PATRIOT NATIONAL BANCORP INC - Quarter Report: 2019 March (Form 10-Q)

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

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FORM 10-Q

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

 

For the quarterly period ended March 31, 2019

 

OR

 

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

 

For the transition period from ______ to ______

 

Commission file number 000-29599

 

 PATRIOT NATIONAL BANCORP, INC.

 

(Exact name of registrant as specified in its charter)

 

Connecticut		06-1559137
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)
900 Bedford Street, Stamford, Connecticut		06901
(Address of principal executive offices)		(Zip Code)

(203) 324-7500

(Registrant’s telephone number, including area code)

 

 

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

 

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

 

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

 

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

 

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

 

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

 

APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY

 PROCEEDINGS DURING THE PRECEDING FIVE YEARS: 

 

Indicate by check mark whether the registrant has filed all documents and reports to be filed by Section 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court.    Yes   ☐    No   ☐ 

 

 

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

 

Title of each class		Trading Symbol(s)		Name of each exchange on which registered
Common Stock		PNBK		NASDAQ Global Market

 

APPLICABLE ONLY TO CORPORATE ISSUERS:

 

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

 

As of May 10, 2019, there were 3,921,910 shares of the registrant’s common stock outstanding.

 

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Table of Contents

 

Table of Contents			2
PART I- FINANCIAL INFORMATION			3
	Item 1: Consolidated Financial Statements		3
		Consolidated Balance Sheets (Unaudited)	3
		Consolidated Statements of Income (Unaudited)	4
		Consolidated Statements of Comprehensive (Loss) Income  (Unaudited)	5
		Consolidated Statements of Shareholder's Equity (Unaudited)	6
		Consolidated Statements of Cash Flows (Unaudited)	7
		Note to Consolidated Financial Statements (Unaudited)	9
	Item 2: Management's Discussion and Analysis of Financial Condition and Results of Operations		39
	Item 3: Quantitative and Qualitative Disclosures about Market Risk		51
	Item 4: Disclosure Controls and Procedures		53
PART II - OTHER INFORMATION			54
	Item 1: Legal Proceedings		54
	Item 5: Other Information		54
	Item 6: Exhibits		55
	SIGNATURES		57

 

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(In thousands, except share data)		March 31, 2019				December 31, 2018
ASSETS
Cash and due from banks:
Noninterest bearing deposits and cash		$	6,661				7,381
Interest bearing deposits			49,971				59,056
Total cash and cash equivalents			56,632				66,437
Investment securities:
Available-for-sale securities, at fair value			40,275				39,496
Other investments, at cost			4,963				4,963
Total investment securities			45,238				44,459
Federal Reserve Bank stock, at cost			2,892				2,866
Federal Home Loan Bank stock, at cost			4,513				4,928
Loans receivable (net of allowance for loan losses: 2019: $7,823, 2018: $7,609)			780,713				772,767
Accrued interest and dividends receivable			3,621				3,766
Premises and equipment, net			35,335				35,435
Other real estate owned			2,945				2,945
Deferred tax asset, net			10,357				10,851
Goodwill			1,107				1,728
Core deposit intangible, net			680				698
Other assets			9,075				4,816
Total assets		$	953,108				951,696
Liabilities
Deposits:
Noninterest bearing deposits		$	82,248				84,471
Interest bearing deposits			670,573				658,810
Total deposits			752,821				743,281
Federal Home Loan Bank and correspondent bank borrowings			90,000				100,000
Senior notes, net			11,796				11,778
Subordinated debt, net			9,731				9,723
Junior subordinated debt owed to unconsolidated trust, net			8,096				8,094
Note payable			1,339				1,388
Advances from borrowers for taxes and insurance			1,922				2,926
Accrued expenses and other liabilities			7,754				5,166
Total liabilities			883,459				882,356
Commitments and Contingencies
Shareholders' equity
Preferred stock, no par value; 1,000,000 shares authorized, no shares issued and outstanding			-				-
Common stock, $.01 par value, 100,000,000 shares authorized; 2019: 3,993,351 shares issued; 3,919,610 shares outstanding. 2018: 3,984,415 shares issued; 3,910,674 shares outstanding			40				40
Additional paid-in capital			107,143				107,095
Accumulated deficit			(35,517	)			(35,790	)
Less: Treasury stock, at cost: 2019 and 2018, 73,741 and 73,741 shares, respectively			(1,179	)			(1,179	)
Accumulated other comprehensive loss			(838	)			(826	)
Total shareholders' equity			69,649				69,340
Total liabilities and shareholders' equity		$	953,108				951,696

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		Three Months Ended March 31,
(In thousands, except per share amounts)		2019				2018
Interest and Dividend Income
Interest and fees on loans		$	9,741				8,774
Interest on investment securities			385				266
Dividends on investment securities			118				121
Other interest income			327				151
Total interest and dividend income			10,571				9,312
Interest Expense
Interest on deposits			3,264				1,657
Interest on Federal Home Loan Bank borrowings			439				257
Interest on senior debt			229				229
Interest on subordinated debt			289				99
Interest on note payable and other			6				7
Total interest expense			4,227				2,249
Net interest income			6,344				7,063
Provision for Loan Losses			165				185
Net interest income after provision for loan losses			6,179				6,878
Non-interest Income
Loan application, inspection and processing fees			14				8
Deposit fees and service charges			127				134
Gains on sales of loans			456				-
Rental Income			130				84
Other income			95				96
Total non-interest income			822				322
Non-interest Expense
Salaries and benefits			3,184				2,769
Occupancy and equipment expense			917				741
Data processing expense			370				317
Professional and other outside services			771				572
Merger and tax initiative project expenses			80				523
Advertising and promotional expense			115				78
Loan administration and processing expense			14				13
Regulatory assessments			315				252
Insurance expense			41				55
Communications, stationary and supplies			134				113
Other operating expense			569				358
Total non-interest expense			6,510				5,791
Income before income taxes			491				1,409
Provision for Income Taxes			168				344
Net income		$	323				1,065
Basic earnings per share		$	0.08				0.27
Diluted earnings per share		$	0.08				0.27

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(In thousands)		Three Months Ended March 31,
		2019				2018
Net income		$	323				1,065
Other comprehensive income
Unrealized holding loss on securities			(15	)			(307	)
Income tax effect			3				83
Total other comprehensive loss			(12	)			(224	)
Comprehensive income		$	311				841

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(In thousands, except shares)		Number of Shares				Common Stock				Additional Paid-in Capital				Accumulated Deficit				Treasury Stock				Accumulated Other Comprehensive (Loss) Income				Total
Balance at December 31, 2018			3,910,674			$	40				107,095				(35,790	)			(1,179	)			(826	)			69,340
Comprehensive income:
Net income			-				-				-				323				-				-				323
Unrealized holding loss on available-for-sale securities, net of tax			-				-				-				-				-				(12	)			(12	)
Total comprehensive income			-				-				-				323				-				(12	)			311
Common stock dividends			-				-				-				(39	)			-				-				(39	)
Share-based compensation expense			-				-				48				-				-				-				48
Vesting of restricted stock			8,936				-				-				-				-				-				-
Cumulative effect of adopting ASU 2016-02			-				-				-				(11	)			-				-				(11	)
Balance at March 31, 2019			3,919,610			$	40				107,143				(35,517	)			(1,179	)			(838	)			69,649
Balance at December 31, 2017			3,899,675			$	40				106,875				(38,832	)			(1,179	)			(155	)			66,749
Comprehensive income:
Net income			-				-				-				1,065				-				-				1,065
Unrealized holding loss on available-for-sale securities, net of tax			-				-				-				-				-				(224	)			(224	)
Total comprehensive income			-				-				-				1,065				-				(224	)			841
Common stock dividends			-				-				-				(38	)			-				-				(38	)
Share-based compensation expense			-				-				53				-				-				-				53
Vesting of restricted stock			2,935				-				-				-				-				-				-
Balance at March 31, 2018			3,902,610			$	40				106,928				(37,805	)			(1,179	)			(379	)			67,605

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(In thousands)		Three Months Ended March 31,
		2019				2018
Cash Flows from Operating Activities:
Net income		$	323				1,065
Adjustments to reconcile net income to net cash provided by operating activities:
(Accretion) amortization of investment premiums, net			(11	)			13
Amortization and accretion of purchase loan premiums and discounts			174				176
Amortization of debt issuance costs			28				21
Amortization of core deposit intangible			18				-
Provision for loan losses			165				185
Depreciation and amortization			389				350
Share-based compensation			48				53
Decrease (increase) in deferred income taxes			497				(855	)
Changes in assets and liabilities:
Decrease (increase) in accrued interest and dividends receivable			145				(9	)
(Increase) decrease in other assets			(862	)			102
(Decrease) increase in accrued expenses and other liabilities			(479	)			574
Net cash provided by operating activities			435				1,675
Cash Flows from Investing Activities:
Principal repayments on available-for-sale securities			613				463
Purchases of available-for-sale securities			(1,396	)			-
Purchases of Federal Reserve Bank stock			(26	)			(24	)
Redemptions of Federal Home Loan Bank stock			415				-
Increase in originated loans receivable, net			(3,481	)			(5,081	)
Purchases of loans receivable			(4,804	)			-
Purchase of premises and equipment			(9	)			(630	)
Escrow deposit for pending acquisition			-				(500	)
Net cash used in investing activities			(8,688	)			(5,772	)
Cash Flows from Financing Activities:
Increase in deposits, net			9,540				17,859
Repayments of FHLB borrowings			(10,000	)			-
Principal repayments of note payable			(49	)			(48	)
Decrease in advances from borrowers for taxes and insurance			(1,004	)			(925	)
Dividends paid on common stock			(39	)			(38	)
Net cash (used) provided by financing activities			(1,552	)			16,848
Net (decrease) increase in cash and cash equivalents			(9,805	)			12,751
Cash and cash equivalents at beginning of period			66,437				48,729
Cash and cash equivalents at end of period		$	56,632				61,480

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(In thousands)		Three Months Ended March 31,
		2019				2018
Supplemental Disclosures of Cash Flow Information:
Cash paid for interest		$	3,950				1,844
Cash paid for income taxes		$	18				125
Purchase of premises and equipment		$	280				-
Increase in accrued expense and other liabilities			(280	)			-
		$	-				-
Initial recognition of operating lease right-of-use assets		$	3,397				-
Initial recognition of operating lease liabilities		$	3,444				-
Contingent liability assumed in business combination		$	621				-

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Note 1:     Basis of Financial Statement Presentation

 

The accompanying unaudited condensed consolidated financial statements of Patriot National Bancorp, Inc. (the “Company”) and its wholly-owned subsidiary Patriot Bank, N.A. (the “Bank”) (collectively, “Patriot”), have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”). Accordingly, certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America (“US GAAP”) have been omitted. The accompanying unaudited interim condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto included on the Annual Report on Form 10-K for the year ended December 31, 2018.

 

The Consolidated Balance Sheet at December 31, 2018 presented herein has been derived from the audited consolidated financial statements of the Company at that date, but does not include all of the information and footnotes required by US GAAP for complete financial statements.

 

On May 10, 2018 the Bank completed its acquisition of Prime Bank, a Connecticut bank headquartered in Orange, CT (“Prime Bank”). The closing of the transaction added a new Patriot branch located in the Town of Orange, New Haven County, Connecticut. The results of Prime Bank’s operations are included in the Company’s Consolidated Financial Statements from the date of acquisition.

 

The preparation of consolidated financial statements in accordance with US GAAP requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses, and to disclose contingent assets and liabilities. Actual results could differ from those estimates. Management has identified accounting for the allowance for loan and lease losses, the analysis and valuation of its investment securities, the valuation of deferred tax assets, accounting for the business combination, and accounting for leases as certain of Patriot’s more significant accounting policies and estimates, in that they are critical to the presentation of Patriot’s financial condition and results of operations. As they concern matters that are inherently uncertain, these estimates require management to make subjective and complex judgments in the preparation of Patriot’s Consolidated Financial Statements.

 

Certain prior period amounts have been reclassified to conform to current year presentation.

 

The information furnished reflects, in the opinion of management, all normal recurring adjustments necessary for a fair presentation of the results for the interim periods presented. The results of operations for the three months ended March 31, 2019 are not necessarily indicative of the results of operations that may be expected for the remainder of 2019.

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Note 2:     Recent Accounting Pronouncements     

 

Accounting Standards Adopted During 2019

 

Effective January 1, 2019, the following new Accounting Standards Update (ASU) was adopted by the Company:

 

ASU 2016-02

In February 2016, the FASB issued ASU No. 2016-02, Leases. This ASU was issued to improve the financial reporting of leasing activities and provide a faithful representation of leasing transactions and improve understanding and comparability of a lessee's financial statements. The amendments in this ASU require lessees to recognize, on the balance sheet, assets and liabilities for the rights and obligations created by leases. Accounting by lessors will remain largely unchanged. In July 2018, the FASB issued a subsequent update which introduced a new transition method, under this new transition method, an entity initially applies the new leases standard at the adoption date and recognizes a cumulative-effect adjustment to the opening balance of retained earnings in the period of adoption. The guidance was effective for the Company on January 1, 2019, with early adoption permitted. Management elected the transition practical expedient option. The cumulative-effect adjustment was an increase to the opening balance of accumulated deficit at the time of adoption on January 1, 2019. The Company recognized $3.4 million of right-of-use (“ROU”) assets and $3.4 million lease liabilities for operating leases on its Consolidated Balance Sheets. The standard did not have an impact on its Consolidated Income Statements.

 

Accounting Standards Issued But Not Yet Adopted

 

ASU 2016-13 

In June 2016, the FASB issued ASU 2016-13, Financial Instruments-Credit Losses: Measurement of Credit Losses on Financial Instruments. The ASU changes the methodology for measuring credit losses on financial instruments measured at amortized cost to a current expected loss (“CECL”) model. Under the CECL model, entities will estimate credit losses over the entire contractual term of a financial instrument from the date of initial recognition of the instrument. The ASU also changes the existing impairment model for available-for-sale debt securities. In cases where there is neither the intent nor a more-likely-than-not requirement to sell the debt security, an entity will record credit losses as an allowance rather than a direct write-down of the amortized cost basis. Additionally, ASU 2016-13 notes that credit losses related to available-for-sale debt securities and purchased credit impaired loans should be recorded through an allowance for credit losses. ASU 2016-13 is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years, with early adoption permitted for fiscal years beginning after December 15, 2018. Management is currently evaluating the impact that the standard will have on its Consolidated Financial Statements.

 

ASU 2017-04

In January 2017, the FASB issued ASU 2017-04, Intangibles-Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment: The objective of this guidance is to simplify an entity’s required test for impairment of goodwill by eliminating Step 2 from the goodwill impairment test. In Step 2 an entity measured a goodwill impairment loss by comparing the implied fair value of a reporting unit’s goodwill with the carrying amount of that goodwill. In computing the implied fair value of goodwill, an entity had to determine the fair value at the impairment date of its assets and liabilities, including any unrecognized assets and liabilities, following a procedure that would be required in determining the fair value of assets acquired and liabilities assumed in a business combination. Under this Update, an entity should perform its annual or quarterly goodwill impairment test by comparing the fair value of the reporting unit with its carrying amount and record an impairment charge for the excess of the carrying amount over the reporting unit’s fair value. The loss recognized should not exceed the total amount of goodwill allocated to the reporting unit and the entity must consider the income tax effects from any tax deductible goodwill on the carrying amount of the reporting unit when measuring the goodwill impairment loss, if applicable. This guidance is effective for a public business entity that is an SEC filer for its annual or any interim goodwill impairment tests in fiscal years beginning after December 15, 2019. The adoption of this standard is not expected to have a material impact on the Company’s Consolidated Financial Statements.

 

 

PATRIOT NATIONAL BANCORP, INC. AND SUBSIDIARY

Notes to consolidated financial statements (Unaudited)

 

ASU 2017-08

In March 2017, the FASB issued ASU 2017-08, Premium Amortization on Purchased Callable Debt Securities, which amends the amortization period for certain purchased callable debt securities held at a premium, shortening such period to the earliest call date. The ASU is effective for public business entities for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018. For all other entities, the ASU is effective for fiscal years beginning after December 15, 2019, and interim periods within fiscal years beginning after December 15, 2020. Earlier application is permitted for all entities, including adoption in an interim period. If an entity early adopts the ASU in an interim period, any adjustments must be reflected as of the beginning of the fiscal year that includes that interim period. Management is currently evaluating the impact the adoption of ASU 2017-08 will have on its Consolidated Financial Statements.

 

ASU 2017-12

"Derivatives and Hedging (Topic 815): Targeted Improvements to Accounting for Hedging Activities." ASU 2017-12 was issued to ease the burden associated with assessing hedge effectiveness and to promote better financial statement alignment of the recognition and presentation of the effects of the hedging instrument and the hedged item. This guidance requires entities to present the earnings effect of the hedging instrument in the same income statement line item with the earnings effect on the hedged item. In October 2018, FASB issued ASU 2018-16, "Derivatives and Hedging (Topic 815): Inclusion of the Secured Overnight Financial Rate (SOFR) Overnight Index Swap (OIS) Rate as a Benchmark Interest Rate for Hedge Accounting Purposes." ASU 2018-16 was issued to expand the list of benchmark interest rates for hedge accounting. The effective date for the amendment is the same as the effective date for ASU 2017-12. For public business entities, ASU 2017-12 is effective for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years. ASU 2017-12 and ASU 2018-16 are not expected to have any impact on the Consolidated Financial Statements.

 

ASU 2018-13

In August 2018, the FASB issued ASU No. 2018-13, Fair Value Measurement (Topic 820) - Changes to the Disclosure Requirements for Fair Value Measurement, to modify the disclosure requirements on fair value measurements. This ASU removes requirements to disclose the amount of and reasons for transfers between Level 1 and Level 2 of the fair value hierarchy, the policy for timing of transfers between levels and the valuation processes for Level 3 fair value measurements. ASU 2018-13 clarifies that disclosure regarding measurement uncertainty is intended to communicate information about the uncertainty in measurement as of the reporting date. ASU 2018-13 adds certain disclosure requirements, including disclosure of changes in unrealized gains and losses for the period included in other comprehensive income for recurring Level 3 fair value measurements held at the end of the reporting period and the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements. The amendments in this update are effective for annual periods and interim periods within those annual periods beginning after December 15, 2019. The amendments on changes in unrealized gains and losses, the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements and the narrative description of measurement uncertainty should be applied prospectively, while all other amendments should be applied retrospectively for all periods presented upon their effective date. Management is currently evaluating the impact of adopting the new guidance on the Consolidated Financial Statements, but it is not expected to have a material impact.

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Note 3: Available-for-Sale Securities

 

The amortized cost, gross unrealized gains, gross unrealized losses and fair values of available-for-sale securities at March 31, 2019 and December 31, 2018 are as follows:

 

 

The following table presents the available-for-sale securities’ gross unrealized losses and fair value, aggregated by the length of time the individual securities have been in a continuous loss position as of March 31, 2019 and December 31, 2018:

 

 

At March 31, 2019 and December 31, 2018, ten of seventeen and ten of sixteen available-for-sale securities had unrealized losses with an aggregate decline of 6.2% and 4.4% from the amortized cost of those securities, respectively.

 

Based on its quarterly reviews, management believes that none of the losses on available-for-sale securities noted above constitute an other-than-temporary impairment (“OTTI”). The noted losses are considered temporary due to market fluctuations in available interest rates on U.S. Government agency debt, mortgage-backed securities issued by U.S. Government agencies, and corporate debt. Management considers the issuers of the securities to be financially sound, the corporate bonds are investment grade, and the collectability of all contractual principal and interest payments is reasonably expected. Since Patriot is not more-likely-than-not to be required to sell the investments before recovery of the amortized cost basis and does not intend to sell the securities at a loss, none of the available-for-sale securities noted are considered to be OTTI as of March 31, 2019.

 

 

PATRIOT NATIONAL BANCORP, INC. AND SUBSIDIARY

Notes to consolidated financial statements (Unaudited)

 

At March 31, 2019 and December 31, 2018, available-for-sale securities of $6.9 million and $7.0 million were pledged primarily to secure municipal deposits, respectively. As of March 31, 2019 and December 31, 2018, $5.4 million and $5.5 million were pledged to the FRB of New York, and $1.5 million and $1.5 million were pledged to St. Louis Fed, respectively.

 

The following summarizes, by class and contractual maturity, the amortized cost and estimated fair value of available-for-sale debt securities held at March 31, 2019 and December 31, 2018. The mortgages underlying the mortgage-backed securities are not due at a single maturity date. Additionally, these mortgages often are and generally may be pre-paid without penalty, creating a degree of uncertainty that such investments can be held until maturity. For convenience, mortgage-backed securities have been included in the summary as a separate line item.

 

 

During the three-month period ended March 31, 2019, the Bank purchased $1.4 million Subordinated notes. There were no sales of the Bank’s available-for-sale securities in the three-month period ended March 31, 2019. There were no sales or purchases of available-for-sale securities in the three-month period ended March 31, 2018.

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Note 4: Loans Receivable and Allowance for Loan and Lease Losses

 

As of March 31, 2019 and December 31, 2018, loans receivable, net, consists of the following:

 

 

Patriot's lending activities are conducted principally in Fairfield and New Haven Counties in Connecticut and Westchester County in New York, and the five Boroughs of New York City. Patriot originates commercial real estate loans, commercial business loans, a variety of consumer loans, and construction loans, and has purchased residential loans since 2016. All commercial and residential real estate loans are collateralized primarily by first or second mortgages on real estate. The ability and willingness of borrowers to satisfy their loan obligations is dependent to some degree on the status of the regional economy as well as upon the regional real estate market. Accordingly, the ultimate collectability of a substantial portion of the loan portfolio and the recovery of a substantial portion of any resulting real estate acquired is susceptible to changes in market conditions.

 

Patriot has established credit policies applicable to each type of lending activity in which it engages and evaluates the creditworthiness of each borrower. Unless extenuating circumstances exist, Patriot limits the extension of credit on commercial real estate loans to 75% of the market value of the underlying collateral. Patriot’s loan origination policy for multi-family residential real estate is limited to 80% of the market value of the underlying collateral. In the case of construction loans, the maximum loan-to-value is 75% of the “as completed” appraised value of the real estate project. Management monitors the appraised value of collateral on an on-going basis and additional collateral is requested when warranted. Real estate is the primary form of collateral, although other forms of collateral do exist and may include such assets as accounts receivable, inventory, marketable securities, time deposits, and other business assets.

 

In connection with the Prime Bank merger in May 2018, loans were acquired. A subset of these loans was determined to have evidence of credit deterioration at the acquisition date, which was accounted for in accordance with ASC 310-30. The purchased credit impaired (“PCI”) loans presently maintain a carrying value of $439,000 as of March 31, 2019. The loans were evaluated for impairment through the periodic reforecasting of expected cash flows.

 

Income is recognized on PCI loans pursuant to ASC Topic 310-30. A portion of the fair value discount has been ascribed as an accretable yield that is accreted into interest income over the estimated remaining life of the loans. The remaining non-accretable difference represents cash flows not expected to be collected.

 

 

PATRIOT NATIONAL BANCORP, INC. AND SUBSIDIARY

Notes to consolidated financial statements (Unaudited)

 

A summary of changes in the accretable discount for PCI loans for the three months ended March 31, 2019 follows:

 

 

The accretion of the accretable discount for PCI loans for the three months ended March 31, 2019 was $25,000. The other changes represent primarily loans that were either fully paid-off or totally charged off in the first quarter of 2019.

 

Risk characteristics of the Company’s portfolio classes include the following:

 

Commercial Real Estate Loans

 

In underwriting commercial real estate loans, Patriot evaluates both the prospective borrower’s ability to make timely payments on the loan and the value of the property securing the loans. Repayment of such loans may be negatively impacted should the borrower default, the value of the property collateralizing the loan substantially decline, or there are declines in general economic conditions. Where the owner occupies the property, Patriot also evaluates the business’ ability to repay the loan on a timely basis and may require personal guarantees, lease assignments, and/or the guarantee of the operating company.

 

Residential Real Estate Loans

 

In 2013, Patriot discontinued offering primary mortgages on personal residences. Repayment of residential real estate loans may be negatively impacted should the borrower have financial difficulties, should there be a significant decline in the value of the property securing the loan, or should there be declines in general economic conditions.

 

During the three months ended March 31, 2019 and 2018, Patriot purchased $4.8 million and $0 of residential real estate loans, respectively.

 

Commercial and Industrial Loans

 

Patriot’s commercial and industrial loan portfolio consists primarily of commercial business loans and lines of credit to businesses and professionals. These loans are generally for the financing of accounts receivable, purchases of inventory, purchases of new or used equipment, or for other short- or long-term working capital purposes. These loans are generally secured by business assets, but are also occasionally offered on an unsecured basis. In granting these types of loans, Patriot considers the borrower’s cash flow as the primary source of repayment, supported by the value of collateral, if any, and personal guarantees, as applicable. Repayment of commercial and industrial loans may be negatively impacted by adverse changes in economic conditions, ineffective management, claims on the borrower’s assets by others that are superior to Patriot’s claims, a loss of demand for the borrower’s products or services, or the death or disability of the borrower or other key management personnel.

 

Patriot originates SBA 7(a) loans, on which the SBA has historically provided guarantees of up to 75 percent of the principal balance. The guaranteed portion of the Company’s SBA loans is generally sold in the secondary market with the unguaranteed portion held in the portfolio as a loan held for investment. SBA loans are for the purpose of providing working capital, financing the purchase of equipment, inventory or commercial real estate and for other business purposes. Loans are guaranteed by the businesses' major owners. SBA loans are made based primarily on the historical and projected cash flow of the business and secondarily on the underlying collateral provided.

 

Patriot’s syndicated and leveraged loan portfolio are included in the commercial and industrial loan classification and are primarily comprised of loan transactions led by major financial institutions and regional banks, which are the Agent Bank or Lead Arranger, and are referred to as syndicated loans or “Shared National Credits (SNC)”. SNC loans were determined to be complementary to the Bank’s existing C&I portfolio and product offerings and provide diversification from Patriot’s typical direct-to-business lines of credit and term facilities. The Bank will participate in senior secured financings for public and privately-owned companies for acquisitions, working capital, recapitalizations, and general corporate purposes. The Bank’s strategy is to participate in these types of loan transactions.

 

 

PATRIOT NATIONAL BANCORP, INC. AND SUBSIDIARY

Notes to consolidated financial statements (Unaudited)

 

Consumer and Other Loans

 

Patriot offers individual consumers various forms of credit including installment loans, credit cards, overdraft protection, and reserve lines of credit. Repayments of such loans are generally dependent on the personal income of the borrower, which may be negatively impacted by adverse changes in economic conditions. The Company does not place a high emphasis on originating these types of loans.

 

The Company does not have any lending programs commonly referred to as subprime lending. Subprime lending generally targets borrowers with weakened credit histories that are typically characterized by payment delinquencies, previous charge-offs, judgments against the consumer, a history of bankruptcies, or borrowers with questionable repayment capacity as evidenced by low credit scores or high debt-burdened ratios.

 

No education loans or other consumer loans were purchased during the three months period ended March 31, 2019 and 2018.

 

Construction Loans

 

Construction loans are of a short-term nature, generally of eighteen-months or less, that are secured by land intended for commercial, residential, or mixed-use development. Loan proceeds may be used for the acquisition of or improvements to the land under development and funds are generally disbursed as phases of construction are completed.

 

Included in this category are loans to construct single family homes where no contract of sale exists, based upon the experience and financial strength of the builder, the type and location of the property, and other factors. Construction loans tend to be personally guaranteed by the principal(s). Repayment of such loans may be negatively impacted by an inability to complete construction, a downturn in the market for new construction, by a significant increase in interest rates, or by decline in general economic conditions.

 

Construction to Permanent - Commercial Real Estate (“CRE”)

 

One time close of a construction facility with simultaneous conversion to an amortizing mortgage loan. Construction to Permanent loans combine a short term period similar to a  construction loan, generally with a variable rate, and a longer term CRE loan typically 20-25 years, resetting every five years to the Federal Home Loan Bank (“FHLB”) rate. 

 

Close of the construction facility typically occurs when events dictate, such as receipt of a certificate of occupancy and property stabilization, which is defined as cash flow sufficient to support a pre-defined minimum debt coverage ratio and other conditions and covenants particular to the loan. Construction facilities are typically variable rate instruments that, upon conversion to an amortizing mortgage loan, reset to a fixed rate instrument that is the greater of the in-force variable rate plus a predetermined spread over a reference rate (e.g., prime) or a minimum interest rate.

 

 

PATRIOT NATIONAL BANCORP, INC. AND SUBSIDIARY

Notes to consolidated financial statements (Unaudited)

 

Allowance for Loan and Lease Losses

 

The following tables summarize the activity in the allowance for loan and lease losses, allocated to segments of the loan portfolio, for the three months ended March 31, 2019 and 2018:

 

 

 

The following tables summarize, by loan portfolio segment, the amount of loans receivable evaluated individually and collectively for impairment as of March 31, 2019 and December 31, 2018:

 

 

 

PATRIOT NATIONAL BANCORP, INC. AND SUBSIDIARY

Notes to consolidated financial statements (Unaudited)

 

 

Patriot monitors the credit quality of its loans receivable on an ongoing basis. Credit quality is monitored by reviewing certain indicators, including loan to value ratios, debt service coverage ratios, and credit scores.

 

Patriot employs a risk rating system as part of the risk assessment of its loan portfolio. At origination, lending officers are required to assign a risk rating to each loan in their portfolio, which is ratified or modified by the Loan Committee to which the loan is submitted for approval. If financial developments occur on a loan in the lending officer’s portfolio of responsibility, the risk rating is reviewed and adjusted, as applicable. In carrying out its oversight responsibilities, the Loan Committee can adjust a risk rating based on available information. In addition, the risk ratings on all commercial loans over $250,000 are reviewed annually by the Credit Department.

 

Additionally, Patriot retains an objective and independent third-party loan review expert to perform a quarterly analysis of the results of its risk rating process. The quarterly review is based on a randomly selected sample of loans within established parameters (e.g., value, concentration), in order to assess and validate the risk ratings assigned to individual loans. Any changes to the assigned risk ratings, based on the quarterly review, are required to be approved by the Loan Committee.

 

When assigning a risk rating to a loan, management utilizes the Bank’s internal eleven-point risk rating system. An asset is considered “special mention” when it has a potential weakness based on objective evidence, but does not currently expose the Company to sufficient risk to warrant classification in one of the following categories:

 

●

Substandard: An asset is classified “substandard” if it is not adequately protected by the current net worth and paying capacity of the obligor or the collateral pledged, if any. Substandard assets have well defined weaknesses based on objective evidence, and are characterized by the distinct possibility that the Company will sustain some loss, if noted deficiencies are not corrected.

●

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

 

Charge-offs, to reduce the loan to its recoverable value, generally commence after the loan is classified as “doubtful”.

 

In accordance with Federal Financial Institutions Examination Council published policies establishing uniform criteria for the classification of retail credit based on delinquency status, “Open-end” and “Closed-end” credits are charged off when 180 days and 120 days delinquent, respectively.

 

If an account is classified as “Loss”, the full balance of the loans receivable is charged off, regardless of the potential recovery from a sale of the underlying collateral. Any amount that may be recovered on the sale of collateral underlying a loan is recognized as a “recovery” in the period in which the collateral is sold.

 

 

PATRIOT NATIONAL BANCORP, INC. AND SUBSIDIARY

Notes to consolidated financial statements (Unaudited)

 

Loan Portfolio Aging Analysis

 

The following tables summarize performing and non-performing (i.e., non-accruing) loans receivable by portfolio segment, by aging category, by delinquency status as of March 31, 2019.

 

 

 

PATRIOT NATIONAL BANCORP, INC. AND SUBSIDIARY

Notes to consolidated financial statements (Unaudited)

 

The following tables summarize performing and non-performing loans (i.e., non-accruing) receivable by portfolio segment, by aging category, by delinquency status as of December 31, 2018.

 

 

 

PATRIOT NATIONAL BANCORP, INC. AND SUBSIDIARY

Notes to consolidated financial statements (Unaudited)

 

The following tables summarize non-performing (i.e., non-accruing) loans by aging category and status, within the applicable loan portfolio segment as of March 31, 2019 and December 31, 2018:

 

 

If non-accrual loans had been performing in accordance with the original contractual terms, additional interest income of approximately $275,000 and $81,000 would have been recognized in income during the three months ended March 31, 2019 and 2018, respectively.

 

Additionally, certain loans for which the borrower cannot demonstrate sufficient cash flow to continue loan payments in the future and certain troubled debt restructurings (“TDRs”) are placed on non-accrual status. During the three months ended March 31, 2019 and 2018, interest income collected and recognized on non-accruing loans were $150,000 and $0, respectively.

 

The accrual of interest on loans is discontinued at the time the loan is 90 days past due for payment unless the loan is well-secured and in process of collection. Consumer installment loans are typically charged off no later than 180 days past due. Past due status is based on contractual terms of the loan. In all cases, loans are placed on non-accrual status or charged-off, at an earlier date, if collection of principal or interest is considered doubtful. All interest accrued, but not collected for loans that are placed on non-accrual status or charged off, is reversed against interest income. The interest on these loans is accounted for on the cash-basis method until qualifying for return to accrual status. Loans are returned to accrual status when all the principal and interest amounts contractually due are brought current, future payments are reasonably assured, and there is nine months of performance. Management considers all non-accrual loans and TDRs to be impaired. In most cases, loan payments that are past due less than 90 days, based on contractual terms, are considered collection delays and not an indication of loan impairment. The Bank considers consumer installment loans to be pools of smaller homogeneous loan balances, which are collectively evaluated for impairment.

 

 

PATRIOT NATIONAL BANCORP, INC. AND SUBSIDIARY

Notes to consolidated financial statements (Unaudited)

 

Troubled Debt Restructurings (“TDR”)

 

On a case-by-case basis, Patriot may agree to modify the contractual terms of a borrower’s loan to assist customers who may be experiencing financial difficulty. If the borrower is experiencing financial difficulties and a concession has been made, the loan is classified as a TDR.

 

Substantially all TDR loan modifications involve lowering the monthly payments on such loans through either a reduction in interest rate below market rate, an extension of the term of the loan, or a combination of adjusting these two contractual attributes. TDR loan modifications may result in the forgiveness of principal or accrued interest. In addition, when modifying commercial loans, Patriot frequently obtains additional collateral or guarantor support. If the borrower has performed under the existing contractual terms of the loan and Patriot’s underwriters determine that the borrower has the capacity to continue to perform under the terms of the TDR, the loan continues accruing interest. Non-accruing TDRs may be returned to accrual status when there has been a sustained period of performance (generally six consecutive months of payments) and both principal and interest are reasonably assured of collection.

 

The recorded investment in TDRs was $10.9 million at March 31, 2019 and $2.1 million at December 31, 2018, respectively.

 

 

During the three months ended March 31, 2019, there was one construction loan with a balance of $8.8 million modified as TDR. The loan was restructured with a maturity and payment concession. The pre-modification and post-modification outstanding recorded investment in the restructured construction loan was $8.8 million.

 

The construction loans modified in a TDR often involve reducing the interest rate for the remaining term of the loan, extending the maturity date at an interest rate lower than the current market rate for new debt with similar risk, extending the interest-only payment period, or substituting or adding a co-borrower or guarantor. There were no loans modified as TDRs and no defaults of TDRs during the three months ended March 31, 2018. At March 31, 2019 and December 31, 2018, there were no commitments to advance additional funds under TDRs.

 

 

PATRIOT NATIONAL BANCORP, INC. AND SUBSIDIARY

Notes to consolidated financial statements (Unaudited)

 

Impaired Loans

 

Impaired loans may consist of non-accrual loans and/or performing and non-performing TDRs. As of March 31, 2019 and December 31, 2018, based on the on-going monitoring and analysis of the loan portfolio, impaired loans of $30.0 million and $21.2 million, respectively, were identified, for which $1.6 million and $1.5 million specific reserves were established, respectively. Loans not requiring specific reserves had sufficient collateral values, less costs to sell, supporting the net investment in the loan which includes principal balance, unamortized fees and costs and accrued interest, if any. Once a borrower is in default, Patriot is under no obligation to advance additional funds on unused commitments.

 

At March 31, 2019 and December 31, 2018, exposure to the impaired loans was related to 29 and 25 borrowers, respectively. In all cases, appraisal reports of the underlying collateral, if any, have been obtained from independent licensed appraisal firms. For non-performing loans, the independently determined appraised values were reduced by an estimate of the costs to sell the assets, in order to estimate the potential loss, if any, that may eventually be realized. Performing loans are monitored to determine when, if at all, additional loan loss reserves may be required for a loss of underlying collateral value.

 

In addition, the remaining $439,000 PCI loans acquired from Prime Bank acquisition were commercial and industrial loans. The PCI loans were originally recorded at fair value by the Bank on the date of acquisition. At March 31, 2019, those loans were considered individually evaluated for impairment, with no allowance recorded.

 

The following table reflects information about the impaired loans, excluding PCI loans, by class as of March 31, 2019 and December 31, 2018:

 

 

 

PATRIOT NATIONAL BANCORP, INC. AND SUBSIDIARY

Notes to consolidated financial statements (Unaudited)

 

The following tables summarize additional information regarding impaired loans, excluding PCI loans, by class for the three months ended March 31, 2019 and 2018.