Farmers & Merchants Bancshares, Inc. - Quarter Report: 2021 March (Form 10-Q)

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

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

 

For quarterly period ended March 31, 2021

 

☐	TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE ACT

For the transition period from _______________ to ________________

 

Commission file number 000-55756

 

Farmers and Merchants Bancshares, Inc.

(Exact name of registrant as specified in its charter)

 

Maryland		81-3605835
(State or other jurisdiction of		(I. R. S. Employer Identification No.)
incorporation or organization)

 

4510 Lower Beckleysville Road, Suite H, Hampstead, Maryland            21074

(Address of principal executive offices)          (Zip Code)

 

(410) 374-1510

(Registrant’s telephone number, including area code)

 

Securities registered pursuant to Section 12(b) of the Act: None.

 

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 periods that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☑ No ☐

 

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☑ No ☐

 

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

 

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

 

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

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes ☐ No ☑

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date: 3,011,255 as of May 13, 2021.

 

 

 

Farmers and Merchants Bancshares, Inc. and Subsidiaries

 

Table of Contents

 

		Page
PART I – FINANCIAL INFORMATION		3
Item 1. Financial Statements		3
	Consolidated balance sheets at March 31, 2021 (unaudited) and December 31, 2020	3
	Consolidated statements of income (unaudited) for the three months ended March 31, 2021 and 2020	4
	Consolidated statements of comprehensive income (unaudited) for the three months ended March 31, 2021 and 2020	5
	Consolidated statements of changes in stockholders’ equity (unaudited) for the three months ended March 31, 2021 and 2020	6
	Consolidated statements of cash flows (unaudited) for the three months ended March 31, 2021 and 2020	7
	Notes to financial statements (unaudited)	9
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations		29
Item 3. Quantitative and Qualitative Disclosures About Market Risk		44
Item 4. Controls and Procedures		44
PART II – OTHER INFORMATION		45
Item 1. Legal Proceedings		45
Item 1A. Risk Factors		45
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds		45
Item 3. Defaults upon Senior Securities		45
Item 4. Mine Safety Disclosures		45
Item 5. Other Information		45
Item 6. Exhibits		45
SIGNATURES		46

 

 

		March, 31				December 31,
		2021				2020
		(Unaudited)
Assets
Cash and due from banks		$	41,378,357			$	39,898,557
Federal funds sold and other interest-bearing deposits			535,535				1,077,113
Cash and cash equivalents			41,913,892				40,975,670
Certificate of deposit in other bank			350,000				850,000
Securities available for sale			74,928,865				54,477,286
Securities held to maturity			21,865,447				23,078,519
Equity security at fair value			545,713				552,566
Restricted stock, at cost			675,400				900,500
Mortgage loans held for sale			1,682,700				1,673,350
Loans, less allowance for loan losses of $3,423,088 and $3,296,538			519,239,304				521,690,514
Premises and equipment			6,343,681				7,736,556
Accrued interest receivable			1,883,429				2,057,491
Deferred income taxes			1,464,784				1,219,668
Other real estate owned			1,411,605				1,411,605
Bank owned life insurance			15,067,461				11,297,342
Goodwill and other intangibles			7,057,326				7,059,408
Other assets			1,952,747				2,336,607
		$	696,382,354			$	677,317,082
Liabilities and Stockholders' Equity
Deposits
Noninterest-bearing		$	121,925,868			$	103,155,113
Interest-bearing			481,315,407				470,246,434
Total deposits			603,241,275				573,401,547
Securities sold under repurchase agreements			12,648,269				24,753,972
Federal Home Loan Bank of Atlanta advances			5,000,000				5,000,000
Long-term debt			16,974,687				16,973,280
Accrued interest payable			357,961				409,622
Other liabilities			5,046,750				5,049,178
			643,268,942				625,587,599
Stockholders' equity
Common stock, par value $.01 per share, authorized 5,000,000 shares; issued and outstanding 3,011,255 in 2021 and 2020			30,113				30,113
Additional paid-in capital			28,294,139				28,294,139
Retained earnings			24,728,529				22,698,954
Accumulated other comprehensive income			60,631				706,277
			53,113,412				51,729,483
		$	696,382,354			$	677,317,082

 

		Three months ended
		March 31,
		2021				2020
Interest income
Loans, including fees		$	5,984,657			$	4,322,654
Investment securities - taxable			211,224				210,506
Investment securities - tax exempt			160,574				144,084
Federal funds sold and other interest earning assets			14,137				32,792
Total interest income			6,370,592				4,710,036
Interest expense
Deposits			595,520				906,199
Securities sold under repurchase agreements			13,511				38,194
Federal Home Loan Bank advances and other borrowings			188,106				109
Total interest expense			797,137				944,502
Net interest income			5,573,455				3,765,534
Provision for loan losses			120,000				125,000
Net interest income after provision for loan losses			5,453,455				3,640,534
Noninterest income
Service charges on deposit accounts			159,191				158,555
Mortgage banking income			256,267				62,257
Bank owned life insurance income			70,119				42,012
Gain on sale of premises and equipment			37,613				-
Unrealized gain(loss) on equity security			(8,669	)			8,510
Gain on premium call of debt security			8,569				-
Other fees and commissions			33,855				30,668
Total noninterest income			556,945				302,002
Noninterest expense
Salaries			1,626,338				1,354,919
Employee benefits			472,888				447,104
Occupancy			250,212				183,152
Furniture and equipment			196,683				160,449
Acquisition			-				179,824
Other			849,003				620,865
Total noninterest expense			3,395,124				2,946,313
Income before income taxes			2,615,276				996,223
Income taxes			585,701				152,916
Net income		$	2,029,575			$	843,307
Earnings per share - basic and diluted		$	0.67			$	0.28

 

		Three Months Ended
		March 31,
		2021				2020
Net income		$	2,029,575			$	843,307
Other comprehensive income, net of income taxes:
Securities available for sale
Net unrealized gain (loss) arising during the period			(890,761	)			172,691
Income tax expense (benefit)			(245,115	)			47,520
Total other comprehensive income (loss)			(645,646	)			125,171
Total comprehensive income		$	1,383,929			$	968,478

 

										Additional								Accumulated other				Total
		Common stock								paid-in				Retained				comprehensive				stockholders'
		Shares				Par value				capital				earnings				income				equity
Balance, December 31, 2019			2,974,019			$	29,740			$	27,812,991			$	21,568,161			$	42,624			$	49,453,516
Net income			-				-				-				843,307				-				843,307
Unrealized gain on securities available for sale net of income tax expense of $47,520			-				-				-				-				125,171				125,171
Balance, March 31, 2020			2,974,019			$	29,740			$	27,812,991			$	22,411,468			$	167,795			$	50,421,994
Balance, December 31, 2020			3,011,255			$	30,113			$	28,294,139			$	22,698,954			$	706,277			$	51,729,483
Net income			-				-				-				2,029,575				-				2,029,575
Unrealized loss on securities available for sale net of income tax benefit of $245,115			-				-				-				-				(645,646	)			(645,646	)
Balance, March 31, 2021			3,011,255			$	30,113			$	28,294,139			$	24,728,529			$	60,631			$	53,113,412

 

Three Months Ended March 31,		2021				2020
Cash flows from operating activities
Interest received		$	6,941,426			$	4,640,609
Fees and commissions received			449,313				251,480
Interest paid			(927,563	)			(940,991	)
Proceeds from sale of mortgage loans held for sale			12,646,573				3,148,200
Origination of mortgage loans held for sale			(12,655,923	)			(4,387,650	)
Cash paid to suppliers and employees			(3,329,986	)			(3,112,503	)
			3,123,840				(400,855	)
Cash flows from investing activities
Proceeds from maturity and call of securities
Available for sale			10,454,122				2,412,263
Held to maturity			1,580,000				500,000
Purchase of securities
Available for sale			(31,974,384	)			(6,434,692	)
Held to maturity			(342,061	)			-
Maturity of certificates of deposit			500,000				-
Loans made to customers, net of principal collected			1,932,622				958,785
Redemption(purchase) of restricted stock			225,100				(235,100	)
Purchase of bank owned life insurance			(3,700,000	)			-
Proceeds from sale of premises and equipment			1,359,613				-
Purchases of premises, equipment and software			(36,909	)			(179,292	)
			(20,001,897	)			(2,978,036	)
Cash flows from financing activities
Net increase (decrease) in
Noninterest-bearing deposits			18,770,755				494,053
Interest-bearing deposits			11,151,227				12,657,062
Securities sold under repurchase agreements			(12,105,703	)			(1,249,774	)
Federal Home Loan Bank of Atlanta advances			-				5,000,000
			17,816,279				16,901,341
Net increase in cash and cash equivalents			938,222				13,522,450
Cash and cash equivalents at beginning of period			40,975,670				9,121,352
Cash and cash equivalents at end of period		$	41,913,892			$	22,643,802

 

Three Months Ended March 31,		2021				2020
Reconciliation of net income to net cash provided by operating activities
Net income		$	2,029,575			$	843,307
Adjustments to reconcile net income to net cash provided by operating activities
Depreciation and amortization			117,030				89,852
Provision for loan losses			120,000				125,000
Lease expense in excess of rent paid			7,780				8,672
Equity security dividends reinvested			(1,816	)			(2,769	)
Unrealized loss (gain) on equity security			8,669				(8,510	)
Gain on sale of premises and equipment			(37,613	)			-
Gain on premium call of debt security			(8,569	)			-
Amortization of debt issuance costs			1,407				-
Amortization of premiums and accretion of discounts, net			69,559				53,086
Increase (decrease) in
Deferred loan fees			410,480				(20,801	)
Accrued interest payable			(51,661	)			3,511
Other liabilities			27,154				(458,358	)
Decrease (increase) in
Mortgage loans held for sale			(9,350	)			(1,239,450	)
Accrued interest receivable			174,062				(45,857	)
Bank owned life insurance cash surrender value			(70,119	)			(42,012	)
Other assets			337,252				293,474
		$	3,123,840			$	(400,855	)

 

1.	Principles of consolidation

 

The consolidated financial statements include the accounts of Farmers and Merchants Bancshares, Inc. and its wholly owned subsidiaries, Farmers and Merchants Bank (the “Bank”), and Series Protected Cell FCB-4 (the “Insurance Subsidiary”), and one subsidiary of the Bank, Reliable Community Financial Services, Inc. (collectively the “Company”, “we”, “us”, or “our”). The Insurance Subsidiary constitutes an investment in a series of membership interests, 100% owned by the Company, issued by First Community Bankers Insurance Co., LLC, a Tennessee “series” limited liability company and licensed property and casualty insurance company. Intercompany balances and transactions have been eliminated. This includes the insurance premium paid by the Bank to the Insurance Subsidiary through an intermediary. Effective October 1, 2020, the Company acquired Carroll Bancorp, Inc. and its wholly-owned subsidiary, Carroll Community Bank (collectively, “Carroll”), both of which were based in Eldersburg, Maryland, through a series of merger transactions (the “Merger”). The results of operations and assets acquired and liabilities assumed from Carroll are included only from the effective date of the Merger. The comparability of the Company's results of operations for the three-months ended March 31, 2021, and 2020 have been impacted by the Merger. 

 

2.	Basis of Presentation

 

The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and in accordance with the instructions to Form 10-Q and Rule 8-03 of Regulation S-X. Accordingly, they do not include all of the disclosures required by accounting principles generally accepted in the United States of America for complete financial statements. In the opinion of management, all adjustments necessary for a fair presentation of the results of operations for the interim periods have been made. Such adjustments were normal and recurring in nature. The results of operations for the three months ended March 31, 2021 do not necessarily reflect the results that may be expected for the fiscal year ending December 31, 2021 or any future interim period. The consolidated financial statements should be read in conjunction with the audited consolidated financial statements and related notes for the year ended December 31, 2020, which are included in Farmers and Merchants Bancshares, Inc.’s Annual Report on Form 10-K for the year ended December 31, 2020.

 

Summary of Significant Accounting Policies

 

The accounting and reporting policies reflected in the financial statements conform to accounting principles generally accepted in the United States of America and to general practices within the banking industry. Management makes estimates and assumptions that affect the reported amounts of assets, liabilities, and disclosures of commitments and contingent liabilities at the balance sheet date, and revenues and expenses during the year. These estimates and assumptions may affect the reported amounts of revenue and expenses during the reporting period. Actual results could differ from these estimates.

 

Loans and allowance for loan losses

 

Loans are stated at the current amount of unpaid principal, adjusted for deferred origination costs, deferred origination fees, premiums and discounts on acquired loans, and the allowance for loan losses. Interest on loans is accrued based on the principal amounts outstanding. Origination fees and costs, along with premiums and accretable discounts, are amortized to income over the terms of loans.

 

Past due status is based on the contractual terms of the loan. Management may make an exception to reporting a loan as past due, if the past due status is solely due to the loan being past maturity, the Company intends to extend the loan, and the borrower is making principal and interest payments in accordance with the terms of the matured note. The accrual of interest is discontinued when any portion of the principal or interest is 90 days past due and collateral is insufficient to discharge the debt in full. If collection of principal is evaluated as doubtful, all payments are applied to principal. Loans are considered impaired when, based on current information, management considers it unlikely that the collection of principal and interest payments will be made according to contractual terms. Generally, loans are not reviewed for impairment until the accrual of interest has been discontinued or the loans are included on the watch list.

 

 

Farmers and Merchants Bancshares, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

(Unaudited)

 

2.	Basis of Presentation (continued)

 

The allowance for loan losses represents an amount which, in management’s judgment, will be adequate to absorb probable losses on existing loans and other extensions of credit that may become uncollectible. The Company’s allowance for loan losses consists of three elements: (i) segregating the loan portfolio into pools based upon similar characteristics and risk profiles and applying a loss factor to the pools, based on historical losses within those pools, (ii) applying qualitative factors to the loan pools that consider economic and other factors, both internal and external, affecting the Company and the pools, and (iii) determining specific reserves based on individual evaluation of impaired loans that are not included in the pools discussed above.

 

The allowances established for probable losses on impaired loans are based on a regular analysis and evaluation of problem loans. Management maintains a watch list of problem loans. Loans are classified based on an internal credit risk grading process that evaluates, among other things: (i) the obligor's ability to repay; (ii) the underlying collateral, if any; (iii) the economic environment; and (iv) for commercial borrowers, the industry in which the borrower operates. Specific valuation allowances are determined when the collateral value, if the loan is collateral dependent, or the discounted cash flows of the impaired loan is lower than the carrying value.

 

Historical valuation allowances are calculated based on the historical loss experience of specific types of loans. The Company calculates historical loss ratios for pools of similar loans with similar characteristics based on the proportion of actual charge-offs experienced to the total population of loans in the pool over the prior eight to twenty quarters. As of March 31, 2021 and December 31, 2020, management used a 20-quarter period for the historical loss ratio. The historical loss ratios are updated quarterly based on actual charge-off experience. A historical valuation allowance is established for each pool of similar loans based upon the product of the historical loss ratio and the total dollar amount of the loans in the pool.

 

Adjustments to the historical valuation allowances are based on general economic conditions and other qualitative risk factors both internal and external to the Company. In general, such adjustments are determined by evaluating, among other things: (i) the impact of economic conditions on the portfolio; (ii) changes in asset quality, including delinquency trends; (iii) the impact of changing interest rates on portfolio risk; (iv) changes in legislative and regulatory policy; (v) the composition and concentrations of credit; and (vi) the effectiveness of the internal loan review function as well as changes to policies and experience of loan personnel. Management evaluates these qualitative factors on a quarterly basis. Each factor could result in an adjustment that is positive, negative, or no impact.

 

Loan losses are charged to the allowance when management believes that collection is unlikely. Collections of loans previously charged off are added to the allowance at the time of recovery.

 

Loans acquired in connection with business combinations are recorded at fair value with no carryover of any allowance for loan losses. Fair value of the loans involves estimating the amount and timing of principal and interest cash flows expected to be collected on the loans and discounting those cash flows at a market rate of interest.

 

Farmers and Merchants Bancshares, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

(Unaudited)

 

2.	Basis of Presentation (continued)

 

The excess of cash flows expected at acquisition over the estimated fair value is referred to as the accretable discount and is recognized into interest income over the remaining life of the loan. The difference between contractually required payments at acquisition and the cash flows expected to be collected at acquisition is referred to as the nonaccretable discount. These loans are accounted for under Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 310-30, Loans and Debt Securities Acquired with Deteriorated Credit Quality. The nonaccretable discount includes estimated future credit losses expected to be incurred over the life of the loan. Subsequent decreases in expected cash flows will require us to evaluate the need for an addition to the allowance for loan losses. Subsequent improvement in expected cash flows will result in the reversal of a corresponding amount of the nonaccretable discount, which we will then reclassify as accretable discount to be recognized into interest income over the remaining life of the loan.

 

Loans acquired through business combinations that meet the specific criteria of ASC 310-30 are individually evaluated each period to analyze expected cash flows. To the extent that the expected cash flows of a loan have decreased due to credit deterioration, the Company establishes an allowance.

 

Loans acquired through business combinations that do not meet the specific criteria of ASC 310-30 are accounted for under ASC 310-20, Receivables - Nonrefundable Fees and Other Costs. These loans are initially recorded at fair value, and include credit and interest rate marks associated with acquisition accounting adjustments. Purchase premiums or discounts are subsequently amortized as an adjustment to yield over the estimated contractual lives of the loans. There is no allowance for loan losses established at the acquisition date for acquired performing loans. An allowance for loan losses is recorded for any credit deterioration in these loans subsequent to acquisition.

 

Goodwill and other intangible assets

 

Goodwill is calculated as the purchase premium, if any, after adjusting for the fair value of net assets acquired in purchase transactions. Goodwill is not amortized but is reviewed for potential impairment on at least an annual basis, with testing between annual tests if an event occurs or circumstances change that could potentially reduce the fair value of a reporting unit. Other intangible assets represent purchased assets that can be distinguished from goodwill because of contractual or other legal rights. The Company’s other intangible asset, core deposit intangible (“CDI”) has a finite life and is amortized over 10 years on a straight line basis.

 

Recent Accounting Pronouncements

 

In June 2016, the FASB issued Accounting Standards Update (“ASU”) 2016‑13, “Financial Instruments – Credit Losses”. The ASU sets forth a “current expected credit loss” (CECL) model which requires the Company to measure all expected credit losses for financial instruments held at the reporting date based on historical experience, current conditions, and reasonable supportable forecasts. This replaces the existing incurred loss model and is applicable to the measurement of credit losses on financial assets measured at amortized cost and applies to some off-balance sheet credit exposures. ASU 2019-10 “Financial Instruments – Credit Losses (Topic 326), Derivatives and hedging (Topic 815), and Leases (Topic 842): Effective Dates” extended the implementation date to 2023 for SEC registered smaller reporting companies and private companies. The Company is considered a smaller reporting company. The Company has engaged a third-party vendor to assist in the implementation of this ASU.

 

 

Farmers and Merchants Bancshares, Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

(Unaudited)

 

2.    Basis of Presentation (continued)

 

 

In August 2018, the FASB issued ASU 2018-14, “Compensation - Retirement Benefits-Defined Benefit Plans-General (Subtopic 715-20).” ASU 2018-14 amends and modifies the disclosure requirements for employers that sponsor defined benefit pension or other post-retirement plans. The amendments in this update remove disclosures that no longer are considered cost beneficial, clarify the specific requirements of disclosures, and add disclosure requirements identified as relevant. ASU 2018-14 was effective for us on January 1, 2021, and did not have a material impact on the Company’s financial statements.

 

In December 2019, FASB released ASU 2019-12, “Income Taxes (Topic 740)”, which simplifies the accounting for income taxes by removing multiple exceptions to the general principals in Topic 740. ASU 2019-12 is effective for public business entities for fiscal years, and for interim periods within those fiscal years, beginning after December 15, 2020. The standard did not have a significant impact on the Company’s financial statements.

 

In March 2020, FASB issued ASU 2020-04, “Reference Rate Reform (Topic 848)”: Facilitation of the Effects of Reference Rate Reform on Financial Reporting. This ASU Provides optional guidance for a limited period of time to ease the potential burden in accounting for (or recognizing the effect of) reference rate reform, on financial reporting. The risk of termination of the London Interbank Offered Rate (LIBOR), has caused regulators to undertake reference rate reform initiatives to identify alternative reference rates that are more observable or transaction based that are less susceptible to manipulation. ASU 2020-04 is effective between March 12, 2020 and December 31, 2022. The Company has identified its products that utilize LIBOR and has begun efforts to transition to an alternative reference rate. The Company continues to evaluate systems to assist in the transaction to a new rate.

 

 

Farmers and Merchants Bancshares, Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

(Unaudited)

 

3.      Investment Securities

 

Investments in debt securities are summarized as follows:

 

 

 

 

 

Farmers and Merchants Bancshares, Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

(Unaudited)

 

3.	Investment Securities (continued)

 

Contractual maturities, shown below, will differ from actual maturities because borrowers and issuers may have the right to call or prepay obligations with or without call or prepayment penalties.

 

 

Securities with a carrying value of $20,890,319 and $34,958,212 as of March 31, 2021 and December 31, 2020, respectively, were pledged as collateral for government deposits and securities sold under repurchase agreements.

 

During the three months ended March 31, 2021, the Company received proceeds of $513,845 from the call at a premium of an available for sale investment security. The Company realized an $8,569 gain on the call of the security. There were no sales of securities during the three months ended March 31, 2020.

 

 

Farmers and Merchants Bancshares, Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

(Unaudited)

 

3.	Investment Securities (continued)

 

The following table sets forth the Company’s gross unrealized losses on a continuous basis for investments in debt securities, by category and length of time, at March 31, 2021 and December 31, 2020.

 

 

 

 

Management has the ability and intent to hold securities classified as held to maturity until they mature, at which time the Company should receive full value for the securities. As of March 31, 2021 and December 31, 2020, management did not have the intent to sell any of the held to maturity or available for sale securities with unrealized losses before a recovery of cost. The unrealized losses detailed in the table above were due to increases in market interest rates over the yields available at the time the underlying securities were purchased as well as other market conditions for each particular security based upon the structure and remaining principal balance. The fair values of the debt securities are expected to recover as the securities approach their maturity dates or repricing dates or if market yields for such investments decline. Based on the foregoing factors, as of March 31, 2021 and December 31, 2020, management believes that these unrealized losses are temporary and, accordingly, have not been recognized in the Company’s consolidated statement of income.

 

 

Farmers and Merchants Bancshares, Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

(Unaudited)

 

4.

Loans

 

Major categories of loans are as follows:

 

 

Commercial loans in the table above include $33.6 million and $31.1 million of Paycheck Protection Program (“PPP”) loans as of March 31, 2021 and December 31, 2020, respectively, which are 100% guaranteed by the Small Business Administration (“SBA”). $21.0 million were originated during the first quarter of 2021. A substantial portion of the PPP loans in the Company’s portfolio are expected to be forgiven by the SBA. During the three months ended March 31, 2021, the Company collected approximately $877,000 in fees from the SBA in connection with the originations of the PPP loans. The fees, net of related origination costs, are being recognized as interest income over the term of the loans using the straight-line method, with accelerated recognition when the loan pays off before maturity through SBA forgiveness or other means.

 

Nonaccrual loans, segregated by class of loans, were as follows:

 

 

At March 31, 2021, the Company had one nonaccrual commercial real estate loan totaling $4,407,829 and one nonaccrual residential real estate loan totaling $50,470. The loans were secured by real estate, business assets, and personal guarantees. Gross interest income of $61,924 would have been recorded for the three months ended March 31, 2021 if these nonaccrual loans had been current and performing in accordance with the original terms. The Company allocated $0 of its allowance for loan losses to these nonaccrual loans. The recorded investment of the nonaccrual loans was net of charge-offs and a nonaccretable discount totaling $8,176 at March 31, 2021.

 

At December 31, 2020, the Company had one nonaccrual commercial real estate loan totaling $4,407,829 and two nonaccrual residential real estate loans totaling $220,967. The loans were secured by real estate, business assets, and personal guarantees. Gross interest income of $13,395 would have been recorded in 2020 if these nonaccrual loans had been current and performing in accordance with the original terms. The Company allocated $0 of its allowance for loan losses to these nonaccrual loans. The recorded investment of the nonaccrual loans was net of charge-offs and a nonaccretable discount totaling $8,176 at December 31, 2020.

 

 

Farmers and Merchants Bancshares, Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

(Unaudited)

 

4.         Loans (continued)

 

An age analysis of past due loans, segregated by type of loan, is as follows:

 

 

Impaired loans, segregated by class of loans with average recorded investment and interest recognized for the three months ended March 31, 2021 and the year ended December 31, 2020, are set forth in the following table:

 

 

 

Farmers and Merchants Bancshares, Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

(Unaudited)

 

4.         Loans (continued)

 

Impaired loans include troubled debt restructurings (“TDRs”), which are loans that have been modified to provide economic concessions to borrowers who have experienced or are expected to experience financial difficulties. These concessions typically result from the Company’s loss mitigation activities and could include reductions in the interest rate, payment extensions, forgiveness of principal, forbearance, or other actions. Certain TDRs are classified as nonperforming at the time of restructure and may only be returned to performing status after considering the borrower’s sustained repayment performance for a reasonable period, generally six months.

 

At March 31, 2021, the Company had two commercial real estate loans totaling $2,236,410 and one residential real estate loan totaling $43,371 that were classified as TDRs. All are included in impaired loans above. At March 31, 2021, all three loans were paying as agreed. There have been no charge-offs or allowances associated with these three loans.

 

At December 31, 2020, the Company had two commercial real estate loans totaling $2,252,316 and one residential real estate loan totaling $44,733 classified as TDRs. One of the commercial real estate loans with a principal balance of $182,656 was restructured as a TDR during 2020. All three loans are included in impaired loans above. Each loan is paying as agreed. There have been no charge-offs or allowances associated with these three loans.

 

Section 4013 of the U.S. Government’s Coronavirus Aid, Relief, and Economic Security Act allows financial institutions to suspend application of certain current TDRs accounting guidance under ASC 310-40 for loan modifications related to the COVID-19 pandemic made between March 1, 2020 and the earlier of January 1, 2022 or 60 days after the end of the COVID-19 national emergency, provided certain criteria are met. This relief can be applied to loan modifications for borrowers that were not more than 30 days past due as of December 31, 2019 and to loan modifications that defer or delay the payment of principal or interest, or change the interest rate on the loan. In April 2020, federal and state banking regulators issued the Interagency Statement on Loan Modifications and Reporting for Financial Institutions Working with Customers Affected by the Coronavirus to provide further interpretation of when a borrower is experiencing financial difficulty, specifically indicating that if the modification is either short-term (e.g., six months) or mandated by a federal or state government in response to the COVID-19 pandemic, the borrower is not experiencing financial difficulty under ASC 310-40. The Company continues to prudently work with borrowers negatively impacted by the COVID-19 pandemic while managing credit risks and recognizing appropriate allowance for loan losses on its loan portfolio. As of March 31, 2021, $15.9 million, or 3% of the Company’s loan portfolio, were granted three-month deferrals. None of these loans were classified as TDRs as of March 31, 2021 because they met the criteria discussed above.

 

As part of our portfolio risk management, the Company assigns a risk grade to each loan. The factors used to determine the grade are the payment history of the loan and the borrower, the value of the collateral and net worth of the guarantor, and cash flow projections of the borrower. Excellent, Above Average, Average and Acceptable grades are assigned to loans with limited or no delinquent payments and more than sufficient collateral and/or cash flow.

 

 

 

Farmers and Merchants Bancshares, Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

(Unaudited)

 

4.         Loans (continued)

 

A description of the general characteristics of loans characterized as watch list or classified is as follows:

 

Pass/Watch

Loans graded as Pass/Watch are secured by generally acceptable assets which reflect above-average risk. The loans warrant closer scrutiny by management than is routine, due to circumstances affecting the borrower, the borrower’s industry, or the overall economic environment. Borrowers may reflect weaknesses such as inconsistent or weak earnings, break even or moderately deficit cash flow, thin liquidity, minimal capacity to increase leverage, or volatile market fundamentals or other industry risks. Such loans are typically secured by acceptable collateral, at or near appropriate margins, with realizable liquidation values.

 

Special Mention

A special mention loan has potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the asset or in the Company’s credit position at some future date. Special mention loans are not adversely classified and do not expose the Company to sufficient risk to warrant adverse classification.

 

Borrowers may exhibit poor liquidity and leverage positions resulting from generally negative cash flow or negative trends in earnings. Access to alternative financing may be limited to finance companies for business borrowers and may be unavailable for commercial real estate borrowers.

 

Substandard

A substandard loan is inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged, if any. Substandard loans have a well-defined weakness, or weaknesses, that jeopardize the liquidation of the debt. They are characterized by the distinct possibility that the Company will sustain some loss if the deficiencies are not corrected.

 

Borrowers may exhibit recent or unexpected unprofitable operations, an inadequate debt service coverage ratio, or marginal liquidity and capitalization. These loans require more intense supervision by Company management.

 

Doubtful

A doubtful loan has all the weaknesses inherent in a substandard loan with the added characteristic that the weaknesses, based on currently existing facts, conditions, and values, make collection or liquidation in full highly questionable and improbable.

 

 

Farmers and Merchants Bancshares, Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

(Unaudited)

 

4.         Loans (continued)

 

Loans by credit grade, segregated by loan type, are as follows:

 

 

 

 

The principal balance of loans in the Pass/Watch category as of March 31, 2021 and December 31, 2020 include loans that were granted payment deferrals due to COVID -19. The loans were downgraded to the Pass/Watch category if they were in a higher rated category at the time the deferral was granted. Loans that completed their initial 90 day deferral and are making scheduled payments again are being re-evaluated on a loan by loan basis to determine if they warrant upgrading.

 

The Company’s allowance for loan losses is based on management’s evaluation of the risks inherent in the Company’s loan portfolio and the general economy. The allowance for loan losses is maintained at the amount management considers adequate to cover estimated losses in loans receivable that are deemed probable based on information currently known to management. The allowance is based upon a number of factors, including current economic conditions, actual loss experience by pools of similar loans, diversification and size of the portfolio, adequacy of the collateral, the amount of non-performing loans and industry trends. In addition, various regulatory agencies, as an integral part of their examination processes, periodically review the Company’s allowance for loan losses. Such agencies may require the Company to make additional provisions for estimated loan losses based upon judgments different from those of management.

 

 

Farmers and Merchants Bancshares, Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

(Unaudited)

 

4.         Loans (Continued)

 

The following table details activity in the allowance for loan losses by portfolio for the three-month periods ended March 31, 2021 and 2020 and for the year ended December 31, 2020. Allocation of a portion of the allowance to one category of loans does not preclude its availability to absorb losses in other categories.

 

 

 

 

 

 

 

Farmers and Merchants Bancshares, Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

(Unaudited)

 

4.	Loans (Continued)

 

The following table provides activity for the accretable credit discount of purchased loans:

 

 

At March 31, 2021, the nonaccretable discount on purchased impaired loans was $927,000. At March 31, 2021, the remaining yield premium on purchased loans was $1,923,914. At March 31, 2021, the principal balance of purchased loans was $127,932,333 and the carrying value was $126,891,001.