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PEOPLES FINANCIAL SERVICES CORP. - Quarter Report: 2019 June (Form 10-Q)

Table of Contents

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, DC 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

001-36388

(Commission File Number)

 


 

PEOPLES FINANCIAL SERVICES CORP.

(Exact name of registrant as specified in its charter)

 


 

 

 

Pennsylvania

23-2391852

(State of

incorporation)

(IRS Employer

ID Number)

 

 

150 North Washington Avenue, Scranton, PA

18503

(Address of principal executive offices)

(Zip code)

 

(570) 346-7741

(Registrant’s telephone number, including area code)

 


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

 

 

 

 

 

Title of each class:

    

Trading Symbol

    

Name of each exchange on which registered:

Common stock, $2.00 par value

 

PFIS

 

The Nasdaq Stock Market

 

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

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

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

 

 

 

 

 

Large accelerated filer

Accelerated filer

 

 

 

 

Non-accelerated filer

Smaller reporting company

Emerging growth company

 

 

 

 

 

 

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

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

APPLICABLE ONLY TO CORPORATE ISSUERS:

Indicate the number of shares outstanding of the registrant’s common stock, as of the latest practicable date: 7,399,078 at July 31, 2019. 

 

 

 

Table of Contents

PEOPLES FINANCIAL SERVICES CORP.

FORM 10-Q

 

For the Quarter Ended June 30, 2019

 

 

 

 

 

 

 

Contents

 

 

 

Page No.

 

 

 

 

 

PART I.

 

FINANCIAL INFORMATION:

 

 

 

 

 

 

 

Item 1. 

 

Financial Statements

 

 

 

 

 

 

 

 

 

Consolidated Balance Sheets at June 30, 2019 (Unaudited) and December 31, 2018

 

3

 

 

 

 

 

 

 

Consolidated Statements of Income and Comprehensive Income for the Three and Six Months ended June 30, 2019 and 2018 (Unaudited)

 

4

 

 

 

 

 

 

 

Consolidated Statements of Changes in Stockholders’ Equity for the Six Months ended June 30, 2019 and 2018 (Unaudited)

 

5

 

 

 

 

 

 

 

Consolidated Statements of Cash Flows for the Six Months ended June 30, 2019 and 2018 (Unaudited)

 

6

 

 

 

 

 

 

 

Notes to Consolidated Financial Statements (Unaudited)

 

8

 

 

 

 

 

Item 2. 

 

Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

34

 

 

 

 

 

Item 3. 

 

Quantitative and Qualitative Disclosures About Market Risk

 

48

 

 

 

 

 

Item 4. 

 

Controls and Procedures

 

49

 

 

 

 

 

PART II 

 

OTHER INFORMATION

 

 

 

 

 

 

 

Item 1. 

 

Legal Proceedings

 

50

 

 

 

 

 

Item 1A. 

 

Risk Factors

 

50

 

 

 

 

 

Item 2. 

 

Unregistered Sales of Equity Securities and Use of Proceeds

 

50

 

 

 

 

 

Item 3. 

 

Defaults upon Senior Securities

 

50

 

 

 

 

 

Item 4. 

 

Mine Safety Disclosures

 

51

 

 

 

 

 

Item 5. 

 

Other Information

 

51

 

 

 

 

 

Item 6. 

 

Exhibits

 

51

 

 

 

 

 

 

 

Signatures

 

51

 

 

2

Table of Contents

Peoples Financial Services Corp.

CONSOLIDATED BALANCE SHEET

(Dollars in thousands, except share data)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

    

June 30, 2019

    

December 31, 2018

 

Assets:

 

 

 

 

 

 

 

Cash and due from banks:

 

 

 

 

 

 

 

Cash and due from banks

 

$

26,615

 

$

32,569

 

Interest-bearing deposits in other banks

 

 

3,347

 

 

47

 

Total cash and due from banks

 

 

29,962

 

 

32,616

 

Investment securities:

 

 

 

 

 

 

 

Available-for-sale

 

 

261,665

 

 

269,682

 

Equity investments carried at fair value

 

 

283

 

 

291

 

Held-to-maturity: Fair value June 30, 2019, $8,151; December 31, 2018, $8,380     

 

 

7,969

 

 

8,361

 

Total investment securities

 

 

269,917

 

 

278,334

 

Loans, net

 

 

1,858,799

 

 

1,823,266

 

Less: allowance for loan losses

 

 

21,930

 

 

21,379

 

Net loans

 

 

1,836,869

 

 

1,801,887

 

Loans held for sale

 

 

831

 

 

749

 

Premises and equipment, net

 

 

46,468

 

 

38,889

 

Accrued interest receivable

 

 

7,303

 

 

7,115

 

Goodwill

 

 

63,370

 

 

63,370

 

Intangible assets, net

 

 

1,921

 

 

2,296

 

Other assets

 

 

67,625

 

 

63,737

 

Total assets

 

$

2,324,266

 

$

2,288,993

 

 

 

 

 

 

 

 

 

Liabilities:

 

 

 

 

 

 

 

Deposits:

 

 

 

 

 

 

 

Noninterest-bearing

 

$

419,995

 

$

410,260

 

Interest-bearing

 

 

1,456,804

 

 

1,464,762

 

Total deposits

 

 

1,876,799

 

 

1,875,022

 

Short-term borrowings

 

 

82,700

 

 

86,500

 

Long-term debt

 

 

52,980

 

 

37,906

 

Accrued interest payable

 

 

1,058

 

 

1,195

 

Other liabilities

 

 

19,146

 

 

9,756

 

Total liabilities

 

 

2,032,683

 

 

2,010,379

 

 

 

 

 

 

 

 

 

Stockholders’ equity:

 

 

 

 

 

 

 

Common stock, par value $2.00, authorized 25,000,000 shares, issued and outstanding 7,399,078 shares at June 30, 2019 and 7,399,054 shares at December 31, 2018

 

 

14,798

 

 

14,798

 

Capital surplus

 

 

135,384

 

 

135,310

 

Retained earnings

 

 

145,106

 

 

136,582

 

Accumulated other comprehensive loss

 

 

(3,705)

 

 

(8,076)

 

Total stockholders’ equity

 

 

291,583

 

 

278,614

 

Total liabilities and stockholders’ equity

 

$

2,324,266

 

$

2,288,993

 

 

See notes to unaudited consolidated financial statements

 

3

Table of Contents

Peoples Financial Services Corp.

CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME (UNAUDITED)

(Dollars in thousands, except per share data)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three Months Ended

 

Six Months Ended

 

June 30, 

    

2019

    

2018

    

2019

    

2018

 

Interest income:

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest and fees on loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

Taxable

 

$

20,641

 

$

18,239

 

$

40,744

 

$

35,748

 

Tax-exempt

 

 

1,109

 

 

871

 

 

2,208

 

 

1,741

 

Interest and dividends on investment securities:

 

 

 

 

 

 

 

 

 

 

 

 

 

Taxable

 

 

1,025

 

 

934

 

 

2,035

 

 

1,792

 

Tax-exempt

 

 

520

 

 

661

 

 

1,082

 

 

1,362

 

Dividends

 

 

22

 

 

19

 

 

41

 

 

35

 

Interest on interest-bearing deposits in other banks

 

 

15

 

 

42

 

 

23

 

 

82

 

Total interest income

 

 

23,332

 

 

20,766

 

 

46,133

 

 

40,760

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest expense:

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest on deposits

 

 

3,713

 

 

1,959

 

 

7,124

 

 

3,793

 

Interest on short-term borrowings

 

 

595

 

 

841

 

 

1,408

 

 

1,508

 

Interest on long-term debt

 

 

296

 

 

315

 

 

576

 

 

621

 

Total interest expense

 

 

4,604

 

 

3,115

 

 

9,108

 

 

5,922

 

Net interest income

 

 

18,728

 

 

17,651

 

 

37,025

 

 

34,838

 

Provision for loan losses

 

 

350

 

 

1,050

 

 

1,400

 

 

2,100

 

Net interest income after provision for loan losses

 

 

18,378

 

 

16,601

 

 

35,625

 

 

32,738

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Noninterest income:

 

 

 

 

 

 

 

 

 

 

 

 

 

Service charges, fees and commissions

 

 

2,490

 

 

1,885

 

 

4,489

 

 

3,973

 

Merchant services income

 

 

457

 

 

309

 

 

655

 

 

559

 

Commission and fees on fiduciary activities

 

 

492

 

 

485

 

 

999

 

 

982

 

Wealth management income

 

 

370

 

 

332

 

 

747

 

 

743

 

Mortgage banking income

 

 

137

 

 

162

 

 

285

 

 

309

 

Life insurance investment income

 

 

192

 

 

191

 

 

378

 

 

378

 

Net losses (gains) on equity investment securities

 

 

(9)

 

 

 8

 

 

(8)

 

 

 

 

Net gains on sale of investment securities available-for-sale

 

 

23

 

 

 

 

 

23

 

 

 

 

Net gain on sale of credit card loans

 

 

 

 

 

291

 

 

 

 

 

291

 

Total noninterest income

 

 

4,152

 

 

3,663

 

 

7,568

 

 

7,235

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Salaries and employee benefits expense

 

 

8,037

 

 

7,390

 

 

15,632

 

 

14,345

 

Net occupancy and equipment expense

 

 

2,849

 

 

2,720

 

 

5,810

 

 

5,534

 

Amortization of intangible assets

 

 

182

 

 

220

 

 

374

 

 

450

 

Professional fees and outside services

 

 

525

 

 

446

 

 

856

 

 

1,069

 

FDIC insurance and assessments

 

 

288

 

 

297

 

 

547

 

 

583

 

Donations

 

 

359

 

 

343

 

 

691

 

 

656

 

Other expenses

 

 

2,189

 

 

2,080

 

 

4,009

 

 

3,940

 

Total noninterest expense

 

 

14,429

 

 

13,496

 

 

27,919

 

 

26,577

 

Income before income taxes

 

 

8,101

 

 

6,768

 

 

15,274

 

 

13,396

 

Income tax expense

 

 

957

 

 

811

 

 

1,718

 

 

1,585

 

Net income

 

 

7,144

 

 

5,957

 

 

13,556

 

 

11,811

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other comprehensive income (loss):

 

 

 

 

 

 

 

 

 

 

 

 

 

Unrealized gain (loss) on investment securities available-for-sale

 

 

2,611

 

 

(839)

 

 

5,050

 

 

(3,215)

 

Reclassification adjustment for net gain on sales included in net income

 

 

(23)

 

 

 

 

 

(23)

 

 

 

 

Change in derivative fair value

 

 

443

 

 

 

 

 

506

 

 

 

 

Other comprehensive gain (loss)

 

 

3,031

 

 

(839)

 

 

5,533

 

 

(3,215)

 

Income tax expense (benefit)

 

 

637

 

 

(176)

 

 

1,162

 

 

(677)

 

Other comprehensive income (loss), net of income taxes

 

 

2,394

 

 

(663)

 

 

4,371

 

 

(2,538)

 

Comprehensive income

 

$

9,538

 

$

5,294

 

$

17,927

 

$

9,273

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Per share data:

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income:

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

$

0.96

 

$

0.81

 

$

1.83

 

$

1.60

 

Diluted

 

$

0.96

 

$

0.81

 

$

1.83

 

$

1.60

 

Average common shares outstanding:

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

 

7,399,302

 

 

7,396,533

 

 

7,399,178

 

 

7,396,519

 

Diluted

 

 

7,399,302

 

 

7,396,533

 

 

7,399,178

 

 

7,396,519

 

Dividends declared

 

$

0.34

 

$

0.33

 

 

0.68

 

 

0.65

 

 

See notes to unaudited consolidated financial statements

 

4

Table of Contents

Peoples Financial Services Corp.

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY (UNAUDITED)

(Dollars in thousands, except per share data)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

    

 

 

    

 

 

    

 

 

    

Accumulated

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other

 

 

 

 

 

 

Common

 

Capital

 

Retained

 

Comprehensive

 

 

 

 

 

    

Stock  

    

Surplus  

    

Earnings  

    

Income (Loss)  

    

Total

 

Balance, January 1, 2019

 

$

14,798

 

$

135,310

 

$

136,582

 

$

(8,076)

 

$

278,614

 

Net income

 

 

 

 

 

 

 

 

13,556

 

 

 

 

 

13,556

 

Other comprehensive income, net of income taxes

 

 

 

 

 

 

 

 

 

 

 

4,371

 

 

4,371

 

Dividends declared: $0.68 per share

 

 

 

 

 

 

 

 

(5,032)

 

 

 

 

 

(5,032)

 

Stock based compensation

 

 

 

 

 

240

 

 

 

 

 

 

 

 

240

 

Share retirement: 3,830 shares

 

 

(8)

 

 

(158)

 

 

 

 

 

 

 

 

(166)

 

Common stock grants awarded, net of unearned compensation of $164: 3,854 shares

 

 

 8

 

 

(8)

 

 

 

 

 

 

 

 

 

 

Balance, June 30, 2019

 

$

14,798

 

$

135,384

 

$

145,106

 

$

(3,705)

 

$

291,583

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, January 1, 2018

 

$

14,793

 

$

135,043

 

$

121,353

 

$

(6,213)

 

$

264,976

 

Net income

 

 

 

 

 

 

 

 

11,811

 

 

 

 

 

11,811

 

Other comprehensive loss, net of income taxes

 

 

 

 

 

 

 

 

 

 

 

(2,538)

 

 

(2,538)

 

Dividends declared: $0.65 per share

 

 

 

 

 

 

 

 

(4,810)

 

 

 

 

 

(4,810)

 

Stock based compensation

 

 

 

 

 

105

 

 

 

 

 

 

 

 

105

 

Reclassification related to adoption of ASU 2016-01

 

 

 

 

 

 

 

 

 2

 

 

(2)

 

 

 

 

Common stock grants awarded, net of unearned compensation of $113: 2,548 shares

 

 

 5

 

 

(5)

 

 

 

 

 

 

 

 

 

 

Balance, June 30, 2018

 

$

14,798

 

$

135,143

 

$

128,356

 

$

(8,753)

 

$

269,544

 

 

See notes to unaudited consolidated financial statements

 

5

Table of Contents

Peoples Financial Services Corp.

CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)

(Dollars in thousands, except per share data)

 

 

 

 

 

 

 

 

 

For the Six Months Ended June 30,

    

2019

    

2018

    

Cash flows from operating activities:

 

 

 

 

 

 

 

Net income

 

$

13,556

 

$

11,811

 

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

 

 

 

 

 

 

 

Depreciation of premises and equipment

 

 

1,227

 

 

1,140

 

Amortization of right-of-use lease asset

 

 

187

 

 

 

 

Amortization of deferred loan costs

 

 

(156)

 

 

482

 

Amortization of intangibles

 

 

374

 

 

450

 

Amortization of low income housing partnerships

 

 

238

 

 

233

 

Provision for loan losses

 

 

1,400

 

 

2,100

 

Net unrealized loss on equity investment securities

 

 

 8

 

 

 

 

Net loss on sale of other real estate owned

 

 

20

 

 

19

 

Loans originated for sale

 

 

(5,848)

 

 

(5,932)

 

Proceeds from sale of loans originated for sale

 

 

5,813

 

 

6,074

 

Net gain on sale of loans originated for sale

 

 

(47)

 

 

(36)

 

Net amortization of investment securities

 

 

895

 

 

1,197

 

Net gain on sale of investment securities available-for-sale

 

 

(23)

 

 

 

 

Net gain on sale of credit card loans held for sale

 

 

 

 

 

(291)

 

Life insurance investment income

 

 

(378)

 

 

(378)

 

Stock based compensation

 

 

240

 

 

105

 

Net change in:

 

 

 

 

 

 

 

Accrued interest receivable

 

 

(188)

 

 

134

 

Other assets

 

 

(4,114)

 

 

(1,187)

 

Accrued interest payable

 

 

(137)

 

 

41

 

Other liabilities

 

 

3,022

 

 

(914)

 

Net cash provided by operating activities

 

 

16,089

 

 

15,048

 

Cash flows from investing activities:

 

 

 

 

 

 

 

Proceeds from sales of investment securities available-for-sale

 

 

9,677

 

 

 

 

Proceeds from repayments of investment securities:

 

 

 

 

 

 

 

Available-for-sale

 

 

24,651

 

 

15,445

 

Held-to-maturity

 

 

387

 

 

485

 

Purchases of investment securities:

 

 

 

 

 

 

 

Available-for-sale

 

 

(22,151)

 

 

(22,627)

 

Net purchase of restricted equity securities

 

 

(371)

 

 

(2,794)

 

Proceeds from sale of student loan portfolio

 

 

 

 

 

3,171

 

Net increase in lending activities

 

 

(36,380)

 

 

(68,291)

 

Purchases of premises and equipment

 

 

(2,541)

 

 

(1,071)

 

Proceeds from the sale of premises and equipment

 

 

21

 

 

340

 

Proceeds from sale of other real estate owned

 

 

111

 

 

200

 

Net cash used in investing activities

 

 

(26,596)

 

 

(75,142)

 

Cash flows from financing activities:

 

 

 

 

 

 

 

Net increase (decrease) in deposits

 

 

1,777

 

 

(157)

 

Proceeds from long-term debt

 

 

16,000

 

 

 

 

Repayment of long-term debt

 

 

(926)

 

 

(823)

 

Net (decrease) increase in short-term borrowings

 

 

(3,800)

 

 

63,775

 

Retirement of common stock

 

 

(166)

 

 

 

 

Cash dividends paid

 

 

(5,032)

 

 

(4,810)

 

Net cash provided by financing activities

 

 

7,853

 

 

57,985

 

Net decrease in cash and cash equivalents

 

 

(2,654)

 

 

(2,109)

 

Cash and cash equivalents at beginning of period

 

 

32,616

 

 

37,488

 

Cash and cash equivalents at end of period

 

$

29,962

 

$

35,379

 

6

Table of Contents

Peoples Financial Services Corp.

CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)

(Dollars in thousands, except per share data)

 

 

 

 

 

 

 

 

 

For the Six Months Ended June 30,

    

2019

    

2018

    

Supplemental disclosures:

 

 

 

 

 

 

 

Cash paid during the period for:

 

 

 

 

 

 

 

Interest

 

$

9,245

 

$

5,881

 

Income taxes

 

 

2,200

 

 

2,050

 

Noncash items:

 

 

 

 

 

 

 

Transfers of loans to other real estate

 

$

172

 

$

495

 

Initial recognition of right-of-use assets

 

 

6,523

 

 

 

 

Initial recognition of lease liability

 

 

6,523

 

 

 

 

 

See notes to unaudited consolidated financial statements

 

7

Table of Contents

Peoples Financial Services Corp.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Dollars in thousands, except per share data)

 

1. Summary of significant accounting policies:

 

Nature of operations:

 

Peoples Financial Services Corp., a bank holding company incorporated under the laws of Pennsylvania, provides a full range of financial services through its wholly-owned subsidiary, Peoples Security Bank and Trust Company. Unless the context indicates otherwise, all references in this quarterly report to “Peoples”, “Company”, “Bank”, “we”, “us” and “our” refer to Peoples Financial Services Corp., its subsidiaries and its and their respective predecessors. The Company services its retail and commercial customers through twenty-eight full-service community banking offices located within the Lackawanna, Lebanon, Lehigh, Luzerne, Monroe, Montgomery, Northampton, Susquehanna, Wayne and Wyoming Counties of Pennsylvania and Broome County of New York. Additionally, we operate a Limited Purpose Banking Office(“LPO”) located in and serving Schuylkill County, Pennsylvania.

 

Basis of presentation:

 

The accompanying unaudited consolidated financial statements of the Company have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10-01 of Regulation S-X. In the opinion of management, all normal recurring adjustments necessary for a fair presentation of the consolidated financial position and results of operations for the periods presented have been included. All significant intercompany balances and transactions have been eliminated in consolidation. Prior-period amounts are reclassified when necessary to conform to the current year’s presentation. These reclassifications did not have any effect on the consolidated operating results or financial position of the Company. The consolidated operating results and financial position of the Company for the six months ended and as of June 30, 2019, are not necessarily indicative of the results of consolidated operations and financial position that may be expected in the future.

 

The preparation of consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Significant estimates that are particularly susceptible to material change in the near term relate to the determination of the allowance for loan losses, fair value of financial instruments, the valuation of real estate acquired in connection with foreclosures or in satisfaction of loans, the valuation of deferred tax assets, determination of other-than-temporary impairment losses on securities, and impairment of goodwill. Actual results could differ from those estimates. For additional information and disclosures required under GAAP, reference is made to the Company’s Annual Report on Form 10-K for the period ended December 31, 2018.

 

Recent accounting standards:

 

In February 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2016-02, “Leases”.  From the lessees’s perspective, the new standard establishes a right-of-use (“ROU”) model that requires a lessee to record a ROU asset and a lease liability on the balance sheet for all leases with terms longer than 12 months.  The ROU asset and lease liability are calculated based on the present value of future lease payments using an estimated incremental borrowing rate.  The Company utilized the incremental borrowing rate of interest on a collateralized basis for the lease term as quoted by the Federal Home Loan Bank of Pittsburgh (“FHLB”).

 

Leases are classified as either finance or operating, with classification affecting the pattern of expense recognition in the statement of income for a lessee.  From the lessor’s perspective, the new standard requires a lessor to classify leases as either sales-type, finance or operating.  A lease is treated as a sale if it transfers all of the risks and rewards, as well as control of the underlying asset, to the lessee.  If risks and rewards are conveyed without the transfer of control, the lease is treated as a financing.  If the lessor doesn’t convey risks and rewards or control, an operating lease results.  The amendments in this ASU were effective for annual periods, and interim periods within those annual periods, beginning after December 15, 2018.

8

Table of Contents

Peoples Financial Services Corp.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Dollars in thousands, except per share data)

 

The new standard provides a number of optional practical expedients in transition. We have elected the "package of practical expedients," which permit us not to reassess under the new standard our prior conclusions about lease identification, lease classification and initial direct costs. We elected the "use-of-hindsight" practical expedient which allows us to use hindsight in judgments that impact the lease term. In order to establish the value of the ROU and lease liability and in accordance with the guidance, management determined the term of the leases held by carefully evaluating and assessing each lease and applying economic and other relevant factors to determine whether the Company is reasonably certain to exercise or not to exercise a renewal option within each lease. We have also elected an accounting policy not to restate comparative periods upon adoption. The Company elected to adopt this pronouncement using the optional transition method under ASU 2018-11 as of January 1, 2019 and recorded right-of-use assets and lease liabilities for operating leases of $6,523 on its consolidated balance sheets, with no adjustment to stockholders’ equity and no material impact to its consolidated statements of income and comprehensive income.

 

In July 2018, the FASB issued ASU No. 2018-11, “Leases - Targeted Improvements” to provide entities with relief from the costs of implementing certain aspects of the new leasing standard, ASU No. 2016-02. Specifically, under the amendments in ASU 2018-11: (1) entities may elect not to recast the comparative periods presented when transitioning to the new leasing standard, and (2) lessors may elect not to separate lease and non-lease components when certain conditions are met. The amendments were adopted on January 1, 2019 and did not have a material impact on the Company’s consolidated financial statements.

 

In March 2019, the FASB issued ASU 2019-01, “Leases (Topic 842) Codification Improvements” which was issued to address lessors’ concerns about determining fair value of underlying leased assets and presentation issues in the statement of cash flows for sales-type and direct financing leases. ASU 2019-01 also clarified for both lessees and lessors that transition disclosures related to Topic 250 were not required for annual periods are also not required for interim periods. ASU 2019-01 was effective for annual periods, and interim periods within those annual periods, beginning after December 15, 2019, with early adoption permitted. The Company early adopted this ASU 2019-01 effective January 1, 2019 and it did not have a material impact on the Company’s consolidated financial statements.

 

In June 2016, the FASB issued ASU 2016-13, “Financial Instruments-Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments.” This ASU will have a significant impact on the Company’s calculation and accounting for its allowance for loan losses as well as credit losses related to investment securities available-for-sale. A summary of significant provisions of this ASU is as follows:

   

 

 

The ASU requires that a financial asset (or a group of financial assets) measured at amortized cost basis be presented, net of a valuation allowance for credit losses, at an amount expected to be collected on the financial asset(s), and that the income statement include the measurement of credit losses for newly recognized financial assets as well as changes in expected losses on previously recognized financial assets. The provisions of this ASU require measurement of expected credit losses based on relevant information including past events, historical experience, current conditions, and reasonable and supportive forecasts that affect the collectability of the asset. The provisions of this ASU differ from current GAAP in that current GAAP generally delays recognition of the full amount of credit losses until the loss is probable of occurring.

 

 

The amendments in the ASU retain many of the disclosure requirements related to credit quality in current  GAAP, updated to reflect the change from an incurred loss methodology to an expected credit loss methodology. In addition, the ASU requires that disclosure of credit quality indicators in relation to the amortized cost of financing receivables, a current requirement, be further disaggregated by year of origination.

 

 

This ASU requires that credit losses on available-for-sale debt securities be presented as an allowance rather than as a write-down, and limits the amount of the allowance for credit losses to the amount by which the fair value is below amortized cost. For purchased investment securities available-for-sale with a more-than-insignificant

 

 

 

amount of credit deterioration since origination, the ASU requires an allowance be determined in a manner similar to other investment securities available-for-sale; however, the initial allowance would be added to the purchase price, with only subsequent changes in the allowance recorded in credit loss expense, and interest income recognized at the effective rate excluding the discount embedded in the purchase price related to estimated credit losses at acquisition.

9

Table of Contents

Peoples Financial Services Corp.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Dollars in thousands, except per share data)

 

 

 

 

In July 2019, the FASB agreed to issue a proposal to delay the effective date for smaller reporting companies, which the Company currently qualifies as such. If approved, the proposal could delay the effective date until 2023, though the Company may need to adopt earlier if it no longer qualifies as a smaller reporting company. The Company will record the effect of implementing this ASU through a cumulative-effect adjustment through retained earnings as of the beginning of the reporting period in which Topic 326 is effective.

 

We are evaluating the impact of the ASU on our consolidated financial statements. In addition to our allowance for loan losses, we 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.

 

In August 2018, the FASB issued ASU 2018-13 Fair Value Measurement (Topic 820): “Disclosure Framework – Changes to the Disclosure Requirements for Fair Value Measurement” modifies the disclosure requirements on fair value measurements in Topic 820, Fair Value Measurement, based on the FASB Concepts Statement, “Conceptual Framework for Financial Reporting – Chapter 8: Notes to Financial Statements”. In accordance with the Concepts Statement, this ASU removes, modifies and adds select disclosure requirements under Topic 820 after consideration of costs and benefits. ASU 2018-13 is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019 for public entities, with early adoption permitted. The adoption of this guidance on January 1, 2020 is not expected to have a material effect on the Company’s consolidated financial statements.

 

2. Other comprehensive loss:

 

The components of other comprehensive loss and their related tax effects are reported in the consolidated statements of income and comprehensive income. The accumulated other comprehensive loss included in the Consolidated Balance Sheets relates to net unrealized gains and losses on investment securities available-for-sale, benefit plan adjustments and adjustments to derivative fair values.

 

The components of accumulated other comprehensive loss included in stockholders’ equity at June 30, 2019 and December 31, 2018 are as follows:

 

 

 

 

 

 

 

 

 

 

    

 

June 30, 2019

    

 

December 31, 2018

 

Net unrealized loss on investment securities available-for-sale

 

$

1,776

 

$

(3,251)

 

Income tax

 

 

373

 

 

(683)

 

Net of income taxes

 

 

1,403

 

 

(2,568)

 

Benefit plan adjustments

 

 

(7,218)

 

 

(7,218)

 

Income tax

 

 

(1,516)

 

 

(1,516)

 

Net of income taxes

 

 

(5,702)

 

 

(5,702)

 

Derivative adjustments

 

 

752

 

 

246

 

Income tax

 

 

158

 

 

52

 

Net of income taxes

 

 

594

 

 

194

 

Accumulated other comprehensive loss

 

$

(3,705)

 

$

(8,076)

 

 

 

3. Earnings per share:

 

Basic earnings per share represent income available to common stockholders divided by the weighted-average number of common shares outstanding during the period. Diluted earnings per share reflect additional common shares that would have been outstanding if dilutive potential common shares had been issued, as well as any adjustment to income that would result from the assumed issuance.

 

10

Table of Contents

Peoples Financial Services Corp.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Dollars in thousands, except per share data)

 

There were no shares considered anti-dilutive for the three and six month periods ended June 30, 2019 and 2018.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2019

 

2018

 

For the Three Months Ended June 30, 

    

Basic  

    

Diluted  

    

Basic  

    

Diluted  

 

Net Income

    

$

7,144

    

$

7,144

    

$

5,957

    

$

5,957

    

Average common shares outstanding

 

 

7,399,302

 

 

7,399,302

 

 

7,396,533

 

 

7,396,533

 

Earnings per share

 

$

0.96

 

$

0.96

 

$

0.81

 

$

0.81

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2019

 

2018

 

For the Six Months Ended June 30

 

Basic  

 

Diluted  

 

Basic  

 

Diluted  

 

Net income

    

$

13,556

    

$

13,556

    

$

11,811

    

$

11,811

    

Average common shares outstanding

 

 

7,399,178

 

 

7,399,178

 

 

7,396,519

 

 

7,396,519

 

Earnings per share

 

$

1.83

 

$

1.83

 

$

1.60

 

$

1.60

 

 

 

4. Investment securities:

 

The amortized cost and fair value of investment securities aggregated by investment category at June 30, 2019 and December 31, 2018 are summarized as follows:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross

 

Gross

 

 

 

 

 

 

Amortized

 

Unrealized

 

Unrealized

 

Fair

 

June 30, 2019

    

Cost  

    

Gains  

    

Losses  

    

Value  

 

Available-for-sale:

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. Treasury securities

 

$

23,958

 

$

143

 

$

17

 

$

24,084

 

U.S. Government-sponsored enterprises

 

 

93,830

 

 

82

 

 

423

 

 

93,489

 

State and municipals:

 

 

 

 

 

 

 

 

 

 

 

 

 

Taxable

 

 

12,475

 

 

367

 

 

 

 

 

12,842

 

Tax-exempt

 

 

69,454

 

 

713

 

 

32

 

 

70,135

 

Residential Mortgage-backed securities:

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. Government agencies

 

 

10,669

 

 

135

 

 

20

 

 

10,784

 

U.S. Government-sponsored enterprises

 

 

40,901

 

 

776

 

 

92

 

 

41,585

 

Commercial Mortgage-backed securities:

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. Government-sponsored enterprises

 

 

8,601

 

 

145

 

 

 

 

 

8,746

 

Total

 

$

259,888

 

$

2,361

 

$

584

 

$

261,665

 

Held-to-maturity:

 

 

 

 

 

 

 

 

 

 

 

 

 

Tax-exempt state and municipals

 

$

6,854

 

$

151

 

 

 

 

$

7,005

 

Residential Mortgage-backed securities:

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. Government agencies

 

 

36

 

 

 

 

 

 

 

 

36

 

U.S. Government-sponsored enterprises

 

 

1,079

 

 

32

 

$

 1

 

 

1,110

 

Total

 

$

7,969

 

$

183

 

$

 1

 

$

8,151

 

 

 

11

Table of Contents

Peoples Financial Services Corp.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Dollars in thousands, except per share data)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

    

 

 

    

Gross

    

Gross

    

 

 

 

 

 

Amortized

 

Unrealized

 

Unrealized

 

Fair

 

December 31, 2018

    

Cost  

    

Gains  

    

Losses  

    

Value  

 

Available-for-sale:

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. Treasury securities

 

$

25,948

 

 

 9

 

$

365

 

$

25,592

 

U.S. Government-sponsored enterprises

 

 

94,999

 

$

 2

 

 

2,183

 

 

92,818

 

State and municipals:

 

 

 

 

 

 

 

 

 

 

 

 

 

Taxable

 

 

13,544

 

 

309

 

 

 

 

 

13,853

 

Tax-exempt

 

 

86,361

 

 

338

 

 

745

 

 

85,954

 

Residential Mortgage-backed securities:

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. Government agencies

 

 

12,663

 

 

50

 

 

84

 

 

12,629

 

U.S. Government-sponsored enterprises

 

 

33,149

 

 

49

 

 

401

 

 

32,797

 

Commercial Mortgage-backed securities:

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. Government-sponsored enterprises

 

 

6,269

 

 

 

 

 

230

 

 

6,039

 

Total

 

$

272,933

 

$

757

 

$

4,008

 

$

269,682

 

Held-to-maturity:

 

 

 

 

 

 

 

 

 

 

 

 

 

Tax-exempt state and municipals

 

$

6,855

 

$

12

 

$

43

 

$

6,824

 

Residential Mortgage-backed securities:

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. Government agencies

 

 

42

 

 

 

 

 

 

 

 

42

 

U.S. Government-sponsored enterprises

 

 

1,464

 

 

55

 

 

 5

 

 

1,514

 

Total

 

$

8,361

 

$

67

 

$

48

 

$

8,380

 

 

Equity Securities

 

Our equity securities portfolio consists of stock of two other financial institutions. At June 30, 2019 and December 31, 2018, we had $283 and $291 respectively, in equity securities recorded at fair value. At June 30, 2019, the fair value of our equity portfolio exceeded the cost basis by $6. The following is a summary of unrealized and realized gains and losses recognized in net income on equity securities during the three and six months ended June 30, 2019 (in thousands):

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

For the Three Months Ended June 30,

    

 

2019

    

 

2018

Net gains (losses) recognized during the period on equity securities

 

$

(9)

 

$

 8

Less: Net gains and (losses) recognized during the period on equity securities sold during the period

 

 

 

 

 

 

Unrealized gains (losses) recognized during the reporting period on equity securities still held at the reporting date

 

$

(9)

 

$

 8

 

 

 

 

 

 

 

 

 

 

 

 

 

 

For the Six Months Ended June 30,

    

 

2019

    

 

2018

Net gains (losses) recognized during the period on equity securities

 

$

(8)

 

$

 

Less: Net gains and (losses) recognized during the period on equity securities sold during the period

 

 

 

 

 

 

Unrealized gains (losses) recognized during the reporting period on equity securities still held at the reporting date

 

$

(8)

 

$

 

 

Restricted Investment In Stock

 

Restricted investment in stock includes FHLB with a carrying cost of $7,791 and $7,420 at June 30, 2019 and December 31, 2018, respectively and Atlantic Community Bankers Bank (“ACBB”) stock with a carrying cost of $42 and VISA Class B stock with a carry cost of $0 at June 30, 2019 and December 31, 2018, are included in other assets in the consolidated balance sheets. FHLB and ACBB stock was issued as a requirement to facilitate participation in borrowing and other banking services. The investment in FHLB stock may fluctuate, as it is based on the member banks’ use of FHLB’s services.

12

Table of Contents

Peoples Financial Services Corp.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Dollars in thousands, except per share data)

 

 

The Company owns 44,982 shares of Visa Class B stock, which was necessary to participate in Visa services in support of the Company’s credit card, debit card, and related payment programs (permissible activities under banking regulations) as a member institution. Following the resolution of Visa’s litigation, shares of Visa’s Class B stock will be converted to Visa Class A shares using a conversion factor (1.6298 as of June 30, 2019), which is periodically adjusted to reflect VISA’s ongoing litigation costs. There is a very limited market for this stock, as only current owners of Class B shares are permitted to transact in Class B stock. Due to the lack of orderly trades and public information of such trades, Visa Class B stock has no readily determinable fair value.

 

These restricted investments are carried at cost and evaluated for other-than-temporary impairment (“OTTI”) periodically. As of June 30, 2019, there was no OTTI associated with these investments.

 

The maturity distribution of the fair value, which is the net carrying amount, of the debt securities classified as available-for-sale at June 30, 2019, is summarized as follows:

 

 

 

 

 

 

 

 

Fair

 

June 30, 2019

    

Value

 

Within one year

 

$

38,102

 

After one but within five years

 

 

133,582

 

After five but within ten years

 

 

10,729

 

After ten years

 

 

18,137

 

 

 

 

200,550

 

Mortgage-backed securities

 

 

61,115

 

Total

 

$

261,665

 

 

 The maturity distribution of the amortized cost and fair value, of debt securities classified as held-to-maturity at June 30, 2019, is summarized as follows:

 

 

 

 

 

 

 

 

 

 

 

Amortized

 

Fair

 

June 30, 2019

    

Cost 

    

Value  

 

Within one year

 

 

 

 

 

 

 

After one but within five years

 

 

 

 

 

 

 

After five but within ten years

 

 

 

 

 

 

 

After ten years

 

$

6,854

 

$

7,005

 

 

 

 

6,854

 

 

7,005

 

Mortgage-backed securities

 

 

1,115

 

 

1,146

 

Total

 

$

7,969

 

$

8,151

 

 

Securities with a carrying value of $144,991 and $161,647 at June 30, 2019 and December 31, 2018, respectively, were pledged to secure public deposits and certain other deposits as required or permitted by law.

 

Securities and short-term investment activities are conducted with a diverse group of government entities, corporations and state and local municipalities. The counterparty’s creditworthiness and type of collateral is evaluated on a case-by-case basis. At June 30, 2019 and December 31, 2018, there were no significant concentrations of credit risk from any one issuer, with the exception of U.S. Government agencies and sponsored enterprises, that exceeded 10.0 percent of stockholders’ equity.

 

13

Table of Contents

Peoples Financial Services Corp.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Dollars in thousands, except per share data)

 

The fair value and gross unrealized losses of investment securities with unrealized losses for which an OTTI has not been recognized at June 30, 2019 and December 31, 2018, aggregated by investment category and length of time that the individual securities have been in a continuous unrealized loss position, are summarized as follows:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Less Than 12 Months 

 

12 Months or More 

 

Total 

 

 

 

Fair

 

Unrealized

 

Fair

 

Unrealized

 

Fair

 

Unrealized

 

June 30, 2019

    

Value 

    

Losses 

    

Value 

    

Losses 

    

Value 

    

Losses 

 

U.S. Treasury securities

    

$

 

    

$

 

    

$

7,993

    

$

17

    

$

7,993

    

$

17

 

U.S. Government-sponsored enterprises

 

 

 

 

 

 

 

 

75,292

 

 

423

 

 

75,292

 

 

423

 

State and municipals:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Tax-exempt

 

 

 

 

 

 

 

 

14,499

 

 

32

 

 

14,499

 

 

32

 

Residential Mortgage-backed securities:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. Government agencies

 

 

 

 

 

 

 

 

5,281

 

 

20

 

 

5,281

 

 

20

 

U.S. Government-sponsored enterprises

 

 

 

 

 

 

 

 

10,372

 

 

93

 

 

10,372

 

 

93

 

Commercial Mortgage-backed securities:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. Government-sponsored enterprises

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 —

 

 

 —

 

Total

 

$

 —

 

$

 —

 

$

113,437

 

$

585

 

$

113,437

 

$

585

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Less Than 12 Months  

 

12 Months or More  

 

Total  

 

 

 

Fair

 

Unrealized

 

Fair

 

Unrealized

 

Fair

 

Unrealized

 

December 31, 2018

    

Value 

    

Losses  

    

Value 

    

Losses  

    

Value  

    

Losses 

 

U.S. Treasury securities

    

$  

1,995

    

$

 2

    

$

19,671

    

$

363

    

$

21,666

    

$

365

 

U.S. Government-sponsored enterprises

 

 

2,037

 

 

 1

 

 

89,729

 

 

2,182

 

 

91,766

 

 

2,183

 

State and municipals:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Tax-exempt

 

 

9,022

 

 

74

 

 

52,352

 

 

714

 

 

61,374

 

 

788

 

Residential Mortgage-backed securities:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. Government agencies

 

 

 

 

 

 

 

 

7,800

 

 

84

 

 

7,800

 

 

84

 

U.S. Government-sponsored enterprises

 

 

12,851

 

 

55

 

 

13,881

 

 

351

 

 

26,732

 

 

406

 

Commercial Mortgage-backed securities:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. Government-sponsored enterprises

 

 

 

 

 

 

 

 

6,039

 

 

230

 

 

6,039

 

 

230

 

Total

 

$

25,905

 

$

132

 

$

189,472

 

$

3,924

 

$

215,377

 

$

4,056

 

 

The Company had 73 investment securities, consisting of 20 tax-exempt state and municipal obligations, 3 U.S. Treasury securities, 28 U.S. Government-sponsored enterprise securities, and 22 mortgage-backed securities that were in unrealized loss positions at June 30, 2019. Of these securities, 3 U.S. Treasury securities, 28 U.S. Government-sponsored enterprise securities, 20 tax-exempt state and municipal obligations, and 20 mortgage-backed securities were in a continuous unrealized loss position for twelve months or more. Management does not consider the unrealized losses on the debt securities, as a result of changes in interest rates, to be OTTI based on historical evidence that indicates the cost of these securities is recoverable within a reasonable period of time in relation to normal cyclical changes in the market rates of interest. Moreover, because there has been no material change in the credit quality of the issuers or other events or circumstances that may cause a significant adverse impact on the fair value of these securities, and management does not intend to sell these securities and it is unlikely that the Company will be required to sell these securities before recovery of their amortized cost basis, which may be maturity, the Company does not consider the unrealized losses to be OTTI at June 30, 2019. There was no OTTI recognized for the three or six months ended June 30, 2019 and 2018.

14

Table of Contents

Peoples Financial Services Corp.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Dollars in thousands, except per share data)

 

5. Loans, net and allowance for loan losses:

 

The major classifications of loans outstanding, net of deferred loan origination fees and costs at June 30, 2019 and December 31, 2018 are summarized as follows. Net deferred loan costs were $901 and $744 at June 30, 2019 and December 31, 2018.

 

 

 

 

 

 

 

 

 

 

    

 

June 30, 2019

    

 

December 31, 2018

 

Commercial

 

$

513,655

 

$

494,134

 

Real estate:

 

 

 

 

 

 

 

Commercial

 

 

935,578

 

 

907,803

 

Residential

 

 

298,527

 

 

299,876

 

Consumer

 

 

111,039

 

 

121,453

 

Total

 

$

1,858,799

 

$

1,823,266

 

 

The changes in the allowance for loan losses account by major classification of loan for the three and six months ended June 30, 2019 and 2018 are summarized as follows:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

    

 

 

Real estate

 

 

 

 

 

 

 

June 30, 2019

    

Commercial

    

Commercial

    

Residential

 

Consumer

 

Total

 

Allowance for loan losses:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Beginning Balance April 1, 2019

   

$

5,955

 

$

11,074

 

$

3,880

 

$

1,196

 

$

22,105

 

Charge-offs

   

 

(10)

 

 

(343)

 

 

(143)

 

 

(80)

 

 

(576)

 

Recoveries

   

 

 2

 

 

 

 

 

12

 

 

37

 

 

51

 

Provisions

   

 

195

 

 

311

 

 

(134)

 

 

(22)

 

 

350

 

Ending balance

   

$

6,142

 

$

11,042

 

$

3,615

 

$

1,131

 

$

21,930

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Real estate

 

 

 

 

 

 

 

June 30, 2018

    

Commercial

    

Commercial

    

Residential

 

Consumer

 

Total

 

Allowance for loan losses:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Beginning Balance April 1, 2018

   

$

5,198

 

$

10,301

 

$

2,924

 

$

1,295

 

$

19,718

 

Charge-offs

   

 

(2)

 

 

(1,169)

 

 

(82)

 

 

(145)

 

 

(1,398)

 

Recoveries

   

 

59

 

 

30

 

 

57

 

 

57

 

 

203

 

Provisions

   

 

(64)

 

 

896

 

 

257

 

 

(39)

 

 

1,050

 

Ending balance

   

$

5,191

  

$

10,058

 

$

3,156

 

$

1,168

 

$

19,573

 

 

15

Table of Contents

Peoples Financial Services Corp.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Dollars in thousands, except per share data)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

  

 

 

 

Real estate  

 

 

 

 

 

 

 

June 30, 2019

    

Commercial

    

Commercial  

    

Residential  

 

Consumer  

 

Total

 

Allowance for loan losses:

  

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Beginning Balance January 1, 2019

  

$

5,516

 

$

10,736

 

$

3,892

 

 

1,235

 

 

21,379

 

Charge-offs

  

 

(87)

 

 

(349)

 

 

(302)

 

 

(212)

 

 

(950)

 

Recoveries

  

 

10

 

 

 

 

 

16

 

 

75

 

 

101

 

Provisions

  

 

703

 

 

655

 

 

 9

 

 

33

 

 

1,400

 

Ending balance

  

$

6,142

  

$

11,042

 

$

3,615

 

$

1,131

 

$

21,930

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Real estate  

 

 

 

 

 

 

 

June 30, 2018

    

Commercial

    

Commercial  

    

Residential  

 

Consumer  

 

Total

 

Allowance for loan losses:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Beginning Balance January 1, 2018

 

$

5,513

 

$

8,944

 

$

3,111

 

$

1,392

 

$

18,960

 

Charge-offs

 

 

(2)

 

 

(1,169)

 

 

(381)

 

 

(272)

 

 

(1,824)

 

Recoveries

 

 

116

 

 

57

 

 

67

 

 

97

 

 

337

 

Provisions

 

 

(436)

 

 

2,226

 

 

359

 

 

(49)

 

 

2,100

 

Ending balance

 

$

5,191

 

$

10,058

 

$

3,156

 

$

1,168

 

$

19,573

 

 

The allocation of the allowance for loan losses and the related loans by major classifications of loans at June 30, 2019 and December 31, 2018 is summarized as follows:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

  

 

Real estate

 

 

 

 

 

 

 

June 30, 2019

    

Commercial

    

Commercial

    

   Residential

    

Consumer

    

   Total

 

Allowance for loan losses:

 

 

  

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending balance

 

$

6,142

 

$

11,042

  

$

3,615

 

$

1,131

 

$

21,930

  

Ending balance: individually evaluated for impairment

 

 

615

 

 

216

 

 

295

 

 

 

 

 

1,126

  

Ending balance: collectively evaluated for impairment

 

$

5,527

 

$

10,826

 

$

3,320

 

$

1,131

 

$

20,804

  

Loans receivable:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending balance

 

$

513,655

 

$

935,578

  

$

298,527

 

$

111,039

 

$

1,858,799

  

Ending balance: individually evaluated for impairment

 

 

5,915

 

 

3,867

 

 

2,280

 

 

251

 

 

12,313

  

Ending balance: collectively evaluated for impairment

 

$

507,740

 

$

931,711

 

$

296,247

 

$

110,788

 

$

1,846,486

  

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

16

Table of Contents

Peoples Financial Services Corp.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Dollars in thousands, except per share data)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

  

 

Real estate

 

 

 

 

 

 

 

December 31, 2018

    

Commercial

    

Commercial

    

   Residential

    

Consumer

    

   Total

 

Allowance for loan losses:

 

 

  

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending balance

 

$

5,516

 

$

10,736

  

$

3,892

 

$

1,235

 

$

21,379

  

Ending balance: individually evaluated for impairment

 

 

50

 

 

403

 

 

666

 

 

60

 

 

1,179

  

Ending balance: collectively evaluated for impairment

 

$

5,466

 

$

10,333

 

$

3,226

 

$

1,175

 

$

20,200

  

Loans receivable:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending balance

 

$

494,134

 

$

907,803

  

$

299,876

 

$

121,453

 

$

1,823,266

  

Ending balance: individually evaluated for impairment

 

 

2,237

 

 

3,121

 

 

4,071

 

 

212

 

 

9,641

  

Ending balance: collectively evaluated for impairment

 

$

491,897

 

$

904,682

 

$

295,805

 

$

121,241

 

$

1,813,625

  

 

 

The Company segments loans into risk categories based on relevant information about the ability of borrowers to service their debt such as current financial information, historical payment experience, credit documentation, public information, and current economic trends, among other factors. Loans are individually analyzed for credit risk by classifying them within the Company’s internal risk rating system. The Company’s risk rating classifications are defined as follows:

 

·

Pass- A loan to borrowers with acceptable credit quality and risk that is not adversely classified as Substandard, Doubtful, Loss nor designated as Special Mention.

 

·

Special Mention- A loan that has potential weaknesses that deserves management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the loan or in the institution’s credit position at some future date. Special Mention loans are not adversely classified since they do not expose the Company to sufficient risk to warrant adverse classification.

 

·

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

 

·

Doubtful – A loan classified as Doubtful has all the weaknesses inherent in one classified Substandard with the added characteristic that the weaknesses make the collection or liquidation in full, on the basis of currently existing facts, conditions, and values, highly questionable and improbable.

 

·

Loss- A loan classified as Loss is considered uncollectible and of such little value that its continuance as bankable loan is not warranted. This classification does not mean that the loan has absolutely no recovery or salvage value, but rather it is not practical or desirable to defer writing off this basically worthless asset even though partial recovery may be affected in the future.

 

17

Table of Contents

Peoples Financial Services Corp.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Dollars in thousands, except per share data)

 

The following tables present the major classification of loans summarized by the aggregate pass rating and the classified ratings of special mention, substandard and doubtful within the Company’s internal risk rating system at June 30, 2019 and December 31, 2018:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Special

 

 

 

 

 

 

 

 

 

 

June 30, 2019

    

Pass

    

Mention

    

Substandard

    

Doubtful

    

Total

 

Commercial

 

$

504,060

 

$

2,029

 

$

7,566

 

$

 

 

$

513,655

 

Real estate:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

 

905,398

 

 

3,054

 

 

27,126

 

 

 

 

 

935,578

 

Residential

 

 

296,021

 

 

351

 

 

2,155

 

 

 

 

 

298,527

 

Consumer

 

 

110,672

 

 

 

 

 

367

 

 

 

 

 

111,039

 

Total

 

$

1,816,151

 

$

5,434

 

$

37,214

 

$

 

 

$

1,858,799

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Special

 

 

 

 

 

 

 

 

 

 

December 31, 2018

    

Pass

    

Mention

    

Substandard

    

Doubtful

    

Total

 

Commercial

 

$

491,531

 

$

869

 

$

1,734

 

$

 

 

$

494,134

 

Real estate:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

 

886,849

 

 

8,934

 

 

12,020

 

 

 

 

 

907,803

 

Residential

 

 

295,758

 

 

357

 

 

3,761

 

 

 

 

 

299,876

 

Consumer

 

 

121,229

 

 

 

 

 

224

 

 

 

 

 

121,453

 

Total

 

$

1,795,367

 

$

10,160

 

$

17,739

 

$

 

 

$

1,823,266

 

 

The increase in substandard loans from December 31, 2018 to June 30, 2019 is primarily associated with the reclassification of several larger commercial credits to this category. The largest relationship totals $10.4 million and consists of commercial real estate and equipment financing for a borrowing group that has encountered some financial difficulties. The second largest reclassification consists of a $5.3 million commercial real estate construction loan that experienced significant construction delays. The construction is now complete and the property recently received its certificate of occupancy. The Bank considers both of these credit relationships to be well secured and both relationships were current as of June 30, 2019.

 

Information concerning nonaccrual loans by major loan classification at June 30, 2019 and December 31, 2018 is summarized as follows:

 

 

 

 

 

 

 

 

 

 

    

 

June 30, 2019

    

 

December 31, 2018

 

Commercial

 

$

4,494

 

$

776

 

Real estate:

 

 

 

 

 

 

 

Commercial

 

 

3,044

 

 

2,663

 

Residential

 

 

1,464

 

 

2,580

 

Consumer

 

 

251

 

 

212

 

Total

 

$

9,253

 

$

6,231

 

 

The major classifications of loans by past due status are summarized as follows:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

    

 

 

    

 

 

    

Greater

    

 

 

    

 

 

    

 

 

    

Loans > 90

 

 

 

30-59 Days

 

60-89 Days

 

than 90

 

Total Past

 

 

 

 

 

 

 

Days and

 

June 30, 2019

 

Past Due  

 

Past Due  

 

Days  

 

Due  

 

Current  

 

Total Loans  

 

Accruing  

 

Commercial

 

$

385

 

$

136

 

$

4,502

 

$

5,023

 

$

508,632

 

$

513,655

 

$

8

 

Real estate:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

 

1,200

 

 

54

 

 

3,192

 

 

4,446

 

 

931,132

 

 

935,578

 

 

148

 

Residential

 

 

1,930

 

 

427

 

 

1,649

 

 

4,006

 

 

294,521

 

 

298,527

 

 

185

 

Consumer

 

 

495

 

 

128

 

 

251

 

 

874

 

 

110,165

 

 

111,039

 

 

 

 

Total

 

$

4,010

 

$

745

 

$

9,594

 

$

14,349

 

$

1,844,450

 

$

1,858,799

 

$

341

 

 

18

Table of Contents

Peoples Financial Services Corp.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Dollars in thousands, except per share data)

 

The Company classifies all nonaccrual loans in the greater than 90 days category.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

    

 

 

    

 

 

    

Greater

    

 

 

    

 

 

    

 

 

    

Loans > 90

 

 

 

30-59 Days

 

60-89 Days

 

than 90

 

Total Past

 

 

 

 

 

 

 

Days and

 

December 31, 2018

 

Past Due  

 

Past Due  

 

Days  

 

Due  

 

Current  

 

Total Loans  

 

Accruing  

 

Commercial

 

$

973

 

$

79

 

$

776

 

$

1,828

 

$

492,306

 

$

494,134

 

 

 

 

Real estate:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

 

1,889

 

 

218

 

 

2,736

 

 

4,843

 

 

902,960

 

 

907,803

 

$

73

 

Residential

 

 

2,486

 

 

1,545

 

 

3,430

 

 

7,461

 

 

292,415

 

 

299,876

 

 

850

 

Consumer

 

 

756

 

 

292

 

 

212

 

 

1,260

 

 

120,193

 

 

121,453

 

 

 

 

Total

 

$

6,104

 

$

2,134

 

$

7,154

 

$

15,392

 

$

1,807,874

 

$

1,823,266

 

$

923

 

 

The following tables summarize information concerning impaired loans as of and for the three and six months ended June 30, 2019 and June 30, 2018, and as of and for the year ended, December 31, 2018 by major loan classification:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

This Quarter

 

Year-to-Date

 

 

 

 

 

 

Unpaid

 

 

 

 

Average

 

Interest

 

Average

 

Interest

 

 

 

Recorded

 

Principal

 

Related

 

Recorded

 

Income

 

Recorded

 

Income

 

June 30, 2019

    

Investment  

    

Balance  

    

Allowance  

    

Investment  

    

Recognized  

 

Investment  

    

Recognized  

 

With no related allowance:

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

 

    

 

 

 

Commercial

 

$

4,495

 

$

4,931

 

 

 

 

$

5,284

 

$

17

 

$

4,043

 

$

34

 

Real estate:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

 

2,957

 

 

3,116

 

 

 

 

 

2,528

 

 

10

 

 

2,341

 

 

23

 

Residential

 

 

619

 

 

888

 

 

 

 

 

740

 

 

 4

 

 

1,150

 

 

11

 

Consumer

 

 

251

 

 

261

 

 

 

 

 

245

 

 

 

 

 

214

 

 

 

 

Total

 

 

8,322

 

 

9,196

 

 

 

 

 

8,797

 

 

31

 

 

7,748

 

 

68

 

With an allowance recorded:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

 

1,420

 

 

1,432

 

 

615

 

 

1,180

 

 

 5

 

 

1,012

 

 

12

 

Real estate:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

 

910

 

 

1,380

 

 

216

 

 

1,174

 

 

 5

 

 

1,166

 

 

10

 

Residential

 

 

1,661

 

 

1,740

 

 

295

 

 

1,848

 

 

 7

 

 

1,932

 

 

18

 

Consumer

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

20

 

 

 

 

Total

 

 

3,991

 

 

4,552

 

 

1,126

 

 

4,202

 

 

17

 

 

4,130

 

 

40

 

Total impaired loans

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

 

5,915

 

 

6,363

 

 

615

 

 

6,464

 

 

22

 

 

5,055

 

 

46

 

Real estate:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

 

3,867

 

 

4,496

 

 

216

 

 

3,702

 

 

15

 

 

3,507

 

 

33

 

Residential

 

 

2,280

 

 

2,628

 

 

295

 

 

2,588

 

 

11

 

 

3,082

 

 

29

 

Consumer

 

 

251

 

 

261

 

 

 

 

 

245

 

 

 

 

 

234

 

 

 

 

Total

 

$

12,313

 

$

13,748

 

$

1,126

 

$

12,999

 

$

48

 

$

11,878

 

$

108

 

 

 

19

Table of Contents

Peoples Financial Services Corp.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Dollars in thousands, except per share data)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

For the Year Ended  

 

 

 

 

 

 

Unpaid

 

 

 

 

Average

 

Interest

 

 

 

Recorded

 

Principal

 

Related

 

Recorded

 

Income

 

December 31, 2018

    

Investment  

    

Balance  

    

Allowance  

    

Investment  

    

Recognized  

 

With no related allowance:

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Commercial

 

$

1,562

 

$

1,900

 

 

 

 

$

1,318

 

$

67

 

Real estate:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

 

1,969

 

 

2,299

 

 

 

 

 

2,822

 

 

28

 

Residential

 

 

1,970

 

 

2,658

 

 

 

 

 

2,193

 

 

22

 

Consumer

 

 

152

 

 

160

 

 

 

 

 

135

 

 

 

 

Total

 

 

5,653

 

 

7,017

 

 

 

 

 

6,468

 

 

117

 

With an allowance recorded:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

 

675

 

 

675

 

 

50

 

 

1,006

 

 

30

 

Real estate:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

 

1,152

 

 

1,323

 

 

403

 

 

1,676

 

 

18

 

Residential

 

 

2,101

 

 

2,328

 

 

666

 

 

1,585

 

 

22

 

Consumer

 

 

60

 

 

60

 

 

60

 

 

21

 

 

 

 

Total

 

 

3,988

 

 

4,386

 

 

1,179

 

 

4,288

 

 

70

 

Total impaired loans

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

 

2,237

 

 

2,575

 

 

50

 

 

2,324

 

 

97

 

Real estate:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

 

3,121

 

 

3,622

 

 

403

 

 

4,498

 

 

46

 

Residential

 

 

4,071

 

 

4,986

 

 

666

 

 

3,778

 

 

44

 

Consumer

 

 

212

 

 

220

 

 

60

 

 

156

 

 

 

 

Total

 

$

9,641

 

$

11,403

 

$

1,179

 

$

10,756

 

$

187

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

This Quarter

 

Year-to-Date

 

 

 

 

 

 

Unpaid

 

 

 

 

Average

 

Interest

 

Average

 

Interest

 

 

 

Recorded

 

Principal

 

Related

 

Recorded

 

Income

 

Recorded

 

Income

 

June 30, 2018

    

Investment  

    

Balance  

    

Allowance  

    

Investment  

    

Recognized  

 

Investment  

    

Recognized  

 

With no related allowance:

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

 

    

 

 

 

Commercial

 

$

1,182

 

$

1,355

 

 

 

 

$

1,197

 

$

16

 

$

1,224

 

$

33

 

Real estate:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

 

2,871

 

 

3,262

 

 

 

 

 

2,921

 

 

9

 

 

2,910

 

 

15

 

Residential

 

 

2,146

 

 

2,848

 

 

 

 

 

2,218

 

 

4

 

 

2,210

 

 

8

 

Consumer

 

 

60

 

 

67

 

 

 

 

 

106

 

 

 

 

 

127

 

 

 

 

Total

 

 

6,259

 

 

7,532

 

 

 

 

 

6,442

 

 

29

 

 

6,471

 

 

56

 

With an allowance recorded:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

 

1,100

 

 

1,124

 

$

146

 

 

1,117

 

 

 8

 

 

1,139

 

 

16

 

Real estate:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

 

1,755

 

 

1,876

 

 

502

 

 

2,079

 

 

 4

 

 

1,853

 

 

10

 

Residential

 

 

1,425

 

 

1,550

 

 

378

 

 

1,458

 

 

 4

 

 

1,504

 

 

 8

 

Consumer

 

 

 3

 

 

 3

 

 

 3

 

 

11

 

 

 

 

 

10

 

 

 

 

Total

 

 

4,283

 

 

4,553

 

 

1,029

 

 

4,665

 

 

16

 

 

4,506

 

 

34

 

Total impaired loans

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

 

2,282

 

 

2,479

 

 

146

 

 

2,314

 

 

24

 

 

2,363

 

 

49

 

Real estate:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial

 

 

4,626

 

 

5,138

 

 

502

 

 

5,000

 

 

13

 

 

4,763

 

 

25

 

Residential

 

 

3,571

 

 

4,398

 

 

378

 

 

3,676

 

 

 8

 

 

3,714

 

 

16

 

Consumer

 

 

63

 

 

70

 

 

 3

 

 

117

 

 

 

 

 

137

 

 

 

 

Total

 

$

10,542

 

$

12,085

 

$

1,029

 

$

11,107

 

$

45

 

$

10,977

 

$

90

 

 

20

Table of Contents

Peoples Financial Services Corp.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Dollars in thousands, except per share data)

 

 Included in the commercial loan and commercial and residential real estate categories are troubled debt restructurings that are classified as impaired. Troubled debt restructurings totaled $2,677 at June 30, 2019, $2,779 at December 31, 2018 and $3,307 at June 30, 2018.

 

Troubled debt restructured loans are loans with original terms, interest rate, or both, that have been modified as a result of a deterioration in the borrower’s financial condition and a concession has been granted that the Company would not otherwise consider. Unless on nonaccrual, interest income on these loans is recognized when earned, using the interest method. The Company offers a variety of modifications to borrowers that would be considered concessions. The modification categories offered generally fall within the following categories:

 

·

Rate Modification - A modification in which the interest rate is changed to a below market rate.

 

·

Term Modification - A modification in which the maturity date, timing of payments or frequency of payments is changed.

 

·

Interest Only Modification - A modification in which the loan is converted to interest only payments for a period of time.

 

·

Payment Modification - A modification in which the dollar amount of the payment is changed, other than an interest only modification described above.

 

·

Combination Modification - Any other type of modification, including the use of multiple categories above.

 

There were no loans modified as troubled debt restructurings for the three months ended June 30, 2019.  There was one commercial real estate loan modified as a troubled debt restructuring during the six months ended June 30, 2019 in the amount of $340. There was one commercial real estate loan modified as a troubled debt restructuring for the three and six months ended June 30, 2018 totaling $340. During the three and six months ended June 30, 2019, there were payment defaults on two restructured commercial real estate loans with balances totaling $335 which were subsequently charged-off. During the three months ended June 30, 2018, there were no payment defaults on restructured loans. During the six months ended June 30, 2018, there was one payment default on a restructured residential mortgage loan with an outstanding balance of $58. 

 

6. Other assets:

 

The components of other assets at June 30, 2019, and December 31, 2018 are summarized as follows:

 

 

 

 

 

 

 

 

 

 

    

 

June 30, 2019

    

 

December 31, 2018

 

Other real estate owned

 

$

408

 

$

376

 

Investment in low income housing partnership

 

 

7,139

 

 

7,377

 

Mortgage servicing rights

 

 

719

 

 

718

 

Bank owned life insurance

 

 

34,667

 

 

34,288

 

Restricted equity securities

 

 

7,833

 

 

7,462

 

Net deferred tax asset

 

 

3,919

 

 

5,081

 

Other assets

 

 

12,940

 

 

8,435

 

Total

 

$

67,625

 

$

63,737

 

 

 

7. Fair value estimates:

 

The Company uses fair value measurements to record fair value adjustments to certain assets and liabilities and to determine fair value disclosure under GAAP. Fair value estimates are calculated without attempting to estimate the value of anticipated future business and the value of certain assets and liabilities that are not considered financial. Accordingly, such assets and liabilities are excluded from disclosure requirements.

21

Table of Contents

Peoples Financial Services Corp.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Dollars in thousands, except per share data)

 

 

 

In accordance with FASB ASC 820, “Fair Value Measurements and Disclosures,” fair value is the price that would be received to sell an asset or transfer a liability in an orderly transaction between market participants at the measurement date. Fair value is best determined based upon quoted market prices. In cases where quoted market prices are not available, fair values are based on estimates using present value or other valuation techniques. Those techniques are significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. In that regard, the derived fair value estimates cannot be substantiated by comparison to independent markets. In many cases, these values cannot be realized in immediate settlement of the instrument.

 

Current fair value guidance provides a consistent definition of fair value, which focuses on exit price in an orderly transaction that is not a forced liquidation or distressed sale between participants at the measurement date under current market conditions. If there has been a significant decrease in the volume and level of activity for the asset or liability, a change in valuation technique or the use of multiple valuation techniques may be appropriate. In such instances, determining the price at which willing market participants would transact at the measurement date under current market conditions depends on the facts and circumstances and requires the use of significant judgment. The fair value is a reasonable point within the range that is most representative of fair value under current market conditions.

 

In accordance with GAAP, the Company groups its assets and liabilities generally measured at fair value into three levels based on market information or other fair value estimates in which the assets and liabilities are traded or valued and the reliability of the assumptions used to determine fair value. These levels include:

 

·

Level 1: Unadjusted quoted prices of identical assets or liabilities in active markets that the entity has the ability to access as of the measurement date.

 

·

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

 

·

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

 

An asset’s or liability’s placement in the fair value hierarchy is based on the lowest level of input that is significant to the fair value estimate.

 

During the periods ended June 30, 2019 and December 31, 2018 there were no significant transfers between Level 1 and Level 2 and no transfers in or out of Level 3. 

 

The following methods and assumptions were used by the Company to calculate fair values and related carrying amounts of financial instruments:

 

Investment securities: The fair values of U.S. Treasury securities and marketable equity securities are based on quoted market prices from active exchange markets. The fair values of debt securities are based on pricing from a matrix pricing model. 

 

Loans held for sale: The fair values of loans held for sale are based upon current delivery prices in the secondary mortgage market.

 

 

Interest rate swaps:  The Company’s interest rate swaps are reported at fair value utilizing Level 2 inputs. Values of these instruments are obtained through an independent pricing source utilizing information which may include market observed quotations for swaps, Libor rates, forward rates and rate volatility. Derivative contracts create exposure to interest rate movements as well as risks from the potential of non-performance of the counterparty.

 

 

22

Table of Contents

Peoples Financial Services Corp.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Dollars in thousands, except per share data)

 

Assets and liabilities measured at fair value on a recurring basis at June 30, 2019 and December 31, 2018 are summarized as follows:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fair Value Measurement Using

 

 

 

 

 

Quoted Prices in

 

Significant

 

Significant

 

 

 

 

 

Active Markets for

 

Other Observable

 

Unobservable

 

 

 

 

 

Identical Assets

 

Inputs

 

Inputs

 

June 30, 2019

    

Amount

    

(Level 1)

    

(Level 2)

    

(Level 3)

 

U.S. Treasury securities

    

$

24,084

    

$

24,084

    

 

 

    

$

 

 

U.S. Government-sponsored enterprises

 

 

93,489

 

 

 

 

$

93,489

 

 

 

 

State and Municipals:

 

 

 

 

 

 

 

 

 

 

 

 

 

Taxable

 

 

12,842

 

 

 

 

 

12,842

 

 

 

 

Tax-exempt

 

 

70,135

 

 

 

 

 

70,135

 

 

 

 

Mortgage-backed securities:

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. Government agencies

 

 

10,784

 

 

 

 

 

10,784

 

 

 

 

U.S. Government-sponsored enterprises

 

 

50,331

 

 

 

 

 

50,331

 

 

 

 

Common equity securities

 

 

283

 

 

283

 

 

 

 

 

 

 

Interest rate floor-other assets

 

 

1,025

 

 

 

 

 

1,025

 

 

 

 

Interest rate swap-other assets

 

 

3,807

 

 

 

 

 

3,807

 

 

 

 

Interest rate swap-other liabilities

 

 

(4,182)

 

 

 

 

 

(4,182)

 

 

 

 

Total

 

$

262,598

 

$

24,367

 

$

238,231

 

$

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fair Value Measurement Using 

 

 

 

 

 

 

Quoted Prices in

 

Significant

 

Significant

 

 

 

 

 

Active Markets for

 

Other Observable

 

Unobservable

 

 

 

 

 

Identical Assets

 

Inputs

 

Inputs

 

December 31, 2018

    

Amount

    

(Level 1)

    

(Level 2)

    

(Level 3)

 

U.S. Treasury securities

    

$

25,592

    

$

25,592

    

 

 

    

$

 

 

U.S. Government-sponsored enterprises

 

 

92,818

 

 

 

 

$

92,818

 

 

 

 

State and Municipals:

 

 

 

 

 

 

 

 

 

 

 

 

 

Taxable

 

 

13,853

 

 

 

 

 

13,853

 

 

 

 

Tax-exempt

 

 

85,954

 

 

 

 

 

85,954

 

 

 

 

Mortgage-backed securities:

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. Government agencies

 

 

12,629

 

 

 

 

 

12,629

 

 

 

 

U.S. Government-sponsored enterprises

 

 

38,836

 

 

 

 

 

38,836

 

 

 

 

Common equity securities

 

 

291

 

 

291

 

 

 

 

 

 

 

Interest rate floor-other assets

 

 

553

 

 

 

 

 

553

 

 

 

 

Interest rate swap-other assets

 

 

108

 

 

 

 

 

108

 

 

 

 

Interest rate swap-other liabilities

 

 

(138)

 

 

 

 

 

(138)

 

 

 

 

Total

 

$

270,496

 

$

25,883

 

$

244,613

 

$

 

 

 

Assets and liabilities measured at fair value on a nonrecurring basis at June 30, 2019 and December 31, 2018 are summarized as follows:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fair Value Measurement Using

 

 

 

 

 

 

Quoted Prices in

 

Significant

 

Significant

 

 

 

 

 

Active Markets for

 

Other Observable

 

Unobservable

 

 

 

 

 

Identical Assets

 

Inputs

 

Inputs

 

June 30, 2019

    

Amount 

    

(Level 1)

    

(Level 2)

    

(Level 3)

 

Impaired loans

    

$

2,865

    

 

 

    

 

 

    

$

2,865

 

Other real estate owned

 

$

250

 

 

 

 

 

 

 

$

250

 

 

 

23

Table of Contents

Peoples Financial Services Corp.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Dollars in thousands, except per share data)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fair Value Measurement Using 

 

 

 

 

 

 

Quoted Prices in

 

Significant Other

 

Significant

 

 

 

 

 

Active Markets for

 

Observable

 

Unobservable

 

 

 

 

 

Identical Assets

 

Inputs

 

Inputs

 

December 31, 2018

    

Amount 

    

(Level 1)

    

(Level 2)

    

(Level 3)

 

Impaired loans

    

$

2,809

    

 

 

    

 

 

    

$

2,809

 

Other real estate owned

 

$

234

 

 

 

 

 

 

 

$

234

 

 

Fair values of impaired loans are based on the present value of expected future cash flows discounted at the loan’s effective interest rate or the fair value of the collateral if the loan is collateral dependent.

 

The following table presents additional quantitative information about assets measured at fair value on a nonrecurring basis and for which the Company has utilized Level 3 inputs to determine fair value:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Quantitative Information about Level 3 Fair Value Measurements 

 

 

 

Fair Value

 

 

 

 

 

Range

 

June 30, 2019

    

Estimate 

    

Valuation Techniques 

    

Unobservable Input 

    

(Weighted Average) 

 

Impaired loans

    

$

2,865

    

Appraisal of collateral

    

Appraisal adjustments

    

7.6% to 97.0%  (56.7)%

 

 

 

 

 

 

 

 

Liquidation expenses

 

3.0% to 6.0% (5.4)%

 

Other real estate owned

 

$

250

 

Appraisal of collateral

 

Appraisal adjustments

 

20.0% to 43.3%  (32.0)%

 

 

 

 

 

 

 

 

Liquidation expenses

 

3.0% to 6.0% (5.0)%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Quantitative Information about Level 3 Fair Value Measurements 

 

 

 

Fair Value

 

 

 

 

 

Range

 

December 31, 2018

    

Estimate 

    

Valuation Techniques 

    

Unobservable Input 

    

(Weighted Average) 

 

Impaired loans

    

$

2,809

    

Appraisal of collateral

    

Appraisal adjustments

    

7.1% to 97.0%  (61.8)%

 

 

 

 

 

 

 

 

Liquidation expenses

 

3.0% to 6.0% (4.4)%

 

Other real estate owned

 

$

234

 

Appraisal of collateral

 

Appraisal adjustments

 

26.0% to 73.3%  (38.9)%

 

 

 

 

 

 

 

 

Liquidation expenses

 

3.0% to 6.0% (5.0)%

 

 

Fair value is generally determined through independent appraisals of the underlying collateral, which generally include various Level 3 inputs which are not identifiable.

 

Appraisals may be adjusted by management for qualitative factors such as economic conditions and estimated liquidation expenses. The range and weighted average of liquidation expenses and other appraisal adjustments are presented as a percent of the appraisal.

 

24

Table of Contents

Peoples Financial Services Corp.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Dollars in thousands, except per share data)

 

 

The carrying and fair values of the Company’s financial instruments at June 30, 2019 and December 31, 2018 and their placement within the fair value hierarchy are as follows:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

    

 

 

    

 

 

    

Fair Value Hierarchy 

 

 

 

 

 

 

 

 

 

Quoted

   

 

 

   

 

 

 

 

 

 

 

 

 

 

 

Prices in

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Active

 

Significant

 

 

 

 

 

 

 

 

 

 

 

 

Markets for

 

Other

 

Significant

 

 

 

 

 

 

 

 

 

Identical

 

Observable

 

Unobservable

 

 

 

Carrying

 

Fair

 

Assets

 

Inputs

 

Inputs

 

June 30, 2019

    

Value 

    

Value 

    

(level 1) 

    

(level 2) 

    

(Level 3) 

 

Financial assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

29,962

 

$

29,962

 

$

29,962

 

 

 

 

 

 

 

Investment securities:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Available-for-sale

 

 

261,665

 

 

261,665

 

 

24,084

 

$

237,581

 

 

 

 

Common equity securities

 

 

283

 

 

283

 

 

283

 

 

 

 

 

 

 

Held-to-maturity

 

 

7,969

 

 

8,151

 

 

 

 

 

8,151

 

 

 

 

Net loans

 

 

1,836,869

 

 

1,830,139

 

 

 

 

 

 

 

$

1,830,139

 

Accrued interest receivable

 

 

7,303

 

 

7,303

 

 

 

 

 

7,303

 

 

 

 

Mortgage servicing rights

 

 

719

 

 

1,712

 

 

 

 

 

1,712

 

 

 

 

Restricted equity securities

 

 

7,833

 

 

7,833

 

 

 

 

 

7,833

 

 

 

 

Interest rate floor

 

 

1,025

 

 

1,025

 

 

 

 

 

1,025

 

 

 

 

Interest rate swaps

 

 

3,807

 

 

3,807

 

 

 

 

 

3,807

 

 

 

 

Total

 

$

2,157,435

 

$

2,151,880

 

 

 

 

 

 

 

 

 

 

Financial liabilities:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deposits

 

$

1,876,799

 

$

1,862,246

 

 

 

 

$

1,862,246

 

 

 

 

Short-term borrowings

 

 

82,700

 

 

82,700

 

 

 

 

 

82,700

 

 

 

 

Long-term debt

 

 

52,980

 

 

53,338

 

 

 

 

 

53,338

 

 

 

 

Accrued interest payable

 

 

1,058

 

 

1,058

 

 

 

 

 

1,058

 

 

 

 

Interest rate swaps

 

 

4,182

 

 

4,182

 

 

 

 

 

4,182

 

 

 

 

Total

 

$

2,017,719

 

$

2,003,524

 

 

 

 

 

 

 

 

 

 

 

 

 

25

Table of Contents

Peoples Financial Services Corp.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Dollars in thousands, except per share data)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

    

 

 

    

 

 

    

Fair Value Hierarchy 

 

 

 

 

 

 

 

 

 

Quoted

    

 

 

    

 

 

 

 

 

 

 

 

 

 

 

Prices in

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Active

 

Significant

 

 

 

 

 

 

 

 

 

 

 

 

Markets for

 

Other

 

Significant

 

 

 

 

 

 

 

 

 

Identical

 

Observable

 

Unobservable

 

 

 

Carrying

 

Fair

 

Assets

 

Inputs

 

Inputs

 

December 31, 2018

    

Value 

    

Value 

    

(level 1) 

    

(level 2) 

    

(Level 3) 

 

Financial assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

32,616

 

$

32,616

 

$

32,616

 

 

 

 

 

 

 

Investment securities:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Available-for-sale

 

 

269,682

 

 

269,682

 

 

25,952

 

$

244,090

 

 

 

 

Common equity securities

 

 

291

 

 

291

 

 

291

 

 

 

 

 

 

 

Held-to-maturity

 

 

8,361

 

 

8,380

 

 

 

 

 

8,380

 

 

 

 

Loans held for sale

 

 

749

 

 

749

 

 

 

 

 

749

 

 

 

 

Net loans

 

 

1,801,887

 

 

1,762,449

 

 

 

 

 

 

 

$

1,762,449

 

Accrued interest receivable

 

 

7,115

 

 

7,115

 

 

 

 

 

7,115

 

 

 

 

Mortgage servicing rights

 

 

718

 

 

1,710

 

 

 

 

 

1,710

 

 

 

 

Restricted equity securities

 

 

7,462

 

 

7,462

 

 

 

 

 

7,462

 

 

 

 

Interest rate floor

 

 

553

 

 

553

 

 

 

 

 

553

 

 

 

 

Interest rate swaps

 

 

108

 

 

108

 

 

 

 

 

108

 

 

 

 

Total

 

$

2,129,542

 

$

2,091,115

 

 

 

 

 

 

 

 

 

 

Financial liabilities:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deposits

 

$

1,875,022

 

$

1,874,520

 

 

 

 

$

1,874,520

 

 

 

 

Short-term borrowings

 

 

86,500

 

 

86,500

 

 

 

 

 

86,500

 

 

 

 

Long-term debt

 

 

37,906

 

 

38,071

 

 

 

 

 

38,071

 

 

 

 

Accrued interest payable

 

 

1,195

 

 

1,195

 

 

 

 

 

1,195

 

 

 

 

Interest rate swaps

 

 

138

 

 

138

 

 

 

 

 

138

 

 

 

 

Total

 

$

2,000,761

 

$

2,000,424

 

 

 

 

 

 

 

 

 

 

 

 

8. Employee benefit plans:

 

The Company provides an Employee Stock Ownership Plan (“ESOP”) and a Retirement Profit Sharing Plan. The Company also maintains Supplemental Executive Retirement Plans (“SERPs”) and an Employees’ Pension Plan, which is currently frozen.

 

For the three and six months ended June 30, salaries and employee benefits expense includes approximately $415 and $755, respectively in 2019 and $403 and $743, respectively in 2018 relating to the employee benefit plans.

 

 

 

 

 

 

 

 

 

 

 

 

Pension Benefits

Three Months Ended June 30, 

    

2019

    

2018

Components of net periodic pension cost:

    

 

 

    

 

 

Interest cost

 

$

192

 

$

156

Expected return on plan assets

 

 

(325)

 

 

(240)

Amortization of unrecognized net gain

 

 

68

 

 

49

Net periodic benefit cost

 

$

(65)

 

$

(35)

 

 

 

 

 

Pension Benefits

Six Months Ended June 30, 

    

2019

    

2018

Components of net periodic pension cost:

    

 

 

    

 

 

Interest cost

 

$

320

 

$

156

Expected return on plan assets

 

 

(542)

 

 

(240)

Amortization of unrecognized net gain

 

 

113

 

 

49

Net periodic benefit cost

 

$

(109)

 

$

(35)

26

Table of Contents

Peoples Financial Services Corp.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Dollars in thousands, except per share data)

 

 

The Company contributed $2,700 to the pension plan during the third quarter of 2018. This contribution reduced the unfunded portion of the pension plan and also reduced future premium costs associated with the plan. Previously, the Company paid a fixed premium cost of $18 annually with an additional $92 for the variable portion of the premium. This was reduced to $0 with the current funding status of the pension.

 

The 2008 long-term incentive plan (“2008 Plan”) allowed for eligible participants to be granted equity awards. No awards may be made under the 2008 Plan after January 15, 2018.

 

In May 2017, the Company’s stockholders approved the 2017 equity incentive plan (“2017 Plan”). The 2017 Plan allows for eligible participants to be granted equity awards. Under the 2017 Plan the Compensation Committee of the Board of Directors has the authority to, among other things:

 

·

Select the persons to be granted awards under the 2017 Plan.

 

·

Determine the type, size and term of awards.

 

·

Determine whether such performance objectives and conditions have been met.

 

·

Accelerate the vesting or excercisability of an award.

 

Persons eligible to receive awards under the 2017 Plan include directors, officers, employees, consultants and other service providers of the Company and its subsidiaries.

 

As of June 30, 2019, there were 61,346 shares of the Company’s common stock available for grant as awards pursuant to the 2017 Plan. The 2008 Plan expired in January 2018 but will remain in effect in accordance with its terms to govern outstanding awards under that plan. If any outstanding awards under the 2017 Plan are forfeited by the holder or canceled by the Company, the underlying shares would be available for regrant to others.

 

The 2017 Plan authorizes grants of stock options, stock appreciation rights, cash awards, performance awards, restricted stock and restricted stock units.

 

In the first six months of 2019 and 2018, the Company granted awards of restricted stock and restricted stock units under the 2017 Plan, with an aggregate of 17,345 shares and 11,468 shares underlying such awards, respectively.

 

The non-performance restricted stock grants made in 2019 and 2018 vest equally over three years from the grant date. The performance-based restricted stock units vest three years after the grant date and include conditions based on the Company’s three year cumulative diluted earnings per share and three-year average return on equity that determines the number of restricted stock units that may vest.

 

The Company expenses the fair value of all-share based compensation over the requisite service period commencing at grant date. The fair value of restricted stock is expensed on a straight-line basis. The Company periodically assesses the probability of achievement of the performance criteria and adjusts the amount of compensation expense accordingly. Compensation is recognized over the vesting period. The Company classifies share-based compensation for employees within “salaries and employee benefits expense” on the consolidated statements of income and comprehensive income.

 

The Company recognized compensation expense of $240 and $157 for the three and six  months ended June 30, 2019 for awards granted under the 2017 Plan. The Company recognized compensation expense of $37 and $43 for the three and six months ended June 30, 2018 for awards granted under the 2017 Plan and $31 and $62 for awards granted under the 2008 Plan. As of June 30, 2019, the Company had $1,071 of unrecognized compensation expense associated with restricted stock awards. The remaining cost is expected to be recognized over a weighted average vesting period of just under 1.7 years.

27

Table of Contents

Peoples Financial Services Corp.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Dollars in thousands, except per share data)

 

9. Derivatives and hedging activities

Risk Management Objective of Using Derivatives

The Company is exposed to certain risk arising from both its business operations and economic conditions. The Company principally manages its exposures to a wide variety of business and operational risks through management of its core business activities. The Company manages economic risks, including interest rate, liquidity, and credit risk primarily by managing the amount, sources, and duration of its assets and liabilities and the use of derivative financial instruments.  Specifically, the Company enters into derivative financial instruments to manage exposures that arise from business activities that result in the receipt or payment of future known and uncertain cash amounts, the value of which are determined by interest rates. The Company’s derivative financial instruments are used to manage differences in the amount, timing, and duration of the Company’s known or expected cash receipts principally related to the Company’s assets. 

 

Cash Flow Hedges of Interest Rate Risk

 

The Company’s objectives in using interest rate derivatives are to add stability to interest income and to manage its exposure to interest rate movements. To accomplish this objective, the Company primarily uses interest rate floors as part of its interest rate risk management strategy. Interest rate floors designated as cash flow hedges involve the receipt of variable-rate amounts from a counterparty if interest rates fall below the strike rate on the contract in exchange for an up-front premium.

 

For derivatives designated and that qualify as cash flow hedges of interest rate risk, the gain or loss on the derivative is recorded in Accumulated Other Comprehensive Loss and subsequently reclassified into interest income in the same period(s) during which the hedged transaction affects earnings. Gains and losses on the derivative representing hedge components excluded from the assessment of effectiveness are recognized over the life of the hedge on a systematic and rational basis. The earnings recognition of excluded components is presented in interest income. Amounts reported in accumulated other comprehensive loss related to derivatives will be reclassified to interest income as interest payments are received on the Company’s variable-rate assets. During 2019, the Company estimates that an additional $64 will be reclassified as a reduction to interest income. 

 

Non-designated Hedges

 

Derivatives not designated as hedges are not speculative and result from a service the Company provides to certain customers. The Company executes interest rate swaps with commercial banking customers to facilitate their respective risk management strategies. Those interest rate swaps are simultaneously hedged by offsetting interest rate swaps that the Company executes with a third party, such that the Company minimizes its net risk exposure resulting from such transactions. As the interest rate swaps associated with this program do not meet the strict hedge accounting requirements, changes in the fair value of both the customer swaps and the offsetting swaps are recognized directly in earnings. As of June 30, 2019, the Company had 22 interest rate swaps with an aggregate notional amount of $123,351 related to this program.

28

Table of Contents

Peoples Financial Services Corp.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Dollars in thousands, except per share data)

 

Fair Values of Derivative Instruments on the Balance Sheet

The table below presents the fair value of the Company’s derivative financial instruments as well as their classification on the Consolidated Balance Sheets as of June 30, 2019 and December 31, 2018.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Asset Derivatives

 

Asset Derivatives

 

Liability Derivatives

 

Liability Derivatives

 

 

 

 

As of June 30, 2019

 

As of December 31, 2018 (1)

 

As of June 30, 2019

 

As of December 31, 2018 (2)

 

    

Notional

    

Balance Sheet

    

 

 

    

Balance Sheet

    

 

 

    

Balance Sheet

    

 

 

    

Balance Sheet

    

 

 

 

 

Amount

 

Location

 

Fair Value

 

Location

 

Fair Value

 

Location

 

Fair Value

 

Location

 

Fair Value

Derivatives designated as hedging instruments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest Rate Floor

$

25,000

 

Other Assets

 

$

1,025

 

 

 

$

553

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total derivatives designated as hedging instruments

 

 

 

 

 

$

1,025

 

 

 

$

553

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Derivatives not designated as hedging instruments

 

 

 

  

 

 

  

 

  

 

 

  

 

  

 

 

  

 

  

 

 

  

Interest Rate Swaps

$

123,351

 

Other Assets

 

$

3,807

 

Other Assets

 

$

108

 

Other Liabilities

 

$

4,182

 

Other Liabilities

 

$

138

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total derivatives not designated as hedging instruments

 

 

 

  

 

$

3,807

 

  

 

$

108

 

  

 

$

4,182

 

  

 

$

138


(1)

Assets amount does not include accrued interest receivable of $13

(2)

Liabilities amount does not include accrued interest payable of $13

 

Effect of Fair Value and Cash Flow Hedge Accounting on Accumulated Other Comprehensive Loss

 

The table below presents the effect of fair value and cash flow hedge accounting on Accumulated Other Comprehensive Loss as of June 30, 2019. There was no cash flow hedge as of June 30, 2018.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Location of

 

 

 

 

 

Amount of

 

 

Amount of

 

 

Amount of

 

 

Amount of

 

 

Amount of

 

Gain or (Loss)

 

 

Amount of

 

 

Gain

 

 

Loss

 

 

Loss

 

 

Gain

 

 

Gain

 

Recognized from

 

 

Loss

 

 

Reclassified

 

 

Reclassified

 

 

Recognized in

 

 

Recognized in

 

 

Recognized in

 

Accumulated

 

 

Reclassified

 

 

from Accumulated

 

 

from Accumulated

Derivatives in

 

OCI on

 

 

OCI Included

 

 

OCI Excluded

 

Other Comprehensive

 

 

from Accumulated

 

 

OCI into Income

 

 

OCI into Income

Hedging

  

Derivative

 

  

Component

 

  

Component

  

Income into

 

  

OCI into Income

 

  

Included Component

 

  

Excluded Component

Relationships

 

 

 

 

June 30, 2019

 

 

 

 

Income

 

 

 

 

 

June 30, 2019

 

 

 

Derivatives in Cash Flow Hedging Relationships 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest Rate Floor (*)

$

427

 

$

532

 

$

(105)

 

Interest Income

 

$

(16)

 

$

 

 

$

(16)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Location of

 

 

 

 

 

Amount of

 

 

Amount of

 

 

Amount of

 

 

Amount of

 

 

Amount of

 

Gain or (Loss)

 

 

Amount of

 

 

Gain

 

 

Loss

 

 

Loss

 

 

Gain

 

 

Gain

 

Recognized from

 

 

Loss

 

 

Reclassified

 

 

Reclassified

 

 

Recognized in

 

 

Recognized in

 

 

Recognized in

 

Accumulated

 

 

Reclassified

 

 

from Accumulated

 

 

from Accumulated

Derivatives in

 

OCI on

 

 

OCI Included

 

 

OCI Excluded

 

Other Comprehensive

 

 

from Accumulated

 

 

OCI into Income

 

 

OCI into Income

Hedging

  

Derivative

 

  

Component

 

  

Component

  

Income into

 

  

OCI into Income

 

  

Included Component

 

  

Excluded Component

Relationships

 

 

 

 

June 30, 2019

 

 

 

 

Income

 

 

 

 

 

June 30, 2019

 

 

 

Derivatives in Cash Flow Hedging Relationships 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest Rate Floor (*)

$

474

 

$

827

 

$

(353)

 

Interest Income

 

$

(31)

 

$

 

 

$

(31)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 


*

Amounts disclosed are gross and not net of taxes.

 

29

Table of Contents

Peoples Financial Services Corp.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Dollars in thousands, except per share data)

 

Effect of Fair Value and Cash Flow Hedge Accounting on the Consolidated Statements of Income and Comprehensive Income

 

The table below presents the effect of the Company’s derivative financial instruments on the Consolidated Statements of Income and Comprehensive Income for the three and six months ended June 30, 2019 and June 30, 2018.

 

 

 

 

 

 

 

 

Location and Amount of Gain or (Loss) Recognized in

 

 

Income on Fair Value and Cash Flow Hedging

 

 

Relationships

 

 

2019

 

2018

 

  

Interest Income

  

Interest Income

Total amounts of income and expense line items presented in the statements of income and comprehensive income in which the effects of fair value or cash flow hedges are recorded

$

(31)

 

 

 

 

 

 

 

The effects of fair value and cash flow hedging:

 

 

 

 

Gain or (loss) on cash flow hedging relationships

 

 

 

 

Interest contracts

 

 

 

 

Amount of gain or (loss) reclassified from accumulated other  comprehensive income into income     

$

(31)

 

 

 

 

 

 

 

Amount of gain or (loss) reclassified from accumulated other comprehensive income into income -  included component

 

 

 

 

Amount of gain or (loss) reclassified from accumulated other comprehensive income into income -  excluded component

$

(31)

 

 

Effect of Derivative Instruments on the Consolidated Statements of Income and Comprehensive Income

The tables below present the effect of the Company’s derivative financial instruments on the Consolidated Statements of Income and Comprehensive Income for the three and six months ended June 30, 2019 and 2018.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Amount of Loss 

 

Amount of Loss

 

Amount of Gain 

 

Amount of Gain 

 

 

 

 

 Recognized in

 

 Recognized in

 

Recognized in

 

Recognized in

 

 

Location of Gain or (Loss)

 

Income 

 

Income

 

Income 

 

Income

 

 

Recognized in Income on

 

Three Months Ended

 

Six Months Ended

 

Three Months Ended

 

Six Months Ended

Derivatives Not Designated as Hedging Instruments

    

Derivative

    

June 30, 2019

    

June 30, 2019

 

June 30, 2018

    

June 30, 2018

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest Rate Swaps

 

Other non-interest income

 

$

(236)

 

$

(346)

 

$

19

 

$

85

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fee Income

 

Other  income / (expense)

 

$

744

 

$

1,136

 

$

53

 

$

53

 

Offsetting Derivatives

The table below presents a gross presentation, the effects of offsetting, and a net presentation of the Company’s derivatives as of June 30, 2019 and December 31, 2018. The net amounts of derivative assets or liabilities can be reconciled to the

30

Table of Contents

Peoples Financial Services Corp.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Dollars in thousands, except per share data)

 

tabular disclosure of fair value. The tabular disclosure of fair value provides the location that derivative assets and liabilities are presented on the Consolidated Balance Sheets.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Offsetting of Derivative Assets

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

as of June 30, 2019

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross Amounts Not Offset in the Balance Sheet

 

 

 

 

 

Gross

 

 

 

Net Amounts

 

 

 

 

 

 

 

 

 

 

 

Amounts of

 

Gross Amounts

 

of Assets

 

 

 

 

 

 

 

 

 

 

 

Recognized

 

Offset in the

 

presented in the

 

Financial

 

Cash Collateral

 

Net

 

  

Assets

  

Balance Sheet

  

Balance Sheet

  

Instruments

  

Received

  

Amount

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Derivatives

 

$

4,833

 

$

 

 

$

4,833

 

$

 

 

 

 

 

$

4,833

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Offsetting of Derivative Liabilities

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

as of June 30, 2019

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross Amounts Not Offset in the Balance Sheet

 

 

 

 

 

Gross

 

 

 

Net Amounts

 

 

 

 

 

 

 

 

 

 

 

Amounts of

 

Gross Amounts

 

of Assets

 

 

 

 

 

 

 

 

 

 

 

Recognized

 

Offset in the

 

presented in the

 

Financial

 

Cash Collateral

 

Net

 

 

Assets

 

Balance Sheet

 

Balance Sheet

 

Instruments

 

Received

 

Amount

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Derivatives

 

$

4,183

 

$

 

 

$

4,183

 

$

 

 

 

 

 

$

4,183

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Offsetting of Derivative Assets

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

as of December 31, 2018

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross Amounts Not Offset in the Balance Sheet

 

 

 

 

 

Gross

 

 

 

Net Amounts

 

 

 

 

 

 

 

 

 

 

 

Amounts of

 

Gross Amounts

 

of Assets

 

 

 

 

 

 

 

 

 

 

 

Recognized

 

Offset in the

 

presented in the

 

Financial

 

Cash Collateral

 

Net

 

 

Assets

 

Balance Sheet

 

Balance Sheet

 

Instruments

 

Received

 

Amount

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Derivatives

 

$

661

 

$

 

 

$

661

 

$

 

 

 

 

 

$

661

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Offsetting of Derivative Liabilities

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

as of December 31, 2018

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross Amounts Not Offset in the Balance Sheet

 

 

 

 

 

Gross

 

 

 

Net Amounts

 

 

 

 

 

 

 

 

 

 

 

Amounts of

 

Gross Amounts

 

of Assets

 

 

 

 

 

 

 

 

 

 

 

Recognized

 

Offset in the

 

presented in the

 

Financial

 

Cash Collateral

 

Net

 

 

Assets

 

Balance Sheet

 

Balance Sheet

 

Instruments

 

Received

 

Amount

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Derivatives

 

$

138

 

$

 

 

$

138

 

$

 

 

 

 

 

$

138

Credit-risk-related Contingent Features

The Company has agreements with certain of its derivative counterparties that contain a provision where if the Company defaults on any of its indebtedness, including default where repayment of the indebtedness has not been accelerated by the lender, then the Company could also be declared in default on its derivative obligations.

The Company also has agreements with certain of its derivative counterparties that contain a provision where if the Company fails to maintain its status as a well capitalized institution, then the counterparty could terminate the derivative positions and the Company would be required to settle its obligations under the agreements.

The Company has agreements with certain of its derivative counterparties that contain provisions that require the Company’s debt to maintain an investment grade credit rating from each of the major credit rating agencies. If the Company’s credit rating is reduced below investment grade then a termination event shall be deemed to have occurred and the non-affected counterparty shall have the right but not obligation to terminate all affected transactions under the agreement.

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Peoples Financial Services Corp.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Dollars in thousands, except per share data)

 

As of June 30, 2019, the termination value of derivatives in a net liability position, which includes accrued interest but excludes any adjustment for nonperformance risk, related to these agreements was $376. As of December 31, 2018, the termination value of derivatives in a net liability position, which includes accrued interest but excludes any adjustment for nonperformance risk, related to these agreements was $29. The Company has minimum collateral posting thresholds with certain of its derivative counterparties, and has posted collateral of $3,310 against its obligations under these agreements as of June 30, 2019, compared to having no posted collateral with a counterparty at December 31, 2018. If the Company had breached any of these provisions it could have been required to settle its obligations under the agreements at the termination value.

10. Borrowings

 

Short-term borrowings consisted of FHLB advances representing overnight borrowings at June 30, 2019 and December 31, 2018:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

At and for the six months ended June 30, 2019

 

 

 

 

 

 

 

 

 

 

 

 

Weighted

 

Weighted

 

 

 

 

 

 

 

 

 

Maximum

 

Average

 

Average

 

 

 

Ending

 

Average

 

Month-End

 

Rate for

 

Rate at 

 

 

    

Balance 

    

Balance 

    

Balance 

    

the six monthe ended June 30,2019

    

June 30,2019

 

FHLB advances

 

$

82,700

 

$

105,212

 

$

133,725

 

2.70

%  

2.46

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

At and for the year ended December 31, 2018

 

 

 

 

 

 

 

 

 

 

 

 

Weighted

 

Weighted

 

 

 

 

 

 

 

 

 

Maximum

 

Average

 

Average

 

 

 

Ending

 

Average

 

Month-End

 

Rate for

 

Rate at End

 

 

    

Balance

    

Balance

    

Balance

    

the Year

    

of the Year

 

FHLB advances

 

$

86,500

 

$

133,834

 

$

189,275

 

2.05

%  

2.62

%

 

The Company has an agreement with the FHLB which allows for borrowings up to its maximum borrowing capacity based on a percentage of qualifying collateral assets. At June 30, 2019, the maximum borrowing capacity was $706,808 of which $135,680 was outstanding in borrowings. At December 31, 2018, the maximum borrowing capacity was $700,169 of which $124,406 was outstanding in borrowings. Short-term borrowings were used to fund our loan growth during the first six months of 2019 as deposit balances were relatively unchanged from year end. Short-term borrowings were lower by $3,800 from year end 2018 in part to us locking in $16,000 of new long term borrowings at lower fixed rates under the FHLB’s ‘Community Lending Program’. Advances with the FHLB are secured under terms of a blanket collateral agreement by a pledge of FHLB stock and certain other qualifying collateral, such as investments and mortgage-backed securities and mortgage loans. Interest accrues daily on the FHLB advances based on rates of the FHLB discount notes. The short-term borrowing rate resets each day.  

Long-term debt consisting of advances from the FHLB at June 30, 2019 and December 31, 2018 are as follows:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest Rate 

 

 

 

 

 

 

 

Due

 

Fixed 

 

Adjustable

 

 

June 30, 2019

 

 

December 31, 2018

 

December 2019

 

 

 

4.09

%  

$

3,000

 

 

3,000

 

December 2019

 

 

 

3.63

 

 

6,300

 

 

6,300

 

December 2019

 

1.62

%  

 

 

 

10,000

 

 

10,000

 

June 2020

 

1.74

 

 

 

 

5,000

 

 

5,000

 

June 2020

 

2.22

 

 

 

 

6,000

 

 

 

 

December 2020

 

1.84

 

 

 

 

5,000

 

 

5,000

 

June 2021

 

1.99

 

 

 

 

10,000

 

 

 

 

March 2023

 

4.69

 

 

 

 

7,680

 

 

8,606

 

 

 

 

 

 

 

$

52,980

 

$

37,906

 

32

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Peoples Financial Services Corp.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

(Dollars in thousands, except per share data)

 

Maturities of long-term debt, by contractual maturity, for the remainder of 2019 and subsequent years are as follows:

 

 

 

 

 

2019

    

$

20,248

 

2020

 

 

17,963

 

2021

 

 

12,058

 

2022

 

 

2,156

 

2023

 

 

555

 

 

 

$

52,980

 

 

None of the advances from the FHLB are convertible. At June 30, 2019, long-term debt consist of $43,680 at fixed rates and $9,300 at adjustable rates which reset quarterly based on three-month LIBOR plus 1.21% to plus 1.57%. New long-term advances totaling $16,000 were entered into with the FHLB during the second quarter of 2019. The advances were qualified under the FHLB’s ‘Community Lending Program’ which offers rates lower than their stated rates when the advances are used for community development.

 

11. Income taxes

 

The effective tax rate of the Company was 11.8% and 11.2% for the three and six months ended June 30, 2019 compared to 12.0% and 11.8% for the three and six months ended June 30, 2018. The three and six months ended June 30, 2019 include before tax investment tax credits and other credits of $390 and $778 compared to before tax investment tax credits $273 and $543 for those same periods last year.

 

 

 

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Table of Contents

Peoples Financial Services Corp.

Management’s Discussion and Analysis

(Dollars in thousands, except per share data)

 

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

 

The following discussion and analysis should be read in conjunction with the unaudited consolidated interim financial statements contained in Part I, Item 1 of this report, and with our audited consolidated financial statements and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” presented in our Annual Report on Form 10-K for the year ended December 31, 2018.

 

Cautionary Note Regarding Forward-Looking Statements:

 

This report contains forward-looking statements within the meaning of Section 27A of the Securities Act, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, which are subject to risks and uncertainties. These statements are based on assumptions and may describe future plans, strategies and expectations of Peoples Financial Services Corp. and its subsidiaries. These forward-looking statements are generally identified by use of the words “believe,” “expect,” “intend,” “anticipate,” “estimate,” “project” or similar expressions. All statements in this report, other than statements of historical facts, are forward-looking statements.

 

Our ability to predict results or the actual effect of future plans or strategies is inherently uncertain. Important factors that could cause our actual results to differ materially from those in the forward-looking statements include, but are not limited to: risks associated with business combinations; changes in interest rates; economic conditions, particularly in our market area; legislative and regulatory changes and the ability to comply with the significant laws and regulations governing the banking and financial services business; monetary and fiscal policies of the U.S. government, including policies of the U.S. Department of Treasury and the Federal Reserve System; credit risk associated with lending activities and changes in the quality and composition of our loan and investment portfolios; demand for loan and other products; deposit flows; competition; changes in the values of real estate and other collateral securing the loan portfolio, particularly in our market area; changes in relevant accounting principles and guidelines; inability of third party service providers to perform; and our ability to prevent, detect and respond to cyberattacks. Additional factors that may affect our results are discussed in Part I, Item 1A of our Annual Report on Form 10-K for the year ended December 31, 2018, and in reports we file with the Securities and Exchange Commission from time to time.

 

These risks and uncertainties should be considered in evaluating forward-looking statements and undue reliance should not be placed on such statements. Except as required by applicable law or regulation, we do not undertake, and specifically disclaim any obligation, to release publicly the result of any revisions that may be made to any forward-looking statements to reflect events or circumstances after the date of the statements or to reflect the occurrence of anticipated or unanticipated events.

 

Notes to the Consolidated Financial Statements referred to in the Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) are incorporated by reference into the MD&A. Certain prior period amounts may have been reclassified to conform with the current year’s presentation. Any reclassifications did not have any effect on our operating results or financial position.

 

Critical Accounting Policies:

 

Disclosure of our significant accounting policies is included in Note 1 to the consolidated financial statements of the Annual Report on Form 10-K for the year ended December 31, 2018. Some of these policies are particularly sensitive requiring significant judgments, estimates and assumptions.

 

Operating Environment:

 

In July 2019, the Federal Open Market Committee (“FOMC”) voted to decrease the target range for federal funds to 2.00% to 2.25% after maintaining the target range for federal funds at 2.25% to 2.50% since their last 25 basis point rate increase in December 2018. Overall inflation remains near the committee’s long-term desired 2 percent level for items other than food and energy. The consumer price index (“CPI”) registered 2.1% for the 12 months ended June 30, 2019. This is up from 2.0% for the 12 months ended March 31, 2019 and from 1.9% for the 12 months ended December 31, 2018. Gross domestic product (“GDP”), the value of all goods and services produced in the nation, came in with an initial second quarter reading of a 2.1% annualized rate, above all forecasts for the quarter which came in at a consensus rate of 2.0% but well below the first quarter of 2019 which registered 3.2%. The latest reading of GDP has led to

34

Table of Contents

Peoples Financial Services Corp.

Management’s Discussion and Analysis

(Dollars in thousands, except per share data)

 

speculation that the weakening growth in much of the world’s economy may be spilling over into the United States. Consumer activity has been strong but manufacturing has slowed and housing remains weak.

 

Review of Financial Position:

 

Total assets increased $35,273, or 3.1% annualized, to $2,324,266 at June 30, 2019, from $2,288,993 at December 31, 2018. Loans, net increased to $1,858,799 at June 30, 2019, compared to $1,823,266 at December 31, 2018, an increase of $35,533 or 3.9% annualized. The increase in loans, net during 2019 has been funded primarily by borrowings and to a lesser extent investment cash flow. Deposits increased slightly by $1,777 or 0.2% annualized during the first half of 2019. Interest-bearing deposits decreased $7,958 while noninterest-bearing deposits increased $9,735. Total stockholders’ equity increased $12,969 or 4.7%, from $278,614 at year-end 2018 to $291,583 at June 30, 2019. For the six months ended June 30, 2019, total assets averaged $2,313,053, an increase of $105,654 from $2,207,399 for the same period of 2018.

 

Investment Portfolio:

 

The majority of the investment portfolio is classified as available-for-sale, which allows for greater flexibility in using the investment portfolio for liquidity purposes by allowing securities to be sold when market opportunities occur. Investment securities available-for-sale totaled $261,665 at June 30, 2019, a decrease of $8,017, or 3.0% from $269,682 at December 31, 2018. The decrease was primarily due to the sale of $9,654 of short-term, low yielding municipal securities with the proceeds used to paydown borrowings and reinvest into higher yielding, longer term securities. An increase in the market value of the available-for-sale portfolio due to a decline in market rates partially offset the decrease.  Investment securities held-to-maturity totaled $7,969 at June 30, 2019, a decrease of $392 or 4.7% from $8,361 at December 31, 2018 due to payments received on mortgage backed securities.

 

For the six months ended June 30, 2019, the investment portfolio averaged $274,230, a decrease of $6,671 or 2.4% compared to $280,901 for the same period last year. The tax-equivalent yield on the investment portfolio decreased 7 basis points to 2.53% for the six months ended June 30, 2019, from 2.60% for the comparable period of 2018. The decrease in yield is due to lower reinvestment rates for cash flow from matured and called higher yielding municipal bonds.

 

Securities available-for-sale are carried at fair value, with unrealized gains or losses net of deferred income taxes reported in the accumulated other comprehensive income (loss) component of stockholders’ equity. We reported net unrealized gains, included as a separate component of stockholders’ equity of $1,403, net of deferred income taxes of $373, at June 30, 2019, and net unrealized losses of $2,568, net of deferred income taxes of $683, at December 31, 2018.

 

Our Asset/Liability Committee (“ALCO”) reviews the performance and risk elements of the investment portfolio quarterly. Through active balance sheet management and analysis of the securities portfolio, we endeavor to maintain sufficient liquidity to satisfy depositor requirements and meet the credit needs of our customers.

 

Loan Portfolio:

 

Loan growth during the second quarter of 2019 slowed when compared to the first quarter increasing $9,197. Loans, net increased to $1,858,799 at June 30, 2019 from $1,823,266 at December 31, 2018, an increase of $35,533 or 3.9% annualized. The growth was primarily from commercial real estate loans and to a lesser extent from commercial and industrial loans. Partially offsetting the increases were reductions to consumer loans, primarily dealer indirect auto loans, and a slight decline to the residential real estate portfolio.  Commercial real estate loans increased $27,775 or 6.2% annualized, to $935,578 at June 30, 2019 compared to $907,803 at December 31, 2018 due to growth primarily in our expansion markets.  Commercial and industrial loans increased $19,521 or 8.0% annualized , to $513,655 at June 30, 2019 compared to $494,134 at December 31, 2018 due to growth in loans to small businesses, as we focus on developing total banking relationships with this market segment.  Our growth in commercial  and commercial real estate loans is due in part to our continued success in executing the strategic market expansion initiative in the Lehigh Valley and Greater Delaware Valley. Our newest branch in Lebanon County in Central Pennsylvania further extends this strategy.

 

Consumer loans decreased $10,414, or 17.3% on an annualized basis, to $111,039 at June 30, 2019 compared to $121,453 at December 31, 2018. The decrease in consumer loans was primarily due to payoffs outpacing dealer indirect

35

Table of Contents

Peoples Financial Services Corp.

Management’s Discussion and Analysis

(Dollars in thousands, except per share data)

 

auto loan origination volumes. Lower origination volumes have resulted from the Bank’s change to the structure of its loan pricing which began during 2018.   

 

Residential real estate loans decreased $1,349, or 0.9% on an annualized basis, to $298,527 at June 30, 2019 compared to $299,876 at December 31, 2018. The residential real estate loans decrease was due to principal reductions in our home equity line of credit portfolio and a slight increase in first lien residential mortgages as a majority of new loan originations are being underwritten based on the Bank’s guidelines and being held in portfolio.  The residential mortgage portfolio increased during the first half of 2019 despite the sale of $1,038 of non-performing mortgage loans during the first quarter.

 

 

For the six months ended June 30, 2019, loans, net averaged $1,847,960, an increase of $117,291 or 6.8% compared to $1,730,669 for the same period of 2018. The tax-equivalent yield on the loan portfolio was 4.75% for the six months ended June 30, 2019, a 33 basis point increase from the comparable period last year. The increase in yield is due to higher market rates and loan yields resulting from the FOMC’s actions to increase the Federal Funds rate 100 basis points during 2018, coupled with adjustable rate loans repricing at higher rates.

 

In addition to the risks inherent in our loan portfolio, in the normal course of business, we are also a party to financial instruments with off-balance sheet risk to meet the financing needs of our customers. These instruments include legally binding commitments to extend credit, unused portions of lines of credit and commercial letters of credit made under the same underwriting standards as on-balance sheet instruments, and may involve, to varying degrees, elements of credit risk and interest rate risk (“IRR”) in excess of the amount recognized in the financial statements.

 

Unused commitments at June 30, 2019, totaled $401,630, consisting of $367,230 in unfunded commitments of existing loan facilities and $34,400 in standby letters of credit. Due to fixed maturity dates, specified conditions within these instruments, and the ultimate needs of our customers, many will expire without being drawn upon. We believe that amounts actually drawn upon can be funded in the normal course of operations and therefore, do not represent a significant liquidity risk to us. In comparison, unused commitments at December 31, 2018 totaled $379,187, consisting of $345,912 in unfunded commitments of existing loans and $33,275 in standby letters of credit.

 

Asset Quality:

 

National, Pennsylvania, New York and market area unemployment rates at June 30, 2019 and 2018, are summarized as follows:

 

 

 

 

 

 

 

 

    

2019

    

2018

 

United States

 

3.8

%  

4.0

%  

New York (statewide)

 

4.1

 

4.5

 

Pennsylvania (statewide)

 

3.9

 

4.5

 

Broome County

 

4.7

 

5.5

 

Bucks County

 

3.4

 

3.9

 

Lackawanna County

 

4.3

 

4.7

 

Lebanon County

 

3.4

 

3.9

 

Lehigh County

 

4.1

 

4.8

 

Luzerne County

 

5.1

 

5.6

 

Monroe County

 

4.8

 

5.6

 

Montgomery County

 

3.1

 

3.6

 

Northampton County

 

4.0

 

4.6

 

Schuylkill County

 

4.8

 

5.4

 

Susquehanna County

 

4.2

 

4.4

 

Wayne County

 

4.7

 

5.3

 

Wyoming County

 

4.5

%  

4.8

%  

 

36

Table of Contents

Peoples Financial Services Corp.

Management’s Discussion and Analysis

(Dollars in thousands, except per share data)

 

The employment conditions improved for the nation, Pennsylvania, and New York and in all of the thirteen counties representing our market areas in Pennsylvania and New York from one year ago. Unemployment rates have fallen to multi year lows.

 

Distribution of nonperforming assets

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2019

 

 

December 31, 2018

 

Nonaccrual loans:

 

 

 

 

 

 

 

Commercial

 

$

4,494

 

$

776

 

Real estate:

 

 

 

 

 

 

 

Commercial

 

 

3,044

 

 

2,328

 

Residential

 

 

1,460

 

 

2,574

 

Consumer

 

 

251

 

 

212

 

Total nonaccrual loans

 

 

9,249

 

 

5,890

 

Troubled debt restructured loans:

 

 

 

 

 

 

 

Commercial

 

 

1,391

 

 

1,438

 

Real estate:

 

 

 

 

 

 

 

Commercial

 

 

675

 

 

719

 

Residential

 

 

611

 

 

622

 

Total troubled debt restructured loans

 

 

2,677

 

 

2,779

 

Accruing loans past due 90 days or more:

 

 

 

 

 

 

 

Commercial

 

 

8

 

 

 

 

Real estate:

 

 

 

 

 

 

 

Commercial

 

 

148

 

 

73

 

Residential

 

 

185

 

 

850

 

Total accruing loans past due 90 days or more

 

 

341

 

 

923

 

Total nonperforming loans

 

 

12,267

 

 

9,592

 

Foreclosed assets

 

 

408

 

 

376

 

Total nonperforming assets

 

$

12,675

 

$

9,968

 

Nonperforming loans as a percentage of loans, net

 

 

0.66

%  

 

0.53

%  

Nonperforming assets as a percentage of loans, net and foreclosed assets

 

 

0.68

%  

 

0.55

%  

 

We experienced a decline in our asset quality during the first six months of  2019 as evidenced by an increase of $2,707 in nonperforming assets.  Nonperforming assets totaled $12,675 or 0.68% of loans, net and foreclosed assets at June 30, 2019, from $9,968 or 0.55% of loans, net and foreclosed assets at December 31, 2018. An increase in nonaccrual loans and slight increase in foreclosed assets was partially offset by a decrease in restructured loans and loans past due ninety days or more.

 

Loans on nonaccrual status increased $3,359 to $9,249 at June 30, 2019 from $5,890 at December 31, 2018. The majority of the increase from year end was due to an increase of $3,718 in commercial and industrial loans resulting from the placement of one large credit relationship on nonaccrual totaling $4,718 during the first quarter. At June 30, 2019, the value of the collateral is sufficient to support the debt of this credit. A decrease in nonaccrual residential real estate loans due to a sale of a pool of non-performing loans during the first quarter partially offset the increase in commercial real estate loans. Restructured loans decreased $102 to $2,677 at June 30, 2019 from $2,779 at December 31, 2018 due in part to a default and subsequent charge off of two commercial real estate loans during the second quarter partially offset by the addition of one commercial real estate loan totaling $340 during the second quarter of 2019. Foreclosed assets increased $32 to $408 at June 30, 2019 from $376 at December 31, 2018.  Other real estate owned comprised six properties at June 30, 2019 and seven properties at December 31, 2018, respectively.

Generally, maintaining a high loan to deposit ratio is our primary goal in order to drive profitability. However, this objective is superseded by our attempts to ensure that asset quality remains strong. We continued our efforts to maintain sound underwriting standards for both commercial and consumer credit. Most commercial lending is done primarily with locally owned small businesses.

37

Table of Contents

Peoples Financial Services Corp.

Management’s Discussion and Analysis

(Dollars in thousands, except per share data)

 

 

We maintain the allowance for loan losses at a level we believe adequate to absorb probable credit losses related to specifically identified loans, as well as probable incurred loan losses inherent in the remainder of the loan portfolio as of the balance sheet date. The allowance for loan losses is based on past events and current economic conditions. We employ the Federal Financial Institutions Examination Council Interagency Policy Statement, as amended December 13, 2006, and GAAP in assessing the adequacy of the allowance account. Under GAAP, the adequacy of the allowance account is determined based on the provisions of Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 310, “Receivables,” for loans specifically identified to be individually evaluated for impairment and the requirements of FASB ASC 450, “Contingencies,” for large groups of smaller-balance homogeneous loans to be collectively evaluated for impairment.

 

We follow our systematic methodology in accordance with procedural discipline by applying it in the same manner regardless of whether the allowance is being determined at a high point or a low point in the economic cycle. Each quarter, credit administration identifies those loans to be individually evaluated for impairment and those loans collectively evaluated for impairment utilizing a standard criteria. We consistently use loss experience from the latest twelve quarters in determining the historical loss factor for each pool collectively evaluated for impairment. Qualitative factors are evaluated in the same manner each quarter and are adjusted within a relevant range of values based on current conditions. For additional disclosure related to the allowance for loan losses refer to the note entitled, “Loans, net and Allowance for Loan Losses,” in the Notes to Consolidated Financial Statements to this Quarterly Report.

 

 The allowance for loan losses increased $551 to $21,930, or 1.18% of loans, net at June 30, 2019, from $21,379, or 1.17% of loans, net at the end of 2018. For the six months ended June 30, 2019, net charge-offs were $849 or 0.09% of average loans outstanding, a $638 decrease compared to $1,487 or 0.17% of average loans outstanding in the same period of 2018. The decrease in the current period is due to the charge off of one large commercial real estate loan during the year ago period totaling $1,154.

 

Deposits:

 

We attract the majority of our deposits from within our market area that stretches from Montgomery County in southeastern Pennsylvania to Broome County in the Southern Tier of New York State to Lebanon County in Central Pennsylvania through the offering of various deposit instruments including demand deposit accounts, NOW accounts, money market deposit accounts, savings accounts, and time deposits, including certificates of deposit and IRA’s. For the six months ended June 30, 2019, total deposits increased $1,777 or 0.2% annualized, to $1,876,799 from $1,875,022 at December 31, 2018. Interest-bearing deposits decreased $7,958 due to seasonal outflows of public deposits, while noninterest-bearing deposits increased $9,735. Interest-bearing transaction accounts, including NOW and money market accounts, experienced the majority of the municipal deposit ouflow decreasing $37,516, or 10.1% annualized, to $712,847 at June 30, 2019, from $750,363 at December 31, 2018, savings accounts increased $1,675, or 0.9% annualized to $379,832 as of June 30, 2019 from $378,157 at December 31, 2018 and time deposits less than $250 increased $8,185, or 6.6% annualized, to $258,641 at June 30, 2019, from $250,456 at December 31, 2018. Time deposits $250 or more increased $19,697, or 46.3% annualized to $105,483 at June 30, 2019 from $85,786 at year end 2018 due in part to growth in commercial and municipal accounts.

 

For the six months ended June 30, interest-bearing deposits averaged $1,447,773 in 2019 compared to $1,325,523 in 2018, an increase of $122,250, or 9.2%. The cost of interest-bearing deposits was 0.99% in 2019 compared to 0.58% for the same period last year. For the first six months, the overall cost of interest-bearing liabilities including the cost of borrowed funds, was 1.15% in 2019 and 0.78% in 2018. The higher costs are due primarily to higher short-term market rates, the result of the FOMC’s action to increase the overnight borrowing rate 100 basis points during 2018.   

 

Borrowings:

 

The Bank utilizes borrowings as a secondary source of liquidity for its asset/liability management. Advances are available from the Federal Home Loan Bank of Pittsburgh (“FHLB”) provided certain standards related to credit worthiness have been met. Repurchase and term agreements are also available from the FHLB.

 

Overall, total borrowings at June 30, 2019, totaled $135,680 compared to $124,406 at December 31, 2018, an increase of $11,274.  The additional borrowings from yearend was used to fund loan growth, as deposit balances had a small

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Table of Contents

Peoples Financial Services Corp.

Management’s Discussion and Analysis

(Dollars in thousands, except per share data)

 

increase from year end.  Total short-term borrowings at June 30, 2019, totaled $82,700 compared to $86,500 at December 31, 2018, a decrease of $3,800. Long-term debt was $52,980 at June 30, 2019, compared to $37,906 at year end 2018. The increase to long-term borrowings was the result of terming out and fixing $16,000 of the variable rate short-term borrowings at lower rates under the FHLB’s ‘Community Lending Program’ during the second quarter of 2019.

 

Market Risk Sensitivity:

 

Market risk is the risk to our earnings or financial position resulting from adverse changes in market rates or prices, such as interest rates, foreign exchange rates or equity prices. Our exposure to market risk is primarily interest rate risk (“IRR”) associated with our lending, investing and deposit-gathering activities. During the normal course of business, we are not exposed to foreign exchange risk or commodity price risk. Our exposure to IRR can be explained as the potential for change in our reported earnings and/or the market value of our net worth. Variations in interest rates affect earnings by changing net interest income and the level of other interest-sensitive income and operating expenses. Interest rate changes also affect the underlying economic value of our assets, liabilities and off-balance sheet items. These changes arise because the present value of future cash flows, and often the cash flows themselves, change with interest rates. The effects of the changes in these present values reflect the change in our underlying economic value and provide a basis for the expected change in future earnings related to interest rates. IRR is inherent in the role of banks as financial intermediaries. However, a bank with a high degree of IRR may experience lower earnings, impaired liquidity and capital positions, and most likely, a greater risk of insolvency. Therefore, banks must carefully evaluate IRR to promote safety and soundness in their activities.

 

As a result of economic uncertainty, a prolonged era of historically low market rates and the recent increases to short-term market rates, it has become challenging to manage IRR. Due to these factors, IRR and effectively managing it are very important to both bank management and regulators. Bank regulations require us to develop and maintain an IRR management program, overseen by our board of directors and senior management, that involves a comprehensive risk management process in order to effectively identify, measure, monitor and control risk. Should bank regulatory agencies identify a material weakness in our risk management process or high exposure relative to our capital, bank regulatory agencies may take action to remedy these shortcomings. Moreover, the level of IRR exposure and the quality of our risk management process is a determining factor when evaluating capital adequacy.

 

The ALCO, comprised of members of our board of directors, senior management and other appropriate officers, oversees our IRR management program. Specifically, ALCO analyzes economic data and market interest rate trends, as well as competitive pressures, and utilizes computerized modeling techniques to reveal potential exposure to IRR. This allows us to monitor and attempt to control the influence these factors may have on our rate-sensitive assets (“RSA”) and rate-sensitive liabilities (“RSL”), and overall operating results and financial position. One such technique utilizes a static gap model that considers repricing frequencies of RSA and RSL in order to monitor IRR. Gap analysis attempts to measure our interest rate exposure by calculating the net amount of RSA and RSL that reprice within specific time intervals. A positive gap occurs when the amount of RSA repricing in a specific period is greater than the amount of RSL repricing within that same time frame and is indicated by a RSA/RSL ratio greater than 1.0. A negative gap occurs when the amount of RSL repricing is greater than the amount of RSA and is indicated by a RSA/RSL ratio of less than 1.0. A positive gap implies that earnings will be impacted favorably if interest rates rise and adversely if interest rates fall during the period. A negative gap tends to indicate that earnings will be affected inversely to interest rate changes.

 

Our cumulative one-year RSA/RSL ratio equaled 1.29% at June 30, 2019. Given the latest action by the FOMC to lower the targeted federal funds rate 25 basis points, after increasing rates 100 basis points during 2018, and the potential for rates to decrease in the future. The focus of ALCO has been to create a balanced static gap position. With regard to RSA, we predominantly offer medium-term, fixed-rate loans as well as adjustable rate loans. With respect to RSL, we are offering short term certificates of deposit in an attempt to decrease duration. The current position at June 30, 2019, indicates that the amount of RSA repricing within one year would exceed that of RSL, thereby causing net interest income to decrease as market rates decrease. However, these forward-looking statements are qualified in the aforementioned section entitled “Cautionary Note Regarding Forward-Looking Statements” in this Management’s Discussion and Analysis.

 

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Table of Contents

Peoples Financial Services Corp.

Management’s Discussion and Analysis

(Dollars in thousands, except per share data)

 

Static gap analysis, although a standard measuring tool, does not fully illustrate the impact of interest rate changes on future earnings. First, market rate changes normally do not equally or simultaneously affect all categories of assets and liabilities. Second, assets and liabilities that can contractually reprice within the same period may not do so at the same time or to the same magnitude. Third, the interest rate sensitivity table presents a one-day position. Variations occur daily as we adjust our rate sensitivity throughout the year. Finally, assumptions must be made in constructing such a table.

 

As the static gap report fails to address the dynamic changes in the balance sheet composition or prevailing interest rates, we utilize a simulation model to enhance our asset/liability management. This model is used to create pro forma net interest income scenarios under various interest rate shocks. Model results at June 30, 2019, produced results similar to those indicated by the one-year static gap position. In addition, parallel and instantaneous shifts in interest rates under various interest rate shocks resulted in changes in net interest income that were well within ALCO policy limits during the first year of simulation. We will continue to monitor our IRR throughout 2019 and endeavor to employ deposit and loan pricing strategies and direct the reinvestment of loan and investment repayments in order to manage our IRR position.

 

Financial institutions are affected differently by inflation than commercial and industrial companies that have significant investments in fixed assets and inventories. Most of our assets are monetary in nature and change correspondingly with variations in the inflation rate. It is difficult to precisely measure the impact inflation has on us, however we believe that our exposure to inflation can be mitigated through asset/liability management.

 

Liquidity:

 

Liquidity management is essential to our continuing operations and enables us to meet financial obligations as they come due, as well as to take advantage of new business opportunities as they arise. Financial obligations include, but are not limited to, the following:

 

·

Funding new and existing loan commitments;

 

·

Payment of deposits on demand or at their contractual maturity;

 

·

Repayment of borrowings as they mature;

 

·

Payment of lease obligations; and

 

·

Payment of operating expenses.

 

These obligations are managed daily, thus enabling us to effectively monitor fluctuations in our liquidity position and to adapt that position according to market influences and balance sheet trends. Future liquidity needs are forecasted and strategies are developed to ensure adequate liquidity at all times.

 

Historically, core deposits have been the primary source of liquidity because of their stability and lower cost, in general, than other types of funding. Providing additional sources of funds are loan and investment payments and prepayments and the ability to sell both available for sale securities and mortgage loans held for sale. We believe liquidity is adequate to meet both present and future financial obligations and commitments on a timely basis.

 

We employ a number of analytical techniques in assessing the adequacy of our liquidity position. One such technique is the use of ratio analysis to determine the extent of our reliance on noncore funds to fund our investments and loans maturing after June 30, 2019. Our noncore funds at June 30, 2019, were comprised of time deposits in denominations of $100 or more and other borrowings. These funds are not considered to be a strong source of liquidity because they are very interest rate sensitive and are considered to be highly volatile. At June 30, 2019, our net noncore funding dependence ratio, the difference between noncore funds and short-term investments to long-term assets, was 16.5%, while our net short-term noncore funding dependence ratio, noncore funds maturing within one-year, less short-term investments to long-term assets equaled 11.4%. Comparatively, our overall noncore dependence ratio at year-end 2018 was 15.0% and our net short-term noncore funding dependence ratio was 6.3%, indicating that our reliance on noncore funds has increased overall.

40

Table of Contents

Peoples Financial Services Corp.

Management’s Discussion and Analysis

(Dollars in thousands, except per share data)

 

 

The Consolidated Statements of Cash Flows present the changes in cash and cash equivalents from operating, investing and financing activities. Cash and cash equivalents, consisting of cash on hand, cash items in the process of collection, deposit balances with other banks and federal funds sold, decreased $2,654 during the six months ended June 30, 2019. Cash and cash equivalents decreased $2,109 for the same period last year. For the six months ended June 30, 2019, net cash inflows of $16,089 from operating activities and $7,853 from financing activities were more than offset by net cash outflows of $26,596 from investing activities. For the same period of 2018, net cash inflows of $15,048 from operating activities and $57,985 from financing activities were more than offset by net cash outflows of $75,142 from investing activities.

 

Operating activities provided net cash of $16,089 for the six months ended June 30, 2019, and $15,048 for the corresponding six months of 2018. Net income, adjusted for the effects of gains and losses along with noncash transactions such as depreciation and the provision for loan losses, is the primary source of funds from operations.

 

Investing activities primarily include transactions related to our lending activities and investment portfolio. Investing activities used net cash of $26,596 for the six months ended June 30, 2019, compared to using net cash of $75,142 for the same period of 2018. In 2019 and 2018, an increase in lending activities was the primary factor causing the net cash outflow from investing activities.

 

 Financing activities provided net cash of $7,853 for the six months ended June 30, 2019, and provided net cash of $57,985 for the corresponding six months of 2018. Deposit gathering is our predominant financing activity. In the event that loan growth should exceed the growth in deposits, short-term and long-term borrowings fill in the gap in funding. Deposits used cash of $1,777 for the six months ended June 30, 2019. Comparatively, deposits decreased $157 for the same period of 2018. We continue to seek deposits from new markets and customers as well as existing customers, including municipalities and school districts. Short term borrowings decreased $3,800 in the six months ended June 30, 2019 compared to an increase of $63,775 for the comparable period in 2018. Long term borrowings increased $15,074, net of repayments for the six months ended June 30, 2019, compared to a decrease of $823 for the same six months in 2018. With favorable borrowing rates we locked $16,000 in longer term funding at the FHLB.

 

We believe that our future liquidity needs will be satisfied through maintaining an adequate level of cash and cash equivalents, by maintaining readily available access to traditional funding sources, and through proceeds received from the investment and loan portfolios. The current sources of funds will enable us to meet all cash obligations as they come due.

 

Capital:

 

Stockholders’ equity totaled $291,583 or $39.41 per share at June 30, 2019, compared to $278,614 or $37.66 per share at December 31, 2018. Net income of $13,556 for the six months ended June 30, 2019 was the primary factor leading to the improved capital position. Stockholders’ equity was also affected by cash dividends declared of $5,032, stock based compensation of $166, and other comprehensive income of $4,371 resulting from market value fluctuations in the investment portfolio and changes to the fair value of derivatives.

 

Dividends declared equaled $0.68 per share through the six months ended June 30, 2019 and $0.65 per share for the same period of 2018. The dividend payout ratio was 37.2% for the six months ended June 30, 2019 and 40.6% for the same period of 2018. It is the intention of our board of directors to continue to pay cash dividends in the future. However, these decisions are affected by operating results, financial and economic decisions, capital and growth objectives, appropriate dividend restrictions and other relevant factors.

 

In July 2013, the federal banking agencies issued final rules to implement the Basel III regulatory capital reforms and changes required by the Dodd-Frank Act. The phase-in period for community banking organizations began January 1, 2015, while larger institutions (generally those with assets of $250 billion or more) began compliance on January 1, 2014. The final rules call for the following capital requirements: (i) a minimum ratio of common equity tier 1 capital to risk-weighted assets of 4.5%; (ii) a minimum ratio of tier 1 capital to risk-weighted assets of 6%; (iii) a minimum ratio of total capital to risk-weighted assets of 8%; and (iv) a minimum leverage ratio of 4%. In addition, the final rules establish a common equity tier 1 capital conservation buffer of 2.5% of risk-weighted assets applicable to all banking organizations. If a banking organization fails to hold capital above the minimum capital ratios and the capital

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Table of Contents

Peoples Financial Services Corp.

Management’s Discussion and Analysis

(Dollars in thousands, except per share data)

 

conservation buffer, it will be subject to certain restrictions on capital distributions and discretionary bonus payments.  The capital conservation buffer for all banking organizations was phased in beginning on Janury 1, 2016, and was fully phased in on January 1, 2019.

 

The adequacy of capital is reviewed on an ongoing basis with reference to the size, composition and quality of resources and regulatory guidelines. We seek to maintain a level of capital sufficient to support existing assets and anticipated asset growth, maintain favorable access to capital markets, and preserve high quality credit ratings. At June 30, 2019, the Bank’s Tier 1 capital to total average assets was 9.98% as compared to 9.78% at December 31, 2018. The Bank’s Tier 1 capital to risk weighted asset ratio was 11.85% and the total capital to risk weighted asset ratio was 13.00% at June 30, 2019. These ratios were 11.64% and 12.80% at December 31, 2018. The Bank’s common equity Tier 1 to risk weighted asset ratio was 11.85% at June 30, 2019 compared to 11.64% at December 31, 2018. The Bank met all capital adequacy requirements and was deemed to be well-capitalized under regulatory standards at June 30, 2019.

 

Review of Financial Performance:

 

Net income for the second quarter of 2019 equaled $7,144 or $0.96 per share compared to $5,957 or $0.81 per share for the second quarter of 2018. The increase in earnings for the current period is the product of higher net interest income of $1,077 due to growth in our average earning assets of $102.3 million since the year ago period, a lower provision for loan losses of $700 and an increase in non-interest income of $489 due primarily to revenue from commercial loan interest rate swap transactions. These increases were partially offset by higher non-interest expenses of $933 related to our market expansion initiative. In the second quarter of 2018, we entered into a credit card account purchase agreement with a third party to sell our credit card portfolio. The sale resulted in a pre-tax gain of $291. Return on average assets (“ROA”) measures our net income in relation to total assets. Our ROA was 1.24% for the second quarter of 2019 compared to 1.08% for the same period of 2018. Return on average equity (“ROE”) indicates how effectively we can generate net income on the capital invested by stockholders. Our ROE was 9.98% for the second quarter of 2019 compared to 8.90% for the comparable period in 2018.

 

Net income through six months in 2019 equaled $13,556 or $1.83 per share compared to $11,811 or $1.60 per share for the same period of 2018. The increase in earnings in the current period is the result of higher net interest income of $2,187 due to our earning asset growth coupled with a reduction to the provision for loan losses expense of $700, partially offset by an increase in non-interest expenses of $1,342.  Our ROA and ROE were 1.18% and 9.63% through six months in 2019 compared to 1.08% and 8.90% for the same period of 2018.

 

Net Interest Income:

 

Net interest income is the fundamental source of earnings for commercial banks. Fluctuations in the level of net interest income can have the greatest impact on net profits. Net interest income is defined as the difference between interest revenue, interest and fees earned on interest-earning assets, and interest expense, the cost of interest-bearing liabilities supporting those assets. The primary sources of earning assets are loans and investment securities, while interest-bearing deposits, short-term and long-term borrowings comprise interest-bearing liabilities. Net interest income is impacted by:

 

·

Variations in the volume, rate and composition of earning assets and interest-bearing liabilities;

 

·

Changes in general market rates; and

 

·

The level of nonperforming assets.

 

Changes in net interest income are measured by the net interest spread and net interest margin. Net interest spread, the difference between the average yield earned on earning assets and the average rate incurred on interest-bearing liabilities, illustrates the effects changing interest rates have on profitability. Net interest margin, net interest income as a percentage of earning assets, is a more comprehensive ratio, as it reflects not only the spread, but also the change in the composition of interest-earning assets and interest-bearing liabilities. Tax-exempt loans and investments carry pre-tax yields lower than their taxable counterparts. Therefore, in order to make the analysis of net interest income more comparable, tax-exempt income and yields are reported herein on a tax-equivalent basis using the prevailing federal statutory tax rate of 21.0% in 2019 and 2018.

 

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Table of Contents

Peoples Financial Services Corp.

Management’s Discussion and Analysis

(Dollars in thousands, except per share data)

 

For the three months ended June 30, tax-equivalent net interest income increased $1,105 to $19,162 in 2019 from $18,057 in 2018. The net interest spread decreased to 3.32% for the three months ended June 30, 2019 from 3.39% for the three months ended June 30, 2018 as the average rate paid on interest bearing liabilities increased 36 basis points while the earning asset yield increased 29 basis points. The tax-equivalent net interest margin increased to 3.62% for the second quarter of 2019 from 3.58% for the comparable period of 2018. The tax-equivalent net interest margin for the fourth quarter of 2018 was 3.63%.

 

For the three months ended June 30, tax-equivalent interest income on earning assets increased $2,594, to $23,766 in 2019 as compared to $21,172 in 2018. The overall yield on earning assets, on a fully tax-equivalent basis, increased 29 basis points for the three months ended June 30, 2019 to 4.49% as compared to 4.20% for the three months ended June 30, 2018. The increase in the yield on earning assets resulted from a 32 basis point increase in loan yields, 4.78% for the second quarter of 2019 compared to 4.46% for the same period last year. Loan yields increased due to higher rates on new loan originations, coupled with adjustable rate loans repricing into a higher rate environment due to the Federal Open Market Committee (“FOMC”) actions to increase the effective federal funds rate 100 basis points in 2018. The overall yield earned on investments decreased 9 basis points in the second quarter of 2019 to 2.51% from 2.60% for the second quarter of 2018 as investment cashflow from high yielding matured and pre-refunded municipal bonds are being deployed into lower yielding bonds.  Average investment balances were $10,406 lower when comparing the current and year ago quarter.  

 

Total interest expense increased $1,489, to $4,604 for the three months ended June 30, 2019 from $3,115 for the three months ended June 30, 2018. An increase in the average balance of interest bearing liabilities of $40,637 combined with a 36 basis point increase in the cost of funds comparing the three months ended June 30, 2019 and 2018 caused the increase. Average short-term borrowings decreased $74,804 to $88,792 for the quarter ended June 30, 2019 compared to $163,596 for the corresponding year ago period as growth in deposits resulted in a reduction to short-term borrowings. The increase in interest expense for the three months ended June 30, 2019 was primarily due to higher deposit and borrowing costs which were impacted directly by the actions of the FOMC to increase the targeted federal funds rate 100 basis points during 2018, ending at a range of 2.25% to 2.50%.

 

For the six months ended June 30, tax-equivalent net interest income increased $2,239 to $37,900 in 2019 from $35,661 in 2018. The net interest spread decreased to 3.31% for the six months ended June 30, 2019 from 3.39% for the six months ended June 30, 2018. The tax-equivalent net interest margin for the six months ended June 30 was 3.60% in 2019 compared to 3.57% in 2018.

 

For the six months ended June 30, 2019, tax-equivalent interest income increased $5,425, to $47,008 compared to $41,583 for the six months ended June 30, 2018. A volume variance in interest income of $2,468 attributable to an increase in the average balance of earning assets coupled with a $2,957 favorable rate variance due to an increase in the yield on loans for the six months ended June 30, 2019 from the same period in 2018 caused the increase. The overall yield on earning assets, on a fully tax-equivalent basis, increased for the six months ended June 30, 2019 to 4.46% as compared to 4.17% for the six months ended June 30, 2018.

 

Total interest expense increased $3,186 to $9,108 for the six months ended June 30, 2019 from $5,922 for the six months ended June 30, 2018. The average balance of interest bearing liabilities increased to $1,592,872 for the six months ended June 30, 2019, as compared to $1,538,115 for the six months ended June 30, 2018. A volume variance in time deposits of $100 or more, money market accounts and NOW accounts caused interest expense to increase $898. Adding to the volume variance, a rate variance of $2,320 in time deposits of $100 or more, money market accounts and NOW accounts resulted in the increased interest expense through six months in 2019. All other deposit categories experienced a mix of rate and volume variances that only slightly offset these increases. The cost of funds increased to 1.15% for the six months ended June 30, 2019 as compared to 0.78% for the same period in 2018, the result of higher short-term market rates resulting from the FOMC’s actions of raising the targeted federal funds rate and increased market demand for premium deposit rates.

43

Table of Contents

Peoples Financial Services Corp.

Management’s Discussion and Analysis

(Dollars in thousands, except per share data)

 

 

The average balances of assets and liabilities, corresponding interest income and expense and resulting average yields or rates paid are summarized as follows. Averages for earning assets include nonaccrual loans. Investment averages include available-for-sale securities at amortized cost. Income on investment securities and loans is adjusted to a tax equivalent basis using the prevailing federal statutory tax rate of 21%.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three months ended 

 

 

 

June 30, 2019

 

June 30, 2018

 

 

 

Average

 

Interest Income/

 

Yield/

 

Average

 

Interest Income/

 

Yield/

 

 

    

Balance  

    

Expense

    

Rate  

    

Balance  

    

Expense

    

Rate  

 

Assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Earning assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Taxable

 

$

1,707,730

 

$

20,641

 

4.85

%

$

1,616,729

 

$

18,239

 

4.52

%

Tax-exempt

 

 

142,310

 

 

1,404

 

3.96

 

 

122,876

 

 

1,103

 

3.60

 

Total loans

 

 

1,850,040

 

 

22,045

 

4.78

 

 

1,739,605

 

 

19,342

 

4.46

 

Investments:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Taxable

 

 

189,265

 

 

1,045

 

2.21

 

 

178,957

 

 

991

 

2.22

 

Tax-exempt

 

 

82,565

 

 

659

 

3.20

 

 

103,279

 

 

837

 

3.25

 

Total investments

 

 

271,830

 

 

1,704

 

2.51

 

 

282,236

 

 

1,828

 

2.60

 

Interest-bearing deposits

 

 

2,554

 

 

17

 

2.67

 

 

342

 

 

 2

 

2.35

 

Federal funds sold

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total earning assets

 

 

2,124,424

 

 

23,766

 

4.49

%

 

2,022,183

 

 

21,172

 

4.20

%

Less: allowance for loan losses

 

 

22,341

 

 

 

 

 

 

 

20,094

 

 

 

 

 

 

Other assets

 

 

212,924

 

 

 

 

 

 

 

216,013

 

 

 

 

 

 

Total assets

 

$

2,315,007

 

$

23,766

 

 

 

$

2,218,102

 

$

21,172

 

 

 

Liabilities and Stockholders’ Equity:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest-bearing liabilities:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Money market accounts

 

$

325,555

 

$

1,058

 

1.30

%

$

290,194

 

$

557

 

0.77

%

NOW accounts

 

 

383,276

 

 

702

 

0.73

 

 

367,456

 

 

475

 

0.52

 

Savings accounts

 

 

385,995

 

 

124

 

0.13

 

 

395,750

 

 

123

 

0.12

 

Time deposits less than $100

 

 

137,613

 

 

498

 

1.45

 

 

146,940

 

 

426

 

1.16

 

Time deposits $100 or more

 

 

217,226

 

 

1,331

 

2.46

 

 

126,696

 

 

378

 

1.20

 

Short-term borrowings

 

 

88,792

 

 

595

 

2.69

 

 

163,596

 

 

841

 

2.06

 

Long-term debt

 

 

41,948

 

 

296

 

2.83

 

 

49,136

 

 

315

 

2.57

 

Total interest-bearing liabilities

 

 

1,580,405

 

 

4,604

 

1.17

 

 

1,539,768

 

 

3,115

 

0.81

 

Noninterest-bearing deposits

 

 

426,791

 

 

 

 

 

 

 

394,461

 

 

 

 

 

 

Other liabilities

 

 

20,773

 

 

 

 

 

 

 

15,376

 

 

 

 

 

 

Stockholders’ equity

 

 

287,038

 

 

 

 

 

 

 

268,497

 

 

 

 

 

 

Total liabilities and stockholders’ equity

 

$

2,315,007

 

 

4,604

 

 

 

$

2,218,102

 

 

3,115

 

 

 

Net interest income/spread

 

 

 

 

$

19,162

 

3.32

%

 

 

 

$

18,057

 

3.39

%

Net interest margin

 

 

 

 

 

 

 

3.62

%

 

 

 

 

 

 

3.58

%

Tax-equivalent adjustments:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Loans

 

 

 

 

$

295

 

 

 

 

 

 

$

232

 

 

 

Investments

 

 

 

 

 

139

 

 

 

 

 

 

 

176

 

 

 

Total adjustments

 

 

 

 

$

434

 

 

 

 

 

 

$

408

 

 

 

 

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Peoples Financial Services Corp.

Management’s Discussion and Analysis

(Dollars in thousands, except per share data)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Six months ended

 

 

 

June 30, 2019

 

June 30, 2018

 

 

 

Average

 

Interest Income/

 

Yield/

 

Average

 

Interest Income/

 

Yield/

 

 

    

Balance  

    

Expense

    

Rate  

    

Balance  

    

Expense

    

Rate  

    

Assets:

    

 

 

    

 

 

    

 

 

 

 

    

 

 

    

 

 

Earning assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Taxable

 

$

1,704,750

 

$

40,744

 

4.82

%  

$

1,606,666

 

$

35,748

 

4.49

%  

Tax-exempt

 

 

143,210

 

 

2,795

 

3.94

 

 

124,003

 

 

2,204

 

3.58

 

Total loans

 

 

1,847,960

 

 

43,539

 

4.75

 

 

1,730,669

 

 

37,952

 

4.42

 

Investments:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Taxable

 

 

187,490

 

 

2,076

 

2.23

 

 

175,316

 

 

1,903

 

2.19

 

Tax-exempt

 

 

86,740

 

 

1,370

 

3.19

 

 

105,585

 

 

1,724

 

3.29

 

Total investments

 

 

274,230

 

 

3,446

 

2.53

 

 

280,901

 

 

3,627

 

2.60

 

Interest-bearing deposits

 

 

1,796

 

 

23

 

2.58

 

 

506

 

 

 4

 

1.59

 

Federal funds sold

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total earning assets

 

 

2,123,986

 

 

47,008

 

4.46

%  

 

2,012,076

 

 

41,583

 

4.17

%  

Less: allowance for loan losses

 

 

22,005

 

 

 

 

 

 

 

19,659

 

 

 

 

 

 

Other assets

 

 

211,072

 

 

 

 

 

 

 

214,982

 

 

 

 

 

 

Total assets

 

$

2,313,053

 

$

47,008

 

 

 

$

2,207,399

 

$

41,583

 

 

 

Liabilities and Stockholders’ Equity:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest-bearing liabilities:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Money market accounts

 

$

328,382

 

$

2,089

 

1.28

%  

$

287,156

 

$

1,026

 

0.72

%  

NOW accounts

 

 

387,135

 

 

1,409

 

0.73

 

 

368,590

 

 

944

 

0.52

 

Savings accounts

 

 

384,341

 

 

243

 

0.13

 

 

393,471

 

 

244

 

0.13

 

Time deposits less than $100

 

 

136,820

 

 

963

 

1.42

 

 

149,831

 

 

849

 

1.14

 

Time deposits $100 or more

 

 

211,095

 

 

2,420

 

2.31

 

 

126,475

 

 

730

 

1.16

 

Short-term borrowings

 

 

105,282

 

 

1,408

 

2.70

 

 

163,282

 

 

1,508

 

1.86

 

Long-term debt

 

 

39,817

 

 

576

 

2.92

 

 

49,310

 

 

621

 

2.54

 

Total interest-bearing liabilities

 

 

1,592,872

 

 

9,108

 

1.15

 

 

1,538,115

 

 

5,922

 

0.78

 

Noninterest-bearing deposits

 

 

416,817

 

 

 

 

 

 

 

385,840

 

 

 

 

 

 

Other liabilities

 

 

19,383

 

 

 

 

 

 

 

15,712

 

 

 

 

 

 

Stockholders’ equity

 

 

283,981

 

 

 

 

 

 

 

267,732

 

 

 

 

 

 

Total liabilities and stockholders’ equity

 

$

2,313,053

 

 

9,108

 

 

 

$

2,207,399

 

 

5,922

 

 

 

Net interest income/spread

 

 

 

 

$

37,900

 

3.31

%  

 

 

 

$

35,661

 

3.39

%  

Net interest margin

 

 

 

 

 

 

 

3.60

%  

 

 

 

 

 

 

3.57

%  

Tax-equivalent adjustments:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Loans

 

 

 

 

$

587

 

 

 

 

 

 

$

463

 

 

 

Investments

 

 

 

 

 

288

 

 

 

 

 

 

 

362

 

 

 

Total adjustments

 

 

 

 

$

875

 

 

 

 

 

 

$

825

 

 

 

 

Provision for Loan Losses:

 

We evaluate the adequacy of the allowance for loan losses account on a quarterly basis utilizing our systematic analysis in accordance with procedural discipline. We take into consideration certain factors such as composition of the loan portfolio, volumes of nonperforming loans, volumes of net charge-offs, prevailing economic conditions and other relevant factors when determining the adequacy of the allowance for loan losses account. We make monthly provisions to the allowance for loan losses account in order to maintain the allowance at the appropriate level indicated by our evaluations. Based on our most current evaluation, we believe that the allowance is adequate to absorb any known and inherent losses in the portfolio as of June 30, 2019.

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Peoples Financial Services Corp.

Management’s Discussion and Analysis

(Dollars in thousands, except per share data)

 

 

The provision for loan losses totaled $1,400 for the six months ended June 30, 2019 and $2,100 for the six months ended June 30, 2018. For the three months ended June 30, the provision for loan losses was $350 in 2019 and $1,050 in 2018. The decrease in the current period is due to smaller loan growth and stable credit quality.

 

Noninterest Income:

 

Noninterest income for the second quarter increased $489 or 13.3% to $4,152 in 2019 from $3,663 in 2018. The increase is due primarily to an increase in service charges, fees, and commissions of $605 or 32.1% due to an increase in commercial loan interest rate swap transaction revenue of $437 and a recovery of $216 on a purchased impaired commercial credit, the balance of which had previously been charged-off to a specific credit mark set-up at time of acquisition under purchase accounting. Merchant revenue increased $148 from the previous period due to higher incentive fees. In the second quarter of 2018, we completed the sale of our credit card portfolio and recognized a gain of $291. There is no comparable gain in the corresponding period of 2019.

For the six months ended June 30, 2019, noninterest income totaled $7,568, an increase of $333 or 4.6% from $7,235 for the comparable period of 2018.  Fee income generated by commercial loan interest rate swap transactions increased $651 in the current period due to higher volume. Included in service charges, fees and commissions in the current period is a recovery of $216 on a purchased impaired commercial credit, the balance of which had previously been charged-off to a specific credit mark set-up at time of acquisition under purchase accounting. In the year ago period, service charges, fees and commissions included an accrual for death benefit proceeds on a bank owned life insurance (BOLI) policy totaling $365, with no comparable amount in the current period.  Additionally in the year ago period, we recognized a gain on the sale of our credit card portfolio of $291.  Merchant services income increased $96 to $655 for the six months ended June 30, 2019 from $559 for the same period last year due in part to higher incentive fees.  Income generated from commissions and fees on fiduciary activities increased slightly to $999 for the six months ended June 30, 2019 compared to $982 for the same period in 2018 due to higher market valuations. Income generated from our wealth management division increased slightly through the first six months of 2019, while mortgage banking income decreased modestly to $285 for the first six months of 2019 compared to $309 for the comparable period in 2018.

Noninterest Expenses:

 

In general, noninterest expense is categorized into three main groups: employee-related expenses, occupancy and equipment expenses and other expenses. Employee-related expenses are costs associated with providing salaries, including payroll taxes and benefits, to our employees. Occupancy and equipment expenses, the costs related to the maintenance of facilities and equipment, include depreciation, general maintenance and repairs, real estate taxes, rental expense offset by any rental income, and utility costs. Other expenses include general operating expenses such as advertising, contractual services, insurance, including FDIC assessment, other taxes and supplies. Several of these costs and expenses are variable while the remainder are fixed. We utilize budgets and other related strategies in an effort to control the variable expenses.

 

For the second quarter, noninterest expense increased $933 or 6.9% to $14,429 in 2019 from $13,496 in 2018. For the six months ended June 30, noninterest expense increased $1,342 or 5.0% to $27,919 in 2019 from $26,577 in 2018. Personnel costs increased 8.8%, net occupancy and equipment costs increased 4.7%, and all other expense categories which include, professional fees and outside services, FDIC insurance and assessments, donations and other miscellaneous expenses increased 6.2% comparing the three months ended June 30, 2019 and 2018.  During the six months ended June 30, 2019, higher personnel costs of $1,287 or 9.0% was the primary reason for the increase in total non-interest expense. 

 

Salaries and employee benefits expense, which comprise the majority of noninterest expense, totaled $8,037 for the second quarter of 2019, an increase of $647 or 8.8% when compared to the second quarter of 2018. Salaries and employee benefits expense totaled $15,632 for the six months ending June 30, 2019, an increase of $1,287 or 9.0% when compared to $14,345 for the same period of 2018. Annual merit increases and additional resources related to our continued strategic market expansion initiative contributed to the increase. Additional staffing in the form of commercial

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Peoples Financial Services Corp.

Management’s Discussion and Analysis

(Dollars in thousands, except per share data)

 

lenders and credit professionals have been put in place to support our expansion and to continue our momentum in the Lehigh Valley and King of Prussia markets. Additionally, during the second quarter of 2019 we opened our newest branch office located on Norman Drive in Lebanon, Pennsylvania.

 

We experienced a $129 or 4.7% increase in net occupancy and equipment expense comparing the second quarter of 2019 at $2,849 and 2018 at $2,720. The six months ended June 30, 2019 resulted in a $276 or 5.0% increase to $5,810 in net occupancy and equipment expense compared to $5,534 for the same period in 2018. Additional depreciation expense related to the transformation of two of our legacy branch offices, investment in our global information technology systems, and investment into our newest markets was the primary reason for the increase. In general, as we expand and increase our presence in new markets, depreciation expenses and technology costs associated with the implementation and maintenance of new infrastructure within those markets increases.

 

For the second quarter, all other expense categories increased $157 or 4.6% to $3,543 from $3,386 comparing 2019 to 2018.  Legal and professional expenses increased $79 due to costs related to loan workouts.  Loan processing fees related to new loan originations increased $75, and $55 of other assets were written-off during the current quarter. For the six months ended June 30, all other expense categories decreased $221 or 3.3% to $6,477 in 2019 compared to $6,698 in 2018. Amortization expense related to intangible assets declined $76; FDIC assessments decreased $36, or 6.2% when comparing the first half of 2019 to the same period in 2018,. Professional fees and outside services were lower due to insurance proceeds in the amount of $181 received as settlement to legal costs previously incurred. Donations increased $35, or 5.3% in the first half of 2019 when compared to the same period in 2018 as support for civic organizations and charitable entities grows as we enter new markets.

 

Income Taxes:

We recorded income tax expense of $957 or 11.8% of pre-tax income, and $1,718 or 11.2% of pre-tax income for the three and six months ended June 30, 2019, respectively. In the year ago period, we recorded income tax expense of $811 or 12.0% of pre-tax income, and $1,585 or 11.8% of pre-tax income for those same periods. The three and six months ended June 30, 2019 include before tax investment tax credits and other credits totaling $390 and $778 compared to before tax investment tax credits $273 and $543 for those same periods last year.

 

 

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Peoples Financial Services Corp.

 

Item 3. Quantitative and Qualitative Disclosures about Market Risk.

Market risk is the risk to our earnings and/or financial position resulting from adverse changes in market rates or prices, such as interest rates, foreign exchange rates or equity prices. Our exposure to market risk is primarily interest rate risk (“IRR”), which arises from our lending, investing and deposit gathering activities. Our market risk sensitive instruments consist of derivative and non-derivative financial instruments, none of which are entered into for trading purposes. During the normal course of business, we are not exposed to foreign exchange risk or commodity price risk. Our exposure to IRR can be explained as the potential for change in reported earnings and/or the market value of net worth. Variations in interest rates affect the underlying economic value of assets, liabilities and off-balance sheet items. These changes arise because the present value of future cash flows, and often the cash flows themselves, change with interest rates. The effects of the changes in these present values reflect the change in our underlying economic value, and provide a basis for the expected change in future earnings related to interest rates. Interest rate changes affect earnings by changing net interest income and the level of other interest-sensitive income and operating expenses. IRR is inherent in the role of banks as financial intermediaries.

 

A bank with a high degree of IRR may experience lower earnings, impaired liquidity and capital positions, and most likely, a greater risk of insolvency. Therefore, banks must carefully evaluate IRR to promote safety and soundness in their activities.

 

Interest rate risk is the risk of loss to future earnings due to changes in interest rates.  The Asset Liability Committee (“ALCO”) is responsible for establishing policy guidelines on liquidity and acceptable exposure to interest rate risk.  Generally quarterly, the ALCO reports on the status of liquidity and interest rate risk matters to the Company’s board of directors. The objective of the ALCO is to manage assets and funding sources to produce results that are consistent with the Company’s liquidity, capital adequacy, growth, risk and profitability goals and are within policy limits.

 

The Company utilizes the pricing and structure of loans and deposits, the size and duration of the investment securities portfolio, the size and duration of the wholesale funding portfolio, and off-balance sheet interest rate contracts to manage interest rate risk. The off-balance sheet interest rate contracts may include interest rate swaps, caps and floors.  These interest rate contracts involve, to varying degrees, credit risk and interest rate risk.  Credit risk is the possibility that a loss may occur if a counterparty to a transaction fails to perform according to terms of the contract.  The notional amount of the interest rate contracts is the amount upon which interest and other payments are based.  The notional amount is not exchanged, and therefore, should not be taken as a measure of credit risk.  See Note 9 to the Unaudited Consolidated Financial Statements for additional information.

 

The ALCO uses income simulation to measure interest rate risk inherent in the Company’s on-balance sheet and off-balance sheet financial instruments at a given point in time by showing the effect of interest rate shifts on net interest income over a 24-month horizon and a 60-month horizon.  The simulations assume that the size and general composition of the Company’s balance sheet remain static over the simulation horizons, with the exception of certain deposit mix shifts from low-cost time deposits to higher-cost time deposits in selected interest rate scenarios.  Additionally, the simulations take into account the specific repricing, maturity, call options, and prepayment characteristics of differing financial instruments that may vary under different interest rate scenarios.  The characteristics of financial instrument classes are reviewed typically quarterly by the ALCO to ensure their accuracy and consistency.

 

The ALCO reviews simulation results to determine whether the Company’s exposure to a decline in net interest income remains within established tolerance levels over the simulation horizons and to develop appropriate strategies to manage this exposure.  As of June 30, 2019 and December 31, 2018, net interest income simulations indicated that exposure to changing interest rates over the simulation horizons remained within tolerance levels established by the Company. All changes are measured in comparison to the projected net interest income that would result from an “unchanged” rate scenario where both interest rates and the composition of the Company’s balance sheet remain stable for a 60-month period.  In addition to measuring the change in net interest income as compared to an unchanged interest rate scenario,

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Peoples Financial Services Corp.

 

the ALCO also measures the trend of both net interest income and net interest margin over a 60-month horizon to ensure the stability and adequacy of this source of earnings in different interest rate scenarios.

 

The ALCO regularly reviews a wide variety of interest rate shift scenario results to evaluate interest rate risk exposure, including scenarios showing the effect of steepening or flattening changes in the yield curve of up to 500 basis points as well as parallel changes in interest rates of up to 400 basis points.  Because income simulations assume that the Company’s balance sheet will remain static over the simulation horizon, the results do not reflect adjustments in strategy that the ALCO could implement in response to rate shifts.

 

The projected impacts of instantaneous changes in interest rates on our net interest income and economic value of equity at June 30, 2019, based on our simulation model, as compared to our ALCO policy limits are summarized as follows:

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2019

 

 

 

% Change in  

 

Changes in Interest Rates (basis points)

 

Net Interest Income 

 

Economic Value of Equity 

 

 

    

Metric 

    

Policy 

    

Metric 

    

Policy 

 

+400

    

(1.1)

 

(20.0)

 

3.0

 

(40.0)

 

+300

 

(0.6)

 

(20.0)

 

3.2

 

(30.0)

 

+200

 

(0.3)

 

(10.0)

 

3.0

 

(20.0)

 

+100

 

0.0

 

(10.0)

 

2.6

 

(10.0)

 

Static

 

 

 

 

 

 

 

 

 

(100)

 

(1.7)

 

(10.0)

 

(7.7)

 

(10.0)

 

 

Our simulation model creates pro forma net interest income scenarios under various interest rate shocks. Given instantaneous and parallel shifts in general market rates of plus 100 basis points, our projected net interest income for the 12 months ending June 30, 2020, would be relatively unchanged from model results using current interest rates. Additional disclosures about market risk are included in Part II, Item 7 of our Annual Report on Form 10-K for the year ended December 31, 2018, and in Part I, Item 2 of this quarterly report, in each case under the heading “Market Risk Sensitivity,” and are incorporated into this Item 3 by reference. There were no material changes in our market risk from December 31, 2018.

The Alternative Reference Rates Committee ("ARRC") has proposed that the Secured Overnight Funding Rate ("SOFR") replace USD-LIBOR. ARRC has proposed that the transition to SOFR from USD-LIBOR will take place by the end of 2021. The Company has material contracts that are indexed to USD-LIBOR. Industry organizations are currently working on the transition plan. The Company is currently monitoring this activity and evaluating the risks involved.

 

Item 4. Controls and Procedures.

 

(a) Evaluation of disclosure controls and procedures.

 

At June 30, 2019, the end of the period covered by this Quarterly Report on Form 10-Q, the Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”) evaluated the effectiveness of the Company’s disclosure controls and procedures as defined in Rule 13a-15(e) under the Exchange Act. Based upon that evaluation, the CEO and CFO concluded that the disclosure controls and procedures, at June 30, 2019, were effective to provide reasonable assurance that information required to be disclosed in the Company’s reports filed under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and to provide reasonable assurance that information required to be disclosed in such reports is accumulated and communicated to the CEO and CFO to allow timely decisions regarding required disclosure.

 

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(b) Changes in internal control.

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

 

PART II—OTHER INFORMATION 

 

Item 1. Legal Proceedings.

 

The nature of the Company’s business generates a certain amount of litigation involving matters arising out of the ordinary course of business. In the opinion of management, there were no legal proceedings that had or might have a material effect on the consolidated results of operations, liquidity, or the financial position of the Company during the six-months ended June 30, 2019 and through the date of this quarterly report on Form 10-Q.

 

Item 1A. Risk Factors.  

 

There have been no material changes from the risk factors previously disclosed in the Company’s Annual Report on Form 10-K for the year ended December 31, 2018.

 

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

 

On February 1, 2019, our board of directors reauthorized a common stock repurchase plan whereby we are authorized to repurchase up to 225,000 shares of our outstanding common stock through open market purchases.

 

The following purchases were made by or on behalf of the Company or any “affiliated purchaser,” as defined in the Exchange Act Rule 10b-18(a)(3), of the Company’s common stock during each of the months for the quarter ended June 30, 2019.

 

 

 

 

 

 

 

 

 

 

 

 

 

    

 

 

    

 

    

Total Number of

    

Maximum Number

 

 

 

 

 

 

 

 

Shares Purchased

 

of Shares that may

 

 

 

 

 

 

 

 

as Part of Publicly

 

yet be Purchased

 

 

 

Total Number of

 

Average Price

 

Announced

 

Under the

 

Month Ending 

    

Shares Purchased

 

Paid Per Share

    

Programs

    

Programs

 

April 30, 2019

 

 

 

$

 

 

 

 

225,000

 

May 31, 2019

 

1,559

 

$

43.62

 

 

 

223,441

 

June 30, 2019

 

2,271

 

$

42.93

 

 

 

221,170

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Item 3. Defaults upon Senior Securities.

 

None.

 

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Item 4. Mine Safety Disclosures.

 

Not applicable.

 

Item 5. Other Information.  

 

None.

 

Item 6. Exhibits.  

 

Item Number

 

Description

 

Page

 

 

 

 

 

31.1

 

CEO Certification Pursuant to Rule 13a-14 (a) /15d-14 (a).

 

52

 

 

 

 

 

31.2

 

CFO Certification Pursuant to Rule 13a-14 (a) /15d-14 (a).

 

53

 

 

 

 

 

32

 

CEO and CFO Certifications Pursuant to Section 1350.

 

54

 

 

 

 

 

101

 

The following materials from Peoples Financial Services Corp. Quarterly Report on Form 10-Q for the period ended June 30, 2019, formatted in XBRL: (i) the Consolidated Balance Sheets, (ii) the Consolidated Statements of Income and Comprehensive Income, (iii) the Consolidated Statements of Changes in Stockholders’ Equity, (iv) the Consolidated Statements of Cash Flows and (v) the Notes to the Consolidated Financial Statements.

 

 

 

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 Financial Services Corp.

 

(Registrant)

 

 

Date: August 7, 2019

/s/ Craig W. Best

 

Craig W. Best

 

President and Chief Executive Officer

 

(Principal Executive Officer)

 

 

Date: August 7, 2019

/s/ John R. Anderson, III

 

John R. Anderson, III

 

Executive Vice President and Chief Financial Officer

 

(Principal Financial Officer and Principal Accounting Officer)

 

51