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Form 10-Q Porter Bancorp, Inc. For: Mar 31

May 11, 2015 4:37 PM EDT
Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

 

FORM 10-Q

 

 

(Mark One)

x

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

For the Quarterly Period Ended March 31, 2015

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: 001-33033

 

 

PORTER BANCORP, INC.

(Exact name of registrant as specified in its charter)

 

 

 

Kentucky   61-1142247

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

2500 Eastpoint Parkway, Louisville, Kentucky   40223
(Address of principal executive offices)   (Zip Code)

(502) 499-4800

(Registrant’s telephone number, including area code)

 

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for 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  x    No  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).     Yes  x    No  ¨

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

 

Large accelerated filer

 

¨

  

Accelerated filer

 

¨

Non-accelerated filer

 

¨

  

Smaller reporting company

 

x

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

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

19,205,495 shares of Common Stock and 6,458,000 shares of Non-Voting Common Stock, no par value, were outstanding at April 30, 2015.

 

 

 


Table of Contents

INDEX

 

         Page  

PART I –

  FINANCIAL INFORMATION   

ITEM 1.

  FINANCIAL STATEMENTS      3   

ITEM 2.

  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS     
 
34
 
  
  

ITEM 3.

  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK      52   

ITEM 4.

  CONTROLS AND PROCEDURES      52   

PART II –

  OTHER INFORMATION   

ITEM 1.

  LEGAL PROCEEDINGS      53   

ITEM 1A.

  RISK FACTORS      53   

ITEM 2.

  UNREGISTERED SALES ON EQUITY SECURITIES AND USE OF PROCEEDS      53   

ITEM 3.

  DEFAULTS UPON SENIOR SECURITIES      53   

ITEM 4.

  MINE SAFETY DISCLOSURES      53   

ITEM 5.

  OTHER INFORMATION      53   

ITEM 6.

  EXHIBITS      53   

 

2


Table of Contents

PART I – FINANCIAL INFORMATION

Item 1. Financial Statements

The following consolidated financial statements of Porter Bancorp, Inc. and subsidiary, PBI Bank, Inc. are submitted:

 

Unaudited Consolidated Balance Sheets for March 31, 2015 and December 31, 2014

Unaudited Consolidated Statements of Operations for the three months ended March 31, 2015 and 2014

Unaudited Consolidated Statements of Comprehensive Income for the three months ended March 31, 2015 and 2014

Unaudited Consolidated Statement of Changes in Stockholders’ Equity for the three months ended March 31, 2015

Unaudited Consolidated Statements of Cash Flows for the three months ended March 31, 2015 and 2014

Notes to Unaudited Consolidated Financial Statements

 

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PORTER BANCORP, INC.

Unaudited Consolidated Balance Sheets

(dollars in thousands except share data)

 

     March 31,
2015
    December 31,
2014
 

Assets

    

Cash and due from banks

   $ 7,899      $ 14,169  

Interest bearing deposits in banks

     101,872        66,011   
  

 

 

   

 

 

 

Cash and cash equivalents

  109,771      80,180  

Securities available for sale

  157,290      190,791  

Securities held to maturity (fair value of $44,895 and $44,498, respectively)

  42,263      42,325   

Loans held for sale

  —        8,926  

Loans, net of allowance of $18,597 and $19,364, respectively

  613,831      605,635  

Premises and equipment, net

  19,323      19,507  

Other real estate owned

  43,618      46,197  

Federal Home Loan Bank stock

  7,323      7,323  

Bank owned life insurance

  9,231      9,167  

Accrued interest receivable and other assets

  7,056      7,938  
  

 

 

   

 

 

 

Total assets

$ 1,009,706    $ 1,017,989  
  

 

 

   

 

 

 

Liabilities and Stockholders’ Equity

Deposits

Non-interest bearing

$ 108,011    $ 114,910  

Interest bearing

  822,498      811,931  
  

 

 

   

 

 

 

Total deposits

  930,509      926,841  

Repurchase agreements

  1,145      1,341  

Federal Home Loan Bank advances

  3,597      15,752  

Accrued interest payable and other liabilities

  10,758      10,640  

Subordinated capital note

  4,725      4,950  

Junior subordinated debentures

  25,000      25,000  
  

 

 

   

 

 

 

Total liabilities

  975,734      984,524  

Stockholders’ equity

Preferred stock, no par

Series B - 0 and 40,536 issued and outstanding, respectively

  —        2,229   

Series D - 0 and 64,580 issued and outstanding, respectively

  —        3,552   

Series E - 6,198 issued and outstanding; Liquidation preference of $6.2 million

  1,644      1,644   

Series F - 4,304 issued and outstanding; Liquidation preference of $4.3 million

  1,127      1,127   
  

 

 

   

 

 

 

Total preferred stockholders’ equity

  2,771      8,552   
  

 

 

   

 

 

 

Common stock, no par, 86,000,000 shares authorized, 19,205,495 and 14,890,514 voting, and 6,458,000 and 0 non-voting shares issued and outstanding, respectively

  119,019      113,238  

Additional paid-in capital

  21,491      21,442  

Retained deficit

  (107,001   (107,595

Accumulated other comprehensive income (loss)

  (2,308   (2,172
  

 

 

   

 

 

 

Total common stockholders’ equity

  31,201      24,913   
  

 

 

   

 

 

 

Total stockholders’ equity

  33,972      33,465  
  

 

 

   

 

 

 

Total liabilities and stockholders’ equity

$ 1,009,706    $ 1,017,989  
  

 

 

   

 

 

 

See accompanying notes to unaudited consolidated financial statements.

 

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Table of Contents

PORTER BANCORP, INC.

Unaudited Consolidated Statements of Operations

(dollars in thousands, except per share data)

 

     Three Months Ended
March 31,
 
     2015      2014  

Interest income

     

Loans, including fees

   $ 7,755       $ 8,321  

Taxable securities

     1,126         1,173  

Tax exempt securities

     203         241  

Federal funds sold and other

     119         162  
  

 

 

    

 

 

 
  9,203      9,897  
  

 

 

    

 

 

 

Interest expense

Deposits

  1,692      2,361  

Junior subordinated debentures

  152      152  

Subordinated capital note

  42      50  

Federal Home Loan Bank advances

  27      33  

Federal funds purchased and other

  —        1  
  

 

 

    

 

 

 
  1,913      2,597  
  

 

 

    

 

 

 

Net interest income

  7,290      7,300  

Provision for loan losses

  —        —    
  

 

 

    

 

 

 

Net interest income after provision for loan losses

  7,290      7,300   

Non-interest income

Service charges on deposit accounts

  409      468  

Bank card interchange fees

  203      161  

Other real estate owned rental income

  357      7  

Net gain on sales of securities

  1,497      44  

Other

  230      235  
  

 

 

    

 

 

 
  2,696      915  
  

 

 

    

 

 

 

Non-interest expense

Salaries and employee benefits

  3,847      3,741  

Occupancy and equipment

  870      892  

Professional fees

  979      289   

FDIC insurance

  570      540  

Data processing expense

  304      269   

State franchise and deposit tax

  285      425  

Other real estate owned expense

  733      662   

Loan collection expense

  283      539  

Other

  1,521      1,145  
  

 

 

    

 

 

 
  9,392      8,502  
  

 

 

    

 

 

 

Income (loss) before income taxes

  594      (287

Income tax expense (benefit)

  —        —     
  

 

 

    

 

 

 

Net income (loss)

  594      (287

Less:

Dividends and accretion on preferred stock

  —        786   

Earnings (loss) allocated to participating securities

  185      (97
  

 

 

    

 

 

 

Net income (loss) attributable to common shareholders

$ 409    $ (976
  

 

 

    

 

 

 

Basic and diluted earnings (loss) per common share

$ 0.02    $ (0.08
  

 

 

    

 

 

 

See accompanying notes to unaudited consolidated financial statements.

 

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Table of Contents

PORTER BANCORP, INC.

Unaudited Consolidated Statements of Comprehensive Income

(in thousands)

 

     Three Months Ended
March 31,
 
     2015     2014  

Net income (loss)

   $ 594      $ (287

Other comprehensive income (loss):

    

Unrealized gain (loss) on securities:

    

Unrealized gain (loss) arising during the period

     (1,633     1,589   

Reclassification adjustment for losses (gains) included in net income

     (1,497     (44
  

 

 

   

 

 

 

Net unrealized gain/(loss) recognized in comprehensive income

  (136   1,633   

Tax effect

  —        —     
  

 

 

   

 

 

 

Other comprehensive income (loss)

  (136   1,663   
  

 

 

   

 

 

 

Comprehensive income

$ 458    $ 1,346   
  

 

 

   

 

 

 

See accompanying notes to unaudited consolidated financial statements.

 

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PORTER BANCORP, INC.

Unaudited Consolidated Statements of Changes in Stockholders’ Equity

For Three Months Ended March 31,

(Dollar amounts in thousands except share and per share data)

 

    Shares     Amount        
    Common     Preferred           Preferred     Common        
    Common     Non-Voting
Common
    Total
Common
    Series B     Series D     Series E     Series F     Common
and
Non-Voting
Common
    Series B     Series D     Series E     Series F     Additional
Paid-In
Capital
    Retained
Deficit
    Accumulated
Other
Compre-
hensive
Income
(Loss)
    Total  

Balances, January 1, 2015

    14,890,514        —         14,890,514       40,536        64,580        6,198        4,304      $ 113,238      $ 2,229     $ 3,552      $ 1,644      $ 1,127      $ 21,442     $ (107,595   $ (2,172 )   $ 33,465  

Issuance of unvested stock

    800,000        —          800,000       —          —          —          —          —          —          —          —          —          —          —          —          —     

Terminated stock

    (538,479     —          (538,479     —          —          —          —          —          —          —          —          —          —          —          —          —     

Forfeited unvested stock

    (140       (140                          

Stock-based compensation expense

    —          —          —          —          —          —          —          —          —          —          —          —          49       —          —          49   

Net income

    —          —          —          —          —          —          —          —          —          —          —          —          —          594        —          594   

Net change in accumulated other comprehensive income, net of taxes

    —          —          —          —          —          —          —          —          —          —          —          —          —          —          (136     (136

Conversion of preferred stock to common and non-voting common stock

    4,053,600        6,458,000        10,511,600        (40,536     (64,580     —          —          5,781        (2,229     (3,552     —          —          —          —          —          —     
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Balances, March 31, 2015

    19,205,495        6,458,000       25,663,495       —          —          6,198        4,304      $ 119,019      $ —        $ —        $ 1,644      $ 1,127      $ 21,491     $ (107,001   $ (2,308 )   $ 33,972  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

See accompanying notes.

 

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PORTER BANCORP, INC.

Unaudited Consolidated Statements of Cash Flows

For Three Months Ended March 31, 2015 and 2014

(dollars in thousands)

 

     2015     2014  

Cash flows from operating activities

    

Net income (loss)

   $ 594      $ (287

Adjustments to reconcile net loss to net cash from operating activities

    

Depreciation and amortization

     422       418  

Provision for loan losses

     —         —    

Net amortization on securities

     354       400  

Stock-based compensation expense

     49       133  

Net loss (gain) on sales of loans held for sale

     281        (24

Loans originated for sale

     (433     (872

Proceeds from sales of loans held for sale

     9,078       1,045  

Net (gain) loss on sales of other real estate owned

     (3     —    

Net write-down of other real estate owned

     300       250  

Net realized gain on sales of investment securities

     (1,497     (44

Earnings on bank owned life insurance, net of premium expense

     (64     (70

Net change in accrued interest receivable and other assets

     783        (879

Net change in accrued interest payable and other liabilities

     118        (349
  

 

 

   

 

 

 

Net cash from operating activities

  9,982     (279

Cash flows from investing activities

Purchases of available for sale securities

  (4,927   (6,183

Sales of available for sale securities

  34,138     329  

Maturities and prepayments of available for sale securities

  5,358     3,808  

Proceeds from mandatory redemption of Federal Home Loan Bank stock

  —        2,749   

Proceeds from sale of other real estate owned

  2,629     2,075  

Loan originations and payments, net

  (8,618   6,608  

Purchases of premises and equipment, net

  (63   (72
  

 

 

   

 

 

 

Net cash from investing activities

  28,517     9,314  
  

 

 

   

 

 

 

Cash flows from financing activities

Net change in deposits

  3,668      (12,832

Net change in repurchase agreements

  (196   (230

Repayment of Federal Home Loan Bank advances

  (17,155   (172

Advances from Federal Home Loan Bank

  5,000     25  

Repayment of subordinated capital note

  (225   (225
  

 

 

   

 

 

 

Net cash from financing activities

  (8,908   (13,434
  

 

 

   

 

 

 

Net change in cash and cash equivalents

  29,591      (4,399

Beginning cash and cash equivalents

  80,180     111,134  
  

 

 

   

 

 

 

Ending cash and cash equivalents

$ 109,771   $ 106,735  
  

 

 

   

 

 

 

Supplemental cash flow information:

Interest paid

$ 1,906   $ 2,491  

Income taxes paid (refunded)

  —        —     

Supplemental non-cash disclosure:

Transfer from loans to other real estate

$ 347   $ 17,351  

See accompanying notes to unaudited consolidated financial statements.

 

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PORTER BANCORP, INC.

Notes to Unaudited Consolidated Financial Statements

Note 1 – Basis of Presentation and Summary of Significant Accounting Policies

Basis of Presentation – The consolidated financial statements include Porter Bancorp, Inc. (Company) and its subsidiary, PBI Bank (Bank). The Company owns a 100% interest in the Bank. All significant inter-company transactions and accounts have been eliminated in consolidation.

The accompanying unaudited consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (GAAP) for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, the financial statements do not include all of the information and footnotes required by U.S. generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the three months ended March 31, 2015 are not necessarily indicative of the results that may be expected for the entire year. A description of other significant accounting policies is presented in the notes to the Consolidated Financial Statements for the year ended December 31, 2014 included in the Company’s Annual Report on Form 10-K.

Use of Estimates – To prepare financial statements in conformity with U.S. generally accepted accounting principles, management makes estimates and assumptions based on available information. These estimates and assumptions affect the amounts reported in the financial statements and the disclosures provided, and future results could differ.

Reclassifications – Some items in the prior year financial statements were reclassified to conform to the current presentation. The reclassifications did not impact net income (loss) or stockholders’ equity.

Note 2 – Going Concern Considerations and Future Plans

The consolidated financial statements have been prepared on a going concern basis, which contemplates the realization of assets and the satisfaction of liabilities in the normal course of business for the foreseeable future. However, the events and circumstances described in this Note create substantial doubt about the Company’s ability to continue as a going concern.

During the first three months of 2015, we reported net income attributable to common shareholders of $409,000, compared with net loss attributable to common shareholders of $976,000 for the first three months of 2014. The increase in 2015 compared to 2014 is primarily attributable to an increase in non-interest income, specifically gains on sales of securities and other real estate owned (OREO) income.

At March 31, 2015, we continued to be involved in various legal proceedings in which we dispute the material factual allegations against us. After conferring with our legal advisors, we believe we have meritorious grounds on which to prevail. If we do not prevail, the ultimate outcome of any one of these matters could have a material adverse effect on our financial condition, results of operations, or cash flows. These matters are more fully described in Note 13 – “Contingencies”.

For the year ended December 31, 2014, we reported a net loss of $11.2 million. This loss was attributable primarily to loan loss provision of $7.1 million, OREO expense of $5.8 million resulting from fair value write-downs driven by new appraisals and reduced marketing prices, and ongoing operating expense, along with $3.0 million in loan collection expenses. We also had lower net interest margin due to lower average loans outstanding, loans re-pricing at lower rates, and the level of non-performing loans in our portfolio. After deductions for dividends and accretion on preferred stock of $2.4 million, allocating losses to participating securities of $3.2 million, and the effect of the exchange of preferred stock for common stock of $36.1 million, net income attributable to common shareholders was $19.4 million for the year ended December 31, 2014, compared with a net loss attributable to common shareholders of $3.4 million for the year ended December 31, 2013.

In June 2011, the Bank agreed to a Consent Order with the FDIC and KDFI in which the Bank agreed, among other things, to improve asset quality, reduce loan concentrations, and maintain a minimum Tier 1 leverage ratio of 9% and a minimum total risk based capital ratio of 12%. In October 2012, the Bank entered into a revised Consent Order with the FDIC and KDFI again agreeing to maintain a minimum Tier 1 leverage ratio of 9% and a minimum total risk based capital ratio of 12%. The Bank also agreed that if it should be unable to reach the required capital levels, and if directed in writing by the FDIC, then the Bank would within 30 days develop, adopt and implement a written plan to sell or merge itself into another federally insured financial institution or otherwise immediately obtain a sufficient capital investment into the Bank to fully meet the capital requirements.

We expect to continue to work with our regulators toward capital ratio compliance. The revised Consent Order also requires the Bank to continue to adhere to the plans implemented in response to the June 2011 Consent Order, and includes the substantive provisions of the June 2011 Consent Order. The revised Consent Order was included in our Current Report on 8-K filed on September 19, 2012. As of March 31, 2015, the capital ratios required by the Consent Order were not met.

 

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Table of Contents

In order to meet these capital requirements, the Board of Directors and management are continuing to evaluate strategies to achieve the following objectives:

 

   

Increasing capital through the issuance of common stock to new and existing shareholders.

 

   

Continuing to operate the Company and Bank in a safe and sound manner. We have reduced our lending concentrations, and the size of our balance sheet while continuing to remediate non-performing loans, and reduce other noninterest expense through the disposition of OREO.

 

   

Evaluating and implementing improvements to our internal processes and procedures, distribution of labor, and work-flow to ensure we have adequately and appropriately deployed resources in an efficient manner in the current environment.

 

   

Executing on our commitment to improve credit quality and reduce loan concentrations and balance sheet risk.

 

   

We have reduced the size of our loan portfolio significantly from $1.3 billion at December 31, 2010 to $632.4 million at March 31, 2015.

 

   

We have reduced our construction and development loans to less than 75% of total risk-based capital at March 31, 2015.

 

   

We have reduced our non-owner occupied commercial real estate loans, construction and development loans, and multi-family residential real estate loans. These loans represented 243% of total risk-based capital at March 31, 2015, down from 262% at December 31, 2014.

 

   

Executing on our commitment to sell OREO and reinvest in quality income producing assets.

 

   

Our acquisition of real estate assets through the loan remediation process increased during 2014, as we acquired $32.3 million of OREO in 2014 compared with $20.6 million during 2013. We acquired $347,000 in the first three months of 2015. Additionally, nonaccrual loans totaled $36.5 million at March 31, 2015, and we expect to resolve many of these loans by foreclosure which could result in further additions to our OREO portfolio.

 

   

We incurred OREO losses totaling $297,000 during the first three months of 2015, comprised of $300,000 in fair value write-downs to reflect declines in appraisal valuations and changes in our pricing strategies, offset by $3,000 in net gain on sales of OREO.

 

   

To ensure we maximize the value we receive upon the sale of OREO, we continually evaluate sales opportunities. Proceeds from the sale of OREO totaled $2.6 million for the three months ended March 31, 2015, and $2.1 million for the three months ended March 31, 2014.

 

   

Real estate construction represents 42% of the OREO portfolio at March 31, 2015 compared with 40% at December 31, 2014. Commercial real estate represents 33% of the OREO portfolio at March 31, 2015 compared with 31% at December 31, 2014, and 1-4 family residential properties represent 14% of the portfolio at March 31, 2015 compared with 17% at December 31, 2014.

Bank regulatory agencies can exercise discretion when an institution does not meet the terms of a consent order. Based on individual circumstances, the agencies may issue mandatory directives, impose monetary penalties, initiate changes in management, or take more serious adverse actions such as directing a bank to seek a buyer or taking a bank into receivership.

The Company’s liquid assets were $1.6 million at March 31, 2015. Since the Bank is unlikely to be in a position to pay dividends to the parent company for the foreseeable future, cash inflows for the parent are limited to earnings on investment securities, sales of investment securities, interest on deposits with the Bank, the issuance of new debt, or the issuance of capital securities. Ongoing operating expenses of the parent company are forecasted at approximately $1.0 million for 2015.

Effective with the fourth quarter of 2011, we began deferring interest payments on the junior subordinated debentures relating to our trust preferred securities. Deferring interest payments on the junior subordinated debentures resulted in a deferral of distributions on our trust preferred securities. If we defer distributions on our trust preferred securities for 20 consecutive quarters, we must pay all deferred distributions in full or we will be in default. Our deferral period expires in the third quarter of 2016. Deferred distributions on our trust preferred securities, which totaled $2.3 million as of March 31, 2015, are cumulative, and unpaid distributions accrue and compound on each subsequent payment date. If as a result of a default we become subject to any liquidation, dissolution or winding up, holders of the trust preferred securities will be entitled to receive the liquidation amounts to which they are entitled, including all accrued and unpaid distributions, before any distribution can be made to our shareholders. In addition, the holders of our Series E and Series F Preferred Shares will be entitled to receive liquidation distributions totaling $10.5 million before any distribution can be made to the holders of our common shares.

 

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Table of Contents

Note 3 – Securities

The fair value of available for sale securities and the related gross unrealized gains and losses recognized in accumulated other comprehensive income (loss) were as follows:

 

     Amortized
Cost
     Gross
Unrealized
Gains
     Gross
Unrealized
Losses
     Fair Value  
     (in thousands)  

March 31, 2015

           

Available for sale

           

U.S. Government and federal agency

   $ 30,073      $ 235      $ (283    $ 30,025  

Agency mortgage-backed: residential

     104,912        2,136        (92      106,956  

State and municipal

     7,118        408        —           7,526   

Corporate bonds

     12,052        258        (192      12,118  

Other debt securities

     572        93        —          665  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total available for sale

$ 154,727   $ 3,130   $ (567 $ 157,290  
  

 

 

    

 

 

    

 

 

    

 

 

 

Held to maturity

State and municipal

$ 42,263   $ 2,632   $ —      $ 44,895  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total held to maturity

$ 42,263   $ 2,632   $ —      $ 44,895  
  

 

 

    

 

 

    

 

 

    

 

 

 

December 31, 2014

Available for sale

U.S. Government and federal agency

$ 35,725   $ 308   $ (590 $ 35,443  

Agency mortgage-backed: residential

  121,985     1,970     (357   123,598  

State and municipal

  11,690     722     (8   12,404   

Corporate bonds

  18,087     853     (252   18,688  

Other debt securities

  572     86     —       658  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total available for sale

$ 188,059   $ 3,939   $ (1,207 $ 190,791  
  

 

 

    

 

 

    

 

 

    

 

 

 

Held to maturity

State and municipal

$ 42,325   $ 2,173   $ —      $ 44,498   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total held to maturity

$ 42,325   $ 2,173   $ —      $ 44,498   
  

 

 

    

 

 

    

 

 

    

 

 

 

Sales and calls of available for sale securities were as follows:

 

     Three Months Ended
March 31,
 
     2015      2014  
     (in thousands)  

Proceeds

   $ 34,138      $ 329   

Gross gains

     1,551        44   

Gross losses

     54        —     

 

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Table of Contents

The amortized cost and fair value of the debt investment securities portfolio are shown by contractual maturity. Contractual maturities may differ from actual maturities if issuers have the right to call or prepay obligations with or without call or prepayment penalties. Mortgage-backed securities not due at a single maturity date are detailed separately.

 

     March 31, 2015  
     Amortized
Cost
     Fair
Value
 
     (in thousands)  

Maturity

     

Available for sale

     

Within one year

   $ 15,002      $ 15,102  

One to five years

     7,466        7,802  

Five to ten years

     26,775        26,765   

Beyond ten years

     572        665   

Agency mortgage-backed: residential

     104,912        106,956   
  

 

 

    

 

 

 

Total

$ 154,727   $ 157,290   
  

 

 

    

 

 

 

Held to maturity

One to five years

$ 10,840   $ 11,377   

Five to ten years

  27,867     29,641  

Beyond ten years

  3,556     3,877  
  

 

 

    

 

 

 

Total

$ 42,263   $ 44,895  
  

 

 

    

 

 

 

Securities pledged at March 31, 2015 and December 31, 2014 had carrying values of approximately $62.1 million and $80.8 million, respectively, and were pledged to secure public deposits and repurchase agreements.

At March 31, 2015 and December 31, 2014, we held securities issued by the Commonwealth of Kentucky or municipalities in the Commonwealth of Kentucky having a book value of $18.2 million and $19.1 million, respectively. Additionally, at March 31, 2015 and December 31, 2014, we held securities issued by the State of Texas or municipalities in the State of Texas having a book value of $4.4 million at each period end. At March 31, 2015 and December 31, 2014, there were no other holdings of securities of any one issuer, other than the U.S. Government and its agencies, in an amount greater than 10% of stockholders’ equity.

Securities with unrealized losses at March 31, 2015 and December 31, 2014, aggregated by investment category and length of time the individual securities have been in a continuous unrealized loss position, are as follows:

 

     Less than 12 Months     12 Months or More     Total  

Description of Securities

   Fair
Value
     Unrealized
Loss
    Fair
Value
     Unrealized
Loss
    Fair
Value
     Unrealized
Loss
 
     (in thousands)  

March 31, 2015

               

Available for sale

               

U.S. Government and federal agency

   $ 2,576      $ (5   $ 15,550      $ (278   $ 18,126      $ (283

Agency mortgage-backed: residential

     —          —          4,190        (92     4,190        (92

Corporate bonds

     2,299        (145     1,750        (47     4,049        (192
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total temporarily impaired

$ 4,875   $ (150 $ 21,490   $ (417 $ 26,365   $ (567
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

December 31, 2014

Available for sale

U.S. Government and federal agency

$ 7,778   $ (60 $ 18,681   $ (530 $ 26,459   $ (590

Agency mortgage-backed: residential

  6,960     (12   17,938     (345   24,898     (357

State and municipal

  569     (8   —       —       569     (8

Corporate bonds

  4,884     (119   1,660     (133   6,544     (252
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total temporarily impaired

$ 20,191   $ (199 $ 38,279   $ (1,008 $ 58,470   $ (1,207
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

There were no held to maturity securities in an unrealized loss position at March 31, 2015 or December 31, 2014.

 

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Table of Contents

The Company evaluates securities for other than temporary impairment (OTTI) on a quarterly basis. Consideration is given to the length of time and the extent to which the fair value has been less than cost, the financial condition and near-term prospects of the issuer, underlying credit quality of the issuer, and the intent and ability of the Company to retain its investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value. In analyzing an issuer’s financial condition, the Company may consider whether the securities are issued by the federal government or its agencies, whether downgrades by bond rating agencies have occurred, the sector or industry trends and cycles affecting the issuer, and the results of reviews of the issuer’s financial condition. Management currently intends to hold all securities with unrealized losses until recovery, which for fixed income securities may be at maturity. As of March 31, 2015, management does not believe securities within our portfolio with unrealized losses should be classified as other than temporarily impaired.

Note 4 – Loans

Loans were as follows:

 

     March 31,
2015
     December 31,
2014
 
     (in thousands)  

Commercial

   $ 76,954      $ 60,936  

Commercial Real Estate:

     

Construction

     36,793        33,173  

Farmland

     77,948        77,419  

Nonfarm nonresidential

     159,276        175,452  

Residential Real Estate:

     

Multi-family

     43,150        41,891  

1-4 Family

     197,583        197,278  

Consumer

     10,831        11,347  

Agriculture

     28,673        26,966  

Other

     1,220        537  
  

 

 

    

 

 

 

Subtotal

  632,428     624,999  

Less: Allowance for loan losses

  (18,597   (19,364
  

 

 

    

 

 

 

Loans, net

$ 613,831   $ 605,635  
  

 

 

    

 

 

 

The following table presents the activity in the allowance for loan losses by portfolio segment for the three months ended March 31, 2015 and 2014:

 

     Commercial     Commercial
Real Estate
    Residential
Real Estate
    Consumer     Agriculture     Other     Total  
     (in thousands)  

March 31, 2015:

              

Beginning balance

   $ 2,046     $ 10,931     $ 5,787     $ 274     $ 319     $ 7     $ 19,364  

Provision for loan losses

     269        7        (384     12       104       (8 )     —     

Loans charged off

     (375     (369     (482     (68     (33     —          (1,327

Recoveries

     106       111       300       26       1       16       560  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Ending balance

$ 2,046   $ 10,680   $ 5,221   $ 244   $ 391   $ 15   $ 18,597  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

March 31, 2014:

Beginning balance

$ 3,221   $ 16,414   $ 7,762   $ 416   $ 305   $ 6   $ 28,124  

Provision for loan losses

  445      (1,127   534      19     113     16     —     

Loans charged off

  (146   (1,474   (1,308   (128   (9   (17 )   (3,082

Recoveries

  88     116     83     76     6     4     373  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Ending balance

$ 3,608   $ 13,929   $ 7,071   $ 383   $ 415   $ 9   $ 25,415  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

13


Table of Contents

The following table presents the balance in the allowance for loan losses and the recorded investment in loans by portfolio segment and based on the impairment method as of March 31, 2015:

 

     Commercial      Commercial
Real Estate
     Residential
Real Estate
     Consumer      Agriculture      Other      Total  
     (in thousands)  

Allowance for loan losses:

                    

Ending allowance balance attributable to loans:

                    

Individually evaluated for impairment

   $ 2      $ 51      $ 200       $ 1       $ —        $ —        $ 254  

Collectively evaluated for impairment

     2,044        10,629        5,021         243         391        15        18,343  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total ending allowance balance

$ 2,046   $ 10,680   $ 5,221   $ 244   $ 391   $ 15   $ 18,597  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Loans:

Loans individually evaluated for impairment

$ 1,677   $ 32,731   $ 20,504   $ 32   $ 232   $ 123   $ 55,299  

Loans collectively evaluated for impairment

  75,277     241,286     220,229     10,799     28,441     1,097     577,129  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total ending loans balance

$ 76,954   $ 274,017   $ 240,733   $ 10,831   $ 28,673   $ 1,220   $ 632,428  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

The following table presents the balance in the allowance for loan losses and the recorded investment in loans by portfolio segment and based on the impairment method as of December 31, 2014:

 

     Commercial      Commercial
Real Estate
     Residential
Real Estate
     Consumer      Agriculture      Other      Total  
     (in thousands)  

Allowance for loan losses:

                    

Ending allowance balance attributable to loans:

                    

Individually evaluated for impairment

   $ 33      $ 491      $ 227      $ 1      $ —        $ —        $ 752  

Collectively evaluated for impairment

     2,013        10,440        5,560        273        319        7        18,612  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total ending allowance balance

$ 2,046   $ 10,931   $ 5,787   $ 274   $ 319   $ 7   $ 19,364  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Loans:

Loans individually evaluated for impairment

$ 2,022   $ 48,141   $ 21,384   $ 61   $ 263   $ 122   $ 71,993  

Loans collectively evaluated for impairment

  58,914     237,903     217,785     11,286     26,703     415     553,006  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total ending loans balance

$ 60,936   $ 286,044   $ 239,169   $ 11,347   $ 26,966   $    537   $ 624,999  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Impaired Loans

Impaired loans include restructured loans and loans on nonaccrual or classified as doubtful, whereby collection of the total amount is improbable, or loss, whereby all or a portion of the loan has been written off or a specific allowance for loss has been provided.

 

14


Table of Contents

The following tables present information related to loans individually evaluated for impairment by class of loans as of March 31, 2015 and December 31, 2014 and for the three months ended March 31, 2015 and 2014:

 

     As of March 31, 2015      Three Months Ended March 31, 2015  
     Unpaid
Principal
Balance
     Recorded
Investment
     Allowance
For Loan
Losses
Allocated
     Average
Recorded
Investment
     Interest
Income
Recognized
     Cash
Basis
Income
Recognized
 
     (in thousands)  

With No Related Allowance Recorded:

                 

Commercial

   $ 2,109       $ 1,664       $ —         $ 1,821       $ —         $ —     

Commercial real estate:

                 

Construction

     4,514         3,938         —           4,019         4         1   

Farmland

     7,064         4,870         —           4,804         23         23   

Nonfarm nonresidential

     34,805         23,421         —           22,920         65         —     

Residential real estate:

                 

Multi-family

     —           —           —           40         —           —     

1-4 Family

     16,813         14,570         —           14,918         134         47   

Consumer

     90         24         —           27         —           —     

Agriculture

     273         232         —           247         —           —     

Other

     368         123         —           123         2         2   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Subtotal

     66,036         48,842         —           48,919         228         73   

With An Allowance Recorded:

                 

Commercial

     13         13         2         29         —           —     

Commercial real estate:

                 

Construction

     —           —           —           —           —           —     

Farmland

     —           —           —           157         —           —     

Nonfarm nonresidential

     586         502         51         8,535         6         —     

Residential real estate:

                 

Multi-family

     4,250         4,250         84         4,258         47         —     

1-4 Family

     1,684         1,684         116         1,727         25         —     

Consumer

     8         8         1         20         —           —     

Agriculture

     —           —           —           —           —           —     

Other

     —           —           —           —           —           —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Subtotal

     6,541         6,457         254         14,726         78         —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 72,577       $ 55,299      $ 254      $ 63,645       $ 306      $ 73   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

     As of December 31, 2014      Three Months Ended March 31, 2014  
     Unpaid
Principal
Balance
     Recorded
Investment
     Allowance
For Loan
Losses
Allocated
     Average
Recorded
Investment
     Interest
Income
Recognized
     Cash
Basis
Income
Recognized
 
     (in thousands)  

With No Related Allowance Recorded:

                 

Commercial

   $ 2,546       $ 1,978       $ —         $ 2,679       $ 1       $ 1   

Commercial real estate:

                 

Construction

     4,714         4,100         —           7,433         3         —     

Farmland

     6,636         4,739         —           7,322         17         17   

Other

     34,437         22,418         —           58,027         182         —     

Residential real estate:

                 

Multi-family

     81         81         —           4,036         —           —     

1-4 Family

     18,496         15,266         —           29,053         286         169   

Consumer

     93         29        —           4         —           —     

Agriculture

     276         263        —           310         3        3   

Other

     367         122         —           408         7         7   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Subtotal

     67,646         48,996         —           109,272         499         197   

With An Allowance Recorded:

                 

Commercial

     145         44         33        2,218         18         —     

Commercial real estate:

                 

Construction

     —           —           —           1,117         6         —     

Farmland

     658         315         38        124         —           —     

Other

     19,454         16,569         453        16,564         109         —     

Residential real estate:

                 

Multi-family

     4,266        4,266        91        4,659         37         —     

1-4 Family

     1,791         1,771         136        2,001         19         —     

Consumer

     32        32        1        65         1         —     

Agriculture

     —           —           —           —           —           —     

Other

     —           —           —           —           —           —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Subtotal

     26,346         22,997         752         26,748         190         —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 93,992      $ 71,993      $ 752      $ 136,020       $ 689       $ 197   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

15


Table of Contents

Troubled Debt Restructuring

A troubled debt restructuring (TDR) occurs when the Company has agreed to a loan modification in the form of a concession for a borrower who is experiencing financial difficulty. The majority of the Company’s TDRs involve a reduction in interest rate, a deferral of principal for a stated period of time, or an interest only period. All TDRs are considered impaired and the Company has allocated reserves for these loans to reflect the present value of the concessionary terms granted to the borrower.

The following table presents the types of TDR loan modifications by portfolio segment outstanding as of March 31, 2015 and December 31, 2014:

 

     TDRs
Performing to
Modified
Terms
     TDRs Not
Performing to
Modified
Terms
     Total
TDRs
 
     (in thousands)  

March 31, 2015

        

Commercial

        

Rate reduction

   $ 13      $ 69      $ 82  

Principal deferral

     —           869        869  

Commercial Real Estate:

        

Construction

        

Rate reduction

     267        3,237        3,504  

Farmland

        

Principal deferral

     —           2,365        2,365  

Nonfarm nonresidential

        

Rate reduction

     5,543        12,462        18,005  

Principal deferral

     660         —           660   

Residential Real Estate:

        

Multi-family

        

Rate reduction

     4,250        —           4,250  

1-4 Family

        

Rate reduction

     8,057         —           8,057   

Consumer

        

Rate reduction

     8        —           8  
  

 

 

    

 

 

    

 

 

 

Total TDRs

$ 18,798   $ 19,002   $ 37,800  
  

 

 

    

 

 

    

 

 

 

 

     TDRs
Performing to
Modified Terms
     TDRs Not
Performing to
Modified Terms
     Total
TDRs
 
     (in thousands)  

December 31, 2014

        

Commercial

        

Rate reduction

   $ 14      $ —         $ 14  

Principal deferral

     —           869        869  

Commercial Real Estate:

        

Construction

        

Rate reduction

     268        3,379        3,647  

Farmland

        

Principal deferral

     —           2,365        2,365  

Other

        

Rate reduction

     8,622        13,894        22,516  

Principal deferral

     671        —           671   

Residential Real Estate:

        

Multi-family

        

Rate reduction

     4,266        —           4,266  

1-4 Family

        

Rate reduction

     8,112        —           8,112  

Consumer

        

Rate reduction

     32        —           32   
  

 

 

    

 

 

    

 

 

 

Total TDRs

$ 21,985   $ 20,507   $ 42,492  
  

 

 

    

 

 

    

 

 

 

 

16


Table of Contents

At March 31, 2015 and December 31, 2014, 50% and 52%, respectively, of the Company’s TDRs were performing according to their modified terms. The Company allocated $253,000 and $579,000 in reserves to borrowers whose loan terms have been modified in TDRs as of March 31, 2015, and December 31, 2014, respectively. The Company has committed to lend no additional amounts to customers as of March 31, 2015 and December 31, 2014 to borrowers with outstanding loans classified as TDRs.

Management periodically reviews renewals/modifications of previously identified TDRs, for which there was no principal forgiveness, to consider if it is appropriate to remove the TDR classification. If the borrower is no longer experiencing financial difficulty and the renewal/modification did not contain a concessionary interest rate or other concessionary terms, management considers the potential removal of the TDR classification. If deemed appropriate, the TDR classification is removed as the borrower has complied with the terms of the loan at the date of renewal/modification and there was a reasonable expectation that the borrower would continue to comply with the terms of the loan subsequent to the date of the renewal/modification. In this instance, the TDR was originally considered a restructuring in a prior year as a result of a modification with an interest rate that was not commensurate with the risk of the underlying loan. Additionally, TDR classification can be removed in circumstances in which the Company performs a non-concessionary re-modification of the loan at terms that were considered to be at market for loans with comparable risk. Management expects the borrower will continue to perform under the re-modified terms based on the borrower’s past history of performance.

No TDR loan modifications occurred during the three months ended March 31, 2015 or March 31, 2014. During the first three months of 2015 and 2014, no TDRs defaulted on their restructured loan within the 12 month period following the loan modification. A default is considered to have occurred once the TDR is past due 90 days or more or it has been placed on nonaccrual.

Nonperforming Loans

Nonperforming loans include impaired loans not on accrual and smaller balance homogeneous loans, such as residential mortgage and consumer loans, that are collectively evaluated for impairment.

The following table presents the recorded investment in nonaccrual and loans past due 90 days and still on accrual by class of loan as of March 31, 2015, and December 31, 2014:

 

     Nonaccrual      Loans Past Due 90 Days
And Over Still Accruing
 
     March 31,
2015
     December 31,
2014
     March 31,
2015
     December 31,
2014
 
     (in thousands)  

Commercial

   $ 1,663      $ 1,978       $ —         $ —     

Commercial Real Estate:

           

Construction

     3,671        3,831         —           —     

Farmland

     4,871        5,054         —           —     

Nonfarm nonresidential

     17,719        26,892         —           —     

Residential Real Estate:

           

Multi-family

     —           80         —           —     

1-4 Family

     8,197        8,925         —           151  

Consumer

     24        30         18        —     

Agriculture

     232         263         —           —     

Other

     123        122         —           —     
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

$ 36,500   $ 47,175    $ 18   $ 151  
  

 

 

    

 

 

    

 

 

    

 

 

 

 

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The following table presents the aging of the recorded investment in past due loans as of March 31, 2015 and December 31, 2014:

 

     30 – 59
Days
Past Due
     60 – 89
Days
Past Due
     90 Days
And Over
Past Due
     Nonaccrual      Total
Past Due
And
Nonaccrual
 
     (in thousands)  

March 31, 2015

              

Commercial

   $ 465      $ 4      $ —        $ 1,663      $ 2,132  

Commercial Real Estate:

              

Construction

     —          —          —          3,671        3,671  

Farmland

     343        230        —          4,871        5,444  

Nonfarm nonresidential

     356        221        —          17,719        18,296  

Residential Real Estate:

              

Multi-family

     —          42        —          —          42  

1-4 Family

     2,959        1,267        —          8,197        12,423  

Consumer

     156        5        18        24        203  

Agriculture

     91         —           —           232         323   

Other

     —          —          —          123        123  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

$ 4,370   $ 1,769   $ 18   $ 36,500   $ 42,657  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 
     30 – 59
Days
Past Due
     60 – 89
Days
Past Due
     90 Days
And Over
Past Due
     Nonaccrual      Total
Past Due
And
Nonaccrual
 
     (in thousands)  

December 31, 2014

              

Commercial

   $ 86      $ —        $ —        $ 1,978      $ 2,064  

Commercial Real Estate:

              

Construction

     —          —          —          3,831        3,831  

Farmland

     400        14        —          5,054        5,468  

Nonfarm nonresidential

     241        318        —          26,892        27,451  

Residential Real Estate:

              

Multi-family

     —          —          —          80        80  

1-4 Family

     3,124        601        151        8,925        12,801  

Consumer

     109        47        —          30        186  

Agriculture

     —          —          —          263        263  

Other

     —          —          —          122        122  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

$ 3,960   $ 980   $ 151   $ 47,175   $ 52,266  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Credit Quality Indicators

We categorize all loans into risk categories at origination based upon original underwriting. Thereafter, we categorize loans into risk categories based on relevant information about the ability of borrowers to service their debt such as current financial information, historical payment experience, credit documentation, public information, and current economic trends. Additionally, loans are analyzed continuously through our internal and external loan review processes. Borrower relationships in excess of $500,000 are routinely analyzed through our credit administration processes which classify the loans as to credit risk. The following definitions are used for risk ratings:

Watch – Loans classified as watch are those loans which have experienced a potentially adverse development which necessitates increased monitoring.

Special Mention – Loans classified as special mention do not have all of the characteristics of substandard or doubtful loans. They have one or more deficiencies which warrant special attention and which corrective action, such as accelerated collection practices, may remedy.

Substandard – Loans classified as substandard are those loans with clear and defined weaknesses such as a highly leveraged position, unfavorable financial ratios, uncertain repayment sources or poor financial condition which may jeopardize the repayment of the debt as contractually agreed. They are characterized by the distinct possibility we will sustain some losses if the deficiencies are not corrected.

Doubtful – Loans classified as doubtful are those loans which have characteristics similar to substandard loans but with an increased risk that collection or liquidation in full is highly questionable and improbable.

 

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Table of Contents

Loans not meeting the criteria above that are analyzed individually as part of the above described process are considered to be “Pass” rated loans. As of March 31, 2015, and December 31, 2014, and based on the most recent analysis performed, the risk category of loans by class of loans is as follows:

 

     Pass      Watch      Special
Mention
     Substandard      Doubtful      Total  
     (in thousands)  

March 31, 2015

                 

Commercial

   $ 67,239      $ 4,422      $ —        $ 5,293      $ —        $ 76,954  

Commercial Real Estate:

                 

Construction

     27,975        3,787        —          5,031        —          36,793  

Farmland

     63,761        6,834        —          7,353        —          77,948  

Nonfarm nonresidential

     107,808        26,755        797        23,916        —          159,276  

Residential Real Estate:

                 

Multi-family

     34,093        5,090        —          3,967        —          43,150  

1-4 Family

     150,241        19,869        12        27,461        —          197,583  

Consumer

     9,805        370        301        355        —          10,831  

Agriculture

     18,526        9,749        —          398        —          28,673  

Other

     1,097        —          —          123        —          1,220  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

$ 480,545   $ 76,876   $ 1,110   $ 73,897   $ —     $ 632,428  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 
     Pass      Watch      Special
Mention
     Substandard      Doubtful      Total  
     (in thousands)  

December 31, 2014

                 

Commercial

   $ 49,440      $ 5,063      $ —        $ 6,433      $ —        $ 60,936  

Commercial Real Estate:

                 

Construction

     25,266        2,990        —          4,917         —          33,173  

Farmland

     61,672        7,922        —          7,825         —          77,419  

Nonfarm nonresidential

     111,426        21,017        3,747        39,262         —          175,452  

Residential Real Estate:

                 

Multi-family

     31,526        6,039        —          4,326         —          41,891  

1-4 Family

     145,450        23,928        131        27,769         —          197,278  

Consumer

     10,115        537        311        384         —          11,347  

Agriculture

     25,816        704        —          446        —          26,966  

Other

     415        —           —           122        —           537  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

$ 461,126   $ 68,200   $ 4,189   $ 91,484   $ —     $ 624,999  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Note 5 – Other Real Estate Owned

Other real estate owned (OREO) is real estate acquired as a result of foreclosure or by deed in lieu of foreclosure. It is classified as real estate owned until such time as it is sold. When property is acquired as a result of foreclosure or by deed in lieu of foreclosure, it is recorded at its fair market value less cost to sell. Any write-down of the property at the time of acquisition is charged to the allowance for loan losses. Costs incurred in order to perfect the lien prior to foreclosure may be capitalized if the fair value less the cost to sell exceeds the balance of the loan at the time of transfer to OREO. Examples of eligible costs to be capitalized are payments of delinquent property taxes to clear tax liens or payments to contractors and subcontractors to clear mechanics’ liens. Subsequent reductions in fair value are recorded as non-interest expense.

To determine the fair value of OREO for smaller dollar single family homes, we consult with internal real estate sales staff and external realtors, investors, and appraisers. If the internally evaluated market price is below our underlying investment in the property, appropriate write-downs are taken. For larger dollar residential and commercial real estate properties, we obtain a new appraisal of the subject property or have staff from our special assets group or in our centralized appraisal department evaluate the latest in-file appraisal in connection with the transfer to other real estate owned. We typically obtain updated appraisals within five quarters of the anniversary date of ownership unless a sale is imminent.

 

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The following table presents the major categories of OREO at the period-ends indicated:

 

     March 31,
2015
     December 31,
2014
 
     (in thousands)  

Commercial Real Estate:

     

Construction, land development, and other land

   $ 18,319      $ 18,748  

Farmland

     256        669  

Nonfarm nonresidential

     14,592        14,860  

Residential Real Estate:

     

Multi-family

     4,700         4,988   

1-4 Family

     6,243        7,998  
  

 

 

    

 

 

 
  44,110     47,263  

Valuation allowance

  (492   (1,066
  

 

 

    

 

 

 
$ 43,618   $ 46,197  
  

 

 

    

 

 

 

 

     For the Three
Months Ended
March 31,
 
     2015      2014  
     (in thousands)  

OREO Valuation Allowance Activity:

     

Beginning balance

   $ 1,066      $ 230  

Provision to allowance

     300        250  

Write-downs

     (874      (272
  

 

 

    

 

 

 

Ending balance

$ 492   $ 208  
  

 

 

    

 

 

 

Residential loans secured by 1-4 family residential properties in the process of foreclosure totaled $2.6 million and $3.6 million at March 31, 2015 and December 31, 2014, respectively.

Net activity relating to other real estate owned during the three months ended March 31, 2015 and 2014 is as follows:

 

     For the Three
Months Ended
March 31,
 
     2015      2014  
     (in thousands)  

OREO Activity

     

OREO as of January 1

   $ 46,197      $ 30,892  

Real estate acquired

     347        17,351  

Valuation adjustment writedowns

     (300      (250

Gain/(loss) on sale

     3         —     

Proceeds from sale of properties

     (2,629      (2,075
  

 

 

    

 

 

 

OREO as of March 31

$ 43,618   $ 45,918  
  

 

 

    

 

 

 

Expenses related to other real estate owned include:

 

     For the Three Months
Ended March 31,
 
     2015      2014  
     (in thousands)  

Net (gain) loss on sales

   $ (3 )    $ —    

Provision to allowance

     300        250  

Operating expense

     436        412  
  

 

 

    

 

 

 

Total

$ 733   $ 662  
  

 

 

    

 

 

 

 

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Table of Contents

Note 6 – Deposits

The following table shows ending deposit balances by category as of:

 

     March 31,
2015
     December 31,
2014
 
     (in thousands)  

Non-interest bearing

   $ 108,011      $ 114,910   

Interest checking

     86,614        91,086   

Money market

     102,349         109,734   

Savings

     36,418         36,430   

Certificates of deposit

     597,117         574,681   
  

 

 

    

 

 

 

Total

$ 930,509   $ 926,841  
  

 

 

    

 

 

 

Time deposits of $250,000 or more were $36.7 million and $34.4 million at March 31, 2015 and December 31, 2014, respectively.

Scheduled maturities of all time deposits at March 31, 2015 were as follows (in thousands):

 

Year 1

$ 371,065   

Year 2

  161,220  

Year 3

  11,268  

Year 4

  11,505  

Year 5

  42,058  

Thereafter

  1  
  

 

 

 
$ 597,117  
  

 

 

 

Note 7 – Advances from the Federal Home Loan Bank

Advances from the Federal Home Loan Bank were as follows:

 

     March 31,
2015
     December 31,
2014
 
     (in thousands)  

Monthly amortizing advances with fixed rates from 0.00% to 5.25% and maturities ranging from 2017 through 2033, averaging 2.85% at March 31, 2015 and 1.02% at December 31, 2014

   $ 3,597      $ 15,752  
  

 

 

    

 

 

 

Each advance is payable based upon the terms on agreement, with a prepayment penalty. New advances are limited to a one year maturity or less. No prepayment penalties were incurred during 2015 or 2014. The advances are collateralized by first mortgage loans. The borrowing capacity is based on the market value of the underlying pledged loans. At March 31, 2015, our additional borrowing capacity with the FHLB was $23.4 million. The availability of our borrowing capacity could be affected by our financial condition and the FHLB could require additional collateral or, among other things, exercise its right to deny a funding request, at its discretion.

Note 8 – Fair Values Measurement

Fair value is the exchange price that would be received for an asset or paid to transfer a liability (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. We use various valuation techniques to determine fair value, including market, income and cost approaches. There are three levels of inputs that may be used to measure fair values:

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

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

Level 3: Significant unobservable inputs that reflect an entity’s own assumptions about the assumptions that market participants would use in pricing an asset or liability.

 

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Table of Contents

In certain cases, the inputs used to measure fair value may fall into different levels of the fair value hierarchy. When that occurs, we classify the fair value hierarchy on the lowest level of input that is significant to the fair value measurement. We used the following methods and significant assumptions to estimate fair value.

Securities: The fair values of securities available for sale are determined by obtaining quoted prices on nationally recognized securities exchanges, if available. This valuation method is classified as Level 1 in the fair value hierarchy. For securities where quoted prices are not available, fair values are calculated on market prices of similar securities, or matrix pricing, which is a mathematical technique used widely in the industry to value debt securities without relying exclusively on quoted prices for the specific securities but rather by relying on the securities’ relationship to other benchmark quoted securities. Matrix pricing relies on the securities’ relationship to similarly traded securities, benchmark curves, and the benchmarking of like securities. Matrix pricing utilizes observable market inputs such as benchmark yields, reported trades, broker/dealer quotes, issuer spreads, two-sided markets, benchmark securities, bids, offers, reference data, and industry and economic events. In instances where broker quotes are used, these quotes are obtained from market makers or broker-dealers recognized to be market participants. This valuation method is classified as Level 2 in the fair value hierarchy. For securities where quoted prices or market prices of similar securities are not available, fair values are calculated using discounted cash flows or other market indicators. This valuation method is classified as Level 3 in the fair value hierarchy. Discounted cash flows are calculated using spread to swap and LIBOR curves that are updated to incorporate loss severities, volatility, credit spread and optionality. During times when trading is more liquid, broker quotes are used (if available) to validate the model. Rating agency and industry research reports as well as defaults and deferrals on individual securities are reviewed and incorporated into the calculations.

Impaired Loans: An impaired loan is evaluated at the time the loan is identified as impaired and is recorded at fair value less costs to sell. Fair value is measured based on the value of the collateral securing the loan and is classified as Level 3 in the fair value hierarchy. Fair value is determined using several methods. Generally, the fair value of real estate is determined based on appraisals by qualified licensed appraisers. These appraisals may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach.

Adjustments are routinely made in the appraisal process by the appraisers to adjust for differences between the comparable sales and income data available. These routine adjustments are made to adjust the value of a specific property relative to comparable properties for variations in qualities such as location, size, and income production capacity relative to the subject property of the appraisal. Such adjustments are typically significant and result in a Level 3 classification of the inputs for determining fair value.

We routinely apply an internal discount to the value of appraisals used in the fair value evaluation of our impaired loans. The deductions to the appraisal take into account changing business factors and market conditions, as well as potential value impairment in cases where our appraisal date predates a likely change in market conditions. These deductions range from 10% for routine real estate collateral to 25% for real estate that is determined (1) to have a thin trading market or (2) to be specialized collateral. This is in addition to estimated discounts for cost to sell of six to ten percent.

We also apply discounts to the expected fair value of collateral for impaired loans where the likely resolution involves litigation or foreclosure. Resolution of this nature generally results in receiving lower values for real estate collateral in a more aggressive sales environment. We have utilized discounts ranging from 10% to 33% in our impairment evaluations when applicable.

Impaired loans are evaluated quarterly for additional impairment. We obtain updated appraisals on properties securing our loans when circumstances are warranted such as at the time of renewal or when market conditions have significantly changed. This determination is made on a property-by-property basis in light of circumstances in the broader economic climate and our assessment of deterioration of real estate values in the market in which the property is located. The first stage of our assessment involves management’s inspection of the property in question. Management also engages in conversations with local real estate professionals, investors, and market participants to determine the likely marketing time and value range for the property. The second stage involves an assessment of current trends in the regional market. After thorough consideration of these factors, management will either internally evaluate fair value or order a new appraisal.

Other Real Estate Owned (OREO): OREO is evaluated at the time of acquisition and recorded at fair value as determined by independent appraisal or internal evaluation less cost to sell. Our quarterly evaluations of OREO for impairment are driven by property type. For smaller dollar single family homes, we consult with internal real estate sales staff and external realtors, investors, and appraisers. Based on these consultations, we determine asking prices for OREO properties we are marketing for sale. If the internally evaluated fair value is below our recorded investment in the property, appropriate write-downs are taken.

 

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Table of Contents

For larger dollar commercial real estate properties, we obtain a new appraisal of the subject property or have staff in our special assets group or centralized appraisal department evaluate the latest in-file appraisal in connection with the transfer to other real estate owned. In some of these circumstances, an appraisal is in process at quarter end, and we must make our best estimate of the fair value of the underlying collateral based on our internal evaluation of the property, review of the most recent appraisal, and discussions with the currently engaged appraiser. We generally obtain updated appraisals within five quarters of the anniversary date of ownership unless a sale is imminent.

We routinely apply an internal discount to the value of appraisals used in the fair value evaluation of our OREO. The deductions to the appraisal take into account changing business factors and market conditions, as well as potential value impairment in cases where our appraisal date predates a likely change in market conditions. These deductions range from 10% for routine real estate collateral to 25% for real estate that is determined (1) to have a thin trading market or (2) to be specialized collateral. This is in addition to estimated discounts for cost to sell of six to ten percent.

Financial assets measured at fair value on a recurring basis at March 31, 2015 and December 31, 2014 are summarized below:

 

            Fair Value Measurements at March 31, 2015 Using  
            (in thousands)  

Description

   Carrying
Value
     Quoted Prices In
Active Markets for
Identical Assets
(Level 1)
     Significant Other
Observable Inputs
(Level 2)
     Significant
Unobservable
Inputs
(Level 3)
 

Available for sale securities

           

U.S. Government and federal agency

   $ 30,025      $ —        $ 30,025      $ —     

Agency mortgage-backed: residential

     106,956        —           106,956        —     

State and municipal

     7,526        —           7,526        —     

Corporate bonds

     12,118        —           12,118        —     

Other debt securities

     665        —           —           665  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

$ 157,290   $ —      $ 156,625   $ 665  
  

 

 

    

 

 

    

 

 

    

 

 

 

 

            Fair Value Measurements at December 31, 2014 Using  
            (in thousands)  

Description

   Carrying
Value
     Quoted Prices In
Active Markets for
Identical Assets
(Level 1)
     Significant Other
Observable Inputs
(Level 2)
     Significant
Unobservable
Inputs
(Level 3)
 

Available for sale securities

           

U.S. Government and federal agency

   $ 35,443      $ —         $ 35,443      $ —     

Agency mortgage-backed: residential

     123,598        —           123,598        —     

State and municipal

     12,404        —           12,404        —     

Corporate bonds

     18,688        —           18,688        —     

Other debt securities

     658        —           —           658   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

$ 190,791   $ —      $ 190,133   $ 658   
  

 

 

    

 

 

    

 

 

    

 

 

 

There were no transfers between Level 1 and Level 2 during 2015 or 2014.

The table below presents a reconciliation of all assets measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for the periods ended March 31, 2015 and 2014:

 

     Other Debt
Securities
 
     2015      2014  
     (in thousands)  

Balances of recurring Level 3 assets at January 1

   $ 658      $ 632  

Total gain (loss) for the period:

     

Included in other comprehensive income (loss)

     7        12   
  

 

 

    

 

 

 

Balance of recurring Level 3 assets at March 31

$ 665   $ 644  
  

 

 

    

 

 

 

Our other debt security valuation is determined internally by calculating discounted cash flows using the security’s coupon rate of 6.5% and an estimated current market rate of 8.0% based upon the current yield curve plus spreads that adjust for volatility, credit risk, and optionality. We also consider the issuer’s publicly filed financial information as well as assumptions regarding the likelihood of deferrals and defaults.

 

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Table of Contents

Financial assets measured at fair value on a non-recurring basis are summarized below:

 

            Fair Value Measurements at March 31, 2015 Using  
            (in thousands)  

Description

   Carrying
Value
     Quoted Prices In
Active Markets for
Identical Assets
(Level 1)
     Significant Other
Observable Inputs
(Level 2)
     Significant
Unobservable
Inputs
(Level 3)
 

Impaired loans:

           

Commercial

   $ 11       $ —         $ —         $ 11   

Commercial real estate:

           

Construction

     —           —           —           —     

Farmland

     —           —           —           —     

Nonfarm nonresidential

     162         —           —           162   

Residential real estate:

           

Multi-family

     —           —           —           —     

1-4 Family

     1,568         —           —           1,568   

Consumer

     8         —           —           8   

Other

     —           —           —           —     

Other real estate owned, net:

           

Commercial real estate:

           

Construction

     18,114        —           —           18,114  

Farmland

     253        —           —           253  

Nonfarm nonresidential

     14,429        —           —           14,429  

Residential real estate:

           

Multi-family

     4,648        —           —           4,648   

1-4 Family

     6,174        —           —           6,174  

 

            Fair Value Measurements at December 31, 2014 Using  
            (in thousands)  

Description

   Carrying
Value
     Quoted Prices In
Active Markets for
Identical Assets
(Level 1)
     Significant Other
Observable Inputs
(Level 2)
     Significant
Unobservable
Inputs
(Level 3)
 

Impaired loans:

           

Commercial

   $ 12       $ —         $ —         $ 12   

Commercial real estate:

           

Construction

     —           —           —           —     

Farmland

     278         —           —           278   

Other

     15,825         —           —           15,825   

Residential real estate:

           

Multi-family

     —           —           —           —     

1-4 Family

     1,635         —           —           1,635   

Consumer

     31         —           —           31   

Other

     —           —           —           —     

Other real estate owned, net:

           

Commercial real estate:

           

Construction

     18,325        —           —           18,325  

Farmland

     654        —           —           654  

Other

     14,525        —           —           14,525  

Residential real estate:

           

Multi-family

     4,875        —           —           4,875   

1-4 Family

     7,818        —           —           7,818  

Impaired loans, which are measured for impairment using the fair value of the collateral for collateral dependent loans, had a carrying amount of $1.9 million at March 31, 2015 with a valuation allowance of $254,000, resulting in no additional provision for loan losses for the three months ended March 31, 2015. Impaired loans had a carrying amount of $15.6 million with a valuation allowance of $2.5 million, and no additional provision for the three months ended March 31, 2014. At December 31, 2014, impaired loans had a carrying amount of $18.4 million, with a valuation allowance of $752,000.

OREO, which is measured at the lower of carrying or fair value less estimated costs to sell, had a net carrying amount of $43.6 million as of March 31, 2015, compared with $45.9 million at March 31, 2014 and $46.2 million at December 31, 2014. Fair value write-downs of $300,000 and $250,000 were recorded on OREO for the three months ended March 31, 2015 and 2014, respectively.

 

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The following table presents qualitative information about level 3 fair value measurements for financial instruments measured at fair value on a non-recurring basis at March 31, 2015:

 

     Fair Value     

Valuation
Technique(s)

  

Unobservable Input(s)

  Range (Weighted
Average)
     (in thousands)                

Impaired loans – Commercial

   $ 11       Market value approach    Adjustment for receivables and inventory discounts   16% - 32% (24%)

Impaired loans – Commercial real estate

   $ 162      

Sales comparison approach

  

Adjustment for differences between the comparable sales

  0% - 62% (16%)
      Income approach    Discount or capitalization rate   8% - 9% (8%)

Impaired loans – Residential real estate

   $ 1,568       Sales comparison approach    Adjustment for differences between the comparable sales   0% - 39% (11%)

Other real estate owned – Commercial real estate

   $ 32,796     

Sales comparison approach

  

Adjustment for differences between the comparable sales

  0% - 45% (18%)
      Income approach    Discount or capitalization rate   8% - 20% (13%)

Other real estate owned – Residential real estate

   $ 10,822      Sales comparison approach    Adjustment for differences between the comparable sales   0% - 10% (5%)

The following table presents qualitative information about level 3 fair value measurements for financial instruments measured at fair value on a non-recurring basis at December 31, 2014:

 

     Fair Value     

Valuation
Technique(s)

  

Unobservable Input(s)

   Range (Weighted
Average)
     (in thousands)                 

Impaired loans – Commercial

   $ 12       Market value approach    Adjustment for receivables and inventory discounts    16% -32% (24%)

Impaired loans – Commercial real estate

   $ 16,103      

Sales comparison approach

  

Adjustment for differences between the comparable sales

   0% - 62% (14%)
      Income approach    Discount or capitalization rate    8% - 9% (8%)

Impaired loans – Residential real estate

   $ 1,635       Sales comparison approach    Adjustment for differences between the comparable sales    0% - 39% (11%)

Other real estate owned – Commercial real estate

   $ 33,504      Sales comparison approach    Adjustment for differences between the comparable sales    0% - 45% (18%)
      Income approach    Discount or capitalization rate    9% - 20% (13%)

Other real estate owned – Residential real estate

   $ 12,693      Sales comparison approach    Adjustment for differences between the comparable sales    0% - 15% (6%)

 

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Carrying amount and estimated fair values of financial instruments were as follows for the periods indicated:

 

            Fair Value Measurements at March 31, 2015 Using  
     Carrying
Amount
     Level 1      Level 2      Level 3      Total  
     (in thousands)  

Financial assets

              

Cash and cash equivalents

   $ 109,771      $ 96,168      $ 13,603      $ —        $ 109,771  

Securities available for sale

     157,290        —          156,625        665        157,290  

Securities held to maturity

     42,263         —           44,895         —           44,895   

Federal Home Loan Bank stock

     7,323        N/A         N/A         N/A         N/A   

Loans held for sale

     —          —          —          —          —    

Loans, net

     613,831        —          —          622,241        622,241  

Accrued interest receivable

     3,036        —          1,072        1,964        3,036  

Financial liabilities

              

Deposits

   $ 930,509      $ 108,011      $ 817,396      $ —        $ 925,407  

Securities sold under agreements to repurchase

     1,145        —          1,145        —          1,145  

Federal Home Loan Bank advances

     3,597        —          3,604        —          3,604  

Subordinated capital notes

     4,725        —          —          4,558        4,558  

Junior subordinated debentures

     25,000        —          —          14,433        14,433  

Accrued interest payable

     2,864        —          606        2,258        2,864  
            Fair Value Measurements at December 31, 2014 Using  
     Carrying
Amount
     Level 1      Level 2      Level 3      Total  
     (in thousands)  

Financial assets

              

Cash and cash equivalents

   $ 80,180      $ 49,007      $ 31,173      $ —        $ 80,180  

Securities available for sale

     190,791        —          190,133        658        190,791  

Securities held to maturity

     42,325         —           44,498         —           44,498   

Federal Home Loan Bank stock

     7,323        N/A         N/A         N/A         N/A   

Loans held for sale

     8,926        —          8,926        —          8,926  

Loans, net

     605,635        —          —          615,914        615,914  

Accrued interest receivable

     3,503        —          1,389        2,114        3,503  

Financial liabilities

              

Deposits

   $ 926,841      $ 114,910      $ 804,508      $ —        $ 919,418  

Securities sold under agreements to repurchase

     1,341        —          1,341        —          1,341  

Federal Home Loan Bank advances

     15,752        —          15,758        —          15,758  

Subordinated capital notes

     4,950        —          —          4,765        4,765  

Junior subordinated debentures

     25,000        —          —          14,214        14,214  

Accrued interest payable

     2,858        —          751        2,107        2,858  

The methods and assumptions, not previously presented, used to estimate fair values are described as follows:

(a) Cash and Cash Equivalents

The carrying amounts of cash and short-term instruments approximate fair values and are classified as either Level 1 or Level 2. Non-interest bearing deposits are Level 1 whereas interest bearing due from bank accounts and fed funds sold are Level 2.

(b) FHLB Stock

It is not practical to determine the fair value of FHLB stock due to restrictions placed on its transferability.

(c) Loans, Net

Fair values of loans, excluding loans held for sale, are estimated as follows: For variable rate loans that reprice frequently and with no significant change in credit risk, fair values are based on carrying values resulting in a Level 3 classification. Fair values for other loans are estimated using discounted cash flow analyses, using interest rates currently being offered for loans with similar terms to borrowers of similar credit quality resulting in a Level 3 classification. Impaired loans are valued at the lower of cost or fair value as described previously. The methods utilized to estimate the fair value of loans do not necessarily represent an exit price.

(d) Loans Held for Sale

The fair value of loans held for sale is estimated based upon binding contracts and and/or quotes from third party investors resulting in a Level 2 classification.

 

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(e) Deposits

The fair values disclosed for non-interest bearing deposits are, by definition, equal to the amount payable on demand at the reporting date resulting in a Level 1 classification. The carrying amounts of variable rate interest bearing deposits approximate their fair values at the reporting date resulting in a Level 2 classification. Fair values for fixed rate interest bearing deposits are estimated using a discounted cash flows calculation that applies interest rates currently being offered on certificates to a schedule of aggregated expected monthly maturities on time deposits resulting in a Level 2 classification.

(f) Securities Sold Under Agreements to Repurchase

The carrying amounts of borrowings under repurchase agreements approximate their fair values resulting in a Level 2 classification.

(g) Other Borrowings

The fair values of the Company’s FHLB advances are estimated using discounted cash flow analyses based on the current borrowing rates resulting in a Level 2 classification.

The fair values of the Company’s subordinated capital notes and junior subordinated debentures are estimated using discounted cash flow analyses based on the current borrowing rates for similar types of borrowing arrangements resulting in a Level 3 classification.

(h) Accrued Interest Receivable/Payable

The carrying amounts of accrued interest approximate fair value resulting in a Level 2 or Level 3 classification based on the level of the asset or liability with which the accrual is associated.

Note 9 – Income Taxes

Deferred tax assets and liabilities were due to the following as of:

 

     March 31,
2015
     December 31,
2014
 
     (in thousands)  

Deferred tax assets:

     

Net operating loss carry-forward

   $ 32,067      $ 32,111  

Allowance for loan losses

     6,509        6,777  

Other real estate owned write-down

     9,899        10,000  

Alternative minimum tax credit carry-forward

     692        692  

Net assets from acquisitions

     670        668  

Other than temporary impairment on securities

     46        46  

New market tax credit carry-forward

     208        208  

Nonaccrual loan interest

     847         958   

Amortization of non-compete agreements

     13        14  

Other

     1,873        1,371  
  

 

 

    

 

 

 
  52,824     52,845  
  

 

 

    

 

 

 

Deferred tax liabilities:

FHLB stock dividends

  928     928  

Fixed assets

  248     264  

Originated mortgage servicing rights

  48     53  

Net unrealized gain on securities

  530     579  

Other

  668     373  
  

 

 

    

 

 

 
  2,422     2,197  
  

 

 

    

 

 

 

Net deferred tax assets before valuation allowance

  50,402     50,648  
  

 

 

    

 

 

 

Valuation allowance

  (50,402   (50,648
  

 

 

    

 

 

 

Net deferred tax asset

$ —      $ —     
  

 

 

    

 

 

 

Our estimate of the realizability of the deferred tax asset is dependent on our estimate of projected future levels of taxable income. In analyzing future taxable income levels, we considered all evidence currently available, both positive and negative. Based on our analysis, we established a valuation allowance for all deferred tax assets as of December 31, 2011. The valuation allowance remains in effect as of March 31, 2015.

 

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The calculation for the income tax provision or benefit generally does not consider the tax effects of changes in other comprehensive income, or OCI, which is a component of stockholders’ equity on the balance sheet. However, an exception is provided in certain circumstances, such as when there is a full valuation allowance against net deferred tax assets, there is a loss from continuing operations and there is income in other components of the financial statements. In such a case, pre-tax income from other categories, such as changes in OCI, must be considered in determining a tax benefit to be allocated to the loss from continuing operations. For the year ended December 31, 2014, this resulted in $1.6 million of income tax benefit allocated to continuing operations. The December 31, 2014 tax benefit is entirely due to gains in other comprehensive income that are presented in current operations in accordance with applicable accounting standards. No tax benefit or expense was recognized for the three months ended March 31, 2015 or the three months ended March 31, 2014.

The Company does not have any beginning and ending unrecognized tax benefits. The Company does not expect the total amount of unrecognized tax benefits to significantly increase or decrease in the next twelve months. There were no interest and penalties recorded in the income statement or accrued for the three months ended March 31, 2015 or March 31, 2014 related to unrecognized tax benefits.

The Company and its subsidiaries are subject to U.S. federal income tax and the Company is subject to income tax in the Commonwealth of Kentucky. The Company is no longer subject to examination by taxing authorities for years before 2011.

Note 10 – Stock Plans and Stock Based Compensation

The Company has two stock incentive plans. The Porter Bancorp, Inc. 2006 Stock Incentive Plan permits the issuance of up to 1,563,050 shares of the Company’s common stock upon the grant of stock awards. As of March 31, 2015, the Company had issued and outstanding 1,056,243 unvested shares net of forfeitures and vesting under the stock incentive plan. Shares issued under the plan vest annually on the anniversary date of the grant over three to ten years. The Company has 271,890 shares remaining available for issue under the plan.

The Porter Bancorp, Inc. 2006 Non-Employee Directors Stock Ownership Incentive Plan permits the issuance of up to 700,000 shares of the Company’s voting common stock upon the grant of stock awards. The Plan awards restricted shares having a fair market value of $25,000 annually to each non-employee director. Unvested shares are granted automatically under the plan at fair market value on the date of grant and vest on December 31 in the year of grant. To date, the Company has issued and outstanding 5,052 unvested shares, net of forfeitures and vesting, to non-employee directors. At March 31, 2015, 301,512 shares remain available for issuance under this plan.

Upon the sale of our Series A preferred shares by the U.S. Treasury at a discount to face amount on December 4, 2014, restricted shares previously granted to senior executives became subject to permanent transfer restrictions. On March 25, 2015, the Compensation Committee modified the equity compensation arrangements with our four named executive officers to restore the incentive that was intended by including equity grants in their employment agreements. The Compensation Committee and the named executive officers mutually agreed to terminate 538,479 restricted shares that were subject to permanent restrictions on transfer. We then awarded 800,000 new service-based restricted shares to our named executive officers. The new awards are accounted for as a modification and vest over four years, with one-third of the shares vesting on each of the second, third and fourth anniversaries of the date of grant. The modification results in incremental compensation expense of approximately $233,000 and will be amortized in accordance with the vesting schedule.

The fair value of the 2015 unvested shares issued to employees was $712,000, or $0.89 per weighted-average share. The Company recorded $49,000 and $133,000 of stock-based compensation during the first three months of 2015 and 2014, respectively, to salaries and employee benefits. We expect substantially all of the unvested shares outstanding at the end of the period will vest according to the vesting schedule. No deferred tax benefit was recognized related to this expense for either period.

The following table summarizes unvested share activity as of and for the periods indicated for the Stock Incentive Plan:

 

     Three Months Ended
March 31, 2015
     Twelve Months Ended
December 31, 2014
 
     Shares      Weighted
Average
Grant
Price
     Shares      Weighted
Average
Grant
Price
 

Outstanding, beginning

     770,440      $ 1.33         787,426      $ 1.56  

Granted

     800,000        0.89         122,220        0.93  

Vested

     (63,063      2.00         (133,227      2.20  

Terminated

     (450,994      1.25         —           —     

Forfeited

     (140      22.03         (5,979      4.21  
  

 

 

       

 

 

    

Outstanding, ending

  1,056,243   $ 0.99      770,440   $ 1.33  
  

 

 

       

 

 

    

 

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The following table summarizes unvested share activity as of and for the periods indicated for the Non-Employee Directors Stock Ownership Incentive Plan:

 

     Three Months Ended
March 31, 2015
     Twelve Months Ended
December 31, 2014
 
     Shares      Weighted
Average
Grant
Price
     Shares      Weighted
Average
Grant
Price
 

Outstanding, beginning

     5,052      $ 1.65         47,428      $ 1.69  

Granted

     —           —           166,668        0.90  

Vested

     —           —           (154,222      0.98  

Forfeited

     —           —           (54,822      1.29  
  

 

 

       

 

 

    

Outstanding, ending

  5,052   $ 1.65      5,052   $ 1.65  
  

 

 

       

 

 

    

Unrecognized stock based compensation expense related to unvested shares for the remainder of 2015 and beyond is estimated as follows (in thousands):

 

April 2015 – December 2015

$ 282   

2016

  263   

2017

  158   

2018

  149   

2019 & thereafter

  —     

 

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Note 11 – Earnings (Loss) per Share

The factors used in the basic and diluted earnings per share computations follow:

 

     Three Months Ended
March 31,
 
     2015      2014  
     (in thousands, except share and
per share data)
 

Net income (loss)

   $ 594      $ (287

Less:

     

Preferred stock dividends

     —           786  

Earnings (loss) allocated to unvested shares

     21         (70

Earnings (loss) attributable to participating preferred shares

     164         (27
  

 

 

    

 

 

 

Net income (loss) attributable to common shareholders, basic and diluted

$ 409    $ (976
  

 

 

    

 

 

 

Basic

Weighted average common shares including unvested common shares outstanding

  25,419,523      13,210,930   

Less:

Weighted average unvested common shares

  918,393      856,723   

Weighted average Series B preferred shares

  2,702,400      —     

Weighted average Series C preferred shares

  —        332,894   

Weighted average Series D preferred shares

  4,305,333      —     
  

 

 

    

 

 

 

Weighted average common shares outstanding

  17,493,397      12,021,313   
  

 

 

    

 

 

 

Basic income (loss) per common share

$ 0.02    $ (0.08
  

 

 

    

 

 

 

Diluted

Add: Dilutive effects of assumed exercises of common stock warrants

  —        —     
  

 

 

    

 

 

 

Weighted average common shares and potential common shares

  17,493,397     12,021,313  
  

 

 

    

 

 

 

Diluted loss per common share

$ 0.02    $ (0.08
  

 

 

    

 

 

 

The Company had no outstanding stock options at March 31, 2015 or 2014. A warrant for the purchase of 330,561 shares of the Company’s common stock at an exercise price of $15.88 was outstanding at March 31, 2015 and 2014 but was not included in the diluted EPS computation as inclusion would have been anti-dilutive. Additionally, warrants for the purchase of 650,544 and 1,449,459 shares of non-voting common stock at an exercise price of $10.95 per share were outstanding at March 31, 2015 and 2014, respectively, but were not included in the diluted EPS computation as inclusion would have been anti-dilutive.

Note 12 – Capital Requirements and Restrictions on Retained Earnings

Banks and bank holding companies are subject to regulatory capital requirements administered by federal banking agencies. Capital adequacy guidelines and, additionally for banks, prompt corrective action regulations involve quantitative measures of assets, liabilities, and certain off-balance-sheet items calculated under regulatory accounting practices. Capital amounts and classifications are also subject to qualitative judgments by regulators. Failure to meet capital requirements can initiate regulatory action.

The Basel III regulatory capital reforms became effective for the Company and Bank on January 1, 2015, and include new minimum risk-based capital and leverage ratios. These rules refine the definition of what constitutes “capital” for purposes of calculating those ratios, including the definitions of Tier 1 capital and Tier 2 capital. The final rules allow banks and their holding companies with less than $250 billion in assets a one-time opportunity to opt-out of a requirement to include unrealized gains and losses in accumulated other comprehensive income in their capital calculation. The Company and the Bank opted out of this requirement.

On June 24, 2011, the Bank entered into a Consent Order with the FDIC and the Kentucky Department of Financial Institutions. The consent order required the Bank to complete a management study, to maintain Tier 1 capital as a percentage of total assets of at least 9% and a total risk based capital ratio of at least 12%, to develop a plan to reduce our risk position in each substandard asset in excess of $1 million, to complete board review of the adequacy of the allowance for loan losses prior to quarterly Call Report submissions, to adopt procedures which strengthen the loan review function and ensure timely and accurate grading of credit relationships, to charge-off all assets classified as loss, to develop a plan to reduce concentrations of construction and development loans to not more than 75% of total risk based capital and non-owner occupied commercial real estate loans to not more than 250% of total risk based capital, to limit asset growth to no more than 5% in any quarter or 10% annually, not to extend additional credit to any borrower classified substandard unless the board of directors first adopts a detailed statement why the extension is in the best interest of the bank, and not to declare or pay any dividend without the prior consent of our regulators. We are also restricted from accepting, renewing, or rolling-over brokered deposits without the prior receipt of a waiver on a case-by-case basis from our regulators.

 

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On September 21, 2011, we entered into a Written Agreement with the Federal Reserve Bank of St. Louis in which we made formal commitments to use our financial and management resources to serve as a source of strength for the Bank and to assist the Bank in addressing weaknesses identified by the FDIC and the KDFI, to pay no dividends without prior written approval, to pay no interest or principal on subordinated debentures or trust preferred securities without prior written approval, and to submit an acceptable plan to maintain sufficient capital.

In October 2012, the Bank entered into a revised Consent Order with the FDIC and KDFI again agreeing to maintain a minimum Tier 1 leverage ratio of 9% and a minimum total risk based capital ratio of 12%. The Bank cannot be considered well-capitalized while under the Consent Order. The Bank also agreed that if it should be unable to reach the required capital levels, and if directed in writing by the FDIC, then the Bank would within 30 days develop, adopt and implement a written plan to sell or merge itself into another federally insured financial institution or otherwise immediately obtain a capital investment into the Bank sufficient to fully meet the capital requirements. We have not been directed by the FDIC to implement such a plan.

The revised Consent Order also requires the Bank to continue to adhere to the plans implemented in response to the June 2011 Consent Order, and includes the substantive provisions of the June 2011 Consent Order. As of March 31, 2015, the capital ratios required by the Consent Order were not met.

The following table shows the ratios and amounts of Common Equity Tier 1, Tier 1 capital and total capital to risk-adjusted assets and the leverage ratios for Porter Bancorp, Inc. and the Bank at the dates indicated (dollars in thousands):

 

     Actual     For Capital Adequacy Purposes  
     Amount      Ratio     Amount      Ratio  

As of March 31, 2015:

          

Total risk-based capital (to risk-weighted assets)

          

Consolidated

   $ 70,949         10.05   $ 56,459         8.00

Bank

     72,335         10.25        56,435         8.00  

Total common equity Tier I risk-based capital (to risk-weighted assets)

          

Consolidated

     33,232         4.71        31,758         4.50   

Bank

     58,672         8.32        31,745         4.50  

Tier I capital (to risk-weighted assets)

          

Consolidated

     41,513         5.88        42,344         6.00   

Bank

     58,672         8.32        42,326         6.00   

Tier I capital (to average assets)

          

Consolidated

     41,513         4.13        40,209         4.00   

Bank

     58,672         5.84        40,212         4.00   

 

     Actual     For Capital Adequacy Purposes  
     Amount      Ratio     Amount      Ratio  

As of December 31, 2014:

          

Total risk-based capital (to risk-weighted assets)

          

Consolidated

   $ 73,595         10.61   $ 55,483         8.00

Bank

     73,174         10.57        55,383         8.00  

Tier I capital (to risk-weighted assets)

          

Consolidated

     46,459         6.70        27,741         4.00   

Bank

     59,438         8.59        27,691         4.00   

Tier I capital (to average assets)

          

Consolidated

     46,459         4.51        41,193         4.00   

Bank

     59,438         5.78        41,143         4.00   

 

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The Consent Order requires the Bank to achieve the minimum capital ratios presented below:

 

     Actual as of March 31, 2015     Ratio Required by Consent Order  
     Amount      Ratio     Amount      Ratio  

Total capital to risk-weighted assets

   $ 72,335         10.25   $ 84,652         12.00

Tier I capital to average assets

     58,672         5.84        90,476         9.00  

At March 31, 2015, the Bank’s Tier 1 leverage ratio was 5.84%, and its total risk-based capital ratio was 10.25%, which are below the 9% and 12% minimum capital ratios required by the Consent Order. Bank regulatory agencies can exercise discretion when an institution does not meet the terms of a Consent Order. Based on individual circumstances, the agencies may issue mandatory directives, impose monetary penalties, initiate changes in management, or take more serious adverse actions.

Kentucky banking laws limit the amount of dividends that may be paid to a holding company by its subsidiary banks without prior approval. These laws limit the amount of dividends that may be paid in any calendar year to current year’s net income, as defined in the laws, combined with the retained net income of the preceding two years, less any dividends declared during those periods. PBI Bank has agreed with its primary regulators to obtain their written consent prior to declaring or paying any future dividends. As a practical matter, PBI Bank cannot pay dividends to Porter Bancorp for the foreseeable future.

Note 13 – Contingencies

We are defendants in various legal proceedings. Litigation is subject to inherent uncertainties and unfavorable rulings could occur. We record contingent liabilities resulting from claims against us when a loss is assessed to be probable and the amount of the loss is reasonably estimable. Assessing probability of loss and estimating probable losses requires analysis of multiple factors, including in some cases judgments about the potential actions of third party claimants and courts. Recorded contingent liabilities are based on the best information available and actual losses in any future period are inherently uncertain. Currently, we have accrued approximately $2.2 million related to ongoing litigation matters for which we believe liability is probable and reasonably estimable. Accruals are not made in cases where liability is not probable or the amount cannot be reasonably estimated. We disclose legal matters when we believe liability is reasonably possible and may be material to our consolidated financial statements.

Signature Point Litigation. On June 18, 2010, three real estate development companies filed suit in Kentucky state court against the Bank and Managed Assets of Kentucky (“MAKY”). Signature Point Condominiums LLC, et al. v. PBI Bank, et al., Jefferson Circuit Court, Case No 10-CI-04295. On July 16, 2013, a jury in Louisville, Kentucky returned a verdict against the Bank, awarding the plaintiffs compensatory damages of $1,515,000 and punitive damages of $5,500,000. The case arose from a settlement in which the Bank agreed to release the plaintiffs and guarantors from obligations of more than $26 million related to a real estate project in Louisville. The plaintiffs were granted a right of first refusal to repurchase a tract of land within the project. In exchange, the plaintiffs conveyed the real estate securing the loans to the Bank. After plaintiffs declined to exercise their right of first refusal, the Bank sold the tract to the third party. Plaintiffs alleged the Bank had knowledge of the third party offer before the conveyance of the land by the Plaintiffs to the Bank. Plaintiffs asserted claims of fraud, breach of fiduciary duty, breach of the duty of good faith and fair dealing, tortious interference with prospective business advantage and conspiracy to commit fraud, negligence, and conspiracy against the Bank.

After conferring with its legal advisors, the Bank believes the findings and damages are excessive and contrary to law, and that it has meritorious grounds on which it has moved to appeal. The Bank’s Notice of Appeal was filed on October 25, 2013. After a number of procedural issues were resolved, the Bank filed its appellate brief on September 30, 2014. Appellee’s brief was filed on December 1, 2014. We will continue to defend this matter vigorously. Although we have made provisions in our consolidated financial statements for this self-insured matter, the amount of our legal accrual is less than the original amount of the damages awarded, plus accrued interest. The ultimate outcome of this matter could have a material adverse effect on our financial condition, results of operations or cash flows.

 

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SBAV LP Litigation. On December 17, 2012, SBAV LP filed a lawsuit against the Company, the Bank, J. Chester Porter and Maria L. Bouvette in New York state court. The proceeding was removed to New York federal district court on January 16, 2013, and on February 27, 2013, SBAV LP filed an Amended Complaint. On July 10, 2013, the New York federal district court granted the defendants’ motion to transfer the case to federal district court in Kentucky. SBAV LP v. Porter Bancorp, et. al., Civ. Action 3:13-CV-710 (W.D.KY). The Amended Complaint alleges a violation of the Kentucky Securities Act and negligent misrepresentation against all named defendants, and breach of contract against Porter Bancorp alone. The plaintiff seeks damages in an amount in excess of $4,500,000, or the difference between the $5,000,016 purchase price and the value of the securities when sold by the plaintiff, plus interest at the applicable statutory rate, costs and reasonable attorneys’ fees. On September 13, 2013, defendants filed a motion to dismiss all claims in the complaint for pleading failures and for failure to state a claim upon which relief may be granted. On March 25, 2014, the judge ruled that SBAV had failed to state a claim against the Bank and dismissed the Bank from the case. The claims against the Company, the Estate of J. Chester Porter and Ms. Bouvette remain and have proceeded to discovery. On April 21, 2014, the Company filed a third-party complaint for contribution against SBAV’s investment adviser, the Clinton Group, Inc. On September 16, 2014, the Court dismissed the Third-Party Complaint, but held that, if proven, Clinton’s errors in conducting due diligence may lessen any recovery available to SBAV. Discovery is continuing. At the joint request of the parties, the Court vacated the previous schedule and trial date of October 20, 2015 in order to provide additional time for discovery and motion practice in the case. We dispute the material factual allegations made in SBAV’s complaint and intend to defend against SBAV’s claims vigorously.

Miller’s Health System Inc. Employee Stock Ownership Plan. On December 26, 2013, the United States Department of Labor (“DOL”) filed a lawsuit against the Bank in U.S. District Court for the Northern District of Indiana. Thomas E. Perez, Secretary of the United States Department of Labor v. PBI Bank, Inc. (Civ. Action 3:13-CV-1400-PPS). The complaint alleges that in 2007 the Bank, in the capacity of trustee for the Miller’s Health System’s Inc. Employee Stock Ownership Plan, authorized the alleged imprudent and disloyal purchase of the stock of Miller’s Health Systems, Inc. (“Miller’s Health”) in 2007 for $40 million, a price allegedly far in excess of the stock’s fair market value. The suit also alleges, among other things, that the Bank approved 100% seller financing for the transaction at an excessive rate of interest. On March 31, 2014, the Bank filed its answer, disputing the material factual allegations of the complaint. On April 10, 2014, the Bank filed a third-party complaint against Miller’s Health seeking to enforce its indemnity rights, as well as third party claims for contribution against named directors and officers of Miller’s Health. On March 12, 2015, the parties agreed to settle the litigation, subject to the execution of a written settlement agreement. The Bank has agreed to a settlement payment, which has either been previously reserved for or will be paid from insurance proceeds. We do not anticipate the settlement of this litigation will have a material adverse effect on the Company’s financial condition or operating results.

AIT Laboratories Employee Stock Ownership Plan. On August 29, 2014, the United States Department of Labor (“DOL”) filed a lawsuit against the Bank and Michael A. Evans in the U.S. District Court for the Southern District of Indiana. Thomas E. Perez, Secretary of the United States Department of Labor v. PBI Bank, Inc. and Michael A. Evans (Case No. 1:14-CV-01429-SEB-MJD). The complaint alleges that in 2009, the Bank, in the capacity of trustee for the AIT Laboratories Employee Stock Ownership Plan, authorized the alleged imprudent and disloyal purchase of the stock of AIT Holdings, Inc. in 2009 for $90 million, a price allegedly far in excess of the stock’s fair market value. The Bank’s responsive pleading was filed on November 4, 2014, disputing the material factual allegations that have been made by the DOL. Discovery is in the early stages. A trial date has been set for November 7, 2016. We intend to defend against DOL’s claims vigorously.

United States Department of Justice Investigation. On October 17, 2014, the United States Department of Justice (the “DOJ”) notified the Bank that the Bank was the subject of an investigation into possible violations of federal laws, including, among other things, possible violations related to false bank entries, bank fraud and securities fraud. The investigation concerns allegations that Bank personnel engaged in practices intended to delay or avoid disclosure of the Bank’s asset quality at the time of and following the United States Treasury’s purchase of preferred stock from the Company in November 2008. The Bank will respond to and cooperate with any requests for information from DOJ. At this time the investigation is ongoing, and DOJ has made no determination whether to pursue any action in the matter.

 

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

This item analyzes our financial condition, change in financial condition and results of operations. It should be read in conjunction with the unaudited consolidated financial statements and accompanying notes presented in Part I, Item 1 of this report.

Cautionary Note Regarding Forward-Looking Statements

This report contains statements about the future expectations, activities and events that constitute forward-looking statements. Forward-looking statements express our beliefs, assumptions and expectations of our future financial and operating performance and growth plans, taking into account information currently available to us. These statements are not statements of historical fact. The words “believe,” “may,” “should,” “anticipate,” “estimate,” “expect,” “intend,” “objective,” “seek,” “plan,” “strive” or similar words, or the negatives of these words, identify forward-looking statements.

Forward-looking statements involve risks and uncertainties that may cause our actual results to differ materially from the expectations of future results we expressed or implied in any forward-looking statements. These risks and uncertainties can be difficult to predict and may be out of our control. Factors that could contribute to differences in our results include, but are not limited to the following:

 

   

Our inability to increase our capital to the levels required by our agreements with bank regulators could have a material adverse effect on our business.

 

   

A significant percentage of our loan portfolio is comprised of non-owner occupied commercial real estate loans, real estate construction and development loans, and multi-family residential real estate loans, all of which carry a higher degree of risk.

 

   

We continue to hold and acquire a significant amount of OREO properties, which could increase operating expenses and result in future losses.

 

   

Our decisions regarding credit risk may not be accurate, and our allowance for loan losses may not be sufficient to cover actual losses.

 

   

Our ability to pay cash dividends on our common and preferred stock and pay interest on the junior subordinated debentures that relate to our trust preferred securities is currently restricted. Our inability to resume paying interest on our trust preferred securities could adversely affect our common and preferred shareholders.

 

   

While we believe our provision for legal contingencies is adequate, the outcome of legal proceedings is difficult to predict and we may settle legal claims or be subject to judgments for amounts that exceed our estimates.

We also refer you to Part II, Item 1A – Risk Factors in this report and to the risks identified and the cautionary statements discussed in greater detail in our December 31, 2014 Annual Report on Form 10-K.

Forward-looking statements are not guarantees of performance or results. A forward-looking statement may include a statement of the assumptions or bases underlying the forward-looking statement. The Company believes it has chosen these assumptions or bases in good faith and they are reasonable. We caution you however, forward looking statements relying upon such assumptions or bases almost always vary from actual results, and the differences between those statements and actual results can be material. The forward-looking statements included in this report speak only as of the date of the report. We have no duty, and do not intend to, update these statements unless applicable laws require us to do so.

Overview

Porter Bancorp, Inc. (the “Company”) is a bank holding company headquartered in Louisville, Kentucky. Our wholly owned subsidiary PBI Bank (“the Bank”) is the ninth largest bank domiciled in the Commonwealth of Kentucky based on total assets. We operate banking offices in twelve counties in Kentucky. Our markets include metropolitan Louisville in Jefferson County and the surrounding counties of Henry and Bullitt. We serve south central Kentucky and southern Kentucky from banking offices in Butler, Green, Hart, Edmonson, Barren, Warren, Ohio, and Daviess Counties. We also have an office in Lexington, the second largest city in Kentucky. The Bank is a community bank with a wide range of commercial and personal banking products. As of March 31, 2015, we had total assets of $1.0 billion, total loans of $632.4 million, total deposits of $930.5 million and stockholders’ equity of $34.0 million.

The Company reported net income of $594,000 for the three months ended March 31, 2015, compared with a net loss of $287,000 for the first quarter of 2014. After deductions for earnings allocated to participating securities, net income attributable to common shareholders was $409,000 for the three months ended March 31, 2015, compared with net loss attributable to common shareholders of $976,000 for the three months ended March 31, 2014.

 

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Basic and diluted income per common share were $0.02 for the three months ended March 31, 2015 compared with basic and diluted loss per common share of ($0.08) for the three months ended March 31, 2014.

The following significant items are of note for the three months ended March 31, 2015:

 

   

Net interest margin increased 25 basis points to 3.21% in the first three months of 2015 compared with 2.96% in the first three months of 2014. The increase in margin between periods was due to an increase in the yield on earning assets from 3.99% for the first three months of 2014 to 4.03% for the first three months of 2015, coupled with a decrease in the cost of interest bearing liabilities from 1.16% in the first quarter of 2014 to 0.91% in the first quarter of 2015. The decrease in cost of interest bearing liabilities was primarily driven by the continued repricing of certificates of deposit at lower rates. Average loans decreased 7.9% to $643.0 million in the first three months of 2015 compared with $698.2 million in the first three months of 2014. Net loans decreased 6.6% to $613.8 million at March 31, 2015, compared with $657.2 million at March 31, 2014.

 

   

No provision for loan losses was recorded in the first quarter of 2015 or 2014 because of improvements in asset quality and management’s assessment of risk in the loan portfolio. Net charge-offs of $767,000 were recognized for the first quarter of 2015, compared to $2.7 million for the three months ended March 31, 2014, respectively.

 

   

Non-interest income increased $1.8 million compared with $915,000 for the first quarter of 2014 driven primarily by gains on the sales of securities totaling $1.5 million in the first quarter of 2015, compared to $44,000 in the first quarter of 2014.

 

   

Non-interest expense increased $890,000 compared with $8.5 million for the first quarter of 2014, primarily due to increased professional fees related to legal fees and litigation expenses.

 

   

Deposits increased 0.4% to $930.5 million at March 31, 2015 compared with $926.8 million at December 31, 2014. Certificate of deposit balances increased $22.4 million during the first three months of 2015 to $597.1 million at March 31, 2015, from $574.7 million at December 31, 2014. Demand deposits decreased 6.0% during the first three months of 2015 compared with December 31, 2014.

 

   

Non-performing loans decreased $10.8 million to $36.5 million at March 31, 2015, compared with $47.2 million at December 31, 2014. The decrease in non-performing loans was primarily due to $10.8 million in paydowns, as well as a decrease in loans moved to nonaccrual during the quarter compared to the previous quarter. Net charge-offs were $767,000 for the three months ended March 31, 2015.

 

   

Loans past due 30-59 days increased from $4.0 million at December 31, 2014 to $4.4 million at March 31, 2015 and loans past due 60-89 days increased from $980,000 at December 31, 2014 to $1.8 million at March 31, 2015. Total loans past due and nonaccrual loans decreased to $42.7 million at March 31, 2015 from $52.3 million at December 31, 2014.

 

   

Foreclosed properties were $43.6 million at March 31, 2015, compared with $46.2 million at December 31, 2014, and $45.9 million at March 31, 2014. During the first three months of 2015, the Company acquired $347,000 and sold $2.6 million of other real estate owned (“OREO”). In addition, we recorded fair value write-downs of $300,000 during the first three months of 2015 reflecting declines in appraisal valuations and changes in pricing strategies. Our ratio of non-performing assets to total assets decreased to 7.94% at March 31, 2015, compared with 9.19% at December 31, 2014, and 11.59% at March 31, 2014.

 

   

On February 25, 2015, shareholders approved the conversion of all mandatorily convertible Series B Preferred Shares into 4,053,600 common shares and the conversion of all mandatorily convertible Series D Preferred Shares into 6,458,000 non-voting common shares. The conversion reduced preferred stockholders’ equity by $5.8 million and increased common stockholders’ equity by the same amount. Total issued and outstanding common shares and non-voting common shares were 25,663,495 at March 31, 2015.

Going Concern Considerations and Future Plans

The consolidated financial statements have been prepared on a going concern basis, which contemplates the realization of assets and the satisfaction of liabilities in the normal course of business for the foreseeable future. However, the events and circumstances described in this Note create substantial doubt about the Company’s ability to continue as a going concern.

In June 2011, the Bank agreed to a Consent Order with the FDIC and KDFI in which the Bank agreed, among other things, to improve asset quality, reduce loan concentrations, and maintain a minimum Tier 1 leverage ratio of 9% and a minimum total risk based capital ratio of 12%. In October 2012, the Bank entered into a revised Consent Order with the FDIC and KDFI again agreeing to maintain a minimum Tier 1 leverage ratio of 9% and a minimum total risk based capital ratio of 12%. The Bank also agreed that if it should be unable to reach the required capital levels, and if directed in writing by the FDIC, then the Bank would within 30 days develop, adopt and implement a written plan to sell or merge itself into another federally insured financial institution or otherwise immediately obtain a sufficient capital investment into the Bank to fully meet the capital requirements.

 

 

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We expect to continue to work with our regulators toward capital ratio compliance. The revised Consent Order also requires the Bank to continue to adhere to the plans implemented in response to the June 2011 Consent Order, and includes the substantive provisions of the June 2011 Consent Order. The revised Consent Order was included in our Current Report on 8-K filed on September 19, 2012. As of March 31, 2015, the capital ratios required by the Consent Order were not met.

At March 31, 2015, we continued to be involved in various legal proceedings in which we dispute the material factual allegations against us. After conferring with our legal advisors, we believe we have meritorious grounds on which to prevail. If we do not prevail, the ultimate outcome of any one of these matters could have a material adverse effect on our financial condition, results of operations, or cash flows. These matters are more fully described in Note 13 – “Contingencies”.

The Board of Directors and management continue to evaluate and implement strategies to meet the obligations of the Consent Order. These include:

 

   

Increasing capital through the issuance of common stock to new and existing shareholders.

 

   

Continuing to operate the Company and Bank in a safe and sound manner. We have reduced our lending concentrations and the size of our balance sheet, while continuing to remediate non-performing loans and reduce other noninterest expense through the disposition of OREO.

 

   

Evaluating and implementing improvements to our internal processes and procedures, distribution of labor, and work-flow to ensure we have adequately and appropriately deployed resources in an efficient manner in the current environment.

 

   

Executing on our commitment to improve credit quality and reduce loan concentrations and balance sheet risk.

 

   

We have reduced our loan portfolio significantly from $1.3 billion at December 31, 2010 to $632.4 million at March 31, 2015.

 

   

We have reduced our construction and development loans to less than 75% of total risk-based capital at March 31, 2015.

 

   

We have reduced our non-owner occupied commercial real estate loans, construction and development loans, and multi-family residential real estate loans. These loans represented 243% of total risk-based capital at March 31, 2015, down from 284% at December 31, 2013.

 

   

Executing on our commitment to sell OREO and reinvest in quality income producing assets.

 

   

Our acquisition of real estate assets through the loan remediation process increased during 2014, as we acquired $32.3 million of OREO in 2014 compared with $20.6 million during 2013. We acquired $347,000 in the first three months of 2015. Additionally, nonaccrual loans totaled $36.5 million at March 31, 2015, and we expect to resolve many of these loans by foreclosure which could result in further additions to our OREO portfolio.

 

   

We incurred OREO losses totaling $297,000 during the first three months of 2015, comprised of $300,000 in fair value write-downs to reflect declines in appraisal valuations and changes in our pricing strategies, offset by $3,000 in net gain on sales of OREO.

 

   

To ensure we maximize the value we receive upon the sale of OREO, we continually evaluate sales opportunities. Proceeds from the sale of OREO totaled $2.6 million for the three months ended March 31, 2015, and $2.1 million for the three months ended March 31, 2014.

 

   

Real estate construction represents 42% of the OREO portfolio at March 31, 2015 compared with 40% at December 31, 2014. Commercial real estate represents 33% of the OREO portfolio at March 31, 2015 compared with 31% at December 31, 2014, and 1-4 family residential properties represent 14% of the portfolio at March 31, 2015 compared with 17% at December 31, 2014.

Bank regulatory agencies can exercise discretion when an institution does not meet the terms of a consent order. Based on individual circumstances, the agencies may issue mandatory directives, impose monetary penalties, initiate changes in management, or take more serious adverse actions such as directing a bank to seek a buyer or taking a bank into receivership.

 

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The Company’s liquid assets were $1.6 million at March 31, 2015. Since the Bank is unlikely to be in a position to pay dividends to the parent company for the foreseeable future, cash inflows for the parent are limited to earnings on investment securities, sales of investment securities, interest on deposits with the Bank, the issuance of new debt, or the issuance of capital securities. Ongoing operating expenses of the parent company are forecasted at approximately $1.0 million for 2015.

Effective with the fourth quarter of 2011, we began deferring interest payments on the junior subordinated debentures relating to our trust preferred securities. Deferring interest payments on the junior subordinated debentures resulted in a deferral of distributions on our trust preferred securities. If we defer distributions on our trust preferred securities for 20 consecutive quarters, we must pay all deferred distributions in full or we will be in default. Our deferral period expires after the third quarter of 2016. Deferred distributions on our trust preferred securities, which totaled $2.3 million as of March 31, 2015, are cumulative, and unpaid distributions accrue and compound on each subsequent payment date. If as a result of a default we become subject to any liquidation, dissolution or winding up, holders of the trust preferred securities will be entitled to receive the liquidation amounts to which they are entitled, including all accrued and unpaid distributions, before any distribution can be made to our shareholders. In addition, the holders of our Series E and Series F Preferred Shares will be entitled to receive liquidation distributions totaling $10.5 million before any distribution can be made to the holders of our common shares.

Application of Critical Accounting Policies

We continually review our accounting policies and financial information disclosures. Our more significant accounting policies that require the use of estimates and judgments in preparing the financial statements are summarized in “Application of Critical Accounting Policies” in Item 7 - Management’s Discussion and Analysis of Financial Condition and Results of Operation of our Annual Report on Form 10-K for the calendar year ended December 31, 2014. Management has discussed the development, selection, and application of our critical accounting policies with our Audit Committee. During the first three months of 2015, there were no material changes in the critical accounting policies and assumptions.

Results of Operations

The following table summarizes components of income and expense and the change in those components for the three months ended March 31, 2015, compared with the same period of 2014:

 

     For the Three Months
Ended March 31,
     Change from
Prior Period
 
     2015      2014      Amount      Percent  
     (dollars in thousands)  

Gross interest income

   $ 9,203      $ 9,897      $ (694      (7.0 )%

Gross interest expense

     1,913        2,597        (684      (26.3 )

Net interest income

     7,290        7,300        (10      (0.1

Provision for loan losses

     —           —           —           —     

Non-interest income

     2,696        915        1,781         194.6   

Non-interest expense

     9,392        8,502         890         10.5   

Net income (loss) before taxes

     594         (287      881         307.0   

Income tax benefit

     —           —           —           —     

Net income (loss)

     594         (287      881         307.0   

Net income for the three months ended March 31, 2015 totaled $594,000, compared with net loss of $287,000 for the comparable period of 2014.

Net interest income decreased $10,000 from the 2014 first quarter as a result of a decrease in earning assets, offset by an increase in net interest margin. Net interest margin increased 25 basis points to 3.21% in the first three months of 2015 compared with 2.96% in the first three months of 2014. The increase in margin between periods was due to an increase in the yield on earning assets from 3.99% for the first three months of 2014 to 4.03% for the first three months of 2015, coupled with a decrease in the cost of interest bearing liabilities from 1.16% in the first quarter of 2014 to 0.91% in the first quarter of 2015. Average earning assets decreased from $1.0 billion as of March 31, 2014 to $936.0 at March 31, 2015. In addition, net interest income and net interest margin were adversely affected by $601,000 and $1.2 million of interest lost on nonaccrual loans in the first quarters of 2015 and 2014, respectively. Non-interest income increased by $1.8 million to $2.7 million from $915,000 in the first quarter of 2014 primarily due to an increase in gains on sales of securities of $1.5 million. Non-interest expense increased from $8.5 million at March 31, 2014 to $9.4 million at March 31, 2015 primarily due to increased professional fees of $690,000 driven by increased legal fees and litigation expenses.

Net Interest Income – Our net interest income was $7.3 million for the three months ended March 31, 2015, a decrease of $10,000, or 0.1%, compared with $7.3 million for the same period in 2014. Net interest spread and margin were 3.12% and 3.21%, respectively, for the first quarter of 2015, compared with 2.83% and 2.96%, respectively, for the first quarter of 2014. Net average non-accrual loans were $43.6 million and $90.9 million for the first quarters of 2015 and 2014, respectively.

 

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Average loans receivable declined approximately $55.2 million for the quarter ended March 31, 2015 compared with the first quarter of 2014. This resulted in a decline in interest revenue of approximately $754,000 for the quarter ended March 31, 2015 compared with the prior year period.

Net interest margin increased 25 basis points from our margin of 2.96% in the prior year first quarter. The yield on earning assets increased four basis points from the first quarter of 2014, compared with a 25 basis point decline in rates paid on interest-bearing liabilities. The increase in net interest margin was offset by a decrease in earning assets which resulted in a $10,000 reduction in net interest income.

Net interest margin for the first quarter of 2015 increased five basis points from our margin of 3.16% in the fourth quarter of 2014, due primarily to increased yield on loans. Average loan receivables increased $8.1 million from the fourth quarter of 2014. Interest foregone on non-accrual loans totaled $601,000 in the first quarter of 2015, compared with $592,000 in the fourth quarter of 2014, and $1.2 million in the first quarter of 2014. Yield on average earning assets decreased slightly to 4.03% in the first quarter of 2015 from 4.06% in the fourth quarter of 2014, compared with an eight basis point decrease in rates paid on interest-bearing liabilities from 0.99% in the fourth quarter of 2014.

 

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Average Balance Sheets

The following table presents the average balance sheets for the three month periods ended March 31, 2015 and 2014, along with the related calculations of tax-equivalent net interest income, net interest margin and net interest spread for the related periods.

 

     Three Months Ended March 31,  
     2015     2014  
     Average
Balance
    Interest
Earned/Paid
     Average
Yield/Cost
    Average
Balance
    Interest
Earned/Paid
     Average
Yield/Cost
 
     (dollars in thousands)  

ASSETS

              

Interest-earning assets:

              

Loan receivables (1)(2)

   $ 642,959     $ 7,755        4.89   $ 698,184     $ 8,321        4.83

Securities

              

Taxable

     178,723       1,126        2.56       177,579       1,173        2.68  

Tax-exempt (3)

     26,756       203        4.73       31,086       241        4.84  

FHLB stock

     7,323       74        4.10       9,095       102        4.55  

Other equity securities

     —         —          —         87       —          —    

Federal funds sold and other

     80,276       45        0.23       103,142       60        0.24  
  

 

 

   

 

 

      

 

 

   

 

 

    

Total interest-earning assets

  936,037     9,203     4.03   1,019,173     9,897     3.99
    

 

 

        

 

 

    

Less: Allowance for loan losses

  (19,264   (27,834

Non-interest earning assets

  94,788     82,247  
  

 

 

        

 

 

      

Total assets

$ 1,011,561   $ 1,073,586  
  

 

 

        

 

 

      

LIABILITIES AND STOCKHOLDERS’ EQUITY

Interest-bearing liabilities:

Certificates of deposit and other time

deposits

$ 588,907   $ 1,496     1.03 $ 670,270   $ 2,191     1.33

NOW and money market deposits

  194,129     176     0.37     166,424     147     0.36  

Savings accounts

  36,456     20     0.22     36,903     23     0.25  

Repurchase agreements

  1,029     —       —       2,356     1     0.17  

FHLB advances

  3,954     27     2.77     4,385     33     3.05  

Junior subordinated debentures

  29,948     194     2.63     30,848     202     2.66  
  

 

 

   

 

 

      

 

 

   

 

 

    

Total interest-bearing liabilities

  854,423     1,913     0.91   911,186     2,597     1.16
    

 

 

        

 

 

    

Non-interest-bearing liabilities:

Non-interest-bearing deposits

  112,206     110,572  

Other liabilities

  10,961     14,836  
  

 

 

        

 

 

      

Total liabilities

  977,590     1,036,594  

Stockholders’ equity

  33,971     36,992  
  

 

 

        

 

 

      

Total liabilities and stockholders’ equity

$ 1,011,561   $ 1,073,586  
  

 

 

        

 

 

      

Net interest income

$ 7,290   $ 7,300  
    

 

 

        

 

 

    

Net interest spread

  3.12   2.83
       

 

 

        

 

 

 

Net interest margin

  3.21   2.96
       

 

 

        

 

 

 

 

(1)

Includes loan fees in both interest income and the calculation of yield on loans.

(2)

Calculations include non-accruing loans averaging $43.6 million and $90.9 million, respectively, in average loan amounts outstanding.

(3)

Taxable equivalent yields are calculated assuming a 35% federal income tax rate.

 

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Rate/Volume Analysis

The table below sets forth certain information regarding changes in interest income and interest expense for the periods indicated. For each category of interest-earning assets and interest-bearing liabilities, information is provided on changes attributable to (1) changes in rate (changes in rate multiplied by old volume); (2) changes in volume (changes in volume multiplied by old rate); and (3) changes in rate-volume (change in rate multiplied by change in volume). Changes in rate-volume are proportionately allocated between rate and volume variance.

 

     Three Months Ended March 31,
2015 vs. 2014
 
     Increase (decrease)
due to change in
     Net
Change
 
     Rate      Volume     
     (in thousands)  

Interest-earning assets:

        

Loan receivables

   $ 99       $ (665    $ (566

Securities

     (63      (22      (85

FHLB stock

     (9      (19      (28

Other equity securities

     —           —           —     

Federal funds sold and other

     (2      (13      (15
  

 

 

    

 

 

    

 

 

 

Total increase (decrease) in interest income

  25      (719   (694
  

 

 

    

 

 

    

 

 

 

Interest-bearing liabilities:

Certificates of deposit and other time deposits

  (450   (245   (695

NOW and money market accounts

  4      25      29   

Savings accounts

  (3   —        (3

Federal funds purchased and repurchased agreements

  —        (1   (1

FHLB advances

  (3   (3   (6

Junior subordinated debentures

  (2   (6   (8
  

 

 

    

 

 

    

 

 

 

Total decrease in interest expense

  (454   (230   (684
  

 

 

    

 

 

    

 

 

 

Increase (decrease) in net interest income

$ 568    $ (578 $ (10
  

 

 

    

 

 

    

 

 

 

Non-Interest Income – The following table presents the major categories of non-interest income for the three months ended March 31, 2015 and 2014:

 

     For the Three Months
Ended March 31,
 
     2015      2014  
     (in thousands)  

Service charges on deposit accounts

   $ 409       $ 468   

Bank card interchange fees

     203         161   

Other real estate owned rental income

     357         7   

Net gain on sales of securities

     1,497        44   

Other

     230         235   
  

 

 

    

 

 

 

Total non-interest income

$ 2,696    $ 915   
  

 

 

    

 

 

 

Non-interest income for the first quarter ended March 31, 2015 increased by $1.8 million, or 194.6%, compared with the first quarter of 2014. The increase in non-interest income between the three month comparative periods was primarily driven by gains on sales of securities totaling $1.5 million in the first quarter of 2015, compared to $44,000 in the first quarter of 2014 and increased OREO income totaling $357,000 in the first quarter of 2015 compared to $7,000 in the first quarter of 2014.

 

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Non-interest Expense – The following table presents the major categories of non-interest expense for the three months ended March 31, 2015 and 2014:

 

     For the Three Months
Ended March 31,
 
     2015      2014  
     (in thousands)  

Salary and employee benefits

   $ 3,847       $ 3,741   

Occupancy and equipment

     870         892   

Professional fees

     979         289   

FDIC insurance

     570         540   

Data processing expense

     304         269   

State franchise and deposit tax

     285         425   

Other real estate owned expense

     733         662   

Loan collection expense

     283         539   

Other

     1,521         1,145   
  

 

 

    

 

 

 

Total non-interest expense

$ 9,392    $ 8,502   
  

 

 

    

 

 

 

Non-interest expense for the first quarter ended March 31, 2015 increased $890,000, or 10.5%, compared with the first quarter of 2014. This increase from the first quarter of 2014 was primarily due to an increase in professional fees of $690,000 driven primarily by increased legal fees and litigation expenses.

Income Tax Expense – No income tax expense or benefit was recorded for the first three months of 2015 or 2014. The income tax effect on net income before taxes for the three months ended March 31, 2015, decreased our deferred tax assets and related valuation allowance by $294,000. See discussion in the results of operations above.

Effective tax rates differ from the federal statutory rate of 35% applied to income before income taxes due to the following:

 

     For the Three Months
Ended March 21,
 
     2015      2014  
     (in thousands)  

Federal statutory rate times financial statement income

   $ 208       $ (100

Effect of:

     

Valuation allowance

     (294      182   

Tax-exempt income

     (70      (82

Non-taxable life insurance income

     (24 )      (26

Other, net

     180         26  
  

 

 

    

 

 

 

Total

$ —      $ —     
  

 

 

    

 

 

 

 

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Analysis of Financial Condition

Total assets decreased $8.3 million, or 0.8%, to $1.010 billion at March 31, 2015, from $1.018 billion at December 31, 2014. This decrease was primarily attributable to a decrease in available for sale securities of $33.5 million, the sale of our loans held for sale of $8.9 million, and a decrease in OREO of $2.6 million, offset by an increase in interest bearing deposits in banks of $35.9 and an increase of $8.2 million in net loans receivable. The decrease in available for sale securities was driven by management’s decision during the quarter to reduce interest rate risk and credit risk in the portfolio by selling various securities. This resulted in a net gain on sale of approximately $1.5 million and drove the increase in interest bearing deposits in banks. The increase in net loans was due to loan funding outpacing loan payoffs. The decrease in OREO was due sales outpacing additions to the portfolio during the quarter.

Loans Receivable – Loans receivable increased $7.4 million, or 1.2%, during the three months ended March 31, 2015 to $632.4 million. The increase in loans receivable was attributable to loan funding outpacing loan payoffs by approximately $8.5 million, offset by net charge-offs of $767,000 and transfers to OREO of $347,000.

Loan Portfolio Composition – The following table presents a summary of the loan portfolio at the dates indicated, net of deferred loan fees, by type. There are no foreign loans in our portfolio. Except for commercial real estate and 1-4 family residential real estate, there is no concentration of loans in any industry exceeding 10% of total loans, with the exception of loans for retail facilities (included in nonfarm nonresidential commercial real estate below). Those loans totaled $68.0 million at March 31, 2015 and $71.1 million at December 31, 2014.

 

     As of March 31,
2015
    As of December 31,
2014
 
     Amount      Percent     Amount      Percent  
     (dollars in thousands)  

Commercial

   $ 76,954         12.18   $ 60,936        9.75

Commercial Real Estate

          

Construction

     36,793         5.82       33,173        5.31  

Farmland

     77,948         12.33       77,419        12.39  

Nonfarm nonresidential

     159,276         25.18       175,452        28.07  

Residential Real Estate

          

Multi-family

     43,150         6.82       41,891        6.70  

1-4 Family

     197,583         31.24       197,278        31.56  

Consumer

     10,831         1.71       11,347        1.82  

Agriculture

     28,673         4.53       26,966        4.31  

Other

     1,220         0.19       537        0.09  
  

 

 

    

 

 

   

 

 

    

 

 

 

Total loans

$ 632,428      100.00 $ 624,999     100.0
  

 

 

    

 

 

   

 

 

    

 

 

 

Loan Portfolio by Risk Category – The following table presents a summary of the loan portfolio at the dates indicated, by risk category.

 

     March 31, 2015     December 31, 2014  
     Loans      % to
Total
    Loans      % to
Total
 
     (dollars in thousands)  

Pass

   $ 480,545         76.0   $ 461,126         73.8

Watch

     76,876        12.1        68,200         10.9   

Special Mention

     1,110        0.2        4,189         0.7   

Substandard

     73,897        11.7        91,484         14.6   

Doubtful

     —          —          —           —     
  

 

 

    

 

 

   

 

 

    

 

 

 

Total

$ 632,428      100.0 $ 624,999      100.0
  

 

 

    

 

 

   

 

 

    

 

 

 

Our loans receivable have increased $7.4 million, or 1.2%, during the three months ended March 31, 2015. All loan risk categories have decreased since December 31, 2014, with the exception of pass and watch loans. The pass category increased approximately $19.4 million, the watch category increased approximately $8.7 million, the special mention category declined approximately $3.1 million, and the substandard category declined approximately $17.6 million. The $17.6 million decrease in loans classified as substandard was primarily driven by $18.2 million in principal payments received, $348,000 in migration to OREO, and $1.3 million in charge-offs, offset by $3.7 million in loans moved to substandard during the quarter.

 

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Loan Delinquency – The following table presents a summary of loan delinquencies at the dates indicated.

 

     March 31,
2015
     December 31,
2014
 
     (in thousands)  

Past Due Loans:

     

30-59 Days

   $ 4,370       $ 3,960  

60-89 Days

     1,769         980  

90 Days and Over

     18        151  
  

 

 

    

 

 

 

Total Loans Past Due 30-90+ Days

  6,157      5,091   

Nonaccrual Loans

  36,500      47,175   
  

 

 

    

 

 

 

Total Past Due and Nonaccrual Loans

$ 42,657    $ 52,266  
  

 

 

    

 

 

 

During the three months ended March 31, 2015, nonaccrual loans decreased by $10.7 million to $36.5 million. This decrease was due primarily to $10.8 million in paydowns and $337,000 transferred to OREO, offset by $1.4 million in loans moved to nonaccrual status. During the three months ended March 31, 2015, loans past due 30-59 days increased from $4.0 million at December 31, 2014 to $4.4 million at March 31, 2015. Loans past due 60-89 days increased from $980,000 at December 31, 2014 to $1.8 million at March 31, 2015. This represents a $1.2 million increase from December 31, 2014 to March 31, 2015, in loans past due 30-89 days. We considered this trend in delinquency levels during the evaluation of qualitative trends in the portfolio when establishing the general component of our allowance for loan losses.

Non-Performing Assets – Non-performing assets consist of loans past due 90 days or more still on accrual, loans on which interest is no longer accrued, real estate acquired through foreclosure, and repossessed assets. The following table sets forth information with respect to non-performing assets as of March 31, 2015 and December 31, 2014.

 

     March 31,
2015
    December 31,
2014
 
     (dollars in thousands)  

Loans past due 90 days or more still on accrual

   $ 18     $ 151  

Nonaccrual loans

     36,500       47,175  
  

 

 

   

 

 

 

Total non-performing loans

  36,518     47,326  

Real estate acquired through foreclosure

  43,618     46,197  

Other repossessed assets

  —        —     
  

 

 

   

 

 

 

Total non-performing assets

$ 80,136   $ 93,523  
  

 

 

   

 

 

 

Non-performing loans to total loans

  5.77   7.57

Non-performing assets to total assets

  7.94   9.19

Allowance for non-performing loans

$ 780   $ 1,253  

Allowance for non-performing loans to non-performing loans

  2.14   2.65

Nonperforming loans at March 31, 2015, were $36.5 million, or 5.77% of total loans, compared with $47.3 million, or 7.57% of total loans at December 31, 2014, and $77.3 million, or 11.33% of total loans at March 31, 2014. Net loan charge-offs in the first three months of 2015 totaled $767,000 compared to $2.7 million for the first three months of 2014, and were primarily the result of charging off specific reserves for loans deemed to be collateral dependent, in accordance with regulatory guidance.

 

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Troubled Debt RestructuringA troubled debt restructuring (TDR) occurs when the Company has agreed to a loan modification in the form of a concession for a borrower who is experiencing financial difficulty. The majority of the Company’s TDRs involve a reduction in interest rate, a deferral of principal for a stated period of time, or an interest only period. All TDRs are considered impaired, and the Company has allocated reserves for these loans to reflect the present value of the concessionary terms granted to the borrower. If the loan is considered collateral dependent, it is reported net of allocated reserves, at the fair value of the collateral less cost to sell.

We do not have a formal loan modification program. Rather, we work with individual borrowers on a case-by-case basis to facilitate the orderly collection of our principal and interest before a loan becomes a non-performing loan. If a borrower is unable to make contractual payments, we review the particular circumstances of the borrower’s situation and negotiate a revised payment stream. In other words, we identify performing borrowers experiencing financial difficulties, and through negotiations, we lower their interest rate, most typically on a short-term basis for three to six months. Our goal when restructuring a credit is to afford the borrower a reasonable period of time to remedy the issue causing cash flow constraints within their business so they can return to performing status over time.

Our loan modifications have taken the form of reduction in interest rate and/or curtailment of scheduled principal payments for a short-term period, usually three to six months, but in some cases until maturity of the loan. In some circumstances we restructure real estate secured loans in a bifurcated fashion whereby we have a fully amortizing “A” loan at a market interest rate and an interest-only “B” loan at a reduced interest rate. Our restructured loans are all collateral secured loans. If a borrower fails to perform under the modified terms, we place the loan(s) on nonaccrual status and begin the process of working with the borrower to liquidate the underlying collateral to satisfy the debt.

At March 31, 2015, we had 48 restructured loans totaling $37.8 million with borrowers who experienced deterioration in financial condition compared with 52 loans totaling $42.5 million at December 31, 2014. In general, these loans were granted interest rate reductions to provide cash flow relief to borrowers experiencing cash flow difficulties. Of these loans, three loans totaling approximately $3.9 million were also granted principal payment deferrals until maturity. There were no concessions made to forgive principal relative to these loans, although we have recorded partial charge-offs for certain restructured loans. In general, these loans are secured by first liens on 1-4 residential or commercial real estate properties, or farmland. Restructured loans also include $951,000 of commercial loans. At March 31, 2015, $18.8 million of our restructured loans were accruing and $19.0 million were on nonaccrual compared with $22.0 million and $20.5 million, respectively, at December 31, 2014. There were no new TDRs during the first three months of 2015 or 2014.

The following table sets forth information with respect to TDRs, non-performing loans, real estate acquired through foreclosure, and other repossessed assets.

 

     March 31,
2015
    December 31,
2014
 
     (dollars in thousands)  

Total non-performing loans

   $ 36,518     $ 47,326  

TDRs on accrual

     18,798        21,985   
  

 

 

   

 

 

 

Total non-performing loans and TDRs on accrual

$ 55,316   $ 69,311   

Real estate acquired through foreclosure

  43,618     46,197   

Other repossessed assets

  —        —     
  

 

 

   

 

 

 

Total non-performing assets and TDRs on accrual

$ 98,934   $ 115,508  
  

 

 

   

 

 

 

Total non-performing loans and TDRs on accrual to total loans

  8.75   11.09

Total non-performing assets and TDRs on accrual to total assets

  9.80   11.35

We consider any loan that is restructured for a borrower experiencing financial difficulties due to a borrower’s potential inability to pay in accordance with contractual terms to be a troubled debt restructure. Specifically, we consider a concession involving a modification of the loan terms, such as (i) a reduction of the stated interest rate, (ii) reduction or deferral of principal, or (iii) reduction or deferral of accrued interest at a stated interest rate lower than the current market rate for new debt with similar risk all to be troubled debt restructurings. When a modification of terms is made for a competitive reason, we do not consider that to be a troubled debt restructuring. A primary example of a competitive modification would be an interest rate reduction for a performing borrower’s loan to a market rate as the result of a market decline in rates.

 

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Management periodically reviews renewals/modifications of previously identified TDRs for which there was no principal forgiveness, to consider if it is appropriate to remove the TDR classification. If the borrower is no longer experiencing financial difficulty and the renewal/modification did not contain a concessionary interest rate or other concessionary terms, management considers the potential removal of the TDR classification. If deemed appropriate, the TDR classification is removed as the borrower has complied with the terms of the loan at the date of renewal/modification and there was a reasonable expectation that the borrower would continue to comply with the terms of the loan after the date of the renewal/modification. In this instance, the TDR was originally considered a restructuring in a prior year as a result of a modification with an interest rate that was not commensurate with the risk of the underlying loan. Additionally, TDR classification can be removed in circumstances in which the Company performs a non-concessionary re-modification of the loan at terms that were considered to be at market for loans with comparable risk. Management expects the borrower will continue to perform under the re-modified terms based on the borrower’s past history of performance.

At March 31, 2015 and December 31, 2014, TDRs totaled $37.8 million and $42.5 million, respectively. During the three months ended March 31, 2015, TDRs were reduced as a result of $4.5 million in payments along with charge-offs of $239,000.

If the borrower fails to perform, we place the loan on nonaccrual status and seek to liquidate the underlying collateral for these loans. Our nonaccrual policy for restructured loans is identical to our nonaccrual policy for all loans. Our policy calls for a loan to be reported as nonaccrual if it is maintained on a cash basis because of deterioration in the financial condition of the borrower, payment in full of principal and interest is not expected, or principal or interest has been in default for a period of 90 days or more unless the assets are both well secured and in the process of collection. Changes in value for impairment, including the amount attributed to the passage of time, are recorded entirely within the provision for loan losses. Upon determination that a loan is collateral dependent, the loan is charged down to the fair value of collateral less estimated costs to sell.

See “Note 4 - Loans,” of the notes to the financial statements for additional disclosure related to troubled debt restructuring.

Allowance for Loan Losses – The allowance for loan losses is based on management’s continuing review and evaluation of individual loans, loss experience, current economic conditions, risk characteristics of various categories of loans and such other factors that, in management’s judgment, require consideration in estimating loan losses.

Management has established loan grading procedures that result in specific allowance allocations for any estimated inherent risk of loss. For loans not individually evaluated, a general allowance allocation is computed using factors developed over time based on actual loss experience. The specific and general allocations plus consideration of qualitative factors represent management’s best estimate of probable losses contained in the loan portfolio at the evaluation date. Although the allowance for loan losses is comprised of specific and general allocations, the entire allowance is available to absorb any credit losses.

 

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An analysis of changes in the allowance for loan losses and selected ratios for the three month periods ended March 31, 2015 and 2014, and for the year ended December 31, 2014 follows:

 

     Three Months Ended
March 31,
    Year Ended
December 31,
2014
 
     2015     2014    
     (dollars in thousands)  

Balances at beginning of period

   $ 19,364     $ 28,124     $ 28,124  
  

 

 

   

 

 

   

 

 

 

Loans charged-off:

Real estate

  851     2,782     17,943  

Commercial

  375     146     1,099  

Consumer

  68     128     354  

Agriculture

  33     9     30   

Other

  —       17     —     
  

 

 

   

 

 

   

 

 

 

Total charge-offs

  1,327     3,082     19,426  
  

 

 

   

 

 

   

 

 

 

Recoveries:

Real estate

  411     199     2,726  

Commercial

  106     88     614  

Consumer

  26     76     213  

Agriculture

  1     6     13   

Other

  16     4     —     
  

 

 

   

 

 

   

 

 

 

Total recoveries

  560     373     3,566  
  

 

 

   

 

 

   

 

 

 

Net charge-offs

  767     2,709     15,860  
  

 

 

   

 

 

   

 

 

 

Provision for loan losses

  —       —       7,100  
  

 

 

   

 

 

   

 

 

 

Balance at end of period

$ 18,597   $ 25,415   $ 19,364  
  

 

 

   

 

 

   

 

 

 

Allowance for loan losses to period-end loans

  2.94 %   3.72   3.10

Net charge-offs to average loans

  0.48 %   1.55   2.39

Allowance for loan losses to non-performing loans

  50.93 %   32.86   40.92

Allowance for loan losses for loans individually evaluated for impairment

$ 254    $ 2,453    $ 752   

Loans individually evaluated for impairment

  55,299      122,158      71,993   

Allowance for loan losses to loans individually evaluated for impairment

  0.46   2.01   1.04

Allowance for loan losses for loans collectively evaluated for impairment

$ 18,343    $ 22,962    $ 18,612   

Loans collectively evaluated for impairment

  577,129      560,433      553,006   

Allowance for loan losses to loans collectively evaluated for impairment

  3.18   4.10   3.37

Our loan loss reserve, as a percentage of total loans at March 31, 2015, decreased to 2.94% from 3.72% at March 31, 2014, and from 3.10% at December 31, 2014. The change in our loan loss reserve as a percentage of total loans between periods is attributable to the fluctuation in historical loss experience, qualitative factors, fewer loans migrating downward in risk grade classifications, charge-off levels, and provision expense. Our allowance for loan losses to non-performing loans was 50.93% at March 31, 2015, compared with 40.92% at December 31, 2014, and 32.86% at March 31, 2014. Net charge-offs in the first three months of 2015 totaled $767,000 of which $371,000 were the result of charging off the allowance for individually evaluated loans deemed to be collateral dependent during the period. This resulted in the decline in our allowance for loan losses for loans individually evaluated for impairment and our allowance for loan losses to non-performing loans to current levels.

 

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The following table sets forth the net charge-offs (recoveries) for the periods indicated:

 

     Three Months
Ended
March 31,
2015
     Year Ended
December 31,
2014
     Year Ended
December 31,
2013
 
     (in thousands)  

Commercial

   $ 269       $ 485       $ 1,616   

Commercial Real Estate

     258         11,878        20,045  

Residential Real Estate

     182         3,339        7,212  

Consumer

     42         167        507  

Agriculture

     32         17        (124

Other

     (16      (26      —     
  

 

 

    

 

 

    

 

 

 

Total net charge-offs

$ 767    $ 15,860   $ 29,256  
  

 

 

    

 

 

    

 

 

 

The majority of our nonperforming loans are secured by real estate collateral, and the underlying collateral coverage for nonperforming loans supports the likelihood of collection of our principal. We have assessed these loans for collectability and considered, among other things, the borrower’s ability to repay, the value of the underlying collateral, and other market conditions to ensure the allowance for loan losses is adequate to absorb probable incurred losses. Our allowance for non-performing loans to non-performing loans was 2.14% at March 31, 2015 compared with 2.65% at December 31, 2014, and 2.11% at March 31, 2014. The decrease in this ratio from December 31, 2014 to March 31, 2015 was primarily attributable to the improving non-performing loan trends during the period.

The following table presents the unpaid principal balance, recorded investment and allocated allowance related to loans individually evaluated for impairment in the commercial real estate and residential real estate portfolios as of March 31, 2015 and December 31, 2014.

 

     March 31, 2015     December 31, 2014  
     Commercial
Real Estate
    Residential
Real Estate
    Commercial
Real Estate
    Residential
Real Estate
 
     (in thousands)  

Unpaid principal balance

   $ 46,969      $ 22,747     $ 65,899     $ 24,633   

Prior charge-offs

     (14,238     (2,243 )     (17,758 )     (3,249
  

 

 

   

 

 

   

 

 

   

 

 

 

Recorded investment

  32,731      20,504     48,141     21,384  

Allocated allowance

  (51   (200   (491   (227
  

 

 

   

 

 

   

 

 

   

 

 

 

Recorded investment, less allocated allowance

$ 32,680    $ 20,304   $ 47,650    $ 21,157   
  

 

 

   

 

 

   

 

 

   

 

 

 

Recorded investment, less allocated allowance/ Unpaid principal balance

  69.58   89.26   72.31   85.89

Based on previous charge-offs, our current recorded investment in the commercial real estate and residential real estate segments is significantly below the unpaid principal balance for these loans. The recorded investment and allocated allowance were 69.58% and 89.26% of the unpaid principal balance in the commercial real estate and residential real estate segments of the portfolio, respectively, at March 31, 2015.

The following table illustrates recent trends in loans collectively evaluated for impairment and the related allowance for loan losses by portfolio segment:

 

     March 31, 2015     December 31, 2014  
     Loans      Allowance      % to
Total
    Loans      Allowance      % to
Total
 

Commercial

   $ 75,277       $ 2,044         2.72   $ 58,914       $ 2,013        3.42

Commercial real estate

     241,286         10,629         4.41        237,903         10,440        4.39   

Residential real estate:

     220,229         5,021         2.28        217,785         5,560        2.55   

Consumer

     10,799         243         2.25        11,286         273        2.42   

Agriculture

     28,441         391         1.37        26,703         319        1.19   

Other

     1,097         15         1.37        415         7        1.69   
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

    

 

 

 

Total

$ 577,129    $ 18,343      3.18 $ 553,006    $ 18,612     3.37
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

    

 

 

 

 

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Our allowance for loan losses for loans collectively evaluated for impairment declined to 3.18% at March 31, 2015 from 4.10% at March 31, 2014 and 3.37% at December 31, 2014. This decline was driven primarily by an improving loan risk category classification mix and volume as well as improving historical loss trends which are key factors for estimating general reserves. Other factors include the consideration of growth, composition and diversification of our loan portfolio, current delinquency levels, the results of recent regulatory communications and general economic conditions.

Provision for Loan LossesBecause of ongoing improvements in asset quality and management’s assessment of risk in the loan portfolio, no provision for loan losses was recorded in the first quarter of 2015 or 2014. All loan risk categories have decreased since December 31, 2014, with the exception of pass and watch loans. The pass category increased approximately $19.4 million, the watch category increased approximately $8.7 million, the special mention category declined approximately $3.1 million, and the substandard category declined approximately $17.6 million. The decreased allowance is consistent with the decrease in our classified loans by $115.6 million from March 31, 2014 to March 31, 2015 and our loan charge-off trends. Net charge-offs were $767,000 for the three months ended March 31, 2015, compared with $2.7 million for March 31, 2014. We consider the size and volume of our portfolio as well as the credit quality of our loan portfolio based upon risk category classification when determining the loan loss provision for each period and the allowance for loan losses at period end.

Foreclosed Properties – Foreclosed properties at March 31, 2015 were $43.6 million compared with $45.9 million at March 31, 2014 and $46.2 million at December 31, 2014. See “Note 5 - Other Real Estate Owned,” of the notes to the financial statements. During the first three months of 2015, we acquired $347,000 of OREO properties, and sold properties totaling approximately $2.6 million. We value foreclosed properties at fair value less estimated costs to sell when acquired and expect to liquidate these properties to recover our investment in the due course of business.

OREO is recorded at fair market value less estimated cost to sell at time of acquisition. Any write-down of the property at the time of acquisition is charged to the allowance for loan losses. Subsequent reductions in fair value are recorded as non-interest expense. To determine the fair value of OREO for smaller dollar single family homes, we consult with internal real estate sales staff and external realtors, investors, and appraisers. If the internally evaluated market price is below our underlying investment in the property, appropriate write-downs are recorded.

For larger dollar commercial real estate properties, we obtain a new appraisal of the subject property or have staff in our special assets group or centralized appraisal department evaluate the latest in-file appraisal in connection with the transfer to OREO. In some of these circumstances, an appraisal is in process at quarter end and we must make our best estimate of the fair value of the underlying collateral based on our internal evaluation of the property, our review of the most recent appraisal, and discussions with the currently engaged appraiser. We typically obtain updated appraisals on the anniversary date of ownership unless a sale is imminent.

Net gain (loss) on sales, write-downs, and operating expenses for OREO totaled $733,000 for the three months ended March 31, 2015, compared with $662,000 for the same period of 2014. During the three months ended March 31, 2015, fair value write-downs of $300,000 were recorded to reflect declining values evidenced by new appraisals and our reduction of marketing prices in connection with our sales strategies compared with $250,000 for the three months ended March 31, 2014.

LiabilitiesTotal liabilities at March 31, 2015 were $975.7 million compared with $984.5 million at December 31, 2014, a decrease of $8.8 million, or 0.9%. This decrease was primarily attributable to a decrease in Federal Home Loan Bank advances of $12.2 million, offset by an increase in deposits of $3.7 million from $926.8 million at December 31, 2014 to $930.5 million at March 31, 2015. Federal Home Loan Bank advances are used from time to time to fund asset growth and manage interest rate risk in accordance with our asset/liability management strategies.

 

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Deposits are our primary source of funds. The following table sets forth the average daily balances and weighted average rates paid for our deposits for the periods indicated:

 

     For the Three Months
Ended March 31,

2015
    For the Year Ended
December 31,

2014
 
     Average
Balance
     Average
Rate
    Average
Balance
     Average
Rate
 
     (dollars in thousands)  

Demand

   $ 112,206         $ 113,150      

Interest checking

     89,024         0.14     83,504         0.15

Money market

     105,105         0.56       96,194         0.55  

Savings

     36,456         0.22       36,803         0.24  

Certificates of deposit

     588,907         1.03       632,020         1.29  
  

 

 

      

 

 

    

Total deposits

$ 931,698      0.74 $ 961,671      0.92
  

 

 

      

 

 

    

The following table sets forth the average daily balances and weighted average rates paid for our certificates of deposit for the periods indicated:

 

     For the Three Months
Ended March 31,

2015
    For the Year Ended
December 31,

2014
 
     Average
Balance
     Average
Rate
    Average
Balance
     Average
Rate
 
     (dollars in thousands)  

Less than $100,000

   $ 323,415         0.99   $ 354,250        1.22

$100,000 or more

     265,492         1.08     277,770        1.37
  

 

 

      

 

 

    

Total

$ 588,907      1.03 $ 632,020     1.29
  

 

 

      

 

 

    

The following table shows at March 31, 2015 the amount of our time deposits of $100,000 or more by time remaining until maturity (in thousands):

 

Maturity Period

      

Three months or less

   $ 42,580   

Three months through six months

     54,796   

Six months through twelve months

     74,548   

Over twelve months

     102,066   
  

 

 

 

Total

$ 273,990   
  

 

 

 

 

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Liquidity

Liquidity risk arises from the possibility we may not be able to satisfy current or future financial commitments, or may become unduly reliant on alternative funding sources. The objective of liquidity risk management is to ensure we meet the cash flow requirements of depositors and borrowers, as well as our operating cash needs, taking into account all on- and off-balance sheet funding demands. Liquidity risk management also involves ensuring we meet our cash flow needs at a reasonable cost. We maintain an investment and funds management policy, which identifies primary sources of liquidity, establishes procedures for monitoring and measuring liquidity, and establishes minimum liquidity requirements in compliance with regulatory guidance. Our Asset Liability Committee regularly monitors and reviews our liquidity position.

Funds are available from a number of sources, including the sale of securities in the available for sale portion of the investment portfolio, principal pay-downs on loans and mortgage-backed securities, customer deposit inflows, and other wholesale funding. Our available for sale investment portfolio totaled $157.3 million at March 31, 2015 and within that portfolio, $26.4 million of our securities currently have an unrealized loss of $567,000.

Traditionally, we have borrowed from the FHLB to supplement our funding requirements. The advances are collateralized by first mortgage residential loans. The borrowing capacity is based on the market value of the underlying pledged loans. At March 31, 2015, our additional borrowing capacity with the FHLB was $23.4 million. Any new advances are limited to a one year maturity or less.

We also have federal funds borrowing lines from correspondent banks totaling $5.0 million on a secured basis. Management believes our sources of liquidity are adequate to meet expected cash needs for the foreseeable future. However, the availability of these lines could be affected by our financial position, and our lenders could exercise their right to deny a funding request at their discretion. We are also subject to FDIC interest rate restrictions for deposits. As such, we are permitted to offer up to the “national rate” plus 75 basis points as published weekly by the FDIC. We are also precluded from accepting brokered deposits without the pre-approval of our primary regulators.

We use cash to pay dividends on common stock, if and when declared by the Board of Directors, and to service debt. The main sources of funding for the Company include dividends paid by the Bank and financing obtained in the capital markets. During 2011, Porter Bancorp contributed $13.1 million to its subsidiary, the Bank, which substantially decreased its liquid assets. The contribution was made to strengthen the Bank’s capital in an effort to help it comply with its capital ratio requirements under the consent order. The Company’s liquid assets decreased from $20.3 million at December 31, 2010, to $1.6 million at March 31, 2015. Since the Bank is unlikely to be in a position to pay dividends to the parent company for the foreseeable future, cash inflows for the parent are limited to earnings on investment securities, sales of investment securities, and interest on deposits with the Bank. Ongoing cash operating expenses of the parent company are expected to be approximately $1.0 million for 2015. We have elected to defer payments on our trust preferred securities.

 

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Table of Contents

Capital

In the fourth quarter of 2011, we began deferring interest payments on our junior subordinated notes, which resulted in a deferral of distributions on our trust preferred securities. Therefore, we will not be able to pay cash dividends on our common shares until such time that we have paid all deferred distributions on our trust preferred securities. If we defer interest payments on our trust preferred securities for 20 consecutive quarters (through September 30, 2016), we must pay all deferred interest or we will be in default. At March 31, 2015, cumulative accrued and unpaid interest on our junior subordinated notes totaled $2.3 million.

Stockholders’ equity increased $507,000 to $34.0 million at March 31, 2015, compared with $33.5 million at December 31, 2014 due to current year net income of $594,000.

On February 25, 2015, shareholders approved the conversion of all mandatorily convertible Series B Preferred Shares into 4,053,600 common shares and the conversion of all mandatorily convertible Series D Preferred Shares into 6,458,000 non-voting common shares. The conversion reduced preferred stockholders’ equity by $5.8 million and increased common stockholders’ equity by the same amount. Total issued and outstanding common shares and non-voting common shares were 25,663,495 at March 31, 2015.

Each of the federal bank regulatory agencies has established risk-based capital requirements for banking organizations. The Basel III regulatory capital reforms became effective for the Company and Bank on January 1, 2015, and include new minimum risk-based capital and leverage ratios. These rules refine the definition of what constitutes “capital” for purposes of calculating those ratios, including the definitions of Tier 1 capital and Tier 2 capital. The final rules allow banks and their holding companies with less than $250 billion in assets a one-time opportunity to opt-out of a requirement to include unrealized gains and losses in accumulated other comprehensive income in their capital calculation. The Company and the Bank opted out of this requirement. In addition, the Bank has agreed with its primary regulators to maintain a ratio of total capital to total risk-weighted assets (“total risk-based capital ratio”) of at least 12.0%, and a ratio of Tier 1 capital to total assets (“leverage ratio”) of 9.0%.

The following table shows the ratios of Tier 1 capital and total capital to risk-adjusted assets and the leverage ratios for the Company and the Bank at the dates indicated:

 

                       March 31, 2015     December 31, 2014  
     Regulatory
Minimums
    Well-Capitalized
Minimums
    Minimum Capital
Ratios Under
Consent Order
    Porter
Bancorp
    PBI
Bank
    Porter
Bancorp
    PBI
Bank
 

Tier 1 Capital

     6.0     8.0     N/A        5.88     8.32     6.70     8.59

Common equity Tier I capital

     4.5        6.5        N/A        4.71        8.32        N/A        N/A   

Total risk-based capital

     8.0        10.0        12.0     10.05        10.25        10.61        10.57   

Tier 1 leverage ratio

     4.0        5.0        9.0        4.13        5.84        4.51        5.78   

At March 31, 2015, the Bank’s Tier 1 leverage ratio was 5.84%, and its total risk-based capital ratio was 10.25%, both of which are below the minimum capital ratios required by the Consent Order. Failure to meet minimum capital requirements could result in additional discretionary actions by regulators that, if undertaken, could have a materially adverse effect on our financial condition.

 

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Table of Contents

Item 3. Quantitative and Qualitative Disclosures about Market Risk

The Company’s interest sensitivity profile was liability sensitive at March 31, 2015 and December 31, 2014. Given a 100 basis point increase in interest rates sustained for one year, base net interest income would decrease by an estimated 0.09% at March 31, 2015, compared with a decrease of 3.15% at December 31, 2014, and is within the risk tolerance parameters of our risk management policy. Given a 200 basis point increase in interest rates sustained for one year, base net interest income would decrease by an estimated 0.22% at March 31, 2015, compared with a decrease of 5.86% at December 31, 2014, and is within the risk tolerance parameters of our risk management policy.

The following table indicates the estimated impact on net interest income under various interest rate scenarios for the twelve months following March 31, 2015, as calculated using the static shock model approach:

 

     Change in Future
Net Interest Income
 
     Dollar Change      Percentage
Change
 
     (dollars in thousands)  

+ 200 basis points

   $ (59 )      (0.22 )% 

+ 100 basis points

     (26 )      (0.09 )

We did not run a model simulation for declining interest rates as of March 31, 2015 because the Federal Reserve effectively lowered the federal funds target rate between 0.00% to 0.25% in December 2008. Therefore, no significant further short-term rate reductions can occur.

Item 4. Controls and Procedures

Management is responsible for establishing and maintaining effective disclosure controls and procedures, as defined under Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934. As of March 31, 2015, an evaluation was performed under the supervision and with the participation of management, including the Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures.

Management determined that a material weakness existed in the Company’s internal control over financial reporting at June 30, 2014. The Company utilized information to record the fair value of other real estate owned at June 30, 2014 which was obtained prior to taking possession of commercial real estate through a settlement agreement with a contentious borrower on June 24, 2014, rather than promptly obtaining new information material to the fair value of the properties before the filing of the financial statements as of and for the three and six month periods ended June 30, 2014. We determined, after the filing of those financial statements, that our initial estimate of fair value was significantly higher than the actual fair value as it was not based upon the best information available. Based upon the restatement of the Company’s financial statements as of and for the three and six month periods ended June 30, 2014, the Company determined that our internal controls for recording other real estate owned at estimated fair value less costs to sell did not in this instance establish an accurate initial book value and were not effective. Our management, overseen by the Audit Committee, worked throughout the fourth quarter of 2014 to implement controls, procedures, and processes to remediate this control weakness.

These enhanced controls, procedures, and process improvements include:

 

   

The Special Assets Group promptly and thoroughly reviews new information material to the fair value of the property and analyzes key assumptions relevant to the fair value conclusion and cost to sell estimate. New information includes, but it not limited to, updated appraisals, site visits performed by the Special Assets Group, and discussions with current tenants.

 

   

Personnel, including senior management, consult with the Special Assets Group and external experts, such as property management professionals, to evaluate the new information material to the fair value of the property including comparable sales, income and expenses, and other relevant valuation factors.

 

   

Finance and accounting personnel engage in detailed discussions regarding valuation issues and review other real estate owned, including additions, with the Special Assets Group throughout each reporting period and through the subsequent period up to the filing of the financial statements.

During the fourth quarter of 2014, we took steps to resolve the material weakness by changing our controls, procedures, and processes for recording other real estate owned at estimated fair value less cost to sell, as discussed above. Notwithstanding the steps taken during the fourth quarter of 2014, the identified material weakness will not be considered remediated until the new procedures have been in operation for a sufficient period of time to be tested and determined by management to be operating effectively. Based on our evaluation and the reason described above, management, including our Chief Executive Officer and our Chief Financial Officer, concluded that our disclosure controls and procedures were not effective as of the end of the period covered by this report. There were no other changes in our internal control over financial reporting that occurred during the three months ended March 31, 2015 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

 

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Table of Contents

PART II – OTHER INFORMATION

Item 1. Legal Proceedings

We are defendants in various legal proceedings. Litigation is subject to inherent uncertainties and unfavorable outcomes could occur. See Footnote 13, “Contingencies” in the Notes to our consolidated financial statements for additional detail regarding ongoing legal proceedings.

Item 1A. Risk Factors

We refer you to the detailed cautionary statements and discussion of risks that affect our Company and its business in “Item 1A – Risk Factors” of our December 31, 2014 Annual Report on Form 10-K. There have been no material changes from the risk factors previously discussed in those reports.

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

Not applicable.

Item 3. Default Upon Senior Securities

Not applicable.

Item 4. Mine Safety Disclosures

Not applicable.

Item 5. Other Information

Not applicable.

Item 6. Exhibits

 

(a)

Exhibits

The following exhibits are filed or furnished as part of this report:

 

Exhibit Number

  

Description of Exhibit

10.1    Porter Bancorp, Inc. 2015 Incentive Compensation Bonus Plan incorporated by reference in the Definitive Proxy Statement filed April 17, 2015.
31.1    Certification of Principal Executive Officer, pursuant to Rule 13a - 14(a).
31.2    Certification of Principal Financial Officer, pursuant to Rule 13a - 14(a).
32.1    Certification of Principal Executive Officer, pursuant to 18 U.S.C Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2    Certification of Principal Financial Officer, pursuant to 18 U.S.C Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
101    The following financial statements from the Company’s Quarterly Report on Form 10Q for the quarter ended March 31, 2015, formatted in XBRL: (i) Consolidated Balance Sheets, (ii) Consolidated Statements of Operations, (iii) Consolidated Statements of Comprehensive Income (Loss), (iv) Consolidated Statement of Changes in Stockholders’ Equity, (v) Consolidated Statements of Cash Flows, (vi) Notes to Consolidated Financial Statements.

 

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Table of Contents

SIGNATURES

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

 

PORTER BANCORP, INC.

(Registrant)

May 11, 2015

By:

/s/ John T. Taylor

John T. Taylor

Chief Executive Officer

May 11, 2015

By:

/s/ Phillip W. Barnhouse

Phillip W. Barnhouse

Chief Financial Officer

 

54

Exhibit 31.1

Porter Bancorp, Inc.

Rule 13a-14(a) Certification

of Chief Executive Officer

I, John T. Taylor, Chief Executive Officer of Porter Bancorp, Inc. (the “Company”), certify that:

1. I have reviewed this Quarterly Report on Form 10-Q of the Company;

2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4. The registrant’s other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:

(a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

(b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

(c) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

(d) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5. The registrant’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):

(a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

(b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

 

Dated: May 11, 2015

/s/ John T. Taylor                                                     

John T. Taylor

Chief Executive Officer

Exhibit 31.2

Porter Bancorp, Inc.

Rule 13a-14(a) Certification

of Chief Financial Officer

I, Phillip W. Barnhouse, Chief Financial Officer of Porter Bancorp, Inc. (the “Company”), certify that:

1. I have reviewed this Quarterly Report on Form 10-Q of the Company;

2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4. The registrant’s other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:

(a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

(b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

(c) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

(d) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5. The registrant’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):

(a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

(b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

 

Dated: May 11, 2015

/s/ Phillip W. Barnhouse                                                     

Phillip W. Barnhouse

Chief Financial Officer

Exhibit 32.1

SECTION 906 CERTIFICATION

In connection with the Quarterly Report on Form 10-Q of Porter Bancorp, Inc. (the “Company”) for the quarterly period ended March 31, 2015, as filed with the Securities and Exchange Commission on the date hereof (the “Report”), I, John T. Taylor, Chief Executive Officer of the Company, do hereby certify, in accordance with 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that:

 

  (1)

The Report fully complies with the requirements of Section 13(a) or 15(d), as applicable, of the Securities Exchange Act of 1934, as amended; and

 

  (2)

The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.

 

PORTER BANCORP, INC.

Dated: May 11, 2015

By:

/s/ John T. Taylor

John T. Taylor

Chief Executive Officer

Exhibit 32.2

SECTION 906 CERTIFICATION

In connection with the Quarterly Report on Form 10-Q of Porter Bancorp, Inc. (the “Company”) for the quarterly period ended March 31, 2015, as filed with the Securities and Exchange Commission on the date hereof (the “Report”), I, Phillip W. Barnhouse, Chief Financial Officer of the Company, do hereby certify, in accordance with 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that:

 

  (1)

The Report fully complies with the requirements of Section 13(a) or 15(d), as applicable, of the Securities Exchange Act of 1934, as amended; and

 

  (2)

The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.

 

PORTER BANCORP, INC.

Dated: May 11, 2015

By:

/s/ Phillip W. Barnhouse

Phillip W. Barnhouse

Chief Financial Officer



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