Community Bankers Trust 10Q 2020 Q2 Quarterly report

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, 2020

or

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

	For the transition period from to

Commission File Number: 001-32590

COMMUNITY BANKERS TRUST CORPORATION

(Exact name of registrant as specified in its charter)


Virginia	20-2652949
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification No.)

9954 Mayland Drive, Suite 2100
Richmond, Virginia	23233
(Address of principal executive offices)	(Zip Code)
(804) 934-9999 (Registrant’s telephone number, including area code)

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

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


Title of each class	Trading Symbol	Name of each exchange on which registered:
Common Stock, $0.01 par value	ESXB	The NASDAQ Stock Market, LLC

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

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

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


Large accelerated filer	☐	Accelerated filer	☒
Non-accelerated filer	☐	Smaller reporting company	☒
		Emerging growth company	☐

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

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

At June 30, 2020, there were 22,311,357 shares of the Company’s common stock outstanding.

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COMMUNITY BANKERS TRUST CORPORATION

TABLE OF CONTENTS

FORM 10-Q

June 30, 2020

PART I — FINANCIAL INFORMATION
Item 1. Financial Statements	3
Unaudited Consolidated Balance Sheets	3
Unaudited Consolidated Statements of Income	4
Unaudited Consolidated Statements of Comprehensive Income	5
Unaudited Consolidated Statements of Changes in Shareholders’ Equity	6
Unaudited Consolidated Statements of Cash Flows	7
Notes to Unaudited Consolidated Financial Statements	8
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations	29
Item 3. Quantitative and Qualitative Disclosures About Market Risk	45
Item 4. Controls and Procedures	46
PART II — OTHER INFORMATION
Item 1. Legal Proceedings	46
Item 1A. Risk Factors	46
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds	48
Item 3. Defaults upon Senior Securities	48
Item 4. Mine Safety Disclosures	48
Item 5. Other Information	48
Item 6. Exhibits	48
SIGNATURES	49

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PART I — FINANCIAL INFORMATION

Item 1. Financial Statements

COMMUNITY BANKERS TRUST CORPORATION

UNAUDITED CONSOLIDATED BALANCE SHEETS

AS OF JUNE 30, 2020 AND DECEMBER 31, 2019

(dollars in thousands, except share data)


	June 30, 2020		December 31, 2019 *
ASSETS
Cash and due from banks	$	20,530	$	16,976
Interest bearing bank deposits		64,796		11,708
Total cash and cash equivalents		85,326		28,684

Securities available for sale, at fair value		226,867		186,969
Securities held to maturity, at cost (fair value of $25,282 and $36,633, respectively)		24,169		35,733
Equity securities, restricted, at cost		8,875		8,855
Total securities		259,911		231,557

Loans held for sale		396		501

Loans		1,165,310		1,058,323
Purchased credit impaired (PCI) loans		29,507		32,528
Total loans		1,194,817		1,090,851
Allowance for loan losses (loans of $12,238 and $8,429, respectively; PCI loans of $156 and $156, respectively)		(12,394)		(8,585)
Net loans		1,182,423		1,082,266
				��
Bank premises and equipment, net		28,713		29,472
Bank premises and equipment held for sale		1,589		1,589
Right-of-use lease assets		5,999		6,472
Other real estate owned		4,486		4,527
Bank owned life insurance		29,687		29,340
Other assets		16,474		16,432
Total assets	$	1,615,004	$	1,430,840

LIABILITIES
Deposits:
Noninterest bearing	$	278,780	$	178,584
Interest bearing		1,084,869		984,864
Total deposits		1,363,649		1,163,448

Federal funds purchased		3,268		24,437
Federal Home Loan Bank borrowings		68,167		68,500
Trust preferred capital notes		4,124		4,124
Lease liabilities		6,264		6,737
Other liabilities		8,751		8,115
Total liabilities		1,454,223		1,275,361

SHAREHOLDERS’ EQUITY
Common stock (200,000,000 shares authorized, $0.01 par value; 22,311,357 and 22,422,621 shares issued and outstanding, respectively)		223		224
Additional paid in capital		150,428		150,728
Retained earnings		5,900		2,562
Accumulated other comprehensive income		4,230		1,965
Total shareholders’ equity		160,781		155,479
Total liabilities and shareholders’ equity	$	1,615,004	$	1,430,840

*	Derived from audited consolidated financial statements

See accompanying notes to unaudited consolidated financial statements

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COMMUNITY BANKERS TRUST CORPORATION

UNAUDITED CONSOLIDATED STATEMENTS OF INCOME

FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2020 AND 2019

(dollars and shares in thousands, except per share data)


	Three months ended				Six months ended
	June 30, 2020		June 30, 2019		June 30, 2020		June 30, 2019
Interest and dividend income
Interest and fees on loans	$	13,012	$	12,640	$	26,098	$	25,059
Interest and fees on PCI loans		1,062		1,251		2,159		2,544
Interest on federal funds sold		—		5		—		5
Interest on deposits in other banks		41		117		110		213
Interest and dividends on securities
Taxable		1,287		1,472		2,638		2,994
Nontaxable		349		421		692		897
Total interest and dividend income		15,751		15,906		31,697		31,712
Interest expense
Interest on deposits		3,182		3,589		6,601		6,823
Interest on borrowed funds		209		317		498		764
Total interest expense		3,391		3,906		7,099		7,587
Net interest income		12,360		12,000		24,598		24,125
Provision for loan losses		900		125		4,200		125
Net interest income after provision for loan losses		11,460		11,875		20,398		24,000
Noninterest income
Service charges and fees		532		707		1,204		1,316
Gain on securities transactions, net		242		238		203		224
Gain on sale of other loans		—		—		11		—
Income on bank owned life insurance		173		184		347		365
Mortgage loan income		373		100		594		162
Other		296		222		592		398
Total noninterest income		1,616		1,451		2,951		2,465
Noninterest expense
Salaries and employee benefits		4,613		5,273		9,765		10,654
Occupancy expenses		778		919		1,605		1,849
Equipment expenses		345		394		717		775
FDIC assessment		156		162		281		312
Data processing fees		573		579		1,165		1,147
Other real estate (income) expense, net		(4)		105		2		97
Other operating expenses		1,412		1,559		2,932		2,997
Total noninterest expense		7,873		8,991		16,467		17,831
Income before income taxes		5,203		4,335		6,882		8,634
Income tax expense		1,043		791		1,307		1,587
Net income	$	4,160	$	3,544	$	5,575	$	7,047
Net income per share — basic	$	0.19	$	0.16	$	0.25	$	0.32
Net income per share — diluted	$	0.18	$	0.16	$	0.25	$	0.31
Weighted average number of shares outstanding
Basic		22,304		22,228		22,352		22,185
Diluted		22,508		22,433		22,550		22,432

See accompanying notes to unaudited consolidated financial statements

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COMMUNITY BANKERS TRUST CORPORATION

UNAUDITED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2020 AND 2019

(dollars in thousands)


	Three months ended				Six months ended
	June 30, 2020		June 30, 2019		June 30, 2020		June 30, 2019
Net income	$	4,160	$	3,544	$	5,575	$	7,047

Other comprehensive income:
Unrealized gain on investment securities:
Change in unrealized gain on investment securities		3,010		2,399		3,792		4,603
Tax related to unrealized gain on investment securities		(661)		(527)		(833)		(1,012)
Reclassification adjustment for gain on securities sold		(242)		(238)		(203)		(224)
Tax related to realized gain on securities sold		54		52		45		49
Cash flow hedge:
Change in unrealized loss on cash flow hedge		(129)		(145)		(686)		(239)
Tax related to cash flow hedge		28		32		150		52
Total other comprehensive income		2,060		1,573		2,265		3,229
Total comprehensive income	$	6,220	$	5,117	$	7,840	$	10,276

See accompanying notes to unaudited consolidated financial statements

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COMMUNITY BANKERS TRUST CORPORATION

UNAUDITED CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY

FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2020 AND 2019

(dollars and shares in thousands, except per share amounts)


								Accumulated
				Additional		Retained		Other
	Common Stock			Paid in		Earnings		Comprehensive
	Shares	Amount		Capital		(Deficit)		Income (Loss)		Total


Balance March 31, 2019	22,169	$	222	$	149,115	$	(7,406)	$	377	$	142,308
Issuance of common stock	8		—		53		—		—		53
Exercise and issuance of employee stock options	81		1		584		—		—		585
Net income	—		—		—		3,544		—		3,544
Dividends of $0.03 per share paid on common stock	—		—		—		(667)		—		(667)
Other comprehensive income	—		—		—		—		1,573		1,573
Balance June 30, 2019	22,258	$	223	$	149,752	$	(4,529)	$	1,950	$	147,396

Balance December 31, 2018	22,132	$	221	$	148,763	$	(10,244)	$	(1,279)	$	137,461
Issuance of common stock	14		—		107		—		—		107
Exercise and issuance of employee stock options	112		2		882		—		—		884
Net income	—		—		—		7,047		—		7,047
Dividends of $0.06 per share paid on common stock	—		—		—		(1,332)		—		(1,332)
Other comprehensive income	—		—		—		—		3,229		3,229
Balance June 30, 2019	22,258	$	223	$	149,752	$	(4,529)	$	1,950	$	147,396

Balance March 31, 2020	22,317	$	223	$	150,219	$	2,856	$	2,170	$	155,468
Issuance of common stock	9		—		49		—		—		49
Exercise and issuance of employee stock options	—		—		232		—		—		232
Stock purchased under stock repurchase program	(15)		—		(72)		—				(72)
Net income	—		—		—		4,160		—		4,160
Dividends of $0.05 share paid on common stock	—		—		—		(1,116)		—		(1,116)
Other comprehensive income	—		—		—		—		2,060		2,060
Balance June 30, 2020	22,311	$	223	$	150,428	$	5,900	$	4,230	$	160,781

Balance December 31, 2019	22,423	$	224	$	150,728	$	2,562	$	1,965	$	155,479
Issuance of common stock	15		—		103		—		—		103
Exercise and issuance of employee stock options	4		—		474		—		—		474
Stock purchased under stock repurchase program	(131)		(1)		(877)		—				(878)
Net income	—		—		—		5,575		—		5,575
Dividends of $0.10 per share paid on common stock	—		—		—		(2,237)		—		(2,237)
Other comprehensive income	—		—		—		—		2,265		2,265
Balance June 30, 2020	22,311	$	223	$	150,428	$	5,900	$	4,230	$	160,781

See accompanying notes to unaudited consolidated financial statements

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COMMUNITY BANKERS TRUST CORPORATION

UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS

FOR THE SIX MONTHS ENDED JUNE 30, 2020 AND 2019

(dollars in thousands)


	June 30, 2020		June 30, 2019
Operating activities:
Net income	$	5,575	$	7,047
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation		939		1,061
Leased asset amortization		473		464
Stock-based compensation expense		566		536
Tax benefit of exercised stock options		(6)		(83)
Amortization of purchased loan premium		194		191
Provision for loan losses		4,200		125
Amortization of security premiums and accretion of discounts, net		413		623
Net gain on sale of securities		(203)		(224)
Net gain on sale and valuation of other real estate owned		(6)		(37)
Net gain on sale of loans		(11)		—
Originations of mortgages held for sale		(23,625)		(4,827)
Proceeds from sales of mortgages held for sale		23,730		4,334
Increase in bank owned life insurance investment		(347)		(365)
Changes in assets and liabilities:
Increase in other assets		(334)		(1,486)
Decrease in accrued expenses and other liabilities		(518)		(304)
Net cash provided by operating activities		11,040		7,055

Investing activities:
Proceeds from sales/calls/maturities/paydowns of available for sale securities		34,653		46,366
Proceeds from calls/maturities/paydowns of held to maturity securities		11,520		1,700
Proceeds from sales of restricted equity securities		1,700		866
Purchase of available for sale securities		(71,128)		(47,525)
Purchase of restricted equity securities		(1,720)		(784)
Proceeds from sale of other real estate owned		47		544
Net increase in loans		(105,493)		(29,947)
Principal recoveries of loans previously charged off		321		213
Purchase of premises and equipment, net		(180)		(270)
Purchase small business investment company fund investment		(345)		(525)
Proceeds from sale of loans		632		705
Net cash used in investing activities		(129,993)		(28,657)

Financing activities:
Net increase in deposits		200,201		51,233
Net decrease in federal funds purchased		(21,169)		(19,440)
Net decrease in short-term Federal Home Loan Bank borrowings		—		(10,000)
Proceeds from long-term Federal Home Loan Bank borrowings		40,000		—
Payments on long-term Federal Home Loan Bank borrowings		(40,333)		(751)
Proceeds from issuance of common stock		11		455
Cash dividends paid		(2,237)		(1,332)
Repurchase of common stock		(878)		—
Net cash provided by financing activities		175,595		20,165

Net increase (decrease) in cash and cash equivalents		56,642		(1,437)

Cash and cash equivalents:
Beginning of the period		28,684		34,219
End of the period	$	85,326	$	32,782

Supplemental disclosures of cash flow information:
Interest paid	$	7,284	$	7,469
Income taxes paid		—		1,285
Transfers of loans to other real estate owned		—		392
Right-of-use lease assets in exchange for lease liability		—		7,408

See accompanying notes to unaudited consolidated financial statements

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COMMUNITY BANKERS TRUST CORPORATION

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

Note 1. Nature of Banking Activities and Significant Accounting Policies

Organization

Community Bankers Trust Corporation (the “Company”) is headquartered in Richmond, Virginia and is the holding company for Essex Bank (the “Bank”), a Virginia state bank with 24 full-service offices, 18 of which are in Virginia and 6 of which are in Maryland. The Bank also operates 2 loan production offices.

The Bank engages in a general commercial banking business and provides a wide range of financial services primarily to individuals, small businesses and larger commercial companies, including individual and commercial demand and time deposit accounts, commercial and industrial loans, consumer and small business loans, real estate and mortgage loans, investment services, on-line and mobile banking products, and cash management services.

Financial Statements

The consolidated statements presented include accounts of the Company and the Bank, its wholly-owned subsidiary. All material intercompany balances and transactions have been eliminated. The statements should be read in conjunction with the Company’s consolidated financial statements and the accompanying notes to consolidated financial statements included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019. The accounting and reporting policies of the Company conform to U.S. generally accepted accounting principles (GAAP) and to the general practices within the banking industry. The interim financial statements have not been audited; however, in the opinion of management, all adjustments, consisting of normal accruals, were made that are necessary to present fairly the balance sheet of the Company as of June 30, 2020, the statements of income and comprehensive income and changes in shareholders’ equity for the three and six months ended June 30, 2020, and the statements of cash flows for the six months ended June 30, 2020. Results for the six month period ended June 30, 2020 are not necessarily indicative of the results that may be expected for the year ending December 31, 2020.

The financial information contained within the statements is, to a significant extent, financial information that is based on measures of the financial effects of transactions and events that have already occurred. A variety of factors could affect the ultimate value that is obtained when either earning income, recognizing an expense, recovering an asset or relieving a liability. The Company uses historical loss factors as one factor in determining the inherent loss that may be present in its loan portfolio. Actual losses could differ significantly from the historical factors that the Company uses. In addition, GAAP itself may change from one previously acceptable method to another method. Although the economics of the Company’s transactions would be the same, the timing of events that would impact its transactions could change.

In preparing these financial statements, the Company has evaluated subsequent events and transactions for potential recognition or disclosure through the date the financial statements were issued.

Recent Accounting Developments

In March 2020, various regulatory agencies, including the Board of Governors of the Federal Reserve System and the Federal Deposit Insurance Corporation (the “agencies”), issued an interagency statement on loan modifications and reporting for financial institutions working with customers affected by the coronavirus (COVID-19) pandemic. The interagency statement was effective immediately and impacted accounting for loan modifications. Under Financial Accounting Standards Board (FASB) Accounting Standards Codification (ASC) 310-40, Receivables – Troubled Debt Restructurings by Creditors, a restructuring of debt constitutes a troubled debt restructuring (TDR) if the creditor, for economic or legal reasons related to the debtor’s financial difficulties, grants a concession to the debtor that it would not otherwise consider. The agencies confirmed with the staff of the FASB that short-term modifications made on a good faith basis in response to the impact of COVID-19 to borrowers who were current prior to any relief are not to be considered TDRs. This includes short-term (e.g., six months) modifications such as payment deferrals, fee waivers, extensions of repayment terms, or other delays in payment that are insignificant. Borrowers considered current are those that are less

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than 30 days past due on their contractual payments as of December 31, 2019. This interagency guidance is expected to have a material impact on the Company’s financial statements; however, due to the uncertainties regarding the economic effects of COVID-19, this impact cannot be quantified at this time.

Note 2. Securities

Amortized costs and fair values of securities available for sale and held to maturity at June 30, 2020 and December 31, 2019 were as follows (dollars in thousands):


	June 30, 2020
			Gross Unrealized
	Amortized Cost		Gains		Losses		Fair Value
Securities Available for Sale
U.S. Treasury securities	$	21,750	$	—	$	(1)	$	21,749
U.S. Government agencies		20,700		99		(518)		20,281
State, county and municipal		103,963		5,732		(26)		109,669
Mortgage backed securities		30,391		1,855		(3)		32,243
Asset backed securities		23,467		110		(427)		23,150
Corporate bonds		19,306		475		(6)		19,775
Total Securities Available for Sale	$	219,577	$	8,271	$	(981)	$	226,867

Securities Held to Maturity
State, county and municipal	$	24,169	$	1,113	$	—	$	25,282
Total Securities Held to Maturity	$	24,169	$	1,113	$	—	$	25,282


	December 31, 2019
			Gross Unrealized
	Amortized Cost		Gains		Losses		Fair Value
Securities Available for Sale
U.S. Government agencies	$	22,104	$	51	$	(219)	$	21,936
State, county and municipal		95,467		3,167		(42)		98,592
Mortgage backed securities		48,045		808		(113)		48,740
Asset backed securities		11,637		49		(82)		11,604
Corporate bonds		6,016		84		(3)		6,097
Total Securities Available for Sale	$	183,269	$	4,159	$	(459)	$	186,969

Securities Held to Maturity
U.S. Government agencies	$	10,000	$	—	$	(12)	$	9,988
State, county and municipal		25,733		913		(1)		26,645
Total Securities Held to Maturity	$	35,733	$	913	$	(13)	$	36,633

The amortized cost and fair value of securities at June 30, 2020 by final contractual maturity are shown below. Expected maturities may differ from final contractual maturities because issuers may have the right to call or prepay obligations without any penalties.


	Held to Maturity				Available for Sale
(dollars in thousands)	Amortized Cost		Fair Value		Amortized Cost		Fair Value
Due in one year or less	$	2,713	$	2,733	$	37,627	$	37,790
Due after one year through five years		15,429		16,216		73,790		75,941
Due after five years through ten years		5,776		6,044		84,317		88,756
Due after ten years		251		289		23,843		24,380
Total securities	$	24,169	$	25,282	$	219,577	$	226,867

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Proceeds from sales and calls of securities were $14.4 million and $24.3 million during the three months ended June 30, 2020 and 2019, respectively, and $20.6 million and $41.1 million for the six months ended June 30, 2020 and 2019, respectively. Gains and losses on securities transactions are determined using the specific identification method. Gross realized gains and losses on securities transactions during the three and six months ended June 30, 2020 and 2019 were as follows (dollars in thousands):


	Three months ended				Six months ended
	June 30, 2020		June 30, 2019		June 30, 2020		June 30, 2019
Gross realized gains	$	267	$	364	$	296	$	417
Gross realized losses		(25)		(126)		(93)		(193)
Net securities gain	$	242	$	238	$	203	$	224

In estimating other than temporary impairment (OTTI) losses, management considers the length of time and the extent to which the fair value has been less than cost, the financial condition and short-term prospects for the issuer, and the intent and ability of management to hold its investment for a period of time to allow a recovery in fair value. There were 0 investments held that had OTTI losses for the three and six months ended June 30, 2020 and 2019.

The fair value and gross unrealized losses for securities, segregated by the length of time that individual securities have been in a continuous gross unrealized loss position, at June 30, 2020 and December 31, 2019 were as follows (dollars in thousands):


	June 30, 2020
	Less than 12 Months				12 Months or More				Total
	Fair Value		Unrealized Loss		Fair Value		Unrealized Loss		Fair Value		Unrealized Loss
Securities Available for Sale
U.S. Treasury securities	$	21,749	$	(1)	$	—	$	—	$	21,749	$	(1)
U.S. Government agencies		3,210		(103)		7,381		(415)		10,591		(518)
State, county and municipal		1,111		(13)		304		(13)		1,415		(26)
Mortgage backed securities		1,454		(2)		268		(1)		1,722		(3)
Asset backed securities		12,270		(277)		4,059		(150)		16,329		(427)
Corporate bonds		719		(6)		—		—		719		(6)
Total	$	40,513	$	(402)	$	12,012	$	(579)	$	52,525	$	(981)


	December 31, 2019
	Less than 12 Months				12 Months or More				Total
	Fair Value		Unrealized Loss		Fair Value		Unrealized Loss		Fair Value		Unrealized Loss
Securities Available for Sale
U.S. Government agencies	$	6,396	$	(102)	$	8,020	$	(117)	$	14,416	$	(219)
State, county and municipal		7,088		(32)		308		(10)		7,396		(42)
Mortgage backed securities		11,001		(40)		4,287		(73)		15,288		(113)
Asset backed securities		4,861		(74)		625		(8)		5,486		(82)
Corporate bonds		248		(3)		—		—		248		(3)
Total	$	29,594	$	(251)	$	13,240	$	(208)	$	42,834	$	(459)

Securities Held to Maturity
U.S. Government agencies	$	—	$	—	$	9,988	$	(12)	$	9,988	$	(12)
State, county and municipal		31		—		622		(1)		653		(1)
Total	$	31	$	—	$	10,610	$	(13)	$	10,641	$	(13)

The unrealized losses (impairments) in the investment portfolio at June 30, 2020 and December 31, 2019 are generally a result of market fluctuations of interest rates that occur daily. The unrealized losses are from 46 securities at June 30, 2020. Of those, 28 are investment grade, have U.S. government agency guarantees, or are backed by the full faith and credit of local municipalities throughout the United States. NaN investment grade asset-backed securities comprised of student loan pools, which are 97% U.S. government guaranteed, included in corporate obligations and 1 corporate

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bond make up the remaining securities with unrealized losses at June 30, 2020. The Company considers the reason for impairment, length of impairment, and ability and intent to hold until the full value is recovered in determining if the impairment is temporary in nature. Based on this analysis, the Company has determined these impairments to be temporary in nature. The Company does not intend to sell, and it is more likely than not that the Company will not be required to sell, these securities until they recover in value or reach maturity.

Market prices are affected by conditions beyond the control of the Company. Investment decisions are made by the management group of the Company and reflect the overall liquidity and strategic asset/liability objectives of the Company. Management analyzes the securities portfolio frequently and manages the portfolio to provide an overall positive impact to the Company’s income statement and balance sheet.

Securities with amortized costs of $45.1 million and $47.3 million at June 30, 2020 and December 31, 2019, respectively, were pledged to secure public deposits as required or permitted by law. Securities with amortized costs of $5.7 million and $5.8 million at June 30, 2020 and December 31, 2019, respectively, were pledged to secure lines of credit at the Federal Reserve discount window. At each of June 30, 2020 and December 31, 2019, there were 0 securities purchased from a single issuer, other than U.S. Treasury securities and other U.S. Government agencies that comprised more than 10% of the consolidated shareholders’ equity.

Note 3. Loans and Related Allowance for Loan Losses

The Company’s loans, net of deferred fees and costs, at June 30, 2020 and December 31, 2019 were comprised of the following (dollars in thousands):


	June 30, 2020				December 31, 2019
	Amount		% of Loans		Amount		% of Loans
Mortgage loans on real estate:
Residential 1‑4 family	$	205,787	17.66	%	$	223,538	21.12	%
Commercial		443,923	38.09			396,858	37.50
Construction and land development		151,529	13.00			146,566	13.85
Second mortgages		6,136	0.53			6,639	0.63
Multifamily		76,587	6.57			72,978	6.90
Agriculture		7,122	0.61			8,346	0.79
Total real estate loans		891,084	76.46			854,925	80.79
Commercial loans		262,955	22.57			191,183	18.06
Consumer installment loans		10,257	0.88			11,163	1.05
All other loans		1,014	0.09			1,052	0.10
Total loans	$	1,165,310	100.00	%	$	1,058,323	100.00	%

The Company held $12.0 million and $12.7 million in balances of loans guaranteed by the United States Department of Agriculture (USDA), which are included in various categories in the table above, at June 30, 2020 and December 31, 2019, respectively. As these loans are 100% guaranteed by the USDA, 0 loan loss allowance is required. These loan balances included a purchase premium of $940,000 and $1.0 million at June 30, 2020 and December 31, 2019, respectively. The purchase premium is amortized as an adjustment of the related loan yield on a straight line basis, which is substantially equivalent to the results obtained using the effective interest method. Any unamortized purchase premium remaining on loans prepaid by the borrower is written off.

During the second quarter of 2020, the Company originated loans under the Paycheck Protection Program (PPP) of the Small Business Administration (SBA). These PPP loans totaled $83.5 million at June 30, 2020 and are included in commercial loans. As these loans are 100% guaranteed by the SBA, 0 loan loss allowance is required. The majority of the PPP loans have a two year term; however, most are expected to be forgiven by the SBA as borrowers use the funds for qualified expenses. These loan balances included net fees of $2.3 million at June 30, 2020, which are being amortized as an adjustment of the related loan yield on a straight line basis, which is substantially equivalent to the results obtained using the effective interest method. Any unamortized fee remaining on loans forgiven or prepaid by the borrower is recorded as income.

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At June 30, 2020 and December 31, 2019, the Company’s allowance for loan losses was comprised of the following: (i) a specific valuation component calculated in accordance with FASB ASC 310, Receivables, (ii) a general valuation component calculated in accordance with FASB ASC 450, Contingencies, based on historical loan loss experience, current economic conditions and other qualitative risk factors, and (iii) an unallocated component to cover uncertainties that could affect management’s estimate of probable losses. Management identified loans subject to impairment in accordance with FASB ASC 310.

The following table summarizes information related to impaired loans as of and for the three and six months ended June 30, 2020 (dollars in thousands):


							Three months ended				Six months ended
	June 30, 2020						June 30, 2020				June 30, 2020
			Unpaid
	Recorded		Principal		Related		Average		Interest		Average		Interest
	Investment ⁽¹⁾		Balance ⁽²⁾		Allowance		Investment		Recognized		Investment		Recognized
With no related allowance recorded:
Mortgage loans on real estate:
Residential 1‑4 family	$	1,145	$	1,501	$	—	$	1,152	$	10	$	1,263	$	21
Commercial		3,534		4,247		—		3,114		34		3,151		68
Construction and land development		—		—		—		164		—		219		—
Multifamily		—		—		—		—		—		821		—
Total real estate loans		4,679		5,748		—		4,430		44		5,454		89
Commercial loans		350		964		—		175		—		117		—
Subtotal impaired loans with no valuation allowance		5,029		6,712		—		4,605		44		5,571		89
With an allowance recorded:
Mortgage loans on real estate:
Residential 1‑4 family		2,123		2,541		574		2,003		11		1,834		22
Commercial		86		555		23		92		2		187		4
Construction and land development		1,122		1,224		315		1,286		—		873		—
Agriculture		51		51		13		26		—		17		—
Total real estate loans		3,382		4,371		925		3,407		13		2,911		26
Commercial loans		700		700		184		1,164		3		928		7
Consumer installment loans		12		12		3		11		—		10		—
Subtotal impaired loans with a valuation allowance		4,094		5,083		1,112		4,582		16		3,849		33
Total:
Mortgage loans on real estate:
Residential 1‑4 family		3,268		4,042		574		3,155		21		3,097		43
Commercial		3,620		4,802		23		3,206		36		3,338		72
Construction and land development		1,122		1,224		315		1,450		—		1,092		—
Multifamily		—		—		—		—		—		821		—
Agriculture		51		51		13		26		—		17		—
Total real estate loans		8,061		10,119		925		7,837		57		8,365		115
Commercial loans		1,050		1,664		184		1,339		3		1,045		7
Consumer installment loans		12		12		3		11		—		10		—
Total impaired loans	$	9,123	$	11,795	$	1,112	$	9,187	$	60	$	9,420	$	122

(1)	The amount of the investment in a loan, which is not net of a valuation allowance, but which does reflect any direct write-down of the investment.

(2)	The contractual amount due, which reflects paydowns applied in accordance with loan documents, but which does not reflect any direct write-downs or valuation allowances.

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The following table summarizes information related to impaired loans as of December 31, 2019 and for the three and six months ended June 30, 2019 (dollars in thousands):


							Three months ended				Six months ended
	December 31, 2019						June 30, 2019				June 30, 2019
			Unpaid
	Recorded		Principal		Related		Average		Interest		Average		Interest
	Investment ⁽¹⁾		Balance ⁽²⁾		Allowance		Investment		Recognized		Investment		Recognized
With no related allowance recorded:
Mortgage loans on real estate:
Residential 1‑4 family	$	1,483	$	1,850	$	—	$	1,534	$	11	$	1,543	$	21
Commercial		3,226		3,966		—		3,349		35		3,400		69
Construction and land development		328		328		—		—		—		—		—
Multifamily		2,463		2,463		—		2,539		—		2,546		—
Total real estate loans		7,500		8,607		—		7,422		46		7,489		90
Subtotal impaired loans with no valuation allowance		7,500		8,607		—		7,422		46		7,489		90
With an allowance recorded:
Mortgage loans on real estate:
Residential 1‑4 family		1,498		1,808		380		2,133		12		2,133		24
Commercial		378		876		87		722		2		998		4
Construction and land development		48		147		11		4,096		—		4,254		—
Total real estate loans		1,924		2,831		478		6,951		14		7,385		28
Commercial loans		454		460		105		1,822		5		1,875		9
Consumer installment loans		7		7		1		6		—		4		—
Subtotal impaired loans with a valuation allowance		2,385		3,298		584		8,779		19		9,264		37
Total:
Mortgage loans on real estate:
Residential 1‑4 family		2,981		3,658		380		3,667		23		3,676		45
Commercial		3,604		4,842		87		4,071		37		4,398		73
Construction and land development		376		475		11		4,096		—		4,254		—
Multifamily		2,463		2,463		—		2,539		—		2,546		—
Total real estate loans		9,424		11,438		478		14,373		60		14,874		118
Commercial loans		454		460		105		1,822		5		1,875		9
Consumer installment loans		7		7		1		6		—		4		—
Total impaired loans	$	9,885	$	11,905	$	584	$	16,201	$	65	$	16,753	$	127

(1)	The amount of the investment in a loan, which is not net of a valuation allowance, but which does reflect any direct write-down of the investment.

(2)	The contractual amount due, which reflects paydowns applied in accordance with loan documents, but which does not reflect any direct write-downs or valuation allowances.

Troubled debt restructures still accruing interest are loans that management expects to ultimately collect all principal and interest due, but not under the terms of the original contract. A reconciliation of impaired loans to nonaccrual loans at June 30, 2020 and December 31, 2019, is set forth in the table below (dollars in thousands):


	June 30, 2020		December 31, 2019
Nonaccruals	$	4,225	$	5,292
Trouble debt restructure and still accruing		4,898		4,593
Total impaired	$	9,123	$	9,885

Interest income on nonaccrual loans, if recognized, is recorded using the cash basis method of accounting. There was an insignificant amount of cash basis income recognized during the three and six months ended June 30, 2020 and 2019. For the three months ended June 30, 2020 and 2019, estimated interest income of $100,000 and $196,000, respectively, would have been recorded if all such loans had been accruing interest according to their original contractual terms. For the six months ended June 30, 2020 and 2019, estimated interest income of $168,000 and $410,000, respectively, would have been recorded if all such loans had been accruing interest according to their original contractual terms.

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The following tables present an age analysis of past due status of loans by category as of June 30, 2020 and December 31, 2019 (dollars in thousands):


	June 30, 2020
	30‑89 Days		90+ Days Past				Total Past				Total Loans
	Past Due		Due and Accruing		Nonaccrual		Due		Current		Receivable
Mortgage loans on real estate:
Residential 1‑4 family	$	1,999	$	—	$	1,697	$	3,696	$	202,091	$	205,787
Commercial		230		—		636		866		443,057		443,923
Construction and land development		—		—		1,122		1,122		150,407		151,529
Second mortgages		229		—		—		229		5,907		6,136
Multifamily		—		—		—		—		76,587		76,587
Agriculture		—		—		51		51		7,071		7,122
Total real estate loans		2,458		—		3,506		5,964		885,120		891,084
Commercial loans		362		—		707		1,069		261,886		262,955
Consumer installment loans		21		—		12		33		10,224		10,257
All other loans		—		—		—		—		1,014		1,014
Total loans	$	2,841	$	—	$	4,225	$	7,066	$	1,158,244	$	1,165,310


	December 31, 2019
	30‑89 Days		90+ Days Past				Total Past				Total Loans
	Past Due		Due and Accruing		Nonaccrual		Due		Current		Receivable
Mortgage loans on real estate:
Residential 1‑4 family	$	1,308	$	—	$	1,378	$	2,686	$	220,852	$	223,538
Commercial		552		—		1,006		1,558		395,300		396,858
Construction and land development		166		—		376		542		146,024		146,566
Second mortgages		229		—		—		229		6,410		6,639
Multifamily		—		—		2,463		2,463		70,515		72,978
Agriculture		—		—		—		—		8,346		8,346
Total real estate loans		2,255		—		5,223		7,478		847,447		854,925
Commercial loans		1,085		946		62		2,093		189,090		191,183
Consumer installment loans		41		—		7		48		11,115		11,163
All other loans		—		—		—		—		1,052		1,052
Total loans	$	3,381	$	946	$	5,292	$	9,619	$	1,048,704	$	1,058,323

Activity in the allowance for loan losses on loans by segment for the three and six months ended June 30, 2020 and 2019 is presented in the following tables (dollars in thousands):


	Three Months Ended June 30, 2020
			Provision
	March 31, 2020		Allocation		Charge-offs		Recoveries		June 30, 2020
Mortgage loans on real estate:
Residential 1‑4 family	$	2,935	$	547	$	—	$	13	$	3,495
Commercial		4,240		337		—		35		4,612
Construction and land development		1,354		(13)		—		1		1,342
Second mortgages		70		(26)		—		1		45
Multifamily		267		232		—		—		499
Agriculture		45		(1)		—		—		44
Total real estate loans		8,911		1,076		—		50		10,037
Commercial loans		2,546		37		(589)		64		2,058
Consumer installment loans		111		5		(29)		23		110
All other loans		8		—		—		—		8
Unallocated		243		(218)		—		—		25
Total loans	$	11,819	$	900	$	(618)	$	137	$	12,238

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	Three Months Ended June 30, 2019
			Provision
	March 31, 2019		Allocation		Charge-offs		Recoveries		June 30, 2019
Mortgage loans on real estate:
Residential 1‑4 family	$	3,339	$	(426)	$	(34)	$	15	$	2,894
Commercial		1,508		461		—		57		2,026
Construction and land development		1,210		154		—		35		1,399
Second mortgages		62		18		—		1		81
Multifamily		361		(169)		—		—		192
Agriculture		23		(23)		—		—		—
Total real estate loans		6,503		15		(34)		108		6,592
Commercial loans		1,958		86		(28)		2		2,018
Consumer installment loans		188		12		(40)		25		185
All other loans		6		15		—		—		21
Unallocated		6		(3)		—		—		3
Total loans	$	8,661	$	125	$	(102)	$	135	$	8,819


	Six Months Ended June 30, 2020
			Provision
	December 31, 2019		Allocation		Charge-offs		Recoveries		June 30, 2020
Mortgage loans on real estate:
Residential 1‑4 family	$	2,685	$	781	$	—	$	29	$	3,495
Commercial		2,196		2,337		—		79		4,612
Construction and land development		1,044		214		—		84		1,342
Second mortgages		79		(36)		—		2		45
Multifamily		248		251		—		—		499
Agriculture		38		6		—		—		44
Total real estate loans		6,290		3,553		—		194		10,037
Commercial loans		1,980		619		(608)		67		2,058
Consumer installment loans		114		40		(104)		60		110
All other loans		7		1		—		—		8
Unallocated		38		(13)		—		—		25
Total loans	$	8,429	$	4,200	$	(712)	$	321	$	12,238


	Six Months Ended June 30, 2019
			Provision
	December 31, 2018		Allocation		Charge-offs		Recoveries		June 30, 2019
Mortgage loans on real estate:
Residential 1‑4 family	$	2,281	$	429	$	(34)	$	218	$	2,894
Commercial		1,810		429		(277)		64		2,026
Construction and land development		1,161		197		(12)		53		1,399
Second mortgages		20		58		—		3		81
Multifamily		371		(179)		—		—		192
Agriculture		17		(17)		—		—		—
Total real estate loans		5,660		917		(323)		338		6,592
Commercial loans		1,894		377		(257)		4		2,018
Consumer installment loans		152		84		(100)		49		185
All other loans		12		9		—		—		21
Unallocated		1,265		(1,262)		—		—		3
Total loans	$	8,983	$	125	$	(680)	$	391	$	8,819

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The increase in provision expense reflects the significant increase in commercial real estate and commercial loans classified as special mention due to the possible economic impact COVID-19 may have on these borrowers. The allowance for loan losses could be further impacted by COVID-19; however, the amount of that impact is not currently estimable.

The following tables present information on the loans evaluated for impairment in the allowance for loan losses as of June 30, 2020 and December 31, 2019 (dollars in thousands):


	June 30, 2020
	Allowance for Loan Losses						Recorded Investment in Loans
	Individually		Collectively				Individually		Collectively
	Evaluated for		Evaluated for				Evaluated for		Evaluated for
	Impairment		Impairment		Total		Impairment		Impairment		Total
Mortgage loans on real estate:
Residential 1‑4 family	$	574	$	2,921	$	3,495	$	3,268	$	202,519	$	205,787
Commercial		23		4,589		4,612		3,620		440,303		443,923
Construction and land development		315		1,027		1,342		1,122		150,407		151,529
Second mortgages		—		45		45		—		6,136		6,136
Multifamily		—		499		499		—		76,587		76,587
Agriculture		13		31		44		51		7,071		7,122
Total real estate loans		925		9,112		10,037		8,061		883,023		891,084
Commercial loans		184		1,874		2,058		1,050		261,905		262,955
Consumer installment loans		3		107		110		12		10,245		10,257
All other loans		—		8		8		—		1,014		1,014
Unallocated		—		25		25		—		—		—
Total loans	$	1,112	$	11,126	$	12,238	$	9,123	$	1,156,187	$	1,165,310


	December 31, 2019
	Allowance for Loan Losses						Recorded Investment in Loans
	Individually		Collectively				Individually		Collectively
	Evaluated for		Evaluated for				Evaluated for		Evaluated for
	Impairment		Impairment		Total		Impairment		Impairment		Total
Mortgage loans on real estate:
Residential 1‑4 family	$	380	$	2,305	$	2,685	$	2,981	$	220,557	$	223,538
Commercial		87		2,109		2,196		3,604		393,254		396,858
Construction and land development		11		1,033		1,044		376		146,190		146,566
Second mortgages		—		79		79		—		6,639		6,639
Multifamily		—		248		248		2,463		70,515		72,978
Agriculture		—		38		38		—		8,346		8,346
Total real estate loans		478		5,812		6,290		9,424		845,501		854,925
Commercial loans		105		1,875		1,980		454		190,729		191,183
Consumer installment loans		1		113		114		7		11,156		11,163
All other loans		—		7		7		—		1,052		1,052
Unallocated		—		38		38		—		—		—
Total loans	$	584	$	7,845	$	8,429	$	9,885	$	1,048,438	$	1,058,323

Loans are monitored for credit quality on a recurring basis. These credit quality indicators are defined as follows:

Pass - A pass loan is not adversely classified, as it does not display any of the characteristics for adverse classification. This category includes purchased loans that are 100% guaranteed by U.S. Government agencies of $12.0 million and $12.7 million at June 30, 2020 and December 31, 2019, respectively and PPP loans 100% guaranteed by the SBA of $83.5 million at June 30, 2020.

Special Mention - A special mention loan has potential weaknesses that deserve management’s close attention. If left uncorrected, such potential weaknesses may result in deterioration of the repayment prospects or collateral position at some future date. Special mention loans are not adversely classified and do not warrant adverse classification.

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Substandard - A substandard loan is inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any. Loans classified as substandard generally have a well-defined weakness, or weaknesses, that jeopardize the liquidation of the debt. These loans are characterized by the distinct possibility of loss if the deficiencies are not corrected.

Doubtful - A doubtful loan has all the weaknesses inherent in a loan classified as substandard with the added characteristics that the weaknesses make collection or liquidation in full, highly questionable and improbable, on the basis of currently existing facts, conditions, and values. The possibility of loss is extremely high.

The following tables present the composition of loans by credit quality indicator at June 30, 2020 and December 31, 2019 (dollars in thousands):


	June 30, 2020
			Special
	Pass		Mention		Substandard		Doubtful		Total
Mortgage loans on real estate:
Residential 1‑4 family	$	191,802	$	12,544	$	1,441	$	—	$	205,787
Commercial		318,456		123,432		2,035		—		443,923
Construction and land development		148,857		1,550		1,122		—		151,529
Second mortgages		5,156		980		—		—		6,136
Multifamily		69,930		6,657		—		—		76,587
Agriculture		6,653		418		51		—		7,122
Total real estate loans		740,854		145,581		4,649		—		891,084
Commercial loans		216,060		41,394		5,501		—		262,955
Consumer installment loans		10,198		47		12		—		10,257
All other loans		998		16		—		—		1,014
Total loans	$	968,110	$	187,038	$	10,162	$	—	$	1,165,310


	December 31, 2019
			Special
	Pass		Mention		Substandard		Doubtful		Total
Mortgage loans on real estate:
Residential 1‑4 family	$	219,210	$	2,964	$	1,364	$	—	$	223,538
Commercial		391,251		3,188		2,419		—		396,858
Construction and land development		145,782		408		376		—		146,566
Second mortgages		6,096		543		—		—		6,639
Multifamily		70,515		—		2,463		—		72,978
Agriculture		8,098		248		—		—		8,346
Total real estate loans		840,952		7,351		6,622		—		854,925
Commercial loans		185,123		2,770		3,290		—		191,183
Consumer installment loans		11,140		16		7		—		11,163
All other loans		1,052		—		—		—		1,052
Total loans	$	1,038,267	$	10,137	$	9,919	$	—	$	1,058,323

In accordance with FASB Accounting Standards Update (ASU) 2011-02, Receivables (Topic 310): A Creditor’s Determination of Whether a Restructuring is a Troubled Debt Restructuring, the Company assesses all loan modifications to determine whether they are considered troubled debt restructurings (TDRs) under the guidance. The Company had 19 and 25 loans that met the definition of a TDR at June 30, 2020 and 2019, respectively.

During the three and six months ended June 30, 2020, the Company modified 1 commercial real estate loan that was considered to be a TDR. The Company granted the borrower six months interest only payment relief and no other changes were made to the loan structure. The loan is 100% guaranteed by the USDA and had a pre- and post-modification balance of $438,000. The Company had 0 loan modifications considered to be TDRs during the three and six months ended June 30, 2019.

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A loan is considered to be in default if it is 90 days or more past due. There were 0 TDRs that had been restructured during the previous 12 months that resulted in default during the three and six months ended June 30, 2020. There were 0 TDRs that had been restructured during the previous 12 months that resulted in default during the three months ended June 30, 2019. During the six months ended June 30, 2019, 1 loan defaulted that had been restructured during the previous 12 months prior to the default. This multifamily real estate loan had a recorded investment of $2.6 million.

In the determination of the allowance for loan losses, management considers TDRs and subsequent defaults in these restructures by reviewing for impairment in accordance with FASB ASC 310-10-35, Receivables, Subsequent Measurement.

At June 30, 2020, the Company had 1-4 family mortgages in the amount of $94.2 million pledged as collateral to the Federal Home Loan Bank for a total borrowing capacity of $77.4 million.

Note 4. PCI Loans and Related Allowance for Loan Losses

On January 30, 2009, the Company entered into a Purchase and Assumption Agreement with the Federal Deposit Insurance Corporation (FDIC) to assume all of the deposits and certain other liabilities and acquire substantially all assets of Suburban Federal Savings Bank (SFSB). The Company is applying the provisions of FASB ASC 310-30, Loans and Debt Securities Acquired with Deteriorated Credit Quality, to all loans acquired in the SFSB transaction (the “PCI loans”). Of the total $198.3 million in loans acquired, $49.1 million met the criteria of FASB ASC 310-30. These loans, consisting mainly of construction loans, were deemed impaired at the acquisition date. The remaining $149.1 million of loans acquired, comprised mainly of residential 1-4 family, were analogized to meet the criteria of FASB ASC 310-30. Analysis of this portfolio revealed that SFSB utilized weak underwriting and documentation standards, which led the Company to believe that significant losses were probable given the economic environment at the time.

As of June 30, 2020 and December 31, 2019, the outstanding contractual balance of the PCI loans was $49.2 million and $53.2 million, respectively. The carrying amount, by loan type, as of these dates is as follows (dollars in thousands):


	June 30, 2020				December 31, 2019
			% of PCI				% of PCI
	Amount		Loans		Amount		Loans
Mortgage loans on real estate:
Residential 1‑4 family	$	26,531	89.91	%	$	29,465	90.58	%
Commercial		470	1.59			490	1.51
Construction and land development		1,127	3.82			1,172	3.60
Second mortgages		1,156	3.92			1,169	3.59
Multifamily		223	0.76			232	0.72
Total real estate loans		29,507	100.00			32,528	100.00
Total PCI loans	$	29,507	100.00	%	$	32,528	100.00	%

There was 0 activity in the allowance for loan losses on PCI loans for the three and six months ended June 30, 2020 and 2019.

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The following table presents information on the PCI loans collectively evaluated for impairment in the allowance for loan losses at June 30, 2020 and December 31, 2019 (dollars in thousands):


	June 30, 2020				December 31, 2019
	Allowance		Recorded				Recorded
	for loan		investment in		Allowance for		investment in
	losses		loans		loan losses		loans
Mortgage loans on real estate:
Residential 1‑4 family	$	156	$	26,531	$	156	$	29,465
Commercial		—		470		—		490
Construction and land development		—		1,127		—		1,172
Second mortgages		—		1,156		—		1,169
Multifamily		—		223		—		232
Total real estate loans		156		29,507		156		32,528
Total PCI loans	$	156	$	29,507	$	156	$	32,528

The change in the accretable yield balance for the six months ended June 30, 2020 and the year ended December 31, 2019, is as follows (dollars in thousands):



Balance, January 1, 2019	$	38,107
Accretion		(6,010)
Reclassification from nonaccretable difference		1,369
Balance, December 31, 2019	$	33,466
Accretion		(2,150)
Reclassification from nonaccretable difference		61
Balance, June 30, 2020	$	31,377

The PCI loans were not classified as nonperforming assets as of June 30, 2020, as the loans are accounted for on a pooled basis, and interest income, through accretion of the difference between the carrying amount of the loans and the expected cash flows, is being recognized on all PCI loans.

Note 5. Other Real Estate Owned

The following table presents the balances of other real estate owned at June 30, 2020 and December 31, 2019 (dollars in thousands):


	June 30, 2020		December 31, 2019
Residential 1‑4 family	$	21	$	21
Construction and land development		4,465		4,506
Total other real estate owned	$	4,486	$	4,527

At June 30, 2020, there were 0 residential 1-4 family loans or PCI loans that were in the process of foreclosure.

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Note 6. Deposits

The following table provides interest bearing deposit information, by type, at June 30, 2020 and December 31, 2019 (dollars in thousands):


	June 30, 2020		December 31, 2019
Interest bearing checking	$	195,441	$	—
NOW		—		170,532
MMDA		148,050		120,841
Savings		108,602		96,570
Time deposits less than or equal to $250,000		492,749		477,461
Time deposits over $250,000		140,027		119,460
Total interest bearing deposits	$	1,084,869	$	984,864

Effective January 1, 2020, the Company re-classified all NOW accounts to interest bearing checking accounts, thereby eliminating the seven days withdrawal notification requirement imposed on NOW accounts.

Note 7. Accumulated Other Comprehensive Income

The following tables present activity net of tax in accumulated other comprehensive income (AOCI) for the three and six months ended June 30, 2020 and 2019 (dollars in thousands):


	Three months ended June 30, 2020
	Unrealized		Defined		Gain (Loss) on		Total Other
	Gain (Loss) on		Benefit		Cash Flow		Comprehensive
	Securities		Pension Plan		Hedge		Income (Loss)

Beginning balance	$	3,527	$	(886)	$	(471)	$	2,170
Other comprehensive income (loss) before reclassifications		2,349		—		(101)		2,248
Amounts reclassified from AOCI		(188)		—		—		(188)
Net current period other comprehensive income (loss)		2,161		—		(101)		2,060
Ending balance	$	5,688	$	(886)	$	(572)	$	4,230


	Three months ended June 30, 2019
	Unrealized		Defined		Gain (Loss) on		Total Other
	Gain (Loss) on		Benefit		Cash Flow		Comprehensive
	Securities		Pension Plan		Hedge		Income (Loss)

Beginning balance	$	1,112	$	(857)	$	122	$	377
Other comprehensive income (loss) before reclassifications		1,872		—		(113)		1,759
Amounts reclassified from AOCI		(186)		—		—		(186)
Net current period other comprehensive income (loss)		1,686		—		(113)		1,573
Ending balance	$	2,798	$	(857)	$	9	$	1,950

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	Six months ended June 30, 2020
	Unrealized		Defined		Gain (Loss) on		Total Other
	Gain (Loss) on		Benefit		Cash Flow		Comprehensive
	Securities		Pension Plan		Hedge		Income (Loss)

Beginning balance	$	2,887	$	(886)	$	(36)	$	1,965
Other comprehensive income (loss) before reclassifications		2,959		—		(536)		2,423
Amounts reclassified from AOCI		(158)		—		—		(158)
Net current period other comprehensive income (loss)		2,801		—		(536)		2,265
Ending balance	$	5,688	$	(886)	$	(572)	$	4,230


	Six months ended June 30, 2019
	Unrealized		Defined		Gain (Loss) on		Total Other
	Gain (Loss) on		Benefit		Cash Flow		Comprehensive
	Securities		Pension Plan		Hedge		Income (Loss)

Beginning balance	$	(618)	$	(857)	$	196	$	(1,279)
Other comprehensive income (loss) before reclassifications		3,591		—		(187)		3,404
Amounts reclassified from AOCI		(175)		—		—		(175)
Net current period other comprehensive income (loss)		3,416		—		(187)		3,229
Ending balance	$	2,798	$	(857)	$	9	$	1,950

The following tables present the effects of reclassifications out of AOCI on line items of consolidated income for the three and six months ended June 30, 2020 and 2019 (dollars in thousands):


					Affected Line Item in the Unaudited Consolidated
Details about AOCI Components	Amount Reclassified from AOCI				Statement of Income
	Three months ended
	June 30, 2020		June 30, 2019
Securities available for sale:
Unrealized gains on securities available for sale	$	(242)	$	(238)	Gain on securities transactions, net
Related tax expense		54		52	Income tax expense
	$	(188)	$	(186)	Net of tax


					Affected Line Item in the Unaudited Consolidated
Details about AOCI Components	Amount Reclassified from AOCI				Statement of Income
	Six months ended
	June 30, 2020		June 30, 2019
Securities available for sale:
Unrealized gains on securities available for sale	$	(203)	$	(224)	Gain on securities transactions, net
Related tax expense		45		49	Income tax expense
	$	(158)	$	(175)	Net of tax

Note 8. Fair Values of Assets and Liabilities

FASB ASC 820, Fair Value Measurements and Disclosures, defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. FASB ASC 820 requires that

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valuation techniques maximize the use of observable inputs and minimize the use of unobservable inputs and also establishes a fair value hierarchy that prioritizes the valuation inputs into three broad levels. The Company groups assets and liabilities at fair value in three levels, based on the markets in which the assets and liabilities are traded and the reliability of the assumptions used to determine fair value. These levels are:

●

Level 1—Valuation is based upon quoted prices for identical instruments traded in active markets.

●

Level 2—Valuation is based upon quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model-based valuation techniques for which all significant assumptions are observable in the market or can be corroborated by observable market data for substantially the full term of the assets or liabilities.

●

Level 3—Valuation is determined using model-based techniques with significant assumptions not observable in the market. These unobservable assumptions reflect the Company’s own estimates of assumptions that market participants would use in pricing the asset or liability. Valuation techniques include the use of third party pricing services, option pricing models, discounted cash flow models and similar techniques.

FASB ASC 825, Financial Instruments, allows an entity the irrevocable option to elect fair value for the initial and subsequent measurement for certain financial assets and liabilities on a contract-by-contract basis. The Company has not made any material FASB ASC 825 elections as of June 30, 2020.

Assets and Liabilities Recorded at Fair Value on a Recurring Basis

The Company utilizes fair value measurements to record adjustments to certain assets to determine fair value disclosures. Securities available for sale and the cash flow hedge are recorded at fair value on a recurring basis. The tables below present the recorded amount of assets and liabilities measured at fair value on a recurring basis (dollars in thousands):


	June 30, 2020
	Total		Level 1		Level 2		Level 3
Investment securities available for sale
U.S. Treasury securities	$	21,749	$	21,749	$	—	$	—
U.S. Government agencies		20,281		—		20,281		—
State, county and municipal		109,669		1,622		108,047		—
Mortgage backed securities		32,243		—		32,243		—
Asset backed securities		23,150		—		23,150		—
Corporate bonds		19,775		5,558		14,217		—
Total investment securities available for sale		226,867		28,929		197,938		—
Total assets at fair value	$	226,867	$	28,929	$	197,938	$	—
Cash flow hedge liability	$	730		—	$	730		—
Total liabilities at fair value	$	730	$	—	$	730	$	—

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	December 31, 2019
	Total		Level 1		Level 2		Level 3
Investment securities available for sale
U.S. Government agencies	$	21,936	$	—	$	21,936	$	—
State, county and municipal		98,592		10,072		88,520		—
Mortgage backed securities		48,740		1,181		47,559		—
Asset backed securities		11,604		—		11,604		—
Corporate bonds		6,097		—		6,097		—
Total investment securities available for sale		186,969		11,253		175,716		—
Total assets at fair value	$	186,969	$	11,253	$	175,716	$	—
Cash flow hedge liability		44		—	$	44		—
Total liabilities at fair value	$	44	$	—	$	44	$	—

Investment securities available for sale

Investment securities available for sale are recorded at fair value each reporting period. Fair value measurement is based upon quoted prices, if available (Level 1). 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 2).

The Company utilizes a third party vendor to provide fair value data for purposes of determining the fair value of its available for sale securities portfolio. The third party vendor uses reputable pricing companies for security market data. The third party vendor has controls in place for month-to-month market checks and zero pricing, and a Statement on Standards for Attestation Engagements No. 18 report is obtained from the third party vendor on an annual basis. The Company makes no adjustments to the pricing service data received for its securities available for sale.

Cash flow hedge

The fair values of interest rate swaps are determined using the market standard methodology of netting the discounted future fixed cash receipts (or payments) and the discounted expected variable cash payments (or receipts). The variable cash payments (or receipts) are based on an expectation of future interest rates (forward curves) derived from observable market interest rate curves.

Assets and Liabilities Measured at Fair Value on a Nonrecurring Basis

The Company is also required to measure and recognize certain other financial assets at fair value on a nonrecurring basis on the consolidated balance sheet. The following tables present assets measured at fair value on a nonrecurring basis as of June 30, 2020 and December 31, 2019 (dollars in thousands):


	June 30, 2020
	Total		Level 1		Level 2		Level 3
Impaired loans	$	3,795	$	—	$	—	$	3,795
Loans held for sale		396		—		396		—
Bank premises and equipment held for sale		1,589		—		—		1,589
Other real estate owned		4,486		—		—		4,486
Total assets at fair value	$	10,266	$	—	$	396	$	9,870
Total liabilities at fair value	$	—	$	—	$	—	$	—

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	December 31, 2019
	Total		Level 1		Level 2		Level 3
Impaired loans	$	3,020	$	—	$	—	$	3,020
Loans held for sale		501		—		501		—
Bank premises and equipment held for sale		1,589		—		—		1,589
Other real estate owned		4,527		—		—		4,527
Total assets at fair value	$	9,637	$	—	$	501	$	9,136
Total liabilities at fair value	$	—	$	—	$	—	$	—

Impaired loans

Loans for which it is probable that payment of interest and principal will not be made in accordance with the contractual terms of the loan agreement are considered impaired. Once a loan is identified as individually impaired, management measures the impairment in accordance with FASB ASC 310, Receivables. The fair value of impaired loans is estimated using one of several methods, including collateral value and discounted cash flows. Those impaired loans not requiring an allowance represent loans for which the fair value of the expected repayments or collateral exceeds the recorded investments in such loans. At June 30, 2020 and December 31, 2019, a majority of total impaired loans were evaluated based on the fair value of the collateral. The Company frequently obtains appraisals prepared by external professional appraisers for classified loans greater than $250,000 when the most recent appraisal is greater than 18 months old and deemed to be stale or invalid. The Company may also utilize internally prepared estimates that generally result from current market data and actual sales data related to the Company’s collateral. The Company makes adjustments for selling costs estimated at 10%, market deterioration, and any known liens against the collateral. Therefore, the Company records impaired loans as nonrecurring Level 3. For the period ended June 30, 2020 and December 31, 2019, weighted average adjustments, calculated based on relative fair value, related to impaired loans were 25.3% and 12.8%, respectively.

Impaired loans can also be evaluated for impairment using the present value of expected future cash flows discounted at the loan’s effective interest rate. The measurement of impaired loans using future cash flows discounted at the loan’s effective interest rate rather than the market rate of interest is not a fair value measurement and is therefore excluded from fair value disclosure requirements. Reviews of classified loans are performed by management on a quarterly basis.

Loans held for sale

The carrying amounts of loans held for sale approximate fair value (Level 2).

Bank premises and equipment held for sale

The fair value of bank premises and equipment held for sale was determined using the adjusted appraisal methodology described in the other real estate owned (OREO) asset section below.

Other real estate owned

OREO assets are adjusted to fair value less estimated disposal costs upon transfer of the related loans to OREO, establishing a new cost basis. Initial fair value is based on appraised values of the collateral less estimated disposal costs. Subsequent to the transfer, valuations are periodically performed by management based on updated appraisals, general market conditions, recent sales of similar properties, length of time the properties have been held, and the Company’s ability and intent with regard to continued ownership of the properties. The assets are carried at the lower of carrying value or fair value less estimated disposal costs. The Company may incur additional write-downs of OREO assets to fair value less estimated costs to sell if valuations indicate a further deterioration in market conditions. As such, the Company records OREO as a nonrecurring fair value measurement classified as Level 3.

Fair Value of Financial Instruments

FASB ASC 825, Financial Instruments, requires disclosure of the fair value of financial assets and financial liabilities, including those financial assets and financial liabilities that are not measured and reported at fair value on a recurring or nonrecurring basis. FASB ASC 825 excludes certain financial instruments and all nonfinancial instruments from its

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disclosure requirements. Accordingly, the aggregate fair value amounts presented may not necessarily represent the underlying fair value of the Company. Additionally, in accordance with FASB ASU 2016-01, the Company uses the exit price notion, rather than the entry price notion, in calculating fair values of financial instruments not measured at fair value on a recurring basis.

The following reflects the fair value of financial instruments, whether or not recognized on the consolidated balance sheet, at fair value measures by level of valuation assumptions used for those assets. These tables exclude financial instruments for which the carrying value approximates fair value (dollars in thousands):


	June 30, 2020
			Estimated Fair
	Carrying Value		Value		Level 1		Level 2		Level 3
Financial assets:
Securities held to maturity	$	24,169	$	25,282	$	—	$	25,282	$	—
Loans, net of allowance		1,153,072		1,164,016		—		—		1,164,016
PCI loans, net of allowance		29,351		36,997		—		—		36,997

Financial liabilities:
Interest bearing deposits		1,084,869		1,089,775		—		1,089,775		—
Borrowings		72,291		73,462		—		73,462		—


	December 31, 2019
			Estimated Fair
	Carrying Value		Value		Level 1		Level 2		Level 3
Financial assets:
Securities held to maturity	$	35,733	$	36,633	$	—	$	36,633	$	—
Loans, net of allowance		1,049,894		1,041,671		—		—		1,041,671
PCI loans, net of allowance		32,372		38,982		—		—		38,982

Financial liabilities:
Interest bearing deposits		984,864		985,853		—		985,853		—
Borrowings		72,624		72,457		—		72,457		—

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Note 9. Earnings Per Share

Basic earnings per share (EPS) is computed by dividing net income by the weighted average number of shares outstanding during the period. Diluted EPS is computed using the weighted average number of shares outstanding during the period, including the effect of all potentially dilutive shares outstanding attributable to stock instruments. The following table presents basic and diluted EPS for the three and six months ended June 30, 2020 and 2019 (dollars and shares in thousands, except per share data):


			Weighted Average
	Net Income		Shares	Per
	(Numerator)		(Denominator)	Share Amount
For the three months ended June 30, 2020
Basic EPS	$	4,160	22,304	$	0.19
Effect of dilutive stock awards		—	204		(0.01)
Diluted EPS	$	4,160	22,508	$	0.18

For the three months ended June 30, 2019
Basic EPS	$	3,544	22,228	$	0.16
Effect of dilutive stock awards		—	205		—
Diluted EPS	$	3,544	22,433	$	0.16

For the six months ended June 30, 2020
Basic EPS	$	5,575	22,352	$	0.25
Effect of dilutive stock awards		—	198		—
Diluted EPS	$	5,575	22,550	$	0.25

For the six months ended June 30, 2019
Basic EPS	$	7,047	22,185	$	0.32
Effect of dilutive stock awards		—	247		(0.01)
Diluted EPS	$	7,047	22,432	$	0.31

Antidilutive shares issuable under awards or options of 1.2 million and 579,000 were excluded from the computation of diluted earnings per share for the three and six months ended June 30, 2020 and 2019, respectively.

Note 10. Employee Benefit Plan

The Company adopted the Bank of Essex noncontributory, defined benefit pension plan for all full-time pre-merger Bank of Essex employees over 21 years of age. Benefits are generally based upon years of service and the employees’ compensation. The Company funds pension costs in accordance with the funding provisions of the Employee Retirement Income Security Act.

The Company froze the plan benefits for all the defined benefit plan participants effective December 31, 2010.

The following table provides the components of net periodic benefit cost for the plan included in salaries and employee benefits in the consolidated statement of income for the three and six months ended June 30, 2020 and 2019 (dollars in thousands):


	Three months ended				Six months ended
	June 30, 2020		June 30, 2019		June 30, 2020		June 30, 2019
Interest cost	$	33	$	41	$	66	$	81
Expected return on plan assets		(53)		(53)		(107)		(106)
Amortization of prior service cost		1		1		2		2
Recognized net loss due to settlement		—		40		—		53
Recognized net actuarial loss		12		12		24		24
Net periodic (income) cost	$	(7)	$	41	$	(15)	$	54

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Note 11. Cash Flow Hedge

The Company designates derivatives as cash flow hedges when they are used to manage exposure to variability in cash flows related to forecasted transactions on variable rate borrowings, such as FHLB borrowings, repurchase agreements, and brokered CDs. The Company had interest rate swaps designated as cash flow hedges with total notional amounts of $20 million and $10 million at June 30, 2020 and December 31, 2019, respectively. The swaps were entered into with a counterparty that met the Company’s credit standards, and the agreements contain collateral provisions protecting the at-risk party. The Company believes that the credit risk inherent in the contracts is not significant. The Company had $660,000 and $180,000 of cash pledged as collateral at June 30, 2020 and December 31, 2019, respectively.

Amounts receivable or payable are recognized as accrued under the terms of the agreements. In accordance with FASB ASC 815, Derivatives and Hedging, the Company has designated the swaps as cash flow hedges, with the derivatives’ unrealized gains or losses recorded as a component of other comprehensive income. The Company has assessed the effectiveness of each hedging relationship by comparing the changes in cash flows on the designated hedged item. The Company’s cash flow hedge was deemed to be highly effective for the three and six month periods ended June 30, 2020 and 2019. The Company recorded a fair value liability of $730,000 and $44,000 in other liabilities at June 30, 2020 and December 31, 2019, respectively. The net losses were recorded as a component of other comprehensive income net of associated tax effects.

Note 12. Revenue Recognition

The Company recognizes income in accordance with FASB ASU 2014-09, Revenue from Contracts with Customers (Topic 606), and all subsequent ASUs that modified Topic 606. Topic 606 does not apply to revenue associated with financial instruments, including revenue from loans and securities. In addition, certain noninterest income streams such as fees associated with mortgage servicing rights, financial guarantees, derivatives, and certain credit card fees are also not in scope of this guidance. Topic 606 is applicable to noninterest revenue streams such as deposit related fees, interchange fees, merchant income, and brokerage fees and commissions. Substantially all of the Company’s revenue is generated from contracts with customers. Noninterest revenue streams in-scope of Topic 606 are discussed below.

Service charges on deposit accounts

The Company earns fees from its deposit customers for transaction-based, account maintenance, and overdraft services. Transaction-based fees, which include services such as stop payment charges, statement rendering, and ACH fees, are recognized at the time the transaction is executed as that is the point in time the Company fulfills the customer’s request. Account maintenance fees, which relate primarily to monthly maintenance, are earned over the course of a month, representing the period over which the Company satisfies the performance obligation. Overdraft fees are recognized at the point in time that the overdraft occurs. Service charges on deposits are withdrawn from the customer’s account balance.

Interchange and ATM fees

The Company earns interchange and ATM fees from debit/credit cardholder transactions conducted through the Visa and ATM payment networks. Interchange fees from cardholder transactions represent a percentage of the underlying transaction value and are recognized daily, concurrently with the transaction processing services provided to the cardholder. Because the Company acts as an agent and does not control the services rendered to the customers, related costs are netted against the fee income. These costs were included in other operating expenses prior to the adoption of Topic 606.

Brokerage fees and commissions

Brokerage fees and commissions consist of other recurring revenue streams such as commissions from sales of mutual funds and other investments to customers by a third-party service provider and investment advisor fees. The Company receives commissions from the third-party service provider on a monthly basis based upon customer activity for the month. The investment advisor fees are charged to the customer’s account in advance on the first month of the quarter, and the revenue is recognized over the following three-month period.

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The following table presents noninterest income, segregated by revenue streams in-scope and out-of-scope of Topic 606, for the three and six months ended June 30, 2020 and 2019 (dollars in thousands):


	Three months ended				Six months ended
	June 30, 2020		June 30, 2019		June 30, 2020		June 30, 2019
Noninterest income
In-scope of Topic 606:
Service charges on deposit accounts	$	273	$	445	$	727	$	855
Interchange and ATM fees, net		259		262		477		461
Brokerage fees and commissions		131		99		203		195
Noninterest income (in-scope of Topic 606)		663		806		1,407		1,511
Noninterest income (out-of-scope of Topic 606)		953		645		1,544		954
Total noninterest income	$	1,616	$	1,451	$	2,951	$	2,465

Note 13. Leases

The Company accounts for leases in accordance with FASB ASU 2016-02, Leases (Topic 842), as it relates to its non-cancellable operating leases and subleases of bank premises. The Company's leases have lease terms between five years and 20 years, with the longest lease term having an expiration date in 2038. Most of these leases include one or more renewal options for five years or less. At lease commencement, the Company assesses whether it is reasonably certain to exercise a renewal option by considering various economic factors. Options that are reasonably certain of being exercised are factored into the determination of the lease term, and related payments are included in the calculation of the right-of-use asset and lease liability. The Company uses its incremental borrowing rate to calculate the present value of lease payments when the interest rate implicit in a lease is not disclosed. None of the Company’s current leases contain variable lease payment terms. The Company accounts for associated non-lease components separately.

The following table presents operating lease liabilities as of June 30, 2020 and December 31, 2019 (dollars in thousands):


	June 30, 2020		December 31, 2019

Gross lease liability	$	8,660	$	9,278
Less: imputed interest		(2,396)		(2,541)
Present value of lease liability	$	6,264	$	6,737

The weighted average remaining lease term and weighted average discount rate for operating leases at June 30, 2020 was 12.1 years and 4.70%, respectively. The weighted average remaining lease term and weighted average discount rate for operating leases at December 31, 2019 was 12.0 years and 4.63%, respectively.

Maturities of the gross operating lease liability at June 30, 2020 are as follows (dollars in thousands):


2020	$	613
2021		1,191
2022		600
2023		630
2024		573
Thereafter		5,053
Total of future payments	$	8,660

Operating lease costs and sublease rental income for the three months ended June 30, 2020 were $321,000 and $28,000, respectively. Operating lease costs and sublease rental income for the three months ended June 30, 2019 were $445,000 and $39,000, respectively. Operating lease costs and sublease rental income for the six months ended June 30,

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2020 were $635,000 and $55,000, respectively. Operating lease costs and sublease rental income for the six months ended June 30, 2019 were $823,000 and $66,000, respectively.

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

The following discussion and analysis of the financial condition at June 30, 2020 and results of operations of Community Bankers Trust Corporation (the “Company”) for the three and six months ended June 30, 2020 should be read in conjunction with the Company’s consolidated financial statements and the accompanying notes to consolidated financial statements included in this report and in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019.

OVERVIEW

Community Bankers Trust Corporation (the “Company”) is headquartered in Richmond, Virginia and is the holding company for Essex Bank (the “Bank”), a Virginia state bank with 24 full-service offices, 18 of which are in Virginia and six of which are in Maryland. The Bank also operates two loan production offices.

The Company generates a significant amount of its income from the net interest income earned by the Bank. Net interest income is the difference between interest income and interest expense. Interest income depends on the amount of interest earning assets outstanding during the period and the interest rates earned thereon. The Company’s cost of funds is a function of the average amount of interest bearing deposits and borrowed money outstanding during the period and the interest rates paid thereon. The mix and product type for both loans and deposits can have a significant effect on the net interest income of the Bank. For the past several years, the Bank’s focus has been on maximizing that mix through branch growth and targeted product types, with lenders and other employees directly involved with customer relationships. Additionally, the quality of the interest earning assets further influences the amount of interest income lost on nonaccrual loans and the amount of additions to the allowance for loan losses.

The Bank also earns noninterest income from service charges on deposit accounts and other fee or commission-based services and products, such as insurance, mortgage loans, annuities, and other wealth management products. Other sources of noninterest income can include gains or losses on securities transactions and income from bank owned life insurance (BOLI) policies. The Company’s income is offset by noninterest expense, which consists of salaries and employee benefits, occupancy and equipment costs, data processing fees, professional fees, transactions involving bank-owned property, and other operational expenses. The provision for loan losses and income taxes may materially affect net income.

CAUTION ABOUT FORWARD-LOOKING STATEMENTS

The Company makes certain forward-looking statements in this report that are subject to risks and uncertainties. These forward-looking statements include statements regarding our profitability, liquidity, allowance for loan losses, interest rate sensitivity, market risk, future strategy, and financial and other goals. These forward-looking statements are generally identified by phrases such as “the Company expects,” “the Company believes” or words of similar import.

These forward-looking statements are subject to significant uncertainties because they are based upon or are affected by factors, including, without limitation, the effects of and changes in the following:

●

the quality or composition of the Company’s loan or investment portfolios, including collateral values and the repayment abilities of borrowers and issuers;

●

assumptions that underlie the Company’s allowance for loan losses;

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●

general economic and market conditions, either nationally or in the Company’s market areas;

●

unusual and infrequently occurring events, such as weather-related disasters, terrorist acts or public health events (such as the current COVID-19 pandemic), and of governmental and societal responses to them

●

the interest rate environment;

●

competitive pressures among banks and financial institutions or from companies outside the banking industry;

●

real estate values;

●

the demand for deposit, loan, and investment products and other financial services;

●

the demand, development and acceptance of new products and services;

●

the performance of vendors or other parties with which the Company does business;

●

time and costs associated with de novo branching, acquisitions, dispositions and similar transactions;

●

the realization of gains and expense savings from acquisitions, dispositions and similar transactions;

●

assumptions and estimates that underlie the accounting for purchased credit impaired loans;

●

consumer profiles and spending and savings habits;

●

levels of fraud in the banking industry;

●

the level of attempted cyber attacks in the banking industry;

●

the securities and credit markets;

●

costs associated with the integration of banking and other internal operations;

●

the soundness of other financial institutions with which the Company does business;

●

inflation;

●

technology; and

●

legislative and regulatory requirements.

These factors and additional risks and uncertainties are described in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019 and other reports filed from time to time by the Company with the Securities and Exchange Commission.

Although the Company believes that its expectations with respect to the forward-looking statements are based upon reliable assumptions within the bounds of its knowledge of its business and operations, there can be no assurance that actual results, performance or achievements of the Company will not differ materially from any future results, performance or achievements expressed or implied by such forward-looking statements.

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CRITICAL ACCOUNTING POLICIES

The Company’s financial statements are prepared in accordance with accounting principles generally accepted in the United States (GAAP). The financial information contained within the statements is, to a significant extent, financial information that is based on measures of the financial effects of transactions and events that have already occurred. A variety of factors could affect the ultimate value that is obtained when either earning income, recognizing an expense, recovering an asset or relieving a liability. For example, the Company uses historical loss factors as one factor in determining the inherent loss that may be present in its loan portfolio. Actual losses could differ significantly from the historical factors that the Company uses. In addition, GAAP itself may change from one previously acceptable method to another method. Although the economics of the Company’s transactions would be the same, the timing of events that would impact its transactions could change.

The following is a summary of the Company’s critical accounting policies that are highly dependent on estimates, assumptions and judgments.

Allowance for Loan Losses on Loans

The allowance for loan losses is established as losses are estimated to have occurred through a provision for loan losses charged to earnings. Loan losses are charged against the allowance when management believes the uncollectability of a loan balance is confirmed. Subsequent recoveries, if any, are credited to the allowance.

The allowance is an amount that management believes is appropriate to absorb estimated losses relating to specifically identified loans, as well as probable credit losses inherent in the balance of the loan portfolio, based on an evaluation of the collectability of existing loans and prior loss experience. This evaluation also takes into consideration such factors as changes in the nature and volume of the loan portfolio, overall portfolio quality, review of specific problem loans, and current economic conditions that may affect the borrower’s ability to pay. This evaluation does not include the effects of expected losses on specific loans or groups of loans that are related to future events or expected changes in economic conditions. The evaluation also considers the following risk characteristics of each loan portfolio:

●

Residential 1-4 family mortgage loans include HELOCs and single family investment properties secured by first liens. The carry risks associated with owner-occupied and investment properties are the continued credit-worthiness of the borrower, changes in the value of the collateral, successful property maintenance and collection of rents due from tenants. The Company manages these risks by using specific underwriting policies and procedures and by avoiding concentrations in geographic regions.

●

Commercial real estate loans, including owner occupied and non-owner occupied mortgages, carry risks associated with the successful operations of the principal business operated on the property securing the loan or the successful operation of the real estate project securing the loan. General market conditions and economic activity may impact the performance of these loans. In addition to using specific underwriting policies and procedures for these types of loans, the Company manages risk by avoiding concentrations to any one business or industry, and by diversifying the lending to various lines of businesses, such as retail, office, office warehouse, industrial and hotel.

●

Construction and land development loans are generally made to commercial and residential builders/developers for specific construction projects, as well as to consumer borrowers. These carry more risk than real estate term loans due to the dynamics of construction projects, changes in interest rates, the long-term financing market and state and local government regulations. The Company manages risk by using specific underwriting policies and procedures for these types of loans and by avoiding concentrations to any one business or industry and by diversifying lending to various lines of businesses, in various geographic regions and in various sales or rental price points.

●

Second mortgages on residential 1-4 family loans carry risk associated with the continued credit-worthiness of the borrower, changes in value of the collateral and a higher risk of loss in the event the collateral is liquidated due to the inferior lien position. The Company manages risk by using specific underwriting policies and procedures.

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●

Multifamily loans carry risks associated with the successful operation of the property, general real estate market conditions and economic activity. In addition to using specific underwriting policies and procedures, the Company manages risk by avoiding concentrations to geographic regions and by diversifying the lending to various unit mixes, tenant profiles and rental rates.

●

Agriculture loans carry risks associated with the successful operation of the business, changes in value of non-real estate collateral that may depreciate over time and inventory that may be affected by weather, biological, price, labor, regulatory and economic factors. The Company manages risks by using specific underwriting policies and procedures, as well as avoiding concentrations to individual borrowers and by diversifying lending to various agricultural lines of business (i.e., crops, cattle, dairy, etc.).

●

Commercial loans carry risks associated with the successful operation of the business, changes in value of non-real estate collateral that may depreciate over time, accounts receivable whose collectability may change and inventory values that may be subject to various risks including obsolescence. General market conditions and economic activity may also impact the performance of these loans. In addition to using specific underwriting policies and procedures for these types of loans, the Company manages risk by diversifying the lending to various industries and avoids geographic concentrations.

●

Consumer installment loans carry risks associated with the continued credit-worthiness of the borrower and the value of rapidly depreciating assets or lack thereof. These types of loans are more likely than real estate loans to be quickly and adversely affected by job loss, divorce, illness or personal bankruptcy. The Company manages risk by using specific underwriting policies and procedures for these types of loans.

●

All other loans generally support the obligations of state and political subdivisions in the U.S. and are not a material source of business for the Company. The loans carry risks associated with the continued credit-worthiness of the obligations and economic activity. The Company manages risk by using specific underwriting policies and procedures for these types of loans.

While management uses the best information available to make its evaluation, future adjustments to the allowance may be necessary if there are significant changes in economic conditions. In addition, regulatory agencies, as an integral part of their examination process, periodically review the Company’s allowance for loan losses, and may require the Company to make additions to the allowance based on their judgment about information available to them at the time of their examinations.

The allowance consists of specific, general and unallocated components. For loans that are also classified as impaired, an allowance is established when the collateral value (or discounted cash flows or observable market price) of the impaired loan is lower than the carrying value of that loan. The general component covers non-classified loans and is based on historical loss experience adjusted for qualitative factors. The unallocated component covers uncertainties that could affect management’s estimate of probable losses.

A loan is considered impaired when, based on current information and events, it is probable that the Company will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value, and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record, and the amount of the shortfall in relation to the principal and interest owed. Impairment is measured by either the present value of the expected future cash flows discounted at the loan’s effective interest rate, the loan’s obtainable market price, or the fair value of the collateral if the loan is collateral dependent.

Large groups of smaller balance homogeneous loans are evaluated for impairment as a pool. Accordingly, the Company does not separately analyze these individual loans for impairment disclosures.

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Accounting for Certain Loans Acquired in a Transfer

Financial Accounting Standards Board (FASB) Accounting Standards Codification (ASC) 310, Receivables, requires acquired loans to be recorded at fair value and prohibits carrying over valuation allowances in the initial accounting for acquired impaired loans. Loans carried at fair value, mortgage loans held for sale, and loans to borrowers in good standing under revolving credit arrangements are excluded from the scope of FASB ASC 310, which limits the yield that may be accreted to the excess of the undiscounted expected cash flows over the investor’s initial investment in the loan. The excess of the contractual cash flows over expected cash flows may not be recognized as an adjustment of yield. Subsequent increases in cash flows to be collected are recognized prospectively through an adjustment of the loan’s yield over its remaining life. Decreases in expected cash flows are recognized as impairments through the allowance for loan losses.

The Company’s acquired loans from the Suburban Federal Savings Bank (SFSB) transaction (the “PCI loans”), subject to FASB ASC Topic 805, Business Combinations, were recorded at fair value and no separate valuation allowance was recorded at the date of acquisition. FASB ASC 310-30, Loans and Debt Securities Acquired with Deteriorated Credit Quality, applies to loans acquired in a transfer with evidence of deterioration of credit quality for which it is probable, at acquisition, that the investor will be unable to collect all contractually required payments receivable. The Company is applying the provisions of FASB ASC 310-30 to all loans acquired in the SFSB transaction. The Company has grouped loans together based on common risk characteristics including product type, delinquency status and loan documentation requirements among others.

The PCI loans are subject to the credit review standards described above for loans. If and when credit deterioration occurs subsequent to the date that the loans were acquired, a provision for loan loss for PCI loans will be charged to earnings for the full amount.

The Company has made an estimate of the total cash flows it expects to collect from each pool of loans, which includes undiscounted expected principal and interest. The excess of that amount over the fair value of the pool is referred to as accretable yield. Accretable yield is recognized as interest income on a constant yield basis over the life of the pool. The Company also determines each pool’s contractual principal and contractual interest payments. The excess of that amount over the total cash flows that it expects to collect from the pool is referred to as nonaccretable difference, which is not recorded. Judgmental prepayment assumptions are applied to both contractually required payments and cash flows expected to be collected at acquisition. Over the life of the loan or pool, the Company continues to estimate cash flows expected to be collected. Subsequent decreases in cash flows expected to be collected over the life of the pool are recognized as an impairment in the current period through the allowance for loan losses. Subsequent increases in expected or actual cash flows are first used to reverse any existing valuation allowance for that loan or pool. Any remaining increase in cash flows expected to be collected is recognized as an adjustment to the accretable yield with the amount of periodic accretion adjusted over the remaining life of the pool.

RESULTS OF OPERATIONS

Overview

Coming off a strong end to the 2019 year, the Company began the year with good momentum but was disrupted by the coronavirus (COVID-19) pandemic that set off an economic crisis. Specific events that impacted the Company’s financial results for the first six months of 2020, and will impact future financial results, include government mandated business closures and stay-at-home orders, which have transformed into the highest unemployment rate seen in the Company’s markets. In addition, unprecedented government stimulus programs and the uncertainties regarding how long the mandates will last have contributed to the unpredictability of the financial impacts that the Company may experience. The Company is focused on assessing the risks in its loan portfolio and working with our customers to minimize future losses. See below for additional discussion regarding trends and the potential effects of COVID-19.

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Net income in the second quarter of 2020 reflects an increase of $616,000 over the same period in 2019. Net income was $4.2 million in the second quarter of 2020, or earnings per share of $0.19 basic and $0.18 fully diluted. Net income for the second quarter of 2019 was $3.5 million, or $0.16 per common share, both basic and fully diluted. The increase in net income was driven by a decrease of $1.1 million in noninterest expenses, primarily from a reduction of $660,000 in salaries and employee benefits, a majority of which was associated with deferred internal costs, primarily from the origination costs of PPP loans in the second quarter of 2020. Also positively affecting year-over-year net income was a reduction of $515,000 in interest expense, which resulted in an increase of $360,000 in net interest income. Additionally, there was an increase of $165,000 in noninterest income. Offsetting these increases in net income were an increase of $775,000 in provision for loan losses and an increase of $252,000 in income tax expense.

Net income for the first six months of 2020 was $5.6 million, or $0.25 per common share, basic and fully diluted. This is a decrease of $1.5 million, or 20.9%, when compared with net income of $7.0 million, or $0.32 basic and $0.31 fully diluted earnings per share, for the first six months of 2019. The decrease was primarily the result of the provision for loan losses of $4.2 million for the first six months of 2020 compared with $125,000 for the same period in 2019. The level of provision in 2020 was recorded to reflect the business and market disruptions arising from the COVID-19 pandemic. Offsetting the decrease to net income were a decrease of $1.4 million in noninterest expenses, primarily from a reduction in salaries and employee benefits of $889,000, due primarily to deferred internal costs as noted above, an increase of $486,000 in noninterest income, which was driven by an increase of $432,000 in mortgage loan income, an increase of $473,000 in net interest income, and a decrease of $280,000 in income tax expense.

Net Interest Income

The Company’s operating results depend primarily on its net interest income, which is the difference between interest income on interest-earning assets, including securities and loans, and interest expense incurred on interest bearing liabilities, including deposits and other borrowed funds. Net interest income is affected by changes in the amount and mix of interest earning assets and interest bearing liabilities, referred to as a “volume change.” It is also affected by changes in yields earned on interest earning assets and rates paid on interest bearing deposits and other borrowed funds, referred to as a “rate change.”

Net interest income increased $360,000, or 3.0%, from the second quarter of 2019 to the second quarter of 2020. Net interest income was $12.4 million in the second quarter of 2020 compared with $12.0 million for the same period in 2019. Interest and dividend income decreased $155,000, or 1.0%, over this time period. Interest and fees on loans increased by $372,000. This increase was mitigated by decreases in securities income, which decreased by $257,000, interest and fees on PCI loans, which decreased by $189,000, and interest on deposits in other banks, which decreased by $76,000. Interest on PCI loans was $1.1 million in the second quarter of 2020 compared with $1.3 million in the second quarter of 2019. The average balance of the PCI portfolio declined $6.2 million during the year-over-year comparison period. The increase in interest and fees on loans was generated by an increase of $134.5 million, or 13.3%, in the average balance of loans. A portion of this loan growth was a shift in the mix of earning assets, as securities average balances declined $8.5 million year over year. The average balance of total earning assets increased $152.3 million, or 11.6%, from the second quarter of 2019 to the second quarter of 2020. The yield on earning assets decreased from 4.88% in the second quarter of 2019 to 4.33% in the second quarter of 2020. The yield on earning assets was the culmination of decreases in the yield on loans, from 5.01% in the second quarter of 2019 to 4.55% in the second quarter of 2020, in the tax-equivalent yield on securities, from 3.23% in the second quarter of 2019 to 2.88% in the second quarter of 2020, and in the yield on interest bearing bank balances, from 2.41% to 0.31% year over year. The decline in interest bearing bank balances resulted in a decrease in income of $76,000 despite an increase in the average balance of $33.1 million.

Interest expense decreased $515,000, or 13.2%, when comparing the second quarter of 2020 and the second quarter of 2019. Interest expense on deposits decreased $407,000, or 11.3%, as the cost declined from 1.41% in the second quarter of 2019 to 1.20% for the same period in 2020. The average balance of interest bearing deposits increased $46.5 million, or 4.6%. This growth was from non-maturity deposit sources. First, there was an increase of $25.7 million, or 16.5%, in the average balance of interest bearing checking accounts, which averaged $181.8 million in the second quarter of 2020. Additionally, there was an increase of $24.4 million in the average balance of savings and money market accounts from the second quarter of 2019 to the same period in 2020. Offsetting these increases was a decrease in the average balance of time deposits of $3.7 million, to $643.5 million for the second quarter of 2020. FHLB and other borrowings benefited from a decrease in cost from 2.08% in the second quarter of 2019 to 1.15% in the second quarter of 2020. This reduced interest

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expense for the category by $101,000 despite an increase in the average amount outstanding of $12.8 million. The amount of liquidity in the banking system, along with lower interest rates and a shift in deposit balances, decreased the cost of interest bearing liabilities from 1.45% in the second quarter of 2019 to 1.19% in the second quarter of 2020.

The tax-equivalent net interest margin decreased 29 basis points, from 3.69% in the second quarter of 2019 to 3.40% in the second quarter of 2020. Likewise, the interest spread decreased from 3.43% to 3.14% over the same time period. The decrease in the margin was precipitated by a greater decrease in the yield on earning assets of 55 basis points compared with a decline in the cost of interest bearing liabilities of 26 basis points.

Net interest income was $24.6 million for the first six months of 2020. This is an increase of $473,000, or 2.0%, from net interest income of $24.1 million for the first six months of 2019. Interest and dividend income declined by $15,000 over this time frame. Interest and dividend income was impacted by volume increases offset by a decline in yield. First, there was an increase of $1.0 million, or 4.1%, in interest and fees on loans, which increased as a result of growth of $100.4 million, or 10.0%, in the average balance of loans in 2020 over 2019. The yield on loans declined from 5.03% for the first six months of 2019 to 4.73% for the same period in 2020. Five basis points of this decrease are attributable to the addition of $83.5 million in PPP loans net of fees during the second quarter of 2020 at a rate of 1.00%. Interest and fees on PCI loans declined by $385,000, or 15.1%. Interest on deposits in other banks declined by $103,000. The yield on the PCI portfolio was 13.94% for the first six months of 2020 compared with 13.68% for the same period in 2019. Interest and dividends on securities declined by $561,000 in the first six months of 2020 compared with the same period in 2019. The yield on earning assets was 4.54% for the first six months of 2020, a decline of 38 basis points from 4.92% in the first six months of 2019. The yield on total loans, which includes PCI loans, declined from 5.34% for the first six months of 2019 compared to 4.99% for the same period in 2020. The return on interest bearing bank balances declined from 2.53% to 0.64%, while the tax-equivalent yield on the securities portfolio declined from 3.29% for the first six months of 2019 to 2.98% for the first six months of 2020.

Interest expense of $7.1 million for the first six months of 2020 was a decrease of $488,000, or 6.4%, from interest expense of $7.6 million for the first six months of 2019. The cost of interest bearing liabilities decreased over this time frame from 1.41% for the first six months of 2019 to 1.28% for the same period in 2020. Interest on deposits decreased $222,000 due to a decline in the rate paid from 1.36% for the first six months of 2019 to 1.27% for the first six months of 2020. The average balance of interest bearing liabilities increased over this time frame by $35.0 million. Short term borrowing expense decreased by $33,000, and the cost of FHLB and other borrowings decreased by $233,000, or 32.9%, as the rate paid decreased from 2.13% for the first six months of 2019 to 1.36% for the first six months of 2020.

The changes noted to interest income and interest expense led to a decline in the net interest margin from 3.75% for the first six months of 2019 to 3.53% for the same period in 2020. The interest spread also declined over this time frame from 3.51% in 2019 to 3.26% in 2020.

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The following tables set forth, for each category of interest-earning assets and interest bearing liabilities, the average amounts outstanding, the interest earned or paid on such amounts, and the average rate earned or paid for the three and six months ended June 30, 2020 and 2019. The tables also set forth the average rate paid on total interest bearing liabilities, and the net interest margin on average total interest earning assets for the same periods. Except as indicated in the footnotes, no tax equivalent adjustments were made and all average balances are daily average balances. Any nonaccruing loans have been included in the tables, as loans carrying a zero yield.


	Three months ended June 30, 2020						Three months ended June 30, 2019
					Average						Average
	Average		Interest		Rates		Average		Interest		Rates
	Balance		Income/		Earned/		Balance		Income/		Earned/
(Dollars in thousands)	Sheet		Expense		Paid		Sheet		Expense		Paid
ASSETS:
Loans	$	1,145,956	$	13,012	4.55	%	$	1,011,448	$	12,640	5.01	%
PCI loans		29,978		1,062	14.01			36,212		1,251	13.67
Total loans		1,175,934		14,074	4.80			1,047,660		13,891	5.32
Interest bearing bank balances		52,551		41	0.31			19,436		117	2.41
Federal funds sold		210		—	0.07			799		5	2.36
Securities (taxable)		189,378		1,287	2.72			189,429		1,472	3.11
Securities (tax exempt) ⁽¹⁾		50,629		442	3.49			59,098		533	3.60
Total earning assets		1,468,702		15,844	4.33			1,316,422		16,018	4.88
Allowance for loan losses		(12,007)						(8,820)
Non-earning assets		109,847						102,513
Total assets	$	1,566,542					$	1,410,115

LIABILITIES AND SHAREHOLDERS’ EQUITY

Demand - interest bearing	$	181,789		98	0.22		$	156,053		86	0.22
Savings and money market		241,646		228	0.38			217,219		307	0.57
Time deposits		643,465		2,856	1.78			647,159		3,196	1.98
Total interest bearing deposits		1,066,900		3,182	1.20			1,020,431		3,589	1.41
Short-term borrowings		323		—	0.20			996		7	2.70
FHLB and other borrowings		71,685		209	1.15			58,888		310	2.08
Total interest bearing liabilities		1,138,908		3,391	1.19			1,080,315		3,906	1.45
Noninterest bearing deposits		254,216						170,783
Other liabilities		14,396						14,183
Total liabilities		1,407,520						1,265,281
Shareholders’ equity		159,022						144,834

Total liabilities and shareholders’ equity	$	1,566,542					$	1,410,115
Net interest earnings			$	12,453					$	12,112
Interest spread					3.14	%					3.43	%
Net interest margin					3.40	%					3.69	%

Tax equivalent adjustment:
Securities			$	93					$	112

(1) Income and yields are reported on a tax equivalent basis assuming a federal tax rate of 21%.

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	Six months ended June 30, 2020						Six months ended June 30, 2019
					Average						Average
	Average		Interest		Rates		Average		Interest		Rates
	Balance		Income/		Earned/		Balance		Income/		Earned/
(Dollars in thousands)	Sheet		Expense		Paid		Sheet		Expense		Paid
ASSETS:
Loans	$	1,105,612	$	26,098	4.73	%	$	1,005,168	$	25,059	5.03	%
PCI loans		30,644		2,159	13.94			36,993		2,544	13.68
Total loans		1,136,256		28,257	4.99			1,042,161		27,603	5.34
Interest bearing bank balances		34,503		110	0.64			16,920		213	2.53
Federal funds sold		176		—	0.47			429		5	2.36
Securities (taxable)		185,859		2,638	2.84			187,908		2,994	3.19
Securities (tax exempt) ⁽¹⁾		50,010		876	3.51			63,132		1,135	3.60
Total earning assets		1,406,804		31,881	4.54			1,310,550		31,950	4.92
Allowance for loan losses		(10,314)						(8,951)
Non-earning assets		107,694						99,758
Total assets	$	1,504,184					$	1,401,357

LIABILITIES AND SHAREHOLDERS’ EQUITY

Demand - interest bearing	$	176,034		192	0.22		$	156,908		173	0.22
Savings and money market		230,654		508	0.44			219,071		600	0.55
Time deposits		638,064		5,901	1.85			635,354		6,050	1.92
Total interest bearing deposits		1,044,752		6,601	1.27			1,011,333		6,823	1.36
Short-term borrowings		2,254		23	2.06			3,900		56	2.91
FHLB and other borrowings		69,240		475	1.36			66,012		708	2.13
Total interest bearing liabilities		1,116,246		7,099	1.28			1,081,245		7,587	1.41
Noninterest bearing deposits		215,044						165,668
Other liabilities		14,290						12,078
Total liabilities		1,345,580						1,258,991
Shareholders’ equity		158,604						142,366

Total liabilities and shareholders’ equity	$	1,504,184					$	1,401,357
Net interest earnings			$	24,782					$	24,363
Interest spread					3.26	%					3.51	%
Net interest margin					3.53	%					3.75	%

Tax equivalent adjustment:
Securities			$	184					$	238

(1)

Income and yields are reported on a tax equivalent basis assuming a federal tax rate of 21%.

Provision for Loan Losses

Management actively monitors the Company’s asset quality and provides specific loss provisions when necessary. Provisions for loan losses are charged to income to bring the total allowance for loan losses to a level deemed appropriate by management of the Company based on such factors as historical credit loss experience, industry diversification of the commercial loan portfolio, the amount of nonperforming loans and related collateral, the volume growth and composition of the loan portfolio, current economic conditions that may affect the borrower’s ability to pay and the value of collateral, the evaluation of the loan portfolio through the internal loan review function and other relevant factors. See Allowance for Loan Losses on Loans in the Critical Accounting Policies section above for further discussion.

Loans are charged-off against the allowance for loan losses when appropriate. Although management believes it uses the best information available to make determinations with respect to the provision for loan losses, future adjustments may be necessary if economic conditions differ from the assumptions used in making the initial determinations.

Management also actively monitors its PCI loan portfolio for impairment and necessary loan loss provisions. Provisions for these loans may be necessary due to a change in expected cash flows or an increase in expected losses within a pool of loans.

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The Company records a separate provision for loan losses for its loan portfolio, excluding PCI loans, and the PCI loan portfolio. There was a provision for loan losses on the loan portfolio, excluding PCI loans, of $900,000 and $4.2 million for the three and six months ended June 30, 2020, respectively. There was a provision for loan losses on the loan portfolio, excluding PCI loans, of $125,000 for each of the three and six months ended June 30, 2019.

The provision recorded during the first six months of 2020 was due to the heightened risks associated with the loan portfolio that resulted from the economic impact of the rapidly evolving effects of the COVID-19 stay-at-home orders, business shut-downs and increased unemployment. The Company’s lenders reviewed each loan within the portfolio to identify those borrowers that management believed to be possibly impacted by the current state of the economy. Loans identified with increased risk were aggregated by loan type. This analysis indicated a risk grade migration in a number of loan categories that led to a heightened risk level in the loan portfolio. The impact of the loans’ risk grade migration was applied to the allowance for loan loss calculation, which led to the provision for loan losses for the quarter.

Due to the COVID-19 pandemic, the Company is closely monitoring loan concentrations in various “at risk areas” that it has deemed most likely to be affected by the stay-at-home orders and lack of general business activity, including a lack of travel in our geographic territory. As of June 30, 2020, the Company identified the following categories of borrowers as being potentially at risk:


Category	% of Total Loans
Consumer	15.6	%
Lessors of commercial properties	17.9
Lessors of residential properties	12.8
Hotels and other lodging	5.7
Medical and care services	4.7
Food service and drinking	2.0
Retail stores	1.3
Personal services	1.1

The Company is working with borrowers who have currently expressed a need for relief due to the effects of COVID-19. The Company granted relief in the form of various types of payment concessions, including interest only for up to six months or payment deferrals up to the same time frame for loans with outstanding balances of $169.9 million at June 30, 2020. In accordance with current regulatory guidance, none of these loans were deemed to be TDRs, as they were all current under their terms as of December 31, 2019.

The Company is also helping its customers and communities by participating in the PPP. As of June 30, 2020, the Company originated 741 loans totaling $83.5 million net of fees, with the median size for all loans made being approximately $35,000. As these loans are 100% guaranteed by the SBA, no allowance for loan losses is required.

With respect to the PCI portfolio, due to the stable nature of its performance and its declining balances over time as the portfolio amortizes, no provision was taken during either of the three or six months ended June 30, 2020 and 2019. Additional discussion of loan quality is presented below.

The loan portfolio, excluding PCI loans, had net charge-offs of $481,000 in the second quarter of 2020, compared with net recoveries of $33,000 in the second quarter of 2019. Total charge-offs were $618,000 for the second quarter of 2020 compared with $102,000 in the second quarter of 2019. Recoveries of previously charged-off loans were $137,000 for the second quarter of 2020 compared with $135,000 in the second quarter of 2019.

The loan portfolio, excluding PCI loans, had net charge-offs of $391,000 for the six months ended June 30, 2020, compared with net charge-offs of $289,000 in the same period of 2019. Total charge-offs were $712,000 for the six months ended June 30, 2020, compared with $680,000 in the same period of 2019. Recoveries of previously charged-off loans were $321,000 for the six months ended June 30, 2020, compared with $391,000 in the same period of 2019.

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Noninterest Income

Noninterest income of $1.6 million in the second quarter of 2020 was an increase of $165,000, or 11.4%, over the second quarter of 2019. Mortgage loan income increased $273,000, or 273.0%, from $100,000 in the second quarter of 2019 to $373,000 in the second quarter of 2020. Other noninterest income was $296,000 in the second quarter of 2020 compared with $222,000 in the second quarter of 2019, an increase of $74,000. Service charges on deposit accounts of $532,000 in the second quarter of 2020 decreased by $175,000, or 24.8%, year over year. This decrease was primarily the result of reduced transaction volumes created by the COVID-19 stay-at-home orders. Income on bank owned life insurance was $173,000 in the second quarter of 2020, a decrease of $11,000 year over year.

Noninterest income was $3.0 million for the first six months of 2020, an increase of $486,000, or 19.7%, over noninterest income of $2.5 million for the first six months of 2019. Mortgage loan income was $594,000 for the first six months of 2020, an increase of $432,000 over the same period in 2019. This increase was created by continuity among the mortgage team, coupled with attractive rates and increased referrals within the Bank. Other noninterest income was $592,000 for the first six months of 2020, an increase of $194,000 over the same period in 2019. The increase was primarily the result from 2020 activity that included a $64,000 gain on the extinguishment of a FHLB borrowing combined with $173,000 in swap fee income. Gain on sale of loans was $11,000 for the first six months of 2020 compared with none for the same period in 2019. Offsetting these increases to noninterest income were a decline of $112,000 in service charges and fees, a decrease of $21,000 in securities gains and a decline of $18,000 in income on bank owned life insurance.

Noninterest Expense

Noninterest expenses were $7.9 million for the second quarter of 2020. This is a decrease of $1.1 million from noninterest expenses of $9.0 million for the second quarter of 2019. The reason for the decrease is also the result of the large loan volume in the second quarter of 2020 that generated credits to salaries and employee benefits in accordance with ASC 310-20, Receivables, Nonrefundable Fees and Costs. These credits contributed to the majority of the $660,000, or 12.5%, decline in salaries and employee benefits. Also decreasing for the period was other operating expenses, which decreased $147,000, occupancy expenses, which were $141,000 lower, other real estate expenses, net, which were $109,000 lower, equipment expense, which was $49,000 lower, and FDIC assessment and data processing fees, which were both $6,000 lower. No expense category on the income statement was greater for the second quarter of 2020 compared with the same period in 2019.

Noninterest expenses were $16.5 million for the six months ended June 30, 2020, a decrease of $1.4 million, or 7.6%, year over year. There were a number of reasons for the decrease. A portion, $559,000, is also the result of the large loan volume in the second quarter of 2020 that generated credits to salaries and employee benefits in accordance with ASC 310-20, Receivables, Nonrefundable Fees and Costs. Salaries and employee benefits declined $889,000, or 8.3%. The closure of two branch offices in 2019 positively influenced salaries as well as other expense categories in 2020. Also decreasing for the six month year-over-year period was occupancy expenses, which were $244,000 lower, other real estate expenses, net, which were $95,000 lower, equipment expense, which was $58,000 lower, other operating expenses, which decreased $65,000, and FDIC assessment, which was $31,000 lower. Only data processing fees increased, and they were only $18,000 greater for the first six months of 2020 compared with the same period in 2019.

Income Taxes

Income tax expense was $1.0 million for the second quarter of 2020, compared with income tax expense of $791,000 for the second quarter of 2019. For the first six months of 2020 income tax expense was $1.3 million compared with $1.6 million for the first six months of 2019. The effective tax rate for the second quarter of 2020 was 20.0% compared with 18.2% for the second quarter of 2019. For the first six months of 2020, the effective tax rate was 19.0% compared with 18.4% for the same period in 2019.

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FINANCIAL CONDITION

General

Total assets increased $184.2 million, or 12.9%, to $1.615 billion at June 30, 2020 when compared to December 31, 2019. Total loans, excluding PCI loans, were $1.165 billion at June 30, 2020, increasing $107.0 million, or 10.1%, from year end 2019. Total PCI loans were $29.5 million at June 30, 2020 versus $32.5 million at December 31, 2019.

Loans net of fees that the Bank originated during the second quarter under the PPP were $83.5 million at June 30, 2020. There were 741 of these PPP loans outstanding at June 30, 2020, and all of these balances are included in the $263.0 million in commercial loans. Commercial loan balances, excluding PPP balances, would have declined by $11.7 million since year end 2019. Commercial real estate loans, the largest category of loans at $443.9 million, or 38.1% of gross loans outstanding, increased $47.1 million, or 11.9% year to date. Construction and land development loans, totaling $151.5 million, grew $5.0 million since year end 2019. Residential 1 – 4 family loans declined by $17.8 million during the first six months of 2020.

The Company’s securities portfolio, excluding restricted equity securities, increased $28.3 million since year end 2019 to $251.0 million at June 30, 2020. U.S. Treasury issues increased by $21.7 million during the first six months of 2020 as excess liquidity was invested short-term in very liquid and low risk instruments. Corporate securities, with balances of $19.8 million at June 30, 2020, increased by $13.7 million during the six month period. State, county and municipal securities, the largest investment category at $133.8 million at June 30, 2020, increased by $9.5 million during the first six months of 2020. Asset backed securities, consisting of student loan pools 97% guaranteed by the U.S. Government, increased by $11.5 million during the first six months of 2020 and totaled $23.2 million at June 30, 2020. Offsetting these increases was a decrease of $16.5 million in mortgage backed securities and a decline of $1.7 million in balances held in U.S. Government agency bonds. The Company actively manages the portfolio to improve its liquidity and maximize the return within the desired risk profile.

The Company is required to account for the effect of changes in the fair value of securities available for sale (AFS) under FASB ASC 320, Investments – Debt and Equity Securities. The fair value of the AFS portfolio was $226.9 million at June 30, 2020 and $187.0 million at December 31, 2019. At June 30, 2020, the Company had a net unrealized gain on the AFS portfolio of $7.3 million compared with a net unrealized gain of $3.7 million at December 31, 2019. Municipal securities comprised 48.3% of the total AFS portfolio at June 30, 2020. These securities exhibit more price volatility in a changing interest rate environment because of their longer weighted average life, as compared to other categories contained within the rest of the portfolio.

The Company had cash and cash equivalents of $85.3 million at June 30, 2020 compared with $28.7 million at year end 2019. The six month increase was $56.6 million. The majority of this category growth occurred in interest bearing bank balances, $53.1 million since year end 2019, as large amounts of liquidity have been funneled into the banking system through the facilitation of PPP loans and stimulus checks issued by the U.S. Treasury under the Coronavirus Aid, Relief, and Economic Security Act (the CARES Act). There were federal funds purchased of $3.3 million at June 30, 2020 compared with $24.4 million at December 31, 2019.

Interest bearing deposits at June 30, 2020 were $1.085 billion, an increase of $100.0 million, or 10.2%, greater than at December 31, 2019. Interest bearing checking accounts (formerly NOW accounts) of $195.4 million grew by $24.9 million since year end 2019. Money market deposit accounts were $148.1 million at June 30, 2020 and grew $27.2 million, or 22.5%, during the first six months of 2020. Savings accounts totaled $108.6 million at June 30, 2020 and grew $12.0 million for the first six months of 2020. Strong growth in these categories for the year has allowed the Bank to react to lower interest rates through proactive repricing in certificates of deposit, the highest costing deposit category. Time deposit balances combined were 46.4% of total deposits, including noninterest bearing deposits, at June 30, 2020, a decline from 51.3% at December 31, 2019. The growth in interest bearing checking accounts, money market accounts, savings accounts and noninterest bearing deposits, which grew $164.3 million during the first six months of 2020, were associated with the $83.5 million in PPP loans net of fees originated and held at June 30, 2020 and stimulus checks issued under the CARES Act, as well as postponed business activity that resulted from the COVID-19 stay-at-home orders.

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FHLB borrowings were $68.2 million at June 30, 2020, compared with $68.5 million at December 31, 2019. There were Federal funds purchased of $3.3 million at June 30, 2020, down from $24.4 million at December 31, 2019.

Shareholders’ equity was $160.8 million at June 30, 2020, or 10.0% of total assets, compared with $155.5 million, or 10.9% of total assets, at December 31, 2019. On January 22, 2020, the Company announced a share repurchase program of up to 1,000,000 shares of its common stock. During the first six months of 2020, the Company repurchased 130,800 shares of common stock at a total cost of $885,665. The Company evaluates the value of the common stock and capital for regulatory purposes when considering repurchases under the program and, as a result, is not currently making any repurchases in the current economic environment.

Asset Quality – excluding PCI loans

The allowance for loan losses represents management’s estimate of the amount appropriate to provide for probable losses inherent in the loan portfolio.

Loan quality is continually monitored, and the Company’s management has established an allowance for loan losses that it believes is appropriate for the risks inherent in the loan portfolio. Among other factors, management considers the Company’s historical loss experience, the size and composition of the loan portfolio, the value and appropriateness of collateral and guarantors, nonperforming loans and current and anticipated economic conditions. There are additional risks of future loan losses, which cannot be precisely quantified nor attributed to particular loans or classes of loans. Because those risks include general economic trends, as well as conditions affecting individual borrowers, the allowance for loan losses is an estimate. The allowance is also subject to regulatory examinations and determination as to appropriateness, which may take into account such factors as the methodology used to calculate the allowance and size of the allowance in comparison to peer companies identified by regulatory agencies. See Allowance for Loan Losses on Loans in the Critical Accounting Policies section above for further discussion.

The Company maintains a list of loans that have potential weaknesses and thus may need special attention. This loan list is used to monitor such loans and is used in the determination of the appropriateness of the allowance for loan losses. Nonperforming assets totaled $8.7 million at June 30, 2020 and net charge-offs were $391,000 for the six months ended June 30, 2020. This compares with nonperforming assets of $10.8 million and net charge-offs of $879,000 for the year ended December 31, 2019.

Nonaccrual loans were $4.2 million at June 30, 2020, a $1.1 million decrease from $5.3 million at December 31, 2019. The $1.1 million decrease in nonaccrual loans since December 31, 2019 was the net result of $3.7 million in additions to nonaccrual loans and $4.8 million in reductions. The increase related mainly to one construction and land development relationship totaling $1.4 million and two commercial loans totaling $1.3 million. With respect to the reductions in nonaccrual loans, $240,000 were payments to existing credits, $616,000 were charge-offs, $3.8 million were paid off, and $159,000 returned to accruing status.

The allowance for loan losses, excluding PCI, equaled 289.7% of nonaccrual loans at June 30, 2020 compared with 159.3% at December 31, 2019. The ratio of nonperforming assets to loans and OREO decreased 27 basis points. The ratio was 0.74% at June 30, 2020 versus 1.01% at December 31, 2019, which was driven primarily by the decrease in nonperforming loans.

In accordance with GAAP, an individual loan is impaired when, based on current information and events, it is probable that a creditor will be unable to collect all amounts due in accordance with contractual terms of the loan agreement. The Company considers all troubled debt restructures and nonaccrual loans to be impaired loans. In addition, the Company reviews all substandard and doubtful loans that are not on nonaccrual status, as well as loans with other risk characteristics, pursuant to and specifically for compliance with the accounting definition of impairment as described above. These impaired loans have been determined through analysis, appraisals, or other methods used by management.

See Note 3 to the Company’s financial statements for information related to the allowance for loan losses. At June 30, 2020 and December 31, 2019, total impaired loans, excluding PCI loans, equaled $9.1 million and $9.9 million, respectively.

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The following table sets forth selected asset quality data, excluding PCI loans, and ratios for the dates indicated (dollars in thousands):


	June 30, 2020			December 31, 2019
Nonaccrual loans	$	4,225		$	5,292
Loans past due 90 days and accruing interest		—			946
Total nonperforming loans		4,225			6,238
OREO		4,486			4,527
Total nonperforming assets	$	8,711		$	10,765

Accruing troubled debt restructure loans	$	4,898		$	4,593

Balances
Specific reserve on impaired loans		1,112			584
General reserve related to unimpaired loans		11,126			7,845
Total allowance for loan losses		12,238			8,429

Average loans during the year, net of unearned income		1,105,612			1,023,861

Impaired loans		9,123			9,885
Non-impaired loans		1,156,187			1,048,438
Total loans, net of unearned income		1,165,310			1,058,323

Ratios
Allowance for loan losses to loans		1.05	%		0.80	%
Allowance for loan losses to nonaccrual loans		289.66			159.28
General reserve to non-impaired loans		0.96			0.75
Nonaccrual loans to loans		0.36			0.50
Nonperforming assets to loans and OREO		0.74			1.01
Net charge-offs to average loans		0.07			0.09

A further breakout of nonaccrual loans, excluding PCI loans, at March 30, 2020 and December 31, 2019 is below (dollars in thousands):


	June 30, 2020		December 31, 2019
Mortgage loans on real estate:
Residential 1‑4 family	$	1,697	$	1,378
Commercial		636		1,006
Construction and land development		1,122		376
Multifamily		—		2,463
Agriculture		51		—
Total real estate loans		3,506		5,223
Commercial loans		707		62
Consumer installment loans		12		7
Total loans	$	4,225	$	5,292

Asset Quality – PCI loans

Loans accounted for under FASB ASC 310-30 are generally considered accruing and performing loans as the loans accrete interest income over the estimated life of the loan. Accordingly, acquired impaired loans that are contractually past due are still considered to be accruing and performing loans.

The PCI loans are subject to credit review standards for loans. If and when credit deterioration occurs subsequent to the date that they were acquired, a provision for credit loss for PCI loans will be charged to earnings for the full amount. The Company makes an estimate of the total cash flows that it expects to collect from a pool of PCI loans, which includes

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undiscounted expected principal and interest. Over the life of the loan or pool, the Company continues to estimate cash flows expected to be collected. Subsequent decreases in cash flows expected to be collected over the life of the pool are recognized as impairments in the current period through the allowance for loan losses. Subsequent increases in expected cash flows are first used to reverse any existing valuation allowance for that loan or pool. Any remaining increase in cash flows expected to be collected is recognized as an adjustment to the yield over the remaining life of the pool.

Capital Requirements

The determination of capital adequacy depends upon a number of factors, such as asset quality, liquidity, earnings, growth trends and economic conditions. The Company seeks to maintain a strong capital base exceeding regulatory minimums for well capitalized institutions to support its growth and expansion plans, provide stability to current operations and promote public confidence in the Company.

Current repurchase activity under the Company’s stock repurchase program was suspended effective April 2, 2020. The sole reason for this suspension was due to the uncertainties surrounding COVID-19. The Company continues to place a heightened emphasis on capital and liquidity to safeguard shareholders, its balance sheet and the needs of its customers.

Management believes that the Company possesses strong capital and liquidity. The actions taken with regard to capital and liquidity as a result of the pandemic were put into effect to safeguard these areas of strength.

Effective September 2018, the Federal Reserve raised the total consolidated asset limit in the Small Bank Holding Company Policy Statement from $1 billion to $3 billion, thereby eliminating the Company’s consolidated capital reporting requirements. Therefore, the Company only reports capital information at the Bank level.

Under the final rule on Enhanced Regulatory Capital Standards, commonly referred to as Basel III and which became effective January 1, 2015, the federal banking regulators have defined four tests for assessing the capital strength and adequacy of banks, based on four definitions of capital. “Common equity tier 1 capital” is defined as common equity, retained earnings, and accumulated other comprehensive income (AOCI), less certain intangibles. “Tier 1 capital” is defined as common equity tier 1 capital plus qualifying perpetual preferred stock, tier 1 minority interests, and grandfathered trust preferred securities. “Tier 2 capital” is defined as specific subordinated debt, some hybrid capital instruments and other qualifying preferred stock, non-tier 1 minority interests and a limited amount of the allowance for loan losses. “Total capital” is defined as tier 1 capital plus tier 2 capital. Four risk-based capital ratios are computed using the above capital definitions, total assets and risk-weighted assets, and the ratios are measured against regulatory minimums to ascertain adequacy. All assets and off-balance sheet risk items are grouped into categories according to degree of risk and assigned a risk-weighting and the resulting total is risk-weighted assets. “Common equity tier 1 capital ratio” is common equity tier 1 capital divided by risk-weighted assets. “Tier 1 risk-based capital ratio” is tier 1 capital divided by risk-weighted assets. “Total risk-based capital ratio” is total capital divided by risk-weighted assets. The “leverage ratio” is tier 1 capital divided by total average assets.

The Bank’s ratio of total risk-based capital was 13.9% at each of June 30, 2020 and December 31, 2019. The tier 1 risk-based capital ratio was 12.9% at June 30, 2020 and 13.2% at December 31, 2019. The Bank’s tier 1 leverage ratio was 10.3% at June 30, 2020 and 11.0% at December 31, 2019. All capital ratios exceed regulatory minimums to be considered well capitalized. BASEL III introduced the common equity tier 1 capital ratio, which was 12.9% at June 30, 2020 and 13.2% at December 31, 2019.

Under Basel III, a capital conservation buffer of 2.5% above the minimum risk-based capital thresholds was established. Dividend and executive compensation restrictions begin if the Bank does not maintain the full amount of the buffer. At June 30, 2020, the Bank had a capital conservation buffer of 5.9%.

Liquidity

Liquidity represents the Company’s ability to meet present and future financial obligations through either the sale or maturity of existing assets or the acquisition of additional funds through liability management. Liquid assets include cash, interest bearing deposits with banks, federal funds sold and certain investment securities. As a result of the Company’s

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management of liquid assets and the ability to generate liquidity through liability funding, management believes that the Company maintains overall liquidity sufficient to satisfy its depositors’ requirements and meet its customers’ credit needs.

The Company’s results of operations are significantly affected by its ability to manage effectively the interest rate sensitivity and maturity of its interest earning assets and interest bearing liabilities. A summary of the Company’s liquid assets at June 30, 2020 and December 31, 2019 was as follows (dollars in thousands):


	June 30, 2020			December 31, 2019
Cash and due from banks	$	20,530		$	16,976
Interest bearing bank deposits		64,796			11,708
Available for sale securities, at fair value, unpledged		197,631			157,225
Total liquid assets	$	282,957		$	185,909

Deposits and other liabilities	$	1,454,223		$	1,275,361
Ratio of liquid assets to deposits and other liabilities		19.46	%		14.58	%

The Company maintains unsecured lines of credit of varying amounts with correspondent banks to facilitate short-term liquidity needs. The Company has a total of $55 million in this type of facility in the aggregate at June 30, 2020.

Off-Balance Sheet Arrangements and Contractual Obligations

A summary of the contract amount of the Company’s exposure to off-balance sheet and balance sheet risk as of June 30, 2020 and December 31, 2019, is as follows (dollars in thousands):


	June 30, 2020		December 31, 2019
Commitments with off-balance sheet risk:
Commitments to extend credit	$	233,909	$	210,086
Standby letters of credit		11,130		15,155
Total commitments with off-balance sheet risks	$	245,039	$	225,241

Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The Company evaluates each customer’s credit worthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by the Company upon extension of credit, is based on management’s credit evaluation of the counterparty. Collateral held varies but may include accounts receivable, inventory, property and equipment, and income-producing commercial properties.

Unfunded commitments under lines of credit are commitments for possible future extensions of credit to existing customers. Those lines of credit may be drawn upon only to the total extent to which the Company is committed.

Standby letters of credit are conditional commitments issued by the Company to guarantee the performance of a customer to a third party. Those guarantees are primarily issued to support public and private borrowing arrangements, including commercial paper, bond financing, and similar transactions. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to clients. The Company holds certificates of deposit, deposit accounts, and real estate as collateral supporting those commitments for which collateral is deemed necessary.

The Company designates derivatives as cash flow hedges when they are used to manage exposure to variability in cash flows related to forecasted transactions on variable rate borrowings, such as FHLB borrowings, repurchase agreements, and brokered CDs. The Company had cash flow hedges with total notional amounts of $20 million and $10 million at June 30, 2020 and December 31, 2019, respectively. The Company recorded a fair value liability of $730,000 and $44,000 in other liabilities, at June 30, 2020 and December 31, 2019, respectively. The Company’s cash flow hedges are deemed to be highly effective. Therefore, the net losses were recorded as a component of other comprehensive income in the Company’s consolidated statements of comprehensive income.

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Item 3. Quantitative and Qualitative Disclosures About Market Risk

Market risk is the risk of loss in a financial instrument arising from adverse changes in market rates or prices such as interest rates, foreign currency exchange rates, commodity prices and equity prices. The Company’s primary market risk exposure is interest rate risk. The ongoing monitoring and management of interest rate risk is an important component of the Company’s asset/liability management process, which is governed by policies established by its Board of Directors that are reviewed and approved annually. The Board of Directors delegates responsibility for carrying out asset/liability management policies to the Asset/Liability Committee (ALCO) of the Bank. In this capacity, ALCO develops guidelines and strategies that govern the Company’s asset/liability management related activities, based upon estimated market risk sensitivity, policy limits and overall market interest rate levels and trends.

Interest rate risk represents the sensitivity of earnings to changes in market interest rates. As interest rates change, the interest income and expense streams associated with the Company’s financial instruments also change, affecting net interest income, the primary component of the Company’s earnings. ALCO uses the results of a detailed and dynamic simulation model to quantify the estimated exposure of net interest income to sustained interest rate changes. While ALCO routinely monitors simulated net interest income sensitivity over various periods, it also employs additional tools to monitor potential longer-term interest rate risk.

The simulation model captures the impact of changing interest rates on the interest income received and interest expense paid on all assets and liabilities reflected on the Company’s balance sheet. The simulation model is prepared and results are analyzed at least quarterly. This sensitivity analysis is compared to ALCO policy limits, which specify a maximum tolerance level for net interest income exposure over a one-year horizon, assuming no balance sheet growth, given a 400 basis point upward shift and a 400 basis point downward shift in interest rates. The downward shift of 300 or 400 basis points is included in the analysis, although less meaningful in the current rate environment, because all results are monitored regardless of likelihood. A parallel shift in rates over a 12-month period is assumed.

The following table represents the change to net interest income given interest rate shocks up and down 100, 200, 300 and 400 basis points at June 30, 2020 (dollars in thousands):


	June 30, 2020
	%	$
Change in Yield curve
+400 bp	13.4	6,747
+300 bp	9.6	4,825
+200 bp	5.6	2,836
+100 bp	2.5	1,236
most likely	—	—
‑100 bp	—	24
‑200 bp	—	(11)
‑300 bp	—	(14)
‑400 bp	—	(14)

At June 30, 2020, the Company’s interest rate risk model indicated that, in a rising rate environment of 400 basis points over a 12 month period, net interest income could increase by 13.4%. For the same time period, the interest rate risk model indicated that in a declining rate environment of 400 basis points, net interest income could decrease by 0.0%. While these percentages are subjective based upon assumptions used within the model, management believes the balance sheet is appropriately balanced with acceptable risk to changes in interest rates.

The preceding sensitivity analysis does not represent a forecast and should not be relied upon as being indicative of expected operating results. These hypothetical estimates are based upon numerous assumptions, including the nature and timing of interest rate levels such as yield curve shape, prepayments on loans and securities, deposit decay rates, pricing decisions on loans and deposits, reinvestment or replacement of asset and liability cash flows. While assumptions are developed based upon current economic and local market conditions, the Company cannot make any assurances about the predictive nature of these assumptions, including how customer preferences or competitor influences might change.

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Also, as market conditions vary from those assumed in the sensitivity analysis, actual results will also differ due to factors such as prepayment and refinancing levels likely deviating from those assumed, the varying impact of interest rate change, caps or floors on adjustable rate assets, the potential effect of changing debt service levels on customers with adjustable rate loans, depositor early withdrawals and product preference changes, and other internal and external variables. Furthermore, the sensitivity analysis does not reflect actions that ALCO might take in response to, or in anticipation of, changes in interest rates.

Item 4. Controls and Procedures

Evaluation of Disclosure Controls and Procedures

As of the end of the period covered by this Form 10-Q, the Company’s management, with the participation of the Company’s chief executive officer and chief financial officer (the “Certifying Officers”), conducted evaluations of the Company’s disclosure controls and procedures. As defined under Section 13a-15(e) of the Securities Exchange Act of 1934, as amended (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 rules and forms of the Securities and Exchange Commission. 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 the Certifying Officers, to allow timely decisions regarding required disclosures.

Based on this evaluation, the Certifying Officers have concluded that the Company’s disclosure controls and procedures were effective to ensure that material information is recorded, processed, summarized and reported by management of the Company on a timely basis in order to comply with the Company’s disclosure obligations under the Exchange Act and the rules and regulations promulgated under it.

Internal Control over Financial Reporting

The management of the Company is responsible for establishing and maintaining adequate internal control over financial reporting. The Company’s internal control over financial reporting is a process designed under the supervision of the Certifying Officers to provide reasonable assurance regarding the reliability of financial reporting and the preparation of the Company’s financial statements for external purposes in accordance with U.S. generally accepted accounting principles. There were no changes in the Company’s internal control over financial reporting identified in connection with the evaluation of it that occurred during the Company’s last fiscal quarter that materially affected, or are reasonably likely to materially affect, internal control over financial reporting. Furthermore, the Company has seen no effect on internal control over financial reporting related to its change to a mostly remote workforce due to COVID-19.

PART II. OTHER INFORMATION

Item 1. Legal Proceedings

There are no material pending legal proceedings, other than ordinary routine litigation incidental to the Company’s business, to which the Company, including its subsidiaries, is a party or of which the property of the Company is subject.

Item 1A. Risk Factors

There are no material changes to any of the risk factors previously disclosed in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019 (Part I, Item 1A), other than the addition of the risk factor relating to the COVID-19 pandemic as set forth below.

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

The coronavirus (COVID-19) pandemic, including measures that governmental authorities have taken to manage the public health effects of the pandemic, has created economic and financial disruptions that have adversely affected, and are likely to continue to adversely affect, our business, financial condition, liquidity, capital and results of operations. These measures, together with voluntary changes in consumer behavior, have led to a substantial decrease in economic activity and a dramatic increase in unemployment. We cannot predict at this time the extent to which COVID-19 will continue to negatively affect us. The extent of any continued or future adverse effects of COVID-19 will depend on future developments, which are highly uncertain and outside our control, including the scope and duration of the pandemic, the direct and indirect impact of the pandemic on our employees, customers and service providers, as well as other market participants, and additional actions taken by governmental authorities and other third parties in response to the pandemic.

We are prioritizing the safety of our customers and employees and have limited our branch activity to drive-through services or in-branch appointments. In addition, most of our employees are working remotely. If these measures are not effective in serving our customers or affect the productivity of our employees, they may lead to significant disruptions in our business operations.

Many of our third-party service providers have also been, and may further be, affected by the same factors that affect us and that, in turn, increase their own risks of business disruption or may otherwise affect their ability to perform under the terms of any agreements with us or provide essential services. As a result, our operational and other risks are generally expected to increase until the pandemic subsides.

We are offering varying levels of credit relief to borrowers who are experiencing financial hardships related to COVID-19, including interest only payment concessions and payment deferrals. In addition, we are a certified and qualified SBA lender and assisted our customers with their applications under the PPP. These assistance efforts may adversely affect our revenue and results of operations. These government programs are complex, and our participation may lead to governmental and regulatory scrutiny, negative publicity and damage to our reputation. In addition, if these assistance efforts are not effective in mitigating the effects of COVID-19 on borrowers, we may experience higher rates of default and increased credit losses in future periods.

Certain concentrations where we have credit exposure, including commercial and residential lessors, hotels, medical service providers and restaurants, have experienced significant operational challenges as a result of COVID-19. These negative effects may cause our commercial customers to be unable to pay their loans as they come due or decrease the value of collateral, which we expect would cause significant increases in our credit losses.

Our earnings and cash flows are dependent to a large degree on net interest income. Net interest income is significantly affected by market rates of interest. Significant reductions to the federal funds rate have led to a decrease in the rates and yields on U.S. Treasury securities. If interest rates are reduced further in response to COVID-19, we expect that our net interest income will decline, perhaps significantly. The overall effect of lower interest rates cannot be predicted at this time and depends on future actions that the Federal Reserve may take to increase or reduce the targeted federal funds rate in response to COVID-19, and resulting economic conditions.

The effects of COVID-19 on economic and market conditions have increased demands on our liquidity as we meet our customers’ and clients’ needs. We have suspended repurchases under our stock repurchase program to preserve capital and liquidity in order to support our customers and employees and, although we have no current plans to reduce or suspend our common stock dividend, we will continue to exercise prudent capital management and monitor the business environment.

Governmental authorities have taken unprecedented measures to stabilize the markets and support economic growth. The success of these measures is unknown and they may not be sufficient to address the negative effects of COVID-19 or avert severe and prolonged reductions in economic activity.

Other negative effects of the COVID-19 pandemic that may impact our business, financial condition, liquidity, capital and results of operations cannot be predicted at this time, but it is likely that we will continue to be adversely

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affected until the pandemic subsides and the economy begins to recover. Further, COVID-19 may also have the effect of heightening many of the other risks described in our Annual Report on Form 10-K for the year ended December 31, 2019. Even after the pandemic subsides, it is possible that our markets continue to experience a prolonged recession, which we expect would materially and adversely affect our business, financial condition, liquidity, capital and results of operations.

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


Period	Total Number of Shares Purchased ⁽¹⁾	Average Price Paid Per Share		Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs	Maximum Number of Shares That May Yet Be Purchased Under the Program
April 1 - April 30, 2020	15,000	$	4.80	15,000	869,200
May 1 - May 31, 2020	—		—	—	—
June 1 - June 30, 2020	—		—	—	—
Total	15,000	$	4.80	15,000	869,200

⁽¹⁾ Effective January 22, 2020, the Company’s Board of Directors authorized a share repurchase program to purchase up to 1,000,000 shares of the Company’s common stock in open market transactions or privately negotiated transactions, including pursuant to a trading plan in accordance with Rule 10b5-1 and/or Rule 10b-18 under the Exchange Act. The Company purchased 115,800 shares under the program during the quarter ended March 31, 2020. The repurchase program is authorized for a one year period.

Item 3. Defaults upon Senior Securities

None.

Item 4. Mine Safety Disclosures

Not applicable

Item 5. Other Information

None.

Item 6. Exhibits

Exhibit No.		Description
31.1		Rule 13a-14(a)/15d-14(a) Certification for Chief Executive Officer*
31.2		Rule 13a-14(a)/15d-14(a) Certification for Chief Financial Officer*
32.1		Section 1350 Certifications*
101		Interactive Data File with respect to the following materials from the Company’s Quarterly Report on Form 10-Q for the period ended June 30, 2020 formatted in Inline Extensible Business Reporting Language (iXBRL): (i) the Unaudited Consolidated Balance Sheets, (ii) the Unaudited Consolidated Statements of Income, (iii) the Unaudited Consolidated Statements of Comprehensive Income, (iv) the Unaudited Consolidated Statements of Changes in Shareholders’ Equity, (v) the Unaudited Consolidated Statements of Cash Flows, and (vi) Notes to Unaudited Consolidated Financial Statements*
104		Cover Page Interactive Data File (formatted as inline XBRL and contained in Exhibit 101)

*	Filed herewith.

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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.

	COMMUNITY BANKERS TRUST CORPORATION
	(Registrant)

	/s/ Rex L. Smith, III
	Rex L. Smith, III
	President and Chief Executive Officer
	(principal executive officer)

Date: August 7, 2020

	/s/ Bruce E. Thomas
	Bruce E. Thomas
	Executive Vice President and Chief Financial Officer
	(principal financial officer)

Date: August 7, 2020

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Community Bankers Trust (ESXB) 10-Q2020 Q2 Quarterly report

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