LIMESTONE BANCORP, INC. - Quarter Report: 2015 June (Form 10-Q)

Large accelerated filer

Accelerated filer

Non-accelerated filer

Smaller reporting company

Form 10-Q

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

(Mark One)

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

For the Quarterly Period Ended June 30, 2015

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

For the transition period from to

Commission file number: 001-33033

PORTER BANCORP, INC.

(Exact name of registrant as specified in its charter)


Kentucky		61-1142247
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)

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

(502) 499-4800

(Registrant’s telephone number, including area code)

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

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

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

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

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

19,301,217 shares of Common Stock and 6,458,000 shares of Non-Voting Common Stock, no par value, were outstanding at July 31, 2015.

INDEX


		Page
PART I –	FINANCIAL INFORMATION

ITEM 1.	FINANCIAL STATEMENTS		3

ITEM 2.	MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS		36

ITEM 3.	QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK		56

ITEM 4.	CONTROLS AND PROCEDURES		56

PART II –	OTHER INFORMATION

ITEM 1.	LEGAL PROCEEDINGS		57

ITEM 1A.	RISK FACTORS		57

ITEM 2.	UNREGISTERED SALES ON EQUITY SECURITIES AND USE OF PROCEEDS		57

ITEM 3.	DEFAULTS UPON SENIOR SECURITIES		57

ITEM 4.	MINE SAFETY DISCLOSURES		57

ITEM 5.	OTHER INFORMATION		57

ITEM 6.	EXHIBITS		58

PART I – FINANCIAL INFORMATION

Item 1. Financial Statements


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

Unaudited Consolidated Balance Sheets for June 30, 2015 and December 31, 2014			4
Unaudited Consolidated Statements of Operations for the three and six months ended June 30, 2015 and 2014			5
Unaudited Consolidated Statements of Comprehensive Loss for the three and six months ended June 30, 2015 and 2014			6
Unaudited Consolidated Statement of Changes in Stockholders’ Equity for the six months ended June 30, 2015			7
Unaudited Consolidated Statements of Cash Flows for the six months ended June 30, 2015 and 2014			8
Notes to Unaudited Consolidated Financial Statements			9

PORTER BANCORP, INC.

Unaudited Consolidated Balance Sheets

(dollars in thousands except share data)


	June 30, 2015			December 31, 2014
Assets
Cash and due from banks	$	7,403		$	14,169
Interest bearing deposits in banks		63,987			66,011

Cash and cash equivalents		71,390			80,180
Securities available for sale		151,758			190,791
Securities held to maturity (fair value of $43,677 and $44,498, respectively)		42,202			42,325
Loans held for sale		125			8,926
Loans, net of allowance of $16,809 and $19,364, respectively		631,512			605,635
Premises and equipment, net		19,167			19,507
Other real estate owned		39,545			46,197
Federal Home Loan Bank stock		7,323			7,323
Bank owned life insurance		9,320			9,167
Accrued interest receivable and other assets		6,998			7,938

Total assets	$	979,340		$	1,017,989

Liabilities and Stockholders’ Equity
Deposits
Non-interest bearing	$	108,800		$	114,910
Interest bearing		795,351			811,931

Total deposits		904,151			926,841
Repurchase agreements		1,265			1,341
Federal Home Loan Bank advances		3,430			15,752
Accrued interest payable and other liabilities		10,949			10,640
Subordinated capital note		4,500			4,950
Junior subordinated debentures		25,000			25,000

Total liabilities		949,295			984,524
Stockholders’ equity
Preferred stock, no par
Series B—0 and 40,536 issued and outstanding, respectively		—			2,229
Series D—0 and 64,580 issued and outstanding, respectively		—			3,552
Series E—6,198 issued and outstanding; Liquidation preference of $6.2 million		1,644			1,644
Series F—4,304 issued and outstanding; Liquidation preference of $4.3 million		1,127			1,127

Total preferred stockholders’ equity		2,771			8,552

Common stock, no par, 86,000,000 shares authorized, 19,301,223 and 14,890,514 voting, and 6,458,000 and 0 non-voting shares issued and outstanding, respectively		119,019			113,238
Additional paid-in capital		21,623			21,442
Retained deficit		(109,131	)		(107,595	)
Accumulated other comprehensive income (loss)		(4,237	)		(2,172	)

Total common stockholders’ equity		27,274			24,913

Total stockholders’ equity		30,045			33,465

Total liabilities and stockholders’ equity	$	979,340		$	1,017,989

See accompanying notes to unaudited consolidated financial statements.

PORTER BANCORP, INC.

Unaudited Consolidated Statements of Operations

(dollars in thousands, except per share data)


	Three Months Ended June 30,						Six Months Ended June 30,
	2015			2014			2015			2014
Interest income
Loans, including fees	$	7,846		$	8,572		$	15,601		$	16,893
Taxable securities		1,010			1,215			2,136			2,388
Tax exempt securities		190			235			393			476
Fed funds sold and other		121			144			240			306

		9,167			10,166			18,370			20,063

Interest expense
Deposits		1,607			2,319			3,299			4,680
Federal Home Loan Bank advances		24			32			51			65
Subordinated capital note		41			47			83			97
Junior subordinated debentures		155			153			307			305
Federal funds purchased and other		1			1			1			2

		1,828			2,552			3,741			5,149

Net interest income		7,339			7,614			14,629			14,914
Provision for loan losses		—			6,300			—			6,300

Net interest income after provision for loan losses		7,339			1,314			14,629			8,614
Non-interest income
Service charges on deposit accounts		475			487			884			955
Bank card interchange fees		229			205			432			366
Other real estate owned rental income		372			18			729			25
Net gain on sales of securities		199			2			1,696			46
Other		290			237			520			472

		1,565			949			4,261			1,864

Non-interest expense
Salaries and employee benefits		4,028			3,949			7,875			7,690
Occupancy and equipment		828			896			1,698			1,788
Professional fees		714			484			1,693			773
FDIC Insurance		564			571			1,134			1,111
Data processing expense		278			280			582			549
State franchise and deposit tax		285			405			570			830
Other real estate owned expense		2,932			774			3,665			1,436
Loan collection expense		291			1,249			574			1,788
Other		1,114			1,196			2,635			2,341

		11,034			9,804			20,426			18,306

Loss before income taxes		(2,130	)		(7,541	)		(1,536	)		(7,828	)
Income tax benefit		—			(1,307	)		—			(1,307	)

Net loss		(2,130	)		(6,234	)		(1,536	)		(6,521	)
Less:
Dividends on preferred stock		—			789			—			1,574
Earnings allocated to participating securities		(91	)		(693	)		(269	)		(772	)

Net loss attributable to common shareholders	$	(2,039	)	$	(6,330	)	$	(1,267	)	$	(7,323	)

Basic and diluted loss per common share	$	(0.08	)	$	(0.53	)	$	(0.06	)	$	(0.61	)

See accompanying notes to unaudited consolidated financial statements.

PORTER BANCORP, INC.

Unaudited Consolidated Statements of Comprehensive Loss

(in thousands)


	Three Months Ended June 30,						Six Months Ended June 30,
	2015			2014			2015			2014
Net loss	$	(2,130	)	$	(6,234	)	$	(1,536	)	$	(6,521	)
Other comprehensive income (loss):
Unrealized gain (loss) on securities:
Unrealized gain (loss) arising during the period		(1,762	)		2,139			(433	)		3,781
Amortization during the period of net unrealized loss transferred to held to maturity		32			33			64			67
Reclassification adjustment for gains included in net income		(199	)		(2	)		(1,696	)		(46	)

Net unrealized gain/(loss) recognized in comprehensive income		(1,929	)		2,170			(2,065	)		3,802
Tax effect		—			(1,307	)		—			(1,307	)

Other comprehensive income (loss)		(1,929	)		863			(2,065	)		2,495

Comprehensive income (loss)	$	(4,059	)	$	(5,371	)	$	(3,601	)	$	(4,026	)

See accompanying notes to unaudited consolidated financial statements.

PORTER BANCORP, INC.

Unaudited Consolidated Statements of Changes in Stockholders’ Equity

For Six Months Ended June 30,

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


	Shares																		Amount
	Common								Preferred												Preferred										Common
	Common			Non- Voting Common		Total Common			Series B			Series D			Series E		Series F		Common and Non- Voting Common		Series B			Series D			Series E		Series F		Additional Paid-In Capital		Retained Deficit			Accumulated Other Compre- hensive Loss			Total
Balances, January 1, 2015		14,890,514			—		14,890,514			40,536			64,580			6,198		4,304	$	113,238	$	2,229		$	3,552		$	1,644	$	1,127	$	21,442	$	(107,595	)	$	(2,172	)	$	33,465
Issuance of unvested stock		915,740			—		915,740			—			—			—		—		—		—			—			—		—		—		—			—			—
Terminated stock		(538,479	)		—		(538,479	)		—			—			—		—		—		—			—			—		—		—		—			—			—
Forfeited unvested stock		(20,152	)		—		(20,152	)		—			—			—		—		—		—			—			—		—		—		—			—			—
Stock-based compensation expense		—			—		—			—			—			—		—		—		—			—			—		—		181		—			—			181
Net loss		—			—		—			—			—			—		—		—		—			—			—		—		—		(1,536	)		—			(1,536	)
Net change in accumulated other comprehensive loss, net of taxes		—			—		—			—			—			—		—		—		—			—			—		—		—		—			(2,065	)		(2,065	)
Conversion of preferred stock to common and non-voting common stock		4,053,600			6,458,000		10,511,600			(40,536	)		(64,580	)		—		—		5,781		(2,229	)		(3,552	)		—		—		—		—			—			—

Balances, June 30, 2015		19,301,223			6,458,000		25,759,223			—			—			6,198		4,304	$	119,019	$	—		$	—		$	1,644	$	1,127	$	21,623	$	(109,131	)	$	(4,237	)	$	30,045

See accompanying notes.

PORTER BANCORP, INC.

Unaudited Consolidated Statements of Cash Flows

For Six Months Ended June 30, 2015 and 2014

(dollars in thousands)


	2015			2014
Cash flows from operating activities
Net loss	$	(1,536	)	$	(6,521	)
Adjustments to reconcile net loss to net cash from operating activities
Depreciation and amortization		814			852
Provision for loan losses		—			6,300
Net amortization on securities		721			773
Stock-based compensation expense		181			283
Tax benefit from OCI components		—			(1,307	)
Net loss (gain) on sales of loans held for sale		232			(34	)
Loans originated for sale		(4,146	)		(1,574	)
Proceeds from sales of loans held for sale		4,075			1,477
Net (gain) loss on sales of other real estate owned		(43	)		(54	)
Net write-down of other real estate owned		2,630			650
Net realized gain on sales of investment securities		(1,696	)		(46	)
Earnings on bank owned life insurance, net of premium expense		(153	)		(128	)
Net change in accrued interest receivable and other assets		742			(588	)
Net change in accrued interest payable and other liabilities		309			205

Net cash from operating activities		2,130			288
Cash flows from investing activities
Purchases of available for sale securities		(16,800	)		(21,990	)
Sales and calls of available for sale securities		44,110			1,004
Maturities and prepayments of available for sale securities		10,756			6,804
Proceeds from mandatory redemption of Federal Home Loan Bank stock		—			2,749
Proceeds from sale of other real estate owned		5,020			4,281
Proceeds from sales of loans not originated for sale		8,640			—
Loan originations and payments, net		(26,974	)		25,997
Purchases of premises and equipment, net		(134	)		(284	)

Net cash from investing activities		24,618			18,561

Cash flows from financing activities
Net change in deposits		(22,690	)		(36,890	)
Net change in repurchase agreements		(76	)		(19	)
Repayment of Federal Home Loan Bank advances		(17,322	)		(358	)
Advances from Federal Home Loan Bank		5,000			10,000
Repayment of subordinated capital note		(450	)		(450	)

Net cash from financing activities		(35,538	)		(27,717	)

Net change in cash and cash equivalents		(8,790	)		(8,868	)
Beginning cash and cash equivalents		80,180			111,134

Ending cash and cash equivalents	$	71,390		$	102,266

Supplemental cash flow information:
Interest paid	$	3,622		$	4,872
Income taxes paid (refunded)		—			—
Supplemental non-cash disclosure:
Transfer from loans to other real estate	$	955		$	30,866
Financed sales of other real estate owned		—			—

See accompanying notes to unaudited consolidated financial statements.

PORTER BANCORP, INC.

Notes to Unaudited Consolidated Financial Statements

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

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

The accompanying unaudited consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (GAAP) for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, the financial statements do not include all of the information and footnotes required by U.S. generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the six months ended June 30, 2015 are not necessarily indicative of the results that may be expected for the entire year. A description of other significant accounting policies is presented in the notes to the Consolidated Financial Statements for the year ended December 31, 2014 included in the Company’s Annual Report on Form 10-K.

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

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

Note 2 – Going Concern Considerations and Future Plans

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

During the first six months of 2015, we reported net loss attributable to common shareholders of $1.3 million, compared with net loss attributable to common shareholders of $7.3 million for the first six months of 2014. The improvement for 2015 is primarily attributable to no loan loss provision expense incurred in 2015, compared to $6.3 million provision expense recorded in 2014.

At June 30, 2015, we continued to be involved in various legal proceedings in which we dispute the material factual allegations against us. After conferring with our legal advisors, we believe we have meritorious grounds on which to prevail. If we do not prevail, the ultimate outcome of any one of these matters could have a material adverse effect on our financial condition, results of operations, or cash flows. These matters are more fully described in Note 13 – “Contingencies”.

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

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

We expect to continue to work with our regulators toward capital ratio compliance. The revised Consent Order also requires the Bank to continue to adhere to the plans implemented in response to the June 2011 Consent Order, and includes the substantive provisions of the June 2011 Consent Order. The revised Consent Order was included in our Current Report on 8-K filed on September 19, 2012. As of June 30, 2015, the capital ratios required by the Consent Order had not been met.

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

•

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

•

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

•

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

•

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

•

We have reduced the size of our loan portfolio significantly from $1.3 billion at December 31, 2010 to $648.3 million at June 30, 2015.

•

We have reduced our construction and development loans to less than 75% of total risk-based capital at June 30, 2015.

•

We have reduced our non-owner occupied commercial real estate loans, construction and development loans, and multi-family residential real estate loans. These loans represented 248% of total risk-based capital at June 30, 2015, down from 262% at December 31, 2014.

•

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

•

Our acquisition of real estate assets through the loan remediation process increased during 2014, as we acquired $32.3 million of OREO in 2014 compared with $20.6 million during 2013. We acquired $955,000 in the first six months of 2015. However, nonaccrual loans totaled $30.2 million at June 30, 2015, and we expect to resolve many of these loans by foreclosure which could result in further additions to our OREO portfolio.

•

We incurred OREO losses totaling $2.6 million during the first six months of 2015, comprised of $2.6 million in fair value write-downs to reflect reductions in listing prices for certain properties as well as updated appraisals, offset by $43,000 in net gain on sales of OREO. OREO expense may be elevated in future periods given the current size of the OREO portfolio and as we work to sell these properties. Currently, $12.7 million of OREO property is subject to a contract for sale or letter of intent.

•

To ensure we maximize the value we receive upon the sale of OREO, we continually evaluate sales opportunities. Proceeds from the sale of OREO totaled $5.0 million for the six months ended June 30, 2015, and $4.3 million for the six months ended June 30, 2014.

•

Real estate construction represents 41% of the OREO portfolio at June 30, 2015 compared with 40% at December 31, 2014. Commercial real estate represents 37% of the OREO portfolio at June 30, 2015 compared with 31% at December 31, 2014, and 1-4 family residential properties represent 12% of the portfolio at June 30, 2015 compared with 17% at December 31, 2014.

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

The Company’s liquid assets were $1.3 million at June 30, 2015. Since the Bank is unlikely to be in a position to pay dividends to the parent company for the foreseeable future, cash inflows for the parent are limited to earnings on investment securities, sales of investment securities, interest on deposits with the Bank, the issuance of new debt, or the issuance of capital securities. Ongoing operating expenses of the parent company are forecast at approximately $1.0 million for 2015.

Effective with the fourth quarter of 2011, we began deferring interest payments on the junior subordinated debentures relating to our trust preferred securities. Deferring interest payments on the junior subordinated debentures resulted in a deferral of distributions on our trust preferred securities. If we defer distributions on our trust preferred securities for 20 consecutive quarters, we must pay all deferred distributions in full or we will be in default. Our deferral period expires in the third quarter of 2016. Deferred distributions on our trust preferred securities, which totaled $2.5 million as of June 30, 2015, are cumulative, and unpaid distributions accrue and compound on each subsequent payment date. If as a result of a default we become subject to any liquidation, dissolution or winding up, holders of the trust preferred securities will be entitled to receive the liquidation amounts to which they are entitled, including all accrued and unpaid distributions, before any distribution can be made to our shareholders. In addition, the holders of our Series E and Series F Preferred Shares will be entitled to receive liquidation distributions totaling $10.5 million before any distribution can be made to the holders of our common shares.

Note 3 – Securities

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


	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Fair Value
	(in thousands)
June 30, 2015
Available for sale
U.S. Government and federal agency	$	31,749	$	91	$	(507	)	$	31,333
Agency mortgage-backed: residential		109,688		1,174		(559	)		110,303
State and municipal		6,834		318		(10	)		7,142
Corporate bonds		2,312		30		(13	)		2,329
Other debt securities		572		79		—			651

Total available for sale	$	151,155	$	1,692	$	(1,089	)	$	151,758


	Amortized Cost		Gross Unrecognized Gains		Gross Unrecognized Losses			Fair Value
Held to maturity
State and municipal	$	42,202	$	1,505	$	(30	)	$	43,677

Total held to maturity	$	42,202	$	1,505	$	(30	)	$	43,677

December 31, 2014
Available for sale
U.S. Government and federal agency	$	35,725	$	308	$	(590	)	$	35,443
Agency mortgage-backed: residential		121,985		1,970		(357	)		123,598
State and municipal		11,690		722		(8	)		12,404
Corporate bonds		18,087		853		(252	)		18,688
Other debt securities		572		86		—			658

Total available for sale	$	188,059	$	3,939	$	(1,207	)	$	190,791


	Amortized Cost		Gross Unrecognized Gains		Gross Unrecognized Losses			Fair Value
Held to maturity
State and municipal	$	42,325	$	2,173	$	—		$	44,498

Total held to maturity	$	42,325	$	2,173	$	—		$	44,498

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


	Three Months Ended June 30,				Six Months Ended June 30,
	2015		2014		2015		2014
	(in thousands)				(in thousands)
Proceeds	$	9,972	$	675	$	44,110	$	1,004
Gross gains		281		2		1,832		46
Gross losses		82		—		136		—

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


	June 30, 2015
	Amortized Cost		Fair Value
	(in thousands)
Maturity
Available for sale
Within one year	$	5,915	$	5,973
One to five years		8,742		9,029
Five to ten years		26,238		25,802
Beyond ten years		572		651
Agency mortgage-backed: residential		109,688		110,303

Total	$	151,155	$	151,758

Held to maturity
One to five years	$	13,952	$	14,412
Five to ten years		24,693		25,561
Beyond ten years		3,557		3,704

Total	$	42,202	$	43,677

Securities pledged at June 30, 2015 and December 31, 2014 had carrying values of approximately $52.9 million and $80.8 million, respectively, and were pledged to secure public deposits and repurchase agreements.

At June 30, 2015 and December 31, 2014, we held securities issued by the Commonwealth of Kentucky or municipalities in the Commonwealth of Kentucky having a book value of $17.9 million and $19.1 million, respectively. Additionally, at June 30, 2015 and December 31, 2014, we held securities issued by the State of Texas or municipalities in the State of Texas having a book value of $4.3 million and $4.4 million, respectively. At June 30, 2015 and December 31, 2014, there were no other holdings of securities of any one issuer, other than the U.S. Government and its agencies, in an amount greater than 10% of stockholders’ equity.

Securities with unrealized losses at June 30, 2015 and December 31, 2014, aggregated by investment category and length of time the individual securities have been in a continuous unrealized loss position, are as follows:


	Less than 12 Months					12 Months or More					Total
Description of Securities	Fair Value		Unrealized Loss			Fair Value		Unrealized Loss			Fair Value		Unrealized Loss
	(in thousands)
June 30, 2015
Available for sale
U.S. Government and federal agency	$	8,242	$	(55	)	$	15,228	$	(452	)	$	23,470	$	(507	)
Agency mortgage-backed: residential		36,994		(314	)		3,958		(245	)		40,952		(559	)
State and municipal		470		(10	)		—		—			470		(10	)
Corporate bonds		1,536		(13	)		—		—			1,536		(13	)

Total available for sale temporarily impaired	$	47,242	$	(392	)	$	19,186	$	(697	)	$	66,428	$	(1,089	)


	Fair Value		Unrecognized Loss			Fair Value		Unrecognized Loss			Fair Value		Unrecognized Loss
Held to maturity
State and municipal	$	—	$	—		$	966	$	(30	)	$	966	$	(30	)

Total held to maturity temporarily impaired	$	—	$	—		$	966	$	(30	)	$	966	$	(30	)

December 31, 2014
Available for sale
U.S. Government and federal agency	$	7,778	$	(60	)	$	18,681	$	(530	)	$	26,459	$	(590	)
Agency mortgage-backed: residential		6,960		(12	)		17,938		(345	)		24,898		(357	)
State and municipal		569		(8	)		—		—			569		(8	)
Corporate bonds		4,884		(119	)		1,660		(133	)		6,544		(252	)

Total temporarily impaired	$	20,191	$	(199	)	$	38,279	$	(1,008	)	$	58,470	$	(1,207	)

There were no held to maturity securities in an unrecognized loss position at December 31, 2014.

The Company evaluates securities for other than temporary impairment (OTTI) on a quarterly basis. Consideration is given to the length of time and the extent to which the fair value has been less than cost, the financial condition and near-term prospects of the issuer, underlying credit quality of the issuer, and the intent and ability of the Company to retain its investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value. In analyzing an issuer’s financial condition, the Company may consider whether the securities are issued by the federal government or its agencies, whether downgrades by bond rating agencies have occurred, the sector or industry trends and cycles affecting the issuer, and the results of reviews of the issuer’s financial condition. Management currently intends to hold all securities with unrealized losses until recovery, which for fixed income securities may be at maturity. As of June 30, 2015, management does not believe securities within our portfolio with unrealized losses should be classified as other than temporarily impaired.

Note 4 – Loans

Loans were as follows:


	June 30, 2015			December 31, 2014
	(in thousands)

Commercial	$	78,742		$	60,936
Commercial Real Estate:
Construction		39,014			33,173
Farmland		77,935			77,419
Nonfarm nonresidential		160,518			175,452
Residential Real Estate:
Multi-family		44,702			41,891
1-4 Family		206,564			197,278
Consumer		9,958			11,347
Agriculture		30,391			26,966
Other		497			537

Subtotal		648,321			624,999
Less: Allowance for loan losses		(16,809	)		(19,364	)

Loans, net	$	631,512		$	605,635

The following table presents the activity in the allowance for loan losses by portfolio segment for the three months ended June 30, 2015 and 2014:


	Commercial			Commercial Real Estate			Residential Real Estate			Consumer			Agriculture			Other			Total
	(in thousands)
June 30, 2015:
Beginning balance	$	2,046		$	10,680		$	5,221		$	244		$	391		$	15		$	18,597
Provision for loan losses		(296	)		(330	)		604			10			3			9			—
Loans charged off		(99	)		(1,224	)		(809	)		(62	)		(37	)		(33	)		(2,264	)
Recoveries		295			87			44			34			2			14			476

Ending balance	$	1,946		$	9,213		$	5,060		$	226		$	359		$	5		$	16,809

June 30, 2014:
Beginning balance	$	3,608		$	13,929		$	7,071		$	383		$	415		$	9		$	25,415
Provision for loan losses		(329	)		6,074			560			(28	)		38			(15	)		6,300
Loans charged off		(308	)		(6,894	)		(1,048	)		(51	)		(21	)		(1	)		(8,323	)
Recoveries		144			1,250			290			35			3			19			1,741

Ending balance	$	3,115		$	14,359		$	6,873		$	339		$	435		$	12		$	25,133

The following table presents the activity in the allowance for loan losses by portfolio segment for the six months ended June 30, 2015 and 2014:


	Commercial			Commercial Real Estate			Residential Real Estate			Consumer			Agriculture			Other			Total
	(in thousands)
June 30, 2015:
Beginning balance	$	2,046		$	10,931		$	5,787		$	274		$	319		$	7		$	19,364
Provision for loan losses		(27	)		(323	)		220			22			107			1			—
Loans charged off		(474	)		(1,593	)		(1,291	)		(130	)		(70	)		(33	)		(3,591	)
Recoveries		401			198			344			60			3			30			1,036

Ending balance	$	1,946		$	9,213		$	5,060		$	226		$	359		$	5		$	16,809

June 30, 2014:
Beginning balance	$	3,221		$	16,414		$	7,762		$	416		$	305		$	6		$	28,124
Provision for loan losses		116			4,947			1,094			(9	)		151			1			6,300
Loans charged off		(454	)		(8,368	)		(2,356	)		(179	)		(30	)		(18	)		(11,405	)
Recoveries		232			1,366			373			111			9			23			2,114

Ending balance	$	3,115		$	14,359		$	6,873		$	339		$	435		$	12		$	25,133

The following table presents the balance in the allowance for loan losses and the recorded investment in loans by portfolio segment and based on the impairment method as of June 30, 2015:


	Commercial		Commercial Real Estate		Residential Real Estate		Consumer		Agriculture		Other		Total
	(in thousands)
Allowance for loan losses:
Ending allowance balance attributable to loans:
Individually evaluated for impairment	$	1	$	671	$	170	$	—	$	—	$	—	$	842
Collectively evaluated for impairment		1,945		8,542		4,890		226		359		5		15,967

Total ending allowance balance	$	1,946	$	9,213	$	5,060	$	226	$	359	$	5	$	16,809

Loans:
Loans individually evaluated for impairment	$	1,555	$	27,478	$	19,728	$	20	$	230	$	—	$	49,011
Loans collectively evaluated for impairment		77,187		249,989		231,538		9,938		30,161		497		599,310

Total ending loans balance	$	78,742	$	277,467	$	251,266	$	9,958	$	30,391	$	497	$	648,321

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


	Commercial		Commercial Real Estate		Residential Real Estate		Consumer		Agriculture		Other		Total
	(in thousands)
Allowance for loan losses:
Ending allowance balance attributable to loans:
Individually evaluated for impairment	$	33	$	491	$	227	$	1	$	—	$	—	$	752
Collectively evaluated for impairment		2,013		10,440		5,560		273		319		7		18,612

Total ending allowance balance	$	2,046	$	10,931	$	5,787	$	274	$	319	$	7	$	19,364

Loans:
Loans individually evaluated for impairment	$	2,022	$	48,141	$	21,384	$	61	$	263	$	122	$	71,993
Loans collectively evaluated for impairment		58,914		237,903		217,785		11,286		26,703		415		553,006

Total ending loans balance	$	60,936	$	286,044	$	239,169	$	11,347	$	26,966	$	537	$	624,999

Impaired Loans

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

The following tables present information related to loans individually evaluated for impairment by class of loans as of June 30, 2015 and December 31, 2014 and for the three and six months ended June 30, 2015 and 2014:


							Three Months Ended June 30, 2015				Six Months Ended June 30, 2015
	Unpaid Principal Balance		Recorded Investment		Allowance For Loan Losses Allocated		Average Recorded Investment		Interest Income Recognized		Average Recorded Investment		Interest Income Recognized
	(in thousands)
With No Related Allowance Recorded:
Commercial	$	1,792	$	1,548	$	—	$	1,605	$	5	$	1,730	$	5
Commercial real estate:
Construction		1,599		1,012		—		2,475		4		3,016		8
Farmland		6,893		4,447		—		4,659		3		4,685		26
Nonfarm nonresidential		25,674		17,291		—		20,356		72		21,043		137
Residential real estate:
Multi-family		34		34		—		17		—		38		—
1-4 Family		16,616		13,900		—		14,235		110		14,579		244
Consumer		85		20		—		22		—		25		—
Agriculture		297		230		—		231		—		241		—
Other		—		—		—		62		2		82		4

Subtotal		52,990		38,482		—		43,662		196		45,439		424
With An Allowance Recorded:
Commercial		7		7		1		10		—		22		—
Commercial real estate:
Construction		—		—		—		—		—		—		—
Farmland		—		—		—		—		—		105		—
Nonfarm nonresidential		8,150		4,728		671		2,615		6		7,266		12
Residential real estate:
Multi-family		4,221		4,221		64		4,235		55		4,246		102
1-4 Family		1,573		1,573		106		1,628		14		1,676		39
Consumer		—		—		—		4		—		13		—
Agriculture		—		—		—		—		—		—		—
Other		—		—		—		—		—		—		—

Subtotal		13,951		10,529		842		8,492		75		13,328		153

Total	$	66,941	$	49,011	$	842	$	52,154	$	271	$	58,767	$	577


	As of December 31, 2014						Three Months Ended June 30, 2014				Six Months Ended June 30, 2014
	Unpaid Principal Balance		Recorded Investment		Allowance For Loan Losses Allocated		Average Recorded Investment		Interest Income Recognized		Average Recorded Investment		Interest Income Recognized
	(in thousands)
With No Related Allowance Recorded:
Commercial	$	2,546	$	1,978	$	—	$	2,359	$	54	$	2,447	$	55
Commercial real estate:
Construction		4,714		4,100		—		5,488		3		6,340		6
Farmland		6,636		4,739		—		6,403		31		6,899		48
Nonfarm nonresidential		34,437		22,418		—		42,897		275		47,731		458
Residential real estate:
Multi-family		81		81		—		323		—		2,719		—
1-4 Family		18,496		15,266		—		21,844		131		26,156		417
Consumer		93		29		—		10		—		9		—
Agriculture		276		263		—		264		—		283		3
Other		367		122		—		180		2		330		9

Subtotal		67,646		48,996		—		79,768		496		92,914		996
With An Allowance Recorded:
Commercial		145		44		33		1,115		2		1,534		20
Commercial real estate:
Construction		—		—		—		665		5		863		11
Farmland		658		315		38		—		—		82		—
Nonfarm nonresidential		19,454		16,569		453		13,308		63		15,370		171
Residential real estate:
Multi-family		4,266		4,266		91		4,301		39		4,533		76
1-4 Family		1,791		1,771		136		1,749		19		1,907		38
Consumer		32		32		1		44		—		58		1
Agriculture		—		—		—		—		—		—		—
Other		—		—		—		—		—		—		—

Subtotal		26,346		22,997		752		21,182		128		24,347		317

Total	$	93,992	$	71,993	$	752	$	100,950	$	624	$	117,261	$	1,313

Cash basis income recognized for the three and six months ended June 30, 2015 was $29,000 and $102,000, respectively, compared to $225,000 and $422,000 for the three and six months ended June 30, 2014.

Troubled Debt Restructuring

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

The following table presents the types of TDR loan modifications by portfolio segment outstanding as of June 30, 2015 and December 31, 2014:


	TDRs Performing to Modified Terms		TDRs Not Performing to Modified Terms		Total TDRs
	(in thousands)
June 30, 2015
Commercial
Rate reduction	$	8	$	69	$	77
Principal deferral		—		869		869
Commercial Real Estate:
Construction
Rate reduction		265		337		602
Farmland
Principal deferral		—		2,365		2,365
Nonfarm nonresidential
Rate reduction		5,504		11,366		16,870
Principal deferral		655		—		655
Residential Real Estate:
Multi-family
Rate reduction		4,221		—		4,221
1-4 Family
Rate reduction		7,895		—		7,895

Total TDRs	$	18,548	$	15,006	$	33,554


	TDRs Performing to Modified Terms		TDRs Not Performing to Modified Terms		Total TDRs
	(in thousands)
December 31, 2014
Commercial
Rate reduction	$	14	$	—	$	14
Principal deferral		—		869		869
Commercial Real Estate:
Construction
Rate reduction		268		3,379		3,647
Farmland
Principal deferral		—		2,365		2,365
Other
Rate reduction		8,622		13,894		22,516
Principal deferral		671		—		671
Residential Real Estate:
Multi-family
Rate reduction		4,266		—		4,266
1-4 Family
Rate reduction		8,112		—		8,112
Consumer
Rate reduction		32		—		32

Total TDRs	$	21,985	$	20,507	$	42,492

At June 30, 2015 and December 31, 2014, 55% and 52%, respectively, of the Company’s TDRs were performing according to their modified terms. The Company allocated $824,000 and $579,000 in reserves to borrowers whose loan terms have been modified in TDRs as of June 30, 2015, and December 31, 2014, respectively. The Company has committed to lend no additional amounts to customers as of June 30, 2015 and December 31, 2014 to borrowers with outstanding loans classified as TDRs.

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

No TDR loan modifications occurred during the three or six months ended June 30, 2015 or June 30, 2014. During the first six months of 2015 and 2014, no TDRs defaulted on their restructured loan within the 12 month period following the loan modification. A default is considered to have occurred once the TDR is past due 90 days or more or it has been placed on nonaccrual.

Nonperforming Loans

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

The following table presents the recorded investment in nonaccrual and loans past due 90 days and still on accrual by class of loan as of June 30, 2015, and December 31, 2014:


	Nonaccrual				Loans Past Due 90 Days And Over Still Accruing
	June 30, 2015		December 31, 2014		June 30, 2015		December 31, 2014
	(in thousands)
Commercial	$	1,548	$	1,978	$	—	$	—
Commercial Real Estate:
Construction		747		3,831		—		—
Farmland		4,447		5,054		—		—
Nonfarm nonresidential		15,859		26,892		—		—
Residential Real Estate:
Multi-family		34		80		—		—
1-4 Family		7,330		8,925		92		151
Consumer		20		30		—		—
Agriculture		230		263		—		—
Other		—		122		—		—

Total	$	30,215	$	47,175	$	92	$	151

The following table presents the aging of the recorded investment in past due loans as of June 30, 2015 and December 31, 2014:


	30 – 59 Days Past Due		60 – 89 Days Past Due		90 Days And Over Past Due		Nonaccrual		Total Past Due And Nonaccrual
	(in thousands)
June 30, 2015
Commercial	$	28	$	—	$	—	$	1,548	$	1,576
Commercial Real Estate:
Construction		—		—		—		747		747
Farmland		267		61		—		4,447		4,775
Nonfarm nonresidential		152		238		—		15,859		16,249
Residential Real Estate:
Multi-family		—		—		—		34		34
1-4 Family		1,442		335		92		7,330		9,199
Consumer		52		4		—		20		76
Agriculture		—		12		—		230		242
Other		—		—		—		—		—

Total	$	1,941	$	650	$	92	$	30,215	$	32,898


	30 – 59 Days Past Due		60 – 89 Days Past Due		90 Days And Over Past Due		Nonaccrual		Total Past Due And Nonaccrual
	(in thousands)
December 31, 2014
Commercial	$	86	$	—	$	—	$	1,978	$	2,064
Commercial Real Estate:
Construction		—		—		—		3,831		3,831
Farmland		400		14		—		5,054		5,468
Nonfarm nonresidential		241		318		—		26,892		27,451
Residential Real Estate:
Multi-family		—		—		—		80		80
1-4 Family		3,124		601		151		8,925		12,801
Consumer		109		47		—		30		186
Agriculture		—		—		—		263		263
Other		—		—		—		122		122

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

Credit Quality Indicators

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

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

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

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

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

Loans not meeting the criteria above that are analyzed individually as part of the above described process are considered to be “Pass” rated loans. As of June 30, 2015, and December 31, 2014, and based on the most recent analysis performed, the risk category of loans by class of loans is as follows:


	Pass		Watch		Special Mention		Substandard		Doubtful		Total
	(in thousands)
June 30, 2015
Commercial	$	68,226	$	4,266	$	—	$	6,250	$	—	$	78,742
Commercial Real Estate:
Construction		31,715		5,582		—		1,717		—		39,014
Farmland		65,245		5,768		—		6,922		—		77,935
Nonfarm nonresidential		114,410		20,813		1,351		23,944		—		160,518
Residential Real Estate:
Multi-family		35,769		4,958		—		3,975		—		44,702
1-4 Family		162,179		18,719		69		25,597		—		206,564
Consumer		9,095		307		298		258		—		9,958
Agriculture		22,707		7,299		—		385		—		30,391
Other		497		—		—		—		—		497

Total	$	509,843	$	67,712	$	1,718	$	69,048	$	—	$	648,321


	Pass		Watch		Special Mention		Substandard		Doubtful		Total
	(in thousands)
December 31, 2014
Commercial	$	49,440	$	5,063	$	—	$	6,433	$	—	$	60,936
Commercial Real Estate:
Construction		25,266		2,990		—		4,917		—		33,173
Farmland		61,672		7,922		—		7,825		—		77,419
Nonfarm nonresidential		111,426		21,017		3,747		39,262		—		175,452
Residential Real Estate:
Multi-family		31,526		6,039		—		4,326		—		41,891
1-4 Family		145,450		23,928		131		27,769		—		197,278
Consumer		10,115		537		311		384		—		11,347
Agriculture		25,816		704		—		446		—		26,966
Other		415		—		—		122		—		537

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

Note 5 – Other Real Estate Owned

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

Fair value of OREO is determined on an individual property basis. To determine the fair value of OREO for smaller dollar single family homes, we consult with internal real estate sales staff and external realtors, investors, and appraisers. If the internally evaluated market price is below our underlying investment in the property, appropriate write-downs are taken. For larger dollar residential and commercial real estate properties, we obtain a new appraisal of the subject property or have staff from our special assets group or in our centralized appraisal department evaluate the latest in-file appraisal in connection with the transfer to other real estate owned. We typically obtain updated appraisals within five quarters of the anniversary date of ownership unless a sale is imminent. Subsequent reductions in fair value are recorded as non-interest expense when a new appraisal indicates a decline in value or in cases where a listing price is lowered below the appraised amount.

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


	June 30, 2015			December 31, 2014
	(in thousands)
Commercial Real Estate:
Construction, land development, and other land	$	16,303		$	18,748
Farmland		231			669
Nonfarm nonresidential		14,664			14,860
Residential Real Estate:
Multi-family		3,864			4,988
1-4 Family		4,790			7,998

		39,852			47,263
Valuation allowance		(307	)		(1,066	)

	$	39,545		$	46,197


	For the Three Months Ended June 30,						For the Six Months Ended June 30,
	2015			2014			2015			2014
	(in thousands)						(in thousands)
OREO Valuation Allowance Activity:
Beginning balance	$	492		$	208		$	1,066		$	230
Provision to allowance		2,330			400			2,630			650
Write-downs		(2,515	)		(409	)		(3,389	)		(681	)

Ending balance	$	307		$	199		$	307		$	199

Residential loans secured by 1-4 family residential properties in the process of foreclosure totaled $2.1 million and $3.6 million at June 30, 2015 and December 31, 2014, respectively. Currently, $12.7 million of OREO property is subject to a contract for sale or letter of intent.

Net activity relating to other real estate owned during the three months ended June 30, 2015 and 2014 is as follows:


	For the Six Months Ended June 30,
	2015			2014
	(in thousands)
OREO Activity
OREO as of January 1	$	46,197		$	30,892
Real estate acquired		955			30,867
Valuation adjustment writedowns		(2,630	)		(650	)
Gain/(loss) on sale		43			54
Proceeds from sale of properties		(5,020	)		(4,281	)

OREO as of June 30	$	39,545		$	56,882

Expenses related to other real estate owned include:


	Three Months Ended June 30,						Six Months Ended June 30,
	2015			2014			2015			2014
	(in thousands)						(in thousands)
Net (gain) loss on sales	$	(40	)	$	(54	)	$	(43	)	$	(54	)
Provision to allowance		2,330			400			2,630			650
Operating expense		642			428			1,078			840

Total	$	2,932		$	774		$	3,665		$	1,436

Note 6 – Deposits

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


	June 30, 2015		December 31, 2014
	(in thousands)
Non-interest bearing	$	108,800	$	114,910
Interest checking		84,627		91,086
Money market		110,529		109,734
Savings		35,942		36,430
Certificates of deposit		564,253		574,681

Total	$	904,151	$	926,841

Time deposits of $250,000 or more were $34.2 million and $34.4 million at June 30, 2015 and December 31, 2014, respectively.

Scheduled maturities of all time deposits at June 30, 2015 were as follows (in thousands):


Year 1	$	327,242
Year 2		159,912
Year 3		10,715
Year 4		13,874
Year 5		52,510
Thereafter		—

	$	564,253

Note 7 – Advances from the Federal Home Loan Bank

Advances from the Federal Home Loan Bank were as follows:


	June 30,		December 31,
	2015		2014
	(in thousands)
Monthly amortizing advances with fixed rates from 0.00% to 5.25% and maturities ranging from 2017 through 2033, averaging 2.79% at June 30, 2015 and 1.02% at December 31, 2014	$	3,430	$	15,752

Each advance is payable based upon the terms on agreement, with a prepayment penalty. New advances are limited to a one year maturity or less. No prepayment penalties were incurred during 2015 or 2014. The advances are collateralized by first mortgage loans. The borrowing capacity is based on the market value of the underlying pledged loans. At June 30, 2015, our additional borrowing capacity with the FHLB was $23.8 million. The availability of our borrowing capacity could be affected by our financial condition and the FHLB could require additional collateral or, among other things, exercise its right to deny a funding request, at its discretion.

Note 8 – Fair Values Measurement

Fair value is the exchange price that would be received for an asset or paid to transfer a liability (exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. We use various valuation techniques to determine fair value, including market, income and cost approaches. There are three levels of inputs that may be used to measure fair values:

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

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

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

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

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

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

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

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

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

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

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

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

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

Financial assets measured at fair value on a recurring basis at June 30, 2015 and December 31, 2014 are summarized below:


			Fair Value Measurements at June 30, 2015 Using
			(in thousands)
			Quoted Prices In				Significant
			Active Markets for		Significant Other		Unobservable
	Carrying		Identical Assets		Observable Inputs		Inputs
Description	Value		(Level 1)		(Level 2)		(Level 3)
Available for sale securities
U.S. Government and federal agency	$	31,333	$	—	$	31,333	$	—
Agency mortgage-backed: residential		110,303		—		110,303		—
State and municipal		7,142		—		7,142		—
Corporate bonds		2,329		—		2,329		—
Other debt securities		651		—		—		651

Total	$	151,758	$	—	$	151,107	$	651


			Fair Value Measurements at December 31, 2014 Using
			(in thousands)
Description	Carrying Value		Quoted Prices In Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Available for sale securities
U.S. Government and federal agency	$	35,443	$	—	$	35,443	$	—
Agency mortgage-backed: residential		123,598		—		123,598		—
State and municipal		12,404		—		12,404		—
Corporate bonds		18,688		—		18,688		—
Other debt securities		658		—		—		658

Total	$	190,791	$	—	$	190,133	$	658

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

The table below presents a reconciliation of all assets measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for the periods ended June 30, 2015 and 2014:


	Other Debt Securities
	2015			2014
	(in thousands)
Balances of recurring Level 3 assets at January 1	$	658		$	632
Total gain (loss) for the period:
Included in other comprehensive income (loss)		(7	)		19

Balance of recurring Level 3 assets at June 30	$	651		$	651

Our other debt security valuation is determined internally by calculating discounted cash flows using the security’s coupon rate of 6.5% and an estimated current market rate of 8.25% based upon the current yield curve plus spreads that adjust for volatility, credit risk, and optionality. We also consider the issuer’s publicly filed financial information as well as assumptions regarding the likelihood of deferrals and defaults.

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


			Fair Value Measurements at June 30, 2015 Using
			(in thousands)
Description	Carrying Value		Quoted Prices In Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Impaired loans:
Commercial	$	7	$	—	$	—	$	7
Commercial real estate:
Construction		—		—		—		—
Farmland		—		—		—		—
Nonfarm nonresidential		3,770		—		—		3,770
Residential real estate:
Multi-family		—		—		—		—
1-4 Family		1,467		—		—		1,467
Consumer		—		—		—		—
Other		—		—		—		—
Other real estate owned, net:
Commercial real estate:
Construction		16,178		—		—		16,178
Farmland		230		—		—		230
Nonfarm nonresidential		14,551		—		—		14,551
Residential real estate:
Multi-family		3,834		—		—		3,834
1-4 Family		4,752		—		—		4,752



			Fair Value Measurements at December 31, 2014 Using
			(in thousands)
Description	Carrying Value		Quoted Prices In Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Impaired loans:
Commercial	$	12	$	—	$	—	$	12
Commercial real estate:
Construction		—		—		—		—
Farmland		278		—		—		278
Other		15,825		—		—		15,825
Residential real estate:
Multi-family		—		—		—		—
1-4 Family		1,635		—		—		1,635
Consumer		31		—		—		31
Other		—		—		—		—
Other real estate owned, net:
Commercial real estate:
Construction		18,325		—		—		18,325
Farmland		654		—		—		654
Other		14,525		—		—		14,525
Residential real estate:
Multi-family		4,875		—		—		4,875
1-4 Family		7,818		—		—		7,818

Impaired loans, which are measured for impairment using the fair value of the collateral for collateral dependent loans, had a carrying amount of $5.2 million at June 30, 2015 with a valuation allowance of $742,000, resulting in no additional provision for loan losses for the three and six months ended June 30, 2015. Impaired loans had a carrying amount of $13.3 million with a valuation allowance of $1.6 million, with an additional provision of $5.2 million for the three and six months ended June 30, 2014. At December 31, 2014, impaired loans had a carrying amount of $18.4 million, with a valuation allowance of $622,000.

OREO, which is measured at the lower of carrying or fair value less estimated costs to sell, had a net carrying amount of $39.5 million as of June 30, 2015, compared with $56.9 million at June 30, 2014 and $46.2 million at December 31, 2014. Fair value write-downs of $2.6 million and $650,000 were recorded on OREO for the six months ended June 30, 2015 and 2014, respectively.

The following table presents qualitative information about level 3 fair value measurements for financial instruments measured at fair value on a non-recurring basis at June 30, 2015:


	Fair Value		Valuation Technique(s)	Unobservable Input(s)	Range (Weighted Average)
	(in thousands)
Impaired loans – Commercial	$	7	Market value approach	Adjustment for receivables and inventory discounts	11% - 14% (13%)
Impaired loans – Commercial real estate	$	3,770	Sales comparison approach	Adjustment for differences between the comparable sales	2% - 17% (10%)
			Income approach	Discount or capitalization rate	8% - 10% (9%)
Impaired loans – Residential real estate	$	1,467	Sales comparison approach	Adjustment for differences between the comparable sales	1% - 16% (7%)
Other real estate owned – Commercial real estate	$	30,959	Sales comparison approach	Adjustment for differences between the comparable sales	0% - 69% (22%) 8% - 20% (13%)
			Income approach	Discount or capitalization rate	0% - 69% (22%) 8% - 20% (13%)
Other real estate owned – Residential real estate	$	8,586	Sales comparison approach	Adjustment for differences between the comparable sales	0% - 15% (5%)

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


	Fair Value		Valuation Technique(s)	Unobservable Input(s)	Range (Weighted Average)
	(in thousands)
Impaired loans – Commercial	$	12	Market value approach	Adjustment for receivables and inventory discounts	16% - 32% (24%)
Impaired loans – Commercial real estate	$	16,103	Sales comparison approach Income approach	Adjustment for differences between the comparable sales Discount or capitalization rate	0% - 62% (14%) 8% - 9% (8%)
Impaired loans – Residential real estate	$	1,635	Sales comparison approach	Adjustment for differences between the comparable sales	0% - 39% (11%)
Other real estate owned – Commercial real estate	$	33,504	Sales comparison approach Income approach	Adjustment for differences between the comparable sales Discount or capitalization rate	0% - 45% (18%) 9% - 20% (13%)
Other real estate owned – Residential real estate	$	12,693	Sales comparison approach	Adjustment for differences between the comparable sales	0% - 15% (6%)

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


			Fair Value Measurements at June 30, 2015 Using
	Carrying Amount		Level 1		Level 2		Level 3		Total
	(in thousands)
Financial assets
Cash and cash equivalents	$	71,390	$	58,734	$	12,656	$	—	$	71,390
Securities available for sale		151,758		—		151,107		651		151,758
Securities held to maturity		42,202		—		43,677		—		43,677
Federal Home Loan Bank stock		7,323		N/A		N/A		N/A		N/A
Loans held for sale		125		—		125		—		125
Loans, net		631,512		—		—		642,894		642,894
Accrued interest receivable		3,256		—		1,111		2,145		3,256
Financial liabilities
Deposits	$	904,151	$	108,800	$	790,086	$	—	$	898,886
Securities sold under agreements to repurchase		1,265		—		1,265		—		1,265
Federal Home Loan Bank advances		3,430		—		3,438		—		3,438
Subordinated capital notes		4,500		—		—		4,351		4,351
Junior subordinated debentures		25,000		—		—		14,644		14,644
Accrued interest payable		2,977		—		564		2,413		2,977


			Fair Value Measurements at December 31, 2014 Using
	Carrying Amount		Level 1		Level 2		Level 3		Total
	(in thousands)
Financial assets
Cash and cash equivalents	$	80,180	$	49,007	$	31,173	$	—	$	80,180
Securities available for sale		190,791		—		190,133		658		190,791
Securities held to maturity		42,325		—		44,498		—		44,498
Federal Home Loan Bank stock		7,323		N/A		N/A		N/A		N/A
Loans held for sale		8,926		—		8,926		—		8,926
Loans, net		605,635		—		—		615,914		615,914
Accrued interest receivable		3,503		—		1,389		2,114		3,503
Financial liabilities
Deposits	$	926,841	$	114,910	$	804,508	$	—	$	919,418
Securities sold under agreements to repurchase		1,341		—		1,341		—		1,341
Federal Home Loan Bank advances		15,752		—		15,758		—		15,758
Subordinated capital notes		4,950		—		—		4,765		4,765
Junior subordinated debentures		25,000		—		—		14,214		14,214
Accrued interest payable		2,858		—		751		2,107		2,858

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

(a) Cash and Cash Equivalents

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

(b) FHLB Stock

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

(c) Loans, Net

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

(d) Loans Held for Sale

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

(e) Deposits

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

(f) Securities Sold Under Agreements to Repurchase

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

(g) Other Borrowings

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

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

(h) Accrued Interest Receivable/Payable

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

Note 9 – Income Taxes

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


	June 30,			December 31,
	2015			2014
	(in thousands)
Deferred tax assets:
Net operating loss carry-forward	$	34,095		$	32,111
Allowance for loan losses		5,883			6,777
Other real estate owned write-down		9,379			10,000
Alternative minimum tax credit carry-forward		692			692
Net assets from acquisitions		670			668
Other than temporary impairment on securities		46			46
Net unrealized loss on securities		144			—
New market tax credit carry-forward		208			208
Nonaccrual loan interest		846			958
Amortization of non-compete agreements		13			14
Other		1,810			1,701

		53,786			53,175

Deferred tax liabilities:
FHLB stock dividends		928			928
Fixed assets		236			264
Originated mortgage servicing rights		42			53
Net unrealized gain on securities		—			579
Other		669			703

		1,875			2,527

Net deferred tax assets before valuation allowance		51,911			50,648

Valuation allowance		(51,911	)		(50,648	)

Net deferred tax asset	$	—		$	—

Our estimate of the realizability of the deferred tax asset is dependent on our estimate of projected future levels of taxable income. In analyzing future taxable income levels, we considered all evidence currently available, both positive and negative. Based on our analysis, we established a valuation allowance for all deferred tax assets as of December 31, 2011. The valuation allowance remains in effect as of June 30, 2015.

The calculation for the income tax provision or benefit generally does not consider the tax effects of changes in other comprehensive income, or OCI, which is a component of stockholders’ equity on the balance sheet. However, an exception is provided in certain circumstances, such as when there is a full valuation allowance against net deferred tax assets, there is a loss from continuing operations and there is income in other components of the financial statements. In such a case, pre-tax income from other categories, such as changes in OCI, must be considered in determining a tax benefit to be allocated to the loss from continuing operations. No tax benefit or expense was recognized for the six months ended June 30, 2015, and a tax benefit of $1.3 million was allocated to continuing operations for the six months ended June 30, 2014. The June 30, 2014 tax benefit is entirely due to gains in other comprehensive income that are presented in current operations in accordance with applicable accounting standards.

The Company does not have any beginning and ending unrecognized tax benefits. The Company does not expect the total amount of unrecognized tax benefits to significantly increase or decrease in the next twelve months. There were no interest and penalties recorded in the income statement or accrued for the six months ended June 30, 2015 or June 30, 2014 related to unrecognized tax benefits. On June 24, 2015, the Board of Directors approved the adoption of a tax benefits preservation plan designed to preserve the value of certain of the Company’s deferred tax assets primarily associated with net operating loss carryforwards (NOLs) under Section 382 of the Internal Revenue Code. NOLs can generally be used to offset future taxable income and therefore reduce federal income tax obligations. However, the Company’s ability to use its NOLs would be limited if there was an “ownership change” under Section 382. This would occur if shareholders owning (or deemed to own under the tax rules) 5% or more of the Company’s increase their aggregate ownership of the Company by more than 50 percentage points over a defined period of time. The plan is intended to reduce the likelihood of an “ownership change” occurring as a result of the buying and selling of the Company’s common stock.

In connection with the tax benefits preservation plan, the Company declared a dividend of one preferred stock purchase right for each share of common stock outstanding as of the close of business on July 10, 2015. Any shareholder or group that acquires beneficial ownership of 5% or more of the Company (an “acquiring person”) could be subject to significant dilution in its holdings if the Company’s board of directors does not approve such acquisition. Existing shareholders holding 5% or more of the Company will not be considered acquiring persons unless they acquire additional shares, subject to certain exceptions described in the plan. In addition, in its discretion, the Board of Directors may exempt certain transactions and certain persons whose acquisition of securities is determined by the board not to jeopardize the Company’s deferred tax assets.

The rights will expire upon the earlier of (i) June 29, 2018, (ii) the beginning of a taxable year with respect to which the Board of Directors determines that no tax benefits may be carried forward, (iii) the repeal or amendment of Section 382 or any successor statute, if the Board of Directors determines that the plan is no longer needed to preserve the tax benefits, and (iv) certain other events as described in the plan.

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

Note 10 – Stock Plans and Stock Based Compensation

The Company has two stock incentive plans. The Porter Bancorp, Inc. 2006 Stock Incentive Plan permits the issuance of up to 1,563,050 shares of the Company’s common stock upon the grant of stock awards. As of June 30, 2015, the Company had issued and outstanding 1,019,109 unvested shares net of forfeitures and vesting under the stock incentive plan. Shares issued under the plan vest annually on the anniversary date of the grant over three to ten years. The Company has 291,902 shares remaining available for issuance under the plan.

The Porter Bancorp, Inc. 2006 Non-Employee Directors Stock Ownership Incentive Plan permits the issuance of up to 700,000 shares of the Company’s voting common stock upon the grant of stock awards. The Plan awards restricted shares having a fair market value of $25,000 annually to each non-employee director. Unvested shares are granted automatically under the plan at fair market value on the date of grant and vest on December 31 in the year of grant. The Company has issued and outstanding 115,740 unvested shares, net of forfeitures and vesting, to non-employee directors. At June 30, 2015, 185,774 shares remain available for issuance under this plan.

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

The fair value of the 2015 unvested shares issued to employees was $712,000, or $0.89 per weighted-average share. The fair value of the 2015 unvested shares issued to directors was $125,000, or $1.08 per weighted-average share. The Company recorded $181,000 and $283,000 of stock-based compensation during the first six months of 2015 and 2014, respectively, to salaries and employee benefits. We expect substantially all of the unvested shares outstanding at the end of the period will vest according to the vesting schedule. No deferred tax benefit was recognized related to this expense for either period.

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


	Six Months Ended June 30, 2015					Twelve Months Ended December 31, 2014
				Weighted					Weighted
				Average					Average
				Grant					Grant
	Shares			Price		Shares			Price
Outstanding, beginning		770,440		$	1.33		787,426		$	1.56
Granted		800,000			0.89		122,220			0.93
Vested		(80,185	)		1.81		(133,227	)		2.20
Terminated		(450,994	)		1.25		—			—
Forfeited		(20,152	)		1.06		(5,979	)		4.21

Outstanding, ending		1,019,109		$	0.99		770,440		$	1.33

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


	Six Months Ended					Twelve Months Ended
	June 30, 2015					December 31, 2014
				Weighted					Weighted
				Average					Average
				Grant					Grant
	Shares			Price		Shares			Price
Outstanding, beginning		5,052		$	1.65		47,428		$	1.69
Granted		115,740			1.08		166,668			0.90
Vested		(5,052	)		1.65		(154,222	)		0.98
Forfeited		—			—		(54,822	)		1.29

Outstanding, ending		115,740		$	1.08		5,052		$	1.65

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


July 2015 – December 2015	$	269
2016		257
2017		156
2018		149
2019 & thereafter		—

Note 11 – Earnings (Loss) per Share

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


	Three Months Ended						Six Months Ended
	June 30,						June 30,
	2015			2014			2015			2014
	(in thousands, except share and per share data)
Net loss	$	(2,130	)	$	(6,234	)	$	(1,536	)	$	(6,521	)
Less:
Preferred stock dividends		—			789			—			1,574
Earnings allocated to unvested shares		(91	)		(517	)		(60	)		(569	)
Earnings allocated to Series C preferred		—			(176	)		(209	)		(203	)

Net loss attributable to common shareholders, basic and diluted	$	(2,039	)	$	(6,330	)	$	(1,267	)	$	(7,323	)

Basic
Weighted average common shares including unvested common shares outstanding		25,687,579			13,293,226			25,554,292			13,256,911
Less:
Weighted average unvested common shares		1,098,072			979,211			990,545			931,092
Weighted average Series B preferred		—			—			1,343,735			—
Weighted average Series C preferred		—			332,894			—			332,894
Weighted average Series D preferred		—			—			2,140,774			—

Weighted average common shares outstanding		24,589,507			11,981,121			21,079,238			11,992,925

Basic loss per common share	$	(0.08	)	$	(0.53	)	$	(0.06	)	$	(0.61	)

Diluted
Add: Dilutive effects of assumed exercises of common and Preferred Series C stock warrants		—			—			—			—

Weighted average common shares and potential common shares		24,589,507			11,981,121			21,079,238			11,992,925

Diluted loss per common share	$	(0.08	)	$	(0.53	)	$	(0.06	)	$	(0.61	)

The Company had no outstanding stock options at June 30, 2015 or 2014. A warrant for the purchase of 330,561 shares of the Company’s common stock at an exercise price of $15.88 was outstanding at June 30, 2015 and 2014 but was not included in the diluted EPS computation as inclusion would have been anti-dilutive. Additionally, warrants for the purchase of 650,544 and 1,449,459 shares of non-voting common stock at an exercise price of $10.95 per share were outstanding at June 30, 2015 and 2014, respectively, but were not included in the diluted EPS computation as inclusion would have been anti-dilutive.

Note 12 – Capital Requirements and Restrictions on Retained Earnings

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

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

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

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

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

The revised Consent Order also requires the Bank to continue to adhere to the plans implemented in response to the June 2011 Consent Order, and includes the substantive provisions of the June 2011 Consent Order. As of June 30, 2015, the capital ratios required by the Consent Order had not been met.

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


	Actual					For Capital Adequacy Purposes
	Amount		Ratio			Amount		Ratio
As of June 30, 2015:
Total risk-based capital (to risk-weighted assets)
Consolidated	$	72,471		10.25	%	$	56,542		8.00	%
Bank		72,858		10.34			56,388		8.00
Total common equity Tier I risk-based capital (to risk-weighted assets)
Consolidated		31,267		4.42			31,805		4.50
Bank		59,449		8.43			31,718		4.50
Tier I capital (to risk-weighted assets)
Consolidated		42,548		6.02			42,407		6.00
Bank		59,449		8.43			42,291		6.00
Tier I capital (to average assets)
Consolidated		42,548		4.25			40,039		4.00
Bank		59,449		5.95			39,988		4.00


	Actual					For Capital Adequacy Purposes
	Amount		Ratio			Amount		Ratio
As of December 31, 2014:
Total risk-based capital (to risk-weighted assets)
Consolidated	$	73,595		10.61	%	$	55,483		8.00	%
Bank		73,174		10.57			55,383		8.00
Tier I capital (to risk-weighted assets)
Consolidated		46,459		6.70			27,741		4.00
Bank		59,438		8.59			27,691		4.00
Tier I capital (to average assets)
Consolidated		46,459		4.51			41,193		4.00
Bank		59,438		5.78			41,143		4.00

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


	Actual as of June 30, 2015					Ratio Required by Consent Order
	Amount		Ratio			Amount		Ratio
Total capital to risk-weighted assets	$	72,858		10.34	%	$	84,582		12.00	%
Tier I capital to average assets		59,449		5.95			89,973		9.00

At June 30, 2015, the Bank’s Tier 1 leverage ratio was 5.95%, and its total risk-based capital ratio was 10.34%, which are below the 9% and 12% minimum capital ratios required by the Consent Order. Bank regulatory agencies can exercise discretion when an institution does not meet the terms of a Consent Order. Based on individual circumstances, the agencies may issue mandatory directives, impose monetary penalties, initiate changes in management, or take more serious adverse actions.

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

Note 13 – Contingencies

We are defendants in various legal proceedings. Litigation is subject to inherent uncertainties and unfavorable rulings could occur. We record contingent liabilities resulting from claims against us when a loss is assessed to be probable and the amount of the loss is reasonably estimable. Assessing probability of loss and estimating probable losses requires analysis of multiple factors, including in some cases judgments about the potential actions of third party claimants and courts. Recorded contingent liabilities are based on the best information available and actual losses in any future period are inherently uncertain. Currently, we have accrued approximately $2.2 million related to ongoing litigation matters for which we believe liability is probable and reasonably estimable. Accruals are not made in cases where liability is not probable or the amount cannot be reasonably estimated. Aside from the amounts currently accrued, there is nothing that is reasonably probable. We disclose legal matters when we believe liability is reasonably possible and may be material to our consolidated financial statements.

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

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

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

Miller’s Health System Inc. Employee Stock Ownership Plan. On December 26, 2013, the United States Department of Labor (“DOL”) filed a lawsuit against the Bank in U.S. District Court for the Northern District of Indiana. Thomas E. Perez, Secretary of the United States Department of Labor v. PBI Bank, Inc. (Civ. Action 3:13-CV-1400-PPS). The complaint alleges that in 2007 the Bank, in the capacity of trustee for the Miller’s Health System’s Inc. Employee Stock Ownership Plan, authorized the alleged imprudent and disloyal purchase of the stock of Miller’s Health Systems, Inc. (“Miller’s Health”) in 2007 for $40 million, a price allegedly far in excess of the stock’s fair market value. The suit also alleges, among other things, that the Bank approved 100% seller financing for the transaction at an excessive rate of interest. On March 31, 2014, the Bank filed its answer, disputing the material factual allegations of the complaint. On April 10, 2014, the Bank filed a third-party complaint against Miller’s Health seeking to enforce its indemnity rights, as well as third party claims for contribution against named directors and officers of Miller’s Health. On March 12, 2015, the parties agreed to settle the litigation and executed a written settlement agreement on July 10, 2015. The Bank agreed to a settlement payment, which, to the extent not paid from insurance proceeds, had been previously reserved for. The court entered an agreed order ending the litigation on July 20, 2015.

AIT Laboratories Employee Stock Ownership Plan. On August 29, 2014, the United States Department of Labor (“DOL”) filed a lawsuit against the Bank and Michael A. Evans in the U.S. District Court for the Southern District of Indiana. Thomas E. Perez, Secretary of the United States Department of Labor v. PBI Bank, Inc. and Michael A. Evans (Case No. 1:14-CV-01429-SEB-MJD). The complaint alleges that in 2009, the Bank, in the capacity of trustee for the AIT Laboratories Employee Stock Ownership Plan, authorized the alleged imprudent and disloyal purchase of the stock of AIT Holdings, Inc. in 2009 for $90 million, a price allegedly far in excess of the stock’s fair market value. The Bank’s responsive pleading was filed on November 4, 2014, disputing the material factual allegations that have been made by the DOL. Discovery is in the early stages. A settlement conference has been set for December 15, 2015, and a trial date has been set for November 7, 2016. We intend to defend against DOL’s claims vigorously.

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

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

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

Cautionary Note Regarding Forward-Looking Statements

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

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

•

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

•

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

•

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

•

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

•

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

•

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

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

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

Overview

Porter Bancorp, Inc. (the “Company”) is a bank holding company headquartered in Louisville, Kentucky. Our wholly owned subsidiary PBI Bank (“the Bank”) is the ninth largest bank domiciled in the Commonwealth of Kentucky based on total assets. We operate banking offices in twelve counties in Kentucky. Our markets include metropolitan Louisville in Jefferson County and the surrounding counties of Henry and Bullitt. We serve south central Kentucky and southern Kentucky from banking offices in Butler, Green, Hart, Edmonson, Barren, Warren, Ohio, and Daviess Counties. We also have an office in Lexington, the second largest city in Kentucky. The Bank is a community bank with a wide range of commercial and personal banking products. As of June 30, 2015, we had total assets of $979.3 million, total loans of $648.3 million, total deposits of $904.2 million and stockholders’ equity of $30.0 million.

The Company reported a net loss of $2.1 million and $1.5 million for the three and six months ended June 30, 2015, respectively, compared with a net loss of $6.2 million and $6.5 million for the same periods of 2014, respectively. After deductions for earnings allocated to participating securities, net loss attributable to common shareholders was $2.0 million and $1.3 million for the three and six months ended June 30, 2015, respectively, compared with net loss attributable to common shareholders of $6.3 million and $7.3 million for the three and six months ended June 30, 2014, respectively.

Basic and diluted loss per common share were ($0.08) and ($0.06) for the three and six months ended June 30, 2015, respectively, compared with basic and diluted loss per common share of ($0.53) and ($0.61) for the three and six months ended June 30, 2014, respectively.

The following significant items are of note for the six months ended June 30, 2015:

•

Net interest margin increased 17 basis points to 3.21% in the first six months of 2015 compared with 3.04% in the first six months of 2014. The increase in margin between periods was primarily due to a decrease in the cost of interest bearing liabilities from 1.15% in the first six months of 2014 to 0.89% in the first six months of 2015. The decrease in cost of interest bearing liabilities was primarily driven by the continued repricing of certificates of deposit at lower rates. Average loans decreased 6.6% to $642.3 million in the first six months of 2015 compared with $687.9 million in the first six months of 2014. Net loans increased 2.2% to $631.5 million at June 30, 2015, compared with $617.9 million at June 30, 2014.

•

No provision for loan losses was recorded in the first six months of 2015, compared to $6.3 million for the first six months of 2014 because of improvements in asset quality and management’s assessment of risk in the loan portfolio. Net charge-offs of $2.6 million were recognized for the first six months of 2015, compared to $9.3 million for the six months ended June 30, 2014.

•

Non-performing loans decreased $17.0 million to $30.3 million at June 30, 2015, compared with $47.3 million at December 31, 2014. The decrease in non-performing loans was primarily due to $16.1 million in paydowns, as well as a decrease in loans moved to nonaccrual during the six months ended June 30, 2015 compared to the same period in 2014. Net charge-offs were $2.6 million for the six months ended June 30, 2015.

•

Loans past due 30-59 days decreased from $4.0 million at December 31, 2014 to $1.9 million at June 30, 2015 and loans past due 60-89 days decreased from $980,000 at December 31, 2014 to $650,000 at June 30, 2015. Total loans past due and nonaccrual loans decreased to $32.9 million at June 30, 2015 from $52.3 million at December 31, 2014.

•

Non-interest income increased $2.4 million to $4.3 million compared with $1.9 million for the first six months of 2014 driven primarily by gains on the sales of securities totaling $1.7 million in the first six months of 2015, compared to $44,000 in the first six months of 2014, as well as an increase in OREO rental income of $704,000 between the two periods. The increase in OREO income is the result of several larger properties with tenants being transferred to OREO in the second quarter of 2014.

•

Non-interest expense increased $2.1 million to $20.4 million compared with $18.3 million for the first six months of 2014, primarily due to increased OREO expenses related to fair value write-downs of $2.6 million for the first six months of 2015, and an increase in professional fees of $920,000 related to legal fees and litigation expenses, offset by a decrease in loan collection expenses of $1.2 million.

•

Foreclosed properties were $39.5 million at June 30, 2015, compared with $46.2 million at December 31, 2014, and $56.9 million at June 30, 2014. During the first six months of 2015, the Company acquired $955,000 and sold $5.0 million of OREO. We incurred OREO losses totaling $2.6 million during the first six months of 2015, comprised of $2.6 million in fair value write-downs to reflect reductions in listing prices for certain properties as well as updated appraisals, offset by $43,000 in net gain on sales of OREO. OREO expense may be elevated in future periods given the current size of the OREO portfolio and as we work to sell these properties. Currently, $12.7 million of OREO property is subject to a contract for sale or letter of intent.

•

Our ratio of non-performing assets to total assets decreased to 7.13% at June 30, 2015, compared with 9.19% at December 31, 2014, and 9.69% at June 30, 2014.

•

Deposits decreased 2.4% to $904.2 million at June 30, 2015 compared with $926.8 million at December 31, 2014. Certificate of deposit balances decreased $10.4 million during the first six months of 2015 to $564.3 million at June 30, 2015, from $574.7 million at December 31, 2014. Demand deposits decreased 5.3% during the first six months of 2015 compared with December 31, 2014.

•

On February 25, 2015, shareholders approved the conversion of all mandatorily convertible Series B Preferred Shares into 4,053,600 common shares and the conversion of all mandatorily convertible Series D Preferred Shares into 6,458,000 non-voting common shares. The conversion reduced preferred stockholders’ equity by $5.8 million and increased common stockholders’ equity by the same amount. Total issued and outstanding common shares and non-voting common shares were 25,759,223 at June 30, 2015.

•

The Board of Directors approved the adoption of a tax benefits preservation plan designed to preserve the value of certain of the Company’s deferred tax assets primarily associated with net operating loss carryforwards (NOLs) under Section 382 of the Internal Revenue Code. At June 30, 2015 the Company’s net deferred tax asset totaled $51.9 million and was subject to a full valuation allowance. The plan is intended to reduce the likelihood of an “ownership change” occurring as a result of the buying and selling of the Company’s common stock. The tax benefits preservation plan is more fully described in Note 9 – “Income Taxes”.

Going Concern Considerations and Future Plans

We continue to work toward capital ratio compliance. As of June 30, 2015, the capital ratios required by the Consent order had not been met. The revised Consent Order also requires the Bank to continue to adhere to the plans implemented in response to the June 2011 Consent Order, and includes the substantive provisions of the June 2011 Consent Order. The revised Consent Order was included in our Current Report on 8-K filed on September 19, 2012.

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

•

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

•

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

•

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

•

We have reduced the size of our loan portfolio significantly from $1.3 billion at December 31, 2010 to $648.3 million at June 30, 2015.

•

We have reduced our construction and development loans to less than 75% of total risk-based capital at June 30, 2015.

•

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

•

Application of Critical Accounting Policies

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

Results of Operations

The following table summarizes components of income and expense and the change in those components for the three months ended June 30, 2015, compared with the same period of 2014:


	For the Three Months Ended June 30,						Change from Prior Period
	2015			2014			Amount			Percent
	(dollars in thousands)
Gross interest income	$	9,167		$	10,166		$	(999	)		(9.8	)%
Gross interest expense		1,828			2,552			(724	)		(28.4	)
Net interest income		7,339			7,614			(275	)		(3.6	)
Provision for loan losses		—			6,300			(6,300	)		(100.0	)
Non-interest income		1,565			949			616			64.9
Non-interest expense		11,034			9,804			1,230			12.5
Net income (loss) before taxes		(2,130	)		(7,541	)		5,411			(71.8	)
Income tax benefit		—			(1,307	)		1,307			(100.0	)
Net income (loss)		(2,130	)		(6,234	)		4,104			(65.8	)

Net loss before taxes for the three months ended June 30, 2015 totaled $2.1 million, compared with a net loss before taxes of $7.5 million for the comparable period of 2014.

Net interest income decreased $275,000 from the second quarter of 2014 and was adversely affected by the reduction in net interest earning assets as well as interest lost on nonaccrual loans in the second quarters of 2015 and 2014 of $464,000 and $948,000, respectively. No provision for loan losses was recorded in the first six months of 2015, compared to $6.3 million for the first six months of 2014 because of improvements in asset quality and management’s assessment of risk in the loan portfolio. The provision for loan losses of $6.3 million recorded in the second quarter of 2014 was primarily attributable to $5.2 million in commercial real estate loan charge-offs in the second quarter of 2014 associated with loans to a borrower with which the company reached a settlement agreement and transferred the commercial real estate securing the loans to OREO at estimated fair value less cost to sell. The charge-offs were in addition to reserves established through that time.

Non-interest income increased by $616,000 to $1.6 million from $949,000 in the second quarter of 2014, primarily due to increases in net gains on sales of securities and OREO rental income. Non-interest expense also increased during the period from $9.8 million to $11.0 million for the three months ended June 30, 2014 and 2015, respectively. This increase was primarily due to increases in OREO expenses of $2.2 million, offset by a reduction in loan collection expenses of $958,000. OREO expense was elevated during the second quarter of 2015 due to write-downs of $2.3 million resulting from declines in fair value of the real estate based upon reductions in listing prices for certain properties as well as updated appraisals. OREO expense may be elevated in future periods given the current size of the OREO portfolio and as we work to sell these properties. Additionally, nonaccrual loans totaled $30.2 million at June 30, 2015, and we expect to resolve many of these loans by foreclosure which could result in further additions to our OREO portfolio. Loan collection expenses for the second quarter of 2014 included $860,000 of expense related to the settlement agreement with a borrower and acquisition of OREO, as noted above.

A tax benefit was recognized in the second quarter of 2014 due to gains in other comprehensive income that are presented in current operations. The calculation for the income tax provision or benefit generally does not consider the tax effects of changes in other comprehensive income, or OCI, which is a component of stockholders’ equity on the balance sheet. However, an exception is provided in certain circumstances, such as when there is a full valuation allowance against net deferred tax assets, there is a loss from continuing operations and there is income in other components of the financial statements. In such a case, pre-tax income from other categories, such as changes in OCI, must be considered in determining a tax benefit to be allocated to the loss from continuing operations. For the quarter ended June 30, 2014, this resulted in $1.3 million of income tax benefit allocated to continuing operations. The June 30, 2014 tax benefit is entirely due to gains in other comprehensive income that are presented in current operations in accordance with applicable accounting standards. There was no tax benefit recorded during the quarter ended June 30, 2015. Net loss after recognition of the tax benefit was $6.2 million for the second quarter of 2014.

The following table summarizes components of income and expense and the change in those components for the six months ended June 30, 2015, compared with the same period of 2014:


	For the Six Months Ended June 30,						Change from Prior Period
	2015			2014			Amount			Percent
	(dollars in thousands)
Gross interest income	$	18,370		$	20,063		$	(1,693	)		(8.4	)%
Gross interest expense		3,741			5,149			(1,408	)		(27.3	)
Net interest income		14,629			14,914			(285	)		(1.9	)
Provision for loan losses		—			6,300			(6,300	)		(100.0	)
Non-interest income		4,261			1,864			2,397			128.6
Non-interest expense		20,426			18,306			2,120			11.6
Net loss before taxes		(1,536	)		(7,828	)		6,292			(80.4	)
Income tax benefit		—			(1,307	)		1,307			(100.0	)
Net loss		(1,536	)		(6,521	)		4,985			(76.4	)

Net loss before taxes for the six months ended June 30, 2015 totaled $1.5 million, compared with a net loss before taxes of $7.8 million for the comparable period of 2014. After the tax benefit recorded in the second quarter as noted above, net loss for the first six months 2014 was $6.5 million. Provision for loan losses expense decreased $6.3 million for the first six months of 2015 compared with the same period in 2014. Net charge-offs were $2.6 million for the six months ended June 30, 2015, compared to $9.3 million for the same period in 2014.

Net interest income decreased $285,000 from the first six months of 2014 and was adversely affected by a reduction in net interest earning assets as well as interest lost on nonaccrual loans in the first six months of 2015 and 2014 of $1.1 million and $2.1 million, respectively. Non-interest income increased by $2.4 million to $4.3 million from $1.9 million for the first six months of 2014, primarily due to increases in net gains on sales of securities and OREO rental income. Non-interest expense also increased during the period from $18.3 million to $20.4 million for the six months ended June 30, 2014 and 2015, respectively. This increase was primarily due to increases in OREO expenses of $2.2 million and professional fees of $920,000, offset by a decrease in loan collection expenses of $1.2 million. OREO expense was elevated during the first six months of 2015 due to writedowns of $2.6 million resulting from declines in fair value of the real estate based upon reductions in listing prices as well as updated appraisals. OREO expenses may be elevated in future periods given the current size of the OREO portfolio as we work to sell these properties. Additionally, nonaccrual loans totaled $30.2 million at June 30, 2015, and we expect to resolve many of these loans by foreclosure which could result in further additions to our OREO portfolio. Professional fees are elevated for 2015 as a result of current litigation as described in Note 13 – “Contingencies”. Loan collection expenses for the first six months of 2014 included $860,000 of expense related to the settlement agreement with a borrower and acquisition of OREO, as noted above.

Net Interest Income – Our net interest income was $7.3 million for the three months ended June 30, 2015, a decrease of $275,000, or 3.6%, compared with $7.6 million for the same period in 2014. Net interest spread and margin were 3.13% and 3.21%, respectively, for the second quarter of 2015, compared with 3.01% and 3.13%, respectively, for the second quarter of 2014. Net average non-accrual loans were $33.4 million and $66.7 million for the second quarters of 2015 and 2014, respectively. Cost of funds decreased 28 basis points from 1.15% in the second quarter of 2014 to 0.87% for the second quarter of 2015.

Average loans receivable declined approximately $36.1 million for the quarter ended June 30, 2015 compared with the second quarter of 2014. This resulted in a decline in interest revenue of approximately $447,000 for the quarter ended June 30, 2015 compared with the prior year period.

Net interest margin increased eight basis points from our margin of 3.13% in the prior year second quarter. The yield on earning assets decreased 16 basis points from the second quarter of 2014, compared with a 28 basis point decline in rates paid on interest-bearing liabilities. The increase in net interest margin was offset by a decrease in earning assets which resulted in a $275,000 reduction in net interest income.

Net interest income was $14.6 million for the six months ended June 30, 2015, a decrease of $285,000, or 1.9%, compared with $14.9 million for the same period in 2014. Net interest spread and margin were 3.13% and 3.21%, respectively, for the first six months of 2015, compared with 2.93% and 3.04%, respectively, for the first six months of 2014. Net average non-accrual loans were $38.8 million and $79.0 million for the first six months of 2015 and 2014, respectively. Cost of funds decreased 26 basis points from 1.15% for the first six months of 2014 to 0.89% for the first six months of 2015.

Average loans receivable declined approximately $45.6 million for the six months ended June 30, 2015 compared with the first six months of 2014. This resulted in a decline in interest revenue of approximately $1.1 million for the six months ended June 30, 2015 compared with the prior year period.

Net interest margin increased 17 basis points from our margin of 3.04% in the first six months of 2014. The yield on earning assets decreased six basis points from the first six months of 2014, compared with a 26 basis point decline in rates paid on interest-bearing liabilities. The increase in net interest margin was offset by a decrease in earning assets which resulted in a $285,000 reduction in net interest income.

Average Balance Sheets

The following table presents the average balance sheets for the three month periods ended June 30, 2015 and 2014, along with the related calculations of tax-equivalent net interest income, net interest margin and net interest spread for the related periods.


	Three Months Ended June 30,
	2015								2014
	Average Balance			Interest Earned/Paid		Average Yield/Cost			Average Balance			Interest Earned/Paid		Average Yield/Cost
	(dollars in thousands)
ASSETS
Interest-earning assets:
Loan receivables (1)(2)	$	641,857		$	7,846		4.91	%	$	677,643		$	8,572		5.07	%
Securities
Taxable		171,608			1,010		2.36			181,706			1,215		2.68
Tax-exempt (3)		25,187			190		4.65			30,549			235		4.75
FHLB stock		7,323			72		3.94			7,323			89		4.87
Federal funds sold and other		84,710			49		0.23			94,195			55		0.23

Total interest-earning assets		930,415			9,167		4.00	%		991,416			10,166		4.16	%

Less: Allowance for loan losses		(18,035	)							(25,326	)
Non-interest earning assets		91,127								90,719

Total assets	$	1,003,507							$	1,056,809

LIABILITIES AND STOCKHOLDERS’ EQUITY
Interest-bearing liabilities:
Certificates of deposit and other time deposits	$	581,786		$	1,410		0.97	%	$	642,881		$	2,133		1.33	%
NOW and money market deposits		194,730			176		0.36			176,192			163		0.37
Savings accounts		36,217			21		0.23			37,277			23		0.25
Repurchase agreements		951			1		0.42			2,199			1		0.18
FHLB advances		3,487			24		2.76			4,751			32		2.70
Junior subordinated debentures		29,721			196		2.65			30,621			200		2.62

Total interest-bearing liabilities		846,892			1,828		0.87	%		893,921			2,552		1.15	%

Non-interest-bearing liabilities:
Non-interest-bearing deposits		112,107								109,814
Other liabilities		10,738								15,463

Total liabilities		969,737								1,019,198
Stockholders’ equity		33,770								37,611

Total liabilities and stockholders’ equity	$	1,003,507							$	1,056,809

Net interest income				$	7,339							$	7,614

Net interest spread							3.13	%							3.01	%

Net interest margin							3.21	%							3.13	%

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

(2)	Calculations include non-accruing loans averaging $33.4 million and $66.7 million, respectively, in average loan amounts outstanding.

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

The following table presents the average balance sheets for the six month periods ended June 30, 2015 and 2014, along with the related calculations of tax-equivalent net interest income, net interest margin and net interest spread for the related periods.


	Six Months Ended June 30,
	2015								2014
	Average Balance			Interest Earned/Paid		Average Yield/Cost			Average Balance			Interest Earned/Paid		Average Yield/Cost
	(dollars in thousands)
ASSETS
Interest-earning assets:
Loan receivables (1)(2)	$	642,269		$	15,601		4.90	%	$	687,857		$	16,893		4.95	%
Securities
Taxable		175,146			2,136		2.46			179,654			2,388		2.68
Tax-exempt (3)		25,967			393		4.70			30,816			476		4.79
FHLB stock		7,323			146		4.02			8,204			191		4.69
Other equity securities		—			—		—			43			—		—
Federal funds sold and other		82,505			94		0.23			98,644			115		0.24

Total interest-earning assets		933,210			18,370		4.02	%		1,005,218			20,063		4.08	%

Less: Allowance for loan losses		(18,646	)							(26,573	)
Non-interest earning assets		92,948								86,506

Total assets	$	1,007,512							$	1,065,151

LIABILITIES AND STOCKHOLDERS’ EQUITY
Interest-bearing liabilities:
Certificates of deposit and other time deposits	$	585,327		$	2,906		1.00	%	$	656,500		$	4,324		1.33	%
NOW and money market deposits		194,431			352		0.37			171,335			310		0.36
Savings accounts		36,336			41		0.23			37,091			46		0.25
Repurchase agreements		990			1		0.20			2,277			2		0.18
FHLB advances		3,719			51		2.77			4,569			65		2.87
Junior subordinated debentures		29,834			390		2.64			30,734			402		2.64

Total interest-bearing liabilities		850,637			3,741		0.89	%		902,506			5,149		1.15	%

Non-interest-bearing liabilities:
Non-interest-bearing deposits		112,156								110,191
Other liabilities		10,849								15,151

Total liabilities		973,642								1,027,848
Stockholders’ equity		33,870								37,303

Total liabilities and stockholders’ equity	$	1,007,512							$	1,065,151

Net interest income				$	14,629							$	14,914

Net interest spread							3.13	%							2.93	%

Net interest margin							3.21	%							3.04	%

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

(2)	Calculations include non-accruing loans averaging $38.8 million and $79.0 million, respectively, in average loan amounts outstanding.

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

Rate/Volume Analysis

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


	Three Months Ended June 30, 2015 vs. 2014									Six Months Ended June 30 2015 vs. 2014
	Increase (decrease) due to change in									Increase (decrease) due to change in
	Rate			Volume			Net Change			Rate			Volume			Net Change
	(in thousands)
Interest-earning assets:
Loan receivables	$	(279	)	$	(447	)	$	(726	)	$	(182	)	$	(1,110	)	$	(1,292	)
Securities		(148	)		(102	)		(250	)		(212	)		(123	)		(335	)
FHLB stock		(17	)		—			(17	)		(25	)		(20	)		(45	)
Other equity securities		—			—			—			—			—			—
Federal funds sold and other		—			(6	)		(6	)		(3	)		(18	)		(21	)

Total increase (decrease) in interest income		(444	)		(555	)		(999	)		(422	)		(1,271	)		(1,693	)

Interest-bearing liabilities:
Certificates of deposit and other time deposits		(534	)		(189	)		(723	)		(984	)		(434	)		(1,418	)
NOW and money market accounts		(4	)		17			13			—			42			42
Savings accounts		(1	)		(1	)		(2	)		(4	)		(1	)		(5	)
Federal funds purchased and repurchase agreements		1			(1	)		—			—			(1	)		(1	)
FHLB advances		1			(9	)		(8	)		(2	)		(12	)		(14	)
Junior subordinated debentures		2			(6	)		(4	)		—			(12	)		(12	)

Total increase (decrease) in interest expense		(535	)		(189	)		(724	)		(990	)		(418	)		(1,408	)

Increase (decrease) in net interest income	$	91		$	(366	)	$	(275	)	$	568		$	(853	)	$	(285	)

Non-Interest Income – The following table presents the major categories of non-interest income for the three and six months ended June 30, 2015 and 2014:


	For the Three Months Ended June 30,				For the Six Months Ended June 30,
	2015		2014		2015		2014
	(dollars in thousands)
Service charges on deposit accounts	$	475	$	487	$	884	$	955
Bank card interchange fees		229		205		432		366
Other real estate owned rental income		372		18		729		25
Net gain on sales of securities		199		2		1,696		46
Other		290		237		520		472

Total non-interest income	$	1,565	$	949	$	4,261	$	1,864

Non-interest income for the second quarter ended June 30, 2015 increased by $616,000, or 64.9%, compared with the second quarter of 2014. For the six months ended June 30, 2015, non-interest income increased by $2.4 million, or 128.6% to $4.3 million compared with $1.9 million for the same period of 2014.

The increase in non-interest income between the three month comparative periods was primarily due to a $197,000 increase in net gain on sales of investment securities, as well as an increase in OREO rental income. The increase in non-interest income between the six month comparative periods was also primarily due to a $1.7 million increase in net gain on sales of investment securities, as well as an increase in OREO income.

Non-interest Expense – The following table presents the major categories of non-interest expense for the three and six months ended June 30, 2015 and 2014:


	For the Three Months Ended June 30,				For the Six Months Ended June 30,
	2015		2014		2015		2014
	(dollars in thousands)
Salary and employee benefits	$	4,028	$	3,949	$	7,875	$	7,690
Occupancy and equipment		828		896		1,698		1,788
Professional fees		714		484		1,693		773
FDIC insurance		564		571		1,134		1,111
Data processing expense		278		280		582		549
State franchise and deposit tax		285		405		570		830
Other real estate owned expense		2,932		774		3,665		1,436
Loan collection expense		291		1,249		574		1,788
Other		1,114		1,196		2,635		2,341

Total non-interest expense	$	11,034	$	9,804	$	20,426	$	18,306

Non-interest expense for the second quarter ended June 30, 2015 increased $1.2 million, or 12.5%, compared with the second quarter of 2014. For the six months ended June 30, 2015, non-interest expense increased $2.1 million, or 11.6% to $20.4 million compared with $18.3 million for the first six months of 2014. The increases in non-interest expense for the second quarter and six months ended June 30, 2015 were primarily attributable to increased OREO expenses due to fair value write-downs and increased professional fees, offset by decreases in loan collection expenses.

Income Tax Expense – No income tax expense was recorded for the first six months of 2015; an income tax benefit of $1.3 million was recorded for the six months ended June 30, 2014. Our June 30, 2014 tax benefit was entirely due to gains in other comprehensive income that are presented in current operations in accordance with applicable accounting standards. The income tax effect on net loss before taxes for the six months ended June 30, 2015, increased our deferred tax assets and related valuation allowance by $833,000. See discussion in the results of operations above.

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


	For the Three Months Ended June 30,						For the Six Months Ended June 30,
	2015			2014			2015			2014
	(dollars in thousands)
Federal statutory rate times financial statement income	$	(745	)	$	(2,640	)	$	(537	)	$	(2,740	)
Effect of:
Valuation allowance		833			2,691			539			2,879
Tax-exempt income		(66	)		(80	)		(136	)		(162	)
Tax benefit from OCI components		—			(1,307	)		—			(1,307	)
Non-taxable life insurance income		(33	)		(22	)		(57	)		(48	)
Other, net		11			51			191			71

Total	$	—		$	(1,307	)	$	—		$	(1,307	)

Analysis of Financial Condition

Total assets decreased $38.6 million, or 3.8%, to $979.3 million at June 30, 2015, from $1.018 billion at December 31, 2014. This decrease was primarily attributable to a decrease in available for sale securities of $39.0 million, the sale of our loans held for sale of $8.8 million, and a decrease in OREO of $6.7 million, offset by an increase of $25.9 million in net loans receivable. The decrease in available for sale securities was driven by management’s decision during the first six months of 2015 to reduce interest rate risk and credit risk in the available for sale securities portfolio by selling various securities, which resulted in a net gain on sale of approximately $1.7 million. The increase in net loans was due to loan funding outpacing loan payoffs. The decrease in OREO was due sales outpacing additions to the portfolio during the period as well as writedowns resulting from declines in fair value of the real estate based upon reductions in listing prices as well as updated appraisals.

Loans Receivable – Loans receivable increased $23.3 million, or 3.7%, during the six months ended June 30, 2015 to $648.3 million. The increase in loans receivable was attributable to loan funding outpacing loan payoffs by approximately $26.9 million, offset by net charge-offs of $2.6 million and transfers to OREO of $955,000.

Loan Portfolio Composition – The following table presents a summary of the loan portfolio at the dates indicated, net of deferred loan fees, by type. There are no foreign loans in our portfolio. Except for commercial real estate and 1-4 family residential real estate, there is no concentration of loans in any industry exceeding 10% of total loans, with the exception of loans for retail facilities (included in nonfarm nonresidential commercial real estate below). Those loans totaled $67.5 million at June 30, 2015 and $71.1 million at December 31, 2014.


	As of June 30, 2015					As of December 31, 2014
	Amount		Percent			Amount		Percent
	(dollars in thousands)
Commercial	$	78,742		12.13	%	$	60,936		9.75	%
Commercial Real Estate
Construction		39,014		6.02			33,173		5.31
Farmland		77,935		12.02			77,419		12.39
Nonfarm nonresidential		160,518		24.76			175,452		28.07
Residential Real Estate
Multi-family		44,702		6.90			41,891		6.70
1-4 Family		206,564		31.86			197,278		31.56
Consumer		9,958		1.54			11,347		1.82
Agriculture		30,391		4.69			26,966		4.31
Other		497		0.08			537		0.09

Total loans	$	648,321		100.0	%	$	624,999		100.0	%

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


	June 30, 2015					March 31, 2015					December 31, 2014
	Loans		% to Total			Loans		% to Total			Loans		% to Total
								(dollars in thousands)
Pass	$	509,843		78.6	%	$	480,545		76.0	%	$	461,126	$	73.8	%
Watch		67,712		10.4			76,876		12.1			68,200		10.9
Special Mention		1,718		0.3			1,110		0.2			4,189		0.7
Substandard		69,048		10.7			73,897		11.7			91,484		14.6
Doubtful		—		—			—		—			—		—

Total	$	648,321		100.0	%	$	632,428		100.0	%	$	624,999	$	100.0	%

Our loans receivable have increased $23.3 million, or 3.7%, during the six months ended June 30, 2015. All loan risk categories (other than pass loans) have decreased since December 31, 2014. The pass category increased approximately $48.7 million, the watch category decreased approximately $488,000, the special mention category decreased approximately $2.5 million, and the substandard category decreased approximately $22.4 million. The $22.4 million decrease in loans classified as substandard was primarily driven by $23.1 million in principal payments received, $955,000 in migration to OREO, $3.4 million in loans upgraded from substandard, and $3.5 million in charge-offs, offset by $8.5 million in loans moved to substandard during the six months ended June 30, 2015.

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


	June 30, 2015		March 31, 2015		December 31, 2014
			(in thousands)
Past Due Loans:
30-59 Days	$	1,941	$	4,370	$	3,960
60-89 Days		650		1,769		980
90 Days and Over		92		18		151

Total Loans Past Due 30-90+ Days		2,683		6,157		5,091
Nonaccrual Loans		30,215		36,500		47,175

Total Past Due and Nonaccrual Loans	$	32,898	$	42,657	$	52,266

During the six months ended June 30, 2015, nonaccrual loans decreased by $17.0 million to $30.2 million. This decrease was due primarily paydowns of $16.1 million, charge-offs of $3.0 million, and $945,000 transferred to OREO, offset by $3.8 million in loans moved to nonaccrual status. During the six months ended June 30, 2015, loans past due 30-59 days decreased from $4.0 million at December 31, 2014 to $1.9 million at June 30, 2015. Loans past due 60-89 days decreased from $980,000 at December 31, 2014 to $650,000 at June 30, 2015. This represents a $2.3 million decrease from December 31, 2014 to June 30, 2015, in loans past due 30-89 days. We considered this trend in delinquency levels during the evaluation of qualitative trends in the portfolio when establishing the general component of our allowance for loan losses.

Non-Performing Assets – Non-performing assets consist of loans past due 90 days or more still on accrual, loans on which interest is no longer accrued, real estate acquired through foreclosure, and repossessed assets. The following table sets forth information with respect to non-performing assets as of June 30, 2015 and December 31, 2014.


	June 30, 2015			December 31, 2014
	(dollars in thousands)
Loans past due 90 days or more still on accrual	$	92		$	151
Nonaccrual loans		30,215			47,175

Total non-performing loans		30,307			47,326
Real estate acquired through foreclosure		39,545			46,197
Other repossessed assets		—			—

Total non-performing assets	$	69,852		$	93,523

Non-performing loans to total loans		4.67	%		7.57	%
Non-performing assets to total assets		7.13	%		9.19	%
Allowance for non-performing loans	$	1,194		$	1,253
Allowance for non-performing loans to non-performing loans		3.94	%		2.65	%

At June 30, 2015, nonperforming loans were $30.3 million, or 4.67% of total loans, compared with $47.3 million, or 7.57% of total loans at December 31, 2014, and $44.4 million, or 6.90% of total loans at June 30, 2014. Net loan charge-offs in the first six months of 2015 totaled $2.6 million compared to $9.3 million for the first six months of 2014.

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

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

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

At June 30, 2015, we had 45 restructured loans totaling $33.6 million compared with 52 restructured loans totaling $42.5 million at December 31, 2014. In general, these loans were granted interest rate reductions to provide cash flow relief to borrowers experiencing cash flow difficulties. Of these loans, three loans totaling approximately $3.9 million were also granted principal payment deferrals until maturity. There were no concessions made to forgive principal relative to these loans, although we have recorded partial charge-offs for certain restructured loans. In general, these loans are secured by first liens on 1-4 residential or commercial real estate properties, or farmland. Restructured loans also include $945,000 of commercial loans. At June 30, 2015, $18.6 million of our restructured loans were accruing and $15.0 million were on nonaccrual compared with $22.0 million and $20.5 million, respectively, at December 31, 2014. There were no new TDRs during the first six months of 2015 or 2014.

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


	June 30, 2015			December 31, 2014
	(dollars in thousands)
Total non-performing loans	$	30,307		$	47,326
TDRs on accrual		18,548			21,985

Total non-performing loans and TDRs on accrual	$	48,855		$	69,311
Real estate acquired through foreclosure		39,545			46,197
Other repossessed assets		—			—

Total non-performing assets and TDRs on accrual	$	88,400		$	115,508

Total non-performing loans and TDRs on accrual to total loans		7.54	%		11.09	%
Total non-performing assets and TDRs on accrual to total assets		9.03	%		11.35	%

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

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

At June 30, 2015 and December 31, 2014, TDRs totaled $33.6 million and $42.5 million, respectively. During the six months ended June 30, 2015, TDRs were reduced as a result of $7.6 million in payments along with charge-offs of $1.1 million.

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

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

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

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

An analysis of changes in the allowance for loan losses and selected ratios for the three and six month periods ended June 30, 2015 and 2014, and for the year ended December 31, 2014 follows:


	Three Months Ended June 30,						Six Months Ended June 30,						Year Ended December 31,
	2015			2014			2015			2014			2014
	(in thousands)
Balance at beginning of period	$	18,597		$	25,415		$	19,364		$	28,124		$	28,124
Loans charged-off:
Real estate		2,033			7,942			2,884			10,724			17,943
Commercial		99			308			474			454			1,099
Consumer		62			51			130			179			354
Agriculture		37			21			70			30			30
Other		33			1			33			18			—

Total charge-offs		2,264			8,323			3,591			11,405			19,426

Recoveries
Real estate		131			1,540			542			1,739			2,726
Commercial		295			144			401			232			614
Consumer		34			35			60			111			213
Agriculture		2			3			3			9			13
Other		14			19			30			23			—

Total recoveries		476			1,741			1,036			2,114			3,566

Net charge-offs		1,788			6,582			2,555			9,291			15,860

Provision for loan losses		—			6,300			—			6,300			7,100

Balance at end of period	$	16,809		$	25,133		$	16,809		$	25,133		$	19,364

Allowance for loan losses to period-end loans		2.59	%		3.91	%		2.59	%		3.91	%		3.10	%
Net charge-offs to average loans (annualized)		1.12	%		3.90	%		0.80	%		2.72	%		2.39	%
Allowance for loan losses to non-performing loans		55.46	%		56.64	%		55.46	%		56.64	%		40.92	%
Allowance for loan losses for loans individually evaluated for impairment	$	842		$	1,753		$	842		$	1,753		$	752
Loans individually evaluated for impairment		49,011			79,742			49,011			79,742			71,993
Allowance for loan losses to loans individually evaluated for impairment		1.72	%		2.20	%		1.72	%		2.20	%		1.04	%
Allowance for loan losses for loans collectively evaluated for impairment	$	15,967		$	23,380		$	15,967		$	23,380		$	18,612
Loans collectively evaluated for impairment		599,310			563,288			599,310			563,288			553,006
Allowance for loan losses to loans collectively evaluated for impairment		2.66	%		4.15	%		2.66	%		4.15	%		3.37	%

Our loan loss reserve, as a percentage of total loans at June 30, 2015, decreased to 2.59% from 3.91% at June 30, 2014, and from 3.10% at December 31, 2014. The change in our loan loss reserve as a percentage of total loans between periods is attributable to the improving historical loss experience, qualitative factors, improvement in risk grade classification metrics, improving charge-off levels, and improving past due trends. Our allowance for loan losses to non-performing loans was 55.46% at June 30, 2015, compared with 40.92% at December 31, 2014, and 56.64% at June 30, 2014. Net charge-offs in the first six months of 2015 totaled $2.6 million of which $1.9 million were the result of charging off the allowance for individually evaluated loans deemed to be collateral dependent during the period.

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


	Six Months Ended June 30, 2015		Year Ended December 31, 2014			Year Ended December 31, 2013
	(in thousands)
Commercial	$	73	$	485		$	1,616
Commercial Real Estate		1,395		11,878			20,045
Residential Real Estate		947		3,339			7,212
Consumer		70		167			507
Agriculture		67		17			(124	)
Other		3		(26	)		—

Total net charge-offs	$	2,555	$	15,860		$	29,256

The majority of our nonperforming loans are secured by real estate collateral, and the underlying collateral coverage for nonperforming loans supports the likelihood of collection of our principal. We have assessed these loans for collectability and considered, among other things, the borrower’s ability to repay, the value of the underlying collateral, and other market conditions to ensure the allowance for loan losses is adequate to absorb probable incurred losses. Our allowance for non-performing loans to non-performing loans was $1.2 million or 3.94% at June 30, 2015 compared with $1.3 million or 2.65% at December 31, 2014, and $1.5 million or 3.28% at June 30, 2014 as non-performing loan trends continue to improve.

The following table presents the unpaid principal balance, recorded investment and allocated allowance related to loans individually evaluated for impairment in the commercial real estate and residential real estate portfolios as of June 30, 2015 and December 31, 2014.


	June 30, 2015						December 31, 2014
	Commercial Real Estate			Residential Real Estate			Commercial Real Estate			Residential Real Estate
	(in thousands)
Unpaid principal balance	$	42,316		$	22,444		$	65,899		$	24,633
Prior charge-offs		(14,838	)		(2,716	)		(17,758	)		(3,249	)

Recorded investment		27,478			19,728			48,141			21,384
Allocated allowance		(671	)		(170	)		(491	)		(227	)

Recorded investment, less allocated allowance	$	26,807		$	19,558		$	47,650		$	21,157

Recorded investment, less allocated allowance/ Unpaid principal balance		63.35	%		87.14	%		72.31	%		85.89	%

Based on previous charge-offs, our current recorded investment in the commercial real estate and residential real estate segments is significantly below the unpaid principal balance for these loans. The recorded investment and allocated allowance were 63.35% and 87.14% of the unpaid principal balance in the commercial real estate and residential real estate segments of the portfolio, respectively, at June 30, 2015.

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


	June 30, 2015							March 31, 2015							December 31, 2014
	Loans		Allowance		% to Total			Loans		Allowance		% to Total			Loans		Allowance		% to Total
Commercial	$	77,187	$	1,945		2.52	%	$	75,277	$	2,044		2.72	%	$	58,914	$	2,013		3.42	%
Commercial real estate		249,989		8,542		3.42			241,286		10,629		4.41			237,903		10,440		4.39
Residential real estate		231,538		4,890		2.11			220,229		5,021		2.28			217,785		5,560		2.55
Consumer		9,938		226		2.27			10,799		243		2.25			11,286		273		2.42
Agriculture		30,161		359		1.19			28,441		391		1.37			26,703		319		1.19
Other		497		5		1.01			1,097		15		1.37			415		7		1.69

Total	$	599,310	$	15,967		2.66	%	$	577,129	$	18,343		3.18	%	$	553,006	$	18,612		3.37	%

Our allowance for loan losses for loans collectively evaluated for impairment declined to 2.66% at June 30, 2015 from 4.15% at June 30, 2014 and 3.37% at December 31, 2014. This decline was driven primarily by an improving loan risk category classification mix and volume as well as improving historical loss trends which are key factors for estimating general reserves. Other factors include the consideration of growth, composition and diversification of our loan portfolio, current delinquency levels, the results of recent regulatory communications and general economic conditions.

Provision for Loan Losses – Because of ongoing improvements in asset quality and management’s assessment of risk in the loan portfolio, no provision for loan losses was recorded in the first six months of 2015, compared to $6.3 million in the first six months of 2014. All loan risk categories (other than pass loans) have decreased since December 31, 2014. The pass category increased approximately $48.7 million, the watch category decreased approximately $488,000, the special mention category declined approximately $2.5 million, and the substandard category declined approximately $22.4 million. The decrease in the allowance is consistent with the decrease in our classified loans by $69.7 million from June 30, 2014 to June 30, 2015 and our loan charge-off trends. Net charge-offs were $2.6 million for the six months ended June 30, 2015, compared with $9.3 million for June 30, 2014. We consider the size and volume of our portfolio as well as the credit quality of our loan portfolio based upon risk category classification when determining the loan loss provision for each period and the allowance for loan losses at period end.

Foreclosed Properties – Foreclosed properties at June 30, 2015 were $39.5 million compared with $56.9 million at June 30, 2014 and $46.2 million at December 31, 2014. See “Note 5—Other Real Estate Owned,” of the notes to the financial statements. During the first six months of 2015, we acquired $955,000 of OREO properties, and sold properties totaling approximately $5.0 million. We value foreclosed properties at fair value less estimated costs to sell when acquired and expect to liquidate these properties to recover our investment in the due course of business.

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

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

Net gain (loss) on sales, write-downs, and operating expenses for OREO totaled $3.7 million for the six months ended June 30, 2015, compared with $1.4 million for the same period of 2014. During the six months ended June 30, 2015, fair value write-downs of $2.6 million were recorded to reflect declines in the fair value of the real estate based upon reductions in listing prices for certain properties as well as updated appraisals, compared with $650,000 for the six months ended June 30, 2014.

OREO expenses may be elevated in future periods given the current size of the OREO portfolio as we work to sell these properties. Additionally, nonaccrual loans totaled $30.2 million at June 30, 2015, and we expect to resolve many of these loans by foreclosure which could result in further additions to our OREO portfolio.

Liabilities – Total liabilities at June 30, 2015 were $949.3 million compared with $984.5 million at December 31, 2014, a decrease of $35.2 million, or 3.6%. This decrease was primarily attributable to a decrease in Federal Home Loan Bank advances of $12.3 million, and a decrease in deposits of $22.7 million from $926.8 million at December 31, 2014 to $904.2 million at June 30, 2015. Federal Home Loan Bank advances are used from time to time to fund asset growth and manage interest rate risk in accordance with our asset/liability management strategies.

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


	For the Six Months Ended June 30, 2015					For the Year Ended December 31, 2014
	Average Balance		Average Rate			Average Balance		Average Rate
	(dollars in thousands)
Demand	$	112,156				$	113,150
Interest checking		88,701		0.13	%		83,504		0.15	%
Money market		105,730		0.56			96,194		0.55
Savings		36,336		0.23			36,803		0.24
Certificates of deposit		585,327		1.00			632,020		1.29

Total deposits	$	928,250		0.72	%	$	961,671		0.92	%

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


	For the Six Months Ended June 30, 2015					For the Year Ended December 31, 2014
	Average Balance		Average Rate			Average Balance		Average Rate
	(dollars in thousands)
Less than $100,000	$	319,814		0.97	%	$	354,250		1.22	%
$100,000 or more		265,513		1.04			277,770		1.37

Total	$	585,327		1.00	%	$	632,020		1.29	%

The following table shows at June 30, 2015 the amount of our time deposits of $100,000 or more by time remaining until maturity (in thousands):


Maturity Period
Three months or less	$	54,054
Three months through six months		53,504
Six months through twelve months		42,637
Over twelve months		106,377

Total	$	256,572

Liquidity

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

Funds are available from a number of sources, including the sale of securities in the available for sale portion of the investment portfolio, principal pay-downs on loans and mortgage-backed securities, customer deposit inflows, and other wholesale funding. Our available for sale investment portfolio totaled $151.8 million at June 30, 2015 and within that portfolio, $66.4 million of our securities currently have an unrealized loss of $1.1 million.

Traditionally, we have borrowed from the FHLB to supplement our funding requirements. The advances are collateralized by first mortgage residential loans. The borrowing capacity is based on the market value of the underlying pledged loans. At June 30, 2015, our additional borrowing capacity with the FHLB was $23.8 million. Any new advances are limited to a one year maturity or less. The availability of our borrowing capacity could be affected by our financial condition and the FHLB could require additional collateral or, among other things, exercise its right to deny a funding request, at its discretion.

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

We use cash to pay dividends on common stock, if and when declared by the Board of Directors, and to service debt. The main sources of funding for the Company include dividends paid by the Bank and financing obtained in the capital markets. During 2011, Porter Bancorp contributed $13.1 million to its subsidiary, the Bank, which substantially decreased its liquid assets. The contribution was made to strengthen the Bank’s capital in an effort to help it comply with its capital ratio requirements under the consent order. The Company’s liquid assets decreased from $20.3 million at December 31, 2010, to $1.3 million at June 30, 2015. Since the Bank is unlikely to be in a position to pay dividends to the parent company for the foreseeable future, cash inflows for the parent are limited to earnings on investment securities, sales of investment securities, and interest on deposits with the Bank. Ongoing cash operating expenses of the parent company are expected to be approximately $1.0 million for 2015. We have elected to defer payments on our trust preferred securities.

Capital

In the fourth quarter of 2011, we began deferring interest payments on our junior subordinated notes, which resulted in a deferral of distributions on our trust preferred securities. Therefore, we will not be able to pay cash dividends on our common shares until such time that we have paid all deferred distributions on our trust preferred securities. If we defer interest payments on our trust preferred securities for 20 consecutive quarters (through September 30, 2016), we must pay all deferred interest or we will be in default. At June 30, 2015, cumulative accrued and unpaid interest on our junior subordinated notes totaled $2.5 million.

Stockholders’ equity decreased $3.4 million to $30.0 million at June 30, 2015, compared with $33.5 million at December 31, 2014 due to current year net loss of $1.5 million, and a decrease in the fair value of our available for sale securities portfolio of $2.1 million.

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

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


										June 30, 2015						December 31, 2014
	Regulatory Minimums			Well-Capitalized Minimums			Minimum Capital Ratios Under Consent Order			Porter Bancorp			PBI Bank			Porter Bancorp			PBI Bank
Tier 1 Capital		6.0	%		8.0	%		N/A			6.02	%		8.43	%		6.70	%		8.59	%
Common equity Tier I capital		4.5			6.5			N/A			4.42			8.43			N/A			N/A
Total risk-based capital		8.0			10.0			12.0	%		10.25			10.34			10.61			10.57
Tier 1 leverage ratio		4.0			5.0			9.0			4.25			5.95			4.51			5.78

At June 30, 2015, the Bank’s Tier 1 leverage ratio was 5.95%, and its total risk-based capital ratio was 10.34%, both of which are below the minimum capital ratios required by the Consent Order. Failure to meet minimum capital requirements could result in additional discretionary actions by regulators that, if undertaken, could have a materially adverse effect on our financial condition.

Item 3. Quantitative and Qualitative Disclosures about Market Risk

The Company’s interest sensitivity profile was liability sensitive at June 30, 2015 and December 31, 2014. Given a 100 basis point increase in interest rates sustained for one year, base net interest income would decrease by an estimated 2.09% at June 30, 2015, compared with a decrease of 3.15% at December 31, 2014, and is within the risk tolerance parameters of our risk management policy. Given a 200 basis point increase in interest rates sustained for one year, base net interest income would decrease by an estimated 3.68% at June 30, 2015, compared with a decrease of 5.86% at December 31, 2014, and is within the risk tolerance parameters of our risk management policy.

The following table indicates the estimated impact on net interest income under various interest rate scenarios for the twelve months following June 30, 2015, as calculated using the static shock model approach:


	Change in Future Net Interest Income
	Dollar Change			Percentage Change
	(dollars in thousands)
+ 200 basis points	$	(1,052	)		(3.68	)%
+ 100 basis points		(599	)		(2.09	)

We did not run a model simulation for declining interest rates as of June 30, 2015 because the Federal Reserve effectively lowered the federal funds target rate from between 0.00% to 0.25% in December 2008. Therefore, no significant further short-term rate reductions can occur.

Item 4. Controls and Procedures

Management is responsible for establishing and maintaining effective disclosure controls and procedures, as defined under Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934. As of June 30, 2015, an evaluation was performed under the supervision and with the participation of management, including the Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures.

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

These enhanced controls, procedures, and process improvements include:

•

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

•

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

•

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

During the fourth quarter of 2014, we took steps to resolve the material weakness by changing our controls, procedures, and processes for recording other real estate owned at estimated fair value less cost to sell, as discussed above. Notwithstanding the steps taken during the fourth quarter of 2014, the identified material weakness will not be considered remediated until the new procedures have been in operation for a sufficient period of time to be tested and determined by management to be operating effectively. Transfers to other real estate owned totaled $955,000 for the six months ended June 30, 2015. Given this relatively low level of activity and our ongoing evaluation, management, including our Chief Executive Officer and our Chief Financial Officer, concluded that our disclosure controls and procedures were not effective as of the end of the period covered by this report. There were no other changes in our internal control over financial reporting that occurred during the six months ended June 30, 2015 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

PART II – OTHER INFORMATION

Item 1. Legal Proceedings

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

Item 1A. Risk Factors

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

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

Not applicable.

Item 3. Default Upon Senior Securities

Not applicable.

Item 4. Mine Safety Disclosures

Not applicable.

Item 5. Other Information

On July 22, 2015, the board of directors of Porter Bancorp, Inc. adopted a proposed amendment to the Company’s articles of incorporation that will be submitted for the approval of the Company’s shareholders at a special meeting expected to be held in September 2015.

The proposed amendment, referred to as the “NOL Protective Amendment,” is intended to assist in protecting the long-term value of the Company’s accumulated tax benefits by limiting direct or indirect transfers of our common shares that could result in an “ownership change” under Section 382 of the Internal Revenue Code, which would impair those tax benefits. The proposed NOL Protective Amendment includes a mechanism to block the impact of such transfers while allowing purchasers to receive their money back from prohibited purchases.

As June 30, 2015, the Company had approximately $51.9 million of net deferred tax assets related to net operating losses that we have generated but not yet realized for federal tax purposes. If an ownership change were to occur, the limitations imposed by Section 382 could result in a material amount of our tax benefits expiring unused. This would significantly impair the value of our tax benefits.

In connection with the adoption of the proposed NOL Protective Amendment, the board of directors also amended the Company’s Tax Benefits Preservation Plan to provide that the Plan will no longer expire if the proposed amendment is approved by shareholders. Because there are limitations on the ability of the NOL Protective Amendment to prevent an ownership change, and the Tax Benefits Preservation Plan may deter, but ultimately cannot block, transfers of our common shares that might result in an ownership change, the Board believes that both measures are needed to help prevent an ownership change under Section 382 that would materially inhibit our ability to use our tax assets to reduce our future income tax liability.

As amended, the Tax Benefits Preservation Plan provides that the Rights created by and distributed to shareholders pursuant to the Plan will expire on the earliest of:

•

June 29, 2018;

•

the time at which all Rights are redeemed or exchanged;

•

the first day of a taxable year of the Company as to which the Board determines that no Tax Benefits may be carried forward;

•

a date on which the Board determines that a limitation on the use of the Tax Benefits under Section 382 would no longer be material to the Company, provided that such date is prior to public disclosure that a person became an Acquiring Person; and

•

the repeal or amendment of Section 382 or any successor statute, if the Board determines that the Plan is no longer necessary for the preservation of Tax Benefits.

The Company’s Current Report on Form 8-K filed on June 29, 2015 includes a detailed description of the terms of the Tax Benefits Preservation Plan. The Tax Benefits Preservation Plan, is included as Exhibit 4.1 to this Quarterly Report on Form 10-Q and Amendment No. 1 to the Plan filed on August 5, 2015 is included as Exhibit 4.2.

Additional Information for Shareholders

Porter Bancorp will distribute a proxy statement and other related information to its shareholders in connection with the special meeting of shareholders at which the proposed NOL Protective Amendment will be considered. Investors and security holders are urged to read the proxy statement when it becomes available (and any other documents filed with the SEC in connection with the special meeting or incorporated by reference into the proxy statement) because such documents will contain important information regarding the proposed NOL Protective Amendment. Investors and security holders may obtain free copies of these and other documents filed with the SEC on the SEC’s website at http://www.sec.gov. Investors and security holders may also obtain free copies of the documents filed with the SEC by Porter Bancorp at the Company’s website at http://www.pbibank.com or by contacting Phillip Barnhouse by telephone at (502) 499-4800.

Porter Bancorp and its directors and executive officers may be deemed to be participants in the solicitation of proxies from the Company’s shareholders in connection with the proposed NOL Protective Amendment. Information about the directors and executive officers of Porter Bancorp is set forth in the proxy statement for the Company’s 2015 annual meeting of shareholders filed with the SEC on April 20, 2015. Additional information regarding the interests of these participants and other persons who may be deemed participants may be obtained by reading the proxy statement regarding the proposed NOL Protective Amendment when the proxy statement becomes available.

Item 6. Exhibits

(a) Exhibits

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


Exhibit Number		Description of Exhibit

4.1		Tax Benefits Preservation Plan, dated as of June 25, 2015, between Porter Bancorp, Inc. and American Stock Transfer Company, as Rights Agent. Exhibit 3.1 to Form 8-K filed June 29, 2015 is incorporated by reference.

4.2		Amendment No. 1 to the Tax Benefits Preservation Plan, dated August 5, 2015.

10.1		Porter Bancorp, Inc. 2015 Incentive Compensation Bonus Plan incorporated by reference in the Definitive Proxy Statement filed April 17, 2015.

31.1		Certification of Principal Executive Officer, pursuant to Rule 13a - 14(a).

31.2		Certification of Principal Financial Officer, pursuant to Rule 13a - 14(a).

32.1		Certification of Principal Executive Officer, pursuant to 18 U.S.C Section 1350, as adopted

		pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

32.2		Certification of Principal Financial Officer, pursuant to 18 U.S.C Section 1350, as adopted

		pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

101		The following financial statements from the Company’s Quarterly Report on Form 10Q for the quarter ended June 30, 2015, formatted in XBRL: (i) Consolidated Balance Sheets, (ii) Consolidated Statements of Operations, (iii) Consolidated Statements of Comprehensive Income (Loss), (iv) Consolidated Statement of Changes in Stockholders’ Equity, (v) Consolidated Statements of Cash Flows, (vi) Notes to Consolidated Financial Statements.

SIGNATURES

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


	PORTER BANCORP, INC.
	(Registrant)

August 5, 2015	By:	/s/ John T. Taylor
		John T. Taylor
		Chief Executive Officer

August 5, 2015	By:	/s/ Phillip W. Barnhouse
		Phillip W. Barnhouse
		Chief Financial Officer