | (205,517 | ) |
| Provision charged to income | | | 250,003 | | | | 187,500 | |
| Loan loss reserve, end of period | | $ | 3,952,489 | | | $ | 3,709,918 | |
| | | | | | | | | |
| Net charge offs to average loans outstanding | | | 0.047 | % | | | 0.053 | % |
| Provision charged to income as a percent of average loans | | | 0.064 | % | | | 0.048 | % |
| Loan loss reserve to average loans outstanding | | | 1.010 | % | | | 0.954 | % |
| Loan loss reserve to non-accruing loans * | | | 51.576 | % | | | 82.624 | % |
*The percentages include loans that carry federal government guarantees. If the guaranteed portions were deducted, the reserve coverage of non-accruing loans would increase to 77.4% as of March 31, 2012 and 106.3% as of March 31, 2011.
Specific allocations to the reserve are made for certain impaired loans. A loan is considered impaired when it is probable that the Company will be unable to collect all amounts due, including interest and principal, according to the contractual terms of the loan agreement. Impaired loans are loan(s)loans to a borrower that in aggregate are greater than $100,000 and that are in non-accrual status, including non-accrual troubled debt restructurings (TDR). The Company will review all the facts and circumstances surrounding non-accrual and TDR loans and on a case-by-case basis may consider loan(s)loans below the threshold as impaired when such treatment is material to the financial statements. The Company reviews all the facts and circumstances surrounding non-accrual and TDR loans and on a case-by-case basis and may consider loan(s)loans below the threshold as impaired when such treatment is material to the Company's financial statements. Commercial and commercial real estate loans are generally placed inon non-accrual status when there is deterioration in the financial position of the borrower, payment in full of principal and interest is not expected, and/or principal or interest has been in default for 90 days or more. However, such a loan need not be placed in non-accrual status if it is both well secured and in the process of collection. Residential mortgages and home equity loans are considered for non-accrual status at 90 days past due and are evaluated on a case by case basis to assure that the Company’s net income is not materially overstated. The Company obtains current property appraisals or market value analysisanalyses and considers the cost to carry and sell collateral in order to assess the level of specific allocations required. Consumer loans are generally not placed in non-accrual but are charged off by the time they reach 120 days past due.
AThe portion of the allowance (termedtermed "unallocated") is established to absorb inherent losses that exist as of the valuation date although not specifically identified through management's process for estimating credit losses. While the allowance is described as consisting of separate allocated portions, the entire allowance is available to support loan losses, regardless of category.
The Company began experiencing increasing delinquencies and collection activity in 2008 when the most recent recession began. The slow recovery has resulted in prolonged work through of some of these delinquencies and problem loans. The Company works actively with customers early in the delinquency process to help them to avoid default and foreclosure. As a result ofDuring the recession that began in 2008,same period the Company experienced increasing trends in delinquencies and the levels of non-performing loans and criticized and classified assets, which is consistent with the length and depth of the most recent economic recession and the current measured recovery. Accordingly, duringDuring 2009 the Company had carried the maximum qualitative factor adjustment for weak economic conditions and startedis now slowly decreasing that factor duringas the first half of 2011.recovery progresses. The factors for trends in delinquency and non-accrual loans and criticized and classified assets had leveled off during the first half of 2011aswere similarly increased. With the economic recovery took hold, butcontinuing, the levels of both Group B and C loans have seen third quarter increases related to theshown gradual improvement. The sluggish pace of the economic recovery. Therecovery and the lack of national economic stimulus funding in 2011 is translatingtranslated into a slow and measured reversalimprovement of the negative trends experienced in the loan portfolio since the onset of the 2008 recession.
The Company’s non-performing assets increased $1,201,743decreased $173,296 or 17.2%1.9% during the first ninethree months of 20112012 from $6,994,002$9,279,128 at December 31, 20102011 to $8,195,745$9,105,832 as of September 30, 2011.March 31, 2012. The increasenon-performing loan decrease for the first quarter of 2012 is attributable in large part to the transfer of two properties into Other Real Estate Owned totaling $130,493, the auction liquidation of a $73,607 real estate loan, several factors principally taking placecharge offs relating to residential real estate loans and one further write down of a commercial real estate loan by $46,325. Foreclosure actions are in process on 18 non-performing loans to 14 borrowing relationships with balances totaling approximately $3.5 million; those foreclosures and claims on related government guarantees are expected to reduce non performing loans during 2012. Auctions are scheduled for the thirdsecond quarter includingof 2012 to liquidate collateral securing six non-performing loans that total $1.6 million. The $9.1 million of non-performing loans at March 31, 2012 carry $2.6 million in federal government guarantees, making the non-performing loans net of guarantee $6.5 million. At March 31, 2011, of the $5.1 million in non-performing loans, $1.2 million carried federal government guarantees, resulting in non-performing loans net of guarantee of $3.9 million.
When a loan is placed in non-accrual status, the Company's policy is to reverse the accrued interest against current period income and to discontinue the accrual of interest until the borrower clearly demonstrates the ability and intention to resume normal payments, typically demonstrated by regular timely payments for a larger CRE loan impacted by the floodingperiod of hurricane Irene, the troubled debt restructure of a struggling commercial relationship, and the recognition of three additional commercial troubled debt restructuringsnot less than six months. Interest payments received on non-accrual or impaired loans are generally applied as a resultreduction of the look back required by accounting standards.loan principal balance. Deferred taxes are calculated monthly, based on interest amounts that would have accrued through the normal accrual process.
Non-performing assets for the comparison periods were as follows:
| | | March 31, 2012 | | | December 31, 2011 | |
| | | | | | Percent | | | | | | Percent | |
| | | Balance | | | of Total | | | Balance | | | of Total | |
| | | | | | | | | | | | | |
| Loans past due 90 days or more and still accruing: | | | | | | | | | | |
| Commercial loans | | $ | 65,350 | | | | 0.72 | % | | $ | 59,618 | | | | 0.64 | % |
| Commercial real estate | | | 193,044 | | | | 2.12 | % | | | 98,554 | | | | 1.06 | % |
| Residential real estate - 1st lien | | | 928,443 | | | | 10.20 | % | | | 969,078 | | | | 10.44 | % |
| Residential real estate - Jr lien | | | 35,117 | | | | 0.39 | % | | | 111,061 | | | | 1.20 | % |
| Consumer | | | 0 | | | | 0.00 | % | | | 1,498 | | | | 0.02 | % |
| Total | | | 1,221,954 | | | | 13.43 | % | | | 1,239,809 | | | | 13.36 | % |
| | | | | | | | | | | | | | | | | |
| Non-accrual loans: | | | | | | | | | | | | | | | | |
| Commercial loans | | | 1,047,690 | | | | 11.50 | % | | | 1,066,945 | | | | 11.50 | % |
| Commercial real estate | | | 3,666,742 | | | | 40.27 | % | | | 3,714,146 | | | | 40.03 | % |
| Residential real estate - 1st lien | | | 2,604,285 | | | | 28.60 | % | | | 2,703,920 | | | | 29.14 | % |
| Residential real estate - Jr lien | | | 344,668 | | | | 3.78 | % | | | 464,308 | | | | 5.00 | % |
| Total | | | 7,663,385 | | | | 84.15 | % | | | 7,949,319 | | | | 85.67 | % |
| | | | | | | | | | | | | | | | | |
| Other real estate owned | | | 220,493 | | | | 2.42 | % | | | 90,000 | | | | 0.97 | % |
| | | | | | | | | | | | | | | | | |
| Total | | $ | 9,105,832 | | | | 100.00 | % | | $ | 9,279,128 | | | | 100.00 | % |
The Company’s non-accruingnon-accrual loans increased $2,708,472decreased $285,934 or 61.2%3.6% during the first ninethree months from $4,426,331$7,949,319 at December 31, 20102011 to $7,134,803$7,663,385 as of September 30, 2011.March 31, 2012. The Company’s impaired loans decreased $245,137 during the first three months of 2012 from $7,470,370 to $7,225,233. Specific allocations to the reserve increaseddecreased for the same period, from $392,700$458,500 to $499,200 largely due$383,500. Three impaired loans to one borrower, totaling approximately $1.0 million at December 31, 2008, were rewritten through a TDR in 2009 and as of March 31, 2012 the new allocations madebook balance was $462,843 and the loan is paying according to terms. Two other federally guaranteed loans to one borrower totaling $1.3 million at December 31, 2009 were rewritten through a TDR in 2010 and as of March 31, 2012 the book balance remains at just over $1.1 million; the subject loans are now in the foreclosure process. A $1.3 million residential mortgage loan modified in June 2010 now has a balance of $800,000 and is also in foreclosure. Two other non-performing loans with balances of approximately $1.0 million at December 31, 2011 were restructured in January 2012 to allow for tropical storm Irene flood related remediation and are performing under the new commercial andterms of the modification. The impaired portfolio as of March 31, 2012 includes approximately 32% residential first mortgages, 4% junior lien home equity loans, 50% commercial real estate, non-performing loans. Non-accrualwith the balance of 14% in commercial or installment loans include 17 loans totaling $3,778,606 classifiednot secured by real estate. This compares to the impaired portfolio as TDR’s, up from $2,795,588 atof December 31, 2010. The increase in TDR balances is principally due to the recognition of loan modifications as TDR’s. Regulatory agencies have provided recent guidance indicating2011 that in periods of market deterioration, declining housing prices and tightening credit standards, that most loan modifications should be considered TDR’s. The Company has recognized twenty-two additional modifiedincluded approximately 32% residential first mortgages, 6% junior lien home equity loans, as TDR’s since December 31, 2010, thirteen that are in non-accrual status. The remaining TDR’s are performing as agreed. The impaired portfolio mix as of September 30, 2011 includes approximately 44% residential real estate, 43%49% commercial real estate, andwith the balance of 13% in commercial or installment loans not secured by real estate, compared to 73%, 26%, and 1%, at December 31, 2010.estate.
The Company is not contractually committed to lend additional funds to debtors with impaired, non-accrual or modified loans.
AtAs of March 31, 2012 and December 31, 20102011, the OREO balance was $1,210,300 whichportfolio totaled $220,493 and $90,000 respectively. The Company’s OREO portfolio at March 31, 2012 consisted of four residentialthree properties one commercial property andacquired through the former LyndonBank branch property in Derby, Vermont. During the first nine months of 2011, the Company sold all of these properties and another residential property that was carried in OREO for less than one month. Proceeds from the sale of these properties amounted to $1,324,088.normal foreclosure process.
The Company is committed to a conservative lending philosophy and maintains high credit and underwriting standards. As of September 30, 2011,March 31, 2012 the Company maintained a total residential loan portfolio (including 1st lien and Jr lien) of $206,598,206$209,452,124 compared to $213,834,818$205,422,925 as of December 31, 20102011 and a commercial real estate portfolio (including construction, land development and farm land loans) of $137,892,249$130,920,418 as of September 30, 2011March 31, 2012 and $133,494,431$132,269,368 as of December 31, 2010,2011, together accounting for approximately 88%85.6% and 86.9%, of the total loan portfolio at September 30, 2011March 31, 2012 and December 31, 2010.2011.
The residential mortgage portfolio makes up the largest segment of the loan portfolio and as a result of the severity and depth of the recent recession it has recently seen the greatest degree of collection and foreclosure activity and losses. The Company however, has not experienced delinquencies and losses to the extent of national peers as the Company maintains a mortgage loan portfolio of traditional mortgage products and has not engaged in higher risk loans such as option ARMadjustable rate mortgage products, high loan-to-value products, interest only mortgages, sub primesubprime loans and products with deeply discounted teaser rates. In areas of the country where such risky products were originated, borrowers with little or no equity in their property have been defaulting on mortgages they can no longer afford, and walking away from those properties as real estate values have fallen precipitously. While real estate values have declined in the Company’s market area, the sound underwriting standards historically employed by the Company have mitigated the trends in defaults and property surrenders experienced elsewhere. In addition, the Company’s market area did not experience the pre-recession run up in real estate values to the same extent as other parts of the country and, consequently, local real estate values, though generally lower than pre-recession levels, have not fallen as precipitously. Residential mortgages with loan-to-values exceeding 80% are generally covered by private mortgage insurance (PMI). A 90% loan-to-value residential mortgage product without PMI is only available to borrowers with excellent credit and low debt-to-income ratios and has not been widely originated. Junior lien home equity products make up 23%22% of the residential mortgage portfolio with maximum loan-to-value ratios (including prior liens) of 80%. The residential mortgage portfolio has performed wellhad satisfactory performance in light of the depth of the recent recession and the slow recovery.
Risk in the Company’s commercial and commercial real estate loan portfolios is mitigated in part by using government guarantees issued by federal agencies such as the USU.S. Small Business Administration and USDA Rural Development. At September 30, 2011March 31, 2012, the Company had $22,385,021$27,816,786 in guaranteed loans with guaranteed balances of 22,650,426, compared to $22,074,715$28,077,575 in guaranteed loans with guaranteed balances of $22,885,794 at December 31, 2010.
The following table summarizes the Company's loan loss experience for the nine months ended September 30,
| | | 2011 | | | 2010 | |
| | | | | | | |
| Loans outstanding end of period | | $ | 390,960,106 | | | $ | 390,020,128 | |
| Average loans outstanding during period | | $ | 390,948,990 | | | $ | 386,040,376 | |
| Non-accruing loans end of period | | $ | 7,134,803 | | | $ | 4,616,582 | |
| | | | | | | | | |
| Loan loss reserve, beginning of period | | $ | 3,727,935 | | | $ | 3,450,542 | |
| Loans charged off: | | | | | | | | |
| Residential real estate | | | (562,524 | ) | | | (402,441 | ) |
| Commercial real estate | | | (21,679 | ) | | | (148,605 | ) |
| Commercial loans not secured by real estate | | | (22,050 | ) | | | (32,266 | ) |
| Consumer loans | | | (74,677 | ) | | | (67,277 | ) |
| Total loans charged off | | | (680,930 | ) | | | (650,589 | ) |
| Recoveries: | | | | | | | | |
| Residential real estate | | | 27,955 | | | | 4,065 | |
| Commercial real estate | | | 6,422 | | | | 7,104 | |
| Commercial loans not secured by real estate | | | 12,665 | | | | 9,033 | |
| Consumer loans | | | 29,293 | | | | 27,945 | |
| Total recoveries | | | 76,335 | | | | 48,147 | |
| Net loans charged off | | | (604,595 | ) | | | (602,442 | ) |
| Provision charged to income | | | 712,500 | | | | 858,334 | |
| Loan loss reserve, end of period | | $ | 3,835,840 | | | $ | 3,706,434 | |
| | | | | | | | | |
| Net charge offs to average loans outstanding | | | 0.155 | % | | | 0.156 | % |
| Provision charged to income as a percent of average loans | | | 0.182 | % | | | 0.222 | % |
| Loan loss reserve to average loans outstanding | | | 0.981 | % | | | 0.960 | % |
| Loan loss reserve to non-accruing loans * | | | 53.762 | % | | | 80.285 | % |
*The percentage includes two loans that were transferred to non-accrual status during the first quarter of 2010 carrying 90% guarantees by USDA Rural Development which, if the guaranteed portion were deducted, would increase the coverage to 62.4% as of September 30, 2011 and 102.4% as of September 30, 2010.2011.
GivenThe Company made a first quarter 2012 provisions to the allowance for loan portfolio trendslosses of $250,003, comparable to the level of the provision made over the last two years and sufficient, in management’s view, to cover first quarter 2012 net losses of $184,016 and to provide for growth in the loan portfolio. Net loan losses began increasing in 2007 and 2008 as a result of the recession and, given the increasing trend, the depth of the recession and the recent recessionlong and measuredshallow recovery, management increased its provision for loan losses to $1.0 million for 2011 and just under $1.1 million for 2010, compared to $625,004 for 2009. Management believes that the increase in the provision for loan losses was $287,500, including an additional provision of $245,833, for the quarter ended September 30, 2011 compared to $433,334, including an additional provision of $391,667, for the quarter ended September 30, 2010. The increase in both periods was attributable not only to net charge offs during the quarters, but also to increases in the level of specific allocations associated with impaired loans. Net charge offs during the thirdfirst quarter of 2011 totaled $303,029, compared to $166,162 for2012 and prior recent periods is directionally consistent with the same period last year. The higher leveltrends and risk in the loan portfolio and with the growth of 2011 charge off activity is attributable largely to the resolution of several non-performing loans and the further write-down of a real estate secured loan.loan portfolio. Management will continue to monitor the activity of non-performing loans, carefully assess the reserve requirement and adjust the provision in future periods as circumstances warrant. The Company has an experienced collections department that continues to work actively work with borrowers to resolve problem loans.
Non-performing assets forloans, and management continues to monitor the comparison periods were as follows:
| | | September 30, 2011 | | | December 31, 2010 | |
| | | | | | Percent | | | | | | Percent | |
| | | Balance | | | of Total | | | Balance | | | of Total | |
| | |
| Non-accrual loans: | | | | | | | | | | | | |
| Commercial loans | | $ | 917,328 | | | | 11.19 | % | | $ | 61,226 | | | | 0.88 | % |
| Commercial real estate | | | 2,911,034 | | | | 35.52 | % | | | 1,145,194 | | | | 16.37 | % |
| Residential real estate | | | 3,306,441 | | | | 40.34 | % | | | 3,219,911 | | | | 46.04 | % |
| Total | | | 7,134,803 | | | | 87.05 | % | | | 4,426,331 | | | | 63.29 | % |
| | |
| Loans past due 90 days or more and still accruing: | |
| Commercial loans | | | 21,824 | | | | 0.27 | % | | | 29,446 | | | | 0.42 | % |
| Commercial real estate | | | 209,506 | | | | 2.56 | % | | | 94,982 | | | | 1.36 | % |
| Residential real estate | | | 828,602 | | | | 10.11 | % | | | 1,194,477 | | | | 17.08 | % |
| Consumer | | | 1,010 | | | | 0.01 | % | | | 38,466 | | | | 0.55 | % |
| Total | | | 1,060,942 | | | | 12.95 | % | | | 1,357,371 | | | | 19.41 | % |
| | |
| Other real estate owned | | | 0 | | | | 0.00 | % | | | 1,210,300 | | | | 17.30 | % |
| | |
| Total | | $ | 8,195,745 | | | | 100.00 | % | | $ | 6,994,002 | | | | 100.00 | % |
loan portfolio closely.
Market Risk - In addition to credit risk in the Company’s loan portfolio and liquidity risk in its loan and deposit-taking operations, the Company’s business activities also generate market risk. Market risk is the risk of loss in a financial instrument arising from adverse changes in market prices and rates, foreign currency exchange rates, commodity prices and equity prices. Declining capital markets can result in fair value adjustments necessary to record decreases in the value of the investment portfolio for other-than-temporary-impairment. The Company does not have any market risk sensitive instruments acquired for trading purposes. The Company’s market risk arises primarily from interest rate risk inherent in its lending investing, and deposit taking activities. During times of recessionary periods, a declining housing market can result in an increase in loan loss reserves or ultimately an increase in foreclosures. Interest rate risk is directly related to the different maturities and repricing characteristics of interest-bearing assets and liabilities, as well as to loan prepayment risks, early withdrawal of time deposits, and the fact that the speed and magnitude of responses to interest rate changes vary by product. Changes in the interest rate environment also affect the valuation and yields earned on investment securities. The deterioration of theprolonged weak economy and disruption in the financial markets duringin recent years may heighten the Company’s market risk. As discussed above under "Interest Rate Risk and Asset and Liability Management", the Company actively monitors and manages its interest rate risk through the ALCO process.
FINANCIAL INSTRUMENTS WITH OFF-BALANCE SHEET RISKCOMMITMENTS, CONTINGENCIES AND OFF-BALANCE-SHEET ARRANGEMENTS
The Company is a party to financial instruments with off-balance sheetoff-balance-sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit, standby letters of credit and risk-sharing commitments on certain sold loans. Such instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the balance sheet. The contract or notional amounts of those instruments reflect the extent of involvement the Company has in particular classes of financial instruments. During the first ninethree months of 2011,2012, the Company did not engage in any activity that created any additional types of off-balance sheet risk.
The Company is a party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers and to reduce its own exposure to fluctuations in interest rates. These financial instruments include commitments to extend credit (including commercial and construction lines of credit), standby letters of credit and risk-sharing commitments on certain sold loans. Such instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the balance sheet. The contract or notional amounts of those instruments reflect the extent of involvement the Company has in particular classes of financial instruments.
The Company generally requires collateral or other security to support financial instruments with credit risk. The Company's financial instruments or commitments whose contract amount represents credit risk as of September 30, 2011 were as follows:
| | | Contract or | | | -Contract or Notional Amount- | |
| | | -Notional Amount- | | | March 31, 2012 | | | December 31, 2011 | |
| | | | | | | | | | |
| Unused portions of home equity lines of credit | | $ | 20,334,239 | | | $ | 21,186,758 | | | $ | 20,161,629 | |
| Other commitments to extend credit | | | 40,797,625 | | | | 32,892,880 | | | | 38,106,476 | |
| Residential construction lines of credit | | | 1,232,538 | | | | 350,290 | | | | 588,290 | |
| Commercial real estate and other construction lines of credit | | | 3,767,351 | | | | 2,202,747 | | | | 2,126,558 | |
| Standby letters of credit and commercial letters of credit | | | 1,544,210 | | | | 1,864,414 | | | | 1,954,885 | |
| Recourse on sale of credit card portfolio | | | 398,200 | | | | 391,600 | | | | 398,200 | |
| MPF credit enhancement obligation, net (See Note 16) | | | 1,923,820 | | |
| MPF credit enhancement obligation, net of liability recorded | | | | 1,977,739 | | | | 1,979,684 | |
Since somemany of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The Company sold its credit card portfolio during the third quarter of 2007, but retained a partial recourse provisionobligation under the terms of the sale, of the Company’s credit card portfolio in 2007 is based on total lines, not balances outstanding. The remaining recourse, which consists of business customers and Canadian customers, is subject to increase, but only to the extent that the Company, in its discretion, approves a requested increase by a customer whose credit line is still active and included in the recourse portfolio. Based on historical losses, and adjusting for current economic conditions, the Company does not expect any significant losses from this commitment.
In connection with its trust preferred securities financing completed on October 31, 2007, the Company guaranteed the payment obligations under the $12,500,000 of capital securities of its subsidiary, CMTV Statutory Trust I. The source of funds for payments by the Trust on its capital securities is payments made by the Company on its debentures issued to the Trust. The Company's obligation under those debentures is fully reflected in the Company's balance sheet, in the gross amount of $12,887,000 for each of the comparison periods, of which $12,500,000 represents external financing.
During 2011, an audit conducted by the Vermont Tax Department resulted in a sales and use tax assessment, including interest and penalties, of $171,563, which was subsequently reduced to $118,506. The Company disputes various portions of the adjusted assessment and has filed a notice of appeal. Furthermore, pending legislative proposals on the taxation of cloud computing, if enacted, could further reduce the assessment. As of March 31, 2012, the Company had accrued a liability in the amount of $65,000 relating to this matter.
LIQUIDITY AND CAPITAL RESOURCES
Managing liquidity risk is essential to maintaining both depositor confidence and stability in earnings. Liquidity management refers to the ability of the Company to adequately cover fluctuations in assets and liabilities. Meeting loan demand (assets) and covering the withdrawal of deposit funds (liabilities) are two key components of the liquidity management process. The Company’s principal sources of funds are deposits, amortization and prepayment of loans and securities, maturities of investment securities, sales of loans available for sale,available-for-sale, and earnings and funds provided from operations. Maintaining a relatively stable funding base, which is achieved by diversifying funding sources, competitively pricing deposit products, and extending the contractual maturity of liabilities, reduces the Company’s exposure to roll over risk on deposits and limits reliance on volatile short-term borrowed funds. Short-term funding needs arise from declines in deposits or other funding sources and funding requirements for loan commitments. The Company’s strategy is to fund assets to the maximum extent possible with core deposits that provide a sizable source of relatively stable and low-cost funds.
In order to attract deposits, the Company has from time to time taken the approach of offering deposit specials at competitive rates, in varying terms that fit within the balance sheet mix. The strategy of offering specials is meant to provide a means to retain deposits while not having to reprice the entire deposit portfolio. The Company recognizes that with increasing competition for deposits,at times when loan demand exceeds deposit growth, it may at times be desirable to utilize alternative sources of deposit funding to augment retail deposits and borrowings. One-way deposits purchased through the Certificate of Deposit Account Registry Service (CDARS) of Promontory Interfinancial NetworkCDARS provide an alternative funding source when needed. Such deposits are generally considered a form of brokered deposits. The Company had $11,476,000 and $0 in one-way funds on March 31, 2012 and December 31, 2011, respectively. In addition, two-way CDARS deposits allow the Company to provide FDIC deposit insurance to its customers in excess of account coverage limits by exchanging deposits with other CDARS members. At September 30, 2011 and DecemberMarch 31, 2010,2012, the Company reported $1,313,834$1,019,541 in CDARS deposits representing exchanged deposits with other CDARS participating banks.banks compared to $1,121,632 at December 31, 2011. The Company did not have any “one way” CDARSbalance in ICS deposits as of either date.was $13,030,100 at March 31, 2012, compared to $10,872,204 at December 31, 2011.
In 2009 theThe Company establishedhas a borrowing lineBorrower-in-Custody arrangement with the FRBB to be used as a contingency funding source. For this Borrower-in-Custody arrangement, the Company pledgedFederal Reserve Bank of Boston (FRBB) secured by eligible commercial loans, commercial real estate loans and home equity loans, resulting in an available line of $67,865,212$69,693,455 and $70,695,535,$69,222,549, respectively at September 30, 2011March 31, 2012 and December 31, 2010.2011. Credit advances in the FRBB lending program are overnight advances with interest chargeable at the primary credit rate (generally referred to as the discount rate), currently 75 basis points. At September 30, 2011March 31, 2012 and December 31, 2010,2011, the Company had no outstanding advances against this line.
The Company has an unsecured Federal Funds line with the FHLBB with an available balance of $500,000 at September 30, 2011March 31, 2012 and December 31, 2010.2011. Interest is chargeable at a rate determined daily approximately 25 basis points higher than the rate paid on federal funds sold. As of September 30, 2011In addition, at March 31, 2012 and December 31, 2010,2011, additional borrowing capacity of approximately $76,744,834$68,399,795 and $85,552,034,$77,902,569, respectively, was available through the FHLBB secured by the Company's qualifying loan portfolio (generally, residential mortgages).
The following table reflects the Company’s outstanding FHLBB advances against the respective lines as of the dates indicated:
| | | September 30, | | | December 31, | | | September 30, | | | March 31, | | | December 31, | | | March 31, | |
| | | 2011 | | | 2010 | | | 2010 | | | 2012 | | | 2011 | | | 2011 | |
| Long-Term Advances | | | | | | | | | | | | | | | | | | |
| FHLBB term borrowing, 2.13% fixed rate, due January 31, 2011 | | $ | 0 | | | $ | 10,000,000 | | | $ | 10,000,000 | | |
| FHLBB Community Investment Program borrowing, 7.67% fixed | | | | | | | | | | | | | | | | | | | | | |
| rate, due November 16, 2012 | | | 10,000 | | | | 10,000 | | | | 10,000 | | | $ | 10,000 | | | $ | 10,000 | | | $ | 10,000 | |
| FHLBB term borrowing, 1.00% fixed rate, due January 27, 2012 | | | 6,000,000 | | | | 6,000,000 | | | | 6,000,000 | | | | 0 | | | | 6,000,000 | | | | 6,000,000 | |
| FHLBB term borrowing, 1.71% fixed rate, due January 27, 2013 | | | 6,000,000 | | | | 6,000,000 | | | | 6,000,000 | | |
| FHLBB term borrowing, 1.71% fixed rate, due January 28, 2013 | | | | 6,000,000 | | | | 6,000,000 | | | | 6,000,000 | |
| FHLBB term borrowing, 2.72% fixed rate, due January 27, 2015 | | | 6,000,000 | | | | 6,000,000 | | | | 6,000,000 | | | | 6,000,000 | | | | 6,000,000 | | | | 6,000,000 | |
| | | | 18,010,000 | | | | 28,010,000 | | | | 28,010,000 | | | | 12,010,000 | | | | 18,010,000 | | | | 18,010,000 | |
| Short-Term Advances | | | | | | | | | | | | | |
| FHLBB term borrowing, 0.39% fixed rate, due January 19, 2011 | | | 0 | | | | 5,000,000 | | | | 5,000,000 | | |
| Overnight Borrowings | | | | | | | | | | | | | |
| Federal funds purchased (FHLBB), 0.28% | | | | 8,760,000 | | | | 0 | | | | 0 | |
| | | | | | | | | | | | | | | | | | | | | | | | | |
| Total Borrowings | | $ | 18,010,000 | | | $ | 33,010,000 | | | $ | 33,010,000 | | | $ | 20,770,000 | | | $ | 18,010,000 | | | $ | 18,010,000 | |
Under a separate agreement, the Company has the authority to collateralize public unit deposits up to its FHLBB borrowing capacity ($76,744,83468,399,795 and $85,552,034$77,902,569, at September 30, 2011March 31, 2012 and December 31, 2010,2011 respectively, less outstanding advances) with letters of credit issued by the FHLBB. The Company offers a Government Agency Account to the municipalities collateralized with these FHLBB letters of credit. At September 30, 2011March 31, 2012 and December 31, 2010,2011, approximately $19,350,000$18,800,000 and $40,550,000,$15,950,000, respectively, of qualifying residential real estate loans was pledged as collateral to the FHLBB for these collateralized governmental unit deposits. The large variance in the balances reflects the municipal finance cycle.
On SeptemberMarch 13, 2011,2012, the Company declared a cash dividend of $0.14 on common stock payable on NovemberMay 1, 2011,2012, to shareholders of record as of OctoberApril 15, 2011,2012, which was accrued in the financial statements at September 30, 2011.March 31, 2012.
The following table illustrates the changes in shareholders' equity from December 31, 20102011 to September 30, 2011:March 31, 2012:
| Balance at December 31, 2010 (book value $7.92 per common share) | | $ | 39,127,669 | | |
| Balance at December 31, 2011 (book value $8.13 per common share) | | | $ | 40,918,409 | |
| Net income | | | 2,636,811 | | | | 964,849 | |
| Issuance of stock through the Dividend Reinvestment Plan | | | 719,040 | | | | 222,237 | |
| Dividends declared on common stock | | | (1,954,606 | ) | | | (661,881 | ) |
| Dividends declared on preferred stock | | | (140,625 | ) | | | (46,875 | ) |
| Change in unrealized gain on available-for-sale securities, net of tax | | | 92,623 | | | | 35,490 | |
| Balance at September 30, 2011 (book value $8.07 per common share) | | $ | 40,480,912 | | |
| Balance at March 31, 2012 (book value $8.19 per common share) | | | $ | 41,432,229 | |
The primary source of funds for the Company's payment of dividends to its shareholders is dividends paid to the Company by the Bank. The Bank, as a national bank, is subject to the dividend restrictions contained inset forth by the National Bank Act.Comptroller of the Currency (OCC). Under such restrictions, the Bank may not, without the prior approval of the Comptroller of the Currency (“OCC”),OCC, declare dividends in excess of the sum of the current year's earnings (as defined) plus the retained earnings (as defined) from the prior two years.
The Company (on a consolidated basis) and the Bank are subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory - and possibly additional discretionary - actions by regulators that, if undertaken, could have a direct material effect on the Company's and the Bank's financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company and the Bank must meet specific capital guidelines that involve quantitative measures of their assets, liabilities, and certain off-balance-sheet items, as calculated under regulatory accounting practices. Capital amounts and classifications are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors. Prompt corrective action capital requirements are applicable to banks, but not bank holding companies.
Quantitative measures established by regulation to ensure capital adequacy require the Company and the Bank to maintain minimum amounts and ratios (set forth in the table below) of total and Tier 1 capital (as defined in the regulations) to risk-weighted assets (as defined), and of Tier 1 capital (as defined) to average assets (as defined). The Company’s Series A non-cumulative preferred stock ($2,500,0002.5 million liquidation preference) is includable without limitation in its Tier 1 capital. For 2010 and prior annual and quarterly periods the Company’s trust preferred junior subordinated debentures were includable in Tier 1 capital up to 25% of core capital elements, with the balance includable in Tier 2 capital.
In accordance with changes in the regulatory requirements for calculating capital ratios, beginning with the quarter ended March 31, 2011, the Company is required to deductdeducts the amount of goodwill, net of deferred tax liability ($2,061,772 at September 30,March 31, 2012 and December 31, 2011), for purposes of calculating the amount of trust preferred junior subordinated debentures includable in Tier 1 capital ($10,312,482). Under the previous calculation method, the entire amount of trust preferred junior subordinated debentures ($12,887,000) would have been includable in the Company’s Tier 1 capital, which would have resulted in a ratio of Tier 1 capital to risk-weighted assets of 11.47% and a ratio of Tier 1 capital to average assets of 7.93%.capital. Management believes, as of September 30, 2011,March 31, 2012, that the Company and the Bank met all capital adequacy requirements to which they are subject.
As of September 30, 2011March 31, 2012 the Bank was considered well capitalized under the regulatory capital framework for Prompt Corrective Action and the Company exceeded applicable consolidated regulatory capital guidelines.
The regulatory capital ratios of the Company and its subsidiary as of September 30, 2011March 31, 2012 and December 31, 20102011 exceeded regulatory guidelines and are presented in the following table.
| | | | | Minimum | | | | | | | | | | | | | | Minimum | |
| | | Minimum | To Be Well | | | | | | | | Minimum | | | To Be Well | |
| | | For Capital | Capitalized Under | | | | | | | | For Capital | | | Capitalized Under | |
| | | Adequacy | Prompt Corrective | | | | | | | | Adequacy | | | Prompt Corrective | |
| | Actual | Purposes: | Action Provisions: | | Actual | | | Purposes: | | | Action Provisions: | |
| | Amount | Ratio | Amount | Ratio | Amount | Ratio | | Amount | | | Ratio | | | Amount | | | Ratio | | | Amount | | | Ratio | |
| | (Dollars in Thousands) | | (Dollars in Thousands) | |
| As of September 30, 2011: | |
| As of March 31, 2012: | | As of March 31, 2012: | |
| Total capital (to risk-weighted assets) | Total capital (to risk-weighted assets) | Total capital (to risk-weighted assets) | |
| Company | $45,731 | 12.54% | $29,168 | 8.00% | N/A | | $ | 46,944 | | | | 12.36 | % | | $ | 30,379 | | | | 8.00 | % | | | N/A | | | | N/A | |
| Bank | $44,913 | 12.34% | $29,111 | 8.00% | $36,389 | 10.00% | | $ | 46,347 | | | | 12.22 | % | | $ | 30,340 | | | | 8.00 | % | | $ | 37,924 | | | | 10.00 | % |
| | | | |
| Tier I capital (to risk-weighted assets) | Tier I capital (to risk-weighted assets) | Tier I capital (to risk-weighted assets) | |
| Company | $39,256 | 10.77% | $14,584 | 4.00% | N/A | | $ | 40,682 | | | | 10.71 | % | | $ | 15,189 | | | | 4.00 | % | | | N/A | | | | N/A | |
| Bank | $41,012 | 11.27% | $14,556 | 4.00% | $21,833 | 6.00% | | $ | 42,342 | | | | 11.16 | % | | $ | 15,170 | | | | 4.00 | % | | $ | 22,755 | | | | 6.00 | % |
| | | | |
| Tier I capital (to average assets) | Tier I capital (to average assets) | Tier I capital (to average assets) | |
| Company | $39,256 | 7.44% | $21,105 | 4.00% | N/A | | $ | 40,682 | | | | 7.52 | % | | $ | 21,645 | | | | 4.00 | % | | | N/A | | | | N/A | |
| Bank | $41,012 | 7.78% | $21,081 | 4.00% | $26,351 | 5.00% | | $ | 42,342 | | | | 7.83 | % | | $ | 21,624 | | | | 4.00 | % | | $ | 27,030 | | | | 5.00 | % |
| | |
| As of December 31, 2010: | |
| Total capital (to risk-weighted assets) | |
| Company | $43,942 | 12.33% | $28,505 | 8.00% | N/A | |
| Bank | $43,364 | 12.20% | $28,439 | 8.00% | $35,549 | 10.00% | |
| | |
| Tier I capital (to risk-weighted assets) | |
| Company | $40,187 | 11.28% | $14,253 | 4.00% | N/A | |
| Bank | $39,610 | 11.14% | $14,220 | 4.00% | $21,329 | 6.00% | |
| | |
| Tier I capital (to average assets) | |
| Company | $40,187 | 7.52% | $21,376 | 4.00% | N/A | |
| Bank | $39,610 | 7.42% | $21,345 | 4.00% | $26,681 | 5.00% | |
| | | | | | | | | | | | | | | Minimum | |
| | | | | | | | | Minimum | | | To Be Well | |
| | | | | | | | | For Capital | | | Capitalized Under | |
| | | | | | | | | Adequacy | | | Prompt Corrective | |
| | | Actual | | | Purposes: | | | Action Provisions: | |
| | | Amount | | | Ratio | | | Amount | | | Ratio | | | Amount | | | Ratio | |
| | | (Dollars in Thousands) | |
| As of December 31, 2011: | |
| Total capital (to risk-weighted assets) | |
| Company | | $ | 46,351 | | | | 12.50 | % | | $ | 29,660 | | | | 8.00 | % | | | N/A | | | | N/A | |
| Bank | | $ | 45,772 | | | | 12.37 | % | | $ | 29,596 | | | | 8.00 | % | | $ | 36,995 | | | | 10.00 | % |
| | |
| Tier I capital (to risk-weighted assets) | |
| Company | | $ | 39,980 | | | | 10.78 | % | | $ | 14,830 | | | | 4.00 | % | | | N/A | | | | N/A | |
| Bank | | $ | 41,830 | | | | 11.31 | % | | $ | 14,798 | | | | 4.00 | % | | $ | 22,197 | | | | 6.00 | % |
| | |
| Tier I capital (to average assets) | |
| Company | | $ | 39,980 | | | | 7.28 | % | | $ | 21,965 | | | | 4.00 | % | | | N/A | | | | N/A | |
| Bank | | $ | 41,830 | | | | 7.63 | % | | $ | 21,935 | | | | 4.00 | % | | $ | 27,419 | | | | 5.00 | % |
The Company intends to continue the past policy of maintaining a strong capital resource position to support its asset size and level of operations. Consistent with that policy, management will continue to anticipate the Company's future capital needs and will adjust its dividend payment practices consistent with those needs.
From time to time the Company may make contributions to the capital of Community National Bank. At present, regulatory authorities have made no demand on the Company to make additional capital contributions.
ITEM 3. Quantitative and Qualitative Disclosures about Market Risk
The Company's management of the credit, liquidity and market risk inherent in its business operations is discussed in Part 1, Item 2 of this report under the captions "RISK MANAGEMENT" and “FINANCIAL INSTRUMENTS WITH OFF BALANCE SHEET RISK”“COMMITMENTS, CONTINGENCIES AND OFF-BALANCE-SHEET ARRANGEMENTS”, which are incorporated herein by reference. Management does not believe that there have been any material changes in the nature or categories of the Company's risk exposures from those disclosed in the Company’s 20102011 Annual Report on form 10-K.
ITEM 4. Controls and Procedures
Disclosure Controls and Procedures
Management is responsible for establishing and maintaining effective disclosure controls and procedures, as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934 (the “Exchange Act”). As of September 30, 2011,March 31, 2012, an evaluation was performed under the supervision and with the participation of management, including the principal executive officer and principal financial officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures. Based on that evaluation, management concluded that its disclosure controls and procedures as of September 30, 2011March 31, 2012 were effective in ensuring that material information required to be disclosed in the reports it files with the Commission under the Exchange Act was recorded, processed, summarized, and reported on a timely basis.
For this purpose, the term “disclosure controls and procedures” means controls and other procedures of the Company that are designed to ensure that information required to be disclosed by it in the reports that it files or submits under the Exchange Act (15 U.S.C. 78a et seq.) is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by the Company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the Company’s management, including its principal executive and principal financial officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure.
Changes in Internal Control Over Financial Reporting
There were no changes in the Company’s internal control over financial reporting that occurred during the quarter ended September 30, 2011March 31, 2012 that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.
PART II. OTHER INFORMATION
ITEM 1. Legal Proceedings
In the normal course of business the Company and its subsidiary are involved in litigation that is considered incidental to their business. Management does not expect that any such litigation will be material to the Company's consolidated financial condition or results of operations.
ITEM 2. Unregistered Sales of Equity Securities and Use of Proceeds
The following table provides information as to purchases of the Company’s common stock during the quarter ended September 30, 2011,March 31, 2012, by the Company and by any affiliated purchaser (as defined in SEC Rule 10b-18):
| | | | | | | | | | | | Maximum Number of | |
| | | | | | | | | Total Number of | | | Shares That May Yet | |
| | | Total Number | | | Average | | | Shares Purchased | | | Be Purchased Under | |
| | | of Shares | | | Price Paid | | | as Part of Publicly | | | the Plan at the End | |
| For the period: | | Purchased(1)(2) | | | Per Share | | | Announced Plan | | | of the Period | |
| | | | | | | | | | | | | |
| July 1 – July 31 | | | 3,200 | | | $ | 9.75 | | | | N/A | | | | N/A | |
| August 1 – August 31 | | | 6,600 | | | | 9.75 | | | | N/A | | | | N/A | |
| September 1 – September 30 | | | 0 | | | | 0.00 | | | | N/A | | | | N/A | |
| Total | | | 9,800 | | | $ | 9.75 | | | | N/A | | | | N/A | |
| | | | | | | | | | | | Maximum Number of | |
| | | | | | | | | Total Number of | | | Shares That May Yet | |
| | | Total Number | | | Average | | | Shares Purchased | | | Be Purchased Under | |
| | | of Shares | | | Price Paid | | | as Part of Publicly | | | the Plan at the End | |
| For the period: | | Purchased(1)(2) | | | Per Share | | | Announced Plan | | | of the Period | |
| | | | | | | | | | | | | |
| January 1 – January 31 | | | 0 | | | $ | 0.00 | | | | N/A | | | | N/A | |
| February 1 – February 29 | | | 4500 | | | | 9.50 | | | | N/A | | | | N/A | |
| March 1 – March 31 | | | 11,800 | | | | 9.66 | | | | N/A | | | | N/A | |
| Total | | | 16,300 | | | $ | 9.66 | | | | N/A | | | | N/A | |
(1) All 9,80016,300 shares were purchased for the account of participants invested in the Company Stock Fund under the Company’s Retirement Savings Plan by or on behalf of the Plan Trustee, the Human Resources Committee of Community National Bank. Such share purchases were facilitated through CFSG, which provides certain investment advisory services to the Plan. Both the Plan Trustee and CFSG may be considered affiliates of the Company under Rule 10b-18.
(2) Shares purchased during the period do not include fractional shares repurchased from time to time in connection with the participant's election to discontinue participation in the Company's Dividend Reinvestment Plan.
The following exhibits are filed with this report:
Exhibit 31.1 - Certification from the Chief Executive Officer of the Company pursuant to section 302 of the Sarbanes-Oxley Act of 2002
Exhibit 31.2 - Certification from the Chief Financial Officer of the Company pursuant to section 302 of the Sarbanes-Oxley Act of 2002
Exhibit 32.1 - Certification from the Chief Executive Officer of the Company pursuant to 18 U.S.C., Section 1350, as adopted pursuant to section 906 of the Sarbanes-Oxley Act of 2002*
Exhibit 32.2 - Certification from the Chief Financial Officer of the Company pursuant to 18 U.S.C., Section 1350, as adopted pursuant to section 906 of the Sarbanes-Oxley Act of 2002*
| Exhibit 101-- | The following materials from the Company’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2011March 31, 2012 formatted in eXtensible Business Reporting Language (XBRL): (i) the unaudited consolidated balance sheets, (ii) the unaudited consolidated statements of income for the thirdfirst quarters ended March 31, 2012 and nine months ended September 30, 2011, and 2010, (iii) the unaudited consolidated statements of comprehensive income, (iv) the unaudited consolidated statements of cash flows and (iv)(v) related notes, tagged as blocks of text.* ** |
* This exhibit shall not be deemed “filed” for purposes of Section 18 of the Securities Exchange Act of 1934, or otherwise subject to the liability of that section, and shall not be deemed to be incorporated by reference into any filing under the Securities Act of 1933 or the Securities Exchange Act of 1934.
** As provided in Rule 406T of Regulation S-T, this information is furnished and not filed for purposes of Sections 11 and 12 of the Securities Act of 1933 and Section 18 of the Securities Exchange Act of 1934.
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
COMMUNITY BANCORP.
DATED: NovemberMay 14, 20112012 | /s/ Stephen P. Marsh | |
| | Stephen P. Marsh, Chairman, President | |
| | & Chief Executive Officer | |
| | | |
DATED: NovemberMay 14, 20112012 | /s/ Louise M. Bonvechio | |
| | Louise M. Bonvechio, Treasurer | |
| | (Principal Financial Officer) | |
