| LOANS | 4. The composition of the Company’s loan portfolio, by loan class, as of June 30, 2019 and December 31, 2018 was as follows: ($ in thousands) June 30, 2019 December 31, 2018 Commercial $ 111,042 $ 125,177 Commercial Real Estate 422,063 420,106 Agriculture 109,440 123,626 Residential Mortgage 56,108 51,064 Residential Construction 15,529 20,124 Consumer 29,464 35,397 743,646 775,494 Allowance for loan losses (12,838 ) (12,822 ) Net deferred origination fees and costs 811 721 Loans, net $ 731,619 $ 763,393 The Company manages asset quality and credit risk by maintaining diversification in its loan portfolio and through review processes that include analysis of credit requests and ongoing examination of outstanding loans and delinquencies, with particular attention to portfolio dynamics and loan mix. The Company strives to identify loans experiencing difficulty early enough to correct the problems, to record charge-offs promptly based on realistic assessments of collectability and current collateral values and to maintain an adequate allowance for loan losses at all times. Asset quality reviews of loans and other non-performing assets are administered using credit risk rating standards and criteria similar to those employed by state and federal banking regulatory agencies. Commercial loans, whether secured or unsecured, generally are made to support the short-term operations and other needs of small businesses. These loans are generally secured by the receivables, equipment, and other real property of the business and are susceptible to the related risks described above. Problem commercial loans are generally identified by periodic review of financial information that may include financial statements, tax returns, and payment history of the borrower. Based on this information, the Company may decide to take any of several courses of action, including demand for repayment, requiring the borrower to provide a significant principal payment and/or additional collateral or requiring similar support from guarantors. Notwithstanding, when repayment becomes unlikely based on the borrower's income and cash flow, repossession or foreclosure of the underlying collateral may become necessary. Collateral values may be determined by appraisals obtained through Bank-approved, licensed appraisers, qualified independent third parties, purchase invoices, or other appropriate documentation. Commercial real estate loans generally fall into two categories, owner-occupied and non-owner occupied. Loans secured by owner-occupied real estate are primarily susceptible to changes in the market conditions of the related business. This may be driven by, among other things, industry changes, geographic business changes, changes in the individual financial capacity of the business owner, general economic conditions and changes in business cycles. These same risks apply to Commercial loans whether secured by equipment, receivables or other personal property or unsecured. Problem commercial real estate loans are generally identified by periodic review of financial information that may include financial statements, tax returns, payment history of the borrower, and site inspections. Based on this information, the Company may decide to take any of several courses of action, including demand for repayment, requiring the borrower to provide a significant principal payment and/or additional collateral or requiring similar support from guarantors. Notwithstanding, when repayment becomes unlikely based on the borrower's income and cash flow, repossession or foreclosure of the underlying collateral may become necessary. Losses on loans secured by owner occupied real estate, equipment, or other personal property generally are dictated by the value of underlying collateral at the time of default and liquidation of the collateral. When default is driven by issues related specifically to the business owner, collateral values tend to provide better repayment support and may result in little or no loss. Alternatively, when default is driven by more general economic conditions, underlying collateral generally has devalued more and results in larger losses due to default. Loans secured by non-owner occupied real estate are primarily susceptible to risks associated with swings in occupancy or vacancy and related shifts in lease rates, rental rates or room rates. Most often, these shifts are a result of changes in general economic or market conditions or overbuilding and resulting over-supply of space. Losses are dependent on the value of underlying collateral at the time of default. Values are generally driven by these same factors and influenced by interest rates and required rates of return as well as changes in occupancy costs. Collateral values may be determined by appraisals obtained through Bank-approved, licensed appraisers, qualified independent third parties, sales invoices, or other appropriate means. Agricultural loans, whether secured or unsecured, generally are made to producers and processors of crops and livestock. Repayment is primarily from the sale of an agricultural product or service. Agricultural loans are generally secured by inventory, receivables, equipment, and other real property. Agricultural loans primarily are susceptible to changes in market demand for specific commodities. This may be exacerbated by, among other things, industry changes, changes in the individual financial capacity of the business owner, general economic conditions and changes in business cycles, as well as adverse weather conditions such as drought or floods. Problem agricultural loans are generally identified by periodic review of financial information that may include financial statements, tax returns, crop budgets, payment history, and crop inspections. Based on this information, the Company may decide to take any of several courses of action, including demand for repayment, requiring the borrower to provide a significant principal payment and/or additional collateral or requiring similar support from guarantors. Notwithstanding, when repayment becomes unlikely based on the borrower's income and cash flow, repossession or foreclosure of the underlying collateral may become necessary. Residential mortgage loans, which are secured by real estate, are primarily susceptible to four risks; non-payment due to diminished or lost income, over-extension of credit, a lack of borrower's cash flow to sustain payments, and shortfalls in collateral value. In general, non-payment is usually due to loss of employment and follows general economic trends in the economy, particularly the upward movement in the unemployment rate, loss of collateral value, and demand shifts. Construction loans, whether owner-occupied or non-owner occupied residential development loans, are not only susceptible to the related risks described above but the added risks of construction, including cost over-runs, mismanagement of the project, or lack of demand and market changes experienced at time of completion. Losses are primarily related to underlying collateral value and changes therein as described above. Problem construction loans are generally identified by periodic review of financial information that may include financial statements, tax returns and payment history of the borrower. Based on this information, the Company may decide to take any of several courses of action, including demand for repayment, requiring the borrower to provide a significant principal payment and/or additional collateral or requiring similar support from guarantors, or repossession or foreclosure of the underlying collateral. Collateral values may be determined by appraisals obtained through Bank-approved, licensed appraisers, qualified independent third parties, purchase invoices, or other appropriate documentation. Consumer loans, whether unsecured or secured, are primarily susceptible to four risks: non-payment due to diminished or lost income, over-extension of credit, a lack of borrower's cash flow to sustain payments, and shortfall in collateral value. In general, non-payment is usually due to loss of employment and will follow general economic trends in the economy, particularly the upward movements in the unemployment rate, loss of collateral value, and demand shifts. Collateral values may be determined by appraisals obtained through Bank-approved, licensed appraisers, qualified independent third parties, purchase invoices, or other appropriate documentation. Collateral valuations are obtained at origination of the credit and periodically thereafter (generally annually but may be more frequent depending on the collateral type), once repayment is questionable, and the loan has been deemed classified. As of June 30, 2019, approximately 15% in principal amount of the Company's loans were for general commercial uses, including professional, retail and small businesses. Approximately 57% in principal amount of the Company’s loans were secured by commercial real estate, consisting primarily of loans secured by commercial properties and construction and land development loans. Approximately 15% in principal amount of the Company's loans were for agriculture, approximately 7% in principal amount of the Company’s loans were residential mortgage loans, approximately 2% in principal amount of the Company’s loans were residential construction loans and approximately 4% in principal amount of the Company’s loans were consumer loans. Once a loan becomes delinquent or repayment becomes questionable, a Company collection officer will address collateral shortfalls with the borrower and attempt to obtain additional collateral or a principal payment. If this is not forthcoming and payment of principal and interest in accordance with the contractual terms of the loan agreement becomes unlikely, the Company will consider the loan to be impaired and will estimate its probable loss, using the present value of future cash flows discounted at the loan's effective interest rate, the loan's observable market price, or the fair value of the collateral if the loan is collateral dependent. For collateral dependent loans, the Company will utilize a recent valuation of the underlying collateral less estimated costs of sale, and charge-off the loan down to the estimated net realizable amount. Depending on the length of time until final collection, the Company may periodically revalue the estimated loss and take additional charge-offs or specific reserves as warranted. Revaluations may occur as often as every 3-12 months depending on the underlying collateral and volatility of values. Final charge-offs or recoveries are taken when the collateral is liquidated and the actual loss is confirmed. Unpaid balances on loans after or during collection and liquidation may also be pursued through legal action and attachment of wages or judgment liens on the borrower's other assets. At June 30, 2019 and December 31, 2018, all loans were pledged under a blanket collateral lien to secure actual and potential borrowings from the Federal Home Loan Bank (“FHLB”). Non-accrual and Past Due Loans The Company’s loans by delinquency and non-accrual status, as of June 30, 2019 and December 31, 2018, were as follows: ($ in thousands) Current & Accruing 30-59 Days Past Due & Accruing 60-89 Days Past Due & Accruing 90 Days or more Past Due & Accruing Non-Accrual Total Loans June 30, 2019 Commercial $ 109,825 $ — $ 139 $ 490 $ 588 $ 111,042 Commercial Real Estate 421,715 — — — 348 422,063 Agriculture 109,342 98 — — — 109,440 Residential Mortgage 55,844 — 176 — 88 56,108 Residential Construction 15,529 — — — — 15,529 Consumer 29,243 — 107 — 114 29,464 Total $ 741,498 $ 98 $ 422 $ 490 $ 1,138 $ 743,646 December 31, 2018 Commercial $ 123,765 $ 662 $ — $ — $ 750 $ 125,177 Commercial Real Estate 419,725 — — — 381 420,106 Agriculture 118,639 157 — — 4,830 123,626 Residential Mortgage 50,964 — — — 100 51,064 Residential Construction 20,124 — — — — 20,124 Consumer 35,054 114 38 — 191 35,397 Total $ 768,271 $ 933 $ 38 $ — $ 6,252 $ 775,494 Non-accrual loans amounted to $1,138,000 at June 30, 2019 and were comprised of three commercial loans totaling $588,000, two commercial real estate loans totaling $348,000, one residential mortgage loans totaling $88,000, and two consumer loans totaling $114,000. Non-accrual loans amounted to $6,252,000 at December 31, 2018 and were comprised of two commercial loans totaling $750,000, two commercial real estate loans totaling $381,000, five agriculture loans totaling $4,830,000, two residential mortgage loans totaling $100,000, and one consumer loan totaling $191,000. All non-accrual loans are measured for impairment based upon the present value of future cash flows discounted at the loan's effective interest rate, the loan's observable market price, or the fair value of collateral, if the loan is collateral dependent. If the measurement of the non-accrual loan is less than the recorded investment in the loan, an impairment is recognized through the establishment of a specific reserve sufficient to cover expected losses and/or a charge-off against the allowance for loan losses. If the loan is considered to be collateral dependent, it is generally the Company's policy to charge-off the portion of any non-accrual loan that the Company does not expect to collect by writing the loan down to the estimated net realizable value of the underlying collateral. There were no commitments to lend additional funds to borrowers whose loans were on non-accrual status at June 30, 2019. There was a $261,000 commitment to lend additional funds to a borrower whose loan was on non-accrual status at December 31, 2018. Impaired Loans A loan is considered impaired when, based on current information and events, it is probable that the Company will be unable to collect all amounts due according to the contractual terms of the loan agreement, including scheduled interest payments. Loans to be considered for impairment include non-accrual loans, troubled debt restructurings and loans with a risk rating of 5 (special mention) or worse and an aggregate exposure of $500,000 or more. Once identified, impaired loans are measured individually for impairment using one of three methods: present value of expected cash flows discounted at the loan's effective interest rate; the loan's observable market price; or fair value of collateral if the loan is collateral dependent. In general, any portion of the recorded investment in a collateral dependent loan in excess of the fair value of the collateral that can be identified as uncollectible, and is, therefore, deemed a confirmed loss, is promptly charged-off against the allowance for loan losses. Impaired loans, segregated by loan class, as of June 30, 2019 and December 31, 2018 were as follows: ($ in thousands) Unpaid Contractual Principal Balance Recorded Investment with no Allowance Recorded Investment with Allowance Total Recorded Investment Related Allowance June 30, 2019 Commercial $ 3,116 $ 588 $ 1,759 $ 2,347 $ 32 Commercial Real Estate 753 348 255 603 20 Agriculture — — — — — Residential Mortgage 1,102 88 927 1,015 179 Residential Construction 743 — 711 711 48 Consumer 203 114 88 202 2 Total $ 5,917 $ 1,138 $ 3,740 $ 4,878 $ 281 December 31, 2018 Commercial $ 3,591 $ 300 $ 2,602 $ 2,902 $ 496 Commercial Real Estate 780 381 261 642 21 Agriculture 4,830 4,830 — 4,830 — Residential Mortgage 1,669 100 1,451 1,551 287 Residential Construction 560 — 560 560 49 Consumer 403 191 198 389 2 Total $ 11,833 $ 5,802 $ 5,072 $ 10,874 $ 855 The average recorded investment in impaired loans and the amount of interest income recognized on impaired loans during the three months ended June 30, 2019 and June 30, 2018 was as follows: ($ in thousands) Three Months Ended June 30, 2019 Three Months Ended June 30, 2018 Average Recorded Investment Interest Income Recognized Average Recorded Investment Interest Income Recognized Commercial $ 2,260 $ 32 $ 2,863 $ 45 Commercial Real Estate 614 4 1,934 4 Agriculture 2,389 240 — — Residential Mortgage 1,183 22 1,888 15 Residential Construction 727 8 641 9 Consumer 293 18 484 3 Total $ 7,466 $ 324 $ 7,810 $ 76 The average recorded investment in impaired loans and the amount of interest income recognized on impaired loans during the six months ended June 30, 2019 and June 30, 2018 was as follows: ($ in thousands) Six Months Ended June 30, 2019 Six Months Ended June 30, 2018 Average Recorded Investment Interest Income Recognized Average Recorded Investment Interest Income Recognized Commercial $ 2,474 $ 74 $ 3,129 $ 91 Commercial Real Estate 623 8 1,955 7 Agriculture 3,203 240 — — Residential Mortgage 1,306 34 2,018 30 Residential Construction 671 16 644 19 Consumer 325 21 462 6 Total $ 8,602 $ 393 $ 8,208 $ 153 Troubled Debt Restructurings The Company's loan portfolio includes certain loans that have been modified in a Troubled Debt Restructuring ("TDR"), which are loans on which concessions in terms have been granted because of the borrowers' financial difficulties and, as a result, the Company receives less than the current market-based compensation for the loan. These concessions may include reductions in the interest rate, payment extensions, forgiveness of principal, forbearance, or other actions. Certain TDRs are placed on non-accrual status at the time of restructure and may be returned to accruing status after considering the borrower's sustained repayment performance for a reasonable period, generally six months. When a loan is modified, it is measured based upon the present value of future cash flows discounted at the contractual interest rate of the original loan agreement, or the fair value of collateral less selling costs if the loan is collateral dependent. If the value of the modified loan is less than the recorded investment in the loan, impairment is recognized through a specific allowance or a charge-off of the loan. The Company had $3,851,000 and $4,813,000 in TDR loans as of June 30, 2019 and December 31, 2018, respectively. Specific reserves for TDR loans totaled $281,000 and $405,000 as of June 30, 2019 and December 31, 2018, respectively. TDR loans performing in compliance with modified terms totaled $3,740,000 and $4,622,000 as of June 30, 2019 and December 31, 2018, respectively. There were no commitments to advance additional funds on existing TDR loans as of June 30, 2019 and December 31, 2018. There were no loans modified as TDRs during the three-month periods ended June 30, 2019 and June 30, 2018. Loans modified as TDRs during the six months ended June 30, 2019 were as follows: ($ in thousands) Six Months Ended June 30, 2019 Number of Contracts Pre-modification outstanding recorded investment Post- modification outstanding recorded investment Residential Construction 2 $ 189 $ 189 Total 2 $ 189 $ 189 There were no loans modified as TDRs during the six months ended June 30, 2018. Loan modifications generally involve reductions in the interest rate, payment extensions, forgiveness of principal, or forbearance. There were no loans modified as a TDR within the previous 12 months and for which there was a payment default during the three and six months ended June 30, 2019 and June 30, 2018. Credit Quality Indicators All loans are rated using the credit risk ratings and criteria adopted by the Company. Risk ratings are adjusted as future circumstances warrant. All credits risk rated 1, 2, 3 or 4 equate to a Pass as indicated by Federal and State bank regulatory agencies; a 5 equates to a Special Mention; a 6 equates to Substandard; a 7 equates to Doubtful; and an 8 equates to a Loss. For the definitions of each risk rating, see Note 4 to our consolidated financial statements included in our Annual Report on Form 10-K for the year ended December 31, 2018. The following table presents the risk ratings by loan class as of June 30, 2019 and December 31, 2018: ($ in thousands) Pass Special Mention Substandard Doubtful Loss Total June 30, 2019 Commercial $ 107,663 $ 947 $ 2,432 $ — $ — $ 111,042 Commercial Real Estate 394,747 18,746 8,570 — — 422,063 Agriculture 99,438 7,606 2,396 — — 109,440 Residential Mortgage 55,563 — 545 — — 56,108 Residential Construction 15,529 — — — — 15,529 Consumer 28,597 500 367 — — 29,464 Total $ 701,537 $ 27,799 $ 14,310 $ — $ — $ 743,646 December 31, 2018 Commercial $ 121,848 $ 66 $ 2,813 $ 450 $ — $ 125,177 Commercial Real Estate 395,436 14,272 10,398 — — 420,106 Agriculture 104,809 11,750 7,067 — — 123,626 Residential Mortgage 50,149 — 915 — — 51,064 Residential Construction 19,372 752 — — — 20,124 Consumer 34,272 590 535 — — 35,397 Total $ 725,886 $ 27,430 $ 21,728 $ 450 $ — $ 775,494 Allowance for Loan Losses The following tables detail activity in the allowance for loan losses by loan class for the three and six months ended June 30, 2019. Three months ended June 30, 2019 ($ in thousands) Commercial Commercial Real Estate Agriculture Residential Mortgage Residential Construction Consumer Unallocated Total Balance as of March 31, 2019 $ 2,499 $ 6,386 $ 1,834 $ 502 $ 217 $ 277 $ 1,031 $ 12,746 Provision for loan losses (191 ) 43 79 (82 ) (41 ) (6 ) 198 — Charge-offs — — — — — (8 ) — (8 ) Recoveries 64 — — 16 20 — — 100 Net (charge-offs) recoveries 64 — — 16 20 (8 ) — 92 Balance as of June 30, 2019 $ 2,372 $ 6,429 $ 1,913 $ 436 $ 196 $ 263 $ 1,229 $ 12,838 Six months ended June 30, 2019 ($ in thousands) Commercial Commercial Real Estate Agriculture Residential Mortgage Residential Construction Consumer Unallocated Total Balance as of December 31, 2018 $ 3,198 $ 5,890 $ 1,632 $ 643 $ 318 $ 279 $ 862 $ 12,822 Provision for loan losses (759 ) 539 281 (279 ) (143 ) (6 ) 367 — Charge-offs (150 ) — — — — (15 ) — (165 ) Recoveries 83 — — 72 21 5 — 181 Net (charge-offs) recoveries (67 ) — — 72 21 (10 ) — 16 Balance as of June 30, 2019 $ 2,372 $ 6,429 $ 1,913 $ 436 $ 196 $ 263 $ 1,229 $ 12,838 The following table details the allowance for loan losses allocated to loans individually and collectively evaluated for impairment by loan class as of June 30, 2019. ($ in thousands) Commercial Commercial Real Estate Agriculture Residential Mortgage Residential Construction Consumer Unallocated Total Period-end amount allocated to: Loans individually evaluated for impairment $ 32 $ 20 $ — $ 179 $ 48 $ 2 $ — $ 281 Loans collectively evaluated for impairment 2,340 6,409 1,913 257 148 261 1,229 12,557 Ending Balance $ 2,372 $ 6,429 $ 1,913 $ 436 $ 196 $ 263 $ 1,229 $ 12,838 The following table details activity in the allowance for loan losses by loan class for the three and six months ended June 30, 2018. Three months ended June 30, 2018 ($ in thousands) Commercial Commercial Real Estate Agriculture Residential Mortgage Residential Construction Consumer Unallocated Total Balance as of March 31, 2018 $ 2,549 $ 5,414 $ 1,423 $ 643 $ 348 $ 305 $ 1,033 $ 11,715 Provision for loan losses 654 (30 ) 112 (28 ) 12 — (195 ) 525 Charge-offs (475 ) — — — — (5 ) — (480 ) Recoveries 36 — — 4 1 6 — 47 Net (charge-offs) recoveries (439 ) — — 4 1 1 — (433 ) Balance as of June 30, 2018 $ 2,764 $ 5,384 $ 1,535 $ 619 $ 361 $ 306 $ 838 $ 11,807 Six months ended June 30, 2018 ($ in thousands) Commercial Commercial Real Estate Agriculture Residential Mortgage Residential Construction Consumer Unallocated Total Balance as of December 31, 2017 $ 2,625 $ 5,460 $ 1,547 $ 628 $ 360 $ 342 $ 171 $ 11,133 Provision for loan losses 569 (76 ) (12 ) (29 ) (1 ) (68 ) 667 1,050 Charge-offs (475 ) — — — — (11 ) — (486 ) Recoveries 45 — — 20 2 43 — 110 Net (charge-offs) recoveries (430 ) — — 20 2 32 — (376 ) Balance as of June 30, 2018 $ 2,764 $ 5,384 $ 1,535 $ 619 $ 361 $ 306 $ 838 $ 11,807 The following table details the allowance for loan losses allocated to loans individually and collectively evaluated for impairment by loan class as of June 30, 2018. ($ in thousands) Commercial Commercial Real Estate Agriculture Residential Mortgage Residential Construction Consumer Unallocated Total Period-end amount allocated to: Loans individually evaluated for impairment $ 45 $ 35 $ — $ 304 $ 58 $ 4 $ — $ 446 Loans collectively evaluated for impairment 2,719 5,349 1,535 315 303 302 838 11,361 Ending Balance $ 2,764 $ 5,384 $ 1,535 $ 619 $ 361 $ 306 $ 838 $ 11,807 The following table details activity in the allowance for loan losses and the amount allocated to loans individually and collectively evaluated for impairment as of and for the year ended December 31, 2018. Year ended December 31, 2018 ($ in thousands) Commercial Commercial Real Estate Agriculture Residential Mortgage Residential Construction Consumer Unallocated Total Balance as of December 31, 2017 $ 2,625 $ 5,460 $ 1,547 $ 628 $ 360 $ 342 $ 171 $ 11,133 Provision for loan losses 1,036 572 85 (19 ) (173 ) (92 ) 691 2,100 Charge-offs (509 ) (142 ) — — — (34 ) — (685 ) Recoveries 46 — — 34 131 63 — 274 Net (charge-offs) recoveries (463 ) (142 ) — 34 131 29 — (411 ) Ending Balance $ 3,198 $ 5,890 $ 1,632 $ 643 $ 318 $ 279 $ 862 $ 12,822 Period-end amount allocated to: Loans individually evaluated for impairment $ 496 $ 21 $ — $ 287 $ 49 $ 2 $ — $ 855 Loans collectively evaluated for impairment 2,702 5,869 1,632 356 269 277 862 11,967 Balance as of December 31, 2018 $ 3,198 $ 5,890 $ 1,632 $ 643 $ 318 $ 279 $ 862 $ 12,822 The Company’s investment in loans as of June 30, 2019, June 30, 2018, and December 31, 2018 related to each balance in the allowance for loan losses by loan class and disaggregated on the basis of the Company’s impairment methodology was as follows: ($ in thousands) Commercial Commercial Real Estate Agriculture Residential Mortgage Residential Construction Consumer Total June 30, 2019 Loans individually evaluated for impairment $ 2,347 $ 603 $ — $ 1,015 $ 711 $ 202 $ 4,878 Loans collectively evaluated for impairment 108,695 421,460 109,440 55,093 14,818 29,262 738,768 Ending Balance $ 111,042 $ 422,063 $ 109,440 $ 56,108 $ 15,529 $ 29,464 $ 743,646 June 30, 2018 Loans individually evaluated for impairment $ 2,535 $ 1,922 $ — $ 1,585 $ 637 $ 446 $ 7,125 Loans collectively evaluated for impairment 128,936 390,151 112,457 44,182 22,057 36,751 734,534 Ending Balance $ 131,471 $ 392,073 $ 112,457 $ 45,767 $ 22,694 $ 37,197 $ 741,659 December 31, 2018 Loans individually evaluated for impairment $ 2,902 $ 642 $ 4,830 $ 1,551 $ 560 $ 389 $ 10,874 Loans collectively evaluated for impairment 122,275 419,464 118,796 49,513 19,564 35,008 764,620 Ending Balance $ 125,177 $ 420,106 $ 123,626 $ 51,064 $ 20,124 $ 35,397 $ 775,494 |
