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FIRST CAPITAL INC - Quarter Report: 2017 September (Form 10-Q)

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

 

FORM 10-Q

 

(Mark One)

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

 

For the quarterly period ended September 30, 2017

 

OR

 

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

 

For the transition period from_____________________     to__________________

 

Commission File No. 0-25023

 

First Capital, Inc.

(Exact name of registrant as specified in its charter)

 

Indiana 35-2056949
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
   
220 Federal Drive NW, Corydon, Indiana  47112       1-812-738-2198  
(Address of principal executive offices, zip code, telephone number)
   
Not applicable
(Former name, former address and former fiscal year, if changed since last report)

 

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   X      No ____

 

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

 

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

 

(Check one):    Large Accelerated Filer ___    Accelerated Filer    X      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   X  

 

Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date: 3,336,964 shares of common stock were outstanding as of October 27, 2017.

 

 
 

 

FIRST CAPITAL, INC.

 

 

INDEX

 

Part I Financial Information Page
     
  Item 1.  Consolidated Financial Statements  
        
  Consolidated Balance Sheets as of September 30, 2017 and December 31, 2016 (unaudited) 3
        
  Consolidated Statements of Income for the three months and nine months ended September 30, 2017 and 2016 (unaudited) 4
        
  Consolidated Statements of Comprehensive Income for the three and nine months ended September 30, 2017 and 2016 (unaudited) 5
        
  Consolidated Statements of Changes in Stockholders’ Equity for the nine months ended September 30, 2017 and 2016 (unaudited) 6
        
  Consolidated Statements of Cash Flows for the nine months ended September 30, 2017 and 2016 (unaudited) 7
     
  Notes to Consolidated Financial Statements (unaudited) 8-41
      
  Item 2.  Management’s Discussion and Analysis of Financial Condition and Results of Operations 42-47
      
  Item 3.  Quantitative and Qualitative Disclosures About Market Risk 48-51
     
  Item 4.  Controls and Procedures 51
     
Part II Other Information  
     
  Item 1.  Legal Proceedings 52
     
  Item 1A.  Risk Factors 52
       
  Item 2.  Unregistered Sales of Equity Securities and Use of Proceeds 52
     
  Item 3.  Defaults Upon Senior Securities 53
     
  Item 4.  Mine Safety Disclosures 53
     
  Item 5.  Other Information 53
     
  Item 6.  Exhibits 53
     
     
     
Signatures 54

 

 

-2-
 

 

PART I - FINANCIAL INFORMATION

FIRST CAPITAL, INC.

CONSOLIDATED BALANCE SHEETS

(Unaudited)

 

   September 30,
2017
  December 31,
2016
   (In thousands)
ASSETS          
Cash and due from banks  $13,912   $18,837 
Interest bearing deposits with banks   526    1,865 
Federal funds sold   10,360    25,133 
Total cash and cash equivalents   24,798    45,835 
           
Interest-bearing time deposits   10,295    14,735 
Securities available for sale, at fair value   276,937    255,844 
Securities-held to maturity   1    2 
Loans, net   400,762    381,154 
Loans held for sale   1,000    4,507 
Federal Home Loan Bank and other stock, at cost   1,979    1,650 
Foreclosed real estate   3,882    4,674 
Premises and equipment   15,174    14,841 
Accrued interest receivable   2,595    2,363 
Cash value of life insurance   7,237    7,082 
Goodwill   6,472    6,472 
Core deposit intangible   1,149    1,259 
Other assets   1,954    3,240 
           
Total Assets  $754,235   $743,658 
           
LIABILITIES          
Deposits:          
Noninterest-bearing  $133,047   $121,304 
Interest-bearing   532,465    543,346 
Total deposits   665,512    664,650 
           
Advances from Federal Home Loan Bank   4,000    0 
Accrued interest payable   109    133 
Accrued expenses and other liabilities   3,236    3,033 
Total liabilities   672,857    667,816 
           
EQUITY          
Preferred stock of $.01 par value per share
Authorized 1,000,000 shares; none issued
   0    0 
Common stock of $.01 par value per share
Authorized 5,000,000 shares; issued 3,762,933 shares;
outstanding 3,336,964 shares (3,337,552 in 2016)
   38    38 
Additional paid-in capital   39,515    39,515 
Retained earnings-substantially restricted   50,767    47,051 
Unearned stock compensation   (235)   (300)
Accumulated other comprehensive loss   (500)   (2,277)
Less treasury stock, at cost -425,969 shares (425,381 in 2016)   (8,315)   (8,297)
Total First Capital, Inc. stockholders' equity   81,270    75,730 
           
Noncontrolling interest in subsidiary   108    112 
Total equity   81,378    75,842 
           
Total Liabilities and Equity  $754,235   $743,658 

 

See accompanying notes to consolidated financial statements.      

 

-3-
 

 

PART I - FINANCIAL INFORMATION

FIRST CAPITAL, INC.

CONSOLIDATED STATEMENTS OF INCOME

(Unaudited)

 

   Three Months Ended
September 30,
  Nine Months Ended
September 30,
   2017  2016  2017  2016
INTEREST INCOME  (In thousands, except per share data)
Loans, including fees  $5,283   $4,940   $15,363   $15,106 
Securities:                    
Taxable   969    861    2,875    2,424 
Tax-exempt   368    279    1,059    862 
Federal Home Loan Bank dividends   20    16    53    49 
Federal funds sold and interest bearing deposits with banks   88    119    299    409 
Total interest income   6,728    6,215    19,649    18,850 
INTEREST EXPENSE                    
Deposits   336    414    1,041    1,370 
Advances from Federal Home Loan Bank   7    0    7    0 
Total interest expense   343    414    1,048    1,370 
Net interest income   6,385    5,801    18,601    17,480 
Provision for loan losses   150    200    617    425 
Net interest income after provision for loan losses   6,235    5,601    17,984    17,055 
NONINTEREST INCOME                    
Service charges on deposit accounts   1,155    1,046    3,288    2,968 
Commission income   106    112    351    306 
Gain (loss) on sale of securities   (7)   0    54    176 
Gain on sale of loans   417    371    1,028    889 
Increase in cash surrender value of life insurance   41    40    154    143 
Other income   36    181    182    251 
Total noninterest income   1,748    1,750    5,057    4,733 
NONINTEREST EXPENSE                    
Compensation and benefits   2,842    2,681    8,276    8,018 
Occupancy and equipment   389    447    1,158    1,222 
Data processing   696    650    2,022    1,784 
Professional fees   190    189    522    626 
Advertising   94    74    269    249 
Net (gain) loss on foreclosed real estate   (66)   (57)   145    85 
Other operating expenses   901    940    2,612    2,774 
Total noninterest expense   5,046    4,924    15,004    14,758 
Income before income taxes   2,937    2,427    8,037    7,030 
Income tax expense   825    666    2,175    1,897 
Net Income   2,112    1,761    5,862    5,133 
Less: net income attributable to noncontrolling interest in subsidiary   3    3    10    10 
Net Income Attributable to First Capital, Inc.  $2,109   $1,758   $5,852   $5,123 
                     
Earnings per common share attributable to First Capital, Inc.                    
Basic  $0.63   $0.53   $1.76   $1.53 
Diluted  $0.63   $0.53   $1.76   $1.53 
                     
Dividends per share  $0.22   $0.21   $0.64   $0.63 

 

See accompanying notes to consolidated financial statements.            

 

-4-
 

 

PART I - FINANCIAL INFORMATION

FIRST CAPITAL, INC.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(Unaudited)

               

   Three Months Ended
September 30,
  Nine Months Ended
September 30,
   2017  2016  2017  2016
   (In thousands)
             
Net Income  $2,112   $1,761   $5,862   $5,133 
                     
OTHER COMPREHENSIVE INCOME (LOSS)                    
Unrealized gains on securities available for sale:                    
Unrealized holding gains (losses) arising during the period   (419)   (637)   2,937    2,082 
Income tax (expense) benefit   161    248    (1,124)   (811)
Net of tax amount   (258)   (389)   1,813    1,271 
                     
Less:  reclassification adjustment for realized (gains) losses included in net income   7    0    (54)   (176)
Income tax expense (benefit)   (3)   0    18    60 
Net of tax amount   4    0    (36)   (116)
                     
Other Comprehensive Income (Loss), net of tax   (254)   (389)   1,777    1,155 
                     
Comprehensive Income   1,858    1,372    7,639    6,288 
Less: comprehensive income attributable to the noncontrolling interest in subsidiary   3    3    10    10 
                     
Comprehensive Income Attributable to First Capital, Inc.  $1,855   $1,369   $7,629   $6,278 

 

 

See accompanying notes to consolidated financial statements.

 

-5-
 

 

PART I - FINANCIAL INFORMATION

FIRST CAPITAL, INC.

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY

(Unaudited)

                           

(In thousands, except share and per share data)  Common
Stock
  Additional
Paid-in
Capital
  Retained
Earnings
  Accumulated
Other
Comprehensive
Income (Loss)
  Unearned
Stock
Compensation
  Treasury
Stock
  Noncontrolling
Interest
  Total
                         
Balances at January 1, 2016  $38   $39,515   $42,991   $497   $(382)  $(8,263)  $112   $74,508 
                                         
Net income   0    0    5,123    0    0    0    10    5,133 
                                         
Other comprehensive income   0    0    0    1,155    0    0    0    1,155 
                                         
Cash dividends   0    0    (2,102)   0    0    0    (14)   (2,116)
                                         
Stock compensation expense   0    0    0    0    60    0    0    60 
                                         
Purchase of treasury shares   0    0    0    0    0    (34)   0    (34)
                                         
Balances at September 30, 2016  $38   $39,515   $46,012   $1,652   $(322)  $(8,297)  $108   $78,706 
                                         
                                         
Balances at January 1, 2017  $38   $39,515   $47,051   $(2,277)  $(300)  $(8,297)  $112   $75,842 
                                         
Net income   0    0    5,852    0    0    0    10    5,862 
                                         
Other comprehensive income   0    0    0    1,777    0    0    0    1,777 
                                         
Cash dividends   0    0    (2,136)   0    0    0    (14)   (2,150)
                                         
Stock compensation expense   0    0    0    0    65    0    0    65 
                                         
Purchase of treasury shares   0    0    0    0    0    (18)   0    (18)
                                         
Balances at September 30, 2017  $38   $39,515   $50,767   $(500)  $(235)  $(8,315)  $108   $81,378 

 

See accompanying notes to consolidated financial statements.              

 

-6-
 

 

PART I - FINANCIAL INFORMATION

FIRST CAPITAL, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

 

   Nine Months Ended 
September 30,
   2017  2016
CASH FLOWS FROM OPERATING ACTIVITIES  (In thousands)
Net income  $5,862   $5,133 
Adjustments to reconcile net income to net cash and cash equivalents provided by operating activities:          
Amortization of premiums and accretion of discounts on securities, net   1,296    839 
Depreciation and amortization expense   915    876 
Deferred income taxes   64    400 
Stock compensation expense   65    60 
Increase in cash value of life insurance   (154)   (143)
Gain on life insurance   (18)   0 
Gain on sale of securities   (54)   (176)
Provision for loan losses   617    425 
Proceeds from sales of loans   47,991    38,608 
Loans originated for sale   (43,456)   (37,191)
Gain on sale of loans   (1,028)   (889)
Net realized and unrealized loss on foreclosed real estate   225    82 
Increase in accrued interest receivable   (232)   (117)
Decrease in accrued interest payable   (24)   (30)
Net change in other assets/liabilities   (379)   552 
Net Cash Provided By Operating Activities   11,690    8,429 
           
CASH FLOWS FROM INVESTING ACTIVITIES          
Investment in interest-bearing time deposits   (2,235)   (1,975)
Proceeds from maturities and sales of interest-bearing time deposits   6,675    3,090 
Purchase of securities available for sale   (43,925)   (159,338)
Proceeds from maturities of securities available for sale   3,405    82,271 
Proceeds from sales of securities available for sale   1,644    4,583 
Principal collected on mortgage-backed obligations   19,336    13,183 
Net increase in loans receivable   (20,630)   (7,939)
Proceeds from sale of foreclosed real estate   972    867 
Purchase of Federal Home Loan Bank Stock   (329)   0 
Purchase of premises and equipment   (1,138)   (1,384)
Proceeds from settlement of bank-owned life insurance policies   804    0 
Net Cash Used In Investing Activities   (35,421)   (66,642)
           
CASH FLOWS FROM FINANCING ACTIVITIES          
Net increase in deposits   862    21,570 
Net increase in advances from Federal Home Loan Bank   4,000    0 
Purchase of treasury stock   (18)   (34)
Dividends paid   (2,150)   (2,116)
Net Cash Provided By Financing Activities   2,694    19,420 
           
Net Decrease in Cash and Cash Equivalents   (21,037)   (38,793)
Cash and cash equivalents at beginning of period   45,835    109,174 
Cash and Cash Equivalents at End of Period  $24,798   $70,381 

 

See accompanying notes to consolidated financial statements.    

 

-7-
 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

1.Presentation of Interim Information

 

First Capital, Inc. (“Company”) is the savings and loan holding company for First Harrison Bank (“Bank”), a federal savings bank and wholly-owned subsidiary. First Harrison Investments, Inc. and First Harrison Holdings, Inc. are wholly-owned Nevada corporate subsidiaries of the Bank that jointly own First Harrison, LLC, a Nevada limited liability corporation that holds and manages an investment portfolio. First Harrison REIT, Inc. (“REIT”) is a wholly-owned subsidiary of First Harrison Holdings, Inc. that holds a portion of the Bank’s real estate mortgage loan portfolio. FHB Risk Mitigation Services, Inc. (“Captive”) is a wholly-owned insurance subsidiary of the Company that provides property and casualty insurance coverage to the Company, the Bank and the Bank’s subsidiaries, and reinsurance to ten other third party insurance captives for which insurance may not be currently available or economically feasible in the insurance marketplace. Heritage Hill, LLC is a wholly-owned subsidiary of the Bank that holds and manages certain foreclosed real estate properties.

 

In the opinion of management, the unaudited consolidated financial statements include all adjustments considered necessary to present fairly the financial position as of September 30, 2017, and the results of operations for the three months and nine months ended September 30, 2017 and 2016 and the cash flows for the nine months ended September 30, 2017 and 2016. All of these adjustments are of a normal, recurring nature. Such adjustments are the only adjustments included in the unaudited consolidated financial statements. Interim results are not necessarily indicative of results for a full year or any other period.

 

The accompanying unaudited consolidated financial statements and notes have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) for interim financial statements and are presented as permitted by the instructions to Form 10-Q. Accordingly, they do not contain certain information included in the Company’s annual audited consolidated financial statements and related footnotes for the year ended December 31, 2016 included in the Company’s Annual Report on Form 10-K.

 

The unaudited consolidated financial statements include the accounts of the Company and its subsidiaries. All material intercompany balances and transactions have been eliminated in consolidation. Certain prior period amounts have been reclassified to conform with the current period presentation. The reclassifications had no effect on net income or stockholders’ equity.

 

-8-
 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

2.Investment Securities

 

Debt and equity securities have been classified in the consolidated balance sheets according to management’s intent. Investment securities at September 30, 2017 and December 31, 2016 are summarized as follows:

 

(In thousands)  Amortized
Cost
  Gross
Unrealized
Gains
  Gross
Unrealized
Losses
  Fair
Value
             
September 30, 2017                    
Securities available for sale:                    
Agency mortgage-backed securities  $119,472   $30   $1,353   $118,149 
Agency CMO   15,390    4    200    15,194 
Other debt securities:                    
Agency notes and bonds   70,934    1    498    70,437 
Municipal obligations   71,748    1,529    331    72,946 
Subtotal - debt securities   277,544    1,564    2,382    276,726 
                     
Mutual funds   211    0    0    211 
                     
Total securities available for sale  $277,755   $1,564   $2,382   $276,937 
                     
Securities held to maturity:                    
Agency mortgage-backed securities  $1   $0   $0   $1 
                     
Total securities held to maturity  $1   $0   $0   $1 
                     
December 31, 2016                    
Securities available for sale:                    
Agency mortgage-backed securities  $110,493   $93   $2,349   $108,237 
Agency CMO   16,293    23    288    16,028 
Other debt securities:                    
Agency notes and bonds   69,407    14    759    68,662 
Municipal obligations   63,189    783    1,129    62,843 
Subtotal - debt securities   259,382    913    4,525    255,770 
                     
Mutual funds   74    0    0    74 
                     
Total securities available for sale  $259,456   $913   $4,525   $255,844 
                     
Securities held to maturity:                    
Agency mortgage-backed securities  $2   $0   $0   $2 
                     
Total securities held to maturity  $2   $0   $0   $2 

 

-9-
 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

(2 – continued)

 

Agency notes and bonds, agency mortgage-backed securities and agency collateralized mortgage obligations (“CMO”) include securities issued by the Government National Mortgage Association (“GNMA”), a U.S. government agency, and the Federal National Mortgage Association (“FNMA”), the Federal Home Loan Mortgage Corporation (“FHLMC”) and the Federal Home Loan Bank (“FHLB”), which are government-sponsored enterprises.

 

The amortized cost and fair value of debt securities as of September 30, 2017, by contractual maturity, are shown below. Expected maturities of mortgage-backed securities and CMO may differ from contractual maturities because the mortgages underlying the obligations may be prepaid without penalty.

 

   Securities Available for Sale  Securities Held to Maturity
   Amortized
Cost
  Fair
Value
  Amortized
Cost
  Fair
Value
(In thousands)            
             
Due in one year or less  $4,145   $4,148   $0   $0 
Due after one year through five years   77,109    76,737    0    0 
Due after five years through ten years   27,808    27,991           
Due after ten years   33,620    34,507    0    0 
    142,682    143,383    0    0 
Mortgage-backed securities and CMO   134,862    133,343    1    1 
                     
   $277,544   $276,726   $1   $1 

 

Information pertaining to investment securities available for sale with gross unrealized losses at September 30, 2017, aggregated by investment category and the length of time that individual investment securities have been in a continuous position, follows. At September 30, 2017, the Company did not have any securities held to maturity with an unrealized loss.

 

   Number of
Investment
Positions
  Fair
Value
  Gross
Unrealized
Losses
(Dollars in thousands)         
          
Continuous loss position less than twelve months:               
Agency mortgage-backed securities   58   $69,281   $603 
Agency CMO   8    6,137    54 
Agency notes and bonds   10    22,547    90 
Muncipal obligations   16    8,991    88 
                
Total less than twelve months   92    106,956    835 
                
Continuous loss position more than twelve months:               
Agency mortgage-backed securities   23    37,452    750 
Agency CMO   11    7,870    146 
Agency notes and bonds   12    46,092    408 
Muncipal obligations   21    10,726    243 
                
Total more than twelve months   67    102,140    1,547 
                
Total securities available for sale   159   $209,096   $2,382 

 

-10-
 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

(2 – continued)

 

Information pertaining to investment securities available for sale with gross unrealized losses at December 31, 2016, aggregated by investment category and the length of time that individual investment securities have been in a continuous position, follows. At December 31, 2016, the Company did not have any securities held to maturity with an unrealized loss.

 

   Number of
Investment
Positions
  Fair
Value
  Gross
Unrealized
Losses
(Dollars in thousands)         
          
Continuous loss position less than twelve months:               
Agency mortgage-backed securities   78   $101,838   $2,336 
Agency CMO   13    11,767    239 
Agency notes and bonds   20    59,126    759 
Muncipal obligations   54    28,414    1,129 
                
Total less than twelve months   165    201,145    4,463 
                
Continuous loss position more than twelve months:               
Agency mortgage-backed securities   1    531    13 
Agency CMO   5    2,502    49 
                
Total more than twelve months   6    3,033    62 
                
Total securities available for sale   171   $204,178   $4,525 

 

Management evaluates securities for other-than-temporary impairment at least quarterly, and more frequently when economic or market concerns warrant such evaluation. Consideration is given to (1) the length of time and the extent to which the fair value has been less than cost, (2) the financial condition and near-term prospects of the issuer, and (3) the intent and ability of the Company to retain its investment in the issuer for a period of time sufficient to allow for any anticipated recover in fair value.

 

At September 30, 2017, the U.S. government agency debt securities, including agency notes and bonds, mortgage-backed securities and CMO, and municipal obligations in a loss position had depreciated approximately 1.1% from the amortized cost basis. All of the U.S. government agency securities and municipal obligations are issued by U.S. government agencies, government-sponsored enterprises and municipal governments, or are secured by first mortgage loans and municipal project revenues. These unrealized losses related principally to current interest rates for similar types of securities. In analyzing an issuer’s financial condition, management considers whether the securities are issued by the federal government, its agencies or other governments, whether downgrades by bond rating agencies have occurred, and the results of reviews of the issuer’s financial condition. As the Company has the ability to hold the debt securities until maturity, or the foreseeable future if classified as available for sale, no declines are deemed to be other-than-temporary.

 

While management does not anticipate any credit-related impairment losses at September 30, 2017, additional deterioration in market and economic conditions may have an adverse impact on credit quality in the future.

 

-11-
 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

(2 – continued)

 

During the three months ended September 30, 2017, the Company realized gross losses on sales of available for sale municipal securities of $7,000. During the nine months ended September 30, 2017, the Company realized gross gains on sales of available for sale agency mortgage backed securities and CMO’s of $58,000 and $3,000, respectively, and gross losses on  sales of available for sale municipal securities of $7,000. During the nine months ended September 30, 2016, the Company realized gross gains on sales of available for sale municipal securities of $176,000. During the three months ended September 30, 2016, the Company did not have any security sales.

 

Certain available for sale debt securities were pledged to secure public fund deposits at September 30, 2017 and December 31, 2016.

 

3.Loans and Allowance for Loan Losses

 

The Company’s loan and allowance for loan loss policies are as follows:

 

Loans are stated at unpaid principal balances, less net deferred loan fees and the allowance for loan losses. The Company originates real estate mortgage, commercial business and consumer loans. A substantial portion of the loan portfolio is represented by mortgage loans to customers in the Louisville, Kentucky metropolitan statistical area (MSA). The ability of the Company’s customers to honor their loan agreements is largely dependent upon the real estate and general economic conditions in this area.

 

Loan origination and commitment fees, as well as certain direct costs of underwriting and closing loans, are deferred and amortized as a yield adjustment to interest income over the lives of the related loans using the interest method. Amortization of net deferred loan fees is discontinued when a loan is placed on nonaccrual status.

 

The recognition of income on a loan is discontinued and previously accrued interest is reversed, when interest or principal payments become ninety (90) days past due unless, in the opinion of management, the outstanding interest remains collectible. Past due status is determined based on contractual terms. Generally, by applying the cash receipts method, interest income is subsequently recognized only as received until the loan is returned to accrual status. The cash receipts method is used when the likelihood of further loss on the loan is remote. Otherwise, the Company applies the cost recovery method and applies all payments as a reduction of the unpaid principal balance until the loan qualifies for return to accrual status. Interest income on impaired loans is recognized using the cost recovery method, unless the likelihood of further loss on the loan is remote.

 

A loan is restored to accrual status when all principal and interest payments are brought current and the borrower has demonstrated the ability to make future payments of principal and interest as scheduled, which generally requires that the borrower demonstrate a period of performance of at least six consecutive months.

 

-12-
 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

(3 – continued)

 

For portfolio segments other than consumer loans, the Company’s practice is to charge-off any loan or portion of a loan when the loan is determined by management to be uncollectible due to the borrower’s failure to meet repayment terms, the borrower’s deteriorating or deteriorated financial condition, the depreciation of the underlying collateral, the loan’s classification as a loss by regulatory examiners, or for other reasons. A partial charge-off is recorded on a loan when the uncollectibility of a portion of the loan has been confirmed, such as when a loan is discharged in bankruptcy, the collateral is liquidated, a loan is restructured at a reduced principal balance, or other identifiable events that lead management to determine the full principal balance of the loan will not be repaid. A specific reserve is recognized as a component of the allowance for estimated losses on loans individually evaluated for impairment. Partial charge-offs on nonperforming and impaired loans are included in the Company’s historical loss experience used to estimate the general component of the allowance for loan losses as discussed below. Specific reserves are not considered charge-offs in management’s analysis of the allowance for loan losses because they are estimates and the outcome of the loan relationship is undetermined. At September 30, 2017, the Company had six loans on which partial charge-offs of $173,000 had been recorded.

 

Consumer loans not secured by real estate are typically charged off at 90 days past due, or earlier if deemed uncollectible, unless the loans are in the process of collection. Overdrafts are charged off after 45 days past due. Charge-offs are typically recorded on loans secured by real estate when the property is foreclosed upon.

 

The allowance for loan losses reflects management’s judgment of probable loan losses inherent in the loan portfolio at the balance sheet date. Additions to the allowance for loan losses are made by the provision for loan losses charged to earnings. Loan losses are charged against the allowance when management believes the uncollectibility of a loan balance is confirmed. Subsequent recoveries, if any, are credited to the allowance.

 

The Company uses a disciplined process and methodology to evaluate the allowance for loan losses on at least a quarterly basis that is based upon management’s periodic review of the collectibility of the loans in light of historical experience, the nature and volume of the loan portfolio, adverse situations that may affect the borrower’s ability to repay, estimated value of any underlying collateral, and prevailing economic conditions. This evaluation is inherently subjective as it requires estimates that are susceptible to significant revision as more information becomes available.

 

The allowance consists of specific and general components. The specific component relates to loans that are individually evaluated for impairment or loans otherwise classified as doubtful, substandard, or special mention. For such loans that are also classified as impaired, an allowance is established when the discounted cash flows (or collateral value or observable market price) of the impaired loan is lower than the carrying value of that loan.

 

-13-
 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

(3 – continued)

 

The general component covers non-classified loans and classified loans that are found, upon individual evaluation, to not be impaired. Such loans are pooled by segment and losses are modeled using annualized historical loss experience adjusted for qualitative factors. The historical loss experience is determined by portfolio segment and is based on the actual loss history experienced by the Company over the most recent twelve calendar quarters unless the historical loss experience is not considered indicative of the level of risk in the remaining balance of a particular portfolio segment, in which case an adjustment is determined by management. The Company’s historical loss experience is then adjusted by an overall loss factor weighting adjustment based on a qualitative analysis prepared by management and reviewed on a quarterly basis. The overall loss factor considers changes in underwriting standards, economic conditions, changes and trends in past due and classified loans and other internal and external factors.

 

Management also applies additional loss factor multiples to loans classified as watch, special mention and substandard that are not individually evaluated for impairment. The loss factor multiples for classified loans are based on management’s assessment of historical trends regarding losses experienced on classified loans in prior periods. See below for additional discussion of the overall loss factor and loss factor multiples for classified loans as of September 30, 2017 and December 31, 2016.

 

Management exercises significant judgment in evaluating the relevant historical loss experience and the qualitative factors. Management also monitors the differences between estimated and actual incurred loan losses for loans considered impaired in order to evaluate the effectiveness of the estimation process and make any changes in the methodology as necessary.

 

Management utilizes the following portfolio segments in its analysis of the allowance for loan losses: residential real estate, land, construction, commercial real estate, commercial business, home equity and second mortgage, and other consumer loans. Additional discussion of the portfolio segments and the risks associated with each segment can be found in the Company’s Annual Report on Form 10-K for the year ended December 31, 2016.

 

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

 

-14-
 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

(3 – continued)

 

Values for collateral dependent loans are generally based on appraisals obtained from independent licensed real estate appraisers, with adjustments applied for estimated costs to sell the property, costs to complete unfinished or repair damaged property and other factors. New appraisals are generally obtained for all significant properties when a loan is identified as impaired, and a property is considered significant if the value of the property is estimated to exceed $200,000. Subsequent appraisals are obtained as needed or if management believes there has been a significant change in the market value of the property. In instances where it is not deemed necessary to obtain a new appraisal, management bases its impairment and allowance for loan loss analysis on the original appraisal with adjustments for current conditions based on management’s assessment of market factors and management’s inspection of the property.

 

At September 30, 2017 and December 31, 2016, the recorded investments in loans secured by residential real estate properties for which formal foreclosure proceedings are in process was $1.5 million and $793,000, respectively.

 

Loans at September 30, 2017 and December 31, 2016 consisted of the following:

 

(In thousands)  September 30,
2017
  December 31,
2016
       
Real estate mortgage loans:          
Residential  $136,273   $137,842 
Land   17,638    13,895 
Residential construction   33,263    29,561 
Commercial real estate   95,339    96,462 
Commercial real estate contruction   7,044    8,921 
Commercial business loans   28,525    24,056 
Consumer loans:          
Home equity and second mortgage loans   48,951    42,908 
Automobile loans   38,033    34,279 
Loans secured by savings accounts   1,916    1,879 
Unsecured loans   3,747    3,912 
Other consumer loans   9,880    9,025 
Gross loans   420,609    402,740 
Less undisbursed portion of loans in process   (17,333)   (19,037)
           
Principal loan balance   403,276    383,703 
           
Deferred loan origination fees, net   1,023    837 
Allowance for loan losses   (3,537)   (3,386)
           
Loans, net  $400,762   $381,154 

 

-15-
 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

(3 – continued)

 

The following table provides the components of the Company’s recorded investment in loans at September 30, 2017:

 

   Residential
Real Estate
  Land  Construction  Commercial
Real Estate
  Commercial
Business
  Home Equity &
2nd Mtg
  Other
Consumer
  Total
   (In thousands)
Recorded Investment in Loans:                                  
Principal loan balance  $136,273   $17,638   $22,974   $95,339   $28,525   $48,951   $53,576   $403,276 
                                         
Accrued interest receivable   454    83    48    206    70    174    227    1,262 
                                         
Net deferred loan origination fees and costs   86    16    (3)   (33)   3    954    0    1,023 
                                         
Recorded investment in loans  $136,813   $17,737   $23,019   $95,512   $28,598   $50,079   $53,803   $405,561 
                                         
                                         
Recorded Investment in Loans as Evaluated for Impairment:                           
Individually evaluated for impairment  $2,950   $0   $0   $297   $55   $256   $0   $3,558 
Collectively evaluated for impairment   133,480    17,737    23,019    95,162    28,543    49,823    53,803    401,567 
Acquired with deteriorated credit quality   383    0    0    53    0    0    0    436 
                                         
Ending balance  $136,813   $17,737   $23,019   $95,512   $28,598   $50,079   $53,803   $405,561 

 

-16-
 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

(3 – continued)

 

 

The following table provides the components of the Company’s recorded investment in loans at December 31, 2016:

 

   Residential
Real Estate
  Land  Construction  Commercial
Real Estate
  Commercial
Business
  Home Equity &
2nd Mtg
  Other
Consumer
  Total
   (In thousands)
Recorded Investment in Loans:                                  
Principal loan balance  $137,842   $13,895   $19,445   $96,462   $24,056   $42,908   $49,095   $383,703 
                                         
Accrued interest receivable   455    42    44    249    67    141    226    1,224 
                                         
Net deferred loan origination fees and costs   80    14    0    (42)   3    782    0    837 
                                         
Recorded investment in loans  $138,377   $13,951   $19,489   $96,669   $24,126   $43,831   $49,321   $385,764 
                                         
                                         
Recorded Investment in Loans as Evaluated for Impairment:                           
Individually evaluated for impairment  $2,083   $0   $0   $1,217   $143   $244   $20   $3,707 
Collectively evaluated for impairment   135,904    13,951    19,489    95,212    23,983    43,587    49,301    381,427 
Acquired with deteriorated credit quality   390    0    0    240    0    0    0    630 
                                         
Ending balance  $138,377   $13,951   $19,489   $96,669   $24,126   $43,831   $49,321   $385,764 

 

-17-
 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

(3 – continued)

 

An analysis of the allowance for loan losses as of September 30, 2017 is as follows:

 

   Residential
Real Estate
  Land  Construction  Commercial
Real Estate
  Commercial
Business
  Home Equity &
2nd Mtg
  Other
Consumer
  Total
   (In thousands)
Ending allowance balance attributable to loans:                           
                                         
Individually evaluated for impairment  $24   $0   $0   $0   $0   $13   $0   $37 
Collectively evaluated for impairment   176    126    261    1,591    235    727    380    3,496 
Acquired with deteriorated credit quality   4    0    0    0    0    0    0    4 
                                         
Ending balance  $204   $126   $261   $1,591   $235   $740   $380   $3,537 

 

An analysis of the allowance for loan losses as of December 31, 2016 is as follows:

 

   Residential
Real Estate
  Land  Construction  Commercial
Real Estate
  Commercial
Business
  Home Equity &
2nd Mtg
  Other
Consumer
  Total
   (In thousands)
Ending allowance balance attributable to loans:                           
                                         
Individually evaluated for impairment  $23   $0   $0   $0   $43   $13   $6   $85 
Collectively evaluated for impairment   357    56    80    1,670    155    670    313    3,301 
Acquired with deteriorated credit quality   0    0    0    0    0    0    0    0 
                                         
Ending balance  $380   $56   $80   $1,670   $198   $683   $319   $3,386 

 

 

-18-
 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

(3 – continued)

 

An analysis of the changes in the allowance for loan losses for the three months and nine months ended September 30, 2017 is as follows:

 

   Residential
Real Estate
  Land  Construction  Commercial
Real Estate
  Commercial
Business
  Home Equity &
2nd Mtg
  Other
Consumer
  Total
   (In thousands)
Allowance for loan losses:                                        
Changes in Allowance for Loan Losses for the three-months ended September 30, 2017                     
Beginning balance  $212   $124   $306   $1,583   $290   $680   $331   $3,526 
Provisions for loan losses   (9)   2    (45)   (15)   (8)   58    167    150 
Charge-offs   (2)   0    0    0    (47)   0    (157)   (206)
Recoveries   3    0    0    23    0    2    39    67 
                                         
Ending balance  $204   $126   $261   $1,591   $235   $740   $380   $3,537 
                                         
                                         
Changes in Allowance for Loan Losses for the nine-months ended September 30, 2017                     
Beginning balance  $380   $56   $80   $1,670   $198   $683   $319   $3,386 
Provisions for loan losses   (155)   70    181    (147)   123    59    486    617 
Charge-offs   (48)   0    0    (3)   (90)   (6)   (547)   (694)
Recoveries   27    0    0    71    4    4    122    228 
                                         
Ending balance  $204   $126   $261   $1,591   $235   $740   $380   $3,537 

 

 

-19-
 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

(3 – continued)

 

An analysis of the changes in the allowance for loan losses for the three months and nine months ended September 30, 2016 is as follows:

 

   Residential
Real Estate
  Land  Construction  Commercial
Real Estate
  Commercial
Business
  Home Equity &
2nd Mtg
  Other
Consumer
  Total
   (In thousands)
Allowance for loan losses:                                        
Changes in Allowance for Loan Losses for the three-months ended September 30, 2016                     
Beginning balance  $408   $47   $42   $1,473   $162   $791   $266   $3,189 
Provisions for loan losses   (29)   2    21    100    (21)   31    96    200 
Charge-offs   (14)   0    0    0    0    0    (106)   (120)
Recoveries   17    0    0    3    0    4    27    51 
                                         
Ending balance  $382   $49   $63   $1,576   $141   $826   $283   $3,320 
                                         
                                         
Changes in Allowance for Loan Losses for the nine-months ended September 30, 2016                     
Beginning balance  $527   $157   $47   $1,541   $261   $626   $256   $3,415 
Provisions for loan losses   (70)   (99)   16    96    (9)   223    268    425 
Charge-offs   (108)   (9)   0    (82)   (114)   (36)   (325)   (674)
Recoveries   33    0    0    21    3    13    84    154 
                                         
Ending balance  $382   $49   $63   $1,576   $141   $826   $283   $3,320 

 

 

-20-
 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

(3 – continued)

 

At September 30, 2017 and December 31, 2016, management applied specific qualitative factor adjustments to various portfolio segments as they determined that the historical loss experience was not indicative of the level of risk in the remaining balance of those portfolio segments. These adjustments increased the loss factors by 0.33% to 20% for certain loan groups, and increased the estimated allowance for loan losses related to those portfolio segments by approximately $2.3 million and $1.8 million at September 30, 2017 and December 31, 2016, respectively. These changes were made to reflect management’s estimates of inherent losses in these portfolio segments at September 30, 2017 and December 31, 2016.

 

At September 30, 2017 and December 31, 2016, for each loan portfolio segment, management applied an overall qualitative factor of 1.18 to the Company’s historical loss factors. The overall qualitative factor is derived from management’s analysis of changes and trends in the following qualitative factors: underwriting standards, economic conditions, past due loans and other internal and external factors. Each of the four factors above was assigned an equal weight to arrive at an average for the overall qualitative factor of 1.18 at September 30, 2017 and December 31, 2016. The effect of the overall qualitative factor was to increase the estimated allowance for loan losses by $544,000 and $501,000 at September 30, 2017 and December 31, 2016, respectively. Additional discussion of the overall qualitative factor can be found in the Company’s Annual Report on Form 10-K for the year ended December 31, 2016. There were no changes in management’s assessment of the overall qualitative factor components from December 31, 2016 to September 30, 2017.

 

Management also adjusts the historical loss factors for loans classified as watch, special mention and substandard that are not individually evaluated for impairment. The adjustments consider the increased likelihood of loss on classified loans based on the Company’s separate historical experience for classified loans. The effect of the adjustments for classified loans was to increase the estimated allowance for loan losses by $590,000 and $559,000 at September 30, 2017 and December 31, 2016, respectively. During the period from December 31, 2016 to September 30, 2017, management adjusted these factors due to changes in the historical experience for classified loans.

 

 

-21-
 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

(3 – continued)

 

The following table summarizes the Company’s impaired loans as of September 30, 2017 and for the three months and nine months ended September 30, 2017. The Company did not recognize any interest income on impaired loans using the cash receipts method of accounting for the three or nine month periods ended September 30, 2017:

 

            Three Months Ended  Nine Months Ended
   At September 30, 2017  September 30, 2017  September 30, 2017
      Unpaid     Average  Interest  Average  Interest
   Recorded  Principal  Related  Recorded  Income  Recorded  Income
   Investment  Balance  Allowance  Investment  Recognized  Investment  Recognized
   (In thousands)
Loans with no related allowance recorded:                               
Residential  $2,846   $3,060   $0   $2,736   $7   $2,373   $20 
Land   0    0    0    0    0    0    0 
Construction   0    0    0    0    0    0    0 
Commercial real estate   297    438    0    366    5    758    13 
Commercial business   55    64    0    63    0    69    0 
Home equity/2nd mortgage   225    232    0    226    0    228    1 
Other consumer   0    0    0    6    0    6    0 
                                    
    3,423    3,794    0    3,397    12    3,434    34 
                                    
Loans with an allowance recorded:                               
Residential   104    111    24    95    0    122    0 
Land   0    0    0    0    0    0    0 
Construction   0    0    0    0    0    0    0 
Commercial real estate   0    0    0    0    0    0    0 
Commercial business   0    0    0    25    0    42    0 
Home equity/2nd mortgage   31    32    13    32    0    22    0 
Other consumer   0    0    0    17    0    17    0 
                                    
    135    143    37    169    0    203    0 
                                    
Total:                                   
Residential   2,950    3,171    24    2,831    7    2,495    20 
Land   0    0    0    0    0    0    0 
Construction   0    0    0    0    0    0    0 
Commercial real estate   297    438    0    366    5    758    13 
Commercial business   55    64    0    88    0    111    0 
Home equity/2nd mortgage   256    264    13    258    0    250    1 
Other consumer   0    0    0    23    0    23    0 
                                    
   $3,558   $3,937   $37   $3,566   $12   $3,637   $34 

 

 

-22-
 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

(3 – continued)

 

The following table summarizes the Company’s impaired loans for the three months and nine months ended September 30, 2016. The Company did not recognize any interest income on impaired loans using the cash receipts method of accounting for the three or nine month periods ended September 30, 2016:

 

   Three Months Ended  Nine Months Ended
   September 30, 2016  September 30, 2016
   Average  Interest  Average  Interest
   Recorded  Income  Recorded  Income
   Investment  Recognized  Investment  Recognized
    
Loans with no related allowance recorded:                    
Residential  $1,903   $6   $1,912   $20 
Land   0    0    6    0 
Construction   0    3    0    3 
Commercial real estate   3,396    18    3,394    55 
Commercial business   62    0    64    0 
Home equity/2nd mortgage   52    0    53    1 
Other consumer   7    0    5    0 
                     
    5,420    27    5,434    79 
                     
Loans with an allowance recorded:                    
Residential   157    0    132    0 
Land   0    0    0    0 
Construction   0    0    0    0 
Commercial real estate   87    0    124    0 
Commercial business   33    0    50    0 
Home equity/2nd mortgage   13    0    30    0 
Other consumer   29    0    22    0 
                     
    319    0    358    0 
                     
Total:                    
Residential   2,060    6    2,044    20 
Land   0    0    6    0 
Construction   0    3    0    3 
Commercial real estate   3,483    18    3,518    55 
Commercial business   95    0    114    0 
Home equity/2nd mortgage   65    0    83    1 
Other consumer   36    0    27    0 
                     
   $5,739   $27   $5,792   $79 

 

 

-23-
 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

(3 – continued)

 

The following table summarizes the Company’s impaired loans as of December 31, 2016:

 

      Unpaid   
   Recorded  Principal  Related
   Investment  Balance  Allowance
   (In thousands)
Loans with no related allowance recorded:               
Residential  $1,871   $2,223   $0 
Land   0    0    0 
Construction   0    0    0 
Commercial real estate   1,217    1,540    0 
Commercial business   75    81    0 
Home equity/2nd mortgage   231    237    0 
Other consumer   0    0    0 
                
    3,394    4,081    0 
                
Loans with an allowance recorded:               
Residential   212    217    23 
Land   0    0    0 
Construction   0    0    0 
Commercial real estate   0    0    0 
Commercial business   68    68    43 
Home equity/2nd mortgage   13    14    13 
Other consumer   20    20    6 
                
    313    319    85 
                
Total:               
Residential   2,083    2,440    23 
Land   0    0    0 
Construction   0    0    0 
Commercial real estate   1,217    1,540    0 
Commercial business   143    149    43 
Home equity/2nd mortgage   244    251    13 
Other consumer   20    20    6 
                
   $3,707   $4,400   $85 

 

 

-24-
 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

(3 – continued)

 

Nonperforming loans consists of nonaccrual loans and loans over 90 days past due and still accruing interest. The following table presents the recorded investment in nonperforming loans at September 30, 2017 and December 31, 2016:

 

   September 30, 2017  December 31, 2016
      Loans 90+ Days  Total     Loans 90+ Days  Total
   Nonaccrual  Past Due  Nonperforming  Nonaccrual  Past Due  Nonperforming
   Loans  Still Accruing  Loans  Loans  Still Accruing  Loans
   (In thousands)
                   
Residential  $2,338   $13   $2,351   $1,634   $55   $1,689 
Land   0    0    0    0    0    0 
Construction   0    0    0    0    0    0 
Commercial real estate   33    0    33    924    0    924 
Commercial business   55    0    55    142    0    142 
Home equity/2nd mortgage   239    0    239    226    0    226 
Other consumer   0    0    0    20    23    43 
                               
Total  $2,665   $13   $2,678   $2,946   $78   $3,024 

 

 

The following table presents the aging of the recorded investment in loans at September 30, 2017:

 

                  Purchased   
   30-59 Days  60-89 Days  90 Days or More  Total     Credit  Total
   Past Due  Past Due  Past Due  Past Due  Current  Impaired Loans  Loans
   (In thousands)
                      
Residential  $1,635   $905   $1,449   $3,989   $132,441   $383   $136,813 
Land   147    5    0    152    17,585    0    17,737 
Construction   0    0    0    0    23,019    0    23,019 
Commercial real estate   0    0    33    33    95,426    53    95,512 
Commercial business   651    65    0    716    27,882    0    28,598 
Home equity/2nd mortgage   78    40    179    297    49,782    0    50,079 
Other consumer   272    44    0    316    53,487    0    53,803 
                                    
Total  $2,783   $1,059   $1,661   $5,503   $399,622   $436   $405,561 

 

 

-25-
 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

(3 – continued)

 

The following table presents the aging of the recorded investment in loans at December 31, 2016:

 

                  Purchased   
   30-59 Days  60-89 Days  90 Days or More  Total     Credit  Total
   Past Due  Past Due  Past Due  Past Due  Current  Impaired Loans  Loans
   (In thousands)
                      
Residential  $2,444   $707   $1,021   $4,172   $133,815   $390   $138,377 
Land   0    52    0    52    13,899    0    13,951 
Construction   0    0    0    0    19,489    0    19,489 
Commercial real estate   0    0    27    27    96,402    240    96,669 
Commercial business   155    0    83    238    23,888    0    24,126 
Home equity/2nd mortgage   352    0    13    365    43,466    0    43,831 
Other consumer   319    66    43    428    48,893    0    49,321 
                                    
Total  $3,270   $825   $1,187   $5,282   $379,852   $630   $385,764 

 

 

The Company categorizes loans into risk categories based on relevant information about the ability of borrowers to service their debt such as: current financial information, public information, historical payment experience, credit documentation, and current economic trends, among other factors. The Company classifies loans based on credit risk at least quarterly. The Company uses the following regulatory definitions for risk ratings:

 

Special Mention: Loans classified as special mention have a potential weakness that deserves management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the loan or of the institution’s credit position at some future date.

 

Substandard: Loans classified as substandard are inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any. Loans so classified have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. They are characterized by the distinct possibility that the institution will sustain some loss if the deficiencies are not corrected.

 

Doubtful: Loans classified as doubtful have all the weaknesses inherent in those classified as substandard, with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently existing facts, conditions, and values, highly questionable and improbable.

 

Loss: Loans classified as loss are considered uncollectible and of such little value that their continuance on the institution’s books as an asset is not warranted.

 

Loans not meeting the criteria above that are analyzed individually as part of the described process are considered to be pass rated loans.

 

-26-
 

 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

(3 – continued)

 

The following table presents the recorded investment in loans by risk category as of the date indicated:

 

   Residential        Commercial  Commercial  Home Equity &  Other   
   Real Estate  Land  Construction  Real Estate  Business  2nd Mtg  Consumer  Total
   (In thousands)
September 30, 2017                        
Pass  $133,323   $17,528   $22,952   $89,685   $27,620   $49,838   $53,670   $394,616 
Special Mention   385    85    67    2,749    781    0    133    4,200 
Substandard   721    124    0    3,045    142    2    0    4,034 
Doubtful   2,384    0    0    33    55    239    0    2,711 
Loss   0    0    0    0    0    0    0    0 
                                         
Total  $136,813   $17,737   $23,019   $95,512   $28,598   $50,079   $53,803   $405,561 
                                         
December 31, 2016                                        
Pass  $135,328   $13,795   $19,489   $87,782   $23,246   $43,601   $49,256   $372,497 
Special Mention   403    86    0    1,892    661    0    45    3,087 
Substandard   721    70    0    5,991    77    4    0    6,863 
Doubtful   1,925    0    0    1,004    142    226    20    3,317 
Loss   0    0    0    0    0    0    0    0 
                                         
Total  $138,377   $13,951   $19,489   $96,669   $24,126   $43,831   $49,321   $385,764 

 

 

-27-
 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

(3 – continued)

 

The following table summarizes the Company’s troubled debt restructurings (TDRs) by accrual status as of September 30, 2017 and December 31, 2016:

 

   September 30, 2017  December 31, 2016
            Related Allowance           Related Allowance
   Accruing  Nonaccrual  Total  for Loan Losses  Accruing  Nonaccrual  Total  for Loan Losses
   (In thousands)
Troubled debt restructurings:                                        
Residential real estate  $490   $102   $592   $0   $433   $229   $662   $0 
Commercial real estate   358    0    358    0    291    168    459    0 
Home equity and 2nd mortgage   16    0    16    0    18    0    18    0 
                                         
Total  $864   $102   $966   $0   $742   $397   $1,139   $0 

 

At September 30, 2017 and December 31, 2016, there were no commitments to lend additional funds to debtors whose loan terms have been modified in a TDR.

 

The following table summarizes information in regard to TDRs that were restructured during the three months and nine months ended September 30, 2017:

 

   Three months ended September 30, 2017  Nine months ended September 30, 2017
      Pre-Modifcation  Post-Modifcation     Pre-Modifcation  Post-Modifcation
   Number of  Outstanding  Outstanding  Number of  Outstanding  Outstanding
   Contracts  Balance  Balance  Contracts  Balance  Balance
   (Dollars in thousands)
Troubled debt restructurings:                              
Residential real estate   1   $65   $65    1   $65   $65 
                               
Total   1   $65   $65    1   $65   $65 

 

For the TDR listed above, the terms of modification included the deferral of contractual principal payments. There were no TDRs that were restructured during the three and nine months ended September 30, 2016.

 

There were no principal charge-offs recorded as a result of TDRs and there was no specific allowance for loan losses related to TDRs modified during the three and nine months ended September 30, 2017 or 2016.

 

-28-
 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

(3 – continued)

 

There were no TDRs modified within the previous 12 months for which there was a subsequent payment default (defined as the loan becoming more than 90 days past due, being moved to nonaccrual status, or the collateral being foreclosed upon) during the three and nine months ended September 30, 2017 and 2016. In the event that a TDR subsequently defaults, the Company evaluates the restructuring for possible impairment. As a result, the related allowance for loan losses may be increased or charge-offs may be taken to reduce the carrying amount of the loan.

 

Purchased Credit Impaired (PCI) Loans

 

Purchased loans acquired in a business combination are recorded at estimated fair value on their purchase date with no carryover of the related allowance for loan and lease losses. Such loans are accounted for individually or aggregated into pools of loans based on common risk characteristics such as credit score, loan type and date of origination. In determining the estimated fair value of purchased loans or pools, management considers a number of factors including the remaining life, estimated prepayments, estimated loss ratios, estimated value of the underlying collateral, and net present value of cash flows expected to be received, among others. Purchased loans that have evidence of credit deterioration since origination for which it is deemed probable at the date of acquisition that the acquirer will not collect all contractually required principal and interest payments are accounted for in accordance with Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 310-30. The difference between contractually required payments and the cash flows expected to be collected at acquisition is referred to as the nonaccretable difference. The difference between the expected cash flows and the fair value at acquisition is recorded as interest income over the remaining life of the loan or pool of loans and is referred to as the accretable yield. Subsequent decreases to the expected cash flows will generally result in a provision for loan losses. Subsequent increases in expected cash flows will result in a reversal of the provision for loan losses to the extent of prior charges and then an adjustment to accretable yield, which is recognized as future interest income.

 

The following table presents the carrying amount of PCI loans accounted for under ASC 310-30 at September 30, 2017 and December 31, 2016:

 

   September 30,  December 31,
(In thousands)  2017  2016
       
Residential real estate  $383   $390 
Commercial real estate   53    240 
Carrying amount   436    630 
Allowance for loan losses   4    0 
Carrying amount, net of allowance  $432   $630 

 

The outstanding balance of PCI loans accounted for under ASC 310-30, including contractual principal, interest, fees and penalties was $699,000 and $754,000 at September 30, 2017 and December 31, 2016, respectively.

 

The allowance for loan losses related to PCI loans was $4,000 at September 30, 2017. There was no allowance for loan losses related to PCI loans at December 31, 2016. Provisions for loan losses related to PCI loans were $4,000 for the three-month and nine-month periods ended September 30, 2017. There were no net provisions for loan losses related to PCI loans for the nine-month period ended September 30, 2016. There was a $6,000 reduction of the allowance for loan losses on PCI loans for the three months ended September 30, 2016.

 

-29-
 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

(3 – continued)

 

Accretable yield, or income expected to be collected, is as follows for the three and nine month periods ended September 30, 2017 and 2016:

 

   Three Months Ended  Nine Months Ended
   9/30/2017  9/30/2016  9/30/2017  9/30/2016
             
Balance at beginning of period  $223   $165   $252   $319 
New loans purchased   -    -    -    - 
Accretion to income   (12)   (17)   (40)   (61)
Disposals and other adjustments   (1)   (19)   (18)   (93)
Reclassification from nonaccretable difference   271    42    287    6 
                     
Balance at end of period  $481   $171   $481   $171 

 

 

4.Supplemental Disclosure for Earnings Per Share

 

   Three Months Ended  Nine Months Ended
   9/30/2017  9/30/2016  9/30/2017  9/30/2016
             
Basic  (Dollars in thousands, except for share and per share data)
Earnings:            
Net income attributable to First Capital, Inc.  $2,109   $1,758   $5,852   $5,123 
                     
Shares:                    
Weighted average common shares outstanding   3,326,513    3,342,015    3,324,550    3,340,066 
                     
Net income attributable to First Capital, Inc. per common share, basic  $0.63   $0.53   $1.76   $1.53 
                     
Diluted                    
Earnings:                    
Net income attributable to First Capital, Inc.  $2,109   $1,758   $5,852   $5,123 
                     
Shares:                    
Weighted average common shares outstanding   3,326,513    3,342,015    3,324,550    3,340,066 
Add: Dilutive effect of restricted stock   3,036    2,034    4,561    1,787 
                     
Weighted average common shares outstanding, as adjusted   3,329,549    3,344,049    3,329,111    3,341,853 
                     
Net income attributable to First Capital, Inc. per common share, diluted  $0.63   $0.53   $1.76   $1.53 

 

Nonvested restricted stock shares are not considered as outstanding for purposes of computing weighted average common shares outstanding. No shares were excluded from the calculations of diluted net income per share because their effect would be anti-dilutive for the three-month and nine-month periods ended September 30, 2017 and 2016.

 

-30-
 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

5.Stock Option Plan

 

On May 20, 2009, the Company adopted the 2009 Equity Incentive Plan (the “Plan”). The Plan provides for the award of stock options, restricted stock, performance shares and stock appreciation rights. The aggregate number of shares of the Company’s common stock available for issuance under the Plan may not exceed 223,000 shares.

 

At September 30, 2017, 204,000 shares of the Company’s common stock were available for issuance under the Plan. The Company may grant both non-statutory and statutory stock options which may not have a term exceeding ten years. In the case of incentive stock options, the aggregate fair value of the stock (determined at the time the incentive stock option is granted) for which any optionee may be granted incentive options which are first exercisable during any calendar year shall not exceed $100,000. Option prices may not be less than the fair market value of the underlying stock at the date of the grant. An award of a performance share is a grant of a right to receive shares of the Company’s common stock which is contingent upon the achievement of specific performance criteria or other objectives set at the grant date. Stock appreciation rights are equity or cash settled share-based compensation arrangements whereby the number of shares that will ultimately be issued or the cash payment is based upon the appreciation of the Company’s common stock. Awards granted under the Plan may be granted either alone, in addition to, or in tandem with, any other award granted under the Plan. The terms of the Plan also include provisions whereby all unearned options and restricted shares become immediately exercisable and fully vested upon a change in control.

 

The fair market value of stock options granted is estimated at the date of grant using an option pricing model. Expected volatilities are based on historical volatility of the Company's stock. The expected term of options granted represents the period of time that options are expected to be outstanding and is based on historical trends. The risk free rate for the expected life of the options is based on the U.S. Treasury yield curve in effect at the time of grant. As of September 30, 2017, no stock options had been granted under the Plan.

 

On February 17, 2015, the Company granted 19,500 restricted stock shares to directors, officers and key employees at a grant-date price of $24.50 per share for a total of $478,000. The restricted stock vests ratably from the grant date through July 1, 2020, with 20% of the shares vesting each year on July 1 beginning July 1, 2016. Compensation expense is measured based on the fair market value of the restricted stock at the grant date and is recognized ratably over the period during which the shares are earned (the vesting period). Compensation expense related to restricted stock recognized for the three-month and nine-month periods ended September 30, 2017 amounted to $23,000 and $66,000, respectively. Compensation expense related to restricted stock recognized for the three-month and nine-month periods ended September 30, 2016 amounted to $21,000 and $61,000, respectively.

 

 

-31-
 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

(5 – continued)

 

A summary of the Company’s nonvested restricted shares under the Plan as of September 30, 2017 and changes during the nine-month period then ended is presented below.

 

     Weighted
   Number  Average
   of  Grant Date
   Shares  Fair Value
       
Nonvested at January 1, 2017   14,000   $24.50 
Granted   -    - 
Vested   3,500   $24.50 
Forfeited   -    - 
           
Nonvested at September 30, 2017   10,500   $24.50 

 

 

There were 3,500 restricted shares that vested during the nine-month period ended September 30, 2017. The total fair value of restricted shares that vested during the nine-month period ended September 30, 2017 was $109,000. At September 30, 2017, there was $234,000 of total unrecognized compensation expense related to nonvested restricted shares. The compensation expense is expected to be recognized over the remaining vesting period of 2.75 years.

 

6.Supplemental Disclosures of Cash Flow Information

 

   Nine Months Ended
   September 30,
   2017  2016
   (In thousands)
Cash payments for:          
Interest  $1,072   $1,400 
Taxes (net of refunds received)   2,534    713 
           
Noncash investing activities:          
Transfers from loans to real estate acquired through foreclosure   471    582 

 

 

7.Fair Value Measurements

 

FASB ASC Topic 820, Fair Value Measurements, provides the framework for measuring fair value. That framework provides a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements). The three levels of the fair value hierarchy under FASB ASC Topic 820 are described as follows:

 

  Level 1: Inputs to the valuation methodology are quoted prices, unadjusted, for identical assets or liabilities in active markets
     
  Level 2: Inputs to the valuation methodology include quoted market prices for similar assets or liabilities in active markets; quoted market prices for identical or similar assets or liabilities in markets that are not active; or inputs that are derived principally from or can be corroborated by observable market data by correlation or other means.

 

 

-32-
 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

(7 – continued)

 

  Level 3: Inputs to the valuation methodology are unobservable and significant to the fair value measurement. Level 3 assets and liabilities include financial instruments whose value is determined using discounted cash flow methodologies, as well as instruments for which the determination of fair value requires significant management judgment or estimation.

 

A description of the valuation methodologies used for instruments measured at fair value, as well as the general classification of such instruments pursuant to the valuation hierarchy, is set forth on the following page. These valuation methodologies were applied to all of the Company’s financial and nonfinancial assets carried at fair value or the lower of cost or fair value. The table below presents the balances of assets measured at fair value on a recurring and nonrecurring basis as of September 30, 2017 and December 31, 2016. The Company had no liabilities measured at fair value as of September 30, 2017 or December 31, 2016.

 

 

 

 

-33-
 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

(7 – continued)

 

   Carrying Value
(In thousands)  Level 1  Level 2  Level 3  Total
             
September 30, 2017                    
Assets Measured on a Recurring Basis                    
Securities available for sale:                    
Agency mortgage-backed securities  $0   $118,149   $0   $118,149 
Agency CMO   0    15,194    0    15,194 
Agency notes and bonds   0    70,437    0    70,437 
Municipal obligations   0    72,946    0    72,946 
Mutual funds   211    0    0    211 
Total securities available for sale  $211   $276,726   $0   $276,937 
                     
Assets Measured on a Nonrecurring Basis                    
Impaired loans:                    
Residential real estate  $0   $0   $2,926   $2,926 
Commercial real estate   0    0    297    297 
Commercial business   0    0    55    55 
Home equity and second mortgage   0    0    243    243 
Other consumer   0    0    0    0 
Total impaired loans  $0   $0   $3,521   $3,521 
                     
Loans held for sale  $0   $1,000   $0   $1,000 
                     
Foreclosed real estate:                    
Residential real estate  $0   $0   $304   $304 
Land   0    0    50    50 
Commercial real estate   0    0    3,528    3,528 
Total foreclosed real estate  $0   $0   $3,882   $3,882 
                     
December 31, 2016                    
Assets Measured on a Recurring Basis                    
Securities available for sale:                    
Agency mortgage-backed securities  $0   $108,237   $0   $108,237 
Agency CMO   0    16,028    0    16,028 
Agency notes and bonds   0    68,662    0    68,662 
Municipal obligations   0    62,843    0    62,843 
Mutual funds   74    0    0    74 
Total securities available for sale  $74   $255,770   $0   $255,844 
                     
Assets Measured on a Nonrecurring Basis                    
Impaired loans:                    
Residential real estate  $0   $0   $2,060   $2,060 
Land   0    0    1,217    1,217 
Commercial real estate   0    0    100    100 
Commercial business   0    0    231    231 
Home equity and second mortgage   0    0    14    14 
Total impaired loans  $0   $0   $3,622   $3,622 
                     
Loans held for sale  $0   $4,507   $0   $4,507 
                     
Foreclosed real estate:                    
Residential real estate  $0   $0   $226   $226 
Commercial real estate   0    0    4,448    4,448 
Total foreclosed real estate  $0   $0   $4,674   $4,674 

 

 

-34-
 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

(7 – continued)

 

Fair value is based upon quoted market prices, where available. If quoted market prices are not available, fair value is based on internally developed models or obtained from third parties that primarily use, as inputs, observable market-based parameters or a matrix pricing model that employs the Bond Market Association’s standard calculations for cash flow and price/yield analysis and observable market-based parameters. Valuation adjustments may be made to ensure that financial instruments are recorded at fair value, or the lower of cost or fair value. These adjustments may include unobservable parameters. Any such valuation adjustments have been applied consistently over time. The Company’s valuation methodologies may produce a fair value calculation that may not be indicative of net realizable value or reflective of future fair values. While management believes the Company’s valuation methodologies are appropriate and consistent with other market participants, the use of different methodologies or assumptions to determine the fair value of certain financial instruments could result in a different estimate of fair value at the reporting date.

 

Securities Available for Sale. Securities classified as available for sale are reported at fair value on a recurring basis.  These securities are classified as Level 1 of the valuation hierarchy where quoted market prices from reputable third-party brokers are available in an active market. If quoted market prices are not available, the Company obtains fair value measurements from an independent pricing service.  These securities are reported using Level 2 inputs and the fair value measurements consider observable data that may include dealer quotes, market spreads, cash flows, U.S. government and agency yield curves, live trading levels, trade execution data, market consensus prepayment speeds, credit information, and the security’s terms and conditions, among other factors. Changes in fair value of securities available for sale are recorded in other comprehensive income, net of income tax effect.

 

Impaired Loans. Impaired loans are reviewed and evaluated on at least a quarterly basis for additional impairment and adjusted accordingly. The fair value of impaired loans is classified as Level 3 in the fair value hierarchy.

 

Impaired loans are carried at the present value of estimated future cash flows using the loan's effective interest rate or the fair value of collateral less estimated costs to sell if the loan is collateral dependent. At September 30, 2017 and December 31, 2016, all impaired loans were considered to be collateral dependent for the purpose of determining fair value. Collateral may be real estate and/or business assets, including equipment, inventory and/or accounts receivable. The fair value of the collateral is generally determined based on real estate appraisals or other independent evaluations by qualified professionals, adjusted for estimated costs to sell the property, costs to complete or repair the property and other factors to reflect management’s estimate of the fair value of the collateral given the current market conditions and the condition of the collateral. At September 30, 2017, the significant unobservable inputs used in the fair value measurement of impaired loans included a discount from appraised value for estimates of changes in market conditions, the condition of the collateral and estimated costs to sell the collateral ranging from 33% to 62%, with a weighted average discount of 50%. At December 31, 2016, the discount from appraised value ranged from 33% to 65%, with a weighted average discount of 39%. The Company recognized provisions for loan losses of $13,000 and $106,000 for the nine months ended September 30, 2017 and 2016, respectively, for impaired loans. The Company recognized provisions for loan losses of $8,000 for the three months ended September 30, 2017 for impaired loans. The Company did not recognize any provisions for loan losses for impaired loans for the three months ended September 30, 2016.

 

-35-
 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

(7 – continued)

 

Loans Held for Sale. Loans held for sale are carried at the lower of cost or market value. The portfolio is comprised of residential real estate loans and fair value is based on specific prices of underlying contracts for sales to investors.  These measurements are classified as Level 2.

 

Foreclosed Real Estate. Foreclosed real estate is reviewed and evaluated on at least a quarterly basis for additional impairment and adjusted accordingly. The fair value of foreclosed real estate is classified as Level 3 in the fair value hierarchy.

 

Foreclosed real estate is reported at fair value less estimated costs to dispose of the property. The fair values are determined by real estate appraisals which are then discounted to reflect management’s estimate of the fair value of the property given current market conditions and the condition of the collateral. At September 30, 2017, the significant unobservable inputs used in the fair value measurement of foreclosed real estate included a discount from appraised value for estimates of changes in market conditions, the condition of the collateral and estimated costs to sell the property ranging from 10% to 72%, with a weighted average of 44%. At December 31, 2016, the discount from appraised value ranged from 10% to 77%, with a weighted average of 38%. The Company recognized losses of $228,000 and $83,000 to write down foreclosed real estate for the nine months ended September 30, 2017 and September 30, 2016, respectively. There were no charges to write down foreclosed real estate recognized in income for the three month periods ended September 30, 2017 or 2016.

 

There have been no changes in the valuation techniques and related inputs used for assets measured at fair value on a recurring and nonrecurring basis during the nine month periods ended September 30, 2017 and 2016. There were no transfers into or out of the Company’s Level 3 financial assets for the nine month periods ended September 30, 2017 and 2016. In addition, there were no transfers into or out of Levels 1 and 2 of the fair value hierarchy during the nine month periods ended September 30, 2017 and 2016.

 

 

-36-
 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

(7 – continued)

 

GAAP requires disclosure of the fair value of financial assets and financial liabilities, whether or not recognized in the balance sheet. 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. In that regard, the derived fair value estimates cannot be substantiated by comparison to independent markets and, in many cases, could not be realized in immediate settlement of the instruments. Accordingly, the aggregate fair value amounts presented do not represent the underlying value of the Company. The estimated fair values of the Company's financial instruments are as follows:

 

   Carrying  Fair  Fair Vale Measurements Using
(In thousands)  Value  Value  Level 1  Level 2  Level 3
                
September 30, 2017                         
Financial assets:                         
Cash and cash equivalents  $24,798   $24,798   $24,798   $0   $0 
Interest-bearing time deposits   10,295    10,302    0    10,302    0 
Securities available for sale   276,937    276,937    211    276,726    0 
Securities held to maturity   1    1    0    1    0 
Loans held for sale   1,000    1,020    0    1,020    0 
Loans, net   400,762    400,430    0    0    400,430 
FHLB and other stock   1,979    1,979    0    1,979    0 
Accrued interest receivable   2,595    2,595    0    2,595    0 
                          
Financial liabilities:                         
Deposits   665,512    664,553    0    0    664,553 
Advances from FHLB   4,000    4,000    0    4,000    0 
Accrued interest payable   109    109    0    109    0 
                          
December 31, 2016:                         
Financial assets:                         
Cash and cash equivalents  $45,835   $45,835   $45,835   $0   $0 
Interest-bearing time deposits   14,735    14,786    0    14,786    0 
Securities available for sale   255,844    255,844    74    255,770    0 
Securities held to maturity   2    2    0    2    0 
Loans held for sale   4,507    4,598    0    4,598    0 
Loans, net   381,154    381,459    0    0    381,459 
FHLB and other stock   1,650    1,650    0    1,650    0 
Accrued interest receivable   2,363    2,363    0    2,363    0 
                          
Financial liabilities:                         
Deposits   664,650    663,806    0    0    663,806 
Accrued interest payable   133    133    0    133    0 

      

 

-37-
 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

(7 – continued)

 

The carrying amounts in the preceding table are included in the consolidated balances sheets under the applicable captions. The following methods and assumptions were used to estimate the fair value of each class of financial instrument for which it is practicable to estimate that value:

 

Cash and Cash Equivalents and Interest-Bearing Time Deposits

 

For cash and short-term investments, including cash and due from banks, interest-bearing deposits with banks, federal funds sold, and interest-bearing time deposits with other financial institutions, the carrying amount is a reasonable estimate of fair value.

 

Investment Securities

 

For marketable equity securities, the fair values are based on quoted market prices. For debt securities, the Company obtains fair value measurements from an independent pricing service and the fair value measurements consider observable data that may include dealer quotes, market spreads, cash flows, U.S. government and agency yield curves, live trading levels, trade execution data, market consensus prepayment speeds, credit information, and the security’s terms and conditions, among other factors. For FHLB stock, a restricted equity security, the carrying amount is a reasonable estimate of fair value because it is not marketable.

 

Loans

 

The fair value of loans is estimated by discounting the future cash flows using the current rates at which similar loans would be made to borrowers with similar credit ratings and for the same remaining maturities. The carrying amount of accrued interest receivable approximates its fair value. The fair value of loans held for sale is based on specific prices of underlying contracts for sale to investors.

 

Deposits

 

The fair value of demand deposits, savings accounts, money market deposit accounts and other transaction accounts is the amount payable on demand at the balance sheet date. The fair value of fixed-maturity certificates of deposit is estimated by discounting the future cash flows using the rates currently offered for deposits of similar remaining maturities. The carrying amount of accrued interest payable approximates its fair value.

 

Advances from FHLB

 

The fair value of advances from FHLB is estimated by discounting the future cash flows using the current rates at which FHLB advances of similar maturities could be obtained.

 

-38-
 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

8.Recent Accounting Pronouncements

 

The following are summaries of recently issued or adopted accounting pronouncements that impact the accounting and reporting practices of the Company:

 

In May 2014, the FASB issued Accounting Standards Update (“ASU”) No. 2014-09, Revenue from Contracts with Customers (Topic 606). The update provides a five-step revenue recognition model for all revenue arising from contracts with customers and affects all entities that enter into contracts to provide goods or services to their customers (unless the contracts are included in the scope of other standards). The guidance requires an entity to recognize the revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods and services. For public entities, the guidance was originally to be effective for annual reporting periods beginning after December 15, 2016, including interim periods within that reporting period. However, with the issuance of ASU No. 2015-14 in August 2015, the FASB deferred the effective date of ASU No. 2014-09 by one year for all entities, making the amendments effective for public entities for annual reporting periods beginning after December 15, 2017, including interim periods within those reporting periods. Companies have the option to apply ASU No. 2014-09 as of the original effective date. Management is evaluating the new guidance, but does not expect the adoption of this guidance to have a material impact on the Company’s consolidated financial position or results of operations.

 

In January 2016, the FASB issued ASU No. 2016-01, Financial Instruments – Overall (Subtopic 825-10) – Recognition and Measurement of Financial Assets and Financial Liabilities. The guidance addresses certain aspects of recognition, measurement, presentation and disclosure of financial instruments. In particular, the guidance revises an entity’s accounting related to (1) the classification and measurement of investments in equity securities and (2) the presentation of certain fair value changes for financial liabilities measured at fair value. The guidance also amends certain disclosure requirements associated with fair value of financial instruments. For public business entities, the guidance is effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. Entities should apply the amendments by means of a cumulative-effect adjustment to the balance sheet as of the beginning of the fiscal year of adoption. The adoption of this update is not expected to have a material impact on the Company’s consolidated financial position or results of operations.

 

In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842). The guidance supersedes existing guidance on accounting for leases with the main difference being that operating leases are to be recorded in the statement of financial position as right-of-use assets and lease liabilities, initially measured at the present value of the lease payments. For operating leases with a term of 12 months or less, a lessee is permitted to make an accounting policy election not to recognize lease assets and liabilities. For public business entities, the guidance is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. Early application of the guidance is permitted. In transition, entities are required to recognize and measure leases at the beginning of the earliest period presented using a modified retrospective approach. Management is evaluating the new guidance, but does not expect the adoption of this update to have a material impact on the Company’s consolidated financial position or results of operations.

 

-39-
 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

(8 – continued)

 

In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments – Credit Losses (Topic 326). The update replaces the incurred loss methodology for recognizing credit losses under current GAAP with a methodology that reflects expected credit losses and requires consideration of a broader range of reasonable and supportable information to inform credit loss estimates. Under the new guidance, an entity will measure all expected credit losses for financial instruments held at the reporting date based on historical experience, current conditions and reasonable and supportable forecasts. The expected loss model will apply to loans and leases, unfunded lending commitments, held-to-maturity debt securities and other debt instruments measured at amortized cost. The impairment model for available-for-sale debt securities will require the recognition of credit losses through a valuation allowance when fair value is less than amortized cost, regardless of whether the impairment is considered to be other-than-temporary. For the Company, the amendments in the update are effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. Early adoption is permitted as of fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. The Company is currently assessing the impact the guidance will have upon adoption, but management expects to recognize a one-time cumulative-effect adjustment to the allowance for loan losses as of the beginning of the first reporting period in which the new standard is effective.

 

In August 2016, the FASB issued ASU No. 2016-15, Statement of Cash Flows (Topic 230) – Classification of Certain Cash Receipts and Cash Payments. The update addresses eight specific cash flow issues with the objective of reducing diversity in practice in how certain cash receipts and cash payments are presented and classified in the statement of cash flows. The amendments in the update are effective for public business entities for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years. Early adoption is permitted, including adoption in an interim period. If an entity adopts the amendments in an interim period, any adjustments should be reflected as of the beginning of the fiscal year that includes that interim period, and all amendments must be adopted in the same period. The adoption of this update is not expected to have a material impact on the Company’s consolidated financial position or results of operations.

 

In January 2017, the FASB issued ASU No. 2017-04, Intangibles – Goodwill and Other (Topic 350) – Simplifying the Test for Goodwill Impairment. The update simplifies the measurement of goodwill impairment by eliminating Step 2 (implied fair value measurement) from the goodwill impairment test. Instead, an entity should perform its annual, or interim, goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount and recognize an impairment charge for the amount by which the carrying amount exceeds the reporting unit’s fair value. However, the loss should not exceed the total amount of goodwill allocated to the reporting unit. The amendments in the update are effective for the Company for its annual or any interim goodwill impairment tests in fiscal years beginning after December 15, 2019. Early adoption is permitted for interim and annual goodwill impairment tests performed on testing dates after January 1, 2017. The adoption of this update is not expected to have a material impact on the Company’s consolidated financial position or results of operations.

 

-40-
 

 

FIRST CAPITAL, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

(8 – continued)

 

In March 2017, the FASB issued ASU No. 2017-08, Receivables – Nonrefundable Fees and Other Costs (Subtopic 310-20) – Premium Amortization on Purchased Callable Debt Securities. The update shortens the amortization period for certain callable debt securities held at a premium. Specifically, the update requires the premium to be amortized to the earliest call date. The update does not require an accounting change for securities held at a discount; the discount continues to be amortized to maturity. The amendments in the update are effective for public business entities for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018. Early adoption is permitted, including adoption in an interim period. If an entity early adopts the amendments in an interim period, any adjustments should be reflected as of the beginning of the fiscal year that includes that interim period. An entity should apply the amendments in this update on a modified retrospective basis through a cumulative-effect adjustment directly to retained earnings as of the beginning of the period of adoption. Additionally, in the period of adoption, an entity should provide disclosures about a change in accounting principle. The adoption of this update is not expected to have a material impact on the Company’s consolidated financial position or results of operations.

 

In May 2017, the FASB issued ASU No. 2017-09, Compensation – Stock Compensation (Subtopic 718): Scope of Modification Accounting. The update provides guidance about which changes to the terms or conditions of a share-based payment award require an entity to apply modification accounting. An entity should account for the effects of a modification unless all of the following conditions are met: the fair value of the modified award is the same as the fair value of the original award immediately before the original award is modified; the vesting conditions of the modified award are the same as the vesting conditions of the original award immediately before the original award is modified; and the classification of the modified award as an equity instrument or a liability instrument is the same as the classification of the original award immediately before the original award is modified. The amendments in the update should be applied prospectively to an award modified on or after the adoption date. The amendments in the update are effective for all entities for annual periods, and interim periods within those annual periods, beginning after December 15, 2017. Early adoption is permitted, including adoption in an interim period. The adoption of this update is not expected to have a material impact on the Company’s consolidated financial position or results of operations.

 

 

 

-41-
 

 

MANAGEMENT’S DISCUSSION AND

ANALYSIS OF FINANCIAL CONDITION AND

RESULTS OF OPERATIONS

FIRST CAPITAL, INC.

 

Safe Harbor Statement for Forward-Looking Statements

 

This Quarterly Report on Form 10-Q may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements are not historical facts nor guarantees of future performance; rather they are statements based on the Company’s current expectations regarding its business strategies and their intended results and its future performance. Forward-looking statements can be identified by use of the words “expects,” “believes,” “anticipates,” “intends,” “could,” “should” and similar expressions. Forward-looking statements also include, but are not limited to, statements regarding estimated cost savings, plans and objectives for future operations, and the Company’s business and growth strategies.

 

Numerous risks and uncertainties could cause or contribute to the Company’s actual results, performance and achievements being materially different from those expressed or implied by the forward-looking statements. Factors that may cause or contribute to these differences include, without limitation, general economic conditions, including changes in market interest rates and changes in monetary and fiscal policies of the federal government; the ability of the Company to execute its business plan; legislative and regulatory changes; the quality and composition of the loan and investment securities portfolio; loan demand; deposit flows; competition; and changes in accounting principles and guidelines. Additional factors that may affect our results are discussed in Part II of this Form 10-Q and in our Annual Report on Form 10-K for the year ended December 31, 2016 under “Item 1A. Risk Factors.” These factors should be considered in evaluating the forward-looking statements and undue reliance should not be placed on such statements. These forward-looking statements are made only as of the date of this Form 10-Q and, except as required by applicable law or regulation, the Company assumes no obligation and disclaims any obligation to update any forward-looking statements.

 

Critical Accounting Policies

 

During the nine months ended September 30, 2017, there was no significant change in the Company’s critical accounting policies or the application of critical accounting policies as disclosed in the Company’s Annual Report on Form 10-K for the year ended December 31, 2016.

 

Financial Condition

 

Total assets increased $10.5 million from $743.7 million at December 31, 2016 to $754.2 million at September 30, 2017, an increase of 1.4%.

 

Net loans receivable (excluding loans held for sale) increased $19.6 million from $381.2 million at December 31, 2016 to $400.8 million at September 30, 2017. Home equity and second mortgage loans increased $6.0 million during the nine months ended September 30, 2017 while other consumer loans and commercial business loans each increased $4.5 million during the period.

 

Securities available for sale increased $21.1 million from $255.8 million at December 31, 2016 to $276.9 million at September 30, 2017. Purchases of $43.9 million of securities classified as available for sale were made during the nine months ended September 30, 2017 and consisted primarily of U.S. government agency mortgage-backed securities and municipal bonds. Principal repayments and maturities of available for sale securities totaled $19.3 million and $3.4 million, respectively, during the nine months ended September 30, 2017. U.S. government agency mortgage-backed securities, CMO’s and municipal bonds with a value of $1.6 million were sold during the nine months ended September 30, 2017.

 

 

-42-
 

 

PART I - ITEM 2

 

MANAGEMENT’S DISCUSSION AND

ANALYSIS OF FINANCIAL CONDITION AND

RESULTS OF OPERATIONS

FIRST CAPITAL, INC.

 

Cash and cash equivalents decreased from $45.8 million at December 31, 2016 to $24.8 million at September 30, 2017, primarily due to a decrease of $14.8 million in federal funds sold as excess liquidity was invested in investment securities.

 

Total deposits increased from $664.7 million at December 31, 2016 to $665.5 million at September 30, 2017. Noninterest-bearing checking accounts increased $11.7 million during the nine months ended September 30, 2017 primarily due to new accounts and normal balance fluctuations. Time deposits decreased $8.9 million during the period as customers opt not to lock in to longer terms in the current low-rate environment.

 

FHLB borrowings increased $4.0 million from December 31, 2016 to September 30, 2017 as the Bank borrowed $12.1 million and paid off $8.1 million during the nine-month period.

 

Total stockholders' equity attributable to the Company increased from $75.7 million at December 31, 2016 to $81.3 million at September 30, 2017 primarily due to retained net income of $3.7 million and a decrease of $1.8 million in the net unrealized loss on securities available for sale during the nine months ended September 30, 2017. The decrease in the net unrealized loss on available for sale securities during the period is primarily due to changes in long-term market interest rates.

 

Results of Operations

 

Net income for the nine-month periods ended September 30, 2017 and 2016. Net income attributable to the Company was $5.9 million ($1.76 per share) for the nine months ended September 30, 2017 compared to $5.1 million ($1.53 per share) for the same time period in 2016. The increase is primarily due to increases in net interest income after provision for loan losses and noninterest income partially offset by an increase in noninterest expense.

 

Net income for the three-month periods ended September 30, 2017 and 2016. Net income attributable to the Company was $2.1 million ($0.63 per share) for the three months ended September 30, 2017 compared to $1.8 million ($0.53 per share) for the three months ended September 30, 2016.

 

Net interest income for the nine-month periods ended September 30, 2017 and 2016. Net interest income increased $1.1 million for the nine months ended September 30, 2017 compared to the same period in 2016 primarily due to increases in interest-earning assets and the interest rate spread.

 

Total interest income increased $799,000 for the nine months ended September 30, 2017 compared to the same period in 2016. For the nine months ended September 30, 2017, the average balance of interest-earning assets and their tax-equivalent yield were $708.8 million and 3.80%, respectively. During the same period in 2016, the average balance of those assets was $682.3 million and the tax-equivalent yield was 3.78%.

 

 

-43-
 

 

PART I - ITEM 2

 

MANAGEMENT’S DISCUSSION AND

ANALYSIS OF FINANCIAL CONDITION AND

RESULTS OF OPERATIONS

FIRST CAPITAL, INC.

 

Total interest expense decreased $322,000 for the nine months ended September 30, 2017 compared to the same period in 2016. The average rate paid on interest-bearing liabilities decreased from 0.35% for the nine months ended September 30, 2016 to 0.26% for the same period in 2017. The average balance of interest-bearing liabilities increased from $527.6 million for 2016 to $542.6 million for 2017. The decrease in the average cost of funds is primarily due to the repricing of savings and interest-bearing demand deposits acquired in the December 2015 acquisition of Peoples Bancorp, Inc. of Bullitt County and its wholly-owned bank subsidiary Peoples Bank of Bullitt County (collectively, “Peoples”), headquartered in Shepherdsville, Kentucky.

 

As a result of the changes in interest-earning assets and interest-bearing liabilities, the interest rate spread increased from 3.43% for the nine months ended September 30, 2016 to 3.54% for the same period in 2017.

 

Net interest income for the three-month periods ended September 30, 2017 and 2016. Net interest income increased $584,000 for the three months ended September 30, 2017 compared to the three months ended September 30, 2016 primarily due to increases in interest-earning assets and the interest rate spread.

 

Total interest income increased $513,000 for the three months ended September 30, 2017 compared to the same period in 2016. For the three months ended September 30, 2017, the average balance of interest-earning assets and their tax-equivalent yield were $711.0 million and 3.90%, respectively. During the same period in 2016, the average balance of those assets was $684.8 million and the tax-equivalent yield was 3.72%. The changes in balances and yields are primarily due to loan growth and an increase in short-term interest rates.

 

Total interest expense decreased $71,000 for the three months ended September 30, 2017 compared to the three months ended September 30, 2016. The average balance of interest-bearing liabilities increased from $531.9 million to $537.3 million when comparing the two periods and the average rate paid on those liabilities decreased from 0.31% for the three months ended September 30, 2016 to 0.25% for the same period in 2017.

 

As a result, the tax-equivalent interest rate spread increased from 3.41% for the three months ended September 30, 2016 to 3.65% for the three months ended September 30, 2017.

 

Provision for loan losses. Based on management’s analysis of the allowance for loan losses, the provision for loan losses increased from $425,000 for the nine-month period ended September 30, 2016 to $617,000 for the same period in 2017 and decreased from $200,000 for the three months ended September 30, 2016 to $150,000 for the three months ended September 30, 2017. The increase during 2017 was due primarily to growth in the loan portfolio. Total loans increased $19.6 million during the nine months ended September 30, 2017, compared to a $6.9 million increase during the nine months ended September 30, 2016. The Bank recognized net charge-offs of $466,000 for the nine months ended September 30, 2017 compared to $520,000 during the same period in 2016.

 

 

-44-
 

 

PART I - ITEM 2

 

MANAGEMENT’S DISCUSSION AND

ANALYSIS OF FINANCIAL CONDITION AND

RESULTS OF OPERATIONS

FIRST CAPITAL, INC.

 

Provisions for loan losses are charges to earnings to maintain the total allowance for loan losses at a level considered adequate by management to provide for probable known and inherent loan losses based on management’s evaluation of the collectability of the loan portfolio, including the nature of the portfolio, credit concentrations, trends in historical loss experience, specified impaired loans and economic conditions. Although management uses the best information available, future adjustments to the allowance may be necessary due to changes in economic, operating, regulatory and other conditions that may be beyond the Bank’s control. While the Bank maintains the allowance for loan losses at a level that it considers adequate to provide for estimated losses, there can be no assurance that further additions will not be made to the allowance for loan losses and that actual losses will not exceed the estimated amounts.

 

The methodology used in determining the allowance for loan losses includes segmenting the loan portfolio by identifying risk characteristics common to groups of loans, determining and measuring impairment of individual loans based on the present value of expected future cash flows or the fair value of collateral, and determining and measuring impairment for groups of loans with similar characteristics by applying loss factors that consider the qualitative factors which may affect the loss rates.

 

The allowance for loan losses was $3.5 million at September 30, 2017 and $3.4 million at December 31, 2016. Management has deemed these amounts as adequate at each date based on its best estimate of probable known and inherent loan losses at each date. At September 30, 2017, nonperforming loans amounted to $2.7 million compared to $3.0 million at December 31, 2016. Included in nonperforming loans were loans 90 days or more past due and still accruing interest of $13,000 and $78,000 at September 30, 2017 and December 31, 2016, respectively. These loans were accruing interest because the estimated value of the collateral and collection efforts are deemed sufficient to ensure full recovery. At September 30, 2017 and December 31, 2016, nonaccrual loans amounted to $2.7 million and $2.9 million, respectively.

 

Noninterest income for the nine-month periods ended September 30, 2017 and 2016. Noninterest income for the nine months ended September 30, 2017 increased $324,000 compared to the nine months ended September 30, 2016. The increase was primarily due to increases in service charges on deposit accounts and gains on the sale of loans of $320,000 and $139,000, respectively, partially offset by a decrease of $122,000 in gains on the sale of securities when comparing the two periods.

 

Noninterest income for the three-month periods ended September 30, 2017 and 2016. Noninterest income for the quarter ended September 30, 2017 decreased $2,000 compared to the quarter ended September 30, 2016. The decrease was primarily due to a decrease of $145,000 in other income partially offset by increases in services charges on deposit accounts and gains on loans sold. The decrease in other income was due to the sale of the Company’s investment in another financial institution in July 2016, resulting in a gain of $145,000.

 

Noninterest expense for the nine-month periods ended September 30, 2017 and 2016. Noninterest expense for the nine months ended September 30, 2017 increased $246,000 compared to the same period in 2016 due primarily to increases in compensation and benefits expense and data processing expense of $258,000 and $238,000, respectively. This was partially offset by decreases of $104,000 in professional fees and $64,000 in occupancy and equipment expense.

 

 

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PART I - ITEM 2

 

MANAGEMENT’S DISCUSSION AND

ANALYSIS OF FINANCIAL CONDITION AND

RESULTS OF OPERATIONS

FIRST CAPITAL, INC.

 

Noninterest expense for the three-month periods ended September 30, 2017 and 2016. Noninterest expense for the quarter ended September 30, 2017 increased $122,000 compared to the quarter ended September 30, 2016. Compensation and benefits expense and data processing expense increased $161,000 and $46,000, respectively, when comparing the two periods.

 

Income tax expense. Income tax expense for the nine-month period ended September 30, 2017 was $2.2 million, for an effective tax rate of 27.1%, compared to $1.9 million, for an effective tax rate of 27.0%, for the same period in 2016. For the three-month period ended September 30, 2017, income tax expense and the effective tax rate were $825,000 and 28.1%, respectively, compared to $666,000 and 27.4%, respectively, for the same period in 2016.

 

Liquidity and Capital Resources

 

The Bank’s primary sources of funds are customer deposits, proceeds from loan repayments, maturing securities and FHLB advances. While loan repayments and maturities are a predictable source of funds, deposit flows and mortgage prepayments are greatly influenced by market interest rates, general economic conditions and competition. At September 30, 2017, the Bank had cash and cash equivalents of $24.8 million and securities available-for-sale with a fair value of $276.9 million. If the Bank requires funds beyond its ability to generate them internally, it has additional borrowing capacity with the FHLB of Indianapolis and additional collateral eligible for repurchase agreements.

 

The Bank’s primary investing activity is the origination of one-to-four family mortgage loans and commercial real estate loans and, to a lesser extent, consumer, multi-family, commercial business and residential construction loans. The Bank also invests in U.S. Government and agency securities and mortgage-backed securities issued by U.S. Government agencies.

 

The Bank must maintain an adequate level of liquidity to ensure the availability of sufficient funds to support loan growth and deposit withdrawals, to satisfy financial commitments and to take advantage of investment opportunities. Historically, the Bank has been able to retain a significant amount of its deposits as they mature.

 

The Company is a separate legal entity from the Bank and must provide for its own liquidity. In addition to its operating expenses, the Company, on a stand-alone basis, is responsible for paying any dividends declared to its shareholders. The Board of Directors of the Company also has authorized the repurchase of shares of its common stock. The Company’s primary source of income is dividends received from the Bank. The amount of dividends that the Bank may declare and pay to the Company in any calendar year, without the receipt of prior approval from the Office of the Comptroller of the Currency (“OCC”) but with prior notice to the OCC, cannot exceed net income for that year to date plus retained net income (as defined in the applicable OCC regulations) for the preceding two calendar years. On a stand-alone basis, the Company had liquid assets of $1.8 million at September 30, 2017.

 

 

-46-
 

 

PART I - ITEM 2

 

MANAGEMENT’S DISCUSSION AND

ANALYSIS OF FINANCIAL CONDITION AND

RESULTS OF OPERATIONS

FIRST CAPITAL, INC.

 

The Bank is required to maintain specific amounts of capital pursuant to regulatory requirements. As of September 30, 2017, the Bank was in compliance with all regulatory capital requirements that were effective as of such date with Tier 1 capital to average assets, common equity Tier 1 capital to risk-weighted assets, Tier 1 capital to risk-weighted assets and total capital to risk-weighted assets ratios of 9.5%, 14.0%, 14.0% and 14.7%, respectively. The regulatory requirements at that date to be considered “well-capitalized” under applicable regulations were 5.0%, 6.5%, 8.0% and 10.0%, respectively. At September 30, 2017, the Bank was considered “well-capitalized” under applicable regulatory guidelines.

 

Off-Balance Sheet Arrangements

 

In the normal course of operations, the Company engages in a variety of financial transactions that, in accordance with GAAP, are not recorded on the Company’s financial statements. These transactions involve, to varying degrees, elements of credit, interest rate and liquidity risk. Such transactions are primarily used to manage customers’ requests for funding and take the form of loan commitments and letters of credit. A further presentation of the Company’s off-balance sheet arrangements is presented in the Company’s Annual Report on Form 10-K for the year ended December 31, 2016.

 

For the nine months ended September 30, 2017, the Company did not engage in any off-balance sheet transactions reasonably likely to have a material effect on the Company’s financial condition, results of operations or cash flows.

 

 

-47-
 

 

PART I – ITEM 3

 

QUANTITATIVE AND QUALITATIVE DISCLOSURES

ABOUT MARKET RISK

FIRST CAPITAL, INC.

 

Qualitative Aspects of Market Risk. Market risk is the risk that the estimated fair value of the Company’s assets and liabilities will decline as a result of changes in interest rates or financial market volatility, or that the Company’s net income will be significantly reduced by interest rate changes.

 

The Company’s principal financial objective is to achieve long-term profitability while reducing its exposure to fluctuating market interest rates. The Company has sought to reduce the exposure of its earnings to changes in market interest rates by attempting to manage the mismatch between asset and liability maturities and interest rates. In order to reduce the exposure to interest rate fluctuations, the Company has developed strategies to manage its liquidity, shorten its effective maturities of certain interest-earning assets and decrease the interest rate sensitivity of its asset base. Management has sought to decrease the average maturity of its assets by emphasizing the origination of short-term commercial and consumer loans, all of which are retained by the Company for its portfolio. The Company relies on retail deposits as its primary source of funds. Management believes retail deposits, compared to brokered deposits, reduce the effects of interest rate fluctuations because they generally represent a more stable source of funds.

 

Quantitative Aspects of Market Risk. The Company does not maintain a trading account for any class of financial instrument nor does the Company engage in hedging activities or purchase high-risk derivative instruments. Furthermore, the Company is not subject to foreign currency exchange rate risk or commodity price risk.

 

Potential cash flows, sales, or replacement value of many of our assets and liabilities, especially those that earn or pay interest, are sensitive to changes in the general level of interest rates. This interest rate risk arises primarily from our normal business activities of gathering deposits, extending loans and investing in investment securities. Many factors affect the Company’s exposure to changes in interest rates, such as general economic and financial conditions, customer preferences, historical pricing relationships, and re-pricing characteristics of financial instruments. The Company’s earnings can also be affected by the monetary and fiscal policies of the U.S. Government and its agencies, particularly the Federal Reserve Board.

 

An element in the Company’s ongoing process is to measure and monitor interest rate risk using a Net Interest Income at Risk simulation to model the interest rate sensitivity of the balance sheet and to quantify the impact of changing interest rates on the Company. The model quantifies the effects of various possible interest rate scenarios on projected net interest income over a one-year horizon. The model assumes a semi-static balance sheet and measures the impact on net interest income relative to a base case scenario of hypothetical changes in interest rates over twelve months and provides no effect given to any steps that management might take to counter the effect of the interest rate movements. The scenarios include prepayment assumptions, changes in the level of interest rates, the shape of the yield curve, and spreads between market interest rates in order to capture the impact from re-pricing, yield curve, option, and basis risks.

 

 

-48-
 

 

PART I – ITEM 3

 

QUANTITATIVE AND QUALITATIVE DISCLOSURES

ABOUT MARKET RISK

FIRST CAPITAL, INC.

 

Results of the Company’s simulation modeling, which assumes an immediate and sustained parallel shift in market interest rates, project that the Company’s net interest income could change as follows over a one-year horizon, relative to our base case scenario, based on June 30, 2017 and December 31, 2016 financial information. Given the timing of the release of this report, the information as of September 30, 2017 is unavailable for inclusion in this report. Management believes that there have been no material changes in the market risk of the Company since June 30, 2017.

 

   At June 30, 2017  At December 31, 2016
Immediate Change  One Year Horizon  One Year Horizon
in the Level  Dollar  Percent  Dollar  Percent
of Interest Rates  Change  Change  Change  Change
   (Dollars in thousands)
300 bp  $1,121    4.45%  $3,470    14.14%
200 bp   986    3.92    1,485    6.05 
100 bp   598    2.38    736    3.00 
Static   0    0    0    0 
(100)bp   (1,169)   (4.65)   (1,130)   (4.61)

 

At June 30, 2017 and December 31, 2016, the Company’s simulated exposure to a change in interest rates shows that an immediate and sustained increase in rates of 1.00%, 2.00% or 3.00% would increase the Company’s net interest income over a one year horizon compared to a flat interest rate scenario. Alternatively, an immediate and sustained decrease in rates of 1.00% would decrease the Company’s net interest income at both time periods over a one year horizon compared to a flat interest rate scenario.

 

The Company also has longer term interest rate risk exposure, which may not be appropriately measured by Net Interest Income at Risk modeling. Therefore, the Company also uses an Economic Value of Equity (“EVE”) interest rate sensitivity analysis in order to evaluate the impact of its interest rate risk on earnings and capital. This is measured by computing the changes in net EVE for its cash flows from assets, liabilities and off-balance sheet items in the event of a range of assumed changes in market interest rates. EVE modeling involves discounting present values of all cash flows for on and off balance sheet items under different interest rate scenarios and provides no effect given to any steps that management might take to counter the effect of the interest rate movements. The discounted present value of all cash flows represents the Company’s EVE and is equal to the market value of assets minus the market value of liabilities, with adjustments made for off-balance sheet items. The amount of base case EVE and its sensitivity to shifts in interest rates provide a measure of the longer term re-pricing and option risk in the balance sheet.

 

 

-49-
 

 

PART I – ITEM 3

 

QUANTITATIVE AND QUALITATIVE DISCLOSURES

ABOUT MARKET RISK

FIRST CAPITAL, INC.

 

Results of the Company’s simulation modeling, which assumes an immediate and sustained parallel shift in market interest rates, project that the Company’s EVE could change as follows, relative to the Company’s base case scenario, based on June 30, 2017 and December 31, 2016 financial information. Given the timing of the release of this report, the information as of September 30, 2017 is unavailable for inclusion in this report. Management believes that there have been no material changes in the market risk of the Company’s asset and liability positions since June 30, 2017.

 

   At June 30, 2017
Immediate Change  Economic Value of Equity  Economic Value of Equity as a
in the Level  Dollar  Dollar  Percent  Percent of Present Value of Assets
of Interest Rates  Amount  Change  Change  EVE Ratio  Change
                
300bp  $109,420   $3,462    3.27%   15.48%   157bp
200bp   109,698    3,740    3.53    15.13    122bp
100bp   108,085    2,127    2.01    14.54    63bp
Static   105,958    0    0    13.91    0bp
(100)bp   106,304    346    0.33    13.61    (30)bp

 

   At December 31, 2016
Immediate Change  Economic Value of Equity  Economic Value of Equity as a
in the Level  Dollar  Dollar  Percent  Percent of Present Value of Assets
of Interest Rates  Amount  Change  Change  EVE Ratio  Change
                
300bp  $86,124   $(22,444)   (20.67)%   12.56%   (211)bp
200bp   98,996    (9,572)   (8.82)   14.07    (60)bp
100bp   107,561    (1,007)   (0.93)   14.91    24bp
Static   108,568    0    0    14.67    0bp
(100)bp   107,122    (1,446)   (1.33)   14.10    (57)bp

 

The previous tables indicate that at June 30, 2017 the Company would expect an increase in its EVE in the event of a sudden and sustained 100, 200 or 300 basis point increase in prevailing interest rates and in the event of a sudden and sustained 100 basis point decrease in prevailing interest rates. Alternatively, at December 31, 2016, the Company would expect a decrease in its EVE in the event of a sudden and sustained 100, 200 or 300 basis point increase in prevailing interest rates and in the event of a sudden and sustained 100 basis point decrease in prevailing interest rates. The changes in the Company’s sensitivity to interest rates from December 31, 2016 to June 30, 2017 are primarily due to updated deposit duration assumptions and changes in the yield curve. The Company updated the deposit duration assumptions as a result of an updated deposit decay rate study completed in 2017. The deposit decay rate study was based on the Company’s historical deposit data, including available data related to the acquired Peoples deposits, and resulted in increased deposit duration assumptions for most deposit types.

 

 

-50-
 

 

PART I – ITEM 3

 

QUANTITATIVE AND QUALITATIVE DISCLOSURES

ABOUT MARKET RISK

FIRST CAPITAL, INC.

 

The models are driven by expected behavior in various interest rate scenarios and many factors besides market interest rates affect the Company’s net interest income and EVE. For this reason, the Company models many different combinations of interest rates and balance sheet assumptions to understand its overall sensitivity to market interest rate changes. Therefore, as with any method of measuring interest rate risk, certain shortcomings are inherent in the method of analysis presented in the foregoing tables and it is recognized that the model outputs are not guarantees of actual results. For example, although certain assets and liabilities may have similar maturities or periods to repricing, they may react in different degrees to changes in market interest rates. Also, the interest rates on certain types of assets and liabilities may fluctuate in advance of changes in market interest rates, while interest rates on other types may lag behind changes in market rates. Additionally, certain assets, such as adjustable-rate mortgage loans, have features that restrict changes in interest rates on a short-term basis and over the life of the asset. Further, in the event of a change in interest rates, expected rates of prepayments on loans and early withdrawals from certificates of deposit could deviate significantly from those assumed in the modeling scenarios.

 

 

PART I - ITEM 4

 

CONTROLS AND PROCEDURES

FIRST CAPITAL, INC.

 

Controls and Procedures

 

The Company’s management, including the Company’s principal executive officer and principal financial officer, has evaluated the effectiveness of the Company’s “disclosure controls and procedures,” as such term is defined in Rule 13a-15(e) promulgated under the Securities Exchange Act of 1934, as amended, (the “Exchange Act”). Based upon their evaluation, the principal executive officer and principal financial officer concluded that, as of the end of the period covered by this report, the Company’s disclosure controls and procedures were effective for the purpose of ensuring that the information required to be disclosed in the reports that the Company files or submits under the Exchange Act with the SEC (1) is recorded, processed, summarized, and reported within the time periods specified in the SEC’s rules and forms, and (2) is accumulated and communicated to the Company’s management, including its principal executive and principal financial officers, as appropriate to allow timely decisions regarding required disclosure.

 

There have been no changes in the Company’s internal control over financial reporting during the quarter ended September 30, 2017 that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

 

 

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PART II

OTHER INFORMATION

FIRST CAPITAL, INC.

 

Item 1.Legal Proceedings

 

The Company is not a party to any legal proceedings. Periodically, there have been various claims and lawsuits involving the Bank, mainly as a plaintiff, such as claims to enforce liens, condemnation proceedings on properties in which the Bank holds security interests, claims involving the making and servicing of real property loans and other issues incident to the Bank’s business. The Bank is not a party to any pending legal proceedings that management believes would have a material adverse effect on its financial condition or operations.

 

Item 1A.Risk Factors

 

In addition to the other information set forth in this report, you should carefully consider the factors discussed in Part I, “Item 1A. Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2016, which could materially affect our business, financial condition or future results. There have been no material changes to the risk factors described in our Annual Report on Form 10-K, however these are not the only risks that we face. Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial also may materially adversely affect our business, financial condition and/or operating results.

 

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

 

Issuer Purchases of Equity Securities

 

Period  (a) Total Number of Shares Purchased  (b) Average Price Paid Per Share  (c) Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs  (d) Maximum Number of Shares that May Yet Be Purchased Under the Plans or Programs
             
July 1 through
July 31, 2017
   588    31.13    588    143,032 
                     
August 1 through
August 31, 2017
   0     
N/A 
    0    143,032 
                     
September 1 through
September 30, 2017
   0     
N/A 
    0    143,032 
                     
Total   588    31.13    588      

 

On August 19, 2008, the board of directors authorized the repurchase of up to 240,467 shares of the Company’s outstanding common stock. The stock repurchase program will expire upon the purchase of the maximum number of shares authorized under the program, unless the board of directors terminates the program earlier.

 

 

-52-
 

 

PART II

OTHER INFORMATION

FIRST CAPITAL, INC.

 

Item 3.Defaults upon Senior Securities

 

Not applicable.

 

Item 4.Mine Safety Disclosures

 

Not applicable.

 

Item 5.Other Information

 

None.

 

Item 6.Exhibits

 

  3.1 Articles of Incorporation of First Capital, Inc. (1)
  3.2 Fifth Amended and Restated Bylaws of First Capital, Inc. (2)
  11.0 Statement Re: Computation of Per Share Earnings (incorporated by reference to Note 5 of the Unaudited Consolidated Financial Statements contained herein)
  31.1 Rule 13a-14(a)/15d-14(a) Certification of Chief Executive Officer
  31.2 Rule 13a-14(a)/15d-14(a) Certification of Chief Financial Officer
  32.1 Section 1350 Certification of Chief Executive Officer
  32.2 Section 1350 Certification of Chief Financial Officer
  101.0 The following materials from the Company’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2017, formatted in XBRL (Extensible Business Reporting Language): (i) the Consolidated Balance Sheets, (ii) the Consolidated Statements of Income, (iii) the Consolidated Statements of Comprehensive Income, (iv) the Consolidated Statement of Changes in Stockholders’ Equity, (v) the Consolidated Statements of Cash Flows and (vi) the Notes to the Consolidated Financial Statements.
     

___________________

*Management contract or compensatory plan, contract or arrangement.
  
(1)Incorporated by reference to Exhibit 3.1 filed with the Registration Statement on Form SB-2 on September 16, 1998, and any amendments thereto, Registration No. 333-63515, as amended by that Amendment to Articles of Incorporation provided as Exhibit 3.1 to the Report on Form 8-K files with the Securities and Exchange Commission on May 19, 2016.
(2)Incorporated by reference to Exhibit 3.2 to the Current Report on Form 8-K filed with the Securities and Exchange Commission on June 18, 2013.

 

 

-53-
 

 

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.

 

 

    FIRST CAPITAL, INC.
    (Registrant)
     
     
Dated   November 9, 2017   BY:   /s/William W. Harrod
      William W. Harrod
      President and CEO
       
       
Dated   November 9, 2017   BY:   /s/ Michael C. Frederick
      Michael C. Frederick
      Executive Vice President, CFO
      and Treasurer
     

 

 

 

 

 

 

 

-54-