SUMMIT FINANCIAL GROUP, INC. - Quarter Report: 2017 March (Form 10-Q)

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10 – Q

[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended March 31, 2017

[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES

EXCHANGE ACT OF 1934 For the transition period from ___________ to __________.

Commission File Number 0-16587

Summit Financial Group, Inc.

(Exact name of registrant as specified in its charter)



West Virginia	55-0672148
(State or other jurisdiction of	(IRS Employer
incorporation or organization)	Identification No.)



300 North Main Street
Moorefield, West Virginia	26836
(Address of principal executive offices)	(Zip Code)

(304) 530-1000

(Registrant's telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Sections 13 or 15(d) of the Securities and 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 þ	No o

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



Yes þ	No o

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

Large accelerated filer o Accelerated filer þ Non-accelerated filer o

Smaller reporting company o Emerging growth company o

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. o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).



Yes o	No þ

Indicate the number of shares outstanding of each of the issuer’s classes of Common Stock as of the latest practicable date.

Common Stock, $2.50 par value

12,425,017 shares outstanding as of May 4, 2017

Table of Contents



			Page
PART I.	FINANCIAL INFORMATION

	Item 1.	Financial Statements

		Consolidated balance sheets March 31, 2017 (unaudited), December 31, 2016 (audited) and March 31, 2016 (unaudited)	3

		Consolidated statements of income for the three months ended March 31, 2017 and 2016 (unaudited)	4

		Consolidated statements of comprehensive income (loss) for the three months ended March 31, 2017 and 2016 (unaudited)	5

		Consolidated statements of shareholders’ equity for the three months ended March 31, 2017 and 2016 (unaudited)	6

		Consolidated statements of cash flows for the three months ended March 31, 2017 and 2016 (unaudited)	7

		Notes to consolidated financial statements (unaudited)	9

	Item 2.	Management's Discussion and Analysis of Financial Condition and Results of Operations	40

	Item 3.	Quantitative and Qualitative Disclosures about Market Risk	51

	Item 4.	Controls and Procedures	52
PART II.	OTHER INFORMATION
	Item 1.	Legal Proceedings	53

	Item 1A.	Risk Factors	53

	Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	None

	Item 3.	Defaults upon Senior Securities	None

	Item 4.	Mine Safety Disclosures	None

	Item 5.	Other Information	None

	Item 6.	Exhibits	53

SIGNATURES			54

EXHIBIT INDEX			55

Item 1. Financial Statements

Consolidated Balance Sheets (unaudited)



	March 31, 2017			December 31, 2016			March 31, 2016
Dollars in thousands	(unaudited)			(*)			(unaudited)
ASSETS
Cash and due from banks	$	19,326		$	4,262		$	4,005
Interest bearing deposits with other banks	38,895			42,354			12,655
Cash and cash equivalents	58,221			46,616			16,660
Securities available for sale	282,028			266,542			271,515
Other investments	13,328			12,942			10,099
Loans held for sale	172			176			610
Loans, net	1,292,915			1,307,862			1,096,790
Property held for sale	23,491			24,504			24,684
Premises and equipment, net	26,377			23,737			21,589
Accrued interest receivable	6,024			6,167			5,230
Goodwill and other intangible assets	13,587			13,652			7,448
Cash surrender value of life insurance policies	39,412			39,143			37,989
Other assets	20,887			17,306			15,954
Total assets	$	1,776,442		$	1,758,647		$	1,508,568

LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities
Deposits
Non interest bearing	$	152,086		$	149,737		$	122,378
Interest bearing	1,149,155			1,145,782			972,166
Total deposits	1,301,241			1,295,519			1,094,544
Short-term borrowings	228,868			224,461			153,448
Long-term borrowings	46,215			46,670			75,103
Subordinated debentures owed to unconsolidated subsidiary trusts	19,589			19,589			19,589
Other liabilities	26,910			17,048			19,765
Total liabilities	1,622,823			1,603,287			1,362,449

Commitments and Contingencies

Shareholders' Equity
Preferred stock, $1.00 par value, authorized 250,000 shares	—			—			—
Common stock and related surplus, $2.50 par value; authorized 20,000,000 shares; issued: 2017 - 10,887,105 shares, December 2016 - 10,883,509 shares and March 2016 - 10,854,809 shares; outstanding: 2017 - 10,750,477 shares, December 2016 - 10,736,970 shares and March 2016 - 10,681,880 shares	47,020			46,757			45,829
Unallocated common stock held by Employee Stock Ownership Plan - 2017 - 136,628 shares, December 2016 - 146,539 shares and March 2016 - 172,929 shares	(1,476		)	(1,583		)	(1,867		)
Retained earnings	110,650			113,448			103,418
Accumulated other comprehensive loss	(2,575		)	(3,262		)	(1,261		)
Total shareholders' equity	153,619			155,360			146,119

Total liabilities and shareholders' equity	$	1,776,442		$	1,758,647		$	1,508,568

(*) - December 31, 2016 financial information has been extracted from audited consolidated financial statements

See Notes to Consolidated Financial Statements

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Consolidated Statements of Income (unaudited)



	For the Three Months Ended March 31,
Dollars in thousands, (except per share amounts)	2017			2016
Interest income
Interest and fees on loans
Taxable	$	15,550		$	13,291
Tax-exempt	121			145
Interest and dividends on securities
Taxable	1,128			1,084
Tax-exempt	723			642
Interest on interest bearing deposits with other banks	152			3
Total interest income	17,674			15,165
Interest expense
Interest on deposits	2,390			2,170
Interest on short-term borrowings	994			240
Interest on long-term borrowings and subordinated debentures	660			976
Total interest expense	4,044			3,386
Net interest income	13,630			11,779
Provision for loan losses	250			250
Net interest income after provision for loan losses	13,380			11,529
Noninterest income
Insurance commissions	968			924
Service fees related to deposit accounts	1,168			978
Realized securities gains (losses), net	(58		)	393
Bank owned life insurance income	250			256
Other	251			255
Total noninterest income	2,579			2,806
Noninterest expenses
Salaries, commissions and employee benefits	5,187			4,682
Net occupancy expense	567			540
Equipment expense	735			656
Professional fees	285			472
Advertising and public relations	108			99
Amortization of intangibles	97			50
FDIC premiums	210			300
Merger-related expenses	109			112
Foreclosed properties expense	104			124
Gain on sales of foreclosed properties, net	(156		)	(6		)
Write-downs of foreclosed properties	418			109
Litigation settlement	9,900			—
Other	1,452			1,416
Total noninterest expenses	19,016			8,554
Income (loss) before income tax expense (benefit)	(3,057		)	5,781
Income tax expense (benefit)	(1,441		)	1,719
Net income (loss)	$	(1,616	)	$	4,062

Basic earnings per common share	$	(0.15	)	$	0.38
Diluted earnings per common share	$	(0.15	)	$	0.38

See Notes to Consolidated Financial Statements

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Consolidated Statements of Comprehensive Income (Loss) (unaudited)



	For the Three Months Ended March 31,
Dollars in thousands	2017			2016
Net income (loss)	$	(1,616	)	$	4,062
Other comprehensive income (loss):
Net unrealized gain (loss) on cashflow hedge of: 2017 - $789, net of deferred taxes of $292; 2016 - ($2,321), net of deferred taxes of ($859)	497			(1,462		)
Net unrealized gain on available for sale debt securities of: 2017 - $302, net of deferred taxes of $112 and reclassification adjustment for net realized losses included in net income of ($58), net of tax of ($21); 2016 - $1,043, net of deferred taxes of $386 and reclassification adjustment for net realized gains included in net income of $393, net of tax of $145	190			657
Total other comprehensive income (loss):	687			(805		)
Total comprehensive income (loss)	$	(929	)	$	3,257

See Notes to Consolidated Financial Statements

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Consolidated Statements of Shareholders’ Equity (unaudited)



Dollars in thousands (except per share amounts)	Common Stock and Related Surplus		Unallocated Common Stock Held by ESOP			Retained Earnings			Accumulated Other Compre- hensive (Loss)			Total Share- holders' Equity

Balance, December 31, 2016	$	46,757	$	(1,583	)	$	113,448		$	(3,262	)	$	155,360

Three Months Ended March 31, 2017
Net loss	—		—			(1,616		)	—			(1,616		)
Other comprehensive income	—		—			—			687			687
Exercise of stock options - 2,000 shares	12		—			—			—			12
Share-based compensation expense	84		—			—			—			84
Unallocated ESOP shares committed to be released - 9,911 shares	132		107			—			—			239
Common stock issuances from reinvested dividends - 1,596 shares	35		—			—			—			35
Common stock cash dividends declared ($0.11 per share)	—		—			(1,182		)	—			(1,182		)
Balance, March 31, 2017	$	47,020	$	(1,476	)	$	110,650		$	(2,575	)	$	153,619

Balance, December 31, 2015	$	45,741	$	(1,964	)	$	100,423		$	(456	)	$	143,744

Three Months Ended March 31, 2016
Net income	—		—			4,062			—			4,062
Other comprehensive loss	—		—			—			(805		)	(805		)
Share-based compensation expense	50		—			—			—			50
Unallocated ESOP shares committed to be released - 8,893 shares	18		97			—			—			115
Common stock issuances from reinvested dividends - 1,243 shares	20		—			—			—			20
Common stock cash dividends declared ($0.10 per share)	—		—			(1,067		)	—			(1,067		)
Balance, March 31, 2016	$	45,829	$	(1,867	)	$	103,418		$	(1,261	)	$	146,119

See Notes to Consolidated Financial Statements

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Consolidated Statements of Cash Flows (unaudited)



	Three Months Ended
Dollars in thousands	March 31, 2017			March 31, 2016
Cash Flows from Operating Activities
Net income (loss)	$	(1,616	)	$	4,062
Adjustments to reconcile net income (loss) to net cash provided by operating activities:
Depreciation	355			295
Provision for loan losses	250			250
Share-based compensation expense	84			50
Deferred income tax benefit	(3,808		)	(102		)
Loans originated for sale	(2,243		)	(2,332		)
Proceeds from sale of loans	2,247			2,501
Realized securities (gains) losses, net	58			(393		)
Gain on disposal of assets	(156		)	(6		)
Write-downs of foreclosed properties	418			109
Amortization of securities premiums, net	959			1,118
Amortization (accretion) related to acquisitions, net	(145		)	3
Amortization of intangibles	97			50
Earnings on bank owned life insurance	(269		)	(256		)
Decrease in accrued interest receivable	143			315
Increase in other assets	(580		)	(727		)
Increase in other liabilities	10,947			1,302
Net cash provided by operating activities	6,741			6,239
Cash Flows from Investing Activities
Proceeds from maturities and calls of securities available for sale	600			55
Proceeds from sales of securities available for sale	3,154			33,787
Principal payments received on securities available for sale	7,686			8,170
Purchases of securities available for sale	(27,641		)	(32,418		)
Purchases of other investments	(3,944		)	(5,149		)
Proceeds from redemptions of other investments	3,558			3,999
Net loan (orginations) payments	14,671			(16,864		)
Purchases of premises and equipment	(2,995		)	(312		)
Proceeds from sales of repossessed assets & property held for sale	1,232			1,302
Net cash used in investing activities	(3,679		)	(7,430		)
Cash Flows from Financing Activities
Net increase in demand deposit, NOW and savings accounts	20,636			18,395
Net increase (decrease) in time deposits	(14,910		)	9,439
Net increase (decrease) in short-term borrowings	4,407			(17,945		)
Repayment of long-term borrowings	(455		)	(478		)
Net proceeds from issuance of common stock	35			20
Exercise of stock options	12			—
Dividends paid on common stock	(1,182		)	(1,067		)
Net cash provided by financing activities	8,543			8,364
Increase in cash and cash equivalents	11,605			7,173
Cash and cash equivalents:
Beginning	46,616			9,487
Ending	$	58,221		$	16,660

(Continued)








See Notes to Consolidated Financial Statements

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Consolidated Statements of Cash Flows (unaudited) - continued



	Three Months Ended
Dollars in thousands	March 31, 2017		March 31, 2016
Supplemental Disclosures of Cash Flow Information
Cash payments for:
Interest	$	4,047	$	3,434
Income taxes	$	355	$	—

Supplemental Disclosures of Noncash Investing and Financing Activities
Real property and other assets acquired in settlement of loans	$	113	$	—

See Notes to Consolidated Financial Statements

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NOTE 1. BASIS OF PRESENTATION

We, Summit Financial Group, Inc. and subsidiaries, prepare our consolidated financial statements in accordance with accounting principles generally accepted in the United States of America for interim financial information and with instructions to Form 10-Q and Regulation S-X. Accordingly, they do not include all the information and footnotes required by accounting principles generally accepted in the United States of America for annual year end financial statements. In our opinion, all adjustments considered necessary for a fair presentation have been included and are of a normal recurring nature.

The presentation of financial statements in conformity with accounting principles generally accepted in the United States of America requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. Actual results could differ materially from these estimates.

The results of operations for the quarter ended March 31, 2017 are not necessarily indicative of the results to be expected for the full year. The consolidated financial statements and notes included herein should be read in conjunction with our 2016 audited financial statements and Annual Report on Form 10-K.

NOTE 2. SIGNIFICANT NEW AUTHORITATIVE ACCOUNTING GUIDANCE

ASU 2016-01, Financial Instruments – Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities, among other things, (i) requires equity investments, with certain exceptions, to be measured at fair value with changes in fair value recognized in net income, (ii) simplifies the impairment assessment of equity investments without readily determinable fair values by requiring a qualitative assessment to identify impairment, (iii) eliminates the requirement for public business entities to disclose the methods and significant assumptions used to estimate the fair value that is required to be disclosed for financial instruments measured at amortized cost on the balance sheet, (iv) requires public business entities to use the exit price notion when measuring the fair value of financial instruments for disclosure purposes, (v) requires an entity to present separately in other comprehensive income the portion of the total change in the fair value of a liability resulting from a change in the instrument-specific credit risk when the entity has elected to measure the liability at fair value in accordance with the fair value option for financial instruments, (vi) requires separate presentation of financial assets and financial liabilities by measurement category and form of financial asset on the balance sheet or the accompanying notes to the financial statements and (viii) clarifies that an entity should evaluate the need for a valuation allowance on a deferred tax asset related to available-for-sale. ASU 2016-01 will be effective for us on January 1, 2018 and is not expected to have a significant impact on our financial statements.

ASU 2016-02, Leases (Topic 842) will, among other things, require lessees to recognize a lease liability, which is a lessee‘s obligation to make lease payments arising from a lease, measured on a discounted basis; and a right-of-use asset, which is an asset that represents the lessee’s right to use, or control the use of, a specified asset for the lease term. ASU 2016-02 does not significantly change lease accounting requirements applicable to lessors; however, certain changes were made to align, where necessary, lessor accounting with the lessee accounting model and ASC Topic 606, Revenue from Contracts with Customers. ASU 2016-02 will be effective for us on January 1, 2019 and will require transition using a modified retrospective approach for leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements. We are currently evaluating the potential impact of ASU 2016-02 on our financial statements.

ASU 2016-05, Derivatives and Hedging (Topic 815) Effect of Derivative Contract Novations on Existing Hedge Accounting Relationships, clarifies that a change in the counterparty to a derivative instrument that has been designated as the hedging instrument under ASC Topic 815 does not, in and of itself, require dedesignation of that hedging relationship provided that all other hedge accounting criteria continue to be met. ASU 2016-05 was effective for us on January 1, 2017 and did not have a significant impact on our financial statements.

ASU 2016-09, Compensation - Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting, requires that all excess tax benefits and tax deficiencies related to share-based payment awards be recognized as income tax expense or benefit in the income statement during the period in which they occur. Previously, such amounts were recorded in the pool of excess tax benefits included in additional paid-in capital, if such pool was available. Because excess tax benefits are no longer recognized in additional paid-in capital, the assumed proceeds from applying the treasury stock method when computing earnings per share should exclude the amount of excess tax benefits that would have previously been recognized in additional paid-in capital. Additionally, excess tax benefits should be classified along with other income tax cash flows as an operating activity rather than a financing activity, as was previously the case. ASU 2016-09 also provides that an entity can make an entity-wide accounting policy election to either estimate the number of awards that are expected to vest

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(current GAAP) or account for forfeitures when they occur. ASU 2016-09 changes the threshold to qualify for equity classification (rather than as a liability) to permit withholding up to the maximum statutory tax rates (rather than the minimum as was previously the case) in the applicable jurisdictions. ASU 2016-09 was effective on January 1, 2017 and did not have a significant impact on our financial statements.

ASU No. 2016-13, Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, requires the measurement of all expected credit losses for financial assets held at the reporting date based on historical experience, current conditions, and reasonable and supportable forecasts and requires enhanced disclosures related to the significant estimates and judgments used in estimating credit losses, as well as the credit quality and underwriting standards of an organization’s portfolio. In addition, ASU 2016-13 amends the accounting for credit losses on available-for-sale debt securities and purchased financial assets with credit deterioration. ASU 2016-13 will be effective on January 1, 2020. We are currently evaluating the potential impact of ASU 2016-13 on our financial statements.

ASU 2016-15, Statement of Cash Flows (Topic 230) - Classification of Certain Cash Receipts and Cash Payments provides guidance related to certain cash flow issues in order to reduce the current and potential future diversity in practice. ASU 2016-15 will be effective for us on January 1, 2018 and is not expected to have a significant impact on our financial statements.

ASU 2016‑16, Intra-Entity Transfers of Assets Other Than Inventory requires an entity to recognize the income tax consequences of intra-entity transfers of assets other than inventory at the time that the transfer occurs. Current guidance does not require recognition of tax consequences until the asset is eventually sold to a third party. ASU 2016-16 is effective for fiscal years, and interim periods within, beginning after December 15, 2017, with early adoption permitted as of the first interim period presented in a year. We are evaluating the impact of the adoption of ASU 2016‑16 on January 1, 2018 to our consolidated financial statements.

ASU No. 2017-01, Business Combinations (Topic 805): Clarifying the Definition of a Business clarifies the definition of a business with the objective of adding guidance to assist entities with evaluating whether transactions should be accounted for as acquisitions (or disposals) of assets or businesses. Under the current implementation guidance in Topic 805, there are three elements of a business-inputs, processes, and outputs. While an integrated set of assets and activities (collectively referred to as a “set”) that is a business usually has outputs, outputs are not required to be present. In addition, all the inputs and processes that a seller uses in operating a set are not required if market participants can acquire the set and continue to produce outputs. The amendments in this ASU provide a screen to determine when a set is not a business. If the screen is not met, the amendments (1) require that to be considered a business, a set must include, at a minimum, an input and a substantive process that together significantly contribute to the ability to create output and (2) remove the evaluation of whether a market participant could replace missing elements. The ASU provides a framework to assist entities in evaluating whether both an input and a substantive process are present. The amendments in this ASU are effective for annual periods beginning after December 15, 2017, including interim periods within those annual periods. The amendments in this ASU should be applied prospectively on or after the effective date. No disclosures are required at transition. We do not expect the adoption of ASU 2017-01 to have a material impact on our consolidated financial statements.

ASU No. 2017-04, Intangibles - Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment simplifies how an entity is required to test goodwill for impairment by eliminating Step 2 from the goodwill impairment test. Step 2 measures a goodwill impairment loss by comparing the implied fair value of a reporting unit’s goodwill with the carrying amount of that goodwill. Instead, under the amendments in this ASU, an entity should perform its annual, or interim, goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount. An entity still has the option to perform the qualitative assessment for a reporting unit to determine if the quantitative impairment test is necessary. Public business entities that are U.S. Securities and Exchange Commission (SEC) filers should adopt the amendments in this ASU for annual or interim goodwill impairment tests in fiscal years beginning after December 15, 2019. Early adoption is permitted for interim or annual goodwill impairment tests performed on testing dates after January 1, 2017. We do not expect the adoption of ASU 2017-04 to have a material impact on our consolidated financial statements.

ASU 2017-07, Compensation - Retirement Benefits (Topic 715): Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost requires an employer that offers defined benefit pension plans, other postretirement benefit plans, or other types of benefits accounted for under Topic 715 to report the service cost component of net periodic benefit cost in the same line item(s) as other compensation costs arising from services rendered during the period. The other components of net periodic benefit cost are required to be presented in the income statement separately from the service cost component. If the other components of net periodic benefit cost are not presented on a separate line or lines, the line item(s) used in the income statement must be disclosed. In addition, only the service cost component will be eligible for capitalization as part of an asset,

when applicable. The amendments are effective for annual periods beginning after December 15, 2017, including interim periods within those annual periods. Early adoption is permitted. We do not expect the adoption of ASU 2017-07 to have a material impact on our consolidated financial statements.

ASU 2017‐08, Receivables-Nonrefundable Fees and Other Costs (Subtopic 310‐20), Premium Amortization on Purchased Callable Debt Securities shortens the amortization period for certain callable debt securities purchased at a premium. Upon adoption of the standard, premiums on these qualifying callable debt securities will be amortized to the earliest call date. Discounts on purchased debt securities will continue to be accreted to maturity. The amendments are effective for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years. Early adoption is permitted, including adoption in an interim period. Upon transition, entities should apply the guidance on a modified retrospective basis, with a cumulative-effect adjustment to retained earnings as of the beginning of the period of adoption and provide the disclosures required for a change in accounting principle. We are currently assessing the impact that ASU 2017‐08 will have on our consolidated financial statements.

NOTE 3. FAIR VALUE MEASUREMENTS

Fair value is based upon the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. A fair value hierarchy is utilized to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The three levels of inputs used to measure fair value are as follows:

Level 1: Quoted prices (unadjusted) or 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 and other inputs that are observable or can be corroborated by observable market data.

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

Accordingly, securities available-for-sale and derivative financial instruments are recorded at fair value on a recurring basis. Additionally, from time to time, we may be required to record other assets at fair value on a nonrecurring basis, such as loans held for sale, impaired loans held for investment and property held for sale. These nonrecurring fair value adjustments typically involve application of lower of cost or market accounting or write-downs of individual assets.

Following is a description of valuation methodologies used for assets and liabilities recorded at fair value.

Available-for-Sale Securities: Investment securities available-for-sale are recorded at fair value on a recurring basis. Fair value measurement is based upon quoted prices, if available. If quoted prices are not available, fair values are measured using independent pricing models or other model-based valuation techniques such as the present value of future cash flows, adjusted for the security’s credit rating, prepayment assumptions and other factors such as credit loss assumptions. Level 1 securities include those traded on an active exchange, such as the New York Stock Exchange, U.S. Treasury securities that are traded by dealers or brokers in active over-the-counter markets and money market funds. Level 2 securities include mortgage-backed securities issued by government sponsored entities, municipal bonds and corporate debt securities.

Derivative Financial Instruments: Derivative financial instruments are recorded at fair value on a recurring basis. Fair value measurement is based on pricing models run by a third-party, utilizing observable market-based inputs. All future floating cash flows are projected and both floating and fixed cash flows are discounted to the valuation date. As a result, we classify interest rate swaps as Level 2.

Loans Held for Sale: Loans held for sale are carried at the lower of cost or market value. The fair value of loans held for sale is based on what secondary markets are currently offering for portfolios with similar characteristics. As such, we classify loans subject to nonrecurring fair value adjustments as Level 2.

Loans: We do not record loans at fair value on a recurring basis. However, from time to time, a loan is considered impaired and an allowance for loan loss is established. Loans for which it is probable that payment of interest and principal will not be made in accordance with the original contractual terms of the loan agreement are considered impaired. Once a loan is identified as individually impaired, management measures impairment using one of several methods, including collateral value,

liquidation value and discounted cash flows. Those impaired loans not requiring an allowance represent loans for which the discounted cash flows or collateral value exceeds the recorded investments in such loans. These loans are carried at recorded loan investment and therefore are not included in the following tables of loans measured at fair value. Impaired loans internally graded as substandard, doubtful, or loss are evaluated using the fair value of collateral method. All other impaired loans are measured for impairment using the discounted cash flows method. Impaired loans where an allowance is established based on the fair value of collateral are included in the fair value hierarchy. When the fair value of the collateral is based on an observable market price or a current appraised value, we record the impaired loan as nonrecurring Level 2. When a current appraised value is not available and there is no observable market price, we record the impaired loan as nonrecurring Level 3.

When impaired loans are deemed required to be included in the fair value hierarchy, management immediately begins the process of evaluating the estimated fair value of the underlying collateral to determine if a related specific allowance for loan losses or charge-off is necessary. Current appraisals are ordered once a loan is deemed impaired if the existing appraisal is more than twelve months old, or more frequently if there is known deterioration in value. For recently identified impaired loans, a current appraisal may not be available at the financial statement date. Until the current appraisal is obtained, the original appraised value is discounted, as appropriate, to compensate for the estimated depreciation in the value of the loan’s underlying collateral since the date of the original appraisal. Such discounts are generally estimated based upon management’s knowledge of sales of similar collateral within the applicable market area and its knowledge of other real estate market-related data as well as general economic trends. When a new appraisal is received (which is generally within 3 months of a loan being identified as impaired), management then re-evaluates the fair value of the collateral and adjusts any specific allocated allowance for loan losses, as appropriate. In addition, management also assigns a discount of 7–10% for the estimated costs to sell the collateral.

Property Held for Sale: Property held for sale consists of real estate acquired in foreclosure or other settlement of loans. Such assets are carried on the balance sheet at the lower of the investment in the real estate or its fair value less estimated selling costs. The fair value of foreclosed properties is determined on a nonrecurring basis generally utilizing current appraisals performed by an independent, licensed appraiser applying an income or market value approach using observable market data (Level 2). Updated appraisals of foreclosed properties are generally obtained if the existing appraisal is more than 18 months old or more frequently if there is a known deterioration in value. However, if a current appraisal is not available, the original appraised value is discounted, as appropriate, to compensate for the estimated depreciation in the value of the real estate since the date of its original appraisal. Such discounts are generally estimated based upon management’s knowledge of sales of similar property within the applicable market area and its knowledge of other real estate market-related data as well as general economic trends (Level 3). Upon foreclosure, any fair value adjustment is charged against the allowance for loan losses. Subsequent fair value adjustments are recorded in the period incurred and included in other noninterest expense in the consolidated statements of income.

Assets and Liabilities Recorded at Fair Value on a Recurring Basis

The table below presents the recorded amount of assets and liabilities measured at fair value on a recurring basis.



	Balance at		Fair Value Measurements Using:
Dollars in thousands	March 31, 2017		Level 1		Level 2		Level 3
Available for sale securities
U.S. Government sponsored agencies	$	14,564	$	—	$	14,564	$	—
Mortgage backed securities:
Government sponsored agencies	132,975		—		132,975		—
Nongovernment sponsored entities	3,998		—		3,998		—
State and political subdivisions	5,020		—		5,020		—
Corporate debt securities	18,309		—		18,309		—
Other equity securities	137		—		137		—
Tax-exempt state and political subdivisions	107,025		—		107,025		—
Total available for sale securities	$	282,028	$	—	$	282,028	$	—

Derivative financial assets
Interest rate swaps	$	257	$	—	$	257	$	—

Derivative financial liabilities
Interest rate swaps	$	3,823	$	—	$	3,823	$	—

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	Balance at		Fair Value Measurements Using:
Dollars in thousands	December 31, 2016		Level 1		Level 2		Level 3
Available for sale securities
U.S. Government sponsored agencies	$	15,174	$	—	$	15,174	$	—
Mortgage backed securities:
Government sponsored agencies	138,846		—		138,846		—
Nongovernment sponsored entities	4,653		—		4,653		—
Corporate debt securities	18,170		—		18,170		—
Other equity securities	137		—		137		—
Tax-exempt state and political subdivisions	89,562		—		89,562		—
Total available for sale securities	$	266,542	$	—	$	266,542	$	—

Derivative financial assets
Interest rate swaps	$	200	$	—	$	200	$	—

Derivative financial liabilities
Interest rate swaps	$	4,611	$	—	$	4,611	$	—

Assets and Liabilities Recorded at Fair Value on a Nonrecurring Basis

We may be required, from time to time, to measure certain assets at fair value on a nonrecurring basis in accordance with U.S. generally accepted accounting principles. These include assets that are measured at the lower of cost or market that were recognized at fair value below cost at the end of the period. Assets measured at fair value on a nonrecurring basis are included in the table below.



	Balance at		Fair Value Measurements Using:
Dollars in thousands	March 31, 2017		Level 1		Level 2		Level 3
Residential mortgage loans held for sale	$	172	$	—	$	172	$	—

Collateral-dependent impaired loans
Construction and development	$	945	$	—	$	945	$	—
Residential real estate	296		—		130		166
Total collateral-dependent impaired loans	$	1,241	$	—	$	1,075	$	166

Property held for sale
Commercial real estate	$	976	$	—	$	976	$	—
Construction and development	18,407		—		18,407		—
Residential real estate	518		—		518		—
Total property held for sale	$	19,901	$	—	$	19,901	$	—



	Balance at		Fair Value Measurements Using:
Dollars in thousands	December 31, 2016		Level 1		Level 2		Level 3
Residential mortgage loans held for sale	$	176	$	—	$	176	$	—

Collateral-dependent impaired loans
Construction and development	$	945	$	—	$	945	$	—
Residential real estate	130		—		130		—
Total collateral-dependent impaired loans	$	1,075	$	—	$	1,075	$	—

Property held for sale
Commercial real estate	$	976	$	—	$	976	$	—
Construction and development	19,327		—		19,327		—
Residential real estate	279		—		279		—
Total property held for sale	$	20,582	$	—	$	20,582	$	—

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The following summarizes the methods and significant assumptions we used in estimating our fair value disclosures for financial instruments, including those financial assets and financial liabilities that are not measured and reported at fair value on a recurring basis or non-recurring basis.

Cash and cash equivalents: The carrying values of cash and cash equivalents approximate their estimated fair value.

Securities: Estimated fair values of securities are based on quoted market prices, where available. If quoted market prices are not available, estimated fair values are based on quoted market prices of comparable securities.

Other investments: Other investments consists of FHLB stock, which does not have readily determinable fair values and is carried at cost and an investment in a limited partnership which owns interests in a diversified portfolio of qualified affordable housing projects which is reflected at its carrying value.

Loans held for sale: The carrying values of loans held for sale approximate their estimated fair values.

Loans: The estimated fair values for loans are computed based on scheduled future cash flows of principal and interest, discounted at interest rates currently offered for loans with similar terms to borrowers of similar credit quality. No prepayments of principal are assumed.

Accrued interest receivable and payable: The carrying values of accrued interest receivable and payable approximate their estimated fair values.

Deposits: The estimated fair values of demand deposits (i.e. non-interest bearing checking, NOW, money market and savings accounts) and other variable rate deposits approximate their carrying values. Fair values of fixed maturity deposits are estimated using a discounted cash flow methodology at rates currently offered for deposits with similar remaining maturities. Any intangible value of long-term relationships with depositors is not considered in estimating the fair values disclosed.

Short-term borrowings: The carrying values of short-term borrowings approximate their estimated fair values.

Long-term borrowings: The fair values of long-term borrowings are estimated by discounting scheduled future payments of principal and interest at current rates available on borrowings with similar terms.

Subordinated debentures owed to unconsolidated subsidiary trusts: The carrying values of subordinated debentures owed to unconsolidated subsidiary trusts approximate their estimated fair values.

Derivative financial instruments: The fair value of the interest rate swaps is valued using independent pricing models.

Off-balance sheet instruments: The fair values of commitments to extend credit and standby letters of credit are estimated using the fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the present credit standing of the counter parties. The amounts of fees currently charged on commitments and standby letters of credit are deemed insignificant and therefore, the estimated fair values and carrying values are not shown below.

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The carrying values and estimated fair values of our financial instruments are summarized below:



	March 31, 2017				Fair Value Measurements Using:
Dollars in thousands	Carrying Value		Estimated Fair Value		Level 1		Level 2		Level 3
Financial assets
Cash and cash equivalents	$	58,221	$	58,221	$	—	$	58,221	$	—
Securities available for sale	282,028		282,028		—		282,028		—
Other investments	13,328		13,328		—		13,328		—
Loans held for sale, net	172		172		—		172		—
Loans, net	1,292,915		1,301,676		—		1,075		1,300,601
Accrued interest receivable	6,024		6,024		—		6,024		—
Derivative financial assets	257		257		—		257		—
	$	1,652,945	$	1,661,706	$	—	$	361,105	$	1,300,601
Financial liabilities
Deposits	$	1,301,241	$	1,315,973	$	—	$	1,315,973	$	—
Short-term borrowings	228,868		228,868		—		228,868		—
Long-term borrowings	46,215		48,128		—		48,128		—
Subordinated debentures owed to unconsolidated subsidiary trusts	19,589		19,589		—		19,589		—
Accrued interest payable	733		733		—		733		—
Derivative financial liabilities	3,823		3,823		—		3,823		—
	$	1,600,469	$	1,617,114	$	—	$	1,617,114	$	—



	December 31, 2016				Fair Value Measurements Using:
Dollars in thousands	Carrying Value		Estimated Fair Value		Level 1		Level 2		Level 3
Financial assets
Cash and cash equivalents	$	46,616	$	46,616	$	—	$	46,616	$	—
Securities available for sale	266,542		266,542		—		266,542		—
Other investments	12,942		12,942		—		12,942		—
Loans held for sale, net	176		176		—		176		—
Loans, net	1,307,862		1,321,235		—		1,075		1,320,160
Accrued interest receivable	6,167		6,167		—		6,167		—
Derivative financial assets	200		200		—		200		—
	$	1,640,505	$	1,653,878	$	—	$	333,718	$	1,320,160
Financial liabilities
Deposits	$	1,295,519	$	1,309,820	$	—	$	1,309,820	$	—
Short-term borrowings	224,461		224,461		—		224,461		—
Long-term borrowings	46,670		49,013		—		49,013		—
Subordinated debentures owed to unconsolidated subsidiary trusts	19,589		19,589		—		19,589		—
Accrued interest payable	736		736		—		736		—
Derivative financial liabilities	4,611		4,611		—		4,611		—
	$	1,591,586	$	1,608,230	$	—	$	1,608,230	$	—

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NOTE 4. (LOSS)/EARNINGS PER SHARE

The computations of basic and diluted (loss)/earnings per share follow:



	For the Three Months Ended March 31,
	2017							2016
Dollars in thousands, except per share amounts	Income (Numerator)			Common Shares (Denominator)	Per Share			Income (Numerator)		Common Shares (Denominator)	Per Share
Net income (loss)	$	(1,616	)					$	4,062

Basic (loss)/earnings per share	$	(1,616	)	10,738,365	$	(0.15	)	$	4,062	10,671,856	$	0.38

Effect of dilutive securities:
Stock options				—						7,445
Stock appreciation rights (SARs)				—						—

Diluted (loss)/earnings per share	$	(1,616	)	10,738,365	$	(0.15	)	$	4,062	10,679,301	$	0.38

Stock option and stock appreciation right (SAR) grants are disregarded in this computation if they are determined to be anti-dilutive. Our anti-dilutive stock options for the quarters ended March 31, 2017 and March 31, 2016 were 49,140 shares and 57,000 shares respectively. Our anti-dilutive SARs for quarters ended March 31, 2017 and March 31, 2016 were 254,332 and 166,717, respectively.

NOTE 5. SECURITIES

The amortized cost, unrealized gains, unrealized losses and estimated fair values of securities at March 31, 2017, December 31, 2016, and March 31, 2016 are summarized as follows:



	March 31, 2017
	Amortized		Unrealized				Estimated
Dollars in thousands	Cost		Gains		Losses		Fair Value
Available for Sale
Taxable debt securities
U.S. Government and agencies and corporations	$	14,001	$	618	$	55	$	14,564
Residential mortgage-backed securities:
Government-sponsored agencies	132,920		1,332		1,277		132,975
Nongovernment-sponsored entities	3,972		42		16		3,998
State and political subdivisions
General obligations	785		—		6		779
Other revenues	4,217		31		7		4,241
Corporate debt securities	18,363		39		93		18,309
Total taxable debt securities	174,258		2,062		1,454		174,866
Tax-exempt debt securities
State and political subdivisions
General obligations	57,545		689		1,174		57,060
Water and sewer revenues	12,074		101		88		12,087
Lease revenues	9,011		20		167		8,864
Electric revenues	3,236		15		74		3,177
Transit revenues	3,404		29		41		3,392
Other revenues	22,624		154		333		22,445
Total tax-exempt debt securities	107,894		1,008		1,877		107,025
Equity securities	137		—		—		137
Total available for sale securities	$	282,289	$	3,070	$	3,331	$	282,028

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	December 31, 2016
	Amortized		Unrealized				Estimated
Dollars in thousands	Cost		Gains		Losses		Fair Value
Available for Sale
Taxable debt securities
U.S. Government and agencies and corporations	$	14,580	$	642	$	48	$	15,174
Residential mortgage-backed securities:
Government-sponsored agencies	138,451		1,554		1,159		138,846
Nongovernment-sponsored entities	4,631		44		22		4,653
Corporate debt securities	18,295		23		148		18,170
Total taxable debt securities	175,957		2,263		1,377		176,843
Tax-exempt debt securities
State and political subdivisions
General obligations	49,449		569		1,388		48,630
Water and sewer revenues	9,087		63		149		9,001
Lease revenues	9,037		7		201		8,843
Electric revenues	3,247		10		48		3,209
Sales tax revenues	2,870		—		34		2,836
Other revenues	17,321		93		371		17,043
Total tax-exempt debt securities	91,011		742		2,191		89,562
Equity securities	137		—		—		137
Total available for sale securities	$	267,105	$	3,005	$	3,568	$	266,542



	March 31, 2016
	Amortized		Unrealized				Estimated
Dollars in thousands	Cost		Gains		Losses		Fair Value
Available for Sale
Taxable debt securities:
U.S. Government and agencies and corporations	$	19,757	$	1,231	$	49	$	20,939
Residential mortgage-backed securities:
Government-sponsored agencies	151,895		2,594		596		153,893
Nongovernment-sponsored agencies	7,162		58		56		7,164
State and political subdivisions:
Water and sewer revenues	250		—		—		250
Corporate debt securities	14,539		38		662		13,915
Total taxable debt securities	193,603		3,921		1,363		196,161
Tax-exempt debt securities:
State and political subdivisions:
General obligations	40,103		1,926		45		41,984
Water and sewer revenues	7,547		216		—		7,763
Lease revenues	6,284		223		—		6,507
Special tax revenues	3,022		64		—		3,086
Sales tax revenues	2,899		72		—		2,971
Other revenues	12,588		381		3		12,966
Total tax-exempt debt securities	72,443		2,882		48		75,277
Equity securities	77		—		—		77
Total available for sale securities	$	266,123	$	6,803	$	1,411	$	271,515

The below information is relative to the five states where issuers with the highest volume of state and political subdivision securities held in our portfolio are located. We own no such securities of any single issuer which we deem to be a concentration.

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	March 31, 2017
	Amortized		Unrealized				Estimated
Dollars in thousands	Cost		Gains		Losses		Fair Value

Michigan	$	15,807	$	33	$	492	$	15,348
Texas	11,981		73		169		11,885
California	11,741		111		251		11,601
Illinois	10,073		231		97		10,207
West Virginia	8,352		27		52		8,327

Management performs pre-purchase and ongoing analysis to confirm that all investment securities meet applicable credit quality standards. Prior to July 1, 2013, we principally used credit ratings from Nationally Recognized Statistical Rating Organizations (“NRSROs”) to support analyses of our portfolio of securities issued by state and political subdivisions, as we generally do not purchase securities that are rated below the six highest NRSRO rating categories. Beginning July 1, 2013, in addition to considering a security’s NRSRO rating, we now also assess or confirm through an internal review of an issuer’s financial information and other applicable information that: 1) the issuer’s risk of default is low; 2) the characteristics of the issuer’s demographics and economic environment are satisfactory; and 3) the issuer’s budgetary position and stability of tax or other revenue sources are sound.

The maturities, amortized cost and estimated fair values of securities at March 31, 2017, are summarized as follows:



Dollars in thousands	Amortized Cost		Estimated Fair Value
Due in one year or less	$	50,098	$	50,397
Due from one to five years	89,853		90,143
Due from five to ten years	23,326		23,263
Due after ten years	118,875		118,088
Equity securities	137		137
	$	282,289	$	282,028

The proceeds from sales, calls and maturities of available for sale securities, including principal payments received on mortgage-backed obligations, and the related gross gains and losses realized, for the three months ended March 31, 2017 and 2016 are as follows:



		Proceeds from						Gross realized
Dollars in thousands		Sales		Calls and Maturities		Principal Payments		Gains		Losses
For the Three Months Ended March 31,
2017
	Securities available for sale	$	3,154	$	600	$	7,686	$	61	$	119

2016
	Securities available for sale	$	33,787	$	55	$	8,170	$	562	$	169

We held 121 available for sale securities having an unrealized loss at March 31, 2017. We do not intend to sell these securities, and it is more likely than not that we will not be required to sell these securities before recovery of their amortized cost bases. We believe that this decline in value is primarily attributable to the lack of market liquidity and to changes in market interest rates and not due to credit quality. Accordingly, no other-than-temporary impairment charge to earnings is warranted at this time.

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Provided below is a summary of securities available for sale which were in an unrealized loss position at March 31, 2017 and December 31, 2016.



	March 31, 2017
	Less than 12 months					12 months or more					Total
Dollars in thousands	Estimated Fair Value		Unrealized Loss			Estimated Fair Value		Unrealized Loss			Estimated Fair Value		Unrealized Loss
Temporarily impaired securities
Taxable debt securities
U.S. Government agencies and corporations	$	—	$	—		$	3,091	$	(55	)	$	3,091	$	(55	)
Residential mortgage-backed securities:
Government-sponsored agencies	59,339		(1,073		)	9,015		(204		)	68,354		(1,277		)
Nongovernment-sponsored entities	—		—			1,636		(16		)	1,636		(16		)
State and political subdivisions:
General obligations	779		(6		)	—		—			779		(6		)
Other revenues	2,196		(7		)	—		—			2,196		(7		)
Corporate debt securities	955		(45		)	1,563		(48		)	2,518		(93		)
Tax-exempt debt securities
State and political subdivisions:
General obligations	33,618		(1,174		)	—		—			33,618		(1,174		)
Water and sewer revenues	5,376		(88		)	—		—			5,376		(88		)
Lease revenues	4,390		(167		)	—		—			4,390		(167		)
Electric revenues	1,939		(74		)	—		—			1,939		(74		)
Transit revenues	1,118		(41		)	—		—			1,118		(41		)
Other revenues	11,394		(333		)	—		—			11,394		(333		)
Total temporarily impaired securities	121,104		(3,008		)	15,305		(323		)	136,409		(3,331		)
Total	$	121,104	$	(3,008	)	$	15,305	$	(323	)	$	136,409	$	(3,331	)



	December 31, 2016
	Less than 12 months					12 months or more					Total
Dollars in thousands	Estimated Fair Value		Unrealized Loss			Estimated Fair Value		Unrealized Loss			Estimated Fair Value		Unrealized Loss
Temporarily impaired securities
Taxable debt securities
U.S. Government agencies and corporations	$	763	$	(5	)	$	2,575	$	(43	)	$	3,338	$	(48	)
Residential mortgage-backed securities:
Government-sponsored agencies	55,388		(985		)	8,389		(174		)	63,777		(1,159		)
Nongovernment-sponsored entities	97		—			3,013		(22		)	3,110		(22		)
Corporate debt securities	968		(31		)	3,136		(117		)	4,104		(148		)
Tax-exempt debt securities
State and political subdivisions:
General obligations	33,115		(1,388		)	—		—			33,115		(1,388		)
Water and sewer revenues	4,761		(149		)	—		—			4,761		(149		)
Lease revenues	7,011		(201		)	—		—			7,011		(201		)
Electric revenues	1,973		(48		)	—		—			1,973		(48		)
Sales tax revenues	2,836		(34		)	—		—			2,836		(34		)
Other revenues	8,445		(371		)	—		—			8,445		(371		)
Total temporarily impaired securities	115,357		(3,212		)	17,113		(356		)	132,470		(3,568		)
Total	$	115,357	$	(3,212	)	$	17,113	$	(356	)	$	132,470	$	(3,568	)

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NOTE 6. LOANS

Loans are summarized as follows:



Dollars in thousands	March 31, 2017		December 31, 2016		March 31, 2016
Commercial	$	134,808	$	119,088	$	101,742
Commercial real estate
Owner-occupied	217,733		203,047		202,680
Non-owner occupied	401,795		381,921		353,351
Construction and development
Land and land development	68,079		72,042		66,483
Construction	16,511		16,584		7,997
Residential real estate
Non-jumbo	266,140		265,641		221,368
Jumbo	60,780		65,628		50,057
Home equity	75,299		74,596		74,097
Mortgage warehouse lines	30,217		85,966		—
Consumer	24,440		25,534		19,095
Other	8,831		9,489		11,235
Total loans, net of unearned fees	1,304,633		1,319,536		1,108,105
Less allowance for loan losses	11,718		11,674		11,315
Loans, net	$	1,292,915	$	1,307,862	$	1,096,790

The outstanding balance and the recorded investment of acquired loans included in the consolidated balance sheet at March 31, 2017 are as follows:



	Acquired Loans
Dollars in thousands	Purchased Credit Impaired		Purchased Performing		Total
Outstanding balance	$	2,456	$	49,173	$	51,629

Recorded investment
Commercial	$	—	$	3,095	$	3,095
Commercial real estate
Owner-occupied	—		3,054		3,054
Non-owner occupied	—		1,118		1,118
Construction and development
Land and land development	—		3,608		3,608
Residential real estate
Non-jumbo	998		31,037		32,035
Jumbo	1,014		3,247		4,261
Consumer	—		3,708		3,708
Total recorded investment	$	2,012	$	48,867	$	50,879

The following table presents a summary of the change in the accretable yield of the PCI loan portfolio for the period from January 1, 2017 to March 31, 2017:



Dollars in thousands
Accretable yield, January 1, 2017	$	290
Accretion	(31		)
Reclassification of nonaccretable difference due to improvement in expected cash flows	—
Other changes, net	(14		)
Accretable yield, March 31, 2017	$	245

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The following table presents the contractual aging of the recorded investment in past due loans by class as of March 31, 2017 and 2016 and December 31, 2016.



	At March 31, 2017
	Past Due										> 90 days and Accruing
Dollars in thousands	30-59 days		60-89 days		> 90 days		Total		Current		> 90 days and Accruing
Commercial	$	5	$	157	$	55	$	217	$	134,591	$	—
Commercial real estate
Owner-occupied	162		2,298		577		3,037		214,696		—
Non-owner occupied	298		—		—		298		401,497		—
Construction and development
Land and land development	252		38		3,741		4,031		64,048		—
Construction	—		—		—		—		16,511		—
Residential mortgage
Non-jumbo	2,554		926		3,140		6,620		259,520		—
Jumbo	—		—		—		—		60,780		—
Home equity	108		—		379		487		74,812		—
Mortgage warehouse lines	—		—		—		—		30,217		—
Consumer	158		14		161		333		24,107		68
Other	—		—		—		—		8,831		—
Total	$	3,537	$	3,433	$	8,053	$	15,023	$	1,289,610	$	68



	At December 31, 2016
	Past Due										> 90 days and Accruing
Dollars in thousands	30-59 days		60-89 days		> 90 days		Total		Current		> 90 days and Accruing
Commercial	$	90	$	86	$	165	$	341	$	118,747	$	—
Commercial real estate
Owner-occupied	93		—		509		602		202,445		—
Non-owner occupied	340		—		65		405		381,516		—
Construction and development
Land and land development	423		129		3,852		4,404		67,638		—
Construction	—		—		—		—		16,584		—
Residential mortgage
Non-jumbo	4,297		1,889		3,287		9,473		256,168		—
Jumbo	—		—		—		—		65,628		—
Home equity	—		302		57		359		74,237		—
Mortgage warehouse lines	—		—		—		—		85,966		—
Consumer	308		84		150		542		24,992		—
Other	—		—		—		—		9,489		—
Total	$	5,551	$	2,490	$	8,085	$	16,126	$	1,303,410	$	—

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	At March 31, 2016
	Past Due										> 90 days and Accruing
Dollars in thousands	30-59 days		60-89 days		> 90 days		Total		Current		> 90 days and Accruing
Commercial	$	39	$	468	$	179	$	686	$	101,056	$	—
Commercial real estate
Owner-occupied	272		497		822		1,591		201,089		—
Non-owner occupied	153		—		749		902		352,449		—
Construction and development
Land and land development	178		41		4,739		4,958		61,525		—
Construction	—		—		—		—		7,997		—
Residential mortgage
Non-jumbo	2,555		832		1,906		5,293		216,075		—
Jumbo	—		—		—		—		50,057		—
Home equity	—		453		71		524		73,573		—
Consumer	70		21		117		208		18,887		—
Other	—		—		—		—		11,235		—
Total	$	3,267	$	2,312	$	8,583	$	14,162	$	1,093,943	$	—

Nonaccrual loans: The following table presents the nonaccrual loans included in the net balance of loans at March 31, 2017, December 31, 2016 and March 31, 2016.



	March 31,				December 31,
Dollars in thousands	2017		2016		2016
Commercial	$	226	$	430	$	298
Commercial real estate
Owner-occupied	577		822		509
Non-owner occupied	4,157		5,318		4,336
Construction and development
Land & land development	3,936		5,467		4,465
Construction	—		—		—
Residential mortgage
Non-jumbo	5,343		3,023		4,621
Jumbo	—		—		—
Home equity	542		225		194
Mortgage warehouse lines	—		—		—
Consumer	94		121		151
Total	$	14,875	$	15,406	$	14,574

Impaired loans: Impaired loans include the following:

▪

Loans which we risk-rate (consisting of loan relationships having aggregate balances in excess of $2.5 million, or loans exceeding $500,000 and exhibiting credit weakness) through our normal loan review procedures and which, based on current information and events, it is probable that we will be unable to collect all amounts due in accordance with the original contractual terms of the loan agreement. Risk-rated loans with insignificant delays or insignificant short falls in the amount of payments expected to be collected are not considered to be impaired.


▪	Loans that have been modified in a troubled debt restructuring.

Both commercial and consumer loans are deemed impaired upon being contractually modified in a troubled debt restructuring. Troubled debt restructurings typically result from our loss mitigation activities and occur when we grant a concession to a borrower who is experiencing financial difficulty in order to minimize our economic loss and to avoid foreclosure or repossession of collateral. Once restructured, a loan is generally considered impaired until its maturity, regardless of whether the borrower performs under the modified terms. Although such a loan may be returned to accrual status if the criteria set forth in our accounting policy are met, the loan would continue to be evaluated for an asset-specific allowance for loan losses and we would continue to report the loan in the impaired loan table below.

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The following tables present loans individually evaluated for impairment at March 31, 2017, December 31, 2016 and March 31, 2016.



	March 31, 2017
Dollars in thousands	Recorded Investment		Unpaid Principal Balance		Related Allowance		Average Impaired Balance		Interest Income Recognized while impaired

Without a related allowance
Commercial	$	275	$	275	$	—	$	275	$	9
Commercial real estate
Owner-occupied	806		806		—		806		44
Non-owner occupied	9,678		9,679		—		9,679		271
Construction and development
Land & land development	4,884		4,885		—		4,885		81
Construction	—		—		—		—		—
Residential real estate
Non-jumbo	4,173		4,183		—		4,049		157
Jumbo	3,626		3,625		—		3,625		172
Home equity	524		523		—		523		24
Mortgage warehouse lines	—		—		—		—		—
Consumer	39		39		—		39		4
Total without a related allowance	$	24,005	$	24,015	$	—	$	23,881	$	762

With a related allowance
Commercial	$	—	$	—	$	—	$	—	$	—
Commercial real estate
Owner-occupied	6,847		6,847		375		6,847		268
Non-owner occupied	1,300		1,300		200		1,300		42
Construction and development
Land & land development	2,065		2,066		589		2,066		79
Construction	—		—		—		—		—
Residential real estate
Non-jumbo	2,298		2,300		337		2,041		96
Jumbo	852		852		25		852		43
Home equity	—		—		—		—		—
Mortgage warehouse lines	—		—		—		—		—
Consumer	—		—		—		—		—
Total with a related allowance	$	13,362	$	13,365	$	1,526	$	13,106	$	528

Total
Commercial	$	25,855	$	25,858	$	1,164	$	25,858	$	794
Residential real estate	11,473		11,483		362		11,090		492
Consumer	39		39		—		39		4
Total	$	37,367	$	37,380	$	1,526	$	36,987	$	1,290

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	December 31, 2016
Dollars in thousands	Recorded Investment		Unpaid Principal Balance		Related Allowance		Average Impaired Balance		Interest Income Recognized while impaired

Without a related allowance
Commercial	$	285	$	285	$	—	$	247	$	10
Commercial real estate
Owner-occupied	520		520		—		534		31
Non-owner occupied	10,203		10,205		—		10,675		294
Construction and development
Land & land development	5,227		5,227		—		5,270		80
Construction	—		—		—		—		—
Residential real estate
Non-jumbo	4,055		4,065		—		3,910		193
Jumbo	3,640		3,639		—		3,693		175
Home equity	524		523		—		523		22
Mortgage warehouse lines	—		—		—		—		—
Consumer	44		44		—		50		5
Total without a related allowance	$	24,498	$	24,508	$	—	$	24,902	$	810

With a related allowance
Commercial	$	—	$	—	$	—	$	—	$	—
Commercial real estate
Owner-occupied	6,864		6,864		347		6,879		269
Non-owner occupied	1,311		1,311		197		1,327		43
Construction and development
Land & land development	2,066		2,066		585		2,074		80
Construction	—		—		—		—		—
Residential real estate
Non-jumbo	2,055		2,057		251		1,851		78
Jumbo	853		853		24		862		44
Home equity	—		—		—		—		—
Mortgage warehouse lines	—		—		—		—		—
Consumer	—		—		—		—		—
Total with a related allowance	$	13,149	$	13,151	$	1,404	$	12,993	$	514

Total
Commercial	$	26,476	$	26,478	$	1,129	$	27,006	$	807
Residential real estate	11,127		11,137		275		10,839		512
Consumer	44		44		—		50		5
Total	$	37,647	$	37,659	$	1,404	$	37,895	$	1,324

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	March 31, 2016
Dollars in thousands	Recorded Investment		Unpaid Principal Balance		Related Allowance		Average Impaired Balance		Interest Income Recognized while impaired

Without a related allowance
Commercial	$	200	$	200	$	—	$	200	$	9
Commercial real estate
Owner-occupied	5,446		5,446		—		5,446		211
Non-owner occupied	11,352		11,353		—		11,353		299
Construction and development
Land & land development	7,451		7,452		—		7,452		163
Construction	—		—		—		—		—
Residential real estate
Non-jumbo	4,060		4,071		—		3,824		169
Jumbo	3,740		3,739		—		3,739		178
Home equity	710		709		—		709		32
Consumer	62		62		—		62		5
Total without a related allowance	$	33,021	$	33,032	$	—	$	32,785	$	1,066

With a related allowance
Commercial	$	—	$	—	$	—	$	—	$	—
Commercial real estate
Owner-occupied	2,929		2,929		89		2,929		112
Non-owner occupied	1,841		1,841		151		1,841		71
Construction and development
Land & land development	1,152		1,152		139		1,152		—
Construction	—		—		—		—		—
Residential real estate
Non-jumbo	2,337		2,337		187		2,337		112
Jumbo	867		868		31		868		43
Home equity	—		—		—		—		—
Consumer	—		—		—		—		—
Total with a related allowance	$	9,126	$	9,127	$	597	$	9,127	$	338

Total
Commercial	$	30,371	$	30,373	$	379	$	30,373	$	865
Residential real estate	11,714		11,724		218		11,477		534
Consumer	62		62		—		62		5
Total	$	42,147	$	42,159	$	597	$	41,912	$	1,404

Included in impaired loans are TDRs of $28.9 million, of which $28.2 million were current with respect to restructured contractual payments at March 31, 2017, and $28.6 million, of which $28.1 million were current with respect to restructured contractual payments at December 31, 2016. There were no commitments to lend additional funds under these restructurings at either balance sheet date.

The following table presents by class the TDRs that were restructured during the three months ended March 31, 2017 and March 31, 2016 . Generally, the modifications were extensions of term, modifying the payment terms from principal and interest to interest only for an extended period, or reduction in interest rate. All TDRs are evaluated individually for allowance for loan loss purposes.

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	For the Three Months Ended March 31, 2017					For the Three Months Ended March 31, 2016
Dollars in thousands	Number of Modifications	Pre-modification Recorded Investment		Post-modification Recorded Investment		Number of Modifications	Pre-modification Recorded Investment		Post-modification Recorded Investment
Commercial	—	$	—	$	—	—	$	—	$	—
Commercial real estate
Owner-occupied	—	—		—		—	—		—
Non-owner occupied	—	—		—		—	—		—
Construction and development
Land & land development	—	—		—		—	—		—
Construction	—	—		—		—	—		—
Residential real estate
Non-jumbo	4	880		880		1	250		250
Jumbo	—	—		—		—	—		—
Home equity	—	—		—		—	—		—
Mortgage warehouse lines	—	—		—		—	—		—
Consumer	—	—		—		—	—		—
Total	4	$	880	$	880	1	$	250	$	250

The following table presents defaults during the stated period of TDRs that were restructured during the past twelve months. For purposes of these tables, a default is considered as either the loan was past due 30 days or more at any time during the period, or the loan was fully or partially charged off during the period.



	For the Three Months Ended March 31, 2017
Dollars in thousands	Number of Defaults	Recorded Investment at Default Date
Commercial	—	$	—
Commercial real estate
Owner-occupied	—	—
Non-owner occupied	—	—
Construction and development
Land & land development	—	—
Construction	—	—
Residential real estate
Non-jumbo	1	319
Jumbo	—	—
Home equity	—	—
Mortgage warehouse lines	—	—
Consumer	—	—
Total	1	$	319

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The following table details the activity regarding TDRs by loan type for the three months and three months ended March 31, 2017, and the related allowance on TDRs.



For the Three Months Ended March 31, 2017
	Construction & Land Development								Commercial Real Estate						Residential Real Estate
Dollars in thousands	Land & Land Develop- ment			Construc- tion		Commer- cial			Owner Occupied			Non- Owner Occupied			Non- jumbo			Jumbo			Home Equity		Mortgage Warehouse Lines		Con- sumer			Other		Total
Troubled debt restructurings
Balance January 1, 2017	$	3,866		$	—	$	183		$	7,383		$	6,714		$	5,417		$	4,493		$	523	$	—	$	44		$	—	$	28,623
Additions	—			—		—			—			—			880			—			—		—		—			—		880
Charge-offs	—			—		—			—			(65		)	—			—			—		—		—			—		(65		)
Net (paydowns) advances	(352		)	—		(5		)	(28		)	(58		)	(83		)	(15		)	—		—		(4		)	—		(545		)
Transfer into foreclosed properties	—			—		—			—			—			—			—			—		—		—			—		—
Refinance out of TDR status	—			—		—			—			—			—			—			—		—		—			—		—
Balance, March 31, 2017	$	3,514		$	—	$	178		$	7,355		$	6,591		$	6,214		$	4,478		$	523	$	—	$	40		$	—	$	28,893

Allowance related to troubled debt restructurings	$	526		$	—	$	—		$	375		$	200		$	337		$	25		$	—	$	—	$	—		$	—	$	1,463

The following table presents the recorded investment in construction and development, commercial, and commercial real estate loans which are generally evaluated based upon our internal risk ratings.



Loan Risk Profile by Internal Risk Rating
	Construction and Development												Commercial Real Estate
	Land and Land Development				Construction				Commercial				Owner Occupied				Non-Owner Occupied				Mortgage Warehouse Lines
Dollars in thousands	3/31/2017		12/31/2016		3/31/2017		12/31/2016		3/31/2017		12/31/2016		3/31/2017		12/31/2016		3/31/2017		12/31/2016		3/31/2017		12/31/2016
Pass	$	60,870	$	64,144	$	16,511	$	16,584	$	133,106	$	117,214	$	212,724	$	201,113	$	396,073	$	375,181	$	30,217	$	85,966
OLEM (Special Mention)	2,002		2,097		—		—		1,341		1,471		3,152		567		1,199		1,381		—		—
Substandard	5,207		5,801		—		—		361		403		1,857		1,367		4,523		5,359		—		—
Doubtful	—		—		—		—		—		—		—		—		—		—		—		—
Loss	—		—		—		—		—		—		—		—		—		—		—		—
Total	$	68,079	$	72,042	$	16,511	$	16,584	$	134,808	$	119,088	$	217,733	$	203,047	$	401,795	$	381,921	$	30,217	$	85,966

The following table presents the recorded investment in consumer, residential real estate, and home equity loans, which are generally evaluated based on the aging status of the loans, which was previously presented, and payment activity.



	Performing						Nonperforming
Dollars in thousands	3/31/2017		12/31/2016		3/31/2016		3/31/2017		12/31/2016		3/31/2016
Residential real estate
Non-jumbo	$	260,690	$	261,020	$	218,345	$	5,450	$	4,621	$	3,023
Jumbo	60,780		65,628		50,057		—		—		—
Home Equity	74,757		74,402		73,872		542		194		225
Consumer	24,262		25,368		18,960		178		166		135
Other	8,831		9,489		11,235		—		—		—
Total	$	429,320	$	435,907	$	372,469	$	6,170	$	4,981	$	3,383

Loan commitments: ASC Topic 815, Derivatives and Hedging, requires that commitments to make mortgage loans should be accounted for as derivatives if the loans are to be held for sale, because the commitment represents a written option and accordingly is recorded at the fair value of the option liability.

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NOTE 7. ALLOWANCE FOR LOAN LOSSES

An analysis of the allowance for loan losses for the three month periods ended March 31, 2017 and 2016, and for the year ended December 31, 2016 is as follows:



	Three Months Ended March 31,				Year Ended December 31,
Dollars in thousands	2017		2016		2016
Balance, beginning of year	$	11,674	$	11,472	$	11,472
Charge-offs:
Commercial	2		260		489
Commercial real estate
Owner occupied	3		—		179
Non-owner occupied	65		101		124
Construction and development
Land and land development	3		—		127
Construction	—		—		9
Residential real estate
Non-jumbo	160		120		169
Jumbo	1		—		—
Home equity	—		11		175
Mortgage warehouse lines	—		—		—
Consumer	30		15		98
Other	50		53		185
Total	314		560		1,555
Recoveries:
Commercial	3		59		73
Commercial real estate
Owner occupied	8		8		31
Non-owner occupied	2		3		17
Construction and development
Land and land development	15		5		840
Construction	—		—		—
Real estate - mortgage
Non-jumbo	22		36		136
Jumbo	—		—		6
Home equity	—		1		3
Mortgage warehouse lines	—		—		—
Consumer	18		15		76
Other	40		26		75
Total	108		153		1,257
Net charge-offs	206		407		298
Provision for loan losses	250		250		500
Balance, end of period	$	11,718	$	11,315	$	11,674

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Activity in the allowance for loan losses by loan class during the first three months of 2017 is as follows:



	Allowance for loan losses												Allowance related to:								Loans
	Beginning Balance		Charge- offs			Recoveries		Provision			Ending Balance		Loans individua- lly evaluated for impairm- ent		Loans collective- ly evaluated for impairm- ent		Loans acquired with deteriora- ted credit quality		Total		Loans individua- lly evaluated for impairm- ent		Loans collectively evaluated for impairment		Loans acquired with deteriora- ted credit quality		Total
Commercial	$	934	$	(2	)	$	3	$	(117	)	$	818	$	—	$	818	$	—	$	818	$	275	$	134,533	$	—	$	134,808
Commercial real estate
Owner occupied	2,109		(3		)	8		565			2,679		375		2,304		—		2,679		7,653		210,080		—		217,733
Non-owner occupied	3,438		(65		)	2		1,026			4,401		200		4,201		—		4,401		10,978		390,817		—		401,795
Construction and development
Land and land development	2,263		(3		)	15		(1,567		)	708		589		119		—		708		6,949		61,130		—		68,079
Construction	24		—			—		(4		)	20		—		20		—		20		—		16,511		—		16,511
Residential real estate
Non-jumbo	2,174		(160		)	22		207			2,243		337		1,906		—		2,243		6,471		258,671		—		265,142
Jumbo	95		(1		)	—		76			170		25		145		—		170		4,478		55,288		—		59,766
Home equity	413		—			—		78			491		—		491		—		491		524		74,775		—		75,299
Mortgage warehouse lines	—		—			—		—			—		—		—		—		—		—		30,217		—		30,217
Consumer	121		(30		)	18		(29		)	80		—		80		—		80		39		24,401		—		24,440
Other	103		(50		)	40		15			108		—		108		—		108		—		8,831		—		8,831
PCI	—		—			—		—			—		—		—		—		—		—		—		2,012		2,012
Total	$	11,674	$	(314	)	$	108	$	250		$	11,718	$	1,526	$	10,192	$	—	$	11,718	$	37,367	$	1,265,254	$	2,012	$	1,304,633

NOTE 8. GOODWILL AND OTHER INTANGIBLE ASSETS

The following tables present our goodwill by reporting unit at March 31, 2017 and other intangible assets by reporting unit at March 31, 2017 and December 31, 2016.



	Goodwill Activity
Dollars in thousands	Community Banking		Insurance Services		Total
Balance, January 1, 2017	$	6,280	$	4,710	$	10,990
Reclassifications to goodwill	30		—		30
Balance, March 31, 2017	$	6,310	$	4,710	$	11,020



	Other Intangible Assets
	March 31, 2017						December 31, 2016
Dollars in thousands	Community Banking		Insurance Services		Total		Community Banking		Insurances Services		Total
Identifiable intangible assets
Gross carrying amount	$	1,612	$	3,000	$	4,612	$	1,610	$	3,000	$	4,610
Less: accumulated amortization	95		1,950		2,045		47		1,900		1,947
Net carrying amount	$	1,517	$	1,050	$	2,567	$	1,563	$	1,100	$	2,663

We recorded amortization expense of approximately $97,000 for the three months ended March 31, 2017 relative to our identifiable intangible assets.

Amortization relative to our identifiable intangible assets is expected to approximate the following:

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	Core Deposit		Customer
Dollars in thousands	Intangible		Intangible
2017	$	186	$	200
2018	175		200
2019	163		200
2020	151		200
2021	139		200

NOTE 9. DEPOSITS

The following is a summary of interest bearing deposits by type as of March 31, 2017 and 2016 and December 31, 2016:



Dollars in thousands	March 31, 2017		December 31, 2016		March 31, 2016
Demand deposits, interest bearing	$	275,678	$	262,591	$	210,878
Savings deposits	342,548		337,348		286,695
Time deposits	530,929		545,843		474,593
Total	$	1,149,155	$	1,145,782	$	972,166

Included in time deposits are deposits acquired through a third party (“brokered deposits”) totaling $200.3 million, $205.7 million and $138.8 million at March 31, 2017, December 31, 2016, and March 31, 2016, respectively.

A summary of the scheduled maturities for all time deposits as of March 31, 2017 is as follows:



Dollars in thousands
Nine month period ending December 31, 2017	$	211,129
Year ending December 31, 2018	129,067
Year ending December 31, 2019	73,182
Year ending December 31, 2020	47,752
Year ending December 31, 2021	37,456
Thereafter	32,343
Total	$	530,929

The following is a summary of the maturity distribution of all certificates of deposit in denominations of $100,000 or more as of March 31, 2017:



Dollars in thousands	Amount		Percent
Three months or less	$	76,654	19.1	%
Three through six months	42,176		10.5	%
Six through twelve months	90,662		22.6	%
Over twelve months	191,595		47.8	%
Total	$	401,087	100.00	%

NOTE 10. BORROWED FUNDS

Short-term borrowings: A summary of short-term borrowings is presented below:

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	Three Months Ended March 31,
	2017						2016
Dollars in thousands	Short-term FHLB Advances			Federal Funds Purchased and Lines of Credit			Short-term FHLB Advances			Federal Funds Purchased and Lines of Credit
Balance at March 31	$	225,400		$	3,468		$	150,000		$	3,448
Average balance outstanding for the period	193,481			3,465			165,102			3,446
Maximum balance outstanding at any month end during period	225,400			3,468			188,450			3,448
Weighted average interest rate for the period	1.02		%	1.00		%	0.58		%	0.50		%
Weighted average interest rate for balances
outstanding at March 31	0.84		%	0.78		%	0.57		%	0.50		%

Long-term borrowings: Our long-term borrowings of $46.2 million, $46.7 million and $75.1 million at March 31, 2017, December 31, 2016, and March 31, 2016 respectively, consisted primarily of advances from the Federal Home Loan Bank (“FHLB”) and structured repurchase agreements with unaffiliated institutions. All FHLB advances are collateralized primarily by similar amounts of residential mortgage loans, certain commercial loans, mortgage backed securities and securities of U. S. Government agencies and corporations.



	Balance at March 31,				Balance at December 31,
Dollars in thousands	2017		2016		2016
Long-term FHLB advances	$	764	$	846	$	767
Long-term repurchase agreements	45,000		72,000		45,000
Term loan	451		2,257		903
Total	$	46,215	$	75,103	$	46,670

The term loan at March 31, 2017 is secured by the common stock of our subsidiary bank and bears a variable interest rate of prime minus 50 basis points with a final maturity of 2017. Our long term FHLB borrowings and repurchase agreements bear both fixed and variable rates and mature in varying amounts through the year 2026.

The average interest rate paid on long-term borrowings for the three month period ended March 31, 2017 was 4.26% compared to 4.41% for the first three months of 2016.

Subordinated debentures owed to unconsolidated subsidiary trusts: We have three statutory business trusts that were formed for the purpose of issuing mandatorily redeemable securities (the “capital securities”) for which we are obligated to third party investors and investing the proceeds from the sale of the capital securities in our junior subordinated debentures (the “debentures”). The debentures held by the trusts are their sole assets. Our subordinated debentures totaled $19.6 million at March 31, 2017, December 31, 2016, and March 31, 2016.

In October 2002, we sponsored SFG Capital Trust I, in March 2004, we sponsored SFG Capital Trust II, and in December 2005, we sponsored SFG Capital Trust III, of which 100% of the common equity of each trust is owned by us. SFG Capital Trust I issued $3.5 million in capital securities and $109,000 in common securities and invested the proceeds in $3.61 million of debentures. SFG Capital Trust II issued $7.5 million in capital securities and $232,000 in common securities and invested the proceeds in $7.73 million of debentures. SFG Capital Trust III issued $8.0 million in capital securities and $248,000 in common securities and invested the proceeds in $8.25 million of debentures. Distributions on the capital securities issued by the trusts are payable quarterly at a variable interest rate equal to 3 month LIBOR plus 345basis points for SFG Capital Trust I, 3 month LIBOR plus 280basis points for SFG Capital Trust II, and 3 month LIBOR plus 145basis points for SFG Capital Trust III, and equals the interest rate earned on the debentures held by the trusts, and is recorded as interest expense by us. The capital securities are subject to mandatory redemption in whole or in part, upon repayment of the debentures. We have entered into agreements which, taken collectively, fully and unconditionally guarantee the capital securities subject to the terms of the guarantee. The debentures of each Capital Trust are redeemable by us quarterly.

The capital securities held by SFG Capital Trust I, SFG Capital Trust II, and SFG Capital Trust III qualify as Tier 1 capital under Federal Reserve Board guidelines. In accordance with these Guidelines, trust preferred securities generally are limited to 25% of Tier 1 capital elements, net of goodwill. The amount of trust preferred securities and certain other elements in excess of the limit can be included in Tier 2 capital.

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A summary of the maturities of all long-term borrowings and subordinated debentures for the next five years and thereafter is as follows:



Dollars in thousands		Long-term borrowings		Subordinated debentures owed to unconsolidated subsidiary trusts
Year Ending December 31,	2017	$	463	$	—
	2018	45,017		—
	2019	18		—
	2020	19		—
	2021	20		—
	Thereafter	678		19,589
		$	46,215	$	19,589

NOTE 11. SHARE-BASED COMPENSATION

The 2014 Long-Term Incentive Plan (“2014 LTIP”) was adopted by our shareholders in May 2014 to enhance the ability of the Company to attract and retain exceptionally qualified individuals to serve as key employees. The LTIP provides for the issuance of up to 500,000 shares of common stock, in the form of equity awards including stock options, restricted stock, restricted stock units, stock appreciation rights ("SARs"), performance units, other stock-based awards or any combination thereof, to our key employees.

Stock options awarded under the 2009 Officer Stock Option Plan and the 1998 Officer Stock Option Plan (collectively, the “Plans”) were not altered by the 2014 LTIP, and remain subject to the terms of the Plans. However, under the terms of the 2014 LTIP, all shares of common stock remaining issuable under the Plans at the time the 2014 LTIP was adopted ceased to be available for future issuance.

Under the 2014 LTIP and the Plans, stock options and SARs have generally been granted with an exercise price equal to the fair value of Summit's common stock on the grant date. We periodically grant employee stock options to individual employees. During first quarter 2017, we granted 53,309 SARs that become exercisable ratably over five years (20% per year) and expire ten years after the grant date. We granted 34,306 SARS that become exercisable ratably over seven years (14.29% per year) and expire ten years after the grant date. There were no grants of stock options or SARs during the first quarter 2016.

The fair value of our employee stock options and SARs granted under the Plans is estimated at the date of grant using the Black-Scholes option-pricing model. This model requires the input of highly subjective assumptions, changes to which can materially affect the fair value estimate. Additionally, there may be other factors that would otherwise have a significant effect on the value of employee stock options and SARs granted but are not considered by the model. Because our employee stock options and SARs have characteristics significantly different from those of traded options and because changes in the subjective input assumptions can materially affect the fair value estimate, in management’s opinion, the existing models do not necessarily provide a reliable single measure of the fair value of its employee stock options and SARs at the time of grant. The assumptions used to value SARs issued during 2017 were as follows:



	5-year vesting SARs		7-year vesting SARs
Risk-free interest rate	2.16	%	2.24	%
Expected dividend yield	1.45	%	1.45	%
Expected common stock volatility	60.05	%	59.60	%
Expected life	6.5 years		7 years

We recognize compensation expense based on the estimated number of stock awards expected to actually vest, exclusive of the awards expected to be forfeited. During the first three months of 2017 and 2016, our stock compensation expense was $84,000 and $50,000 and the related deferred taxes were approximately $31,000 and $19,000.

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A summary of activity in our Plans during the first three months of 2017 and 2016 is as follows:



	For the Three Months Ended March 31,
	2017				2016
	Options/SARs		Weighted-Average Exercise Price		Options/SARs	Weighted-Average Exercise Price
Outstanding, January 1	217,857		$	13.56	244,147	$	14.05
Granted	87,615		26.01		—	—
Exercised	(2,000	)	6.21		—	—
Forfeited	—		—		—	—
Expired	—		—		—	—
Outstanding, March 31	303,472		$	17.20	244,147	$	14.05

Other information regarding awards outstanding and exercisable at March 31, 2017 is as follows:



	Options/SARs Outstanding						Options/SARs Exercisable
Range of exercise price	# of awards	WAEP		Wted. Avg. Remaining Contractual Life (yrs)	Aggregate Intrinsic Value (in thousands)		# of awards	WAEP		Aggregate Intrinsic Value (in thousands)
$2.54 - $6.00	5,000	$	2.54	6.33	$	95	5,000	$	2.54	$	95
6.01 - 10.00	5,640	8.91		1.79	71		5,640	8.91		71
10.01 - 17.50	166,717	12.01		8.07	1,589		33,343	12.01		318
17.51 - 20.00	15,100	17.81		1.28	57		15,100	17.81		57
20.01 - 25.93	111,015	25.99		8.14	—		23,400	25.93		—
	303,472	17.20			$	1,812	82,483	16.23		$	541

NOTE 12. COMMITMENTS AND CONTINGENCIES

Off-Balance Sheet Arrangements

We are a party to certain financial instruments with off-balance-sheet risk in the normal course of business to meet the financing needs of our customers. These instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the statement of financial position. The contract amounts of these instruments reflect the extent of involvement that we have in this class of financial instruments.

Many of our lending relationships contain both funded and unfunded elements. The funded portion is reflected on our balance sheet. The unfunded portion of these commitments is not recorded on our balance sheet until a draw is made under the loan facility. Since many of the commitments to extend credit may expire without being drawn upon, the total commitment amounts do not necessarily represent future cash flow requirements.

A summary of the total unfunded, or off-balance sheet, credit extension commitments follows:



Dollars in thousands	March 31, 2017
Commitments to extend credit:
Revolving home equity and credit card lines	$	64,262
Construction loans	46,643
Other loans	113,035
Standby letters of credit	3,301
Total	$	227,241

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 generally have fixed expiration dates or other termination clauses and may require payment of a fee. We evaluate each customer's credit worthiness on a case-by-case basis. The amount of collateral obtained, if we deem necessary upon extension of credit, is based on our credit evaluation. Collateral held varies but may include accounts receivable, inventory, equipment or real estate.

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Standby letters of credit are conditional commitments issued to guarantee the performance of a customer to a third party. Standby letters of credit generally are contingent upon the failure of the customer to perform according to the terms of the underlying contract with the third party.

Our exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit is represented by the contractual amount of those instruments. We use the same credit policies in making commitments and conditional obligations as we do for on-balance sheet instruments.

Litigation

On May 13, 2014, the ResCap Liquidating Trust (“ResCap”), as successor to Residential Funding Company, LLC f/k/a Residential Funding Corporation (“RFC”), filed a complaint against Summit Financial Mortgage, LLC (“Summit Mortgage”), a former residential mortgage subsidiary of Summit whose operations were discontinued in 2007, in the United States Bankruptcy Court for the Southern District of New York and subsequently amended its complaint on July 25, 2014.

Furthermore, on January 23, 2017, ResCap, as successor to RFC (together with RFC, the "RFC Parties"), filed a complaint against Summit Community Bank, Inc., as successor to Shenandoah Valley Community Bank (“Summit”), in the United States District Court for the District of Minnesota (collectively, the “ResCap Litigation”). Additional information regarding the ResCap Litigation is included under the caption “Legal Contingencies” in Note 17 of our consolidated financial statements beginning on page 92 of our Form 10-K for the year ended December 31, 2016.

On April 24, 2017, Summit Community Bank, Inc. entered into a Settlement and Release Agreement (the “Settlement Agreement”) with the RFC parties with respect to the Rescap Litigation. Under the Settlement Agreement, Summit Community Bank agreed to pay $9.9 million to fully resolve all claims by the RFC Parties, and to avoid the further costs, disruption, and distraction of defending the Rescap Litigation. Summit recorded a charge to noninterest expense in its consolidated statement of income for the three months ended March 31, 2017 to recognize this settlement.

We are not a party to any other litigation except for matters that arise in the normal course of business. While it is impossible to ascertain the ultimate resolution or range of financial liability with respect to these contingent matters, in the opinion of management, the outcome of these matters will not have a significant adverse effect on the consolidated financial statements.

NOTE 13. REGULATORY MATTERS

We and our subsidiaries are subject to various regulatory capital requirements administered by the banking regulatory agencies. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, we and each of our subsidiaries must meet specific capital guidelines that involve quantitative measures of our and our subsidiaries’ assets, liabilities and certain off-balance sheet items as calculated under regulatory accounting practices. We and each of our subsidiaries’ capital amounts and classifications are also subject to qualitative judgments by the regulators about components, risk weightings and other factors.

Quantitative measures established by regulation to ensure capital adequacy require us and each of our subsidiaries to maintain minimum amounts and ratios of Common Equity Tier ("CET1") 1, Total capital and Tier I capital (as defined in the regulations) to risk-weighted assets (as defined), and of Tier I capital (as defined) to average assets (as defined). We believe, as of March 31, 2017, that we and each of our subsidiaries met all capital adequacy requirements to which they were subject.

The most recent notifications from the banking regulatory agencies categorized us and each of our subsidiaries as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized, we and each of our subsidiaries must maintain minimum CET1, Total risk-based, Tier I risk-based, and Tier I leverage ratios as set forth in the table below.

The Basel III Capital Rules became effective for us on January 1, 2015, with full compliance with all of the final rule's requirements phased in over a multi-year schedule, to be fully phased-in by January 1, 2019. As of March 31, 2017, our capital levels remained characterized as "well-capitalized" under the new rules. See the Capital Requirements section included in Part I Item 1 Business of our 2015 Annual Report on Form 10-K for further discussion of Basel III.

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The following table presents Summit's, as well as our subsidiary, Summit Community Bank's ("Summit Community"), actual and required minimum capital amounts and ratios as of March 31, 2017 and December 31, 2016 under the Basel III Capital Rules. The minimum required capital levels presented below reflect the minimum required capital levels (inclusive of the full capital conservation buffers) that will be effective as of January 1, 2019 when the Basel III Capital Rules have been fully phased-in. Capital levels required to be considered well capitalized are based upon prompt corrective action regulations, as amended to reflect the changes under the Basel III Capital Rules.



	Actual				Minimum Required Capital - Basel III Fully Phased-in				Minimum Required To Be Well Capitalized
Dollars in thousands	Amount		Ratio		Amount		Ratio		Amount		Ratio
As of March 31, 2017
CET1 (to risk weighted assets)
Summit	$	143,684	10.3	%	$	97,649	7.0	%	$	90,674	6.5	%
Summit Community	161,572		11.6	%	97,500		7.0	%	90,536		6.5	%
Tier I Capital (to risk weighted assets)
Summit	160,888		11.5	%	118,917		8.5	%	111,922		8.0	%
Summit Community	161,572		11.6	%	118,393		8.5	%	111,429		8.0	%
Total Capital (to risk weighted assets)
Summit	172,606		12.3	%	147,347		10.5	%	140,330		10.0	%
Summit Community	173,290		12.4	%	146,738		10.5	%	139,750		10.0	%
Tier I Capital (to average assets)
Summit	160,888		9.4	%	68,463		4.0	%	85,579		5.0	%
Summit Community	161,572		9.4	%	68,754		4.0	%	85,943		5.0	%



	Actual			Minimum Required Capital - Basel III Fully Phased-in			Minimum Required To Be Well Capitalized
Dollars in thousands	Amount	Ratio		Amount	Ratio		Amount	Ratio
As of December 31, 2016
CET1 (to risk weighted assets)
Summit	146,494	10.5	%	97,663	7.0	%	90,687	6.5	%
Summit Community	165,747	11.9	%	97,498	7.0	%	90,534	6.5	%
Tier I Capital (to risk weighted assets)
Summit	164,357	11.8	%	118,393	8.5	%	111,428	8.0	%
Summit Community	165,747	11.9	%	118,391	8.5	%	111,427	8.0	%
Total Capital (to risk weighted assets)
Summit	176,031	12.6	%	122,734	10.5	%	139,707	10.0	%
Summit Community	177,421	12.7	%	146,687	10.5	%	139,702	10.0	%
Tier I Capital (to average assets)
Summit	164,357	9.4	%	69,939	4.0	%	87,424	5.0	%
Summit Community	165,747	9.5	%	69,788	4.0	%	87,235	5.0	%

NOTE 14. SEGMENT INFORMATION

We operate two business segments: community banking and insurance & financial services. These segments are primarily identified by the products or services offered. The community banking segment consists of our full service banks which offer customers traditional banking products and services through various delivery channels. The insurance & financial services segment includes three insurance agency offices that sell insurance products. The accounting policies discussed throughout the notes to the consolidated financial statements apply to each of our business segments.

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Inter-segment revenue and expense consists of management fees allocated to the community banking and the insurance & financial services segments for all centralized functions that are performed by the parent, including overall direction in the areas of strategic planning, investment portfolio management, asset/liability management, financial reporting and other financial and administrative services. Information for each of our segments is included below:



	Three Months Ended March 31, 2017
Dollars in thousands	Community Banking			Insurance & Financial Services			Parent			Eliminations			Total
Net interest income	$	13,795		$	—		$	(165	)	$	—		$	13,630
Provision for loan losses	250			—			—			—			250
Net interest income after provision for loan losses	13,545			—			(165		)	—			13,380
Other income	1,507			1,072			491			(491		)	2,579
Other expenses	18,104			981			422			(491		)	19,016
Income (loss) before income taxes	(3,052		)	91			(96		)	—			(3,057		)
Income tax expense (benefit)	(1,450		)	41			(32		)	—			(1,441		)
Net income (loss)	$	(1,602	)	$	50		$	(64	)	$	—		$	(1,616	)
Inter-segment revenue (expense)	$	(451	)	$	(40	)	$	491		$	—		$	—
Average assets	$	1,750,059		$	6,174		$	180,393		$	(206,991	)	$	1,729,635
Capital expenditures	$	2,992		$	3		$	—		$	—		$	2,995



	Three Months Ended March 31, 2016
Dollars in thousands	Community Banking			Insurance & Financial Services			Parent			Eliminations			Total
Net interest income	$	11,938		$	—		$	(159	)	$	—		$	11,779
Provision for loan losses	250			—			—			—			250
Net interest income after provision for loan losses	11,688			—			(159		)	—			11,529
Other income	1,757			1,049			389			(389		)	2,806
Other expenses	7,274			1,055			614			(389		)	8,554
Income (loss) before income taxes	6,171			(6		)	(384		)	—			5,781
Income tax expense (benefit)	1,843			(2		)	(122		)	—			1,719
Net income (loss)	$	4,328		$	(4	)	$	(262	)	$	—		$	4,062
Inter-segment revenue (expense)	$	(361	)	$	(28	)	$	389		$	—		$	—
Average assets	$	1,526,926		$	5,866		$	171,028		$	(198,706	)	$	1,505,114
Capital expenditures	$	221		$	—		$	91		$	—		$	312

NOTE 15. DERIVATIVE FINANCIAL INSTRUMENTS

We have entered into three forward-starting, pay-fixed/receive LIBOR interest rate swaps. $40 million notional with an effective date of July 18, 2016, was designated as a cash flow hedge of $40 million of forecasted variable rate Federal Home Loan Bank advances. Under the terms of this swap we will pay a fixed rate of 2.98% for a 3 year period. $30 million notional with an effective date of April 18, 2016, was designated as a cash flow hedge of $30 million of forecasted variable rate Federal Home Loan Bank advances. Under the terms of this swap we will pay a fixed rate of 2.89% for a 4.5 year period. $40 million notional with an effective date of October 18, 2016, was designated as a cash flow hedge of $40 million of forecasted variable rate Federal Home Loan Bank advances. Under the terms of the swap we will pay a fixed rate of 2.84% for a 3 year period.

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We have entered into two pay fixed/receive variable interest rate swaps to hedge fair value variability of two commercial fixed rate loans with the same principal, amortization, and maturity terms of the underlying loans, which are designated as fair value hedges. Under the terms of a $9.95 million original notional swap with an effective date of January 15, 2015, we will pay a fixed rate of 4.33% for a 10 year period. Under the terms of a $11.3 million original notional swap with an effective date of December 18, 2015, we will pay a fixed rate of 4.30% for a 10 year period.

A summary of our derivative financial instruments as of March 31, 2017 and December 31, 2016 follows:



	March 31, 2017
			Derivative Fair Value				Net Ineffective
Dollars in thousands	Notional Amount		Asset		Liability		Hedge Gains/(Losses)
CASH FLOW HEDGES
Pay-fixed/receive-variable interest rate swaps
Short term borrowings	$	110,000	$	—	$	3,823	$	—

FAIR VALUE HEDGES
Pay-fixed/receive-variable interest rate swaps
Commercial real estate loans	$	20,374	$	257	$	—	$	—



	December 31, 2016
			Derivative Fair Value				Net Ineffective
Dollars in thousands	Notional Amount		Asset		Liability		Hedge Gains/(Losses)
CASH FLOW HEDGES
Pay-fixed/receive-variable interest rate swaps
Short term borrowings	$	110,000	$	—	$	4,611	$	—

FAIR VALUE HEDGES
Pay-fixed/receive-variable interest rate swaps
Commercial real estate loans	$	20,507	$	200	$	—	$	—

NOTE 16. ACQUISITIONS

On October 1, 2016, Summit Community Bank, Inc. ("SCB"), a wholly-owned subsidiary of Summit, acquired 100% of the ownership of Highland County Bankshares, Inc. ("HCB") and its subsidiary First and Citizens Bank, headquartered in Monterey, Virginia for cash consideration of $21.8 million. HCB's assets and liabilities approximated $123 million and $107 million, respectively, at September 30, 2016.

On April 1, 2017, SCB acquired First Century Bankshares, Inc. ("FCB") and its subsidiary First Century Bank, headquartered in Bluefield, West Virginia, for consideration of 1,537,912 shares of Summit common stock and $15.0 million cash. FCB's assets and liabilities approximated $405 million and $361 million, respectively, at March 31, 2017.

The following table estimates the pro forma revenue, net income and diluted earnings per share of the combined entities of Summit, HCB and FCB as if the acquisitions had taken place on January 1, 2016.

The pro forma revenue, net income and diluted earnings per share for the three months ended March 31, 2017 combines the historical results of FCB with Summit's consolidated statements of income and while certain adjustments were made for the estimated effect of certain fair value adjustments and other acquisition-related activity, they are not indicative of what would have occurred had the acquisition actually taken place on January 1, 2016. Acquisition related expenses of $109,000 were included in our actual consolidated statement of income for the three months ended March 31, 2017, but were excluded from the pro forma information listed below. Additionally, FCB incurred acquisition related expenses of $661,000 in the first three months of 2017 which were also excluded. We expect to achieve operational cost savings and other efficiencies as a result of the acquisition which are not reflected in the pro forma amounts below.

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The pro forma revenue, net income and diluted earnings per share for the three months ended March 31, 2016 combines the historical results of HCB and FCB with Summit's consolidated statements of income and while certain adjustments were made for the estimated effect of certain fair value adjustments and other acquisition-related activity, they are not indicative of what would have occurred had the acquisition actually taken place on January 1, 2016. Acquisition related expenses of $112,000 were included in our actual consolidated statement of income for the three months ended March 31, 2016, but were excluded from the pro forma information listed below. We expect to achieve operational cost savings and other efficiencies as a result of the acquisition which are not reflected in the pro forma amounts below.



	Summit, HCB & FCB Pro Forma
	For the Three Ended March 31,
Dollars in thousands, except per share amounts	2017			2016
Total revenues, net of interest expense	$	21,546		$	20,505
Net (loss) income	$	(693	)	$	5,254
Diluted (loss) earnings per share	$	(0.06	)	$	0.43

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NOTE 17. ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS)

The following is changes in accumulated other comprehensive income (loss) by component, net of tax, for the three months ending March 31, 2017 and 2016.



	March 31, 2017
Dollars in thousands	Gains and Losses on Cash Flow Hedges			Unrealized Gains (Losses) on Available-for-Sale Securities			Total
Beginning balance	$	(2,906	)	$	(356	)	$	(3,262	)
Other comprehensive income before reclassification	497			153			650
Amounts reclassified from accumulated other comprehensive income	—			37			37
Net current period other comprehensive income	497			190			687
Ending balance	$	(2,409	)	$	(166	)	$	(2,575	)



	March 31, 2016
Dollars in thousands	Gains and Losses on Cash Flow Hedges			Unrealized Gains (Losses) on Available-for-Sale Securities			Total
Beginning balance	$	(3,195	)	$	2,739		$	(456	)
Other comprehensive income (loss) before reclassification	(1,462		)	905			(557		)
Amounts reclassified from accumulated other comprehensive income	—			(248		)	(248		)
Net current period other comprehensive income (loss)	(1,462		)	657			(805		)
Ending balance	$	(4,657	)	$	3,396		$	(1,261	)

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

INTRODUCTION

The following discussion and analysis focuses on significant changes in our financial condition and results of operations of Summit Financial Group, Inc. (“Company” or “Summit”) and our operating segments, Summit Community Bank (“Summit Community”), and Summit Insurance Services, LLC for the periods indicated. See Note 14 of the accompanying consolidated financial statements for our segment information. This discussion and analysis should be read in conjunction with our 2016 audited financial statements and Annual Report on Form 10-K.

The Private Securities Litigation Act of 1995 indicates that the disclosure of forward-looking information is desirable for investors and encourages such disclosure by providing a safe harbor for forward-looking statements by us. Our following discussion and analysis of financial condition and results of operations contains certain forward-looking statements that involve risk and uncertainty. In order to comply with the terms of the safe harbor, we note that a variety of factors could cause our actual results and experience to differ materially from the anticipated results or other expectations expressed in those forward-looking statements.

OVERVIEW

Our primary source of income is net interest income from loans and deposits. Business volumes tend to be influenced by the overall economic factors including market interest rates, business spending, and consumer confidence, as well as competitive conditions within the marketplace.

Interest earning assets increased by 15.15% for the first three months in 2017 compared to the same period of 2016 while our net interest earnings on a tax equivalent basis increased 15.58%. Our tax equivalent net interest margin increased 4 basis points as our yield on interest earning assets increased 8 basis points while our cost of interest bearing funds increased 6 basis points.

We recorded a charge of $9.9 million, or $6.2 million after-tax, to noninterest expense for the quarter ended March 31, 2017 to recognize our full resolution of the ResCap Litigation which had been pending since 2014. As result of this charge, we reported a net loss for first quarter 2017.

BUSINESS SEGMENT RESULTS

We are organized and managed along two major business segments, as described in Note 14 of the accompanying consolidated financial statements. The results of each business segment are intended to reflect each segment as if it were a stand alone business. Net income by segment follows:



	Three Months Ended March 31,
Dollars in thousands	2017			2016
Community banking	$	(1,602	)	$	4,328
Insurance & financial services	50			(4		)
Parent	(64		)	(262		)
Consolidated net (loss) income	$	(1,616	)	$	4,062

CRITICAL ACCOUNTING POLICIES

Our consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States of America and follow general practices within the financial services industry. Application of these principles requires us to make estimates, assumptions and judgments that affect the amounts reported in our financial statements and accompanying notes. These estimates, assumptions and judgments are based on information available as of the date of the financial statements; accordingly, as this information changes, the financial statements could reflect different estimates, assumptions and judgments. Certain policies inherently have a greater reliance on the use of estimates, assumptions and judgments and as such have a greater possibility of producing results that could be materially different than originally reported.

Our most significant accounting policies are presented in the notes to the consolidated financial statements of our 2016 Annual Report on Form 10-K. These policies, along with the other disclosures presented in the financial statement notes and in this financial review, provide information on how significant assets and liabilities are valued in the financial statements and how those values are determined.

Based on the valuation techniques used and the sensitivity of financial statement amounts to the methods, assumptions and estimates underlying those amounts, we have identified the determination of the allowance for loan losses, the valuation of

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goodwill, fair value measurements, accounting for acquired loans and deferred tax assets to be the accounting areas that require the most subjective or complex judgments and as such could be most subject to revision as new information becomes available.

For additional information regarding critical accounting policies, refer to Critical Accounting Policies section in Management’s Discussion and Analysis of Financial Condition and Results of Operations included in the 2016 Form 10-K. There have been no significant changes in our application of critical accounting policies since December 31, 2016.

RESULTS OF OPERATIONS

Earnings Summary

Net loss for the quarter ended March 31, 2017 was $1.6 million, or ($0.15) per diluted share, compared to net income of $4.1 million, or $0.38 per diluted share for the same period of 2016. The 2017 loss was attributable to the accrual for a $9.9 million pre-tax litigation settlement. Otherwise, the loss for the quarter ended March 31, 2017, compared to earnings for the same period of 2016, were positively impacted by increased net interest income and increased gains on sales of foreclosed properties while being negatively impacted by smaller gains realized on sales of securities, higher write-downs of foreclosed properties, and higher personnel costs. Included in the loss for the three months ended March 31, 2017 was $58,000 in realized securities losses, $156,000 in gains on the sales of foreclosed properties, and $418,000 of charges resulting from the write-down of a portion of our foreclosed properties to fair value. Returns on average equity and assets for the first three months of 2017 were (4.11%) and (0.37%), respectively, compared with 11.10% and 1.08% for the same period of 2016.

On October 1, 2016, we completed our acquisition of Highland County Bankshares, Inc. (“HCB”) and its subsidiary, First & Citizens Bank, headquartered in Monterey, Virginia. Accordingly, HCB’s results of operations are included in our consolidated results of operation from the date of acquisition, and therefore our first quarter 2017 results reflect increased levels of average balances, income and expense as compared to first quarter 2016 results. At consummation, HCB had total assets of $122.8 million, loans of $60.8 million, and deposits of $106.9 million.

Net Interest Income

Net interest income is the principal component of our earnings and represents the difference between interest and fee income generated from earning assets and the interest expense paid on deposits and borrowed funds. Fluctuations in interest rates as well as changes in the volume and mix of earning assets and interest bearing liabilities can materially impact net interest income.

Q1 2017 compared to Q4 2016

Our net interest income on a fully tax-equivalent basis totaled $14.1 million for the three months ended March 31, 2017, or $207,000 or 1.5% more than the $13.9 million for the quarter ended December 31, 2016. Our tax-equivalent earnings on interest earning assets decreased $29,000, while the cost of interest bearing liabilities also decreased $236,000 (see Table II).

Average interest earning assets decreased 2.4% from $1.65 billion during the fourth quarter 2016 to $1.61 billion for the first three months of 2017, while average interest bearing liabilities decreased 2.4% from $1.44 billion at December 31, 2016 to $1.41 billion at March 31, 2017.

Our consolidated net interest margin increased to 3.54% for the three months ended March 31, 2017, compared to 3.34% for the fourth quarter 2016, as the yields on earning assets increased 18 basis points, while the cost of our interest bearing funds decreased by 1 basis point. The improved yields on earning assets in first quarter 2017 resulted primarily from paydowns of lower yielding mortgage warehouse lines of credit which were particularly replaced by higher yielding commercial and commercial real estate loans. Secondarily, loan yields were also positively impacted by recent increases in market interest rates.

Q1 2017 compared to Q1 2016

Our net interest income on a fully tax-equivalent basis totaled $14.1 million for the three months ended March 31, 2017, or $1.9 million or 15.6% more than the $12.2 million for the same period of 2016. Our tax-equivalent earnings on interest earning assets increased $2.6 million, while the cost of interest bearing liabilities also increased $658,000 (see Table II).

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Average interest earning assets increased 15.1% from $1.40 billion during the first three months of 2016 to $1.61 billion for the first three months of 2017, while average interest bearing liabilities increased 15.1% from $1.22 billion at March 31, 2016 to $1.41 billion at March 31, 2017.

Our consolidated net interest margin increased to 3.54% for the three months ended March 31, 2017, compared to 3.50% for the same period in 2016, as the yields on earning assets increased 8 basis points, while the cost of our interest bearing funds increased by 6 basis points.

Assuming no unanticipated changes in market interest rates, we expect growth in our net interest income to continue over the near term primarily due to growth in loans and the impact of the FCB acquisition, coupled with expected moderate improvement in net interest margin over the same period. We continue to monitor the net interest margin through net interest income simulation to minimize the potential for any significant negative impact. See the “Market Risk Management” section for further discussion of the impact changes in market interest rates could have on us. Further analysis of our yields on interest earning assets and interest bearing liabilities are presented in Tables I and II below.

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Table I - Average Balance Sheet and Net Interest Income Analysis

	For the Quarter Ended
	March 31, 2017							December 31, 2016							March 31, 2016
Dollars in thousands	Average Balance			Earnings/ Expense		Yield/ Rate		Average Balance			Earnings/ Expense		Yield/ Rate		Average Balance			Earnings/ Expense		Yield/ Rate
Interest earning assets
Loans, net of unearned fees (1)
Taxable	$	1,278,386		$	15,550	4.93	%	$	1,308,418		$	15,651	4.76	%	$	1,089,083		$	13,291	4.91	%
Tax-exempt (2)	13,292			186		5.68	%	13,845			195		5.60	%	15,824			220		5.59	%
Securities
Taxable	186,332			1,128		2.46	%	191,951			1,111		2.30	%	209,365			1,083		2.08	%
Tax-exempt (2)	95,300			1,112		4.73	%	89,745			1,039		4.61	%	79,314			974		4.94	%
Federal funds sold and interest bearing deposits with other banks	40,698			152		1.51	%	49,341			160		1.30	%	8,092			3		0.15	%
Total interest earning assets	1,614,008			18,128		4.55	%	1,653,300			18,156		4.37	%	1,401,678			15,571		4.47	%
Noninterest earning assets
Cash & due from banks	4,631							4,650							3,762
Premises and equipment	24,504							23,616							21,594
Property held for sale	24,258							96,165							25,465
Other assets	73,995							—							64,177
Allowance for loan losses	(11,761		)					(11,905		)					(11,562		)
Total assets	$	1,729,635						$	1,765,826						$	1,505,114
Interest bearing liabilities
Interest bearing demand deposits	$	262,849		$	148	0.23	%	$	256,307		$	128	0.20	%	209,733			83		0.16	%
Savings deposits	339,930			626		0.75	%	335,658			633		0.75	%	277,396			506		0.73	%
Time deposits	540,692			1,616		1.21	%	542,602			1,669		1.22	%	471,597			1,581		1.35	%
Short-term borrowings	196,946			994		2.05	%	221,200			954		1.72	%	168,548			240		0.57	%
Long-term borrowings and capital trust securities	66,146			660		4.05	%	85,699			896		4.16	%	95,052			976		4.13	%
Total interest bearing liabilities	1,406,563			4,044		1.17	%	1,441,466			4,280		1.18	%	1,222,326			3,386		1.11	%
Noninterest bearing liabilities and shareholders' equity
Demand deposits	148,286							150,318							120,464
Other liabilities	17,700							19,902							15,928
Total liabilities	1,572,549							1,611,686							1,358,718

Shareholders' equity - common	157,086							154,140							146,396
Total liabilities and shareholders' equity	$	1,729,635						$	1,765,826						$	1,505,114
Net interest earnings				$	14,084						$	13,876						$	12,185
Net yield on interest earning assets						3.54	%						3.34	%						3.50	%


(1)	- For purposes of this table, nonaccrual loans are included in average loan balances.


(2)	- Interest income on tax-exempt securities and loans has been adjusted assuming a Federal tax rate of 35% for all periods presented. The tax equivalent adjustment resulted in an increase in interest income of $454,000, $419,000 and $406,000 for the periods ended March 31, 2017, December 31, 2016 and March 31, 2016, respectively.

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Table II - Changes in Interest Margin Attributable to Rate and Volume

	For the Quarter Ended									For the Quarter Ended
	March 31, 2017 versus December 31, 2016									March 31, 2017 versus March 31, 2016
	Increase (Decrease) Due to Change in:									Increase (Decrease) Due to Change in:
Dollars in thousands	Volume			Rate			Net			Volume			Rate			Net
Interest earned on:
Loans
Taxable	$	(472	)	$	371		$	(101	)	$	2,195		$	63		$	2,258
Tax-exempt	(11		)	2			(9		)	(37		)	3			(34		)
Securities
Taxable	(39		)	56			17			(129		)	174			45
Tax-exempt	50			23			73			182			(44		)	138
Federal funds sold and interest bearing deposits with other banks	(32		)	23			(9		)	46			103			149
Total interest earned on interest earning assets	(504		)	475			(29		)	2,257			299			2,556

Interest paid on:
Interest bearing demand deposits	3			17			20			24			41			65
Savings deposits	—			(8		)	(8		)	111			8			119
Time deposits	(15		)	(38		)	(53		)	209			(174		)	35
Short-term borrowings	(117		)	158			41			46			709			755
Long-term borrowings and capital trust securities	(211		)	(25		)	(236		)	(296		)	(20		)	(316		)
Total interest paid on interest bearing liabilities	(340		)	104			(236		)	94			564			658

Net interest income	$	(164	)	$	371		$	207		$	2,163		$	(265	)	$	1,898

Noninterest Income

Total noninterest income decreased to $2.6 million for the first three months of 2017, compared to $2.8 million for the same period of 2016. Further detail regarding noninterest income is reflected in the following table.



Table III - Noninterest Income
	For the Quarter Ended March 31,
Dollars in thousands	2017			2016
Insurance commissions	$	968		$	924
Service fees related to deposit accounts	1,168			978
Realized securities (losses) gains	(58		)	393
Bank owned life insurance income	250			256
Other	251			255
Total	$	2,579		$	2,806

Noninterest Expense

Total noninterest expense increased 122.3% for the three months ended March 31, 2017, as compared to the same period in 2016, with increased gains on sales of foreclosed properties and lower professional fees having the largest positive impacts and the litigation settlement and higher salaries, commissions, and employee benefits having the largest negative impact. Table IV below shows the breakdown of the changes.

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Table IV - Noninterest Expense
	For the Quarter Ended March 31,
				Change
Dollars in thousands	2017			$			%		2016
Salaries, commissions, and employee benefits	$	5,187		$	505		10.8	%	$	4,682
Net occupancy expense	567			27			5.0	%	540
Equipment expense	735			79			12.0	%	656
Professional fees	285			(187		)	(39.6	)%	472
Advertising and public relations	108			9			9.1	%	99
Amortization of intangibles	97			47			94.0	%	50
FDIC premiums	210			(90		)	(30.0	)%	300
Merger expense	109			(3		)	(2.7	)%	112
Foreclosed properties expense	104			(20		)	(16.1	)%	124
(Gain) loss on sales of foreclosed properties	(156		)	(150		)	n/a		(6		)
Write-downs of foreclosed properties	418			309			283.5	%	109
Litigation settlement	9,900			9,900			n/a		—
Other	1,452			36			2.5	%	1,416
Total	$	19,016		$	10,462		122.3	%	$	8,554

Salaries, commissions, and employee benefits: These expenses are 10.8% higher in first three months of 2017 compared to first three months of 2016 due to an increase in number of employees, primarily those in conjunction with the HCB merger, and general merit raises.

Equipment: The increase in equipment expense is primarily increased depreciation and amortization related to various technological upgrades, both hardware and software, made during the past two years.

Amortization of intangibles: Amortization of intangibles increased during 2017 as a result of the additional amortization of the core deposit intangible associated with the HCB acquisition.

FDIC premiums: FDIC premiums decreased 30.0% during first three months of 2017 reflecting a revised methodology and lower rates for the premium calculation applicable during the second half of 2016. These lower effective premium rates are expected to continue.

Merger-related expense: These expenses are comprised of data processing conversion costs, employee severance costs, write-downs of equipment and legal fees related to the HCB and FCB acquisitions. Additional such costs will be incurred related to the FCB acquisition throughout the first half of 2017.

Foreclosed properties expense: Management expects foreclosed properties expense to trend lower than in recent years due to lower levels of foreclosed properties.

Write-downs of foreclosed properties: Management anticipates write-downs of foreclosed properties to their fair values to trend lower in 2017 than levels experienced in 2014 and 2015 due to the expected continued stabilization of real estate values in our primary market areas.

Income Taxes

Our income tax benefit for the three months ended March 31, 2017 totaled $1.4 million, while our income tax expense for the three months ended March 31, 2016 totaled $1.7 million. Our effective tax rate (income tax expense as a percentage of income before taxes) for the three months ended March 31, 2017 and 2016 were (47.1%) and 29.7%, respectively. A reconciliation between the statutory income tax rate and our effective income tax rate for the three months ended March 31, 2017 and 2016 is as follows:

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	For the Three Months Ended March 31,
	2017		2016
Dollars in thousands	Percent		Percent
Applicable statutory rate	(35.0	)	35.0
Increase (decrease) in rate resulting from:
Tax-exempt interest and dividends, net	(9.7	)	(4.8	)
State income taxes (benefit), net of Federal income tax benefit	(2.5	)	1.4
Other, net	0.1		(1.9	)
Effective income tax rate	(47.1	)	29.7

Credit Experience

As a result of a historically slow economic recovery, our foreclosed properties portfolio remains elevated relative to our peers. Prior elevated levels of nonperforming loans have returned to acceptable levels. Management expects net reductions in foreclosed properties to continue, although not as rapid as over the past two years.

For purposes of this discussion, we define nonperforming assets to include foreclosed properties, other repossessed assets, and nonperforming loans, which is comprised of loans 90 days or more past due and still accruing interest and nonaccrual loans. Performing TDRs are excluded from nonperforming loans.

The provision for loan losses represents charges to earnings necessary to maintain an adequate allowance for probable credit losses inherent in the loan portfolio. Our determination of the appropriate level of the allowance is based on an ongoing analysis of credit quality and loss potential in the loan portfolio, change in the composition and risk characteristics of the loan portfolio, and the anticipated influence of national and local economic conditions. The adequacy of the allowance for loan losses is reviewed quarterly and adjustments are made as considered necessary.

We recorded $250,000 provisions for loan losses for the first three months of both 2017 and 2016. These provisions are a result of lower average loan losses experienced over the past twelve quarters. Lower losses cause our historical charge-off factor of the quantitative reserve calculation to decline, thus requiring fewer quantitative reserves.

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As illustrated in Table V below, our non-performing assets have decreased since year end 2016.



Table V - Summary of Non-Performing Assets
	March 31,						December 31,
Dollars in thousands	2017			2016			2016
Accruing loans past due 90 days or more	$	68		$	—		$	—
Nonaccrual loans
Commercial	226			430			298
Commercial real estate	4,734			6,140			4,844
Commercial construction and development	—			—			—
Residential construction and development	3,936			5,467			4,465
Residential real estate	5,885			3,248			4,815
Consumer	94			121			152
Total nonaccrual loans	14,875			15,406			14,574
Foreclosed properties
Commercial	—			—			—
Commercial real estate	1,749			976			1,749
Commercial construction and development	8,276			8,717			8,610
Residential construction and development	12,635			13,808			13,265
Residential real estate	831			1,183			880
Total foreclosed properties	23,491			24,684			24,504
Repossessed assets	12			—			12
Total nonperforming assets	$	38,446		$	40,090		$	39,090
Total nonperforming loans as a percentage of total loans	1.15		%	1.39		%	1.10		%
Total nonperforming assets as a percentage of total assets	2.16		%	2.66		%	2.22		%
Allowance for loan losses as a percentage of nonperforming loans	78.42		%	73.45		%	80.10		%
Allowance for loan losses as a percentage of period end loans	0.90		%	1.02		%	0.88		%

The following table details the activity regarding our foreclosed properties for the three months ended March 31, 2017 and 2016.



Table VI - Foreclosed Property Activity
	For the Three Months Ended March 31,
Dollars in thousands	2017			2016
Beginning balance	$	24,504		$	25,567
Acquisitions	113			—
Improvements	219			329
Disposals	(927		)	(1,103		)
Writedowns to fair value	(418		)	(109		)
Balance March 31	$	23,491		$	24,684

Refer to Note 6 of the accompanying consolidated financial statements for information regarding our past due loans, impaired loans, nonaccrual loans, and troubled debt restructurings and to Note 7 for a summary of the methodology we employ on a quarterly basis to evaluate the overall adequacy of our allowance for loan losses.

Relationship between Allowance for Loan Losses, Net Charge-offs and Nonperforming Loans

In analyzing the relationship between the allowance for loan losses, net loan charge-offs and nonperforming loans, it is helpful to understand the process of how loans are treated as they deteriorate over time. Reserves for loans are established at origination through the quantitative and qualitative reserve process discussed above.

Charge-offs, if necessary, are typically recognized in a period after the reserves were established. If the previously established reserves exceed that needed to satisfactorily resolve the problem credit, a reduction in the overall level of the reserve could be

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recognized. In summary, if loan quality deteriorates, the typical credit sequence consists of periods of reserve building, followed by periods of higher net charge-offs.

Consumer loans are generally charged to the allowance for loan losses upon reaching specified stages of delinquency, in accordance with the Federal Financial Institutions Examination Council policy. For example, credit card loans are charged off by the end of the month in which the account becomes 180 days past due or within 60 days from receiving notification about a specified event (e.g., bankruptcy of the borrower), whichever is earlier. Residential mortgage loans are generally charged off to net realizable value no later than when the account becomes 180 days past due. Other consumer loans, if collateralized, are generally charged off to net realizable value at 120 days past due.

Commercial-related loans (which are risk-rated) are charged off to the allowance for loan losses when the loss has been confirmed. This determination includes many factors, including the prioritization of our claim in bankruptcy, expectations of the workout/restructuring of the loan and valuation of the borrower’s equity.

Substantially all of our nonperforming loans are secured by real estate. The majority of these loans were underwritten in accordance with our loan-to-value policy guidelines which range from 70-85% at the time of origination. The fair values of the underlying collateral value or the discounted cash flows remain in excess of the recorded investment in many of our nonperforming loans and therefore, no specific reserve allocation is required.

At March 31, 2017, December 31, 2016, and March 31, 2016, our allowance for loan losses totaled $11.7 million, or 0.90% of total loans, $11.7 million, or 0.88% of total loans and $11.3 million, or 1.02% of total loans, respectively, and is considered adequate to cover our estimate of probable credit losses inherent in our loan portfolio. The 2017 and late 2016 decline as a percentage of total loans is a result of lower average loan losses experienced over the past twelve quarters. Lower losses cause our historical charge-off factor of the quantitative reserve calculation to decline, thus requiring fewer quantitative reserves. Also contributing to this decline are purchased loans and mortgage warehouse lines of credit. Purchased loans are recorded on the balance sheet at estimated fair value on the date of acquisition without the carryover of the related allowance for loan losses. During 2016, we entered into a participation arrangement with a regional bank to fund residential mortgage warehouse lines of medium- and large-sized mortgage originators located throughout the United States. We have experienced no losses related to this lending segment, therefore, we analyzed the lead banks loss history and related provision and noted they had incurred no losses and therefore had no related allowance.

At March 31, 2017, December 31, 2016, and March 31, 2016, we had approximately $23.5 million, $24.5 million and $24.7 million, respectively, in other real estate owned which was obtained as the result of foreclosure proceedings. Although foreclosed property is recorded at fair value less estimated costs to sell, the prices ultimately realized upon their sale may or may not result in us recognizing loss.

FINANCIAL CONDITION

Our total assets were $1.78 billion at March 31, 2017, compared to $1.76 billion at December 31, 2016, representing a 10.1% increase. Table VIII below serves to illustrate significant changes in our financial position between December 31, 2016 and March 31, 2017.



Table VIII - Summary of Significant Changes in Financial Position
	Balance December 31,		Increase (Decrease)				Balance March 31,
Dollars in thousands	2016		Amount		Percentage		2017
Assets
Securities available for sale	$	266,542	15,486		5.8	%	$	282,028
Loans, net	1,307,862		(14,947	)	(1.1	)%	1,292,915
Liabilities
Deposits	$	1,295,519	5,722		0.4	%	$	1,301,241
Short-term borrowings	224,461		4,407		2.0	%	228,868
Long-term borrowings	46,670		(455	)	(1.0	)%	46,215
Other liabilities	17,048		9,862		57.8	%	26,910

Net loans declined 1.1% during the first three months of 2017 principally as a result of decreased balances on mortgage warehouse lines of credit. Excluding these lines, net loans increased 3.3% during the first three months of 2017, primarily commercial and commercial real estate loans.

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Deposits increased approximately $5.7 million during the first three months of 2017; checking deposits and savings deposits increased approximately $15.4 million and $5.2 million, respectively, while time deposits decreased approximately $14.9 million.

Other liabilities increased $9.9 million due to the accrual for the Rescap litigation settlement.

Refer to Notes 5, 6, 9, and 10 of the notes to the accompanying consolidated financial statements for additional information with regard to changes in the composition of our securities, loans, deposits and borrowings between March 31, 2017 and December 31, 2016.

LIQUIDITY AND CAPITAL RESOURCES

Liquidity reflects our ability to ensure the availability of adequate funds to meet loan commitments and deposit withdrawals, as well as provide for other transactional requirements. Liquidity is provided primarily by funds invested in cash and due from banks (net of float and reserves), Federal funds sold, non-pledged securities, and available lines of credit with the Federal Home Loan Bank of Pittsburgh (“FHLB”) and Federal Reserve Bank of Richmond, which totaled approximately $700 million or 39.43% of total consolidated assets at March 31, 2017.

Our liquidity strategy is to fund loan growth with deposits and other borrowed funds while maintaining an adequate level of short- and medium-term investments to meet normal daily loan and deposit activity. As a member of the FHLB, we have access to approximately $613 million. As of March 31, 2017 and December 31, 2016, these advances totaled approximately $226 million and $222 million, respectively. At March 31, 2017, we had additional borrowing capacity of $387 million through FHLB programs. We have established a line with the Federal Reserve Bank to be used as a contingency liquidity vehicle. The amount available on this line at March 31, 2017 was approximately $118 million, which is secured by a pledge of our consumer and commercial and industrial loan portfolios. We have a $6 million unsecured line of credit with a correspondent bank. Also, we classify all of our securities as available for sale to enable us to liquidate them if the need arises.

Liquidity risk represents the risk of loss due to the possibility that funds may not be available to satisfy current or future commitments based on external market issues, customer or creditor perception of financial strength, and events unrelated to Summit such as war, terrorism, or financial institution market specific issues. The Asset/Liability Management Committee (“ALCO”), comprised of members of senior management and certain members of the Board of Directors, oversees our liquidity risk management process. The ALCO develops and recommends policies and limits governing our liquidity to the Board of

Directors for approval with the objective of ensuring that we can obtain cost-effective funding to meet current and future obligations, as well as maintain sufficient levels of on-hand liquidity, under both normal and “stressed” circumstances.

We continuously monitor our liquidity position to ensure that day-to-day as well as anticipated funding needs are met. We are not aware of any trends, commitments, events or uncertainties that have resulted in or are reasonably likely to result in a material change to our liquidity.

One of our continuous goals is maintenance of a strong capital position. Through management of our capital resources, we seek to provide an attractive financial return to our shareholders while retaining sufficient capital to support future growth. Shareholders’ equity at March 31, 2017 totaled $153.6 million compared to $155.4 million at December 31, 2016.

Refer to Note 13 of the notes to the accompanying consolidated financial statements for additional information regarding regulatory restrictions on our capital as well as our subsidiaries’ capital.

CONTRACTUAL CASH OBLIGATIONS

During our normal course of business, we incur contractual cash obligations. The following table summarizes our contractual cash obligations at March 31, 2017.

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Table IX - Contractual Cash Obligations
Dollars in thousands	Long Term Debt		Capital Trust Securities		Operating Leases
2017	$	463	$	—	$	225
2018	45,017		—		182
2019	18		—		151
2020	19		—		22
2021	20		—		—
Thereafter	678		19,589		—
Total	$	46,215	$	19,589	$	580

OFF-BALANCE SHEET ARRANGEMENTS

We are involved with some off-balance sheet arrangements that have or are reasonably likely to have an effect on our financial condition, liquidity, or capital. These arrangements at March 31, 2017 are presented in the following table.



Table X - Off-Balance Sheet Arrangements	March 31,
Dollars in thousands	2017
Commitments to extend credit:
Revolving home equity and credit card lines	$	64,262
Construction loans	46,643
Other loans	113,035
Standby letters of credit	3,301
Total	$	227,241

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Item 3. Quantitative and Qualitative Disclosures about Market Risk

Market Risk Management

Market risk is the risk of loss arising from adverse changes in the fair value of financial instruments due to changes in interest rates, exchange rates and equity prices. Interest rate risk is our primary market risk and results from timing differences in the repricing of assets, liabilities and off-balance sheet instruments, changes in relationships between rate indices and the potential exercise of imbedded options. The principal objective of asset/liability management is to minimize interest rate risk and our actions in this regard are taken under the guidance of our Asset/Liability Management Committee (“ALCO”), which is comprised of members of senior management and members of the Board of Directors. The ALCO actively formulates the economic assumptions that we use in our financial planning and budgeting process and establishes policies which control and monitor our sources, uses and prices of funds.

Some amount of interest rate risk is inherent and appropriate to the banking business. Our net income is affected by changes in the absolute level of interest rates. Our interest rate risk position at present is slightly liability sensitive. The nature of our lending and funding activities tends to drive our interest rate risk position to being liability sensitive. That is, absent any changes in the volumes of our interest earning assets or interest bearing liabilities, liabilities are likely to reprice faster than assets, resulting in a decrease in net income in a rising rate environment. Net income would increase in a falling interest rate environment. Net income is also subject to changes in the shape of the yield curve. In general, a flattening yield curve would result in a decline in our earnings due to the compression of earning asset yields and funding rates, while a steepening would result in increased earnings as margins widen.

Several techniques are available to monitor and control the level of interest rate risk. We primarily use earnings simulations modeling to monitor interest rate risk. The earnings simulation model forecasts the effects on net interest income under a variety of interest rate scenarios that incorporate changes in the absolute level of interest rates and changes in the shape of the yield curve. Each increase or decrease in interest rates is assumed to gradually take place over the next 12 months, and then remain stable, except for the up 400 scenario, which assumes a gradual increase in rates over 24 months. Assumptions used to project yields and rates for new loans and deposits are derived from historical analysis. Securities portfolio maturities and prepayments are reinvested in like instruments. Mortgage loan prepayment assumptions are developed from industry estimates of prepayment speeds. Noncontractual deposit repricings are modeled on historical patterns.

The estimated sensitivity of our net interest income to changes in interest rates, as of March 31, 2017 is not materially different than that as of December 31, 2016 which is presented on page 45 of our Form 10-K for the year ended December 31, 2016.

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Item 4. Controls and Procedures

Our management, including the Chief Executive Officer and Chief Financial Officer, has conducted as of March 31, 2017, an evaluation of the effectiveness of disclosure controls and procedures as defined in Exchange Act Rule 13a-15(e). Based on that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the disclosure controls and procedures as of March 31, 2017 were effective. There were no changes in our internal control over financial reporting that occurred during the quarter ended March 31, 2017 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

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Part II. Other Information

Item 1. Legal Proceedings

Refer to Note 12 of the Notes to the Consolidated Financial Statements in Part I, Item 1 for information regarding legal proceedings not reportable under this Item.

Item 1A. Risk Factors

In addition to the other information set forth in this report, you should carefully consider the factors discussed in Part I, “Item 1A. Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2016.

Item 6. Exhibits



Exhibit 3.i	Amended and Restated Articles of Incorporation of Summit Financial Group, Inc.

Exhibit 3.ii	Articles of Amendment 2009

Exhibit 3.iii	Articles of Amendment 2011

Exhibit 3.iv	Amended and Restated By-Laws of Summit Financial Group, Inc.

Exhibit 11	Statement re: Computation of Earnings per Share – Information contained in Note 4 to the Consolidated Financial Statements on page 16 of this Quarterly Report is incorporated herein by reference.

Exhibit 31.1	Sarbanes-Oxley Act Section 302 Certification of Chief Executive Officer

Exhibit 31.2	Sarbanes-Oxley Act Section 302 Certification of Chief Financial Officer

Exhibit 32.1	Sarbanes-Oxley Act Section 906 Certification of Chief Executive Officer

Exhibit 32.2	Sarbanes-Oxley Act Section 906 Certification of Chief Financial Officer

Exhibit 101	Interactive Data File (XBRL)

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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.



		SUMMIT FINANCIAL GROUP, INC.
		(registrant)




		By:	/s/ H. Charles Maddy, III
			H. Charles Maddy, III,
			President and Chief Executive Officer



		By:	/s/ Robert S. Tissue
			Robert S. Tissue,
			Senior Vice President and Chief Financial Officer



		By:	/s/ Julie R. Markwood
			Julie R. Markwood,
			Vice President and Chief Accounting Officer


Date:	May 8, 2017

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EXHIBIT INDEX



Exhibit No.	Description	Page Number
(3)	Articles of Incorporation and By-laws:
	(i) Amended and Restated Articles of Incorporation of Summit Financial Group, Inc.	(a)
	(ii) Articles of Amendment 2009	(b)
	(iii) Articles of Amendment 2011	(c)
	(iv) Amended and Restated By-laws of Summit Financial Group, Inc.	(d)
11	Statement re: Computation of Earnings per Share	15

31.1	Sarbanes-Oxley Act Section 302 Certification of Chief Executive Officer

31.2	Sarbanes-Oxley Act Section 302 Certification of Chief Financial Officer

32.1*	Sarbanes-Oxley Act Section 906 Certification of Chief Executive Officer

32.2*	Sarbanes-Oxley Act Section 906 Certification of Chief Financial Officer
101**	Interactive data file (XBRL)

*Furnished, not filed.

** As provided in Rule 406T of Regulation S-T, this information is furnished and not filed for purposes of Sections 11 and 12 of the Securities Act of 1933 and Section 18 of the Securities Exchange Act of 1934.


(a)	Incorporated by reference to Exhibit 3.i of Summit Financial Group, Inc.’s filing on Form 10-Q dated March 31, 2006.


(b)	Incorporated by reference to Exhibit 3.1 of Summit Financial Group, Inc.’s filing on Form 8-K dated September 30, 2009.


(c)	Incorporated by reference to Exhibit 3.1 of Summit Financial Group, Inc.’s filing on Form 8-K dated November 3, 2011.


(d)	Incorporated by reference to Exhibit 3.2 of Summit Financial Group, Inc.’s filing on Form 10-Q dated June 30, 2006.

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