DCB Financial (DCBF) 10-Q 2014 Q2 Quarterly report

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THESECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended:June 30, 2014

OR

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

Commission file number: 0-22387

DCB Financial Corp

(Exact name of registrant as specified in its charter)

Ohio	31-1469837
(State or other jurisdiction of	(I.R.S. Employer Identification Number)
incorporation or organization)

110 Riverbend Avenue, Lewis Center, Ohio 43035

(Address of principal executive offices)

(740) 657-7000

(Registrant’s telephone number)

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.

Yesx        No¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted 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 and post such files).        Yesx        No¨

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

Large accelerated filers¨ Accelerated filer¨ Non-accelerated filer¨ Smaller reporting companyx

Indicate by check mark whether the registrant is a shell company (as defined in Exchange Act Rule 12b-2).

Yes¨        Nox

As of August 12, 2014, the latest practicable date, 7,192,350 shares of the registrant’s no par value common stock were issued and outstanding.

DCB Financial Corp

Table of Contents

	Page
Part I – Financial Information
Item 1 – Financial Statements
Consolidated Balance Sheets as of June 30, 2014 (unaudited) and December 31, 2013	3
Consolidated Statements of Income (unaudited) for the three and six month periods ended June 30, 2014 and 2013	4
Consolidated Statements of Comprehensive Income (unaudited) for the three and six month periods ended June 30, 2014 and 2013	5
Consolidated Statements of Cash Flows (unaudited) for the six month periods ended June 30, 2014 and 2013	6
Notes to the Consolidated Financial Statements	7
Item 2 - Management’s Discussion and Analysis of Financial Condition and Results of Operations	29
Item 3 - Quantitative and Qualitative Disclosures about Market Risk	41
Item 4 – Controls and Procedures	41
Part II – Other Information	42
Item 1 – Legal proceedings	42
Item 1A – Risk Factors	42
Item 2 – Unregistered Sales of Equity Securities and Use of Proceeds	42
Item 3 – Defaults Upon Senior Securities	42
Item 4 – Mine Safety Disclosures	42
Item 5 – Other Information	42
Item 6 – Exhibits	42
Signatures	43

2.

Part I – Financial Information

DCB Financial Corp and Subsidiaries

Consolidated Balance Sheets (Unaudited)

	June 30, 2014			December 31, 2013
	(Dollars in thousands, except share and per share data)
Assets
Cash and due from financial institutions	$	5,632		$	6,110
Interest-bearing deposits		23,189			19,247
Total cash and cash equivalents		28,821			25,357
Securities available-for-sale		80,690			79,948
Loans		356,339			356,048
Less allowance for loan losses		(4,568	)		(6,724	)
Net loans		351,771			349,324
Loans held for sale		1,329			7,806
Real estate owned		1,406			1,219
Investment in FHLB stock		3,250			3,799
Premises and equipment, net		10,326			10,641
Premises and equipment held for sale		—			1,405
Bank-owned life insurance		19,699			19,297
Accrued interest receivable and other assets		3,158			3,623
Total assets	$	500,450		$	502,419
Liabilities and stockholders’ equity
Liabilities:
Deposits:
Non-interest bearing	$	108,547		$	109,622
Interest bearing		327,563			317,237
Total deposits		436,110			426,859
Deposits held for sale		—			22,571
Federal Home Loan Bank advances		4,823			4,838
Accrued interest payable and other liabilities		12,701			2,887
Total liabilities		453,634			457,155
Stockholders’ equity:
Common stock, no par value 7,500,000 shares authorized and issued at June 30, 2014 and December 31, 2013		15,771			15,771
Preferred stock, no par value, 2,000,000 shares authorized and none issued at June 30, 2014 and December 31, 2013		—			—
Retained earnings		37,839			37,683
Treasury stock, at cost, 307,650 shares at June 30, 2014 and December 31, 2013		(7,416	)		(7,416	)
Accumulated other comprehensive income (loss)		622			(774	)
Total stockholders’ equity		46,816			45,264
Total liabilities and stockholders’ equity	$	500,450		$	502,419
Common shares outstanding		7,192,350			7,192,350
Book value per common share	$	6.51		$	6.29

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

3.

DCB Financial Corp and Subsidiaries

Consolidated Statements of Income (Unaudited)

	For the three months ended June 30,						For the six months ended June 30,
	2014			2013			2014			2013
	(Dollars in thousands, except share and per share data)
Interest income:
Loans	$	3,719		$	3,735		$	7,456		$	7,286
Securities		534			489			1,088			1,055
Federal funds sold and interest bearing deposits		9			21			23			50
Total interest income		4,262			4,245			8,567			8,391
Interest expense:
Deposits:
Savings and money market accounts		136			115			269			220
Time accounts		108			284			237			608
NOW accounts		19			23			37			45
Total		263			422			543			873
FHLB advances		36			72			72			151
Total interest expense		299			494			615			1,024
Net interest income		3,963			3,751			7,952			7,367
Provision for loan losses		—			(240	)		—			(890	)
Net interest income after provision for loan losses		3,963			3,991			7,952			8,257
Non-interest income:
Service charges		489			573			1,000			1,121
Wealth management fees		378			355			671			671
Treasury management fees		59			64			115			126
Income from bank-owned life insurance		164			165			402			405
Writedowns and losses on loans held for sale		(114	)		—			(357	)		—
Loss (gain) on the sale of REO		(4	)		2			(4	)		86
Gain (loss) on the sale of securities available-for-sale		—			135			(140	)		135
Gain on sale of branch		—			—			438			—
Other non-interest income		24			57			62			115
Total non-interest income		996			1,351			2,187			2,659
Non-interest expense:
Salaries and employee benefits		2,712			2,864			5,490			5,836
Occupancy and equipment		837			800			1,641			1,593
Professional services		197			491			617			947
Advertising		77			66			158			173
Office supplies, postage and courier		89			94			184			199
FDIC insurance premium		172			101			340			254
State franchise taxes		67			133			132			344
Other non-interest expense		771			891			1,421			1,550
Total non-interest expense		4,922			5,440			9,983			10,896
Income (loss) before income tax benefit		37			(98	)		156			20
Income tax benefit		—			(254	)		—			(278	)
Net income	$	37		$	156		$	156		$	298
Share and Per Share Data
Basic average common shares outstanding		7,192,350			7,192,350			7,192,350			7,192,350
Diluted average common shares outstanding		7,250,702			7,227,901			7,247,315			7,225,573
Basic earnings per common share	$	0.01		$	0.02		$	0.02		$	0.04
Diluted earnings per common share	$	0.01		$	0.02		$	0.02		$	0.04

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

4.

DCB Financial Corp and Subsidiaries

Consolidated Statements of Comprehensive Income (Unaudited)

	For the three months ended June 30,					For the six months ended June 30,
	2014		2013			2014			2013
	(Dollars in thousands)
Net income	$	37	$	156		$	156		$	298
Other comprehensive income:
Reclassification of previously recognized noncredit other-than-temporary impairment on sale of security, net of tax $0, $512, $(48), and $512, in 2014 and 2013, respectively		—		995			(92	)		995
Net unrealized gains (losses) on securities available-for-sale, net of related taxes of $195, $(398), $766 and $(386), in 2014 and 2013, respectively		380		(772	)		1,488			(749	)
Unrealized gains on securities transferred to available-for-sale, net of related taxes of $131		—		254			—			254
Amortization of unrealized losses on held- to-maturity securities, net of taxes $9 and $21, respectively		—		19			—			42
Total other comprehensive income		380		496			1,396			542
Comprehensive income	$	417	$	652		$	1,552		$	840

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

5.

DCB Financial Corp

Consolidated Statements of Cash Flows (Unaudited)

For the Six Months Ended June 30,

(Dollars in thousands)

	2014			2013
Cash flows from operating activities
Net income	$	156		$	298
Adjustments to reconcile net income to net cash provided by operating activities
Depreciation		545			556
Income tax benefit		—			(278	)
Provision for loan losses		—			(890	)
Writedowns and losses on loans held for sale		357			—
Loss (gain) on sale of securities available-for-sale		140			(135	)
Loss (gain) on sale of real estate owned		4			(86	)
Gain on sale of branch		(438	)		—
Stock option plan expense		102			109
Premium amortization on securities, net		535			855
Earnings on bank owned life insurance		(402	)		(405	)
Net changes in other assets and other liabilities		9,457			4,456
Net cash provided by operating activities		10,456			4,480
Cash flows from investing activities
Securities
Purchases		(11,850	)		(17,035	)
Proceeds from sales		2,133			2,565
Proceeds from maturities, principal payments and calls		10,416			15,417
Net change in loans		(2,009	)		(27,631	)
Proceeds from sale of real estate owned		318			1,667
Premises and equipment expenditures		(241	)		(630	)
Net cash paid upon sale of branch		(12,464	)		—
Proceeds from redemption of FHLB stock		549			—
Proceeds from sale of loans		423			—
Net cash used in investing activities		(12,725	)		(25,647	)
Cash flows from financing activities
Net change in deposits		5,748			(2,102	)
Repayment of Federal Home Loan Bank advances		(15	)		(1,738	)
Net cash provided by (used in) financing activities		5,733			(3,840	)
Net change in cash and cash equivalents		3,464			(25,007	)
Cash and cash equivalents at beginning of period		25,357			63,307
Cash and cash equivalents at end of period	$	28,821		$	38,300
Supplemental disclosures of cash flow information:
Cash paid during the period for:
Interest on deposits and borrowings	$	620		$	1,042
Non-cash investing and financing activities
Transfer of loans to real estate owned	$	509		$	10

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

6.

DCB Financial Corp and Subsidiaries

Notes to Consolidated Financial Statements

Note 1 - Summary Of Significant Accounting Policies

Throughout this report, the terms “Company,” “DCB,” “we,” “our” and “us” refers to the consolidated entity of DCB Financial Corp and its wholly owned subsidiaries, The Delaware County Bank and Trust Company (the “Bank”), DCB Title Services LLC, Datatasx LLC, and DCB Insurance Services, Inc.

The accompanying unaudited financial statements were prepared in accordance with the instructions for Form 10-Q and Regulation S-X and, therefore, do not include information for footnotes necessary for a complete presentation of financial condition, results of operations, and cash flows in conformity with accounting principles generally accepted in the United States of America (“U.S. GAAP”). The material under the heading “Management’s Discussion and Analysis of Financial Condition and Results of Operations” is written with the presumption that the users of the interim financial statements have read, or have access to, the latest audited financial statements and notes thereto of the Company, together with Management’s Discussion and Analysis of Financial Condition and Results of Operations as of December 31, 2013, and for the two-year period then ended, included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2013. Accordingly, only material changes in the results of operations and financial condition are discussed in the remainder of Part I. Certain amounts from prior year periods are reclassified, when necessary, to conform to the current period presentation.

All adjustments, consisting of only normal recurring items, that in the opinion of management are necessary for a fair presentation of the financial statements have been included in the results of operations for the three and six months ended June 30, 2014 and 2013. The results of operations for the three and six months ended June 30, 2014 are not necessarily indicative of the results anticipated for the year.

To prepare financial statements in conformity with accounting principles generally accepted in the United States of America (“US GAAP”), management makes estimates and assumptions based on available information. These estimates and assumptions affect amounts reported in the financial statements and disclosures provided, and future results could differ. The allowance for loan losses, fair values of financial instruments and status of contingencies are particularly subject to change.

Earnings per share

Earnings per common share is net income divided by the weighted-average number of shares of common stock outstanding during the period. Diluted earnings per common share is computed including the dilutive effect of additional potential common shares under stock options. Weighted-average shares for basic and diluted earnings per share are presented below.

	Three Months Ended June 30,				Six Months Ended June 30,
	2014		2013		2014		2013
Weighted-average common shares outstanding (basic)		7,192,350		7,192,350		7,192,350		7,192,350
Dilutive effect of assumed exercise of stock options		58,352		35,551		54,965		33,223
Weighted-average common shares outstanding (diluted)		7,250,702		7,227,901		7,247,315		7,225,573

There were 150,609 shares included in the computation of common share equivalents for the periods ended June 30, 2014 and 2013 because the average fair value of the shares was greater than the exercise price.

7.

DCB Financial Corp and Subsidiaries

Notes to Consolidated Financial Statements

Stock-Based Compensation

The Company has a stock option plan for employees and directors as described in Note 6 (Stock-Based Compensation). In addition to equity settlement, the stock option plan also allows for cash settlement of options at the recipient’s discretion; therefore, liability accounting applies to this plan. Compensation expense is recognized based on the fair value of these awards at the reporting date. A Black Scholes model is utilized to estimate the fair value of stock options at the date of grant and subsequent remeasurement dates. Compensation cost is recognized over the required service period, generally defined as the vesting period for stock option awards. The Company’s stock option awards contain terms that provide for a graded vesting schedule whereby portions of the award vest in increments over the requisite service period. Changes in fair value of the options between the vesting date and option expiration date are also recognized in the Consolidated Statement of Operations.

Significant Accounting Estimates

The Company’s consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States of America and follow general practices within the financial services industry. The application of these principles requires management to make estimates, assumptions, and judgments that affect the amounts reported in the financial statements and accompanying notes. These estimates, assumptions, and judgments are based on information available as of the date of the financial statements; as this information changes, the financial statements could reflect different estimates, assumptions, and judgments.

The procedures for assessing the adequacy of the allowance for loan losses reflect our evaluation of credit risk after careful consideration of all information available to us. In developing this assessment, we must rely on estimates and exercise judgment regarding matters where the ultimate outcome is unknown, such as economic factors, developments affecting companies in specific industries and issues with respect to single borrowers. Depending on changes in circumstances, future assessments of credit risk may yield materially different results, which may require an increase or a decrease in the allowance for loan losses.

The valuation of other assets requires that management utilize a variety of estimates and analysis to determine whether an asset is impaired or other-than-temporarily impaired (“OTTI”). After determining the appropriate methodology for fair value measurement, management then evaluates whether or not declines in fair value below book value are temporary or other-than-temporary impairments. When the Company does not intend to sell a debt security, and it is more likely than not that the Company will not have to sell the security before recovery of its cost basis, it recognizes the credit component of an other-than-temporary impairment of a debt security in earnings and the remaining portion in other comprehensive income.

Loans (including Loans Held for Sale)

Loans are classified as held for investment when management has both the intent and ability to hold the loan for the foreseeable future, or until maturity or payoff. Management’s intent and view of the foreseeable future may change based on changes in business strategies, the economic environment, market conditions and the availability of government programs. Loans that are held for investment are reported at the principal balance outstanding, net of unearned interest, unamortized deferred loan fees and costs and the allowance for loan losses. Loans held for sale are carried at the lower of amortized cost or estimated fair value, determined on an aggregate basis for each type of loan. Net unrealized losses are recognized by charges to income.

8.

DCB Financial Corp and Subsidiaries

Notes to Consolidated Financial Statements

Interest income is accrued based on the unpaid principal balance and includes amortization of net deferred loan fees and costs over the loan term. Interest income on mortgage and commercial loans is discontinued at the time the loan is 90 days delinquent unless the credit is well secured and in process of collection. In all cases, loans are placed on nonaccrual or charged-off at an earlier date if collection of principal or interest is considered doubtful. All interest accrued but not received for loans placed on nonaccrual status is reversed against interest income. Interest received on such loans is accounted for on the cash-basis or cost-recovery method, until qualifying for return to accrual. Loans are returned to accrual status when all the principal and interest amounts contractually due are brought current and future payments are reasonably assured.

When loans are transferred from held for investment to held for sale, specific reserves and allocated pooled reserves included in the allowance for loan and losses are reclassified to reduce the basis of the loans to the lower of cost or estimated fair value less cost to sell.

Allowance for Loan Losses

The allowance for loan losses is a valuation allowance for probable but unconfirmed credit losses, increased by the provision for loan losses and decreased by charge-offs net of recoveries. Loan losses are charged against the allowance when management believes the uncollectibility of a loan balance is confirmed. Subsequent recoveries, if any, are credited to the allowance. Management estimates the required allowance balance based on past loan loss experience, augmented by additional estimates related to the nature and volume of the portfolio, information about specific borrower situations, estimated collateral values, economic conditions and other factors.

The allowance consists of both specific and general components. The specific component relates to loans that are classified as impaired. For those loans that are classified as impaired, an allowance is established when the collateral value, or value of expected discounted cash flows of the impaired loan is lower than the carrying value of that loan. The general component covers non-classified loans and is based on historical charge-off experience and expected loss given default derived from the Bank’s internal risk rating process. Management utilizes an average of a three year historical loss period. Management has the ability to adjust these loss rates by utilizing risk ratings based on current period trends. If current period trends differ either positively or negatively from the given weighted historical loss rates, adjustments can be made. Other adjustments may be made to the allowance for pools of loans after an assessment of internal or external influences on credit quality that are not fully reflected in the historical loss or risking rating data.

Management also utilizes its assessment of general economic conditions, and other localized economic data to more fully support its loan loss estimates. General economic data may include: inflation rates, savings rates and national unemployment rates. Local data may include: unemployment rates, housing starts, real estate valuations, and other economic data specific to the Company’s market area. Though not specific to individual loans, these economic trends can have an impact on portfolio performance as a whole.

Uncollectibility is usually determined based on a pre-determined number of days delinquent in the case of consumer loans, or, in the case of commercial loans, is based on a combination of factors including delinquency, collateral and other legal considerations. Consumer loans are charged-off prior to 120 days of delinquency, but could be charged off earlier, depending on the individual circumstances. Mortgage loans are charged down prior to 180 days of delinquency, but could be charged off sooner, again, depending upon individual circumstance. Typically, loans collateralized by residential real estate are partially charged down to the estimated liquidation value, which is generally based on appraisal less costs to hold and liquidate. Commercial and commercial real estate loans are evaluated for impairment and typically reserved based on the results of the analysis, then subsequently charged down to a recoverable value when loan repayment is deemed to be collateral dependent. Loans can be partially charged down depending on a number of factors including: the remaining strength of the borrower and guarantor; the type and value of the collateral, and the ease of liquidating collateral; and whether or not collateral is brought onto the bank’s balance sheet via repossession. In the case of commercial and commercial real estate loans, charge-offs, partial or whole, take place when management determines that full collectability of principal balance is unlikely to occur. Subsequent recoveries, if any, are credited to the allowance. Management’s policies for determining impairment, reserves and charge-offs are reviewed and approved by the Board of Directors on an annual basis.

9.

DCB Financial Corp and Subsidiaries

Notes to Consolidated Financial Statements

Troubled debt restructuring of loans is undertaken to improve the likelihood that the loan will be repaid in full under the modified terms in accordance with a reasonable repayment schedule.  All modified loans are evaluated to determine whether the loans should be reported as a Troubled Debt Restructuring (“TDR”).  A loan is a TDR when the Company, for economic or legal reasons related to the borrower’s financial difficulties, grants a concession to the borrower by modifying or renewing a loan that the Company would not otherwise consider. To make this determination, the Company must determine whether (a) the borrower is experiencing financial difficulties and (b) the Company granted the borrower a concession. This determination requires consideration of all of the facts and circumstances surrounding the modification.  An overall general decline in the economy or some deterioration in a borrower’s financial condition does not automatically mean the borrower is experiencing financial difficulties.

Note 2 – Securities

As of June 30, 2014:

The amortized cost and estimated fair values of securities available-for-sale were as follows (in thousands):

	Amortized Costs		Gross Unrealized Gains		Gross Unrealized Losses		Fair Value
U.S. Government and agency obligations	$	14,184	$	44	$	204	$	14,024
Corporate bonds		5,656		41		24		5,673
States and municipal obligations		21,611		489		162		21,938
Mortgage-backed securities		38,297		921		163		39,055
Total	$	79,748	$	1,495	$	553	$	80,690

As of December 31, 2013:

The amortized cost and estimated fair values of securities available-for-sale were as follows (in thousands):

	Amortized Costs		Gross Unrealized Gains		Gross Unrealized Losses		Fair Value
U.S. Government and agency obligations	$	13,714	$	16	$	428	$	13,302
Corporate bonds		6,187		42		61		6,168
States and municipal obligations		20,651		283		484		20,450
Collateralized debt obligations		1,916		—		940		976
Mortgage-backed securities		38,652		731		331		39,052
Total	$	81,120	$	1,072	$	2,244	$	79,948

10.

DCB Financial Corp and Subsidiaries

Notes to Consolidated Financial Statements

The table below indicates the length of time individual securities have been in a continuous unrealized loss position at June 30, 2014 and December 31, 2013 (dollars in thousands):

June 30, 2014

	(Less than 12 months)						(12 months or longer)						Total
Description of securities	Number of investments		Fair value		Unrealized losses		Number of investments		Fair value		Unrealized losses		Number of investments		Fair value		Unrealized losses
U.S. Government  and agency  obligations		1	$	494	$	1		5	$	5,340	$	203		6	$	5,834	$	204
Corporate bonds		2		790		4		4		1,671		20		6		2,461		24
State and municipal obligations		6		1,905		24		14		4,960		138		20		6,865		162
Mortgage-backed securities and other		8		5,624		35		3		2,931		128		11		8,555		163
Total temporarily impaired securities		17	$	8,813	$	64		26	$	14,902	$	489		43	$	23,715	$	553

December 31, 2013 

	(Less than 12 months)						(12 months or longer)						Total
Description of securities	Number of investments		Fair value		Unrealized losses		Number of investments		Fair value		Unrealized losses		Number of investments		Fair value		Unrealized losses
U.S. Government and agency obligations		10	$	10,680	$	428		—	$	—	$	—		10	$	10,680	$	428
Corporate bonds		5		2,141		38		2		883		23		7		3,024		61
State and municipal obligations		32		11,012		442		2		822		42		34		11,834		484
Collateralized debt obligations		—		—		—		1		976		940		1		976		940
Mortgage-backed securities and other		11		8,445		231		2		1,189		100		13		9,634		331
Total temporarily impaired securities		58	$	32,278	$	1,139		7	$	3,870	$	1,105		65	$	36,148	$	2,244

The unrealized losses on the Company’s investments in U.S. Government and agency obligations, state and political subdivision obligations, corporate bonds and mortgage-backed securities were caused primarily by changes in interest rates. The contractual terms of those investments do not permit the issuer to settle the securities at a price less than the amortized cost bases of the investments. Because the Company does not intend to sell the investments and it is not more likely than not the Company will be required to sell the investments before recovery of their amortized cost bases, which may be maturity, the Company does not consider those investments to be OTTI at June 30, 2014 or December 31, 2013.

Substantially all mortgage-backed securities are backed by pools of mortgages that are insured or guaranteed by the Federal National Mortgage Association (“FNMA”), the Government National Mortgage Association (“GNMA”) or the Federal Home Loan Mortgage Corporation (“FHLMC”).

The Company sold its remaining investment in collateralized debt obligations in the first quarter of 2014 and recognized a loss of $141,000, on the sale. Gross gains on the sale of securities were $1,000 in the first quarter of 2014 and there were no gross gains on the sale of securities in the second quarter of 2014.

11.

DCB Financial Corp and Subsidiaries

Notes to Consolidated Financial Statements

In the second quarter of 2013, the Company sold investments in collateralized debt obligations for a gain of $135,000. These securities that were sold were from the held-to-maturity portfolio and as a result of the sale the remaining held-to-maturity securities were reclassified as available-for-sale. There were no other sales of securities in the three and six months ended June 30, 2013.

At June 30, 2014, there were no holdings of securities of any one issuer, other than the U.S. government and its agencies, in an amount greater than 10% of shareholders’ equity.

The amortized cost and estimated fair value of all debt securities at June 30, 2014, by contractual maturity, are shown below (in thousands). Actual maturities may differ from contractual maturities because issuers may have the right to call or prepay obligations. Mortgage-backed securities are shown separately since they are not due at a single maturity date.

	Available-for-sale
	Amortized		Fair
	Cost		Value
Due in one year or less	$	500	$	511
Due after one to five years		11,514		11,616
Due after five to ten years		19,979		20,036
Due after ten years		9,459		9,472
Mortgage-backed and related securities		38,296		39,055
Total	$	79,748	$	80,690

Securities with a fair value of $68.3 million at June 30, 2014 were pledged to secure public deposits and other obligations.

Note 3 – Loans

At June 30, 2014 and December 31, 2013, loans were comprised of the following (in thousands):

	June 30, 2014		December 31, 2013
Commercial and industrial	$	104,959	$	122,084
Commercial real estate		103,058		104,692
Residential real estate and home equity		114,038		96,245
Consumer and credit card		34,102		32,862
Subtotal		356,157		355,883
Add: Net deferred loan origination fees		182		165
Total loans receivable	$	356,339	$	356,048

Note 4 – Credit Quality

Allowance for Loan Losses

The Company’s methodology for estimating probable future losses on loans utilizes a combination of probability of loss by loan grade and loss given defaults for its portfolios. The probability of default is based on both market data from a third-party independent source and actual historical default rates within the Company’s portfolio. A loan is impaired when full payment of interest and principal under the original contractual loan terms is not expected. Commercial and industrial loans, commercial real estate, including construction and land development, and multi-family real estate loans are individually evaluated for impairment. If a loan is impaired, the loan amount exceeding fair value, based on the most current information available is reserved. Management has developed a process by which commercial and commercial real estate loans receiving an internal grade of substandard or doubtful are individually evaluated for impairment through a loan quality review “(LQR)”. The LQR details the various attributes of the relationship and collateral and determines based on the most recent available information if a specific reserve needs to be applied and at what level. The LQR process for all loans meeting the specific review criteria is completed on a quarterly basis. Large groups of smaller balance homogeneous loans, such as consumer and residential real estate loans, are collectively evaluated for impairment, and accordingly, such loans are not separately identified for impairment disclosures. This methodology recognizes portfolio behavior while allowing for reasonable loss ratios on which to estimate allowance calculations.

12.

DCB Financial Corp and Subsidiaries

Notes to Consolidated Financial Statements

Further, the process for estimating probable loan losses is divided into reviewing impaired loans on an individual basis for probable losses and, as noted above, calculating probable future losses based on historical and market data for homogenous loan portfolios. As the Company’s troubled loan portfolios have been reduced through charge-off, the remaining loan portfolios possess better overall credit characteristics, and based on the Company’s methodology require lower rates of reserving than historical levels.

The tables below present allowance for loan losses by loan portfolio and allocated to loans individually and collectively evaluated for impairment. Commercial real estate includes real estate construction and land development loans (in thousands).

Three Months Ended June 30, 2014 

	Consumer and Credit Card			Commercial and Industrial			Commercial Real Estate			Residential Real Estate and Home Equity			Unallocated		Total
Beginning balance	$	246		$	2,073		$	2,675		$	178		$	173	$	5,345
Charge-offs		(22	)		—			(709	)		(115	)		—		(846	)
Recoveries		28			5			30			6			—		69
Provision		(91	)		(660	)		515			151			85		—
Ending balance	$	161		$	1,418		$	2,511		$	220		$	258	$	4,568

Six Months Ended June 30, 2014

	Consumer and Credit Card			Commercial and Industrial			Commercial Real Estate			Residential Real Estate and Home Equity			Unallocated		Total
Beginning balance	$301			$3,231			$2,973			$219			$—		$6,724
Charge-offs		(68	)		(1,193	)		(868	)		(129	)		—		(2,258	)
Recoveries		59			10			114			16			—		199
Provision		(131	)		(630	)		389			114			258		—
Transferred to loans held for sale		—			—			(97	)		—			—		(97	)
Ending balance	$	161		$	1,418		$	2,511		$	220		$	258	$	4,568
Allowance allocated to:
Individually evaluated for impairment	$	—		$	473		$	1,328		$	—		$	—	$	1,801
Collectively evaluated for impairment		161			945			1,183			220			258		2,767
Ending balance	$	161		$	1,418		$	2,511		$	220		$	258	$	4,568

13.

DCB Financial Corp and Subsidiaries

Notes to Consolidated Financial Statements

At June 30, 2014

Loans	Consumer and Credit Card		Commercial and Industrial		Commercial Real Estate		Residential Real Estate and Home Equity		Unallocated		Total
Individually evaluated for impairment	$	—	$	2,878	$	12,247	$	—	$	—	$	15,125
Collectively evaluated for impairment		34,102		102,081		90,811		114,038		—		341,032
Total	$	34,102	$	104,959	$	103,058	$	114,038	$	—	$	356,157

Three Months Ended June 30, 2013

	Consumer and Credit Card			Commercial and Industrial			Commercial Real Estate			Residential Real Estate and Home Equity			Total
Beginning balance	$	287		$	1,586		$	4,724		$	161		$	6,758
Charge-offs		(98	)		(15	)		(28	)		(46	)		(187	)
Recoveries		50			86			13			23			172
Provision		129			(85	)		(346	)		62			(240	)
Ending balance	$	368		$	1,572		$	4,363		$	200		$	6,503
Individually evaluated for impairment	$	—		$	733		$	2,532		$	—		$	3,265
Collectively evaluated for impairment		368			839			1,831			200			3,238
Ending balance	$	368		$	1,572		$	4,363		$	200		$	6,503

Six Months Ended June 30, 2013

	Consumer and Credit Card			Commercial and Industrial			Commercial Real Estate			Residential Real Estate and Home Equity			Total
Beginning balance	$	365		$	1,621		$	4,692		$	204		$	6,882
Charge-offs		(136	)		(79	)		(130	)		(89	)		(434	)
Recoveries		110			774			23			38			945
Provision		29			(744	)		(222	)		47			(890	)
Ending balance	$	368		$	1,572		$	4,363		$	200		$	6,503

At June 30, 2013 

	Consumer and Credit Card		Commercial and Industrial		Commercial Real Estate		Residential Real Estate and Home  Equity		Total
Loans
Individually evaluated for impairment	$	—	$	5,586	$	20,980	$	—	$	26,566
Collectively evaluated for impairment		29,277		119,723		86,518		83,472		318,990
Total	$	29,277	$	125,309	$	107,498	$	83,472	$	345,556

14.

DCB Financial Corp and Subsidiaries

Notes to Consolidated Financial Statements

Impaired Loans

A loan is considered impaired when based on current information and events it is probable the Bank will be unable to collect all amounts due from the borrower in accordance with the contractual terms of the loan. Impaired loans include nonperforming commercial loans but also include loans modified in troubled debt restructurings where concessions have been granted to borrowers experiencing financial difficulties. These concessions could include a reduction in the interest rate on the loan, payment extensions, forgiveness of principal, forbearance or other actions intended to maximize collection. Commercial and commercial real estate loans with risk grades Substandard, Vulnerable, Doubtful, or Loss are evaluated for impairment.

The following presents by class, information related to the Company’s impaired loans as of June 30, 2014 and December 31, 2013 (in thousands).

At June 30, 2014

	Recorded Investment		Unpaid Principal Balance		Related Allowance		Year-to-date Average Recorded Investment		Year-to-date Interest Income Recognized
With No Related Allowance
Recorded
Commercial and Industrial	$	1,863	$	1,863	$	—	$	1,783	$	35
Commercial Real Estate		8,674		9,047		—		9,373		266
With Allowance Recorded
Commercial and Industrial	$	1,015	$	1,843	$	473	$	2,636	$	21
Commercial Real Estate		3,573		3,889		1,328		5,006		106
Total
Commercial and Industrial	$	2,878	$	3,706	$	473	$	4,419	$	56
Commercial Real Estate		12,247		12,936		1,328		14,379		372
Total	$	15,125	$	16,642	$	1,801	$	18,908	$	435

At December 31, 2013

	Recorded Investment		Unpaid Principal Balance		Related Allowance		Year-to-date Average Recorded Investment		Year-to-date Interest Income Recognized
With No Related Allowance
Recorded
Commercial and Industrial	$	1,530	$	1,530		—	$	3,081	$	67
Commercial Real Estate		9,892		11,788		—		10,005		615
With Allowance Recorded
Commercial and Industrial	$	5,691	$	5,833	$	2,304	$	2,686	$	196
Commercial Real Estate		5,768		7,296		1,862		10,060		308
Total
Commercial and Industrial	$	7,221	$	7,363	$	2,304	$	5,767	$	263
Commercial Real Estate		15,660		19,084		1,862		20,065		923
Total	$	22,881	$	26,447	$	4,166	$	25,832	$	1,186

15.

DCB Financial Corp and Subsidiaries

Notes to Consolidated Financial Statements

The allowance for impaired loans is included in the Company’s overall allowance for loan losses. The provision necessary to increase this allowance is included in the Company’s overall provision for losses on loans.

Loans on nonaccrual status at June 30, 2014 and December 31, 2013 are as follows (in thousands):

	June 30,		December 31,
	2014		2013
Consumer and credit card	$	62	$	—
Commercial and industrial		1,354		4,702
Commercial real estate		2,529		1,398
Residential real estate and home equity		425		352
Total	$	4,370	$	6,452

16.

DCB Financial Corp and Subsidiaries

Notes to Consolidated Financial Statements

Credit Quality Indicators

Corporate risk exposure by risk profile was as follows at June 30, 2014 (in thousands):

Category	Commercial and Industrial		Commercial Real Estate
Pass-1-4	$	96,516	$	87,785
Vulnerable-5		2,613		3,387
Substandard-6		5,830		11,886
Doubtful-7		—		—
Loss-8		—		—
Total	$	104,959	$	103,058

Corporate risk exposure by risk profile was as follows at December 31, 2013 (in thousands):

Category	Commercial and Industrial		Commercial Real Estate
Pass-14	$	111,266	$	83,953
Vulnerable-5		2,574		4,785
Substandard-6		8,244		15,954
Doubtful—7		—		—
Loss-8		—		—
Total	$	122,084	$	104,692

Risk Category Descriptions

Pass (Prime – 1, Good – 2, Fair – 3, Compromised – 4)

Loans with a pass grade have a higher likelihood that the borrower will be able to service its obligations in accordance with the terms of the loan than those loans graded 5, 6, 7, or 8. The borrower’s ability to meet its future debt service obligations is the primary focus for this determination. Generally, a borrower’s expected performance is based on the borrower’s financial strength as reflected by its historical and projected balance sheet and income statement proportions, its performance, and its future prospects in light of conditions that may occur during the term of the loan.

Vulnerable (Special Mention) – 5

Loans which possess some credit deficiency or potential weakness which deserves close attention, but which do not yet warrant substandard classification. Such loans pose unwarranted financial risk that, if not corrected, could weaken the loan and increase risk in the future. The key distinctions of a 5 (Special Mention) classification are that (1) it is indicative of an unwarranted level of risk, and (2) weaknesses are considered “potential”, versus “well-defined”, impairments to the primary source of loan repayment.

17.

DCB Financial Corp and Subsidiaries

Notes to Consolidated Financial Statements

Substandard – 6

Loans that are inadequately protected by the current sound net worth and paying capacity of the obligor or of the collateral pledged, if any. Loans so classified must have well-defined weakness or weaknesses that jeopardize the liquidation of the debt. They are characterized by the distinct possibility that the Bank will sustain some loss if the deficiencies are not corrected. One or more of the following characteristics may be exhibited in loans classified Substandard:

· Loans, which possess a defined credit weakness and the likelihood that a loan will be paid from the primary source, is uncertain. Financial deterioration is underway and very close attention is warranted to ensure that the loan is collected without loss.

· Loans are inadequately protected by the current net worth and paying capacity of the obligor.

· The primary source of repayment is gone, and the Bank is forced to rely on a secondary source of repayment such as collateral liquidation or guarantees.

· Loans are characterized by the distinct possibility that the Bank will sustain some loss if deficiencies are not corrected.

· Unusual courses of action are needed to maintain a high probability of repayment.

· The borrower is not generating enough cash flow to repay loan principal; however, continues to make interest payments.

· The lender is forced into a subordinated or unsecured position due to flaws in documentation.

· Loans have been restructured so that payment schedules, terms and collateral represent concessions to the borrower when compared to the normal loan terms.

· The lender is seriously contemplating foreclosure or legal action due to the apparent deterioration in the loan.

· There is a significant deterioration in the market conditions and the borrower is highly vulnerable to these conditions.

Doubtful – 7

One or more of the following characteristics may be exhibited in loans classified Doubtful:

· Loans have all of the weaknesses of those classified as Substandard. Additionally, however, these weaknesses make collection or liquidation in full based on existing conditions improbable.

· The primary source of repayment is gone, and there is considerable doubt as to the quality of the secondary source of repayment.

· The possibility of loss is high, but, because of certain important pending factors, which may strengthen the loan, loss classification is deferred until its exact status is known. A Doubtful classification is established during this period of deferring the realization of the loss.

Loss – 8

Loans are considered uncollectible and of such little value that continuing to carry them as assets on the institution’s financial statements is not feasible. Loans will be classified Loss when it is neither practical nor desirable to defer writing off or reserving all or a portion of a basically worthless asset, even though partial recovery may be possible at some time in the future.

18.

DCB Financial Corp and Subsidiaries

Notes to Consolidated Financial Statements

Consumer Risk

Consumer risk based on payment activity at June 30, 2014 is as follows (in thousands).

Payment Category	Consumer andCredit Card		Residential Real Estate and Home Equity
Performing	$	34,040	$	113,613
Non-performing		62		425
Total	$	34,102	$	114,038

Consumer risk based on payment activity at December 31, 2013 is as follows (in thousands).

Payment Category	Consumer and Credit Card		Residential Real Estate and Home  Equity
Performing	$	32,862	$	95,893
Non-Performing		—		352
Total	$	32,862	$	96,245

Age Analysis of Past Due Loans

The following table presents past due loans aged as of June 30, 2014 (in thousands).

Category	30-59 Days Past Due		60-89 Days Past Due		90 Days or more Past Due		Total Past Due		Current		Total Loans		Recorded Investment > 90 days and Accruing
Consumer and credit card	$	157	$	68	$	—	$	225	$	33,877	$	34,102	$	—
Commercial and industrial		812		18		302		1,132		103,827		104,959		—
Commercial real estate		—		—		479		479		102,579		103,058		—
Residential real estate and home equity		10		35		289		334		113,704		114,038		—
Total	$	979	$	121	$	1,070	$	2,170	$	353,987	$	356,157	$	—

19.

DCB Financial Corp and Subsidiaries

Notes to Consolidated Financial Statements

The following table presents past due loans aged as of December 31, 2013 (in thousands).

Category	30-59 Days Past Due		60-89 Days Past Due		Greater than 90 Days Past Due		Total  Past Due		Current		Total Loans		Recorded Investment > 90 days and Accruing
Consumer and Credit Card	$	90	$	92	$	—	$	182	$	32,680	$	32,862		$—
Commercial and Industrial		407		—		1,001		1,408		120,676		122,084		—
Commercial Real Estate		49		—		682		731		103,961		104,692		—
Residential Real Estate and Home Equity		374		197		321		892		95,353		96,245		—
Total	$	920	$	289	$	2,004	$	3,213	$	352,670	$	355,883		$—

Troubled Debt Restructurings

Information regarding Troubled Debt Restructuring (“TDR”) loans for the three and six month periods ended June 30, 2014 and 2013 is as follows (dollars in thousands):

	For the three months ended June 30,
	2014				2013
	Number of Contracts		Recorded Investment (as of period end)		Number of Contracts		Recorded Investment (as of period end)
Consumer and Credit Card		—	$	—		1	$	1
Commercial and Industrial		—		—		—		—
Commercial Real Estate		—		—		3		163
Residential Real Estate and Home Equity		—		—		—		—
Total		—	$	—		4	$	164

	For the six months ended June 30,
	2014				2013
	Number of Contracts		Recorded Investment (as of period end)		Number of Contracts		Recorded Investment (as of period end)
Consumer and Credit Card		—	$	—		1	$	1
Commercial and Industrial		1		198		3		903
Commercial Real Estate		—		—		5		3,600
Residential Real Estate and Home Equity		—		—		—		—
Total		1	$	198		9	$	4,504

20.

DCB Financial Corp and Subsidiaries

Notes to Consolidated Financial Statements

The following presents by class loans modified in a TDR that subsequently defaulted within twelve months of the modification (i.e. 60 days or more past due) during the three and six month periods ended June 30, 2014 and 2013 (in thousands).

	For the three months ended June 30,
	2014				2013
	Number of Contracts		Recorded Investment as of period end (1)		Number of Contracts		Recorded Investment as of period end (1)
Consumer and Credit Card		—	$	—		1	$	8
Commercial and Industrial		2		201		—		—
Commercial Real Estate		1		479		2		114
Residential Real Estate and Home Equity		—		—		—		—
Total		3	$	680		3	$	122

(1) Period end balances are inclusive of all partial pay downs and charge-offs since the modification date. Loans modified in a TDR that were fully paid down, charged off, or foreclosed upon by period end are not reported.

	For the six months ended June 30,
	2014				2013
	Number of Contracts		Recorded Investment as of period end (1)		Number of Contracts		Recorded Investment as of period end (1)
Consumer and Credit Card		—	$	—		1	$	8
Commercial and Industrial		2		201		—		—
Commercial Real Estate		1		479		2		114
Residential Real Estate and Home Equity		—		—		—		—
Total		3	$	680		3	$	122

(1) Period end balances are inclusive of all partial pay downs and charge-offs since the modification date. Loans modified in a TDR that were fully paid down, charged off, or foreclosed upon by period end are not reported.

A modification of a loan constitutes a TDR when a borrower is experiencing financial difficulty and the modification constitutes a concession. The Company offers various types of concessions when modifying a loan; however, forgiveness of principal is rarely granted. Depending on the financial condition of the borrower, the purpose of the loan and the type of collateral supporting the loan structure; modifications can be either short-term (12 months of less) or long term (greater than one year). Commercial loans modified in a TDR often involve temporary interest-only payments, term extensions, and converting revolving credit lines to term loans. Additional collateral, a co-borrower, or a guarantor may be requested. Commercial mortgage and construction loans modified in a TDR often involve reducing the interest rate for the remaining term of the loan, extending the maturity date at an interest rate lower than the current market rate for new debt with similar risk, or substituting or adding a new borrower or guarantor. Construction loans modified in a TDR may also involve extending the interest-only payment period.

Land loans are also included in the class of commercial real estate loans. Land loans are typically structured as interest-only monthly payments with a balloon payment due at maturity. Land loans modified in a TDR typically involve extending the balloon payment by one to three years, changing the monthly payments from interest-only to principal and interest, while leaving the interest rate unchanged.

21.

DCB Financial Corp and Subsidiaries

Notes to Consolidated Financial Statements

Loans modified in a TDR are typically already on nonaccrual status and partial charge-offs have in some cases already been taken against the outstanding loan balance. As a result, loans modified in a TDR for the Company may have the financial effect of increasing the specific allowance associated with the loan. The allowance for impaired loans that have been modified in a TDR is measured based on the estimated fair value of the collateral, less any selling costs, if the loan is collateral dependent or on the present value of expected future cash flows discounted at the loan’s effective interest rate. Management exercises significant judgment in developing these estimates.

As mentioned above, an individual loan is placed on a non-accruing status if, in the judgment of management, it is unlikely that all principal and interest will be received according to the terms of the note. Loans on non-accrual may be eligible to be returned to an accruing status after six months of compliance with the modified terms. However, there are number of factors that could prevent a loan from returning to accruing status, even after remaining in compliance with loan terms for the aforementioned six month period. For example: deteriorating collateral, negative cash flow changes and inability to reduce debt to income ratios.

Note 5 – Fair Value Measurements

The Company accounts for fair value measurements in accordance with FASB ASC 820, which defines fair value, establishes a framework for measuring fair value and expands disclosures about fair value measurements. FASB ASC 820 defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. FASB ASC 820 also establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value.

The standard describes three levels of inputs that may be used to measure fair value:

Level 1 Quoted prices in active markets for identical assets or liabilities

Level 2 Observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities

Level 3 Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities

The carrying value of certain financial assets and liabilities is impacted by the application of fair value measurements, either directly or indirectly. In certain cases, an asset or liability is measured and reported at fair value on a recurring basis, such as available-for-sale investment securities. In other cases, management must rely on estimates or judgments to determine if an asset or liability not measured at fair value warrants an impairment write-down or whether a valuation reserve should be established. Given the inherent volatility, the use of fair value measurements may have a significant impact on the carrying value of assets or liabilities, or result in material changes to the financial statements, from period to period.

Fair value is defined as the price that would be received to sell an asset or transfer a liability between market participants at the balance sheet date. When possible, the Company looks to active and observable markets to price identical assets or liabilities. When identical assets and liabilities are not traded in active markets, the Company looks to observable market data for similar assets and liabilities. However, certain assets and liabilities are not traded in observable markets and the Company must use other valuation methods to develop a fair value.

The following methods, assumptions, and valuation techniques were used by the Company to measure different financial assets and liabilities at fair value and in estimating its fair value disclosures for financial instruments.

Cash and Cash Equivalents: The carrying amounts reported in the consolidated statements of financial condition for cash and cash equivalents is deemed to approximate fair value and are classified as Level 1 of the fair value hierarchy.

22.

DCB Financial Corp and Subsidiaries

Notes to Consolidated Financial Statements

Available for Sale Investment Securities: Fair values for investment securities are determined by quoted market prices if available (Level 1). For securities where quoted prices are not available, fair values are estimated based on market prices of similar securities. For securities where quoted prices or market prices of similar securities are not available, fair values are estimated using matrix pricing, which is a mathematical technique widely used in the industry to value investment securities without relying exclusively on quoted prices for the specific investment securities but rather relying on the investment securities’ relationship to other benchmark quoted investment securities (Level 2). Any investment securities not valued based upon the methods above is considered Level 3.

The Company utilizes information provided by a third-party investment securities portfolio manager in analyzing the investment securities portfolio in accordance with the fair value hierarchy of the Fair Value Topic. The portfolio manager’s evaluation of investment security portfolio pricing is performed using a combination of prices and data from other sources, along with internally developed matrix pricing models. The third-party’s month-end pricing process includes a series of quality assurance activities where prices are compared to recent market conditions, previous evaluation prices, and between the various pricing services. These processes produce a series of quality assurance reports on which price exceptions are identified, reviewed and where appropriate, securities are re-priced. In the event of a materially different price, the third party will report the variance and review the pricing methodology in detail. The results of the quality assurance process are incorporated into the selection of pricing providers by the third party.

Loans: For fixed rate loans and for variable rate loans with infrequent re-pricing or re-pricing limits, fair value is based on discounted cash flows using current market rates applied to the estimated life. Fair values for impaired loans are estimated using discounted cash flow analysis or underlying collateral values. For loans held on balance sheet, the discounted fair value is further reduced by the amount of reserves held against the loan portfolios. The methods utilized to estimate the fair value of loans do not necessarily represent an exit price and due to the significant judgment involved in evaluating credit quality, loans are classified within Level 3 classification.

Federal Home Loan Bank Stock: The carrying amount presented in the consolidated statements of financial condition is deemed to approximate fair value.

Accrued Interest Receivable and Payable: The fair value for accrued interest approximates its carrying amounts due to the short duration before collection. The valuation is a Level 3 classification which is consistent with its underlying asset or liability.

Deposits: The fair values of deposits with no stated maturity, such as money market demand deposits, savings and NOW accounts have been analyzed by management and assigned estimated maturities and cash flows which are then discounted to derive a value. The fair value of fixed-rate certificates of deposit is based on the discounted value of contractual cash flows. The discount rate is estimated using the rates currently offered for deposits of similar remaining maturities. The Company classifies the estimated fair value of deposit liabilities as Level 2 in the fair value hierarchy.

Advances from the Federal Home Loan Bank: The fair value of these advances is estimated using the rates currently offered for similar advances of similar remaining maturities or, when available, quoted market prices.

Commitments to Extend Credit: For fixed-rate and adjustable-rate loan commitments, the fair value estimate considers the difference between current levels of interest rates and committed rates. At June 30, 2014 and December 31, 2013, the fair value of loan commitments was not material.

23.

DCB Financial Corp and Subsidiaries

Notes to Consolidated Financial Statements

Based on the foregoing methods and assumptions, the carrying value and fair value of the Company’s financial instruments are as follows (in thousands):

At June 30, 2014:

	Carrying Amount		Fair Value		Level 1		Level 2		Level 3
Financial assets
Cash and cash equivalents	$	28,821	$	28,821	$	28,821	$	—	$	—
Securities available-for-sale		80,690		80,690		—		80,690		—
Loans (net of allowance)(1)		353,100		348,555		—		—		348,555
FHLB stock		3,250		3,250		—		3,250		—
Accrued interest receivable		1,420		1,420		—		—		1,420
Financial liabilities
Non-interest-bearing deposits	$	108,547	$	108,547		—	$	108,547		—
Interest-bearing deposits		327,563		327,730		—		327,730		—
FHLB advances		4,823		4,823		—		4,823		—
Accrued interest payable		107		107		—		—		107

(1) Includes loans held for sale

At December 31, 2013:

	Carrying Amount		Fair Value		Level 1		Level 2		Level 3
Financial assets
Cash and cash equivalents	$	25,357	$	25,357	$	25,357	$	—	$	—
Securities available-for-sale		79,948		79,948		—		78,972		976
Loans (net of allowance)(1)		357,130		348,295		—		—		348,295
FHLB stock		3,799		3,799				3,799		—
Accrued interest receivable		1,356		1,356		—		—		1,356
Financial liabilities
Non-interest-bearing deposits(2)	$	112,711	$	112,711		—	$	112,711		—
Interest-bearing deposits(2)		336,719		337,590		—		337,590		—
FHLB advances		4,838		4,838		—		4,838		—
Accrued interest payable		112		112		—		—		112

(1) Includes loans held for sale

(2) Includes deposits held for sale

24.

DCB Financial Corp and Subsidiaries

Notes to Consolidated Financial Statements 

The following table presents the fair value measurements of assets recognized in the accompanying balance sheets measured at fair value on a recurring basis and the level within the fair value hierarchy in which the fair value measurements fall at June 30, 2014 and December 31, 2013 (in thousands):

			Fair Value Measurements Using
June 30, 2014	Fair Value		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
U.S. Government and agency  obligations	$	14,024	$	—	$	14,024	$	—
State and municipal obligations		21,938		—		21,938		—
Corporate bonds		5,673		—		5,673		—
Mortgage-backed securities		39,055		—		39,055		—
Total	$	80,690	$	—	$	80,690	$	—

			Fair Value Measurements Using
December 31, 2013	Fair Value		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
U.S. Government and agency   obligations	$	13,302	$	—	$	13,302	$	—
State and municipal obligations		20,450		—		20,450		—
Corporate bonds		6,168		—		6,168		—
Collateralized debt obligation		976		—		—		976
Mortgage-backed securities		39,052		—		39,052		—
Total	$	79,948	$	—	$	78,972	$	976

25.

DCB Financial Corp and Subsidiaries

Notes to Consolidated Financial Statements

The table below presents a roll-forward of the balance sheet amounts for the six months ended June 30, 2014 for the collateralized debt obligation measured on a recurring basis and classified as Level 3. The classification of an item as Level 3 is based on the significance of the unobservable inputs to the overall fair value measurement.

Level 3 Fair Value Measurements Six months ended June 30, 2014
Balance, as of December 31, 2013	$	976
Sold during the year		(835	)
Total losses:
Included in earnings		(141	)
Balance, as of June 30, 2014	$	—

The following is a description of the valuation methodologies used for instruments measured at fair value on a non-recurring basis and recognized in the accompanying balance sheets, as well as the general classification of such instruments pursuant to the valuation hierarchy.

Securities

Certain collateralized debt obligations are classified as held to maturity. The Company calculates fair value based upon a Level 3 estimate of fair value, including a discounted cash flows calculation and a fair value estimate from an independent evaluation of the securities.

Impaired loans

At June 30, 2014 and December 31, 2013, impaired loans consisted primarily of loans secured by nonresidential and commercial real estate. Management has determined fair value measurements on impaired loans primarily through evaluations of appraisals performed.

Real Estate Owned

Real estate acquired through, or in lieu of, loan foreclosure is held for sale and initially recorded at fair value (based on current appraised value) at the date of foreclosure, establishing a new cost basis. Subsequent to foreclosure, valuations are periodically performed by management and the assets are carried at the lower of carrying amount or fair value less estimated costs to sell. Management has determined fair value measurements on real estate owned primarily through evaluations of appraisals performed.

The following table presents the fair value measurements of assets measured at fair value on a nonrecurring basis and the level within the fair value hierarchy in which the fair value measurements fall at June 30, 2014 and December 31, 2013 (in thousands).

June 30, 2014			Fair Value Measurements Using
	Fair Value		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Impaired loans	$	15,125	$	—	$	—	$	15,125
Real estate owned		1,406		—		—		1,406

26.

DCB Financial Corp and Subsidiaries

Notes to Consolidated Financial Statements

December 31, 2013			Fair Value Measurements Using
	Fair Value		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Impaired loans	$	22,881		—		—	$	22,881
Real estate owned		1,219		—		—		1,219

Note 6 – Stock Based Compensation

The Company’s shareholders approved an employee share option Plan (the “Plan”) in May 2004. This Plan grants certain employees the right to purchase shares at a predetermined price. The Plan is limited to 300,000 shares. The shares granted to employees vest 20% per year over a five year period. The options expire after ten years. At June 30, 2014, options to purchase 141,400 shares were exercisable, and no shares remained available for grant under this plan.

The Company recognizes compensation cost for equity-based awards based on fair value. The Company recorded $42,000, $30,000, $102,000 and $109,000 in compensation cost for equity-based awards during the three months ended June 30, 2014 and 2013 and the six months ended June 30, 2014 and 2013, respectively.

In determining the fair value of the stock options at June 30, 2014, the Company utilized a Black-Scholes valuation model with a risk-free interest rate that corresponds to the expected remaining life of each award, an expected dividend yield of 0%, an expected common stock price volatility of 30%, and an expected life of 8 years from the grant date.

A summary of the status of the Company’s equity compensation plan as of June 30, 2014, and changes during the period then ended are presented below (dollars in thousands):

	Shares			Weighted Average Exercise Price		Weighted Average Remaining Contractual Life		Aggregate Intrinsic Value
Outstanding at beginning of year		250,518		$	9.91		6.4 years
Exercised		(1,833	)		3.82		—
Forfeited		(8,599	)		15.21		—
Expired		(4,889	)		23.40		—
Outstanding at June 30, 2014		235,197		$	9.58		6.0 years	$	507
Options exercisable at period end		141,400		$	13.08		4.8 years	$	208
Weighted-average fair value of options granted during the year ended December 31, 2013				$	2.45

There were no options granted in the first half of 2014. At June 30, 2014, unrecognized compensation expense to be recognized over the remaining life of outstanding options is $237,000.

27.

DCB Financial Corp and Subsidiaries

Notes to Consolidated Financial Statements 

The following information applies to options outstanding at June 30, 2014:

Number Outstanding	Range Of Exercise Prices
38,861	$23.00 - $30.70
24,192	$16.90
21,535	$9.00
150,609	$3.50 - $5.40

Note 7 – Branch Sale

In March 2014, the Bank closed the previously announced sale of its Marysville branch (the “Branch”) to Merchants National Bank, a national bank headquartered in Hillsboro, Ohio (“Merchants”). Merchants acquired certain assets and assumed certain liabilities of the Branch, including the assumption of $19.4 million in deposit liabilities and the purchase of $4.8 million in loans related to the Branch.

The amounts related to the sale are as follows (in thousands):

Deposits assumed	$	19,403
Loans sold (at book value)		(4,750	)
Property and equipment (agreed upon value)		(1,500	)
Cash on hand		(261	)
Premium on deposits		(441	)
Other, net		13
Cash paid to Merchants	$	12,464

28.

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

Introduction

DCB Financial Corp (the “Company” or “DCB”) is a financial holding company formed under the laws of the State of Ohio. The Company is the parent of The Delaware County Bank & Trust Company (the “Bank”), DCB Title Services LLC and DCB Insurance Services, Inc. The Bank is a state-chartered commercial bank, which conducts business from its main offices at 110 Riverbend Avenue in Lewis Center, Ohio, and through its 13 branch offices located in Delaware County, Ohio and surrounding communities. The Bank provides customary retail and commercial banking services to its customers, including checking and savings accounts, time deposits, IRAs, safe deposit facilities, personal loans, commercial loans, commercial leases, real estate mortgage loans, night depository facilities and trust and personalized wealth management services. The Bank also provides cash management, bond registrar and payment services. The Bank operates a wholly-owned subsidiary, ORECO, Inc., which is engaged in the ownership and disposition of the Bank’s foreclosed real estate.

Forward-Looking Statements

Certain statements in this report constitute “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995, such as statements relating to the financial condition and prospects, lending risks, plans for future business development and marketing activities, capital spending and financing sources, capital structure, the effects of regulation and competition, and the prospective business of both the Company and the Bank. Where used in this report, the words “anticipate,” “believe,” “estimate,” “expect,” “intend,” and similar words and expressions, related to the Company or the Bank or their respective management, identify forward-looking statements. Such forward-looking statements reflect the current views of the Company and are based on information currently available to the management of the Company and the Bank and upon current expectations, estimates, and projections about the Company and its industry, management’s belief with respect thereto, and certain assumptions made by management. These forward-looking statements are not guarantees of future performance and are subject to risks, uncertainties, and other factors that could cause actual results to differ materially from those expressed or implied by such forward-looking statements. 

Potential risks and uncertainties include, but are not limited to: (i) significant increases in competitive pressure in the banking and financial services industries; (ii) changes in the interest rate environment which could reduce anticipated or actual margins; (iii) changes in political conditions or the legislative or regulatory environment; (iv) general economic conditions, either nationally or regionally (especially in central Ohio), becoming less favorable than expected resulting in, among other things, a deterioration in credit quality of assets; (v) changes occurring in business conditions and inflation; (vi) changes in technology; (vii) changes in monetary and tax policies; (viii) changes in the securities markets; and (ix) other risks and uncertainties detailed from time to time in the filings of the Company with the Securities and Exchange Commission.

The Company does not undertake, and specifically disclaims any obligation, to publicly revise any forward-looking statements to reflect events or circumstances after the date of such statements or to reflect the occurrence of anticipated or unanticipated events.

29.

Overview of the second quarter of 2014

· Total assets were $500.5 million and total deposits were $436.1 million at June 30, 2014, compared with $502.4 million and $449.4 million (including deposits held-for-sale) at December 31, 2013, respectively.

· Net income was $37,000 for the three months ended June 30, 2014, compared with $156,000 for the same period in 2013. For the six months ended June 30, 2014, net income was $156,000 compared with $298,000 for the first half of 2013.

· Net income per diluted share was $0.01 and $0.02 for the three months ending June 30, 2014 and 2013, respectively. Net income per diluted share was $0.02 for the six months ending June 30, 2014 compared with $0.04 per share for the same period in 2013.

· The net interest margin was 3.51% in the second quarter of 2014 compared with 3.29% in the year-ago quarter and 3.50% in the first quarter of 2014.

· Non-recurring gains and losses in the second quarter of 2014 aggregated $118,000 of net losses, compared to net non-recurring gains, negative provision for loan losses and income tax benefit aggregating $631,000 in the year-ago quarter. There was no loan loss provision or income tax benefit in the second quarter of 2014.

· Non-recurring gains and losses in the first half of 2014 aggregated $63,000 of net losses, compared to net non-recurring gains, negative provision for loan losses and income tax benefit aggregating $1.4 million in the prior year. There was no loan loss provision or income tax benefit in the first half of 2014.

· Total non-performing assets (including TDR’s) were $15.3 million or 3.06% of total assets at June 30, 2014, compared to $17.7 million or 3.59% at March 31, 2014 and $21.9 million or 4.36% at December 31, 2013.

· Total non-performing assets (excluding TDR’s) were $6.0 million or 1.20% of total assets at June 30, 2014, compared to $5.2 million or 1.05% at March 31, 2014 and $9.1 million or 1.81% at December 31, 2013.

· Non-interest income was 21.9% and 22.1%, respectively, of total revenue in the three and six months ended June 30, 2014, compared to 24.5% and 24.9%, respectively, in the year-ago periods.

· Our efficiency ratio was 96.6% and 109.5%, respectively, in the three and six months ended June 30, 2014, compared to 97.6% and 110.9%, respectively, in the year-ago periods.

Comparison of Results of Operations

General

Net income was $37,000 or $0.01 per diluted share for the three months ended June 30, 2014, compared to net income of $156,000 or $0.02 per diluted share for the same period in 2013. Non-recurring gains and losses in the second quarter of 2014 aggregated $118,000 of net losses, compared to net non-recurring gains, negative provision for loan losses, and income tax benefit of $631,000 in the year-ago quarter. There was no loan loss provision in the second quarter of 2014.

Net income was $156,000 or $0.02 per diluted share for the six months ended June 30, 2014, compared to net income of $298,000 or $0.04 per diluted share for the same period in 2013. Non-recurring gains and losses in the first half of 2014 aggregated $63,000 of net losses, compared to net non-recurring gains, negative provision for loan losses, and income tax benefit of $1.4 million in the prior year. There was no loan loss provision in the first half of 2014.

30.

Net Interest Income

Net interest income totaled $4.0 million in the three months ended June 30, 2014, compared with $3.8 million in the year-ago quarter and $4.0 million in the first quarter of 2014. Average interest-earning assets decreased $3.3 million in the second quarter compared to the year-ago quarter, and were $12.9 million lower than the first quarter of 2014, due primarily to the effect on average assets, net of organic loan growth over the last four quarters, of the sale of the Company’s Marysville branch in the first quarter of 2014, and to payoffs of two large commercial relationships totaling $5.7 million late in the first quarter of 2014.The net interest margin increased 22 basis points in the second quarter compared with the year-ago quarterand was 1 basis point higher than the first quarter of 2014.

The net interest margin was 3.51% in the second quarter of 2014, compared with 3.29% in the year-ago quarter and 3.50% in the first quarter of 2014. The earning assets yield increased 2 basis points in the second quarter of 2014 compared with the year-ago quarter, due largely to growth in our loan portfolio which was funded primarily from cash on deposit with the Federal Reserve and cash flows from our securities portfolio. The cost of interest-bearing liabilities decreased 19 basis points over the same period as a result of maturing time accounts which either were renewed at lower rates or were transferred into our interest-bearing demand and money market accounts, which earn interest at lower rates than time accounts. Also, we restructured advances from the Federal Home Loan Bank in November, 2013 which contributed to a 176 basis point decrease in the cost of borrowings in the second quarter compared to the year-ago quarter.

Average interest-earning assets were $453.4 million in the second quarter, compared with $456.7 million in the year-ago quarter and $466.4 million in the first quarter of 2014. The average balance of loans increased by $27.9 million, while average balance of interest earning cash and cash equivalents decreased $22.7 million and average investments decreased $8.5 million when compared with the year-ago quarter, as we used our excess liquidity position to fund organic loan growth. Total average loans were 78.7% of total average interest-earning assets in the second quarter of 2014, compared with 72.0% in the year-ago quarter and 77.1% in the first quarter of 2014.The average balance of time deposits declined $43.3 million in the second quarter compared with the year-ago quarter, while average balances in lower-costing interest-bearing demand, savings and money market accounts increased $21.2 million, and the average balance of non-interest-bearing demand accounts increased $15.7 million over that same period.

Net interest income totaled $8.0 million in the first half 2014, which was an increase of $585,000 or 7.9% compared with $7.4 million in the year-ago period. The net interest margin was 3.48% for the six months ended June 30, 2014, compared with 3.29% in the year-ago period. The earning asset yield was unchanged in the first half of 2014 compared with the year-ago period, and the cost of interest-bearing liabilities decreased 21 basis points over the same period.

Average interest-earning assets were $460.4 million in the first half of 2014, which was an increase of $6.2 million or 1.4% from the first half of 2013. Total average loans were 77.8% of total interest-earning assets in the six months ended June 30, 2014, compared with 70.5% in the first half of 2013.The average balance in time deposits decreased $45.7 million in the first half of 2014 compared with the year-ago period, while the average balances in lower-costing interest-bearing demand, savings and money market accounts increased $28.1 million, and the average balance of non-interest-bearing demand accounts increased $16.7 million.

31.

The following table presents certain information from the Company’s average balance sheet and reflects the average yield on interest-earning assets and the average cost of interest-bearing liabilities (dollars in thousands). Such yields and costs are derived by dividing income or expense by the average balance of interest-earning assets or interest-bearing liabilities. Average balances are derived from daily balances. Interest on tax-exempt securities is reported on a historical basis without tax-equivalent adjustment. Average loan balances include non-accruing loans and loans held for sale. Loan income includes cash received on non-accruing loans.

	Three months ending June 30,
	2014								2013
	Outstanding			Earned/		Yield/			Outstanding		Earned/			Yield/
	balance			paid		rate			balance		paid			rate
Interest-earning assets:
Federal funds sold and other short term	$	13,566		$	9		0.28	%	$	36,271	$	21			0.24	%
Taxable securities		78,587			490		2.50			86,884		442			2.04
Tax-exempt securities		4,603			44		3.84			4,804		47			3.92
Loans		356,678			3,719		4.15			328,769		3,735			4.56
Total interest-earning assets		453,434			4,262		3.75			456,728		4,245			3.73
Non-interest-earning assets		40,778								48,182
Total assets	$	494,212							$	504,910
Interest-bearing liabilities:
Interest-bearing demand and money market deposits	$	206,925		$	139		0.27	%	$	188,114	$	123			0.26	%
Savings deposits		42,720			16		0.15			40,344		15			0.15
Certificates of deposit		81,415			108		0.53			124,760		284			0.91
Total deposits		331,060			263		0.32			353,218		422			0.48
Borrowed funds		4,894			36		2.94			6,145		72			4.70
Total interest-bearing liabilities		335,954			299		0.36			359,363		494			0.55
Non-interest-bearing liabilities		112,529								96,349
Total liabilities		448,483								455,712
Shareholders’ equity		45,729								49,198
Total liabilities and shareholders’ equity	$	494,212							$	504,910
Net interest income; interest rate spread				$	3,963		3.39	%			$	3,751			3.18	%
Net interest margin (net interest income as a percent of average interest-earning assets)							3.51	%							3.29	%
Average interest-earning assets to average interest-bearing liabilities		135	%									127	%

32.

	Six months ending June 30,
	2014								2013
	Outstanding			Earned/		Yield/			Outstanding		Earned/			Yield/
	balance			paid		rate			balance		paid			rate
Interest-earning assets:
Federal funds sold and other short term	$	17,635		$	23		0.26	%	$	42,163	$	50			0.24	%
Taxable securities		79,827			998		2.56			87,366		962			2.22
Tax-exempt securities		4,707			90		3.87			4,599		93			4.08
Loans		358,252			7,456		4.17			320,086		7,286			4.59
Total interest-earning assets		460,421			8,567		3.73			454,214		8,391			3.73
Non-interest-earning assets		40,828								50,581
Total assets	$	501,249							$	504,795
Interest-bearing liabilities:
Interest-bearing demand and money market deposits	$	209,007		$	275		0.27	%	$	184,887	$	236			0.26	%
Savings deposits		43,118			31		0.14			39,153		29			0.15
Certificates of deposit		83,797			237		0.57			129,522		608			0.95
Total deposits		335,922			543		0.36			353,562		873			0.50
Borrowed funds		5,086			72		2.85			6,584		151			4.62
Total interest-bearing liabilities		341,008			615		0.36			360,146		1,024			0.57
Non-interest-bearing liabilities		115,068								95,850
Total liabilities		456,076								455,996
Shareholders’ equity		45,173								48,799
Total liabilities and shareholders’ equity	$	501,249							$	504,795
Net interest income; interest rate spread				$	7,952		3.37	%			$	7,367			3.16	%
Net interest margin (net interest income as a percent of average interest-earning assets)							3.48	%							3.29	%
Average interest-earning assets to average interest-bearing liabilities		135	%									126	%

33.

Asset Quality and Allowance for Loan Losses

Delinquent loans (including non-accrual) totaled $5.7 million or 1.58% of total loans at June 30, 2014, compared to $4.6 million or 1.29% of total loans at March 31, 2014 and $8.1 million or 2.24% at the end of 2013. Nonaccrual loans totaled $4.6million or 1.29% of total loans at June 30, 2014, compared to $3.6million or 1.02%of total loans at March 31, 2014 and $6.9 million or 1.90% of total loans at December 31, 2013.

Delinquent loans	June 30, 2014					March 31, 2014					December 31, 2013
	$		%(1)			$		%(1)			$		%(1)
	(Dollars in thousands)
30 days past due	$	1,022		0.29	%	$	834		0.23	%	$	945		0.26	%
60 days past due		18		0.00	%		132		0.04	%		290		0.08	%
90 days past due and still accruing		—		—			—		—			—		—
Non-accrual		4,620		1.29	%		3,607		1.02	%		6,904		1.90	%
Total	$	5,660		1.58	%	$	4,573		1.29	%	$	8,139		2.24	%

(1) As a percentage of total loans, excluding deferred costs

Non-performing assets were $15.3 million or 3.06% of total assets at June 30, 2014, compared with $17.7 million or 3.59% of total assets at March 31, 2014 and $21.9 million or 4.36% of total assets at December 31, 2013. Troubled debt restructurings (“TDR’s”) which are performing in accordance with the restructured terms and accruing interest, but are included in non-performing assets, were $9.3 million at June 30, 2014, compared to $12.6 million at March 31, 2014 and $12.8 million at December 31, 2013.

The following table represents information concerning the aggregate amount of non-performing assets (includes loans held for sale):

Non-performing assets	June 30, 2014		March 31, 2014		December 31, 2013
	(Dollars in thousands)
Non-accruing loans:
Residential real estate loans and home equity	$	425	$	511	$	352
Commercial real estate		2,779		1,647		1,850
Commercial and industrial		1,354		1,449		4,702
Consumer loans and credit cards		62		—		—
Total non-accruing loans		4,620		3,607		6,904
Accruing loans delinquent 90 days or more		—		—		—
Total non-performing loans (excluding TDR’s)		4,620		3,607		6,904
Collateralized debt obligations		—		—		976
Other real estate and repossessed assets		1,406		1,563		1,219
Total non-performing assets (excluding TDR’s)	$	6,026	$	5,170	$	9,099
Troubled debt restructurings(1)	$	9,297	$	12,569	$	12,788
Total non-performing loans (including TDR’s)	$	13,917	$	16,176	$	19,692
Total non-performing assets (including TDR’s)	$	15,323	$	17,739	$	21,887

(1) TDR’s that are in compliance with their modified terms and accruing interest.

34.

Much of the improvement in asset quality in the first half of 2014 has resulted from the execution of previously disclosed strategies developed in the fourth quarter of 2013 to accelerate the disposition of certain troubled assets, in particular two commercial relationships which totaled $5.7 million at the end of 2013. As of June 30, 2014, a total of $4.7 million of cash has been collected on these relationships. One of the relationships, with a carrying amount of $2.7 million at the end of 2013, was paid off for the full carrying amount in the first quarter.A second relationship with an outstanding balance of $3.0 million and an allowance allocation of $1.5 million at the end of 2013 has been paid down by $2.0 million in the first half of 2014, of which $554,000 was received in the second quarter. The Company recorded a partial charge-off on this second relationship of $750,000 in the first quarter, using the specific loan loss allocation established for this relationship in the fourth quarter of 2013. As a result of the $554,000 that was collected on this relationship in the second quarter, an identical amount of allowance for loan losses allocated to this relationship at the end of 2013 has been freed up and incorporated into the general and qualitative components of the allowance for loan losses, as of June 30, 2014. The Company maintains a 100% reserve allocation against the remaining balance of $197,000 at the end of the second quarter (net of the partial chargeoff), due to uncertainty as to the collectability of the remaining balance. The Company has retained legal counsel in anticipation of exploring claims to be made against the third-party purchaser of certain of the borrower’s assets which, the Company maintains, were and remain subject to a perfected first lien position of the Company.

Certain troubled loans totaling $418,000 and classified as held-for-sale at the end of 2013 were sold during the second quarter of 2014 for $395,000. Writedowns and losses on loans held-for-sale totaled $114,000 in the second quarter, with $23,000 realized upon sales of loans and $91,000 from writedowns on remaining loans held-for-sale at the end of the second quarter.

Net charge-offs were $777,000 or 0.87% (annualized) of average loans in the second quarter, compared to net charge-offs of $15,000 in the year-ago quarter. Net charge-offs were $2.1 million or 1.15% (annualized) of average loans in the first half of 2014, compared to net recoveries of $511,000 in the year-ago period. Three relationships comprised nearly all of the charge-offs in the first half of 2014, which were charged against specific allowance allocations established in the fourth quarter of 2013.

There was no provision for loan losses recorded in the first half of 2014, as the $3.3 million loan loss provision recorded in the fourth quarter of 2013 included specific allocations for the three large relationships charged-off in the first half of 2014.Negative provisions for loan losses of $240,000 and $890,000 were recorded in the quarter and six months ended June 30, 2013 as the result of the net recoveries and other credit quality indicators in those periods.The provision for loan losses as a percentage of net charge-offs was not meaningful for first half of 2014 and 2013. On a linked-quarters basis, the provision for loan losses as a percentage of net charge-offs was 97.2% for the four calendar quarters ending June 30, 2014.

The allowance for loan losses was $4.6 million at June 30, 2014, compared with $5.3 million at March 31, 2014 and $6.7 million at December 31, 2013. The ratio of the allowance for loan losses to total loans was 1.28% at June 30, 2014, compared with 1.51% at March 31, 2014 and 1.85% at December 31, 2013.The ratio of the allowance for loanlosses to non-performing loans (including TDR’s) was 33.9% at June 30, 2014, compared with 33.0% at March 30, 2014 and 34.1% at December 31, 2013. The ratio of the allowance for loan losses to non-accrual loans was 109% at June 30, 2014, compared with 148% at March 30, 2014 and 97% at December 31, 2013.

35.

We assess a number of quantitative and qualitative factors at the individual portfolio level in determining the adequacy of the allowance for loan losses and the required provision expense each quarter. In addition, we analyze certain broader, non-portfolio specific factors in assessing the adequacy of the allowance for credit losses, such as the allowance as a percentage of total loans and leases, the allowance as a percentage of non-performing loans and leases and the provision expense as a percentage of net charge-offs. This portion of the allowance has been considered “unallocated,” which means it is not based on either quantitative or qualitative factors. At June 30, 2014, $258,000 or 5.7% of the allowance for credit losses was considered to be “unallocated,” compared to $173,000 or 3.2% at March 31, 2014. There was no unallocated amount at December 31, 2013. The amount of unallocated allowance to the total allowance has trended upward in the first half of 2014 as the result of improvement in recent quarters in our asset quality metrics, including the amounts of and changes in: i) classified loans; ii) past due and nonaccrual loans; iii) troubled debt restructurings, and; iv) specific allowance allocations for impaired loans.

The following table summarizes changes in the allowance for loan losses arising from loans charged off, recoveries on loans previously charged off and additions to the allowance, which have been charged to expense (in thousands).

Allowance for loan losses	Three months ended June 30,						Six months ended June 30,
	2014			2013			2014			2013
	(Dollars in thousands)
Allowance for loan losses, beginning of period	$	5,345		$	6,758		$	6,724		$	6,882
Loans charged-off		(846	)		(187	)		(2,258	)		(434	)
Recoveries of loans previously charged-off		69			172			199			945
Net loans charged-off		(777	)		(15	)		(2,059	)		511
Allowance related to loans transferred to held-for-sale		—			—			(97	)		—
Provision for loan losses		—			(240	)		—			(890	)
Allowance for loan losses, end of period	$	4,568		$	6,503		$	4,568		$	6,503

36.

Non-interest Income

The following table sets forth certain information on non-interest income for the years indicated (dollars in thousands):

	Three months ended June 30,											Six months ended June 30,
	2014			2013		$ Change			% Change			2014			2013		$ Change			% Change
Service charges	$	489		$	573	$	(84	)		(14.7	)%	$	1,000		$	1,121	$	(121	)		(10.8	)%
Wealth management income		378			355		23			6.5			671			671		—			—
Treasury management fees		59			64		(5	)		(7.8	)		115			126		(11	)		(8.7	)
BOLI income		164			165		(1	)		(0.6	)		402			405		(3	)		(0.7	)
Writedowns and losses on loans held for sale		(114	)		—		(114	)		(100.0	)		(357	)		—		(357	)		(100.0	)
Gain on sale of REO		(4	)		2		(6	)		(300.0	)		(4	)		86		(90	)		(104.7	)
Gain (loss) on sale of securities		—			135		(135	)		(100.0	)		(140	)		135		(275	)		(203.7	)
Gain on sale of branch		—			—		—			—			438			—		438			100.0
Other		24			57		(33	)		(57.9	)		62			115		(53	)		(46.1	)
Total non-interest income	$	996		$	1,351	$	(355	)		(26.3	)%	$	2,187		$	2,659	$	(472	)		(17.8	)%

Non-interest income was $996,000 in the second quarter of 2014, compared to $1.4 million in the second quarter of 2013 and $1.2 million in the first quarter of 2014. Non-recurring gains, writedowns and losses accounted for much of the changes in non-interest income in the second quarter compared to the year-ago quarter and to the first quarter of 2014. Nonrecurring writedowns and losses, net of nonrecurring gains were $118,000 in the second quarter of 2014 (writedowns and losses on loans held-for-sale and loss on sale of REO), compared to net nonrecurring gains of $137,000 in the year-ago quarter (gains on sales of securities and REO) and net non-recurring gains $53,000 in the first quarter of 2014 (gain on sale of branch, writedowns of loans held-for-sale and loss on sale of securities available-for-sale).

Non-interest income (net of nonrecurring income, gains and losses and gains/losses on the sales of securities) accounted for 21.9% of total revenue in the second quarter of 2014, compared with 24.5% in the year-ago quarter and 22.2% in the first quarter of 2014.

Noninterest income was $2.2 million in the first half of 2014, compared to $2.7 million in the first half of 2013. Nonrecurring writedowns and losses, net of nonrecurring gains were $63,000 in the first half of 2014, compared to net nonrecurring gains of $221,000 in the year-ago period.

Non-interest income accounted for 21.9% of total revenue in the first half of 2014, compared with 24.9% in prior year.

37.

Non-interest Expense

The following table sets forth certain information on non-interest expenses for the years indicated (dollars in thousands):

	Three months ended June 30,										Six months ended June 30,
	2014		2013		$ Change			% Change			2014		2013		$ Change			% Change
Salaries and benefits	$	2,712	$	2,864	$	(152	)		(5.3	)%	$	5,490	$	5,836	$	(346	)		(5.9	)%
Occupancy and equipment		837		800		37			4.6			1,641		1,593		48			3.0
Professional services		197		491		(294	)		(59.9	)		617		947		(330	)		34.8
Advertising		77		66		11			16.7			158		173		(15	)		(8.7	)
Office supplies, postage and courier		89		94		(5	)		5.3			184		199		(15	)		(7.5	)
FDIC insurance premium		172		101		71			70.3			340		254		86			33.9
State franchise taxes		67		133		(66	)		(49.6	)		132		344		(212	)		(61.6	)
Other		771		891		(120	)		(13.5	)		1,421		1,550		(129	)		(8.3	)
Total non-interest expenses	$	4,922	$	5,440	$	(518	)		(9.5	)%	$	9,983	$	10,896	$	(913	)		(8.4	)%

Non-interest expenses were $4.9 million for the second quarter of 2014, compared with $5.4 million in the year-ago quarter and $5.1 million for the first quarter of 2014. The decrease from the year-ago quarter is primarily attributable to a $294,000 decrease in professional services, a $152,000 decrease in salaries and benefits, a $120,000 decrease in other non-interest expenses, and a $66,000 decrease in state franchise taxes. The decrease in professional services is due primarily to the substantial improvement in our asset quality which has reduced the need for outside professional services related to the workout of classified assets. The decrease in salaries and benefits is attributable to a decline in incentive compensation expense as loan originations during the quarter are down from the year-ago quarter, and to the elimination of $47,000 of salaries expense attributable to the Company’s former Marysville branch. The decrease in state franchise taxes is the result of a change in the tax law which changed how the tax is calculated in the current year.

The Company’s efficiency ratio was 96.6% in the second quarter of 2014, compared with 109.5% in the year-ago quarter, and 98.5% in the first quarter of 2014.

Non-interest expenses were $10.0 million in the first half of 2014, which was a decrease of $913,000 or 8.4% compared to the first half of 2013 as salaries and benefits expense decreased $346,000, franchise taxes decreased $122,000, and professional services decreased $330,000 for the same reasons discussed above.

The Company’s efficiency ratio was 97.6% for the first half of 2014, compared to 110.9% in the prior year.

Income Taxes

The Company had net deferred tax assets totaling $11.0 million and $11.6 million with valuation allowances of $11.3 million and $11.2 million, respectively, at June 30, 2014 and December 31, 2013. Included in net deferred tax assets are gross deferred tax assets of $12.0 million and $11.7 million at June 30, 2014 and December 31, 2013, respectively. Deferred tax liabilities at June 30, 2014 were comprised entirely of the tax liability generated by the unrealized gains on securities available-for-sale.

38.

Comparison of Financial Condition at June 30, 2014 and December 31, 2013

Total assets were $500.5 million at June 30, 2014, which was a decrease of $1.9 million from $502.4 million at December 31, 2013. Assets sold in connection with the sale of the Company’s Marysville branch in the first quarter totaled $18.7 million and included cash of $12.5 million, loans of $4.8 million and fixed assets of $1.4 million. Deposits attributable to the branch totaling $19.4 million were assumed by the buyer.

Securities

Investment securities totaled $80.7 million at June 30, 2014, compared with $79.9 million at December 31, 2013. Our portfolio is comprised primarily of investment grade securities. The breakdown of the securities portfolio at June 30, 2014 was 48.4% government-sponsored entity guaranteed mortgage-backed securities, 27.2% municipal securities, 17.4% obligations of U.S. government-sponsored corporations and 7.0% corporate bonds. Mortgage-backed securities, which totaled $39.1 million at June 30, 2014, are comprised primarily of pass-through securities backed by conventional residential mortgages and guaranteed by Fannie-Mae, Freddie-Mac or Ginnie Mae, which in turn are backed by the U.S. government.

Loans

The following table sets forth the composition of our loan portfolio, including loans held-for-sale at the dates indicated (dollars in thousands):

	June 30, 2014						March 31, 2014						December 31, 2013
	Amount			Percent			Amount			Percent			Amount			Percent
Loan portfolio composition
Commercial and industrial	$	104,959			29.4	%	$	110,886			31.3	%	$	122,901			33.8	%
Commercial real estate		104,387			29.2	%		105,077			29.7	%		106,901			29.4	%
Real estate and home equity		114,038			31.9	%		105,573			29.8	%		98,622			27.1	%
Consumer and credit card		34,102			9.5	%		32,759			9.2	%		35,265			9.7	%
Total loans	$	357,486			100.0	%	$	354,295			100.0	%		363,689			100.0	%
Net deferred loan costs		182						164						165
Allowance for loan losses		(4,568	)					(5,345	)					(6,724	)
Net loans	$	353,100					$	349,114					$	357,130

Total loans, including loans held for sale, increased $3.3 million in the second quarter, and were $357.7 million at June 30, 2014, compared with $354.4 million at March 31, 2014. Residential mortgages and consumer loans increased at annualized rates of 32.1% and 16.4%, respectively, in the second quarter primarily as the result of business development initiatives including ongoing engagement with and calling on local real estate agencies and a successful cross-selling program to existing customers. Commercial and industrial loans decreased $5.9 million in the second quarter, through a combination of weakness in demand, normal amortization, prepayments and chargeoffs.

Deposits

Deposits totaled $436.1 million at June 30, 2014, which was a slight decrease from $439.8 million at the end of the first quarter. Time accounts decreased $7.1 million in the second quarter, which was partially offset by increases in savings, demand and money market accounts aggregating $3.4 million. Consistent with the financial sector generally, the very low interest rate environment continues to influence the Company’s deposit composition, as customer preference for non-maturity savings, demand and money market accounts outweighs that of time accounts.

39.

Liquidity

Liquidity is the ability of the Company to fund customers’ needs for borrowing and deposit withdrawals. The purpose of liquidity management is to assure sufficient cash flow to meet all of the financial commitments and to capitalize on opportunities for business expansion. This ability depends on the financial strength, asset quality and types of deposit and investment instruments offered by the Company to its customers. The Company’s principal sources of funds are deposits, loan and security repayments, maturities of securities, sales of securities available for sale and other funds provided by operations. The Bank also has the ability to borrow from the FHLB. While scheduled loan repayments and maturing investments are relatively predictable, deposit flows and early loan and mortgage-backed security prepayments are more influenced by interest rates, general economic conditions, and competition. The Company maintains investments in liquid assets based upon management’s assessment of (1) need for funds, (2) expected deposit flows, (3) yields available on short-term liquid assets and (4) objectives of the asset/liability management program.

Cash and cash equivalents totaled $28.8 million at June 30, 2014, compared to $25.4 million at December 31, 2013. Cash and equivalents represented 5.8% of total assets at June 30, 2014 and 5.0% of total assets at December 31, 2013. The Company has the ability to borrow funds from the FHLB and the Federal Reserve Bank should the Company need to supplement its future liquidity. Management believes the Company’s liquidity position is adequate based on its current level of cash, cash equivalents, core deposits, the stability of its other funding sources, and the support provided by its capital base.

Capital Resources

Stockholders’ equity was $46.8 million at June 30, 2014, compared with $46.4 million at March 31, 2014, and $45.3 million at December 31, 2013. The increase since December is primarily the result of the difference between the unrealized loss of $940,000 on one collateralized debt obligation (“CDO”) at December 31, 2013, and the actual loss recognized upon the sale of that security in the first quarter of $140,000. Sharply higher demand for these types of securities in the first quarter of 2014 contributed to the increase in the value of the CDO during that quarter. The remaining increase in stockholder’s equity is due primarily to an increase in unrealized gains on securities available-for-sale and to net income in the first half of 2014.

The Bank’s Tier 1 leverage ratio was 8.97% and its total risk-based capital ratio was 14.02% at the end of the second quarter, both of which comfortably exceeded the regulatory thresholds required to be classified as a “well-capitalized” institution, which are 5.0% and 10.0%, respectively.

The Company and the Bank are subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possibly discretionary actions by regulators that, if undertaken, could have a direct material effect on our financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Bank must meet specific capital guidelines that involve quantitative measures of our assets, liabilities, and certain off balance-sheet items as calculated under regulatory accounting practices. Our capital amounts and classifications are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors. Quantitative measures established by regulation to ensure capital adequacy require the Company and its subsidiary bank to maintain minimum amounts and ratios (set forth in the following tables) of total and Tier 1 Capital (as defined in the regulations) to risk-weighted assets (as defined) and of Tier 1 Capital (as defined) to average assets (as defined).

40.

The following table compares our actual capital amounts and ratios with those needed to qualify for the “well-capitalized” category, which is the highest capital category as defined in the regulations, dollars in thousands:

	Actual					For Capital Adequacy Purposes					To Be Well-Capitalized Under Prompt Corrective Action Provisions
	Amount		Ratio			Amount		Ratio			Amount		Ratio
As of June 30, 2014
Total risk-based capital
Consolidated	$	50,600		14.36	%	$	28,196		> 8.00	%		N/A		N/A
Bank	$	49,416		14.02	%	$	28,196		> 8.00	%	$	35,245		>10.00	%
Tier 1 capital
Consolidated	$	46,192		13.11	%	$	14,098		> 4.00	%		N/A		N/A
Bank	$	45,008		12.77	%	$	14,098		> 4.00	%	$	21,147		> 6.00	%
Leverage
Consolidated	$	46,192		9.20	%	$	20,076		> 4.00	%		N/A		N/A
Bank	$	45,008		8.97	%	$	20,076		> 4.00	%	$	25,095		>5.00	%
As of December 31, 2013
Total risk-based capital
Consolidated	$	50,644		13.82	%	$	29,321		> 8.00	%		N/A		N/A
Bank	$	49,473		13.50	%	$	29,321		> 8.00	%	$	36,651		>10.00	%
Tier 1 capital
Consolidated	$	46,036		12.56	%	$	14,661		> 4.00	%		N/A		N/A
Bank	$	44,865		12.24	%	$	14,661		> 4.00	%	$	21,992		> 6.00	%
Leverage
Consolidated	$	46,036		9.00	%	$	20,456		> 4.00	%		N/A		N/A
Bank	$	44,865		8.77	%	$	20,456		> 4.00	%	$	25,570		> 5.00	%

Item 3.Quantitative and Qualitative Disclosure about Market Risk

Not required.

Item 4.Controls and Procedures

The Company carried out an evaluation, under the supervision and with the participation of the Company's management, including the Company's Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Company's disclosure controls and procedures (as defined in Rule 13Q-15(e) under the Securities Exchange Act of 1934) as of June 30, 2014, pursuant to Exchange Act Rule 13a-15. Based upon that evaluation, the Chief Executive Officer and Financial Officer concluded that the Company's disclosure controls and procedures were effective as of June 30, 2014.

There was no change in the Company’s internal control over financial reporting that occurred during the Company’s fiscal quarter ended June 30, 2014, that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

41.

Part II	Other Information
Item 1 -	Legal Proceedings:
	There are no matters required to be reported under this item.
Item 1A-	Risk Factors
	There has been no material change in the nature of the risk factors set forth in the Company’s Form 10-K for the year ended December 31, 2013.
Item 2 -	Unregistered Sales of Equity Securities and Use of Proceeds
	There are no matters required to be reported under this item.
Item 3 -	Defaults upon Senior Securities:
	There are no matters required to be reported under this item.
Item 4 -	Mine Safety Disclosures:
	There are no matters required to be reported under this item.
Item 5 -	Other Information:
	There are no matters required to be reported under this item.
Item 6 -	Exhibits:
	Exhibits – The following exhibits are filed as a part of this report:

Exhibit No.	Exhibit
3.1	Amended and Restated Articles of Incorporation of DCB Financial Corp, incorporated by reference to the Company’s Report on Form 10-Q filed with the Commission on November 14, 2003 (File No 000-22387).
3.2	Amended and Restated Articles of Incorporation of DCB Financial Corp, incorporated by reference to the Company’s Report on Form 10-Q filed with the Commission on November 14, 2003 (File No 000-22387).
31.1	Certification pursuant to section 302 of the Sarbanes-Oxley Act of 2002
31.2	Certification pursuant to section 302 of the Sarbanes-Oxley Act of 2002
32.1	Certification pursuant to 18 U.S.C. 1350, as enacted pursuant to section 906 of the Sarbanes-Oxley Act of 2002
32.2	Certification pursuant to 18 U.S.C. 1350, as enacted pursuant to section 906 of the Sarbanes-Oxley Act of 2002
101	The following information from DCB Financial Corp.’s Quarterly Report on Form 10-Q for the quarterly period ended June 30, 2014 formatted in XBRL (eXtensible Business Reporting Language) pursuant to Rule 405 of Regulation S-T: (i) the Condensed Consolidated Balance Sheets as of June 30, 2014 (unaudited) and December 31, 2013;  (ii) the Condensed Consolidated Statements of Operations for the three months ended June 30, 2014 and 2013 (unaudited);  (iii) the Condensed Consolidated Statements of Comprehensive Income for the three months ended June 30, 2014 and 2013 (unaudited);  (iv) the Condensed Consolidated Statements of Cash Flow for the three months ended June 30, 2014 and 2013 (unaudited); (v) the Consolidated Condensed Statements of Cash Flows for the three months ended June 30, 2014 and 2013 (unaudited); and (vi) the Notes to Condensed Consolidated Financial Statements (furnished herewith).
	Pursuant to Rule 406T of Regulation S-T, the interactive data files included as Exhibit 101 are furnished and not deemed files or part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933, as amended, and are deemed not filed for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, and otherwise are not subject to liability under those Sections.

42.

SIGNATURES

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

	DCB FINANCIAL CORP
	(Registrant)
Dated:  August 14, 2014	/s/ Ronald J. Seiffert
	Ronald J. Seiffert
	President and Chief Executive Officer
	(Principal Executive Officer)
Dated:  August 14, 2014	/s/ J. Daniel Mohr
	J. Daniel Mohr
	Executive Vice President and Chief Financial Officer
	(Principal Financial and Accounting Officer)

43.