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FNCB Bancorp, Inc. - Quarter Report: 2019 September (Form 10-Q)

fncb20180331_10q.htm
 

 

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C.  20549

 


 

FORM 10-Q

 

(Mark One)

 

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

 

For the quarterly period ended September 30, 2019

 

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. 001-38408

 

FNCB BANCORP, INC.

(Exact Name of Registrant as Specified in Its Charter)

 

Pennsylvania

 

23-2900790

(State or Other Jurisdiction

of Incorporation or Organization)

 

(I.R.S. Employer

Identification No.)

     

102 E. Drinker St., Dunmore, PA

 

18512

(Address of Principal Executive Offices)

 

(Zip Code)

(570) 346-7667

Registrant’s telephone number, including area code 

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

 

Title of each class Trading Symbol(s) Name of each exchange on which registered
Common stock, $1.25 par value FNCB Nasdaq Capital Market

 

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

 

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

 

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

 

Large accelerated filer ☐

 

Accelerated filer ☒

Non-accelerated filer ☐ 

  Smaller reporting company ☒

 

 

 

Emerging growth company ☐

 

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

 

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

 

 

 

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock as of the latest practicable date: 20,170,532 shares as of November 5, 2019

 



 

 
1

 

Contents  
PART I. Financial Information 3
Item 1. Financial Statements (unaudited) 3
Consolidated Statements of Financial Condition 3
Consolidated Statements of Income 4
Consolidated Statements of Comprehensive Income (Loss) 5
Consolidated Statements of Changes in Shareholders’ Equity 6
Consolidated Statements of Cash Flows 7
Notes to Consolidated Financial Statements 8
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 30
Item 3. Quantitative and Qualitative Disclosures about Market Risk 49
Item 4. Controls and Procedures 49
PART II.  Other Information 50
Item 1. Legal Proceedings. 50
Item 1A. Risk Factors. 50
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds. 50
Item 3. Defaults upon Senior Securities. 50
Item 4. Mine Safety Disclosures. 51
Item 5. Other Information. 51
Item 6. Exhibits. 51

     

 

Part I - Financial Information

Item 1 - Financial Statements

 

FNCB BANCORP, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION

(unaudited)

 

   

September 30,

   

December 31,

 

(in thousands, except share data)

 

2019

   

2018

 

Assets

               

Cash and cash equivalents:

               

Cash and due from banks

  $ 30,900     $ 26,673  

Interest-bearing deposits in other banks

    6,611       9,808  

Total cash and cash equivalents

    37,511       36,481  

Available-for-sale debt securities, at fair value

    254,666       296,032  

Equity securities, at fair value

    922       891  

Restricted stock, at cost

    4,194       3,123  

Loans held for sale

    1,140       820  

Loans, net of allowance for loan and lease losses of $9,315 and $9,519

    827,562       829,581  

Bank premises and equipment, net

    17,274       14,425  

Accrued interest receivable

    3,038       3,614  

Bank-owned life insurance

    31,104       31,015  

Other real estate owned

    412       919  

Net deferred tax assets

    6,691       10,693  

Other assets

    12,676       10,138  

Total assets

  $ 1,197,190     $ 1,237,732  
                 

Liabilities

               

Deposits:

               

Demand (non-interest-bearing)

  $ 179,025     $ 156,600  

Interest-bearing

    785,035       939,029  

Total deposits

    964,060       1,095,629  

Borrowed funds:

               

Federal Home Loan Bank of Pittsburgh advances

    79,458       18,930  

Subordinated debentures

    -       5,000  

Junior subordinated debentures

    10,310       10,310  

Total borrowed funds

    89,768       34,240  

Accrued interest payable

    401       338  

Other liabilities

    10,394       10,306  

Total liabilities

  $ 1,064,623     $ 1,140,513  
                 

Shareholders' equity

               

Preferred shares ($1.25 par)

               

Authorized: 20,000,000 shares at September 30, 2019 and December 31, 2018

               

Issued and outstanding: 0 shares at September 30, 2019 and December 31, 2018

    -       -  

Common shares ($1.25 par)

               

Authorized: 50,000,000 shares at September 30, 2019 and December 31, 2018

               

Issued and outstanding: 20,169,492 shares at September 30, 2019 and 16,821,371 shares at December 31, 2018

    25,211       21,026  

Additional paid-in capital

    81,058       63,547  

Retained earnings

    21,733       17,186  

Accumulated other comprehensive income (loss)

    4,565       (4,540 )

Total shareholders' equity

    132,567       97,219  

Total liabilities and shareholders’ equity

  $ 1,197,190     $ 1,237,732  

 

The accompanying notes to consolidated financial statements are an integral part of these statements.

 

 

 

FNCB BANCORP, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF INCOME

(unaudited)

 

   

Three Months Ended September 30,

   

Nine Months Ended September 30,

 

(in thousands, except share data)

 

2019

   

2018

   

2019

   

2018

 

Interest income

                               

Interest and fees on loans

  $ 9,488     $ 9,501     $ 28,313     $ 26,820  

Interest and dividends on securities:

                               

U.S. government agencies

    924       899       2,723       2,675  

State and political subdivisions, tax free

    37       37       112       95  

State and political subdivisions, taxable

    713       1,028       2,545       3,079  

Other securities

    314       211       729       646  

Total interest and dividends on securities

    1,988       2,175       6,109       6,495  

Interest on interest-bearing deposits in other banks

    30       17       155       52  

Total interest income

    11,506       11,693       34,577       33,367  

Interest expense

                               

Interest on deposits

    1,901       1,559       6,283       3,760  

Interest on borrowed funds:

                               

Interest on Federal Home Loan Bank of Pittsburgh advances

    448       715       988       1,774  

Interest on subordinated debentures

    -       58       24       171  

Interest on junior subordinated debentures

    106       106       331       292  

Total interest on borrowed funds

    554       879       1,343       2,237  

Total interest expense

    2,455       2,438       7,626       5,997  

Net interest income before provision for loan and lease losses

    9,051       9,255       26,951       27,370  

Provision for loan and lease losses

    637       1,149       830       2,749  

Net interest income after provision for loan and lease losses

    8,414       8,106       26,121       24,621  

Non-interest income

                               

Deposit service charges

    797       711       2,203       2,160  

Net gain (loss) on the sale of available-for-sale debt securities

    379       -       702       (4 )

Net gain (loss) on equity securities

    5       (8 )     31       (34 )

Net gain on the sale of mortgage loans held for sale

    69       71       198       171  

Net gain on the sale of SBA guaranteed loans

    -       -       -       322  

Net gain on the sale of other real estate owned

    11       -       20       31  

Loan-related fees

    80       85       231       245  

Income from bank-owned life insurance

    134       141       394       413  
Merchant services revenue     142       135       391       365  

Other

    214       185       754       699  

Total non-interest income

    1,831       1,320       4,924       4,368  

Non-interest expense

                               

Salaries and employee benefits

    3,911       3,581       11,634       10,732  

Occupancy expense

    460       500       1,454       1,629  

Equipment expense

    332       299       968       936  

Advertising expense

    228       193       579       519  

Data processing expense

    742       745       2,312       2,040  

Regulatory assessments

    21       251       265       648  

Bank shares tax

    205       278       760       767  

Expense of other real estate owned

    62       91       127       191  

Professional fees

    189       241       724       733  

Insurance expense

    128       130       374       398  
Directors fees     236       85       405       256  

Other losses

    16       28       26       155  

Other operating expenses

    799       766       2,248       2,382  

Total non-interest expense

    7,329       7,188       21,876       21,386  

Income before income tax expense

    2,916       2,238       9,169       7,603  

Income tax expense

    513       388       1,582       1,322  

Net income

  $ 2,403     $ 1,850     $ 7,587     $ 6,281  
                                 

Earnings per share

                               

Basic

  $ 0.12     $ 0.11     $ 0.39     $ 0.37  

Diluted

  $ 0.12     $ 0.11     $ 0.39     $ 0.37  
                                 

Cash dividends declared per common share

  $ 0.05     $ 0.04     $ 0.15     $ 0.12  

WEIGHTED AVERAGE NUMBER OF SHARES OUTSTANDING:

                               

Basic

    20,168,529       16,818,625       19,678,031       16,791,815  

Diluted

    20,172,282       16,838,547       19,683,522       16,813,948  

 

The accompanying notes to consolidated financial statements are an integral part of these statements.

 

 

 

FNCB BANCORP, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)

(unaudited)

 

   

Three Months Ended September 30,

   

Nine Months Ended September 30,

 

(in thousands)

 

2019

   

2018

   

2019

   

2018

 

Net income

  $ 2,403     $ 1,850     $ 7,587     $ 6,281  

Other comprehensive income (loss):

                               

Unrealized gains (losses) on available-for-sale debt securities

    1,964       (2,302 )     12,227       (9,118 )

Taxes

    (412 )     483       (2,567 )     1,914  

Net of tax amount

    1,552       (1,819 )     9,660       (7,204 )
                                 

Reclassification adjustment for (gains) losses included in net income

    (379 )     -       (702 )     4  

Taxes

    79       -       147       (1 )

Net of tax amount

    (300 )     -       (555 )     3  
                                 

Total other comprehensive income (loss)

    1,252       (1,819 )     9,105       (7,201 )
                                 

Comprehensive income (loss)

  $ 3,655     $ 31     $ 16,692     $ (920 )

 

The accompanying notes to consolidated financial statements are an integral part of these statements.

 

 

 

FNCB BANCORP, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY

For the Nine Months Ended September 30, 2019 and 2018

(unaudited)

 

(in thousands, except per share data)

 

Number of Common Shares

   

Common Stock

   

Additional Paid-in Capital

   

Retained Earnings

   

Accumulated Other Comprehensive (Loss) Income

   

Total Shareholders' Equity

 

Balances, December 31, 2017

    16,757,963     $ 20,947     $ 63,210     $ 6,779     $ (1,745 )   $ 89,191  

Net income for the period

    -       -       -       2,019       -       2,019  

Cash dividends paid, $0.04 per share

    -       -       -       (671 )     -       (671 )

Reclassification of unrealized loss on equity securities, net of tax

    -       -       -       (65 )     65       -  

Restricted stock awards

    -       -       72       -       -       72  

Common shares issued through dividend reinvestment / optional cash purchase plan

    8,637       11       53       (5 )     -       59  

Other comprehensive loss, net of tax of $1,044

    -       -       -       -       (3,932 )     (3,932 )
Balances, March 31, 2018     16,766,600       20,958       63,335       8,057       (5,612 )     86,738  

Net income for the period

    -       -       -       2,412       -       2,412  
Cash dividends paid, $0.04 per share     -       -       -       (672 )     -       (672 )
Reclassification of unrealized loss on equity securities, net of tax     -       -       -       -       -       -  

Restricted stock awards

    -       -       65       -       -       65  

Common shares issued under long-term incentive compensation plan

    46,358       58       (58 )     -       -       -  

Common shares issued through dividend reinvestment / optional cash purchase plan

    4,139       5       32       (5 )     -       32  
Other comprehensive loss, net of tax of $386     -       -       -       -       (1,450 )     (1,450 )
Balances, June 30, 2018     16,817,097       21,021       63,374       9,792       (7,062 )     87,125  
Net income for the period     -       -       -       1,850       -       1,850  
Cash dividends paid, $0.04 per share     -       -       -       (673 )     -       (673 )
Reclassification of unrealized loss on equity securities, net of tax     -       -       -       -       -       -  
Restricted stock awards     -       -       78       -       -       78  

Common shares issued under long-term incentive compensation plan

    -       -       -       -       -       -  
Common shares issued through dividend reinvestment / optional cash purchase plan     2,374       3       17       (4 )     -       16  
Other comprehensive loss, net of tax of $483     -       -       -       -       (1,819 )     (1,819 )

Balances, September 30, 2018

    16,819,471     $ 21,024     $ 63,469     $ 10,965     $ (8,881 )   $ 86,577  
                                                 

Balances, December 31, 2018

    16,821,371     $ 21,026     $ 63,547     $ 17,186     $ (4,540 )   $ 97,219  
Net income for the period     -       -       -       2,635       -       2,635  

Cash dividends paid, $0.05 per share

    -       -       -       (1,006 )     -       (1,006 )

Common shares issued for capital raise, net

    3,285,550       4,107       17,201       -       -       21,308  
Restricted stock awards     -       -       67       -       -       67  
Common shares issued through dividend reinvestment / optional cash purchase plan     1,639       2       12       (6 )     -       8  

Other comprehensive income, net of tax of $944

    -       -       -       -       3,551       3,551  
Balances, March 31, 2019     20,108,560       25,135       80,827       18,809       (989 )     123,782  
Net income for the period     -       -       -       2,549       -       2,549  
Cash dividends paid, $0.05 per share     -       -       -       (1,007 )     -       (1,007 )
Common shares issued for capital raise, net     -       -       -       -       -       -  
Restricted stock awards     -       -       73       -       -       73  
Common shares issued under long-term incentive compensation plan     37,558       47       (47 )     -       -       -  
Common shares issued through dividend reinvestment / optional cash purchase plan     1,899       2       11       (6 )     -       7  
Other comprehensive income, net of tax of $1,143     -       -       -       -       4,302       4,302  
Balances, June 30, 2019     20,148,017       25,184       80,864       20,345       3,313       129,706  
Net income for the period     -       -       -       2,403       -       2,403  
Cash dividends paid, $0.05 per share     -       -       -       (1,008 )     -       (1,008 )
Common shares issued for capital raise, net     -       -       -       -       -       -  
Restricted stock awards     -       -       56       -       -       56  
Common shares issued under long-term incentive compensation plan     19,560       24       126       -       -       150  
Common shares issued through dividend reinvestment / optional cash purchase plan     1,915       3       12       (7 )     -       8  
Other comprehensive income, net of tax of $333     -       -       -       -       1,252       1,252  

Balances, September 30, 2019

    20,169,492     $ 25,211     $ 81,058     $ 21,733     $ 4,565     $ 132,567  

 

The accompanying notes to consolidated financial statements are an integral part of these statements.

 

 

 

FNCB BANCORP, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(unaudited)

 

   

Nine Months Ended September 30,

 

(in thousands)

 

2019

   

2018

 

Cash flows from operating activities:

               

Net income

  $ 7,587     $ 6,281  

Adjustments to reconcile net income to net cash provided by operating activities:

               

Investment securities amortization, net

    613       607  

Equity in trust

    (10 )     (9 )
Depreciation and amortization     2,294       2,126  

Valuation adjustment for loan servicing rights

    6       -  

Stock-based compensation expense

    346       215  

Provision for loan and lease losses

    830       2,749  

Valuation adjustment for off-balance sheet commitments

    245       (111 )

Net (gain) loss on the sale of available-for-sale debt securities

    (702 )     4  

Net (gain) loss on equity securities

    (31 )     34  
Net gain on the sale of mortgage loans held for sale     (198 )     (171 )

Net gain on the sale of SBA guaranteed loans

    -       (322 )

Net gain on the sale of other real estate owned

    (20 )     (31 )

Valuation adjustment of other real estate owned

    14       89  
Loss on disposition of bank premises and equipment     4       44  

Gain on bank-owned life insurance settlement

    (114 )     -  

Income from bank-owned life insurance

    (394 )     (413 )
Proceeds from the sale of mortgage loans held for sale     7,271       7,904  
Funds used to originate mortgage loans held for sale     (7,393 )     (7,576 )

Decrease in net deferred tax assets

    1,582       1,316  

Decrease (increase) in accrued interest receivable

    576       (827 )

(Increase) decrease in prepaid expenses and other assets

    (2,506 )     1,311  

Increase in accrued interest payable

    63       77  
Decrease in director indemnification liability     -       (2,553 )

Decrease in accrued expenses and other liabilities

    (491 )     (177 )
Total adjustments     1,985       4,286  
Net cash provided by operating activities     9,572       10,567  
                 

Cash flows from investing activities:

               

Maturities, calls and principal payments of available-for-sale debt securities

    6,454       4,675  
Proceeds from the sale of available-for-sale debt securities     102,345       4,559  
Purchases of available-for-sale debt securities     (55,819 )     (18,280 )

Purchase of the stock in Federal Home Loan Bank of Pittsburgh

    (1,071 )     (570 )

Net increase in loans to customers

    (29 )     (102,370 )

Proceeds from the sale of SBA guaranteed loans

    -       6,032  

Proceeds from the sale of other real estate owned

    769       470  

Proceeds received from bank-owned life insurance

    419       -  
Purchases of bank premises and equipment     (3,879 )     (4,818 )
Net cash provided by (used in) investing activities     49,189       (110,302 )
                 

Cash flows from financing activities:

               

Net (decrease) increase in deposits

    (131,569 )     92,673  

Net proceeds from Federal Home Loan Bank of Pittsburgh advances - overnight

    8,300       -  

Proceeds from Federal Home Loan Bank of Pittsburgh advances - term

    62,713       73,929  

Repayment of Federal Home Loan Bank of Pittsburgh advances - term

    (10,485 )     (72,407 )

Principal reduction on subordinated debentures

    (5,000 )     -  

Proceeds from issuance of common shares, net of discount

    21,331       107  

Cash dividends paid

    (3,021 )     (2,016 )

Net cash (used in) provided by financing activities

    (57,731 )     92,286  
Net increase (decrease) in cash and cash equivalents     1,030       (7,449 )

Cash and cash equivalents at beginning of period

    36,481       37,746  

Cash and cash equivalents at end of period

  $ 37,511     $ 30,297  
                 

Supplemental cash flow information

               

Cash paid during the period for:

               

Interest

  $ 7,563     $ 5,920  

Income taxes

    -       23  

Other transactions:

               

Lease liabilities arising from obtaining right-of-use assets

    78       -  
Bank premises and equipment transferred to other real estate owned     -       220  
Investor loans transferred to other real estate     256       -  

 

The accompanying notes to consolidated financial statements are an integral part of these statements.

 

 

FNCB BANCORP, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(unaudited)

 

 

Note 1.   Basis of Presentation

 

The consolidated financial statements of FNCB are comprised of the accounts of FNCB Bancorp, Inc., and its wholly owned subsidiary, FNCB Bank (the “Bank”), as well as the Bank’s wholly owned subsidiaries (collectively, “FNCB”). The accounting and reporting policies of FNCB conform to accounting principles generally accepted in the United States of America (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10-01 of Regulation S-X. Accordingly, they do not include all the information and accompanying notes required by GAAP for complete financial statements. In the opinion of management, all adjustments necessary for a fair presentation of the financial position and the results of operations for the periods presented have been included in the consolidated financial statements. All intercompany balances and transactions have been eliminated in consolidation. Prior period amounts have been reclassified when necessary to conform to the current period’s presentation. Such reclassifications did not have an impact on the operating results or financial position of FNCB. The operating results and financial position of FNCB for the three and nine months ended September 30, 2019, may not be indicative of future results of operations and financial position.

 

The preparation of financial statements in accordance with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ significantly from those estimates. Material estimates that are particularly susceptible to change in the near term are the allowance for loan and lease losses (“ALLL”), securities’ valuation and impairment evaluation, the valuation of other real estate owned (“OREO”), and income taxes.

 

These financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in FNCB’s audited financial statements, included in the Annual Report filed on Form 10-K as of and for the year ended December 31, 2018.

 

 

Note 2.   New Authoritative Accounting Guidance

 

Accounting Guidance to be Adopted in Future Periods

 

Accounting Standards Update ("ASU") 2016-13, Financial Instruments – Credit Losses (Topic 326): “Measurement of Credit Losses on Financial Instruments,” replaces the current loss impairment methodology under GAAP with a methodology that reflects expected credit losses and requires consideration of a broader range of reasonable and supportable information to form credit loss estimates in an effort to provide financial statement users with more decision-useful information about the expected credit losses on financial instruments and other commitments to extend credit. Specifically, the amendments in this ASU will require a financial asset (or a group of financial assets) measured at amortized cost basis to be presented at the net amount expected to be collected. The amendments in this update affect entities holding financial assets and net investment in leases that are not accounted for at fair value through net income, including such financial assets as loans, debt securities, trade receivables, net investments in leases, off-balance-sheet credit exposures, reinsurance receivables, and any other financial assets not excluded from the scope that have the contractual right to receive cash. On June 17, 2016, the four federal financial institution regulatory agencies (the Board of Governors of the Federal Reserve System, the Federal Deposit Insurance Corporation, the National Credit Union Administration and the Office of the Comptroller of the Currency) issued a joint statement to provide information about ASU 2016-13 and the initial supervisory views regarding the implementation of the new standard. The joint statement applies to all banks, savings associations, credit unions and financial institution holding companies, regardless of asset size. The statement details the key elements of, and the steps necessary for, the successful transition to the new accounting standard. In addition, the statement notifies financial institutions that because the appropriate allowance levels are institution-specific amounts, the agencies will not establish benchmark targets or ranges for the change in institutions’ allowance levels upon adoption of the ASU, or for allowance levels going forward. Due to the importance of ASU 2016-13, the agencies encourage financial institutions to begin planning and preparing for the transition and state that senior management, under the oversight of the board of directors, should work closely with staff in their accounting, lending, credit risk management, internal audit, and information technology functions during the transition period leading up to, and well after, adoption. ASU 2016-13 was originally effective for public business entities that are registered with the U.S. Securities and Exchange Commission (“SEC”) under the Securities Exchange Act of 1934, as amended, including smaller reporting companies, for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. All entities may adopt the amendments in this ASU earlier as of the fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. On October 16, 2019, the Financial Accounting Standards Board ("FASB") approved its August 2019 proposal to extend the effective date for implementation for smaller reporting companies, private companies and not-for-profits to fiscal years, and interim periods within those years, beginning after December 15, 2022. The FASB expects to issue a final ASU containing this decision in November 2019. Accordingly, FNCB will adopt this guidance on January 1, 2023. FNCB has created a Current Expected Credit Loss (“CECL”) task group comprised of members of its finance, credit administration, lending, internal audit, loan operations and information systems units. The CECL task group understands the provisions of ASU 2016-13 and is currently in the process of implementing the new guidance, which includes, but is not limited to: (1) identifying segments and sub-segments within the loan portfolio that have similar risk characteristics; (2) determining the appropriate methodology for each segment; (3) implementing changes that are necessary to its core operating system and interfaces to be able to capture appropriate data requirements; and (4) evaluating  qualitative factors and economic data to develop appropriate forecasts for integration into the model.  FNCB is currently evaluating the effect this guidance may have on its operating results and/or financial position, including assessing any potential impact on its capital.

 

Refer to Note 2 to FNCB’s consolidated financial statements included in the 2018 Annual Report on Form 10-K for a discussion of additional accounting guidance applicable to FNCB that will be adopted in future periods.

 

 

 

Note 3. Securities

 

Debt Securities

 

The following tables present the amortized cost, gross unrealized gains and losses, and the fair value of FNCB’s available-for-sale debt securities at September 30, 2019 and December 31, 2018:

 

   

September 30, 2019

 
           

Gross

   

Gross

         
           

Unrealized

   

Unrealized

         
   

Amortized

   

Holding

   

Holding

   

Fair

 

(in thousands)

 

Cost

   

Gains

   

Losses

   

Value

 

Available-for-sale debt securities:

                               

Obligations of state and political subdivisions

  $ 98,358     $ 3,332     $ 7     $ 101,683  

U.S. government/government-sponsored agencies:

                               

Collateralized mortgage obligations - residential

    66,087       873       120       66,840  

Collateralized mortgage obligations - commercial

    42,812       1,025       15       43,822  

Mortgage-backed securities

    18,230       515       -       18,745  

Private collateralized mortgage obligations

    9,993       70       -       10,063  

Corporate debt securities

    6,000       104       3       6,101  

Asset-backed securities

    5,227       3       1       5,229  

Negotiable certificates of deposit

    2,181       2       -       2,183  

Total available-for-sale debt securities

  $ 248,888     $ 5,924     $ 146     $ 254,666  

 

 

   

December 31, 2018

 
           

Gross

   

Gross

         
           

Unrealized

   

Unrealized

         
   

Amortized

   

Holding

   

Holding

   

Fair

 

(in thousands)

 

Cost

   

Gains

   

Losses

   

Value

 

Available-for-sale debt securities:

                               

Obligations of state and political subdivisions

  $ 154,268     $ 214     $ 2,295     $ 152,187  

U.S. government/government-sponsored agencies:

                               

Collateralized mortgage obligations - residential

    35,147       6       946       34,207  

Collateralized mortgage obligations - commercial

    76,038       -       2,398       73,640  

Mortgage-backed securities

    24,165       47       278       23,934  

Private collateralized mortgage obligations

    2,908       7       2       2,913  

Corporate debt securities

    5,000       14       78       4,936  

Asset-backed securities

    1,825       -       23       1,802  

Negotiable certificates of deposit

    2,428       -       15       2,413  

Total available-for-sale debt securities

  $ 301,779     $ 288     $ 6,035     $ 296,032  

 

Except for securities of U.S. government and government-sponsored agencies, there were no securities of any individual issuer that exceeded 10.0% of shareholders’ equity at September 30, 2019.

 

At September 30, 2019 and December 31, 2018, securities with a carrying amount of $233.3 million and $286.4 million, respectively, were pledged as collateral to secure public deposits and for other purposes.

 

 

The following table presents the maturity information of FNCB’s available-for-sale debt securities at September 30, 2019.  Expected maturities will differ from contractual maturity because issuers may have the right to call or prepay obligations with or without call or prepayment penalties. Because collateralized mortgage obligations, mortgage-backed securities and asset-backed securities are not due at a single maturity date, they are not included in the maturity categories in the following maturity summary.

 

   

September 30, 2019

 
   

Amortized

   

Fair

 

(in thousands)

 

Cost

   

Value

 

Amounts maturing in:

               

One year or less

  $ 3,182     $ 3,187  

After one year through five years

    40,529       41,666  

After five years through ten years

    58,826       61,041  

After ten years

    4,002       4,073  

Collateralized mortgage obligations

    118,892       120,725  

Mortgage-backed securities

    18,230       18,745  

Asset-backed securities

    5,227       5,229  

Total

  $ 248,888     $ 254,666  

 

Gross proceeds from the sale of available-for-sale debt securities were $40.9 million and $102.3 million for the three and nine months ended September 30, 2019, respectively. For the three months ended September 30, 2019 gross gains and losses realized upon the sales were $383 thousand and $4 thousand, respectively. Gross gains and losses realized upon the sales for the nine months ended September 30, 2019 totaled $732 thousand and $30 thousand, respectively. There  were no sales of available-for-sale debt securities for the three months ended September 30, 2018.  Gross proceeds from the sale of available-for-sale debt securities were $4.6 million for the nine months ended September 30, 2018, with gross losses of $4 thousand realized upon the sales. There were no gross gains realized upon the sales for the nine months ended September 30, 2018.  

 

The following tables present the number, fair value and gross unrealized losses of available-for-sale debt securities with unrealized losses at September 30, 2019 and December 31, 2018, aggregated by investment category and length of time the securities have been in an unrealized loss position.

 

   

September 30, 2019

 
   

Less than 12 Months

   

12 Months or Greater

   

Total

 
   

Number

           

Gross

   

Number

           

Gross

   

Number

           

Gross

 
   

of

   

Fair

   

Unrealized

   

of

   

Fair

   

Unrealized

   

of

   

Fair

   

Unrealized

 

(dollars in thousands)

 

Securities

   

Value

   

Losses

   

Securities

   

Value

   

Losses

   

Securities

   

Value

   

Losses

 

Obligations of state and political subdivisions

    2     $ 2,590     $ 7       -     $ -     $ -       2     $ 2,590     $ 7  

U.S. government/government-sponsored agencies:

                                                                       

Collateralized mortgage obligations - residential

    5       25,193       120       -       -       -       5       25,193       120  

Collateralized mortgage obligations - commercial

    1       2,498       15       -       -       -       1       2,498       15  

Mortgage-backed securities

    -       -       -       -       -       -       -       -       -  

Private collateralized mortgage obligations

    -       -       -       -       -       -       -       -       -  

Corporate debt securities

    1       1,997       3       -       -       -       1       1,997       3  

Asset-backed securities

    -       -       -       1       894       1       1       894       1  

Negotiable certificates of deposit

    -       -       -       -       -       -       -       -       -  

Total available-for-sale debt securities

    9     $ 32,278     $ 145       1     $ 894     $ 1       10     $ 33,172     $ 146  

 

 

   

December 31, 2018

 
   

Less than 12 Months

   

12 Months or Greater

   

Total

 
   

Number

           

Gross

   

Number

           

Gross

   

Number

           

Gross

 
   

of

   

Fair

   

Unrealized

   

of

   

Fair

   

Unrealized

   

of

   

Fair

   

Unrealized

 

(dollars in thousands)

 

Securities

   

Value

   

Losses

   

Securities

   

Value

   

Losses

   

Securities

   

Value

   

Losses

 

Obligations of state and political subdivisions

    3     $ 7,154     $ 205       109     $ 112,563     $ 2,090       112     $ 119,717     $ 2,295  

U.S. government/government-sponsored agencies:

                                                                       

Collateralized mortgage obligations - residential

    -       -       -       14       31,414       946       14       31,414       946  

Collateralized mortgage obligations - commercial

    -       -       -       25       73,640       2,398       25       73,640       2,398  

Mortgage-backed securities

    1       52       -       6       10,294       278       7       10,346       278  

Private collateralized mortgage obligations

    1       950       2       -       -       -       1       950       2  

Corporate debt securities

    2       2,922       78       -       -       -       2       2,922       78  

Asset-backed securities

    1       369       2       1       1,433       21       2       1,802       23  

Negotiable certificates of deposit

    3       740       3       7       1,673       12       10       2,413       15  

Total available-for-sale debt securities

    11     $ 12,187     $ 290       162     $ 231,017     $ 5,745       173     $ 243,204     $ 6,035  

 

 

Management evaluates individual securities in an unrealized loss position quarterly for other than temporary impairment (“OTTI”). As part of its evaluation, management considers, among other things, the length of time a security’s fair value is less than its amortized cost, the severity of decline, any credit deterioration of the issuer, whether or not management intends to sell the security, and whether it is more likely than not that FNCB will be required to sell the security prior to recovery of its amortized cost.

 

There were 10 securities in an unrealized loss position at September 30, 2019, including six securities issued by a U.S. government or government-sponsored agency, two obligations of state and political subdivisions, one asset-backed security and one corporate debt security. Management performed a review of all securities in an unrealized loss position as of September 30, 2019 and determined that changes in the fair values of the securities were consistent with movements in market interest rates. In addition, as part of its review, management noted that there was no material change in the credit quality of any of the issuers or any other event or circumstance that may cause a significant adverse effect on the fair value of these securities. Moreover, to date, FNCB has received all scheduled principal and interest payments and expects to fully collect all future contractual principal and interest payments on all securities in an unrealized loss position at September 30, 2019. FNCB does not intend to sell the securities, nor is it more likely than not that it will be required to sell the securities, prior to recovery of their amortized cost. Based on the results of its review and considering the attributes of these debt securities, management concluded that the individual unrealized losses were temporary and OTTI did not exist at September 30, 2019.

 

Equity Securities

 

FNCB’s investment in equity securities consists entirely of a mutual fund investment comprised of one- to four-family residential mortgage-backed securities collateralized by properties within FNCB’s geographical market. At September 30, 2019, this mutual fund had an amortized cost of $1 million and an unrealized loss of $78 thousand, resulting in a fair value of $922 thousand. In accordance with ASU 2016-01, Financial Instruments – Overall (Subtopic 825-10): “Recognition and Measurement of Financial Assets and Financial Liabilities” which became effective January 1, 2018, FNCB recognizes any changes in the fair value of this equity security in the consolidated statements of income on a prospective basis. Upon the adoption of this new accounting guidance on January 1, 2018, FNCB recorded a one-time reclassification between retained earnings and accumulated other comprehensive loss for the unrealized loss on this mutual fund, net of taxes, of $65 thousand. The following table presents unrealized and realized gains and losses recognized in net income on equity securities for the nine months ended September 30, 2019 and 2018.

 

   

Nine Months Ended September 30,

 

(in thousands)

 

2019

   

2018

 

Net gains (losses) recognized on equity securities

  $ 31     $ (34 )

Less: net gains (losses) recognized on equity securities sold

    -       -  

Unrealized gains (losses) on equity securities held

  $ 31     $ (34 )

 

 

Restricted Securities

 

The following table presents FNCB's investment in restricted securities at September 30, 2019 and December 31, 2018.  Restricted securities have limited marketability and are carried at cost.

 

   

September 30,

   

December 31,

 

(in thousands)

 

2019

   

2018

 

Stock in Federal Home Loan Bank of Pittsburgh

  $ 4,184     $ 3,113  

Stock in Atlantic Community Banker's Bank

    10       10  

Total restricted securities, at cost

  $ 4,194     $ 3,123  

 

Management noted no indicators of impairment for the Federal Home Loan Bank of Pittsburgh or Atlantic Community Banker’s Bank stock at September 30, 2019 and December 31, 2018.

 

Equity Securities without Readily Determinable Fair Values

 

FNCB owns a $1.7 million investment in the common stock of a privately-held bank holding company. The common stock was purchased during 2017 as part of a private placement pursuant to an exemption from the registration requirements of the Securities Act of 1933, as amended, for offerings not involving any public offering. The common stock of such bank holding company is not currently traded on any established market and is not expected to be traded in the near future on any securities exchange or established over-the-counter market. FNCB has elected to account for this transaction as an investment in an equity security without a readily determinable fair value. An equity security without a readily determinable fair value shall be written down to its fair value if a qualitative assessment indicates that the investment is impaired and the fair value of the investment is less than its carrying value. The $1.7 million investment is included in other assets in the consolidated statements of financial condition at September 30, 2019 and December 31, 2018. As part of its qualitative assessment, management engaged an independent third party to provide a valuation of this investment as of September 30, 2019, which indicated that the investment was not impaired.  Management determined that no adjustment for impairment was required at September 30, 2019.

 

 

Note 4. Loans

 

The following table summarizes loans receivable, net, by category at September 30, 2019 and December 31, 2018:

 

   

September 30,

   

December 31,

 

(in thousands)

 

2019

   

2018

 

Residential real estate

  $ 165,850     $ 164,833  

Commercial real estate

    279,591       262,778  

Construction, land acquisition and development

    39,371       20,813  

Commercial and industrial

    163,464       150,962  

Consumer

    148,435       176,784  

State and political subdivisions

    37,636       59,037  

Total loans, gross

    834,347       835,207  

Unearned income

    (71 )     (70 )

Net deferred loan costs

    2,601       3,963  

Allowance for loan and lease losses

    (9,315 )     (9,519 )

Loans, net

  $ 827,562     $ 829,581  

 

FNCB has granted loans, letters of credit and lines of credit to certain of its executive officers and directors as well as to certain of their related parties. For more information about related party transactions, refer to Note 6, “Related Party Transactions” to these consolidated financial statements.

 

FNCB originates 1-4 family mortgage loans for sale in the secondary market. During the three months and nine months ended September 30, 2019, one-to four-family mortgages sold on the secondary market were $2.9 million and $7.1 million, respectively. For the three and nine months ended September 30, 2018, 1-4 family residential mortgages sold on the secondary market were $2.7 million and $7.7 million, respectively. Net gains on the sale of residential mortgage loans for the three and nine months ended September 30, 2019 were $69 thousand and $198 thousand, respectively and $71 thousand and $171 thousand, respectively, for the comparable periods of 2018. FNCB retains servicing rights on mortgages sold on the secondary market. At September 30, 2019 and December 31, 2018, there were $1.1 million and $0.8 million in 1-4 family residential mortgage loans held for sale, respectively.

 

 

During the nine months ended September 30, 2018, FNCB sold the guaranteed principal balance of loans that were guaranteed by the Small Business Administration (“SBA”) totaling $5.7 million. For the nine months ended September 30, 2018, proceeds received from the sale of SBA-guaranteed loans were $6.0 million with net gains realized upon the sales of $0.3 million included in non-interest income. FNCB retained the servicing rights on these loans. There were no sales of SBA-guaranteed loans during the three and nine months ended September 30, 2019. The unpaid principal balance of loans serviced for others, including residential mortgages and SBA-guaranteed loans, were $106.1 million at September 30, 2019 and $108.4 million at December 31, 2018.

 

FNCB does not have any lending programs commonly referred to as "subprime lending." Subprime lending generally targets borrowers with weakened credit histories typically characterized by payment delinquencies, previous charge-offs, judgments, and bankruptcies, or borrowers with questionable repayment capacity as evidenced by low credit scores or high debt-burden ratios.

 

There were no material changes to the risk characteristics of FNCB’s loan segments, loan classification and credit grading systems and methodology for determining the adequacy of the ALLL during the nine months ended September 30, 2019. Refer to Note 2, “Summary of Significant Accounting Policies” to FNCB’s consolidated financial statements included in the 2018 Annual Report on Form 10-K for information about the risk characteristics related to FNCB’s loan segments, loan classification and credit grading systems and methodology for determining the adequacy of the ALLL.

 

Management evaluates the credit quality of the loan portfolio on an ongoing basis, and performs a formal review of the adequacy of the ALLL on a quarterly basis. This evaluation is inherently subjective, as it requires material estimates that may be susceptible to significant revisions based upon changes in economic and real estate market conditions. Actual loan losses may be significantly more than the established ALLL, which could have a material negative effect on FNCB’s operating results or financial condition. While management uses the best information available to make its evaluations, future adjustments to the ALLL may be necessary if conditions differ substantially from the information used in making the evaluations. Banking regulators, as an integral part of their examination of FNCB, also review the ALLL, and may require, based on their judgments about information available to them at the time of their examination, that certain loan balances be charged off or require that adjustments be made to the ALLL.

 

The following table summarizes activity in the ALLL by loan category for the three and nine months ended September 30, 2019 and 2018.

 

 

                   

Construction,

                                         
                   

Land

                   

State and

                 
   

Residential

   

Commercial

   

Acquisition and

   

Commercial

           

Political

                 

(in thousands)

 

Real Estate

   

Real Estate

   

Development

   

and Industrial

   

Consumer

   

Subdivisions

   

Unallocated

   

Total

 

Three months ended September 30, 2019:

                                                               

Allowance for loan losses:

                                                               

Beginning balance, July 1, 2019

  $ 1,152     $ 3,429     $ 178     $ 2,071     $ 1,839     $ 211     $ 65     $ 8,945  

Charge-offs

    -       -       -       (216 )     (201 )     -       -       (417 )

Recoveries

    1       -       1       58       90       -       -       150  

Provisions (credits)

    5       422       47       78       68       5       12       637  

Ending balance, September 30, 2019

  $ 1,158     $ 3,851     $ 226     $ 1,991     $ 1,796     $ 216     $ 77     $ 9,315  
                                                                 

Three months ended September 30, 2018:

                                                               

Allowance for loan losses:

                                                               

Beginning balance, July 1, 2018

  $ 1,201     $ 3,107     $ 251     $ 2,455     $ 2,006     $ 439     $ -     $ 9,459  

Charge-offs

    -       (719 )     -       (5 )     (313 )     -       -       (1,037 )

Recoveries

    5       39       -       58       154       -       -       256  

Provisions (credits)

    (39 )     803       (56 )     83       273       61       24       1,149  

Ending balance, September 30, 2018

  $ 1,167     $ 3,230     $ 195     $ 2,591     $ 2,120     $ 500     $ 24     $ 9,827  
                                                                 
Nine months ended September 30, 2019:                                                                
Allowance for loan losses:                                                                
Beginning balance, January 1, 2019   $ 1,175     $ 3,107     $ 188     $ 2,552     $ 2,051     $ 417     $ 29     $ 9,519  
Charge-offs     (27 )     -       (18 )     (976 )     (973 )     -       -       (1,994 )
Recoveries     7       14       82       265       592       -       -       960  
Provisions (credits)     3       730       (26 )     150       126       (201 )     48       830  
Ending balance, September 30, 2019   $ 1,158     $ 3,851     $ 226     $ 1,991     $ 1,796     $ 216     $ 77     $ 9,315  
                                                                 
Nine months ended September 30, 2018:                                                                
Allowance for loan losses:                                                                
Beginning balance, January 1, 2018   $ 1,236     $ 3,499     $ 209     $ 2,340     $ 1,395     $ 355     $ -     $ 9,034  
Charge-offs     (63 )     (1,845 )     -       (86 )     (753 )     -       -       (2,747 )
Recoveries     132       42       30       205       382       -       -       791  
Provisions (credits)     (138 )     1,534       (44 )     132       1,096       145       24       2,749  
Ending balance, September 30, 2018   $ 1,167     $ 3,230     $ 195     $ 2,591     $ 2,120     $ 500     $ 24     $ 9,827  

 

 

The following table represents the allocation of the ALLL and the related loan balance, by loan category, disaggregated based on the impairment methodology at September 30, 2019 and December 31, 2018:

 

 

                   

Construction,

                                         
                   

Land

                   

State and

                 
   

Residential

   

Commercial

   

Acquisition and

   

Commercial

           

Political

                 

(in thousands)

 

Real Estate

   

Real Estate

   

Development

   

and Industrial

   

Consumer

   

Subdivisions

   

Unallocated

   

Total

 

September 30, 2019

                                                               

Allowance for loan losses:

                                                               

Individually evaluated for impairment

  $ 25     $ 228     $ -     $ 38     $ 1     $ -     $ -     $ 292  

Collectively evaluated for impairment

    1,133       3,623       226       1,953       1,795       216       77       9,023  

Total

  $ 1,158     $ 3,851     $ 226     $ 1,991     $ 1,796     $ 216     $ 77     $ 9,315  
                                                                 

Loans receivable:

                                                               

Individually evaluated for impairment

  $ 2,638     $ 9,383     $ 78     $ 733     $ 197     $ -     $ -     $ 13,029  

Collectively evaluated for impairment

    163,212       270,208       39,293       162,731       148,238       37,636       -       821,318  

Total

  $ 165,850     $ 279,591     $ 39,371     $ 163,464     $ 148,435     $ 37,636     $ -     $ 834,347  
                                                                 

December 31, 2018

                                                               

Allowance for loan losses:

                                                               

Individually evaluated for impairment

  $ 14     $ 41     $ -     $ 600     $ 2     $ -     $ -     $ 657  

Collectively evaluated for impairment

    1,161       3,066       188       1,952       2,049       417       29       8,862  

Total

  $ 1,175     $ 3,107     $ 188     $ 2,552     $ 2,051     $ 417     $ 29     $ 9,519  
                                                                 

Loans receivable:

                                                               

Individually evaluated for impairment

  $ 1,847     $ 9,408     $ 82     $ 697     $ 383     $ -     $ -     $ 12,417  

Collectively evaluated for impairment

    162,986       253,370       20,731       150,265       176,401       59,037       -       822,790  

Total

  $ 164,833     $ 262,778     $ 20,813     $ 150,962     $ 176,784     $ 59,037     $ -     $ 835,207  

 

Credit Quality Indicators – Commercial Loans

 

Management continuously monitors and evaluates the credit quality of FNCB’s commercial loans by regularly reviewing certain credit quality indicators. Management utilizes credit risk ratings as the key credit quality indicator for evaluating the credit quality of FNCB’s loan receivables.

 

FNCB’s loan rating system assigns a degree of risk to commercial loans based on relevant information about the ability of borrowers to service their debt such as: current financial information, historical payment experience, credit documentation, public information and current economic trends, among other factors. Management analyzes these non-homogeneous loans individually by grading the loans as to credit risk and probability of collection for each type of loan. Commercial and industrial loans include commercial indirect auto loans which are not individually risk rated, and construction, land acquisition and development loans include residential construction loans which are also not individually risk rated. These loans are monitored on a pool basis due to their homogeneous nature as described in “Credit Quality Indicators – Other Loans” below. FNCB risk rates certain residential real estate loans and consumer loans that are part of a larger commercial relationship using a credit grading system as described in “Credit Quality Indicators – Commercial Loans.” The grading system contains the following basic risk categories:

 

1.  Minimal Risk
2.  Above Average Credit Quality
3.  Average Risk
4.  Acceptable Risk
5.  Pass - Watch
6.  Special Mention
7.  Substandard - Accruing
8.  Substandard - Non-Accrual
9.  Doubtful
10.  Loss

 

 

This analysis is performed on a quarterly basis using the following definitions for risk ratings:

 

Pass – Assets rated 1 through 5 are considered pass ratings. These assets show no current or potential problems and are considered fully collectible. All such loans are evaluated collectively for ALLL calculation purposes. However, accruing loans restructured under a troubled debt restructuring (“TDRs”) that have been performing for an extended period, do not represent a higher risk of loss, and have been upgraded to a pass rating are evaluated individually for impairment.

 

Special Mention – Assets classified as special mention do not currently expose FNCB to a sufficient degree of risk to warrant an adverse classification but do possess credit deficiencies or potential weaknesses deserving close attention.  Special mention assets have a potential weakness or pose an unwarranted financial risk which, if not corrected, could weaken the asset and increase risk in the future.

 

Substandard – Assets classified as substandard have well defined weaknesses based on objective evidence, and are characterized by the distinct possibility that FNCB will sustain some loss if the deficiencies are not corrected.

 

Doubtful – Assets classified as doubtful have all the weaknesses inherent in those classified as substandard with the added characteristic that such weaknesses make collection or liquidation in full highly questionable and improbable based on current circumstances.

 

Loss – Assets classified as loss are those considered uncollectible and of such little value that their continuance as assets is not warranted.

 

Credit Quality Indicators – Other Loans

 

Certain residential real estate loans, consumer loans, and commercial indirect auto loans are monitored on a pool basis due to their homogeneous nature. Loans that are delinquent 90 days or more are placed on non-accrual status unless collection of the loan is in process and reasonably assured. FNCB utilizes accruing versus non-accrual status as the credit quality indicator for these loan pools.

 

 

The following tables present the recorded investment in loans receivable by loan category and credit quality indicator at September 30, 2019 and December 31, 2018:

 

 

   

Credit Quality Indicators

 
   

September 30, 2019

 
   

Commercial Loans

   

Other Loans

         
           

Special

                           

Subtotal

   

Accruing

   

Non-accrual

   

Subtotal

   

Total

 

(in thousands)

 

Pass

   

Mention

   

Substandard

   

Doubtful

   

Loss

   

Commercial

   

Loans

   

Loans

   

Other

   

Loans

 

Residential real estate

  $ 32,373     $ 214     $ 226     $ -     $ -     $ 32,813     $ 131,809     $ 1,228     $ 133,037     $ 165,850  

Commercial real estate

    261,053       6,655       11,883       -       -       279,591       -       -       -       279,591  

Construction, land acquisition and development

    37,543       -       -       -       -       37,543       1,828       -       1,828       39,371  

Commercial and industrial

    153,618       2,474       1,878       -       -       157,970       5,494       -       5,494       163,464  

Consumer

    2,907       -       -       -       -       2,907       144,899       629       145,528       148,435  

State and political subdivisions

    37,615       -       -       -       -       37,615       21       -       21       37,636  

Total

  $ 525,109     $ 9,343     $ 13,987     $ -     $ -     $ 548,439     $ 284,051     $ 1,857     $ 285,908     $ 834,347  

 

 

   

Credit Quality Indicators

 
   

December 31, 2018

 
   

Commercial Loans

   

Other Loans

         
           

Special

                           

Subtotal

   

Accruing

   

Non-accrual

   

Subtotal

   

Total

 

(in thousands)

 

Pass

   

Mention

   

Substandard

   

Doubtful

   

Loss

   

Commercial

   

Loans

   

Loans

   

Other

   

Loans

 

Residential real estate

  $ 33,573     $ 291     $ 154     $ -     $ -     $ 34,018     $ 130,132     $ 683     $ 130,815     $ 164,833  

Commercial real estate

    250,674       1,858       10,246       -       -       262,778       -       -       -       262,778  

Construction, land acquisition and development

    17,704       -       757       -       -       18,461       2,352       -       2,352       20,813  

Commercial and industrial

    137,888       4,193       2,448       -       -       144,529       6,421       12       6,433       150,962  

Consumer

    2,024       -       -       -       -       2,024       174,373       387       174,760       176,784  

State and political subdivisions

    57,345       1,665       27       -       -       59,037       -       -       -       59,037  

Total

  $ 499,208     $ 8,007     $ 13,632     $ -     $ -     $ 520,847     $ 313,278     $ 1,082     $ 314,360     $ 835,207  

 

Included in loans receivable are loans for which the accrual of interest income has been discontinued due to deterioration in the financial condition of the borrowers. The recorded investment in these non-accrual loans was $6.1 million and $4.7 million at September 30, 2019 and December 31, 2018, respectively. Generally, loans are placed on non-accrual status when they become 90 days or more delinquent. Once a loan is placed on non-accrual status, it remains on non-accrual status until it has been brought current, has six months of performance under the loan terms, and factors indicating reasonable doubt about the timely collection of payments no longer exist. Therefore, loans may be current in accordance with their loan terms, or may be less than 90 days delinquent and still be on a non-accrual status. There were no loans past due 90 days or more and still accruing at September 30, 2019 and December 31, 2018.

 

 

The following tables present the delinquency status of past due and non-accrual loans at September 30, 2019 and December 31, 2018:

 

   

September 30, 2019

 
   

Delinquency Status

 
   

0-29 Days

   

30-59 Days

   

60-89 Days

   

>/= 90 Days

         

(in thousands)

 

Past Due

   

Past Due

   

Past Due

   

Past Due

   

Total

 

Performing (accruing) loans:

                                       

Residential real estate

  $ 163,591     $ 851     $ -     $ -     $ 164,442  

Commercial real estate

    275,847       -       414       -       276,261  

Construction, land acquisition and development

    39,371       -       -       -       39,371  

Commercial and industrial

    162,247       262       203       -       162,712  

Consumer

    145,989       1,500       317       -       147,806  

State and political subdivisions

    37,636       -       -       -       37,636  

Total performing (accruing) loans

    824,681       2,613       934       -       828,228  
                                         

Non-accrual loans:

                                       

Residential real estate

    552       -       -       856       1,408  

Commercial real estate

    1,133       -       428       1,769       3,330  

Construction, land acquisition and development

    -       -       -       -       -  

Commercial and industrial

    487       -       -       265       752  

Consumer

    226       73       153       177       629  

State and political subdivisions

    -       -       -       -       -  

Total non-accrual loans

    2,398       73       581       3,067       6,119  
                                         

Total loans receivable

  $ 827,079     $ 2,686     $ 1,515     $ 3,067     $ 834,347  

 

 

   

December 31, 2018

 
   

Delinquency Status

 
   

0-29 Days

   

30-59 Days

   

60-89 Days

   

>/= 90 Days

         

(in thousands)

 

Past Due

   

Past Due

   

Past Due

   

Past Due

   

Total

 

Performing (accruing) loans:

                                       

Residential real estate

  $ 163,690     $ 319     $ 136     $ -     $ 164,145  

Commercial real estate

    259,904       -       -       -       259,904  

Construction, land acquisition and development

    20,813       -       -       -       20,813  

Commercial and industrial

    150,108       87       20       -       150,215  

Consumer

    173,890       2,221       286       -       176,397  

State and political subdivisions

    59,037       -       -       -       59,037  

Total performing (accruing) loans

    827,442       2,627       442       -       830,511  
                                         

Non-accrual loans:

                                       

Residential real estate

    443       -       136       109       688  

Commercial real estate

    1,061       -       -       1,813       2,874  

Construction, land acquisition and development

    -       -       -       -       -  

Commercial and industrial

    677       50       -       20       747  

Consumer

    91       61       74       161       387  

State and political subdivisions

    -       -       -       -       -  

Total non-accrual loans

    2,272       111       210       2,103       4,696  
                                         

Total loans receivable

  $ 829,714     $ 2,738     $ 652     $ 2,103     $ 835,207  

 

 

The following tables present a distribution of the recorded investment, unpaid principal balance and the related allowance for FNCB’s impaired loans, which have been analyzed for impairment under ASC 310, at September 30, 2019 and December 31, 2018. Non-accrual loans, other than TDRs, with balances less than the $100 thousand loan relationship threshold are not evaluated individually for impairment and accordingly, are not included in the following tables. However, these loans are evaluated collectively for impairment as homogeneous pools in the general allowance under ASC Topic 450. Total non-accrual loans, other than TDRs, with balances less than the $100 thousand loan relationship threshold that were evaluated under ASC Topic 450 amounted to $0.9 million at September 30, 2019 and $0.7 million at December 31, 2018.

 

   

September 30, 2019

 
           

Unpaid

         
   

Recorded

   

Principal

   

Related

 

(in thousands)

 

Investment

   

Balance

   

Allowance

 

With no allowance recorded:

                       

Residential real estate

  $ 714     $ 777     $ -  

Commercial real estate

    6,328       7,717       -  

Construction, land acquisition and development

    78       78       -  

Commercial and industrial

    675       880       -  

Consumer

    24       26       -  

State and political subdivisions

    -       -       -  

Total impaired loans with no related allowance recorded

    7,819       9,478       -  
                         

With a related allowance recorded:

                       

Residential real estate

    1,924       1,924       25  

Commercial real estate

    3,055       3,774       228  

Construction, land acquisition and development

    -       -       -  

Commercial and industrial

    58       658       38  

Consumer

    173       173       1  

State and political subdivisions

    -       -       -  

Total impaired loans with a related allowance recorded

    5,210       6,529       292  
                         

Total impaired loans:

                       

Residential real estate

    2,638       2,701       25  

Commercial real estate

    9,383       11,491       228  

Construction, land acquisition and development

    78       78       -  

Commercial and industrial

    733       1,538       38  

Consumer

    197       199       1  

State and political subdivisions

    -       -       -  

Total impaired loans

  $ 13,029     $ 16,007     $ 292  

 

 

   

December 31, 2018

 
           

Unpaid

         
   

Recorded

   

Principal

   

Related

 

(in thousands)

 

Investment

   

Balance

   

Allowance

 

With no allowance recorded:

                       

Residential real estate

  $ 313     $ 375     $ -  

Commercial real estate

    7,149       8,795       -  

Construction, land acquisition and development

    82       82       -  

Commercial and industrial

    -       -       -  

Consumer

    26       28       -  

State and political subdivisions

    -       -       -  

Total impaired loans with no related allowance recorded

    7,570       9,280       -  
                         

With a related allowance recorded:

                       

Residential real estate

    1,534       1,534       14  

Commercial real estate

    2,259       2,259       41  

Construction, land acquisition and development

    -       -       -  

Commercial and industrial

    697       697       600  

Consumer

    357       357       2  

State and political subdivisions

    -       -       -  

Total impaired loans with a related allowance recorded

    4,847       4,847       657  
                         

Total impaired loans:

                       

Residential real estate

    1,847       1,909       14  

Commercial real estate

    9,408       11,054       41  

Construction, land acquisition and development

    82       82       -  

Commercial and industrial

    697       697       600  

Consumer

    383       385       2  

State and political subdivisions

    -       -       -  

Total impaired loans

  $ 12,417     $ 14,127     $ 657  

 

The following table presents the average balance and interest income by loan category recognized on impaired loans for the three and nine months ended September 30, 2019 and 2018:

 

   

Three Months Ended September 30,

   

Nine Months Ended September 30,

 
   

2019

   

2018

   

2019

   

2018

 
   

Average

   

Interest

   

Average

   

Interest

   

Average

   

Interest

   

Average

   

Interest

 

(in thousands)

 

Balance

   

Income (1)

   

Balance

   

Income (1)

   

Balance

   

Income (1)

   

Balance

   

Income (1)

 

Residential real estate

  $ 2,193     $ 21     $ 1,783     $ 21     $ 1,970     $ 62     $ 1,819     $ 63  

Commercial real estate

    9,012       73       9,296       79       9,290       226       8,320       231  

Construction, land acquisition and development

    78       1       83       1       80       4       84       3  

Commercial and industrial

    861       -       752       -       1,082       1       780       1  

Consumer

    198       2       386       5       259       9       389       12  

State and political subdivisions

    -       -       -       -       -       -       -       -  

Total impaired loans

  $ 12,342     $ 97     $ 12,300     $ 106     $ 12,681     $ 302     $ 11,392     $ 310  
   

(1) Interest income represents income recognized on performing TDRs.  

 

The additional interest income that would have been earned on non-accrual and restructured loans had these loans performed in accordance with their original terms approximated $90 thousand and $267 thousand, respectively for the three and nine months ended September 30, 2019 and $65 thousand and $150 thousand, respectively, for the three and nine months ended September 30, 2018.

 

 

Troubled Debt Restructured Loans

 

TDRs at September 30, 2019 and December 31, 2018 were $8.1 million and $9.2 million, respectively. Accruing and non-accruing TDRs were $7.8 million and $0.3 million, respectively, at September 30, 2019, and $8.5 million and $0.7 million, respectively, at December 31, 2018. Approximately $123 thousand and $651 thousand in specific reserves have been established for TDRs as of September 30, 2019 and December 31, 2018, respectively. FNCB was not committed to lend additional funds to any loan classified as a TDR at September 30, 2019.

 

The modification of the terms of loans classified as TDRs may include one or a combination of the following, among others: a reduction of the stated interest rate of the loan, an extension of the maturity date, capitalization of real estate taxes, a payment modification under a forbearance agreement, or a permanent reduction of the recorded investment in the loan. The following tables present the pre- and post-modification recorded investment in loans modified as TDRs by type of modification for the three and nine months ended September 30, 2019. 

 

   

Three months ended September 30, 2019

                 
           

Pre-Modification Outstanding Recorded Investment by Type of Modification

                         

(in thousands)

 

Number of Contracts

   

Forbearance

   

Extension of Terms

   

Capitalization of Taxes

   

Total

   

Post-Modification Outstanding Recorded Investment

 

Types of modification:

                                               

Residential real estate

    3     $ 208       -     $ 42     $ 250     $ 261  

Commercial real estate

    -       -       -       -       -       -  

Construction, land acquisition and development

    -       -       -       -       -       -  

Commercial and industrial

    -       -       -       -       -       -  

Consumer

    -       -       -       -       -       -  

State and political subdivisions

    -       -       -       -       -       -  

Total modifications

    3     $ 208     $ -     $ 42     $ 250     $ 261  

 

   

Nine months ended September 30, 2019

                 
           

Pre-Modification Outstanding Recorded Investment by Type of Modification

                         

(in thousands)

 

Number of Contracts

   

Forbearance

   

Extension of Terms

   

Capitalization of Taxes

   

Total

   

Post-Modification Outstanding Recorded Investment

 

Types of modification:

                                               

Residential real estate

    4     $ 208       24     $ 42     $ 274     $ 285  

Commercial real estate

    -       -       -       -       -       -  

Construction, land acquisition and development

    -       -       -       -       -       -  

Commercial and industrial

    -       -       -       -       -       -  

Consumer

    -       -       -       -       -       -  

State and political subdivisions

    -       -       -       -       -       -  

Total modifications

    4     $ 208     $ 24     $ 42     $ 274     $ 285  

 

There were no loans modified as a TDR during the three and nine months ended September 30, 2018. There were no loans modified as a TDR within the previous 12 months that subsequently defaulted, defined as 90 days or more past due, during the nine months ended September 30, 2019 and 2018.

 

Residential Real Estate Loan Foreclosures

 

There were two consumer mortgage loans with an aggregate recorded investment of $154 thousand secured by residential real estate properties in the process of foreclosure at September 30, 2019. There was one investor-owned residential real estate property with an aggregate carrying value of $204 thousand that was foreclosed upon during the three and nine months ended September 30, 2019. For the nine months ended September 30, 2019, there were two residential real estate properties with an aggregate carrying value of $256 thousand foreclosed upon and included in OREO at September 30, 2019. 

 

There were four consumer mortgage loans secured by residential real estate properties with an aggregate recorded investment of $20 thousand in the process of foreclosure at September 30, 2018.  For the three and nine months ended September 30, 2018, there were no residential real estate properties foreclosed upon, and there was one residential real estate property with a carrying value of $59 thousand included in OREO at September 30, 2018.

 

20

 

 

 

Note 5. Income Taxes

 

The following table presents a reconciliation between the effective income tax expense and the income tax expense that would have been provided at the federal statutory tax rate of 21.0% for the three and nine months ended September 30, 2019 and 2018, respectively.

 

   

For the Three Months Ended September 30,

   

For the Nine Months Ended September 30,

 
   

2019

   

2018

   

2019

   

2018

 

(dollars in thousands)

 

Amount

    %    

Amount

    %    

Amount

    %    

Amount

    %  

Provision at statutory tax rates

  $ 612       21.00 %   $ 471       21.00 %   $ 1,925       21.00 %   $ 1,597       21.00 %

Add (deduct):

                                                               

Tax effects of tax free interest income

    (75 )     (2.57 )%     (101 )     (4.52 )%     (259 )     (2.82 )%     (271 )     (3.57 )%

Non-deductible interest expense

    4       0.13 %     4       0.20 %     11       0.12 %     10       0.14 %

Bank-owned life insurance

    (28 )     (0.96 )%     (30 )     (1.33 )%     (83 )     (0.91 )%     (87 )     (1.14 )%

Other items, net

    -       0.00 %     44       1.99 %     (12 )     (0.13 )%     73       0.96 %

Income tax provision

  $ 513       17.60 %   $ 388       17.34 %   $ 1,582       17.26 %   $ 1,322       17.39 %

 

FNCB had net deferred tax assets of $6.7 million at September 30, 2019, of which $4.7 million was related to approximately $30.0 million in net operating loss carryovers. At December 31, 2018, FNCB’s net deferred tax assets were $10.7 million.

 

Management evaluates the carrying amount of its deferred tax assets on a quarterly basis, or more frequently if necessary, in accordance with guidance set forth in ASC Topic 740 “Income Taxes,” and applies the criteria in the guidance to determine whether it is more likely than not that some portion, or all, of the deferred tax asset will not be realized within its life cycle, based on the weight of available evidence. In evaluating available evidence, management considers, among other factors, historical financial performance, expectation of future earnings, the ability to carry back losses to recoup taxes previously paid, length of statutory carry forward periods, experience with operating loss and tax credit carry forwards not expiring unused, tax planning strategies and timing of reversals of temporary differences. In assessing the need for a valuation allowance, management carefully weighs both positive and negative evidence currently available. The weight given to the potential effect of positive and negative evidence must be commensurate with the extent to which it can be objectively verified. If management determines, based on available evidence, both positive and negative, that it is more likely than not that some portion or all of the deferred tax asset will not be realized in future periods, a valuation allowance is calculated and recorded. These determinations are inherently subjective and depend upon management’s estimates and judgments used in their evaluation of both positive and negative evidence.

 

Management performed an evaluation of FNCB’s deferred tax assets at September 30, 2019 taking into consideration all available positive and negative evidence at that time. Based on this evaluation, management believes that FNCB’s future taxable income will be sufficient to utilize deferred tax assets. Accordingly, a valuation allowance for deferred tax assets was not required at September 30, 2019 and December 31, 2018.

 

 

 

 

Note 6.  Related Party Transactions

 

In conducting its business, FNCB has engaged in, and intends to continue to engage in, banking and financial transactions with directors, executive officers and their related parties.

 

FNCB has granted loans, letters of credit and lines of credit to directors, executive officers and their related parties. The following table summarizes the changes in the total amounts of such outstanding loans, advances under lines of credit, net of any participations sold, as well as repayments during the three and nine months ended September 30, 2019 and 2018.

 

   

For the Three Months Ended September 30,

   

For the Nine Months Ended September 30,

 

(in thousands)

 

2019

   

2018

   

2019

   

2018

 

Balance, beginning of period

  $ 78,752     $ 69,826     $ 64,634     $ 55,576  

Additions, new loans and advances

    41,499       20,665       70,592       63,780  

Repayments

    (25,484 )     (17,796 )     (40,459 )     (46,661 )

Balance, end of period

  $ 94,767     $ 72,695     $ 94,767     $ 72,695  

 

At September 30, 2019, there were no loans made to directors, executive officers and their related parties that were not performing in accordance with the terms of the loan agreements.

 

Deposits from directors, executive officers and their related parties held by the Bank at September 30, 2019 and December 31, 2018 amounted to $95.0 million and $115.5 million, respectively, a decrease of $20.5 million. The decrease was due to cyclical outflows from several large commercial deposit relationships that are owned by, or a related party to, certain directors. Interest paid on the deposits amounted to $366 thousand and $255 thousand for the nine months ended September 30, 2019 and 2018, respectively.

 

In the course of its operations, FNCB acquires goods and services from, and transacts business with, various companies of related parties, which include, but are not limited to, employee health insurance, fidelity bond and errors and omissions insurance, legal services, and repair of repossessed automobiles for resale. FNCB recorded payments to related parties for goods and services of $0.6 million and $1.6 million for the three and nine months ended September 30, 2019, respectively, and $0.7 million and $1.7 million for the respective periods of 2018.

 

On February 8, 2019, FNCB accelerated the final $5.0 million principal repayment, which was due and payable on September 1, 2019, along with all accrued interest, of which $3.1 million was paid to directors and/or their related interests.  Subordinated notes (the “Notes”) held by directors and/or their related parties totaled $3.1 million at December 31, 2018. Interest expense recorded and paid on the Notes for directors and/or their related parties through February 8, 2019, the date of final payment, was $27 thousand. Regular quarterly interest payments on the Notes paid by FNCB to its directors and/or their related parties totaled $36 thousand and $106 thousand for the three and nine months ended September 30, 2018, respectively. 

 

On January 28, 2019, FNCB commenced a public offering of shares of its common stock in a firm commitment underwritten offering. The offering closed on February 8, 2019 and FNCB issued 3,285,550 shares of its common stock at an offering price of $7.00 per share. Shares acquired by directors, executive officers and their related parties as part of this offering were 340,600, or 10.4%, of the total common shares issued. For more information about the public offering, refer to Note 9, “Regulatory Matters/Subsequent Event” to these consolidated financial statements.

 

 

 

 

Note 7. Commitments and Contingencies

 

Leases

 

FNCB is obligated under operating leases for certain bank branches, office space, automobiles and equipment. Operating lease right of use ("ROU") assets represent FNCB's right to use an underlying asset during the lease term and operating liabilities represent our obligation to make lease payments under the lease agreement. ROU assets and operating lease liabilities are recognized at lease commencement based on the present value of the remaining lease payments using a discount rate that represents FNCB's incremental borrowing rate at the commencement date. ROU assets are included in other assets and operating lease liabilities are included in other liabilities in the consolidated statements of financial condition. As of September 30, 2019 ROU assets and lease liabilities were $ 3.2 million and $3.5 million, respectively. There were three new automobile and equipment operating leases that commenced during the nine months ended September 30, 2019 ROU assets and corresponding lease liabilities recorded for the new leases aggregated $78 thousand during the nine months ended September 30, 2019.

 

The following table summarizes the components of FNCB's operating lease expense for the three and nine months ended September 30, 2019. Operating lease expense associated with bank branches and office space is included in occupancy expense, while operating lease expense associated with automobiles and office equipment are included in equipment expense in the consolidated statements of income.

 

(in thousands)

  Three Months Ended September 30, 2019     Nine Months Ended September 30, 2019  

Operating lease cost - bank branches

  $ 86     $ 257  

Operating lease cost - automobiles and equipment

    8       16  

Short-term lease cost - office space

    9       33  

Short-term lease cost - automobiles and equipment

    1       6  

Variable lease cost

    -       -  

Total lease cost

  $ 104     $ 312  

 

The following table summarizes the maturity of remaining operating lease liabilities as of September 30, 2019:

 

(in thousands)

 

September 30, 2019

 

2019

  $ 88  

2020

    382  

2021

    347  

2022

    327  

2023

    323  

2024 and thereafter

    3,100  

Total lease payments

    4,567  

Less: imputed interest

    1,047  

Present value of operating lease liabilities

  $ 3,520  

 

The following table presents other information related to our operating leases:

 

(dollars in thousands)

 

September 30, 2019

 

Weighted-average remaining lease term

 

14.6 years

 

Weighted-average discount rate

    3.43 %

Cash paid for amounts included in the measurement of lease liabilities:

       

Operating cash flows from operating leases

  $ 290  

 

 

Litigation

 

On May 24, 2012, a putative shareholder filed a complaint in the Court of Common Pleas for Lackawanna County (“Shareholder Derivative Suit”) against certain present and former directors and officers of FNCB (the “Individual Defendants”) alleging, inter alia, breach of fiduciary duty, abuse of control, corporate waste, and unjust enrichment. FNCB was named as a nominal defendant. On February 4, 2014, the Court issued a Final Order and Judgment for the matter granting approval of a Stipulation of Settlement (the “Settlement”) and dismissing all claims against FNCB and the Individual Defendants. As part of the Settlement, without admitting any fault, wrongdoing or liability, the Individual Defendants agreed to settle the derivative litigation for $5.0 million. The $5.0 million Settlement payment was made to FNCB on March 28, 2014. The Individual Defendants reserved their rights to indemnification under FNCB’s Articles of Incorporation and Bylaws, resolutions adopted by the Board, the Pennsylvania Business Corporation Law and any and all rights they have against FNCB’s and the Bank’s insurance carriers. In addition, in conjunction with the Settlement, FNCB accrued $2.5 million related to fees and costs of the plaintiff’s attorneys, which was included in non-interest expense in the consolidated statements of income for the year ended December 31, 2013. On April 1, 2014, FNCB paid the $2.5 million related to fees and costs of the plaintiff’s attorneys and partial indemnification of the Individual Defendants in the amount of $2.5 million. Commencing on July 1, 2017, FNCB made partial indemnifications to the Individual Defendants through monthly principal payments, made on behalf of the Individual Defendants, of $25,000 plus accrued interest to First Northern Bank and Trust Co. On April 11, 2018, FNCB indemnified the Individual Defendants by paying in full the $2.5 million, plus accrued interest to First Northern Bank & Trust Co.

 

On September 5, 2012, Fidelity and Deposit Company of Maryland (“F&D”) filed an action against FNCB and the Bank, as well as several current and former officers and directors of FNCB, in the United States District Court for the Middle District of Pennsylvania. F&D asserted a claim for the rescission of a directors’ and officers’ insurance policy and a bond that it had issued to FNCB. On November 9, 2012, FNCB and the Bank answered the claim and asserted counterclaims for the losses and expenses already incurred by FNCB and the Bank. FNCB and the other defendants defended the claims and opposed F&D’s requested relief by way of counterclaims. On December 21, 2018, FNCB, the Bank and F&D resolved the dispute by entering into a mutual release of all claims.  FNCB recognized a gain of $6.0 million after expenses in the fourth quarter of 2018 in connection with this insurance recovery.

 

FNCB has been subject to tax audits, and is also a party to routine litigation involving various aspects of its business, such as employment practice claims, workers compensation claims, claims to enforce liens, condemnation proceedings on properties in which FNCB holds security interests, claims involving the making and servicing of real property loans and other issues incident to its business, none of which has or is expected to have a material adverse impact on the consolidated financial condition, results of operations or liquidity of FNCB.

 

There have been no changes in the status of the other litigation, if any, disclosed in FNCB’s Annual Report on Form 10-K for the year ended December 31, 2018.

 

 

 

Note 8. Stock Compensation Plans

 

FNCB has a Long-Term Incentive Compensation Plan (“LTIP”) for directors, executives and key employees. The LTIP authorizes up to 1,200,000 shares of common stock for issuance and provides the Board of Directors with the authority to offer several different types of long-term incentives, including stock options, stock appreciation rights, restricted stock, restricted stock units, performance units and performance shares. During the nine months ended September 30, 2019 and 2018, the Board of Directors granted 57,684 and 57,829 shares of restricted stock, respectively, under the LTIP. At September 30, 2019, there were 852,120 shares of common stock available for award under the LTIP. For the nine months ended September 30, 2019 and 2018, stock-based compensation expense, which is included in salaries and benefits expense in the consolidated statements of income, totaled $196 thousand and $215 thousand, respectively. Total unrecognized compensation expense related to unvested restricted stock awards was $869 thousand and $745 thousand at September 30, 2019 and 2018, respectively. Unrecognized compensation expense related to unvested shares of restricted stock is expected to be recognized over a weighted-average period of 3.9 years.

 

On July 1, 2019, 1,956 shares of  FNCB's common stock were granted, under the LTIP, to each of FNCB Bank's ten non-employee directors or 19,560 shares in the aggregate. The shares of common stock immediately vested to each director upon grant, and the fair value of the shares on the grant date was $7.67 per share. Directors fees totaling $150 thousand were recognized as part of this grant and included in director fees in the consolidated statements of income for the three and nine months ended September 30, 2019.

 

The following table summarizes the activity related to FNCB’s unvested restricted stock awards during the three and nine months ended September 30, 2019 and 2018:

 

   

Three Months Ended September 30,

   

Nine Months Ended September 30,

 
   

2019

   

2018

   

2019

   

2018

 
           

Weighted-

           

Weighted-

           

Weighted-

           

Weighted-

 
           

Average

           

Average

           

Average

           

Average

 
   

Restricted

   

Grant Date

   

Restricted

   

Grant Date

   

Restricted

   

Grant Date

   

Restricted

   

Grant Date

 

(dollars in thousands)

 

Shares

   

Fair Value

   

Shares

   

Fair Value

   

Shares

   

Fair Value

   

Shares

   

Fair Value

 
Unvested restricted stock awards:                                                                

Total outstanding, beginning of period

    134,047     $ 7.75       116,321     $ 7.50       114,702     $ 7.50       106,129     $ 6.23  

Awards granted

    -       -       -       -       57,684       7.64       57,829       8.54  

Forfeitures

    (5,897 )     7.61       (737 )     7.93       (6,678 )     7.61       (2,016 )     7.26  

Vestings

    -       -       -       -       (37,558 )     6.80       (46,358 )     5.93  

Total outstanding, end of period

    128,150     $ 7.76       115,584     $ 7.49       128,150     $ 7.76       115,584     $ 7.49  

 

 

 

Note 9. Regulatory Matters/Subsequent Event

 

On January 28, 2019, FNCB announced that it had commenced a public offering of shares of its common stock in a firm commitment underwritten offering. The offering closed on February 8, 2019 and FNCB issued 3,285,550 shares of its common stock, which included 428,550 shares issued upon the exercise in full of the option to purchase additional shares granted to underwriters, at an offering price of $7.00 per share, less an underwriting discount of $0.35 per share. FNCB received net proceeds after deducting the underwriting discount and offering expenses of $21.3 million. Following the receipt of the proceeds, during the first quarter of 2019, FNCB made a capital investment in FNCB Bank, its wholly-owned subsidiary of $17.8 million.

 

FNCB’s ability to pay dividends to its shareholders is largely dependent on the Bank’s ability to pay dividends to FNCB. Bank regulations limit the amount of dividends that may be paid without prior approval of the Bank’s regulatory agency. For the three and nine months ended September 30, 2019, cash dividends declared and paid by FNCB were $0.05 per share and $0.15 per share, respectively, and $0.04 per share and $0.12 per share, respectively, for the three and nine months ended September 30, 2018. FNCB offers a Dividend Reinvestment and Stock Purchase Plan (“DRP”) to its shareholders. For the three and nine months ended September 30, 2019 and 2018, dividend reinvestment shares were purchased in open market transactions, however shares under the optional cash purchase feature of the DRP were issued from authorized but unissued common shares. Common shares issued under the DRP for the three and nine months ended September 30, totaled 1,907 and 5,453, respectively in 2019 and 1,915 and 15,150, respectively in 2018. Subsequent to September 30, 2019, on October 30, 2019, FNCB declared a cash dividend for the fourth quarter of 2019 of $0.05 per share, which is payable on December 16, 2019 to shareholders of record as of  December 2, 2019.

 

FNCB and the Bank are subject to various regulatory capital requirements administered by the federal and state banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material adverse effect on FNCB’s financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, FNCB and the Bank must meet specific capital guidelines that involve quantitative measures of FNCB's and the Bank's assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. FNCB's and the Bank's capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors.  Management believes, as of September 30, 2019, that FNCB and the Bank meet all applicable capital adequacy requirements.

 

Current quantitative measures established by regulation to ensure capital adequacy require FNCB to maintain minimum amounts and ratios (set forth in the tables below) of Total capital, Tier I capital, and Tier I common equity (as defined in the regulations) to risk-weighted assets (as defined), and of Tier I capital (as defined) to average assets (as defined).

 

 

The following tables present summary information regarding FNCB’s and the Bank’s risk-based capital and related ratios at  September 30, 2019 and December 31, 2018:

 

   

Consolidated

   

Bank Only

   

Minimum Required For Capital Adequacy Purposes

   

Minimum Required For Capital Adequacy Purposes with Conservation Buffer

   

Minimum Required To Be Well Capitalized Under Prompt Corrective Action Regulations*

 

(in thousands)

 

Amount

   

Ratio

   

Amount

   

Ratio

   

Ratio

   

Ratio

   

Ratio

 

September 30, 2019

                                                       
                                                         

Total capital (to risk-weighted assets)

  $ 143,086       15.72 %   $ 139,579       15.37 %     8.00 %     10.50 %     10.00 %
                                                         

Tier I capital (to risk-weighted assets)

    133,272       14.64 %     129,765       14.29 %     6.00 %     8.50 %     8.00 %
                                                         

Tier I common equity (to risk-weighted assets)

    123,272       13.54 %     129,765       14.29 %     4.50 %     7.00 %     6.50 %
                                                         

Tier I capital (to average assets)

    133,272       11.27 %     129,765       11.01 %     4.00 %     4.00 %     5.00 %
                                                         

Total risk-weighted assets

    910,499               908,389                                  
                                                         

Total average assets

    1,182,383               1,178,564                                  

 

 

   

Consolidated

   

Bank Only

   

Minimum Required For Capital Adequacy Purposes

   

Minimum Required For Capital Adequacy Purposes with Conservation Buffer

   

Minimum Required To Be Well Capitalized Under Prompt Corrective Action Regulations*

 

(in thousands)

 

Amount

   

Ratio

   

Amount

   

Ratio

   

Ratio

   

Ratio

   

Ratio

 

December 31, 2018

                                                       
                                                         

Total capital (to risk-weighted assets)

  $ 117,213       12.69 %   $ 112,128       12.17 %     8.00 %     9.875 %     10.00 %
                                                         

Tier I capital (to risk-weighted assets)

    105,439       11.42 %     102,354       11.11 %     6.00 %     7.875 %     8.00 %
                                                         

Tier I common equity (to risk-weighted assets)

    96,692       10.47 %     102,354       11.11 %     4.50 %     6.375 %     6.50 %
                                                         

Tier I capital (to average assets)

    105,439       8.50 %     102,354       8.27 %     4.00 %     4.000 %     5.00 %
                                                         

Total risk-weighted assets

    923,441               921,126                                  
                                                         

Total average assets

    1,239,898               1,238,347                                  
   

*Applies to the Bank only.

 

 

 
 

Note 10. Fair Value Measurements

 

In determining fair value, FNCB uses various valuation approaches, including market, income and cost approaches. Accounting standards establish a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or liability, which are developed based on market data obtained from sources independent of FNCB. Unobservable inputs reflect FNCB’s knowledge about the assumptions the market participants would use in pricing an asset or liability, which are developed based on the best information available in the circumstances.

 

The fair value hierarchy gives the highest priority to unadjusted quoted market prices in active markets for identical assets or liabilities (Level 1 measurement) and the lowest priority to unobservable inputs (Level 3 measurement). A financial asset or liability’s level within the fair value hierarchy is based on the lowest level of input that is significant to the fair value measurement. The fair value hierarchy is broken down into three levels based on the reliability of inputs as follows:

 

 

Level 1 valuation is based upon unadjusted quoted market prices for identical instruments traded in active markets;

 

 

Level 2 valuation is based upon quoted market prices for similar instruments traded in active markets, quoted market prices for identical or similar instruments traded in markets that are not active and model-based valuation techniques for which all significant assumptions are observable in the market or can be corroborated by market data; and

 

 

Level 3 valuation is derived from other valuation methodologies including discounted cash flow models and similar techniques that use significant assumptions not observable in the market. These unobservable assumptions reflect estimates of assumptions that market participants would use in determining fair value.

 

A description of the valuation methodologies used for assets recorded at fair value is set forth below.

 

Available-for-Sale Debt Securities

 

The estimated fair values for FNCB’s investments in obligations of U.S. government agencies, obligations of state and political subdivisions, government-sponsored agency CMOs and mortgage-backed securities, private collateralized mortgage obligations, asset-backed securities and negotiable certificates of deposit are obtained by FNCB from a nationally-recognized pricing service.  This pricing service develops estimated fair values by analyzing like securities and applying available market information through processes such as benchmark curves, benchmarking of like securities, sector groupings and matrix pricing (Level 2 inputs), to prepare valuations. Matrix pricing is a mathematical technique widely used in the industry to value debt securities without relying exclusively on quoted prices for the specific securities, but rather by relying on the securities’ relationship to other benchmark quoted securities.  The fair value measurements consider observable data that may include, among other things, dealer quotes, market spreads, cash flows, the U.S. Treasury yield curve, live trading levels, trade execution data, market consensus prepayment speeds, credit information and the bond’s terms and conditions, and are based on market data obtained from sources independent from FNCB.  The Level 2 investments in FNCB’s portfolio are priced using those inputs that, based on the analysis prepared by the pricing service, reflect the assumptions that market participants would use to price the assets.  Management has determined that the Level 2 designation is appropriate for these securities because, as with most fixed-income securities, those in FNCB’s portfolio are not exchange-traded, and such non-exchange-traded fixed income securities are typically priced by correlation to observed market data.  FNCB has reviewed the pricing service’s methodology to confirm its understanding that such methodology results in a valuation based on quoted market prices for similar instruments traded in active markets, quoted markets for identical or similar instruments traded in markets that are not active and model-based valuation techniques for which the significant assumptions can be corroborated by market data as appropriate to a Level 2 designation.

 

For those securities for which the inputs used by an independent pricing service were derived from unobservable market information, FNCB evaluated the appropriateness and quality of each price.  Management reviewed the volume and level of activity for all classes of securities and attempted to identify transactions which may not be orderly or reflective of a significant level of activity and volume.  For securities meeting these criteria, the quoted prices received from either market participants or an independent pricing service may be adjusted, as necessary, to estimate fair value (fair values based on Level 3 inputs).  If applicable, the adjustment to fair value was derived based on present value cash flow model projections obtained from third party providers using assumptions similar to those incorporated by market participants.

 

At September 30, 2019, FNCB owned five corporate debt securities with an aggregate amortized cost and fair value of $6.0 million and $6.1 million, respectively. The market for four of the five corporate debt securities at September 30, 2019 was not active and markets for similar securities are also not active.  FNCB obtained valuations for these securities from third-party service providers that prepared the valuations using a discounted cash flow approach.  Management takes measures to validate the service providers’ analysis and is actively involved in the valuation process, including reviewing and verifying the assumptions used in the valuation calculations. Results of a discounted cash flow test are significantly affected by variables such as the estimate of the probability of default, estimates of future cash flows, discount rates, prepayment rates and the creditworthiness of the underlying issuers.  FNCB considers these inputs to be unobservable Level 3 inputs because they are based on estimates about the assumptions market participants would use in pricing this type of asset and developed based on the best information available in the circumstances rather than on observable inputs. As it relates to fair value measurements, once each issuer is categorized and the forecasted default rates have been applied, the expected cash flows are modeled using the variables described above. Discount rates ranging from 5.53% to 6.03% were applied to the expected cash flows to estimate fair value. Management will continue to monitor the market for these securities to assess the market activity and the availability of observable inputs and will continue to apply these controls and procedures to the valuations received from its third-party service provider for the period it continues to use an outside valuation service.

 

Equity Securities

 

The estimated fair values of equity securities are determined by obtaining quoted prices on nationally recognized exchanges (Level 1 inputs).

 

 

Assets Measured at Fair Value on a Recurring Basis

 

The following tables present the financial assets that are measured at fair value on a recurring basis at September 30, 2019 and December 31, 2018, and the fair value hierarchy of the respective valuation techniques utilized by FNCB to determine the fair value:

 

   

Fair Value Measurements at September 30, 2019

 
                   

Significant

   

Significant

 
           

Quoted Prices

   

Other

   

Other

 
           

in Active Markets

   

Observable

   

Unobservable

 
           

for Identical Assets

   

Inputs

   

Inputs

 

(in thousands)

 

Fair Value

   

(Level 1)

   

(Level 2)

   

(Level 3)

 

Available-for-sale debt securities:

                               

Obligations of state and political subdivisions

  $ 101,683     $ -     $ 101,683     $ -  

U.S. government/government-sponsored agencies:

                               

Collateralized mortgage obligations - residential

    66,840       -       66,840       -  

Collateralized mortgage obligations - commercial

    43,822       -       43,822       -  

Mortgage-backed securities

    18,745       -       18,745       -  

Private collateralized mortgage obligations

    10,063       -       10,063       -  

Corporate debt securities

    6,101       -       1,040       5,061  

Asset-backed securities

    5,229       -       5,229       -  

Negotiable certificates of deposit

    2,183       -       2,183       -  

Total available-for-sale debt securities

  $ 254,666     $ -     $ 249,605     $ 5,061  
                                 

Equity securities, at fair value

  $ 922     $ 922     $ -     $ -  

 

   

Fair Value Measurements at December 31, 2018

 
                   

Significant

   

Significant

 
           

Quoted Prices

   

Other

   

Other

 
           

in Active Markets

   

Observable

   

Unobservable

 
           

for Identical Assets

   

Inputs

   

Inputs

 

(in thousands)

 

Fair Value

   

(Level 1)

   

(Level 2)

   

(Level 3)

 

Available-for-sale debt securities:

                               

Obligations of state and political subdivisions

  $ 152,187     $ -     $ 152,187     $ -  

U.S. government/government-sponsored agencies:

                               

Collateralized mortgage obligations - residential

    34,207       -       34,207       -  

Collateralized mortgage obligations - commercial

    73,640       -       73,640       -  

Mortgage-backed securities

    23,934       -       23,934       -  

Private collateralized mortgage obligations

    2,913       -       2,913       -  

Corporate debt securities

    4,936       -       1,007       3,929  

Asset-backed securities

    1,802       -       1,802       -  

Negotiable certificates of deposit

    2,413       -       2,413       -  

Total available-for-sale debt securities

  $ 296,032     $ -     $ 292,103     $ 3,929  
                                 

Equity securities, at fair value

  $ 891     $ 891     $ -     $ -  

 

There were no transfers between levels within the fair value hierarchy during the nine months ended September 30, 2019 and 2018.

 

The following table presents a reconciliation and statement of operations classifications of gains and losses for all assets measured at fair value on a recurring basis using significant unobservable inputs (Level 3), which consisted entirely of corporate debt securities, for the nine months ended September 30, 2019 and 2018.

 

Fair Value Measurements

 

Using Significant Unobservable Inputs (Level 3)

 
   

Corporate Debt Securities

 
   

For the Nine Months Ended September 30,

 

(in thousands)

 

2019

   

2018

 

Balance at January 1,

  $ 3,929     $ 4,058  

Additions

    1,000       -  

Payments Received

    -       -  

Sales

    -       -  

Total gains or losses (realized/unrealized):

               

Included in earnings

    -       -  

Included in other comprehensive income (loss)

    132       (126 )

Balance at September 30,

  $ 5,061     $ 3,932  

 

 

Assets Measured at Fair Value on a Non-Recurring Basis

 

The following tables present assets and liabilities measured at fair value on a non-recurring basis at September 30, 2019 and December 31, 2018, and additional quantitative information about the valuation techniques and inputs utilized by FNCB to determine fair value. All assets were measured using Level 3 inputs.

 

   

September 30, 2019

 
   

Fair Value Measurement

   

Quantitative Information

 
   

Recorded

   

Valuation

   

Fair

   

Valuation

   

Unobservable

 

Value/

 

(in thousands)

 

Investment

   

Allowance

   

Value

   

Technique

   

Inputs

 

Range

 

Impaired loans - collateral dependent

  $ 8,655     $ 206     $ 8,449    

Appraisal of collateral

   

Selling cost

    10.0 %

Impaired loans - other

    4,374       86       4,288    

Discounted cash flows

   

Discount rate

    4.0%-7.5%  

Other real estate owned

    256       -       256    

Appraisal of collateral

   

Selling cost

    10.0 %

 

   

December 31, 2018

 
   

Fair Value Measurement

   

Quantitative Information

 
   

Recorded

   

Valuation

   

Fair

   

Valuation

   

Unobservable

 

Value/

 

(in thousands)

 

Investment

   

Allowance

   

Value

   

Technique

   

Inputs

 

Range

 

Impaired loans - collateral dependent

  $ 8,020     $ 606     $ 7,414    

Appraisal of collateral

   

Selling cost

    10.0 %

Impaired loans - other

    4,397       51       4,346    

Discounted cash flows

   

Discount rate

    3.7%-7.5%  

Other real estate owned

    919       -       919    

Appraisal of collateral

   

Selling cost

    10.0 %

 

The fair value of collateral-dependent impaired loans is determined through independent appraisals or other reasonable offers, which generally include various Level 3 inputs which are not identifiable. Management reduces the appraised value by the estimated costs to sell the property and may make adjustments to the appraised values as necessary to consider any declines in real estate values since the time of the appraisal. For impaired loans that are not collateral-dependent, fair value is determined using the discounted cash flow method. When the measure of the impaired loan is less than the recorded investment in the loan, the impairment is recorded through a valuation allowance or is charged off. The amount shown is the balance of impaired loans, net of any charge-offs and the related allowance for loan losses.

 

OREO properties are recorded at fair value less the estimated cost to sell at the date of FNCB’s acquisition of the property. Subsequent to acquisition of the property, the balance may be written down further. It is FNCB’s policy to obtain certified external appraisals of real estate collateral underlying impaired loans and OREO, and estimate fair value using those appraisals. Other valuation sources may be used, including broker price opinions, letters of intent and executed sale agreements.

 

The following table summarizes the estimated fair values of FNCB’s financial instruments using an exit price notion at September 30, 2019 and at December 31, 2018. FNCB discloses fair value information about financial instruments, whether or not recognized in the statements of financial condition, for which it is practicable to estimate that value. The fair value of financial instruments that are not measured at fair value in the financial statements were based on the exit price notion. The following estimated fair value amounts have been determined using available market information and appropriate valuation methodologies. However, management judgment is required to interpret data and develop fair value estimates. Accordingly, the estimates below are not necessarily indicative of the amounts FNCB could realize in a current market exchange. The use of different market assumptions and/or estimation methodologies may have a material effect on the estimated fair value amounts.

 

     

Fair Value

 

September 30, 2019

   

December 31, 2018

 

(in thousands)

   

Measurement

 

Carrying Value

   

Fair Value

   

Carrying Value

   

Fair Value

 

Financial assets

                                     

Cash and short term investments

   

Level 1

  $ 37,511     $ 37,511     $ 36,481     $ 36,481  

Available-for-sale debt securities

   

See previous table

    254,666       254,666       296,032       296,032  

Equity securities, at fair value

   

Level 1

    922       922       891       891  

Restricted stock

   

Level 2

    4,194       4,194       3,123       3,123  

Loans held for sale

   

Level 2

    1,140       1,140       820       820  

Loans, net

   

Level 3

    827,562       818,925       829,581       816,234  

Accrued interest receivable

   

Level 2

    3,038       3,038       3,614       3,614  

Equity securities without readily determinable fair values

   

Level 3

    1,658       1,658       1,658       1,658  

Servicing rights

   

Level 3

    355       805       350       878  
                                       

Financial liabilities

                                     

Deposits

   

Level 2

    964,060       964,119       1,095,629       1,093,797  

Borrowed funds

   

Level 2

    89,768       89,897       34,240       34,108  

Accrued interest payable

   

Level 2

    401       401       338       338  

 

 

 

 

Note 11. Earnings per Share

 

For FNCB, the numerator of both the basic and diluted earnings per share of common stock is net income available to common shareholders. The weighted average number of common shares outstanding used in the denominator for basic earnings per common share is increased to determine the denominator used for diluted earnings per common share by the effect of potentially dilutive common share equivalents utilizing the treasury stock method. Common share equivalents are outstanding stock options to purchase FNCB’s shares of common stock and unvested restricted stock.

 

The following table presents the calculation of both basic and diluted earnings per share of common stock for the three and nine months ended September 30, 2019 and 2018:

 

   

Three Months Ended September 30,

   

Nine Months Ended September 30,

 

(in thousands, except share data)

 

2019

   

2018

   

2019

   

2018

 
Net income   $ 2,403     $ 1,850     $ 7,587     $ 6,281  
                                 
Basic weighted-average number of common shares outstanding     20,168,529       16,818,625       19,678,031       16,791,815  
Plus: Common share equivalents     3,753       19,922       5,491       22,133  
Diluted weighted-average number of common shares outstanding     20,172,282       16,838,547       19,683,522       16,813,948  
                                 

Income per common share:

                               
Basic   $ 0.12     $ 0.11     $ 0.39     $ 0.37  
Diluted   $ 0.12     $ 0.11     $ 0.39     $ 0.37  

 

 

For the three and nine months ended September 30, 2019 and 2018, common stock equivalents reflected in the table above were related entirely to the incremental shares of unvested restricted stock. As of September 30, 2019, there were no outstanding stock options. Stock options of 19,200 outstanding at September 30, 2018 were excluded from common stock equivalents for the three and nine months ended September 30, 2018. The exercise prices of stock options exceeded the average market price of FNCB’s common shares at September 30, 2018; therefore, inclusion of these common stock equivalents would be anti-dilutive to the diluted earnings per common share calculation. The stock options expired on January 5, 2019. 

 

 

Note 12. Other Comprehensive Income

 

The following table summarizes the reclassifications out of accumulated other comprehensive income (loss) for the three and nine months ended September 30, 2019 and 2018, comprised entirely of unrealized gains and losses on available-for-sale debt securities:

 

   

Three Months Ended September 30, 2019

 

Nine Months Ended September 30, 2019

(in thousands)

  Amount Reclassifed from Accumulated Other Comprehensive Income (Loss)   Affected Line Item in the Consolidated Statements of Income   Amount Reclassifed from Accumulated Other Comprehensive Income (Loss)   Affected Line Item in the Consolidated Statements of Income

Available-for-sale debt securities:

                   

Reclassification adjustment for net (gains) losses reclassified into net income

  $ (379 )

Net gain (loss) on the sale of available-for-sale debt securities

  $ (702 )

Net gain (loss) on the sale of available-for-sale debt securities

Taxes

    79  

Income taxes

    147  

Income taxes

Net of tax amount

  $ (300 )     $ (555 )  

 

   

Three Months Ended September 30, 2018

 

Nine Months Ended September 30, 2018

(in thousands)

  Amount Reclassifed from Accumulated Other Comprehensive Income (Loss)   Affected Line Item in the Consolidated Statements of Income   Amount Reclassifed from Accumulated Other Comprehensive Income (Loss)   Affected Line Item in the Consolidated Statements of Income

Available-for-sale debt securities:

                   

Reclassification adjustment for net (gains) losses reclassified into net income

  $ -  

Net gain (loss) on the sale of available-for-sale debt securities

  $ 4  

Net gain (loss) on the sale of available-for-sale debt securities

Taxes

    -  

Income taxes

    (1 )

Income taxes

Net of tax amount

  $ -       $ 3    

 

The following table summarizes the changes in accumulated other comprehensive (loss) income, net of tax for the three and nine months ended September 30, 2019 and 2018:

 

    Three Months Ended September 30,     Nine Months Ended September 30,  

(in thousands)

 

2019

   

2018

   

2019

   

2018

 

Balance, beginning of period

  $ 3,313     $ (7,062 )   $ (4,540 )   $ (1,745 )

Other comprehensive income (loss) before reclassifications

    1,552       (1,819 )     9,660       (7,204 )

Amount reclassified from accumulated other comprehensive income (loss)

    (300 )     -       (555 )     3  

Net other comprehensive income (loss) during the period

    1,252       (1,819 )     9,105       (7,201 )

Reclassification of net loss on equity securities upon adoption of ASU 2016-1

    -       -       -       65  

Balance, end of period

  $ 4,565     $ (8,881 )   $ 4,565     $ (8,881 )

 

 

Item 2 – Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”)

 

This Quarterly Report should be read in conjunction with the more detailed and comprehensive disclosures included in the Annual Report on Form 10-K for the year ended December 31, 2018 for FNCB Bancorp, Inc. In addition, please read this section in conjunction with the consolidated financial statements and notes to consolidated financial statements contained elsewhere herein.

 

FNCB Bancorp, Inc. and its subsidiaries ("FNCB") are in the business of providing customary retail and commercial banking services to individuals, businesses and local governments and municipalities through its wholly-owned subsidiary, FNCB Bank, at its 17 full-service branch offices within its primary market area, Northeastern Pennsylvania, and a limited purpose office based in Allentown, Lehigh County, Pennsylvania.

 

FORWARD-LOOKING STATEMENTS

 

FNCB may from time to time make written or oral “forward-looking statements,” including statements contained in our filings with the Securities and Exchange Commission (“SEC”), in our reports to shareholders, and in our other communications, which are made in good faith by us pursuant to the “safe harbor” provisions of the Private Securities Litigation Reform Act of 1995.

 

These forward-looking statements include statements with respect to FNCB’s beliefs, plans, objectives, goals, expectations, anticipations, estimates and intentions, that are subject to significant risks and uncertainties, and are subject to change based on various factors (some of which are beyond our control). The words “may,” “could,” “should,” “will,” “would,” “believe,” “anticipate,” “estimate,” “expect,” “intend,” “plan,” “project,” “future” and similar expressions are intended to identify forward-looking statements. The following factors, among others, could cause FNCB’s financial performance to differ materially from the plans, objectives, expectations, estimates and intentions expressed in such forward-looking statements: the ability of FNCB to manage credit risk; weakness in the economic environment, in general, and within FNCB’s market area; the deterioration of one or a few of the commercial real estate loans with relatively large balances contained in FNCB’s loan portfolio; greater risk of loan defaults and losses from concentration of loans held by FNCB, including those to insiders and related parties; if FNCB’s ALLL is not sufficient to absorb actual losses or if increases to the ALLL were required; if management concludes that the decline in value of any of FNCB’s investment securities is other-than-temporary; if FNCB’s risk management framework is ineffective in mitigating risks or losses to the Company; if FNCB’s portfolio of loans to small and mid-sized community-based businesses increases its credit risk; FNCB is subject to interest rate risk; changes in interest rates; if FNCB is unable to successfully compete with others for business; a loss of depositor confidence resulting from changes in either FNCB’s financial condition or in the general banking industry; if FNCB is unable to retain or grow its core deposit base; inability or insufficient dividends from its subsidiary, FNCB Bank; if FNCB loses access to wholesale funding sources; interruptions or security breaches of FNCB’s information systems; any systems failures or interruptions in information technology and telecommunications systems of third parties on which FNCB depends; security breaches; if FNCB’s information technology is unable to keep pace with growth or industry developments or if technological developments result in higher costs or less advantageous pricing; the loss of management and other key personnel; dependence on the use of data and modeling in both its management’s decision-making generally and in meeting regulatory expectations in particular; additional risk arising from new lines of business, products, product enhancements or services offered by FNCB; inaccuracy of appraisals and other valuation techniques FNCB uses in evaluating and monitoring loans secured by real property and other real estate owned; unsoundness of other financial institutions; damage to FNCB’s reputation; defending litigation and other actions; dependence on the accuracy and completeness of information about customers and counterparties; risks arising from future expansion or acquisition activity; environmental risks and associated costs on its foreclosed real estate assets; any remediation ordered, or adverse actions taken, by federal and state regulators, including requiring FNCB  to act as a source of financial and managerial strength for the FNCB Bank in times of stress;  costs arising from extensive government regulation, supervision and possible regulatory enforcement actions; new or changed legislation or regulation and regulatory initiatives; noncompliance and enforcement action with the Bank Secrecy Act and other anti-money laundering statutes and regulations; failure to comply with numerous "fair and responsible banking" laws; any violation of laws regarding privacy, information security and protection of personal information or another incident involving personal, confidential or proprietary information of individuals; any rulemaking changes implemented by the Consumer Financial Protection Bureau; inability to attract and retain its highest performing employees due to potential limitations on incentive compensation contained in proposed federal agency rulemaking; any future increases in FNCB Bank’s FDIC deposit insurance premiums and assessments; and the success of FNCB at managing the risks involved in the foregoing and other risks and uncertainties, including those detailed in FNCB’s filings with the SEC.

 

FNCB cautions that the foregoing list of important factors is not all inclusive. Readers are also cautioned not to place undue reliance on any forward-looking statements, which reflect management’s analysis only as of the date of this report, even if subsequently made available by FNCB on its website or otherwise. FNCB does not undertake to update any forward-looking statement, whether written or oral, that may be made from time to time by or on behalf of FNCB to reflect events or circumstances occurring after the date of this report.

 

Readers should carefully review the risk factors described in the Annual Report and other documents that FNCB periodically files with the SEC, including its Form 10-K for the year ended December 31, 2018.

 

CRITICAL ACCOUNTING POLICIES

 

In preparing the consolidated financial statements, management has made estimates, judgments and assumptions that affect the reported amounts of assets and liabilities as of the date of the consolidated statements of condition and results of operations for the periods indicated. Actual results could differ significantly from those estimates.

 

FNCB’s accounting policies are fundamental to understanding management’s discussion and analysis of its financial condition and results of operations. Management has identified the policies on the determination of the allowance for loan and lease losses (“ALLL”), securities’ valuation and impairment evaluation, the valuation of other real estate owned (“OREO”) and income taxes to be critical, as management is required to make subjective and/or complex judgments about matters that are inherently uncertain and could be most subject to revision as new information becomes available.

 

The judgments used by management in applying the critical accounting policies discussed below may be affected by changes and/or deterioration in the economic environment, which may impact future financial results. Specifically, subsequent evaluations of the loan portfolio, in light of the factors then prevailing, may result in significant changes in the ALLL in future periods, and the inability to collect on outstanding loans could result in increased loan losses. In addition, the valuation of certain securities in FNCB’s investment portfolio could be negatively impacted by illiquidity or dislocation in marketplaces resulting in significantly depressed market prices thus leading to impairment losses.

 

 

Allowance for Loan and Lease Losses

 

Management evaluates the credit quality of FNCB’s loan portfolio on an ongoing basis, and performs a formal review of the adequacy of the ALLL on a quarterly basis. The ALLL is established through a provision for loan losses charged to earnings and is maintained at a level management considers adequate to absorb estimated probable losses inherent in the loan portfolio as of the evaluation date. Loans, or portions of loans, determined by management to be uncollectible are charged off against the ALLL, while recoveries of amounts previously charged off are credited to the ALLL.

 

Determining the amount of the ALLL is considered a critical accounting estimate because it requires significant judgment and the use of estimates related to the amount and timing of expected future cash flows on impaired loans, estimated losses on pools of homogeneous loans based on historical loss experience, qualitative factors, and consideration of current economic trends and conditions, all of which may be susceptible to significant change. Banking regulators, as an integral part of their examination of FNCB, also review the ALLL, and may require, based on their judgments about information available to them at the time of their examination, that certain loan balances be charged off or require that adjustments be made to the ALLL. Additionally, the ALLL is determined, in part, by the composition and size of the loan portfolio.

 

The ALLL consists of two components, a specific component and a general component. The specific component relates to loans that are classified as impaired. For such loans, an allowance is established when the discounted cash flows, collateral value or observable market price of the impaired loan is lower than the carrying value of that loan. The general component covers all other loans and is based on historical loss experience adjusted by qualitative factors. The general reserve component of the ALLL is based on pools of unimpaired loans segregated by loan segment and risk rating categories of “Pass,” “Special Mention” or “Substandard and Accruing.” Historical loss factors and various qualitative factors are applied based on the risk profile in each risk rating category to determine the appropriate reserve related to those loans. Substandard loans on non-accrual status above the $100 thousand loan relationship threshold and all loans considered troubled debt restructurings (“TDRs”) are classified as impaired.

 

See Note 4, “Loans” of the notes to consolidated financial statements included in Item 1 hereof for additional information about the ALLL.

 

Securities Valuation and Evaluation for Impairment

 

Management utilizes various inputs to determine the fair value of its investment portfolio. To the extent they exist, unadjusted quoted market prices in active markets (Level 1) or quoted prices for similar assets or models using inputs that are observable, either directly or indirectly (Level 2) are utilized to determine the fair value of each investment in the portfolio. In the absence of observable inputs or if markets are illiquid, valuation techniques are used to determine fair value of any investments that require inputs that are both unobservable and significant to the fair value measurement (Level 3). For Level 3 inputs, valuation techniques are based on various assumptions, including, but not limited to, cash flows, discount rates, adjustments for nonperformance and liquidity, and liquidation values. A significant degree of judgment is involved in valuing investments using Level 3 inputs. The use of different assumptions could have a positive or negative effect on FNCB’s financial condition or results of operations. See Note 3, “Securities” and Note 10, “Fair Value Measurements” of the notes to consolidated financial statements included in Item 1 hereof for additional information about FNCB’s securities valuation techniques.

 

On a quarterly basis, management evaluates individual investment securities in an unrealized loss position for other than temporary impairment (“OTTI”). The evaluation for OTTI requires the use of various assumptions, including but not limited to, the length of time an investment’s fair value is less than book value, the severity of the investment’s decline, any credit deterioration of the issuer, whether management intends to sell the security, and whether it is more-likely-than-not that FNCB will be required to sell the security prior to recovery of its amortized cost basis. Debt investment securities deemed to have OTTI are written down by the impairment related to the estimated credit loss, and the non-credit related impairment loss is recognized in other comprehensive income. FNCB did not recognize any OTTI charges on investment securities for the three and nine months ended September 30, 2019 and 2018 within the consolidated statements of income.

 

Refer to Note 3, “Securities,” of the notes to consolidated financial statements included in Item 1 hereof for additional information about valuation of securities.

 

Other Real Estate Owned

 

OREO consists of property acquired by foreclosure, abandonment or conveyance of deed in-lieu of foreclosure of a loan, and bank premises that are no longer used for operation or for future expansion. OREO is held for sale and is initially recorded at fair value less costs to sell at the date of acquisition or transfer, which establishes a new cost basis. Upon acquisition of the property through foreclosure or deed-in-lieu of foreclosure, any adjustment to fair value less estimated selling costs is recorded to the ALLL. The determination is made on an individual asset basis. Bank premises no longer used for operations or future expansion are transferred to OREO at fair value less estimated selling costs with any related write-down included in non-interest expense. Subsequent to acquisition, valuations are periodically performed and the assets are carried at the lower of cost or fair value less cost to sell. Fair value is determined through external appraisals, current letters of intent, broker price opinions or executed agreements of sale, unless management determines that conditions exist that warrant an adjustment to the value. Costs relating to the development and improvement of the OREO properties may be capitalized; holding period costs and any subsequent changes to the valuation allowance are charged to expense as incurred.

 

Income Taxes

 

The objectives of accounting for income taxes are to recognize the amount of taxes payable or refundable for the current year and deferred tax liabilities and assets for the future tax consequences of events that have been recognized in an entity’s financial statements or tax returns. Judgment is required in assessing the future tax consequences of events that have been recognized in FNCB’s consolidated financial statements or tax returns. Fluctuations in the actual outcome of these future tax consequences could impact our consolidated financial condition or results of operations.

 

FNCB records an income tax provision or benefit based on the amount of tax currently payable or receivable and the change in deferred tax assets and liabilities. Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial and tax reporting purposes. Management conducts quarterly assessments of all available positive and negative evidence to determine the amount of deferred tax assets that will more likely than not be realized. FNCB establishes a valuation allowance for deferred tax assets and records a charge to income if management determines, based on available evidence at the time the determination is made, that it is more likely than not that some portion or all of the deferred tax assets will not be realized. In evaluating the need for a valuation allowance, management considers past operating results, estimates of future taxable income based on approved business plans, future capital requirements and ongoing tax planning strategies. This evaluation process involves significant management judgment about assumptions that are subject to change from period to period depending on the related circumstances. The recognition of deferred tax assets requires management to make significant assumptions and judgments about future earnings, the periods in which items will impact taxable income, future corporate tax rates, and the application of inherently complex tax laws. The use of different estimates can result in changes in the amounts of deferred tax items recognized, which may result in equity and earnings volatility because such changes are reported in current period earnings.

 

 

In connection with determining the income tax provision or benefit, management considers maintaining liabilities for uncertain tax positions and tax strategies that it believes contain an element of uncertainty. Periodically, management evaluates each of FNCB’s tax positions and strategies to determine whether a liability for uncertain tax benefits is required. As of September 30, 2019 and December 31, 2018, management determined that FNCB did not have any uncertain tax positions or tax strategies and that no liability was required to be recorded.

 

Refer to Note 5, “Income Taxes,” of the notes to consolidated financial statements included in Item 1 hereof for additional information about income taxes.

 

New Authoritative Accounting Guidance and Accounting Guidance to be Adopted in Future Periods

 

Refer to Note 2, “New Authoritative Accounting Guidance,” of the notes to consolidated financial statements included in Item 1 hereof for information about new authoritative accounting guidance adopted by FNCB during the three months ended September 30, 2019, as well as new accounting guidance issued, but not previously reported, that will be adopted by FNCB in future periods.

 

Executive Summary

 

The following overview should be read in conjunction with this MD&A in its entirety.

 

FNCB recorded consolidated net income of $2.4 million, or $0.12 per basic and diluted common share, for the three months ended September 30, 2019, an increase of $553 thousand, or 29.9%, compared to $1.9 million, or $0.11 per basic and diluted common share, for the three months ended September 30, 2018. Net income for the nine months ended September 30, 2019 totaled $7.6 million, or $0.39 per basic and diluted share, an increase of $1.3 million, or 20.8%, from $6.3 million, or $0.37 per basic and diluted share, for the same nine months of 2018. The earnings improvement for both the three months and nine months ended September 30, 2019 was largely due to a reduction in the provision for loan and lease losses, coupled with an increase in non-interest income. Partially offsetting these positive factors was a decrease in net interest income and an increase in non-interest expense.

 

For the three months and nine months ended September 30, 2019, the annualized return on average assets was 0.80% and 0.84%, respectively, and 0.59% and 0.69%, respectively, for the same periods of 2018. The annualized return on average equity was 7.30% and 8.32%, respectively, for the three- and nine-month periods ended September 30, 2019, compared to 8.41% and 9.68%, respectively, for the comparable periods of 2018. FNCB declared and paid dividends to holders of common stock of $0.05 per share for the third quarter and $0.15 per share for the nine months ended September 30, 2019, a 25.0% increase compared to $0.04 per share and $0.12 per share for the same periods of 2018. The dividend pay-out ratio for the nine months ended September 30, 2019, was 39.8%, compared to 30.3% for the comparable period of 2018.


Total assets decreased $40.5 million, or 3.3%, to $1.197 billion at September 30, 2019 from $1.238 billion at December 31, 2018. The change in total assets primarily reflected a $2.2 million, or 0.3%, decrease in loans, net of deferred costs and unearned income to $836.9 million at September 30, 2019 from $839.1 million at December 31, 2018. The planned runoff of indirect automobile loans, coupled with the anticipated payoff of two municipal loans were the primary factors leading to the declines in loans. Also contributing to the balance sheet contraction was a $41.4 million, or 14.0%, decrease in available-for-sale debt securities to $254.6 million at September 30, 2019 from $296.0 million at December 31, 2018.  Total deposits decreased by $131.6 million, or 12.0%, to $964.1 million at September 30, 2019 from $1.096 billion at December 31, 2018. The decline in deposits was primarily attributable to cyclical net outflows of public funds. Borrowed funds increased $55.5 million, or 162.2%, to $89.8 million at September 30, 2019 from $34.2 million at December 31, 2018. 

 

Total shareholders’ equity increased $35.4 million, or 36.4%, to $132.6 million at September 30, 2019 from $97.2 million at December 31, 2018.  FNCB successfully completed a public offering of its common stock in February 2019, which resulted in a net increase to capital after offering expenses of $21.3 million. Also contributing to the increase in capital was net income for the nine months ended September 30, 2019 of $7.6 million and a $9.1 million increase in accumulated other comprehensive income related to appreciation in the fair value of FNCB’s available-for-sale securities, net of income taxes. Partially offsetting these increases were dividends declared and paid of $3.0 million for the nine months ended September 30, 2019. 

 

During the second quarter of 2019, FNCB opened a de novo branch in Mountain Top, Luzerne County, Pennsylvania in a facility that was purchased in the fourth quarter of 2018. Also, in the second quarter of 2019, FNCB completed the construction and relocation of its main office into a new state-of-the-art facility. The new main office is located directly across the street from the former main office at 100 S. Blakely Street, Dunmore, Lackawanna County, Pennsylvania. Both the Mountain Top community office and the new Main Office feature the personal banker model and a relaxed, cafe-like atmosphere designed to enhance the customer's in-branch banking experience. The cost of the main office relocation project approximated $2.0 million and was funded by cash generated from operations. The former main office is currently being renovated and will house members of FNCB's Commercial Lending and Retail Banking Units.

 

Following the close of the U.S. Stock Market on June 28, 2019, FNCB was added as a member of the Russell 3000® Index, when FTSE Russell reconstituted its comprehensive set of U.S. and global equity indexes. The annual Russell indexes reconstitution captures the 4,000 largest U.S. stocks and ranks them by total market capitalization. Russell indexes are widely used by investment managers and institutional investors for index funds and as benchmarks for active investment strategies. As such, management believes that inclusion in Russell 3000® Index will continue to increase the visibility and liquidity of FNCB's common stock, as well as provide exposure to leading institutional investors.

 

Throughout 2019, management has been focused on strategic business market opportunities that would enhance shareholder value through balance sheet repositioning, net interest margin improvement and diversification and growth of non-interest revenue streams, while creating operating efficiencies and enhancing profitability. In order to assist in these initiatives, in 2019, FNCB appointed a Chief Banking Officer and a Chief Business Development Officer to its Executive Management Team. The Chief Banking Officer, who has extensive retail financial sales and managerial experience oversees FNCB's commercial lending, retail lending and retail banking units.  The Chief Business Development Office brings years of banking industry experience and will work to identify and develop business opportunities in new and existing markets.

 

During the third quarter of 2019, management also engaged an independent third party consultant under a revenue share agreement to conduct an evaluation of FNCB’s non-interest revenue streams and fee structure to identify opportunities for enhancement. The initial assessment has been completed and recommendations have been provided and approved by management. Implementation of the approved recommendations will be finalized in the fourth quarter of 2019. Additionally, in the fourth quarter of 2019 FNCB will extend its automated teller machine ("ATM") and mobile-banking platforms. On October 4, 2019, FNCB joined AllPoint®, a third-party ATM network that will provide customers with approximately 55,000 surcharge free ATMs throughout the United States, Canada, Mexico and the United Kingdom. With regard to mobile-banking, FNCB will begin offering several electronic payment alternatives including Apple Pay, Samsung Pay and Google Pay to its customers in the fourth quarter of 2019, and electronic money transfer through Zelle® in first half of 2020.

 

 

Summary of Performance

 

Net Interest Income

 

The $236 thousand, or 2.5%, decrease in tax-equivalent net interest income comparing the third quarters of 2019 and 2018, was due to a $219 thousand, or 1.9%, reduction in tax-equivalent interest income, coupled with a $17 thousand increase in interest expense. The reduction in tax-equivalent interest income comparing the three months ended September 30, 2019 and 2018 was caused primarily by a decrease in average earning assets, partially offset by an increase in the tax-equivalent yield on earning assets. Earning assets averaged $1.1 billion for the three months ended September 30, 2019, a decrease of $69.7 million, or 6.0%, compared to $1.2 billion for the same three months of 2018, which resulted in a corresponding decrease in tax-equivalent interest income of $683 thousand. Specifically, comparing the third quarters of 2019 and 2018, average loans and investment securities decreased $39.6 million, or 4.6%, and $36.4 million, or 11.8%, respectively, which caused corresponding decreases in tax-equivalent interest income of $438 thousand and $265 thousand respectively. Partially offsetting the decreases due to changes in volumes of earning assets, was an 18-basis point increase in the tax-equivalent yield on earning assets to 4.22% for the third quarter of 2019 from 4.04% for the same quarter of 2018, which resulted in an increase to tax-equivalent interest income of $464 thousand. Comparing the three months ended September 30, the tax-equivalent yield on the loan portfolio increased 19 basis points to 4.67% in 2019 from 4.48% in 2018, resulting in a corresponding increase in tax-equivalent interest income of $393 thousand. Additionally, the tax-equivalent yield on the investment portfolio increased 11 basis points to 2.95% in 2019 compared to 2.84% in 2018, resulting in additional tax-equivalent interest income of $78 thousand.

 

The $17 thousand increase in interest expense comparing the third quarters of 2019 and 2018 was caused by higher funding costs, partially offset by a reduction in average interest-bearing liabilities. FNCB’s cost of funds increased 11 basis points to 1.11% for the three months ended September 30, 2019 from 1.00% for the same three months of 2018, resulting in an increase to interest expense of $518 thousand. Specifically, increases in rates paid on interest-bearing demand deposits and time deposit specials resulted in an increase in the cost of interest-bearing deposits of 21 basis points to 0.96% in 2019 from 0.75% in 2018, which resulted in an increase to interest expense of $439 thousand. Additionally, the cost of borrowed funds increased 23 basis points to 2.58% in 2019 from $2.35% in 2018, resulting in an increase to interest expense of $79 thousand. Partially offsetting these increases was a reduction in the average balances of interest-bearing liabilities. For the three months ended September 30, 2019, interest-bearing liabilities averaged $880.9 million, a decrease of $96.4 million, or 9.9%, from $977.3 million for the same three months of 2018, which resulted in a decrease to interest expense of $501 thousand. Specifically, average borrowed funds decreased $63.8 million, or 42.6%, to $85.9 million in 2019 from $149.7 million in 2018, as FNCB reduced its reliance on wholesale funding. The reduction in borrowed funds accounted for $404 thousand, or 80.6%, of the decrease in interest expense due to changes in volumes of interest-bearing liabilities. Additionally, reductions in brokered deposits and runoff of retail time deposit specials resulted in a $32.6 million, or 3.9%, decrease in average deposits to $795.0 million in 2019 from $827.6 million in 2018. The decrease in average deposit volumes resulted in a corresponding decrease to interest expense of $97 thousand comparing the three months ended September 30, 2019 and 2018.

 

For the nine months ended September 30, 2019, tax-equivalent net interest income decreased $434 thousand, or 1.6%, to $27.3 million from $27.7 million for the same period of 2018, as a $1.6 million, or 27.2%, increase in interest expense overshadowed an $1.2 million, or 3.5%, increase in tax-equivalent interest income. The increase in interest expense comparing the year-to-date periods of 2019 and 2018 was caused by higher funding costs, partially offset by a reduction in average interest-bearing liabilities. FNCB’s cost of funds increased 27 basis points to 1.11% for the nine months ended September 30, 2019 from 0.84% for the same nine months of 2018, resulting in an increase to interest expense of $2.7 million. Specifically, increases in average rates paid on interest-bearing demand deposits and time deposit specials resulted in an increase in the cost of interest-bearing deposits of 37 basis points to 0.99% in 2019 from 0.62% in 2018, which resulted in an increase to interest expense of $2.2 million. Additionally, the cost of borrowed funds increased 58 basis points to 2.73% in 2019 from 2.15% in 2018, resulting in an increase to interest expense of $0.5 million. Partially offsetting these increases was a reduction in the average balances of interest-bearing liabilities. For the nine months ended September 30, 2019, interest-bearing liabilities averaged $915.3 million, a decrease of $31.6 million, or 3.3%, from $947.0 million for the same period of 2018, which resulted in a decrease to interest expense of $1.0 million. Management was focused on reducing FNCB’s reliance on wholesale funding during the nine months ended September 30, 2019. As a result, average borrowed funds decreased $73.2 million, or 52.7%, to $65.6 million in 2019 from $138.8 million in 2018, which caused a corresponding decrease to interest expense of $1.4 million. Conversely, increases in average interest-bearing deposits and average time deposits, partially offset by a reduction in average savings accounts resulted in a $41.5 million, or 5.1%, increase in average deposits to $849.7 million in 2019 from $808.2 million in 2018. The increase in average deposit volumes resulted in a corresponding increase to interest expense of $0.4 million comparing the year-to-date periods of 2019 and 2018.

 

Partially offsetting the increase in interest expense was a $1.2 million, or 3.5%, increase in tax-equivalent interest income to $34.9 million for the nine months ended September 30, 2019 from $33.7 million for the comparable period of 2018. The increase was caused primarily by an increase in the tax-equivalent yield on earning assets, partially offset by a reduction in average earnings assets. The tax-equivalent yield on earning assets increased 20 basis points to 4.14% for the nine months ended September 30, 2019 from 3.94% for the same period of 2018, which resulted in an increase to tax-equivalent interest income of $1.6 million. Comparing the nine months ended September 30, the tax-equivalent yield on the loan portfolio increased 25 basis points to 4.61% in 2019 from 4.36% in 2018, resulting in a corresponding increase in tax-equivalent interest income of $1.5 million. Additionally, the tax-equivalent yield on the investment portfolio increased 4 basis points to 2.87% in 2019 compared to 2.83% in 2018, resulting in additional tax-equivalent interest income of $90 thousand. Average earning assets decreased of $15.8 million, or 1.4%, comparing the year-to-date periods of 2019 and 2018, which resulted in a corresponding decrease in tax-equivalent interest income of $0.4 million. Specifically, comparing the nine months ended September 30, 2019 and 2018, average investment securities decreased $22.4 million, or 7.3%, while average loans decreased $1.3 million, or 0.2%, which caused corresponding decreases in tax-equivalent interest income of $471 thousand and $35 thousand, respectively. Partially offsetting the decreases in average investments and average loans was a $7.9 million, or 233.0%, increase in average interest-bearing deposits in other banks to $11.3 million in 2019 from $3.4 million in 2018, which contributed $133 thousand in tax-equivalent interest income.

 

 

 

Net interest income depends upon the relative amount of interest-earning assets and interest-bearing liabilities and the interest rate earned or paid on them. The following tables present certain information about FNCB’s consolidated statements of financial condition and consolidated statements of income for the three and nine-month periods ended September 30, 2019 and 2018, and reflects the average yield on assets and average cost of liabilities for the periods indicated. Such yields and costs are calculated by dividing income or expense by the average balance of assets or liabilities, respectively, for the periods shown. Average balances are derived from average daily balances. The yields include amortization of fees which are considered adjustments to yields.

 

   

Three Months Ended

 
   

September 30, 2019

   

September 30, 2018

 
   

Average

           

Yield/

   

Average

           

Yield/

 

(dollars in thousands)

 

Balance

   

Interest

   

Cost

   

Balance

   

Interest

   

Cost

 

Assets

                                               

Earning assets (2)(3)

                                               

Loans-taxable (4)

  $ 781,963     $ 9,170       4.69 %   $ 803,314     $ 9,059       4.51 %

Loans-tax free (4)

    37,638       403       4.28 %     55,848       559       4.01 %

Total loans (1)(2)

    819,601       9,573       4.67 %     859,162       9,618       4.48 %

Securities-taxable

    266,653       1,951       2.93 %     303,037       2,138       2.82 %

Securities-tax free

    4,611       47       4.08 %     4,664       47       4.03 %

Total securities (1)(5)

    271,264       1,998       2.95 %     307,701       2,185       2.84 %

Interest-bearing deposits in other banks

    10,007       30       1.20 %     3,735       17       1.82 %

Total earning assets

    1,100,872       11,601       4.22 %     1,170,598       11,820       4.04 %

Non-earning assets

    99,888                       85,091                  

Allowance for loan and lease losses

    (9,081 )                     (9,573 )                

Total assets

  $ 1,191,679                     $ 1,246,116                  
                                                 

Liabilities and Shareholders' Equity

                                               

Interest-bearing liabilities

                                               

Interest-bearing demand deposits

  $ 480,277       1,011       0.84 %   $ 481,120       722       0.60 %

Savings deposits

    93,369       31       0.13 %     97,634       33       0.14 %

Time deposits

    221,325       859       1.55 %     248,816       804       1.29 %

Total interest-bearing deposits

    794,971       1,901       0.96 %     827,570       1,559       0.75 %

Borrowed funds and other interest-bearing liabilities

    85,927       554       2.58 %     149,682       879       2.35 %

Total interest-bearing liabilities

    880,898       2,455       1.11 %     977,252       2,438       1.00 %

Demand deposits

    169,416                       173,616                  

Other liabilities

    10,730                       7,983                  

Shareholders' equity

    130,635                       87,265                  

Total liabilities and shareholder's equity

  $ 1,191,679                     $ 1,246,116                  
                                                 

Net interest income/interest rate spread (6)

            9,146       3.11 %             9,382       3.04 %

Tax equivalent adjustment

            (95 )                     (127 )        

Net interest income as reported

          $ 9,051                     $ 9,255          
                                                 

Net interest margin (7)

                    3.32 %                     3.21 %

 

 

   

Nine Months Ended

 
   

September 30, 2019

   

September 30, 2018

 
   

Average

           

Yield/

   

Average

           

Yield/

 

(dollars in thousands)

 

Balance

   

Interest

   

Cost

   

Balance

   

Interest

   

Cost

 

Assets

                                               

Earning assets (2)(3)

                                               

Loans-taxable (4)

  $ 781,612     $ 27,194       4.64 %   $ 778,906     $ 25,624       4.39 %

Loans-tax free (4)

    46,019       1,417       4.11 %     50,071       1,514       4.03 %

Total loans (1)(2)

    827,631       28,611       4.61 %     828,977       27,138       4.36 %

Securities-taxable

    280,114       5,997       2.85 %     303,239       6,400       2.81 %

Securities-tax free

    4,624       142       4.09 %     3,897       120       4.11 %

Total securities (1)(5)

    284,738       6,139       2.87 %     307,136       6,520       2.83 %

Interest-bearing deposits in other banks

    11,309       155       1.83 %     3,396       52       2.04 %

Total earning assets

    1,123,678       34,905       4.14 %     1,139,509       33,710       3.94 %

Non-earning assets

    95,412                       84,737                  

Allowance for loan and lease losses

    (9,344 )                     (9,465 )                

Total assets

  $ 1,209,746                     $ 1,214,781                  
                                                 

Liabilities and Shareholders' Equity

                                               

Interest-bearing liabilities

                                               

Interest-bearing demand deposits

  $ 503,483       3,095       0.82 %   $ 486,904       1,855       0.51 %

Savings deposits

    92,893       96       0.14 %     101,066       101       0.13 %

Time deposits

    253,306       3,092       1.63 %     220,206       1,804       1.09 %

Total interest-bearing deposits

    849,682       6,283       0.99 %     808,176       3,760       0.62 %

Borrowed funds and other interest-bearing liabilities

    65,648       1,343       2.73 %     138,808       2,237       2.15 %

Total interest-bearing liabilities

    915,330       7,626       1.11 %     946,984       5,997       0.84 %

Demand deposits

    161,036                       172,050                  

Other liabilities

    11,406                       9,019                  

Shareholders' equity

    121,974                       86,728                  

Total liabilities and shareholder's equity

  $ 1,209,746                     $ 1,214,781                  
                                                 

Net interest income/interest rate spread (6)

            27,279       3.03 %             27,713       3.10 %

Tax equivalent adjustment

            (328 )                     (343 )        

Net interest income as reported

          $ 26,951                     $ 27,370          
                                                 

Net interest margin (7)

                    3.24 %                     3.24 %

 

 

(1)

Interest income is presented on a tax equivalent basis using a 21% rate.

 

(2)

Loans are stated net of unearned income.

 

(3)

Non-accrual loans are included in loans within earning assets.

 

(4)

Loan fees included in interest income are not significant.

 

(5)

The yields for securities that are classified as available for sale is based on the average historical amortized cost.

 

(6)

Interest rate spread represents the difference between the average yield on interest earning assets and the cost of interest bearing liabilities and is presented on a tax equivalent basis.

 

(7)

Net interest income as a percentage of total average interest earning assets.

 

 

Rate Volume Analysis

 

The most significant impact on net income between periods is derived from the interaction of changes in the volume and rates earned or paid on interest-earning assets and interest-bearing liabilities. The volume of earning assets, specifically loans and investments, compared to the volume of interest-bearing liabilities represented by deposits and borrowings, combined with the spread, produces the changes in net interest income between periods. Components of interest income and interest expense are presented on a tax-equivalent basis using the corporate federal income tax rate of 21%.

 

The following table summarizes the effect that changes in volumes of earning assets and interest-bearing liabilities and the interest rates earned and paid on these assets and liabilities have on net interest income. The net change or mix component attributable to the combined impact of rate and volume changes has been allocated proportionately to the change due to volume and the change due to rate.

 

   

Three Months Ended September 30,

   

Nine Months Ended September 30,

 
   

2019 vs. 2018

   

2019 vs. 2018

 
   

Increase (Decrease)

   

Increase (Decrease)

 
   

Due to

   

Due to

   

Total

   

Due to

   

Due to

   

Total

 

(in thousands)

 

Volume

   

Rate

   

Change

   

Volume

   

Rate

   

Change

 

Interest income:

                                               

Loans - taxable

  $ (245 )   $ 356     $ 111     $ 89     $ 1,480     $ 1,569  

Loans - tax free

    (193 )     37       (156 )     (124 )     28       (96 )

Total loans

    (438 )     393       (45 )     (35 )     1,508       1,473  

Securities - taxable

    (264 )     77       (187 )     (494 )     91       (403 )

Securities - tax free

    (1 )     1       -       23       (1 )     22  

Total securities

    (265 )     78       (187 )     (471 )     90       (381 )

Interest-bearing deposits in other banks

    20       (7 )     13       133       (30 )     103  

Total interest income

    (683 )     464       (219 )     (373 )     1,568       1,195  
                                                 

Interest expense:

                                               

Interest-bearing demand deposits

    (1 )     290       289       65       1,175       1,240  

Savings deposits

    (1 )     (1 )     (2 )     (8 )     3       (5 )

Time deposits

    (95 )     150       55       302       986       1,288  

Total interest-bearing deposits

    (97 )     439       342       359       2,164       2,523  

Borrowed funds and other interest-bearing liabilities

    (404 )     79       (325 )     (1,389 )     495       (894 )

Total interest expense

    (501 )     518       17       (1,030 )     2,659       1,629  

Net interest income

  $ (182 )   $ (54 )   $ (236 )   $ 657     $ (1,091 )   $ (434 )

 

Provision for Loan and Lease Losses

 

Management closely monitors the loan portfolio and the adequacy of the ALLL by considering the underlying financial performance of the borrower, collateral values and associated credit risks. Future material adjustments may be necessary to the provision for loan and lease losses and the ALLL if economic conditions or loan performance differ substantially from the assumptions management considered in its evaluation of the ALLL. The provision for loan and lease losses is an expense charged against net interest income to provide for probable losses attributable to uncollectible loans and is based on management’s analysis of the adequacy of the ALLL. A credit to loan and lease losses reflects the reversal of amounts previously charged to the ALLL.

 

FNCB recorded a provision for loan and lease losses of $0.6 million for the three-month period ended September 30, 2019, a decrease of $0.5 million, or 44.6%, compared to a provision of $1.1 million for the three months ended September 30, 2018. The provision for loan losses amounted to $0.8 million for the nine months ended September 30, 2019, a decrease of $1.9 million, or 69.8%, from $2.7 million for the same nine months of 2018. The reduction in the provision for loan losses for the quarter and year-to-date periods primarily reflected a decrease in loan balances, coupled with a decrease in historical net charge-off rates.

 

  

Non-interest Income

 

Non-interest income increased $511 thousand, or 38.7%, to $1.8 million for the three months ended September 30, 2019 from $1.3 million for the same three months of 2018. For the nine months ended September 30, 2019, non-interest income increased $556 thousand, or 12.7%, to $4.9 million from $4.4 million for the same nine-month period of 2018. An increase in net gains realized on the sale of available-for-sale debt securities, higher deposit service charges and other income, were the predominant factors leading to the increase in non-interest income comparing the quarter and year-to-date periods ending September 30, 2019 and 2018. Also impacting the year-to-date period was a reduction in net gains on the sale of SBA-guaranteed loans. FNCB realized net gains on the sale of available-for-sale debt securities of $379 thousand and $702 thousand for the three months and nine months ended September 30, 2019, respectively, compared to net losses of $4 thousand for the nine-month period ended September 30, 2018. There were no gains on the sale of available-for-sale debt securities for the three months ended September 30, 2018.  Additionally, FNCB realized net gains on equity securities of $5 thousand and $31 thousand for the three and nine months ended September 30, 2019, respectively, compared to net losses of  $8 thousand and $34 thousand for the respective periods of 2018. For the nine months ended September 30, 2018, FNCB realized net gains on the sale of SBA-guaranteed loans of $322 thousand. FNCB did not sell any SBA-guaranteed loans in the respective periods of 2019. Deposit service charges increased $86 thousand, or 12.1%, comparing the third quarters of 2019 and 2018, and $43 thousand, or 2.0%, comparing the nine months ended September 30, 2019 and 2018.

 

During the third quarter of 2019, management engaged an independent third party under a revenue share agreement to conduct an evaluation of FNCB’s non-interest revenue streams and fee structure to identify opportunities for enhancement. The initial assessment has been completed and recommendations have been provided and approved by management. Implementation of the approved recommendations will be finalized in the fourth quarter of 2019.

 

Non-interest Expense

 

Non-interest expense increased $141 thousand, or 2.0%, to $7.3 million for the three months ended September 30, 2019 from $7.2 million for the same three months of 2018. The change primarily reflected an increase of $330 thousand, or 9.2%, in salaries and employee benefits expense, to $3.9 million for the three months ended September 30, 2019 from $3.6 million for the same three months of 2018 due to staff additions in 2019. Also contributing to the increase in non-interest expense was a $151 thousand increase in director fees to $236 thousand for the third quarter of 2019 from $85 thousand for the same quarter of 2018.  On July 1, 2019, FNCB granted 1,956 shares of FNCB's common stock under the the Company's Long-Term Incentive Compensation Plan ("LTIP") to each of the Bank's ten non-employee directors for a total of 19,560 shares.  The fair value on the grant date was $7.67 per share. Accordingly, FNCB recorded directors fees of $150 thousand as part of this grant during the third quarter of 2019.  Partially offsetting these increases were reductions in regulatory assessments and occupancy expenses. For the three months ended September 30, 2019, regulatory assessments decreased $230 thousand, or 91.6%, to $21 thousand in 2019 from $251 thousand for the same period of 2018, primarily due to the small bank assessment credit, coupled with a reduction in the FDIC deposit insurance assessment rate resulting from FNCB's improved capital position. Comparing the third quarters of 2019 and 2018, occupancy expense decreased $40 thousand, or 8.0%, due to reductions in depreciation on leasehold improvements, building maintenance and utility expenses.

 

For the nine months ended September 30, 2019, non-interest expense increased $490 thousand, or 2.3%, to $21.9 million from $21.4 million for the same nine months of 2018. Similar to the third quarter comparison, the increase for the year-to-date period was largely due to increases in salaries and employee benefits of $902 thousand, or 8.4%, to $11.6 million for the nine months ended September 30, 2019 from $10.7 million for the same period of 2018, and a $149 thousand, or 58.2%, increase in directors fees following the grant of shares of common stock under the LTIP. Additionally, data processing expenses increased $272 thousand, or 13.4%, to $2.3 million in for the nine months ended September 30, 2019 from $2.0 million for the same nine months of 2018. Partially offsetting these increases comparing the nine months ended September 30, 2019 and 2018 were reductions in regulatory assessments of $383 thousand, or 59.1%, and occupancy expense of $175 thousand, or 10.7%.

 

Provision for Income Taxes

 

FNCB recorded income tax expense of $1.6 million for the nine months ended September 30, 2019, an increase of $260 thousand, or 19.6%, compared to income tax expense of $1.3 million for the same period of 2018. The increase in income tax expense primarily reflected an increase in pre-tax net income of $1.6 million, or 20.5%, when comparing the nine months ended September 30, 2019 and 2018.

 

Management evaluates the carrying amount of its deferred tax assets on a quarterly basis, or more frequently, if necessary, in accordance with guidance set forth in ASC Topic 740 “Income Taxes,” and applies the criteria in the guidance to determine whether it is more likely than not that some portion, or all, of the deferred tax asset will not be realized within its life cycle, based on the weight of available evidence. If management determines based on available evidence, both positive and negative, that it is more likely than not that some portion or all of the deferred tax asset will not be realized in future periods, a valuation allowance is calculated and recorded. These determinations are inherently subjective and depend upon management’s estimates and judgments used in their evaluation of both positive and negative evidence.

 

In evaluating available evidence, management considers, among other factors, historical financial performance, expectation of future earnings, the ability to carry back losses to recoup taxes previously paid, length of statutory carry forward periods, experience with operating loss and tax credit carry forwards not expiring unused, tax planning strategies and timing of reversals of temporary differences. In assessing the need for a valuation allowance, management carefully weighs both positive and negative evidence currently available.

 

Management performed an evaluation of FNCB’s deferred tax assets at September 30, 2019 taking into consideration both positive and negative evidence that existed as of that date. Based on this evaluation, management believes that FNCB’s future taxable income will be sufficient to utilize deferred tax assets. Accordingly, management concluded that no valuation allowance for deferred tax assets was required at September 30, 2019.

 

 

FINANCIAL CONDITION

 

Assets

 

Total assets decreased $40.5 million, or 3.3%, to $1.197 billion at September 30, 2019 from $1.238 billion at December 31, 2018. The change in total assets primarily reflected decreases in loans and available-for sale debt securities, partially offset by an increase in cash and cash equivalents and other assets. Net loans decreased $2.0 million, or 0.2%, to $827.6 million at September 30, 2019 from $829.6 million at December 31, 2018, which primarily reflected the planned runoff of indirect automobile loan balances and the anticipated payoff of two large municipal loans, partially offset by growth in construction, land acquisition and development loans. Available-for-sale debt securities decreased  $41.4 million, or 14.0%, to $254.6 million at September 30, 2019 from $296.0 million at December 31, 2018.  Market opportunities allowed for the sale of securities to supplement cyclical deposit trends, minimize wholesale funding utilization and record additional non-interest income. Bank premises and equipment, net increased $2.8 million, or 19.7%, which largely reflected the completion of the new Main Office. Other assets increased $2.6 million, or 25.0%, to $12.7 million at September 30, 2019 from $10.1 million at December 31, 2018, which was largely due to the capitalization of the right of use assets associated with FNCB's operating leases upon the adoption of new accounting guidance for leases that became effective on January 1, 2019.  Total deposits decreased by $131.6 million, or 12.0%, to $964.1 million at September 30, 2019 from $1.096 billion at December 31, 2018. The deposit decrease was primarily attributable to cyclical net outflows of municipal deposits and a reduction in the utilization of wholesale brokered deposits. Conversely, borrowed funds increased $55.5 million, or 162.2%, to $89.8 million at September 30, 2019 as compared to $34.2 million at December 31, 2018.

 

Cash and Cash Equivalents

 

Cash and cash equivalents increased $1.0 million, or 2.8%, to $37.5 million at September 30, 2019 from $36.5 million at December 31, 2018. The increase was due primarily to proceeds received from the capital raise, from sale and repayments of available-for-sale debt securities, net of purchases and an increase in borrowed funds, partially offset by cyclical reductions in deposits. FNCB paid dividends of $0.05 per share and $0.15 per share for the three months and nine months ended September 30, 2019, respectively, an increase of 25.0% compared to dividends of $0.04 per share and $0.12 per share for the respective periods of 2018. 

 

Securities

 

FNCB’s investment securities portfolio provides a source of liquidity needed to meet expected loan demand and interest income to increase profitability. Additionally, the investment securities portfolio is used to meet pledging requirements to secure public deposits and for other purposes. Debt securities are classified as either held-to-maturity or available-for-sale at the time of purchase based on management's intent. Held-to-maturity securities are carried at amortized cost, while available-for-sale securities are carried at fair value, with unrealized holding gains and losses reported as a component of shareholders’ equity in accumulated other comprehensive income (loss), net of tax. At September 30, 2019 and December 31, 2018, all debt securities were classified as available-for-sale. Equity securities with readily determinable fair values are carried at fair value, with gains and losses due to fluctuations in market value included in the consolidated statements of income. Securities with limited marketability and/or restrictions, such as FHLB of Pittsburgh stock, are carried at cost. Decisions to purchase or sell investment securities are based upon management’s current assessment of long- and short-term economic and financial conditions, including the interest rate environment and asset/liability management, liquidity and tax-planning strategies.

 

At September 30, 2019, the investment portfolio was comprised principally of fixed-rate and floating-rate securities issued by U.S. government or U.S. government-sponsored agencies, which include mortgage-backed securities and residential and commercial collateralized mortgage obligations (“CMOs”), fixed-rate taxable obligations of state and political subdivisions and corporate debt securities. Except for U.S. government and government-sponsored agencies, there were no securities of any individual issuer that exceeded 10.0% of shareholders’ equity at September 30, 2019.

 

The following table presents the carrying value of debt securities, all of which were classified as available-for-sale and carried at fair value at September 30, 2019 and December 31, 2018:

 

Composition of the Investment Portfolio

 

   

September 30,

   

December 31,

 

(in thousands)

 

2019

   

2018

 

Available-for-sale debt securities

               

Obligations of state and political subdivisions

  $ 101,683     $ 152,187  

U.S. government/government-sponsored agencies:

               

Collateralized mortgage obligations - residential

    66,840       34,207  

Collateralized mortgage obligations - commercial

    43,822       73,640  

Mortgage-backed securities

    18,745       23,934  

Private collateralized mortgage obligations

    10,063       2,913  

Corporate debt securities

    6,101       4,936  

Asset-backed securities

    5,229       1,802  

Negotiable certificates of deposit

    2,183       2,413  
Total available-for-sale debt securities   $ 254,666     $ 296,032  

 

Management monitors the investment portfolio regularly and adjusts the investment strategy to reflect changes in liquidity needs, asset/liability strategy and tax planning requirements. FNCB currently has $30.0 million in net operating loss ("NOL") carryovers, which it uses to offset any taxable income. Because of this tax position, there is no benefit from holding tax-exempt obligations of state and political subdivisions. Accordingly, management actions during recent periods have reflected current tax planning initiatives focused on generating sustained taxable income to be able to reduce NOL carryovers.

 

 

Market opportunities during the three and nine months ended September 30, 2019 provided management with the ability to sell lower-yielding securities at a gain and reinvest a portion of the proceeds into higher yielding securities within FNCB's risk tolerance. Additionally, the current ALCO strategy involves utilizing FNCB's security portfolio to shorten FNCB's short-term liability sensitivity. During the three months ended September 30, 2019, FNCB sold 26 available-for-sale debt securities including 19 taxable obligations of state and political subdivisions and seven U.S. government/government-sponsored agency mortgage-backed securities and CMOs. The securities sold had an aggregate amortized cost of $40.7 million with a weighted-average yield of 2.20%. For the third quarter of 2019, gross proceeds received totaled $41.1 million, with a net gain of $379 thousand realized upon the sales included in non-interest income. For the three months ended September 30, 2019, purchases of available-for-sale debt securities totaled $11.3 million with a weighted-average yield of 2.64%, including two U.S. government/government-sponsored CMOs, one taxable obligations of state and political subdivisions and one private asset-backed security.

 

During the nine months ended September 30, 2019, FNCB sold 66 available-for-sale debt securities, including 51 taxable obligations of state and political subdivisions and 14 U.S. government/government-sponsored agency mortgage-backed securities and CMOs. The securities sold had an aggregate amortized cost of $101.6 million and a weighted average yield 2.43%.  Gross proceeds received totaled $102.3 million, with net gains of $702 thousand realized upon the sales, which was included in non-interest income. For the nine months ended September 30, 2019, FNCB purchased 13 securities with an aggregate amortized cost of $55.8 million and a weighted-average yield of 2.94%. The purchases included eight U.S. government agency CMOs, one private CMO, two asset-backed securities, one state and political subdivisions and one corporate bond. In order to mitigate FNCB's short-term liability sensitivity, six of the eight U.S. government agency bonds purchased with an aggregate cost of $30.6 million were floating-rate securities issued by GNMA. Additionally, at September 30, 2019, FNCB committed to purchase three securities, when issued, including two taxable obligations of state and political subdivisions and one private CMO with an aggregate cost of $6.0 million and a weighted-average yield of 2.78%.

The following table presents the maturities of available-for-sale debt securities, based on carrying value at September 30, 2019 and the weighted average yields of such securities calculated on the basis of the amortized cost and effective yields weighted for the scheduled maturity of each security. The yields on tax-exempt obligations of state and political subdivisions are presented on a tax-equivalent basis using the federal corporate income tax rate of 21.0%. Because residential, commercial and private collateralized mortgage obligations, mortgage-backed securities and asset-backed securities are not due at a single maturity date, they are not included in the maturity categories in the following summary.

Maturity Distribution of the Investment Portfolio

 

   

September 30, 2019

 

(dollars in thousands)

 

Within One Year

   

>1 - 5 Years

   

6 - 10 Years

   

Over 10 Years

   

Collateralized Mortgage Obligations, Mortgage-Backed and Asset-Backed Securities

   

Total

 

Available-for-sale debt securities

                                               

Obligations of state and political subdivisions

  $ 1,004     $ 41,666     $ 54,940     $ 4,073     $ -     $ 101,683  

Yield

    2.30 %     2.79 %     2.92 %     3.58 %             2.89 %

U.S. government/government-sponsored agencies:

                                               

Collateralized mortgage obligations - residential

    -       -       -       -       66,840       66,840  

Yield

                                    2.82 %     2.82 %

Collateralized mortgage obligations - commercial

    -       -       -       -       43,822       43,822  

Yield

                                    2.49 %     2.49 %

Mortgage-backed securities

    -       -       -       -       18,745       18,745  

Yield

                                    3.06 %     3.06 %

Private collateralized mortgage obligations

    -       -       -       -       10,063       10,063  

Yield

                                    3.16 %     3.16 %

Corporate debt securities

    -       -       6,101       -       -       6,101  

Yield

                    6.46 %                     6.46 %

Asset-backed securities

    -       -       -       -       5,229       5,229  

Yield

                                    2.98 %     2.98 %

Negotiable certificates of deposit

    2,183       -       -       -       -       2,183  

Yield

    2.17 %                                     2.17 %

Total available-for-sale debt securities

  $ 3,187     $ 41,666     $ 61,041     $ 4,073     $ 144,699     $ 254,666  

Weighted average yield

    2.21 %     2.79 %     3.27 %     3.58 %     2.78 %     2.91 %

 

 

OTTI Evaluation

 

There was no OTTI recognized during the nine months ended September 30, 2019 or 2018. For additional information regarding management’s evaluation of securities for OTTI, see Note 3, “Securities” of the notes to consolidated financial statements included in Item 1 hereof.

 

The following table presents the investment in FNCB’s restricted securities, which have limited marketability and are carried at cost, at September 30, 2019 and December 31, 2018:

 

   

September 30,

   

December 31,

 

(in thousands)

 

2019

   

2018

 

Stock in Federal Home Loan Bank of Pittsburgh

  $ 4,184     $ 3,113  

Stock in Atlantic Community Banker's Bank

    10       10  

Total restricted securities, at cost

  $ 4,194     $ 3,123  

 

Management noted no indicators of impairment for the Federal Home Loan Bank of Pittsburgh or Atlantic Community Banker’s Bank stock at September 30, 2019 and December 31, 2018.

 

FNCB owns a $1.7 million investment in the common stock of a privately-held bank holding company. The common stock was purchased during 2017 as part of a private placement pursuant to an exemption from the registration requirements of the Securities Act of 1933, as amended, for offerings not involving any public offering. The common stock of such bank holding company is not currently traded on any established market and is not expected to be traded in the near future on any securities exchange or established over-the-counter market. FNCB has elected to account for this transaction as an investment in an equity security without a readily determinable fair value. An equity security without a readily determinable fair value shall be written down to its fair value if a qualitative assessment indicates that the investment is impaired, with a fair value less than its carrying value. The $1.7 million investment is included in other assets in the consolidated statements of financial condition at September 30, 2019 and December 31, 2018. As part of its qualitative assessment, management engaged an independent third party to provide a valuation of this investment as of September 30, 2019, which indicated that the investment was not impaired. Management determined that no adjustment for impairment was required at September 30, 2019.

 

Loans

 

Total loans, gross decreased $0.9 million, or 0.1%, to $834.3 million at September 30, 2019 from $835.2 million at December 31, 2018 due largely to the planned runoff of indirect automobile loans the anticipated payoffs of two large municipal loans, which more than entirely offset new loan originations. FNCB did experience moderate to strong growth in its construction, land acquisition and development, commercial real estate and commercial and industrial portfolios, however this growth was overshadowed by the reductions in the consumer and state and political subdivision portfolios.

 

Historically, commercial lending activities represent a significant portion of FNCB’s loan portfolio. Commercial lending includes commercial and industrial loans, commercial real estate loans and construction, land acquisition and development loans, and represented 57.8% and 52.0% of total loans at September 30, 2019 and December 31, 2018.

 

From a collateral standpoint, a majority of FNCB’s loan portfolio consists of loans secured by real estate. Real estate secured loans, which include commercial real estate, construction, land acquisition and development, residential real estate loans and home equity lines of credit (“HELOCs”), increased $33.8 million, or 7.2%, to $501.9 million at September 30, 2019 from $468.1 million at December 31, 2018. The increase was concentrated in construction, land acquisition and development loans and commercial real estate loans. Real estate secured loans represented 60.2% and 56.0% of total loans at September 30, 2019 and December 31, 2018, respectively.

 

Construction, land acquisition and development loans increased $18.6 million, or 89.2%, to $39.4 million at September 30, 2019 from $20.8 million at December 31, 2018, while commercial real estate loans grew $16.8 million, or 6.4%, to $279.6 million at September 30, 2019 from $262.8 million at December 31, 2018. Commercial real estate loans include long-term commercial mortgage financing and are primarily secured by first or second lien mortgages. Commercial and industrial loans, which consist primarily of equipment loans, working capital financing, revolving lines of credit and loans secured by cash and marketable securities, increased $12.5 million, or 8.3%, to $163.5 million at September 30, 2019 from $151.0 million at December 31, 2018.  

 

Residential real estate loans totaled $165.8 million at September 30, 2019, an increase of $1.0 million, or 0.6%, from $164.8 million at December 31, 2018. The components of residential real estate loans include fixed-rate and variable-rate, amortizing mortgage loans. HELOCs are not included in this category but are included in consumer loans. FNCB primarily underwrites fixed-rate residential mortgage loans for sale in the secondary market to reduce interest rate risk and provide funding for additional loans. Additionally, FNCB offers its proprietary “WOW” mortgage product, which is a non-saleable mortgage with maturity terms of 7.5 to 19.5 years that provides customers with an attractive fixed interest rate, low closing costs and a guaranteed 30-day close.

 

Consumer loans, which are primarily comprised of indirect automobile loans and HELOCs, decreased by $28.4 million, or 16.0%, to $148.4 million at September 30, 2019 from $176.8 million at December 31, 2018.The majority of this decrease was concentrated within the indirect auto loan portfolio, as FNCB did not aggressively compete for these loans throughout 2019. The balance of indirect automobile loans decreased $26.4 million, or 17.0%, to $128.7 million at September 30, 2019 from $155.1 million at December 31, 2018. Due to the anticipated payoff of two large municipal loan relationships in the second quarter of 2019, loans to state and political subdivisions decreased $21.4 million, or 36.3%, to $37.6 million at September 30, 2019 from $59.0 million at December 31, 2018.

 

 

The following table presents loans receivable, net by major category at September 30, 2019 and December 31, 2018:

 

Loan Portfolio Detail

 

   

September 30,

   

December 31,

 

(in thousands)

 

2019

   

2018

 

Residential real estate

  $ 165,850     $ 164,833  

Commercial real estate

    279,591       262,778  

Construction, land acquisition and development

    39,371       20,813  

Commercial and industrial

    163,464       150,962  

Consumer

    148,435       176,784  

State and political subdivisions

    37,636       59,037  

Total loans, gross

    834,347       835,207  

Unearned income

    (71 )     (70 )

Net deferred loan costs

    2,601       3,963  

Allowance for loan and lease losses

    (9,315 )     (9,519 )

Loans, net

  $ 827,562     $ 829,581  

 

Under industry regulations, a concentration is considered to exist when there are amounts loaned to a multiple number of borrowers engaged in similar activities which would cause them to be similarly impacted by economic or other conditions. Typically, industry guidelines require disclosure of concentrations of loans exceeding 10.0% of total loans outstanding. FNCB had no such concentrations at September 30, 2019 or December 31, 2018. In addition to industry guidelines, FNCB’s internal policy considers a concentration to exist in its loan portfolio if an aggregate loan balance outstanding to borrowers within a specific industry exceeds 25.0% of capital. However, management regularly reviews loans by all industry categories to determine if a potential concentration exists.

 

The following table presents industry concentrations within FNCB’s loan portfolio at September 30, 2019 and December 31, 2018:

 

Loan Concentrations

 

   

September 30, 2019

   

December 31, 2018

 

(in thousands)

 

Amount

    % of Gross Loans    

Amount

    % of Gross Loans  

1-4 family residential investment properties

    44,204       5.30 %     38,756       4.64 %

Retail space/shopping centers

  $ 39,704       4.76 %   $ 48,021       5.75 %

Physicians

    26,788       3.21 %     25,379       3.04 %

 

Asset Quality

 

Loans that management has the intent and ability to hold for the foreseeable future or until maturity or payoff are stated at the amount of unpaid principal, net of unearned interest, deferred loan fees and costs, and reduced by the ALLL. The ALLL is established through a provision for loan and lease losses charged to earnings.

 

FNCB has established and consistently applies loan policies and procedures designed to foster sound underwriting and credit monitoring practices. Credit risk is managed through the efforts of loan officers, the Chief Credit Officer, the loan review function, and the Credit Risk Management, ALLL, Officers Loan and Directors Loan Committees, as well as through oversight of the Board of Directors. Management continually evaluates its credit risk management practices to ensure it is reacting to problems in the loan portfolio in a timely manner, although, as is the case with any financial institution, a certain degree of credit risk is dependent in part on local and general economic conditions that are beyond management’s control.

 

Under FNCB’s risk rating system, loans that are rated pass, special mention, substandard, doubtful, or loss are reviewed regularly as part of the risk management practices. The Credit Risk Management Committee, which consists of key members of management from finance, legal, retail lending and credit administration, meet monthly or more often as necessary to review individual problem credits and workout strategies and provides monthly reports to the Board of Directors.

 

 

A loan is considered impaired when it is probable that FNCB will be unable to collect all amounts due (including principal and interest) according to the contractual terms of the note and loan agreement. For purposes of the analysis, all TDRs, loan relationships with an aggregate outstanding balance greater than $100 thousand rated substandard and non-accrual, and loans that are identified as doubtful or loss are considered impaired. Impaired loans are analyzed individually to determine the amount of impairment. For collateral-dependent loans, impairment is measured based on the fair value of the collateral supporting the loans. A loan is determined to be collateral dependent when repayment of the loan is expected to be provided through the liquidation of the collateral held. For impaired loans that are secured by real estate, external appraisals are obtained annually, or more frequently as warranted, to ascertain a fair value so that the impairment analysis can be updated. Should a current appraisal not be available at the time of impairment analysis, other sources of valuation may be used, including current letters of intent, broker price opinions or executed agreements of sale. For non-collateral-dependent loans, impairment is measured based on the present value of expected future cash flows, net of any deferred fees and costs, discounted at the loan’s original effective interest rate.

 

Loans to borrowers that are experiencing financial difficulty that are modified and result in the granting of concessions to the borrowers are classified as TDRs. Such concessions generally involve an extension of a loan’s stated maturity date, a reduction of the stated interest rate, payment modifications, capitalization of property taxes with respect to mortgage loans or a combination of these modifications. Non-accrual TDRs are returned to accrual status if principal and interest payments, under the modified terms, are brought current, are performing under the modified terms for six consecutive months, and management believes that collection of the remaining interest and principal is probable. FNCB conservatively considers all TDRs to be impaired.

 

Non-performing loans are monitored on an ongoing basis as part of FNCB’s loan review process. Additionally, work-out for non-performing loans and OREO are actively monitored through the Credit Risk Management Committee. A potential loss on a non-performing asset is generally determined by comparing the outstanding loan balance to the fair market value of the pledged collateral, less cost to sell.

 

Loans are placed on non-accrual when a loan is specifically determined to be impaired or when management believes that the collection of interest or principal is doubtful. This generally occurs when a default of interest or principal has existed for 90 days or more, unless the loan is well secured and in the process of collection, or when management becomes aware of facts or circumstances that the loan would default before 90 days. FNCB determines delinquency status based on the number of days since the date of the borrower’s last required contractual loan payment. When the interest accrual is discontinued, all unpaid interest income is reversed and charged back against current earnings. Any subsequent cash payments received are applied, first to the outstanding loan amounts, then to the recovery of any charged-off loan amounts, with any excess treated as a recovery of lost interest. A non-accrual loan is returned to accrual status when the loan is current as to principal and interest payments, is performing according to contractual terms for six consecutive months and future payments are reasonably assured.

 

Management actively manages impaired loans in an effort to mitigate loss to FNCB by working with customers to develop strategies to resolve borrower difficulties, through sale or liquidation of collateral, foreclosure, and other appropriate means. In addition, management monitors employment and economic conditions within FNCB’s market area, as weakening of conditions could result in real estate devaluations and an increase in loan delinquencies, which could negatively impact asset quality and cause an increase in the provision for loan and lease losses.

 

Under the fair value of collateral method, the impaired amount of the loan is deemed to be the difference between the loan amount and the fair value of the collateral, less the estimated costs to sell. For real estate secured loans, management generally estimates selling costs using a factor of 10%, which is based on typical cost factors, such as a 6% broker commission, 1% transfer taxes, and 3% various other miscellaneous costs associated with the sales process. If the valuation indicates that the fair value has deteriorated below the carrying value of the loan, the difference between the fair value and the principal balance is charged off. For impaired loans for which the value of the collateral less costs to sell exceeds the loan value, the impairment is determined to be zero.

 

 

The following table presents information about non-performing assets and accruing TDRs at September 30, 2019 and December 31, 2018:

 

Non-performing Assets and Accruing TDRs

 

   

September 30,

   

December 31,

 

(dollars in thousands)

 

2019

   

2018

 

Non-accrual loans

  $ 6,119     $ 4,696  

Loans past due 90 days or more and still accruing

    -       -  

Total non-performing loans

    6,119       4,696  

Other real estate owned

    412       919  

Other non-performing assets

    1,900       1,900  

Total non-performing assets

  $ 8,431     $ 7,515  
                 

Accruing TDRs

  $ 7,828     $ 8,457  

Non-performing loans as a percentage of gross loans

    0.73 %     0.56 %

 

Total non-performing assets increased $916 thousand, or 12.2%, to $8.4 million at September 30, 2019 from $7.5 million at December 31, 2018. The increase was attributable to an increase in non-accrual loans, partially offset by a decrease in OREO. The increase in non-accrual loans resulted primarily from four large commercial relationships that were placed on non-accrual status throughout 2019, partially offset by the charge off of one non-accrual commercial and industrial loan in the second quarter of 2019. FNCB’s ratio of non-performing loans to total gross loans increased to 0.73% at September 30, 2019 from 0.56% at December 31, 2018. FNCB’s ratio of non-performing assets as a percentage of shareholders’ equity improved to 5.9% at September 30, 2019 from 8.7% at December 31, 2018, due to increases in FNCB's capital position following the capital raise completed in the first quarter of 2019 and net income generation. Management actively manages problem credits through workout efforts focused on developing strategies to resolve borrower difficulties through liquidation of collateral and other appropriate means. Additionally, management continues to monitor non-accrual loans, delinquency trends and economic conditions within FNCB’s market area on an on-going basis in order to proactively address any collection-related issues and mitigate any potential losses.

 

Other non-performing assets at September 30, 2019 and December 31, 2018 is comprised solely of a classified account receivable secured by an evergreen letter of credit in the amount of $1.9 million, received in 2011 as part of a settlement agreement for a large construction, land acquisition and development loan for a residential development project in the Pocono region of Monroe County, Pennsylvania. The agreement provides for payment to FNCB as real estate building lots are sold. The project was stalled due to a decline in real estate values in this area following the financial crisis of 2008. In 2016, management classified this receivable as substandard due to the length of holding time. In 2019, economic development in this market area has improved. Management continues to monitor this project closely and has confirmed that the developer for this project has resumed construction activity, including the completion of substantial infrastructure for the development, and has increased marketing and sales initiatives related to the project. As of September 30, 2019, no single-unit lots have been sold.

 

There were three residential mortgage loans modified as TDRs during the three months ended September 30, 2019. The modifications included a principal forbearance, capitalization of taxes and extension of terms and the loans had an aggregate pre and post-modification balance of $250 thousand and $261 thousand, respectively. For the nine months ended, September 30, 2019, four residential mortgage loans were modified as TDRs with an aggregate pre- and post-modification balance of $274 thousand and $285 thousand, respectively. There were no loans modified as TDRs during the three and nine months ended September 30, 2018. There were no TDRs modified within the previous 12 months that defaulted during the three and nine months ended September 30, 2019 and 2018. TDRs at September 30, 2019 and December 31, 2018 were $8.1 million and $9.2 million, respectively. Accruing and non-accruing TDRs were $7.8 million and $0.3 million, respectively at September 30, 2019 and $8.5 million and $0.7 million, respectively at December 31, 2018. FNCB was not committed to lend additional funds to any loan classified as a TDR at September 30, 2019.

 

The average balance of impaired loans was $12.3 million for both the three and nine months ended September 30, 2019 and 2018. For the nine months ended September 30, 2019 and 2018, impaired loans averaged $12.7 million and $11.4 million, respectively. FNCB recognized $97 thousand and $302 thousand of interest income on impaired loans for the three and nine months ended September 30, 2019, respectively and $106 thousand and $310 thousand for the respective periods of 2018.

 

The following table presents the changes in non-performing loans for the three and nine months ended September 30, 2019 and 2018. Loan foreclosures represent recorded investment at time of foreclosure not including the effect of any guarantees. There was one residential mortgage loan foreclosed upon during the three and nine months ended September 30, 2019. The loan was 100.0% sold to a third-party investor and had no recorded investment outstanding at time of foreclosure.

 

Changes in Non-Performing Loans

 

   

Three Months Ended September 30,

   

Nine Months Ended September 30,

 

(in thousands)

 

2019

   

2018

   

2019

   

2018

 

Balance, beginning of period

  $ 5,302     $ 3,469     $ 4,696     $ 2,578  

Loans newly placed on non-accrual

    1,707       2,261       4,801       5,325  

Loans returned to performing status

    -       -       (27 )     -  

Loan foreclosures

    -       -       -       (25 )

Loans charged-off

    (411 )     (1,032 )     (1,978 )     (2,726 )

Loan payments received

    (479 )     (307 )     (1,373 )     (761 )

Balance, end of period

  $ 6,119     $ 4,391     $ 6,119     $ 4,391  

 

 

The additional interest income that would have been earned on non-accrual and restructured loans had the loans been performing in accordance with their original terms for the three and nine months ended September 30, 2019 approximated $90 thousand and $267 thousand, respectively and $65 thousand and $150 thousand for the respective period of 2018.

 

The following table presents accruing loan delinquencies and non-accrual loans as a percentage of gross loans at September 30, 2019 and December 31, 2018:

 

Loan Delinquencies and Non-Accrual Loans

 

   

September 30,

   

December 31,

 
   

2019

   

2018

 

Accruing:

               

30-59 days

    0.32 %     0.32 %

60-89 days

    0.11 %     0.05 %

90+ days

    0.00 %     0.00 %

Non-accrual

    0.73 %     0.56 %

Total delinquencies

    1.16 %     0.93 %

 

Total delinquencies as a percent of gross loans were 1.16% at September 30, 2019 compared to 0.93% at December 31, 2018.  The increase in total delinquent loans was primarily due to an increase in non-accrual loans of $1.4 million, coupled with an increase in accruing loans past due 60-89 days.

 

Allowance for Loan and Lease Losses

 

The ALLL represents management’s estimate of probable loan losses inherent in the loan portfolio. The ALLL is analyzed in accordance with GAAP and is maintained at a level that is based on management’s evaluation of the adequacy of the ALLL in relation to the risks inherent in the loan portfolio.

 

As part of its evaluation, management considers qualitative and environmental factors, including, but not limited to:

 

changes in national, local, and business economic conditions and developments, including the condition of various market segments;

changes in the nature and volume of the loan portfolio;

changes in lending policies and procedures, including underwriting standards, collection, charge-off and recovery practices and results;

changes in the experience, ability and depth of lending management and staff;

changes in the quality of the loan review system and the degree of oversight by the Board of Directors;

changes in the trend of the volume and severity of past due and classified loans, including trends in the volume of non-accrual loans, TDRs and other loan modifications;

the existence and effect of any concentrations of credit and changes in the level of such concentrations;

the effect of external factors such as competition and legal and regulatory requirements on the level of estimated credit losses in the current loan portfolio; and

analysis of customers’ credit quality, including knowledge of their operating environment and financial condition.

 

Evaluations are intrinsically subjective, as the results are estimated based on management knowledge and experience and are subject to interpretation and modification as information becomes available or as future events occur. Management monitors the loan portfolio on an ongoing basis with emphasis on weakness in both the real estate market and the economy in general and its effect on repayment. Adjustments to the ALLL are made based on management’s assessment of the factors noted above.

 

 

For purposes of management’s analysis of the ALLL, all loan relationships with an aggregate balance greater than $100 thousand that are rated substandard and non-accrual, identified as doubtful or loss, and all TDRs are considered impaired and are analyzed individually to determine the amount of impairment. Circumstances such as construction delays, declining real estate values, and the inability of the borrowers to make scheduled payments have resulted in these loan relationships being classified as impaired. FNCB utilizes the fair value of collateral method for collateral-dependent loans and TDRs for which repayment depends on the sale of collateral. For non-collateral-dependent loans and TDRs, FNCB measures impairment based on the present value of expected future cash flows discounted at the loan’s original effective interest rate. With regard to collateral-dependent loans, appraisals are received at least annually to ensure that impairment measurements reflect current market conditions. Should a current appraisal not be available at the time of impairment analysis, other valuation sources including current letters of intent, broker price opinions or executed agreements of sale may be used. Only downward adjustments are made based on these supporting values. Included in all impairment calculations is a cost to sell adjustment of approximately 10%, which is based on typical cost factors, including a 6% broker commission, 1% transfer taxes and 3% various other miscellaneous costs associated with the sales process. Sales costs are periodically reviewed and revised based on actual experience. The ALLL analysis is adjusted for subsequent events that may arise after the end of the reporting period but before the financial reports are filed.

 

The ALLL equaled $9.3 million at September 30, 2019, a decrease of $0.2 million from $9.5 million at December 31, 2018. The decrease resulted from net loans charged-off of $1.0 million for the nine months ended September 30, 2019, partially offset by a $0.8 million provision for loan and lease losses for the same time period.

 

The ALLL consists of both specific and general components. The component of the ALLL that is related to impaired loans that are individually evaluated for impairment, the guidance for which is provided by ASC 310 “Impairment of a Loan” (“ASC 310”), was $0.3 million, or 3.1%, of the total ALLL at September 30, 2019, compared to $0.7 million, or 6.9%, of the total ALLL at December 31, 2018. A general allocation of $9.0 million was calculated for loans analyzed collectively under ASC 450 “Contingencies” (“ASC 450”), which represented 96.9% of the total ALLL of $9.3 million. Comparatively, at December 31, 2018, the general allocation for loans collectively analyzed for impairment amounted to $8.9 million, or 93.1%, of the total ALLL. The ratio of the ALLL to total loans at September 30, 2019 and December 31, 2018 was 1.11% and 1.13%, respectively, based on loans, net of net deferred loan costs and unearned income of $836.9 million and $839.1 million, respectively.

 

The following table presents an allocation of the ALLL by major loan category and percent of loans in each category to total loans at September 30, 2019 and December 31, 2018:

 

Allocation of the ALLL

 

   

September 30, 2019

   

December 31, 2018

 
           

Percentage

           

Percentage

 
           

of Loans

           

of Loans

 
           

in Each

           

in Each

 
           

Category

           

Category

 
   

Allowance

   

to Total

   

Allowance

   

to Total

 

(dollars in thousands)

 

Amount

   

Loans

   

Amount

   

Loans

 

Residential real estate

  $ 1,158       19.88 %   $ 1,175       19.74 %

Commercial real estate

    3,851       33.51 %     3,107       31.46 %

Construction, land acquisition and development

    226       4.72 %     188       2.49 %

Commercial and industrial

    1,991       19.59 %     2,552       18.07 %

Consumer

    1,796       17.79 %     2,051       21.17 %

State and political subdivision

    216       4.51 %     417       7.07 %

Unallocated

    77       0.00 %     29       0.00 %

Total

  $ 9,315       100.00 %   $ 9,519       100.00 %

 

 

The following table presents an analysis of the ALLL by loan category for the three and nine months ended September 30, 2019 and 2018:

 

Reconciliation of the ALLL

 

   

For the Three Months Ended September 30,

   

For the Nine Months Ended September 30,

 

(dollars in thousands)

 

2019

   

2018

   

2019

   

2018

 

Balance at beginning of period

  $ 8,945     $ 9,459     $ 9,519     $ 9,034  

Charge-offs:

                               

Residential real estate

    -       -       27       63  

Commercial real estate

    -       719       -       1,845  

Construction, land acquisition and development

    -       -       18       -  

Commercial and industrial

    216       5       976       86  

Consumer

    201       313       973       753  

State and political subdivisions

    -       -       -       -  

Total charge-offs

    417       1,037       1,994       2,747  

Recoveries of charged-off loans:

                               

Residential real estate

    1       5       7       132  

Commercial real estate

    -       39       14       42  

Construction, land acquisition and development

    1       -       82       30  

Commercial and industrial

    58       58       265       205  

Consumer

    90       154       592       382  

State and political subdivisions

    -       -       -       -  

Total recoveries

    150       256       960       791  

Net charge-offs

    267       781       1,034       1,956  

Provision for loan and lease losses

    637       1,149       830       2,749  

Balance at end of period

  $ 9,315     $ 9,827     $ 9,315     $ 9,827  
                                 

Net charge-offs as a percentage of average loans

    0.03 %     0.09 %     0.13 %     0.24 %
                                 

Allowance for loan and lease losses as a percentage of gross loans outstanding at period end

    1.11 %     1.14 %     1.11 %     1.14 %

 

Other Real Estate Owned

 

OREO consisted of four properties with an aggregate carrying value of $0.4 million at September 30, 2019 and six properties with an aggregate carrying value of $0.9 million at December 31, 2018. There were two properties with an aggregate fair value less cost to sell of $256 thousand that were foreclosed upon during the nine months ended September 30, 2019. The properties foreclosed upon were the collateral supporting investor-owned residential mortgage loans. The agreement with the investor requires FNCB to take title to the property upon foreclosure and FNCB is responsible for the property liquidation on behalf of the investor after foreclosure. There were four OREO properties, with an aggregate carrying value of $749 thousand, sold during the nine months ended September 30, 2019. FNCB realized a net gain of $20 thousand upon the sales, which is included in non-interest income for the nine months ended September 30, 2019. There were no properties foreclosed upon during the nine months ended September 30, 2018. There were two OREO properties, with a carrying value of $439 thousand, that were sold during the nine months ended September 30, 2018, which resulted in a net gain on the sales of $31 thousand. 

 

The expenses related to maintaining OREO, not including adjustments to property values subsequent to foreclosure, and net of any income from operation of the properties, amounted to $48 thousand and $113 thousand for the three months and nine months ended September 30, 2019, respectively, compared to $19 thousand and $102 thousand for the respective periods of 2018.

 

FNCB actively markets OREO properties for sale through a variety of channels including internal marketing and the use of outside brokers/realtors. The carrying value of OREO is generally calculated at an amount not greater than 90% of the most recent fair market appraised value unless specific conditions warrant an exception. A 10% factor is generally used to estimate costs to sell, which is based on typical cost factors, such as 6% broker commission, 1% transfer taxes, and 3% various other miscellaneous costs associated with the sales process. This fair value is updated on an annual basis or more frequently if new valuation information is available. Deterioration in the real estate market could result in additional losses on these properties. For the three and nine months ended September 30, 2019, FNCB recorded valuation adjustments of $14 thousand. FNCB recorded valuation adjustments of  $72 thousand and $89 thousand related to OREO properties for the three and nine months ended September 30, 2018

 

 

The following table presents the activity in OREO for the three and nine months ended September 30, 2019 and 2018:

 

Activity in OREO

 

   

Three Months Ended September 30,

   

Nine Months Ended September 30,

 

(in thousands)

 

2019

   

2018

   

2019

   

2018

 

Balance, beginning of period

  $ 560     $ 787     $ 919     $ 1,023  
Property foreclosures     204       -       256       220  

Valuation adjustments

    (14 )     (72 )     (14 )     (89 )

Carrying value of OREO sold

    (338 )     -       (749 )     (439 )

Balance, end of period

  $ 412     $ 715     $ 412     $ 715  

 

 

The following table presents a distribution of OREO at September 30, 2019 and December 31, 2018:

 

Distribution of OREO

 

   

September 30,

   

December 31,

 

(in thousands)

 

2019

   

2018

 

Land / lots

  $ 85     $ 436  

Commercial real estate

    72       438  

Residential real estate

    255       45  

Total other real estate owned

  $ 412     $ 919  

 

Liabilities

 

Total liabilities, which consist primarily of total deposits and borrowed funds, were $1.065 billion at September 30, 2019, a decrease of $75.9 million, or 6.6%, from $1.141 billion at December 31, 2018. The decrease was primarily attributable to a decrease in total deposits, partially offset by an increase in borrowed funds. Total deposits decreased $131.6 million, or 12.0%, to $964.1 million at September 30, 2019 from $1.096 billion at December 31, 2018. Specifically, interest-bearing deposits decreased $154.0 million, or 16.4%, to $785.0 million at September 30, 2019 from $939.0 million at December 31, 2018, while non-interest-bearing demand deposits increased $22.4 million, or 14.3%, to $179.0 million at September 30, 2019 from $156.6 million at December 31, 2018. The decrease in total deposits primarily reflected cyclical net outflows of municipal deposits, coupled with a decrease in the utilization of brokered deposits as a wholesale source of funding. Conversely, borrowed funds increased $55.5 million, or 162.2%, to $89.8 million at September 30, 2019 from $34.2 million at December 31, 2018. Management regularly monitors wholesale funding sources taking into consideration the cost of funds, diversification between funding sources and asset/liability management strategies. FNCB utilizes brokered deposits, including one-way purchases through the Promontory Interfinancial Network, deposits acquired through a national listing service, as well as overnight and term advances through the FHLB of Pittsburgh as wholesale sources of funds to supplement its deposit gathering initiatives.

 

Equity

 

Total shareholders’ equity increased $35.3 million, or 36.4%, to $132.6 million at September 30, 2019 from $97.2 million at December 31, 2018. The improvement in capital resulted primarily from the completion of a public offering of FNCB's common stock in the first quarter of 2019, which resulted in a net increase to capital after offering expenses of $21.3 million. Also factoring into the capital improvement was net income for the nine months ended September 30, 2019 of $7.6 million and a $9.1 million increase in accumulated other comprehensive income related to appreciation in the fair value of available-for-sale debt securities, net of deferred taxes. These improvements were partially offset by dividends declared and paid for the nine months ended September 30, 2019 of $3.0 million. Book value per common share was $6.57 at September 30, 2019, an increase of $0.79, or 13.7%, compared to $5.78 at December 31, 2018.

 

FNCB's total regulatory capital increased $25.9 million to $143.1 million at September 30, 2019 from $117.2 million at December 31, 2018. FNCB's total risk-based capital and Tier 1 leverage ratios improved to 15.72% and 11.27%, respectively at September 30, 2019 from 12.69% and 8.50%, respectively, at December 31, 2018. FNCB's and the Bank's risk-based capital ratios exceeded the minimum regulatory capital ratios required for well capitalized under prompt corrective action regulations. Based on the most recent notification from its primary regulator, the Bank was considered well capitalized at September 30, 2019 and December 31, 2018. There are not conditions or events since that notification that management believes would have changed this capital designation.

 

Liquidity

 

The term liquidity refers to the ability to generate sufficient amounts of cash to meet cash flow needs. Liquidity is required to fulfill the borrowing needs of FNCB’s credit customers and the withdrawal and maturity requirements of its deposit customers, as well as to meet other financial commitments. FNCB’s liquidity position is impacted by several factors, which include, among others, loan origination volumes, loan and investment maturity structure and cash flows, deposit demand and time deposit maturity structure and retention. FNCB has liquidity and contingent funding policies in place that are designed with controls in place to provide advanced detection of potentially significant funding shortfalls, establish methods for assessing and monitoring risk levels, and institute prompt responses that may alleviate a potential liquidity crisis. Management monitors FNCB’s liquidity position and fluctuations daily, forecasts future liquidity needs, performs periodic stress tests on its liquidity levels and develops strategies to ensure adequate liquidity at all times.

 

 

The statements of cash flows present the change in cash and cash equivalents from operating, investing and financing activities. Cash and due from banks and interest-bearing deposits in other banks, which comprise cash and cash equivalents, are FNCB’s most liquid assets. At September 30, 2019, cash and cash equivalents totaled $37.5 million, an increase of $1.0 million compared to $36.5 million at December 31, 2018, as net cash provided by operating and investing activities for the nine months ended September 30, 2019 was almost entirely offset by cash used in financing activities during that same time frame. Operating activities for the nine months ended September 30, 2019 provided net cash of $9.6 million.  Net cash provided by FNCB's investing activities was $49.2 million for the nine months ended September 30, 2019, which resulted primarily from sales and repayments of available-for-sale debt securities of $108.8 million, partially offset by cash used for purchases of available for sale debt securities of $55.8 million. Financing activities used $57.7 million in net cash for the nine months ended September 30, 2019, which resulted primarily from a decrease in deposits of $131.6 million, a principal reduction on subordinated debentures of $5.0 million and cash dividends paid of $3.0 million. Partially offsetting these cash outflows was proceeds from the issuance of common shares of $21.3 million and net proceeds from FHLB term and overnight advances of $60.5 million.

 

Interest Rate Risk

 

Interest Rate Sensitivity

 

Market risk is the risk to earnings and/or financial position resulting from adverse changes in market rates or prices, such as interest rates, foreign exchange rates or equity prices. FNCB’s exposure to market risk is primarily interest rate risk associated with our lending, investing and deposit gathering activities, all of which are other than trading. Changes in interest rates affect earnings by changing net interest income and the level of other interest-sensitive income and operating expenses. In addition, variations in interest rates affect the underlying economic value of our assets, liabilities and off-balance sheet items.

 

Asset and Liability Management

 

FNCB manages these objectives through its Asset and Liability Management Committee (“ALCO”) and its Rate and Liquidity and Investment Committees, which consist of certain members of management and certain members of the finance unit. Members of the committees meet regularly to develop balance sheet strategies affecting the future level of net interest income, liquidity and capital.  The major objectives of ALCO are to:

 

 

manage exposure to changes in the interest rate environment by limiting the changes in net interest margin to an acceptable level within a reasonable range of interest rates;

 

ensure adequate liquidity and funding;

 

maintain a strong capital base; and

 

maximize net interest income opportunities.

 

ALCO monitors FNCB’s exposure to changes in net interest income over both a one-year planning horizon and a longer-term strategic horizon. ALCO uses net interest income simulations and economic value of equity (“EVE”) simulations as the primary tools in measuring and managing FNCB’s position and considers balance sheet forecasts, FNCB's liquidity position, the economic environment, anticipated direction of interest rates and FNCB’s earnings sensitivity to changes in these rates in its modeling. In addition, ALCO has established policy tolerance limits for acceptable negative changes in net interest income. Furthermore, as part of its ongoing monitoring, ALCO requires quarterly back testing of modeling results, which involves after-the-fact comparisons of projections with FNCB’s actual performance to measure the validity of assumptions used in the modeling techniques.

 

Earnings at Risk and Economic Value at Risk Simulations

 

Earnings at Risk

 

Earnings-at-risk simulation measures the change in net interest income and net income under various interest rate scenarios. Specifically, given the current market rates, ALCO looks at “earnings at risk” to determine anticipated changes in net interest income from a base case scenario with scenarios of +200, +400, and -200 basis points for simulation purposes. The simulation takes into consideration that not all assets and liabilities re-price equally and simultaneously with market rates (i.e., savings rate). 

 

Economic Value at Risk

 

While earnings-at-risk simulation measures the short-term risk in the balance sheet, economic value (or portfolio equity) at risk measures the long-term risk by finding the net present value of the future cash flows from FNCB’s existing assets and liabilities. ALCO examines this ratio regularly, and given the current rate environment, has utilized rate shocks of +200, +400, and -200 basis points for simulation purposes. Management recognizes that, in some instances, this ratio may contradict the “earnings at risk” ratio.

 

While ALCO regularly performs a wide variety of simulations under various strategic balance sheet and treasury yield curve scenarios, the following results reflect FNCB’s sensitivity over the subsequent twelve months based on the following assumptions:

 

 

asset and liability levels using September 30, 2019 as a starting point;

 

cash flows are based on contractual maturity and amortization schedules with applicable prepayments derived from internal historical data and external sources; and

 

cash flows are reinvested into similar instruments so as to keep interest-earning asset and interest-bearing liability levels constant.

 

 

The following table illustrates the simulated impact of parallel and instantaneous interest rate shocks of +400 basis points, +200 basis points, and -100 basis points on net interest income and the change in economic value over a one-year time horizon from the September 30, 2019 levels:

 

 

   

Rates +200

   

Rates +400

   

Rates -100

 
   

Simulation Results

   

Policy Limit

   

Simulation Results

   

Policy Limit

   

Simulation Results

   

Policy Limit

 

Earnings at risk:

                                               

Percent change in net interest income

    (3.6 )%     (12.5 )%     (7.7 )%     (20.0 )%     1.3 %     (10.0 )%
                                                 

Economic value at risk:

                                               

Percent change in economic value of equity

    7.7 %     (20.0 )%     11.0 %     (35.0 )%     (10.0 )%     (10.0 )%

 

 

Model results at September 30, 2019 indicated that FNCB was liability rate sensitive over a one-year time horizon moving to an asset sensitive position in approximately months 13 though 15, and then continuing in an asset-sensitive position for the remaining periods of the model. The shift from liability sensitivity to asset sensitivity has continued to shorten. Model results as of June 30, 2019 indicated the shift from liability sensitivity to asset sensitivity would occur approximately in months 15-18, while model results as of March 31, 2019 showed the shift in months 18-24. During 2019, management took actions designed to shorten FNCB's liability sensitive position including reinvesting $40.3 million in proceeds from the sale of fixed-rate investments into floating-rate investments and converting $38.7 million in overnight FHLB advances into term borrowings with maturities of 9 and 24 months. Under the model, FNCB’s net interest income is expected to decrease 3.6% under a +200-basis point interest rate shock. Additionally, model results indicated that FNCB's economic value of equity is expected to increase 7.7% under a parallel shift in interest rates of +200 basis points. Under a -100-basis point interest rate shock, model results indicated that FNCB's net interest income would increase 1.3%, while the economic value of equity would decrease 10.0%, respectively. Management does not believe that the modeled decrease in the economic value of equity of 10.0%, which is equal to the current policy limit, poses any undue interest rate risk at September 30, 2019. Comparatively, model results at June 30, 2019 indicated net interest income would be expected to decrease 5.0% and economic value of equity would be expected to increase 0.6%given a +200-basis point rate shock. Conversely, given a -100 basis point rate shock at June 30, 2019, net interest income would be expected to increase 1.6% and the economic value of equity would decrease 5.2%. 

 

This analysis does not represent a forecast for FNCB and should not be relied upon as being indicative of expected operating results. These simulations are based on numerous assumptions, including but not limited to: the nature and timing of interest rate levels, prepayments on loans and securities, deposit decay rates, pricing decisions on loans and deposits, reinvestment/replacements of asset and liability cash flows, and other factors. While assumptions reflect current economic and local market conditions, FNCB cannot make any assurances as to the predictive nature of these assumptions, including changes in interest rates, customer preferences, competition and liquidity needs, or what actions ALCO might take in responding to these changes.

 

As previously mentioned, as part of its ongoing monitoring, ALCO requires quarterly back testing of modeling results, which involves after-the-fact comparisons of projections with FNCB’s actual performance to measure the validity of assumptions used in the modeling techniques. As part of its quarterly review, management compared tax-equivalent net interest income recorded for the three months ended September 30, 2019 with tax-equivalent net interest income that was projected for the same three-month period. The variance between actual and projected tax-equivalent net interest income for the three-month period ended September 30, 2019 was $19 thousand, or 0.2%. ALCO performs a detailed rate/volume analysis between actual and projected results in order to continue to improve the accuracy of its simulation models.

 

Off-Balance Sheet Arrangements

 

In the ordinary course of operations, FNCB engages in a variety of financial transactions that, in accordance with GAAP, are not recorded in our consolidated financial statements or are recorded in amounts that differ from the notional amounts. These transactions involve, to varying degrees, elements of credit, interest rate, and liquidity risk. Such transactions may be used for general corporate purposes or for customer needs. Corporate purpose transactions would be used to help manage credit, interest rate and liquidity risk or to optimize capital. Customer transactions are used to manage customers’ requests for funding.

 

For the three and nine months ended September 30, 2019, FNCB did not engage in any off-balance sheet transactions that would have or would be reasonably likely to have a material effect on its consolidated financial condition.

 

Item 3 — Quantitative and Qualitative Disclosures about Market Risk

 

There have been no material changes in FNCB’s exposure to market risk during the nine months ended September 30, 2019.  For discussion of FNCB’s exposure to market risk, refer to Item 7A, Quantitative and Qualitative Disclosures about Market Risk, contained in FNCB’s Form 10-K for the year ended December 31, 2018.

 

Item 4 — Controls and Procedures

 

FNCB’s management, with the participation of the Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of the design and operation of FNCB’s disclosure controls and procedures, as such term is defined under Rule 13a-15(e) promulgated under the Securities Exchange Act of 1934, as amended. Based on that evaluation, FNCB’s Chief Executive Officer and Chief Financial Officer concluded FNCB’s disclosure controls and procedures were effective as of September 30, 2019.

 

There were no changes made to FNCB’s internal control over financial reporting that occurred during the most recent fiscal quarter that have materially affected, or are reasonably likely to materially affect, FNCB’s internal control over financial reporting.

 

 

PART II Other Information

 

Item 1 — Legal Proceedings.

 

On May 24, 2012, a putative shareholder filed a complaint in the Court of Common Pleas for Lackawanna County (“Shareholder Derivative Suit”) against certain present and former directors and officers of FNCB (the “Individual Defendants”) alleging, inter alia, breach of fiduciary duty, abuse of control, corporate waste, and unjust enrichment. FNCB was named as a nominal defendant. On February 4, 2014, the Court issued a Final Order and Judgment for the matter granting approval of a Stipulation of Settlement (the “Settlement”) and dismissing all claims against FNCB and the Individual Defendants. As part of the Settlement, without admitting any fault, wrongdoing or liability, the Individual Defendants agreed to settle the derivative litigation for $5.0 million. The $5.0 million Settlement payment was made to FNCB on March 28, 2014. The Individual Defendants reserved their rights to indemnification under FNCB’s Articles of Incorporation and Bylaws, resolutions adopted by the Board, the Pennsylvania Business Corporation Law and any and all rights they have against FNCB’s and the Bank’s insurance carriers. In addition, in conjunction with the Settlement, FNCB accrued $2.5 million related to fees and costs of the plaintiff’s attorneys, which was included in non-interest expense in the consolidated statements of income for the year ended December 31, 2013. On April 1, 2014, FNCB paid the $2.5 million related to fees and costs of the plaintiff’s attorneys and partial indemnification of the Individual Defendants in the amount of $2.5 million. Commencing on July 1, 2017, FNCB made partial indemnifications to the Individual Defendants through monthly principal payments, made on behalf of the Individual Defendants, of $25,000 plus accrued interest to First Northern Bank and Trust Co. On April 11, 2018, FNCB indemnified the Individual Defendants by paying in full the $2.5 million, plus accrued interest to First Northern Bank & Trust Co.

 

On September 5, 2012, Fidelity and Deposit Company of Maryland (“F&D”) filed an action against FNCB and the Bank, as well as several current and former officers and directors of FNCB, in the United States District Court for the Middle District of Pennsylvania. F&D asserted a claim for the rescission of a directors’ and officers’ insurance policy and a bond that it had issued to FNCB. On November 9, 2012, FNCB and the Bank answered the claim and asserted counterclaims for the losses and expenses already incurred by FNCB and the Bank. FNCB and the other defendants defended the claims and opposed F&D’s requested relief by way of counterclaims. On December 21, 2018, FNCB, the Bank and F&D resolved the dispute by entering into a mutual release of all claims.  FNCB recognized a gain of $6.0 million after expenses in the fourth quarter of 2018 in connection with this insurance recovery.

FNCB has been subject to tax audits, and is also a party to routine litigation involving various aspects of its business, such as employment practice claims, workers compensation claims, claims to enforce liens, condemnation proceedings on properties in which FNCB holds security interests, claims involving the making and servicing of real property loans and other issues incident to its business, none of which has or is expected to have a material adverse impact on the consolidated financial condition, results of operations or liquidity of FNCB.

 

There have been no changes in the status of the other litigation, if any, disclosed in FNCB’s Annual Report on Form 10-K for the year ended December 31, 2018.

 

Item 1A — Risk Factors.

 

Management of FNCB does not believe there have been any material changes in the risk factors that were previously disclosed in FNCB’s Form 10-K for the year ending December 31, 2018.

 

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

 

None.

 

Item 3 - Defaults upon Senior Securities.

 

None.

 

 

Item 4 — Mine Safety Disclosures.

 

Not applicable.

 

Item 5 - Other Information.

 

None.

 

Item 6 — Exhibits.

 

The following exhibits are filed or furnished herewith or incorporated by reference.

 

EXHIBIT 31.1*

Certification of Chief Executive Officer

   

EXHIBIT 31.2*

Certification of Chief Financial Officer

   

EXHIBIT 32.1**

Section 1350 Certification —Chief Executive Officer and Chief Financial Officer

   
EXHIBIT 101.INS XBRL INSTANCE DOCUMENT
   
EXHIBIT 101.SCH XBRL TAXONOMY EXTENSION SCHEMA
   
EXHIBIT 101.CAL XBRL TAXONOMY EXTENSION CALCULATION LINKBASE
   
EXHIBIT 101.DEF XBRL TAXONOMY EXTENSION DEFINITION LINKBASE
   
EXHIBIT 101.LAB XBRL TAXONOMY EXTENSION LABEL LINKBASE
   

EXHIBIT 101.PRE

XBRL TAXONOMY EXTENSION PRESENTATION LINKBASE

 

*

Filed herewith

**

Furnished herewith

 

 

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.

 

Registrant:  FNCB BANCORP, INC.

 

Date: November 5, 2019

By:

/s/ Gerard A. Champi

 

Gerard A. Champi

 

President and Chief Executive Officer

   
   
   

Date: November 5, 2019

By:

/s/ James M. Bone, Jr.

 

James M. Bone, Jr., CPA

 

Executive Vice President and Chief Financial Officer

 

Principal Financial Officer

   
   
   

Date: November 5, 2019

By:

/s/ Stephanie A. Westington

 

Stephanie A. Westington, CPA

 

Senior Vice President and Controller

 

Principal Accounting Officer

   

 

 

 

52