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F&M BANK CORP - Quarter Report: 2017 September (Form 10-Q)

 

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
 
FORM 10-Q
 
[X]           Quarterly report Under Section 13 or 15(d) of the Securities Exchange Act of 1934     
 
For the quarterly period ended September 30, 2017.
 
[ ]           Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
 
Commission File Number: 000-13273
 
F & M BANK CORP.
 
Virginia
 
54-1280811
(State or Other Jurisdiction of Incorporation or Organization)
 
(I.R.S. Employer Identification No.)
 
P. O. Box 1111
Timberville, Virginia 22853
(Address of Principal Executive Offices) (Zip Code)
 
(540) 896-8941
(Registrant's Telephone Number, Including Area Code)
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐
 
Indicate by check mark whether the registrant has submitted electronically and posted on its website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files. Yes ☒ No ☐
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See definition of “large accelerated filer”, “accelerated filer”, “smaller reporting company” and “an emerging growth company” in Rule 12b-2 of the Exchange Act. (Check one)
 
Large accelerated filer
Accelerated filer
Non-accelerated filer
☐(Do not check if a smaller reporting company)
Smaller reporting company
 
 
Emerging growth company
 
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes ☐ No ☒
 
State the number of shares outstanding of each of the registrant’s classes of common stock, as of the latest practicable date.
 
 Class
 Outstanding at November 10, 2017
 Common Stock, par value - $5 
 3,269,052 shares


 
 
 
F & M BANK CORP.
 
Index
 
 
 
Page
Part I
Financial Information
3
 
 
 
Item 1.
Financial Statements
 3
 
 
 
 
Consolidated Balance Sheets – September 30, 2017 and December 31, 2016
 3
 
 
 
 
Consolidated Statements of Income – Three Months Ended September 30, 2017 and 2016
 4
 
 
 
 
Consolidated Statements of Income – Nine Months Ended September 30, 2017 and 2016
 5
 
 
 
 
Consolidated Statements of Comprehensive Income – Three and Nine Months Ended September 30, 2017 and 2016
6
 
 
 
 
Consolidated Statements of Changes in Stockholders’ Equity – Nine Months Ended September 30, 2017 and 2016
 7
 
 
 
 
Consolidated Statements of Cash Flows – Nine Months Ended September 30, 2017 and 2016
 8
 
 
 
 
Notes to Consolidated Financial Statements
9
 
 
 
Item 2.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
34
 
 
 
Item 3.
Quantitative and Qualitative Disclosures About Market Risk
48
 
 
 
Item 4.
Controls and Procedures
48
 
 
 
Part II
Other Information
49
 
 
 
Item 1.
Legal Proceedings
49
 
 
 
Item 1a.
Risk Factors
49
 
 
 
Item 2.
Unregistered Sales of Equity Securities and Use of Proceeds
49
 
 
 
Item 3.
Defaults Upon Senior Securities
49
 
 
 
Item 4.
Mine Safety Disclosures
49
 
 
 
Item 5.
Other Information
49
 
 
 
Item 6.
Exhibits
49
 
 
 
Signatures
50
 
 
 
Certifications

 
 
 
Part I Financial Information
Item 1 Financial Statements
 
F & M BANK CORP.
Consolidated Balance Sheets
(dollars in thousands, except share and per share data)
 
 
 
September 30,
 
 
December 31,
 
 
 
2017
 
 
2016*
 
 
 
(Unaudited)
 
 
 
 
Assets
 
 
 
 
 
 
Cash and due from banks
 $8,801 
 $7,755 
Money market funds
  945 
  674 
Federal funds sold
  - 
  7,926 
Cash and cash equivalents
  9,746 
  16,355 
Securities:
    
    
Held to maturity – fair value of $125 in 2017 and 2016
  125 
  125 
Available for sale
  22,682 
  24,783 
Other investments
  13,600 
  14,567 
Loans held for sale
  58,177 
  62,735 
Loans held for investment
  619,960 
  591,636 
Less: allowance for loan losses
  (6,942)
  (7,543)
Net loans held for investment
  613,018 
  584,093 
 
    
    
Other real estate owned
  2,148 
  2,076 
Bank premises and equipment, net
  12,716 
  10,340 
Interest receivable
  1,845 
  1,785 
Goodwill
  3,113 
  2,670 
Bank owned life insurance
  13,841 
  13,513 
Other assets
  12,674 
  11,847 
Total assets
 $763,685 
 $744,889 
 
    
    
Liabilities
    
    
Deposits:
    
    
Noninterest bearing
 $156,922 
 $146,617 
Interest bearing
  405,458 
  390,468 
Total deposits
  562,380 
  537,085 
 
    
    
Short-term debt
  42,128 
  40,000 
Accrued liabilities
  17,181 
  16,885 
Long-term debt
  50,840 
  64,237 
Total liabilities
  672,529 
  658,207 
 
    
    
Stockholders’ Equity
    
    
Preferred Stock $5 par value, 400,000 shares authorized, 324,150 and 327,350
    
    
     Issued and outstanding for September 30, 2017 and December 31, 2016, respectively
  7,529 
  7,609 
Common stock, $5 par value, 6,000,000 shares authorized,
    
    
     3,268,956 and 3,270,315 shares issued and outstanding
    
    
     for September 30, 2017 and December 31, 2016, respectively
  16,345 
  16,352 
Additional paid in capital – common stock
  10,621 
  10,684 
Retained earnings
  59,233 
  54,509 
Noncontrolling interest in consolidated subsidiaries
  594 
  693 
Accumulated other comprehensive loss
  (3,166)
  (3,165)
Total stockholders’ equity
  91,156 
  86,682 
Total liabilities and stockholders’ equity
 $763,685 
 $744,889 
 
*2016 Derived from audited consolidated financial statements.
 
See notes to unaudited consolidated financial statements.
 
 
3
 
 
F & M BANK CORP.
Consolidated Statements of Income
(dollars in thousands)
(Unaudited)
 
 
 
Three Months Ended
 
 
 
September 30,
 
Interest and Dividend income
 
2017
 
 
2016
 
Interest and fees on loans held for investment
 $8,221 
  7,542 
Interest and fees on loans held for sale
  329 
  550 
Interest from money market funds and federal funds sold
  41 
  11 
Interest on debt securities – taxable
  97 
  112 
Total interest and dividend income
  8,688 
  8,215 
 
    
    
Interest expense
    
    
       Interest on deposits
  698 
  609 
       Interest from short-term debt
  14 
  9 
       Interest from long-term debt
  318 
  352 
Total interest expense
  1,030 
  970 
 
    
    
Net interest income
  7,658 
  7,245 
 
    
    
Provision for Loan Losses
  - 
  - 
Net Interest Income After Provision for Loan Losses
  7,658 
  7,245 
 
    
    
Noninterest income
    
    
Service charges on deposit accounts
  359 
  336 
Investment services and insurance income, net
  169 
  112 
        Mortgage banking income, net
  861 
  694 
        Title insurance income
  247 
  - 
Income on bank owned life insurance
  112 
  119 
        Low income housing partnership losses
  (201)
  (183)
        ATM and check card fees
  353 
  328 
        Other operating income
  245 
  129 
Total noninterest income
  2,145 
  1,535 
 
    
    
Noninterest expense
    
    
Salaries
  3,194 
  2,471 
Employee benefits
  689 
  699 
Occupancy expense
  281 
  215 
Equipment expense
  224 
  183 
FDIC insurance assessment
  20 
  113 
       Other real estate owned, net
  (4)
  19 
       Marketing expense
  147 
  128 
       Legal and professional fees
  78 
  100 
      ATM and check card fees
  183 
  184 
      Telecommunication and data processing expense
  370 
  309 
      Directors fees
  117 
  46 
      Bank franchise tax
  167 
  170 
       Other operating expenses
  793 
  823 
Total noninterest expense
  6,259 
  5,460 
 
    
    
Income before income taxes
  3,544 
  3,320 
Income tax expense
  946 
  654 
Net Income
  2,598 
  2,666 
        Net income attributable to noncontrolling interest
  48 
  64 
Net Income attributable to F & M Bank Corp.
 $2,550 
 $2,602 
        Dividends paid/accumulated on preferred stock
  103 
  128 
Net income available to common stockholders
 $2,447 
 $2,474 
 
    
    
Per Common Share Data
 
 
 
 
 
 
Net income – basic
 $.75 
 $.75 
Net income – diluted
  .70 
 $.70 
Cash dividends on common stock
 $.24 
 $.20 
Weighted average common shares outstanding – basic
  3,270,969 
  3,286,756 
Weighted average common shares outstanding – diluted
  3,632,607 
  3,731,156 
 
See notes to unaudited consolidated financial statements.
 
 
4
 
 
F & M BANK CORP.
Consolidated Statements of Income
(dollars in thousands)
(Unaudited)
 
 
 
Nine Months Ended
 
 
 
September 30,
 
Interest and Dividend income
 
2017
 
 
2016
 
Interest and fees on loans held for investment
 $23,830 
 $22,064 
Interest and fees on loans held for sale
  774 
  1,451 
Interest from money market funds and federal funds sold
  116 
  25 
Interest on debt securities – taxable
  234 
  253 
Total interest and dividend income
  24,954 
  23,793 
 
    
    
Interest expense
    
    
       Total interest on deposits
  1,947 
  1,757 
       Interest from short-term debt
  46 
  35 
       Interest from long-term debt
  868 
  853 
Total interest expense
  2,861 
  2,645 
 
    
    
Net interest income
  22,093 
  21,148 
 
    
    
Provision for Loan Losses
  - 
  - 
Net Interest Income After Provision for Loan Losses
  22,093 
  21,148 
 
    
    
Noninterest income
    
    
Service charges on deposit accounts
  1,010 
  842 
Investment services and insurance income
  530 
  317 
        Mortgage banking income, net
  1,974 
  1,891 
        Title insurance income
  668 
  - 
Income on bank owned life insurance
  336 
  356 
        Low income housing partnership losses
  (587)
  (548)
        ATM and check card fees
  1,034 
  1,020 
        Gain on prepayment of long-term debt
  504 
  - 
        Loss on sale of other investments
  (42)
  - 
        Other operating income
  513 
  238 
Total noninterest income
  5,940 
  4,116 
 
    
    
Noninterest expense
    
    
Salaries
  8,502 
  7,161 
Employee benefits
  2,467 
  2,113 
Occupancy expense
  776 
  643 
Equipment expense
  613 
  569 
FDIC insurance assessment
  200 
  338 
       Other real estate owned, net
  22 
  72 
       Marketing expense
  404 
  396 
       Legal and professional fees
  253 
  293 
      ATM and check card fees
  529 
  518 
      Telecommunication and data processing expense
  1,045 
  861 
      Directors fees
  360 
  254 
      Bank franchise tax
  491 
  480 
       Other operating expenses
  2,464 
  2,176 
Total noninterest expense
  18,126 
  15,874 
 
    
    
Income before income taxes
  9,907 
  9,390 
Income tax expense
  2,633 
  2,187 
Net Income
  7,274 
  7,203 
        Net income attributable to noncontrolling interest
  51 
  154 
Net Income attributable to F & M Bank Corp.
 $7,223 
 $7,049 
        Dividends paid/accumulated on preferred stock
  312 
 382 
Net income available to common stockholders
 $6,911 
 $6,667 
 
Per Common Share Data
 
 
 
 
 
 
Net income – basic
 $2.11 
 $2.03 
Net income – diluted
  1.99 
 $1.89 
Cash dividends on common stock
 $.69 
 $.58 
Weighted average common shares outstanding – basic
  3,271,863 
  3,286,165 
Weighted average common shares outstanding – diluted
  3,634,856 
  3,730,565 
 
See notes to unaudited consolidated financial statements.
 
 
5
 
 
F & M BANK CORP.
Consolidated Statements of Comprehensive Income
(dollars in thousands)
(Unaudited)
 
 
 
Nine Months Ended
 
 
Three Months Ended
 
 
 
September 30,
 
 
September 30,
 
 
 
2017
 
 
2016
 
 
2017
 
 
2016
 
Net Income:
 
 
 
 
 
 
 
 
 
 
 
 
    Net Income – F & M Bank Corp
 $7,223 
 $7,049 
 $2,550 
 $2,602 
    Net income attributable to noncontrolling interest
  51 
  154 
  48 
  64 
Total Net Income:
  7,274 
  7,203 
  2,598 
  2,666 
 
    
    
    
    
Unrealized holding gains (losses) on available-for-sale securities
  (2)
  32 
  - 
  (6)
    Tax Effect
  1 
  ( 10)
  - 
  2 
    Unrealized holding gain (loss), net of tax
  (1)
  22 
  - 
  (4)
Total other comprehensive income (loss)
  (1)
  22 
  - 
  (4)
 
    
    
    
    
Comprehensive income
 $7,273 
 $7,225 
 $2,598 
 $2,662 
 
 
See notes to unaudited consolidated financial statements.
 
 
6
 
 
F & M BANK CORP.
Condensed Consolidated Statements of Changes in Stockholders’ Equity
(dollars in thousands)
(Unaudited)
 
 
 
Nine Months Ended
 
 
 
September 30,
 
 
 
2017
 
 
2016
 
 
 
 
 
 
 
 
Balance, beginning of period
 $86,682 
 $82,950 
 
    
    
Comprehensive income
    
    
Net income – F & M Bank Corp
  7,223 
  7,049 
Net income (loss) attributable to noncontrolling interest
  51 
  154 
Other comprehensive income (loss)
  (1)
  22 
Total comprehensive income
  7,273 
  7,225 
 
    
    
Minority interest capital distributions
  (149)
  (74)
Issuance of common stock
  150 
  132 
Repurchase of common stock
  (199)
  (421)
Repurchase of preferred stock
  (101)
  - 
Dividends paid
  (2,500)
  (2,287)
Balance, end of period
 $91,156 
 $87,525 
 
See notes to unaudited consolidated financial statements.
 
 
7
 
 
F & M BANK CORP.
Consolidated Statements of Cash Flows
(dollars in thousands)
(Unaudited)
 
 
 
Nine Months Ended
September 30,
 
 
 
2017
 
 
2016
 
Cash flows from operating activities
 
 
 
 
 
 
Net income
 $7,223 
 $7,049 
Reconcile net income to net cash provided by (used in) operating activities:
    
    
Depreciation
  660 
  602 
Amortization of securities
  2 
  105 
Proceeds from loans held for sale originated
  61,310 
  65,553 
Loans held for sale originated
  (59,250)
  (66,706)
Gain on sale of loans held for sale originated
  (1,876)
  (2,075)
Gain on prepayment of long-term debt
  (504)
  - 
Increase in interest receivable
  (60)
  29 
Increase in other assets
  (336)
  (66)
Decrease in accrued liabilities
  (422)
  (1,167)
Amortization of limited partnership investments
  587 
  548 
Income from life insurance investment
  (336)
  (356)
Loss on sale of other investments
  42 
  - 
Loss on sale and valuation adjustments for other real estate owned
  - 
  20 
Net cash provided by (used in) operating activities
  7,040 
  3,536 
 
    
    
Cash flows from investing activities
    
    
Purchase of investments available for sale and other investments
  (61,432)
  (26,109)
Purchase of title insurance company
  (304)
  - 
Proceeds from maturity of investments available for sale
  63,811 
  12,175 
Proceeds from the sale of investments
  55 
  - 
Net increase in loans held for investment
  (29,070)
  (35,837)
Net decrease (increase) in loans held for sale participations
  4,373 
  (22,131)
Other real estate improvements
  (7)
    
Proceeds from the sale of other real estate owned
  80 
  623 
Net purchase of property and equipment
  (3,036)
  (2,403)
Net cash used in investing activities
  (25,530)
  (73,682)
 
    
    
Cash flows from financing activities
    
    
Net change in deposits
  25,295 
  33,154 
Net change in short-term debt
  2,128 
  26,275 
Dividends paid in cash
  (2,500)
  (2,287)
Proceeds from issuance of common stock
  150 
  132 
Proceeds from issuance of long-term debt
  - 
  20,000 
Repurchase of preferred stock
  (101)
  - 
Repurchase of common stock
  (199)
  (421)
Repayments of long-term debt
  (12,892)
  (3,070)
Net cash provided by financing activities
  11,881 
  73,783 
 
    
    
Net (decrease) increase in Cash and Cash Equivalents
  (6,609)
  3,637 
Cash and cash equivalents, beginning of period
  16,355 
  8,519 
Cash and cash equivalents, end of period
 $9,746 
 $12,156 
Supplemental Cash Flow information:
    
    
Cash paid for:
    
    
Interest
 $2,850 
 $2,633 
           Taxes
  3,495 
  2,300 
Supplemental non-cash disclosures:
    
    
Transfer from loans to other real estate owned
  145 
  592 
Change in unrealized gain (loss) on securities available for sale
  (2)
  - 
 
See notes to unaudited consolidated financial statements.

8
 
Note 1. 
Summary of Significant Accounting Policies
 
Principles of Consolidation
 
The accompanying unaudited consolidated financial statements include the accounts of Farmers & Merchants Bank, TEB Life Insurance Company, Farmers & Merchants Financial Services, Inc., VBS Mortgage, LLC, (net of noncontrolling interest) and VSTitle, LLC (net of noncontrolling interest) and were prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) for the interim financial information and with the instructions to Form 10-Q adopted by the Securities and Exchange Commission (“SEC”). Accordingly, these financial statements do not include all of the information and footnotes required by U. S. GAAP for complete financial statements. Operating results for the three and nine months ended September 30, 2017 are not necessarily indicative of the results that may be expected for the year ending December 31, 2017. These interim consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2016 (the “2016 Form 10-K”).
 
The accompanying unaudited consolidated financial statements include the accounts of the Company, the Bank and its subsidiaries. All significant intercompany balances and transactions have been eliminated in consolidation.
 
Nature of Operations
 
F & M Bank Corp. (the “Company”), through its subsidiary Farmers & Merchants Bank (the “Bank”), operates under a charter issued by the Commonwealth of Virginia and provides commercial banking services. As a state chartered bank, the Bank is subject to regulation by the Virginia Bureau of Financial Institutions and the Federal Reserve Bank. The Bank provides services to customers primarily located in Rockingham, Shenandoah, Page and Augusta Counties in Virginia. Services are provided at thirteen branch offices and a Dealer Finance Division. The Company offers insurance, mortgage lending, title insurance and financial services through its subsidiaries, TEB Life Insurance, Inc., Farmers & Merchants Financial Services, Inc (FMFS), VBS Mortgage, LLC (VBS), and VSTitle, LLC (VST). The Company purchased a majority interest VSTitle, a title company headquartered in Harrisonburg, VA with offices in Harrisonburg, Fishersville and Charlottesville, VA on January 1, 2017.
 
Basis of Presentation
 
The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that effect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Material estimates that are particularly susceptible to significant change in the near term relate to the determination of the allowance for loan losses, goodwill, other than temporary impairment, pension accounting and the valuation of foreclosed real estate.
 
Reclassification
 
Certain reclassifications have been made to prior period amounts to conform to current period presentation. None of these reclassifications are considered material and have no impact on net income.
 
 
9
 
 
Note 1. 
Summary of Significant Accounting Policies, continued
 
Earnings per Share
 
Accounting guidance specifies the computation, presentation and disclosure requirements for earnings per share (“EPS”) for entities with publicly held common stock or potential common stock such as options, warrants, convertible securities or contingent stock agreements if those securities trade in a public market. Basic EPS is computed by dividing net income available to common shareholders by the weighted average number of common shares outstanding.  In calculating diluted EPS net income is used as the numerator and the denominator is increased to include the number of additional common shares that would have been outstanding if the dilutive common shares had been issued.  The dilutive effect of conversion of preferred stock is reflected in the diluted earnings per share calculation.
 
Net income available to common stockholders represents consolidated net income adjusted for preferred dividends declared.
 
The following table provides a reconciliation of net income to net income available to common stockholders for the periods presented:  
 
(dollars in thousands)
 
For the
Nine months ended
 
 
For the Three months Ended
 
 
For the
Nine months ended
 
 
For the
Three months ended
 
 
 
September 30, 2017
 
 
September 30, 2017
 
 
September 30, 2016
 
 
September 30, 2016
 
Earnings available to common stockholders:
 
 
 
 
 
 
 
 
 
 
 
 
Net income
 $7,274 
 $2,598 
 $7,203 
 $2,666 
Noncontrolling interest income (loss)
  51 
  48 
  154 
  64 
Preferred stock dividends
  312 
  103 
  382 
  128 
Net income available to common stockholders
 $6,911 
 $2,447 
 $6,667 
 $2,474 
 
The following table shows the effect of dilutive preferred stock conversion on the Company's earnings per share for the periods indicated:
 
 
 
Nine months ended
September 30, 2017
 
 
Nine months ended
September 30, 2016
 
 
 
Income
 
 
Shares
 
 
Per Share Amounts
 
 
Income
 
 
Shares
 
 
Per Share Amounts
 
Basic EPS
 $6,911 
  3,271,863 
 $2.11 
 $6,667 
  3,286,165 
 $2.03 
Effect of Dilutive Securities:
    
    
    
    
    
    
     Convertible Preferred Stock
  312 
  362,993 
  (0.12)
  382 
  444,400 
  (0.14)
Diluted EPS
 $7,223 
  3,634,856 
 $1.99 
 $7,049 
  3,730,565 
 $1.89 
 
 
 
Three months ended
September 30, 2017
 
 
Three months ended
September 30, 2016
 
 
 
Income
 
 
Shares
 
 
Per Share Amounts
 
 
Income
 
 
Shares
 
 
Per Share Amounts
 
Basic EPS
 $2,447 
  3,270,969 
 $.75 
 $2,474 
  3,286,756 
 $.75 
Effect of Dilutive Securities:
    
    
    
    
    
    
     Convertible Preferred Stock
  103 
  361,638 
  (0.05)
  128 
  444,400 
  (0.05)
Diluted EPS
 $2,550 
  3,632,607 
 $.70 
 $2,602 
  3,731,156 
 $.70 
 
 
10
 
 
Note 2.   
Investment Securities
 
Investment securities available for sale are carried in the consolidated balance sheets at their approximate fair value. Investment securities held to maturity are carried in the consolidated balance sheets at their amortized cost at September 30, 2017 and December 31, 2016 are as follows:
 
 
 
 
 
 
Gross
 
 
Gross
 
 
 
 
 
 
Amortized
 
 
Unrealized
 
 
Unrealized
 
 
Fair
 
 
 
Cost
 
 
Gains
 
 
Losses
 
 
Value
 
September 30, 2017
 
 
 
 
 
 
 
 
 
 
 
 
U. S. Treasuries
 $125 
 $- 
 $- 
 $125 
December 31, 2016
    
    
    
    
U. S. Treasuries
 $125 
 $- 
 $- 
 $125 
 
The amortized cost and fair value of securities available for sale are as follows:
 
 
 
Amortized
Cost
 
 
Gross
Unrealized
Gains
 
 
Gross
Unrealized
Losses
 
 
Fair
Value
 
September 30, 2017
 
 
 
 
 
 
 
 
 
 
 
 
U. S. Treasuries
 $22,001 
 $- 
 $3 
 $21,998 
Mortgage-backed obligations of federal agencies
  539 
  10 
  - 
  549 
Equity securities
  135 
  - 
  - 
  135 
Total Securities Available for Sale
 $22,675 
 $10 
 $3 
 $22,682 
 
    
    
    
    
December 31, 2016
    
    
    
    
U. S. Treasuries
 $24,005 
 $9 
 $- 
 $24,014 
Mortgage-backed obligations of federal agencies
  634 
  - 
  - 
  634 
Equity securities
  135 
  - 
  - 
  135 
Total Securities Available for Sale
 $24,774 
 $9 
 $- 
 $24,783 
 
 
11
 
 
Note 2.   
Investment Securities, continued
 
The amortized cost and fair value of securities at September 30, 2017, by contractual maturity are shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.
 
 
 
Securities Held to Maturity
 
 
Securities Available for Sale
 
 
 
Amortized
 
 
Fair
 
 
Amortized
 
 
Fair
 
(dollars in thousands)
 
Cost
 
 
Value
 
 
Cost
 
 
Value
 
Due in one year or less
 $- 
 $- 
 $22,001 
 $21,998 
Due after one year through five years
  125 
  125 
  - 
  - 
Due after five years
  - 
  - 
  539 
  549 
Due after ten years
  - 
  - 
  135 
  135 
Total
 $125 
 $125 
 $22,675 
 $22,682 
 
There were no gains or losses on sales of available for sale securities in the three month or nine month periods ended September 30, 2017 or 2016. There were also no securities with other than temporary impairment.
 
In the three months ended September 30, 2017, the treasury securities were in an unrealized loss position. There were no securities in an unrealized loss positions for more than twelve months as of September 30, 2017.
 
Other investments consist of investments in nineteen low-income housing and historic equity partnerships (carrying basis of $7,607,198), stock in the Federal Home Loan Bank (carrying basis $4,523,700) and various other investments (carrying basis $1,469,572). The interests in low-income housing and historic equity partnerships have limited transferability and the interests in the other stocks are restricted as to sales. The fair values of these securities are estimated to approximate their carrying value as of September 30, 2017. At September 30, 2017, the Company was committed to invest an additional $4,231,047 in nine low-income housing limited partnerships. These funds will be paid as requested by the general partner to complete the projects. This additional investment has been reflected in the above carrying basis and in accrued liabilities on the consolidated balance sheet. During the first quarter of 2017, both Farmers & Merchants Financial Services and VBS Mortgage ended their relationship with Bankers Title Virginia resulting in a consolidated loss of $41,914.
 
Note 3.   
Loans
 
(dollars in thousands)
 
2017
 
 
2016
 
Construction/Land Development
 $74,313 
 $76,172 
Farmland
  15,578 
  12,901 
Real Estate
  177,786 
  172,758 
Multi-Family
  8,504 
  7,605 
Commercial Real Estate
  155,510 
  150,061 
Home Equity – closed end
  11,189 
  11,453 
Home Equity – open end
  55,461 
  54,420 
Commercial & Industrial – Non-Real Estate
  38,050 
  31,306 
Consumer
  7,328 
  6,643 
Dealer Finance
  73,567 
  65,495 
Credit Cards
  2,674 
  2,822 
Total
 $619,960 
 $591,636 
 
Loans held for investment outstanding at September 30, 2017 and December 31, 2016 are summarized as follows:
 
The Company has pledged loans held for investment as collateral for borrowings with the Federal Home Loan Bank of Atlanta totaling $213,184,000 and $199,401,000 as of September 30, 2017 and December 31, 2016, respectively. The Company maintains a blanket lien on its entire residential real estate portfolio and certain commercial and home equity loans.
 
 
12
 
 
Note 3.  
Loans, continued
 
 
 
September 30, 2017
 
 
December 31, 2016
 
 
 
 
 
 
Unpaid
 
 
 
 
 
 
 
 
Unpaid
 
 
 
 
 
 
Recorded
 
 
Principal
 
 
Related
 
 
Recorded
 
 
Principal
 
 
Related
 
 
 
Investment
 
 
Balance
 
 
Allowance
 
 
Investment
 
 
Balance
 
 
Allowance
 
Impaired loans without a valuation allowance:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
     Construction/Land Development
 $4,784 
 $5,140 
 $- 
 $3,296 
 $3,652 
 $- 
     Farmland
  1,983 
  1,983 
  - 
  - 
  - 
  - 
     Real Estate
  740 
  740 
  - 
  768 
  768 
  - 
     Multi-Family
  - 
  - 
  - 
  - 
  - 
  - 
     Commercial Real Estate
  300 
  300 
  - 
  1,958 
  1,958 
  - 
     Home Equity – closed end
  - 
  - 
  - 
  - 
  - 
  - 
     Home Equity – open end
  - 
  347 
  - 
  - 
  347 
  - 
     Commercial & Industrial – Non-Real Estate
  162 
  162 
  - 
  170 
  170 
  - 
     Consumer
  9 
  9 
  - 
  13 
  13 
  - 
     Credit cards
  - 
  - 
  - 
  - 
  - 
  - 
     Dealer Finance
  25 
  25 
  - 
  - 
  - 
  - 
 
  8,003 
  8,706 
    
  6,205 
  6,908 
    
Impaired loans with a valuation allowance
    
    
    
    
    
    
     Construction/Land Development
  5,619 
  5,619 
  2,054 
  6,592 
  6,592 
  1,853 
     Farmland
  - 
  - 
  - 
  - 
  - 
  - 
     Real Estate
  1,192 
  1,192 
  214 
  1,206 
  1,206 
  221 
     Multi-Family
  - 
  - 
  - 
  - 
  - 
  - 
     Commercial Real Estate
  - 
  - 
  - 
  952 
  952 
  60 
     Home Equity – closed end
  - 
  - 
  - 
  - 
  - 
  - 
     Home Equity – open end
  - 
  - 
  - 
  - 
  - 
  - 
     Commercial & Industrial – Non-Real Estate
  - 
  - 
  - 
  - 
  - 
  - 
     Consumer
  - 
  - 
  - 
  - 
  - 
  - 
     Credit cards
  - 
  - 
  - 
  - 
  - 
  - 
     Dealer Finance
  48 
  48 
  12 
  87 
  87 
  20 
 
  6,859 
  6,859 
  2,280 
  8,837 
  8,837 
  2,154 
Total impaired loans
 $14,862 
 $15,565 
 $2,280 
 $15,042 
 $15,745 
 $2,154 
 
The following is a summary of information pertaining to impaired loans (dollars in thousand):
 
The Recorded Investment is defined as the original principal balance less principal payments, charge-offs and nonaccrual payments applied to principal.
 
Loans held for sale consists of loans originated by VBS Mortgage for sale in the secondary market, and the Bank’s commitment to purchase residential mortgage loan participations from Northpointe Bank. The volume of loans purchased from Northpointe fluctuates due to a number of factors including changes in secondary market rates, which affects demand for mortgage loans; the number of participating banks involved in the program; the number of mortgage loan originators selling loans to the lead bank and the funding capabilities of the lead bank. Loans held for sale as of September 30, 2017 and December 31, 2016 were $58,177,450 and $62,734,803, respectively.
 
 
13
 
 
Note 3. 
Loans Held for Investment, continued
 
The following is a summary of the average investment and interest income recognized for impaired loans (dollars in thousands):
 
 
 
Three Months Ended September 30,
 
 
Nine Months Ended September 30,
 
 
 
2017
 
 
2016
 
 
2017
 
 
2016
 
 
 
Average Recorded
 
 
Interest Income
 
 
Average Recorded
 
 
Interest Income
 
 
Average Recorded
 
 
Interest Income
 
 
Average Recorded
 
 
Interest Income
 
 
 
Investment
 
 
Recognized
 
 
Investment
 
 
Recognized
 
 
Investment
 
 
Recognized
 
 
Investment
 
 
Recognized
 
Impaired loans without a valuation allowance:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
     Construction/Land Development
 $5,414 
 $14 
 $2,649 
 $15 
 $4,870 
 $64 
 $2,009 
 $32 
     Farmland
  1,921 
  - 
  - 
  - 
  1,900 
  - 
  - 
  - 
     Real Estate
  743 
  8 
  778 
  8 
  746 
  25 
  860 
  28 
     Multi-Family
  - 
  - 
  - 
  - 
  - 
  - 
  - 
  - 
     Commercial Real Estate
  200 
  9 
  993 
  77 
  167 
  12 
  674 
  79 
     Home Equity – closed end
  - 
  - 
  - 
  - 
  - 
  - 
  - 
  - 
     Home Equity – open end
  347 
  - 
  964 
  (35)
  347 
  - 
  1,167 
  8 
     Commercial & Industrial – Non-Real Estate
  164 
  2 
  174 
  2 
  165 
  8 
  177 
  2 
     Consumer and credit cards
  10 
  - 
  7 
  2 
  10 
  - 
  12 
  - 
     Dealer Finance
  23 
  1 
  24 
  (1)
  22 
  2 
  15 
  1 
 
  8,822 
  34 
  5,589 
  68 
  8,227 
  111 
  4,914 
  150 
Impaired loans with a valuation allowance:
    
    
    
    
    
    
    
    
     Construction/Land Development
 $5,640 
 $75 
 $8,429 
 $112 
 $6,215 
 $215 
 $9,761 
 $212 
     Farmland
  - 
  - 
  - 
  - 
  - 
  - 
  - 
  - 
     Real Estate
  1,194 
  10 
  1,214 
  14 
  1,196 
  41 
  994 
  40 
     Multi-Family
  - 
  - 
  - 
  - 
  - 
  - 
  - 
  - 
     Commercial Real Estate
  - 
  - 
  958 
  14 
  - 
  - 
  944 
  42 
     Home Equity – closed end
  - 
  - 
  - 
  - 
  - 
  - 
  - 
  - 
     Home Equity – open end
  - 
  - 
  1,234 
  (5)
  - 
  - 
  1,322 
  14 
     Commercial & Industrial – Non-Real Estate
  - 
  - 
  14 
  (1)
  - 
  - 
  14 
  - 
     Consumer and credit card
  - 
  - 
  - 
  - 
  - 
  - 
  - 
  - 
     Dealer Finance
  59 
  1 
  72 
  - 
  59 
  2 
  72 
  3 
 
  6,893 
  86 
  11,921 
  134 
  7,470 
  258 
  13,107 
  311 
Total Impaired Loans
 $15,715 
 $120 
 $17,510 
 $202 
 $15,697 
 $369 
 $18,021 
 $461 
 
 
14
 
 
Note 3.  
Loans, continued
 
The following table presents the aging of the recorded investment of past due loans (dollars in thousands) as of September 30, 2017 and December 31, 2016:
 
 
 
30-59 Days Past due
 
 
60-89 Days Past Due
 
 
Greater than 90 Days
 
 
Total Past Due
 
 
Current
 
 
Total Loan Receivable
 
 
Non-Accrual Loans
 
 
Recorded Investment >90 days & accruing
 
September 30, 2017
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Construction/Land Development
 $62 
 $1,692 
 $2,372 
 $4,126 
 $70,187 
 $74,313 
 $2,788 
 $- 
Farmland
  - 
  1,984 
  - 
  1,984 
  13,594 
  15,578 
  - 
  - 
Real Estate
  2,250 
  1,202 
  536 
  3,988 
  173,798 
  177,786 
  1,714 
  - 
Multi-Family
  - 
  - 
  - 
  - 
  8,504 
  8,504 
  - 
  - 
Commercial Real Estate
  840 
  287 
  - 
  1,127 
  154,383 
  155,510 
  - 
  - 
Home Equity – closed end
  273 
  5 
  - 
  278 
  10,911 
  11,189 
  - 
  - 
Home Equity – open end
  488 
  100 
  173 
  761 
  54,700 
  55,461 
  436 
  - 
Commercial & Industrial – Non- Real Estate
  264 
  110 
  481 
  855 
  37,195 
  38,050 
  481 
  - 
Consumer
  13 
  23 
  5 
  41 
  7,287 
  7,328 
  5 
  - 
Dealer Finance
  1,052 
  287 
  148 
  1,487 
  72,080 
  73,567 
  238 
  - 
Credit Cards
  16 
  16 
  - 
  32 
  2,642 
  2,674 
  - 
  - 
Total
 $5,258 
 $5,706 
 $3,715 
 $14,679 
 $605,281 
 $619,960 
 $5,662 
 $- 
 
 
 
30-59 Days Past due
 
 
60-89 Days Past Due
 
 
Greater than 90 Days)
 
 
Total Past Due
 
 
Current
 
 
Total Loan Receivable
 
 
Non-Accrual Loans
 
 
Recorded Investment >90 days & accruing
 
December 31, 2016
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Construction/Land Development
 $73 
 $101 
 $2,175 
 $2,349 
 $73,823 
 $76,172 
 $2,805 
 $- 
Farmland
  - 
  - 
  - 
  - 
  12,901 
  12,901 
  - 
  - 
Real Estate
  2,135 
  746 
  774 
  3,655 
  169,103 
  172,758 
  1,399 
  81 
Multi-Family
  - 
  - 
  - 
  - 
  7,605 
  7,605 
  - 
  - 
Commercial Real Estate
  139 
  - 
  - 
  139 
  149,922 
  150,061 
  - 
  - 
Home Equity – closed end
  101 
  - 
  32 
  133 
  11,320 
  11,453 
  32 
  - 
Home Equity – open end
  484 
  - 
  69 
  553 
  53,867 
  54,420 
  279 
  - 
Commercial & Industrial – Non- Real Estate
  313 
  5 
  - 
  318 
  30,988 
  31,306 
  70 
  - 
Consumer
  35 
  4 
  6 
  45 
  6,598 
  6,643 
  - 
  - 
Dealer Finance
  797 
  187 
  183 
  1,167 
  64,328 
  65,495 
  178 
  26 
Credit Cards
  18 
  4 
  - 
  22 
  2,800 
  2,822 
  - 
  - 
Total
 $4,095 
 $1,047 
 $3,239 
 $8,381 
 $583,255 
 $591,636 
 $4,763 
 $107 
 
At September 30, 2017 and December 31, 2016, other real estate owned included $711,000 and $565,000 of foreclosed residential real estate. The Company has $93,000 of consumer mortgages for which foreclosure is in process at September 30, 2017 and $40,000 at December 31, 2016.
 
Nonaccrual loans at September 30, 2017 and September 30, 2016, would have earned approximately $109,000 and $54,000, respectively, in interest income had they been accruing loans.
 
 
15
 
 
Note 4.     
Allowance for Loan Losses
 
A summary of changes in the allowance for loan losses (dollars in thousands) for September 30, 2017 and December 31, 2016 is as follows:
 
September 30, 2017
 
Beginning Balance
 
 
Charge-offs
 
 
Recoveries
 
 
Provision
 
 
Ending Balance
 
 
Individually Evaluated for Impairment
 
 
Collectively Evaluated for Impairment
 
Allowance for loan losses:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Construction/Land Development
 $3,381 
 $- 
 $- 
 $(213)
 $3,168 
 $2,054 
 $1,114 
Farmland
  34 
  - 
  - 
  (4)
  30 
  - 
  30 
Real Estate
  843 
  - 
  2 
  (105)
  740 
  214 
  526 
Multi-Family
  23 
  - 
  - 
  (2)
  21 
  - 
  21 
Commercial Real Estate
  705 
  - 
  11 
  (165)
  551 
  - 
  551 
Home Equity – closed end
  75 
  8 
  25 
  (20)
  72 
  - 
  72 
Home Equity – open end
  470 
  25 
  - 
  (85)
  360 
  - 
  360 
 Commercial & Industrial – Non-Real Estate
  586 
  31 
  66 
  (249)
  372 
  - 
  372 
 Consumer
  78 
  34 
  11 
  55 
  110 
  - 
  110 
Dealer Finance
  1,289 
  1,395 
  816 
  751 
  1,461 
  12 
  1,449 
Credit Cards
  59 
  69 
  30 
  37 
  57 
  - 
  57 
Total
 $7,543 
 $1,562 
 $961 
 $- 
 $6,942 
 $2,280 
 $4,662 
 
December 31, 2016
 
Beginning Balance
 
 
Charge-offs
 
 
Recoveries
 
 
Provision
 
 
Ending Balance
 
 
Individually Evaluated for Impairment
 
 
Collectively Evaluated for Impairment
 
Allowance for loan losses:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Construction/Land Development
 $4,442 
 $356 
 $7 
 $(712)
 $3,381 
 $1,853 
 $1,528 
Farmland
  95 
  - 
  - 
  (61)
  34 
  - 
  34 
Real Estate
  806 
  23 
  4 
  56 
  843 
  221 
  622 
Multi-Family
  71 
  - 
  - 
  (48)
  23 
  - 
  23 
Commercial Real Estate
  445 
  19 
  135 
  144 
  705 
  - 
  705 
Home Equity – closed end
  174 
  8 
  - 
  (91)
  75 
  - 
  75 
Home Equity – open end
  634 
  370 
  120 
  86 
  470 
  60 
  410 
 Commercial & Industrial – Non-Real Estate
  1,055 
  293 
  267 
  (443)
  586 
  - 
  586 
 Consumer
  108 
  37 
  19 
  (12)
  78 
  - 
  78 
Dealer Finance
  836 
  1,081 
  417 
  1,117 
  1,289 
  20 
  1,269 
Credit Cards
  115 
  74 
  54 
  (36)
  59 
  - 
  59 
Total
 $8,781 
 $2,261 
 $1,023 
 $- 
 $7,543 
 $2,154 
 $5,389 
 
 
16
 
 
Note 4.  
Allowance for Loan Losses, continued
 
September 30, 2017
 
Loan Receivable
 
 
Individually Evaluated for Impairment
 
 
Collectively Evaluated for Impairment
 
Construction/Land Development
 $74,313 
 $10,403 
 $63,910 
Farmland
  15,578 
  1,983 
  13,595 
Real Estate
  177,786 
  1,932 
  175,854 
Multi-Family
  8,504 
  - 
  8,504 
Commercial Real Estate
  155,510 
  300 
  155,210 
Home Equity – closed end
  11,189 
  - 
  11,189 
Home Equity –open end
  55,461 
  - 
  55,461 
Commercial & Industrial – Non-Real Estate
  38,050 
  162 
  37,888 
Consumer
  7,328 
  9 
  7,319 
Dealer Finance
  73,567 
  73 
  73,494 
Credit Cards
  2,674 
  - 
  2,674 
Total
 $619,960 
 $14,862 
 $605,098 
 
The following table presents the recorded investment in loans (dollars in thousands) based on impairment method as of September 30, 2017 and December 31, 2016:
 
December 31, 2016
 
Loan Receivable
 
 
Individually Evaluated for Impairment
 
 
Collectively Evaluated for Impairment
 
Construction/Land Development
 $76,172 
 $9,888 
 $66,284 
Farmland
  12,901 
  - 
  12,901 
Real Estate
  172,758 
  1,974 
  170,784 
Multi-Family
  7,605 
  - 
  7,605 
Commercial Real Estate
  150,061 
  2,910 
  147,151 
Home Equity – closed end
  11,453 
  - 
  11,453 
Home Equity –open end
  54,420 
  - 
  54,420 
Commercial & Industrial – Non-Real Estate
  31,306 
  170 
  31,136 
Consumer
  6,643 
  13 
  6,630 
Dealer Finance
  65,495 
  87 
  65,408 
Credit Cards
  2,822 
  - 
  2,822 
Total
 $591,636 
 $15,042 
 $576,594 
 
 
17
 
 
Note 4.    
Allowance for Loan Losses, continued
 
The following table shows the Company’s loan portfolio broken down by internal loan grade (dollars in thousands) as of September 30, 2107 and December 31, 2016:
 
September 30, 2017
 
Grade 1 Minimal Risk
 
 
Grade 2 Modest Risk
 
 
Grade 3 Average Risk
 
 
Grade 4 Acceptable Risk
 
 
Grade 5 Marginally Acceptable
 
 
Grade 6 Watch
 
 
Grade 7 Substandard
 
 
Grade 8 Doubtful
 
 
Total
 
Construction/Land Development
 $- 
 $730 
 $12,931 
 $36,673 
 $10,285 
 $4,989 
 $8,705 
 $- 
 $74,313 
Farmland
  64 
  333 
  3,897 
  4,459 
  4,348 
  494 
  1,983 
  - 
  15,578 
Real Estate
  - 
  1,404 
  53,245 
  95,135 
  19,963 
  5,285 
  2,754 
  - 
  177,786 
Multi-Family
  - 
  249 
  2,898 
  5,177 
  180 
  - 
  - 
  - 
  8,504 
Commercial Real Estate
  - 
  2,811 
  43,962 
  97,798 
  9,312 
  1,040 
  587 
  - 
  155,510 
Home Equity – closed end
  - 
  130 
  3,815 
  4,499 
  1,298 
  1,442 
  5 
  - 
  11,189 
Home Equity – open end
  84 
  2,612 
  16,619 
  31,730 
  3,771 
  142 
  503 
  - 
  55,461 
Commercial & Industrial (Non-Real Estate)
  277 
  1,460 
  15,039 
  19,061 
  1,368 
  322 
  523 
  - 
  38,050 
Consumer (excluding dealer)
  47 
  362 
  2,640 
  415 
  1,187 
  2,202 
  475 
  - 
  7,328 
Total
 $472 
 $10,091 
 $155,046 
 $294,947 
 $51,712 
 $15,916 
 $15,535 
 $- 
 $543,719 
 
 
 
Credit Cards
 
 
Dealer Finance
 
Performing
 $2,674 
 $73,329 
Non performing
  - 
  238 
Total
 $2,674 
 $73,567 
 
 
18
 
 
Note 4. 
Allowance for Loan Losses, continued
 
December 31, 2016
 
Grade 1 Minimal Risk
 
 
Grade 2 Modest Risk
 
 
Grade 3 Average Risk
 
 
Grade 4 Acceptable Risk
 
 
Grade 5 Marginally Acceptable
 
 
Grade 6 Watch
 
 
Grade 7 Substandard
 
 
Grade 8 Doubtful
 
 
Total
 
Construction/Land Development
 $- 
 $1,478 
 $10,870 
 $43,863 
 $8,399 
 $2,473 
 $9,089 
 $- 
 $76,172 
Farmland
  65 
  - 
  3,073 
  3,456 
  4,446 
  1,861 
  - 
  - 
  12,901 
Real Estate
  - 
  1,149 
  62,168 
  74,242 
  28,266 
  4,680 
  2,253 
  - 
  172,758 
Multi-Family
  - 
  311 
  3,009 
  4,099 
  186 
  - 
  - 
  - 
  7,605 
Commercial Real Estate
  - 
  2,793 
  32,986 
  91,157 
  19,181 
  1,840 
  2,104 
  - 
  150,061 
Home Equity – closed end
  - 
  150 
  3,966 
  4,139 
  1,746 
  1,414 
  38 
  - 
  11,453 
Home Equity – open end
  124 
  1,724 
  16,415 
  30,974 
  4,547 
  125 
  511 
  - 
  54,420 
Commercial & Industrial (Non-Real Estate)
  1,375 
  1,267 
  6,827 
  19,530 
  2,198 
  39 
  70 
  - 
  31,306 
Consumer (excluding dealer)
  67 
  174 
  1,837 
  607 
  1,242 
  2,252 
  466 
  - 
  6,643 
Total
 $1,631 
 $9,046 
 $141,151 
 $272,065 
 $70,211 
 $14,684 
 $14,531 
 $- 
 $523,319 
 
 
 
Credit Cards
 
 
Dealer Finance
 
Performing
 $2,822 
 $65,291 
Non performing
  - 
  204 
Total
 $2,822 
 $65,495 
 
Description of internal loan grades:
 
Grade 1 – Minimal Risk: Excellent credit, superior asset quality, excellent debt capacity and coverage, and recognized management capabilities.
 
Grade 2 – Modest Risk: Borrower consistently generates sufficient cash flow to fund debt service, excellent credit, above average asset quality and liquidity.
 
Grade 3 – Average Risk: Borrower generates sufficient cash flow to fund debt service. Employment (or business) is stable with good future trends. Credit is very good.
 
Grade 4 – Acceptable Risk: Borrower’s cash flow is adequate to cover debt service; however, unusual expenses or capital expenses must be covered through additional long term debt. Employment (or business) stability is reasonable, but future trends may exhibit slight weakness. Credit history is good. No unpaid judgments or collection items appearing on credit report.
 
 
19
 
 
Note 4.     
Allowance for Loan Losses, continued
 
Grade 5 – Marginally acceptable: Credit to borrowers who may exhibit declining earnings, may have leverage that is materially above industry averages, liquidity may be marginally acceptable. Employment or business stability may be weak or deteriorating. May be currently performing as agreed, but would be adversely affected by developing factors such as layoffs, illness, reduced hours or declining business prospects. Credit history shows weaknesses, past dues, paid or disputed collections and judgments, but does not include borrowers that are currently past due on obligations or with unpaid, undisputed judgments.
 
Grade 6 – Watch: Loans are currently protected, but are weak due to negative balance sheet or income statement trends. There may be a lack of effective control over collateral or the existence of documentation deficiencies. These loans have potential weaknesses that deserve management’s close attention. Other reasons supporting this classification include adverse economic or market conditions, pending litigation or any other material weakness. Existing loans that become 60 or more days past due are placed in this category pending a return to current status.
 
Grade 7 – Substandard: Loans having well-defined weaknesses where a payment default and or loss is possible, but not yet probable. Cash flow is inadequate to service the debt under the current payment, or terms, with prospects that the condition is permanent. Loans classified as substandard are inadequately protected by the current net worth and paying capacity of the borrower and there is the likelihood that collateral will have to be liquidated and/or guarantor(s) called upon to repay the debt. Generally, the loan is considered collectible as to both principal and interest, primarily because of collateral coverage, however, if the deficiencies are not corrected quickly; there is a probability of loss.
 
Grade 8 – Doubtful: The loan has all the characteristics of a substandard credit, but available information indicates it is unlikely the loan will be repaid in its entirety. Cash flow is insufficient to service the debt. It may be difficult to project the exact amount of loss, but the probability of some loss is great. Loans are to be placed on non-accrual status when any portion is classified doubtful.
 
Credit card and dealer finance loans are classified as performing or nonperforming. A loan is nonperforming when payments of principal and interest are past due 90 days or more.
 
 
 
 
 
20
 
 
Note 5.
Employee Benefit Plan
 
The Bank has a qualified noncontributory defined benefit pension plan which covers substantially all of its full-time employees hired before April 1, 2012. The benefits are primarily based on years of service and earnings. The Company uses December 31st as the measurement date for the defined benefit pension plan. The Bank does not expect to contribute to the pension plan in 2017.
 
The following is a summary of net periodic pension costs for the three and nine month periods ended September 30, 2017 and 2016:
 
(dollars in thousands)
 
Nine Months Ended
 
 
Three Months Ended
 
 
 
September 30, 2017
 
 
September 30, 2016
 
 
September 30, 2017
 
 
September 20, 2016
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Service cost
 $522 
 $474 
 $174 
 $158 
Interest cost
  365 
  340 
  122 
  113 
Expected return on plan assets
  (638)
  (641)
  (213)
  (214)
Amortization of prior service cost
  (11)
  (11)
  (4)
  (4)
Amortization of net (gain) or loss
  213 
  167 
  71 
  56 
Net periodic pension cost
 $451 
 $329 
 $150 
 $109 
 
Note 6.                  
Fair Value
 
The fair value of a financial instrument is the current amount that would be exchanged between willing parties, other than in a forced liquidation. Fair value is best determined based upon quoted market prices. However, in many instances, there are no quoted market prices for the Company’s various financial instruments. In cases where quoted market prices are not available, fair values are based on estimates using present value or other valuation techniques.
 
Those techniques are significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. Accordingly, the fair value estimates may not be realized in an immediate settlement of the instrument. Accounting guidance for fair value excludes certain financial instruments and all nonfinancial instruments from its disclosure requirements. Accordingly, the aggregate fair value amounts presented may not necessarily represent the underlying fair value of the Company.
 
The Company records fair value adjustments to certain assets and liabilities and determines fair value disclosures utilizing a definition of fair value of assets and liabilities that states that fair value is an exit price, representing the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. Additional considerations are involved to determine the fair value of financial assets in markets that are not active.
 
The Company uses a hierarchy of valuation techniques based on whether the inputs to those valuation techniques are observable or unobservable. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect the Company’s market assumptions. The three levels of the fair value hierarchy based on these two types of inputs are as follows:
 
Level 1 – Valuation is based on quoted prices in active markets for identical assets and liabilities.
Level 2 – Valuation is based on observable inputs including quoted prices in active markets for similar assets and liabilities, quoted prices for identical or similar assets and liabilities in less active markets, and model-based valuation techniques for which significant assumptions can be derived primarily from or corroborated by observable data in the market.
Level 3 – Valuation is based on model-based techniques that use one or more significant inputs or assumptions that are unobservable in the market. 
 
 
 
21
 
 
Note 6. 
Fair Value, continued
 
The following describes the valuation techniques used by the Company to measure certain financial assets and liabilities recorded at fair value on a recurring basis in the financial statements:
 
Securities
 
Where quoted prices are available in an active market, securities are classified within Level 1 of the valuation hierarchy. Level 1 securities would include highly liquid government bonds, mortgage products and exchange traded equities. If quoted market prices are not available, then fair values are estimated by using pricing models, quoted prices of securities with similar characteristics, or discounted cash flow. Level 2 securities would include U.S. agency securities, mortgage-backed agency securities, obligations of states and political subdivisions and certain corporate, asset backed and other securities. In certain cases where there is limited activity or less transparency around inputs to the valuation, securities are classified within Level 3 of the valuation hierarchy. The carrying value of restricted Federal Reserve Bank and Federal Home Loan Bank stock approximates fair value based upon the redemption provisions of each entity and is therefore excluded from the following table.
 
Derivatives
 
The Company’s derivatives are recorded at fair value based on third party vendor supplied information using discounted cash flow analysis from observable-market based inputs, which are considered Level 2 inputs.
 
The following tables present the balances of financial assets measured at fair value on a recurring basis as of September 30, 2017 and December 31, 2016 (dollars in thousands):
 
September 30, 2017
 
Total
 
 
Level 1
 
 
Level 2
 
 
Level 3
 
 
 
 
 
 
 
 
 
 
 
 
 
 
U. S. Treasuries
 $21,998 
 $21,998 
 $- 
 $- 
Mortgage-backed obligations of federal agencies
  549 
  - 
  549 
  - 
Equity securities
  135 
  - 
  135 
  - 
Total securities available for sale
 $22,682 
 $21,998 
 $684 
  - 
 
December 31, 2016
 
Total
 
 
Level 1
 
 
Level 2
 
 
Level 3
 
 
 
 
 
 
 
 
 
 
 
 
 
 
U. S. Treasuries
 $24,014 
 $24,014 
 $- 
 $- 
Mortgage-backed obligations of federal agencies
  634 
  - 
  634 
  - 
Equity securities
  135 
  - 
  135 
  - 
Total securities available for sale
 $24,783 
 $24,014 
 $769 
  - 
 
Certain financial assets are measured at fair value on a nonrecurring basis in accordance with GAAP. Adjustments to the fair value of these assets usually result from the application of lower-of-cost-or-market accounting or write-downs of individual assets.
 
The following describes the valuation techniques used by the Company to measure certain financial assets recorded at fair value on a nonrecurring basis in the financial statements:
 
Loans Held for Sale
 
Loans held for sale are short-term loans purchased at par for resale to investors at the par value of the loan and loans originated by VBS for sale in the secondary market. Loan participations are generally repurchased within 15 days.  Loans originated for sale by VBS are recorded at lower of cost or market. No market adjustments were required at September 30, 2017 or December 31, 2016; therefore, loans held for sale were carried at cost. Because of the short-term nature and fixed repurchase price, the book value of these loans approximates fair value at September 30, 2017 and December 31, 2016.
 
 
22
 
 
Note 6.  
Fair Value, continued
 
Impaired Loans
 
Loans are designated as impaired when, in the judgment of management based on current information and events, it is probable that all amounts due will not be collected according to the contractual terms of the loan agreement. Troubled debt restructurings are impaired loans. Impaired loans are measured at fair value on a nonrecurring basis. If an individually-evaluated impaired loan’s balance exceeds fair value, the amount is allocated to the allowance for loan losses. Any fair value adjustments are recorded in the period incurred as provision for loan losses on the Consolidated Statements of Income.
 
The fair value of an impaired loan and measurement of associated loss is based on one of three methods: the observable market price of the loan, the present value of projected cash flows, or the fair value of the collateral. The observable market price of a loan is categorized as a Level 1 input. The present value of projected cash flows method results in a Level 3 categorization because the calculation relies on the Company’s judgment to determine projected cash flows, which are then discounted at the current rate of the loan, or the rate prior to modification if the loan is a troubled debt restructure.
 
Loans measured using the fair value of collateral method are categorized in Level 3. Collateral may be in the form of real estate or business assets including equipment, inventory, and accounts receivable. Most collateral is real estate. The Company bases collateral method fair valuation upon the “as-is” value of independent appraisals or evaluations.
 
The value of real estate collateral is determined by an independent appraisal utilizing an income or market valuation approach.  Appraisals conducted by an independent, licensed appraiser outside of the Company using observable market data is categorized as Level 3. The value of business equipment is based upon an outside appraisal (Level 3) if deemed significant, or the net book value on the applicable business’ financial statements (Level 3) if not considered significant. Likewise, values for inventory and accounts receivables collateral are based on financial statement balances or aging reports (Level 3).
 
As of September 30, 2017 and December 31, 2016, the fair value measurements for impaired loans with specific allocations were primarily based upon the fair value of the collateral.
 
The following table summarizes the Company’s financial assets that were measured at fair value on a nonrecurring basis during the period (dollars in thousands):
 
September 30, 2017
 
Total
 
 
Level 1
 
 
Level 2
 
 
Level 3
 
 
 
 
 
 
 
 
 
 
 
 
 
 
     Construction/Land Development
 $3,565 
  - 
  - 
 $3,565 
     Real Estate
  978 
  - 
  - 
  978 
     Dealer Finance
  36 
  - 
  - 
  36 
Impaired loans
 $4,579 
  - 
  - 
 $4,579 
 
December 31, 2016
 
Total
 
 
Level 1
 
 
Level 2
 
 
Level 3
 
 
 
 
 
 
 
 
 
 
 
 
 
 
     Construction/Land Development
 $4,739 
  - 
  - 
 $4,739 
     Real Estate
  985 
  - 
  - 
  985 
     Commercial Real Estate
  892 
  - 
  - 
  892 
     Dealer Finance
  67 
  - 
  - 
  67 
Impaired loans
 $6,683 
  - 
  - 
 $6,683 
 
 
23
 
 
Note 6.   
Fair Value, continued
 
The following table presents information about Level 3 Fair Value Measurements for September 30, 2017:
 
 
 
Fair Value at September 30, 2017
 
Valuation Technique
 
Significant Unobservable Inputs
 
Range
(dollars in thousands)      
Impaired Loans
 $4,579 
Discounted appraised value
 
Discount for selling costs and marketability
 
3%-19% (Average 5.1%)
 
The following table presents information about Level 3 Fair Value Measurements for December 31, 2016:
 
 
 
Fair Value at December 31, 2016
 
Valuation Technique
 
Significant Unobservable Inputs
 
Range
(dollars in thousands)        
Impaired Loans
 $6,683 
Discounted appraised value
 
Discount for selling costs and marketability
 
2%-50% (Average 4.7%)
 
Other Real Estate Owned  
 
Certain assets such as other real estate owned (OREO) are measured at fair value less cost to sell. Valuation of other real estate owned is determined using current appraisals from independent parties, a level two input. If current appraisals cannot be obtained prior to reporting dates, or if declines in value are identified after a recent appraisal is received, appraisal values are discounted, resulting in Level 3 estimates. If the Company markets the property with a realtor, estimated selling costs reduce the fair value, resulting in a valuation based on Level 3 inputs.
 
The Company markets other real estate owned both independently and with local realtors. Properties marketed by realtors are discounted by selling costs. Properties that the Company markets independently are not discounted by selling costs.
 
The following table summarizes the Company’s other real estate owned that were measured at fair value on a nonrecurring basis as of September 30, 2017 and December 31, 2016 (dollars in thousands).
 
September 30, 2017
 
Total
 
 
Level 1
 
 
Level 2
 
 
Level 3
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Other real estate owned
 $2,148 
  - 
  - 
 $2,148 
 
December 31, 2016
 
Total
 
 
Level 1
 
 
Level 2
 
 
Level 3
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Other real estate owned
 $2,076 
  - 
  - 
 $2,076 
 
The following table presents information about Level 3 Fair Value Measurements for September 30, 2017:
 
 
 
Fair Value at September 30, 2017
 
Valuation Technique
 
Significant Unobservable Inputs
 
Range
(dollars in thousands)
 
 
 
 
 
 
 
 
Other real estate owned
 $2,148 
Discounted appraised value
 
Discount for selling costs
 
5%-15% (Average 8%)
 
The following table presents information about Level 3 Fair Value Measurements for December 31, 2016:
 
 
 
Fair Value at December 31, 2016
 
Valuation Technique
 
Significant Unobservable Inputs
 
Range
(dollars in thousands)
 
 
 
 
 
 
 
 
Other real estate owned
 $2,076 
Discounted appraised value
 
Discount for selling costs
 
5%-15% (Average 8%)
 
The following methods and assumptions were used by the Company in estimating fair value disclosures for financial instruments:
 
Cash and Cash Equivalents
 
The carrying amounts approximate fair value.
 
 
24
 
 
Note 6. 
Fair Value, continued
 
Securities
 
The fair values of securities, excluding restricted stock, are determined by quoted market prices or dealer quotes. The fair value of certain state and municipal securities is not readily available through market sources other than dealer quotations, so fair value estimates are based on quoted market prices of similar instruments adjusted for differences between the quoted instruments and the instruments being valued. The carrying value of restricted securities and other investments approximates fair value and are therefore excluded from the following table.
 
Loans Held for Sale
 
Fair values of loans held for sale are based on commitments on hand from investors or prevailing market prices.
 
Loans Held for Investment
 
Fair values are estimated for portfolios of loans with similar financial characteristics. Loans are segregated by type such as commercial, real estate – commercial, real estate – construction, real estate – mortgage, credit card and other consumer loans. Each loan category is further segmented into fixed and adjustable rate interest terms and by performing and nonperforming categories.
 
The fair value of performing loans is calculated by discounting scheduled cash flows through the estimated maturity using estimated market discount rates that reflect the credit and interest rate risk inherent in the loan, as well as estimates for prepayments. The estimate of maturity is based on the Company’s historical experience with repayments for loan classification, modified, as required, by an estimate of the effect of economic conditions on lending.
 
Fair value for significant nonperforming loans is based on estimated cash flows which are discounted using a rate commensurate with the risk associated with the estimated cash flows. Assumptions regarding credit risk, cash flows and discount rates are determined within management’s judgment, using available market information and specific borrower information.
 
Bank-Owned Life Insurance
 
Bank-owned life insurance represents insurance policies on certain officers of the Company. The cash values of the policies are estimates using information provided by insurance carriers. These policies are carried at their cash surrender value, which approximates fair value.
 
Deposits
 
The fair value of demand and savings deposits is the amount payable on demand. The fair value of fixed maturity term deposits and certificates of deposit is estimated using the rates currently offered for deposits with similar remaining maturities.
 
Short-Term Debt
 
The carrying amounts of short-term debt maturing within 90 days approximate their fair values. Fair values of any other short-term debt are estimated using discounted cash flow analyses based on the current incremental borrowing rates for similar types of debt.
 
Long-Term Debt
 
The fair value of the Company’s long-term debt is estimated using discounted cash flow analyses based on the Company’s incremental borrowing rates for similar types of debt arrangements.
 
Accrued Interest
 
The carrying amounts of accrued interest approximate fair value.
 
 
25
 
 
Note 7. Disclosures About Fair Value of Financial Instruments
 
 
 
 
 
 
Fair Value Measurements at September 30, 2017 Using
 
(dollars in thousands)
 
Carrying Amount
 
 
Quoted Prices in Active Markets for Identical Assets (Level 1)
 
 
Significant Other Observable Inputs (Level 2)
 
 
Significant Unobservable Inputs (Level 3)
 
 
Fair Value at September 30, 2017
 
Assets:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Cash and cash equivalents
 $9,746 
 $9,746 
 $- 
 $- 
 $9,746 
Securities
  22,807 
  21,998 
  809 
  - 
  22,807 
Loans held for sale
  58,177 
  - 
  58,177 
  - 
  58,177 
Loans held for investment, net
  613,018 
  - 
  - 
  642,322 
  642,322 
Interest receivable
  1,845 
  - 
  1,845 
  - 
  1,845 
Bank owned life insurance
  13,841 
  - 
  13,841 
  - 
  13,841 
Total
 $719,434 
 $31,744 
 $74,672 
 $642,322 
 $762,338 
Liabilities:
    
    
    
    
    
Deposits
 $562,380 
 $- 
 $398,229 
 $165,926 
 $564,155 
Short-term debt
  42,128 
  - 
  42,128 
  - 
  42,128 
Long-term debt
  50,840 
  - 
  - 
  50,943 
  50,943 
Interest payable
  239 
  - 
  239 
  - 
  239 
Total
 $655,587 
 $- 
 $440,596 
 $216,869 
 $657,465 
 
The estimated fair values, and related carrying amounts (dollars in thousands), of the Company’s financial instruments are as follows:
 
 
 
 
 
 
Fair Value Measurements at December 31, 2016 Using
 
(dollars in thousands)
 
Carrying Amount
 
 
Quoted Prices in Active Markets for Identical Assets (Level 1)
 
 
Significant Other Observable Inputs (Level 2)
 
 
Significant Unobservable Inputs (Level 3)
 
 
Fair Value at December 31, 2016
 
Assets:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Cash and cash equivalents
 $16,355 
 $16,355 
 $- 
 $- 
 $16,355 
Securities
  24,908 
  24,014 
  894 
  - 
  24,908 
Loans held for sale
  62,735 
  - 
  62,735 
  - 
  62,735 
Loans held for investment, net
  584,093 
  - 
  - 
  598,991 
  598,991 
Interest receivable
  1,785 
  - 
  1,785 
  - 
  1,785 
Bank owned life insurance
  13,513 
  - 
  13,513 
  - 
  13,513 
Total
 $703,389 
 $40,369 
 $78,927 
 $598,991 
 $718,287 
Liabilities:
    
    
    
    
    
Deposits
 $537,085 
 $- 
 $379,857 
 $158,073 
 $537,930 
Short-term debt
  40,000 
  - 
  40,000 
  - 
  40,000 
Long-term debt
  64,237 
  - 
  - 
  63,945 
  63,945 
Interest payable
  228 
  - 
  228 
  - 
  228 
Total
 $641,550 
 $- 
 $420,085 
 $222,018 
 $642,103 
 
 
26
 
 
Note 8. 
Troubled Debt Restructuring
 
In the determination of the allowance for loan losses, management considers troubled debt restructurings and subsequent defaults in these restructurings by adjusting the loan grades of such loans, which are considered in the qualitative factors within the allowance. Defaults resulting in charge-offs affect the historical loss experience ratios which are a component of the allowance for loan loss methodology. Additionally, specific reserves may be established on restructured loans which are evaluated individually for impairment.
 
During the nine months ended September 30, 2017, there was one loan modification that was considered to be troubled debt restructuring. This loan was modified during the three months ended June 30, 2017, there were no loan modifications that would be considered a troubled debt restructuring during the first or third quarters of 2017. Modifications may have included rate adjustments, revisions to amortization schedules, suspension of principal payments for a temporary period, re-advancing funds to be applied as payments to bring the loan(s) current, or any combination thereof.
 
 
 
September 30, 2017
 
 
 
 
 
 
Pre-Modification
 
 
Post-Modification
 
(dollars in thousands)
 
 
 
 
Outstanding
 
 
Outstanding
 
Troubled Debt Restructurings
 
Number of Contracts
 
 
Recorded Investment
 
 
Recorded Investment
 
 
 
 
 
 
 
 
 
 
 
Consumer
  1 
 $18 
 $18 
Total
  1 
 $18 
 $18 
 
 At September 30, 2017, there was one loan restructured in the previous 12 months in default or on nonaccrual status. A restructured loan is considered in default when it becomes 90 days past due, or when a charge off or foreclosure occurs.
 
 
 
September 30, 2017
 
 
 
 
 
 
Pre-Modification
 
 
Post-Modification
 
(dollars in thousands)
 
 
 
 
Outstanding
 
 
Outstanding
 
Troubled Debt Restructurings
 
Number of Contracts
 
 
Recorded Investment
 
 
Recorded Investment
 
 
 
 
 
 
 
 
 
 
 
Real Estate
  1 
 $67 
 $67 
Total
  1 
 $67 
 $67 
 
During the nine months ended September 30, 2016, there were seven loan modifications that were considered to be troubled debt restructurings, however since then one has paid off and one was charged off.
 
 
 
Nine Months ended September 30, 2016
 
 
 
 
 
 
Pre-Modification
 
 
Post-Modification
 
(dollars in thousands)
 
 
 
 
Outstanding
 
 
Outstanding
 
 
 
Number of Contracts
 
 
Recorded Investment
 
 
Recorded Investment
 
Troubled Debt Restructurings
 
 
 
 
 
 
 
 
 
Real Estate
  2 
 $142 
 $142 
Consumer
  3 
  33 
  33 
Total
  5 
 $175 
 $175 
 
During the quarter ended September 30, 2016, there was one loan modification that was considered to be troubled debt restructuring.
 
 
 
Three Months ended September 30, 2016
 
 
 
 
 
 
Pre-Modification
 
 
Post-Modification
 
(dollars in thousands)
 
 
 
 
Outstanding
 
 
Outstanding
 
 
 
Number of Contracts
 
 
Recorded Investment
 
 
Recorded Investment
 
Troubled Debt Restructurings
 
 
 
 
 
 
 
 
 
Consumer
  1 
 $6 
 $6 
Total
  1 
 $6 
 $6 
 
 
27
 
 
Note 9.  
Accumulated Other Comprehensive Loss
 
The balances in accumulated other comprehensive loss are shown in the following tables for September 30, 2017 and 2016:
 
(dollars in thousands)
 
Unrealized Securities Gains (Losses)
 
 
Adjustments Related to Pension Plan
 
 
Accumulated Other Comprehensive Loss
 
Balance at December 31, 2016
 $6 
 $(3,171)
 $(3,165)
  Change in unrealized securities gains (losses), net of tax
  (1)
  - 
  (1)
  Change in unfunded pension liability, net of tax
  - 
  - 
  - 
Balance at September 30, 2017
 $5 
 $(3,171)
 $(3,166)
 
(dollars in thousands)
 
Unrealized Securities Gains (Losses)
 
 
Adjustments Related to Pension Plan
 
 
Accumulated Other Comprehensive Loss
 
Balance at December 31, 2015
 $3 
 $(2,683)
 $(2,680)
  Change in unrealized securities gains, net of tax
  22 
  - 
  22 
  Change in unfunded pension liability, net of tax
  - 
  - 
  - 
Balance at September 30, 2016
 $25 
 $(2,683)
 $(2,658)
 
There were no reclassifications adjustments reported on the consolidated statements of income during the three or nine months periods ended September 30, 2017 or 2016.
 
Note 10.   
Business Segments
 
The Company utilizes its subsidiaries to provide multiple business segments including retail banking, mortgage banking, title insurance services, investment services and credit life and accident and health insurance products related to lending. Revenues from retail banking operations consist primarily of interest earned on loans and investment securities and service charges on deposit accounts. Mortgage Banking operating revenues consist principally of gains on sales of loans in the secondary market, loan origination fee income and interest earned on mortgage loans held for sale. Revenues from title insurance services, investment services and insurance products consist of commissions on products provided. The following tables represent revenues and expenses by segment for the three and nine months ended September 30, 2017 and 2016.
 
 
28
 
 
Note 10. 
Business Segments, continued
 
 
 
Nine Months Ended September 30, 2017
 
 
 
F&M Bank
 
 
VBS Mortgage
 
 
TEB Life/FMFS
 
 
VS Title
 
 
Parent Only
 
 
Eliminations
 
 
F&M Bank Corp. Consolidated
 
Revenues:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Interest Income
 $24,815 
 $97 
 $112 
 $- 
 $- 
 $(70)
 $24,954 
Service charges on deposits
  1,010 
  - 
  - 
  - 
  - 
  - 
  1,010 
Investment services and insurance income
  1 
  - 
  529 
  - 
  - 
  - 
  530 
Mortgage banking income, net
  - 
  1,974 
  - 
  - 
  - 
  - 
  1,974 
Title insurance income
  - 
  - 
  - 
  668 
  - 
  - 
  668 
Income from bank owned life insurance
  336 
  - 
  - 
  - 
  - 
  - 
  336 
Low income housing partnership losses
  (587)
  - 
  - 
  - 
  - 
  - 
  (587)
ATM and check card fees
  1,034 
  - 
  - 
  - 
  - 
  - 
  1,034 
Gain on prepayment of long-term debt
  504 
  - 
  - 
  - 
  - 
  - 
  504 
Loss on investments
  - 
  (40)
  (2)
  - 
  - 
  - 
  (42)
Other operating income
  513 
  - 
  - 
  - 
  - 
  - 
  513 
Total income
  27,626 
  2,031 
  639 
  668 
  - 
  (70)
  30,894 
Expenses:
    
    
    
    
    
    
    
Interest Expense
  2,866 
  65 
  - 
  - 
  - 
  (70)
  2,861 
Provision for loan losses
  - 
  - 
  - 
  - 
  - 
  - 
  - 
Salary expense
  6,781 
  1,035 
  341 
  345 
  - 
  - 
  8,502 
Employee benefit expense
  2,245 
  168 
  - 
  54 
  - 
  - 
  2,467 
Occupancy expense
  624 
  115 
  - 
  37 
  - 
  - 
  776 
Equipment expense
  551 
  39 
  - 
  23 
  - 
  - 
  613 
FDIC insurance assessment
  200 
  - 
  - 
  - 
  - 
  - 
  200 
Other real estate owned, net
  22 
  - 
  - 
  - 
  - 
  - 
  22 
Marketing expense
  352 
  42 
  6 
  4 
  - 
  - 
  404 
Legal and professional fees
  246 
  7 
  - 
  - 
  - 
  - 
  253 
ATM and check card fees
  526 
  3 
  - 
  - 
  - 
  - 
  529 
Telecom and data processing expense
  967 
  78 
  - 
  - 
  - 
  - 
  1,045 
Directors fees
  315 
  45 
  - 
  - 
  - 
  - 
  360 
Bank franchise Tax
  491 
  - 
  - 
  - 
  - 
  - 
  491 
Other operating expenses
  2,127 
  262 
  17 
  54 
  4 
  - 
  2,464 
Total expense
  18,313 
  1,859 
  364 
  517 
  4 
  (70)
  20,987 
Income tax expense (benefit)
  2,603 
  - 
  83 
  - 
  (53)
  - 
  2,633 
Net income
 $6,710 
 $172 
 $192 
 $151 
 $49 
 $- 
 $7,274 
Net income attributable to noncontrolling interest
  - 
  51 
  - 
  - 
  - 
  - 
  51 
Net Income attributable to F & M Bank Corp.
 $6,710 
 $121 
 $192 
 $151 
 $49 
 $- 
 $7,223 
Total Assets
 $750,048 
 $6,309 
 $6,644 
 $443 
 $91,362 
 $(91,121)
 $763,685 
Goodwill
 $2,670 
 $103 
 $- 
 $- 
 $340 
 $- 
 $3,113 
 
 
29
 
 
Note 10. 
Business Segments, continued
 
 
 
Three Months Ended September 30, 2017
 
 
 
F&M Bank
 
 
VBS Mortgage
 
 
TEB Life/FMFS
 
 
VS Title
 
 
Parent Only
 
 
Eliminations
 
 
F&M Bank Corp. Consolidated
 
Revenues:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Interest Income
 $8,644 
 $32 
 $37 
 $- 
 $- 
 $(25)
 $8,688 
Service charges on deposits
  359 
  - 
  - 
  - 
  - 
  - 
  359 
Investment services and insurance income
  - 
  - 
  169 
  - 
  - 
  - 
  169 
Mortgage banking income, net
  - 
  861 
  - 
  - 
  - 
  - 
  861 
Title insurance income
  - 
  - 
  - 
  247 
  - 
  - 
  247 
Income from bank owned life insurance
  113 
  - 
  - 
  - 
  - 
  - 
  113 
Low income housing partnership losses
  (201)
  - 
  - 
  - 
  - 
  - 
  (201)
ATM and check card fees
  352 
  - 
  - 
  - 
  - 
  - 
  352 
Gain on prepayment of long-term debt
  - 
  - 
  - 
  - 
  - 
  - 
  - 
Loss on investments
  - 
  - 
  - 
  - 
  - 
  - 
  - 
Other operating income
  246 
  - 
  - 
  - 
  - 
  - 
  246 
Total income
  9,513 
  893 
  206 
  247 
  - 
  (25)
  10,834 
Expenses:
    
    
    
    
    
    
    
Interest Expense
  1,032 
  24 
  - 
  - 
  - 
  (25)
  1,031 
Provision for loan losses
  - 
  - 
  - 
  - 
  - 
  - 
  - 
Salary expense
  2,326 
  586 
  107 
  175 
  - 
  - 
  3,194 
Employee benefit expense
  722 
  1 
  - 
  (34)
  - 
  - 
  689 
Occupancy expense
  221 
  48 
  - 
  12 
  - 
  - 
  281 
Equipment expense
  192 
  20 
  - 
  12 
  - 
  - 
  224 
FDIC insurance assessment
  20 
  - 
  - 
  - 
  - 
  - 
  20 
Other real estate owned, net
  (3)
  - 
  - 
  - 
  - 
  - 
  (3)
Marketing expense
  136 
  8 
  2 
  2 
  - 
  - 
  148 
Legal and professional fees
  75 
  3 
  - 
  - 
  - 
  - 
  78 
ATM and check card fees
  182 
  1 
  - 
  - 
  - 
  - 
  183 
Telecom and data processing expense
  342 
  28 
  - 
  - 
  - 
  - 
  370 
Directors fees
  105 
  11 
  - 
  - 
  - 
  - 
  116 
Bank franchise Tax
  166 
  - 
  - 
  - 
  - 
  - 
  166 
Other operating expenses
  767 
  2 
  4 
  20 
  - 
  - 
  793 
Total expense
  6,283 
  732 
  113 
  187 
  - 
  (25)
  7,290 
Income tax expense (benefit)
  933 
  - 
  30 
  - 
  (17)
  - 
  946 
Net income
 $2,297 
 $161 
 $63 
 $60 
 $17 
 $- 
 $2,598 
Net income attributable to noncontrolling interest
  - 
  48 
  - 
  - 
  - 
  - 
  48 
Net Income attributable to F & M Bank Corp.
 $2,297 
 $113 
 $63 
 $60 
 $17 
 $- 
 $2,550 
 
 
30
 
 
Note 10. 
Business Segments, continued
 
 
 
Nine Months Ended September 30, 2016
 
 
 
F&M Bank
 
 
VBS Mortgage
 
 
TEB Life/FMFS
 
 
VS Title
 
 
Parent Only
 
 
Eliminations
 
 
F&M Bank Corp. Consolidated
 
Revenues:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Interest Income
 $23,653 
 $30 
 $114 
 $- 
 $- 
 $(4)
 $23,793 
Service charges on deposits
  842 
  - 
  - 
  - 
  - 
  - 
  842 
Investment services and insurance income
  1 
  - 
  316 
  - 
  - 
  - 
  317 
Mortgage banking income, net
  - 
  1,891 
  - 
  - 
  - 
  - 
  1,891 
Income from bank owned life insurance
  356 
  - 
  - 
  - 
  - 
  - 
  356 
Low income housing partnership losses
  (548)
  - 
  - 
  - 
  - 
  - 
  (548)
ATM and check card fees
  1,020 
  - 
  - 
  - 
  - 
  - 
  1,020 
Gain on prepayment of long-term debt
  - 
  - 
  - 
  - 
  - 
  - 
  - 
Loss on investments
  - 
  - 
  - 
  - 
  - 
  - 
  - 
Other operating income
  238 
  - 
  - 
  - 
  - 
  - 
  238 
Total income
  25,562 
  1,921 
  430 
  - 
  - 
  (4)
  27,909 
Expenses:
    
    
    
    
    
    
    
Interest Expense
  2,649 
  - 
  - 
  - 
  - 
  (4)
  2,645 
Provision for loan losses
  - 
  - 
  - 
  - 
  - 
  - 
  - 
Salary expense
  6,117 
  823 
  221 
  - 
  - 
  - 
  7,161 
Employee benefit expense
  1,927 
  186 
  - 
  - 
  - 
  - 
  2,113 
Occupancy expense
  552 
  91 
  - 
  - 
  - 
  - 
  643 
Equipment expense
  536 
  33 
  - 
  - 
  - 
  - 
  569 
FDIC insurance assessment
  338 
  - 
  - 
  - 
  - 
  - 
  338 
Other real estate owned, net
  72 
  - 
  - 
  - 
  - 
  - 
  72 
Marketing expense
  356 
  39 
  1 
  - 
  - 
  - 
  396 
Legal and professional fees
  286 
  7 
  - 
  - 
  - 
  - 
  293 
ATM and check card fees
  514 
  4 
  - 
  - 
  - 
  - 
  518 
Telecom and data processing expense
  795 
  66 
  - 
  - 
  - 
  - 
  861 
Directors fees
  234 
  20 
  - 
  - 
  - 
  - 
  254 
Bank franchise Tax
  480 
  - 
  - 
  - 
  - 
  - 
  480 
Other operating expenses
  2,011 
  138 
  26 
  - 
  1 
  - 
  2,176 
Total expense
  16,867 
  1,407 
  248 
  - 
  1 
  (4)
  18,519 
Income tax expense (benefit)
  2,353 
  - 
  48 
  - 
  (214)
  - 
  2,187 
Net income
 $6,342 
 $514 
 $134 
 $- 
 $213 
 $- 
 $7,203 
Net income attributable to noncontrolling interest
  - 
  154 
  - 
  - 
  - 
  - 
  154 
Net Income attributable to F & M Bank Corp.
 $6,342 
 $360 
 $134 
 $- 
 $213 
 $- 
 $7,049 
Total Assets
 $736,642 
 $2,492 
 $6,315 
 $- 
 $87,369 
 $(87,526)
 $745,292 
Goodwill
 $2,670 
 $- 
 $- 
 $- 
 $- 
 $- 
 $2,670 
 
 
31
 
 
Note 10. 
Business Segments, continued
 
 
 
Three Months Ended September 30, 2016
 
 
 
F&M Bank
 
 
VBS Mortgage
 
 
TEB Life/FMFS
 
 
VS Title
 
 
Parent Only
 
 
Eliminations
 
 
F&M Bank Corp. Consolidated
 
Revenues:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Interest Income
 $8,160 
 $17 
 $39 
 $- 
 $- 
 $(1)
 $8,215 
Service charges on deposits
  336 
  - 
  - 
  - 
  - 
  - 
  336 
Investment services and insurance income
  - 
  - 
  112 
  - 
  - 
  - 
  112 
Mortgage banking income, net
  - 
  694 
  - 
  - 
  - 
  - 
  694 
Income from bank owned life insurance
  119 
  - 
  - 
  - 
  - 
  - 
  119 
Low income housing partnership losses
  (183)
  - 
  - 
  - 
  - 
  - 
  (183)
ATM and check card fees
  328 
  - 
  - 
  - 
  - 
  - 
  328 
Other operating income
  129 
  - 
  - 
  - 
  - 
  - 
  129 
Total income
  8,889 
  711 
  151 
  - 
  - 
  (1)
  9,750 
Expenses:
    
    
    
    
    
    
    
Interest Expense
  971 
  - 
  - 
  - 
  - 
  (1)
  970 
Provision for loan losses
  - 
  - 
  - 
  - 
  - 
  - 
  - 
Salary expense
  2,094 
  295 
  82 
  - 
  - 
  - 
  2,471 
Employee benefit expense
  628 
  71 
  - 
  - 
  - 
  - 
  699 
Occupancy expense
  185 
  30 
  - 
  - 
  - 
  - 
  215 
Equipment expense
  181 
  2 
  - 
  - 
  - 
  - 
  183 
FDIC insurance assessment
  113 
  - 
  - 
  - 
  - 
  - 
  113 
Other real estate owned, net
  19 
  - 
  - 
  - 
  - 
  - 
  19 
Marketing expense
  120 
  6 
  2 
  - 
  - 
  - 
  128 
Legal and professional fees
  98 
  2 
  - 
  - 
  - 
  - 
  100 
ATM and check card fees
  183 
  1 
  - 
  - 
  - 
  - 
  184 
Telecom and data processing expense
  286 
  23 
  - 
  - 
  - 
  - 
  309 
Directors fees
  42 
  4 
  - 
  - 
  - 
  - 
  46 
Bank franchise Tax
  170 
  - 
  - 
  - 
  - 
  - 
  170 
Other operating expenses
  755 
  63 
  5 
  - 
  - 
  - 
  823 
Total expense
  5,845 
  497 
  89 
  - 
  - 
  (1)
  6,430 
Income tax expense (benefit)
  770 
  - 
  16 
  - 
  (132)
  - 
  654 
Net income
 $2,274 
 $214 
 $46 
 $- 
 $132 
 $- 
 $2,666 
Net income attributable to noncontrolling interest
  - 
  64 
  - 
  - 
  - 
  - 
  64 
Net Income attributable to F & M Bank Corp.
 $2,274 
 $150 
 $46 
 $- 
 $132 
 $- 
 $2,602 
 
 
32
 
 
Note 11. 
Debt
 
Short-term Debt
 
The Company utilizes short-term debt such as Federal funds purchased and Federal Home Loan Bank of Atlanta (FHLB) short term borrowings to support the loans held for sale participation program and provide liquidity. Federal funds purchased are unsecured overnight borrowings from other financial institutions. FHLB short term debt, which is secured by the loan portfolio, can be a daily rate variable loan that acts as a line of credit or a fixed rate advance, depending on the need of the Company. Short-term debt totaled $42,128,000 at September 30, 2017 and has increased $2,128,000 from $40 million at December 31, 2016; the total of increase was in Federal funds purchased.
 
Long-term Debt
 
The Company utilizes the FHLB advance program to fund loan growth and provide liquidity. The interest rates on long-term debt are fixed at the time of the advance and range from 1.16% to 2.56%; the weighted average interest rate was 1.86% and 1.80% at September 30, 2017 and December 31, 2016, respectively. The balance of these obligations at September 30, 2017 and December 31, 2016 were $50,661,000 and $63,982,000 respectively. The Company recognized a gain of $504,000 on prepayment of two FHLB advances totaling $10,000,000 during the first quarter of 2017 and there were no additional borrowings in 2017. FHLB advances include a $5,000,000 line of credit at FHLB that is pledged to the Commonwealth of Virginia to secure public funds.
 
In addition, the Company has a note payable to purchase a lot adjacent to one of the Bank branches for $170,000 at September 30, 2017 that is payable in two remaining annual payments on January 1, 2018 and 2019. There was $255,000 outstanding on this note at December 31, 2016.
 
VS Title, LLC has a note payable for vehicle purchases with a balance of $9,000 at September 30, 2017.
 
 
 
33
 
 
Item 2.    
Management's Discussion and Analysis of Financial Condition and Results of Operations
 
F & M Bank Corp. (Company), incorporated in Virginia in 1983, is a financial holding company pursuant to section 3(a)(1) of the Bank Holding Company Act of 1956, which provides financial services through its wholly-owned subsidiary Farmers & Merchants Bank (Bank), TEB Life Insurance Company (TEB) and Farmers & Merchants Financial Services (FMFS) are wholly-owned subsidiaries of the Bank. The Bank also holds a majority ownership in VBS Mortgage LLC (VBS) and F & M Bank Corp. holds a majority ownership in VS Title LLC (VST).
 
The Bank is a full service commercial bank offering a wide range of banking and financial services through its thirteen branch offices as well as its loan production office located in Penn Laird, VA (which specializes in providing automobile financing through a network of automobile dealers). TEB reinsures credit life and accident and health insurance sold by the Bank in connection with its lending activities. FMFS provides, brokerage services and property/casualty insurance to customers of the Bank. VBS originates conventional and government sponsored mortgages through their offices in Harrisonburg and Woodstock, VA. VS Title provides title insurance services through their offices in Harrisonburg, Fishersville, and Charlottesville, VA.
 
The Company’s primary trade area services customers in Rockingham County, Shenandoah County, Page County and Augusta County.
 
Management’s discussion and analysis is presented to assist the reader in understanding and evaluating the financial condition and results of operations of the Company. The analysis focuses on the consolidated financial statements, footnotes, and other financial data presented. The discussion highlights material changes from prior reporting periods and any identifiable trends which may affect the Company. Amounts have been rounded for presentation purposes. This discussion and analysis should be read in conjunction with the Consolidated Financial Statements and the Notes to the Consolidated Financial Statements presented in Item 1, Part 1 of this Form 10-Q and in conjunction with the audited Consolidated Financial Statements included in the Company’s December 31, 2016 Form 10-K.
 
Forward-Looking Statements
 
Certain statements in this report may constitute “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements are statements that include projections, predictions, expectations or beliefs about future events or results or otherwise are not statements of historical fact.  Such statements are often characterized by the use of qualified words (and their derivatives) such as “expect,” “believe,” “estimate,” “plan,” “project,” or other statements concerning opinions or judgment of the Company and its management about future events. 
 
Although the Company believes that its expectations with respect to certain forward-looking statements are based upon reasonable assumptions within the bounds of its existing knowledge of its business and operations, there can be no assurance that actual results, performance or achievements of the Company will not differ materially from any future results, performance or achievements expressed or implied by such forward-looking statements. Actual future results and trends may differ materially from historical results or those anticipated depending on a variety of factors, including, but not limited to, the effects of and changes in: general economic conditions, the interest rate environment, legislative and regulatory requirements, competitive pressures, new products and delivery systems, inflation, changes in the stock and bond markets, technology, and consumer spending and savings habits.
 
We do not update any forward-looking statements that may be made from time to time by or on behalf of the Company.
 
 
34
 
 
Item 2. 
Management's Discussion and Analysis of Financial Condition and Results of Operations (Continued)
 
Critical Accounting Policies
 
General
 
The Company’s financial statements are prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”). The financial information contained within the statements is, to a significant extent, financial information that is based on measures of the financial effects of transactions and events that have already occurred. A variety of factors could affect the ultimate value that is obtained either when earning income, recognizing an expense, recovering an asset or relieving a liability. The Company uses historical loss factors as one factor in determining the inherent loss that may be present in its loan portfolio. Actual losses could differ significantly from the historical factors that are used. The fair value of the investment portfolio is based on period end valuations but changes daily with the market. In addition, GAAP itself may change from one previously acceptable method to another method. Although the economics of these transactions would be the same, the timing of events that would impact these transactions could change.
 
Allowance for Loan Losses
 
Allowances for loans are determined by applying estimated loss factors to the portfolio based on management’s evaluation and “risk grading” of the loan portfolio. Specific allowances are typically provided on all impaired loans in excess of a defined loan size threshold that are classified in the Substandard or Doubtful risk grades. The specific reserves are determined on a loan-by-loan basis based on management’s evaluation of the Company’s exposure for each credit, given the current payment status of the loan and the value of any underlying collateral.
 
While management uses the best information available to establish the allowance for loan and lease losses, future adjustments to the allowance may be necessary if economic conditions differ substantially from the assumptions used in making the valuations or, if required by regulators, based upon information available to them at the time of their examinations. Such adjustments to original estimates, as necessary, are made in the period in which these factors and other relevant considerations indicate that loss levels may vary from previous estimates. For further discussion refer to the Allowance for Loan Losses discussion in the Management Discussion and Analysis.
 
Goodwill and Intangibles
 
ASC 805 “Business Combinations” and ASC 350 “Intangibles” require that the acquisition method of accounting be used for all business combinations initiated after June 30, 2001. Additionally, it further clarifies the criteria for the initial recognition and measurement of intangible assets separate from goodwill. ASC 350 prescribes the accounting for goodwill and intangible assets subsequent to initial recognition. The provisions of ASC 350 discontinue the amortization of goodwill and intangible assets with indefinite lives. Instead, these assets will be subject to at least an annual impairment review and more frequently if certain impairment indicators are in evidence. ASC 350 also requires that reporting units be identified for the purpose of assessing potential future impairments of goodwill.
 
At September 30, 2017, preliminary goodwill of $443,000 was reported for the purchase of VSTitle, LLC. This amount is subject to change after expert evaluation.
 
 
Pension Plan Accounting
 
The accounting guidance for the measurement and recognition of obligations and expense related to pension plans generally applies the concept that the cost of benefits provided during retirement should be recognized over the employees’ active working life. Inherent in this concept is the requirement to use various actuarial assumptions to predict and measure costs and obligations many years prior to the settlement date. Major actuarial assumptions that require significant management judgment and have a material impact on the measurement of benefits expense and accumulated obligation include discount rates, expected return on assets, mortality rates, and projected salary increases, among others. Changes in assumptions or judgments related to any of these variables could result in significant volatility in the Company’s financial condition and results of operations. As a result, accounting for the Company’s pension expense and obligation is considered a significant estimate. The estimation process and the potential materiality of the amounts involved result in this item being identified as critical.
 
 
35
 
 
Item 2.        
Management's Discussion and Analysis of Financial Condition and Results of Operations (Continued)
 
Critical Accounting Policies (continued)
 
Securities
 
The Company follows the accounting guidance related to recognition and presentation of other-than-temporary impairment. The guidance specifies that if (a) an entity does not have the intent to sell a debt security prior to recovery and (b) it is more likely than not that the entity will not have to sell the debt security prior to recovery, the security would not be considered other-than-temporarily impaired, unless there is a credit loss. When criteria (a) and (b) are met, the entity will recognize the credit component of other-than-temporary impairment of a debt security in earnings and the remaining portion in other comprehensive income. For held-to-maturity debt securities, the amount of other-than-temporary impairment recorded in other comprehensive income for the noncredit portion of a previous other-than- temporary impairment is amortized prospectively over the remaining life of the security on the basis of the timing of future estimated cash flows of the security.
 
Other Real Estate Owned (OREO)
 
OREO is held for sale and represents real estate acquired through or in lieu of foreclosure. OREO is initially recorded at fair value less costs to sell when acquired, establishing a new cost basis. Physical possession of residential real estate property collateralizing a consumer mortgage loan occurs when legal title is obtained upon completion of foreclosure or when the borrower conveys all interest in the property to satisfy the loan through completion of a deed in lieu of foreclosure or through a similar legal agreement. The Company’s policy is to carry OREO on its balance sheet at the lower of cost or fair value less estimated costs to sell. If fair value declines subsequent to foreclosure, a valuation allowance is recorded through expense. Operating costs after acquisition are expensed.
 
Overview
 
Net income for the nine months ended September 30, 2017 was $7,223,000 or $1.99 per diluted share, compared to $7,049,000 or $1.89 in the same period in 2016, an increase of 2.47%. During the nine months ended September 30, 2017, noninterest income increased 44.31% and noninterest expense increased 14.19% during the same period. Net income from Bank operations adjusted for income from Parent activities is as follows:
 
In thousands
 
2017
 
 
2016
 
Net Income from Bank Operations
 $7,023 
 $6,836 
Income from Parent Company Activities (2017 includes VSTitle)
  200 
  213 
Net Income for the nine months ended September 30
 $7,223 
 $7,049 
 
During the three months ended September 30, 2017, net income was $2,550,000 or $.70 per diluted share, compared to $2,602,000 or $.70 in the same period in 2016, a decrease of 2.00%. In the three months ended September 30, 2017, noninterest income increased 39.80% and noninterest expense increased 14.63%.
 
In thousands
 
2017
 
 
2016
 
Net Income from Bank Operations
 $2,473 
 $2,470 
Income from Parent Company Activities (2017 includes VSTitle)
  77 
  132 
Net Income for the three months ended September 30
 $2,550 
 $2,602 
 
 
36
 
 
Item 2. 
Management's Discussion and Analysis of Financial Condition and Results of Operations (Continued)
 
Results of Operations
 
The increase in noninterest income of $1,824,000 for the nine-month period and $611,000 for the three-month period ended September 30, 2017 is primarily due to the gain on prepayment of FHLB debt of $504,000 (first quarter) and the acquisition of VS Title LLC which contributed $668,000 for the year to date 2017. Exclusive of the FHLB debt gain, noninterest income increased 32.07% for the nine month period. During the nine month period compared to the first nine months of 2016, other areas of increase are service charges on deposits ($168,000), mortgage banking income ($83,000) and investment services and insurance ($213,000). For the three months ended September 30, 2017 noninterest income increased 39.80%, with increase primarily related to VS Title and mortgage banking.
 
Noninterest expense for the nine months ended September 30, 2017 increased $2,252,000 as compared to 2016. For the three months ended September 30, 2017 noninterest expense increased $799,000. Expenses increased in the areas of salaries and benefits ($1,695,000), occupancy expense ($133,000) and telecommunications and data processing ($184,000) for the nine months ended September 30, 2017. During the three months ended September 30, 2017 areas of increase were salary and benefits ($566,000), equipment expense ($78,000) and telecommunications and data processing ($61,000). Increases in salaries and benefits relate to normal salary increases, additional staff to support new branch locations and growth at VBS Mortgage, increased cost of insurance and the acquisition of VSTitle. Occupancy and telecommunications and data processing also increased as a result of branching activities.
 
As shown in Table I on page 46, the 2017 year to date tax equivalent net interest income increased $984,000 or 4.64% compared to the same period in 2016. The tax equivalent adjustment to net interest income totaled $107,000 for the first nine months of 2017. The yield on earning assets increased .18%, while the cost of funds increased .06% compared to the same period in 2016.
 
The three months ended September 30, 2017 tax equivalent net interest income increased $434,000 or 5.98% compared to the same period in 2016. The tax equivalent adjustment to net interest income totaled $37,000 for the three months.
 
Year to date, the combination of the increase in yield on assets and the increase in cost of funds coupled with changes in balance sheet leverage has resulted in the net interest margin increasing to 4.47% at September 30, 2017, an increase of 14 basis points when compared to the same period in 2016. The net interest margin for the three months ended September 30, 2017 of 4.48% is an increase from 4.23% for the three months ended September 30, 2016. The growth is driven by increases in yield and balance sheet mix. A schedule of the net interest margin for the three and nine month periods ended September 30, 2017 and 2016 can be found in Table I on page 46.
 
GAAP Financial Measurements:
(Dollars in thousands).
 
September 30, 2017
 
 
 
September 30, 2016
 
 
 
Nine Months
 
 
Three Months
 
 
Nine Months
 
 
Three Months
 
         Interest Income – Loans
 $24,604 
 $8,550 
 $23,515 
 $8,092 
Interest Income - Securities and Other Interest-Earnings Assets
  350 
  138 
  278 
  123 
         Interest Expense – Deposits
  1,947 
  698 
  1,757 
  609 
         Interest Expense - Other Borrowings
  914 
  332
  888 
  361 
Total Net Interest Income
  22,093 
  7,658
  21,148 
  7,245 
Non-GAAP Financial Measurements:
    
    
    
    
Add: Tax Benefit on Tax-Exempt Interest Income – Loans
  107 
  37
  68 
  16 
Total Tax Benefit on Tax-Exempt Interest Income
  107 
  37
  68 
  16 
Tax-Equivalent Net Interest Income
 $22,200 
 $7,695 
 $21,216 
 $7,261 
 
The following table provides detail on the components of tax equivalent net interest income:
 
The Interest Sensitivity Analysis contained in Table II on page 47 indicates the Company is in an asset sensitive position in the one year time horizon. As the notes to the table indicate, the data was based in part on assumptions as to when certain assets or liabilities would mature or reprice. Approximately 44.04% of rate sensitive assets and 34.49% of rate sensitive liabilities are subject to repricing within one year. Due to the relatively flat yield curve, management has kept deposit rates low. The growth in earning assets and the growth in noninterest bearing accounts has resulted in the decrease in the positive GAP position in the one year time period.
 
 
37
 
 
Item 2. 
Management's Discussion and Analysis of Financial Condition and Results of Operations (Continued)
 
Balance Sheet
 
Federal Funds Sold and Interest Bearing Bank Deposits
 
The Company’s subsidiary bank invests a portion of its excess liquidity in either federal funds sold or interest bearing bank deposits. Federal funds sold offer daily liquidity and pay market rates of interest that at quarter end were benchmarked at 1.00% to 1.25% by the Federal Reserve. Actual rates received vary slightly based upon money supply and demand among banks. Interest bearing bank deposits are held either in money market accounts or as short-term certificates of deposits. Balances in federal funds sold have decreased and interest bearing bank deposits have remained flat since year end due to changes in the composition of the balance sheet.
 
Securities
 
The Company’s securities portfolio serves to assist the Company with asset liability management and to provide tax benefits.
 
The securities portfolio consists of investment securities commonly referred to as securities held to maturity and securities available for sale. Securities are classified as held to maturity investment securities when management has the intent and ability to hold the securities to maturity. held to maturity Investment securities are carried at amortized cost. Securities available for sale include securities that may be sold in response to general market fluctuations, liquidity needs and other similar factors. Securities available for sale are recorded at fair value. Unrealized holding gains and losses on available for sale securities are excluded from earnings and reported (net of deferred income taxes) as a separate component of stockholders’ equity. The low income housing projects included in other investments are held for community development and the tax losses and tax credits that they provide.
 
As of September 30, 2017, the fair value of securities available for sale exceeded their cost by $7,000. The portfolio is made up of primarily U.S.Treasury securities with an average portfolio life of just over three years. This short average life results in less portfolio volatility and positions the Bank to redeploy assets in response to rising rates. There are $22,000,000 in securities that will mature in 2017.
 
In reviewing investments as of September 30, 2017 and December 31, 2016, there were no securities which met the definition for other than temporary impairment. Management continues to re-evaluate the portfolio for impairment on a quarterly basis.
 
Loan Portfolio
 
The Company operates in a predominately rural area that includes the counties of Rockingham, Page, Shenandoah and Augusta in the western portion of Virginia. The local economy benefits from a variety of businesses including agri-business, manufacturing, service businesses and several universities and colleges. The Bank is an active residential mortgage and residential construction lender and generally makes commercial loans to small and mid-size businesses and farms within its primary service area.
 
Lending is geographically diversified within the service area. The Company has loan concentrations within the portfolio in construction and development lending. Management and the Board of Directors review this concentration and other potential areas of concentration quarterly.
 
Loans Held for Investment of $619,960,000 increased $28,324,000 at September 30, 2017 compared to December 31, 2016. The following categories experienced growth: farmland, real estate, multi-family, commercial and industrial, consumer and dealer finance.
 
Loans Held for Sale totaled $58,177,000 at September 30, 2017, a decrease of $4,558,000 compared to December 31, 2016. The Northpointe participation loan program has experienced a decline in volume in 2017 due to the mortgage environment.
 
 
38
 
 
Item 2. 
Management's Discussion and Analysis of Financial Condition and Results of Operations (Continued)
 
Loan Portfolio (continued)
 
Nonperforming loans include nonaccrual loans and loans 90 days or more past due. Nonaccrual loans are loans on which interest accruals have been suspended or discontinued permanently. Nonperforming loans totaled $5,662,000 at September 30, 2017 compared to $4,870,000 at December 31, 2016. Loans added to nonaccrual since December 31, 2016 were past due and were not specifically reviewed for impairment as they were below the impairment review threshold. Although the potential exists for loan losses, management believes the bank is generally well secured and continues to actively work with its customers to effect payment. As of September 30, 2017 and December 31, 2016, the Company held $2,148,000 and $2,076,000 of real estate which was acquired through foreclosure, respectively.
 
The following is a summary of information pertaining to risk elements and nonperforming loans (in thousands):
 
 
 
 September 30,
2017
 
 
December 31,
2016
 
Nonaccrual Loans
 
 
 
 
 
 
     Real Estate
 $4,502 
 $4,204 
     Commercial
  481 
  70 
     Home Equity
  436 
  311 
     Other
  243 
  178 
 
  5,662 
  4,763 
 
    
    
Loans past due 90 days or more (excluding nonaccrual)
    
    
     Real Estate
  - 
  81 
     Commercial
  - 
  - 
     Home Equity
  - 
  - 
     Other
  - 
  26 
 
  - 
  107 
 
    
    
Total Nonperforming loans
 $5,662 
 $4,870 
 
    
    
Restructured Loans current and performing:
    
    
      Real Estate
  7,714 
  8,641 
      Commercial
  162 
  1,121 
      Home Equity
  - 
  - 
       Other
  64 
  76 
 
    
    
Nonperforming loans as a percentage of loans held for investment
  .91%
  .82%
 
    
    
Net charge offs to total loans held for investment
  .10%
  .21%
 
    
    
Allowance for loan and lease losses to nonperforming loans
  122.61%
  154.89%
 
 
39
 
 
Item 2. 
Management's Discussion and Analysis of Financial Condition and Results of Operations (Continued)
 
Allowance for Loan Losses
 
The allowance for loan losses provides for the risk that borrowers will be unable to repay their obligations. The risk associated with real estate and installment notes to individuals is based upon employment, the local and national economies and consumer confidence. All of these affect the ability of borrowers to repay indebtedness. The risk associated with commercial lending is substantially based on the strength of the local and national economies.
 
Management evaluates the allowance for loan losses on a quarterly basis in light of national and local economic trends, changes in the nature and volume of the loan portfolio and trends in past due and criticized loans. Specific factors evaluated include internally generated loan review reports, past due reports, historical loan loss experience and changes in the financial strength of individual borrowers that have been included on the Bank’s watch list or schedule of classified loans.
 
In evaluating the portfolio, loans are segregated into loans with identified potential losses, pools of loans by type, with separate weighting for past dues and a general allowance based on a variety of criteria. Loans with identified potential losses include examiner and bank classified loans. Classified relationships in excess of $500,000 and loans identified as troubled debt restructurings, regardless of the dollar amount, are reviewed individually for impairment under ASC 310. A variety of factors are considered when reviewing these credits, including borrower cash flow, payment history, fair value of collateral, company management, industry and economic factors.
 
With the exception of Dealer finance loans, loans that are not impaired are categorized by call report code and an estimate is calculated based on actual loss experience over the last five years. Due to the rapid turnover in the Dealer finance portfolio, a two-year loss rate is utilized in that category as management feels this lookback period properly reflects the losses currently inherent in the portfolio. The Company monitors the net losses for this division and adjusts based on how the portfolio performs since the department was established in 2012. A general allowance for inherent losses has been established to reflect other unidentified losses within the portfolio. The general allowance is calculated using the nine qualitative factors identified in the 2006 Interagency Policy Statement on the allowance for loan losses. The general allowance assists in managing recent changes in portfolio risk that may not be captured in individually impaired loans, or in the homogeneous pools based on loss histories. The Board approves the provision for each quarter based on this evaluation.
 
The allowance for loan losses of $6,942,000 at September 30, 2017 is equal to 1.12% of loans held for investment. This compares to an allowance of $7,543,000 (1.27%) at December 31, 2016. The company has experienced a decline in historical losses and improvements in the qualitative factors since year end. There has been an increase in past dues in the prior and current quarters, several of which have expected payments in the fourth quarter and several loans (63% of the past due increase) are reviewed for impairment. Past due and loans with adverse risk ratings receive additional allocations in the allowance for loan loss calculation. Increases to nonaccrual have been minimal with a majority of the increase coming from cyclical increases on a development property. No losses in excess of impairment reserves are expected on nonaccrual and TDR loans. Historical losses have continued their downward trend since the end of 2015; therefore, representing the majority of the decline in the allowance for loan losses. Due to these factors, management did not fund the allowance in the first nine months of 2017.
 
Net charge-offs at September 30, 2017 totaled $601,000 which is equivalent to .10% of total loans outstanding. At December 31, 2016, net charge-offs totaled $1,238,000 or .21% of total loans outstanding.
 
 
40
 
 
Item 2. 
Management's Discussion and Analysis of Financial Condition and Results of Operations (Continued)
 
Deposits and Other Borrowings
 
The Company's main source of funding is comprised of deposits received from individuals, governmental entities and businesses located within the Company's service area. Deposit accounts include demand deposits, savings, money market and certificates of deposit. Total deposits at September 30, 2017 have increased $25,295,000 since December 31, 2016. Noninterest bearing deposits increased $10,305,000 while interest bearing increased $14,990,000. The increase in deposits is consistent with 2016 in that deposits grew substantially in the second half of the year.  The Bank also participates in the CDARS and the ICS programs. CDARS (Certificate of Deposit Account Registry Service) and ICS (Insured Cash Sweep) are programs that allows the bank to accept customer deposits in excess of FDIC limits and through reciprocal agreements with other network participating banks by offering FDIC insurance up to as much as $50 million in deposits. The CDARS program also allows the Bank to purchase funds through its One-Way Buy program. At September 30, 2017 and December 31, 2016, the Company had a total of $1.3 million in CDARS funding. The Company had $17.1 million and $12.1 million in ICS funding at September 30, 2017 and December 31, 2016, respectively.
 
Short-term borrowings
 
Short-term debt consists of federal funds purchased, daily rate credit obtained from the Federal Home Loan Bank (FHLB), and short-term fixed rate FHLB borrowings. Federal funds purchased are overnight borrowings obtained from the Bank’s primary correspondent bank to manage short-term liquidity needs. Borrowings from the FHLB have been used to finance loans held for sale and also to finance the increase in short-term residential and commercial construction loans. As of September 30, 2017, short-term debt consisted of $20,000,000 in FHLB short-term borrowings, $20,000,000 in FHLB daily rate credit and $2,128,000 in federal funds purchased. This compared to FHLB short-term borrowings of $40,000,000 at December 31, 2016. There were no balances in federal funds purchased or daily rate credit at December 31, 2016.
 
Long-term borrowings
 
Borrowings from the FHLB continue to be an important source of funding. The Company’s subsidiary bank borrows funds on a fixed rate basis. These borrowings are used to fund loan growth and also assist the Bank in matching the maturity of its fixed rate real estate loan portfolio with the maturity of its debt and thus reduce its exposure to interest rate changes. During the first quarter of 2017, the Company recognized a $504,000 gain on prepayment of two FHLB long term advances totaling $10 million and there were no new borrowings during the nine months ended September 30, 2017.
 
 
41
 
 
Item 2. 
Management's Discussion and Analysis of Financial Condition and Results of Operations (Continued)
 
Capital
 
The Company seeks to maintain a strong capital base to expand facilities, promote public confidence, support current operations and grow at a manageable level.
 
In March 2015, the Bank implemented the Basel III capital requirements, which introduced the Common Equity Tier I ratio in addition to the two previous capital guidelines of Tier I capital (referred to as core capital) and Tier II capital (referred to as supplementary capital). At September 30, 2017, the Bank had Common Equity Tier I capital of 13.90%, Tier I capital of 13.90% of risk weighted assets and combined Tier I and II capital of 14.98% of risk weighted assets. Regulatory minimums at this date were 4.5%, 6% and 8%, respectively. At December 30, 2016, the Bank had Common Equity Tier I capital of 13.86%, Tier I capital of 13.86% of risk weighted assets and combined Tier I and II capital of 15.08% of risk weighted assets. Regulatory minimums at this date were 4.5%, 6% and 8%, respectively. The Bank has maintained capital levels far above the minimum requirements throughout the year. In the unlikely event that such capital levels are not met, regulatory agencies are empowered to require the Bank to raise additional capital and/or reallocate present capital.
 
In addition, the regulatory agencies have issued guidelines requiring the maintenance of a capital leverage ratio. The leverage ratio is computed by dividing Tier I capital by average total assets. The regulators have established a minimum of 4% for this ratio, but can increase the minimum requirement based upon an institution's overall financial condition. At September 30, 2017 and December 31, 2016, the Bank reported a leverage ratio of 12.16% and 11.83%, respectively, which was also substantially above the minimum. The Bank also reported a capital conservation buffer of 6.98% at September 30, 2017 and 7.08% at December 31, 2016. The capital conservation buffer is designed to strengthen an institution’s financial resilience during economic cycles. Financial institutions are required to maintain a minimum buffer as required by the Basel III final rules in order to avoid restrictions on capital distributions and other payments. Beginning January 1, 2016, a capital conservation buffer of 0.625% became effective. The capital conservations buffer for 2017 is 1.25% and will gradually be increased through January 1, 2019 to 2.5%.
 
Liquidity
 
Liquidity is the ability to meet present and future financial obligations through either the sale or maturity of existing assets or the acquisition of additional funds through liability management. Liquid assets include cash, interest-bearing deposits with banks, federal funds sold, investments and loans maturing within one year. The Company's ability to obtain deposits and purchase funds at favorable rates determines its liquidity exposure. As a result of the Company's management of liquid assets and the ability to generate liquidity through liability funding, management believes that the Company maintains overall liquidity sufficient to satisfy its depositors' requirements and meet its customers' credit needs.
 
Additional sources of liquidity available to the Company include, but are not limited to, loan repayments, the ability to obtain deposits through the adjustment of interest rates and the purchasing of federal funds. To further meet its liquidity needs, the Company’s subsidiary bank also maintains a line of credit with its primary correspondent financial institution, with Zions Bank and with Pacific Coast Bankers Bank. The Bank also has a line of credit with the Federal Home Loan Bank of Atlanta that allows for secured borrowings.
 
Interest Rate Sensitivity
 
In conjunction with maintaining a satisfactory level of liquidity, management must also control the degree of interest rate risk assumed on the balance sheet. Managing this risk involves regular monitoring of interest sensitive assets relative to interest sensitive liabilities over specific time intervals. The Company monitors its interest rate sensitivity periodically and makes adjustments as needed. There are no off balance sheet items that will impair future liquidity.
 
As of September 30, 2017, the Company had a cumulative Gap Rate Sensitivity Ratio of 19.55% for the one year repricing period. This generally indicates that earnings would increase in an increasing interest rate environment as assets reprice more quickly than liabilities. However, in actual practice, this may not be the case as balance sheet leverage, funding needs and competitive factors within the market could dictate the need to raise deposit rates more quickly. Management constantly monitors the Company’s interest rate risk and has decided the current position is acceptable for a well-capitalized community bank.
 
A summary of asset and liability repricing opportunities is shown in Table II, on page 47.
 
 
42
 
 
Item 2. 
Management's Discussion and Analysis of Financial Condition and Results of Operations (Continued)
 
Effect of Newly Issued Accounting Standards
 
In January 2016, the FASB issued ASU 2016-01, “Financial Instruments – Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities.” The amendments in ASU 2016-01, among other things: 1) Requires equity investments (except those accounted for under the equity method of accounting, or those that result in consolidation of the investee) to be measured at fair value with changes in fair value recognized in net income. 2) Requires public business entities to use the exit price notion when measuring the fair value of financial instruments for disclosure purposes. 3) Requires separate presentation of financial assets and financial liabilities by measurement category and form of financial asset (i.e., securities or loans and receivables). 4) Eliminates the requirement for public business entities to disclose the method(s) and significant assumptions used to estimate the fair value that is required to be disclosed for financial instruments measured at amortized cost. The amendments in this ASU are effective for public companies for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. The Company is currently assessing the impact that ASU 2016-01 will have on its consolidated financial statements.
 
In February 2016, the FASB issued ASU No. 2016-02, “Leases (Topic 842).” Among other things, in the amendments in ASU 2016-02, lessees will be required to recognize the following for all leases (with the exception of short-term leases) at the commencement date: (1) A lease liability, which is a lessee‘s obligation to make lease payments arising from a lease, measured on a discounted basis; and (2) A right-of-use asset, which is an asset that represents the lessee’s right to use, or control the use of, a specified asset for the lease term. Under the new guidance, lessor accounting is largely unchanged. Certain targeted improvements were made to align, where necessary, lessor accounting with the lessee accounting model and Topic 606, Revenue from Contracts with Customers. The amendments in this ASU are effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. Early application is permitted upon issuance. Lessees (for capital and operating leases) and lessors (for sales-type, direct financing, and operating leases) must apply a modified retrospective transition approach for leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements. The modified retrospective approach would not require any transition accounting for leases that expired before the earliest comparative period presented. Lessees and lessors may not apply a full retrospective transition approach. The Company is currently assessing the impact that ASU 2016-02 will have on its consolidated financial statements by gathering data on current lease agreements and analyzed the capital impact of expected right of use assets that will be recorded. No changes are expected regarding total lease expense.
 
During June 2016, the FASB issued ASU No. 2016-13, “Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments.” The amendments in this ASU, among other things, require the measurement of all expected credit losses for financial assets held at the reporting date based on historical experience, current conditions, and reasonable and supportable forecasts. Financial institutions and other organizations will now use forward-looking information to better inform their credit loss estimates. Many of the loss estimation techniques applied today will still be permitted, although the inputs to those techniques will change to reflect the full amount of expected credit losses. In addition, the ASU amends the accounting for credit losses on available-for-sale debt securities and purchased financial assets with credit deterioration. The amendments in this ASU are effective for SEC filers for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019. The Company is currently assessing the impact that ASU 2016-13 will have on its consolidated financial statements and has formed a Current Expected Credit Losses steering committee that is researching methods and models.
 
During August 2016, the FASB issued ASU No. 2016-15, “Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments”, to address diversity in how certain cash receipts and cash payments are presented and classified in the statement of cash flows. The amendments are effective for public business entities for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years. The amendments should be applied using a retrospective transition method to each period presented. If retrospective application is impractical for some of the issues addressed by the update, the amendments for those issues would be applied prospectively as of the earliest date practicable. Early adoption is permitted, including adoption in an interim period. The Company does not expect the adoption of ASU 2016-15 to have a material impact on its consolidated financial statements.
 
 
43
 
 
Item 2.  
Management's Discussion and Analysis of Financial Condition and Results of Operations (Continued)
 
Effect of Newly Issued Accounting Standards, continued
 
During January 2017, the FASB issued ASU No. 2017-01, “Business Combinations (Topic 805): Clarifying the Definition of a Business”. The amendments in this ASU clarify the definition of a business with the objective of adding guidance to assist entities with evaluating whether transactions should be accounted for as acquisitions (or disposals) of assets or businesses. Under the current implementation guidance in Topic 805, there are three elements of a business—inputs, processes, and outputs. While an integrated set of assets and activities (collectively referred to as a “set”) that is a business usually has outputs, outputs are not required to be present. In addition, all the inputs and processes that a seller uses in operating a set are not required if market participants can acquire the set and continue to produce outputs. The amendments in this ASU provide a screen to determine when a set is not a business. If the screen is not met, the amendments (1) require that to be considered a business, a set must include, at a minimum, an input and a substantive process that together significantly contribute to the ability to create output and (2) remove the evaluation of whether a market participant could replace missing elements. The ASU provides a framework to assist entities in evaluating whether both an input and a substantive process are present. The amendments in this ASU are effective for annual periods beginning after December 15, 2017, including interim periods within those annual periods. The amendments in this ASU should be applied prospectively on or after the effective date. No disclosures are required at transition. The Company does not expect the adoption of ASU 2017-01 to have a material impact on its consolidated financial statements.
 
During January 2017, the FASB issued ASU No. 2017-04, “Intangibles – Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment”. The amendments in this ASU simplify how an entity is required to test goodwill for impairment by eliminating Step 2 from the goodwill impairment test. Step 2 measures a goodwill impairment loss by comparing the implied fair value of a reporting unit’s goodwill with the carrying amount of that goodwill. Instead, under the amendments in this ASU, an entity should perform its annual, or interim, goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount. An entity still has the option to perform the qualitative assessment for a reporting unit to determine if the quantitative impairment test is necessary. Public business entities that are U.S. Securities and Exchange Commission (SEC) filers should adopt the amendments in this ASU for annual or interim goodwill impairment tests in fiscal years beginning after December 15, 2019. Early adoption is permitted for interim or annual goodwill impairment tests performed on testing dates after January 1, 2017. The Company does not expect the adoption of ASU 2017-04 to have a material impact on its consolidated financial statements.
 
During March 2017, the FASB issued ASU 2017-07, “Compensation — Retirement Benefits (Topic 715): Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost.” The amendments in this ASU require an employer that offers defined benefit pension plans, other postretirement benefit plans, or other types of benefits accounted for under Topic 715 to report the service cost component of net periodic benefit cost in the same line item(s) as other compensation costs arising from services rendered during the period. The other components of net periodic benefit cost are required to be presented in the income statement separately from the service cost component. If the other components of net periodic benefit cost are not presented on a separate line or lines, the line item(s) used in the income statement must be disclosed. In addition, only the service cost component will be eligible for capitalization as part of an asset, when applicable. The amendments are effective for annual periods beginning after December 15, 2017, including interim periods within those annual periods. Early adoption is permitted. The Company does not expect the adoption of ASU 2017-07 to have a material impact on its consolidated financial statements.
 
During March 2017, the FASB issued ASU 201708, “Receivables—Nonrefundable Fees and Other Costs (Subtopic 31020), Premium Amortization on Purchased Callable Debt Securities.” The amendments in this ASU shorten the amortization period for certain callable debt securities purchased at a premium. Upon adoption of the standard, premiums on these qualifying callable debt securities will be amortized to the earliest call date. Discounts on purchased debt securities will continue to be accreted to maturity. The amendments are effective for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years. Early adoption is permitted, including adoption in an interim period. Upon transition, entities should apply the guidance on a modified retrospective basis, with a cumulative-effect adjustment to retained earnings as of the beginning of the period of adoption and provide the disclosures required for a change in accounting principle. The Company does not expect the adoption of ASU 201708 to have a material impact on its consolidated financial statements.
 
 
44
 
 
Item 2.  
Management's Discussion and Analysis of Financial Condition and Results of Operations (Continued)
 
Effect of Newly Issued Accounting Standards, continued
 
During May 2017, the FASB issued ASU 201709, “Compensation – Stock Compensation (Topic 718): Scope of Modification Accounting.” The amendments provide guidance on determining which changes to the terms and conditions of share-based payment awards require an entity to apply modification accounting under Topic 718.  The amendments are effective for all entities for annual periods, including interim periods within those annual periods, beginning after December 15, 2017. Early adoption is permitted, including adoption in any interim period, for reporting periods for which financial statements have not yet been issued. The Company does not expect ASU 201709 will have an impact on the Company’s consolidated financial statements.
 
During August 2017, the FASB issued ASU 2017-12, “Derivatives and Hedging (Topic 815): Targeted Improvements to Accounting for Hedging Activities.” The amendments in this ASU modify the designation and measurement guidance for hedge accounting as well as provide for increased transparency regarding the presentation of economic results on both the financial statements and related footnotes. Certain aspects of hedge effectiveness assessments will also be simplified upon implementation of this update. The amendments are effective for annual periods, including interim periods within those annual periods, beginning after December 15, 2018. Early adoption is permitted, including adoption in any interim period. The Company is currently assessing the impact that ASU 201712 will have on its consolidated financial statements.
 
Other accounting standards that have been issued by the FASB or other standards-setting bodies are not expected to have a material effect on the Company’s financial position, result of operations or cash flows.
 
Existence of Securities and Exchange Commission Web Site
 
The Securities and Exchange Commission maintains a Web site that contains reports, proxy and information statements and other information regarding registrants that file electronically with the Commission, including F & M Bank Corp. and the address is (http: //www.sec.gov).
 
 
45
 
TABLE I
F & M BANK CORP.
Net Interest Margin Analysis
(on a fully taxable equivalent basis)
(Dollar Amounts in Thousands)
 
 
 
Nine Months Ended
 
 
Nine Months Ended
 
 
Three Months Ended
 
 
Three Months Ended
 
 
 
September 30, 2017
 
 
September 30, 2016
 
 
September 30, 2017
 
 
September 30, 2016
 
Average
 
 
 
 
Income/
 
 
Average
 
 
 
 
 
Income/
 
 
Average
 
 
 
 
 
Income/
 
 
Average
 
 
 
 
 
Income/
 
 
Average
 
 
 
Balance4
 
 
Expense
 
 
 Rates5
 
 
Balance4
 
 
Expense
 
 
Rates
 
 
Balance4
 
 
Expense
 
 
Rates
 
 
Balance4
 
 
Expense
 
 
Rates5
 
Interest income
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
     Loans held for investment1,2
 $599,198 
 $23,937 
  5.34%
 $561,347 
 $22,162 
  5.27%
 $611,426 
 $8,258 
  5.36%
 $570,252 
 $7,575 
  5.27%
     Loans held for sale
  36,026 
  774 
  2.87%
  68,145 
  1,430 
  2.80%
  45,007 
  329 
  2.90%
  84,165 
  540 
  2.55%
     Federal funds sold
  15,780 
  108 
  .92%
  6,402 
  22 
  .46%
  11,131 
  37 
  1.32%
  8,863 
  10 
  .45%
     Interest bearing deposits
  1,594 
  8 
  .67%
  778 
  2 
  .34%
  2,569 
  4 
  .62%
  594 
  - 
  - 
     Investments
    
    
    
    
    
    
    
    
    
    
    
    
Taxable 3
  11,211 
  234 
  2.79%
  17,388 
  245 
  1.88%
  11,195 
  97 
  3.44%
  16,576 
  106 
  2.50%
Partially taxable
  125 
  - 
  - 
  125 
  - 
  - 
  125 
  - 
  - 
  125 
  - 
  - 
     Total earning assets
 $663,934 
 $25,061 
  5.05%
 $654,185 
 $23,861 
  4.87%
 $681,453 
 $8,725 
  5.08%
 $680,575 
 $8,231 
  4.80%
Interest Expense
    
    
    
    
    
    
    
    
    
    
    
    
     Demand deposits
  119,318 
  393 
  .44%
  111,516 
  371 
  .44%
  119,179 
  140 
  .47%
  114,850 
  126 
  .44%
     Savings
  112,803 
  379 
  .45%
  97,803 
  322 
  .44%
  114,864 
  131 
  .46%
  102,757 
  114 
  .44%
     Time deposits
  157,579 
  1,175 
  1.00%
  161,025 
  1,064 
  .88%
  161,487 
  427 
  1.05%
  158,572 
  369 
  .92%
     Short-term debt
  21,217 
  46 
  .29%
  39,406 
  35 
  .12%
  32,832 
  14 
  .16%
  45,881 
  9 
  .08%
     Long-term debt
  53,968 
  868 
  2.15%
  53,512 
  853 
  2.13%
  51,169 
  319 
  2.47%
  65,412 
  352 
  2.13%
     Total interest bearing liabilities
 $464,885 
 $2,861 
  .82%
 $463,262 
 $2,645 
  .76%
 $479,531 
 $1,031 
  .85%
 $487,472 
 $970 
  .79%
 
    
    
    
    
    
    
    
    
    
    
    
    
Tax equivalent net interest income
    
 $22,200 
    
    
 $21,216 
    
    
 $7,694 
    
    
 $7,261 
    
 
    
    
    
    
    
    
    
    
    
    
    
    
Net interest margin
    
    
  4.47%
    
    
  4.33%
    
    
  4.48%
    
    
  4.23%
 
1 Interest income on loans includes loan fees.
2 Loans held for investment include nonaccrual loans.
3 An incremental income tax rate of 34% was used to calculate the tax equivalent income on nontaxable and partially taxable investments and loans.
4 Average balance information is reflective of historical cost and has not been adjusted for changes in market value.
5 Average rates have been annualized.
 
 
46
 
TABLE II
 
F & M BANK CORP.
Interest Sensitivity Analysis
September 30, 2017
(Dollars In Thousands)
 
The following table presents the Company’s interest sensitivity.
 
 
 
0 – 3
 
 
4 – 12
 
 
  – 5
 
 
Over 5
 
 
Not
 
 
 
 
 
 
Months
 
 
Months
 
 
Years
 
 
Years
 
 
Classified
 
 
Total
 
Uses of funds
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Loans
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Commercial
 $35,015 
 $31,260 
 $123,304 
 $28,063 
 $- 
 $217,642 
Installment
  4,206 
  1,291 
  60,608 
  14,790 
  - 
  80,895 
Real estate loans for investments
  92,354 
  61,061 
  160,463 
  4,871 
  - 
  318,749 
Loans held for sale
  58,177 
  - 
  - 
  - 
  - 
  58,177 
Credit cards
  2,674 
  - 
  - 
  - 
  - 
  2,674 
Interest bearing bank deposits
  945 
  - 
  - 
  - 
  - 
  945 
Federal funds sold
  - 
  - 
  - 
  - 
  - 
  - 
Investment securities
  21,998 
  125 
  - 
  549 
  135 
  22,807 
Total
 $215,369 
 $93,737 
 $344,375 
 $48,273 
 $135 
 $701,889 
 
    
    
    
    
    
    
Sources of funds
    
    
    
    
    
    
Interest bearing demand deposits
 $- 
 $33,236 
 $71,407 
 $19,086 
 $- 
 $123,729 
Savings deposits
  - 
  23,515 
  70,547 
  23,516 
  - 
  117,578 
Certificates of deposit $100,000 and over
  3,250 
  18,551 
  38,335 
  - 
  - 
  60,136 
Other certificates of deposit
  12,730 
  33,996 
  57,289 
  - 
  - 
  104,015 
Short-term borrowings
  42,128 
  - 
  - 
  - 
  - 
  42,128 
Long-term borrowings
  1,107 
  3,407 
  35,701 
  10,625 
  - 
  50,840 
Total
 $59,215 
 $112,705 
 $273,279 
 $53,227 
 $- 
 $498,426 
 
    
    
    
    
    
    
Discrete Gap
 $156,154 
 $(18,968)
 $71,096 
 $(4,954)
 $135 
 $203,463 
 
    
    
    
    
    
    
Cumulative Gap
 $156,154 
 $137,186 
 $208,282 
 $203,328 
 $203,463 
    
 
    
    
    
    
    
    
Ratio of Cumulative Gap to Total Earning Assets
  22.25%
  19.55%
  29.67%
  28.97%
  28.99%
    
 
Table II reflects the earlier of the maturity or repricing dates for various assets and liabilities as of September 30, 2017. In preparing the above table, no assumptions were made with respect to loan prepayments. Loan principal payments are included in the earliest period in which the loan matures or can reprice. Investment securities included in the table consist of securities held to maturity and securities available for sale. Principal payments on installment loans scheduled prior to maturity are included in the period of maturity or repricing. Proceeds from the redemption of investments and deposits are included in the period of maturity. Estimated maturities of deposits, which have no stated maturity dates, were derived from guidance contained in FDICIA 305.
 
 
47
 
 
Item 3.  
Quantitative and Qualitative Disclosures About Market Risk
 
Not Applicable
 
Item 4.
Controls and Procedures
 
Evaluation of Disclosure Controls and Procedures
 
As a result of the enactment of the Sarbanes-Oxley Act of 2002, issuers such as F & M Bank Corp. that file periodic reports under the Securities Exchange Act of 1934 (the "Act") are required to include in those reports certain information concerning the issuer's controls and procedures for complying with the disclosure requirements of the federal securities laws. These disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by an issuer in the reports it files or submits under the Act, is recorded , processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms and is accumulated and communicated to the issuer's management, including its principal executive officer or officers and principal financial officer or officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure.
 
As required, we will evaluate the effectiveness of these disclosure controls and procedures on a quarterly basis, and most recently did so as of the end of the period covered by this report.
 
The Company’s Chief Executive Officer and Chief Financial Officer, based on their evaluation as of the end of the period covered by this quarterly report of the Company’s disclosure controls and procedures (as defined in Rule 13(a)-15(e) of the Act), have concluded that the Company’s disclosure controls and procedures are effective for purposes of Rule 13(a)-15(b).
 
Changes in Internal Controls
 
The findings of the internal auditor are presented to management of the Bank and to the Audit Committee of the Company. During the period covered by this report, there were no changes to the internal controls over financial reporting of the Company that have materially affected, or are reasonably likely to materially affect, the Company’s internal controls over financial reporting.
 
 
48
 
 
Part II      
Other Information
 
Item 1.   
Legal Proceedings
 
There are no material pending legal proceedings other than ordinary routine litigation incidental to its business, to which the Company is a party or of which the property of the Company is subject.
 
Item 1a.          
Risk Factors –
 
There have been no material changes to the risk factors disclosed in the Company’s Annual Report on Form 10-K for the year ended December 31, 2016.
 
Item 2.   
Unregistered Sales of Equity Securities and Use of Proceeds –None
 
Item 3.  
Defaults Upon Senior Securities – None
 
Item 4. 
Mine Safety Disclosures None
 
Item 5.       
Other Information – None
 
Item 6.     
Exhibits
 
(a)   
Exhibits
 
Certification of Chief Executive Officer pursuant to Rule 13a-14(a) (filed herewith).
 
Certification of Chief Financial Officer pursuant to Rule 13a-14(a) (filed herewith).
 
Certifications of Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sabanes-Oxley Act of 2002 (filed herewith).
 
101 
The following materials from F&M Bank Corp.’s Quarterly Report on Form 10Q for the period ended September 30, 2017, formatted in Extensible Business Reporting Language (XBRL), include: (i) Consolidated Balance Sheets, (ii) Consolidated Statements of Income, (iii) Consolidated Statements of Comprehensive Income, (iv) Consolidated Statements of Changes in Stockholders’ Equity, (v) Consolidated Statements of Cash Flows and (vi) related notes (filed herewith).
 
 
49
 
 
Signatures
 
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
 
 
F & M BANK CORP.
 
 
 
 
 
 
By:  
/s/ Dean W. Withers
 
 
 
Dean W. Withers 
 
 
 
Title 
 
 
 
By:  
/s/  Carrie A. Comer
 
 
 
Carrie A. Comer 
 
 
 
Senior Vice President and Chief Financial Officer 
 
November 14, 2017
 
 
 
 
 
 
 
50