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PEOPLES BANCORP OF NORTH CAROLINA INC - Quarter Report: 2019 June (Form 10-Q)

 

UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
FORM 10-Q
 
☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the quarterly period ended: June 30, 2019
 
OR
 
☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the transition period from __________ to __________
 
PEOPLES BANCORP OF NORTH CAROLINA, INC.
(Exact name of registrant as specified in its charter)
 
North Carolina
(State or other jurisdiction of incorporation or organization)
 
000-27205
 
56-2132396
(Commission File No.)
 
(IRS Employer Identification No.)
 
518 West C Street, Newton, North Carolina
 
28658
(Address of principal executive offices)
 
(Zip Code)
 
(828) 464-5620
(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, 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)
 
Indicate by check mark whether the registrant is a shell company (as defined in Exchange Act Rule 12b-2 of the Exchange Act). Yes No
 
Indicate the number of shares outstanding of each of the registrant's classes of common stock, as of the latest practicable date. 5,933,140 shares of common stock, outstanding at July 31, 2019.
 

 
 
 
INDEX
 
PART I. FINANCIAL INFORMATION
 
 
 
PAGE(S)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 


 
 
 
 
 
 
 
 
 
 
 
PART II. OTHER INFORMATION
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
   
 
Certifications  
48-50
 
Statements made in this Form 10-Q, other than those concerning historical information, should be considered forward-looking statements pursuant to the safe harbor provisions of the Securities Exchange Act of 1934 and the Private Securities Litigation Act of 1995. These forward-looking statements involve risks and uncertainties and are based on the beliefs and assumptions of management and on the information available to management at the time that this Form 10-Q was prepared. These statements can be identified by the use of words like “expect,” “anticipate,” “estimate,” and “believe,” variations of these words and other similar expressions. Readers should not place undue reliance on forward-looking statements as a number of important factors could cause actual results to differ materially from those in the forward-looking statements. Factors that could cause actual results to differ include, but are not limited to, (1) competition in the markets served by the registrant and its subsidiaries, (2) changes in the interest rate environment, (3) general national, regional or local economic conditions may be less favorable than expected, resulting in, among other things, a deterioration in credit quality and the possible impairment of collectibility of loans, (4) legislative or regulatory changes, including changes in accounting standards, (5) significant changes in the federal and state legal and regulatory environments and tax laws, (6) the impact of changes in monetary and fiscal policies, laws, rules and regulations and (7) other risks and factors identified in other filings with the Securities and Exchange Commission, including but not limited to, those described in the registrant’s Annual Report on Form 10-K for the year ended December 31, 2018.
 
 
2
 
PART I. FINANCIAL INFORMATION
 
Item 1. Financial Statements
 
PEOPLES BANCORP OF NORTH CAROLINA, INC.
 
Consolidated Balance Sheets
June 30, 2019 and December 31, 2018
(Dollars in thousands)
 
 
 
June 30,
 
 
December 31,
 
Assets
 
 2019
(Unaudited)
 

 
 2018
(Audited)
 

 
 
 
 
 
 
 
Cash and due from banks, including reserve requirements of $12,362 at 06/30/19 and $8,918 at 12/31/18
 $38,138 
  40,553 
 
    
    
Interest-bearing deposits
  684 
  2,817 
Cash and cash equivalents
  38,822 
  43,370 
 
    
    
Investment securities available for sale
  188,972 
  194,578 
Other investments
  4,296 
  4,361 
Total securities
  193,268 
  198,939 
 
    
    
Mortgage loans held for sale
  2,309 
  680 
 
    
    
Loans
  833,367 
  804,023 
Less allowance for loan losses
  (6,541)
  (6,445)
Net loans
  826,826 
  797,578 
 
    
    
Premises and equipment, net
  19,184 
  18,450 
Cash surrender value of life insurance
  16,126 
  15,936 
Other real estate
  10 
  27 
Right of use lease asset
  4,000 
  - 
Accrued interest receivable and other assets
  16,027 
  18,271 
Total assets
 $1,116,572 
  1,093,251 
 
    
    
Liabilities and Shareholders' Equity
    
    
 
    
    
Deposits:
    
    
Noninterest-bearing demand
 $321,154 
  298,817 
NOW, MMDA & savings
  488,461 
  475,223 
Time, $250,000 or more
  14,096 
  16,239 
Other time
  80,516 
  86,934 
Total deposits
  904,227 
  877,213 
 
    
    
Securities sold under agreements to repurchase
  47,733 
  58,095 
Junior subordinated debentures
  20,619 
  20,619 
Lease liability
  4,013 
  - 
Accrued interest payable and other liabilities
  10,053 
  13,707 
Total liabilities
  986,645 
  969,634 
 
    
    
Commitments
    
    
 
    
    
Shareholders' equity:
    
    
 
    
    
Series A preferred stock, $1,000 stated value; authorized 5,000,000 shares; no shares issued and outstanding
  - 
  - 
Common stock, no par value; authorized 20,000,000 shares; issued and outstanding 5,933,140 shares at June 30, 2019 and 5,995,256 shares December 31, 2018
  60,390 
  62,096 
Retained earnings
  65,738 
  60,535 
Accumulated other comprehensive income
  3,799 
  986 
Total shareholders' equity
  129,927 
  123,617 
Total liabilities and shareholders' equity
 $1,116,572 
  1,093,251 
See accompanying Notes to Consolidated Financial Statements.
 
3
 
PEOPLES BANCORP OF NORTH CAROLINA, INC.
 
Consolidated Statements of Earnings
Three and Six Months Ended June 30, 2019 and 2018
(Dollars in thousands, except per share amounts)
 
 
 
Three months ended
 
 
Six months ended
 
 
 
June 30,
 
 
June 30,
 
 
 
 2019
 
 
 2018
 
 
 2019
 
 
 2018
 
 
 
 (Unaudited)
 
 
 (Unaudited)
 
 
 (Unaudited)
 
 
 (Unaudited)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Interest income:
 
 
 
 
 
 
 
 
 
 
 
 
Interest and fees on loans
 $10,894 
  9,386 
  21,513 
  18,455 
Interest on due from banks
  35 
  124 
  49 
  169 
Interest on investment securities:
    
    
    
    
U.S. Government sponsored enterprises
  641 
  524 
  1,314 
  1,130 
State and political subdivisions
  760 
  980 
  1,594 
  1,976 
Other
  45 
  45 
  88 
  88 
Total interest income
  12,375 
  11,059 
  24,558 
  21,818 
 
    
    
    
    
Interest expense:
    
    
    
    
NOW, MMDA & savings deposits
  320 
  186 
  602 
  362 
Time deposits
  171 
  110 
  322 
  215 
FHLB borrowings
  3 
  - 
  49 
  - 
Junior subordinated debentures
  220 
  198 
  446 
  369 
Other
  67 
  19 
  119 
  34 
Total interest expense
  781 
  513 
  1,538 
  980 
Net interest income
  11,594 
  10,546 
  23,020 
  20,838 
 
    
    
    
    
Provision for loan losses
  77 
  231 
  255 
  262 
 
    
    
    
    
Net interest income after provision for loan losses
  11,517 
  10,315 
  22,765 
  20,576 
 
    
    
    
    
Non-interest income:
    
    
    
    
Service charges
  1,138 
  1,056 
  2,231 
  2,080 
Other service charges and fees
  177 
  175 
  346 
  355 
Gain on sale of investment securities
  - 
  50 
  231 
  50 
Mortgage banking income
  311 
  240 
  458 
  456 
Insurance and brokerage commissions
  205 
  203 
  436 
  385 
Appraisal management fee income
  1,112 
  854 
  1,974 
  1,643 
Gain/(loss) on sale and write-down of other real estate
  (17)
  (3)
  (17)
  3 
Miscellaneous
  1,459 
  1,441 
  2,846 
  2,780 
Total non-interest income
  4,385 
  4,016 
  8,505 
  7,752 
 
    
    
    
    
Non-interest expense:
    
    
    
    
Salaries and employee benefits
  5,718 
  5,385 
  11,365 
  10,347 
Occupancy
  1,811 
  1,750 
  3,548 
  3,606 
Professional fees
  429 
  373 
  718 
  753 
Advertising
  275 
  260 
  541 
  501 
Debit card expense
  239 
  283 
  466 
  492 
FDIC Insurance
  80 
  84 
  152 
  167 
Appraisal management fee expense
  864 
  654 
  1,526 
  1,246 
Other
  1,828 
  1,771 
  3,844 
  3,490 
Total non-interest expense
  11,244 
  10,560 
  22,160 
  20,602 
Earnings before income taxes
  4,658 
  3,771 
  9,110 
  7,726 
 
    
    
    
    
Income tax expense
  845 
  595 
  1,630 
  1,247 
Net earnings
 $3,813 
  3,176 
  7,480 
  6,479 
 
    
    
    
    
Basic net earnings per share
 $0.64 
  0.53 
  1.25 
  1.08 
Diluted net earnings per share
 $0.64 
  0.53 
  1.25 
  1.08 
Cash dividends declared per share
 $0.14 
  0.13 
  0.28 
  0.26 
 
See accompanying Notes to Consolidated Financial Statements.
 
4
 
 
PEOPLES BANCORP OF NORTH CAROLINA, INC.
 
Consolidated Statements of Comprehensive Income
Three and Six Months Ended June 30, 2019 and 2018
(Dollars in thousands)
 
 
 
Three months ended
 
 
Six months ended
 
 
 
June 30,
 
 
June 30,
 
 
 
 2019
 
 
 2018
 
 
 2019
 
 
 2018
 
 
 
 (Unaudited)
 
 
 (Unaudited)
 
 
 (Unaudited)
 
 
 (Unaudited)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Net earnings
 $3,813 
  3,176 
  7,480 
  6,479 
 
    
    
    
    
Other comprehensive income:
    
    
    
    
Unrealized holding gains (losses) on securities available for sale
  2,757 
  (869)
  3,883 
  (3,483)
Reclassification adjustment for gains on securities available for sale included in net earnings
  - 
  (50)
  (231)
  (50)
 
    
    
    
    
Total other comprehensive income (loss), before income taxes
  2,757 
  (919)
  3,652 
  (3,533)
 
    
    
    
    
Income tax expense related to other comprehensive income:
    
    
    
    

    
    
    
    
Unrealized holding gains (losses) on securities available for sale
  633 
  (200)
  892 
  (801)
Reclassification adjustment for gains on securities available for sale included in net earnings
  - 
  (11)
  (53)
  (11)
 
    
    
    
    
Total income tax expense related to other comprehensive income (loss)
  633 
  (211)
  839 
  (812)
 
    
    
    
    
Total other comprehensive income (loss), net of tax
  2,124 
  (708)
  2,813 
  (2,721)
 
    
    
    
    
Total comprehensive income
 $5,937 
  2,468 
  10,293 
  3,758 
 
See accompanying Notes to Consolidated Financial Statements.
 
 
5
 
  
PEOPLES BANCORP OF NORTH CAROLINA, INC.
 
Consolidated Statements of Changes in Shareholders' Equity
Three and Six Months Ended June 30, 2019 and 2018
(Dollars in thousands)
 
 
 
 
 
 
 
 
 
 
 
 
Accumulated  Other
 
 
 
 
 
 
 Common Stock    
 
 
 Retained
 
 
 Comprehensive
 
 
 
 
 
 
Shares
 
 
Amount
 
 
 Earnings
 
 
 Income
 
 
 Total
 
 
 
 (Unaudited)
 
 
 (Unaudited)
 
 
 (Unaudited)
 
 
 (Unaudited)
 
 
 (Unaudited)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Balance, December 31, 2018
  5,995,256 
 $62,096 
  60,535 
  986 
  123,617 
 
    
    
    
    
    
Common stock repurchase
  (5,518)
  (152)
  - 
  - 
  (152)
Cash dividends declared on
    
    
    
    
    
common stock
  - 
  - 
  (1,445)
  - 
  (1,445)
Restricted stock units exercised
  7,398 
  207 
  - 
  - 
  207 
Net earnings
  - 
  - 
  3,667 
  - 
  3,667 
Change in accumulated other
    
    
    
    
    
comprehensive income, net of tax
  - 
  - 
  - 
  690 
  690 
Balance, March 31, 2019
  5,997,136 
  62,151 
  62,757 
  1,676 
  126,584 
 
    
    
    
    
    
Common stock repurchase
  (63,996)
  (1,761)
  - 
  - 
  (1,761)
Cash dividends declared on
    
    
    
    
    
common stock
  - 
  - 
  (832)
  - 
  (832)
Net earnings
  - 
  - 
  3,813 
  - 
  3,813 
Change in accumulated other
    
    
    
    
    
comprehensive income, net of tax
  - 
  - 
  - 
  2,123 
  2,123 
Balance, June 30, 2019
  5,933,140 
 $60,390 
  65,738 
  3,799 
  129,927 
 
    
    
    
    
    
 
    
    
    
    
    
Balance, December 31, 2017
  5,995,256 
 $62,096 
  50,286 
  3,593 
  115,975 
 
    
    
    
    
    
Cash dividends declared on
    
    
    
    
    
common stock
  - 
  - 
  (783)
  - 
  (783)
Net earnings
  - 
  - 
  3,303 
  - 
  3,303 
Change in accumulated other
    
    
    
    
    
comprehensive income, net of tax
  - 
  - 
  - 
  (2,013)
  (2,013)
Balance, March 31, 2018
  5,995,256 
  62,096 
  52,806 
  1,580 
  116,482 
 
    
    
    
    
    
Cash dividends declared on
    
    
    
    
    
common stock
  - 
  - 
  (784)
  - 
  (784)
Net earnings
  - 
  - 
  3,176 
  - 
  3,176 
Change in accumulated other
    
    
    
    
    
comprehensive income, net of tax
  - 
  - 
  - 
  (708)
  (708)
Balance, June 30, 2018
  5,995,256 
 $62,096 
  55,198 
  872 
  118,166 
 
See accompanying Notes to Consolidated Financial Statements.
 
 
6
 
 
PEOPLES BANCORP OF NORTH CAROLINA, INC.
 
Consolidated Statements of Cash Flows
Six Months Ended June 30, 2019 and 2018
(Dollars in thousands)
 
 
 
 2019
 
 
 2018
 
 
 
 (Unaudited)
 
 
 (Unaudited)
 
 
 
 
 
 
 
 
Cash flows from operating activities:
 
 
 
 
 
 
Net earnings
 $7,480 
  6,479 
Adjustments to reconcile net earnings to net cash provided by operating activities:
    
    
Depreciation, amortization and accretion
  1,926
  2,418 
Right of use lease asset amortization     
 392
   -
Provision for loan losses
  255 
  262 
Deferred income taxes
  (4)
  (7)
Gain on sale of investment securities
  (231)
  (50)
Gain on sale of other real estate
  - 
  (3)
Write-down of other real estate
 17 
  - 
Loss on sale of premises and equipment
  - 
  2 
Restricted stock expense
  170 
  139 
Proceeds from sales of mortgage loans held for sale
  18,572 
  18,475 
Origination of mortgage loans held for sale
  (20,201)
  (18,289)
Change in:
    
    
Cash surrender value of life insurance
  (190)
  (191)
Other assets
  1,409
  (1,249)
Other liabilities
  (3,996)
  (197)
Net cash provided by operating activities
  5,599 
  7,789 
 
    
    
Cash flows from investing activities:
    
    
Purchases of investment securities available for sale
  (21,405)
  (17,347)
Proceeds from sales, calls and maturities of investment securities available for sale
  23,707 
  23,384 
Proceeds from paydowns of investment securities available for sale
  6,354 
  8,519 
Purchases of other investments
  - 
  (2,611)
Proceeds from paydowns on other investments
  66 
  29 
Purchases of FHLB stock
  (1)
  (4)
Net change in loans
  (29,503)
  (22,044)
Purchases of premises and equipment
  (1,827)
  (898)
Proceeds from sale of other real estate and repossessions
  - 
  128 
Net cash used by investing activities
  (22,609)
  (10,844)
 
    
    
Cash flows from financing activities:
    
    
Net change in deposits
  27,014 
  8,060 
Net change in securities sold under agreement to repurchase
  (10,362)
  8,813 
Proceeds from FHLB borrowings
  89,000 
  - 
Repayments of FHLB borrowings
  (89,000)
  - 
Proceeds from Fed Funds purchased
  74,450 
  850 
Repayments of Fed Funds purchased
  (74,450)
  (850)
Common stock repurchased
  (1,913)
  - 
Cash dividends paid on common stock
  (2,277)
  (1,567)
Net cash provided by financing activities
  12,462 
  15,306 
 
    
    
Net change in cash and cash equivalents
  (4,548)
  12,251 
Cash and cash equivalents at beginning of period
  43,370 
  57,304 
Cash and cash equivalents at end of period
 $38,822 
  69,555 
 
 
7
 
 
PEOPLES BANCORP OF NORTH CAROLINA, INC.
 
Consolidated Statements of Cash Flows, continued
Six Months Ended June 30, 2019 and 2018
(Dollars in thousands)
  
 
 
 2019
 
 
 2018
 
 
 
 (Unaudited)
 
 
 (Unaudited)
 
 
 
 
 
 
 
 
Supplemental disclosures of cash flow information:
 
 
 
 
 
 
Cash paid during the period for:
 
 
 
 
 
 
Interest
 $1,529 
  973 
Income taxes
 $1,616 
  252 
 
    
    
Noncash investing and financing activities:
    
    
Change in unrealized gain on investment securities available for sale, net
 $2,813 
  (2,721)
Issuance of accrued restricted stock units
 $207 
  - 
Transfers of loans to other real estate and repossessions
 $- 
  97 
 Initial recognition of lease right of use asset and lease liability
 $4,392
    -
 
See accompanying Notes to Consolidated Financial Statements.
 
 
8
 
 
PEOPLES BANCORP OF NORTH CAROLINA, INC.
 
Notes to Consolidated Financial Statements (Unaudited)
  
(1) 
Summary of Significant Accounting Policies
 
The consolidated financial statements include the financial statements of Peoples Bancorp of North Carolina, Inc. and its wholly owned subsidiary, Peoples Bank (the “Bank”), along with the Bank’s wholly owned subsidiaries, Peoples Investment Services, Inc. (“PIS”), Real Estate Advisory Services, Inc. (“REAS”), Community Bank Real Estate Solutions, LLC (“CBRES”) and PB Real Estate Holdings, LLC (collectively called the “Company”). All significant intercompany balances and transactions have been eliminated in consolidation.
 
The Bank operates three banking offices focused on the Latino population that were formerly operated as a division of the Bank under the name Banco de la Gente (“Banco”). These offices are now branded as Bank branches and considered a separate market territory of the Bank as they offer normal and customary banking services as are offered in the Bank’s other branches such as the taking of deposits and the making of loans.
 
The consolidated financial statements in this report (other than the Consolidated Balance Sheet at December 31, 2018) are unaudited. In the opinion of management, all adjustments (none of which were other than normal accruals) necessary for a fair presentation of the financial position and results of operations for the periods presented have been included. Management has made a number of estimates and assumptions relating to the reporting of assets and liabilities and the disclosure of contingent assets and liabilities to prepare these consolidated financial statements in conformity with generally accepted accounting principles in the United States (“GAAP”). Actual results could differ from those estimates.
 
The Company’s accounting policies are fundamental to understanding management’s discussion and analysis of results of operations and financial condition. Many of the Company’s accounting policies require significant judgment regarding valuation of assets and liabilities and/or significant interpretation of the specific accounting guidance. A description of the Company’s significant accounting policies can be found in Note 1 of the Notes to Consolidated Financial Statements in the Company’s 2018 Annual Report to Shareholders which is Appendix A to the Proxy Statement for the May 2, 2019 Annual Meeting of Shareholders.
 
Recent Accounting Pronouncements
 
The following tables provide a summary of Accounting Standards Updates (“ASU”) issued by the Financial Accounting Standards Board (“FASB”) that the Company has recently adopted.
 
Recently Adopted Accounting Guidance
 
 
 
 
 
 
ASU
Description
Effective Date
Effect on Financial Statements or Other Significant Matters
ASU 2014-09: Revenue from Contracts with Customers
Provides guidance on the recognition of revenue from contracts with customers. The core principle of this guidance is that an entity should recognize revenue to reflect the transfer of goods and services to customers in an amount equal to the consideration the entity receives or expects to receive.
January 1, 2018
See section titled "ASU 2014-09" below for a despription of the effect on the Company’s results of operations, financial position and disclosures.
ASU 2016-01: Recognition and Measurement of Financial Assets and Financial Liabilities
Addresses certain aspects of recognition, measurement, presentation, and disclosure of financial instruments.
January 1, 2018
The adoption of this guidance did not have a material impact on the Company’s results of operations, financial position or disclosures.
ASU 2017-07: Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Costs
Amended the requirements related to the income statement presentation of the components of net periodic benefit cost for an entity’s sponsored defined benefit pension and other postretirement plans.
January 1, 2018
The adoption of this guidance did not have a material impact on the Company’s results of operations, financial position or disclosures.
ASU 2017-09: Scope of Modification Accounting
Amended the requirements related to changes to the terms or conditions of a share-based payment award.
January 1, 2018
The adoption of this guidance did not have a material impact on the Company’s results of operations, financial position or disclosures.
 
 
9
 
ASU
Description
Effective Date
Effect on Financial Statements or Other Significant Matters
ASU 2017-14: Income Statement—Reporting Comprehensive, Income (Topic 220), Revenue Recognition (Topic 605), and Revenue from Contracts with Customers (Topic 606)
Incorporates into the ASC recent SEC guidance related to revenue recognition.
Effective upon issuance
The adoption of this guidance did not have a material impact on the Company’s results of operations, financial position or disclosures.
ASU 2018-03: Technical Corrections and Improvements to Financial Instruments—Overall (Subtopic 825-10) Recognition and Measurement of Financial Assets and Financial Liabilities
Clarifies certain aspects of the guidance issued in ASU 2016-01.
January 1, 2018
The adoption of this guidance did not have a material impact on the Company’s results of operations, financial position or disclosures.
ASU 2018-04: Investments—Debt Securities (Topic 320) and Regulated Operations (Topic 980): Amendments to SEC Paragraphs Pursuant to SEC Staff Accounting Bulletin No. 117 and SEC Release No. 33-9273 (SEC Update)
Incorporates recent SEC guidance which was issued in order to make the relevant interpretive guidance consistent with current authoritative accounting and auditing guidance and SEC rules and regulation.
Effective upon issuance
The adoption of this guidance did not have a material impact on the Company’s results of operations, financial position or disclosures.
ASU 2018-06: Codification Improvements to Topic 942: Financial Services—Depository and Lending
Eliminates a reference to the Office of the Comptroller of the Currency’s Banking Circular 202, Accounting for Net Deferred Tax Charges, from the ASC. The Office of the Comptroller of the Currency published the guidance in 1985 but has since rescinded it.
Effective upon issuance
The adoption of this guidance did not have a material impact on the Company’s results of operations, financial position or disclosures.
ASU 2016-02: Leases
Increases transparency and comparability among organizations by recognizing lease assets and lease liabilities on the balance sheet and disclosing key information about leasing arrangements.
January 1, 2019
See section titled "ASU 2016-02" below for a despription of the effect on the Company’s results of operations, financial position and disclosures.
ASU 2017-08: Premium Amortization on Purchased Callable Debt Securities
Amended the requirements related to the amortization period for certain purchased callable debt securities held at a premium.
January 1, 2019
The adoption of this guidance did not have a material impact on the Company’s results of operations, financial position or disclosures.
ASU 2018-11: Leases (Topic 842): Targeted Improvements
Intended to reduce costs and ease implementation of ASU 2016-02.
January 1, 2019
The adoption of this guidance did not have a material impact on the Company’s results of operations, financial position or disclosures.
ASU 2018-20: Narrow- Scope Improvements for Lessors
Provides narrow-scope improvements for lessors, that provide relief in the accounting for sales, use and similar taxes, the accounting for other costs paid by a lessee that may benefit a lessor, and variable payments when contracts have lease and non-lease components.
January 1, 2019
See comments for ASU 2016-02 below.
 
ASU 2014-09
The Company has applied ASU 2014-09 using a modified retrospective approach. The Company’s revenue is comprised of net interest income and noninterest income. The scope of ASU 2014-09 explicitly excludes net interest income as well as many other revenues for financial assets and liabilities including loans, leases, securities, and derivatives. Accordingly, the majority of the Company’s revenues are not affected. Appraisal management fee income and expense from the Bank’s subsidiary, CBRES, was reported as a net amount prior to March 31, 2018, which was included in miscellaneous non-interest income. This income and expense is now reported on separate line items under non-interest income and non-interest expense. See below for additional information related to revenue generated from contracts with customers.

 
10
 
 
               Revenue and Method of Adoption
The majority of the Company’s revenue is derived primarily from interest income from receivables (loans) and securities. Other revenues are derived from fees received in connection with deposit accounts, investment advisory, and appraisal services. On January 1, 2018, the Company adopted the requirements of ASU 2014-09. The core principle of the new standard is that a company should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services.
 
The Company adopted ASU 2014-09 using the modified retrospective transition approach which does not require restatement of prior periods. The method was selected as there were no material changes in the timing of revenue recognition resulting in no comparability issues with prior periods. This adoption method is considered a change in accounting principle requiring additional disclosure of the nature of, and reason for, the change, which is solely a result of the adoption of the required standard. When applying the modified retrospective approach under ASU 2014-09, the Company has elected, as a practical expedient, to apply this approach only to contracts that were not completed as of January 1, 2018. A completed contract is considered to be a contract for which all (or substantially all) of the revenue was recognized in accordance with revenue guidance that was in effect before January 1, 2018. There were no uncompleted contracts as of January 1, 2018 for which application of the new standard required an adjustment to retained earnings.
 
The following disclosures involve the Company’s material income streams derived from contracts with customers which are within the scope of ASU 2014-09. Through the Company’s wholly-owned subsidiary, PIS, the Company contracts with a registered investment advisor to perform investment advisory services on behalf of the Company’s customers. The Company receives commissions from this third party investment advisor based on the volume of business that the Company’s customers do with such investment advisor. Total revenue recognized from these contracts was $435,000 and $384,000 for the six months ended June 30, 2019 and 2018, respectively. The Company utilizes third parties to contract with the Company’s customers to perform debit and credit card clearing services. These third parties pay the Company commissions based on the volume of transactions that they process on behalf of the Company’s customers. Total revenue recognized from these contracts with these third parties was $2.0 million and $1.9 million for the six months ended June 30, 2019 and 2018, respectively. Through the Company’s wholly-owned subsidiary, REAS, the Company provides property appraisal services for negotiated fee amounts on a per appraisal basis. Total revenue recognized from these contracts with customers was $304,000 and $278,000 for the six months ended June 30, 2019 and 2018, respectively. Through the Company’s wholly-owned subsidiary, CBRES, the Company provides appraisal management services. Total revenue recognized from these contracts with customers was $2.0 million and $1.6 million for the six months ended June 30, 2019 and 2018, respectively. Due to the nature of the Company’s relationship with the customers that the Company provides services, the Company does not incur costs to obtain contracts and there are no material incremental costs to fulfill these contracts that should be capitalized.
 
Disaggregation of Revenue. The Company’s portfolio of services provided to the Company’s customers consists of over 50,000 active contracts. The Company has disaggregated revenue according to timing of the transfer of service. Total revenue for the six months ended June 30, 2019 derived from contracts in which services are transferred at a point in time was approximately $4.4 million. None of the Company’s revenue is derived from contracts in which services are transferred over time. Revenue is recognized as the services are provided to the customers. Economic factors impacting the customers could affect the nature, amount, and timing of these cash flows, as unfavorable economic conditions could impair the customers’ ability to provide payment for services. For the Company’s deposit contracts, this risk is mitigated as the Company generally deducts payments from customers’ accounts as services are rendered. For the Company’s appraisal services, the risk is mitigated in that the appraisal is not released until payment is received.
 
Contract Balances. The timing of revenue recognition, billings, and cash collections results in billed accounts receivable on the balance sheet. Most contracts call for payment by a charge or deduction to the respective customer account but there are some that require a receipt of payment from the customer. For fee per transaction contracts, the customers are billed as the transactions are processed. The Company has no contracts in which customers are billed in advance for services to be performed. These types of contracts would create contract liabilities or deferred revenue, as the customers pay in advance for services. There are no contract liabilities or accounts receivables balances that are material to the Company’s balance sheet.
 
 
11
 
Performance Obligations. A performance obligation is a promise in a contract to transfer a distinct good or service to the customer, and is the unit of account in ASU 2014-09. A contract’s transaction price is allocated to each distinct performance obligation and recognized as revenue when, or as, the performance obligation is satisfied. Performance obligations are satisfied as the service is provided to the customer at a point in time. There are no significant financing components in the Company’s contracts. Excluding deposit and appraisal service revenues which are primarily billed at a point in time as a fee for services incurred, all other contracts within the scope of ASU 2014-09 contain variable consideration in that fees earned are derived from market values of accounts which determine the amount of consideration to which the Company is entitled. The variability is resolved when the services are provided. The contracts do not include obligations for returns, refunds, or warranties. The contracts are specific to the amounts owed to the Company for services performed during a period should the contracts be terminated.
 
Significant Judgements. All of the Company’s contracts create performance obligations that are satisfied at a point in time excluding some immaterial deposit revenues. Revenue is recognized as services are billed to the customers. Variable consideration does exist for contracts related to the Company’s contract with its registered investment advisor as some revenues earned pursuant to that contract are based on market values of accounts at the end of the period.
 
ASU 2016-02
On January 1, 2019, the Company adopted the requirements of ASU 2016-02, Leases (Topic 842). Topic 842 was subsequently amended by ASU 2018-01, Land Easement Practical Expedient for Transition to Topic 842; ASU 2018-10, Codification Improvements to Topic 842, Leases; and ASU 2018-11, Targeted Improvements. The purpose of Topic 842 is to increase transparency and comparability between organizations that enter into lease agreements. The key difference of Topic 842 from the previous guidance (Topic 840) is the recognition of a right-of-use ("ROU") asset and lease liability on the statement of financial position for those leases previously classified as operating leases under the previous guidance. Topic 842 states that a contract is or contains a lease if the contract conveys the right to control the use of identified property, plant, or equipment (an identified asset) for a period of time in exchange for consideration. The Company reviewed its material non-real estate contracts to determine if they included a lease and did not note any that would need to be considered under Topic 842. The Company also reviewed equipment leases in the implementation of Topic 842. The Company’s lease agreements in which Topic 842 has been applied are primarily for retail branch real estate properties. These leases have lease terms from less than 12 months to leases with options up to 15 years. Related to lease payment terms, some are fixed payments or based on a fixed annual increase while others are variable and the annual increases are based on market rates or other indexes.
 
Initially transition from Topic 840 to Topic 842 required a modified retrospective approach for leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements. ASU 2018-11, which, among other things, provided an additional transition method that would allow entities to not apply the initial guidance of ASU 2016-02 to the comparative periods presented in the financial statements and instead recognize a cumulative-effect adjustment to the opening balance of retained earnings in the period of adoption. The Company chose the transition method of adoption provided by ASU 2018-11, therefore, the Company will apply this standard to all existing leases as of the adoption date of January 1, 2019, recording a ROU asset and a lease liability and a cumulative-effect adjustment to the opening balance of retained earnings (if applicable) in the period of adoption. With this transition method, comparative prior period disclosures will be under the previous accounting guidance for leases (Topic 840). This adoption method is considered a change in accounting principle requiring additional disclosure of the nature of and reason for the change, which is solely a result of the adoption of the required standard.
 
Topic 842 provides a package of practical expedients in applying the lease standard to be chosen at the date of adoption. The Company has chosen to elect the package of practical expedients provided under ASU 2016-02 whereby it will not reassess (i) whether any expired or existing contracts are or contain leases, (ii) the lease classification for any expired or existing leases and (iii) initial direct costs for any existing leases. The Company has also chosen not to apply the recognition requirements of ASU 2016-02 to any short-term leases (as defined by related accounting guidance). The Company will account for lease and non-lease components separately because such amounts are readily determinable under its lease contracts. Additionally, the Company has chosen to elect the use of hindsight, when applicable, in determining the lease term, in assessing the likelihood that a lessee purchase option will be exercised; and in assessing the impairment of ROU assets.
 
ROU assets represent the Company’s right to use an underlying asset for the lease term and lease liabilities represent the Company’s obligation to make lease payments arising from the lease. The Company determined that all of its leases are classified as operating leases under Topic 842. For operating and finance leases, lease liabilities are initially measured at commencement date based on the present value of lease payments not yet paid, discounted using the discount rate for the lease at the lease commencement date over the lease term. For operating and finance leases, ROU assets are measured at the commencement date as the amount of the initial liability, adjusted for lease payments made to the lessor at or before commencement date, minus incentives; and for any initial direct costs incurred by the lessee. Based on the transition method that the Company has chosen to follow, the initial application date of the lease term for all existing leases is January 1, 2019.
 
 
 
12
 
 

For operating leases, after lease commencement, the lease liability is recorded at the present value of the unpaid lease payments discounted at the discount rate for the lease established at the commencement date. Lease expense is determined by the sum of the lease payments to be recognized on a straight-line basis over the lease term. The ROU asset is subsequently amortized as the difference between the straight line lease cost for the period and the periodic accretion of the lease liability. The lease term used for the calculation of the initial operating ROU asset and lease liability will include the initial lease term in addition to one renewal option the Company thinks it is reasonably certain to exercise or incur. Regarding the discount rate, Topic 842 requires that the implicit rate within the lease agreement be used if available. If not available, the Company should use its incremental borrowing rate in effect at the time of the lease commencement date. The Company utilized Federal Home Loan Bank (“FHLB”) Atlanta’s Fixed Rate Credit rates for terms consistent with the Company’s lease terms.
 
The Company recorded operating ROU assets and operating lease liabilities of $4.4 million and $4.4 million, respectively at the commencement date of January 1, 2019. The Company did not have a cumulative-effect adjustment to the opening balance of retained earnings. The adoption of ASU 2016-02 did not have a material impact on the Company’s results of operations, financial position or disclosures.
 
A director of the Company has a membership interest in a company that leases two branch facilities to the Bank. The Bank’s lease payments for these facilities totaled $115,000 for the six months ended June 30, 2019 and 2018.
 
The following tables provide a summary of ASU’s issued by the FASB that the Company has not adopted as of June 30, 2019, which may impact the Company’s financial statements.
 
Recently Issued Accounting Guidance Not Yet Adopted
 
 
 
 
 
 
ASU
Description
Effective Date
Effect on Financial Statements or Other Significant Matters
ASU 2016-13: Measurement of Credit Losses on Financial Instruments
Provides guidance to change the accounting for credit losses and modify the impairment model for certain debt securities.
January 1, 2020 Early adoption permitted
The Company will apply this guidance through a cumulative-effect adjustment to retained earnings as of the beginning of the year of adoption. The Company is still evaluating the impact of this guidance on its consolidated financial statements. The Company has formed a Current Expected Credit Losses (“CECL”) committee and implemented a model from a third-party vendor for running CECL calculations. The Company is currently developing CECL model assumptions and comparing results to current allowance for loan loss calculations. The Company plans to run parallel calculations leading up to the effective date of this guidance to ensure it is prepared for implementation by the effective date. In addition to the Company’s allowance for loan losses, it will also record an allowance for credit losses on debt securities instead of applying the impairment model currently utilized. The amount of the adjustments will be impacted by each portfolio’s composition and credit quality at the adoption date as well as economic conditions and forecasts at that time.
ASU 2018-13: Disclosure Framework—Changes to the Disclosure Requirements for Fair Value Measurement (Topic 820)
Updates the disclosure requirements on fair value measurements in ASC 820, Fair Value Measurement.
January 1, 2020
The adoption of this guidance is not expected to have a material impact on the Company’s results of operations, financial position or disclosures.
ASU 2018-14: Disclosure Framework—Changes to the Disclosure Requirements for Defined Benefit Plans (Subtopic 715-20)
Updates disclosure requirements for employers that sponsor defined benefit pension or other postretirement plans.
January 1, 2021
The adoption of this guidance is not expected to have a material impact on the Company’s results of operations, financial position or disclosures.
ASU 2018-18: Clarifying the Interaction between Topic 808 and Topic 606
Clarifies the interaction between the guidance for certain collaborative arrangements and the new revenue recognition financial accounting and reporting standard.
January 1, 2020 Early adoption permitted
The Company does not intend to adopt this guidance early. The adoption of this guidance is not expected to have a material impact on the Company’s results of operations, financial position or disclosures.
 
 
13
 
 
 
 
 
 
ASU
Description
Effective Date
Effect on Financial Statements or Other Significant Matters
ASU 2018-19: Codification Improvements to Topic 326, Financial Instruments—Credit Losses
Aligns the implementation date of the topic for annual financial statements of nonpublic companies with the implementation date for their interim financial statements. The guidance also clarifies that receivables arising from operating leases are not within the scope of the topic, but rather, should be accounted for in accordance with the leases topic.
January 1, 2020 Early adoption permitted
See comments for ASU 2016-13 above.
ASU 2019-01: Leases (Topic 842): Codification Improvements
Provides guidance to address concerns companies had raised about an accounting exception they would lose when assessing the fair value of underlying assets under the leases standard and clarify that lessees and lessors are exempt from a certain interim disclosure requirement associated with adopting the new standard.
January 1, 2020
The adoption of this guidance is not expected to have a material impact on the Company’s results of operations, financial position or disclosures.
ASU 2019-04: Codification Improvements to Topic 326, Financial Instruments—Credit Losses, Topic 815, Derivatives and Hedging, and Topic 825, Financial Instruments
Addresses unintended issues accountants flagged when implementing ASU 2016-01, Recognition and Measurement of Financial Assets and Financial Liabilities, ASU 2016-13, Measurement of Credit Losses on Financial Instruments, and ASU 2017-12, Targeted Improvements to Accounting for Hedging Activities.
January 1, 2020 Early adoption permitted
The adoption of this guidance is not expected to have a material impact on the Company’s results of operations, financial position or disclosures.
ASU 2019-05: Financial Instruments—Credit Losses (Topic 326): Targeted Transition Relief
Guidance to provide entities with an option to irrevocably elect the fair value option, applied on an instrument-by-instrument basis for eligible instruments, upon adoption of ASU 2016-13, Measurement of Credit Losses on Financial Instruments.
January 1, 2020 Early adoption permitted
The adoption of this guidance is not expected to have a material impact on the Company’s results of operations, financial position or disclosures.
 
Other accounting standards that have been issued or proposed by FASB or other standards-setting bodies are not expected to have a material impact on the Company’s results of operations, financial position or disclosures.
 
(2) 
Investment Securities
 
Investment securities available for sale at June 30, 2019 and December 31, 2018 are as follows:
 
(Dollars in thousands)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 June 30, 2019
 
 
 
 Amortized Cost
 
 
 Gross Unrealized Gains
 
 
 Gross Unrealized Losses
 
 
 Estimated Fair Value
 
Mortgage-backed securities
 $57,988 
  1,301 
  170 
  59,119 
U.S. Government
    
    
    
    
sponsored enterprises
  33,211 
  670 
  407 
  33,474 
State and political subdivisions
  92,589 
  3,540 
  - 
  96,129 
Trust preferred securities
  250 
  - 
  - 
  250 
Total
 $184,038 
  5,511 
  577 
  188,972 
 
 
 
14
 
 

(Dollars in thousands)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 December 31, 2018
 
 
 
 Amortized Cost
 
 
 Gross Unrealized Gains
 
 
 Gross Unrealized Losses
 
 
 Estimated Fair Value
 
Mortgage-backed securities
 $52,145 
  516 
  558 
  52,103 
U.S. Government
    
    
    
    
sponsored enterprises
  35,356 
  71 
  793 
  34,634 
State and political subdivisions
  105,545 
  2,089 
  43 
  107,591 
Trust preferred securities
  250 
  - 
  - 
  250 
Total
 $193,296 
  2,676 
  1,394 
  194,578 
 
The current fair value and associated unrealized losses on investments in securities with unrealized losses at June 30, 2019 and December 31, 2018 are summarized in the tables below, with the length of time the individual securities have been in a continuous loss position.
 
(Dollars in thousands)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
June 30, 2019
 
 
 
 Less than 12 Months
 
 
 12 Months or More
 
 
 Total    
 
 
 
 Fair Value
 
 
 Unrealized Losses
 
 
 Fair Value
 
 
 Unrealized Losses
 
 
 Fair Value
 
 
 Unrealized Losses
 
Mortgage-backed securities
 $3,186 
  6 
  13,994 
  164 
  17,180 
  170 
U.S. Government
    
    
    
    
    
    
sponsored enterprises
  - 
  - 
  9,146 
  407 
  9,146 
  407 
Total
 $3,186 
  6 
  23,140 
  571 
  26,326 
  577 
 
 
(Dollars in thousands)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
December 31, 2018
 
 
 
 Less than 12 Months
 
 
 12 Months or More
 
 
 Total
 
 
 
 Fair Value
 
 
 Unrealized Losses
 
 
 Fair Value
 
 
 Unrealized Losses
 
 
 Fair Value
 
 
 Unrealized Losses
 
Mortgage-backed securities
 $6,932 
  56 
  17,670 
  502 
  24,602 
  558 
U.S. Government
    
    
    
    
    
    
sponsored enterprises
  1,784 
  69 
  25,172 
  724 
  26,956 
  793 
State and political subdivisions
  4,815 
  26 
  1,578 
  17 
  6,393 
  43 
Total
 $13,531 
  151 
  44,420 
  1,243 
  57,951 
  1,394 
 
At June 30, 2019, unrealized losses in the investment securities portfolio relating to debt securities totaled $577,000. The unrealized losses on these debt securities arose due to changing interest rates and are considered to be temporary. From the June 30, 2019 tables above, 20 out of 50 securities issued by U.S. Government sponsored enterprises contained unrealized losses. These unrealized losses are considered temporary because of acceptable financial condition and results of operations of entities that issued each security and the repayment sources of principal and interest on U.S. Government sponsored enterprises, including mortgage-backed securities, are government backed.
 
The amortized cost and estimated fair value of investment securities available for sale at June 30, 2019, by contractual maturity, are shown below. Expected maturities of mortgage-backed securities will differ from contractual maturities because borrowers have the right to call or prepay obligations with or without call or prepayment penalties.
 
 15
 
 
June 30, 2019
 
 
 
 
 
 
(Dollars in thousands)
 
 
 
 
 
 
 
 
 Amortized Cost
 
 
 Estimated Fair Value
 
Due within one year
 $13,134 
  13,168 
Due from one to five years
  64,858 
  66,959 
Due from five to ten years
  41,506 
  43,011 
Due after ten years
  6,302 
  6,465 
Mortgage-backed securities
  57,988 
  59,119 
Trust preferred securities
  250 
  250 
Total
 $184,038 
  188,972 
 
No securities available for sale were sold during the three months ended June 30, 2019.  Proceeds from sales of securities available for sale during the three months ended June 30, 2019 were $12.3 million and resulted in net gains of $231,000. Proceeds from sales of securities available for sale during the three and six months ended June 30, 2018 were $14.0 million and resulted in net gains of $50,000.
 
Securities with a fair value of approximately $89.0 million and $93.0 million at June 30, 2019 and December 31, 2018, respectively, were pledged to secure public deposits and for other purposes as required by law.
 
 
(3) 
Loans
 
Major classifications of loans at June 30, 2019 and December 31, 2018 are summarized as follows:
 
(Dollars in thousands)
 
 
 
 
 
 
 
 
June 30,
2019
 
 
December 31,
2018
 
Real estate loans:
 
 
 
 
 
 
Construction and land development
 $86,920 
  94,178 
Single-family residential
  264,724 
  252,983 
Single-family residential -
    
    
Banco de la Gente non-traditional
  32,499 
  34,261 
Commercial
  281,895 
  270,055 
Multifamily and farmland
  44,065 
  33,163 
Total real estate loans
  710,103 
  684,640 
 
    
    
Loans not secured by real estate:
    
    
Commercial loans
  103,466 
  97,465 
Farm loans
  1,060 
  926 
Consumer loans
  8,684 
  9,165 
All other loans
  10,054 
  11,827 
 
    
    
Total loans
  833,367 
  804,023 
 
    
    
Less allowance for loan losses
  6,541 
  6,445 
 
    
    
Total net loans
 $826,826 
  797,578 
 
The Bank grants loans and extensions of credit primarily within the Catawba Valley region of North Carolina, which encompasses Catawba, Alexander, Iredell and Lincoln counties, and also in Mecklenburg, Wake and Durham counties of North Carolina. Although the Bank has a diversified loan portfolio, a substantial portion of the loan portfolio is collateralized by improved and unimproved real estate, the value of which is dependent upon the real estate market. Risk characteristics of the major components of the Bank’s loan portfolio are discussed below:
 
Construction and land development loans – The risk of loss is largely dependent on the initial estimate of whether the property’s value at completion equals or exceeds the cost of property construction and the availability of take-out financing. During the construction phase, a number of factors can result in delays or cost overruns. If the estimate is inaccurate or if actual construction costs exceed estimates, the value of the property securing the loan may be insufficient to ensure full repayment when completed through a permanent loan, sale of the property, or by seizure of collateral. As of June 30, 2019, construction and land development loans comprised approximately 10% of the Bank’s total loan portfolio.
 
 16
 
 
Single-family residential loans – Declining home sales volumes, decreased real estate values and higher than normal levels of unemployment could contribute to losses on these loans. As of June 30, 2019, single-family residential loans comprised approximately 36% of the Bank’s total loan portfolio, and include Banco’s non-traditional single-family residential loans, which were approximately 4% of the Bank’s total loan portfolio.
 
Commercial real estate loans – Repayment is dependent on income being generated in amounts sufficient to cover operating expenses and debt service. These loans also involve greater risk because they are generally not fully amortizing over a loan period, but rather have a balloon payment due at maturity. A borrower’s ability to make a balloon payment typically will depend on being able to either refinance the loan or timely sell the underlying property. As of June 30, 2019, commercial real estate loans comprised approximately 34% of the Bank’s total loan portfolio.
 
Commercial loans – Repayment is generally dependent upon the successful operation of the borrower’s business. In addition, the collateral securing the loans may depreciate over time, be difficult to appraise, be illiquid or fluctuate in value based on the success of the business. As of June 30, 2019, commercial loans comprised approximately 12% of the Bank’s total loan portfolio.
 
Loans are considered past due if the required principal and interest payments have not been received as of the date such payments were due. Loans are placed on non-accrual status when, in management’s opinion, the borrower may be unable to meet payment obligations as they become due, as well as when required by regulatory provisions. Loans may be placed on non-accrual status regardless of whether or not such loans are considered past due. When interest accrual is discontinued, all unpaid accrued interest is reversed. Interest income is subsequently recognized only to the extent cash payments are received in excess of principal due. Loans are returned to accrual status when all of the principal and interest amounts contractually due are brought current and future payments are reasonably assured.
 
The following tables present an age analysis of past due loans, by loan type, as of June 30, 2019 and December 31, 2018:
 
June 30, 2019
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
(Dollars in thousands)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Loans 30-89 Days Past Due
 
 
 Loans 90 or More Days Past Due
 
 
 Total Past Due Loans
 
 
 Total Current Loans
 
 
 Total Loans
 
 
 Accruing Loans 90 or More Days Past Due
 
Real estate loans:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Construction and land development
 $257 
  - 
  257 
  86,663 
  86,920 
  - 
Single-family residential
  2,608 
  682 
  3,290 
  261,434 
  264,724 
  - 
Single-family residential -
    
    
    
    
    
    
Banco de la Gente non-traditional
  827 
  - 
  827 
  31,672 
  32,499 
  - 
Commercial
  324 
  - 
  324 
  281,571 
  281,895 
  - 
Multifamily and farmland
  - 
  - 
  - 
  44,065 
  44,065 
  - 
Total real estate loans
  4,016 
  682 
  4,698 
  705,405 
  710,103 
  - 
 
    
    
    
    
    
    
Loans not secured by real estate:
    
    
    
    
    
    
Commercial loans
  150 
  - 
  150 
  103,316 
  103,466 
  - 
Farm loans
  - 
  - 
  - 
  1,060 
  1,060 
  - 
Consumer loans
  43 
  4 
  47 
  8,637 
  8,684 
  - 
All other loans
  - 
  - 
  - 
  10,054 
  10,054 
  - 
Total loans
 $4,209 
  686 
  4,895 
  828,472 
  833,367 
  - 
 
 
17
 
 
December 31, 2018
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
(Dollars in thousands)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Loans 30-89 Days Past Due
 
 
 Loans 90 or More Days Past Due
 
 
 Total Past Due Loans
 
 
 Total Current Loans
 
 
 Total Loans
 
 
 Accruing Loans 90 or More Days Past Due
 
Real estate loans:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Construction and land development
 $3 
  - 
  3 
  94,175 
  94,178 
  - 
Single-family residential
  4,162 
  570 
  4,732 
  248,251 
  252,983 
  - 
Single-family residential -
    
    
    
    
    
    
Banco de la Gente non-traditional
  4,627 
  580 
  5,207 
  29,054 
  34,261 
  - 
Commercial
  228 
  - 
  228 
  269,827 
  270,055 
  - 
Multifamily and farmland
  - 
  - 
  - 
  33,163 
  33,163 
  - 
Total real estate loans
  9,020 
  1,150 
  10,170 
  674,470 
  684,640 
  - 
 
    
    
    
    
    
    
Loans not secured by real estate:
    
    
    
    
    
    
Commercial loans
  445 
  90 
  535 
  96,930 
  97,465 
  - 
Farm loans
  - 
  - 
  - 
  926 
  926 
  - 
Consumer loans
  99 
  4 
  103 
  9,062 
  9,165 
  - 
All other loans
  - 
  - 
  - 
  11,827 
  11,827 
  - 
Total loans
 $9,564 
  1,244 
  10,808 
  793,215 
  804,023 
  - 
 
The following table presents non-accrual loans as of June 30, 2019 and December 31, 2018:
 
(Dollars in thousands)
 
 
 
 
 
 
 
 
June 30,
2019
 
 
December 31,
2018
 
Real estate loans:
 
 
 
 
 
 
Construction and land development
 $- 
  1 
Single-family residential
  1,224 
  1,530 
Single-family residential -
    
    
Banco de la Gente non-traditional
  1,616 
  1,440 
Commercial
  85 
  244 
     Multifamily and farmland
  - 
  - 
Total real estate loans
  2,925 
  3,215 
 
    
    
Loans not secured by real estate:
    
    
Commercial loans
  85 
  89 
Consumer loans
  17 
  10 
Total
 $3,027 
  3,314 
 
At each reporting period, the Bank determines which loans are impaired. Accordingly, the Bank’s impaired loans are reported at their estimated fair value on a non-recurring basis. An allowance for each impaired loan that is collateral-dependent is calculated based on the fair value of its collateral. The fair value of the collateral is based on appraisals performed by REAS, a subsidiary of the Bank. REAS is staffed by certified appraisers that also perform appraisals for other companies. Factors, including the assumptions and techniques utilized by the appraiser, are considered by management. If the recorded investment in the impaired loan exceeds the measure of fair value of the collateral, a valuation allowance is recorded as a component of the allowance for loan losses. An allowance for each impaired loan that is not collateral dependent is calculated based on the present value of projected cash flows. If the recorded investment in the impaired loan exceeds the present value of projected cash flows, a valuation allowance is recorded as a component of the allowance for loan losses. Impaired loans under $250,000 are not individually evaluated for impairment with the exception of the Bank’s troubled debt restructured (“TDR”) loans in the residential mortgage loan portfolio, which are individually evaluated for impairment. Accruing impaired loans were $21.4 million, $22.8 million and $24.3 million at June 30, 2019, December 31, 2018 and June 30, 2018, respectively. Interest income recognized on accruing impaired loans was $668,000, $1.3 million, and $697,000 for the six months ended June 30, 2019, the year ended December 31, 2018 and the six months ended June 30, 2018, respectively. No interest income is recognized on non-accrual impaired loans subsequent to their classification as non-accrual.
 
 
18
 
 
The following table presents impaired loans as of June 30, 2019:
 
June 30, 2019
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
(Dollars in thousands)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Unpaid Contractual Principal Balance
 
 
 Recorded Investment With No Allowance
 
 
 Recorded Investment With Allowance
 
 
 Recorded Investment in Impaired Loans
 
 
 Related Allowance
 
Real estate loans:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Construction and land development
 $189 
  - 
  189 
  189 
  5 
Single-family residential
  4,785 
  413 
  3,928 
  4,341 
  29 
Single-family residential -
    
    
    
    
    
Banco de la Gente stated income
  15,694 
  - 
  14,975 
  14,975 
  988 
Commercial
  1,734 
  - 
  1,728 
  1,728 
  13 
Multifamily and farmland
  - 
  - 
  - 
  - 
  - 
Total impaired real estate loans
  22,402 
  413 
  20,820 
  21,233 
  1,035 
 
    
    
    
    
    
Loans not secured by real estate:
    
    
    
    
    
Commercial loans
  280 
  38 
  80 
  118 
  - 
Consumer loans
  105 
  - 
  101 
  101 
  2 
Total impaired loans
 $22,787 
  451 
  21,001 
  21,452 
  1,037 
 
The following table presents the average impaired loan balance and the interest income recognized by loan class for the three and six months ended June 30, 2019 and 2018.
 
(Dollars in thousands)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Three months ended        
 
 
 Six months ended        
 
 
 
June 30, 2019  
 
 
June 30, 2018  
 
 
June 30, 2019
 
 
June 30, 2018    
 
 
 
 Average Balance
 
 
 Interest Income Recognized
 
 
 Average Balance
 
 
 Interest Income Recognized
 
 
 Average Balance
 
 
 Interest Income Recognized
 
 
 Average Balance
 
 
 Interest Income Recognized
 
Real estate loans:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Construction and land development
 $232 
  2 
  373 
  5 
  248 
  6 
  341 
  11 
Single-family residential
  4,214 
  57 
  6,306 
  66 
  4,826 
  118 
  6,325 
  135 
Single-family residential -
    
    
    
    
    
    
    
    
Banco de la Gente stated income
  15,347 
  239 
  14,841 
  230 
  15,010 
  491 
  14,981 
  467 
Commercial
  1,739 
  22 
  2,304 
  42 
  1,801 
  45 
  2,359 
  80 
Multifamily and farmland
  - 
  - 
  - 
  - 
  - 
  - 
  4 
  - 
Total impaired real estate loans
  21,532 
  320 
  23,824 
  343 
  21,885 
  660 
  24,010 
  693 
 
    
    
    
    
    
    
    
    
Loans not secured by real estate:
    
    
    
    
    
    
    
    
Commercial loans
  114 
  3 
  98 
  - 
  106 
  4 
  100 
  - 
Farm loans (non RE)
  - 
  - 
  - 
  - 
  - 
  - 
  - 
  - 
Consumer loans
  104 
  2 
  141 
  2 
  107 
  4 
  146 
  4 
Total impaired loans
 $21,750 
  325 
  24,063 
  345 
  22,098 
  668 
  24,256 
  697 

 
 
19
 
 
The following table presents impaired loans as of and for the year ended December 31, 2018:

December 31, 2018
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
(Dollars in thousands)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Unpaid Contractual Principal Balance
 
 
 Recorded Investment With No Allowance
 
 
 Recorded Investment With Allowance
 
 
 Recorded Investment in Impaired Loans
 
 
 Related Allowance
 
 
 Average Outstanding Impaired Loans
 
 
 YTD Interest Income Recognized
 
Real estate loans:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Construction and land development
 $281 
  - 
  279 
  279 
  5 
  327 
  19 
Single-family residential
  5,059 
  422 
  4,188 
  4,610 
  32 
  6,271 
  261 
Single-family residential -
    
    
    
    
    
    
    
Banco de la Gente non-traditional
  16,424 
  - 
  15,776 
  15,776 
  1,042 
  14,619 
  944 
Commercial
  1,995 
  - 
  1,925 
  1,925 
  17 
  2,171 
  111 
Total impaired real estate loans
  23,759 
  422 
  22,168 
  22,590 
  1,096 
  23,388 
  1,335 
 
    
    
    
    
    
    
    
Loans not secured by real estate:
    
    
    
    
    
    
    
Commercial loans
  251 
  89 
  1 
  90 
  - 
  96 
  - 
Consumer loans
  116 
  - 
  113 
  113 
  2 
  137 
  7 
Total impaired loans
 $24,126 
  511 
  22,282 
  22,793 
  1,098 
  23,621 
  1,342 
 
Changes in the allowance for loan losses for the three and six months ended June 30, 2019 and 2018 were as follows:
 
(Dollars in thousands)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Real Estate Loans              
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Construction and Land Development
 
 
Single-Family Residential
 
 
Single-Family Residential - Banco de la Gente Stated Income
 
 
Commercial
 
 
Multifamily and Farmland
 
 
Commercial
 
 
Farm
 
 
Consumer and All Other
 
 
Unallocated
 
 
Total
 
Six months ended June 30, 2019:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Allowance for loan losses:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Beginning balance
 $813 
  1,325 
  1,177 
  1,278 
  83 
  626 
  - 
  161 
  982 
  6,445 
Charge-offs
  (21)
  (22)
  - 
  - 
  - 
  (1)
  - 
  (316)
  - 
  (360)
Recoveries
  3 
  53 
  - 
  23 
  - 
  14 
  - 
  108 
  - 
  201 
Provision
  (32)
  (44)
  (61)
  33 
  27 
  (91)
  - 
  208 
  215 
  255 
Ending balance
 $763 
  1,312 
  1,116 
  1,334 
  110 
  548 
  - 
  161 
  1,197 
  6,541 
 
    
    
    
    
    
    
    
    
    
    
 
Three months ended June 30, 2019:
 
    
    
    
    
    
    
    
    
    
Allowance for loan losses:
    
    
    
    
    
    
    
    
    
    
Beginning balance
 $831 
  1,256 
  1,174 
  1,292 
  98 
  610 
  - 
  162 
  1,138 
  6,561 
Charge-offs
  (21)
  (9)
  - 
  - 
  - 
  - 
  - 
  (166)
  - 
  (196)
Recoveries
  2 
  5 
  - 
  19 
  - 
  8 
  - 
  65 
  - 
  99 
Provision
  (49)
  60 
  (58)
  23 
  12 
  (70)
  - 
  100 
  59 
  77 
Ending balance
 $763 
  1,312 
  1,116 
  1,334 
  110 
  548 
  - 
  161 
  1,197 
  6,541 
               
Allowance for loan losses at June 30, 2019:
    
    
    
    
    
    
    
    
    
    
Ending balance: individually
    
    
    
    
    
    
    
    
    
    
evaluated for impairment
 $- 
  2 
  970 
  12 
  - 
  - 
  - 
  - 
  - 
  984 
Ending balance: collectively
    
    
    
    
    
    
    
    
    
    
evaluated for impairment
  763 
  1,310 
  146 
  1,322 
  110 
  548 
  - 
  161 
  1,197 
  5,557 
Ending balance
 $763 
  1,312 
  1,116 
  1,334 
  110 
  548 
  - 
  161 
  1,197 
  6,541 
 
    
    
    
    
    
    
    
    
    
    
Loans at June 30, 2019:
    
    
    
    
    
    
    
    
    
    
Ending balance
 $86,920 
  264,724 
  32,499 
  281,895 
  44,065 
  103,466 
  1,060 
  18,738 
  - 
  833,367 
 
    
    
    
    
    
    
    
    
    
    
Ending balance: individually
    
    
    
    
    
    
    
    
    
    
evaluated for impairment
 $11 
  1,738 
  13,508 
  1,643 
  - 
  38 
  - 
  - 
  - 
  16,938 
Ending balance: collectively
    
    
    
    
    
    
    
    
    
    
evaluated for impairment
 $86,909 
  262,986 
  18,991 
  280,252 
  44,065 
  103,428 
  1,060 
  18,738 
  - 
  816,429 
 
20
 
 
(Dollars in thousands)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Real Estate Loans      
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Construction and Land Development
 
 
Single-Family Residential
 
 
Single-Family Residential - Banco de la Gente Stated Income
 
 
Commercial
 
 
Multifamily and Farmland
 
 
Commercial
 
 
Farm
 
 
Consumer and All Other
 
 
Unallocated
 
 
Total
 
Six months ended June 30, 2018:
 

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Allowance for loan losses:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Beginning balance
 $804 
  1,812 
  1,280 
  1,193 
  72 
  574 
  - 
  155 
  476 
  6,366 
Charge-offs
  - 
  (43)
  - 
  (271)
  (5)
  (2)
  - 
  (186)
  - 
  (507)
Recoveries
  3 
  27 
  - 
  7 
  1 
  16 
  - 
  102 
  - 
  156 
Provision
  (139)
  (158)
  (47)
  491 
  4 
  (1)
  - 
  79 
  33 
  262 
Ending balance
 $668 
  1,638 
  1,233 
  1,420 
  72 
  587 
  - 
  150 
  509 
  6,277 
 
    
    
    
    
    
    
    
    
    
    
Three months ended June 30, 2018:
    
    
    
    
    
    
    
    
    
    
Allowance for loan losses:
    
    
    
    
    
    
    
    
    
    
Beginning balance
 $651 
  1,640 
  1,265 
  1,298 
  73 
  706 
  - 
  136 
  604 
  6,373 
Charge-offs
  - 
  (43)
  - 
  (271)
  - 
  (2)
  - 
  (85)
  - 
  (401)
Recoveries
  1 
  22 
  - 
  4 
  - 
  8 
  - 
  39 
  - 
  74 
Provision
  16 
  19 
  (32)
  389 
  (1)
  (125)
  - 
  60 
  (95)
  231 
Ending balance
 $668 
  1,638 
  1,233 
  1,420 
  72 
  587 
  - 
  150 
  509 
  6,277 
 
    
    
    
    
    
    
    
    
    
    
Allowance for loan losses at June 30, 2018:
    
    
    
    
    
    
    
    
    
    
Ending balance: individually
    
    
    
    
    
    
    
    
    
    
evaluated for impairment
 $- 
  2 
  1,066 
  18 
  - 
  - 
  - 
  - 
  - 
  1,086 
Ending balance: collectively
    
    
    
    
    
    
    
    
    
    
evaluated for impairment
  668 
  1,636 
  167 
  1,402 
  72 
  587 
  - 
  150 
  509 
  5,191 
Ending balance
 $668 
  1,638 
  1,233 
  1,420 
  72 
  587 
  - 
  150 
  509 
  6,277 
 
    
    
    
    
    
    
    
    
    
    
Loans at June 30, 2018:
    
    
    
    
    
    
    
    
    
    
Ending balance
 $79,769 
  250,620 
  35,847 
  269,792 
  28,667 
  93,580 
  1,023 
  22,586 
  - 
  781,884 
 
    
    
    
    
    
    
    
    
    
    
Ending balance: individually
    
    
    
    
    
    
    
    
    
    
evaluated for impairment
 $95 
  2,132 
  14,975 
  2,103 
  - 
  94 
  - 
  - 
  - 
  19,399 
Ending balance: collectively
    
    
    
    
    
    
    
    
    
    
evaluated for impairment
 $79,674 
  248,488 
  20,872 
  267,689 
  28,667 
  93,486 
  1,023 
  22,586 
  - 
  762,485 
 
The provision for loan losses for the three months ended June 30, 2019 was $77,000, compared to $231,000 for the three months ended June 30, 2018. The decrease in the provision for loan losses is primarily attributable to a reduction in the required level of the allowance for loan losses in the Company’s Accounting Standards Codification (“ASC”) 450-20 reserve calculation resulting from lower historical loss rates and lower qualitative adjustments for economic conditions and other factors.
 
The provision for loan losses for the six months ended June 30, 2019 was $255,000, as compared to $262,000 for the six months ended June 30, 2018.
 
The Company utilizes an internal risk grading matrix to assign a risk grade to each of its loans. Loans are graded on a scale of 1 to 8. These risk grades are evaluated on an ongoing basis. A description of the general characteristics of the eight risk grades is as follows:
 
Risk Grade 1 – Excellent Quality: Loans are well above average quality and a minimal amount of credit risk exists. Certificates of deposit or cash secured loans or properly margined actively traded stock or bond secured loans would fall in this grade.
Risk Grade 2 – High Quality: Loans are of good quality with risk levels well within the Company’s range of acceptability. The organization or individual is established with a history of successful performance though somewhat susceptible to economic changes.
Risk Grade 3 – Good Quality: Loans of average quality with risk levels within the Company’s range of acceptability but higher than normal. This may be a new organization or an existing organization in a transitional phase (e.g. expansion, acquisition, market change).
Risk Grade 4 – Management Attention: These loans have higher risk and servicing needs but still are acceptable. Evidence of marginal performance or deteriorating trends is observed. These are not problem credits presently, but may be in the future if the borrower is unable to change its present course.
Risk Grade 5 – Watch: These loans are currently performing satisfactorily, but there has been some recent past due history on repayment and there are potential weaknesses that may, if not corrected, weaken the asset or inadequately protect the Company’s position at some future date.
Risk Grade 6 – Substandard: A Substandard loan is inadequately protected by the current sound net worth and paying capacity of the obligor or the collateral pledged (if there is any). There is a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. There is a distinct possibility that the Company will sustain some loss if the deficiencies are not corrected.
Risk Grade 7 – Doubtful: Loans classified as Doubtful have all the weaknesses inherent in loans classified as Substandard, plus the added characteristic that the weaknesses make collection or liquidation in full on the basis of currently existing facts, conditions, and values highly questionable and improbable. Doubtful is a temporary grade where a loss is expected but is presently not quantified with any degree of accuracy. Once the loss position is determined, the amount is charged off.
Risk Grade 8 – Loss: Loans classified as Loss are considered uncollectable and of such little value that their continuance as bankable assets is not warranted. This classification does not mean that the asset has absolutely no recovery or salvage value, but rather that it is not practical or desirable to defer writing off this worthless loan even though partial recovery may be realized in the future. Loss is a temporary grade until the appropriate authority is obtained to charge the loan off.
    
21
              The following tables present the credit risk profile of each loan type based on internally assigned risk grades as of June 30, 2019 and December 31, 2018:
 
June 30,2019
 
 
 
 
 
 
(Dollars in thousands)  
 
 
Real Estate Loans                
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Construction and Land Development
 
 
Single-Family Residential
 
 
Single-Family Residential - Banco de la Gente non-traditional
 
 
Commercial
 
 
Multifamily and Farmland
 
 
Commercial
 
 
Farm
 
 
Consumer
 
 
All Other
 
 
Total
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
1- Excellent Quality
 $82 
  7,788 
  - 
  - 
  - 
  586 
  - 
  792 
  - 
  9,248 
2- High Quality
  27,751 
  131,136 
  - 
  23,245 
  326 
  23,039 
  - 
  2,896 
  2,063 
  210,456 
3- Good Quality
  49,964 
  100,854 
  13,094 
  220,899 
  39,442 
  72,668 
  933 
  4,521 
  7,253 
  509,628 
4- Management Attention
  6,015 
  18,695 
  14,355 
  34,730 
  3,739 
  6,847 
  127 
  431 
  738 
  85,677 
5- Watch
  3,041 
  3,303 
  2,164 
  2,936 
  558 
  234 
  - 
  12 
  - 
  12,248 
6- Substandard
  67 
  2,948 
  2,886 
  85 
  - 
  92 
  - 
  32 
  - 
  6,110 
7- Doubtful
  - 
  - 
  - 
  - 
  - 
  - 
  - 
  - 
  - 
  - 
8- Loss
  - 
  - 
  - 
  - 
  - 
  - 
  - 
  - 
  - 
  - 
Total
 $86,920 
  264,724 
  32,499 
  281,895 
  44,065 
  103,466 
  1,060 
  8,684 
  10,054 
  833,367 
 
 
December 31, 2018
 
 
(Dollars in thousands)
 
 
 
Real Estate Loans            
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Construction and Land Development
 
 
Single-Family Residential
 
 
Single-Family Residential - Banco de la Gente non-traditional
 
 
Commercial
 
 
Multifamily and Farmland
 
 
Commercial
 
 
Farm
 
 
Consumer
 
 
All Other
 
 
Total
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
1- Excellent Quality
 $504 
  5,795 
  - 
  - 
  - 
  605 
  - 
  673 
  - 
  7,577 
2- High Quality
  24,594 
  128,588 
  - 
  25,321 
  395 
  20,520 
  - 
  3,229 
  2,145 
  204,792 
3- Good Quality
  59,549 
  92,435 
  13,776 
  211,541 
  27,774 
  69,651 
  785 
  4,699 
  8,932 
  489,142 
4- Management Attention
  5,707 
  19,200 
  15,012 
  30,333 
  3,906 
  6,325 
  141 
  529 
  750 
  81,903 
5- Watch
  3,669 
  3,761 
  2,408 
  2,616 
  1,088 
  264 
  - 
  18 
  - 
  13,824 
6- Substandard
  155 
  3,204 
  3,065 
  244 
  - 
  100 
  - 
  17 
  - 
  6,785 
7- Doubtful
  - 
  - 
  - 
  - 
  - 
  - 
  - 
  - 
  - 
  - 
8- Loss
  - 
  - 
  - 
  - 
  - 
  - 
  - 
  - 
  - 
  - 
Total
 $94,178 
  252,983 
  34,261 
  270,055 
  33,163 
  97,465 
  926 
  9,165 
  11,827 
  804,023 
 
Current year TDR modifications, past due TDR loans and non-accrual TDR loans totaled $2.2 million and $4.7 million at June 30, 2019 and December 31, 2018, respectively. The terms of these loans have been renegotiated to provide a concession to original terms, including a reduction in principal or interest as a result of the deteriorating financial position of the borrower. There was zero and $92,000 in performing loans classified as TDR loans at June 30, 2019 and December 31, 2018, respectively.
 
There were no new TDR modifications during the three and six months ended June 30, 2019 and 2018.
 
There were no loans modified as TDR that defaulted during the three and six months ended June 30, 2019 and 2018, which were within 12 months of their modification date. Generally, a TDR loan is considered to be in default once it becomes 90 days or more past due following a modification.

 
22
 
 
(4) 
Net Earnings Per Share
 
Net earnings per share is based on the weighted average number of shares outstanding during the period while the effects of potential shares outstanding during the period are included in diluted earnings per share. The average market price during the year is used to compute equivalent shares.
The reconciliation of the amounts used in the computation of both “basic earnings per share” and “diluted earnings per share” for the three and six months ended June 30, 2019 and 2018 is as follows:
 
For the three months ended June 30, 2019
 
 
 
 
 
 
 
 
 
 
 
 Net Earnings (Dollars in thousands)
 
 
 Weighted Average Number of Shares
 
 
 Per Share Amount
 
Basic earnings per share
 $3,813 
  5,940,556 
 $0.64 
Effect of dilutive securities:
    
    
    
Restricted stock units
  - 
  24,453 
    
Diluted earnings per share
 $3,813 
  5,965,009 
 $0.64 
 
For the six months ended June 30, 2019
 
 
 
 
 
 
 
 
 
 
 
 Net Earnings (Dollars in thousands)
 
 
 Weighted Average Number of Shares
 
 
 Per Share Amount
 
Basic earnings per share
 $7,480 
  5,968,368 
 $1.25 
Effect of dilutive securities:
    
    
    
Restricted stock units
  - 
  24,412 
    
Diluted earnings per share
 $7,480 
  5,992,780 
 $1.25 
 
For the three months ended June 30, 2018
 
 
 
 
 
 
 
 
 
 
 
 Net Earnings (Dollars in thousands)
 
 
 Weighted Average Number of Shares
 
 
 Per Share Amount
 
Basic earnings per share
 $3,176 
  5,995,256 
 $0.53 
Effect of dilutive securities:
    
    
    
Restricted stock units
  - 
  18,917 
    
Diluted earnings per share
 $3,176 
  6,014,173 
 $0.53 
 
For the six months ended June 30, 2018
 
 
 
 
 
 
 
 
 
 
 
 Net Earnings (Dollars in thousands)
 
 
 Weighted Average Number of Shares
 
 
 Per Share Amount
 
Basic earnings per share
 $6,479 
  5,995,256 
 $1.08 
Effect of dilutive securities:
    
    
    
Restricted stock units
  - 
  17,964 
    
Diluted earnings per share
 $6,479 
  6,013,220 
 $1.08 
 
(5) 
Stock-Based Compensation
 
The Company has an Omnibus Stock Ownership and Long Term Incentive Plan that was approved by shareholders on May 7, 2009 (the “Plan”) whereby certain stock-based rights, such as stock options, restricted stock, restricted stock units, performance units, stock appreciation rights or book value shares, may be granted to eligible directors and employees. No shares were available for issuance under the Plan at June 30, 2019 as all stock-based rights under the Plan must have been granted or awarded by May 7, 2019 (i.e., ten years from the Plan effective date).
 
 
23
 
 
The Company granted 32,465 restricted stock units under the Plan at a grant date fair value of $7.18 per share during the first quarter of 2012, of which 5,891 restricted stock units were forfeited by the executive officers of the Company as required by the agreement with the U.S. Department of the Treasury in conjunction with the Company’s participation in the Capital Purchase Program under the Troubled Asset Relief Program. In July 2012, the Company granted 5,891 restricted stock units at a grant date fair value of $7.50 per share. The Company granted 29,475 restricted stock units under the Plan at a grant date fair value of $10.82 per share during the second quarter of 2013. The Company granted 23,162 restricted stock units under the Plan at a grant date fair value of $14.27 per share during the first quarter of 2014. The Company granted 16,583 restricted stock units under the Plan at a grant date fair value of $16.34 per share during the first quarter of 2015. The Company granted 5,544 restricted stock units under the Plan at a grant date fair value of $16.91 per share during the first quarter of 2016. The Company granted 4,114 restricted stock units under the Plan at a grant date fair value of $25.00 per share during the first quarter of 2017. The Company granted 3,725 restricted stock units under the Plan at a grant date fair value of $31.43 per share during the first quarter of 2018. The Company granted 5,290 restricted stock units under the Plan at a grant date fair value of $28.43 per share during the first quarter of 2019. The number of restricted stock units granted and grant date fair values have been restated to reflect the 10% stock dividend that was paid in the fourth quarter of 2017. The Company recognizes compensation expense on the restricted stock units over the period of time the restrictions are in place (five years from the grant date for the 2012 grants, four years from the grant date for the 2013, 2015, 2016, 2017, 2018 and 2019 grants and three years from the grant date for the 2014 grants). The amount of expense recorded each period reflects the changes in the Company’s stock price during such period. As of June 30, 2019, the total unrecognized compensation expense related to the restricted stock unit grants under the Plan was $286,000.
 
The Company recognized compensation expense for restricted stock unit awards granted under the Plan of $170,000 and $139,000 for the six months ended June 30, 2019 and 2018, respectively.
 
(6) 
Fair Value
 
The Company is required to disclose fair value information about financial instruments, whether or not recognized on the face of the balance sheet, for which it is practicable to estimate that value. The assumptions used in the estimation of the fair value of the Company’s financial instruments are detailed below. Where quoted prices are not available, fair values are based on estimates using discounted cash flows and other valuation techniques. The use of discounted cash flows can be significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. The following disclosures should not be considered a surrogate of the liquidation value of the Company, but rather a good faith estimate of the increase or decrease in the value of financial instruments held by the Company since purchase, origination or issuance. The methods of determining the fair value of assets and liabilities presented in this note are consistent with methodologies disclosed in Note 15 of the Company’s 2018 Form 10-K, except for the valuation of loans which was impacted by the adoption of ASU No. 2016-01.
 
The Company groups assets and liabilities at fair value in three levels, based on the markets in which the assets and liabilities are traded and the reliability of the assumptions used to determine fair value. These levels are:
 
Level 1 – Valuation is based upon quoted prices for identical instruments traded in active markets.
Level 2 – Valuation is based upon quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model-based valuation techniques for which all significant assumptions are observable in the market.
Level 3 – Valuation is generated from model-based techniques that use at least one significant assumption not observable in the market. These unobservable assumptions reflect estimates of assumptions that market participants would use in pricing the asset or liability. Valuation techniques include use of option pricing models, discounted cash flow models and similar techniques.
 
Cash and Cash Equivalents
For cash, due from banks and interest-bearing deposits, the carrying amount is a reasonable estimate of fair value. Cash and cash equivalents are reported in the Level 1 fair value category.
 
Investment Securities Available for Sale
Fair values of investment securities available for sale are determined by obtaining quoted prices on nationally recognized securities exchanges when available. If quoted prices are not available, fair value is determined using 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. Fair values for investment securities with quoted market prices are reported in the Level 1 fair value category. Fair value measurements obtained from independent pricing services are reported in the Level 2 fair value category. All other fair value measurements are reported in the Level 3 fair value category.
 
Other Investments
For other investments, the carrying value is a reasonable estimate of fair value. Other investments are reported in the Level 3 fair value category.
 
 
24
 
 
Mortgage Loans Held for Sale
Mortgage loans held for sale are carried at the lower of aggregate cost or market value. The cost of mortgage loans held for sale approximates the market value. Mortgage loans held for sale are reported in the Level 3 fair value category.
 
Loans
In accordance with ASU No. 2016-01, the fair value of loans, excluding previously presented impaired loans measured at fair value on a non-recurring basis, is estimated using discounted cash flow analyses. The discount rates used to determine fair value use interest rate spreads that reflect factors such as liquidity, credit, and nonperformance risk of the loans. Loans are reported in the Level 3 fair value category, as the pricing of loans is more subjective than the pricing of other financial instruments.
 
Cash Surrender Value of Life Insurance
For cash surrender value of life insurance, the carrying value is a reasonable estimate of fair value. Cash surrender value of life insurance is reported in the Level 2 fair value category.
 
Other Real Estate
The fair value of other real estate is based upon independent market prices, appraised values of the collateral or management’s estimation of the value of the collateral. Other real estate is reported in the Level 3 fair value category.
 
Deposits
The fair value of demand deposits, interest-bearing demand deposits and savings is the amount payable on demand at the reporting date. The fair value of certificates of deposit is estimated by discounting the future cash flows using the rates currently offered for deposits of similar remaining maturities. Deposits are reported in the Level 2 fair value category.
 
Securities Sold Under Agreements to Repurchase
For securities sold under agreements to repurchase, the carrying value is a reasonable estimate of fair value. Securities sold under agreements to repurchase are reported in the Level 2 fair value category.
 
FHLB Borrowings
The fair value of FHLB borrowings is estimated based upon discounted future cash flows using a discount rate comparable to the current market rate for such borrowings. FHLB borrowings are reported in the Level 2 fair value category.
 
Junior Subordinated Debentures
Because the Company’s junior subordinated debentures were issued at a floating rate, the carrying amount is a reasonable estimate of fair value. Junior subordinated debentures are reported in the Level 2 fair value category.
 
Commitments to Extend Credit and Standby Letters of Credit
Commitments to extend credit and standby letters of credit are generally short-term and at variable interest rates. Therefore, both the carrying value and estimated fair value associated with these instruments are immaterial.
 
Limitations
Fair value estimates are made at a specific point in time, based on relevant market information and information about the financial instrument. These estimates do not reflect any premium or discount that could result from offering for sale at one time the Company’s entire holdings of a particular financial instrument. Because no market exists for a significant portion of the Company’s financial instruments, fair value estimates are based on many judgments. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with precision. Changes in assumptions could significantly affect the estimates.
 
Fair value estimates are based on existing on and off-balance sheet financial instruments without attempting to estimate the value of anticipated future business and the value of assets and liabilities that are not considered financial instruments. Significant assets and liabilities that are not considered financial instruments include deferred income taxes and premises and equipment. In addition, the tax ramifications related to the realization of unrealized gains and losses can have a significant effect on fair value estimates and have not been considered in the estimates.
 
 
25
 
 

 
The table below presents the balance of securities available for sale, which are measured at fair value on a recurring basis by level within the fair value hierarchy, as of June 30, 2019 and December 31, 2018.
 
(Dollars in thousands)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
June 30, 2019
 
 
 
Fair Value Measurements
 
 
Level 1 Valuation
 
 
Level 2 Valuation
 
 
Level 3 Valuation
 
Mortgage-backed securities
 $59,119 
  - 
  59,119 
  - 
U.S. Government
    
    
    
    
sponsored enterprises
 $33,474 
  - 
  33,474 
  - 
State and political subdivisions
 $96,129 
  - 
  96,129 
  - 
Trust preferred securities
 $250 
  - 
  - 
  250 
 
 
 
December 31, 2018
 
 
 
Fair Value Measurements
 
 
Level 1 Valuation
 
 
Level 2 Valuation
 
 
Level 3 Valuation
 
Mortgage-backed securities
 $52,103 
  - 
  52,103 
  - 
U.S. Government
    
    
    
    
sponsored enterprises
 $34,634 
  - 
  34,634 
  - 
State and political subdivisions
 $107,591 
  - 
  107,591 
  - 
Trust preferred securities
 $250 
  - 
  - 
  250 
 
    
    
    
    
 
 
The following is an analysis of fair value measurements of investment securities available for sale using Level 3, significant unobservable inputs, for the three months ended June 30, 2019.
 
(Dollars in thousands)
 
 
 
 
 
 Investment Securities Available for Sale
 
 
 
 Level 3 Valuation
 
Balance, beginning of period
 $250 
Change in book value
  - 
Change in gain/(loss) realized and unrealized
  - 
Purchases/(sales and calls)
  - 
Transfers in and/or (out) of Level 3
  - 
Balance, end of period
 $250 
 
    
Change in unrealized gain/(loss) for assets still held in Level 3
 $- 
 
The fair value measurements for mortgage loans held for sale, impaired loans and other real estate on a non-recurring basis at June 30, 2019 and December 31, 2018 are presented below. The fair value measurement process uses certified appraisals and other market-based information; however, in many cases, it also requires significant input based on management’s knowledge of, and judgment about, current market conditions, specific issues relating to the collateral and other matters. As a result, all fair value measurements for impaired loans and other real estate are considered Level 3.
 
 
(Dollars in thousands)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Fair Value Measurements
June 30,
2019
 
 
Level 1 Valuation
 
 
Level 2 Valuation
 
 
Level 3 Valuation
 
Mortgage loans held for sale
 $2,309 
  - 
  - 
  2,309 
Impaired loans
 $20,415 
  - 
  - 
  20,415 
Other real estate
 $10 
  - 
  - 
  10 
 
 
 
26
 


(Dollars in thousands)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Fair Value Measurements
December 31,
2018
 
 
Level 1 Valuation
 
 
Level 2 Valuation
 
 
Level 3 Valuation
 
Mortgage loans held for sale
 $680 
  - 
  - 
  680 
Impaired loans
 $21,695 
  - 
  - 
  21,695 
Other real estate
 $27 
  - 
  - 
  27 
 
    
    
    
    
 
 
(Dollars in thousands)
 
 
Fair Value June 30, 2019
 
 
Fair Value December 31, 2018
 
 
Valuation Technique
 
 
Significant Unobservable Inputs
 
 
General Range of Significant Unobservable Input Values
 
Mortgage loans held for sale
 $2,309 
  680 
Rate lock commitment
  N/A 
  N/A 
Impaired loans
 $20,415 
  21,695 
 Appraised value and discounted cash flows
 
Discounts to reflect current market conditions and ultimate collectability
 
  0 - 25%
Other real estate
 $10 
  27 
 Appraised value
 
Discounts to reflect current market conditions and estimated costs to sell
 
  0 - 25%
 
The carrying amount and estimated fair value of financial instruments at June 30, 2019 and December 31, 2018 are as follows:
 
(Dollars in thousands)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Fair Value Measurements at June 30, 2019
 
 
 
 Carrying Amount
 
 
 Level 1
 
 
 Level 2
 
 
 Level 3
 
 
 Total
 
Assets:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Cash and cash equivalents
 $38,822 
  38,822 
  - 
  - 
  38,822 
Investment securities available for sale
 $188,972 
  - 
  188,722 
  250 
  188,972 
Other investments
 $4,296 
  - 
  - 
  4,296 
  4,296 
Mortgage loans held for sale
 $2,309 
  - 
  - 
  2,309 
  2,309 
Loans, net
 $826,826 
  - 
  - 
  803,542 
  803,542 
Cash surrender value of life insurance
 $16,126 
  - 
  16,126 
  - 
  16,126 
 
    
    
    
    
    
Liabilities:
    
    
    
    
    
Deposits
 $904,227 
  - 
  - 
  884,712 
  884,712 
Securities sold under agreements
    
    
    
    
    
to repurchase
 $47,733 
  - 
  47,733 
  - 
  47,733 
Junior subordinated debentures
 $20,619 
  - 
  20,619 
  - 
  20,619 
 
 27
 
 
(Dollars in thousands)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Fair Value Measurements at December 31, 2018
 
 
 
 Carrying Amount
 
 
 Level 1
 
 
 Level 2
 
 
 Level 3
 
 
 Total
 
Assets:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Cash and cash equivalents
 $43,370 
  43,370 
  - 
  - 
  43,370 
Investment securities available for sale
 $194,578 
  - 
  194,328 
  250 
  194,578 
Other investments
 $4,361 
  - 
  - 
  4,361 
  4,361 
Mortgage loans held for sale
 $680 
  - 
  - 
  680 
  680 
Loans, net
 $797,578 
  - 
  - 
  748,917 
  748,917 
Cash surrender value of life insurance
 $15,936 
  - 
  15,936 
  - 
  15,936 
 
    
    
    
    
    
Liabilities:
    
    
    
    
    
Deposits
 $877,213 
  - 
  - 
  857,999 
  857,999 
Securities sold under agreements
    
    
    
    
    
to repurchase
 $58,095 
  - 
  58,095 
  - 
  58,095 
Junior subordinated debentures
 $20,619 
  - 
  20,619 
  - 
  20,619 
 
(7) 
Leases
 
As of June 30, 2019 the Company had operating ROU assets of $4.0 million and operating lease liabilities of $4.0 million. The Company maintains operating leases on land and buildings for some of the Bank’s branch facilities and Loan Production Offices. Most leases include one option to renew, with renewal terms extending up to 15 years. The exercise of renewal options is based on the judgment of management as to whether or not the renewal option is reasonably certain to be exercised. Factors in determining whether an option is reasonably certain of exercise include, but are not limited to, the value of leasehold improvements, the value of renewal rate compared to market rates, and the presence of factors that would cause a significant economic penalty to the Company if the option is not exercised. As allowed by the standard, leases with a term of 12 months or less are not recorded on the balance sheet and instead are recognized in lease expense on a straight-line basis over the lease term.
 
The following table presents lease cost and other lease information as of June 30, 2019.
 
            (Dollars in thousands)
 
 
 
 
 
 June 30,
2019
 
            Operating lease cost:
 
 
 
 
 
 
 
            Operating lease cost
 $4,392 
        Amortization of right-of-use assets
  (392) 
        Interest on lease liability
  - 
            Variable lease cost
  - 
            Total operating lease cost
 $4,000 
 
    
            Other information:
    
        Cash paid for amounts included in the measurement of lease liabilities
  433 
        Operating cash flows from operating leases
  - 
        Right-of-use assets obtained in exchange for new finance operating liabilities
  - 
        Weighted-average remaining lease term - operating leases
  
  4.17 years
 
        Weighted-average discount rate - operating leases
  2.90% 
 
28
 
 
 
The following table presents lease maturities as of June 30, 2019.
 
(Dollars in thousands)
 
 
 
 
 
 
 
Maturity Analysis of Operating Lease Liabilities:
 
 June 30,
2019
 
2020
 $850 
2021
  801 
2022
  648 
2023
  452 
2024
  343 
Thereafter
  1,466 
Total
 $4,560 
Less: Imputed Interest
  (547)
Operating Lease Liability
 $4,013 
 
    
 
(8) 
Subsequent Events
 
The Company has reviewed and evaluated subsequent events and transactions for material subsequent events through the date the financial statements are issued. Management has concluded that there were no material subsequent events.
 
 
29
 
 
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
 
The following is a discussion of the financial position and results of operations of the Company and should be read in conjunction with the information set forth under Item 1A Risk Factors and the Company’s Consolidated Financial Statements and Notes thereto on pages A-24 through A-68 of the Company’s 2018 Annual Report to Shareholders which is Appendix A to the Proxy Statement for the May 2, 2019 Annual Meeting of Shareholders.
 
Introduction
Management’s discussion and analysis of earnings and related data are presented to assist in understanding the consolidated financial condition and results of operations of the Company. The Company is the parent company of the Bank and a registered bank holding company operating under the supervision of the Board of Governors of the Federal Reserve System (the “Federal Reserve”). The Bank is a North Carolina-chartered bank, with offices in Catawba, Lincoln, Alexander, Mecklenburg, Iredell, Wake and Durham counties, operating under the banking laws of North Carolina and the rules and regulations of the Federal Deposit Insurance Corporation.
 
Overview
Our business consists principally of attracting deposits from the general public and investing these funds in commercial loans, real estate mortgage loans, real estate construction loans and consumer loans. Our profitability depends primarily on our net interest income, which is the difference between the income we receive on our loan and investment securities portfolios and our cost of funds, which consists of interest paid on deposits and borrowed funds. Net interest income also is affected by the relative amounts of our interest-earning assets and interest-bearing liabilities. When interest-earning assets approximate or exceed interest-bearing liabilities, a positive interest rate spread will generate net interest income. Our profitability is also affected by the level of other income and operating expenses. Other income consists primarily of miscellaneous fees related to our loans and deposits, mortgage banking income and commissions from sales of annuities and mutual funds. Operating expenses consist of compensation and benefits, occupancy related expenses, federal deposit and other insurance premiums, data processing, advertising and other expenses.
 
Our operations are influenced significantly by local economic conditions and by policies of financial institution regulatory authorities. The earnings on our assets are influenced by the effects of, and changes in, trade, monetary and fiscal policies and laws, including interest rate policies of the Federal Reserve, inflation, interest rates, market and monetary fluctuations. Lending activities are affected by the demand for commercial and other types of loans, which in turn is affected by the interest rates at which such financing may be offered. Our cost of funds is influenced by interest rates on competing investments and by rates offered on similar investments by competing financial institutions in our market area, as well as general market interest rates. These factors can cause fluctuations in our net interest income and other income. In addition, local economic conditions can impact the credit risk of our loan portfolio, in that (1) local employers may be required to eliminate employment positions of individual borrowers, and (2) small businesses and commercial borrowers may experience a downturn in their operating performance and become unable to make timely payments on their loans. Management evaluates these factors in estimating the allowance for loan losses and changes in these economic factors could result in increases or decreases to the provision for loan losses.
 
Current economic conditions, while not as robust as those experienced in the pre-crisis period from 2004 to 2007, have stabilized such that businesses in our market area are growing and investing again. The uncertainty expressed in the local, national and international markets through the primary economic indicators of activity are currently sufficiently stable to allow for reasonable economic growth in our markets.
 
Although we are unable to control the external factors that influence our business, by maintaining high levels of balance sheet liquidity, managing our interest rate exposures and by actively monitoring asset quality, we seek to minimize the potentially adverse risks of unforeseen and unfavorable economic trends.
 
Our business emphasis has been and continues to be to operate as a well-capitalized, profitable and independent community-oriented financial institution dedicated to providing quality customer service. We are committed to meeting the financial needs of the communities in which we operate. We expect growth to be achieved in our local markets and through expansion opportunities in contiguous or nearby markets. While we would be willing to consider growth by acquisition in certain circumstances, we do not consider the acquisition of another company to be necessary for our continued ability to provide a reasonable return to our shareholders. We believe that we can be more effective in serving our customers than many of our non-local competitors because of our ability to quickly and effectively provide senior management responses to customer needs and inquiries. Our ability to provide these services is enhanced by the stability and experience of our Bank officers and managers.
 
 
30
 
 
The Federal Reserve maintained the Federal Funds rate at 0.25% from December 2008 to December 2015 before increasing the Fed Funds rate nine times since December 2015 to the Fed Funds rate of 2.50% at June 30, 2019. These increases have had a positive impact on earnings in recent periods and should continue to have a positive impact on the Bank’s net interest income in future periods.
 
Summary of Significant Accounting Policies
The Company’s accounting policies are fundamental to understanding management’s discussion and analysis of results of operations and financial condition. Many of the Company’s accounting policies require significant judgment regarding valuation of assets and liabilities and/or significant interpretation of specific accounting guidance. A more complete description of the Company’s significant accounting policies can be found in Note 1 of the Notes to Consolidated Financial Statements in the Company’s 2018 Annual Report to Shareholders which is Appendix A to the Proxy Statement for the May 2, 2019 Annual Meeting of Shareholders.
 
Many of the Company’s assets and liabilities are recorded using various techniques that require significant judgment as to recoverability. The collectibility of loans is reflected through the Company’s estimate of the allowance for loan losses. The Company performs periodic and systematic detailed reviews of its lending portfolio to assess overall collectibility. In addition, certain assets and liabilities are reflected at their estimated fair value in the consolidated financial statements. Such amounts are based on either quoted market prices or estimated values derived from dealer quotes used by the Company, market comparisons or internally generated modeling techniques. The Company’s internal models generally involve present value of cash flow techniques. The various techniques are discussed in greater detail elsewhere in this management’s discussion and analysis and the Notes to the Consolidated Financial Statements. Fair value of the Company’s financial instruments is discussed in Note (6) of the Notes to Consolidated Financial Statements (Unaudited) included in this Quarterly Report.
 
Results of Operations
Summary. Net earnings were $3.8 million or $0.64 basic and diluted net earnings per share for the three months ended June 30, 2019, compared to $3.2 million or $0.53 basic and diluted net earnings per share for the same period one year ago. The increase in second quarter net earnings is primarily the result of an increase in net interest income, a decrease in the provision for loan losses and an increase in non-interest income, which were partially offset by an increase in non-interest expense during the three months ended June 30, 2019, compared to the three months ended June 30, 2018, as discussed below.
 
The annualized return on average assets was 1.37% for the three months ended June 30, 2019, compared to 1.16% for the same period one year ago, and annualized return on average shareholders’ equity was 11.96% for the three months ended June 30, 2019, compared to 10.86% for the same period one year ago.
 
Year-to-date net earnings as of June 30, 2019 were $7.5 million or $1.25 basic and diluted net earnings per share, compared to $6.5 million or $1.08 basic and diluted net earnings per share for the same period one year ago. The increase in year-to-date net earnings is primarily attributable to an increase in net interest income and an increase in non-interest income, which were partially offset by an increase in non-interest expense, as discussed below.
 
The annualized return on average assets was 1.37% for the six months ended June 30, 2019, as compared to 1.20% for the same period one year ago, and annualized return on average shareholders’ equity was 11.74% for the six months ended June 30, 2019, as compared to 11.02% for the same period one year ago.
 
Net Interest Income. Net interest income, the major component of the Company’s net earnings, was $11.6 million for the three months ended June 30, 2019, compared to $10.5 million for the three months ended June 30, 2018. The increase in net interest income was primarily due to a $1.3 million increase in interest income, which was partially offset by a $268,000 increase in interest expense. The increase in interest income was primarily attributable to an increase in the average outstanding balance of loans and a 0.50% increase in the prime rate since June 30, 2018. The increase in interest expense was primarily due to an increase in interest rates on deposits.
 
Interest income was $12.4 million for the three months ended June 30, 2019, compared to $11.1 million for the three months ended June 30, 2018. The increase in interest income was primarily due to an increase in interest income on loans, which was partially offset by a decrease in interest income on investment securities. During the quarter ended June 30, 2019, average loans increased $63.8 million to $832.2 million from $768.4 million for the quarter ended June 30, 2018. During the quarter ended June 30, 2019, average investment securities available for sale decreased $24.9 million to $185.2 million from $210.1 million for the quarter ended June 30, 2018. The average yield on loans for the quarters ended June 30, 2019 and 2018 was 5.25% and 4.90%, respectively. The average yield on investment securities available for sale was 3.48% and 3.40% for the quarters ended June 30, 2019 and 2018, respectively. The average yield on earning assets was 4.91% and 4.50% for the quarters ended June 30, 2019 and 2018, respectively.
 
 
31
 
 
  Interest expense was $781,000 for the three months ended June 30, 2019, compared to $513,000 for the three months ended June 30, 2018. The increase in interest expense was primarily due to an increase in the cost of funds. The average rate paid on interest-bearing checking and savings accounts was 0.26% and 0.15% for the three months ended June 30, 2019 and 2018, respectively. The average rate paid on certificates of deposit was 0.69% for the three months ended June 30, 2019, compared to 0.39% for the same period one year ago. The average rate paid on interest-bearing liabilities was 0.48% for the three months ended June 30, 2019, compared to 0.31% for the same period one year ago. During the quarter ended June 30, 2019, average certificates of deposit decreased $14.1 million to $99.7 million from $113.8 million for the quarter ended June 30, 2018. Average FHLB borrowings increased $551,000 to $551,000 for the three months ended June 30, 2019 from zero for the three months ended June 30, 2018.
 
The following table sets forth for each category of interest-earning assets and interest-bearing liabilities, the average amounts outstanding, the interest incurred on such amounts and the average rate earned or incurred for the three months ended June 30, 2019 and 2018. The table also sets forth the average rate earned on total interest-earning assets, the average rate paid on total interest-bearing liabilities, and the net yield on total average interest-earning assets for the same periods. Yield information does not give effect to changes in fair value that are reflected as a component of shareholders’ equity. Yields and interest income on tax-exempt investments for the three months ended June 30, 2019 and 2018 have been adjusted to a tax equivalent basis using an effective tax rate of 22.98% for securities that are both federal and state tax exempt and an effective tax rate of 20.48% for federal tax exempt securities. Non-accrual loans and the interest income that was recorded on non-accrual loans, if any, are included in the yield calculations for loans in all periods reported.
 
 32
 
 
 
 
Three months ended
 
 
Three months ended  
 
 
 
June 30, 2019
 
 
June 30, 2018    
 
(Dollars in thousands)
 
Average Balance
 
 
Interest
 
 
Yield / Rate
 
 
Average Balance
 
 
Interest
 
 
Yield / Rate
 
Interest-earning assets:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Loans receivable
 $832,150 
  10,894 
  5.25%
 $768,411 
  9,386 
  4.90%
Investments - taxable
  60,450 
  472 
  3.13%
  52,853 
  370 
  2.81%
Investments - nontaxable*
  129,699 
  1,184 
  3.66%
  161,469 
  1,445 
  3.59%
Other
  5,422 
  35 
  2.59%
  27,482 
  124 
  1.81%
 
    
    
    
    
    
    
Total interest-earning assets
  1,027,721 
  12,585 
  4.91%
  1,010,215 
  11,325 
  4.50%
 
    
    
    
    
    
    
Non-interest earning assets:
    
    
    
    
    
    
Cash and due from banks
  36,604 
    
    
  44,735 
    
    
Allowance for loan losses
  (6,557)
    
    
  (6,350)
    
    
Other assets
  57,112 
    
    
  52,067 
    
    
 
    
    
    
    
    
    
Total assets
 $1,114,880 
    
    
 $1,100,667 
    
    
 
    
    
    
    
    
    
 
    
    
    
    
    
    
Interest-bearing liabilities:
    
    
    
    
    
    
 
    
    
    
    
    
    
NOW, MMDA & savings deposits
 $489,305 
  320 
  0.26%
 $489,363 
  186 
  0.15%
Time deposits
  99,704 
  171 
  0.69%
  113,790 
  110 
  0.39%
FHLB borrowings
  551 
  3
 
  2.18%
  - 
  - 
  - 
Trust preferred securities
  20,619
 
  220 
  4.28%
  20,619 
  198 
  3.85%
Other
  46,074 
  67
 
  0.58%
  43,782 
  19 
  0.17%
 
    
    
    
    
    
    
Total interest-bearing liabilities
  656,253
 
  781 
  0.48%
  667,554 
  513 
  0.31%
 
    
    
    
    
    
    
Non-interest bearing liabilities and shareholders' equity:
    
    
    
    
    
Demand deposits
  324,813 
    
    
  312,481 
    
    
Other liabilities
  5,949
 
    
    
  3,282 
    
    
Shareholders' equity
  127,865 
    
    
  117,350 
    
    
 
    
    
    
    
    
    
Total liabilities and shareholder's equity
 $1,114,880 
    
    
 $1,100,667 
    
    
 
    
    
    
    
    
    
Net interest spread
    
 $11,804 
  4.43%
    
 $10,812 
  4.19%
 
    
    
    
    
    
    
Net yield on interest-earning assets
    
    
  4.61%
    
    
  4.29%
 
    
    
    
    
    
    
Taxable equivalent adjustment
    
    
    
    
    
    
Investment securities
    
 $210 
    
    
 $266 
    
 
    
    
    
    
    
    
Net interest income
    
 $11,594 
    
    
 $10,546 
    
 
*Includes U.S. Government agency securities that are non-taxable for state income tax purposes of $33.6 million in 2019 and $38.6 million in 2018. A tax rate of 2.50% was used to calculate the tax equivalent yield on these securities in 2019 and 2018.
 
Year-to-date net interest income as of June 30, 2019 was $23.0 million, compared to $20.8 million for the same period one year ago. The increase in net interest income was primarily due to a $2.7 million increase in interest income, which was partially offset by a $558,000 increase in interest expense. The increase in interest income was primarily attributable to an increase in the average outstanding balance of loans and a 0.50% increase in the prime rate since June 30, 2018. The increase in interest expense was primarily due to an increase in interest rates on deposits. Net interest income after the provision for loan losses was $22.8 million for the six months ended June 30, 2019, compared to $20.6 million for the same period one year ago.
 
Interest income was $24.6 million for the six months ended June 30, 2019, compared to $21.8 million for the six months ended June 30, 2018. The increase in interest income was primarily due to an increase in interest income on loans, which was partially offset by a decrease in interest income on investment securities. During the six months ended June 30, 2019, average loans increased $56.7 million to $823.7 million from $767.0 million for the six months ended June 30, 2018. During the six months ended June 30, 2019, average investment securities available for sale decreased $26.2 million to $187.5 million from $213.7 million for the six months ended June 30, 2018. The average yield on loans for the six months ended June 30, 2019 and 2018 was 5.27% and 4.85%, respectively. The average yield on investment securities available for sale was 3.58% and 3.44% for the six months ended June 30, 2019 and 2018, respectively. The average yield on earning assets was 4.94% and 4.49% for the six months ended June 30, 2019 and 2018, respectively.
 
 
33
 
 
 
 
  Interest expense was $1.5 million for the six months ended June 30, 2019, compared to $980,000 for the six months ended June 30, 2018. The increase in interest expense was primarily due to an increase in the cost of funds. The average rate paid on interest-bearing checking and savings accounts was 0.25% and 0.15% for the six months ended June 30, 2019 and 2018, respectively. The average rate paid on certificates of deposit was 0.64% for the six months ended June 30, 2019, compared to 0.37% for the same period one year ago. The average rate paid on interest-bearing liabilities was 0.47% for the six months ended June 30, 2019, compared to 0.29% for the same period one year ago. During the six months ended June 30, 2019, average certificates of deposit decreased $15.6 million to $101.6 million from $117.2 million for the six months ended June 30, 2018. Average FHLB borrowings increased $3.7 million to $3.7 million for the six months ended June 30, 2019 from zero for the six months ended June 30, 2018.
 
The following table sets forth for each category of interest-earning assets and interest-bearing liabilities, the average amounts outstanding, the interest incurred on such amounts and the average rate earned or incurred for the six months ended June 30, 2019 and 2018. The table also sets forth the average rate earned on total interest-earning assets, the average rate paid on total interest-bearing liabilities, and the net yield on total average interest-earning assets for the same periods. Yield information does not give effect to changes in fair value that are reflected as a component of shareholders’ equity. Yields and interest income on tax-exempt investments for the six months ended June 30, 2019 and 2018 have been adjusted to a tax equivalent basis using an effective tax rate of 22.98% for securities that are both federal and state tax exempt and an effective tax rate of 20.48% for federal tax exempt securities. Non-accrual loans and the interest income that was recorded on non-accrual loans, if any, are included in the yield calculations for loans in all periods reported.
 
 34
 
 
 
 
Six months ended
 
 
Six months ended
 
 
 
June 30, 2019
 
 
June 30, 2018
 
(Dollars in thousands)
 
Average Balance
 
 
Interest
 
 
Yield / Rate
 
 
Average Balance
 
 
Interest
 
 
Yield / Rate
 
Interest-earning assets:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Loans receivable
 $823,723 
  21,513 
  5.27%
 $767,048 
  18,455 
  4.85%
Investments - taxable
  59,029 
  940 
  3.21%
  54,255 
  775 
  2.88%
Investments - nontaxable*
  133,557 
  2,489 
  3.76%
  162,834 
  2,955 
  3.66%
Other
  4,247 
  49
 
  2.37%
  20,116 
  169 
  1.69%
 
    
    
    
    
    
    
Total interest-earning assets
  1,020,556 
  24,991
 
  4.94%
  1,004,253 
  22,354 
  4.49%
 
    
    
    
    
    
    
Non-interest earning assets:
    
    
    
    
    
    
Cash and due from banks
  35,181 
    
    
  40,327 
    
    
Allowance for loan losses
  (6,493)
    
    
  (6,359)
    
    
Other assets
  54,171 
    
    
  52,358 
    
    
 
    
    
    
    
    
    
Total assets
 $1,103,415 
    
    
 $1,090,579 
    
    
 
    
    
    
    
    
    
 
    
    
    
    
    
    
Interest-bearing liabilities:
    
    
    
    
    
    
 
    
    
    
    
    
    
NOW, MMDA & savings deposits
 $484,642 
  602 
  0.25%
 $490,616 
  362 
  0.15%
Time deposits
  101,597 
  322 
  0.64%
  117,162 
  215 
  0.37%
FHLB borrowings
  3,704 
  49 
  2.67%
  - 
  - 
  - 
Trust preferred securities
  20,619
 
  446 
  4.36%
  20,619 
  369 
  3.61%
Other
  43,171 
  119 
  0.56%
  41,663 
  34 
  0.16%
 
    
    
    
    
    
    
Total interest-bearing liabilities
  653,733
 
  1,538 
  0.47%
  670,060 
  980 
  0.29%
 
    
    
    
    
    
    
 
Non-interest bearing liabilities and shareholders' equity:
 
    
    
    
    
    
Demand deposits
  318,575 
    
    
  300,419 
    
    
Other liabilities
  2,597
 
    
    
  1,555 
    
    
Shareholders' equity
  128,510 
    
    
  118,545 
    
    
 
    
    
    
    
    
    
Total liabilities and shareholder's equity
 $1,103,415 
    
    
 $1,090,579 
    
    
 
    
    
    
    
    
    
Net interest spread
    
 $23,453
 
  4.47%
    
 $21,374 
  4.19%
 
    
    
    
    
    
    
Net yield on interest-earning assets
    
    
  4.63%
    
    
  4.29%
 
    
    
    
    
    
    
Taxable equivalent adjustment
    
    
    
    
    
    
Investment securities
    
 $433
 
    
    
 $536 
    
 
    
    
    
    
    
    
Net interest income
    
 $23,020 
    
    
 $20,838 
    
 
*Includes U.S. Government agency securities that are non-taxable for state income tax purposes of $34.3 million in 2019 and $39.2 million in 2018. A tax rate of 2.50% was used to calculate the tax equivalent yield on these securities in 2019 and 2018.
 
 
35
 
 
Changes in interest income and interest expense can result from variances in both volume and rates. The following table presents the impact on the Company’s tax equivalent net interest income resulting from changes in average balances and average rates for the periods indicated. The changes in interest due to both volume and rate have been allocated to volume and rate changes in proportion to the relationship of the absolute dollar amounts of the changes in each.
 
 
 
 Three months ended June 30, 2019 compared to three months ended June 30, 2018
 
 
 Six months ended June 30, 2019 compared to six months ended June 30, 2018
 
(Dollars in thousands)
 
Changes in average volume
 
 
Changes in average rates
 
 
Total Increase (Decrease)
 
 
Changes in average volume
 
 
Changes in average rates
 
 
Total Increase (Decrease)
 
Interest income:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Loans: Net of unearned income
 $807 
  701 
  1,508 
  1,422 
  1,636 
  3,058 
Investments - taxable
  56 
  46 
  102 
  72 
  93 
  165 
Investments - nontaxable
  (287)
  26 
  (261)
  (538)
  72 
  (466)
Other
  (121)
  32 
  (89)
  (160)
  41 
  (119)
Total interest income
  455 
  805 
  1,260 
  796 
  1,842 
  2,638 
 
    
    
    
    
    
    
Interest expense:
    
    
    
    
    
    
NOW, MMDA & savings deposits
  - 
  134 
  134 
  (6)
  246 
  240 
Time deposits
  (19)
  80 
  61 
  (39)
  146 
  107 
FHLB borrowings
  2 
  2 
  4 
  25 
  24 
  49 
Trust preferred securities
  (6)
  28 
  22 
  (12)
  89 
  77 
Other
  2 
  45 
  47 
  3 
  82 
  85 
Total interest expense
  (21)
  289 
  268 
  (29)
  587 
  558 
Net interest income
 $476 
  516 
  992 
  825 
  1,255 
  2,080 
 
    
    
    
    
    
    
 
Provision for Loan Losses. The provision for loan losses for the three months ended June 30, 2019 was $77,000, compared to $231,000 for the three months ended June 30, 2018. The decrease in the provision for loan losses is primarily attributable to a reduction in the required level of the allowance for loan losses in the Company’s ASC 450-20 reserve calculation resulting from lower historical loss rates and lower qualitative adjustments for economic conditions and other factors.
 
The provision for loan losses for the six months ended June 30, 2019 was $255,000, compared to $262,000 for the six months ended June 30, 2018.
 
Non-Interest Income. Total non-interest income was $4.4 million for the three months ended June 30, 2019, compared to $4.0 million for the three months ended June 30, 2018. The increase in non-interest income is primarily attributable to a $258,000 increase in appraisal management fee income due to an increase in volume.
 
Non-interest income was $8.5 million for the six months ended June 30, 2019, compared to $7.8 million for the six months ended June 30, 2018. The increase in non-interest income is primarily attributable to a $331,000 increase in appraisal management fee income due to an increase in volume.
 
Non-Interest Expense. Total non-interest expense was $11.2 million for the three months ended June 30, 2019, compared to $10.6 million for the three months ended June 30, 2018. The increase in non-interest expense was primarily attributable to a $333,000 increase in salaries and benefits expense, which was primarily due to an increase in the number of full-time equivalent employees and annual salary increases.
 
Non-interest expense was $22.2 million for the six months ended June 30, 2019, compared to $20.6 million for the six months ended June 30, 2018. The increase in non-interest expense was primarily due to a $1.0 million increase in salaries and benefits expense primarily due to an increase in the number of full-time equivalent employees and annual salary increases.
 
Income Taxes. Income tax expense was $845,000 for the three months ended June 30, 2019, compared to $595,000 for the three months ended June 30, 2018. The effective tax rate was 18.14% for the three months ended June 30, 2019, compared to 15.78% for the three months ended June 30, 2018. Income tax expense was $1.6 million for the six months ended June 30, 2019, compared to $1.2 million for the six months ended June 30, 2018. The effective tax rate was 17.89% for the six months ended June 30, 2019, compared to 16.14% for the six months ended June 30, 2018.
 
 
36
 
 
 
Analysis of Financial Condition
Investment Securities. Available for sale securities were $189.0 million at June 30, 2019, compared to $194.6 million at December 31, 2018. Average investment securities available for sale for the six months ended June 30, 2019 were $187.5 million, compared to $209.7 million for the year ended December 31, 2018.
 
Loans. At June 30, 2019, loans were $833.4 million, compared to $804.0 million at December 31, 2018. Average loans represented 81% and 71% of average earning assets for the six months ended June 30, 2019 and the year ended December 31, 2018, respectively.
 
The Company had $2.3 million and $680,000 in mortgage loans held for sale as of June 30, 2019 and December 31, 2018, respectively.
 
Although the Company has a diversified loan portfolio, a substantial portion of the loan portfolio is collateralized by real estate, which is dependent upon the real estate market. Real estate mortgage loans include both commercial and residential mortgage loans. At June 30, 2019, the Company had $103.4 million in residential mortgage loans, $109.2 million in home equity loans and $407.7 million in commercial mortgage loans, which include $325.5 million secured by commercial property and $82.2 million secured by residential property. Residential mortgage loans include $32.5 million in non-traditional mortgage loans from the former Banco division of the Bank. All residential mortgage loans are originated as fully amortizing loans, with no negative amortization.
 
At June 30, 2019, the Company had $86.9 million in construction and land development loans. The following table presents a breakout of these loans.
 
(Dollars in thousands)
 
 
 
 
 
 
 
 
 
 
 
Number of Loans
 
 
Balance Outstanding
 
 
Non-accrual Balance
 
Land acquisition and development - commercial purposes
  42 
 $9,494 
 $- 
Land acquisition and development - residential purposes
  181 
  18,805 
  - 
1 to 4 family residential construction
  122 
  26,332 
  - 
Commercial construction
  19 
  32,289 
  - 
Total construction and land development
  364 
 $86,920 
 $- 
 
    
    
    
 
Current year TDR modifications, past due TDR loans and non-accrual TDR loans totaled $2.2 million and $4.7 million at June 30, 2019 and December 31, 2018, respectively. The terms of these loans have been renegotiated to provide a concession to original terms, including a reduction in principal or interest as a result of the deteriorating financial position of the borrower. There was zero and $92,000 in performing loans classified as TDR loans at June 30, 2019 and December 31, 2018, respectively.
 
Allowance for Loan Losses. The allowance for loan losses reflects management’s assessment and estimate of the risks associated with extending credit and its evaluation of the quality of the loan portfolio. The Bank periodically analyzes the loan portfolio in an effort to review asset quality and to establish an allowance for loan losses that management believes will be adequate in light of anticipated risks and loan losses. In assessing the adequacy of the allowance, size, quality and risk of loans in the portfolio are reviewed. Other factors considered are:
 
the Bank’s loan loss experience;
the amount of past due and non-performing loans;
specific known risks;
the status and amount of other past due and non-performing assets;
underlying estimated values of collateral securing loans;
current and anticipated economic conditions; and
other factors which management believes affect the allowance for potential credit losses.
            
             Management uses several measures to assess and monitor the credit risks in the loan portfolio, including a loan grading system that begins upon loan origination and continues until the loan is collected or collectability becomes doubtful. Upon loan origination, the Bank’s originating loan officer evaluates the quality of the loan and assigns one of eight risk grades. The loan officer monitors the loan’s performance and credit quality and makes changes to the credit grade as conditions warrant. When originated or renewed, all loans over a certain dollar amount receive in-depth reviews and risk assessments by the Bank’s Credit Administration. Before making any changes in these risk grades, management considers assessments as determined by the third party credit review firm (as described below), regulatory examiners and the Bank’s Credit Administration. Any issues regarding the risk assessments are addressed by the Bank’s senior credit administrators and factored into management’s decision to originate or renew the loan. The Bank’s Board of Directors reviews, on a monthly basis, an analysis of the Bank’s reserves relative to the range of reserves estimated by the Bank’s Credit Administration.
 
37
 
 
 
As an additional measure, the Bank engages an independent third party to review the underwriting, documentation and risk grading analyses. This independent third party reviews and evaluates loan relationships greater than $1.0 million, excluding loans in default, and loans in process of litigation or liquidation. The third party’s evaluation and report is shared with management and the Bank’s Board of Directors.
 
Management considers certain commercial loans with weak credit risk grades to be individually impaired and measures such impairment based upon available cash flows and the value of the collateral. Allowance or reserve levels are estimated for all other graded loans in the portfolio based on their assigned credit risk grade, type of loan and other matters related to credit risk.
 
Management uses the information developed from the procedures described above in evaluating and grading the loan portfolio. This continual grading process is used to monitor the credit quality of the loan portfolio and to assist management in estimating the allowance for loan losses. The provision for loan losses charged or credited to earnings is based upon management’s judgment of the amount necessary to maintain the allowance at a level appropriate to absorb probable incurred losses in the loan portfolio at the balance sheet date. The amount each quarter is dependent upon many factors, including growth and changes in the composition of the loan portfolio, net charge-offs, delinquencies, management’s assessment of loan portfolio quality, the value of collateral, and other macro-economic factors and trends. The evaluation of these factors is performed quarterly by management through an analysis of the appropriateness of the allowance for loan losses.
 
The allowance for loan losses is comprised of three components: specific reserves, general reserves and unallocated reserves. After a loan has been identified as impaired, management measures impairment. When the measure of the impaired loan is less than the recorded investment in the loan, the amount of the impairment is recorded as a specific reserve. These specific reserves are determined on an individual loan basis based on management’s current evaluation of the Bank’s loss exposure for each credit, given the appraised value of any underlying collateral. Loans for which specific reserves are provided are excluded from the general allowance calculations as described below.
 
The general allowance reflects reserves established under GAAP for collective loan impairment. These reserves are based upon historical net charge-offs using the greater of the last two, three, four or five years’ loss experience. This charge-off experience may be adjusted to reflect the effects of current conditions. The Bank considers information derived from its loan risk ratings and external data related to industry and general economic trends in establishing reserves.
 
The unallocated allowance is determined through management’s assessment of probable losses that are in the portfolio but are not adequately captured by the other two components of the allowance, including consideration of current economic and business conditions and regulatory requirements. The unallocated allowance also reflects management’s acknowledgement of the imprecision and subjectivity that underlie the modeling of credit risk. Due to the subjectivity involved in determining the overall allowance, including the unallocated portion, the unallocated portion may fluctuate from period to period based on management’s evaluation of the factors affecting the assumptions used in calculating the allowance.
 
Effective December 31, 2012, certain mortgage loans from the former Banco division of the Bank were analyzed separately from other single family residential loans in the Bank’s loan portfolio. These loans are first mortgage loans made to the Latino market, primarily in Mecklenburg, North Carolina and surrounding counties. These loans are non-traditional mortgages in that the customer normally did not have a credit history, so all credit information was accumulated by the loan officers.
 
Various regulatory agencies, as an integral part of their examination process, periodically review the Bank’s allowance for loan losses. Such agencies may require adjustments to the allowance based on their judgments of information available to them at the time of their examinations. Management believes it has established the allowance for credit losses pursuant to GAAP, and has taken into account the views of its regulators and the current economic environment. Management considers the allowance for loan losses adequate to cover the estimated losses inherent in the Bank’s loan portfolio as of the date of the financial statements. Although management uses the best information available to make evaluations, significant future additions to the allowance may be necessary based on changes in economic and other conditions, thus adversely affecting the operating results of the Company.
 
There were no significant changes in the estimation methods or fundamental assumptions used in the evaluation of the allowance for loan losses for the six months ended June 30, 2019 compared to the six months ended June 30, 2018. Revisions, estimates and assumptions may be made in any period in which the supporting factors indicate that loss levels may vary from the previous estimates.
 
The allowance for loan losses at June 30, 2019 was $6.5 million or 0.78% of total loans, compared to $6.4 million or 0.80% of total loans at December 31, 2018.
 
 
38
 
 
 
The following table presents the percentage of loans assigned to each risk grade at June 30, 2019 and December 31, 2018.
 
 
 
Percentage of Loans
 
 
 
By Risk Grade
 
Risk Grade
 
6/30/2019
 
 
12/31/2018
 
Risk Grade 1 (Excellent Quality)
  1.11%
  0.94%
Risk Grade 2 (High Quality)
  25.25%
  25.47%
Risk Grade 3 (Good Quality)
  61.16%
  60.84%
Risk Grade 4 (Management Attention)
  10.28%
  10.19%
Risk Grade 5 (Watch)
  1.47%
  1.72%
Risk Grade 6 (Substandard)
  0.73%
  0.84%
Risk Grade 7 (Doubtful)
  0.00%
  0.00%
Risk Grade 8 (Loss)
  0.00%
  0.00%
 
At June 30, 2019, including non-accrual loans, there were two relationships exceeding $1.0 million in the Watch risk grade (which totaled $3.1 million). There were no relationships exceeding $1.0 million in the Substandard risk grade.
 
Non-performing Assets. Non-performing assets totaled $3.0 million at June 30, 2019 or 0.27% of total assets, compared to $3.3 million or 0.31% of total assets at December 31, 2018. Non-accrual loans were $3.0 million at June 30, 2019 and $3.3 million at December 31, 2018. As a percentage of total loans outstanding, non-accrual loans were 0.36% at June 30, 2019, compared to 0.41% at December 31, 2018. Non-accrual loans include $2.9 million in commercial and residential mortgage loans and $102,000 in other loans at June 30, 2019, compared to $3.2 million in commercial and residential mortgage loans, $1,000 in construction and land development loans and $99,000 in other loans at December 31, 2018. The Bank had no loans 90 days past due and still accruing at June 30, 2019 or December 31, 2018. The Bank had $10,000 in other real estate owned at June 30, 2019, compared to $27,000 at December 31, 2018.
 
             Deposits. Total deposits at June 30, 2019 were $904.2 million compared to $877.2 million at December 31, 2018. Core deposits, which include demand deposits, savings accounts and non-brokered certificates of deposits of denominations less than $250,000, amounted to $889.8 million at June 30, 2019, compared to $859.2 million at December 31, 2018.
 
Borrowed Funds. There were no FHLB borrowings outstanding at June 30, 2019 and December 31, 2018.
 
Securities sold under agreements to repurchase were $47.7 million at June 30, 2019, compared to $58.1 million at December 31, 2018.
 
Junior Subordinated Debentures (related to Trust Preferred Securities). In June 2006, the Company formed a wholly owned Delaware statutory trust, PEBK Capital Trust II (“PEBK Trust II”), which issued $20.0 million of guaranteed preferred beneficial interests in the Company’s junior subordinated deferrable interest debentures. All of the common securities of PEBK Trust II are owned by the Company. The proceeds from the issuance of the common securities and the trust preferred securities were used by PEBK Trust II to purchase $20.6 million of junior subordinated debentures of the Company, which pay a floating rate equal to three-month LIBOR plus 163 basis points. The proceeds received by the Company from the sale of the junior subordinated debentures were used to repay in December 2006 the trust preferred securities issued in December 2001 by PEBK Capital Trust, a wholly owned Delaware statutory trust of the Company, and for general purposes. The debentures represent the sole asset of PEBK Trust II. PEBK Trust II is not included in the Consolidated Financial Statements.
 
The trust preferred securities issued by PEBK Trust II accrue and pay quarterly at a floating rate of three-month LIBOR plus 163 basis points. The Company has guaranteed distributions and other payments due on the trust preferred securities to the extent PEBK Trust II does not have funds with which to make the distributions and other payments. The net combined effect of the trust preferred securities transaction is that the Company is obligated to make the distributions and other payments required on the trust preferred securities.
 
These trust preferred securities are mandatorily redeemable upon maturity of the debentures on June 28, 2036, or upon earlier redemption as provided in the indenture. The Company has the right to redeem the debentures purchased by PEBK Trust II, in whole or in part, which became effective on June 28, 2011. As specified in the indenture, if the debentures are redeemed prior to maturity, the redemption price will be the principal amount plus any accrued but unpaid interest.
 
 
 
39
 
 

Asset Liability and Interest Rate Risk Management. The objective of the Company’s Asset Liability and Interest Rate Risk strategies is to identify and manage the sensitivity of net interest income to changing interest rates and to minimize the interest rate risk between interest-earning assets and interest-bearing liabilities at various maturities. This is to be done in conjunction with the need to maintain adequate liquidity and the overall goal of maximizing net interest income.
 
The Company manages its exposure to fluctuations in interest rates through policies established by our Asset/Liability Committee (“ALCO”). ALCO meets quarterly and has the responsibility for approving asset/liability management policies, formulating and implementing strategies to improve balance sheet positioning and/or earnings and reviewing the interest rate sensitivity of the Company. ALCO tries to minimize interest rate risk between interest-earning assets and interest-bearing liabilities by attempting to minimize wide fluctuations in net interest income due to interest rate movements. The ability to control these fluctuations has a direct impact on the profitability of the Company. Management monitors this activity on a regular basis through analysis of its portfolios to determine the difference between rate sensitive assets and rate sensitive liabilities.
 
The Company’s rate sensitive assets are those earning interest at variable rates and those with contractual maturities within one year. Rate sensitive assets therefore include both loans and available for sale securities. Rate sensitive liabilities include interest-bearing checking accounts, money market deposit accounts, savings accounts, time deposits and borrowed funds. Average rate sensitive assets for the six months ended June 30, 2019 totaled $1.0 billion, exceeding average rate sensitive liabilities of $653.1 million by $367.4 million.
 
The Company has an overall interest rate risk management strategy that incorporates the use of derivative instruments to minimize significant unplanned fluctuations in earnings that are caused by interest rate volatility. By using derivative instruments, the Company is exposed to credit and market risk. If the counterparty fails to perform, credit risk is equal to the extent of the fair-value gain in the derivative. The Company minimizes the credit risk in derivative instruments by entering into transactions with high-quality counterparties that are reviewed periodically by the Company. The Company did not have any interest rate derivatives outstanding as of June 30, 2019.
 
Included in the rate sensitive assets are $263.2 million in variable rate loans indexed to prime rate subject to immediate repricing upon changes by the Federal Open Market Committee (“FOMC”). The Company utilizes interest rate floors on certain variable rate loans to protect against further downward movements in the prime rate. At June 30, 2019, the Company had $153.5 million in loans with interest rate floors. The floors were in effect on $2.3 million of these loans pursuant to the terms of the promissory notes on these loans. The weighted average rate on these loans is 0.47% higher than the indexed rate on the promissory notes without interest rate floors.
 
            
Liquidity. The objectives of the Company’s liquidity policy are to provide for the availability of adequate funds to meet the needs of loan demand, deposit withdrawals, maturing liabilities and to satisfy regulatory requirements. Both deposit and loan customer cash needs can fluctuate significantly depending upon business cycles, economic conditions and yields and returns available from alternative investment opportunities. In addition, the Company’s liquidity is affected by off-balance sheet commitments to lend in the form of unfunded commitments to extend credit and standby letters of credit. As of June 30, 2019, such unfunded commitments to extend credit were $269.0 million, while commitments in the form of standby letters of credit totaled $3.5 million.
 
The Company uses several sources to meet its liquidity requirements. The primary source is core deposits, which includes demand deposits, savings accounts and non-brokered certificates of deposit of denominations less than $250,000. The Company considers these to be a stable portion of the Company’s liability mix and the result of on-going consumer and commercial banking relationships. As of June 30, 2019, the Company’s core deposits totaled $889.8 million, or 98.41% of total deposits.
 
The other sources of funding for the Company are through large denomination certificates of deposit, including brokered deposits, federal funds purchased, securities under agreements to repurchase and FHLB borrowings. The Bank is also able to borrow from the Federal Reserve Bank (“FRB”) on a short-term basis. The Company’s policies include the ability to access wholesale funding of up to 40% of total assets. The Company’s wholesale funding includes FHLB borrowings, FRB borrowings, brokered deposits, internet certificates of deposit and certificates of deposit issued to the State of North Carolina. The Company’s ratio of wholesale funding to total assets was 0.26% as of June 30, 2019.
 
The Bank has a line of credit with the FHLB equal to 20% of the Bank’s total assets. There were no FHLB borrowings outstanding at June 30, 2019 and December 31, 2018. At June 30, 2019, the carrying value of loans pledged as collateral to the FHLB totaled $146.3 million compared to $140.0 million at December 31, 2018. The remaining availability under the line of credit with the FHLB was $90.3 million at June 30, 2019 compared to $84.9 million at December 31, 2018. The Bank had no borrowings from the FRB at June 30, 2019 or December 31, 2018. FRB borrowings are collateralized by a blanket assignment on all qualifying loans that the Bank owns which are not pledged to the FHLB. At June 30, 2019, the carrying value of loans pledged as collateral to the FRB totaled $448.7 million compared to $442.6 million at December 31, 2018.
 
 
 
40
 
 
The Bank also had the ability to borrow up to $82.5 million for the purchase of overnight federal funds from six correspondent financial institutions as of June 30, 2019.
 
The liquidity ratio for the Bank, which is defined as net cash, interest-bearing deposits, federal funds sold and certain investment securities, as a percentage of net deposits and short-term liabilities was 14.54% at June 30, 2019 and 16.09% at December 31, 2018. The minimum required liquidity ratio as defined in the Bank’s Asset/Liability and Interest Rate Risk Management Policy was 10% at June 30, 2019 and December 31, 2018.
 
Contractual Obligations and Off-Balance Sheet Arrangements. The Company’s contractual obligations and other commitments as of June 30, 2019 and December 31, 2018 are summarized in the table below. The Company’s contractual obligations include junior subordinated debentures, as well as certain payments under current lease agreements. Other commitments include commitments to extend credit. Because not all of these commitments to extend credit will be drawn upon, the actual cash requirements are likely to be significantly less than the amounts reported for other commitments below.
 
(Dollars in thousands)
 
 
 
 
 
 
 
 
 June 30, 2019
 
 
 December 31, 2018
 
Contractual Cash Obligations
 
 
 
 
 
 
Junior subordinated debentures
 $20,619 
  20,619 
Operating lease obligations
  4,418 
  4,318
Total
 $25,037 
  24,937
Other Commitments
    
    
Commitments to extend credit
 $269,015 
  268,708 
Standby letters of credit and financial guarantees written
  3,507 
  3,651 
Commitments to purchase AFS securities
  3,073 
  - 
Income tax credits
  517 
  755 
Total
 $276,112 
  273,114 
 
The Company enters into derivative contracts from time to time to manage various financial risks. A derivative is a financial instrument that derives its cash flows, and therefore its value, by reference to an underlying instrument, index or referenced interest rate. Derivative contracts are     carried at fair value on the consolidated balance sheet with the fair value representing the net present value of expected future cash receipts or payments based on market interest rates as of the balance sheet date. Derivative contracts are written in amounts referred to as notional amounts, which only provide the basis for calculating payments between counterparties and are not a measure of financial risk. Further discussions of derivative instruments are included above in the section entitled “Asset Liability and Interest Rate Risk Management”.
 
Capital Resources. Shareholders’ equity was $129.9 million, or 11.64% of total assets, as of June 30, 2019, compared to $123.6 million, or 11.31% of total assets, as of December 31, 2018.
 
Annualized return on average equity for the six months ended June 30, 2019 was 11.74%, compared to 11.02% for the six months ended June 30, 2018. Total cash dividends paid on common stock were $2.3 million and $1.6 million for the six months ended June 30, 2019 and 2018, respectively.
 
The Board of Directors, at its discretion, can issue shares of preferred stock up to a maximum of 5,000,000 shares. The Board is authorized to determine the number of shares, voting powers, designations, preferences, limitations and relative rights. The Board of Directors does not currently anticipate issuing any additional series of preferred stock.
 
In February of 2019, the Company’s Board of Directors authorized a stock repurchase program, whereby up to $5 million will be allocated to repurchase the Company’s common stock. Any purchases under the Company’s stock repurchase program may be made periodically as permitted by securities laws and other legal requirements in the open market or in privately-negotiated transactions. The timing and amount of any repurchase of shares will be determined by the Company’s management, based on its evaluation of market conditions and other factors. The stock repurchase program may be suspended at any time or from time-to-time without prior notice. The Company has repurchased approximately $1.9 million, or 69,514 shares of its common stock, under this stock repurchase program as of June 30, 2019.
 
 
 
41
 

 In 2013, the FRB approved its final rule on the Basel III capital standards, which implement changes to the regulatory capital framework for banking organizations. The Basel III capital standards, which became effective January 1, 2015, include new risk-based capital and leverage ratios, which were phased in from 2015 to 2019. The new minimum capital level requirements applicable to the Company and the Bank under the final rules are as follows: (i) a new common equity Tier 1 capital ratio of 4.5%; (ii) a Tier 1 capital ratio of 6% (increased from 4%); (iii) a total risk based capital ratio of 8% (unchanged from previous rules); and (iv) a Tier 1 leverage ratio of 4% (unchanged from previous rules). An additional capital conservation buffer was added to the minimum requirements for capital adequacy purposes beginning on January 1, 2016 and was phased in through 2019 (increasing by 0.625% on January 1, 2016 and each subsequent January 1, until it reached 2.5% on January 1, 2019). This resulted in the following minimum ratios beginning in 2019: (i) a common equity Tier 1 capital ratio of 7.0%, (ii) a Tier 1 capital ratio of 8.5%, and (iii) a total capital ratio of 10.5%. Under the final rules, institutions would be subject to limitations on paying dividends, engaging in share repurchases, and paying discretionary bonuses if its capital level falls below the buffer amount. These limitations establish a maximum percentage of eligible retained earnings that could be utilized for such actions.
 
Under the regulatory capital guidelines, financial institutions are currently required to maintain a total risk-based capital ratio of 8.0% or greater, with a Tier 1 risk-based capital ratio of 6.0% or greater and a common equity Tier 1 capital ratio of 4.5% or greater, as required by the Basel III capital standards referenced above. Tier 1 capital is generally defined as shareholders’ equity and trust preferred securities less all intangible assets and goodwill. Tier 1 capital at June 30, 2019 and December 31, 2018 includes $20.0 million in trust preferred securities. The Company’s Tier 1 capital ratio was 15.63% and 15.46% at June 30, 2019 and December 31, 2018, respectively. Total risk-based capital is defined as Tier 1 capital plus supplementary capital. Supplementary capital, or Tier 2 capital, consists of the Company’s allowance for loan losses, not exceeding 1.25% of the Company’s risk-weighted assets. Total risk-based capital ratio is therefore defined as the ratio of total capital (Tier 1 capital and Tier 2 capital) to risk-weighted assets. The Company’s total risk-based capital ratio was 16.33% and 16.15% at June 30, 2019 and December 31, 2018, respectively. The Company’s common equity Tier 1 capital consists of common stock and retained earnings. The Company’s common equity Tier 1 capital ratio was 13.49% and 13.29% at June 30, 2019 and December 31, 2018, respectively. Financial institutions are also required to maintain a leverage ratio of Tier 1 capital to total average assets of 4.0% or greater. The Company’s Tier 1 leverage capital ratio was 13.13% and 13.05% at June 30, 2019 and December 31, 2018, respectively.
 
The Bank’s Tier 1 risk-based capital ratio was 15.05% and 15.21% at June 30, 2019 and December 31, 2018, respectively. The total risk-based capital ratio for the Bank was 15.75% and 15.91% at June 30, 2019 and December 31, 2018, respectively. The Bank’s common equity Tier 1 capital ratio was 15.05% and 15.21% at June 30, 2019 and December 31, 2018, respectively. The Bank’s Tier 1 leverage capital ratio was 12.56% and 12.76% at June 30, 2019 and December 31, 2018, respectively. 
 
A bank is considered to be “well capitalized” if it has a total risk-based capital ratio of 10.0% or greater, a Tier 1 risk-based capital ratio of 8.0% or greater, a common equity Tier 1 capital ratio of 6.5% or greater and a leverage ratio of 5.0% or greater. Based upon these guidelines, the Bank was considered to be “well capitalized” at June 30, 2019.
 
 
42
 
 
Item 3.   
Quantitative and Qualitative Disclosures About Market Risk
 
There have been no material changes in the Quantitative and Qualitative Disclosures About Market Risk from those previously disclosed in Part 7A. of Part II of the Company’s Form 10-K, filed with the SEC on March 14, 2019.
 
Item 4.    
Controls and Procedures
 
The Company’s management, with the participation of the Company’s Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of the Company’s disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) as of the end of the period covered by this report. Based on such evaluation, the Company’s Chief Executive Officer and Chief Financial Officer have concluded that, as of the end of such period, the Company’s disclosure controls and procedures are effective in recording, processing, summarizing and reporting, on a timely basis, information required to be disclosed by the Company in the reports that it files or submits under the Exchange Act.
 
There have not been any changes in the Company’s internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the fiscal quarter to which this report relates that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.
 
43
 
 
PART II.    
OTHER INFORMATION
 
Item 1.
Legal Proceedings
 
On October 19, 2018, the Bank received a draft audit report from the North Carolina Department of Revenue (“NCDOR”) setting forth certain proposed adjustments to the North Carolina income tax returns for the Bank for the tax years January 1, 2014 through December 31, 2016. The NCDOR is seeking to disallow certain tax credits taken by the Bank in tax years January 1, 2014 through December 31, 2016 from an investment made by the Bank. The total proposed adjustments sought by the NCDOR as of the date of the draft audit report (including additional tax, penalties and interest up to the date of the draft audit report) was approximately $1.4 million. The Bank disagrees with the NCDOR’s proposed adjustments and the disallowance of certain tax credits, and intends to challenge the proposed adjustments and the disallowance of such tax credits.  During the second quarter of 2019, the Bank paid the NCDOR $1.2 million in taxes and interest associated with the proposed adjustments noted above. This payment stopped the accrual of interest during the period while the proposed adjustments and disallowance are being contested, and the NCDOR waived associated penalties. The Bank purchased a Guaranty Agreement along with this tax credit investment that unconditionally guarantees the amount of its investment plus associated penalties and interest which management believes would limit the Bank’s exposure to approximately $125,000. The Tax Credit Guaranty Agreement from State Tax Credit Exchange, LLC dated September 10, 2014 was attached to the Company’s September 30, 2018 Form 10-Q as Exhibit 99.
 
Item 1A.       
Risk Factors
 
                             Not applicable.
 
Item 2.
Unregistered Sales of Equity Securities and Use of Proceeds
 
                ISSUER PURCHASES OF EQUITY SECURITIES
 
 Period
 
 Total Number of Shares Purchased
 
 
 Average Price Paid per Share
 
 
 Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs (2)
 
 
 Maximum Number (or Approximate Dollar Value) of Shares that May Yet Be Purchased Under the Plans or Programs (3)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 April 1 - 30, 2019
  958 
 $27.75 
  41,501 
 $3,713,337 
 
    
    
    
    
 May 1 - 31, 2019
  1,239 
  27.98 
  22,495 
 $3,713,337 
 
    
    
    
    
 June 1 - 30, 2019
  652 
  29.28 
  - 
 $3,087,071 
 
    
    
    
    
 Total
  2,849(1)
 $27.90 
  63,996 
    
 
(1) The Company purchased 2,849 shares on the open market in the three months ended June 30, 2019 for its deferred compensation plan. All purchases were funded by participant contributions to the plan.
 
(2) Reflects shares purchased under the Company's stock repurchase program.
 
(3) Reflects dollar value of shares that may yet be purchased under the Company's stock repurchase program , which was funded in February 2019.
 
Item 3.
Defaults Upon Senior Securities
 
Not applicable
 
Item 5.
Other Information
 
Not applicable

 
44
 
Amended and Restated Executive Salary Continuation Agreement between Peoples Bank and Tony W. Wolfe dated December 18, 2008, incorporated by reference to Exhibit (10)(a)(iii) to the Form 8-K filed with the Securities and Exchange Commission on December 29, 2008
 
 
Amended and Restated Executive Salary Continuation Agreement between Peoples Bank and Joseph F. Beaman, Jr. dated December 18, 2008, incorporated by reference to Exhibit (10)(b)(iii) to the Form 8-K filed with the Securities and Exchange Commission on December 29, 2008
 
 
Amended and Restated Executive Salary Continuation Agreement between Peoples Bank and William D. Cable, Sr. dated December 18, 2008, incorporated by reference to Exhibit (10)(c)(iii) to the Form 8-K filed with the Securities and Exchange Commission on December 29, 2008
   
Employment Agreement dated January 22, 2015 between the Registrant and William D. Cable, Sr., incorporated by reference to Exhibit (10)(c) to the Form 8-K filed with the Securities and Exchange Commission on February 9, 2015
 
 
Amended and Restated Executive Salary Continuation Agreement between Peoples Bank and Lance A. Sellers dated December 18, 2008, incorporated by reference to Exhibit (10)(d)(iii) to the Form 8-K filed with the Securities and Exchange Commission on December 29, 2008
 
 
Employment Agreement dated January 22, 2015 between the Registrant and Lance A. Sellers, incorporated by reference to Exhibit (10)(a) to the Form 8-K filed with the Securities and Exchange Commission on February 9, 2015
 
 
Amended and Restated Executive Salary Continuation Agreement between Peoples Bank and A. Joseph Lampron, Jr. dated December 18, 2008, incorporated by reference to Exhibit (10)(f)(iii) to the Form 8-K filed with the Securities and Exchange Commission on December 29, 2008
 
Employment Agreement dated January 22, 2015 between the Registrant and A. Joseph Lampron, Jr., incorporated by reference to Exhibit (10)(b) to the Form 8-K filed with the Securities and Exchange Commission on February 9, 2015
 
Exhibit (10)(ix)
Peoples Bank Directors’ and Officers’ Deferral Plan, incorporated by reference to Exhibit 10(h) to the Form 10-K filed with the Securities and Exchange Commission on March 28, 2002

 
Exhibit (10)(x)
Rabbi Trust for the Peoples Bank Directors’ and Officers’ Deferral Plan, incorporated by reference to Exhibit 10(i) to the Form 10-K filed with the Securities and Exchange Commission on March 28, 2002

 
Description of Service Recognition Program maintained by Peoples Bank, incorporated by reference to Exhibit 10(i) to the Form 10-K filed with the Securities and Exchange Commission on March 27, 2003

 
Exhibit (10)(xii)
Capital Securities Purchase Agreement dated as of June 26, 2006, by and among the Registrant, PEBK Capital Trust II and Bear, Sterns Securities Corp., incorporated by reference to Exhibit 10(j) to the Form 10-Q filed with the Securities and Exchange Commission on November 13, 2006

 
Exhibit (10)(xiii)
Amended and Restated Trust Agreement of PEBK Capital Trust II, dated as of June 28, 2006, incorporated by reference to Exhibit 10(k) to the Form 10-Q filed with the Securities and Exchange Commission on November 13, 2006

 
Exhibit (10)(xiv)
Guarantee Agreement of the Registrant dated as of June 28, 2006, incorporated by reference to Exhibit 10(l) to the Form 10-Q filed with the Securities and Exchange Commission on November 13, 2006

 
Exhibit (10)(xv)
Indenture, dated as of June 28, 2006, by and between the Registrant and LaSalle Bank National Association, as Trustee, relating to Junior Subordinated Debt Securities Due September 15, 2036, incorporated by reference to Exhibit 10(m) to the Form 10-Q filed with the Securities and Exchange Commission on November 13, 2006
 
 45
 
  
 Form of Amended and Restated Director Supplemental Retirement Agreement between Peoples Bank and Directors Robert C. Abernethy, James S. Abernethy, Douglas S. Howard, John W. Lineberger, Jr., Gary E. Matthews, Dr. Billy L. Price, Jr., Larry E Robinson, W. Gregory Terry, Dan Ray Timmerman, Sr., and Benjamin I. Zachary, incorporated by reference to Exhibit (10)(n) to the Form 8-K filed with the Securities and Exchange Commission on December 29, 2008 

 
 2009 Omnibus Stock Ownership and Long Term Incentive Plan incorporated by reference to Exhibit (10)(o) to the Form 10-K filed with the Securities and Exchange Commission on March 20, 2009 

    
   First Amendment to Amended and Restated Executive Salary Continuation Agreement between Peoples Bank and Lance A. Sellers dated February 16, 2018, incorporated by reference to Exhibit (10)(xx) to the Form 10-Q filed with the Securities and Exchange Commission on March 18, 2018 

    
  First Amendment to Amended and Restated Executive Salary Continuation Agreement between Peoples Bank and A. Joseph Lampron, Jr. dated February 16, 2018, incorporated by reference to Exhibit (10)(xxi) to the Form 10-Q filed with the Securities and Exchange Commission on March 18, 2018 

    
  First Amendment to Amended and Restated Executive Salary Continuation Agreement between Peoples Bank and William D. Cable, Sr. dated February 16, 2018, incorporated by reference to Exhibit (10)(xxii) to the Form 10-Q filed with the Securities and Exchange Commission on March 18, 2018 

    
  Code of Business Conduct and Ethics of Peoples Bancorp of North Carolina, Inc., incorporated by reference to Exhibit (14) to the Form 10-K filed with the Securities and Exchange Commission on March 25, 2005 

    
Exhibit (31)(a)
  Certification of principal executive officer pursuant to section 302 of the Sarbanes-Oxley Act of 2002 

    
Exhibit (31)(b)
   Certification of principal financial officer pursuant to section 302 of the Sarbanes-Oxley Act of 2002 

      
Exhibit (32)
   Certification Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 

      

   Exhibit (101)     The following materials from the Company’s 10-Q Report for the quarterly period ended June 30, 2019, formatted in XBRL: (i) the Condensed Consolidated Balance Sheets, (ii) the Condensed Consolidated Statements of Earnings, (iii) the Condensed Consolidated Statements of Comprehensive Income (iv) the Condensed Consolidated Statements of Changes in Shareholders’ Equity, (v) the Condensed Consolidated Statements of Cash Flows, and (vi) the Notes to the Condensed Consolidated Financial Statements, tagged as blocks of text.* 
 
*Furnished, not filed.
 
 46
 
 
SIGNATURES
 
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
 
 
Peoples Bancorp of North Carolina, Inc.
 
 
 
August 7, 2019
 
 /s/ Lance A. Sellers
Date
 
Lance A. Sellers
President and Chief Executive Officer
(Principal Executive Officer)
 
 
 
 
August 7, 2019
 
 /s/ A. Joseph Lampron, Jr.
Date
 
A. Joseph Lampron, Jr.
Executive Vice President and Chief Financial Officer
(Principal Financial and Principal Accounting Officer)
 
47