0001130144us-gaap:AgriculturalSectorMemberbsrr:AgriculturalPortfolioSegmentMember2020-03-31

Table of Contents

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

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

FOR THE QUARTERLY PERIOD ENDED JUNE 30, 20192020

Commission file number: 000-33063

SIERRA BANCORP

(Exact name of Registrant as specified in its charter)

California

33-0937517

California

33-0937517

(State of Incorporation)

(IRS Employer Identification No)

86 North Main Street, Porterville, California93257

(Address of principal executive offices)                  (Zip Code)

(559) (559) 782-4900

(Registrant’s telephone number, including area code)

Not Applicable

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

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

Title of each class

Trading

Symbol(s)

Name of each exchange on which registered

Common Stock, no par value

BSRR

The NASDAQ Stock Market LLC

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

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

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

Large Accelerated Filer

 

  

Accelerated Filer:

 

Non-accelerated Filer:

 

  

Smaller Reporting Company:

 

Emerging Growth Company:

If an emerging growth company, indicate by check mark if the Registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section7(a)(2)(B) of the Securities Act.

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

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

As of August 1, 2019,2020, the registrant had 15,338,27015,192,838 shares of common stock outstanding.

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

Title of each class

Trading

Symbol(s)

Name of each exchange on which registered

Common Stock, no par value

BSRR

The NASDAQ Stock Market LLC

Table of Contents

FORM 10-Q

Table of Contents

Page

Part I - Financial Information

1

Item 1. Financial Statements (Unaudited)

1

Consolidated Balance Sheets

1

Consolidated Statements of Income

2

Consolidated Statements of Comprehensive Income

3

Consolidated Statements of Changes In Stockholder’s Equity

4

Consolidated Statements of Cash Flows

6

Notes to Consolidated Financial Statements (Unaudited)

7

Item 2. Management’s Discussion & Analysis of Financial Condition & Results of Operations

34

35

Forward-Looking Statements

34

35

Critical Accounting Policies

34

35

Overview of the Results of Operations and Financial Condition

35

36

Earnings Performance

36

40

Net Interest Income and Net Interest Margin

37

40

Provision for Loan and Lease Losses

41

45

Noninterest Income and Noninterest Expense

42

46

Provision for Income Taxes

44

47

Balance Sheet Analysis

44

48

Earning Assets

44

48

Investments

44

48

Loan and Lease Portfolio

45

49

Nonperforming Assets

47

51

Allowance for Loan and Lease Losses

48

52

Off-Balance Sheet Arrangements

50

55

Other Assets

50

55

Deposits and Interest-Bearing Liabilities

51

55

Deposits

51

55

Other Interest-Bearing Liabilities

52

56

Noninterest Bearing Liabilities

53

57

Liquidity and Market Risk Management

53

57

Capital Resources

55

60

Item 3. Qualitative & Quantitative Disclosures about Market Risk

56

61

Item 4. Controls and Procedures

57

62

Part II - Other Information

58

63

Item 1. - Legal Proceedings

58

63

Item 1A. - Risk Factors

58

63

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

58

64

Item 3. - Defaults upon Senior Securities

58

64

Item 4. - Mine Safety Disclosures

58

64

Item 5. - Other Information

58

64

Item 6. - Exhibits

59

65

Signatures

60

66

PART I - FINANCIAL INFORMATION

Item 1 – Financial Statements

SIERRA BANCORP

CONSOLIDATED BALANCE SHEETS

(dollars in thousands)

 

 

 

 

 

 

 

 

    

June 30, 2019

    

December 31, 2018

ASSETS

 

(unaudited)

 

(audited)

Cash and due from banks

 

$

 65,711

 

$

 72,439

Interest-bearing deposits in banks

 

 

2,079

 

 

1,693

Total cash & cash equivalents

 

 

67,790

 

 

74,132

Securities available-for-sale

 

 

577,266

 

 

560,479

Loans and leases:

 

 

 

 

 

 

Gross loans and leases

 

 

1,777,899

 

 

1,731,928

Allowance for loan and lease losses

 

 

(9,883)

 

 

(9,750)

Deferred loan and lease costs, net

 

 

2,831

 

 

2,602

Net loans and leases

 

 

1,770,847

 

 

1,724,780

Foreclosed assets

 

 

770

 

 

1,082

Premises and equipment, net

 

 

28,385

 

 

29,500

Goodwill

 

 

27,357

 

 

27,357

Other intangible assets, net

 

 

5,918

 

 

6,455

Bank-owned life insurance

 

 

49,211

 

 

48,153

Other assets

 

 

49,488

 

 

50,564

    Total assets

 

$

 2,577,032

 

$

 2,522,502

 

 

 

 

 

 

 

LIABILITIES AND SHAREHOLDERS' EQUITY

 

 

 

 

 

 

Deposits:

 

 

 

 

 

 

Noninterest bearing

 

$

 658,900

 

$

 662,527

Interest bearing

 

 

1,520,198

 

 

1,453,813

Total deposits

 

 

2,179,098

 

 

2,116,340

Repurchase agreements

 

 

24,167

 

 

16,359

Short-term borrowings

 

 

8,500

 

 

56,100

Subordinated debentures, net

 

 

34,856

 

 

34,767

Other liabilities

 

 

33,559

 

 

25,912

Total liabilities

 

 

2,280,180

 

 

2,249,478

 

 

 

 

 

 

 

Commitments and contingent liabilities (Note 7)

 

 

 

 

 

 

 

 

 

 

 

 

 

Shareholders' equity

 

 

 

 

 

 

Common stock, no par value; 24,000,000 shares authorized; 15,332,550 and 15,300,460 shares issued and outstanding at June 30, 2019 and December 31, 2018, respectively

 

 

113,061

 

 

112,507

Additional paid-in capital

 

 

3,237

 

 

3,066

Retained earnings

 

 

176,328

 

 

164,117

Accumulated other comprehensive income (loss), net

 

 

4,226

 

 

(6,666)

Total shareholders' equity

 

 

296,852

 

 

273,024

    Total liabilities and shareholder's equity

 

$

 2,577,032

 

$

 2,522,502

    

June 30, 2020

    

December 31, 2019

ASSETS

(unaudited)

(audited)

Cash and due from banks

$

88,705

$

65,556

Interest-bearing deposits in banks

67,906

14,521

Total cash & cash equivalents

156,611

80,077

Securities available-for-sale

599,333

600,799

Loans and leases:

Gross loans and leases

2,212,097

1,762,565

Allowance for loan and lease losses

(13,560)

(9,923)

Deferred loan and lease (fees) costs, net

(2,617)

2,896

Net loans and leases

2,195,920

1,755,538

Foreclosed assets

2,893

800

Premises and equipment, net

27,779

27,435

Goodwill

27,357

27,357

Other intangible assets, net

4,844

5,381

Bank-owned life insurance

51,347

50,517

Other assets

43,960

45,915

Total assets

$

3,110,044

$

2,593,819

LIABILITIES AND SHAREHOLDERS' EQUITY

Deposits:

Non-interest bearing

$

949,662

$

690,950

Interest bearing

1,557,092

1,477,424

Total deposits

2,506,754

2,168,374

Repurchase agreements

41,449

25,711

Short-term borrowings

163,000

20,000

Subordinated debentures, net

35,035

34,945

Other liabilities

36,373

35,504

Total liabilities

2,782,611

2,284,534

Commitments and contingent liabilities (Note 7)

Shareholders' equity

Common stock, 0 par value; 24,000,000 shares authorized; 15,192,838 and 15,284,538 shares issued and outstanding at June 30, 2020 and December 31, 2019, respectively

112,645

113,179

Additional paid-in capital

3,462

3,307

Retained earnings

195,147

186,867

Accumulated other comprehensive income (loss), net

16,179

5,932

Total shareholders' equity

327,433

309,285

Total liabilities and shareholders’ equity

$

3,110,044

$

2,593,819

The accompanying notes are an integral part of these consolidated financial statements

1

SIERRA BANCORP

CONSOLIDATED STATEMENTS OF INCOME

FOR THE THREE MONTHS AND SIX MONTHS ENDED JUNE 30, 20192020 AND 20182019

(dollars in thousands, except per share data, unaudited)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three months ended June 30,

 

 

Six months ended June 30,

 

    

2019

    

2018

 

2019

 

2018

Interest and dividend income

 

 

 

 

 

 

 

 

 

 

 

 

Loans and leases, including fees

 

$

24,010

 

$

21,504

 

$

47,759

 

$

41,508

Taxable securities

 

 

2,591

 

 

2,300

 

 

5,207

 

 

4,638

Tax-exempt securities

 

 

1,072

 

 

1,018

 

 

2,117

 

 

2,034

Federal funds sold and other

 

 

115

 

 

61

 

 

188

 

 

180

Total interest income

 

 

27,788

 

 

24,883

 

 

55,271

 

 

48,360

Interest expense

 

 

 

 

 

 

 

 

 

 

 

 

Deposits

 

 

3,093

 

 

1,594

 

 

6,048

 

 

2,912

Short-term borrowings

 

 

26

 

 

53

 

 

97

 

 

66

Subordinated debentures

 

 

470

 

 

436

 

 

954

 

 

822

Total interest expense

 

 

3,589

 

 

2,083

 

 

7,099

 

 

3,800

Net interest income

 

 

24,199

 

 

22,800

 

 

48,172

 

 

44,560

Provision for loan losses

 

 

400

 

 

300

 

 

700

 

 

500

Net interest income after provision for loan losses

 

 

23,799

 

 

22,500

 

 

47,472

 

 

44,060

Noninterest income

 

 

 

 

 

 

 

 

 

 

 

 

Service charges on deposits

 

 

3,151

 

 

3,027

 

 

6,094

 

 

5,974

Other income

 

 

2,704

 

 

2,402

 

 

5,668

 

 

4,589

Total noninterest income

 

 

5,855

 

 

5,429

 

 

11,762

 

 

10,563

Other operating expense

 

 

 

 

 

 

 

 

 

 

 

 

Salaries and employee benefits

 

 

8,994

 

 

8,997

 

 

18,237

 

 

18,180

Occupancy and equipment

 

 

2,450

 

 

2,451

 

 

4,811

 

 

4,799

Other

 

 

6,212

 

 

5,846

 

 

12,461

 

 

12,202

Total other operating expense

 

 

17,656

 

 

17,294

 

 

35,509

 

 

35,181

Income before taxes

 

 

11,998

 

 

10,635

 

 

23,725

 

 

19,442

Provision for income taxes

 

 

3,169

 

 

2,643

 

 

6,001

 

 

4,740

Net income

 

$

8,829

 

$

7,992

 

$

17,724

 

$

14,702

 

 

 

 

 

 

 

 

 

 

 

 

 

PER SHARE DATA

 

 

 

 

 

 

 

 

 

 

 

 

Book value

 

$

19.36

 

$

17.06

 

$

19.36

 

$

17.06

Cash dividends

 

$

0.18

 

$

0.16

 

$

0.36

 

$

0.32

Earnings per share basic

 

$

0.58

 

$

0.52

 

$

1.16

 

$

0.96

Earnings per share diluted

 

$

0.57

 

$

0.52

 

$

1.15

 

$

0.95

Average shares outstanding, basic

 

 

15,329,907

 

 

15,254,575

 

 

15,320,784

 

 

15,243,697

Average shares outstanding, diluted

 

 

15,458,320

 

 

15,429,129

 

 

15,453,212

 

 

15,420,886

 

 

 

 

 

 

 

 

 

 

 

 

 

Total shareholder equity (in thousands)

 

$

296,852

 

$

260,238

 

$

296,852

 

$

260,238

Shares outstanding

 

 

15,332,550

 

 

15,258,100

 

 

15,332,550

 

 

15,258,100

Dividends paid (in thousands)

 

$

2,759

 

$

2,441

 

$

5,513

 

$

4,878

Three months ended June 30,

Six months ended June 30,

    

2020

    

2019

2020

2019

Interest and dividend income

Loans and leases, including fees

$

21,683

$

24,010

$

43,796

$

47,759

Taxable securities

2,250

2,591

4,710

5,207

Tax-exempt securities

1,440

1,072

2,778

2,117

Federal funds sold and other

12

115

153

188

Total interest income

25,385

27,788

51,437

55,271

Interest expense

Deposits

893

3,093

2,727

6,048

Short-term borrowings

39

26

75

97

Subordinated debentures

311

470

706

954

Total interest expense

1,243

3,589

3,508

7,099

Net interest income

24,142

24,199

47,929

48,172

Provision for loan and lease losses

2,200

400

4,000

700

Net interest income after provision for loan losses

21,942

23,799

43,929

47,472

Non-interest income

Service charges on deposits

2,618

3,151

5,802

6,094

Other income

4,282

2,704

7,205

5,668

Total non-interest income

6,900

5,855

13,007

11,762

Other operating expense

Salaries and employee benefits

9,266

8,994

19,438

18,237

Occupancy and equipment

2,504

2,450

4,832

4,811

Other

6,263

6,212

11,581

12,461

Total other operating expense

18,033

17,656

35,851

35,509

Income before taxes

10,809

11,998

21,085

23,725

Provision for income taxes

2,506

3,169

4,975

6,001

Net income

$

8,303

$

8,829

$

16,110

$

17,724

PER SHARE DATA

Book value

$

21.55

$

19.36

$

21.55

$

19.36

Cash dividends

$

0.20

$

0.18

$

0.40

$

0.36

Earnings per share basic

$

0.55

$

0.58

$

1.06

$

1.16

Earnings per share diluted

$

0.54

$

0.57

$

1.05

$

1.15

Average shares outstanding, basic

15,191,823

15,329,907

15,226,748

15,320,784

Average shares outstanding, diluted

15,237,655

15,458,320

15,288,009

15,453,212

Total shareholder equity (in thousands)

$

327,433

$

296,852

$

327,433

$

296,852

Shares outstanding

15,192,838

15,332,550

15,192,838

15,332,550

Dividends paid (in thousands)

$

3,038

$

2,759

$

6,097

$

5,513

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

2

SIERRA BANCORP

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

FOR THE THREE MONTHS AND SIX MONTHS ENDED JUNE 30, 20192020 AND 20182019

(dollars in thousands, unaudited)

Three months ended June 30,

Six months ended June 30,

    

2020

    

2019

2020

2019

Net income

$

8,303

$

8,829

$

16,110

$

17,724

Other comprehensive income, before tax:

Unrealized gains on securities:

Unrealized holding gain arising during period

4,037

9,324

14,939

15,491

Less: reclassification adjustment for (gains) losses included in net income (1)

(390)

(22)

(390)

(28)

Other comprehensive income, before tax

3,647

9,302

14,549

15,463

Income tax expense related to items of other comprehensive income, net of tax

(1,078)

(2,750)

(4,302)

(4,571)

Other comprehensive income

2,569

6,552

10,247

10,892

Comprehensive income

$

10,872

$

15,381

$

26,357

$

28,616

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three months ended June 30,

 

Six months ended June 30,

 

    

2019

    

2018

 

2019

 

2018

Net income

 

$

8,829

 

$

7,992

 

$

17,724

 

$

14,702

Other comprehensive income, before tax:

 

 

 

 

 

 

 

 

 

 

 

 

Unrealized gains (losses) on securities:

 

 

 

 

 

 

 

 

 

 

 

 

Unrealized holding gain (loss) arising during period

 

 

9,324

 

 

(1,192)

 

 

15,491

 

 

(8,784)

Less: reclassification adjustment for gains included in net income (1)

 

 

(22)

 

 

 —

 

 

(28)

 

 

 —

Other comprehensive income (loss), before tax

 

 

9,302

 

 

(1,192)

 

 

15,463

 

 

(8,784)

Income tax expense related to items of other comprehensive income (loss), net of tax

 

 

(2,750)

 

 

353

 

 

(4,571)

 

 

2,598

Other comprehensive income (loss)

 

 

6,552

 

 

(839)

 

 

10,892

 

 

(6,186)

 

 

 

 

 

 

 

 

 

 

 

 

 

Comprehensive income

 

$

15,381

 

$

7,153

 

$

28,616

 

$

8,516


(1)

(1)

Amounts are included in net gains on investment securities available-for-sale on the Consolidated Statements of Income in noninterest revenue. Income tax expense associated with the reclassification adjustment for the three months ended June 30, 2020 and 2019 and 2018 was $7$115 thousand and $0$7 thousand respectively. Income tax expense associated with the reclassification adjustment for the six months ended June 30, 2020 and 2019 was $115 thousand and 2018 was $8 thousand and $0 thousand respectively.

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

3

SIERRA BANCORP

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDER’SSTOCKHOLDERS’ EQUITY

FOR THE THREE MONTHS ENDED JUNE 30, 20192020 AND 20182019

(dollars in thousands, except per share data, unaudited)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Accumulated 

 

 

 

 

 

 

 

 

 

 

Additional

 

 

 

 

Other

 

 

 

 

 

Common Stock

 

 Paid In

 

Retained

 

Comprehensive

 

Shareholders'

 

    

Shares

    

Amount

    

Capital

    

 Earnings

    

(Loss) Income 

    

 Equity

Balance, March 31, 2018

 

15,246,780

 

$

 111,598

 

$

 2,929

 

$

 148,470

 

$

 (7,677)

 

$

 255,320

Net income

 

 

 

 

 

 

 

 

 

 

7,992

 

 

 

 

 

7,992

Other comprehensive loss, net of tax

 

 

 

 

 

 

 

 

 

 

 

 

 

(839)

 

 

(839)

Exercise of stock options

 

11,320

 

 

141

 

 

(33)

 

 

 

 

 

 

 

 

108

Stock compensation costs

 

 

 

 

 

 

 

98

 

 

 

 

 

 

 

 

98

Stock issued-acquisition

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 —

Cash dividends - $0.16 per share

 

 

 

 

 

 

 

 

 

 

(2,441)

 

 

 

 

 

(2,441)

Balance, June 30, 2018

 

15,258,100

 

$

 111,739

 

$

 2,994

 

$

 154,021

 

$

 (8,516)

 

$

 260,238

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, March 31, 2019

 

15,328,030

 

$

 113,001

 

$

 3,135

 

$

 170,258

 

$

 (2,326)

 

$

 284,068

Net income

 

 

 

 

 

 

 

 

 

 

8,829

 

 

 

 

 

8,829

Other comprehensive income, net of tax

 

 

 

 

 

 

 

 

 

 

 

 

 

6,552

 

 

6,552

Exercise of stock options

 

4,520

 

 

60

 

 

(14)

 

 

 

 

 

 

 

 

46

Stock compensation costs

 

 

 

 

 

 

 

116

 

 

 

 

 

 

 

 

116

Stock issued-acquisition

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 —

Cash dividends - $0.18 per share

 

 

 

 

 

 

 

 

 

 

(2,759)

 

 

 

 

 

(2,759)

Balance, June 30, 2019

 

15,332,550

 

$

 113,061

 

$

 3,237

 

$

 176,328

 

$

 4,226

 

$

 296,852

Accumulated 

Additional

Other

Common Stock

 Paid In

Retained

Comprehensive

Shareholders'

    

Shares

    

Amount

    

Capital

    

 Earnings

    

(Loss) Income 

    

 Equity

Balance, March 31, 2019

15,328,030

$

113,001

$

3,135

$

170,258

$

(2,326)

$

284,068

Net income

8,829

8,829

Other comprehensive income, net of tax

6,552

6,552

Exercise of stock options

4,520

60

(14)

46

Stock compensation costs

116

116

Cash dividends - $0.18 per share

(2,759)

(2,759)

Balance, June 30, 2019

15,332,550

$

113,061

$

3,237

$

176,328

$

4,226

$

296,852

Balance, March 31, 2020

15,190,038

$

112,600

$

3,367

$

189,882

$

13,610

$

319,459

Net income

8,303

8,303

Other comprehensive income, net of tax

2,569

2,569

Exercise of stock options

2,800

45

(11)

34

Stock compensation costs

106

106

Cash dividends - $0.20 per share

(3,038)

(3,038)

Balance, June 30, 2020

15,192,838

$

112,645

$

3,462

$

195,147

$

16,179

$

327,433

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

4

SIERRA BANCORP

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDER’S EQUITY

FOR THE SIX MONTHS ENDED JUNE 30, 20192020 AND 20182019

(dollars in thousands, except per share data, unaudited)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Accumulated 

 

 

 

 

 

 

 

 

 

 

Additional

 

 

 

 

Other

 

 

 

 

 

Common Stock

 

 Paid In

 

Retained

 

Comprehensive

 

Shareholders'

 

    

Shares

    

Amount

    

Capital

    

 Earnings

    

(Loss) Income 

    

 Equity

Balance, December 31, 2017

 

15,223,360

 

$

 111,138

 

$

 2,937

 

$

 144,197

 

$

 (2,330)

 

$

 255,942

Net income

 

 

 

 

 

 

 

 

 

 

14,702

 

 

 

 

 

14,702

Other comprehensive loss, net of tax

 

 

 

 

 

 

 

 

 

 

 

 

 

(6,186)

 

 

(6,186)

Exercise of stock options

 

34,740

 

 

601

 

 

(111)

 

 

 

 

 

 

 

 

490

Stock compensation costs

 

 

 

 

 

 

 

174

 

 

 

 

 

 

 

 

174

Stock issued-acquisition

 

 

 

 

 

 

 

(6)

 

 

 

 

 

 

 

 

(6)

Cash dividends - $0.32 per share

 

 

 

 

 

 

 

 

 

 

(4,878)

 

 

 

 

 

(4,878)

Balance, June 30, 2018

 

15,258,100

 

$

 111,739

 

$

 2,994

 

$

 154,021

 

$

 (8,516)

 

$

 260,238

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, December 31, 2018

 

15,300,460

 

$

 112,507

 

$

 3,066

 

$

 164,117

 

$

 (6,666)

 

$

 273,024

Net income

 

 

 

 

 

 

 

 

 

 

17,724

 

 

 

 

 

17,724

Other comprehensive income, net of tax

 

 

 

 

 

 

 

 

 

 

 

 

 

10,892

 

 

10,892

Exercise of stock options

 

32,090

 

 

554

 

 

(96)

 

 

 

 

 

 

 

 

458

Stock compensation costs

 

 

 

 

 

 

 

267

 

 

 

 

 

 

 

 

267

Stock issued-acquisition

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 —

Cash dividends - $0.36 per share

 

 

 

 

 

 

 

 

 

 

(5,513)

 

 

 

 

 

(5,513)

Balance, June 30, 2019

 

15,332,550

 

$

 113,061

 

$

 3,237

 

$

 176,328

 

$

 4,226

 

$

 296,852

Accumulated 

Additional

Other

Common Stock

 Paid In

Retained

Comprehensive

Shareholders'

    

Shares

    

Amount

    

Capital

    

 Earnings

    

(Loss) Income 

    

 Equity

Balance, December 31, 2018

15,300,460

$

112,507

$

3,066

$

164,117

$

(6,666)

$

273,024

Net income

17,724

17,724

Other comprehensive income, net of tax

10,892

10,892

Exercise of stock options

32,090

554

(96)

458

Stock compensation costs

267

267

Stock repurchase

Cash dividends - $0.36 per share

(5,513)

(5,513)

Balance, June 30, 2019

15,332,550

$

113,061

$

3,237

$

176,328

$

4,226

$

296,852

Balance, December 31, 2019

15,284,538

$

113,179

$

3,307

$

186,867

$

5,932

$

309,285

Net income

16,110

16,110

Other comprehensive income, net of tax

10,247

10,247

Exercise of stock options

20,350

295

(80)

215

Stock compensation costs

235

235

Stock repurchase

(112,050)

(829)

(1,733)

(2,562)

Cash dividends - $0.40 per share

(6,097)

(6,097)

Balance, June 30, 2020

15,192,838

$

112,645

$

3,462

$

195,147

$

16,179

$

327,433

5

SIERRA BANCORP

CONSOLIDATED STATEMENTS OF CASH FLOWS

FOR THE SIX MONTHS ENDED JUNE 30, 2020 AND 2019

(dollars in thousands, unaudited)

Six months ended June 30,

    

2020

    

2019

Cash flows from operating activities:

Net income

$

16,110

$

17,724

Gain on sales of securities

(390)

(28)

Loss on disposal of fixed assets

28

Loss (gain) on sale on foreclosed assets

2

(37)

Writedowns on foreclosed assets

69

Stock compensation costs

235

267

Provision for loan and lease losses

4,000

700

Depreciation and amortization

1,540

1,496

Net amortization on securities premiums and discounts

2,227

2,107

Accretion of discounts for loans acquired and net deferred loan fees

(331)

(505)

Increase in cash surrender value of life insurance policies

(687)

(1,027)

Amortization of core deposit intangible

537

537

Increase in interest receivable and other assets

(2,241)

(1,213)

Increase (decrease) in other liabilities

869

(2,065)

Deferred income tax benefit

(230)

(27)

Increase in equity securities

(447)

(232)

Net amortization of partnership investment

571

900

Net cash provided by operating activities

21,765

18,694

Cash flows from investing activities:

Maturities and calls of securities available for sale

6,195

4,459

Proceeds from sales of securities available for sale

20,298

22,180

Purchases of securities available for sale

(59,578)

(72,330)

Principal pay downs on securities available for sale

47,263

42,288

Net purchases of FHLB stock

(833)

Loan originations and payments, net

(446,178)

(46,315)

Purchases of premises and equipment

(1,794)

(330)

Proceeds from sale premises and equipment

10

Proceeds from sales of foreclosed assets

32

7,955

Purchase of bank-owned life insurance

(182)

(292)

Liquidation of bank-owned life insurance

39

261

Net cash used in investing activities

(433,905)

(42,947)

Cash flows from financing activities:

Increase in deposits

338,380

62,758

Increase (decrease) in borrowed funds

143,000

(47,600)

Increase in repurchase agreements

15,738

7,808

Cash dividends paid

(6,097)

(5,513)

Repurchases of common stock

(2,562)

Stock options exercised

215

458

Net cash provided by financing activities

488,674

17,911

Increase (decrease) in cash and cash equivalents

76,534

(6,342)

Cash and cash equivalents

Beginning of period

80,077

74,132

End of period

$

156,611

$

67,790

Supplemental disclosure of cash flow information:

Interest paid

$

3,941

$

6,917

Income taxes paid

$

$

7,600

Supplemental noncash disclosures:

Real estate acquired through foreclosure

$

2,127

$

27

Operating right-of-use asset pursuant to adoption on ASU 2016-02

$

$

9,712

Operating lease liability pursuant to adoption of ASU 2016-02

$

$

10,336

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

5

SIERRA BANCORP

CONSOLIDATED STATEMENTS OF CASH FLOWS

FOR THE SIX MONTHS ENDED JUNE 30, 2019 AND 2018

(dollars in thousands, unaudited)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Six months ended June 30,

 

    

2019

    

2018

Cash flows from operating activities:

 

 

 

 

 

 

Net income

 

$

17,724

 

$

14,702

Gain on sales of securities

 

 

(28)

 

 

 —

Loss on disposal of fixed assets

 

 

28

 

 

13

Gain on sale on foreclosed assets

 

 

(37)

 

 

(713)

Writedowns on foreclosed assets

 

 

69

 

 

176

Share-based compensation expense

 

 

267

 

 

174

Provision for loan losses

 

 

700

 

 

500

Depreciation and amortization

 

 

1,496

 

 

1,566

Net amortization on securities premiums and discounts

 

 

2,107

 

 

2,904

Accretion of discounts for loans acquired and net deferred loan fees

 

 

(505)

 

 

(911)

Increase in cash surrender value of life insurance policies

 

 

(1,027)

 

 

(626)

Amortization of core deposit intangible

 

 

537

 

 

484

Increase in interest receivable and other assets

 

 

(1,213)

 

 

(1,020)

Increase in other liabilities

 

 

(2,065)

 

 

(5,965)

Deferred income tax benefit

 

 

(27)

 

 

(962)

Increase in equity securities

 

 

(232)

 

 

 —

Net amortization of partnership investment

 

 

900

 

 

810

Net cash provided by operating activities

 

 

18,694

 

 

11,132

 

 

 

 

 

 

 

Cash flows from investing activities:

 

 

 

 

 

 

Maturities and calls of securities available for sale

 

 

4,459

 

 

2,310

Proceeds from sales of securities available for sale

 

 

22,180

 

 

 —

Purchases of securities available for sale

 

 

(72,330)

 

 

(61,999)

Principal pay downs on securities available for sale

 

 

42,288

 

 

46,363

Net purchases of FHLB stock

 

 

(833)

 

 

(301)

Loan originations and payments, net

 

 

(46,315)

 

 

(66,185)

Purchases of premises and equipment

 

 

(330)

 

 

(2,284)

Proceeds from sale premises and equipment

 

 

10

 

 

 —

Proceeds from sales of foreclosed assets

 

 

7,955

 

 

3,925

Purchase of bank-owned life insurance

 

 

(292)

 

 

(327)

Liquidation of bank-owned life insurance

 

 

261

 

 

 —

Net cash from bank acquisition

 

 

 —

 

 

(6)

Net cash used in investing activities

 

 

(42,947)

 

 

(78,504)

 

 

 

 

 

 

 

Cash flows from financing activities:

 

 

 

 

 

 

Increase in deposits

 

 

62,758

 

 

99,536

Decrease in borrowed funds

 

 

(47,600)

 

 

(21,900)

Increase in repurchase agreements

 

 

7,808

 

 

9,089

Cash dividends paid

 

 

(5,513)

 

 

(4,878)

Stock options exercised

 

 

458

 

 

490

Net cash provided by financing activities

 

 

17,911

 

 

82,337

 

 

 

 

 

 

 

(Decrease) increase in cash and due from banks

 

 

(6,342)

 

 

14,965

 

 

 

 

 

 

 

Cash and cash equivalents

 

 

 

 

 

 

Beginning of period

 

 

74,132

 

 

70,137

End of period

 

$

67,790

 

$

85,102

 

 

 

 

 

 

 

Supplemental disclosure of cash flow information:

 

 

 

 

 

 

Interest paid

 

$

6,917

 

$

3,914

Income taxes paid

 

$

7,600

 

$

10,000

Supplemental noncash disclosures:

 

 

 

 

 

 

Real estate acquired through foreclosure

 

$

27

 

$

 —

Operating right-of-use asset pursuant to adoption on ASU 2016-02

 

$

9,712

 

$

 —

Operating lease liability pursuant to adoption of ASU 2016-02

 

$

10,336

 

$

 —

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

6

SIERRA BANCORP

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

June 30, 20192020

(Unaudited)

Note 1 – The Business of Sierra Bancorp

Sierra Bancorp (the “Company”) is a California corporation headquartered in Porterville, California, and is a registered bank holding company under federal banking laws. The Company was formed to serve as the holding company for Bank of the Sierra (the “Bank”), and has been the Bank’s sole shareholder since August 2001. The Company exists primarily for the purpose of holding the stock of the Bank and of such other subsidiaries it may acquire or establish. As of June 30, 2019,2020, the Company’s only other subsidiaries were Sierra Statutory Trust II, Sierra Capital Trust III, and Coast Bancorp Statutory Trust II, which were formed solely to facilitate the issuance of capital trust pass-through securities (“TRUPS”). Pursuant to the Financial Accounting Standards Board (“FASB”) standard on the consolidation of variable interest entities, these trusts are not reflected on a consolidated basis in the Company’s financial statements. References herein to the “Company” include Sierra Bancorp and its consolidated subsidiary, the Bank, unless the context indicates otherwise.

Bank of the Sierra, a California state-chartered bank headquartered in Porterville, California, offers a wide range of retail and commercial banking services via branch offices located throughout California’s South San Joaquin Valley, the Central Coast, Ventura County, the Sacramento area, and neighboring communities. The Bank was incorporated in September 1977, and opened for business in January 1978 as a one-branch1-branch bank with $1.5 million in capital. Our growth in the ensuing years has largely been organic in nature, but includes four4 whole-bank acquisitions: Sierra National Bank in 2000, Santa Clara Valley Bank in 2014, Coast National Bank in 2016, and Ojai Community Bank in October 2017. As of the filing date of this report the Bank operates 40 full service branches and an online branch, and maintains ATMs at all but one of our branch locations as well as seven non-branch locations. Moreover, the Bank has specialized lending units which focus on agricultural borrowers, SBA loans, and mortgage warehouse lending. In addition, the bank opened a loan production office in Rocklin, CA in February 2020. The Company had total assets of $2.6$3.1 billion at June 30, 2019,2020, and for a number of years we have claimed the distinction of being the largest bank headquartered in the South San Joaquin Valley. The Bank’s deposit accounts, which totaled $2.2$2.5 billion at June 30, 2019,2020, are insured by the Federal Deposit Insurance Corporation (“FDIC”) up to maximum insurable amounts.

Note 2 – Basis of Presentation

The accompanying unaudited consolidated financial statements have been prepared in a condensed format, and therefore do not include all of the information and footnotes required by U.S. generally accepted accounting principles (“GAAP”) for complete financial statements. The information furnished in these interim statements reflects all adjustments that are, in the opinion of Management, necessary for a fair statement of the results for such periods. Such adjustments can generally be considered as normal and recurring unless otherwise disclosed in this Form 10‑Q.10-Q. In preparing the accompanying financial statements, Management has taken subsequent events into consideration and recognized them where appropriate. The results of operations in the interim statements are not necessarily indicative of the results that may be expected for any other quarter, or for the full year. Certain amounts reported for 20182019 have been reclassified to be consistent with the reporting for 2019.2020. The interim financial information should be read in conjunction with the Company’s Annual Report on Form 10‑K10-K for the year ended December 31, 2018,2019, as filed with the Securities and Exchange Commission (the “SEC”).

Note 3 – Current Accounting Developments

In February 2016 the FASB issued ASU 2016‑02, Leases (Topic 842).  The intention of this standard is to increase the transparency and comparability around lease obligations.  Previously unrecorded off-balance sheet obligations will now be brought more prominently to light by presenting lease liabilities on the face of the balance sheet, accompanied by enhanced qualitative and quantitative disclosures in the notes to the financial statements.  ASU 2016‑02 is generally effective for public business entities in fiscal years beginning after December 15, 2018, including interim periods within those fiscal years.  The Company has leases on 21 branch locations, an administrative office building, and three offsite ATM locations which are considered operating leases and were not previously reflected in our financial statements. 

7

Pursuant to ASU 2016‑02, on January 1, 2019 these lease agreements were recognized on our consolidated statement of condition as right-of-use assets totaling approximately $10 million, and corresponding lease liabilities.  Please see Note 12 to the consolidated financial statements for more detailed disclosure information.

In September 2016 the FASB issued ASU 2016‑13, 2016-13, Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, which eliminates the probable initial recognition threshold for credit losses in current U.S. GAAP, and instead requires an organization to record a current estimate of all expected credit losses over the contractual term for financial assets carried at amortized cost. This is commonly referred to as the current expected credit losses (“CECL”) methodology. Expected credit losses for financial assets held at the reporting date will be measured based on historical experience, current conditions, and reasonable and supportable forecasts. Another change

7

from existing U.S. GAAP involves the treatment of purchased credit deteriorated assets, which are more broadly defined than purchased credit impaired assets in current accounting standards. When such assets are purchased, institutions will estimate and record an allowance for credit losses that is added to the purchase price rather than being reported as a credit loss expense. Furthermore, ASU 2016‑132016-13 updates the measurement of credit losses on available-for-sale debt securities, by mandating that institutions record credit losses on available-for-sale debt securities through an allowance for credit losses rather than the current practice of writing down securities for other-than-temporary impairment. ASU 2016‑132016-13 will also require the enhancement of financial statement disclosures regarding estimates used in calculating credit losses. ASU 2016‑132016-13 does not change the existing write-off principle in U.S. GAAP or current nonaccrual practices, nor does it change accounting requirements for loans held for sale or certain other financial assets which are measured at the lower of amortized cost or fair value. As a public business entity that is an SEC filer, ASU 2016‑13 becomes2016-13 became effective for the Company on January 1, 2020 although early application is permitted for 2019.. On the effective date, institutions will apply the new accounting standard as follows: for financial assets carried at amortized cost, a cumulative-effect adjustment will be recognized on the balance sheet for any change in the related allowance for loan and lease losses generated by the adoption of the new standard; financial assets classified as purchased credit impaired assets prior to the effective date will be reclassified as purchased credit deteriorated assets as of the effective date, and will be grossed up for the related allowance for expected credit losses created as of the effective date; and, debt securities on which other-than-temporary impairment had been recognized prior to the effective date will transition to the new guidance prospectively with no change in their amortized cost basis. The Company is welladopted ASU 2016-13 on January 1, 2020, however, the Company elected under way with transition efforts.  We have established anSection 4014 of the Coronavirus Aid, Relief and Economic Security (CARES) Act to defer the implementation team which is chaired by our Chief Credit Officer and includesof CECL until the Company’s other executive officers, along with certain membersearlier of ourwhen the national emergency related to the outbreak of COVID-19 ends or December 31, 2020. Although this deferral will still require CECL to be implemented as of January 1, 2020, the Company believes that the deferral will provide time to better assess the impact of the COVID-19 pandemic on the expected lifetime credit administration and finance departments.  Furthermore, after extensive discussion and due diligence, in 2018 we engaged a third-party vendor and purchased a specialized application to assist in our calculation of potential required reserves utilizing the CECL methodology and help validate our current reserving methodology.losses. While the ultimate impact cannot be definitively determined until the implementation date, a preliminary evaluation indicates thatat this time, we believe the provisions of ASU 2016‑132016-13 will likely have a material adverse impact on our consolidated financial statements, particularly the level of our allowance for credit losses and shareholders’ equity.  Initial estimates are that our allowance for loan and lease losses could increase by 100% or more relative to current levels if we utilize the discounted cash flow methodology with forecasting.

In January 2017 the FASB issued ASU 2017‑01, Business Combinations (Topic 805): Clarifying the Definition of a Business.  Currently, Topic 805 specifies three elements of a business – inputs, processes, and outputs.  While an integrated set of assets and activities (collectively referred to as a “set”) that is a business usually has outputs, outputs are not required.  In addition, all the inputs and processes that a seller uses in operating a set are not required if market participants can acquire the set and continue to produce outputs, for example, by integrating the acquired set with their own inputs and processes.  This led many transactions to be accounted for as business combinations rather than asset purchases under legacy GAAP.  The primary goal of ASU 2017‑01 is to narrow the definition of a business, and the guidance in this update provides a screen to determine when a set is not a business.  The screen requires that when substantially all of the fair value of the gross assets acquired (or disposed of) is concentrated in a single identifiable asset or a group of similar identifiable assets, the set is not a business.  This reduces the number of transactions that need to be further evaluated.  The amendments in this update are effective for public business entities for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years, and we implemented ASU 2017‑01 on a prospective basis effective January 1, 2018.  This update affected the accounting treatment used for our branch deposit purchase in the second quarter of 2018, and we expect that it will also impact the way we account for certain branch acquisitions in future periods if the opportunity for such arises.

8

In January 2017 the FASB issued ASU 2017‑04, 2017-04, Intangibles – Goodwill and Other (Topic 350): Simplifying the Accounting for Goodwill Impairment. This guidance removes Step 2 of the goodwill impairment test, which requires a hypothetical purchase price allocation, and goodwill impairment will simply be the amount by which a reporting unit’s carrying value exceeds its fair value, not to exceed the carrying amount of goodwill. All other goodwill impairment guidance will remain largely unchanged. Entities will continue to have the option to perform a qualitative assessment to determine if a quantitative impairment test is necessary. The same one-step impairment test will be applied to goodwill at all reporting units, even those with zero or negative carrying amounts. Entities will be required to disclose the amount of goodwill at reporting units with zero or negative carrying amounts. The amendments in this update arewere effective for public business entities for fiscal years beginning after December 15, 2019.  We2019. In accordance with ASU 2017-04, the Company performed a qualitative analysis of goodwill during the first and second quarters of 2020, and determined that a quantitative analysis was not necessary at this time. Thus, we have not been required to record any goodwill impairment to date, and after a preliminary review do not expect that this guidance would require us to do so given current circumstances.  Nevertheless, we will continue to evaluate ASU 2017‑04 to more definitely determine its potential impact on the Company’s consolidated financial position, results of operations and cash flows.date.

In March 2017 the FASB issued ASU 2017‑08, Receivables – Nonrefundable Fees and Other Costs (Subtopic 310‑20): Premium Amortization on Purchased Callable Debt Securities.  The amendments in this update will shorten the amortization period for certain callable debt securities held at a premium, by requiring the premium to be amortized to the earliest call date.  Under current guidance, the premium on a callable debt security is generally amortized as an adjustment to yield over the contractual life of the instrument, and any unamortized premium is recorded as a loss in earnings upon the debtor’s exercise of a call provision.  Under ASU 2017‑08, because the premium will be amortized to the earliest call date, entities will no longer recognize a loss in earnings if a debt security is called prior to the contractual maturity date.  The amendments do not require an accounting change for securities held at a discount; discounts will continue to be amortized as an adjustment to yield over the contractual life of the debt instrument.  ASU 2017‑08 is effective for public business entities, including the Company, for fiscal years and interim periods within those fiscal years beginning after December 15, 2018.  To apply ASU 2017‑08, entities must use a modified retrospective approach, with the cumulative-effect adjustment recognized to retained earnings at the beginning of the period of adoption.  The Company adopted ASU 2017‑08 effective January 1, 2019 with no material impact on our financial statements or operations.

In August 2018 the FASB issued ASU 2018‑13, 2018-13, Fair Value Measurement (Topic 820): Disclosure Framework – Changes to the Disclosure Requirements for Fair Value Measurement, as part of its disclosure framework project. Pursuant to this guidance, disclosures that will no longer be required include the following: transfers between Level 1 and Level 2 of the fair value hierarchy; transfers in and out of Level 3 for nonpublic entities, as well as purchases and issuances and the Level 3 roll forward; a company’s policy for determining when transfers between any of the three levels have occurred; the valuation processes used for Level 3 measurements; and, the changes in unrealized gains or losses presented in earnings for Level 3 instruments held at the balance sheet date for nonpublic entities. The following are additional disclosure requirements: for public entities, the changes in unrealized gains and losses for the period included in other comprehensive income for recurring Level 3 instruments held at the balance sheet date; for public entities, the range and weighted average of significant unobservable inputs used for Level 3 measurements, although for certain unobservable inputs the entity will be allowed to disclose other quantitative information in place of the weighted average to the extent that it would be a more reasonable and rational method to reflect the distribution of unobservable inputs; for nonpublic entities, some form of quantitative information about significant unobservable inputs used in Level 3 fair value measurements; and, for certain investments in entities that calculate the net asset value, disclosures will be required about the timing of liquidation and redemption restrictions lapsing if the latter has been communicated to the

8

reporting entity. The guidance also clarifies that the Level 3 measurement uncertainty disclosure should communicate information about the uncertainty at the balance sheet date. ASU 2018‑132018-13 is effective for all entities in fiscal years beginning after December 15, 2019, including interim periods. Early adoption is permitted. In addition, an entity may early adopt any of the removed or modified disclosures immediately and delay adoption of the new disclosures until the effective date. The Company has evaluatedadopted ASU 2018-13 effective January 1, 2020 which impacts the potential impact of this guidance, and does not expectdisclosure requirements for fair value measurement.

In May 2019, the FASB issued ASU 2019-05, Financial Instruments—Credit Losses (Topic 326), which provides transition relief for entities adopting ASU 2016-13. ASU 2019-05 amends ASU 2016-13 to allow companies to irrevocably elect, upon adoption of ASU 2018-132016-13, the fair value option on financial instruments that (1) were previously recorded at amortized cost and (2) are within the scope of ASC 326-20 if the instruments are eligible for the fair value option under ASC 825-10. An entity will apply the amendments in this update through a cumulative-effect adjustment to retained earnings as of the beginning of the first reporting period in which the guidance is effective (that is, a modified-retrospective approach). A prospective transition approach is required for debt securities for which an other-than-temporary impairment had been recognized before the effective date, in order to maintain the same amortized cost basis before and after the effective date of this update. Amounts previously recognized in accumulated other comprehensive income as of the date of adoption that relate to improvements in cash flows expected to be collected should continue to be accreted into income over the remaining life of the asset. Recoveries of amounts previously written off relating to improvements in cash flows after the date of adoption should be recorded in earnings when received. The fair value option election does not apply to held-to-maturity debt securities. Entities are required to make this election on an instrument-by-instrument basis. For public business entities that are SEC filers, including the Company, the amendments in ASU 2019-05 are effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. The Company adopted ASU 2019-05 effective January 1, 2020. There was no impact to the financial statements of the Company as we did not elect the fair value option on financial instruments upon adoption of ASU 2016-13.

On March 22, 2020, a statement was issued by our banking regulators and titled the “Interagency Statement on Loan Modifications and Reporting for Financial Institutions Working with Customers Affected by the Coronavirus” (the “Interagency Statement”) that encourages financial institutions to work prudently with borrowers who are or may be unable to meet their contractual payment obligations due to the effects of COVID-19. Additionally, Section 4013 of the CARES Act, that passed on March 27, 2020, further provides that a qualified loan modification is exempt by law from classification as a troubled debt restructuring (“TDR”) as defined by GAAP, from the period beginning March 1, 2020 until the earlier of December 31, 2020 or the date that is 60 days after the date on which the national emergency concerning the COVID-19 outbreak declared by the President of the United States under the National Emergencies Act (50 U.S.C. 1601 et seq.) terminates. The Interagency Statement was subsequently revised in April 2020 to clarify the interaction of the original guidance with Section 4013 of the CARES Act, as well as setting forth the banking regulators’ views on consumer protection considerations. In accordance with such guidance, we are offering short-term modifications made in response to COVID-19 to borrowers who are current and otherwise not past due. These include short-term, 180 days or less, modifications in the form of payment deferrals, fee waivers, extensions of repayment terms, or other delays in payment that are insignificant. See Note 10 for further information on non-TDR loan modifications. The Interagency Guidance and Section 4013 are expected to have a material impact on ourthe Company’s financial statements or operations.statements; however, this impact cannot be quantified at this time.

9

Note 4 – Share Based Compensation

On March 16, 2017 the Company’s Board of Directors approved and adopted the 2017 Stock Incentive Plan (the “2017 Plan”), which became effective May 24, 2017, the date approved by the Company’s shareholders. The 2017 Plan replaced the Company’s 2007 Stock Incentive Plan (the “2007 Plan”), which expired by its own terms on March 15, 2017. Options to purchase 335,530257,789 shares that were granted under the 2007 Plan were still outstanding as of June 30, 20192020 and remain unaffected by that plan’s expiration. The 2017 Plan provides for the issuance of both “incentive” and “nonqualified” stock options to officers and employees, and of “nonqualified” stock options to non-employee directors and consultants of the Company. The 2017 Plan also provides for the issuance of restricted stock awards to these same classes of eligible participants, although no restricted stock awards have ever been issued by the Company. The total

9

number of shares of the Company’s authorized but unissued stock reserved for issuance pursuant to awards under the 2017 Plan was initially 850,000 shares, and the number remaining available for grant as of June 30, 20192020 was 667,800.551,800. The potential dilutive impact of unexercised stock options is discussed below in Note 5, Earnings per Share.

Pursuant to FASB’s standards on stock compensation, the value of each stock option is reflected in our income statementstate­ment as employee compensation or directors’ expense by amortizing its grant date fair value over the vesting period of the option. The Company utilizes a Black-Scholes model to determine grant date fair values. A pre-tax charge of $116,000$0.1 million was reflected in the Company’s income statement during the second quarter of 20192020 and $98,000$0.1 million was charged during the second quarter of 2018,2019, as expense related to stock options. For the first half, the charges totaled $267,000$0.2 million in 20192020 and $174,000$0.3 million in 2018.2019.

Note 5 – Earnings per Share

The computation of earnings per share, as presented in the Consolidated Statements of Income, is based on the weighted average number of shares outstanding during each period. There were 15,329,90715,191,823 weighted average shares outstanding during the second quarter of 20192020 and 15,254,57515,329,907 during the second quarter of 2018,2019, while there were 15,320,78415,226,748 weighted average shares outstanding during the first six months of 20192020 and 15,243,69715,320,784 during the first six months of 2018.2019.

Diluted earnings per share calculations include the effect of the potential issuance of common shares, which for the Company is limited to shares that would be issued on the exercise of “in-the-money” stock options. For the second quarter of 2019,2020, calculations under the treasury stock method resulted in the equivalent of 128,41345,832 shares being added to basic weighted average shares outstanding for purposes of determining diluted earnings per share, while a weighted average of 258,202367,884 stock options were excluded from the calculation because they were underwater and thus anti-dilutive. For the second quarter of 20182019 the equivalent of 174,554128,413 shares were added in calculating diluted earnings per share, while 106,200258,202 anti-dilutive stock options were not factored into the computation. Likewise, for the first half of 20192020 the equivalent of 132,42861,261 shares were added to basic weighted average shares outstanding in calculating diluted earnings per share and a weighted average of 228,824336,123 options that were anti-dilutive for the period were not included, compared to the addition of the equivalent of 177,189132,428 shares and non-inclusion of 166,200228,824 anti-dilutive options in calculating diluted earnings per share for first half of 2018.2019.

Note 6 – Comprehensive Income

As presented in the Consolidated Statements of Comprehensive Income, comprehensive income includes net income and other comprehensive income. The Company’s only source of other comprehensive income is unrealized gains and losses on available-for-sale investment securities. Investment gains or losses that were realized and reflected in net income of the current period, which had previously been included in other comprehensive income as unrealized holding gains or losses in the period in which they arose, are considered to be reclassification adjustments that are excluded from other comprehensive income in the current period.

Note 7 – Financial Instruments with Off-Balance-Sheet Risk

The Company is a party to financial instruments with off‑balance‑off-balance-sheet risk in the normal course of business. Those financial instruments currently consist of unused commitments to extend credit and standby letters of credit. They

10

involve, to varying degrees, elements of risk in excess of the amount recognized in the balance sheet. The Company’s exposure to credit loss in the event of nonperformance by counterparties for commitments to extend credit and letters of credit is represented by the contractual amount of those instruments. The Company uses the same credit policies in making commitments and issuing letters of credit as it does for originating loans included on the balance sheet. The following financial instruments represent off‑balance‑sheetoff-balance-sheet credit risk (dollars in thousands):

    

June 30, 2020

    

December 31, 2019

Commitments to extend credit

$

449,045

$

492,040

Standby letters of credit

$

9,435

$

8,619

 

 

 

 

 

 

 

 

    

June 30,

2019

    

December 31,

2018

Commitments to extend credit

 

$

 596,001

 

$

 781,987

Standby letters of credit

 

$

 9,529

 

$

 8,966

10

Commitments to extend credit consist primarily of the unused or unfunded portions of the following: home equity lines of credit; commercial real estate construction loans, where disbursements are made over the course of construction; commercial revolving lines of credit; mortgage warehouse lines of credit; unsecured personal lines of credit; and formalized (disclosed) deposit account overdraft lines. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many commitments are expected to expire without being drawn upon, the unused portions of committed amounts do not necessarily represent future cash requirements. Standby letters of credit are issued by the Company to guarantee the performance of a customer to a third party, and the credit risk involved in issuing letters of credit is essentially the same as the risk involved in extending loans to customers.

At June 30, 2019,2020, the Company was also utilizing a letter of credit in the amount of $105 million issued by the Federal Home Loan Bank on the Company’s behalf as security for certain deposits and to facilitate certain credit arrangements with the Company’s customers. That letter of credit is backed by loans which are pledged to the FHLB by the Company.

Note 8 – Fair Value Disclosures and Reporting, the Fair Value Option and Fair Value Measurements

FASB’s standards on financial instruments, and on fair value measurements and disclosures, require public business entities to disclose in their financial statement footnotes the estimated fair values of financial instruments. In addition to disclosure requirements, FASB’s standard on investments requires that our debt securities that are classified as available for sale and any equity securities which have readily determinable fair values be measured and reported at fair value in our statement of financial position. Certain impaired loans are also reported at fair value, as explained in greater detail below, and foreclosed assets are carried at the lower of cost or fair value. FASB’s standard on financial instruments permits companies to report certain other financial assets and liabilities at fair value, but we have not elected the fair value option for any of those financial instruments.

Fair value measurement and disclosure standards also establish a framework for measuring fair values. Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability, in an orderly transaction between market participants on the measurement date. Further, the standards establish a fair value hierarchy that encourages an entity to maximize the use of observable inputs and limit the use of unobservable inputs when measuring fair values. The standards describe three levels of inputs that may be used to measure fair values:

·

Level 1: Quoted prices (unadjusted) for identical assets or liabilities in active markets that the entity has the ability to access as of the measurement date.

·

Level 2: Significant observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities, quoted prices in markets that are not active, and other inputs that are observable or can be corroborated by observable market data.

·

Level 3: Significant unobservable inputs that reflect a company’s own assumptions about the factors that market participants would likely consider in pricing an asset or liability.

Fair value estimates are made at a specific point in time based on relevant market data and information about the financial instruments. Fair value disclosures for deposits include demand deposits, which are by definition equal to the

11

amount payable on demand at the reporting date. Fair value calculations for loans and leases reflect exit pricing, and incorporate our assumptions with regard to the impact of prepayments on future cash flows and credit quality adjustments based on risk characteristics of various financial instruments, among other things. Since the estimates are subjective and involve uncertainties and matters of significant judgment they cannot be determined with precision, and changes in assumptions could significantly alter the fair values presented.

11

Estimated fair values for the Company’s financial instruments are as follows, as of the dates noted:

Fair Value of Financial Instruments

(dollars in thousands, unaudited)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2019

 

 

 

 

Fair Value Measurements

June 30, 2020

Fair Value Measurements

    

Carrying
Amount

    

Quoted Prices in
Active Markets for
Identical Assets
(Level 1)

    

Significant
Observable
Inputs
(Level 2)

    

Significant
Unobservable
Inputs
(Level 3)

    

Total

    

Carrying
Amount

    

Quoted Prices in
Active Markets for
Identical Assets
(Level 1)

    

Significant
Observable
Inputs
(Level 2)

    

Significant
Unobservable
Inputs
(Level 3)

    

Total

Financial assets:

 

 

 

 

 

 

Cash and cash equivalents

 

$

67,790

 

$

67,790

 

$

 —

 

$

 —

 

$

 67,790

$

156,611

$

156,611

$

$

$

156,611

Investment securities available for sale

 

 

577,266

 

 

 —

 

 

577,266

 

 

 —

 

 

577,266

599,333

599,333

599,333

Loans and leases, net held for investment

 

 

1,770,838

 

 

 —

 

 

1,791,335

 

 

 —

 

 

1,791,335

2,195,837

2,240,456

2,240,456

Collateral dependent impaired loans

 

 

 9

 

 

 —

 

 

 9

 

 

 —

 

 

 9

83

83

83

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Financial liabilities:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deposits

 

 

2,179,098

 

 

658,900

 

 

1,520,424

 

 

 —

 

 

2,179,324

2,506,754

949,662

1,557,228

2,506,890

Repurchase agreements

 

 

24,167

 

 

24,167

 

 

 —

 

 

 —

 

 

24,167

41,449

41,449

41,449

Short term borrowings

 

 

8,500

 

 

 —

 

 

8,500

 

 

 —

 

 

8,500

163,000

162,981

162,981

Subordinated debentures

 

 

34,856

 

 

 —

 

 

28,660

 

 

 —

 

 

28,660

35,035

24,507

24,507

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

December 31, 2018

 

 

 

 

Fair Value Measurements

December 31, 2019

Fair Value Measurements

    

Carrying
Amount

    

Quoted Prices in
Active Markets for
Identical Assets
(Level 1)

    

Significant
Observable
Inputs
(Level 2)

    

Significant
Unobservable
Inputs
(Level 3)

    

Total

    

Carrying
Amount

    

Quoted Prices in
Active Markets for
Identical Assets
(Level 1)

    

Significant
Observable
Inputs
(Level 2)

    

Significant
Unobservable
Inputs
(Level 3)

    

Total

Financial assets:

 

 

 

 

 

 

Cash and cash equivalents

 

$

 74,132

 

$

 74,132

 

$

 —

 

$

 —

 

$

 74,132

$

80,077

$

80,076

$

$

$

80,076

Investment securities available for sale

 

 

560,479

 

 

 —

 

 

560,479

 

 

 —

 

 

560,479

600,799

600,799

600,799

Loans and leases, net held for investment

 

 

1,724,575

 

 

 —

 

 

1,707,463

 

 

 —

 

 

1,707,463

1,753,846

1,761,461

1,761,461

Collateral dependent impaired loans

 

 

205

 

 

 —

 

 

205

 

 

 —

 

 

205

1,692

1,692

1,692

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Financial liabilities:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deposits

 

 

2,116,340

 

 

662,527

 

 

1,453,048

 

 

 —

 

 

2,115,575

2,168,374

690,950

1,477,497

2,168,447

Repurchase agreements

 

 

16,359

 

 

16,359

 

 

 —

 

 

 —

 

 

16,359

25,711

25,711

25,711

Short term borrowings

 

 

56,100

 

 

 —

 

 

56,100

 

 

 —

 

 

56,100

20,000

2,000

2,000

Subordinated debentures

 

 

34,767

 

 

 —

 

 

30,311

 

 

 —

 

 

30,311

34,945

30,564

30,564

For financial asset categories that were carried on our balance sheet at fair value as of June 30, 20192020 and December 31, 2018,2019, the Company used the following methods and significant assumptions:

·

Investment securities: Fair values are determined by obtaining quoted prices on nationally recognized securities exchanges or by matrix pricing, which is a mathematical technique used widely in the industry to value debt securities by relying on their relationship to other benchmark quoted securities.

12

·

Collateral-dependent impaired loans: Collateral-dependent impaired loans are carried at fair value when it is probable that the Company will be unable to collect all amounts due according to the contractual terms of the original loan agreement and the loan has been written down to the fair value of its underlying collateral, net of expected disposition costs where applicable.

·

Foreclosed assets: Repossessed real estate (known as other real estate owned, or “OREO”) and other foreclosed assets are carried at the lower of cost or fair value. Fair value is the appraised value less expected selling costs for OREO and some other assets such as mobile homes; fair values for any other foreclosed assets are

12

represented by estimated sales proceeds as determined using reasonably available sources. Foreclosed assets for which appraisals can be feasibly obtained are periodically measured for impairment using updated appraisals. Fair values for other foreclosed assets are adjusted as necessary, subsequent to a periodic re-evaluation of expected cash flows and the timing of resolution. If impairment is determined to exist, the book value of a foreclosed asset is immediately written down to its estimated impaired value through the income statement, thus the carrying amount is equal to the fair value and there is no valuation allowance.

Assets reported at fair value on a recurring basis are summarized below:

Fair Value Measurements – Recurring

(dollars in thousands, unaudited)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fair Value Measurements at June 30, 2019, using

 

 

 

    

Quoted Prices in
Active Markets for
Identical Assets
(Level 1)

    

Significant
Observable
Inputs
(Level 2)

    

Significant
Unobservable
Inputs
(Level 3)

    

Total

    

Realized
Gain/(Loss)
(Level 3)

Fair Value Measurements at June 30, 2020, using

    

Quoted Prices in
Active Markets for
Identical Assets
(Level 1)

    

Significant
Observable
Inputs
(Level 2)

    

Significant
Unobservable
Inputs
(Level 3)

    

Total

    

Realized
Gain/(Loss)
(Level 3)

Securities:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. government agencies

 

$

 —

 

$

 15,296

 

$

 —

 

$

 15,296

 

$

 —

$

$

1,850

$

$

1,850

$

Mortgage-backed securities

 

 

 —

 

 

406,091

 

 

 —

 

 

406,091

 

 

 —

375,485

375,485

State and political subdivisions

 

 

 —

 

 

155,879

 

 

 —

 

 

155,879

 

 

 —

221,998

221,998

Total available-for-sale securities

 

$

 —

 

$

 577,266

 

$

 —

 

$

 577,266

 

$

 —

$

$

599,333

$

$

599,333

$

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fair Value Measurements at December 31, 2018, using

 

 

 

    

Quoted Prices in
Active Markets for
Identical Assets
(Level 1)

    

Significant
Observable
Inputs
(Level 2)

    

Significant
Unobservable
Inputs
(Level 3)

    

Total

    

Realized
Gain/(Loss)
(Level 3)

Fair Value Measurements at December 31, 2019, using

    

Quoted Prices in
Active Markets for
Identical Assets
(Level 1)

    

Significant
Observable
Inputs
(Level 2)

    

Significant
Unobservable
Inputs
(Level 3)

    

Total

    

Realized
Gain/(Loss)
(Level 3)

Securities:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. government agencies

 

$

 —

 

$

 15,212

 

$

 —

 

$

 15,212

 

$

 —

$

$

12,145

$

$

12,145

$

Mortgage-backed securities

 

 

 —

 

 

404,733

 

 

 —

 

 

404,733

 

 

 —

400,389

400,389

State and political subdivisions

 

 

 —

 

 

140,534

 

 

 —

 

 

140,534

 

 

 —

188,265

188,265

Total available-for-sale securities

 

$

 —

 

$

 560,479

 

$

 —

 

$

 560,479

 

$

 —

$

$

600,799

$

$

600,799

$

13

Assets reported at fair value on a nonrecurring basis are summarized below:

Fair Value Measurements – Nonrecurring

(dollars in thousands, unaudited)

 

 

 

 

 

 

 

 

 

 

 

 

 

Fair Value Measurements at June 30, 2019, using

    

Quoted Prices in
Active Markets for
Identical Assets
(Level 1)

    

Significant
Observable Inputs
(Level 2)

    

Significant
Unobservable Inputs
(Level 3)

    

Total

Fair Value Measurements at June 30, 2020, using

    

Quoted Prices in
Active Markets for
Identical Assets
(Level 1)

    

Significant
Observable Inputs
(Level 2)

    

Significant
Unobservable Inputs
(Level 3)

    

Total

Impaired loans

 

 

 

 

 

 

 

 

 

 

 

 

Real estate:

 

 

 

 

 

 

 

 

 

 

 

 

1-4 family residential construction

 

$

 —

 

$

 —

 

$

 —

 

$

 —

$

$

$

$

Other construction/land

 

 

 —

 

 

 —

 

 

 —

 

 

 —

1-4 family - closed-end

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Equity lines

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Multi-family residential

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Commercial real estate - owner occupied

 

 

 —

 

 

 —

 

 

 —

 

 

 —

83

83

Commercial real estate - non-owner occupied

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Farmland

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Total real estate

 

 

 —

 

 

 —

 

 

 —

 

 

 —

83

83

Agricultural

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Commercial and industrial

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Consumer loans

 

 

 —

 

 

 9

 

 

 —

 

 

 9

Total impaired loans

 

$

 —

 

$

 9

 

$

 —

 

$

 9

$

$

83

$

$

83

Foreclosed assets

 

$

 —

 

$

 770

 

$

 —

 

$

 770

$

$

2,893

$

$

2,893

Total assets measured on a nonrecurring basis

 

$

 —

 

$

 779

 

$

 —

 

$

 779

$

$

2,976

$

$

2,976

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fair Value Measurements at December 31, 2018, using

 

    

Quoted Prices in
Active Markets for
Identical Assets
(Level 1)

    

Significant
Observable Inputs
(Level 2)

    

Significant
Unobservable Inputs
(Level 3)

    

Total

Impaired loans

 

 

 

 

 

 

 

 

 

 

 

 

Real estate:

 

 

 

 

 

 

 

 

 

 

 

 

1-4 family residential construction

 

$

 —

 

$

 —

 

$

 —

 

$

 —

Other construction/land

 

 

 —

 

 

27

 

 

 —

 

 

27

1-4 family - closed-end

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Equity lines

 

 

 —

 

 

12

 

 

 —

 

 

12

Multi-family residential

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Commercial real estate - owner occupied

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Commercial real estate - non-owner occupied

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Farmland

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Total real estate

 

 

 —

 

 

39

 

 

 —

 

 

39

Agricultural

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Commercial and industrial

 

 

 —

 

 

119

 

 

 —

 

 

119

Consumer loans

 

 

 —

 

 

47

 

 

 —

 

 

47

Total impaired loans

 

$

 —

 

$

 205

 

$

 —

 

$

 205

Foreclosed assets

 

$

 —

 

$

 1,082

 

$

 —

 

$

 1,082

Total assets measured on a nonrecurring basis

 

$

 —

 

$

 1,287

 

$

 —

 

$

 1,287

14

Fair Value Measurements at December 31, 2019, using

    

Quoted Prices in
Active Markets for
Identical Assets
(Level 1)

    

Significant
Observable Inputs
(Level 2)

    

Significant
Unobservable Inputs
(Level 3)

    

Total

Impaired loans

Real estate:

1-4 family residential construction

$

$

$

$

Other construction/land

1-4 family - closed-end

Equity lines

Multi-family residential

Commercial real estate - owner occupied

88

88

Commercial real estate - non-owner occupied

1,605

1,605

Farmland

Total real estate

1,693

1,693

Agricultural

Commercial and industrial

Consumer loans

Total impaired loans

$

$

1,693

$

$

1,693

Foreclosed assets

$

$

800

$

$

800

Total assets measured on a nonrecurring basis

$

$

2,493

$

$

2,493

The table above includes collateral-dependent impaired loan balances for which a specific reserve has been established or on which a write-down has been taken. Information on the Company’s total impaired loan balances and specific loss reserves associated with those balances is included in Note 11 below, and in Management’s Discussion and Analysisbelow.

14

The unobservable inputs are based on Management’s best estimates of appropriate discounts in arriving at fair market value. Adjusting any of those inputs could result in a significantly lower or higher fair value measurement. For example, an increase or decrease in actual loss rates would create a directionally opposite change in the fair value of unsecured impaired loans.

Note 9 – Investments

Investment Securities

Although the Company currently has the intent and the ability to hold the securities in its investment portfolio to maturity, the securities are all marketable and are classified as “available for sale” to allow maximum flexibility with regard to interest rate risk and liquidity management. Pursuant to FASB’s guidance on accounting for debt and equity securities, available for sale securities are carried on the Company’s financial statements at their estimated fair market values, with monthly tax-effected “mark-to-market” adjustments made vis-à-vis accumulated other comprehensive income in shareholders’ equity.

The amortized cost and estimated fair value of available-for-sale investment securities are as follows:

Amortized Cost And Estimated Fair Value

(dollars in thousands, unaudited)

June 30, 2020

    

Amortized
Cost

    

Gross
Unrealized
Gains

    

Gross
Unrealized
Losses

    

Estimated Fair
Value

U.S. government agencies

$

1,775

$

75

$

$

1,850

Mortgage-backed securities

364,828

10,668

(11)

375,485

State and political subdivisions

209,760

12,239

(1)

221,998

Total securities

$

576,363

$

22,982

$

(12)

$

599,333

December 31, 2019

    

Amortized
Cost

    

Gross
Unrealized
Gains

    

Gross
Unrealized
Losses

    

Estimated Fair
Value

U.S. government agencies

$

12,125

$

124

$

(104)

$

12,145

Mortgage-backed securities

398,353

3,354

(1,318)

400,389

State and political subdivisions

181,900

6,478

(113)

188,265

Total securities

$

592,378

$

9,956

$

(1,535)

$

600,799

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2019

 

    

Amortized
Cost

    

Gross
Unrealized
Gains

    

Gross
Unrealized
Losses

    

Estimated

 Fair
Value

U.S. government agencies

 

$

 15,262

 

$

168

 

$

 (134)

 

$

15,296

Mortgage-backed securities

 

 

405,025

 

 

3,261

 

 

(2,195)

 

 

406,091

State and political subdivisions

 

 

150,978

 

 

5,000

 

 

(99)

 

 

155,879

Total securities

 

$

 571,265

 

$

8,429

 

$

 (2,428)

 

$

577,266

15

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

December 31, 2018

 

    

Amortized
Cost

    

Gross
Unrealized
Gains

    

Gross
Unrealized
Losses

    

Estimated

 Fair
Value

U.S. government agencies

 

$

 15,553

 

$

 12

 

$

 (353)

 

$

 15,212

Mortgage-backed securities

 

 

414,208

 

 

398

 

 

(9,873)

 

 

404,733

State and political subdivisions

 

 

140,181

 

 

1,206

 

 

(853)

 

 

140,534

Total securities

 

$

 569,942

 

$

 1,616

 

$

 (11,079)

 

$

 560,479

At June 30, 20192020 and December 31, 2018,2019, the Company had 2747 securities and 552198 securities, respectively, with gross unrealized losses. Management has evaluated those securities as of the respective dates, and does not believe that any of the unrealized losses are other than temporary. Gross unrealized losses on our investment securities as of the indicated dates are disclosed in the table below, categorized by investment type and by the duration of time that loss positions on individual securities have continuously existed (over or under twelve months).

15

Investment Portfolio - Unrealized Losses

(dollars in thousands, unaudited)

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2019

 

Less than twelve months

 

Twelve months or more

    

Gross
Unrealized
Losses

    

Fair Value

    

Gross
Unrealized
Losses

    

Fair Value

June 30, 2020

Less than twelve months

Twelve months or more

    

Gross
Unrealized
Losses

    

Fair Value

    

Gross
Unrealized
Losses

    

Fair Value

U.S. government agencies

 

$

 —

 

$

 —

 

$

(134)

 

$

7,825

$

$

$

$

Mortgage-backed securities

 

 

(22)

 

 

7,150

 

 

(2,173)

 

 

185,159

(3)

4,692

(8)

1,733

State and political subdivisions

 

 

(58)

 

 

10,870

 

 

(41)

 

 

4,497

(1)

1,052

Total

 

$

(80)

 

$

18,020

 

$

(2,348)

 

$

197,481

$

(4)

$

5,744

$

(8)

$

1,733

 

 

 

 

 

 

 

 

 

 

 

 

 

December 31, 2018

 

Less than twelve months

 

Twelve months or more

    

Gross
Unrealized
Losses

    

Fair Value

    

Gross
Unrealized
Losses

    

Fair Value

December 31, 2019

Less than twelve months

Twelve months or more

    

Gross
Unrealized
Losses

    

Fair Value

    

Gross
Unrealized
Losses

    

Fair Value

U.S. government agencies

 

$

(54)

 

$

2,815

 

$

(299)

 

$

10,764

$

(32)

$

3,240

$

(72)

$

2,689

Mortgage-backed securities

 

 

(717)

 

 

69,686

 

 

(9,156)

 

 

273,230

(494)

100,518

(824)

78,538

State and political subdivisions

 

 

(249)

 

 

33,864

 

 

(604)

 

 

22,213

(113)

19,762

Total

 

$

(1,020)

 

$

106,365

 

$

(10,059)

 

$

306,207

$

(639)

$

123,520

$

(896)

$

81,227

The table below summarizes the Company’s gross realized gains and losses as well as gross proceeds from the sales of securities, for the periods indicated:

Investment Portfolio - Realized Gains/(Losses)

(dollars in thousands, unaudited)

Three months ended June 30,

Six months ended June 30,

    

2020

    

2019

2020

2019

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

$

24,063

$

9,985

$

26,493

$

26,639

Gross gains on sales, calls and maturities of securities available for sale

433

33

433

127

Gross losses on sales, calls and maturities of securities available for sale

(43)

(11)

(43)

(99)

Net gains on sale of securities available for sale

$

390

$

$22

$

390

$

28

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three months ended June 30,

 

 

Six months ended June 30,

 

    

2019

    

2018

 

2019

 

2018

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

 

$

 9,985

 

$

 2,110

 

$

 26,639

 

$

 2,310

Gross gains on sales, calls and maturities of securities available for sale

 

 

33

 

 

 —

 

 

127

 

 

 —

Gross losses on sales, calls and maturities of securities available for sale

 

 

(11)

 

 

 —

 

 

(99)

 

 

 —

Net gains on sale of securities available for sale

 

$

 22

 

$

 —

 

$

 28

 

$

$—

16

The amortized cost and estimated fair value of investment securities available-for-sale at June 30, 20192020 and December 31, 20182019 are shown below, grouped by the remaining time to contractual maturity dates. The expected life of investment securities may not be consistent with contractual maturity dates, since the issuers of the securities might have the right to call or prepay obligations with or without penalties.

16

Estimated Fair Value of Contractual Maturities

(dollars in thousands, unaudited)

 

 

 

 

 

 

 

June 30, 2019

    

Amortized Cost

    

Fair Value

June 30, 2020

    

Amortized Cost

    

Fair Value

Maturing within one year

 

$

 7,806

 

$

 7,909

$

4,362

$

4,388

Maturing after one year through five years

 

 

180,636

 

 

180,310

7,834

8,104

Maturing after five years through ten years

 

 

57,344

 

 

58,245

29,485

30,823

Maturing after ten years

 

 

100,701

 

 

104,331

169,854

180,533

 

 

 

 

 

 

Securities not due at a single maturity date:

 

 

 

 

 

 

U.S. government agencies collateralized by mortgage obligations

 

 

224,778

 

 

226,471

 

$

 571,265

 

$

 577,266

Mortgage-backed securities

181,945

186,880

Collateralized mortgage obligations

182,883

188,605

$

576,363

$

599,333

 

 

 

 

 

 

 

December 31, 2018

    

Amortized Cost

    

Fair Value

December 31, 2019

    

Amortized Cost

    

Fair Value

Maturing within one year

 

$

 7,726

 

$

 7,789

$

7,155

$

7,244

Maturing after one year through five years

 

 

199,840

 

 

195,519

17,008

17,171

Maturing after five years through ten years

 

 

47,802

 

 

47,661

33,805

34,881

Maturing after ten years

 

 

83,606

 

 

83,444

136,057

141,114

 

 

 

 

 

 

Securities not due at a single maturity date:

 

 

 

 

 

 

U.S. government agencies collateralized by mortgage obligations

 

 

230,968

 

 

226,066

 

$

 569,942

 

$

 560,479

Mortgage-backed securities

189,554

190,488

Collateralized mortgage obligations

208,799

209,901

$

592,378

$

600,799

At June 30, 2019,2020, the Company’s investment portfolio included 326356 “muni” bonds issued by 262298 different government municipalities and agencies located within 29 different states, with an aggregate fair value of $156$222 million. The largest exposure to any single municipality or agency was a combined $2.596$4.0 million (fair value) in general obligation bonds issued by the Lindsay (CA) Unified School District.Charter Township of Washington County (MI).

The Company’s investments in bonds issued by states, municipalities and political subdivisions are evaluated in accordance with Supervision and Regulation Letter 12‑12-15 issued by the Board of Governors of the Federal Reserve System, “Investing in Securities without Reliance on Nationally Recognized Statistical Rating Organization Ratings,” and other regulatory guidance. Credit ratings are considered in our analysis only as a guide to the historical default rate associated with similarly-rated bonds. There have been no significant differences in our internal analyses compared with the ratings assigned by the third party credit rating agencies.

17

The following table summarizes the amortized cost and fair values of general obligation and revenue bonds in the Company’s investment securities portfolio at the indicated dates, identifying the state in which the issuing municipality or agency operates for our largest geographic concentrations:

Revenue and General Obligation Bonds by Location

(dollars in thousands, unaudited)

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2019

 

December 31, 2018

 

Amortized

 

Fair Market

 

Amortized

 

Fair Market

June 30, 2020

December 31, 2019

Amortized

Fair Market

Amortized

Fair Market

General obligation bonds

    

Cost

    

Value

    

Cost

    

Value

    

Cost

    

Value

    

Cost

    

Value

State of issuance

 

 

 

 

 

 

 

 

 

 

 

 

Texas

 

$

 45,855

 

$

 47,243

 

$

 36,331

 

$

 36,199

$

76,494

$

81,128

$

59,439

$

61,519

California

 

 

25,817

 

 

26,916

 

 

26,928

 

 

27,357

27,447

29,067

23,882

25,030

Washington

 

 

15,971

 

 

16,688

 

 

16,036

 

 

16,062

23,330

25,023

23,392

24,313

Illinois

 

 

7,920

 

 

8,179

 

 

6,827

 

 

6,838

Ohio

 

 

7,687

 

 

7,793

 

 

8,639

 

 

8,601

Other (21 and 22 states, respectively)

 

 

26,216

 

 

26,895

 

 

21,530

 

 

21,576

Other (21 & 24 states, respectively)

53,652

56,532

49,326

50,725

Total general obligation bonds

 

 

129,466

 

 

133,714

 

 

116,291

 

 

116,633

180,923

191,750

156,039

161,587

 

 

 

 

 

 

 

 

 

 

 

 

Revenue bonds

 

 

 

 

 

 

 

 

 

 

 

 

State of issuance

 

 

 

 

 

 

 

 

 

 

 

 

Texas

 

 

6,764

 

 

6,953

 

 

7,526

 

 

7,506

7,053

7,452

6,035

6,298

Utah

 

 

4,672

 

 

4,758

 

 

5,364

 

 

5,353

Indiana

 

 

3,147

 

 

3,269

 

 

2,641

 

 

2,654

Washington

 

 

1,744

 

 

1,853

 

 

1,751

 

 

1,780

2,256

2,377

1,737

1,856

Pennsylvania

 

 

1,243

 

 

1,264

 

 

 —

 

 

 —

Other (9 and 11 states, respectively)

 

 

3,942

 

 

4,068

 

 

6,608

 

 

6,608

California

364

382

365

380

Other (15 & 13 states, respectively)

19,164

20,037

17,724

18,144

Total revenue bonds

 

 

21,512

 

 

22,165

 

 

23,890

 

 

23,901

28,837

30,248

25,861

26,678

Total obligations of states and political subdivisions

 

$

 150,978

 

$

 155,879

 

$

 140,181

 

$

 140,534

$

209,760

$

221,998

$

181,900

$

188,265

The revenue bonds in the Company’s investment securities portfolios were issued by government municipalities and agencies to fund public services such as utilities (water, sewer, and power), educational facilities, and general public and economic improvements. The primary sources of revenue for these bonds are delineated in the table below, which shows the amortized cost and fair market values for the largest revenue concentrations as of the indicated dates.

Revenue Bonds by Type

(dollars in thousands, unaudited)

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2019

 

December 31, 2018

 

Amortized

 

Fair Market

 

Amortized

 

Fair Market

June 30, 2020

December 31, 2019

Amortized

Fair Market

Amortized

Fair Market

Revenue bonds

    

Cost

    

Value

    

Cost

    

Value

    

Cost

    

Value

    

Cost

    

Value

Revenue source:

 

 

 

 

 

 

 

 

 

 

 

 

Water

 

$

6,749

 

$

6,962

 

$

6,942

 

$

6,946

$

10,363

$

10,949

$

7,515

$

7,775

Sales Tax

 

 

4,376

 

 

4,506

 

 

2,932

 

 

2,901

College & University

 

 

3,001

 

 

3,092

 

 

2,583

 

 

2,604

Sewer

 

 

1,481

 

 

1,512

 

 

1,392

 

 

1,398

5,219

5,408

4,760

4,811

Other (13 sources)

 

 

5,905

 

 

6,093

 

 

10,041

 

 

10,052

Sales tax

3,572

3,743

1,949

1,995

Lease

2,773

2,864

3,596

3,678

Charter school aid

1,565

1,689

1,232

1,290

Other (8 and 8 sources, respectively)

5,345

5,595

6,809

7,129

Total revenue bonds

 

$

21,512

 

$

22,165

 

$

23,890

 

$

23,901

$

28,837

$

30,248

$

25,861

$

26,678

Low-Income Housing Tax Credit (“LIHTC”) Fund Investments

The Company has the ability to invest in limited partnerships which own housing projects that qualify for federal and/or California state tax credits, by mandating a specified percentage of low-income tenants for each project. The primary investment return comes from tax credits that flow through to investors. Because rent levels are lower than standard

18

market rents and the projects are generally highly leveraged, each project also typically generates tax-deductible operating losses that are allocated to the limited partners.partners for tax purposes.

18

The Company made investment commitments to nine different LIHTC fund limited partnerships from 2001 through 2017, all of which were California-focused funds that help the Company meet its obligations under the Community Reinvestment Act. We utilize the cost method of accounting for our LIHTC fund investments, under which we initially record on our balance sheet an asset that represents the total cash expected to be invested over the life of the partnership. Any commitments or contingent commitments for future investment are reflected as a liability. The income statement reflects tax credits and any other tax benefits from these investments “below the line” within our income tax provision, while the initial book value of the investment is amortized on a straight-line basis as an offset to noninterest income, over the time period in which the tax credits and tax benefits are expected to be received.

As of June 30, 20192020, our total LIHTC investment book balance was $5.0$3.8 million, which includes $1.8$0.2 million in remaining commitments for additional capital contributions. There were $269,000$0.3 million in tax credits derived from our LIHTC investments that were recognized during the six months ended June 30, 2019,2020, and amortization expense of $900,000$0.3 million associated with those investments was netted against pre-tax noninterest income for the same time period. The Company also recognized a $0.7 million gain during the same period for the sale of a single fund property that was at the end of its tax credit life. Our LIHTC investments are evaluated annually for potential impairment, and we have concluded that the carrying value of the investments is stated fairly and is not impaired.

Note 10 – Credit Quality and Nonperforming Assets

Credit Quality Classifications

The Company monitors the credit quality of loans on a continuous basis using the regulatory and accounting classifications of pass, special mention, substandard and impaired to characterize the associated credit risk. Balances classified as “loss” are immediately charged off. The Company conforms to the following definitions for its risk classifications:

·

Pass: Larger non-homogeneous loans not meeting the risk rating definitions below, and smaller homogeneous loans that are not assessed on an individual basis.

·

Special mention: Loans which have potential issues that deserve the close attention of Management. If left uncorrected, those potential weaknesses could eventually diminish the prospects for full repayment of principal and interest according to the contractual terms of the loan agreement, or could result in deterioration of the Company’s credit position at some future date.

·

Substandard: Loans that have at least one clear and well-defined weakness that could jeopardize the ultimate recoverability of all principal and interest, such as a borrower displaying a highly leveraged position, unfavorable financial operating results and/or trends, uncertain repayment sources or an otherwise deteriorated financial condition.

·

Impaired: A loan is considered impaired when, based on current information and events, it is probable that the Company will be unable to collect all amounts due according to the contractual terms of the loan agreement. Impaired loans include all nonperforming loans and restructured troubled debt (“TDRs”). A TDR may be nonperforming or performing, depending on its accrual status and the demonstrated ability of the borrower to comply with restructured terms (see “Troubled Debt Restructurings” section below for additional information on TDRs).

19

Credit quality classifications for the Company’s loan balances were as follows, as of the dates indicated:

Credit Quality Classifications

(dollars in thousands, unaudited)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2019

    

Pass

    

Special
Mention

    

Substandard

    

Impaired

    

Total

June 30, 2020

    

Pass

    

Special
Mention

    

Substandard

    

Impaired

    

Total

Real estate:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

1-4 family residential construction

 

$

105,618

 

$

 —

 

$

 —

 

$

 —

 

$

 105,618

$

89,225

$

$

$

$

89,225

Other construction/land

 

 

107,826

 

 

97

 

 

 —

 

 

419

 

 

108,342

87,747

2,227

571

90,545

1-4 family - closed end

 

 

212,685

 

 

1,758

 

 

178

 

 

3,997

 

 

218,618

172,085

1,635

146

4,205

178,071

Equity lines

 

 

46,773

 

 

2,006

 

 

62

 

 

4,868

 

 

53,709

38,147

1,955

60

4,156

44,318

Multi-family residential

 

 

53,240

 

 

 —

 

 

 —

 

 

362

 

 

53,602

55,577

344

55,921

Commercial real estate - owner occupied

 

 

309,712

 

 

5,817

 

 

4,418

 

 

2,080

 

 

322,027

304,684

3,444

3,068

2,667

313,863

Commercial real estate - non-owner occupied

 

 

416,719

 

 

3,529

 

 

3,393

 

 

 —

 

 

423,641

689,589

511

565

627

691,292

Farmland

 

 

151,393

 

 

1,061

 

 

140

 

 

25

 

 

152,619

132,584

1,040

128

702

134,454

Total real estate

 

 

1,403,966

 

 

14,268

 

 

8,191

 

 

11,751

 

 

1,438,176

1,569,638

10,812

3,967

13,272

1,597,689

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Agricultural

 

 

51,333

 

 

170

 

 

 —

 

 

 6

 

 

51,509

48,356

159

2

48,516

Commercial and industrial

 

 

109,530

 

 

13,886

 

 

721

 

 

837

 

 

124,974

208,434

11,213

471

1,383

221,502

Mortgage warehouse

 

 

154,954

 

 

 —

 

 

 —

 

 

 —

 

 

154,954

338,124

338,124

Consumer loans

 

 

7,355

 

 

89

 

 

70

 

 

772

 

 

8,286

5,834

54

34

344

6,266

Total gross loans and leases

 

$

1,727,138

 

$

28,413

 

$

 8,982

 

$

 13,366

 

$

 1,777,899

$

2,170,386

$

22,238

$

4,472

$

15,001

$

2,212,097

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

December 31, 2018

    

Pass

    

Special
Mention

    

Substandard

    

Impaired

    

Total

December 31, 2019

    

Pass

    

Special
Mention

    

Substandard

    

Impaired

    

Total

Real estate:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

1-4 family residential construction

 

$

105,676

 

$

 —

 

$

 —

 

$

 —

 

$

 105,676

$

105,979

$

$

$

$

105,979

Other construction/land

 

 

108,304

 

 

231

 

 

 —

 

 

488

 

 

109,023

90,761

98

554

91,413

1-4 family - closed end

 

 

230,022

 

 

1,861

 

 

1,310

 

 

3,632

 

 

236,825

194,572

2,425

164

3,020

200,181

Equity lines

 

 

49,346

 

 

2,194

 

 

64

 

 

4,716

 

 

56,320

43,111

1,995

72

4,421

49,599

Multi-family residential

 

 

54,504

 

 

 —

 

 

 —

 

 

373

 

 

54,877

54,104

353

54,457

Commercial real estate - owner occupied

 

 

292,886

 

 

4,192

 

 

3,021

 

 

1,225

 

 

301,324

334,460

4,005

3,384

2,034

343,883

Commercial real estate - non-owner occupied

 

 

429,835

 

 

2,730

 

 

4,354

 

 

1,425

 

 

438,344

409,289

1,164

11

2,105

412,569

Farmland

 

 

148,680

 

 

1,073

 

 

146

 

 

1,642

 

 

151,541

142,594

1,048

132

259

144,033

Total real estate

 

 

1,419,253

 

 

12,281

 

 

8,895

 

 

13,501

 

 

1,453,930

1,374,870

10,735

3,763

12,746

1,402,114

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Agricultural

 

 

48,517

 

 

580

 

 

 —

 

 

 6

 

 

49,103

47,814

217

5

48,036

Commercial and industrial

 

 

110,413

 

 

15,686

 

 

377

 

 

1,744

 

 

128,220

100,584

13,415

556

977

115,532

Mortgage warehouse

 

 

91,813

 

 

 —

 

 

 —

 

 

 —

 

 

91,813

189,103

189,103

Consumer loans

 

 

7,851

 

 

151

 

 

39

 

 

821

 

 

8,862

7,245

85

25

425

7,780

Total gross loans and leases

 

$

1,677,847

 

$

28,698

 

$

 9,311

 

$

 16,072

 

$

 1,731,928

$

1,719,616

$

24,452

$

4,344

$

14,153

$

1,762,565

Past Due and Nonperforming Assets

Nonperforming assets are comprised of loans for which the Company is no longer accruing interest, and foreclosed assets. The Company’s foreclosed assets can include mobile homes and/or OREO, which consists of commercial and/or residential real estate properties acquired by foreclosure or similar means that the Company is offering or will offer for sale. Foreclosed assets totaled $770,000$2.9 million at June 30, 2019,2020, and $1.082$0.8 million at December 31, 2018.2019. Gross nonperforming loans totaled $4.120$5.8 million at June 30, 20192020 and $5.156$5.7 million at December 31, 2018.2019. Loans and leases are classified as nonperforming when reasonable doubt surfaces with regard to the ability of the Company to collect all principal and interest. At that point, we stop accruing interest on the loan or lease in question and reverse any

20

previously-recognized interest to the extent that it is uncollected or associated with interest-reserve loans. Any asset for which principal or interest has been in default for 90 days or more is also placed on non-accrual status even if interest is still being received, unless the asset is both well secured and in the process of collection.

Not included in past due and nonperforming assets are loan modifications executed under Section 4013 of the CARES Act. There were 313 customers, for a total of $386.2 million, with payment deferrals under these loan modifications. Approximately $4.9 million in accrued interest has been recognized but not collected on these loans.

An aging of the Company’s loan balances is presented in the following tables, by number of days past due as of the indicated dates:

Loan Portfolio Aging

(dollars in thousands, unaudited)

June 30, 2020

    

30-59 Days
Past Due

    

60-89 Days
Past Due

    

90 Days Or
More Past Due
(1)

    

Total
Past Due

    

Current

    

Total Financing
Receivables

    

Non-Accrual
Loans
(2)

Real estate:

1-4 family residential construction

$

$

$

$

$

89,225

$

89,225

$

Other construction/land

90,545

90,545

4

1-4 family - closed end

11

684

409

1,104

176,967

178,071

843

Equity lines

84

1,120

349

1,553

42,765

44,318

626

Multi-family residential

55,921

55,921

Commercial real estate - owner occupied

989

989

312,874

313,863

1,909

Commercial real estate - non-owner occupied

628

628

690,664

691,292

627

Farmland

128

684

812

133,642

134,454

702

Total real estate

223

1,804

3,059

5,086

1,592,603

1,597,689

4,711

Agricultural

48,516

48,516

Commercial and industrial

337

16

772

1,125

220,377

221,502

1,086

Mortgage warehouse lines

338,124

338,124

Consumer

4

32

36

6,230

6,266

11

Total gross loans and leases

$

564

$

1,852

$

3,831

$

6,247

$

2,205,850

$

2,212,097

$

5,808

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2019

 

    

30-59

 Days
Past Due

    

60-89

 Days
Past Due

    

90 Days Or
More Past Due
(1)

    

Total
Past Due

    

Current

    

Total Financing
Receivables

    

Non-Accrual
Loans
(2)

Real estate:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

1-4 family residential
construction

 

$

 —

 

$

 —

 

$

 —

 

$

 —

 

$

 105,618

 

$

 105,618

 

$

 —

Other construction/land

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

108,342

 

 

108,342

 

 

43

1-4 family - closed end

 

 

265

 

 

 —

 

 

409

 

 

674

 

 

217,944

 

 

218,618

 

 

1,453

Equity lines

 

 

134

 

 

 —

 

 

23

 

 

157

 

 

53,552

 

 

53,709

 

 

467

Multi-family residential

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

53,602

 

 

53,602

 

 

 —

Commercial real estate - owner occupied

 

 

 —

 

 

895

 

 

97

 

 

992

 

 

321,035

 

 

322,027

 

 

1,473

Commercial real estate - non-owner occupied

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

423,641

 

 

423,641

 

 

 —

Farmland

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

152,619

 

 

152,619

 

 

25

Total real estate

 

 

399

 

 

895

 

 

529

 

 

1,823

 

 

1,436,353

 

 

1,438,176

 

 

3,461

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Agricultural

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

51,509

 

 

51,509

 

 

 —

Commercial and industrial

 

 

203

 

 

 3

 

 

74

 

 

280

 

 

124,694

 

 

124,974

 

 

569

Mortgage warehouse lines

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

154,954

 

 

154,954

 

 

 —

Consumer

 

 

42

 

 

59

 

 

19

 

 

120

 

 

8,166

 

 

8,286

 

 

90

Total gross loans and leases

 

$

 644

 

$

 957

 

$

 622

 

$

 2,223

 

$

 1,775,676

 

$

 1,777,899

 

$

 4,120


(1)

(1)

As of June 30, 20192020 there were no0 loans over 90 days past due and still accruing.

(2)

(2)

Included in total financing receivables

21

Loan Portfolio Aging

(dollars in thousands, unaudited)

December 31, 2019

    

30-59 Days
Past Due

    

60-89 Days
Past Due

    

90 Days Or
More Past Due
(1)

    

Total
Past Due

    

Current

    

Total Financing
Receivables

    

Non-Accrual
Loans
(2)

Real estate:

1-4 family residential construction

$

$

$

$

$

105,979

$

105,979

$

Other construction/land

16

16

91,397

91,413

31

1-4 family - closed end

485

380

659

1,524

198,657

200,181

741

Equity lines

177

10

78

265

49,334

49,599

480

Multi-family residential

54,457

54,457

Commercial real estate - owner occupied

1,552

88

1,640

342,243

343,883

1,440

Commercial real estate - non-owner occupied

500

1,605

2,105

410,464

412,569

2,105

Farmland

144,033

144,033

258

Total real estate

2,730

390

2,430

5,550

1,396,564

1,402,114

5,055

Agricultural

48,036

48,036

Commercial and industrial

160

215

375

115,157

115,532

651

Mortgage warehouse lines

189,103

189,103

Consumer

55

12

2

69

7,711

7,780

31

Total gross loans and leases

$

2,945

$

617

$

2,432

$

5,994

$

1,756,571

$

1,762,565

$

5,737

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

December 31, 2018

 

    

30-59

 Days
Past Due

    

60-89 

Days
Past Due

    

90 Days Or
More Past Due
(1)

    

Total
Past Due

    

Current

    

Total Financing
Receivables

    

Non-Accrual
Loans
(2)

Real estate:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

1-4 family residential
construction

 

$

 —

 

$

 —

 

$

 —

 

$

 —

 

$

 105,676

 

$

 105,676

 

$

 —

Other construction/land

 

 

210

 

 

 —

 

 

27

 

 

237

 

 

108,786

 

 

109,023

 

 

82

1-4 family - closed end

 

 

319

 

 

 —

 

 

775

 

 

1,094

 

 

235,731

 

 

236,825

 

 

799

Equity lines

 

 

1,471

 

 

 —

 

 

57

 

 

1,528

 

 

54,792

 

 

56,320

 

 

408

Multi-family residential

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

54,877

 

 

54,877

 

 

 —

Commercial real estate - owner occupied

 

 

183

 

 

 —

 

 

102

 

 

285

 

 

301,039

 

 

301,324

 

 

605

Commercial real estate - non-owner occupied

 

 

49

 

 

 —

 

 

 —

 

 

49

 

 

438,295

 

 

438,344

 

 

49

Farmland

 

 

1,555

 

 

 —

 

 

 —

 

 

1,555

 

 

149,986

 

 

151,541

 

 

1,642

Total real estate

 

 

3,787

 

 

 —

 

 

961

 

 

4,748

 

 

1,449,182

 

 

1,453,930

 

 

3,585

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Agricultural

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

49,103

 

 

49,103

 

 

 —

Commercial and industrial

 

 

1,567

 

 

83

 

 

886

 

 

2,536

 

 

125,684

 

 

128,220

 

 

1,425

Mortgage warehouse lines

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

91,813

 

 

91,813

 

 

 —

Consumer

 

 

95

 

 

45

 

 

56

 

 

196

 

 

8,666

 

 

8,862

 

 

146

Total gross loans and leases

 

$

 5,449

 

$

 128

 

$

 1,903

 

$

 7,480

 

$

 1,724,448

 

$

 1,731,928

 

$

 5,156


(1)

(1)

As of December 31, 20182019 there were no0 loans over 90 days past due and still accruing.

(2)

(2)

Included in total financing receivables

Troubled Debt Restructurings

A loan that is modified for a borrower who is experiencing financial difficulty is classified as a troubled debt restructuring (TDR) if the modification constitutes a concession.concession, excluding loan modifications that are COVID-19 related and made in accordance with the interagency guidance and the CARES Act as described in Note 3, above. At June 30, 2019,2020, the Company had a total of $10.276$10 million in TDRs, including $1.030$0.8 million in TDRs that were on non-accrual status. Generally, a non-accrual loan that has been modified as a TDR remains on non-accrual status for a period of at least six months to demonstrate the borrower’s ability to comply with the modified terms. However, performance prior to the modification, or significant events that coincide with the modification, could result in a loan’s return to accrual status after a shorter performance period or even at the time of loan modification. Regardless of the period of time that has elapsed, if the borrower’s ability to meet the revised payment schedule is uncertain then the loan will be kept on non-accrual status. Moreover, a TDR is generally considered to be in default when it appears that the customer will not likely be able to repay all principal and interest pursuant to restructured terms.

22

The Company may agree to different types of concessions when modifying a loan or lease. The tables below summarize TDRs which were modified during the noted periods, by type of concession:

Troubled Debt Restructurings, by Type of Loan Modification

(dollars in thousands, unaudited)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three months ended June 30, 2019

    

Rate Modification

    

Term
Modification

    

Interest Only Modification

    

Rate & Term Modification

    

Total

Three months ended June 30, 2020

    

Rate Modification

    

Term
Modification

    

Interest Only Modification

    

Rate & Term Modification

    

Term & Interest Modification

Total

Real estate:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other construction/land

 

$

 —

 

$

 —

 

$

 —

 

$

 —

 

$

 —

$

$

85

$

$

$

$

85

1-4 family - closed-end

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

1,325

1,325

Equity lines

 

 

 —

 

 

244

 

 

 —

 

 

 —

 

 

244

Multi-family residential

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Commercial real estate - owner occupied

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

178

178

Farmland

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Total real estate loans

 

 

 —

 

 

244

 

 

 —

 

 

 —

 

 

244

1,588

1,588

Agricultural

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Commercial and industrial

 

 

 —

 

 

22

 

 

 —

 

 

52

 

 

74

28

28

Consumer loans

 

 

 —

 

 

 —

 

 

 —

 

 

50

 

 

50

Total

 

$

 —

 

$

 266

 

$

 —

 

$

 102

 

$

 368

$

$

1,616

$

$

$

$

1,616

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three months ended June 30, 2018

    

Rate Modification

    

Term
Modification

    

Interest Only
Modification

    

Rate & Term Modification

    

Total

Three months ended June 30, 2019

    

Rate Modification

    

Term
Modification

    

Interest Only
Modification

    

Rate & Term Modification

    

Term & Interest Modification

Total

Real estate:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other construction/land

 

$

 —

 

$

 —

 

$

 —

 

$

 —

 

$

 —

$

$

$

$

$

$

1-4 family - closed-end

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Equity lines

 

 

 —

 

 

295

 

 

504

 

 

 —

 

 

799

244

244

Multi-family residential

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Commercial real estate - owner occupied

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Farmland

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Total real estate loans

 

 

 —

 

 

295

 

 

504

 

 

 —

 

 

799

244

244

Agricultural

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Commercial and industrial

 

 

 —

 

 

63

 

 

25

 

 

225

 

 

313

22

52

74

Consumer loans

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

50

50

Total

 

$

 —

 

$

 358

 

$

 529

 

$

 225

 

$

 1,112

$

$

266

$

$

102

$

$

368

23

Troubled Debt Restructurings, by Type of Loan Modification

(dollars in thousands, unaudited)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Six months ended June 30, 2019

    

Rate Modification

    

Term
Modification

    

Interest Only Modification

    

Rate & Term Modification

    

Total

Six months ended June 30, 2020

    

Rate Modification

    

Term
Modification

    

Interest Only Modification

    

Rate & Term Modification

    

Term & Interest Modification

Total

Real estate:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

Other construction/land

 

$

 —

 

$

 —

 

$

 —

 

$

 —

 

$

 —

$

$

85

$

$

$

85

1-4 family - closed-end

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

1,325

1,325

Equity lines

 

 

 —

 

 

344

 

 

 —

 

 

 —

 

 

344

Multi-family residential

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Commercial real estate - owner occupied

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

178

338

516

Farmland

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Total real estate loans

 

 

 —

 

 

344

 

 

 —

 

 

 —

 

 

344

1,588

338

1,926

Agricultural

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Commercial and industrial

 

 

94

 

 

22

 

 

 —

 

 

52

 

 

168

28

28

Consumer loans

 

 

 —

 

 

 9

 

 

 —

 

 

50

 

 

59

Total

 

$

 94

 

$

 375

 

$

 —

 

$

 102

 

$

 571

$

$

1,616

$

$

$

338

$

1,954

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Six months ended June 30, 2018

    

Rate Modification

    

Term
Modification

    

Interest Only Modification

    

Rate & Term Modification

    

Total

Six months ended June 30, 2019

    

Rate Modification

    

Term
Modification

    

Interest Only Modification

    

Rate & Term Modification

    

Term & Interest Modification

Total

Real estate:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other construction/land

 

$

 —

 

$

 —

 

$

 —

 

$

 —

 

$

 —

$

$

$

$

$

$

1-4 family - closed-end

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Equity lines

 

 

 —

 

 

363

 

 

504

 

 

 —

 

 

867

344

344

Multi-family residential

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Commercial real estate - owner occupied

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Farmland

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Total real estate loans

 

 

 —

 

 

363

 

 

504

 

 

 —

 

 

867

344

344

Agricultural

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Commercial and industrial

 

 

 —

 

 

63

 

 

25

 

 

225

 

 

313

94

22

52

168

Consumer loans

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

9

50

59

Total

 

$

 —

 

$

 426

 

$

 529

 

$

 225

 

$

 1,180

$

94

$

375

$

$

102

$

$

571

24

The following tables present, by class, additional details related to loans classified as TDRs during the referenced periods, including the recorded investment in the loan both before and after modification and balances that were modified during the period:

Troubled Debt Restructurings

(dollars in thousands, unaudited)

Three months ended June 30, 2020

Pre-
Modification

Post-
Modification

    

Number of
Loans

    

Outstanding
Recorded
Investment

    

Outstanding
Recorded
Investment

    

Reserve
Difference
¹

    

Reserve

Real estate:

Other construction/land

1

$

86

$

85

$

40

$

41

1-4 family - closed-end

1

1,325

1,325

10

17

Equity lines

0

Multi-family residential

0

Commercial real estate - owner occupied

1

178

178

8

9

Farmland

0

Total real estate loans

1,589

1,588

58

67

Agricultural

0

Commercial and industrial

1

28

28

1

2

Consumer loans

0

Total

$

1,617

$

1,616

$

59

$

69

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three months ended June 30, 2019

 

 

 

 

Pre-
Modification

 

Post-
Modification

 

 

 

 

 

    

Number of
Loans

    

Outstanding
Recorded
Investment

    

Outstanding
Recorded
Investment

    

Reserve
Difference⁽¹⁾

    

Reserve

Real estate:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other construction/land

 

0

 

$

 —

 

$

 —

 

$

 —

 

$

 —

1-4 family - closed-end

 

0

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Equity lines

 

1

 

 

244

 

 

244

 

 

 —

 

 

 1

Multi-family residential

 

0

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Commercial real estate - owner occupied

 

0

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Farmland

 

0

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Total real estate loans

 

 

 

 

244

 

 

244

 

 

 —

 

 

 1

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Agricultural

 

0

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Commercial and industrial

 

2

 

 

74

 

 

74

 

 

 —

 

 

45

Consumer loans

 

1

 

 

50

 

 

50

 

 

(45)

 

 

 2

Total

 

 

 

$

 368

 

$

 368

 

$

 (45)

 

$

 48


(1)

(1)

This represents the change in the ALLL reserve for these credits measured as the difference between the specific post-modification impairment reserve and the pre-modification reserve calculated under our general allowance for loan loss methodology.

Three months ended June 30, 2019

Pre-
Modification

Post-
Modification

    

Number of
Loans

    

Outstanding
Recorded
Investment

    

Outstanding
Recorded
Investment

    

Reserve
Difference
¹

    

Reserve

Real estate:

Other construction/land

0

$

$

$

$

1-4 family - closed-end

0

Equity lines

1

244

244

1

Multi-family residential

0

Commercial real estate - owner occupied

0

Farmland

0

Total real estate loans

244

244

1

Agricultural

0

Commercial and industrial

2

74

74

45

Consumer loans

1

50

50

(45)

2

Total

$

368

$

368

$

$(45)

$

48

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three months ended June 30, 2018

 

 

 

 

Pre-
Modification

 

Post-
Modification

 

 

 

 

 

 

 

    

Number of
Loans

    

Outstanding
Recorded
Investment

    

Outstanding
Recorded
Investment

    

Reserve
Difference⁽¹⁾

    

Reserve

Real estate:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other construction/land

 

0

 

$

 —

 

$

 —

 

$

 —

 

$

 —

1-4 family - closed-end

 

0

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Equity lines

 

6

 

 

799

 

 

799

 

 

 4

 

 

10

Multi-family residential

 

0

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Commercial real estate - owner occupied

 

0

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Farmland

 

0

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Total real estate loans

 

 

 

 

799

 

 

799

 

 

 4

 

 

10

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Agricultural

 

0

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Commercial and industrial

 

3

 

 

313

 

 

313

 

 

 —

 

 

26

Consumer loans

 

0

 

 

 —

 

 

 —

 

 

 —

 

 

 —

   Total

 

 

 

$

 1,112

 

$

 1,112

 

$

 4

 

$

 36


(1)

(1)

This represents the change in the ALLL reserve for these credits measured as the difference between the specific post-modification impairment reserve and the pre-modification reserve calculated under our general allowance for loan loss methodology.

25

Troubled Debt Restructurings

(dollars in thousands, unaudited)

Six months ended June 30, 2020

Pre-
Modification

Post-
Modification

    

Number of
Loans

    

Outstanding
Recorded
Investment

    

Outstanding
Recorded
Investment

    

Reserve
Difference
¹

    

Reserve

Real estate:

Other construction/land

1

$

86

$

85

$

40

$

41

1-4 family - closed-end

1

1,325

1,325

10

17

Equity lines

0

`

Multi-family residential

0

Commercial real estate - owner occupied

2

516

516

8

9

Farmland

0

Total real estate loans

1,927

1,926

58

67

Agricultural

0

Commercial and industrial

1

28

28

1

2

Consumer loans

0

Total

$

1,955

$

1,954

$

59

$

69

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Six months ended June 30, 2019

 

 

 

 

Pre-
Modification

 

Post-
Modification

 

 

 

 

 

 

 

    

Number of
Loans

    

Outstanding
Recorded
Investment

    

Outstanding
Recorded
Investment

    

Reserve
Difference⁽¹⁾

    

Reserve

Real estate:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other construction/land

 

0

 

$

 —

 

$

 —

 

$

 —

 

$

 —

1-4 family - closed-end

 

0

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Equity lines

 

2

 

 

344

 

 

344

 

 

 —

 

 

 1

Multi-family residential

 

0

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Commercial real estate - owner occupied

 

0

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Farmland

 

0

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Total real estate loans

 

 

 

 

344

 

 

344

 

 

 —

 

 

 1

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Agricultural

 

0

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Commercial and industrial

 

4

 

 

168

 

 

168

 

 

(20)

 

 

46

Consumer loans

 

2

 

 

59

 

 

59

 

 

(47)

 

 

 3

   Total

 

 

 

$

 571

 

$

 571

 

$

$(67)

 

$

 50


(1)

(1)

This represents the change in the ALLL reserve for these credits measured as the difference between the specific post-modification impairment reserve and the pre-modification reserve calculated under our general allowance for loan loss methodology.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Six months ended June 30, 2018

 

 

 

 

Pre-
Modification

 

Post-
Modification

 

 

 

 

 

 

 

    

Number of
Loans

    

Outstanding
Recorded
Investment

    

Outstanding
Recorded
Investment

    

Reserve
Difference⁽¹⁾

    

Reserve

Real estate:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other construction/land

 

0

 

$

 —

 

$

 —

 

$

 —

 

$

 —

1-4 family - closed-end

 

0

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Equity lines

 

7

 

 

867

 

 

867

 

 

 4

 

 

12

Multi-family residential

 

0

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Commercial real estate - owner occupied

 

0

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Farmland

 

0

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Total real estate loans

 

 

 

 

867

 

 

867

 

 

 4

 

 

12

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Agricultural

 

0

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Commercial and industrial

 

3

 

 

313

 

 

313

 

 

 —

 

 

26

Consumer loans

 

0

 

 

 —

 

 

 —

 

 

 —

 

 

 —

   Total

 

 

 

$

 1,180

 

$

 1,180

 

$

 4

 

$

 38


Six months ended June 30, 2019

Pre-
Modification

Post-
Modification

    

Number of
Loans

    

Outstanding
Recorded
Investment

    

Outstanding
Recorded
Investment

    

Reserve
Difference
¹

    

Reserve

Real estate:

Other construction/land

0

$

$

$

$

1-4 family - closed-end

0

Equity lines

2

344

344

1

Multi-family residential

0

Commercial real estate - owner occupied

0

Farmland

0

Total real estate loans

344

344

1

Agricultural

0

Commercial and industrial

4

168

168

(20)

46

Consumer loans

2

59

59

(47)

3

Total

$

571

$

571

$

$(67)

$

50

(1)

(1)

This represents the change in the ALLL reserve for these credits measured as the difference between the specific post-modification impairment reserve and the pre-modification reserve calculated under our general allowance for loan loss methodology.

The companyCompany had no0 finance receivables modified as TDRs within the previous twelve months that defaulted or were charged off during the six-month periods ended June 30, 20192020 and 2018.

2019.

26

Purchased Credit Impaired Loans

The Company may acquire loans which show evidence of credit deterioration since origination. These purchased credit impaired (“PCI”) loans are recorded at the amount paid, since there is no carryover of the seller’s allowance for loan losses. Potential losses on PCI loans subsequent to acquisition are recognized by an increase in the allowance for loan losses. PCI loans are accounted for individually or are aggregated into pools of loans based on common risk characteristics. The Company projects the amount and timing of expected cash flows, and expected cash receipts in excess of the amount paid for any such loans are recorded as interest income over the remaining life of the loan or pool of loans (accretable yield). The excess of contractual principal and interest over expected cash flows is not recorded (nonaccretable difference). Expected cash flows are periodically re-evaluated throughout the life of the loan or pool of loans. If the present value of the expected cash flows is determined at any time to be less than the carrying amount, a reserve is recorded. If the present value of the expected cash flows is greater than the carrying amount, it is recognized as part of future interest income.

Our acquisition of Santa Clara Valley Bank in 2014 included certain loans which have shown evidence of credit deterioration since origination, and for which it was probable at acquisition that all contractually required payments would not be collected. The carrying amount and unpaid principal balance of those PCI loans was as follows, as of the dates indicated:

Purchased Credit Impaired Loans:

(dollars in thousands, unaudited)

 

 

 

 

 

 

 

June 30, 2019

    

Unpaid Principal Balance

    

Carrying Value

June 30, 2020

    

Unpaid Principal Balance

    

Carrying Value

Real estate secured

 

$

96

 

$

 —

$

83

$

83

Total purchased credit impaired loans

 

$

96

 

$

 —

$

83

$

$83

December 31, 2018

Unpaid Principal Balance

Carrying Value

Real estate secured

$

 103

$

 —

Total purchased credit impaired loans

$

 103

$

 —

December 31, 2019

    

Unpaid Principal Balance

    

Carrying Value

Real estate secured

$

88

$

Total purchased credit impaired loans

$

$

AnThere was 0 allowance for loan losses totaling $96,000 was allocated for PCI loans as of June 30, 2019,2020, however, an allowance totaling $0.1 million was allocated for PCI loans as compared to $103,000 atof December 31, 2018.2019. There was no0 discount accretion recorded on PCI loans during the six months ended June 30, 2019.2020.

Note 11 – Allowance for Loan and Lease Losses

The Company’s allowance for loan and lease losses, a contra-asset, is established through a provision for loan and lease losses. The allowance is maintained at a level that is considered adequate to absorb probable losses on certain specifically identified impaired loans, as well as probable incurred losses inherent in the remaining loan portfolio. Specifically identifiable and quantifiable losses are immediately charged off against the allowance; recoveries are generally recorded only when cash payments are received subsequent to the charge off. We employ a systematic methodology, consistent with FASB guidelines on loss contingencies and impaired loans, for determining the appropriate level of the allowance for loan and lease losses and adjusting it to that level at least quarterly. Pursuant to our methodology, impaired loans and leases are individually analyzed and a criticized asset action plan is completed specifying the financial status of the borrower and, if applicable, the characteristics and condition of collateral and any associated liquidation plan. A specific loss allowance is created for each impaired loan, if necessary.

The following tables disclose the unpaid principal balance, recorded investment, average recorded investment, and interest income recognized for impaired loans on our books as of the dates indicated. Balances are shown by loan type, and are further broken out by those that required an allowance and those that did not, with the associated allowance disclosed for those that required such. Included in the valuation allowance for impaired loans shown in the tables below

27

are specific reserves allocated to TDRs, totaling $1.0230.7 million at June 30, 20192020 and $1.048$0.6 million at December 31, 2018.2019.

27

Impaired Loans

(dollars in thousands, unaudited)

June 30, 2020

    

Unpaid Principal
Balance
(1)

    

Recorded
Investment
(2)

    

Related
Allowance

    

Average
Recorded
Investment

    

Interest Income
Recognized
(3)

With an allowance recorded

Real estate:

Other construction/land

$

690

571

173

586

21

1-4 family - closed-end

3,379

3,379

71

3,406

58

Equity lines

3,909

3,856

317

3,971

69

Multi-family residential

344

344

18

347

12

Commercial real estate- owner occupied

757

757

11

763

18

Commercial real estate- non-owner occupied

Farmland

237

237

3

237

Total real estate

9,316

9,144

593

9,310

178

Agricultural

2

2

4

Commercial and industrial

1,282

1,262

671

1,297

9

Consumer loans

382

344

95

361

15

Subtotal

10,982

10,752

1,359

10,972

202

With no related allowance recorded

Real estate:

Other construction/land

1

1-4 family - closed-end

826

826

845

Equity lines

300

300

304

2

Commercial real estate- owner occupied

2,029

1,910

1,937

Commercial real estate- non-owner occupied

627

627

634

Farmland

465

465

467

Total real estate

4,247

4,128

4,187

3

Agricultural

Commercial and industrial

142

121

206

Consumer loans

9

1

Subtotal

4,398

4,249

4,394

3

Total

$

15,380

$

15,001

$

1,359

$

15,366

$

205

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2019

 

    

Unpaid Principal
Balance
(1)

    

Recorded
Investment
(2)

    

Related
Allowance

    

Average
Recorded
Investment

    

Interest Income
Recognized
(3)

With an allowance recorded

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Real estate:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other construction/land

 

$

554

 

$

399

 

$

39

 

$

667

 

$

18

1-4 family - closed-end

 

 

3,039

 

 

3,038

 

 

70

 

 

3,178

 

 

80

Equity lines

 

 

4,784

 

 

4,730

 

 

639

 

 

4,941

 

 

125

Multi-family residential

 

 

362

 

 

362

 

 

21

 

 

378

 

 

11

Commercial real estate- owner occupied

 

 

823

 

 

703

 

 

112

 

 

262

 

 

19

Commercial real estate- non-owner occupied

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Farmland

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Total real estate

 

 

9,562

 

 

9,232

 

 

881

 

 

9,426

 

 

253

Agricultural

 

 

 6

 

 

 6

 

 

 1

 

 

 6

 

 

 —

Commercial and industrial

 

 

728

 

 

709

 

 

303

 

 

906

 

 

13

Consumer loans

 

 

801

 

 

763

 

 

137

 

 

915

 

 

28

Subtotal

 

 

11,097

 

 

10,710

 

 

1,322

 

 

11,253

 

 

294

With no related allowance recorded

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Real estate:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other construction/land

 

 

24

 

 

20

 

 

 —

 

 

55

 

 

 —

1-4 family - closed-end

 

 

1,001

 

 

959

 

 

 —

 

 

1,073

 

 

 —

Equity lines

 

 

162

 

 

138

 

 

 —

 

 

183

 

 

 —

Commercial real estate- owner occupied

 

 

1,376

 

 

1,377

 

 

 —

 

 

1,927

 

 

 —

Commercial real estate- non-owner occupied

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Farmland

 

 

25

 

 

25

 

 

 —

 

 

45

 

 

 —

Total real estate

 

 

2,588

 

 

2,519

 

 

 —

 

 

3,283

 

 

 —

Agricultural

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Commercial and industrial

 

 

150

 

 

128

 

 

 —

 

 

186

 

 

 —

Consumer loans

 

 

109

 

 

 9

 

 

 —

 

 

171

 

 

 —

Subtotal

 

 

2,847

 

 

2,656

 

 

 —

 

 

3,640

 

 

 —

Total

 

$

13,944

 

$

13,366

 

$

1,322

 

$

14,893

 

$

294


(1)

(1)

Contractual principal balance due from customer.

(2)

(2)

Principal balance on Company’s books, less any direct charge offs.

(3)

(3)

Interest income is recognized on performing balances on a regular accrual basis.

28

Impaired Loans

(dollars in thousands, unaudited)

December 31, 2019

    

Unpaid Principal
Balance
(1)

    

Recorded
Investment
(2)

    

Related
Allowance

    

Average
Recorded
Investment

    

Interest Income
Recognized
(3)

With an allowance recorded

Real estate:

Other construction/land

$

656

$

537

$

157

$

563

$

32

1-4 family - closed-end

2,298

2,298

58

2,365

146

Equity lines

4,173

4,120

252

4,185

200

Multi-family residential

353

353

17

361

23

Commercial real estate- owner occupied

593

593

6

606

38

Commercial real estate- non-owner occupied

Farmland

237

237

3

256

Total real estate

8,310

8,138

493

8,336

439

Agricultural

5

5

1

6

Commercial and industrial

915

896

219

1,140

29

Consumer loans

464

425

114

469

35

Subtotal

9,694

9,464

827

9,951

503

With no related allowance recorded

Real estate:

1-4 family - closed-end

$

755

$

722

$

$

726

$

Equity lines

326

301

310

5

Multi-family residential

Commercial real estate- owner occupied

1,560

1,440

1,477

Commercial real estate- non-owner occupied

3,295

2,105

3,267

Farmland

22

22

25

Total real estate

6,010

4,607

6,382

9

Agricultural

Commercial and industrial

102

81

162

Consumer loans

9

140

15

Subtotal

6,121

4,688

6,684

24

Total

$

15,815

$

14,152

$

827

$

16,635

$

527

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

December 31, 2018

 

    

Unpaid Principal
Balance
(1)

    

Recorded
Investment
(2)

    

Related
Allowance

    

Average
Recorded
Investment

    

Interest Income
Recognized
(3)

With an allowance recorded

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Real estate:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other construction/land

 

$

593

 

$

438

 

$

44

 

$

648

 

$

40

1-4 family - closed-end

 

 

3,325

 

 

3,325

 

 

75

 

 

3,182

 

 

175

Equity lines

 

 

4,603

 

 

4,550

 

 

656

 

 

4,368

 

 

206

Multi-family residential

 

 

373

 

 

373

 

 

25

 

 

359

 

 

20

Commercial real estate- owner occupied

 

 

842

 

 

723

 

 

135

 

 

740

 

 

40

Commercial real estate- non-owner occupied

 

 

1,572

 

 

1,425

 

 

 3

 

 

1,644

 

 

107

Total real estate

 

 

11,308

 

 

10,834

 

 

938

 

 

10,941

 

 

588

Agricultural

 

 

 6

 

 

 6

 

 

 1

 

 

 6

 

 

 —

Commercial and industrial

 

 

1,724

 

 

1,534

 

 

918

 

 

1,965

 

 

40

Consumer loans

 

 

813

 

 

764

 

 

151

 

 

909

 

 

61

Subtotal

 

 

13,851

 

 

13,138

 

 

2,008

 

 

13,821

 

 

689

With no related allowance recorded

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Real estate:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other construction/land

 

 

54

 

 

50

 

 

 —

 

 

58

 

 

 —

1-4 family - closed-end

 

 

357

 

 

307

 

 

 —

 

 

375

 

 

 3

Equity lines

 

 

224

 

 

166

 

 

 —

 

 

221

 

 

 —

Commercial real estate- owner occupied

 

 

502

 

 

502

 

 

 —

 

 

478

 

 

 —

Commercial real estate- non-owner occupied

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Farmland

 

 

1,642

 

 

1,642

 

 

 —

 

 

1,538

 

 

 —

Total real estate

 

 

2,779

 

 

2,667

 

 

 —

 

 

2,670

 

 

 3

Agricultural

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Commercial and industrial

 

 

238

 

 

211

 

 

 —

 

 

838

 

 

 —

Consumer loans

 

 

182

 

 

56

 

 

 —

 

 

273

 

 

 1

Subtotal

 

 

3,199

 

 

2,934

 

 

 —

 

 

3,781

 

 

 4

Total

 

$

17,050

 

$

16,072

 

$

2,008

 

$

17,602

 

$

693


(1)

(1)

Contractual principal balance due from customer.

(2)

(2)

Principal balance on Company’s books, less any direct charge offs.

(3)

(3)

Interest income is recognized on performing balances on a regular accrual basis.

basis.

The specific loss allowance for an impaired loan generally represents the difference between the book value of the loan and either the fair value of underlying collateral less estimated disposition costs, or the loan’s net present value as determined by a discounted cash flow analysis. The discounted cash flow approach is typically used to measure impairment on loans for which it is anticipated that repayment will be provided from cash flows other than those generated solely by the disposition or operation of underlying collateral. However, historical loss rates may be used by the Company to determine a specific loss allowance if those rates indicate a higher potential reserve need than the discounted cash flow analysis. Any change in impairment attributable to the passage of time is accommodated by adjusting the loss allowance accordingly.

For loans where repayment is expected to be provided by the disposition or operation of the underlying collateral, impairment is measured using the fair value of the collateral. If the collateral value, net of the expected costs of disposition, is less than the loan balance, then a specific loss reserve is established for the shortfall in collateral coverage. If the discounted collateral value is greater than or equal to the loan balance, no specific loss reserve is required. At the time a collateral-dependent loan is designated as nonperforming, a new appraisal is ordered and typically received within

29

30 to 60 days if a recent appraisal is not already available. We generally use external appraisals to determine the fair value of the underlying collateral for nonperforming real estate loans, although the Company’s licensed staff appraisers

29

may update older appraisals based on current market conditions and property value trends. Until an updated appraisal is received, the Company uses the existing appraisal to determine the amount of the specific loss allowance that may be required. The specific loss allowance is adjusted, as necessary, once a new appraisal is received. Updated appraisals are generally ordered at least annually for collateral-dependent loans that remain impaired, and current appraisals were available or in process for all59% of the Company’s impaired real estate loan balances at June 30, 2019.2020. Furthermore, the Company analyzes collateral-dependent loans on at least a quarterly basis, to determine if any portion of the recorded investment in such loans can be identified as uncollectible and would therefore constitute a confirmed loss. All amounts deemed to be uncollectible are promptly charged off against the Company’s allowance for loan and lease losses, with the loan then carried at the fair value of the collateral, as appraised, less estimated costs of disposition if applicable. Once a charge-off or write-down is recorded, it will not be restored to the loan balance on the Company’s accounting books.

Our methodology also provides for the establishment of a “general” allowance for probable incurred losses inherent in loans and leases that are not impaired. Unimpaired loan balances are segregated by credit quality, and are then evaluated in pools with common characteristics. At the present time, pools are based on the same segmentation of loan types presented in our regulatory filings. While this methodology utilizes historical loss data and other measurable information, the credit classification of loans and the establishment of the allowance for loan and lease losses are both to some extent based on Management’s judgment and experience. Our methodology incorporates a variety of risk considerations, both quantitative and qualitative, in establishing an allowance for loan and lease losses that Management believes is appropriate at each reporting date. Quantitative information includes our historical loss experience, delinquency and charge-off trends, and current collateral values. Qualitative factors include the general economic environment in our markets and, in particular, the condition of the agricultural industry and other key industries. Lending policies and procedures (including underwriting standards), the experience and abilities of lending staff, the quality of loan review, credit concentrations (by geography, loan type, industry and collateral type), the rate of loan portfolio growth, and changes in legal or regulatory requirements are additional factors that are considered. The total general reserve established for probable incurred losses on unimpaired loans was $8.561$12.2 million at June 30, 2019.2020.

There were no material changes to the methodology used to determine our allowance for loan and lease losses during the three months ended June 30, 2019.  As2020, although as outlined in Note 3 to the consolidated financial statements we add new productswill substantially update our methodology upon the implementation of the CECL accounting method under Financial Accounting Standards Board (FASB) Accounting Standards Update ASU 2016-13 and expand our geographic coverage, and as regulatory and economic environments change,related amendments, Financial Instruments – Credit Losses (Topic 326) when the earlier of the national emergency related to the outbreak of COVID-19 ends or December 31, 2020. Moreover, we expectwill continue to enhance our methodology as needed in order to comply with regulatory and accounting requirements, keep pace with the size and complexity of theour loan and lease portfolio, and respond to pressures created by external forces. We engage outside firms on a regular basis to assess our methodology and perform independent credit reviews of our loan and lease portfolio. In addition, the FDIC and the California DBODepartment of Business Oversight (DBO) review the allowance for loan and lease losses as an integral part of their audit and examination processes. Management believes thatdeferring the implementation of “CECL” and continuing with the current incurred loss methodology is appropriate given our sizethe impact of the economic uncertainty surrounding COVID-19 and levelrelated governmental and regulatory actions taken in response thereto, such as the stimulus provisions of complexity.

the CARES Act.

30

The tables that follow detail the activity in the allowance for loan and lease losses for the periods noted:

Allowance for Credit Losses and Recorded Investment in Financing Receivables

(dollars in thousands, unaudited)

Three months ended June 30, 2020

Real Estate

Agricultural
Products

Commercial and
Industrial
(1)

Consumer

Unallocated

Total

Allowance for credit losses:

Beginning balance

$

7,315

$

235

$

2,754

$

1,137

$

12

$

11,453

Charge-offs

(67)

(286)

(353)

Recoveries

3

20

237

260

Provision

1,532

(3)

908

(239)

2

2,200

Ending balance

$

8,850

$

232

$

3,615

$

849

$

14

$

13,560

Six months ended June 30, 2020

    

Real Estate

    

Agricultural
Products

    

Commercial and
Industrial
(1)

    

Consumer

    

Unallocated

    

Total

Allowance for credit losses:

Beginning balance

    

$

5,635

    

$

193

    

$

2,685

    

$

1,278

    

$

132

    

$

9,923

Charge-offs

(92)

(903)

(995)

Recoveries

74

48

510

632

Provision

3,141

39

974

(36)

(118)

4,000

Ending balance

$

8,850

$

232

$

3,615

$

849

$

14

$

13,560

Reserves:

Specific

$

593

$

$

671

$

95

$

$

1,359

General

8,257

232

2,944

754

14

12,201

Ending balance

$

8,850

$

232

$

3,615

$

849

$

14

$

13,560

Loans evaluated for impairment:

Individually

$

13,272

$

2

$

1,383

$

344

$

$

15,001

Collectively

1,584,417

48,514

558,243

5,922

2,197,096

Ending balance

$

1,597,689

$

48,516

$

559,626

$

6,266

$

$

2,212,097

Year ended December 31, 2019

    

Real Estate

    

Agricultural
Products

    

Commercial and
Industrial
(1)

    

Consumer

    

Unallocated

    

Total

Allowance for credit losses:

Beginning balance

$

5,831

$

256

$

2,394

$

1,239

$

30

$

9,750

Charge-offs

(1,190)

(1,274)

(2,409)

(4,873)

Recoveries

647

690

1,159

2,496

Provision

347

(63)

875

1,289

102

2,550

Ending balance

$

5,635

$

193

$

2,685

$

1,278

$

132

$

9,923

Reserves:

Specific

$

493

$

1

$

219

$

114

$

$

827

General

5,142

192

2,466

1,164

132

9,096

Ending balance

$

5,635

$

193

$

2,685

$

1,278

$

132

$

9,923

Loans evaluated for impairment:

Individually

$

12,746

$

5

$

977

$

425

$

$

14,153

Collectively

1,389,368

48,031

303,658

7,355

1,748,412

Ending balance

$

1,402,114

$

48,036

$

304,635

$

7,780

$

$

1,762,565

(1)Includes mortgage warehouse lines.

31

Allowance for Credit Losses and Recorded Investment in Financing Receivables

(dollars in thousands, unaudited)

Three months ended June 30, 2019

    

Real Estate

    

Agricultural
Products

    

Commercial and
Industrial
(1)

    

Consumer

    

Unallocated

    

Total

Allowance for credit losses:

Beginning balance

$

6,094

$

219

$

1,914

$

1,129

$

82

$

9,438

Charge-offs

(254)

(562)

(816)

Recoveries

153

431

277

861

Provision

(278)

(18)

478

288

(70)

400

Ending balance

$

5,969

$

201

$

2,569

$

1,132

$

12

$

9,883

Six months ended June 30, 2019

    

Real Estate

    

Agricultural
Products

    

Commercial and
Industrial
(1)

    

Consumer

    

Unallocated

    

Total

Allowance for credit losses:

Beginning balance

$

5,831

$

256

$

2,394

$

1,239

$

30

$

9,750

Charge-offs

(832)

(1,114)

(1,946)

Recoveries

329

472

578

1,379

Provision

(191)

(55)

535

429

(18)

700

Ending balance

$

5,969

$

201

$

2,569

$

1,132

$

12

$

9,883

Reserves:

Specific

$

881

$

1

$

303

$

137

$

$

1,322

General

5,088

200

2,266

995

12

8,561

Ending balance

$

5,969

$

201

$

2,569

$

1,132

$

12

$

9,883

Loans evaluated for impairment:

Individually

$

11,751

$

6

$

837

$

772

$

$

13,366

Collectively

1,426,425

51,503

279,091

7,514

1,764,533

Ending balance

$

1,438,176

$

51,509

$

279,928

$

8,286

$

$

1,777,899

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three months ended June 30, 2019

 

 

 

Real Estate

 

 

Agricultural
Products

 

 

Commercial and
Industrial
(1)

 

 

Consumer

 

 

Unallocated

 

 

Total

Allowance for credit losses:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Beginning balance

 

$

6,094

 

$

219

 

$

1,914

 

$

1,129

 

$

82

 

$

9,438

Charge-offs

 

 

 —

 

 

 —

 

 

(254)

 

 

(562)

 

 

 —

 

 

(816)

Recoveries

 

 

153

 

 

 —

 

 

431

 

 

277

 

 

 —

 

 

861

Provision

 

 

(278)

 

 

(18)

 

 

478

 

 

288

 

 

(70)

 

 

400

Ending balance

 

$

5,969

 

$

201

 

$

2,569

 

$

1,132

 

$

12

 

$

9,883

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Six months ended June 30, 2019

 

    

Real Estate

    

Agricultural
Products

    

Commercial and
Industrial
(1)

    

Consumer

    

Unallocated

    

Total

Allowance for credit losses:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Beginning balance

    

$

5,831

    

$

256

    

$

2,394

    

$

1,239

    

$

30

    

$

9,750

Charge-offs

 

 

 —

 

 

 —

 

 

(832)

 

 

(1,114)

 

 

 —

 

 

(1,946)

Recoveries

 

 

329

 

 

 —

 

 

472

 

 

578

 

 

 —

 

 

1,379

Provision

 

 

(191)

 

 

(55)

 

 

535

 

 

429

 

 

(18)

 

 

700

Ending balance

 

$

5,969

 

$

201

 

$

2,569

 

$

1,132

 

$

12

 

$

9,883

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Reserves:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Specific

 

$

881

 

$

 1

 

$

303

 

$

137

 

$

 —

 

$

1,322

General

 

 

5,088

 

 

200

 

 

2,266

 

 

995

 

 

12

 

 

8,561

Ending balance

 

$

5,969

 

$

201

 

$

2,569

 

$

1,132

 

$

12

 

$

9,883

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Loans evaluated for impairment:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Individually

 

$

11,751

 

$

 6

 

$

837

 

$

772

 

$

 —

 

$

13,366

Collectively

 

 

1,426,425

 

 

51,503

 

 

279,091

 

 

7,514

 

 

 —

 

 

1,764,533

Ending balance

 

$

1,438,176

 

$

51,509

 

$

279,928

 

$

8,286

 

$

 —

 

$

1,777,899

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year ended December 31, 2018

 

    

Real Estate

    

Agricultural
Products

    

Commercial and
Industrial
(1)

    

Consumer

    

Unallocated

    

Total

Allowance for credit losses:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Beginning balance

 

$

4,786

 

$

208

 

$

2,772

 

$

1,231

 

$

46

 

$

9,043

Charge-offs

 

 

(2,474)

 

 

 —

 

 

(608)

 

 

(2,226)

 

 

 —

 

 

(5,308)

Recoveries

 

 

374

 

 

23

 

 

148

 

 

1,120

 

 

 —

 

 

1,665

Provision

 

 

3,145

 

 

25

 

 

82

 

 

1,114

 

 

(16)

 

 

4,350

Ending balance

 

$

5,831

 

$

256

 

$

2,394

 

$

1,239

 

$

30

 

$

9,750

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Reserves:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Specific

 

$

937

 

$

 2

 

$

918

 

$

151

 

$

 —

 

$

2,008

General

 

 

4,894

 

 

254

 

 

1,476

 

 

1,088

 

 

30

 

 

7,742

Ending balance

 

$

5,831

 

$

256

 

$

2,394

 

$

1,239

 

$

30

 

$

9,750

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Loans evaluated for impairment:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Individually

 

$

13,501

 

$

 6

 

$

1,744

 

$

821

 

$

 —

 

$

16,072

Collectively

 

 

1,440,429

 

 

49,097

 

 

218,289

 

 

8,041

 

 

 —

 

 

1,715,856

Ending balance

 

$

1,453,930

 

$

49,103

 

$

220,033

 

$

8,862

 

$

 —

 

$

1,731,928


(1)

(1)

Includes mortgage warehouse lines.

31

Note 12 – Operating Leases

We lease space under non-cancelable operating leases for 21 branch locations, three3 off-site ATM locations, one1 administrative building, one loan production office and a warehouse. Many of our leases include both lease (e.g., fixed payments including rent, taxes, and insurance costs) and non-lease components (e.g., common-area or other maintenance costs). Payments for taxes and insurance as well as non-lease components are not included in the accounting of the lease component, but are separately accounted for in occupancy expense. The Company recognized lease expense of $1.095$1.1 million during the six month periodfor both six-month periods ended June 30, 2020 and 2019. Lease expense for the six months ended June 30, 2018, prior to the adoption of ASU 2016‑02, was $1.177 million. Most leases include one or more renewal options available to exercise. The exercise of lease renewal options is typically at the Company’s sole discretion; therefore, the majority of renewals to extend the lease terms are not included in our right-of-use assets and lease liabilities as they are not reasonably certain of exercise. We regularly evaluate the renewal options and when they are reasonably certain of exercise, we include the renewal period in our lease term. As most of our leases do not provide an implicit rate, we used our incremental borrowing rate in determining the present value of the lease payments.

There were no sale and leaseback transactions, leveraged leases, or lease transactions with related parties during the six months ended June 30, 2019.2020.

At June 30, 2019,2020, the Company’s right-of-use assets and operating lease liabilities were $9.044$7.5 million and $9.655$8.0 million, respectively. The weighted average remaining lease term for the lease liabilities was 5.37.0 years, and the weighted average discount rate of remaining payments was 5.5 percent. There were no0 lease liabilities from new right-of-use assets

32

obtained during the six months ended June 30, 2019.2020. Cash paid on operating leases was $680,000$0.9 million for the six months ended June 30, 2019.2020.

Maturities of our lease liabilities for all operating leases are as follows (dollars in thousands, unaudited):

    

June 30, 2020

2020 (1)

    

$

1,120

2021

2,020

2022

1,571

2023

1,113

2024

749

Thereafter

3,196

Total

9,769

Less: present value discount

(1,744)

Lease liability (2)

$

8,025

 

 

 

 

 

 

Maturities of

 

    

Lease Liabilities

2019 (1)

    

$

1,096

2020

 

 

2,204

2021

 

 

1,993

2022

 

 

1,558

2023

 

 

1,119

Thereafter

 

 

3,939

Total

 

 

11,909

Less: present value discount

 

 

(2,254)

Lease liability (2)

 

$

9,655


(1)

(1)

Contractual maturities for the six months remaining in 2019.

2020.

(2)

(2)

Lease liability is included in other liabilities.

The following table presents the future minimum rental payments under leases with terms in excess of one year as of December 31, 20182019 presented in accordance with ASC Topic 840, “Leases”:

 

 

 

 

 

 

December 31, 2018

2019

 

$

2,190

2020

 

 

2,204

2021

 

 

1,993

2022

 

 

1,558

2023

 

 

1,119

Thereafter

 

 

3,939

Total

 

$

13,003

December 31, 2019

2020

$

2,235

2021

2,023

2022

1,574

2023

1,113

2024

749

Thereafter

3,196

Total undiscounted lease payments

$

10,890

32

Note 13 – Revenue Recognition.

The Company utilizes the guidance found in ASU 2014‑2014-09, Revenue from Contracts with Customers (ASC 606), when accounting for certain noninterest income. The core principle of this guidance is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. Sufficient information should be provided to enable users of financial statements to understand the nature, amount, timing and uncertainty of revenue and cash flows arising from contracts with customers. The Company’s revenue streams that are within the scope of and accounted for under Topic 606 include service charges on deposit accounts, debit card interchange fees, and fees levied for other services the Company provides its customers. The guidance does not apply to revenue associated with financial instruments such as loans and investments, and other noninterest income such as loan servicing fees and earnings on bank-owned life insurance, which are accounted for on an accrual basis under other provisions of GAAP. In total, approximately 21%37.1% and 29.6% of the Company’s noninterest revenue was outside of the scope of the ASC 606 as offor the three- and six-month periods ended June 30, 2019.2020, respectively.

All of the company’s revenue from contracts inwithin the scope of ASC 606 is recognized withinas noninterest income.  income, except for gains on the sale of OREO which is classified as non-interest expense. The following table presents the Company’s

33

sources of noninterest income for the three- and six-month periods ended June 30, 20192020 and 2018.2019. Items outside the scope of ASC 606 are noted as such (dollars in thousands, unaudited).

For the three months ended June 30,

For the six months ended June 30,

    

2020

    

2019

    

2020

    

2019

Non-interest income

Service charges on deposits

Returned item and overdraft fees

    

$

962

    

$

1,657

    

$

2,626

    

$

3,223

Other service charges on deposits

1,656

1,494

3,176

2,871

Debit card interchange income

1,723

1,687

3,355

3,200

Loss on limited partnerships(1)

(158)

(450)

(315)

(900)

Dividends on equity investments(1)

139

175

333

406

Unrealized gains recognized on equity investments(1)

232

447

232

Net gains on sale of securities(1)

390

22

390

28

Other(1)

2,188

1,038

2,995

2,702

Total non-interest income

$

6,900

$

5,855

$

13,007

$

11,762

Non-interest expense

Salaries and employee benefits (1)

$

9,266

$

8,994

$

19,438

$

18,237

Occupancy expense (1)

2,504

2,450

4,832

4,811

Gain on sale of OREO

(21)

2

(37)

Other (1)

6,263

6,233

11,579

12,498

Total non-interest expense

$

18,033

$

17,656

$

35,851

$

35,509

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

For the three months ended June 30,

 

For the six months ended June 30,

 

    

2019

    

2018

    

2019

    

2018

Noninterest income

 

 

 

 

 

 

 

 

 

 

 

 

Service charges on deposits

 

 

 

 

 

 

 

 

 

 

 

 

Returned item and overdraft fees

    

$

1,657

    

$

1,575

    

$

3,223

    

$

3,142

Other service charges on deposits

 

 

1,494

 

 

1,452

 

 

2,871

 

 

2,832

Debit card interchange income

 

 

1,687

 

 

1,486

 

 

3,200

 

 

2,885

Loss on limited partnerships(1)

 

 

(450)

 

 

(405)

 

 

(900)

 

 

(800)

Dividends on equity investments(1)

 

 

175

 

 

169

 

 

406

 

 

394

Unrealized gains recognized on equity investments(1)

 

 

232

 

 

 —

 

 

232

 

 

 —

Net gains on sale of securities(1)

 

 

22

 

 

 —

 

 

28

 

 

 —

Other(1)

 

 

1,038

 

 

1,152

 

 

2,702

 

 

2,110

Total noninterest income

 

$

5,855

 

$

5,429

 

$

11,762

 

$

10,563


(1)

(1)

Not within scope of ASC 606. Revenue streams are not related to contract with customers and are accounted for on an accrual basis under other provisions of GAAP.

With regard to noninterest income associated with customer contracts, the Company has determined that transaction prices are fixed, and performance obligations are satisfied as services are rendered, thus there is little or no judgment involved in the timing of revenue recognition under contracts that are within the scope of ASC 606.

3334

PART I - FINANCIAL INFORMATION

ITEM 2

MANAGEMENT’S DISCUSSION AND

ANALYSIS OF FINANCIAL CONDITION

AND RESULTS OF OPERATIONS

FORWARD-LOOKING STATEMENTS

This Form 10‑10-Q includes forward-looking statements that involve inherent risks and uncertainties. Words such as “expects”, “anticipates”, “believes”, “projects”, and “estimates” or variations of such words and similar expressions are intended to identify forward-looking statements. These statements are based on certain underlying assumptions and are not guarantees of future performance, as they could be impacted by a number of potential risks and developments that cannot be predicted with any degree of certainty. Therefore, actual outcomes and results may differ materially from what is expressed, forecast in, or implied by such forward-looking statements.

A variety of factors could have a material adverse impact on the Company’s financial condition or results of operations, and should be considered when evaluating the Company’s potential future financial performance. They include, but are not limited to, the risk of unfavorable economic conditions in the Company’s market areas; risks associated with the current national emergency with respect to COVID-19 including the impact that national, state, and local responses, including any stimulus or relief efforts, have on customers’ ability to repay loans; the ability for the Company to serve its customers with modified branch operations as well as social distancing guidelines and mandates under state and local stay-at-home orders; risks associated with fluctuations in interest rates;rates or a sustained low interest rate environment; liquidity risks; increases in nonperforming assets and credit losses that could occur, particularly in times of weak economic conditions or rising interest rates; reductions in the market value of available-for-sale securities that could result if interest rates increase substantially or an issuer has real or perceived financial difficulties; the Company’s ability to attract and retain skilled employees; the Company’s ability to successfully deploy new technology; the success of acquisitions or branch expansion; and risks associated with the multitude of current and prospective laws and regulations to which the Company is and will be subject. Risk factors that could cause actual results to differ materially from results that might be implied by forward-looking statements include the risk factors disclosed in the Company’s Form 10‑K10-K for the fiscal year ended December 31, 2018.2019 and in Item 1A, herein.

CRITICAL ACCOUNTING POLICIES

The Company’s financial statements are prepared in accordance with accounting principles generally accepted in the United States. The financial information and disclosures contained within those statements are significantly impacted by Management’s estimates and judgments, which are based on historical experience and incorporate various assumptions that are believed to be reasonable under current circumstances. Actual results may differ from those estimates under divergent conditions.

Critical accounting policies are those that involve the most complex and subjective decisions and assessments, and have the greatest potential impact on the Company’s stated results of operations. In Management’s opinion, the Company’s critical accounting policies deal with the following areas: the establishment of the allowance for loan and lease losses, as explained in detail in Note 11 to the consolidated financial statements and in the “Provision for Loan and Lease Losses” and “Allowance for Loan and Lease Losses” sections of this discussion and analysis; the valuation of impaired loans and foreclosed assets, as discussed in Note 11 to the consolidated financial statements; income taxes and related deferred tax assets and liabilities, especially with regard to the ability of the Company to recover deferred tax assets as discussed in the “Provision for Income Taxes” and “Other Assets” sections of this discussion and analysis; and goodwill and other intangible assets, which are evaluated annually for impairment and for which we have determined that no impairment exists, as discussed in the “Other Assets” section of this discussion and analysis. Critical accounting areas are evaluated on an ongoing basis to ensure that the Company’s financial statements incorporate our most recent expectations with regard to those areas.

3435

OVERVIEW OF THE RESULTS OF OPERATIONS

AND FINANCIAL CONDITION

RESULTS OF OPERATIONS SUMMARY

Second Quarter 20192020 compared to Second Quarter 20182019

Net income for the quarter ended June 30, 2019 was $8.829 million, an increase of $837,000, or 10%, relative toSecond Quarter 2020 net income of $7.992was $8.3 million, for the quarter ended June 30, 2018.  Basic andor $0.54 per diluted earningsshare, compared to $8.8 million, or $0.57 per diluted share forin the second quarter of 2019 were $0.58 and $0.57, respectively, compared to $0.52 basic and diluted earnings per share for the second quarter of 2018.2019. The Company’s annualized return on average equity was 12.27%10.30% and annualized return on average assets was 1.39%1.19% for the quarter ended June 30, 2019,2020, compared to 12.44%12.27% and 1.34%1.39%, respectively, for the same quarter ended June 30, 2018.in 2019. The primary drivers behind the variance in second quarter net income are as follows:

·

Net interest income increased by $1.399 million, or 6%, due to growth in average interest-earning assets totaling $151 million, or 7%, partially offset by a drop of three basis points in our net interest margin for the comparative quarters.  Organic growth in the average balance of real estate loans was the main factor in the increase in average earning assets.  Our net interest margin fell because the cost of interest-bearing liabilities increased more than our yield on interest-earning assets.

·

The Company’s provision for loan and lease losses was $400,000$2.2 million in the second quarter of 20192020 relative to $300,000$0.4 million in the secondsame quarter of 2018.

2019. The $1.8 million increase in provision for loan and lease losses is due mostly to the estimated impact that COVID-19 will have on the economy and our loan customers. Management adjusted its qualitative risk factors under our current incurred loss model for economic conditions, changes in the mix of the portfolio due to loans subject to a payment deferral, potential changes in collateral values due to reduced cash flows, and external factors such as government actions. In particular, the uncertainty regarding our customers' ability to repay loans could be adversely impacted by COVID-19 given higher unemployment rates, requests for payment deferrals, temporary business shut-downs, and reduced consumer and business spending.

·

Overall net interest income remained relatively unchanged as declines in loan yields were mostly offset by higher balances and lower interest expense.

Total

The $1.0 million favorable increase in noninterest income reflects an increase of $426,000, or 8%, despite a large drop in income generated by bank-owned life insurance (BOLI) associated with deferred compensation plans.  Noninterest income for the second quarter of 2019 includes a $232,000 nonrecurring gain resulting from the write up of certain restricted stock pursuantis due to a periodic assessment of its market value, and a $100,000 nonrecurring$0.7 million gain from the wrap-uptermination of a low-income housing tax credit fund investment.  It also reflects higher service charges on deposits and aninvestment, a $0.5 million increase in debit card interchange income.

·

Total noninterest expense increased by $362,000, or 2%.  Compensation costsbank-owned life insurance (BOLI) income, and occupancy expenses were roughly the same.  However, there was a $615,000 increase in net OREO expense which was largely driven by nonrecurring gains on$0.4 million gain from the sale of OREO that helped offset expenses in 2018.  That increase wasdebt securities. These increases were partially offset by a $152,000 drop in nonrecurring acquisition costs, and a $198,000$0.5 million decline in directors’customer service charges.

Noninterest expense increased by $0.4 million, or 2%, due mostly to higher deferred compensation costs for the quarterly comparison.

expense.

·

The Company’s provision for income taxes was 26.4% of pre-tax income in the second quarter of 2019 relative to 24.9% in the second quarter of 2018, with the increase resulting from a drop in non-taxable BOLI income and a declining level of tax credits relative to higher taxable income.

First Half 20192020 compared to First Half 20182019

Net income for the first half of 20192020 was $17.724 million, an increase of $3.022$16.1 million, or 21%, relative$1.05 per diluted share, compared to net income of $14.702$17.7 million, for the first half of 2018.  Basic andor $1.15 per diluted earnings per share for the first half of 2019 were $1.16 and $1.15, respectively, compared to $0.96 and $0.95 basic and diluted earnings per share, respectively, for the first half of 2018.2019. The Company’s annualized return on average equity was 12.62%10.14% and annualized return on average assets was 1.21% for the six months ended June 30, 2020, compared to a return on equity of 12.62% and return on assets of 1.41% for the six months ended June 30, 2019, compared to a return on equity of 11.53% and return on assets of 1.25% for the six months ended June 30, 2018.2019. The primary drivers behind the variance in year-to-date net income are as follows:

·

Net interest income was up by $3.612 million, or 8%, due to the positive impact of an increase of $155 million, or 7%, in average interest-earning assets and a 3 basis point increase in our net interest margin.

·

The Company recorded a $700,000Company’s provision for loan and lease losses was $4.0 million in the first half of 2019,2020 relative to a $500,000 provision in 2018.

35

·

Total noninterest income increased by $1.199$0.7 million or 11%.  The year-to-date variance includes the items noted above in the quarterly summary, except that BOLI income reflects an increase of $401,000 for the year-to-date variance instead of a decline.

·

Total noninterest expense increased by $328,000, or 1%.  As with the quarterly comparison, neither compensation costs nor occupancy expense increased materially but other noninterest expense was up by $259,000, or 2%.  The year-to-date variance in other noninterest expense includes a $407,000 increase in net OREO expense and a $156,000 increase in directors’ deferred compensation expense (related to the increase in BOLI income), partially offset by a $415,000 drop in nonrecurring acquisition costs.

·

The Company’s provision for income taxes was 25.3% of pre-tax income for the first half of 2019, relative to 24.4% for the same periodreasons outlined above in 2018.  The increase isthe quarterly comparison.

Net interest income was down by $0.2 million or 1% due primarily to higher pretax income andthe negative impact of a lower level of tax credits.

28 basis point decrease in net interest margin.
Noninterest income increased by $1.2 million, or 11%, due mostly to the changes described above.
Noninterest expense increased by $0.3 million or 1% primarily from increases in salaries and benefits but mitigated somewhat by decreases in FDIC assessments, directors deferred compensation expense and internal review costs.

FINANCIAL CONDITION SUMMARY

June 30, 20192020 relative to December 31, 20182019

The Company’s assets totaled $2.577$3.1 billion at June 30, 20192020 relative to $2.523$2.6 billion at December 31, 2018.  Total liabilities were $2.280 billion at June 30, 2019 compared to $2.249 billion at the end of 2018, and shareholders’ equity totaled $297 million at June 30, 2019 compared to $273 million at December 31, 2018.2019. The following provides a summary of key balance sheet changes during the first six months of 2019:2020:

36

·

The Company’s balance of cash and cash equivalentsdue from banks was down $6up by $76.5 million, or 9%96% from December 31, 2019, due to borrowing additional cash on June 30, 2020, for expected mortgage warehouse line utilization.

Securities available-for-sale were $599.3 million at June 30, 2020, a decrease of $1.5 million, or less than 1% from December 31, 2019. We sold approximately $20.3 million in certain debt securities during the first half of 2020 as an effort to restructure the portfolio, selling smaller-balance or variable rate SBA and FNMA bonds, as well as certain municipal securities with potential higher credit risk. These sales and normal principal paydowns were mostly offset by bond purchases and increases in unrealized fair value of the bond portfolio.
Net loans and leases increased $440.4 million, or 25%, during the first half of 2020 to $2.2 billion at June 30, 2020, due to a drop$205.2 million increase in cash itemsnon-agricultural real estate loans, $149.0 million increase in processmortgage warehouse line utilization, and a $106.0 million increase in commercial and industrial loans due mostly to new SBA Paycheck Protection Program (PPP) loans.
Nonperforming assets increased $2.2 million, to $8.7 million during the first half of collection and lower vault cash balances.

·

Gross loans increased by $46 million, or 3%,2020. This increase was mostly due to higher outstanding balances on mortgage warehouse lines and growth$2.1 million in agricultural loans.

·

Total nonperforming assets, consisting of non-accrual loans andnew foreclosed assets, were reduced by $1.348 million, or 22%, duefrom one commercial real estate credit. The single loan which moved to the impact of net loan charge-offs as well as our continued efforts to resolve OREO and nonperforming loan balances.  The Company’s ratio of nonperforming assets to total loans plus foreclosed assets was 0.27% at June 30, 2019 compared to 0.36% at December 31, 2018.

·

Other assets did not change materially, since the increase resulting from operating lease right-of-use assets booked at the beginning of 2019, pursuant to our adoption of FASB’s ASU 2016‑02, was largely offset by our first quarter 2019 collection of a receivable established at the end of 2018 for expected proceeds from the sale of a large foreclosed property.

·

Deposit balances reflect growth of $63 million, or 3%,other real estate owned during the first six months of 2019.  Core non-maturity2020, has a pending sale contract.

Total deposits reflected growth of $338.4 million, or 16%, during the first half 2020. Non-maturity deposits increased by $31$409.1 million or 2%25%, while customer time deposits increaseddeclined by $32$30.8 million or 7%.

Wholesale brokered deposits decreased by $40.0 million to $10.0 million. Noninterest bearing deposits as a percent of total deposits was 37.9% at June 30, 2020, as compared to 31.9% at December 31, 2019.

·

Other liabilitiesShort-term borrowings increased by $8$143.0 million or 30%, due in large part to the operating lease liability booked at the beginning of 2019 pursuant to our adoption of FASB’s ASU 2016‑02.

·

Junior subordinated debentures increased slightly from accretion of the discount on trust-preferred securities gained in the Coast acquisition, but other non-deposit borrowings were reduced by $40 million, or 55%.

·

Total capital of $297$163.0 million at June 30, 20192020. This increase was due to additional Federal Home Loan Bank (FHLB) overnight borrowings to fund expected increases in our mortgage warehouse line utilization at June 30, 2020. $10.0 million of these FHLB advances were “interest-free”, given to all member banks as part of the FHLB’s “Zero Interest Recovery Advance” program to provide immediate relief to property owners, businesses, and other customers struggling with the financial impacts of the pandemic.

Total shareholders’ equity of $327.4 million at June 30, 2020 reflects an increase of $24$18.1 million, or 9%6%, relative to year-end 20182019 due to capital from the addition of net income, and stock option exercises as well as an $11a $10.2 million positivefavorable swing in accumulated other comprehensive income,income/loss, stock options exercised, net of $5.5$6.1 million in dividends paid.  There were no sharepaid and $2.6 million in stock repurchases executedprior to March 15, 2020.

IMPACT OF CORONAVIRUS DISEASE 2019 (COVID-19) PANDEMIC ON THE COMPANY’S OPERATIONS

Overview

On January 31, 2020, the United States Department of Health and Human Services declared a public health emergency with respect to the Coronavirus Disease 2019 (COVID-19). Subsequent to this date, federal, state, and local governmental agencies, regulatory agencies, and the Federal Reserve Board took actions impacting the Company including these more significant items:

On March 3, 2020, the Federal Open Market Committee (FOMC) of the Federal Reserve Board lowered the federal funds rate by 50 basis points in its first emergency move since October 2008.
On March 4, 2020, the Governor of the state of California declared a state of emergency to help make additional resources available and formalize emergency actions to address COVID-19.
On March 6, 2020, the Federal Financial Institutions Examination Council (FFIEC) issued guidance to financial institutions reminding them to include pandemic planning in business continuity plans.
Starting on March 9, 2020, the Board of Governors of the Federal Reserve System, Consumer Financial Protection Bureau, Federal Deposit Insurance Corporation, National Credit Union Administration, Office of the

37

Comptroller of the Currency, and Conference of State Bank Supervisors began issuing various Interagency Guidance Statements to encourage financial institutions to meet the financial needs of customers affected by the Coronavirus.
On March 11, 2020, the World Health Organization declared COVID-19 a pandemic.
On March 15, 2020, the FOMC of the Federal Reserve Board lowered the federal funds rate by 100 basis points in its second emergency move in two weeks, this time on a Sunday. In addition, the FOMC announced that it would let banks borrow from the discount window for up to 90 days, reduced the reserve requirement ratios to zero percent, united with five other central banks to ensure dollars are available via swap lines, and increased bond holdings by at least $700 billion.
Effective March 20, 2020, the state of California ordered the closure of all non-essential workplaces, restricting non-essential travel, and ordering a state-wide shelter-in-place order. This was followed by extensions of these orders in April and many local municipalities in which the Company operates issued orders mandating additional requirements to protect their citizens. Although many counties in California began phased reopening plans, due to recent increases in cases effective July 13, 2020, the Governor ordered that dine-in restaurants, wineries and tasting rooms, movie theaters, family entertainment centers, zoos and museums, and cardrooms immediately close all indoor operations. Further limitations apply to counties that have been on County Monitoring List for 3 consecutive days.
On March 22, 2020, the federal financial institution regulatory agencies (the agencies) issued guidance to financial institutions to suspend the requirements to classify certain loan modifications as troubled debt restructurings (TDRs). The guidance was subsequently modified on April 7, 2020 to conform with Section 4013 of the Coronavirus Aid, Relief and Economic Security (CARES) Act.
On March 27, 2020, the CARES Act was enacted by Congress and signed into law by the President to address the impact of the COVID-19 on the economy. Among other things, the CARES Act provided banking institutions with the option of deferring the implementation of the Current Expected Credit Loss (“CECL”) accounting method under Financial Accounting Standards Board (FASB) Accounting Standards Update 2016-13 and related amendments, Financial Instruments – Credit Losses (Topic 326) until later in 2020; confirmed that certain loan modifications would not be treated as a TDR; authorized the Small Business Administration to create the Paycheck Protection Program (PPP) which allows banking institutions to offer a certain amount of forgivable loans to primarily assist with funding payroll for small businesses; and provides a temporary reduction to the minimum ratio under the Community Bank Leverage Ratio framework.

Impact of COVID-19 on the Company’s Operations

The Company has not yet experienced any increase in classified assets or nonperforming assets as a result of COVID-19. Further, we have not experienced any charge-offs as a result of COVID-19. However, the Company has taken actions to mitigate the impact on credit losses including permitting short-term payment deferrals to current customers, as well as providing bridge loans and SBA Paycheck Protection Program (PPP) loans. For further information on the principal and interest deferrals, please see the “Nonperforming Assets” section below. However, the change in economic conditions had a material impact on our provision for loan and lease losses. The Company elected under Section 4014 of the CARES Act to defer the implementation of CECL until the earlier of when the national emergency related to the outbreak of COVID-19 ends or December 31, 2020. Although this deferral will still require CECL to be implemented as of January 1, 2020, the Company believes that the deferral will provide time to better assess the impact of the COVID-19 pandemic on the expected lifetime credit losses. The most significant unknown factor is how long economic activity will be impacted by COVID-19, and in turn how deeply that will impact the markets in which we operate. Therefore, more time is needed to assess the impact of this economic uncertainty and related actions taken such as the stimulus provisions of the CARES Act on the Company’s allowance for loan and lease losses under the CECL methodology. It is anticipated that if economic conditions do not improve, in future quarters of 2020, the provision for loan and lease losses could be at the same or higher level as that booked in the first half of 2020.

38

In addition to the expected increase in provision for loan losses, the Company expects that net interest income will be reduced due to a lower net interest margin as a result of the FOMC’s emergency rate cuts in March 2020. For example, our net interest margin for the six months ended June 30, 2020, was 3.97%, compared to a net interest margin of 4.25% for the same period in 2019. New loans booked in 2020 will be at lower rates and although deposit costs will also decline, deposit costs were already low or at their floors prior to these interest rate cuts. Further, it is expected that the stay-at-home order and record unemployment resulting from the COVID-19 pandemic will reduce consumer spending which will reduce our fee income, primarily from debit and credit card interchange fees. It’s also expected that the Company will offer concessions or certain fee waivers to consumers adversely affected by COVID-19. These actions will likely result in lower deposit service charge income in future periods as compared to 2019.
The COVID-19 pandemic has not adversely affected our capital or financial resources. During the first half of 2020, total shareholders’ equity increased by $18.1 million, or 6%, to $327.4 million. The largest component of this was a $10.2 million increase in accumulated other comprehensive income as a result of increases in the value of our investment portfolio due to lower interest rates. If interest rates rise, this component of equity would be expected to decline. In addition, the Company earned $16.1 million in net income in the first half of 2020 and paid dividends of $6.1 million. The Company also declared a twenty cent per share dividend to be paid on August 13, 2020. Although presently not expected, if the Company were to incur significant credit losses as a result of COVID-19’s impact on our customers’ ability to repay loans, capital could be adversely impacted. With respect to liquidity, the Company maintains strong primary and secondary liquidity sources as further described under “Liquidity and Market Risk Management” below.
While we do not expect COVID-19 to affect our ability to account timely for the assets on our balance sheet, this could change in future periods. Certain valuation assumptions and judgments continue to change to account for pandemic-related circumstances such as widening credit spreads. However, we do not anticipate any significant changes in methodology used to determine the fair value of assets measured in accordance with GAAP. As of June 30, 2020, our goodwill was not impaired. The Company performed a qualitative assessment of its goodwill during the first six monthsand second quarters of 2019.

2020 and concluded that it was not more likely than not that a goodwill impairment exists. The Company will continue to monitor its goodwill recorded on the balance sheet for potential impairment. In the event that we conclude that all or a portion of our goodwill is impaired, a non-cash charge for the amount of such impairment would be recorded to earnings. At June 30, 2020, we had goodwill of $27.4 million which represented 8% of total equity.
The Company continues to serve its customers. Out of our 40 branch locations, five are open with limited lobby hours, while 12 branches have limited lobby hours and a drive-up or walk-up facility. 19 branches are open for drive-up or walk-up only and four branches are currently closed except by appointment. 56% of our back-office and corporate employees are working remotely and it has not adversely affected our operations. In addition, none of our internal controls have changed or are expected to change as a result of the remote work arrangements other than the use of remote approvals. The Company is prepared to continue operating in this manner until it is safe to begin bringing those working remotely back to our corporate offices and branches.
To date, the Company did not experience any challenges in implementing its business continuity plans. The Company’s Risk Management team began preparing in late January and early February with ordering of supplies such as hand sanitizer, masks and cleaning supplies, as well as laptops for those who did not have one. This enabled the Company to immediately communicate and implement plans to continue operations in our banking facilities while enabling those non-customer facing employees to immediately begin working remotely. The Company did not face any material resource constraints in implementing these plans.
As a financial institution providing essential services, the Company expects continued demand for loans and deposits. As described above, it is expected that certain services may see declines in demand such as debit and credit card interchange given lower consumer spending. While overall net income is expected to decline, it presently is more a function of the interest rate environment than a change in overall demand for loan and deposit products.

39

The Company loosened its vacation and sick-time policies to accommodate our employees who were affected by COVID-19. The Company has not had any temporary or permanent reductions in staff as a result of COVID-19.

EARNINGS PERFORMANCE

The Company earns income from two primary sources. The first is net interest income, which is interest income generated by earning assets less interest expense on deposits and other borrowed money. The second is noninterest income, which primarily consists of customer service charges and fees but also comes from non-customer sources such

36

as bank-owned life insurance. The majority of the Company’s noninterest expense is comprised of operating costs that facilitate offering a broad range of banking services to our customers.

NET INTEREST INCOME AND NET INTEREST MARGIN

Net interest income increased by $1.399was relatively unchanged at $24.1 million or 6%, for the second quarter of 2019 relative2020, as compared to the second quarter of 2018,2019 and decreased by $3.612$0.2 million, or 8%,1% to $47.9 million for the first six months of 20192020 in comparison to the first six months of 2018.2019. The slight decrease in net interest income for the first six months of 2020 as compared to the same period in 2019 is due to a lower net interest margin, partially offset by an increase in average earning assets. The level of net interest income we recognize in any given period depends on a combination of factors including the average volume and yield for interest-earning assets, the average volume and cost of interest-bearing liabilities, and the mix of products which comprise the Company’s earning assets, deposits, and other interest-bearing liabilities.  Net interest income can also be impacted by nonrecurring items, as discussed in greater detail below.

The following tables show average balances for significant balance sheet categories and the amount of interest income or interest expense associated with each category for the noted periods. The tables also display calculated yields on each major component of the Company’s investment and loan portfolios, average rates paid on each key segment of the Company’s interest-bearing liabilities, and our net interest margin for the noted periods.

3740

Average Balances and Rates

(dollars in thousands, unaudited)

For the three months ended

For the three months ended

June 30, 2020

June 30, 2019

Assets

    

Average
Balance 
(1)

    

Income/
Expense

    

Average
Rate/Yield 
(2)

    

Average
Balance 
(1)

    

Income/
Expense

    

Average
Rate/Yield 
(2)

Investments:

Federal funds sold/due from time

$

53,209

$

12

0.09%

$

18,795

    

$

115

2.45%

Taxable

403,517

2,250

2.24%

    

425,498

2,591

2.44%

Non-taxable

216,746

1,440

3.38%

149,555

1,072

3.64%

Total investments

673,472

3,702

2.44%

593,848

3,778

2.74%

Loans and leases:(3)

    

Real estate

1,477,380

18,355

5.00%

1,459,871

20,098

5.52%

Agricultural

47,806

452

3.80%

51,285

793

6.20%

Commercial

170,876

1,080

2.54%

120,081

1,537

5.13%

Consumer

6,667

225

13.57%

8,661

292

13.52%

Mortgage warehouse lines

206,669

1,532

2.98%

98,249

1,239

5.06%

Other

2,811

39

5.58%

3,426

51

5.97%

Total loans and leases

1,912,209

21,683

4.56%

1,741,573

24,010

5.53%

Total interest earning assets (4)

    

2,585,681

25,385

4.01%

2,335,421

27,788

4.82%

Other earning assets

13,190

12,505

Non-earning assets

207,623

204,491

Total assets

$

2,806,494

$

2,552,417

Liabilities and shareholders' equity

Interest bearing deposits:

Demand deposits

$

134,159

$

71

0.21%

$

120,018

$

88

0.29%

NOW

481,679

83

0.07%

437,040

134

0.12%

Savings accounts

327,833

46

0.06%

289,767

77

0.11%

Money market

125,594

31

0.10%

123,482

43

0.14%

Certificates of deposit, under $100,000

77,888

71

0.37%

90,258

289

1.28%

Certificates of deposit, $100,000 or more

364,874

554

0.61%

399,228

2,178

2.19%

Brokered deposits

19,890

37

0.75%

47,890

284

2.38%

Total interest bearing deposits

1,531,917

893

0.23%

1,507,683

3,093

0.82%

Borrowed funds:

Federal funds purchased

3

3

Repurchase agreements

34,217

34

0.40%

21,698

21

0.39%

Short term borrowings

11,716

5

0.17%

845

5

2.37%

TRUPS

35,009

311

3.57%

34,830

470

5.41%

Total borrowed funds

80,945

350

1.74%

57,376

496

3.47%

Total interest bearing liabilities

1,612,862

1,243

0.31%

1,565,059

3,589

0.92%

Demand deposits - non-interest bearing

830,333

655,136

Other liabilities

39,155

43,550

Shareholders' equity

324,144

288,672

Total liabilities and shareholders' equity

$

2,806,494

$

2,552,417

Interest income/interest earning assets

4.01%

4.82%

Interest expense/interest earning assets

0.20%

0.61%

Net interest income and margin(5)

$

24,142

3.81%

$

24,199

4.21%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

For the three months ended

 

For the three months ended

 

 

June 30, 2019

 

June 30, 2018

Assets

    

Average
Balance 
(1)

    

Income/
Expense

    

Average
Rate/Yield 
(2)

    

Average
Balance 
(1)

    

Income/
Expense

    

Average
Rate/Yield 
(2)

Investments:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Federal funds sold/due from time

 

$

18,795

 

$

115

 

2.45%

 

$

13,080

    

$

61

 

1.87%

Taxable

 

 

425,498

 

 

2,591

 

2.44%

    

 

424,446

 

 

2,300

 

2.17%

Non-taxable

 

 

149,555

 

 

1,072

 

3.64%

 

 

141,224

 

 

1,018

 

3.66%

Total investments

 

 

593,848

 

 

3,778

 

2.74%

 

 

578,750

 

 

3,379

 

2.53%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Loans and leases:(3)

 

 

 

    

 

 

 

 

 

 

 

 

 

 

 

 

Real estate

 

 

1,459,871

 

 

20,098

 

5.52%

 

 

1,325,251

 

 

17,800

 

5.39%

Agricultural

 

 

51,285

 

 

793

 

6.20%

 

 

53,867

 

 

753

 

5.61%

Commercial

 

 

120,081

 

 

1,537

 

5.13%

 

 

124,320

 

 

1,489

 

4.80%

Consumer

 

 

8,661

 

 

292

 

13.52%

 

 

9,760

 

 

297

 

12.21%

Mortgage warehouse lines

 

 

98,249

 

 

1,239

 

5.06%

 

 

89,633

 

 

1,126

 

5.04%

Other

 

 

3,426

 

 

51

 

5.97%

 

 

2,503

 

 

39

 

6.25%

Total loans and leases

 

 

1,741,573

 

 

24,010

 

5.53%

 

 

1,605,334

 

 

21,504

 

5.37%

Total interest earning assets (4)

    

 

2,335,421

 

 

27,788

 

4.82%

 

 

2,184,084

 

 

24,883

 

4.62%

Other earning assets

 

 

12,505

 

 

 

 

 

 

 

10,436

 

 

 

 

 

Non-earning assets

 

 

204,491

 

 

 

 

 

 

 

205,446

 

 

 

 

 

Total assets

 

$

2,552,417

 

 

 

 

 

 

$

2,399,966

 

 

 

 

 

Liabilities and shareholders' equity

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest bearing deposits:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Demand deposits

 

$

120,018

 

$

88

 

0.29%

 

$

139,546

 

$

109

 

0.31%

NOW

 

 

437,040

 

 

134

 

0.12%

 

 

422,619

 

 

116

 

0.11%

Savings accounts

 

 

289,767

 

 

77

 

0.11%

 

 

301,528

 

 

80

 

0.11%

Money market

 

 

123,482

 

 

43

 

0.14%

 

 

153,143

 

 

37

 

0.10%

Certificates of deposit, under $100,000

 

 

90,258

 

 

289

 

1.28%

 

 

81,419

 

 

136

 

0.67%

Certificates of deposit, $100,000 or more

 

 

399,228

 

 

2,178

 

2.19%

 

 

299,359

 

 

1,116

 

1.50%

Brokered deposits

 

 

47,890

 

 

284

 

2.38%

 

 

 —

 

 

 —

 

 —

Total interest bearing deposits

 

 

1,507,683

 

 

3,093

 

0.82%

 

 

1,397,614

 

 

1,594

 

0.46%

Borrowed funds:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Federal funds purchased

 

 

 3

 

 

 —

 

 —

 

 

 7

 

 

 —

 

 —

Repurchase agreements

 

 

21,698

 

 

21

 

0.39%

 

 

15,727

 

 

16

 

0.41%

Short term borrowings

 

 

845

 

 

 5

 

2.37%

 

 

7,985

 

 

37

 

1.86%

TRUPS

 

 

34,830

 

 

470

 

5.41%

 

 

34,651

 

 

436

 

5.05%

Total borrowed funds

 

 

57,376

 

 

496

 

3.47%

 

 

58,370

 

 

489

 

3.36%

Total interest bearing liabilities

 

 

1,565,059

 

 

3,589

 

0.92%

 

 

1,455,984

 

 

2,083

 

0.57%

Demand deposits - noninterest bearing

 

 

655,136

 

 

 

 

 

 

 

656,486

 

 

 

 

 

Other liabilities

 

 

43,550

 

 

 

 

 

 

 

29,786

 

 

 

 

 

Shareholders' equity

 

 

288,672

 

 

 

 

 

 

 

257,710

 

 

 

 

 

Total liabilities and shareholders' equity

 

$

2,552,417

 

 

 

 

 

 

$

2,399,966

 

 

 

 

 

Interest income/interest earning assets

 

 

 

 

 

 

 

4.82%

 

 

 

 

 

 

 

4.62%

Interest expense/interest earning assets

 

 

 

 

 

 

 

0.61%

 

 

 

 

 

 

 

0.38%

Net interest income and margin(5)

 

 

 

 

$

24,199

 

4.21%

 

 

 

 

$

22,800

 

4.24%

(1)

(1)

Average balances are obtained from the best available daily or monthly data and are net of deferred fees and related direct costs.

(2)

(2)

Yields and net interest margin have been computed on a tax equivalent basis utilizing a 21% effective tax rate.

(3)

(3)

Loans are gross of the allowance for possible loan losses. Loan fees have been included in the calculation of interest income. Net loan fees and loan acquisition FMV amortization were $(186)$(237) thousand and $324$(186) thousand for the quarters ended June 30, 2020 and 2019, and 2018, respectively.

(4)

(4)

Non-accrual loans have been included in total loans for purposes of computing total earning assets.

(5)

(5)

Net interest margin represents net interest income as a percentage of average interest-earning assets.

3841

Average Balances and Rates

(dollars in thousands, unaudited)

For the six months ended

For the six months ended

June 30, 2020

June 30, 2019

Assets

Average
Balance 
(1)

Income/
Expense

Average
Rate/Yield 
(2)

Average
Balance 
(1)

Income/
Expense

Average
Rate/Yield 
(2)

Investments:

Federal funds sold/due from time

$

45,166

$

153

0.68%

$

15,152

$

188

2.50%

Taxable

406,054

4,710

2.33%

422,217

5,207

2.49%

Non-taxable

206,218

2,778

3.42%

145,962

2,117

3.70%

Total investments

657,438

7,641

2.56%

583,331

7,512

2.79%

Loans and leases:(3)

Real estate

1,436,145

37,079

5.19%

1,462,061

40,198

5.54%

Agricultural

48,169

1,035

4.32%

50,919

1,573

6.23%

Commercial

139,287

2,176

3.14%

121,332

3,116

5.18%

Consumer

7,124

593

16.74%

8,689

606

14.06%

Mortgage warehouse lines

175,645

2,797

3.20%

80,782

2,166

5.41%

Other

4,027

116

5.79%

3,268

100

6.17%

Total loans and leases

1,810,397

43,796

4.86%

1,727,051

47,759

5.58%

Total interest earning assets (4)

2,467,835

51,437

4.25%

2,310,382

55,271

4.87%

Other earning assets

13,015

12,094

Non-earning assets

202,265

207,038

Total assets

$

2,683,115

$

2,529,514

Liabilities and shareholders' equity

Interest bearing deposits:

Demand deposits

$

111,445

$

134

0.24%

$

109,692

$

160

0.29%

NOW

469,133

205

0.09%

437,124

260

0.12%

Savings accounts

312,777

119

0.08%

288,776

151

0.11%

Money market

121,421

74

0.12%

126,070

84

0.13%

Certificates of deposit, under $100,000

79,370

205

0.52%

90,301

567

1.27%

Certificates of deposit, $100,000 or more

372,286

1,786

0.96%

390,637

4,216

2.18%

Brokered deposits

30,357

204

1.35%

48,939

610

2.51%

Total interest bearing deposits

1,496,789

2,727

0.37%

1,491,539

6,048

0.82%

Borrowed funds:

Federal funds purchased

3

560

Repurchase agreements

30,850

61

0.40%

19,500

39

0.40%

Short term borrowings

8,831

14

0.32%

4,463

58

2.62%

TRUPS

34,986

706

4.06%

34,806

954

5.53%

Total borrowed funds

74,670

781

2.10%

59,329

1,051

3.57%

Total interest bearing liabilities

1,571,459

3,508

0.45%

1,550,868

7,099

0.92%

Demand deposits - non-interest bearing

754,463

654,029

Other liabilities

37,687

41,363

Shareholders' equity

319,506

283,254

Total liabilities and shareholders' equity

$

2,683,115

$

2,529,514

Interest income/interest earning assets

4.25%

4.87%

Interest expense/interest earning assets

0.28%

0.62%

Net interest income and margin(5)

$

47,929

3.97%

$

48,172

4.25%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Average Balances and Rates

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(dollars in thousands, unaudited)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

For the six months ended

 

 

For the six months ended

 

 

June 30, 2019

 

 

June 30, 2018

Assets

 

Average
Balance 
(1)

 

Income/
Expense

 

Average
Rate/Yield 
(2)

 

Average
Balance 
(1)

 

Income/
Expense

 

Average
Rate/Yield 
(2)

Investments:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Federal funds sold/due from time

 

$

15,152

 

$

188

 

2.50%

 

$

21,730

 

$

180

 

1.67%

Taxable

 

 

422,217

 

 

5,207

 

2.49%

 

 

424,760

 

 

4,638

 

2.20%

Non-taxable

 

 

145,962

 

 

2,117

 

3.70%

 

 

141,399

 

 

2,034

 

3.67%

Total investments

 

 

583,331

 

 

7,512

 

2.79%

 

 

587,889

 

 

6,852

 

2.54%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Loans and leases:(3)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Real estate

 

 

1,462,061

 

 

40,198

 

5.54%

 

 

1,290,119

 

 

34,444

 

5.38%

Agricultural

 

 

50,919

 

 

1,573

 

6.23%

 

 

52,009

 

 

1,411

 

5.47%

Commercial

 

 

121,332

 

 

3,116

 

5.18%

 

 

125,810

 

 

2,869

 

4.60%

Consumer

 

 

8,689

 

 

606

 

14.06%

 

 

10,125

 

 

590

 

11.75%

Mortgage warehouse lines

 

 

80,782

 

 

2,166

 

5.41%

 

 

86,508

 

 

2,103

 

4.90%

Other

 

 

3,268

 

 

100

 

6.17%

 

 

2,756

 

 

91

 

6.66%

Total loans and leases

 

 

1,727,051

 

 

47,759

 

5.58%

 

 

1,567,327

 

 

41,508

 

5.34%

Total interest earning assets (4)

 

 

2,310,382

 

 

55,271

 

4.87%

 

 

2,155,216

 

 

48,360

 

4.58%

Other earning assets

 

 

12,094

 

 

 

 

 

 

 

10,316

 

 

 

 

 

Non-earning assets

 

 

207,038

 

 

 

 

 

 

 

203,433

 

 

 

 

 

Total assets

 

$

2,529,514

 

 

 

 

 

 

$

2,368,965

 

 

 

 

 

Liabilities and shareholders' equity

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest bearing deposits:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Demand deposits

 

$

109,692

 

$

160

 

0.29%

 

$

128,250

 

$

197

 

0.31%

NOW

 

 

437,124

 

 

260

 

0.12%

 

 

415,946

 

 

233

 

0.11%

Savings accounts

 

 

288,776

 

 

151

 

0.11%

 

 

297,644

 

 

155

 

0.11%

Money market

 

 

126,070

 

 

84

 

0.13%

 

 

158,951

 

 

79

 

0.10%

Certificates of deposit, under $100,000

 

 

90,301

 

 

567

 

1.27%

 

 

81,558

 

 

244

 

0.60%

Certificates of deposit, $100,000 or more

 

 

390,637

 

 

4,216

 

2.18%

 

 

296,704

 

 

2,004

 

1.36%

Brokered deposits

 

 

48,939

 

 

610

 

2.51%

 

 

 —

 

 

 —

 

 —

Total interest bearing deposits

 

 

1,491,539

 

 

6,048

 

0.82%

 

 

1,379,053

 

 

2,912

 

0.43%

Borrowed funds:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Federal funds purchased

 

 

560

 

 

 —

 

 —

 

 

 8

 

 

 —

 

 —

Repurchase agreements

 

 

19,500

 

 

39

 

0.40%

 

 

12,783

 

 

25

 

0.39%

Short term borrowings

 

 

4,463

 

 

58

 

2.62%

 

 

4,484

 

 

41

 

1.84%

TRUPS

 

 

34,806

 

 

954

 

5.53%

 

 

34,628

 

 

822

 

4.79%

Total borrowed funds

 

 

59,329

 

 

1,051

 

3.57%

 

 

51,903

 

 

888

 

3.45%

Total interest bearing liabilities

 

 

1,550,868

 

 

7,099

 

0.92%

 

 

1,430,956

 

 

3,800

 

0.54%

Demand deposits - noninterest bearing

 

 

654,029

 

 

 

 

 

 

 

650,041

 

 

 

 

 

Other liabilities

 

 

41,363

 

 

 

 

 

 

 

30,855

 

 

 

 

 

Shareholders' equity

 

 

283,254

 

 

 

 

 

 

 

257,113

 

 

 

 

 

Total liabilities and shareholders' equity

 

$

2,529,514

 

 

 

 

 

 

$

2,368,965

 

 

 

 

 

Interest income/interest earning assets

 

 

 

 

 

 

 

4.87%

 

 

 

 

 

 

 

4.58%

Interest expense/interest earning assets

 

 

 

 

 

 

 

0.62%

 

 

 

 

 

 

 

0.36%

Net interest income and margin(5)

 

 

 

 

$

48,172

 

4.25%

 

 

 

 

$

44,560

 

4.22%


(1)

(1)

Average balances are obtained from the best available daily or monthly data and are net of deferred fees and related direct costs.

(2)

(2)

Yields and net interest margin have been computed on a tax equivalent basis utilizing a 21% effective tax rate.

(3)

(3)

Loans are gross of the allowance for possible loan losses. Loan fees have been included in the calculation of interest income. Net loan fees and loan acquisition FMV amortization were $(177)$(377) thousand and $463$(177) thousand for the six months ended June 30, 2020 and 2019, and 2018, respectively.

(4)

(4)

Non-accrual loans have been included in total loans for purposes of computing total earning assets.

(5)

(5)

Net interest margin represents net interest income as a percentage of average interest-earning assets.

3942

The Volume and Rate Variances table below sets forth the dollar difference for the comparative periods in interest earned or paid for each major category of interest-earning assets and interest-bearing liabilities, and the amount of such change attributable to fluctuations in average balances (volume) or differences in average interest rates. Volume variances are equal to the increase or decrease in average balances multiplied by prior period rates, and rate variances are equal to the change in rates multiplied by prior period average balances. Variances attributable to both rate and volume changes, calculated by multiplying the change in rates by the change in average balances, have been allocated to the rate variance.

Volume & Rate Variances

(dollars in thousands, unaudited)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three months ended June 30,

 

Six months ended June 30,

 

2019 over 2018

 

2019 over 2018

 

Increase (decrease) due to

 

    Increase (decrease) due to

Three months ended June 30,

Six months ended June 30,

2020 over 2019

2020 over 2019

Increase (decrease) due to

Increase (decrease) due to

Assets:

    

Volume

    

Rate

    

Net

 

Volume

 

Rate

 

Net

    

Volume

    

Rate

    

Net

Volume

Rate

Net

Investments:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Federal funds sold/due from time

    

$

27

    

$

27

    

$

54

 

$

(54)

 

$

62

 

$

 8

    

$

211

    

$

(314)

    

$

(103)

$

372

$

(407)

$

(35)

Taxable

 

 

 6

 

 

285

 

 

291

 

 

(28)

 

 

597

 

 

569

(134)

(207)

(341)

(199)

(298)

(497)

Non-taxable

 

 

60

 

 

(6)

 

 

54

 

 

66

 

 

17

 

 

83

482

(114)

368

874

(213)

661

Total investments

 

 

93

 

 

306

 

 

399

 

 

(16)

 

 

676

 

 

660

559

(635)

(76)

1,047

(918)

129

Loans and leases:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Real estate

 

 

1,808

 

 

490

 

 

2,298

 

 

4,591

 

 

1,163

 

 

5,754

241

(1,984)

(1,743)

(713)

(2,406)

(3,119)

Agricultural

 

 

(36)

 

 

76

 

 

40

 

 

(30)

 

 

192

 

 

162

(54)

(287)

(341)

(85)

(453)

(538)

Commercial

 

 

(51)

 

 

99

 

 

48

 

 

(102)

 

 

349

 

 

247

650

(1,107)

(457)

461

(1,401)

(940)

Consumer

 

 

(33)

 

 

28

 

 

(5)

 

 

(84)

 

 

100

 

 

16

(67)

(67)

(109)

96

(13)

Mortgage warehouse

 

 

108

 

 

 5

 

 

113

 

 

(139)

 

 

202

 

 

63

1,367

(1,074)

293

2,544

(1,913)

631

Other

 

 

14

 

 

(2)

 

 

12

 

 

17

 

 

(8)

 

 

 9

(9)

(3)

(12)

23

(7)

16

Total loans and leases

 

 

1,810

 

 

696

 

 

2,506

 

 

4,253

 

 

1,998

 

 

6,251

2,128

(4,455)

(2,327)

2,121

(6,084)

(3,963)

Total interest earning assets

 

$

1,903

 

$

1,002

 

$

2,905

 

$

4,237

 

$

2,674

 

$

6,911

$

2,687

$

(5,090)

$

(2,403)

$

3,168

$

(7,002)

$

(3,834)

Liabilities

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest bearing deposits:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Demand deposits

 

$

(15)

 

 

(6)

 

$

(21)

 

$

(29)

 

$

(8)

 

$

(37)

$

10

(27)

$

(17)

$

3

$

(29)

$

(26)

NOW

 

 

 4

 

 

14

 

 

18

 

 

12

 

 

15

 

 

27

14

(65)

(51)

19

(74)

(55)

Savings accounts

 

 

(3)

 

 

 —

 

 

(3)

 

 

(5)

 

 

 1

 

 

(4)

10

(41)

(31)

13

(45)

(32)

Money market

 

 

(7)

 

 

13

 

 

 6

 

 

(16)

 

 

21

 

 

 5

1

(13)

(12)

(3)

(7)

(10)

Certificates of deposit, under $100,000

 

 

15

 

 

138

 

 

153

 

 

26

 

 

297

 

 

323

(40)

(178)

(218)

(69)

(293)

(362)

Certificates of deposit, $100,000 or more

 

 

372

 

 

690

 

 

1,062

 

 

634

 

 

1,578

 

 

2,212

(187)

(1,437)

(1,624)

(198)

(2,232)

(2,430)

Brokered deposits

 

 

 —

 

 

284

 

 

284

 

 

 —

 

 

610

 

 

610

(166)

(81)

(247)

(232)

(174)

(406)

Total interest bearing deposits

 

 

366

 

 

1,133

 

 

1,499

 

 

622

 

 

2,514

 

 

3,136

(358)

(1,842)

(2,200)

(467)

(2,854)

(3,321)

Borrowed funds:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Repurchase agreements

 

 

 6

 

 

(1)

 

 

 5

 

 

13

 

 

 1

 

 

14

12

1

13

23

(1)

22

Short term borrowings

 

 

(33)

 

 

 1

 

 

(32)

 

 

 —

 

 

17

 

 

17

53

(53)

44

(88)

(44)

TRUPS

 

 

 2

 

 

32

 

 

34

 

 

 4

 

 

128

 

 

132

2

(161)

(159)

5

(253)

(248)

Total borrowed funds

 

 

(25)

 

 

32

 

 

 7

 

 

17

 

 

146

 

 

163

67

(213)

(146)

72

(342)

(270)

Total interest bearing liabilities

 

 

341

 

 

1,165

 

 

1,506

 

 

639

 

 

2,660

 

 

3,299

(291)

(2,055)

(2,346)

(395)

(3,196)

(3,591)

Net interest income

 

$

1,562

 

$

(163)

 

$

1,399

 

$

3,598

 

$

14

 

$

3,612

$

2,978

$

(3,035)

$

(57)

$

3,563

$

(3,806)

$

(243)

The volume variance calculated for the second quarter of 20192020 relative to the second quarter of 20182019 was a favorable $1.562$3.0 million due to an increase of $151 million, or 7%, in thehigher average balancebalances of interest-earning assets, resulting from organic growth in commercial real estate loans, and a $15 million increasegrowth in commercial loans due to our participation in the average balanceSBA PPP program and higher utilization of investments.mortgage warehouse lines. Given the low rate environment, loan demand for our mortgage warehouse lines have increased, as demonstrated by the $1.4 million favorable volume variance. There was an unfavorable rate variance of $163,000$3.0 million for the comparative quarters, since the weighted average cost of interest-bearing liabilities increasedyield on interest-earning assets fell by 3581 basis points while the weighted average yield on interest-earning assets was upcost of interest-bearing liabil­ities decreased by only 2061 basis points. The comparative results can also berate variance was negatively impacted by nonrecurring interest items such as interest recoveries on non-accrualthe following factors: A shift in our earning asset mix into lower-yielding loans interest reversals for loans placed on non-accrual status, accelerated fee recognition and prepayment penalties for premature loan payoffs, and late fees.  Nonrecurring items added $65,000 to interest income in the second quarter of

4043

2019 relative to $126,000investments; increased line utilization of mortgage warehouse lines, $116.2 million in the second quarter of 2018.  With regard to yield and rate increases, loan yields have generally risen due to the impact of higher short-term index rates on variable-rate loans and a relatively large volume of new fixed-rate and adjustable-rate loans booked at higher interest rates, although those increases werelow-yielding SBA PPP loans; partially offset by lower costs of time-deposits and other interest-bearing liabilities. The average fees on the impactSBA PPP loans was approximately 4.0%. These fees, net of competitive forces as well as a drop in discount accretion on acquisition loans.  Investment yields have increased in response to principal reinvested in what has been a rising interest rate environment for muchloan costs, are being accreted over the stated life of the past few years.  Rates paid on non-maturity deposits increased slightlyloan (generally two years), net of loan costs. Our customers with an SBA PPP loan are generally eligible to apply for loan forgiveness after 26 weeks. If a loan is forgiven, upon repayment of principal and interest by the comparative periods, but the weighted average costSBA, any unaccreted fee income, net of interest-bearing liabilities went up primarily because of the addition of brokered deposits, and in response to higher rates paid on time deposits and adjustable-rate trust-preferred securities (“TRUPS”).

The Company’s net interest margin, which is tax-equivalent netunamortized costs, would be recognized as interest income as a percentage of average interest-earning assets, was affected by the same factors discussed above relative to rate andat such time.

The volume variances.  Our net interest margin was 4.21% in the second quarter of 2019, down three basis points relative to the second quarter of 2018.  The drop in discount accretion on loans from whole-bank acquisitions had a significant impact, enhancing our net interest margin by only five basis points in the second quarter of 2019 as compared to 11 basis points in the second quarter of 2018.

Net interest income invariance calculated for the first six months of 20192020 relative to the first six months of 20182019 reflects a favorable variance of $3.598$3.6 million attributable toand an unfavorable rate variance of $3.8 million. As with the discussion of the volume changes, and a small favorable rate variance.  The volume variancevariances for the halfquarter, the same is true for the half. The growth in interest earning assets was due primarilymore than offset by the 62 basis point decrease in yield while interest bearing liabilities increased $20.6 million with a 47 basis point drop in cost. Since the overall decrease in yield on interest earning assets is applied to a larger base than the decline in cost of interest- bearing liabilities it results in an increase of $155unfavorable $0.2 million or 7%, in average interest-earning assets.net volume/rate difference. The Company’s net interest margin for the first half of 20192020 was 4.25%3.97%, as compared to 4.22%4.25% in the first half of 2018.  Nonrecurring2019.

The FOMC lowered rates by a total of 150 basis points in March 2020 in two separate emergency actions. These actions have had an unfavorable impact on our net interest margin for the quarter and year to date periods and will most likely have the same unfavorable impact on net interest income totaled $272,000through the end of 2020. At June 30, 2020, approximately 15% of our total portfolio, or $317.4 million, consists of variable rate loans. Of these variable rate loans, approximately $102.4 million have floors that limited the overall reduction in rates in the first half. At June 30, 2020, our outstanding fixed rate loans represented 33% of our loan portfolio. The remaining 52% of our loan portfolio at June 30, 2020 consists of adjustable rate loans. However, the majority of these loans (approximately $857.5 million) will not adjust for at least another 3 years. Approximately $64.9 million of these adjustable rate loans will reprice in the next quarter with $22.4 repricing in smaller amounts monthly over the fourth quarter of 2020.

In addition, as described below under Nonperforming Assets, as of June 30, 2020, the Company has modified approximately $386.2million of loans under Section 4013 of the CARES Act. These modifications generally provide for a six-month deferral of both interest and principal. As of June 30, 2020, there is approximately $4.9 million of accrued but uncollected interest related to such modifications. If a portion of this interest is uncollectible, it could impact interest income recognition in future quarters.

Cash balances were increased on June 30, 2020 in anticipation of mortgage warehouse line utilization. For both the quarterly and year to date comparisons, volumes were higher than the same periods in 2019 contributing to the overall unfavorable net volume and rate variance since cash balances earned considerably lower yields than other earning assets. It is expected that these balances will return to more normalized levels later in 2020. Overall average investment securities increased by $45.2 million for the quarter ending June 30, 2020 as compared to June 30, 2019 and by $44.1 million for the first six months of 2020, as compared to 2019. Non-taxable securities increased for both the quarterly and first six-month periods by $67.2 million and $60.3 respectively. The overall investment portfolio had a tax-equivalent yield of 2.80% at June 30, 2020, with an average life of 4.2 years.

Interest expense was $1.2 million in the second quarter of 2020, a decline of $2.3 million, or 65%, compared to the second quarter of 2019 and $227,000 and forwas $3.5 million in the first six monthssix-months of 2018,2020, a decline of $3.6 million or 51%, compared to the first six-months of 2019. The significant decline in interest expense for both the quarter and discount accretion on loans from whole-bank acquisitions enhanced our net interest marginthe half is attributable to a favorable shift in deposit mix as average total time deposits declined by four basis points$74.7 million in the second quarter of 2020 as compared to the same quarter in 2019 and by $47.9 million for the first half of 20192020 as compared to eightthe same period in 2019. The average cost of interest-bearing deposits declined by 59 basis points, inor 72%, to 23 basis points for the second quarter of 2020 compared to the second quarter of 2019, and by 45 basis points, or 55% for the first half 2018.six-months of 2020 as compared to the same period in 2019.

44

PROVISION FOR LOAN AND LEASE LOSSES

Credit risk is inherent in the business of making loans. The Company sets aside an allowance for loan and lease losses, a contra-asset account, through periodic charges to earnings which are reflected in the income statement as the provision for loan and lease losses. The Company recorded a loan loss provision of $400,000$2.2 million in the second quarter of 2019 relative2020 compared to $300,000$0.4 million in the second quarter of 2018,2019, and a year-to-date loan loss provision totaling $700,000$4.0 million in 20192020 as compared to $500,000$0.7 million for the comparable period in 2018.  The 20192019. As discussed above, the significant increase in the provision was deemed necessary subsequentfor loan and lease losses is primarily due to Management’s determinationmanagement’s estimate of the appropriate levelimpact of increased economic uncertainty with respect to COVID-19 on our customers’ ability to repay loans. There was no increase in the provision for loan and lease losses due to the additional $116.2 million in SBA PPP loans as those loans are guaranteed under a new 7(a) loan program titled the “Paycheck Protection Program” and carry a 100 percent guarantee by the SBA. Management adjusted its qualitative risk factors under our incurred loss model based on information presently available for economic conditions, changes in payment deferral procedures, expected changes in collateral values due to reduced cash flows, and external factors such as government actions. In particular, the uncertainty regarding our customers’ ability to repay loans could be adversely impacted by COVID-19 given higher unemployment rates, requests for payment deferrals, temporary business shut-downs, and reduced consumer and business spending.

The Company was subject to the adoption of the CECL accounting method under Financial Accounting Standards Board (FASB) Accounting Standards Update 2016-13 and related amendments, Financial Instruments – Credit Losses (Topic 326). However, the Company elected under Section 4014 of the CARES Act to defer the implementation of CECL until the earlier of when the national emergency related to the outbreak of COVID-19 ends or December 31, 2020. Although this deferral will still require CECL to be adopted as of January 1, 2020, the Company believes that the deferral will provide time to better assess the impact of the COVID-19 pandemic on the expected lifetime credit losses. There is increased uncertainty on the local, regional, and national economy as a result of local and state stay-at-home orders, as well as relief measures provided at a national, state, and local level. Further, the Company has taken actions to mitigate the impact on credit losses including permitting short-term payment deferrals to current customers, as well as providing bridge loans and SBA Paycheck Protection Program loans. More time is needed to assess the impact of this uncertainty and related actions on the Company’s allowance for loan and lease losses taking into consideration overall credit quality, growthunder the CECL methodology. It is anticipated that a one-time adjustment to the allowance will be booked as an adjustment through equity, net of taxes, as previously disclosed in outstandingCompany’s Form 10-K for the fiscal year ended December 31, 2019, for approximately $12 million. The impact of COVID-19 on the Company’s allowance for loan balances, and reserves required for specifically identified impaired loan balances.  leases losses under the CECL methodology in the second quarter and first half of 2020 will remain unknown until more information is available with respect to the impact of the economic uncertainty of the impact of COVID-19, net of actions taken to mitigate such impact.

Specifically identifiable and quantifiable loan losses are immediately charged off against the allowance. The Company recorded net recoveriescharge-offs of $45,000 on charged-off loans$0.1 million in the second quarter of 2019,2020 as compared to $155,000 in net charge-offsrecoveries of less than $0.1 million in the second quarter of 2018.2019. For the first six months, net charge-offs were $567,000$0.4 million in 20192020 and $407,000$0.6 million in 2018.2019.

With the loan loss provision recorded thus far in 2019, we have been able to maintain ourThe allowance for loan and lease losses is at a level that, in Management’s judgment, is adequate to absorb probable loan losses related to specifically-identified impaired loans as well as probable incurred losses in the remaining loan portfolio.  The Company’s need for reserve replenishment via a loan loss provision has been favorably impacted in recent periods by the following factors:  all of our acquired loans were booked at their fair values at acquisition, and thus did not initially require a loan loss allowance; some charge-offs in 2019 have been recorded against pre-established reserves, which alleviated what otherwise might have been a need for reserve replenishment; loss rates for most loan types have been declining, thus having a positive impact on general reserves required for performing loans; and, new loans booked during and since the great recession have been underwritten using tighter credit standards than was the case for many legacy loans.

The Company’s policies for monitoring the adequacy of the allowance, determining loan balances that should be charged off, and other detailed information with regard to changes in the allowance are discussed in Note 11 to the consolidated financial statements, and below, under “Allowance for Loan and Lease Losses.” The process utilized to establish an appropriate allowance for loan and lease losses can result in a high degree of variability in the Company’s loan loss provision, and consequently in our net earnings.

4145

NONINTEREST INCOME AND NONINTEREST EXPENSE

The following table provides details on the Company’s noninterest income and noninterest expense for the three- and six-monthsix month periods ended June 30, 20192020 and 2018:2019:

Noninterest Income/Expense

(dollars in thousands, unaudited)

For the three months ended June 30,

For the six months ended June 30,

NON-INTEREST INCOME:

2020

% of Total

2019

% of Total

2020

% of Total

2019

% of Total

Service charges on deposit accounts

    

$

2,618

    

37.94%

    

$

3,151

    

53.81%

$

5,802

44.61%

$

6,094

51.81%

Other service charges and fees

2,503

36.28%

2,514

42.94%

4,907

37.73%

4,777

40.61%

Net gains on sale of securities available-for-sale

390

5.65%

22

0.38%

390

3.00%

28

0.24%

Bank-owned life insurance

649

9.41%

127

2.17%

687

5.28%

1,027

8.73%

Other

740

10.72%

41

0.70%

1,221

9.38%

(164)

-1.39%

Total non-interest income

$

6,900

100.00%

$

5,855

100.00%

$

13,007

100.00%

$

11,762

100.00%

As a % of average interest-earning assets (1)

1.07%

1.01%

1.07%

1.03%

OTHER OPERATING EXPENSE:

Salaries and employee benefits

$

9,266

51.39%

$

8,994

50.93%

$

19,438

54.22%

$

18,237

51.36%

Occupancy costs

Furniture & equipment

619

3.43%

692

3.92%

1,084

3.02%

1,215

3.42%

Premises

1,885

10.45%

1,758

9.96%

3,748

10.45%

3,596

10.13%

Advertising and marketing costs

425

2.36%

560

3.17%

1,026

2.86%

1,252

3.53%

Data processing costs

1,045

5.79%

1,255

7.11%

2,187

6.10%

2,507

7.06%

Deposit services costs

2,229

12.36%

2,124

12.03%

4,025

11.23%

3,893

10.96%

Loan services costs

Loan processing

191

1.06%

205

1.16%

362

1.01%

376

1.06%

Foreclosed assets

62

0.34%

41

0.23%

68

0.19%

61

0.17%

Other operating costs

Telephone & data communications

467

2.59%

317

1.80%

835

2.33%

624

1.76%

Postage & mail

106

0.59%

81

0.46%

174

0.49%

276

0.78%

Other

365

2.02%

459

2.60%

751

2.09%

803

2.26%

Professional services costs

Legal & accounting

357

1.98%

524

2.97%

685

1.91%

935

2.63%

Acquisition costs

(1)

-0.01%

22

0.06%

Other professional service

701

3.89%

437

2.48%

947

2.64%

1,374

3.87%

Stationery & supply costs

131

0.73%

101

0.57%

246

0.69%

156

0.44%

Sundry & tellers

184

1.02%

109

0.62%

275

0.77%

182

0.51%

Total non-interest expense

$

18,033

100.00%

$

17,656

100.00%

$

35,851

100.00%

$

35,509

100.00%

As a % of average interest-earning assets (1)

2.80%

3.03%

2.94%

3.10%

Efficiency ratio (2)(3)

57.78%

58.17%

58.33%

58.46%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

For the three months ended June 30,

 

For the six months ended June 30,

NONINTEREST INCOME:

 

2019

 

% of Total

 

2018

 

% of Total

 

2019

 

% of Total

 

2018

 

% of Total

Service charges on deposit accounts

    

$

3,151

    

53.81%

    

$

3,027

    

55.76%

 

$

6,094

 

51.81%

 

$

5,974

 

56.56%

Other service charges and fees

 

 

2,514

 

42.94%

 

 

2,225

 

40.98%

 

 

4,777

 

40.61%

 

 

4,375

 

41.43%

Net gains on sale of securities available-for-sale

 

 

22

 

0.38%

 

 

 —

 

 —

 

 

28

 

0.24%

 

 

 —

 

 —

Bank-owned life insurance

 

 

127

 

2.17%

 

 

423

 

7.79%

 

 

1,027

 

8.73%

 

 

626

 

5.93%

Other

 

 

41

 

0.70%

 

 

(246)

 

-4.53%

 

 

(164)

 

-1.39%

 

 

(412)

 

-3.92%

Total noninterest income

 

$

5,855

 

100.00%

 

$

5,429

 

100.00%

 

$

11,762

 

100.00%

 

$

10,563

 

100.00%

As a % of average interest-earning assets (1)

 

 

 

 

1.01%

 

 

 

 

1.00%

 

 

 

 

1.03%

 

 

 

 

0.99%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

OTHER OPERATING EXPENSE:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Salaries and employee benefits

 

$

8,994

 

50.93%

 

$

8,997

 

52.02%

 

$

18,237

 

51.36%

 

$

18,180

 

51.68%

Occupancy costs

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Furniture & equipment

 

 

692

 

3.92%

 

 

608

 

3.52%

 

 

1,215

 

3.42%

 

 

1,234

 

3.51%

Premises

 

 

1,758

 

9.96%

 

 

1,843

 

10.66%

 

 

3,596

 

10.13%

 

 

3,565

 

10.13%

Advertising and marketing costs

 

 

560

 

3.17%

 

 

689

 

3.98%

 

 

1,252

 

3.53%

 

 

1,310

 

3.72%

Data processing costs

 

 

1,255

 

7.11%

 

 

1,284

 

7.42%

 

 

2,507

 

7.06%

 

 

2,555

 

7.26%

Deposit services costs

 

 

2,124

 

12.03%

 

 

1,355

 

7.84%

 

 

3,893

 

10.96%

 

 

2,593

 

7.37%

Loan services costs

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Loan processing

 

 

205

 

1.16%

 

 

245

 

1.42%

 

 

376

 

1.06%

 

 

566

 

1.61%

Foreclosed assets

 

 

41

 

0.23%

 

 

(574)

 

-3.32%

 

 

61

 

0.17%

 

 

(346)

 

-0.98%

Other operating costs

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Telephone & data communications

 

 

317

 

1.80%

 

 

432

 

2.50%

 

 

624

 

1.76%

 

 

759

 

2.16%

Postage & mail

 

 

81

 

0.46%

 

 

235

 

1.36%

 

 

276

 

0.78%

 

 

511

 

1.45%

Other

 

 

459

 

2.60%

 

 

442

 

2.56%

 

 

803

 

2.26%

 

 

769

 

2.19%

Professional services costs

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Legal & accounting

 

 

524

 

2.97%

 

 

533

 

3.08%

 

 

935

 

2.63%

 

 

965

 

2.74%

Acquisition costs

 

 

(1)

 

-0.01%

 

 

151

 

0.87%

 

 

22

 

0.06%

 

 

437

 

1.24%

Other professional service

 

 

437

 

2.48%

 

 

653

 

3.78%

 

 

1,374

 

3.87%

 

 

1,232

 

3.50%

Stationery & supply costs

 

 

101

 

0.57%

 

 

344

 

1.98%

 

 

156

 

0.44%

 

 

665

 

1.89%

Sundry & tellers

 

 

109

 

0.62%

 

 

57

 

0.33%

 

 

182

 

0.51%

 

 

186

 

0.53%

Total noninterest expense

 

$

17,656

 

100.00%

 

$

17,294

 

100.00%

 

$

35,509

 

100.00%

 

$

35,181

 

100.00%

As a % of average interest-earning assets (1)

 

 

 

 

3.03%

 

 

 

 

3.18%

 

 

 

 

3.10%

 

 

 

 

3.29%

Efficiency ratio (2)

 

 

58.17%

 

 

 

 

60.44%

 

 

 

 

58.46%

 

 

 

 

63.01%

 

 


(1)

(1)

Annualized

(2)

(2)

Tax equivalent

(3)Noninterest expense as a percentage of the sum of net interest income and noninterest income excluding net gains (losses) from securities and bank owned life insurance income.

Total noninterest income reflects increases of $426,000,$1.0 million, or 8%18%, for the quarterly comparison and $1.199$1.2 million, or 11% for the year-to-date period.  Those increases include nonrecurring gains recordedcomparison. BOLI income increased by $0.5 million as compared to the second quarter of 2019 but decreased $0.3 million for the first half of 2020 as compared to the same period in 2019. These variances are due mostly to fluctuations in underlying values of assets in the specific account BOLI policies that are designed to have similar assets to those in the deferred compensation plans. Thus, the higher quarterly values in BOLI policies are offset by higher deferred compensation expense reflected primarily in director fees expense and vice versa for the first six months of 2020 compared to 2019. At June 30, 2020, there was $43.0 million in BOLI policies associated with the deferred compensation plans and $8.3 million in separate account BOLI policies. Complementing the change in BOLI income for the quarterly and year to date comparison was a $0.7 and $1.4 million increase respectively, in other noninterest income due to the wrap up of a low- income housing tax credit fund along with a $0.4 million gain on the sale of debt securities.

46

There was a $0.5 million decrease in service charges on deposit accounts mostly from lower returned items and overdraft fees for the quarterly comparison and $0.3 million decrease for the year to date comparison. The Company expects that service charges on deposit accounts could continue to decline in future quarters based on reduced customer activity and increased waivers due to COVID-19.

Additionally in the “other” category of noninterest income the Company reflected a $0.2 million decrease in the second quarter from the valuation of restricted stock held by the Company as required under FASB ASU 2016-01, but an increase of $0.2 million for the year to date comparison. This stock is related to an equity investment in Pacific Coast Bankers’ Bank and is adjusted when financial information becomes available, generally in the late first quarter of each year. This stock was revalued in the first quarter of 2020, but was not revalued in 2019 until the second quarter. In addition, noninterest income includes a valuation adjustment related to investments in low-income housing credit investments. This valuation adjustment was a reduction of income of $0.2 million in the second quarter of 2020 as compared to a $0.5 million reduction in the second quarter of 2019, including $232,000 from the write up of certain restricted stock pursuant to a periodic assessment of its market value and $100,000 from the wrap-up of a low-income housing tax credit fund investment.  Total noninterest income was an annualized 1.01% of average interest-earning assets$0.3 million in the second quarterfirst half of 2019 relative2020 compared to 1.00%$0.9 million in the second quarter of 2018, and 1.03% for the first six months of 2018 relative to 0.99% for the first six months of 2018.2019.

Service charges on deposit accounts increased by $124,000, or 4%, in the second quarter of 2019 relative to the second quarter of 2018 and by $120,000, or 2%, for the comparative year-to-date periods due to a higher number of deposit accounts and a higher level of account activity .  Other service charges, commissions, and fees increased by $289,000, or 13%, for the second quarter comparison and $402,000, or 9%, for the year-to-date period due in large part to a higher level of debit card interchange fees.  There were minimal net gains on investment securities in 2019, and none in 2018.

42

BOLI income fell by $296,000, or 70%, in the second quarter of 2019 but reflects an increase of $401,000, or 64%, for the first six months of 2019, in comparison to the same periods in 2018.  BOLI income is derived from two types of policies owned by the Company, namely “separate account” and “general account” life insurance, and the change in BOLI income in 2019 relative to 2018 is due almost entirely to fluctuations in separate account BOLI income.  The Company had $7.2 million invested in separate account BOLI at June 30, 2019, which produces income that helps offset expense accruals for deferred compensation accounts the Company maintains on behalf of certain directors and senior officers.  Those accounts have returns pegged to participant-directed investment allocations that can include equity, bond, or real estate indices, and are thus subject to gains or losses which often contribute to significant fluctuations in income (and associated expense accruals).  The Company recorded a loss of $118,000 on separate account BOLI in the second quarter of 2019 relative to a gain of $176,000 in the second quarter of 2018, for an absolute decline of $294,000.  For the first six months, net gains on separate account BOLI totaled $544,000 in 2019 as compared $136,000 in 2018, for an increase of $408,000.  As noted, gains and losses on separate account BOLI are related to expense accruals or reversals associated with participant gains and losses on deferred compensation balances, thus their net impact on taxable income tends to be minimal.  The Company’s books also reflect a net cash surrender value of $42.0 million for general account BOLI at June 30, 2019.  General account BOLI generates income that helps offset expenses associated with executive salary continuation plans, director retirement plans and other employee benefits.  Interest credit rates on general account BOLI do not change frequently so the income has typically been fairly consistent.

The “Other” category under noninterest income often reflects negative amounts because it includes amortization expense associated with our investments in low-income housing tax credit funds and other limited partnership investments, which is netted against other noninterest income.  This line item also includes gains and losses on the disposition of assets other than OREO, rent on bank-owned property other than OREO, dividends on restricted stock (including our equity investment in the Federal Home Loan Bank), and other miscellaneous income.  Other noninterest income has favorable variances of $287,000 for the second quarter and $248,000 for the first six months.  It was impacted by nonrecurring items in the second quarter of 2019, as noted above, namely the $232,000 write up of certain restricted stock and the $100,000 gain from the conclusion of a low-income housing tax credit fund investment.

Total noninterest expense increased by $362,000,$0.4 million, or 2%, in the second quarter of 20192020 relative to the second quarter of 2018,2019, and by $328,000,$0.3 million, or 1%, in the first six months of 20192020 as compared to the first six months of 2018.  The variances in other noninterest expense include increases in net OREO expense, largely driven by nonrecurring OREO gains that helped offset expenses in 2018, and the offsetting impact of lower nonrecurring acquisition costs in 2019.  The absolute increase in foreclosed asset costs was $615,000 for the second quarter comparison, and $407,000 for the comparative year-to-date periods.  Acquisition costs were minimal in 2019, but totaled $151,000 in the second quarter of 2018 and $437,000 for the first half of 2018. Noninterest expense dropped to 3.03%2.8% of average earning assets in the second quarter of 20192020 from 3.18%3.03% for the second quarter of 2018,2019 and was 3.10%2.94% of average earning assets for the first six months of 20192020 relative to 3.29%3.10% for the first six months of 2018.2019.

The largest componentSalaries and Benefits were $0.3 million, or 3%, higher in the second quarter of operating expense, salaries and employee benefits, did not change materially in 20192020 as compared to 2018, as selective staff reductions offset salary adjustments in the normal course of business and an increase stemming from a drop in deferred loan origination salaries.  Salaries directly related to successful loan originations are removed from compensation expense and amortized as loan costs over the life of the related loans, which reduces current period compensation expense.  Loan origination salaries that were deferred from current expense totaled $832,000 in the second quarter of 2019 and $992,000$1.2 million higher for the first six months of 2020 compared to the same period in 2019. The reason for this increase is due to several factors, including merit increases for employees due to annual performance evaluations for 2020. These increases were mitigated by the impact of deferred salaries related to loan origination costs, which were $0.8 million higher in the second quarter of 2018, and $1.816 million in the first six months of 20192020 relative to $2.032 million in the first six months of 2018, representing reductions of $160,000 and $216,000, respectively, due to variability in successful organic loan origination activity.  The Company had 529 full-time equivalent employees at June 30, 2019 relative to 565 at June 30, 2018.  Salaries and benefits were 51% of total operating expense for the second quarter and first six months of 2019, in comparison to 52% in the second quarter and first six months of 2018.

As with compensation expense, total occupancy expense was roughly the same in 2019 as in 2018.  Other expense categories were well-controlled for the most part and were favorably impacted by efficiency gains in some areas.  A notable exception was Deposit Services Costs, which increased due in part to higher ATM costs resulting in large part from nonrecurring expenditures for upgrades and repairs.  Deposit costs were also unfavorably impacted by a mid-first quarter 2019 reclassification of statement costs from supplies and postage expense to Deposit Services Costs, which

43

totaled $399,000 for the second quarter of 2019, and $656,000 for the first six months.  Other Professional Service expense fell by $216,000 for the quarter but increased by $142,000 for the year-to-date comparison due to variability in directors deferred compensation accruals, related to changes in BOLI income.  As discussed above, variances in overhead expense also include increases in foreclosed asset expenses that were partially offset by the positive impact of lower nonrecurring acquisition costs.

The Company’s tax-equivalent overhead efficiency ratio was 58.17% in the second quarter of 2019 relative to 60.44% in the second quarter of 2018, and was 58.46%$0.5 million higher for the first six months of 2019 in comparison2020 compared to 63.01% for the same period in 2018.2019. There have not been any permanent or temporary reductions in employees as a result of COVID-19.

Occupancy expenses were roughly the same for the respective comparative periods. Further, other noninterest expense categories as a whole was relatively unchanged for the second quarter 2020 as compared to the second quarter in 2019 but was $0.9 million lower for the first half of 2020 as compared to the same period in 2019. The overheadvariance for year-to-date 2020 compared to the same period in 2019 was primarily driven by a $0.7 million, or 30%, decline in professional services expenses. Those professional services variances include a $0.2 million decrease in FDIC assessments due to the Small Bank Assessment credits applied against FDIC deposit insurance costs, a $0.2 million decrease in deferred compensation expense for directors, which is linked to the changes in BOLI income, and a $0.2 million reduction in consulting costs.

The Company’s tax-equivalent efficiency ratio was 57.78% in the second quarter 2020 as compared to 58.17% in the same quarter of 2019, and 58.33% for the first six months of 2020 and 58.46% for the comparative period in 2019. The efficiency ratio represents total noninterest expense divided by the sum of fully tax-equivalent net interest and noninterest income; the provision for loan losses and investment gains/losses are excluded from the equation. Our overheadGiven the expected decline in net interest income due to the lower rate environment in 2020, it is expected that the efficiency ratio improvedcould increase in 2019 due to a higher level of net interest and noninterest income, combined with limited increases in noninterest expense.2020.

PROVISION FOR INCOME TAXES

The Company sets aside a provision for income taxes on a monthly basis. The amount of that provision is determineddeter­mined by first applying the Company’s statutory income tax rates to estimated taxable income, which is pre-tax book income adjusted for permanent differences,dif­ferences, and then subtracting available tax credits. Permanent differences include but are not limited to tax-exempt interest income, BOLI income, and certain book expenses that are not allowed as tax deductions. Our tax credits consist primarily of those generated by investments in low-income housing tax credit funds. The Company’s provision for income taxes was 26.4%23.2% of pre-tax income in the second quarter of 20192020 relative to 24.9%26.4% in the second quarter of 2018,2019, and 25.3%23.6% of pre-tax income for the first half of 20192020 relative to 24.4%25.3% for the same

47

period in 2018.2019. The increasedecrease for 2019the 2020 quarterly comparison is due primarily to higher pretax incomean increase in partially tax exempt municipal bond interest and a lowertax exempt BOLI income. Although the comparison for the first six months was also positively impacted by an increased level of tax credits; the quarterly comparisonmunicipal bond interest it was also negatively impacted by a lower level of tax-exempt BOLI income.

BALANCE SHEET ANALYSIS

EARNING ASSETS

The Company’s interest-earning assets are comprised of investments and loans, and the composition, growth characteristics, and credit quality of both of those components are significant determinants of the Company’s financial condition. Investments are analyzed in the section immediately below, while the loan and lease portfolio and other factors affecting earning assets are discussed in the sections following investments.

INVESTMENTS

INVESTMENTS

The Company’s investments canmay at any given time consist of debt securities and marketable equity securities (together, the “investment portfolio”), investments in the time deposits of other banks, surplus interest-earning balances in our Federal Reserve Bank (“FRB”) account, and overnight fed funds sold. The Company’s investments can serve several purposes:purposes, including the following: 1) they can provide liquidity to even out cash flows from the loan and deposit activities of customers;for potential funding needs; 2) they provide a source of pledged assets for securing public deposits, bankruptcy deposits and certain borrowed funds which require collateral; 3) they constitute a large base of assets with maturity and interest ratestructural characteristics that can be changed more readily than the loan portfolio, to better match changes in theor deposit base and other funding sources of the Company;portfolios, as might be required for interest rate risk management purposes; 4) they are another interest-earning option for the placement of surplus funds when loan demand is light; and 5) they can provide partially tax exempt income. Surplus FRB balances in our Federal Reserve Bank account and fed funds sold to correspondent banks typically represent the temporary investment of excess liquidity. Aggregate investments totaled $579$667.2 million, or 22%21% of total assets at June 30, 20192020, and $562$615.3 million, or 22%24% of total assets at December 31, 2018.2019.

We had no fed funds sold at the end of the reporting periods, and interest-bearing balances held primarily in our Federal Reserve Bank account totaled $2 million at June 30, 2019 and December 31, 2018.  The Company’s investment securities portfolio had a book balance of $577 million at June 30, 2019, reflecting a net increase of $17 million, or 3%, for the first six months of 2019.  The Company carries investments at their fair market values. We currently have the intent and ability to hold our investment securities to maturity, but the securities are all marketable and are classified as “available for sale” to allow maximum flexibility with regard to interest rate risk and liquidity management. The

44

expected average life for bonds in our investment portfolio was 3.94.2 years and their average effective duration was 2.82.9 years at June 30, 2019,2020, down from an expected average life of 4.14.4 years and an average effective duration of 3.33.2 years at year-end 2018.2019.

The following table sets forth the amortized cost and fair market value of Company’s investment portfolio by investment type as of the dates noted:

Investment Portfolio

(dollars in thousands, unaudited)

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2019

 

December 31, 2018

 

Amortized

 

Fair Market

 

Amortized

 

Fair Market

    

Cost

    

Value

    

Cost

    

Value

June 30, 2020

December 31, 2019

Amortized

Fair Market

Amortized

Fair Market

    

Cost

    

Value

    

Cost

    

Value

Available for Sale

 

 

 

 

 

 

 

 

 

 

 

 

U.S. government agencies

    

$

15,262

    

$

15,296

    

$

15,553

    

$

15,212

    

$

1,775

    

$

1,850

    

$

12,125

    

$

12,145

Mortgage-backed securities

 

 

405,025

 

 

406,091

 

 

414,208

 

 

404,733

364,828

375,485

398,353

400,389

State and political subdivisions

 

 

150,978

 

 

155,879

 

 

140,181

 

 

140,534

209,760

221,998

181,900

188,265

Total securities

 

$

571,265

 

$

577,266

 

$

569,942

 

$

560,479

$

576,363

$

599,333

$

592,378

$

600,799

The net unrealized gain on our investment portfolio, or the amount by which aggregate fair market values exceeded amortized cost, was $6$23.0 million at June 30, 2019, an absolute difference of $152020, a $14.6 million increase relative to the net unrealized lossgain of $9$8.4 million at December 31, 2018.2019. The change was caused by the favorable impact of declining long-term market interest rates on fixed-rate bond values.  The balance

48

values.  Mortgage-backed securities also increased marginally, since bond purchases and positive changes in fair market values exceeded the impact of prepayments and bond sales. Municipal bond balances increased by $15 million, or 11%,comprise 37% of our total securities portfolio at June 30, 2020, as bond purchases and higher market valuations offset the impact of bond sales, maturities and redemptions.compared to 31% at December 31, 2019. Municipal bonds purchased in recent periods have strong underlying ratings, and we review all municipal bonds in our portfolio every quarter for potential impairment.

Investment securities that were pledged as collateral for borrowings and/or potential borrowings from the Federal Home Loan Bank and the Federal Reserve Bank, repurchase agreements, and other purposes as required or permitted by law totaled $223$242.4 million at June 30, 20192020 and $217$234.8 million at December 31, 2018,2019, leaving $354$356.9 million in unpledged debt securities at June 30, 20192020 and $343$366.0 million at December 31, 2018.2019. Securities that were pledged in excess of actual pledging needs and were thus available for liquidity purposes, if needed, totaled $62$60.5 million at June 30, 20192020 and $9$71.0 million at December 31, 2018.2019.

LOAN AND LEASE PORTFOLIO

Gross loans and leases reflect a net increase of $46$449.5 million, or 3%26%, growing to $1.778$2.212 billion at June 30, 20192020 from $1.732$1.763 billion at December 31, 20182019 due primarily to organic growth in commercial real estate loans, an increase in commercial and industrial loans from our participation in the SBA PPP program and an increase in outstanding balances on mortgage warehouse lines.

A distribution of the Company’s loans showing the balance and percentage of loans by type is presented for the noted periods in the table below. The balances in the table are before deferred or unamortized loan origination, extension, or commitment fees, and deferred origination costs. While not reflected in the loan totals and not currently comprising a material segment of our lending activities, the Company also occasionally originates and sells, or participates out portions of, loans to non-affiliated investors.

4549

Loan and Lease Distribution

(dollars in thousands, unaudited)

 

 

 

 

 

 

    

June 30, 2019

    

December 31, 2018

    

June 30, 2020

    

December 31, 2019

Real estate:

 

 

 

 

 

 

1-4 family residential construction

 

$

105,618

 

$

105,676

$

89,225

$

105,979

Other construction/land

 

 

108,342

 

 

109,023

90,545

91,413

1-4 family - closed-end

 

 

218,618

 

 

236,825

178,071

200,181

Equity lines

 

 

53,709

 

 

56,320

44,318

49,599

Multi-family residential

 

 

53,602

 

 

54,877

55,921

54,457

Commercial real estate - owner occupied

 

 

322,027

 

 

301,324

313,863

343,883

Commercial real estate - non-owner occupied

 

 

423,641

 

 

438,344

691,292

412,569

Farmland

 

 

152,619

 

 

151,541

134,454

144,033

Total real estate

 

 

1,438,176

 

 

1,453,930

1,597,689

1,402,114

Agricultural

 

 

51,509

 

 

49,103

48,516

48,036

Commercial and industrial

 

 

124,974

 

 

128,220

221,502

115,532

Mortgage warehouse lines

 

 

154,954

 

 

91,813

338,124

189,103

Consumer loans

 

 

8,286

 

 

8,862

6,266

7,780

Total loans and leases

 

$

1,777,899

 

$

1,731,928

$

2,212,097

$

1,762,565

Percentage of Total Loans and Leases

 

 

 

 

 

 

Real estate:

 

 

 

 

 

 

1-4 family residential construction

 

 

5.94%

    

 

6.10%

4.03%

    

6.01%

Other construction/land

 

 

6.09%

 

 

6.29%

4.09%

5.19%

1-4 family - closed-end

 

 

12.30%

 

 

13.67%

8.05%

11.36%

Equity lines

 

 

3.02%

 

 

3.25%

2.00%

2.81%

Multi-family residential

 

 

3.01%

 

 

3.17%

2.53%

3.09%

Commercial real estate - owner occupied

 

 

18.11%

 

 

17.40%

14.19%

19.51%

Commercial real estate - non-owner occupied

 

 

23.83%

 

 

25.32%

31.26%

23.42%

Farmland

 

 

8.58%

 

 

8.75%

6.08%

8.17%

Total real estate

 

 

80.88%

 

 

83.95%

72.23%

79.55%

Agricultural

 

 

2.90%

 

 

2.84%

2.19%

2.73%

Commercial and industrial

 

 

7.03%

 

 

7.40%

10.01%

6.55%

Mortgage warehouse lines

 

 

8.72%

 

 

5.30%

15.29%

10.73%

Consumer loans

 

 

0.47%

 

 

0.51%

0.28%

0.44%

Total loans and leases

 

 

100.00%

 

 

100.00%

100.00%

100.00%

For the first six months of 2019, total2020, gross loans were up by $449.5 million, or 26%, including increases of $149.0 million in mortgage warehouse lines, $205.2 million increase in non-agricultural real estate loans, declined by $16and a $106.0 million or 1%,increase in commercial and industrial loans. Mortgage warehouse loan balances increased due to a dropmarket factors favorably impacting line utilization due to both mortgage originations and refinancing activity. Mortgage warehouse utilization was 79.2% at June 30, 2020, as compared to 58.7% at December 31, 2019. Future utilization of $18 million in closed-end residentialthe mortgage warehouse lines could be impacted if the economic impacts of the COVID-19 pandemic reduce the demand for mortgages.

Non-agricultural real estate loan balances increased due to deliberate and concentrated efforts of our Northern and Southern market loan production teams. The growth in these markets was mostly due to commercial real estate and was the primary driver of our $278.7 million increase in non-owner occupied commercial real estate loans.

Residential real estate loans have been declining since the Company made the deliberate decision to discontinue such lending at the end of 2018, thus maturing balances and prepayments are no longer being replaced.  Commercial real estate loans, on the other hand, grew by a net $6 million, or 1%, with a slight shift into loans secured by owner-occupied properties from loans secured by non-owner occupied properties.  That said, heightened competitive forces have had an adverse impact on our ability to grow

Total commercial real estate loan balances increased in recent periods.  Loans secured2020 by farmland were up slightly, and agricultural production loans increased by $2$248.7 million or 5%, fordue to an increase in non-owner occupied properties. In the first six monthsquarter of 2019.2020, the Company hired lending teams to focus primarily on commercial real estate loans in our northern and southern markets. At June 30, 2020 the Bank’s regulatory credit concentration of commercial real estate loans (CRE), as defined in the Interagency Guidance dated, December 12, 2006, was 304%.

50

Management employs heightened risk management practices with respect to CRE lending, including board and management oversight, strategic planning, development and underwriting standards, risk assessment and monitoring through market analysis, and stress testing. At June 30, 2020 we have concluded that we have an acceptable and well-managed concentration in CRE lending under the foregoing standards.

The 91.8% increase in Commercial and industrial loan and lease balances reflect a net decline of $3Industrial loans from $115.5 million or 3%.  The Company’s only loan category to experience significant growth during the first six months of 2019 was mortgage warehouse lines, as utilization on those lines doubled to 46% at June 30, 2019 from 23% at December 31, 2018.  The increase is the result of market factors favorably impacting home refinancing and purchase activity, as well as heightened business development efforts and internal pricing adjustments enacted2019 to $221.5 million was primarily driven by the Company’s participation in the Small Business Administration’s PPP as authorized by the CARES Act. The Company mid-secondbegan accepting and funding loans under this program in April 2020. As of June 30, 2020, the Company obtained approval from the Small Business Administration and has funded PPP loans for approximately 1,242 customers totaling $116.2 million.

The recent growth in loans, in particular, real estate loans was accomplished without relaxing any of the Company’s credit standards that had been tightened after the great recession. Instead, the growth came by diversifying geography with new loan teams announced in the first quarter 2019.

Management remains focused on2020 in our Northern and Southern California markets. Those loan teams have maintained these enhanced underwriting standards through the pandemic and have not compromised credit quality loan growth, but this year there appear to be fewer lending opportunities which meet our credit and yield criteria and competition for those loans has intensified.  Moreover, we are still experiencing occasional surges in prepayments as well as significant fluctuations in mortgage warehouse lending, thuswhen sourcing new loans. However, no assurance can be provided with regardgiven as to future net growth in aggregate loan balances.how these loans will perform over their lifetime.

46

NONPERFORMING ASSETS

Nonperforming assets are comprised of loans for which the Company is no longer accruing interest, in addition to foreclosed assets which can include mobile homes and OREO. If the Company grants a concession to a borrower in financial difficulty, the loan falls into the category of a troubled debt restructuring (“TDR”).TDR. TDRs may be classified as either nonperforming or performing loans depending on their underlying characteristics and circumstances. The following table presents comparative data for the Company’s nonperforming assets and performing TDRs as of the dates noted:

Nonperforming assets and performing troubled debt restructurings

(dollars in thousands, unaudited)

    

June 30, 2020

    

December 31, 2019

    

June 30, 2019

NON-ACCRUAL LOANS:

Real estate:

Other construction/land

$

4

$

31

$

43

1-4 family - closed-end

843

741

1,454

Equity lines

626

480

467

Commercial real estate - owner occupied

1,909

1,440

1,472

Commercial real estate - non-owner occupied

627

2,105

Farmland

702

258

25

TOTAL REAL ESTATE

4,711

5,055

3,461

Agriculture

Commercial and industrial

1,086

651

569

Consumer loans

11

31

90

TOTAL NONPERFORMING LOANS

5,808

5,737

4,120

Foreclosed assets

2,893

800

770

Total nonperforming assets

$

8,701

$

6,537

$

4,890

Performing TDRs (1)

$

9,192

$

8,415

$

9,246

Nonperforming loans as a % of total gross loans and leases

0.26%

0.33%

0.23%

Nonperforming assets as a % of total gross loans and leases and foreclosed assets

0.39%

0.37%

0.27%

 

 

 

 

 

 

 

 

 

 

 

    

June 30,

2019

    

December 31,

2018

    

June 30,

2018

NON-ACCRUAL LOANS:

 

 

 

 

 

 

 

 

 

Real estate:

 

 

 

 

 

 

 

 

 

Other construction/land

 

$

43

 

$

82

 

$

66

1-4 family - closed-end

 

 

1,454

 

 

799

 

 

804

Equity lines

 

 

467

 

 

408

 

 

430

Commercial real estate - owner occupied

 

 

1,472

 

 

605

 

 

257

Commercial real estate - non-owner occupied

 

 

 —

 

 

49

 

 

85

Farmland

 

 

25

 

 

1,642

 

 

32

TOTAL REAL ESTATE

 

 

3,461

 

 

3,585

 

 

1,674

Agriculture

 

 

 —

 

 

 —

 

 

 —

Commercial and industrial

 

 

569

 

 

1,425

 

 

1,333

Consumer loans

 

 

90

 

 

146

 

 

86

TOTAL NONPERFORMING LOANS

 

 

4,120

 

 

5,156

 

 

3,093

 

 

 

 

 

 

 

 

 

 

Foreclosed assets

 

 

770

 

 

1,082

 

 

2,112

Total nonperforming assets

 

$

4,890

 

$

6,238

 

$

5,205

Performing TDRs (1)

 

$

9,246

 

$

10,920

 

$

11,981

Nonperforming loans as a % of total gross loans and leases

 

 

0.23%

 

 

0.30%

 

 

0.19%

Nonperforming assets as a % of total gross loans and leases and foreclosed assets

 

 

0.27%

 

 

0.36%

 

 

0.32%

(1)

(1)

Performing TDRs are not included in nonperforming loans above, nor are they included in the numerators used to calculate the ratios disclosed in this table.

51

Total nonperforming assets were reducedincreased by $1.348$2.2 million, or 22%33.1%, during the first six months of 2019,2020. The increase resulted from $2.1 million in new foreclosed assets due to reductions resulting from net charge-offs and our continued focus onthe impact of one commercial real estate credit quality improvement.that went into foreclosure. The $4 million balancecommercial property that went into other real estate owned has a pending contract. None of these increases were due to COVID-19. As a result of the increase in the gross loan portfolio, the Company’s ratio of nonperforming assets to loans decreased to 0.26% at June 30, 2019 includes certain TDRs2020, from 0.33% at December 31, 2019. All of the Company’s impaired assets are periodically reviewed, and other loans that were paying as agreed, but which metare either well-reserved based on current loss expectations, or are carried at the technical definitionfair value of nonperforming loans and were thus classified as such.  the underlying collateral net of expected disposition costs.

As shown in the table, we also had $9$9.2 million in loans classified as performing TDRs on which we were still accruing interest as of June 30, 2019, a reduction2020, an increase of $1.674$0.8 million, or 15%9%, relative to December 31, 2018.2019.

Foreclosed assets had a carrying value of $770,000$2.9 million at June 30, 2020, comprised of 9 properties classified as OREO and two mobile homes relative to year-end 2019 comprisedwhen foreclosed assets consisted of 10 properties classified as OREO and onetwo mobile home.  This represents a reduction of $312,000, or 29%, relative to year-end 2018 when foreclosed assets totaled $1.082 million, consisting of 11homes. Two very-low value properties classified as OREO.  The balance reduction came from write-downs on OREO and the sale of a few small propertieswere sold during the first six months of 2019.2020. All foreclosed assets are periodically evaluated and written down to their fair value less expected disposition costs, if lower than the then-current carrying value.

Total nonperforming assets were 0.27% of gross loans and leases plus foreclosed assets at June 30, 2019, down from 0.36% at December 31, 2018 and 0.32% at June 30, 2018.  An action plan is in place for each of our non-accruing loans and foreclosed assets and they are all being actively managed. Collection efforts are continuously pursued for all

47

nonperforming loans, but we cannot provide assurance that they will be resolved in a timely manner or that nonperforming balances will not increase.

The Company is providing deferrals to certain customers and taking advantage of Section 4013 of the CARES Act, which provides that such deferrals do not result in treatment of such loan as a TDR.  These deferrals typically provide deferrals of both principal and interest for 180 days.  Interest continues to accrue during the deferral period. At the end of the deferral period, for term loans, payments will be applied to accrued interest first and after the accrued interest is paid in full, the loan will be re-amortized with the maturity extended.  For lines of credit, the borrower must repay the accrued interest at the end of the deferral period or take out a second credit facility to repay the accrued interest. As of June 30, 2020, 313 customers, for a total of $386.2 million, had executed a loan modification under Section 4013 of the CARES Act. Approximately 97% of these loan deferrals were for commercial customers with 38% or $145.0 million of these modifications, in the hospitality industry. In addition, there were $98.7 million, or 26%, that are lessors of real estate, both commercial and residential; $45.5 million, or 12%, in the dairy industry; and $28.7 million, or 7%, related to convenience stores, and $2.7 million, or 0.7%, in the healthcare industry. Of the commercial deferrals, there were $10.1 million that were unsecured. Consumer deferrals totaled $11.2 million, of which $7.5 million were mortgage related. While these modified loans are not classified as nonperforming or classified assets at June 30, 2020, we will continue to monitor these loans during the deferral period and if circumstances change, we may downgrade the loan to a criticized asset or consider it a troubled debt restructuring. If a portion of the customers are not able to resume payments after the deferral period, it likely could result in higher classified and/or nonperforming assets, reversals of interest income, and/or higher charge-offs.

ALLOWANCE FOR LOAN AND LEASE LOSSES

The allowance for loan and lease losses, a contra-asset, is established through periodic provisions for loan and lease losses. It is maintained at a level that is considered adequate to absorb probable losses on specifically identified impaired loans, as well as probable incurred losses inherent in the remaining loan portfolio. Specifically identifiable and quantifiable losses are immediately charged off against the allowance; recoveries are generally recorded only when sufficient cash payments are received subsequent to the charge off.

As described above, the Company elected under Section 4014 of the CARES Act to defer the implementation of CECL until the earlier of when the national emergency related to the outbreak of COVID-19 ends or December 31, 2020. The Company believes that the deferral will provide time to better assess the impact of the COVID-19 pandemic and related stimulus and relief efforts on the expected lifetime credit losses.

The Company’s allowance for loan and lease losses was $9.9$13.6 million at June 30, 2019, a slight2020, an increase of $3.6 million, or 36.7%, relative to December 31, 20182019 resulting from a $700,000$4.0 million loan loss provision plus recoveries recorded during the six-month period,first six

52

months of 2020, less $0.4 million in net charge-offs during the same period. The additional loan loss provision in the first half of 2020 was precipitated primarily by qualitative factors associated with economic uncertainty during these unprecedented times. No additional loan balances charged-off againstloss was necessary for the allowance.  Because$116.2 million in SBA PPP loans added during the quarter ending June 30, 2020, as those loans carry a 100 percent guarantee by the SBA under a new 7(a) loan program titled the “Paycheck Protection Program”. For further information regarding the Company's decision to defer the implementation of CECL under Section 4014 of the CARES Act, as well as further detail on the increase in provision during the second quarter of 2020, please see the discussion above under Provision for Loan and Lease Losses. The allowance was proportionate with loan growth,0.61% of total loans at June 30, 2020, and 0.56% at both December 31, 2019 and June 30, 2019. The ratio of the allowance for loan and lease losses was 0.56% of total loans at June 30, 2019, December 31, 2018 and June 30, 2018.  The ratio of the Company’s allowance to total loans has been at relatively low levels in recent periods, as facilitated by the following circumstances:  some charge-offs have been recorded against pre-established reserves, alleviating the need for reserve replenishment; acquisition loans were booked at their fair values, and thus did not initially require a loan loss allowance; favorable trends in loan loss rates have had a positive impact on general reserves established for performing loans; and, new loans booked during and since the great recession have been underwritten using tighter credit standards than was the case for many legacy loans.  The ratio of the allowance to nonperforming loans was 239.88%233.47% at June 30, 2019,2020, relative to 189.10%172.96% at December 31, 20182019 and 295.38%239.88% for June 30, 2019. Management's detailed analysis indicates that the Company's allowance for loan and lease losses should be sufficient to cover credit losses inherent in loan and lease balances outstanding as of June 30, 2020, but no assurance can be given that the Company will not experience substantial future losses relative to the size of the allowance. With respect to exposures related to the COVID-19 pandemic, the Company had 83 relationships in the hospitality industry totaling $222.5 million at June 30, 2018.  2020. In addition to loans in the hospitality sector, we have approximately $17.0 million of loans in the oil and gas industry, and $66.0 million of loans to retail businesses at June 30, 2020.

A separate allowance of $384,000$0.3 million for potential losses inherent in unused commitments is included in other liabilities at June 30, 2019.

2020.

4853

The following table summarizes activity in the allowance for loan and lease losses for the noted periods:

Allowance for Loan and Lease Losses

(dollars in thousands, unaudited)

For the three
months ended

For the three
months ended

For the six
months ended

For the six
months ended

For the year ended

    

June 30,

    

June 30,

    

June 30,

    

June 30,

    

December 31,

Balances:

2020

2019

2020

2019

2019

Average gross loans and leases outstanding during period (1)

$

1,912,209

$

1,741,573

$

1,810,397

$

1,727,051

$

1,753,748

Gross loans and leases outstanding at end of period

$

2,212,097

$

1,777,899

$

2,212,097

$

1,777,899

$

1,762,565

Allowance for loan and lease losses:

Balance at beginning of period

$

11,453

$

9,438

$

9,923

$

9,750

$

9,750

Provision charged to expense

2,200

400

4,000

700

2,550

Charge-offs

Real estate

1-4 family residential construction

Other construction/land

1-4 family - closed-end

Equity lines

Multi-family residential

Commercial real estate- owner occupied

Commercial real estate- non-owner occupied

1,190

Farmland

Total real estate

1,190

Agricultural

Commercial and industrial

67

254

92

832

1,274

Consumer loans

286

562

903

1,114

2,409

Total

$

353

$

816

$

995

$

1,946

$

4,873

Recoveries

Real estate

1-4 family residential construction

Other construction/land

34

2

1-4 family - closed-end

3

4

6

9

148

Equity lines

2

34

23

150

Multi-family residential

Commercial real estate- owner occupied

Commercial real estate- non-owner occupied

147

297

347

Farmland

Total real estate

3

153

74

329

647

Agricultural

Commercial and industrial

20

431

48

472

690

Consumer loans

237

277

510

578

1,159

Total

$

260

$

861

$

632

$

1,379

$

2,496

Net loan charge offs

$

93

$

(45)

$

363

$

567

$

2,377

Balance at end of period

$

13,560

$

9,883

$

13,560

$

9,883

$

9,923

RATIOS

Net charge-offs to average loans and leases (annualized)

0.02%

-0.01%

0.04%

0.07%

0.14%

Allowance for loan losses to gross loans and leases at end of period

0.61%

0.56%

0.61%

0.56%

0.56%

Allowance for loan losses to nonperforming loans

233.47%

239.88%

233.47%

239.88%

172.96%

Net loan charge-offs to allowance for loan losses at end of period

0.69%

-0.46%

2.68%

5.74%

23.95%

Net loan charge-offs to provision for loan losses

4.23%

-11.25%

9.08%

81.00%

93.22%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

For the three
months

 

For the three
months

 

For the six
months

 

For the six
months

 

For the year

 

    

ended June 30,

    

ended June 30,

    

ended June 30,

    

ended June 30,

    

ended December 31,

Balances:

 

2019

 

2018

 

2019

 

2018

 

2018

Average gross loans and leases outstanding during period (1)

 

$

1,741,573

 

$

1,605,334

 

$

1,727,051

 

$

1,567,327

 

$

1,625,732

Gross loans and leases outstanding at end of period

 

$

1,777,899

 

$

1,624,344

 

$

1,777,899

 

$

1,624,344

 

$

1,731,928

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Allowance for Loan and Lease Losses:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance at beginning of period

 

$

9,438

 

$

8,991

 

$

9,750

 

$

9,043

 

$

9,043

Provision charged to expense

 

 

400

 

 

300

 

 

700

 

 

500

 

 

4,350

Charge-offs

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Real estate

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

1-4 family residential construction

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Other construction/land

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 4

1-4 family - closed-end

 

 

 —

 

 

 —

 

 

 —

 

 

 5

 

 

 5

Equity lines

 

 

 —

 

 

104

 

 

 —

 

 

125

 

 

125

Multi-family residential

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Commercial real estate- owner occupied

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Commercial real estate- non-owner occupied

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

2,341

Farmland

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

TOTAL REAL ESTATE

 

 

 —

 

 

104

 

 

 —

 

 

130

 

 

2,475

Agricultural

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Commercial and industrial

 

 

254

 

 

68

 

 

832

 

 

101

 

 

608

Consumer loans

 

 

562

 

 

523

 

 

1,114

 

 

1,088

 

 

2,225

Total

 

$

816

 

$

695

 

$

1,946

 

$

1,319

 

$

5,308

Recoveries

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Real estate

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

1-4 family residential construction

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Other construction/land

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

1-4 family - closed-end

 

 

 4

 

 

 3

 

 

 9

 

 

 5

 

 

10

Equity lines

 

 

 2

 

 

19

 

 

23

 

 

82

 

 

134

Multi-family residential

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

Commercial real estate- owner occupied

 

 

 —

 

 

230

 

 

 —

 

 

229

 

 

230

Commercial real estate- non-owner occupied

 

 

147

 

 

 —

 

 

297

 

 

 —

 

 

 —

Farmland

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

 —

TOTAL REAL ESTATE

 

 

153

 

 

252

 

 

329

 

 

316

 

 

374

Agricultural

 

 

 —

 

 

 —

 

 

 —

 

 

 —

 

 

22

Commercial and industrial

 

 

431

 

 

17

 

 

472

 

 

45

 

 

148

Consumer loans

 

 

277

 

 

271

 

 

578

 

 

551

 

 

1,121

Total

 

$

861

 

$

540

 

$

1,379

 

$

912

 

$

1,665

Net loan charge offs (recoveries)

 

$

(45)

 

$

155

 

$

567

 

$

407

 

$

3,643

Balance at end of period

 

$

9,883

 

$

9,136

 

$

9,883

 

$

9,136

 

$

9,750

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

RATIOS

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net charge-offs to average loans and leases (annualized)

 

 

-0.01%

 

 

0.04%

 

 

0.07%

 

 

0.05%

 

 

0.22%

Allowance for loan losses to gross loans and leases at end of period

 

 

0.56%

 

 

0.56%

 

 

0.56%

 

 

0.56%

 

 

0.56%

Allowance for loan losses to nonperforming loans

 

 

239.88%

 

 

295.38%

 

 

239.88%

 

 

295.38%

 

 

189.10%

Net loan charge-offs to allowance for loan losses at end of period

 

 

-0.46%

 

 

1.70%

 

 

5.74%

 

 

4.45%

 

 

37.36%

Net loan charge-offs to provision for loan losses

 

 

-11.25%

 

 

51.67%

 

 

81.00%

 

 

81.40%

 

 

83.75%

(1)

(1)

Average balances are obtained from the best available daily or monthly data and are net of deferred fees and related direct costs.

As reflected in the table above, the Company recorded a loan loss provision of $400,000 in the second quarter of 2019 compared to $300,000 in the second quarter of 2018, and a loan loss provision of $700,000 for the first half of 2019 relative to $500,000 for the first half of 2018.  Net balances recovered on previously charged-off loans were $45,000 in the second quarter of 2019, while net loans charged off against the allowance totaled $155,000 in the second quarter of

49

2018.  Net charge-offs were $567,000 for the first six months of 2019 relative to $407,000 during the first six months of 2018.  Any shortfall in the allowance identified pursuant to our analysis of remaining probable losses is covered by quarter-end.  The “Provision for Loan and Lease Losses” section above includes additional details on our provision and its relationship to actual charge-offs.

The Company’s allowance for loan and lease losses at June 30, 20192020 represents Management’s best estimate of probable losses in the loan portfolio as of that date, but no assurance can be given that the Company will not experience substantial losses relative to the size of the allowance. Furthermore, fluctuations in credit quality, changes in economic conditions, updated accounting or regulatory requirements, and/or other factors could induce us to augment or reduce the allowance.

54

OFF-BALANCE SHEET ARRANGEMENTS

The Company maintains commitments to extend credit in the normal course of business, as long as there are no violations of conditions established in the outstanding contractual arrangements. It is unlikely that all unused commitments will ultimately be drawn down. Unused commitments to extend credit totaled $596$449.0 million at June 30, 20192020 and $782$492.0 million at December 31, 2018,2019, representing approximately 34%20% of gross loans outstanding at June 30, 20192020 and 45%28% at December 31, 2018.2019. The drop in unused commitments is due in large part to the increase in outstanding balances on mortgage warehouse lines, but commercial and residential construction loan commitments have also declined.lines. The Company also had undrawn letters of credit issued to customers totaling $10$9.4 million at June 30, 20192020 and $9$8.6 million at December 31, 2018.2019. The effect on the Company’s revenues, expenses, cash flows and liquidity from the unused portion of the commitments to provide credit cannot be reasonably predicted because there is no guarantee that the lines of credit will ever be used. However, the “Liquidity” section in this Form 10‑Q10-Q outlines resources available to draw upon should we be required to fund a significant portion of unused commitments.

In addition to unused commitments to provide credit, the Company is utilizing a $105 million letter of credit issued by the Federal Home Loan Bank on the Company’s behalf as security for certain deposits and to facilitate certain credit arrangements with the Company’s customers. That letter of credit is backed by loans that are pledged to the FHLB by the Company. For more information on the Company’s off-balance sheet arrangements, see Note 7 to the consolidated financial statements located elsewhere herein.

OTHER ASSETS

Interest-earning cash balances were discussed above in the “Investments” section, but the Company also maintains a certain level of cash on hand in the normal course of business as well as non-earning deposits at other financial institutions. Our balance of cash and due from banks depends on the timing of collection of outstanding cash items (checks), the amount of cash held at our branches, and our reserve requirement among other things, and it is subject to significant fluctuations in the normal course of business. While cash flows are normally predictable within limits, those limits are fairly broad and the Company manages its short-term cash position through the utilization of overnight loans to, and borrowings from, correspondent banks, including the Federal Reserve Bank and the Federal Home Loan Bank. Should a large “short” overnight position persist for any length of time, the Company typically raises money through focused retail deposit gathering efforts or by adding brokered time deposits. If a “long” position is prevalent, we willcould let brokered deposits or other wholesale borrowings roll off as they mature, or we might invest excess liquidity into longer-term, higher-yielding bonds. The Company’s balance of non-earning cash and due from banks was $66$88.7 million at June 30, 20192020 relative to $72$65.6 million at December 31, 2018, with the decrease2019. The increase is primarily due primarily to a reduction in vault cash and a lower amountmaintaining higher amounts of cash items in process of collection.  The average balance of non-earning cash and due from banks, which is a better measure for ascertaining trends, was $60 million for the first six months of 2019 relative to $61 million for the year in 2018.  The reduction in the average balance ison hand due to concentrated effortslack of certainty from our armored cash delivery vendor during the COVID-19 pandemic due to improve cash management efficiency.potential staffing issues and governmental stay-at-home orders.

Foreclosed assets are discussed above in the section titled “Nonperforming Assets.” Net premises and equipment declinedincreased by $1.115$0.3 million or 4%, during the first six months of 2019 as the result of depreciation recorded on fixed assets.2020. Goodwill was $27 million at June 30, 2019,2020, unchanged forduring the first six months of 2019, but other intangible assets were down $537,000, or 8%, due2020. As mentioned above, the Company performed a qualitative assessment of goodwill impairment during the second quarter 2020 and determined that a quantitative analysis was not required at this time. The Company will continue to amortization expense recorded on core deposit intangibles.  The Company’s

50

goodwill and other intangible assets are evaluated annuallymonitor its Goodwill for potential impairment and pursuant to that analysis Management has concluded that no impairment exists as of June 30, 2019.given the COVID-19 pandemic. Bank-owned life insurance, with a balance of $49$51.3 million at June 30, 2019,2020, is discussed in detail above in the “Noninterest Income and Noninterest Expense” section.

The aggregate balance of “Other assets” was $49.5 million at June 30, 2019, compared to $50.6 million at December 31, 2018.  While the ending balance is down only $1 million, or 2%, there were significant changes within other assets during the first six months of 2019 including the following:  a $9.0 million increase resulting from operating lease assets booked at the beginning of 2019, pursuant to our adoption of FASB’s ASU 2016‑02; a reduction of $7.6 million resulting from our first quarter 2019 collection of a receivable established at the end of 2018 for expected proceeds from the sale of a large foreclosed property; a $4.5 million reduction in our deferred tax asset; a $1.5 million increase in current prepaid taxes; and, a $1.0 million increase in restricted stock.  At June 30, 2019, the balance of other assets included as its largest components a $12.7 million investment in restricted stock, an operating lease right-of-use asset totaling $9.0 million, accrued interest receivable totaling $8.9 million, a net deferred tax asset of $4.1 million, a $5.0 million investment in low-income housing tax credit funds, and a $3.0 million investment in a small business investment corporation.  Restricted stock is comprised of Federal Home Loan Bank of San Francisco stock held in conjunction with our FHLB borrowings and an equity investment in a correspondent bank, neither of which is deemed to be marketable or liquid.  Our net deferred tax asset is evaluated as of every reporting date pursuant to FASB guidance, and we have determined that no impairment exists.

DEPOSITS AND INTEREST BEARING LIABILITIES

DEPOSITS

DEPOSITS

Deposits represent another key balance sheet category impacting the Company’s net interest marginincome and profitability metrics. Deposits provide liquidity to fund growth in earning assets, and the Company’s net interest margin is improved to the extent that growth in deposits is concentrated in less volatile and typically less costly non-maturity accounts such as demand deposit accounts, NOW accounts, savings accounts, and money market demand accounts. Information concerning average balances and rates paid by deposit type for the three- and six-month periods ended June 30, 2019 and 2018 is included in the Average Balances and Rates tables appearing above, in the section titled “Net

55

Interest Income and Net Interest Margin.” A distribution of the Company’s deposits by type, showing the period-end balance and percentage of total deposits, is presented as of the dates indicated in the following table.

51

Deposit Distribution

(dollars in thousands, unaudited)

 

 

 

 

 

 

 

    

 

June 30, 2019

    

December 31, 2018

Noninterest bearing demand deposits

 

 

$

658,900

 

$

662,527

    

June 30, 2020

    

December 31, 2019

Non-interest bearing demand deposits

$

949,662

$

690,950

Interest bearing demand deposits

 

 

 

129,733

 

 

101,243

144,215

91,212

NOW

 

 

 

441,030

 

 

434,483

497,601

458,600

Savings

 

 

 

289,872

 

 

283,953

346,262

294,317

Money market

 

 

 

117,010

 

 

123,807

125,419

118,933

Time, under $250,000

 

 

 

225,937

 

 

212,901

199,061

211,916

Time, $250,000 or more

 

 

 

266,616

 

 

247,426

234,534

252,446

Brokered deposits

 

 

 

50,000

 

 

50,000

10,000

50,000

Total deposits

 

 

$

2,179,098

 

$

2,116,340

$

2,506,754

$

2,168,374

 

 

 

 

 

 

 

Percentage of Total Deposits

 

 

 

 

 

 

 

Noninterest bearing demand deposits

 

 

 

30.24%

 

 

31.31%

Non-interest bearing demand deposits

37.89%

31.86%

Interest bearing demand deposits

 

 

 

5.95%

 

 

4.78%

5.75%

4.21%

NOW

 

 

 

20.24%

 

 

20.53%

19.85%

21.15%

Savings

 

 

 

13.30%

 

 

13.42%

13.81%

13.57%

Money market

 

 

 

5.37%

 

 

5.85%

5.00%

5.48%

Time, under $250,000

 

 

 

10.37%

 

 

10.06%

7.94%

9.77%

Time, $250,000 or more

 

 

 

12.24%

 

 

11.69%

9.36%

11.64%

Brokered deposits

 

 

 

2.29%

 

 

2.36%

0.40%

2.31%

Total

 

 

 

100.00%

 

 

100.00%

100.00%

100.00%

Deposit balances reflect net growth of $63$338.4 million, or 3%16%, during the first six months of 2019.  Non-maturity2020. Time deposits were up $31$443.6 million at June 30, 2020 as compared to $514.4 million at December 31, 2019. The $70.8 million decline in time-deposits was a result of a $40 million reduction in brokered deposits and a $30.8 million in other time-deposits. The Company chose not to renew brokered deposits given the growth in non-maturity deposits of $409.1 million, or 2%24.7%, while customer time deposits increased by $32 million, or 7%, and wholesale brokered deposits were unchanged.during the first six months of 2020. All of our non-maturity deposit growth was organic in nature, but it does include some seasonal increases in deposit balances.nature.

Management is of the opinion that a relatively high level of core customer deposits is one of the Company’s key strengths, and we continue to strive for core deposit retention and growth. Our deposit-targeted promotions are still favorably impacting growth inIn particular, the numberCompany’s ratio of accounts and it is expected that balances in these accounts will grow over time consistent with our past experience, although given the current highly competitive market fornoninterest-bearing deposits no assurance can be provided with regard to future increases in core deposit balances.total deposits was 37.9% at June 30, 2020 as compared to 31.9% at December 31, 2019.

OTHER INTEREST-BEARING LIABILITIES

The Company’s non-deposit borrowings may, at any given time, include fed funds purchased from correspondent banks, borrowings from the Federal Home Loan Bank, advances from the Federal Reserve Bank, securities sold under agreements to repurchase, and/or junior subordinated debentures. The Company uses short-term FHLB advances and fed funds purchased on uncommitted lines to support liquidity needs created by seasonal deposit flows, to temporarily satisfy funding needs from increased loan demand, and for other short-term purposes. The FHLB line is committed, but the amount of available credit depends on the level of pledged collateral.

Total non-deposit interest-bearing liabilities were down $40increased by $158.8 million, or 37%197%, forduring the first six months of 2019,2020 primarily due to a dropan increase in borrowings from the FHLB that was partially offset by an increase in customer repurchase agreements.  The Company had $8.5 million in borrowings from the FHLB at June 30, 2019 relativeprimarily to $56.1 million at December 31, 2018, and there were no overnight federal funds purchased from other correspondent banks or advances from the FRB on our books at June 30, 2019 or December 31, 2018.fund increased temporary utilization of mortgage warehouse lines. Repurchase agreements totaled $24$41.4 million at June 30, 20192020 relative to a balance of $16$25.7 million at year-end 2018, for an increase of $8 million.2019. Repurchase agreements represent “sweep accounts”, where commercial deposit balances above a specified threshold are transferred at the close of each business day into non-deposit accounts secured by investment securities. The Company had junior subordinated debentures totaling $35.0 million at both June 30, 2020 and December

5256

debentures totaling $34.9 million at June 30,31, 2019, and $34.8 million at December 31, 2018, in the form of long-term borrowings from trust subsidiaries formed specifically to issue trust preferred securities.    The small increase resulted from the amortization of discount on junior subordinated debentures that were part of our acquisition of Coast Bancorp in 2016.

OTHER NONINTEREST BEARING LIABILITIES

Other liabilities are principally comprised of operating lease right-of-use liabilities, accrued interest payable, other accrued but unpaid expenses, and certain clearing amounts. The Company’s balance of other liabilities increased by $8was $36.4 million or 30%, during the first six months of 2019 due in large partat June 30, 2020 as compared to the liability established as an offset to the operating lease right-of-use asset noted above.$35.5 million at December 31, 2019.

LIQUIDITY AND MARKET RISK MANAGEMENT

LIQUIDITY

Liquidity management refers to the Company’s ability to maintain cash flows that are adequate to fund operations and meet other obligations and commitments in a timely and cost-effective manner. Detailed cash flow projections are reviewed by Management on a monthly basis, with various stress scenarios applied to assess our ability to meet liquidity needs under unusual or adverse conditions. Liquidity ratios are also calculated and reviewed on a regular basis. While those ratios are merely indicators and are not measures of actual liquidity, they are closely monitored and we are committed to maintaining adequate liquidity resources to draw upon should unexpected needs arise.

The Company, on occasion, experiences cash needs as the result of loan growth, deposit outflows, asset purchases or liability repayments. To meet these short-term needs, we can borrow overnight funds from other financial institutions, draw advances via Federal Home Loan Bank lines of credit, or solicit brokered deposits if customer deposits are not immediately obtainable from local sources.  Availability on lines of credit from correspondent banks and the FHLB totaled $542 million at

At June 30, 2019.  An additional $59 million in credit is available from the FHLB if2020 and December 31, 2019, the Company werehad the following sources of primary and secondary liquidity ($ in thousands):

Primary and Secondary Liquidity Sources

June 30, 2020

December 31, 2019

Cash and Due From Banks

$

88,705

$

80,076

Unpledged Investment Securities

356,903

366,012

Excess Pledged Securities

60,462

70,955

FHLB Borrowing Availability

293,454

443,200

Unsecured Lines of Credit

80,000

80,000

Funds Available through Fed Discount Window

60,102

59,198

Totals

$

939,626

$

1,099,441

In addition to pledge sufficient collateralthe above sources, the Company could obtain brokered deposits, obtain deposits via deposit listing services, or offer higher rate time deposits within our market. At June 30, 2020, the Company applied for and maintain the required amount of FHLB stock.  The Company was also eligiblereceived approval to borrow approximately $74$116.2 million atfrom the Federal Reserve Discount Window based onBank for a Paycheck Protection Program Lending Facility (PPPLF). The PPPLF provides the Company with the ability to pledge any PPP loan to the Federal Reserve Bank and obtain funding at 35 basis points. Further, any loans pledged assets at June 30, 2019.  Furthermore, funds canto the PPPLF will be obtained by drawing down excess cash that might be availableexcluded from the regulatory leverage capital ratio. Due to the Company’s liquidity throughout the first half of 2020 it elected not to utilize the PPPLF during the quarter. The Company will continue to evaluate whether it should utilize the PPPLF in the Company’s correspondent bank deposit accounts, or by liquidating unpledged investments or other readily saleable assets.  In addition, thethird quarter 2020.

The Company can raise immediate cashperforms regular stress tests on its liquidity and at this time, believes that we have sufficient primary and secondary liquidity sources for temporary needs by selling under agreement to repurchase those investments in its portfolio which are not pledged as collateral.  As of June 30, 2019, unpledged debt securities plus pledged securities in excess of current pledging requirements comprised $416 million of the Company’s investment balances, as compared to $352 million at December 31, 2018.  Other sources of potential liquidity include but are not necessarily limited to any outstanding fed funds sold and vault cash.  operations.

The Company has a higher level of actual balance sheet liquidity than might otherwise be the case, since we utilize a letter of credit from the FHLB rather than investment securities for certain pledging requirements. That letter of credit, which is backed by loans pledged to the FHLB by the Company, totaled $105 million at June 30, 20192020 and $95 million at December 31, 2018.2019. Other sources of liquidity included the brokered deposit market, deposit listing services, and the ability to offer local time-deposit campaigns. Management is of the opinion that available investments and other potentially

57

liquid assets, along with standby funding sources it has arranged, are more than sufficient to meet the Company’s current and anticipated short-term liquidity needs.needs and that its liquidity has not been adversely impacted by COVID-19.

The Company’s net loans to assets and available investments to assets ratios were 69%71.0% and 16%15.6%, respectively, at June 30, 2019,2020, as compared to internal policy guidelines of “less than 78%” and “greater than 3%.” Other liquidity ratios reviewed periodically by Management and the Board include net loans to total deposits and wholesale funding to total assets, including ratios and sub-limits for the various components comprising wholesale funding, which were all well within policy guidelines at June 30, 2019.2020. The Company has been able to maintain a robust liquidity position in recent periods, but no assurance can be provided that our liquidity position will continue at current strong levels.

The holding company’s primary uses of funds include operating expenses incurred in the normal course of business, interest on trust preferred securities, shareholder dividends, and stock repurchases. Its primary source of funds is dividends from the Bank, since the holding company does not conduct regular banking operations. As of June 30, 2020, the holding company maintained a cash balance of $15.3 million. Management anticipates that with the available cash and the continued ability for the Bank will have sufficient earnings to provide dividends to the holding company, that the holding company has sufficient liquidity to meet its funding requirements for the foreseeable future. Both

53

the holding company and the Bank are subject to legal and regulatory limitations on dividend payments, as outlined in Item 5(c) Dividends in the Company’s Annual Report on Form 10‑K10-K for the year ended December 31, 20182019 which was filed with the SEC.

INTEREST RATE RISK MANAGEMENT

Market risk arises from changes in interest rates, exchange rates, commodity prices and equity prices. The Company does not engage in the trading of financial instruments, nor does it have exposure to currency exchange rates. Our market risk exposure is primarily that of interest rate risk, and we have established policies and procedures to monitor and limit our earnings and balance sheet exposure to changes in interest rates. The principal objective of interest rate risk management is to manage the financial components of the Company’s balance sheet in a manner that will optimize the risk/reward equation for earnings and capital under a variety of interest rate scenarios.

To identify areas of potential exposure to interest rate changes, we utilize commercially available modeling software to perform monthly earnings simulations and calculate the Company’s market value of portfolio equity under varying interest rate scenarios. The model imports relevant information for the Company’s financial instruments and incorporates Management’s assumptions on pricing, duration, and optionality for anticipated new volumes. Various rate scenarios consisting of key rate and yield curve projections are then applied in order to calculate the expected effect of a given interest rate change on interest income, interest expense, and the value of the Company’s financial instruments. The rate projections can be shocked (an immediate and parallel change in all base rates, up or down), ramped (an incremental increase or decrease in rates over a specified time period), economic (based on current trends and econometric models) or stable (unchanged from current actual levels).

In addition to a stable rate scenario, which presumes that there are no changes in interest rates, we typically use at least six other interest rate scenarios in conducting our rolling 12‑12-month net interest income simulations: upward shocks of 100, 200, and 300 basis points, and downward shocks of 100, 200, and 300 basis points. Those scenarios may be supplemented, reduced in number, or otherwise adjusted as determined by Management to provide the most meaningful simulations in light ofconsidering economic conditions and expectations at the time. Given the current near zero interest rate environment it is unlikely that rates could decline much further beyond the downward shock of 100 basis points, therefore the downward shock scenarios of 200 and 300 basis points are temporarily being suspended after concurrence by the Company’s Board of Directors. We currently utilize an additional upward rate shock scenario of 400 basis points. Pursuant to policy guidelines, we generally attempt to limit the projected decline in net interest income relative to the stable rate scenario to no more than 5% for a 100 basis point (bp) interest rate shock, 10% for a 200 bp shock, 15% for a 300 bp shock, and 20% for a 400 bp shock.  As

58

The Company had the following estimated net interest income sensitivity profile,profiles, without factoring in any potential negative impact on spreads resulting from competitive pressures or credit quality deterioration:

 

 

 

 

 

 

 

 

 

Immediate Change in Rate

 

 

 

 

 

 

 

 

 

-300 bp

-200 bp

-100 bp

+100 bp

+200 bp

+300 bp

+400 bp

Change in Net Int. Inc. (in $000’s)

-$15,810

-$8,442

-$3,729

+$1,202

+$1,847

+$2,481

+$2,573

% Change

-16.39%

-8.75%

-3.86%

+1.25%

+1.91%

+2.57%

+2.67%

June 30, 2020

June 30, 2019

Immediate change in Interest Rates (basis points)

% Change in Net Interest Income

$ Change in Net Interest Income

% Change in Net Interest Income

$ Change in

Net Interest Income

+400

5.4%

$

5,373

2.7%

$

2,573

+300

4.5%

$

4,477

2.6%

$

2,481

+200

3.5%

$

3,529

1.9%

$

1,847

+100

2.3%

$

2,308

1.3%

$

1,202

Base

(100)

-6.3%

$

(6,235)

-3.9%

$

(3,729)

Our current simulations for both periods represented indicate that the Company’s net interest income will increase slightly over the next 12 months in a rising rate environment, but a continued drop in interest rates could have a substantial negative impact. In prior periodsHowever for the simulationsperiod ended June 30, 2020, given the 150-basis point decrease in the target federal funds rate in March 2020 and the drop in the 5-year and 10-year Treasury yields in the first six months of 2020, it is unlikely to see dramatic rate decreases unless rates go negative. We have seen a drop in projected sizeable gains in net interest income across all scenarios and an exacerbated negative impact in risingdeclining rate scenarios butin recent periods, resulting from the impact of interest rate reductions and balance sheet changes such as the addition of fixed-rate loans and adjustable-rateincluding an increase in loans with longer resetvariable rate characteristics (mortgage warehouse loans), the runoff of loans which had rates fixed for periods in excess of a year, and the increasea shift in short-term interest rates over the past few years have significantly diminished that effect.our deposit mix toward time deposits. If there were an immediate and sustained upward adjustment of 100 basis points in interest rates, all else being equal, net interest income over the next 12 months is projected to improve by $1.202$2.3 million, or 1.25%2.30%, for the period ending June 30, 2020 and $1.2 million, or 1.3%, for the period ended June 30, 2019, relative to a stable interest rate scenario, with the favorable variance increasing marginally as interest rates rise higher. If interest rates were to decline by 100 basis points, however, net interest income would likely be around $3.729$6.2 million lower or -6.3% for the period ended June 30, 2020, and $3.7 million lower or –3.9% for the period ended June 30, 2019, than in a stable interest rate scenario, for a negative variance of 3.86%.scenario. The unfavorable variance increases when rates drop 200 or 300 basis points,are due to the fact that certain deposit rates are already relatively low (on NOW accounts and savings accounts for example), and will hit a natural floor of close to zero while non-floored variable-rate loan yields continue to drop. This effect is exacerbated by accelerated prepayments on fixed-rate loans and mortgage-backed securities when rates decline, although rate floors on some of our variable-rate loans partially offset other negative pressures. While we view material interest rate reductions as unlikely in the near term, the potential percentage dropdecline in net interest income in the “down 300100 basis points” interest

54

rate scenario exceeds our internal policy guidelines and we will continue to monitor our interest rate risk profile and implement remedial changes as deemed appropriate.for the period ended June 30, 2020

In addition to the net interest income simulations shown above, we run stress scenarios for the unconsolidated Bank modeling the possibility of no balance sheet growth, the potential runoff of “surge” core deposits which flowed into the Bank in the most recent economic cycle, and unfavorable movement in deposit rates relative to yields on earning assets (i.e., higher deposit betas). When a static balance sheet and a stable interest rate environmentenviron­ment are assumed, projected annual net interest income is close tomore than $1 million lower than in our standard simulation. However, the stressed simulations reveal that the Company’s greatest potential pressure on net interest income would result from excessive non-maturity deposit runoff and/or unfavorable deposit rate changes in rising rate scenarios.

The economic value (or “fair value”) of financial instruments on the Company’s balance sheet will also vary under the interest rate scenarios previously discussed. The difference between the projected fair value of the Company’s financial assets and the fair value of its financial liabilities is referred to as the economic value of equity (“EVE”), and changes in EVE under different interest rate scenarios are effectively a gauge of the Company’s longer-term exposure to interest rate fluctuations. Fair values for financial instruments are estimated by discounting projected cash flows (principal and interest) at anticipated replacement interest rates for each account type, while the fair value of non-financial accounts is assumed to equal their book value for all rate scenarios. An economic value simulation is a static measure utilizing balance sheet accounts at a given point in time, and the measurement can change substantiallysub­stantially over time, as is evident in the tables below for the periods ending June 30, 2020 and 2019, respectively, as the Company’s balance sheet evolves and interest rate and yield curve assumptions are updated.

59

The change in economic value under different interest rate scenarios depends on the characteristics of each class of financial instrument, including stated interest rates or spreads relative to current or projected market-level interest rates or spreads, the likelihood of principal prepayments, whether contractual interest rates are fixed or floating, and the average remaining time to maturity. As a general rule, fixed-rate financial assets become more valuable in declining rate scenarios and less valuable in rising rate scenarios, while fixed-rate financial liabilities gain in value as interest rates rise and lose value as interest rates decline. The longer the duration of the financial instrument, the greater the impact a rate change will have on its value. In our economic value simulations, estimated prepayments are factored in for financial instruments with stated maturity dates, and decay rates for non-maturity deposits are projected based on historical patterns and Management’s best estimates. Our EVE had been increasing due to asset growth and rising discount rates, which result in a larger benefit assessed to non-maturity deposits, but that trend reversed in the second quarter of 2019 as loan growth slowed and interest rates started to fall. The tabletables below showsshow estimated changes in the Company’s EVE, as of June 30, 2019, under different interest rate scenarios relative to a base case of current interest rates:

 

 

 

 

 

 

 

 

 

Immediate Change in Rate

 

 

 

 

 

 

 

 

 

-300 bp

-200 bp

-100 bp

+100 bp

+200 bp

+300 bp

+400 bp

Change in EVE (in $000’s)

-$147,454

-$162,983

-$84,297

+$43,571

+$69,015

+$83,884

+$92,095

% Change

-24.95%

-27.58%

-14.27%

+7.37%

+11.68%

+14.20%

+15.58%

June 30, 2020

June 30, 2019

Immediate change in Interest Rates (basis points)

% Change in Fair Value of Equity

$ Change in Fair Value of Equity

% Change in Fair Value of Equity

$ Change in Fair Value of Equity

+400

36.5%

$

195,263

15.6%

$

92,095

+300

32.1%

$

171,790

14.2%

$

83,884

+200

25.2%

$

134,702

11.7%

$

69,015

+100

14.5%

$

77,398

7.4%

$

43,571

Base

(100)

-11.1%

$

(59,340)

-14.3%

$

(84,297)

The table shows that our EVE will generally deteriorate in moderate declining rate scenarios, but should benefit from a parallelparal­lel shift upward in the yield curve. The decline in EVE reverses somewhat as interest rates drop more than 200 basis points, while the rate of increase in EVE begins to taper offaccelerates the higher interest rates rise. This phenomenonincrease in sensitivity is caused by the relative durations of our fixed-rate assets and liabilities, combined with optionality inherentincrease in our balance sheet.gross deposits, namely, an increase in noninterest bearing deposits. We also run stress scenarios for the unconsolidated Bank’s EVE to simulate the possibility of adverse movement in loan prepaymentprepay­ment rates, unfavorable changes in deposit rates, and higher deposit decay rates. Model results are highly sensitive to changes in assumed decay rates for non-maturity deposits, in particular, with material unfavorable variances occurring relative to the standard simulations shown above as decay rates are increased. Furthermore, while not as extreme as the variances produced by increasing non-maturity deposit decay rates, EVE also displays a relatively high level of sensitivity to unfavorable changes in deposit rate betas in rising interest rate scenarios.

CAPITAL RESOURCES

The Company had total shareholders’ equity of $296.9$327.4 million at June 30, 2019,2020, comprised of $113.0$112.6 million in common stock, $3.2$3.5 million in additional paid-in capital, $176.3$195.1 million in retained earnings, and accumulated other comprehensive income of $4.2$16.2 million. At the end of 2018,2019, total shareholders’ equity was $273.0$309.3 million. The increase

55

for during the first six months of 20192020 is due to the addition of capital from net income and stock options exercised as well as a $10.9$10.3 million favorable swing in accumulated other comprehensive income, (moving from a $6.7 million loss to $4.2 million income), net of the impact of cash dividends paid.paid and share repurchases. There were norepurchases totaling 112,050 shares at a weighted average cost of $22.86 per share repurchases executed by the Company during the six months ended June 30, 2019.first quarter of 2020. The Company has 268,301 shares authorized to repurchase under the current repurchase program. The Company suspended its stock repurchase program on March 16, 2020 and continues to evaluate when or if we will restart repurchasing shares.

The Company uses a variety of measures to evaluate its capital adequacy, including risk-based capital andthe leverage ratios that arewhich is calculated separately for the Company and the Bank. Management reviews these capital measurements on a quarterly basis and takes appropriate action to help ensure that they meet or surpass established internal and external guidelines. As permitted by the regulators for financial institutions that are not deemed to be “advanced approaches” institutions, the Company has elected to opt out of the Basel III requirement to include accumulated other comprehensive income in risk-based capital. The following table sets forth the consolidated Company’s and the Bank’s regulatory capital ratios as of the dates indicated.

60

Regulatory Capital Ratios

Minimum

Minimum

Requirement

Required

June 30,

December 31,

to be

Community Bank

    

2020

    

2019

    

 Well Capitalized (3)

Leverage Ratio (2) (4)

Sierra Bancorp

Common Equity Tier 1 Capital to Risk-Weighted Assets (1)

N/A

13.27

%

6.50

%

N/A

Tier 1 Capital to Risk-weighted Assets (1)

N/A

14.98

%

8.00

%

N/A

Total Capital to Risk-weighted Assets (1)

N/A

15.48

%

10.00

%

N/A

Tier 1 Capital to Adjusted Average Assets ("Leverage Ratio") (1)

N/A

11.91

%

5.00

%

N/A

Bank of the Sierra

Common Equity Tier 1 Capital to Risk-Weighted Assets (1)

N/A

14.75

%

6.50

%

N/A

Tier 1 Capital to Risk-weighted Assets (1)

N/A

14.75

%

8.00

%

N/A

Total Capital to Risk-weighted Assets (1)

N/A

15.25

%

10.00

%

N/A

Tier 1 Capital to Adjusted Average Assets ("Leverage Ratio")

10.87

%

11.73

%

5.00

%

8.00

%

 

 

 

 

 

 

 

 

 

 

June 30,

 

December 31,

 

Minimum Requirement

 

 

    

2019

    

2018

    

to be Well Capitalized

 

Sierra Bancorp

 

 

 

 

 

 

 

Common Equity Tier 1 Capital to Risk-Weighted Assets

 

12.95

%

12.61

%

6.50

%

Tier 1 Capital to Risk-weighted Assets

 

14.68

%

14.38

%

8.00

%

Total Capital to Risk-weighted Assets

 

15.19

%

14.89

%

10.00

%

Tier 1 Capital to Adjusted Average Assets ("Leverage Ratio")

 

11.73

%

11.49

%

5.00

%

 

 

 

 

 

 

 

 

Bank of the Sierra

 

 

 

 

 

 

 

Common Equity Tier 1 Capital to Risk-Weighted Assets

 

14.57

%

14.25

%

6.50

%

Tier 1 Capital to Risk-weighted Assets

 

14.57

%

14.25

%

8.00

%

Total Capital to Risk-weighted Assets

 

15.08

%

14.77

%

10.00

%

Tier 1 Capital to Adjusted Average Assets ("Leverage Ratio")

 

11.64

%

11.39

%

5.00

%

(1)Current data is not applicable as the Bank adopted the Community Bank Leverage Ratio Framework as of the first quarter of 2020.
(2)The minimum required Community Bank Leverage Ratio is 9.00%, but the CARES Act temporarily lowers this to 8% as described below.
(3)The Company was subject to these minimum requirements under the regulatory framework for Prompt Corrective Action at December 31, 2019.
(4)If the subsidiary bank’s Leverage Ratio exceeds the minimum ratio under the Community Bank Leverage Ratio Framework, it is deemed to be “well capitalized” under all other regulatory capital requirements. The Company may revert back to the regulatory framework for Prompt Corrective Action if the subsidiary bank’s Leverage Ratio falls below the minimum under the Community Bank Leverage Ratio Framework.

Our risk-basedThe federal banking agencies published a final rule on November 13, 2019, that provided a simplified measure of capital ratios increased duringadequacy for qualifying community banking organizations.  A qualifying community banking organization that opts into the first six months of 2019, as growth in risk-basedcommunity bank leverage ratio framework and maintains a leverage ratio greater than 9 percent will be considered to have met the minimum capital outpaced growth in risk-adjusted assets.  Ourrequirements, the capital ratios are strong relative to the median for peer financial institutions, and remain well above the thresholdratio requirements for the well capitalized category under the Prompt Corrective Action framework, and any other capital or leverage requirements to which the qualifying banking organization is subject.  A qualifying community banking organization with a leverage ratio of greater than 9 percent may opt into the community bank leverage ratio framework if has average consolidated total assets of less than $10 billion, has off-balance-sheet exposures of 25% or less of total consolidated assets, and has total trading assets and trading liabilities of 5 percent or less of total consolidated assets.   Further, the bank must not be an advance approaches banking organization. 

The final rule became effective January 1, 2020 and banks that meet the qualifying criteria can elect to use the community bank leverage framework starting with the quarter ended March 31, 2020. The CARES Act reduced the required community bank leverage ratio to 8% until the earlier of December 31, 2020, or the national emergency is declared over.  The federal bank regulatory agencies adopted an interim final rule to implement this change from the CARES Act. The Company and the Bank to be classified as “well capitalized,”meet the highest rating ofcriteria outlined in the categories defined under the Bank Holding Company Actfinal rule and the Federal Deposit Insurance Corporation Improvement Act of 1991.  We do not foresee any circumstances that would causeinterim final rule and have adopted the Company orcommunity bank leverage ratio framework in the Bank to be less than well capitalized, although no assurance can be given that this will not occur.first quarter 2020.

PART I – FINANCIAL INFORMATION

Item 3

QUALITATIVE & QUANTITATIVE DISCLOSURES

ABOUT MARKET RISK

The information concerning quantitative and qualitative disclosures about market risk is included in Part I, Item 2 above. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Liquidity and Market Risk Management.”

5661

PART I – FINANCIAL INFORMATION

Item 4

CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures

The Company’s Chief Executive Officer and its Chief Financial Officer, after evaluating the effectiveness of the Company’s disclosure controls and procedures (as defined in Exchange Act Rules 13a‑15(e)13a-15(e) and 15d‑15(e)15d-15(e)) as of the end of the period covered by this report (the “Evaluation Date”) have concluded that as of the Evaluation Date, the Company’s disclosure controls and procedures were adequate and effective to ensure that material information relating to the Company and its consolidated subsidiaries would be made known to them by others within those entities, particularly during the period in which this quarterly report was being prepared.

Disclosure controls and procedures are designed to ensure that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is accumulated and communicated to our Management, including our Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure, and that such information is recorded, processed, summarized, and reported within the time periods specified by the SEC.

Changes in Internal Controls

There were no significant changes in the Company’s internal controls over financial reporting that occurred in the second quarterfirst six months of 20192020 that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

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PART II - OTHER INFORMATION

ITEM 1: LEGAL PROCEEDINGS

The Company is involved in various legal proceedings in the normal course of business. In the opinion of Management, any liability resulting from such proceedings would not have a material adverse effect on the Company’s financial condition or results of operations.

ITEM 1A: RISK FACTORS

There were no material changes from theThe following risk factors disclosedsupplement the risks described in the Company’s Form 10‑K10-K under Item 1A, “Risk Factors” for the fiscalits year ended December 31, 2018.2019 filed with the Securities and Exchange Commission pursuant to the Securities Exchange Act of 1934, as amended. The ongoing COVID-19 pandemic may also have the effect of heightening many of the other risks described in the section entitled “Risk Factors” in our most recent Annual Report on Form 10-K and any subsequent filings with the U.S. Securities and Exchange Commission.

Our business, results of operations, and financial condition have been, and will likely continue to be, adversely affected by the ongoing COVID-19 pandemic.

The ongoing COVID-19 pandemic, and governmental and societal responses thereto, have had a severe impact on recent global economic and market conditions, including significant disruption of, and volatility in, financial markets; global supply chain disruptions; and the institution of social distancing and shelter-in-place requirements that have resulted in temporary closures of many businesses, lost revenues, and increased unemployment throughout the United States, but also specifically in California, where all of our operations and a large majority of our customers are located.

These conditions have impacted and are expected in the future to impact-our business, results of operations, and financial condition negatively, including through lower revenue from certain of our fee-based businesses; lower net interest income resulting from lower interest rates and increased loan delinquencies; increased provisions for credit losses; impairments on the securities we hold; and decreased demand for certain of our products and services. Additionally, our liquidity and regulatory capital could be adversely impacted by volatility and disruptions in the capital and credit markets; deposit flows; and continued client draws on lines of credit as well as our participation in the Small Business Administration Paycheck Protection Program. Our business operations may also be disrupted if significant portions of our workforce are unable to work effectively, including because of illness, quarantines, government actions, or other restrictions in connection with the pandemic. Negative impacts from these conditions also may include:

Collateral securing our loans may decline in value, which could increase credit losses in our loan portfolio and increase the allowance for loan losses.
Demand for our products and services may decline, and deposit balances may decrease making it difficult to grow assets and income.
The decline in the target federal funds rate could decrease yields on our assets that exceed the decline in our cost of interest-bearing liabilities, which may reduce our net interest margin.
The impact of the adoption of the CECL standard, which is highly dependent on unemployment rate forecasts over the life of our loans, could significantly increase the allowance for credit losses and decrease net income.

While governmental authorities have taken unprecedented measures to provide economic assistance to individual households and businesses, stabilize the markets, and support economic growth, the success of these measures is unknown and they may not be sufficient to mitigate fully the negative impact of the ongoing pandemic. Further, some measures, such as a suspension of mortgage and other loan payments and foreclosures, may have a negative impact on our business, while our participation in other measures could result in reputational harm, litigation, or regulatory and government actions, proceedings, or penalties.

63

The extent to which the COVID-19 pandemic impacts our business, results of operations and financial condition will depend on future developments, which are highly uncertain and are difficult to predict, including, but not limited to, the duration and spread of the outbreak, its severity, the actions to contain the virus or treat its impact, and how quickly and to what extent normal economic and operating conditions can resume, particularly in California.

Our Traditional Service Delivery Channels may be Impacted by the COVID-19 Pandemic

In light of the external COVID-19 threat, the Board of Directors and senior management are continuously monitoring the situation, providing frequent communications, and making adjustments and accommodations for both external clients and our employees. All branches remain open to serve our customers and local communities, with modified hours and strict social distancing protocols in place as well as limiting our branches to walk-up, drive-up or appointment only customer visits. Our customers have been encouraged to utilize branch alternatives such as using our ATMs, online banking, and mobile banking application in lieu of in-branch transactions. In addition, many employees are working remotely and travel as well as face-to-face meeting restrictions are in effect. Further, given the increase of the risk of cybersecurity incidents during the pandemic, we have enhanced our cybersecurity protocols. If the pandemic worsens, resurges or lasts for an extended period of time, to protect the health of the Company’s workforce and our customers, we may need to enact further precautionary measures to help minimize the risks to our employees and customers, thus potentially altering our service delivery channels and operations over a prolonged period. These changes to our traditional service delivery channels may negatively impact our customers’ experience of banking with us, result in loss of service fees, and increase costs through equipment and services needed to support a remote workforce, and therefore negatively impact our financial condition and results of operation.

ITEM 2: UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

(c)   Stock Repurchases

In September 2016 the Board authorized 500,000 shares of common stock for repurchase, subsequent to the completion of previous stock buyback plans. The authorization of shares for repurchase does not provide assurance that a specific quantity of shares will be repurchased, and the program can be suspended at any time at Management’s discretion. After a lengthy deferral of repurchase activity, the Company resumed share repurchases in mid-August 2019 through March 2020. The Company did notfollowing table provides information concerning the Company’s stock repurchase any shares intransactions during the second quarter of 2019 and in fact has not engaged in repurchase activity since the fourth quarter of 2016, thus there were 478,954 authorized shares remaining available for repurchase at June 30, 2019.  Management has recently explored the possibility of resuming stock repurchase activity.  If a decision is made to pursue that course of action, Management intends to file an 8-K at the appropriate time.2020:

Stock Repurchases

April 30, 2020

May 31, 2020

June 30, 2020

Total shares repurchased

Average per share price

$

N/A

$

N/A

$

N/A

Number of shares purchased as part of a publicly announced plan or program

Maximum number of shares remaining for purchase under a plan or program

380,351

380,351

380,351

ITEM 3: DEFAULTS UPON SENIOR SECURITIES

Not applicable

ITEM 4: MINE SAFETY DISCLOSURES

Not applicable

ITEM 5: OTHER INFORMATION

Not applicable

ITEM 5: OTHER INFORMATION

Not applicable

5864

ITEM 6: EXHIBITS

Exhibit #

    

Description

    2.1

Agreement and Plan of Consolidation by and among Sierra Bancorp, Bank of the Sierra and Santa Clara Valley Bank, N.A., dated as of July 17, 2014 (1)

    2.2

Agreement and Plan of Reorganization and Merger, dated as of January 4, 2016 by and between Sierra Bancorp and Coast Bancorp (2)

    2.3

Agreement and Plan of Reorganization and Merger, dated as of April 24, 2017 by and between Sierra Bancorp and OCB Bancorp, as amended by Amendment No.  1 thereto dated May 4, 2017 and Amendment No.  2 thereto dated June 6, 2017 (3)

    3.1

Restated Articles of Incorporation of Sierra Bancorp (4)(1)

    3.2

Amended and Restated By-laws of Sierra Bancorp (5)(2)

    4.1

Description of Securities (3)

  10.1

Salary Continuation Agreement for Kenneth R. Taylor (6)(4)*

  10.2

Salary Continuation Agreement and Split Dollar Agreement for James F. Gardunio (7)(5)*

  10.3

Split Dollar Agreement for Kenneth R. Taylor (8)(6)*

  10.4

Director Retirement and Split dollar Agreements Effective October 1, 2002, for Albert Berra, Morris Tharp, and Gordon Woods (8)(6)*

  10.5

401 Plus Non-Qualified Deferred Compensation Plan (8)(6)*

  10.6

Indenture dated as of March 17, 2004 between U.S. Bank N.A., as Trustee, and Sierra Bancorp, as Issuer (9)(7)

  10.7

Amended and Restated Declaration of Trust of Sierra Statutory Trust II, dated as of March 17, 2004 (9)(7)

  10.8

Indenture dated as of June 15, 2006 between Wilmington Trust Co., as Trustee, and Sierra Bancorp, as Issuer (10)(8)

  10.9

Amended and Restated Declaration of Trust of Sierra Capital Trust III, dated as of June 15, 2006 (10)(8)

  10.10

2007 Stock Incentive Plan (11)(9)

  10.11

Sample Retirement Agreement Entered into with Each Non-Employee Director Effective January 1, 2007 (12)(10)*

  10.12

Salary Continuation Agreement for Kevin J. McPhaill (12)(10)*

  10.13

First Amendment to the Salary Continuation Agreement for Kenneth R. Taylor (12)(10)*

  10.14

Second Amendment to the Salary Continuation Agreement for Kenneth R. Taylor (13)(11)*

  10.15

First Amendment to the Salary Continuation Agreement for Kevin J. McPhaill (14)(12)*

  10.16

Indenture dated as of September 20, 2007 between Wilmington Trust Co., as Trustee, and Coast Bancorp, as Issuer (15)(13)

  10.17

Amended and Restated Declaration of Trust of Coast Bancorp Statutory Trust II, dated as of September 20, 2007 (15)(13)

  10.18

First Supplemental Indenture dated as of July 8, 2016, between Wilmington Trust Co. as Trustee, Sierra Bancorp as the “Successor Company”, and Coast Bancorp (15)(13)

  10.19

2017 Stock Incentive Plan (16)(14)*

  10.20

Employment agreements dated as of December 27, 2018 for Kevin McPhaill, CEO, Kenneth Taylor, CFO, James Gardunio, Chief Credit Officer, and Michael Olague, Chief Banking Officer (17)(15)*

  10.21

Employment agreement dated as of March 15, 2019 for Matthew Macia, Chief Risk Officer (18)(16)*

  1110.22

StatementEmployment agreement dated as of ComputationNovember 15, 2019 for Christopher Treece, Chief Financial Officer (17)*

  10.23

Employment agreement dated as of Per Share Earnings (19)January 17, 2020 for Jennifer Johnson, Chief Administrative Officer (18)*

  31.1

Certification of Chief Executive Officer (Section 302 Certification)

  31.2

Certification of Chief Financial Officer (Section 302 Certification)

  32

Certification of Periodic Financial Report (Section 906 Certification)

101.INS

XBRL Instance Document

101.SCH

XBRL Taxonomy Extension Schema Document

101.CAL

XBRL Taxonomy Extension Calculation Linkbase Document

101.DEF

XBRL Taxonomy Extension Definition Linkbase Document

101.LAB

XBRL Taxonomy Extension Label Linkbase Document

101.PRE

XBRL Taxonomy Extension Presentation Linkbase Document


(1)

(1)

Filed as an Exhibit to the Form 8‑K filed with the SEC on July 18, 2014 and incorporated herein by reference.

(2)

Filed as an Exhibit to the Form 8‑K filed with the SEC on January 5, 2016 and incorporated herein by reference.

(3)

Original agreement filed as an exhibit to the Form 8‑K filed with the SEC on April 25, 2017 and incorporated herein by reference, and amendments thereto filed as appendices to the proxy statement/prospectus included in the Form S‑4/A filed with the SEC on July 24, 2017 and incorporated herein by reference.

(4)

Filed as Exhibit 3.1 to the Form 10‑Q10-Q filed with the SEC on August 7, 2009 and incorporated herein by reference.

(2)

(5)

Filed as an Exhibit to the Form 8‑K10-K filed with the SEC on March 12, 2020.

(3)Filed as an Exhibit to the Form 8-K filed with the SEC on February 21, 2007 and incorporated herein by reference.

(4)

(6)

Filed as Exhibit 10.5 to the Form 10‑Q10-Q filed with the SEC on May 15, 2003 and incorporated herein by reference.

(5)

(7)

Filed as an Exhibit to the Form 8‑K8-K filed with the SEC on August 11, 2005 and incorporated herein by reference.

(6)

(8)

Filed as Exhibits 10.10, 10.18 through 10.20, and 10.22 to the Form 10‑K10-K filed with the SEC on March 15, 2006 and incorporated herein by reference.

(7)

(9)

Filed as Exhibits 10.9 and 10.10 to the Form 10‑Q10-Q filed with the SEC on May 14, 2004 and incorporated herein by reference.

(8)

(10)

Filed as Exhibits 10.26 and 10.27 to the Form 10‑Q10-Q filed with the SEC on August 9, 2006 and incorporated herein by reference.

(9)

(11)

Filed as Exhibit 10.20 to the Form 10‑K10-K filed with the SEC on March 15, 2007 and incorporated herein by reference.

(10)

(12)

Filed as Exhibits 10.1 through 10.3 to the Form 8‑K8-K filed with the SEC on January 8, 2007 and incorporated herein by reference.

(11)

(13)

Filed as Exhibit 10.23 to the Form 10‑K10-K filed with the SEC on March 13, 2014 and incorporated herein by reference.

(12)

(14)

Filed as Exhibit 10.24 to the Form 10‑Q10-Q filed with the SEC on May 7, 2015 and incorporated herein by reference.

(13)

(15)

Filed as Exhibits 10.1 through 10.3 to the Form 8‑K8-K filed with the SEC on July 11, 2016 and incorporated herein by reference.

(14)

(16)

Filed as Exhibit 10.1 to the Form 8‑K8-K filed with the SEC on March 17, 2017 and incorporated herein by reference.

(15)

(17)

Filed as Exhibits 99.1 through 99.4 to the Form 8‑K8-K filed with the SEC on December 28, 2018 and incorporated by reference.

(16)

(18)

Filed as Exhibit 99.2 to the Form 8‑K8-K filed with the SEC on March 18, 2019 and incorporated by reference.

(17)

(19)

Computation of earnings per share isFiled as Exhibit 99.1 to the Form 8-K filed with the SEC on November 11, 2019 and incorporated by reference to Note 5reference.

(18)Filed as Exhibit 99.1 to the Financial Statements included herein.

Form 8-K filed with the SEC on January 21, 2020 and incorporated by reference.

*Indicates management contract or compensatory plan or arrangement.

5965

SIGNATURES

SIGNATURES

Pursuant to the Securities Exchange Act of 1934, the Company has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized:

August 6, 2020

    

August 7, 2019

/s/ Kevin J. McPhaill

Date

SIERRA BANCORP

Kevin J. McPhaill

President & Chief Executive Officer

(Principal Executive Officer)

August 7, 20196, 2020

/s/ Kenneth R.  TaylorChristopher G. Treece

Date

SIERRA BANCORP

Kenneth R.  TaylorChristopher G. Treece

Chief Financial Officer

August 6, 2020

(Principal Financial and /s/ Cindy L. Dabney

Date

SIERRA BANCORP

Cindy L. Dabney

Principal Accounting Officer)Officer

6066