UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C. 20549
FORM 10-Q
Quarterly Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the quarterly period ended June 30, 2014
Commission File Number 000-22787
FOUR OAKS FINCORP, INC. |
(Exact name of registrant as specified in its charter) |
NORTH CAROLINA | 56-2028446 | |
(State or other jurisdiction of | (IRS Employer | |
incorporation or organization) | Identification Number) |
6114 U.S. 301 SOUTH, FOUR OAKS, NC 27524 |
(Address of principal executive office, including zip code) |
(919) 963-2177 |
(Registrant's telephone number, including area code) |
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. xYES oNO
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) xYES oNO
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 the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer o | Accelerated filer o |
Non-accelerated filer o (Do not check if a smaller reporting company) | Smaller reporting company x |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act):
oYES xNO
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date:
Common Stock, | 8,877,795 |
par value $1.00 per share | (Number of shares outstanding |
(Title of Class) | August 11, 2014 |
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TABLE OF CONTENTS | Page No. | |
June 30, 2014 (Unaudited) and December 31, 2013 | ||
Three and Six Months Ended June 30, 2014 and 2013 | ||
Consolidated Statements of Comprehensive Income (Loss) (Unaudited) | ||
Three and Six Months Ended June 30, 2014 and 2013 | ||
Six Months Ended June 30, 2014 and 2013 | ||
Six Months Ended June 30, 2014 and 2013 | ||
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Part I. FINANCIAL INFORMATION
Item 1 – FINANCIAL STATEMENTS
FOUR OAKS FINCORP, INC.
CONSOLIDATED BALANCE SHEETS
(Amounts in thousands, except share data)
June 30, 2014 | December 31, 2013 | ||||||
(Unaudited) | (*) | ||||||
ASSETS | |||||||
Cash and due from banks | $ | 15,521 | $ | 11,890 | |||
Interest-earning deposits | 171,173 | 116,739 | |||||
Cash and cash equivalents | 186,694 | 128,629 | |||||
CDs held for investment | 26,460 | 31,850 | |||||
Investment securities available-for-sale, at fair value | 17,234 | 32,566 | |||||
Investment securities held-to-maturity, at amortized cost | 90,272 | 98,013 | |||||
Total investment securities | 107,506 | 130,579 | |||||
Loans | 476,682 | 492,712 | |||||
Allowance for loan losses | (10,946 | ) | (11,590 | ) | |||
Net loans | 465,736 | 481,122 | |||||
Mortgage loans held for sale | 581 | — | |||||
Accrued interest receivable | 1,550 | 1,576 | |||||
Bank premises and equipment, net | 12,168 | 12,571 | |||||
FHLB stock | 5,778 | 6,076 | |||||
Investment in life insurance | 14,487 | 14,380 | |||||
Foreclosed assets | 6,048 | 8,502 | |||||
Other assets | 6,358 | 6,261 | |||||
Total assets | $ | 833,366 | $ | 821,546 | |||
LIABILITIES AND SHAREHOLDERS' EQUITY | |||||||
Deposits: | |||||||
Noninterest-bearing demand | $ | 253,359 | $ | 228,203 | |||
Money market, NOW accounts and savings accounts | 161,557 | 166,102 | |||||
Time deposits, $100,000 and over | 154,372 | 162,403 | |||||
Other time deposits | 95,270 | 100,912 | |||||
Total deposits | 664,558 | 657,620 | |||||
Borrowings | 112,000 | 112,000 | |||||
Subordinated debentures | 12,372 | 12,372 | |||||
Subordinated promissory notes | 12,000 | 12,000 | |||||
Accrued interest payable | 1,730 | 1,642 | |||||
Other liabilities | 3,402 | 4,289 | |||||
Total liabilities | 806,062 | 799,923 | |||||
Commitments (Note F) | |||||||
Shareholders’ equity: | |||||||
Common stock, $1.00 par value, 80,000,000 shares authorized; 8,877,795 and 7,977,657 shares issued and outstanding at June 30, 2014 and December 31, 2013, respectively. | 8,878 | 7,978 | |||||
Additional paid-in capital | 34,329 | 34,269 | |||||
Accumulated deficit | (16,614 | ) | (20,390 | ) | |||
Accumulated other comprehensive income (loss) | 711 | (234 | ) | ||||
Total shareholders' equity | 27,304 | 21,623 | |||||
Total liabilities and shareholders' equity | $ | 833,366 | $ | 821,546 |
(*) Derived from audited consolidated financial statements.
The accompanying notes are an integral part of the consolidated financial statements.
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FOUR OAKS FINCORP, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited)
(Amounts in thousands, except share data)
Three Months Ended | Six Months Ended | |||||||||||||||
June 30, | June 30, | |||||||||||||||
2014 | 2013 | 2014 | 2013 | |||||||||||||
Interest and dividend income: | ||||||||||||||||
Loans, including fees | $ | 6,535 | $ | 6,785 | $ | 13,096 | $ | 13,781 | ||||||||
Taxable investments | 628 | 226 | 1,283 | 475 | ||||||||||||
Dividends | 81 | 86 | 163 | — | 185 | |||||||||||
Interest-earning deposits | 184 | 166 | 342 | 334 | ||||||||||||
Total interest and dividend income | 7,428 | 7,263 | 14,884 | 14,775 | ||||||||||||
Interest expense: | ||||||||||||||||
Deposits | 722 | 897 | 1,457 | 1,847 | ||||||||||||
Borrowings | 1,014 | 1,014 | 2,016 | 2,016 | ||||||||||||
Subordinated debentures | 50 | 51 | 99 | 102 | ||||||||||||
Subordinated promissory notes | 254 | 254 | 506 | 506 | ||||||||||||
Total interest expense | 2,040 | 2,216 | 4,078 | 4,471 | ||||||||||||
Net interest income | 5,388 | 5,047 | 10,806 | 10,304 | ||||||||||||
Provision for loan losses | — | — | — | 35 | ||||||||||||
Net interest income after provision for loan losses | 5,388 | 5,047 | 10,806 | 10,269 | ||||||||||||
Non-interest income: | ||||||||||||||||
Service charges on deposit accounts | 413 | 410 | 813 | 875 | ||||||||||||
Other service charges, commissions and fees | 776 | 780 | 1,480 | 1,510 | ||||||||||||
Gains on sale of investment securities available-for-sale, net | 90 | 321 | 214 | 370 | ||||||||||||
Recovery of impairment loss on redemption of preferred shares | — | — | 89 | — | ||||||||||||
Income from investment in life insurance | 53 | 68 | 107 | 137 | ||||||||||||
Other | 2,066 | 101 | 2,797 | 897 | ||||||||||||
Total non-interest income | 3,398 | 1,680 | 5,500 | 3,789 | ||||||||||||
Non-interest expenses: | ||||||||||||||||
Salaries | 2,440 | 2,531 | 4,851 | 5,314 | ||||||||||||
Employee benefits | 476 | 464 | 962 | 1,000 | ||||||||||||
Occupancy expenses | 303 | 306 | 593 | 653 | ||||||||||||
Equipment expenses | 332 | 342 | 631 | 705 | ||||||||||||
Professional and consulting fees | 863 | 703 | 1,430 | 1,406 | ||||||||||||
FDIC assessments | 454 | 478 | 908 | 919 | ||||||||||||
Foreclosed asset-related costs, net | 83 | 346 | 447 | 940 | ||||||||||||
Collection expenses | 172 | 334 | 354 | 691 | ||||||||||||
Other | 1,244 | 1,328 | 2,354 | 2,458 | ||||||||||||
Total non-interest expenses | 6,367 | 6,832 | 12,530 | 14,086 | ||||||||||||
Income (loss) before income taxes | 2,419 | (105 | ) | 3,776 | (28 | ) | ||||||||||
Income tax | — | — | — | — | ||||||||||||
Net income (loss) | $ | 2,419 | $ | (105 | ) | $ | 3,776 | $ | (28 | ) | ||||||
Basic net income (loss) per common share | $ | 0.27 | $ | (0.01 | ) | $ | 0.45 | $ | 0.00 | |||||||
Diluted net income (loss) per common share | $ | 0.27 | $ | (0.01 | ) | $ | 0.45 | $ | 0.00 | |||||||
Weighted Average Shares Outstanding, Basic | 8,870,439 | 7,924,563 | 8,456,016 | 7,873,330 | ||||||||||||
Weighted Average Shares Outstanding, Diluted | 8,896,741 | 7,924,563 | 8,475,539 | 7,873,330 |
The accompanying notes are an integral part of the consolidated financial statements.
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FOUR OAKS FINCORP, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) UNAUDITED)
(Amounts in thousands)
Three Months Ended | Six Months Ended | ||||||||||||||
June 30, | June 30, | ||||||||||||||
2014 | 2013 | 2014 | 2013 | ||||||||||||
Net income (loss) | $ | 2,419 | $ | (105 | ) | $ | 3,776 | $ | (28 | ) | |||||
Other comprehensive income (loss): | |||||||||||||||
Securities available-for-sale: | |||||||||||||||
Unrealized gains (losses) on securities available-for-sale | 397 | (529 | ) | 1,211 | (573 | ) | |||||||||
Tax effect | — | 204 | — | 221 | |||||||||||
Reclassification of gains recognized in net income | (90 | ) | (321 | ) | (214 | ) | (370 | ) | |||||||
Tax effect | — | 124 | — | 143 | |||||||||||
Amortization of unrealized (losses) gains on investment securities transferred from available-for-sale to held-to-maturity | (24 | ) | 10 | (52 | ) | 10 | |||||||||
Tax effect | — | (4 | ) | — | (4 | ) | |||||||||
Total other comprehensive income (loss) | 283 | (516 | ) | 945 | (573 | ) | |||||||||
Comprehensive income (loss) | $ | 2,702 | $ | (621 | ) | $ | 4,721 | $ | (601 | ) |
The accompanying notes are an integral part of the consolidated financial statements.
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FOUR OAKS FINCORP, INC.
CONSOLIDATED STATEMENT OF SHAREHOLDERS’ EQUITY (UNAUDITED)
(Amounts in thousands, except share data)
Common stock | Additional paid-in capital | Accumulated deficit | Accumulated other comprehensive income | Total shareholders' equity | ||||||||||||||||||
Shares | Amount | |||||||||||||||||||||
BALANCE, DECEMBER 31, 2012 | 7,815,385 | $ | 7,815 | $ | 34,192 | $ | (20,040 | ) | $ | 709 | $ | 22,676 | ||||||||||
Net loss | — | — | — | (28 | ) | — | (28 | ) | ||||||||||||||
Other comprehensive loss | — | — | — | — | (573 | ) | (573 | ) | ||||||||||||||
Issuance of common stock | 125,333 | 126 | 42 | — | — | 168 | ||||||||||||||||
Stock based compensation | — | — | 20 | — | — | 20 | ||||||||||||||||
BALANCE, JUNE 30, 2013 | 7,940,718 | $ | 7,941 | $ | 34,254 | $ | (20,068 | ) | $ | 136 | $ | 22,263 |
Common stock | Additional paid-in capital | Accumulated deficit | Accumulated other comprehensive income | Total shareholders' equity | ||||||||||||||||||
Shares | Amount | |||||||||||||||||||||
BALANCE, DECEMBER 31, 2013 | 7,977,657 | $ | 7,978 | $ | 34,269 | $ | (20,390 | ) | $ | (234 | ) | $ | 21,623 | |||||||||
Net income | — | — | — | 3,776 | — | 3,776 | ||||||||||||||||
Other comprehensive income | — | — | — | — | 945 | 945 | ||||||||||||||||
Issuance of common stock | 900 | 900 | 40 | — | — | 940 | ||||||||||||||||
Stock based compensation | — | — | 20 | — | — | 20 | ||||||||||||||||
BALANCE, JUNE 30, 2014 | 8,877,795 | $ | 8,878 | $ | 34,329 | $ | (16,614 | ) | $ | 711 | $ | 27,304 |
The accompanying notes are an integral part of the consolidated financial statements.
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FOUR OAKS FINCORP, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(Amounts in thousands)
Six Months Ended | |||||||
June 30, | |||||||
2014 | 2013 | ||||||
Cash flows from operating activities: | |||||||
Net income (loss) | $ | 3,776 | $ | (28 | ) | ||
Adjustments to reconcile net income (loss) to net cash provided by operating activities: | |||||||
Provision for loan losses | — | 35 | |||||
Depreciation and amortization | 439 | 499 | |||||
Net amortization of bond premiums and discounts | 600 | 913 | |||||
Stock based compensation | 20 | 20 | |||||
Gain on sale of investment securities | (214 | ) | (370 | ) | |||
Gain on sale of branches | — | (586 | ) | ||||
Gain on disposition of bank premises and equipment | (4 | ) | — | ||||
(Gain) loss on sale of foreclosed assets, net | (69 | ) | 51 | ||||
Valuation adjustment on foreclosed assets | 295 | 637 | |||||
Earnings on bank-owned life insurance | (107 | ) | (137 | ) | |||
Gain on sale of mortgage loans held for sale | (110 | ) | (324 | ) | |||
Originations of mortgage loans held for sale | (13,372 | ) | (15,789 | ) | |||
Proceeds from sale of mortgage loans held for sale | 12,901 | 15,695 | |||||
Recovery of impairment loss on redemption of preferred shares | (89 | ) | — | ||||
Changes in assets and liabilities: | |||||||
Other assets | (263 | ) | 3,478 | ||||
Accrued interest receivable | 26 | 346 | |||||
Other liabilities | (887 | ) | 6,382 | ||||
Accrued interest payable | 88 | (162 | ) | ||||
Net cash provided by operating activities | 3,030 | 10,660 | |||||
Cash flows from investing activities: | |||||||
Proceeds from sales and calls of investment securities available-for-sale | 19,981 | 12,879 | |||||
Proceeds from paydowns of investment securities available-for-sale | 723 | 5,273 | |||||
Proceeds from paydowns of investment securities held-to-maturity | 7,152 | 3,903 | |||||
Purchases of investment securities available-for-sale | (3,969 | ) | (17,863 | ) | |||
Purchases of investment securities held-to-maturity | — | (22,626 | ) | ||||
Net cash from sale of branches | — | (39,622 | ) | ||||
Redemption (purchase) of CDs held for investment | 5,390 | (3,675 | ) | ||||
Redemption of FHLB stock | 298 | 339 | |||||
Net decrease in loans outstanding | 14,844 | 8,663 | |||||
Purchases of bank premises and equipment, net of disposals | (32 | ) | (142 | ) | |||
Proceeds from sales of foreclosed assets | 2,770 | 3,781 | |||||
Net recoveries on foreclosed assets | — | 12 | |||||
Net cash provided by (used in) investing activities | 47,157 | (49,078 | ) | ||||
Cash flows from financing activities: | |||||||
Net increase in deposit accounts | 6,938 | 14,986 | |||||
Proceeds from issuance of common stock | 940 | 168 | |||||
Net cash provided by financing activities | 7,878 | 15,154 | |||||
Change in cash and cash equivalents | 58,065 | (23,264 | ) | ||||
Cash and cash equivalents at beginning of period | 128,629 | 183,150 | |||||
Cash and cash equivalents at end of period | $ | 186,694 | $ | 159,886 |
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FOUR OAKS FINCORP, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(Amounts in thousands)
Six Months Ended | |||||||
June 30, | |||||||
2014 | 2013 | ||||||
Supplemental disclosures of cash flow information: | |||||||
Interest paid on deposits and borrowings | $ | 3,990 | $ | 4,633 | |||
Income taxes paid | 50 | — | |||||
Supplemental disclosure for sale of branches: | |||||||
Proceeds from sale of fixed assets | $ | — | $ | 1,867 | |||
Proceeds from sale of loans | — | 15,061 | |||||
Assumption of customer deposits | — | (57,361 | ) | ||||
Gain on sale of branches | — | 586 | |||||
Proceeds from sale of other assets | — | 225 | |||||
Total proceeds paid to First Bank | $ | — | $ | (39,622 | ) | ||
Supplemental disclosures of noncash investing and financing activities: | |||||||
Unrealized gains (losses) on investment securities available-for-sale, net of taxes | $ | 1,163 | $ | (573 | ) | ||
Amortization of net gain on investment securities transferred to held-to-maturity | (52 | ) | — | ||||
Unrealized gains on investment securities transferred from available-for-sale to held-to-maturity | — | 355 | |||||
Available-for-sale securities purchased, not yet settled | — | 4,708 | |||||
Transfers of loans to foreclosed assets | 542 | 1,121 | |||||
Transfer of available-for-sale securities to held-to-maturity securities | 76,487 | ||||||
Loans transferred to held for investment from held for sale | — | 3,639 | |||||
Bank premise and equipment transferred to held for investment from held for sale | — | 34 |
The accompanying notes are an integral part of the consolidated financial statements.
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FOUR OAKS FINCORP, INC.
Notes to Consolidated Financial Statements
NOTE A - BASIS OF PRESENTATION
In management’s opinion, the financial information contained in the accompanying unaudited consolidated financial statements reflects all adjustments (consisting solely of normal recurring adjustments) necessary for a fair presentation of the financial information as of and for the six months ended June 30, 2014 and 2013, in conformity with accounting principles generally accepted in the United States of America. The consolidated financial statements include the accounts and transactions of Four Oaks Fincorp, Inc., a bank holding company incorporated under the laws of the State of North Carolina (the “Company”), and its wholly-owned subsidiary, Four Oaks Bank & Trust Company (the “Bank”). Operating results for the six months ended June 30, 2014 are not necessarily indicative of the results that may be expected for the fiscal year ending December 31, 2014.
The organization and business of the Company, accounting policies followed by the Company and other information are contained in the notes to the consolidated financial statements filed as part of the Company’s Annual Report on Form 10-K for the year ended December 31, 2013. This Quarterly Report should be read in conjunction with such Annual Report.
Certain amounts previously presented in our Consolidated Financial Statements for the prior periods have been reclassified to conform to current classifications. All such reclassifications had no impact on the prior periods' Statements of Operations, Comprehensive Income (Loss), or Shareholders' Equity as previously reported.
Recent Accounting Pronouncements
In May 2014, the FASB issued ASU No. 2014-09, Revenue from Contracts with Customers (Topic 606) which supersedes the revenue recognition requirements of Accounting Standards Codification (“ASC”) Topic 605, Revenue Recognition, and most industry-specific guidance on revenue recognition throughout the ASC. The new standard is principles based and provides a five step model to determine when and how revenue is recognized. The core principle of the new standard is that revenue should be recognized when a company transfers promised goods or services to customers in an amount that reflects the consideration to which the company expects to be entitled in exchange for those goods or services. The new standard also requires disclosure of qualitative and quantitative information surrounding the amount, nature, timing and uncertainty of revenues and cash flows arising from contracts with customers. The new standard is effective for the Company in the first quarter of the year ended December 31, 2017 and can be applied either retrospectively to all periods presented or as a cumulative-effect adjustment as of the date of adoption. Early adoption is not permitted. The Company is currently evaluating the impact of adoption of the new standard on its consolidated financial statements.
In January 2014, the FASB issued ASU No. 2014-04, Receivables–Troubled Debt Restructurings by Creditors (Subtopic 310-40): Reclassification of Residential Real Estate Collateralized Consumer Mortgage Loans upon Foreclosure. This update clarifies that an in-substance repossession or foreclosure occurs upon either the creditor obtaining legal title to the residential real estate property or the borrower conveying all interest in the residential real estate property to the creditor to satisfy that loan through completion of a deed in lieu of foreclosure or through a similar legal agreement. This amendment is effective for annual and interim periods beginning after December 15, 2014. Management does not expect the adoption of this guidance to have a material impact on the Company's financial statements.
In July 2013, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") No. 2013-11, Income Taxes (Topic 740): Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists. This update seeks to eliminate the diversity in practice in the presentation of unrecognized tax benefits by providing explicit guidance on the financial statement presentation of an unrecognized tax benefit with a net operating loss carryforward, a similar tax loss, or a tax credit carryforward exists. This amendment is effective for annual and interim periods beginning after December 15, 2013. The adoption of the new guidance did not have a material impact on the Company's consolidated financial statements.
Other accounting standards that have been issued by the FASB or other standards-setting bodies are not expected to have a material impact on the Company’s financial position, results of operations and cash flows.
From time to time the FASB issues exposure drafts for proposed statements of financial accounting standards. Such exposure drafts are subject to comment from the public, to revisions by the FASB and to final issuance by the FASB as statements of financial accounting standards. Management considers the effect of the proposed statements on the consolidated financial statements of the Company and monitors the status of changes to and proposed effective dates of exposure drafts.
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NOTE B - NET INCOME (LOSS) PER SHARE
Basic net income (loss) per share represents earnings credited to common shareholders divided by the weighted average number of common shares outstanding during the period. Diluted income (loss) per share reflects additional common shares that would have been outstanding if dilutive potential common shares had been issued, as well as any adjustment to income that would result from the assumed issuance. Potential common shares that may be issued by the Company relate solely to outstanding stock options.
Basic and diluted net income (loss) per common share have been computed based upon net income (loss) as presented in the accompanying consolidated statements of operations divided by the weighted average number of common shares outstanding or assumed to be outstanding as summarized below (amounts in thousands, except share data):
Three Months Ended | Six Months Ended | ||||||||||||||
June 30, | June 30, | ||||||||||||||
2014 | 2013 | 2014 | 2013 | ||||||||||||
Net income (loss) available to common shareholders | $ | 2,419 | $ | (105 | ) | $ | 3,776 | $ | (28 | ) | |||||
Weighted average number of common shares - basic | 8,870,439 | 7,924,563 | 8,456,016 | 7,873,330 | |||||||||||
Effect of dilutive stock options | 26,302 | — | 19,523 | — | |||||||||||
Weighted average number of common shares - dilutive | 8,896,741 | 7,924,563 | 8,475,539 | 7,873,330 | |||||||||||
Basic earnings per common share | $ | 0.27 | $ | (0.01 | ) | $ | 0.45 | $ | 0.00 | ||||||
Diluted earnings per common share | $ | 0.27 | $ | (0.01 | ) | $ | 0.45 | $ | 0.00 | ||||||
Anti-dilutive awards | 181,232 | 305,005 | 181,232 | 305,005 |
For the three and six month period ended June 30, 2014, there were 26,302 and 19,523 dilutive shares as the average market price for the shares was greater than the exercise price. For the three and six months ended June 30, 2013, 305,005 outstanding stock options were anti-dilutive due to losses incurred.
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NOTE C – INVESTMENT SECURITIES
The amortized cost, gross unrealized gains, gross unrealized losses, and fair values of securities available-for-sale and securities held-to-maturity as of June 30, 2014 and December 31, 2013 are as follows (amounts in thousands):
June 30, 2014 | |||||||||||||||
Securities Available-for-Sale: | Amortized Cost | Gross Unrealized Gains | Gross Unrealized Losses | Fair Value | |||||||||||
Taxable municipal securities | $ | 10,141 | $ | 372 | $ | — | $ | 10,513 | |||||||
Mortgage-backed securities | |||||||||||||||
GNMA | 6,533 | 99 | — | 6,632 | |||||||||||
Equity securities | 53 | 36 | — | 89 | |||||||||||
Total | $ | 16,727 | $ | 507 | $ | — | $ | 17,234 |
June 30, 2014 | |||||||||||||||
Securities Held-to-Maturity: | Amortized Cost | Gross Unrealized Gains | Gross Unrealized Losses | Fair Value | |||||||||||
Taxable municipal securities | $ | 3,609 | $ | — | $ | 48 | $ | 3,561 | |||||||
Mortgage-backed securities | |||||||||||||||
GNMA | 82,666 | 705 | 449 | 82,922 | |||||||||||
FNMA | 3,997 | 36 | — | 4,033 | |||||||||||
Total | $ | 90,272 | $ | 741 | $ | 497 | $ | 90,516 |
December 31, 2013 | |||||||||||||||
Securities Available-for-Sale: | Amortized Cost | Gross Unrealized Gains | Gross Unrealized Losses | Fair Value | |||||||||||
Taxable municipal securities | $ | 6,176 | $ | — | $ | 243 | $ | 5,933 | |||||||
Mortgage-backed securities | |||||||||||||||
GNMA | 25,773 | — | 296 | 25,477 | |||||||||||
Trust preferred securities | 1,175 | — | 150 | 1,025 | |||||||||||
Equity securities | 98 | 33 | — | 131 | |||||||||||
Total | $ | 33,222 | $ | 33 | $ | 689 | $ | 32,566 |
December 31, 2013 | |||||||||||||||
Securities Held-to-Maturity: | Amortized Cost | Gross Unrealized Gains | Gross Unrealized Losses | Fair Value | |||||||||||
Taxable Municipals | $ | 3,635 | $ | 3 | $ | 157 | $ | 3,481 | |||||||
Mortgage-backed securities | |||||||||||||||
GNMA | 89,892 | 162 | 2,171 | 87,883 | |||||||||||
FNMA | 4,486 | — | 19 | 4,467 | |||||||||||
Total | $ | 98,013 | $ | 165 | $ | 2,347 | $ | 95,831 |
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During the second quarter of 2013, the Company transferred $76.5 million available-for-sale state and municipal debt and mortgage-backed securities to the held-to-maturity category, reflecting the Company's intent to hold those securities to maturity. Transfers of investment securities into the held-to-maturity category from the available-for-sale category are made at fair value at the date of the transfer. The related $346,000 of holding gains for these held-to-maturity securities remained in accumulated other comprehensive income and is being amortized as an adjustment to interest income over the remaining life of the securities. This will offset the amortization of the net premium created in the transfer. There were no gains or losses recognized as a result of this transfer.
The following tables show gross unrealized losses and fair values of investment securities, aggregated by investment category and length of time that the individual securities have been in a continuous unrealized loss position, at June 30, 2014 and December 31, 2013 (amounts in thousands). There were no available-for-sale securities in a loss position at June 30, 2014.
June 30, 2014 | |||||||||||||||||||||||||||||
Less Than 12 Months | 12 Months or More | Total | |||||||||||||||||||||||||||
Securities Held-to-Maturity: | # Securities | Fair value | Unrealized losses | # Securities | Fair value | Unrealized losses | Fair value | Unrealized losses | |||||||||||||||||||||
Taxable municipal securities | — | $ | — | $ | — | 9 | $ | 3,399 | $ | 48 | $ | 3,399 | $ | 48 | |||||||||||||||
Mortgage-backed securities | |||||||||||||||||||||||||||||
GNMA | 3 | 7,013 | 36 | 18 | 35,790 | 413 | 42,803 | 449 | |||||||||||||||||||||
Total temporarily impaired securities | 3 | $ | 7,013 | $ | 36 | 27 | $ | 39,189 | $ | 461 | $ | 46,202 | $ | 497 |
December 31, 2013 | |||||||||||||||||||||||||||||
Less Than 12 Months | 12 Months or More | Total | |||||||||||||||||||||||||||
Securities Available-for-Sale: | # Securities | Fair value | Unrealized losses | # Securities | Fair value | Unrealized losses | Fair value | Unrealized losses | |||||||||||||||||||||
Taxable municipal securities | 6 | $ | 5,933 | $ | 243 | — | $ | — | $ | — | $ | 5,933 | $ | 243 | |||||||||||||||
Mortgage-backed securities | |||||||||||||||||||||||||||||
GNMA | 8 | 25,477 | 296 | — | — | — | 25,477 | 296 | |||||||||||||||||||||
Trust preferred securities | — | — | — | 2 | 1,025 | 150 | 1,025 | 150 | |||||||||||||||||||||
Total temporarily impaired securities | 14 | $ | 31,410 | $ | 539 | 2 | $ | 1,025 | $ | 150 | $ | 32,435 | $ | 689 |
December 31, 2013 | |||||||||||||||||||||||||||||
Less Than 12 Months | 12 Months or More | Total | |||||||||||||||||||||||||||
Securities Held-to-Maturity: | # Securities | Fair value | Unrealized losses | # Securities | Fair value | Unrealized losses | Fair value | Unrealized losses | |||||||||||||||||||||
Taxable municipal securities | 8 | $ | 2,776 | $ | 157 | — | $ | — | $ | — | $ | 2,776 | $ | 157 | |||||||||||||||
Mortgage-backed securities | |||||||||||||||||||||||||||||
GNMA | 39 | 74,830 | 2,073 | 1 | 2,223 | 98 | 77,053 | 2,171 | |||||||||||||||||||||
FNMA | 3 | 4,467 | 19 | — | — | — | 4,467 | 19 | |||||||||||||||||||||
Total temporarily impaired securities | 50 | $ | 82,073 | $ | 2,249 | 1 | $ | 2,223 | $ | 98 | $ | 84,296 | $ | 2,347 |
-12-
Management evaluates each quarter whether unrealized losses on securities represent impairment that is other than temporary. For debt securities, the Company considers its intent to sell the securities or if it is more likely than not that the Company will be required to sell the securities. If such impairment is identified, based upon the intent to sell or the more likely than not threshold, the carrying amount of the security is reduced to fair value with a charge to earnings. Upon the result of the aforementioned review, management then reviews for potential other than temporary impairment based upon other qualitative factors. In making this evaluation, management considers changes in market rates relative to those available when the security was acquired, changes in market expectations about the timing of cash flows from securities that can be prepaid, performance of the debt security, and changes in the market's perception of the issuer's financial health and the security's credit quality. If determined that a debt security has incurred other than temporary impairment, then the amount of the credit related impairment is determined. If a credit loss is evident, the amount of the credit loss is charged to earnings and the non-credit related impairment is recognized through other comprehensive income.
The unrealized gains and losses on debt securities at June 30, 2014 resulted from changing market interest rates compared to the yields available at the time the underlying securities were purchased. As of June 30, 2014 there were 21 of 52 Government National Mortgage Association ("GNMA") mortgage backed securities ("MBS"), 0 of 3 Federal National Mortgage Association ("FNMA") MBS securities, and 9 of 21 taxable municipal securities that contained net unrealized losses. Management identified no impairment related to credit quality. At June 30, 2014 management had the intent and ability to hold impaired securities and no impairment was evaluated as other than temporary. As a result, no other than temporary impairment losses were recognized during the three and six months ended June 30, 2014.
The amortized cost and fair value of available-for-sale and held-to-maturity securities at June 30, 2014 by contractual maturities are shown on the following table (amounts in thousands). Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.
June 30, 2014 | |||||||
Securities Available-for-Sale: | Amortized Cost | Fair Value | |||||
Taxable municipal securities: | |||||||
Due after ten years | 10,141 | 10,513 | |||||
Total taxable municipal securities | 10,141 | 10,513 | |||||
Mortgage-backed securities - GNMA/FNMA: | |||||||
Due after five years through ten years | 2,934 | 2,976 | |||||
Due after ten years | 3,599 | 3,656 | |||||
Total mortgage-backed securities - GNMA/FNMA | 6,533 | 6,632 | |||||
Other securities: | |||||||
Equity securities | 53 | 89 | |||||
Total other securities | 53 | 89 | |||||
Total available-for-sale securities | $ | 16,727 | $ | 17,234 | |||
Securities Held-to-Maturity: | |||||||
Taxable municipal securities: | |||||||
Due after one year through five years | 985 | 979 | |||||
Due after five years through ten years | 2,624 | 2,582 | |||||
Total taxable municipal securities | 3,609 | 3,561 | |||||
Mortgage-backed securities - GNMA/FNMA: | |||||||
Due after one year through five years | 49,551 | 49,935 | |||||
Due after five years through ten years | 24,589 | 24,593 | |||||
Due after ten years | 12,523 | 12,427 | |||||
Total mortgage-backed securities - GNMA/FNMA | 86,663 | 86,955 | |||||
Total held-to-maturity securities | $ | 90,272 | $ | 90,516 |
��
-13-
Sales and calls of securities available-for-sale for the six months ended June 30, 2014 and 2013 of $20.0 million and $12.9 million generated net realized gains of $214,000 and $370,000, respectively, and no net realized losses for either period. Sales and calls of securities available-for-sale for the three months ended June 30, 2014 and 2013 of $6.6 million and $10.7 million generated net realized gains of $90,000 and $321,000, respectively, and no net realized losses for either period.
NOTE D – LOANS AND ALLOWANCE FOR LOAN LOSSES
The Company has adopted comprehensive lending policies, underwriting standards and loan review procedures, which are reviewed on a regular basis. Each class of loans is subject to risks that could have an adverse impact on the credit quality of the loan portfolio. Loans are primarily made in the Company's market area in North Carolina, principally Johnston County, and parts of Wake, Harnett, Duplin, Sampson, and Moore counties. There have been no significant changes to loan class definitions outlined in the Company's Annual Report on Form 10-K for the year ended December 31, 2013.
The classification of loans as of June 30, 2014 and December 31, 2013 are summarized as follows (amounts in thousands):
June 30, 2014 | December 31, 2013 | ||||||
Commercial and industrial | $ | 24,826 | $ | 25,858 | |||
Commercial construction and land development | 59,705 | 66,253 | |||||
Commercial real estate | 204,625 | 214,159 | |||||
Residential construction | 30,471 | 28,697 | |||||
Residential mortgage | 146,877 | 147,300 | |||||
Consumer | 6,754 | 6,750 | |||||
Consumer credit cards | 2,164 | 2,339 | |||||
Business credit cards | 1,140 | 1,124 | |||||
Other | 653 | 738 | |||||
Gross loans | 477,215 | 493,218 | |||||
Less: | |||||||
Net deferred loan fees | (533 | ) | (506 | ) | |||
Net loans before allowance | 476,682 | 492,712 | |||||
Allowance for loan losses | (10,946 | ) | (11,590 | ) | |||
Total net loans | $ | 465,736 | $ | 481,122 |
-14-
Allowance for Loan Losses and Recorded Investment in Loans
The allowance for loan losses represents management’s estimate of an amount adequate to provide for known and inherent losses in the loan portfolio in the normal course of business. Management evaluates the adequacy of this allowance at least quarterly during which time those loans that are identified as impaired are evaluated individually.
The following tables are an analysis of the allowance for loan losses by loan class, as of and for the three and six months ended June 30, 2014 and 2013 and as of and for the twelve months ended December 31, 2013 (amounts in thousands).
Three Months Ended | |||||||||||||||||||||||||||||||
June 30, 2014 | |||||||||||||||||||||||||||||||
Real Estate | |||||||||||||||||||||||||||||||
Allowances for loan losses: | Commercial and Industrial | Commercial Construction and Land Development | Commercial Real Estate | Residential Construction | Residential Mortgage | Consumer | Other | Totals | |||||||||||||||||||||||
Balance March 31, 2014 | $ | 407 | $ | 5,482 | $ | 2,847 | $ | 701 | $ | 1,900 | $ | 170 | $ | 9 | $ | 11,516 | |||||||||||||||
Provision for loan losses | (92 | ) | 107 | (326 | ) | 90 | 171 | 44 | 6 | — | |||||||||||||||||||||
Loans charged-off | (1 | ) | (164 | ) | (283 | ) | (171 | ) | (173 | ) | (47 | ) | — | (839 | ) | ||||||||||||||||
Recoveries | 75 | 142 | 3 | — | 47 | 2 | — | 269 | |||||||||||||||||||||||
Net recoveries (charge-offs) | 74 | (22 | ) | (280 | ) | (171 | ) | (126 | ) | (45 | ) | — | (570 | ) | |||||||||||||||||
Balance June 30, 2014 | $ | 389 | $ | 5,567 | $ | 2,241 | $ | 620 | $ | 1,945 | $ | 169 | $ | 15 | $ | 10,946 |
Six Months Ended | |||||||||||||||||||||||||||||||
June 30, 2014 | |||||||||||||||||||||||||||||||
Real Estate | |||||||||||||||||||||||||||||||
Allowances for loan losses: | Commercial and Industrial | Commercial Construction and Land Development | Commercial Real Estate | Residential Construction | Residential Mortgage | Consumer | Other | Totals | |||||||||||||||||||||||
Balance December 31, 2013 | $ | 487 | $ | 5,037 | $ | 2,981 | $ | 713 | $ | 2,146 | $ | 188 | $ | 38 | $ | 11,590 | |||||||||||||||
Provision for loan losses | (188 | ) | 663 | (412 | ) | 78 | (150 | ) | 53 | (44 | ) | — | |||||||||||||||||||
Loans charged-off | (24 | ) | (317 | ) | (490 | ) | (171 | ) | (240 | ) | (89 | ) | — | (1,331 | ) | ||||||||||||||||
Recoveries | 114 | 184 | 162 | — | 189 | 17 | 21 | 687 | |||||||||||||||||||||||
Net recoveries (charge-offs) | 90 | (133 | ) | (328 | ) | (171 | ) | (51 | ) | (72 | ) | 21 | (644 | ) | |||||||||||||||||
Balance June 30, 2014 | $ | 389 | $ | 5,567 | $ | 2,241 | $ | 620 | $ | 1,945 | $ | 169 | $ | 15 | $ | 10,946 | |||||||||||||||
Ending balance: individually evaluated for impairment | $ | 116 | $ | 1,078 | $ | 353 | $ | — | $ | 580 | $ | — | $ | — | $ | 2,127 | |||||||||||||||
Ending balance: collectively evaluated for impairment (1) | 273 | 4,489 | 1,888 | 620 | 1,365 | 169 | 15 | 8,819 | |||||||||||||||||||||||
Loans: | |||||||||||||||||||||||||||||||
Ending balance | $ | 25,966 | $ | 59,705 | $ | 204,625 | $ | 30,471 | $ | 146,877 | $ | 8,918 | $ | 653 | $ | 477,215 | |||||||||||||||
Less ending balance: individually evaluated for impairment | $ | 633 | $ | 10,924 | $ | 10,795 | $ | 524 | $ | 9,029 | $ | 533 | $ | — | $ | 32,438 | |||||||||||||||
Ending balance: collectively evaluated for impairment (1) | $ | 25,333 | $ | 48,781 | $ | 193,830 | $ | 29,947 | $ | 137,848 | $ | 8,385 | $ | 653 | $ | 444,777 |
(1) Includes $1.5 million in small dollar homogeneous loans collectively evaluated for impairment with $142,000 in reserves established.
-15-
Three Months Ended | |||||||||||||||||||||||||||||||
June 30, 2013 | |||||||||||||||||||||||||||||||
Real Estate | |||||||||||||||||||||||||||||||
Allowances for loan losses: | Commercial and Industrial | Commercial Construction and Land Development | Commercial Real Estate | Residential Construction | Residential Mortgage | Consumer | Other | Totals | |||||||||||||||||||||||
Balance March 31, 2013 | $ | 1,178 | $ | 7,619 | $ | 2,472 | $ | 462 | $ | 3,282 | $ | 173 | $ | 61 | $ | 15,247 | |||||||||||||||
Provision for loan losses | (395 | ) | 62 | 271 | 125 | (133 | ) | 39 | 31 | — | |||||||||||||||||||||
Loans charged-off | (42 | ) | (1,198 | ) | (987 | ) | (138 | ) | (294 | ) | (73 | ) | — | (2,732 | ) | ||||||||||||||||
Recoveries | 228 | 91 | 1,007 | — | 158 | 39 | — | 1,523 | |||||||||||||||||||||||
Net recoveries (charge-offs) | 186 | (1,107 | ) | 20 | (138 | ) | (136 | ) | (34 | ) | — | (1,209 | ) | ||||||||||||||||||
Balance June 30, 2013 | $ | 969 | $ | 6,574 | $ | 2,763 | $ | 449 | $ | 3,013 | $ | 178 | $ | 92 | $ | 14,038 |
Six Months Ended | |||||||||||||||||||||||||||||||
June 30, 2013 | |||||||||||||||||||||||||||||||
Real Estate | |||||||||||||||||||||||||||||||
Allowances for loan losses: | Commercial and Industrial | Commercial Construction and Land Development | Commercial Real Estate | Residential Construction | Residential Mortgage | Consumer | Other | Totals | |||||||||||||||||||||||
Balance December 31, 2013 | $ | 1,185 | $ | 7,251 | $ | 2,961 | $ | 423 | $ | 4,471 | $ | 188 | $ | 70 | $ | 16,549 | |||||||||||||||
Provision for loan losses | (407 | ) | 1,003 | 19 | 164 | (835 | ) | 69 | 22 | 35 | |||||||||||||||||||||
Loans charged-off | (60 | ) | (1,858 | ) | (1,225 | ) | (138 | ) | (904 | ) | (164 | ) | — | (4,349 | ) | ||||||||||||||||
Recoveries | 251 | 178 | 1,008 | — | 281 | 85 | — | 1,803 | |||||||||||||||||||||||
Net recoveries (charge-offs) | 191 | (1,680 | ) | (217 | ) | (138 | ) | (623 | ) | (79 | ) | — | (2,546 | ) | |||||||||||||||||
Balance June 30, 2013 | $ | 969 | $ | 6,574 | $ | 2,763 | $ | 449 | $ | 3,013 | $ | 178 | $ | 92 | $ | 14,038 | |||||||||||||||
Ending balance: individually evaluated for impairment | $ | 338 | $ | 348 | $ | 509 | $ | — | $ | 253 | $ | — | $ | — | $ | 1,448 | |||||||||||||||
Ending balance: collectively evaluated for impairment | 631 | 6,226 | 2,254 | 449 | 2,760 | 178 | 92 | 12,590 | |||||||||||||||||||||||
Loans: | |||||||||||||||||||||||||||||||
Ending balance | $ | 27,701 | $ | 79,362 | $ | 186,324 | $ | 24,263 | $ | 161,806 | $ | 9,207 | $ | 907 | $ | 489,570 | |||||||||||||||
Less ending balance: individually evaluated for impairment | $ | 1,246 | $ | 16,108 | $ | 15,392 | $ | 695 | $ | 14,991 | $ | 22 | $ | — | $ | 48,454 | |||||||||||||||
Ending balance: collectively evaluated for impairment | $ | 26,455 | $ | 63,254 | $ | 170,932 | $ | 23,568 | $ | 146,815 | $ | 9,185 | $ | 907 | $ | 441,116 |
-16-
Twelve Months Ended | |||||||||||||||||||||||||||||||
December 31, 2013 | |||||||||||||||||||||||||||||||
Real Estate | |||||||||||||||||||||||||||||||
Allowances for loan losses: | Commercial and Industrial | Commercial Construction and Land Development | Commercial Real Estate | Residential Construction | Residential Mortgage | Consumer | Other | Totals | |||||||||||||||||||||||
Balance December 31, 2012 | $ | 1,185 | $ | 7,251 | $ | 2,961 | $ | 423 | $ | 4,471 | $ | 188 | $ | 70 | $ | 16,549 | |||||||||||||||
Provision for loan losses | (801 | ) | 958 | 701 | 428 | (1,332 | ) | 117 | (36 | ) | 35 | ||||||||||||||||||||
Loans charged-off | (411 | ) | (3,759 | ) | (2,226 | ) | (138 | ) | (1,553 | ) | (271 | ) | — | (8,358 | ) | ||||||||||||||||
Recoveries | 514 | 587 | 1,545 | — | 560 | 154 | 4 | 3,364 | |||||||||||||||||||||||
Net recoveries (charge-offs) | 103 | (3,172 | ) | (681 | ) | (138 | ) | (993 | ) | (117 | ) | 4 | (4,994 | ) | |||||||||||||||||
Balance December 31, 2013 | $ | 487 | $ | 5,037 | $ | 2,981 | $ | 713 | $ | 2,146 | $ | 188 | $ | 38 | $ | 11,590 | |||||||||||||||
Ending balance: individually evaluated for impairment | $ | 80 | $ | 264 | $ | 887 | $ | 137 | $ | 457 | $ | — | $ | — | $ | 1,825 | |||||||||||||||
Ending balance: collectively evaluated for impairment (1) | 407 | 4,773 | 2,094 | 576 | 1,689 | 188 | 38 | 9,765 | |||||||||||||||||||||||
Loans: | |||||||||||||||||||||||||||||||
Ending balance | $ | 26,982 | $ | 66,253 | $ | 214,159 | $ | 28,697 | $ | 147,300 | $ | 9,089 | $ | 738 | $ | 493,218 | |||||||||||||||
Less ending balance: individually evaluated for impairment | $ | 652 | $ | 12,234 | $ | 12,345 | $ | 1,181 | $ | 11,043 | $ | — | $ | — | $ | 37,455 | |||||||||||||||
Ending balance: collectively evaluated for impairment (1) | $ | 26,330 | $ | 54,019 | $ | 201,814 | $ | 27,516 | $ | 136,257 | $ | 9,089 | $ | 738 | $ | 455,763 |
(1) In mid-2013, the Company began evaluating small dollar homogeneous loans collectively for impairment. These loans and their related allowance for loan losses are included in these totals. At December 31, 2013, there were $1.7 million in impaired loans collectively evaluated for impairment with $226,000 in reserves established.
-17-
Credit Risk
The Company uses an internal grading system to assign the degree of inherent risk on each individual loan. The grade is initially assigned by the lending officer and reviewed by the loan administration function throughout the life of the loan. There have been no significant changes in credit grade definitions as outlined in the Company's Annual Report on Form 10-K for the year ended December 31, 2013.
The following tables are an analysis of the creditworthiness class by loan class and credit card portfolio exposure as of
June 30, 2014 and December 31, 2013 (amounts in thousands).
June 30, 2014 | |||||||||||||||||||||||||||||||
Real Estate | |||||||||||||||||||||||||||||||
Commercial and Industrial | Commercial Construction and Land Development | Commercial Real Estate | Residential Construction | Residential Mortgage | Consumer | Other | Totals | ||||||||||||||||||||||||
1 - Lowest Risk | $ | 2,110 | $ | — | $ | — | $ | — | $ | — | $ | 1,608 | $ | 8 | $ | 3,726 | |||||||||||||||
2 - Satisfactory Quality | 655 | 587 | 2,467 | 397 | 14,425 | 376 | 13 | 18,920 | |||||||||||||||||||||||
3 - Satisfactory-Merits Attention | 9,485 | 10,654 | 76,742 | 3,282 | 53,952 | 3,728 | 343 | 158,186 | |||||||||||||||||||||||
4 - Low Satisfactory | 11,486 | 35,316 | 112,158 | 26,268 | 57,577 | 955 | 166 | 243,926 | |||||||||||||||||||||||
5 - Special mention | 228 | 2,859 | 4,455 | — | 8,494 | 53 | 123 | 16,212 | |||||||||||||||||||||||
6-8 - Substandard | 862 | 10,289 | 8,803 | 524 | 12,429 | 34 | — | 32,941 | |||||||||||||||||||||||
$ | 24,826 | $ | 59,705 | $ | 204,625 | $ | 30,471 | $ | 146,877 | $ | 6,754 | $ | 653 | $ | 473,911 |
Consumer - Credit Card | Business- Credit Card | ||||||
Performing | $ | 2,155 | $ | 1,133 | |||
Non Performing | 9 | 7 | |||||
Total | $ | 2,164 | $ | 1,140 | |||
Total Loans | $ | 477,215 |
December 31, 2013 | |||||||||||||||||||||||||||||||
Real Estate | |||||||||||||||||||||||||||||||
Commercial and Industrial | Commercial Construction and Land Development | Commercial Real Estate | Residential Construction | Residential Mortgage | Consumer | Other | Totals | ||||||||||||||||||||||||
1 - Lowest Risk | $ | 2,014 | $ | — | $ | — | $ | — | $ | — | $ | 1,365 | $ | 8 | $ | 3,387 | |||||||||||||||
2 - Satisfactory Quality | 646 | 374 | 2,696 | 2 | 12,811 | 412 | 15 | 16,956 | |||||||||||||||||||||||
3 - Satisfactory-Merits Attention | 9,639 | 14,296 | 75,898 | 3,473 | 53,144 | 3,628 | 482 | 160,560 | |||||||||||||||||||||||
4 - Low Satisfactory | 12,616 | 36,723 | 121,522 | 23,779 | 57,460 | 1,235 | 107 | 253,442 | |||||||||||||||||||||||
5 - Special mention | 137 | 1,922 | 2,558 | 262 | 8,450 | 63 | 126 | 13,518 | |||||||||||||||||||||||
6-8 - Substandard | 806 | 12,938 | 11,485 | 1,181 | 15,435 | 47 | — | 41,892 | |||||||||||||||||||||||
$ | 25,858 | $ | 66,253 | $ | 214,159 | $ | 28,697 | $ | 147,300 | $ | 6,750 | $ | 738 | $ | 489,755 |
Consumer- Credit Card | Business- Credit Card | ||||||
Performing | $ | 2,316 | $ | 1,124 | |||
Non Performing | 23 | — | |||||
Total | $ | 2,339 | $ | 1,124 | |||
Total Loans | $ | 493,218 |
-18-
Asset Quality
The following tables are an age analysis of past due loans, including those on nonaccrual. by loan class, as of June 30, 2014 and December 31, 2013 (amounts in thousands).
June 30, 2014 | |||||||||||||||||||||||
30-89 Days Past Due | Nonaccrual | Greater than 90 Days Past Due | Total Past Due | Current | Total Loans | ||||||||||||||||||
Commercial & industrial | $ | 32 | $ | 625 | $ | — | $ | 657 | $ | 24,169 | $ | 24,826 | |||||||||||
Commercial construction and land development | 54 | 9,537 | — | 9,591 | 50,114 | 59,705 | |||||||||||||||||
Commercial real estate | 246 | 3,949 | — | 4,195 | 200,430 | 204,625 | |||||||||||||||||
Residential construction | — | 525 | — | 525 | 29,946 | 30,471 | |||||||||||||||||
Residential mortgage | 796 | 8,756 | — | 9,552 | 136,792 | 146,344 | |||||||||||||||||
Consumer | 55 | 6 | — | 61 | 7,226 | 7,287 | |||||||||||||||||
Consumer credit cards | 70 | — | 9 | 79 | 2,085 | 2,164 | |||||||||||||||||
Business credit cards | 63 | — | 7 | 70 | 1,070 | 1,140 | |||||||||||||||||
Other loans | — | — | — | — | 653 | 653 | |||||||||||||||||
Total | $ | 1,316 | $ | 23,398 | $ | 16 | $ | 24,730 | $ | 452,485 | $ | 477,215 |
December 31, 2013 | |||||||||||||||||||||||
30-89 Days Past Due | Nonaccrual | Greater than 90 Days Past Due | Total Past Due | Current | Total Loans | ||||||||||||||||||
Commercial & industrial | $ | 34 | $ | 651 | $ | — | $ | 685 | $ | 25,173 | $ | 25,858 | |||||||||||
Commercial construction and land development | 252 | 9,536 | — | 9,788 | 56,465 | 66,253 | |||||||||||||||||
Commercial real estate | 749 | 6,391 | — | 7,140 | 207,019 | 214,159 | |||||||||||||||||
Residential construction | — | 695 | — | 695 | 28,002 | 28,697 | |||||||||||||||||
Residential mortgage | 421 | 9,943 | — | 10,364 | 136,936 | 147,300 | |||||||||||||||||
Consumer | 11 | 11 | — | 22 | 6,728 | 6,750 | |||||||||||||||||
Consumer credit cards | 76 | — | 23 | 99 | 2,240 | 2,339 | |||||||||||||||||
Business credit cards | 52 | — | — | 52 | 1,072 | 1,124 | |||||||||||||||||
Other loans | — | — | — | — | 738 | 738 | |||||||||||||||||
Total | $ | 1,595 | $ | 27,227 | $ | 23 | $ | 28,845 | $ | 464,373 | $ | 493,218 |
Total nonperforming assets at June 30, 2014 and December 31, 2013 consist of the following (amounts in thousands):
June 30, 2014 | December 31, 2013 | ||||||
Loans past due ninety days or more and still accruing | $ | 16 | $ | 23 | |||
Nonaccrual loans | 23,398 | 27,227 | |||||
Foreclosed assets | 6,048 | 8,502 | |||||
Total nonperforming assets | $ | 29,462 | $ | 35,752 |
-19-
Impaired Loans
The following tables illustrate the impaired loans by loan class as of June 30, 2014 and December 31, 2013 (amounts in thousands).
June 30, 2014 | |||||||||||||||||||
Year to Date | |||||||||||||||||||
Recorded Investment | Unpaid Principal Balance | Related Allowance | Average Recorded Investment | Interest Income Recognized | |||||||||||||||
With no related allowance recorded: | |||||||||||||||||||
Commercial and industrial | $ | 364 | $ | 377 | $ | — | $ | 367 | $ | 1 | |||||||||
Commercial construction and land development | 7,153 | 11,465 | — | 7,434 | 11 | ||||||||||||||
Commercial real estate | 8,285 | 9,965 | — | 8,581 | 101 | ||||||||||||||
Residential construction | 524 | 1,134 | — | 667 | — | ||||||||||||||
Residential mortgage | 7,896 | 9,655 | — | 8,099 | 52 | ||||||||||||||
Consumer | 6 | 7 | — | 8 | — | ||||||||||||||
Subtotal: | 24,228 | 32,603 | — | 25,156 | 165 | ||||||||||||||
With an allowance recorded: | |||||||||||||||||||
Commercial and industrial | $ | 297 | $ | 320 | $ | 116 | $ | 301 | $ | — | |||||||||
Commercial construction and land development | 3,892 | 4,604 | 1,078 | 3,983 | 9 | ||||||||||||||
Commercial real estate | 2,686 | 2,846 | 353 | 2,702 | 54 | ||||||||||||||
Residential mortgage | 2,821 | 3,095 | 580 | 2,836 | 10 | ||||||||||||||
Subtotal: | 9,696 | 10,865 | 2,127 | 9,822 | 73 | ||||||||||||||
Totals: | |||||||||||||||||||
Commercial | 22,677 | 29,577 | 1,547 | 23,368 | 176 | ||||||||||||||
Consumer | 6 | 7 | — | 8 | — | ||||||||||||||
Residential | 11,241 | 13,884 | 580 | 11,602 | 62 | ||||||||||||||
Grand Total | $ | 33,924 | $ | 43,468 | $ | 2,127 | $ | 34,978 | $ | 238 |
At June 30, 2014, the recorded investment in loans considered impaired totaled $33.9 million. Of the total investment in loans considered impaired, $9.7 million were found to show specific impairment for which a $2.1 million valuation allowance was recorded; the remaining $24.2 million in impaired loans required no specific valuation allowance because either previously established valuation allowances had been absorbed by partial charge-offs or loan evaluations had no indication of impairment which would require a valuation allowance. At June 30, 2014, the average recorded investment in impaired loans was approximately $35.0 million. The amount of interest recognized on impaired loans during the portion of the year that they were considered impaired was approximately $238,000.
-20-
December 31, 2013 | |||||||||||||||||||
Year to Date | |||||||||||||||||||
Recorded Investment | Unpaid Principal Balance | Related Allowance | Average Recorded Investment | Interest Income Recognized | |||||||||||||||
With no related allowance recorded: | |||||||||||||||||||
Commercial and industrial | $ | 380 | $ | 517 | $ | — | $ | 491 | $ | 2 | |||||||||
Commercial construction and land development | 11,142 | 15,809 | — | 13,259 | 168 | ||||||||||||||
Commercial real estate | 8,437 | 10,131 | — | 9,190 | 132 | ||||||||||||||
Residential construction | 486 | 486 | — | 474 | 26 | ||||||||||||||
Residential mortgage | 10,948 | 12,731 | — | 11,624 | 121 | ||||||||||||||
Consumer | 11 | 22 | — | 17 | — | ||||||||||||||
Subtotal: | 31,404 | 39,696 | — | 35,055 | 449 | ||||||||||||||
With an allowance recorded: | |||||||||||||||||||
Commercial and industrial | $ | 309 | $ | 322 | $ | 80 | $ | 321 | $ | — | |||||||||
Commercial construction and land development | 1,315 | 2,033 | 264 | 1,348 | — | ||||||||||||||
Commercial real estate | 4,026 | 4,096 | 888 | 4,104 | 136 | ||||||||||||||
Residential construction | 695 | 1,134 | 137 | 749 | — | ||||||||||||||
Residential mortgage | 1,427 | 1,593 | 456 | 1,499 | 8 | ||||||||||||||
Subtotal: | 7,772 | 9,178 | 1,825 | 8,021 | 144 | ||||||||||||||
Totals: | |||||||||||||||||||
Commercial | 25,609 | 32,908 | 1,232 | 28,713 | 438 | ||||||||||||||
Consumer | 11 | 22 | — | 17 | — | ||||||||||||||
Residential | 13,556 | 15,944 | 593 | 14,346 | 155 | ||||||||||||||
Grand Total | $ | 39,176 | $ | 48,874 | $ | 1,825 | $ | 43,076 | $ | 593 |
At December 31, 2013, the recorded investment in loans considered impaired totaled $39.2 million. Of the total investment in loans considered impaired, $7.8 million were found to show specific impairment for which a $1.8 million valuation allowance was recorded; the remaining $31.4 million in impaired loans required no specific valuation allowance because either previously established valuation allowances had been absorbed by partial charge-offs or loan evaluations had no indication of impairment which would require a valuation allowance. For the year ended December 31, 2013, the average recorded investment in impaired loans was approximately $43.1 million. The amount of interest recognized on impaired loans during the portion of the year that they were considered impaired was approximately $593,000.
Troubled Debt Restructurings
Loans are classified as a troubled debt restructuring ("TDR") when, for economic or legal reasons which result in a debtor experiencing financial difficulties, the Company grants a concession through a modification of the original loan agreement that would not otherwise be considered. Loans in the process of renewal or modification are reviewed by the Company to determine if the risk grade assigned is accurate based on updated information. The Company's policy with respect to accrual of interest on loans restructured in a TDR process follows relevant supervisory guidance. If a borrower has demonstrated performance under the previous loan terms and shows capacity to perform under the restructured loan terms, continued accrual of interest at the restructured interest rate is considered and the loan is considered performing. If the borrower was materially delinquent on payments prior to the restructuring but shows the capacity to meet the restructured loan terms, the loan will likely continue as nonaccrual and nonperforming until such time as continued performance has been demonstrated, which is typically a period of at least six consecutive payments. If the borrower does not perform under the restructured terms, the loan is placed on nonaccrual status.
-21-
The following table provides a summary of loans modified as TDRs at June 30, 2014 and December 31, 2013 (amounts in thousands).
June 30, 2014: | Accrual | Nonaccrual | Total TDRs | Allowance for Loan Losses Allocated | ||||||||||||
Commercial & industrial | $ | 37 | $ | 299 | $ | 336 | $ | — | ||||||||
Commercial construction and land development | 1,509 | 4,107 | 5,616 | 247 | ||||||||||||
Commercial real estate | 5,448 | 2,217 | 7,665 | 180 | ||||||||||||
Residential mortgage | 1,961 | 2,385 | 4,346 | 230 | ||||||||||||
Total modifications | $ | 8,955 | $ | 9,008 | $ | 17,963 | $ | 657 |
December 31, 2013: | Accrual | Nonaccrual | Total TDRs | Allowance for Loan Losses Allocated | ||||||||||||
Commercial & industrial | $ | 37 | $ | 301 | $ | 338 | $ | — | ||||||||
Commercial construction and land development | 227 | 6,699 | 6,926 | 34 | ||||||||||||
Commercial real estate | 4,447 | 4,204 | 8,651 | 223 | ||||||||||||
Residential mortgage | 2,319 | 3,055 | 5,374 | 229 | ||||||||||||
Other | — | 1 | 1 | — | ||||||||||||
Total modifications | $ | 7,030 | $ | 14,260 | $ | 21,290 | $ | 486 |
The following table presents a breakdown of new TDRs by loan class and the type of concession made to the borrower for the three and six months ended June 30, 2014.
For the Three Months Ended | For the Six Months Ended | ||||||||||||||||||||
June 30, 2014 | June 30, 2014 | ||||||||||||||||||||
Number of loans | Pre-Modification Outstanding Recorded Investment | Post-Modification Outstanding Recorded Investment | Number of loans | Pre-Modification Outstanding Recorded Investment | Post-Modification Outstanding Recorded Investment | ||||||||||||||||
Forgiveness of principal: | |||||||||||||||||||||
Commercial construction and land development | 2 | $ | 100 | $ | 42 | 2 | $ | 100 | $ | 42 | |||||||||||
Subtotal | 2 | $ | 100 | $ | 42 | 2 | $ | 100 | $ | 42 | |||||||||||
Total | 2 | $ | 100 | $ | 42 | 2 | $ | 100 | $ | 42 |
The table below details TDRs that the Company has entered into during the 12 months ended June 30, 2014 (amounts in thousands, except number of loans). The three TDRs executed during the previous 12 months have been converted to or remain on nonaccrual status.
For the 12 month period ended June 30, 2014 | |||||||||||||||||||||||||||
Paid in full | Paying as restructured | Converted to nonaccrual | Foreclosure/Default | ||||||||||||||||||||||||
Number of loans | Recorded Investment | Number of loans | Recorded Investment | Number of loans | Recorded Investment | Number of loans | Recorded Investment | ||||||||||||||||||||
Extended payment terms | — | — | — | — | 1 | 55 | — | — | |||||||||||||||||||
Forgiveness of principal | — | — | — | — | 2 | 42 | — | — | |||||||||||||||||||
Total | — | $ | — | — | $ | — | 3 | $ | 97 | — | $ | — |
There were no TDR loans modified during the previous 12 months that had a payment default for the three and six months ended June 30, 2014.
-22-
NOTE E – SUBORDINATED DEBT
The Company is currently prohibited by the Written Agreement, described in Note H - Regulatory Restrictions of these Notes to Consolidated Financial Statements, from paying interest on its subordinated promissory notes and on its subordinated debentures in connection with its trust preferred securities ("TPS") without prior approval of the supervisory authorities. The Company and the Bank are prohibited from declaring or paying dividends without prior approval of the supervisory authorities. The Company obtained approval to pay the interest on its subordinated promissory notes for the second quarter of 2014. The Company exercised its right to defer regularly scheduled interest payments on its outstanding TPS and as of June 30, 2014, $799,000 of interest payments have been accrued for and deferred pursuant to the terms of the indenture governing the TPS. The Company may not pay any cash dividends on its common stock, $1.00 par value per share (the "Common Stock"), until it is current on interest payments on such TPS. The Company has not paid any cash dividends on its Common Stock since it suspended dividends in the fourth quarter of 2010. As a bank holding company, the Company’s ability to declare and pay dividends also depends on certain federal regulatory considerations, including the guidelines of the Federal Reserve regarding capital adequacy and dividends.
NOTE F - COMMITMENTS AND CONTIGENCIES
Commitments
The following table presents loan commitments at June 30, 2014 (amounts in thousands).
June 30, 2014 | |||
Commitments to extend credit | $ | 4,632 | |
Undisbursed lines of credit | 74,745 | ||
Financial stand-by letters of credit | 238 | ||
Performance stand-by letters of credit | 750 | ||
Legally binding commitments | 80,365 | ||
Unused credit card lines | 14,568 | ||
Total | $ | 94,933 |
Pledged Assets
Certain assets are pledged to secure municipal deposits, borrowings, and borrowing capacity, subject to certain limits, at the Federal Home Loan Bank ("FHLB") and the Federal Reserve Bank of Richmond ("FRB"), as well as for other purposes as required or permitted by law. FHLB borrowings are secured by cash, securities, and a floating lien covering the Company's loan portfolio of qualifying residential (1-4 units) first mortgage and commercial real estate loans. In addition, securities are pledged against the Company's ability to borrow funds from various short term lines of credit, and utilizing the discount window of the FRB. The following table provides the total market value of pledged assets by asset type at June 30, 2014 (amounts in thousands).
June 30, 2014 | |||
Cash | $ | 24,000 | |
Securities | 106,933 | ||
Loans | 49,470 |
Legal Proceedings
-23-
On May 20, 2013, the U.S. Department of Justice ("DOJ") issued a subpoena to the Bank requiring the production of documents in connection with an investigation of consumer fraud related to third party payment processing. In connection with this investigation, the Bank negotiated a civil settlement with the DOJ (the "Consent Order"), which was filed with the United States District Court for the Eastern District of North Carolina on January 8, 2014. The Consent Order was filed contemporaneously with the filing of a complaint by the DOJ alleging violation of a variety of laws, including money laundering laws. As part of the terms of the Consent Order, the Bank agreed to pay a civil monetary penalty in the amount of $1.0 million, plus a civil forfeiture in the amount of $200,000. The Consent Order was approved by the United States District Court for the Eastern District of North Carolina on April 25, 2014 and payment of the civil monetary penalty and civil forfeiture occurred on May 1, 2014.
In October 2013, multiple putative class action lawsuits were filed in United States district courts across the country against a number of different banks based on the banks' alleged role in "payday lending". Four of these lawsuits, pending in the Northern District of Georgia, the Middle District of North Carolina, the District of Maryland, and the Southern District of Florida, name the Bank as one of the defendants. The lawsuits allege that, by processing Automated Clearing House transactions indirectly on behalf of "payday lenders," the Bank is illegally participating in an enterprise to collect unlawful debts and is therefore liable to plaintiffs for damages under the federal Racketeer Influenced and Corrupt Organizations Act.
The lawsuits also allege a variety of state law claims. The Bank moved to dismiss each of these lawsuits. The District of Maryland granted the motion and dismissed the case; that ruling is on appeal to the United States Court of Appeals for the Fourth Circuit. The Middle District of North Carolina granted the motion in part and denied it in part. The motions to dismiss in the two other cases are awaiting decision.
The Company is a party to certain other legal actions in the ordinary course of our business. The Company believes these actions are routine in nature and incidental to the operation of our business. While the outcome of these actions cannot be predicted with certainty, management’s present judgment is that the ultimate resolution of these matters will not have a material adverse impact on our business, financial condition, results of operations, cash flows or prospects. If, however, the Company's assessment of these actions is inaccurate, or there are any significant adverse developments in these actions, our business, financial condition, results of operations, cash flows and prospects could be adversely affected.
NOTE G – FAIR VALUE MEASUREMENT
Fair Value Measured on a Recurring Basis.
The Company measures certain assets at fair value on a recurring basis, as described below.
Investment Securities Available-for-Sale
Investment securities available-for-sale are recorded at fair value on a recurring basis. Fair value measurement is based upon quoted prices, if available. If quoted prices are not available, fair values are measured using independent pricing models or other model-based valuation techniques such as the present value of future cash flows, adjusted for the security’s credit rating, prepayment assumptions and other factors such as credit loss assumptions. Level 1 securities include equity securities traded on an active exchange, such as the New York Stock Exchange. Level 2 securities include taxable municipalities, and mortgage-backed securities issued by government sponsored entities, and certain equity securities. The Company’s mortgage-backed securities were primarily issued by the GNMA, with additional mortgage-backed securities issued by the FNMA. As of June 30, 2014, all of the Company’s mortgage-backed securities were agency issued and designated as Level 2 securities. Securities historically classified as Level 3 include trust preferred securities in less liquid markets; however, as of June 30, 2014, there were no Level 3 securities.
-24-
The following table presents information about assets measured at fair value on a recurring basis at June 30, 2014 and December 31, 2013 (amounts in thousands).
Fair Value Measurements at | |||||||||||||||||||
June 30, 2014, Using | |||||||||||||||||||
Total Carrying Amount in the Consolidated Balance Sheet | Assets Measured at Fair Value | Quoted Prices in Active Markets for Identical Assets | Significant Other Observable Inputs | Significant Unobservable Inputs | |||||||||||||||
Available-for-Sale Securities: | 6/30/2014 | 6/30/2014 | (Level 1) | (Level 2) | (Level 3) | ||||||||||||||
Taxable municipal securities | $ | 10,513 | $ | 10,513 | $ | — | $ | 10,513 | $ | — | |||||||||
Mortgage-backed securities - GNMA | 6,632 | 6,632 | — | 6,632 | — | ||||||||||||||
Equity securities | 89 | 89 | 78 | 11 | — | ||||||||||||||
Total available-for-sale securities | $ | 17,234 | $ | 17,234 | $ | 78 | $ | 17,156 | $ | — |
Fair Value Measurements at | |||||||||||||||||||
December 31, 2013, Using | |||||||||||||||||||
Total Carrying Amount in the Consolidated Balance Sheet | Assets Measured at Fair Value | Quoted Prices in Active Markets for Identical Assets | Significant Other Observable Inputs | Significant Unobservable Inputs | |||||||||||||||
Available-for-Sale Securities: | 12/31/2013 | 12/31/2013 | (Level 1) | (Level 2) | (Level 3) | ||||||||||||||
Taxable municipal securities | $ | 5,933 | $ | 5,933 | $ | — | $ | 5,933 | $ | — | |||||||||
Mortgage-backed securities - GNMA | 25,477 | 25,477 | — | 25,477 | — | ||||||||||||||
Trust preferred securities | 1,025 | 1,025 | — | — | 1,025 | ||||||||||||||
Equity securities | 131 | 131 | 70 | 61 | — | ||||||||||||||
Total available-for-sale securities | $ | 32,566 | $ | 32,566 | $ | 70 | $ | 31,471 | $ | 1,025 |
The following table presents the reconciliation for the three and six months ended June 30, 2014 and 2013 for all Level 3 assets that are measured at fair value on a recurring basis (amounts in thousands).
Three Months Ended | Six Months Ended | ||||||||||||||
June 30, | June 30, | ||||||||||||||
Securities Available-for-Sale: | 2014 | 2013 | 2014 | 2013 | |||||||||||
Beginning Balance | $ | 410 | $ | 1,019 | $ | 1,025 | $ | 1,019 | |||||||
Total realized and unrealized gains or (losses): | |||||||||||||||
Included in earnings | 90 | — | 90 | — | |||||||||||
Purchases, issuances and settlements | (500 | ) | — | (1,115 | ) | — | |||||||||
Ending Balance | $ | — | $ | 1,019 | $ | — | $ | 1,019 |
Fair Value Measured on a Nonrecurring Basis.
The Company measures certain assets at fair value on a nonrecurring basis, as described below.
Loans Held for Sale
Loans held for sale are carried at the lower of cost or market value. The fair value of loans held for sale is based on what secondary markets are currently offering for portfolios with similar characteristics. As such, the Company classifies loans held for sale as a Level 2 valuation.
-25-
Impaired Loans
The Company does not record loans at fair value on a recurring basis. However, when a loan is considered impaired, it is evaluated for impairment and written down to its estimated fair value or an allowance for loan losses is established. When the fair value of an impaired loan is based on an observable market price or a current appraised value with no adjustments, the Company records the impaired loan as nonrecurring Level 2. When an appraised value is not available, or the Company determines the fair value of the collateral is further impaired below the appraised value, and there is no observable market price, the impaired loan is classified as nonrecurring Level 3.
As of June 30, 2014, the Company identified $19.4 million in impaired loans that were carried at fair value which included $9.7 million in loans that required a specific valuation allowance of $2.1 million and an additional $9.7 million in loans without a specific valuation allowance that have previously been written down to fair value. As of December 31, 2013, the Company identified $20.0 million in impaired loans that were carried at fair value which included $7.8 million in loans that required a specific valuation allowance of $1.8 million and an additional $12.2 million in loans without a specific valuation allowance that have previously been written down to fair value.
Foreclosed Assets
Foreclosed assets are adjusted to fair value less estimated selling costs upon transfer of the loans to foreclosed assets. Subsequently, foreclosed assets are carried at the lower of carrying value or fair value. Fair value is based upon independent market prices, appraised values of the collateral or management’s estimation of the value of the collateral. Given the lack of observable market prices for identical properties, the Company records foreclosed assets as non-recurring Level 3. Through the six month period ended June 30, 2014, the Company recognized approximately $295,000 in valuation reductions on foreclosed assets and the carrying value of foreclosed assets was $6.0 million at June 30, 2014. As of and for the year ended December 31, 2013, there was $1.6 million recognized in valuation adjustments on foreclosed assets and the carrying value of foreclosed assets was $8.5 million at December 31, 2013.
The following table presents information about certain assets measured on a non-recurring basis at fair value at June 30, 2014 and December 31, 2013 (amounts in thousands).
Fair Value Measurements at | |||||||||||||||||||
June 30, 2014, Using | |||||||||||||||||||
Total Carrying Amount in the Consolidated Balance Sheet | Assets Measured at Fair Value | Quoted Prices in Active Markets for Identical Assets | Significant Other Observable Inputs | Significant Unobservable Inputs | |||||||||||||||
6/30/2014 | 6/30/2014 | (Level 1) | (Level 2) | (Level 3) | |||||||||||||||
Loans held for sale | $ | 581 | $ | 581 | $ | — | $ | 581 | $ | — | |||||||||
Impaired loans | 17,302 | 17,302 | — | — | 17,302 | ||||||||||||||
Foreclosed assets | 6,048 | 6,048 | — | — | 6,048 |
Fair Value Measurements at | |||||||||||||||||||
December 31, 2013, Using | |||||||||||||||||||
Total Carrying Amount in the Consolidated Balance Sheet | Assets Measured at Fair Value | Quoted Prices in Active Markets for Identical Assets | Significant Other Observable Inputs | Significant Unobservable Inputs | |||||||||||||||
12/31/2013 | 12/31/2013 | (Level 1) | (Level 2) | (Level 3) | |||||||||||||||
Impaired loans | $ | 18,215 | $ | 18,215 | $ | — | $ | — | $ | 18,215 | |||||||||
Foreclosed assets | 8,502 | 8,502 | — | — | 8,502 |
-26-
The following table presents the valuation methodology and unobservable inputs for Level 3 assets measured at fair value on a recurring and nonrecurring basis at June 30, 2014 (amounts in thousands, except percentages):
Total Carrying Amount at June 30, 2014 | Valuation Methodology | Range of Inputs | |||
Recurring measurements: | |||||
Trust preferred securities | $ | — | Probability of default | 10 - 20% | |
Loss given default | 100% | ||||
Nonrecurring measurements: | |||||
Impaired loans | $ | 17,302 | Collateral discounts | 9 - 50% | |
Foreclosed assets | $ | 6,048 | Discounted appraisals | 10 - 30% |
Collateral discounts to determine fair value on impaired loans vary widely and result from the consideration of the following factors: the age of the most recent appraisal (i.e. an appraisal dating from an earlier period of real estate speculation could require as much as a 40% discount), the type of asset serving as collateral, the expected marketability of the asset, its material or environmental condition, and comparisons to actual sales data of similar assets from both internal and external sources.
The following table reflects the general range of collateral discounts for impaired loans by segment:
Loan Segment: | Range of Percentages |
Commercial construction and land development | 10.5% - 40% |
Commercial real estate other | 12.5% - 50% |
Residential construction | 9% - 30% |
Residential mortgage | 9% - 20% |
All other segments | 9% - 20% |
As foreclosed assets are brought into other real estate owned through a process which requires a fair market valuation, further discounts typically reflect market conditions specific to the asset. These conditions are usually captured in subsequent appraisals which are required on an annual basis, and depending upon asset type and marketability demonstrate a more restrained variance than that noted above.
Fair Value of Financial Instruments
The following methods and assumptions were used to estimate the fair value of each class of financial instrument.
Cash and Cash Equivalents
The carrying amounts of cash and cash equivalents are equal to the fair value due to the liquid nature of the financial instruments.
CDs Held for Investment
These investments are valued at carrying amounts for fair value purposes.
Securities Available-for-Sale and Securities Held-to-Maturity
Fair values of investment securities are based on quoted market prices. If a quoted market price is not available, fair value is estimated using quoted market prices for similar securities.
Loans Held For Sale
The fair value of mortgage loans held for sale is based on commitments on hand from investors within the secondary market for loans with similar characteristics.
Loans
The fair value of loans has been estimated utilizing the net present value of future cash flows based upon contractual balances, prepayment assumptions, and applicable weighted average interest rates, adjusted for a 5% current liquidity and market discount assumption. The Company has assigned no fair value to off-balance sheet financial instruments since they are either short term in nature or subject to immediate repricing.
-27-
FHLB Stock
The carrying amount of FHLB stock approximates fair value.
Deposits
The fair value of non-maturing deposits such as noninterest-bearing demand, money market, NOW, and savings accounts, are by definition, equal to the amount payable on demand. Fair value for maturing deposits such as CDs and IRAs are estimated using a discounted cash flow approach that applies current interest rates to expected maturities.
Borrowings, Subordinated Debentures, and Subordinated Promissory Notes
The fair value of borrowings, subordinated debentures, and subordinated promissory notes, is based on discounting expected cash flows at the interest rate from debt with the same or similar remaining maturities and collection requirements.
Accrued Interest Receivable and Payable
The carrying amounts of accrued interest approximates fair value.
The following table presents information for financial assets and liabilities as of June 30, 2014 and December 31, 2013 (amounts in thousands).
June 30, 2014 | |||||||||||||||||
Carrying Value | Estimated Fair Value | Level 1 | Level 2 | Level 3 | |||||||||||||
Financial assets: | |||||||||||||||||
Cash and cash equivalents | $ | 186,694 | $ | 186,694 | $ | 186,694 | $ | — | $ | — | |||||||
CDs held for investment | 26,460 | 26,460 | — | 26,460 | — | ||||||||||||
Securities available-for-sale | 17,234 | 17,234 | 78 | 17,156 | — | ||||||||||||
Securities held-to-maturity | 90,272 | 90,516 | — | 90,516 | — | ||||||||||||
Loans held for sale | 581 | 581 | — | 581 | — | ||||||||||||
Loans, net | 465,736 | 444,032 | — | — | 444,032 | ||||||||||||
FHLB stock | 5,778 | 5,778 | — | 5,778 | — | ||||||||||||
Accrued interest receivable | 1,550 | 1,550 | — | 1,550 | — | ||||||||||||
Financial liabilities: | |||||||||||||||||
Deposits | $ | 664,558 | $ | 666,311 | $ | — | $ | 666,311 | $ | — | |||||||
Subordinated debentures and subordinated promissory notes | 24,372 | 24,374 | — | — | 24,374 | ||||||||||||
Borrowings | 112,000 | 120,948 | — | 120,948 | — | ||||||||||||
Accrued interest payable | 1,730 | 1,730 | — | 1,730 | — |
-28-
December 31, 2013 | |||||||||||||||||
Carrying Value | Estimated Fair Value | Level 1 | Level 2 | Level 3 | |||||||||||||
Financial assets: | |||||||||||||||||
Cash and cash equivalents | $ | 128,629 | $ | 128,629 | $ | 128,629 | $ | — | $ | — | |||||||
CDs held for investment | 31,850 | 31,850 | — | 31,850 | — | ||||||||||||
Securities available-for-sale | 32,566 | 32,566 | 70 | 31,471 | 1,025 | ||||||||||||
Securities held-to-maturity | 98,013 | 95,831 | — | 95,831 | — | ||||||||||||
Loans, net | 481,122 | 458,254 | — | — | 458,254 | ||||||||||||
FHLB stock | 6,076 | 6,076 | — | 6,076 | — | ||||||||||||
Accrued interest receivable | 1,576 | 1,576 | — | 1,576 | — | ||||||||||||
Financial liabilities: | |||||||||||||||||
Deposits | $ | 657,620 | $ | 659,733 | $ | — | $ | 659,733 | $ | — | |||||||
Subordinated debentures and subordinated promissory notes | 24,372 | 24,369 | — | — | 24,369 | ||||||||||||
Borrowings | 112,000 | 121,519 | — | 121,519 | — | ||||||||||||
Accrued interest payable | 1,642 | 1,642 | — | 1,642 | — |
-29-
NOTE H - REGULATORY RESTRICTIONS
North Carolina banking law requires that the Bank may not pay a dividend that would reduce its capital below the applicable required capital. In addition, regulatory authorities may limit payment of dividends by any bank when it is determined that such a limitation is in the public interest and is necessary to ensure the financial soundness of the Bank. No dividends were paid to the Company by the Bank during the six months ended June 30, 2014.
Current federal regulations require that the Bank maintain a minimum ratio of total capital to risk weighted assets of 8%, with at least 4% being in the form of Tier 1 capital, as defined in the regulations. In addition, the Bank must maintain a leverage ratio of 4%. To be categorized as well capitalized, the Bank must maintain minimum amounts and ratios as set forth in the table below. The Bank’s actual capital amounts and ratios are also presented in the table below (amounts in thousands, except ratios). At June 30, 2014 the Bank was classified as well capitalized for regulatory capital purposes.
Actual | Minimum For Capital Adequacy Purposes | Minimum To be Well Capitalized under Prompt Corrective Action Provisions | ||||||||||||||||||
Amount | Ratio | Amount | Ratio | Amount | Ratio | |||||||||||||||
As of June 30, 2014: | ||||||||||||||||||||
Total Capital (to Risk Weighted Assets) | $ | 54,852 | 12.1 | % | $ | 36,381 | 8.0 | % | $ | 45,477 | 10.0 | % | ||||||||
Tier I Capital (to Risk Weighted Assets) | 49,102 | 10.8 | % | 18,191 | 4.0 | % | 27,286 | 6.0 | % | |||||||||||
Tier I Capital (to Average Assets) | 49,102 | 5.9 | % | 33,017 | 4.0 | % | 41,271 | 5.0 | % | |||||||||||
As of December 31, 2013: | ||||||||||||||||||||
Total Capital (to Risk Weighted Assets) | $ | 50,601 | 10.9 | % | $ | 37,057 | 8.0 | % | $ | 46,322 | 10.0 | % | ||||||||
Tier I Capital (to Risk Weighted Assets) | 44,739 | 9.7 | % | 18,529 | 4.0 | % | 27,793 | 6.0 | % | |||||||||||
Tier I Capital (to Average Assets) | 44,739 | 5.5 | % | 32,529 | 4.0 | % | 40,661 | 5.0 | % |
The Company is also subject to capital requirements. At June 30, 2014 and December 31, 2013, the Company’s total capital to risk weighted assets, Tier 1 capital to risk weighted assets, and Tier 1 capital to average assets were 11.7%, 7.8%, and 4.3%, and 10.7%, 6.3%, and 3.6%, respectively. At June 30, 2014 the Company was classified as adequately capitalized for regulatory capital purposes.
In late May 2011, the Company and the Bank entered into a formal written agreement (the "Written Agreement") with the FRB and the North Carolina Office of the Commissioner of Banks (the "NCCOB"). Under the terms of the Written Agreement, the Bank developed and submitted for approval, within the time periods specified, plans to:
• | revise lending and credit administration policies and procedures at the Bank and provide relevant training; |
• | enhance the Bank's real estate appraisal policies and procedures; |
• | enhance the Bank's loan grading and independent loan review programs; |
• | improve the Bank's position with respect to loans, relationships, or other assets in excess of $750,000, which are now or in the future become past due more than 90 days, are on the Bank's problem loan list, or adversely classified in any report of examination of the Bank; and |
• | review and revise the Bank's policy regarding the Bank's allowance for loan and lease losses and maintain a program for the maintenance of an adequate allowance. |
In addition, the Bank has agreed that it will:
• | refrain from extending, renewing, or restructuring any credit to or for the benefit of any borrower, or related interest, whose loans or other extensions of credit have been criticized in any report of examination of the Bank absent prior approval by the Bank's board of directors or a designated committee of the board in accordance with the restrictions in the Written Agreement; |
• | eliminate from its books, by charge-off or collection, all assets or portions of assets classified as “loss” in any report of examination of the Bank, unless otherwise approved by the FRB and the NCCOB; and |
• | take all necessary steps to correct all violations of law or regulation cited by the FRB and the NCCOB. |
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In addition, the Company has agreed that it will:
• | refrain from taking any form of payment representing a reduction in capital from the Bank or make any distributions of interest, principal, or other sums on subordinated debentures or trust preferred securities absent prior regulatory approval; |
• | refrain from incurring, increasing, or guaranteeing any debt without the prior written approval of the FRB; and |
• | refrain from purchasing or redeeming any shares of its stock without the prior written consent of the FRB. |
Under the terms of the Written Agreement, both the Company and the Bank have agreed to:
• | submit for approval a joint plan to maintain sufficient capital at the Company on a consolidated basis and at the Bank on a stand-alone basis; |
• | notify the FRB and the NCCOB if the Company's or the Bank's capital ratios fall below the approved capital plan's minimum ratios; |
• | refrain from declaring or paying any dividends absent prior regulatory approval; |
• | comply with applicable notice provisions with respect to the appointment of new directors and senior executive officers of the Company and the Bank and legal and regulatory limitations on indemnification and severance payments; and |
• | submit annual business plans and budgets and quarterly joint written progress reports regarding compliance with the Written Agreement. |
The Company and the Bank continue to be committed to addressing and resolving the issues raised in the Written Agreement. Upon initial receipt of the Written Agreement, the Board of Directors established an Enforcement Action Committee that meets regularly to monitor the Bank's progress on compliance with the Written Agreement. The Bank has made progress on multiple provisions included in the Written Agreement and continues to address outstanding items that are not in full compliance. In the initial efforts to comply, several control changes were implemented to address the identification and valuation of impaired loans, the support and validation of the allowance for loan losses, and the valuation of foreclosed assets. Additionally, the Bank implemented additional controls around obtaining updated collateral valuations as required by regulation and established new policies to further reduce Commercial Real Estate concentrations, ensure current financial information is evaluated, and control interest only loans. The Bank also created a separate Special Assets department and in 2012 added additional resources to provide adequate attention and expertise to problem loan management. Other areas also addressed include the adequacy of credit resources, portfolio risk management and reporting, and consistency and compliance when dealing with loan workouts. A material failure to comply with the terms of the Written Agreement could subject the Company to additional regulatory actions and further restrictions on its business. These regulatory actions and resulting restrictions on the Company's business may have a material adverse effect on its future results of operations and financial condition.
Since the Company and the Bank entered the Written Agreement, management has had frequent and regular communication with the FRB and NCCOB. This communication has involved:
• | updates on the progress involving each of the actions outlined in the Written Agreement, |
• | specific steps taken by the Company to remain in compliance with the Written Agreement, and |
• | communications, verbally and via interim internal reports, regarding the financial status of the Company including, but not limited to, the Company's key capital ratios. |
To date, the Company has not received any disagreement from the regulatory authorities regarding actions taken or contemplated. At this time, the Company is in partial compliance with the provisions of the Written Agreement.
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NOTE I - SECURITIES PURCHASE AGREEMENT
On March 24, 2014, the Company entered into a securities purchase agreement (the "Securities Purchase Agreement") with Kenneth R. Lehman, a private investor (the “Standby Investor”). Pursuant to the Securities Purchase Agreement, the Standby Investor has agreed to purchase from the Company (the “Standby Offering”), for $1.00 per share, the lesser of (i) 10,000,000 shares of Common Stock, (ii) if the Rights Offering (as defined below) is completed, all shares of Common Stock not purchased by shareholders exercising their basic subscription privilege, and (iii) the maximum number of shares that he may purchase without causing an “ownership change” under Section 382(g) of the Internal Revenue Code of 1986, as amended (49.99% of all shares of Common Stock outstanding at the completion of the Rights Offering and the Standby Offering). In addition, the Securities Purchase Agreement provides the Standby Investor a right of first refusal to purchase an additional 6,000,000 shares subject to the limitations outlined in clauses (ii) and (iii) above.
Pursuant to the Securities Purchase Agreement, on March 27, 2014, the Company closed the initial sale of 875,000 shares of Common Stock to the Standby Investor. The Securities Purchase Agreement contemplates a subsequent closing of the remaining number of shares based on the formula above and the Standby Investor’s decision on whether to exercise his right of first refusal. The Company has agreed that if for any reason it does not complete the Rights Offering, the Standby Investor will still be permitted to purchase shares of Common Stock as set forth above. The Company expects the second closing to occur during the month of August 2014, contemporaneous with the completion of the Rights Offering.
The Securities Purchase Agreement contains customary representations, warranties, and various covenants, including, among others, covenants by the Company to (i) adopt a restricted stock plan for the benefit of the Company’s officers, (ii) adopt an asset resolution plan, and (iii) establish a rights plan to protect the Company’s deferred tax asset. Consummation of the Standby Offering is subject to (a) receipt of required regulatory approvals and non-objections, (b) receipt by the Company of a letter from an independent accounting firm related to the Company’s deferred tax asset, and (c) other customary closing conditions set forth in the Securities Purchase Agreement. The Company has also agreed to enter into a registration rights agreement with the Standby Investor (the “Registration Rights Agreement”), which will provide the Standby Investor demand registration and piggyback registration rights with respect to the Standby Investor’s resale of shares purchased under the Securities Purchase Agreement, subject to customary limitations. The Company has agreed to pay the expenses associated with any registration statements filed with the Securities and Exchange Commission (the “Commission”) pursuant to the Registration Rights Agreement. Between the closing of the Standby Offering and the third anniversary of the closing date, for as long as the Standby Investor owns at least 25% of the Company’s outstanding shares of Common Stock, if the Company makes any public or non-public offering of any equity or any securities, options, or debt that are convertible or exchangeable into equity or that include an equity component, the Standby Investor will be afforded the opportunity to acquire from the Company for the same price and on the same terms as such securities are proposed to be offered to others, up to the amount in the aggregate required to enable him to maintain his proportionate common stock-equivalent interest in the Company.
In addition, on June 18, 2014, the Company commenced its previously announced rights offering of up to approximately $26.6 million (the “Rights Offering”). In the Rights Offering, the Company distributed, at no charge, non-transferable subscription rights to its shareholders as of 5:00 p.m., Eastern Time, on June 16, 2014 (the “Record Date”). For each share of Common Stock held as of the Record Date, each shareholder received a non-transferable right to purchase three shares of Common Stock at a subscription price of $1.00 per share (the “Basic Subscription Privilege”). Shareholders who exercised their Basic Subscription Privilege in full had the opportunity to subscribe for additional shares for pro rata allocation in the event that not all available shares are purchased pursuant to the Basic Subscription Privilege or by the Standby Investor pursuant to the Securities Purchase Agreement, subject to certain limitations.
The subscription period of the Rights Offering expired at 5:00 p.m., Eastern Time, on July 31, 2014. Based on the preliminary results, the Company estimates that it will receive aggregate gross proceeds in connection with the Rights Offering and Standby Offering of $24.0 million dollars. The Company expects that it will receive the maximum amount permissible pursuant to the terms of the Rights Offering and that all basic subscriptions received will be filled. Based on the significant response to the Rights Offering, the Company anticipates that only a fraction of the oversubscription requests will be satisfied. The Company’s estimates are preliminary, as the Rights Offering is subject to a finalization and verification process by the Company and the subscription agent, Registrar and Transfer Company, which the Company expects to be complete during the month of August 2014.
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NOTE J - EMPLOYEE STOCK OWNERSHIP PLAN
The Company terminated the Employee Stock Ownership Plan (the "ESOP") on April 8, 2014 (“Termination Date”). As a result, the accounts of all participants in the ESOP became 100% vested as of the Termination Date. Each participant received a distribution of 100% of his or her account at no cost to the participant. The cost to the Company was immaterial.
ITEM 2 – MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion provides information about the major components of the financial condition and results of operations of Four Oaks Fincorp, Inc. (the “Company”) and its subsidiaries and should be read in conjunction with the Company’s Consolidated Financial Statements and Notes thereto in Part I, Item 1 of this Quarterly Report. Unless the context otherwise indicates, references in this report to "we," "us" and "our" refer to the Company and its subsidiaries.
On March 24, 2014, the Company entered into a securities purchase agreement (the “Securities Purchase Agreement”) with Kenneth R. Lehman (the “Standby Investor”) and, on June 18, 2014, the Company commenced its previously announced rights offering (the “Rights Offering”), which together are expected to result in aggregate gross proceeds to the Company of $24.0 million. Please see "Liquidity and Capital Resources" for a description of the Securities Purchase Agreement and the Rights Offering.
Regulatory Update
In late May 2011, the Company and Four Oaks Bank & Trust Company, the Company's wholly owned subsidiary (the "Bank)entered into a formal written agreement (the "Written Agreement") with the Federal Reserve Bank of Richmond (the "FRB") and the North Carolina Office of the Commissioner of Banks (the "NCCOB"). Under the terms of the Written Agreement, the Bank developed and submitted for approval, within the time periods specified, plans to:
• | revise lending and credit administration policies and procedures at the Bank and provide relevant training; |
• | enhance the Bank's real estate appraisal policies and procedures; |
• | enhance the Bank's loan grading and independent loan review programs; |
• | improve the Bank's position with respect to loans, relationships, or other assets in excess of $750,000, which are now or in the future become past due more than 90 days, are on the Bank's problem loan list, or adversely classified in any report of examination of the Bank; and |
• | review and revise the Bank's policy regarding the Bank's allowance for loan and lease losses and maintain a program for the maintenance of an adequate allowance. |
In addition, the Bank has agreed that it will:
• | refrain from extending, renewing, or restructuring any credit to or for the benefit of any borrower, or related interest, whose loans or other extensions of credit have been criticized in any report of examination of the Bank absent prior approval by the Bank's board of directors or a designated committee of the board in accordance with the restrictions in the Written Agreement; |
• | eliminate from its books, by charge-off or collection, all assets or portions of assets classified as “loss” in any report of examination of the Bank, unless otherwise approved by the FRB and the NCCOB; and |
• | take all necessary steps to correct all violations of law or regulation cited by the FRB and the NCCOB. |
In addition, the Company has agreed that it will:
• | refrain from taking any form of payment representing a reduction in capital from the Bank or make any distributions of interest, principal, or other sums on subordinated debentures or trust preferred securities absent prior regulatory approval; |
• | refrain from incurring, increasing, or guaranteeing any debt without the prior written approval of the FRB; and |
• | refrain from purchasing or redeeming any shares of its stock without the prior written consent of the FRB. |
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Under the terms of the Written Agreement, both the Company and the Bank have agreed to:
• | submit for approval a joint plan to maintain sufficient capital at the Company on a consolidated basis and at the Bank on a stand-alone basis; |
• | notify the FRB and the NCCOB if the Company's or the Bank's capital ratios fall below the approved capital plan's minimum ratios; |
• | refrain from declaring or paying any dividends absent prior regulatory approval; |
• | comply with applicable notice provisions with respect to the appointment of new directors and senior executive officers of the Company and the Bank and legal and regulatory limitations on indemnification and severance payments; and |
• | submit annual business plans and budgets and quarterly joint written progress reports regarding compliance with the Written Agreement. |
The Company and the Bank continue to be committed to addressing and resolving the issues raised in the Written Agreement. Upon initial receipt of the agreement, the Board of Directors established an Enforcement Action Committee that meets regularly to monitor the Bank's progress on compliance with the Written Agreement. The Bank has made progress on multiple provisions included in the Written Agreement and continues to address outstanding items that are not in full compliance. In our initial efforts to comply, several control changes were implemented to address the identification and valuation of impaired loans, the support and validation of the allowance for loan losses, and the valuation of foreclosed assets. Additionally, the Bank implemented additional controls around obtaining updated collateral valuations as required by regulation and established new policies to further reduce Commercial Real Estate concentrations, ensure current financial information is evaluated, and control interest only loans.
The Bank also created a separate Special Assets department and in 2012 added additional resources to provide adequate attention and expertise to problem loan management. Other areas also addressed include the adequacy of credit resources, portfolio risk management and reporting, and consistency and compliance when dealing with loan workouts. A material failure to comply with the terms of the Written Agreement could subject the Company to additional regulatory actions and further restrictions on its business. These regulatory actions and resulting restrictions on the Company's business may have a material adverse effect on its future results of operations and financial condition.
Since the Company and the Bank entered the Written Agreement, management has had frequent and regular communication with the FRB and NCCOB. This communication has involved:
• | updates on the progress involving each of the actions outlined in the Written Agreement, |
• | specific steps taken by the Company to remain in compliance with the Written Agreement, and |
• | communications, verbally and via interim internal reports, regarding the financial status of the Company including, but not limited to, the Company's key capital ratios. |
To date, the Company has not received any disagreement from the regulatory authorities regarding actions taken or contemplated. At this time, the Company is in partial compliance with the provisions of the Written Agreement.
Comparison of Financial Condition at June 30, 2014 and December 31, 2013
The Company’s total assets grew $11.8 million during the six month period ending June 30, 2014 or 1.44% from the balance at December 31, 2013 of $821.5 million to $833.4 million at June 30, 2014. Cash and cash equivalents increased approximately $58.1 million. Gross loans declined $16.0 million due to payoffs, paydowns, and charge offs. CDs held for investment declined $5.4 million due to scheduled maturities and investment securities declined $23.1 million. The changes in investments were primarily the result of $20.0 million in sales and $7.9 million in paydowns, net of $4.0 million in investment security purchases. Additionally, foreclosed assets declined $2.5 million as sales continued to outpace additions.
Total deposits increased $6.9 million or 1.06% for the six month period ended June 30, 2014 as compared to December 31, 2013. This primarily consists of an increase in total non-interest bearing demand deposits of $25.2 million net of a decline in interest bearing deposits of $18.2 million.
Total shareholders’ equity increased from $21.6 million at December 31, 2013 to $27.3 million at June 30, 2014, due to an increase in accumulated other comprehensive income of $945,000, net income of $3.8 million, and shares of common stock purchased by the Standby Investor pursuant to the Securities Purchase Agreement.
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Results of Operations for the Three Months Ended June 30, 2014 and 2013
Net Income (Loss). Net income for the three months ended June 30, 2014 was $2.4 million, or $0.27 per basic and diluted share, as compared to net loss of $105,000, or $0.01 per basic and diluted share, for the three months ended June 30, 2013, an increase of $2.5 million or $0.28 per basic and diluted share. The year-over-year increase in net income resulted from a $341,000 increase in net interest income, a $1.7 million increase in non-interest income, and a $465,000 decrease in non-interest expense.
Net Interest Income (Loss). Net interest income is the difference between interest income, principally from loan and investment securities, and interest expense, principally on customer deposits and borrowings. Changes in net interest income result from changes in volume, spread, and margin. For this purpose, volume refers to the average dollar level of interest-earning assets and interest-bearing liabilities, spread refers to the difference between the average yield on interest-earning assets and the average cost of interest-bearing liabilities, and margin refers to net interest income divided by average interest-earning assets. Margin is influenced by the level and relative mix of interest-earning assets and interest-bearing liabilities, as well as by levels of non-interest-bearing liabilities and capital.
Net interest income for the three months ended June 30, 2014 was $5.4 million, as compared to $5.0 million for the quarter ended June 30, 2013, an increase of $341,000. The increase in net interest income was largely attributable to a $402,000 increase in investment income, a $175,000 decrease in deposit interest expense, net of a $250,000 decrease in loan interest income. Purchases and redemptions over time have resulted in higher yields on the investment portfolio, thus accounting for a majority of the increase in investment income. Time deposits continue to reprice to lower rates as they mature. Additionally the shift in the deposit mix, from interest-bearing to non-interest bearing deposits, explains the decrease in deposit interest expense. The Company has experienced a decline in loan rates as competition intensifies for loan origination and refinance business in the local market. The decline in loan interest income is also, to a lesser extent, a result of the sale of loans to First Bank during the prior year. Net interest margins improved 9 basis points from 2.74% for the quarter ended June 30, 2014, as compared to 2.65% for the same period ended June 30, 2013. Average interest-earning assets increased $23.2 million, mainly due to increases in average investment securities. Average interest-bearing deposits decreased $39.4 million, while average non-interest bearing demand deposits increased $57.9 million.
Provision for Loan Losses. The provision for loan losses is charged to bring the allowance for loan losses to the level deemed appropriate by management after adjusting for recoveries of amounts previously charged off. Loans are charged against the allowance for loan losses when management believes that the uncollectibility of a loan balance is confirmed. The allowance for loan losses is maintained at a level deemed adequate to absorb probable losses inherent in the loan portfolio and results from management’s consideration of such factors as the financial condition of borrowers, past and expected loss experience, current economic conditions, and other factors management feels deserve recognition in establishing an appropriate reserve. During the three months ended June 30, 2014 and 2013, no provision for the allowance for loan losses was recognized in earnings due to continued improvement in asset quality, declining loan balances, and reductions in net charge offs. Management believes that the allowance is adequate to absorb probable losses inherent in the loan portfolio. See additional discussion under the section entitled "Asset Quality".
Non-Interest Income. Non-interest income increased $1.7 million to $3.4 million for the quarter ended June 30, 2014, as compared to $1.7 million for the quarter ended June 30, 2013. This increase resulted primarily from $1.7 million of non-recurring income from settlements reached with the clients of certain third party payment processors. The amounts represent indemnification for legal costs already incurred and estimated to occur.
Non-Interest Expenses. Non-interest expense decreased $465,000 to $6.4 million for the quarter ended June 30, 2014, as compared to $6.8 million for the quarter ended June 30, 2013. An improvement in asset quality provided a decline in expenses related to the holding of foreclosed property and collections expenses, which accounts for the majority of decreases in non-interest expense.
Income Taxes. We regularly assess available positive and negative evidence to determine whether it is more likely than not that our deferred tax asset balances will be recovered. A valuation allowance is established when it is more likely than not that all or some portion of the deferred tax asset will not be realized. In order to determine if the deferred tax asset is realizable, we performed an analysis that evaluates historical pre-tax earnings, projected future earnings, credit quality trends, taxable temporary differences and the cause and probability of recurrence of those circumstances leading to current taxable losses. Based on historical negative credit quality trends and cumulative losses in prior years, we did not consider any current or future taxable earnings in determining the recoverability of the deferred tax assets, and have therefore maintained a full valuation allowance against the net deferred tax asset. The Company will not record tax expense or tax benefit until positive operating earnings utilizing existing tax loss carry forwards result in exhibited performance, which would support the reinstatement of deferred tax assets.
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Results of Operations for the For the Six Months Ended June 30, 2014 and 2013
Net Income (Loss). Net income for the six months ended June 30, 2014 was $3.8 million, or $0.45 per basic and diluted share, as compared to net loss of $28,000, or $0.00 per basic and diluted share, for the six months ended June 30, 2013. The $3.8 million increase in profits resulted primarily from a $502,000 increase in net interest income, a $1.7 million increase in non-interest income, and a $1.6 million decrease in non-interest expense.
Net Interest Income. Net interest income for the six months ended June 30, 2014 was $10.8 million, as compared to $10.3 million for the six months ended June 30, 2013, an increase of $502,000. The increase in net interest income was largely attributable to an $808,000 increase in investment income, a $390,000 decrease in deposit interest expense, and a $685,000 decrease in loan interest income. The Company has experienced an increase in investment interest income as the investment portfolio has provided higher yields compared to the same period in the prior year. Time deposits continue to reprice to lower rates as they mature. Additionally, the shift in the deposit mix, from interest-bearing to non-interest bearing deposits, explains the decrease in deposit interest expense. The Company has experienced a decline in loan rates as competition intensifies for loan origination and refinance business in the local market. Equally impacting the decline in loan interest income is the decrease in average loans outstanding. Net interest margins improved 15 basis points to 2.78% for the six month period ended June 30, 2014 as compared to 2.63% for the same period ended June 30, 2013. Although average interest-earning assets declined $6.2 million from the six months ended June 30, 2013, the average rate on interest-earning assets increased 6 basis points to 3.84% for the six month period ended June 30, 2014, as compared to 3.78% for the same period ended June 30, 2013. This increase in average rates, predominantly associated with higher yields on the investment portfolio, allowed the Company's interest income to remain fairly constant year-over-year. Average interest-bearing deposits decreased $62.1 million from the six months ended June 30, 2013, while average non-interest bearing demand deposits increased $52.7 million.
Provision for Loan Losses. During the six months ended June 30, 2014, no provision for the allowance for loan losses was recognized in earnings due to continued improvement in asset quality, declining loan balances, and reductions in net charge offs. During the six months ended June 30, 2013 there was a $35,000 addition to the allowance for loan losses. Management continues to believe that the allowance is adequate to absorb probable losses inherent in the loan portfolio. See additional discussion under the section entitled "Asset Quality".
Non-Interest Income. Non-interest income increased $1.7 million to $5.5 million for the six months ended June 30, 2014, as compared to $3.8 million for the six months ended June 30, 2013. During the 2014 period there was $2.3 million of non-recurring income from settlements reached with the clients of certain third party payment processors. The amounts represent indemnification for legal costs already incurred and estimated to occur. During the six months ended June 30, 2013 there was a non-recurring deposit premium of $586,000 recognized from the sale of two branches to First Bank.
Non-Interest Expenses. Non-interest expense decreased $1.6 million to $12.5 million for the six months ended June 30, 2014, compared to $14.1 million for the six months ended June 30, 2013. The primary contributions to the decrease in non-interest expense were decreases in salaries and benefits, as well as a decrease in foreclosed asset expenses and collections. Salaries and benefits declined $501,000 as headcount decreased relative to the sale of two branches, as well as a decision not to replace certain vacated positions. An improvement in asset quality provided a decline in expenses related to the holding of foreclosed property of $493,000 and collections expenses of $337,000. Additionally, management continues to address ways to reduce operational cost and increase overall efficiencies.
Income Taxes. A valuation allowance is established when it is more likely than not that all or some portion of the deferred tax asset will not be realized. In order to determine if the deferred tax asset is realizable, we performed an analysis that evaluates historical pre-tax earnings, projected future earnings, credit quality trends, taxable temporary differences and the cause and probability of recurrence of those circumstances leading to current taxable losses. Based on historical negative credit quality trends and cumulative losses in prior years, we did not consider any current or future taxable earnings in determining the recoverability of the deferred tax assets, and have therefore maintained a full valuation allowance against the net deferred tax asset. The Company will not record tax expense or tax benefit until positive operating earnings utilizing existing tax loss carry forwards result in exhibited performance, which would support the reinstatement of deferred tax assets.
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Asset Quality
Nonperforming Assets
Nonperforming assets are comprised of nonperforming loans, accruing loans which are 90 days or more, repossessed assets and other real estate owned ("foreclosed assets"). As of June 30, 2014, nonperforming assets have declined $6.3 million or 17.6% when compared to December 31, 2013. This decline continues to be the result of aggressive asset resolution efforts. Management continues to focus its efforts on accelerating the resolution activity on nonperforming assets while minimizing associated losses.
The following table describes our nonperforming asset portfolio by loan class as of June 30, 2014 and December 31, 2013 (amounts in thousands, except ratios).
June 30, 2014 | December 31, 2013 | ||||||
Nonaccrual loans: | |||||||
Commercial and industrial | $ | 625 | $ | 651 | |||
Commercial construction and land development | 9,537 | 9,536 | |||||
Commercial real estate | 3,949 | 6,391 | |||||
Residential construction | 525 | 695 | |||||
Residential mortgage | 8,756 | 9,943 | |||||
Consumer | 6 | 11 | |||||
Total nonaccrual loans | $ | 23,398 | $ | 27,227 | |||
Foreclosed assets: | |||||||
Commercial and industrial | $ | 44 | $ | 44 | |||
Commercial construction and land development | 4,623 | 6,364 | |||||
Commercial real estate | 697 | 1,077 | |||||
Residential construction | — | 42 | |||||
Residential mortgage | 684 | 975 | |||||
Total foreclosed assets | $ | 6,048 | $ | 8,502 | |||
Past due 90 days or more and still accruing: | |||||||
Business credit cards | $ | 7 | $ | — | |||
Consumer credit cards | 9 | 23 | |||||
Total past due 90 days and still accruing | $ | 16 | $ | 23 | |||
Total nonperforming assets | $ | 29,462 | $ | 35,752 | |||
Nonaccrual loans to gross loans | 4.91 | % | 5.53 | % | |||
Nonperforming assets to total assets | 3.54 | % | 4.35 | % | |||
Allowance for loan losses | $ | 10,946 | $ | 11,590 | |||
Allowance coverage of nonperforming loans | 46.75 | % | 42.53 | % |
Nonaccrual Loans
Loans are moved to nonaccrual status and recognition of interest income ceases when it is probable that full collectibility of principal and interest in accordance with the terms of the loan agreement may not occur. Nonaccrual loans as a percentage of gross loans has decreased to 4.91% as of June 30, 2014 compared to 5.53% as of December 31, 2013. At June 30, 2014, there were 176 nonaccrual loans totaling $23.4 million compared to 202 nonaccrual loans totaling $27.2 million at December 31, 2013. The amount of interest income that would have been reported on loans in nonaccrual status as of June 30, 2014 totaled $635,000. The allowance for loan losses as a percentage of nonaccrual loans has increased to 46.75% as of June 30, 2014 compared to 42.53% as of December 31, 2013. Although both nonaccrual loans and the allowance for loan losses are declining, the rate at which the allowance is declining is resulting in increases in the percentage coverage.
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Foreclosed Assets
At June 30, 2014, there were 116 foreclosed properties valued at a total of $6.0 million compared to 129 foreclosed properties valued at $8.5 million as of December 31, 2013. The continued decline in foreclosed assets resulted from increased sales of foreclosed properties and reductions in the number of properties added to foreclosed assets.
Troubled Debt Restructurings
Loans are classified as a troubled debt restructuring ("TDR") when, for economic or legal reasons which result in a debtor experiencing financial difficulties, the Company grants a concession through a modification of the original loan agreement that would not otherwise be considered. Loans in the process of renewal or modification are reviewed by the Company to determine if the risk grade assigned is accurate based on updated information. The Company's policy with respect to accrual of interest on loans restructured in a TDR process follows relevant supervisory guidance. If a borrower has demonstrated performance under the previous loan terms and shows capacity to perform under the restructured loan terms, continued accrual of interest at the restructured interest rate is considered and the loan is considered performing. If the borrower was materially delinquent on payments prior to the restructuring but shows the capacity to meet the restructured loan terms, the loan will likely continue as nonaccrual and nonperforming until such time as continued performance has been demonstrated, which is typically a period of at least six consecutive payments. If the borrower does not perform under the restructured terms, the loan is placed on nonaccrual status.
As of June 30, 2014 there were 42 restructured loans in accrual status compared to 36 as of December 31, 2013. Regardless of whether any individual TDR is performing, all TDRs are considered to be impaired and are evaluated as such in the allowance for loan losses calculation. As of June 30, 2014, the recorded investment in performing TDRs and their related allowance for loan losses totaled $9.0 million and $437,000, respectively. Outstanding nonperforming TDRs and their related allowance for loan losses totaled $9.0 million and $220,000, respectively, as of June 30, 2014. The amount of interest recognized for performing TDRs during the first six months of 2014 was approximately $176,000.
The following table presents performing and nonperforming TDRs at June 30, 2014 and December 31, 2013 (amounts in thousands).
Performing TDRs: | June 30, 2014 | December 31, 2013 | |||||
Commercial industrial | $ | 37 | $ | 37 | |||
Commercial construction and land development | 1,509 | 227 | |||||
Commercial real estate | 5,448 | 4,447 | |||||
Residential mortgage | 1,961 | 2,319 | |||||
Total performing TDRs | $ | 8,955 | $ | 7,030 |
Nonperforming TDRs: | June 30, 2014 | December 31, 2013 | |||||
Commercial industrial | $ | 299 | $ | 301 | |||
Commercial construction and land development | 4,107 | 6,699 | |||||
Commercial real estate | 2,217 | 4,204 | |||||
Residential mortgage | 2,385 | 3,055 | |||||
Consumer | — | 1 | |||||
Total nonperforming TDRs | $ | 9,008 | $ | 14,260 |
Allowance for Loan Losses and Summary of Loss Experience
The allowance for loan losses is established through periodic charges to earnings in the form of a provision for loan losses. Increases to the allowance for loan losses occur as a result of provisions charged to operations and recoveries of amounts previously charged-off, and decreases to the allowance occur when loans are charged-off because management believes that the uncollectibility of a loan balance is confirmed. Management evaluates the adequacy of our allowance for loan losses on a monthly basis. The evaluation of the adequacy of the allowance for loan losses involves the consideration of loan growth, loan portfolio composition and industry diversification, historical loan loss experience, current delinquency levels, adverse conditions that might affect a borrower’s ability to repay the loan, estimated value of underlying collateral, prevailing economic conditions and all other relevant factors derived from our history of operations.
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The following table summarizes the Company's loan loss experience by class for the for the three and six months ended June 30, 2014 and 2013 (amounts in thousands, except ratios).
Three Months Ended | Six Months Ended | ||||||||||||||
June 30, | June 30, | ||||||||||||||
2014 | 2013 | 2014 | 2013 | ||||||||||||
Balance, beginning of period | $ | 11,516 | $ | 15,247 | $ | 11,590 | $ | 16,549 | |||||||
Charge-offs: | |||||||||||||||
Commercial and industrial | (1 | ) | (42 | ) | (24 | ) | (60 | ) | |||||||
Commercial construction and land development | (164 | ) | (1,198 | ) | (317 | ) | (1,858 | ) | |||||||
Commercial real estate | (283 | ) | (987 | ) | (490 | ) | (1,225 | ) | |||||||
Residential construction | (171 | ) | (138 | ) | (171 | ) | (138 | ) | |||||||
Residential mortgage | (173 | ) | (294 | ) | (240 | ) | (904 | ) | |||||||
Consumer | (47 | ) | (73 | ) | (89 | ) | (164 | ) | |||||||
Total charge-offs | (839 | ) | (2,732 | ) | (1,331 | ) | (4,349 | ) | |||||||
Recoveries: | |||||||||||||||
Commercial and industrial | 75 | 228 | 114 | 251 | |||||||||||
Commercial construction and land development | 142 | 91 | 184 | 178 | |||||||||||
Commercial real estate | 3 | 1,007 | 162 | 1,008 | |||||||||||
Residential construction | — | — | — | — | |||||||||||
Residential mortgage | 47 | 158 | 189 | 281 | |||||||||||
Consumer | 2 | 38 | 17 | 81 | |||||||||||
Other | — | 1 | 21 | 4 | |||||||||||
Total recoveries | 269 | 1,523 | 687 | 1,803 | |||||||||||
Net charge-offs | (570 | ) | (1,209 | ) | (644 | ) | (2,546 | ) | |||||||
Provision for loan losses | — | — | — | 35 | |||||||||||
Balance at end of period | $ | 10,946 | $ | 14,038 | $ | 10,946 | $ | 14,038 | |||||||
Ratio of net charge-offs during the period to average gross loans outstanding during the period | 0.12 | % | 0.25 | % | 0.13 | % | 0.51 | % |
The allowance for loan losses at June 30, 2014 was $10.9 million, which represents 2.3% of total loans outstanding compared to $14.0 million or 2.9% as of June 30, 2013. For the six months ended June 30, 2014, net loan charge-offs were $644,000 compared with $2.5 million for the prior year period. As the Company continues to work through problem loans, net charge-offs continue to improve. The Company has dedicated resources to focus on the resolution of nonperforming assets which has contributed to the improved results.
The allowance for loan losses on individually reviewed impaired loans totaled $2.1 million as of June 30, 2014, compared to $1.8 million as of December 31, 2013, a 16.55% increase. The increase was primarily the result of increased reserves on a number of loans due to changes in the fair market value of collateral securing the loans. The allowance for loan losses on the loans reviewed collectively decreased from $9.8 million as of December 31, 2013 to $8.8 million as of June 30, 2014 due primarily to improved charge-off trends.
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Because of the nature of the Company’s primary markets and business, a significant portion of the loan portfolio is secured by commercial real estate, including residential and commercial acquisition, development, and construction properties. As of June 30, 2014, approximately 93% of the loan portfolio had real estate as a primary component of collateral. The real estate collateral in each case provides an alternate source of repayment in the event of default by the borrower. Real estate values in many markets have declined over the past year, which may continue to negatively impact the ability of certain borrowers to repay their loans, while other markets are recovering their values. The Company continues to thoroughly review and monitor its commercial real estate concentration and the associated allowance and sets limits by sector and region based on this internal review.
The following table summarizes the Company’s allowance for loan losses and percent of total loans at June 30, 2014, and December 31, 2013 (amounts in thousands, except ratios).
June 30, 2014 | December 31, 2013 | ||||||||||||
Amount | % of Loans in each category | Amount | % of Loans in each category | ||||||||||
Commercial and industrial | $ | 389 | 5 | % | $ | 487 | 6 | % | |||||
Commercial construction and land development | 5,567 | 13 | % | 5,037 | 13 | % | |||||||
Commercial real estate | 2,241 | 43 | % | 2,981 | 43 | % | |||||||
Residential construction | 620 | 6 | % | 713 | 6 | % | |||||||
Residential mortgage | 1,945 | 31 | % | 2,146 | 30 | % | |||||||
Consumer | 169 | 2 | % | 188 | 2 | % | |||||||
Other | 15 | — | % | 38 | — | % | |||||||
Total | $ | 10,946 | 100 | % | $ | 11,590 | 100 | % |
Liquidity and Capital Resources
Market and public confidence in our financial strength and in the strength of financial institutions in general will largely determine our access to appropriate levels of liquidity. This confidence is significantly dependent on our ability to maintain sound asset quality and appropriate levels of capital resources. The term "liquidity" refers to our ability to generate adequate amounts of cash to meet our needs for funding loan originations, deposit withdrawals, maturities of borrowings and operating expenses. Management measures our liquidity position by giving consideration to both on and off-balance sheet sources of, and demands for, funds on a daily and weekly basis.
Sources of liquidity include cash and cash equivalents (net of federal requirements to maintain reserves against deposit liabilities), investment securities eligible for pledging to secure borrowings, investments available-for-sale, loan repayments, loan sales, deposits and borrowings from the Federal Home Loan Bank of Atlanta (the "FHLB") secured with pledged loans and securities, and from correspondent banks under overnight federal funds credit lines. In addition to interest rate sensitive deposits and anticipated funding under credit commitments to customers, the Company's primary demands for liquidity are short term demand deposits held for funding Automated Clearing House ("ACH") transactions for the third party payment processors. Although a decline in these short term demand deposits is expected over the next 12 to 18 months due to contract terminations, these deposits increased year to date totaling $135.3 million as of June 30, 2014 compared to $117.1 million as of December 31, 2013. Management is actively monitoring the changes in these deposits and the Company has access to other funding sources to replace these deposits as needed to maintain adequate liquidity.
The Company sold $12.0 million aggregate principal amount of subordinated promissory notes to certain accredited investors between May and August 2009. These notes are due ten years after the date of issuance, beginning May 15, 2019, and the Company is obligated to pay interest at an annualized rate of 8.5% payable in quarterly installments beginning on the third month anniversary of the date of issuance. The Company may prepay the notes at any time after the fifth anniversary of the date of issuance, subject to compliance with applicable law.
On March 24, 2014, the Company entered into the Securities Purchase Agreement with the Standby Investor. Pursuant to the Securities Purchase Agreement, the Standby Investor has agreed to purchase from the Company (the “Standby Offering”), for $1.00 per share, the lesser of (i) 10,000,000 shares of common stock, $1.00 par value per share (the “Common Stock”), (ii) if the Rights Offering is completed, all shares of Common Stock not purchased by shareholders exercising their basic subscription privilege, and (iii) the maximum number of shares that he may purchase without causing an “ownership change” under Section 382(g) of the Internal Revenue Code of 1986, as amended (49.99% of all shares of Common Stock outstanding at the completion of the Rights Offering and the Standby Offering). In addition, the Securities Purchase Agreement provides the Standby Investor a right of first refusal to purchase an additional 6,000,000 shares subject to the limitations outlined in clauses (ii) and (iii) above.
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Pursuant to the Securities Purchase Agreement, on March 27, 2014, the Company closed the initial sale of 875,000 shares of Common Stock to the Standby Investor. The Securities Purchase Agreement contemplates a subsequent closing of the remaining number of shares based on the formula above and the Standby Investor’s decision on whether to exercise his right of first refusal. The Company has agreed that if for any reason it does not complete the Rights Offering, the Standby Investor will still be permitted to purchase shares of Common Stock as set forth above. The Company expects the second closing to occur during the month of August 2014, contemporaneous with the completion of the Rights Offering.
The Securities Purchase Agreement contains customary representations, warranties, and various covenants, including, among others, covenants by the Company to (i) adopt a restricted stock plan for the benefit of the Company’s officers, (ii) adopt an asset resolution plan, and (iii) establish a rights plan to protect the Company’s deferred tax asset. Consummation of the Standby Offering is subject to (a) receipt of required regulatory approvals and non-objections, (b) receipt by the Company of a letter from an independent accounting firm related to the Company’s deferred tax asset, and (c) other customary closing conditions set forth in the Securities Purchase Agreement. The Company has also agreed to enter into a registration rights agreement with the Standby Investor (the “Registration Rights Agreement”), which will provide the Standby Investor demand registration and piggyback registration rights with respect to the Standby Investor’s resale of shares purchased under the Securities Purchase Agreement, subject to customary limitations. The Company has agreed to pay the expenses associated with any registration statements filed with the SEC pursuant to the Registration Rights Agreement. Between the closing of the Standby Offering and the third anniversary of the closing date, for as long as the Standby Investor owns at least 25% of the Company’s outstanding shares of Common Stock, if the Company makes any public or non-public offering of any equity or any securities, options, or debt that are convertible or exchangeable into equity or that include an equity component, the Standby Investor will be afforded the opportunity to acquire from the Company for the same price and on the same terms as such securities are proposed to be offered to others, up to the amount in the aggregate required to enable him to maintain his proportionate common stock-equivalent interest in the Company.
In addition, on June 18, 2014, the Company commenced the previously announced Rights Offering . In the Rights Offering, the Company distributed, at no charge, non-transferable subscription rights to its shareholders as of 5:00 p.m., Eastern Time, on June 16, 2014 (the “Record Date”). For each share of Common Stock held as of the Record Date, each shareholder received a non-transferable right to purchase three shares of Common Stock at a subscription price of $1.00 per share (the “Basic Subscription Privilege”). Shareholders who exercised their Basic Subscription Privilege in full had the opportunity to subscribe for additional shares for pro rata allocation in the event that not all available shares are purchased pursuant to the Basic Subscription Privilege or by the Standby Investor pursuant to the Securities Purchase Agreement, subject to certain limitations.
The subscription period of the Rights Offering expired at 5:00 p.m., Eastern Time, on July 31, 2014. Based on the preliminary results, the Company estimates that it will receive aggregate gross proceeds in connection with the Rights Offering and Standby Offering of $24.0 million dollars. The Company expects that it will receive the maximum amount permissible pursuant to the terms of the Rights Offering and that all basic subscriptions received will be filled. Based on the significant response to the Rights Offering, the Company anticipates that only a fraction of the oversubscription requests will be satisfied. The Company’s estimates are preliminary, as the Rights Offering is subject to a finalization and verification process by the Company and the subscription agent, Registrar and Transfer Company, which the Company expects to be complete during the month of August 2014.
Management believes that the Company’s liquidity sources are adequate to meet its operating needs for the next eighteen months. Total shareholders’ equity was $27.3 million or 3.28% of total assets at June 30, 2014 and $21.6 million or 2.63% of total assets at December 31, 2013. Supplementing customer deposits as a source of funding, we have available lines of credit from various correspondent banks to purchase federal funds on a short-term basis of approximately $16.0 million that remains unused at June 30, 2014. As of June 30, 2014, the Company has the credit capacity to borrow up to $163.1 million from the FHLB with $112.0 million outstanding. Our future liquidity sources and requirements will depend on a number of factors, including the availability of additional financing through the Rights Offering, Standby Offering or other sales of equity securities or otherwise.
The Company had total risk based capital of 11.7%, Tier 1 risk based capital of 7.8%, and leverage ratio of 4.3% at June 30, 2014, as compared to 10.7%, 6.3% and 3.6%, respectively, at December 31, 2013. The Bank had total risk based capital of 12.1%, Tier 1 risk based capital of 10.8%, and leverage ratio of 5.9% at June 30, 2014, as compared to 10.9%, 9.7%, and 5.5%, respectively, at December 31, 2013. At June 30, 2014, the Company is adequately capitalized and the Bank is well capitalized.
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The Company is currently prohibited by the Written Agreement from paying interest on its subordinated promissory notes and on its subordinated debentures in connection with its trust preferred securities ("TPS") without prior approval of the supervisory authorities. The Company and the Bank are prohibited from declaring or paying dividends without prior approval of the supervisory authorities. The Company obtained approval to pay the interest on its subordinated promissory notes for every quarter when approval was required. The Company exercised its right to defer regularly scheduled interest payments on its outstanding TPS and as of June 30, 2014, $799,000 of interest payments have been accrued for and deferred pursuant to the terms of the indenture governing the TPS. The Company may not pay any cash dividends on its Common Stock until it is current on interest payments on such TPS. The Company has not paid any cash dividends on its Common Stock since it suspended dividends in the fourth quarter of 2010. As a bank holding company, the Company’s ability to declare and pay dividends also depends on certain federal regulatory considerations, including the guidelines of the Federal Reserve regarding capital adequacy and dividends.
Forward-Looking Information
Information set forth in this Quarterly Report on Form 10-Q, under the caption “Management’s Discussion and Analysis of Financial Condition and Results of Operations” contains various “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended (the "Securities Act"), and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), which statements represent our judgment concerning the future and are subject to business, economic and other risks and uncertainties, both known and unknown, that could cause our actual operating results and financial position to differ materially. Such forward looking statements can be identified by the use of forward looking terminology, such as “may,” “will,” “expect,” “anticipate,” “estimate,” or “continue” or the negative thereof or other variations thereof or comparable terminology.
We caution that any such forward-looking statements are further qualified by important factors that could cause our actual operating results to differ materially from those in the forward-looking statements, including, without limitation, our ability to comply with the Written Agreement, the effects of future economic conditions, governmental fiscal and monetary policies, legislative and regulatory changes, the risks of changes in interest rates on the level and composition of deposits, the effects of competition from other financial institutions, our ability to raise capital, the failure of assumptions underlying the establishment of the allowance for possible loan losses, our ability to maintain an effective internal control environment, the low trading volume of our common stock, the risks discussed in Part II, Item 1A. Risk Factors, and other considerations described in connection with specific forward-looking statements and other cautionary elements specified in the Company's periodic filings with the Commission, including without limitation, its Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, and Current Reports on Form 8-K.
Any forward-looking statements contained in this Quarterly Report on Form 10-Q are as of the date hereof and we undertake no duty to update them if our view changes later, except as required by law. These forward-looking statements should not be relied upon as representing our view as of any date subsequent to the date hereof.
ITEM 3 – QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not applicable.
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ITEM 4 – CONTROLS AND PROCEDURES
As required by paragraph (b) of Rule 13a-15 under the Exchange Act, an evaluation was carried out under the supervision and with the participation of the Company's management, including its Chief Executive Officer and Chief Financial Officer, of the effectiveness of the Company's disclosure controls and procedures (as defined in Rule 13a-15(e) and 15d-15(e) under the Exchange Act) as of the end of the period covered by this Quarterly Report. As defined in Rule 13a-15(e) and 15d-15(e) under the Exchange Act, the term disclosure controls and procedures means controls and other procedures of an issuer that are designed to ensure that information required to be disclosed by the issuer in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SEC rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by an issuer in the reports that it files or submits under the Exchange Act is accumulated and communicated to the issuer's management, including its principal executive and principal financial officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure. Based on their evaluation, the Chief Executive Officer and Chief Financial Officer have concluded that as of the end of the period covered by this Quarterly Report, the Company's disclosure controls and procedures were effective for the purpose of ensuring that the information required to be disclosed in the reports that the Company files or submits to the Commission under the Exchange Act is recorded, processed, summarized and reported, within the time periods required by the Commission's rules and forms.
Changes in Internal Control Over Financial Reporting
There have been no changes in the Company's internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) that occurred during the period covered by this Quarterly Report that the Company believes have materially affected or are likely to materially affect, its internal control over financial reporting.
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Part II. OTHER INFORMATION
ITEM 1 – LEGAL PROCEEDINGS
On May 20, 2013, the DOJ issued a subpoena to the Bank requiring the production of documents in connection with an investigation of consumer fraud related to third party payment processing. In connection with this investigation, the Bank negotiated a civil settlement with the DOJ (the "Consent Order"), which was filed with the United States District Court for the Eastern District of North Carolina on January 8, 2014. The Consent Order was filed contemporaneously with the filing of a complaint by the DOJ alleging violation of a variety of laws, including money laundering laws. As part of the terms of the Consent Order, the Bank agreed to pay a civil monetary penalty in the amount of $1 million, plus a civil forfeiture in the amount of $200,000. The Consent Order was approved by the United States District Court for the Eastern District of North Carolina on April 25, 2014 and payment of the civil monetary penalty and civil forfeiture occurred on May 1, 2014.
In October 2013, multiple putative class action lawsuits were filed in United States district courts across the country against a number of different banks based on the banks' alleged role in "payday lending". Four of these lawsuits, pending in the Northern District of Georgia, the Middle District of North Carolina, the District of Maryland, and the Southern District of Florida, name the Bank as one of the defendants. The lawsuits allege that, by processing ACH transactions indirectly on behalf of "payday lenders", the Bank is illegally participating in an enterprise to collect unlawful debts and is therefore liable to plaintiffs for damages under the federal Racketeer Influenced and Corrupt Organizations Act. The lawsuits also allege a variety of state law claims. The Bank moved to dismiss each of these lawsuits. The District of Maryland granted the motion and dismissed the case; that ruling is on appeal to the United States Court of Appeals for the Fourth Circuit. The Middle District of North Carolina granted the motion in part and denied it in part. The motions to dismiss in the two other cases are awaiting decision.
We are party to certain other legal actions in the ordinary course of our business. We believe these actions are routine in nature and incidental to the operation of our business. While the outcome of these actions cannot be predicted with certainty, management’s present judgment is that the ultimate resolution of these matters will not have a material adverse impact on our business, financial condition, results of operations, cash flows or prospects. If, however, our assessment of these actions is inaccurate, or there are any significant adverse developments in these actions, our business, financial condition, results of operations, cash flows and prospects could be adversely affected.
ITEM 1A - RISK FACTORS
There have been no material changes in the Company’s risk factors from those disclosed in its Annual Report on Form 10-K for the year ended December 31, 2013, except that the risks related to the approval and timing of the Consent Order are no longer applicable.
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ITEM 6 - EXHIBITS
The following exhibits are filed as part of this Quarterly Report on Form 10-Q.
Exhibit No. | Description |
4.1 | Form of Rights Certificate (incorporated by reference to Exhibit 4.4 to the Company’s Pre-Effective Amendment No. 1 to Registration Statement on Form S-1/A (File No. 333-195047), as filed with the Commission on May 23, 2014) |
31.1 | Certification of the Chief Executive Officer pursuant to Rule 13a-14(a) or Rule 15d-14(a) as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
31.2 | Certification of the Chief Financial Officer pursuant to Rule 13a-14(a) or Rule 15d-14(a) as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
32.1 | Certification of the Chief Executive Officer pursuant to 18 U.S.C. 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
32.2 | Certification of the Chief Financial Officer pursuant to 18 U.S.C. 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
101 | The following materials from Four Oaks Fincorp, Inc.’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2014 formatted in XBRL (eXtensible Business Reporting Language) and furnished electronically herewith: (i) Consolidated Balance Sheets; (ii) Consolidated Statements of Operations; (iii) Consolidated Statements of Comprehensive Income (Loss); (iv) Consolidated Statement of Shareholders’ Equity; (v) Consolidated Statements of Cash Flows; and (vi) Notes to Consolidated Financial Statements. |
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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.
FOUR OAKS FINCORP, INC. | |||
Date: | August 14, 2014 | By: | /s/ Ayden R. Lee, Jr. |
Ayden R. Lee, Jr. | |||
Chairman, President and | |||
Chief Executive Officer | |||
Date: | August 14, 2014 | By: | /s/ Nancy S. Wise |
Nancy S. Wise | |||
Executive Vice President and | |||
Chief Financial Officer |
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Exhibit Index
Exhibit No. | Description |
4.1 | Form of Rights Certificate (incorporated by reference to Exhibit 4.4 to the Company’s Pre-Effective Amendment No. 1 to Registration Statement on Form S-1/A (File No. 333-195047), as filed with the Commission on May 23, 2014) |
31.1 | Certification of the Chief Executive Officer pursuant to Rule 13a-14(a) or Rule 15d-14(a) as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
31.2 | Certification of the Chief Financial Officer pursuant to Rule 13a-14(a) or Rule 15d-14(a) as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
32.1 | Certification of the Chief Executive Officer pursuant to 18 U.S.C. 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
32.2 | Certification of the Chief Financial Officer pursuant to 18 U.S.C. 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
101 | The following materials from Four Oaks Fincorp, Inc.’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2014 formatted in XBRL (eXtensible Business Reporting Language) and furnished electronically herewith: (i) Consolidated Balance Sheets; (ii) Consolidated Statements of Operations; (iii) Consolidated Statements of Comprehensive Income (Loss); (iv) Consolidated Statement of Shareholders’ Equity; (v) Consolidated Statements of Cash Flows; and (vi) Notes to Consolidated Financial Statements. |
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