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Primis Financial Corp. - Quarter Report: 2019 September (Form 10-Q)

Table of Contents

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

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

For the Quarterly Period Ended September 30, 2019

Commission File No. 001-33037

SOUTHERN NATIONAL BANCORP OF VIRGINIA, INC.

(Exact name of registrant as specified in its charter)

Virginia

20-1417448

(State or other jurisdiction

(I.R.S. Employer Identification No.)

of incorporation or organization)

6830 Old Dominion Drive

McLean, Virginia 22101

(Address of principal executive offices) (zip code)

(703) 893-7400

(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

SONA

NASDAQ

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes        No 

Indicate by check mark whether the registrant has submitted electronically, every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).

Yes        No 

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

Large accelerated filer 

Accelerated filer 

Smaller reporting company 

Non-accelerated filer 

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 

As of November 1, 2019, there were 24,181,534 shares of common stock outstanding.

Table of Contents

SOUTHERN NATIONAL BANCORP OF VIRGINIA, INC.

FORM 10-Q

September 30, 2019

INDEX

    

PAGE

PART I - FINANCIAL INFORMATION

Item 1 - Financial Statements

Consolidated Balance Sheets as of September 30, 2019 and December 31, 2018

2

Consolidated Statements of Income and Comprehensive Income for the three and nine months ended September 30, 2019 and 2018

3

Consolidated Statement of Changes in Stockholders’ Equity for the three and nine months ended September 30, 2019 and 2018

4

Consolidated Statements of Cash Flows for the nine months ended September 30, 2019 and 2018

6

Notes to Unaudited Consolidated Financial Statements

7

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

31

Item 3 – Quantitative and Qualitative Disclosures about Market Risk

42

Item 4 – Controls and Procedures

44

PART II - OTHER INFORMATION

Item 1 – Legal Proceedings

45

Item 1A – Risk Factors

45

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

45

Item 3 – Defaults Upon Senior Securities

45

Item 4 – Mine Safety Disclosures

45

Item 5 – Other Information

45

Item 6 - Exhibits

46

Signatures

48

Table of Contents

SOUTHERN NATIONAL BANCORP OF VIRGINIA, INC.
CONSOLIDATED BALANCE
SHEETS

(dollars in thousands, except per share amounts)

    

September 30, 

    

December 31, 

2019

2018

(unaudited)

*

ASSETS

Cash and cash equivalents:

 

  

 

  

Cash and due from financial institutions

$

5,147

 

$

6,939

Interest-bearing deposits in other financial institutions

 

43,425

 

20,877

Federal funds sold

 

 

795

Total cash and cash equivalents

 

48,572

 

28,611

Securities available for sale, at fair value

 

163,344

 

143,377

Securities held to maturity, at amortized cost (fair value of $79,128 and $89,109, respectively)

 

78,790

 

92,462

Total loans

 

2,141,385

 

2,178,824

Less allowance for loan losses

 

(11,201)

 

(12,283)

Net loans

 

2,130,184

 

2,166,541

Stock in Federal Reserve Bank and Federal Home Loan Bank

 

14,602

 

19,522

Equity investment in mortgage affiliate

 

5,003

 

3,829

Preferred investment in mortgage affiliate

 

3,305

 

3,305

Bank premises and equipment, net

 

31,265

 

32,352

Operating lease right-of-use assets

8,374

Goodwill

 

101,954

 

101,954

Core deposit intangibles, net

 

7,532

 

8,609

Bank-owned life insurance

 

63,452

 

62,495

Other real estate owned

 

5,835

 

5,077

Deferred tax assets, net

 

14,319

 

14,104

Other assets

 

22,384

 

19,057

Total assets

$

2,698,915

 

$

2,701,295

LIABILITIES AND STOCKHOLDERS' EQUITY

 

  

 

  

Noninterest-bearing demand deposits

$

343,686

 

$

320,043

Interest-bearing deposits:

 

  

 

  

NOW accounts

 

368,354

 

345,597

Money market accounts

 

458,737

 

355,469

Savings accounts

 

146,119

 

151,050

Time deposits

 

861,842

 

925,441

Total interest-bearing deposits

 

1,835,052

 

1,777,557

Total deposits

 

2,178,738

 

2,097,600

Securities sold under agreements to repurchase - short term

 

14,355

 

18,721

Federal Home Loan Bank (FHLB) advances - short term

 

45,640

 

163,340

Junior subordinated debt - long term

 

9,620

 

9,584

Senior subordinated notes - long term

 

47,061

 

47,089

Operating lease liabilities

8,830

Other liabilities

 

24,041

 

16,671

Total liabilities

 

2,328,285

 

2,353,005

Commitments and contingencies (See Note 6)

 

 

Stockholders' equity:

 

  

 

  

Preferred stock, $0.01 par value. Authorized 5,000,000 shares; no shares issued and outstanding

 

 

Common stock, $0.01 par value. Authorized 45,000,000 shares; 24,171,776 and 24,052,253 shares issued and outstanding at September 30, 2019 and December 31, 2018, respectively

 

241

 

240

Additional paid in capital

 

306,609

 

305,654

Retained earnings

 

62,674

 

44,985

Accumulated other comprehensive income (loss)

 

1,106

 

(2,589)

Total stockholders' equity

 

370,630

 

348,290

Total liabilities and stockholders' equity

$

2,698,915

 

$

2,701,295

* Derived from audited consolidated financial statements

See accompanying notes to unaudited consolidated financial statements.

2

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SOUTHERN NATIONAL BANCORP OF VIRGINIA, INC.
CONSOLIDATED STATE
MENTS OF INCOME AND COMPREHENSIVE INCOME

(dollars in thousands, except per share amounts) (Unaudited)

For the Three Months Ended

For the Nine Months Ended

September 30, 

September 30, 

    

2019

    

2018

    

2019

    

2018

    

Interest and dividend income:

 

  

 

  

 

  

 

  

 

Interest and fees on loans

$

28,340

$

27,952

$

84,692

$

81,554

Interest and dividends on taxable securities

 

1,375

 

1,438

 

4,275

 

4,320

Interest and dividends on tax exempt securities

 

145

 

158

 

453

 

477

Interest and dividends on other earning assets

 

614

 

493

 

1,748

 

1,372

Interest on federal funds sold

 

 

13

 

2

 

34

Total interest and dividend income

 

30,474

 

30,054

 

91,170

 

87,757

Interest expense:

 

  

 

  

 

  

 

  

Interest on deposits

 

8,001

 

4,993

 

23,117

 

12,073

Interest on repurchase agreements

 

20

 

24

 

65

 

70

Interest on junior subordinated debt

 

158

 

150

 

458

 

425

Interest on senior subordinated notes

 

711

 

713

 

2,135

 

2,136

Interest on other borrowings

 

569

 

1,586

 

2,464

 

4,791

Total interest expense

 

9,459

 

7,466

 

28,239

 

19,495

Net interest income

 

21,015

 

22,588

 

62,931

 

68,262

Provision for loan losses

 

150

 

1,050

 

350

 

3,700

Net interest income after provision for loan losses

 

20,865

 

21,538

 

62,581

 

64,562

Noninterest income:

 

  

 

  

 

  

 

  

Account maintenance and deposit service fees

 

1,837

 

1,398

 

5,312

 

4,181

Income from bank-owned life insurance

 

392

 

593

 

1,300

 

1,463

Equity gain (loss) from mortgage affiliate

 

599

 

(72)

 

1,175

 

(198)

Recoveries related to acquired charged-off loans and investment securities

145

667

1,060

2,392

Other

 

1

 

52

 

380

 

432

Total noninterest income

 

2,974

 

2,638

 

9,227

 

8,270

Noninterest expenses:

 

  

 

  

 

  

 

  

Salaries and benefits

 

6,567

 

7,080

 

19,523

 

20,859

Occupancy expenses

 

968

 

1,660

 

4,572

 

4,966

Furniture and equipment expenses

 

514

 

620

 

1,962

 

2,129

Amortization of core deposit intangible

 

352

 

360

 

1,077

 

1,083

Virginia franchise tax expense

 

563

 

491

 

1,689

 

1,347

Data processing expense

 

622

 

475

 

1,704

 

1,405

Telephone and communication expense

 

477

 

465

 

1,258

 

1,560

Net (gain) loss on other real estate owned

 

 

(99)

 

(38)

 

61

Professional fees

 

673

 

370

 

2,576

 

1,228

Other operating expenses

 

1,878

 

1,693

 

8,473

 

5,713

Total noninterest expenses

 

12,614

 

13,115

 

42,796

 

40,351

Income before income taxes

 

11,225

 

11,061

 

29,012

 

32,481

Income tax expense

 

2,361

 

2,200

 

4,809

 

6,494

Net income

$

8,864

$

8,861

$

24,203

$

25,987

Other comprehensive income (loss):

 

  

 

  

 

  

 

  

Unrealized gain (loss) on available for sale securities

$

740

$

(846)

$

4,668

$

(3,559)

Accretion of amounts previously recorded upon transfer to held to maturity from available for sale

 

4

 

4

 

10

 

10

Net unrealized gain (loss)

 

744

 

(842)

 

4,678

 

(3,549)

Tax effect

 

157

 

(177)

 

983

 

(746)

Other comprehensive income (loss)

 

587

 

(665)

 

3,695

 

(2,803)

Comprehensive income

$

9,451

$

8,196

27,898

23,184

Earnings per share, basic

$

0.37

$

0.37

$

1.01

$

1.08

Earnings per share, diluted

$

0.36

$

0.36

$

0.99

$

1.07

See accompanying notes to unaudited consolidated financial statements.

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SOUTHERN NATIONAL BANCORP OF VIRGINIA, INC.
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS’ EQUITY
FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2019 AND 2018

(dollars in thousands, except per share amounts) (Unaudited)

For the Three Months Ended September 30, 2019

Accumulated

Additional

Other

Common

Paid in

Retained

Comprehensive

    

Stock

    

Capital

    

Earnings

    

Income

    

Total

Balance - June 30, 2019

$

241

$

306,049

$

55,983

$

519

$

362,792

Net income

 

 

 

8,864

 

 

8,864

Changes in other comprehensive income on investment securities (net of tax, $157, and accretion of $4)

587

587

Dividends on common stock ($0.09 per share)

 

 

 

(2,173)

 

 

(2,173)

Issuance of common stock under Stock Incentive Plan (54,450 shares, net)

 

 

475

 

 

 

475

Stock-based compensation expense

 

 

85

 

 

 

85

Balance - September 30, 2019

$

241

$

306,609

$

62,674

$

1,106

$

370,630

For the Three Months Ended September 30, 2018

Accumulated

Additional

Other

Common

Paid in

Retained

Comprehensive

    

Stock

    

Capital

    

Earnings

    

Loss

    

Total

Balance - June 30, 2018

$

240

$

305,460

$

32,269

$

(3,519)

$

334,450

Net income

 

 

 

8,861

 

 

8,861

Changes in other comprehensive loss on investment securities (net of tax, $177, and accretion of $4)

(665)

(665)

Dividends on common stock ($0.08 per share)

 

 

 

(1,925)

 

 

(1,925)

Issuance of common stock under Stock Incentive Plan (5,300 shares, net)

 

 

(35)

 

 

 

(35)

Stock-based compensation expense

 

 

158

 

 

 

158

Balance - September 30, 2018

$

240

$

305,583

$

39,205

$

(4,184)

$

340,844

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SOUTHERN NATIONAL BANCORP OF VIRGINIA, INC.
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS’ EQUITY
FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2019 AND 2018

(dollars in thousands, except per share amounts) (Unaudited)

For the Nine Months Ended September 30, 2019

Accumulated

Additional

Other

Common

Paid in

Retained

Comprehensive

    

Stock

    

Capital

    

Earnings

    

Income (Loss)

    

Total

Balance - December 31, 2018

$

240

$

305,654

$

44,985

$

(2,589)

$

348,290

Net income

 

 

 

24,203

 

 

24,203

Changes in other comprehensive income on investment securities (net of tax, $983, and accretion of $10)

3,695

3,695

Dividends on common stock ($0.27 per share)

 

 

 

(6,514)

 

 

(6,514)

Issuance of common stock under Stock Incentive Plan (73,900 shares, net)

 

1

 

603

 

 

 

604

Stock-based compensation expense

 

 

352

 

 

 

352

Balance - September 30, 2019

$

241

$

306,609

$

62,674

$

1,106

$

370,630

For the Nine Months Ended September 30, 2018

Accumulated

Additional

Other

Common

Paid in

Retained

Comprehensive

    

Stock

    

Capital

    

Earnings

    

Loss

    

Total

Balance - December 31, 2017

$

239

$

304,932

$

18,753

$

(1,152)

$

322,772

Net income

 

 

 

25,987

 

 

25,987

Changes in other comprehensive loss on investment securities (net of tax, $746, and accretion of $10)

(2,803)

(2,803)

Dividends on common stock ($0.24 per share)

 

 

 

(5,764)

 

 

(5,764)

Issuance of common stock under Stock Incentive Plan (115,300 shares, net)

 

1

 

324

 

 

 

325

Reclassification from accumulated other comprehensive loss to retained earnings due to adoption of ASU 2018-02

229

(229)

Stock-based compensation expense

 

 

327

 

 

 

327

Balance - September 30, 2018

$

240

$

305,583

$

39,205

$

(4,184)

$

340,844

See accompanying notes to unaudited consolidated financial statements.

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SOUTHERN NATIONAL BANCORP OF VIRGINIA, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS

FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2019 AND 2018

(dollars in thousands) (Unaudited)

    

2019

    

2018

Operating activities:

 

  

 

  

Net income

$

24,203

$

25,987

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

 

  

 

  

Depreciation and amortization

 

4,526

 

5,526

Amortization of operating lease right-of-use assets

1,901

Accretion of loan discount

 

(2,689)

 

(3,673)

Amortization of FDIC indemnification asset

 

531

 

527

Provision for loan losses

 

350

 

3,700

Earnings on bank-owned life insurance

 

(1,300)

 

(1,113)

Equity (gain) loss on mortgage affiliate

 

(1,175)

 

198

Stock-based compensation expense

 

352

 

327

Gain on bank-owned life insurance death benefit

(350)

(Gain) loss on other real estate owned

 

(38)

 

61

Provision for deferred income taxes

 

(1,197)

 

Net (increase) decrease in other assets

 

(3,642)

 

979

Net increase (decrease) in other liabilities

 

5,710

 

(407)

Net cash and cash equivalents provided by operating activities

 

27,532

 

31,762

Investing activities:

 

  

 

  

Purchases of held to maturity investment securities

 

(10,233)

 

Purchases of available for sale investment securities

 

(35,082)

 

Proceeds from paydowns, maturities and calls of available for sale investment securities

 

18,151

 

11,073

Proceeds from paydowns, maturities and calls of held to maturity investment securities

 

23,685

 

4,701

Sales of FRB and FHLB stock

4,920

3,905

Net (increase) decrease in loans

 

37,883

 

(97,621)

Purchase of bank-owned life insurance

 

 

(12,000)

Proceeds from bank-owned life insurance death benefit

343

1,574

Proceeds from sales of other real estate owned, net of improvements

93

1,927

Proceeds from sales of bank premise and equipment and assets held for sale

2,136

Purchases of bank premises and equipment

 

(504)

 

(2,045)

Net cash and cash equivalents provided by (used in) investing activities

 

39,256

 

(86,350)

Financing activities:

 

  

 

  

Net increase in deposits

 

81,149

 

158,564

Cash dividends paid on common stock

 

(6,514)

 

(5,764)

Issuance of common stock under Stock Incentive Plan

 

604

 

325

Net decrease in short-term borrowings

 

(122,066)

 

(89,537)

Net cash and cash equivalents provided by (used in) financing activities

 

(46,827)

 

63,588

Increase in cash and cash equivalents

 

19,961

 

9,000

Cash and cash equivalents at beginning of period

 

28,611

 

25,463

Cash and cash equivalents at end of period

$

48,572

$

34,463

Supplemental disclosure of cash flow information

 

  

 

  

Cash payments for:

 

  

 

  

Interest

$

27,097

$

18,140

Income taxes

 

3,467

 

6,672

Non-cash investing and financing activities:

Initial recognition of operating lease right-of-use assets

8,615

Initial recognition of operating lease liabilities

9,099

See accompanying notes to unaudited consolidated financial statements.

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SOUTHERN NATIONAL BANCORP OF VIRGINIA, INC.

Notes to Unaudited Consolidated Financial Statements

September 30, 2019

1.      ACCOUNTING POLICIES

Southern National Bancorp of Virginia, Inc. (“Southern National” or “SNBV” or the “Company”) is a corporation that was formed on July 28, 2004 under the laws of the Commonwealth of Virginia and is the holding company for Sonabank (“Sonabank” or the “Bank”) a Virginia state-chartered bank which commenced operations on April 14, 2005. As of the close of business on June 23, 2017, SNBV completed its merger with Eastern Virginia Bankshares, Inc. (“EVBS”) and the merger of EVBS’s wholly-owned subsidiary, EVB, with and into SNBV’s wholly-owned subsidiary, Sonabank. Sonabank provides a range of financial services to individuals and small and medium sized businesses. At September 30, 2019, Sonabank had thirty-eight full-service retail branches in Virginia, located in the counties of Chesterfield (2), Essex (2), Fairfax (Reston, McLean and Fairfax), Gloucester (2), Hanover (3), King William, Lancaster, Middlesex (3), New Kent, Northumberland (3), Southampton, Surry, Sussex, and in Charlottesville, Clifton Forge, Colonial Heights, Front Royal, Hampton, Haymarket, Leesburg, Middleburg, New Market, Newport News, Richmond, South Riding, Warrenton, and Williamsburg, and seven full-service retail branches in Maryland, in Rockville, Shady Grove, Bethesda, Upper Marlboro, Brandywine, Owings and Huntingtown.

The consolidated financial statements include the accounts of Southern National and its subsidiaries Sonabank and EVB Statutory Trust I (the “Trust”). Significant inter-company accounts and transactions have been eliminated in consolidation. Southern National consolidates subsidiaries in which it holds, directly or indirectly, more than 50 percent of the voting rights or where it exercises control. Entities where Southern National holds 20 to 50 percent of the voting rights, or has the ability to exercise significant influence, or both, are accounted for under the equity method. Southern National has an interest in one affiliate, Southern Trust Mortgage, LLC (“STM”), which it accounts for as an equity method investment. In addition, Southern National owns the Trust which is an unconsolidated subsidiary. The junior subordinated debt owed to the Trust is reported as a liability of Southern National.

The unaudited consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“U.S. GAAP”) for interim financial information and instructions for Form 10-Q and follow general practice within the banking industry. Accordingly, the unaudited consolidated financial statements do not include all of the information and footnotes required by U.S. GAAP for complete financial statements. However, in the opinion of management, all adjustments (consisting only of normal recurring accruals) necessary for a fair presentation of the results of the interim periods presented have been made. The results of operations for the interim periods are not necessarily indicative of the results that may be expected for the full year. For further information, refer to the consolidated financial statements and footnotes thereto included in Southern National’s Form 10-K for the year ended December 31, 2018.

Revenue from Contracts with Customers

Southern National records revenue from contracts with customers in accordance with Financial Accounting Standards Board (FASB) Accounting Standards Codification (ASC) Topic 606, Revenue from Contracts with Customers (Topic 606). Under Topic 606, we must identify the contract with a customer, identify the performance obligations in the contract, determine the transaction price, allocate the transaction price to the performance obligations in the contract, and recognize revenue when (or as) we satisfy a performance obligation. Significant revenue has not been recognized in the current reporting period that results from performance obligations satisfied in previous periods.

Our primary sources of revenue are derived from financial instruments, namely loans, investment securities, and other financial instruments that are not within the scope of Topic 606. We have evaluated the nature of the Company’s contracts with customers and determined that further disaggregation of revenue from contracts with customers into more granular categories beyond what is presented in the Consolidated Statements of Income and Comprehensive Income was not necessary. Southern National generally fully satisfies its performance obligations on its contracts with customers as services are rendered and the transaction prices are typically fixed; charged either on a periodic basis or based on activity. Because performance obligations are satisfied as services are rendered and the transaction prices are fixed, there is little

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judgment involved in applying Topic 606 that significantly affects the determination of the amount and timing of revenue from contracts with customers.

Operating Leases

The Company leases certain properties and equipment under operating leases. For leases in effect upon adoption of FASB Accounting Standards Update (ASU) 2016-02, Leases (Topic 842) at January 1, 2019 and for any leases commencing thereafter, the Company recognizes a liability to make lease payments, the operating lease liability, and an asset representing the right to use the underlying asset during the lease term, the right-of-use asset. The operating lease liability is measured at the present value of the remaining lease payments, discounted at the Company’s incremental borrowing rate at inception. The right-of-use asset is measured at the amount of the operating lease liability adjusted for the remaining balance of any lease incentives received, any cumulative prepaid or accrued rent if the lease payments are uneven throughout the lease term, any unamortized initial direct costs, and any impairment of the right-of-use-asset. Lease expense consists of a single lease cost calculated so that the remaining cost of the lease is allocated over the remaining lease term on a straight-line basis, variable lease payments not included in the operating lease liability, and any impairment of the right-of-use asset.

Certain of the Company’s leases contain options to renew the lease; however, these renewal options are not included in the calculation of the operating lease liabilities as they are not reasonably certain to be exercised. The Company’s leases do not contain residual value guarantees or material variable lease payments. The Company does not have any material restrictions or covenants imposed by leases that would impact the Company’s ability to pay dividends or cause the Company to incur additional financial obligations.  

The Company has made an accounting policy election to not apply the recognition requirements in Topic 842 to short-term leases. The Company has also elected to use the practical expedient to make an accounting policy election for property leases to use the discount rates in effect on January 2, 2019 for the remaining life of the leases.

Use of Estimates

The preparation of the consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from these estimates. Material estimates that are particularly susceptible to significant change in the near term relate to the determination of the allowance for loan losses, the carrying value of investment securities, other than temporary impairment of investment securities and the valuation of goodwill and intangible assets.

Recent Accounting Pronouncements

Adoption of New Accounting Standards:

In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842). The FASB issued this ASU to increase transparency and comparability among organizations by recognizing lease assets and lease liabilities on the balance sheet by lessees for those leases classified as operating leases under current U.S. GAAP and disclosing key information about leasing arrangements. In July 2018, the FASB issued ASU 2018-10, Codification Improvements to Topic 842, Leases, which updates narrow aspects of the guidance issued in ASU 2016-02. The amendments in this ASU were effective for public business entities for annual periods, and interim periods within those annual periods, beginning after December 15, 2018.  Early adoption of this ASU was permitted for all entities. The Company adopted ASU 2016-02 in the first quarter of 2019 and inventoried and categorized its lease agreements. Upon adoption, the Company recognized right-of-use assets and associated operating lease liabilities of $8.6 million and $9.1 million, respectively. Right-of-use assets and operating lease liabilities are reflected on our consolidated balance sheets. The company currently does not have any finance leases. See Note 5 – Leases for additional disclosures related to leases.

In March 2017, the FASB issued ASU 2017-08, Receivables – Nonrefundable Fees and Other Costs (Subtopic 310-20), Premium Amortization on Purchased Callable Debt Securities, which shortens the amortization period for certain

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callable debt securities held at a premium. Specifically, the amendments require the premium to be amortized to the earliest call date.  The amendments do not require an accounting change for securities held at a discount; the discount continues to be amortized to maturity.  ASU 2017-08 became effective for public entities for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018.  The company adopted ASU 2017-08 in the first quarter of 2019 and it did not have a material impact on the Company’s consolidated financial statements.

In July 2018, the FASB issued ASU 2018-09, Codification Improvements. This ASU makes changes to a variety of topics to clarify, correct errors in, or make minor improvements to the Accounting Standards Codification. The majority of the amendments in ASU 2018-09 were effective for the Company for fiscal years beginning after December 15, 2018. The Company adopted ASU 2018-09 in the first quarter of 2019 and it did not have a material impact on the Company’s consolidated financial statements.

New Accounting Standards Not Yet Adopted:

In June 2016, the FASB issued ASU 2016-13, Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, which sets forth a “current expected credit loss” ("CECL") model requiring the Company to measure all expected credit losses for financial instruments held at the reporting date based on historical experience, current conditions and reasonable supportable forecasts. This replaces the existing incurred loss model and is applicable to the measurement of credit losses on financial assets measured at amortized cost and applies to some off-balance sheet credit exposures. For public business entities that are U.S. Securities and Exchange Commission filers, the amendments in this update are effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. Southern National engaged a third-party to collect data that was needed to produce historical inputs into any models created as a result of adopting this ASU. We are in the process of validating our models. We are currently evaluating the impact of the adoption of this ASU on our consolidated financial statements.

In January 2017, the FASB issued ASU 2017-04, Intangibles - Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment, which eliminates the second step of the previous FASB guidance for testing goodwill for impairment and is intended to reduce cost and complexity of goodwill impairment testing. The amendments in this ASU modify the concept of impairment from the condition that exists when the carrying amount of goodwill exceeds its implied fair value to the condition that exists when the carrying amount of a reporting unit exceeds its fair value. After determining if the carrying amount of a reporting unit exceeds its fair value, the entity should take an impairment charge of the same amount to the goodwill for that reporting unit, not to exceed the total goodwill amount for that reporting unit. ASU 2017-04 is effective for annual periods beginning after December 15, 2019, including interim periods within those annual periods. Early adoption is permitted for interim or annual goodwill impairment tests performed on testing dates after January 1, 2017. Southern National is currently evaluating the impact of adopting the new guidance on its consolidated financial statements.

In August 2018, FASB issued ASU 2018-13, Fair Value measurement (Topic 820). This ASU adds, eliminates and modifies certain disclosure requirements for fair value measurements. The amendments in ASU 2018-13 are effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019. Early adoption is permitted. The disclosures are effective using the prospective method for certain disclosures and retrospective for a majority of the disclosures. Southern National is currently in the process of evaluating the impact of adopting the new guidance on its consolidated financial statements and disclosures.

2.      STOCK-BASED COMPENSATION

In 2004, the Company’s Board of Directors adopted a stock option plan that authorized the reservation of up to 302,500 shares of common stock and provided for the granting of stock options to certain directors, officers and employees. The 2010 Stock Awards and Incentive Plan (the “2010 Plan”) was approved by the Company’s Board of Directors in January 2010 and approved by the stockholders at the Annual Stockholder Meeting in April 2010. The 2010 Plan authorized the reservation of an additional 700,000 shares of common stock for the granting of stock awards. The options granted to officers and employees are incentive stock options and the options granted to non-employee directors are non-qualified stock options. The purpose of the plan is to afford key employees an incentive to remain in the employment of

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Southern National and to assist in attracting and retaining of non-employee directors by affording them an opportunity to share in Southern National’s anticipated future success. Under the plan, the option’s price cannot be less than the fair market value of the stock on the grant date. The maximum term of the options is ten years and options granted may be subject to a graded vesting schedule.

At the June 21, 2017 Annual Meeting of Stockholders of Southern National, the 2017 Equity Compensation Plan (the “2017 Plan”) was approved as recommended by the Board of Directors. The 2017 Plan replaced the 2010 Plan and has a maximum number of 750,000 shares reserved for issuance. The purpose of the 2017 Plan is to promote the success of the Company by providing greater incentive to employees, non-employee directors, consultants and advisors to associate their personal interests with the long-term financial success of the Company, including its subsidiaries, and with growth in stockholder value, consistent with the Company’s risk management practices. Because the 2017 Plan was approved, shares under the 2004 stock-option plan or 2010 Plan will no longer be awarded.

A summary of the activity in the stock option plan during the nine months ended September 30, 2019 follows:

    

    

    

Weighted

    

 

Weighted

Average 

Aggregate

Average

Remaining

Intrinsic

Exercise

Contractual

Value

Shares

Price

Term

(in thousands)

Options outstanding, beginning of period

 

642,350

$

9.77

 

5.0

 

$

2,219

Forfeited

 

(2,700)

 

10.52

 

  

 

  

Exercised

 

(73,900)

 

8.20

 

 

  

Options outstanding, end of period

 

565,750

$

9.97

 

4.5

$

3,068

Exercisable at end of period

 

565,750

$

9.11

 

3.8

$

2,552

Stock-based compensation expense associated with stock options was $12 thousand and $21 thousand for the three months ended September 30, 2019 and 2018, respectively, and $55 thousand and $99 thousand for the nine months ended September 30, 2019 and 2018, respectively. As of September 30, 2019, unrecognized compensation expense associated with stock options was $38 thousand, which is expected to be recognized over a weighted average period of 1.5 years.

As of September 30, 2019, 48,500 shares of restricted stock were granted at a weighted average exercise price of $14.15 to certain officers of Southern National under the 2017 Plan and are subject to vesting in five years. These shares are included as shares outstanding at September 30, 2019 in the consolidated balance sheet. As of September 30, 2019, 2,700 shares of restricted stock granted to certain officers of Southern National under the 2017 Plan were forfeited. Restricted stock compensation expense totaled $73 thousand and $137 thousand for the three months ended September 30, 2019 and 2018, respectively, and $297 thousand and $228 thousand for the nine months ended September 30, 2019 and 2018, respectively. As of September 30, 2019, unrecognized compensation expense associated with restricted stock was $1.2 million, which is expected to be recognized over a weighted average period of 4.0 years.

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3.      INVESTMENT SECURITIES

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

Amortized

Gross Unrealized

Fair

    

Cost

    

Gains

    

Losses

    

Value

September 30, 2019

Residential government-sponsored mortgage-backed securities

$

41,131

$

561

$

(17)

$

41,675

Obligations of states and political subdivisions

 

17,100

 

588

 

 

17,688

Corporate securities

 

2,005

 

12

 

 

2,017

Trust preferred securities

 

2,530

 

283

 

(245)

 

2,568

Residential government-sponsored collateralized mortgage obligations

 

38,702

 

346

 

(31)

 

39,017

Government-sponsored agency securities

 

16,823

 

61

 

 

16,884

Agency commercial mortgage-backed securities

 

27,709

 

253

 

(21)

 

27,941

SBA pool securities

 

15,740

 

21

 

(207)

 

15,554

Total

$

161,740

$

2,125

$

(521)

$

163,344

Amortized

Gross Unrealized

Fair

    

Cost

    

Gains

    

Losses

    

Value

December 31, 2018

Residential government-sponsored mortgage-backed securities

$

27,945

$

$

(643)

$

27,302

Obligations of states and political subdivisions

18,305

30

(280)

18,055

Corporate securities

2,008

1

(1)

2,008

Trust preferred securities

2,589

356

(304)

2,641

Residential government-sponsored collateralized mortgage obligations

44,095

3

(1,041)

43,057

Government-sponsored agency securities

3,247

(122)

3,125

Agency commercial mortgage-backed securities

28,069

(765)

27,304

SBA pool securities

20,183

10

(308)

19,885

Total

$

146,441

$

400

$

(3,464)

$

143,377

The amortized cost, unrecognized gains and losses, and fair value of investment securities held to maturity were as follows (in thousands):

Amortized

Gross Unrecognized

Fair

    

Cost

    

Gains

    

Losses

    

Value

September 30, 2019

Residential government-sponsored mortgage-backed securities

$

18,766

$

57

$

(55)

$

18,768

Obligations of states and political subdivisions

 

19,381

 

190

 

 

19,571

Trust preferred securities

 

2,402

 

91

 

(3)

 

2,490

Residential government-sponsored collateralized mortgage obligations

 

3,864

 

13

 

(9)

 

3,868

Government-sponsored agency securities

 

34,377

 

136

 

(82)

 

34,431

Total

$

78,790

$

487

$

(149)

$

79,128

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Amortized

Gross Unrecognized

Fair

    

Cost

    

Gains

    

Losses

    

Value

December 31, 2018

Residential government-sponsored mortgage-backed securities

$

9,699

$

4

$

(230)

$

9,473

Obligations of states and political subdivisions

 

21,496

 

85

 

(147)

 

21,434

Trust preferred securities

 

2,610

 

150

 

(1)

 

2,759

Residential government-sponsored collateralized mortgage obligations

 

6,001

 

 

(91)

 

5,910

Government-sponsored agency securities

 

52,656

 

 

(3,123)

 

49,533

Total

$

92,462

$

239

$

(3,592)

$

89,109

During the three and nine months ended September 30, 2019, $10.0 million and $35.1 million, respectively, of available for sale investment securities were purchased. Held to maturity investment securities of $10.2 million were purchased during the three and nine months ended September 30, 2019. No investment securities were sold during the first nine months of 2019.

The fair value and carrying amount, if different, of debt investment securities as of September 30, 2019, by contractual maturity were as follows (in thousands). Investment securities not due at a single maturity date are shown separately.

Available for Sale

Held to Maturity

    

Amortized

    

    

Amortized

    

Cost

Fair Value

Cost

Fair Value

Due in one to five years

$

2,332

$

2,366

$

5,484

$

5,553

Due in five to ten years

 

11,912

 

12,074

 

17,729

 

17,768

Due after ten years

 

24,214

 

24,717

 

32,947

 

33,171

Residential government-sponsored mortgage-backed securities

 

41,131

 

41,675

 

18,767

 

18,768

Residential government-sponsored collateralized mortgage obligations

 

38,702

 

39,017

 

3,863

 

3,868

Agency commercial mortgage-backed securities

 

27,709

 

27,941

 

 

SBA pool securities

 

15,740

 

15,554

 

 

Total

$

161,740

$

163,344

$

78,790

$

79,128

Investment securities with a carrying amount of approximately $128.9 million and $165.7 million at September 30, 2019 and December 31, 2018, respectively, were pledged to secure public deposits, certain other deposits, a line of credit for advances from the Federal Home Loan Bank (“FHLB”) of Atlanta, and repurchase agreements.

Southern National monitors the portfolio for indicators of other than temporary impairment. At September 30, 2019 and December 31, 2018, certain investment securities’ fair values were below cost. As outlined in the table below, there were investment securities with fair values totaling approximately $66.3 million in the portfolio with the carrying value exceeding the estimated fair value that are considered temporarily impaired at September 30, 2019. Because the decline in fair value is attributable to changes in interest rates and market illiquidity, and not credit quality, and because we do not have the intent to sell these investment securities and it is likely that we will not be required to sell the investment securities before their anticipated recovery, management does not consider these investment securities to be other than temporarily impaired as of September 30, 2019.

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The following tables present information regarding investment securities available for sale and held to maturity in a continuous unrealized loss position as of September 30, 2019 and December 31, 2018 by duration of time in a loss position (in thousands):

September 30, 2019

Less than 12 months

12 Months or More

Total

    

Fair

    

Unrealized

    

Fair

    

Unrealized

    

Fair

    

Unrealized

Available for Sale

value

Losses

value

Losses

value

Losses

Residential government-sponsored mortgage-backed securities

$

2,952

$

(2)

$

1,809

$

(15)

$

4,761

$

(17)

Trust preferred securities

 

 

 

795

 

(245)

 

795

 

(245)

Residential government-sponsored collateralized mortgage obligations

 

1,946

 

(9)

 

4,918

 

(22)

 

6,864

 

(31)

Agency commercial mortgage-backed securities

 

2,931

 

(5)

 

3,151

 

(16)

 

6,082

 

(21)

SBA pool securities

 

1,261

 

(1)

 

10,304

 

(206)

 

11,565

 

(207)

Total

$

9,090

$

(17)

$

20,977

$

(504)

$

30,067

$

(521)

September 30, 2019

Less than 12 months

12 Months or More

Total

    

Fair

    

Unrecognized

    

Fair

    

Unrecognized

    

Fair

    

Unrecognized

Held to Maturity

value

Losses

value

Losses

value

Losses

Residential government-sponsored mortgage-backed securities

$

11,545

$

(46)

$

1,543

$

(9)

$

13,088

$

(55)

Trust preferred securities

 

 

 

55

 

(3)

 

55

 

(3)

Residential government-sponsored collateralized mortgage obligations

 

1,164

 

(3)

 

1,055

 

(6)

 

2,219

 

(9)

Government-sponsored agency securities

 

 

 

20,912

 

(82)

 

20,912

 

(82)

Total

$

12,709

$

(49)

$

23,565

$

(100)

$

36,274

$

(149)

December 31, 2018

Less than 12 months

12 Months or More

Total

    

Fair

    

Unrealized

    

Fair

    

Unrealized

    

Fair

    

Unrealized

Available for Sale

value

Losses

value

Losses

value

Losses

Residential government-sponsored mortgage-backed securities

$

393

$

(5)

$

26,910

$

(638)

$

27,303

$

(643)

Obligations of states and political subdivisions

2,220

 

(78)

 

13,385

 

(202)

 

15,605

 

(280)

Corporate securities

1,008

(1)

1,008

(1)

Trust preferred securities

 

 

 

795

 

(304)

 

795

 

(304)

Residential government-sponsored collateralized mortgage obligations

 

 

42,598

 

(1,041)

 

42,598

 

(1,041)

Government-sponsored agency securities

 

 

3,125

 

(122)

 

3,125

 

(122)

Agency commercial mortgage-backed securities

 

 

27,304

 

(765)

 

27,304

 

(765)

SBA pool securities

6,009

 

(70)

 

10,546

 

(238)

 

16,555

 

(308)

Total

$

9,630

$

(154)

$

124,663

$

(3,310)

$

134,293

$

(3,464)

December 31, 2018

Less than 12 months

12 Months or More

Total

    

Fair

    

Unrecognized

    

Fair

    

Unrecognized

    

Fair

    

Unrecognized

Held to Maturity

value

Losses

value

Losses

value

Losses

Residential government-sponsored mortgage-backed securities

$

$

$

8,935

$

(230)

$

8,935

$

(230)

Obligations of states and political subdivisions

 

3,273

 

(10)

 

7,187

 

(137)

 

10,460

 

(147)

Trust preferred securities

 

 

 

60

 

(1)

 

60

 

(1)

Residential government-sponsored collateralized mortgage obligations

 

 

 

5,910

 

(91)

 

5,910

 

(91)

Government-sponsored agency securities

 

 

 

49,532

 

(3,123)

 

49,532

 

(3,123)

Total

$

3,273

$

(10)

$

71,624

$

(3,582)

$

74,897

$

(3,592)

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As of September 30, 2019, we owned pooled trust preferred securities as follows:

% of

Previously

Current

Recognized

Defaults and

Cumulative

Ratings When

Estimated

Deferrals to

Other

Tranche

Purchased

Current Ratings

Par

Book

Fair

Total

Comprehensive

Security

    

Level

    

Moody's

    

Fitch

    

Moody's

    

Fitch

    

Value

    

Value

    

Value

    

Collateral

    

Loss (1)

Held to Maturity

ALESCO VII A1B

 

Senior

 

Aaa

 

AAA

 

Aa1

 

AA

$

2,517

$

2,344

$

2,435

 

17

%  

$

219

MMCF III B

 

Senior Sub

 

A3

 

A-

 

Ba1

 

WD

 

59

 

58

 

55

 

45

%  

 

4

 

  

 

  

 

  

 

  

 

  

$

2,576

$

2,402

$

2,490

 

  

$

223

 

  

 

  

 

  

 

  

 

  

 

  

 

  

 

  

 

  

Cumulative OTTI

Available for Sale

 

  

 

  

 

  

 

  

 

  

 

  

 

  

 

  

 

  

Related to

Other Than Temporarily Impaired:

 

  

 

  

 

  

 

  

 

  

 

  

 

  

 

  

 

  

Credit Loss (2)

TPREF FUNDING II

 

Mezzanine

 

A1

 

A-

 

Caa3

 

WD

$

1,500

$

1,040

$

795

 

28

%  

$

400

ALESCO V C1

 

Mezzanine

 

A2

 

A

 

Caa1

 

C

 

2,150

 

1,490

 

1,773

 

15

%  

 

660

 

  

 

  

 

  

 

  

 

  

$

3,650

$

2,530

$

2,568

 

  

$

1,060

Total

 

  

 

  

 

  

 

  

 

  

$

6,226

$

4,932

$

5,058

 

  

 

  

(1)Pre-tax, and represents unrealized losses at date of transfer from available-for-sale to held-to-maturity, net of accretion.
(2)Pre-tax.

Each of these investment securities has been evaluated for other than temporary impairment. In performing a detailed cash flow analysis of each investment security, Sonabank works with independent third parties to estimate expected cash flows and assist with the evaluation of other than temporary impairment. The cash flow analyses performed included the following assumptions:

0.5% of the remaining performing collateral will default or defer per annum.
Recoveries of 9% with a two year lag on all defaults and deferrals.
No prepayments for 10 years and then 1% per annum for the remaining life of the investment security.
Our investment securities have been modeled using the above assumptions by independent third parties using the forward LIBOR curve to discount projected cash flows to present values.

We recognized no other than temporary impairment charges during the three and nine months ended September 30, 2019 and 2018, respectively.

Changes in accumulated other comprehensive income (loss) by component for the three and nine months ended September 30, 2019 and 2018 are shown in the tables below. All amounts are net of tax (in thousands).

Unrealized Holding

Gains on

Held to Maturity

For the three months ended September 30, 2019

    

Available for Sale

    

Securities

    

Total

Beginning balance

$

684

$

(165)

$

519

Current period other comprehensive income

 

585

 

2

 

587

Ending balance

$

1,269

$

(163)

$

1,106

Unrealized Holding

Losses on

Held to Maturity

For the three months ended September 30, 2018

Available for Sale

Securities

Total

Beginning balance

$

(3,342)

$

(177)

$

(3,519)

Current period other comprehensive (loss) income

 

(667)

 

2

 

(665)

Ending balance

$

(4,009)

$

(175)

$

(4,184)

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Unrealized Holding

Gains (Losses) on

Held to Maturity

For the nine months ended September 30, 2019

Available for Sale

Securities

Total

Beginning balance

$

(2,419)

$

(170)

$

(2,589)

Current-period other comprehensive income

 

3,688

 

7

 

3,695

Ending balance

$

1,269

$

(163)

$

1,106

Unrealized Holding

Losses on

Held to Maturity

For the nine months ended September 30, 2018

Available for Sale

Securities

Total

Beginning balance

$

(999)

$

(153)

$

(1,152)

Amounts reclassified from accumulated other comprehensive loss due to the adoption of ASU 2018-02

 

(199)

 

(30)

 

(229)

Subtotal

(1,198)

(183)

(1,381)

Current period other comprehensive (loss) income

 

(2,811)

 

8

 

(2,803)

Ending balance

$

(4,009)

$

(175)

$

(4,184)

4.      LOANS AND ALLOWANCE FOR LOAN LOSSES

The following table summarizes the composition of our loan portfolio as of September 30, 2019 and December 31, 2018 (in thousands):

    

September 30, 2019

    

December 31, 2018

Loans secured by real estate:

 

  

Commercial real estate - owner occupied

$

399,105

$

407,031

Commercial real estate - non-owner occupied

 

542,909

 

540,698

Secured by farmland

 

17,504

 

20,966

Construction and land loans

 

162,458

 

146,654

Residential 1-4 family(1)

 

574,935

 

565,083

Multi- family residential

 

82,626

 

82,516

Home equity lines of credit(1)

 

112,801

 

128,225

Total real estate loans

 

1,892,338

 

1,891,173

Commercial loans

 

220,707

 

255,441

Consumer loans

 

28,075

 

32,347

Subtotal

 

2,141,120

 

2,178,961

Plus (less) deferred costs (fees) on loans

 

265

 

(137)

Loans, net of deferred fees

$

2,141,385

$

2,178,824

(1)Includes $13.8 million and $18.3 million of loans as of September 30, 2019 and December 31, 2018, respectively, acquired in the Greater Atlantic Bank (“GAB”) transaction covered under an FDIC loss-share agreement. The agreement covering single family loans expires in December 2019.

In the first quarter of 2019, $33.9 million of commercial loans were reclassified into loans secured by real estate, upon review and validation of collateral and Call Report codes.

Accounting policy related to the allowance for loan losses is considered a critical policy given the level of estimation, judgment, and uncertainty in the levels of the allowance required to account for the inherent probable losses in the loan portfolio and the material effect such estimation, judgment, and uncertainty can have on the consolidated financial results.

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As part of the GAB acquisition, the Bank and the FDIC entered into loss sharing agreements on approximately $143.4 million (contractual basis) of GAB’s assets. There were two agreements with the FDIC: one for single family loans which is a 10-year agreement expiring in December 2019, and one for non-single family (commercial) assets which was a 5-year agreement which expired in December 2014. The Bank will continue to share in the losses on the loans and foreclosed loan collateral with the FDIC as specified in the loss sharing agreement related to single family loans; we refer to these assets collectively as “covered assets.”  Loans that are not covered in the loss sharing agreement are referred to as “non-covered loans.” Covered loans totaled $13.8 million and $18.3 million at September 30, 2019 and December 31, 2018, respectively.

Accretable discount on the acquired EVBS, GAB, Prince George’s Federal Savings Bank (“PGFSB”), and the HarVest Bank (“HarVest”) loans totaled $12.4 million and $15.1 million at September 30, 2019 and December 31, 2018, respectively. Accretion associated with the acquired loans held for investment of $901 thousand and $1.1 million was recognized in the three months ended September 30, 2019 and 2018, respectively, and $2.7 million and $3.7 million was recognized in the nine months ended September 30, 2019 and 2018, respectively.

For the three acquisitions subsequent to the GAB acquisition noted above, management sold the majority of the purchased credit impaired loans immediately after closing of the acquisition.

Impaired loans for the covered and non-covered portfolios were as follows (in thousands):

Total Loans

    

    

Unpaid 

    

Recorded

Principal

Related 

September 30, 2019

Investment (1)

Balance

Allowance

With no related allowance recorded

 

  

 

  

 

  

Commercial real estate - owner occupied

$

4,419

$

5,938

$

Commercial real estate - non-owner occupied (2)

 

4,676

 

4,951

 

Construction and land development

 

356

 

783

 

Commercial loans

 

5,466

 

8,990

 

Residential 1-4 family (3)

 

1,588

 

4,059

 

Other consumer loans

 

 

20

 

Total

$

16,505

$

24,741

$

With an allowance recorded

 

  

 

  

 

  

Commercial real estate - owner occupied

$

$

$

Commercial real estate - non-owner occupied (2)

 

 

 

Construction and land development

 

 

 

Commercial loans

 

2,699

 

2,726

 

900

Residential 1-4 family (3)

 

294

 

490

 

2

Other consumer loans

 

 

 

Total

$

2,993

$

3,216

$

902

Grand total

$

19,498

$

27,957

$

902

(1)Recorded investment is after cumulative prior charge offs of $1.1 million. These loans also have aggregate SBA guarantees of $3.3 million.
(2)Includes loans secured by farmland and multi-family loans.
(3)Includes home equity lines of credit.

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Table of Contents

Total Loans

    

    

Unpaid 

    

Recorded

Principal

Related 

December 31, 2018

Investment (1)

Balance

Allowance

With no related allowance recorded

 

  

 

  

 

  

Commercial real estate - owner occupied

$

2,795

$

4,777

$

Commercial real estate - non-owner occupied (2)

 

171

 

333

 

Construction and land development

 

 

336

 

Commercial loans

 

3,450

 

6,013

 

Residential 1-4 family (3)

 

1,591

 

5,911

 

Other consumer loans

 

 

 

Total

$

8,007

$

17,370

$

With an allowance recorded

 

  

 

  

 

  

Commercial real estate - owner occupied

$

$

$

Commercial real estate - non-owner occupied (2)

 

 

 

Construction and land development

 

 

 

Commercial loans

 

2,626

 

3,276

 

612

Residential 1-4 family (3)

 

1,429

 

1,476

 

6

Other consumer loans

 

 

 

Total

$

4,055

$

4,752

$

618

Grand total

$

12,062

$

22,122

$

618

(1)Recorded investment is after cumulative prior charge offs of $1.5 million. These loans also have aggregate SBA guarantees of $3.4 million.
(2)Includes loans secured by farmland and multi-family loans.
(3)Includes home equity lines of credit.

The following tables present the average recorded investment and interest income recognized for impaired loans recognized by class of loans for the three and nine months ended September 30, 2019 and 2018 (in thousands):

Total Loans

Average

Interest

    

Recorded

    

Income

Three Months Ended September 30, 2019

Investment

Recognized

With no related allowance recorded

Commercial real estate - owner occupied

$

4,562

 

$

69

Commercial real estate - non-owner occupied (1)

 

4,718

 

 

69

Construction and land development

 

379

 

 

15

Commercial loans

 

5,552

 

 

54

Residential 1-4 family (2)

 

1,645

 

 

41

Other consumer loans

 

 

 

Total

$

16,856

 

$

248

With an allowance recorded

Commercial real estate - owner occupied

$

 

$

Commercial real estate - non-owner occupied (1)

 

 

 

Construction and land development

 

 

 

Commercial loans

 

2,760

 

 

48

Residential 1-4 family (2)

 

345

 

 

(13)

Other consumer loans

 

 

 

Total

$

3,105

 

$

35

Grand total

$

19,961

 

$

283

17

Table of Contents

(1)Includes loans secured by farmland and multi-family loans.
(2)Includes home equity lines of credit.

Total Loans

Average

Interest

    

Recorded

    

Income

Three Months Ended September 30, 2018

Investment

Recognized

With no related allowance recorded

Commercial real estate - owner occupied

$

663

 

$

9

Commercial real estate - non-owner occupied (1)

 

 

 

Construction and land development

 

 

 

Commercial loans

 

4,849

 

 

12

Residential 1-4 family (2)

 

1,821

 

 

22

Other consumer loans

 

19

 

 

Total

$

7,352

 

$

43

With an allowance recorded

Commercial real estate - owner occupied

$

 

$

Commercial real estate - non-owner occupied (1)

 

 

 

Construction and land development

 

 

 

Commercial loans

 

 

 

Residential 1-4 family (2)

 

 

 

Other consumer loans

 

 

 

Total

$

 

$

Grand total

$

7,352

 

$

43

________________________________________

(1)Includes loans secured by farmland and multi-family loans.
(2)Includes home equity lines of credit.

Total Loans

Average

Interest

Recorded

Income

Nine Months Ended September 30, 2019

    

Investment

    

Recognized

With no related allowance recorded

 

  

 

  

Commercial real estate - owner occupied

$

4,612

$

227

Commercial real estate - non-owner occupied (1)

 

4,774

 

206

Construction and land development

 

396

 

43

Commercial loans

 

5,604

 

163

Residential 1-4 family (2)

 

1,665

 

148

Other consumer loans

 

 

Total

$

17,051

$

787

With an allowance recorded

 

  

 

  

Commercial real estate - owner occupied

$

$

Commercial real estate - non-owner occupied (1)

 

 

Construction and land development

 

 

Commercial loans

 

2,799

 

147

Residential 1-4 family (2)

 

345

 

25

Other consumer loans

 

 

Total

$

3,144

$

172

Grand total

$

20,195

$

959

________________________________________

18

Table of Contents

(1)Includes loans secured by farmland and multi-family loans.
(2)Includes home equity lines of credit.

Total Loans

Average

Interest

Recorded

Income

Nine Months Ended September 30, 2018

    

Investment

    

Recognized

With no related allowance recorded

 

  

 

  

Commercial real estate - owner occupied

$

663

$

26

Commercial real estate - non-owner occupied (1)

 

 

Construction and land development

 

 

Commercial loans

 

4,732

 

31

Residential 1-4 family (2)

 

2,005

 

52

Other consumer loans

 

21

 

Total

$

7,421

$

109

With an allowance recorded

 

  

 

  

Commercial real estate - owner occupied

$

$

Commercial real estate - non-owner occupied (1)

 

 

Construction and land development

 

 

Commercial loans

 

 

Residential 1-4 family (2)

 

 

Other consumer loans

 

 

Total

$

$

Grand total

$

7,421

$

109

(1)Includes loans secured by farmland and multi-family loans.
(2)Includes home equity lines of credit.

The following tables present the aging of the recorded investment in past due loans by class of loans as of September 30, 2019 and December 31, 2018 (in thousands):

    

30 - 59

    

60 - 89

    

    

    

    

    

Days

Days

90 Days 

Total

Nonaccrual

Loans Not

Total

September 30, 2019

Past Due

Past Due

or More

Past Due

Loans

Past Due

Loans

Total loans:

 

  

 

  

 

  

 

  

 

  

 

  

 

  

Commercial real estate - owner occupied

$

115

$

$

$

115

$

189

$

398,801

$

399,105

Commercial real estate - non-owner occupied (1)

 

423

 

406

 

 

829

 

 

642,210

 

643,039

Construction and land development

 

110

 

 

 

110

 

 

162,348

 

162,458

Commercial loans

 

2,768

 

14

 

 

2,782

 

3,309

 

214,616

 

220,707

Residential 1-4 family (2)

 

1,721

 

425

 

 

2,146

 

344

 

685,246

 

687,736

Other consumer loans

 

71

 

 

 

71

 

 

28,004

 

28,075

Total

$

5,208

$

845

$

$

6,053

$

3,842

$

2,131,225

$

2,141,120

(1)Includes loans secured by farmland and multi-family loans.
(2)Includes home equity lines of credit.

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Table of Contents

    

30 - 59

    

60 - 89

    

    

    

    

    

Days

Days

90 Days 

Total

Nonaccrual

Loans Not

Total

December 31, 2018

Past Due

Past Due

or More

Past Due

Loans

Past Due

Loans

Total loans:

 

  

 

  

 

  

 

  

 

  

 

  

 

  

Commercial real estate - owner occupied

$

577

$

344

$

$

921

$

1,284

$

404,826

$

407,031

Commercial real estate - non-owner occupied (1)

 

581

 

617

 

 

1,198

 

 

642,982

 

644,180

Construction and land development

 

851

 

 

 

851

 

 

145,803

 

146,654

Commercial loans

 

319

 

168

 

 

487

 

3,391

 

251,563

 

255,441

Residential 1-4 family (2)

 

5,523

 

197

 

 

5,720

 

2,055

 

685,533

 

693,308

Other consumer loans

 

142

 

18

 

 

160

 

 

32,187

 

32,347

Total

$

7,993

$

1,344

$

$

9,337

$

6,730

$

2,162,894

$

2,178,961

(1)Includes loans secured by farmland and multi-family loans.
(2)Includes home equity lines of credit.

Nonaccrual loans include SBA guaranteed amounts totaling $3.3 million and $3.4 million at September 30, 2019 and December 31, 2018, respectively.

Activity in the allowance for non-covered loan and lease losses for the three and nine months ended September 30, 2019 and 2018 is summarized below (in thousands):

    

Commercial

    

Commercial

    

    

    

    

    

    

    

    

    

    

    

 

Real Estate

Real Estate

Construction

Other

 

Owner

Non-owner

and Land

Commercial

1-4 Family

Consumer

 

Three Months Ended September 30, 2019

 

Occupied

 

Occupied (1)

 

Development

 

Loans

 

Residential (2)

 

Loans

 

Unallocated

 

Total

Allowance for loan losses:

 

  

 

  

 

  

 

  

 

  

 

  

 

  

 

  

Beginning balance

$

833

$

1,890

$

802

$

5,834

$

1,127

$

273

$

854

$

11,613

Provision (recovery)

 

(113)

 

(281)

 

16

 

133

 

347

 

11

 

37

 

150

Charge offs

 

 

(1)

 

 

(266)

 

(315)

 

(65)

 

 

(647)

Recoveries

 

(1)

 

4

 

 

65

 

8

 

9

 

 

85

Ending balance

$

719

$

1,612

$

818

$

5,766

$

1,167

$

228

$

891

$

11,201

Three Months Ended September 30, 2018

Allowance for loan losses:

 

  

 

  

 

  

 

  

 

  

 

  

 

  

 

  

Beginning balance

$

750

$

1,293

$

873

$

6,306

$

1,579

$

199

$

$

11,000

Provision (recovery)

 

62

 

(81)

 

247

 

375

 

273

 

174

 

 

1,050

Charge offs

 

 

 

 

(366)

 

(200)

 

(38)

 

 

(604)

Recoveries

 

4

 

 

 

15

 

4

 

(18)

 

 

5

Ending balance

$

816

$

1,212

$

1,120

$

6,330

$

1,656

$

317

$

$

11,451

(1)Includes loans secured by farmland and multi-family loans.
(2)Includes home equity lines of credit.

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Table of Contents

    

Commercial

    

Commercial

    

    

    

    

    

    

    

    

    

    

    

 

Real Estate

Real Estate

Construction

Other

 

Owner

Non-owner

and Land

Commercial

1-4 Family

Consumer

Nine Months Ended September 30, 2019

 

Occupied

 

Occupied (1)

 

Development

 

Loans

 

Residential (2)

 

Loans

 

Unallocated

 

Total

Allowance for loan losses:

 

  

 

  

 

  

 

  

 

  

 

  

 

  

 

  

Beginning balance

$

802

$

1,669

$

821

$

7,097

$

1,106

$

224

$

564

$

12,283

Provision (recovery)

 

497

 

399

 

(3)

 

(1,235)

 

166

 

199

 

327

 

350

Charge offs

 

(782)

 

(463)

 

 

(433)

 

(405)

 

(221)

 

 

(2,304)

Recoveries

 

202

 

7

 

 

337

 

300

 

26

 

 

872

Ending balance

$

719

$

1,612

$

818

$

5,766

$

1,167

$

228

$

891

$

11,201

Nine Months Ended September 30, 2018

 

  

 

  

 

  

 

  

 

  

 

  

 

  

 

  

Allowance for loan losses:

 

  

 

  

 

  

 

  

 

  

 

  

 

  

 

  

Beginning balance

$

690

$

1,321

$

692

$

4,496

$

1,586

$

612

$

$

9,397

Provision (recovery)

 

115

 

(109)

 

428

 

2,915

 

437

 

(86)

 

 

3,700

Charge offs

 

 

 

 

(1,303)

 

(461)

 

(220)

 

 

(1,984)

Recoveries

 

11

 

 

 

222

 

94

 

11

 

 

338

Ending balance

$

816

$

1,212

$

1,120

$

6,330

$

1,656

$

317

$

$

11,451

(1)Includes loans secured by farmland and multi-family loans.
(2)Includes home equity lines of credit.

The following tables present the balance in the allowance for loan losses and the recorded investment in non-covered loans by portfolio segment and based on impairment method as of September 30, 2019 and December 31, 2018 (in thousands):

    

Commercial

    

Commercial

    

    

    

    

    

    

Real Estate

Real Estate

Construction

Other

 

Owner

Non-owner

and Land

Commercial

1-4 Family

Consumer

 

September 30, 2019

Occupied

Occupied (1)

Development

Loans

Residential (2)

Loans

Unallocated

Total

Ending allowance balance attributable to loans:

 

  

 

  

 

  

 

  

 

  

 

  

 

  

 

  

Individually evaluated for impairment

$

$

$

$

900

$

2

$

$

$

902

Collectively evaluated for impairment

 

719

 

1,612

 

818

 

4,866

 

1,165

 

228

 

891

 

10,299

Total ending allowance

$

719

$

1,612

$

818

$

5,766

$

1,167

$

228

$

891

$

11,201

Loans:

 

  

 

  

 

  

 

  

 

  

 

  

 

  

 

  

Individually evaluated for impairment

$

4,419

$

4,676

$

356

$

8,165

$

1,588

$

$

$

19,204

Collectively evaluated for impairment

 

394,686

 

638,363

 

162,102

 

212,542

 

686,148

 

28,075

 

 

2,121,916

Total ending loan balances

$

399,105

$

643,039

$

162,458

$

220,707

$

687,736

$

28,075

$

$

2,141,120

December 31, 2018

 

  

 

  

 

  

 

  

 

  

 

  

 

  

 

  

Ending allowance balance attributable to loans:

 

  

 

  

 

  

 

  

 

  

 

  

 

  

 

  

Individually evaluated for impairment

$

$

$

$

600

$

$

$

$

600

Collectively evaluated for impairment

 

802

 

1,669

 

821

 

6,497

 

1,106

 

224

 

564

 

11,683

Total ending allowance

$

802

$

1,669

$

821

$

7,097

$

1,106

$

224

$

564

$

12,283

Loans:

 

  

 

  

 

  

 

  

 

  

 

  

 

  

 

  

Individually evaluated for impairment

$

2,795

$

171

$

$

3,450

$

1,591

$

$

$

8,007

Collectively evaluated for impairment

 

404,236

 

644,009

 

146,654

 

251,991

 

691,717

 

32,347

 

 

2,170,954

Total ending loan balances

$

407,031

$

644,180

$

146,654

$

255,441

$

693,308

$

32,347

$

$

2,178,961

(1)Includes loans secured by farmland and multi-family loans.
(2)Includes home equity lines of credit.

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Table of Contents

Troubled Debt Restructurings

A modification is classified as a troubled debt restructuring (“TDR”) if both of the following exist: (1) the borrower is experiencing financial difficulty and (2) the Bank has granted a concession to the borrower. The Bank determines that a borrower may be experiencing financial difficulty if the borrower is currently delinquent on any of its debt, or if the Bank is concerned that the borrower may not be able to perform in accordance with the current terms of the loan agreement in the foreseeable future. Many aspects of the borrower’s financial situation are assessed when determining whether they are experiencing financial difficulty, particularly as it relates to commercial borrowers due to the complex nature of the loan structure, business/industry risk and borrower/guarantor structures. Concessions may include the reduction of an interest rate at a rate lower than current market rates for a new loan with similar risk, extension of the maturity date, reduction of accrued interest, or principal forgiveness. When evaluating whether a concession has been granted, the Bank also considers whether the borrower has provided additional collateral or guarantors and whether such additions adequately compensate the Bank for the restructured terms, or if the revised terms are consistent with those currently being offered to new loan customers. The assessments of whether a borrower is experiencing (or is likely to experience) financial difficulty and whether a concession has been granted is subjective in nature and management’s judgment is required when determining whether a modification is a TDR.

Although each occurrence is unique to the borrower and is evaluated separately, for all portfolio segments, TDRs are typically modified through reduction in interest rates, reductions in payments, changing the payment terms from principal and interest to interest only, and/or extensions in term maturity.

As of September 30, 2019, we had two loans in TDRs. One loan was modified in TDRs during the year ending December 31, 2018. One TDR which had been modified in 2013 defaulted in 2015. This loan, in the amount of $651 thousand, was current as of September 30, 2019.

Credit Quality Indicators

Through its system of internal controls, Southern National evaluates and segments loan portfolio credit quality on a quarterly basis using regulatory definitions for Special Mention, Substandard and Doubtful. Special Mention loans are considered to be criticized. Substandard and Doubtful loans are considered to be classified.

Special Mention loans are loans that have a potential weakness that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the loan or of the institution’s credit position.

Substandard loans may be inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged if any. Loans so classified have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. They are characterized by the distinct possibility that the institution will sustain some loss if the deficiencies are not corrected.

Doubtful loans have all the weaknesses inherent in those classified as Substandard, with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently existing facts, conditions, and values, highly questionable and improbable. Southern National had no loans classified Doubtful at September 30, 2019 or December 31, 2018.

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Table of Contents

As of  September 30, 2019 and December 31, 2018, and based on the most recent analysis performed, the risk category of loans by class of loans is as follows (in thousands):

Total Loans

    

Special

    

    

    

 

September 30, 2019

Mention

Substandard (3)

Pass

Total

Commercial real estate - owner occupied

$

3,883

$

4,211

$

391,011

$

399,105

Commercial real estate - non-owner occupied (1)

 

4,255

 

181

 

638,603

 

643,039

Construction and land development

 

713

 

 

161,745

 

162,458

Commercial loans

 

3,441

 

5,007

 

212,259

 

220,707

Residential 1-4 family (2)

 

674

 

1,365

 

685,697

 

687,736

Other consumer loans

 

127

 

 

27,948

 

28,075

Total

$

13,093

$

10,764

$

2,117,263

$

2,141,120

Total Loans

    

Special

    

    

    

 

December 31, 2018

Mention

Substandard (3)

Pass

Total

Commercial real estate - owner occupied

$

6,611

$

2,810

$

397,610

$

407,031

Commercial real estate - non-owner occupied (1)

 

4,382

 

189

 

639,609

 

644,180

Construction and land development

 

 

 

146,654

 

146,654

Commercial loans

 

2,373

 

2,689

 

250,379

 

255,441

Residential 1-4 family (2)

 

395

 

1,982

 

690,931

 

693,308

Other consumer loans

 

142

 

 

32,205

 

32,347

Total

$

13,903

$

7,670

$

2,157,388

$

2,178,961

(1)Includes loans secured by farmland and multi-family residential loans.
(2)Includes home equity lines of credit.
(3)Includes SBA guarantees of $3.3 million and $3.4 million as of September 30, 2019 and December 31, 2018, respectively.

The amount of foreclosed residential real estate property held at September 30, 2019 and December 31, 2018 was $282 thousand. The recorded investment in consumer mortgage loans collateralized by residential real estate property that are in the process of foreclosure was $282 thousand and $1.5 million at September 30, 2019 and December 31, 2018, respectively.

5.      LEASES

The Company leases certain premises and equipment under operating leases. At September 30, 2019, the Company had operating lease liabilities totaling $8.8 million and right-of-use assets totaling $8.4 million related to these leases. Operating lease liabilities and right-of-use assets are reflected in our consolidated balance sheets. We do not currently have any financing leases. For the three and nine months ended September 30, 2019, our net operating lease cost was $625 thousand and $1.9 million, respectively, and was reflected in occupancy expenses on our income statement.

The following table presents supplemental cash flow and other information related to our operating leases:

For the Nine Months Ended

(in thousands except for percent and period data)

September 30, 2019

Supplemental cash flow information:

Cash paid for amounts included in the measurement of lease liabilities

$

3,682

Right-of-use assets obtained in exchange for new operating lease liabilities

$

Other information:

Weighted-average remaining lease term - operating leases, in years

5.9

Weighted-average discount rate - operating leases

 

2.8

%

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The following table summarizes the maturity of remaining lease liabilities:

As of

(dollars in thousands)

September 30, 2019

Lease payments due:

Less than one year

$

651

One to three years

3,858

Three to five years

2,822

More than five years

 

2,331

Total lease payments

9,662

Less: lease expense

(832)

Lease liabilities

$

8,830

As of September 30, 2019, the Company does not have or expect any operating leases that have not yet commenced or will create additional lease liabilities and right-of-use assets for the Company.

6.     FINANCIAL INSTRUMENTS WITH OFF-BALANCE SHEET RISK

Southern National is a party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit, standby letters of credit and guarantees of credit card accounts. These instruments involve elements of credit and funding risk in excess of the amount recognized in the consolidated balance sheet. Letters of credit are written conditional commitments issued by Southern National to guarantee the performance of a customer to a third party. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loans to customers. We had letters of credit outstanding totaling $17.6 million and $19.2 million as of September 30, 2019 and December 31, 2018, respectively.

Our exposure to credit loss in the event of nonperformance by the other party to the financial instruments for commitments to extend credit and letters of credit is based on the contractual amount of these instruments. We use the same credit policies in making commitments and conditional obligations as we do for on-balance sheet instruments. Unless noted otherwise, we do not require collateral or other security to support financial instruments with credit risk.

Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments are made predominately for adjustable rate loans, and generally have fixed expiration dates of up to three months or other termination clauses and usually require payment of a fee. Since many of the commitments may expire without being completely drawn upon, the total commitment amounts do not necessarily represent future cash requirements. We evaluate each customer’s creditworthiness on a case-by-case basis.

At September 30, 2019 and December 31, 2018, we had unfunded lines of credit and undisbursed construction loan funds totaling $343.1 million and $339.2 million, respectively. Virtually all of our unfunded lines of credit and undisbursed construction loan funds are variable rate.

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7.      EARNINGS PER SHARE

The following is a reconciliation of the denominators of the basic and diluted earnings per share (“EPS”) computations (amounts in thousands, except per share data):

    

    

Weighted

    

 

Average

 

Income 

Shares

Per Share

(Numerator)

(Denominator)

Amount

For the three months ended September 30, 2019

Basic EPS

$

8,864

 

24,072

$

0.37

Effect of dilutive stock options

 

 

302

 

(0.01)

Diluted EPS

$

8,864

 

24,374

$

0.36

For the three months ended September 30, 2018

Basic EPS

$

8,861

 

24,049

$

0.37

Effect of dilutive stock options

 

 

271

 

(0.01)

Diluted EPS

$

8,861

 

24,320

$

0.36

For the nine months ended September 30, 2019

Basic EPS

$

24,203

 

24,036

$

1.01

Effect of dilutive stock options

 

 

299

 

(0.02)

Diluted EPS

$

24,203

 

24,335

$

0.99

For the nine months ended September 30, 2018

 

  

 

  

 

  

Basic EPS

$

25,987

 

24,017

$

1.08

Effect of dilutive stock options

 

 

256

 

(0.01)

Diluted EPS

$

25,987

 

24,273

$

1.07

The Company did not have any anti-dilutive options in 2019 and 2018.

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8.      FAIR VALUE

ASC 820 establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair value:

Level 1: Quoted prices (unadjusted) for 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

The following is a description of the valuation methodologies used for instruments measured at fair value, as well as the general classification of such instruments pursuant to the valuation hierarchy:

Assets Measured on a Recurring Basis:

Investment Securities Available for Sale

Where quoted prices are available in an active market, investment securities are classified within Level 1 of the valuation hierarchy. Level 1 investment securities include highly liquid government bonds and mortgage products. If quoted market prices are not available, then fair values are estimated by using pricing models, quoted prices of investment securities with similar characteristics or discounted cash flow. Level 2 investment securities include U.S. agency securities, mortgage-backed securities, obligations of states and political subdivisions and certain corporate, asset-backed and other securities. In certain cases where there is limited activity or less transparency around inputs to the valuation, investment securities are classified within Level 3 of the valuation hierarchy. Currently, a majority of Southern National’s available for sale debt investment securities are considered to be Level 2 investment securities, except for a few corporate securities that are classified as Level 3 investment securities.

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Assets measured at fair value on a recurring basis are summarized below:

Fair Value Measurements Using

Significant

 

Quoted Prices in

Other

Significant

Active Markets for

Observable

Unobservable

Total at

Identical Assets

Inputs

Inputs

(dollars in thousands)

    

September 30, 2019

    

(Level 1)

    

(Level 2)

    

(Level 3)

Available for sale securities

 

  

 

  

 

  

 

  

Residential government-sponsored mortgage-backed securities

$

41,675

$

$

41,675

$

Obligations of states and political subdivisions

 

17,688

 

 

17,688

 

Corporate securities

 

2,017

 

 

1,017

 

1,000

Trust preferred securities

 

2,568

 

 

2,568

 

Residential government-sponsored collateralized mortgage obligations

 

39,017

 

 

39,017

 

Government-sponsored agency securities

 

16,884

 

 

16,884

 

Agency commercial mortgage-backed securities

 

27,941

 

 

27,941

 

SBA pool securities

 

15,554

 

 

15,554

 

Total

$

163,344

$

$

162,344

$

1,000

Fair Value Measurements Using

Significant

 

Quoted Prices in

Other

Significant

Active Markets for

Observable

Unobservable

Total at

Identical Assets

Inputs

Inputs

(dollars in thousands)

    

December 31, 2018

    

(Level 1)

    

(Level 2)

    

(Level 3)

Available for sale securities

 

  

 

  

 

  

 

  

Residential government-sponsored mortgage-backed securities

$

27,302

$

$

27,302

$

Obligations of states and political subdivisions

18,055

18,055

Corporate securities

2,008

1,008

1,000

Trust preferred securities

 

2,641

 

 

2,641

 

Residential government-sponsored collateralized mortgage obligations

43,057

43,057

Government-sponsored agency securities

3,125

3,125

Agency commercial mortgage-backed securities

27,304

27,304

SBA pool securities

19,885

19,885

Total

$

143,377

$

$

142,377

$

1,000

Assets and Liabilities Measured on a Non-recurring Basis:

Impaired Loans

Generally, we measure the impairment for impaired loans considering the fair value of the loan’s collateral (if the loan is collateral dependent). Fair value of the loan’s collateral is determined by an independent appraisal or evaluation less estimated costs related to selling the collateral. In some cases appraised value is net of costs to sell. Estimated selling costs range from 6% to 10% of collateral valuation at September 30, 2019 and December 31, 2018. Fair value is classified as Level 3 in the fair value hierarchy. Loans identified as impaired totaled $19.5 million (including SBA guarantees of $3.3 million) as of September 30, 2019 with $902 thousand allocation made to the allowance for loan losses compared to a carrying amount of $12.1 million (including SBA guarantees of $3.4 million) with $618 thousand allocation made to the allowance for loan losses at December 31, 2018.

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Assets Held for Sale

In connection with the merger with EVBS, SNBV acquired four properties that were either former EVBS administrative locations or previously anticipated to be future EVBS administrative locations. As of September 30, 2019, three of these properties have been sold. Assets held for sale are measured at fair value less cost to sell, based on appraisals conducted by an independent, licensed appraiser outside of the Company using observable market data. If the fair value is significantly adjusted due to differences in the comparable properties, or is discounted by the Company because of marketability, then the fair value is considered Level 3. Assets held for sale are measured at fair value on a non-recurring basis and are included in other assets in the consolidated balance sheets. Subsequent fair value adjustments are recorded in the period incurred and included in other noninterest expense on the consolidated statements of comprehensive income.

Other Real Estate Owned (“OREO”)

OREO is evaluated at the time of acquisition and recorded at fair value as determined by independent appraisal or evaluation less cost to sell. In some cases appraised value is net of costs to sell. Selling costs have been in the range from 5.0% to 7.6% of collateral valuation at September 30, 2019 and December 31, 2018. Fair value is classified as Level 3 in the fair value hierarchy. OREO is further evaluated quarterly for any additional impairment. At September 30, 2019 and December 31, 2018, the total amount of OREO was $5.8 million and $5.1 million, respectively.

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

Fair Value Measurements Using

Significant

 

Quoted Prices in

Other

Significant

Active Markets for

Observable

Unobservable

Total at

Identical Assets

Inputs

Inputs

(dollars in thousands)

    

September 30, 2019

    

(Level 1)

    

(Level 2)

    

(Level 3)

Impaired loans:

Commercial real estate - owner occupied

$

4,419

$

$

 

$

4,419

Commercial real estate - non-owner occupied (1)

 

4,676

 

 

 

4,676

Construction and land development

 

356

 

 

 

356

Commercial loans

 

8,165

 

 

 

8,165

Residential 1-4 family (2)

 

1,882

 

 

 

1,882

Assets held for sale

600

600

Other real estate owned:

 

 

 

  

 

Commercial real estate - owner occupied (1)

 

1,721

 

 

 

1,721

Construction and land development

 

2,888

 

 

 

2,888

Residential 1-4 family (2)

 

1,226

 

 

 

1,226

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Fair Value Measurements Using

Significant

Quoted Prices in

Other

Significant

Active Markets for

Observable

Unobservable

Total at

Identical Assets

Inputs

Inputs

(dollars in thousands)

    

December 31, 2018

    

(Level 1)

    

(Level 2)

    

(Level 3)

Impaired loans:

 

  

 

  

 

  

 

Commercial real estate - owner occupied

$

2,795

$

$

$

2,795

Commercial real estate - non-owner occupied (1)

171

171

Commercial loans

 

6,076

 

 

6,076

Residential 1-4 family (2)

 

3,020

 

 

3,020

Assets held for sale

600

600

Other real estate owned:

 

  

 

  

 

  

  

Commercial real estate - owner occupied (1)

 

908

 

 

908

Construction and land development

 

2,938

 

 

2,938

Residential 1-4 family (2)

 

1,231

 

 

1,231

(1)Includes loans secured by farmland and multi-family residential loans.
(2)Includes home equity lines of credit.

Fair Value of Financial Instruments

The carrying amount, estimated fair values and fair value hierarchy levels (previously defined) of financial instruments were as follows (in thousands) for the periods indicated:

September 30, 2019

December 31, 2018

    

Fair Value

    

Carrying

    

Fair 

    

Carrying

    

Fair 

Hierarchy Level

Amount

Value

Amount

Value

Financial assets:

 

  

 

  

 

  

 

  

 

  

Cash and cash equivalents

 

Level 1

$

48,572

$

48,572

$

28,611

$

28,611

Securities available for sale

 

Level 2 & Level 3

 

163,344

 

163,344

 

143,377

 

143,377

Securities held to maturity

 

Level 2

 

78,790

 

79,128

 

92,462

 

89,109

Stock in Federal Reserve Bank and Federal Home Loan Bank

 

Level 2

 

14,602

 

14,602

 

19,522

 

19,522

Equity investment in mortgage affiliate

 

Level 3

 

5,003

 

5,003

 

3,829

 

3,829

Preferred investment in mortgage affiliate

 

Level 3

 

3,305

 

3,305

 

3,305

 

3,305

Net loans

 

Level 3

 

2,130,184

 

2,140,214

 

2,166,541

 

2,134,021

Accrued interest receivable

 

Level 2 & Level 3

 

8,164

 

8,164

 

8,745

 

8,745

Financial liabilities:

 

  

 

 

 

 

Demand deposits and NOW accounts

 

Level 2

$

712,040

$

712,040

$

665,640

$

665,640

Money market and savings accounts

 

Level 2

 

604,856

 

604,856

 

506,519

 

506,519

Time deposits

 

Level 3

 

861,842

 

865,240

 

925,441

 

919,175

Securities sold under agreements to repurchase

 

Level 1

 

14,355

 

14,355

 

18,721

 

18,721

FHLB short term advances

 

Level 1

 

45,640

 

45,640

 

163,340

 

163,340

Junior subordinated debt

 

Level 2

 

9,620

 

9,752

 

9,584

 

12,065

Senior subordinated notes

 

Level 2

 

47,061

 

47,765

 

47,089

 

57,173

Accrued interest payable

 

Level 1 & Level 3

 

5,126

 

5,126

 

3,985

 

3,985

Carrying amount is the estimated fair value for cash and cash equivalents (including federal funds sold), equity investments in our mortgage affiliate, preferred investments in our mortgage affiliate, accrued interest receivable and payable, demand deposits, savings accounts, money market accounts, securities sold under agreements to repurchase, and

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short-term debt (FHLB short-term advances and securities sold under agreements to repurchase). Fair value of long-term debt is based on current rates for similar financing. Carrying amount of Federal Reserve Bank and FHLB stock is a reasonable estimate of fair value as these securities are not readily marketable and are based on the ultimate recoverability of the par value. The fair value of off-balance-sheet items is not considered material. Fair value of net loans, certificates of deposits, junior subordinated debt, and senior subordinated notes are measured using the exit-price notion in accordance with the adoption of ASU 2016-01 in 2018.

9.      SECURITIES SOLD UNDER AGREEMENTS TO REPURCHASE AND OTHER SHORT-TERM BORROWINGS

Other short-term borrowings can consist of FHLB of Atlanta overnight advances, other FHLB advances maturing within one year, federal funds purchased and securities sold under agreements to repurchase (“repo”) that mature within one year, which are secured transactions with customers. The balance in repo accounts at September 30, 2019 and December 31, 2018 was $14.4 million and $18.7 million, respectively.

10.     JUNIOR SUBORDINATED DEBT AND SENIOR SUBORDINATED NOTES

In connection with our merger with EVBS, the Company assumed $10.3 million (fair value adjustment of $801 thousand) of trust preferred securities that were issued on September 17, 2003 and placed through the Trust in a pooled underwriting totaling approximately $650 million. The trust issuer invested the total proceeds from the sale of the trust preferred securities in Floating Rate Junior Subordinated Deferrable Interest Debentures (“Junior Subordinated Debt”) issued by EVBS. The trust preferred securities pay cumulative cash distributions quarterly at a variable rate per annum, reset quarterly, equal to the three-month LIBOR plus 2.95%. As of September 30, 2019 and December 31, 2018, the interest rate was 5.36% and 5.73%, respectively. The dividends paid to holders of the trust preferred securities, which are recorded as interest expense, are deductible for income tax purposes.

The trust preferred securities may be included in Tier 1 capital for regulatory capital adequacy determination purposes up to 25% of Tier 1 capital after its inclusion. At September 30, 2019, all of the trust preferred securities qualified as Tier 1 capital.

On January 20, 2017, Southern National completed the sale of $27.0 million of its fixed-to-floating rate Subordinated Notes due 2027 (the “SNBV Senior Subordinated Notes”). The SNBV Senior Subordinated Notes will initially bear interest at 5.875% per annum until January 31, 2022; thereafter, the SNBV Senior Subordinated Notes will be payable at an annual floating rate equal to three-month LIBOR plus a spread of 3.95% until maturity or early redemption. At September 30, 2019, all of the SNBV Senior Subordinated Notes qualified as Tier 2 capital. At September 30, 2019, the remaining unamortized debt issuance costs related to the SNBV Senior Subordinated Notes totaled $690 thousand.

Also in connection with our merger with EVBS, the Company assumed the Senior Subordinated Note Purchase Agreement previously entered into by EVBS on April 22, 2015 with certain institutional accredited investors pursuant to which EVBS sold $20.0 million (fair value adjustment of $1.9 million) in aggregate principal amount of its 6.50% Fixed-to-Floating Rate Subordinated Notes due 2025 (the “EVBS Senior Subordinated Notes”) to the investors at a price equal to 100% of the aggregate principal amount of the EVBS Senior Subordinated Notes. At September 30, 2019 all of the EVBS Senior Subordinated Notes qualified as Tier 2 capital.

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

Management’s discussion and analysis is presented to aid the reader in understanding and evaluating the financial condition and results of operations of SNBV. This discussion and analysis should be read with the consolidated financial statements, the footnotes thereto, and the other financial data included in this report and in our annual report on Form 10-K for the year ended December 31, 2018. Results of operations for the three and nine months ended September 30, 2019 are not necessarily indicative of results that may be attained for any other period.

FORWARD-LOOKING STATEMENTS

Statements and financial discussion and analysis contained in this Quarterly Report on Form 10-Q that are not statements of historical fact constitute forward-looking statements made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Forward-looking statements are based on our beliefs, assumptions and expectations of our future financial and operating performance and growth plans, taking into account the information currently available to us. These statements are not statements of historical fact. The words “believe,” “may,”  “forecast,” “should,” “anticipate,” “estimate,” “expect,” “intend,” “continue,” “would,” “could,” “hope,” “might,” “assume,” “objective,” “seek,” “plan,” “strive” or similar words, or the negatives of these words, identify forward-looking statements.

Forward-looking statements involve risks and uncertainties that may cause our actual results to differ materially from the expectations of future results we express or imply in any forward-looking statements. In addition to the Risk Factor contained in this Quarterly Report on Form 10-Q, as well as the Risk Factors previously disclosed in our Annual Report on Form 10-K for the year ended December 31, 2018, factors that could contribute to those differences include, but are not limited to:

the effects of future economic, business and market conditions and disruptions in the credit and financial markets, domestic and foreign;
changes in the local economies in our market areas which adversely affect our customers and their ability to transact profitable business with us, including the ability of our borrowers to repay their loans according to their terms or a change in the value of the related collateral;
changes in the availability of funds resulting in increased costs or reduced liquidity, as well as the adequacy of our cash flow from operations and borrowings to meet our short-term liquidity needs;
a deterioration or downgrade in the credit quality and credit agency ratings of the investment securities in our investment securities portfolio;
impairment concerns and risks related to our investment securities portfolio of collateralized mortgage obligations, agency mortgage-backed securities, obligations of states and political subdivisions and pooled trust preferred securities;
the incurrence and possible impairment of goodwill associated with current or future acquisitions and possible adverse short-term effects on our results of operations;
increased credit risk in our assets and increased operating risk caused by a material change in commercial, consumer and/or real estate loans as a percentage of our total loan portfolio;
the concentration of our loan portfolio in loans collateralized by real estate;
our level of construction and land development and commercial real estate loans;
failure to prevent a breach to our Internet-based system and online commerce security;
changes in the levels of loan prepayments and the resulting effects on the value of our loan portfolio;
the failure of assumptions and estimates underlying the establishment of and provisions made to the allowance for loan losses;
our ability to expand and grow our business and operations, including the establishment of additional branches and acquisition of additional branches and banks, and our ability to realize the cost savings and revenue enhancements we expect from such activities;
government intervention in the U.S. financial system, including the effects of legislative, tax, accounting and regulatory actions and reforms, including the Dodd-Frank Wall Street Reform and Consumer Protection Act

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(the “Dodd-Frank Act”), the Jumpstart Our Business Startups Act, the Consumer Financial Protection Bureau, the capital ratios of Basel III as adopted by the federal banking authorities and the Tax Cuts and Jobs Act;
uncertainity related to the calculation of LIBOR;
increased competition for deposits and loans adversely affecting rates and terms;
the continued service of key management personnel;
the potential payment of interest on demand deposit accounts to effectively compete for customers;
potential environmental liability risk associated with properties that we assume upon foreclosure;
increased asset levels and changes in the composition of assets and the resulting impact on our capital levels and regulatory capital ratios;
risks of current or future mergers and acquisitions, including the related time and cost of implementing transactions and the potential failure to achieve expected gains, revenue growth or expense savings;
increases in regulatory capital requirements for banking organizations generally, which may adversely affect our ability to expand our business or could cause us to shrink our business;
acts of God or of war or other conflicts, acts of terrorism or other catastrophic events that may affect general economic conditions;
changes in accounting policies, rules and practices and applications or determinations made thereunder;
fraudulent and negligent acts by loan applicants, mortgage brokers and our employees;
failure to maintain effective internal controls and procedures;
the risk that our deferred tax assets could be reduced if future taxable income is less than currently estimated, if corporate tax rates in the future are less than current rates, or if sales of our capital stock trigger limitations on the amount of net operating loss carryforwards that we may utilize for income tax purposes;
our ability to attract and retain qualified employees; and
other factors and risks described under “Risk Factors” herein and in any of our subsequent reports that we file with the Securities and Exchange Commission (the “Commission” or “SEC”) under the Exchange Act.

Forward-looking statements are not guarantees of performance or results and should not be relied upon as representing management’s views as of any subsequent date. A forward-looking statement may include a statement of the assumptions or bases underlying the forward-looking statement. We believe we have chosen these assumptions or bases in good faith and that they are reasonable. We caution you, however, that assumptions or bases almost always vary from actual results, and the differences between assumptions or bases and actual results can be material. When considering forward-looking statements, you should refer to the risk factors and other cautionary statements in this Quarterly Report on Form 10-Q and in our periodic and current reports filed with the SEC for specific factors that could cause our actual results to be different from those expressed or implied by our forward-looking statements. These statements speak only as of the date of this Quarterly Report on Form 10-Q (or an earlier date to the extent applicable). Except as required by applicable law, we undertake no obligation to update publicly these statements in light of new information or future events.

OVERVIEW

SNBV is a corporation that was formed on July 28, 2004 under the laws of the Commonwealth of Virginia and is the holding company for Sonabank a Virginia state-chartered bank which commenced operations on April 14, 2005. As of the close of business on June 23, 2017, SNBV completed its merger with EVBS and the merger of EVBS’s wholly-owned subsidiary, EVB, with and into SNBV’s wholly-owned subsidiary, Sonabank. Sonabank provides a range of financial services to individuals and small and medium sized businesses. At September 30, 2019, Sonabank had thirty-eight full-service retail branches in Virginia, located in the counties of Chesterfield (2), Essex (2), Fairfax (Reston, McLean and Fairfax), Gloucester (2), Hanover (3), King William, Lancaster, Middlesex (3), New Kent, Northumberland (3), Southampton, Surry, Sussex, and in Charlottesville, Clifton Forge, Colonial Heights, Front Royal, Hampton, Haymarket, Leesburg, Middleburg, New Market, Newport News, Richmond, South Riding, Warrenton, and Williamsburg, and seven full-service retail branches in Maryland, in Rockville, Shady Grove, Bethesda, Upper Marlboro, Brandywine, Owings and Huntingtown.

We have administrative offices in Warrenton and Glen Allen, Virginia, and executive offices in Georgetown, Washington, D.C. and Glen Allen, Virginia where senior management is located.

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RESULTS OF OPERATIONS

Net Income

Three-Month Comparison. Net income for the three months ended September 30, 2019 and 2018 was $8.9 million, or $0.37 basic and $0.36 diluted earnings per share.  

Net income during the three months ended September 30, 2019 compared to the three months ended September 30, 2018 remained flat. Net income was positively impacted by lower provision for loan losses and lower employee compensation and benefits expenses in the current year, offset by a decrease in net interest income as a result of a rising interest rate environment during 2018 and higher income tax expenses in the current year.

During the three months ended September 30, 2018, net income was impacted positively by the $1.1 million of accretion income from the acquired loan discounts, $667 thousand of other noninterest income from recoveries of legacy investment securities and loans charged off by EVBS before it merged into Southern National in June of 2017.

Nine-Month Comparison. Net income for the nine months ended September 30, 2019 was $24.2 million, or $1.01 basic and $0.99 diluted earnings per share, compared to net income of $26.0 million, or $1.08 basic and $1.07 diluted earnings per share, for the nine months ended September 30, 2018.  

The decrease in the net income during the nine months ended September 30, 2019 compared to the nine months ended September 30, 2018 was primarily driven by a nonrecurring other loss of $3.2 million and related legal expense of $502 thousand. The decrease was partially offset by an income tax benefit of $1.2 million in the second quarter of 2019 due to the formal assessment and rebooking of the $5.5 million net operating loss carryforward that was written off in the fourth quarter of 2018.

During the nine months ended September 30, 2018, the net income was impacted positively by the $3.7 million of accretion income from the acquired loan discounts, $2.4 million of other noninterest income from recoveries of legacy investment securities and loans charged off by EVBS before it merged into Southern National in June of 2017, $732 thousand of interest income recognized on the payout of a $9.9 million nonaccrual loan, and the reduced federal income tax rate of 21% from 34% due to the enactment of the Tax Cuts and Jobs Act of 2017, which became effective on January 1, 2018.

Net Interest Income

Our operating results depend primarily on our net interest income, which is the difference between interest and dividend income on interest-earning assets such as loans and investments, and interest expense on interest-bearing liabilities such as deposits and borrowings.

Three-Month Comparison. Net interest income was $21.0 million for the three months ended September 30, 2019 compared to $22.6 million for the three months ended September 30, 2018, which was a direct result of the rising costs of funds including deposits and borrowings. Southern National’s net interest margin for the three months ended September 30, 2019 was 3.37% compared to 3.63% for the three months ended September 30, 2018. Total income on interest-earning assets was $30.5 million and $30.1 million for the three months ended September 30, 2019 and 2018, respectively. The yield on average interest-earning assets was 4.89% and 4.83% for the third quarter of 2019 and 2018, respectively. Interest and fees on loans totaled $28.3 million and $28.0 million for the third quarter of 2019 and 2018, respectively. The accretion of the discount on loans acquired in the acquisitions of EVBS, Greater Atlantic Bank, HarVest and Prince Georges Federal Savings Bank contributed $901 thousand to net interest income during the three months ended September 30, 2019 compared to $1.1 million during the three months ended September 30, 2018. The decrease in accretion was due to the slowdown in the volume of acquired loan prepayments and payoffs. Average loans during the third quarter of 2019 were $2.17 billion compared to $2.16 billion during the third quarter of 2018.

Total interest expense was $9.5 million and $7.5 million for the three months ended September 30, 2019 and 2018, respectively. Interest on deposits was $8.0 million and $5.0 million for the three months ended September 30, 2019 and

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2018, respectively. Total average interest-bearing deposits for the third quarter of 2019 and 2018 were $1.83 billion and $1.67 billion, respectively. The yield on total average interest-bearing deposits was 1.73% and 1.19% for the quarter ended September 30, 2019 and 2018, respectively. Interest expense on total average borrowings, which include securities sold under agreements to repurchase, FHLB advances, junior subordinated debt, and senior subordinated notes, was $1.5 million and $2.5 million for the three months ended September 30, 2019 and 2018, respectively. Total average borrowings were $173.9 million and $355.1 million for the three months ended September 30, 2019 and 2018, respectively.

The following table details average balances of interest-earning assets and interest-bearing liabilities, the amount of interest earned/paid on such assets and liabilities, and the yield/rate for the periods indicated:

Average Balance Sheets and Net Interest

Analysis For the Three Months Ended

September 30, 2019

September 30, 2018

Interest

Interest

Average

Income/

Yield/

Average

Income/

Yield/

    

Balance

    

Expense

    

Rate

    

Balance

    

Expense

    

Rate

    

(Dollar amounts in thousands)

Assets

Interest-earning assets:

  

  

  

  

  

  

Loans, net of deferred fees (1) (2)

$

2,165,717

$

28,340

5.19

%  

$

2,164,366

$

27,952

5.12

%  

Investment securities

242,916

1,520

2.48

%  

243,844

1,596

2.60

%  

Other earning assets

65,706

614

3.71

%  

58,618

506

3.42

%  

Total earning assets

2,474,340

30,474

4.89

%  

2,466,828

30,054

4.83

%  

Allowance for loan losses

(11,570)

(11,530)

  

Total non-earning assets

266,120

262,665

  

Total assets

$

2,728,890

$

2,717,963

  

Liabilities and stockholders' equity

  

  

  

  

  

  

Interest-bearing liabilities:

  

  

  

  

  

  

NOW and other demand accounts

$

362,564

$

783

0.86

%  

$

318,307

$

348

0.43

%  

Money market accounts

456,492

2,080

1.81

%  

312,296

685

0.87

%  

Savings accounts

144,266

115

0.32

%  

159,323

129

0.32

%  

Time deposits

867,533

5,023

2.30

%  

877,697

3,831

1.73

%  

Total interest-bearing deposits

1,830,855

8,001

1.73

%  

1,667,623

4,993

1.19

%  

Borrowings

173,866

1,458

3.33

%  

355,078

2,473

2.76

%  

Total interest-bearing liabilities

2,004,722

9,459

1.87

%  

2,022,701

7,466

1.46

%  

Noninterest-bearing liabilities:

  

  

  

  

  

  

Demand deposits

334,435

337,323

  

  

Other liabilities

22,385

18,252

  

  

Total liabilities

2,361,541

2,378,276

  

  

Stockholders' equity

367,349

339,687

  

  

Total liabilities and stockholders' equity

$

2,728,890

$

2,717,963

  

  

Net interest income

$

21,015

  

$

22,588

  

Interest rate spread

3.01

%  

  

  

3.37

%  

Net interest margin

3.37

%  

  

  

3.63

%  

(1)Includes loan fees in both interest income and the calculation of the yield on loans.
(2)Calculations include non-accruing loans in average loan amounts outstanding.

Nine-Month Comparison. Net interest income was $62.9 million for the nine months ended September 30, 2019 compared to $68.3 million for the nine months ended September 30, 2018, which was a direct result of the rising costs of funds including deposits and borrowings. Southern National’s net interest margin for the nine months ended September 30, 2019 was 3.40% compared to 3.75% for the nine months ended September 30, 2018. Total income on interest-earning assets was $91.2 million and $87.8 million for the nine months ended September 30, 2019 and 2018, respectively. The yield on average interest-earning assets was 4.93% and 4.81% for the nine months ended September 30, 2019 and 2018, respectively. Interest and fees on loans totaled $84.7 million and $81.6 million for the nine months ended September 30, 2019 and 2018, respectively. The accretion of the discount on loans acquired in the acquisitions of EVBS, Greater Atlantic Bank, HarVest and Prince Georges Federal Savings Bank contributed $2.7 million to net interest income during the nine

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months ended September 30, 2019 compared to $3.7 million during the nine months ended September 30, 2018. The decrease in accretion was due to the slowdown in acquired loan prepayments and payoffs. Average loans during the nine months ended September 30, 2019 were $2.16 billion compared to $2.13 billion during the nine months ended September 30, 2018.

Total interest expense was $28.2 million and $19.5 million for the nine months ended September 30, 2019 and 2018, respectively. Interest on deposits was $23.1 million and $12.1 million for the nine months ended September 30, 2019 and 2018, respectively. Total average interest-bearing deposits for the nine months ended September 30, 2019 and 2018 were $1.81 billion and $1.59 billion, respectively. The yield on total average interest-bearing deposits was 1.71% and 1.02% for the nine months ended September 30, 2019 and 2018, respectively. Interest expense on total average borrowings, which include securities sold under agreements to repurchase, FHLB advances, junior subordinated debt, and senior subordinated notes, was $5.1 million and $7.4 million for the nine months ended September 30, 2019 and 2018, respectively. Total average borrowings were $203.5 million and $410.7 million for the nine months ended September 30, 2019 and 2018, respectively.

The following table details average balances of interest-earning assets and interest-bearing liabilities, the amount of interest earned/paid on such assets and liabilities, and the yield/rate for the periods indicated:

Average Balance Sheets and Net Interest

Analysis For the Nine Months Ended

September 30, 2019

September 30, 2018

Interest

Interest

Average

Income/

Yield/

Average

Income/

Yield/

    

Balance

    

Expense

    

Rate

    

Balance

    

Expense

    

Rate

    

(Dollar amounts in thousands)

Assets

Interest-earning assets:

  

  

  

  

  

  

Loans, net of deferred fees (1) (2)

$

2,160,863

$

84,692

5.24

%  

$

2,127,730

$

81,554

5.12

%  

Investment securities

242,891

4,728

2.60

%  

250,632

4,797

2.56

%  

Other earning assets

70,543

1,750

3.32

%  

58,474

1,406

3.21

%  

Total earning assets

2,474,297

91,170

4.93

%  

2,436,836

87,757

4.81

%  

Allowance for loan losses

(12,115)

(11,298)

  

Total non-earning assets

263,347

260,560

  

Total assets

$

2,725,529

$

2,686,098

  

Liabilities and stockholders' equity

  

  

  

  

  

  

Interest-bearing liabilities:

  

  

  

  

  

  

NOW and other demand accounts

$

355,511

$

2,198

0.83

%  

$

324,353

$

999

0.41

%  

Money market accounts

430,546

5,966

1.85

%  

328,294

1,864

0.76

%  

Savings accounts

145,964

345

0.32

%  

162,282

388

0.32

%  

Time deposits

880,611

14,608

2.22

%  

772,780

8,822

1.53

%  

Total interest-bearing deposits

1,812,631

23,117

1.71

%  

1,587,709

12,073

1.02

%  

Borrowings

203,469

5,122

3.37

%  

410,733

7,422

2.42

%  

Total interest-bearing liabilities

2,016,100

28,239

1.87

%  

1,998,442

19,495

1.30

%  

Noninterest-bearing liabilities:

  

  

  

  

  

  

Demand deposits

328,790

334,520

  

  

Other liabilities

21,346

18,690

  

  

Total liabilities

2,366,236

2,351,652

  

  

Stockholders' equity

359,292

334,446

  

  

Total liabilities and stockholders' equity

$

2,725,529

$

2,686,098

  

  

Net interest income

$

62,931

  

$

68,262

  

Interest rate spread

3.05

%  

  

  

3.51

%  

Net interest margin

3.40

%  

  

  

3.75

%  

(1)Includes loan fees in both interest income and the calculation of the yield on loans.
(2)Calculations include non-accruing loans in average loan amounts outstanding.

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Table of Contents

Provision for Loan Losses

The provision for loan losses is a current charge to earnings made in order to adjust the allowance for loan losses to an appropriate level for inherent probable losses in the loan portfolio based on an evaluation of the loan portfolio, current economic conditions, changes in the nature and volume of lending, historical loan experience and other known internal and external factors affecting loan collectability. Our allowance for loan losses is calculated by segmenting the loan portfolio by loan type and applying risk factors to each segment. The risk factors are determined by considering historical loss data, peer data, as well as applying management’s judgment.

For the three months ended September 30, 2019 and 2018, the provision for loan losses was $150 thousand and $1.1 million, respectively. The provision for loan losses for the nine months ended September 30, 2019 and 2018 was $350 thousand and $3.7 million, respectively. Net charge offs for the three and nine months ended September 30, 2019 was $562 thousand and $1.4 million, respectively, compared to $600 thousand and $1.6 million, respectively for the three and nine months ended September 30, 2018.

Noninterest Income

The following table presents the major categories of noninterest income for the three months ended September 30, 2019 and 2018:

For the Three Months Ended

September 30, 

(dollars in thousands)

    

2019

    

2018

     

Change

Account maintenance and deposit service fees

$

1,837

$

1,398

 

$

439

Income from bank-owned life insurance

 

392

 

593

 

(201)

Equity income from mortgage affiliate

 

599

 

(72)

 

671

Recoveries related to acquired charged-off loans and investment securities

145

667

(522)

Other

 

1

 

52

 

(51)

Total noninterest income

$

2,974

$

2,638

$

336

Southern National had noninterest income of $3.0 million and $2.6 million during the third quarter of 2019 and 2018, respectively. Account maintenance and deposit service fees, which totaled $1.8 million for the third quarter of 2019, increased $439 thousand compared to prior year. Income from bank-owned life insurance, which totaled $392 thousand for the third quarter of 2019, decreased $201 thousand compared to $593 thousand of income in the third quarter of 2018. The third quarter decrease was driven by death benefits paid in 2018. Income from the investment in STM totaled $599 thousand during the third quarter of 2019 compared to a loss of $72 thousand during the third quarter of 2018. The increase was driven by strengthened management and operational improvements within STM. Recoveries related to acquired charged-off loans and investment securities, which totaled $145 thousand for the third quarter of 2019, decreased $522 thousand when compared to the third quarter of the prior year.

The following table presents the major categories of noninterest income for the nine months ended September 30, 2019 and 2018:

For the Nine Months Ended

September 30, 

(dollars in thousands)

    

2019

    

2018

    

Change

Account maintenance and deposit service fees

$

5,312

$

4,181

 

$

1,131

Income from bank-owned life insurance

 

1,300

 

1,463

 

(163)

Equity income (loss) from mortgage affiliate

 

1,175

 

(198)

 

1,373

Recoveries related to acquired charged-off loans and investment securities

1,060

2,392

(1,332)

Other

 

380

 

432

 

(52)

Total noninterest income

$

9,227

$

8,270

 

$

957

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Southern National had noninterest income of $9.2 million and $8.3 million during the nine months ended September 30, 2019 and 2018, respectively. The $957 thousand increase was primarily driven by an increase of $1.1 million increase in account maintenance and deposit fees and $1.4 million increase in equity income from mortgage affiliate, partially offset by $1.3 million decrease in recoveries related to acquired charged-off loans and investment securities. Income improved on account maintenance and deposit services fee in the current year compared to the prior year. Income from the investment in STM totaled $1.2 million during the nine months ended September 30, 2019 compared to a loss of $198 thousand during the nine months ended September 30, 2018. The increase was driven by strengthened management and operational improvements within STM. For the nine months ended September 30, 2019, recoveries related to acquired charged-off loans and investment securities was $1.1 million compared to $2.4 million for the nine months ended September 30, 2018.

Noninterest Expense

The following table presents the major categories of noninterest expense for the three months ended September 30, 2019 and 2018:

For the Three Months Ended

September 30, 

(dollars in thousands)

    

2019

    

2018

    

Change

Salaries and benefits

$

6,567

$

7,080

$

(513)

Occupancy expenses

 

968

1,660

 

(692)

Furniture and equipment expenses

 

514

 

620

 

(106)

Amortization of core deposit intangible

 

352

 

360

 

(8)

Virginia franchise tax expense

 

563

 

491

 

72

Data processing expense

 

622

 

475

 

147

Telephone and communication expense

 

477

 

465

 

12

Net gain on other real estate owned

 

 

(99)

 

99

Professional fees

 

673

 

845

 

(172)

Other operating expenses

 

1,878

 

1,218

 

660

Total noninterest expenses

$

12,614

$

13,115

$

(501)

Noninterest expense was $12.6 million and $13.1 million during the three months ended September 30, 2019 and 2018, respectively. Employee compensation and benefits expense totaled $6.6 million and $7.1 million for the three months ended September 30, 2019 and 2018, respectively. The decrease was due to savings from the reduction in staff completed during 2018. Occupancy, furniture, and equipment expenses decreased $798 thousand from prior year.

The following table presents the major categories of noninterest expense for the nine months ended September 30, 2019 and 2018:

For the Nine Months Ended

September 30, 

(dollars in thousands)

    

2019

    

2018

    

Change

Salaries and benefits

$

19,523

$

20,859

$

(1,336)

Occupancy expenses

 

4,572

 

4,966

 

(394)

Furniture and equipment expenses

 

1,962

 

2,129

 

(167)

Amortization of core deposit intangible

 

1,077

 

1,083

 

(6)

Virginia franchise tax expense

 

1,689

 

1,347

 

342

Data processing expense

 

1,704

 

1,405

 

299

Telephone and communication expense

 

1,258

 

1,560

 

(302)

Net (gain) loss on other real estate owned

 

(38)

 

61

 

(99)

Professional fees

 

2,576

 

2,633

 

(57)

Other operating expenses

 

8,473

 

4,308

 

4,165

Total noninterest expenses

$

42,796

$

40,351

$

2,445

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Noninterest expense was $42.8 million and $40.4 million during the nine months ended September 30, 2019 and 2018, respectively. The increase in noninterest expenses was primarily due to an increase in other operating expenses driven by a nonrecurring loss of $3.2 million with related legal expense of $502 thousand during the first quarter of 2019. Employee compensation and benefits expense totaled $19.5 million and $20.9 million for the nine months ended September 30, 2019 and 2018, respectively. The decrease was due to a reduction in staffing. Occupancy, furniture, and equipment expenses decreased $394 thousand from prior year. The Company recognized gains of $38 thousand on the sale of other real estate owned (“OREO”) during the nine months ended September 30, 2019 compared to a $61 thousand loss for the nine months ended September 30, 2018. Other expenses totaled $8.5 million and $4.3 million for nine months ended September 30, 2019 and 2018, respectively.

FINANCIAL CONDITION

Balance Sheet Overview

Total assets were $2.70 billion as of September 30, 2019 and as of December 31, 2018. Total loans decreased 1.7%, from $2.18 billion at December 31, 2018 to $2.14 billion at September 30, 2019, primarily due to unanticipated large loan payoffs or paydowns of $93.6 million in 2019, partially offset by growth of $95.8 million during the nine months ended September 30, 2019. Total deposits were $2.18 billion at September 30, 2019 compared to $2.10 billion at December 31, 2018 and total equity was $370.6 million and $348.3 million at September 30, 2019 and December 31, 2018, respectively.

Loan Portfolio

Total loans decreased $37.4 million in the nine months ended September 30, 2019. The decline in loan balance has primarily been the result of unanticipated pay downs or payoffs of loans two million and greater in size, partially offset by loan growth during the year. Loans two million and greater in size, that have been paid off or paid down in 2019, included $47.7 million due to the sale of the customer’s property, $24.1 million in loans that refinanced elsewhere for unacceptable rate or structure, $13.7 million were projects that transitioned to government financing, and $8.1 million was due to cyclical fluctuation in credit line activity. New loans originated in 2019 totaled $95.8 million. Additionally, in the first quarter of 2019, $33.9 million of commercial loans were reclassified into loans secured by real estate, upon review and validation of collateral and Call Report codes.

The composition of our loan portfolio consisted of the following at September 30, 2019 and December 31, 2018 (in thousands):

    

September 30, 2019

    

December 31, 2018

Loans secured by real estate:

 

  

 

Commercial real estate - owner occupied

$

399,105

$

407,031

Commercial real estate - non-owner occupied

 

542,909

 

540,698

Secured by farmland

 

17,504

 

20,966

Construction and land loans

 

162,458

 

146,654

Residential 1-4 family

 

574,935

 

565,083

Multi-family residential

 

82,626

 

82,516

Home equity lines of credit

 

112,801

 

128,225

Total real estate loans

 

1,892,338

 

1,891,173

Commercial loans

 

220,707

 

255,441

Consumer loans

 

28,075

 

32,347

Gross loans

 

2,141,120

 

2,178,961

Plus (less) deferred costs (fees) on loans

 

265

 

(137)

Loans, net of deferred fees

$

2,141,385

$

2,178,824

As of September 30, 2019 and December 31, 2018, substantially all of our loans were to customers located in Virginia and Maryland. We are not dependent on any single customer or group of customers whose insolvency would have a material adverse effect on operations.

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Table of Contents

Asset Quality

Asset quality remained high during the first nine months of 2019. We will generally place a loan on nonaccrual status when it becomes 90 days past due. Loans will also be placed on nonaccrual status in cases where we are uncertain whether the borrower can satisfy the contractual terms of the loan agreement. Cash payments received while a loan is categorized as nonaccrual will be recorded as a reduction of principal as long as doubt exists as to future collections.

We maintain appraisals on loans secured by real estate, particularly those categorized as nonperforming loans and potential problem loans. In instances where appraisals reflect reduced collateral values, we make an evaluation of the borrower’s overall financial condition to determine the need, if any, for impairment or write-down to their fair values. If foreclosure occurs, we record OREO at the lower of our recorded investment in the loan or fair value less our estimated costs to sell.

Our loss and delinquency experience on our loan portfolio has been limited by a number of factors, including our underwriting standards and the relatively short period of time since the loans were originated. Whether our loss and delinquency experience in the area of our portfolio will increase significantly depends upon the value of the real estate securing loans and economic factors such as the overall economy of the region.

OREO at September 30, 2019 was $5.8 million compared to $5.1 million at December 31, 2018.  

Non-covered nonaccrual loans were $533 thousand (excluding $3.3 million of loans fully covered by SBA guarantees) at September 30, 2019 compared to $3.3 million (excluding $3.4 million of loans fully covered by SBA guarantees) as of December 31, 2018. The ratio of non-covered nonperforming assets (excluding the SBA guaranteed loans) to total non-covered assets decreased from 0.28% at December 31, 2018 to 0.24% at September 30, 2019.

Southern National’s allowance for loan losses as a percentage of total non-covered loans at September 30, 2019 was 0.53%, compared to 0.57% at December 31, 2018. The allowance for loan losses as a percentage of non-covered non-acquired loans was 0.74% and 0.85% at September 30, 2019 and December 31, 2018, respectively.

We have an internal loan review and a loan committee, both of which provide on-going monitoring to identify and address issues with problem loans. The loan loss provision is determined after consideration of all known relevant internal and external factors affecting loan collectability to maintain the allowance for loan and lease losses at a level necessary to absorb estimated credit losses.

The following table presents a comparison of non-covered nonperforming assets as of September 30, 2019 and December 31, 2018 (in thousands):

    

September 30, 

December 31, 

2019

    

2018

    

Nonaccrual loans

$

3,842

$

6,709

Loans past due 90 days and accruing interest

 

 

Total nonperforming loans

 

3,842

 

6,709

Other real estate owned

 

5,835

 

5,077

Total non-covered nonperforming assets

$

9,677

$

11,786

Troubled debt restructurings

$

679

$

692

SBA guaranteed amounts included in nonaccrual loans

$

3,309

$

3,391

Allowance for loan losses to nonperforming loans

 

291.53

%  

 

207.63

%  

Allowance for loan losses to total non-covered loans

 

0.53

%  

 

0.57

%  

Nonperforming assets excluding SBA guaranteed loans to total non-covered assets

 

0.24

%  

 

0.28

%  

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Table of Contents

Investment Securities

Investment securities, available for sale and held to maturity, totaled $242.1 million at September 30, 2019 up from $235.8 million at December 31, 2018.

Investment securities in our portfolio as of September 30, 2019 were as follows:

residential government-sponsored collateralized mortgage obligations in the amount of $42.9 million;
agency residential mortgage-backed securities in the amount $60.4 million;
corporate bonds in the amount of $2.0 million;
commercial mortgage-backed securities in the amount of $27.9 million;
SBA loan pool securities in the amount of $15.6 million;
callable agency securities in the amount of $51.3 million;
trust preferred securities in the amount of $5.0 million; and
municipal bonds in the amount of $37.0 million (fair value of $37.3 million) with a taxable equivalent yield of 3.0% and ratings as of September 30, 2019 as follows:

Moody's

Amount

Standard & Poor's

Amount

Rating

    

(in thousands)

    

Rating

    

(in thousands)

Aaa

$

7,565

 

AAA

$

7,123

Aa1

 

9,399

 

AA+

 

6,670

Aa2

 

3,213

 

AA

 

10,375

Aa3

 

1,922

 

AA-

 

1,817

A1

 

1,857

 

A+

 

1,018

A2

 

1,523

 

A

 

846

Baa1

 

1,013

 

BBB+

 

1,013

NA

 

10,767

 

NA

 

8,397

Total

$

37,259

 

Total

$

37,259

During the three and nine months ended September 30, 2019, $10.0 million and $35.1 million, respectively of available for sale investment securities were purchased. Held to maturity investment securities of $10.2 million were purchased during the three and nine months ended September 30, 2019. No investment securities were sold during the first nine months of 2019.

At September 30, 2019, we owned pooled trust preferred securities as follows (in thousands):

% of

Previously

Current

Recognized

Defaults and

Cumulative

Ratings 

Estimated

Deferrals to 

Other

Tranche

When Purchased

Current Ratings

Par

Book

Fair

Total

Comprehensive

Security

    

Level

    

Moody's

    

Fitch

    

Moody's

    

Fitch

    

Value

    

Value

    

Value

    

Collateral

    

Loss (1)

(in thousands)

Held to Maturity

  

  

  

  

  

  

  

  

  

  

ALESCO VII A1B

Senior

Aaa

AAA

Aa1

AA

$

2,517

$

2,344

$

2,435

17

%  

$

219

MMCF III B

Senior Sub

A3

A-

Ba1

WD

59

58

55

45

%  

4

  

$

2,576

$

2,402

$

2,490

  

$

223

 

  

  

  

  

  

  

  

  

Cumulative OTTI

Available for Sale

  

  

  

  

  

  

  

  

Related to

Other Than Temporarily Impaired:

  

  

  

  

  

  

  

  

Credit Loss (2)

TPREF FUNDING II

Mezzanine

A1

A-

Caa3

WD

$

1,500

$

1,040

$

795

28

%  

$

400

ALESCO V C1

Mezzanine

A2

A

Caa1

C

2,150

1,490

1,773

15

%  

660

  

$

3,650

$

2,530

$

2,568

  

$

1,060

 

Total

  

$

6,226

$

4,932

$

5,058

  

  

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(1)Pre-tax, and represents unrealized losses at date of transfer from available-for-sale to held-to-maturity, net of accretion.
(2)Pre-tax.

Each of these investment securities has been evaluated for potential impairment under accounting guidelines. In performing a detailed cash flow analysis of each investment security, Sonabank works with independent third parties to identify the most reflective estimate of the cash flow estimated to be collected. If this estimate results in a present value of expected cash flows that is less than the amortized cost basis of an investment security (that is, credit loss exists), an other than temporary impairment is considered to have occurred. If there is no credit loss, any impairment is considered temporary.

We recognized no other than temporary impairment charges during the nine months ended September 30, 2019 and 2018, respectively.

Liquidity and Funds Management

The objective of our liquidity management is to assure the ability to meet our financial obligations. These obligations include the payment of deposits on demand or at maturity, the repayment of borrowings at maturity and the ability to fund commitments and other new business opportunities. We obtain funding from a variety of sources, including customer deposit accounts, customer certificates of deposit and payments on our loans and investments. Historically, our level of core deposits has been insufficient to fully fund our lending activities. As a result, we have sought funding from additional sources, including institutional certificates of deposit and the sale of available for sale investment securities. In addition, we maintain lines of credit with the FHLB of Atlanta, federal funds lines of credit with three correspondent banks and utilize securities sold under agreements to repurchase and reverse repurchase agreement borrowings from approved securities dealers.

We prepare a cash flow forecast for two years on a monthly basis. The projections incorporate expected cash flows on loans, investment securities, and deposits based on data used to prepare our interest rate risk analyses. To estimate loan growth over the two year period, the projection incorporates the scheduled loan closings in the Loan Pipeline Report along with other management estimates.

During the nine months ended September 30, 2019, we funded our financial obligations with deposits, borrowings from the FHLB of Atlanta and the proceeds from issuance of the SNBV Senior Subordinated Notes in January 2018.  At September 30, 2019, we had $343.1 million of unfunded commitments. Management anticipates that funding requirements for these commitments can be met from the normal sources of funds.

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Capital Resources

The following table provides a comparison of our leverage and risk-weighted capital ratios and the leverage and risk-weighted capital ratios of the Company and the Bank at the dates indicated to the minimum and well-capitalized regulatory standards (dollars in thousands):

Required for Capital

To Be Categorized as

Actual

Adequacy Purposes (1)

Well Capitalized (2)

September 30, 2019

    

Amount

    

Ratio

    

Amount

    

Ratio

    

Amount

    

Ratio

Southern National

Common equity tier 1 capital ratio

 

$

258,078

12.48

%

$

93,053

4.50

%

 

n/a

n/a

Tier 1 risk-based capital ratio

268,078

12.96

%

124,071

6.00

%

 

n/a

n/a

Total risk-based capital ratio

326,279

15.78

%

165,428

8.00

%

 

n/a

n/a

Leverage ratio

268,078

10.25

%

104,617

4.00

%

 

n/a

n/a

Sonabank

Common equity tier 1 capital ratio

 

$

303,486

14.48

%

$

94,324

4.50

%

$

136,245

6.50

%

Tier 1 risk-based capital ratio

303,486

14.48

%

125,765

6.00

%

167,686

8.00

%

Total risk-based capital ratio

314,687

15.01

%

167,686

8.00

%

209,608

10.00

%

Leverage ratio

303,486

11.59

%

104,760

4.00

%

104,804

5.00

%

December 31, 2018

Southern National

Common equity tier 1 capital ratio

 

$

239,554

11.57

%

$

93,135

4.50

%

 

n/a

n/a

Tier 1 risk-based capital ratio

249,554

12.06

%

124,180

6.00

%

 

n/a

n/a

Total risk-based capital ratio

308,838

14.92

%

165,573

8.00

%

 

n/a

n/a

Leverage ratio

249,554

9.57

%

104,338

4.00

%

 

n/a

n/a

Sonabank

Common equity tier 1 capital ratio

 

$

288,018

13.64

%

$

95,020

4.50

%

$

137,251

6.50

%

Tier 1 risk-based capital ratio

288,018

13.64

%

126,693

6.00

%

168,924

8.00

%

Total risk-based capital ratio

300,301

14.22

%

168,924

8.00

%

211,156

10.00

%

Leverage ratio

288,018

11.03

%

104,420

4.00

%

105,578

5.00

%

(1)When fully phased-in on January 1, 2019, the Basel III capital rules included a capital conservation buffer of 2.5% that is added on top of each of the minimum risk-based capital ratios noted above. Implementation began on January 1, 2016 at the 0.625% level and increased each subsequent January 1, until it reached 2.5% on January 1, 2019.
(2)Prompt corrective action provisions are not applicable at the bank holding company level.

The most recent regulatory notification categorized Sonabank as well capitalized under the regulatory framework for prompt corrective action. There are no conditions or events since that notification that management believes have changed Sonabank’s category.

ITEM 3 – QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

We are engaged primarily in the business of investing funds obtained from deposits and borrowings into interest-earning loans and investments. Consequently, our earnings depend to a significant extent on our net interest income, which is the difference between the interest income on loans and other investments and the interest expense on deposits and borrowings. To the extent that our interest-bearing liabilities do not reprice or mature at the same time as our interest-earning assets, we are subject to interest rate risk and corresponding fluctuations in net interest income. We have employed asset/liability management policies that seek to manage our net interest income, without having to incur unacceptable levels of credit or investment risk.

We use simulation modeling to manage our interest rate risk, and review quarterly interest sensitivity. This approach uses a model which generates estimates of the change in our economic value of equity (“EVE”) over a range of interest

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rate scenarios. EVE is the present value of expected cash flows from assets, liabilities and off-balance sheet contracts using assumptions about estimated loan prepayment rates, reinvestment rates and deposit decay rates.

The following tables are based on an analysis of our interest rate risk as measured by the estimated change in EVE resulting from instantaneous and sustained parallel shifts in the yield curve (plus 400 basis points or minus 100 basis points, measured in 100 basis point increments) as of September 30, 2019 and as of December 31, 2018. All changes are within our Asset/Liability Risk Management Policy guidelines except for the change resulting from the 100 basis point decrease in interest rates at September 30, 2019 and December 31, 2018.

Sensitivity of Economic Value of Equity

 

As of September 30, 2019

 

Economic Value of

 

Economic Value of Equity

Equity as a % of

 

Change in Interest Rates

$ Change

% Change

Total

Equity

 

in Basis Points (Rate Shock)

    

Amount

    

From Base

    

From Base

    

Assets

    

Book Value

 

(dollar amounts in thousands)

 

Up 400

$

280,091

$

35,713

 

14.61

%  

10.38

%  

75.57

%

Up 300

 

275,361

 

30,983

 

12.68

%  

10.20

%  

74.30

%

Up 200

 

268,628

 

24,250

 

9.92

%  

9.95

%  

72.48

%

Up 100

 

258,979

 

14,601

 

5.97

%  

9.60

%  

69.88

%

Base

 

244,378

 

 

%  

9.05

%  

65.94

%

Down 100

 

219,202

 

(25,176)

 

(10.30)

%  

8.12

%  

59.14

%

Sensitivity of Economic Value of Equity

 

As of December 31, 2018

 

Economic Value of

 

Economic Value of Equity

Equity as a % of

 

Change in Interest Rates

$ Change

% Change

Total

Equity

 

in Basis Points (Rate Shock)

    

Amount

    

From Base

    

From Base

    

Assets

    

Book Value

 

(dollar amounts in thousands)

 

Up 400

$

338,853

$

(33,298)

 

(8.95)

%  

12.54

%  

97.03

%

Up 300

 

347,409

 

(24,742)

 

(6.65)

%  

12.85

%  

99.48

%

Up 200

 

356,429

 

(15,722)

 

(4.22)

%  

13.19

%  

102.07

%

Up 100

 

362,312

 

(9,839)

 

(2.64)

%  

13.40

%  

103.75

%

Base

 

372,151

 

 

0.00

%  

13.77

%  

106.57

%

Down 100

 

341,397

 

(30,754)

 

(8.26)

%  

12.63

%  

97.76

%

Our interest rate sensitivity is also monitored by management through the use of a model that generates estimates of the change in the net interest income (“NII”) over a range of interest rate scenarios. NII depends upon the relative amounts of interest-earning assets and interest-bearing liabilities and the interest rates earned or paid on them. In this regard, the model assumes that the composition of our interest sensitive assets and liabilities existing at September 30, 2019 and December 31, 2018 remains constant over the period being measured and also assumes that a particular change in interest rates is reflected uniformly across the yield curve regardless of the duration to maturity or repricing of specific assets and

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liabilities. All changes are within our Asset/Liability Risk Management Policy guidelines at September 30, 2019 and December 31, 2018.

Sensitivity of Net Interest Income

 

As of September 30, 2019

 

Adjusted Net Interest Income

Net Interest Margin

 

Change in Interest Rates

$ Change

% Change

in Basis Points (Rate Shock)

    

Amount

    

From Base

    

Percent

    

From Base

 

(dollar amounts in thousands)

 

Up 400

$

82,039

$

980

 

3.32

%  

0.04

%

Up 300

 

81,942

 

883

 

3.31

%  

0.04

%

Up 200

 

81,703

 

644

 

3.30

%  

0.03

%

Up 100

 

81,678

 

619

 

3.30

%  

0.03

%

Base

 

81,059

 

 

3.28

%  

%

Down 100

 

78,178

 

(2,881)

 

3.16

%  

(0.12)

%

Sensitivity of Net Interest Income

 

As of December 31, 2018

 

Adjusted Net Interest Income

Net Interest Margin

 

Change in Interest Rates

$ Change

  

% Change

 

in Basis Points (Rate Shock)

    

Amount

    

From Base

    

Percent

    

From Base

 

(dollar amounts in thousands)

 

Up 400

$

101,121

$

9,785

 

4.05

%  

0.35

%

Up 300

 

97,784

 

6,448

 

3.97

%  

0.23

%

Up 200

 

96,305

 

4,969

 

3.88

%  

0.16

%

Up 100

 

93,719

 

2,383

 

3.78

%  

0.07

%

Base

 

91,336

 

 

3.70

%  

%

Down 100

 

91,719

 

383

 

3.72

%  

0.04

%

Certain shortcomings are inherent in the methodology used in the above interest rate risk measurements. Modeling changes in EVE requires the making of certain assumptions that may or may not reflect the manner in which actual yields and costs respond to changes in market interest rates. Accordingly, although the EVE tables and NII tables provide an indication of our interest rate risk exposure at a particular point in time, such measurements are not intended to, and do not, provide a precise forecast of the effect of changes in market interest rates on our net worth and NII. Sensitivity of EVE and NII are modeled using different assumptions and approaches.

ITEM 4 – CONTROLS AND PROCEDURES

(a) Evaluation of Disclosure Controls and Procedures. As of the end of the period covered by this quarterly report on Form 10-Q, under the supervision and with the participation of management, including our chief executive officer and chief financial officer, we have evaluated the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d -15(e) under the Securities Exchange Act of 1934) utilizing the framework established in “Internal Control – Integrated Framework (2013)” issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based upon that evaluation, our chief executive officer and chief financial officer have concluded that these controls and procedures are effective as of the end of the period covered by this Quarterly Report on Form 10-Q.

Disclosure controls and procedures are our controls and other procedures that are designed to ensure that information required to be disclosed by us in the reports that we file or submit under the Securities Exchange Act of 1934 is accumulated and communicated to our management, including our principal executive officer and principal financial officer, as appropriate, to allow timely decisions regarding required disclosure.

(b) Changes in Internal Control over Financial Reporting. There have been no changes in our internal control over financial reporting that materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

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Table of Contents

PART II - OTHER INFORMATION

ITEM 1 – LEGAL PROCEEDINGS

Southern National and Sonabank are from time to time a party, as both plaintiff and defendant, to various claims and proceedings arising in the ordinary course of the Bank’s business, including administrative and/or legal proceedings that may include employment-related claims, as well as claims of lender liability, breach of contract, and other similar lending-related claims. While the ultimate resolution of these matters cannot be determined at this time, the Bank’s management presently believes that such matters, individually and in the aggregate, will not have a material adverse effect on the Bank’s financial condition or results of operations. There are no proceedings pending, or to management’s knowledge, threatened, that represent a significant risk against Southern National or Sonabank as of September 30, 2019.

ITEM 1A – RISK FACTORS

As of September 30, 2019, there have been no material changes to the risk factors faced by Southern National from those previously disclosed on our Annual Report on Form 10-K for the year ended December 31, 2018.

ITEM 2 – UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

Not applicable.

ITEM 3 – DEFAULTS UPON SENIOR SECURITIES

Not applicable.

ITEM 4 – MINE SAFETY DISCLOSURES

Not applicable.

ITEM 5 – OTHER INFORMATION

Not applicable.

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Table of Contents

ITEM 6 - EXHIBITS

(a) Exhibits.

Exhibit No.

    

Description

3.1

Articles of Incorporation (incorporated herein by reference to Exhibit 3.1 to Southern National’s Registration Statement on Form S-1 (Registration No. 333-136285))

3.2

Certificate of Amendment to the Articles of Incorporation dated January 31, 2005 (incorporated herein by reference to Exhibit 3.2 to Southern National’s Registration Statement on Form S-1 (Registration No. 333-136285))

3.3

Certificate of Amendment to the Articles of Incorporation dated April 13, 2006 (incorporated herein by reference to Exhibit 3.3 to Southern National’s Registration Statement on Form S-1 (Registration No. 333-136285))

3.4

Amended and Restated Bylaws (incorporated by reference to Exhibit 3.4 to Southern National’s Annual Report on Form 10-K for the year ended December 31, 2006)

3.5

Amendment No. 1 to Amended and Restated Bylaws (incorporated herein by reference to Exhibit 3.1 to Southern National’s Current Report on Form 8-K filed on October 14, 2009)

3.6

Amendment No. 2 to Amended and Restated Bylaws (incorporated herein by reference to Exhibit 3.1 to Southern National’s Current Report on Form 8-K filed on April 5, 2017)

31.1*

Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

31.2*

Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

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32.1**

Certification of Chief Executive Officer and Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

101

The following materials from Southern National Bancorp of Virginia, Inc. Quarterly Report on Form 10-Q for the quarter ended September 30, 2019, formatted in Inline XBRL (Extensible Business Reporting Language), filed herewith: (i) Consolidated Balance Sheets (unaudited), (ii) Consolidated Statements of Income and Comprehensive Income (unaudited), (iii) Consolidated Statement of Changes in Stockholders’ Equity (unaudited), (iv) Consolidated Statements of Cash Flows (unaudited), and (v) Notes to Consolidated Financial Statements (unaudited).

104

Cover Page Interactive Data File (the cover page XBRL tags are embedded in the Inline XBRL document).

+     Management contract or compensatory plan or arrangement

*      Filed with this Quarterly Report on Form 10-Q

**    Furnished with this Quarterly Report on Form 10-Q

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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.

    

Southern National Bancorp of Virginia, Inc.

(Registrant)

November 7, 2019

/s/ Joe A. Shearin

(Date)

Joe A. Shearin,

Chief Executive Officer

(Principal Executive Officer)

November 7, 2019

/s/ Jeffrey L. Karafa

(Date)

Jeffrey L. Karafa,

Executive Vice President and Chief Financial Officer

(Principal Financial and Accounting Officer)

48